Author: Self-Control
Reviewer: Millisecond

  A financial crisis is a specter haunting every country with a market economy. Ever since people created financial systems, such crises have ranked among the most frightening of events. Each time one strikes, countless people can go from immense wealth to utter poverty overnight.

  The Great Depression triggered by the financial crisis of 1929–1932 even helped set the stage for the Second World War. A close look at the crises of financial history reveals just how many tricks the great financiers of the past employed, and how irrational people could become when profits beckoned.

  We will trace this frightening phenomenon through history, beginning with the first crisis of the modern financial system: the tulip bubble.

  In the seventeenth century, the Netherlands became known as the “carrier of the seas,” thanks to superb shipbuilding, a sterling commercial reputation, a fearless streak (even with pirates everywhere, Dutch merchant ships carried no weapons so that they could load more cargo ∑(￣□￣;)), and the backing of a powerful financial system at home. That system allowed money for overseas voyages to be raised from across the population, while also letting ordinary people share in the enormous returns from maritime trade. In short, seafaring made the Dutch rich.

  Give people money and they are liable to start showing off. That was especially true in the seventeenth century, when capitalism was still developing and conspicuous consumption was in fashion. Rather than reinvest their earnings to make even more money, people bought luxuries to advertise their wealth. Against this backdrop, the tulip bubble quietly began to swell.

  Tulips are native to Asia Minor and were grown chiefly around what is now Turkey. They began spreading through Europe in the mid-sixteenth century, just as European aristocrats were competing to flaunt their wealth. Tulips quickly became fashionable objects that nobles displayed and exchanged among themselves.

  Tulips took off in the Netherlands around the turn of the seventeenth century. In 1593, Clusius, a professor of botany from Vienna, accepted an invitation from a Dutch university and brought several tulips with him. Their elegant appearance quickly won over the Dutch upper classes. Tulips were difficult to cultivate and slow to bloom, so prices soon rose. Even that, however, was nowhere near enough to drive the entire country wild.

  At this point, a group fostered by the Netherlands’ advanced financial system entered the scene. They would reappear in crisis after crisis and are still with us today: speculators. They quickly spotted the extraordinary profits tulips promised and began hoarding bulbs to sell at higher prices. That drove prices higher still. The tulip might as well have declared: “In my long life as a flower, I’ve learned one thing: there are limits to what a flower can do. So I reject my flowerhood, Dutchmen!”

  How high did tulip prices climb? In a single year, they rose by as much as 5,900 percent, a full 59-fold increase, even though they were expensive to begin with. The most costly variety, Semper Augustus, was worth as much as a carriage and several fine horses. Another force was driving all this: asset securitization. With too few tulips to go around, speculators went straight to nurseries and signed contracts with growers for bulbs that would mature in the future. They then sold those contracts on financial exchanges at still higher prices. This was an early form of the futures contract.

  Because these contracts could be traded, anyone could participate in the tulip market. The enormous returns from maritime trade had put money in people’s pockets and sold them on the promise of finance. They threw themselves headlong into the bubble forming around tulips. Dizzying profits drove people into a frenzy.

  “Oh, citizens, this is the price of frenzy.” —Rousseau. This was Rousseau’s taunt to the Dutch after the tulip bubble. The story goes that a chance event finally pricked the bubble. A sailor who had been away at sea knew nothing of the tulip craze at home. When his ship docked, he casually took a Semper Augustus bulb for which the shipowner had paid three thousand gold coins, mistook it for an onion, and ate it with his fish and seasonings.

  Furious, the captain took the sailor to court, but the case went nowhere. The incident nevertheless made people reconsider what a tulip was actually worth. It was a bucket of cold water over a feverish crowd. A small group began selling its tulip contracts; others sensed that something was wrong, and a mass sell-off quickly followed. Prices plummeted, and tulips became worthless overnight. Even an attempt to slow the collapse by buying contracts at 10 percent of their value proved futile. At last, the bubble that everyone had talked ever higher burst.

  Countless families saw their wealth vanish, and some were left with crushing debts. The crisis also sent the Dutch economy into sharp decline and weakened its shipbuilding industry. In the second half of the seventeenth century, England was therefore able to defeat the Netherlands with ease, cutting it off from the rewards of maritime trade.

  The tulip bubble was the first financial crisis of the modern era, and it left us plenty of lessons. Concepts such as herd behavior and the greater-fool theory are on full display. Financial crises will never disappear because they spring from the human hunger for wealth. Before long, the same phenomenon would reappear in France wearing a different disguise.

Sources

  • Half-Hour Comics on Economics: Financial Crises, Chen Lei and the Half-Hour Comics team
  • “The Tulip Bubble from Beginning to End,” China Urban and Rural Financial News
  • “The Tulip Financial Bubble,” Zhang Ning
  • Images sourced from the internet