Financial Crisis of 1825

* The author acknowledges withgratitude the support of theUniversity of Illinois during hissabbatical leave of 1996-97 as well as the GuggenheimFoundation and the BritishFulbright Commission, forresearch efforts on this project.This version of the paper hasbenefited not only from thecomments of the discussant,Michael Bordo, and participantsat the conference, but alsofrom comments and sugges-tions made during seminars atthe University of Illinois (espe-cially Lee Alston and SalimRashid), Indiana University(especially George vonFurstenberg and ElmusWicker), and the ResearchTriangle in North Carolina(especially Douglas Fisher,Judith Klein, and GianniToniolo). Remaining shortcom-ings and misinterpretations ofthe facts are, of course, thesole responsibility of the author.

FEDERAL RESERVE BANK OF ST. LOU IS

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The FinancialCrisis of 1825and the Restruc-turing of theBritish FinancialSystem

Larry Neal

Today’s financial press reports regularlyon evidence of systemic risks, financialfragility, banking failures, stock market

collapses, and exchange rate attacks through-out the global financial network of the1990s. To a financial historian, thesereports simply reprise similar concerns andrisks in numerous episodes of financialinnovation and regime change in the past.True, the 1990s have the peculiar feature ofemerging markets among newly indepen-dent states that are trying to market eithertheir government debt or securities issuedby their former state enterprises. But thissituation does not eliminate the relevanceof past episodes; it merely limits it to fewerperiods. The period after World War I hadmany of the same problems, for example,although policymakers then subsumedthem largely under the issues of whether,when, and how to return to the pre-wargold standard that had created a much morebenign financial system worldwide. Policy-makers of that time were much more inter-ested than their modern counterparts inexploring lessons from the past.

For example, William Acworth’s classicstudy, Financial Reconstruction in England,1815-1822, was published in 1925. Heargued convincingly that the severe defla-tionary policy followed by the governmentand the Bank of England after peace in

1815 had prolonged and deepened unnec-essarily the economic troubles accompany-ing the transition from a wartime to apeacetime economy. Nevertheless, theBritish government and the Bank of Eng-land pursued much the same strategy afterWorld War I, again taking six years after thepeace treaty to resume convertibility—andat the prewar standard. Again, monetaryease that followed resumption led to asurge of prosperity, speculative ventures inthe capital markets, and eventual collapseof the financial system. The difference wasthat in 1825-26, there was a systemic stop-page of the banking system, followed bywidespread bankruptcies and unemploy-ment, while in 1931 there was abandon-ment of the gold standard, followed byimperial preference and worldwide move-ments toward autarky. So much for thelessons of history!

As pessimistic as Acworth was in asses-sing the consequences of Britain’s first returnto the gold standard in 1821, the conse-quences of the ensuing monetary expansionand speculative boom that ended in thespectacular collapse at the end of 1825proved to be not so dire in the long run forthe British economy. The policy changesthat affected the monetary regime—theexchange rates, the structure of the bank-ing sector, the role of the Bank of Englandand the management of the government’sdebt—while minor in each particular andslow to take effect, were cumulativelyeffective in laying the basis for Britain’sdominance in the world financial systemuntil the outbreak of World War I. Thisoutcome contrasts sufficiently with thedisappointing pattern of British economicprogress during the twentieth century afterboth World War I and World War II thatperhaps we should take a fresh look at theeconomic and financial transition after theNapoleonic Wars. What caused the prob-lems identified by Acworth that culmi-nated in the stock market crash of 1825and the English banking system’s failure to

Larry Neal is a professor of economics at the University of Illinois at Urbana-Champaign.*


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1 Note the emphasis on English,rather than British, institutions.The Scottish and Irish banksavoided the Panic of 1825almost entirely, a fact thatcaused much soul-searchingamong the English at the time.

2 Duffy (1985), ch. 1.

3 King (1936), ch. 2.

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withstand its impact? More important, whydid the British government’s relatively modestreforms prove to be so effective in the longrun? Perhaps we can glean more usefullessons for today’s policymakers than pre-vious historians have been able to provide.

The argument developed in this paperis that the common element in all theproblems of Britain’s first return to goldarose from the pressures of coping withvastly increased informational uncertain-ties within the existing structure of Eng-lish institutions.1 These problems startedwith the Treasury itself, confronted by thedifficulties of servicing the huge govern-ment debt accumulated during the Napole-onic Wars and deprived of its primarysource of revenue, the income tax. Theycontinued within the Bank of England,forced now to take on new responsibilitieswhile searching for new sources of revenueto replace its wartime profits. They werecompounded by the response of the Lon-don capital market, which produced abewildering array of new financial assets toits customers to replace the high-yieldinggovernment debt now being retired. Allthis left the London private banks andtheir corresponding country banks—aswell as their customers in agriculture,trade, and manufacturing—floundering inthe resulting confusion. The government’spiecemeal reforms, introduced during thecrisis of 1825 and its immediate aftermath,provided smoother patterns of tax collec-tions and interest disbursements, establishedBank of England branches throughout Eng-land, stimulated country bank competitionwith joint-stock companies outside of Lon-don, and eliminated the Bubble Act of 1720.Even the bankruptcy laws began to be rewrit-ten in 1831.2

These disparate reforms made margi-nal improvements in the efficiency ofinformation gathering and processing bythe government, the central bank, thebanking system, and the stock marketwhile preserving the separation of functionsamong them. Maintaining these “firewalls”among the types of institutions making upthe financial sector of the British economydiminished the immediate impact of the

reforms, but it enabled them to becomeincreasingly effective over time. True,crises continued to arise throughout therest of the century as the British economywas subjected to repeated shocks of wars,famines, frauds, and foreign defaults. Butthe evolving financial sector of the Britisheconomy surmounted each crisis withincreasing confidence, and all the whilethese firewalls were preserved. The firewallsmeant that relationships among financialintermediaries and financial markets had tobe maintained by short-term contracts in acompetitive market environment rather thanby regulations imposed by centralizedauthority with long-term rigidity.

The focal point for these new marketrelationships was the market for discountedcommercial bills that arose rapidly in impor-tance after the crisis of 1825.3 Once again,as in earlier crises and in those that were tofollow until World War I, the British finan-cial sector was able to find a market solutionto the problems created by its relatively inef-ficient and disparate financial institutions.In the longer run, the flexibility of responseprovided by the combination of markets andfinancial intermediaries coexisting in theBritish financial system enabled it to with-stand exogenous shocks and to financeexpansion of the real economy. To elucidateand elaborate this argument, I analyze, inturn, the shock to the financial system ofshifting from wartime to peacetime financein 1821, the financial crisis that occurred atthe end of 1825, the Bank of England’sefforts to pick up the pieces, and, finally,the rise of a market in discounted commer-cial bills that put things right again—forawhile. The lessons of each episode high-light the importance of appraising thefinancial system as a whole, rather thanfocusing on what appears to be its weak-est link. In retrospect, it seems critical toallow information to flow freely among the various parts of the system in orderthat markets may form to price andintermediate risk. At the time, the Bank of England refused to divulge importantinformation and remained aloof frommarket activity until it was forced to act,usually too late. Only gradually were


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4 Clapham (1945), vol. 2, ch. 1.

5 Chapman (1984), p. 4.

6 Pressnell (1956), pp. 142-44.

7 Letter to Malthus of July 19,1821, in Works, IX, p. 15 ascited in Fetter (1965), p. 98, n. 11.

8 Hilton (1977), p. 54.

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these lessons learned; now is not the timeto forget them.

THE SHOCK: FROMWARTIME TO PEACETIMEFINANCE IN 1821

In the expansion of war finance thatthe Napoleonic Wars induced in Britain, allparts of the British financial system pros-pered. At the top, the Treasury benefitedfrom increased taxes, especially the incometax, as well as the expanded market for itsdebt, both long-term, funded debt andshort-term, unfunded debt. The Bank ofEngland profited throughout the Napole-onic Wars as the government’s agent forfiscal transfers both at home and abroadthroughout the most expensive war foughtin history to that time. It increased itsannual dividend to 12 percent from 7 per-cent in 1805 (reduced back to 10 percentin 1807), greatly enlarged its staff, builtnew facilities at its location on Thread-needle Street, and expanded its note issueas well as its advances to merchants andmanufacturers in London.4 The businessof the London private banks expanded atthe same time that foreign merchants flee-ing the extortions of Napoleon’s troopsbrought their affairs to London.5 Countrybanks multiplied in great number andprofited by issuing small-denominationbanknotes to replace metal coinage in thedomestic circulation after the Bank of Eng-land suspended convertibility in February1797, and the restrictions against issuingsmall-denomination notes were suspendedin March 1797.6 In short, the entire Britishfinancial sector enjoyed prosperity on thebasis of war finance.

True, the commercial crisis of 1810brought the Bank of England’s prosperity—and arrogance—under close scrutiny by itsenemies and led to the Bullion Report of1810. By undermining the intellectualauthority of the Bank’s directors, the Bul-lion Report provided the courage neededfor subsequent governments to constrainthe Bank’s power and to overrule its rec-ommendations on monetary matters if thatbecame politically popular. The Bank’s

practical autonomy, however, remainedintact as the government still relied on itfor managing its remittances and, espe-cially, its recurrent issues of debt—bothlong-term, funded debt (perpetual annu-ities comprised mainly of 3 percent consols)and short-term, unfunded debt (one-yearExchequer bills bearing daily interest). TheTreasury at this point was the Bank’s strongestdefender against the criticisms of the Bullion-ists, arguing that the needs of war financejustified the fall in the exchange rate of thepaper pound.

As a result, for three years after thesigning of the peace treaty in Paris in1815, the government acquiesced to theBank’s various arguments that resumptionof cash payments should be delayed—whether until the exchanges had stabilized,or the bond market had strengthened, orforeign trade had picked up, or its goldreserves were increased. Finally, in 1819,the government initiated a bill to force theBank to resume convertibility, after initialexperiments in 1817 at limited convertibil-ity of Bank notes had succeeded withoutany harmful consequences. Even so, theBank managed to make the transition asdifficult as possible, first by amassing alarge stock of gold, which helped keep upthe price of gold in the markets, and thenby withdrawing the notes from circula-tion that the government used to repay£10,000,000 of Exchequer bills that hadbeen held by the Bank. Further, it refusedto lower its rate of discount on bills andnotes even as its loan business to the pri-vate sector declined. The resulting pricedeflation intensified both agricultural andmanufacturing distress but enabled theBank to resume full convertibility of notesinto coin in May 1821 and to skip almostentirely the intermediate step of limitingconvertibility to ingots of 60 ounces, asproposed by Ricardo. While, at the time,Ricardo criticized the Bank’s directors as“indeed a very ignorant set,”7 it appears tolater historians that the Bank was respond-ing angrily to the government’s efforts touse the Bank to support its short-term debtfinancing while taking away the Bank’s powerto control the level of its own liabilities.8


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9 Mitchell (1988), p. 581.

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The elimination of the income tax in1816 brought an end to the mutually agree-able arrangements between the Treasuryand the Bank that had existed during thewar. The fall in tax revenues meant a sharprise in the ratio of tax revenues that the gov-ernment had to devote to servicing the hugedebt accumulated during the war. Figures 1and 2 show clearly the rise in governmentdebt during the war, the ease with whichthe mounting debt was serviced while theincome tax existed, and then the constraintupon the government’s peacetime budgetcreated by the continuing debt service. Inthe absence of an emerging revenue source,

it was a serious shock to the Treasury tolose an income stream that had amountedto nearly 20 percent of its total grossincome in 1816 (£14.6 million) and hadvirtually vanished by 1818.9 This was theshock that forced readjustment throughoutthe entire British financial system, from theTreasury right down to the country banks.

The Treasury confronted this situationwith a variety of ploys. One was to raisethe price of its long-term bonds in theLondon Stock Exchange so that new debtat lower interest rates could be issued inorder to reduce its expenditures on debtservice. It preferred to reduce this form ofexpenditure rather than cut back on tradi-tional sinecures of the royal family and thelanded aristocracy or reduce further thearmy and navy. Expenditures had to becut not only because the repeal of theincome tax had reduced revenue, but alsobecause of the fear of further losses of rev-enue that might follow from reductions invarious customs duties and excises. Coun-terarguments that both foreign trade anddomestic commerce would increase inresponse to lower tax rates enough to gen-erate the same revenues as before failed topersuade a timorous government. A fewexperiments were tried, some of whichproved successful, but in the prevailingdisturbed monetary conditions, any reduc-tions in protection levels were vehementlyopposed by manufacturing interests. Thegovernment was forced to find its budgetbalance in reduced debt service. By 1821,it became increasingly possible to do this.

Figure 3 shows the course of prices forthe major government “stocks,” namelythe price of 3 percent consols, Bank ofEngland stock, and East India Companystock, over the period 1811-31. The priceof consols, with their constant £3 interestpayment each year, reflects inversely thedefault risk-free yield on long-term debt.Its pattern shows clearly the increasingpressures of war finance during the Napole-onic Wars and the rocky road traversed bythe British debt overhang in the decade-and-a-half following Waterloo. In theperiod encompassing the resumption ofspecie payments, from late summer 1820

Figure 1

70Millions unfunded pound sterling

Nominal amounts, funded and unfunded

Unfunded

Funded

Millions funded pound sterling

60

50

40

20

10

30

860

800

740

680

560

500

620

1804 1809 1814 1819 1824 1829 1834

National Debt of the United Kingdom

SOURCE: Mitchell (1988), p. 601.

Figure 2

SOURCE: Mitchell (1988), pp. 581, 587.

1804 1809 1814 1819 1824 1829 1834

60

55

50

45

40

35

30

British Debt Service/RevenuePercent


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to late 1822, the price of all three securitiesrose. With their dividend rates maintainedat wartime levels, this meant the marketyields on each fell for first-time investors.The actual market yields available to inves-tors in “the funds,” as they were known atthe time, are shown in Figure 4. There wasclearly a period of marked recovery from thetrade crisis of 1819, when it was finallydetermined that Bank of England noteswould again be convertible into gold at thepre-suspension mint par. A check occurred,however, at the end of 1822 that lasted untilthe spring of 1823. Then the upward coursein price (and fall in yields) resumed for ayear, leveling off from March to September1824. The government’s success in manag-ing its debt service problem after resump-tion led to unusually low interest rates,especially in 1824, the year preceding theboom and bust of 1825.

The charts of prices and yields for “thefunds” illustrate nicely the problems createdby the transition from wartime to peacetimefinance. The price patterns of the threemajor securities available to risk-averseBritish investors changed their relationshipfrom moving in synchrony to divergingunpredictably. The capital stock of boththe East India Company and the Bank ofEngland was invested in permanent govern-ment debt, on which the government paidregular interest. Typically, the two char-tered monopolies passed this interest pay-ment through to their shareholders alongwith some part of the profits obtained fromtheir business activities. The dividendsdeclared by the two had increased over theeighteenth century but rose to all-time highsduring the Napoleonic Wars. The Bank’sbusiness as the remitting agent for the gov-ernment’s war finance has already beenmentioned. The East India Companygained from absorbing all the Asian tradepreviously serviced by the French andDutch East India companies while the hos-tilities lasted. However, it was assessed ahuge annual sum by the government, pur-portedly as compensation for the naval andmilitary services the government providedfor the protection of the East India Compa-ny’s trade.

A crossover in the prices of Bank ofEngland and East India Company stockemerged clearly at the beginning of 1823and widened through 1824. Part of thedecline in the Bank’s stock was certainlydue to its decision in 1823 to drop its semi-annual dividend from £5 per £100, whichhad remained constant from 1807 through1822, to £4 per £100. It remained therethrough 1838 before dropping again.10 TheBank was steadily withdrawing from its dis-count business, husbanding reserves, andfending off Parliamentary pressures toresume convertibility. The East India Com-pany, meanwhile, was in its final phases asa trading company in the period 1813-33 10 Clapham (1945), v. II, p. 428.

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Figure 3

350Bank and India percent per par

London Stock Exchange

Bank

E. India

Consols

Consols percent of par

300

250

200

150

100

80

60

40

201811 1815 1819 1823 1827 1831

Price Levels of “The Funds”

SOURCE: Neal (1990), data appendix.

Figure 4

7Percent

End of month

6

6

5

4

3

4

5

Yields on “The Funds”

1811 1815 1819 1823 1827 1831

Bank

E. India

Consols

SOURCE: Derived data from Figure 3.

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11 Clapham (1967), p. 487.

12 I am grateful to Marc Weidenmierfor his expertise in carrying outthis analysis for me.

and faced with a mounting problem ofencroachment by noncompany Englishtraders in the exports of Indian goods toBritain. To counter this, the company wasallowed to maintain its monopoly on all Britishtrade with China. It was in the 1820s that thecompany’s import of trade goods from Indiabegan to feel the pressure of competition—in1826-27, they imported no goods whatsoeverfrom India.11 So it was the prospects of the continued China monopoly, and the earn-ings on monopoly pricing of tea for Britishconsumers, that raised its market value in theearly 1820s and the decline in Indian tradethat lowered it in the mid-1820s.

In the early period from 1811 until1819, by contrast, the London stock mar-ket had established a stable price relationshipamong the three securities. The market yieldon East India Company stock was always thehighest of the three. Presumably, this situa-tion reflected the higher risk associated withthe stock. The directors succeeded in keep-ing the dividend rate high at a steady 10percent per annum throughout this period,but there was always a high risk that the gov-ernment would either increase its charges onthe company or reduce its source of profits,say by returning Ceylon and Indonesia to theDutch. The much lower market yield onBank stock reflected the perception that theBank’s business with the government wasassured and even less risky than the govern-ment’s financial affairs. The Bank stock’smarket yields were always lower thanthose available from the 3 percent consols,at least until 1819. This is not as counter-intuitive as it may first appear, because theamount of Bank stock was fixed by termsof its most recent charter, while the supplyof “Three Per Cents” kept changing unpre-dictably with the shocks to the govern-ment’s finances.

All this changed, however, with theResumption Act of 1819. The Bank’s stockwas assessed by the market to be then asrisky as that of the East India Company.The success of actual resumption in full in1821 appears to have reassured the marketthat it was less risky than the stock of theEast India Company, whose fate was still amatter of intense discussion and dispute.

At times, Bank stock even appeared lessrisky than consols. The crisis of 1825 dis-rupted further the price and yield patterns.Thereafter, consols were clearly judged thesafest security, East India Company stockbecame priced with a higher risk premiumyet, and Bank stock was priced with a riskpremium that seems to have risen steadilytoward the fateful year of 1833, when itscharter was up for renewal.

It may be helpful to put this argument,derived from visual inspection of the priceand yield charts, in terms more familiar tomodern financial analysts. The visual evi-dence is that the three major componentsof “the funds” were co-integrated in theperiod up to 1819 and presumably for anumber of years before 1811. At somepoint in the period of conflict between theBank and the government over the timingand terms of resumption of cash payments,from 1819 to 1821, the co-integrating rela-tionship was broken. Table 1 presents theresults of some formal testing of the statis-tical hypotheses implied by this argument.12

The top panel demonstrates that the pricesof all three securities probably followedrandom walks, both during the period1811-20 and the period 1821-30. This isreassuring evidence that the market was atleast weakly efficient in pricing each secu-rity. That is, there was no obvious tradingrule that investors could use to make con-sistent profits by knowing when priceswould rise or fall.

The second panel shows the results ofDickey-Fuller tests to see if there existed co-integrating relationships between each pairof securities in each subperiod. These indi-cate that co-integration did exist between 3percent consols and both Bank of Englandstock and East India Company (EIC) stockin the first subperiod, 1811-20. This is sen-sible, as the dividends for both the Bankand the EIC rested in large part on passingthrough the interest payments each companyreceived from the government. However, noco-integration existed between Bank of Eng-land and East India Company stock. Thisis also reasonable, because each company’sadditional earnings above the interest pay-ments received from the government were

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determined independently of each other.But even the co-integration of each compa-ny’s stock with consols disappeared in thesecond subperiod, 1821-30.

Because the length of each time periodis relatively short by the standards of timeseries statistics, and the Dickey-Fuller sta-tistics are relatively inefficient for smallsamples, the third panel uses the Johansentechnique for testing for the existence of aco-integrating vector for each pair of secu-rities. Again, it shows that such vectorslikely did exist in the first subperiodbetween consols and both Bank of Eng-land and East India stock, but not between

Bank of England stock and East India stock,while no co-integration among any of thefunds is evident in the second period. Thisreaffirms my argument that the transitionfrom war finance to peace finance disruptedall the relationships within the entire struc-ture of the British financial system, espe-cially from 1821 on.

THE CRASH: FROM LATINAMERICAN BONDS TOCOUNTRY BANKNOTES

Eventually, the government managedto bring the government budget back into

Co-Integration of the Funds and Market Index on the London StockExchange: 1811-20 and 1821-30

Panel A. Integration Diagnostics

1811-20 D-F Test ADF 1821-30 D-F Test ADF

Bank of England –2.01 2.08 Bank –1.35 –1.26EIC –1.02 –1.11 EIC –1.40 –1.50Threes –1.68 –1.54 Threes –2.30 –2.20

Panel B. Dickey-Fuller Tests for Co-Integrating Regressions

1811-20 D-F Test 1821-30 D-F Test

Bank of England vs. EIC –2.15 Bank vs. EIC –1.80Threes vs. Bank of England –2.65* Threes vs. Bank –2.18Threes vs. EIC –4.27*** Threes vs. EIC –2.01

Panel C. Johansen Tests for Co-Integrating Vectors

1811-20 lMAX lTRACE 1821-30 lMAX lTRACE

Bank of England vs. EIC 5.33 7.08 Bank vs. EIC 5.02 7.09Threes vs. Bank of England 19.27** 26.70*** Threes vs. Bank 5.59 8.10Threes vs. EIC 15.35* 26.93*** Threes vs. EIC 5.09 6.81

NOTE: The Dickey-Fuller statistics reported under the integrating diagnostics and the co-integrating regressions are the t-statistics to test if the residuals are stationary. Critical values are based on James Hamilton (1994), Time Series Analysis, Princeton University Press, Table B-6, Case 2, p. 763.

Critical values for the Johansen statistics are taken from Osterwald-Lenum (1992).

* denotes 0.10 or less probability that there was a unit root,

** a 0.05 or less probability, and

*** a 0.01 or less probability.

Table 1


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balance and even run a small surplus, thanksmainly to reductions in the armed forces,especially the withdrawal of occupationforces from France after 1818. But in theperiod immediately following resumption ofthe gold standard, the government continuedto make payments into the Sinking Fund,which was used to make periodic purchasesof long-term debt at market prices and retireit. In effect, the Treasury was running open-market operations that increased liquidityin the economy. It did this by issuing Exche-quer bills to the Bank and then using itscredits with the Bank to retire some of thefunded, long-term debt, mainly consols.Encouraged by the possibilities of retiringhigh-interest debt and reducing expendituresin this way, the government overreached in1823. At the end of that year, the govern-ment converted £135 million of its 5 percentbonds to 4 percent bonds. It then continuedto take advantage of monetary ease early in1824 by converting £80 million of the 4 per-cent bonds to 31/2 percent.13

This had a double-barreled effect,according to traditional accounts. On theone hand, British investors were disappointedto be receiving lower yields on their hold-ings in “the funds.” “Even in that day‘John Bull could not stand two per cent.’ ”14

On the other hand, the Bank of England wasnow obliged to buy back the “deadweight”part of the annuity yielding 31/2 percent thatthe government had issued to cover itsexpenditure on naval and military pensionsbut had failed to sell to the public. TheBank had ample reserves to accomplish this,having accumulated bullion for minting intocoins to replace the £1 and £2 notes it hadissued during the paper pound period(1797-1821). In fact, as late as October1824 the Bank’s reserves amounted to fullyone-third of its liabilities, and by February1825 it had increased its holdings of publicsecurities by 50 percent from the low of Feb-ruary 1822.15

This increase meant the Bank was alsoconducting open-market operations, inad-vertently and unwillingly, that added to themonetary ease by placing cash in the pub-lic’s hands in exchange for the governmentsecurities they previously held. This was

done at the same time the Bank was draw-ing down its excessive gold reserves, a pro-cess that also increased public liquidity.John Easthope, a member of Parliamentand a stockbroker, in his testimony to theCommittee on the Bank of England Char-ter in 1832, argued that while the increasein the Bank’s note issue before 1825 wasnot so large, it should have been decreasedin light of falling gold reserves.16 The epi-sode he referred to was very likely the opera-tions of Nathan Rothschild, who tookadvantage of the falling price of gold inBritain to borrow a large amount from theBank to sell in France in November 1824.17

Later, in mid-1825, when the Bank becameconcerned about its falling reserves and thefall of stock prices, Rothschild agreed torepay the loan, restoring the gold in install-ments spread over the months of June, July,August, and September.18 The result wasexceptional monetary ease in 1824 and into1825, and then contraction in mid-1825,helping to bring on a payments crisis forcountry banks.

As Easthope argued, this was not thebehavior one would want from a bankdevoted to public service, although it wasunderstandable behavior for a bank moreconcerned about the dividends it could payto its stockholders than the general state ofthe monetary regime. On this point, theBank’s defense was that the exchanges hadturned against Britain in 1825, so it wasnecessary then to contract its note issue andrestore its gold reserves. Yet the evidenceproduced by the Bank itself for the commit-tee indicates that the exchange rate was neverseriously threatened (see Figure 5), at leastno more than in earlier and later fluctua-tions that were not accompanied by finan-cial panics. Indeed, such fluctuations asoccurred may have created profit opportu-nities for the House of Rothschild, whichthe Bank was only too happy to share inpart without taking the risks incurred by Rothschild.

The dysfunction of the financial systemcreated at the top by the separation of opera-tions and objectives between the Bank andthe Treasury spread even further, affectingthe country banks. Confronted by the dis-

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13 Gayer, Rostow, Schwartz(1975), vol. I, p. 185.

14 Gayer, Rostow, Schwartz(1975), vol. I, p. 185.

15 Pressnell (1956), p. 480.

16 Great Britain (1968), p. 469,item 5790.

17 Bank of England, Committee ofthe Treasury Minute Book, Oct.29, 1823, to April 12, 1826,fo. 117. Rothschild on Nov.30, 1824, requested a loan of£300 or £500,000 of bar goldat 77/10 1/2 per oz. andpaid 3 1/2 percent per annumwith collateral of stock. “As Imay require about £225,000value of Bar gold tomorrow, Ibeg to mention it to you, inorder to facilitate the delivery.”The Bank’s Court of theTreasury complied with thisapplication.

18 Bank of England, Committee ofthe Treasury Minute Book, May26, 1825, fo. 161.


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tress caused by severe and unanticipateddeflation in 1819-21, the Treasury did notwish to renew its reliance upon the Bankfor buying Exchequer bills, as it had donein 1817 in order to finance public worksprojects in the manufacturing districts andIreland.19 Instead, it allowed the countrybanks to continue to issue notes of smalldenominations, deferring their eliminationfrom circulation for 10 years. Instead ofdisappearing from the money supply in1823, as previously provided in legislationof 1816 (which mandated their terminationwithin two years after the Bank resumedcash payments), such notes were allowedto continue circulating until 1833.

The country banks, already providingnecessary finance to manufacturing districtsthroughout England by the second half ofthe eighteenth century, found their businessprospects greatly enhanced during the Napol-eonic Wars.20 Part of the reason was theexpansion of heavy manufacturing in theMidlands and South Wales, part was thegrowth of foreign trade from outports otherthan London, and much was due to the roleof country banks in remitting to Londonthe government’s revenues from the landtax, the stamp tax, and the income tax whileit was in effect. The end of the war reducedthe basis for all these activities and eliminatedthe income tax. Moreover, the continuingthreat of cash resumption by the Bank ofEngland meant that the profitable note-issuebusiness would have to be wound up andreplaced by some other form of revenue.

Into the breach stepped the stockjob-bers and brokers operating in the Londonstock exchange. Their business, too, wasgreatly enhanced by the incredible increasein government debt issued during the warsof 1793-1815. It was interrupted brieflyby the crisis of 1810, which foretold thedifficulties the stock exchange traderswould face when the war ended. In 1811,the response of stock traders was to enlargegreatly the list of securities available forinvestors in the London stock exchange.Canal stocks were especially favored,although a few other joint-stock companieswere listed—iron-tracked railways, docks,waterworks, and a few gasworks. Trading

in most of these public-utility stocks wasquite limited, however, as most share-holders preferred to hold them for theirvalue as long-term assets and for theirvoting power. The various forms of gov-ernment debt remained the most lucrativesource of commission and speculativeincome for traders.

Latin American SecuritiesThe withdrawal of foreigners from the

British national debt after the war, how-ever, removed one class of customers thathad been most active in trading, while therise in the price of government bondsreduced their attractiveness as sources ofinterest income to the rentier classes. Thetraders on the stock exchange began todevelop a variety of new assets to maintaintheir customer base and their personalincomes. New government issues that mim-icked in form the British 3 percent consolwere offered by the peacetime governmentsin France, Prussia, Spain, Denmark, Russia,and Austria. The military successes of therevolting Spanish American colonies stim-ulated offerings of government bonds fromthe new Latin American states as well, fol-lowed by stocks in newly privatized mines.Many more gasworks were listed as everycommunity in England rushed to provideits residents and businesses the gas light-

19 Hilton (1977), pp. 82-87.

20 Pressnell’s classic study (1956)remains the standard work onEnglish country banks.

Figure 5

26.2Francs per pound sterling

SOURCE: Great Britain (1968), Appendix 97, pp. 110-11.

Francs per thousand francs of gold

26.0

25.8

25.6

25.2

25.0

25.4

18

15

12

9

3

0

6

London’s Exchange on Paris and Premiumon Gold at Paris

1820 18301822 1824 1826 1828

Gold

XRate


62

MAY/JUNE 1998

ing that was proving so successful inLondon. A number of insurance companieswere created when entrepreneurs saw thatthe existing companies seemed especiallyable to profit from the ease of credit and thelack of attractive alternative assets to govern-ment debt.

But the most attractive assets offeredwere those from Latin America, followingthe success of the French 5 percent rentes.Following the final defeat of Napoleon atWaterloo in 1815, capital flowed back tothe Continent from Great Britain. Foreignholdings of British debt diminished rapidly,the price of consols rose as the supplydiminished, and prices of Bank and East Indiastock rose in tandem. British investors usedto safe returns ranging between 4 and 6 per-cent for the past 20 years now found theiroptions limited to yields between 3.5 and4.5 percent. The opportunities for invest-ment in new issues of French 5 percent renteswere more attractive than continuing theirholdings in consols. Figure 6 shows that the rentes maintained a steady return over5 percent throughout the crisis period andoffered a stable alternative to the Britishfunds. Baring Brothers and Co., by its suc-cessful finance of Wellington’s army in 1815,had established itself as the dominant mer-chant bank in England. By undertaking theflotation of the first two issues of Frenchrentes sold to pay the reparations and sup-

port Wellington’s occupation forces, Baringsbecame the “Sixth Power” in Europe, accord-ing to the Duc de Richelieu.21 From Februaryto July 1817, Barings disposed of three loans,the first two at a net price of 53 percent ofpar for 100 million francs each and thethird at 65 percent of par, which raised 115million francs. Yet, according to the historianof the Baring firm, no disturbance in theBritish trade balance or in French reservesseems to have occurred—the inflow of cap-ital to France from Britain resulting fromthe issue of rentes seems to have been offsetby indemnity payments and army contractsfrom France to Britain.22 (What the histo-rian has missed, of course, is the fall in theexchange rate of the British pound thatoccurred at the time; the pound was stillfloating after the suspension of convertibilityin February 1797.) From this success forBritish investors in foreign investment withthe French rentes, it has traditionally beenargued, came increased enthusiasm for otherforms of investment, first in the bonds issuedby the new government of Spain establishedin 1820, and then in the bonds issued by thenew states emerging in Latin America.23

The collapse of Spanish control over itsAmerican empire during the NapoleonicWars led to a variety of independent statesbeing formed out of the former colonies by1820. Battling one another for control overstrategic transport routes, mainly rivers andports, and over state enterprises, mainlymines, each appealed to foreign investorsas a source of government finance and as ameans to substitute foreign expertise andtechnology for the vanquished Spanish.Their government bonds and their miningshares found a ready market in the LondonStock Exchange, which had become thedominant marketplace for finance capitalin the world during the Napoleonic Wars.The loan bubble of 1822-25 ensued, even-tually giving British foreign-bond holderstheir first experience with defaults by sov-ereign states. None of the new Latin Amer-ican states emerging from the remains ofthe Spanish empire (Brazil remained part ofthe Portuguese empire) found the means,whether by exports or taxes, to service thedebts they had incurred in London. Mean-

21 Jenks (1927), p. 36. See also Ziegler (1988), pp. 100-11.

22 Jenks (1927), p. 37.

23 While the focus for foreignloans was mostly on Spain andSpanish America, Greecereceived a loan and much-need-ed publicity for its then-prema-ture efforts to break away fromTurkish rule. More than 50years later, when the Greekgovernment was attempting toassure the international com-munity it would go on a goldstandard, part of its commit-ment was to resume paymenton these initial bonds!

Figure 6

SOURCE: Course of the Exchange, Friday quotes.

3/8/22

30

25

20

15

10

5

011/15/22 7/25/23 4/2/24 12/10/24 8/19/25 4/28/26 1/5/27 9/14/27

French Brazil Argentina Colombia Chile Peru

Yields of Latin BondsPercent


63

MAY/JUNE 1998

24 Dawson (1990) provides areadable account of this episode,but Marichal (1989) puts it intoa longer-run Latin American per-spective. Brazilian bonds neverwent into default, which is whytheir prices remained the high-est among the Latin Americanbonds in the late 1820s. Theywere, in fact, the only onesissued by the Rothschilds.None of their government bondissues for Austria, Belgium,Naples, Prussia, or Russiadefaulted in this period(Doubleday, p. 281).

25 Gayer, Rostow, and Schwartz(1975), vol. I, p. 189.

26 Gayer, Rostow, and Schwartz(1975), vol. I, p. 408, fn. 8,and Mitchell (1976), p. 402.These are nominal values ineach case, but governmentdebt was then trading at closeto par, so its market value wasroughly the same.

27 Beginning probably in January1825, Wetenhall apparentlyalso began publishing a dailystock price list (No. 171 wasfor July 8, 1825), with slightlydifferent coverage than thatprovided in his officially sanc-tioned, twice-weekly pricesheet (which was No. 11,131for July 8, 1825)—a bit ofcircumstantial evidence for theinformation-asymmetry theory,but I have located only oneissue of the daily list for thisperiod.

28 Jenks (1927), p. 49.

29 Ziegler (1988), pp. 102-07.

while, the net proceeds they had receivedafter the bonds were sold at discount—andafter they had paid large commissions upfront—to the London investment houseswere dissipated rapidly in military con-flicts with neighboring states.24

From 1822, when both Chile andColombia floated bond issues with Londonagents, an increasing number of Latin Amer-ican governments tried to find the meansfor financing their transition to indepen-dence from the flush pockets of Britishinvestors. The bonds they issued, in termsof the amounts actually paid up, as distin-guished from the amounts actually receivedby the governments, were the largest singlecategory of new investment in the Londoncapital market in this period.25 It is true,even so, that the amount was small relativeto the remaining sum of the British govern-ment’s funded debt—£43 million comparedwith £820 million.26

Figure 6 compares the prices of severalbond issues of the emerging South Amer-ican states, as given in James Wetenhall’ssemiweekly Course of the Exchange.27 Atthe peak of the stock market boom, therewas surprising convergence in the prices ofall the Latin American bonds. It was onlyin the ensuing two years that informationon the fiscal capacity of the individual gov-ernments and their respective economicbases enabled the London market to distin-guish among them. Mexico and the Andeancountries were clearly marked to be disas-ter cases by the end of 1828, while alreadyArgentina and Brazil were demonstratingtheir attractiveness to British investors, anallure that would increase until the Baringcrisis of 1890.

The pricing pattern of foreign govern-ment bonds displayed in Figure 6 is a clas-sic illustration of the so-called “lemons”problem that can occur in emerging finan-cial markets. In this case, it appears thatinvestors in the London market priced theLatin American bonds at a substantial dis-count so that the typical 5 percent or 6 per-cent yield on par value could provide asubstantial risk premium compared withboth the British funds and the now-seasoned and solid French government

debt. Until further information came infrom newspapers or merchants’ letters fromthe respective countries concerning theirfiscal situation and credit arrangements,however, they all looked much alike, and allwere priced at punitively low levels. Thisdiscouraged higher-quality governments,perhaps Brazil, from issuing debt until theHouse of Rothschild had assured itself thatadequate provision was forthcoming for ser-vicing it. But it also encouraged lower-qualitygovernments, perhaps Peru, to issue debtearly on. Indeed, at one point in October1822, it induced the Scottish adventurer,Gregor McGregor, to issue bonds from animaginary government of Poyais, presum-ably located around Honduras. On October29, 1822, the official Course of the Exchangequoted Poyais scrip for 6 percent bonds at811/2 percent of par, compared with Peru’s 6 percent bonds at 863/4, Chile’s at 84, andColombia’s at 86!

Only as more information came in oras investors began to pull out of higher-risk investments and seek safer, better-quality assets did price differences begin toshow up. This change began to occur inthe fall of 1825 for the new governmentissues from Latin America; it did not affectthe now-seasoned and secure French rentesat all. While the history of the variousbond issues is extremely colorful, it appearsthat Leland Jenks’ assessment of many yearsago is still fundamentally correct—theirmain effect was to enrich some issuing agentsand impoverish or imperil others, includingthe redoutable Barings. Jenks notes that thetypical arrangement mimicked that devisedby the Goldschmidts for the Colombian loanof 1824, whereby “[t]hey received a commis-sion for raising the money, a commission forspending it, and a commission for paying itback.”28 On the other hand, the most recenthistorian of Barings argues that they lostmoney on the Argentina loan by buying backlarge amounts of it in a futile effort to main-tain the market price of the bonds and losteven more on the ill-advised investments inMexico of Francis Baring, the second son ofAlexander Baring.29 In the case of both theRothschilds and the Barings, however, itappears that the sums risked were relatively

small and the risks generally appreciatedeven by an inexperienced British public. Wehave to look elsewhere for an explanation ofthe 1825 speculative bubble and collapse,perhaps in the new domestic companies thatwere formed.

Domestic SecuritiesAs the London stock market had proved

attractive for the new issues of debt by therestored European governments and the rev-olutionary Latin American governments, by1824 a much wider variety of newly formedjoint-stock corporations offered their sharesto London investors. In the words of acontemporary observer, “bubble schemescame out in shoals like herring from thePolar Seas.”30 The success of three compa-nies floated to exploit the mineral resourcesof Mexico—the Real del Monte Association,the United Mexican Company, and theAnglo-American Company led to flotationsof domestic projects in early 1824. In Feb-ruary 1824, the Barings and Rothschildscooperated to found the Alliance British andForeign Life & Fire Insurance Company. Itenjoyed an immediate, enormous success.31

In March there were 30 bills before Parlia-ment to establish some kind of joint-stockenterprise, whether a private undertakingfor issuing insurance or opening a mine, ora public utility such as gas or waterworks, ora canal, dock, or bridge. In April there were250 such bills.32

The limitation of joint-stock enterprisesto these fields arose from the limitations,first, of the Bubble Act of 1720, which for-bade joint-stock corporations from engagingin activities other than those specificallystated in their charters; second, of commonlaw, which made stockholders in co-partner-ships with transferable shares (i.e., unin-corporated joint-stock enterprises) liable inunlimited amount, proportional to theirshares in the equity of the company; and,third, of the limited liability and ease oftransfer for shareholders in mines createdon the “cost-book” system.33 They weresubject only to calls up to the capitalizationauthorized by the cost-book, which requiredneither deed, charter, nor act of Parliament

to establish. Despite the resistance of Par-liament to incorporating new companieswith limited liability, the speculative maniacontinued with new projects floated daily.Speculation was encouraged on the possi-bility that an enterprise might receive acharter, based on the connections inParliament of its board of directors.

The extent of the speculative fervorand its lack of permanent effect was spelledout by a contemporary stockbroker, HenryEnglish, and his analysis has remainedauthoritative to this day. Briefly, Englishlisted 624 companies that were floated inthe years 1824 and 1825. They had a capi-talization of £372,173,100. By 1827, only127 of these existed with a capitalizationof £102,781,600, of which only £15,185,950had been paid in, but the market value hadsunk even lower to only £9,303,950.34 Buteven at the height of the enthusiasm fornew issues, the total capital paid in hadamounted to no more than £49 million.35

Compared with the stock of governmentdebt available (£820 million), this amountwas still almost as limited in scale as theinvestments in Latin American securities.Perhaps we have to look still further foran explanation of the events of 1825. Therole of the country banks, in particular,needs to be examined.

The Country BanksThe expansion of the economy contin-

ued through 1823 and 1824. By April 1825at the latest, the stock market boom reachedits peak (Figure 7),36 and the resulting dropin collateral values, combined with a con-traction by the Bank of England in its noteissue, began to create jitters in the moneymarket. By July, city bankers were begin-ning to be more cautious. In September,reports of difficulties by country banks inDevon and Cornwall began to appear. Allcountry banks were then faced with the sea-sonal strain that occurred each autumn.Government tax revenues were required tobe remitted to London in the autumn beforeinterest payments on government debt weremade in December. This caused more coun-try banks to fail in October and November

30 Hunt (1936), p. 30, quoting a letter to The Times, April 20,1826.

31 Hunt (1936), p. 32.

32 Hunt (1936), p. 32.

33 Burt (1984), pp. 74-81describes the cost-book systemand its advantages for investorsat this time.

34 As reproduced in Hunt (1936),p. 46.

35 Gayer, Rostow, and Schwartz(1975), vol. I, p. 414.

36 According to my own value-weighted index of 50 of themost important stocks tradedon the London Stock Exchange,the peak occurs in March.Gayer, Rostow, and Schwartz(1975), using differentweights for the same stocks,put the peak in April, althoughthe actual peak if mine stocksare included occurs in January1825.

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37 Kindleberger (1984), p. 83.

38 Gayer, Rostow and Schwartz(1975), vol. 1, p. 205.

39 Pressnell (1956), pp. 480-81.

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in 1825. When the major London banksof Wentworth, Chaloner, & Rishworth andPole, Thornton & Co. failed on December8 and 13, respectively, and forced dozensof correspondent country banks to suspendpayments, a general run began on countrybanks. These banks, in turn, came to theirLondon banks for cash, and the Londonbanks turned to the Bank of England.Finally, the directors of the Bank woke up to the crisis and began to discount bills and notes for their customers as fastas they could with diminished staff andresources. The pressure on the Bank lastedfor the rest of December, depleted theirbullion reserves, and forced them to issuesmall £1 and £2 notes again but did notforce them to suspend payments as theyhad feared.

The credit collapse led to widespreadbank failures (73 out of the 770 banks inEngland and even three out of the 36 inScotland)37 and a massive wave of bank-ruptcies in the rest of the economy, reachingan unprecedented peak in April 1826.38 TheBank of England and the London privatebanks joined forces for once by blamingboth the speculative boom and the subse-quent credit collapse on excessive noteissue by the country banks. They arguedthat the ease of note issue had encouragedthe more careless or unscrupulous part-ners in country banks to invest in high-risk, high-return financial ventures such asthe Poyais scrip that were being offered onthe London capital market. The historianof British country banks, L.S. Pressnell, dis-counts this factor as the driving force bothin the boom and in the timing of the col-lapse. Relying on evidence supplied byHenry Burgess, secretary of the Committeeof Country Bankers, to the Bank CharterCommittee of 1832, Pressnell notes that manycountry banks did increase their note issuesubstantially between July 1824 and July1825. Burgess’ unweighted index of theindexes of note issues provided to him by 122country banks for the month of July in eachyear from 1818 through 1825 gave an overallaverage increase of 6.7 percent in the finalyear before the crisis, while 50 of the banksshowed increases of more than 10 percent.39

Figure 8 shows, however, that the finallevel, reached in July 1825, was barely abovethe initial level of July 1818, which hadfallen sharply until 1822. No doubt thecountry banks expanded their note issuein the years immediately preceding thecrash. But much of this expansion wassimply restoring note issue that had beenreduced in response to Parliament’s acts of1816 and 1819. What is missing, of course,is evidence on the extent to which the ini-tial withdrawal of notes was compensatedfor by an increase in demand deposits. Ifthere was a one-to-one compensation (whichis highly unlikely), then the expansion ofnote issues in 1824 and 1825 may havehelped fuel the speculative fires burningon the London stock exchange. However,the expansion may also have been compen-sated by a reduction of deposits. Burgess’figures were collected from banks oper-ating in 1830, which clearly had not beenamong the unfortunate firms that disap-peared in the aftermath of the crisis. Ifthose firms were much more aggressivethan the survivors that appear in Burgess’large sample, then the country banks mayremain indicted as a major contributingcause of the crisis of 1825.

Pressnell gives balance sheets from ahandful of country banks that were oper-ating in this period and whose records havesurvived. The bank Barnard & Co. of Bed-

Figure 7

1301822=100

120

110

100

90

70

60

80

1811 1813 1815 1817 1819 1821 1823 1825 1827 1829 1831

London Stock Price Index

SOURCE: Compiled by author from quotes for 50 companies in the Course of the Exchange.

ford had an unusually rich set of accountscovering the entire period from 1800 to 1845.On the asset side of the balance sheet, thisbank increased its cash holding substantiallyin 1821-23, and then greatly in 1824. Bythe end of 1825, however, its holdings hadfallen from £106,559 to only £31,201, thelowest level since the crisis year of 1810.While the bank had begun to place surplusfunds with a London bill-broker in 1823,this account remained quite small until the1830s. Total assets fell sharply in 1825,from £152,585 to £109,079, but they fellless than the cash account. The differencecame primarily in a doubling of the bank’sbalance with its London correspondent,from £33,877 to £66,256.40 Apparently,this bank was one of the solvent bankswhose surplus funds could be channeledto others through the intermediation of its London bank.

On the liability side of the Barnard &Co. bank, the note issues followed muchthe same path as the average shown by Bur-gess for his sample of 122 country banks(see Figure 8). The most striking differenceoccurs in 1825, but this is mostly explainedby the fall that must have occurred in thenote issue of all the country banks betweenJuly, for the average of the 122 banks, andDecember, for Barnard & Co. As far as Bar-nard’s deposits are concerned, they fell aswell from 1818 through 1823, but not as

much as note issues. Deposits rose in 1824more than note issues, and although theyfell in 1825 as well, they ended the year of1825 at a higher level than note issues. Thiswas a bank that stayed clear of the specula-tive frenzy going on in London, weatheredthe storm and survived to prosper after-wards. Its good fortune was due, no doubt,to the large loss sustained by the founder,Joseph Barnard, the one time he did placefunds in speculative issues available in Lon-don. That loss occurred in the crisis of 1810,and Barnard’s “warning to those who maysucceed me” from that incident was appar-ently heeded in 1825.41

If the record of accomplishment of Bar-nard & Co. may be dismissed as unrepre-sentative of the “problem” country banks,we can also examine the accounts of a coun-try bank that did most of its business bynote issue and that failed in the wave ofbankruptcies occurring in December 1825.Figure 9 shows the gross level of £1 notesissued over the period 1817-25 of one ofthe unfortunates—the country bank ofSarah Crickett in Chelmsford, EssexCounty.42 These do not take account ofnotes that may have been retired, but byplotting the highest number found for eachdate (notes were issued weekly) on a semi-logarithmic scale, we can get a sense of howthis bank, which seemed to rely more onnote issue than deposit accounts, respondedto the vagaries caused by the Bank of Eng-land’s return to the gold standard in 1821.

At first glance, this bank shows quite adifferent pattern of note issuing from that ofthe successful banks shown in Figure 8. Atthe outset of business in 1817, it increasedits issue of £1 notes very rapidly (it’s inter-esting that these were still outstanding in1826 when the holders turned them in tothe Bankruptcy Commission), as a startupbank might be expected to do. But then itincreased issues rapidly again in 1819,when it made sense for country banks tostart withdrawing their notes, given that theBank of England had resumed cash pay-ments, and the Act of 1816 mandated thatcountry banknotes under £5 should ceaseentirely two years later. The steady rise ofnotes in the early 1820s does not show any

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40 Pressnell (1956), pp. 512-13.

41 Pressnell (1956), pp. 433-34

42 Public Record Office, B3/1008and B3/1010-1029 containsthe files of the BankruptcyCommission for Sarah Crickettand her bank.

Figure 8

1401818=100

SOURCE: Great Britain (1968), pp. 414-16 and Pressnell, pp. 512-13.

Average

Barnard120

100

80

40

60

1818 1819 1820 1821 1822 1823 1824 1825

Average Issues of 122 Country Banks and of Barnard & Co. of Bedford

MAY/JUNE 1998


67

similar acceleration until the end of 1825,when the crisis was breaking.

Given the bank’s location in one of therichest agricultural districts of England, andthe prevalence of small tradesmen and far-mers among its noteholders, it may be thatthe note surges shown in 1817 and 1819reflect local harvest conditions more thanresponses to the changes occurring in theLondon money market. They do occur inthe fall of those years. It must be empha-sized that these totals are cumulative andtake no account of notes that may havebeen withdrawn when presented to thebank, so they are not comparable to thenet issues outstanding, shown in Figure 8.

By the end of the Bankruptcy Commis-sion for Crickett’s Bank in the mid-1830s,18 shillings in the pound (i.e., 90 percent)of the claims had been deposited in theassignee’s account. Given the small sumsclaimed by most creditors, the length oftime taken by the Bankruptcy Commission,and the location of the assignee’s accountat the Bank of England in London, muchof the funds available for payment were notdisbursed—a situation that was convenientfor the commissioners and the assignee,who could then cover their charges veryeasily from the account. But for our pur-poses, the apparent willingness of so manynote holders to retain their notes for longperiods of time, plus the bank’s basic sound-ness when its claims and assets were finallyrealized by the Bankruptcy Commission,indicates that this particular failure was anunfortunate victim of circumstances, not acontributor to the crisis.

The Bank of EnglandTo understand the internal causes of the

crisis of 1825, therefore, we must turn backto the role of the Bank of England—in par-ticular, the relationship between its activi-ties as a potential lender of last resort andthe wave of bankruptcies that disruptedEnglish commerical life for years followingthe crisis of 1825. This ground was coveredmany years ago by Norman Silberling (1923).He simply counted the number of bank-ruptcy commissions opened as recorded in

the London Gazette. These have someweaknesses as discussed in Mitchell (1976,pp. 245-46), Duffy (1985, pp. 331-35), andMarriner (1989), but they are still useful asgeneral indicators of the incidence andtiming of bankruptcy over regions andindustries. The problems arise from Bri-tish bankruptcy law, which confined thepossibility of bankruptcy to firms engagedin trade, excluding farms, factories, andthe other professions. The latter were cov-ered by the much harsher law of insolvency,but in case of difficulty they did what theycould to come under bankruptcy law. To dothis, they had to be engaged to a significantextent in trade, stop payment on debtsamounting to over £100, and refuse in frontof witnesses to pay a legitimate creditor.The creditor would then petition with othermajor creditors to open a commission; thiswas “striking a docket.” If the BankruptcyCourt judged that the creditors had a legiti-mate case, they would “seal a commission,”which would authorize a trio of commis-sioners to begin collecting evidence of thebankrupt’s assets and liabilities. As this wasan expensive procedure, which could lastfor years and eat up the remaining assetsof the bankrupt in commissioners’ fees,mutual efforts were often made to settle thedispute before the proceedings began. Oncethey began, the “commission opened.”Figure 10, from Duffy (1985), shows the

Figure 9

Low High

SOURCE: Public Record Office, B/3/1029. Sample figures extracted by author.

Jun-1816 Nov-1817 Mar-1819 Aug-1820 Dec-1821 May-1823 Sept-1824 Jan-18261E4

1E5

Chelmsford Country BankOne Pound Notes Issued

annual numbers of dockets struck, commis-sions sealed, and commissions opened.Regardless of which measure of financialdistress is taken, the crash of the Londonstock market at the end of 1825 resulted inrecord numbers of business failures.

The 1825 spike is all the more anom-alous for coming at the end of a period ofdeclining numbers of bankruptcies, withno major changes in trade direction or pol-icy evident, much less any sign of renewedwarfare. From 1794 on, Silberling con-structed quarterly totals of the advancesmade by the Bank of England to its privatecustomers and the government. From his

comparison of the pattern of advances withthat of banknote issue, prices, and bankrupt-cies, he concluded that advances were amuch better barometer of prices and busi-ness conditions than banknote issues and,moreover, that in general the claim of theBank’s officers that they followed a real-billsdoctrine—responding passively to thedemands of business for credit on realizedtrade contracts—was justified. The excep-tional decrease in advances after 1819,driven by the Bank’s determination to accu-mulate sufficient bullion to validate theresumption of convertibility of its banknotesinto specie at the pre-war par in terms ofgold, did not show up in bankruptcies.43

Closer examination of the relationshipbetween advances and bankruptcies from1819 through 1830, shown in Figure 11,shows possible encouragement of specula-tive movements in 1823 and 1824 but mod-eration in 1825 until the Bank responded tothe crisis at the end of the year by increas-ing the total of advances enormously in thefirst quarter of 1826. Afterwards, Silber-ling’s figures show a distinctive inverse pat-tern, which is so short in duration that itcould again be consistent with the real-billsstory, especially if we allow a lag of sixmonths to a year from the actual creditrestriction to the recorded opening of abankruptcy commission.

Parliament collected evidence in theyears afterward to determine the pattern ofbankruptcies. Table 2 distinguishes townand country bankruptcies opened withinthe total of commissions sealed from 1822through 1833. Again, 1826 shows up as thecrisis year, but what is striking here is themuch more dramatic jump in the countrybankruptcies, a situation that continuedafterwards with a consistently higher num-ber of bankruptcies for country banks. More-over, bankruptcies of banks located within65 miles of London totaled only 38 fromFebruary 7, 1824, to March 22, 1832, com-pared to a total of 116 for banks locatedoutside the 65-mile radius from London.Only 12 of the London banks failed in thecrisis period from December 13, 1825, toMarch 11, 1826, while 52 of the countrybanks failed from December 12, 1825, to

43 Doubleday rants about thewidespread distress createdfrom passage of Peel’s Act in1819 until its final full effect inMay 1823, “but, in fact, hisprime example of distress . . .calculated to tear in pieces,almost, the heart of every justand sensible man that readsit,” deals with the loss of acountry estate purchased withwartime profits by the son of a trader who went bankrupt in 1822. Clearly, this was not a general condition.

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Figure 10

4,000

Commissions opened

Dockets Struck

Commissions sealed

3,500

3,000

2,500

1,500

1,000

2,000

1795

SOURCE: Duffy (1985), p. 399.

1799 1803 1807 1811 1815 1819 1823

Bankruptcy Records Compared

500

Figure 11

1,000Bankruptcies

SOURCE: Silberling (1923).

Bankruptcies

Advances

Advances, millions of pounds

800

600

400

0

200

26

24

22

20

16

18

1819 1820 1826 1827 1828 1829 18301821 1822 1823 1824 1825

Bankruptcies and Bank of England Advances

44 Bank of England, TVC3/11G4/48, fo. 150.

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March 11, 1826. These bankruptcy recordsindicate further that the financial panicwas transmitted through the credit chan-nels of Great Britain, radiating out fromthe London capital market, and had itsfinal impact in the trade and industry ofthe countryside through the liquiditycrunch exerted upon the country banks.

Picking up the PiecesThe question naturally arises: Could

the Bank of England have prevented thisfinancial disaster, say, by acting earlier andas a monopoly bank bearing more respon-sibility to the public than to its stock-holders? It must bear part of the blame forthe expansion of the money supply thatapparently arose in 1823-24 and especiallyfor failing to offset the monetary expan-sion occurring elsewhere. But if, as Duffysuggests, it was the Bank’s drawing accountactivity rather than its note issue thatplayed the strongest role in easing or con-straining the credit conditions in theLondon money market, then the Bank ofEngland can be no more culpable than thecountry banks. The sums advanced from

the Drawing Office plummeted after resump-tion of cash payments in 1821, and the Bankof England restricted drawings through mostof 1825, never rising to the pre-resumptionlevel until the first quarter of 1826. But thisanalysis simply casts the Bank of England inthe role of just another bank, albeit muchlarger and more influential. If it was sup-posed, through its ability, to combineup-to-date, authoritative information fromthe worlds of finance, commerce, and govern-ment policy, it might be expected to haveplayed an earlier, more constructive role. Infact, the evidence from the minutes of theCourt of Directors of the Bank indicate thatthe Bank was taken by surprise and respon-ded with much too little, much too late.

The Bank of EnglandThe first mention of the crisis occurs

on December 8, 1825, when “The Gover-nor [Cornelius Buller] acquainted the Courtthat he had with the concurrence of theDeputy Governor [John Baker Richards]and several of the Committee of Treasuryafforded assistance to the banking house ofSir Peter Pole, etc.”44 This episode is

Bankruptcy Commissions Sealed (total) and Opened (town and country): 1822-32

Commissions Town Commissions Country CommissionsYear Sealed Opened Opened

1822 1,419 468 534

1823 1,250 532 396

1824 1,240 574 396

1825 1,475 683 448

1826 3,307 1,229 1,220

1827 1,688 671 742

1828 1,519 601 620

1829 2,150 809 910

1830 1,720 661 748

1831 1,886 692 770

1832 1,772 643 740

SOURCE: British Parliamentary Papers, 1833, XXXI, p. 342.

Table 2

described in vivid detail by the sister ofHenry Thornton Jr., the active partner ofPole, Thornton & Co. at the time. On theprevious Saturday, the governor and deputygovernor counted out £400,000 in billspersonally to Henry Thornton, Jr., at theBank without any clerks present.45 All thiswas done to keep it secret so that otherlarge London banks would not press theirclaims as well. A responsible lender of lastresort would have publicized the cash infu-sion to reassure the public in general.Instead, the run on Pole & Thornton con-tinued unabated, causing the company tofail by the end of the week. Then the delugeof demands for advances by other banksoverwhelmed the Bank’s Drawing Office.

Table 3 shows the breakdown of theBank of England’s discounts by branch oftrade. I have ordered them by the largestamounts disbursed in the quarter endingin December 1825, when “Bankers” domi-nate. However, as late as November, thebankers were not unusually present in theBank of England’s offices. Indeed, it appearsthat the merchants engaged in the tradeswith “Hamburg, France, Spain, Portugal,South America, the Baltic, and General Mer-chants” were especially pressing in theirdemands upon the Bank in the quarterending in June 1825. No other branch oftrade showed unusual demands until thefinal month of 1825. But this alone shouldhave warned the Bank of repercussions thatwould follow. If it was the South Americanmerchants who accounted for the bulk ofthe increased demands for accommodationin June, this gave the Bank much betterwarning than could have been available toany country banker that remittances fromSouth America were in disarray. Thiswould affect the disbursement of divi-dends upon mining stocks as well asinterest on government bonds. Instead ofreacting to this information in a construc-tive way, however, the Bank decided itwould be risky to advance funds on somecategories of collateral, kept its rate of dis-count high compared with the rest of themarket, and raised its rate of discount backto 5 percent in early December 1825, whendemands became increasingly urgent. In

the interim, the Bank chose to respond tothe lack of discounting business by cuttingcosts. The number of clerks in the DrawingOffice had fallen from 17 to 11 by February1825, and of these 11, four were regularlysent to serve in other departments.46

The Bank of England’s first proactiveresponse at the level of the Court of Direc-tors did not appear until January 12, 1826.At that meeting the court appointed a com-mittee to report on the practicality and expe-diency of establishing branch banks. Thevery next week, the committee reported“Branch banks would be highly expedient.”The reasons it gave, however, were quiterevealing of the ruling mentality amongBank of England leaders at the time. Thebenefits were listed first for the Bank of Eng-land and then for the general public (see Table4). The practicality was not an issue, givenScotland’s experience for 80 years, not to men-tion the success of the Bank of the UnitedStates, the Bank of Ireland, and the recentlyestablished Provincial Bank of Ireland.

In this report, the Bank of England wasclearly responding belatedly to the govern-ment’s decision to force it to open branchesand to promote large, joint-stock banks.The week after the report was laid beforethe court, the governor presented to thedirectors the letter he had received fromLord Liverpool, First Lord of the Treasury,and Mr. Frederick Robinson, Chancellor ofthe Exchequer. The arguments laid out inthe letter show that the government, inthis instance, was determined to workaround the Bank rather than through it.The Liverpool-Robinson letter began withthe assertion, “there can be no doubt thatthe Principal Source of it [the recent dis-tress] is to be found in the rash spirit ofSpeculation which has pervaded the Coun-try for some time, supported, fostered, andencouraged by the Country Banks.”47 So,the letter continued, it seemed advisable torepeal the authority of the country banksto issue small notes and return to a gold cir-culation. This action would spread pres-sure on the exchanges over a wider surfaceand make it felt earlier—a clear referenceto the Bank’s negligence in 1825. But thisalone would not suffice; after all, a similar

45 Forster (1956), p. 117.

46 Bank of England, C 35/24783/2, No. 2, “SpecialDiscount Committee from 12Feb. 1811 to 26 Jan. 1830inclusive,” fo. 159. Later, thecommittee recommended a fur-ther reduction in the number ofclerks (fos. 164-65).

47 Bank of England, TVC3/11G4/48, fos. 201-2.

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convulsion had occurred in 1793 whenthere were no small notes and Scotlandhad “escaped all the convulsions whichhave occurred in the Money Market ofEngland for the last thirty-five years,though Scotland during the whole of thattime has had a circulation of One-PoundNotes.” In the past, the Bank of England“may have been in Itself and by Itself fullyequal to all the important Duties & Opera-tions confided to it,” but “the rise ofcountry banks alone shows it is no longerup to the tasks required from the increasedwealth and new wants of the Country.”48

The government proposed two reme-dies: The Bank should establish branchesof its own, and it should give up its exclu-sive privilege to issue notes within a cer-tain distance from the Metropolis. Thefirst suggestion was impracticable, in thegovernment’s view, and it was obvious thatParliament would never agree to an exten-sion of the Bank’s privileges in London.All in all, the government’s proposed legis-lation would remove pressure from theBank, and it would still have the govern-ment’s business and be the only establish-ment at which the dividends on the national

Amount of Each Branch of Trade in Discounts (thousands of pounds sterling)

Branch Mar Jun Sept Nov Dec

Bankers 273 595 608 699 3,408Hamburg, Fr., Sp., Port, S. Amer., Baltic

and general merchants 411 1,809 1,094 1,238 2,955Tea dealers, grocers, and

sugar refiners 275 334 324 470 959Russian merchants and dealers in

hemp and tallow 46 95 154 243 733Blackwell Hall factors and warehousemen

woolen drapers 188 337 400 441 701Linen drapers and Manchester

warehousemen 220 300 363 413 594

West India merchants 120 156 196 242 559

Irish merchants, factors, dealers 114 191 201 272 551

Hop merchants 113 130 144 145 503

North American merchants 55 65 164 184 308

Silk men, mfrs. gauze weavers 137 185 226 247 297

Wine and brandy merchants 147 229 158 200 290

Corn factors 137 195 135 135 293

Dry salters 75 118 167 122 234

EI agents and merchants 19 93 13 68 226

Leather sellers, factors, tanners 177 254 259 190 224

Stationers 110 141 182 162 210

Timber merchants 81 85 148 160 200

Scotch factors and merchants 58 67 67 51 154

Totals (42 branches in all) 3,080 5,865 5,588 6,324 14,430

SOURCE: Bank of England. C 36/16 TVF 3/25 “Account of the Principal Amounts Discounted in Bills and Note per month for the years1825 and 1826.”

Table 3

debt would be paid. With this condescen-ding argument, the letter concluded, “so we hope the Bank will make no dif-ficulty in giving up their privileges, inrespect of the number of Partners inBanking as to any District [left blank]Miles from the Metropolis.”49

Clearly, the Bank had failed to meetthe recent challenges adequately, and thegovernment was determined to createcompetitive banks that might better servethe public and, presumably, the govern-ment. The Bank’s response was under-standably churlish, which Liverpoolinformed them on January 25 he regret-ted, but he was determined to move ahead,merely asking if the government had anyamendments to propose to the bill pend-ing in Parliament to permit joint-stockbanking. He did then accede to encour-aging them to set up their own branches as well. Thus, the Bank went ahead withestablishing branches, gradually dispersingseven of them into the industrial cities ofManchester, Gloucester, Swansea, Birm-ingham, Liverpool, Bristol, and Leeds,starting in 1828, and adding Exeter, New-castle, Hull, and Norwich in 1829, whensmall note issues by the remaining countrybanks ceased. By the time of the Bank Char-

ter Committee in 1832, the branches atManchester and Birmingham were clearlythe most dominant in terms of note issuesand bills discounted.50

The Commercial Bill MarketWilfred T. C. King, in his classic

study of the London discount market,identified the crisis of 1825 as bringingabout “changes in the banking structurewhich were responsible for every majorinfluence upon market evolution in thesucceeding twenty years.”51 His analysisof the crisis follows very much the linesabove, adding only the additional factorthat a series of good harvests had made the country banks in agricultural districtsespecially flush with funds. In terms ofthe conditions in the money market, how-ever, the effects were limited in duration.By June of 1826, the money market ratehad fallen well below 5 percent, and theBank of England was no longer besiegedwith requests for re-discounting of bills.Of more interest to King were the implica-tions for the development of the bill marketin London from four changes in the finan-cial structure that occurred in response tothe crisis. These were: 1) the beginnings ofjoint-stock banking, 2) the establishment of


50 Bank Charter CommitteeReport, Appendix No. 46, p.47.

51 King (1936), p. 35.

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Report of the Bank of England’s Committee on Branch Banking

Benefits to the Bank of England:

1) Increase circulation of Bank of England notes.2) Increase Bank’s control of whole paper circulation “and enable it to prevent a recurrence of such a convulsion as

we have lately seen.”3) Provide large deposits.4) Protect the Bank against competition of “large Banking Companies” if the government should encourage them.

Benefits to the General Public:

1) Provide more secure provincial circulation.2) “Disasters arising from the sudden expansion and contraction of the currency would not so often occur.”3) Increase security and facility of transmission of money.4) Provide secure places of deposit “in every quarter of the Kingdom.”

SOURCE: Bank of England. TVC3/11 G4/48 “April 13, 1825, to 6th April, 1826, Minutes of the Court of Directors,” folio 194.

Table 4

Bank of England branches, 3) the cessationof re-discounting by the London privatebanks, and 4) the assumption of some central banking functions by the Bank of England.52

The new joint-stock banks had to func-tion outside London (thanks to the resis-tance of the Bank of England) and they hadto compete with existing country banks byattracting deposits rather than issuing notes.King does not explain why this was so,noting only that those joint-stock banksthat began business by issuing notes gavethem up after a few years. It appears thatthis development arose in large part becausethe Bank of England branches refused to dobusiness with joint-stock banks that didissue notes.53 Given that their business wasnecessarily local and that they had no notesto redeem, the new joint-stock banks keptminimum reserves, relying upon re-discount-ing bills of exchange to obtain cash whenneeded to meet withdrawals of deposits.They also had a strong preference for short-term loans in the form of bills, rather thangovernment securities, as had been the caseearlier.54 As the country banks wound uptheir small-note business, they also turnedincreasingly toward deposits and thebehavior of joint-stock banks, as describedby King. King concludes that it was theperiod from roughly 1830 until the 1860sor 1870s that the bill market became themost important way in which domesticcredit was distributed within Great Britain.55

The second change identified by King,the establishment of branches by the Bankof England, also promoted the rise of the billmarket. While initially the Bank’s brancheswould seem to be serious competitors to thelocal banks, they limited their lending activ-ities strictly to commercial bills and thenonly to very short-term and highest-qualitybills, as approved in London. This limitationeffectively kept business intact for the exist-ing local banks, save that their commissionson discounting bills were reduced by theknowledge among their customers that theBank of England branches did not chargecommissions. But the facility of makingremittances to London and receiving creditsback from London through the Bank’s

branches helped local bankers use theLondon bill market more cheaply. A billdrawn locally could now be sent directlyto a bill broker in London, who would beinstructed to pay the proceeds into theBank of England for the credit of the localbank at the branch bank. Moreover, atrader in Leeds could pay or receive moneyin Birmingham through the medium of theBank’s branches, for the “simple charge ofpostage of a letter.”56 In short, the branchesof the Bank of England greatly improvedthe payment mechanism that underlay thesmooth functioning of the bill market.

The third change noted by King wasthe withdrawal of London private banksfrom re-discounting after the 1825 crisis.The run upon the Bank of England—aswell as its obvious reluctance to hold toomuch reserves in gold, which was notearning income for its stockholders—con-vinced the London banks they should notrely on the Bank of England exclusively forcash in times of pressure. Instead, theyturned to providing call loans to bill brokers,who could, in turn, increasingly become billdealers. Instead of delaying discounting ofbills in London until a matching buyer hadbeen found for the bills offered for sale,larger firms could now purchase the billsimmediately, using funds on deposit withthem by the London private banks.57 Onlya few firms were as yet large enough to beable to risk this next step, moving from bro-kering to dealing in bills. Even those likeGurney’s probably would not have done itthen had not the market rate of discountfallen below the usury limit of 5 percent.Had it been at or above the usury limit,there would have been no possibility ofmaking a profit from strict dealing.

The final step in completing the newstructure did not occur until 1830, whenthe Bank of England opened its re-discountfacilities to the bill brokers. Even this wasnot sufficient to overcome the informationalasymmetries that could still arise in themarket and that lay at the heart of latercrises when the emerging bill market wasabused opportunistically. The remainingproblem was the Bank’s continued refusalto discount at market rates, meaning that it

52 King (1936), p. 38.

53 Testimony by Henry Burgess,the Secretary of the Associationof Country Banks to the Com-mittee on Bank of EnglandCharter, 5324-26, in GreatBritain (1968), pp. 427-28.

54 Pressnell (1956) later con-firmed this tendency, even forcountry banks, pp. 415-34.

55 King (1936), p. 41.

56 Testimony of William Beckett tothe Committee on Charter ofBank of England, 1436-38, inGreat Britain (1968), p. 101.

57 King (1936), p. 64.

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was unaware of emerging imbalances in thedemand and supply of bills of exchangeuntil a large excess demand for cash showedup at the Drawing Office, as in December1825. Only when the practice of main-taining fixed discount rates at the Bank wasforesaken in the crisis of 1847 did the roleof the “Bank Rate” come to play its key reg-ulating role in the British financial system.But the information flows that had arisenthrough the medium of the bill marketenabled the London banks to keep closertabs on the conditions of the countrybanks, whether they were in agricultural or industrial districts, essentially throughthe intermediation of the London discounthouses. Further improvements in the man-agement of information flows within theentire financial structure were elicited inresponse to later financial crises, caused bynew, unanticipated shocks encountered asthe global economy of the nineteenth cen-tury was created.

POLICY LESSONS?The evidence of the bankruptcies cer-

tainly suggest that problems of adverseselection in the London credit marketsarose in intensified form during the 1824-25 bubble on the London stock market.Combined with the evidence on changingyield spreads for East India Companystock compared with Bank of Englandstock, and especially with the evidence ofthe initial bundling and then wide disper-sion of yields on the various Latin Ameri-can government bonds, it lends support tothe hypothesis that the problem of informa-tion aysmmetry, always present in financialmarkets, became especially severe in theLondon markets in the years leading to thecrash of 1825.

Asymmetric information is the termapplied to the usual situation in whichborrowers know more about the actualinvestment projects they are carrying outthan do the lenders. Lenders, knowingthis, charge a premium proportional to theuncertainty they feel about the borrowersin question. This situation, in turn, createsan adverse selection problem, in which

higher-quality borrowers are reluctant topay the high interest rates imposed by themarket, while lower-quality borrowers arewilling to accept the rates and to default iftheir ventures fail. In an expanding market,which the London stock exchange certainlywas in the boom years of 1806 to 1807 andagain in the early 1820s, the availability ofloanable funds at premium rates will attractlemons to the market (say, Mexican mines)and discourage borrowing by sound enter-prises (say, Brazilian diamonds). Borrowersturn back to internal sources of funds or toa compressed circle of lenders who knowtheir superior quality and are willing toextend credit at lower rates.

In the case of British firms in the 1820s,the compressed circle of knowledgeable,low-interest lenders was the web of coun-try banks that had arisen in the past threedecades. The continued credit access ofhigh-quality firms, however, depends ineach case upon the continued liquidity ofthe small, local financial intermediaries.Their willingness to continue lending atpreferential rates is limited increasingly bythe risk of withdrawals by depositors whowish to participate in the high-interest, high-risk investments available in the nationalfinancial market. A financial boom of thekind normally experienced before financialcrises can discourage real investment, there-fore, and intensify the lemons problem ashigh-quality borrowers withdraw from theloanable funds market.58 It can also placeincreasing pressure on local financial inter-mediaries that specialize in monitoringcredit to local enterprises. It cannot bemere coincidence that the collapse of thebubble of 1825, according to one account,was set off by the refusal of a country bankin Bristol to honor the request of a Mr. Jonesto redeem in gold its notes that he pre-sented.59 The coup de grâce occurs whenhigher-risk borrowers are asked to providecollateral for additional loans, and the finan-cial collapse decreases the value of their col-lateral. The outcome is a general wave ofbankruptcies.

Under public pressure, the Bubble Actwas repealed in June 1825. In July 1826,joint-stock banks were allowed to establish

58 Mishkin (1991), pp. 70-75,gives a detailed exposition ofthe various routes by whichincreases in asymmetric infor-mation may exacerbateadverse selection, monitoring,and moral hazard problems,especially if a banking paniclimits the ability of financialintermediaries to serve a moni-toring function.

59 Doubleday, pp. 288-89.

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beyond a 65-mile radius of London with-out limitation on the number of partners(the previous limit had been six). Bothactions were counterproductive, if we takeas given the traditional story that the entireepisode was yet another example of irra-tional speculative bubbles derived fromcrowd behavior in which investors actedfirst too optimistically and then too pessi-mistically in response to fragments ofinformation. On the basis of the informa-tion-processing story told above, however,we can conclude that both actions wereconstructive. Repeal of the Bubble Actsped up the Parliamentary process ofgranting corporate charters, limiting thespeculative period during which uncer-tainty over the prospects of passage of theproposed charter dominated price move-ments in the initial share offerings. More-over, repeal did not mean that shareholderswere granted limited liability in the newjoint-stock enterprises; unlimited liabilityremained in principle. Supplementary leg-islation in 1826 specified, moreover, thatParliament could determine for each charterthe extent of liability of the shareholders.With these changes, Parliament bothencouraged the continuation of the cor-porate charter business, which must havebeen profitable to large number of themembers of Parliament, and discouragedoverpricing of the subscription shares whilethe incorporation bill was in progress.

The collapse of country banks was oneof the last examples of a banking panic inthe British banking system. As Mishkin(1991) argues for U.S. banking panics, bankfailures removed from the capital marketsthe principal monitors who could effec-tively distinguish borrowers by their qualitywithout resorting to credit rationing or arbi-trarily high prices for credit. Bank failuresworsened the informational problems in theBritish capital markets. Creating joint-stock banks within which the countrybanks would become branches instead ofcorrespondents helped restore this criticalmonitoring function to the British system.In the peculiarities of the 1826 Act, thiswas done by linking the various countrybanks within the structure of a joint-stock

bank headquartered in London. But theLondon headquarters performed no bankingfunction. Its role was to process and dif-fuse information to the various branchoffices located beyond the 65-mile radiusfrom London.

The results of the financial crisis of1825 were beneficial for the British govern-ment. The funded debt continued to decline,after a small rise in 1827, throughout theremainder of the century. The government’sgross income remained high and comforta-bly above gross expenditures, save for theyears 1827 and 1828, when it droppedslightly below.60 The comfortable financialsituation gave Britain the lowest interest rateson its debt of any European governmentthroughout the nineteenth century—a greatadvantage whenever it became necessary tomobilize resources for armed conflict any-where in the world.61 It also laid the basisfor continuing political reform, culminat-ing in 1834, and economic reform, culminat-ing with the repeal of the Corn Laws andthe Navigation Acts in the 1840s, and thepromotion of limited liability joint-stockcorporations in the 1850s and 1860s.62

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Acworth, Angus Whiteford. Financial Reconstruction in England, 1815-1822, London: P.S. King and Son Ltd., 1925.

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Clapham, John Harold. The Bank of England, A History, Vol. II, “1797-1914,” Cambridge: University Press, 1945.

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Dawson, Frank Griffith. The First Latin American Debt Crisis. The City ofLondon and the 1822-25 Loan Bubble, Yale University Press, 1990.

Doubleday, Thomas. A Financial, Monetary and Statistical History ofEngland, from the Revolution of 1688 to the Present, 2nd ed.,London: Effingham Wilson, 1858-59.

Duffy, Ian P.H. Bankruptcy and Insolvency in London During theIndustrial Revolution, Garland Publishing Co., 1985.

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60 Mitchell (1976), pp. 392,396, and 402.

61 See Neal (1992a), pp. 84-96,for a comparison of the Britishinterest rates with the rest ofthe world.

62 See Neal (1992b).

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Fetter, Frank W. Development of British Monetary Orthodoxy, 1797-1875, Harvard University Press, 1965.

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Financial Crisis of 1825

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