A Very English Deceit: The Secret History of the South Sea Bubble and the First Great Financial Scandal. Malcolm Balen
became a popular form of currency because their value was guaranteed: they could not be debased. Indeed, they sometimes changed hands at a premium because their value was always honoured. It made Law think: ‘This Bank is a secure place where merchants may give in money and have credit to trade with. Besides the convenience of easier and quicker payments, the banks save the expense of bags and carriage and losses by bad money.’
Law’s eyes were opened to the possibilities such a bank would bring. Why else, he considered, was Holland more prosperous than England or Scotland, even though it had fewer natural resources? Why else did its ships dominate both the North Sea and the South Seas? The reason, surely, was that the Bank of Amsterdam had loaned money to the Dutch East India Company, not in return for coins, duly weighed and bagged, but against its own assessment of the Company’s trading prospects and reputation. Indeed, the Bank actually owned half of the Company; it was effectively creating money by buying ships to carry out trade to bring back goods to make more money. It was a virtuous circle, and one which would not exist without the Bank.
Law began to work out his own theories concerning money, theories he would eventually get a chance to put into practice on a national scale. Holland was Europe’s largest printing centre and books were readily available, so during his exile he had read widely. For the moment, his thoughts were practical ones and confined to his writings. He set out to make his case for a paper currency, for a form of credit that could not be clipped, debased or altered in any form. His great revelation was that money was not intrinsically valuable. It was simply a means to an end, and one which ultimately reflected the strength, or weakness, of a country’s economy. ‘Money,’ he declared, ‘is not the value for which goods are exchanged, but the value by which they are exchanged.’ But Law did not want to remain an idle theoretician. He wanted to put his ideas into practice; and he wanted to return home.
Scotland was still, in 1705, constitutionally separate from England though it was moving towards union; the two countries shared the same crown, but had a separate government and parliament. So Law set his mind on persuading the Scottish Parliament, and by extension Queen Anne and her government, of his intellectual credentials to try to win his pardon. It was a back route out of exile and into London’s thinking.
Scotland’s great weakness was that it had separate commercial arrangements from England, and these arrangements had failed. Its economy had been shattered not by the wars which had eaten into the English coffers, but by overweening ambition and misplaced adventurism. In 1698, a Scottish fleet belonging to the Company of Scotland Trading to Africa and the Indies, known more popularly as the Darien Company, had sailed for Central America, backed by a fair wind, exclusive trading rights granted by the Scottish Parliament, and half the nation’s money. With great difficulty and considerable hardship, the adventurers established a settlement in Darien, in the eastern swamplands of the Isthmus of Panama. It was a disaster waiting to happen. Disease took hold; there wasn’t enough food; the settlers were divided among themselves. Then the Spanish attacked and captured the tiny foothold. Of the two thousand intrepid souls who set out on the Darien venture, only three hundred returned; and of the £400,000 investment, drawn from the Scottish economy, nothing was left. The dream of colonial trade had brought the country to its knees. There was to be no respite from the heavens. At home, the harvest failed again.
The Bank of Scotland, which had been founded a year after the Bank of England in 1695, with only a modest capital base of £100,000 sterling, was faced with a yawning trade deficit and dwindling reserves of gold and silver. It printed £1 notes, in order to meet payments with paper currency rather than metal, but it also revalued its crown coins, which were worth 5s 6d, to make them worth 6 shillings. In doing so, it succeeded only in producing a run on the bank, with so many customers trading in their banknotes for coins that they exhausted its reserves. By December 1704, payments had to be suspended, an ignominious blow to Scottish pride and financial independence.
In the eighteenth century there was little or no understanding of economic cycles, but Law, in exile, provided a full analysis of the problem and his own radical solution: he wanted to increase the money supply to produce full employment. His view was that the Bank should have carried out precisely the opposite process to the one it had implemented: it should, he thought, have devalued its coins by sixpence to make them worth 5 shillings. He predicted that customers would rush to exchange their crowns for paper notes before the rate changed. The vaults would have filled up with coins once more, and the danger would have been averted.
Law applied his mind to economic problems generally, and to Scotland’s in particular, in a forty-thousand-word document called Money and Trade Considered with a Proposal for Supplying the Nation with Money. It was an overview, written anonymously by a ‘Scots gentleman’ and printed and published in Edinburgh, of the role money played in trade, and the benefits that could accrue from a credit-based economy. But it was also, Law hoped, his ticket home.
Money and Trade is the work of a great thinker, but one who could express himself in everyday language. It is a treatise of startling clarity and economic insight, written by a man who was still just thirty-four. First, John Law established the historical background to the development of money: the use of barter, and the use of silver. Both depended for their basis on an analysis of supply and demand: ‘Water is of great use, yet of little value; because the quantity of water is much greater than the demand for it. Diamonds are of little use, yet of great value, because the demand for diamonds is much greater than the quantity of them. Goods change their value, from any change in their quantity, and in the demand for them. If oats be in greater quantity than last year, and the demand the same, or lesser, oats will be less valuable.’
Law may have been the first economic writer to use the concept of demand – he was certainly one of the first. He wanted to show how economies had outgrown the concept of bartering and even the use of silver. He pointed his readers towards what he considered to be the essential quality that money should have: stability. In contrast, he showed how the value of silver could change if supply outstripped demand, or if its quality was diminished. Sometimes there was too much of it, so its value fell, and sometimes it was debased by European governments. Instead, land was, in Law’s view, a more stable instrument of economic prosperity. Land was, he opined, more valuable than silver because it produced everything, and silver was only a product.
Law then moved on to the lessons he had learned first-hand in Amsterdam. Banks, he declared, offered the best method of improving trade and increasing the supply of money, because of the way they could facilitate credit. To move away from corrupted, debased coinage, he proposed the replacement of metal coins by banknotes: ‘The paper money proposed being always equal in quantity to the demand, the people will be employed, the country improved, manufacture advanced, trade domestic and foreign will be carried on, and wealth and power attained.’
Initially, Law proposed a land bank, where paper money would be backed by the value of land. Notes were to be issued by the bank to the value of land that was sold. As he developed his argument, the colonial ambitions of the trading companies, whose financial aspirations became so entangled with the economies of European countries at that time, were implicitly blown away: their search for foreign booty was effectively deemed by Law to be absurd. France and Spain were ‘masters of the mines’, leaving other nations to buy their silver at high prices even though they had ‘a more valuable money’ of their own – paper, backed by land. Truly, declared Law, ‘the nature of money has not been rightly understood’.
Inauspiciously, it was on Friday 13 July 1705 that the Scottish Parliament, riven by factional fighting, agreed to hear Law’s proposals for a land bank and paper money. But its main business that day, to Law’s misfortune, was to debate the possibilities of the union with England, and here Parliament’s hand was being forced both by the economic straits it found itself in and by the terms of the bill which had been placed before it. The proposed Alien Act was designed to allow the Queen to appoint commissioners to work for the union. But if the Parliament voted to reject the move, the Scots would be deemed to be aliens, and their exports to England banned. With the economy destroyed by the Darien venture, the bill was deliberately framed to concentrate minds. Law’s proposals would inevitably be seen, at best, as a radical alternative to union, and at worst as an irrelevant sideshow. Moreover, it was unlikely that any discussion