A Series on Depression – Tulip Mania of 16th Century Holland
<< Previous in the Series Next in the Series >>
Though it is not exactly a Depression, it is one of the major economic bubbles in the modern history. It had all the elements of a bubble – frenzied people buying an asset in the hope that some other person will pay them higher than what they paid. At one point around 1637 it went so crazy that one Tulip bulb cost more than 12 acres of land and 20 years of a worker’s salary.
This crisis is interesting in that it hyper-inflated a very silly object (a flower) and well analyzed over the centuries and it has a special place in economic history given some of the innovations it brought like the futures contracts. As we will see later in the article, a lot of information about this crisis in the traditional media is more hype than truth and many modern researchers debunk the folklore comparing this crisis to major depressions. This crisis was confined mostly to a small duration around January-February 1637, and didn’t have a lot of serious effects on Dutch economy, contrary to what a lot of traders believe.
Background:
In the year 1593, Ogier Ghiselin de Busbecq – the ambassador of Holy Roman Empire to Turkish Sultan, sent a few Tulip bulbs from Turkey to his friend Carolus Clusius – a Flemish botanist, who started cultivating it in Netherlands. soon, the Tulips started to attract the attention of the royalty and became a status symbol and then due to an uncertain reason these Tulip buds were attacked by an infection – Tulip Breaking Virus that made spectacular patterns on the flower, making them very attractive. Given the laboriousness of the process in cultivating this flower and the rarity of the virus, the flower started to get expensive.
Trading with Futures
Given the trading acumen of the Dutch, a few people started to create futures contract for this. A futures contract (used currently for trading many commodities in the international markets) is a type of agreement where two parties agree on a price for a good to be delivered in the future. Such contracts reduce the risk for both parties as it takes out the uncertainty of the price in the future. However, the futures contracts alos brings in a lot of speculators – who are neither end buyers or sellers, but just interested in the price movements. The flowers typically bloom in the summer, while people were speculating on price of the flower for the rest of the months. At some point, the entire market gotten run over by these speculators who were keeping on bidding the price higher and higher, in the vain hope that some greater fool will pay them even higher.
Chart source: Wikipedia
Why Tulip prices went that crazy?
Tulip became a luxury good whose price cannot always be determined by their utility value. What is the price of Da Vinci’s “Mona Lisa” or any other major work of art? But, sometimes even mediocre works of art even claims a very high price when a hype is created a around it. A lot of us common people will be very surprised when some collector or the other goes into an action to buy an ugly work of art for millions. But, just like any other good, prices of precious work of art are always determined by “supply and demand”, and there was indeed a large demand for rare type of tulips among the aristocracy. A lot of people indeed saw this market and wanted to enter the lucrative trade, and also wanted to use Tulips as a store of their money. In this sense, it is not too different from many of us buying gold or other precious metals. The worth of these metals are determined not just by their practical application in industries, but also in utilizing them as a medium of exchange and a store of value.
Aftermath of the crash:
Professor Smant writes that:
The price of one special, rare type of tulip bulb called Semper Augustus was 1000 guilders in 1623, 1200 guilders in 1624, 2000 guilders in 1625, and 5500 guilders in 1637 (equal to a current (1990) price of US$ 50.000 in gold). Another bulb was sold in February 1637 for 6700 guilders. On these price levels one single tulip bulb could cost as much as a house on Amsterdam’s smartest canal, including coach and garden. The average annual income at the time was only 150 guilders. After the “crash” prices are said to have fallen to less than 10 percent of their peak values and by 1739 prices had fallen to 1/200 of the peak price. Clearly, such price movements are in line with a traditional bubble hypothesis: start low, reach high, end low.
However, it didn’t have a lot of effect on Dutch economy as many recent studies show. Professor Garber in the book – “Speculative bubble, Speculative attacks and policy switching” writes that:
Conclusion:
The Tulip mania is a classic case of a bubble – people valuing price of certain things far too high in the vain hope of passing the good to a greater fool. However, it has been blown out of proportion by the media. The mania didn’t cause a major depression in Holland.
Read More:
Header image from: Wikipedia
<< Previous in the Series Next in the Series >>
Excellent post… thanks.
Cate
November 27, 2008 at 1:17 am