It is really a case of the greater fool hypothesis. That is, no matter how high the price of something gets whipped up in speculative frenzy, there are always others who are willing to pay for it. The Mississippi Bubble is a prime case of such fervor, the psychosis for well being as a utopia of messianic dimensions. Additionally, it relates to the psychology of crowds and collective behavior and ultimately a false assumption that economic and money systems are able to be well managed; that certain people are smart enough to grasp the key variables and prevent the system from periodic crashing and burning; the Titanic of prosperity often without enough life rafts.
Law’s System, also known as the Mississippi Bubble, is one of the early mythical bubbles, but one with real consequences. Something of a rogue, a gambler and a skirt chaser, he was whisked out of England after shooting a wealthy older man in a duel and his gainful employment was at the faro table and other games of chance. He was a speculator at heart, not a long-term investor or really even an investor who had some rudimentary ideas on the use of fiat money, paper money as a substitute for gold and silver in a mass market consumer economy. The idea of creating paper money based on the flimsiest of underlying assets; in this case France’s territory in the Mississippi Valley region, made a certain theoretical sense but ultimately it was like Children in a candy store, the bon-bon; It represented a daring experiment in public finance, that was doomed to destroy itself on a heap of avarice. Investor appetite was first whetted by spreading rumors that America’s southern swamps, under the catfish and crocodiles were laden with gold and silver. One just had to run their fingers over the river bed to pocket the riches. And the native indians were totally enamored by Catholicism and were the most welcoming hosts one could imagine.
Law called his scheme “The System” had two components,first revealed to Philippe d’Orleans over an evening spent in a brothel. Part I involved an operation in public finance, the other involving printing money. The operation resulted in the conversion of the existing French public
debt into a sort of government equity.
( see link at end) …As share prices soared throughout the summer of 1719 some of the more level-headed realized that the bull market was based on little more than “smoke and mirrors” and the ever increasing production of paper notes. Feeling that a crash would sooner or later be inevitable, they cashed in. As speculators took profits out of the Mississippi Company in the fall of 1719, land prices rose appreciably. When shares in the company rose to 18,000 livres, many others followed. These were the ones who made handsome profits. When in early 1720 two royal princes decided to cash in their shares of the Mississippi Company, others followed their example. The downward spiral had begun. Law had to print 1,500,000 livres in paper money to try to stem the tide. By late 1720 a sudden decline in confidence occurred which sent share prices down as rapidly as they had risen. When panic set in, investors sought to redeem their bank and promissory notes en masse and convert them into specie. The “bubble” burst when the Banque Royale could no longer redeem their notes for lack of gold and silver coin. Bankruptcy followed. Political intrigue and the actions of rival bankers contributed to the downfall of the scheme. Those not quick enough to redeem their shares were ruined….Read More:http://www.thecurrencycollector.com/pdfs/John_Laws_Banque_Royale.pdf
…In an effort to slow the run on the Bank Royale, officials resorted to various nefarious schemes. These included counting the money out slowly and only in small denomination coins, inserting clerks in the line who would return the money they withdrew, and by shortening banking hours. At one point the bank refused to accept anything but 10 livre notes. None of these expedients were able to build confidence or to slow the panic-stricken investors for long. In a last-ditch effort to restore confidence in the bank, Law ordered the public burning of bank notes as they came in for redemption. This was meant to convince the public, that because of their growing scarcity, they would be worth more. A huge enclosure was set up outside the bank for this purpose. Several times a day, with great ceremony, the notes were consigned to the flames. This went on during the months of July and August 1720 while paper money continued to lose its value throughout the Summer….Read More:http://www.thecurrencycollector.com/pdfs/John_Laws_Banque_Royale.pdf
…The Mississippi Company was not a swindle. It was established for a legal purpose – to exploit the riches of French possessions in the New World. John Law’s big mistake was in not recognizing that the act of issuing more money as demand for it increased was inflationary. Law’s plan for the bank had been well thought out and sound in itself. His idea of issuing bank notes in lieu of specie to further the national economy was also solid, as has since been proven time and time again. Despite the colossal failure of the Mississippi Scheme, Law was a financial genius – an essentially honest man who fell due to matters largely outside his control. His downfall was due to his inflated claims regarding the profits to be made in Mississippi and to his initial success which led to unbridled speculation run wild. In the end, the fever of speculation claimed Law as its chief victim. Law’s efforts to reverse the debacle were unsuccessful. As the author of the scheme, he was clearly responsible and forced therefore to flee France in 1721. He died of pneumonia in Vienna, a poor and broken man, in 1729….Read More:http://www.thecurrencycollector.com/pdfs/John_Laws_Banque_Royale.pdf
In the end, the analogy was newspaper boys in New York betting on stocks in the roaring twenties. The bursting of the Mississippi scheme made the French neurotic about money and banking for centuries; and reinforced the view that wealth and making money was religiously not sanctioned by the Church. It gave the impetus to create the philosophy of almost pathological insecurity of the gold bugs and other forms that can easily migrate to the status of misers and hoarders.
“The miracle of money creation by a bank, as John Law showed in 1719, could stimulate industry and trade, gave almost everyone a warm feeling of well-being. Parisians had never felt more prosperous than in that wonderful year.”
Law’s economic plan began to unravel along with this first bank, when one day one of his note-holders decided they wanted their gold. They cashed in their notes. Then others cashed theirs. Then more and more people got nervous about whether the bank had enough gold to meet all its obligations.
To restore confidence, the government recruited slum-dwellers to march through the streets of Paris with picks and shovels, as if gold really had been found in Mississippi and France was dispatching miners to ships which would sail to America and cart gold home. No sooner were folks were paraded to the docks, however, then they were found back at home in the ghettos, and people got wise to the ruse. The giant scheme caved, leaving note-holders with nothing but songs and bitter ditties to sing. As Galbraith writes :
“…Here, in the briefest form, was framed the problem that was to occupy men of financial genius or cupidity for the next two centuries: How to have the wonder without the reckoning?” Read More:http://acronymrequired.com/2009/03/galbraith-on-john-law-and-the.html