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The 1929 Stock Market Crash

Harold Bierman, Jr., Cornell University

Overview

The 1929 stock market crash is conventionally said to have occurred on Thursday the 24th and Tuesday the 29th of October. These two dates have been dubbed “Black Thursday” and “Black Tuesday,” respectively. On September 3, 1929, the Dow Jones Industrial Average reached a record high of 381.2. At the end of the market day on Thursday, October 24, the market was at 299.5 — a 21 percent decline from the high. On this day the market fell 33 points — a drop of 9 percent — on trading that was approximately three times the normal daily volume for the first nine months of the year. By all accounts, there was a selling panic. By November 13, 1929, the market had fallen to 199. By the time the crash was completed in 1932, following an unprecedentedly large economic depression, stocks had lost nearly 90 percent of their value.

The events of Black Thursday are normally defined to be the start of the stock market crash of 1929-1932, but the series of events leading to the crash started before that date. This article examines the causes of the 1929 stock market crash. While no consensus exists about its precise causes, the article will critique some arguments and support a preferred set of conclusions. It argues that one of the primary causes was the attempt by important people and the media to stop market speculators. A second probable cause was the great expansion of investment trusts, public utility holding companies, and the amount of margin buying, all of which fueled the purchase of public utility stocks, and drove up their prices. Public utilities, utility holding companies, and investment trusts were all highly levered using large amounts of debt and preferred stock. These factors seem to have set the stage for the triggering event. This sector was vulnerable to the arrival of bad news regarding utility regulation. In October 1929, the bad news arrived and utility stocks fell dramatically. After the utilities decreased in price, margin buyers had to sell and there was then panic selling of all stocks.

The Conventional View

The crash helped bring on the depression of the thirties and the depression helped to extend the period of low stock prices, thus “proving” to many that the prices had been too high.

Laying the blame for the “boom” on speculators was common in 1929. Thus, immediately upon learning of the crash of October 24 John Maynard Keynes (Moggridge, 1981, p. 2 of Vol. XX) wrote in the New York Evening Post (25 October 1929) that “The extraordinary speculation on Wall Street in past months has driven up the rate of interest to an unprecedented level.” And the Economist when stock prices reached their low for the year repeated the theme that the U.S. stock market had been too high (November 2, 1929, p. 806): “there is warrant for hoping that the deflation of the exaggerated balloon of American stock values will be for the good of the world.” The key phrases in these quotations are “exaggerated balloon of American stock values” and “extraordinary speculation on Wall Street.” Likewise, President Herbert Hoover saw increasing stock market prices leading up to the crash as a speculative bubble manufactured by the mistakes of the Federal Reserve Board. “One of these clouds was an American wave of optimism, born of continued progress over the decade, which the Federal Reserve Board transformed into the stock-exchange Mississippi Bubble” (Hoover, 1952). Thus, the common viewpoint was that stock prices were too high.

There is much to criticize in conventional interpretations of the 1929 stock market crash, however. (Even the name is inexact. The largest losses to the market did not come in October 1929 but rather in the following two years.) In December 1929, many expert economists, including Keynes and Irving Fisher, felt that the financial crisis had ended and by April 1930 the Standard and Poor 500 composite index was at 25.92, compared to a 1929 close of 21.45. There are good reasons for thinking that the stock market was not obviously overvalued in 1929 and that it was sensible to hold most stocks in the fall of 1929 and to buy stocks in December 1929 (admittedly this investment strategy would have been terribly unsuccessful).

Were Stocks Obviously Overpriced in October 1929?
Debatable — Economic Indicators Were Strong

From 1925 to the third quarter of 1929, common stocks increased in value by 120 percent in four years, a compound annual growth of 21.8%. While this is a large rate of appreciation, it is not obvious proof of an “orgy of speculation.” The decade of the 1920s was extremely prosperous and the stock market with its rising prices reflected this prosperity as well as the expectation that the prosperity would continue.

The fact that the stock market lost 90 percent of its value from 1929 to 1932 indicates that the market, at least using one criterion (actual performance of the market), was overvalued in 1929. John Kenneth Galbraith (1961) implies that there was a speculative orgy and that the crash was predictable: “Early in 1928, the nature of the boom changed. The mass escape into make-believe, so much a part of the true speculative orgy, started in earnest.” Galbraith had no difficulty in 1961 identifying the end of the boom in 1929: “On the first of January of 1929, as a matter of probability, it was most likely that the boom would end before the year was out.”

Compare this position with the fact that Irving Fisher, one of the leading economists in the U.S. at the time, was heavily invested in stocks and was bullish before and after the October sell offs; he lost his entire wealth (including his house) before stocks started to recover. In England, John Maynard Keynes, possibly the world’s leading economist during the first half of the twentieth century, and an acknowledged master of practical finance, also lost heavily. Paul Samuelson (1979) quotes P. Sergeant Florence (another leading economist): “Keynes may have made his own fortune and that of King’s College, but the investment trust of Keynes and Dennis Robertson managed to lose my fortune in 1929.”

Galbraith’s ability to ‘forecast’ the market turn is not shared by all. Samuelson (1979) admits that: “playing as I often do the experiment of studying price profiles with their dates concealed, I discovered that I would have been caught by the 1929 debacle.” For many, the collapse from 1929 to 1933 was neither foreseeable nor inevitable.

The stock price increases leading to October 1929, were not driven solely by fools or speculators. There were also intelligent, knowledgeable investors who were buying or holding stocks in September and October 1929. Also, leading economists, both then and now, could neither anticipate nor explain the October 1929 decline of the market. Thus, the conviction that stocks were obviously overpriced is somewhat of a myth.

The nation’s total real income rose from 1921 to 1923 by 10.5% per year, and from 1923 to 1929, it rose 3.4% per year. The 1920s were, in fact, a period of real growth and prosperity. For the period of 1923-1929, wholesale prices went down 0.9% per year, reflecting moderate stable growth in the money supply during a period of healthy real growth.

Examining the manufacturing situation in the United States prior to the crash is also informative. Irving Fisher’s Stock Market Crash and After (1930) offers much data indicating that there was real growth in the manufacturing sector. The evidence presented goes a long way to explain Fisher’s optimism regarding the level of stock prices. What Fisher saw was manufacturing efficiency rapidly increasing (output per worker) as was manufacturing output and the use of electricity.

The financial fundamentals of the markets were also strong. During 1928, the price-earnings ratio for 45 industrial stocks increased from approximately 12 to approximately 14. It was over 15 in 1929 for industrials and then decreased to approximately 10 by the end of 1929. While not low, these price-earnings (P/E) ratios were by no means out of line historically. Values in this range would be considered reasonable by most market analysts today. For example, the P/E ratio of the S & P 500 in July 2003 reached a high of 33 and in May 2004 the high was 23.

The rise in stock prices was not uniform across all industries. The stocks that went up the most were in industries where the economic fundamentals indicated there was cause for large amounts of optimism. They included airplanes, agricultural implements, chemicals, department stores, steel, utilities, telephone and telegraph, electrical equipment, oil, paper, and radio. These were reasonable choices for expectations of growth.

To put the P/E ratios of 10 to 15 in perspective, note that government bonds in 1929 yielded 3.4%. Industrial bonds of investment grade were yielding 5.1%. Consider that an interest rate of 5.1% represents a 1/(0.051) = 19.6 price-earnings ratio for debt.

In 1930, the Federal Reserve Bulletin reported production in 1920 at an index of 87.1 The index went down to 67 in 1921, then climbed steadily (except for 1924) until it reached 125 in 1929. This is an annual growth rate in production of 3.1%. During the period commodity prices actually decreased. The production record for the ten-year period was exceptionally good.

Factory payrolls in September were at an index of 111 (an all-time high). In October the index dropped to 110, which beat all previous months and years except for September 1929. The factory employment measures were consistent with the payroll index.

The September unadjusted measure of freight car loadings was at 121 — also an all-time record.2 In October the loadings dropped to 118, which was a performance second only to September’s record measure.

J.W. Kendrick (1961) shows that the period 1919-1929 had an unusually high rate of change in total factor productivity. The annual rate of change of 5.3% for 1919-1929 for the manufacturing sector was more than twice the 2.5% rate of the second best period (1948-1953). Farming productivity change for 1919-1929 was second only to the period 1929-1937. Overall, the period 1919-1929 easily took first place for productivity increases, handily beating the six other time periods studied by Kendrick (all the periods studies were prior to 1961) with an annual productivity change measure of 3.7%. This was outstanding economic performance — performance which normally would justify stock market optimism.

In the first nine months of 1929, 1,436 firms announced increased dividends. In 1928, the number was only 955 and in 1927, it was 755. In September 1929 dividend increased were announced by 193 firms compared with 135 the year before. The financial news from corporations was very positive in September and October 1929.

The May issue of the National City Bank of New York Newsletter indicated the earnings statements for the first quarter of surveyed firms showed a 31% increase compared to the first quarter of 1928. The August issue showed that for 650 firms the increase for the first six months of 1929 compared to 1928 was 24.4%. In September, the results were expanded to 916 firms with a 27.4% increase. The earnings for the third quarter for 638 firms were calculated to be 14.1% larger than for 1928. This is evidence that the general level of business activity and reported profits were excellent at the end of September 1929 and the middle of October 1929.

Barrie Wigmore (1985) researched 1929 financial data for 135 firms. The market price as a percentage of year-end book value was 420% using the high prices and 181% using the low prices. However, the return on equity for the firms (using the year-end book value) was a high 16.5%. The dividend yield was 2.96% using the high stock prices and 5.9% using the low stock prices.

Article after article from January to October in business magazines carried news of outstanding economic performance. E.K. Berger and A.M. Leinbach, two staff writers of the Magazine of Wall Street, wrote in June 1929: “Business so far this year has astonished even the perennial optimists.”

To summarize: There was little hint of a severe weakness in the real economy in the months prior to October 1929. There is a great deal of evidence that in 1929 stock prices were not out of line with the real economics of the firms that had issued the stock. Leading economists were betting that common stocks in the fall of 1929 were a good buy. Conventional financial reports of corporations gave cause for optimism relative to the 1929 earnings of corporations. Price-earnings ratios, dividend amounts and changes in dividends, and earnings and changes in earnings all gave cause for stock price optimism.

Table 1 shows the average of the highs and lows of the Dow Jones Industrial Index for 1922 to 1932.

Table 1
Dow-Jones Industrials Index Average
of Lows and Highs for the Year
1922 91.0
1923 95.6
1924 104.4
1925 137.2
1926 150.9
1927 177.6
1928 245.6
1929 290.0
1930 225.8
1931 134.1
1932 79.4

Sources: 1922-1929 measures are from the Stock Market Study, U.S. Senate, 1955, pp. 40, 49, 110, and 111; 1930-1932 Wigmore, 1985, pp. 637-639.

Using the information of Table 1, from 1922 to 1929 stocks rose in value by 218.7%. This is equivalent to an 18% annual growth rate in value for the seven years. From 1929 to 1932 stocks lost 73% of their value (different indices measured at different time would give different measures of the increase and decrease). The price increases were large, but not beyond comprehension. The price decreases taken to 1932 were consistent with the fact that by 1932 there was a worldwide depression.

If we take the 386 high of September 1929 and the 1929-year end value of 248.5, the market lost 36% of its value during that four-month period. Most of us, if we held stock in September 1929 would not have sold early in October. In fact, if I had money to invest, I would have purchased after the major break on Black Thursday, October 24. (I would have been sorry.)

Events Precipitating the Crash

Although it can be argued that the stock market was not overvalued, there is evidence that many feared that it was overvalued — including the Federal Reserve Board and the United States Senate. By 1929, there were many who felt the market price of equity securities had increased too much, and this feeling was reinforced daily by the media and statements by influential government officials.

What precipitated the October 1929 crash?

My research minimizes several candidates that are frequently cited by others (see Bierman 1991, 1998, 1999, and 2001).

  • The market did not fall just because it was too high — as argued above it is not obvious that it was too high.
  • The actions of the Federal Reserve, while not always wise, cannot be directly identified with the October stock market crashes in an important way.
  • The Smoot-Hawley tariff, while looming on the horizon, was not cited by the news sources in 1929 as a factor, and was probably not important to the October 1929 market.
  • The Hatry Affair in England was not material for the New York Stock Exchange and the timing did not coincide with the October crashes.
  • Business activity news in October was generally good and there were very few hints of a coming depression.
  • Short selling and bear raids were not large enough to move the entire market.
  • Fraud and other illegal or immoral acts were not material, despite the attention they have received.

Barsky and DeLong (1990, p. 280) stress the importance of fundamentals rather than fads or fashions. “Our conclusion is that major decade-to-decade stock market movements arise predominantly from careful re-evaluation of fundamentals and less so from fads or fashions.” The argument below is consistent with their conclusion, but there will be one major exception. In September 1929, the market value of one segment of the market, the public utility sector, should be based on existing fundamentals, and fundamentals seem to have changed considerably in October 1929.

A Look at the Financial Press

Thursday, October 3, 1929, the Washington Post with a page 1 headline exclaimed “Stock Prices Crash in Frantic Selling.” the New York Times of October 4 headed a page 1 article with “Year’s Worst Break Hits Stock Market.” The article on the first page of the Times cited three contributing factors:

  • A large broker loan increase was expected (the article stated that the loans increased, but the increase was not as large as expected).
  • The statement by Philip Snowden, England’s Chancellor of the Exchequer that described America’s stock market as a “speculative orgy.”
  • Weakening of margin accounts making it necessary to sell, which further depressed prices.

While the 1928 and 1929 financial press focused extensively and excessively on broker loans and margin account activity, the statement by Snowden is the only unique relevant news event on October 3. The October 4 (p. 20) issue of the Wall Street Journal also reported the remark by Snowden that there was “a perfect orgy of speculation.” Also, on October 4, the New York Times made another editorial reference to Snowden’s American speculation orgy. It added that “Wall Street had come to recognize its truth.” The editorial also quoted Secretary of the Treasury Mellon that investors “acted as if the price of securities would infinitely advance.” The Times editor obviously thought there was excessive speculation, and agreed with Snowden.

The stock market went down on October 3 and October 4, but almost all reported business news was very optimistic. The primary negative news item was the statement by Snowden regarding the amount of speculation in the American stock market. The market had been subjected to a barrage of statements throughout the year that there was excessive speculation and that the level of stock prices was too high. There is a possibility that the Snowden comment reported on October 3 was the push that started the boulder down the hill, but there were other events that also jeopardized the level of the market.

On August 8, the Federal Reserve Bank of New York had increased the rediscount rate from 5 to 6%. On September 26 the Bank of England raised its discount rate from 5.5 to 6.5%. England was losing gold as a result of investment in the New York Stock Exchange and wanted to decrease this investment. The Hatry Case also happened in September. It was first reported on September 29, 1929. Both the collapse of the Hatry industrial empire and the increase in the investment returns available in England resulted in shrinkage of English investment (especially the financing of broker loans) in the United States, adding to the market instability in the beginning of October.

Wednesday, October 16, 1929

On Wednesday, October 16, stock prices again declined. the Washington Post (October 17, p. 1) reported “Crushing Blow Again Dealt Stock Market.” Remember, the start of the stock market crash is conventionally identified with Black Thursday, October 24, but there were price declines on October 3, 4, and 16.

The news reports of the Post on October 17 and subsequent days are important since they were Associated Press (AP) releases, thus broadly read throughout the country. The Associated Press reported (p. 1) “The index of 20 leading public utilities computed for the Associated Press by the Standard Statistics Co. dropped 19.7 points to 302.4 which contrasts with the year’s high established less than a month ago.” This index had also dropped 18.7 points on October 3 and 4.3 points on October 4. The Times (October 17, p. 38) reported, “The utility stocks suffered most as a group in the day’s break.”

The economic news after the price drops of October 3 and October 4 had been good. But the deluge of bad news regarding public utility regulation seems to have truly upset the market. On Saturday, October 19, the Washington Post headlined (p. 13) “20 Utility Stocks Hit New Low Mark” and (Associated Press) “The utility shares again broke wide open and the general list came tumbling down almost half as far.” The October 20 issue of the Post had another relevant AP article (p. 12) “The selling again concentrated today on the utilities, which were in general depressed to the lowest levels since early July.”

An evaluation of the October 16 break in the New York Times on Sunday, October 20 (pp. 1 and 29) gave the following favorable factors:

  • stable business condition
  • low money rates (5%)
  • good retail trade
  • revival of the bond market
  • buying power of investment trusts
  • largest short interest in history (this is the total dollar value of stock sold where the investors do not own the stock they sold)

The following negative factors were described:

  • undigested investment trusts and new common stock shares
  • increase in broker loans
  • some high stock prices
  • agricultural prices lower
  • nervous market

The negative factors were not very upsetting to an investor if one was optimistic that the real economic boom (business prosperity) would continue. The Times failed to consider the impact on the market of the news concerning the regulation of public utilities.

Monday, October 21, 1929

On Monday, October 21, the market went down again. The Times (October 22) identified the causes to be

  • margin sellers (buyers on margin being forced to sell)
  • foreign money liquidating
  • skillful short selling

The same newspaper carried an article about a talk by Irving Fisher (p. 24) “Fisher says prices of stocks are low.” Fisher also defended investment trusts as offering investors diversification, thus reduced risk. He was reminded by a person attending the talk that in May he had “pointed out that predicting the human behavior of the market was quite different from analyzing its economic soundness.” Fisher was better with fundamentals than market psychology.

Wednesday, October 23, 1929

On Wednesday, October 23 the market tumbled. The Times headlines (October 24, p.1) said “Prices of Stocks Crash in Heavy Liquidation.” The Washington Post (p. 1) had “Huge Selling Wave Creates Near-Panic as Stocks Collapse.” In a total market value of $87 billion the market declined $4 billion — a 4.6% drop. If the events of the next day (Black Thursday) had not occurred, October 23 would have gone down in history as a major stock market event. But October 24 was to make the “Crash” of October 23 become merely a “Dip.”

The Times lamented October 24, (p. 38) “There was hardly a single item of news which might be construed as bearish.”

Thursday, October 24, 1929

Thursday, October 24 (Black Thursday) was a 12,894,650 share day (the previous record was 8,246,742 shares on March 26, 1929) on the NYSE. The headline on page one of the Times (October 25) was “Treasury Officials Blame Speculation.”

The Times (p. 41) moaned that the cost of call money had been 20% in March and the price break in March was understandable. (A call loan is a loan payable on demand of the lender.) Call money on October 24 cost only 5%. There should not have been a crash. The Friday Wall Street Journal (October 25) gave New York bankers credit for stopping the price decline with $1 billion of support.

the Washington Post (October 26, p. 1) reported “Market Drop Fails to Alarm Officials.” The “officials” were all in Washington. The rest of the country seemed alarmed. On October 25, the market gained. President Hoover made a statement on Friday regarding the excellent state of business, but then added how building and construction had been adversely “affected by the high interest rates induced by stock speculation” (New York Times, October 26, p. 1). A Times editorial (p. 16) quoted Snowden’s “orgy of speculation” again.

Tuesday, October 29, 1929

The Sunday, October 27 edition of the Times had a two-column article “Bay State Utilities Face Investigation.” It implied that regulation in Massachusetts was going to be less friendly towards utilities. Stocks again went down on Monday, October 28. There were 9,212,800 shares traded (3,000,000 in the final hour). The Times on Tuesday, October 29 again carried an article on the New York public utility investigating committee being critical of the rate making process. October 29 was “Black Tuesday.” The headline the next day was “Stocks Collapse in 16,410,030 Share Day” (October 30, p. 1). Stocks lost nearly $16 billion in the month of October or 18% of the beginning of the month value. Twenty-nine public utilities (tabulated by the New York Times) lost $5.1 billion in the month, by far the largest loss of any of the industries listed by the Times. The value of the stocks of all public utilities went down by more than $5.1 billion.

An Interpretive Overview of Events and Issues

My interpretation of these events is that the statement by Snowden, Chancellor of the Exchequer, indicating the presence of a speculative orgy in America is likely to have triggered the October 3 break. Public utility stocks had been driven up by an explosion of investment trust formation and investing. The trusts, to a large extent, bought stock on margin with funds loaned not by banks but by “others.” These funds were very sensitive to any market weakness. Public utility regulation was being reviewed by the Federal Trade Commission, New York City, New York State, and Massachusetts, and these reviews were watched by the other regulatory commissions and by investors. The sell-off of utility stocks from October 16 to October 23 weakened prices and created “margin selling” and withdrawal of capital by the nervous “other” money. Then on October 24, the selling panic happened.

There are three topics that require expansion. First, there is the setting of the climate concerning speculation that may have led to the possibility of relatively specific issues being able to trigger a general market decline. Second, there are investment trusts, utility holding companies, and margin buying that seem to have resulted in one sector being very over-levered and overvalued. Third, there are the public utility stocks that appear to be the best candidate as the actual trigger of the crash.

Contemporary Worries of Excessive Speculation

During 1929, the public was bombarded with statements of outrage by public officials regarding the speculative orgy taking place on the New York Stock Exchange. If the media say something often enough, a large percentage of the public may come to believe it. By October 29 the overall opinion was that there had been excessive speculation and the market had been too high. Galbraith (1961), Kindleberger (1978), and Malkiel (1996) all clearly accept this assumption. the Federal Reserve Bulletin of February 1929 states that the Federal Reserve would restrain the use of “credit facilities in aid of the growth of speculative credit.”

In the spring of 1929, the U.S. Senate adopted a resolution stating that the Senate would support legislation “necessary to correct the evil complained of and prevent illegitimate and harmful speculation” (Bierman, 1991).

The President of the Investment Bankers Association of America, Trowbridge Callaway, gave a talk in which he spoke of “the orgy of speculation which clouded the country’s vision.”

Adolph Casper Miller, an outspoken member of the Federal Reserve Board from its beginning described 1929 as “this period of optimism gone wild and cupidity gone drunk.”

Myron C. Taylor, head of U.S. Steel described “the folly of the speculative frenzy that lifted securities to levels far beyond any warrant of supporting profits.”

Herbert Hoover becoming president in March 1929 was a very significant event. He was a good friend and neighbor of Adolph Miller (see above) and Miller reinforced Hoover’s fears. Hoover was an aggressive foe of speculation. For example, he wrote, “I sent individually for the editors and publishers of major newspapers and magazine and requested them systematically to warn the country against speculation and the unduly high price of stocks.” Hoover then pressured Secretary of the Treasury Andrew Mellon and Governor of the Federal Reserve Board Roy Young “to strangle the speculative movement.” In his memoirs (1952) he titled his Chapter 2 “We Attempt to Stop the Orgy of Speculation” reflecting Snowden’s influence.

Buying on Margin

Margin buying during the 1920’s was not controlled by the government. It was controlled by brokers interested in their own well-being. The average margin requirement was 50% of the stock price prior to October 1929. On selected stocks, it was as high as 75%. When the crash came, no major brokerage firm was bankrupted, because the brokers managed their finances in a conservative manner. At the end of October, margins were lowered to 25%.

Brokers’ loans received a lot of attention in England, as they did in the United States. The Financial Times reported the level and the changes in the amount regularly. For example, the October 4 issue indicated that on October 3 broker loans reached a record high as money rates dropped from 7.5% to 6%. By October 9, money rates had dropped further to below .06. Thus, investors prior to October 24 had relatively easy access to funds at the lowest rate since July 1928.

the Financial Times (October 7, 1929, p. 3) reported that the President of the American Bankers Association was concerned about the level of credit for securities and had given a talk in which he stated, “Bankers are gravely alarmed over the mounting volume of credit being employed in carrying security loans, both by brokers and by individuals.” The Financial Times was also concerned with the buying of investment trusts on margin and the lack of credit to support the bull market.

My conclusion is that the margin buying was a likely factor in causing stock prices to go up, but there is no reason to conclude that margin buying triggered the October crash. Once the selling rush began, however, the calling of margin loans probably exacerbated the price declines. (A calling of margin loans requires the stock buyer to contribute more cash to the broker or the broker sells the stock to get the cash.)

Investment Trusts

By 1929, investment trusts were very popular with investors. These trusts were the 1929 version of closed-end mutual funds. In recent years seasoned closed-end mutual funds sell at a discount to their fundamental value. The fundamental value is the sum of the market values of the fund’s components (securities in the portfolio). In 1929, the investment trusts sold at a premium — i.e. higher than the value of the underlying stocks. Malkiel concludes (p. 51) that this “provides clinching evidence of wide-scale stock-market irrationality during the 1920s.” However, Malkiel also notes (p. 442) “as of the mid-1990’s, Berkshire Hathaway shares were selling at a hefty premium over the value of assets it owned.” Warren Buffett is the guiding force behind Berkshire Hathaway’s great success as an investor. If we were to conclude that rational investors would currently pay a premium for Warren Buffet’s expertise, then we should reject a conclusion that the 1929 market was obviously irrational. We have current evidence that rational investors will pay a premium for what they consider to be superior money management skills.

There were $1 billion of investment trusts sold to investors in the first eight months of 1929 compared to $400 million in the entire 1928. the Economist reported that this was important (October 12, 1929, p. 665). “Much of the recent increase is to be accounted for by the extraordinary burst of investment trust financing.” In September alone $643 million was invested in investment trusts (Financial Times, October 21, p. 3). While the two sets of numbers (from the Economist and the Financial Times) are not exactly comparable, both sets of numbers indicate that investment trusts had become very popular by October 1929.

The common stocks of trusts that had used debt or preferred stock leverage were particularly vulnerable to the stock price declines. For example, the Goldman Sachs Trading Corporation was highly levered with preferred stock and the value of its common stock fell from $104 a share to less than $3 in 1933. Many of the trusts were levered, but the leverage of choice was not debt but rather preferred stock.

In concept, investment trusts were sensible. They offered expert management and diversification. Unfortunately, in 1929 a diversification of stocks was not going to be a big help given the universal price declines. Irving Fisher on September 6, 1929 was quoted in the New York Herald Tribune as stating: “The present high levels of stock prices and corresponding low levels of dividend returns are due largely to two factors. One, the anticipation of large dividend returns in the immediate future; and two, reduction of risk to investors largely brought about through investment diversification made possible for the investor by investment trusts.”

If a researcher could find out the composition of the portfolio of a couple of dozen of the largest investment trusts as of September-October 1929 this would be extremely helpful. Seven important types of information that are not readily available but would be of interest are:

  • The percentage of the portfolio that was public utilities.
  • The extent of diversification.
  • The percentage of the portfolios that was NYSE firms.
  • The investment turnover.
  • The ratio of market price to net asset value at various points in time.
  • The amount of debt and preferred stock leverage used.
  • Who bought the trusts and how long they held.

The ideal information to establish whether market prices are excessively high compared to intrinsic values is to have both the prices and well-defined intrinsic values at the same moment in time. For the normal financial security, this is impossible since the intrinsic values are not objectively well defined. There are two exceptions. DeLong and Schleifer (1991) followed one path, very cleverly choosing to study closed-end mutual funds. Some of these funds were traded on the stock market and the market values of the securities in the funds’ portfolios are a very reasonable estimate of the intrinsic value. DeLong and Schleifer state (1991, p. 675):

“We use the difference between prices and net asset values of closed-end mutual funds at the end of the 1920s to estimate the degree to which the stock market was overvalued on the eve of the 1929 crash. We conclude that the stocks making up the S&P composite were priced at least 30 percent above fundamentals in late summer, 1929.”

Unfortunately (p. 682) “portfolios were rarely published and net asset values rarely calculated.” It was only after the crash that investment trusts started to reveal routinely their net asset value. In the third quarter of 1929 (p. 682), “three types of event seemed to trigger a closed-end fund’s publication of its portfolio.” The three events were (1) listing on the New York Stock Exchange (most of the trusts were not listed), (2) start up of a new closed-end fund (this stock price reflects selling pressure), and (3) shares selling at a discount from net asset value (in September 1929 most trusts were not selling at a discount, the inclusion of any that were introduces a bias). After 1929, some trusts revealed 1929 net asset values. Thus, DeLong and Schleifer lacked the amount and quality of information that would have allowed definite conclusions. In fact, if investors also lacked the information regarding the portfolio composition we would have to place investment trusts in a unique investment category where investment decisions were made without reliable financial statements. If investors in the third quarter of 1929 did not know the current net asset value of investment trusts, this fact is significant.

The closed-end funds were an attractive vehicle to study since the market for investment trusts in 1929 was large and growing rapidly. In August and September alone over $1 billion of new funds were launched. DeLong and Schleifer found the premiums of price over value to be large — the median was about 50% in the third quarter of 1929) (p. 678). But they worried about the validity of their study because funds were not selected randomly.

DeLong and Schleifer had limited data (pp. 698-699). For example, for September 1929 there were two observations, for August 1929 there were five, and for July there were nine. The nine funds observed in July 1929 had the following premia: 277%, 152%, 48%, 22%, 18% (2 times), 8% (3 times). Given that closed-end funds tend to sell at a discount, the positive premiums are interesting. Given the conventional perspective in 1929 that financial experts could manager money better than the person not plugged into the street, it is not surprising that some investors were willing to pay for expertise and to buy shares in investment trusts. Thus, a premium for investment trusts does not imply the same premium for other stocks.

The Public Utility Sector

In addition to investment trusts, intrinsic values are usually well defined for regulated public utilities. The general rule applied by regulatory authorities is to allow utilities to earn a “fair return” on an allowed rate base. The fair return is defined to be equal to a utility’s weighted average cost of capital. There are several reasons why a public utility can earn more or less than a fair return, but the target set by the regulatory authority is the weighted average cost of capital.

Thus, if a utility has an allowed rate equity base of $X and is allowed to earn a return of r, (rX in terms of dollars) after one year the firm’s equity will be worth X + rX or (1 + r)X with a present value of X. (This assumes that r is the return required by the market as well as the return allowed by regulators.) Thus, the present value of the equity is equal to the present rate base, and the stock price should be equal to the rate base per share. Given the nature of public utility accounting, the book value of a utility’s stock is approximately equal to the rate base.

There can be time periods where the utility can earn more (or less) than the allowed return. The reasons for this include regulatory lag, changes in efficiency, changes in the weather, and changes in the mix and number of customers. Also, the cost of equity may be different than the allowed return because of inaccurate (or incorrect) or changing capital market conditions. Thus, the stock price may differ from the book value, but one would not expect the stock price to be very much different than the book value per share for very long. There should be a tendency for the stock price to revert to the book value for a public utility supplying an essential service where there is no effective competition, and the rate commission is effectively allowing a fair return to be earned.

In 1929, public utility stock prices were in excess of three times their book values. Consider, for example, the following measures (Wigmore, 1985, p. 39) for five operating utilities.

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1929 Price-earnings Ratio

High Price for Year

Market Price/Book Value

Commonwealth Edison

35

3.31

Consolidated Gas of New York

39

3.34

Detroit Edison

35

3.06

Pacific Gas & Electric

28

3.30

Public Service of New Jersey

35

3.14

Sooner or later this price bubble had to break unless the regulatory authorities were to decide to allow the utilities to earn more than a fair return, or an infinite stream of greater fools existed. The decision made by the Massachusetts Public Utility Commission in October 1929 applicable to the Edison Electric Illuminating Company of Boston made clear that neither of these improbable events were going to happen (see below).

The utilities bubble did burst. Between the end of September and the end of November 1929, industrial stocks fell by 48%, railroads by 32% and utilities by 55% — thus utilities dropped the furthest from the highs. A comparison of the beginning of the year prices and the highest prices is also of interest: industrials rose by 20%, railroads by 19%, and utilities by 48%. The growth in value for utilities during the first nine months of 1929 was more than twice that of the other two groups.

The following high and low prices for 1929 for a typical set of public utilities and holding companies illustrate how severely public utility prices were hit by the crash (New York Times, 1 January 1930 quotations.)

1929
Firm High Price Low Price Low Price DividedBy High Price
American Power & Light 1753/8 641/4 .37
American Superpower 711/8 15 .21
Brooklyn Gas 2481/2 99 .44
Buffalo, Niagara & Eastern Power 128 611/8 .48
Cities Service 681/8 20 .29
Consolidated Gas Co. of N.Y. 1831/4 801/8 .44
Electric Bond and Share 189 50 .26
Long Island Lighting 91 40 .44
Niagara Hudson Power 303/4 111/4 .37
Transamerica 673/8 201/4 .30

Picking on one segment of the market as the cause of a general break in the market is not obviously correct. But the combination of an overpriced utility segment and investment trusts with a portion of the market that had purchased on margin appears to be a viable explanation. In addition, as of September 1, 1929 utilities industry represented $14.8 billion of value or 18% of the value of the outstanding shares on the NYSE. Thus, they were a large sector, capable of exerting a powerful influence on the overall market. Moreover, many contemporaries pointed to the utility sector as an important force in triggering the market decline.

The October 19, 1929 issue of the Commercial and Financial Chronicle identified the main depressing influences on the market to be the indications of a recession in steel and the refusal of the Massachusetts Department of Public Utilities to allow Edison Electric Illuminating Company of Boston to split its stock. The explanations offered by the Department — that the stock was not worth its price and the company’s dividend would have to be reduced — made the situation worse.

the Washington Post (October 17, p. 1) in explaining the October 16 market declines (an Associated Press release) reported, “Professional traders also were obviously distressed at the printed remarks regarding inflation of power and light securities by the Massachusetts Public Utility Commission in its recent decision.”

Straws That Broke the Camel’s Back?

Edison Electric of Boston

On August 2, 1929, the New York Times reported that the Directors of the Edison Electric Illuminating Company of Boston had called a meeting of stockholders to obtain authorization for a stock split. The stock went up to a high of $440. Its book value was $164 (the ratio of price to book value was 2.6, which was less than many other utilities).

On Saturday (October 12, p. 27) the Times reported that on Friday the Massachusetts Department of Public Utilities has rejected the stock split. The heading said “Bars Stock Split by Boston Edison. Criticizes Dividend Policy. Holds Rates Should Not Be Raised Until Company Can Reduce Charge for Electricity.” Boston Edison lost 15 points for the day even though the decision was released after the Friday closing. The high for the year was $440 and the stock closed at $360 on Friday.

The Massachusetts Department of Public Utilities (New York Times, October 12, p. 27) did not want to imply to investors that this was the “forerunner of substantial increases in dividends.” They stated that the expectation of increased dividends was not justified, offered “scathing criticisms of the company” (October 16, p. 42) and concluded “the public will take over such utilities as try to gobble up all profits available.”

On October 15, the Boston City Council advised the mayor to initiate legislation for public ownership of Edison, on October 16, the Department announced it would investigate the level of rates being charged by Edison, and on October 19, it set the dates for the inquiry. On Tuesday, October 15 (p. 41), there was a discussion in the Times of the Massachusetts decision in the column “Topic in Wall Street.” It “excited intense interest in public utility circles yesterday and undoubtedly had effect in depressing the issues of this group. The decision is a far-reaching one and Wall Street expressed the greatest interest in what effect it will have, if any, upon commissions in other States.”

Boston Edison had closed at 360 on Friday, October 11, before the announcement was released. It dropped 61 points at its low on Monday, (October 14) but closed at 328, a loss of 32 points.

On October 16 (p. 42), the Times reported that Governor Allen of Massachusetts was launching a full investigation of Boston Edison including “dividends, depreciation, and surplus.”

One major factor that can be identified leading to the price break for public utilities was the ruling by the Massachusetts Public Utility Commission. The only specific action was that it refused to permit Edison Electric Illuminating Company of Boston to split its stock. Standard financial theory predicts that the primary effect of a stock split would be to reduce the stock price by 50% and would leave the total value unchanged, thus the denial of the split was not economically significant, and the stock split should have been easy to grant. But the Commission made it clear it had additional messages to communicate. For example, the Financial Times (October 16, 1929, p. 7) reported that the Commission advised the company to “reduce the selling price to the consumer.” Boston was paying $.085 per kilowatt-hour and Cambridge only $.055. There were also rumors of public ownership and a shifting of control. The next day (October 17), the Times reported (p. 3) “The worst pressure was against Public Utility shares” and the headline read “Electric Issue Hard Hit.”

Public Utility Regulation in New York

Massachusetts was not alone in challenging the profit levels of utilities. The Federal Trade Commission, New York City, and New York State were all challenging the status of public utility regulation. New York Governor (Franklin D. Roosevelt) appointed a committee on October 8 to investigate the regulation of public utilities in the state. The Committee stated, “this inquiry is likely to have far-reaching effects and may lead to similar action in other States.” Both the October 17 and October 19 issues of the Times carried articles regarding the New York investigative committee. Professor Bonbright, a Roosevelt appointee, described the regulatory process as a “vicious system” (October 19, p. 21), which ignored consumers. The Chairman of the Public Service Commission, testifying before the Committee wanted more control over utility holding companies, especially management fees and other transfers.

The New York State Committee also noted the increasing importance of investment trusts: “mention of the influence of the investment trust on utility securities is too important for this committee to ignore” (New York Times, October 17, p. 18). They conjectured that the trusts had $3.5 billion to invest, and “their influence has become very important” (p. 18).

In New York City Mayor Jimmy Walker was fighting the accusation of graft charges with statements that his administration would fight aggressively against rate increases, thus proving that he had not accepted bribes (New York Times, October 23). It is reasonable to conclude that the October 16 break was related to the news from Massachusetts and New York.

On October 17, the New York Times (p. 18) reported that the Committee on Public Service Securities of the Investment Banking Association warned against “speculative and uniformed buying.” The Committee published a report in which it asked for care in buying shares in utilities.

On Black Thursday, October 24, the market panic began. The market dropped from 305.87 to 272.32 (a 34 point drop, or 9%) and closed at 299.47. The declines were led by the motor stocks and public utilities.

The Public Utility Multipliers and Leverage

Public utilities were a very important segment of the stock market, and even more importantly, any change in public utility stock values resulted in larger changes in equity wealth. In 1929, there were three potentially important multipliers that meant that any change in a public utility’s underlying value would result in a larger value change in the market and in the investor’s value.

Consider the following hypothetical values for a public utility:

Book value per share for a utility $50

Market price per share 162.502

Market price of investment trust holding stock (assuming a 100% 325.00

premium over market value)

Eliminating the utility’s $112.50 market price premium over book value, the market price of the investment trust would be $50 without a premium. The loss in market value of the stock of the investment trust and the utility would be $387.50 (with no premium). The $387.50 is equal to the $112.50 loss in underlying stock value and the $275 reduction in investment trust stock value. The public utility holding companies, in fact, were even more vulnerable to a stock price change since their ratio of price to book value averaged 4.44 (Wigmore, p. 43). The $387.50 loss in market value implies investments in both the firm’s stock and the investment trust.

For simplicity, this discussion has assumed the trust held all the holding company stock. The effects shown would be reduced if the trust held only a fraction of the stock. However, this discussion has also assumed that no debt or margin was used to finance the investment. Assume the individual investors invested only $162.50 of their money and borrowed $162.50 to buy the investment trust stock costing $325. If the utility stock went down from $162.50 to $50 and the trust still sold at a 100% premium, the trust would sell at $100 and the investors would have lost 100% of their investment since the investors owe $162.50. The vulnerability of the margin investor buying a trust stock that has invested in a utility is obvious.

These highly levered non-operating utilities offered an opportunity for speculation. The holding company typically owned 100% of the operating companies’ stock and both entities were levered (there could be more than two levels of leverage). There were also holding companies that owned holding companies (e.g., Ebasco). Wigmore (p. 43) lists nine of the largest public utility holding companies. The ratio of the low 1929 price to the high price (average) was 33%. These stocks were even more volatile than the publicly owned utilities.

The amount of leverage (both debt and preferred stock) used in the utility sector may have been enormous, but we cannot tell for certain. Assume that a utility purchases an asset that costs $1,000,000 and that asset is financed with 40% stock ($400,000). A utility holding company owns the utility stock and is also financed with 40% stock ($160,000). A second utility holding company owns the first and it is financed with 40% stock ($64,000). An investment trust owns the second holding company’s stock and is financed with 40% stock ($25,600). An investor buys the investment trust’s common stock using 50% margin and investing $12,800 in the stock. Thus, the $1,000,000 utility asset is financed with $12,800 of equity capital.

When the large amount of leverage is combined with the inflated prices of the public utility stock, both holding company stocks, and the investment trust the problem is even more dramatic. Continuing the above example, assume the $1,000,000 asset again financed with $600,000 of debt and $400,000 common stock, but the common stock has a $1,200,000 market value. The first utility holding company has $720,000 of debt and $480,000 of common. The second holding company has $288,000 of debt and $192,000 of stock. The investment trust has $115,200 of debt and $76,800 of stock. The investor uses $38,400 of margin debt. The $1,000,000 asset is supporting $1,761,600 of debt. The investor’s $38,400 of equity is very much in jeopardy.

Conclusions and Lessons

Although no consensus has been reached on the causes of the 1929 stock market crash, the evidence cited above suggests that it may have been that the fear of speculation helped push the stock market to the brink of collapse. It is possible that Hoover’s aggressive campaign against speculation, helped by the overpriced public utilities hit by the Massachusetts Public Utility Commission decision and statements and the vulnerable margin investors, triggered the October selling panic and the consequences that followed.

An important first event may have been Lord Snowden’s reference to the speculative orgy in America. The resulting decline in stock prices weakened margin positions. When several governmental bodies indicated that public utilities in the future were not going to be able to justify their market prices, the decreases in utility stock prices resulted in margin positions being further weakened resulting in general selling. At some stage, the selling panic started and the crash resulted.

What can we learn from the 1929 crash? There are many lessons, but a handful seem to be most applicable to today’s stock market.

  • There is a delicate balance between optimism and pessimism regarding the stock market. Statements and actions by government officials can affect the sensitivity of stock prices to events. Call a market overpriced often enough, and investors may begin to believe it.
  • The fact that stocks can lose 40% of their value in a month and 90% over three years suggests the desirability of diversification (including assets other than stocks). Remember, some investors lose all of their investment when the market falls 40%.
  • A levered investment portfolio amplifies the swings of the stock market. Some investment securities have leverage built into them (e.g., stocks of highly levered firms, options, and stock index futures).
  • A series of presumably undramatic events may establish a setting for a wide price decline.
  • A segment of the market can experience bad news and a price decline that infects the broader market. In 1929, it seems to have been public utilities. In 2000, high technology firms were candidates.
  • Interpreting events and assigning blame is unreliable if there has not been an adequate passage of time and opportunity for reflection and analysis — and is difficult even with decades of hindsight.
  • It is difficult to predict a major market turn with any degree of reliability. It is impressive that in September 1929, Roger Babson predicted the collapse of the stock market, but he had been predicting a collapse for many years. Also, even Babson recommended diversification and was against complete liquidation of stock investments (Financial Chronicle, September 7, 1929, p. 1505).
  • Even a market that is not excessively high can collapse. Both market psychology and the underlying economics are relevant.

References

Barsky, Robert B. and J. Bradford DeLong. “Bull and Bear Markets in the Twentieth Century,” Journal of Economic History 50, no. 2 (1990): 265-281.

Bierman, Harold, Jr. The Great Myths of 1929 and the Lessons to be Learned. Westport, CT: Greenwood Press, 1991.

Bierman, Harold, Jr. The Causes of the 1929 Stock Market Crash. Westport, CT, Greenwood Press, 1998.

Bierman, Harold, Jr. “The Reasons Stock Crashed in 1929.” Journal of Investing (1999): 11-18.

Bierman, Harold, Jr. “Bad Market Days,” World Economics (2001) 177-191.

Commercial and Financial Chronicle, 1929 issues.

Committee on Banking and Currency. Hearings on Performance of the National and Federal Reserve Banking System. Washington, 1931.

DeLong, J. Bradford and Andrei Schleifer, “The Stock Market Bubble of 1929: Evidence from Closed-end Mutual Funds.” Journal of Economic History 51, no. 3 (1991): 675-700.

Federal Reserve Bulletin, February, 1929.

Fisher, Irving. The Stock Market Crash and After. New York: Macmillan, 1930.

Galbraith, John K. The Great Crash, 1929. Boston, Houghton Mifflin, 1961.

Hoover, Herbert. The Memoirs of Herbert Hoover. New York, Macmillan, 1952.

Kendrick, John W. Productivity Trends in the United States. Princeton University Press, 1961.

Kindleberger, Charles P. Manias, Panics, and Crashes. New York, Basic Books, 1978.

Malkiel, Burton G., A Random Walk Down Wall Street. New York, Norton, 1975 and 1996.

Moggridge, Donald. The Collected Writings of John Maynard Keynes, Volume XX. New York: Macmillan, 1981.

New York Times, 1929 and 1930.

Rappoport, Peter and Eugene N. White, “Was There a Bubble in the 1929 Stock Market?” Journal of Economic History 53, no. 3 (1993): 549-574.

Samuelson, Paul A. “Myths and Realities about the Crash and Depression.” Journal of Portfolio Management (1979): 9.

Senate Committee on Banking and Currency. Stock Exchange Practices. Washington, 1928.

Siegel, Jeremy J. “The Equity Premium: Stock and Bond Returns since 1802,”

Financial Analysts Journal 48, no. 1 (1992): 28-46.

Wall Street Journal, October 1929.

Washington Post, October 1929.

Wigmore, Barry A. The Crash and Its Aftermath: A History of Securities Markets in the United States, 1929-1933. Greenwood Press, Westport, 1985.

1 1923-25 average = 100.

2 Based a price to book value ratio of 3.25 (Wigmore, p. 39).

Citation: Bierman, Harold. “The 1929 Stock Market Crash”. EH.Net Encyclopedia, edited by Robert Whaples. March 26, 2008. URL http://eh.net/encyclopedia/the-1929-stock-market-crash/

Slavery in the United States

Jenny Bourne, Carleton College

Slavery is fundamentally an economic phenomenon. Throughout history, slavery has existed where it has been economically worthwhile to those in power. The principal example in modern times is the U.S. South. Nearly 4 million slaves with a market value estimated to be between $3.1 and $3.6 billion lived in the U.S. just before the Civil War. Masters enjoyed rates of return on slaves comparable to those on other assets; cotton consumers, insurance companies, and industrial enterprises benefited from slavery as well. Such valuable property required rules to protect it, and the institutional practices surrounding slavery display a sophistication that rivals modern-day law and business.

THE SPREAD OF SLAVERY IN THE U.S.

Not long after Columbus set sail for the New World, the French and Spanish brought slaves with them on various expeditions. Slaves accompanied Ponce de Leon to Florida in 1513, for instance. But a far greater proportion of slaves arrived in chains in crowded, sweltering cargo holds. The first dark-skinned slaves in what was to become British North America arrived in Virginia — perhaps stopping first in Spanish lands — in 1619 aboard a Dutch vessel. From 1500 to 1900, approximately 12 million Africans were forced from their homes to go westward, with about 10 million of them completing the journey. Yet very few ended up in the British colonies and young American republic. By 1808, when the trans-Atlantic slave trade to the U.S. officially ended, only about 6 percent of African slaves landing in the New World had come to North America.

Slavery in the North

Colonial slavery had a slow start, particularly in the North. The proportion there never got much above 5 percent of the total population. Scholars have speculated as to why, without coming to a definite conclusion. Some surmise that indentured servants were fundamentally better suited to the Northern climate, crops, and tasks at hand; some claim that anti-slavery sentiment provided the explanation. At the time of the American Revolution, fewer than 10 percent of the half million slaves in the thirteen colonies resided in the North, working primarily in agriculture. New York had the greatest number, with just over 20,000. New Jersey had close to 12,000 slaves. Vermont was the first Northern region to abolish slavery when it became an independent republic in 1777. Most of the original Northern colonies implemented a process of gradual emancipation in the late eighteenth and early nineteenth centuries, requiring the children of slave mothers to remain in servitude for a set period, typically 28 years. Other regions above the Mason-Dixon line ended slavery upon statehood early in the nineteenth century — Ohio in 1803 and Indiana in 1816, for instance.

TABLE 1
Population of the Original Thirteen Colonies, selected years by type

1750 1750 1790 1790 1790 1810 1810 1810 1860 1860 1860

State

White Black White Free Slave White Free Slave White Free Slave
Nonwhite Nonwhite Nonwhite
108,270 3,010 232,236 2,771 2,648 255,179 6,453 310 451,504 8,643 - Connecticut
27,208 1,496 46,310 3,899 8,887 55,361 13,136 4,177 90,589 19,829 1,798 Delaware
4,200 1,000 52,886 398 29,264 145,414 1,801 105,218 591,550 3,538 462,198 Georgia
97,623 43,450 208,649 8,043 103,036 235,117 33,927 111,502 515,918 83,942 87,189 Maryland
183,925 4,075 373,187 5,369 - 465,303 6,737 - 1,221,432 9,634 - Massachusetts
26,955 550 141,112 630 157 182,690 970 - 325,579 494 - New Hampshire
66,039 5,354 169,954 2,762 11,423 226,868 7,843 10,851 646,699 25,318 - New Jersey
65,682 11,014 314,366 4,682 21,193 918,699 25,333 15,017 3,831,590 49,145 - New York
53,184 19,800 289,181 5,041 100,783 376,410 10,266 168,824 629,942 31,621 331,059 North Carolina
116,794 2,872 317,479 6,531 3,707 786,804 22,492 795 2,849,259 56,956 - Pennsylvania
29,879 3,347 64,670 3,484 958 73,214 3,609 108 170,649 3,971 - Rhode Island
25,000 39,000 140,178 1,801 107,094 214,196 4,554 196,365 291,300 10,002 402,406 South Carolina
129,581 101,452 442,117 12,866 292,627 551,534 30,570 392,518 1,047,299 58,154 490,865 Virginia
934,340 236,420 2,792,325 58,277 681,777 4,486,789 167,691 1,005,685 12,663,310 361,247 1,775,515 United States

Source: Historical Statistics of the U.S. (1970), Franklin (1988).

Slavery in the South

Throughout colonial and antebellum history, U.S. slaves lived primarily in the South. Slaves comprised less than a tenth of the total Southern population in 1680 but grew to a third by 1790. At that date, 293,000 slaves lived in Virginia alone, making up 42 percent of all slaves in the U.S. at the time. South Carolina, North Carolina, and Maryland each had over 100,000 slaves. After the American Revolution, the Southern slave population exploded, reaching about 1.1 million in 1810 and over 3.9 million in 1860.

TABLE 2
Population of the South 1790-1860 by type

Year White Free Nonwhite Slave
1790 1,240,454 32,523 654,121
1800 1,691,892 61,575 851,532
1810 2,118,144 97,284 1,103,700
1820 2,867,454 130,487 1,509,904
1830 3,614,600 175,074 1,983,860
1840 4,601,873 207,214 2,481,390
1850 6,184,477 235,821 3,200,364
1860 8,036,700 253,082 3,950,511

Source: Historical Statistics of the U.S. (1970).

Slave Ownership Patterns

Despite their numbers, slaves typically comprised a minority of the local population. Only in antebellum South Carolina and Mississippi did slaves outnumber free persons. Most Southerners owned no slaves and most slaves lived in small groups rather than on large plantations. Less than one-quarter of white Southerners held slaves, with half of these holding fewer than five and fewer than 1 percent owning more than one hundred. In 1860, the average number of slaves residing together was about ten.

TABLE 3
Slaves as a Percent of the Total Population
selected years, by Southern state

1750 1790 1810 1860
State Black/total Slave/total Slave/total Slave/total
population population population population
Alabama 45.12
Arkansas 25.52
Delaware 5.21 15.04 5.75 1.60
Florida 43.97
Georgia 19.23 35.45 41.68 43.72
Kentucky 16.87 19.82 19.51
Louisiana 46.85
Maryland 30.80 32.23 29.30 12.69
Mississippi 55.18
Missouri 9.72
North Carolina 27.13 25.51 30.39 33.35
South Carolina 60.94 43.00 47.30 57.18
Tennessee 17.02 24.84
Texas 30.22
Virginia 43.91 39.14 40.27 30.75
Overall 37.97 33.95 33.25 32.27

Sources: Historical Statistics of the United States (1970), Franklin (1988).

TABLE 4
Holdings of Southern Slaveowners
by states, 1860

State Total Held 1 Held 2 Held 3 Held 4 Held 5 Held 1-5 Held 100- Held 500+
slaveholders slave slaves Slaves slaves slaves slaves 499 slaves slaves
AL 33,730 5,607 3,663 2,805 2,329 1,986 16,390 344 -
AR 11,481 2,339 1,503 1,070 894 730 6,536 65 1
DE 587 237 114 74 51 34 510 - -
FL 5,152 863 568 437 365 285 2,518 47 -
GA 41,084 6,713 4,335 3,482 2,984 2,543 20,057 211 8
KY 38,645 9,306 5,430 4,009 3,281 2,694 24,720 7 -
LA 22,033 4,092 2,573 2,034 1,536 1,310 11,545 543 4
MD 13,783 4,119 1,952 1,279 1,023 815 9,188 16 -
MS 30,943 4,856 3,201 2,503 2,129 1,809 14,498 315 1
MO 24,320 6,893 3,754 2,773 2,243 1,686 17,349 4 -
NC 34,658 6,440 4,017 3,068 2,546 2,245 18,316 133 -
SC 26,701 3,763 2,533 1,990 1,731 1,541 11,558 441 8
TN 36,844 7,820 4,738 3,609 3,012 2,536 21,715 47 -
TX 21,878 4,593 2,874 2,093 1,782 1,439 12,781 54 -
VA 52,128 11,085 5,989 4,474 3,807 3,233 28,588 114 -
TOTAL 393,967 78,726 47,244 35,700 29,713 24,886 216,269 2,341 22

Source: Historical Statistics of the United States (1970).

Rapid Natural Increase in U.S. Slave Population

How did the U.S. slave population increase nearly fourfold between 1810 and 1860, given the demise of the trans-Atlantic trade? They enjoyed an exceptional rate of natural increase. Unlike elsewhere in the New World, the South did not require constant infusions of immigrant slaves to keep its slave population intact. In fact, by 1825, 36 percent of the slaves in the Western hemisphere lived in the U.S. This was partly due to higher birth rates, which were in turn due to a more equal ratio of female to male slaves in the U.S. relative to other parts of the Americas. Lower mortality rates also figured prominently. Climate was one cause; crops were another. U.S. slaves planted and harvested first tobacco and then, after Eli Whitney’s invention of the cotton gin in 1793, cotton. This work was relatively less grueling than the tasks on the sugar plantations of the West Indies and in the mines and fields of South America. Southern slaves worked in industry, did domestic work, and grew a variety of other food crops as well, mostly under less abusive conditions than their counterparts elsewhere. For example, the South grew half to three-quarters of the corn crop harvested between 1840 and 1860.

INSTITUTIONAL FRAMEWORK

Central to the success of slavery are political and legal institutions that validate the ownership of other persons. A Kentucky court acknowledged the dual character of slaves in Turner v. Johnson (1838): “[S]laves are property and must, under our present institutions, be treated as such. But they are human beings, with like passions, sympathies, and affections with ourselves.” To construct slave law, lawmakers borrowed from laws concerning personal property and animals, as well as from rules regarding servants, employees, and free persons. The outcome was a set of doctrines that supported the Southern way of life.

The English common law of property formed a foundation for U.S. slave law. The French and Spanish influence in Louisiana — and, to a lesser extent, Texas — meant that Roman (or civil) law offered building blocks there as well. Despite certain formal distinctions, slave law as practiced differed little from common-law to civil-law states. Southern state law governed roughly five areas: slave status, masters’ treatment of slaves, interactions between slaveowners and contractual partners, rights and duties of noncontractual parties toward others’ slaves, and slave crimes. Federal law and laws in various Northern states also dealt with matters of interstate commerce, travel, and fugitive slaves.

Interestingly enough, just as slave law combined elements of other sorts of law, so too did it yield principles that eventually applied elsewhere. Lawmakers had to consider the intelligence and volition of slaves as they crafted laws to preserve property rights. Slavery therefore created legal rules that could potentially apply to free persons as well as to those in bondage. Many legal principles we now consider standard in fact had their origins in slave law.

Legal Status Of Slaves And Blacks

By the end of the seventeenth century, the status of blacks — slave or free — tended to follow the status of their mothers. Generally, “white” persons were not slaves but Native and African Americans could be. One odd case was the offspring of a free white woman and a slave: the law often bound these people to servitude for thirty-one years. Conversion to Christianity could set a slave free in the early colonial period, but this practice quickly disappeared.

Skin Color and Status

Southern law largely identified skin color with status. Those who appeared African or of African descent were generally presumed to be slaves. Virginia was the only state to pass a statute that actually classified people by race: essentially, it considered those with one quarter or more black ancestry as black. Other states used informal tests in addition to visual inspection: one-quarter, one-eighth, or one-sixteenth black ancestry might categorize a person as black.

Even if blacks proved their freedom, they enjoyed little higher status than slaves except, to some extent, in Louisiana. Many Southern states forbade free persons of color from becoming preachers, selling certain goods, tending bar, staying out past a certain time of night, or owning dogs, among other things. Federal law denied black persons citizenship under the Dred Scott decision (1857). In this case, Chief Justice Roger Taney also determined that visiting a free state did not free a slave who returned to a slave state, nor did traveling to a free territory ensure emancipation.

Rights And Responsibilities Of Slave Masters

Southern masters enjoyed great freedom in their dealings with slaves. North Carolina Chief Justice Thomas Ruffin expressed the sentiments of many Southerners when he wrote in State v. Mann (1829): “The power of the master must be absolute, to render the submission of the slave perfect.” By the nineteenth century, household heads had far more physical power over their slaves than their employees. In part, the differences in allowable punishment had to do with the substitutability of other means of persuasion. Instead of physical coercion, antebellum employers could legally withhold all wages if a worker did not complete all agreed-upon services. No such alternate mechanism existed for slaves.

Despite the respect Southerners held for the power of masters, the law — particularly in the thirty years before the Civil War — limited owners somewhat. Southerners feared that unchecked slave abuse could lead to theft, public beatings, and insurrection. People also thought that hungry slaves would steal produce and livestock. But masters who treated slaves too well, or gave them freedom, caused consternation as well. The preamble to Delaware’s Act of 1767 conveys one prevalent view: “[I]t is found by experience, that freed [N]egroes and mulattoes are idle and slothful, and often prove burdensome to the neighborhood wherein they live, and are of evil examples to slaves.” Accordingly, masters sometimes fell afoul of the criminal law not only when they brutalized or neglected their slaves, but also when they indulged or manumitted slaves. Still, prosecuting masters was extremely difficult, because often the only witnesses were slaves or wives, neither of whom could testify against male heads of household.

Law of Manumission

One area that changed dramatically over time was the law of manumission. The South initially allowed masters to set their slaves free because this was an inherent right of property ownership. During the Revolutionary period, some Southern leaders also believed that manumission was consistent with the ideology of the new nation. Manumission occurred only rarely in colonial times, increased dramatically during the Revolution, then diminished after the early 1800s. By the 1830s, most Southern states had begun to limit manumission. Allowing masters to free their slaves at will created incentives to emancipate only unproductive slaves. Consequently, the community at large bore the costs of young, old, and disabled former slaves. The public might also run the risk of having rebellious former slaves in its midst.

Antebellum U.S. Southern states worried considerably about these problems and eventually enacted restrictions on the age at which slaves could be free, the number freed by any one master, and the number manumitted by last will. Some required former masters to file indemnifying bonds with state treasurers so governments would not have to support indigent former slaves. Some instead required former owners to contribute to ex-slaves’ upkeep. Many states limited manumissions to slaves of a certain age who were capable of earning a living. A few states made masters emancipate their slaves out of state or encouraged slaveowners to bequeath slaves to the Colonization Society, which would then send the freed slaves to Liberia. Former slaves sometimes paid fees on the way out of town to make up for lost property tax revenue; they often encountered hostility and residential fees on the other end as well. By 1860, most Southern states had banned in-state and post-mortem manumissions, and some had enacted procedures by which free blacks could voluntarily become slaves.

Other Restrictions

In addition to constraints on manumission, laws restricted other actions of masters and, by extension, slaves. Masters generally had to maintain a certain ratio of white to black residents upon plantations. Some laws barred slaves from owning musical instruments or bearing firearms. All states refused to allow slaves to make contracts or testify in court against whites. About half of Southern states prohibited masters from teaching slaves to read and write although some of these permitted slaves to learn rudimentary mathematics. Masters could use slaves for some tasks and responsibilities, but they typically could not order slaves to compel payment, beat white men, or sample cotton. Nor could slaves officially hire themselves out to others, although such prohibitions were often ignored by masters, slaves, hirers, and public officials. Owners faced fines and sometimes damages if their slaves stole from others or caused injuries.

Southern law did encourage benevolence, at least if it tended to supplement the lash and shackle. Court opinions in particular indicate the belief that good treatment of slaves could enhance labor productivity, increase plantation profits, and reinforce sentimental ties. Allowing slaves to control small amounts of property, even if statutes prohibited it, was an oft-sanctioned practice. Courts also permitted slaves small diversions, such as Christmas parties and quilting bees, despite statutes that barred slave assemblies.

Sale, Hire, And Transportation Of Slaves

Sales of Slaves

Slaves were freely bought and sold across the antebellum South. Southern law offered greater protection to slave buyers than to buyers of other goods, in part because slaves were complex commodities with characteristics not easily ascertained by inspection. Slave sellers were responsible for their representations, required to disclose known defects, and often liable for unknown defects, as well as bound by explicit contractual language. These rules stand in stark contrast to the caveat emptor doctrine applied in antebellum commodity sales cases. In fact, they more closely resemble certain provisions of the modern Uniform Commercial Code. Sales law in two states stands out. South Carolina was extremely pro-buyer, presuming that any slave sold at full price was sound. Louisiana buyers enjoyed extensive legal protection as well. A sold slave who later manifested an incurable disease or vice — such as a tendency to escape frequently — could generate a lawsuit that entitled the purchaser to nullify the sale.

Hiring Out Slaves

Slaves faced the possibility of being hired out by their masters as well as being sold. Although scholars disagree about the extent of hiring in agriculture, most concur that hired slaves frequently worked in manufacturing, construction, mining, and domestic service. Hired slaves and free persons often labored side by side. Bond and free workers both faced a legal burden to behave responsibly on the job. Yet the law of the workplace differed significantly for the two: generally speaking, employers were far more culpable in cases of injuries to slaves. The divergent law for slave and free workers does not necessarily imply that free workers suffered. Empirical evidence shows that nineteenth-century free laborers received at least partial compensation for the risks of jobs. Indeed, the tripartite nature of slave-hiring arrangements suggests why antebellum laws appeared as they did. Whereas free persons had direct work and contractual relations with their bosses, slaves worked under terms designed by others. Free workers arguably could have walked out or insisted on different conditions or wages. Slaves could not. The law therefore offered substitute protections. Still, the powerful interests of slaveowners also may mean that they simply were more successful at shaping the law. Postbellum developments in employment law — North and South — in fact paralleled earlier slave-hiring law, at times relying upon slave cases as legal precedents.

Public Transportation

Public transportation also figured into slave law: slaves suffered death and injury aboard common carriers as well as traveled as legitimate passengers and fugitives. As elsewhere, slave-common carrier law both borrowed from and established precedents for other areas of law. One key doctrine originating in slave cases was the “last-clear-chance rule.” Common-carrier defendants that had failed to offer slaves — even negligent slaves — a last clear chance to avoid accidents ended up paying damages to slaveowners. Slaveowner plaintiffs won several cases in the decade before the Civil War when engineers failed to warn slaves off railroad tracks. Postbellum courts used slave cases as precedents to entrench the last-clear-chance doctrine.

Slave Control: Patrollers And Overseers

Society at large shared in maintaining the machinery of slavery. In place of a standing police force, Southern states passed legislation to establish and regulate county-wide citizen patrols. Essentially, Southern citizens took upon themselves the protection of their neighbors’ interests as well as their own. County courts had local administrative authority; court officials appointed three to five men per patrol from a pool of white male citizens to serve for a specified period. Typical patrol duty ranged from one night per week for a year to twelve hours per month for three months. Not all white men had to serve: judges, magistrates, ministers, and sometimes millers and blacksmiths enjoyed exemptions. So did those in the higher ranks of the state militia. In many states, courts had to select from adult males under a certain age, usually 45, 50, or 60. Some states allowed only slaveowners or householders to join patrols. Patrollers typically earned fees for captured fugitive slaves and exemption from road or militia duty, as well as hourly wages. Keeping order among slaves was the patrollers’ primary duty. Statutes set guidelines for appropriate treatment of slaves and often imposed fines for unlawful beatings. In rare instances, patrollers had to compensate masters for injured slaves. For the most part, however, patrollers enjoyed quasi-judicial or quasi-executive powers in their dealings with slaves.

Overseers commanded considerable control as well. The Southern overseer was the linchpin of the large slave plantation. He ran daily operations and served as a first line of defense in safeguarding whites. The vigorous protests against drafting overseers into military service during the Civil War reveal their significance to the South. Yet slaves were too valuable to be left to the whims of frustrated, angry overseers. Injuries caused to slaves by overseers’ cruelty (or “immoral conduct”) usually entitled masters to recover civil damages. Overseers occasionally confronted criminal charges as well. Brutality by overseers naturally generated responses by their victims; at times, courts reduced murder charges to manslaughter when slaves killed abusive overseers.

Protecting The Master Against Loss: Slave Injury And Slave Stealing

Whether they liked it or not, many Southerners dealt daily with slaves. Southern law shaped these interactions among strangers, awarding damages more often for injuries to slaves than injuries to other property or persons, shielding slaves more than free persons from brutality, and generating convictions more frequently in slave-stealing cases than in other criminal cases. The law also recognized more offenses against slaveowners than against other property owners because slaves, unlike other property, succumbed to influence.

Just as assaults of slaves generated civil damages and criminal penalties, so did stealing a slave to sell him or help him escape to freedom. Many Southerners considered slave stealing worse than killing fellow citizens. In marked contrast, selling a free black person into slavery carried almost no penalty.

The counterpart to helping slaves escape — picking up fugitives — also created laws. Southern states offered rewards to defray the costs of capture or passed statutes requiring owners to pay fees to those who caught and returned slaves. Some Northern citizens worked hand-in-hand with their Southern counterparts, returning fugitive slaves to masters either with or without the prompting of law. But many Northerners vehemently opposed the peculiar institution. In an attempt to stitch together the young nation, the federal government passed the first fugitive slave act in 1793. To circumvent its application, several Northern states passed personal liberty laws in the 1840s. Stronger federal fugitive slave legislation then passed in 1850. Still, enough slaves fled to freedom — perhaps as many as 15,000 in the decade before the Civil War — with the help (or inaction) of Northerners that the profession of “slave-catching” evolved. This occupation was often highly risky — enough so that such men could not purchase life insurance coverage — and just as often highly lucrative.

Slave Crimes

Southern law governed slaves as well as slaveowners and their adversaries. What few due process protections slaves possessed stemmed from desires to grant rights to masters. Still, slaves faced harsh penalties for their crimes. When slaves stole, rioted, set fires, or killed free people, the law sometimes had to subvert the property rights of masters in order to preserve slavery as a social institution.

Slaves, like other antebellum Southern residents, committed a host of crimes ranging from arson to theft to homicide. Other slave crimes included violating curfew, attending religious meetings without a master’s consent, and running away. Indeed, a slave was not permitted off his master’s farm or business without his owner’s permission. In rural areas, a slave was required to carry a written pass to leave the master’s land.

Southern states erected numerous punishments for slave crimes, including prison terms, banishment, whipping, castration, and execution. In most states, the criminal law for slaves (and blacks generally) was noticeably harsher than for free whites; in others, slave law as practiced resembled that governing poorer white citizens. Particularly harsh punishments applied to slaves who had allegedly killed their masters or who had committed rebellious acts. Southerners considered these acts of treason and resorted to immolation, drawing and quartering, and hanging.

MARKETS AND PRICES

Market prices for slaves reflect their substantial economic value. Scholars have gathered slave prices from a variety of sources, including censuses, probate records, plantation and slave-trader accounts, and proceedings of slave auctions. These data sets reveal that prime field hands went for four to six hundred dollars in the U.S. in 1800, thirteen to fifteen hundred dollars in 1850, and up to three thousand dollars just before Fort Sumter fell. Even controlling for inflation, the prices of U.S. slaves rose significantly in the six decades before South Carolina seceded from the Union. By 1860, Southerners owned close to $4 billion worth of slaves. Slavery remained a thriving business on the eve of the Civil War: Fogel and Engerman (1974) projected that by 1890 slave prices would have increased on average more than 50 percent over their 1860 levels. No wonder the South rose in armed resistance to protect its enormous investment.

Slave markets existed across the antebellum U.S. South. Even today, one can find stone markers like the one next to the Antietam battlefield, which reads: “From 1800 to 1865 This Stone Was Used as a Slave Auction Block. It has been a famous landmark at this original location for over 150 years.” Private auctions, estate sales, and professional traders facilitated easy exchange. Established dealers like Franklin and Armfield in Virginia, Woolfolk, Saunders, and Overly in Maryland, and Nathan Bedford Forrest in Tennessee prospered alongside itinerant traders who operated in a few counties, buying slaves for cash from their owners, then moving them overland in coffles to the lower South. Over a million slaves were taken across state lines between 1790 and 1860 with many more moving within states. Some of these slaves went with their owners; many were sold to new owners. In his monumental study, Michael Tadman (1989) found that slaves who lived in the upper South faced a very real chance of being sold for profit. From 1820 to 1860, he estimated that an average of 200,000 slaves per decade moved from the upper to the lower South, most via sales. A contemporary newspaper, The Virginia Times, calculated that 40,000 slaves were sold in the year 1830.

Determinants of Slave Prices

The prices paid for slaves reflected two economic factors: the characteristics of the slave and the conditions of the market. Important individual features included age, sex, childbearing capacity (for females), physical condition, temperament, and skill level. In addition, the supply of slaves, demand for products produced by slaves, and seasonal factors helped determine market conditions and therefore prices.

Age and Price

Prices for both male and female slaves tended to follow similar life-cycle patterns. In the U.S. South, infant slaves sold for a positive price because masters expected them to live long enough to make the initial costs of raising them worthwhile. Prices rose through puberty as productivity and experience increased. In nineteenth-century New Orleans, for example, prices peaked at about age 22 for females and age 25 for males. Girls cost more than boys up to their mid-teens. The genders then switched places in terms of value. In the Old South, boys aged 14 sold for 71 percent of the price of 27-year-old men, whereas girls aged 14 sold for 65 percent of the price of 27-year-old men. After the peak age, prices declined slowly for a time, then fell off rapidly as the aging process caused productivity to fall. Compared to full-grown men, women were worth 80 to 90 percent as much. One characteristic in particular set some females apart: their ability to bear children. Fertile females commanded a premium. The mother-child link also proved important for pricing in a different way: people sometimes paid more for intact families.


Source: Fogel and Engerman (1974)

Other Characteristics and Price

Skills, physical traits, mental capabilities, and other qualities also helped determine a slave’s price. Skilled workers sold for premiums of 40-55 percent whereas crippled and chronically ill slaves sold for deep discounts. Slaves who proved troublesome — runaways, thieves, layabouts, drunks, slow learners, and the like — also sold for lower prices. Taller slaves cost more, perhaps because height acts as a proxy for healthiness. In New Orleans, light-skinned females (who were often used as concubines) sold for a 5 percent premium.

Fluctuations in Supply

Prices for slaves fluctuated with market conditions as well as with individual characteristics. U.S. slave prices fell around 1800 as the Haitian revolution sparked the movement of slaves into the Southern states. Less than a decade later, slave prices climbed when the international slave trade was banned, cutting off legal external supplies. Interestingly enough, among those who supported the closing of the trans-Atlantic slave trade were several Southern slaveowners. Why this apparent anomaly? Because the resulting reduction in supply drove up the prices of slaves already living in the U.S and, hence, their masters’ wealth. U.S. slaves had high enough fertility rates and low enough mortality rates to reproduce themselves, so Southern slaveowners did not worry about having too few slaves to go around.

Fluctuations in Demand

Demand helped determine prices as well. The demand for slaves derived in part from the demand for the commodities and services that slaves provided. Changes in slave occupations and variability in prices for slave-produced goods therefore created movements in slave prices. As slaves replaced increasingly expensive indentured servants in the New World, their prices went up. In the period 1748 to 1775, slave prices in British America rose nearly 30 percent. As cotton prices fell in the 1840s, Southern slave prices also fell. But, as the demand for cotton and tobacco grew after about 1850, the prices of slaves increased as well.

Interregional Price Differences

Differences in demand across regions led to transitional regional price differences, which in turn meant large movements of slaves. Yet because planters experienced greater stability among their workforce when entire plantations moved, 84 percent of slaves were taken to the lower South in this way rather than being sold piecemeal.

Time of Year and Price

Demand sometimes had to do with the time of year a sale took place. For example, slave prices in the New Orleans market were 10 to 20 percent higher in January than in September. Why? September was a busy time of year for plantation owners: the opportunity cost of their time was relatively high. Prices had to be relatively low for them to be willing to travel to New Orleans during harvest time.

Expectations and Prices

One additional demand factor loomed large in determining slave prices: the expectation of continued legal slavery. As the American Civil War progressed, prices dropped dramatically because people could not be sure that slavery would survive. In New Orleans, prime male slaves sold on average for $1381 in 1861 and for $1116 in 1862. Burgeoning inflation meant that real prices fell considerably more. By war’s end, slaves sold for a small fraction of their 1860 price.


Source: Data supplied by Stanley Engerman and reported in Walton and Rockoff (1994).

PROFITABILITY, EFFICIENCY, AND EXPLOITATION

That slavery was profitable seems almost obvious. Yet scholars have argued furiously about this matter. On one side stand antebellum writers such as Hinton Rowan Helper and Frederick Law Olmstead, many antebellum abolitionists, and contemporary scholars like Eugene Genovese (at least in his early writings), who speculated that American slavery was unprofitable, inefficient, and incompatible with urban life. On the other side are scholars who have marshaled masses of data to support their contention that Southern slavery was profitable and efficient relative to free labor and that slavery suited cities as well as farms. These researchers stress the similarity between slave markets and markets for other sorts of capital.

Consensus That Slavery Was Profitable

This battle has largely been won by those who claim that New World slavery was profitable. Much like other businessmen, New World slaveowners responded to market signals — adjusting crop mixes, reallocating slaves to more profitable tasks, hiring out idle slaves, and selling slaves for profit. One well-known instance shows that contemporaneous free labor thought that urban slavery may even have worked too well: employees of the Tredegar Iron Works in Richmond, Virginia, went out on their first strike in 1847 to protest the use of slave labor at the Works.

Fogel and Engerman’s Time on the Cross

Carrying the banner of the “slavery was profitable” camp is Nobel laureate Robert Fogel. Perhaps the most controversial book ever written about American slavery is Time on the Cross, published in 1974 by Fogel and co-author Stanley Engerman. These men were among the first to use modern statistical methods, computers, and large datasets to answer a series of empirical questions about the economics of slavery. To find profit levels and rates of return, they built upon the work of Alfred Conrad and John Meyer, who in 1958 had calculated similar measures from data on cotton prices, physical yield per slave, demographic characteristics of slaves (including expected lifespan), maintenance and supervisory costs, and (in the case of females) number of children. To estimate the relative efficiency of farms, Fogel and Engerman devised an index of “total factor productivity,” which measured the output per average unit of input on each type of farm. They included in this index controls for quality of livestock and land and for age and sex composition of the workforce, as well as amounts of output, labor, land, and capital

Time on the Cross generated praise — and considerable criticism. A major critique appeared in 1976 as a collection of articles entitled Reckoning with Slavery. Although some contributors took umbrage at the tone of the book and denied that it broke new ground, others focused on flawed and insufficient data and inappropriate inferences. Despite its shortcomings, Time on the Cross inarguably brought people’s attention to a new way of viewing slavery. The book also served as a catalyst for much subsequent research. Even Eugene Genovese, long an ardent proponent of the belief that Southern planters had held slaves for their prestige value, finally acknowledged that slavery was probably a profitable enterprise. Fogel himself refined and expanded his views in a 1989 book, Without Consent or Contract.

Efficiency Estimates

Fogel’s and Engerman’s research led them to conclude that investments in slaves generated high rates of return, masters held slaves for profit motives rather than for prestige, and slavery thrived in cities and rural areas alike. They also found that antebellum Southern farms were 35 percent more efficient overall than Northern ones and that slave farms in the New South were 53 percent more efficient than free farms in either North or South. This would mean that a slave farm that is otherwise identical to a free farm (in terms of the amount of land, livestock, machinery and labor used) would produce output worth 53 percent more than the free. On the eve of the Civil War, slavery flourished in the South and generated a rate of economic growth comparable to that of many European countries, according to Fogel and Engerman. They also discovered that, because slaves constituted a considerable portion of individual wealth, masters fed and treated their slaves reasonably well. Although some evidence indicates that infant and young slaves suffered much worse conditions than their freeborn counterparts, teenaged and adult slaves lived in conditions similar to — sometimes better than — those enjoyed by many free laborers of the same period.

Transition from Indentured Servitude to Slavery

One potent piece of evidence supporting the notion that slavery provides pecuniary benefits is this: slavery replaces other labor when it becomes relatively cheaper. In the early U.S. colonies, for example, indentured servitude was common. As the demand for skilled servants (and therefore their wages) rose in England, the cost of indentured servants went up in the colonies. At the same time, second-generation slaves became more productive than their forebears because they spoke English and did not have to adjust to life in a strange new world. Consequently, the balance of labor shifted away from indentured servitude and toward slavery.

Gang System

The value of slaves arose in part from the value of labor generally in the antebellum U.S. Scarce factors of production command economic rent, and labor was by far the scarcest available input in America. Moreover, a large proportion of the reward to owning and working slaves resulted from innovative labor practices. Certainly, the use of the “gang” system in agriculture contributed to profits in the antebellum period. In the gang system, groups of slaves perfomed synchronized tasks under the watchful overseer’s eye, much like parts of a single machine. Masters found that treating people like machinery paid off handsomely.

Antebellum slaveowners experimented with a variety of other methods to increase productivity. They developed an elaborate system of “hand ratings” in order to improve the match between the slave worker and the job. Hand ratings categorized slaves by age and sex and rated their productivity relative to that of a prime male field hand. Masters also capitalized on the native intelligence of slaves by using them as agents to receive goods, keep books, and the like.

Use of Positive Incentives

Masters offered positive incentives to make slaves work more efficiently. Slaves often had Sundays off. Slaves could sometimes earn bonuses in cash or in kind, or quit early if they finished tasks quickly. Some masters allowed slaves to keep part of the harvest or to work their own small plots. In places, slaves could even sell their own crops. To prevent stealing, however, many masters limited the products that slaves could raise and sell, confining them to corn or brown cotton, for example. In antebellum Louisiana, slaves even had under their control a sum of money called a peculium. This served as a sort of working capital, enabling slaves to establish thriving businesses that often benefited their masters as well. Yet these practices may have helped lead to the downfall of slavery, for they gave slaves a taste of freedom that left them longing for more.

Slave Families

Masters profited from reproduction as well as production. Southern planters encouraged slaves to have large families because U.S. slaves lived long enough — unlike those elsewhere in the New World — to generate more revenue than cost over their lifetimes. But researchers have found little evidence of slave breeding; instead, masters encouraged slaves to live in nuclear or extended families for stability. Lest one think sentimentality triumphed on the Southern plantation, one need only recall the willingness of most masters to sell if the bottom line was attractive enough.

Profitability and African Heritage

One element that contributed to the profitability of New World slavery was the African heritage of slaves. Africans, more than indigenous Americans, were accustomed to the discipline of agricultural practices and knew metalworking. Some scholars surmise that Africans, relative to Europeans, could better withstand tropical diseases and, unlike Native Americans, also had some exposure to the European disease pool.

Ease of Identifying Slaves

Perhaps the most distinctive feature of Africans, however, was their skin color. Because they looked different from their masters, their movements were easy to monitor. Denying slaves education, property ownership, contractual rights, and other things enjoyed by those in power was simple: one needed only to look at people to ascertain their likely status. Using color was a low-cost way of distinguishing slaves from free persons. For this reason, the colonial practices that freed slaves who converted to Christianity quickly faded away. Deciphering true religious beliefs is far more difficult than establishing skin color. Other slave societies have used distinguishing marks like brands or long hair to denote slaves, yet color is far more immutable and therefore better as a cheap way of keeping slaves separate. Skin color, of course, can also serve as a racist identifying mark even after slavery itself disappears.

Profit Estimates

Slavery never generated superprofits, because people always had the option of putting their money elsewhere. Nevertheless, investment in slaves offered a rate of return — about 10 percent — that was comparable to returns on other assets. Slaveowners were not the only ones to reap rewards, however. So too did cotton consumers who enjoyed low prices and Northern entrepreneurs who helped finance plantation operations.

Exploitation Estimates

So slavery was profitable; was it an efficient way of organizing the workforce? On this question, considerable controversy remains. Slavery might well have profited masters, but only because they exploited their chattel. What is more, slavery could have locked people into a method of production and way of life that might later have proven burdensome.

Fogel and Engerman (1974) claimed that slaves kept about ninety percent of what they produced. Because these scholars also found that agricultural slavery produced relatively more output for a given set of inputs, they argued that slaves may actually have shared in the overall material benefits resulting from the gang system. Other scholars contend that slaves in fact kept less than half of what they produced and that slavery, while profitable, certainly was not efficient. On the whole, current estimates suggest that the typical slave received only about fifty percent of the extra output that he or she produced.

Did Slavery Retard Southern Economic Development?

Gavin Wright (1978) called attention as well to the difference between the short run and the long run. He noted that slaves accounted for a very large proportion of most masters’ portfolios of assets. Although slavery might have seemed an efficient means of production at a point in time, it tied masters to a certain system of labor which might not have adapted quickly to changed economic circumstances. This argument has some merit. Although the South’s growth rate compared favorably with that of the North in the antebellum period, a considerable portion of wealth was held in the hands of planters. Consequently, commercial and service industries lagged in the South. The region also had far less rail transportation than the North. Yet many plantations used the most advanced technologies of the day, and certain innovative commercial and insurance practices appeared first in transactions involving slaves. What is more, although the South fell behind the North and Great Britain in its level of manufacturing, it compared favorably to other advanced countries of the time. In sum, no clear consensus emerges as to whether the antebellum South created a standard of living comparable to that of the North or, if it did, whether it could have sustained it.

Ultimately, the South’s system of law, politics, business, and social customs strengthened the shackles of slavery and reinforced racial stereotyping. As such, it was undeniably evil. Yet, because slaves constituted valuable property, their masters had ample incentives to take care of them. And, by protecting the property rights of masters, slave law necessarily sheltered the persons embodied within. In a sense, the apologists for slavery were right: slaves sometimes fared better than free persons because powerful people had a stake in their well-being.

Conclusion: Slavery Cannot Be Seen As Benign

But slavery cannot be thought of as benign. In terms of material conditions, diet, and treatment, Southern slaves may have fared as well in many ways as the poorest class of free citizens. Yet the root of slavery is coercion. By its very nature, slavery involves involuntary transactions. Slaves are property, whereas free laborers are persons who make choices (at times constrained, of course) about the sort of work they do and the number of hours they work.

The behavior of former slaves after abolition clearly reveals that they cared strongly about the manner of their work and valued their non-work time more highly than masters did. Even the most benevolent former masters in the U.S. South found it impossible to entice their former chattels back into gang work, even with large wage premiums. Nor could they persuade women back into the labor force: many female ex-slaves simply chose to stay at home. In the end, perhaps slavery is an economic phenomenon only because slave societies fail to account for the incalculable costs borne by the slaves themselves.

REFERENCES AND FURTHER READING

For studies pertaining to the economics of slavery, see particularly Aitken, Hugh, editor. Did Slavery Pay? Readings in the Economics of Black Slavery in the United States. Boston: Houghton-Mifflin, 1971.

Barzel, Yoram. “An Economic Analysis of Slavery.” Journal of Law and Economics 20 (1977): 87-110.

Conrad, Alfred H., and John R. Meyer. The Economics of Slavery and Other Studies. Chicago: Aldine, 1964.

David, Paul A., Herbert G. Gutman, Richard Sutch, Peter Temin, and Gavin Wright. Reckoning with Slavery: A Critical Study in the Quantitative History of American Negro Slavery. New York: Oxford University Press, 1976

Fogel , Robert W. Without Consent or Contract. New York: Norton, 1989.

Fogel, Robert W., and Stanley L. Engerman. Time on the Cross: The Economics of American Negro Slavery. New York: Little, Brown, 1974.

Galenson, David W. Traders, Planters, and Slaves: Market Behavior in Early English America. New York: Cambridge University Press, 1986

Kotlikoff, Laurence. “The Structure of Slave Prices in New Orleans, 1804-1862.” Economic Inquiry 17 (1979): 496-518.

Ransom, Roger L., and Richard Sutch. One Kind of Freedom: The Economic Consequences of Emancipation. New York: Cambridge University Press, 1977.

Ransom, Roger L., and Richard Sutch “Capitalists Without Capital” Agricultural History 62 (1988): 133-160.

Vedder, Richard K. “The Slave Exploitation (Expropriation) Rate.” Explorations in Economic History 12 (1975): 453-57.

Wright, Gavin. The Political Economy of the Cotton South: Households, Markets, and Wealth in the Nineteenth Century. New York: Norton, 1978.

Yasuba, Yasukichi. “The Profitability and Viability of Slavery in the U.S.” Economic Studies Quarterly 12 (1961): 60-67.

For accounts of slave trading and sales, see
Bancroft, Frederic. Slave Trading in the Old South. New York: Ungar, 1931. Tadman, Michael. Speculators and Slaves. Madison: University of Wisconsin Press, 1989.

For discussion of the profession of slave catchers, see
Campbell, Stanley W. The Slave Catchers. Chapel Hill: University of North Carolina Press, 1968.

To read about slaves in industry and urban areas, see
Dew, Charles B. Slavery in the Antebellum Southern Industries. Bethesda: University Publications of America, 1991.

Goldin, Claudia D. Urban Slavery in the American South, 1820-1860: A Quantitative History. Chicago: University of Chicago Press,1976.

Starobin, Robert. Industrial Slavery in the Old South. New York: Oxford University Press, 1970.

For discussions of masters and overseers, see
Oakes, James. The Ruling Race: A History of American Slaveholders. New York: Knopf, 1982.

Roark, James L. Masters Without Slaves. New York: Norton, 1977.

Scarborough, William K. The Overseer: Plantation Management in the Old South. Baton Rouge, Louisiana State University Press, 1966.

On indentured servitude, see
Galenson, David. “Rise and Fall of Indentured Servitude in the Americas: An Economic Analysis.” Journal of Economic History 44 (1984): 1-26.

Galenson, David. White Servitude in Colonial America: An Economic Analysis. New York: Cambridge University Press, 1981.

Grubb, Farley. “Immigrant Servant Labor: Their Occupational and Geographic Distribution in the Late Eighteenth Century Mid-Atlantic Economy.” Social Science History 9 (1985): 249-75.

Menard, Russell R. “From Servants to Slaves: The Transformation of the Chesapeake Labor System.” Southern Studies 16 (1977): 355-90.

On slave law, see
Fede, Andrew. “Legal Protection for Slave Buyers in the U.S. South.” American Journal of Legal History 31 (1987). Finkelman, Paul. An Imperfect Union: Slavery, Federalism, and Comity. Chapel Hill: University of North Carolina, 1981.

Finkelman, Paul. Slavery, Race, and the American Legal System, 1700-1872. New York: Garland, 1988.

Finkelman, Paul, ed. Slavery and the Law. Madison: Madison House, 1997.

Flanigan, Daniel J. The Criminal Law of Slavery and Freedom, 1800-68. New York: Garland, 1987.

Morris, Thomas D., Southern Slavery and the Law: 1619-1860. Chapel Hill: University of North Carolina Press, 1996.

Schafer, Judith K. Slavery, The Civil Law, and the Supreme Court of Louisiana. Baton Rouge: Louisiana State University Press, 1994.

Tushnet, Mark V. The American Law of Slavery, 1810-60: Considerations of Humanity and Interest. Princeton: Princeton University Press, 1981.

Wahl, Jenny B. The Bondsman’s Burden: An Economic Analysis of the Common Law of Southern Slavery. New York: Cambridge University Press, 1998.

Other useful sources include
Berlin, Ira, and Philip D. Morgan, eds. The Slave’s Economy: Independent Production by Slaves in the Americas. London: Frank Cass, 1991.

Berlin, Ira, and Philip D. Morgan, eds, Cultivation and Culture: Labor and the Shaping of Slave Life in the Americas. Charlottesville, University Press of Virginia, 1993.

Elkins, Stanley M. Slavery: A Problem in American Institutional and Intellectual Life. Chicago: University of Chicago Press, 1976.

Engerman, Stanley, and Eugene Genovese. Race and Slavery in the Western Hemisphere: Quantitative Studies. Princeton: Princeton University Press, 1975.

Fehrenbacher, Don. Slavery, Law, and Politics. New York: Oxford University Press, 1981.

Franklin, John H. From Slavery to Freedom. New York: Knopf, 1988.

Genovese, Eugene D. Roll, Jordan, Roll. New York: Pantheon, 1974.

Genovese, Eugene D. The Political Economy of Slavery: Studies in the Economy and Society of the Slave South . Middletown, CT: Wesleyan, 1989.

Hindus, Michael S. Prison and Plantation. Chapel Hill: University of North Carolina Press, 1980.

Margo, Robert, and Richard Steckel. “The Heights of American Slaves: New Evidence on Slave Nutrition and Health.” Social Science History 6 (1982): 516-538.

Phillips, Ulrich B. American Negro Slavery: A Survey of the Supply, Employment and Control of Negro Labor as Determined by the Plantation Regime. New York: Appleton, 1918.

Stampp, Kenneth M. The Peculiar Institution: Slavery in the Antebellum South. New York: Knopf, 1956.

Steckel, Richard. “Birth Weights and Infant Mortality Among American Slaves.” Explorations in Economic History 23 (1986): 173-98.

Walton, Gary, and Hugh Rockoff. History of the American Economy. Orlando: Harcourt Brace, 1994, chapter 13.

Whaples, Robert. “Where Is There Consensus among American Economic Historians?” Journal of Economic History 55 (1995): 139-154.

Data can be found at
U.S. Bureau of the Census, Historical Statistics of the United States, 1970, collected in ICPSR study number 0003, “Historical Demographic, Economic and Social Data: The United States, 1790-1970,” located at http://fisher.lib.virginia.edu/census/.

Citation: Bourne, Jenny. “Slavery in the United States”. EH.Net Encyclopedia, edited by Robert Whaples. March 26, 2008. URL http://eh.net/encyclopedia/slavery-in-the-united-states/

Economic History of Retirement in the United States

Joanna Short, Augustana College

One of the most striking changes in the American labor market over the twentieth century has been the virtual disappearance of older men from the labor force. Moen (1987) and Costa (1998) estimate that the labor force participation rate of men age 65 and older declined from 78 percent in 1880 to less than 20 percent in 1990 (see Table 1). In recent decades, the labor force participation rate of somewhat younger men (age 55-64) has been declining as well. When coupled with the increase in life expectancy over this period, it is clear that men today can expect to spend a much larger proportion of their lives in retirement, relative to men living a century ago.

Table 1

Labor Force Participation Rates of Men Age 65 and Over

Year Labor Force Participation Rate (percent)
1850 76.6
1860 76.0
1870 —–
1880 78.0
1890 73.8
1900 65.4
1910 58.1
1920 60.1
1930 58.0
1940 43.5
1950 47.0
1960 40.8
1970 35.2
1980 24.7
1990 18.4
2000 17.5

Sources: Moen (1987), Costa (1998), Bureau of Labor Statistics

Notes: Prior to 1940, ‘gainful employment’ was the standard the U.S. Census used to determine whether or not an individual was working. This standard is similar to the ‘labor force participation’ standard used since 1940. With the exception of the figure for 2000, the data in the table are based on the gainful employment standard.

How can we explain the rise of retirement? Certainly, the development of government programs like Social Security has made retirement more feasible for many people. However, about half of the total decline in the labor force participation of older men from 1880 to 1990 occurred before the first Social Security payments were made in 1940. Therefore, factors other than the Social Security program have influenced the rise of retirement.

In addition to the increase in the prevalence of retirement over the twentieth century, the nature of retirement appears to have changed. In the late nineteenth century, many retirements involved a few years of dependence on children at the end of life. Today, retirement is typically an extended period of self-financed independence and leisure. This article documents trends in the labor force participation of older men, discusses the decision to retire, and examines the causes of the rise of retirement including the role of pensions and government programs.

Trends in U.S. Retirement Behavior

Trends by Gender

Research on the history of retirement focuses on the behavior of men because retirement, in the sense of leaving the labor force permanently in old age after a long career, is a relatively new phenomenon among women. Goldin (1990) concludes that “even as late as 1940, most young working women exited the labor force on marriage, and only a small minority would return.” The employment of married women accelerated after World War II, and recent evidence suggests that the retirement behavior of men and women is now very similar. Gendell (1998) finds that the average age at exit from the labor force in the U.S. was virtually identical for men and women from 1965 to 1995.

Trends by Race and Region

Among older men at the beginning of the twentieth century, labor force participation rates varied greatly by race, region of residence, and occupation. In the early part of the century, older black men were much more likely to be working than older white men. In 1900, for example, 84.1 percent of black men age 65 and over and 64.4 percent of white men were in the labor force. The racial retirement gap remained at about twenty percentage points until 1920, then narrowed dramatically by 1950. After 1950, the racial retirement gap reversed. In recent decades older black men have been slightly less likely to be in the labor force than older white men (see Table 2).

Table 2

Labor Force Participation Rates of Men Age 65 and Over, by Race

Labor Force Participation Rate (percent)
Year White Black
1880 76.7 87.3
1890 —- —-
1900 64.4 84.1
1910 58.5 86.0
1920 57.0 76.8
1930 —- —-
1940 44.1 54.6
1950 48.7 51.3
1960 40.3 37.3
1970 36.6 33.8
1980 27.1 23.7
1990 18.6 15.7
2000 17.8 16.6

Sources: Costa (1998), Bureau of Labor Statistics

Notes: Census data are unavailable for the years 1890 and 1930.

With the exception of the figures for 2000, participation rates are based on the gainful employment standard

Similarly, the labor force participation rate of men age 65 and over living in the South was higher than that of men living in the North in the early twentieth century. In 1900, for example, the labor force participation rate for older Southerners was sixteen percentage points higher than for Northerners. The regional retirement gap began to narrow between 1910 and 1920, and narrowed substantially by 1940 (see Table 3).

Table 3

Labor Force Participation Rates of Men Age 65 and Over, by Region

Labor Force Participation Rate (percent)
Year North South
1880 73.7 85.2
1890 —- —-
1900 66.0 82.9
1910 56.6 72.8
1920 58.8 69.9
1930 —- —-
1940 42.8 49.4
1950 43.2 42.9

Source: Calculated from Ruggles and Sobek, Integrated Public Use Microdata Series for 1880, 1900, 1910, 1920, 1940, and 1950, Version 2.0, 1997

Note: North includes the New England, Middle Atlantic, and North Central regions

South includes the South Atlantic and South Central regions

Differences in retirement behavior by race and region of residence are related. One reason Southerners appear less likely to retire in the late nineteenth and early twentieth centuries is that a relatively large proportion of Southerners were black. In 1900, 90 percent of black households were located in the South (see Maloney on African Americans in this Encyclopedia). In the early part of the century, black men were effectively excluded from skilled occupations. The vast majority worked for low pay as tenant farmers or manual laborers. Even controlling for race, southern per capita income lagged behind the rest of the nation well into the twentieth century. Easterlin (1971) estimates that in 1880, per capita income in the South was only half that in the Midwest, and per capita income remained less than 70 percent of the Midwestern level until 1950. Lower levels of income among blacks, and in the South as a whole during this period, may have made it more difficult for these men to accumulate resources sufficient to rely on in retirement.

Trends by Occupation

Older men living on farms have long been more likely to be working than men living in nonfarm households. In 1900, for example, 80.6 percent of farm residents and 62.7 percent of nonfarm residents over the age of 65 were in the labor force. Durand (1948), Graebner (1980), and others have suggested that older farmers could remain in the labor force longer than urban workers because of help from children or hired labor. Urban workers, on the other hand, were frequently forced to retire once they became physically unable to keep up with the pace of industry.

Despite the large difference in the labor force participation rates of farm and nonfarm residents, the actual gap in the retirement rates of farmers and nonfarmers was not that great. Confusion on this issue stems from the fact that the labor force participation rate of farm residents does not provide a good representation of the retirement behavior of farmers. Moen (1994) and Costa (1995a) point out that farmers frequently moved off the farm in retirement. When the comparison is made by occupation, farmers have labor force participation rates only slightly higher than laborers or skilled workers. Lee (2002) finds that excluding the period 1900-1910 (a period of exceptional growth in the value of farm property), the labor force participation rate of older farmers was on average 9.3 percentage points higher than that of nonfarmers from 1880-1940.

Trends in Living Arrangements

In addition to the overall rise of retirement, and the closing of differences in retirement behavior by race and region, over the twentieth century retired men became much more independent. In 1880, nearly half of retired men lived with children or other relatives. Today, fewer than 5 percent of retired men live with relatives. Costa (1998) finds that between 1910 and 1940, men who were older, had a change in marital status (typically from married to widowed), or had low income were much more likely to live with family members as a dependent. Rising income appears to explain most of the movement away from coresidence, suggesting that the elderly have always preferred to live by themselves, but they have only recently had the means to do so.

Explaining Trends in the Retirement Decision

One way to understand the rise of retirement is to consider the individual retirement decision. In order to retire permanently from the labor force, one must have enough resources to live on to the end of the expected life span. In retirement, one can live on pension income, accumulated savings, and anticipated contributions from family and friends. Without at least the minimum amount of retirement income necessary to survive, the decision-maker has little choice but to remain in the labor force. If the resource constraint is met, individuals choose to retire once the net benefits of retirement (e.g., leisure time) exceed the net benefits of working (labor income less the costs associated with working). From this model, we can predict that anything that increases the costs associated with working, such as advancing age, an illness, or a disability, will increase the probability of retirement. Similarly, an increase in pension income increases the probability of retirement in two ways. First, an increase in pension income makes it more likely the resource constraint will be satisfied. In addition, higher pension income makes it possible to enjoy more leisure in retirement, thereby increasing the net benefits of retirement.

Health Status

Empirically, age, disability, and pension income have all been shown to increase the probability that an individual is retired. In the context of the individual model, we can use this observation to explain the overall rise of retirement. Disability, for example, has been shown to increase the probability of retirement, both today and especially in the past. However, it is unlikely that the rise of retirement was caused by increases in disability rates — advances in health have made the overall population much healthier. Costa (1998), for example, shows that chronic conditions were much more prevalent for the elderly born in the nineteenth century than for men born in the twentieth century.

The Decline of Agriculture

Older farmers are somewhat more likely to be in the labor force than nonfarmers. Furthermore, the proportion of people employed in agriculture has declined steadily, from 51 percent of the work force in 1880, to 17 percent in 1940, to about 2 percent today (Lebergott, 1964). Therefore, as argued by Durand (1948), the decline in agriculture could explain the rise in retirement. Lee (2002) finds, though, that the decline of agriculture only explains about 20 percent of the total rise of retirement from 1880 to 1940. Since most of the shift away from agricultural work occurred before 1940, the decline of agriculture explains even less of the retirement trend since 1940. Thus, the occupational shift away from farming explains part of the rise of retirement. However, the underlying trend has been a long-term increase in the probability of retirement within all occupations.

Rising Income: The Most Likely Explanation

The most likely explanation for the rise of retirement is the overall increase in income, both from labor market earnings and from pensions. Costa (1995b) has shown that the pension income received by Union Army veterans in the early twentieth century had a strong effect on the probability that the veteran was retired. Over the period from 1890 to 1990, economic growth has led to nearly an eightfold increase in real gross domestic product (GDP) per capita. In 1890, GDP per capita was $3430 (in 1996 dollars), which is comparable to the levels of production in Morocco or Jamaica today. In 1990, real GDP per capita was $26,889. On average, Americans today enjoy a standard of living commensurate with eight times the income of Americans living a century ago. More income has made it possible to save for an extended retirement.

Rising income also explains the closing of differences in retirement behavior by race and region by the 1950s. Early in the century blacks and Southerners earned much lower income than Northern whites, but these groups made substantial gains in earnings by 1950. In the second half of the twentieth century, the increasing availability of pension income has also made retirement more attractive. Expansions in Social Security benefits, Medicare, and growth in employer-provided pensions all serve to increase the income available to people in retirement.

Costa (1998) has found that income is now less important to the decision to retire than it once was. In the past, only the rich could afford to retire. Income is no longer a binding constraint. One reason is that Social Security provides a safety net for those who are unable or unwilling to save for retirement. Another reason is that leisure has become much cheaper over the last century. Television, for example, allows people to enjoy concerts and sporting events at a very low price. Golf courses and swimming pools, once available only to the rich, are now publicly provided. Meanwhile, advances in health have allowed people to enjoy leisure and travel well into old age. All of these factors have made retirement so much more attractive that people of all income levels now choose to leave the labor force in old age.

Financing Retirement

Rising income also provided the young with a new strategy for planning for old age and retirement. Ransom and Sutch (1986a,b) and Sundstrom and David (1988) hypothesize that in the nineteenth century men typically used the promise of a bequest as an incentive for children to help their parents in old age. As more opportunities for work off the farm became available, children left home and defaulted on the implicit promise to care for retired parents. Children became an unreliable source of old age support, so parents stopped relying on children — had fewer babies — and began saving (in bank accounts) for retirement.

To support the “babies-to-bank accounts” theory, Sundstrom and David look for evidence of an inheritance-for-old age support bargain between parents and children. They find that many wills, particularly in colonial New England and some ethnic communities in the Midwest, included detailed clauses specifying the care of the surviving parent. When an elderly parent transferred property directly to a child, the contracts were particularly specific, often specifying the amount of food and firewood with which the parent was to be supplied. There is also some evidence that people viewed children and savings as substitute strategies for retirement planning. Haines (1985) uses budget studies from northern industrial workers in 1890 and finds a negative relationship between the number of children and the savings rate. Short (2001) conducts similar studies for southern men that indicate the two strategies were not substitutes until at least 1920. This suggests that the transition from babies to bank accounts occurred later in the South, only as income began to approach northern levels.

Pensions and Government Retirement Programs

Military and Municipal Pensions (1781-1934)

In addition to the rise in labor market income, the availability of pension income greatly increased with the development of Social Security and the expansion of private (employer-provided) pensions. In the U.S., public (government-provided) pensions originated with the military pensions that have been available to disabled veterans and widows since the colonial era. Military pensions became available to a large proportion of Americans after the Civil War, when the federal government provided pensions to Union Army widows and veterans disabled in the war. The Union Army pension program expanded greatly as a result of the Pension Act of 1890. As a result of this law, pensions were available for all veterans age 65 and over who had served more than 90 days and were honorably discharged, regardless of current employment status. In 1900, about 20 percent of all white men age 55 and over received a Union Army pension. The Union Army pension was generous even by today’s standards. Costa (1995b) finds that the average pension replaced about 30 percent of the income of a laborer. At its peak of nearly one million pensioners in 1902, the program consumed about 30 percent of the federal budget.

Each of the formerly Confederate states also provided pensions to its Confederate veterans. Most southern states began paying pensions to veterans disabled in the war and to war widows around 1880. These pensions were gradually liberalized to include most poor or disabled veterans and their widows. Confederate veteran pensions were much less generous than Union Army pensions. By 1910, the average Confederate pension was only about one-third the amount awarded to the average Union veteran.

By the early twentieth century, state and municipal governments also began paying pensions to their employees. Most major cities provided pensions for their firemen and police officers. By 1916, 33 states had passed retirement provisions for teachers. In addition, some states provided limited pensions to poor elderly residents. By 1934, 28 states had established these pension programs (See Craig in this Encyclopedia for more on public pensions).

Private Pensions (1875-1934)

As military and civil service pensions became available to more men, private firms began offering pensions to their employees. The American Express Company developed the first formal pension in 1875. Railroads, among the largest employers in the country, also began providing pensions in the late nineteenth century. Williamson (1992) finds that early pension plans, like that of the Pennsylvania Railroad, were funded entirely by the employer. Thirty years of service were required to qualify for a pension, and retirement was mandatory at age 70. Because of the lengthy service requirement and mandatory retirement provision, firms viewed pensions as a way to reduce labor turnover and as a more humane way to remove older, less productive employees. In addition, the 1926 Revenue Act excluded from current taxation all income earned in pension trusts. This tax advantage provided additional incentive for firms to provide pensions. By 1930, a majority of large firms had adopted pension plans, covering about 20 percent of all industrial workers.

In the early twentieth century, labor unions also provided pensions to their members. By 1928, thirteen unions paid pension benefits. Most of these were craft unions, whose members were typically employed by smaller firms that did not provide pensions.

Most private pensions survived the Great Depression. Exceptions were those plans that were funded under a ‘pay as you go’ system — where benefits were paid out of current earnings, rather than from built-up reserves. Many union pensions were financed under this system, and hence failed in the 1930s. Thanks to strong political allies, the struggling railroad pensions were taken over by the federal government in 1937.

Social Security (1935-1991)

The Social Security system was designed in 1935 to extend pension benefits to those not covered by a private pension plan. The Social Security Act consisted of two programs, Old Age Assistance (OAA) and Old Age Insurance (OAI). The OAA program provided federal matching funds to subsidize state old age pension programs. The availability of federal funds quickly motivated many states to develop a pension program or to increase benefits. By 1950, 22 percent of the population age 65 and over received OAA benefits. The OAA program peaked at this point, though, as the newly liberalized OAI program began to dominate Social Security. The OAI program is administered by the federal government, and financed by payroll taxes. Retirees (and later, survivors, dependents of retirees, and the disabled) who have paid into the system are eligible to receive benefits. The program remained small until 1950, when coverage was extended to include farm and domestic workers, and average benefits were increased by 77 percent. In 1965, the Social Security Act was amended to include Medicare, which provides health insurance to the elderly. The Social Security program continued to expand in the late 1960s and early 1970s — benefits increased 13 percent in 1968, another 15 percent in 1969, and 20 percent in 1972.

In the late 1970s and early 1980s Congress was finally forced to slow the growth of Social Security benefits, as the struggling economy introduced the possibility that the program would not be able to pay beneficiaries. In 1977, the formula for determining benefits was adjusted downward. Reforms in 1983 included the delay of a cost-of-living adjustment, the taxation of up to half of benefits, and payroll tax increases.

Today, Social Security benefits are the main source of retirement income for most retirees. Poterba, Venti, and Wise (1994) find that Social Security wealth was three times as large as all the other financial assets of those age 65-69 in 1991. The role of Social Security benefits in the budgets of elderly households varies greatly. In elderly households with less than $10,000 in income in 1990, 75 percent of income came from Social Security. Higher income households gain larger shares of income from earnings, asset income, and private pensions. In households with $30,000 to $50,000 in income, less than 30 percent was derived from Social Security.

The Growth of Private Pensions (1935-2000)

Even in the shadow of the Social Security system, employer-provided pensions continued to grow. The Wage and Salary Act of 1942 froze wages in an attempt to contain wartime inflation. In order to attract employees in a tight labor market, firms increasingly offered generous pensions. Providing pensions had the additional benefit that the firm’s contributions were tax deductible. Therefore, pensions provided firms with a convenient tax shelter from high wartime tax rates. From 1940 to 1960, the number of people covered by private pensions increased from 3.7 million to 23 million, or to nearly 30 percent of the labor force.

In the 1960s and 1970s, the federal government acted to regulate private pensions, and to provide tax incentives (like those for employer-provided pensions) for those without access to private pensions to save for retirement. Since 1962, the self-employed have been able to establish ‘Keogh plans’ — tax deferred accounts for retirement savings. In 1974, the Employment Retirement Income Security Act (ERISA) regulated private pensions to ensure their solvency. Under this law, firms are required to follow funding requirements and to insure against unexpected events that could cause insolvency. To further level the playing field, ERISA provided those not covered by a private pension with the option of saving in a tax-deductible Individual Retirement Account (IRA). The option of saving in a tax-advantaged IRA was extended to everyone in 1981.

Over the last thirty years, the type of pension plan that firms offer employees has shifted from ‘defined benefit’ to ‘defined contribution’ plans. Defined benefit plans, like Social Security, specify the amount of benefits the retiree will receive. Defined contribution plans, on the other hand, specify only how much the employer will contribute to the plan. Actual benefits then depend on the performance of the pension investments. The switch from defined benefit to defined contribution plans therefore shifts the risk of poor investment performance from the employer to the employee. The employee stands to benefit, though, because the high long-run average returns on stock market investments may lead to a larger retirement nest egg. Recently, 401(k) plans have become a popular type of pension plan, particularly in the service industries. These plans typically involve voluntary employee contributions that are tax deductible to the employee, employer matching of these contributions, and more choice as far as how the pension is invested.

Summary and Conclusions

The retirement pattern we see today, typically involving decades of self-financed leisure, developed gradually over the last century. Economic historians have shown that rising labor market and pension income largely explain the dramatic rise of retirement. Rather than being pushed out of the labor force because of increasing obsolescence, older men have increasingly chosen to use their rising income to finance an earlier exit from the labor force. In addition to rising income, the decline of agriculture, advances in health, and the declining cost of leisure have contributed to the popularity of retirement. Rising income has also provided the young with a new strategy for planning for old age and retirement. Instead of being dependent on children in retirement, men today save for their own, more independent, retirement.

References

Achenbaum, W. Andrew. Social Security: Visions and Revisions. New York: Cambridge University Press, 1986. Bureau of Labor Statistics, cpsaat3.pdf

Costa, Dora L. The Evolution of Retirement: An American Economic History, 1880-1990. Chicago: University of Chicago Press, 1998.

Costa, Dora L. “Agricultural Decline and the Secular Rise in Male Retirement Rates.” Explorations in Economic History 32, no. 4 (1995a): 540-552.

Costa, Dora L. “Pensions and Retirement: Evidence from Union Army Veterans.” Quarterly Journal of Economics 110, no. 2 (1995b): 297-319.

Durand, John D. The Labor Force in the United States 1890-1960. New York: Gordon and Breach Science Publishers, 1948.

Easterlin, Richard A. “Interregional Differences in per Capita Income, Population, and Total Income, 1840-1950.” In Trends in the American Economy in the Nineteenth Century: A Report of the National Bureau of Economic Research, Conference on Research in Income and Wealth. Princeton, NJ: Princeton University Press, 1960.

Easterlin, Richard A. “Regional Income Trends, 1840-1950.” In The Reinterpretation of American Economic History, edited by Robert W. Fogel and Stanley L. Engerman. New York: Harper & Row, 1971.

Gendell, Murray. “Trends in Retirement Age in Four Countries, 1965-1995.” Monthly Labor Review 121, no. 8 (1998): 20-30.

Glasson, William H. Federal Military Pensions in the United States. New York: Oxford University Press, 1918.

Glasson, William H. “The South’s Pension and Relief Provisions for the Soldiers of the

Confederacy.” Publications of the North Carolina Historical Commission, Bulletin no. 23, Raleigh, 1918.

Goldin, Claudia. Understanding the Gender Gap: An Economic History of American Women. New York: Oxford University Press, 1990.

Graebner, William. A History of Retirement: The Meaning and Function of an American Institution, 1885-1978. New Haven: Yale University Press, 1980.

Haines, Michael R. “The Life Cycle, Savings, and Demographic Adaptation: Some Historical Evidence for the United States and Europe.” In Gender and the Life Course, edited by Alice S. Rossi, pp. 43-63. New York: Aldine Publishing Co., 1985.

Kingson, Eric R. and Edward D. Berkowitz. Social Security and Medicare: A Policy Primer. Westport, CT: Auburn House, 1993.

Lebergott, Stanley. Manpower in Economic Growth. New York: McGraw Hill, 1964.

Lee, Chulhee. “Sectoral Shift and the Labor-Force Participation of Older Males in the United States, 1880-1940.” Journal of Economic History 62, no. 2 (2002): 512-523.

Maloney, Thomas N. “African Americans in the Twentieth Century.” EH.Net Encyclopedia, edited by Robert Whaples, Jan 18, 2002. http://www.eh.net/encyclopedia/contents/maloney.african.american.php

Moen, Jon R. Essays on the Labor Force and Labor Force Participation Rates: The United States from 1860 through 1950. Ph.D. dissertation, University of Chicago, 1987.

Moen, Jon R. “Rural Nonfarm Households: Leaving the Farm and the Retirement of Older Men, 1860-1980.” Social Science History 18, no. 1 (1994): 55-75.

Ransom, Roger and Richard Sutch. “Babies or Bank Accounts, Two Strategies for a More Secure Old Age: The Case of Workingmen with Families in Maine, 1890.” Paper prepared for presentation at the Eleventh Annual Meeting of the Social Science History Association, St. Louis, 1986a.

Ransom, Roger L. and Richard Sutch. “Did Rising Out-Migration Cause Fertility to Decline in Antebellum New England? A Life-Cycle Perspective on Old-Age Security Motives, Child Default, and Farm-Family Fertility.” California Institute of Technology, Social Science Working Paper, no. 610, April 1986b.

Ruggles, Steven and Matthew Sobek, et al. Integrated Public Use Microdata Series: Version 2.0. Minneapolis: Historical Census Projects, University of Minnesota, 1997.

http://www.ipums.umn.edu

Short, Joanna S. “The Retirement of the Rebels: Georgia Confederate Pensions and Retirement Behavior in the New South.” Ph.D. dissertation, Indiana University, 2001.

Sundstrom, William A. and Paul A. David. “Old-Age Security Motives, Labor Markets, and Farm Family Fertility in Antebellum America.” Explorations in Economic History 25, no. 2 (1988): 164-194.

Williamson, Samuel H. “United States and Canadian Pensions before 1930: A Historical Perspective.” In Trends in Pensions, U.S. Department of Labor, Vol. 2, 1992, pp. 34-45.

Williamson, Samuel H. The Development of Industrial Pensions in the United States during the Twentieth Century. World Bank, Policy Research Department, 1995.

Citation: Short, Joanna. “Economic History of Retirement in the United States”. EH.Net Encyclopedia, edited by Robert Whaples. September 30, 2002. URL http://eh.net/encyclopedia/economic-history-of-retirement-in-the-united-states/

History of Property Taxes in the United States

Glenn W. Fisher, Wichita State University (Emeritus)

Taxes based on ownership of property were used in ancient times, but the modern tax has roots in feudal obligations owned to British and European kings or landlords. In the fourteenth and fifteenth century, British tax assessors used ownership or occupancy of property to estimate a taxpayer’s ability to pay. In time the tax came to be regarded as a tax on the property itself (in rem). In the United Kingdom the tax developed into a system of “rates” based on the annual (rental) value of property.

The growth of the property tax in America was closely related to economic and political conditions on the frontier. In pre-commercial agricultural areas the property tax was a feasible source of local government revenue and equal taxation of wealth was consistent with the prevailing equalitarian ideology.

Taxation in the American Colonies

When the Revolutionary War began, the colonies had well-developed tax systems that made a war against the world’s leading military power thinkable. The tax structure varied from colony to colony, but five kinds of taxes were widely used. Capitation (poll) taxes were levied at a fixed rate on all adult males and sometimes on slaves. Property taxes were usually specific taxes levied at fixed rates on enumerated items, but sometimes items were taxed according to value. Faculty taxes were levied on the faculty or earning capacity of persons following certain trades or having certain skills. Tariffs (imposts) were levied on goods imported or exported and excises were levied on consumption goods, especially liquor.

During the war colonial tax rates increased several fold and taxation became a matter of heated debate and some violence. Settlers far from markets complained that taxing land on a per-acre basis was unfair and demanded that property taxation be based on value. In the southern colonies light land taxes and heavy poll taxes favored wealthy landowners. In some cases, changes in the tax system caused the wealthy to complain. In New York wealthy leaders saw the excess profits tax, which had been levied on war profits, as a dangerous example of “leveling tendencies.” Owners of intangible property in New Jersey saw the tax on intangible property in a similar light.

By the end of the war, it was obvious that the concept of equality so eloquently stated in the Declaration of Independence had far-reaching implications. Wealthy leaders and ordinary men pondered the meaning of equality and asked its implications for taxation. The leaders often saw little connection among independence, political equality, and the tax system, but many ordinary men saw an opportunity to demand changes.

Constitutionalizing Uniformity in the Nineteenth Century

In 1796 seven of the fifteen states levied uniform capitation taxes. Twelve taxed some or all livestock. Land was taxed in a variety of ways, but only four states taxed the mass of property by valuation. No state constitution required that taxation be by value or required that rates on all kinds of property be uniform. In 1818, Illinois adopted the first uniformity clause. Missouri followed in 1820, and in 1834 Tennessee replaced a provision requiring that land be taxed at a uniform amount per acre with a provision that land be taxed according to its value (ad valorem). By the end of the century thirty-three states had included uniformity clauses in new constitutions or had amended old ones to include the requirement that all property be taxed equally by value. A number of other states enacted uniformity statutes requiring that all property be taxed. Table 1 summarizes this history.

Table 1 Nineteenth-Century Uniformity Provisions

(first appearance in state constitutions)

Year

Universality Provision

Illinois

1818

Yes

Missouri

1820

No

*Tennessee1

1834

Yes2

Arkansas

1836

No

Florida

1838

No

*Louisiana

1845

No

Texas

1845

Yes

Wisconsin

1848

No

California

1849

Yes

*Michigan3

1850

No

*Virginia

1850

Yes4

Indiana

1851

Yes

*Ohio

1851

Yes

Minnesota

1857

Yes

Kansas

1859

No

Oregon

1859

Yes

West Virginia

1863

Yes

Nevada

1864

Yes5

*South Carolina

1865

Yes

*Georgia

1868

No

*North Carolina

1868

Yes

*Mississippi

1869

Yes

*Maine

1875

No

*Nebraska

1875

No

*New Jersey

1875

No

Montana

1889

Yes

North Dakota

1889

Yes

South Dakota

1889

Yes

Washington

1889

Yes

Idaho6

1890

Yes

Wyoming

1890

No

*Kentucky

1891

Yes

Utah

1896

Yes

*Indicates amendment or revised constitution.

1. The Tennessee constitution of 1796 included a unique provision requiring taxation of land to be uniform per 100 acres.
2. One thousand dollars of personal property and the products of the soil in the hands of the original producer were exempt in Tennessee.
3. The Michigan provision required that the legislature provide a uniform rule of taxation except for property paying specific taxes.
4. Except for taxes on slaves.
5. Nevada exempted mining claims.
6. One provision in Idaho requires uniformity as to class, another seems to prescribe uniform taxation.
Source: Fisher (1996) 57

The political appeal of uniformity was strong, especially in the new states west of the Appalachians. A uniform tax on all wealth, administered by locally elected officials appealed to frontier settlers many of whom strongly supported the Jacksonian ideas of equality, and distrusted both centralized government and professional administrators.

The general property tax applied to all wealth — real and personal, tangible and intangible. It was administrated by elected local officials who were to determine the market value of the property, compute the tax rates necessary to raise the amount levied, compute taxes on each property, collect the tax, and remit the proceeds to the proper government. Because the tax was uniform and levied on all wealth, each taxpayer would pay for the government services he or she enjoyed in exact proportion to his wealth.

The tax and the administrative system were well adapted as a revenue source for the system of local government that grew up in the United States. Typically, the state divided itself into counties, which were given many responsibilities for administering state laws. Citizens were free to organize municipalities, school districts, and many kinds of special districts to perform additional functions. The result, especially in the states formed after the Revolution, was a large number of overlapping governments. Many were in rural areas with no business establishment. Sales or excise taxes would yield no revenue and income taxes were not feasible.

The property tax, especially the real estate tax, was ideally suited to such a situation. Real estate had a fixed location, it was visible, and its value was generally well known. Revenue could easily be allocated to the governmental unit in which the property was located.

Failure of the General Property Tax

By the beginning of the twentieth century, criticism of the uniform, universal (general) property tax was widespread. A leading student of taxation called the tax, as administered, one of the worst taxes ever used by a civilized nation (Seligman, 1905).

There are several reasons for the failure of the general property tax. Advocates of uniformity failed to deal with the problems resulting from differences between property as a legal term and wealth as an economic concept. In a simple rural economy wealth consists largely of real property and tangible personal property — land, buildings, machinery and livestock. In such an economy, wealth and property are the same things and the ownership of property is closely correlated with income or ability to pay taxes.

In a modern commercial economy ownership and control of wealth is conferred by an ownership of rights that may be evidenced by a variety of financial and legal instruments such as stocks, bonds, notes, and mortgages. These rights may confer far less than fee simple (absolute) ownership and may be owned by millions of individuals residing all over the world. Local property tax administrators lack the legal authority, skills, and resources needed to assess and collect taxes on such complex systems of property ownership.

Another problem arose from the inability or unwillingness of elected local assessors to value their neighbor’s property at full value. An assessor who valued property well below its market value and changed values infrequently was much more popular and more apt to be reelected. Finally the increasing number of wage-earners and professional people who had substantial incomes but little property made property ownership a less suitable measure of ability to pay taxes.

Reformers, led by The National Tax Association which was founded in 1907, proposed that state income taxes be enacted and that intangible property and some kinds of tangible personal property be eliminated from the property tax base. They proposed that real property be assessed by professionally trained assessors. Some advocated the classified property tax in which different rates of assessment or taxation was applied to different classes of real property.

Despite its faults, however, the tax continued to provide revenue for one of the most elaborate systems of local government in the world. Local governments included counties, municipalities of several classes, towns or townships, and school districts. Special districts were organized to provide water, irrigation, drainage, roads, parks, libraries, fire protection, health services, gopher control, and scores of other services. In some states, especially in the Midwest and Great Plains, it was not uncommon to find that property was taxed by seven or eight different governments.

Overlapping governments caused little problem for real estate taxation. Each parcel of property was coded by taxing districts and the applicable taxes applied.

Reforming the Property Tax in the Twentieth Century

Efforts to reform the property tax varied from state to state, but usually included centralized assessment of railroad and utility property and exemption or classification of some forms of property. Typically intangibles such as mortgages were taxed at lower rates, but in several states tangible personal property and real estate were also classified. In 1910 Montana divided property into six classes. Assessment rates ranged from 100 percent of the net proceeds of mines to seven percent for money and credits. Minnesota’s 1913 law divided tangible property into four classes, each assessed at a different rate. Some states replaced the town or township assessors with county assessors, and many created state agencies to supervise and train local assessors. The National Association of Assessing Officers (later International Association of Assessing Officers) was organized in 1934 to develop better assessment methods and to train and certify assessors.

The depression years after 1929 resulted in widespread property tax delinquency and in several states taxpayers forcibly resisted the sale of tax delinquent property. State governments placed additional limits on property tax rates and several states exempted owner-occupied residence from taxation. These homestead exemptions were later criticized because they provided large amounts of relief to wealthy homeowners and disproportionally reduced the revenue of local governments whose property tax base was made up largely of residential property.

After World War II many states replaced the homestead exemption with state financed “circuit breakers” which benefited lower and middle income homeowners, older homeowners, and disabled persons. In many states renters were included by provisions that classified a portion of rental payments as property taxes. By 1991 thirty-five states had some form of circuit breakers (Advisory Commission on Intergovernmental Relations, 1992, 126-31).

Proponents of the general property tax believed that uniform and universal taxation of property would tend to limit taxes. Everybody would have to pay their share and the political game of taxing somebody else for one’s favorite program would be impossible. Perhaps there was some truth in this argument, but state legislatures soon began to impose additional limitations. Typically, the statutes authorizing local government to impose taxes for a particular purpose such as education, road building, or water systems, specified the rate, usually stated in mills, dollars per hundred or dollars per thousand of assessed value, that could be imposed for that purpose.

These limitations provided no overall limit on the taxes imposed on a particular property so state legislatures and state constitutions began to impose limits restricting the total rate or amount that could be imposed by a unit of local government. Often these were complicated to administer and had many unintended consequences. For example, limiting the tax that could be imposed by a particular kind of government sometime led to the creation of additional special districts.

During World War II, state and local taxes were stable or decreased as spending programs were cut back because of decreased needs or unavailability of building materials or other resources. This was reversed in the post-war years as governments expanded programs and took advantage of rising property value to increase tax collections. Assessment rose, tax rates rose, and the newspapers carried stories of homeowners forced to sell their homes because of rising taxes

California’s Tax Revolt

Within a few years the country was swept by a wave of tax protests, often called the Tax Revolt. Almost every state imposed some kind of limitation on the property tax, but the most widely publicized was Proposition 13, a constitutional amendment passed by popular vote in California in 1978. This proved to be the most successful attack on the property tax in American history. The amendment:

1. limited property taxes to one percent of full cash value

2. required property to be valued at its value on March 1, 1975 or on the date it changes hands or is constructed after that date.

3. limited subsequent value adjustment in value to 2 percent per year or the rate of inflation, whichever is lesser.

4. prohibited the imposition of sales or transaction taxes on the sale of real estate.

5. required two-thirds vote in each house of the legislature to increase state taxes

and a two-thirds vote of the electorate to increase or add new local taxes.

This amendment proved to be extremely difficult to administer. It resulted in hundreds of court cases, scores of new statutes, many attorney generals’ opinions and several additional amendments to the California constitution. One of the amendments permits property to be passed to heirs without triggering a new assessment.

In effect Proposition 13 replaced the property tax with a hybrid tax based on a property’s value in 1975 or the date it was last transferred to a non-family member. These values have been modified by annual adjustments that have been much less than the increase in the market value of the property. Thus it has favored the business or family that remains in the same building or residence for a long period of time.

Local government in California seems to have been weakened and there has been a great increase in fees, user charges, and business taxes. A variety of devices, including the formation of fee-financed special districts, have been utilized to provide services.

Although Proposition 13 was the most far-reaching and widely publicized attempt to limit property taxes, it is only one of many provisions that have attempted to limit the property tax. Some are general limitations on rates or amounts that may be levied. Others provide tax benefits to particular groups or are intended to promote economic development. Several other states adopted overall limitations or tax freezes modeled on Proposition 13 and in addition have adopted a large number of provisions to provide relief to particular classes of individuals or to serve as economic incentives. These include provisions favoring agricultural land, exemption or reduced taxation of owner-occupied homes, provisions benefiting the poor, veterans, disabled individuals, and the aged. Economic incentives incorporated in property tax laws include exemptions or lower rates on particular business or certain types of business, exemption of the property of newly established businesses, tax breaks in development zones, and earmarking of taxes for expenditure that benefit a particular business (enterprise zones).

The Property Tax Today

In many states assessment techniques have improved greatly. Computer assisted mass appraisal (CAMA) combines computer technology, statistical methods and valve theory to make possible reasonably accurate property assessments. Increases in state school aid, stemming in part from court decisions requiring equal school quality, have increased the pressure for statewide uniformity in assessment. Some states now use elaborate statistical procedures to measure the quality and equality of assessment from place to place in the state. Today, departures from uniformity come less from poor assessment than from provision in the property tax statutes.

The tax on a particular property may depend on who owns it, what it is used for, and when it last sold. To compute the tax the administrator may have to know the income, age, medical condition, and previous military service of the owner. Anomalies abound as taxpayers figure out ways to make the complicated system work in their favor. A few bales of hay harvested from a development site may qualify it as agricultural land and enterprise zones, which are intended to provide incentive for development in poverty-stricken areas, may contain industrial plants, but no people — poverty stricken or otherwise.

The many special provision fuel the demand for other special provisions. As the base narrows, the tax rate rises and taxpayers become aware of the special benefits enjoyed by their neighbors or competitors. This may lead to demands for overall tax limitations or to the quest for additional exemptions and special provisions.

The Property Tax as a Revenue Source during the Twentieth Century

At the time of the 1902 Census of Government the property tax provided forty-five percent of the general revenue received by state governments from their own sources. (excluding grants from other governments). That percentage declined steadily, taking its most precipitous drop between 1922 and 1942 as states adopted sales and income taxes. Today property taxes are an insignificant source of state tax revenue. (See Table 2.)

The picture at the local level is very different. The property tax as a percentage of own-source general revenue rose from 1902 until 1932 when it provided 85.2 percent of local government own-source general revenue. Since that time there has been a significant gradual decline in the importance of local property taxes.

The decline in the revenue importance of the property tax is more dramatic when the increase in federal and state aid is considered. In fiscal year 1999, local governments received 228 billion in property tax revenue and 328 billion in aid from state and federal governments. If current trends continue, the property tax will decline in importance and states and the federal government will take over more local functions, or expand the system of grants to local governments. Either way, government will become more centralized.

Table 2

Property Taxes as a Percentage of Own-Source General Revenue, Selected Years

______________________________
Year State Local
______________________________
1902 45.3 78.2
1913 38.9 77.4
1922 30.9 83.9
1932 15.2 85.2
1942 6.2 80.8
1952 3.4 71.0
1962 2.7 69.0
1972 1.8 63.5
1982 1.5 48.0
1992 1.7 48.1
­­1999 1.8 44.6
_______________________________

Source: U. S. Census of Governments, Historical Statistics of State and Local Finance, 1902-1953; U. S. Census of Governments, Governments Finances for (various years); and http://www.census.gov.

References

Adams, Henry Carter. Taxation in the United States, 1789-1816. New York: Burt Franklin, 1970, originally published in 1884.

Advisory Commission on Intergovernmental Relations. Significant Features of Fiscal Federalism, Volume 1, 1992.

Becker, Robert A. Revolution, Reform and the Politics of American Taxation. Baton Rouge: Louisiana State University Press, 1980.

Ely, Richard T. Taxation in the American States and Cities. New York: T. Y. Crowell & Co, 1888.

Fisher, Glenn W. The Worst Tax? A History of the Property Tax in America. Lawrence: University Press of Kansas, 1996.

Fisher, Glenn W. “The General Property Tax in the Nineteenth Century: The Search for Equality.” Property Tax Journal 6, no. 2 ((1987): 99-117.

Jensen, Jens Peter. Property Taxation in the United States. Chicago: University of Chicago Press, 1931.

Seligman, E. R. A. Essays in Taxation. New York: Macmillan Company, 1905, originally published in 1895.

Stocker, Frederick, editor. Proposition 13: A Ten-Year Retrospective. Cambridge, Massachusetts: Lincoln Institute of Land Policy, 1991.

Citation: Fisher, Glenn. “History of Property Taxes in the United States”. EH.Net Encyclopedia, edited by Robert Whaples. September 30, 2002. URL http://eh.net/encyclopedia/history-of-property-taxes-in-the-united-states/

Economic History of Portugal

Luciano Amaral, Universidade Nova de Lisboa

Main Geographical Features

Portugal is the south-westernmost country of Europe. With the approximate shape of a vertical rectangle, it has a maximum height of 561 km and a maximum length of 218 km, and is delimited (in its north-south range) by the parallels 37° and 42° N, and (in its east-west range) by the meridians 6° and 9.5° W. To the west, it faces the Atlantic Ocean, separating it from the American continent by a few thousand kilometers. To the south, it still faces the Atlantic, but the distance to Africa is only of a few hundred kilometers. To the north and the east, it shares land frontiers with Spain, and both countries constitute the Iberian Peninsula, a landmass separated directly from France and, then, from the rest of the continent by the Pyrenees. Two Atlantic archipelagos are still part of Portugal, the Azores – constituted by eight islands in the same latitudinal range of mainland Portugal, but much further west, with a longitude between 25° and 31° W – and Madeira – two islands, to the southwest of the mainland, 16° and 17° W, 32.5° and 33° N.

Climate in mainland Portugal is of the temperate sort. Due to its southern position and proximity to the Mediterranean Sea, the country’s weather still presents some Mediterranean features. Temperature is, on average, higher than in the rest of the continent. Thanks to its elongated form, Portugal displays a significant variety of landscapes and sometimes brisk climatic changes for a country of such relatively small size. Following a classical division of the territory, it is possible to identify three main geographical regions: a southern half – with practically no mountains and a very hot and dry climate – and a northern half subdivided into two other vertical sub-halves – with a north-interior region, mountainous, cool but relatively dry, and a north-coast region, relatively mountainous, cool and wet. Portugal’s population is close to 10,000,000, in an area of about 92,000 square kilometers (35,500 square miles).

The Period before the Creation of Portugal

We can only talk of Portugal as a more or less clearly identified and separate political unit (although still far from a defined nation) from the eleventh or twelfth centuries onwards. The geographical area which constitutes modern Portugal was not, of course, an eventless void before that period. But scarcity of space allows only a brief examination of the earlier period, concentrating on its main legacy to future history.

Roman and Visigothic Roots

That legacy is overwhelmingly marked by the influence of the Roman Empire. Portugal owes to Rome its language (a descendant of Latin) and main religion (Catholicism), as well as its primary juridical and administrative traditions. Interestingly enough, little of the Roman heritage passed directly to the period of existence of Portugal as a proper nation. Momentous events filtered the transition. Romans first arrived in the Iberian Peninsula around the third century B.C., and kept their rule until the fifth century of the Christian era. Then, they succumbed to the so-called “barbarian invasions.” Of the various peoples that then roamed the Peninsula, certainly the most influential were the Visigoths, a people of Germanic origin. The Visigoths may be ranked as the second most important force in the shaping of future Portugal. The country owes them the monarchical institution (which lasted until the twentieth century), as well as the preservation both of Catholicism and (although substantially transformed) parts of Roman law.

Muslim Rule

The most spectacular episode following Visigoth rule was the Muslim invasion of the eighth century. Islam ruled the Peninsula from then until the fifteenth century, although occupying an increasingly smaller area from the ninth century onwards, as the Christian Reconquista started repelling it with growing efficiency. Muslim rule set the area on a path different from the rest of Western Europe for a few centuries. However, apart from some ethnic traits legated to its people, a few words in its lexicon, as well as certain agricultural, manufacturing and sailing techniques and knowledge (of which the latter had significant importance to the Portuguese naval discoveries), nothing of the magnitude of the Roman heritage was left in the peninsula by Islam. This is particularly true of Portugal, where Muslim rule was less effective and shorter than in the South of Spain. Perhaps the most important legacy of Muslim rule was, precisely, its tolerance towards the Roman heritage. Much representative of that tolerance was the existence during the Muslim period of an ethnic group, the so-called moçárabe or mozarabe population, constituted by traditional residents that lived within Muslim communities, accepted Muslim rule, and mixed with Muslim peoples, but still kept their language and religion, i.e. some form of Latin and the Christian creed.

Modern Portugal is a direct result of the Reconquista, the Christian fight against Muslim rule in the Iberian Peninsula. That successful fight was followed by the period when Portugal as a nation came to existence. The process of creation of Portugal was marked by the specific Roman-Germanic institutional synthesis that constituted the framework of most of the country’s history.

Portugal from the Late Eleventh Century to the Late Fourteenth Century

Following the Muslim invasion, a small group of Christians kept their independence, settling in a northern area of the Iberian Peninsula called Asturias. Their resistance to Muslim rule rapidly transformed into an offensive military venture. During the eighth century a significant part of northern Iberia was recovered to Christianity. This frontier, roughly cutting the peninsula in two halves, held firm until the eleventh century. Then, the crusaders came, mostly from France and Germany, inserting the area in the overall European crusade movement. By the eleventh century, the original Asturian unit had been divided into two kingdoms, Leon and Navarra, which in turn were subdivided into three new political units, Castile, Aragon and the Condado Portucalense. The Condado Portucalense (the political unit at the origin of future Portugal) resulted from a donation, made in 1096, by the Leonese king to a Crusader coming from Burgundy (France), Count Henry. He did not claim the title king, a job that would be fulfilled only by his son, Afonso Henriques (generally accepted as the first king of Portugal) in the first decade of the twelfth century.

Condado Portucalense as the King’s “Private Property”

Such political units as the various peninsular kingdoms of that time must be seen as entities differing in many respects from current nations. Not only did their peoples not possess any clear “national consciousness,” but also the kings themselves did not rule them based on the same sort of principle we tend to attribute to current rulers (either democratic, autocratic or any other sort). Both the Condado Portucalense and Portugal were understood by their rulers as something still close to “private property” – the use of quotes here is justified by the fact that private property, in the sense we give to it today, was a non-existent notion then. We must, nevertheless, stress this as the moment in which Portuguese rulers started seeing Portugal as a political unit separate from the remaining units in the area.

Portugal as a Military Venture

Such novelty was strengthened by the continuing war against Islam, still occupying most of the center and south of what later became Portugal. This is a crucial fact about Portugal in its infancy, and one that helps one understand the most important episode in Portuguese history , the naval discoveries, i.e. that the country in those days was largely a military venture against Islam. As, in that fight, the kingdom expanded to the south, it did so separately from the other Christian kingdoms existing in the peninsula. And these ended up constituting the two main negative forces for Portugal’s definition as an independent country, i.e. Islam and the remaining Iberian Christian kingdoms. The country achieved a clear geographical definition quite early in its history, more precisely in 1249, when King Sancho II conquered the Algarve from Islam. Remarkably for a continent marked by so much permanent frontier redesign, Portugal acquired then its current geographical shape.

The military nature of the country’s growth gave rise to two of its most important characteristics in early times: Portugal was throughout this entire period a frontier country, and one where the central authority was unable to fully control the territory in its entirety. This latter fact, together with the reception of the Germanic feudal tradition, shaped the nature of the institutions then established in the country. This was particularly important in understanding the land donations made by the crown. These were crucial, for they brought a dispersion of central powers, devolved to local entities, as well as a delegation of powers we would today call “public” to entities we would call “private.” Donations were made in favor of three sorts of groups: noble families, religious institutions and the people in general of particular areas or cities. They resulted mainly from the needs of the process of conquest: noblemen were soldiers, and the crown’s concession of the control of a certain territory was both a reward for their military feats as well as an expedient way of keeping the territory under control (even if in a more indirect way) in a period when it was virtually impossible to directly control the full extent of the conquered area. Religious institutions were crucial in the Reconquista, since the purpose of the whole military effort was to eradicate the Muslim religion from the country. Additionally, priests and monks were full military participants in the process, not limiting their activity to studying or preaching. So, as the Reconquista proceeded, three sorts of territories came into existence: those under direct control of the crown, those under the control of local seigneurs (which subdivided into civil and ecclesiastical) and the communities.

Economic Impact of the Military Institutional Framework

This was an institutional framework that had a direct economic impact. The crown’s donations were not comparable to anything we would nowadays call private property. The land’s donation had attached to it the ability conferred on the beneficiary to a) exact tribute from the population living in it, b) impose personal services or reduce peasants to serfdom, and c) administer justice. This is a phenomenon that is typical of Europe until at least the eighteenth century, and is quite representative of the overlap between the private and public spheres then prevalent. The crown felt it was entitled to give away powers we would nowadays call public, such as those of taxation and administering justice, and beneficiaries from the crown’s donations felt they were entitled to them. As a further limit to full private rights, the land was donated under certain conditions, restricting the beneficiaries’ power to divide, sell or buy it. They managed those lands, thus, in a manner entirely dissimilar from a modern enterprise. And the same goes for actual farmers, those directly toiling the land, since they were sometimes serfs, and even when they were not, had to give personal services to seigneurs and pay arbitrary tributes.

Unusually Tight Connections between the Crown and High Nobility

Much of the history of Portugal until the nineteenth century revolves around the tension between these three layers of power – the crown, the seigneurs and the communities. The main trend in that relationship was, however, in the direction of an increased weight of central power over the others. This is already visible in the first centuries of existence of the country. In a process that may look paradoxical, that increased weight was accompanied by an equivalent increase in seigneurial power at the expense of the communities. This gave rise to a uniquely Portuguese institution, which would be of extreme importance for the development of the Portuguese economy (as we will later see): the extremely tight connection between the crown and the high nobility. As a matter of fact, very early in the country’s history, the Portuguese nobility and Church became much dependent on the redistributive powers of the crown, in particular in what concerns land and the tributes associated with it. This led to an apparently contradictory process, in which at the same time as the crown was gaining ascendancy in the ruling of the country, it also gave away to seigneurs some of those powers usually considered as being public in nature. Such was the connection between the crown and the seigneurs that the intersection between private and public powers proved to be very resistant in Portugal. That intersection lasted longer in Portugal than in other parts of Europe, and consequently delayed the introduction in the country of the modern notion of property rights. But this is something to be developed later, and to fully understand it we must go through some further episodes of Portuguese history. For now, we must note the novelty brought by these institutions. Although they can be seen as unfriendly to property rights from a nineteenth- and twentieth-century vantage point, they represented in fact a first, although primitive and incomplete, definition of property rights of a certain sort.

Centralization and the Evolution of Property

As the crown’s centralization of power proceeded in the early history of the country, some institutions such as serfdom and settling colonies gave way to contracts that granted fuller personal and property rights to farmers. Serfdom was not exceptionally widespread in early Portugal – and tended to disappear from the thirteenth century onwards. More common was the settlement of colonies, a situation in which settlers were simple toilers of land, having to pay significant tributes to either the king or seigneurs, but had no rights over buying and selling the land. From the thirteenth century onwards, as the king and the seigneurs began encroaching on the kingdom’s land and the military situation got calmer, serfdom and settling contracts were increasingly substituted by contracts of the copyhold type. When compared with current concepts of private property, copyhold includes serious restrictions to the full use of private property. Yet, it represented an improvement when compared to the prior legal forms of land use. In the end, private property as we understand it today began its dissemination through the country at this time, although in a form we would still consider primitive. This, to a large extent, repeats with one to two centuries of delay, the evolution that had already occurred in the core of “feudal Europe,” i.e. the Franco-Germanic world and its extension to the British Isles.

Movement toward an Exchange Economy

Precisely as in that core “feudal Europe,” such institutional change brought a first moment of economic growth to the country – of course, there are no consistent figures for economic activity in this period, and, consequently, this is entirely based on more or less superficial evidence pointing in that direction. The institutional change just noted was accompanied by a change in the way noblemen and the Church understood their possessions. As the national territory became increasingly sheltered from the destruction of war, seigneurs became less interested in military activity and conquest, and more so in the good management of the land they already owned land. Accompanying that, some vague principles of specialization also appeared. Some of those possessions were thus significantly transformed into agricultural firms devoted to a certain extent to selling on the market. One should not, of course, exaggerate the importance acquired by the exchange of goods in this period. Most of the economy continued to be of a non-exchange or (at best) barter character. But the signs of change were important, as a certain part of the economy (small as it was) led the way to future more widespread changes. Not by chance, this is the period when we have evidence of the first signs of monetization of the economy, certainly a momentous change (even if initially small in scale), corresponding to an entirely new framework for economic relations.

These essential changes are connected with other aspects of the country’s evolution in this period. First, the war at the frontier (rather than within the territory) seems to have had a positive influence on the rest of the economy. The military front was constituted by a large number of soldiers, who needed constant supply of various goods, and this geared a significant part of the economy. Also, as the conquest enlarged the territory under the Portuguese crown’s control, the king’s court became ever more complex, thus creating one more demand pole. Additionally, together with enlargement of territory also came the insertion within the economy of various cities previously under Muslim control (such as the future capital, Lisbon, after 1147). All this was accompanied by a widespread movement of what we might call internal colonization, whose main purpose was to farm previously uncultivated agricultural land. This is also the time of the first signs of contact of Portuguese merchants with foreign markets, and foreign merchants with Portuguese markets. There are various signs of the presence of Portuguese merchants in British, French and Flemish ports, and vice versa. Much of Portuguese exports were of a typical Mediterranean nature, such as wine, olive oil, salt, fish and fruits, and imports were mainly of grain and textiles. The economy became, thus, more complex, and it is only natural that, to accompany such changes, the notions of property, management and “firm” changed in such a way as to accommodate the new evolution. The suggestion has been made that the success of the Christian Reconquista depended to a significant extent on the economic success of those innovations.

Role of the Crown in Economic Reforms

Of additional importance for the increasing sophistication of the economy is the role played by the crown as an institution. From the thirteenth century onwards, the rulers of the country showed a growing interest in having a well organized economy able to grant them an abundant tax base. Kings such as Afonso III (ruling from 1248 until 1279) and D. Dinis (1279-1325) became famous for their economic reforms. Monetary reforms, fiscal reforms, the promotion of foreign trade, and the promotion of local fairs and markets (an extraordinarily important institution for exchange in medieval times) all point in the direction of an increased awareness on the part of Portuguese kings of the relevance of promoting a proper environment for economic activity. Again, we should not exaggerate the importance of that awareness. Portuguese kings were still significantly (although not entirely) arbitrary rulers, able with one decision to destroy years of economic hard work. But changes were occurring, and some in a direction positive for economic improvement.

As mentioned above, the definition of Portugal as a separate political entity had two main negative elements: Islam as occupier of the Iberian Peninsula and the centralization efforts of the other political entities in the same area. The first element faded as the Portuguese Reconquista, by mid-thirteenth century, reached the southernmost point in the territory of what is today’s Portugal. The conflict (either latent or open) with the remaining kingdoms of the peninsula was kept alive much beyond that. As the early centuries of the first millennium unfolded, a major centripetal force emerged in the peninsula, the kingdom of Castile. Castile progressively became the most successful centralizing political unit in the area. Such success reached a first climatic moment by the middle of the fifteenth century, during the reign of Ferdinand and Isabella, and a second one by the end of the sixteenth century, with the brief annexation of Portugal by the Spanish king, Phillip II. Much of the effort of Portuguese kings was to keep Portugal independent of those other kingdoms, particularly Castile. But sometimes they envisaged something different, such as an Iberian union with Portugal as its true political head. It was one of those episodes that led to a major moment both for the centralization of power in the Portuguese crown within the Portuguese territory and for the successful separation of Portugal from Castile.

Ascent of John I (1385)

It started during the reign of King Ferdinand (of Portugal), during the sixth and seventh decades of the fourteenth century. Through various maneuvers to unite Portugal to Castile (which included war and the promotion of diverse coups), Ferdinand ended up marrying his daughter to the man who would later become king of Castile. Ferdinand was, however, generally unsuccessful in his attempts to tie the crowns under his heading, and when he died in 1383 the king of Castile (thanks to his marriage with Ferdinand’s daughter) became the legitimate heir to the Portuguese crown. This was Ferdinand’s dream in reverse. The crowns would unite, but not under Portugal. The prospect of peninsular unity under Castile was not necessarily loathed by a large part of Portuguese elites, particularly parts of the aristocracy, which viewed Castile as a much more noble-friendly kingdom. This was not, however, a unanimous sentiment, and a strong reaction followed, led by other parts of the same elite, in order to keep the Portuguese crown in the hands of a Portuguese king, separate from Castile. A war with Castile and intimations of civil war ensued, and in the end Portugal’s independence was kept. The man chosen to be the successor of Ferdinand, under a new dynasty, was the bastard son of Peter I (Ferdinand’s father), the man who became John I in 1385.

This was a crucial episode, not simply because of the change in dynasty, imposed against the legitimate heir to the throne, but also because of success in the centralization of power by the Portuguese crown and, as a consequence, of separation of Portugal from Castile. Such separation led Portugal, additionally, to lose interest in further political adventures concerning Castile, and switch its attention to the Atlantic. It was the exploration of this path that led to the most unique period in Portuguese history, one during which Portugal reached heights of importance in the world that find no match in either its past or future history. This period is the Discoveries, a process that started during John I’s reign, in particular under the forceful direction of the king’s sons, most famous among them the mythical Henry, the Navigator. The 1383-85 crisis and John’s victory can thus be seen as the founding moment of the Portuguese Discoveries.

The Discoveries and the Apex of Portuguese International Power

The Discoveries are generally presented as the first great moment of world capitalism, with markets all over the world getting connected under European leadership. Albeit true, this is a largely post hoc perspective, for the Discoveries became a big commercial adventure only somewhere half-way into the story. Before they became such a thing, the aims of the Discoveries’ protagonists were mostly of another sort.

The Conquest of Ceuta

An interesting way to have a fuller picture of the Discoveries is to study the Portuguese contribution to them. Portugal was the pioneer of transoceanic navigation, discovering lands and sea routes formerly unknown to Europeans, and starting trades and commercial routes that linked Europe to other continents in a totally unprecedented fashion. But, at the start, the aims of the whole venture were entirely other. The event generally chosen to date the beginning of the Portuguese discoveries is the conquest of Ceuta – a city-state across the Straits of Gibraltar from Spain – in 1415. In itself such voyage would not differ much from other attempts made in the Mediterranean Sea from the twelfth century onwards by various European travelers. The main purpose of all these attempts was to control navigation in the Mediterranean, in what constitutes a classical fight between Christianity and Islam. Other objectives of Portuguese travelers were the will to find the mythical Prester John – a supposed Christian king surrounded by Islam: there are reasons to suppose that the legend of Prester John is associated with the real existence of the Copt Christians of Ethiopia – and to reach, directly at the source, the gold of Sudan. Despite this latter objective, religious reasons prevailed over others in spurring the first Portuguese efforts of overseas expansion. This should not surprise us, however, for Portugal had since its birth been, precisely, an expansionist political unit under a religious heading. The jump to the other side of the sea, to North Africa, was little else than the continuation of that expansionist drive. Here we must understand Portugal’s position as determined by two elements, one that was general to the whole European continent, and another one, more specific. The first is that the expansion of Portugal in the Middle-Ages coincides with the general expansion of Europe. And Portugal was very much a part of that process. The second is that, by being part of the process, Portugal was (by geographical hazard) at the forefront of the process. Portugal (and Spain) was in the first line of attack and defense against Islam. The conquest of Ceuta, by Henry, the Navigator, is hence a part of that story of confrontation with Islam.

Exploration from West Africa to India

The first efforts of Henry along the Western African coast and in the Atlantic high sea can be put within this same framework. The explorations along the African coast had two main objectives: to have a keener perception of how far south Islam’s strength went, and to surround Morocco, both in order to attack Islam on a wider shore and to find alternative ways to reach Prester John. These objectives depended, of course, on geographical ignorance, as the line of coast Portuguese navigators eventually found was much larger than the one Henry expected to find. In these efforts, Portuguese navigators went increasingly south, but also, mainly due to accidental changes of direction, west. Such westbound dislocations led to the discovery, in the first decades of the fifteenth century, of three archipelagos, the Canaries, Madeira (and Porto Santo) and the Azores. But the major navigational feat of this period was the passage of Cape Bojador in 1434, in the sequence of which the whole western coast of the African continent was opened for exploration and increasingly (and here is the novelty) commerce. As Africa revealed its riches, mostly gold and slaves, these ventures began acquiring a more strict economic meaning. And all this kept on fostering the Portuguese to go further south, and when they reached the southernmost tip of the African continent, to pass it and go east. And so they did. Bartolomeu Dias crossed the Cape of Good Hope in 1487 and ten years later Vasco da Gama would entirely circumnavigate Africa to reach India by sea. By the time of Vasco da Gama’s journey, the autonomous economic importance of intercontinental trade was well established.

Feitorias and Trade with West Africa, the Atlantic Islands and India

As the second half of the fifteenth century unfolded, Portugal created a complex trade structure connecting India and the African coast to Portugal and, then, to the north of Europe. This consisted of a net of trading posts (feitorias) along the African coast, where goods were shipped to Portugal, and then re-exported to Flanders, where a further Portuguese feitoria was opened. This trade was based on such African goods as gold, ivory, red peppers, slaves and other less important goods. As was noted by various authors, this was somehow a continuation of the pattern of trade created during the Middle Ages, meaning that Portugal was able to diversify it, by adding new goods to its traditional exports (wine, olive oil, fruits and salt). The Portuguese established a virtual monopoly of these African commercial routes until the early sixteenth century. The only threats to that trade structure came from pirates originating in Britain, Holland, France and Spain. One further element of this trade structure was the Atlantic Islands (Madeira, the Azores and the African archipelagos of Cape Verde and São Tomé). These islands contributed with such goods as wine, wheat and sugar cane. After the sea route to India was discovered and the Portuguese were able to establish regular connections with India, the trading structure of the Portuguese empire became more complex. Now the Portuguese began bringing multiple spices, precious stones, silk and woods from India, again based on a net of feitorias there established. The maritime route to India acquired an extreme importance to Europe, precisely at this time, since the Ottoman Empire was then able to block the traditional inland-Mediterranean route that supplied the continent with Indian goods.

Control of Trade by the Crown

One crucial aspect of the Portuguese Discoveries is the high degree of control exerted by the crown over the whole venture. The first episodes in the early fifteenth century, under Henry the Navigator (as well as the first exploratory trips along the African coast) were entirely directed by the crown. Then, as the activity became more profitable, it was, first, liberalized, and then rented (in totu) to merchants, whom were constrained to pay the crown a significant share of their profits. Finally, when the full Indo-African network was consolidated, the crown controlled directly the largest share of the trade (although never monopolizing it), participated in “public-private” joint-ventures, or imposed heavy tributes on traders. The grip of the crown increased with growth of the size and complexity of the empire. Until the early sixteenth century, the empire consisted mainly of a network of trading posts. No serious attempt was made by the Portuguese crown to exert a significant degree of territorial control over the various areas constituting the empire.

The Rise of a Territorial Empire

This changed with the growth of trade from India and Brazil. As India was transformed into a platform for trade not only around Africa but also in Asia, a tendency was developed (in particular under Afonso de Albuquerque, in the early sixteenth century) to create an administrative structure in the territory. This was not particularly successful. An administrative structure was indeed created, but stayed forever incipient. A relatively more complex administrative structure would only appear in Brazil. Until the middle of the sixteenth century, Brazil was relatively ignored by the crown. But with the success of the system of sugar cane plantation in the Atlantic Isles, the Portuguese crown decided to transplant it to Brazil. Although political power was controlled initially by a group of seigneurs to whom the crown donated certain areas of the territory, the system got increasingly more centralized as time went on. This is clearly visible with the creation of the post of governor-general of Brazil, directly respondent to the crown, in 1549.

Portugal Loses Its Expansionary Edge

Until the early sixteenth century, Portugal capitalized on being the pioneer of European expansion. It monopolized African and, initially, Indian trade. But, by that time, changes were taking place. Two significant events mark the change in political tide. First, the increasing assertiveness of the Ottoman Empire in the Eastern Mediterranean, which coincided with a new bout of Islamic expansionism – ultimately bringing the Mughal dynasty to India – as well as the re-opening of the Mediterranean route for Indian goods. This put pressure on Portuguese control over Indian trade. Not only was political control over the subcontinent now directly threatened by Islamic rulers, but also the profits from Indian trade started declining. This is certainly one of the reasons why Portugal redirected its imperial interests to the south Atlantic, particularly Brazil – the other reasons being the growing demand for sugar in Europe and the success of the sugar cane plantation system in the Atlantic islands. The second event marking the change in tide was the increased assertiveness of imperial Spain, both within Europe and overseas. Spain, under the Habsburgs (mostly Charles V and Phillip II), exerted a dominance over the European continent which was unprecedented since Roman times. This was complemented by the beginning of exploration of the American continent (from the Caribbean to Mexico and the Andes), again putting pressure on the Portuguese empire overseas. What is more, this is the period when not only Spain, but also Britain, Holland and France acquired navigational and commercial skills equivalent to the Portuguese, thus competing with them in some of their more traditional routes and trades. By the middle of the sixteenth century, Portugal had definitely lost the expansionary edge. And this would come to a tragic conclusion in 1580, with the death of the heirless King Sebastian in North Africa and the loss of political independence to Spain, under Phillip II.

Empire and the Role, Power and Finances of the Crown

The first century of empire brought significant political consequences for the country. As noted above, the Discoveries were directed by the crown to a very large extent. As such, they constituted one further step in the affirmation of Portugal as a separate political entity in the Iberian Peninsula. Empire created a political and economic sphere where Portugal could remain independent from the rest of the peninsula. It thus contributed to the definition of what we might call “national identity.” Additionally, empire enhanced significantly the crown’s redistributive power. To benefit from profits from transoceanic trade, to reach a position in the imperial hierarchy or even within the national hierarchy proper, candidates had to turn to the crown. As it controlled imperial activities, the crown became a huge employment agency, capable of attracting the efforts of most of the national elite. The empire was, thus, transformed into an extremely important instrument of the crown in order to centralize power. It has already been mentioned that much of the political history of Portugal from the Middle Ages to the nineteenth century revolves around the tension between the centripetal power of the crown and the centrifugal powers of the aristocracy, the Church and the local communities. Precisely, the imperial episode constituted a major step in the centralization of the crown’s power. The way such centralization occurred was, however, peculiar, and that would bring crucial consequences for the future. Various authors have noted how, despite the growing centralizing power of the crown, the aristocracy was able to keep its local powers, thanks to the significant taxing and judicial autonomy it possessed in the lands under its control. This is largely true, but as other authors have noted, this was done with the crown acting as an intermediary agent. The Portuguese aristocracy was since early times much less independent from the crown than in most parts of Western Europe, and this situation accentuated during the days of empire. As we have seen above, the crown directed the Reconquista in a way that made it able to control and redistribute (through the famous donations) most of the land that was conquered. In those early medieval days, it was, thus, the service to the crown that made noblemen eligible to benefit from land donations. It is undoubtedly true that by donating land the crown was also giving away (at least partially) the monopoly of taxing and judging. But what is crucial here is its significant intermediary power. With empire, that power increased again. And once more a large part of the aristocracy became dependent on the crown to acquire political and economic power. The empire became, furthermore, the main means of financing of the crown. Receipts from trade activities related to the empire (either profits, tariffs or other taxes) never went below 40 percent of total receipts of the crown, until the nineteenth century, and this was only briefly in its worst days. Most of the time, those receipts amounted to 60 or 70 percent of total crown’s receipts.

Other Economic Consequences of the Empire

Such a role for the crown’s receipts was one of the most important consequences of empire. Thanks to it, tax receipts from internal economic activity became in large part unnecessary for the functioning of national government, something that was going to have deep consequences, precisely for that exact internal activity. This was not, however, the only economic consequence of empire. One of the most important was, obviously, the enlargement of the trade base of the country. Thanks to empire, the Portuguese (and Europe, through the Portuguese) gained access to vast sources of precious metals, stones, tropical goods (such as fruit, sugar, tobacco, rice, potatoes, maize, and more), raw materials and slaves. Portugal used these goods to enlarge its comparative advantage pattern, which helped it penetrate European markets, while at the same time enlarging the volume and variety of imports from Europe. Such a process of specialization along comparative advantage principles was, however, very incomplete. As noted above, the crown exerted a high degree of control over the trade activity of empire, and as a consequence, many institutional factors interfered in order to prevent Portugal (and its imperial complex) from fully following those principles. In the end, in economic terms, the empire was inefficient – something to be contrasted, for instance, with the Dutch equivalent, much more geared to commercial success, and based on clearer efficiency managing-methods. By so significantly controlling imperial trade, the crown became a sort of barrier between the empire’s riches and the national economy. Much of what was earned in imperial activity was spent either on maintaining it or on the crown’s clientele. Consequently, the spreading of the gains from imperial trade to the rest of the economy was highly centralized in the crown. A much visible effect of this phenomenon was the fantastic growth and size of the country’s capital, Lisbon. In the sixteenth century, Lisbon was the fifth largest city in Europe, and from the sixteenth century to the nineteenth century it was always in the top ten, a remarkable feat for a country with such a small population as Portugal. And it was also the symptom of a much inflated bureaucracy, living on the gains of empire, as well as of the low degree of repercussion of those gains of empire through the whole of the economy.

Portuguese Industry and Agriculture

The rest of the economy did, indeed, remain very much untouched by this imperial manna. Most of industry was untouched by it, and the only visible impact of empire on the sector was by fostering naval construction and repair, and all the accessory activities. Most of industry kept on functioning according to old standards, far from the impact of transoceanic prosperity. And much the same happened with agriculture. Although benefiting from the introduction of new crops (mostly maize, but also potatoes and rice), Portuguese agriculture did not benefit significantly from the income stream arising from imperial trade, in particular when we could expect it to be a source of investment. Maize constituted an important technological innovation which had a much important impact on the Portuguese agriculture’s productivity, but it was too localized in the north-western part of the country, thus leaving the rest of the sector untouched.

Failure of a Modern Land Market to Develop

One very important consequence of empire on agriculture and, hence, on the economy, was the preservation of the property structure coming from the Middle Ages, namely that resulting from the crown’s donations. The empire enhanced again the crown’s powers to attract talent and, consequently, donate land. Donations were regulated by official documents called Cartas de Foral, in which the tributes due to the beneficiaries were specified. During the time of the empire, the conditions ruling donations changed in a way that reveals an increased monarchical power: donations were made for long periods (for instance, one life), but the land could not be sold nor divided (and, thus, no parts of it could be sold separately) and renewal required confirmation on the part of the crown. The rules of donation, thus, by prohibiting buying, selling and partition of land, were a major obstacle to the existence not only of a land market, but also of a clear definition of property rights, as well as freedom in the management of land use.

Additionally, various tributes were due to the beneficiaries. Some were in kind, some in money, some were fixed, others proportional to the product of the land. This process dissociated land ownership and appropriation of land product, since the land was ultimately the crown’s. Furthermore, the actual beneficiaries (thanks to the donation’s rules) had little freedom in the management of the donated land. Although selling land in such circumstances was forbidden to the beneficiaries, renting it was not, and several beneficiaries did so. A new dissociation between ownership and appropriation of product was thus introduced. Although in these donations some tributes were paid by freeholders, most of them were paid by copyholders. Copyhold granted to its signatories the use of land in perpetuity or in lives (one to three), but did not allow them to sell it. This introduced a new dissociation between ownership, appropriation of land product and its management. Although it could not be sold, land under copyhold could be ceded in “sub-copyhold” contracts – a replication of the original contract under identical conditions. This introduced, obviously, a new complication to the system. As should be clear by now, such a “baroque” system created an accumulation of layers of rights over the land, as different people could exert different rights over it, and each layer of rights was limited by the other layers, and sometimes conflicting with them in an intricate way. A major consequence of all this was the limited freedom the various owners of rights had in the management of their assets.

High Levels of Taxation in Agriculture

A second direct consequence of the system was the complicated juxtaposition of tributes on agricultural product. The land and its product in Portugal in those days were loaded with tributes (a sort of taxation). This explains one recent historian’s claim (admittedly exaggerated) that, in that period, those who owned the land did not toil it, and those who toiled it did not hold it. We must distinguish these tributes from strict rent payments, as rent contracts are freely signed by the two (or more) sides taking part in it. The tributes we are discussing here represented, in reality, an imposition, which makes the use of the word taxation appropriate to describe them. This is one further result of the already mentioned feature of the institutional framework of the time, the difficulty to distinguish between the private and the public spheres.

Besides the tributes we have just described, other tributes also impended on the land. Some were, again, of a nature we would call private nowadays, others of a more clearly defined public nature. The former were the tributes due to the Church, the latter the taxes proper, due explicitly as such to the crown. The main tribute due to the Church was the tithe. In theory, the tithe was a tenth of the production of farmers and should be directly paid to certain religious institutions. In practice, not always was it a tenth of the production nor did the Church always receive it directly, as its collection was in a large number of cases rented to various other agents. Nevertheless, it was an important tribute to be paid by producers in general. The taxes due to the crown were the sisa (an indirect tax on consumption) and the décima (an income tax). As far as we know, these tributes weighted on average much less than the seigneurial tributes. Still, when added to them, they accentuated the high level of taxation or para-taxation typical of the Portuguese economy of the time.

Portugal under Spanish Rule, Restoration of Independence and the Eighteenth Century

Spanish Rule of Portugal, 1580-1640

The death of King Sebastian in North Africa, during a military mission in 1578, left the Portuguese throne with no direct heir. There were, however, various indirect candidates in line, thanks to the many kinship links established by the Portuguese royal family to other European royal and aristocratic families. Among them was Phillip II of Spain. He would eventually inherit the Portuguese throne, although only after invading the country in 1580. Between 1578 and 1580 leaders in Portugal tried unsuccessfully to find a “national” solution to the succession problem. In the end, resistance to the establishment of Spanish rule was extremely light.

Initial Lack of Resistance to Spanish Rule

To understand why resistance was so mild one must bear in mind the nature of such political units as the Portuguese and Spanish kingdoms at the time. These kingdoms were not the equivalent of contemporary nation-states. They had a separate identity, evident in such things as a different language, a different cultural history, and different institutions, but this didn’t amount to being a nation. The crown itself, when seen as an institution, still retained many features of a “private” venture. Of course, to some extent it represented the materialization of the kingdom and its “people,” but (by the standards of current political concepts) it still retained a much more ambiguous definition. Furthermore, Phillip II promised to adopt a set of rules allowing for extensive autonomy: the Portuguese crown would be “aggregated” to the Spanish crown although not “absorbed” or “associated” or even “integrated” with it. According to those rules, Portugal was to keep its separate identity as a crown and as a kingdom. All positions in the Portuguese government were to be attributed to Portuguese persons, the Portuguese language was the only one allowed in official matters in Portugal, positions in the Portuguese empire were to be attributed only to Portuguese.

The implementation of such rules depended largely on the willingness of the Portuguese nobility, Church and high-ranking officials to accept them. As there were no major popular revolts that could pressure these groups to decide otherwise, they did not have much difficulty in accepting them. In reality, they saw the new situation as an opportunity for greater power. After all, Spain was then the largest and most powerful political unit in Europe, with vast extensions throughout the world. To participate in such a venture under conditions of great autonomy was seen as an excellent opening.

Resistance to Spanish Rule under Phillip IV

The autonomous status was kept largely untouched until the third decade of the seventeenth century, i.e., until Phillip IV’s reign (1621-1640, in Portugal). This was a reign marked by an important attempt at centralization of power under the Spanish crown. A major impulse for this was Spain’s participation in the Thirty Years War. Simply put, the financial stress caused by the war forced the crown not only to increase fiscal pressure on the various political units under it but also to try to control them more closely. This led to serious efforts at revoking the autonomous status of Portugal (as well as other European regions of the empire). And it was as a reaction to those attempts that many Portuguese aristocrats and important personalities led a movement to recover independence. This movement must, again, be interpreted with care, paying attention to the political concepts of the time. This was not an overtly national reaction, in today’s sense of the word “national.” It was mostly a reaction from certain social groups that felt a threat to their power by the new plans of increased centralization under Spain. As some historians have noted, the 1640 revolt should be best understood as a movement to preserve the constitutional elements of the framework of autonomy established in 1580, against the new centralizing drive, rather than a national or nationalist movement.

Although that was the original intent of the movement, the fact is that, progressively, the new Portuguese dynasty (whose first monarch was John IV, 1640-1656) proceeded to an unprecedented centralization of power in the hands of the Portuguese crown. This means that, even if the original intent of the mentors of the 1640 revolt was to keep the autonomy prevalent both under pre-1580 Portuguese rule and post-1580 Spanish rule, the final result of their action was to favor centralization in the Portuguese crown, and thus help define Portugal as a clearly separate country. Again, we should be careful not to interpret this new bout of centralization in the seventeenth and eighteenth centuries as the creation of a national state and of a modern government. Many of the intermediate groups (in particular the Church and the aristocracy) kept their powers largely intact, even powers we would nowadays call public (such as taxation, justice and police). But there is no doubt that the crown increased significantly its redistributive power, and the nobility and the church had, increasingly, to rely on service to the crown to keep most of their powers.

Consequences of Spanish Rule for the Portuguese Empire

The period of Spanish rule had significant consequences for the Portuguese empire. Due to integration in the Spanish empire, Portuguese colonial territories became a legitimate target for all of Spain’s enemies. The European countries having imperial strategies (in particular, Britain, the Netherlands and France) no longer saw Portugal as a countervailing ally in their struggle with Spain, and consequently promoted serious assaults on Portuguese overseas possessions. There was one further element of the geopolitical landscape of the period that aggravated the willingness of competitors to attack Portugal, and that was Holland’s process of separation from the Spanish empire. Spain was not only a large overseas empire but also an enormous European one, of which Holland was a part until the 1560s. Holland, precisely, saw the Portuguese section of the Iberian empire as its weakest link, and, accordingly, attacked it in a fairly systematic way. The Dutch attack on Portuguese colonial possessions ranged from America (Brazil) to Africa (Sao Tome and Angola) to Asia (India, several points in Southeast Asia, and Indonesia), and in the course of it several Portuguese territories were conquered, mostly in Asia. Portugal, however, managed to keep most of its African and American territories.

The Shift of the Portuguese Empire toward the Atlantic

When it regained independence, Portugal had to re-align its external position in accordance with the new context. Interestingly enough, all those rivals that had attacked the country’s possessions during Spanish rule initially supported its separation. France was the most decisive partner in the first efforts to regain independence. Later (in the 1660s, in the final years of the war with Spain) Britain assumed that role. This was to inaugurate an essential feature of Portuguese external relations. From then on Britain became the most consistent Portuguese foreign partner. In the 1660s such a move was connected to the re-orientation of the Portuguese empire. What had until then been the center of empire (its Eastern part – India and the rest of Asia) lost importance. At first, this was due to the renewal in activity in the Mediterranean route, something that threatened the sea route to India. Then, this was because the Eastern empire was the part where the Portuguese had ceded more territory during Spanish rule, in particular to the Netherlands. Portugal kept most of its positions both in Africa and America, and this part of the world was to acquire extreme importance in the seventeenth and eighteenth centuries. In the last decades of the seventeenth century, Portugal was able to develop numerous trades mostly centered in Brazil (although some of the Atlantic islands also participated), involving sugar, tobacco and tropical woods, all sent to the growing market for luxury goods in Europe, to which was added a growing and prosperous trade of slaves from West Africa to Brazil.

Debates over the Role of Brazilian Gold and the Methuen Treaty

The range of goods in Atlantic trade acquired an important addition with the discovery of gold in Brazil in the late seventeenth century. It is the increased importance of gold in Portuguese trade relations that helps explain one of the most important diplomatic moments in Portuguese history, the Methuen Treaty (also called the Queen Anne Treaty), signed between Britain and Portugal in 1703. Many Portuguese economists and historians have blamed the treaty for Portugal’s inability to achieve modern economic growth during the eighteenth and nineteenth centuries. It must be remembered that the treaty stipulated tariffs to be reduced in Britain for imports of Portuguese wine (favoring it explicitly in relation to French wine), while, as a counterpart, Portugal had to eliminate all prohibitions on imports of British wool textiles (even if tariffs were left in place). Some historians and economists have seen this as Portugal’s abdication of having a national industrial sector and, instead, specializing in agricultural goods for export. As proof, such scholars present figures for the balance of trade between Portugal and Britain after 1703, with the former country exporting mainly wine and the latter textiles, and a widening trade deficit. Other authors, however, have shown that what mostly allowed for this trade (and the deficit) was not wine but the newly discovered Brazilian gold. Could, then, gold be the culprit for preventing Portuguese economic growth? Most historians now reject the hypothesis. The problem would lie not in a particular treaty signed in the early eighteenth century but in the existing structural conditions for the economy to grow – a question to be dealt with further below.

Portuguese historiography currently tends to see the Methuen Treaty mostly in the light of Portuguese diplomatic relations in the seventeenth and eighteenth centuries. The treaty would mostly mark the definite alignment of Portugal within the British sphere. The treaty was signed during the War of Spanish Succession. This was a war that divided Europe in a most dramatic manner. As the Spanish crown was left without a successor in 1700, the countries of Europe were led to support different candidates. The diplomatic choice ended up being polarized around Britain, on the one side, and France, on the other. Increasingly, Portugal was led to prefer Britain, as it was the country that granted more protection to the prosperous Portuguese Atlantic trade. As Britain also had an interest in this alignment (due to the important Portuguese colonial possessions), this explains why the treaty was economically beneficial to Portugal (contrary to what some of the older historiography tended to believe) In fact, in simple trade terms, the treaty was a good bargain for both countries, each having been given preferential treatment for certain of its more typical goods.

Brazilian Gold’s Impact on Industrialization

It is this sequence of events that has led several economists and historians to blame gold for the Portuguese inability to industrialize in the eighteenth and nineteenth centuries. Recent historiography, however, has questioned the interpretation. All these manufactures were dedicated to the production of luxury goods and, consequently, directed to a small market that had nothing to do (in both the nature of the market and technology) with those sectors typical of European industrialization. Were it to continue, it is very doubtful it would ever have become a full industrial spurt of the kind then underway in Britain. The problem lay elsewhere, as we will see below.

Prosperity in the Early 1700s Gives Way to Decline

Be that as it may, the first half of the eighteenth century was a period of unquestionable prosperity for Portugal, mostly thanks to gold, but also to the recovery of the remaining trades (both tropical and from the mainland). Such prosperity is most visible in the period of King John V (1706-1750). This is generally seen as the Portuguese equivalent to the reign of France’s Louis XIV. Palaces and monasteries of great dimensions were then built, and at the same time the king’s court acquired a pomp and grandeur not seen before or after, all financed largely by Brazilian gold. By the mid-eighteenth century, however, it all began to falter. The beginning of decline in gold remittances occurred in the sixth decade of the century. A new crisis began, which was compounded by the dramatic 1755 earthquake, which destroyed a large part of Lisbon and other cities. This new crisis was at the root of a political project aiming at a vast renaissance of the country. This was the first in a series of such projects, all of them significantly occurring in the sequence of traumatic events related to empire. The new project is associated with King Joseph I period (1750-1777), in particular with the policies of his prime-minister, the Marquis of Pombal.

Centralization under the Marquis of Pombal

The thread linking the most important political measures taken by the Marquis of Pombal is the reinforcement of state power. A major element in this connection was his confrontation with certain noble and church representatives. The most spectacular episodes in this respect were, first, the killing of an entire noble family and, second, the expulsion of the Jesuits from national soil. Sometimes this is taken as representing an outright hostile policy towards both aristocracy and church. However, it should be best seen as an attempt to integrate aristocracy and church into the state, thus undermining their autonomous powers. In reality, what the Marquis did was to use the power to confer noble titles, as well as the Inquisition, as means to centralize and increase state power. As a matter of fact, one of the most important instruments of recruitment for state functions during the Marquis’ rule was the promise of noble titles. And the Inquisition’s functions also changed form being mainly a religious court, mostly dedicated to the prosecution of Jews, to becoming a sort of civil political police. The Marquis’ centralizing policy covered a wide range of matters, in particular those most significant to state power. Internal police was reinforced, with the creation of new police institutions directly coordinated by the central government. The collection of taxes became more efficient, through an institution more similar to a modern Treasury than any earlier institutions. Improved collection also applied to tariffs and profits from colonial trade.

Centralizing power by the government had significant repercussions in certain aspects of the relationship between state and civil society. Although the Marquis’ rule is frequently pictured as violent, it included measures generally considered as “enlightened.” Such is the case of the abolition of the distinction between “New Christians” and Christians (new Christians were Jews converted to Catholicism, and as such suffered from a certain degree of segregation, constituting an intermediate category between Jews and Christians proper). Another very important political measure by the Marquis was the abolition of slavery in the empire’s mainland (even if slavery kept on being used in the colonies and the slave trade continued to prosper, there is no way of questioning the importance of the measure).

Economic Centralization under the Marquis of Pombal

The Marquis applied his centralizing drive to economic matters as well. This happened first in agriculture, with the creation of a monopolizing company for trade in Port wine. It continued in colonial trade, where the method applied was the same, that is, the creation of companies monopolizing trade for certain products or regions of the empire. Later, interventionism extended to manufacturing. Such interventionism was essentially determined by the international trade crisis that affected many colonial goods, the most important among them gold. As the country faced a new international payments crisis, the Marquis reverted to protectionism and subsidization of various industrial sectors. Again, as such state support was essentially devoted to traditional, low-tech, industries, this policy failed to boost Portugal’s entry into the group of countries that first industrialized.

Failure to Industrialize

The country would never be the same after the Marquis’ consulate. The “modernization” of state power and his various policies left a profound mark in the Portuguese polity. They were not enough, however, to create the necessary conditions for Portugal to enter a process of industrialization. In reality, most of the structural impediments to modern growth were left untouched or aggravated by the Marquis’ policies. This is particularly true of the relationship between central power and peripheral (aristocratic) powers. The Marquis continued the tradition exacerbated during the fifteenth and sixteenth centuries of liberally conferring noble titles to court members. Again, this accentuated the confusion between the public and the private spheres, with a particular incidence (for what concerns us here) in the definition of property and property rights. The act of granting a noble title by the crown, on many occasions implied a donation of land. The beneficiary of the donation was entitled to collect tributes from the population living in the territory but was forbidden to sell it and, sometimes, even rent it. This meant such beneficiaries were not true owners of the land. The land could not exactly be called their property. This lack of private rights was, however, compensated by the granting of such “public” rights as the ability to obtain tributes – a sort of tax. Beneficiaries of donations were, thus, neither true landowners nor true state representatives. And the same went for the crown. By giving away many of the powers we tend to call public today, the crown was acting as if it could dispose of land under its administration in the same manner as private property. But since this was not entirely private property, by doing so the crown was also conceding public powers to agents we would today call private. Such confusion did not help the creation of either a true entrepreneurial class or of a state dedicated to the protection of private property rights.

The whole property structure described above was kept, even after the reforming efforts of the Marquis of Pombal. The system of donations as a method of payment for jobs taken at the King’s court as well as the juxtaposition of various sorts of tributes, either to the crown or local powers, allowed for the perpetuation of a situation where the private and the public spheres were not clearly separated. Consequently, property rights were not well defined. If there is a crucial reason for Portugal’s impaired economic development, these are the things we should pay attention to. Next, we will begin the study of the nineteenth and twentieth centuries, and see how difficult was the dismantling of such an institutional structure and how it affected the growth potential of the Portuguese economy.

Suggested Reading:

Birmingham, David. A Concise History of Portugal. Cambridge: Cambridge University Press, 1993.

Boxer, C.R. The Portuguese Seaborne Empire, 1415-1825. New York: Alfred A. Knopf, 1969.

Godinho, Vitorino Magalhães. “Portugal and Her Empire, 1680-1720.” The New Cambridge Modern History, Vol. VI. Cambridge: Cambridge University Press, 1970.

Oliveira Marques, A.H. History of Portugal. New York: Columbia University Press, 1972.

Wheeler, Douglas. Historical Dictionary of Portugal. London: Scarecrow Press, 1993.

Citation: Amaral, Luciano. “Economic History of Portugal”. EH.Net Encyclopedia, edited by Robert Whaples. March 16, 2008. URL http://eh.net/encyclopedia/economic-history-of-portugal/

English Poor Laws

George Boyer, Cornell University

A compulsory system of poor relief was instituted in England during the reign of Elizabeth I. Although the role played by poor relief was significantly modified by the Poor Law Amendment Act of 1834, the Crusade Against Outrelief of the 1870s, and the adoption of various social insurance programs in the early twentieth century, the Poor Law continued to assist the poor until it was replaced by the welfare state in 1948. For nearly three centuries, the Poor Law constituted “a welfare state in miniature,” relieving the elderly, widows, children, the sick, the disabled, and the unemployed and underemployed (Blaug 1964). This essay will outline the changing role played by the Poor Law, focusing on the eighteenth and nineteenth centuries.

The Origins of the Poor Law

While legislation dealing with vagrants and beggars dates back to the fourteenth century, perhaps the first English poor law legislation was enacted in 1536, instructing each parish to undertake voluntary weekly collections to assist the “impotent” poor. The parish had been the basic unit of local government since at least the fourteenth century, although Parliament imposed few if any civic functions on parishes before the sixteenth century. Parliament adopted several other statutes relating to the poor in the next sixty years, culminating with the Acts of 1597-98 and 1601 (43 Eliz. I c. 2), which established a compulsory system of poor relief that was administered and financed at the parish (local) level. These Acts laid the groundwork for the system of poor relief up to the adoption of the Poor Law Amendment Act in 1834. Relief was to be administered by a group of overseers, who were to assess a compulsory property tax, known as the poor rate, to assist those within the parish “having no means to maintain them.” The poor were divided into three groups: able-bodied adults, children, and the old or non-able-bodied (impotent). The overseers were instructed to put the able-bodied to work, to give apprenticeships to poor children, and to provide “competent sums of money” to relieve the impotent.

Deteriorating economic conditions and loss of traditional forms of charity in the 1500s

The Elizabethan Poor Law was adopted largely in response to a serious deterioration in economic circumstances, combined with a decline in more traditional forms of charitable assistance. Sixteenth century England experienced rapid inflation, caused by rapid population growth, the debasement of the coinage in 1526 and 1544-46, and the inflow of American silver. Grain prices more than tripled from 1490-1509 to 1550-69, and then increased by an additional 73 percent from 1550-69 to 1590-1609. The prices of other commodities increased nearly as rapidly — the Phelps Brown and Hopkins price index rose by 391 percent from 1495-1504 to 1595-1604. Nominal wages increased at a much slower rate than did prices; as a result, real wages of agricultural and building laborers and of skilled craftsmen declined by about 60 percent over the course of the sixteenth century. This decline in purchasing power led to severe hardship for a large share of the population. Conditions were especially bad in 1595-98, when four consecutive poor harvests led to famine conditions. At the same time that the number of workers living in poverty increased, the supply of charitable assistance declined. The dissolution of the monasteries in 1536-40, followed by the dissolution of religious guilds, fraternities, almshouses, and hospitals in 1545-49, “destroyed much of the institutional fabric which had provided charity for the poor in the past” (Slack 1990). Given the circumstances, the Acts of 1597-98 and 1601 can be seen as an attempt by Parliament both to prevent starvation and to control public order.

The Poor Law, 1601-1750

It is difficult to determine how quickly parishes implemented the Poor Law. Paul Slack (1990) contends that in 1660 a third or more of parishes regularly were collecting poor rates, and that by 1700 poor rates were universal. The Board of Trade estimated that in 1696 expenditures on poor relief totaled £400,000 (see Table 1), slightly less than 1 percent of national income. No official statistics exist for this period concerning the number of persons relieved or the demographic characteristics of those relieved, but it is possible to get some idea of the makeup of the “pauper host” from local studies undertaken by historians. These suggest that, during the seventeenth century, the bulk of relief recipients were elderly, orphans, or widows with young children. In the first half of the century, orphans and lone-parent children made up a particularly large share of the relief rolls, while by the late seventeenth century in many parishes a majority of those collecting regular weekly “pensions” were aged sixty or older. Female pensioners outnumbered males by as much as three to one (Smith 1996). On average, the payment of weekly pensions made up about two-thirds of relief spending in the late seventeenth and early eighteenth centuries; the remainder went to casual benefits, often to able-bodied males in need of short-term relief because of sickness or unemployment.

Settlement Act of 1662

One of the issues that arose in the administration of relief was that of entitlement: did everyone within a parish have a legal right to relief? Parliament addressed this question in the Settlement Act of 1662, which formalized the notion that each person had a parish of settlement, and which gave parishes the right to remove within forty days of arrival any newcomer deemed “likely to be chargeable” as well as any non-settled applicant for relief. While Adam Smith, and some historians, argued that the Settlement Law put a serious brake on labor mobility, available evidence suggests that parishes used it selectively, to keep out economically undesirable migrants such as single women, older workers, and men with large families.

Relief expenditures increased sharply in the first half of the eighteenth century, as can be seen in Table 1. Nominal expenditures increased by 72 percent from 1696 to 1748-50 despite the fact that prices were falling and population was growing slowly; real expenditures per capita increased by 84 percent. A large part of this rise was due to increasing pension benefits, especially for the elderly. Some areas also experienced an increase in the number of able-bodied relief recipients. In an attempt to deter some of the poor from applying for relief, Parliament in 1723 adopted the Workhouse Test Act, which empowered parishes to deny relief to any applicant who refused to enter a workhouse. While many parishes established workhouses as a result of the Act, these were often short-lived, and the vast majority of paupers continued to receive outdoor relief (that is, relief in their own homes).

The Poor Law, 1750-1834

The period from 1750 to 1820 witnessed an explosion in relief expenditures. Real per capita expenditures more than doubled from 1748-50 to 1803, and remained at a high level until the Poor Law was amended in 1834 (see Table 1). Relief expenditures increased from 1.0% of GDP in 1748-50 to a peak of 2.7% of GDP in 1818-20 (Lindert 1998). The demographic characteristics of the pauper host changed considerably in the late eighteenth and early nineteenth centuries, especially in the rural south and east of England. There was a sharp increase in numbers receiving casual benefits, as opposed to regular weekly pensions. The age distribution of those on relief became younger — the share of paupers who were prime-aged (20- 59) increased significantly, and the share aged 60 and over declined. Finally, the share of relief recipients in the south and east who were male increased from about a third in 1760 to nearly two-thirds in 1820. In the north and west there also were shifts toward prime-age males and casual relief, but the magnitude of these changes was far smaller than elsewhere (King 2000).

Gilbert’s Act and the Removal Act

There were two major pieces of legislation during this period. Gilbert’s Act (1782) empowered parishes to join together to form unions for the purpose of relieving their poor. The Act stated that only the impotent poor should be relieved in workhouses; the able-bodied should either be found work or granted outdoor relief. To a large extent, Gilbert’s Act simply legitimized the policies of a large number of parishes that found outdoor relief both less and expensive and more humane that workhouse relief. The other major piece of legislation was the Removal Act of 1795, which amended the Settlement Law so that no non-settled person could be removed from a parish unless he or she applied for relief.

Speenhamland System and other forms of poor relief

During this period, relief for the able-bodied took various forms, the most important of which were: allowances-in-aid-of-wages (the so-called Speenhamland system), child allowances for laborers with large families, and payments to seasonally unemployed agricultural laborers. The system of allowances-in-aid-of-wages was adopted by magistrates and parish overseers throughout large parts of southern England to assist the poor during crisis periods. The most famous allowance scale, though by no means the first, was that adopted by Berkshire magistrates at Speenhamland on May 6, 1795. Under the allowance system, a household head (whether employed or unemployed) was guaranteed a minimum weekly income, the level of which was determined by the price of bread and by the size of his or her family. Such scales typically were instituted only during years of high food prices, such as 1795-96 and 1800-01, and removed when prices declined. Child allowance payments were widespread in the rural south and east, which suggests that laborers’ wages were too low to support large families. The typical parish paid a small weekly sum to laborers with four or more children under age 10 or 12. Seasonal unemployment had been a problem for agricultural laborers long before 1750, but the extent of seasonality increased in the second half of the eighteenth century as farmers in southern and eastern England responded to the sharp increase in grain prices by increasing their specialization in grain production. The increase in seasonal unemployment, combined with the decline in other sources of income, forced many agricultural laborers to apply for poor relief during the winter.

Regional differences in relief expenditures and recipients

Table 2 reports data for fifteen counties located throughout England on per capita relief expenditures for the years ending in March 1783-85, 1803, 1812, and 1831, and on relief recipients in 1802-03. Per capita expenditures were higher on average in agricultural counties than in more industrial counties, and were especially high in the grain-producing southern counties — Oxford, Berkshire, Essex, Suffolk, and Sussex. The share of the population receiving poor relief in 1802-03 varied significantly across counties, being 15 to 23 percent in the grain- producing south and less than 10 percent in the north. The demographic characteristics of those relieved also differed across regions. In particular, the share of relief recipients who were elderly or disabled was higher in the north and west than it was in the south; by implication, the share that were able-bodied was higher in the south and east than elsewhere. Economic historians typically have concluded that these regional differences in relief expenditures and numbers on relief were caused by differences in economic circumstances; that is, poverty was more of a problem in the agricultural south and east than it was in the pastoral southwest or in the more industrial north (Blaug 1963; Boyer 1990). More recently, King (2000) has argued that the regional differences in poor relief were determined not by economic structure but rather by “very different welfare cultures on the part of both the poor and the poor law administrators.”

Causes of the Increase in Relief to Able-bodied Males

What caused the increase in the number of able-bodied males on relief? In the second half of the eighteenth century, a large share of rural households in southern England suffered significant declines in real income. County-level cross-sectional data suggest that, on average, real wages for day laborers in agriculture declined by 19 percent from 1767-70 to 1795 in fifteen southern grain-producing counties, then remained roughly constant from 1795 to 1824, before increasing to a level in 1832 about 10 percent above that of 1770 (Bowley 1898). Farm-level time-series data yield a similar result — real wages in the southeast declined by 13 percent from 1770-79 to 1800-09, and remained low until the 1820s (Clark 2001).

Enclosures

Some historians contend that the Parliamentary enclosure movement, and the plowing over of commons and waste land, reduced the access of rural households to land for growing food, grazing animals, and gathering fuel, and led to the immiseration of large numbers of agricultural laborers and their families (Hammond and Hammond 1911; Humphries 1990). More recent research, however, suggests that only a relatively small share of agricultural laborers had common rights, and that there was little open access common land in southeastern England by 1750 (Shaw-Taylor 2001; Clark and Clark 2001). Thus, the Hammonds and Humphries probably overstated the effect of late eighteenth-century enclosures on agricultural laborers’ living standards, although those laborers who had common rights must have been hurt by enclosures.

Declining cottage industry

Finally, in some parts of the south and east, women and children were employed in wool spinning, lace making, straw plaiting, and other cottage industries. Employment opportunities in wool spinning, the largest cottage industry, declined in the late eighteenth century, and employment in the other cottage industries declined in the early nineteenth century (Pinchbeck 1930; Boyer 1990). The decline of cottage industry reduced the ability of women and children to contribute to household income. This, in combination with the decline in agricultural laborers’ wage rates and, in some villages, the loss of common rights, caused many rural household’s incomes in southern England to fall dangerously close to subsistence by 1795.

North and Midlands

The situation was different in the north and midlands. The real wages of day laborers in agriculture remained roughly constant from 1770 to 1810, and then increased sharply, so that by the 1820s wages were about 50 percent higher than they were in 1770 (Clark 2001). Moreover, while some parts of the north and midlands experienced a decline in cottage industry, in Lancashire and the West Riding of Yorkshire the concentration of textile production led to increased employment opportunities for women and children.

The Political Economy of the Poor Law, 1795-1834

A comparison of English poor relief with poor relief on the European continent reveals a puzzle: from 1795 to 1834 relief expenditures per capita, and expenditures as a share of national product, were significantly higher in England than on the continent. However, differences in spending between England and the continent were relatively small before 1795 and after 1834 (Lindert 1998). Simple economic explanations cannot account for the different patterns of English and continental relief.

Labor-hiring farmers take advantage of the poor relief system

The increase in relief spending in the late-eighteenth and early-nineteenth centuries was partly a result of politically-dominant farmers taking advantage of the poor relief system to shift some of their labor costs onto other taxpayers (Boyer 1990). Most rural parish vestries were dominated by labor-hiring farmers as a result of “the principle of weighting the right to vote according to the amount of property occupied,” introduced by Gilbert’s Act (1782), and extended in 1818 by the Parish Vestry Act (Brundage 1978). Relief expenditures were financed by a tax levied on all parishioners whose property value exceeded some minimum level. A typical rural parish’s taxpayers can be divided into two groups: labor-hiring farmers and non-labor-hiring taxpayers (family farmers, shopkeepers, and artisans). In grain-producing areas, where there were large seasonal variations in the demand for labor, labor-hiring farmers anxious to secure an adequate peak season labor force were able to reduce costs by laying off unneeded workers during slack seasons and having them collect poor relief. Large farmers used their political power to tailor the administration of poor relief so as to lower their labor costs. Thus, some share of the increase in relief spending in the early nineteenth century represented a subsidy to labor-hiring farmers rather than a transfer from farmers and other taxpayers to agricultural laborers and their families. In pasture farming areas, where the demand for labor was fairly constant over the year, it was not in farmers’ interests to shed labor during the winter, and the number of able-bodied laborers receiving casual relief was smaller. The Poor Law Amendment Act of 1834 reduced the political power of labor-hiring farmers, which helps to account for the decline in relief expenditures after that date.

The New Poor Law, 1834-70

The increase in spending on poor relief in the late eighteenth and early nineteenth centuries, combined with the attacks on the Poor Laws by Thomas Malthus and other political economists and the agricultural laborers’ revolt of 1830-31 (the Captain Swing riots), led the government in 1832 to appoint the Royal Commission to Investigate the Poor Laws. The Commission published its report, written by Nassau Senior and Edwin Chadwick, in March 1834. The report, described by historian R. H. Tawney (1926) as “brilliant, influential and wildly unhistorical,” called for sweeping reforms of the Poor Law, including the grouping of parishes into Poor Law unions, the abolition of outdoor relief for the able-bodied and their families, and the appointment of a centralized Poor Law Commission to direct the administration of poor relief. Soon after the report was published Parliament adopted the Poor Law Amendment Act of 1834, which implemented some of the report’s recommendations and left others, like the regulation of outdoor relief, to the three newly appointed Poor Law Commissioners.

By 1839 the vast majority of rural parishes had been grouped into poor law unions, and most of these had built or were building workhouses. On the other hand, the Commission met with strong opposition when it attempted in 1837 to set up unions in the industrial north, and the implementation of the New Poor Law was delayed in several industrial cities. In an attempt to regulate the granting of relief to able-bodied males, the Commission, and its replacement in 1847, the Poor Law Board, issued several orders to selected Poor Law Unions. The Outdoor Labour Test Order of 1842, sent to unions without workhouses or where the workhouse test was deemed unenforceable, stated that able-bodied males could be given outdoor relief only if they were set to work by the union. The Outdoor Relief Prohibitory Order of 1844 prohibited outdoor relief for both able-bodied males and females except on account of sickness or “sudden and urgent necessity.” The Outdoor Relief Regulation Order of 1852 extended the labor test for those relieved outside of workhouses.

Historical debate about the effect of the New Poor Law

Historians do not agree on the effect of the New Poor Law on the local administration of relief. Some contend that the orders regulating outdoor relief largely were evaded by both rural and urban unions, many of whom continued to grant outdoor relief to unemployed and underemployed males (Rose 1970; Digby 1975). Others point to the falling numbers of able- bodied males receiving relief in the national statistics and the widespread construction of union workhouses, and conclude that the New Poor Law succeeded in abolishing outdoor relief for the able-bodied by 1850 (Williams 1981). A recent study by Lees (1998) found that in three London parishes and six provincial towns in the years around 1850 large numbers of prime-age males continued to apply for relief, and that a majority of those assisted were granted outdoor relief. The Poor Law also played an important role in assisting the unemployed in industrial cities during the cyclical downturns of 1841-42 and 1847-48 and the Lancashire cotton famine of 1862-65 (Boot 1990; Boyer 1997). There is no doubt, however, that spending on poor relief declined after 1834 (see Table 1). Real per capita relief expenditures fell by 43 percent from 1831 to 1841, and increased slowly thereafter.

Beginning in 1840, data on the number of persons receiving poor relief are available for two days a year, January 1 and July 1; the “official” estimates in Table 1 of the annual number relieved were constructed as the average of the number relieved on these two dates. Studies conducted by Poor Law administrators indicate that the number recorded in the day counts was less than half the number assisted during the year. Lees’s “revised” estimates of annual relief recipients (see Table 1) assumes that the ratio of actual to counted paupers was 2.24 for 1850- 1900 and 2.15 for 1905-14; these suggest that from 1850 to 1870 about 10 percent of the population was assisted by the Poor Law each year. Given the temporary nature of most spells of relief, over a three year period as much as 25 percent of the population made use of the Poor Law (Lees 1998).

The Crusade Against Outrelief

In the 1870s Poor Law unions throughout England and Wales curtailed outdoor relief for all types of paupers. This change in policy, known as the Crusade Against Outrelief, was not a result of new government regulations, although it was encouraged by the newly formed Local Government Board (LGB). The Board was aided in convincing the public of the need for reform by the propaganda of the Charity Organization Society (COS), founded in 1869. The LGB and the COS maintained that the ready availability of outdoor relief destroyed the self-reliance of the poor. The COS went on to argue that the shift from outdoor to workhouse relief would significantly reduce the demand for assistance, since most applicants would refuse to enter workhouses, and therefore reduce Poor Law expenditures. A policy that promised to raise the morals of the poor and reduce taxes was hard for most Poor Law unions to resist (MacKinnon 1987).

The effect of the Crusade can be seen in Table 1. The deterrent effect associated with the workhouse led to a sharp fall in numbers on relief — from 1871 to 1876, the number of paupers receiving outdoor relief fell by 33 percent. The share of paupers relieved in workhouses increased from 12-15 percent in 1841-71 to 22 percent in 1880, and it continued to rise to 35 percent in 1911. The extent of the crusade varied considerably across poor law unions. Urban unions typically relieved a much larger share of their paupers in workhouses than did rural unions, but there were significant differences in practice across cities. In 1893, over 70 percent of the paupers in Liverpool, Manchester, Birmingham, and in many London Poor Law unions received indoor relief; however, in Leeds, Bradford, Newcastle, Nottingham and several other industrial and mining cities the majority of paupers continued to receive outdoor relief (Booth 1894).

Change in the attitude of the poor toward relief

The last third of the nineteenth century also witnessed a change in the attitude of the poor towards relief. Prior to 1870, a large share of the working class regarded access to public relief as an entitlement, although they rejected the workhouse as a form of relief. Their opinions changed over time, however, and by the end of the century most workers viewed poor relief as stigmatizing (Lees 1998). This change in perceptions led many poor people to go to great lengths to avoid applying for relief, and available evidence suggests that there were large differences between poverty rates and pauperism rates in late Victorian Britain. For example, in York in 1900, 3,451 persons received poor relief at some point during the year, less than half of the 7,230 persons estimated by Rowntree to be living in primary poverty.

The Declining Role of the Poor Law, 1870-1914

Increased availability of alternative sources of assistance

The share of the population on relief fell sharply from 1871 to 1876, and then continued to decline, at a much slower pace, until 1914. Real per capita relief expenditures increased from 1876 to 1914, largely because the Poor Law provided increasing amounts of medical care for the poor. Otherwise, the role played by the Poor Law declined over this period, due in large part to an increase in the availability of alternative sources of assistance. There was a sharp increase in the second half of the nineteenth century in the membership of friendly societies — mutual help associations providing sickness, accident, and death benefits, and sometimes old age (superannuation) benefits — and of trade unions providing mutual insurance policies. The benefits provided workers and their families with some protection against income loss, and few who belonged to friendly societies or unions providing “friendly” benefits ever needed to apply to the Poor Law for assistance.

Work relief

Local governments continued to assist unemployed males after 1870, but typically not through the Poor Law. Beginning with the Chamberlain Circular in 1886 the Local Government Board encouraged cities to set up work relief projects when unemployment was high. The circular stated that “it is not desirable that the working classes should be familiarised with Poor Law relief,” and that the work provided should “not involve the stigma of pauperism.” In 1905 Parliament adopted the Unemployed Workman Act, which established in all large cities distress committees to provide temporary employment to workers who were unemployed because of a “dislocation of trade.”

Liberal welfare reforms, 1906-1911

Between 1906 and 1911 Parliament passed several pieces of social welfare legislation collectively known as the Liberal welfare reforms. These laws provided free meals and medical inspections (later treatment) for needy school children (1906, 1907, 1912) and weekly pensions for poor persons over age 70 (1908), and established national sickness and unemployment insurance (1911). The Liberal reforms purposely reduced the role played by poor relief, and paved the way for the abolition of the Poor Law.

The Last Years of the Poor Law

During the interwar period the Poor Law served as a residual safety net, assisting those who fell through the cracks of the existing social insurance policies. The high unemployment of 1921-38 led to a sharp increase in numbers on relief. The official count of relief recipients rose from 748,000 in 1914 to 1,449,000 in 1922; the number relieved averaged 1,379,800 from 1922 to 1938. A large share of those on relief were unemployed workers and their dependents, especially in 1922-26. Despite the extension of unemployment insurance in 1920 to virtually all workers except the self-employed and those in agriculture or domestic service, there still were large numbers who either did not qualify for unemployment benefits or who had exhausted their benefits, and many of them turned to the Poor Law for assistance. The vast majority were given outdoor relief; from 1921 to 1923 the number of outdoor relief recipients increased by 1,051,000 while the number receiving indoor relieve increased by 21,000.

The Poor Law becomes redundant and is repealed

Despite the important role played by poor relief during the interwar period, the government continued to adopt policies, which bypassed the Poor Law and left it “to die by attrition and surgical removals of essential organs” (Lees 1998). The Local Government Act of 1929 abolished the Poor Law unions, and transferred the administration of poor relief to the counties and county boroughs. In 1934 the responsibility for assisting those unemployed who were outside the unemployment insurance system was transferred from the Poor Law to the Unemployment Assistance Board. Finally, from 1945 to 1948, Parliament adopted a series of laws that together formed the basis for the welfare state, and made the Poor Law redundant. The National Assistance Act of 1948 officially repealed all existing Poor Law legislation, and replaced the Poor Law with the National Assistance Board to act as a residual relief agency.

Table 1
Relief Expenditures and Numbers on Relief, 1696-1936

Expend. Real Expend. Expend. Number Share of Number Share of Share of
on expend. as share as share relieved Pop. relieved pop. paupers
Year Relief per capita of GDP of GDP (Official) relieved (Lees) relieved relieved
(£s) 1803=100 (Slack) (Lindert) 1 000s (Official) 1 000s (Lees) indoors
1696 400 24.9 0.8
1748-50 690 45.8 1.0 0.99
1776 1 530 64.0 1.6 1.59
1783-85 2 004 75.6 2.0 1.75
1803 4 268 100.0 1.9 2.15 1 041 11.4 8.0
1813 6 656 91.8 2.58
1818 7 871 116.8
1821 6 959 113.6 2.66
1826 5 929 91.8
1831 6 799 107.9 2.00
1836 4 718 81.1
1841 4 761 61.8 1.12 1 299 8.3 2 910 18.5 14.8
1846 4 954 69.4 1 332 8.0 2 984 17.8 15.0
1851 4 963 67.8 1.07 941 5.3 2 108 11.9 12.1
1856 6 004 62.0 917 4.9 2 054 10.9 13.6
1861 5 779 60.0 0.86 884 4.4 1 980 9.9 13.2
1866 6 440 65.0 916 4.3 2 052 9.7 13.7
1871 7 887 73.3 1 037 4.6 2 323 10.3 14.2
1876 7 336 62.8 749 3.1 1 678 7.0 18.1
1881 8 102 69.1 0.70 791 3.1 1 772 6.9 22.3
1886 8 296 72.0 781 2.9 1 749 6.4 23.2
1891 8 643 72.3 760 2.6 1 702 5.9 24.0
1896 10 216 84.7 816 2.7 1 828 6.0 25.9
1901 11 549 84.7 777 2.4 1 671 5.2 29.2
1906 14 036 96.9 892 2.6 1 918 5.6 31.1
1911 15 023 93.6 886 2.5 1 905 5.3 35.1
1921 31 925 75.3 627 1.7 35.7
1926 40 083 128.3 1 331 3.4 17.7
1931 38 561 133.9 1 090 2.7 21.5
1936 44 379 165.7 1 472 3.6 12.6

Notes: Relief expenditure data are for the year ended on March 25. In calculating real per capita expenditures, I used cost of living and population data for the previous year.

Table 2
County-level Poor Relief Data, 1783-1831

Per capita Per capita Per capita Per capita Share of Percent Share of
relief relief relief relief Percent of Recipients of land in Pop
spending spending spending spending population over 60 or arable Employed
County (s.) (s.) (s.) (s.) relieved Disabled farming in Agric
1783-5 1802-03 1812 1831 1802-03 1802-03 c. 1836 1821
North
Durham 2.78 6.50 9.92 6.83 9.3 22.8 54.9 20.5
Northumberland 2.81 6.67 7.92 6.25 8.8 32.2 46.5 26.8
Lancashire 3.48 4.42 7.42 4.42 6.7 15.0 27.1 11.2
West Riding 2.91 6.50 9.92 5.58 9.3 18.1 30.0 19.6
Midlands
Stafford 4.30 6.92 8.50 6.50 9.1 17.2 44.8 26.6
Nottingham 3.42 6.33 10.83 6.50 6.8 17.3 na 35.4
Warwick 6.70 11.25 13.33 9.58 13.3 13.7 47.5 27.9
Southeast
Oxford 7.07 16.17 24.83 16.92 19.4 13.2 55.8 55.4
Berkshire 8.65 15.08 27.08 15.75 20.0 12.7 58.5 53.3
Essex 9.10 12.08 24.58 17.17 16.4 12.7 72.4 55.7
Suffolk 7.35 11.42 19.33 18.33 16.6 11.4 70.3 55.9
Sussex 11.52 22.58 33.08 19.33 22.6 8.7 43.8 50.3
Southwest
Devon 5.53 7.25 11.42 9.00 12.3 23.1 22.5 40.8
Somerset 5.24 8.92 12.25 8.83 12.0 20.8 24.4 42.8
Cornwall 3.62 5.83 9.42 6.67 6.6 31.0 23.8 37.7
England & Wales 4.06 8.92 12.75 10.08 11.4 16.0 48.0 33.0

References

Blaug, Mark. “The Myth of the Old Poor Law and the Making of the New.” Journal of Economic History 23 (1963): 151-84.

Blaug, Mark. “The Poor Law Report Re-examined.” Journal of Economic History (1964) 24: 229-45.

Boot, H. M. “Unemployment and Poor Law Relief in Manchester, 1845-50.” Social History 15 (1990): 217-28.

Booth, Charles. The Aged Poor in England and Wales. London: MacMillan, 1894.

Boyer, George R. “Poor Relief, Informal Assistance, and Short Time during the Lancashire Cotton Famine.” Explorations in Economic History 34 (1997): 56-76.

Boyer, George R. An Economic History of the English Poor Law, 1750-1850. Cambridge: Cambridge University Press, 1990.

Brundage, Anthony. The Making of the New Poor Law. New Brunswick, N.J.: Rutgers University Press, 1978.

Clark, Gregory. “Farm Wages and Living Standards in the Industrial Revolution: England, 1670-1869.” Economic History Review, 2nd series 54 (2001): 477-505.

Clark, Gregory and Anthony Clark. “Common Rights to Land in England, 1475-1839.” Journal of Economic History 61 (2001): 1009-36.

Digby, Anne. “The Labour Market and the Continuity of Social Policy after 1834: The Case of the Eastern Counties.” Economic History Review, 2nd series 28 (1975): 69-83.

Eastwood, David. Governing Rural England: Tradition and Transformation in Local Government, 1780-1840. Oxford: Clarendon Press, 1994.

Fraser, Derek, editor. The New Poor Law in the Nineteenth Century. London: Macmillan, 1976.

Hammond, J. L. and Barbara Hammond. The Village Labourer, 1760-1832. London: Longmans, Green, and Co., 1911.

Hampson, E. M. The Treatment of Poverty in Cambridgeshire, 1597-1834. Cambridge: Cambridge University Press, 1934

Humphries, Jane. “Enclosures, Common Rights, and Women: The Proletarianization of Families in the Late Eighteenth and Early Nineteenth Centuries.” Journal of Economic History 50 (1990): 17-42.

King, Steven. Poverty and Welfare in England, 1700-1850: A Regional Perspective. Manchester: Manchester University Press, 2000.

Lees, Lynn Hollen. The Solidarities of Strangers: The English Poor Laws and the People, 1770-1948. Cambridge: Cambridge University Press, 1998.

Lindert, Peter H. “Poor Relief before the Welfare State: Britain versus the Continent, 1780- 1880.” European Review of Economic History 2 (1998): 101-40.

MacKinnon, Mary. “English Poor Law Policy and the Crusade Against Outrelief.” Journal of Economic History 47 (1987): 603-25.

Marshall, J. D. The Old Poor Law, 1795-1834. 2nd edition. London: Macmillan, 1985.

Pinchbeck, Ivy. Women Workers and the Industrial Revolution, 1750-1850. London: Routledge, 1930.

Pound, John. Poverty and Vagrancy in Tudor England, 2nd edition. London: Longmans, 1986.

Rose, Michael E. “The New Poor Law in an Industrial Area.” In The Industrial Revolution, edited by R.M. Hartwell. Oxford: Oxford University Press, 1970.

Rose, Michael E. The English Poor Law, 1780-1930. Newton Abbot: David & Charles, 1971.

Shaw-Taylor, Leigh. “Parliamentary Enclosure and the Emergence of an English Agricultural Proletariat.” Journal of Economic History 61 (2001): 640-62.

Slack, Paul. Poverty and Policy in Tudor and Stuart England. London: Longmans, 1988.

Slack, Paul. The English Poor Law, 1531-1782. London: Macmillan, 1990.

Smith, Richard (1996). “Charity, Self-interest and Welfare: Reflections from Demographic and Family History.” In Charity, Self-Interest and Welfare in the English Past, edited by Martin Daunton. NewYork: St Martin’s.

Sokoll, Thomas. Household and Family among the Poor: The Case of Two Essex Communities in the Late Eighteenth and Early Nineteenth Centuries. Bochum: Universitätsverlag Brockmeyer, 1993.

Solar, Peter M. “Poor Relief and English Economic Development before the Industrial Revolution.” Economic History Review, 2nd series 48 (1995): 1-22.

Tawney, R. H. Religion and the Rise of Capitalism: A Historical Study. London: J. Murray, 1926.

Webb, Sidney and Beatrice Webb. English Poor Law History. Part I: The Old Poor Law. London: Longmans, 1927.

Williams, Karel. From Pauperism to Poverty. London: Routledge, 1981.

Citation: Boyer, George. “English Poor Laws”. EH.Net Encyclopedia, edited by Robert Whaples. May 7, 2002. URL http://eh.net/encyclopedia/english-poor-laws/

The National Recovery Administration

Barbara Alexander, Charles River Associates

This article outlines the history of the National Recovery Administration, one of the most important and controversial agencies in Roosevelt’s New Deal. It discusses the agency’s “codes of fair competition” under which antitrust law exemptions could be granted in exchange for adoption of minimum wages, problems some industries encountered in their subsequent attempts to fix prices under the codes, and the macroeconomic effects of the program.

The early New Deal suspension of antitrust law under the National Recovery Administration (NRA) is surely one of the oddest episodes in American economic history. In its two-year life, the NRA oversaw the development of so-called “codes of fair competition” covering the larger part of the business landscape.1 The NRA generally is thought to have represented a political exchange whereby business gave up some of its rights over employees in exchange for permission to form cartels.2 Typically, labor is taken to have gotten the better part of the bargain; the union movement having extended its new powers after the Supreme Court abolished the NRA in 1935, while the business community faced a newly aggressive FTC by the end of the 1930s. While this characterization may be true in broad outline, close examination of the NRA reveals that matters may be somewhat more complicated than is suggested by the interpretation of the program as a win for labor contrasted with a missed opportunity for business.

Recent evaluations of the NRA have wended their way back to themes sounded during the early nineteen thirties, in particular, interrelationships between the so-called “trade practice” or cartelization provisions of the program and the grant of enhanced bargaining power to trade unions.3 On the microeconomic side, allowing unions to bargain for industry-wide wages may have facilitated cartelization in some industries. Meanwhile, macroeconomists have suggested that the Act and its progeny, especially labor measures such as the National Labor Relations Act may bear more responsibility for the length and severity of the Great Depression than has been recognized heretofore.4 If this thesis holds up to closer scrutiny, the era may come to be seen as a primary example of the potential macroeconomic costs of shifts in political and economic power.

Kickoff Campaign and Blanket Codes

The NRA began operations in a burst of “ballyhoo” during the summer of 1933.5 The agency was formed upon passage of the National Industrial Recovery Act (NIRA) in mid-June. A kick-off campaign of parades and press events succeeded in getting over 2 million employers to sign a preliminary “blanket code” known as the “President’s Re-Employment Agreement.” Signatories of the PRA pledged to pay minimum wages ranging from around $12 to $15 per 40-hour week, depending on size of town. Some 16 million workers were covered, out of a non-farm labor force of some 25 million. “Share-the-work” provisions called for limits of 35 to 40 hours per week for most employees.6

NRA Codes

Over the next year and a half, the blanket code was superseded by over 500 codes negotiated for individual industries. The NIRA provided that: “Upon the application to the President by one or more trade or industrial associations or groups, the President may approve a code or codes of fair competition for the trade or industry.”7 The carrot held out to induce participation was enticing: “any code … and any action complying with the provisions thereof . . . shall be exempt from the provisions of the antitrust laws of the United States.”8 Representatives of trade associations overran Washington, and by the time the NRA was abolished, hundreds of codes covering over three-quarters of private, non-farm employment had been approved.9 Code signatories were supposed to be allowed to use the NRA “Blue Eagle” as a symbol that “we do our part” only as long as they remained in compliance with code provisions.10

Disputes Arise

Almost 80 percent of the codes had provisions that were directed at establishment of price floors.11 The Act did not specifically authorize businesses to fix prices, and indeed it specified that ” . . .codes are not designed to promote monopolies.”12 However, it is an understatement to say that there was never any consensus among firms, industries and NRA officials as to precisely what was to be allowed as part of an acceptable code. Arguments about exactly what the NIRA allowed, and how the NRA should implement the Act began during its drafting and continued unabated throughout its life. The arguments extended from the level of general principles to the smallest details of policy, unsurprising given the complete dependence of appropriate regulatory design on precise regulatory objectives, which here were embroiled in dispute from start to finish.

To choose just one out of many examples of such disputes: There was a debate within the NRA as to whether “code authorities” (industry governing bodies) should be allowed to use industry-wide or “representative” cost data to define a price floor based on “lowest reasonable cost.” Most economists would understand this type of rule as a device that would facilitate monopoly pricing. However, a charitable interpretation of the views of administration proponents is that they had some sort of “soft competition” in mind. That is, they wished to develop and allow the use of mechanisms that would extend to more fragmented industries a type of peaceful coexistence more commonly associated with oligopoly. Those NRA supporters of the representative-cost-based price floor imagined that a range of prices would emerge if such a floor were to be set, whereas detractors believed that “the minimum would become the maximum,” that is, the floor would simply be a cartel price, constraining competition across all firms in an industry.13

Price Floors

While a rule allowing emergency price floors based on “lowest reasonable cost” was eventually approved, there was no coherent NRA program behind it.14 Indeed, the NRA and code authorities often operated at cross-purposes. At the same time that some officials of the NRA arguably took actions to promote softened competition, some in industry tried to implement measures more likely to support hard-core cartels, even when they thereby reduced the chance of soft competition should collusion fail. For example, with the partial support of the NRA, many code authorities moved to standardize products, shutting off product differentiation as an arena of potential rivalry, in spite of its role as one of the strongest mechanisms that might soften price competition.15 Of course if one is looking to run a naked price-fixing scheme, it is helpful to eliminate product differentiation as an avenue for cost-raising, profit-eroding rivalry. An industry push for standardization can thus be seen as a way of supporting hard-core cartelization, while less enthusiasm on the part of some administration officials may have reflected an understanding, however intuitive, that socially more desirable soft competition required that avenues for product differentiation be left open.

National Recovery Review Board

According to some critical observers then and later, the codes did lead to an unsurprising sort of “golden age” of cartelization. The National Recovery Review Board, led by an outraged Clarence Darrow (of Scopes “monkey trial” fame) concluded in May of 1934 that “in certain industries monopolistic practices existed.”16 While there are legitimate examples of every variety of cartelization occurring under the NRA, many contemporaneous and subsequent assessments of Darrow’s work dismiss the Board’s “analysis” as hopelessly biased. Thus although its conclusions are interesting as a matter of political economy, it is far from clear that the Board carried out any dispassionate inventory of conditions across industries, much less a real weighing of evidence.17

Compliance Crisis

In contrast to Darrow’s perspective, other commentators focus on the “compliance crisis” that erupted within a few months of passage of the NIRA.18 Many industries were faced with “chiselers” who refused to respect code pricing rules. Firms that attempted to uphold code prices in the face of defection lost both market share and respect for the NRA.

NRA state compliance offices had recorded over 30,000 “trade practice” complaints by early 1935.19 However, the compliance program was characterized by “a marked timidity on the part of NRA enforcement officials.”20 This timidity was fatal to the program, since monopoly pricing can easily be more damaging than is the most bare-knuckled competition to a firm that attempts it without parallel action from its competitors. NRA hesitancy came about as a result of doubts about whether a vigorous enforcement effort would withstand constitutional challenge, a not-unrelated lack of support from the Department of Justice, public antipathy for enforcement actions aimed at forcing sellers to charge higher prices, and unabating internal NRA disputes about the advisability of the price-fixing core of the trade practice program.21 Consequently, by mid-1934, firms disinclined to respect code pricing rules were ignoring them. By that point then, contrary to the initial expectations of many code signatories, the new antitrust regime represented only permission to form voluntary cartelization agreements, not the advent of government-enforced cartels. Even there, participants had to be discreet, so as not to run afoul of the antimonopoly language of the Act.

It is still far from clear how much market power was conferred by the NRA’s loosening of antitrust constraints. Of course, modern observers of the alternating successes and failures of cartels such as OPEC will not be surprised that the NRA program led to mixed results. In the absence of government enforcement, the program simply amounted to de facto legalization of self-enforcing cartels. With respect to the ease of collusion, economic theory is clear only on the point that self-enforceability is an open question; self-interest may lead to either breakdown of agreements or success at sustaining them.

Conflicts between Large and Small Firms

Some part of the difficulties encountered by NRA cartels may have had roots in a progressive mandate to offer special protection to the “little guy.” The NIRA had specified that acceptable codes of fair competition must not “eliminate or oppress small enterprises,”22 and that “any organization availing itself of the benefits of this title shall be truly representative of the trade or industry . . . Any organization violating … shall cease to be entitled to the benefits of this title.”23 Majority rule provisions were exceedingly common in codes, and were most likely a reflection of this statutory mandate. The concern for small enterprise had strong progressive roots.24 Justice Brandeis’s well-known antipathy for large-scale enterprise and concentration of economic power reflected a widespread and long-standing debate about the legitimate goals of the American experiment.

In addition to evaluating monopolization under the codes, the Darrow board had been charged with assessing the impact of the NRA on small business. Its conclusion was that “in certain industries small enterprises were oppressed.” Again however, as with his review of monopolization, Darrow may have seen only what he was predisposed to see. A number of NRA “code histories” detail conflicts within industries in which small, higher-cost producers sought to use majority rule provisions to support pricing at levels above those desired by larger, lower-cost producers. In the absence of effective enforcement from the government, such prices were doomed to break down, triggering repeated price wars in some industries.25

By 1935, there was understandable bitterness about what many businesses viewed as the lost promise of the NRA. Undoubtedly, the bitterness was exacerbated by the fact that the NRA wanted higher wages while failing to deliver the tools needed for effective cartelization. However, it is not entirely clear that everyone in the business community felt that the labor provisions of the Act were undesirable.26

Labor and Employment Issues

By their nature, market economies give rise to surplus-eroding rivalry among those who would be better off collectively if they could only act in concert. NRA codes of fair competition, specifying agreements on pricing and terms of employment, arose from a perceived confluence of interests among representatives of “business,” “labor,” and “the public” in muting that rivalry. Many proponents of the NIRA held that competitive pressures on business had led to downward pressure on wages, which in turn caused low consumption, leading to greater pressure on business, and so on. Allowing workers to organize and bargain collectively, while their employers pledged to one another not to sell below cost, was identified as a way to arrest harmful deflationary forces. Knowledge that one’s rivals would also be forced to pay “code wages” had some potential for aiding cartel survival. Thus the rationale for NRA wage supports at the microeconomic level potentially dovetailed with the macroeconomic theory by which higher wages were held to support higher consumption and, in turn, higher prices.

Labor provisions of the NIRA appeared in Section 7: “. . . employees shall have the right to organize and bargain collectively through representatives of their own choosing … employers shall comply with the maximum hours of labor, minimum rates of pay, and other conditions of employment…” 27 Each “code of fair competition” had to include labor provisions acceptable to the National Recovery Administration, developed during a process of negotiations, hearings, and review. Thus in order to obtain the shield against antitrust prosecution for their “trade practices” offered by an approved code, significant concessions to workers had to be made.

The NRA is generally judged to have been a success for labor and a miserable failure for business. However, evaluation is complicated to the extent that labor could not have achieved gains with respect to collective bargaining rights over wages and working conditions, had those rights not been more or less willingly granted by employers operating under the belief that stabilization of labor costs would facilitate cartelization. The labor provisions may have indeed helped some industries as well as helping workers, and for firms in such industries, the NRA cannot have been judged a failure. Moreover, while some businesses may have found the Act beneficial, because labor cost stability or freedom to negotiate with rivals enhanced their ability to cooperate on price, it is not entirely obvious that workers as a class gained as much as is sometimes contended.

The NRA did help solidify new and important norms regarding child labor, maximum hours, and other conditions of employment; it will never be known if the same progress could have been made had not industry been more or less hornswoggled into giving ground, using the antitrust laws as bait. Whatever the long-term effects of the NRA on worker welfare, the short-term gains for labor associated with higher wages were questionable. While those workers who managed to stay employed throughout the nineteen thirties benefited from higher wages, to the extent that workers were also consumers, and often unemployed consumers at that, or even potential entrepreneurs, they may have been better off without the NRA.

The issue is far from settled. Ben Bernanke and Martin Parkinson examine the economic growth that occurred during the New Deal in spite of higher wages and suggest “part of the answer may be that the higher wages ‘paid for themselves’ through increased productivity of labor. Probably more important, though, is the observation that with imperfectly competitive product markets, output depends on aggregate demand as well as the real wage. Maybe Herbert Hoover and Henry Ford were right: Higher real wages may have paid for themselves in the broader sense that their positive effect on aggregate demand compensated for their tendency to raise cost.”28 However, Christina Romer establishes a close connection between NRA programs and the failure of wages and prices to adjust to high unemployment levels. In her view, “By preventing the large negative deviations of output from trend in the mid-1930s from exerting deflationary pressure, [the NRA] prevented the economy’s self-correction mechanism from working.” 29

Aftermath of Supreme Court’s Ruling in Schecter Case

The Supreme Court struck down the NRA on May 27, 1935; the case was a dispute over violations of labor provisions of the “Live Poultry Code” allegedly perpetrated by the Schecter Poultry Corporation. The Court held the code to be invalid on grounds of “attempted delegation of legislative power and the attempted regulation of intrastate transactions which affect interstate commerce only indirectly.”30 There were to be no more grand bargains between business and labor under the New Deal.

Riven by divergent agendas rooted in industry- and firm-specific technology and demand, “business” was never able to speak with even the tenuous degree of unity achieved by workers. Following the abortive attempt to get the government to enforce cartels, firms and industries went their own ways, using a variety of strategies to enhance their situations. A number of sectors did succeed in getting passage of “little NRAs” with mechanisms tailored to mute competition in their particular circumstances. These mechanisms included the Robinson-Patman Act, aimed at strengthening traditional retailers against the ability of chain stores to buy at lower prices, the Guffey Acts, in which high cost bituminous coal operators and coal miners sought protection from the competition of lower cost operators, and the Motor Carrier Act in which high cost incumbent truckers obtained protection against new entrants.31

On-going macroeconomic analysis suggests that the general public interest may have been poorly served by the experiment of the NRA. Like many macroeconomic theories, the validity of the underconsumption scenario that was put forth in support of the program depended on the strength and timing of the operation of its various mechanisms. Increasingly it appears that the NRA set off inflationary forces thought by some to be desirable at the time, but that in fact had depressing effects on demand for labor and on output. Pure monopolistic deadweight losses probably were less important than higher wage costs (although there has not been any close examination of inefficiencies that may have resulted from the NRA’s attempt to protect small higher-cost producers). The strength of any mitigating effects on aggregate demand remains to be established.

1 Leverett Lyon, P. Homan, L. Lorwin, G. Terborgh, C. Dearing, L. Marshall, The National Recovery Administration: An Analysis and Appraisal, Washington: Brooking Institution, 1935, p. 313, footnote 9.

2 See, for example, Charles Frederick Roos, NRA Economic Planning, Colorado Springs: Cowles Commission, 1935, p. 343.

3See, for example, Colin Gordon, New Deals: Business, Labor, and Politics in America, 1920-1935, New York: Cambridge University Press, 1993, especially chapter 5.

4Christina D. Romer, “Why Did Prices Rise in the 1930s?” Journal of Economic History 59, no. 1 (1999): 167-199; Michael Weinstein, Recovery and Redistribution under the NIRA, Amsterdam: North Holland, 1980, and Harold L. Cole and Lee E. Ohanian, “New Deal Policies and the Persistence of the Great Depression,” Working Paper 597, Federal Reserve Bank of Minneapolis, February 2001. But also see “Unemployment, Inflation and Wages in the American Depression: Are There Lessons for Europe?” Ben Bernanke and Martin Parkinson, American Economic Review: Papers and Proceedings 79, no. 2 (1989): 210-214.

5 See, for example, Donald Brand, Corporatism and the Rule of Law: A Study of the National Recovery Administration, Ithaca: Cornell University Press, 1988, p. 94.

6 See, for example, Roos, op. cit., pp. 77, 92.

7 Section 3(a) of The National Industrial Recovery Act, reprinted at p. 478 of Roos, op. Cit.

8 Section 5 of The National Industrial Recovery Act, reprinted at p. 483 of Roos, op. cit. Note though, that the legal status of actions taken during the NRA era was never clear; Roos points out that “…President Roosevelt signed an executive order on January 20, 1934, providing that any complainant of monopolistic practices … could press it before the Federal Trade Commission or request the assistance of the Department of Justice. And, on the same date, Donald Richberg issued a supplementary statement which said that the provisions of the anti-trust laws were still in effect and that the NRA would not tolerate monopolistic practices.” (Roos, op. cit. p. 376.)

9 Lyon, op. cit., p. 307, cited at p. 52 in Lee and Ohanian, op cit.

10 Roos, op. cit., p. 75; and Blackwell Smith, My Imprint on the Sands of Time: The Life of a New Dealer, Vantage Press, New York, p. 109.

11 Lyon, op. cit., p. 570.

12 Section 3 (a)(2) of The National Industrial Recovery Act, op. Cit.

13 Roos, op. cit., at pp. 254-259. Charles Roos comments that “Leon Henderson and Blackwell Smith, in particular, became intrigued with a notion that competition could be set up within limits and that in this way wide price variations tending to demoralize an industry could be prevented.”

14 Lyon, et al., op. cit., p. 605.

15 Smith, Assistant Counsel of the NRA (per Roos, op cit., p. 254), has the following to say about standardization: One of the more controversial subjects, which we didn’t get into too deeply, except to draw guidelines, was standardization.” Smith goes on to discuss the obvious need to standardize rail track gauges, plumbing fittings, and the like, but concludes, “Industry on the whole wanted more standardization than we could go with.” (Blackwell Smith, op. cit., pp. 106-7.) One must not go overboard looking for coherence among the various positions espoused by NRA administrators; along these lines it is worth remembering Smith’s statement some 60 years later: “Business’s reaction to my policy [Smith was speaking generally here of his collective proposals] to some extent was hostile. They wished that the codes were not as strict as I wanted them to be. Also, there was criticism from the liberal/labor side to the effect that the codes were more in favor of business than they should have been. I said, ‘We are guided by a squealometer. We tune policy until the squeals are the same pitch from both sides.'” (Smith, op. cit. p. 108.)

16 Quoted at p 378 of Roos, op. Cit.

17 Brand, op. cit. at pp. 159-60 cites in agreement extremely critical conclusions by Roos (op. cit. at p. 409) and Arthur Schlesinger, The Age of Roosevelt: The Coming of the New Deal, Boston: Houghton Mifflin, 1959, p. 133.

18 Roos acknowledges a breakdown by spring of 1934: “By March, 1934 something was urgently needed to encourage industry to observe code provisions; business support for the NRA had decreased materially and serious compliance difficulties had arisen.” (Roos, op. cit., at p. 318.) Brand dates the start of the compliance crisis much earlier, in the fall of 1933. (Brand, op. cit., p. 103.)

19 Lyon, op. cit., p. 264.

20 Lyon, op. cit., p. 268.

21 Lyon, op. cit., pp. 268-272. See also Peter H. Irons, The New Deal Lawyers, Princeton: Princeton University Press, 1982.

22 Section 3(a)(2) of The National Industrial Recovery Act, op. Cit.

23 Section 6(b) of The National Industrial Recovery Act, op. Cit.

24 Brand, op. Cit.

25 Barbara Alexander and Gary D. Libecap, “The Effect of Cost Heterogeneity in the Success and Failure of the New Deal’s Agricultural and Industrial Programs,” Explorations in Economic History, 37 (2000), pp. 370-400.

26 Gordon, op. Cit.

27 Section 7 of the National Industrial Recovery Act, reprinted at pp. 484-5 of Roos, op. Cit.

28 Bernanke and Parkinson, op. cit., p. 214.

29 Romer, op. cit., p. 197.

30 Supreme Court of the United States, Nos. 854 and 864, October term, 1934, (decision issued May 27, 1935). Reprinted in Roos, op. cit., p. 580.

31 Ellis W. Hawley, The New Deal and the Problem of Monopoly: A Study in Economic Ambivalence, 1966, Princeton: Princeton University Press, p.

Citation: Alexander, Barbara. “National Recovery Administration”. EH.Net Encyclopedia, edited by Robert Whaples. August 14, 2001. URL http://eh.net/encyclopedia/the-national-recovery-administration/

The Economic History of Norway

Ola Honningdal Grytten, Norwegian School of Economics and Business Administration

Overview

Norway, with its population of 4.6 million on the northern flank of Europe, is today one of the most wealthy nations in the world, both measured as GDP per capita and in capital stock. On the United Nation Human Development Index, Norway has been among the three top countries for several years, and in some years the very top nation. Huge stocks of natural resources combined with a skilled labor force and the adoption of new technology made Norway a prosperous country during the nineteenth and twentieth century.

Table 1 shows rates of growth in the Norwegian economy from 1830 to the present using inflation-adjusted gross domestic product (GDP). This article splits the economic history of Norway into two major phases — before and after the nation gained its independence in 1814.

Table 1
Phases of Growth in the Real Gross Domestic Product of Norway, 1830-2003

(annual growth rates as percentages)

Year GDP GDP per capita
1830-1843 1.91 0.86
1843-1875 2.68 1.59
1875-1914 2.02 1.21
1914-1945 2.28 1.55
1945-1973 4.73 3.81
1973-2003 3.28 2.79
1830-2003 2.83 2.00

Source: Grytten (2004b)

Before Independence

The Norwegian economy was traditionally based on local farming communities combined with other types of industry, basically fishing, hunting, wood and timber along with a domestic and international-trading merchant fleet. Due to topography and climatic conditions the communities in the North and the West were more dependent on fish and foreign trade than the communities in the south and east, which relied mainly on agriculture. Agricultural output, fish catches and wars were decisive for the waves in the economy previous to independence. This is reflected in Figure 1, which reports a consumer price index for Norway from 1516 to present.

The peaks in this figure mark the sixteenth-century Price Revolution (1530s to 1590s), the Thirty Years War (1618-1648), the Great Nordic War (1700-1721), the Napoleonic Wars (1800-1815), the only period of hyperinflation in Norway — World War I (1914-1918) — and the stagflation period, i.e. high rates of inflation combined with a slowdown in production, in the 1970s and early 1980s.

Figure 1
Consumer Price Index for Norway, 1516-2003 (1850 = 100).

Figure 1
Source: Grytten (2004a)

During the last decades of the eighteenth century the Norwegian economy bloomed along with a first era of liberalism. Foreign trade of fish and timber had already been important for the Norwegian economy for centuries, and now the merchant fleet was growing rapidly. Bergen, located at the west coast, was the major city, with a Hanseatic office and one of the Nordic countries’ largest ports for domestic and foreign trade.

When Norway gained its independence from Denmark in 1814, after a tight union covering 417 years, it was a typical egalitarian country with a high degree of self-supply from agriculture, fisheries and hunting. According to the population censuses from 1801 and 1815 more than ninety percent of the population of 0.9 million lived in rural areas, mostly on small farms.

After Independence (1814)

Figure 2 shows annual development in GDP by expenditure (in fixed 2000 prices) from 1830 to 2003. The series, with few exceptions, reveal steady growth rates with few huge fluctuations. However, economic growth as a more or less continuous process started in the 1840s. We can also conclude that the growth process slowed down during the last three decades of the nineteenth century. The years 1914-1945 were more volatile than any other period in question, while there was an impressive and steady rate of growth until the mid 1970s and from then on slower growth.

Figure 2
Gross Domestic Product for Norway by Expenditure Category
(in 2000 Norwegian Kroner)

Figure 2
Source: Grytten (2004b)

Stagnation and Institution Building, 1814-1843

The newborn state lacked its own institutions, industrial entrepreneurs and domestic capital. However, due to its huge stocks of natural resources and its geographical closeness to the sea and to the United Kingdom, the new state, linked to Sweden in a loose royal union, seized its opportunities after some decades. By 1870 it had become a relatively wealthy nation. Measured in GDP per capita Norway was well over the European average, in the middle of the West European countries, and in fact, well above Sweden.

During the first decades after its independence from Denmark, the new state struggled with the international recession after the Napoleonic wars, deflationary monetary policy, and protectionism from the UK.

The Central Bank of Norway was founded in 1816, and a national currency, the spesidaler pegged to silver was introduced. The daler depreciated heavily during the first troubled years of recession in the 1820s.

The Great Boom, 1843-1875

After the Norwegian spesidaler gained its par value to silver in 1842, Norway saw a period of significant economic growth up to the mid 1870s. This impressive growth was mirrored in only a few other countries. The growth process was very much initiated by high productivity growth in agriculture and the success of the foreign sector. The adoption of new structures and technology along with substitution from arable to lifestock production made labor productivity in agriculture increase by about 150 percent between 1835 and 1910. The exports of timber, fish and in particular maritime services achieved high growth rates. In fact, Norway became a major power in shipping services during this period, accounting for about seven percent of the world merchant fleet in 1875. Norwegian sailing vessels freighted international goods all over the world at low prices.

The success of the Norwegian foreign sector can be explained by a number of factors. Liberalization of world trade and high international demand secured a market for Norwegian goods and services. In addition, Norway had vast stocks of fish and timber along with maritime skills. According to recent calculations, GDP per capita had an annual growth rate of 1.6 percent 1843 to 1876, well above the European average. At the same time the Norwegian annual rate of growth for exports was 4.8 percent. The first modern large-scale manufacturing industry in Norway saw daylight in the 1840s, when textile plants and mechanized industry were established. A second wave of industrialization took place in the 1860s and 1870s. Following the rapid productivity growth in agriculture, food processing and dairy production industries showed high growth in this period.

During this great boom, capital was imported mainly from Britain, but also from Sweden, Denmark and Germany, the four most important Norwegian trading partners at the time. In 1536 the King of Denmark and Norway chose the Lutheran faith as the state religion. In consequence of the Reformation, reading became compulsory; consequently Norway acquired a generally skilled and independent labor force. The constitution from 1814 also cleared the way for liberalism and democracy. The puritan revivals during the nineteenth century created a business environment, which raised entrepreneurship, domestic capital and a productive labor force. In the western and southern parts of the country these puritan movements are still strong, both in daily life and within business.

Relative Stagnation with Industrialization, 1875-1914

Norway’s economy was hit hard during the “depression” from mid 1870s to the early 1890s. GDP stagnated, particular during the 1880s, and prices fell until 1896. This stagnation is mirrored in the large-scale emigration from Norway to North America in the 1880s. At its peak in 1882 as many as 28,804 persons, 1.5 percent of the population, left the country. All in all, 250,000 emigrated in the period 1879-1893, equal to 60 percent of the birth surplus. Only Ireland had higher emigration rates than Norway between 1836 and 1930, when 860,000 Norwegians left the country.

The long slow down can largely been explained by Norway’s dependence on the international economy and in particular the United Kingdom, which experienced slower economic growth than the other major economies of the time. As a result of the international slowdown, Norwegian exports contracted in several years, but expanded in others. A second reason for the slowdown in Norway was the introduction of the international gold standard. Norway adopted gold in January 1874, and due to the trade deficit, lack of gold and lack of capital, the country experienced a huge contraction in gold reserves and in the money stock. The deflationary effect strangled the economy. Going onto the gold standard caused the appreciation of the Norwegian currency, the krone, as gold became relatively more expensive compared to silver. A third explanation of Norway’s economic problems in the 1880s is the transformation from sailing to steam vessels. Norway had by 1875 the fourth biggest merchant fleet in the world. However, due to lack of capital and technological skills, the transformation from sail to steam was slow. Norwegian ship owners found a niche in cheap second-hand sailing vessels. However, their market was diminishing, and finally, when the Norwegian steam fleet passed the size of the sailing fleet in 1907, Norway was no longer a major maritime power.

A short boom occurred from the early 1890s to 1899. Then, a crash in the Norwegian building industry led to a major financial crash and stagnation in GDP per capita from 1900 to 1905. Thus from the middle of the 1870s until 1905 Norway performed relatively bad. Measured in GDP per capita, Norway, like Britain, experienced a significant stagnation relative to most western economies.

After 1905, when Norway gained full independence from Sweden, a heavy wave of industrialization took place. In the 1890s the fish preserving and cellulose and paper industries started to grow rapidly. From 1905, when Norsk Hydro was established, manufacturing industry connected to hydroelectrical power took off. It is argued, quite convincingly, that if there was an industrial breakthrough in Norway, it must have taken place during the years 1905-1920. However, the primary sector, with its labor-intensive agriculture and increasingly more capital-intensive fisheries, was still the biggest sector.

Crises and Growth, 1914-1945

Officially Norway was neutral during World War I. However, in terms of the economy, the government clearly took the side of the British and their allies. Through several treaties Norway gave privileges to the allied powers, which protected the Norwegian merchant fleet. During the war’s first years, Norwegian ship owners profited from the war, and the economy boomed. From 1917, when Germany declared war against non-friendly vessels, Norway took heavy losses. A recession replaced the boom.

Norway suspended gold redemption in August 1914, and due to inflationary monetary policy during the war and in the first couple of years afterward, demand was very high. When the war came to an end this excess demand was met by a positive shift in supply. Thus, Norway, like other Western countries experienced a significant boom in the economy from the spring of 1919 to the early autumn 1920. The boom was followed by high inflation, trade deficits, currency depreciation and an overheated economy.

The international postwar recession beginning in autumn 1920, hit Norway more severely than most other countries. In 1921 GDP per capita fell by eleven percent, which was only exceeded by the United Kingdom. There are two major reasons for the devastating effect of the post-war recession. In the first place, as a small open economy, Norway was more sensitive to international recessions than most other countries. This was in particular the case because the recession hit the country’s most important trading partners, the United Kingdom and Sweden, so hard. Secondly, the combination of strong and mostly pro-cyclical inflationary monetary policy from 1914 to 1920 and thereafter a hard deflationary policy made the crisis worse (Figure 3).

Figure 3
Money Aggregates for Norway, 1910-1930

Figure 3
Source: Klovland (2004a)

In fact, Norway pursued a long, but non-persistent deflationary monetary policy aimed at restoring the par value of the krone (NOK) up to May 1928. In consequence, another recession hit the economy during the middle of the 1920s. Hence, Norway was one of the worst performers in the western world in the 1920s. This can best be seen in the number of bankruptcies, a huge financial crisis and mass unemployment. Bank losses amounted to seven percent of GDP in 1923. Total unemployment rose from about one percent in 1919 to more than eight percent in 1926 and 1927. In manufacturing it reached more than 18 percent the same years.

Despite a rapid boom and success within the whaling industry and shipping services, the country never saw a convincing recovery before the Great Depression hit Europe in late summer 1930. The worst year for Norway was 1931, when GDP per capita fell by 8.4 percent. This, however, was not only due to the international crisis, but also to a massive and violent labor conflict that year. According to the implicit GDP deflator prices fell more than 63 percent from 1920 to 1933.

All in all, however, the depression of the 1930s was milder and shorter in Norway than in most western countries. This was partly due to the deflationary monetary policy in the 1920s, which forced Norwegian companies to become more efficient in order to survive. However, it was probably more important that Norway left gold as early as September 27th, 1931 only a week after the United Kingdom. Those countries that left gold early, and thereby employed a more inflationary monetary policy, were the best performers in the 1930s. Among them were Norway and its most important trading partners, the United Kingdom and Sweden.

During the recovery period, Norway in particular saw growth in manufacturing output, exports and import substitution. This can to a large extent be explained by currency depreciation. Also, when the international merchant fleet contracted during the drop in international trade, the Norwegian fleet grew rapidly, as Norwegian ship owners were pioneers in the transformation from steam to diesel engines, tramp to line freights and into a new expanding niche: oil tankers.

The primary sector was still the largest in the economy during the interwar years. Both fisheries and agriculture struggled with overproduction problems, however. These were dealt with by introducing market controls and cartels, partly controlled by the industries themselves and partly by the government.

The business cycle reached its bottom in late 1932. Despite relatively rapid recovery and significant growth both in GDP and in employment, unemployment stayed high, and reached 10-11 percent on annual basis from 1931 to 1933 (Figure 4).

Figure 4
Unemployment Rate and Public Relief Work
as a Percent of the Work Force, 1919-1939

Figure 4
Source: Hodne and Grytten (2002)

The standard of living became poorer in the primary sector, among those employed in domestic services and for the underemployed and unemployed and their households. However, due to the strong deflation, which made consumer prices fall by than 50 percent from autumn 1920 to summer 1933, employees in manufacturing, construction and crafts experienced an increase in real wages. Unemployment stayed persistently high due to huge growth in labor supply, as result of immigration restrictions by North American countries from the 1920s onwards.

Denmark and Norway were both victims of a German surprise attack the 9th of April 1940. After two months of fighting, the allied troops surrendered in Norway on June 7th and the Norwegian royal family and government escaped to Britain.

From then until the end of the war there were two Norwegian economies, the domestic German-controlled and the foreign Norwegian- and Allied-controlled economy. The foreign economy was primarily established on the basis of the huge Norwegian merchant fleet, which again was among the biggest in the world accounting for more than seven percent of world total tonnage. Ninety percent of this floating capital escaped the Germans. The ships were united into one state-controlled company, NORTASHIP, which earned money to finance the foreign economy. The domestic economy, however, struggled with a significant fall in production, inflationary pressure and rationing of important goods, which three million Norwegians had to share with 400.000 Germans occupying the country.

Economic Planning and Growth, 1945-1973

After the war the challenge was to reconstruct the economy and re-establish political and economic order. The Labor Party, in office from 1935, grabbed the opportunity to establish a strict social democratic rule, with a growing public sector and widespread centralized economic planning. Norway first declined the U.S. proposition of financial aid after the world. However, due to lack of hard currencies they accepted the Marshall aid program. By receiving 400 million dollars from 1948 to 1952, Norway was one of the biggest per capita recipients.

As part of the reconstruction efforts Norway joined the Bretton Woods system, GATT, the IMF and the World Bank. Norway also chose to become member of NATO and the United Nations. In 1958 the country also joined the European Free Trade Area (EFTA). The same year Norway made the krone convertible to the U.S. dollar, as many other western countries did with their currencies.

The years from 1950 to 1973 are often called the golden era of the Norwegian economy. GDP per capita showed an annual growth rate of 3.3 percent. Foreign trade stepped up even more, unemployment barely existed and the inflation rate was stable. This has often been explained by the large public sector and good economic planning. The Nordic model, with its huge public sector, has been said to be a success in this period. If one takes a closer look into the situation, one will, nevertheless, find that the Norwegian growth rate in the period was lower than that for most western nations. The same is true for Sweden and Denmark. The Nordic model delivered social security and evenly-distributed wealth, but it did not necessarily give very high economic growth.

Figure 5
Public Sector as a Percent of GDP, 1900-1990

Figure 5
Source: Hodne and Grytten (2002)

Petroleum Economy and Neoliberalism, 1973 to the Present

After the Bretton Woods system fell apart (between August 1971 and March 1973) and the oil price shock in autumn 1973, most developed economies went into a period of prolonged recession and slow growth. In 1969 Philips Petroleum discovered petroleum resources at the Ekofisk field, which was defined as part of the Norwegian continental shelf. This enabled Norway to run a countercyclical financial policy during the stagflation period in the 1970s. Thus, economic growth was higher and unemployment lower than for most other western countries. However, since the countercyclical policy focused on branch and company subsidies, Norwegian firms soon learned to adapt to policy makers rather than to the markets. Hence, both productivity and business structure did not have the incentives to keep pace with changes in international markets.

Norway lost significant competitive power, and large-scale deindustrialization took place, despite efforts to save manufacturing industry. Another reason for deindustrialization was the huge growth in the profitable petroleum sector. Persistently high oil prices from the autumn 1973 to the end of 1985 pushed labor costs upward, through spillover effects from high wages in the petroleum sector. High labor costs made the Norwegian foreign sector less competitive. Thus, Norway saw deindustrialization at a more rapid pace than most of her largest trading partners. Due to the petroleum sector, however, Norway experienced high growth rates in all the three last decades of the twentieth century, bringing Norway to the top of the world GDP per capita list at the dawn of the new millennium. Nevertheless, Norway had economic problems both in the eighties and in the nineties.

In 1981 a conservative government replaced Labor, which had been in power for most of the post-war period. Norway had already joined the international wave of credit liberalization, and the new government gave fuel to this policy. However, along with the credit liberalization, the parliament still ran a policy that prevented market forces from setting interest rates. Instead they were set by politicians, in contradiction to the credit liberalization policy. The level of interest rates was an important part of the political game for power, and thus, they were set significantly below the market level. In consequence, a substantial credit boom was created in the early 1980s, and continued to the late spring of 1986. As a result, Norway had monetary expansion and an artificial boom, which created an overheated economy. When oil prices fell dramatically from December 1985 onwards, the trade surplus was suddenly turned to a huge deficit (Figure 6).

Figure 6
North Sea Oil Prices and Norway’s Trade Balance, 1975-2000

Figure 6
Source: Statistics Norway

The conservative-center government was forced to keep a tighter fiscal policy. The new Labor government pursued this from May 1986. Interest rates were persistently high as the government now tried to run a trustworthy fixed-currency policy. In the summer of 1990 the Norwegian krone was officially pegged to the ECU. When the international wave of currency speculation reached Norway during autumn 1992 the central bank finally had to suspend the fixed exchange rate and later devaluate.

In consequence of these years of monetary expansion and thereafter contraction, most western countries experienced financial crises. It was relatively hard in Norway. Prices of dwellings slid, consumers couldn’t pay their bills, and bankruptcies and unemployment reached new heights. The state took over most of the larger commercial banks to avoid a total financial collapse.

After the suspension of the ECU and the following devaluation, Norway had growth until 1998, due to optimism, an international boom and high prices of petroleum. The Asian financial crisis also rattled the Norwegian stock market. At the same time petroleum prices fell rapidly, due to internal problems among the OPEC countries. Hence, the krone depreciated. The fixed exchange rate policy had to be abandoned and the government adopted inflation targeting. Along with changes in monetary policy, the center coalition government was also able to monitor a tighter fiscal policy. At the same time interest rates were high. As result, Norway escaped the overheating process of 1993-1997 without any devastating effects. Today the country has a strong and sound economy.

The petroleum sector is still very important in Norway. In this respect the historical tradition of raw material dependency has had its renaissance. Unlike many other countries rich in raw materials, natural resources have helped make Norway one of the most prosperous economies in the world. Important factors for Norway’s ability to turn resource abundance into economic prosperity are an educated work force, the adoption of advanced technology used in other leading countries, stable and reliable institutions, and democratic rule.

References

Basberg, Bjørn L. Handelsflåten i krig: Nortraship: Konkurrent og alliert. Oslo: Grøndahl and Dreyer, 1992.

Bergh, Tore Hanisch, Even Lange and Helge Pharo. Growth and Development. Oslo: NUPI, 1979.

Brautaset, Camilla. “Norwegian Exports, 1830-1865: In Perspective of Historical National Accounts.” Ph.D. dissertation. Norwegian School of Economics and Business Administration, 2002.

Bruland, Kristine. British Technology and European Industrialization. Cambridge: Cambridge University Press, 1989.

Danielsen, Rolf, Ståle Dyrvik, Tore Grønlie, Knut Helle and Edgar Hovland. Norway: A History from the Vikings to Our Own Times. Oslo: Scandinavian University Press, 1995.

Eitrheim. Øyvind, Jan T. Klovland and Jan F. Qvigstad, editors. Historical Monetary Statistics for Norway, 1819-2003. Oslo: Norges Banks skriftserie/Occasional Papers, no 35, 2004.

Hanisch, Tore Jørgen. “Om virkninger av paripolitikken.” Historisk tidsskrift 58, no. 3 (1979): 223-238.

Hanisch, Tore Jørgen, Espen Søilen and Gunhild Ecklund. Norsk økonomisk politikk i det 20. århundre. Verdivalg i en åpen økonomi. Kristiansand: Høyskoleforlaget, 1999.

Grytten, Ola Honningdal. “A Norwegian Consumer Price Index 1819-1913 in a Scandinavian Perspective.” European Review of Economic History 8, no.1 (2004): 61-79.

Grytten, Ola Honningdal. “A Consumer Price Index for Norway, 1516-2003.” Norges Bank: Occasional Papers, no. 1 (2004a): 47-98.

Grytten. Ola Honningdal. “The Gross Domestic Product for Norway, 1830-2003.” Norges Bank: Occasional Papers, no. 1 (2004b): 241-288.

Hodne, Fritz. An Economic History of Norway, 1815-1970. Tapir: Trondheim, 1975.

Hodne, Fritz. The Norwegian Economy, 1920-1980. London: Croom Helm and St. Martin’s, 1983.

Hodne, Fritz and Ola Honningdal Grytten. Norsk økonomi i det 19. århundre. Bergen: Fagbokforlaget, 2000.

Hodne, Fritz and Ola Honningdal Grytten. Norsk økonomi i det 20. århundre. Bergen: Fagbokforlaget, 2002.

Klovland, Jan Tore. “Monetary Policy and Business Cycles in the Interwar Years: The Scandinavian Experience.” European Review of Economic History 2, no. 2 (1998):

Klovland, Jan Tore. “Monetary Aggregates in Norway, 1819-2003.” Norges Bank: Occasional Papers, no. 1 (2004a): 181-240.

Klovland, Jan Tore. “Historical Exchange Rate Data, 1819-2003”. Norges Bank: Occasional Papers, no. 1 (2004b): 289-328.

Lange, Even, editor. Teknologi i virksomhet. Verkstedsindustri i Norge etter 1840. Oslo: Ad Notam Forlag, 1989.

Nordvik, Helge W. “Finanspolitikken og den offentlige sektors rolle i norsk økonomi i mellomkrigstiden”. Historisk tidsskrift 58, no. 3 (1979): 239-268.

Sejersted, Francis. Demokratisk kapitalisme. Oslo: Universitetsforlaget, 1993.

Søilen. Espen. “Fra frischianisme til keynesianisme? En studie av norsk økonomisk politikk i lys av økonomisk teori, 1945-1980.” Ph.D. dissertation. Bergen: Norwegian School of Economics and Business Administration, 1998.

Citation: Grytten, Ola. “The Economic History of Norway”. EH.Net Encyclopedia, edited by Robert Whaples. March 16, 2008. URL http://eh.net/encyclopedia/the-economic-history-of-norway/

An Economic History of New Zealand in the Nineteenth and Twentieth Centuries

John Singleton, Victoria University of Wellington, New Zealand

Living standards in New Zealand were among the highest in the world between the late nineteenth century and the 1960s. But New Zealand’s economic growth was very sluggish between 1950 and the early 1990s, and most Western European countries, as well as several in East Asia, overtook New Zealand in terms of real per capita income. By the early 2000s, New Zealand’s GDP per capita was in the bottom half of the developed world.

Table 1:
Per capita GDP in New Zealand
compared with the United States and Australia
(in 1990 international dollars)

US Australia New Zealand NZ as
% of US
NZ as % of
Austrialia
1840 1588 1374 400 25 29
1900 4091 4013 4298 105 107
1950 9561 7412 8456 88 114
2000 28129 21540 16010 57 74

Source: Angus Maddison, The World Economy: Historical Statistics. Paris: OECD, 2003, pp. 85-7.

Over the second half of the twentieth century, argue Greasley and Oxley (1999), New Zealand seemed in some respects to have more in common with Latin American countries than with other advanced western nations. As well as a snail-like growth rate, New Zealand followed highly protectionist economic policies between 1938 and the 1980s. (In absolute terms, however, New Zealanders continued to be much better off than their Latin American counterparts.) Maddison (1991) put New Zealand in a middle-income group of countries, including the former Czechoslovakia, Hungary, Portugal, and Spain.

Origins and Development to 1914

When Europeans (mainly Britons) started to arrive in Aotearoa (New Zealand) in the early nineteenth century, they encountered a tribal society. Maori tribes made a living from agriculture, fishing, and hunting. Internal trade was conducted on the basis of gift exchange. Maori did not hold to the Western concept of exclusive property rights in land. The idea that land could be bought and sold was alien to them. Most early European residents were not permanent settlers. They were short-term male visitors involved in extractive activities such as sealing, whaling, and forestry. They traded with Maori for food, sexual services, and other supplies.

Growing contact between Maori and the British was difficult to manage. In 1840 the British Crown and some Maori signed the Treaty of Waitangi. The treaty, though subject to various interpretations, to some extent regularized the relationship between Maori and Europeans (or Pakeha). At roughly the same time, the first wave of settlers arrived from England to set up colonies including Wellington and Christchurch. Settlers were looking for a better life than they could obtain in overcrowded and class-ridden England. They wished to build a rural and largely self-sufficient society.

For some time, only the Crown was permitted to purchase land from Maori. This land was then either resold or leased to settlers. Many Maori felt – and many still feel – that they were forced to give up land, effectively at gunpoint, in return for a pittance. Perhaps they did not always grasp that land, once sold, was lost forever. Conflict over land led to intermittent warfare between Maori and settlers, especially in the 1860s. There was brutality on both sides, but the Europeans on the whole showed more restraint in New Zealand than in North America, Australia, or Southern Africa.

Maori actually required less land in the nineteenth century because their numbers were falling, possibly by half between the late eighteenth and late nineteenth centuries. By the 1860s, Maori were outnumbered by British settlers. The introduction of European diseases, alcohol, and guns contributed to the decline in population. Increased mobility and contact between tribes may also have spread disease. The Maori population did not begin to recover until the twentieth century.

Gold was discovered in several parts of New Zealand (including Thames and Otago) in the mid-nineteenth century, but the introduction of sheep farming in the 1850s gave a more enduring boost to the economy. Australian and New Zealand wool was in high demand in the textile mills of Yorkshire. Sheep farming necessitated the clearing of native forests and the planting of grasslands, which changed the appearance of large tracts of New Zealand. This work was expensive, and easy access to the London capital market was critical. Economic relations between New Zealand and Britain were strong, and remained so until the 1970s.

Between the mid-1870s and mid-1890s, New Zealand was adversely affected by weak export prices, and in some years there was net emigration. But wool prices recovered in the 1890s, just as new exports – meat and dairy produce – were coming to prominence. Until the advent of refrigeration in the early 1880s, New Zealand did not export meat and dairy produce. After the introduction of refrigeration, however, New Zealand foodstuffs found their way on to the dinner tables of working class families in Britain, but not the tables of the middle and upper classes, as they could afford fresh produce.

In comparative terms, the New Zealand economy was in its heyday in the two decades before 1914. New Zealand (though not its Maori shadow, Aotearoa) was a wealthy, dynamic, and egalitarian society. The total population in 1914 was slightly above one million. Exports consisted almost entirely of land-intensive pastoral commodities. Manufactures loomed large in New Zealand’s imports. High labor costs, and the absence of scale economies in the tiny domestic market, hindered industrialization, though there was some processing of export commodities and imports.

War, Depression and Recovery, 1914-38

World War One disrupted agricultural production in Europe, and created a robust demand for New Zealand’s primary exports. Encouraged by high export prices, New Zealand farmers borrowed and invested heavily between 1914 and 1920. Land exchanged hands at very high prices. Unfortunately, the early twenties brought the start of a prolonged slump in international commodity markets. Many farmers struggled to service and repay their debts.

The global economic downturn, beginning in 1929-30, was transmitted to New Zealand by the collapse in commodity prices on the London market. Farmers bore the brunt of the depression. At the trough, in 1931-32, net farm income was negative. Declining commodity prices increased the already onerous burden of servicing and repaying farm mortgages. Meat freezing works, woolen mills, and dairy factories were caught in the spiral of decline. Farmers had less to spend in the towns. Unemployment rose, and some of the urban jobless drifted back to the family farm. The burden of external debt, the bulk of which was in sterling, rose dramatically relative to export receipts. But a protracted balance of payments crisis was avoided, since the demand for imports fell sharply in response to the drop in incomes. The depression was not as serious in New Zealand as in many industrial countries. Prices were more flexible in the primary sector and in small business than in modern, capital-intensive industry. Nevertheless, the experience of depression profoundly affected New Zealanders’ attitudes towards the international economy for decades to come.

At first, there was no reason to expect that the downturn in 1929-30 was the prelude to the worst slump in history. As tax and customs revenue fell, the government trimmed expenditure in an attempt to balance the budget. Only in 1931 was the severity of the crisis realized. Further cuts were made in public spending. The government intervened in the labor market, securing an order for an all-round reduction in wages. It pressured and then forced the banks to reduce interest rates. The government sought to maintain confidence and restore prosperity by helping farms and other businesses to lower costs. But these policies did not lead to recovery.

Several factors contributed to the recovery that commenced in 1933-34. The New Zealand pound was devalued by 14 percent against sterling in January 1933. As most exports were sold for sterling, which was then converted into New Zealand pounds, the income of farmers was boosted at a stroke of the pen. Devaluation increased the money supply. Once economic actors, including the banks, were convinced that the devaluation was permanent, there was an increase in confidence and in lending. Other developments played their part. World commodity prices stabilized, and then began to pick up. Pastoral output and productivity continued to rise. The 1932 Ottawa Agreements on imperial trade strengthened New Zealand’s position in the British market at the expense of non-empire competitors such as Argentina, and prefigured an increase in the New Zealand tariff on non-empire manufactures. As was the case elsewhere, the recovery in New Zealand was not the product of a coherent economic strategy. When beneficial policies were adopted it was as much by accident as by design.

Once underway, however, New Zealand’s recovery was comparatively rapid and persisted over the second half of the thirties. A Labour government, elected towards the end of 1935, nationalized the central bank (the Reserve Bank of New Zealand). The government instructed the Reserve Bank to create advances in support of its agricultural marketing and state housing schemes. It became easier to obtain borrowed funds.

An Insulated Economy, 1938-1984

A balance of payments crisis in 1938-39 was met by the introduction of administrative restrictions on imports. Labour had not been prepared to deflate or devalue – the former would have increased unemployment, while the latter would have raised working class living costs. Although intended as a temporary expedient, the direct control of imports became a distinctive feature of New Zealand economic policy until the mid-1980s.

The doctrine of “insulationism” was expounded during the 1940s. Full employment was now the main priority. In the light of disappointing interwar experience, there were doubts about the ability of the pastoral sector to provide sufficient work for New Zealand’s growing population. There was a desire to create more industrial jobs, even though there seemed no prospect of achieving scale economies within such a small country. Uncertainty about export receipts, the need to maintain a high level of domestic demand, and the competitive weakness of the manufacturing sector, appeared to justify the retention of quantitative import controls.

After 1945, many Western countries retained controls over current account transactions for several years. When these controls were relaxed and then abolished in the fifties and early sixties, the anomalous nature of New Zealand’s position became more visible. Although successive governments intended to liberalize, in practice they achieved little, except with respect to trade with Australia.

The collapse of the Korean War commodity boom, in the early 1950s, marked an unfortunate turning point in New Zealand’s economic history. International conditions were unpropitious for the pastoral sector in the second half of the twentieth century. Despite the aspirations of GATT, the United States, Western Europe and Japan restricted agricultural imports, especially of temperate foodstuffs, subsidized their own farmers and, in the case of the Americans and the Europeans, dumped their surpluses in third markets. The British market, which remained open until 1973, when the United Kingdom was absorbed into the EEC, was too small to satisfy New Zealand. Moreover, even the British resorted to agricultural subsidies. Compared with the price of industrial goods, the price of agricultural produce tended to weaken over the long term.

Insulation was a boon to manufacturers, and New Zealand developed a highly diversified industrial structure. But competition was ineffectual, and firms were able to pass cost increases on to the consumer. Import barriers induced many British, American, and Australian multinationals to establish plants in New Zealand. The protected industrial economy did have some benefits. It created jobs – there was full employment until the 1970s – and it increased the stock of technical and managerial skills. But consumers and farmers were deprived of access to cheaper – and often better quality – imported goods. Their interests and welfare were neglected. Competing demand from protected industries also raised the costs of farm inputs, including labor power, and thus reduced the competitiveness of New Zealand’s key export sector.

By the early 1960s, policy makers had realized that New Zealand was falling behind in the race for greater prosperity. The British food market was under threat, as the Macmillan government began a lengthy campaign to enter the protectionist EEC. New Zealand began to look for other economic partners, and the most obvious candidate was Australia. In 1901, New Zealand had declined to join the new federation of Australian colonies. Thus it had been excluded from the Australian common market. After lengthy negotiations, a partial New Zealand-Australia Free Trade Agreement (NAFTA) was signed in 1965. Despite initial misgivings, many New Zealand firms found that they could compete in the Australian market, where tariffs against imports from the rest of the world remained quite high. But this had little bearing on their ability to compete with European, Asian, and North American firms. NAFTA was given renewed impetus by the Closer Economic Relations (CER) agreement of 1983.

Between 1973 and 1984, New Zealand governments were overwhelmed by a group of inter-related economic crises, including two serious supply shocks (the oil crises), rising inflation, and increasing unemployment. Robert Muldoon, the National Party (conservative) prime minister between 1975 and 1984, pursued increasingly erratic macroeconomic policies. He tightened government control over the economy in the early eighties. There were dramatic fluctuations in inflation and in economic growth. In desperation, Muldoon imposed a wage and price freeze in 1982-84. He also mounted a program of large-scale investments, including the expansion of a steel works, and the construction of chemical plants and an oil refinery. By means of these investments, he hoped to reduce the import bill and secure a durable improvement in the balance of payments. But the “Think Big” strategy failed – the projects were inadequately costed, and inherently risky. Although Muldoon’s intention had been to stabilize the economy, his policies had the opposite effect.

Economic Reform, 1984-2000

Muldoon’s policies were discredited, and in 1984 the Labour Party came to power. All other economic strategies having failed, Labour resolved to deregulate and restore the market process. (This seemed very odd at the time.) Within a week of the election, virtually all controls over interest rates had been abolished. Financial markets were deregulated, and, in March 1985, the New Zealand dollar was floated. Other changes followed, including the sale of public sector trading organizations, the reduction of tariffs and the elimination of import licensing. However, reform of the labor market was not completed until the early 1990s, by which time National (this time without Muldoon or his policies) was back in office.

Once credit was no longer rationed, there was a large increase in private sector borrowing, and a boom in asset prices. Numerous speculative investment and property companies were set up in the mid-eighties. New Zealand’s banks, which were not used to managing risk in a deregulated environment, scrambled to lend to speculators in an effort not to miss out on big profits. Many of these ventures turned sour, especially after the 1987 share market crash. Banks were forced to reduce their lending, to the detriment of sound as well as unsound borrowers.

Tight monetary policy and financial deregulation led to rising interest rates after 1984. The New Zealand dollar appreciated strongly. Farmers bore the initial brunt of high borrowing costs and a rising real exchange rate. Manufactured imports also became more competitive, and many inefficient firms were forced to close. Unemployment rose in the late eighties and early nineties. The early 1990s were marked by an international recession, which was particularly painful in New Zealand, not least because of the high hopes raised by the post-1984 reforms.

An economic recovery began towards the end of 1991. With a brief interlude in 1998, strong growth persisted for the remainder of the decade. Confidence was gradually restored to the business sector. Unemployment began to recede. After a lengthy time lag, the economic reforms seemed to be paying off for the majority of the population.

Large structural changes took place after 1984. Factors of production switched out of the protected manufacturing sector, and were drawn into services. Tourism boomed as the relative cost of international travel fell. The face of the primary sector also changed, and the wine industry began to penetrate world markets. But not all manufacturers struggled. Some firms adapted to the new environment and became more export-oriented. For instance, a small engineering company, Scott Technology, became a world leader in the provision of equipment for the manufacture of refrigerators and washing machines.

Annual inflation was reduced to low single digits by the early nineties. Price stability was locked in through the 1989 Reserve Bank Act. This legislation gave the central bank operational autonomy, while compelling it to focus on the achievement and maintenance of price stability rather than other macroeconomic objectives. The Reserve Bank of New Zealand was the first central bank in the world to adopt a regime of inflation targeting. The 1994 Fiscal Responsibility Act committed governments to sound finance and the reduction of public debt.

By 2000, New Zealand’s population was approaching four million. Overall, the reforms of the eighties and nineties were responsible for creating a more competitive economy. New Zealand’s economic decline relative to the rest of the OECD was halted, though it was not reversed. In the nineties, New Zealand enjoyed faster economic growth than either Germany or Japan, an outcome that would have been inconceivable a few years earlier. But many New Zealanders were not satisfied. In particular, they were galled that their closest neighbor, Australia, was growing even faster. Australia, however, was an inherently much wealthier country with massive mineral deposits.

Assessment

Several explanations have been offered for New Zealand’s relatively poor economic performance during the twentieth century.

Wool, meat, and dairy produce were the foundations of New Zealand’s prosperity in Victorian and Edwardian times. After 1920, however, international market conditions were generally unfavorable to pastoral exports. New Zealand had the wrong comparative advantage to enjoy rapid growth in the twentieth century.

Attempts to diversify were only partially successful. High labor costs and the small size of the domestic market hindered the efficient production of standardized labor-intensive goods (e.g. garments) and standardized capital-intensive goods (e.g. autos). New Zealand might have specialized in customized and skill-intensive manufactures, but the policy environment was not conducive to the promotion of excellence in niche markets. Between 1938 and the 1980s, Latin American-style trade policies fostered the growth of a ramshackle manufacturing sector. Only in the late eighties did New Zealand decisively reject this regime.

Geographical and geological factors also worked to New Zealand’s disadvantage. Australia drew ahead of New Zealand in the 1960s, following the discovery of large mineral deposits for which there was a big market in Japan. Staple theory suggests that developing countries may industrialize successfully by processing their own primary products, instead of by exporting them in a raw state. Canada had coal and minerals, and became a significant industrial power. But New Zealand’s staples of wool, meat and dairy produce offered limited downstream potential.

Canada also took advantage of its proximity to the U.S. market, and access to U.S. capital and technology. American-style institutions in the labor market, business, education and government became popular in Canada. New Zealand and Australia relied on, arguably inferior, British-style institutions. New Zealand was a long way from the world’s economic powerhouses, and it was difficult for its firms to establish and maintain contact with potential customers and collaborators in Europe, North America, or Asia.

Clearly, New Zealand’s problems were not all of its own making. The elimination of agricultural protectionism in the northern hemisphere would have given a huge boost the New Zealand economy. On the other hand, in the period between the late 1930s and mid-1980s, New Zealand followed inward-looking economic policies that hindered economic efficiency and flexibility.

References

Bassett, Michael. The State in New Zealand, 1840-1984. Auckland: Auckland University Press, 1998.

Belich, James. Making Peoples: A History of the New Zealanders from Polynesian Settlement to the End of the Nineteenth Century, Auckland: Penguin, 1996.

Condliffe, John B. New Zealand in the Making. London: George Allen & Unwin, 1930.

Dalziel, Paul. “New Zealand’s Economic Reforms: An Assessment.” Review of Political Economy 14, no. 2 (2002): 31-46.

Dalziel, Paul and Ralph Lattimore. The New Zealand Macroeconomy: Striving for Sustainable Growth with Equity. Melbourne: Oxford University Press, fifth edition, 2004.

Easton, Brian. In Stormy Seas: The Post-War New Zealand Economy. Dunedin: University of Otago Press, 1997.

Endres, Tony and Ken Jackson. “Policy Responses to the Crisis: Australasia in the 1930s.” In Capitalism in Crisis: International Responses to the Great Depression, edited by Rick Garside, 148-65. London: Pinter, 1993.

Evans, Lewis, Arthur Grimes, and Bryce Wilkinson (with David Teece), “Economic Reform in New Zealand 1984-95: The Pursuit of Efficiency.” Journal of Economic Literature 34, no. 4 (1996): 1856-1902.

Gould, John D. The Rake’s Progress: the New Zealand Economy since 1945. Auckland: Hodder and Stoughton, 1982.

Greasley, David and Les Oxley. “A Tale of Two Dominions: Comparing the Macroeconomic Records of Australia and Canada since 1870.” Economic History Review 51, no. 2 (1998): 294-318.

Greasley, David and Les Oxley. “Outside the Club: New Zealand’s Economic Growth, 1870-1993.” International Review of Applied Economics 14, no. 2 (1999): 173-92.

Greasley, David and Les Oxley. “Regime Shift and Fast Recovery on the Periphery: New Zealand in the 1930s.” Economic History Review 55, no. 4 (2002): 697-720.

Hawke, Gary R. The Making of New Zealand: An Economic History. Cambridge: Cambridge University Press, 1985.

Jones, Steve R.H. “Government Policy and Industry Structure in New Zealand, 1900-1970.” Australian Economic History Review 39, no, 3 (1999): 191-212.

Mabbett, Deborah. Trade, Employment and Welfare: A Comparative Study of Trade and Labour Market Policies in Sweden and New Zealand, 1880-1980. Oxford: Clarendon Press, 1995.

Maddison, Angus. Dynamic Forces in Capitalist Development. Oxford: Oxford University Press, 1991.

Maddison, Angus. The World Economy: Historical Statistics. Paris: OECD, 2003.

McKinnon, Malcolm. Treasury: 160 Years of the New Zealand Treasury. Auckland: Auckland University Press in association with the Ministry for Culture and Heritage, 2003.

Schedvin, Boris. “Staples and Regions of the Pax Britannica.” Economic History Review 43, no. 4 (1990): 533-59.

Silverstone, Brian, Alan Bollard, and Ralph Lattimore, editors. A Study of Economic Reform: The Case of New Zealand. Amsterdam: Elsevier, 1996.

Singleton, John. “New Zealand: Devaluation without a Balance of Payments Crisis.” In The World Economy and National Economies in the Interwar Slump, edited by Theo Balderston, 172-90. Basingstoke: Palgrave, 2003.

Singleton, John and Paul L. Robertson. Economic Relations between Britain and Australasia, 1945-1970. Basingstoke: Palgrave, 2002.

Ville, Simon. The Rural Entrepreneurs: A History of the Stock and Station Agent Industry in Australia and New Zealand. Cambridge: Cambridge University Press, 2000.

Citation: Singleton, John. “New Zealand in the Nineteenth and Twentieth Centuries”. EH.Net Encyclopedia, edited by Robert Whaples. February 10, 2008. URL http://eh.net/encyclopedia/an-economic-history-of-new-zealand-in-the-nineteenth-and-twentieth-centuries/

Economic History of Malaysia

John H. Drabble, University of Sydney, Australia

General Background

The Federation of Malaysia (see map), formed in 1963, originally consisted of Malaya, Singapore, Sarawak and Sabah. Due to internal political tensions Singapore was obliged to leave in 1965. Malaya is now known as Peninsular Malaysia, and the two other territories on the island of Borneo as East Malaysia. Prior to 1963 these territories were under British rule for varying periods from the late eighteenth century. Malaya gained independence in 1957, Sarawak and Sabah (the latter known previously as British North Borneo) in 1963, and Singapore full independence in 1965. These territories lie between 2 and 6 degrees north of the equator. The terrain consists of extensive coastal plains backed by mountainous interiors. The soils are not naturally fertile but the humid tropical climate subject to monsoonal weather patterns creates good conditions for plant growth. Historically much of the region was covered in dense rainforest (jungle), though much of this has been removed for commercial purposes over the last century leading to extensive soil erosion and silting of the rivers which run from the interiors to the coast.

SINGAPORE

The present government is a parliamentary system at the federal level (located in Kuala Lumpur, Peninsular Malaysia) and at the state level, based on periodic general elections. Each Peninsular state (except Penang and Melaka) has a traditional Malay ruler, the Sultan, one of whom is elected as paramount ruler of Malaysia (Yang dipertuan Agung) for a five-year term.

The population at the end of the twentieth century approximated 22 million and is ethnically diverse, consisting of 57 percent Malays and other indigenous peoples (collectively known as bumiputera), 24 percent Chinese, 7 percent Indians and the balance “others” (including a high proportion of non-citizen Asians, e.g., Indonesians, Bangladeshis, Filipinos) (Andaya and Andaya, 2001, 3-4)

Significance as a Case Study in Economic Development

Malaysia is generally regarded as one of the most successful non-western countries to have achieved a relatively smooth transition to modern economic growth over the last century or so. Since the late nineteenth century it has been a major supplier of primary products to the industrialized countries; tin, rubber, palm oil, timber, oil, liquified natural gas, etc.

However, since about 1970 the leading sector in development has been a range of export-oriented manufacturing industries such as textiles, electrical and electronic goods, rubber products etc. Government policy has generally accorded a central role to foreign capital, while at the same time working towards more substantial participation for domestic, especially bumiputera, capital and enterprise. By 1990 the country had largely met the criteria for a Newly-Industrialized Country (NIC) status (30 percent of exports to consist of manufactured goods). While the Asian economic crisis of 1997-98 slowed growth temporarily, the current plan, titled Vision 2020, aims to achieve “a fully developed industrialized economy by that date. This will require an annual growth rate in real GDP of 7 percent” (Far Eastern Economic Review, Nov. 6, 2003). Malaysia is perhaps the best example of a country in which the economic roles and interests of various racial groups have been pragmatically managed in the long-term without significant loss of growth momentum, despite the ongoing presence of inter-ethnic tensions which have occasionally manifested in violence, notably in 1969 (see below).

The Premodern Economy

Malaysia has a long history of internationally valued exports, being known from the early centuries A.D. as a source of gold, tin and exotics such as birds’ feathers, edible birds’ nests, aromatic woods, tree resins etc. The commercial importance of the area was enhanced by its strategic position athwart the seaborne trade routes from the Indian Ocean to East Asia. Merchants from both these regions, Arabs, Indians and Chinese regularly visited. Some became domiciled in ports such as Melaka [formerly Malacca], the location of one of the earliest local sultanates (c.1402 A.D.) and a focal point for both local and international trade.

From the early sixteenth century the area was increasingly penetrated by European trading interests, first the Portuguese (from 1511), then the Dutch East India Company [VOC](1602) in competition with the English East India Company [EIC] (1600) for the trade in pepper and various spices. By the late eighteenth century the VOC was dominant in the Indonesian region while the EIC acquired bases in Malaysia, beginning with Penang (1786), Singapore (1819) and Melaka (1824). These were major staging posts in the growing trade with China and also served as footholds from which to expand British control into the Malay Peninsula (from 1870), and northwest Borneo (Sarawak from 1841 and North Borneo from 1882). Over these centuries there was an increasing inflow of migrants from China attracted by the opportunities in trade and as a wage labor force for the burgeoning production of export commodities such as gold and tin. The indigenous people also engaged in commercial production (rice, tin), but remained basically within a subsistence economy and were reluctant to offer themselves as permanent wage labor. Overall, production in the premodern economy was relatively small in volume and technologically undeveloped. The capitalist sector, already foreign dominated, was still in its infancy (Drabble, 2000).

The Transition to Capitalist Production

The nineteenth century witnessed an enormous expansion in world trade which, between 1815 and 1914, grew on average at 4-5 percent a year compared to 1 percent in the preceding hundred years. The driving force came from the Industrial Revolution in the West which saw the innovation of large scale factory production of manufactured goods made possible by technological advances, accompanied by more efficient communications (e.g., railways, cars, trucks, steamships, international canals [Suez 1869, Panama 1914], telegraphs) which speeded up and greatly lowered the cost of long distance trade. Industrializing countries required ever-larger supplies of raw materials as well as foodstuffs for their growing populations. Regions such as Malaysia with ample supplies of virgin land and relative proximity to trade routes were well placed to respond to this demand. What was lacking was an adequate supply of capital and wage labor. In both aspects, the deficiency was supplied largely from foreign sources.

As expanding British power brought stability to the region, Chinese migrants started to arrive in large numbers with Singapore quickly becoming the major point of entry. Most arrived with few funds but those able to amass profits from trade (including opium) used these to finance ventures in agriculture and mining, especially in the neighboring Malay Peninsula. Crops such as pepper, gambier, tapioca, sugar and coffee were produced for export to markets in Asia (e.g. China), and later to the West after 1850 when Britain moved toward a policy of free trade. These crops were labor, not capital, intensive and in some cases quickly exhausted soil fertility and required periodic movement to virgin land (Jackson, 1968).

Tin

Besides ample land, the Malay Peninsula also contained substantial deposits of tin. International demand for tin rose progressively in the nineteenth century due to the discovery of a more efficient method for producing tinplate (for canned food). At the same time deposits in major suppliers such as Cornwall (England) had been largely worked out, thus opening an opportunity for new producers. Traditionally tin had been mined by Malays from ore deposits close to the surface. Difficulties with flooding limited the depth of mining; furthermore their activity was seasonal. From the 1840s the discovery of large deposits in the Peninsula states of Perak and Selangor attracted large numbers of Chinese migrants who dominated the industry in the nineteenth century bringing new technology which improved ore recovery and water control, facilitating mining to greater depths. By the end of the century Malayan tin exports (at approximately 52,000 metric tons) supplied just over half the world output. Singapore was a major center for smelting (refining) the ore into ingots. Tin mining also attracted attention from European, mainly British, investors who again introduced new technology – such as high-pressure hoses to wash out the ore, the steam pump and, from 1912, the bucket dredge floating in its own pond, which could operate to even deeper levels. These innovations required substantial capital for which the chosen vehicle was the public joint stock company, usually registered in Britain. Since no major new ore deposits were found, the emphasis was on increased efficiency in production. European operators, again employing mostly Chinese wage labor, enjoyed a technical advantage here and by 1929 accounted for 61 percent of Malayan output (Wong Lin Ken, 1965; Yip Yat Hoong, 1969).

Rubber

While tin mining brought considerable prosperity, it was a non-renewable resource. In the early twentieth century it was the agricultural sector which came to the forefront. The crops mentioned previously had boomed briefly but were hard pressed to survive severe price swings and the pests and diseases that were endemic in tropical agriculture. The cultivation of rubber-yielding trees became commercially attractive as a raw material for new industries in the West, notably for tires for the booming automobile industry especially in the U.S. Previously rubber had come from scattered trees growing wild in the jungles of South America with production only expandable at rising marginal costs. Cultivation on estates generated economies of scale. In the 1870s the British government organized the transport of specimens of the tree Hevea Brasiliensis from Brazil to colonies in the East, notably Ceylon and Singapore. There the trees flourished and after initial hesitancy over the five years needed for the trees to reach productive age, planters Chinese and European rushed to invest. The boom reached vast proportions as the rubber price reached record heights in 1910 (see Fig.1). Average values fell thereafter but investors were heavily committed and planting continued (also in the neighboring Netherlands Indies [Indonesia]). By 1921 the rubber acreage in Malaysia (mostly in the Peninsula) had reached 935 000 hectares (about 1.34 million acres) or some 55 percent of the total in South and Southeast Asia while output stood at 50 percent of world production.

Fig.1. Average London Rubber Prices, 1905-41 (current values)

As a result of this boom, rubber quickly surpassed tin as Malaysia’s main export product, a position that it was to hold until 1980. A distinctive feature of the industry was that the technology of extracting the rubber latex from the trees (called tapping) by an incision with a special knife, and its manufacture into various grades of sheet known as raw or plantation rubber, was easily adopted by a wide range of producers. The larger estates, mainly British-owned, were financed (as in the case of tin mining) through British-registered public joint stock companies. For example, between 1903 and 1912 some 260 companies were registered to operate in Malaya. Chinese planters for the most part preferred to form private partnerships to operate estates which were on average smaller. Finally, there were the smallholdings (under 40 hectares or 100 acres) of which those at the lower end of the range (2 hectares/5 acres or less) were predominantly owned by indigenous Malays who found growing and selling rubber more profitable than subsistence (rice) farming. These smallholders did not need much capital since their equipment was rudimentary and labor came either from within their family or in the form of share-tappers who received a proportion (say 50 percent) of the output. In Malaya in 1921 roughly 60 percent of the planted area was estates (75 percent European-owned) and 40 percent smallholdings (Drabble, 1991, 1).

The workforce for the estates consisted of migrants. British estates depended mainly on migrants from India, brought in under government auspices with fares paid and accommodation provided. Chinese business looked to the “coolie trade” from South China, with expenses advanced that migrants had subsequently to pay off. The flow of immigration was directly related to economic conditions in Malaysia. For example arrivals of Indians averaged 61 000 a year between 1900 and 1920. Substantial numbers also came from the Netherlands Indies.

Thus far, most capitalist enterprise was located in Malaya. Sarawak and British North Borneo had a similar range of mining and agricultural industries in the 19th century. However, their geographical location slightly away from the main trade route (see map) and the rugged internal terrain costly for transport made them less attractive to foreign investment. However, the discovery of oil by a subsidiary of Royal Dutch-Shell starting production from 1907 put Sarawak more prominently in the business of exports. As in Malaya, the labor force came largely from immigrants from China and to a lesser extent Java.

The growth in production for export in Malaysia was facilitated by development of an infrastructure of roads, railways, ports (e.g. Penang, Singapore) and telecommunications under the auspices of the colonial governments, though again this was considerably more advanced in Malaya (Amarjit Kaur, 1985, 1998)

The Creation of a Plural Society

By the 1920s the large inflows of migrants had created a multi-ethnic population of the type which the British scholar, J.S. Furnivall (1948) described as a plural society in which the different racial groups live side by side under a single political administration but, apart from economic transactions, do not interact with each other either socially or culturally. Though the original intention of many migrants was to come for only a limited period (say 3-5 years), save money and then return home, a growing number were staying longer, having children and becoming permanently domiciled in Malaysia. The economic developments described in the previous section were unevenly located, for example, in Malaya the bulk of the tin mines and rubber estates were located along the west coast of the Peninsula. In the boom-times, such was the size of the immigrant inflows that in certain areas they far outnumbered the indigenous Malays. In social and cultural terms Indians and Chinese recreated the institutions, hierarchies and linguistic usage of their countries of origin. This was particularly so in the case of the Chinese. Not only did they predominate in major commercial centers such as Penang, Singapore, and Kuching, but they controlled local trade in the smaller towns and villages through a network of small shops (kedai) and dealerships that served as a pipeline along which export goods like rubber went out and in return imported manufactured goods were brought in for sale. In addition Chinese owned considerable mining and agricultural land. This created a distribution of wealth and division of labor in which economic power and function were directly related to race. In this situation lay the seeds of growing discontent among bumiputera that they were losing their ancestral inheritance (land) and becoming economically marginalized. As long as British colonial rule continued the various ethnic groups looked primarily to government to protect their interests and maintain peaceable relations. An example of colonial paternalism was the designation from 1913 of certain lands in Malaya as Malay Reservations in which only indigenous people could own and deal in property (Lim Teck Ghee, 1977).

Benefits and Drawbacks of an Export Economy

Prior to World War II the international economy was divided very broadly into the northern and southern hemispheres. The former contained most of the industrialized manufacturing countries and the latter the principal sources of foodstuffs and raw materials. The commodity exchange between the spheres was known as the Old International Division of Labor (OIDL). Malaysia’s place in this system was as a leading exporter of raw materials (tin, rubber, timber, oil, etc.) and an importer of manufactures. Since relatively little processing was done on the former prior to export, most of the value-added component in the final product accrued to foreign manufacturers, e.g. rubber tire manufacturers in the U.S.

It is clear from this situation that Malaysia depended heavily on earnings from exports of primary commodities to maintain the standard of living. Rice had to be imported (mainly from Burma and Thailand) because domestic production supplied on average only 40 percent of total needs. As long as export prices were high (for example during the rubber boom previously mentioned), the volume of imports remained ample. Profits to capital and good smallholder incomes supported an expanding economy. There are no official data for Malaysian national income prior to World War II, but some comparative estimates are given in Table 1 which indicate that Malayan Gross Domestic Product (GDP) per person was easily the leader in the Southeast and East Asian region by the late 1920s.

Table 1
GDP per Capita: Selected Asian Countries, 1900-1990
(in 1985 international dollars)

1900 1929 1950 1973 1990
Malaya/Malaysia1 6002 1910 1828 3088 5775
Singapore - - 22763 5372 14441
Burma 523 651 304 446 562
Thailand 594 623 652 1559 3694
Indonesia 617 1009 727 1253 2118
Philippines 735 1106 943 1629 1934
South Korea 568 945 565 1782 6012
Japan 724 1192 1208 7133 13197

Notes: Malaya to 19731; Guesstimate2; 19603

Source: van der Eng (1994).

However, the international economy was subject to strong fluctuations. The levels of activity in the industrialized countries, especially the U.S., were the determining factors here. Almost immediately following World War I there was a depression from 1919-22. Strong growth in the mid and late-1920s was followed by the Great Depression (1929-32). As industrial output slumped, primary product prices fell even more heavily. For example, in 1932 rubber sold on the London market for about one one-hundredth of the peak price in 1910 (Fig.1). The effects on export earnings were very severe; in Malaysia’s case between 1929 and 1932 these dropped by 73 percent (Malaya), 60 percent (Sarawak) and 50 percent (North Borneo). The aggregate value of imports fell on average by 60 percent. Estates dismissed labor and since there was no social security, many workers had to return to their country of origin. Smallholder incomes dropped heavily and many who had taken out high-interest secured loans in more prosperous times were unable to service these and faced the loss of their land.

The colonial government attempted to counteract this vulnerability to economic swings by instituting schemes to restore commodity prices to profitable levels. For the rubber industry this involved two periods of mandatory restriction of exports to reduce world stocks and thus exert upward pressure on market prices. The first of these (named the Stevenson scheme after its originator) lasted from 1 October 1922- 1 November 1928, and the second (the International Rubber Regulation Agreement) from 1 June 1934-1941. Tin exports were similarly restricted from 1931-41. While these measures did succeed in raising world prices, the inequitable treatment of Asian as against European producers in both industries has been debated. The protective policy has also been blamed for “freezing” the structure of the Malaysian economy and hindering further development, for instance into manufacturing industry (Lim Teck Ghee, 1977; Drabble, 1991).

Why No Industrialization?

Malaysia had very few secondary industries before World War II. The little that did appear was connected mainly with the processing of the primary exports, rubber and tin, together with limited production of manufactured goods for the domestic market (e.g. bread, biscuits, beverages, cigarettes and various building materials). Much of this activity was Chinese-owned and located in Singapore (Huff, 1994). Among the reasons advanced are; the small size of the domestic market, the relatively high wage levels in Singapore which made products uncompetitive as exports, and a culture dominated by British trading firms which favored commerce over industry. Overshadowing all these was the dominance of primary production. When commodity prices were high, there was little incentive for investors, European or Asian, to move into other sectors. Conversely, when these prices fell capital and credit dried up, while incomes contracted, thus lessening effective demand for manufactures. W.G. Huff (2002) has argued that, prior to World War II, “there was, in fact, never a good time to embark on industrialization in Malaya.”

War Time 1942-45: The Japanese Occupation

During the Japanese occupation years of World War II, the export of primary products was limited to the relatively small amounts required for the Japanese economy. This led to the abandonment of large areas of rubber and the closure of many mines, the latter progressively affected by a shortage of spare parts for machinery. Businesses, especially those Chinese-owned, were taken over and reassigned to Japanese interests. Rice imports fell heavily and thus the population devoted a large part of their efforts to producing enough food to stay alive. Large numbers of laborers (many of whom died) were conscripted to work on military projects such as construction of the Thai-Burma railroad. Overall the war period saw the dislocation of the export economy, widespread destruction of the infrastructure (roads, bridges etc.) and a decline in standards of public health. It also saw a rise in inter-ethnic tensions due to the harsh treatment meted out by the Japanese to some groups, notably the Chinese, compared to a more favorable attitude towards the indigenous peoples among whom (Malays particularly) there was a growing sense of ethnic nationalism (Drabble, 2000).

Postwar Reconstruction and Independence

The returning British colonial rulers had two priorities after 1945; to rebuild the export economy as it had been under the OIDL (see above), and to rationalize the fragmented administrative structure (see General Background). The first was accomplished by the late 1940s with estates and mines refurbished, production restarted once the labor force had been brought back and adequate rice imports regained. The second was a complex and delicate political process which resulted in the formation of the Federation of Malaya (1948) from which Singapore, with its predominantly Chinese population (about 75%), was kept separate. In Borneo in 1946 the state of Sarawak, which had been a private kingdom of the English Brooke family (so-called “White Rajas”) since 1841, and North Borneo, administered by the British North Borneo Company from 1881, were both transferred to direct rule from Britain. However, independence was clearly on the horizon and in Malaya tensions continued with the guerrilla campaign (called the “Emergency”) waged by the Malayan Communist Party (membership largely Chinese) from 1948-60 to force out the British and set up a Malayan Peoples’ Republic. This failed and in 1957 the Malayan Federation gained independence (Merdeka) under a “bargain” by which the Malays would hold political paramountcy while others, notably Chinese and Indians, were given citizenship and the freedom to pursue their economic interests. The bargain was institutionalized as the Alliance, later renamed the National Front (Barisan Nasional) which remains the dominant political grouping. In 1963 the Federation of Malaysia was formed in which the bumiputera population was sufficient in total to offset the high proportion of Chinese arising from the short-lived inclusion of Singapore (Andaya and Andaya, 2001).

Towards the Formation of a National Economy

Postwar two long-term problems came to the forefront. These were (a) the political fragmentation (see above) which had long prevented a centralized approach to economic development, coupled with control from Britain which gave primacy to imperial as opposed to local interests and (b) excessive dependence on a small range of primary products (notably rubber and tin) which prewar experience had shown to be an unstable basis for the economy.

The first of these was addressed partly through the political rearrangements outlined in the previous section, with the economic aspects buttressed by a report from a mission to Malaya from the International Bank for Reconstruction and Development (IBRD) in 1954. The report argued that Malaya “is now a distinct national economy.” A further mission in 1963 urged “closer economic cooperation between the prospective Malaysia[n] territories” (cited in Drabble, 2000, 161, 176). The rationale for the Federation was that Singapore would serve as the initial center of industrialization, with Malaya, Sabah and Sarawak following at a pace determined by local conditions.

The second problem centered on economic diversification. The IBRD reports just noted advocated building up a range of secondary industries to meet a larger portion of the domestic demand for manufactures, i.e. import-substitution industrialization (ISI). In the interim dependence on primary products would perforce continue.

The Adoption of Planning

In the postwar world the development plan (usually a Five-Year Plan) was widely adopted by Less-Developed Countries (LDCs) to set directions, targets and estimated costs. Each of the Malaysian territories had plans during the 1950s. Malaya was the first to get industrialization of the ISI type under way. The Pioneer Industries Ordinance (1958) offered inducements such as five-year tax holidays, guarantees (to foreign investors) of freedom to repatriate profits and capital etc. A modest degree of tariff protection was granted. The main types of goods produced were consumer items such as batteries, paints, tires, and pharmaceuticals. Just over half the capital invested came from abroad, with neighboring Singapore in the lead. When Singapore exited the federation in 1965, Malaysia’s fledgling industrialization plans assumed greater significance although foreign investors complained of stifling bureaucracy retarding their projects.

Primary production, however, was still the major economic activity and here the problem was rejuvenation of the leading industries, rubber in particular. New capital investment in rubber had slowed since the 1920s, and the bulk of the existing trees were nearing the end of their economic life. The best prospect for rejuvenation lay in cutting down the old trees and replanting the land with new varieties capable of raising output per acre/hectare by a factor of three or four. However, the new trees required seven years to mature. Corporately owned estates could replant progressively, but smallholders could not face such a prolonged loss of income without support. To encourage replanting, the government offered grants to owners, financed by a special duty on rubber exports. The process was a lengthy one and it was the 1980s before replanting was substantially complete. Moreover, many estates elected to switch over to a new crop, oil palms (a product used primarily in foodstuffs), which offered quicker returns. Progress was swift and by the 1960s Malaysia was supplying 20 percent of world demand for this commodity.

Another priority at this time consisted of programs to improve the standard of living of the indigenous peoples, most of whom lived in the rural areas. The main instrument was land development, with schemes to open up large areas (say 100,000 acres or 40 000 hectares) which were then subdivided into 10 acre/4 hectare blocks for distribution to small farmers from overcrowded regions who were either short of land or had none at all. Financial assistance (repayable) was provided to cover housing and living costs until the holdings became productive. Rubber and oil palms were the main commercial crops planted. Steps were also taken to increase the domestic production of rice to lessen the historical dependence on imports.

In the primary sector Malaysia’s range of products was increased from the 1960s by a rapid increase in the export of hardwood timber, mostly in the form of (unprocessed) saw-logs. The markets were mainly in East Asia and Australasia. Here the largely untapped resources of Sabah and Sarawak came to the fore, but the rapid rate of exploitation led by the late twentieth century to damaging effects on both the environment (extensive deforestation, soil-loss, silting, changed weather patterns), and the traditional hunter-gatherer way of life of forest-dwellers (decrease in wild-life, fish, etc.). Other development projects such as the building of dams for hydroelectric power also had adverse consequences in all these respects (Amarjit Kaur, 1998; Drabble, 2000; Hong, 1987).

A further major addition to primary exports came from the discovery of large deposits of oil and natural gas in East Malaysia, and off the east coast of the Peninsula from the 1970s. Gas was exported in liquified form (LNG), and was also used domestically as a substitute for oil. At peak values in 1982, petroleum and LNG provided around 29 percent of Malaysian export earnings but had declined to 18 percent by 1988.

Industrialization and the New Economic Policy 1970-90

The program of industrialization aimed primarily at the domestic market (ISI) lost impetus in the late 1960s as foreign investors, particularly from Britain switched attention elsewhere. An important factor here was the outbreak of civil disturbances in May 1969, following a federal election in which political parties in the Peninsula (largely non-bumiputera in membership) opposed to the Alliance did unexpectedly well. This brought to a head tensions, which had been rising during the 1960s over issues such as the use of the national language, Malay (Bahasa Malaysia) as the main instructional medium in education. There was also discontent among Peninsular Malays that the economic fruits since independence had gone mostly to non-Malays, notably the Chinese. The outcome was severe inter-ethnic rioting centered in the federal capital, Kuala Lumpur, which led to the suspension of parliamentary government for two years and the implementation of the New Economic Policy (NEP).

The main aim of the NEP was a restructuring of the Malaysian economy over two decades, 1970-90 with the following aims:

  1. to redistribute corporate equity so that the bumiputera share would rise from around 2 percent to 30 percent. The share of other Malaysians would increase marginally from 35 to 40 percent, while that of foreigners would fall from 63 percent to 30 percent.
  2. to eliminate the close link between race and economic function (a legacy of the colonial era) and restructure employment so that that the bumiputera share in each sector would reflect more accurately their proportion of the total population (roughly 55 percent). In 1970 this group had about two-thirds of jobs in the primary sector where incomes were generally lowest, but only 30 percent in the secondary sector. In high-income middle class occupations (e.g. professions, management) the share was only 13 percent.
  3. To eradicate poverty irrespective of race. In 1970 just under half of all households in Peninsular Malaysia had incomes below the official poverty line. Malays accounted for about 75 percent of these.

The principle underlying these aims was that the redistribution would not result in any one group losing in absolute terms. Rather it would be achieved through the process of economic growth, i.e. the economy would get bigger (more investment, more jobs, etc.). While the primary sector would continue to receive developmental aid under the successive Five Year Plans, the main emphasis was a switch to export-oriented industrialization (EOI) with Malaysia seeking a share in global markets for manufactured goods. Free Trade Zones (FTZs) were set up in places such as Penang where production was carried on with the undertaking that the output would be exported. Firms locating there received concessions such as duty-free imports of raw materials and capital goods, and tax concessions, aimed at primarily at foreign investors who were also attracted by Malaysia’s good facilities, relatively low wages and docile trade unions. A range of industries grew up; textiles, rubber and food products, chemicals, telecommunications equipment, electrical and electronic machinery/appliances, car assembly and some heavy industries, iron and steel. As with ISI, much of the capital and technology was foreign, for example the Japanese firm Mitsubishi was a partner in a venture to set up a plant to assemble a Malaysian national car, the Proton, from mostly imported components (Drabble, 2000).

Results of the NEP

Table 2 below shows the outcome of the NEP in the categories outlined above.

Table 2
Restructuring under the NEP, 1970-90

1970 1990
Wealth Ownership (%) Bumiputera 2.0 20.3
Other Malaysians 34.6 54.6
Foreigners 63.4 25.1
Employment
(%) of total
workers
in each
sector
Primary sector (agriculture, mineral
extraction, forest products and fishing)
Bumiputera 67.6 [61.0]* 71.2 [36.7]*
Others 32.4 28.8
Secondary sector
(manufacturing and construction)
Bumiputera 30.8 [14.6]* 48.0 [26.3]*
Others 69.2 52.0
Tertiary sector (services) Bumiputera 37.9 [24.4]* 51.0 [36.9]*
Others 62.1 49.0

Note: [ ]* is the proportion of the ethnic group thus employed. The “others” category has not been disaggregated by race to avoid undue complexity.
Source: Drabble, 2000, Table 10.9.

Section (a) shows that, overall, foreign ownership fell substantially more than planned, while that of “Other Malaysians” rose well above the target. Bumiputera ownership appears to have stopped well short of the 30 percent mark. However, other evidence suggests that in certain sectors such as agriculture/mining (35.7%) and banking/insurance (49.7%) bumiputera ownership of shares in publicly listed companies had already attained a level well beyond the target. Section (b) indicates that while bumiputera employment share in primary production increased slightly (due mainly to the land schemes), as a proportion of that ethnic group it declined sharply, while rising markedly in both the secondary and tertiary sectors. In middle class employment the share rose to 27 percent.

As regards the proportion of households below the poverty line, in broad terms the incidence in Malaysia fell from approximately 49 percent in 1970 to 17 percent in 1990, but with large regional variations between the Peninsula (15%), Sarawak (21 %) and Sabah (34%) (Drabble, 2000, Table 13.5). All ethnic groups registered big falls, but on average the non-bumiputera still enjoyed the lowest incidence of poverty. By 2002 the overall level had fallen to only 4 percent.

The restructuring of the Malaysian economy under the NEP is very clear when we look at the changes in composition of the Gross Domestic Product (GDP) in Table 3 below.

Table 3
Structural Change in GDP 1970-90 (% shares)

Year Primary Secondary Tertiary
1970 44.3 18.3 37.4
1990 28.1 30.2 41.7

Source: Malaysian Government, 1991, Table 3-2.

Over these three decades Malaysia accomplished a transition from a primary product-dependent economy to one in which manufacturing industry had emerged as the leading growth sector. Rubber and tin, which accounted for 54.3 percent of Malaysian export value in 1970, declined sharply in relative terms to a mere 4.9 percent in 1990 (Crouch, 1996, 222).

Factors in the structural shift

The post-independence state played a leading role in the transformation. The transition from British rule was smooth. Apart from the disturbances in 1969 government maintained a firm control over the administrative machinery. Malaysia’s Five Year Development plans were a model for the developing world. Foreign capital was accorded a central role, though subject to the requirements of the NEP. At the same time these requirements discouraged domestic investors, the Chinese especially, to some extent (Jesudason, 1989).

Development was helped by major improvements in education and health. Enrolments at the primary school level reached approximately 90 percent by the 1970s, and at the secondary level 59 percent of potential by 1987. Increased female enrolments, up from 39 percent to 58 percent of potential from 1975 to 1991, were a notable feature, as was the participation of women in the workforce which rose to just over 45 percent of total employment by 1986/7. In the tertiary sector the number of universities increased from one to seven between 1969 and 1990 and numerous technical and vocational colleges opened. Bumiputera enrolments soared as a result of the NEP policy of redistribution (which included ethnic quotas and government scholarships). However, tertiary enrolments totaled only 7 percent of the age group by 1987. There was an “educational-occupation mismatch,” with graduates (bumiputera especially) preferring jobs in government, and consequent shortfalls against strong demand for engineers, research scientists, technicians and the like. Better living conditions (more homes with piped water and more rural clinics, for example) led to substantial falls in infant mortality, improved public health and longer life-expectancy, especially in Peninsular Malaysia (Drabble, 2000, 248, 284-6).

The quality of national leadership was a crucial factor. This was particularly so during the NEP. The leading figure here was Dr Mahathir Mohamad, Malaysian Prime Minister from 1981-2003. While supporting the NEP aim through positive discrimination to give bumiputera an economic stake in the country commensurate with their indigenous status and share in the population, he nevertheless emphasized that this should ultimately lead them to a more modern outlook and ability to compete with the other races in the country, the Chinese especially (see Khoo Boo Teik, 1995). There were, however, some paradoxes here. Mahathir was a meritocrat in principle, but in practice this period saw the spread of “money politics” (another expression for patronage) in Malaysia. In common with many other countries Malaysia embarked on a policy of privatization of public assets, notably in transportation (e.g. Malaysian Airlines), utilities (e.g. electricity supply) and communications (e.g. television). This was done not through an open process of competitive tendering but rather by a “nebulous ‘first come, first served’ principle” (Jomo, 1995, 8) which saw ownership pass directly to politically well-connected businessmen, mainly bumiputera, at relatively low valuations.

The New Development Policy

Positive action to promote bumiputera interests did not end with the NEP in 1990, this was followed in 1991 by the New Development Policy (NDP), which emphasized assistance only to “Bumiputera with potential, commitment and good track records” (Malaysian Government, 1991, 17) rather than the previous blanket measures to redistribute wealth and employment. In turn the NDP was part of a longer-term program known as Vision 2020. The aim here is to turn Malaysia into a fully industrialized country and to quadruple per capita income by the year 2020. This will require the country to continue ascending the technological “ladder” from low- to high-tech types of industrial production, with a corresponding increase in the intensity of capital investment and greater retention of value-added (i.e. the value added to raw materials in the production process) by Malaysian producers.

The Malaysian economy continued to boom at historically unprecedented rates of 8-9 percent a year for much of the 1990s (see next section). There was heavy expenditure on infrastructure, for example extensive building in Kuala Lumpur such as the Twin Towers (currently the highest buildings in the world). The volume of manufactured exports, notably electronic goods and electronic components increased rapidly.

Asian Financial Crisis, 1997-98

The Asian financial crisis originated in heavy international currency speculation leading to major slumps in exchange rates beginning with the Thai baht in May 1997, spreading rapidly throughout East and Southeast Asia and severely affecting the banking and finance sectors. The Malaysian ringgit exchange rate fell from RM 2.42 to 4.88 to the U.S. dollar by January 1998. There was a heavy outflow of foreign capital. To counter the crisis the International Monetary Fund (IMF) recommended austerity changes to fiscal and monetary policies. Some countries (Thailand, South Korea, and Indonesia) reluctantly adopted these. The Malaysian government refused and implemented independent measures; the ringgitbecame non-convertible externally and was pegged at RM 3.80 to the US dollar, while foreign capital repatriated before staying at least twelve months was subject to substantial levies. Despite international criticism these actions stabilized the domestic situation quite effectively, restoring net growth (see next section) especially compared to neighboring Indonesia.

Rates of Economic Growth

Malaysia’s economic growth in comparative perspective from 1960-90 is set out in Table 4 below.

Table 4
Asia-Pacific Region: Growth of Real GDP (annual average percent)

1960-69 1971-80 1981-89
Japan 10.9 5.0 4.0
Asian “Tigers”
Hong Kong 10.0 9.5 7.2
South Korea 8.5 8.7 9.3
Singapore 8.9 9.0 6.9
Taiwan 11.6 9.7 8.1
ASEAN-4
Indonesia 3.5 7.9 5.2
Malaysia 6.5 8.0 5.4
Philippines 4.9 6.2 1.7
Thailand 8.3 9.9 7.1

Source: Drabble, 2000, Table 10.2; figures for Japan are for 1960-70, 1971-80, and 1981-90.

The data show that Japan, the dominant Asian economy for much of this period, progressively slowed by the 1990s (see below). The four leading Newly Industrialized Countries (Asian “Tigers” as they were called) followed EOF strategies and achieved very high rates of growth. Among the four ASEAN (Association of Southeast Asian Nations formed 1967) members, again all adopting EOI policies, Thailand stood out followed closely by Malaysia. Reference to Table 1 above shows that by 1990 Malaysia, while still among the leaders in GDP per head, had slipped relative to the “Tigers.”

These economies, joined by China, continued growth into the 1990s at such high rates (Malaysia averaged around 8 percent a year) that the term “Asian miracle” became a common method of description. The exception was Japan which encountered major problems with structural change and an over-extended banking system. Post-crisis the countries of the region have started recovery but at differing rates. The Malaysian economy contracted by nearly 7 percent in 1998, recovered to 8 percent growth in 2000, slipped again to under 1 percent in 2001 and has since stabilized at between 4 and 5 percent growth in 2002-04.

The new Malaysian Prime Minister (since October 2003), Abdullah Ahmad Badawi, plans to shift the emphasis in development to smaller, less-costly infrastructure projects and to break the previous dominance of “money politics.” Foreign direct investment will still be sought but priority will be given to nurturing the domestic manufacturing sector.

Further improvements in education will remain a key factor (Far Eastern Economic Review, Nov.6, 2003).

Overview

Malaysia owes its successful historical economic record to a number of factors. Geographically it lies close to major world trade routes bringing early exposure to the international economy. The sparse indigenous population and labor force has been supplemented by immigrants, mainly from neighboring Asian countries with many becoming permanently domiciled. The economy has always been exceptionally open to external influences such as globalization. Foreign capital has played a major role throughout. Governments, colonial and national, have aimed at managing the structure of the economy while maintaining inter-ethnic stability. Since about 1960 the economy has benefited from extensive restructuring with sustained growth of exports from both the primary and secondary sectors, thus gaining a double impetus.

However, on a less positive assessment, the country has so far exchanged dependence on a limited range of primary products (e.g. tin and rubber) for dependence on an equally limited range of manufactured goods, notably electronics and electronic components (59 percent of exports in 2002). These industries are facing increasing competition from lower-wage countries, especially India and China. Within Malaysia the distribution of secondary industry is unbalanced, currently heavily favoring the Peninsula. Sabah and Sarawak are still heavily dependent on primary products (timber, oil, LNG). There is an urgent need to continue the search for new industries in which Malaysia can enjoy a comparative advantage in world markets, not least because inter-ethnic harmony depends heavily on the continuance of economic prosperity.

Select Bibliography

General Studies

Amarjit Kaur. Economic Change in East Malaysia: Sabah and Sarawak since 1850. London: Macmillan, 1998.

Andaya, L.Y. and Andaya, B.W. A History of Malaysia, second edition. Basingstoke: Palgrave, 2001.

Crouch, Harold. Government and Society in Malaysia. Sydney: Allen and Unwin, 1996.

Drabble, J.H. An Economic History of Malaysia, c.1800-1990: The Transition to Modern Economic Growth. Basingstoke: Macmillan and New York: St. Martin’s Press, 2000.

Furnivall, J.S. Colonial Policy and Practice: A Comparative Study of Burma and Netherlands India. Cambridge (UK), 1948.

Huff, W.G. The Economic Growth of Singapore: Trade and Development in the Twentieth Century. Cambridge: Cambridge University Press, 1994.

Jomo, K.S. Growth and Structural Change in the Malaysian Economy. London: Macmillan, 1990.

Industries/Transport

Alavi, Rokiah. Industrialization in Malaysia: Import Substitution and Infant Industry Performance. London: Routledge, 1966.

Amarjit Kaur. Bridge and Barrier: Transport and Communications in Colonial Malaya 1870-1957. Kuala Lumpur: Oxford University Press, 1985.

Drabble, J.H. Rubber in Malaya 1876-1922: The Genesis of the Industry. Kuala Lumpur: Oxford University Press, 1973.

Drabble, J.H. Malayan Rubber: The Interwar Years. London: Macmillan, 1991.

Huff, W.G. “Boom or Bust Commodities and Industrialization in Pre-World War II Malaya.” Journal of Economic History 62, no. 4 (2002): 1074-1115.

Jackson, J.C. Planters and Speculators: European and Chinese Agricultural Enterprise in Malaya 1786-1921. Kuala Lumpur: University of Malaya Press, 1968.

Lim Teck Ghee. Peasants and Their Agricultural Economy in Colonial Malaya, 1874-1941. Kuala Lumpur: Oxford University Press, 1977.

Wong Lin Ken. The Malayan Tin Industry to 1914. Tucson: University of Arizona Press, 1965.

Yip Yat Hoong. The Development of the Tin Mining Industry of Malaya. Kuala Lumpur: University of Malaya Press, 1969.

New Economic Policy

Jesudason, J.V. Ethnicity and the Economy: The State, Chinese Business and Multinationals in Malaysia. Kuala Lumpur: Oxford University Press, 1989.

Jomo, K.S., editor. Privatizing Malaysia: Rents, Rhetoric, Realities. Boulder, CO: Westview Press, 1995.

Khoo Boo Teik. Paradoxes of Mahathirism: An Intellectual Biography of Mahathir Mohamad. Kuala Lumpur: Oxford University Press, 1995.

Vincent, J.R., R.M. Ali and Associates. Environment and Development in a Resource-Rich Economy: Malaysia under the New Economic Policy. Cambridge, MA: Harvard University Press, 1997

Ethnic Communities

Chew, Daniel. Chinese Pioneers on the Sarawak Frontier, 1841-1941. Kuala Lumpur: Oxford University Press, 1990.

Gullick, J.M. Malay Society in the Late Nineteenth Century. Kuala Lumpur: Oxford University Press, 1989.

Hong, Evelyne. Natives of Sarawak: Survival in Borneo’s Vanishing Forests. Penang: Institut Masyarakat Malaysia, 1987.

Shamsul, A.B. From British to Bumiputera Rule. Singapore: Institute of Southeast Asian Studies, 1986.

Economic Growth

Far Eastern Economic Review. Hong Kong. An excellent weekly overview of current regional affairs.

Malaysian Government. The Second Outline Perspective Plan, 1991-2000. Kuala Lumpur: Government Printer, 1991.

Van der Eng, Pierre. “Assessing Economic Growth and the Standard of Living in Asia 1870-1990.” Milan, Eleventh International Economic History Congress, 1994.

Citation: Drabble, John. “The Economic History of Malaysia”. EH.Net Encyclopedia, edited by Robert Whaples. July 31, 2004. URL http://eh.net/encyclopedia/economic-history-of-malaysia/