Chapter 2--Tulipmania

Tulipmania 2

“Tulipmania” has come to be virtually a metaphor in the economics field. When one looks up Tulipmania in The New Palgrave Dictionary of Economics, a discussion of the seventeenth century Dutch speculative mania will not be found. The author, Guillermo Calvo, instead defines tulipmania as: “situations in which some prices behave in a way that appears not to be fully explainable by economic ‘fundamentals’.”¹ Calvo then goes on to use mathematical models to discuss “equilibria that may resemble tulipmanias, but which are consistent with standard demand-supply analysis under the assumption of Perfect Foresight or Rational Expectations.”

Brown University economist Peter Garber has written extensively about Tulipmania. Garber’s article, “Tulipmania,” sought to explore the fundamentals of the Amsterdam tulip market in 1634–37.² After a cursory review of the historical accounts of Tulipmania, centering for the most part on the seven pages Charles Mackay devoted to the subject in Memoirs of Extraordinary Popular Delusions and the Madness of Crowds, Garber initiates a discussion of the tulip and tulip markets of 1634 Holland. He begins by dispensing information on the nature of the tulip.

The tulip, being a bulb flower, can reproduce either by seed or through buds formed on female bulbs. The buds can reproduce another bulb if properly cultivated, the most effective method of reproduction being that of asexual reproduction through buds. The flowers of the tulip appear in April and May, and are only in bloom for about a week. The bulbs can be removed from the ground in June, but must be replanted again by September.

The extraordinary patterns some tulips display is caused by a mosaic virus. These patterns cannot be duplicated by seed reproduction; it is only by cultivating the effected buds into new bulbs that duplication can occur. The seeds produce only common flowers that later succumb to the virus creating new patterns. The downside to the virus is that it subdues the rate of reproduction. Thus, those tulips with more exotic patterns, were slower to reproduce, making them more scarce and valuable than common, uninfected bulbs.³

Garber’s discussion of the bulb market begins with the assertion that this market was limited to professional growers until late 1634, when speculators entered the market, driven by high demand for bulbs in France. Rare bulbs were traded as “piece” goods by weight, with the weight standard being an aas, about one-twentieth of a gram. Common bulbs traded in standard units of 1,000 azen or one pound (9,728 azen in Haarlem, 10,240 azen in Amsterdam), with contracts not referring to specific bulbs.

Given the growing season mentioned above, the tulip market was a futures market from September to June. Garber indicates that formal futures markets began in 1636, and were the primary vehicle for trading in bulbs until February 1637, when the market col-lapsed.⁴ In the summer of 1636, trading of futures took place in taverns, in groups called “colleges,” with few rules restricting bidding and fees. Buyers were required to put up a small fraction of the contracted amount of each deal for “wine money.” Otherwise, Garber indicates, there was no margin required by either buyer or seller. On settlement date, buyers did not typically have the required cash to settle the trade, but the sellers did not have the bulbs to deliver either. Thus, the trade was settled with only a payment of the difference between the contract and settlement price being expected. Contracts were not repeatedly marked to the market; thus, when the market collapsed, gross positions, rather than net, had to be unwound.

With the market collapse in February 1637, no bulbs were delivered under the deals consummated by the new futures market. Bulbs could not be delivered until June. Garber says that it is unclear as to the settlement date and price for these transactions. It would appear that some sort of standard price was developed, based upon the price that the majority of trades settled at.

Rare bulbs began to trade at increasingly higher prices in 1635. However, it was November 1636 before the speculation in the common bulbs began. N.W. Posthumus said the following concerning the timing of events:

I think the sequence of events may be seen as follows. At the end of 1634, the new non-professional buyers came into action. Towards the middle of 1635, prices rose rapidly, while people could buy on credit, generally delivering at once some article of value; at the same time the sale per aas was introduced. About the middle of 1636, the colleges appeared; and soon thereafter the trade in non-available bulbs was started, while in November of the same year the trade was extended to the common varieties, and bulbs were sold by the thousand azen and per pound.⁵

In the next section of Garber’s “Tulipmania,” he graphs price data for various types of bulbs, placing time on the horizontal axis (typically June 1636 through February 1637) and price (guilders or aas) on the vertical axis. All the graphs reflect sharply ascending slopes, at various degrees; six out of eight graphs reflect prices exploding upward to February 5, 1637 and plunging downward that same day. The graph for the Gouda bulb indicates its price peaked on January 29 and crashed on February 5 as with the other bulbs. The other graph, for the Semper Augustus bulb, reflects price information on a yearly scale and shows the peak price occurring in 1637.⁶

After the market crashed in the first week of February, a delegation of florists in Amsterdam on February 24th made the proposal that tulip sales contracts consummated before November 30, 1636 should be executed, but that transactions occurring after that date could be rescinded by the buyer upon payment of 10 percent of the sales price to the seller. However, the Dutch authorities came up with their own plan on April 27: to suspend all contracts. Thus, sellers could then sell contracted bulbs at the market prices during this suspension. Buyers were then responsible for the difference between this market price and the settlement price decided by the authorities. By doing this, growers were released to market bulbs to be exhumed that June. Garber goes on to explain that the disposition of further contracts is not clear, but the example of the city of Haarlem’s solution is cited from Posthumus, which permitted buyers to cancel contracts upon payment of 3¹/₂ percent of the contract price.⁷

After a discussion of eighteenth-century tulip and hyacinth prices, along with modern bulb prices, Garber looks to answer the question: “Was This Episode a ‘Tulipmania’?”⁸ He responds to the issue that many works written about the economic history of seventeenth century Holland make just the slightest reference or no reference at all to Tulipmania by making the accurate point that, given the short duration of the mania, it had little effect on Holland’s allocation of resources. Remember that bulbs must be planted by September and cannot be removed until June. Thus, at the apex of the bubble, November 1636 through January 1637, it was too late to plant more bulbs. Garber also contends that, in spite of the crash in tulip bulb prices, little wealth was transferred given that only small settlements were required on contracts.⁹ This author questions this view that there was no financial pain felt from the crash. Other sources that will be explored later indicate that bankruptcies doubled in Amsterdam in 1637–38, a period immediately following the crash.

Garber comes to the conclusion that, “the bulb speculation was not obvious madness, at least for most of the 1634–37 “mania.”¹⁰ Only the last month of the speculation for common bulbs remains a potential bubble.” Indeed, the price of the common bulb, the Witte Croonen, rose by approximately 26 times in January 1637, and subsequently fell to one-twentieth of its peak price the first week in February 1637.¹¹

Economic historian Charles P. Kindleberger has written extensively on manias and bubbles. His book, Manias, Panics, and Crashes: A History of Financial Crises, is considered among the definitive books on the subject.¹² But Tulipmania, despite being a modern day metaphor for mania, is given but scant mention in a footnote, as follows:

Manias such as the Lubeck crises 100 years earlier, or the tulip mania of 1634 are too isolated and lack the characteristic monetary features that come with the spread of banking after the opening of the eighteenth century. Peter Garber has dealt at length with the tulip mania. He distinguishes a “bubble” from ordinary economic fluctuations: the latter are determined by “fundamentals,” while the former deviates from the set of prices that fundamentals would call for. In the tulip mania, which he suggests was not a bubble, the fundamental accounting for the enormous rise of some tulip prices was the difficulty of producing them.¹³

In A Financial History of Western Europe, Kindleberger refers to tulip mania as “probably the high watermark in bubbles,” yet only devotes five lines to the subject in the entire book.¹⁴ Judging by his treatment of the subject, it would appear that Kindleberger, one of today’s most noted mainstream economic historians, places little historical importance on the events in Amsterdam in 1634–37. The reason for Kindleberger’s slight is found in the footnote referenced above, in particular: “lack the characteristic monetary features that come with the spread of banking in the eighteenth century.” Kindleberger devotes chapter 4 of Manias, Panics, and Crashes to monetary expansion. He begins this chapter with the following:

Speculative manias gather speed through expansion of money and credit or perhaps, in some cases, get started because of an initial expansion of money and credit. One can look back at particular manias followed by crashes or panics and see what went wrong.¹⁵

He then goes on to spend a couple of pages referencing various bubbles and ensuing crashes, all of which were created by monetary expansion.

However, Tulipmania is not mentioned for the obvious reason that Kindleberger does not believe that an expansion of the supply of money in Amsterdam created Tulipmania. Later in the same chapter, the Bank of Amsterdam is talked about. The bank, at the time of Tulipmania, did not perform credit operations, but only issued notes against deposits of specie. Thus, it’s highly probable that, in Kindleberger’s view, the supply of money did not undergo the sudden increase needed to create a speculative bubble. But in fact the supply of money in Amsterdam had increased dramatically, and that is where our story of Tulipmania begins.