Narrative
The use of iron rails to facilitate transportation dates back several centuries, beginning as an accessory to coal pits. These early railroads generally involved horse-drawn carts on tram lines, but the use of locomotives began in 1804 in South Wales. The first experience of passenger transport came with the Stockton and Darlington railway, which obtained Parliamentary authorisation in 1821, and was opened in 1825, but most of its revenue was still derived from the transport of coal.
It was left to the Liverpool and Manchester railway, which was first proposed in 1821, and opened in 1830, to be remembered as the first modern passenger railway. Although the railway was a private venture it still required Parliamentary authorisation, mainly because of the need to force landowners to sell the land along the route that the railway was to take. The promotion of the Liverpool and Manchester railway coincided with the speculative mania of the mid-1820s, where the single largest category of investment was in government bonds issued by the newly independent states of Latin America, with mining companies, many of which operated in Latin America, also representing a significant proportion of schemes.
After the end of this speculative period, the economy remained broadly depressed for several years, asset prices declined, and there was little new promotion of railway companies. The mid-1830s saw another period of speculation in which the railway and banking industries were the most prominent, in a period which has been described as the ‘minor Railway Mania’. Railway share prices rose and Parliament authorised 59 new railways in 1836 and 1837. However, railway share prices then fell sharply, and continued to fall for several years.
By the end of 1842 the economy was beginning to recover. The crop of 1842 was about 25 per cent higher than previous years, Prime Minister Robert Peel had reduced the tariff on 750 of 1,200 dutiable items and the Bank of England’s bullion reserve had risen ‘almost without interruption’ since October 1841. The railways promoted during the 1830s mania had been almost entirely completed, traffic began to grow and dividends rose.
The great Railway Mania then ensued, with the prices of railway shares rising by almost 100 per cent, between January 1843 and October 1845.
Displacement
The initial phase of the Railway Mania was associated with strong economic growth, with an historical estimate of GDP suggesting that the economy grew in real terms by 3.1 per cent in 1843, having fallen by 0.7 per cent in 1842. Output was boosted by a period of good weather which resulted in the excellent harvests at the end of 1842 and 1843. There had also been a wider economic recovery, with the Economist commenting that the state of the Budget illustrated the improved state of commerce. Improvements in the banking sector, and the development of an improved transport network, particularly the railways themselves, had also ‘set at liberty an enormous amount of capital,’ by reducing the amount of stock which had to be kept on hand, and by reducing the time goods spent in transit.
There was an increase in the price of a wide range of assets, such as Consols (2.8 per cent), India Stock (3.6 per cent), Bank Stock (8.1 per cent), non-railway shares (8.6 per cent), and railway shares (22.1 per cent), between the beginning and end of 1843. The 3 per cent Consols reached par for the first time for over a century, while the market interest rate had never stayed so long under 2.5 per cent as it did in 1843-44.
The stronger growth in railway share prices must have resulted from some differences between the assets, with the most likely explanation being an increase in the relative payoffs obtained from railway investments. The company meetings of February and March 1844 resulted in the average dividend reaching 4.8 per cent, before a further increase after the meetings of August and September 1844, when they rose to 5.1 per cent. The average then reached 5.9 per cent in March 1845, and 6.1 per cent in September 1845. As the railway dividends were rising, the dividends paid on other securities barely changed. The rate paid on 3.5 per cent government bonds was reduced to 3.25 per cent, whilst the dividends on Consols, Bank Stock and India Stock remained constant. The twenty largest non-railway companies listed on the London Stock Exchange paid a weighted average dividend of 6.4 per cent in January 1843, 6.5 per cent in January 1844, and 6.6 per cent in January 1845.
Momentum
The original causes of the increase in railway share prices continued to operate throughout 1844 and 1845. The harvest of 1844 was even better than previous years, being the largest in bulk and yield since 1834, and estimates of GDP suggest real growth of 5.4 per cent in 1844, and 5.3 per cent in 1845. The money supply may have been given an additional stimulus by the passing of the Bank Charter Act, which came into operation in September 1844. The Economist commented in September 1845 that although one of the original intentions of the Bank Charter Act had been to repress the circulation, and prevent a serious reaction in the money market, the ‘experience of the last year refutes this, never at any former period have greater facilities existed for obtaining money at the lowest rate of interest’.
The expectations of higher railway dividends were fully confirmed at each successive half-yearly meeting, with growth being evident in almost every one of the major companies. The only notable exceptions were those companies already paying a dividend rate of 10 per cent, namely the Liverpool and Manchester, the London and Birmingham, the Grand Junction, and the York and North Midland. Almost all of the remaining companies raised their dividends between 1843 and 1845, with the Manchester and Leeds rising from 5.5 per cent to 7.7 per cent, the Manchester, Bolton and Bury from 2.2 per cent to 5.8 per cent, the Great North of England from 2.5 per cent to 6.0 per cent, the London and South Western from 7.3 per cent to 9.7 per cent, the Great Western from 6.5 per cent to 8.0 per cent, and the London and Brighton from 3.0 per cent to 6.0 per cent. A number of notable amalgamations which had been agreed in 1843 also helped to raise dividends in 1844 and 1845 as they ended damaging price wars between competing lines.
In addition to these variables there were also important feedback effects from the initial increase in the price of railway shares. One of the most visible consequences was the promotion of new railways. By the end of 1843, after the initial increases in railway share prices, there were 63 petitions for new lines to Parliament for consideration in the next year. By the end of 1844, as prices continued to increase, there were a further 199 petitions, and by the end of 1845, the year in which share prices reached their peak, there were another 562 petitions. There were also many other projected companies which never reached the stage of applying for Parliamentary authorisation, with The Times estimating that there were 1,238 new projects in 1845 alone, a figure which itself underestimated the extent of promotion as 335 companies not on this list went on to petition Parliament.
The promotion of new companies also contributed to the use of leverage, as the small initial deposit required on new shares made them act like highly leveraged financial derivatives, and substantially increased the initial return available to subscribers. This made new projects, which may have traded at a small premium relative to nominal value, trade at a significantly higher premium relative to paid up value. The Railway Investment Guide described it as ‘another peculiarity connected with this system, that a man possessed of very little capital to commence with, may at once treble or quadruple it’.
The negative impact of these new companies was delayed during the Mania as there was a considerable lag between the initial promotion, and the beginning of construction and operation. The Economist argued that it was ‘one of their peculiar characteristics but yet not less ultimately dangerous and deceptive on that account, that from the delay of procuring the act and getting it into operation the period when the main bulk of capital is required is remote from that when the greatest excitement and speculation exists, and no immediate check is therefore experienced by calls of capital’.
Another result of the initial rises in the price of railway shares was the capital gains which accrued to existing shareholders. If investors based their expectations of future capital gains on previous capital gains, then this pattern of rising prices would raise investor expectations of future price rises, and increase the expected return.
There was also an increase in media coverage of the railways. Before the Mania there were only three railway newspapers, but by 1845 there were at least twenty in existence. Pamphlets were also published specifically for those interested in railway investment, with titles such as the Short and Sure Guide to Railway Speculation (1845), Railway Investment Guide (1845), Tuck’s Railway Shareholder Manual (1845), and the Railway Shareholders’ Pocket Book and Alamanac (1845). The simple process by which investors could subscribe to new promotions, by responding to advertisements in newspapers, (see advertisements in Railway Times, 1843-45), may also have reduced transaction costs, and increased demand. However, several mainstream newspapers such as The Times maintained a consistently hostile attitude, whilst the Economist argued that it will soon be ‘discovered that a large portion who hold shares have done so only on speculation; that they are unable to pay their calls; and all the weaker undertakings will be suspended for want of capital.’
The expansion of regional share markets, with new markets beginning in several provincial cities, may also have contributed to this decrease in transaction costs, increasing demand further. It is difficult to estimate the extent to which any railway investor had participated in the share market before, but Parliamentary returns list 33,959 individuals who subscribed for shares in new projects which were considered in the 1845 and 1846 sessions of Parliament, which was well above the estimated 11,500 who subscribed to railway projects in the mid-1830s mania. The 1840s figure also underestimates the full number of subscribers as no records were kept of subscribers in the 1846 session who applied for shares with a nominal value under £2,000.
The initial increase in asset prices was also followed by an increase in regulation, which would go on to affect the economy, and the railways in particular. The Railways’ Regulation Act was the result of an extensive Select Committee Investigation which issued six reports in early 1844. When a Bill was proposed it provoked outrage amongst the railway interest, with the Railway Times describing it as the ‘Railway Plunder Bill’ , and the railway directors mounting a sustained campaign against it. After a heated debate an Act was passed which gave the government the option, after 21 years, to purchase a railway for 25 times its annual profits. Alternatively, if annual profits were greater than 10 per cent of par value, the government could revise the fares of a railway if it guaranteed the railways a profit of 10 per cent. Its most immediate effect was to require each railway to run at least one train each weekday for a fare not exceeding one penny per mile.
Tipping Point
An index of all railway shares indicates that share prices doubled between January 1843 and August 1845. Prices remained steady until mid-October 1845, but then began to decline. The tipping point can be regarded as the short period when the upward trend in railway share prices was reversed. The largest daily decline on the all railways index was just 2.7 per cent, but it was the series of declines which ended the Mania, producing a cumulative drop of 18.2 per cent over six weeks by the end of November. The prices of a wide range of other assets also fell during this period, but not by as much as railway shares, with the price of Consols falling by 3.8 per cent, India Stock by 4.4 per cent, Bank Stock by 2.9 per cent, and non-railway shares by 5.8 per cent, between the start of August and the end of November 1845.
One of the major issues at this time was the discovery of the failure of the potato crop, and a generally poor harvest, which would eventually lead to the Irish famine and the repeal of the Corn Laws. The first mentions of the potato blight occurred in the middle of September, with a small reference in The Times, and articles in the Dublin Freeman’s Journal, and the Belfast Newsletter. By the middle of October the extent of the problem was clearly evident. The Economist noted that the question, ‘how are the people to be fed, is becoming urgent at home and abroad.’ The following week they commented that ‘Ireland is threatened with famine and the whole of Great Britain with great scarcity’ . On October 31, Prime Minister Robert Peel called together the Cabinet, and a week later said that he wished to repeal the Corn Laws. However, he was backed by just three other ministers. On December 5, he resigned and the opposition leader, Lord John Russell, was asked to form a government, but the offer was refused and Peel returned to power.
The poor harvest also meant that more grain had to be imported from abroad, some of which had to be paid for in gold. As the Bank Charter Act required any export of gold to result in a reduction of the circulation of notes, this led to a contraction of the money supply, with the notes issued by the Issue department of the Bank of England falling by 7.6 per cent between the beginning of September and the end of November. There was also a substantial decrease in the reserve of the Banking department, which fell by 26.3 per cent during the same period. The decline in the Banking reserve prompted the Bank of England to increase its discount rate from 2.5 per cent to 3.0 per cent on October 16, and then to 3.5 per cent on November 6, 1845.
Although dividends did not fall immediately, with the average actually rising during 1846, they did fall dramatically thereafter, from a peak of 7.2 per cent in July 1847, to just 2.9 per cent by the end of 1850. The relative timing of the falls in share prices and dividends would suggest that investors were able to incorporate some of these future changes into their valuations, well before the dividends had actually changed.
However, the prices of railway shares may also have fallen because of feedback effects, with the promotion of new companies having a particular influence at this time. Companies which had been promoted in 1844 finally obtained Parliamentary sanction in July and August 1845, and began the construction of their lines, which resulted in substantial calls for capital from their shareholders. Between January 1843 and the end of September 1845, an average of £0.3m had been called up each month. In October 1845, £2.0m was called up, with a further £1.3m in November and £1.1m in December, making £4.4m for the last three months of the year, as shown in Figure 4.5. The Times commented that ‘it was the first calls for new lines in progress that immediately precipitated the November panic’.
Meanwhile, the proposed lines, which were to be considered in the 1846 session, were attempting to meet the November 30 deadline for the submission of their proposals to Parliament, which involved raising a 10 per cent deposit from subscribers. The extent of the new promotions, with over 1,000 proposals for new railways, began to raise fears about the impact on the wider economy. If any of these proposed lines were authorised by Parliament, and it was likely that many would be, they would then have to issue more calls. Many of these new lines would also be competing directly with the established railways, which may have reduced expectations of dividends for the original lines, as they would either have to lower fares to compete for traffic, or purchase the proposed lines at considerable expense. Expectations that the construction of so many new lines would have a negative impact on the wider economy, which would in turn have a negative effect on the success of the railways, may also have lowered expectations of future returns.
Decline
Railway share prices stabilised in 1846, with investors neither regaining their former enthusiasm nor conceding to panic. There was a temporary peak in August 1846, which was still 10.0 per cent below the peak of August 1845, but 11.1 per cent above the temporary trough of November 1845. Prices then started to decline, falling 4.3 per cent by the end of 1846, and by a further 27.4 per cent in 1847, 22.6 per cent in 1848, 22.0 per cent in 1849, and 11.7 per cent to April 1850, but then began to recover, finishing December 1850 at 27.6 per cent above their trough.
The economy was affected by another fall in agricultural productivity in 1846 with a particularly bad harvest ending a year in which the Corn Laws had been repealed, the Prime Minister had been replaced, and 4,618 miles of new railways had been authorised. The poor harvest directly reduced the supply of goods, and also led to a contraction of the money supply, as gold was exported to pay for the import of grain which led to an automatic decline in the note issue of the Bank of England, under the terms of the Bank Charter Act. A ‘pressure’ for money was experienced in April 1847 as the Banking reserve of the Bank of England fell, and was only temporarily relieved by an increase in the discount rate and a reduction in discounting.
With the improving weather throughout the summer of 1847 and the arrival of imported grain, the price of wheat fell by over 50 per cent in less than four months. This dramatic fall caused considerable losses to corn speculators who had expected the high prices to be maintained, and the first failures occurred at the start of August 1847. The Bank of England attempted to provide credit, but were limited by the conditions of the Bank Charter Act. To alleviate the Commercial Crisis, as it was called, the Prime Minister, Lord John Russell, and the Chancellor of the Exchequer, Charles Wood, sent a letter in October 1847 to the Bank. This recommended that the Bank of England ‘enlarge the amount of their discounts and advances’, but that the ‘rate of interest should not be less than 8 per cent' and helped to relieve the crisis.
Just a few months later another shock occurred, with the French Revolution of February 1848, which raised concerns about a war with France and civil unrest within Britain. The all railways index responded by falling 7.0 per cent, its single largest weekly fall within this period. The fears of disturbance to Britain were quickly allayed, but railway shares continued to fall until the spring of 1850.
Dividends on railway shares peaked in July 1847 at 7.2 per cent. With the meetings in the second half of 1847 the average dividend began to decline, reaching 6.8 per cent in October 1847. They then fell to 6.3 per cent by April 1848, 5.5 per cent by October 1848, 4.4 per cent by April 1849, 3.5 per cent by October 1849 and April 1850, finishing December 1850 at 2.9 per cent.
The reduction in dividends had various causes, some of which could be regarded as independent of the previous cycle in prices. One such factor may have been the economic downturn. The correlation between economic growth and the performance of the railways led the Economist to admit that, although the railways were not blameless for their own condition, it would ‘not be quite fair if we did not refer to the fact that during the last two years the condition of our commerce has been in the highest degree unfavourable to the success of the railways’.
Doubts about the accounting practices of the railway companies were raised by the revelations of several Committees of Inquiry which were set up by shareholders, mainly in 1849, to investigate allegations about Boards of Directors, and George Hudson, the Railway King, in particular. The investigations found that Hudson had engaged in various dubious practices, including the over-allocation of scrip in new companies to himself, and being involved as a seller in several contracts where companies which he controlled were the buyers. However, the most damaging allegations related to how the accounts of several companies were manipulated. However, there is little evidence to suggest that fraudulent mis-statements were a decisive cause of the increase in dividends experienced during the boom between 1843 and 1845. Even amongst Hudson’s companies the fraud seems to have been aimed at sustaining high dividends during the downturn, and there is little to suggest it was a universal practice.
The new railways almost certainly contributed to the decline in railway dividends, which further reduced expectations and the price of railway shares. By the end of 1848 the effects of these new branch lines were beginning to be felt on dividends, and the extent of future obligations meant that dividends were likely to fall much further. The Economist noted that ‘not only does £130m remain to be called up, but the works which are to be accomplished with it are such that there is little probability of them being profitable’. The Weekly Share List of the London Stock Exchange published an article, which was repeated in The Times, which estimated the damaging impact that future construction could have on dividends. In the week that the Share List article was published the all railways share index fell by 5.8 per cent, its fourth largest weekly fall between 1843 and 1850.
The railways responded by announcing that they would not proceed with much of the construction, with the London and North Western abandoning £4m of the additional £7m which would have been required . The Great Western and London and South Western went on to abandon another £5m . The result of these announcements was immediately felt in the share market. The London and North Western’s shares increased from £106 to £116 in one day. The all railways index experienced its single largest daily gain of 5.4 per cent on October 28, and the single largest weekly gain in the entire sample period, rising by 8.0 per cent.
The structure of the assets issued to finance the new lines meant that calls for capital were equivalent to deleveraging for individual shareholders. Investors had entered a contract to make periodic payments on each asset, with the risk of forfeiture if the payment was not made. The same outcome would have been produced if the investor had borrowed the full nominal cost of the share and made repayments to the lender. The Economist said that ‘every fresh call that was made upon exhausted shareholders was attended by one of two effects – either the shares themselves upon which the call had been made were sold in order to avoid payment, or some other shares were sold in order to raise the money for that purpose.’
The volume of railway construction which had occurred as a result of the Mania was useful to the economy in terms of the social savings which accrued from shorter journey times, but it was not beneficial to railway shareholders. During the subsequent two decades the rises in dividends were modest and rates barely returned to their pre-Mania levels. Previous research has suggested that returns on capital employed, and dividends continued to remain low in the period prior to the First World War.
It was left to the Liverpool and Manchester railway, which was first proposed in 1821, and opened in 1830, to be remembered as the first modern passenger railway. Although the railway was a private venture it still required Parliamentary authorisation, mainly because of the need to force landowners to sell the land along the route that the railway was to take. The promotion of the Liverpool and Manchester railway coincided with the speculative mania of the mid-1820s, where the single largest category of investment was in government bonds issued by the newly independent states of Latin America, with mining companies, many of which operated in Latin America, also representing a significant proportion of schemes.
After the end of this speculative period, the economy remained broadly depressed for several years, asset prices declined, and there was little new promotion of railway companies. The mid-1830s saw another period of speculation in which the railway and banking industries were the most prominent, in a period which has been described as the ‘minor Railway Mania’. Railway share prices rose and Parliament authorised 59 new railways in 1836 and 1837. However, railway share prices then fell sharply, and continued to fall for several years.
By the end of 1842 the economy was beginning to recover. The crop of 1842 was about 25 per cent higher than previous years, Prime Minister Robert Peel had reduced the tariff on 750 of 1,200 dutiable items and the Bank of England’s bullion reserve had risen ‘almost without interruption’ since October 1841. The railways promoted during the 1830s mania had been almost entirely completed, traffic began to grow and dividends rose.
The great Railway Mania then ensued, with the prices of railway shares rising by almost 100 per cent, between January 1843 and October 1845.
Displacement
The initial phase of the Railway Mania was associated with strong economic growth, with an historical estimate of GDP suggesting that the economy grew in real terms by 3.1 per cent in 1843, having fallen by 0.7 per cent in 1842. Output was boosted by a period of good weather which resulted in the excellent harvests at the end of 1842 and 1843. There had also been a wider economic recovery, with the Economist commenting that the state of the Budget illustrated the improved state of commerce. Improvements in the banking sector, and the development of an improved transport network, particularly the railways themselves, had also ‘set at liberty an enormous amount of capital,’ by reducing the amount of stock which had to be kept on hand, and by reducing the time goods spent in transit.
There was an increase in the price of a wide range of assets, such as Consols (2.8 per cent), India Stock (3.6 per cent), Bank Stock (8.1 per cent), non-railway shares (8.6 per cent), and railway shares (22.1 per cent), between the beginning and end of 1843. The 3 per cent Consols reached par for the first time for over a century, while the market interest rate had never stayed so long under 2.5 per cent as it did in 1843-44.
The stronger growth in railway share prices must have resulted from some differences between the assets, with the most likely explanation being an increase in the relative payoffs obtained from railway investments. The company meetings of February and March 1844 resulted in the average dividend reaching 4.8 per cent, before a further increase after the meetings of August and September 1844, when they rose to 5.1 per cent. The average then reached 5.9 per cent in March 1845, and 6.1 per cent in September 1845. As the railway dividends were rising, the dividends paid on other securities barely changed. The rate paid on 3.5 per cent government bonds was reduced to 3.25 per cent, whilst the dividends on Consols, Bank Stock and India Stock remained constant. The twenty largest non-railway companies listed on the London Stock Exchange paid a weighted average dividend of 6.4 per cent in January 1843, 6.5 per cent in January 1844, and 6.6 per cent in January 1845.
Momentum
The original causes of the increase in railway share prices continued to operate throughout 1844 and 1845. The harvest of 1844 was even better than previous years, being the largest in bulk and yield since 1834, and estimates of GDP suggest real growth of 5.4 per cent in 1844, and 5.3 per cent in 1845. The money supply may have been given an additional stimulus by the passing of the Bank Charter Act, which came into operation in September 1844. The Economist commented in September 1845 that although one of the original intentions of the Bank Charter Act had been to repress the circulation, and prevent a serious reaction in the money market, the ‘experience of the last year refutes this, never at any former period have greater facilities existed for obtaining money at the lowest rate of interest’.
The expectations of higher railway dividends were fully confirmed at each successive half-yearly meeting, with growth being evident in almost every one of the major companies. The only notable exceptions were those companies already paying a dividend rate of 10 per cent, namely the Liverpool and Manchester, the London and Birmingham, the Grand Junction, and the York and North Midland. Almost all of the remaining companies raised their dividends between 1843 and 1845, with the Manchester and Leeds rising from 5.5 per cent to 7.7 per cent, the Manchester, Bolton and Bury from 2.2 per cent to 5.8 per cent, the Great North of England from 2.5 per cent to 6.0 per cent, the London and South Western from 7.3 per cent to 9.7 per cent, the Great Western from 6.5 per cent to 8.0 per cent, and the London and Brighton from 3.0 per cent to 6.0 per cent. A number of notable amalgamations which had been agreed in 1843 also helped to raise dividends in 1844 and 1845 as they ended damaging price wars between competing lines.
In addition to these variables there were also important feedback effects from the initial increase in the price of railway shares. One of the most visible consequences was the promotion of new railways. By the end of 1843, after the initial increases in railway share prices, there were 63 petitions for new lines to Parliament for consideration in the next year. By the end of 1844, as prices continued to increase, there were a further 199 petitions, and by the end of 1845, the year in which share prices reached their peak, there were another 562 petitions. There were also many other projected companies which never reached the stage of applying for Parliamentary authorisation, with The Times estimating that there were 1,238 new projects in 1845 alone, a figure which itself underestimated the extent of promotion as 335 companies not on this list went on to petition Parliament.
The promotion of new companies also contributed to the use of leverage, as the small initial deposit required on new shares made them act like highly leveraged financial derivatives, and substantially increased the initial return available to subscribers. This made new projects, which may have traded at a small premium relative to nominal value, trade at a significantly higher premium relative to paid up value. The Railway Investment Guide described it as ‘another peculiarity connected with this system, that a man possessed of very little capital to commence with, may at once treble or quadruple it’.
The negative impact of these new companies was delayed during the Mania as there was a considerable lag between the initial promotion, and the beginning of construction and operation. The Economist argued that it was ‘one of their peculiar characteristics but yet not less ultimately dangerous and deceptive on that account, that from the delay of procuring the act and getting it into operation the period when the main bulk of capital is required is remote from that when the greatest excitement and speculation exists, and no immediate check is therefore experienced by calls of capital’.
Another result of the initial rises in the price of railway shares was the capital gains which accrued to existing shareholders. If investors based their expectations of future capital gains on previous capital gains, then this pattern of rising prices would raise investor expectations of future price rises, and increase the expected return.
There was also an increase in media coverage of the railways. Before the Mania there were only three railway newspapers, but by 1845 there were at least twenty in existence. Pamphlets were also published specifically for those interested in railway investment, with titles such as the Short and Sure Guide to Railway Speculation (1845), Railway Investment Guide (1845), Tuck’s Railway Shareholder Manual (1845), and the Railway Shareholders’ Pocket Book and Alamanac (1845). The simple process by which investors could subscribe to new promotions, by responding to advertisements in newspapers, (see advertisements in Railway Times, 1843-45), may also have reduced transaction costs, and increased demand. However, several mainstream newspapers such as The Times maintained a consistently hostile attitude, whilst the Economist argued that it will soon be ‘discovered that a large portion who hold shares have done so only on speculation; that they are unable to pay their calls; and all the weaker undertakings will be suspended for want of capital.’
The expansion of regional share markets, with new markets beginning in several provincial cities, may also have contributed to this decrease in transaction costs, increasing demand further. It is difficult to estimate the extent to which any railway investor had participated in the share market before, but Parliamentary returns list 33,959 individuals who subscribed for shares in new projects which were considered in the 1845 and 1846 sessions of Parliament, which was well above the estimated 11,500 who subscribed to railway projects in the mid-1830s mania. The 1840s figure also underestimates the full number of subscribers as no records were kept of subscribers in the 1846 session who applied for shares with a nominal value under £2,000.
The initial increase in asset prices was also followed by an increase in regulation, which would go on to affect the economy, and the railways in particular. The Railways’ Regulation Act was the result of an extensive Select Committee Investigation which issued six reports in early 1844. When a Bill was proposed it provoked outrage amongst the railway interest, with the Railway Times describing it as the ‘Railway Plunder Bill’ , and the railway directors mounting a sustained campaign against it. After a heated debate an Act was passed which gave the government the option, after 21 years, to purchase a railway for 25 times its annual profits. Alternatively, if annual profits were greater than 10 per cent of par value, the government could revise the fares of a railway if it guaranteed the railways a profit of 10 per cent. Its most immediate effect was to require each railway to run at least one train each weekday for a fare not exceeding one penny per mile.
Tipping Point
An index of all railway shares indicates that share prices doubled between January 1843 and August 1845. Prices remained steady until mid-October 1845, but then began to decline. The tipping point can be regarded as the short period when the upward trend in railway share prices was reversed. The largest daily decline on the all railways index was just 2.7 per cent, but it was the series of declines which ended the Mania, producing a cumulative drop of 18.2 per cent over six weeks by the end of November. The prices of a wide range of other assets also fell during this period, but not by as much as railway shares, with the price of Consols falling by 3.8 per cent, India Stock by 4.4 per cent, Bank Stock by 2.9 per cent, and non-railway shares by 5.8 per cent, between the start of August and the end of November 1845.
One of the major issues at this time was the discovery of the failure of the potato crop, and a generally poor harvest, which would eventually lead to the Irish famine and the repeal of the Corn Laws. The first mentions of the potato blight occurred in the middle of September, with a small reference in The Times, and articles in the Dublin Freeman’s Journal, and the Belfast Newsletter. By the middle of October the extent of the problem was clearly evident. The Economist noted that the question, ‘how are the people to be fed, is becoming urgent at home and abroad.’ The following week they commented that ‘Ireland is threatened with famine and the whole of Great Britain with great scarcity’ . On October 31, Prime Minister Robert Peel called together the Cabinet, and a week later said that he wished to repeal the Corn Laws. However, he was backed by just three other ministers. On December 5, he resigned and the opposition leader, Lord John Russell, was asked to form a government, but the offer was refused and Peel returned to power.
The poor harvest also meant that more grain had to be imported from abroad, some of which had to be paid for in gold. As the Bank Charter Act required any export of gold to result in a reduction of the circulation of notes, this led to a contraction of the money supply, with the notes issued by the Issue department of the Bank of England falling by 7.6 per cent between the beginning of September and the end of November. There was also a substantial decrease in the reserve of the Banking department, which fell by 26.3 per cent during the same period. The decline in the Banking reserve prompted the Bank of England to increase its discount rate from 2.5 per cent to 3.0 per cent on October 16, and then to 3.5 per cent on November 6, 1845.
Although dividends did not fall immediately, with the average actually rising during 1846, they did fall dramatically thereafter, from a peak of 7.2 per cent in July 1847, to just 2.9 per cent by the end of 1850. The relative timing of the falls in share prices and dividends would suggest that investors were able to incorporate some of these future changes into their valuations, well before the dividends had actually changed.
However, the prices of railway shares may also have fallen because of feedback effects, with the promotion of new companies having a particular influence at this time. Companies which had been promoted in 1844 finally obtained Parliamentary sanction in July and August 1845, and began the construction of their lines, which resulted in substantial calls for capital from their shareholders. Between January 1843 and the end of September 1845, an average of £0.3m had been called up each month. In October 1845, £2.0m was called up, with a further £1.3m in November and £1.1m in December, making £4.4m for the last three months of the year, as shown in Figure 4.5. The Times commented that ‘it was the first calls for new lines in progress that immediately precipitated the November panic’.
Meanwhile, the proposed lines, which were to be considered in the 1846 session, were attempting to meet the November 30 deadline for the submission of their proposals to Parliament, which involved raising a 10 per cent deposit from subscribers. The extent of the new promotions, with over 1,000 proposals for new railways, began to raise fears about the impact on the wider economy. If any of these proposed lines were authorised by Parliament, and it was likely that many would be, they would then have to issue more calls. Many of these new lines would also be competing directly with the established railways, which may have reduced expectations of dividends for the original lines, as they would either have to lower fares to compete for traffic, or purchase the proposed lines at considerable expense. Expectations that the construction of so many new lines would have a negative impact on the wider economy, which would in turn have a negative effect on the success of the railways, may also have lowered expectations of future returns.
Decline
Railway share prices stabilised in 1846, with investors neither regaining their former enthusiasm nor conceding to panic. There was a temporary peak in August 1846, which was still 10.0 per cent below the peak of August 1845, but 11.1 per cent above the temporary trough of November 1845. Prices then started to decline, falling 4.3 per cent by the end of 1846, and by a further 27.4 per cent in 1847, 22.6 per cent in 1848, 22.0 per cent in 1849, and 11.7 per cent to April 1850, but then began to recover, finishing December 1850 at 27.6 per cent above their trough.
The economy was affected by another fall in agricultural productivity in 1846 with a particularly bad harvest ending a year in which the Corn Laws had been repealed, the Prime Minister had been replaced, and 4,618 miles of new railways had been authorised. The poor harvest directly reduced the supply of goods, and also led to a contraction of the money supply, as gold was exported to pay for the import of grain which led to an automatic decline in the note issue of the Bank of England, under the terms of the Bank Charter Act. A ‘pressure’ for money was experienced in April 1847 as the Banking reserve of the Bank of England fell, and was only temporarily relieved by an increase in the discount rate and a reduction in discounting.
With the improving weather throughout the summer of 1847 and the arrival of imported grain, the price of wheat fell by over 50 per cent in less than four months. This dramatic fall caused considerable losses to corn speculators who had expected the high prices to be maintained, and the first failures occurred at the start of August 1847. The Bank of England attempted to provide credit, but were limited by the conditions of the Bank Charter Act. To alleviate the Commercial Crisis, as it was called, the Prime Minister, Lord John Russell, and the Chancellor of the Exchequer, Charles Wood, sent a letter in October 1847 to the Bank. This recommended that the Bank of England ‘enlarge the amount of their discounts and advances’, but that the ‘rate of interest should not be less than 8 per cent' and helped to relieve the crisis.
Just a few months later another shock occurred, with the French Revolution of February 1848, which raised concerns about a war with France and civil unrest within Britain. The all railways index responded by falling 7.0 per cent, its single largest weekly fall within this period. The fears of disturbance to Britain were quickly allayed, but railway shares continued to fall until the spring of 1850.
Dividends on railway shares peaked in July 1847 at 7.2 per cent. With the meetings in the second half of 1847 the average dividend began to decline, reaching 6.8 per cent in October 1847. They then fell to 6.3 per cent by April 1848, 5.5 per cent by October 1848, 4.4 per cent by April 1849, 3.5 per cent by October 1849 and April 1850, finishing December 1850 at 2.9 per cent.
The reduction in dividends had various causes, some of which could be regarded as independent of the previous cycle in prices. One such factor may have been the economic downturn. The correlation between economic growth and the performance of the railways led the Economist to admit that, although the railways were not blameless for their own condition, it would ‘not be quite fair if we did not refer to the fact that during the last two years the condition of our commerce has been in the highest degree unfavourable to the success of the railways’.
Doubts about the accounting practices of the railway companies were raised by the revelations of several Committees of Inquiry which were set up by shareholders, mainly in 1849, to investigate allegations about Boards of Directors, and George Hudson, the Railway King, in particular. The investigations found that Hudson had engaged in various dubious practices, including the over-allocation of scrip in new companies to himself, and being involved as a seller in several contracts where companies which he controlled were the buyers. However, the most damaging allegations related to how the accounts of several companies were manipulated. However, there is little evidence to suggest that fraudulent mis-statements were a decisive cause of the increase in dividends experienced during the boom between 1843 and 1845. Even amongst Hudson’s companies the fraud seems to have been aimed at sustaining high dividends during the downturn, and there is little to suggest it was a universal practice.
The new railways almost certainly contributed to the decline in railway dividends, which further reduced expectations and the price of railway shares. By the end of 1848 the effects of these new branch lines were beginning to be felt on dividends, and the extent of future obligations meant that dividends were likely to fall much further. The Economist noted that ‘not only does £130m remain to be called up, but the works which are to be accomplished with it are such that there is little probability of them being profitable’. The Weekly Share List of the London Stock Exchange published an article, which was repeated in The Times, which estimated the damaging impact that future construction could have on dividends. In the week that the Share List article was published the all railways share index fell by 5.8 per cent, its fourth largest weekly fall between 1843 and 1850.
The railways responded by announcing that they would not proceed with much of the construction, with the London and North Western abandoning £4m of the additional £7m which would have been required . The Great Western and London and South Western went on to abandon another £5m . The result of these announcements was immediately felt in the share market. The London and North Western’s shares increased from £106 to £116 in one day. The all railways index experienced its single largest daily gain of 5.4 per cent on October 28, and the single largest weekly gain in the entire sample period, rising by 8.0 per cent.
The structure of the assets issued to finance the new lines meant that calls for capital were equivalent to deleveraging for individual shareholders. Investors had entered a contract to make periodic payments on each asset, with the risk of forfeiture if the payment was not made. The same outcome would have been produced if the investor had borrowed the full nominal cost of the share and made repayments to the lender. The Economist said that ‘every fresh call that was made upon exhausted shareholders was attended by one of two effects – either the shares themselves upon which the call had been made were sold in order to avoid payment, or some other shares were sold in order to raise the money for that purpose.’
The volume of railway construction which had occurred as a result of the Mania was useful to the economy in terms of the social savings which accrued from shorter journey times, but it was not beneficial to railway shareholders. During the subsequent two decades the rises in dividends were modest and rates barely returned to their pre-Mania levels. Previous research has suggested that returns on capital employed, and dividends continued to remain low in the period prior to the First World War.
