Harley needed to provide a mechanism for funding government debt incurred in the course of that war. However, he could not establish a bank, because the charter of the Bank of England made it the only joint stock bank. He therefore established what, on its face, was a trading company, though its main activity was in fact the funding of government debt.
In return for its exclusive trading rights the government saw an opportunity for a profitable trade-off. The government and the company convinced the holders of around £10 million of short-term government debt to exchange it with a new issue of stock in the company. In exchange, the government granted the company a perpetual annuity from the government paying £576,534 annually on the company's books, or a perpetual loan of £10 million paying 6 percent. This guaranteed the new equity owners a steady stream of earnings to this new venture. The government thought it was in a win-win situation because it would fund the interest payment by placing a tariff on the goods brought from South America.
The Treaty of Utrecht of 1713 granted the company the right to send one trading ship per year, the Navío de Permiso (though this was in practice accompanied by two "tenders"), as well as the Asiento, the contract to supply the Spanish colonies with slaves.
The purpose of this conversion was similar to the old one: it would allow a conversion of high-interest but difficult-to-trade debt into low-interest, readily marketable debt and shares of the South Sea Company. All parties could gain.
In summary, the total government debt in 1719 was £50 million:
The Bank of England proposed a similar competing offer, which did not prevail when the South Sea Company raised its bid to £7.5m (plus approximately £1.3m in bribes). The proposal was accepted in a slightly altered form in April 1720. The Chancellor of the Exchequer, John Aislabie, was a strong supporter of the scheme.
Crucial in this conversion was the proportion of holders of irredeemable annuities that could be tempted to convert their securities at a high price for the new shares. (Holders of redeemable debt had effectively no other choice but to subscribe.) The South Sea Company could set the conversion price but could not diverge much from the market price of its shares.
The company ultimately acquired 85% of the redeemables and 80% of the irredeemables.
The company then set to talking up its stock with "the most extravagant rumours" of the value of its potential trade in the New World which was followed by a wave of "speculating frenzy". The share price had risen from the time the scheme was proposed: from £128 in January 1720, to £175 in February, £330 in March and, following the scheme's acceptance, to £550 at the end of May.
What may have supported the company's high multiples (its P/E ratio) was a fund of credit (known to the market) of £70 million available for commercial expansion which had been made available through substantial support, apparently, by Parliament and the King.
Shares in the company were "sold" to politicians at the current market price; however, rather than paying for the shares, these recipients simply held on to what shares they had been offered, with the option of selling them back to the company when and as they chose, receiving as "profit" the increase in market price. This method, while winning over the heads of government, the King's mistress, etc., also had the advantage of binding their interests to the interests of the Company: in order to secure their own profits, they had to help drive up the stock. Meanwhile, by publicizing the names of their elite stockholders, the Company managed to clothe itself in an aura of legitimacy, which attracted and kept other buyers.
In June, 1720, an Act of Parliament was passed to control the Bubbles, requiring all new joint-stock companies to be incorporated by Act of Parliament or Royal Charter. This was commonly known as the "Bubble Act". It authorised incorporation of Royal Exchange Assurance and the London Assurance Corporation, so that the short title given to the act was the Royal Exchange and London Assurance Corporation Act 1719. The prohibition on unauthorised joint stock ventures was not repealed until 1825.
The passing of the Act added a boost to the South Sea Company, its shares leaping to £890 in early June. This peak encouraged people to start to sell; to counterbalance this the company's directors ordered their agents to buy, which succeeded in propping the price up at around £750.
The price of the stock went up over the course of a single year from about one hundred pounds a share to almost one thousand pounds per share. Its success caused a country-wide frenzy as all types of people—from peasants to lords—developed a feverish interest in investing; in South Seas primarily, but in stocks generally. Among the many companies to go public in 1720 is—famously—one that advertised itself as "a company for carrying out an undertaking of great advantage, but nobody to know what it is".
The price finally reached £1,000 in early August and the level of selling was such that the price started to fall, dropping back to one hundred pounds per share before the year was out, triggering bankruptcies amongst those who had bought on credit, and increasing selling, even short selling—selling borrowed shares in the hope of buying them back at a profit if the price falls.
Also, in August 1720 the first of the installment payments of the first and second money subscriptions on new issues of South Sea stock were due. Earlier in the year John Blunt had come up with an idea to prop up the share price—the company would lend people money to buy its shares. As a result, many shareholders could not pay for their shares other than by selling them.
Furthermore, the scramble for liquidity appeared internationally as "bubbles" were also ending in Amsterdam and Paris. The collapse coincided with the fall of the Mississippi Scheme of John Law in France. As a result, the price of South Sea shares began to decline.
By the end of September the stock had fallen to £150. The company failures now extended to banks and goldsmiths as they could not collect loans made on the stock, and thousands of individuals were ruined, including many members of the aristocracy. With investors outraged, Parliament was recalled in December and an investigation began. Reporting in 1721, it revealed widespread fraud amongst the company directors and corruption in the Cabinet. Among those implicated were John Aislabie (the Chancellor of the Exchequer), James Craggs the Elder (the Postmaster General), James Craggs the Younger (the Southern Secretary), and even Lord Stanhope and Lord Sunderland (the heads of the Ministry). Craggs the Elder and Craggs the Younger both died in disgrace; the remainder were impeached for their corruption. Aislabie was imprisoned.
The newly appointed First Lord of the Treasury Robert Walpole was forced to introduce a series of measures to restore public confidence. Under the guidance of Walpole, Parliament attempted to deal with the financial crisis. The estates of the directors of the company were confiscated and used to relieve the suffering of the victims, and the stock of the South Sea Company was divided between the Bank of England and East India Company. A resolution was proposed in parliament that bankers be tied up in sacks filled with snakes and tipped into the murky Thames. The crisis had significantly damaged the credibility of King George I and of the Whig Party.
The British Parliament confirmed that a British Arctic "whale-fishery" would continue to benefit by freedom from Customs duties and in 1724 the South Sea Company decided to commence whaling. They had 12 whale-ships built on the River Thames and these went to the Greenland seas in 1725. Further ships were built in later years, but the venture was not successful. At this time there were hardly any experienced whalemen remaining in Britain and the Company had to engage Dutch and Danish whalemen for the key posts aboard their ships, e.g. all commanding officers and harpooners were hired from the North Frisian island of Föhr. Other costs were badly controlled and the catches remained disappointingly few, even though the Company was sending up to 25 ships to Davis Strait and the Greenland seas in some years. By 1732 the Company had accumulated a net loss of £177,782 from their 8 years of Arctic whaling.
The South Sea Company directors appealed to the British government for further support. Parliament had passed an Act in 1732 that extended the duty-free concessions for a further 9 years. In 1733 an Act was passed that also granted a government subsidy to British Arctic whalers, the first in a long series of such Acts that continued and modified the whaling subsidies throughout the eighteenth century. This, and the subsequent Acts, required the whalers to meet conditions regarding the crewing and equipping of the whale-ships that closely resembled the conditions suggested by Elking in 1722. In spite of the extended duty-free concessions, and the prospect of real subsidies as well, the Court and Directors of the South Sea Company decided that they could not expect to make profits from Arctic whaling. They sent out no more whale-ships after the loss-making 1732 season.
;Fiction . Novel set around the South Sea Company bubble. . Novel set against the background of the South Sea bubble.
Category:Political scandals in the United Kingdom Category:African slave trade Category:Chartered companies Category:Companies established in 1711 Category:Defunct companies of the United Kingdom Category:Economic bubbles Category:Financial crises Category:Georgian era Category:History of banking Category:1711 establishments in Great Britain
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