The Tulip-Bulb Craze
The tulip-bulb craze was one of the most spectacular get-rich-quick binges in history. Its excesses become even more vivid when one realizes that it happened in staid old Holland in the early seventeenth century. The events leading to this speculative frenzy were set in motion in 1593, when a newly appointed botany professor from Vienna brought to Leyden a collection of unusual plants that had originated in Turkey. The Dutch were fascinated with this new addition to the garden – but not with the professor’s asking price (he had hoped to sell the bulbs and make a handsome profit). One night a thief broke into the professor’s house and stole the bulbs, which were subsequently sold at a lower price but at greater profit.
Over the next decade or so the tulip became a popular but expensive item in Dutch gardens. Many of these flowers succumbed to a nonfatal virus known as mosaic. It was this mosaic that helped to trigger the wild speculation in tulip bulbs. The virus caused the tulip petals to develop contrasting colored stripes or “flames”. The Dutch valued highly these infected bulbs, called “bizarres”. In a short time, popular taste dictated that the more bizarre a bulb, the greater the cost of owning it.
Slowly, tulipmania set in. At first, bulb merchants simply tried to predict the most popular variegated style for the coming year, much as clothing manufacturers do in gauging the public’s taste in fabric, color and hemlines. Then they would buy an extra-large stockpile to anticipate a rise in price. Tulip-bulb prices began to rise wildly. The more expensive the bulbs became, the more people viewed them as smart investments. Charles Mackay, who chronicled these events in his book Memoirs of Extraordinary Popular Delusions, noted that the ordinary industry of the country was dropped in favor of speculation in tulip bulbs: “Nobles, citizens, farmers, mechanics, seamen, footmen, maid-servants, even chimney sweeps and old clotheswomen dabbled in tulips”. Everyone imagined that the passion for tulips would last forever and buyers from all over the world would come to Holland and pay whatever prices were asked for them.
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| Red Tulips. Photo by Elena |
People who said the prices could not possibly go higher watched with chagrin as their friends and relatives made enormous profits. The temptation to join them was hard to resist; few Dutchmen did. In the last year of the tulip spree, which lasted approximately from 1634 to 1637, people started to barter even their personal belongings, such as land, jewels, and furniture, to obtain the bulbs that would make them even wealthier.
Part of the genius of financial markets is that, when there is a real demand for a method to enhance speculative opportunities, the market will surely provide it. The instruments that enabled tulip speculators to get the most action for their money were “call options” similar to those popular today in the stock market.
A call option conferred on the holder the right to buy tulip bulbs (call for their delivery) at a fixed price (usually approximating the current market price) during a specified period. He was charged an amount called the option premium, which might run 15 to 20 percent of the current market price. An option on a tulip bulb currently with 100 guilders, for example, would cost the buyer only about 20 guilders. \if the price moved up to 200 guilders, the option holder would exercise would exercise his right; he would buy at 100 and simultaneously sell at the then current price of 200. The holder then had a profit of 80 guilders (the 100 guilders’ appreciation less the 20 guilders he paid for the option). Thus he enjoyed a fourfold increase in his money, whereas an outright purchase would only have doubled his money. By using the call option it was possible to play the market with a much smaller stake as well as get more action out of any money invested. The call is one way to leverage one’s investment. Leveraging is any technique that increases the potential rewards and risks of an investment. Such devices helped to ensure broad participation in the market. The same is true today.
The history of the period was filled with tragicomic episodes. One such incident concerned a returning sailor who brought news to a wealthy merchant of the arrival of a shipment of new goods. The merchant rewarded him with a breakfast of fine red herring. Seeing what he thought was an onion on the merchant’s counter, and no doubt thinking it very much out of place amid silks and velvets, the sailor proceeded to take it as a relish for his herring. Little did he dream that the “onion” would have fed a whole ship’s crew for a year. It was a costly Semper Augustus tulip bulb. The sailor paid dearly for his relish – his no longer grateful host had him imprisoned for several months on a felony charge.
We do not mean to imply that there was no rationality at all to the structure of bulb prices that existed during the period. The Semper Augustus, for example, was a particularly rare and beautiful bulb and, as economic historian Peter Garver reveals, it was valued greatly even in the years before the tulipmania. Moreover, Garver’s research indicates that rare individual bulbs commanded high prices even after the general collapse of bulb prices, albeit at levels that were only a fraction of their peak prices. But Garber can find no rational explanation for such phenomena as a twenty-fold increase in tulip-bulb prices during January of 1637 followed by an even larger decline in prices in February. Apparently, as happens in all speculative crazes, prices eventually got so high that some people decided they would be prudent and sell their bulbs. Soon others followed suit. Like a snowball rolling downhill, bulb deflation grew at an increasingly rapid pace, and in no time at all panic reigned.
Government ministers stated officially that there was no reason for tulip bulbs to fall in price – but no one listened. Dealers went bankrupt and refused to honor their commitments to buy tulip bulbs. A government plan to settle all contracts at 10 percent of their face value was frustrated when bulbs fell even below this mark. And prices continued to decline. Down and down they went until most bulbs became almost worthless – selling for no more than the price of a common onion.
And what of those who had sold out early in the game? In the end, they too were engulfed by the tulip craze. For the final chapter of this bizarre story is that the shock generated by the boom and collapse was followed by a prolonged depression in Holland. No one was spared.
Sources:
Burton G. Malkiel. A Random Walk Down Wall Street, including a life-cycle guide to personal investing. First edition, 1973, by W.W. Norton and company, Inc.
