After the American Civil War, the United States government took steps to ensure that the Pacific coast was connected to the East by railroad. The Union and Central Pacific Railroads, working from the East and West, respectively, were granted large federal subsidies to encourage the completion of the massive project as quickly as possible. Speculators hoping to take advantage of the railroad craze constructed 35,000 miles of new track between 1866 and 1873, and the huge investments caused an unnatural rise in the price of railroad stock. A coalition of speculators, including Civil War financier Jay Cooke and Company, financed the construction of a second Continental Railroad, the Northern Pacific railway.
As often happens in such matters, the success or failure of the project depended on factors outside of any coalition’s control. As financial officer for the Northern Pacific, Jay Cooke stood to make a substantial profit by the purchase and later sale of the railway’s stock. He was also obligated to advance the railroad company $500,000 in order to assure that construction went forward. In 1873, the American stock market was becoming dangerously unstable, stemming largely from the influx of new railroad bonds. As the market was flooded with these bonds, the price of each individual bond went down, so that the bulk of the Northern Pacific stock being hawked by Jay Cooke and Company remained unsold. Unable to raise enough capital to pay back debts, on September 18, 1873, Jay Cooke was forced to close his own firm and declare bankruptcy.
Cooke’s ill fortune caused a chain reaction of bank failures and forced the New York Stock Exchange to close down for ten days. The Panic of 1873, as the fiasco would come to be called, would ultimately result in a depression that lasted until 1879, falling wages, and an unemployment rate of 14%. Labor demonstrations and class tensions became commonplace, as did calls for greater government regulation of railroads and restrictions on monopolies.
A more detailed analysis of the similarities and differences between the Panic of 1873 and the 2008 Financial Crisis is outside the scope of this blog, but the narrative of 1873 will strike a chord with anyone who keeps up on current events. Here’s hoping that we will have learned something from both of these crises the next time the spiral comes around.