Global Business News
Dutch Tulip Bulb Market Bubble
One of the most famous market bubbles of all time, which occurred in Holland during the early 1600s when speculation drove the value of tulip bulbs to extremes. At the height of the market, the rarest tulip bulbs traded for as much as six times the average person's annual salary.
Introduction:
What is a "Bubble"?
A bubble is a type of investing phenomenon that demonstrates the flaw of some aspects of human emotion. A bubble occurs when investors put so much demand on a stock that they drive the price beyond any accurate/rational reflection of its actual worth, which should be determined by the performance of the underlying company. Like the soap bubbles a child likes to blow, investing bubbles often appear as though they will rise forever, but since they are not formed from anything substantial, they eventually pop. And when they do, the money that was invested into them dissipates into the wind. Attempting to avoid more losses, investors during a crash are panic selling, hoping to unload their declining stocks onto other investors. This panic selling contributes to the declining market, which eventually crashes and affects everyone and often leading to a depression.
One of the most famous historical examples of an asset bubble is the so-called "tulipmania" in the Netherlands during the 1630s. Contemporary examples include the dot-com bubble in the late 1990s, and the real estate bubble in the U.S. in the late 2000s.
What Does Tulipmania Mean?
Tulipmania was the first major financial bubble. Investors began to madly purchase tulips, pushing their prices to unprecedented highs; the average price of a single flower exceeded the annual income of a skilled workers. Tulips sold for over 4000 florins, the currency of the Netherlands at the time. As prices drastically collapsed over the course of a week, many tulip holders instantly went bankrupt.
Tulipmania:
When, Where, & Why Did it Occur?
In 1593, botanist Carolus Clusius brought tulips from Turkey and introduced to the Dutch. The novelty of the exotic flower made it widely sought after and therefore fairly pricey. This started the Dutch tulip trade. Over the next seventy years the tulips increased dramatically in popularity and price. Thus, tulips, which were already selling at a premium, began to rise in price according to how their virus alterations were valued/desired. At the peak of tulip mania, in February 1637, some single tulip bulbs sold for more than 10 times the annual income of a skilled craftsman and began trading on exchanges, such as the London Exchange in numerous Dutch cities and towns. This encouraged trading in tulips by all members of society who either sold/traded their other possessions in order to speculate in the tulip market which eventually led to the "Speculation Bubble".
What is a "Speculation Bubble"?
A spike in asset values within a particular industry. Speculative bubbles have a long history in world markets. Finance theories suggest that people invest so as to not "miss the boat" on high returns gained by others. It’s caused by exaggerated expectations of future growth, price appreciation, or other events that could cause an increase in asset values. This drives trading volumes higher, and as more investors rally around the heightened expectation, buyers outnumber sellers, pushing prices beyond what an objective analysis of essential value would suggest
The bubble is not completed until prices fall back down to normalized levels; this usually involves a period of steep decline in price during which most investors panic and sell out of their investments. In our modern financial markets, speculators can often make profitable bets when speculative bubbles burst by purchasing derivatives or shorting securities directly.
The Speculation Bubble of Tulipmania
People were purchasing bulbs at higher and higher prices, intending to re-sell them for a profit. However, such a scheme could not last unless someone was ultimately willing to pay such high prices and take possession of the bulbs. As tulip traders could no longer find new buyers willing to pay increasingly inflated prices for their bulbs. As this realization set in, the demand for tulips collapsed, and prices plummeted—the speculative bubble burst. Some were left holding contracts to purchase tulips at prices now ten times greater than those on the open market, while others found themselves in possession of bulbs now worth a fraction of the price they had paid.
The panicked tulip speculators sought help from the government of the Netherlands, which responded by declaring to halt the crash by offering to honor contracts at 10% of the face value, but then the market plunged even lower, making such restitution impossible.
The mania finally ended with individuals stuck with the bulbs they held at the end of the crash—no court would enforce payment of a contract, since judges regarded the debts as contracted through gambling, and thus not enforceable by law.