A BRIEF HISTORY OF LEGISLATIVE ATTEMPTS TO RESTRAIN OR SUPPRESS
SPECULATION
In the Middle Ages the notion prevailed that there was a just and
equitable price for everything, and that any person who tried to obtain
more than this price was a sinner. Trade for gain was anathema; the
man who bought the principal commodities of that time, such as corn
or herrings, with a view to selling them at a profit, was guilty of
“craft and sublety”--as the old English statutes read--that infallibly
cost him his goods and brought him to the pillory. Thus in the year
1311 one Thomas Lespicer of Portsmouth was caught red-handed in London
with six pots of Nantes lampreys stored in a fishmonger’s cellar in
the hope of a rising market. The law required that when he arrived in
London from Portsmouth with his lampreys he should proceed to the open
market under the wall of St. Margaret’s Church in Bridge Street, and
stand there four days selling at current prices to any one who cared to
buy. His failure to do so, and his wickedness in attempting to “bull”
the lamprey market by hiding them in the fishmonger’s cellar, resulted
in the arrest of himself and the fishmonger, and their trial and
punishment at the hands of the Mayor and Alderman.
Professor W. T. Ashley, who cites this incident in his “Introduction to
English Economic History and Theory” (London 1892), also gives another
instance in which our modern theories of natural rights and freedom
of contract seem to be in hopeless conflict. John-at-Wood, a baker,
was arrested in 1364 charged with the profane practice of “bulling”
wheat. “Whereas one Robert de Cawode,” the indictment reads, “had two
quarters of wheat for sale in common market on the pavement within
Newgate; he, the said John, cunningly and by secret words whispering
in his ear, fraudulently withdrew Cawode out of the common market, and
they went together into the Church of the Friars Minor, and there John
bought the two quarters at 15½d per bushel, being 2½d over the common
selling price at that time in the market, to the great loss and deceit
of the common people, and to the increase of the dearness of wheat.”
At-Wood denied this heinous offence and “put himself on the country,”
whereupon a jury was empanelled, which gave a verdict that At-Wood had
not only thus bought the grain, but that he had afterward returned
to the market and boasted of his crime, and “this he said and did to
increase the dearness of wheat.” Accordingly he was sentenced to be put
in the pillory for three hours, and one of the sheriffs was directed
to see the sentence executed and proclamation made of the cause of the
punishment.
So far as I am aware the Statutes of Henry III and Edward I, under
which these culprits were punished, constitute the earliest official
attempts to repress speculation by law. After the Revolution, the Bank
of England having been organized and bank shares created, a speculative
outburst occurred that led to the enactment of fresh legislation
entitled “An act to restrain the numbers and ill practices of brokers
and stock-jobbers,”[78] but this law lapsed or was repealed ten years
later. In 1707 a law was passed licensing brokers and making it
unlawful for unlicensed brokers to do business,[79] and in 1708 City
rules were established for brokers, obliging them to give bonds for the
proper performance of their duties. In 1711, 1713, and 1719, laws were
enacted similar to the Act of 1707.
Then came the speculative schemes of 1720, of which the most famous or
infamous was the South Sea Company, designed to make fortunes for its
shareholders in the slave-trade and in whale fishing. It was followed
by many other projects almost fantastic in their wildness to each of
which the public subscribed liberally. Where all the money came from
that kept this disastrous speculative mania alive is something one
would like to know. There seems to have been no limit to it. South Sea
shares stood at 120 in April of 1720; in July they had reached 1020,
and, after that, the collapse. The company became a “bubble,” and a
burst one at that--and a great popular outcry followed. It resulted, in
1734, in the passage of Sir John Barnard’s “Act to Prevent the Infamous
Practice of Stock-Jobbing,” the preamble reciting:
“Whereas, great inconveniences have arisen, and do daily arise, by
the wicked, pernicious, and destructive practice of stock-jobbing,
whereby many of His Majesty’s good subjects have been and are
diverted from pursuing and exercising their lawful trades and
vocations to the utter ruin of themselves and their families, to
the great discouragement of industry, and to the manifest detriment
of trade and commerce.”
This act forbade bargains for puts and calls, and also “the evil
practice of compounding or making up differences”; but its principal
provision was the prohibition of short selling under penalty of £100
for each transaction. There was, of course, an appeal to the courts,
which held that the statute did not apply to foreign stocks nor to
shares in companies, but only to English public stocks, a decision that
effectually put an end to the usefulness of the law. It remained on the
statute books, however, and it was occasionally resorted to by persons
who sought to evade the fulfillment of their speculative contracts--a
class of persons known to-day as “welchers.”
Finally, in 1860, the law was repealed altogether, the repeal act
reciting that Sir John Barnard’s Act “imposed unnecessary restrictions
on the making of contracts for sale, and transfer of public stocks and
securities.” Thus the first serious attempt to regulate speculation in
securities by law, and specifically to prohibit short selling, came to
be recognized as a failure by the frank admission of government. In
1867 the so-called Leeman Act became law, prohibiting all sales of bank
stock unless the numbers of the certificates sold were specified--an
attempt to prevent short selling of bank stock. Even this law was
subsequently repealed, and England, to-day, has no law on the statute
books restricting speculation.
As the London Stock Exchange grew in influence and importance,
reflecting England’s development as the world’s banker, popular attack
and criticism continued to assail it. It may be frankly admitted that
the legitimate functions of the institution had been abused by foolish
or unscrupulous persons, just as every important branch of business and
politics has been misused, the world over, since civilization began.
The question therefore arose whether these occasional sharp practices
proved the Exchange to be an excrescence on the body politic, or
whether, on the other hand, its importance in the mechanism of modern
business merely required improvements and reforms. In this situation,
which occurred in 1877, and which caused considerable agitation on
the part of both parties to the controversy, a royal commission was
appointed “to inquire into the origin, objects, present constitution,
customs, and usages of the London Stock Exchange.” The Exchange and its
critics thus reached the parting of the ways. A year was spent by the
commission in examining witnesses and conducting investigations along
special lines, and in 1878 its report, with the evidence, was published
in a Parliamentary Blue Book.
The report absolutely upheld the purposes and functions of the Stock
Exchange and the legitimacy of speculation in securities, and it went
further in pointing out the danger of attempting to force any form
of external control on the institution. The evils of that form of
Stock Exchange speculation which closely approaches mere gambling were
plainly stated, and the report suggested that the Exchange authorities
restrain such practice in so far as was possible.
As the conclusions of the royal commission are of very great
importance, marking as they do the first serious official study in
modern times of the Stock Exchange theory, I quote from the Blue Book
in the hope that Stock Exchange critics of to-day may understand how
these conclusions were reached. “In the main,” reads the report, “the
existence of the Stock Exchange and the coercive action of the rules
which it enforces upon the transaction of business and upon the conduct
of its members has been salutary to the interests of the public. We
wish to express our conviction that any external control which might
be introduced by such a change should be exercised with a sparing
hand. The existing body of rules and regulations have been formed with
much care, and are the result of the long experience and vigilant
attention of a body of persons intimately acquainted with the needs
and exigencies of the community for whom they have legislated. Any
attempt to reduce this rule to the limits of the ordinary laws of the
land, or to abolish all checks and safeguards not to be found in that
law, would, in our opinion, be detrimental to the honest and efficient
control of business.”
In 1909 similar criticism in New York having led to the appointment of
the Hughes Commission to inquire “what changes, if any, are advisable
in the laws of the State bearing upon speculation in securities and
commodities, or relating to the protection of investors, or with
regard to the instrumentalities and organizations used in dealings in
securities and commodities, which are the subject of speculation,” the
commission reported to the Governor, after six months of laborious
investigation, in these words:
“Speculation in some form is a necessary incident of productive
operation. When carried on in connection with either commodities
or securities it tends to steady their prices. Where speculation
is free, fluctuations in prices, otherwise violent and disastrous,
ordinarily become gradual and comparatively harmless. For the
merchant or manufacturer speculation performs a service which has
the effect of insurance. The most fruitful policy will be found in
measures which will lessen speculation by persons not qualified
to engage in it. In carrying out such a policy exchanges can
accomplish more than legislation. We are unable to see how a State
could distinguish by law between proper and improper transactions,
since the forms and the mechanisms used are identical. Rigid
statutes directed against the latter would seriously interfere
with the former. Purchasing securities on margin is as legitimate
a transaction as the purchase of any property in which part
payment is deferred. We, therefore, see no reason whatsoever for
recommending the radical change suggested that margin trading be
prohibited.”
Here are two reports at an interval of thirty-one years, made by
independent investigators of high character, concerning the two
foremost Stock Exchanges in the world. Both of these reports recommend
changes and improvements, and each is firmly of opinion that the
changes recommended are such as can be carried out by the Stock
Exchanges themselves without the assistance or interference of the
legislature.
As the London Stock Exchange is a voluntary association similar to
that in New York, it was inevitable that the question of incorporation
should have been brought before the royal commission of 1877, and that
the question as to whether the public interest would be promoted by
such incorporation should be given careful attention. As a result of
these deliberations, a majority of the commission recommended that the
London Stock Exchange should voluntarily apply for a royal charter or
act of incorporation, but the reasons upon which this recommendation
were based had to do with the temporary or shifting character of the
membership, which gave very little assurance to the public of the
permanence and stability of the rules, since members of the London
Stock Exchange are only elected for one year. It need scarcely be added
that such an argument would not apply to the New York Stock Exchange.
Now it so happened that, despite this opinion by the royal commission,
the London Exchange was not compelled to incorporate, and remains
to-day a purely voluntary association or club. The reason for this
lies, in large measure, in the very intelligent minority opinions filed
with the Board’s report by those of its members who dissented from the
recommendation. As this is a matter of interest to members and friends
of the New York Stock Exchange, I give herewith the substance of these
dissenting opinions, calling the reader’s attention to the fact that
the Hughes Commission of 1909 rejected similar proposals regarding the
New York Stock Exchange.[80] The Hon. Edward Stanhope, M. P., said,
regarding the proposed application for a charter:
“Supposing such an application to be made, and Parliament to be
prepared to incorporate the Stock Exchange on the terms which are
embodied in the report, the consequence would be that rules so
established would be stereotyped, and could only be altered, even
in the minutest details, with the approval of a department of the
State. In my opinion this requirement would be either mischievous
or nugatory. To attempt to regulate the manner in which business
is conducted in the great money market of England is going far
beyond the province of the State, nor is any government department
in any way qualified to undertake it. The report, indeed,
recommends that external control should be exercised with a sparing
hand. But experience seems to show that the first commercial
crisis, or the discovery of any gigantic fraud, would cause a
pressure for further restrictions which the department entrusted
with these duties could not possibly withstand. If incorporation
is to be anything more than a theory, it seems to me that it must
either be imposed compulsory upon the Stock Exchange, or it must be
offered to them on terms which will make it worth their while to
accept it. The first alternative I reject, for the reason given by
the select committee on foreign loans, that it would destroy that
freedom which is the life and soul of the institution. If, however,
any voluntary scheme commends itself to the opinion of the Stock
Exchange, its primary condition should be to reserve to that body
absolute liberty in the transaction of their ordinary business (as
to which we are all of opinion that, speaking generally, no just
fault can reasonably be found), and also the power of adapting
their rules, with the utmost ease and freedom, to the varying wants
of the time.”
Mr. S. R. Scott of the dissenting minority was even more emphatic in
his objections to incorporation. He said:
“In fixing my name to this report, I desire to make the
reservations following: 1. With regard to incorporation, I object
to recommend it for the following reasons: Hitherto, the Stock
Exchange has been carried on with great success as a voluntary
association, and has had a vigorous growth. It has not enjoyed a
single legal privilege, yet it has thriven and the public have
neglected more than one effort to establish an open market to
resort to it for business, and to give it exclusive confidence.
This royal commission has been sitting more than twelve months,
yet no important or reliable evidence has been volunteered of a
character adverse to the general practices or conduct of business
on the Stock Exchange. If proof be required that the internal
legislation and administration of the Stock Exchange enforce a
higher standard of morality than the law can reach or enacts for
the regulation of other trades, such proof is to be found in
the fact that recently the committee of the Stock Exchange were
assailed at law by a member whom they expelled on a charge of
dishonorable conduct, the lawsuit being based on the ground that
the action of the committee was not justified in law. The trial
lasted seven days and proved abortive, the distinction between the
standard enforced by the committee and the statutory provisions of
the law not being appreciated by the special jury promiscuously
selected from various trades, although quite intelligible to
the judge. In maintaining this high standard the committee are
compelled to go beyond the common law, binding their members to
the observance of their rules and practices, even though not
enforceable in a court of law. If, however, they should submit to
incorporation, their rules would have to be assimilated to the
law, and their freedom of action would be curtailed--results which
might tend to cripple them in sustaining the standard alluded
to, and operate in many ways as a hindrance to that rapidity of
action which is an absolute necessity in critical times. Further,
incorporation implies, in some sort, monopoly, and it remains to be
proved that the public would gain by any restriction of the freedom
of trade, even in stocks and shares. I adhere to the opinion
expressed in 1875 by the Committee on Foreign Loans, on page 47 of
their report, as follows: ‘That such a body (the Stock Exchange)
can be hardly interfered with by Parliament without losing that
freedom of self-government which is the only life and soul of
business.’”
As I have outlined elsewhere in this volume the cogent objections
to incorporation of the New York Stock Exchange, it only remains to
say here that the great argument against such a step consists in the
Governing Committee’s absolute power of summary discipline over the
members, a power that greatly exceeds the authority of the common law,
and one that protects the patrons of the Exchange to an extent that
would not be possible if, under incorporation, members could invoke
their constitutional prerogatives.[81] Said the governors in reply
to a question of the Hughes Commission: “Appeals to the courts have
been rare, considering the number of cases in which such power of
discipline has been exercised, but we may well cite as substantiating
in an extraordinary degree the fairness and right-mindedness with
which members have been held to their obligations, the fact that,
although in a number of instances appeals have been made to the courts
for reinstatement by members who have been expelled or suspended for
infraction of the rules, or for conduct which, although it might not
be in violation of any express rule or regulation, or in violation of
any law or legal obligation, the committee have held to be inconsistent
with the maintenance and exercise of those standards of honorable
dealing which it is the function of the Exchange to inculcate and
maintain; nevertheless, in the last twenty-eight years there has not
been a single instance of the judgment of the Governing Committee being
reversed by the courts.”
The distinction between the expulsion of a member of such a voluntary
unincorporated association and the expulsion or removal of a member
of a corporation is very important. The moment the body receives a
charter a different set of principles comes into play as regulating the
relations between the member and the body.[82]
Germany dealt with a similar situation in very different fashion. In
the autumn of 1891 there were disastrous failures of certain German
banking houses, resulting from criminal misuse of bank deposits and
from an undue participation in speculative transactions by the general
public. The outcry that followed was no new thing in Germany, for as
early as 1888 conditions that had arisen in the Berlin market and the
Hamburg coffee market had led to petitions to the Reichstag demanding
remedies for speculative evils. The cumulative effect of these
difficulties was such that, as related by Doctor Loeb, bills directed
against speculation on the Exchanges were introduced in November,
1891. “As early as February 16, 1892,” according to this authority,
“the Chancellor of the Empire appointed a commission of inquiry of
twenty-eight members, most of them lawyers, but with representation
also of landed proprietors, economists, and merchants. The chairman was
the President of the Directorate of the Reichbank, Doctor Koch. The
commission began its inquiries in April, 1892, held 93 sessions, and
summoned 115 witnesses, of whom the great majority were persons engaged
in the transactions which it was proposed to regulate. The commission
also made inquiries as to the state of legislation and trade usages in
the several states of the Empire and in foreign countries.
“The commission presented a majority report on November 11, 1893,
recommending certain statutory and administrative changes. The
principles on which these recommendations rested was that, in view
of the importance of the interests which were represented at the
Exchanges, modifications should be made with caution, and the existing
complicated trade usages and methods should not be disregarded; while,
on the other hand, there was no occasion for regarding with mistrust,
still less with hostility, interference in the free working of
industrial forces.”[83]
Up to this point, it will be observed, the German investigators
followed precisely the same lines as the English Commission of 1877
and the Hughes Commission of 1909. Mistakes are recognized, but
modifications are to be made “with caution.” But it so happened that
the recommendations in this respect were not followed. German politics
at that time were in a state of turmoil in consequence of the Agrarian
agitation, and in the various phases of political expediency that
attended the uproar, first the government and then the Reichstag
insisted upon more and more stringent enactments concerning legislation
against the Exchange, until finally a hostile law was enacted quite out
of line with the original recommendations of the committee of inquiry.
In other words, the politicians ignored the labors of the committee and
took matters into their own hands. The three important provisions of
this law were these:
(1) All exchange dealings for future delivery in grain and flour
were forbidden.
(2) All exchange dealings for “the account” in the shares of mining
and industrial companies forbidden.
(3) An “Exchange Register” was established in which was to be
entered the name of every person who wished to engage in exchange
transactions for future delivery. Contracts made by two persons
entered in the register were declared binding and exempt from the
defence of wager.
The immediate effect of this law on the German grain market was
disastrous. Futures were not suppressed. The grain trade was simply
forced by the law to give up the modern machinery that experience
had developed, and go back to antiquated forms of dealing. “It was
like taking machinery out of a mill,” says Frank Fayant, “and putting
manufacture back to hand labor.” As to trading in securities “for the
account,” here, too, the law failed utterly. Even the government--at
that time most unfriendly to the Exchanges--admitted in its official
reports that the law had “proved injurious to the public,” and that
“the dangers of speculation have increased.” We have high authority for
a detailed examination of the disaster attending this costly experiment
in the remarks of Professor Emery, who tells us not merely _how_ the
German law failed, but _why_:
(1) Fluctuations in prices have been increased rather than
diminished. The corrective influence of the bear side of the
market having been restricted, the tendency to an inflated bull
movement was increased in times of prosperity. This in turn made
the danger of radical collapse all the greater in proportion as
the bull movement was abnormal. The greater funds needed to carry
stocks on a cash basis further increased the danger when collapse
was threatened. The result was an increased incentive to reckless
speculation and manipulation. Says the report of 1907, “The dangers
of speculation have been increased, the power of the market to
resist one-sided movements has been weakened, and the possibilities
of misusing inside information have been enlarged.”
(2) The money market has been increasingly demoralized through
the greater fluctuations in demand for funds to carry speculative
cash accounts. The New York method is held in abhorrence by
German financiers, who attribute to it, in large part, the wild
fluctuations in New York call rates, the frequent “money panics”
and the tendency to reckless “jobbery.” In proportion as the new
Berlin methods approached the cash delivery system of New York,
these evils have appeared there.
(3) The business of the great banks has been increased at the
expense of their smaller rivals. The prohibition of trading for the
account made it difficult for the latter to carry out customer’s
orders because the new methods required large supplies of both
cash and securities. Furthermore, an increasing share of the
business of the large banks came to be settled by offsets among
their customers, and the actual exchange transactions became a
proportionally small part of the total transfers.
(4) This has a twofold effect. Business within the banks is done on
the basis of exchange prices, but these became more fluctuating and
subject to manipulation as the quantity of exchange dealings were
diminished and were concentrated in a few hands. The advantages of
a broad open market were lost. The object of the act had been to
lessen the speculative influence over industrial undertakings. Its
effect was to increase it.
(5) Finally, the effect of interference, increased cost, and legal
uncertainty was to drive business to foreign exchanges and diminish
the power of the Berlin Exchange in the field of international
finance. The number of agencies of foreign houses increased four
or five fold and much German capital flowed into other centres,
especially London, for investment or speculation. This in turn
weakened the power of the Berlin money market, so that even the
Reichbank has at times felt its serious effects.[84]
Concerning the “Exchange Register” (which the government has now
abolished as a complete failure) and the effort to keep the public out
of the speculative markets, Professor Emery says:
In one sense the fate of the famous exchange register is laughable,
but in a deeper sense it is genuinely sad, for the object was a
worthy one and the new scheme was adopted with high hopes. Its
failure was inevitable, since it did not remove the temptation
to speculate. The men who felt this temptation most, and whose
position least warranted their yielding to it, were of course the
very last men to have themselves registered. In fact the whole
public revolted. The number of registrations never reached four
hundred, which number would not begin to cover the banking and
brokerage concerns. The number of “Outsiders” registered never
reached forty. Even the conservative banks had to choose between
giving up all such business and dealing with non-registered parties.
(1) The uncertainties of the new situation were most likely to
exclude the cautious and well-to-do from participation in the
market. The reckless gambler of small means was less likely to be
disturbed in his practices.
(2) The act aimed to establish legal certainty by means of
registration. It proved a direct incentive to fraud. The customer
was not legally liable on his contracts; therefore, every reckless
and dishonest little plunger, who could get a broker to trust
him, could take a “flyer” with everything to gain and nothing to
lose. Cases increased rapidly in the courts and the worst element
of the public was active to the relative exclusion of the better.
Instances even occurred where a man would play both sides of the
market at the offices of two different brokers and simply refuse to
settle on the losing contract.
(3) As affecting this phase of the question, references should
be made again to the transfer of business to foreign exchanges.
Morally and socially it is as bad for the German public to
speculate in cheap mining stocks on the London Exchange as to do so
at home. The flow of German funds into the market for South African
securities would indicate a further way in which the purposes of
the act were defeated.
(4) Finally, the question must be faced of the effect of
eliminating the public from the speculative market even if it
could be accomplished. It is supposed sometimes that such a result
would be all benefit and no injury. On the contrary, the real and
important function of speculation in the field of business can only
be performed by a broad and open market. Though no one would defend
individual cases of recklessness or fail to lament the disaster
and crime sometimes engendered, the fact remains that a “purely
professional market” is not the kind of market which best fulfills
the service of speculation. A broad market with the participation
of an intelligent and responsible public is necessary. A narrow
professional market is less serviceable to legitimate investment
and trade and much more susceptible of manipulation.[85]
It is not surprising that such a law, enacted to meet political
clamor, in defiance of the recommendations of the committee, and in
the face of all the economic experiences of the century, should have
proved a fiasco in a double sense. Not only did it fail to accomplish
its purpose, but, as we have seen, it brought about a new chain of
evils vastly more distressing to German commercial development than
all the evils that gave it birth. The report of the Deutsche Bank for
1900 said: “The prices of all industrial securities have fallen. This
decline has been felt all the more as, by reason of the ill-conceived
Bourse Law, it struck the public with full force without being softened
through covering purchases of speculative interests.” Four years later
the same bank reported: “A serious political surprise would cause the
worst panic, because there are no longer any dealers to take up the
securities which, at such times, are thrown upon the market by the
speculating public.” In 1905 the bank again forcibly urged the revision
of the law in these words:
“In our last report we referred to the great danger which may be
brought about through delaying the revision of the Bourse Laws, and we
are now pointing to it again because we consider it our duty to impress
again and again a wider circle of the public with the economic value
of the Stock Exchange and its important relation to our financial
preparedness in times of war.”
Again, the following year the bank kept pounding away on the same
theme: “If it had still been necessary to furnish proof of the
regrettable fact that the German Bourses are no longer able to
accomplish their task--equally important to the welfare of the people
as to the standing of the Empire--the trend of events during the past
financial year in general, and the result of the last German Government
issues in particular, would have furnished that proof.”
Meanwhile, other leading financial institutions took up the same cry.
Thus the Dresdner Bank in its report in 1899 said: “The danger which
lies in the ban put on speculation, especially in the prohibition
of trading for future delivery in mining and industrial securities,
will become manifest to the public, if, with a change of economic
conditions, the unavoidable selling force cannot be met by dealers
willing and able to buy. It will then be too late to recognize the
harmful effects of the Bourse Law.” In 1902 the Disconto-Gesellschaft
reports: “The unfortunate Bourse Laws continue to be a grave obstacle
to business activity.” And again in 1903: “The Bourse will not be able
to resume its important economic functions until the restrictions upon
trading for future delivery have been removed.”[86]
The lesson to be learned from the failure of the German Bourse Law of
1896, and from the frank recognition of that failure as evidenced by
the repeal of 1908, cannot be overestimated in its importance. It is
inconceivable that law-makers of to-day may ignore such a warning. I
have quoted freely from Professor Emery of Yale University in pointing
out the deplorable results of that legislation because his study of
the subject has made him the foremost authority. The remonstrances of
the German banks and business men have also been cited because they
were on the spot; they saw and felt the prostration of German business
that followed swiftly on the heels of this law; they were a unit in
pronouncing it a wretched failure. In the appendix to this work will be
found the report of the Hughes Commission in which the ten experts on
that board unanimously reported “the evil consequences” of Germany’s
experiment, its “grotesque” operation in practice, and its utter
failure.
It is a simple matter for the querulous and discontented element of a
community to reason along the lines of least resistance and demand the
enactment of laws to right every fancied wrong. But the patient study
of such matters, the nice balancing of probabilities, the penetrating
investigation of similar experiments elsewhere and the analysis of
their bearing on the larger affairs affected by them--all this requires
critical judgment of a high order. When such an issue is evolved
laymen stand aside for a while, until the evidence of experts has been
submitted to minds competent to decide in accordance with evidence.
Applying this principle to the ever-present menace of legislation in
America directed against the Stock Exchange, we find each witness
testifying to the fact that the German law of 1896, far from benefiting
the public, injured it immeasurably. It put a premium on reckless
speculation and offensive manipulation; it demoralized the money
market; it choked the small banks and made virtual monopolies of the
large ones; just in proportion as it stifled speculation it put an
end to industrial undertakings that depend for their success upon the
spirit of adventure and risk; it drove money and credit out of Germany
and into London and Paris; it removed from the Berlin market the
support of the bears, thus exposing the whole investment structure to
violent collapse. The layman must consider this and the men who make
our laws must look before they leap.
Speculators in the region of criticism, whether of theology or
economics, who find themselves face to face with a fact too stubborn to
fit in with their opinions or conclusions, have but two courses open to
them: either to reconsider in the light of testimony the conclusions
they have reached, or to denounce and discredit the inconvenient
witness. In this instance the inconvenient witness cannot be denounced;
his name is legion. Every merchant in Germany will tell you the Bourse
Law was a sad mistake and will deplore its enactment. Nor can such
witnesses be discredited; therefore the advocate who believes that in
legislation lies the remedy for what he conceives to be the evils of
speculation must perforce choose the other horn of the dilemma; he must
reconsider.
It is a gratifying fact that in America, where law-makers are prone to
enact a hodge-podge of laws on every conceivable subject, there has
been no such serious mistake made by the Federal Government as that
which occurred in Germany. In 1812, five years before the New York
Stock Exchange was organized, an act was passed by the New York State
Legislature entitled “An act to regulate sales at public auction and to
prevent stock-jobbing,” its essential purpose being the prevention of
short selling--the bête-noir of all the early amateurs in economics.
This was the only anti-speculation act ever placed on the New York
Statute books. The act read:
That all contracts, written or verbal, hereafter to be made, for
the sale or transfer, and all wagers concerning the prices, present
or future, of any certificate or evidence of debt due by or from
the United States or any separate State, or any share or shares of
stock of any bank, or any share or shares of stock of any company,
established or to be established by any law of the United States,
or any individual State, shall be, and such contracts are hereby
declared to be, absolutely void, and both parties are hereby
discharged from the lien and obligation of such contract or wager;
unless the party contracting to sell and transfer the same shall
at the time of making such contract be in actual possession of
the certificate or other evidence of such debt or debts, share
or shares, or to be otherwise entitled in his own right, or duly
authorized or empowered by some person so entitled to transfer
said certificate, evidence, debt or debts, share or shares so to
be contracted for. And the party or parties who may have paid any
premium, differences or sums of money in pursuance of any contract,
hereby declared to be void, shall and may recover all such sums of
money, together with damages and costs, by action on the case, in
assumpsit for money had and received for the use of the plaintiff
to be brought in any court of record.[87]
The effect of this law was precisely the same as that which followed
the enactment of Sir John Barnard’s Law of 1734 in England; it did
not prevent short selling, it accomplished no useful purpose, and
it merely served to enable unscrupulous speculators to “welch” on
their contracts. In 1858 it was repealed, and short selling, having
demonstrated its usefulness in many ways, was thenceforth declared to
be legal in a statute which read as follows:
No contract, written or verbal, hereafter made for the purchase,
sale, transfer, or delivery of any certificate or other evidence
of debt due by or from the United States, or any separate State,
or of any share or interest in the stock of any bank, or of any
company incorporated under the laws of the United States, or
of any individual State, shall be void or voidable for want of
consideration, or because of the non-payment of any consideration,
or because the vendor, at the time of making such contract, is not
the owner or possessor of the certificate or certificates, or other
evidence of such debt, share or interest.[88]
The United States Government’s attempt to regulate or restrict
speculation is confined to a single instance, the Gold Speculation
Act of 1864, a law which enjoyed a brief existence of but fifteen
days.[89] In 1864 there were large issues of paper currency that drove
gold out of circulation and caused it to be bought and sold as any
other commodity. Thus a large supply of gold fell into the hands of
speculators, and as its price rose more than 100 per cent., the public
jumped to the conclusion that this portentous increase was due to
the operations of speculators, and that the rise could be stopped by
prohibiting such practices, hence all gold speculation was forbidden by
statute. As a fallacy this was monumental. Professor Hadley tells the
story in this way:
The effect was precisely the opposite of what had been anticipated.
Every man who was engaged in foreign trade had to provide security
for being able to make gold payments in the immediate future,
if called upon to do so. Being prevented from dealing with
speculators, he now had to accumulate a reserve of his own. This
caused an increased demand for gold at a time when it was unusually
difficult to maintain an adequate supply. Under two weeks’
operation of the act the price of a hundred gold dollars rose from
about two hundred paper dollars to very nearly three hundred. So
obvious was its evil effect that it was hurriedly repealed as a
means of preventing further commercial disasters.
Again, in the early part of 1866, there was a rise in the price of
gold, which was attributed by public opinion to the speculators.
Their machinations were defeated, not by legislation, but by the
issue to the market of a part of the gold lying in the Treasury of
the United States. For the moment the price of gold fell and people
rejoiced that the plans of the speculators had been defeated.
But a short time later, when the war between Prussia and Austria
caused a demand for gold in Europe, there were large exports of the
metal, and its price arose by natural causes. The United States was
obliged to buy back, at a decided loss, a part of the gold which
the Treasury had so unwisely issued.
It turned out in the end that the operations of the speculators in
anticipating the wants of the future would have prevented a loss to
the country, and that the attempt of the Treasury to defeat those
operations was attended with expense both to the government and to
the mercantile community.[90]
Mr. Horace White deals with the gold speculation of the ’60’s as
follows:
During seventeen years the business of the country was regulated
by the quotations of the Gold Exchange. The export trade of
the country necessitated the selling of gold in advance of its
delivery. A buyer of wheat or cotton for export would make his
purchase according to the current price of gold, but he would not
get his returns from abroad in some weeks. If the price of gold
should fall, meanwhile, he would be a loser. So, he would sell at
once the gold he expected to receive later.... Black Friday and its
evil consequences were due to the existence of a bad currency and
a fluctuating standard of value. The Gold Room was at that time
a necessity. Business could not be carried on without it, but it
offered temptations and facilities for gambling which could not be
resisted.[91]
In the various States of the Union, where law-making goes on all the
time with surprising zeal, there is, of course, a bewildering array
of crazy-quilt laws on the statute books dealing with speculation,
but these are relatively unimportant. Some of the States, Wisconsin,
Louisiana, California, Montana, North Dakota, and South Dakota, have
laws similar to those of New York State, legalizing short sales of
commodities and securities. Other States prohibit dealing in futures,
short sales, corners, forestalling and speculation in general, and two
States actually license bucket-shops.[92]
It by no means follows because of the failure of the German Bourse
Law of 1896 and of all similar earlier attempts to regulate or
restrict speculation, that the issue has become moribund and that
nothing more will be heard of it. On the contrary, just as each one
of these abortive attempts at legislation; and each of the Government
Commissions we have described grew out of excess in speculation and
consequent losses to the public, so, no doubt, future extravagance
in the world of speculative undertakings will be attended by similar
outcries and similar results. There were debates in Congress for three
years over the Hatch Anti-Option Bill, and while this measure failed of
enactment into law, something akin to it will no doubt come up again
one day when the public is in the mood.
It is probably true that in such event the lessons taught by earlier
legislative experiments, and particularly by the German fiasco, will
have their effect in checking hasty legislation; in any event it would
seem impossible that the teachings of all the economists--scientific
contributions to literature that to-day comprise a large library--can
be ignored in any future discussion of this subject. Meantime,
accepting as our major premise the enduring presence of speculation
as a fixed and immutable characteristic of human nature the world
over--there remains the plain warning to Stock Exchanges and their
governors that fences must be mended as gaps occur, and that the
control of the business in the interest of the public must be the loyal
motive of all these institutions. It will not suffice to whitewash
indefensible conditions, nor to hide from public scrutiny any detail of
a business which that public is asked to support. Conversely, it may
be pertinent to say that in the effort to remedy some of the evils of
speculation the private citizen has his responsibilities as well as the
stockbroker.
Looking forward toward the great questions of the future having to
do with State regulation of industry and commerce of which the Stock
Exchange is a part, the student finds no solution so satisfactory as
the doctrine of _laissez faire_, assuming always that those in control
of the business under scrutiny shall do their full duty. Under the
policy England has risen to unexampled commercial supremacy, while
America, because serious mistakes have been made, finds its advocates
of State regulation growing daily in number, with consequent danger to
all its delicate commercial machinery.
In these circumstances how has the Exchange met its duties and its
responsibilities? The answer is to be found in its records for the year
1913. Prior to that time there was undeniably a careless acceptance of
old standards without inquiring too closely into them; letting things
drift was the rule. But it is never too late to mend, and in 1913 the
Exchange met the issues squarely.
Manipulation was stopped, in so far as it can be stopped, by the famous
resolution of February 5, 1913, reading as follows:
“At a meeting of the Governing Committee held this day, the following
resolution was adopted:
“_Resolved_: That no Stock Exchange member, or member of a Stock
Exchange firm, shall give, or with knowledge execute, orders for
the purchase or sale of securities which would involve no change of
ownership.
“The punishment for this offense shall be as prescribed in Section
8 of Article XXIII of the Constitution regarding fictitious
transactions.”
Trading on insufficient margins was stopped by the resolution of
February 13, 1913, as follows:
“At a meeting of the Governing Committee held this day, the
following resolutions were adopted:
“That the acceptance and carrying of an account for a customer,
either a member or a non-member, without proper and adequate
margin, may constitute an act detrimental to the interest and
welfare of the Exchange, and the offending member may be proceeded
against under Section 8 of Article XVII of the Constitution.
“That the improper use of a customer’s securities by a member
or his firm is an act not in accordance with just and equitable
principles of trade, and the offending member shall be subject
to the penalties provided in Section 6 of Article XVII of the
Constitution.
“That reckless or unbusinesslike dealing is contrary to just and
equitable principles of trade, and the offending member shall be
subject to the penalties provided in Section 6 of Article XVII of
the Constitution, in every case in which the offense does not come
within the provisions of Section 5 of Article XVI thereof.”
It is one thing to adopt a rule, but it is quite another to enforce it.
In order that there might be no miscarriage on this point, the Exchange
on March 5, 1913, took the one necessary step to make these reforms
effective by the appointment of a Committee on Business Conduct, as
follows:
“Fourth: A Committee on Business Conduct, to consist of five
Members.
“It shall be the duty of this Committee to consider matters
relating to the business conduct of members with respect to
customers’ accounts.
“It shall also be the duty of this Committee to keep in touch
with the course of prices of securities listed on the Exchange,
with the view of determining when improper transactions are being
resorted to.
“It shall have power to examine into the dealings of any members
with respect to the above subjects, and report its findings to the
Governing Committee.”
This Committee is composed of Governors of the Exchange in actual
business on the floor. Members call it “The Police Committee,” which
is correct. Its members are constantly on the watch for evidences of
wrongdoing, and the broad powers entrusted to them under the resolution
above quoted give them ample authority to act summarily. I have watched
them at their work and I have no hesitation in saying that this
Committee is the most important influence for good that has ever been
made a part of the machinery of any stock exchange in the world. The
most prejudiced critic of the Exchange will I think admit the truth of
this statement.
These three important additions to the Stock Exchange machinery have
met all the objections thus far encountered. They are broad and
sweeping; they are rigidly enforced and they have come to stay. Sooner
or later they must be adopted and enforced by all exchanges elsewhere.
I think it may be said that having gone so far, the Exchange has tasted
the fruits of a great moral victory and finds it good. It follows that
new problems as they arise will be met in the same spirit. All plans
can be improved, all work can be better done. The main thing is to
get started on the right path. After that the task is easy. And it is
immensely satisfying to feel that the Exchange has definitely chosen to
hew its path along new lines of business ethics.
A few years must pass no doubt before the public recognizes the
importance of these reforms, but in the end they must be recognized
and appraised at their real value. Is it too much to hope, when that
day dawns, that public sentiment will force the demagogue and the
notoriety-seeking critic into the background, and cheerfully give the
Stock Exchange a hand? Is it unreasonable to predict that if we keep
our house in order, talk of incorporation and supervision by Albany
and Washington must cease? I feel strongly that this is to happen. I
know it ought to happen, and those of my colleagues who have worked so
loyally to bring about these reforms will be mighty proud and happy
when it does happen.