Law, John

In the Wealth of Nations (1776) Adam Smith observed that “[t]he idea of the possibility of multiplying paper money to almost any extent was the real foundation of what is called the Mississippi scheme, the most extravagant project of banking and stock-jobbing that perhaps the world ever saw.” John Law was the author of the Mississippi scheme. He was a Scottish financier who felt that Scottish industry languished from a lack of money. He conceived the notion that a bank could issue paper money equal in value to all the land in a country. The Scottish Parliament was not interested, but the new regent of France, Philippe d’Orleans, saw Law’s theories as a way out of the bankrupt finances of France. Philippe authorized Law to establish the Banque Generale (1716). Among other things, this was the first bank to issue legal-tender paper money. It accepted deposits, paid interest, and made loans. The value of its paper money was defined in terms of a fixed weight of silver. In April 1717 taxes were made payable in the bank’s paper money.

In 1717 Law secured a royal charter to launch the Mississippi Company. This was a trading company organized to exploit the Mississippi basin. Law sold 200,000 shares of this new company to the public. The price stood at 500 livres per share, but three-fourths of the payment could be made with government notes at face value. These government notes were then worth one-third of their face value. The shares found a ready market in holders of depreciating government notes eager for a piece of a profit-making enterprise. Law became bolder with success and instructed his bank to buy the royal tobacco monopoly and all French companies devoted to foreign trade. These companies he combined with the Mississippi Company for the complete monopolization of French foreign trade.

In 1718 Law’s bank was reorganized as the Banque Royal, and the government made the bank’s paper money legal tender. By 1720 the combination of trading companies known as the Mississippi Company was amalgamated with the bank. The Banque Royal bought up the national debt by exchanging it for shares in the Mississippi Company. Turning the national debt into shares of the Mississippi Company set the example that was soon copied by the South Sea Company in England. The prices of the shares in the Mississippi rose to fantastic heights on a wave of speculative frenzy. Law’s bank continually increased the supply of paper money, much of which was used to bid up the shares in the Mississippi Company. When prices of commodities rose 100 percent and wages 75 percent between 1716 and 1720, the public lost faith in the value of paper money.

In the meantime things were not going well for the Mississippi Company. There were no precious metals to be found and no attraction could induce families to emigrate to the Mississippi basin. Profits fell far short of expectations.

In 1719 the price of the stock peaked and the downward spiral began. Those in the know sold their stock at the peak and redeemed their bank paper money with gold. As the sell-off gained momentum Law’s bank issued paper money to buy the shares of stock. Holders of paper money besieged the bank, demanding silver or gold and several people were killed in the confusion. Law himself was forced to leave France and he passed his declining years as a professional gambler in Venice.

The Mississippi Bubble left a deep distrust of paper money and big banks in the mind of the French people. Nearly a century elapsed before France was willing to try paper money again. Learning the pitfalls of paper money has been a slow process in modern capitalist countries. Angola, Argentina, and Bolivia rank among the countries that have experienced hyperinflation in the post–World War II era.