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Feast of Fools

Tulips in the 1630s, South Sea stocks in the 1720s, South American ventures in the 1820s, the railway mania of the 1840s, the roaring 1920s, the Japanese real estate boom of the 1980s--each one a speculative flourish that ended with a big thud. In Devil Take the Hindmost, Edward Chancellor examines these and other bubbles and makes the reader wonder if we're not again on the verge of a bust. Chancellor began this interview with by recounting how he came to write the book.

Edward Chancellor: In the early '90s, I worked for Lazard Brothers, an investment bank. One of our clients, a large U.K. house builder, had lost a lot of money then, during a big housing boom, and I wound up doing a study of the British housing market in the 1980s that ended up taking me about year. I became interested in what seemed to be the irrationality of decision-making when people are caught up in a speculative euphoria.

I started writing the book in 1994--it was going to be more of a study of the 1980s. Then I got dragged into the historical aspects of speculation, which have been recounted in different places here and there but had never been properly pulled together. Finally, in late 1995, a friend of mine in the States called me and said, "Listen, Eddie, you've got to pay attention to what's going on in the States, because something very, very big is happening here." And at that stage, the book slightly changed, and it became an attempt to do several things. One was to provide a narrative account of various speculative manias, and another was to use each chapter to emphasize a different theme or aspect of speculation. At the time, I turned the book into a lens through which one could see what is going on in America today.

So it started off, as I think many authors do, serving my own private purpose, and ended up serving another purpose, which makes the book both a historical work and a work of current affairs. Technology always seems to be inflating these bubbles. Why is that?

Chancellor: It's not always the case that technology drives a speculative boom. You can have it in gold or oil or whatever.

The attraction of speculation is more intense when the returns are uncertain--which is clearly the case with technology, and especially the Internet. When people don't know what the future is going to be, there's more room for fancy or imagination. As George Hudson, the railway king, says, "Let imagination have a little play."

Basically there are two kinds of speculators. First, you have technology and companies that are applying new technologies, which have yet to establish themselves fully and whose prospects are uncertain; that encourages a kind of technology speculator. As stocks in those companies begin to rise, they attract the other kind of speculator--the good, old-fashioned speculator -- who is not so interested in the technology itself but is speculating for a rise because he or she sees momentum in the stock.

You can see this with Internet stocks today. I'm quite careful not to damn out of hand those speculators who are providing capital for new industries. They are definitely performing a beneficial economic function. If we didn't have this type of speculator, progress would be much slower. Imagine yourself 50 years from now and having to write the chapter on the 1990s. What would the highlights of that chapter be?

Chancellor: I think it kicks off early in the decade, when the Fed reduced interest rates and held them at a discount rate of 3 percent during '92 and '93. And there was massive speculation in the bond market that made great profits for hedge funds and recapitalized the banks. That probably triggered the boom. What's interesting is that Alan Greenspan is now praised as the genius at the Fed who keeps everything going. I'm afraid that central bankers almost invariably get it in the neck when the speculative boom turns to bust. And to a certain extent, this is unfair, because the central bankers are never as good as they're cracked up to be, and they're never as bad as they are deemed to be afterwards. But I think later it will be seen that the monetary management of the Fed has contributed to the boom. That's one aspect of it.

Another aspect is the tendency nowadays of Americans to manage their own money, the 401(k)s and so on. I suppose more neophytes went in, people who weren't experienced in the market, who were entering and starting to manage their own money. Again, that would seem to be going on some time in '95. Then you had the tech boom starting in '95 and '96 and the whole Internet phenomenon.

Related to the rise of the individual and the tech stock and Internet phenomenon is the recent growth of day trading, which is facilitated by new technology. If you give people who know nothing about the market access to the market, they are likely to play a different and more speculative game than is conventionally done. I feel very old compared to the people who are playing now. You talk to day traders and you realize they simply don't know what they are doing, and yet they are moving masses of money around.

For example, there's an English teacher I know on the Cape. Until last summer, he'd never bought stock, but now he's taken $5,000 from a home mortgage and put it with an online broker, where he's taken a 50 percent margin on top of that. Now his wife expects him to double the money within two months. And I asked him how he decides to buy or sell a share, and he looked slightly blank and panicked. He tells me he uses Internet bulletin boards to see what they're hyping. I asked him if he looks at profit-and-loss accounts--he doesn't really know what they are. But he tells me that he looks at the float. The float is what seems to drive a lot of these day traders, but in the long run, that doesn't work.

There's another theme in my book: the idea of speculation as an expression of a nation's confidence in itself. Well, that's right. Abby Joseph Cohen calls the U.S. "the supertanker of the world."

Chancellor: Indeed. And, actually, at the beginning of this year, there was a piece in the Wall Street Journal that said that Americans' confidence and optimism was worth so many percentage points of annual growth. It's my feeling that those things tend to pass in time, and if you look at what's happened in Japan in the 1990s, it's obvious that the huge sense of confidence they had in themselves has now been replaced by an extraordinary self-doubt.

Not that their companies are really any worse off than they were. The Hondas and the Sonys are still great companies, and the Japanese are still the same people. But they've gotten caught in a speculative morass. And now they've lost confidence in themselves. I think that's another theme that I would draw out of the 1990s bull market.

And then another thing, which I pretty well cover in my chapter about the 1920s, is the idea that equities always outperform any other form of investment, which becomes self-fulfilling in the short run but normally becomes self-defeating over the long-run. In the 1920s, it was said that stocks will always outperform bonds, and once that point came to be believed, stocks did not outperform bonds for 25 years. Many people don't know what a bond is anymore.

Chancellor: Right. People ask me for my opinion and I recommend cash--they just laugh! Where do you put your money?

Chancellor: Well, actually I do have a small holding in a U.K. Internet stock, which is owned by a cousin of mine. But mainly I'm in cash and bonds. I sold most of my stocks recently. Also, I have some Japanese property stocks. Japanese stocks are very depressed at the moment. They seem to be a good value. But I was interested to see what stocks performed well in the States in the 1930s, and ones that did best were tobacco and gold. Of course, these have their own problems nowadays and I doubt they'd be the safe haven today that they were 70 years earlier. So, what do you like to read?

Chancellor: At the moment, I'm reading Paul Krugman's The Return of Depression Economics. I'm also reading Jean Strouse's Morgan: American Financier. I'm reading a biography of John Maynard Keynes by Robert Skidelsky called Hopes Betrayed 1883-1920. And I read Dickens for relaxation. In fact, I was a bit worried while writing the book that I was reading too much Dickens, that I might be adopting a sort of pastiche of Dickens's style. Fortunately, I think, I managed to eradicate most of that in the later drafts.

Featured Titles

Devil Take the Hindmost : A History of Financial Speculation by Edward Chancellor

The Return of Depression Economics by Paul R. Krugman

Morgan: American Financier by Jean Strouse

John Maynard Keynes : Hopes Betrayed 1883-1920 by Robert Skidelsky

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