Facing Economic Crisis

Economic conditions were far from rosy throughout the 1870s and 1880s despite industrial innovation. In 1873, prosperity abruptly gave way to a severe economic depression, followed by almost three decades of economic downturns. People of all classes lost their jobs or businesses and faced long stretches of unemployment or bankruptcy. Because economic ties bound industrialized western Europe to international markets, the downturns affected economies around the world: Australia, South Africa, California, Newfoundland, and the West Indies.

By the 1870s, as industry gained in influence, industrial and financial setbacks—not agricultural ones as in the past—were capable of sending the economy into a long tailspin. Innovation created new or modernized industries on an unprecedented scale, but economic uncertainty accompanied the forward march of Western industrial development, and businesspeople faced real problems. First, the start-up costs of new enterprises skyrocketed. The early textile mills had required relatively small amounts of capital in comparison to the new factories producing steel and iron. Capital-intensive industry, which required huge financial investment for the purchase of expensive machinery, replaced labor-intensive production, which relied on the hiring of more workers. Second, the distribution and consumption of goods failed to keep pace with industrial growth, in part because businessmen kept wages so low that workers could afford little besides food. For them, purchasing the new industrial goods was impossible. The series of slumps turned industrialists’ attention to finding ways to enhance sales and distribution and to control markets and prices.

Governments took steps to address the economic crisis. New laws spurred the development of the limited liability corporation, which protected investors from personal responsibility for a firm’s debt and thus encouraged investment. Before limited liability, owners or investors were personally responsible for the debts of a bankrupt business. In one case in England, a former partner who had failed to have his name removed from a legal document after leaving the business remained responsible to creditors when the company went bankrupt. He lost everything he owned except a watch and the equivalent of one hundred dollars. By reducing personal risk, limited liability made investors more confident about financing business ventures, which led to the growth of stock markets. These stock markets raised money from a larger pool of private capital than before and gave businesses the funds to innovate.

Businesses also met the crisis that began in 1873 by banding together in cartels and trusts. Cartels were combinations of industries formed to control prices and competition. A single German coal cartel, founded in the 1880s, eventually dominated more than 95 percent of coal production in Germany and could therefore restrict output and set prices. Trusts—similar to cartels in their power to control prices but different in structure—appeared first in the United States in 1882, when John D. Rockefeller created the Standard Oil Trust by acquiring stock from many different oil companies and placing it under the direction of trustees. The trustees then controlled so much of the companies’ stock that they could set prices for the entire industry and even dictate to the railroads the rates for transporting the oil. While expressing their belief in free trade, those who set up cartels and trusts actually restricted the free market to produce soaring profits for themselves.

Much of Europe had adopted free trade after midcentury, but during the downturn of the 1870s and 1880s the resulting huge trade deficits—caused when imports exceeded exports—soured many Europeans on the concept. Countries with trade deficits had less capital available to invest internally, slowing job growth. Farmers in many European countries suffered when improvements in transportation brought in cheap grain from the United States and Ukraine. With broad popular support, governments approved tariffs to make foreign goods, including grain, more expensive.