The development of Britain’s economy in the years following the end of the Napoleonic Wars was heavily influenced by the peculiar nature of British government wartime finance. Instead of issuing bonds with higher coupons as interest rates rose, which governments normally did in wartime, British governments from the 1750s onward relied mostly on 3 percent “Consols”, i.e., perpetual bonds with a 3 percent coupon issued at deep discounts. In a world in which equity markets were almost nonexistent and in which there was a gigantic government bond market swollen by war financing, fluctuations in the prices of Consols caused swings in investor wealth that had major economic effects, which have been much underappreciated. After a positive wealth effect in the postwar 1780s and a negative one in the late 1790s, the large, long-lasting bond price increase after 1813 played a major role in capitalizing the Industrial Revolution’s final take-off and the acceleration of economic growth to near-modern levels. As Jeffrey Williamson (1984: 688) noted when discussing the slow start to the Industrial Revolution, “Somewhere around the 1820s Britain passed through a secular turning point.” In this article, we argue that the key to that turning point was the massive wealth effect of the postwar increase in Consols’ prices.

The Napoleonic Wars’ Financing Mechanism

Normally, when a government wants to borrow to finance a war, it knows that its borrowing will cause interest rates to rise, especially if there is inflation. For example, if peacetime interest rates are about 3 percent, the government might issue a 5 percent bond of 20-year maturity rather than say the usual 3 percent peacetime bond. When the bond matures 20 years later and peace reigns again, the government can refinance the bond at 3 percent. Investors holding the 5 percent bond receive a higher interest rate, but no capital gain if they hold the bond to maturity and only a modest gain if they sell mid-term at a premium while bond prices are higher than normal.

That approach broadly describes how the U.S. wars in Korea and Vietnam were financed, as well as both U.S. and British contributions to the two world wars. Earlier, the U.K. government had used a similar approach to finance the War of the Spanish Succession (1702–13), mostly at interest rates of 8–10 percent and with heavy use of tontines and lotteries.

The U.K. government adopted a different approach with its next major wars. In 1751, Sampson Gideon, a brilliant Jewish-British financier, persuaded Prime Minister Henry Pelham to convert most of the outstanding British government debt into 3 percent Consolidated Annuities (the famous Consols). Until their ill-advised redemption in 2015, these were perpetual — that is, they had an infinite maturity — and paid 3 percent interest each year.1 When the government wanted to finance a war, instead of issuing 5 percent bonds at par, it issued 3 percent Consols at perhaps 60 percent of the “par” principal amount, which would then yield 5 percent (i.e., 3 percent/60 percent) on a running yield basis.

Gideon’s thinking was as follows: since all wars were temporary, people who bought 3 percent bonds at 60 percent would make generous 5 percent yields during the war and would then make a large capital gain afterwards, when yields dropped to 3 percent and the bonds went back to par. The Consols were therefore an attractive investment. The government could then find buyers even in war years, provided (as was the case) that there was confidence that Britain would later repay its debts in full.

Not only did investors enjoy strong yields, but they also made big capital gains when peace came: 21 percentage points in six years after the bottom in 1762 as the Seven Years Wars (1756–63) drew to an end, and 33 percentage points in 10 years after the wartime bottom in 1782, as the American War of Independence (1775–82) drew to an end.2

There was then strong demand for new issues of Consols throughout the major wars over the course of the following 50-plus years — the Seven Years War, the American Wars, and the French Revolutionary and Napoleonic Wars (1793–1815, with short remissions).

The Consols enabled Britain to finance heavy military expenditures when its rival France, which had no such mechanism, was unable to do so without financially crippling itself. Gideon’s clever structure, which gave windfall profits at the end of each war to inventory-holding bond dealers like himself, was central to Britain’s acquiring its empire and to not losing it again after the American colonies broke away.

The disadvantage of Gideon’s structure from the fiscal point of view was that, for each £100 of war expenditure on 3 percent Consols issued at 60 percent of par, £167 was typically added to the debt. But since the debt was perpetual and never needed to be redeemed, this feature of Consols finance was not regarded as a major fiscal disadvantage. Lord North, chancellor of the exchequer from 1767 to 1782 and prime minister through the American War of Independence, liked the structure because “it was the interest that the people were burdened with the paying of and not the capital.”3

The interest cost was indeed the same, or even slightly lower than through issuing new 5–6 percent debt at par, because the Consols’ attractiveness to speculators allowed them to be sold at a slightly lower running yield. However, over the course of the century after peace returned in 1815, Britain’s outstanding debt would decline only to £650 million in 1914, although the growth in the British economy meant that debt represented only 30 percent of GDP compared to a peak of around 260 percent of GDP in 1819.

The rise in the prices of British Consols from 1813 onward appears to have been due, in part, to a reduction in their perceived risk as the Allies approached France and peace returned, and, in part, to a drastic reduction in the annual supply of new Consols through budget deficit financing.4

Table 1 shows gross public income and expenditure for the years 1812–27, with the surplus or deficit; it also shows the funded and unfunded debt outstanding at the start of each year, and the increase in debt during the year.5

The deficit figures and debt increase figures in Table 1 do not tally because of the timing of government payments and debt financings. For example, the 1814 military campaign was largely financed by a £22 million debt issue (increasing the amount of 3 percent debt outstanding by £38.9 million) on the morning of the supplementary Budget of November 15, 1813. Nevertheless, the overall trend is clear: huge deficits and increases in the supply of Consols during the war years of 1812–15 were followed by near-balanced budgets in 1816–19 and surpluses thereafter, while the supply of Consols stopped increasing from 1816 onward, except for a modest blip in 1819–20 caused by funding £10 million of the Bank of England’s holdings of Exchequer Bills in connection with the return to gold.6

Table 2 sets out the £823 million of British and Irish government funded and unfunded debt that was held by the public on February 1, 1817, a date chosen so the special “emergency” financings for the Waterloo campaign were out of the way.

By far the greatest part of the outstanding debt, £562 million or 68 percent of the total, consisted of perpetual securities bearing a 3 percent interest rate, payable twice yearly. The largest single tranche, £384 million, consisted of “Consolidated Annuities,” the 3 percent Consols, which paid interest in January and July. There was also an exactly equivalent obligation, the Reduced Annuities, with principal amount of £148 million, which differed from Consols only in paying interest in April and October. Dealers would arbitrage between these two securities, with the Reduced Annuities generally trading at a small discount (subject to fluctuations before and after their interest payment dates) because of their somewhat lesser liquidity. There were also two relatively small older issues with 3 percent coupons, reflecting refinancings of debt incurred early in the 18th century, for the Bank of England and the South Sea Company, of £16 million and £14 million, respectively.

In addition to the perpetual 3 percent debt, there was £211 million of 4 percent and 5 percent debt, which would be refinanced after the war as interest rates declined. The 4 percent debt, totaling £75 million, took the form of 4 percent Consols, while the 5 percent debt, totaling £136 million, originally contracted in many cases by the Navy and Army directly, had been consolidated into 5 percent Consols. By the 1820s, the 5 percent debt was trading above par. There were then two refinancing operations carried out at the end of 1823 and in early 1824, one converting £135 million of 5 percent Consols into 4 percent Consols and the second converting £80 million of 4 percent Consols into a new issue of 3.5 percent Consols.7

Finally, in 1817 there was £50 million of short-term debt, mostly in the form of Exchequer Bills, which were short-term instruments, generally converted into long-term debt as new issues were undertaken. The £50 million outstanding in February 1817 was high by historical standards, a residue of the emergency financings undertaken at the Napoleonic Wars’ climax in 1813–15, and was over the next few years reduced by being converted into long-term debt. Reducing the amount of Exchequer Bills outstanding, thereby mopping up excess market liquidity, was an important pre-condition for the subsequent return to the gold standard.

In addition to the £822 million of debt held by the public, the government had since 1786 built up a sinking fund, intended to accrue at compound interest and allow the debt to be redeemed within 45 years. This fund had been established by William Pitt the Younger because redeeming debt at par, under Gideon’s structure, was expensive and the sinking fund allowed other debt to be redeemed through market purchases. Payments had been made into the sinking fund throughout the war years, even though the government was running deficits, on the principle that the gradual accrual of the sinking fund, with each new issue of debt having an amortization provision to be paid into the sinking fund, would reassure the nation’s creditors. By February 1817 the sinking fund totaled £62 million. It would be modified in 1819 and eliminated in stages in the early 1820s, with the government debt it purchased being canceled in the process.

As an example of how war finance was structured, we can examine the last major financing undertaken during the Napoleonic Wars, which was also the largest single tranche undertaken, and which was announced by Chancellor of the Exchequer Nicholas Vansittart to the House of Commons on June 14, 1815, four days before the Battle of Waterloo, and had been completed that morning. The loan raised £27 million in net proceeds, for each £100 of which buyers would be given £130 in 3 percent reduced stock, £10 in 4 percent Consols, and £44 in 3 percent Consols. The £27 million of net proceeds was obtained by issuing a total of £49.68 million principal amount of new debt, at a running interest cost of 5.62 percent and an average issue price of 54.35 percent of par. In addition to the interest payable, a sinking fund provision of 2.81 percent was made on the £27 million raised, for a total annual debt service charge of 8.43 percent.8

Vansittart told the House of Commons that this record-sized issue, the pricing of which was determined by negotiated tender and not by competitive bid, was only just fully subscribed; a great proportion of the issue was initially left with the underwriters. Four days later the Battle of Waterloo took place, news of which was received on the late evening of June 21.

Contrary to widespread belief, there was no great immediate “bounce” in the market by which (in separate legends) Nathan Rothschild and the broker/economist David Ricardo were both supposed to have made £1 million each through trading on early (and, effectively, inside) information of the battle. However, given the price rise in Consols over the next decade, their holdings of this issue alone played a major role in generating the Rothschild and Ricardo fortunes.

As anticipated by Gideon 60 years earlier, City of London financiers did well from the postwar surges in bond prices. It is no coincidence that Rothschilds, led by Nathan Meyer Rothschild, and Barings, led by the second-generation Alexander Baring, became very powerful after 1815. Their capital base dramatically increased, from 1810 or so as their large long positions in Consols rose in value. Ricardo also became very rich by the same dynamic.

Postwar Surge in Consol Prices Causes Rentier Apotheosis

The deep discount debt issuance structure had major implications for the post–Napoleonic War economy because the volume of debt was so large, both in absolute terms and in relation to other assets in the economy:

Britain’s debt-to-GDP ratio, at the peak in 1819, was about 260 percent, the highest of any country anywhere that has been successfully paid down — slightly higher than Britain in 1945. Of course, Britain had not borrowed 260 percent of 1819 GDP to fight its wars, but only about 170 percent in cash terms.

Nearly all the Napoleonic War debt was issued around 60 percent of par or below, so when peace came holders would have a capital gain of 40 percent as Consols trended back toward par. Consol prices did not return to par quickly, however. They reached 77.5 percent in 1818 and almost 91 percent in 1824 at the peak of the boom (see Table 3). They were not to hit par until the 1840s.

More precisely, there was a total of £562 million of 3 percent debt outstanding on February 1, 1817, in the month preceding which Consols’ average yield had been 4.72 percent, for a price of 63.6 percent (ignoring accrued interest), with holders having already enjoyed a 7 percentage point price appreciation since the recent low of August 1815. By April 1824, Consols’ yield had dropped to 3.16 percent, so the price had risen to 94.9 percent. In the period between August 1815 and April 1824, holders of 3 percent Consols enjoyed a capital profit of 38.3 percentage points, or a total of £215 million on the £562 million of 1817’s 3 percent debt. An additional profit of perhaps £10 million would have been received on the £75 million of 4 percent Consols, as their price rose toward and above par. Total profits to Consols holders over this period would then have been around 75 percent of GDP, equivalent to a profit of $14 trillion in current U.S. dollars. In addition, investors’ 1824 pounds were worth around 20–30 percent more than their 1815 pounds had been based on any of the Gayer-Rostow-Schwartz price series, the Rousseaux price series, or the Lindert and Williamson “best guess” cost of living index (Mitchell 2011: 721–22, 737). Taking the annual figures for 1815 and 1824, these give a deflationary rise in value of 28 percent, 25 percent, and 18 percent, respectively, primarily due to the resumption of gold payments in 1819–21.

One might say that this wealth was mostly brand new. Investors in August 1815 had put in only 57 percent for their 3 percent Consols and within a few years received a profit of 37 percentage points in capital gains plus interest at around 5 percent per annum on their initial investment. This profit was tax-free after the income tax had been abolished in 1816, and in any case capital gains had been untaxed. The capital gain was also permanent: once Consols had risen back to peacetime levels in the early 1820s, they fluctuated only moderately and indeed rose further until their price peaked late in the century.

Consequently, there was some 60 percent (from 1817) to 75 percent (from 1815) of GDP of new liquid capital in the early 1820s economy. In the early 1820s, this new money financed not only a number of subprime South American governments but also innumerable new factories and inventions that became the backbone of the Industrial Revolution.

Previous Periods of Rentier Enrichment and Impoverishment

It is interesting to observe that the same effect had occurred in the opposite direction in the 1790s. The price of Consols dropped from an average of 90 in 1792 to below 51 in 1797 and 1798. Since the nominal value of government debt in 1792 was about 120 percent of 1792 GDP, this fall caused a capital loss of about 47 percent of GDP in the first five years of the war.

Both Liverpool, the future prime minister (in 1796), and his father Charles Jenkinson (in 1798) wrote pamphlets proclaiming that Britain’s wartime economy was prospering, based on a substantial rise in exports and output over those years. However, the impoverishment of many savers during those years and the capital losses suffered by banks and other financial institutions starved the economy of capital. This latter point explains why Pitt in the 1790s had much more difficulty raising the necessary war finance than Perceval, Liverpool, and Vansittart did after 1807, and was a contributory factor to Britain’s going off gold in 1797.

One can trace this Consols’ wealth effect back further; Pitt’s benign economic conditions and growth in the 1780s were largely caused by a rise in Consols’ prices from £55 to £90 between 1784 and 1792.

It is clear that, owing to Gideon’s financing technique, the size of the government bond market, and its importance in the national economy, the “wealth effect” of fluctuations in bond prices far exceeded any Keynesian stimulus from wartime spending.

Consols in the Context of Overall Wealth Holding

Government bonds were only one of the forms in which wealth was held in the years after 1815. However, unlike other wealth they were highly liquid, and indeed were the only security quoted on the stock exchange from its founding in 1801 until 1822. Over the course of the 18th century, government securities (“the funds”) and Consols in particular had become the principal nonlanded form of wealth holding for merchants and the middle class, who tended to be more liquid than all but the richest aristocracy.

Nevertheless, agricultural land and to an increasing extent urban real estate remained an important component of British elite fortunes. Such forms of wealth storage as gold and silver plate had declined in importance since the 17th century as banks had proliferated, while bank deposits and insurance policies had appeared and at lower levels of wealth the savings bank movement was beginning its long 19th century climb.

The most important form in which wealth was held was still land, though its importance was beginning to decline during this period as mercantile relative wealth increased and landowners diversified their wealth into Consols. Prices of land had enjoyed a massive boom during the Napoleonic Wars, as corn prices had soared from an average of 43 shillings per quarter in 1794 to 127 shillings per quarter in the dearth year of 1812 (Mitchell 2011: 756). Then from 1813 to 1822 corn prices fell, bottoming out at 45 shillings per quarter in 1822 in spite of the 1815 Corn Laws, which had banned imports when the price was below 80 shillings. Jean-Baptiste Say, visiting England in late 1814, commented on the extraordinary profits made by agriculturalists during the war, and on their large investments both in bringing marginal land into cultivation and in mechanizing and up-scaling their operations (Say 1815).

Some of the landowner wealth acquired during the war was redeployed into industrialization, both during the war and in the years after, partly because the profitability of agricultural land declined after the war and did not recover for several decades.9

Consider the case of John Crichton-Stuart, 2nd Marquess of Bute (1793–1848). In 1814, he inherited a very large and liquid landed estate from his grandfather, including major land holdings in South Wales acquired through the 1st Marquess’s advantageous marriage as well as substantial holdings in the funds.

In 1817 he began surveying the Glamorgan coal fields, consolidating his local land holdings as he did so and building the Welsh coal mining industry during the 1820s. Between 1822 and 1848, he also developed the Cardiff Docks, opening the new Docks in 1837 at a cost of £350,000. His activity in both areas brought him huge debts of £494,000 at his death, although his assets greatly exceeded that value, and their profitability developed further, so that in the 1870s his grandson and heir was claimed (probably incorrectly, given the rise of American fortunes by that stage) to be the richest man in the world.

Between 1813 and 1822 the agricultural prosperity went into reverse. While costs fell somewhat, with the deflation attendant on returning to the gold standard in 1819–21, income from land fell considerably further, and landowners who, unlike Bute, did not have substantial outside holdings were sorely pressed. Their situation is well illustrated in an 1822 conversation between the diarist Harriet Arbuthnot, the young (28) wife of Charles Arbuthnot, a Treasury Secretary (junior minister) whose wealth was primarily in Consols, and her older (62) cousin the 10th Earl of Westmorland, Lord Privy Seal (a cabinet minister) and a large landowner: