By Gary W. Cox (Stanford University) and Sebastian M. Saiegh (University of California San Diego)
On 7 December 2022, Peru’s left-wing President Pedro Castillo attempted to dissolve Congress and establish a “government of exception.” However, by the end of the day, he was ousted from power and subsequently arrested. During these events, the Peruvian stock market experienced a significant sell-off followed by a substantial rally. In contrast, the violent protests in the United States on January 6, 2020, where pro-Trump rioters stormed the Capitol building, did not have a notable impact on the stock market. These examples highlight the differing perceptions of political risk between Peru, a country historically prone to political upheaval, and the United States. While Castillo’s failed coup was considered a significant source of political risk, financial markets did not view the attack on the Capitol as posing a genuine threat to the political stability of the United States.
The relationship between political risk and financial markets has received significant scholarly attention, with numerous studies investigating how policy uncertainty arising from political instability, such as wars, revolutions, and coups, can impact stock prices, exchange rates, bond yields, and investor behavior. An emerging literature utilizes historical financial market data to explore political reactions to revolutionary threats. However, much of this research has primarily focused on analyzing individual securities in isolation, rather than considering the broader range of assets that could be at risk in the event of a revolution. Consequently, these studies often overlook potential confounding factors like financial spillovers and government turnovers.
In a recent article published in the Journal of Historical Political Economy, we examine how investors reacted to Britain’s Great Reform Act of 1832. This reform to the system of parliamentary representation in England is often cited as a case illustrating the importance of revolutionary threats in fostering suffrage expansion. The choice seems natural given the wave of revolutions in Continental Europe at the time; the surge of social unrest on the domestic front; and Prime Minister Grey’s famous declaration in the House of Lords that “The principle of my reform is, to prevent the necessity for revolution.” Some observers, taking Lord Grey’s statement at face value, argue that parliamentary reform was a response to a revolutionary threat. Others, however, are skeptical about this view. For example, Dasgupta and Ziblatt (2015) argue that parliamentary reform was a response to a revolutionary threat, using the fluctuations in British bond prices as evidence. Financial economists, however, conclude that the Reform Bill had little effect on securities markets.
Our research contributes to the existing body of work by examining the reactions of a range of securities, beyond the commonly studied Consols, during the reform crisis of Britain’s Great Reform Act of 1832. This approach allows us to differentiate the influence of revolutionary threats, financial spillovers, and government instability. First, we show that, once one controls for financial spillovers using standard methods, there is no evidence of unusual price movements or co-movements in the Consols market. Second, our analysis indicates that an all-Consols investment strategy was riskier than one based on a portfolio of regime-dependent securities, implying that various factors might confound one’s ability to interpret Consol price variability as
stemming from increased threat perceptions. Third, our study reveals that political uncertainty both at home and abroad played a significant role in the propagation of shocks to the Consol market. Collectively, these findings support the notion that Britain’s suffrage reform in 1832 did not pose a fundamental threat to the stability of the regime or property rights. Instead, our research suggests that other factors, such as financial spillovers and political uncertainty, had a more prominent influence on the securities market during that time.
The Great Reform Act of 1832, introduced important changes in the parliamentary representation of England. First, it reapportioned seats in the House of Commons from smaller boroughs to growing industrial towns and county constituencies. Second, it changed the franchise. In the borough constituencies, all male householders occupying property worth $10 a year were given the vote. In the county constituencies, copyholders of land and various groups of tenant farmers gained the vote. The onset of the reform movement appears to have been sparked by a combination of fortuitous circumstances that took place in 1830. These included: the fragmentation of the old Tory party after the passage of the Catholic Emancipation Act; the death of George IV on June 26; the July Revolution in France; the 1830 general election; the agricultural revolts in the English countryside; and the fall of the Wellington Ministry and the establishment of the Whig administration of Lord Grey in November.
The reform process took place against a backdrop of social agitation. Most notably, the wave of rural unrest known as the Swing Riots took place between August 1830 and the spring of 1831. Most historians seem to agree that the Swing rioters were not revolutionaries. Moreover, the rioters had little knowledge about the July revolution in France and no convincing evidence of a strong link between urban radicalism and Swing disturbances exists. That said, it remains possible that elites perceived the Swing riots as harbingers of future revolutionary threats, and supported parliamentary reform as a way to mitigate that risk.
British wealth-holders in the post-Napoleonic era had several investment opportunities, including rent charges, mortgages, bank deposits, state lottery tickets, and trade credits. The three major categories, though, were landed property, equity shares in listed companies, and government long-term debt. Each asset class, in turn, had its own market. The historical evidence indicates that land was not only difficult and expensive to sell, but it was also very costly to manage. Therefore, as an investment vehicle, it was not well suited for short-term speculators. Neither were equity shares, as their investors consisted mostly of wealthy individuals interested in obtaining dividend payments. With regard to long-term government debt, the main security was Consols, a fixed-interest perpetual bond introduced in the early 1750s, with a nominal return of 3%. This asset formed the deepest and most liquid market during the reform era. The market for Consols was distinctive, as it attracted a large number of both: (1) long-term investors, who adopted a “buy-and-hold” strategy, as well as (2) jobbers, or short-term speculators.
Consol Volatility in the Reform Era
The revolutionary wave of 1830–1834 — ignited by the overthrow of the Bourbons in France (1830) — affected many parts of Europe. Belgium (1830) won independence from Holland, Poland (1830–1831) was suppressed only after military operations, and parts of Italy and Germany also rebelled. These particular historical context suggests that volatility in Consols may have been driven by market reactions to foreign, rather than domestic, risks. Bolstering this idea, strong cross-market linkages already existed between Britain and Continental Europe. Most importantly, it was quite common for arbitrageurs to buy/sell British Consols against French Rentes.
Given these cross-market spillovers, one should be able to predict Consol prices well using lagged prices of Consols, Rentes, and other commonly traded assets. In addition, one should be able to do just as good a job during the reform period as well as in more tranquil times. On the other hand, if investors became significantly more worried about regime collapse during the reform crisis, then this should appear as an omitted variable in a simple regression of Consol prices on lagged asset prices. Our statistical analysis, using vector autoregression, indicates that purely financial spillover or contagion, co-produced by imperfections in the financial system and investors’ efforts to cover their losses after the French revolution, can explain overtime trends in Consol prices. Whereas market participants treated French Rentes as if the French revolution posed a serious threat to the regime’s ability to repay its debts, they did not treat Consols as if they perceived a similar threat to the credibility of British debt. Using a simple battery of lagged asset prices, Consols continued to be just as predictable during the reform crisis, as before or after that crisis. Moreover, we find that Consols and French Rentes tended to move in tandem; yet, their co-movement did not increase during the reform crisis. Therefore, these results are not consistent with a revolutionary threat perspective.
A risk of revolutionary overthrow should have affected any security whose worth hinged on the unreformed regime’s stability, including sovereign debt (such as Consols and Reduced Annuities), currency (Pound Sterling), and stocks connected to the government’s politico-economic apparatus, such as the Bank of England and the East India Company. If investors thought that the unreformed regime faced an existential threat, then an all-Consols investment strategy should have been as risky, but not riskier than, one based on a portfolio of regime-dependent securities. On the other hand, Consol risk premia in excess of the Regime portfolio’s returns would indicate that price movements in the Consols market did not respond exclusively to the risk of regime downfall. Instead, the finding that Consols exhibited more risk than the Regime portfolio would suggest that other factors might be confounding one’s ability to interpret Consol price variability as stemming from increased threat perceptions.
Following the capital asset pricing model (CAPM), we estimate the volatility of an all-Consol investment strategy relative to an equally weighted Regime portfolio composed of Consols, 3% Reduced Annuities, Pound Sterling (cash), the Bank of England, and the East India Company using a sample of monthly prices between January 1826 and December 1835. Figure 2 in our paper (reproduced below) displays our results. The situation where the all-Consols investment strategy carried the same risk as the Regime portfolio is represented by the black dotted line. The graph shows that investing exclusively in Consols usually carried the same risk as investing in the portfolio of regime-related assets. Consol returns were more volatile than the Regime portfolio, however, between July 1830 and March 1832 (marked in grey in the graph). In addition to events in Continental Europe, this period witnessed, among other things, the aftermath of George IV’s death, the Swing Riots, the fall of Wellington’s ministry, the cholera morbus outbreak, the activities of the political unions, and the protracted parliamentary reform process. These events, rather than risk of revolution and debt repudiation, could have thus spurred speculative actions in the Consols market.
What Moved Consol Prices?
Financial markets quickly incorporate new information that is publicly available into asset prices. Nineteenth-century investors relied on business journalists to procure information on financial and commercial activities. We, thus, combine daily Consol prices with detailed information on non-commercial risks affecting the Consols market provided by The Times’ Money Market and City Intelligence (MMCI) section for the period between January 8, 1830 and December 31, 1832. Our findings indicate that the variability of Consol returns was higher during periods associated with stories about war/peace in Europe, as well as the Reform Bill, than during “other/no discernible” news periods. In both cases, however, volatility was lower than during days when stories about the government’s survival were published.
We further examine whether uncertainty about the unreformed regime’s survival, rather than uncertainty over partisan control of government, moved Consol prices during the reform era. To distinguish between these alternative sources of variance, we use a Generalized Autoregressive Conditional Heteroscedasticity (GARCH) framework. Our results indicate that neither riots nor parliamentary votes on the reform issue (our proxies for uncertainty about the unreformed regime’s survival) had an effect on the security’s volatility. In contrast, both parliamentary elections as well as government turnover (our proxies for uncertainty over partisan control of government) have a positive and statistically significant effect on the variability of Consol returns.
Implications for Future Research
In our study, we reconsidered Consol price movements during the reform crisis, highlighting the role of two factors — financial spillovers and government turnovers — that might confound efforts to attribute Consol yield spikes to revolutionary fears. We find that that price movements in the Consols market reflected speculative activity spurred by “ordinary” political risk (i.e., a potential change in the partisan control of the government). Therefore, we conclude that suffrage reform did not pose a fundamental threat to the stability of the regime or property rights. Our findings also have implications for the emerging literature that uses historical financial market data to explore political reactions to revolutionary threats. While we focus on Britain’s Great Reform Act, our approach is general enough to accommodate other similar episodes. We, thus, recommend that future studies examine the entire range of assets that would be at risk from revolution and take financial spillovers into account.