Property to Market: The Transformation of Business Investments in Emerging Markets

Abstract

The transformation of business interests into liquid assets is a critical step in the development of a market economy. How ownership interests came to be commodified can be studied in 19th century American businesses and capital markets. This commoditization of ownership interest solved the twin problems of capital lock-in and liquidity that had heretofore dogged partnerships and small corporations. The bringing of these new property interests to market is the subject of this essay.

This paper focuses on the transition from physical, tangible investments to intangible investments represented by stocks and bonds in American 19th century capital markets. At the beginning of the century, America was a nation largely of subsistence farmers and small businessmen. The businesses that were conducted were predominantly small affairs, usually sole proprietorships and partnerships. While, at law, partnerships interests are intangibles, the assets of the business, its operation, management, and liabilities were tangible indeed. That was one of the charms and, ultimately, one of the critical defects of such enterprises. Early 19th century investors, even corporate investors in mills and small factories, thought in tangible terms and saw themselves intimately connected with the business. That connection provided a sense of security, control and safety. It also severely limited size and sources of capital.

Fortunately, as a consequence of sound fiscal and monetary policies, America possessed a strong government bond market. "Wall Street" provided liquidity and investor experience with intangible securities, the Hamilton 6s and other federal bonds. State changes in corporate laws permitted general incorporation (making incorporation relatively easy).

The capital demands of railroads, required to link the agrarian hinterlands with the cities of the Atlantic Coast and Europe, necessitated the corporate form. Modern management pioneered by the Erie and the Boston & Albany railroads substituted for hands on control. Boston & Albany stockholders, and later investors in other railroads and gigantic businesses, quickly accepted the corporate form and widely dispersed holdings, notwithstanding the apparent loss of control. These venturers accepted the loss of control because the emerging markets provided paradoxically two additional critical features: a lock-in for capital, thus avoiding the partnership hold-up problem, and liquidity. These important features of the market gave investors greater confidence. This confidence, in turn, fueled greater investment, lowering the cost of capital, producing greater growth and strengthening the demand for more intangible investments.

Keywords: Wall Street, partnerships, corporations, railroads

JEL Classification: K22, N11, N22, N80, N81