The Dawn of Modern Industry

Proto-industrialization term was first used with reference to the linen industry of Flanders: cottage-based

industry organized by entrepreneurs in Ghent who exported linen cloth to distant markets.

Dispersed, usually rural workers organized by urban entrepreneurs (merchant-manufacturers) who

supply the workers with raw materials and dispose of their output in distant markets

Cottage industry, domestic industry and putting-out system

Proto-industrialization usually refers to consumer goods especially textiles. Well before the advent of the

factory system in the cotton industry, other highly capitalized and large-scale industries existed (manufacture

royales – skilled artisans working under the supervision of a foremen --, deposits in coal industry etc). They

were overshadowed in the 18th century by the rise of new forms of enterprises.

Characteristics of Modern Industry

The most important difference between preindustrial and industrial societies is the diminished role of

agriculture less importance counterbalanced by greater productivity. These differences were first seen in

Great Britain and Scotland.

Main features of modern industry:

Extensive use of mechanically powered machinery machines performed tasks that had been done

more slowly or not done at all. Elementary machines like wheel, pulley, lever had always been used.

Introduction of new, inanimate sources of power, especially fossil fuels substitution of coal for

wood and charcoal for fuel, introduction of steam engine in mining, manufacturing and transportation.

Widespread use of materials that do not normally occur in nature new artificial or synthetic

materials

Larger scale of enterprises in most industries

The industrial Revolution: a misnomer

Early descriptions emphasized “great inventions” and the dramatic nature of changes “The change was

sudden and violent. The great invention were made in comparatively short space of time”. More recently some

scholars devoted their time to measuring the changes in industrial production, national income and discovered

they were very modest. According to Ashton, “the changes were not merely “industrial” but also social and

intellectual.”. The word “revolution implies a suddenness of change that is not proper of economic processes”.

Prerequisites and Concomitants of Industrialization

Intellectual changes were surely the most fundamental changes, in the sense that they encouraged or permitted

the others.

Possibility of harnessing the forces of nature the scientific achievements associated with Newton,

Descartes, Copernicus reinforced such ideas. The influence of Bacon (“knowledge is power”) led to

founding the “Royal Society”. However, it was not until the 19th century that the scientific theories

provided the foundation for new processes and industries. Nonetheless, the scientific method was being

applied (observation and experiment) for utilitarian purposes. A major part of the innovations was

made by ingenious self taught mechanics and autodidacts. It’s better to say trial-and-error than

experimental method in this case.

Increase in agricultural productivity by the end of the 17th century 60% of people in England were

involved in agriculture, especially food production. The most important innovations were 1)convertible

husbandry with alternation of field crops with temporary pastures in place of permanent arable land

and pastures restoring fertility of the soil through improved rotation (ex: leguminous), carrying a

large number of livestock, thus producing more dairy, meat and wool. 2) improved rotation and

selective breeding

A precondition for both were enclosures. Before it was impossible to achieve agreements on the

introduction of new crops or rotation; and with livestock grazing in common herds it was difficult to

perform selective breeding. The most famous enclosures were those carried out by the Parliament acts

between 1760-end of Napoleonic Wars. But there were also private agreements.

A concomitant phenomenon was the gradual tendency towards larger farms By 1851 about 1/3 of the

farms were larger than 300 acres. Even so, the occupiers of small farms outnumbered those of the others by

almost 2:1. This is because small farmers were owner occupiers while larger farmers were capitalistic

tenants hiring people to cultivate their fields. It’s usually thought that enclosures depopulated the

countryside but actually there was an increase in the demand for labor (for the new techniques). Only in the

II half of 19th century with the introduction of machines as threshers and harvesters, the demand

diminished.

Increased productivity enabled the agriculture to feed a burgeoning population at steadily rising standards of

nutrition. It produced surplus for export before the rate of population growth overtook the rate of increase in

productivity. The relatively prosperous rural population provided a real market for manufactured goods

(agricultural implements, porcelain). General process of commercialization in the entire nation.

The origins of the English banking system are obscure, but in years after the Restoration of 1660 some

goldsmiths in London began to function as bankers. They issued deposits that circulated as banknotes,

and granted loans to creditworthy entrepreneurs. The founding of Bank of England in 1694 forced

private bankers to stop issues of banknotes (monopoly), which nonetheless continued to function as

banks of deposits (accepting drafts and discounting bills). The Royal Mint was inefficient: the

denomination of the coins was too large to be useful in paying wages or in retail trading. To fill the gap

merchants issued scrips and tokens that served the needs of local monetary circulation origin of

country banks.

The euphoria of the Glorious Revolution resulted in the creation of joint-stocks companies in the 1690s (like

the Bank of England). It culminated in the financial boom known at the South Sea Bubble (the South Sea

company was created in 1711 with the sole purpose of raising money to prosecute the war). The bubble burst

in 1720 when Parliament passed the Bubble Act: it prohibited the formation of joint stock companies with the

express authorization of the Parliament (normally very loath to grant it). The Act was repealed in 1825. The

IR started without such an important provision of capital. Another consequence of the Glorious Revolution was

to place the public finances in the hands of the Parliament it reduced cost of public borrowing and thereby

freed capital for private investment. It is questionable whether much of it went into the industry directly (but

surely indirectly through transportation & infrastructure investment).

The movement of a large quantity of bulky-low valued goods required cheap and dependable

transportation. Before the railway era water routes provided the most economical and efficient arteries

of transport (island location & good ports). But the demand for improved transportation facilities

increased: river and harbor improvements, canal construction (with private companies chartered by act

of Parliament – an exception to the Bubble Act). There was also a need for inland transportation. The

road were responsibility of parishes, using the forced labor of local inhabitants (deplorable state).

Parliament created turnpike (strade a pedaggio) trusts that undertook to build and maintain stretches

of good roads.

Industrial Technology and Innovation

A century before the industrial revolution (i.e. mechanization of cotton industry), two innovations were

made whose impact was even greater to industrialization, even if many years passed before their importance

was felt:

1) process for smelting iron ore with coke (no more reliance on charcoal) in 1709 Darby

processed coal fuel in the same way other ironmasters made charcoal out of timber. He heated coal in a

close container to drive off impurities in the form of gas, leaving a residue of coke, an almost pure form

of carbon, which he then used as fuel in the blast furnace to make pig iron (ghisa). The continued rise of

the price of charcoal together with such innovations as Henry’s Cort puddling and rolling process of

1783 finally freed the production of iron from reliance on charcoal fuel.

2) invention of the atmospheric steam engine it’s a new and powerful prime mover that

supplemented and eventually replaced wind and watermills as inanimate sources of power. It was first

employed in mining industries. Expanded demand for coal need to extract it from deeper mines.

Some devices were invented but presented technical problems (Thomas Savery invented a steam

pump, which he called “The Miner’s Friend”, but had practical defects such as the tendency to explode).

Thomas Newcomen, however, set out the remedy to these defects by trial-and-error and invented the

atmospheric steam pump. It was mainly employed in coals mines where coal was cheap. The major

deficiency was large consumption of fuel Watt took out a patent for a separate condenser

(eliminating the need for alternate heating and cooling the cylinder). A problem was to find a smooth

cylinder to prevent the steam from escaping. He formed a partnership with Boulton and together used

Wilkinson’s new machine for making cannon barrels as an engine cylinder commercial production

of steam engines. With a number of other improvements they began to be used in other industries

such as flour milling and cotton spinning.

Textile industry The cotton industry had grown prominence in the putting-out system. Wool was more

important in England and Wales, while linen in Scotland and Ireland (it was the material used to bury

people). The silk industry used factories and water-powered machines in imitation of the Italians, but the

demand was low due to high cost and continental competition. Cotton cloth was introduced in Lancashire in

the 17th century. Since it was new, it was less subject to restrictive legislation and guild rules and to

traditional practices that obstructed technical change. Some labor-saving inventions:

1) John Key’s flying shuttle (1733): enable one person to do the work of two, nonetheless increasing

the demand for yarn (filo)

2) James Hargreaves’ spinning jenny (invented in 1764, patented in 1770): spinning wheel with a

battery of several spindles instead of one.

3) Richard Arkwright’s water frame (1769): since it operated with water power and was heavy,

factories were built near streams and required few adult males, while children and women were mostly

used.

4) Samuel Crompton’s mule: combined elements of the frame and jenny: it could spin finer and

stronger yarn. After being adapted for steam power, it became the favorite machine for spinning. It

allowed the large scale employment of children and women (like the frame) but also the concentration

of factories in cities where coal was cheaper (unlike the frame).

5) Edmund Cartwright’s power loom (telaio) (1785): replaced the handloom weavers.

raw materials: the supply was not keeping up with the demand because it was costly to separate seeds

by hand even with slave labour. The invention of the “gin” (engine) made the South US the major supplier of

raw material. The drastic reductions in the price of cotton manufacture affected the demand for wool and

linen: these industries were encrusted with tradition and regulation and the physical characteristics of their

raw material also made them more difficult to mechanize.

Manufacture industry Also other industries were involved in drastic changes. Adam Smith wrote in the

Wealth of Nations of the great increases in productivity in a pin factory just by specialization and division of

labor. It’s a symbol of all the industries involved in the manufacture of consumer goods (pottery, pans,

clocks etc). 1) pottery: The introduction of a fine porcelain from china led to a fashion to substitute it for

gold and silver plates + popularity of tea and coffee led them to prefer “chinaware” to wooden or pewter

bowls. 2) chemical industry: advances resulted from the work of Lavoisier + empirical experiment of

manufacture of soap, paper, glass, dyes etc. Chemists learned from the industrial use of substances as

much as the latter benefited from chemical science. An example: sulfuric acid, known to alchemists, whose

production was expensive and dangerous due to corrosive properties. Samuel Garbett started producing it

on a larger scale and replaced sour milk and buttermilk in the textile industry. It was then replaced by

chlorine gas as bleaching agent. Another group of widely used chemicals was caustic soda and potash.

Coal industry coal mines were responsible for the first railways. In the 17th century, tracks and rails had

been used in the vicinity of mines to facilitate haulage, with horses as the usual draft animals. The steam

locomotive was the product of a complex evolutionary process with many ancestors. steam engine: too

heavy and cumbersome and did not generate enough power per unit of weight to serve as locomotive.

Moreover, Watt himself opposed to this use (dangerous) and as long as his patent was in force (until 1800)

effective progress was barred. Richard Trevithick built the first locomotive (not an economic success): road

couldn’t bear the weight. He built another for coal mines but again problem with weight. George Stephenson

was more successful: he built a stationary steam engine with cables for hauling empty coal back to the mine

from the loading wharves. In 1822 he persuaded a mine to use it instead of horses.

Regional Variation

England 1) coal fields in the northeast and Midlands + Lancashire. 2) cotton in Lancashire + East

Midlands (Derby and Nottingham). 3) iron industry: West Midlands (Birmingham), South Yorkshire and

northeast (New Castle). 4) woolen industry: Leeds + East Anglia 5) pottery industry: Staffordshire. The

south was wealthy but mostly agricultural. On the contrary, the north lagged behind most other regions

in income and wealth.

Wales large iron industry mainly concentrated in the south (Swansea). The interior part of the

country, infertile and mountainous, remained pastoral and poor.

Scotland Unlike Wales, maintained its independence form England until 1707. It was backward and

poor, the majority of population still engaged in near-substance agriculture. Less than a century later, it

produced more than a fifth of cotton textiles and more than a fourth of the pig iron. Scotland

remarkable transformation has long been debated. 1) not a lot of natural resources 2) its inclusion in

the British Empire gave access to the market (especially colonies in North US). 3) educational system,

with parish schools and 4 universities (#2 in England) 4) precocious banking system, free of

government regulation, gave easy access to credit and capital. 5) absence of a central government

Ireland its population more than doubled without appreciable industrialization or urbanization.

When the potato famine struck in 1840s, Ireland lost a fourth of its population in less than a decade

through starvation and emigration.

Social Aspects of Early industrialization

Population increased during the industrialization, until reaching a peak in 1811-20 (then slightly declined). It

was a general European phenomenon, but certainly related with industrialization (in part) 1) the rate of

birth rose for early marriages (cottage industry allowed couple to set up households without waiting for a

farmstead or completing an apprenticeship) 2) death rate declined for the introduction of inoculation against

small pox + vaccination + introduction of new hospitals + rise of standard of living 3) agricultural progress

brought abundance and variety of foodstuffs, improving nutrition 4) increased coal production made for

warmer dwellings 5) soap production indicated awareness of personal hygiene 5) cotton cloth contributed to

higher standards of cleanliness.

Immigration and emigration affected the population. The economic opportunities of England and Scotland

attracted Irish people (even before the famine) + British, Scottish, Welsh and Irish left for English colonies.

Even more important for economic process was internal migration From the countryside to growing

industrial areas, it created two important changes in the special distribution: 1) a shift in density from the

southeast to the northwest 2) increasing urbanization. The census of 1851 classified more than half of the

population as urban . The growth of city was not an unmixed blessing: nonexistent sanitary facilities, no

drainage facilities, narrow and unlighted streets. Deplorable conditions arose from inadequate planning and

lack of experience of local authorities. Although the agricultural force continued to grow, the increase of the

rural population was not absorbed by cottage industry as well as purely agricultural labor.

Factory workers received higher wages than agricultural workers/workers in domestic industry because of

higher productivity as result of technological advance and provision of more capital per worker. This is only

true for adult males, not children and women (the idea that their employment is a novelty of the IR is

misleading). Real wages started rising due to high demand of labor which increased the standard of living.

Some groups like factory workers and skilled artisans improved their lot, while handloom weavers disappeared

as a result of technological obsolescence. On balance, there was a gradual improvement, even if the distribution

of wealth became more and more unequal.

Economic Development in the 19th century: Basic Determinants

The 19th century witnessed the definite triumph of industrialism as a way of life in Europe, especially western

Europe. The transformation took different shapes depending on local circumstances and timing of the onset of

the industrialization.

Population

By 1800 the population had risen to almost 200 million (1/5 of the estimated total). Population growth

continued in the 19th century (the rate in Europe decreased, while in the rest of the world increased). Such

rates were unprecedented: apart from short term fluctuations (the Black Death), population had doubled every

1000 years until the 18th century, while in the 19th it doubled in less than 100 years (now <30 years). Britain

and Germany (very industrialized) had rates of growth in excess of 1%. Russia was the one with the highest

rate (despite being backward), while France lagged for behind the others. Thus no clear correlation between

industrialization and population growth.

Other causal factors 1) improvement in transportation allowed large-scale importation of foodstuff

from overseas. Agricultural resources were a constraint 2) increase in agricultural production: amount of

cultivated land increased (ex Russia + East Europe) + output per worker increased due to better knowledge of

soil chemistry (fertilization) + use of tools and implement (lower cost of iron). 3) cheap transportation

facilitating migration of population. Migration was of two kinds: international and internal. People moved

(almost always voluntarily, in response to economic pressure) to US, Canada, South America. Important

regional shifts took place in all countries: a fundamental change is the growth of urban population (in toto and

as percentage of the total). At the beginning of 19th century Britain was the most urbanized nation (30% of

population) + similar proportion in the Low Countries. The population was mostly concentrated in large cities

(the proportion of people living in large cities had risen from 27% to 70%). Many reasons for that: before it was

impossible to supply large urban population with the necessities of life (cheaper to carry food and raw

materials to distant markets than to concentration of workers), but after the introduction of steam power and

factory system, the transition from charcoal to coke as fuel and improvement in communication, the situation

changed.

Resources

Europe didn’t experience any increase in the natural resources, but the ones formerly unknown or of little

value acquired importance. This is the case of coal: regions well endowed became the leaders of

industrialization, while those not well endowed imported it (when hydroelectricity was introduced, some of

these regions such as Switzerland, France and Italy obtained a new source of competitive advantage). There

was a systematic search for previously unknown resources and scientific research to enhance their exploitation.

In the 19th century the search for new materials led Europe to extend control over parts of Asia and Africa.

The development and diffusion of technology

According to Simon Kuznets, an economic epoch is determined and shaped through the applications and

ramifications of an “epochal innovation”. For example a large part of economic history from 1492 to 1776 can

be explained by reference to the progress of exploration and discovery, maritime commerce and growth of

navies. The modern economic epoch is associated with this epochal innovation: “extended application of

science to economic processes” (latter half of the 18th century). But as we said before, it’s better to refer to it

as “era of the artisan inventor”. After 1870 however, scientific theories formed the basis of technological

progress: electricity, optics, organic chemicals influenced metallurgy, power production, food processing and

preservation.

We have to make a clear distinction between invention, innovation and diffusion of a technology.

Invention refers to a patentable novelty of a mechanical, chemical or electrical nature. It has no

particular economic significance until it’s inserted in the economic process (i.e. when it becomes an

innovation). That’s the case of Watt’s separate condenser who became useful only when in partnership

with Boulton the steam engine was commercially produced.

Diffusion refers to the process by which an innovation spreads within a given industry, among

industries and across geographical frontiers. It’s not an automatic process of replicating the initial

innovation (it has to be adapted to the different conditions met).

The industrial superiority of GB rested on major technological advances in the 2 main industries (cotton textile

and iron manufacture). Until about 1870 the effort of many continental industrialist was devoted to acquiring

and naturalizing these technological gains. Meanwhile, however, the pace of technological change accelerated

and spread to industries not previously affected by science-influenced technology nonexistent industries

were created ex-novo.

Transport and communication

The steam locomotives and iron/steel railway, more than any other innovation, epitomized the economic

development. Before inadequate transportation was an obstacle in Europe and US to industrialization. Lacking

Britain’s endowment of waterways and handicapped by greater distances to cover, American industrialists

found themselves in a market with little scope for extensive specialization and extensive capitalization

railways offered cheaper transportation and increased demand for iron, coal, timber etc.

Railways Starting from the opening of Stockton-Darlington and Liverpool-Manchester railway (1825)

British network developed rapidly (also thanks to liberal parliamentary policy, allowing the formation of

joint-stock companies). US outstripped even Britain and rivaled all Europe in the construction of railways

(it drew on European capital and on enthusiasm of private promoters and local governments to span vast

distances). Belgium, rejoicing its newly won independence, resolved to build a comprehensive network at

state expense to facilitate export. Germany, although divided, began with the Nurenberg-Furth line and

achieved a lot (both private and state enterprises). In France, the parliamentary discussion on that rivalry

(private vs state-owned railways) held up the railway era until the coming of the II Empire (although a plan

was already present). In Austria by midcentury only 1700 km of railways were in operation and those

almost exclusively in Bohemia and in the German speaking portions of the empire. In Netherlands

transports were facilitated by the network of canals and few bricks of highways (flat territory). In Italy only

a few short railways had been constructed until the advent of Camillo Benso of Cavour. In Russia the tsar

connected Moscow and St. Petersburg (the history says he drew a straight line on a map and said that this

was to be the railway). In other parts of Europe only after the midcentury it was the great age of railways.

They were primarily build with the aid of British engineers. Continual improvements in locomotive design

created the huge machines we know (electric traction and diesel engines challenged steam engines). The

famed Orient Express from London to Paris to Constantinople made its first run in 1888.

Ships The steamship, although developed before the locomotive, played a less vital role in the expansion

of commerce and industry until the late century. In the first half of the century steamers made their greatest

contribution in the development of inland commerce. Credit for the invention of the steamboat is given to

the American Robert Fulton, whose ship Clermont made its first run on the Hudson in 1807. Regular

transatlantic voyages started in 1838 (in 1840 Samuel Cunard inaugurated his famous line). The true age of

ocean steamers did not arrive until the invention of screw propeller, compound engine, steel hulls and the

opening of the Suez Canal.

Written & Oral Communication

1) Some important innovations were the paper making machinery (1800) and the cylindrical printing

press, first used by the Times in 1812, greatly reduced the cost of books and newspaper. Wood pulp

replaced rags as raw material in 1860s. This contributed to bringing literacy to the masses. In 1885 the

linotype machine was invented, further extending the influence of the daily newspaper. The invention of

lithography and photography made possible the dissemination of visual images. The mail system adopted a

flat-rate, prepaid postal charges and favored the use of mail.

2) invention of the electric telegraph by Morse + successful submarine cable laid under the English

Channel in 1851. The telephone was patented by Bell in 1876.

3) Marconi invented the wireless telegraphy (radio) in 1895. In the 1901 a message was transmitted

across the Atlantic. In the field of business communication the invention of the typewriter helped busy

executives to keep up with the work and played also a role in bringing the women in the office work force.

The Institutional Framework

Some legal and social environments are more conductive to advance than others Europe gave wide

scope to individual initiative and enterprise, to freedom of occupational choice and geographical and social

mobility, relied on private property and the rule of law, emphasized the use of rationality and science in the

pursue of material ends.

Legal Foundations

GB had acquired a modern framework for economic development, adapted both social and material innovation

“common law” (because from at least the Norman Conquest it was common to the entire kingdom of

England). The distinctive feature is its reliance on custom and precedent as set forth in written legal decisions,

its flexibility. It provided protection for private property and interest against the depredation of the state and at

the same time protected the public interest from private exactions (e.g. by prohibiting combination in restraint

of trade). It also incorporated the “merchant law”. It became the basis for the legislation of US and British

colonies.

On the Continent, the French Revolution, by shattering the Old Regime, opened new vistas and opportunities

for enterprise and ambition the charter of the new order has to be found in the “Declaration of Rights of Man

and Citizen” (borrowed from American Declaration of Independence, itself borrowed from the French

philosophes). It declares “men are born free and equal in their rights”, that is liberty, property, security and

resistance to oppression. The necessary guarantees are: uniformity of laws, freedom of speech and of press,

equitable taxation. In addition to abolishing the feudal regime and establishing private property, the

revolutionary assemblies did away with all the internal custom duties and tariffs, abolished guilds and the

whole apparatus of regulation in industry, prohibited monopolies, chartered companies, and replaced

the old with a new rational taxation system. They also prohibited organizations or associations of both

workers and employers. These revolutionary reforms were extended in all the conquered lands (Belgium, Italy,

part of Holland and Germany, Prussia). In the end modern French institutions received their stamp from

Napoleon who had the ability to synthetize the rational achievements of the revolution with the deeply

ingrained habits and traditions.

Code civile (1804) compromise between the Roman Law and new revolutionary principles: equality

before the law, a secure state, freedom of conscience and economic freedom. It reflected the

preoccupation of the propertied classes it protects property as an absolute, sacred, inviolable right. It

recognized the bill of exchange and authorized loans at interest.

Code de Commerce (1807) distinguished 3 type of enterprise: 1) simple partnerships, where the

partners were individually and collectively liable for all debts of the business 2) sociétés en

commandite, limited partnerships in which the active partners assumed unlimited liability, while the

silent or limited partners risked only the amount they actually subscribed. 3) sociétés anonymes,

corporations in the American sense with limited liability for all owners. For these privileges, each

anonyme had to be chartered by the Government (very loath to grant them). On the other hand, a

commandite could be established just by registering to the notary public and became the favorite form

of business: it allowed to gather capital for commerce and industry in the transitional period before free

incorporation (corporations were present in US already from 1840s).

N.B. In UK (1720: Bubble Act) 1825: The Bubble Act is repealed but incorporation has to receive a special

charter until 1844 when associations of 25+ people were allowed to form joint-stock companies by simple

registration. Limited liability was completely available only from 1850s and under certain conditions.

Patterns of Development: The Early Industrializers

Three ways to interpret the phenomenon of Industrialization:

1. The process of industrialization is a European wide phenomenon (US was influenced by European

culture) Some scholars had even estimated the “European gross national product”: easy to criticize but

true in general for 1) numerous short-term fluctuations and 2) the steady long-term growth.

2. Industrialization was basically a regional phenomenon the region might lie within a single nation

(Lancashire) or across different boundaries (Austrasian coalfields).

3. Industrialization can be seen in terms of national economies different advantages: 1)most measures

of economic activities are collected in terms of national economies. 2) the institutional framework and the

policies intended to influence the direction and character of the activity are most often set within national

boundaries.

These interpretations are not mutually exclusive

Great Britain

At the end of the Napoleonic war it was the leading manufacturing nation, producing ¼ of the total world

industrial production. Moreover it emerged as the world leading commercial nation as well, accounting for

between ¼ and 1/3 of total international commerce. After 1870, although output and trade continued to

increase, it gradually lost his lead (US overtook it in industrial production in the 1880s and Germany in the

1900s). It was still the leading commercial nation closely followed by the other two textiles, coal, iron and

engineering were the basis of English prosperity:

Textiles: in 1880 the production of cotton yarn and cloth surpasses that of the rest of Europe combined

Iron: peak around 1870, producing more than half of the world’s iron. In 1890 US snared the lead.

Coal: Britain maintained its lead in Europe and produced a surplus for export.

Engineering: can trace its root in all the aforementioned industries textile industry needed machine

builders and menders, iron industry produced its own, coal industry needed pumps and cheap

transport (steam engine and railways). The foreign demand of British expertise, materiel and capital

provided a strong stimulus for the whole economy. Another was the evolution of the shipbuilding

industry from sail to steam propulsion and from wood to iron. In the 1900s the British shipbuilding

industry produced more than 1 M tons a year (more than 80% of the total).

These achievements notwithstanding, the pace of GB industrialization doesn’t have to be exaggerated even

as late as 1870 half of the total steam horsepower was in textile. The great majority of industrial workers

in 1850 were not in large-scale factories but craftsmen in small workshops. Agriculture was still the largest

employer (until 1920) with domestic service second. Britain reached the peak of industrialization in 1850-70.

The growth rate of GDP was 2.5% (less than US and Germany, and on a per capita basis lower than France,

considered a laggard). How should this lackluster performance be evaluated?

Growth rates are misleading because units with a small statistical base can post high growth rates with very

modest absolute increments of increase Britain’s relative decline was inevitable, it could not keep its

preeminence indefinitely.

In view of vast resources of Russia and US it’s not surprising that they would overtake GB in total output.

It’s more difficult to explain the low rates in GDP per capita.

Availability of resources and access to raw materials as a problem: the cotton industry had

always depended on imported raw material, native ores of nonferrous metals were gradually

depleted or could not compete with the cheap supply from overseas.

Entrepreneurial failure: despite having very successful entrepreneurs (Lever Brothers and

Thomas Lipton), late Victorian entrepreneurs did not exhibit the dynamism of their forebears since

they adopted the lifestyle of leisured gentlemen and left the day-to-day operations to hired

managers. Signs of lethargy were the tardy introduction of organic chemicals, electricity, aluminum,

the slow and incomplete adoption of the Thomas-Gilchrist process and Siemens-Martin furnace

(although many inventors were British)

Educational system: GB was the last major Western nation to adopt universal public elementary

schooling, important for training a skilled labor force. The few great universities paid little attention

to scientific and engineering education (Scottish did however): they were primarily engaged in

educating aristocrats with the classics.

Dependence on import and export for its material wellbeing : the commercial policies,

especially tariffs of other nations had important repercussions. Moreover, GB had by far the largest

merchant marine and the largest foreign investments, both important earners of foreign exchange.

Britain had an unfavorable balance of commodity trade the deficit was more than covered by

earnings of the merchant marine and foreign investments. The importance of these can be judged

comparing GNP growth between 1856-73 (2.5) with 1873-1913 (1.9). The comparable figures for

GDP (GNP minus foreign earning) were 2.2 and 1.8.

To conclude, the per capita real income increased by 2.5 times between 1850-1914, income distribution

became slightly more equal, the proportion of population in dire poverty fell and the average Briton in 1914

enjoyed the highest standard of living in Europe.

The United States

It’s the most spectacular example of economic growth in the 19th century.

Population growth In 1790 there were less than 4 millions inhabitants, while in 1870 almost 40 million.

Although they received a lot of immigration from Europe, the largest part is natural increase. The foreign-

born population never surpassed 1/6 of the population. The number of immigrants rose from 10.000 in

1820-30 to more than 1 million in the early 20th century (mainly Western Europe).

Income and wealth growth these factors grew even more rapidly than population. From colonial times

the scarcity of labor in relation to land meant higher wages and higher standard of living than in Europe.

The average income per capita at least doubled between the adoption of the Constitution and the outbreak

of Civil War. What the sources of this enormous increase?

1. Abundant land and rich natural resources they can explain high GDP per capita but not

growth.

2. Progress of technology and regional specialization (same factors in Europe)

3. Scarcity and high cost of labor placed a premium on labor-saving machinery, in agriculture as

well as industry. In Europe we have higher return per acre, but in US the use of relatively

inexpensive machines obtained far larger yields per worker. Similar situation in manufacturing.

4. Huge dimensions of US + varied climates and resources allowed a greater degree of regional

specialization At the time of the independence 90% of labor force was engaged in agriculture,

and much of the remainder in commerce. In 1789 the first factory industry was established by

Samuel Slater from England. This dichotomy (manufacture vs agriculture&commerce) was present

also in the political debate: 1) Hamilton wished to sponsor manufactures through protective tariffs

2) Jefferson promoted agriculture and commerce. Jefferson won but Hamilton’s ideas triumphed.

The New England cotton industry emerged in 1820s.

5. Size as potential for a large domestic market, free of artificial trade barriers to realize this

potential a good transportation network was needed. At the beginning of the 19th century

population was scattered, communication was through coastal shipping and a few rivers. To remedy

this deficiency the states and municipalities engaged in the construction of turnpikes and canals. A

reason for the disappointing performance of canals is the advent of railway: although for many

years they mainly depended on British technology and capital, by 1840 the length of railways

surpassed that of Britain and of all Europe. Railways were important not only as transportation

services, but also for their backward links to other industries especially iron and steel. After the

Civil War with the widespread adoption of coke-smelting, introduction of Bessemer and open

hearth process and the expansion of demand for railways, this quickly became the largest industry

is US.

In spite of the rapid growth of manufactures, US remained a predominantly rural country throughout the 19th

century. This was because much manufacturing took place in rural areas (ex. Iron industry). It was the advent

of electricity-generating stations that caused the decline of rural-based industries. Agricultural products

continued to dominate American exports, although the non-agricultural labor force surpassed workers in

agriculture in the 1880s, and the income from manufacturing began to exceed that from agriculture in the same

decade.

Belgium

It’s the first region to fully adopt the British model of industrialization. Despite its frequent upsetting political

changes (under Hasbourgs, France, Netherlands), it exhibited a remarkable degree of continuity in its pattern of

economic development proximity to Britain is not negligible but there were other fundamental reasons:

1. Long industrial tradition Flanders was an important center of cloth production in the Middle Ages,

and in the east the Sambre-Meuse was famous for its metal-wares and Bruges & Antwerp were the first

northern cities to adopt the Italian commercial model in the Middle Ages

2. Natural resources endowment resembled that of Britain easily accessible coal deposits and,

despite its small size, Belgium produced the largest output of any continental country until 1850. A

Belgian entrepreneur, Mosselman, played a leading role in founding the modern zinc industry

3. Location, traditions, political connections it received important infusions of foreign technology,

entrepreneurship, capital and enjoyed a favored position in certain foreign markets. The Biolley family,

natives of Savoy, settled in Terviers and entered the woolen industry. In 1720 O’Kelley erected the first

Newcomen steam pump near Liège. Ten years late Sanders build another for a lead mine at Vedrin. In

1791 the first Watt-type engine was installed near Paris. Coal miners were the largest users of both the

Newcomen and Watt varieties and also attracted the greatest amount of French entrepreneurship and

capital. The network of canals connecting northern France with the Belgian coalfields greatly facilitated

this traffic. The cotton industry grew up in the city of Ghent . Already the principal market for the rural

linen industry of Flanders, the city saw the establishment from the 1770s of several calico printing

works (te di cotone a stampe) (without mechanical power). At the beginning of the 19th century a local

entrepreneur went to England as an industrial spy and smuggled some Crompton mule spinning

machines, a steam engine and some skilled workers: he found the Belgian cotton industry. (storia della

Cockerill family: it became largest industrial enterprise in the Low Countries – coal, iron mines, blast

furnaces, refineries, rolling mills and machine shops.)

The Belgian Revolution (1830), mild in terms of loss of lives and property, nevertheless produced an

economic depression because of the uncertainty over the future. The depression was short and the middle

years of the decade witnessed a boom. The main reasons were: 1) government’s decision to build a

comprehensive railway network at state expense 2) a remarkable institutional innovation in the field

of banking and finance.

In 1822 King Willem authorized the formation of a joint-stock bank, the “Societè generale pour favoriser

l’Industrie des Pays-Bas” with headquarters in Brussels. He endowed it with state properties valued at 20

million florins and invested a considerable portion of his private fortune in its shares. Between 1835-38 it

created a societè anonyme with a combined capital of 100 million francs, including blast furnaces and

ironworks, coal mining companies etc. It had the help of James de Rothschild of Paris, the most influential

investment banker. In 1835 a rival group obtained a charter for another joint-stock bank, the Bank de

Belgique, which in less than 4 years established 24 industrial and financial enterprises. More than 9/10 of its

capital was French.

By 1840 Belgium was the most industrialized country in the Continent and in per capita term very close to GB.

Like other early industrializers, its rate of growth slightly decreased, although it remained the most highly

industrialized nation in the Continent in per capita output, second only to Britain. Throughout the century

Belgian industry depended heavily on the international economy; ultimately 50% of GNP derived from exports

(especially France). Indeed, if Belgium had been incorporated with France we would have lost important

statistics on regional economy.

France

Although the pattern of industrialization in France was different from that of GB and of other early

industrializers, the outcome was no less efficient. In seeking a solutions we have to look at the determinants of

growth:

1. Low demographic growth when all relevant measure of GDP are reduced on a per capita basis,

France results to do very well indeed.

2. France did not rely on abundance of resources although not deprived totally of coal, was much

less well endowed and the character of its deposits rendered their exploitation more expensive. This

implies consequences for coal-related industries such as iron and steel.

3. In technology France was no laggard French scientists, inventors took the lead in many industries

(hydropower, steel, aluminum, automobiles). The Revolution and Napoleonic Regime provided the

appropriate institutional context for most continental Europe.

The modern economic growth started in the 18th century: for a century the rates of growth were similar to that

of Britain although France started and ended with a lower per capita output. A reason affecting the 2

economic performances is the fact that from 1790 to 1815 France was involved in the so-called “first modern

war”, involving mass conscription of manpower. During the war the demand expanded, but along established

lines with little technological advance.

After a sever post-war depression, the French economy resumed its growth at even higher rate than the 18th

century. For the period 1871-1914 the GNP grew at an annual average of 1.6 (vs 2.1% of BG and 2.8% of

Germany). These figures can be misleading for three reasons: 1) when they are reduced on a per capita basis,

we have 1,4% for France, 1,7% for Germany and only 1,2% for GB. The slow demographic growth of France

accounts in large measure for the slow growth of the economy as a whole. 2) Even per capita rates can be

misleading because Germany began with much lower per capita income and thus smaller statistical base 3) Due

to the outcome of the Franco-Prussian war, Alsace and Lorraine became part of the German Empire (very

dynamic provinces)

Industrial production grew even more rapidly than total product (2/2.8%). The variations depend not only on

different methods but also on the industries included in the estimation. In the first half of the century

handicrafts, artisans and domestic industry accounted for ¾ of the “industrial production”. The output of these

activities grew more slowly than that of modern factories. Thus their exclusion from the indexes shows

apparently a greater growth rate. Between 1820-1848 the economy grew at moderate/rapid rate, punctuated

by minor fluctuations: the iron industry adopted the puddling process and began the transition to coke

smelting. A number of new industries originated or were quickly domesticated in France such as gas lighting,

matches, photography and galvanization. Between 1815-1847 growth rate was 4.5% (since prices were

falling it was even greater). Moreover France had a sizeable export surplus in commodity trade (it obtained

resources for substantial foreign investments).

The political and economic crisis of 1848-51 inserted a hiatus in the rhythm of development, but with the coup

d’etat of 1851 and the proclamation of the Second Empire it resumed its former course. The economic reforms

of 1860-67 (free trade treaties and liberalized incorporation laws) provided fresh stimuli. It suffered for the

1870-71 war and the depression of 1873 (but less than other industrialized countries). There’s another boom

in 1881, when the railway network grew from 3000km to more than 27.000. This provided a direct and indirect

stimulus for the rest of the economy: the iron industry completed the transition to coke smelting, adopted the

Siemens-Martin process for cheap steel, trade increased by more than 5% annually. The depression which

began in 1882 lasted longer, for various reasons: 1) disastrous diseases affecting the wine and silk industries 2)

large losses on foreign investments from defaulting governments and bankrupt railways 3) world-wide return

to protectionism and new french tariff in particular + bitter commercial war with Italy. With the advent of new

industries as electricity, aluminum, nickel, automobiles and the extension of the Lorraine ore fields prosperity

returned at last, in the pre-war period, in the so-called “Belle Epoque”, where French people enjoyed the

highest European standard of living.

Some key features of French pattern of growth, mainly related to low rate of demographic growth and

relative scarcity of coal:

Low rate of urbanization in part due to low rate of demographic growth, but also to the large

proportion of labor force employed in agriculture (about 40% in 1913). This can be the reason for

France “retardation”, but we can also note that France was the first industrial nation to be self-sufficient

in foodstuffs, and indeed had a surplus for export.

Scale and structure of the enterprise France was famous for the small scale of its firms. Those

employing fewer than 10 workers were in the traditional artisanal sectors, such as food processing,

clothing and woodworking, while those with more than 100 workers were mainly in modern industries

– chemicals, glass, paper, rubber as well as mining, metallurgy. Other characteristics of small

enterprises were: 1) high value added (luxury article) 2) geographical dispersion. Rather than

having a few conurbation of heavy industries (=Germany, GB), France had widely disperse and diverse

industries. This depended on the power sources available.

Sources of industrial power France was the least endowed with coal among the early

industrializers. At the beginning of the 20th century production per capita was only 1/7 of that of GB,

although it was exploiting reserves at higher rate. Moreover, mines were located distant from markets

and were difficult to access before the coming of the railway. For the whole century France depended

on imports for about one third of its coal consumption. To offset the scarcity and high cost of coal

France relied a lot on water power. It imposed constraint on location (generally remote from the

centers of population), the number of users was limited and the size of installations was limited too.

Thus, water power was the key determinant of the patter of France’s growth: small firms size, dispersed

industries and low urbanization.

Germany

Germany was the last of the early industrializers. Poor and backward in the first half of the 19th century, it was

predominantly rural and agrarian. Poor transportation and communication held back economic development,

and the numerous political divisions with separate monetary systems, commercial policies further retarded

progress. In contrast, on the eve of IWW, it had the largest industries for the production of steel and iron,

electrical power and machinery, high degree of urbanization and dense railway network. How did this

remarkable transformation come about? Three distinct periods: 1) from beginning of the century to

Zollverein (1833) with gradual awakening to European economic changes + formation of institutional

conditions allowing them 2) conscious imitation and borrowing the actual material foundation –

transportation and finance took shape (until 1870) 3) industrial supremacy

In all the 3 period foreign influences were very important: legal and intellectual from the French Revolution

and Napoleonic Regime + inflow of capital, technology and enterprise (in the second period). The French

influence was strong in the left bank of the Rhine and Prussia: an edict of 1807 abolished serfdom,

permitted the nobility to engage in “burgeois occupations (commerce) without derogation to their status”

and abolished the distinction between noble and non-noble property, effectively creating “free trade” +

removed the guilds and ameliorated the status of the Jews.

Formation of the Zollverein (toll or tariff union): Prussia led the foundations of it by enacting a common

tariff for the whole state, in the interest of administrative efficiency and high fiscal yield. Several small

states joined (except from Austria), resulting in the creation of the Zollverein itself. Measures: 1)

abolishment of internal toll and custom barriers (“common market”) 2) creation of a common external

tariff, following a liberal (low-tariff) commercial policy), mainly to exclude protectionist Austria.

Railways Zollverein made a unified Germany possible, the railways made it a reality. The rivalry among

German states hastened the process (as it had done with universities) and the network expanded more

rapidly than France (who had a unified government but was divided over the question of state vs private

enterprises). The agreements on routes, rates and technical matters resulted in greater states cooperation.

Moreover, the progress in coal and iron industry owes much to the extension of railways, because of both

direct demand of railways for their output and the lower cost of transportation they provided.

Coal the key to rapid growth of this industry was the Ruhr coalfield. Just before WWI it produced 2/3 of

German coal. Prior to 1850 the region was less important than Silesia, Saar and Saxony, but when in the late

1830 the “hidden” (deep) seams north of the Ruhr valley were discovered, the coal production rose very

rapidly. However, their exploitation required greater capital, more sophisticated techniques and greater

freedom of enterprise (all supplied by foreign firms).

Iron in the 1840 this industry had a primitive aspect. The first pudding furnace began production in 1824

(financed by foreign capital). By 1855 there were 25 furnaces in Ruhr and same in Silesia: they produced 50%

of German’s pig iron, even if charcoal furnaces still outnumbered them of 5:1

Steel Production of Bessemer steel began in 1863 and the Siemens-Martin process was adopted soon

afterward. During 1870-1913 the whole steel production increased by more than 6%: in 1895 Germany

production surpassed that of GB, and by 1914 produced twice of GB output. The industry was large not only

on total output but also in its individual units (average firm production more than 2x GB). German firms

quickly adopted the strategy of vertical integration, acquiring coal and ore mines, coking plants etc.

The year 1870-71, so dramatic for France, was less dramatic for Germany: economic unification had already

been achieved and the successful outcome of the war (5 billion francs indemnity) added euphoria to the

economic boom already in process. In 1871 alone, 207 new joint-stock companies came into existence. German

investors began to buy back foreign holdings of German firms and to invest also abroad. After a small

depression for the financial crisis of 1873, the course of growth resumed more strongly than before (3%

annually). The most dynamic sectors were the ones producing capital goods or intermediate goods

(#consumer goods in France) such as coal, iron, steel, chemicals and electricity. This explain the different

patterns of growth.

Chemical industry stimulated by the new literature on agricultural chemistry, a German invention,

farmers also demanded artificial fertilizers. Unburdened by obsolete plants and equipment, entrepreneurs

could use the latest techniques. This is exemplified by the advent of organic chemicals. The first synthetic

dye was invented by the English Perkin who had studied under Hoffman, a German chemist. Within a few

years the industry, drawing on the university resources, established its dominance in Europe. This industry

was also the first one to establish its own research facilities and personnel.

Electrical industry on the size of the demand, the rapid urbanization occurring alongside with the

growth of industry gave it an extra fillip (no struggles against gas light industry as in GB). Illumination and

urban transport were the first use of electricity but entrepreneurs soon developed other uses (ex: electric

motors competed with steam engines by the beginning of the 20th century)

Large size of firms : not simply explained by technical economies of scale (required to cover fixed costs in

deep mining for example). Sometimes there were also pecuniary economies of scale (arrangements that

provided extra profits to entrepreneurs by reducing the real cost to societies). The close connection btw

banking system and manufacturing firms is frequently held responsible (relationship banks).

Prevalence of cartels: it’s an agreement among nominally independent firms to reduce output, to fix prices,

divide markets and engage in anticompetitive practices. Such contracts were illegal in GB and US. The rapid

growth of Germany, against all economic theory, is explained by the combination of cartel and protectionist

tariffs after Bismarck’s conversion to protectionism in 1879. Cartels could maintain artificially high prices

in domestic markets (restriction on domestic sales, market-sharing), while engaging in virtually unlimited

exports to foreign markets, even at prices below the AC if the markup on domestic sales could offset the

nominal losses on exports. For ex: state owned railways charged a lower rate for shipments to country

borders than for intra-country shipment.

Patterns of Development: Latecomers and No-Shows

While the early industrialization was associated with coal (GB, Belgium and Germany), the latecomers had little

or no coal within their boundaries. Production in Spain, Austria and Hungary barely sufficed to satisfy the

meager domestic demand, Russia had huge deposits but these had scarcely begun to be developed before 1914.

Per capita consumption in even the most successful latecomers was 1/5 of that of GB

Given the limited consumption of all the late industrializers, the consumption of the successful ones rose

more than that of the others. Since the principal use of coal was as fuel for locomotive/steamships and it

had to be imported, it appears that demand was the dominant force in promoting their greater relative

consumption i.e. their greater consumption was a result, not a cause, of successful industrialization.

Switzerland

It was the earliest of latecomers. Although it had acquired in the first half of the 19th century some important

assets that played a role in its rapid industrialization after 1850 (e.g. adult literacy), its economic structure was

largely preindustrial: in 1850 more than 57% of labor force was engaged in agriculture, less than 4% worked in

factories. The majority of industrial workers labored at home or in small workshops. The country lacked a

railway network, institutional infrastructure (custom union only in 1850, but no central government), an

effective monetary union, centralized postal system or uniform standard of measures. Small in territory and

resources, it was poor in natural resources other than water power and timber. Despite these handicaps it

achieved the highest standard of living in Europe by the 20th century.

Population: the average growth rate was slightly less than GB, Germany and Belgium, but higher than

France. The population density was below, but this is explained by the nature of the terrain. The country

depended on international markets, since it imported raw materials and foodstuff as well.

Swiss success resulted from a unique combination of advanced technology and labor-intensive

industries: this combo produced high-quality, high-priced, high-value-added products, such as traditional

Swiss clocks, fancy textiles, exquisite cheese and chocolate. These industries were primarily skilled labor

intensive (high level of literacy + elaborate system of apprenticeship). This provided a skilled, adaptable

labor force willing to work for relatively low wages.

Textile industry There is an important textile industry but mainly based on handicraft processes and part-

time labor. After having been wiped out by competition with GB in the last decade of the 18th century, it revived

and prospered. It used a combo of technologies: mechanized spinning (with waterpower # steam), cheap labor

of women and children, but handloom weavers they concentrated on high-quality fabrics. The silk

industry, although more traditional, contributed more to economic development, but overall textiles dominated

Swiss exports throughout the century.

Energy In view of Switzerland’s lack of coal and iron deposits, it relied on imported raw materials while

developing an important industry for the transformation of metals. It began in the 1820s with the manufacture

of machinery for the cotton spinning industries and expanded including turbines, pumps, wheels (using water

power). When the age of electricity came, it specialized in hydroelectricity.

Dairy industry renowned for its cheese, converted its production from handicraft to factory process,

thereby expanding output and exports. It developed the production of condensed milk (on an American patent),

chocolate and baby foods.

Chemicals the country had no heavy inorganic chemical industry due to lack of natural resources. After the

discovery of artificial dyestuffs, 4 small firms became suppliers but soon discovered they couldn’t compete with

Germany. So they began to specialize in exotic, high-priced items in which they soon became monopolists.

They also developed pharmaceutical specialties through research. The industry, employing less than 10.000

workers, accounted for 5% of exports.

Railways no other country was so transformed by railways, but paradoxically in no country they were so

unprofitable. Investors were reluctant to invest in them (preferred US). By 1890s, as a result of high

construction and low traffic density, much railways were on the verge of bankruptcy until when in 1898 the

government purchased them at a fraction of their actual cost. Shortly afterward it undertook their

electrification.

Decline of the importance of agriculture, growth of services, dependence on international demand

(especially tourism and financial services).

Netherlands and Scandinavia

In terms of economic structure, Netherlands have more in common with Denmark than either do with Norway

and Sweden. The pairing of Netherlands with Belgium reveals that the latter was an early industrializer while

the former not, Belgium had coal, Netherlands did not. On the other hand the comparison with other

latecomers reveals more about the differences in resources and the process of late industrialization. All

four countries after lagging in the first half of the century, spurted rapidly in the second half (in terms of annual

rate only Netherlands was below 1% while in terms of per capita income it had higher level than France and

Germany). What are the sources of success?

All of them (=Switzerland) had small populations + moderate growth rates (but all more than

doubled population by 1900)

They were well endowed in human capital: Scandinavian countries had the highest rates of literacy

in Europe and Netherlands was well above the average

They all lacked coal (=Switzerland). That’s why they are not among the early industrializers and did

not develop an appreciable heavy industrial sector. Sweden was the best endowed with iron ore

deposits, virgin timber and water power (this last one very important factor in Norway too – for both

especially crucial with the harnessing of hydroelectricity in 1890).

Location is important for all four: #Switzerland they had access to the sea. Implication for a

significant international natural resource, fish, as well as for cheap transport, merchant marine and

shipbuilding industries (each took advantage of this in its own way). The Dutch had difficulty in

developing good harbors for steamship but eventually did so at Rotterdam and Amsterdam, with good

results for the processing of overseas foodstuff and raw materials. Denmark had a venerable

commercial history: in 1857 it abolished the Sound Toll dues, shifting towards free trade. Norway

became a major supplier of fish and timber. Sweden, although slow in developing a mercantile marine,

benefited from the removal of restrictions and the reduction of transport charges for its bulk exports of

timber.

Their political institutions had no barriers to industrialization or economic growth. Despite

different changes in political configuration, the century passed peacefully, with a progressive

democratization taking place in all countries. All the governments gave some aid to the railways, and in

Sweden (=Belgium) the State built the main lines. As small countries dependent of international

markets, they followed a liberal trade policy, except from Sweden which developed a protectionist

movement. In Denmark and Sweden, whose agrarian structure resemble that of Old Regime, some

reforms took place, abolishing serfdom and creating a new class of independent peasant proprietors.

The key factor was the ability to adapt to the international division of labor determined by the early

industrializers and to stake out areas of specialization in international markets (especially for exports):

this meant dependence on foreign markets (frequent fluctuation but high returns to the factors fortunate

enough to be placed in time of prosperity).

Although these countries entered the world market in a big way in the middle of the 19th century, with

exports of raw materials and lightly refined consumer goods, they had all developed industries by the

beginning of the 20th century “upstream industrialization”: a country that once exported raw materials

begins to process them and exports them in the form of semi-manufactures and finished goods. Some

example are Sweden and Norway’s timber trade (at first as logs, then converted into lumber) or iron

industry (Sweden charcoal-smelted iron could not compete in price with coke-smelted iron or Bessemer

steel, but in quality yes).

All 4 countries experienced satisfactory rates of growth until the 1890s, which dramatically accelerated in

the 2 decades preceding WWI. Which are the reasons? 1)period of general prosperity, with rising prices

and buoyant demand. 2) large scale imports of capital (#Netherland was an exporter). 3) rapid growth

of electrical industry: Norway and Sweden had a vast hydroelectric potential, Denmark and Netherlands

who could import coal relatively cheaply from Britain, also benefited from steam-generated electricity.

They all developed industries for the manufacture of electrical machinery and products (e.g. light bulbs).

Electricity allowed them to develop metal-fabricating and machinery industries without coal.

Italy

Before 1860, Metternich phrase for Italy “a geographic expression” applied to the economy as well as politics

(an Italian economy didn’t exist). Divided and dominated by foreign powers, Italy had long lost its leadership in

economic affairs. The Congress on Vienna re-imposed the mosaic of nominally independent principalities, but

most (Papal States and Kingdom of 2 Sicilies) were under the influence of the Hasburgs. Lombardy and Venetia

(2 of the most progressive regions) were annexed by Austria and separated by its high tariff barriers. The only

independent State, the Kingdom of Sardinia, was separated in 4 regions with different resources, climates,

languages and institutions. 1)Sardinia languished in the backwaters of feudalism 2) Savoy culturally and

economically belonged to France 3) Genoa was the commercial center 4) Piedmont was surrounded by

mountains who set it apart from Lombardy.

After attempts of revolution and unification (in 1820,’30,’48), Camillo Benso di Cavour, a progressive

landowner and agriculturist, became in 1850 minister of marine, commerce and agriculture and in 1852 prime

minister + minister of finance the following year. To achieve “financial order and economic progress”, he

advocated foreign economic assistance (foreign capital investment). Immediately upon taking office he

negotiated treaties with the most important commercial and industrial nations in Europe (especially France).

Exports increased, France built railways, established banks, joint-stock companies. After the successful

unification of Italy in 1861, the country had one of the highest population concentration in Europe.

Unification alleviated the fragmentation of market but without communication economic development was

illusory. The extension of Piedmont legislation and administrative system could not immediately alter

backwardness and illiteracy. After Cavour’s death, Italy remained dependent on French capital, but actions of

the Government alienated foreign investors (10 years tariff war with France). In 1890, after its end and new

injection of capital from Germany Italy experienced a small industrial growth.

Imperial Russia

The Russian empire at the beginning of the 20th century is regarded as one of the great powers: in GDP it

ranked 5th in the world, it had large textile and heavy industries (cotton, linen and pig iron, steel, coal). Yet

these large amounts are misleading if we look at per capita production and consumption: Russia was

predominantly an agrarian nation with more than 2/3 of labor force engaged in agriculture. Agriculture had

low productivity due to primitive technology and legalized serfdom (abolished in 1861).

Early traces of industrialization starts with Peter the Great but especially from 1830s onward it becomes more

visible: industrial workers grow from less than 100.000 to half a million on the eve of Emancipation. Most of

them were nominal serfs who made cash payment to their lords from their money wages instead of the

customary labor services. Paradoxically there were serf entrepreneurs.

The Crimean War (1853-56) revealed Russia’s backwardness (industry & agriculture), thus leading to some

reforms (emancipation of serfs in 1861, program of railway construction, reorganization of banking system)

“great spurt”: industrial output increased at an average rate of more than 8%, higher than the best rates

achieved in Western countries. Much of it goes to the construction of the state-owned Trans-Siberian (begun in

1891)+ expansion of mining and metallurgical industries (with foreign capital). The Donbas had large deposits

of coal but no connection with populated regions: French entrepreneurs linked it with an area very rich in iron

deposits, also constructing blast furnaces in both sites. Production of both coal and pig iron soared.

The government encouraged industrialization by several means: 1) borrowed abroad to finance railways 2)

it placed order for rails and locomotives with companies located in Russia 3) place high tariffs on

imports of iron and steel products, but at the same time facilitated the import of equipment for their

manufacture. The boom in 1890s was followed by a slump in the first decades of the 20th century. After the

disastrous Russo-Japanese war of 1904 and revolution of 1905, the Stolypin agrarian reform followed,

increasing productivity.

Japan

The later and most surprising entry in the list of industrialized nations was Japan (the only non-European). In

the first half of the century maintained its policy of exclusion of foreign influence: the Tokugawa government

had forbidden foreign trade (just 1 Dutch ship allowed to be sent once a year) + had forbidden Japanese people

from travelling abroad. Society was structured in rigid castes & level of technology similar to that of 17th

century’s Europe. Despite this, Japan had active markets, credit system and high level of literacy

In 1853 a US navy commander, threatening to bombard Tokyo, forced Tokugawa to open commercial relations

with US soon other European nations were granted similar privileges. These “unequal treaties” prevented

Japan from raising more than 5% tariffs ad valorum + foreigners had rights of extraterritoriality (no influence

of by Japan laws). The weakness of Tokugawa led to an anti-foreign movement to restore the emperor: the

accession of Mutsuhito marked the birth of modern Japan (“Meiji Restoration”: enlightened government).

he didn’t expel foreigners but kept them at polite distance. He abolished the old feudal system and replaced it

by a highly centralized bureaucratic administration (as French) + army (as Prussia) + navy( as GB). Intelligent

young men went abroad to study western methods in politics, government and foreign experts were brought to

train their Japanese counterparts.

Financial problems had been the principal causes of dissatisfaction. In 1873 Japan enacted a land tax, assessed

on productivity regardless of the amount of actual produce: 1)it assured the government a steady revenue

2) put the land at its best use, to the most efficient individuals. He also created a new banking system on the

model of the National banking System of US: banks could be established using government bonds as collateral

for the issue of banknotes (153 banks were established). The suppression of a rebellion by western clan

resulted in rampant inflation: a new finance minister decided to deflate currency in 1881, to create a new

central bank which had the monopoly of note issue + acted as fiscal agent of the treasury.

To introduce the full range of western industries it built and operated shipyards, arsenals, machine shops +

imported western technicians to train the local labor force. Where did they find the resources to do so? 1) Japan

had few natural resources (mountainous) so the agrarian sector had to bear the burden of providing

export revenues to finance imports. 2) after opening the trade, the cotton industry was wiped out by the

machine-produced goods by the West while the silk industry rose (exports especially). Tea exports declined

with the growth of domestic population and income (high demand), same for rice 3) the government

sponsored private enterprise (“develop industry and promote enterprise”). When modern establishment

operated satisfactorily, they sold them to private companies. 4)cotton industry was simple and employed

cheap labor (largest markets were China and Korea). 5) Iron, steel, engineering and chemicals were slower to

develop but underwent a increase in demand during the WWI which create a boon in the industry.

Overall the transition of Japan from backward country to major industrial nation was a remarkable feat and

had important political consequences: 1) in 1894-95 Japan defeated China acquiring Taiwan. 2) Ten years

late defeated Russia on both land and sea.

The Making of Europe

The geo-economic continuity of Europe

The formation of Europe was a long historical process, involving political, cultural and economic forces. The

most striking feature is the persistence and continuity during the last two millennia integrative impact of

trade as well as its border maintaining effect in shaping and maintaining Europe. Trade was the cohesive

force when political and military conflicts threatened to tear Europe apart. We can trace it back to the

Carolingian and Roman Empire. About 80% of the population of the Roman Empire (100 AD) lives within the

border of the present Europe. The countries which were not touched were Ireland, Russia (indeed always

wanting to be independent) and Scandinavia (some countries are still making up their mind about EU).

We delineate a nation of a union of nations by borders because they represent the limit of political authority

and the capacity of the state to tax and spend on roads and public goods, such as defense and law and order

institutions. Nations form because they offer economies of scale in providing these public goods. Since the

breakdown of the Carolingian Empire, national borders have been repeatedly re-drawn: the paradox is that

despite this, Europe remained as a unit of cultural and institutional homogeneity because of strong cohesive

forces, of which trade is the most important.

Europe trades, therefore it is!

Throughout history the intensity of trade has been stimulated by the proximity and similarity of nations.

Close nations trade more with each other than with far away economies.

Proximity: When trade expands, it does so more with those nations already part of the trading network

than with those at the fringe. it was truer in the past when transportation was expensive (especially for

commodities). A large economy will typically stimulate trade with the surrounding economies very much

like a force of gravity. Trade transmits goods, common language, commercial law, preference and

technology. Intense economies make initial differences similar (ex: similar income, which in turn stimulate

trade).

Similarity: trade is not stimulated by proximity alone (we would not see the evolution of an entity like EU),

because there always nations at the margin which are close to some neighbors. Nations at the margin would

therefore tend to extend the limit successfully. Why did that not happen? The reason was “trade

resistance”, due to lack of similarities of nations at the geographical margin as well as the distance from

the trade generating core economies in Europe.

The Romans tended to create homogeneity but there were limits: costs of frontier areas and falling revenues

from population at a lower level of income. The forces of gravity were too weak to generate sufficient trade.

Moreover, the neighboring economies differed in income and technology, culture and preferences. When

these factors differ among trading partners, volume will be low irrespective of proximity (e.g. a lack of

commonly accepted currency makes transactions difficult, rich nations find exports prospect of poor nations

too small).

If periphery is initially poor it may remain poor because it’s left untouched by knowledge, commodities and

institutions that trade is bringing: we have “border effects” high transaction costs imposed on trade which

is not present in trade within the region which has a common legal and monetary system and language. They

reduce trade and maintain the lack of similarity between neighboring economies in the border areas.

Religious and cultural divide: An example is the Arab conquest of northern Africa and Iberian peninsula,

which created a cultural and religious barrier to trade in the Mediterranean: the core of Europe moved

away from the Mediterranean to the Atlantic. Henry Pirenne focused on what he called “border effects”,

meaning negative effects of a religious and cultural divide. In the context of long distance trade exporters

and importers need to trust each other (especially regarding procedures for settling disputes).

Language divide: the diffusion of ideas and goods and the exercise of authority are all helped by a common

language. Compared to the Roman Empire the 10th century Europe was less homogeneous (different

German dialects), but with the advance of the Christian faith, Latin began to be used in all Europe.

Similarity, proximity and the absence of strong border effects stimulate trade. Is it true? ¾ of the trade

of EU nations is within EU + Norway and Switzerland. We also note that similarity matters a lot (e.g. Denmark

trades more with small economies like itself – Sweden, than with large economies like UK), but proximity might

explain part of the difference: Denmark trade with Germany is 3 times larger than with Italy & Spain combined.

From geo-economics to geo-politics

EU in its formative years was dominated by purely economic concerns. Diverging national interests were

however still high on the agenda and split Europe into 2 trading organizations: 1) EEC (European Economic

Community): formed by the Treaty of Rome in 1958 with France, Germany, Italy and Benelux 2) EFTA

(European Free Trade Association) with UK and the rest of Western Europe these latter countries traded

more with EEC than within themselves so EEC was broadened including UK in 1970s and other countries. The

trade-creating effects of the initial tariff reductions, the creation of a single market have been impressive.

Knowledge, technology transfer and convergence

The pre-industrial era witnessed a number of ground-breaking innovations and improvements, but they were

typically generated by learning by doing (they did not know why things worked). It’s wrong to believe that the

British IR (1770-1830) was based on scientific understanding: decisive steps were taken towards a more

profound understanding of nature but these accomplishments had little impact on production technologies.

The steam engine, developed on the studies of Galilei and Torricelli, is an exception to the rule. The massive

breakthrough of technologies did not arrive until the second half of the 19th century.

The theory of the “lethargy” of preindustrial era contrasted with a rapid surge in growth was revised by Crafts

and Harley: 1) they argued that it was more of a transition than a revolution. 2) it was a pan-European

phenomenon (they reduced the importance of the role of GB). Furthermore it was anticipated by an

“Industrious Revolution” i.e. a fundamental change in consumer behavior: higher degree of market

involvement by all household members as producers of marketable goods or expanded supply of labor.

This demand-side vision serves as correction to the supply-side bias (i.e. progress made goods broadly

accessible).

The concept of Revolution implies a sudden change: most contemporaries were unaware of it. They were

convinced that sustained growth was impossible due to resource constraint. In fact the concept of IR was

coined only in 1850.

Most technologies were sector specific rather than general purpose i.e. applicable to a large

number of industrial activities (another possible exception again the steam engine). At first it was only

used to pump water from coal mines. The introduction of fossil resources as a source of energy and

power has revolutionary implications because they substituted animal and human muscle power.

Before that could happen, energy saving was necessary (continuous reduction in coal consumption).

Not until the middle of the 19th century did steam engines have an impact on transport (before only

water power and wind).

The IR was limited to certain sectors, specifically the textile industry (precisely spinning and

weaving cotton cloth).

With hindsight, some pre-industrial innovations might seem simple (as introducing the food treadle):

technological change that occurred was the result of trial and error rather than scientific

discovery. However, the fact that craftsmen were not skilled scientists doesn’t mean that they didn’t

have a scientific mentality.

New estimates show that per capita growth is reduced to about 1/3 of the previous estimates (they are only

slightly higher than the pre-industrial ones). Main reasons are: 1) previous estimates gave too much weight

to new and fast-growing industries in aggregate industrial output, compared to old industries 2) size of the

industrial sector was exaggerated. Not knowing the exact size of the modern industries , authors made

different assumptions, usually overstating the actually weights of the new sectors. 3) using base year weights

underestimate growth relative to an estimate based on end year weights. Today authors use “Divisia

index”, an average of indices. Using sectoral value-added from 1770 , overall industrial growth would be 1.6%

up to 1801, but using 1801 value-added shares, growth almost doubles (attributing too large share to a modern

sector overstates growth). can we then speak of a revolution? No. Modern economic growth (1,5/2%)

prevailed in GB only around the middle of the 18th century.

However, Mokyr argue that the slow acceleration of growth nonetheless concealed fundamental changes in the

intellectual climate (“industrial enlightenment”) emerging scientific culture of rational enquiry into the

laws of nature.

1) It was a Pan-European movement , rather than an isolated British history. The steam engine was

invented in GB but relied on past experiment conducted all over Europe. The contributors to the

understanding of electricity reveal a diversity of national backgrounds: Volta, Davy, Faraday, Ampère,

Oersted. The cost of accessing the new knowledge fell when scientific societies were formed both as forum

for researchers to present new results and later to popularize and diffuse useful knowledge. Catalogues of

useful inventions were edited, industrial exhibitions were organized, and travel writers of the time

reported on production methods and products used in other countries (19th century is an age of

improvement).

2) It was a uniquely European phenomenon (+US), although some areas made no significant contributions

(East Europe, Iberian Peninsula). Technological stagnation characterized the rest of the world. Europe’s

unique institutional conditions for gainful accumulation of knowledge started its ascent to higher

permanent growth if it hadn’t occurred in GB it would have certainly occurred somewhere else in Europe.

The scientific societies were concerned with open access to knowledge, therefore offered prizes and

tried to discourage innovators from seeking patents. 1) From a social point of view it would be

advantageous for all useful knowledge to be freely available. The tragedy of commons does not apply

here. 2) However, the rate of invention would be lower in the absence of the incentive offered by patent

rights. It’s been debated how decisive patents were in early industrialization. Gratification of fame was

often sufficient, but many innovators were fighting for the proceeds of patent rights even at the end of

the 18th century. In the 19th century innovators rushed to patent offices, because many ground-breaking

innovation were developed simultaneously (Edison vs Bell for the “speaking telephone”).

The Iberian Peninsula is left out from this process of patent application while Scandinavian countries do

well: not only it indicates the vitality of the scientific community but also how god a society is at

absorbing the new knowledge.

The new era of sustained and higher economic growth has 3 characteristics with a profound impact on per

capita growth: 1) science-based knowledge makes total factor productivity increase 2) the flow of inventions

stimulated investment and increase in capital per laborer, thus its productivity. 3) increasingly sophisticated

technology increased the demand for education and human capital investment (new professions: engineers,

accountants, teachers)

Science and entrepreneurship

Quite a few 19th century innovators had a poor formal training but this did not preclude a scientific mind in the

sense that they conducted endless trials and experiments and communicated results to critically minded

fellows. Many innovators were more skilled and original as entrepreneurs: 1) Alfred Nobel: successful

commercialization of dynamite (replace gunpowder), useful to build railways, tunnels and roads in a safer way.

2) Guglielmo Marconi: made wireless communication commercially successful and filed the first patent,

although its theoretical and experimental work were anticipated by several researchers who failed to see its

commercial potential.

Accidental discoveries attracted scientists searching for explanations: the preservation of food by

canning under heat was used but nobody understood why it worked, until Pasteur around 1860 studied

micro-organisms and microbes present in the air

The impact of new knowledge: brains replace muscles

The new technologies emerging in the late 18th and 19th century developed production processes for already

known commodities (paper and steel), but also opened services and production processes of entirely new

products (electricity).

In paper making the cellulose has to be separated from other elements that badly affect the quality: this was

previously done mechanically, then chemically.

Iron was made by heating iron ore with charcoal and blowing air over it (e.g. blast furnace). In this way it

takes up carbon which makes it brittle (pig or cast iron). Steel is decarburized iron (more heat and impact

resistant)

Electricity is a general purpose technology.

Which are the characteristics of technological change (old and new technologies)?

Saving resources and lessening natural constraints they are the defining characteristics of

technological progress. IR is often associated with worker protests (Luddities), against the displacement of

human labor by steam-powered spinning and weaving in the textile industry (spinning jenny, mule, power

loom). However the 19th century inventions were not systematically labor saving: GB was with a high wage

economy with cheap energy resources, that triggered off primarily labor-saving inventions.

o Textile: mainly labor saving (mechanical waving by Crompton, Highs + power loom by Cartwright +

Jacquard loom – to weave complicate patterns through pre-programmed machines and punch cards)

o Steel : mainly resource saving. 1) Bessemer converter (it blew cold air through molten pig iron to

reduce impurities and decarburize it, reducing the process to half an hour) 2) Siemens-Martin

open hearth process (the heat generated was not lost but used to warm a brick chamber through

which the fresh air for combustion was fed. Rare example of peaceful resolution of patent conflict).

o Electricity: saving resources and lessening constraints of nature. Once developed, the electric

motor was superior to steam as a prime mover because of high proportion of electricity it converted

to kinetic energy and its flexibility. It didn’t enter into industrial use until it loosened location

constraints imposed to earlier energy sources. A century earlier industrial location had been

determined by the availability of water for the mills. Steam engines needed a critical size and cheap

coal (#electric motors). Electricity was initially produced by kinetic energy from steam engines and

later by the more energy-saving steam turbine. Initially electricity was generated locally for local

use: production and consumption were more convenient at low voltages, while high voltages

reduced losses in transmission. The invention of the transformer stimulated the building of power

plants exploiting scale economies of steam turbines + geographical distance became less of a

constraint: the link between location of production and consumption was broken giving a second

life to water and wind power.

Quality improvement (and quality differentiation) Romantic critics of the Industrial Age (Arts and

Crafts Movement in GB) deplore the vulgarity and cheapness of the machine-made commodities. However

industrial change saw both quality improvements and quality differentiation (it doesn’t mean fall in quality:

but cheap low-quality products make perfect sense sometimes, e.g. mass circulation of newspaper). The

problem of quality improvement becomes significant when we measure the welfare gains from

technological change: real wage is nominal wage divided by a cost-of-living index (which doesn’t account

change in quality, underestimating the true gains of technological change). Quality improvements are

difficult to assess: William Nordhaus used lumen hours as a measure of the quality of light and discovered

that the true price fell in the order of between 3-4% a year, relative to conventional measures (i.e. real

wages at the time were then higher, even if light expenses occupied only a small fraction). Electrical bulbs

replaced a variety of illumination devices such as candles, gas lamps, kerosene and oil. The first bulb built

on incandescent light (Edison) is attributed to Wilson Swan: the improvements were on the filament

(before carbonized natural fibers was used, then metallic filaments).

New products and production processes in the 19th century there was an unprecedented number of

innovations: electricity, electrical appliances (toaster patented in 1909), electrical light, combustion

engines and cars, wireless communication, telephone, integrated production of paper and new materials

(plastic) generated by advances in chemistry, reinforced concrete, high quality steel.

o Cast iron began to be used in building bridges but due to insufficient tensile strength it was

replaced by steel (skeleton in tall building e.g. Tour Eiffel and essential component of reinforced

concrete).

o The jet engine is an application of the principles behind internal combustion engine: its

development was dominated by German engineers, but the rationalization of production process

was initiated by Ford. A combustion engine was first used in motorcycles and coaches (1885-86).

o One new product was the industrial production of nitrates: Fritz Haber invented a process to

produce ammonia from nitrogen through a catalyst. It not only made for the production of artificial

fertilizer, but it’s a good case of a widening of the resource base.

Widening the resource base

o The increased demand for printing paper was hard to meet given the traditional sources of raw

materials for wet pulp: rags, hemp (canapa) and straw (paglia). Wood was abundant in supply but

not yet usable: in 1850 a mechanical method was invented, producing cheap but inferior-quality

paper, which restricted its use. In 1870 chemists and engineers from Germany, US and Sweden

invented the sulphite method (had its drawbacks because the acidity made paper brittle in the

long run). The sulphate process, producing the so-called “kraft paper” (i.e. strong in German and

Swedish) produced a strong, cheap paper but difficult to bleach.

o Although the Bessemer converter made mass production of cheap steel possible, it hit a resource

constraint: it couldn’t use phosphorous iron ores abundant of the continent: in 1870 the cousins

Gilchrist took out a patent for a new method. Moreover, incidentally, the phosphorous reclaimed in

the process as slag (scoria) could be used as a fertilizer in agriculture.

The lasting impact of 19th century discoveries and 20th century accomplishments

The most surprising element of late 19th century scientific discoveries is their lasting impact on the 20th

century (conceived in the 19th century and later become articles of mass consumption): telephone, gramophone,

cameras and movies, wireless communication, radio, chemical fertilizers, plastics, dynamite, viscose, bicycle. In

steelmaking open-hearth furnaces remained dominant (Siemens-Martin), until when a more sophisticated

version of the Bessemer converter was used, the “basic oxygen furnace” (pure oxygen was blown instead of

normal air).

By the beginning of the 20th century the center of gravity had moved to the US: they surpassed the leading

economies in Europe in terms of income per capita and share of GDP spent on educational research.

1) rationalization of production process (Fordism) based on the principle of division of labor in which

each worker did a limited number of tasks repeatedly. American manufacturers exploited the advantage of

a huge domestic market and could design mass production technologies: European industries didn’t have

the same potential because of smaller domestic markets and less homogeneous preferences (standardized

American mass production # European flexible and customized production technology). European

managers studied American industrial technologies in the interwar period, but they were not widely

transferred until after the WWII (scientific management was resisted by trade unions). An advanced

division of labor enables further steps in automation by the introduction of numerically controlled

machines. Originally it was done by punch cards, later with computers (physical power is replaced by brain

power). Mechanical calculators were first designed in the 17th century in Europe (Leibniz, Pascal), but

commercially successful ones were developed in 1870-80s. William Borroughs, based in US, made

estimates of the labor productivity impact of “simple adding machines” (i.e. computers): increased speed of

a factor of six, compared to the use of paper and pen. The cost reduction generated by the widespread use

of computers are difficult to assess because they perform functions that mechanical calculators couldn’t: we

can use as a measure of performance “computation per second”. In constant 2006 prices the cost reduction

is 7,13*1013. conventional price indexes have an upward bias in price changes estimates. Since real

output is measured by deflating nominal GDP with a GDP deflator (price index), the result will be that real

output is underestimated.

2) efforts devoted to innovation research and development

Technology transfer and catch-up

Knowledge has the particular characteristic of being a non-rival good (not exhausted when used): patents

protection increases access cost but only temporarily. The use of a non-rival good doesn’t hinder another from

using it A machinery is a rival good but not the technology embedded in it. Moreover, scientific knowledge in

particular is also described in terminology accessible to all in a particular field: that means that experiments

can be replicated, tested and improved (even if technologies were patented, they were in the public domain and

could be improved). By the end of 19th century most nations in Europe had people in R&D: we would expect

differences in technological sophistication to disappear over time, at least among nations having institutions

which favored the search for, absorption and application of technology minimum level of education, banking

system supporting innovative entrepreneurs, a modern economy.

Technology transfer should make it possible for less sophisticated economies to catch up because they can

benefit from the application of superior technologies invested in frontier technology economies “beta

convergence”: poor economies can expect to grow faster than the more advanced, once they get started. Less

rich nations have the “advantage of backwardness”. Three reasons: 1) technology transfer 2) structural

relocation of units from inefficient (old) sectors to efficient (new) sectors: agriculture is now a sector with

almost equal productivity as industry, but at the time it was only half of that of industrial sector. The most

advanced economies tend to have only small pockets of the old sectors, while relatively poor economies have

large: they will catch up by relocating labor and resources from traditional to modern sectors. Less efficient

sectors increase productivity because inefficient units are squeezed out. 3) growth theory: Robert Solow

predicted convergence of initially poor economies with low capital-to-labor ratio, because they will typically

save and invest more, enjoying higher growth rates. However, diminishing return on capital will set in and

backward economies will approach leading economies. The hypothesis of diminishing return on capital is now

less deterministic (it depends also on R&D spending).

Over the 40 years preceding the WWI most nations had GDP between 1-2%, but then it slowed down. After

1950 Europe witnessed the fastest growth (3-5%): half of the growth can be attributed to education, capital

and labor and half to productivity. We expect less developed economies to grow faster since they have more

scope for technology transfer, better prospect for capital investment (less capital per labor), thus higher rates

of return on capital. for 2 periods (pre WWI and post WWII) the negative relationship btw initial income and

subsequent growth is met, while in WWs and inter-wars there is a positive relation: these periods lacked the

preconditions for technology transfer i.e. openness to trade, capital and people. The period 1870-1914 was the

first era of free trade (although tariffs were not absent), mobility of people and capital + from 1950-1975 there

was a reduction in trade restriction: trade enhances productivity because it forces domestic businesses to

adjust. In contrast, the 2 wars closed the borders and the only channel for technology transfer were talented

scientists fleeing from Nazi dictatorship. An important lesson emerges: openness seems a particular advantage

for poor nations.

Rates of growth differ also among countries with a given initial income. UK had less to gain from technology

transfer, but was also unwilling to absorb useful technologies and develop new. Germany performed as

expected giving its initial income and was an over-performer thereafter: it was partly caused by self-inflicted

low income (consequence of WWI) and part was due to a reconstruction effect. Some of the poor nations did

well, some others didn’t manage to welcome technology transfer. Countries which broke away with Austria did

well (Hungary, and Czechoslovakia) while Austria did not. Greece, Spain, Portugal and Ireland under-performed

before the war. Ireland in terms of initial income was similar to Sweden and Denmark but the proximity to

slow-growing GB didn’t stimulate growth. Portugal was handicapped by proximity to the laggard Spain, while

Scandinavian economies had dynamic Germany in the proximity + open economies + good policy choices (e.g.

devaluation of currency). Ireland was tied to British currency despite its independence and its most talented

inhabitants were heading US or UK + poor policy choices in 1930 + low investment w/ respect to national

income + protectionism introduced during the Great Depression.

There were also regional differences. Catalonia and Northern Italy performed well. Given its initial income,

Russia did better than other Eastern Europe economies only in the period of forced industrialization in 1914-

50 with high investment growth.

Why was Germany a late industrial nation … and why did it grow faster than GB once started?

1. It’s because Germany didn’t have the institutions preconditions for sustained economic development until

the middle of 19th century e.g. an efficiently functioning market for goods and factors of production. Land

reforms introduced (Stein-Hardenberg reforms imposed in 1807-21 after the defeat of Prussian forces by

Napoleon) freed labor from the control of landlords, but also deprived common people from customary

rights on land increase in labor productivity in agriculture + changes in income in favor of the property-

owning classes, stimulating investments in industry.

2. The size of the market matters because of scale economies. Germany was unified only in 1870, but was

prepared by a process of economic unification through tariffs and currency reforms. 1) Prussian Customs

Union in 1818 2) Zollverein in 1833 3) common currency

Once it got started, it performed better than GB. GDP growth per head was higher than GB’s one and for

a period also of US. By 1973 Germany had closed the income gap with GB. Already in 1914 the chemical

and metallurgic sectors had higher labor productivity than corresponding UK sectors (GB kept its

lead in financial services and retailing). In 2 periods (1870-1913 + 1950-1973) Germany’s growth

almost doubled UK’s. UK was growing less rapidly than equally rich economies (US): we have to look at

differences in investments in people, research and capital.

Human and capital investment

In terms of literacy and enrolment rates, US stands out exceptionally: GB universities were not attentive

to teaching hard sciences. It also seems that Germany had superior system for training skilled labor.

GB had low investment ratio (i.e. net investment as a share of GDP), half the ratio of US. British investors

were inadequately informed about domestic investments and they were missing a number of promising

opportunities, which led them to prefer foreign investment (# what is normally referred to as “home bias”,

the fact of not being able to diversify between domestic and foreign assets). In Germany, on the other hand,

firms were serviced by specialist banks (universal banks), often targeting particular sectors and developing

sophisticated knowledge on investment opportunities and on the benefits of merging small firms into larger

units.

A substantial part of UK investment was in foreign assets. The total of domestic + foreign

investment was not much lower than France or Germany as share of GDP (the hypothesis that this is

due to high capital x laborer is not valid). After 1950 domestic investments converged on the EU

norm.

Not only differences in volume of investments but also in the sectorial direction. Much of GB

investments tended to remain in traditional sectors (low growth potential): they exported not in

high-tech industries such as cars and aircraft, but in textiles.

Research and Development (R&D)

We would expect a positive relationship: big American firms were the first to set up separate departments for

research to develop new products and production processes. In Germany in the early years after 1870 private

research spending was stimulated by the fact that cartels (steel, chemicals and electrical equipment) were not

prohibited as in GB. Cartel pricing enables firms to cover the outlay on research.

Industrial relations

In the past trade unions in GB were based on skills rather than industries. In any given industry workers were

represented by a large number of unions, each representing a specific skill. There’s no negative impact between

productivity and unions itself but there is with multiple unions: it can fight for its own interest at the expense of

others, especially in wage negotiations and negotiations over the introduction of new technology. While trade

unions in Germany and Scandinavia were willing to trade the introduction of new technologies, sometimes

labor-saving, for higher wages in the future, GB’s ones did not. A paradox is that British owned car industry was

wiped out by 1950, whereas Britain remained a major produced of Japanese cars in factories with different

industrial relations. A final contributory factor to the dismal growth record was the large nationalized steel and

coal sector, where total productivity was low.

Convergence in the long-run: three stories

When less rich economies introduce growth promoting institutions and exploit best practices borrowed from

the leading economies, we expect them to converge. This pattern has been discernible but the pace and timing

of this convergence varied: why some economies started the process in the late 19th century while other did not

begin until after 1950? Three trajectories in economic convergence, known as “sigma convergence” i.e.

convergence of (log) income per head in constant $1190 across nations from 1860-2000:

1. Argentina, Scandinavia and USA persistence of USA lead except in 1930s. There is a convergence but

only in the Golden Age. The income gap after WWII was exploited by Scandinavia. Like primarily food and

raw-material producing nations, Argentina was severely hit by Great Depression in 1930. A string of

populist politicians, wanting to please a public unwilling to pay taxes, created a foreign debt too large to

manage without repeated defaults.

2. Germany, Ireland, Czechoslovakia and Italy Germany is an early industrializer, Italy an hesitant

follower and Ireland a late boomer. A first phase of convergence starts for Italy around 1900, both with

Germany had spectacular growth in the first part of Golden Age, since they start from war-inflicted low

income level (reconstruction effects and potential for technology catch up). However these high growth

rates couldn’t be sustained. Many gains had already been exploited (return diminished). The lost

opportunities for Ireland of the Golden Aged deprived the population of the high standards of living

achieved in Italy and Germany in 2000. Its catch up didn’t started until the country opened to free trade.

Czechoslovakia followed the same pattern, due to socialist planning.

3. France, Spain and UK long-term convergence of France and Britain. France overtook Britain by the end

of the Golden Age: it was possible despite the destruction of physical capital, because of the human capital

and institutions that remained. Spain differs from Italy in that there is no trace of convergence until well

into the Golden Age. The Civil War of 1930 and the nationalist government ended the brief period of

openness of 1920 + inequality increased. Moreover, since Spain had half of its labor force in agriculture, the

labor-saving bias in agricultural development releases under-employed labor for industrial occupations

and triggers off the structural convergence effect.

Money, credit and Banking

What do banks do?

When banks started to take deposits and offer loans to the public i.e. to practice “fractional reserve banking”,

they clearly entered a new phase by increasing money supply and facilitating trade by providing foreign

exchange and clearing services between accounts. In the 19th century they expanded their role as

intermediaries between savers and borrowers: banks lower transaction costs for both savers and borrowers

For savers it’s time consuming and difficult to collect and assess information on a wide variety of

potential investment projects: 1) risk of putting all savings in 1 project 2) impossibility to monitor the

borrower i.e. information asymmetry. Banks thrive (fioriscono) from exploiting economies of scale and

gain from specialization in collecting and analyzing info about the borrower

Borrowers typically need long-term commitment for investments in fixed capital, while lenders

want their assets to be liquid: banks learn how to transform short-term liabilities (deposits) into

long-term assets (loans) by holding appropriate cash reserves. When the size of firms increased,

investors had difficulty in finding long term lenders outside the circle of family and friends, so banks

performed as intermediaries (doing a mix of supervision and penalties on borrowers who do not

perform adequately)

Why this system breaks down in bank runs? Bank accepts deposits and promise a positive return (interest) and

the right to reclaim the deposit at fixed nominal value, but also manage a portfolio of assets, whose future value

is not granted: if banks miscalculate this mix, a chain of events happen: borrowers cannot pay back their loans,

depositors run to rescue their deposits, banks have liquidity constraints and will fail in the absence of a “lender

of last resort” i.e. the Central Bank. We have two main types of crisis:

Liquidity crisis occasionally bank underestimate the volume of liquidity needed to meet customers’

need for cash (i.e. the amount of reserves). This kind of crisis can develop also in a solvent bank because

of the contagion of customers panicking and withdrawing their money at an unforeseen rate. These

crisis are contained referring to the CB, which lends freely to the banking system (“Bagehot rule”) until

the public has regained confidence. The introduction of deposit insurances has also contained the

impact of such crisis (even if the bank fails, deposits are safe)

Crisis of solvency These are more difficult to contain and have strong impact on income and growth.

They appear after a period of excessive risk-taking linked to low interest/rising asset prices, so called

“financial bubbles”. When the bubble bursts equity and/or house prices fall by 25-50%. These crisis

stem from the difficulty of revealing the true risk of the assets held by the banks. Excessive risk involves

non-diversification of assets (e.g. large fraction of assets in a specific industry which can be hit by a

shock). An initial decline in the value of assets is aggravated because financial institutions can be forced

to stage “fire-sales” to raise cash, further pushing down the value of the assets. A large portion of them

turns to be “toxic assets” i.e. assets nobody wants to buy. A solution is the nationalization of the bank

(they can then privatize it later when there will be higher confidence). This kind of operation has been

successfully performed by Sweden in 1990s (even if with a sharp decrease in output for 5 years).

The impact of banks on economic growth

The impact of banks on economic growth operates through 3 mechanisms: 1) impact on savings ratio 2)

effect of increased monetization of the economy 3) impact on the efficiency of the use through which

savings are channeled

There is evidence that the spread of banks outside the metropolitan areas increased the saving ratio (i.e.

savings as a share of national income). That’s because they increased the opportunity cost of hoarding

(accumulare soldi) e.g. savings are more attractive because transaction costs and risk of saving are lower. In the

absence of banks there could be no other viable alternative to savings apart from the consumption of durable

“store of value goods” such as gold and silver. But gold and silver in the public coffers is a lost opportunity: had

the equivalent money been deposited in banks , it could have been put at the disposal of investors. Furthermore

there is a strong link between domestic savings and domestic investment and hence economic growth.

Monetization has a positive impact on economy: for example in the Dutch economy, cash constraints were

serious impediments to investment. In England it was estimated that a 1% growth in monetization led to a 2%

increase in industrial output for 5 years.

Citizen were initially reluctant to trust banks. Bank failure were not infrequent. The saving banks developed all

over Europe in the early 19th century were meant to provide ordinary citizens with safe deposits, but given the

fragility of trust they had to pursue a very conservative assets strategy: they invested only in secure

government bonds (no loans to the public). In the later 19th century, the constraints on lending were relaxed

although the types of collateral accepted were restricted (only land and real estates). Savings banks were

originally designed for, and in fact attracted, low and middle-income earners, who otherwise might not have

saved at all. They also played an important role in providing finance for infrastructure investment. In the 19th

century we witness the rise of joint-stock banks, which relied less on depositors money (not constraint by

their preference for liquidity ) and more on investors’ money : riskier investments to reach higher yields. The

difference between these 2 types of banks decreased over time & some joint stock banks became pure

investment banks, servicing industrial firms and helping in mergers and acquisitions.

Banks specialize in gathering info about borrowers’ solvency and the viability and profitability of investment

projects: they therefore set up strict criteria to be fulfilled before the loan is granted. However there is

information asymmetry, so the bank must also continuously monitor the counterpart and be able to penalize it.

When an institution specialize on that, savings will be used more efficiently than if savers invest individually,

without mediation. There is evidence that “bank depth” (i.e. the volume of financial intermediation in the

economy) is positively linked to investment and productivity growth. The same results apply to stock market

depth.

Europe developed both systems which had different relative importance. In the early 19th century only GB had

a well developed banking system (country banks + strong center in London). It provided mostly short-term

credit to industry and commerce bill discounting and deposit banking. In the rest of Europe neither banks nor

stock markets were well developed: this backwardness prompted banks to establishing close links between

themselves and industry. France and Germany banks were better at picking the best firms and coping with

asymmetric info and agency problems than UK: the slow growth of the Victorian UK is partly due to the failure

of banks to direct savings towards the most profitable investment opportunities. Banks were unable or

unwilling to provide industry with the necessary finance, which slowed down economic progress. They

invested in lower-yielding assets and thereby made life hard for evolving, more risky technologies. Too much

proportion was invested in overseas assets. In the rest of Europe, on the contrary, banks developed close and

long-lasting relationships with industry and invested in new technologies.

Transaction banking discounting of bills, deposits and clearing + provision of short-term credit

(commercial banking)

Universal Banking commercial banking + investment banking and mortgages for houses. Some but not

all preferred to take a long-term stake (they typically followed a bank from start to maturity).

relationship banking (#transaction banking). This kind of system played a role in German rapid catch-up

(while the British transaction banking system slowed down growth).

This view has been revised in recent search, however. Relationship banking is supposed to diminish the

problem of asymmetric info, to create a relationship of trust, to save the cost of gathering info about

firms (info is not immediately lost as in transaction banks), to ease the cash constraint (no evidence of

this). British banks have been able to overcome the lack of long-term relationship with highly efficient routines

for scrutinizing borrowers. British banks relied more on deposits (they hold more liquid assets), but short-term

loans were routinely rolled over the to the next period. Moreover, too close relationships with an industry is

also risky in case of industrial downturns. Recently, after the 2008 crisis, new demands for separation between

commercial and investment banking were heard.

In conclusion the question whether relationship banking was better at promoting economic growth has no

conclusive answer. The question boils down to whether the asset portfolios had higher yields (some evidence

says that British assets were not optimal). Hence we cannot exclude that Victorian Britain relative failure was

in part due to the banking system.

Banks versus stock markets

Stock markets, which mainly traded government debts and shares in trading companies, until industry, bank

and transport securities were introduced, fulfill similar functions to banks but by other means. They enable

savers to diversify risk and provide an instrument (equity, shares or stocks) which is liquid for savers and a

long-term commitment for borrowers.

The information needed and the cost involved in obtaining info about firms have precluded the majority of the

public from investing directly in the stock market (in 1950 when almost all household had bank accounts, less

than 10% had stocks). Some people invested in “mutual funds”: collective investment funds in which investors

money is pooled and traded by professional investment managers. However, it’s less attractive to risk averse

because it cannot promise a positive return on shares nor guarantee a nominal value on original deposits.

These two institutions developed together and have to be considered complementary, but banks reached a

more sophisticated development before stocks did. That’s because markets deal with “marketable assets”

while banks with “non-marketed assets” (hence, their value is more difficult to assess, which motivates the

monitoring). Before the middle of the 19th century few firms could offer marketable assets (like stocks in firms,

because they were not large enough), thus favoring bank financing.

By the second half of the 19th century in Europe the importance of these 2 institutions differed markedly and

some difference remain still today “path dependence”: notion that present economic decision are dependent

not only on present conditions but also on historically given economic decisions which constrain future choices .

German banks provided finance to industry at a crucial formative moment and they subsequently stifled the

development of stock markets. So, initial conditions determined which one prevailed. However, a

supplementary explanation suggests that any combination of the two is better than just one: banks often fail,

while markets function even in period of banking crises.

In perfect stock markets, all available info regarding a firm is expressed by the stock price. However, markets

are not perfectly efficient. When there is info of underpriced or over-priced stock, it’s impossible to keep it

secret because the new info will be revealed by a trading movement (buying the stock if it’s underpriced and

vice versa, thus leading to the adjustment of the price). This implies that stock markets do not sufficiently

reward those who research the fundamentals of firms (under-investment in info gathering). Excessive price

movements unrelated to fundamentals typically occur for stock in new industries where there is a need to

invest in the collection of info. Insufficient info can lead to herd behavior (investors follow the behavior of

others, assuming they are better informed). Banks invest more in researches about the counterpart because

they can keep the info private, which may improve the efficiency of investments (even if banks can have a lot of

market power, used to secure a larger share of the profits of the firm). In conclusion, the best solution is an

economy not totally dependent on either of them.

The international Gold standard

Fixed exchange rates emerged by accident: gold had been used as money since ancient times. When countries

began to fix their currencies against gold in a more institutionalized way in the 19th century, their currencies

automatically began fixed against each other. The Gold Standard has its origin in the Resumption Act of 1819

which resumed and institutionalized the practice of exchanging currency notes for gold on demand at a fixed

rate. Simultaneously, restrictions on the export of gold were repealed. Previously countries had often practiced

bimetallism, whereby both gold and silver formed the basis of the monetary supply. (gold was too valuable to

be suitable for smaller purchases). Britain led the way basing her currency on gold alone, and countries

followed except from the US (bimetallic until 1873). Emerging states, such as Germany and US, were quick to

form their monetary union. Attempts to create international monetary unions: 1) Scandinavian Monetary

Union in 1875 2) Latin Monetary Union in 1875. France saw LMU as the nucleus of a system based on the

franc and Paris (it was bimetallic #GB for its rivalry). These unions were not particularly important because by

1870 all countries were basing their currency on gold (regime of fixed exchange rate). There are some rules of

the game:

The currency should be freely convertible to gold at a set price or mint parity

There should be no barriers to the flow of capital, i.e. gold, between countries

Money should be convertible on request to gold and thus backed by gold reserves

In reality, however, small deviations in the exchange rate were possible due to the transport and transaction

cost involved in shipping gold. Governments under the gold standard took on the whole a hands-off attitude

towards economic policy (justified by theory: “price-specie-flow mechanism” by Hume, whereby gold

standard should automatically ensure balance of payment equilibrium i.e. sum of all economic transactions of

a nation with all other nations during a specific time period). He imagined a situation where gold was flowing

into Britain from abroad, thus causing GB prices to rise in relation to those abroad. As GB demand for foreign

goods increased and demand for GB goods decreased, gold would start flowing abroad again, and equilibrium

would be restored. In practice, central banks were more worried about gold losses than gold gains. They often

practice “sterilization” of gold inflows i.e. counteracting the inflationary tendency of capital flow, preventing

them from entering the money supply. This enabled them to build up excess gold reserves, in direct

contravention of the rules.

Despite these deviations, the Gold Standard lasted many years: 1) Commitment: deviations were to be

followed by a return to original parity 2) Confidence: people believed that exchange rates would remain fixed

so all speculation went in the direction of maintaining the fixed exchange rates. 3) Symmetry: no one country

had overwhelming influence on price levels, because the price of gold was dictated by international demand

and supply. when gold became scarce toward the end of the 19th century, there was a general inflation,

balanced by the discovery of new extracting methods. High inflation and deflation can cause economic distress,

but governments turned a blind eye (they were able because policy didn’t focus on domestic objectives, such as

combating unemployment. An exception which proves the rule is the deflation in US, when a return to

bimetallism was campaigned for).