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3
1700
1750
1800
1850
1900
Industrial Revolution (1760 –1840)
Debt over nominal GDP, in %
300
250
200
150
100
50
0
Fig. 1
Long-term evolution of Britain’s government debt
mining, and transportation – were more or less cut
off from the standard funding sources, i.e. from
both credit and capital markets. On top, prejudices
against these new technologies and their representa-
tives prevented the rich upper class from invest-
ing their money in some more direct form in these
new sectors. These enterprises thus had to largely
finance themselves, even though their rate of return
increased from 10% (1770) to 20% (1830) and was
thus much higher than in the two dominant asset
classes of the time – land and government bonds.
So far, so bad. However, in this state of dysfunction-
al credit and capital markets, it was the fast-rising
market for government bonds that was at least able
to help the entrepreneurs in an indirect way, namely
through the labor market. The argument runs as fol-
lows. Traditionally, the main holders of the national
wealth, the upper class, invested in land and its cul-
tivation. With a return on investment of about 2%,
this was not profitable, but status in England was
always directly coupled with land ownership.
Due to the higher returns on government securities
and their increasing availability and liquidity, the
majority of the upper class changed their invest-
ment strategies around 1750. They did not continue
investing in the purchase and maintenance of land,
but in government securities that promised a higher
yield, reducing the extent of the chronic excess
investment in the farm sector. This decreased labor
opportunities and wages in the farm sector, leaving
large numbers of agricultural workers unemployed,
forcing them to move away from the countryside
into the cities in order to find work in industry.
While difficult for laborers, this was good news for
the industrialists. As they suddenly had a large num-
ber of cheap laborers available for the new factory
jobs, their production costs fell as a result of lower
labor costs, and their profits rose accordingly.
Due to the inability to raise funds in capital and
credit markets, it was the reinvestment of exactly
these profits in their own enterprises that kept this
new emerging sector afloat. In the presence of this
dysfunctional financial sector, the rapidly increas-
ing state debt, which created a new large and liquid
investment class in the form of government bonds,
therefore supported the process of structural change
away from less productive agrarian activities into
new, more productive industries. And it was pre-
cisely these new industries that spearheaded the
most fundamental structural change in history,
namely the Industrial Revolution that originated in
eighteenth-century England and thereafter started to
spread around Europe, and then around the world.
Good and bad debt
History thus shows that under particular circum-
stances, high debt levels may not be a stumbling
block for economic development, but may even
enhance it. Based on this insight, Voth advocates
developing a more unbiased approach towards
sovereign debt, one that not only considers its dan-