How A Financial Crisis Caused The French Revolution

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The assignat of the French Revolutionary period is one of the worst paper money disasters in history.

It started with the failure of the state’s finances.

In 1789, the French monarchy found itself in a perilous financial position.

In the preceding decades attempts to bring the state’s financial position under control had failed and France had a crushing debt and a massive deficit.

A deficit of 41.7 million livres in 1781 exploded to 116.1 million livres in 1789.

Given that the French monarchy did not have fiat money, they could only increase their revenue through taxation or borrowing.

Tax reform was needed to save the monarchy but because of political gridlock it didn’t happen. Throughout the squabbling of the 1780s the government continued to borrow. That is until they exhausted their ability to borrow any more.

With no ability to raise new taxes and public pressure ruling out the option of bankruptcy, the Crown’s only remaining option was to turn to paper money.

Better financial management, or rather a willingness to confront the difficult political decisions that better financial management would entail, would have restored confidence and perhaps avoided the subsequent events that became the French Revolution.

But sadly good financial sense did not prevail.

Unable to solve the financial crisis, King Louis XVI made the fateful decision to call on the Estates-General, the representative assembly that had not met since 1614, in the hope they would approve the financial reform needed to restore the country’s finances.

This was a serious attempt to engage society in financial, but not political or social reform, yet it triggered a chain of events that unleashed revolutionary forces that led to the downfall of the monarchy and a complete restructuring of French society and the political order.

Financially, nothing was solved as the revolution abandoned gold and silver backed money to embark on one of the world’s largest paper money experiments, which resulted in runaway inflation.

Indeed, those who advocated for paper money were not ignorant about its risks. France had experimented in paper money with disastrous results in the early 1700s, before returning to money backed by gold and silver. But the revolutionaries thought that this time they could control it.

They were very much mistaken. Their paper money initiative, the assignat, unravelled with disastrous and tragic results. Prices skyrocketed and angry mobs roamed the streets.

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King Louis XVI

When the Revolution came under the control of the Jacobins, the country descended into chaos. The King was executed in January 1793, starting a reign of terror.

The inflation led to shortages and calls for wage and price controls, which were established in May 1793.

The Jacobin terror soon exhausted itself and eventually some degree of economic stability was restored through the abolition of wage and price controls in December 1794 and the end of money printing in December 1795. After previously being banned, gold and silver were once again permitted for trade. The assignat was abandoned and a silver franc was established.

By 1795, five years after the first issue the paper currency, the assignat, had lost 99% of its value.

The French Revolution continued under the directory until 1799, when Napoleon took power in a coup de tat. He became First Consul of the French Republic before being crowned Emperor in 1804. Under Napoleon, the new Banque de France established a monetary system with gold and silver coins with the silver/gold ratio set at 15:1.

The revolution had initially begun as a way to restore order to the country’s finances. But it gradually changed into a movement for moderate constitutional reform and then morphed into to a period of chaos and violence that unleashed untold terror on the people of France and left an indelible imprint on both Europe and the world.

So what was the key cause of the French Revolution?

Why The Financial Crisis Caused The French Revolution

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The reasons why the French Revolution occurred are complex and multifaceted. There is no easy answer and historians have debated the causes for centuries. However, the financial and economic causes are often relegated to a minor footnote amongst the more popular political and social interpretations.

I agree with the minority view that sees economics and finance as the key causes, in particular the failure of the French monarchy to balance the budget and the subsequent decision to embrace paper money.

A recent book has been published by Rebecca Spang, who argues that economics and in particular money is often overlooked because it is wrongly considered to be neutral, and that actually money is a critical part of understanding history.

I emphatically agree.

She makes an astute point that while the Marxists focus on the means of production, to understand the social implications of economic and financial decisions, we should really be analysing the means of exchange instead i.e. money.

However, I disagree with Spang in that she doesn’t see paper money as being significant, because she argues that society can give value to anything as money.

Instead I align with Andrew Dickson White and Edmund Burke in the view that the adoption of paper money in response to the financial crisis in France was critical and destructive. As White puts it:

“It [paper money] came by seeking a remedy for a comparatively small evil in an evil infinitely more dangerous. To cure a disease temporary in its character, a corrosive poison was administered, which ate out the vitals of French prosperity. It progressed according to a law in social physics which we may call the “law of accelerating issue and depreciation.” It was comparatively easy to refrain from the first issue; it was exceedingly difficult to refrain from the second; to refrain from the third and those following was practically impossible. It brought, as we have seen, commerce and manufactures, the mercantile interest, the agricultural interest, to ruin. It brought on these the same destruction which would come to a Hollander opening the dykes of the sea to irrigate his garden in a dry summer. It ended in the complete financial, moral and political prostration of France—a prostration from which only a Napoleon could raise it.”

Undoubtedly there were other political and social forces at play, which amplified and extended the chaos of the French Revolution. Not least were those who desired to see an end to the monarchy and the establishment of a republic. Yet if better policy prevailed much earlier, this crisis could have been avoided.

“Statesmanlike measures, careful watching and wise management would, doubtless, have ere long led to a return of confidence, a reappearance of money and a resumption of business; but these involved patience and self-denial, and, thus far in human history, these are the rarest products of political wisdom. Few nations have ever been able to exercise these virtues; and France was not then one of these few.”

After all, the political challenges the Enlightenment produced for the Ancien Regimes in Europe, did not result in revolution elsewhere. The German, Austrian and Russian empires did not meet their end until they too were devastated financially, in their case by the Great War of 1914-1918.

History has shown that paper money always fails and that it always causes social chaos. What is uncertain is how soon it will fail and how much chaos it will cause when it does.

1789-1795-assignat
Sadly in 1790s France the paper money system failed rapidly and it caused the maximum amount social chaos rarely seen in history.

There are several lessons the 21st century investor can learn from this period in history.

Lessons for Investors from the French Revolution

1. Systemic risk is difficult to foresee

The Paris stock exchange, founded in 1724, was an active yet volatile market until the revolution. The stock exchange survived the initial revolutionary period, but as things turned more violent it too met its demise, being closed in June 1793 with joint-stock companies subsequently being abolished and investors unable to sell their shares.

This was a crisis moment for investors like nothing we have seen in recent times. And yet for an investor in France during the 1790s, you would probably be more concerned about maintaining your life than maintaining your portfolio.

Yet even at the start of the revolutionary period, it was difficult to foresee that things would play out as they did. Nobody in 1789 could predict that King Louis XVI would lose his head a mere four years later. When the Estates-General first met, it was widely believed that they would find a solution to the financial crisis.

Even when social unrest began and crowds descended on the Bastille, King Louis famously remarked, “Is it a revolt?” to which the reply came, “No sire, it is a revolution.”

The question this raises is how does an investor accurately predict when bad news is just a temporary setback or the arrival of a black swan and a major crisis?

The short answer is, you can’t.

That’s why a dead cat bounce exists. Investors buy the dip, thinking the good times will resume, before a bear market is unleashed upon them and hindsight shows them to be foolish.

We live in an era of significant systemic risk. In the last few decades we have seen the Asian Financial Crisis, the Dot Com Bubble, the Great Financial Crisis and Covid-19. We have a worldwide financial system of central bank created fiat money.

So you have to be prepared but at the same time not overly cautious – a very difficult balance to strike.

There is no shortage of people who tell you that disaster is just around the corner and you need to sell all your paper and load up on gold. They may be right in their analysis of the flaws of the financial system. Yet they don’t know anymore than the next person, when the day of reckoning will come or how just bad it will be when it does.

I believe there is a danger in being too defensive in that you can waste precious years of your short investing life missing out on gains by preparing yourself for an event that might be years and years away or might not be as bad as the doomsayers predict.

I certainly have fallen into that trap over the last ten years. We’ve been living in a long period of peace and prosperity since 1945 yet when I first started investing I paid too much heed to those commentators who predicted that crisis was just around the corner and to prepare for geopolitical collapse, the imminent demise of the dollar and the stratospheric rise in the value of gold.

Anyone who moved their assets into gold in 1789 and fled France for England would have been proven to be very wise, as the financial and social chaos was about as bad as it could get. Yet how could anyone have possibly predicted that?

A revolution of that magnitude is so rare to the point that it’s not something worth losing sleep over.

All you can do as an investor is keep a portion of your portfolio defensively positioned as insurance, in case of crisis, whether large or small, while you continue to invest the remaining funds in a normal prudent way.

To not have any funds set aside in defensive insurance policies such as gold, would be a mistake. But to overcommit in perpetual fear of a systemic crisis, would equally be unwise.

2. Diversify Your Political Risk

There are times in history where having your home, your job and your assets all in one country becomes incredibly risky, financially and otherwise.

Again, these are very rare situations that should not cause undue concern but it is worth thinking about.

France in 1789 was one of those times. Other examples were Germany in 1923 and 1933, China in 1949, South Vietnam in 1973. Yet it is not always clear to people living through it, just when the turning point arrives.

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The execution of Robespierre and Saint Just

In such cases the time to react is short and those who are unprepared may suffer. It helps to have prepared in advance and have diversified yourself politically. This might mean a second passport or it might mean a foreign bank, brokerage or precious metals account.

Even if a country maintains its social cohesion during a time of crisis, it may be prudent to keep some funds outside the country to protect yourself against any financials risks inherent in your home country. Just ask any Argentine who has lived through the financial chaos of the last half century.

3. Markets Always Recover Eventually

It took over a decade, but under Napoleon hard money was eventually restored and prosperity returned to France.

Paris once again became one of Europe’s major financial centers. As dark as the French Revolution was, once stability had returned, so too did human endeavour and economic progress. And as always with progress came the opportunity for economic gain.

It’s always tempting to despair in times of market turmoil and feel that an economic downturn is the end of the world. But humans are remarkably resilient and we will always find a way to press on.

And while it’s incredibly difficult to time and execute in reality, but if you do manage to avoid the carnage of a crisis and re-enter once stability is restored then you will do very well as an investor as you can pick up quality assets at bargain prices.

Unfortunately for the French, the 1790s were a lost decade, financially and otherwise.

Conclusion

The French Revolution was one of the most tragic events in modern History yet had a tremendous impact on European and World History.

While its causes have divided historians, the economic and financial analysis is often somewhat overlooked. The argument that the adoption of paper money was a critical cause of the revolution is a minority one that is very much out of fashion in the modern analysis. Yet I personally find it the most compelling.

The lessons for investors are to be aware of the political risk that governments can cause through misguided fiscal and monetary policy and take defensive steps to insure yourself against government induced calamities, such as the purchase of gold and silver and the storage of some wealth outside your home country.

However this comes with a caveat. As bad as the French Revolution was, an event like this is a true outlier. Even if we face financial crises and social upheaval in the future, it is unlikely to be on such a scale. Don’t be spooked into becoming too defensive and avoid the possibility of gains to be made in the market.

 

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Sources

Spang, Rebecca L. Stuff and Money in the Time of the French Revolution. Cambridge, Massachusetts: Harvard University Press, 2017.

White, Andrew Dickson. Fiat Money Inflation in France: How It Came, What Brought It and How It Ended. New York: Appleton-Century, 1933.

White, Eugene N. “Measuring the French Revolution’s Inflation: The Tableaux de Dépréciation.” Histoire & Mesure 6, no. 3 (1991): 245–74.

———. “Was There a Solution to the Ancien Régime’s Financial Dilemma?” The Journal of Economic History 49, no. 3 (September 1989): 545–68.

Image Credits

Louis XVI is in the public domain

Storming of the Bastille is in the public domain

Execution of Robespierre and Saint Just is in the public domain

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