1.2.1 The growth of the Stock Exchange
The table below shows the substantial growth and the changing composition of activity in the Stock Exchange in the 60 years leading up to the First World War. Note that most of the securities comprised what are known as debentures – bonds secured on the assets of the issuing companies – rather than ordinary shares, which are commonly used by companies these days to raise finance via the Stock Exchange.
The development of the Stock Exchange in the first half of the twentieth century was dominated by the financial effects of the two world wars and by the worldwide economic depression in the 1930s. One major consequence was the rapid growth in the need for finance by the UK government, with the level of national debt consequently rising substantially. A second consequence was the reduction in finance available for overseas investment as a result of the impact the wars had had in reducing the volume of funds for such activities. Additionally, the introduction, on the outbreak of the Second World War, of constraints on the amounts of foreign currency that could be acquired by both individuals and firms – known as foreign exchange controls – reduced the scope for investment abroad. These controls were to remain in place for 40 years.
One key development in the immediate aftermath of the Second World War was the nationalisation by the Labour government of the key utilities industries – including the railways, the energy companies (including the coal mining companies) and the steel industry. This resulted in the removal from the Stock Exchange of certain of the companies that had been nationalised, materially reducing the aggregate value of companies listed.
As the UK economy started to recover after the Second World War, the appetite for finance by companies increased. Instead of using debentures to raise funds, companies increasingly looked to the issue of shares to raise capital. This switch was in part the result of the growing importance in investment markets of the pension funds, which had a demand for long-term investments such as shares. Notwithstanding the changing fortunes of the UK economy during the 30 years after the Second World War, the role of the Stock Exchange as a centre for raising finance both for governments and for companies was maintained. Indeed, its position as the largest stock exchange in the world (until it was overtaken in size by the New York Stock Exchange) provided a keen incentive to overseas companies to use it to issue shares. The position of the London Stock Exchange was also strengthened by its merger after the Second World War with the much smaller, provincial stock exchanges that had been established in other major UK cities.
Foreign exchange controls – including those limits on how much foreign currency could be acquired by UK citizens and firms – were finally abolished by the incoming Conservative government in 1979. This both opened up the UK for inward investment from overseas and provided virtually unlimited scope for individuals and firms to invest overseas.
As you will see later, this change to the environment within which the Stock Exchange operated was matched by fundamental changes to the financial services industry as a whole.
Activity 1.1 Financing the industrial revolutions
Why did the development of the railway and mining industries in the nineteenth century prompt a major increase in the need for finance by firms involved in these two sectors?
Railway and mining require a huge amount of money for investments in infrastructure before any income can be earned through the sale of rail services and mined products. The need for substantial finance – and for this finance to be available over a long-term period before it was repaid – required the use of the Stock Exchange to access funds of those who were prepared to invest over the long term, but who also wanted to be able to sell their investments to other investors at any time if they needed to recoup their money.