Whether in finance, or in other professions, the most transformative changes happen gradually. To be sure, many of the triggers of these changes may be discrete events, absent today and here tomorrow. However, for the effects to filter through to the methods of ordinary professionals, and the markets they operate in, some time must usually elapse. That said, on occasion, events have been transformative enough to bring about change nearly overnight. One of these occasions was technological in nature. In 1866, the completion of a transatlantic telegraph cable was an exogenous shock to the way financial markets operated. Its impact was obvious almost immediately.
The Era of Steamships
Before the first transatlantic telegraph cable linked the New World with the Old, the speed of communication across the Atlantic could never be any faster than a steamship. In the 1860s, the fastest such a transatlantic journey between New York and London could be completed was eight days. Realistically, such a trip usually took more like ten days and sometimes had to be endured for closer to two weeks. This was already a substantial improvement over the speed of sailing vessels whose journeys were even more variable but invariably longer. Closer to a month had been needed to traverse the Atlantic just three decades earlier.
Despite these limits to communication, there was plenty of international trade in goods and some globalization in financial markets. Despite the latency involved, bonds, currencies, and even some stocks traded in markets on both sides of the Atlantic. The invention of the telegraph quickened the flow of information within continents but not between them. Even after telegraph lines were installed across North America and Europe, transoceanic messages still had to be transferred by vessels across the sea. That said, the overall pace of transatlantic communication improved slightly because information from New York, for example, could be relayed by telegraph to Atlantic Canada before being carried on by ship to Europe. This shorter route saved a day or two off the time required to transact between the continents but was hardly revolutionary.
Of course, globalized markets will absorb information whenever it gets to them and news from abroad was critical to financial markets even when it was hardly timely information. In the days before the introduction of transoceanic telegraphy, this was a source of great inefficiency but one that did not altogether eliminate correlation between international markets. For example, prices of cotton in New York overlaid on prices in Liverpool reveal a strong association, but one with a ten-day lag, accounting for the time it took for information to work its away across the Atlantic before a cable changed everything in 1866.
Within nations, the introduction of the telegraph in the 1840s and 1850s had already enabled firms to grow larger without sacrificing efficiency. Managers could now direct the operations of subordinates and coordinate with partners potentially hundreds of miles apart. Essentially, what the railroad was simultaneously enabling for the transport of physical goods, the telegraph was doing for information. It was connecting the world’s economic actors like nothing had before it.
While telecommunications have come a long way since the telegraph, no advancement has done as much to substantially increase the speed of information transfer from what was available before. It wasn’t just firms that were growing thanks to the telegraph; the quickened flow of information was also marking markets more efficient and connected too. Price information and news could be transferred between market participants more quickly.
In 1866, telegraph had delivered a technological miracle by connecting continents thousands of miles apart. The first successful transatlantic telegraph cable began operations in July that year and was the brainchild of Cyrus Field, an American paper merchant turned telegraph industry magnate. The undersea cable, over 2000 miles long, ran from Newfoundland, which had been earlier connected to the North American mainland by its own underwater cable, to Ireland. It was, as expected, no small feat; four earlier attempts at linking Europe and America with telegraph cables had failed. One in 1857 worked just long enough for Queen Victoria to send a message to the American president James Buchanan, but ceased operating a month later. The largest technical challenge was properly insulating the deep-sea wire from the conductive water around it.
Nearly as soon as the first successful transatlantic cable commenced operations, it had profound effects on financial markets. Just as computers would more than a century later replace the stock ticker, the telegraph cable made some financial technology obsolete, or at least reduced their utility. One of these was the bill of exchange. Bills of exchange had previously been used for foreign exchange transactions across nations and continents. It used to be that a merchant in London planning to buy cotton in New York’s markets would contact a London bank to go about having his pounds exchanged to dollars. That London bank would then take his pounds and would have its correspondent, another bank in New York, pay out dollars when the merchant arrived to purchase his goods. Now, with the cable, a London bank could know exactly what the exchange rate was in New York and transact from across the ocean.
Global access to price information in general was a novelty made ordinary by the undersea cable. In fact, cotton prices made up some of the first information fed through the transatlantic cable. It was not a moment too soon. American cotton production was just recovering from the American Civil War which had temporarily required European buyers to look for other sources. Due to the shortages caused by the war and the costs of storing inventory, cotton prices were volatile. However, prior to the cable, merchants in New York had to gauge foreign demand using outdated price information given the days required for the news to traverse the Atlantic. Similarly, buyers in Liverpool, the center of British cotton trading, had to assess supply and source the resource using similarly old information.
That said, because merchants and traders could access price information globally and can even act on that information at previously unthinkable speed, one would expect the transatlantic telegraph cable led to price convergence in various markets. One approach to tracking this is by examining the prices of dual-listed shares, shares listed on stock exchanges on both sides of the Atlantic. Research done by Christopher Hoag of Coe College in the United States examined the share prices of the New York and Erie Railroad, one of the few stocks trading in both London and New York with a market deep enough for meaningful price comparisons.
Hoag’s research suggests there was meaningful price convergence between the company’s shares trading in London and New York after July 1866, when the cable was completed. Judging from the movement of the share prices, information was definitely moving more quickly from American to European markets. There was little evidence of the reserve movement of information (from London to New York) which suggests this was not a fluke. Since the railroad was an American company; relevant information about the firm would always reach New York first. From there though, the cable facilitated the globalization of the world equity markets. Listings of American shares in London went on to become much more common in the 1870s as a sizable barrier to communication was lifted.
A similar transformation occurred in commodity markets; there was price convergence there too. Research by economist Claudia Steinwender, of the Massachusetts Institute of Technology, suggests that the difference between cotton prices in New York and Liverpool fell by a third almost immediately after the cable was operational. Further, the cable reduced price volatility by more than two-thirds. This was a feat of consequence to more than just financiers and speculators. More effective pricing of the commodity allowed for more efficient trade. Firms in Liverpool could now order more cotton supplies based on the latest information, reducing inventories. These efficiencies helped boost American cotton exports and eased the challenge of sourcing the raw materials needed for Britain’s large textile industry. Steinwender’s research suggests that the efficiencies gained were akin to eliminating a 6% tariff on cotton, all thanks to the cable.
Despite satellite communications, technology today has not at all moved on from undersea cables. Since 1866, dozens more undersea telecommunications cables have been installed around the world. Transoceanic cables are therefore still critical to transferring financial data. In a world of high frequency trading, fast communications have only become more important. Indeed, a new cable was installed this decade with the expressed intent of shaving a few fractions of a second off transoceanic trading latency.
The Hibernia Express, which commenced operation in 2015, was the first transatlantic communications cables in more than a decade. Its objective was to transfer financial and other data five milliseconds faster. Of course, the speed of light hasn’t changed since 1866 so the signal cannot actually travel any faster. Rather, to achieve this speed, the route for the cable was meticulously surveyed in order to be lain out in a straighter line than past cables, all to save five precious milliseconds. The importance of these cables is not entirely lost on market participants today. Indeed, a century and a half after the first transatlantic cable, the British Pound – American Dollar currency pair is still referred to as ‘the cable’ by currency traders in the foreign exchange markets, a tribute to the cable that linked those countries in 1866.
The invention of the telegraph clearly had a globalizing influence on finance. Cyrus Field’s transatlantic cable in particular had a near instantaneous effect on financial markets. Overnight, the time required to communicate across the Atlantic fell from over a week to mere seconds. Laying the undersea cable was the largest single discontinuous leap made in globalizing markets in the 19th century, perhaps even in all of history. Rather than a New York or Liverpool commodity market or a New York or London stock market, there was now a global market for commodities, bonds, stocks, and more.
More from the Tontine Coffee-House
Continue your study of how technology changed finance by reading about how the stock ticker was able to change finance.
1. Fessenden, Helen. The Great Telegraph Breakthrough of 1866. Federal Reserve Bank of Richmond, 2018.
2. Hoag, Christopher. “The Atlantic Telegraph Cable and Capital Market Information Flows.” The Journal of Economic History, vol. 66, no. 2, 2006, pp. 342–353.
3. Pappalardo, Joe. “A Transatlantic Cable to Speed Up Stock Trades.” Popular Mechanics, 14 Nov. 2017.
4. Steinwender, Claudia. “Real Effects of Information Frictions: When the States and the Kingdom Became United.” American Economic Review, vol. 108, no. 3, 2018, pp. 657–696.
5. Vieira, Helena, and Claudia Steinwender. “The Trade Impact of the Transatlantic Telegraph.” LSE Business Review, 20 Mar. 2018.
6. Yates, JoAnne. “The Telegraph’s Effect on Nineteenth Century Markets and Firms .” Business And Economic History, vol. 15, ser. 2, 1986, pp. 149–163. 2.