The transformation began, as might be expected, in the nation’s most important business—the marketing of farm crops. It came most dra-matically in the distribution of the two great crops, grain and cotton. The railroad and telegraph not only accelerated the movement of those crops to market but also, of equal significance, made possible the rapid growth of ancillary enterprises: grain elevators, cotton presses, warehouses, and, most important of all, commodity exchanges. The exchanges, based on new telegraphic communication, permitted cotton, grain, and other com- modities to be bought and sold while they were still in transit and indeed even before they were harvested. The standardizing and systematizing of marketing procedures carried out by the exchanges transformed the methods of financing and reduced the costs of the movement of American crops.
The fundamental changes in marketing and financing came first in the grain trade. Here they began as the railroad and telegraph moved across the upper Mississippi Valley in the 1850s and opened up highly productive grain-growing areas. John G. Clark, in his history of the grain trade, tells what happened:
Improvements in transportation and communications, particularly the railroads and telegraph, effected a remarkable change in the marketing of grain. The telegraph put western markets in close touch with price changes in eastern centers, and the railroads facilitated delivery so that a favorable price change could be exploited. As a result, larger purchases of grain were made in markets such as Chicago and Buffalo. With the aid of telegraphic communication, a dealer in New York could also purchase directly at the point of production. The degree of risk, though still large, was lessened, and the long line of individuals making advances to other individuals farther along the line was reduced. More important, as the time required for a shipment of grain to arrive at its destination was reduced, so too was the time in which the purchaser was overextended by an advance. These improvements became operative in a full sense only after the Civil War, and largely in regard to the purchase of flour. Wheat [in i860] still traveled the lake route to market.1
Then with the coming of the fast-freight line and the through bill of lading, the railroads in the 1870s captured the wheat and other grain as well as the flour trade from the lakes and canals. By 1876 five-sixths of the east- bound grain went by rail.2 By then the revolution in the shipping and marketing of grain had been completed.
Central to this transformation was the building of storage facilities and the formation of exchanges. The first grain elevator was constructed in Buffalo in 1841.3 Steam power greatly speeded the process of unloading and loading involved in the storage of grain. However, the demand for such facilities had not yet appeared. A second elevator was not built until 1847, and only in the 1850s did grain elevators begin to be constructed in any numbers. In that decade at least fifteen were built in Chicago alone. Over half of these were owned and operated by the recently opened grain- carrying railroads, including the Galena and Chicago Union, the Michigan Central, the Illinois Central, the Rock Island, and the Burling-ton. The elevators grew larger and adopted improved automatic equipment to increase the speed of loading. From the 1850s on, railroads and grain dealers began to build elevators for storing the grain purchased directly from the farmers along the lines of railroads in wheat-growing regions.
The new storage and shipment methods made necessary the stand- ardized grading of wheat at the point of departure and storage. Wheat could no longer be shipped “as it was in the 1840s in separate units as numerous as there were owners of grain.”4 The high-volume sales required impersonalized standards. Buyers were no longer able personally to check every lot.
In the 1850s the need to standardize grading and the methods of weigh- ing and inspection encouraged the establishment of grain exchanges. The Chicago Board of Trade, established in 1848 on the pattern of the older merchant exchanges of eastern and European cities, assumed this role in the following decade, before it became incorporated in 1859.5 The Mer- chants Exchange of St. Louis took on the characteristics of a modern grain exchange in 1854; that in Buffalo did so at about the same time. The New York Produce Exchange, formed in 1850, soon took over these activities for grain and other commodities; it was incorporated in 1862. The Philadelphia Corn Exchange commenced its activities in 1854. In 1860 the Milwaukee and Kansas City Exchanges opened for business, and by the 1880s there were similar organizations in Toledo, Omaha, and Minneapolis.
These exchanges began to develop cooperative efforts to standardize grading, weighing, and other procedures on a national basis. Even before the Civil War, the exchanges at the great collecting points in the west were beginning to force the eastern ones to adopt their systems of weights.6 It was not until 1874, however, that the New York Produce Exchange agreed to accept the western system of grading and inspection as the national standard.
One reason the existing boards of trade and merchant exchanges took on this new role was the emergence of “to arrive” contracts. Made practical by the telegraph and the assured delivery dates permitted by the railroad, this device quickly replaced the long-established “consignment” contract.7 Such a contract for future delivery specified the amount, quality, price, and delivery date. It was paid for in cash. The new futures contract had many advantages. It permitted grain to be shipped and delivered at the moment when a manufacturer was ready to process it or when the retailer was ready to receive it. As there was less need to sell at a going price when the grain reached a commercial center, prices tended to be more stable.
As important, the new procedures lowered the credit cost required to move the crops. Because a shipment’s price was set in the contract and be- cause the time of transit was short, involving little risk, shippers were able to obtain short-term notes at low interest rates from local commercial banks. No longer did the financing of the movement of the crops require long and often risky negotiations between one commission merchant and another.
The significance of this revolution in financing was enthusiastically, if ungrammatically, noted in a report of the New York legislature in i860:
While the railroad interest has been growing up, and extending all over our country, a most important change has been wrought thereby, in distributing trade through the whole year. Formerly all surplus productions of the western country were purchased … on the credit of large commission houses … It was, though necessary, always an uncertain mode of conducting business. The property must be held, and so held on the credit of some parties. If the value rose, it was maintained; then acceptances were met and all went well… If the value fell.. . then the commission house failed, and often the ruin extended widely into the interior. All this is now changed … It is the substitution of cash for credit… It is the practical working of actual correct business, for the slow and uncertain working of the old system. It is a great reform. It will never go back.
As the grading and inspection became standardized and as elevator and storage receipts and through bills of lading became negotiable, the use of “to arrive” contracts was quickly systematized into modern futures trad- ing.8 Immediately grain dealers began to use speculators’ funds to finance the movement of the crops. They did this by the technique of “hedging.” By this practice a grain buyer made four transactions in financing a single shipment. For example, he obtained the funds to purchase, say in Septem- ber, a lot of 5,000 bushels of wheat at $2 a bushel by selling a futures con- tract for December wheat for that amount at that price. When he sold his 5,000 bushels, a month or six weeks later, he used the proceeds from the sale to purchase a futures contract for December wheat and so met his obligations on the contract he had sold in September. In this way he cut the cost of credit still more, for the many transactions handled by a dealer usually balanced out the slight rise and fall in price of futures during the time he held them. The techniques of hedging thus permitted commodity dealers to shift to speculators much of the cost of credit required in the shipment of grain, already greatly reduced by the speed and regularity of the new transportation and communication.
The procedures devised in the 1850s and 1860s were fully institutional- ized by the 1870s. State regulation of grain elevators helped to standardize more precisely the grading and methods of inspection, while elaborate self- regulation of exchanges systematized and stabilized the high-volume trading made possible by the railroad and telegraph.9
Commodity dealers soon replaced the traditional merchant in the American grain trade. The new firms bought directly from the farmer, took title to shipments, and arranged for their transportation and delivery to the processors.10 Such dealers as David Dows and Company, Jesse Hoyt and Company, Yale Kneeland, and John B. Truesdale had offices at the major grain centers, owned seats on the grain exchanges, and had their own buyers in the grain-growing regions. They made use of brokers who bought and sold on commission to fill in or complete orders received from processors and exporters. These new enterprises were able to ship a much larger volume of grain at a much lower cost than had traditional merchants.
A similar revolution occurred in the marketing of cotton in the years immediately after the Civil War. The complete dislocation of the cotton trade during the war delayed, but only for a brief time, development of procedures comparable to those in the grain trade. Once the cotton trade was reopened and the south’s railroad and telegraph networks had been rebuilt, the change came swiftly.
The impact in the early 1870s of the new transportation and communi- cation on the long-established factorage system for marketing cotton was similar to their impact on the grain trade in the late 1850s. In Harold D. Woodman’s words:
The railroad, through bills of lading, and improved cotton compresses were moving cotton-buying into the interior, thereby undermining the old cotton factorage system . . . The telegraph, the transatlantic cable, and later the telephone put merchants in every market in almost instantaneous touch with one another. Cotton prices in Liverpool and New York could be known in minutes not only in New Orleans and Savannah, but, as the telegraph expanded inland along with the railroad, in hundreds of tiny interior markets.11
Cotton dealers now began to buy directly from planters, small farmers, and general storekeepers. Buyers for New England and British mills (and soon for local ones in the south) purchased their supplies from those dealers who soon came to have large buying networks throughout the south. Cotton dealers, like grain dealers, supplemented their orders by purchasing from brokers on the new cotton exchanges. As a result, the cotton producers no longer needed the services of the cotton factor, par- ticularly the seacoast factor, to market their crops or to provide essential credit.
Exchanges came to play the same role in the cotton trade as they did in the marketing of grain. The first cotton exchange was formed in New York less than a year after the formal organization of the Liverpool Cotton Brokers Association in 1869. Another began operations in New Orleans in 1871.12 The exchanges immediately defined and standardized classifications and grades of cotton and arranged for their inspection. They also standardized contracts and set up procedures to adjust and arbitrate differences arising out of these contracts. Such standardization meant that a purchaser could sell or a buyer obtain a specific grade of cotton on a through bill of lading that would carry the shipment from the railroad station nearest the grower directly to the purchaser’s warehouse.
Finally the cotton exchanges expanded and regularized the new trade in futures. Selling cotton “to arrive” had its beginnings in the 1850s when it was done on a small scale, largely as a speculation. After the war, dealing in futures contracts became increasingly acceptable to conservative businessmen, particularly after the new cotton exchanges systematized and regulated transactions. As soon as the transatlantic cable was completed, the practice of hedging developed in precisely the same way for precisely the same reason as it had on the grain exchanges. “Cotton purchased would be balanced by the sale of a futures contract and cotton sold, by the purchase of a contract.”13 The new procedures reduced the risk and lessened the cost of financing the movement of the cotton crop just as they had in the grain trade.
The coming of the exchanges and the increased speed and regularity of transportation and communication brought to an end that long and expensive chain of middlemen and advances that had run from Manchester and Liverpool through the seacoast ports to the cotton plantations. The cotton trade quickly became the province of dealers who, assisted by brokers at the exchanges, purchased directly from planters and farmers at rail heads and sold directly to textile mills and other manufacturers. After the 1880s the trade became increasingly concentrated in the hands of a small number of dealers who had their own buyers and their own presses and storage facilities in the cotton growing regions in the South and their own selling offices in northern and European cities.
These enterprises moved cotton by telegraphic orders throughout all parts of the world. The resulting high-volume flow helped to reduce costs of individual transactions and gave the larger firms a competitive ad- vantage. By 1921, twenty-four firms with sales of over 100,000 bales annually handled 60 percent of the American cotton crop.14 One such firm, Clayton & Company, established at the turn of the century, was by World War I the largest cotton dealer in the world. The fundamental changes in the marketing of the cotton crop came swiftly in the years immediately following the Civil War, as the impact of the railroad, telegraph, cable, and steamship was fully felt. Since then relatively few changes in the marketing of cotton have occurred.
In the post-Civil War years, other crops—corn, rye, oats, and barley — were distributed and marketed by commodity dealers and brokers using commodity exchanges.15 However, when commodities were processed by large mass producers, these manufacturers rather than the commodity dealers took over the marketing and distribution of the product. Such developments occurred in the marketing of meat, tobacco, and imported foodstuffs such as sugar and cacao. But where processing did not become concentrated in the hands of a few mass producers, exchanges continued to play a major role in a commodity sale and distribution. For example, the only imported foodstuff to have an exchange was coffee, requiring no processing in the United States. It was shipped by dealers to wholesalers and then to retailers in the same bags in which it was originally packed in Brazil.16 Where commodities were purchased from millions of farmers and sold to a sizable number of processors, then the coordination of the flow of goods between the two became the function of specialized commodity dealers who used the commodity exchanges to facilitate their work.
Although the administrative networks these dealers created were often worldwide in extent, they required only a few managers and a small in1 vestment in capital facilities. Much of the buying, selling, storing, and shipping was coordinated and controlled from a single, central office. Nevertheless, such organizations made possible an even more effective ex- ploitation of the existing railroad and telegraph systems. They helped to reduce the number of transactions involved and the number of men needed to distribute a given amount of commodities. They lowered the cost of credit required in movement of crops and, finally, by improving information and scheduling they permitted a closer integration of supply with demand. In these ways the rise of the large commodity dealers contributed to the efficiency and productivity in the marketing of basic American commodities at a time when their export was still important to American economic growth.
Source: Chandler Alfred D. Jr. (1977), The Visible Hand: The Managerial Revolution in American Business, Harvard University Press.