Bank Panic of 1907
As is my standard procedure, I get stuck reading Wikipedia articles for serious amounts of time. That site is addictive and I need an intervention!
Tonight let's take a stroll back in history, without Delorean Assistance I am afraid, and see what caused the United States to move ahead with establishing the Central Bank that we all know and love today. All information lifted from Wiki and the pictures come from there or a Yahoo image search.
Panic of 1907
All the usual suspects were aligned for calamity. A planned short squeeze (in United Copper) went badly for the instigator Otto Heinze and this was the start of the contagion. The creep up the banking chain was fast and the first bank to go belly up was Otto's Brother's (F. Augustus Heinze) bank in Butte Montana.
The problem was in the old days reputation meant not just something, but everything. F. Augustus Heinze was involved heavily is several large banks and the word that he was involved in such a play spooked depositors and trading partners. He was forced to resign all banking interests to stave off a panic. Poor fellow, he should have been born later when losing money is not exactly a problem for Bankers anymore!
Next up, The Knickerbocker Trust Company:
The panic quickly spread to two other large trusts, Trust Company of America and Lincoln Trust Company. By Thursday, October 24, a chain of failures littered the street: Twelfth Ward Bank, Empire City Savings Bank, Hamilton Bank of New York, First National Bank of Brooklyn, International Trust Company of New York, Williamsburg Trust Company of Brooklyn, Borough Bank of Brooklyn, Jenkins Trust Company of Brooklyn and the Union Trust Company of Providence
The whole thing was falling apart when the original JP Morgan stepped in:
What is great about this picture is note his left hand (on your right!). He is holding the arm of the chair but the light makes an illusion of a knife pointed outward! Scary!
You can read the whole thing for all the gory details, but safe to say things got bad. Very bad.
Not quite tanks in the street, but Wall Street was a swarm of scared traders:
Every bankers nightmare, people want their actual money and line up to wait for it:
The ending of the panic was forced by JP Morgan strong arming banks that had money to lend to those that were facing runs. Mergers were rushed through (sound familiar?) and even the President was pushed by the good old "Systemic Risk" play:
On Sunday afternoon and into the evening, Morgan, Perkins, Baker and Stillman, along with U.S. Steel's Gary and Henry Clay Frick, worked at the library to finalize the deal for U.S. Steel to buy TC&I and by Sunday night had a plan for acquisition. But, one obstacle remained: the anti-trust crusading President Theodore Roosevelt, who had made breaking up monopolies a focus of his presidency.
Frick and Gary traveled overnight by train to the White House to implore Roosevelt to set aside the principles of the Sherman Antitrust Act and allow—before the market opened—a company that already had a 60% market share to make a massive acquisition. Roosevelt's secretary refused to see them, yet Frick and Gary convinced James Rudolph Garfield, the Secretary of the Interior, to bypass the secretary and allow them to go directly to the president. With less than an hour before markets opened, Roosevelt and Secretary of State Elihu Root began to review the proposed takeover and absorb the news of a potential crash if the merger was not approved. Roosevelt relented, and he later recalled of the meeting, "It was necessary for me to decide on the instant before the Stock Exchange opened, for the situation in New York was such that any hour might be vital. I do not believe that anyone could justly criticize me for saying that I would not feel like objecting to the purchase under those circumstances". When news reached New York, confidence soared. The Commercial & Financial Chronicle reported that "the relief furnished by this transaction was instant and far-reaching". The final crisis of the panic had been averted.
Now here is where things get interesting and I make my point of this exercise (there is one):
The frequency of crises and the severity of the 1907 panic added to concern about the outsized role of J.P. Morgan which led to renewed impetus toward a national debate on reform. In May 1908, Congress passed the Aldrich–Vreeland Act that established the National Monetary Commission to investigate the panic and to propose legislation to regulate banking. Senator Nelson Aldrich (R–RI), the chairman of the National Monetary Commission, went to Europe for almost two years to study that continent's banking systems.Wow, Congress members actually tried to learn stuff back then? Amazing.
This of course led to the formation of the US Federal Reserve Bank, which came online in 1913.
In a hearing for the Pujo Committee there was this famous exchange between JP Morgan and a Lawyer:
Although suffering ill health, J.P. Morgan testified before the Pujo Committee and faced several days of questioning from Samuel Untermyer. Untermyer and Morgan's famous exchange on the fundamentally psychological nature of banking—that it is an industry built on trust—is often quoted in business articles:
Untermyer: Is not commercial credit based primarily upon money or property?
Morgan: No, sir. The first thing is character.
Untermyer: Before money or property?
Morgan: Before money or anything else. Money cannot buy it ... a man I do not trust could not get money from me on all the bonds in Christendom.
Ok so what is my point?
The FED was created to stop this kind of panic. The idea that large banks could have direct control over policy was not liked and the central bank was seen as a way to take this power away from the large banks.
Forget the FED's stated mission of stable prices and full employment, they have been total failures on that score for all time. The FED was created to prevent big banks from destroying the country.
The FED's original reason for being is also another colossal failure. The big banks still call the shots and the office of the Treasury is usually headed by a Goldman Sachs CEO. The FED is a willing partner. In 1907 people were furious the big banks could risk their savings, the FED saw a way to hold this power for themselves. Nothing has changed but the dancing partners after all this time.
Have a good night.