Banking, Finance, Panics, and Depressions
Banking, Finance, Panics, and Depressions
BANKING, FINANCE, PANICS, AND DEPRESSIONS
American banking can be traced back to Robert Morris's Bank of North America (1781) or the First Bank of the United States (1791), but the true energy of the United States' banking system came from the state-chartered private banks. Each state had its own chartering requirements—minimum capitalization, length of charter—but all permitted a chartered bank to issue money (notes) in whatever denominations or shapes the bank chose, usually with the founder's picture on one side. Banknotes from these chartered banks were backed by gold and silver (known as "specie") in the vaults. Typically, banks would emit notes based on the reserve of gold and silver. Customers who had bank-notes could return their notes at any time and redeem them for gold or silver coin.
In theory, banks could not overissue notes, but in reality, all banks did. And in theory, banks' reserves maintained confidence in the institution, but in reality, it was the reputation of the bank that determined whether it had to hold excessive reserves against anticipated runs. If a single bank refused to redeem its notes in specie, it could have its charter yanked by the state legislature, but if many or all banks simultaneously suspended specie payments, the legislators could do little except warn them not to do it again. When a panic subsided, banks resumed specie payments.
Three other categories of banks existed: free banks, which were banks created under general incorporation laws that did not require special action by the legislature; state banks that were arms of the state government, usually with specific charter requirements on where their profits went; and private non-chartered banks that could make loans and accept deposits but not issue notes. Of the above institutions, state-chartered private banks, state government banks, free banks, private banks, and the national banks were all permitted to branch (set up offices in other towns under the bank's name and intermix accounts) except where prohibited by the charter. Branch banking was widely adopted in the South, whereas in the North, unit banking remained the norm, meaning that southern banks tended on average to be bigger and could more easily serve rural areas and, at the same time, were less vulnerable because branching allowed them to diversify their risk. Northern banks tended to be smaller (aside from those in New York City) and have less protection against economic fluctuations.
The two big exceptions to these generalities were the two Banks of the United States. In 1791 Congress authorized the Bank of the United States (BUS) with a twenty-year charter with a capital stock of $10 million (massive in comparison to state-chartered banks), onefifth owned by the government. The bank was authorized to establish branches (which it opened in Boston, New York, Baltimore, and Charleston) and, obviously, to emit notes. However, the BUS's branching provision meant that it had a substantial advantage over all other banks in that it could engage in interstate branching, thereby increasing the use of its notes and further diversifying its risk. In 1811 the BUS's recharter fell victim to growing hostilities between the United States and Britain as, it was asserted, many of the stockholders of the bank were British. The recharter bills failed by one vote in each house.
After the War of 1812, new financial demands on the U.S. government due to war debt led to state banks trying to fill the void by issuing high levels of notes. Circulation expanded from $45 million in bank-notes before the war to $68 million after the war. Prices rose, and many banks had to suspend specie payments. This created new pressures to charter another BUS, and with support from Secretary of the Treasury Alexander Dallas and the merchant Stephen Girard, Congress chartered the Second Bank of the United States in 1816, again with a large capital ($35 million) and the authority to engage in interstate branching. Like the first BUS, the Second BUS served as the repository of government deposits, giving it yet another powerful advantage over all other competitors in that it had a massive deposit base upon which to make loans.
In 1818 international specie drains started to affect the bank's liquidity. The BUS began calling in loans, and predictably, Congress launched investigations. Langdon Cheves (1776–1857), former Speaker of the House, was named the new president. Cheves radically contracted bank obligations as the bank's outstanding notes fell by 50 percent between 1819 and 1820. The United States drifted into its first genuine financial panic as banks across the country suspended specie payments. As Cheves continued to call in loans, he accentuated the image of the BUS as opposed to the interests of the "common person" and memories of the panic of 1819 later contributed to Jacksonian hostility to the bank.
THE SECOND BANK OF THE UNITED STATES AND THE "BANK WAR"
The Second BUS's branching advantages came under attack by the states when Maryland tried to tax the Baltimore branch, leading to a Supreme Court case, McCulloch v. Maryland (1819), in which the Court unanimously ruled that the BUS was constitutional (based on the "necessary and proper" clause). Chief Justice John Marshall, uttering his famous "the power to tax is the power to destroy" phrase, decreed that states could not tax the federal government. In 1823 the Philadelphian Nicholas Biddle (1786–1844) replaced Cheves as president of the BUS. Biddle gradually adopted a more expansionist policy and increased annual dividends.
Biddle had an excellent financial mind but also had political ambitions, if not to run for office then to at least control patronage. The BUS, with its many branches, controlled significant numbers of jobs, which were leveraged further by its lending abilities. Biddle wanted to take advantage of the bank's support in Congress to bring the charter bill up for renewal four years early, in 1832, a presidential election year. Counting on the popularity of the BUS to force President Andrew Jackson's (1767–1845) hand, Biddle hoped bringing the vote up early would force Jackson to sign the recharter regardless of his personal views. As the historians like to quip, "Biddle bungled badly." He misjudged the animus Jackson had for banks in general and the political threat his institution presented to Jackson's administration in particular. It is not true, however, that Jackson opposed in principle a national bank, as his own supporters gave him a plan for such an institution in 1833 drawn up by the New York banker Isaac Bronson. Indeed, buried in Jackson's own papers is a plan from his Kitchen Cabinet adviser Amos Kendall for a national bank in 1829—one under the control of the Democrats.
Jackson launched a campaign to kill the "monster," as he called it. Although the bank recharter bill passed, Jackson vetoed it. It passed again, and Jackson vetoed it a second time. Biddle foolishly tried to bring the administration to heel by contracting credit: notes and deposits fell from $44 million in 1832 to $30 million by the end of 1833. The bank's supporters in Congress lacked the votes to override the veto. But Jackson was not finished: he then withdrew the U.S. government deposits in 1833, stripping the bank of one of its most precious advantages, a large pool of money to lend. Jackson further rubbed salt in the wound by depositing the government money in more than twenty state banks, most of them controlled by Democrats.
The BUS charter expired in 1836. But the story did not end there. In 1836 Jackson issued the Specie Circular, an executive order requiring that federal land be paid for in specie. A financial panic ensued in 1837, with the money stock dropping by more than a third (an amount almost identical to the drop in the money supply from 1929 to 1932), and the price level fell 42 percent. By then, Jackson was out and his vice president, Martin Van Buren (1782–1862), was in. Historians have agreed that Jackson's "killing" of the bank, combined with the Specie Circular, set off the panic. It was a story that was internally consistent and had no glaring flaws. But in the late 1960s, the economist Peter Temin (in The Jacksonian Economy) found data on international monetary flows that proved that the Texas Revolution interrupted the flow of silver from Mexico, setting off a chain of events that caused the Bank of England to raise interest rates, thus sparking the recession.
Much of the writing—both contemporary and the subsequent scholarly work—surrounding those events has focused on the soundness of the state banking systems without a national "policeman." Most Jacksonians, of course, hated the bank. William Gouge's Short History of Paper Money (1833) argued for a return to a specie-only currency—a process he claimed might take ten years. Only Charles Duncombe (Duncome's Free Banking, 1841) stood apart from his Jacksonian brethren in advocating a centralized government currency coming from a national bank. Other Jacksonians, like William Leggett, favored open entry into banking (so-called free banking), aware that the country simply could not function on a specie, but warned against the "fetters" of chartered banks. Trying to pin down the Jacksonian position on banking was impossible, as it ranged from a hard-money standard with no banks to support for state banks (but not a national bank) to support for free banking to opposition to all banking.
This has affected the works of historians writing later, like Reginald Charles McGrane (The Panic of 1837, 1924), who saw Jackson as ignorant of sound banking principles and blamed him for foolishly destabilizing the system. Fritz Redlich's The Molding of American Banking: Men and Ideas (2 vols., 1947, 1951) developed the "soundness school" interpretation that tended to look at the banks solely in terms of their stability, not in terms of their ability to provide capital for economic growth. The bible of money and banking in the Jacksonian period, however, came from a staffer in the Federal Reserve system, Bray Hammond, who viewed Jackson's destruction of the BUS as shortsighted, leading to a flood of banknotes that the BUS would have contained through its informal regulatory policies. But the interpretation one takes out of the Jacksonian era depends almost entirely on which Jacksonians one chooses as representative of Democrats as a whole. In fact, they differed regionally and sectionally, and often their views on money and banking were heavily influenced by the presence of an active Whig opposition in their states or by the absence of any opposition at all.
Despite its dislocations to the rest of the economy, the panic of 1837 had little effect on the book publishing industry or on most of the major literary figures of the day, save Herman Melville (1819–1891), who went to sea in 1840 partly as a result of his personal finances deteriorating due to the economic downturn. James Fenimore Cooper's (1789–1951) The Bravo (1831), which predated the panic, included a warning about a European-type financial oligarchy, but he then turned to a series of travel books after the panic. The exception—Cooper's The American Democrat (1838)—in fact took the other tack, warning about the dangers of social leveling and the threats such democratization posed to the intellectuals and elites. Ralph Waldo Emerson (1803–1882) was already financially secure, was himself an investor, and seemed somewhat surprised to learn that his investment income dwarfed that which he earned from lectures and publishing. Few literary figures joined the debates over the Second BUS or the panic, nor did the panic seem to have a significant impact on the book trade: in 1755 there were fifty publishers in the colonies, but by 1856 there were 385. More impressive was the sheer number of books appearing, with about a hundred new titles a year appearing between 1830 and 1840, then surging to 879 in 1853, then 1,350 in 1859—increasing during the period of the panic of 1857. New York City accounted for more than one-third of the dollar value of all books published, but points as far away as Cincinnati, Ohio, had over a million dollars in sales.
Meanwhile, as pressure grew for states to charter more banks, the burden on state legislatures increased. Partly to address this development, several states passed "free banking" laws as part of a move toward general incorporation laws. Under most free banking laws, a charter from the state legislature was no longer needed. Instead, the owners of a bank only needed to put up sufficient capital in the form of bonds on deposit with the secretary of state to serve as collateral against failure. Some of the more poorly designed of these laws did not distinguish between par value and market value of the deposited bonds, opening a window of arbitrage that encouraged some unscrupulous owners to wait until the value of the deposited bonds fell and then take off with the deposits. Still other bankers printed excessive numbers of notes redeemable only at branches that were so remote that a wildcat would not go there, hence the term "wildcat banks." States quickly remedied these weaknesses, and the free banking system proved healthy thereafter.
From 1850 until the Civil War, then, banking declined as an issue for many Americans. States such as Arkansas, Wisconsin, and Texas that prohibited banks in the wake of the panic of 1837 found themselves at an economic disadvantage, while their neighbors thrived on the transborder financial activities. Some companies, like George Smith's Wisconsin Marine and Fire Insurance Company, skirted the law by forming nonbanking companies that nevertheless issued money, and by 1860 dozens of corporations (including railroads and cities) issued notes. Nevertheless, far from resulting in a blizzard of money whose value consumers could not determine, the market provided a reliable guide to different currencies in the form of Dillistin's Bank Note Reporter, which was regularly updated and which noted the discount of most major notes in the various markets. A discount of more than a percent in Dillistin's was usually the kiss of death, and even with collection and shipping costs associated with bundling and returning money to its bank of origin, most notes did not trade at less than half a percent discount in major markets. Put another way, a bank in Philadelphia would give a merchant 99.5 cents on a dollar note from South Carolina.
PUBLISHING, NEWSPAPERS, AND MAILS
The proliferation of banks occurred while the publishing industry itself was rapidly growing and being defined by political developments. Already there were important weekly story papers, like the Ledger, which turned out 400,000 papers per week, but most newspapers remained small and local, dedicated mostly to covering local events.
This changed with the creation of the Democratic Party, mostly through the efforts of Martin Van Buren, who envisioned a national party that could maintain sufficient discipline to keep slavery out of the political debate. To effect this, Van Buren's party structure rewarded loyalists with patronage and relied on a new system of "news" papers to serve as party propaganda organs. The Democrats outright owned many papers and controlled far more in terms of editorial content. Editors freely admitted that newspapers existed only to reinforce Andrew Jackson's views. One modern estimate concluded that fully four-fifths of the nation's papers were blatantly partisan, and other studies even go further, concluding that all were completely partisan. Jackson's opponents had their own papers, usually easily identifiable by names such as the Arkansas Democrat or the Richmond Whig. At a time when most newspapers lost money on their circulations, party subsidies ensured that the more loyal papers had profits of as much as 40 percent a year during a ten-year period. Printing expenditures by the executive branch of the U.S. government alone rose 75 percent from 1831 to 1841.
The connections between publishing and politics was even closer than may have first appeared. Congress permitted newspapers (virtually campaign literature for incumbents) to be transmitted through the postal system at substantially cheaper rates than other publications. Between 1800 and 1840, the number of newspapers transmitted through the mail rose from under two million to almost forty million, and the postal historian Richard John concluded that if the papers had to pay the same rate as other mail, transmission rates would have been seven hundred times higher. Newspapers traveling through the mail equaled in quantity the number of letters mailed, largely due to the federally subsidized franking privilege of mailing newspapers as part of "government business." Indeed, the government benefits given to newspapers drove publishers away from books and into the more lucrative newspaper business (then to the "dime novels"), leading to an explosion in papers, which by 1840 grew at a rate five times faster than the population. Socially, the implications of this transformation were to further accelerate the "democratization" of the American political structure by providing easy-to-read papers in lieu of deeper—and thicker—hardbound books.
Although few in comparison to the political publications, financial and business newspapers such as Hunt's Merchant Magazine, De Bow's Review, the Farmer's Register, the New York Journal of Commerce, and the Free Trade Advocate discussed all matters economic, including banking and financial articles. But if the new political structure favored newspapers over hardbound books, the new dime novel that started to appear in the late 1850s further changed publishing, leading to complaints that the literature markets were oversaturated. These dime novels could pass as newspapers and often received newspaper-like discounts from the U.S. Post Office. Ironically, the system that Martin Van Buren set up to insulate slavery by controlling government—and, therefore, to subsidize newspaper and, now, dime novel transmission through the mail—now became a vehicle for the transmission of abolitionist literature, which often came in the form of cheap tracts. Of course, the major publishing event related to slavery, Harriet Beecher Stowe's (1811–1896) Uncle Tom's Cabin (1852), greatly changed both publishing and American attitudes toward slavery. But just as Stowe's book sparked outrage against the Fugitive Slave Law, the panic of 1857 was linking banks, politics, and slavery in a different way, and once again, the publishing industry as a whole suffered little during an economic downturn, with Putnam's Monthly Magazine, which failed, being one of the few exceptions.
BANKS, SLAVERY, AND FINANCIAL FLUCTUATIONS
Increasingly, slavery surpassed banking as the central issue of American politics. In the South, banks had indeed supported slavery, making substantial loans to plantation owners both on the value of land and on the value of slaves. But it is a myth that banks ignored industry or manufacturing. Quite the contrary, despite remarkable returns on investment (close to 20 percent), southerners themselves stayed wedded to the cotton culture partially out of familiarity and partially out of the benefits of a power structure that elevated even the poorest whites above slaves. Ironically, the rural nature of the South accelerated efficient banking structures, such as branching, past the unit bank systems of the more heavily populated northern cities. It was the superior branching structure of the South that largely insulated it from the effects of the panic of 1857.
Numerous theories have attributed the panic of 1857 to the fall of grain prices following the Crimean War and the failure of the New York branch of the Ohio Life and Trust Company. In 1990, however, the panic was seen as originating in the Dred Scott case, wherein the U.S. Supreme Court destabilized seventy years of American territorial policy by ruling that neither Congress nor the people of a territory could prohibit slavery. This ruling immediately caused the bonds of east-west running railroads to plummet (though not the bonds of north-south running lines) and thus rapidly eroded the asset structure of numerous large banks. The South was less affected by the ruling because its superior branching system provided a better means of information transmission, thus serving as a circuit breaker for runs. But northern unit banks, lacking as reliable a source of transmission for financial information—not to mention flexibility of assets—suffered disproportionately higher losses.
Contemporaries, however, misread the lessons of the panic, especially in the South where they rightly could have crowed about their banking structure. Instead, advocates of the cotton culture claimed that their plantation system had spared them and that cotton was king. Likewise, in the North, the focus was turned on the tariff, not banking policy. The Civil War intervened before either side accurately analyzed the problems of the panic.
THE CIVIL WAR: BANKING AND FINANCIAL TRANSFORMATION
Secession plunged markets, North and South, into upheaval. After the firing on Fort Sumter, the Confederate States of America immediately confiscated all the gold in Southern banks' vaults, thus destabilizing them. By embargoing cotton, the Confederacy further weakened the position of Southern banks. Abraham Lincoln (1809–1865) delivered the coup with the Emancipation Proclamation, which by freeing the slaves further undercut the asset base of virtually all Southern banks. Had the war ended on 2 January 1863, the Southern banking system still could not have recovered due to the damage that both the Confederate and Union governments had done to the system.
Lincoln's secretary of the treasury, Salmon Chase, concerned about financing the war, devised a new system of banks chartered by the federal government. To obtain a charter, a bank had to purchase U.S. government bonds, thereby assisting the financing of the war. National banks would be given the authority to issue new "national banknotes." To endow those notes with a built-in circulation, Congress affixed a 10 percent tax on the notes of all nonnational banks. State banks still remained in operation (except in the South for several years after the war) but no longer issued their own notes. Congress also authorized the Treasury Department to print $450 million in "greenbacks," which were unbacked notes that would be redeemable in gold at a future date. As might be expected, little literature was directed at banking or finance while the war was in progress.
After the war, deflation set in, bringing calls for new inflationary measures and giving birth to a new political party, the Greenback Party, which ran candidates for president in 1876, 1880, and 1884. The "Greenbackers" urged government to issue new unbacked notes and were soon surpassed as a party by the Populist Party, which favored "free and unlimited silver at 16:1" as a different form of inflation. Until that time, however, national banks again resumed paying specie for notes after 1865, and in 1879 the U.S. government began redeeming greenbacks for gold. Although both the Greenbackers and the "free silver" movement tried to blame the deflation on the government, in fact an international deflation was responsible for falling prices. Nevertheless, the collapse of the southern banking system, combined with the new national bank system—in which new bank charters in the South were unlikely to be given to either the freedmen or to former Confederates—resulted in a de facto shortage of money in the South, whereas the relative shortage of banks in the frontier left a dearth of banking institutions in the West. If government regulations had little to do with precipitating the shortage of circulation, the government did not actively work to increase circulation.
Meanwhile, in the postbellum period, banks that appeared in the new territories relied on symbols of safety to ensure their business. Bank buildings were designed by top architects, adorned with rich wood and fine metals, and located in prime spots in the middle of town to guarantee maximum safety and to add to the value of the bank's real estate. Vaults and safes were prominently displayed to reassure the public that its money was safe. Even after states began to pass sunshine laws requiring banks to issue public statements of their condition, it was these symbols of safety that reassured the "common person" that deposits were safe and the bank itself was solid. Only at century's end were these symbols of safety replaced by government regulations, bank examiners, and deposit insurance.
The publishing industry continued to experience an explosion of cheaper magazines, tracts, and periodicals, even as newspapers moved away from partisan subsidization. Magazines, in particular, saw themselves as social guardians, and encouraged "investigative reporting" on issues important to the public. However, most of the exposé type of reporting, which became the forerunner of the muckrakers, avoided banking and finance as topics. Railroads, trusts, and corrupt politicians proved easier targets. Thus it can be said that during the heyday of controversy over banks and financial panics, not a single prominent work of literature or fiction dealt with the issue as its primary subject.
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