The Panic of 1907

The following is an excellent excerpt from the book “LOAN SHARKS: The Birth of Predatory Lending” by Charles R. Geisst from Chapter Two: “A Venerable Practice” on page 61 and I quote: “The Panic of 1907 – The fortunes of the stock market were closely related to the credit markets before World War I, although the direct link was not often clear.  Banking and securities were integrally related and securities speculation usually had banking consequences or vice versa, making panics unusually severe and sometimes long-lasting because of the lack of a national securities regulator.  As a result, banks and securities firms usually attempted to resolve market problems on their own, as they had during the nineteenth century.  The stock market and the denizens of Wall Street were viewed with suspicion, and events just after the turn of the century only strengthened the feelings of mistrust.

By the start of 1906, the stock market was approaching bubble-like proportions.  The market had risen sharply since J. P. Morgan merged three giant steel companies to form the United States Steel Corporation in 1901.  Over the first half of 1906, however, the market’s rise was interrupted by a sharp sell-off amid widespread bearish speculation.  The sell-off angered the New York press and brought denunciations raining down on the heads of the New York banks.  In the plunge, the price of U.S. Steel dropped from the mid-fifties to less than $10 a share.  Over the next few months, the market recovered and prices began to rise again, but the absence of a regulatory entity that could calm the market, a central bank, was increasingly worrisome, even to some on Wall Street, since the markets were becoming larger and more complex, along with the economy.  If the market fell again, many of the banks that were heavily involved in speculating–including big trust banks, which managed money invested on behalf of estates and companies–would likely go under.  Many trust banks had made margin loans to market speculators while accepting securities as collateral.  If stocks fell, the trusts and their investors would be badly hurt.  Without a central bank, there was no one to provide them with liquidity in the event of a depositors’ run or if they needed cash to prop up their positions.

Because of their substantial stake in the trust business, the heads of many Wall Street banks wanted to assemble a pool of money to be used should a crisis develop.  A few years earlier, several New York banks had collected money to found their own trust institution, the Bankers Trust Company.  The market reaction the bankers had feared came in March 1907, with stocks losing almost 10 percent of their value over a fifteen-day period.  Many politicians, including President Theodore Roosevelt, blamed the dismal economic climate on the concentrated power of the country’s banks which alone decided if credit was needed in the markets.  The next six months saw the market steadily erode.

Then, on October 21, a run developed on the Knickerbocker Trust Company of New York.  Depositors lined up in front of the bank’s headquarters to demand their funds.  The bank closed the next day after an auditor found that its funds were depleted beyond hope.  A few weeks later, the bank’s president, Charles T. Barney, shot himself.

After Knickerbocker’s failure, Wall Street banks, led by J. P. Morgan & Company, banded together to ensure that the banking system remained intact.  They met in New York with President Roosevelt’s secretary of the Treasury, George Cortelyou, who provided them with $25 million from the Treasury to keep the system from collapsing.  The money was deposited in the national banks in New York for the purpose of adding funds to a system sorely in need of more liquidity.  It was the job of the large New York banks to apply the funds as they saw fit to prevent further panic and runs by depositors.  In many ways, this infusion of Treasury funds was an extraordinary gesture.  Roosevelt’s reliance on Morgan underscored the tremendous vacuum in the United States’s financial system; the Treasury of the largest emerging economy in the world had to transfer funds to private bankers to prevent a financial collapse.

Despite the gesture, the stock exchange began to sag under the weight of margin selling, Ransom Thomas, the president of the New York Stock Exchange, pleaded with Morgan for more funds to support it, fearing it would not be able to weather the day without aid.  Morgan and other bank presidents responded by pledging money, and the New York Stock Exchange was able to remain open.  When Morgan’s support was announced in the exchange, pandemonium broke out and the uproar echoed down Wall Street.  When Morgan asked what the noise was, he was told that the traders on the exchange had given him a roaring ovation.

More than one detractor claimed that the bankers had orchestrated the panic to make speculative profits by using their inside knowledge of banking to make money in the stock market.  When the Knickerbocker Trust Company, a retail bank with many depositors, failed and bankers refused to prop it up.  The view was bankers would not support other banks that did business with the public that they did not control.  A pledge to do so came only after the Knickerbocker failure, triggering a stock market rally.  Morgan’s reputation was enhanced.  After bailing out both the banking system and the New York Stock Exchange, Morgan was literally deified in the press as “our savior.”

Senator Robert La Follette, a Progressive Republican from Wisconsin, was one of the most ardent proponents of the conspiracy theory that this panic was engineered by and for the benefit of Wall Street.  La Follette represented a generation of Americans who favored competition further than the concentration of industry not large trusts (or monopolies).  La Follette was not convinced by the media accounts.  “Morgan gave out, as reported in Wall Street, that the Knickerbocker would be supported [by the banks] if it met the demands of the depositors who had started a run on it.  There was nothing in subsequent events to indicate that there was any sincerity in that promise. . . .Support was not given, it was withheld,” La Follette stated later in 1907.

Nevertheless, Morgan’s reputation as a savior was further enhanced again just a few days after his rescue of the stock exchange when he saved the city of New York from insolvency, in a manner reminiscent of his bailout of the U.S. Treasury over a decade before.  Mayor George McClellan made a personal appeal to Morgan, who agreed to underwrite the sale of $30 million of city bonds.  The bond issue was successful, and after several difficult months this panic began to abate.  Morgan was now seen as the savior of the banking system, the stock market, and New York City all at the same time.  But the lessons of the past had not been forgotten.  If La Follette’s views were any indication, many in Congress would soon be clamoring for financial reform.

Moves Toward Reform – The outcry for reform from Progressives forced bankers to consider the increasing tide of opinion against them.  Around the turn of the twentieth century, the idea of a European-style central bank was discussed as a remedy for the country’s credit market conditions, but most bankers were not wholeheartedly in favor of the idea.  Those who did favor it came from those Wall Street banking houses that better understood central banking an  whose founders were German Jews who had immigrated to the United States in the nineteenth century.

Worried about another liquidity crisis, Congress, in 1908, passed the Aldrich-Vreeland Act.  Its sponsors included traditional Republicans in addition to Democrats who had close ties to the banking community.  The act created an emergency plan to issue currency in times of monetary crisis and formed the National Monetary Commission, which was charged with examining the currency situation and studying ways to make the credit market more stable.

Shortly thereafter, in 1910, a group of Wall Street bankers met clandestinely on Jekyll Island in Georgia.  The meeting was intended as a forum to frame a Republican alternative to the banking reform making their way through Congress, which was under Democratic control for the first time in twenty years.  The group drafted what became known as the Aldrich Plan, named for the head of the National Monetary Commission, Republican Senator Nelson Aldrich of Rhode Island; the plan would become the blueprint for the Federal Reserve system.  Ushered through Congress by Carter Glass, a Republican congressman from Virginia, the plan passed in almost its original form; it was the model on which compromise between Wall Street and reformers would later be centered when the Federal Reserve was introduced.  An elastic currency that could be controlled by a central bank-type institution was one of its stated objectives.

One of the senior bankers present at the Jekyll Island meeting was Paul Warburg of the Wall Street investment bank Kuhn, Loeb & Co.   Warburg, who had left his native Germany to settle in New York in 1902, was in favor of a central banking-style institution and made his opinions known to his colleagues.  He was later confronted in his office one day by James Stillman, chairman of the National City Bank of New York, who wanted to know why Warburg supported such a radical change in American banking.  “Warburg,” Stillman asked, “don’t you think the City Bank had done pretty well?. . . Why not leave things alone?”  Warburg’s answer came without hesitation: “Your bank is so big and so powerful, Mr. Stillman, that when the next panic comes, you will wish your responsibilities were smaller.”  Some, if not many, Wall Street bankers realized that another panic should be avoided at all costs.  The Fed was about to be created.”

(THE FOLLOWING IS ABOUT THE AUTHOR AND PRAISE FOR THIS BOOK AND I QUOTE:

CHARLES R. GEISST is a former investment banker who currently is the Ambassador Charles A. Gargano Professor of Finance at Manhattan College in Riverdale, New York.”

Loan Sharks recounts the fascinating history of America’s undeclared and ill-defined war on usury and loan sharking from the late nineteenth century through the Great Depression.  Geisst gives us a well-documented intellectual history of the struggle with the nation’s predatory lenders and their effects on American life, weaving our current and ongoing debate over consumer lending through a larger narrative of the history of American monetary policy and banking regulation.”                                              —Brian M. McCall, Associate Dean and Orpha and Maurice Merrill Professor in Law, University of Oklahoma

“In Loan Sharks, Charles Geisst takes us on a vivid, detailed historical tour of the “gangsters and bankers” that “had more in common than their desire for gain.”  Probing the moral, political, and financial repercussions of usury from the Civil War to the Great Depression, Geisst expertly reveals the extent to which the extortion of high loan interest from those in society least able to afford the burden exemplifies a rigged and sinister market place and must be thwarted as such.  Those themes held as true then as they do today.”   —Nomi Prins, author, All the Presidents’ Bankers

MY COMMENTS: THIS IS AN EXCEPTIONALLY WELL-WRITTEN BOOK TALKING ABOUT BIG, UNREGULATED INVESTMENT BANKERS BACK IN THE DAY OF REPUBLICAN PRESIDENT THEODORE ROOSEVELT, WHICH EVENTUALLY LED TO THE 1929 STOCK MARKET CRASH AND THE GREAT DEPRESSION.  THE SAME TACTICS WERE AGAIN USED IN 2008 AND ALL OF THIS WAS BECAUSE BOTH PARTIES–DEMOCRATS AND REPUBLICANS–GOT RID OF THE GLASS-STEAGALL ACT WHICH DEMOCRATIC PRESIDENT FRANKLIN ROOSEVELT PUT INTO EFFECT IN 1933 TO KEEP THE BIG INVESTMENT BANKS OUT OF DOING BUSINESS THE WAY WALL STREET WAS DOING BUSINESS.  THE INTERESTING PART OF THIS BOOK IS THAT HE COMPARED BANKS TO LOAN SHARKS WHICH IS ANOTHER WAY THAT UNREGULATED BANKS–BIG OR SMALL–CAN EXPLOIT THEIR CUSTOMERS AND IS ONE OF THE MAIN REASONS DEMOCRATIC PRESIDENT BARACK OBAMA AND HIS ADMINISTRATION PASSED THE DODD-FRANK BILL.  THE CONSUMER FINANCIAL PROTECTION BUREAU IS PART OF THIS BILL, WHICH DEMOCRATIC SENATOR ELIZABETH WARREN WROTE UP TO PROTECT CUSTOMERS FROM PAYDAY LENDERS, WHICH EXPLOITED THEIR CUSTOMERS ON A MONTHLY BASIS WITH EXORBITANT INTEREST RATES AS HIGH AS 400 PERCENT A YEAR, WHICH IS SOMETHING BIG BANKS DID.  AS IT STANDS NOW, REPUBLICAN PRESIDENT DONALD TRUMP AND THE REPUBLICAN-CONTROLLED CONGRESS WANT TO GET RID OF DODD-FRANK AND ALL BANKING REGULATIONS.  THEIR EXCUSE IS THAT REGULATIONS ARE TOO CUMBERSOME AND IT LOWERS THEIR PERCENTAGE OF PROFIT BECAUSE THEY’RE OPERATING ON THE HONOR SYSTEM.  WITHOUT REAL REGULATIONS, HOW COULD YOU PROVE ANYTHING IF THEY WERE LYING?   AROUND THE TURN OF THE CENTURY, MANY STATES HAD WHAT THEY CALLED USURY LAWS SO THAT THE BANKS COULD NOT CHARGE ANY MORE THAN 6-8 PERCENT INTEREST.  THE STATES THAT DIDN’T HAVE USURY LAWS OPERATED JUST LIKE OUR PRESENT PAYDAY LENDERS DO WHEN THEY DIDN’T HAVE REGULATIONS, THE RATE WENT AS HIGH AS 500 PERCENT PER YEAR.

LaVern Isely, Progressive, Overtaxed, Independent Middle Class Taxpayer and Public Citizen Member and USAF Veteran

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About tim074

I'm a retired dairy farmer that was a member of the National Farmer's Organization (NFO). Before going farming, I spent 4 years in the United States Air Force where I saved up enough money to get my down payment to go farming. I also enjoy writing and reading biographies and I write about myself as well as articles and excerpts I find interesting. I'm specifically interested in finances, particularly in the banking industry because if it wasn't for help from my local Community Bank, I never could have started farming which I was successful at. So, I'm real interested in the Small Business Administration and I know they are the ones creating jobs. I have been a member of Common Cause and am now a member of Public Citizen as well as AARP. I have, in the past, written over 150 articles on the Obama Blog (my.barackobama.com) and I'd like to tie these two sites together. I'm also on Twitter, MySpace and Facebook and find these outlets terrifically interesting particularly what many of these people did concerning the uprising in the Arab world. I believe this is a smaller world than we think it is and my goal is to try to bring people together to live in peace because management needs labor like labor needs management. Up to now, that hasn't been so easy to find.
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