Fed’s 100-Year Roots Grew From Virginia Congressman
“As soon as money is needed in business in larger amounts than usual, the banks and business men begin to wonder if it is going to be possible to get the funds necessary to see us through,” Chas. K. Gleason of Edwin P. Gleason & Son, “Converters of Cotton Goods,” wrote from Philadelphia on March 26, 1913. “Currency Legislation is of utmost importance to business men and all the people connected with them.”
Gleason was just one of thousands of American bankers, coffee roasters, shoemakers, bed manufacturers, coal jobbers and hardware-store owners who were fed up with the way the financial system was strangling an otherwise booming economy at the turn of the 20th century.
The correspondence -- in an archive of Glass’s papers at the University of Virginia’s Albert and Shirley Small Special Collections Library -- leaves little doubt about why the Federal Reserve Act became a law 100 years ago. The public demanded it.
Glass, a 55-year-old Virginia Democrat in 1913, was neither an academic elite nor a man of finance. He was a mostly self-educated journalist who grew up in the aftermath of the Civil War in Lynchburg, a historic transportation and manufacturing hub in the state’s south-central region. A voracious reader, his speeches show he was a master of the verbal takedown and liked “a fight better than a frolic,” according to one newspaper headline of the day.
America was caught up in an industrial revolution that its banking system couldn’t sustain, as the letter from Gleason emphasizes. Glass and his Senate partner on the bill, Robert Latham Owen Jr. -- a lifelong friend and Oklahoma Democrat who, like Glass, was born in Lynchburg -- would watch the banking system trip the economy time and again.
Between 1890 and 1914, there were eight recessions lasting an average of 18 months, including banking crises in 1893 and 1907. Shopkeepers, factory owners, farmers and even bankers had identified the U.S. financial system as a matter of national importance.
“I have been through the panic of 1873, the effects of which lasted for five or six years, and all the ups and downs of periods of financial distress, including the panic of 1907,” Alling wrote on April 2, 1913. Currency reform is “the most important of any of the proposed reforms now being considered by the American people.”
Growing up, Glass and Owen, who turned 57 in February 1913, watched the U.S. emerge into the industrial age. Electrification spread with the development of steam turbines, vacuum light bulbs and high-voltage lines. Rail-track miles multiplied, bringing commerce and people to new corners of the country. Ford Motor Co. began mass production of the Model T at its Highland Park, Michigan, plant in October 1913.
By the time Owen and Glass were in Congress, America’s strong growth potential was hobbled by a banking system that Glass called “a rank panic breeder.” From Wall Street to Main Street, people wanted it fixed.
“Dear Sir: It seems to us our money supply and rates are entirely too irregular and varying,” J.L. Hawkins, vice president of Emmons-Hawkins Hardware Co. in Huntington, West Virginia, wrote Glass on March 26, 1913.
After the 1907 financial crisis sank the country into a 13-month recession, Congress in 1908 authorized a National Monetary Commission. Members of the group delivered a comprehensive report four years later on the state of central banking and financial systems around the world.
The U.S., with thousands of single banks, stood in sharp contrast to the sophistication of European countries. If a tobacco farmer in Lynchburg wanted to buy a stove in New York, he or she typically would send the seller a check from a local bank that kept deposits in a correspondent New York bank. The correspondent bank would clear the check, debiting the Lynchburg bank’s account.
Similarly, purchases of tobacco by a New York trader from the Virginia planter might credit the same account. Large New York banks pyramided loans on top of these deposits or even speculated with them.
The U.S. currency also was rigid, as national bank and government notes had to be backed -- typically by gold, silver or Treasury debt.
In times of panic or higher demand for money and credit, city banks sometimes would refuse to release the country banks’ clearing deposits or to provide them with cash. To maintain deposits, city banks would raise interest rates when credit was most necessary for the economy during seasonal or emergency demands.
“Just when we have the greatest prosperity, just when crops are largest and manufacturing most active and money is most needed bankers see surplus funds reduced in consequence of the demand and commence calling in loans,” J.M. Lontz, president of F&N Lawn Mower Co. in Richmond, Indiana, wrote Glass on Feb. 28, 1913. “It makes prices less for the farmer, wages lower for labor and losses instead of profits for the manufacturer.”
Money was not, in the language of the day, elastic or responsive to the demands of business or agriculture, nor was it always available where it was needed.
“At times, the city banks would not honor requests from country banks to withdraw notes,” Jeffrey Lacker, president of the Federal Reserve Bank of Richmond, said in an interview in his office above the James River, which also flows through Lynchburg. “The distribution seemed to be up to the big city banks, to the detriment of the country banks.”
Glass and Owen had a major challenge: They had to craft legislation that paid attention to regional concerns while avoiding the creation of a central bank that would appear as a pawn of the powerful New York banks. The National Monetary Commission’s January 1912 report, under the guidance of Rhode Island Republican Senator Nelson Aldrich, called for a “National Reserve Association” -- in effect a privately controlled entity.
“It is a corporation with private stockholders, but it is proposed to make it the principal fiscal agent of the United States and the depository of its funds,” the report said. “The more important functions of the organization and its principal powers are of a public or semipublic character.”
Some of the input into the Aldrich Plan came from bankers such as Paul Warburg, a partner at Kuhn, Loeb & Co. and contributor to the commission. He recommended a U.S. central bank in a January 1907 New York Times column and became one of the first Fed board members in August 1914. Warburg, unlike some of his fellow bankers, understood that for a central bank to be politically viable, it had to have popular support and serve regional markets.
Frank Vanderlip, president of National City Bank, Citigroup Inc. (C)’s predecessor, also contributed to the Aldrich Plan. He and Warburg joined Aldrich on a secret trip to Jekyll Island, Georgia, in 1910 where they discussed the basic architecture of a U.S. central bank.
“There was not an issue of whether there was going to be something called the Federal Reserve; the issue was who was going to control it,” said Allan Meltzer, professor of political economy at Carnegie Mellon’s Tepper School of Business in Pittsburgh and author of a Fed history. “The Democrats were anxious to have it controlled politically. And the bankers were anxious to have it controlled by them.”
Woodrow Wilson, a Democrat, won the presidency in November 1912 after a Republican Party split; both the House and Senate also were controlled by Democrats. Their election platform included a plank against a centralized central bank, and given the sentiment of the times, the National Monetary Commission’s pitch of private bankers working in the public interest was dead on arrival, even though it provided a diagnosis of the problems in the U.S. financial system and descriptions of how reserve-bank systems function.
Congressman Arsene Pujo, a Louisiana Democrat who preceded Glass as chairman of the House Committee on Banking and Currency, had just investigated the “money trust,” pointing to New York banks such as JPMorgan & Co. and National City Bank as “agents of concentration.”
“The avowed purpose of this bill is to cure this evil; to withdraw the funds of the country from the congested money centers and to make them readily available for business uses in various sections of the country to which they belong,” Glass said, describing his bill in 1913.
The aversion to New York bankers and centralized control can be seen in a January 1913 letter to Congressman Glass from William Glass of Fresno, California, who wrote that he had worked as a cashier and bookkeeper at a Wall Street brokerage when he was “a young fellow in the seventies.”
“Nine-tenths of the money which is up as stakes” on such firms’ “bets is borrowed from the capital of the country and should be in use in legitimate commerce or industry,” he said.
In December 1912, the congressman and his adviser, H. Parker Willis, an editor at the Journal of Commerce, had discussed a decentralized approach with President-elect Wilson. Together, Glass and Wilson worked out a proposal for a system of regional reserve banks that would provide backup currency and credit -- in effect creating a liquid market for the assets held by banks when they needed money.
Wilson wanted a Federal Reserve Board of political appointees with no balance-sheet or banking powers to oversee the system, essentially checking the power of bankers who sat on regional Fed boards. He also devised a check on the political appointees: Wilson dictated to Glass an outline for a Federal Advisory Council -- a group of 12 bankers appointed from each reserve-bank district that would meet with Fed officials in Washington four times a year to keep them abreast of business and banking. Fed Chairman Ben S. Bernanke and the governors in Washington still meet with the council to this day.
“The Glass-Willis proposal of December 1912, with Wilson’s modifications, formed the basic elements of the Federal Reserve Act signed into law in December 1913,” Roger T. Johnson, a former member of the Public Services Department of the Boston Fed, wrote in a study on the historical beginnings of the central bank.
It was a complicated, public-private regionalized structure that New York banker Benjamin Strong -- another Jekyll Island participant who later became the first head of the New York Fed -- assailed as a “many-headed hydra.”
Strong and the bankers attacked the legislation while Glass continued to enjoy support from shop owners, manufacturers and at least one “Breeder and Feeder of Angus Cattle” in Scotland County, Missouri.
“Dear Sir: Your currency measure before the congress is the most important piece of legislation up before the congress in years,” H.H. Schenk wrote Glass on July 29, 1913.
“What Carter Glass represents is a formulation of a compromise that gets the ball over the finish line of creating an institution that can furnish an elastic currency, but at the same time doing it in a way that respects the diversity of economic and political interests across the country,” Lacker said in the interview.
“This whole populist tension between the New York financial center and the rest of the country -- that tension is what really dictated this structure,” he added.
Hearings on the legislation lasted through the fall in Washington. Without Glass’s tenacity, the act might have failed.
“The Glass proposal was attacked from two sides,” Johnson wrote in his history. “Bankers (especially from the big city institutions) and conservatives thought that the bill intruded too much government into the financial structure; while on the other side the agrarians and radicals from the West and South thought that the bill gave the government too little authority over banking.”
Even among Republicans from agrarian states, there was deep-seated suspicion of a centralized money power. Among Glass’s opponents in the House was Charles A. Lindbergh Sr. of Minnesota, the father of the aviator.
“The Glass bill proposes to incorporate, canonize and sanctify a private monopoly of money,” he wrote in his minority report on the bill in 1913.
The House finally passed the bill on Dec. 22 by a vote of 298 to 60. The following day, the Senate approved the act 43 to 25. On the evening of Dec. 23, Wilson signed the bill with Glass and Owen present. Years later Owen would count a copy of the law on vellum and one of the gold pens Wilson used to sign it among his prized possessions.
For his part, Glass continued to defend the Fed during its early years. Speaking in the Senate, where he represented Virginia from 1920 to his death in 1946, he assailed the old system as “bank reserve evil” and called the rigid currency and lack of flexible reserves “the Siamese Twins of disorder.”
Writing the Federal Reserve Act “constituted a challenge to the dominating financial interests of America,” he said. In the end, “sound economic principles triumphed so completely that many of the great bankers who seemed once implacable now concede that a tremendous advance has been made.”
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