PANIC OF 1907

Economic prosperity during the first several years of the twentieth century led to expanded bank credit and rampant speculation in railroad consolidations, western mining ventures, and the coastal shipping industry. With President William McKinley's (1897–1901) administration favoring business interests, powerful business trusts remained poorly regulated and competed with banks. Between 1897 and 1907 imports and exports almost doubled along with the volume of money in circulation, from $1.5 billion in 1896 to $2.7 billion in 1907. Deposits in the national banks (created in the 1860s) more than doubled from $1.6 billion to $4.3 billion. U.S. economic prosperity was shared with many other nations.

Despite economic well-being gold production was lagging behind as demands for investment funds were increasing. A capital shortage was beginning to appear and money was becoming tighter. To help avoid the periodic financial panics of the late nineteenth century, governmental business reforms were introduced. Congress created the Interstate Commerce Commission through the Interstate Commerce Act of 1887. The courts proceeded to weaken the act, but in 1906 the Hepburn Act reasserted the power of the federal government to regulate railroad rates. These regulatory efforts, however, did not save the economy from periodic panics. In 1907 the economy again ran out of steam and fell into depression.

However, business financial troubles began appearing early in 1907. In February the business giant, Standard Oil Company, suddenly faced financial difficulties which caused a sharp drop in the stock market. Then a shipping conglomerate failed in the summer, followed in October by the failure of the United Copper Company. This caused a run on banks as depositors fought to withdraw their funds. Later in October closure of the Westinghouse Electric Company and the Knickerbocker Trust Company accompanied with the suicide of Knickerbocker's president finally triggered a panic in the stock market and suspensions or failures of several banks.

The government turned to New York City's J.P. Morgan and fellow financiers to implement an emergency strategy by loaning $40 million to rescue selected banks and businesses. With President Theodore Roosevelt's (1901–1909) approval, Morgan had United States Steel Corporation purchase holdings of its major rival, Tennessee Coal, Iron and Railroad Company. However, Roosevelt did not initially appreciate what Morgan and others stood to gain personally out of this arrangement—the action strengthened the existing steel trust. This outcome was not well accepted by Roosevelt, known to his public as the "trustbuster."

The panic was limited in scope, not causing extensive unemployment, bank and business failures, or disruption to the agricultural economy. However, the recovery tactics affected the image of big financiers as the public, fearing the power of J.P. Morgan and others, saw the need for banking and monetary reform. Foreign investors also lost confidence, perceiving continued U.S. financial instability from the previous century. (Since the charter of the Second Bank of the United States had expired in 1836, the nation had been operating for over 70 years without a central banking organization.) In response Congress passed the Aldrich-Vreeland Currency Act in 1908 which, during future crises, provided for issuance of emergency bank currency by groups of national banks. Other congressional actions included the creation of the Postal Savings System in 1910 to protect the savings of the poor, and in particular immigrants. The Aldrich-Vreeland Act also created the National Monetary Commission (NMC) to determine needed banking reforms.

Clearly the historic requirements of banks maintaining certain levels of reserves to help insure liquidity of bank notes and deposits were not sufficient measures to blunt financial crises. The NMC studied banking practices in the United States and Europe, which resulted in a 38-volume report in 1911. Congressional examination and debate over the report's findings indicated that the nation needed greater flexibility in lending power in addition to elasticity of currency. As a result Congress passed the Federal Reserve Act in 1913 creating the modern reserve bank system, the Federal Reserve System. The Federal Reserve became the lender of last resort, designed to meet liquidity demands of the entire banking system. This new system placed Federal Reserve Banks throughout the United States, thus eliminating the concentration of banking in New York City. Lastly, the Federal Reserve would also standardize the currency through issuing federal reserve notes.

See also: Federal Reserve System

FURTHER READING

Cowing, Cedric B. Populists, Plungers, and Progressives: A Social History of Stock and Commodity Speculation, 1890–1936. Princeton, NJ: Princeton University Press, 1965.

Fuhrer, Jeffrey C., and Scott Schuh, eds. Beyond Shocks: What Causes Business Cycles. Boston: Federal Reserve Bank of Boston, 1998.

Moen, Jon R., and Ellis W. Tallman. The Bank Panic of 1907: The Role of Trust Companies. Atlanta: Federal Reserve Bank of Atlanta, 1990.

Moen, Jon R., and Ellis W. Tallman. Clearinghouse Access and Bank Runs: Comparing New York and Chicago During the Panic of 1907. Atlanta, GA: Federal Reserve Bank of Atlanta, 1995.

Wicker, Elmus. The Banking Panics of the Great Depression. New York: Cambridge University Press, 1996.