by Prins, Nomi
Bulkley, a millionaire Democrat from Ohio, was popular in the Washington society circuit; he counted as his friends bankers and Republicans alike.66 He didn’t want the banking business exposed to undue government controls. As such, he proposed an alteration to the current draft of the plan to allow bankers to sit on the main Federal Reserve Board. He confirmed Glass’s new belief that it would prove “an almost irretrievable mistake to leave the banks without representation on the Central Board.”67
Five days later, Wilson addressed the issue of banking and currency reform before a joint session of Congress. He again stressed that control of the banking system “must be vested in the Government itself, so that the banks may be the instruments, not the masters, of business and of individual enterprise and initiative.”68 But he shied away from specifics about how the board should be comprised.
Signing the Federal Reserve Act
Wilson had privately agreed to incorporate Bulkley’s suggestions. He intended to allow bankers on the Board of the New York Federal Reserve, one of a dozen reserve banks that would comprise the Federal Reserve System—the most powerful one by virtue of its location in the heart of the banking community and the size of its assets. It was a compromise that gave the bankers the power they wanted but preserved the president’s power to appoint the main board in Washington, DC. By doing so, Wilson got the Republican votes needed to pass the bill.
After six more months of haggling over minor details, Wilson signed the Federal Reserve Act into law on December 23, 1913, establishing the twelve-bank Federal Reserve System and its powerful Wall Street–centric arm, the New York Fed (the part that complied with the bankers’ demands).69 The name sounded “public” and “of the government,” and indeed the act delineated the Fed’s ability to balance credit, monitor inflation, and help cultivate employment. (Though that aspect was absent from the private conversations that preceded the act, the addition played well publicly.) And yet its members were the private banks that wanted it to exist. It was Aldrich’s plan in essence, if not in each particular detail.
Wilson painted the act’s passage as a political victory for the power of the presidency and his party, coated in populist terms. At the signing he effused, “This bill furnishes the machinery for free and elastic and uncontrolled credit, put at the disposal of the merchants and the manufacturers of this country for the first time in fifty years.” (The National Banking Act was passed in 1863—with revisions in 1864 and 1865—to help fund the Civil War by creating currency notes issued by the larger nationally chartered banks rather than state-chartered ones. The Union government established many more nationalistic institutions, as opposed to the more fractious and weaker brand of federalism that existed beforehand.70 The National Banking Act also formed the Office of the Comptroller of the Currency, which issued national banking charters, ensured these banks adhered to strict capital requirements, and required them to back currency notes via holding US government securities.)
At the signing ceremony, in the spirit of bipartisanship and the influence it bestowed upon him politically, Wilson said, “We rejoice together.”71 In a quiet moment afterward, he wrote Glass of his admiration for the way he had carried the fight for the currency bill so successfully.72 He presented his partners Glass, McAdoo, and Owen with gold signing pens.
Though it was largely devised with bankers’ input, the act was presented to the American public as in their best interests domestically. Like the European powers, the United States would now have a centralized entity that operated on the principle of “discount” rates, whereby large national banks would receive loans stemming from reserve funds for a certain interest charge, which would supposedly be used to lend onward to businesses and citizens as needed.
The Federal Reserve System was similar to a European central bank from a monetary policy perspective in that it was able to set rates, but some of its members were more powerful than others. Though all twelve member banks theoretically decided matters with equal influence, the most powerful components of the system characterized the power-sharing arrangement of the president and the bankers. The Board of Governors would be selected by the president, and the Board of the New York Fed would be closest to the Wall Street bankers, who would hold the most sway over the Federal Reserve System because they controlled the largest portion of reserves.
The Bankers’ Bank
Officially the Federal Reserve was created in response to the Panic of 1907 and earlier ones. But its main purpose was to elevate the stature of the United States in global financial activities relative to European central banks, and as a result to strengthen American bankers’ dominance domestically and internationally. It served the dual role of perpetuating the power of the president and that of the bankers, and as such, despite publicized differences of opinion on the matter, it served the alliance of the two.
Though the Fed’s decisions were technically “independent,” the body would serve the bankers first, by keeping them flush with money and by acting as their lender of last resort. National banks were automatically members of the system, as are more than one-third of all US banks, including the biggest ones, today.
The role of running the New York Fed fell to one of the original Jekyll Island authors of the Aldrich plan, Bankers Trust head Benjamin Strong.73 As Ron Chernow wrote, “The New York Fed and the [Morgan] bank would share a sense of purpose such that the House of Morgan would be known on Wall Street as the Fed bank.”74
Though Morgan was dead, his spirit, will, and legacy would live on. The Fed would not prove able to stop subsequent crashes or crises, but it would always provide financing to the big banks and their closest friends in times of need. Satisfying bankers’ international aspirations, the Federal Reserve Act removed the prohibition keeping US banks from opening overseas branches. It also allowed US banks to use the Fed to rediscount bills in order to raise money for financing foreign transactions, thereby removing the old reliance on London discount firms to provide this capital. For New York, this was a major step toward being able to rival London for global financial superiority.
Though publicly spun by Wilson and others as an “equalizing” measure that made credit available to banks of all sizes, the Fed’s initial charter didn’t even cover smaller savings banks. Additionally, state banks were disadvantaged by a requirement to maintain reserves of 32 percent, whereas the big national banks only had to hold 18 percent.75
As Fed historian William Greider observed, “the Fed may have actually preserved the financial power of those very bankers who the public thought were at last being brought under control.”76 Indeed, the mathematics of Fed operation was designed to serve the big bankers the most, and always would. The money trusts were happy.
Wilson, Morgan, and Compromises
Even so, after he signed the Federal Reserve Act, Wilson was perplexed by and somewhat suspicious about the uncharacteristically public acquiescence of Jack Morgan and the banking community to its rules forcing bankers to abandon any external directorships that could be construed as anticompetitive. (The rule was a concession to the smaller bankers, who thought the eastern establishment connections put them at a disadvantage.) Concerned he might have missed a power play, Wilson sent a telegram on January 6, 1914, to his private secretary, Joseph Patrick Tumulty, requesting his impression of Morgan’s action and asking him what the “leading business men and the public mind generally expect.”77
Tumulty examined the matter on behalf of his boss. It was simple, really. He replied, “The country accepts the Morgan announcement as an act of good faith on the part of ‘big Business’ . . . an indication of the willingness on the part of intelligent leaders in finance to put themselves in accord with the spirit of the times.” In other words, the public accepted that by establishing the Federal Reserve, Wilson had taken power from the banks and put it in the White House, and the bankers felt it a small price to pay to relinquish the official trappings of interlocking directorships (with the men they saw socially anyway) i
n return for a guaranteed emergency source of money.
But there was a catch. In return for their acceptance, business leaders expected Wilson to “clear up the atmosphere of doubt surrounding the Sherman law” and cease any remaining Roosevelt-era trustbusting. They wanted him to provide “a gentle admonition” to Congress that such legislation must not be undertaken in a spirit of hostility to business, which is now showing itself “ready to meet the administration half way.”78
As Congress debated strengthening this antitrust legislation, Wilson reflected the renewed camaraderie and expected reciprocity from the banking and business community by weakening the legislation.
As an additional olive branch to the banking community, and in gratitude for the financial support that Jacob Schiff had given him during the election, on April 30, 1914, Wilson requested that Kuhn, Loeb & Company banker Paul Warburg “provide the country the great service” of accepting his appointment to the Federal Reserve Board.79 The bankers didn’t have to clamber for a spot on the board after all. The president handed it to them. Now, two of the six Jekyll Island authors were part of the Federal Reserve System leadership: Warburg in Washington and Strong in New York. Moreover, America had the currency-creation ability necessary for any rising superpower to compete for world power. This ability would soon be tested on the global stage as the United States approached World War I.
CHAPTER 2
THE MID-1910S: BANKERS GO TO WAR
“The war should be a tremendous opportunity for America.”
—Jack Morgan, personal letter to President Woodrow Wilson, September 4, 1914
BOTH FEDERAL RESERVE AND DOMESTIC ANTITRUST ISSUES WERE SOON overshadowed by more ominous events occurring overseas. On June 28, 1914, a Slavic nationalist in Sarajevo murdered Archduke Franz Ferdinand, heir to the Austrian throne. The battle lines were drawn. Austria positioned itself against Serbia. Russia announced support of Serbia against Austria, Germany backed Austria, and France backed Russia. Military mobilization orders traversed Europe. The national and private finances that had helped build up shipping and weapons arsenals in the last years of the nineteenth century and the early years of the twentieth would spill into deadly battle.
Wilson knew exactly whose help he needed. He invited Jack Morgan to a luncheon at the White House. The media erupted with rumors about the encounter. Was this a sign of tighter ties to the money trust titans? Was Wilson closer to the bankers than he had appeared? With whispers of such queries hanging in the hot summer air, at 12:30 in the afternoon of July 2, 1914, Morgan emerged from the meeting to face a flock of buzzing reporters. Genetically predisposed to shun attention, he merely explained that the meeting was “cordial” and suggested that further questions be directed to the president.1
At the follow-up press conference, Wilson was equally coy. “I have known Mr. Morgan for a good many years; and his visit was lengthened out chiefly by my provocation, I imagine. Just a general talk about things that were transpiring.”2 Though Wilson explained this did not signify the start of a series of talks with “men high in the world of finance,” rumors of a closer alliance between the president and Wall Street financiers persisted.
Wilson’s needs and Morgan’s intentions would soon become clear. For on July 28, Austria formally declared war against Serbia.3 The Central Powers (Germany, the Austro-Hungarian Empire, the Ottoman Empire, and Bulgaria) were at war with the Triple Entente (France, Britain, and Russia). While Wilson tried to juggle conveying America’s position of neutrality with the tragic death of his wife, domestic and foreign exchange markets were gripped by fear and paralysis.4 Another panic seemed a distinct possibility so soon after the Federal Reserve was established to prevent such outcomes in the midst of Wilson’s first term. The president had to assuage the markets and prepare the country’s finances for any outcome of the European battles.
Not wanting to leave war financing to chance, Wilson and Morgan kicked their power alliance into gear. At the request of high-ranking State Department officials, Morgan immediately immersed himself in war financing issues. On August 10, 1914, Secretary of State William Jennings Bryan wrote Wilson that Morgan had asked whether there would be any objection if his bank made loans to the French government and the Rothschilds’ Bank (also intended for the French government).5 Bryan was concerned that approving such an extension of capital might detract from the neutrality position that Wilson had adopted and, worse, invite other requests for loans from nations less allied with the United States than France, such as Germany or Austria. The Morgan Bank was only interested in assisting the Allies.
Bryan was due to speak with Morgan senior partner Henry Davison later that day. Though Morgan had made it clear that any money his firm lent would be spent in the United States, Bryan worried that “if foreign loans absorb our loanable money it might affect our getting government loans if we need.”6 Thus, private banks’ lending decisions could affect not just the course of international governments’ participation in the war but also that of the US government’s financial health during the war. Not much had changed since the turn of the century, when government functions depended on the availability of private bank loans.
Wilson wasn’t going to deny Morgan’s request. He approved the $100 million loan to finance the French Republic’s war needs. The decision reflected the past, but it also had implications for the future of political-financial alliances and their applications to wars. During the Franco-German war of 1870, Jack’s grandfather, J. S. Morgan, had raised $50 million of French bonds through his London office after the French government failed to sell its securities to London bankers to raise funds. Not only was the transaction profitable; it also endeared Morgan and his firm to the French government.
Private banking notwithstanding, on August 19, 1914, President Wilson urged Americans to remain neutral regarding the combat.7 But Morgan and his partners never embraced the policy of impartiality. As Morgan partner Thomas Lamont wrote later, “From the very start, we did everything we could to contribute to the cause of the Allies.”8
Aside from Jack Morgan’s personal views against Germany and the legacy of his grandfather’s decisions, the Morgan Bank enjoyed close relations with the British and French governments by virtue of its sister firms—Morgan, Grenfell & Company, the prestigious merchant bank in London; and Morgan, Harjes & Company in Paris. The bank, like a country, followed the war along the lines of its past financial alliances, even to the point of antagonizing firms that desired to participate in French loans during periods of bitter fighting.
Two weeks after Wilson’s August 19 speech, armed with more leverage because of the war, Jack Morgan took it upon himself to approach Wilson about his domestic concerns. “This war . . . has thrown a tremendous and sudden strain on American money markets,” Morgan wrote. “It has increased the already pronounced tendency of European holders of American securities to sell them for whatever prices they could obtain for them, and the American investor has got to relieve the European investors of these securities by degrees and as he can.”9 Market tensions were exacerbated by the fact that European investors were selling securities to raise money. That was a problem whose only solution required the provision of more loans. But there was something else, with more lasting domestic repercussions echoing the trustbusting of the Morgan interest in US Steel.
Morgan argued that rather than encouraging investors to feel safe, the government’s Interstate Commerce Commission, formed to regulate national industry in 1887, was doing the opposite by restricting eastern railroad freight rates and investigating railroad companies. In Morgan’s mind, war was definitely not a time for enhanced regulations against business. And if railroad securities fell in value relative to the loans secured by them, banks would not be able to lend enough to make up the difference. The whole credit system could freeze.
As Morgan further warned, “Great depreciation in the value of these securities” would “throw back to the bank loans secured by them” and lead to a “great tieing
up of bank funds, which will interfere with the starting of the new Federal Reserve System, and produce panic conditions.” He concluded that the war “should be a tremendous opportunity for America,” but not “as long as the business of the country is under the impression of fear in which it now labors.”10 Levying such serious threats, Morgan became the first banker to reveal that credit, the Federal Reserve, the big banks, the US economy, and the war were inextricably linked. Wilson knew this too.
Morgan was especially concerned about the Clayton Antitrust Act, which Congress was considering to strengthen the restrictions against monopolies and anticompetitive practices laid out in the 1890 Sherman Antitrust Act. Having passed the Senate, the bill was headed to a conference committee. Should it pass in its current form, libertarian Morgan believed, it would demonstrate that “the United States Government does not propose to allow enterprises to conduct normal business without interference.”11
Wilson took Morgan’s concerns seriously. He knew the last thing the United States needed was a credit meltdown. To avoid such a crisis and placate the bankers, he was already rewriting the Clayton Antitrust Act, but he didn’t admit it to Morgan. Wilson calculated that there had to remain some areas of negotiation to better one’s hand.12 Though the two argued over interpretation of the bill, a white flag flew between Wall Street and Washington for the time being. Such periods of strife called for allied, not adversarial, relationships between the president and the bankers, and friendly relations would also promote the global power positioning of both parties.
In general, the war meant that the goodwill extended to bankers and business from the president continued, lending protocols included. An October 15, 1914, news report proclaimed, “American Bankers May Make Loans to War Nations.”13 It was a government decision pushed by the banking contingent that would reverberate throughout the war and afterward, drawing clearer lines of competition among the various Wall Street powerhouses. Though the pro-Allies Morgan Bank sought cooperation with the British, for instance, National City Bank set up international branches around Europe and Russia to compete for future financial power, causing a rift between two of the three biggest New York banks that financed the war.14 Partly, that rift had to do with the change of leadership at these firms.
