by John Brooks
At last, when the fails level was up to $3.7 billion, the exchanges finally took a measure of drastic action themselves. Beginning on June 12, the securities markets were closed tight every Wednesday—a measure not used since 1929—in order to give the back offices a regular midweek breather in which to make a stab at catching up. But the order for Wednesday closings was unaccompanied by such logical, if painful, further measures as a prohibition on advertising and promotion designed to bring in still more business, or on the hiring of still more salesmen and the opening of still more branch offices. The lure of new money and additional commissions was irresistible. Brokerage ads continued to fill the financial pages and the airwaves; new salesmen were hired, new offices opened. Wall Street had become a mindless glutton methodically eating itself to paralysis and death.
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Why? Where were the counsels of restraint, not to say common sense, in both Washington and on Wall Street? The answer seems to lie in the conclusion that in America, with its deeply imprinted business ethic, no inherent stabilizer, moral or practical, is sufficiently strong in and of itself to support the turning away of new business when competitors are taking it on. As a people, we would rather face chaos making potsfull of short-term money than maintain long-term order and sanity by profiting less. A former high S.E.C. official, talking to me in 1969 about the situation the year before, defended the S.E.C.’s relative passivity by describing its rightful function as that of being “an arbiter between powerful industry groups pulling in different directions.” An arbiter, rather than a conscience? And indeed, did Wall Street that year deserve an S.E.C. that would act vigorously to save it from itself? After all, the Securities Acts, not by chance, were based on self-regulation on the part of Wall Street. Where was self-regulation in 1968?
Essentially, it was in the hands of the leaders of Wall Street’s key institution, the New York Stock Exchange, whose president since the previous September had been Robert W. Haack. Haack was no Keith Funston. He lacked his predecessor’s fire and flair, and also, more happily, Funston’s sometimes fanatical protectiveness of Wall Street and all its self-indulgent ways. Born in 1917 and raised in Milwaukee in modest circumstances, Haack had worked his way steadily and surely to his present eminence: a B.A. from little Hope College, in Holland, Michigan (once famous as the home of Holland rusk); an M.B.A. from Harvard Business School, where he had earned part of his keep by waiting on tables; three wartime years in the Navy; a slow rise, during the nineteen forties, from research assistant to partner in a Milwaukee securities firm; a move to the East, where he joined the bureaucracy of the National Association of Securities Dealers, of which he became a governor in 1961 and full-time paid president in 1964; and then, in 1967, election to what was still the key position in Wall Street. He was the third choice, after Edwin Etherington and Donald Cook had privately made clear that they wanted no part of the job. Funston was a hard act to follow, and Haack, moreover, came to the Stock Exchange with a reputation as a technician, a plodder, a bureaucrat, what the Russians call an apparatchik. Still, he soon showed himself to be something more. He did not hesitate to shake up the entrenched Exchange staff to make it conform to his style rather than to Funston’s; he instituted badly needed long-range planning; he gradually ended Funston’s emphasis on high-pressure promotion of the concept of stock investment for every man; he generally ran a taut ship. Significantly, he kept the home he had bought in Potomac, Maryland, when he had been negotiating constantly with the S.E.C. on behalf of the over-the-counter market, and he commuted from it to Wall Street as often as circumstances allowed. His continued residence near Washington gave evidence of the way in which he conceived of his Stock Exchange role—not as an obdurate defender of Wall Street, but as a mediator between Wall Street and Washington.
An able and conscientious man, then, as even his most disillusioned former employees have conceded. But in the 1968 back-office crisis, Haack was as inadequate as everyone else. “Exchange-imposed restrictions were critical in coping with the paperwork problems of troubled firms,” he observed later. Critical, indeed. Haack might better have used the subjunctive: “would have been critical” might have made more sense. All through the crisis, the Exchange trod on eggs, administering a slap on the wrist here, a pat on the backside there, “urging” and “advising” member firms to take “strong steps” to curtail business, but never itself taking the strong and clearly required step of imposing sanctions to make the members comply. Apart from the ill-fated January and February early closings, the Exchange made no strong positive move until it was confronted with general disaster. In March, for example, it sent member firms a letter pointing out the extent of the problem, and then continuing,
Firms with serious problems may be asked to take steps to limit the growth of business or to reduce business.… In the absence of voluntary action, restraints may be imposed by the Exchange.…
Faced with such pussy-footing, it is small wonder that the member firms did little in the way of compliance. By early June, shortly before the Wednesday closings were instituted, Haack was at it again, pleading with member firms in a new cajoling letter. Now, he said, it was his belief that firms should “seriously consider” adopting “voluntary” restraints on expanding business. Specifically, he suggested that they stop soliciting over-the-counter business; that they “reduce or discontinue” trading for their own accounts; that they disallow commission credit to salesmen on trades in low-priced stocks; and that they take various other steps, including a reduction of advertising and promotion. As Baruch has pointed out, a flat ban on the opening of new offices or the hiring of new salesmen, which would have been legal and proper, was not among the “suggestions.” As to the effectiveness of those that were made: for July, the month after the second Haack letter and the first full month of Wednesday closings, the fail level subsided only fractionally from June’s.
Late in July, the S.E.C. finally began to crack down. It issued a warning to firms that in accepting orders they were unable to handle they were violating the antifraud provisions of the securities laws and were therefore subject to prosecution. During the same month, the S.E.C. began back-office proceedings against two Stock Exchange firms, Estabrook and Company and Schwabacher and Company; in August it took similar action against seven others. The crisis lessened. The Wednesday closings, if they did nothing else, radically upset the normal pattern of trading by introducing a sort of midweek weekend. Whether they or other forces were serving to reduce the trading volume was not clear; but in any case, something was doing so, and in September fails dropped significantly. And how did the Stock Exchange react to this sign of limited progress? Under pressure from its member firms eager to get back to profitable chaos, it announced that the time was imminent for a return to a normal five-day trading week. But by now the S.E.C.’s remarkable patience had come to an end. It forced the exchanges to continue the Wednesday closings and to put special restrictions on no fewer than forty-four firms with back-office problems, compelling them to cut back their business drastically.
The surcease was temporary. In October, the bull-market tide rose strongly again; daily volume moved back up to 15 million shares, equal to the record in June, and there were two 20-million-share days, the second and third busiest days in Exchange history. Of course, the fail level shot up once more. As the autumn continued, and the public reached maniacally for easy money while Wall Street raked in the commissions, the downtown situation took on the quality of a play by Pinter or Beckett. One Wall Streeter told about stock certificates turning up “stuffed behind pipes in ladies’ rooms, at the bottom of trash baskets, in the backs of filing cabinets with old letters.” Another commentator, a Stock Exchange employee, told of a small Pennsylvania investor with an account amounting to a few thousand dollars who wrote to the Exchange explaining that his broker kept mailing him statements crediting him with bonds worth $1 million—and that, despite his repeated efforts, he could not get the statements corrected. (Nor, of course, could
he collect the bonds.) Investors who bought one hundred shares of a stock might receive in the mail one share, or a thousand shares, or a hundred shares of some other stock, or, frequently, an empty envelope. Sixty-dollar-a-week backroom employees, tempted by the presence of negotiable securities piled at random on every level surface around them, stole millions of dollars’ worth. In December—when the bull market proceeded majestically to its climax, oblivious of all the cautious efforts of the wise men of Wall Street and the marginally stronger efforts of the scarcely wiser, but certainly more detached, wise men of Washington—the fails level climbed to a record high of over $4 billion. As never before, not in the fabled panics of 1873 or 1907 or even 1929, the American securities industry was in a state of total disarray.
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It is time that we looked closely at the source of the trouble, the 1968 back office.
Known informally, and suggestively, as “the cage,” the back office was an unlovely and constricting place to work. In its role as the dirty and clanking machinery of Wall Street, unseen and taken for granted by stock salesmen and customers alike, it had no need, from a sales point of view, to be impressive or evenly humanly gracious in its physical appointments. Instead of the thick rugs, leather chairs, shiny desks, and old prints of the reception area and boardroom, it was often sparsely and frugally furnished with dilapidated tables in need of paint, chipped desks with drawer handles loose or missing, malfunctioning typewriters, and creaking swivel chairs with missing casters. In fulfillment of its sole purpose—to keep records and to move physically money and stock certificates in conformity with transactions made in the front office—it was subdivided into a bewildering variety of departments with such discouraging names as “receive and deliver section,” “box and vault section,” “box tickets,” and “update stock record.” Operating this complex machinery required the performance of a wide variety of small jobs, all routine. Merrill Lynch, the biggest broker and therefore the proprietor of the biggest back office, had about five hundred separate clerical titles; “input typist—stock transfer department” was a typically uninspiring job description. So compartmentalized was the responsibility that there were few back-office jobs that could not be mastered by almost any high-school graduate within a matter of days. Pay was low—much below that for unskilled blue-collar work; the back-office worker’s hope for a decent year’s pay lay in the possibility (never a certainty) that the firm would have a good year and hand out big bonuses in December. Opportunity for advancement was slight, and for the most part confined to a few pre-selected favorites who were assumed, under the ancient American business formula, to be serving a term at the bottom in order to “acquire experience.” Everyone else was assumed to be in the back office to stay. Or to leave: annual back-office turnover ran around 50 or 60 percent.
Enter a 1968 Wall Street back office and what kind of atmosphere did a visitor find? A workaday, time-serving atmosphere, as might have been expected, the tedium of routine chores performed under close supervision relieved by a good deal of horseplay, grudgingly tolerated by the supervisors. The jokes revolved around a single theme: “Any idiot could do this job without straining himself.” On a busy day the atmosphere was friendly, but on a slow one it was apt to turn mean—needling, veiled insults, not-so-veiled racial slurs. (By this time, a good number of back-office employees were black.) As a social unit, the back office was much like an army platoon, its morale high when there is a job to do and low when there is time to waste. And the supervision of the back office was often patterned closely on military command. At Merrill Lynch, in the interest of keeping good order, back-office employees were told when to take their lunch breaks, and sometimes even marched to the rest rooms under supervision. Small wonder that they complained about being treated like children.
It is fair to say, then, that Wall Street in 1968, like the sweatshop owners of an earlier time, had cut its own throat through its complacency, greed, and lack of foresight. And yet the solution was easy only in theory. Two clear-cut steps might have prevented the whole mess: automation of back-office operations, and elimination of stock certificates. As to the first, it would have required a degree of planning, and an amount of capital outlay, that Wall Street in 1966 and 1967 clearly had not been able to muster. Even if such foresight and willingness to spend had been present in 1968 all over Wall Street (as it was at Lehman Brothers), the short-term result might have been to worsen the crisis rather than to relieve it. The difficult transition from hand work to machine work might have coincided with the speculative binge and made for an even greater disaster. The second step, elimination of stock certificates, called for something more than planning or expense, and something that perhaps no amount of wisdom could have accomplished—finding a way of persuading the cautious and possession-proud American stockholder that a monthly statement from his broker showing his holdings was an adequate substitute for the embossed stock certificates that he kept locked so lovingly in his bank safe-deposit box. The certificates served no essential purpose in financial terms, and were unquestionably the chief cause of the back-office problem; there was even a precedent for certificateless investment in the mutual-fund industry, which generally did not issue certificates to shareholders except on special request. But direct stock investment was another matter. There, certificates served a symbolic cultural purpose. A century and more of tradition backed up the embossed certificate with its bombastic industrial iconography. The first possession of such a certificate, through gift, inheritance, or purchase, had come to be a milestone in American middle-class life; it marked the moment when the possessor felt himself to be a person of substance and importance—a stockholder; a true capitalist. Rites of passage and symbols of possession are not readily given up, even in times like 1968 when the rites and symbols themselves stand in danger of destroying what they symbolize. Some states made certificates mandatory by law.
So immediate elimination of certificates was, for all practical purposes, a mirage. And, of course, once the back-office crisis had fairly begun it was not even that. Who would suddenly begin to trust in a broker’s records as evidence of ownership at a time when those records were in such a state that the broker could not trust them himself?
In mid-1968, the Stock Exchange made a good, but far too late, effort to ease the situation through automation. For a decade, it had been toying with the notion of establishing a Central Certificate Service, a huge stock depository, with computerized record-keeping on such a scale as most individual firms could not afford, that would make possible the electronic transfer of stock held in brokers’ names, and would thus theoretically reduce the handling of certificates in brokerage-firm back offices by as much as 75 percent. Essentially, the plan was to set up a master back office for the mutual use of all member brokers and thus largely replace the individual back offices. For years the Exchange had been postponing the establishment of C.C.S. on grounds of expense. Now, in the press of crisis, it hastily activated the plan, setting up a vault and a row of computers in the sub-basement of 44 Broad Street, and pronouncing C.C.S. open for deposits. A good try—but one destined in the short run for an ironic fate. Christopher Elias, an Exchange employee at the time, has described how in the first weeks of operation the C.C.S. vault was inundated with certificates in such quantity that they could not be handled by man or machine; how, in sickening imitation of the familiar back-office scene, certificates accumulated in disorderly piles on every flat surface at 44 Broad; how C.C.S. employees, hastily recruited from the scarce labor market or drafted from other Exchange departments, were helpless to create order; how for weeks the C.C.S. computers broke down almost daily. Eventually, C.C.S. would get its bearings and become a useful service. But in the time it was needed most, its first months of operation in early 1969, the facility intended to eliminate brokerage back-office problems became, instead, one more monstrous back-office problem itself.
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The key Wall Streeters of the 1968 crisis were the back-office
employees themselves.
They were young—seventeen to twenty-five in most cases; they were high-school graduates or dropouts. Few had attended college even for a year. They were quite thoroughly mixed as to sex and race; white male supremacy in Wall Street, at the clerk level, had yielded to social change and practical necessity. A solid majority, nevertheless, were white, coming from the near suburbs or the city boroughs other than Manhattan. An important brokerage official later stated his belief that many of them were hired through Mafia-controlled employment agencies. The question of the role of organized crime in the back-office snarl and the accompanying rash of securities thefts remains unanswered. In 1969, a hooded witness created a sensation when he testified before a committee of the New York State legislature as to how easy it was to steal securities. U.S. Attorney Morgenthau, after conducting an investigation, concluded that securities thefts were running at an annual rate of nearly $50 million, but that “the penetration of organized crime in Wall Street is not significant.” Whatever the case, it is hard to believe that very many back-office employees in 1968 were anything more than innocent pawns of organized crime. Most of them brought little ambition to their jobs, or even the intention to remain there for long—a year, perhaps two at the most. They thought of their jobs as something to do until something better, or better paid, presented itself.
