Lords of Finance

by Liaquat Ahamed

  It soon became clear that France was motivated not so much by economic arguments but by strategic calculations. French officials tried to use their financial muscle to extract political concessions—money to them not being its own reward. Even the French Military High Command became involved. General Réquin, a senior adviser to Minister of Defense André Maginot, wrote to General Weygand, chief of the General Staff, urging that France “lean on England while the pound is at our mercy. . . . We can make her understand . . . that if she wants our help as a lender, other questions must first be settled.”

  In September 1930, it was suddenly announced that Moreau was resigning. This had been rumored in Paris for months, but it still came as a great shock in British banking circles. Initially the talk was that he was being forced out by British pressure and that his departure might foreshadow a change in French policy.

  In fact, having presided over the recovery of the franc, he had just been decorated as Grand Officier de la Légion d’Honneur and decided himself that it would be a good time to go. He was simply following the age-old practice in France whereby senior civil servants, unusually poorly paid by international standards, move to the private sector to build up a nest egg. He had accepted the position of vice president of the Banque de Paris et Pays-Bas, the most prominent of the private banques d’affaires, a distinctively French type of banking house that combined security underwriting with direct investments in industry. Indeed, he had already moved out of the official apartment assigned to him as governor, which despite its “sumptuous trimmings” was lit by kerosene lamps, had especially “antiquated heating,” and smelled of “a miser’s snuggery,” into a magnificent hôtel particulier, a large town house on the Rue de Constantine opposite Les Invalides.

  He was succeeded by his deputy, Clément Moret, like Moreau a graduate in law, who had then gone on to Sciences Po, and also on to the Ministry of Finance—Moret, however, was not part of the elite Inspectorat des Finances. Instead, the self-effacing Moret had spent twenty-five years clambering up the Ministry of Finance hierarchy. Plucked from obscurity by Poincaré, who described him as “abnormally honest,” Moret had become a director general within the ministry and in 1928 had been assigned to the Banque as deputy governor.

  He was of a different generation—at the age of forty-five the youngest man to be appointed governor. And in contrast to Moreau, who had been blunt to the point of rudeness, Moret was courteous and thoughtful. But though there was a change in style at the Banque, there was to be no change in the substance of policy. Indeed, Moret thought of himself, even more than had Moreau, as a civil servant and the Banque de France as essentially an arm of the state. He did propose that if the goal was to redirect gold reserves from France to Britain, the British government should borrow directly in France. Of course, lacking any assurance that the pound would remain stable, such a loan would have to be denominated in francs. For Norman, who thought that it was contrary to the “prestige” of London even to appear to “ask favors from the French,” this would have been the ultimate humiliation. And so, as a combination of British pride and heavy-handedness locked horns with French selfishness and arrogance, the French gold mountain kept growing.

  Norman instead latched onto a grandiose plan that, it was claimed, would provide a “blood transfusion” to cure the Depression. An international bank, a sort of forerunner of the World Bank, was to be set up and headquartered in a neutral country, Switzerland or the Netherlands, with capital of $250 million. It would be able to borrow another $750 million primarily in gold-rich France and America, which would be channeled to governments and businesses around the world in need of capital. Norman rolled it out at the February 1931 monthly meeting in Basel of the BIS, which had become a sort of club for central bankers. They would gather there on a Sunday night, have an informal and private dinner together, and spend the next day in meetings. Even before the wining and dining was over—for the monthly meetings at Basel would become a byword for good food—it was clear that the plan would go nowhere. Neither the French nor the Americans were willing to hand over large amounts of money to an internationally run organization likely to be dominated by Englishmen.

  The following month Norman sailed for the United States, which he had not visited since the summer of 1929. It was obvious that in the intervening two years the American press had greatly missed him. From the very start, following the suddenly announced mission of what the New York Times called “England’s elusive master banker” and “man of mystery,” vaguely hinting that some great initiative to solve the world Depression was in the offing, they would not leave Norman alone. From his departure aboard the Berengaria on March 21, he was followed everywhere on his “secret mission” and his movements—his meetings at the New York Fed, attended by even the secretary of state, Henry Stimson; his trip to Washington; his visit to the White House; lunch with Secretary of the Treasury Mellon—were all examined in minute detail. He put on a wonderful performance, hamming it up for the crowd of reporters that pursued him. Looking more like “an orchestra leader than a banker of such eminence,” he wished them “better luck next time” when they tried to extract the purpose of his visit. When they begged him for some tidbit of insight into the world financial situation, he teased them by gravely announcing that he thought the recent departure of King Alfonso of Spain into exile would have no effect on international finance. But for all the frenetic schedule of meetings, even his most devoted followers among the press had the suspicion that there was much less there than met the eye.

  Even before Norman had arrived in the United States, J. P. Morgan & Co., usually his biggest supporter, had signaled that it had no intention of backing an “artificial” agency or any “form of international organization of credit.” The New York Fed had cabled that it thought the whole scheme too “visionary and inflationary.”

  Norman tried to convince his American hosts of the “very gloomy situation” of Europe. The only hope for Britain now was a savage reduction in wages. In Eastern and Central Europe the position was even more desperate. “Russia was the very greatest of dangers,” he told Stimson. Germany and Eastern Europe were not receiving enough “help from the capitalist system to stand the expense of remaining capitalist . . . and all the time while they wobbled and wavered Russia was beckoning to them to come over to her system.” The specter of communism, which would persuade a later generation of Americans to pour vast amounts of money into Europe, did not have the same potency in 1931.

  The United States was in a depression of its own, had over the previous seventeen years already committed some $15 billion to Europe, including war loans, and was eager to avoid any further entanglements across the Atlantic. Norman returned empty-handed. In May, when Thomas Lamont was passing through London, Norman complained to him that the “U.S. was blind and taking no steps to save the world and the gold standard.”

  It was becoming apparent to most commentators that the continued flow of gold into France would eventually create a breakdown in the mechanism of international payments. As usual, Keynes put it the most graphically, “Almost throughout the world, gold has been withdrawn from circulation. It no longer passes from hand to hand, and the touch of the metal has been taken from men’s greedy palms. The little household gods, who dwelt in purses and stockings and tin boxes, have been swallowed by a single golden image in each country, which lives underground and is not seen. Gold is out of sight—gone back into the soil. But when the gods are no longer seen in a yellow panoply walking the earth, we begin to rationalize them; and it is not long before there is nothing left.” The bullion reserves that backed the credit systems of the world, buried as they were in underground vaults—or in the case of the Banque de France, underwater, because its vaults lay below a subterranean aquifer—were invisible to the public eye. They had acquired an almost metaphysical existence. Keynes thought that perhaps gold, its usefulness now outlived, might become less important. He compared the situation to the transition in government from
absolute to constitutional monarchy. He would eventually be proved right but not before a wrenching upheaval.

  IN EARLY 1931, a similar insidious process of paralysis also began to affect the U.S. banking system. It originated in the most unlikely of places—the Bronx, one of the outer boroughs of New York City—with the strangely named Bank of United States (BUS), which despite its official-sounding title bore no relationship to the U.S. government but traced its very modest roots to the garment industry on the Lower East Side of Manhattan.

  On the morning of December 10, 1930, a small merchant from the Morrisania section of the Bronx went to his local branch of the Bank of United States on the corner of Freeman Street and Southern Boulevard and asked that the bank buy back his modest holdings of its stock. This was not as strange a request as it sounds. In the middle of 1929, the bank had set out to support the value of its shares by selling them to its own depositors. As an inducement, investors were given informal assurances that they could sell the stock back to the bank at the original purchase price—around $200 a share. If this sounds too good to be true, it was; but in the middle of 1929, people were willing to believe anything. By the fall of 1930, after the collapse on Wall Street and amid mounting concerns about the economic situation of New York, shares were trading at around $40.

  Officials at the Bronx branch tried to convince the exigent depositor that he should hold on to his stock, that even at current prices it remained an excellent investment. No doubt irritated at this obvious attempt to renege on a clear promise, he stormed out and began reporting that the bank was in trouble. By the afternoon, a small horde of depositors had begun lining up outside the branch’s tiny neoclassical limestone building to withdraw their savings before closing time. Until now, despite the Depression, there had been no bank runs in New York, and soon a crowd of twenty thousand curious bystanders had gathered to watch. As the anxious depositors became restless, a squad of mounted police had to be sent in to control them and several customers were arrested; and when the mob became frantic, the police charged the crowd with their horses.

  The Bank of United States had fifty-seven branches across the four larger boroughs of New York, and over four hundred thousand individual depositors, more than any other bank in the country. Rumors of the trouble quickly swept the city and similar scenes were enacted that afternoon at many other branches, with armored trucks being called in to deliver extra cash.

  The bank had been founded in 1913 by Joseph S. Marcus, a Russian Jewish immigrant who had come to the United States in 1879, and having begun as a garment worker on Canal Street, had made good as a manufacturer of clothing and then as a local banker. The first branch of his bank, located on the corner of Orchard and Delancey Street, catered to the neighborhood’s mostly Jewish garment workers and merchants. As a result of Marcus’s reputation among the Lower East Side traders for honesty and fair dealing, the bank had done well, although it was undoubtedly helped by the name, which gave many of its Yiddish-speaking clients the impression that it was somehow backed by the full faith and credit of the national government. By the time the older Marcus died in 1927, the bank had grown into an institution with $100 million in assets, a head office at 320 Fifth Avenue, and seven branches across the city. But its officers and its clientele remained predominantly Jewish, and it was snidely nicknamed “The Pants Pressers’ Bank.”

  When Joseph Marcus died, the bank was taken over by his son Bernard Marcus, a brilliant but flamboyant businessman with a taste for conspicuous consumption far removed from his father’s modest ways. When, for instance, Bernard went to Europe, he traveled with thirty pieces of luggage and always insisted on occupying the grandest suite on board ship. Over the next two years, he expanded his base through a series of mergers so that by 1929 it had grown to $250 million in assets.

  Marcus resorted to a series of practices considered shady, even by the lax standards of the time. The bank lent some $16 million, a third of its capital, to officers of the company and their relatives to allow them to buy its stock. To finance its headlong growth—the bank more than doubled in size in two years—Marcus issued large slabs of equity, which he committed to buy back at the original price of $200. When the price began to fall in the spring and summer of 1929, many investors held Marcus to his guarantees. In order to take up all the stock coming on the market, he created a series of affiliate companies—in today’s parlance, off-balance-sheet special-purpose vehicles—that repurchased the equity with money borrowed from the bank itself. Marcus was in effect using depositors’ money to support the shares of his bank.

  In its lending policy, the bank made a big bet on the value of New York City real estate. Half its loan portfolio, double that of comparable firms, went into real estate finance, though again the true exposure was hidden by channeling money through affiliate companies. When the crash hit, the bank was committed to two big projects on Central Park West: $5 million for the Beresford, a twenty-story building at Eighty-second Street with over 170 apartments and another $4 million for the San Remo on Seventy-fourth with 120. Though it was rumored that Marcus himself owned these two developments, his interest in them was disguised through dummy corporations, and every single penny for their construction came from the bank.

  Thus by the middle of 1930, while the official books gave the impression of a bank that had $250 million in deposits, $300 million in good quality assets and $50 million in equity, the operational reality behind these numbers was quite different. The true value of assets was worth no more than $220 million, all its equity had been wiped out, and the bank was $30 million in the hole.

  In the fall of 1930, as rumors that the BUS might be in trouble circulated through the higher financial circles of New York, the Fed tried to engineer a merger with some of the other Jewish majority-owned banks in the city: the Manufacturers Trust, the Public National Bank, and the International Trust Company. The deal would have required the resignations of Marcus and his cronies who had presided over its mismanagement. But suspicion of Marcus within the financial community was so great that no one could bring themselves to trust the accounts, and the deal fell through at the last minute.

  On the evening after the run began on December 10, all of the familiar Wall Street barons—George Harrison of the New York Fed, Thomas Lamont of J. P. Morgan, Albert Wiggin of Chase, Charles Mitchell of National City, and another half dozen of the city’s top bankers—gathered on the twelfth floor of the New York Fed to try to put together a rescue package. By 8:30 that evening they were close to striking a deal and Harrison had even begun preparing his press statement. To save the bank, they would collectively have to be willing to pump in $30 million. At the last moment, however, several key bankers balked.

  These men had all been reared on Walter Bagehot’s nineteenth-century classic Lombard Street, which described how the Bank of England, then the financial center of the world, handled financial crises and panics. Bagehot argued that during normal times a central bank should follow the gold standard rule book, allowing credit to expand and contract in line with bullion reserves. But in a financial crisis, it should throw away the rule book and “lend freely, boldly, and so that the public may feel you mean to go on.” As he put it, “A panic . . . is a species of neuralgia, and according to the rules of science you must not starve it.” In other words, a central bank had to be willing to inject as much money as was necessary to satisfy the public demand for cash and safe assets.

  But Bagehot did inject one caveat. Though he argued that in a panic the central bank should lend without hesitation or question, it should do so only to banks facing a temporary squeeze on liquidity and never to those actually insolvent. The problem this time was that the BUS was not just temporarily short of funds, it was insolvent and could not hope to cover its obligations.

  There was another element involved in the decision not to bail out the Bank of United States, though it was unspoken. Marcus was a Jew and, moreover, a Jew of the wrong sort. There had always been a divide between the
WASP houses and the Jewish houses on Wall Street. But firms such as Kuhn Loeb, Lehman Brothers, and J. W. Seligman represented “Our Crowd,” the German Jewish elite, and for all the anti-Semitic bigotries of old dinosaurs like Jack Morgan, these firms were held in very high regard and viewed as reputable and very prestigious institutions. But the Wall Street patricians gathering on the evening of December 10 would have found it hard to hide their distaste for bailing out a Jew like Marcus, an ex-garment manufacturer from the Lower East Side who was running a bank that, according to Thomas Lamont’s son, Tommy, was patronized largely by “foreigners and Jews.” Russell Leffingwell, the Morgan partner, described it as a bank “with a large clientele among our Jewish population of small merchants, and persons of small means and small education, from whom all the management were drawn.”

  When Joseph Broderick, the New York State superintendent of banks, learned of the decision, he insisted on coming to address the meeting. After being pointedly kept waiting until 1:00 a.m., he was finally admitted. He would testify later that “I told them that the Bank of United States occupied a rather unique position in New York City, that in point of people served it was probably the largest bank in the city and that its closing might affect a large number of smaller banks and that I was afraid that it would be the spark that would ignite the whole city.” Broderick reminded the grandees that only two or three weeks before “they had rescued two of the largest private bankers in the city.” One of them was Kidder Peabody, an investment bank run by Boston Brahmins, founded in 1865, which as result of the crash and of subsequent withdrawals of deposits by, among others, the government of Italy, had had to be bailed out in 1930 with $15 million from J. P. Morgan and Chase.