Banking Panics of the Gilded Age

Banking Panics of the Gilded Age. By Elmus Wicker. New York: Cambridge University Press, 2000. Pp. 160. $49.95. ISBN 0-521-77023-8.

The panics during the national banking era (from 1863 to 1913) have never garnered the same attention as the Great Depression bank panics. But these panics and how they were handled played an important role in the creation of our central bank. Had the panics been handled differently, it is entirely possible that the Federal Reserve as we know it today would not exist. Banking Panics of the Gilded Age examines this important era in U.S. financial history; in so doing, it enhances our understanding of the crucial developments leading to the creation of our central bank and financial future.

Before the Federal Reserve was created there was no formal lender of last resort. Commercial bankers recognized that during periods of panic it was desirable to have assistance from runs on solvent institutions. In response, they voluntarily formed Clearing House Associations. New York City commercial banks formed the first such Association in 1853. Member banks were subject to capital requirements, reserve requirements, interest rate restrictions, and to periodic audits for compliance. Banks not meeting these requirements could be expelled from the Association.

When panic threatened, the Clearing House Association had two primary tools. They could issue clearing house (loan) certificates, which eventually became a medium of exchange and a source for bank lending. When the Association issued certificates to a member bank it signaled that the receiving bank was healthy, and thereby helped to alleviate runs and restore confidence. A second tool the Association used was reserve pooling. In this case, the Association would redistribute reserves to assist solvent member banks in need. Clearing House Associations played a key role in dealing with bank panics during the Gilded Age. Five panics occurred between the 1863 National Bank Act and the December 1913 creation of the Federal Reserve- in 1873, 1884, 1890, 1893, and 1907. In Chapter 1, Wicker explains how the Clearing House of New York (NYCH) functioned during each of the panics. It is at this point that we are exposed to the twist in his story. According to conventional wisdom, Clearing Houses provided valuable liquidity and stability to commercial banking [Dowd, 1993]. In contrast, Wicker argues that the Clearing Houses failed to function as a lender of the last resort because the incentives of individual NYCH members were inconsistent with collective action.

To make his case, Wicker devotes the heart of his book to the five panic episodes. Chapters 2 through 6 consider the five panics, with Chapter 3 detailing both the 1884 and 1890 panics. Each chapter begins with a narrative of the particular crisis, its estimated impact on the real economy, and a discussion of the NYCH response. Wicker finds that the actions of the NYCH were appropriate during the panics of 1884 and 1890, and that the behavior of the NYCH was a decisive factor in preventing a true and meaningful panic. Indeed, Wicker concludes that the 1884 and 1890 episodes may best be described as incipient panics.

In contrast, Wicker is critical of how the NYCH responded to the first and the final two panics. In the 1873 panic, the NYCH pooled reserves, extended loan certificates, and partially suspended payments. Wicker contends that the first two steps were necessary. But he is critical of the partial suspension of payments, arguing that it increased hoarding among nervous depositors. In the 1893 panic, the New York banks partially suspended the shipment of currency to rural locations in need. Wicker interprets this to mean that the NYCH was unwilling to aid interior banks to the same extent it assisted city banks in previous crises. He argues that this shows the NYCH failed to do all it could to avoid panic during the national banking era.

Wicker is similarly critical of how the NYCH handled the 1907 panic, and argues that the behavior of the NYCH was the fundamental cause of the 1907 panic. The primary problem in 1907 was a run on the Knickerbocker Trust. The NYCH resolved that because the Knickerbocker Trust was not a member of the Association, extending it money would be inappropriate. Because the Clearing House was unwilling to accept responsibility for nonmembers, there was no unifying group to turn to in time of crisis. J.P. Morgan stepped in and formed a group of bankers which made loans to those trusts it found to be solvent. The Knickerbocker was deemed insolvent; it failed. Runs on other trusts were equally severe, although many of them were solvent and thus eligible for assistance from the Morgan group. After several attempts to stop runs, the Morgan group decided to ask the NYCH to issue Clearing House certificates and to suspend cash payments. The NYCH did so, but this did little to stop the runs. Wicker argues that had the NYCH issued certificates when the Knickerbocker Trust was in trouble, the panic could have been avoided. Further, the NYCH's decision to suspend payments only exacerbated the panic and led to hoarding. Wicker contends the payment suspension was unwarranted because reserves in New York City banks were sufficient at the time of suspension.