This history of central banking in the United States encompasses various bank regulations, from early wildcat banking practices through the present Federal Reserve System.
1781–1836: Bank of North America and First and Second Bank of the United States
Bank of North America
Some Founding Fathers were strongly opposed to the formation of a national banking system. Russell Lee Norburn said the fundamental cause of the American Revolutionary War was conservative Bank of England policies failing to supply the colonies with money.[1]
Others were strongly in favor of a national bank. Robert Morris, as Superintendent of Finance, helped to open the Bank of North America in 1782, and has been accordingly called by Thomas Goddard "the father of the system of credit and paper circulation in the United States".[2] As ratification in early 1781 of the Articles of Confederation had extended to Congress the sovereign power to generate bills of credit, it passed later that year an ordinance to incorporate a privately subscribed national bank following in the footsteps of the Bank of England. However, it was thwarted in fulfilling its intended role as a nationwide national bank due to objections of "alarming foreign influence and fictitious credit",
1837–1862: "Free banking" era
In this period, only state-chartered banks existed. They could issue bank notes against specie (gold and silver coins) and the states heavily regulated their own reserve requirements, interest rates for loans and deposits, the necessary capital ratio etc. These banks had existed since 1781, in parallel with the Banks of the United States. The Michigan Act (1837) allowed the automatic chartering of banks that would fulfill its requirements without special consent of the state legislature. This legislation made creating unstable banks easier by lowering state supervision in states that adopted it. The real value of a bank bill was often lower than its face value, and the issuing bank's financial strength generally determined the size of the discount. By 1797 there were 24 chartered banks in the U.S.; with the beginning of the free banking era (1837) there were 712.
During the free banking era, the banks were short-lived compared to today's commercial banks, with an average lifespan of five years. About half of the banks failed, and about a third of which went out of business because they could not redeem their notes.[6] (See also "Wildcat banking".)
During the free banking era, some local banks took over the functions of a central bank. In New York, the New York Safety Fund provided deposit insurance for member banks.
1863–1913: National banks
The National Banking Act of 1863, besides providing loans in the Civil War effort of the Union, included provisions:
As described by Gresham's law, soon bad money from state banks drove out the new, good money;[9] the government imposed a 10% tax on state bank bills, forcing most banks to convert to national banks. By 1865, there were already 1,500 national banks. In 1870, 1,638 national banks stood against only 325 state banks. The tax led in the 1880s and 1890s to the creation and adoption of checking accounts. By the 1890s, 90% of the money supply was in checking accounts. State banking had made a comeback.
Two problems still remained in the banking sector.[10] The first was the requirement to back up the currency with treasuries. When the treasuries fluctuated in value, banks had to recall loans or borrow from other banks or clearinghouses. The second problem was that the system created seasonal liquidity spikes. A rural bank had deposit accounts at a larger bank, that it withdrew from when the need for funds was highest, e.g., in the planting season.[11]
1907–1913: Creation of the Federal Reserve System
Panic of 1907 alarms bankers
Early in 1907, New York Times Annual Financial Review published Paul Warburg's (a partner of Kuhn, Loeb and Co.) first official reform plan, entitled "A Plan for a Modified Central Bank", in which he outlined remedies that he thought might avert panics. Early in 1907, Jacob Schiff, the chief executive officer of Kuhn, Loeb and Co., in a speech to the New York Chamber of Commerce, warned that "unless we have a central bank with adequate control of credit resources, this country is going to undergo the most severe and far reaching money panic in its history."[16] "The Panic of 1907" hit full stride in October. [Herrick]
Bankers felt the real problem was that the United States was the last major country without a central bank, which might provide stability and emergency credit in times of financial crisis. While segments of the financial community were worried about the power that had accrued to JP Morgan and other financiers, most were more concerned about the general frailty of a vast, decentralized banking system that could not regulate itself without the extraordinary intervention of one man. Financial leaders who advocated a central bank with an elastic currency after the Panic of 1907 included Frank Vanderlip, Myron T. Herrick,
Since 1913: The Federal Reserve
The Federal Reserve System, also known as the Federal Reserve or simply as the Fed, is the central banking system of the United States today. The Federal Reserve's power developed slowly in part due to an understanding at its creation that it was to function primarily as a reserve, a money-creator of last resort to prevent the downward spiral of withdrawal/withholding of funds which characterizes a monetary panic. At the outbreak of World War I, the Federal Reserve was better positioned than the United States Department of the Treasury to issue war bonds, and so became the primary retailer for war bonds under the direction of the Treasury. After the war, the Federal Reserve, led by Paul Warburg and New York Governor Bank President Benjamin Strong, convinced Congress to modify its powers, giving it the ability to both create money, as the 1913 Act intended, and destroy money, as a central bank could.
During the 1920s, the Federal Reserve experimented with a number of approaches, alternatively creating and then destroying money which, in the eyes of Milton Friedman, helped create the late-1920s stock market bubble and the Great Depression.[17]
After Franklin D. Roosevelt took office in 1933, the Federal Reserve was subordinated to the Executive Branch, where it remained until 1951, when the Federal Reserve and the Treasury department signed an accord granting the Federal Reserve full independence over monetary matters while leaving fiscal matters to the Treasury.
The Federal Reserve's monetary powers did not dramatically change for the rest of the 20th century, but in the 1970s it was specifically charged by Congress to effectively promote "the goals of maximum employment, stable prices, and moderate long-term interest rates" as well as given regulatory responsibility over many consumer credit protection laws.
See also
- Bank of Amsterdam (New Netherland, 1614–1667; Dutch Virgin Islands, 1625–1650)
- Bank of England (Thirteen Colonies, 1694–1776; Rupert's Land, 1694–1811; North-Western Territory, 1694–1870; East Florida and West Florida, 1763–1783; Indian Reserve, 1763–1783; Quebec, 1763–1783; New Ireland, 1779–1783 & 1814–1815; Columbia District, 1810–1846; Red River Colony, 1811–1818; Stickeen Territories, 1862–1863; Colony of British Columbia, 1858–1866; Colony of British Columbia and Vancouver Island, 1866–1871; Province of British Columbia, 1871–1903)
Further reading
- Calomiris, Charles W.; Jaremski, Matthew (2022). "Why Join the Fed?" The Journal of Economic History.
- The Creature from Jekyll Island: A second look at the Federal Reserve, by G. Edward Griffin. 5th Edition in 2010(First publish 1994, now in its 45th reprint, also available in Chinese, German and Japanese)
- The Formative Period Of The Federal Reserve System (During the World Crisis) by W.P.G. Harding, A.M., LL.D. Former Governor of the Federal Reserve Board (New York & Boston: Houghton Mifflin Company, 1925)
Bibliography
External links
- Documents of the First Bank of the United States
- Documents of the Second Bank of the United States
- The Origins of the Federal Reserve by Murray N. Rothbard
- A History of Central Banking in the United States published by the Federal Reserve Bank of Minneapolis
- Historical Beginnings... The Federal Reserve from the Federal Reserve Bank of Boston
- Documents of the Reserve Bank Organization Committee. Committee created by the Federal Reserve Act, charged with dividing the nation into reserve districts. Includes: decision of the Reserve Bank Organization Committee determining the Federal Reserve districts and the location of Federal Reserve Banks; hearings held at potential reserve bank cities; other reports, bulletins, and circulars.