In 1913, Congress passed the Federal Reserve Act, which created the central bank as we know it today. The second was that we shouldn’t rely on billionaires to be that backstop. The first was that the banking system needs a backstop. sat on the board of 112 public companies, representing 80% of the public market capitalization in the country. In the aftermath of the panic, Morgan called in the loans he’d made and went shopping for distressed assets: He acquired six banks, including the Trust Company of America, a steamship line, and the second-largest steel company in America (he already owned the largest). Morgan didn’t see just obligation back in 1907. This federal backstop exists, in substantial part, because J.P. Regulation moderates risk but can’t eliminate it. The Fed serves as a lender of last resort to troubled banks. Regulators, risk managers, and bank management are supposed to calibrate a sufficient level of liquidity to prevent insolvency - to “stress test” the bank. It’s backed by a safety net of federal agencies - the Treasury, the Fed, the FDIC. Togetherīut Bank of America doesn’t stand alone. If Bank of America’s 67 million customers simultaneously withdrew their funds, in the same day/week/month, it would fail. It’s not useful.Įvery bank is vulnerable to a run if enough people ask for their money on the same day. This is a good thing: Money sitting dormant does not fund startups, expand existing companies, or encourage consumers to … consume. It is a miracle and the cornerstone of our economy - turning short-term deposits into long-term loans. In fact, banks loan out more than they take in. When you deposit cash at the bank, it loans it to someone else. Fast forward to today: Can you imagine any part-time libertarian billionaire in the Valley pledging 5%, much less 50%, of their wealth to cauterize an emerging banking crisis?īanks need your trust because they don’t actually have your money. Morgan said, “We’ll ensure they can.” Once people trusted the banks again, the monetary crisis was solved. That trust ruptured when the Knickerbocker Trust Company said, “We can’t.” Trust was restored when J.P. Trust that deposits will be there when needed. Morgan understood was that banking, and by extension the economy, is not built on gold, labor, machinery, or spreadsheets, but on trust. Fourteen years earlier, he’d done the same thing. Treasury to deposit $70 million into other vulnerable banks. Then he convinced a dozen other banks and the U.S. He pledged an $8 million loan ($255 million in today’s dollars) to the next domino after Knickerbocker, the Trust Company of America. “This is the place,” Morgan proclaimed, “to stop the trouble.” First he addressed his obligation: to save the system in which he’d built his wealth. He gathered the heads of New York’s banks at his Madison Avenue mansion and, the story goes, locked the doors and pocketed the key. Morgan, the nation’s preeminent banker and business leader, saw obligation and opportunity. One bank, Knickerbocker Trust, lacked the capital to withstand the bank run and, four days later, shut down. Their scheme collapsed, and depositors at the banks that backed them pulled their money. In 1907, amidst rising interest rates and a declining stock market, two New York bankers attempted to corner the stock of a copper company.
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