Overnight lending rates in New York went from 9.5 percent to 70 percent in a single day, October 22, 1907. Two days later they hit 100 percent, and at times nobody was offering credit at any price. That spike was the clearest sign that the Panic of 1907 had turned into a full-scale crisis.
The Federal Reserve’s own history describes it as the first worldwide financial crisis of the twentieth century, one that turned a recession into a contraction surpassed in severity only by the Great Depression. It matters today because it pushed the country toward monetary reform and, in the end, the creation of the Federal Reserve System.
A failed corner
It began with a gamble on copper. On October 16, two speculators, F. Augustus Heinze and Charles W. Morse, lost heavily in a failed attempt to corner the stock of United Copper, which traded on the curb outside the New York Stock Exchange. Heinze’s brother Otto had devised the scheme, betting that short sellers would be forced to buy shares from the family at any price. They were not. Plenty of shares turned up elsewhere, and United Copper fell from about $60 to $10 in a couple of days. Otto Heinze was ruined.
The banks tied to Heinze and Morse faced runs. Four days after the collapse, the New York Clearing House announced that the Heinze-related banks, including Mercantile National Bank, had been examined and found solvent. It also pushed out Heinze and Morse from management.
The trusts
That calmed the national banks. The trouble moved to the trust companies, state-chartered institutions that competed with banks for deposits but sat outside the Clearing House. They held only about 5 percent of deposits in cash reserves, against 25 percent at national banks, yet their deposits could be withdrawn on demand. Trusts also made unsecured loans to brokers on the stock exchange, and those loans helped keep daily trading going.
On Friday, October 18, word spread that Charles T. Barney, president of Knickerbocker Trust, was an associate of Morse. Depositors began to withdraw. The National Bank of Commerce extended credit to cover the withdrawals, then asked the Clearing House for a loan on Knickerbocker’s behalf on Monday, October 21. The Clearing House refused, because its resources were reserved for members.
Knickerbocker turned to J.P. Morgan. He sent Benjamin Strong, later the first head of the Federal Reserve Bank of New York, to examine the books. In the time available, Strong could not tell whether the trust was solvent, and Morgan declined to help. That same day Knickerbocker’s board dismissed Barney, and the National Bank of Commerce said it would no longer clear for the trust. By the next day depositors had pulled out nearly $8 million, and Knickerbocker suspended operations.
Morgan steps in
Runs spread across the trusts and were fiercest at the Trust Company of America. Morgan reversed himself and released aid, and the Clearing House banks did the same. Depositors kept withdrawing from the Trust Company of America for two more weeks anyway.
The stock exchange stayed open largely because of Morgan, who collected cash from large financial and industrial institutions and had it delivered straight to the exchange’s loan post for brokers willing to lend. On Saturday, October 26, after a five-day delay, the Clearing House committee formed a panel to issue clearing-house loan certificates, a forerunner of the Federal Reserve’s discount window loans. The same day, Clearing House banks restricted the conversion of deposits into cash. A cash premium appeared, and gold flowed in from abroad. Those gold imports appear to have helped the New York market recover.
The panic also spread beyond New York. Many state and local banks and businesses failed, and regional stock exchanges closed or limited trading. Pittsburgh’s closed for three months from October 23. A second scare followed in November, when a large brokerage firm that had borrowed heavily against Tennessee Coal, Iron and Railroad stock got into trouble. U.S. Steel, Morgan’s company, took over the stock in an emergency deal approved by President Theodore Roosevelt.
The following year, Senator Nelson W. Aldrich set up and chaired a commission to investigate the crisis and propose fixes. Its work led to the Federal Reserve System.
