Elmus Wicker, Professor at the Indiana University and author of Banking Panics of the Great Depression
identifies 3 major panics and 2 incipient panics of the National Banking Act
era. The three major panics, defined by the presence of a general loss of depositor confidence in at least one region and the suspension of cash payments, are the Panic of 1873, Panic of 1893, and Panic of 1907. The two incipient panics, in which the New York Clearing House Association (NYCH) authorized loan certificates but did not announce suspension of cash payments, were the incipient Panic of 1884 and the "Monetary Stringency of 1890."
Under the National Banking Act
the United States had no central bank. Banks were divided into national banks, state banks, savings banks and private banks, the latter of which consisted mainly of brokerage houses. Further, some banks in selected reserve cities were chartered as reserve banks, where other banks were allowed to keep a portion of their required reserves. The reserve banks themselves had a reserve requirement of 25 percent. New York City and later Chicago and St. Louis were designated as central reserve cities, where the regional reserve banks kept a portion of their reserves in turn, and which had a statutory requirement of 25 percent reserves. All other banks were designated country banks and had less stringent requirements. Country banks had incentive to keep their money in a select subgroup of New York City banks that chose to pay a high interest rate on deposits. Keeping money in New York City banks was more lucrative in general due to the prestige of the city and the greater opportunities for investment there.
During the spring crop moving season and even more-so the autumn harvest season the country banks had a greater demand for cash, and they withdrew money from the reserve banks, which in turn withdrew from the New York City central reserve banks. Due to the inelastic money supply as a result of both the gold standard and the lack of a central bank to perform open market operations, as well as the strict statutory reserve requirement, these seasonal adjustments always resulted in a liquidity shortage in New York City peaking around May and especially September each year. This is measured by historical records of interest rates on call money, effectively commercial paper or brokers' loans. One view is that this seasonal cash stringency contributed to the financial panics of the gilded age.
The New York Clearing House (NYCH)
was a private association of New York City commercial banks that was formed to clear checks between members but in 1860, 1861, and again in 1873, 1884, 1890, 1893, and 1907 responded with varying degrees of effectiveness to check financial panic. The primary tools at its disposal were several fold:
(1) The issue of clearing house certificates, or loan certificates, were extra-legal money backed by the will of the clearing house members themselves. Because they were collectively backed by all the members of the clearing house they were considered safe and acted like newly minted money, but they carried with them an interest rate of 7 percent to insure that they were only used during panics. Banks could use these loan certificates to settle debts with other banks if they were short of reserves.
(2) The pooling of reserves of all clearing house members, which was only used once, under the leadership of clearing house committee head George S. Coe, who is praised by Wicker for his strong leadership and understanding of the responsibility of the clearing house to act as a central reserve. This equalized all reserves to strengthen the weaker members during a crisis.
(3) The suspension of payments. The clearing house could order a suspension of cash payment. This could take various forms. Banks could pay a fraction on the dollar for demand deposits, for example. The clearing house usually suspended cash payment when the reserve ratios of its members collectively fell below the legal limit. Walter Bagehot was heavily critical of this type of approach.
The Panic of 1873
onset on September 18 with the failure of Jay Cooke and Company, the NYCH issued loan certificates on September 20, ordered suspension of cash payments on September 24, and resumed cash payment on November 1. The panic originated in the New York money market and spread down the eastern seaboard to Philadelphia, Washington D.C., and Virginia, and finally to the Midwest. However the total number of bank suspensions that Wicker could confirm from newspaper reports and Bradstreet
's, a financial journal, was relatively small at only 101, including 37 in New York, with the vast majority being brokerage houses. Although we have no data on GNP, macroeconomic estimates from Christina Romer (1989) and Balke-Gordon (1989) disagree on GNP effects, with Romer finding that there was not a decline in 1873 or 1874. There is even less data on unemployment. Although the NYCH suspended cash payment, it continued to pay out freely to the interior country banks. The NYCH's reserves were severely depleted from $53 million at the onset of the crisis to about $6 million at the trough. An even larger crisis was averted by suspension of payments and the pooling of the NYCH's reserves.
The Panic of 1884
was onset by the failure of Grant and Ward on May 6, a financial house joining former President Ulysses Grant with a speculator, and runs on banks associated with this failure, as well as a couple of other incidents of malfeasance from within banks. The stock market crashed, and NYCH loan certificates were issued in May 14. The NYCH promptly stepped in and bailed out key banks, ending the crisis. There were 42 bank failures in this incident, 15 in New York City and 27 in the interior; the majority were brokerage houses.