Lords of Finance

The country’s money center banks were confronted with a potentially life-threatening hit. Many of the largest traders on Wall Street, especially the pool operators, held gigantic leveraged positions in the stock market that had been financed by brokers’ loans—in some cases as much as $50 million, some of which had come from banks. The danger was that as the market fell, brokers, frantic to recoup their loans, would be forced to dump the stocks they held as collateral, creating further declines in the market and intensifying the vicious cycle of selling.

Rebuffed the previous Thursday by the Federal Reserve Board, Harrison now took matters into his own hands. That night, Wall Street bankers were invited to a dinner in honor of Winston Churchill at the Fifth Avenue home of Bernard Baruch. Despite the days’ events, the general consensus among the financiers was that stocks were now undervalued. Mitchell even managed to raise a laugh when in his toast to the British visitor he addressed the company as “friends and former millionaires.”

Down on Wall Street the lights in the skyscrapers glowed far into the early hours as exhausted clerks and bookkeepers tried to tally their records after a day of unprecedented trading. Meanwhile, at the Fed’s offices on Liberty Street, Harrison and his staff were developing a plan to inject large amounts of cash into the banking system by buying government securities. Fortunately, there was no time to consult the Board in Washington. He barely managed to reach two of his own directors, and then only at 3:00 a.m., to secure their approval. Early the next morning, even before the market had opened, the New York Fed injected $50 million.

That day, which came somewhat unoriginally to be christened Black Tuesday, saw no letup in selling. The crowd of ten thousand that again gathered that morning stood in hushed awe, fully aware that they were “participating in the making of history,” and that they were unlikely ever again to witness such scenes. The New York Times man on the spot described Wall Street that morning as a street of “vanished hopes, of curiously silent apprehension, and of a paralyzed hypnosis.” Churchill chose that day to visit the stock exchange and was invited inside to witness the scene. Though he was heavily invested in the market and lost over $50,000, most of his savings, in the collapse, he seems to have responded to his change in fortunes quite philosophically—“No one who has gazed on such a scene could doubt that this financial disaster, huge as it is, cruel as it is to thousands, is only a passing episode. . . .” Commissioner Whalen himself kept a close eye on the market, and the minute he saw prices sagging, had dispatched an extra squad of policemen downtown. The financial district looked like a city under siege.

The bankers’ consortium gathered twice that day. Lamont struck a noticeably less confident note at his next press conference. Their objective was not to support prices, he told the reporters, but to maintain an orderly market. Toward the end of the day, after over 16 million shares had changed hands and the Dow had fallen more than 80 points—it had now lost 180 points, or close to 50 percent of its value in less than six weeks—it seemed as if the selling had begun to burn itself out. In the last fifteen minutes of trading, the market made a vigorous rally of 40 points.

During the day, the New York Fed had injected a further $65 million. The Board, especially Roy Young, was greatly irritated when it found out later that day about Harrison’s show of independence and initiative; his failure to get Washington’s approval first was a clear defiance of established protocol. In response to Young’s rebuke, Harrison shot back that there had never been such an emergency, that the world was “on fire” and that his actions were “done and can’t be undone.” The Board tried to pass a regulation prohibiting the New York Fed from making any further independent transfusions of cash, but questions arose about whether it had the legal authority to do so. During the next few days, there was considerable legal wrangling over the precise jurisdictions of the Board and the New York Fed. Harrison eventually proposed that they postpone the bureaucratic argument over powers and procedures until the crisis was over, agreeing in the meantime not to act unilaterally provided the Board gave him the authority to buy as much as $200 million more in government securities—an arrangement which allowed him to draw on the whole Federal Reserve System rather than the resources of the New York Fed alone.

That evening a somewhat larger group of bankers once again gathered in the library of Jack Morgan’s house at Madison Avenue and Thirty-fifth Street, the scene of his father’s legendary rescue of the New York banking syste

m in 1907. Among them was George Harrison.

With stocks now in free fall, all those who had pumped money into the brokers’ loan market—the corporations with excess cash, foreigners drawn by high rates of interest, small banks around the country—were rushing for the exits. In the days since Black Thursday over $2 billion, about one-quarter of all brokers’ loans, had or was about to be pulled out. This was creating massive additional selling and a scramble for cash that risked toppling the entire financial structure of brokers and banks on Wall Street. In order to forestall this financial fire stampede, with everyone heading for the doors at the same time, some of the bankers proposed to close down the stock exchange as had been done at the outbreak of war in 1914.

The meeting went on till 2:00 a.m. Harrison was adamant. “The Stock Exchange should stay open at all costs,” he told the gathering. Closing the stock market would not solve the problem, only postpone it and, by preventing transactions, might possibly prolong it and force even more bankruptcies. He proposed instead that the New York banks take over a good portion of brokers’ loans from those trying to pull out of the market. By thus stepping into the breach, they would head off panic selling and a complete meltdown. “I am ready to provide all the reserve funds that may be needed,” he reassured the bankers.

Over the next few days, as the Fed did just that, New York City banks took over $1 billion in brokers’ loan portfolios. It was an operation that did not receive the publicity of the Morgan consortium, but there is little doubt that by acting quickly and without hesitation, Harrison prevented not only an even worse stock collapse but most certainly forestalled a banking crisis. Though the crash of October 1929 was by one count the eleventh panic to grip the stock market since the Black Friday of 1869 and was by almost any measure the most severe, it was the first to occur without a major bank or business failure.

The market traded up for the last couple of days of October. It then fell back again, revisiting the lows of Black Tuesday on November 13. By the last weeks of November, the Dow had settled at around 240—a 40 percent retreat over the eight weeks since late September. The bubble that had begun in early 1928 had lasted little more than a year and a half. By all indications, the effect of the October crash had merely been to squeeze out all the froth and return the stock market closer to its fair value.

IN THE Weeks that followed the Great Crash, the dazed financial press struggled to make sense of what had happened. Despite the magnitude of the losses—$50 billion wiped off the value of stocks, equivalent to about 50 percent of GNP—and the ferocity of the decline, many papers were surprisingly sanguine, calling it the “prosperity panic.” The New York Evening World even argued that the panic had only occurred because “underlying conditions [had] been so good,” that speculators had “an excuse for going clean crazy,” creating a bubble and thus setting the stage for it to burst.

The New York Sun made the case that the crash would have a minimal impact on the economy, that Main Street could be decoupled from Wall Street. “No Iowa Farmer will tear up his mail order blank because Sears Roebuck stock slumped. No Manhattan housewife took the kettle off the stove because Consolidated Gas went down to 100. Nobody put his car up for the winter because General Motors sold 40 points below the year’s high.”

Indeed, BusinessWeek, which had been one of the most vocal critics of the speculation on the way up, went one step further, insisting that the economy would be in even better shape now that the distracting bubble had burst. “For six years, American business has been diverting a substantial part of its attention, its energies and its resources on the speculative game. . . . Now that irrelevant, alien, and hazardous adventure is over. Business has come home again, back to its job, providentially unscathed, sound in wind and limb, financially stronger than ever before.”

The consensus, however, was that the crash would cause a transitory and mild business recession, particularly in luxury goods. B. C. Forbes, founder of Forbes magazine, thought that “just as the stock market profits stimulated the buying of all kinds of comforts and luxuries, so will the stock market losses inevitably have an opposite effect.”

The immediate impact on the United States in fact proved to be much greater that anyone expected. Industrial production fell 5 percent in October and another 5 percent in November. Unemployment, which during the summer of 1929 had hovered at around 1.5 million, 3 percent of the workforce, shot up to close to 3 million by the spring of 1930. The country had become so emotionally invested in the vagaries of Wall Street that the psychological impact of the collapse turned out to be profound, particularly in consumer demand for expensive goods: the automobiles, radios, refrigerators, and other new products that had been at the heart of the boom. Car registrations across the country plummeted by 25 percent and radio sales in New York were said to have fallen by half.

The editor of the Economist, Francis Hirst, who had fallen ill on a trip to the United States and was convalescing in Atlantic City at year’s end, captured the mood. “Rich people who have not sold their stocks feel much poorer. . . . The first result therefore, has been a heavy decline in luxury buying of all sorts and also a large amount of selling of such things as motor cars and fur coats, which can now be bought secondhand at surprisingly low prices. The favored health resorts have suffered enormously . . . a very great number of servants, including butlers and chauffeurs, have been dismissed.”

Immediately after the crash, Hoover, who liked nothing better than emergencies, threw himself into action. He was one of the hardest-working presidents in the history of the office, at his desk by 8:30 a.m and still there into the early hours of the next morning. Within a month, his administration had pushed through an expansion in public works construction and submitted a proposal to Congress to cut the income tax rate by a flat 1.0 percent. The federal government, however, was then tiny—total expenditures amounted to $2.5 billion, only 2.5 percent of GDP—and the effect of the fiscal measures was to inject barely a few hundred million dollars, less than 0.5 of 1.0 percent of GDP into the economy.

Hoover had, therefore, to content himself with playing the part of chief economic cheerleader. Unfortunately, it was a role for which he was poorly suited. Shy, insecure, and stiff, he was ill at ease with people and surrounded himself with yes-men. He was also “constitutionally gloomy,” according to William Allen White, “a congenital pessimist who always saw the doleful side of any situation.” Unable to inspire confidence or optimism, he resorted, according to the Nation magazine, to “trying to conjure up the genie of prosperity by invocations” that things were about to get better.

On December 14, 1929, barely six weeks after the crash, he declared that the volume of shopping indicated that country was “back to normal.” On March 7, 1930, he predicted that the worst effects would be over “during the next sixty days.” Sixty days later he announced, “We have passed the worst.”

To some degree he was caught in a dilemma that all political leaders face when they pronounce upon the economic situation. What they have to say about the economy affects its outcome—an analogue to Heisenberg’s principle. As a consequence, they have little choice but to restrict themselves to making fatuously positive statements which should never be taken seriously as forecasts.

The task of trying to talk the economy up was complicated by the fact that it did not go down in a straight line. At several points along the way it seemed to stabilize. After falling in the last few months of 1929, it found a footing in the early months of 1930. The stock market even rallied back above 290, a rebound of 20 percent. And the Harvard Economic Society, which was one of the few outfits to have predicted the recession, now argued that the worst had passed. Clutching at whatever straws he could find, Hoover seized upon these brief interludes of good news, not realizing they were head fakes. In June 1930, when a delegation from the National Catholic Welfare Council came to see him to request an expansion in public works programs, he announced, “Gentlemen, you have come sixty days too late. The depression is over.” That very month the economy began another down leg.

Eventually, when the facts refused to obey Hoover’s forecasts, he started to make them up. He frequently claimed in press conferences that employment was on the rise when clearly it was not. The Census Bureau and the Labor Department, which were responsible for data on unemployment, found themselves under constant pressure to fudge their numbers. One expert quit in disgust over attempts by the administration to fix the figures. Finally, even the chief of the Bureau of Labor Statistics was forced into retirement when he publicly disagreed with the administration’s official statements on unemployment.

In contrast to Hoover, Treasury Secretary Mellon refused even to make a show of joining the cheerleading. His view was that speculators who had lost money “deserved it” and should pay for their reckless behavior; the U.S. economy was fundamentally sound and would rebound of its own accord. In the meantime, he argued that the best policy was to “liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate. . . . It will purge the rottenness out of the system . . . . People will work harder, live a more moral life. Values will be adjusted, and enterprising people will pick up the wrecks from less competent people.”

One group who seemed to have taken Mellon’s advice on liquidation to heart was the Russians. In 1930, desperately in need of foreign exchange, the Soviet government secretly decided to put its most treasured art works up for sale to its capitalist enemies. For Mellon, it was a once-in-a-lifetime opportunity to purchase a unique collection of art at throw-away prices, and he did not let it pass. Following a series of clandestine negotiations through art dealers in Berlin, London, and New York, Mellon arranged to purchase a total of twenty pieces. Each was a cloak-and-dagger operation. The money was wired to a dealer in Berlin, who placed it in a blocked account and paid out 10 percent to the

Russians. Meanwhile, the pictures were surreptitiously removed from the Hermitage, in Saint Petersburg, the surrounding paintings repositioned to disguise the disappearance. They were then handed over at a secret rendezvous and shipped to Berlin for transport to the United States. In this way, during 1930 and into the early months of 1931, the secretary of the treasury spent almost $7 million of his money buying up half of the Hermitage’s greatest paintings. Among the paintings he bought were the Madonna of the House of Alba by Raphael, the Venus with the Mirror by Titian, the Adoration of the Magi by Botticelli, and The Turk by Rembrandt as well as several works by Van Eyck, Van Dyck, and Frans Hals.

It was probably the greatest single art purchase of the century. Leaving mundane matters of economic policy to his deputy, Ogden Mills, Mellon became consumed by the whole transaction. On one occasion in September 1930, he was so engrossed in a discussion with one of his art dealers that he kept a group of bankers waiting for two hours.

With the federal government unable and unwilling to act—or in Mellon’s case, perhaps otherwise occupied—the task of managing the declining economy fell almost entirely on the Fed. Between November 1929 and June 1930 the Fed eased monetary policy dramatically. It injected close to $500 million in cash into the banking system and cut rates from 6.0 percent to 2.5 percent—mostly the work of Harrison in New York. The Board in Washington only grudgingly registered the full force of what had happened. Not only did Harrison have to deal with its constant delaying tactics, but he also faced outright resistance from the majority of his fellow governors of the regional reserve banks—seven out of the twelve of them, from Boston, Philadelphia, Chicago, Kansas City, Minneapolis, Dallas, and San Francisco, opposed his attempts at a vigorous easing.

Most governors feared that “artificial” attempts to stimulate the economy by injecting liquidity into the banking system would not jump-start business activity, but just touch off another bout of speculation. Too much cheap credit had created the original bubble in the first place. Now that it had been pricked and stock prices were falling to more reasonable levels, why short-circuit the process, they asked, by making credit too cheap once again. As one argued, further easing would only result in a replay of the “1927 experiment, now quite generally . . . admitted to have been disastrous.” The recession was a direct consequence of the past overspeculation, during which money had been thrown down absurd and uneconomic avenues. The only way to return to a healthy economy was to allow it to suffer for a while, a form of penance for the excesses of the last few years.