All the Presidents' Bankers (23 page)

The seed money for the BIS (five hundred million Swiss francs) came from the same collection of banks that supplied loans to Europe: J. P. Morgan & Company, along with several central banks.
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That money would be fused with capital from the New York Fed, despite the lack of a mandate or precedent for such an action—other than the fact that its former chairman, Gates McGarrah, was appointed as the first head of the BIS.

Six months into McGarrah’s appointment, he and Chase chairman Al Wiggin were working hard to turn the global Depression into something financially and politically expedient for the United States and its financiers. The international focus provided both men a shield of sorts—it protected McGarrah from culpability in his banker-friendly role at the helm of the New York Fed during the lead-up to the Crash and diverted attention from the fraud Wiggin had committed against his own bank, which no one knew about yet.

The Wiggin Committee

On a frigid afternoon in January 1931, Wiggin issued a report to his shareholders. He blamed Europe’s precarious debt position, rather than
banks’ speculative and credit-overextension actions, for the dire economic situation. (This was not too different from the blame placed on ransacked European countries following the US crisis in 2008.) His solution was not too different from the one Lamont had proposed during the mid-1920s: to effectively make it easier for Europe to borrow from US banks by reducing their current debt.

As he said, “Cancellation or reduction of the international debts has been increasingly discussed throughout the world. . . . I am firmly convinced it would be good business to initiate a reduction of these debts at this time.”
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This was code for wanting to keep the bank’s biggest borrowers coming back for more. President Hoover would have to find a way to do as Wiggin was suggesting while balancing the move with the political ramifications of helping Europe financially at a time when the public was primarily concerned with its own economic survival (even more so than it had been during the recent isolationist wave).

A few years earlier, President Coolidge had selected a fairly passive Federal Reserve head in Roy Young. Neither man believed that the Fed should have undue influence over economic policy. In 1928, Coolidge had stated that stock market speculation should not cause alarm, which dovetailed with Young’s policies of leaving the banks alone. Under Young the Fed had not interfered with banks borrowing at the discount window at rates near 6 percent and lending those funds at rates near 12 percent in 1929, providing lots of incentive for them to make speculative loans.

The New York Fed had acted on Charles Mitchell’s wishes.
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He had pushed harder than anyone for rates to remain low and borrowing to remain cheap before the Crash. Indeed, when the New York Fed’s board of directors voted to increase rates between February and May 1929, Mitchell objected.
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McGarrah supported Mitchell, and on May 31 he upped the ante. He told the Federal Reserve Board that “it may soon be necessary to establish a
less
restricted discount policy in order that the member banks may more freely borrow for the proper conduct of their business.” The board kept the discount rate at 5 percent.

A week later, emboldened by the support, Mitchell urged a more liberal discount policy
and
an easing of credit conditions through a Fed purchase of bills and government securities. (The Fed did the same thing after the 2008 crisis.) Mitchell knew well the first law of banking—cheap money is better than expensive money—and used that mantra to force the Fed to keep him afloat for as long as possible.

With McGarrah at the BIS, it was Roy Young (who had left his post as Fed chairman on August 31, 1930) who came under fire setting those terms. According to the Senate Banking and Currency Committee subcommittee hearings held in January and February 1931, it was Young, not the bankers, who had been ineffectual in thwarting the speculation that led to the Crash.

Instead of raising the discount rate sooner, the consensus was that Young merely issued verbal warnings to the public to curb speculation in the late 1920s. Arguably, warning the public rather than clamping down on banks was wrong for more reasons than the committee discussed. The public wasn’t responsible for shady trusts, speculative stock pools, or bank-engineered fraud. But blame doesn’t need to be logical if it serves the political purpose of alleviating culpability for those levying it.

During the hearings, according to
Time,
witnesses placed fault largely with Young’s “foggy-headed uncertainties.”
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That was rather unfair, though. Domestic and international speculation had been brewing for half a decade, pooled trusts had been sprouting for years, and tremendous fraud had been perpetrated to manipulate prices, as was later presented at the Pecora hearings. Quibbling about a six-month period of hiking rates seemed ridiculous then, and seems even more so with the benefit of hindsight. But nonetheless it proved politically useful at the time by shielding the president and the bankers.

A few months later, in the summer of 1931, Wiggin took a team of Chase bankers with him to Europe.
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On a balmy August afternoon, Wiggin played master of ceremonies to representatives from twelve countries who had gathered in a swanky hotel room in Basel. Reporters referred to them as the Wiggin Committee.
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The point of the meetings was to investigate Germany’s ongoing credit problems. In 1930 Germany owed more than twenty-five billion reichsmarks to foreign lenders (about $65 billion after adjusting for inflation), predominantly as a result of World War I reparations.
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Yet with unemployment above 33 percent and facing a massive collapse in industrial production, Germany was having trouble making payments. The crisis was made worse by a divided government challenged by growing political extremism inside and outside the Reichstag.
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Just three months before the Wiggin Committee met, the Austrian lender Credit-Anstalt—the biggest bank east of Germany—had gone bankrupt, unleashing a knock-on effect on German banks and leaving the German economy teetering on the precipice of disaster.
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The Wiggin Committee pressed for a six-month debt moratorium for Germany’s foreign creditors. Wiggin cared deeply about the issue; Chase had
issued more short-term debt to Germany than any other US bank, and since the Crash it had been unable to collect the money it was owed.
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Wiggin was less concerned about the long-term loans his bank and others had sold to the public, but he cared a lot about those short-term notes because his bank had lent its own cash against them. (Chase eventually got paid after Wiggin and John Foster Dulles sailed to Europe in May 1933 to meet with German authorities.
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But all $1.2 billion of the public-financed long-term loans went bust.
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)

In Basel, Wiggin not only represented Chase but all New York banks. He had taken a group of Chase men with him, though the international community had expected Jack Morgan or Tom Lamont to lead such a gathering, as had been the custom since the World War I days.
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But that might have been awkward. First, Chase was one of the largest US holders of German bonds.
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Second, Morgan had served primarily as France’s banker.
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It would have been odd for a Morgan partner to oppose France’s wishes regarding Germany in such an open forum, and France was against any sort of help for Germany’s debt problems; it had enough economic concerns of its own.

Wiggin was happy to play the power broker role that J. P. Morgan had played when the two men first crossed paths during the 1907 panic, only now in a more international realm. His famous rejection of a Morgan partnership back then had stemmed from his desire to make his own mark in the world. This was his opportunity.

Germany had already appealed to President Hoover for a debt moratorium. Unlike the isolationist mid-1920s when such an official stance would have been unthinkable, this time the world economy, including the United States, was in danger. On June 20, 1931, Hoover had proposed a one-year moratorium on “all payments on intergovernmental debts, reparations, and relief debts.”
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Debts to private banks were excluded from his proposal.

Hoover explained to the American public, “The worldwide depression has affected the countries of Europe more severely than our own.” He said this situation could hurt the United States: “The fabric of intergovernmental debts, supportable in normal times, weighs heavily in the midst of this depression.”
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The proposed moratorium was not about taking sides regarding European countries or internationalism per se; it was a matter of global and American economic stability.

Finally, on July 6, France had agreed to Hoover’s moratorium, raising the number of nations supporting it to fifteen. But it was too late. The damage to Germany’s economy, which would lead to a seismic economic breakdown and sow the seeds of the next world war, had been done. By the time
the National Socialist government consolidated its power in 1933, German payments had stopped; only about one-eighth of the original amount from the Treaty of Versailles was paid. Contributing heavily to Germany’s economic problems and the rise of the Third Reich were the additional piles of loans extended by the private banks to “help” Germany abide with the Treaty of Versailles, Dawes plan, and Young plan stipulations. Those private loans didn’t get repaid either.

The Great Depression’s Global Reach

The banking system failures throughout Austria and Germany, and the Wiggin and Hoover moratoriums, were followed by Britain’s abandoning the gold standard on September 21, 1931. The global Depression was in full swing.

In the United States, hundreds of other banks were closing their doors. City landlords were throwing out more and more tenants for not making rent. Home foreclosures spiked. People couldn’t afford heating fuel during the harsh winter months. Construction and other jobs disappeared. Smaller businesses weren’t making enough money to pay operating costs, let alone the interest on their loans. They didn’t get debt moratoriums; they just defaulted. Meanwhile, banks were steeped in self-preservation mode. By mid-1931, mass layoffs were the ugly norm. Even Henry Ford shut down many of his car factories in Detroit, throwing seventy-five thousand men out of work.
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The combination of strained lending for productive uses and bankruptcies of small establishments coalesced in widespread financial degradation. Meanwhile, big banks ceased lending to agriculture, industry, and local businesses in order to repay “a substantial amount of their borrowings at the reserve banks.”
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Their first allegiance was to the Fed, which ensured their survival with cheap funds. This strategy would become a time-honored way for the most powerful banks to survive at the expense of their clients.

A few weeks after Britain went off the gold standard, a panicked Hoover held a secret meeting with thirty prominent American financiers at the Massachusetts Avenue apartment of Treasury Secretary Andrew Mellon. As Irving Bernstein wrote in
The Lean Years,
“The president was overwhelmed with gloom and the fear of impending disaster.” He now saw “imminent danger to the American banking system as a consequence of the events in Europe.”
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Blaming Europe for the woes of the US economy, however, was not looking at the full picture; it indicated a lack of understanding of the US bankers’ culpability in the crisis.

In his memoirs, Hoover remained detached and similarly unreflective of his or the bankers’ role, blaming the Fed and European bankers instead. “To be sure, we were due for some economic readjustment as a result of the orgy of stock speculation in 1928–1929,” he wrote. “This orgy was not a consequence of my administrative policies. In the main it was the result of the Federal Reserve Board’s pre-1928 enormous inflation of credit at the request of European bankers, which, as this narrative shows, I persistently tried to stop, but I was overruled.”
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To be fair, much of the laissez-faire attitude that had festered during the 1920s occurred during the Coolidge administration. Hoover had attempted to steer bankers toward lending restraint, particularly internationally, and tried measures to bolster the economy after the Crash, but by failing to examine the role of the financial community in providing the debt and fabricating the enthusiasm that stoked the speculation—not just in the market but throughout the economy—he failed to hold himself accountable for the frenzy of risky banking activity. There were political opportunities lost in his denials, such as examining whether it was appropriate to have the chairmen of the largest banks in the country seated on the board of the New York Fed, as National City Bank chairman Charles Mitchell was, and had been before the Crash, and as Chase chairman Al Wiggin would be from January 1932 to March 1933. (The alliance between the New York Fed and the financiers remains recklessly codependent to this day.)

Hoover did establish the Reconstruction Finance Corporation in 1932. The government bailout program was tasked with lending $1.5 billion to ailing banks and industries, but its funds were channeled disproportionately to the bigger banks.
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One of those banks was the First National City Bank, whose chairman, New York Fed Class A director Charles Mitchell, had aggressively pushed the Fed to keep rates low after he realized that his bank and the entire financial landscape were in trouble.