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Carter Glass and the Banking Act of 1933 (Glass-Steagall Act)
*This is the second in the three-part series on the creative influence of Carter Glass on the twentieth century financial history of the United States. The first part—“Carter Glass and the Federal Reserve Act of 1913,” is available at http://www.semp.us/publications/biot_reader.php?BiotID=605. Carter Glass (1858-1946), Democratic U.S. Senator from Virginia and co-sponsor of the Federal Reserve Act of 1913, grew increasingly concerned in early 1929 with the growth of bucket-shop practices to “a national scale of alarming magnitude.” (1-3) “For years [Carter Glass] had predicted ultimate collapse of the [U.S.] economic system if prodigal stock and commodity gambling were not checked. Now he saw the dark clouds of disaster ahead,” intoned his biographers Smith and Beasley in 1939. (2)
The Federal Reserve Act of 1913 charged the Federal Reserve Board with supervision of the nation’s banks, but not the nation’s stock-exchange activities, “except as speculative activities might relate themselves to the facilities of the Federal Reserve Banks.” By the 1920s, stock-exchange activities had gotten out of hand, Glass warned the Senate in February 1929. “The great corporations of the country have acquired the habit of throwing their surplus funds into the vortex of stock speculation, instead of distributing them among their stockholders in the nature of dividends, and individuals are doing the same thing.” Glass noted, Member banks of the system have manipulated their deposit accounts so as to transfer from the demand deposit account, requiring a reserve of 7 percent, to the time deposit account, requiring a reserve of only 3 per cent, thereby releasing enormous funds to be thrown into the maelstrom of stock speculation. [4] When I presented a bill here last week to restore the reserve behind time deposits to the figure which obtained in the original set-up, banks all over the country began to write me letters of protest. That alone would withhold form those speculative activities at least $300,000,000; but banks are not willing to desist. Unless some man be wise enough, and have wit enough to give a statutory definition of investments as contra-distinguished from stock gambling, I do not see how we are to curb these gambling activities. That ought to be done. (2) Glass said the normal private citizen regarded the purchase of stock as an investment and expected to earn dividends paid out annually by a prosperous company. “But if he bought…stock with a view of selling it even before delivery physically could be made, the next hour, or with a view of anticipating the future of tomorrow or the next day, that was nothing in the world by pure gambling—‘just as much gambling as if Senators were to sit at a roulette table and bet on the outcome of the game,” he growled. (2) Another Senator said stock transactions were like poker, except that “the gambling is done with other people’s money.” People who deal in the stock market “sell things they do not possess,” stormed Glass, “and they buy things they never expect to get, and thereby disturb the whole commercial fabric of this country, and it ought to be stopped.” (2) The Federal Reserve Board had tried in vain for six months (1928-1929) to “establish a policy that the law itself makes mandatory upon the banks and the board, and that should have been established long ago, and if established long ago, would have averted this difficulty.” (6) Glass stated that “ever since mid-February [1929] the directors of the New York Federal Reserve Board had been persistently pounding the Federal Reserve Board every week to permit them to penalize legitimated commercial transactions by upping its rediscount rate.” The rediscount rate is the rate of interest charged to member banks when they borrow from the Federal Reserve System. (7) Carter fumed, By every influence legitimate and illegitimate, by threats and otherwise, that New York crowd has been trying to compel the board to raise its commercial rediscount rate; and it has refused by a very narrow margin with the board. As I pointed out publicly six or eight weeks ago, when an outstanding director of the New York Federal Reserve Bank—the President [Charles E. Mitchell] of the largest bank in the Western Hemisphere—defined the board and publicly avowed that his obligation to the stock gamblers was superior to his obligation as a sworn officer of the Federal Reserve system, what the board should have done was to have incontinently kicked that fellow out of his position before noon of the day upon which he made that announcement. …I own stocks and proprietary interests in newspapers, banks, hotels, farms, foundries and other productive enterprises, but I have never acquired the habit of betting at one hour that the value of these interests will be greater or less the next hour or the next day or the next month….I invested my money; and I do not have to listen at the ticker or watch the tapes for profits. (6) As Carter Glass observed the stock market crash that began in late October 1929, he considered the need for a banking reform bill to correct certain deficiencies in the Federal Reserve Act of 1913. The Federal Reserve Act had made provisions to prevent inflation of the currency. Glass was generally content with the performance of the Federal Reserve System in halting post World War I inflation. The Federal Reserve System accomplished this through application of various tools at its disposal: a) adjusting the rediscount rate to member banks; (b) adjusting open market rates; (c) adjusting reserve requirements; (d) adjusting the issue of Federal Reserve bank note currency against United States bonds; (e) adjusting buying of bills, notes, acceptances, etc.; and (f) adjusting interest on excess deposits. (8)
However, Carter was extremely concerned that between 1920 and 1929 other de-stabilizing factors had entered the banking picture, in particular, unprecedented stock speculation. “In the summer of 1929, business began to slacken and the speculative fever increased,” write Smith and Beasley. “With the spell of gambling on the country, the unemployment rate went almost unnoticed, but Glass was one of those who did notice. On the Senate floor in 1927, he warned against ‘growing speculation’; and off the Senate floor discussed with the head of a New York investment banking organization [emphasis added] the advisability of legislation which would compel stock-market gamblers to pay a tax of five per cent on sales of stocks held less than sixty days.” (8) The following exchange between Glass and the investment banker ensued: That would ruin the market,” declared the investment banker. “Supposing it does—it is better to ‘ruin the market,’ as you say, than to ruin the country, as will surely happened if this gambling fever continues to spread. The investment banker smiled tolerantly. “My own opinion, Senator, is that the people of this country are just beginning to realize on the prosperity to which they are entitled.” “I hope you are right, but common sense tells me you are wrong. The day of reckoning for gambling cannot be escaped. It must come. I think something should be done to deprive people of the privilege of mortgaging their homes and their futures to buy stocks on margin and to keep blowing up bubbles that are certain to break in their faces.” (8) Under Section 13 of the Federal Reserve Act, Federal Reserve Banks could rediscount paper of member banks under the stipulation that “such definition shall not include notes, drafts or bills covering merely investments or issued or drawn for the purpose of carrying or trading in stocks, bonds or other investment securities, except bonds and notes of the Government of the United States.” [Emphasis added.] Considering the enormous amount of Government securities outstanding, it was easy for banks to borrow from the Federal Reserve, thereby providing the funds needed to divert into speculative borrowings. (9) Banks accomplished this feat through creation of “security affiliates,” which, according to Adolph C. Miller, Federal Reserve Board economist, were “little more than market operators.” (9) Security affiliates had been around since the early 1900s, when commercial banks established them to float bond issues and underwrite corporate stock issues. Senator Glass was determined to separate these security affiliate appendages from the banking structure to halt the harvest of Federal Reserve funds to fund speculation in the stock market. He knew bankers would oppose him and so collected data showing the increase in security investments by national banks, state banks and trust companies. “He learned that in 1930 security investments and loans, together, represented 40 per cent of the total banking resources; and that security loans had increased by more than 50 per cent, while security investments by banks and trust companies had increased by 63 per cent.” (9) In spring 1931, Glass began to write the banking reform bill he first thought necessary in 1929. “He talked it over with his subcommittee [Senate Banking and Currency Committee] and the members were quite in agreement that much more severe restrictions should be written to curb the use of Federal Reserve funds for speculative purposes.” (10) The principle features of the bill are in the list below. They bear close reading. Senator Glass introduced his banking reform bill into the Senate on January 22, 1932. Protests from bankers, politicians, investors, and other stakeholders in stock speculation, flooded Glass, the Congress and the Republican Hoover Administration. Glass’ bill was such so hot and contentious that the Senate finally removed it from the calendar on June 16, 1932, as the national conventions of the two major political parties revved up. Henry B. Steagall of Alabama was chairman of the House Committee on Banking and Currency. He agreed to support the Glass banking reform bill if it permitted bank deposit insurance. When Glass and his subcommittee agreed, Steagall earned a place in the short name of the Act (Glass-Steagall Act) when it was eventually passed the following year (more below). Democrat candidate for President, Franklin Delano Roosevelt, was not Carter Glass’ first choice during the primaries, although eventually, on the very last ballot, the Virginia delegation did vote for Roosevelt. Glass said that he liked Roosevelt personally, but had had two experiences to which he reacted with distaste. “One was the practice of Roosevelt, when Governor of New York, in stopping over in Washington on his way to and from Warm Springs, Georgia, and indulging in political pow-wows with Democratic Congressmen and Senators. All his life Glass had been opposed to men seeking public office—and, to him, the Presidency, or a Presidential nomination, was one honor that should always seek the man. He was often invited to these meetings. He never went.” (11)
The other experience was when Carter Glass was Secretary of the Treasury under Woodrow Wilson, and Roosevelt was Assistant Secretary of the Navy, under Josephus Daniels. During World War I, the Coast Guard, which had been under the jurisdiction of the Treasury Department, was shifted to the authority of Secretary Daniels of the Navy. After the war, President Woodrow Wilson returned the Coast Guard to the Treasury Department, following Treasury Secretary Glass’ lead. “Two days afterward Glass received a letter from Roosevelt. The letter was a fretful communication, accusing Glass of ‘taking advantage’ of the ‘absence of the Secretary of the Navy from Washington,’ to recapture control of the Coast Guard.” (11) Glass thought this missive was over the top. A third item about candidate Roosevelt that Glass opposed was his close advisors’ advocacy of currency manipulation, which Glass adamantly opposed (more below). When Roosevelt trounced Hoover in the November 1932 Presidential election, chaos was reigning as hundreds of banks continued to fail. Glass attributed the financial chaos to three things: In the waning days of his presidency, an anguished Herbert Hoover called Senator Glass to the White House to discuss the Glass banking bill, which the Senate had shelved because of controversy, as noted above. “A Republican President whom he had assailed only a few months before was asking him [Glass] for help. Also, a Republican President was seeing eye to eye with him in the importance of the Glass banking bill. Hoover wanted to know if there was not some way in which he—a President of the United States!—could help in getting the proposed legislation enacted into law,” write Smith and Beasley. (12) As Hoover and Glass discussed the banking bill, Hoover wondered whether it was a plan by which the Reconstruction Finance Corporation could come to the aid of the banks by temporarily buying the assets of such institutions as were closed. [Emphasis added.] “Glass thought that over, then asked: “Do you seriously contend that the Government has any responsibility whatsoever for the indebtedness of these closed banks?” “From one point of view, no,” answered Hoover. “From another point of view, yes.” Hoover explained, “I believe the Government has a real responsibility because publicizing loans from the Reconstruction Finance Corporation has caused runs on these banks—runs that have resulted, directly, in the closing of the institutions.” Glass agreed to Hoover’s amendment to the banking bill. (13) On February 20, 1933, Hoover valiantly “tried to force dislodgment of the Glass banking bill by appealing to Congress,” as follows: …There are certain measures looking to the promotion of economic recovery which have been under consideration by the Congress and are so advanced toward completion or understanding as to seem possible of enactment during the present session. The enactment by the House of the general principles embodied in the Glass Banking Bill, which has already passed the Senate, will greatly contribute to re-establishing confidence. It is the first constructive step to remedy the prime weakness of our whole economic life—that is, organization of our credit system.” (14) He was unsuccessful in persuading Congress to move forward on the bill. Meanwhile, FDR asked Glass to be his Treasury Secretary, but Glass declined because of FDR’s refusal to divulge his intentions regarding a plan “to experiment with the currency.” (15) Two days before the inauguration of FDR on March 4, 1933, the Federal Reserve Board recommended for the second time in three days that President Hoover issue a proclamation, closing all banks before they could open. Hoover said that he thought this was unnecessary, because he believed most of the banks were solvent. (16) Senator Glass asked President-elect Roosevelt what he planned to do about closing the banks. Roosevelt said that he was planning to close them, of course. Glass then admonished Roosevelt, “You will have no authority to do that, no authority to issue any such proclamation. It is highly questionable in my mind if you will even have the authority to close national banks—and there is no question, at all, that you, even as President, will lack the authority to close banks chartered by states.” Roosevelt retorted, “I will have the authority. Under the Enemy Trading At, passed during the World War and never rescinded by Congress, I, as President, will have the authority to issue such an emergency proclamation ‘for the purpose,’ as the Act says, ‘of limited the use of coin and currency to necessary purposes.’” (16) Glass left the Roosevelt suite that night, deeply concerned. The Roosevelt Administration came into power on March 4, 1933. The following day, FDR called a special session of the 73rd Congress that wrote and passed the Emergency Banking Bill (a quite separate bill from the Glass banking bill) that legalized Roosevelt’s mandatory four-day “Bank Holiday.” (17) The main points of the proclamation FDR made to Congress in getting the Emergency Banking Bill through the Congress were: Glass believed that the President was without constitutional authority for this act, but the deed had been done and now the important thing, he believed, was to get the banks open again. In the midst of this whirl of activity, FDR signed the bill Glass helped to forge—the Banking Act of 1933 (48 Stat. 162) on June 16, 1933. Glass believed that the delay in passing this legislation “accelerated the forces speeding toward disaster.” (14)
Henry Parker Willis, Ph.D., Carter Glass’ longtime technical advisor, assessed the Banking Act of 1933 in a withering article from 1934 titled “The Banking Act of 1922—an appraisal.” (19) At the time he wrote this article, Willis was a professor of economics at Columbia University. Willis was born in Massachusetts and graduated from the University of Chicago with a Ph.D. in economics in 1897. He taught economics for eleven years at Washington and Lee University in Virginia, but at the time Carter Glass hired him to work on the bill that would become the Federal Reserve Act of 1913, he was Washington representative of the New York-based Journal of Commerce, with Treasury assignments. Among his many lucid contributions to the financial history of the United States is his 1,000-page magnus opus The Federal Reserve: A Study of the Banking System of the United States (1923). (20) Willis believed, contrary to most other observers, that the Federal Reserve Act of 1913 was not a panacea for America’s financial system woes. It was only “the best that could be had at the time of its adoption.” (21) World War I, he argued, was the cause of “subsequent inattention and even of erroneous thinking” at the Federal Reserve, which necessitated the “immediate process of ‘clearing up’ afterward.” The original Federal Reserve Act was amended, noted Willis, on the “average more than once for every year of its existence,” and nearly all of these amendments were “futile or worse.” Furthermore, the amendments have pandered to special banking interests, whittled away the safeguards against banking danger which had been set up in the Act itself, and have added new features of laxity to the concessions which had been forced upon its framers, [e.g., Woodrow Wilson and Carter Glass, among others]. Hence the necessity of witnessing: (1) a period of bank failure without parallel, in which the Reserve system and its managers sat silent, unwilling even to suggest a remedy; (2) a debauch of credit, likewise without parallel, in which the administration of the Reserve system spent its time in quarrels as to the proper application of remedial measures, while special interests made ducks and drakes of the resources which had been piled up in gold as the outcome of war and the consequent disturbances of trade; and finally (3) an unprecedented panic and depression in which all sorts of emergency or first-aid measures have been suggested and urged, and in notable instance tried,--usually with the result of further deterioration and impairing the situation. (22) Willis provides these facts as an essential background for the history and comprehension of the Banking Act of 1933. The new measure is an anomaly—an attempt to correct obvious evils growing out of the misuse of the Federal Reserve Act by applying remedies which ought long ago to have been attempted if at all. What needs to be understood first of all is the fact that it is an anomaly—an Act which ignores the changes of banking practice that have occurred during the twenty years of Federal Reserve experience. Not only this, but it also ignores or rejects the “new era” notions of banking theory which have been urged by some reasoners. It adheres to the older conceptions of self-liquidation in commercial paper, of “liquidity,” of limitation of speculation, of separation between commercial and industrial financing, and many others which were entertained by those who formulated the original Federal Reserve Act—which are still, indeed, entertained by them. This may be accounted unto the new Act and its framers for righteousness; but the fact is that it will not succeed much better than the Reserve Act itself unless enforced in a more sympathetic and understanding way, and unless applied by a banking community willing to make radical changes in its own technique. (22) Willis outlines the major elements of the Banking Act of 1933, including “the abolition of the security affiliates and the separation of directorates so as, if possible, to recreate the older type of bank board what at its best—a group of non-partisan, disinterested men who have an eye single to the welfare of the community.” (23) He is not sanguine about the United States ever having such a system unless it gives up its “indulgence in stock gambling of an extreme type, corporation finance of a shoddy and unsafe sort, and extravagant, costly, and hazardous government finance.” (23) Willis concludes, “The Act of 1933 is a protest against a banking world gone wrong. Whether it will be heeded or not is to be seen; but if heeded, much more will be essential in the way of legislation before that heed proves effective in results.” (24) *This concludes the second part of the three-part series on Carter Glass and his influence on the financial history of the United States in the twentieth century. The third part, “Protracted Demolition of Glass-Steagall Act of 1933” is available at http://www.semp.us/publications/biot_reader.php?BiotID=607. Notes:
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