A History of Financial Panics in the U.S.

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The panic of 1857 resulted from English doubts about whether American railroads had clear title to western lands and whether cash-strapped farmers on railroad land would pay off their mortgages.
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With a historian’s keen observations and a storyteller’s nose for character and incident, Nelson captures the entire sweep of America’s financial history in all its utter irrationality.

From the merchant William Duer’s attempts to
speculate on post-Revolutionary War debt, to an ill-conceived 1815 plan to sell
English coats to Americans on credit, to the debt-fueled railroad expansion
that precipitated the Panic of 1857, 
A Nation of Deadbeats(Alfred A. Knopf,
2012), by Scott Reynolds Nelson, offers a crash course in the history of
financial panics in the U.S. — and
a concise explanation of the first principles that caused them all. The following
excerpt comes from the preface, “A Republic
of Deadbeats.”

After his first divorce but
before he became respectable, my father was a repo man. He did not look the
part, which made him all the more effective. He alternately wore a long
mustache or a shaggy beard and owned bell-bottoms that were black, blue, and
cherry red. His imitation-silk shirts were festooned with city maps, or cartoon
characters, or sailing ships. Dad sang in the car, at the top of his lungs,
mostly obscure show tunes. His white Dodge Dart had “Mach 1” racing stripes
that he had lifted from a souped-up Ford Mustang. The “deadbeats” saw him
coming, that’s for sure, but they did not understand his profession until he walked
into their homes and took away their televisions.

A deadbeat, Dad told me,
“was a guy whose mouth wrote a check his ass could not cash.” They might be
rich or poor, young or old, male or female, black or white, but “deadbeat” was
written all over them, and my dad could read it. Florida’s
Orange, Seminole, and Volusia Counties
had plenty of them. And when Dad was working for Woolco, the department store,
Woolco got its goods back. Woolco lent appliances to people on the installment
plan, and when they failed to pay, ignored the letters and phone calls, refused
to answer the door, my father would come by. He often posed as a meter reader
or someone with a broken-down car. If he saw a random object lying abandoned
in the yard, he would pick it up and bring it to the door as if he were
returning it. He was warm and funny, charming, but pushy. He did not carry a
gun, but he was fearless under pressure and impervious to verbal abuse. He was
earnest about the return of the goods. If the door opened, he was inside; if he
was inside, he shortly had his hands on the appliance; the rest was
bookkeeping.

As you can imagine, repo men
like my father saw people at their worst. He told me that central Florida was full of
deadbeats — people who borrowed and borrowed, then lied, hid from their debts,
pretended they were solvent, until the guy in bell-bottoms arrived.

My dad was not inclined to
be generous about how people got to this place. His own career in repossession
began in late 1973, after the first oil shock brought minor financial
catastrophe to central Florida.
Dad, in fact, had lost a very good job as a regional sales manager at Kimberly-Clark.
Repo man was a sudden and severe step down, but there were debts to pay. At the
end of 1973, many central Florida
families were drowning in consumer debt they had contracted when times were
brighter. In this downturn these people certainly had “skin in the game,” and
it was my dad who did the skinning.

In a certain sense, the
story of my dad, Woolco’s debtors, and the debts he collected is the story of
American history. Americans settled this nation by borrowing goods, land, and
more abstract representations of those goods — land warrants, deeds, patents,
concessions, and equities. They borrowed with the most optimistic assumptions
about their capacity to pay. But when it became clear that Americans were not
paying, banks began to doubt wholesalers and called in loans; wholesalers
demanded settlement from retailers; retailers sent my dad and thousands like
him out into the countryside to recall some portion of their property. Times
got hard.

Pundits will tell you that
the economic turmoil the nation experienced in 2008-2009 was the first
“consumer debt” crash, built on junk consumer debt. These debts were in turn packed
into “collateralized debt obligations,” or CDOs, paper representations of debt
that could be bought and sold as financial instruments. CDOs, we are told, weakened
the overall economy by dressing up bad loans as good ones. In 2005 or so, a
banker who dealt in junk debt allegedly said: “Give me shit, a blender, and
lots of sugar and I will make you a chocolate mousse.” In 2008, banks began to
figure out just what was in these CDOs. A banking crisis began that brought
down multibillion-dollar banking giants like Bear Stearns and Lehman Brothers,
as well as causing devastating financial shocks for the thousands of midsized
banks and pension funds around the world that held this toxic debt. The federal
government, the European Central Bank, and other international government
agencies paid for a bailout that has so far cost more than $3 trillion.

The trunk of my father’s
Dodge Dart suggests that this story of bad debts was not new. In fact, America
has seen numerous periods of similar financial decline, and in most cases
consumer debt lay at the heart of it. My dad understood consumer debt
intimately; tucked back in his trunk was an accordion file filled with
photocopies of signed loan agreements for everyday items such as toaster ovens
and stereos. These agreements had allowed Woolworth, the parent company of
Woolco, to borrow cash repeatedly. Consumer debt had been the source of Woolworth’s
equity — the basis for Woolworth stocks, for its bonds, for the credit that
stereo manufacturers and cosmetics companies provided, and for Woolworth’s
numerous bank credit lines. All of it rested on documents like the agreements
in Dad’s trunk, and most of those debts, he said, were good for nothing.

Many economists and
historians have written about past American depressions, panics, and crashes.
From the 1880s to the 1950s, these scholars have told the history of the
nation’s economic downturns as the history of banks. This approach was not
entirely wrong, but it tended to focus on big personalities or New York institutions.
It tended to ignore the farmers, artisans, slaveholders, shopkeepers, and wholesalers
whose borrowing had fueled the booms and busts. Then, in the 1960s and 1970s,
the so-called New Economic Historians (or “cliometricians”) came along with a
different story. Using state and federal data, they tried to build simple
mathematical models of the nation’s financial health. Moving beyond the saga in
which banks played the central role, they emphasized what they termed the “real
economy,” by which they meant measurable indices of growth and profit.
Unfortunately, they tended to analyze the data from thirty-five thousand feet, creating
a seemingly coherent picture of the entire American economy out of published
numbers that were much hazier when viewed up close. These economists sought to
estimate such variables as the nation’s gross domestic product, its gross
income, and its collective return on investment, but none of these figures had
been measured directly before the 1930s, and the cliometricians’ projections of
this data into the past were all based on approximations.

But these models, however
scientific they looked, tended to be abstract representations of an economy
that was, in fact, more complex and more interconnected than can be predicted
or explained with a linear model of inputs and outputs. They tended, for
example, to assume that old banks were like modern banks, sharing common
accounting principles, or that because banks first issued credit cards in the
1960s, banks had no consumer credit before then. The cliometricians’ work was
thus often ahistorical. They drilled into historical documents looking for
seemingly relevant numbers, then plugged those numbers into a model of a world
they understood rather than the economy they sought to describe. And they
tended to ignore things that weren’t measurable, like hope.

Seldom did these accounts
reflect the reality that my dad wrestled with every day: how optimistic
assumptions had again and again led Americans to buy millions of shiny new
things, and how significant factors outside the banking narrative, such as high
commodity prices (oil in Dad’s day) and lost jobs (in ours), had turned
dreamers into defaulters. In fact, the only panic in which American consumer
debt did not figure much was the Great Depression of the 1930s, the only crash
that most economists understand.

But as I’ll show in the
chapters that follow, the nation saw significant economic declines in 1792,
1819, 1837, 1857, 1873, 1893, and 1929. The question in each of
these panics boiled down to one my dad well understood. European lenders
wondered if Americans would honor their financial promises, or was America
simply a nation of deadbeats? That question has been crucial to understanding
the history of financial panics in the U.S., though most observers have
missed it.

For despite the
cliometricians’ emphasis on the American economy’s vital statistics as an
indicator of economic health, panics have always crossed oceans. Panics are
always and everywhere transnational because credit is transnational. Panic
comes from one nation’s doubts about another nation’s capacity to pay. Were
Americans particularly incapable of paying their debts? King George III thought
so when he sent Hessian troops to put down the heavily indebted merchants and
farmers of Boston and Virginia in the American Revolution. The
French revolutionary assembly had its doubts when the Americans refused to
reimburse it for the French navies that had rescued them at Yorktown.
The first panic in 1792 had everything to do with foreign lenders’ doubts about
Americans’ ability to subdue western Indians who blocked westward expansion.
Recovery came when European investors judged New England
smugglers to be safer borrowers than French revolutionary assemblies or Saint
Domingue slaveholders and put their money back into American banks.

The pattern would continue
throughout the nineteenth century. An economic boom after 1815 was conceived in
a scheme to sell English woolen coats to Americans on credit. The panic came in
1819 when trade negotiations between America
and Britain
failed, causing Americans to lose their best trading partners. In the 1830s,
British banks with too much cash bet on a speculative bubble in American cotton
plantations; British and American banks busted when the Bank of England doubted
slave owners’ ability to pay. The panic of 1857 resulted from English doubts
about whether American railroads had clear title to western lands and whether
cash-strapped farmers on railroad land would pay off their mortgages. And while
cheap exports from American farmers contributed to the international panic of
1873, the crash started in Vienna
and sloshed onto American shores when the Bank of England raised interest
rates. The panic of 1893 was largely a byproduct of a sudden drop in sugar-tax
revenues from Cuba,
and it climaxed when Europeans doubted if American borrowers would repay their
debts in gold. Finally, in 1928, Americans’ doubts about dollar loans to
consumers in Germany and Latin America seized up international bond markets and
laid the groundwork for the crash of 1929 and the Depression that followed.

In each case, the documents
stored away for safekeeping — whether a promissory note or a bill of exchange, bank
draft, or railway bond — were viewed as assets by financial intermediaries:
merchant banks, banks of deposit, brokers, moneylenders, and insurance
companies.Other financial intermediaries involved may be unfamiliar — the Federal Land Office, New York wholesalers,
midwestern railways, and Albany insurance companies, among others — but in each case
these financial intermediaries convinced themselves that the financial
instrument they had created was sophisticated enough to protect them from consumer
default. And in each case the complex chain of institutions linking borrowers
and lenders made it impossible for lenders to distinguish good loans from bad.

In those crashes in America’s past,
perhaps a repo man in a Dodge Dart with a million gallons of gas could have
visited every debtor, edged his way in, and decided who was good for it. But
lenders have neither the time nor the capacity to act with the diligence of a
repo man. Instead, lenders (let’s agree to call all of them banks) try to
unload the debts, hide from their own creditors, go into bankruptcy, and call
on state and federal institutions for relief. But banks, as we will see, have
routinely overestimated the collateral — the underlying asset — for the loans
they hold. When those debts go unpaid or appear unpayable, banks quickly withdraw
lending; the teller’s window slams shut. As banks suspend lending, a crisis on
Wall Street becomes a crisis on Main
Street. Money is tight. Loans are impossible:
crash.

Besides exploring what
caused these panics, I’ll consider here what changes these panics caused.
Unlike Karl Marx, I do not believe that all human actions are dictated by
economic catastrophes, but it turns out that panics have changed a lot of
things in American history. Marx predicted that workers and farmers would
organize in crises. In fact, they usually formed unions during economic booms.
Unions like the Brotherhood of Locomotive Engineers, the Knights of Labor, and
the American Federation of Labor, for example, all organized during financial upswings.

When busts came, the rules
of politics changed as strong political figures emerged who courted farmers,
artisans, sailors, and soldiers burned by financial disaster. Many Americans
switched parties, since the people in power usually took the blame. Thus in
1793 a political faction appealed to artisans and farmers hurt by that panic;
they organized a new party. Labeled “Democrats” by their opponents, they had obtained
almost complete hegemony by 1800. In the aftermath of the financial downturn of
1819, the Democratic Party splintered, with the Jacksonian wing ultimately
absorbing those with concrete grievances about the economy. After the panic in
1837 wrecked Jackson’s
party and boosted the newly formed Whigs, the seesawing continued: The 1857
panic caused northern and especially midwestern voters to abandon the
Democratic Party for the Republicans, while the crash of 1873 led voters back
to the Democrats. After 1893, the wind shifted again as many voters blamed
Democrats for hard times. At the same time, both parties saw reform wings
within their ranks build a movement called Progressivism. Finally, in 1929,
many traditional Republican voters abandoned their party, while a divided
Democratic Party found a common theme in reform. The story of American financial
panics is the story of politics.

While some parts of this
political story may sound familiar, I’d suggest that financial and political history
is woven together in ways that are difficult to see at first glance. The First
and Second Banks of the United States,
the Suffolk Bank of Massachusetts,
and the New York Clearing House were all central banks, but they were also
political organizations, often covertly intervening in state and federal
elections. Criticism of these institutions by Jefferson, Jackson,
Roosevelt, Wilson, Hoover, FDR, and others was not just paranoid
delusion (though Jackson’s paranoia must never be overlooked). Politicians
and everyday citizens later exposed how these institutions corrupted American politics.
It was not just hyperbole to refer to these banks as political machines. As we
shall see, they often were.

I’ll also examine here the
changes in daily life that panics wrought. For example, controversies
over liquor often increased after economic downturns. In the wake of the 1792
panic, for instance, a new tax on alcohol led the whiskey rebels to take up
arms against the federal government. After 1819, Philadelphia hospitals received so many out-of-work
alcoholics that they learned to plot out the stages of alcohol withdrawal,
giving us the medical term “delirium tremens.” While the Whigs came to power
after 1837 on a campaign of “hard cider,” the 1857 panic saw the collapse of an
anti-liquor party called the Know-Nothings. The fallout from the panic of 1873
led to the rise of new criminal enterprises built on gambling and liquor in Chicago, while after the
1893 panic the federal government implemented a new tax on liquor to recover
lost federal revenue. A constitutional amendment prohibited the sale of alcohol
after World War I, but Democrats overturned it, hoping a beer tax would help
end the financial crisis of the 1930s. We can also credit financial panics with
the creation of the presidential cabinet meeting, the founding of the New York
Stock Exchange, the rise of Mormonism, and the invention of the self-service grocery.
To talk about the history of panic attacks in the Unites States is to talk
about a novel about whales, a guerrilla war over the plains of Kansas, and the
invention of the jukebox.

My father died before this
book was written, but it is nonetheless my side of a thirty-year-long argument
with him. Not surprisingly, he disliked deadbeats, seeing them as the people
whose false promises weakened this country. He probably had a point, and no
doubt the executives of Woolco would agree. But I find much in them to admire, for
defaulters are often dreamers. In viewing America’s financial panics through
the lens of numerous unfulfilled and forgotten debts that even the oldest
banker cannot possibly remember, I hope to provide a perspective my dad would
have appreciated: the view from the front porch, the minute he rang
the doorbell, when both debtor and
creditor prepared their stories.

This excerpt has been
reprinted with permission from
A Nation of Deadbeats: An Uncommon History of America’s Financial Disasters, published by Alfred A. Knopf, 2012.

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