What is the Bank Panic of 1907
The Bank Panic of 1907 surfaced at the beginning of the twentieth century from shrinking market liquidity, dwindling confidence by depositors, and plans to regulate trust companies. At the time, trust companies faced increased public scrutiny for adhering to less regulation than national or state banks.
This skepticism triggered a run on the trust companies that continued to worsen even as banks stabilized. Without a central bank, leading financiers like J.P. Morgan stepped in and provided some vital liquidity. Even then, the Knickerbocker Trust Company – New York City's third-largest trust – was unable to withstand the run and failed in late October. This undermined the public's confidence in the financial industry and accelerated the ongoing bank runs.
BREAKING DOWN Bank Panic of 1907
The Bank Panic of 1907 was ultimately quelled when the federal government provided over $30 million in aid, and leading financiers like J.P. Morgan and John D. Rockefeller continued orchestrating deals to bring confidence and liquidity back to the financial markets. The panic's impact led to the eventual development of the Federal Reserve System. Today, the central bank operates under a dual mandate to maximize employment and stabilize inflation with monetary policy tools like open market transactions.
At the time, the main difference between Europe and US banking systems was the absence of a central bank in the US. European countries were capable of injecting liquidity into the market during periods of financial distress. Many people felt a central bank system could have prevented The Bank Panic of 1907 by providing an extra source of liquid assets for financial institutions to tap into. This ultimately caused leading financiers to draft an early framework of monetary policy and reform in the banking system. That report was shelved until 1913 when then-President Woodrow Wilson signed the legislation into law. It created the Federal Reserve System with Charles Hamlin as the first chairman and Benjamin Strong – a key member of Morgan's company – as the president of the Federal Reserve Bank of New York.
Parallels to 2008 Financial Recession
The parallels between The Bank Panic of 1907 and 2008 Recession are striking. The recent financial crisis was centered around investment banks without direct access to the Federal Reserve System, whereas its predecessor spread from trust companies that existed beyond the New York Clearing House. In essence, both events started outside of traditional retail banking services but still ushered in distrust for the banking industry among the broader public.
The aftermath of the 1907 bank run led to the creation of the Federal Reserve while the recession prompted new reforms like Dodd-Frank. These mechanisms intended to protect the broader public from a financial meltdown and hinder the big banks from taking unreasonable risks.