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Confidence in the Enemy

Confidence in the Enemy

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Published by Samuel Rines
Why we should trust the Federal Reserve
Why we should trust the Federal Reserve

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Published by: Samuel Rines on Sep 05, 2012
Copyright:Traditional Copyright: All rights reserved

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10/06/2012

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I
n 1907, a single speculator brought thefinancial market to its knees. F.A. Heinze wasa copper speculator and budding financierwith interests in financial institutions all overNew York City. He had a deep understanding of the copper market, having owned a copper minein Montana before his arrival in NYC, and—latein 1907—he attempted to corner the market inUnited Copper stock. He failed. Dramatically.He caused the collapse of his brother’s brokeragefirm, and his web of associations with banksand trusts in New York caused confidence in thesolvency of other institutions to be called intoquestion. Soon, rumors about banks’ exposure tohis losses were escalating to bank runs. As leading businesspersons of the day realized the gravityof the situation, the clearinghouse for the NewYork banks stepped in and backed the banks.This effort did not stem the tide. The runscontinued to escalate with people continuing toget in line, attempting to pull their savings frominstitutions they perceived as troubled. Confidencehad eroded.Financial markets function on confidence—thatbanks will not fail, that currencies will hold their value, and that parties will honor their contracts.Confidence is a basic tenet of commerce, and itsabsence can have severe consequences. The 1907episode is one of many in the history of US financewhere confidence in the stability and security of the system proved fleeting.On this occasion, a 70-year-old financiallegend cemented his fame by helping to restoreconfidence in the banking system. By the time hewas called in to quell the crisis, J.P. Morgan hadalready built himself an empire, a fortune, and— most importantly—a reputation. Morgan and hiscohorts provided tremendous sums of money toshore up the finances of many of the banks, butthe true benefit Morgan and Friends providedwas confidence.
Instead of bailing out all the banks
andtrusts that needed assistance, the group of financiers allowed one to close its doors, deeming that it had been poorly managed. This was theKnickerbocker Trust and, although it was forcedto close during the crisis, it eventually reopenedand made all depositors whole with interest.However, Morgan did bail out the Trust Companyof America to assist in stemming the tide of fundsleaving the bank. It did not immediately help.The Federal Deposit Insurance Corporation(FDIC) and the Federal Reserve did not yet exist,and people simply wanted to be certain their lifesavings would not disappear. A crisis of confidenceis difficult to fix, regardless of one’s standing in society.Unbelievably, the government came to therescue. Government bailouts are not a moderncontrivance. When the Treasury Secretarycame to New York to assess the situation, J.P.Morgan convinced him to deposit $25 million of government funds into New York banks to stabilizethe system. Even Rockefeller put money—$10million of his personal funds—into the banks.Still, there was no end to the financial crisis,
Confidence in the Enemy
Samuel Rines
A PUBLICATION OF CHILTON CAPITAL MANAGEMENT
July 2012
WWW.CHILTONCAPITAL.COM

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