Economics and The Public Welfare

Chapter 57

First Successful Resistance to New Deal—Banking Act of 1935

The Banking Act of 1935 as introduced into the House of Representatives was a bill dangerous in the extreme.

We do not here discuss Title I or Title III of the Act—Title I being concerned primarily with the Federal Deposit Insurance Corporation and providing for the insurance of bank deposits up to $5000, Title III being concerned with a variety of technical amendments to the Banking Act.

Title II Attacks Liquidity of Bank Assets. The heart of the danger was in Title II, which was designed to amend the Federal Reserve Act in such a way as to give legal sanction to dangerous, unsound theories of money and credit. It was designed to give the Government power to regulate the quantity of bank deposits with a view to regulating the level of prices and the volume of employment, instead of regulating the quality of bank assets with a view to keeping bank credit sound. It contained provisions for bank loans on real estate mortgages running for twenty years, and up to 75% of the value of the real estate. It authorized the Federal Reserve banks to lend on “any sound asset,” instead of limiting them, as the original statute had done, to commercial paper of 90 days or less maturity and to paper secured by United States Government bonds. It tended to take away all distinctions regarding liquidity in bank assets. It substituted a legal-conventional liquidity for natural liquidity. If the Federal Reserve banks would take anything a banker had, then a short-sighted banker would have much less incentive to concern himself about the liquidity of his assets. It proposed, moreover, to put open market operations under the control of the Federal Reserve Board, a governmental body, instead of leaving them in the hands of the Federal Reserve banks.

The preparation of the measure had been dominated by the Honorable Marriner S. Eccles, Governor of the Federal Reserve Board, who was an ardent advocate of the theory that the regulation of the quantity of money could make or unmake business prosperity and could control commodity prices. Mr. Eccles, an exceedingly able man, was an extreme Keynesian in his general doctrines.

Senator Glass Fights—Turns Bad Bill into Harmless Bill. The banking community was frightened but felt hopeless. The Administration was all-powerful, and Governor Eccles was powerful in the Administration. Senator Carter Glass was aghast at the tenor of the bill. He was not Chairman of the Senate Committee on Banking and Currency, but was the ranking member, and was by all odds the member with the greatest prestige. The Chairman of the Committee, Senator Duncan Fletcher of Florida, was in favor of the bill, and a majority of the members of the Committee were in favor of the bill. Senator Glass succeeded, however, in having a Subcommittee appointed of which he was made Chairman, and prepared to hold exhaustive hearings which would give opportunity for expert opinion in the country to be presented regarding the measure.

Senator Glass was no longer young. The task was a hard one. His Subcommittee sat from April 19, 1935, to June 3, 1935. It was at first difficult to get the bankers to fight. They were afraid. The Senator said very simply, “If the bankers will fight, I’ll help them. I can’t do the job alone.” 1

Senator Glass started his task with a hostile full Committee and with a hostile Subcommittee. By sheer force of logic and the presentation of evidence he gradually won his Subcommittee over.2

Senator Glass finally won his fight with the Subcommittee, which unanimously recommended to the full Committee amendments that almost completely changed the character of Title II. He won the full Committee. He turned a dangerously bad bill into a relatively innocuous bill, and a bill which even had some good features. Over powerful Administration opposition, he won the Senate to his version of the bill. Over powerful Administration opposition he dominated the Conference Committee which settled the differences between the House version and the Senate version, and finally both House and Senate adopted the Glass version of the bill. It was a tremendously heartening thing.

Triumph of Senator Glass and of Facts and Logic. It represented, first of all, the power of logic and facts and evidence, which had not been allowed to have much play in connection with the preceding New Deal measures. It represented, in the second place, the triumph of personality. Senator Glass had immense prestige in the Senate. His colleagues had great affection for him, and the greatest respect for him, and they knew that he understood banking as none of the rest of them did. It was almost the first evidence, moreover, of Congressional willingness to oppose the President on any matter.

The main lines of sound banking practice were protected. Law did not interfere with the banking tradition that emphasized liquidity in bank assets. The real estate loan provisions were sharply restricted, though they remained too lax.

Law Tries to Make Board of Governors Independent. There was a reconstitution of the Federal Reserve System, but the effort was made to give it greater independence, rather than make it more dependent upon the Administration. The Secretary of the Treasury and the Comptroller of the Currency were eliminated from the Federal Reserve Board. The terms of members of the Federal Reserve Board were lengthened to fourteen years and members were made ineligible for reappointment. The salaries were placed at $15,000. It was hoped that men with this salary, with fourteen years tenure and with ineligibility to reappointment, might prove themselves to be courageous and independent.

There was a humiliation for the executives of the Federal Reserve banks in that the title of “Governor” was taken away from them and reserved for members of the Federal Reserve Board. Formerly only one member of the Federal Reserve Board had the title of Governor, while the head of each of the twelve Federal Reserve banks was called Governor. With this change every member of the Federal Reserve Board became a Governor and the heads of the Federal Reserve banks became merely Presidents. The Federal Reserve Board became “The Board of Governors of the Federal Reserve System.”

Open Market Committee. The original draft of the act had sought to concentrate control of open market operations in the hands of the Federal Reserve Board. The Act as finally passed created an open market committee in which the Board had a majority of one, but in which, also, “representatives” (in practice, certain of the Presidents) of the Federal Reserve banks should be members. As one banker put it at the time, “We may hope that there will be at least one honest and courageous man on the Board.”

“Any Sound Asset.” The Act made a concession to the idea of rediscounts based on “any sound asset,” though it changed the language to “secured to the satisfaction of the Federal Reserve Bank.” It provided, however, that discounts of this character should be subject to a penalty rate as compared with discounts of regularly eligible paper, the rate on such loans to be at least 1/2% above the discount rate on eligible paper. There was further a limitation to four months’ maturity for such loans.

It is a confession of weakness for a bank to have to resort to loans “secured to the satisfaction of the Federal Reserve Bank,” and there is a stigma attached to paying the penalty rate. The 1/2% differential is not enough, but it is at least something. There remained a real incentive for the member bank to keep its assets liquid and to keep an adequate supply of eligible paper.

Limits Power of Board Over Member Bank Reserve Requirements. Where Title II in its original form would have given the Federal Reserve authorities unlimited authority over reserve requirements of member banks (a power they already had under the Thomas Amendment to the Agricultural Act of 1933), Senator Glass succeeded in getting a real limitation upon this power. Reserve requirements could not be reduced below the 1917 statutory levels, which, for demand deposits, were 13% in the central reserve cities, 10% in the reserve cities, and 7% for country banks, and which for time deposits were 3% for all classes of banks. These figures remained statutory minima. The Banking Act of 1935 allowed the Federal Reserve authorities to double these reserve requirements and to vary them within the statutory limits. This meant, for the New York and Chicago banks, a range of 13% to 26%, for reserve city banks, a range of 10% to 20%, and for country banks, a range of 7% to 14% on demand deposits; while all classes of banks had a range of 3% to 6% on time deposits. We shall later have occasion to discuss the use made of this power by the Federal Reserve authorities.

• 1This point will be discussed at length in Chap. 34.
• 2I have not been able to find that this article was ever published. However, the reader will find much of it in two books by Veblen: Imperial Germany and the Industrial Revolution, New York, 1915; and The Nature of Peace and the Terms of Its Perpetuation, New York, 1917.