The Federal Reserve’s Big Bang and the Challenge of Institutional History


Review of America’s Bank: The Epic Struggle to Create the Federal Reserve, by Roger Lowenstein

London: Penguin Press, 2015

Cultural historians from the 22nd century might wonder at the late 20th, early 21st century obsession with origin stories. Marvel Comics, for example, has minted money telling us again (and again) how Peter Parker came to be Spiderman or Charles Xavier came to lead the X Men.

In America’s Bank: The Epic Struggle to Create the Federal Reserve, journalist Roger Lowenstein seeks to give the U.S. Federal Reserve System its origin story. Lowenstein is a master narrator, and in his hands we go deep to learn how this singularly powerful, almost superheroic institution in U.S. and global life came into legislative being.

What’s most remarkable about Lowenstein’s origin story is, perhaps, that it has so few commendable competitors. Consider the two most definitive monetary histories of the United States written in the last half century, Milton Friedman and Anna Schwartz’s A Monetary History of the United States, 1867-1960 and Allan Meltzer’s multivolume A History of the Federal Reserve System. Together, they span over 3,000 pages. Depending on how one counts, the founding of the Federal Reserve System occupies about 20 of those pages. Historians have had a few passes at this story (the best of which is Lawrence Broz’s The International Origins of the Federal Reserve System); conspiracy theorists in even greater numbers. Lowenstein’s stands perhaps not as the most original in its history, but—by a long margin—the most compulsively readable.

By lacing his historical narrative with constant references to the recent financial crisis and the present cultural, political, and economic debates, Lowenstein’s is a presentist history, visiting the past not as a foreign country but as the direct antecedent and guide to what we experience in the present. The book’s first sentence announces the theme: “So pervasive is its influence that Americans today can scarcely imagine a world without the Federal Reserve.” (page 1). And the theme is brought in again and again. Lyman Gage, President McKinley’s Secretary of the Treasury, acted “like a forerunner to Ben Bernanke” (page 25); accusations of banker favoritism in 1907 remind us of charges “brought against the Federal Reserve during the financial crisis of 2008” (page 53); and fears in 1913 that a central bank would be “too cozy toward member banks and, even in an emergency, protect banks from losses” would “look prescient during the financial crisis of 2008” (page 221). The history of the Federal Reserve Act is of importance not just for historians, Lowenstein convinces us, but for those who wonder about this extraordinary and often opaque institution over a century later.

On those terms—bringing the Fed’s legislative creation to life in a way that people consumed by an image of the Fed in 2016 would find enjoyable—America’s Bank succeeds brilliantly. It is a dance between origins and apotheosis that emphasizes the slow development at origins while constantly asserting connection to apotheosis. Lowenstein has earned the kudos he receives in convincing many general readers to care more about a period in U.S. history they are more likely inclined to ignore

For some academic historians, the methodological and indeed epistemological approach Lowenstein adopts is anathema. In Lowenstein’s defense, much disciplinary carping about “presentism” is a tedious, pedantic celebration of narrow expertise for the sake of narrow expertise. But in defense of those historians, Lowenstein’s decision to focus laser-like on these few years at the beginning of the 20th century, and his connected assertion that this period of institutional change can act as a guide for early 21st century practices, together raise a foundational question about how to tell institutional history. Can an institution like the Federal Reserve have an origin story? Did it develop its superpowers at a stroke, and then following a more or less predictable trajectory thereafter? Or is the entire concept of a “founding” of an institution intellectually vacuous?

Lowenstein goes to great lengths to justify his focus by tying the fate of the modern Fed to its legislative beginning. I would argue the opposite: Lowenstein hasn’t told us about the beginning of the Federal Reserve, as we understand that term today; he has told us about the Fed’s much more distant genealogy. To read America’s Bank as a guide to modern debates about central banking is similar to reading the Magna Carta to shed light on the meaning of the Equal Protection Clause in 2016.

It’s not a useless exercise. But it’s pretty close.

Writing History for the Reader

Let’s first begin with what makes America’s Bank such a successful example of popular history. Lowenstein, a prominent financial journalist and author, brings his strengths as a story-teller to what could have been a dry recitation of legislative infighting—hardly a topic that jumps off the pages to a general readership. Impressively, though, America’s Bank becomes that general narrative. It is a story about people, interests, a historical moment, and even some drama and intrigue. We learn of Paul Warburg, the immigrant banker from a German banking family, who was “shocked by the primitiveness” of the U.S. banking system but recognized the political sensitivities in lifting his preferred European model into his adopted country. (Page 31). Congressman Carter Glass—“a cautious reformer” wary of “antagonizing either” bankers or his Jeffersonian Democratic constituents in Virginia. (Page 128). Perhaps most interesting is the narrative swirling around Rhode Island Senator Nelson Aldrich, the politician probably most responsible for translating Paul Warburg’s vision into political realities, only to abandon the project for partisan reasons. Aldrich was as corrupt a politician as the U.S. has seen in polite society, but is, in Lowenstein’s account, a savvy infighter and convert to a noble cause. And though he hated what the bill became, Aldrich deserves enormous credit for the legislation that President Woodrow Wilson ultimately signed into law on December 23, 1913.

It’s to Aldrich’s credit, I should say, or to his shame. It should be noted that this book is a celebration of the Fed and its teleology. Lowenstein attaches a nobility to those who favored the Fed, a blinkered simplicity associated to those who oppose it. This perspective has already elicited starchy reviews from those who would call into question the entire experiment of government-sponsored central banks, and these critics must be taken seriously if the effort is to understand the intellectual, political, and economic functions that such structures serve. I’m not one of these critics, and while I wouldn’t characterize the Fed’s legislative founding as a struggle of good versus evil, I don’t fault Lowenstein for his celebratory tone.

I struggled more with Lowenstein’s minor historical short cuts, which plague the book. Lowenstein’s characterization that there was “haste” to abolish the Banks of the United States in the 19th century is wrong: events that seem to have been inevitable in Lowenstein’s retelling were highly contingent. It was Jackson’s veto of the Second Bank of the United States that marked its death; the recharter passed with a 58% majority in the Senate and a 56% majority in the House and the “Bank Wars” that surrounded the veto lasted years. And the idea that everyone—“farmers, industrialists, bankers, consumers, workers”—all agreed that the “prevailing system in which each bank stood on its own did not work,” when in fact there was a huge diversity of views about this. The very fact that the Federal Reserve Act of 1913 came six years after the Panic of 1907 tells us about this disarray of views on whether and in what ways the banking system should be reformed.

But these errors are mere quibbles; in the broad narrative, Lowenstein has done his work to get the history right and tells it in a lively tone that makes this popular history such a winning one. There is no literature review, citations are few, and footnotes aren’t extensive, but these are marks of the kind of book Lowenstein sought to avoid. The strength of the book is the strength of Lowenstein’s pen and his focus on the personalities that mattered so much to the ultimate shape the Federal Reserve System took.

Lowenstein’s Theory of Institutional History

There’s a bigger, more central theme in America’s Bank that did leave me unconvinced and, even if in the service of reaching the general reader, can’t bear the weight that Lowenstein puts upon it. In this telling of history, the Federal Reserve Act of 1913 was the institution’s “Big Bang”: after that, while galaxies and solar systems and planets within the Fed’s universe will combine from time to time, the main creative event is already over.

Lowenstein is far from the only one to ascribe to this theory of institutional history and institutional change. Indeed, it’s the dominant lens for thinking about institutional evolution. The problem in the Fed’s case—as in the case of virtually any other institution—is that this version of history simply doesn’t work. Too much has happened in the intervening years for us to look at 1913 as any kind of institutional guide to the present. An attempt to do so—and America’s Bank is exactly this attempt—cannot succeed if present relevance is the sole criterion for success.

Most of Lowenstein’s book is about how the Fed came to have the peculiar structure that it did, with a centralized Federal Reserve Board and twelve autonomous Federal Reserve Banks. It was indeed a marked departure from the central banking norm in 1913, and how the Wilson Administration and the Act’s congressional sponsors settled on such an ungainly structure is a vital part of our banking and indeed political history.

But there’s a problem. That structure no longer exists. The Roosevelt Administration and the quiescent 74th Congress abolished it in 1935. In that congressional session, FDR pushed through what was called then and since “the second New Deal,” a legislative burst late in FDR’s first term that included at once the passage of the Social Security Act, the National Labor Relations Act, and the Public Utility Holding Company Act, among others.

One of the less debated pieces of legislation at the time was the Banking Act of 1935, a legislative redesign of the Federal Reserve Act almost from the ground up. The 1913 Act created a Federal Reserve Board of uncertain authority; the 1935 Act abolished that structure and created the modern “Board of Governors of the Federal Reserve System,” giving it unquestioned formal authority over the Federal Reserve Banks with respect to banking supervision and regulation. (Even today, when insiders and outsiders refer to the Federal Reserve Board, they indulge in a bit widely accepted but still erroneous historical revisionism.) The Act also recreated the Federal Open Market Committee, the powerful committee in charge of using seigniorage to manipulate the availability of credit throughout the economy, and did so to significantly curtail the influence of the Reserve Banks. It is not an exaggeration to say that the Bank Act of 1935 changed the Federal Reserve Act so profoundly such that the original legislation—the exclusive focus of America’s Bank—is better thought of as the Fed’s Articles of Confederation, not its Constitution.

The Banking Act thus put an end to the experiment with decentralized central banking that is the centerpiece of Lowenstein’s narrative. In America’s Bank, all we get is a few sentences of mischaracterization, where Carter Glass is the hero of this reformulation and the changes wrought were tied to the original 1913 proposals. (Page 266). Glass was in fact the Banking Act’s original nemesis, giving only limp support in the face of overwhelming odds and only after he had attempted to gut it, and the proposals in the Act had virtually nothing to do with the original 1913 discussions, except to repudiate them. (I go into much more detail about the significance of this “second founding” of the Federal Reserve in my book and in this paper.)

The Banking Act of 1935 is but one example of these refounding moments. They happened again and again and again, throughout the Fed’s history, and continue to occur today. The Fed in 2016 is already dramatically different than the Fed in 2007, in ways that attention to a piece of 1913 legislation simply cannot detect. But in Lowenstein’s and indeed most writers’ vision of institutional history, the Fed needs an origin story just like any superhero. In the beginning, there was a moment of intense change. What happened thereafter may be where the action is, but it’s not where we’ll learn about the accumulation of power. For the Federal Reserve, this vision of institutional history is simply an imprecise and misleading historical methodology.

The better metaphor may well be from evolutionary biology. Institutions don’t get founded once and then left to change on a simple trajectory. Theirs is a punctuated equilibrium, with change happening quickly and then not at all, founded and refounded and refounded again. Lowenstein succeeds in making this topic of general interest, but by artifice. This isn’t a history of the founding of the Federal Reserve System. It is a history of the writing of the Federal Reserve Act of 1913. That alone is a subject of enormous historical importance. It is also a subject of less contemporary relevance than America’s Bank purports, or that its readers are likely to think after reading it.

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My disagreement about Lowenstein’s view of institutional change aside, the bottom line for America’s Bank is this: No institution dominates our public and private lives more completely than the Federal Reserve System. From roughly 1907 to 1913, increasingly larger slices of public attention were devoted to reimagining American finance in a way that resulted in a new system. While that system is no longer with us and bears little resemblance to what we see today, this period of intense institutional experimentation was sorely in need of a gifted story-teller to explain what was at stake, who sought to gain from the new system, and why it took the shape it did. That story teller is Roger Lowenstein, and America’s Bank is a compelling, readable narrative of those tumultuous days.

Posted on 10 October 2016

PETER CONTI-BROWN, an assistant professor at The Wharton School of the University of Pennsylvania, is the author of The Power and Independence of the Federal Reserve (Princeton University Press, 2016). He is also writing a comprehensive history of the Fed, expected in 2020 from Harvard University Press.