Michael Bordo and the Federal Reserve System's Centennial

“Return to Jekyll Island: The Origins, History, and Future of the Federal Reserve,” a conference co-sponsored by the Federal Reserve Bank of Atlanta with Rutgers, November 5-6, 2010

Throughout the 19th and into the 20th century, the United States experienced a series of banking panics, the worst coming in 1907. The following year, Congress created a National Monetary Commission with the mandate to devise a plan for a U.S. Central Bank. To stave off future panics, Commission Chair Sen. Nelson Aldrich of Rhode Island secretly met in November 1910 with a group of prominent investment bankers, most from Wall Street, at a hunting lodge on Jekyll Island, Ga., arranged by associates of J. P. Morgan. Their goal was to draft a prototype bill for a U.S. Central Bank.

To mark the 100th anniversary of this historic meeting that led to the Federal Reserve Act of 1913, Rutgers economist Michael D. Bordo proposed holding a “reunion conference.” The result: “Return to Jekyll Island: The Origins, History, and Future of the Federal Reserve, a conference co-sponsored by the Federal Reserve Bank of Atlanta with Rutgers. At the conference, Bordo will present on the history of the Fed’s lender of last resort policies. Fellow Rutgers Economics Professor Eugene White will discuss how the Fed’s founding changed bank supervision practices from those in the preceding National Banking Era.

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Question: Why was the meeting at Jekyll Island held in secret?

Michael Bordo: Many believed the United States needed its own central bank to act as a lender of last resort to head off banking panics and protect the payments system. In the United Kingdom that role was filled by the Bank of England and was a key reason why the UK never had a banking panic after the 1860s, while the U.S., without a central bank, had four major panics between 1873 and 1914. The absence of a central bank in the U.S., reflected a deep-seated fear of the concentration of economic power in New York, Philadelphia, and Washington, going back at least to Andrew Jackson’s presidency. The Jekyll Island meeting wasn’t exactly inclusive – there were no representatives present for agriculture, labor, or small business, just prominent bankers. Twenty years later, when the public found out the plan leading to the creation of the Federal Reserve was drafted by Wall Street bankers, they cried, “Conspiracy!” Many today still think there is a conspiracy – Wall Street versus Main Street.

Question: What lessons from the Great Depression did the Federal Reserve System apply to the current economic crisis?

Bordo: The main cause of the Great Depression in the United States was four big banking panics between 1930 and 1933. The Fed, contrary to its mandate, did not act as a proper lender of last resort and provide liquidity to the financial system to stem the panics. During the crisis of 2007-2008, things were different. The Fed had learned its lesson from the events of the 1930s on how important it was to aggressively deal with a crisis. Beginning in early autumn 2007, the Fed followed an expansionary monetary policy of lowering the federal funds rate (the rates banks are charged for overnight loans) from 5 percent to close to zero. It also engaged in credit policy – opening up the discount window (making collateralized loans) to virtually every segment of the financial sector, including credit cards and student loans. And in late 2008 it commenced a policy of quantitative easing – purchasing both long-term Treasury securities and mortgage backed securities in an attempt to stimulate investment and lower mortgage rates.

Question: What can we expect from the Fed and how its policies will affect the economy in the future?

Bordo: We can expect the Fed to keep learning, despite its mistakes, to be a better central bank, as it has done in its first 100 years. In addition to the Great Depression, mistaken Fed policies in the ’60s to fund fiscal deficits, and in the ’70s to keep unemployment low at the expense of rising inflation, were largely responsible for the Great Inflation of 1965 to 1980. Since then, the Fed has learned to maintain low inflation.  

The Fed, by keeping its policy rates low in the early 2000s, was also partly responsible for the housing boom whose bust contributed to the crisis of 2007-2008. To its credit, however, if it hadn’t acted aggressively to stem the crisis and resulting recession, we would have been much worse off: the real economy ( GDP) would have declined more than 4.5 percent and unemployment would have been higher than 10 percent in 2009. The Fed has learned to manage financial crises and how to prevent inflation. In the future it will also have to learn how to better balance their goals of financial stability and price stability, and to deal with whatever shocks that will occur.


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