Because the notion of an active monetary policy to combat the business cycle was so novel and the knowledge of how the economy worked so primitive, debates among the various factions within the Fed became highly confused and at times even incomprehensible. In September 1930, Governor Norris, an otherwise highly competent and respected banker, found himself arguing at a Fed meeting that by easing interest rates, they had their policy backward. “We have been putting out credit, in a period of depression, when it was not wanted and could not be used, and will have to withdraw credit when it is wanted and can be used.” He failed to recognize that the logic of his premise would have led him to the oddly perverse recommendation that the Fed should contract credit in a depression so that it might supply lots of it during a boom.
Without a common vocabulary for expressing ideas, Fed officials resorted to analogies. One of the governors likened any attempt by the Fed to revive the economy to a band desperately trying to keep the music going at a “marathon dance.” On another occasion, he compared it to a physician’s trying to bring a dead patient “back to life through the use of artificial respiration or injections of adrenalin.”
In the early summer, the Fed stopped easing. It proved to be a mistake. For just as it went on hold, the economy embarked on a second down leg, industrial production falling by almost 10 percent between June and October. There is some debate about Harrison’s reasons. Some argue that he thought he had done enough. Having staved off catastrophe by pumping a large amount of money into the system and cutting rates to an unprecedented low level, he believed that he had been as aggressive as he could. Others argue that he was operating with what might be called a faulty speedometer for gauging monetary policy. The usual indicators that he relied upon suggested that conditions were very easy—short-term rates were truly low and banks flush with excess cash. The problem was that some of these measures were now giving off the wrong signals. For example, when banks overflowed with surplus cash, this was generally an index, in a more stable and settled economic environment, the Fed had pushed more than enough reserves into the system to restart it. In 1930, however, in the wake of the crash, banks had begun carrying larger cash balances as a precaution against further disasters, and excess bank reserves were more a symptom of how gun-shy banks had become and less how easy the Fed had been.
IN SEPTEMBER 1930, Roy Young resigned as chairman of the Federal Reserve Board to become the head of the Boston Fed, a position that not only paid two and a half times as much—$30,000 as compared to $12,000—but also carried some executive authority. Finding replacements on the Board had never been easy; in the middle of a growing depression, it was doubly hard. Luckily Hoover had exactly the right candidate and promptly phoned his old friend, the noted banker and government financier Eugene Meyer, to offer him the job, saying, “I won’t take no for an answer,” and hung up without even waiting for a reply. He did not have to. He knew his man.
Few people were more enthusiastic or better prepared to take on the task of running the Federal Reserve than Meyer, a complete contrast to the second-rate figures who had so far inhabited the Board. A successful financier, he had accumulated a large fortune by the age of thirty-five, had run not one but two government-backed financial institutions, and unlike most bankers, believed very strongly in activist government policy and a more expansionary Fed policy to reverse the slide in the economy and halt deflation.
Meyer had been born in California, the son of Marc Meyer, a self-made man who had become a partner in the investment house of Lazard Frères. After graduating from Yale in 1895, he, too, went to work at Lazards, but quit in 1901, embarking on his own as a Wall Street speculator. He cleaned up during the 1907 panic, and by 1916 had amassed a fortune of $40 to $50 million.
He came to Washington in 1917 as a dollar-a-year man working for Woodrow Wilson, and had stayed on, becoming director of the War Finance Corporation and then head of the Federal Farm Loan Board. A larger-than-life figure, he commuted between a grand house on Crescent Place off Sixteenth Street, full of Cézannes and Monets and Ming vases; a seven-hundred-acre estate in Mount Kisco in New York; a six-hundred-acre cattle farm in Jackson Hole, Wyoming; and a plantation in Virginia. His wife, Agnes, a difficult egocentric woman who put him through a rocky and unhappy marriage, ran the most fashionable salon in Washington, where poets, painters, and musicians might mingle with politicians and bankers.45
Meyer’s was not an uncontroversial nomination—Huey Long, the populist governor of Louisiana, declared he was nothing but “an ordinary tin-pot bucket shop operator up in Wall Street . . . not even a legitimate banker.” His confirmation hearings proved to be difficult. Senator Brookhart of Iowa came out against him, calling him a “Judas Iscariot . . . one who has worked the Shylock game for the interests of big business”—for all his wealth, he had had to struggle with anti-Semitism throughout his career.
If there was anyone who seemed capable of reversing the paralysis of the Fed, it was Meyer. Yet, even he was soon overwhelmed. He found a Board racked by petty intrigues and feuds. Adolph Miller was at war with Charles James. Some of the old guard, such as Hamlin, resented Meyer and thought that he was too closely identified with the president.
The system of decision making and authority within the Fed, complex as it had been, had become even more byzantine. During Strong’s time, decisions about how much to inject into the banking system through open market purchases of government securities had been taken by
the five-member Open Market Investment Committee (OMIC), comprising the governors of the Federal Reserve Banks of Boston, New York, Philadelphia, Chicago, and Cleveland. Strong, therefore, had to persuade only two others to get a majority vote his way.
In January 1930, policy decisions for open market operations were shifted to a new twelve-man Open Market Policy Conference (OPMC), consisting of all the governors of the reserve banks. Each of these, of course, had to refer to his own nine-member board of directors. The old five-member committee (OMIC), renamed the Executive Committee of the OPMC, retained responsibility for execution. Now three separate groups were jockeying for power—one body, the OPMC, could initiate policy but could not execute; another, the Board, had to approve policy decisions but could not initiate them; and a third, the Executive Committee of the OPMC, implemented decisions within certain discretionary limits. At each stage policy could be vetoed or stymied. As a consequence, even though the two most prominent members of the Fed, Harrison and Meyer, both believed that it should be more aggressive, they were defeated by the system.
THE GREAT CRASH was greeted in Europe with a combination of schadenfreude and relief. According to the New York Times, Black Thursday’s “panicky selling left London’s City in a comfortable position saying, ‘I told you so.’” Contacted by the New York Evening Post that same day, Maynard Keynes commented that “we in Great Britain can’t help heaving a big sigh of relief at what seems like the removal of an incubus which has been lying heavily on the business life of the whole world outside America.” The Wall Street collapse was, according to one French authority, like the bursting of an “abscess.” The hope was that all the European capital that had been sucked into Wall Street would return home, alleviating the pressure on European gold reserves, and allowing such countries as Britain and Germany to ease credit and restart their economies.
Much to his delight, Émile Moreau had not had to miss the fall hunting season in Saint Léomer that year. By the last week of October 1929, he and Hjalmar Schacht were at the Black Forest spa of Baden-Baden attending an international bankers’ conference to finalize the Young Plan and draw up the by-laws of the newly created Bank for International Settlements. Schacht learned of the events on Wall Street when he happened to notice the American delegation looking especially glum on the morning of October 29 and could hardly contain his glee when he discovered the reason. To a visiting Swiss banker, he announced that he hoped that the coming chaos would finally put an end to reparations.
But of all the central bankers in Europe, Montagu Norman was the most relieved. The crash had arrived just in time to rescue sterling. Convinced that it had been the rise in British interest rates on September 26 that finally burst the bubble, he started claiming credit for the collapse. So relaxed was he about the events on Wall Street, that on the morning of October 29, Black Tuesday, while the financial world was falling apart, he kept his usual appointment for a sitting with artist Augustus John, who had been commissioned by the Bank of England to paint his portrait.
During the last week of October and the first weeks of November, George Harrison kept him in touch with developments on Wall Street by cable and transatlantic telephone, his voice drifting in and out under the usual atmospherics. On October 31, Harrison called to announce cheerfully that the market had pretty much completed its fall; the bubble had been pricked without a single bank failure.
For the first few months, things went according to plan. European stock markets dropped in sympathy with Wall Street, but not having gone up so much, they fell much less precipitously. While the U.S. market slid almost 40 percent, Britain’s went down 16 percent, Germany’s 14 percent, and France’s only 11 percent. Though the size of the British stock market was comparable as a percentage of GDP to that in the United States, the average British person preferred to bet on sports and left the stock market to the City bigwigs, while in France and Germany the size of the stock markets was tiny. Thus the crash did not exert the same hold on the psychology of European consumers and investors, and the effect on their economies was correspondingly less traumatic. Moreover, as credit conditions eased in the United States, foreign lending revived. Money suddenly became more freely available. Central banks across Europe, no longer having to defend their gold reserves against the pull of New York, were able to follow the Federal Reserve in cutting interest rates. By June 1930, with U.S. rates at their postwar low of 2.5 percent, the Bank of England was down to 3.5 percent, the Reichsbank to 4.5 percent, and the Banque de France to 2.5 percent.
Just as the threat of having to fight off an attack on sterling receded, Norman found himself harassed from another, and completely unexpected, quarter. In November 1929, a few weeks after the crash, the new British Labor government responded to criticisms about the endemically poor performance of the British economy by appointing a select committee under an eminent judge, Lord Macmillan, to investigate the workings of the British banking system. Half of its fourteen members were bankers; the remainder, an assortment of economists, journalists, industrialists, among them three of the staunchest critics of the gold standard: Maynard Keynes, Reginald McKenna, and Ernest Bevin of the Transport and General Workers Union, the country’s most formidable trade union leader.
In setting up this committee, the allegedly radical government had made it clear that the issue of whether Britain should remain on the gold standard should be kept off the table. Even Keynes, the unremitting critic of the mechanism and the strains it had imposed on the British economy, was ready to concede that it was a fait accompli and that departing from gold at this stage would be just too disruptive.
Nevertheless, the Bank of England—and especially Norman—approached the committee with great suspicion. Within the City, it had always been said that the motto of the Bank of England was “Never explain, never apologize.” That he and the Bank were now to be subject to the spotlight of public scrutiny filled him with dread. The committee began its hearings on November 28; Norman was to appear as one of the first witnesses, on December 5. As the date approached, his nervous ailments reappeared, and two days before he was due to testify, he predictably collapsed. His doctors recommended a short leave of absence and Norman duly departed for the next two months on an extended cruise around the Mediterranean, ending up in Egypt.
In place of Norman, the deputy governor, Sir Ernest Harvey, appeared. Even without its chief, the Bank found its habits of secrecy just too ingrained to abandon lightly. Consider this exchange between Keynes and Harvey:
KEYNES: “Arising from Professor Gregory’s questions, is it a practice of the Bank of England never to explain what its policy is?”
HARVEY: “Well, I think it has been our practice to leave our actions to explain our policy.”
KEYNES: “Or the reasons for its policy?”
HARVEY: “It is a dangerous thing to start to give reasons.”
KEYNES: “Or to defend itself against criticism?”
HARVEY: “As regards criticism, I am afraid, though the Committee may not all agree, we do not admit there is need for defense; to defend ourselves is somewhat akin to a lady starting to defend her virtue.”
Norman finally returned in England in February 1930 and agreed to provide evidence to the select committee. He was not a good witness. Witty and articulate in private, he became sullen and defensive in public settings, replying to the questions, which in deference to his position were never aggressive, in curt sentences and sometimes even in monosyllables. Unaccustomed to having to articulate his thought processes or justify himself, he said things that he did not mean or could not possibly believe, insisting, at one point, that there was no connection between the Bank’s credit policies and the level of unemployment. He appeared to be callous and indifferent to the plight of the unemployed, reinforcing the stereotype of bankers among the Socialists of the new government and the voting public who were getting their first glimpse of this man. Confronted with Keynes’s coldly precise questions, Norman seemed to be dull and slow, retreating behind platitudes.
Finally asked by the chairman what the reasons were for a particular policy decision, he initially said nothing but simply tapped the side of his nose three times. When pressed, he replied, “Reasons, Mr. Chairman? I don’t have reasons. I have instincts.”
The chairman patiently tried to probe further, “We understand that, of course, Mr. Governor, nevertheless you must have had some reasons.”