Saturday, June 6, 2009

The Chicago plan for radical banking was well known at the highest levels of government during the period 1933-35


The ‘Chicago Plan’
New Deal Banking Reform
Ronnie J. Phillips*
Working Paper No. 76
June 1992
*The Jerome Levy Economics Institute of Bard College
PO Box 5000
Annandale-on-Hudson, NY 12504
Work 914-758-7448
Fax 9 14-758-l 149
Home 914-758-5299
Internet: Phillips@
The history of the legislative changes in the financial system
which occurred during the 28 months from Franklin D. Roosevelt's
inauguration in March 1933 until the passage of the Banking Act of
1935 has been well documented [Burns 1974; Kennedy 197'31. This
period saw the enactment of the Emergency Banking Act, the Banking
Acts of 1933 and 1935, as well as reforms of the stock market and
agricultural credit. The existing histories have given us detailed
examinations of the political maneuvering involved in the passage
of the legislation, but they have neglected the role of the
"Chicago plan" --the 1933 proposal put forward in a series of
memoranda by economists at the University of Chicago to abolish the
fractional reserve system and impose 100% reserves on demand
deposits. The proposal was known to the Roosevelt administration
prior to the passage of the Banking Act of 1933 and later led
directly to legislation introduced by Senator Bronson Cutting of
New Mexico, and other Progressives, as part of the debate over the
Banking Act of 1935. The influence of the Chicago plan was felt
even before Irving Fisher's more widely known, and largely
unsuccessful, efforts to enlist Roosevelt's support for the 100%
reserve plan [Allen 1977, 19911.
The Chicago plan was a proposal to radically change the
structure of our financial system, and as such its best chance of
passage was in the period of the early New Deal. The objective of
this paper is to document the role of the Chicago plan in the
debates over New Deal banking legislation, and provide an
assessment of why the Chicago plan ultimately lost out to the
alternative measures embodied in the Banking Act of 1935. The
failure of the Chicago plan in the 1930s is also of interest in the
contemporary debates over banking reform. The Chicago plan, by
restricting bank assets, would not have saddled the taxpayers with
an enormous liability from federal deposit insurance. Recently,
proposals have been put forward for "narrow" or "core" banks, which
restrict bank assets, and embody many of the components of the
Chicago plan [Tobin 1985, 1987; Bryan 1988, 19911.
The Banking Crisis and the March Memorandum
The stock market crash of October 1929 was followed one year
later by a banking crisis lasting from October to December 1930.
As deposits in failed banks rose, a contagion spread to convert
demand and time deposits into currency and, to a lesser extent,
postal savings deposits [Friedman and Schwartz 1963: 3081. In
December, the failure of the Bank of United States, though a
private commercial bank, furthered damaged confidence in the
banking system [Friedman and Schwartz 1963: 3113. After a brief
respite, this was followed by the second banking crisis in March
1931 which peaked in June with $200 million in deposits of
suspended banks [Friedman and Schwartz 1963: 3141.
In January 1932, President Hoover asked Congress for
legislation to reform the banking system. Hoover asked for a
strengthening of the Federal Land Bank System, the creation of the
Reconstruction Finance Corporation, the creation of Home Loan
Discount Banks, an enlargement of the discount privileges of the
Federal Reserve Banks, and a plan to safeguard depositors and a
swifter means of paying off those who held deposits in closed banks
[Krooss 1969: 2670-26711. During the same month, the
Reconstruction Finance Corporation (RFC) was created and authorized
to loan to banks and railroads [Friedman and Schwartz 1963: 3211.
The Glass-Steagall Act, passed on February 27, 1932, allowed the
Federal Reserve to hold government securities against Federal
Reserve notes and widened the circumstances under which member
banks could borrow from the Fed [Friedman and Schwartz 1963: 3211.
In July 1932, the Federal Home Loan Bank Act, which attempted to
respond to the problems of home mortgage financing institutions by
allowing advances to be made to those institutions on the basis of
first mortgages, was passed [Friedman and Schwartz 1963: 321-3221.
The only piece of legislation which did not pass was a bill for
temporary deposit insurance introduced in May by Congressman Henry
Steagall, which was not reported out of committee [Friedman and
Schwartz 1963: 3211.
In January 1933, the RFC made public the list of financial
institutions that it had loaned to (Hoover had insisted they not be
public). One state (Nevada) had already declared a banking holiday
in October 19'32, and was followed by Iowa in January, Louisiana and
Michigan in February, and by March 3rd, there were bank holidays
declared in about half the states. The pressure intensified on the
New York banks and on March 4th, a banking holiday was declared in
New York state [Friedman and Schwartz 1963: 324-3271.
When Roosevelt came into office, he faced a myriad of problems
related to the economy. Farmers, workers, bankers, politicians,
were all demanding action. On the financial front, there were
three critical issues which had to be dealt with: (1) the safety
of the medium of exchange; (2) the financing of the capital
development of the economy; and (3) the control of money and
credit by the Federal Reserve. In response to the widespread bank
holidays which had already been declared by many states, Franklin
Roosevelt's first act as President was to declare a national bank
holiday for the period March 4-9, 1933. In his inaugural address,
Roosevelt, referring to the financial collapse, stated that "The
money changers have fled from their high seats in the temple of our
civilization" [Schlesinger 1957: 7; Tugwell 1957: 2891.
Despite the eloquent rhetoric against bankers, Helen Burns
observed, Roosevelt never definitively set forth his own views own
banking [Burns 1974: 183l.l Roosevelt was against federal
deposit insurance, at least when he took office. During his first
press conference he was asked to comment on federal deposit
insurance and.he did so, but asked that his remarks be kept off the
record. Roosevelt said of federal deposit insurance:
1 During the period of the banking holiday, Roosevelt
proposed to his advisors a plan for converting all government bonds
($21 billion at the time) directly into cash at par. His advisors
thought it would be a disaster, but Roosevelt told them to come up
with an alternative. Also discussed was the issuing of script or
a direct printing of Federal Reserve Notes to provide the banks
with enough cash to meet withdrawal demands. This plans were not
needed because at the end of the bank holiday, widespread runs had
ended [Burns 1974: 451.
The general underlying thought behind the use of the word
'guarantee' with respect to bank deposits is that You
guarantee bad banks as well as good banks. The minute the
Government starts to do that the Government runs into a
probable loss. . . . We do not wish to make the
Government liable for the mistakes and errors
banks, and put a premium on unsound banking
[Roosevelt 1939: 371.
United States
of individual
in the future
Roosevelt's concern over the plight of debtors, especially
farmers, was also evident. Writing a few months later to his
Secretary of Treasury William Woodin, Roosevelt blasted the bankers
and economists for their neglect of the problem:
I wish our banking and economists friends would realize the
seriousness of the situation from the point of view of the
debtor classes, --i.e., 90 per cent of the human beings in
this country-- and think less from the point of view of the 10
per cent who constitute the creditor classes [Roosevelt to
Woodin, September 30, 19331
The Emergency Banking Act, which was passed in less than an
hour, did not provide any permanent solutions to the problem, it
only gave the Congress and the President a breathing spell in which
to formulate a plan. During his first fireside chat that Roosevelt
explained his reasons for closing the banks and announced their
reopening. It is a tribute to Roosevelt's charisma that when the
banks reopened on Monday, March 13th, the runs had virtually ended.
Walter Lippmann remarked that "In one week, the nation, which had
lost confidence in everything and everybody, has regained
confidence in the government and in itself" [Schlesinger 1958:
131. Raymond Moley, one of the original Brain Trusters wrote:
"Capitalism was saved in eight days" [Moley 1939: 1551.
In is within this historical context that economists at the
University of Chicago presented their proposal for reform of the
banking system.' The six page memorandum on banking reform which
was given limited and confidential distribution to about 40
individuals on March 16, 1933 [Knight 19331. A copy of the
memorandum was sent to Henry A. Wallace, then Secretary of
Agriculture, with a cover letter signed by Frank Knight. The
letter listed the following supporters of the plan: F. H. Knight,
L. W. Mints, Henry Schultz, H. C. Simons, G. V. Cox, Aaron
2 After the passage of the Glass-Steagall bill in February
1932, there were two other proposals on the. legislative agenda
intended to stimulate the economy. The first was an amendment by
Wright Patman to pay the remaining portion of the veterans's bonus
in the form of a direct issue of $2.4 billion in fiat currency.
The second was the Goldsborough Bill which would direct the Federal
Reserve to take appropriate actions to raise the price level
[Barber 1985: 1551. In mid-April, Congressman Samuel B.
Pettengill solicited responses to the Patman proposal from leading
economists. Twelve members of the economics faculty at the
University of Chicago responded in a lengthy statement which
advocated federal expenditures financed by deficit spending, unless
the gold standard could be abandoned and a direct issue of currency
could be utilized to increase purchasing power. The document
included concerns about the role of credit and price inflexibility
in the economy [Barber 1985: 156-1571. A group of eleven Chicago
economists signed a memoranda in January 1933 which advocated
deficit spending as a way out of the depression [Schlesinger 1960: .
Director, Paul Douglas, and A. G. Hart.l The authors anticipated
skepticism about their plan as evidenced by a typed postscript
which stated: "We hope you are one of the forty odd who get this
who will not think we are quite looney (sic), I think Viner really
agrees but doesn't believe it good politics."
The proposal opens with the statement: "It is evident that
drastic measures must soon be taken with' reference to banking,
currency, and federal fiscal policy." The general recommendations
were: (a) federal guarantee of deposits; (b) the guarantee only
be taken as part of a drastic program of banking reform which will
certainly and permanently prevent any possible recurrence of the
present banking crisis; and (c) the Administration announce and
pursue a policy of bringing about, and maintaining a moderate
increase in the level of wholesale prices, not to exceed 15 percent
[Knight 1933: 11.
The detailed suggestions advocated outright ownership of the
Federal Reserve Banks; the guarantee of the deposits of member
banks which were open for business March 3rd, 1933 but subject to
full supervisory control over the management of these banks by the
Fed. They advocated the issue of Federal Reserve Notes, which
should be declared legal tender, in any amounts which may be
necessary to meet demands for payment by depositors. Further, the
Federal Reserve Banks should liquidate the assets of all member
banks, pay off liabilities, and dissolve all existing banks and new
institutions should be created which accepted only demand deposits
subject to a 100% reserve requirement in lawful money and/or
deposits with the Reserve
through the incorporation
Banks. Saving
of investment
deposits would be handled
trusts. Present banking
institutions would continue deposit and lending functions under
Federal Reserve supervision until the new institutions can be put
into place. The government should then undertake to raise the
price level by 15 percent by fiscal and currency means but further
inflation (beyond 15 percent) be prevented. Finally, there should
be suspension of free-coinage of gold, embargo upon gold import,
prohibition of private export of gold, call in all gold coins in
exchange for Federal Reserve notes, suspension of the gold-clause
in all debt contracts, and substantial government sale and export
of gold abroad [Knight 19331.
Henry Wallace, then Secretary of Agriculture, gave the Chicago
plan to Roosevelt less than a week after it was distributed.
Wallace hoped FDR would give the plan serious consideration, though
the plan was a radical break with the past. Wallace wrote to
The memorandum from the Chicago economists which I gave
you at [the] Cabinet meeting Tuesday, is really awfully
good and I hope that you or Secretary Woodin will have
the time and energy to study it. Of course the plan
outlined is quite a complete break with our present
banking history. It would be an even more decisive break
than the founding of the Federal Reserve System [Wallace
to Roosevelt, March 23, 19331.
Though Roosevelt's views on the Chicago plan are unknown, the plan
addressed his concerns of deposit safety, the separation of
investment and commercial banking, and reflation. It also provided
an alternative to those who advocated branch banking, which
Roosevelt was very much against because he thought it would mean
domination of the small banks by the larger banks. The
recommendation for deposit insurance was that it only be a
temporary measure as part of permanent reform.
During the first 100 -days of the Roosevelt administration,
numerous measures were passed to deal with the economic situation,
and especially the crisis of the banking system and agricultural.
On March 20, the Economy Act was passed; on March 31, the Civilian
Conservation Corp was created; and on April 19, the U.S. went off
the gold standard. These measures were followed by the sweeping
reforms of the Agricultural Adjustment Act @AA) in May which
sought to raise agriculture prices through output restrictions. An
amendment to the AAA gave the President the power to issue
greenbacks and to monetize gold [Schlesinger 1958: 199-ZOO].
Congress also passed the Emergency Farm Mortgage Act in May which
provided for the refinancing of farm mortgages. The month of June
saw the passage of the Home Owners's Loan Act, providing for the
refinancing of home mortgages, the National Industrial Recovery Act
(which included a public works program), the Farm Credit Act, the
joint resolution by Congress to suspend the gold standard and
abrogate the gold clause, and perhaps most importantly, the Banking
Act of 1933, which separated investment and commercial banking,
established temporary federal
official body the previously
Thus by June, many of the
deposit insurance, and made an
informal Federal Open Market
proposals contained in the March
memoranda had been enacted. Though there was a separation of
commercial and investment banking, 100% reserve deposit banks had
not been created. Federal Reserve notes had not been declared
legal tender, and though liberalized, the Federal Reserve still did
not have full use of its policy tools to affect monetary
aggregates. The Fed had long had the discount rate, though it
could vary regionally, and now as a result of the Thomas Amendment
to the AAA, the suspension of the gold standard, and the Banking
Act of 1933, it could issue Federal Reserve notes. However, the
Fed was not yet totally free to set reserve requirements.
Though Roosevelt had opposed deposit insurance, there was
strong support for it within Congress and the general public. As
Carter Golembe has argued, federal deposit insurance was neither
requested nor supported by the Roosevelt administration. Deposit
insurance was purely a creation of Congress where for nearly fifty
years there had been attempts to introduce it. Its adoption in
1933 was, according
those that wished to
to bank failures and
to Golembe, due to a uniting of two groups:
end the destruction of circulating medium due
those who sought to preserve the existing bank
structure [Golembe 1960: 1821. Deposits up to $2,500 were insured
lOO%, up to $5,000 insured 75%, and over $10,000, fifty percent.
There was also widespread support for the separation of
commercial and investment banking because it was believed that
bankers had speculated with depositors funds in the stock market,
and when the stock market speculation spree ended, many banks
became insolvent. The separation of investment and commercial
banking was supported by prominent bankers such as Winthrop Aldrich
[Leuchtenburg 1963: 601.
The two proposals, for federal insurance and separation of
commercial and investment banking, were linked in the Banking Act
of 1933. The linking of these two reforms is vital in the
understanding of the subsequent evolution of the debates and
reforms. Though they became identified as administration measures,
the crisis nature of 1933, and the support of a new administration,
merely facilitated their passage. Deposit insurance made banks
"safe" not by direct restrictions on their assets, but rather by
the promise that the government would guarantee u banks, both
good and bad. The separation of commercial and investment banking
removed some abuses resulting from the use of depositors funds in
stock market speculations, but it did not address directly the
issue of financing for the capital development of the economy.
On passage of the Act, J. P. Morgan predicted that the
separation would have dire effects on his firm's ability to supply
capital "for the development of the country" [Schlesinger 1958:
4431. William 0. Douglas observed that the Act was a nineteenth
century piece of legislation which ignored the need the problem of
capital structure and the need to manage investment [Schlesinger
1958: 4451. While it is true that the RE'C had undertaken the role
of providing capital funds for industry, the banking legislation
attempted to restore credit availability by restoring confidence in
the medium of exchange, and therefore an increase in bank deposits.
The Banking Act of 1933 attempted to kill two birds with one stone.
Though it succeeded in stopping bank runs, the fractional reserve
nature of the banking system, coupled with a lack of power on the
part of the Federal Reserve Board, effectively undermined the
ability of the financial system to supply adequate investment
funds. In 1929, the ratio of loans to total assets for all
commercial banks was 58%. By 1934, that ratio had fallen to 38%,
as total bank assets began increasing after falling steadily from
1929 to 1933. This was also in spite of the fact that total bank
failures went from 4,000 in 1933 to 61 in 1934. Clearly, though
bank numbers were increasing and total assets were increasing, bank
loans remained at about the same level from 1933 to 1936. The
economy was in a credit crunch.
In late October 1933, Roosevelt began the gold purchase
program, operating through the RFC, in an attempt to raise
agricultural prices through the purchase of domestically held gold.
According to Arthur Schlesinger, the gold-purchase program set the
financial community in an uproar and the result was a national
debate over monetary policy that had not been seen since the
William Jennings Bryan campaign of 1896 [Schlesinger 1958: 244-
2451. With the 73rd Congress meeting for a second session, it was
clear that 1934 was to be the decisive year for debate on monetary
reform. However, after the introduction of deposit insurance, bank
failures dropped from 4,000 in 1933 to 61 in 1934. Federal deposit
insurance was a program which had worked to restore to confidence
in the banking system and assured little opposition to the
establishment of permanent deposit insurance.
Though much had been accomplished by November 1933, the
central problem which remained was the Federal Reserve's ability to
use all means available to it to affect monetary aggregates. In
order to do this, changes would have to be made to the Federal
Reserve Act which would restrict the power of individual Reserve
Banks, especially New York, while strengthening the power of the
Federal Reserve Board in Washington. This was the focus of the
November Chicago memoranda, and it was to become the crucial issue
in the Banking Act of 1935.
The November 1933 Memoranda
During the period March to November, the Chicago economists
received comments from a number of individuals on their proposal
and in November 1933 another memorandum was prepared.3 The
memorandum was expanded to 13 pages, there was a supplementary
memorandum on "Long-time Objectives of Monetary Management" (7
pages) and an appendix titled "Banking and Business Cycles" (6
pages). Though signed by the same group of economists, this
3 In April Simons circulated a revised version of the last
three pages of the March proposal. This material was later
expanded and used in the November version.
document was evidently written by Henry Simons.* The proposal
began by noting that government had failed in its primary function
of controlling currency by allowing banks to usurp this power.
Such "free banking" in deposit creation "gives us an unreliable and
inhomogeneous medium; and it gives us a regulation or manipulation
of currency which is totally perverse." What was necessary was a
*'complete reorientation of our thinking'* and a redefinition of the
objectives of reform." [Simons 1933: 11 The solution was the
"outright abolition of deposit banking on the fractional-reserve
principle." [Simons 1933: 21
The proposal included many of the items in March reform: (i)
Federal ownership of the Federal Reserve Banks; (ii) exclusive
Congressional powers to grant charters for deposit banking;
(iii) suspension of all powers of existing corporations to engage
in deposit banking within two years; (iv) creation of a new type
of deposit bank with 100% reserves in the form of notes and
deposits at the Federal Reserve Banks; (v) abolition of reserve
requirements for Federal Reserve Banks; (vi) replacement of
private-bank credit with Federal Reserve bank credit over a twoyear
transition period; and restricting currency to only Federal
4 In a letter to Paul Douglas, Simons wrote:
the memorandum, as I consider it now, has so many faults
that there should be no quarrels over "proprietorship."
Actually I did write the thing alone; but it would never
have been written except for my conversations with other
people, Mr. Director especially; and it never would have
been circulated without favorable critical reports from
yourself and the other members of the group. So, what is
uniquely my own is merely the phrasing [Simons to Paul
Douglas, October 2, 19341.
Reserve notes. However, they went on to add: (vii) enacting a
simple rule of monetary policy; (viii) and achievement of a
price-level specified by Congress. There is no mention of federal
deposit insurance which had already gone into effect in June.
As before, the plan would displace existing commercial banks
by two types of institutions: deposit banks and investment trusts.
If private companies failed to provide new deposits, then
government through the extension of a postal savings system could
offer such deposits. [Simons 1933: 61 Investment trust banks
would acquire funds exclusively by sale of their own securities,
thereby limiting-their lending capacity to the funds so obtained.
Investment trust banks would provide a service by bringing
borrowers and lenders together, and could therefor charge for this
service. [Simons 1933: 71 The memorandum also evaluated a return
to the gold standard (which was rejected unless it was a 100% gold
standard) and various rules to guide monetary policy, including
price-level stabilization. [Simons 1933: 8-111 The proposal noted
that a monetary rule which set money supply growth could be carried
out by conversion of interest-bearing federal debt into noninterest
bearing debt, open market operations by the Reserve banks,
an increase in federal expenditures, or a reduction in federal
taxes. [Simons 1933: 121
In summary, the memoranda stated that the Federal Reserve Act
had faulty objectives because commercial paper offered no real
liquidity, and that the answer lay in the abolition of fractional
reserve banking, so that a reconstituted Federal Reserve would have
precise power over the money supply. However, monetary management
was not to be discretionary, but subject to definite rules laid
down by Congress.
This version of the proposal which was given to Gardiner C.
Means, who worked for Assistant Secretary of Agriculture, Rexford
G. Tugwell. Means's responded to the Chicago plan in a three page,
single spaced memo [Means, "Comment", c19331. Given the
Administration's concern over the relationship between farmers and
bankers, it is no surprise that the Agriculture Department would be
interested in monetary reform. Mean's praised the Chicago
memorandum's primary objective of placing control of the monetary
medium in the exclusive hands of government, and the method by
which the transition would be effected [Means 1933: 11. He thought
the Chicago proposal provided a "relatively simple and direct
method of dealing with the deposits aspect of our banking system,"
though it would likely be opposed by bankers [Means 1933: 21.
Means's only disagreements with the plan was that he would allow
the Federal Reserve banks to purchase high grade commercial paper
in order to establish 100% reserves, and Means argued that monetary
policy should be discretionary, and not subject to a rule [Means
1933: 31. It is interesting that the Chicago proposal had found
greatest favor with Rexford Tugwell (who advocated a similar scheme
to expand the postal savings system) and Gardiner Means, both
institutional economists and planners.
With the onset of severe erosion problems in a number of
western states in 1934, Agriculture Department attention focused on
the immediate concerns of conservation. As output fell, prices of
agricultural products rose, thus further easing financial pressures
on farmers. Between 1932 and 1936, gross farm income increased 50
per cent, and cash receipts from marketing, including government
payments, nearly doubled. The relative price of agricultural
products rose as farm debt decreased dramatically. Thus at a time
when the economy was still experiencing high unemployment,
agriculture was beginning to recover [Schlesinger 1958: 711.
In January 1934, Roosevelt sent a message to Congress asking
for legislation to organize a sound and adequate currency system.
Roosevelt requested that Congress enact legislation to vest in the
United States Government sole title to all American owned monetary
gold and "other monetary matters [which] would add to the
convenience of handling current problems in this field." FDR
furthered indicated that the Secretary of the Treasury was prepared
to submit information concerning changes to the appropriate
committees of the Congress [Krooss 1969: 27911. It was soon after
FDR'S address to Congress that
Chicago group in the drafting
plan for banking reform.
there was direct involvement by the
of legislation to enact the Chicago
Legislating the Chicago Plan
Robert M. Hutchins, the President of the University of
Chicago, mailed a copy of the November Chicago plan to Senator
Bronson Cutting of New Mexico in December 1933. Cutting was a
progressive Republican in the mode of Robert LaFollette, Sr. He
was highly critical of the role of private bankers in the economy
and an advocate of greater government involvement in banking and
credit and national planning. As Schlesinger has noted, this
emphasis on planning and the role of government was very much in
line with New Dealer's such as Tugwell, Means, Adolph Berle, and
others [Schlesinger 1960: 389-3911. Cutting was one of the
radicals in the Senate, mostly old Progressives, which included:
George Norris, Robert La Follette, and Gerald P. Nye, all
Republicans, and Democrats Burton K. Wheeler of Montana, Edward P.
Costigan of Colorado and Homer Bone of Washington, all of whom
started as Progressive Republicans [Schlesinger 1960: 134-51.
Cutting was quite interested in the Chicago proposal and
largely in agreement. He replied to Hutchins:
I may say at once that I agree decidedly with most of the
views expressed by the members of your faculty. I wonder
if any of them has considered the idea of drafting a bill
embodying their views? I suspect that Bob La Follette
would be as much interested in this matter as I am, and
if we could get a draft in tangible shape, it would at
least give us something to shoot at [Cutting to Hutchins,
December 15, 19333'.
Hutchins replied "we'll set to work drafting a bill" [Hutchins to
Cutting, December 22, 19331, however, in March 1934, Cutting wired
Hutchins inquiring about the status of the proposed bill [Cutting
to Hutchins, March 7, 19341. As a result, Henry Simons traveled
to Washington and met with Cutting on March 16 to discuss the
essential features of a bill [Simons to Cutting, March 10, 1934;
Cutting to Simons, March 14, 19341. Simons did not feel that he
was qualified to draft an entire bill since he would not be
familiar with many of its technical features. His outline for a
bill was given to Cutting and Senator Robert La Follette, Jr. The
actual bill was written by Robert H. Hemphill, a writer for the
Hearst newspapers.5
To kick off the campaign for his bill, Cutting published an
article in the March 31, 1934 issue of Liberty magazine entitled
"Is Private Banking Doomed?" Cutting's answer, of course, was that
it was doomed by the New Deal because government should control
money .and credit, without the interference of private banks.
Cutting remarked that unless the administration introduced such
legislation to deprive private bankers of this power, that he would
introduce such a measure [Cutting 1934: 101.
Banks could remain, in Cutting's view, if they held 100%
'"While in Washington, I prepared for Senators Cutting and
LaFollette a rough outline of some features of a possible bill. I
am enclosing a copy of this outline -- although it is too crude for
critical examination." [Simons to Irving Fisher, March 29, 19341
In a later letter to Fisher, Simons wrote: "The Cutting Bill, for
present purposes at least, is much better than I had anticipated.
It was written by Robert Hemphill, of the Hearst staff and formerly
with the Richmond (?) Reserve Bank." [Simons to Fisher, July 4,
19341. Simons reluctance to become more involved in the
legislative battle apparently reflected his growing reservations
about "crucial details of the scheme as I had outlined it" [Simons
to Frank Taussig, November 12, 19341.
reserves against deposits, but they would not be allowed to create
credit. Cutting expected a battle against the bankers would not be
easy, and lamented FDR's failure to nationalize the banks in March
1933. Cutting wrote:
The fight against the abolition of the credit power of
private banks will be a savage one, for their power as a
unit is without equal in the country. Knowing this is
why I think back to the events of March 4, 1933, with a
s'ick heart. For then, with even the bankers thinking the
whole economic system had crashed to ruin, the
nationalization of banks by President Roosevelt could
have been accomplished without a word of protest. It was
President Roosevelt's great mistake. Now the bankers
will make a mighty struggle [Cutting 1934: 121.
On May 19, 1934, Senator Cutting gave a speech to the People's
Lobby in which he announced his intention to introduce a bill to
create a national bank which would have a monopoly of credit and
that private bankers should not make profits from credit. Cutting
was quoted as saying:
The bankers are collecting tribute from the community on
the community's credit. . . .Commercial banking and
issuing of credit should be exclusively a government
function. Private financiers are not entitled to any
profit on credit [New York Times, May 20, 1934, 32:1].
Business Week,
receiving wide
noting that radical ideas for banking reform were
support, wrote in reference to Cutting's remarks:
The fact that the more radical opinions are so widespread
as to be reflected in the House indicates that the banks
have not resold themselves to the public. . . . But unless
the banks convince the people the present system is best
or unless business picks up markedly by the start of
1935, Congress may go beyond the small changes of the
deposits insurance bill and alter the whole banking setup
-- despite the anguished wails of established banks.
[Business Week, June 2, 1934, p. 271
The bill, S. 3744, was introduced by Cutting and Congressman
Wright Patman of Texas (H.R. 9855) on June 6, 1934 and had as its
stated objective to "provide an adequate and stable monetary
system; to prevent bank failures; to prevent uncontrolled
inflation; to prevent depressions; to provide a system to control
the price of commodities and the purchasing power of money; to
restore normal prosperity and assure its continuance." [U.S.
Congress 19341 To achieve these goals, the bill proposed to (1)
segregate demand from savings deposits; (2) require the banks to
keep 100% reserves against their demand deposits; (3) require them
to keep 5% reserves against their savings deposits; (4) set up a
Federal Monetary Authority with full control over the supply of
currency, the buying and selling of government securities, the gold
price of the dollar; (5) have the FMA take over enough of the bonds
of the banks to provide 100% reserve against their demand deposits;
and (6) have the FMA raise the price level to its 1926 position
and keep it there by buying and selling government bonds.6 As a
consequence of this bill, the only money that would exist would be
either currency issued by the Federal Monetary Authority, or in
demand deposits backed 100% by lawful money (gold) or government
securities. The legislative bill would retain squarely within the
. federal government the power given to it in the Constitution to
create money and maintain its value. This bill would also achieve
the other long-run New Deal objectives of raising the price level
and to strengthen government's influence on economic activity, in
this case, through monetary policy.
Cutting, who shared Roosevelt's background as a graduate of
Groton and Harvard, and should have been a natural political ally,
had alienated Roosevelt over the issue of payment of the veteran's
pensions. Cutting had worked hard against Roosevelt's attempt to
reduce veteran's pensions [Schlesinger 1960: 1401. Whether
warranted or not, Roosevelt personally disliked Cutting, who was
the only Progressive that Roosevelt failed to endorse for
reelection in 1934. There is little doubt that the animosity
between Roosevelt and Cutting would mean little likelihood of
6For favorable comments on the bill from Canada, see S.H.
Abramson "A Proposal for Banking Reform," The Canadian Forum,
October 1934.
administration support for Cutting's bill.
It is also clear that Cutting did not view the measure as one
that would be politically acceptable at the time, but it would help
set the agenda. He wrote:
The bill which I introduced is merely tentative, and
there is no intention of pressing it at the present
session, when, you will understand, passage would be
impossible. I introduced it largely as a target for
criticisms and suggestions,
W. Mason, June 16, 19341.
Robert Hemphill, who drafted the bill, was convinced that the
such as yours [Cutting to E.
100% reserve plan was the only real solution. In an article in
the November 1934, Magazine of Wall Street, he stated that he knew
of no valid argument agai.nst the Cutting bill's reforms and in fact
believed that they were inevitable [Hemphill 1934: p. 1091.
Hemphill was optimistic that the bill he had drafted for Cutting
would play an important role in the debates on banking reform and
intended to garner wide support for the plan. He wrote of its
importance to Cutting:
I have a hunch this bill is going to inaugurate a
prolonged battle which you will finally win, and I regard
this legislation as the most important that has been
offered in a century; . . . I am going to use every effort
and every avenue, and believe we can assemble a very
powerful and influential group behind this legislation.
I am going to cable Mr. Hearst, and am sure he will get
right in behind the movement, and am also going to keep
closely in touch with the Treasury and the study they
propose to make of this question this summer [Hemphill to
Cutting, June 7, 19341
Hemphill's reference to the forthcoming Treasury study undoubtedly
reflected his view that the 100% reserve plan would be given
serious consideration. The studies undertaken during the summer
and fall of 1934 by the Treasury formed the backbone research for
the Administration's version of the Banking Act of 1935. The
studies were undertaken in a context that sweeping reform of the
system, especially the Federal Reserve, was necessary and
politically possible for the next Congressional session. The
November election results were very favorable to the New Deal and
FDR was in a strong position to complete the overhauling of the
banking system.
Cutting's bill served to put the Roosevelt administration on
notice that there were those in Congress prepared to take drastic
and extreme measures if the administration's reforms did not go far
enough toward complete government control of money and credit. The
goal of the bill was to correct the shortcomings of the Banking Act
of 1933. The Act had not addressed the problem of the availability
of credit, nor had it dealt with the issue of the Federal Reserve's
control over the money supply. The Cutting bill sought to make
both the money supply and credit availability subject to government
In 1934, the New York Fed, and therefore the New York banks,
still held substantial power with respect to monetary policy
[Schlesinger 1960: 2931. Though the price level was rising in
1933-34, it was still about 30-40% below the 1926 level. In
October 1934 Roosevelt made a speech to the bankers convention
imploring them to aid the recovery and begin making loans (FDR
Public Papers, pp. 435-440, speech 10/24/34). There was clearly
more to be done with respect to banking reform in 1935.
The Bankins Act of 1935
According to Rexford G. Tugwell, an original member of FDR's
Brain Trust, the objectives for banking reform as they developed
within the New Deal were: (1) making deposits safe; (2)
separating deposits from investments so that bankers could not
speculate with the depositors's funds; (3) to raise and stabilize
the price level; and (4) to strengthen central management so that
governmental influence could be brought to bear on business
activity [Tugwell 1957: 3681. As already discussed, the Banking
Act of 1933 addressed the first two objectives: deposit safety and
separation of deposit and investment banking. The remaining goals
were interconnected: centralize control of the monetary policy in
Washington, and undertake an expansionary policy to raise the price
level. As the legislative battle unfolded, the administration
found itself between the radicals and the Progressives who wanted
complete centralization and government control of money and credit,
and Carter Glass, one of the architects of the Federal Reserve Act,
who was against any changes in the Act.
The Administration strategy for the final phase of banking
reform began with studies directed under Jacob Viner. William
Woodin was Roosevelt's first Secretary of the Treasury, but when he
resigned for health reasons in November 1933, Roosevelt nominated
an old friend, Henry Morgenthau, to take his place. The
appointment was confirmed in January 1934, and soon afterward
Morgenthau suggested to Jacob Viner, who was a special assistant to
the Secretary, that he assemble a group of the best minds he could
find in monetary, banking, and public finance, to see what they
could come up with.'
The group would include Viner, four senior staff, four junior
research staff, and clerical and secretarial staff. On June 27,
1934, Secretary Morgenthau announced that the Treasury was
undertaking a number of studies in preparation for next year's
legislative program in the areas of currency and banking and
taxation and revenue [Treasury Department Press Release, June 27th,
19341. Those temporarily employed by the Treasury to work on the
'Albert G. Hart in a letter to Henry Simons encouraging wide
distribution in government of the Chicago proposal, noted: "Viner
complained to us this summer that before he went there (Treasury)
he was deluged with circulars on policy, but that there seemed to
be a tabu among economists against writing on policy to people who
might conceivably be in positions of some power"[Albert Hart to
Henry Simons, December 9, 19341.
Monetary and Banking Survey studies
D. White, Albert G. Hart, Benjamin
were: Lauchlin Currie, Harry
Caplan, Virginius F. Coe, and
Edward C. Simmons.* It is important to note, that two of this
groupl Currie and Hart were already known advocates of the 100%
reserve plan, while Viner appears to have been at least strongly
In his book, The Supplv and Control of Money in the United
States, Currie presented a model of the money supply mechanism in
which the major source of variation in the money supply was the
level of excess reserves, while the Federal Reserve's primary means
of control of the money supply was the level of required reserves
[Steindl 1992: 452-31. At the time Currie wrote, the Federal
Reserve did not have the power to change reserve requirements. The
Federal Reserve actions were firmly grounded in the "real bills
doctrine." The Fed was allowed to discount only real bills, and
thus its monetary policy was pro-cyclical. Currie saw this as a
major limiting factor in effective monetary control. Currie then
went on to discuss the "ideal conditions" for monetary, control
which he argued was a system with 100% reserve requirements on
*The reports were: Edward C. Simmons, "The Currency System;"
Benjamin Caplan, "Branch Banking;" A. G. Hart, "Federal Credit
Institutions;" Lauchlin Currie, "Monetary Control in the United
States," and "Deposit Insurance;" Alan R. Sweezy, "Objectives and
Criteria of Monetary Policy;" H. D. White, "Selection of a Monetary
Standard for the United States;" and H. W. Riley, "Bank
Examinations and Bank Reports." [Mrs. Belsley to Mr. Viner, Inter
Office Communication, Department of Treasury, December 20, 1934,
FDR Library, Morgenthau Papers, Correspondence, Box 301, File Viner
demand deposits.g In a footnote in his book, Currie stated that
Albert Hart had brought the Chicago proposal to his attention after
the book had gone to press [Currie 1968: 1561.
In September 1934, Lauchlin Currie submitted a comprehensive
proposal for monetary reform to the Secretary of the Treasury Henry
Morgenthau. The fundamental faulty working of the monetary system
Currie attributed to the unsatisfactory nature of the compromise
between private creation of money with governmental control [Currie
1968: 1971.
Currie did not provide an elaborate theoretical rationale, as
the Chicago economists had in their appendix on "Banking and
Business Cycles," but rather noted that the monetary system had
been acting as a "maladjustment-intensifying factor" due to the
"unsatisfactory nature of the compromise of private creation of
money with government control" [Currie 1968: 1971.
Currie proposed that the reserve ratio for checkable deposits
be lOO%, for non-checkable deposits 0%, and an end to interbank
deposits unless subject to 100% reserves. During the transition to
the new system, Currie sought to insure that banks would not see a
loss of income with the increase in the reserve requirements. When
the new policy was announced, banks would initially meet the 100%
9 In his book The Supply and Control of Money in the United
States, and stated in a footnote that he learned of the Chicago
proposal after he had written his book [Currie 1934: 1561. Simons
greatly admired Currie's book on the supply of money and reviewed
it in the Journal of Political Economy. In a letter from Simons to
Fisher, Simons says: *'I'm interested in your mentioning the Currie
book. It's the only book on banking, and almost the only decent
book in American economics, which makes me genuinely envious of the
author for having written it." [Simons to Fisher, November 9, 19341
requirement with a non-interest bearing note from the Reserve
banks. This note might be left outstanding indefinitely, or only
retired upon suspension or merging of the bank. Alternatively, the
debt might be retired over a period of time from 5 to 20 years by
the member banks turning over to the reserve banks Government
bonds. [Currie 1968: ZOO-2013 Any excess reserves held at the time
of the imposition of 100% reserves may be loaned out, but there
will be no multiplier effect because of the 100% reserve requirement.
[Currie 1968: 2021 Assuming the reserve ratio was initially
15%, once the 100% reserve policy goes into effect, a typical
balance sheet might look as follows:
Assets: Liabilities:
Required Reserves 100 Checkable Deposits 100
Excess Reserves 0 Note payable to Fed 85
Loans 85
There would be no impact on the current earning capacity of the
bank, nor would there be a significant increase in expenses, since
the note payable to the Fed would be non-interest bearing and with
negligible transactions costs. However, if banks experienced an
increase in deposits, say in the amount of 10, then under 100%
reserves, they could not acquire any earning assets. Currie
proposed that under these circumstances banks be paid interest on
that portion of the addition to reserves that could have been
loaned out under the fractional reserve system. Thus for example,
if deposits increased by 10, Currie would propose that interest be
paid to the banks by the Reserve banks on 8.5 of the addition to
reserves. The interest rate paid would be that on specified
government bonds. [Currie 1968: 2021 Of course, if deposits
declined, then the process is reversed and banks would pay the
Reserve banks a comparable amount.
If it is decided that banks must repay the Fed loans made at
the time of the implementation of the 100% reserve system, the
interest earned on those bonds would be paid to the commercial
banks. Again, there would be no impact on the current income/expense
situation of the bank. However, once those initial loans are
repaid, banks could no longer acquire earning assets by selling
checkable deposits. As a final policy recommendation, Currie
proposed that banks be allowed to make service charges for their
checkable accounts to avoid incurring a loss. [Currie 1968: 2041
In the event that the implementation of the 100% reserve plan
created a shortage of loanable funds in a particular area, then the
Reconstruction Finance Corporation (RFC) would be empowered to
subscribe to the capital of local loaning agencies, to make secured
loans, or to establish loaning agencies [Currie 1968: 2191.
Currie's views are important, because he was soon to become
intimately involved with drafting the administration version of the
Banking Act of 1935. The key figure in the administration's
strategy for banking reform in 1935 was Marriner Eccles, a Morman
banker who had impressed Tugwell and Henry Morgenthau, and had been
brought to Washington in early 1934 to work in the Treasury
Department. It was Morgenthau who suggested to Roosevelt that
Eccles who be the perfect choice as the head of a restructured
Federal Reserve System.
Eccles agreed to take the job if certain changes were made to
enhance the power of the'Federa1 Reserve Board and therefore reduce
the power of the regional banks. Roosevelt agreed and Eccles,
along with Lauchlin Currie, prepared a memorandum for Roosevelt
with their desirable reforms in the Federal Reserve System [Eccles
1951: 1661. The central concern of the memorandum was the Federal
Reserve's ability to monetary aggregates, precisely the problems
Currie had addressed in his book. Eccles are shared the view that
the real bills constraint on the Federal Reserve was absolutely the
crucial constraint on any attempt to undertake an appropriate
monetary policy. The memorandum was drafted by Currie and
generally reflected his views'on the problems of controlling the
money supply. Sandilands notes that one point was added by Eccles
that he considered important, but Currie was less
Eccles thought that an extension of bank assets
interested in.
available for
rediscount by the Fed was vital. This point boiled down to the
substitution of "sound assets" for the Federal Reserve Act's
"eligible paper." The significance of this is that it would allow
banks to continue making long term loans, but at the same time
provide some incentive to assure the quality of those loans since
such loans could potentially be available for rediscount in the
event of a run on the bank [Eccles 1951: 173; Sandilands 1990:
Though Eccles appointment was announced in late 1934, he was
not confirmed until April 1935. Roosevelt, in selecting Eccles,
had not conferred with Carter Glass, Chairman of the Senate banking
committee. Glass was a powerful senator and a Jacksonian Democrat
who feared increased centralization of government. Glass held up
the confirmation of Eccles and in the end was not present when the
Committee voted to confirm him and Glass was lone dissenting vote
when the matter was voted on by the entire Senate. The sometimes
strained and confrontational relationship between Eccles and Glass
undoubtedly had an impact on the ability of the administration to
get its bill passed. Eccles himself recognized this in his memoirs
[Eccles 1951: 177-181; Schlesinger 1960: 291-3011.
With the Eccles and Currie move to the Federal Reserve in late
1934, the impetus for banking reform shifted to the Federal
Reserve. A Legislative Committee was formed composed of E. A.
Goldenweiser, Chester Morrill, Walter Wyatt, and Lauchlin Currie.
The plan of action was to have the Committee's report sent to the
Federal Reserve Board, to the FDIC, the Comptroller of the
Currency, to Morgenthau at Treasury, to Roosevelt, and finally
presented in Congress [Eccles 1951: 1931. Eccles, though
respected by bankers and businessman, had never been to college and
found it difficult to formalize his ideas in writing. Currie, on
the other hand, had written for both academic and nonacademic
audiences [Sandilands 1990: 621. The actual writing of the
Banking Act of 1935 was left largely to Currie with substantial
input from Eccles on the ideas to be incorporated in the bill
[Sandilands 1990: 641.
The important amendments to the Federal Reserve Act which were
contained in the so-called Eccles bill on banking reform were with
regard to the makeup of the Federal Reserve Board (section 4),
expansion of assets which could be discounted by the Fed (section
13), legal tender status for Federal Reserve notes (section 6), and
power to change reserve requirements (section 19). In amending
section 19 of the Federal Reserve Act with regard to reserve
requirements, Section 209 of Title II of the bill stated:
Notwithstanding the other provisions of this section, the
Federal Reserve Board, in order to prevent injurious
credit expansion or contraction, may by regulation change
the requirements as to reserves to be maintained against
demand or time deposi;s or both by member banks in any or
all Federal Reserve districts and/or any or all of the
three classes of cities referred to above.
In line with his Treasury proposal for reform, according to
Sandilands, Currie intended that the Board be given unlimited power
to alter reserve requirements with the view of eventually raising
them to 100% [Sandilands 1990: 661.
The Administration bill was introduced by Senator Duncan
Fletcher in the Senate (S. 1715) and Congressman Steagall in the
House (H.R. 5357) on February 5, 1935. Title I of the bill made
Federal Deposit Insurance permanent, Title II contained amendments
to the Federal Reserve Act, and Title III included technical
amendments. The debate over the bill centered on Title II which
sought to give greater powers to a revised Federal Reserve Board
whose members would be appointed by the President. Senator Carter
Glass denounced the Eccles's bill as the most dangerous and
unwarranted measure of the entire New Deal [Sandilands 1990:
On March 4, Senator Fletcher asked to have a statement by
Frank Vanderlip on Senate bill 1715 read into the Congressional
Record. Vanderlip pointed out that in a country with a highly
developed banking system, the volume of purchasing medium included
not only currency but the volume of bank credit turned into bank
deposits. He noted: "This principle is recognized in the bill,
and an effective means for the control of the volume of bank credit
is set up in section 209 [Congressional Record, 1934: 28201.
Vanderlip believed that these powers were necessary in order to
regulate the value of the currency, but that Congress should define
its objective in exercising the power to regulate the value of
currency. Further, he states, "Congress must itself designate the
price level which it desires to establish and maintain." Finally,
he said:
The regulation of the value of currency is not properly
a banking function. It has, in fact, far too long
remained a banking prerogative. There should be clear
differentiation between the business of granting bank
credits and the fundamentally important policy of
regulating the value of currency [ibid].
Also on March 4, Senator Cutting reintroduced his bill to
create a Federal Monetary Authority and require 100% reserve
banking [S. 22041. Just a few days before, the New York Herald
Tribune ran an article entitled: "Many Withhold Opposition to
Present Banking Bill Lest Legislators Put Forward Measure Requiring
100% Reserves for Demand Deposits"[New York Herald Tribune on
February 25, 1935, p. 411 The article stated that many on Wall
Street, though opposed to Title II of the bill, were reluctant to
voice their opposition. The fear was that a "worse bill" would be
put forward which "might be a bill embodying the theories of that
group advocating 100 per cent reserves for demand deposits." The
article went on to note that the plan had gained wide academic
support. Though no one in the Administration had gone on record in
support of the plan, the paper noted that "should there be a
resurgence of New Dealism the 100 per cent reserve scheme might
possibly get some attention in the high quarters." Though some
might view the proposed bill as radical, according to the Tribune
article, "Compared with the 100 per cent reserve plan, it will be
seen, the banking act of 1935 is weak tea"
Tribune on February 25, 1935, p. 411.
A revised version of-the Banking Act of 1935
[New York Herald
was introduced on
April 19, 1935 by Congressman Steagall (H.R. 7617). The version
introduced by Steagall included section 209 unchanged from the
earlier version. Fletcher, as Chairman of the Senate Banking
Committee, was deluged with letters opposing Title II of the
proposed Banking Act of 1935 (H. R. 5357 and S. 1715). In a
statement read into the Consressional Record, Fletcher asserted
that the changes in the Federal Reserve System embodied in Title II
did not "involve a radical change in the present powers and
functions of the Federal Reserve Board and the Federal Reserve
System as it is now constituted" [Congressional Record, April 22,
1935, pg. 61031. He explicitly stated that this applied
unequivocally to section 209 granting the Board the power to change
reserve requirements. Fletcher was clearly concerned that the
banking system remained subject to wild fluctuations as a result of
bankers influence on the creation and destruction of credit. He
It is common knowledge, however, that there now lies within
the hands of bankers the potential makings for one of the most
stupendous inflations this or any other Nation has ever
experienced. And experience teaches us that banker control of
monetary policy will probably give us an equally devastating
financial whirlwind when that bubble is pricked [Conqressional
Record, April 22, 1935, p. 61041.
In May, E'ccles testified that the most effective way to
achieve the goals of centralization, without undue political
influence or banker influence, would be to have outright ownership
of the Federal Reserve banks [Schlesinger 1960: 2991. Though not
advocated by Currie, it was part of the Chicago plan for banking
A significant blow
Senator Bronson Cutting
reelection in 1934
actively opposing
victor over Dennis
election results,
to the Chicago plan came in May when
died in an airplane crash. Cutting's
out to be a very dirty campaign, with the
After Cutting emerged as the apparent
by slightly over one thousand votes, the
with Roosevelt administration approval, were
contested. In was during a trip back to New Mexico to get
affidavits in connection with the contested election that Cutting's
plane crashed in Missouri. Schlesinger reports that some of the
Progressives blamed Roosevelt for Cutting's death [Schlesinger
1960: 140-11.
Currie was optimistic that a banking bill would be passed
which would include what he viewed as the crucial reforms. Currie
wrote to Viner:
The prospects for the banking bill are looking better all
the time. You may have noticed that I got my objective
in the bill as reported by the House Committee. I admit
that the word "unstabilizing" in it is not elegant, but
I couldn't think of a good synonym. I know that you will
derive an enormous amount of comfort out of the assurance
that we will have perfect stability in the future [Currie
to Viner, May 3, 19351.
The bill passed easily in the House in early May, where Alan
Goldsborough had assumed responsibility for Title II, and then went
to the Senate where hearings were held [Burns 1974: 1691. In the
House, the only significant amendments were Alan Goldsborough's
proposals to create a Federal Monetary Authority along the lines
presented by Cutting and to mandate an explicitly declared policy
of the United States to restore the average purchasing power of the
dollar to level of the period 1921-1929 [Leuchtenburg 1963: 159;
Burns 1974: 13011. After this restoration, the purchasing power
of the dollar would be maintained substantially stable in relation
to a suitable index of basic commodity prices [Congressional
Record, May 8, 1935: 71631. The amendment was defeated by a vote
of 128 to 122 [Consressional Record, May 8, 1935: 71851.
The last attempt to explicitly introduce 100% reserves in the
Senate as part of the overhaul of the Federal Reserve System came
on July 25th when Senator Nye ,of North Dakota introduced a
substitute for Title II of H.R. 7617 (the revised Banking Act of
1935). The amendment embodied most of the Cutting bill (S. 2204)
introduced in March. In addition to the 100% reserves and the
creation of a central monetary authority, price stabilization was
also included, as it had been in the original Cutting bill outlined
by Simons. The amendment was defeated on a vote of 10 yes, 59 no,
and 27 not voting [Congressional Record, July 25-26, 1935,
pp.11842-119061. Roosevelt signed the Banking Act of 1935 into law
on August 22, 1935, and established the basic framework of the
financial system which continues today.
Glass set out to rewrite H.R. 7617 to remove those elements
which he thought increased unduly the government's role. As an
example, the final version of the Banking Act of 1935 limited the
Fed's ability to change reserve requirements by adding the
following to section 209:
but the amount of the reserves required to be maintained
by any such member bank as a result of any such change
shall not be less than the amount of the reserves
required by law to be maintained by such bank on the bank
of enactment of the Banking Act of 1935 nor more than
twice such amount [Section 207 of H.R. 76171.
This effectively prohibited any move to raise reserve requirements
to lOO%.‘O Glass also had removed a statement which mandated the
government to "promote conditions conducive to business stability"
in so far as it was possible with the "scope of monetary action and
credit administration" [Egbert 1967: 1521.
As the debate on the bill came to a close, Senator Glass in
remarks to remarks to the Senate stated:
I may say that repeated references to the bill as an
10 As an historical note, on August 16, 1948, in a Joint
Resolution of Congress (S.J. Res. No. 157, 80th Cong., 2nd sess.),
the Banking Act of 1935 was temporarily amended (1) in order to
prevent injurious credit expansion; (2) raised the limit on time
deposit reserves to a maximum of 7 l/2 per cent, and the maximum
reserves against demand deposits in central reserve cities to 30
per cent [Krooss 1969: 2999-30001. The increased reserve
requirements of the resolution expired on June 30, 1949.
administration bill have no justification whatsoever. It is
not an administration bill. The President of the United
States has never read a word of it, unless he has done so very
recently. The Secretary of the Treasury is on record in the
printed hearings of the Appropriations Committee as saying
that he had not read it. Every member, except one, of the
Federal Reserve Board testified before the committee that he
had not seen the bill until it was introduced and printed.
. . . I speak of it simply as the Eccles bill, because nobody,
with a single exception, who appeared before the Banking and
Currency Committee of the House or of the Senate has advocated
this bill [Consressional Record, July 25, 1935: 118241.
When asked if he was referring to Title II, Glass said "Yes; only
to title II."
Despite Glass's later boast that "We did not leave enough of
the Eccles bill with which to light a cigarette," the bill provided
for a significant shift toward centralization of monetary policy
and thus achieved what Currie believed to be a necessary reform if
monetary policy was to be effective [Leuchtenburg 1963: 1601. The
administration had achieved its goal of enhancing the Federal
Reserve's ability to manage the money supply, and therefore,
hopefully the economy [Schlesinger 1960: 3011.
The Chicago plan for radical banking was well known at the
highest levels of government during the period 1933-35 and, though
the plan called for radical changes', the early New Deal probably
offered the best chance for radical reforms to be undertaken. The
question is thus why did the Chicago plan lose out?
The answer, on one level, should be of no surprise: it lost
as a matter of pure political expediency. It is important to note
that it did not lose because the principles of the plan were
rejected. In fact, the banking legislation passed during the
period moved in part toward the Chicago plan reforms. Tugwell
though that radical reform seemed like such a remote possibility,
that Roosevelt abandoned any such attempts and opted for "simple
restoration of a system people understood under conditions which
would assure them of future safety" [Tugwell 1957: 2641.
The Banking Act of 1933 was successful in restoring confidence
in the banking system. It did so by institutionalizing Federal
Deposit Insurance and by the separation of commercial and
investment banking. By 1935, few politicians opposed doing away
with deposit insurance. The economy did not recover fully in 1934,
and the administration was convinced that it was due to a lack of
centralized control over monetary policy. Given the determined
resistance of Carter Glass, the administration got as much as it
could in the Banking Act of 1935 in the way of enhanced Federal
Reserve Board control. The Chicago plan played a role here by
being viewed as an extreme position, and therefore bolstered the
administration bill.
The key player for the administration appears to be Lauchlin
Currie, who though an advocate of 100% reserves, sought to achieve
measures that would be politically acceptable. In doing so, he
compromised on the 100% reserve goal, and in the end, his
compromise prohibited any possibility that such reform could be
achieved in the future.
There is evidence
Fisher were politically
that Currie believed that Hemphill and
naive. In his unpublished memoirs, Currie,
reflecting on the battle over the Banking Act of 1935, says: "Ml
adviser in Washington is of limited usefulness unless he acquires
some sense of what is feasible and how projects and policies should
be presented
1991: 651.
to have the best chance of being adopted [Sandilands
In a letter to Viner written in early 1935, Currie
You will be tickled by Hemphill's childlike naivete in
suggesting that instead of his bill being introduced and
then sent to the Board for,comments it would save time if
we drafted the bill together at the Board! I pointed out
that such a procedure would make his bill in effect an
would not mind
measure, and he said very seriously he
that! [Currie to Viner January 18, 19351
The fact that the Chicago plan was supported by the early New Deal
planners, and then by the Progressives, though it may have helped
the administration, at the same time reduced the possibility that
the legislation would have been passed. However, there were
attempts, especially after Cutting's death, to create both a
Federal Monetary Authority, reflation, and price-level
stabilization. This indicates that support for the ideas embodied
in the plan went beyond
Roosevelt came into
the radical and Progressive members of
office‘with the intent of restoring the
safety.-of the banks and increasing government control over monetary
policy. The legislation passed during the period 1933-35 gave
Roosevelt most of what he wanted: safety of the payments system,
separation of commercial and investment banking, and enhanced
control over monetary policy by a reconstituted Federal Reserve.
Safety of the bank deposits came at the price of a system of
contingent liabilities with inherent problems which all came to a
head decades later. The separation of commercial and investment
banking eliminated the problem of banks using depositors funds to
speculate in the stock market, but it did not prevent banks from
making risky loans.
Still, the legislation passed in the early New Deal must be
viewed as a success as judged by the fact that little change was
made in the system for nearly fifty years. Though passage of the
Chicago plan might have advocated the large scale bailouts of
financial institutions we are seeing today, there is no guarantee
that it would have been equally successful.
The Chicago plan without an appropriate transition period
could have worsened the credit crunch. The crucial action would
have been the supplanting of fractional reserve bank credit with
the credit of new investment trusts, and if necessary, credit
supplied by the RFC. One possible evolution could have been the
complete socialization of investment as Bronson Cutting and others
Control of M-l could have accelerated the expansion of money
substitutes and deposit banking could have been reborn, perhaps in
a relatively short period of time. However, one response to this
is that technology seems to have driven the developments of near
monies in recent years and it is unlikely that 100% reserve banking
could have affected the development of computers which, as we have
seen in recent years, enable the creation of financial assets which
would have been technologically impossible in the past.
The problems we face today are in large part a direct result
of the programs that were implemented during the early New Deal.
The first and most obvious is federal deposit insurance. The
amount of money necessary to pay off all depositors is unknown. We
have done nothing to fundamentally change the situation. Even
modest reforms to limit the amount of federal deposit insurance
have been difficult to implement.
The 100% reserve idea did not disappear after the passage of
the Banking Act of 1935, in fact, Irving Fisher spent the remainder
of his life lobbying Congress and the public on the need for 100%
reserves [Allen 19911. It is also not surprising that in recent
years, we have seen the emergence of "narrow banking" or "core
banking" proposals which are in the tradition of the 100% reserve
plan. If we are ever again
financial, problems on the
faced with economic, and particularly
level of the Great Depression, the
clamor for the separation of the depository and lending functions
of banks may reappear.
It is also clear that the Federal Reserve can do little to
cajole banks into lending when they do not wish to do so. What we
are seeing is banks buying more government debt, which is available
today on a scale far beyond the 1930s. The Federal Reserve can
effectively restrain activity during a boom, but during a business
downturn can do little to stimulate the economy beyond cutting
interest rates to historically low levels. This is precisely the
situation we face today.
Abramson, S. H. "A Proposal for Banking
Forum, October 1934.
Allen, William R., "Irving Fisher and the
UCLA, unpublished, 1991.
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100% Reserve Proposal."
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Depression." History of Political Economy 9:4 (1977): 560-587.
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University Press, 1985.
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Irwin, 1988.
Bryan, Lowell L. Bankrupt: Restoring the Health and Profitabilitv
of Our Bankins System. New York: Harper Collins, 1991.
Burns, Helen. The American Bankins Community and New Deal Banking
Reforms: 1933-1935, Westport, Connecticut: Greenwood Press, 1974.
Business week, June 2, 1934, p. 27.
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Currie, Lauchlin. 1934. A Proposed Revision of the Monetary System
of the United States Submitted to the Secretary of the Treasury,
Henry Morgenthau, September. Reprinted in Currie [1968].
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United States, New York: Russell and Russell, (originally
'published by Harvard University Press, 1934)
Cutting, Bronson. "Is Private Banking Doomed?" Liberty. May 1934.
Egbert, Arch 0. Marriner S. Eccles and the Bankinq Act of 1935.
Ph.D. Dissertation, Brigham Young University, May 1967.
Eccles, Marriner. Beckonins Frontiers. New York: Knopf, 1951.
Franklin D. Roosevelt: His Personal Letters. New York: Duell,
SLoan and Pearce, 1950.
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United States, 1863-1960. Princeton University Press, 1963.
Friedman, Milton. A Proqram for Monetary Stability. New York:
Fordham University Press, 1960.
Fusfeld, Daniel. The Economic Thousht of Franklin D. Roosevelt.
New York, Columbia University Press, 1956.
Gayer, A. D. "The Banking Act of 1935,"
Economics, vol. 50(1935): 97-116.
Golembe, Carter. "The Deposit Insurance
Political Science Quarterly_, Vo1.76, no. 2
Quarterly Journal of
Legislation of 1933,"
(1960): 181-200.
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Hyde Park. The Franklin D. Roosevelt Library. President's Official
Files (Box 230)
Hyde Park. The Franklin D. Roosevelt Library. The Papers of
Gardiner C. Means.
Hyde Park. The Franklin D. Roosevelt Library. The Papers of
Rexford G. Tugwell.
Hyde Park. The Franklin D. Roosevelt Library. The Papers of Henry
Morgenthau Jr.
Jacob Viner to Henry Morgenthau, Interdepartmental Communication,
Department of the Treasury, May 10, 1934. FDR Library.
Morgenthau Papers, Box 301, File Jacob Viner 1933-34.
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of Kentucky Press, 1973. .
Knight, Frank. "Memorandum on Banking Reform," March 1933.
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Currency in the United States (4 volumes). New York: McGraw-Hill,
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Masazine, v. 129, No. 2 (August 19341, pp. 161-163.
Leuchtenburg, William E. Franklin D. Roosevelt and the New Deal.
New York: Harper and Row, 1963.
Means, Gardiner C. "Comment on the Chicago Plan for Banking and
Currency Reform," n.d. Box 1 The Papers of Gardiner C. Means,
Franklin Roosevelt Library, Hyde Park.
Moley, Raymond C. After Seven Years New York: Harper and Brothers,
New York Hearald Tribune February 25, 1935, p. 41.
New York Times May 20, 1934, 32:l.
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Viner Papers.
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Sandilands, Roger J. The Life and Political Economv of Lauchlin
Currie. Durham: Duke University Press, 1990.
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Houghton Mifflin, 1957.
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Houghton Mifflin, 1958.
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Houghton Mifflin, 1960.
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63, no. 4 (August 1935): 555-558.
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Tobin, James. 1987. "The Case for Preserving Regulatory
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and Son, 1957.
U.S. Congress. Senate. A Bill to Requlate the Value of Money.
S.3744, 73rd Cong., 2nd sess., June 6, 1934.
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and uninterrupted operation of the bankins system. H.R. 5357, 74th
Congress, 1st session., February 5, 1935.
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2204, 74th Congress, 1st session, March 4, 1935.
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Washington, D.C., Library of Congress Manuscript Collection.
Bronson Cutting Papers.
1. The text of the letter reads as follows:
During the past week, we have tried to formulate and
agree upon a specific program which would provide, both
for emergency relief, and for permanent banking reform.
The results of this effort are contained in the five-page
statement which we enclose. This document is strictly
for your private use; and we request that every
precaution be taken against mention of it in the press.
The program defined in the statement is one which we
believe to be sound, even ideal, in principle. What its
merits may be, in the light of political consideration,
we frankly do not know. We are sensitive, moreover, of
an obligation not to broadcast publicly any statement
whichmight impair confidence in Administration measures,
or impair their chances of successful operation.
On the other hand, we feel that our statement may deserve
thoughtful consideration, among people of interests like
our own; also, that it may suggest measures which might
usefully be incorporated- in other, and perhaps less
impractical, schemes. Moreover, most of us suspect that
measures at least as drastic and "dangerous" as those
described in our statement can hardly be avoided, except
temporarily, in any event.
Please feel
free to use the document in any manner
with complete avoidance of newspaper
If you feel disposed to send us your
comments, favorable and adverse, upon the proposals, we
shall be grateful indeed for your cooperation.
Communications may be addressed to any member of the

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