The Panic of 1873

Welcome to Civics and Coffee. My name is Alycia and I am a self-professed history nerd. Each week, I am going to chat about a topic on U.S history and give you both the highlights and occasionally break down some of the complexities in history; and share stories you may not remember learning in high school. All in the time it takes to enjoy a cup of coffee. 

INTRO MUSIC

Hey everyone. Welcome back. 

On September 18, 1873, Jay Cooke and Company stunned the U.S. market when the banking house refused to open its doors - a signal that it was suddenly unable to meet its liabilities. The impact of the firm’s closure reverberated throughout the country as businesses from coast to coast followed in Cooke’s footsteps and Americans struggled as thousands lost their jobs. The first economic bust referred to as the Great Depression, the Panic of 1873 left a black mark on the second term of Ulysses S Grant and inaugurated a period of history that saw significant increases in wealth disparity. 

So this week I am diving into the Panic of 1873. What happened? How did it impact world markets? And how does it connect to the great recession of 2008? 

Grab your cup of coffee peeps. Let’s do this.

On May 10th, 1869, people gathered from all corners to celebrate the linking of the Union and Central Pacific Railroads at the Promontory Summit in Utah. Proving it was possible to build thousands of miles of rail, people throughout the country - and the world - saw the railroad as an opportunity to maximize the return on their investments. While there was risk involved, there was a belief that - like real estate in the early 2000s - railroads were almost certainly guaranteed to turn a profit. As thousands soon discovered, railroad investment was not the sure bet it appeared to be and the one man who built a reputation on his ability to raise money would turn out to be one of those who lost the most when it all came crashing down. 

Jay Cooke was born in Sandusky, Ohio on August 10, 1821. Starting out as a bookkeeper when he was still a teenager, Cooke eventually landed a position as a clerk at a small banking house, E.W. Clark and Company where he successfully climbed the proverbial corporate ladder, becoming a partner in 1843 when he was still in his twenties. When founder Enoch Clark died in 1856, Cooke took over operations for two years before he quote unquote retired from a life of banking in 1858. Cooke built his wealth primarily through the buying and selling of land and dealing in railroad bonds. In 1861, Cooke established the Jay Cooke & Company with his brothers and brother-in-law William Moorehead who was a successful railroad magnate. As the Civil War broke out, Cooke threw his support behind the Union, helping the federal government raise over a billion dollars to cover the costs of war. 

Securing roughly 25% of the total amount the United States would spend on the War through the sale of state and federal bonds, Cooke was considered so successful that he remained a trusted government dealer even after the war ended. And despite the linking of the two coasts with the completion of the Transcontinental Railroad, the United States - and investors - were not yet done with the rail. Several years before the Union and Central Pacific met in 1869, Congress chartered the Northern Pacific Railroad company in 1864. The line was intended to connect Washington and Oregon to the Great Lakes, but like many other railroad companies, encountered several problems that delayed construction, including a tough terrain and ongoing pushback by the Sioux, which contributed to the stand off with General Custer at the Battle of Little Bighorn in 1876. In fact, while legislators and dignitaries were celebrating in Utah on that bright day in May, 1869 - the Northern Pacific remained little more than a company in name only as no track had been completed. 

Jay Cooke was first offered the chance to invest in the Northern Pacific in 1866 just a few years after its congressional charter, but he initially chose not to invest, feeling apprehensive about any opportunity that might require him to dip into his own funds. Of his decision, Cooke wrote to his brother quote: “Our true future is to keep out of large entanglements and to undertake nothing or be connected with nothing that will require any advances,” end quote. Just four years later, however, Cooke’s thinking about investing in the railroad shifted and in 1870, Cooke contacted the Northern Pacific’s board about raising money for the venture. Drawing on his previous success during the Civil War, Cooke raised over 5 million dollars rapidly for the railroad, but was unable to secure any major investments from other banks or major businesses. He also failed to secure congressional support for cash subsidies or bond guarantees increasing the risk, but at that moment there was a belief that any risk associated with the investment was minimal and the larger focus was on what the expanded rail could mean for growth. As one researcher observed, quote: “His (i.e. Cooke’s) speculation on the Northern Pacific Railroad helped open much of the American northwest to white settlement,” end quote. 

Meanwhile, overseas, Europe was starting to experience a bit of an economic downturn and European banks contracted, making it increasingly harder to borrow. In May of 1873, the Vienna Stock Exchange crashed as a result of rampant speculation and European investors began to dump their quote unquote riskier investments, which included railroad securities. In the United States, the financial system was vulnerable to seasonal contraction as rural banks throughout the country deposited their reserves in New York banks, usually recalling them in the fall to help pay for the costs associated with annual harvests. This meant that New York banks always ran a little lean during this time, with limited cash on hand. Cooke, who had been using bond sales to help fund the railroad, had to contend with reduced earning power when bond prices dropped. The Northern Pacific railroad company also continued to experience delays, forcing Cooke to dump his own money to maintain progress and guarantee a return on investment. Things were looking precarious and there were signs that not all was well and Cooke was warned to avoid overextending himself and the firm when his partner, investment banker Harris C. Fahnestock said quote: “Under no consideration must you allow your pride or interest in the company to place us in a position of even possible complications with its troubles,” end quote. Fahnestock’s warning would fall on deaf ears. 

As the impacts of the European market crash hit the United States, it was railroad companies that were hit first. By September 1873, the Northern Pacific Railway company was facing bankruptcy. Trying to buy time and get to a place where the company would turn a profit, Jay Cooke continued to pour money into the railroad, going into tremendous debt to cover the company’s losses. Cooke tried to secure solvency through securing a short term government loan - but even that option proved to be unavailable. The dominoes all fell into place on the morning September 18, 1873 when Fahnestock ordered the New York office to shut its doors - admitting to the public that the company was broke and would not be able to pay its liabilities. Before the forced closure of his banking firm, Jay Cooke enjoyed a reputation as a reliable commodity who could be trusted to turn a profit. Sure, other businesses were failing, but Cooke had a long, trusted history of being a smart and profitable businessman. He had raised hundreds of millions of dollars and was a trusted government dealer in the bond market. If Cooke could fail, what did that mean for the rest of the U.S. economy?

And so, a panic ensued. Thanks to what scholars describe as a perfect storm, the singular failure of Jay Cooke ricocheted throughout the country. A combination of limited cash and the inability to raise capital through the issuance of bonds for the always risky railroad business, there was nothing left for Cooke to do other than to file for bankruptcy - both for himself and his company. Banks both big and small soon followed suit, forced to shut their doors as one after another failed and the availability to credit all but disappeared. Worried about the ramifications of one of the largest, most trusted financial firms going under, the New York Stock Exchange shuttered its doors on September 20th and did not re-open for another ten days - the first time in its history. Big businesses begged for Congress to come to their aid, which they did by asking the treasury to inject money into the economy through buying up bonds and reissuing greenbacks. While the initial catastrophic pain was over in a few months, the ramifications of the panic would be felt throughout the country for years to come. 

Over the next three years, 50% of railroad companies went into receivership. Construction on the rail all but dried up for the remainder of the decade which had a domino effect impacting other industries, including steel and iron whose demand dropped by 45%. The panic also resulted in the first prolonged period of business contraction in the nation’s history and several economists refer to the panic as a prolonged depression. Wages for American workers collapsed and thousands lost their jobs, especially in the coal and iron strongholds in Ohio, Illinois, and Pennsylvania. By the winter of 1873, 25% of New York’s labor force - roughly 100,000 people - were laid off. This included former civil war soldiers who, without work or any access to a consistent source of income or pension, became homeless. The demand for relief - the precursor to what contemporary audiences might recognize as cash assistance or welfare - exploded as thousands of the unemployed begged for a helping hand. 

Overseas the situation was just as dire. As the financial markets collapsed, many took to blaming their Jewish neighbors for the economic downturn, causing a rise in antisemitism throughout Europe. Back in the United States, labor unrest due to low wages and poor working conditions kicked off a series of protests and demonstrations from average Americans angered at the situation, including The Tompkins Square Riot in New York in January 1874. National unemployment hit a terrifying 14% and the country seemed unable to figure out a way through the economic crisis. Legislators in Congress debated about the root cause - and their arguments were colored based on their view of U.S. monetary policy - soft money supporters, or those who believed that the government should continue to utilize greenbacks - believed the problem could be solved by paying a portion of wartime issued bonds with paper money and that the root issue was a matter of insufficient amounts of paper currency available for the general public. Hard money supporters, however, were convinced that the true cause behind the panic was over speculation. If the country returned to the gold standard, they reasoned, the situation would correct itself. 

Despite these debates, Congress proposed no new economic policy but did introduce an inflation bill which called for $64 million in greenbacks to be added to the currency already in circulation. President Grant - who tended to side with hard money supporters - vetoed the bill. Economic downfalls almost always impact the party in power and the republicans were no exception. When it was time for voters to make a choice in the elections of 1874, it was the Democrats they chose. The Democrats regained control of the House, winning 180 seats, a pick up of 92. As historian Nicolas Barreyer argued in his analysis of the panic quote, “republicans translated the crisis into the money question and proved utterly unable to convince voters they were doing anything meaningful to solve the problem,” end quote. But despite gaining a majority, the Democrats also seemed unprepared to deal with the economic crisis. Again from Barreyer, quote “the economic disaster did not spark fresh thinking, but hardened old thinking,” end quote. Barreyer takes his argument one step further, claiming that the drama of the presidential election in 1876 was at least partially triggered as a result of the Panic of 1873 and Congress’ inability to alleviate the suffering of the average American. 

Several scholars point to the Panic of 1873 as the beginning of the end of Reconstruction. Once Democrats regained the House in 1874, bills focused on Reconstruction and efforts to enforce Reconstruction-era legislation slowed to a trickle. Other scholars see the Panic of 1873 as the seeds that helped make the Gilded Age possible. In his analysis of the Panic of 1873, Scott Reynolds Nelson observed quote, “For the largest manufacturing companies in the United States, those with guaranteed contracts and rebate deals with railroads, the panic years were golden,” end quote. Future magnates likes Andrew Carnegie, John D. Rockefeller, and Cyrus McCormack took advantage of the economic crisis to nurture and grow their business. They each benefitted from owning their sources of capital and did not need to rely on short term loans from their local banks, allowing them to focus on expanding their empires and overtaking the market. 

Despite the fact that bankers and investors all agreed they would avoid over-extension in the future, this lesson was all but forgotten by the early 2000s when big banks began to mirror the investment choices of their ancestors. In comparing the financial crises of 1873 and 2008, Scott Reynolds Nelson wrote quote, “in the aftermath bankers insisted that they would never again do this, but this is precisely what the structured investment vehicles of Bank Of America, Nations Bank, and others were doing in the 2000s with their collateralized debt obligations,” end quote. 

The Panic of 1873 sent shockwaves throughout the United States and was the first economic crisis that was a product of industrial capitalism. Over speculation in risky investments led to thousands of businesses failing, banks closing, and Americans losing their jobs. Those who managed to stay employed were helpless as their wages plummeted, leading to a period of continued labor unrest throughout the country. The Panic also significantly increased the wealth disparity in the United States as the rich were able to take advantage of the lean times and consolidate their power - helping to launch the period in history known as the Gilded Age. 

Thanks, peeps. I will see you next week.

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