Episode 27 - The Twelve Cities, Part II
Welcome to The Bankster Podcast. I’m your host, Alexander Bagehot. Every episode we dive into what I call The Centralverse! The incredibly fascinating and ever more consequential world of central banking. This is Episode 27 - The Twelve Cities, Part II.
On the last episode we began our two part series on the Federal Reserve Districts by describing the unique role that each district Reserve Bank plays in getting physical money from the US government’s printing presses into your hands. We discussed the location and interpretation of the letter and number on the physical money that show which of the twelve Reserve Banks issued the money.
On today’s episode we are going to continue the conversation of the Reserve Cities by taking a step back in history. In fact, we are going to go back 104 years ago - almost to the day. See, the Federal Reserve Act was signed into law by Woodrow Wilson on December 23, 1913. But the Fed didn’t open it’s doors the next day because (well it was Christmas Eve) but besides that, because there were still a few things that needed to be ironed out.
The Act declared that a committee was to be formed. This committee was to be called, the “Reserve Bank Organization Committee”. Not very creative but wonderfully precise. This committee would begin work just three days after the Act was signed, on December 26, 1913. They would present their decision on April 2, 1914 - just 97 days later.
On this episode of The Bankster Podcast I’m excited to share the story of this rather boringly named yet critical committee and how they literally shaped the Federal Reserve - a shape that has endured, virtually unchanged for over a century.
History of the Twelve
The first section of the Federal Reserve Act contains just a few paragraphs worth of definitions and titles. The Act then turns to the first order of business for the new Central Bank of the United States - you might call it, “An important first step before we can get this whole Central Bank idea up and rolling.” Section 2.1 says the following, “As soon as practicable, the Secretary of the Treasury, the Secretary of Agriculture and the Comptroller of the Currency, acting as ‘The Reserve Bank Organization Committee,’ shall designate not less than eight nor more than twelve cities to be known as Federal reserve cities, and shall divide the continental United States...into districts, each district to contain only one of such Federal reserve cities.”
The three gentleman assigned with the task of choosing these reserve cities were: Treasury Secretary - William G McAdoo (a California progressive politician who would play a major role in funding the Allies war efforts in World War I), Agriculture Secretary - David F Houston (an Academic who had been the President of the University of Texas, in Austin), and Comptroller of the Currency - John Skelton Williams (a former railroad executive).
So it fell upon the shoulders of these three men to select the newly created Federal Reserve’s bank cities. The Act itself had not provided much instruction to the committee in regards to how the districts be drawn. It says, “the districts shall be apportioned with due regard to the convenience and customary course of business and shall not necessarily be coterminous [or align] with any State or States.”
The range of 8 to 12 had been a compromise between the House and Senate versions of the original Federal Reserve Act. And by the way, if you want to read about a President that truly put his full weight behind a bill, I encourage you to look into what President Woodrow Wilson did to get the Federal Reserve Act passed. Months of courting individual congressmen and senators, months of legislative compromises, and even refusing to let Senators begin their Christmas holiday until they had passed him a bill. Anyways, if you want a book suggestion, I highly recommend Roger Lowenstein’s America’s Bank, an excellent history of the battle to create an enduring US central bank.
Ok, back to the committee deemed with picking the Reserve Bank cities. An exceptional article by an Economics Professor at the University of Hawaii, David Hammes, published an article about the work of the Reserve Bank Organization Committee, and I’m going to let him describe a little bit of the process that the committee went through in choosing the cities.
“They set an ambitious itinerary of cross-country travel, starting in New York City Jan. 5, 1914, and ending in Cleveland February 17, 1914, to take testimony on the location of district cities and district boundaries. This resulted in upwards of 5,000 pages of testimony taken in 18 cities from over 300 individuals.”
But traveling the country and gathering anecdotal testimony was not the only approach that the Committee took. Professor Hammes continues, “Simultaneously, the Treasury Department sent ballots to the 7,471 nationally chartered commercial banks to assess their preferences as to which city they wanted as their Reserve district headquarters. The ballot allowed for the naming of first, second and third choice.”
So after an exhaustive 7 weeks of travel and data gathering the committee settle down to begin reviewing and narrowing down the options. There were a few cities that were easy decisions. New York, Chicago, and St Louis had been designated as reserve cities by the 1863 National Banking Act.
Additionally, the voting had been aggregated on a county level and the final district boundaries for New York, Chicago, and Philadelphia contained counties that had every county voting for the same city.
In their final report the Committee described 6 guiding principles that they used when choosing the other eight cities and district boundaries. They are a bit wordy, but you are all listening to a podcast about Central Banking so I’m going to take the liberty of assuming you can handle a little bit of wonk. Each principle illustrates an interesting point and it’s fun to think of the twelve districts as they currently stand through the lense of the original creators.
“The ability of the member banks within the district to provide the minimum capital of $4,000,000 required for the Federal Reserve Bank, on the basis of six per cent of the capital stock and surplus of member banks within the district.” - enough banks
“The mercantile, industrial, and financial connections existing in each district and the relations between the various portions of the district and the city selected for the location of the Federal Reserve Bank.” - where were the industrial hubs
“The probable ability of the Federal Reserve Bank in each district, after organization and after the provisions of the Federal Reserve Act shall have gone into effect, to meet the legitimate demands of business, whether normal or abnormal, in accordance with the spirit and provisions of the Federal Reserve Act.” - currency, lender of last resort
“The fair and equitable division of the available capital for the Federal Reserve banks among the districts created.” - all twelve should be relatively equal
“The general geographical situation of the district, transportation lines, and the facilities for speedy communication between the Federal Reserve Bank and all portions of the district.” - easy access to the city
“The population, area, and prevalent business activities of the district, whether agricultural, manufacturing, mining, or commercial, its record of growth and development in the past and its prospects for the future.” - healthy going concern
So now that we’ve covered a background for how the committee chose the cities, you might be wondering, which were they? Well, let’s list them in the order that the Committee assigned them: Boston, New York, Philadelphia, Cleveland, Richmond, Atlanta, Chicago, St Louis, Minneapolis, Kansas City, Dallas, and finally San Francisco.
Now, I’d like to mention just two more points about the district borders. Point number one: there is a persistent theory that comes in and out of popularity with the cycle of the popularity of the Fed. Anyways, I was told this theory in my Money and Banking class in undergrad. My professor told it to us as if it were fact. Here’s the theory: the only reason the Federal Reserve Act passed was because James Reed, a senator from Missouri, switched his vote from no to yes on the condition that two of his state’s cities receive the coveted Reserve Banks. This theory is widely shared and even shows up in a testimony of one of the authors of the Act, Henry Parker Willis, given nearly a decade after the reserve bank cities were chosen. It also shows up in a pretty detailed book by a professor from Missouri.
However, the evidence doesn’t stack up. A number (one, two) of recent academic studies have shown that political favors were likely not a deciding factor in the reserve bank cities. Those six guiding principles that the Committee described, the 5000 pages worth of interviews and testimonies, as well as the bank surveys are sufficient in predicting the locations of the reserve bank cities. One of the academic papers says, “The results confirm that reserve cities were selected systematically upon information claimed by the committee. Proxies for political and personal influence fail to improve the predictive ability of the estimated models.”
The second, and final, point I have to mention is that there were a couple of cities that were especially disappointed and angry that they were not selected. New Orleans and Baltimore were the most vocal in their protests.
The following week, on April 10, 1914 the Reserve Bank Organization Committee released a statement to counter the protests. New Orleans, they said, was not chosen because although the population was the same size as Atlanta and Dallas, the growth rate was much slower. And to the people in Baltimore, the Committee said that they were not chosen because they were too close to Richmond, and Richmond had received more bank votes.
And that’s a wrap for today’s episode. I hope you enjoyed learning about the committee that decided the boundaries and cities for the Federal Reserve System. Their legacy continues, virtually unchanged to this day. Ok, one more final note before we end. I was always told one of the reasons the Fed doesn’t redraw the map to adjust for how the country has changed in the last 100 years is because the Act would have to be amended and that would be too politically risky. However, that is also false. Here’s what the Act itself says about the matter, “The districts thus created may be readjusted and new districts may from time to time be created by the Board of Governors of the Federal Reserve System, not to exceed twelve in all.”
When and if that ever happens is anybody’s guess. For now, the original committee’s decision stands.
Another great resource for the story: http://www.federalreservehistory.org/Events/DetailView/16
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Today’s episode was written, edited, and produced by me, Alexander Bagehot. I dedicate this episode to the Planet Money Podcast team, they’ve been an inspiration to me from the beginning! To the rest of you, thanks for listening! I’m Alexander Bagehot, and I’ll see you next time on The Bankster Podcast!