U.S. Bank of Mattress
By Paul Lamont
October 30, 2009
After registering a bear market recovery peak in April of 1930, the stock market rolled over. What happened next has been forgotten, ignored or dismissed by a large number of Great Depression studies. In The Banking Panics of the Great Depression, Elmus Wicker relates: “the high concentration of bank closings in November in the St. Louis District can be traced to the failure of the investment banking firm of Caldwell and Company of Nashville, Tennessee.” According to The Tennessee Encyclopedia of History and Culture; “After the stock market crash of October 1929, Caldwell and Company's position became increasingly desperate. The firm remained afloat largely because it continued to receive state deposits." Wicker describes:
"The beginning of the demise of Caldwell and Co. was heralded on November 7 when the Tennessee Superintendent of Banks recommended that the Bank of Tennessee in Nashville be closed immediately. The bank had deposits of only $10 million and was completely owned and controlled by Caldwell and Co. The Bank of Tennessee was a strange bank. It had no individual deposit customers! It's customers were municipalities and corporations financed by Caldwell. The operations of the bank and Caldwell and Co. were so intertwined that it was difficult to separate the two."
The Tennessee Encyclopedia of History and Culture continues: “This action immediately brought down Caldwell and Company and unleashed runs on other Caldwell-controlled banks across Tennessee. On November 14, 1930, the company went into receivership.” The collapse of Caldwell and Company “had immediate repercussions in four states, namely Tennessee, Kentucky, Arkansas and North Carolina in the Atlanta, St. Louis and Richmond Federal Reserve Districts.” “From the urban centers - Nashville, Knoxville and Memphis - the fear and uncertainty spread..." If the tinder box of bank fears were lit in Tennessee, the fire really caught in Arkansas and later Kentucky:
“Contributing to the failures in Arkansas and Kentucky was the agricultural drought in 1930. The decline in personal income of farm proprietors was more than 50% in Arkansas, Mississippi, Maryland, Louisiana, and Oklahoma. The drought simply accelerated the decline in farmers' income already seriously affected by the Great Depression. The repercussions on the banks were serious. Loans to farmers were uncollectible; farm mortgages were in default thereby increasing the amount of frozen assets making the banks more vulnerable to to failure." The Banking Panics of the Great Depression, Wicker.
The California Dairy Industry: Depression Pressures Cubed
Just as the rollover of the stock market in 1930 revealed economic weakness in the hinterlands, we suspect any sell off today will do some uncovering as well. One of the largest confluence of Depressionary pressures (outside of Detroit) is in California. We don't have to tell you that the real estate bust is hitting the Golden State exceptionally hard. In addition, since July of 2008, the price of milk has fallen to create a nationwide crisis in the dairy industry. The California dairy industry has not escaped the destruction. Take note, because the dairy industry is “the leading agricultural commodity in the state” and “is responsible for nearly $7.39 billion in sales annually and supplies roughly 435,000 full-time jobs for California residents.” Additionally, California (like Arkansas and Kentucky in 1930) is in a drought. Even though the Federal government has recently handed out $350 million nationwide to this industry, that is only one week's worth of feed for a cow. The parallels to 1930 are there. Since California is the world's 5th largest supplier of food and agricultural commodities, this bears watching.
Ben Bernanke's Theoretical Solution
Ben Bernanke has described the early 1930s as “the virtual shutting down of the U.S. banking system” which “deprived the economy of an important source of credit and other services normally provided by banks.” Odd, that if providing credit was so important, why is the Fed going to let CIT go into bankruptcy?
And while Ben Bernanke has the theoretical solution to the Great Depression:
"The Federal Reserve had the power at least to ameliorate the problems of the banks. For example, the Fed could have been more aggressive in lending cash to banks (taking their loans and other investments as collateral), or it could have simply put more cash in circulation. Either action would have made it easier for banks to obtain the cash necessary to pay off depositors, which might have stopped bank runs before they resulted in bank closings and failures."
Reality, as he admits, is an entirely different thing: "Moreover, most of the failing banks were relatively small and not members of the Federal Reserve System, making their fate of less interest to the policymakers." We will see if policymakers are willing to test Ben's theory and provide more bailouts or keep their jobs in 2010.
The Hoarding of Cash
We disagree with Ben that providing more cash to banks will stop runs. First, let us quote Murray Rothbard on his description of the banking failures of the Great Depression. Rothbard states:
"After Fed inflation led to the boom of the 1920s and the bust of 1929, well founded public distrust of all banks, including the Fed, led to widespread demands for redemption for bank deposits in cash, and even of Federal Reserve notes in gold. The Fed tried frantically to inflate after the 1929 crash, including massive open market purchases and heavy loans to banks. These attempts succeeded in driving interest rates down, but they foundered on the rock of massive distrust of banks. Furthermore, bank fears of runs as well as bankruptcies by their borrowers led them to pile up excess reserves in a manner not seen since before or since the 1930s."
In our view, it is the distrust of banks and the hoarding of cash (in a word, fear) that is the driver of bank runs. Provide more cash to the banks and you are providing more scary news reports to the media. Likewise, we view headlines like these as very troublesome:
Yes, the FDIC insurance is backed by the full faith and credit of the United States government (or the printing presses). Even though the FDIC insurance guarantees that you will get your money back if a bank fails, it does not guarantee that banking runs will not collapse the leverage in the fractional banking system. Meaning: bank assets (mortgages, distressed properties, Treasury Bonds) can be sold at fire sale prices in a panic. And since consumers are just as dependent as the banks on asset prices rising, the reverse wealth effect can occur. A Depression is not prevented. Remember insured depositors ran on IndyMac, even after the FDIC took over. As the J.G. Wentworth TV commercial says: “It's my money and I need it now.” Fearful bank depositors will not be satisfied until they are softly sleeping on their U.S. Bank of Mattress.
Stocks That Multiply
As we mentioned last September, livestock could become a profitable place in the coming years. Apparently Warren Buffet agrees. He described his recent acquisition of a hog product firm as a ‘lucky day’ for Berkshire Hathaway. According to a Department of Agriculture report last month, hog breeding herds are at the smallest size in at least 36 years. Cattle are just as scarce. As Beef magazine describes:
"In 2009, there are fewer than 32 million beef cows – the
smallest inventory since 1964. The recent decline has been the
sharpest drop in
beef cow numbers since the mid-1990s, when financial losses were widespread among cow/calf producers. Interestingly, the current beef cowherd is generating the smallest U.S. beef calf crop that has occurred in 5 decades, which will likely result in stagnant or reduced beef production as well.'"
We expect good things out of the livestock industry after this slaughter has finished.
“Opportunity is missed by most people because it is dressed in overalls and looks like work.” - Thomas Edison.
As we mentioned in last month's Acapulco Cliff Dive, the U.S. Dollar carry trade (weaker dollar, strong assets) was driving all things. A reversal would produce a stronger dollar and sharp sell-offs across the board. It would then be highly probable that the bear market rally since March would be over. We continue to recommend that investors protect principal.
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