Rocky Start

We turn now to some unusual events, which are laid on top of the general economic backdrop. The first is the disastrous San Francisco Earthquake of 1906. The loss of property and lives is twice that of the Great Chicago Fire.

The cost of rebuilding adds to existing financial stress, sending the economy into a two-year recession. There are many contributing factors, including a big Wall Street deal gone bad, and financial complications in London.

The Stock Market finally drops in 1907, triggering a financial panic that takes down many banks. Calm is restored when J.P. Morgan steps in, reassuring investors. It's a miraculous recovery, but also a warning.

Congress eventually responds by creating the National Reserve banking system in 1913, with 12 huge regional banks to act as a kind of national bank, and help fend off future panics. The IRS is created at the same time.


	Economic Body Blow The Great San Francisco Earthquake is the worst financial and humanitarian catastrophe since the Civil War, nearly wiping the city off the map. Three-quarters of San Francisco residents are suddenly homeless. Like Chicago, however, San Francisco bounces right back, rapidly extending business connections south to Los Angeles. Just a year later, New York manages to stave off panic when America's leading industrial financier, J.P. Morgan, takes control of a rapidly deteriorating situation to stabilize markets, and end a banking panic.



	Catastrophic Destruction These views give some idea of the extent of destruction during the San Francisco earthquake.


	Birds-eye View Airplanes barely even exist when the earthquake hits. This photograph, taken from a camera suspended from a kite, shows a sprawling business center reduced to rubble.


	Dodging a Bullet The Panic of 1907 is similar to previous panics (in 1893, 1873, 1857 and 1837) in that large numbers of banks and businesses fail. It's different in that New York now has a financial elite with enough resources to halt the breakdown. As a result, the panic is much shorter than previous episodes. Still, it shows that fluctuating business conditions can unexpectedly erupt into crisis at any time. Beyond that, it highlights the need for a national bank big enough to provide financial relief, should smaller regional banks begin to falter. The question is how best to prevent normal economic slumps from escalating into a needlessly destructive panic.


	Fluctuating Conditions The basic problem is that business conditions fluctuate wildly over time. Prices for relatively stable commodities, like coal and iron, still vary greatly from one year to the next, and even within a given year. The chart at top left shows that the high price for iron in 1899 is double the low price for the same year. Prices for farm crops like corn and wheat vary over somewhat greater ranges (chart at lower right). There are many factors causing price variations, including weather and earthquakes. Beyond that, European investors own considerable stakes in American stocks and bonds. Events in Europe periodically cause Europeans to sell some of these assets, which affects prices in America. Taming this wild beast will not be easy.


	Stopping Panics So-called 'national' banks date back to the Civil War. They operate under conservative rules, but are still not coordinated. Each bank acts on its own, and panics continue to occur with regularity. After the Panic of 1907, Congress takes bolder action, creating the Federal Reserve. This is a system of 12 so-called 'federal' banks (though not actually owned by the government) that are supposed to coordinate their actions, producing something resembling a true national bank. The first Federal Reserve notes are issued in 1913, and continue to be used today. In the same year, a newly-ratified amendment to the Constitution allows the collection of tax on personal and business income, for the first time. The IRS is created to handle the accounting.