The Banking Pendulum
As George Bailey in “It’s a Wonderful Life,” Jimmy Stewart faces a bank run. On his wedding day, hoping to save his bank, George first gives out the bank’s cash and then his honeymoon money to a long, agitated line of panicked depositors.
During the bank run, in two sentences, George Bailey summarizes the basics of banking. “You’re thinking of this place all wrong, as if I had the money back in a safe. The money’s not here. Your money’s in Joe’s house … and a hundred others,” George Bailey is referring to a fractional reserve system in which banks keep part (a fraction) of a deposit in reserve and then loan and invest the balance.
Through loans and investments, just as the heart pumps nutrients around the body, banks and other financial institutions pump money around the economy. And, just like we need a healthy heart, we need healthy financial institutions for economic growth. How to maintain healthy financial institutions is a question our Congress has repeatedly had to ask.
I keep thinking of a pendulum swinging back and forth between more and less government regulation. During the 1930s, government regulation increased. In 1980, regulation diminished somewhat as banks needed more freedom to compete in a changing financial environment. In 1999, with the repeal of the Glass-Steagall Act, the pendulum continued its swing toward less government.
Now, where should it go?
The Economic Life
Between the Civil War and the First World War, we had banking panics in 1873, 1884, 1890, 1893, 1896, 1907, and 1914. “It’s a Wonderful Life” looked at the banking panic of the early 1930s. Many banking crises led to reform legislation. Initially celebrated, the reforms eventually failed.