The Development of Modern Banking Chapter 11 Section 3

Development of Modern Banking Banks fulfill two distinct needs: They provide a safe place for people to deposit their money, and they lend excess funds to individuals and businesses temporarily in need of cash. This can only happen if the nation has a strong banking system. The Constitution makes no mention of banking--banking rules come from Congress’ commerce powers

Revising the Banking System National Banking Act (1863): strengthened the nation’s financial system by creating a system of national banks By 1907 the NSB needed further reforms as the nation experienced financial crises and recessions

The Federal Reserve System AKA: “the Fed” The nation’s 1st true central bank A bank that lends to other banks in need All national banks were required to join State chartered banks were eligible Had to purchase stock in the system Created by Congress in 1913

The Federal Reserve System Privately owned banks own the FED not the government Banks buy in to the FED and the FED tells them what to do. FED is publicly controlled The president appoints and Congress approves the FED’s Board of Governors Federal Reserve notes Paper currency issued by the Fed that eventually replaced all types of federal currency 1914: notes were back by gold 1934: notes became inconvertible fiat money

Banking during the Great Depression Banks were overextended during 1920’s Many failed after the Great Depression Banks did not have deposit insurance for their depositors A run-on-the-bank: a rush by depositors to withdraw their funds from a bank before it failed March 5, 1933: Roosevelt declares a bank holiday (every bank was required to close)

Banking during the Great Depression Banking Act of 1933 (Glass-Stegall Act) FDIC ( Federal Deposit Insurance Corporation) Insured customers deposits in the event of bank failure Max. covered today $100,000 per customer Today also protects from fraudulent banks

Other Depository Institutions Savings Bank Mutual Savings Bank (MSB): a depositor-owned financial organization owned and operated only for the benefit of its depositors Transformed into Savings Bank Credit Union: non-profit service cooperative lesser fees share draft accounts

Other Depository Institutions Savings & Loan Association: a depository institution that invested the majority of its funds in home mortgages 1930’s: Federal Home Loan Bank Board began supervising and regulating savings and loan associations Similar to the FDIC

Crisis and Reform Deregulation led to more competition Could offer NOW accounts a checking account that pays interest All depositories could borrow from the FED, not just commercial banks Led to crisis among savings and loans associations Several bad loans = S&L out of business Fewer federal inspections = increased fraud

Crisis and Reform The Financial Institution Reform, Recovery, and Enforcement Act Abolished independence of the S&L industry FSLIC (Federal Savings and Loan Insurance Corporation) was dissolved FDIC took over S&L survived the crisis

Crisis and Reform 1980’s More bank failures due to poor management Made loans w/o adequate collateral Others failed to keep expenses under control Some fell victim to the weak economy 1990’s Years of caution after the 80’s Stronger federal regulations were enacted All financial institutions were required to strengthen their capital reserves Banks merged with stock and security brokerage firms 2000 Financial institutions were healthier