Panic of 1893 - Business in United States of America
The Event: Stock market collapse following the failures of the Reading Railroad and the National Cordage Company
Date: February-May, 1893
Significance: The Panic of 1893 marked a major shift in investment techniques, as investors began to place more money in stocks than in bonds.
Newspaper illustration depicting the panic in the New York Stock Exchange on May 5, 1893. (Library of Congress)
The economic climate surrounding the Panic of 1893 was unique. Most of the United States’ financial panics were precipitated by inflation caused by investors speculating in one or more industries. Markets collapsed and panics ensued when this speculation caused securities to become dramatically overvalued. Credit proved difficult or impossible to obtain, and repricing the assets that underlay the overvalued securities took more time than investors expected. Some investors were left holding securities that proved to be essentially worthless, because the companies holding title to the assets had filed for bankruptcy; only investors with extraordinarily deep pockets could work their way through these price adjustments.
By contrast, between the end of the U.S. Civil War in 1865 and the early 1890’s, the United States experienced a long period of monetary deflation, so securities were not overvalued in 1893. The immediate cause of the Panic of 1893, rather, was the necessity of refinancing America’s railroads. The vast expansion of America’s railroads after the Civil War had required sums that could not be generated from the profits of the railroad companies themselves. The railroads amassed the huge sums required to build more tracks and buy more engines and other equipment by issuing bonds, whose interest rates were fixed.
The United States was operating on the gold standard during the 1890’s. Thus, while the demand for money was growing rapidly, the money supply was fixed by the amount of gold in the reserve. As a result, prices declined. Increasingly, the railroad companies found themselves with over expanded lines that did not generate enough returns to pay the interest on their bonds. The companies began to default on their bonds. Between 1893 and 1897, companies owning about one-third of the railroad mileage in the United States passed through bankruptcy. This enabled them to free themselves from the obligation to pay interest on their bonds, and those that were viable recapitalized, mostly by selling stock (which carried no commitment to make fixed regular payments).
A significant number of those who had purchased railroad bonds were foreign investors. When the companies defaulted on their obligations, America’s reputation as a good place to invest suffered significantly. Those who had strong financial backing—financiers such as J. P. Morgan and Edward H. Harriman—were able to take over the companies and to reorganize them. Many foreign investors withdrew funds from the United States, however, and they insisted on being paid in gold, placing a heavy strain on the U.S. gold supply. Many banks, especially smaller banks in the South and West, lacked enough gold in reserve to repay these investors, and they went bankrupt as a result. These bank failures wiped out the savings of many small businessmen and particularly farmers, who still constituted a substantial portion of the U.S. population. Those banks that survived stopped making loans, which also harmed farmers, because they lacked the cash to finance their operations until the fall harvest. Thus, many farms also went bankrupt.
Many Americans believed that the central cause of these problems was the lack of sufficient gold. Since the Civil War, there had been no major additions to the nation’s gold supply, but the nation’s economy had nevertheless continued to grow. Many people believed that the solution to the problem was to convert from a gold standard to a bimetallic system in which currency was supported by silver as well as gold. The requirement that loans be repaid in gold had been halted during the Civil War, when the government had issued the famous "greenbacks” as legal tender. In 1875, Congress decided that "species redemption,” the ability of banks to require that loans be repaid in gold, would be resumed in 1879.
Meanwhile, the issuance of paper money was very restrained, so there was very little inflation. In 1879, a $1 paper note was worth about $1 in gold. In 1878, Congress had ordered the Treasury to buy a specified amount of silver and create silver coins with it. Congress tried to increase the amount of silver the Treasury was required to buy in 1890, but in 1893, President Grover Cleveland persuaded Congress to repeal the requirement, causing the gold holdings of the Treasury to drop to a new low.
The bankruptcy of railroads and numerous other firms continued. Many people had depended on the interest payments on railroad bonds. The crisis harmed them both directly and indirectly, as it dampened financial institutions’ willingness to lend. Under these circumstances, company financing shifted from bonds to stocks, which were traded much more heavily on the New York Stock Exchange than had hitherto been the case for bonds. Many trusts (essentially banking holding companies) were created, further consolidating control of the American manufacturing sector.
Nancy M. Gordon
Cochran, Thomas C., and William Miller. The Age of Enterprise: A Social History of Industrial America. New York: Macmillan, 1960. Highly useful synthesis of the economic developments in the United States.
Engerman, Stanley, and Kenneth Sokoloff. "Technology and Industrialization, 1790-1914.” In The Cambridge Economic History of the United States, edited by Stanley Engerman and Robert Gallman. Vol. 2. New York: Cambridge University Press, 2000. Overview of the influence of modern technology and industrial culture on U.S. economic history.
Kindleberger, Charles, and Robert Aliber. Manias, Panics, and Crashes: A History of Financial Crises. 5th ed. Hoboken, N.J.: John Wiley & Sons, 2005. The classic treatment by longstanding specialists in the field; more analytical than chronological.
Martin, Albro. Railroads Triumphant: The Growth, Rejection, and Rebirth of a Vital American Force. Oxford, England: Oxford University Press, 1992. Popular account that is loaded with many details.
Neal, Larry, and Lance E. Davis. "Finance Capitalism and the Second Industrial Revolution.” In Financing Innovation in the United States, 1870 to the Present, edited by Naomi Lamoreux and Kenneth Sokoloff. Cambridge, Mass.: MIT Press, 2007. Significant study of the process of financing America’s industrial sector.
Rockoff, Hugh. "Banking and Finance, 1789-1914.” In The Cambridge Economic History of the United States, edited by Stanley Engerman and Robert Gallman. Vol. 2. New York: Cambridge University Press, 2000. Good, comprehensive history of the economic development of the United States.
See also: bond industry; Business cycles; Panic of 1819; Panic of 1837; Panic of 1857; Panic of 1873; Panic of 1907; stock markets.