The Chicago Plan: A More Ambitious New Deal

kernals12

Banned
The Chicago Plan was a Depression era proposal for banking reform backed by several prominent economists at the University of Chicago. Its cornerstone was a requirement for demand deposits to be 100% backed by cash or government bonds. It was never implemented and makes for an interesting POD.

June 16, 1933- Washington DC
President Roosevelt signed the Banking Act of 1933, also known as the Glass-Steagall Act. It was a landmark act imposing extensive reforms on America's imploding financial system. The most important change, which fundamentally shifted the nature of banking in the US, was the end of the fractional reserve system, where bank deposits could be withdrawn on demand even if most of the money in said account had been loaned out. This system had the flaw where a large number of withdrawals could not be met by the bank and so the bank would fail. The panic at the prospect of the bank not having the money would cause depositors to rush to pull their money out, creating a self fulfilling prophecy. This process had wiped out thousands of banks, and depositors' savings in 4 years.

But now, things would be different. Working off the ideas of the University of Chicago economist Irving Fischer, banks would always need to have enough reserves to cover all of their demand deposits, either in the form of Federal Reserve credits or treasury bonds. Savings accounts now required a one week notice of withdrawal. Another major change was the great expansion of the Postal Savings system. The $2500 limit on deposits was abolished and checking privileges were added, allowing the Post Office to fully compete with banks. Branch banking was also legalized, overriding the laws in most states that banned banks from having more than one office.

The law lifting the cap on postal deposits went into effect the next day. Checking privileges would not arrive until June 1934, as the Post Office needed to set up the bookkeeping and security systems required for it. Even so, people put their money into the Post Office en masse. And as the cash from the Post Office was added to the Federal Reserve's balance sheet, the same money was then used to provide liquidity to private banks in the form of interest bearing perpetual loans. By 1935, some 70% of America's saving and checking deposits were at the Post Office, and the Federal Reserve now was the creditor to almost every bank in the country.

Now the Fed needed to get these Discount loans off its balance sheet, the plan being to put the cash into treasuries. They encouraged the borrowing banks to issue stock or corporate bonds. They also solicited large institutional investors such as life insurance companies, investment trusts, and pension funds.

Life insurance companies were especially crucial. With the Fed buying their treasury bonds, they needed something to do with their cash, so why not lend it out? MetLife purchased no less than 100 banks, rebranding them as MetLife Bank. Now their policyholders' money would be used to underwrite mortgages, commercial loans, and consumer credit. Large industrial concerns such as General Motors, Internation Harvester, Westinghouse, and IBM purchased banks to provide in-house credit facilities to their customers.

And the big banks adjusted. Chase Manhattan issued $100 million in stock in 1935 to open thousands of branches across the country that would offer time deposits and sell loans.

The proceeds from the bank sales netted the Fed $35 billion, higher than the entire national debt. Congress opted to burn through the windfall to stimulate the economy. In 1936, inspired by the autobahn under construction in Germany, work on a 40,000 mile system of six lane interstate highways started. There were plenty of other projects: the long proposed St Lawrence Seaway, the moving of Chicago's El-trains underground, a 10 square mile extension of Manhattan island, and a series of garden cities that provided the peace and quiet of country life with easy access to downtown areas. By 1937, the Depression was over and unemployment stood at a mere 3%.

America's financial system went from being the least stable to the most stable in the world. It was indifferent to banking crises that swept the world in the early 90s and late 2000s with minor economic impact. Reckless lending would simply result in a drop in bank stock prices rather than in runs.

The Postal Savings system, later renamed Postal Bank, would withstand the test of time well. When America went to war in 1941, it was crucial in financing the cost of it. And over the decades, many new innovations were added:
1945- The Giro service was introduced, common in Europe, it allowed much faster payments than checks because transfer was initiated by payer rather than payee
1953- The Postal Bank entered the electronic age with the acquisition of a UNIVAC computer. This device allowed rapid, precise calculation of interest owed on accounts
1969- The first Postal ATM machine was opened in New York City
1974- The Federal Automated Clearinghouse System began operations, supporting services such as automatic bill payment, direct deposit, and electronic debit card payments
1982- It became possible to find account balances by telephone
1994- usps.com launched, allowing customers to access their accounts by computer
2009- The Postal Bank launched its first mobile app, allowing payments by smartphone
 
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kernals12

Banned
The reason why we call paper currency "banknotes" is that once upon a time, such bills were issued by banks. But in the 19th century, governments banned it and created monopolies on printing money. But this didn't apply to account balances which created a gaping loophole. As such, the Chicago Plan merely closes that loophole.
 
Seems likely to send the country deeper into depression as lending contracts and everyone pulls their money out of their accounts NOW before they have to give a week's notice, stranding them without cash in an emergency.
 
One of the problems with the Great Depression (and other recessions), which was Keynes' great insight, is that money isn't moving around the economy enough. Deposit regulations like this would only exacerbate this problem, deepen the Depression and, no doubt, lead to whichever government was in power being thrown out at the next election.

Not, of course, that this is such a terrible idea but there you go... I'd be interested to see a TL of wall street based on this though.
 

kernals12

Banned
Seems likely to send the country deeper into depression as lending contracts and everyone pulls their money out of their accounts NOW before they have to give a week's notice, stranding them without cash in an emergency.
The Fed can provide as much liquidity as needed to keep lending going. And back in those days, people always kept some money on them, they didn't exactly have debit or credit cards.
 
The Fed can provide as much liquidity as needed to keep lending going. And back in those days, people always kept some money on them, they didn't exactly have debit or credit cards.

Some money yes. But what if my car broke down and it needs to be repaired, or my son was sent to the hospital or my brother needs to be bailed out or...? You would be SOL because you need a week's notice.
 

kernals12

Banned
Some money yes. But what if my car broke down and it needs to be repaired, or my son was sent to the hospital or my brother needs to be bailed out or...? You would be SOL because you need a week's notice.
I assume people would simply adjust by putting more money in their checking accounts.
 

kernals12

Banned
Then what is the point of the one week notice? If people put all their money into checking (The logical thing to do under those laws) why not ban saving accounts altogether?
Checking Accounts are a place to keep your money conveniently
Savings Accounts are a place to keep your money so that it earns interest
 
Checking Accounts are a place to keep your money conveniently
Savings Accounts are a place to keep your money so that it earns interest

What is the point of the bank paying interest if it can't loan out the money? If you are backing every deposit dollar for dollar you have none of that money to loan out, by definition. So why are you paying interest?

Most likely you are charging people money to keep in your bank as vault space costs money. Another reason for people not to put money in the bank.
 

kernals12

Banned
What is the point of the bank paying interest if it can't loan out the money? If you are backing every deposit dollar for dollar you have none of that money to loan out, by definition. So why are you paying interest?

Most likely you are charging people money to keep in your bank as vault space costs money. Another reason for people not to put money in the bank.
I did say the money could be put in Treasury Bonds, which do earn interest.
 
I did say the money could be put in Treasury Bonds, which do earn interest.

Which helps the government, not individuals. If they have to back every dollar they have on account they have zero to loan out. If they have to have $100 in cash to cover my $100 deposit they can loan exactly 0% of it out. So why are they giving me dime one in interest? It is actually costing them money in allowing me to deposit money with them. After all my cash has to be put into a vault, it has the accounting expense of keeping track of it etc. The only way the bank is going to profit by me depositing money in it is by charging me for depositing money there. Nothing else makes sense..
 

kernals12

Banned
Which helps the government, not individuals. If they have to back every dollar they have on account they have zero to loan out. If they have to have $100 in cash to cover my $100 deposit they can loan exactly 0% of it out. So why are they giving me dime one in interest? It is actually costing them money in allowing me to deposit money with them. After all my cash has to be put into a vault, it has the accounting expense of keeping track of it etc. The only way the bank is going to profit by me depositing money in it is by charging me for depositing money there. Nothing else makes sense..
Treasury bonds are almost as liquid as cash, so they could serve as backing, and the interest earned on them could cover the costs.
 
Treasury bonds are almost as liquid as cash, so they could serve as backing, and the interest earned on them could cover the costs.

Except why are the banks doing so? For the public good? I don't see why banks wouldn't charge for deposits when they can't loan out the money. They can buy treasury bonds without taking any deposits, they are totally unrelated.
 

kernals12

Banned
Except why are the banks doing so? For the public good? I don't see why banks wouldn't charge for deposits when they can't loan out the money. They can buy treasury bonds without taking any deposits, they are totally unrelated.
You are being deliberately obtuse. It's very simple: Someone deposits $1000, the bank takes the $1000 and buys treasury bonds. The interest earned on the bond goes to the depositor.
 
You are being deliberately obtuse. It's very simple: Someone deposits $1000, the bank takes the $1000 and buys treasury bonds. The interest earned on the bond goes to the depositor.

No, it goes to the bank. The bank was the party that bought the bonds, not the depositor.
 

kernals12

Banned
One of the problems with the Great Depression (and other recessions), which was Keynes' great insight, is that money isn't moving around the economy enough. Deposit regulations like this would only exacerbate this problem, deepen the Depression and, no doubt, lead to whichever government was in power being thrown out at the next election.

Not, of course, that this is such a terrible idea but there you go... I'd be interested to see a TL of wall street based on this though.
The impact of this need not be disruptive. Banks could still make loans out of cash provided by the Federal Reserve and with enough Government spending on public works, the economy would still recover from the Depression.
 
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