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The Origins of the Federal Reserve

By Motley Fool Staff - Apr 4, 2016 at 9:05AM

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The Federal Reserve, like most changes to the financial regulatory landscape, came about as a result of a crisis.

It's fair to say that two of America's leading financial entities can trace their roots to the Panic of 1907. The first is the Federal Reserve, which came about after bankers and citizens tired of the recurrent panics and financial crises of the Gilded Age, during which the United States suffered crises an average of once every six years. The second is Bank of America (BAC 3.39%), which was founded in 1904 but really gained prominence following the San Francisco earthquake and fire in 1906 – which, coincidentally, served as the spark for the Panic of 1907.

The Motley Fool's Gaby Lapera and John Maxfield discuss this in the video below, explaining how this unfolded to produce the Federal Reserve as well as Bank of America, which is today the nation's biggest bank in the United States.

A transcript follows the video.

This podcast was recorded on March 28, 2016. 

Gaby Lapera: These guys are chugging along, just fine. Then there's a major catalyst. In 1906, there was an earthquake that devastated San Francisco. The problem is, a lot of San Francisco, the people that insured them, they were in New York. Suddenly, they get this rush of insurance claims and all this money is going out of New York and people are starting to get worried like, hey, am I going to be able to keep my money in the bank? This is kind of the catalyst that ended up creating the Federal Reserve.

John Maxfield: That is exactly right. 1906 you had this horrible earthquake. Even worse than the earthquake was the fire that started afterwards. I don't know who collects these statistics and I don't know how it's possible to be accurate, but I have read that the fire that followed the San Francisco earthquake in 1906 destroyed two-thirds of that city. All those buildings, they had insurance on them. That caused this huge outflow of money from the system which then triggered another banking panic. J.P. Morgan gets together again, James Stillman, who gets together with George Baker and these guys do their normal thing. They come together, they pool all this money. They are able to stop the panic this time. The American people after ... This was now 40 years where you basically have either a financial crisis ...

Lapera: It was a roller coaster.

Maxfield: I'm sorry what was that?

Lapera: It was a roller coaster, economically speaking, for the United States.

Maxfield: Yes. Total nightmare right?

Lapera: Just constant. Imagine being on a roller coaster for 40 years with your money and that's what was happening in the United States.

Maxfield: Yeah. Once every six years a depression or financial crisis. What a total nightmare. Anyways, it was at that point that the bankers with some senators got together and said, look we have got to do something about this. That is really where the origins of the Federal Reserve come from. Just kind of a side not on this, on the San Francisco earthquake ... Bank of America. When you look at the origins of Bank of America, it traces its roots back to 1904 when a guy by the name of A.P. Giannini founded the bank. But he didn't found it as the Bank of America, no. He founded it as the Bank of Italy. The reason the Bank of Italy was able to get so much traction so quickly, besides the fact that Giannini was a respected guy in the San Francisco business community, was the fact that after that great fire, he opened up shop. He went to his vault, took all the money out, and literally set up a table outside and started his bank, giving loans and taking deposits once again. He was really the first bank in that area to get up and going again.

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