The transmission of the financial crisis in 1907: an empirical investigation

Abstract

Using an extensive high-frequency data set, we investigate the transmission of financial crisis specifically focusing on the Panic of 1907, the final severe panic of the National Banking Era (1863–1913). We trace the transmission of the crisis from New York City trust companies to the New York City national banks through direct and indirect interconnections. Trust companies held cash balances at national banks and these balances were liquidated as trust companies suffered depositor runs. Secondly, trust companies and national banks were notable creditors to the New York Stock Exchange; when trusts were suffering runs, the call loan market on the stock exchange seized. The crisis spread to the interior banks after the New York Clearing House banks restricted the convertibility of deposits into cash. Bond returns were sharply negative in the 2 weeks following the suspension. The suspension of convertibility produced a currency premium, which in turn attracted gold imports from Europe. The New York Clearing House had only limited capability to fight the panic through its use of clearing house loan certificates. The gold imports ultimately restored liquidity to financial markets.