The Tycoons: How Andrew Carnegie, John D. Rockefeller, Jay Gould, and J. P. Morgan Invented the American Supercompany

by Charles R. Morris

  The Accidental Central Banker

  Morgan’s role as de facto central banker for the United States was a consequence of the ignorant destruction wreaked by Andrew Jackson on the superb financial infrastructure bequeathed by Alexander Hamilton. Civil War–era reforms patched over some of Jackson’s depredations, but as America’s economic power mounted, the lack of a central banking authority became both glaring and dangerous. It is testimony to Pierpont Morgan’s immense personal prestige that in two perilous instances of American institutional failure—the gold panic of 1893–95 and the stock market panic of 1907—he was able to assume the role we currently expect of a strong Federal Reserve or SEC chairman, and did so without a shred of legal or institutional authority.

  The gold panic was a case of lagging overseas perceptions of American economic strength, abetted by the dithering of the new Cleveland administration. Foreigners, who had been unnerved by Democratic wavering on the gold standard during the 1892 election, began dumping gold-based railroad bonds after the 1893 Wall Street crash.* Speculative selling increased as U.S. gold reserves plummeted toward the $100 million mark, the minimum safety reserve informally promised upon resumption of specie payments. This was the sort of crisis that competent central bankers could have resolved with a few days of cables—the British had every interest in maintaining the greenback’s convertibility, and the Bank of England could have readily set up defensive credit arrangements to calm investors. The problem was that there was no one to talk to on the American side. The new men at the U.S. Treasury had doubts about their legal authority to act at all, and particularly wanted to be seen as independent of the bankers. Their initial stratagem—to sell gold bonds directly from the Treasury—actually increased the pressure on the gold reserve, since their network tapped primarily domestic buyers who had to convert paper assets into gold before they could take up the new bonds.

  At the outset of the crisis, Morgan privately proposed to the Treasury that he arrange a $100 million gold loan in conjunction with the Rothschilds. He calculated that a loan of that scale would end the speculation, especially if at least half of it were placed abroad. In private, he had considerable misgivings, and his insistence on managing the whole transaction through the two houses reflected his quite reasonable conviction that no other banks could pull it off. The administration refused the offer, proceeding with sporadic measures of its own through 1894, even as American reserves continued their alarming downward spiral.

  The Treasury finally asked Morgan and the Rothschilds for their help early in 1895. After a series of rapid-fire negotiations, Morgan cabled London that he had worked out a salable package. To his shock, he received word the next morning that the Treasury would pass up the deal, preferring to manage the sale on its own. Morgan telegraphed the Treasury that he was coming to Washington and requested that they hold up the announcement. The next day’s scenes are among the most priceless from the Morgan gallery. Cleveland said he wouldn’t see him, but Morgan still bulled his way into the president’s office, where a meeting on the crisis was in progress, and spent most of the day smoldering in a corner, smoking cigars, as dire reports flowed in. Finally in the afternoon it was reported that the Treasury held only $9 million in gold. Morgan gruffly announced that his office held a $10 million gold draft due that day. Were the gentlemen prepared to discuss his proposal?

  The final terms that Morgan hammered out with the Treasury included commitments that any banker would have considered foolhardy—the loan would not only be smaller than he thought necessary but he also promised that there would be no further runs on the gold reserve through the fall, when earnings from crop exports would relieve the pressure. In effect, Morgan was promising to manage the greenback–sterling exchange rate,* which required entering foreign exchange markets to buy greenbacks, or sell sterling, any time the greenback wobbled. This is a classic central bank function—extremely risky for a private partnership with no call on public resources, and an unseemly delegation of government power. The White House’s procrastinations out of fear of appearing in the bankers’ thrall, in other words, had brought matters to the point where the bankers, or at least one them, actually were running American monetary policy. In any event, both the loan and the exchange syndicate were carried off successfully, although not without some strain.

  Twitches of the gold scare persisted through 1896, the summer of William Jennings Bryan’s “Cross of Gold” speech. Morgan brokered another large loan—Cleveland admitted he should have gone for the bigger deal in 1895—and created another exchange management syndicate to keep the greenback steady through the 1896 election. By that point the gold securities sold under duress the year before were commanding such spectacular premiums that the bankers were accused of profiteering.

  In truth, the 1890s attacks on the greenback were the last spasmodic kicks from an ancien régime that had yet to grasp how the fulcrum of world economic power was shifting. America first achieved a goods export surplus when railroads opened up the western grain trade in the 1870s. Export surpluses grew steadily thereafter, but were overbalanced by large investment inflows. But America’s savings were also growing rapidly, so American capital out flows, combined with exports, were gradually pushing the accounts into overall balance. The peak year of the greenback attack, in 1895, marked the last external American deficit until the modern era. During the decade beginning in 1897, the American trade surplus in goods averaged about $600 million a year, while its overall balance—including trade, tourism, services, investment flows, and so forth—consistently showed a surplus of around $400 million. The backlog of foreign claims built up since the country’s inception peaked at $3.3 billion in 1896 and fell steadily thereafter. Within twenty years, Europe needed to come to America to borrow the money to fight its Great War.

  The benevolent figure of Morgan, depicted as a stork, restores fresh confidence to Wall Street after the 1907 market crisis.

  Morgan assumed the management of the gold crisis interventions at a time when he was at the peak of his powers; but the second occasion when he was forced to take command of America’s finances, in the aftermath of the 1907 Wall Street crash, came when he was seventy, semiretired, and in indifferent health. The market break was extremely severe: the year-over-year decline in the Dow Jones average is still the second largest on record. Wags blamed the government for rattling investors: a long-running investigation of New York’s life insurance industry had disclosed disgraceful self-dealing among executives, and Roosevelt was in full-throated cry against the trusts, although his rhetoric was much fiercer than his actions. In fact, a correction was long overdue; the markets had been frothy for several years, buying on margin was overdone, and banks were overextended on brokers’ loans. The absence of meaningful financial regulation—overseeing the quality of bank lending, reining in credit during easy times, checking on the honesty of corporate reports—virtually assured that market swings would be wide and disruptive.

  The 1907 crash cascaded so fast throughout the financial community that it threatened a systemic thrombosis. A number of trust banks came close to failing, several big brokerages were on the brink, there was a run on New York banks, and both the City of New York and the New York Stock Exchange were temporarily insolvent. Morgan was called to take the helm, almost by acclamation, after lesser figures had failed to restore order. For nearly a month Morgan held court in the library of his home on Madison Avenue, acting as chairman of an informal steering committee of himself, James Stillman, head of the National City Bank, and George Baker of the First National. Benjamin Strong, the youthful head of Bankers’ Trust and later the first and long-serving head of the Federal Reserve, acted as secretary to the committee, in effect serving an apprenticeship for his future post.

  Despite his age, Morgan put in twelve- to fifteen-hour days, often working until three in the morning, brusquely summoning the trust company presidents, the brokerage chairmen, the clearing bank members, banging heads to shore up that day’s weakest
links, meting out the attendant punishments and rewards. It was an extraordinary demonstration of sheer personal authority. The secretary of the treasury played hardly more than a supporting role, and even the Bank of England and Banque de France were assigned bit parts in the drama. No one refused a call from Pierpont Morgan, or argued long over his assignment. Even the president cheerfully agreed that U. S. Steel could buy an iron and steel company out of a failing brokerage’s portfolio without triggering an antitrust inquiry.*

  When the crisis passed, and the news of what Morgan had accomplished sunk in, the public reacted with something like shock. There were many suggestions that the bankers, or even Morgan personally, had engineered the crisis to enrich themselves. All shakeouts rearrange the pecking order on Wall Street, and there is no doubt that the sharpest financiers came out of the crisis better off than they went in; but there is no basis for accusations that the crisis was contrived, or that Morgan’s own actions were based on anything other than a sense of public duty. But the sense of shock was still well placed; regardless of whether one thought Morgan was patriot or plutocratic puppeteer, this was no way to run a country. If nothing else, the 1907 crisis was an important factor in building a legislative consensus for the creation of the Federal Reserve system in 1913.

  The Great Merger Movement

  It was the vast burst of merger activity around the turn of the century that triggered Teddy Roosevelt’s trust-busting campaigns and great outpourings of anxiety in the national press. But the merger boom itself evidenced the country’s growing comfort with the notion of very large companies. After all, it was hard to imagine how a little company could service an area the size of the Union Pacific’s, or achieve the fabled management efficiencies of the Pennsylvania, or the global dominance of a Standard Oil. Many Americans doubtless took patriotic pride in the fact that Carnegie Co. was wresting world steel leadership from the British, or that a newcomer like American Telephone & Telegraph was running the world’s biggest telephone network. By 1900, in any case, some 425,000 people worked for the biggest companies. That was a small percentage of the working population, but still too large a voting bloc to alarm with job-disrupting political moves. The AFL’s Samuel Gompers had much the same view of big companies as Morgan: they were “an advance over small, ruinously competitive companies.” Social Darwinists went even further: rather than shameful monuments to large-scale brigandage, big companies were a higher order of human achievement—the cathedrals of a Machine Age. Roosevelt took pains to stress that he wasn’t opposed to big companies, only to monopolies; in the eyes of the Supreme Court, not even the giant U. S. Steel qualified under that standard.

  One careful listing of large-scale mergers counted 157 separate transactions between 1895 and 1904 (excluding railroad transactions). Two-thirds of them were concentrated in just three years, 1899 to 1901, with sixty-three major transactions in 1899 alone. Except for the brief and ill-starred conglomerate movement of the 1960s and 1970s, no period of intense merger activity has involved such a large number of companies. In recent years, for example, there has been intense merger activity in banking, airlines, and pharmaceuticals, but typical deals involve just two or three companies. The 1899 tin plate merger, however, involved some forty separate firms. Possibly 1,800 companies disappeared in the 1895–1904 consolidations. The firms that emerged also generally had substantial market power. Of ninety-three deals for which market share data are available, seventy-two of them absorbed at least 40 percent of their industry, while forty-two ended up with at least 70 percent. In short, the great turn-of-the-century merger movement fundamentally changed the structure of the country’s biggest industries.

  There was a quasi-spontaneous aspect to the merger boom. The big investment banks, like Morgan, were involved in only a handful of the biggest deals. The rest were mediated by stock brokerages and commercial banks, or by specialist merger-and-acquisition groups, like that of the Moore brothers, whom Carnegie so despised. William Rockefeller and Henry Rogers, the erstwhile distillation chemist who had risen to the highest levels of the Standard, also emerged as important independent financiers, and had a splendid time playing the deals game with the characteristic Rockefeller blend of shrewdness and abandon. The Amalgamated Copper consolidation of 1899 was a Rockefeller deal. Rockefeller and Rogers were also major railroad investors, often in conjunction with Harriman, and they participated in Morgan’s pre-U. S. Steel iron and steel deals. (John D. was not much involved; he worried about Rogers’s judgment, and was a cautionary restraint on William.)

  The “Great Merger Movement” was mostly about reining in price competition. The Morgan gospel of replacing “ruinous competition” with “cooperation” had clearly found a wide and receptive audience. In Lincoln’s day, when business was mostly a local affair, many companies enjoyed modest minimonopolies. But when railroads, telegraphs, and mail-order houses nationalized markets, competition grew long claws, and the competitive wars of the 1880s and 1890s were unusually fierce.

  The typical company swept up in the merger mania, according to a profile developed by the historian Naomi Lamoreaux, was a mediumsized business in an industry with modestly high fixed costs and rapid growth. Papermaking is a good example. The explosion of print media in the 1880s and 1890s, and modern Fourdrinier papermaking machines, created mouthwatering opportunities for ambitious entrepreneurs. But the machines were almost too affordable—right in the gray area where a midsize business could buy one, but then couldn’t afford to let it sit idle. The result was a deadly cycle of temporary scarcities, waves of new competitors, price wars and competitive shakeouts, followed by another round of scarcity, and another wave of entrants.* Wire and nail makers and makers of tin plate (coated sheet steel for tin cans and roofing material) showed an almost identical pattern. In the case of tin plate, the market was driven both by the boom in canned goods and by a stiff tariff against British tin plate in 1890.

  After a sequence of especially vicious price wars during the 1893–94 downturn, a wide range of industries tried to organize cartels. None of them succeeded. The wire and nail makers’ cartel was one of the most effective, lasting for about eighteen months, but it broke down when steady profits drew in other companies, including some big steel firms. It was the failure of the cartels that led to the mergers. The tin plate makers, after failing to get a cartel off the ground, invited the Moores to act as their agent in 1899, resulting in the American Tin Plate Co., with about 90 percent of national capacity. The Moores went on to create three more steel consolidations—the American Sheet Steel Co., the American Steel Hoop Co., and National Steel, a primary steelmaker like Carnegie Steel. John W. Gates, who started his career as a barbed-wire salesman, organized the American Wire & Steel Co. in 1898, which started with about a dozen companies, comprising about 70 percent of the wire capacity and 55 percent of nails; then, over the next year, he managed to bring in almost everybody else. International Paper, an 1898 merger of seventeen paper mills with about 60 percent of the newsprint market, was one of the few consolidations to launch without the help of a merger specialist—the companies just worked it out among themselves.

  Executing a merger was primarily a paper-shuffling transaction; few of them required large amounts of outside financing. (The $1.4 billion U. S. Steel deal involved only $25 million in new cash; the rest was just the nominal value of the paper issued in exchange for the securities of the merger participants.) The job of promoters like the Moores was to mediate the selection of participants, work out an equitable method for allocating ownership, supervise the legal work, and create a business plan. Would they consolidate operations or remain separate units? How would they handle marketing and branding? If the participants couldn’t put up the required working capital, he would arrange a financing, either from a bank or possibly through a security offering. When the deal closed, the participants took stock in the amount of their ownership. Senior securities went to outsiders who put up working capital. Larger deals, like Gates’s America
n Steel & Wire, which needed to finance a major operations restructuring, listed their shares on the national exchanges.

  Contemporaries were frequently shocked by the extreme overcapitalization of the companies and by the huge fees earned by the promoters, up to 10 percent, or even more, of the deal value. Both complaints are overdrawn. Promoters like the Moores typically took their pay entirely in common stock. If the deal was a success, the Moores stood to make a lot of money; if it wasn’t, they had wasted months of hard work—and hammering out a consensus on valuation and business strategy among dozens of prickly former competitors was hard work, with lots of nasty travel, long nights, and execrable meals. The impression of overcapitalization stems mostly from the nineteenth-century insistence on setting a par value for the common shares. (A few contemporaries, like Charles Francis Adams, had begun to realize that par values were meaningless. Today, virtually all new stock issues are no par or at “peppercorn” par valuations for both preferred and common.) Overcapitalization is a problem if it entails mandatory interest or dividend payments, but the sheer number of shares is of no effect, since they quickly reprice to reflect the company’s true worth. The Moores’ fees, of course, diluted the ownership interests of the consolidators, but the effect in individual cases was negligible.