Arresting Banking Panics: Fed Liquidity Provision and the Forgotten Panic of 1929

Abstract: Scholars differ as to how much impact an increased role by the Federal Reserve would have had in halting U.S. banking panics during the Great Depression. Friedman and Schwartz suggest that banking panics were exacerbated by the Fed’s unwillingness or inability to act as a lender of last resort whereas Calomiris and Mason argue that most bank failures during the Great Depression resulted from insolvency, implying central bank intervention would have done little to stop bank failures. We shed light on this debate by examining the last banking panic prior to the start of the Great Depression. In the spring of 1929, a fruit fly epidemic struck Florida and the U.S. government quarantined Florida citrus fruit. In July, banks in citrus growing areas and Tampa faced heavy withdrawals as depositors worried about asset quality. These withdrawals led some banks to suspend payment, prompting depositor runs on correspondent banks. In response, the Federal Reserve Bank of Atlanta rushed currency member banks in Tampa to halt the spread of the panic. The Fed’s actions allow us to test directly the role of lender of last resort liquidity provision in halting banking panics. We assemble a new micro-level database on commercial banks in Florida and test whether, all else equal, banks receiving Federal Reserve infusions had a greater probability of surviving the panic.