10520_Geisst_3p_01_r1.k.qxd 8/13/03 4:38 PM Page 1 CHAPTER 1 BUILDING THE INFRASTRUCTURE 10520_Geisst_3p_01_r1.k.qxd 8/13/03 4:38 PM Page 2 God made the world in 4004 B.C.but it was reorganized in 1901 by James J. Hill, J. Pierpont Morgan, and John D. Rockefeller. Life, 1902 he dawn of the twentieth century brought widespread pros- Tperity in the United States. The economy recovered from a severe depression in the mid-1890s and business was growing again at a rapid pace. William McKinley was president and busi- nessmen were welcome in the White House. Yet discontent with big business was more prevalent among working people and farmers, who saw themselves as mere pawns on the chessboard of business. The press and muckrakers provided a shadow conscience for the country through exposés of working conditions and corrupt labor practices. The first decade of the twentieth century was characterized by strong antitrust sentiments culminating in several significant lawsuits that altered the American corporate landscape. Ironically, the cen- tury began by opening a window of opportunity that allowed several huge mergers to occur during what otherwise has become known as the Progressive Era. Once Theodore Roosevelt succeeded McKinley, a constant tug-of-war between big business and government began. Twenty years later, it was not clear who had won the struggle. Prior to World War I, the tension between business, government, and other sectors of society did not prevent a strong drive toward 2 10520_Geisst_3p_01_r1.k.qxd 8/13/03 4:38 PM Page 3 B I mergers and acquisition. Although the Sherman Act was passed in 1890, its language was vague and did not prevent the formation of large trusts—the name first used to describe large holding company– style organizations that held the stock of many related companies, many of which were in the same business. The language of the act was purposely vague and many lawyers specializing in corporate affairs found simple ways to circumvent it. The first significant victory for the Justice Department came in 1911 when Standard Oil and American Tobacco were ordered dismantled. But in the intervening 20 years, big business emerged stronger than ever, aided by Wall Street bankers who recognized the enormous fees that could be earned by consolidating industries in the name of greater efficiencies. At the turn of the century, Wall Street was dominated by several influential investment banking firms. Among them were Kuhn Loeb & Co., J. & S. Seligman & Co., Kidder Peabody,and Lee Higginson & Co. The most powerful by far was J.P. Morgan & Co., headed by the legendary and mercurial John Pierpont Morgan, the senior banker on the Street to whom the rest bowed in deference. Morgan learned the art of banking from his father, Junius Spencer Morgan, who spent the bulk of his banking career in London as senior partner at the firm of George Peabody & Co., which became J.S. Morgan & Co. upon Peabody’s retirement in 1859. Pierpont spent some time at the firm before embarking on his own career in New York before the Civil War. By the mid-1870s, he had become a major Wall Street figure in his own right. The European influence weighed heavily on the Morgans and set the tone for American financing until 1929. In the nineteenth century, extending into the early twentieth, investment banking was built upon carefully cultivated relationships between bankers and their clients. Europe’s most powerful bankers, the Barings of London and the Rothschilds of Paris and London, dominated finance through an intricate network of relationships assiduously developed over decades of close contact with the crowned heads of Europe and their powerful ministers. The Roth- schild alliance with the French crown, dating from the post- Napoleonic period, was close and paid handsome dividends. The Barings’ relationship with the British crown was equally close and 3 10520_Geisst_3p_01_r1.k.qxd 8/13/03 4:38 PM Page 4 D C produced similar results, so much so that Talleyrand remarked that there were six great powers in post-Napoleonic Europe—Britain, France, Germany, Russia, Austria-Hungary, and the Barings. Against this background, the Morgans, especially Junius Spencer, learned their craft. European banking styles also had a tangible effect on American financing in the nineteenth century. Since the United States relied heavily on foreign investment to develop its infrastructure, notably the railroads, the European bankers became central to the process of American development. The Rothschilds and Barings poured hun- dreds of millions into the country on behalf of their clients. The British crown was reported to be a heavy investor in the first Bank of the United States, even after the War of 1812. Many of the bonds that financed railroad expansion after the Civil War were purchased by British and continental investors, as were many municipal bonds of major cities on the East Coast. Until World War I, the United States remained heavily reliant upon foreign capital. Much of that capital was funneled into the country by Morgan after 1880 as Bar- ings and the Rothschilds began to diminish in importance. Morgan continued in the grand tradition as banker to power brokers, politi- cos, and the newly emergent corporate ruling class in the United States. In his role as banker, he also became a consolidator of indus- try, a role that was a natural extension of the aggregation of capital that he already represented so well. Between the Civil War and the end of the nineteenth century, some of the American infrastructure had already been put in place. The railroads had been laid coast to coast, the telegraph followed the rails, and the agricultural system was highly productive. Newer inventions like the telephone and electric power were showing signs of promise, although they needed large infusions of capital in order to become standardized. But the job of completing the infrastructure remained and Morgan and other bankers spied their opportunity. As long as the country remained short of capital, investment banking opportunities abounded. By 1900, Morgan’s achievements were already legendary. He formed the Edison General Electric Company from Thomas Edison’s 4 10520_Geisst_3p_01_r1.k.qxd 8/13/03 4:38 PM Page 5 B I old interests and then enlarged it by merging it with the rival Thompson- Houston Electric Company to form General Electric in 1892. In the process, he defeated an effort by industrialist Henry Villard, an execu- tive of Edison, who planned to have the company take over Thompson- Houston. After Morgan’s victory, Villard and an Edison lieutenant, Samuel Insull, left the company to pursue their own ventures. Insull would appear again to do battle with the House of Morgan under Pier- pont’s son Jack. General Electric was known as a pioneering company, primarily for Edison’s inventions and innovations, although it was actu- ally a power producer. Several years later, Morgan helped organize the bailout of the U.S. Treasury during the gold crisis of 1894. The operation earned him the distinction of being the unofficial central banker of the United States. Both operations brought notoriety but would come back to haunt him decades later. His activities clearly marked the high point for the age of the finance titans, but not everyone was pleased with the oligarchical links between government and Wall Street. Criticized in the press for their handling of many of these affairs, the House of Morgan and Wall Street in general would dis- cover that antitrusters and Congress had long memories that would attribute many problems to events before and during World War I. Before federal banking and securities laws were passed in the 1930s, American banking was a mosaic of traditional corporate banking and securities services. A client could obtain a loan, have securities issued, or merge with another company simply by whisper- ing to his investment banker, who also was often a director of the company. Morgan and his partners practiced this form of discreet banking better than anyone else. By the turn of the century, he and his limited number of partners sat on the boards of dozens of major companies, controlling a large percentage of American corporate wealth. From that vantage point, they could see the strengths and weaknesses of American corporate structure and all of the possibili- ties that they provided. In the grand tradition inherited from the Europeans, the focus of their attention became companies rather than governments. The vast number of American companies com- peting in the marketplace meant that many were too small to survive 5 10520_Geisst_3p_01_r1.k.qxd 8/13/03 4:38 PM Page 6 D C but presented wonderful opportunities of scale. Their independent potential was limited, but when combined their possibilities were endless. Although Wall Street helped consolidate industry, it was cer- tainly not the brains behind business innovation, only the banker. Andrew Carnegie, Alexander Graham Bell, Thomas A. Edison, and Cyrus McCormick were the innovators in their respective industries. For sundry reasons, each was better at innovation than at finance and corporate governance and eventually allowed Morgan to replace him. While the trend toward consolidation and banker-dominated industries may have been a sign of the times, the repercussions of the growing oligopoly of financier-dominated industries set off those warning bells that reverberated for years to come. Crony capitalism Wall Street style was still in great force, although the influence of the major New York banking and securities houses did not extend west of the Hudson unless the deal makers could forge relationships with companies with national business. In the early twentieth century that was where most of the profitable business was to be found.