Upon it’s initial release in 1946, Frank Capra’s It’s a Wonderful Life was something of a financial flop, failing to reach the break-even point of $6.3 million. Although it was nominated for Best Picture at the Academy Awards, it wasn’t until subsequent decades that it became recognized as one of the greatest Christmas films ever made.*
The movie is long overdue for another reappraisal, for it’s also one of the best films ever created about economics and financial services.
In a series of three posts (to be posted today, Wednesday, and Thursday), I’ll highlight some of the financial aspects of the film (the first two posts) and a few of the broad economic lessons from one of my all-time favorite films.
The Value of a Dollar
One dollar may always be equal to four quarters, ten dimes, 20 nickels, or 100 pennies. But what that dollar can buy varies based on the rate of inflation.
Because of inflation, the value of a dollar varies not only from the time of the movie till today, but also within the movie. For example, when George is 12 years old and working in Mr. Gower’s drugstore (1919), he sells Violet “2 cents worth of shoelaces (candy).” Since $1 in 1919 is the equivalent of $13.75 in 2015, that two pennies worth of candy would cost about 28 cents today but only 2.08 cents in 1945, when George is an adult.
Also in 1919, George’s father, Peter “Pop” Bailey owes the banker, Mr. Potter, a total of $5,000. That may not sound like much of a loan, but in 2015 dollars that would be the equivalent of $68,739. Similarly, when Uncle Billy loses $8,000 of the Building and Loan’s cash (in 1945), he has lost the equivalent of $105,705 in 2015 dollars, but only $7,689 worth of buying power in 1919.
(At the end of this post I’ve calculated some of the monetary figures mentioned in the film into 2015 dollars.)
Banks vs. Building and Loans
The Bailey Bros. Building and Loan Association plays a prominent role throughout the film. But what exactly is a Building and Loan? And how does it differ from a bank?
A Building and Loan Association (BLA) is a depository financial institution that specializes in collecting savings deposits from customers and investing it in residential mortgage loans. BLAs are usually mutually held, meaning that depositors and borrowers have the ability to direct the financial goals of the organization.
The difference between a bank and a BLA is that savings banks generally concentrate on commercial lending to help businesses and finance ventures or lending that is secured by other items like credit cards. Building and loan associations, on the other hand, tend to focus on residential mortgage lending and promoting home ownership. In the film, home ownership is disparaged by Mr. Potter (the city’s biggest landlord) but is championed by the Baileys (“Doesn’t [home ownership] make them better citizens? Doesn’t it make them better customers?” asks George).
Uncle Billy’s Big Banking Blunder
The central crisis of IAWL is caused when Uncle Billy goes to Potter’s bank to deposit $8,000 for the Building and Loan and absentmindedly leaves the money behind. As George tells Uncle Billy after hearing about the lost deposit, “Do you realize what this means? It means bankruptcy and scandal, and prison!”
Why exactly did Uncle Billy need to take the money from one financial institution (the BLA) and deposit it at another financial institution (Potter’s bank)? The reason, explains law professor Marie T. Reilly is because, “State regulation prohibited savings and loans from maintaining their own deposit accounts (an odd feature of savings and loan law that persisted through the S&L debacle in the late 20th century).”
Since the money was missing, the bank examiner would presume the money was stolen (and possibly even given to Violet, who the examiner saw kissing George goodbye). George or Uncle Bailey could have gone to jail for embezzlement.
The real thief, of course, was Mr. Potter, who knew the $8,000 belonged to Uncle Billy and yet kept it for himself. He took a significant risk in pocketing the money since, if his assistant reported the fraud, Potter would have lost everything and been thrown in prison.
The Bank Run of Bedford Falls
As George and Mary are leaving town on their honeymoon in Ernie’s cab, a passerby says, “Hey, Ernie, if you got any money in the bank, you better hurry.” Why was everyone wanting to get money out of the bank and the building and loan? The event is called a bank run or a “run on the bank.”
To understand bank runs, we must first understand the fractional-reserve banking system. As Wikipedia explains, the funds deposited in a bank are no longer the property of the customer.
The funds become the property of the bank, and the customer in turn receives an asset called a deposit account (a checking or savings account). That deposit account is a liability on the balance sheet of the bank. Each bank is legally authorized to issue credit up to a specified multiple of its reserves, so reserves available to satisfy payment of deposit liabilities are less than the total amount which the bank is obligated to pay in satisfaction of demand deposits.
On most days, people don’t want their money in cash and are content with keeping it in the bank deposit. This means banks have to have a relatively small amount of cash on hand for day-to-day withdrawals. But in times of financial panic, large numbers of depositors may make a “run on the bank” out of fear their bank will become insolvent and they’ll not be able to get their money back.
Ordinarily, this wouldn’t be a concern. As George G. Kaufman says, “a run is highly unlikely to make a solvent bank insolvent.” But in the case of the Bailey Bros. Building and Loan the fears may have been somewhat warranted.
For starters, as Uncle Billy says, “The bank called our loan. . . . I had to hand over all our cash. … Every cent of it, and it still was less than we owe.” The B&L now had no cash at all to give their panicked depositors. And they still owed even more money to Potter’s bank.
Potter had covered the bank’s funds out of his own fortune and offers to do the same for the B&L customers. But there’s a catch: the deposit account at the B&L is like a “share” of stock (in this case, mortgages, which would make the share a “mortgage-backed security”), and Potter is offering them 50 cents on the dollar. For every dollar they withdraw in cash, Potter keeps a dollar of their shares (which are in the mortgages that are owned throughout Bedford Falls). Presumably, those shares came with voting rights which Potter could use to vote himself as head of the B&L. By controlling the B&L, he could also foreclose on the houses in Bailey Park, forcing people back to renting in Potter’s Field (more on this in the next post).
Potter also cryptically adds, “If you close your doors before six P.M. you will never reopen.” It’s not clear what this means, but it certainly adds to the impetus for George to make a quick decision about how to remain solvent.
Fortunately for him and the citizen’s of Bedford Falls, his wife Mary comes through with a solution: She has $2,000 in cash (about $27,800 in 2015 dollars) out of their personal money. They give the money to their depositors and at the end of the day all they have left is $2 ($27.82).
(As a response to these types of bank runs, the federal government created the Federal Deposit Insurance Corporation (FDIC), an independent agency of the United States government that protects depositors against the loss of their insured deposits if an FDIC-insured bank or savings association fails. FDIC insurance is backed by the full faith and credit of the United States government.)
*In one scene near the end of the film, George is seen running past a theater marquee advertising The Bells of St. Mary’s. That Christmas film, starring Bing Crosby and Ingrid Bergman, was a financial hit yet is relatively forgotten compared to Capra’s “flop.”
The money given out during the bank run (1932): To Tom, $242 ($4,201); Mrs. Davis, $17.50 ($303.81).
George’s salary as head of the B&L (1933): $45 a week ($823), $2,340 a year ($42,796).
Potter offers George a three-year salary contract of $20,000 a year ($365,904). This is an increase of $323,108 dollars over his current salary—and George turns it down.
At the film’s conclusion, Sam Wainwright offers to advance George a loan of $25,000 ($330,330).