Federal Banks and Federal Jurisdiction in the Progressive Era: A Case Study of Smith v. K.C. Title & Trust Co.

This is a case study of the Supreme Court’s classic decision in Smith v. K.C. Title & Trust Co. A stockholder challenged the constitutionality of the Farm Loan Act of 1916, which authorized federal banks to issue tax-exempt bonds to raise funds for loans to farmers. The case is best known for its holding that a federal court could entertain the suit because it arose “under the Constitution” and for Justice Holmes’ argument, in dissent, that federal jurisdiction was not established because state law created the “cause of action.” This study is the first to go beyond the jurisdictional issue in Smith. This old case provides a snapshot of a time in American history when both political parties cooperated in the creation of public institutions to foster credit in a vital sector of the economy. Private companies asked the courts to protect their businesses in the name of the Constitution. The courts fashioned a framework for entertaining the challenge. And the Supreme Court easily validated the economic policy forged by Congress. Smith was a classic test case. The real interests backing the shareholder’s action were private mortgage lenders anxious that federal banks would drive them out of business. Some of the greatest lawyers of the day participated, including Charles Evans Hughes (later to be named Chief Justice). This article describes the 1916 Act and the conditions that gave rise to it, explores the development of the test case, and critiques the modern Court’s understanding of the jurisdictional question.