A while back, I wrote about a pending academic research project I was embarking upon with Jeremiah Newhall, a good friend of the site. Below you will find a draft version of an abridged section of the paper where we cover the history of money in the US. Part of the reason I am posting this is to solicit feedback, so please feel free to submit your thoughts in the comments section below. As this is a draft, please bear with us on the poorly formatted citations (and/or lack thereof) and the first-draft wordsmithing.
In a scenario which has unfortunate and numerous parallels
in the present-day banking system, banks in the new America didn’t always
account properly for risks in their lending practices. As a result, and in the
absence of a robust reserve banking structure to provide a backstop, many banks
went bankrupt. “The nickname "wildcat" referred to banks in mountainous and other remote regions
that were said to be more accessible to wildcats than customers, making it
difficult for people to redeem these notes. The "broken" bank notes
took their name from the frequency with which some of the banks failed, or went
broke.”[1]
And as soon as these banks ceased to exist, their notes ceased to have
practical value. In short, the promise of the promissory note was broken.
While paper money has obvious benefits, the risk that their
value can be eliminated overnight certainly serves as a sobering counterweight.
As a result of risks, both perceived and actual, counterparties naturally
required higher payments, or payments in coinage, in order to complete
transactions in such an environment. This friction, caused by the sand of risk
premia grinding in and clogging the gears of the nation, both slowed down trade
and decreased the ability of the federal government to pay for things
efficiently. This situation was discussed at length in the Supreme Court’s
decision in the later Veazie Bank Case :
At
the beginning of the rebellion the circulating medium consisted almost entirely
of bank notes issued by numerous independent corporations variously organized
under State legislation, of various degrees of credit, and very unequal
resources, administered often with great, and not unfrequently, with little
skill, prudence, and integrity.
In response to the less-than-satisfactory framework, the federal government issued demand notes to pay for the Civil War. The idea behind demand notes was similar to the state-issued paper discussed above. In short, holders were able to turn the notes in for coins whenever the bearer of the note wanted to. From Veazie:
The
acts of Congress, then in force, prohibiting the receipt or disbursement, in
the transactions of the National government, of anything except gold and
silver, and the laws of the States requiring the redemption of bank notes in
coin on demand, prevented the disappearance of gold and silver from
circulation. There was, then, no National currency except coin; there was no
general regulation of any other by National legislation; and no National
taxation was imposed in any form on the State bank circulation.
The
first act authorizing the emission of notes by the Treasury Department for
circulation was that of July 17th, 1861. The notes issued under this act were
treasury notes, payable on demand in coin. The amount authorized by it was
$50,000,000, and was increased by the act of February 12th, 1862, to
$60,000,000.
[1] http://www.frbsf.org/publications/federalreserve/annual/1995/history.html . Last accessed 10.20.12
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