Paper Trail

Figure 1. “Of course adultery is not permissible in normal conditions, but in the extraordinary circumstance where I find myself working long hours far from home…”

The greenbacks then introduced were controversial on multiple fronts, each a viable and separate objection: (1) that they were issued at all, despite a longstanding understanding of constitutional prohibition; (2) that they did not bear interest, which would have made them akin to the bonds used in the War of 1812; (3) that they were made legal tender, required by the state to be used to satisfy private debts, despite the murkiness on whether the federal government possessed such a never-before-used power; (4) that they could not be redeemed for precious metals (5) that they were oversupplied – they lost over 70% of their purchasing power over the course of the war; and (6) that, simultaneously, the federal government punitively taxed and suppressed state-licensed private currencies to establish a greenback monopoly.

What the Founders had tried to thwart instead came to pass – and the irony is that the “war necessity” of paper money might not have even been necessary for the war. As the Founder Benjamin Rush had argued, “where wars are just & necessary–Supplies may always be obtained by annual taxes from a free people.” John Steele Gordon estimates that the greenback helped pay for about 12% of the war – and Timberlake argues there was more than enough demand for certificates of deposit to cover that entire cost and then some. The Union’s finances prevailed because it had a more robust, more diverse economy that it could effectively tax and borrow against – though there’s a fair separate constitutional objection to the variety of new taxes imposed, including America’s first national income tax. Winning battles also happens to win the confidence of creditors.

I should also briefly report on the financing of the Confederacy, whose constitution kept its predecessor’s language about monetary policy. Incredibly, in the first half of 1861, more than a third of its revenue came from voluntary donations enthusiastic to support secession – but that quickly wasn’t enough. The Confederates cleverly tried to package much of their debt by backing it with their staple crop (cotton) but they also miscalculated by intentionally depriving European cotton mills of their product with the dashed hopes of support from across the pond. Ultimately, with a more constrained government and a smaller economy, the Confederates ignored their aspiration to coin and mostly paid for the war through continuously printing paper money, such that they underwent 3,000% inflation (9,000% if you count the last six months of the war when the end looked near to everyone.) Significantly, the Confederates never made their paper currency legal tender.

Figure 2. And yet despite all that inflation, Confederate dollars (as collectors’ items) have held their value better than the US dollar since 1865.

After the war, an incredible legal story unfolded. Salmon Chase, the Treasury Secretary who asked for the power to print money, became the Chief Justice of the US Supreme Court and had a change of heart about what was legally permissible. First, in Bronson v. Rodes (1868), an 1857 mortgage, concerned about local banks’ viability, explicitly called for repayment “in gold and silver coin.” The debtor complied until 1865, when he instead repaid the entire loan in the much depreciated greenbacks which the federal government had said must be accepted to satisfy any debts. Chase found that the “the intent of the parties… is clear” and that the debt could not be satisfied with uncontemplated greenbacks worth a fraction of the value at stake. For decades thereafter, this case inspired “gold clauses” in contracts, a practice we will revisit. But this case also was a shot across the bow of all paper money: every contract before 1861 was contemplated in terms of precious metals because that was the definition of a dollar for more than the preceding seventy years. What would that mean for those who had simply assumed that commerce would continue as usual?

In Hepburn v. Griswold (1870), Chase reasonably extended the logic and ruled that prewar contracts could not be forcibly satisfied in greenbacks. Making paper legal tender was an alteration of contracts and an assault on property rights. But Chase also started questioning the whole idea of greenbacks, noting that the power to print “is certainly not the same power as the power to coin money.” He reflected that “It is not surprising… that amid the tumult of the late civil war… different views, never before entertained by American statesmen or jurists, were adopted by many. The time was not favorable to considerate reflection upon the constitutional limits of legislative or executive authority.” As for what was necessary and proper to conduct a war, such a notion “carries the doctrine of implied powers very far beyond any extent hitherto given it.” The man who had asked for the power now found that “we are unable to persuade ourselves that an expedient of this sort is an appropriate and plainly adapted means for the execution of the power to declare and carry on war.” The dissent, meanwhile, generously read into Congress’ constitutional power to regulate its coin an ability to make rules about legal tender – and was otherwise persuaded that the war provided any cover necessary for the action. But how would the Court rule if given an opportunity to look at the constitutionality of the greenback itself, especially now that the war was over?

Figure 3. True to his name, Salmon Chase found himself swimming upstream.

The answer came down to partisanship. Between 1863 and 1870, greenback constitutionality had come before state courts sixteen times: “of the seventy state court justices who ruled on the cases, all but one Republican judge upheld the legal tender clause as constitutional, while all save two Democratic judges pronounced it unconstitutional.” Greenbacks were Republican policy and GOP President Ulysses Grant quickly nominated two justices with defined records who shifted the majority on the court. In an extremely unusual move, never mind stare decisis, the very year after Hepburn was decided the Court reversed itself and the new precedents gave an expansive view of the government’s powers. Ignoring the constitutional convention’s vote against giving the federal government the power to print, the Court found that the power to coin was a “general power over the currency which has always been an acknowledged attribute of sovereignty” – and indeed was necessary to not only save the republic in the recent war but compete internationally. A concurrence remarkably made a policy argument in favor of inflation: “If relief were not afforded [to debtors], universal bankruptcy would ensue, and industry would be stopped and government would be paralyzed in the paralysis of the people… But the creditor interest will lose some of its gold! Is gold the one thing needful? Is it worse for the creditor to lose a little by depreciation than everything by the bankruptcy of his debtor?” 

Chase offered up a dissent but he was outvoted. The new minority on the court “reject[ed] wholly the doctrine, advanced for the first time, we believe, in this court by the present majority, that the legislature has any ‘powers under the Constitution which grow out of the aggregate of powers conferred upon the government or out of the sovereignty instituted by it.” Indeed, in the United States, the general idea was that the people, not the government, were sovereign. Another dissenter, Stephen Field, insisted “The doctrine that where a power is not expressly forbidden, it may be exercised would change the whole character of our government.” He was suspicious that advocates of the greenbacks could not agree on what exactly in the Constitution permitted them. For the specific power to make paper money legal tender, Field would later observe about the antebellum period that “there is no recorded word of even one [person] in favor of [the government] possessing the power. All conceded, as an axiom of constitutional law, that the power did not exist.”

The most remarkable aspect of the reaction to this legal kerfuffle is that there was no commercial revolt. Although there was considerable frustration with the depreciating greenback during the war itself, the government had actually bravely embraced deflation in order to restore the purchasing power of the dollar to its prewar rate. By the time that the courts had fully worked out the legal issues, a greenback could be exchanged for a stated amount of gold and America was on a governmental gold standard. From a commercial perspective, federal paper was as good as gold. Though it was not what the Founders intended, the Supreme Court leaned in on the redeemability to further bolster the legality of the regime, finding that the power to print emerged out of the government’s borrowing power in that the paper could be overissued with the promise to pay gold. But of course the states were allowed to borrow and yet forbidden to emit bills of credit, suggesting they were different powers. And that location of constitutional authority worked only if the paper was indeed redeemable.

Figure 4. George Bancroft, Polk’s Secretary of the Navy and a prominent historian, emerged from retirement at 84 years old to author one of the best titled American legal books ever: “A Plea for the Constitution of the United States Wounded in the House of Its Guardians.” 

Still, it was one thing to issue greenbacks; it was another to destroy the currencies that had circulated before the war. In Veazie Bank v. Fenno (1869), the Supreme Court upheld the federal government’s ability to punitively tax currency issued by state-chartered banks out of existence. A local Maine bank had refused to pay and tried to argue that the tax was not apportioned properly according to the Constitution. The majority, including Chase, disagreed and further insisted that the government had “undisputed constitutional power to provide a currency for the whole country … by appropriate legislation, and to that end may restrain, by suitable enactments, the circulation of any notes not issued under its own authority.” Timberlake expands upon the dissent’s defense of the 10th Amendment to suggest that if McCullough established that the states couldn’t tax a federal bank out of existence, the federal government shouldn’t be able to tax state banks out of existence. 

But never fear! The government was totally prepared to redeem its money for gold. Treasury Secretary John Sherman called irredeemable paper money a “mild form of lunacy” and said that “depreciated paper money” was “one of the greatest evils that can befall a people.” Treasury Secretary Hugh McCulloch said that to regard greenbacks as money was a “delusion… They are not money, but merely promises to pay it, and the government must be prepared to redeem all that may be presented, or forfeit its character for solvency.” 

And yet, as it turns out with pretty much every example, central planners were not up to the task. National regulation required its banks to hold U.S. debt as reserves even as the U.S. government was trying to actively retire such debt, leaving bankers with a lack of flexibility. Despite chartering “national” banks, the U.S. government still did not allow interstate banking or many locations for banks to diversify their business. And there were continuous problems leading to recessions surrounding the seasonal money needs of an agricultural sector that still comprised a large part of the economy. 

Naturally, the politicians decided that the solution was to centralize power over money even further, this time into a central bank with the smartest people around who could really figure out the central planning. And yet they also insisted they weren’t designing a central bank – that would be too controversial. One Senator insisted that the new Federal Reserve would have “no power to initiate, to compel or to consummate any inflation whatsoever” – after all, it was on the gold standard, right? Congress tried to make the institution a public-private partnership that represented different regional interests across the country.

Figure 5. Naturally, those “regional interests” represented the economic and political power of different places in 1913 – and they have not been redrawn! So Missouri alone gets to have two of the twelve regional headquarters for the whole United States. 

The new central bank was not exactly a neutral manager of money. World War I would inspire fresh monetary arrangements to pay for the conflict (prompting nearly 60% inflation). In the 1920s, the Fed agreed to prop up the British pound for not especially economic reasons and then decided to punish stock speculators, resulting in Black Monday and the kick off of the Great Depression. Milton Friedman famously blamed the Fed for the whole affair – and while Friedman had advice for what the Fed should have done, he also noted that if the Fed had not existed and America had been on its classical gold standard, there would not have been a Great Depression. Timberlake notes that the Fed had enough gold to safely double the money supply without redeemability problems. (And, as ever, overregulation played a role: Canada, which allowed banks more than one location across its regions, had zero bank failures.)

The final important legal decision regarding monetary policy came during the Roosevelt administration. Through executive order and Congressional ratification, FDR made the private ownership of gold coin and bullion illegal, demanding citizens exchange their metal for paper dollars at a fixed price or risk up to ten years in prison and serious fines. After the gold had been seized, FDR convinced Congress to give him discretion to debase the currency by 59% – this was probably a problem for Congress to delegate this power and was also the most aggressive interpretation of “regulate the value thereof” that had ever been used. But what about those Americans who had learned their lesson from the Civil War and explicitly contracted, including with the US government, for payment in gold? 

A bipartisan Supreme Court majority, Democrats favoring their president, Republicans favoring their precedent, found that the seizure of gold prevented the contracts from being fulfilled and, indeed, the contracts were interfering with Congress’ power to regulate the value of its currency. Rather than ambition clashing against ambition, the Supreme Court now handed over practically unlimited power over monetary policy to Congress and the President. The dissent was not happy:

“we cannot believe the farseeing framers, who labored with hope of establishing justice and securing the blessings of liberty, intended that the expected government should have authority to annihilate its own obligations and destroy the very rights which they were endeavoring to protect. Not only is there no permission for such actions; they are inhibited. And no plentitude of words can conform them to our charter.”

That’s the state of monetary constitutional law today. Altogether the Civil War prompted the U.S. government to centralize control over currency and it has expanded its power while jealously guarding it ever since.  Result? Exploding government. As Hayek noted, “There can be little doubt that the spectacular increase in government expenditure [-] with governments in some Western countries claiming up to half or more of the national income for collective purposes [-] was made possible by government control of the issue of money.”

In our final email in this series, we will explore what it might look like to get our constitutional house in order.

Figure 6. Click here to acquire the unabridged version of Pieces of Eight: the Monetary Powers and Disabilities of the United States Constitution (9/10), a learned and deep textual analysis that I’ve attempted to summarize as best as possible. You can also check out the related original document collection at the University of Chicago for the coinage power and the borrowing power.

Figure 7. Click here to acquire Constitutional Money by Richard Timberlake (8/10), in which an economist reviews the U.S. case law around money and offers both economic commentary and a layman’s legal analysis of original public meaning uncluttered by the typical law school penumbras and gobbledygook. Timberlake insists: “The money clauses in the U.S. Constitution are brief, simple, and explicit; the humblest mind can understand them without elaborate interpretation.”

Figure 8. Click here to acquire Money Free and Unfree by George Selgin (9/10), a collection of essays by one of the leading free banking economists in the United States, opening with a thought experiment about what kind of monetary system a dictator would create to increase his power but also including a history of 19th century U.S. money and an evaluation of how the Federal Reserve has performed according to its own preferred standards in its first 100 years. Also check out his book explaining the theory and practice of free banking.

Thanks for reading! If you enjoyed this, forward it to a friend: Know anyone who is interested constitutional originalism? How about anyone desiring limited government? Or anyone who has ever used money?

For more, check out my archive of writings, including my review of Literally Making Money.

I read over 100 non-fiction books a year (history, business, self-management) and share a review (and terrible cartoons) every couple weeks with my friends. Really, it’s all about how to be a better American and how America can be better. Look forward to having you on board!