Organization of Debt into Currency and Other Papers
by Charles Holt Carroll
Table of Contents
Bankruptcy and Insolvency
(Reprinted from Hunt's Merchants' Magazine and Commercial Review
, LX (Mar., 1869),
The following hypothetical case presents an interesting problem in bookkeeping,
and a very instructive example in political economy. I find it in Gouge's Journal
of Banking published in Philadelphia, July 21, 1841.
It is one of the peculiarities of a paper money system, that, under it, a country
may abound in wealth, may owe nothing to foreigners, and yet every man in it may
This may sound strange to many readers, yet it will be easy to demonstrate it.
Suppose a State to have within its limits one hundred thousand families, and each
family to be worth ten thousand dollars. Here will be an aggregate of property of
the values of one thousand million of dollars.
Next, suppose each head of a family to dispose of his own property on credit, and
purchase an equal amount of someone else on credit. Here is an aggregate of debts
and credits of two thousand million dollars.
Then suppose the circulating medium of such a community to be suddenly reduced in
amount one-half. Through the shock that would be given to confidence, prices would
fall more than one-half; but suppose them to fall only one-half. Here then will
be but five hundred million dollars' worth of property, with which to liquidate
two thousand millions of debts and credits. Each man will receive five thousand
dollars from his debtor, and pay five thousand dollars to his creditor. Yet when
all this is gone through with, each man will owe five thousand dollars,
and have five thousand dollars owing to him. Everyone would then be bankrupt, although
the land, the houses, and all the other wealth of the State would be just what they
were before "the contraction" began.
The word "bankrupt" is here employed in its restricted but true significance of
inability to pay in money according to contract, and not in the more general sense
of insolvent, which means unable to pay in anything.
Everyone who attempts the study of political economy meets with obscurity at the
threshold from the corruption of its nomenclature in, as well as out of, the dictionary:
this is a case in point. No great scholarship is necessary to know that bankrupt
is derived from the Latin bancus, a bench, and ruptus, broken,
and that the term came into use among the Jews in Italy who were the money dealers
of the Middle Ages. They displayed their money upon benches, and the custom prevailed
of breaking the bench of everyone that failed. Hence it is to money dealing that
the term bankrupt strictly applies; and as everyone is a money dealer, so far as
he contracts to pay money, he is bankrupt when he is unable to pay money according
to contract, although he may be solvent as to ability to pay in goods or something
And this is the condition of each head of a family in the case presented by Mr.
Gouge. Each one owes ten thousand dollars of money; he must say to his creditor,
"I cannot pay ten thousand dollars, but I am prepared to compound the debt. I can
pay five thousand dollars, and deliver to you the value of five thousand dollars
in other property besides to discharge your claim." But as each one has the same
value of property to receive as to deliver, the delivery of the property amounts
to nothing, and the short way to the adjustment is to declare a general bankruptcy
of five thousand dollars each, which cannot be had, or five hundred millions in
all, according to Mr. Gouge's example. And this is precisely the state of their
affairs; they do not meet their contracts according to the bonds by five hundred
millions of dollars, because one-half of the promised dollars are annihilated.
The following entries may elucidate the case as a problem in bookkeeping. Each man
will inscribe on his books:
| Merchandise Dr.
|For capital in goods, etc.
| Bills receivable Dr.
|For goods or property sold
| Merchandise Dr.
||To Bills Payable.
|For goods purchased
Here the contraction of the currency reduces prices one-half, and there follows:
| Profit and Loss Dr.
|Loss by depreciation
| Cash Dr.
||To Bills Receivable
|Received one-half in money
| Profit and Loss Dr.
||To Bills Receivable
|Discharged one-half in bankruptcy
| Bills Payable Dr.
|Paid one-half in money
| Bills Payable Dr.
||To Profit and Loss.
|Obtained release in bankruptcy
| Stock Dr.
||To Profit and Loss.
|For balance of profit and loss account
By casting his eye over these entries, without taking the trouble to write out the
posting, any good accountant will see that the business is reduced to the simple
||To Stock. $5,000
And each head of a family in this
bankrupt community stands, as to capital, wealth, and means of doing business, precisely
as he did before the contraction, i.e., in possession of the same quantity and value
of property only at one-half the price; with this important advantage, that he can
export merchandise profitably, to the encouragement of agriculture and manufactures,
which he could not have exported before; he and his community having now the world
for a market for goods, instead of the money which they would otherwise be forced
to ship, and which before they did ship, at its degraded value, that is to say,
in paying the high price for imports resulting from their cheapened money. Nothing
responds to a depreciation of money by rising in price sooner than imported commodities.
Now suppose contraction could fall upon all alike in the comfortable way above described,
what possible advantage is there in the expansion which compels the contraction
and adds nothing to capital or the means of doing business? Each of these men may
look the other in the face and say, in the words of the old song: "We're all good
fellows together"; but what do they gain by the "paper money" system, which carries
the price of property to one thousand million dollars, the value of which is five
hundred million dollars, since the value of the property is the limit of its purchasing
and paying power?
Mr. Gouge, in this instance, neglects to mark the distinction between value and
price. The value of the property never exceeded five hundred million dollars, because
values are isodynamic equivalents in cost of production, or in material utility
appropriated, like land, compounded of supply and demand. A thing destitute of inherent
utility which costs nothing, like a paper note, cannot possess value, and, of course,
cannot be the equivalent of anything that does possess value. If it could, wealth
would be easily produced by simply writing notes.
Mr. Gouge continues: "Now such a case as is here supposed cannot occur in practice.
A trading nation will owe more or less to foreigners; and, much as we are in love
with the 'credit system,' every man will not dispose of all his property on credit,
and purchase an equal amount of others on credit. The case will, however, serve
to illustrate the effects of 'a flexible standard of value.' "
Undoubtedly, as far as it goes, it does so very clearly. There is nothing, I think,
in political economy more preposterous than the notion that we need any other, or
any more, flexibility in the circulating medium than is to be always found in money,
i.e., gold and silver. When we think we need more currency, what we really need,
and what the best interests of the country demand, is a lower price for things,
so that we may produce cheap, sell at a profit, and import to advantage: unless
more currency means more capital, which is always desirable, and, in the precious
metals, is more desirable, because in more universal demand, both for home use and
export, than any other, inasmuch as everything else makes a demand for money.
What is the perfection of a commodity? Certainly universal desirableness. So that
the commodity possesses this—so that everybody wants it, and is willing to pay for
its intrinsic value, no trader concerns himself about its use as an instrument,
or about the ultimate utility to which its value is due.
A dollar is a marketable commodity containing a quantity of gold, as a crowbar for
sale is a marketable commodity containing a quantity of iron. The former, being
in universal demand, will employ labor more readily, and stimulate industry and
the production of capital to obtain it more than any other commodity whatever. The
latter, however useful, is in very limited demand, and has but limited power to
encourage industry and the production of capital. The trader's interest is in the
commodity, not in the instrument. Its value in exchange is what concerns him, no
matter what caprice may determine its value in use; and it happens that money has
no other value than value in exchange, since it is an affair of trade exclusively.
Or we may say its value in use and its value in exchange are coincident.
Mr. De Quincey introduces, by way of illustration, a phial of prussic acid, bought
with a view of self-destruction. "It would argue great levity of heart," he says,
"to view in the light of a useful thing any agency whatever that had terminated
in so sorrowful a result as suicide." But the apothecary does not necessarily concern
himself with the purpose of the buyer. To the apothecary the use of the article
is in its value as an object of exchange, which he finds in the condition of the
market. The most frivolous as well as the most useful thing may thus furnish employment
to industry and constitute capital and wealth.
The mistake in regard to money is just here: it is in concern for the instrument,
when the thing we need is the object of exchange —the commodity. An instrument of
exchange being attainable in an evidence of debt, by simply writing a promise and
calling it "a dollar," we fancy the name to be the thing, and thus plunge into embarrassment
and bankruptcy. We buy and sell goods on credit to make the name, when we should
otherwise buy and sell for cash, and have the thing that we cannot have while the
name is accepted in its place. We really change the unit and delude ourselves with
a name, when with infinitely less sacrifice of ease we could possess money and so
much the more capital and wealth.
Credit will procure capital. What then? As compared with money, credit is the absence
of capital to the buyer and to the country. One may buy goods on the credit of a
bank or the government, instead of his own; but to suppose that credit organized
for this purpose performs the function of money, is to suppose the respectable beggar
as well off and as useful in the community as the man of wealth. It pays nothing.
This function of organized credit, instead of supplying a marketable commodity to
increase the business of the country, destroys one, sinks the value of the commodity—the
dollar—and drives it abroad. It is precisely the function of which we cannot have
too little; whereas, of the marketable commodity we cannot have too much: because
any natural excess of money will be as surely and as profitably exported as the
natural excess of any other commodity which, by reason of such excess, falls in
value until it meets the exporter's demand. It is impossible to separate the dual
nature of money, the instrument and the commodity; and if we put any other instrument
in its place, we lose the commodity altogether.
A currency of debt is by nature the very opposite of money, since debt is a thing
to be paid; whereas money is a thing that pays. The former is embarrassment; the
latter capital, when offered in exchange, and wealth always; and the first dollar
of debt organized into currency, instead of supplying the means of paying the price
it creates and of meeting the contracts based upon it, becomes itself an additional
contract and a demand for more money or capital to pay it with. Instead of satisfaction
it is hunger; and accordingly we find the greater the amount of circulating notes
and bank demand deposits, uncovered with specie, the higher is the rate of interest,
and the greater the distress for money, until it reaches a crisis and an ultimate
settlement in bankruptcy.
In the hypothetical case under consideration, the individual debtors pay and receive
equally, upon the clearinghouse principle; but one rascal or Shylock among them
would throw the whole settlement into confusion, and for the sum of dollars that
he would grasp unequally they would be insolvent as well as bankrupt, inasmuch as
one could not pay the other through the whole line.
In the discussion of the currency question I have had occasion to remark that, for
every dollar of currency annihilated by direct contraction, there must o£ necessity
be about ten dollars of bankruptcy in the community. Some intelligent friends of
mine, for whose opinions I entertain the highest respect, have not been able to
agree with me on this point, which, it seems to me, Mr. Gouge's example illustrates
very perfectly. Being a mere matter of illustration, that example takes no note
of the division of stock or of the natural proportion of money to other capital,
but merely assumes that the whole property is circulating capital, to be bought
and sold. In fact, however, only about two-fifths of the property of the community
is ever, I think, at any one time in the condition of circulating capital, that
is, in market for sale or exchange; and, in a normal condition of affairs, about
one-tenth of this circulating capital is money.
Hence our imaginary community, with the aggregate price of one thousand million
dollars in circulating capital, would have one hundred million dollars of currency,
so that the contraction of fifty millions of currency results in five hundred million
dollars of bankruptcy, or five thousand dollars for each of one hundred thousand
individuals, as stated in the example. By no means can this result be avoided in
the ratio of the contraction of the currency to the indebtedness of the community;
but no approach to such equality of adjustment as in the case supposed is possible.
Whoever happens to owe, in proportion to the value of his assets, more than the
proportional contraction of the currency, becomes inevitably insolvent as well as
bankrupt. Moreover, a general code of easy morality prevails among debtors in distress
as to helping themselves to the property of creditors; cunning and high-handed villainy
scramble in the confusion of a financial crisis; opportunity and privilege, such
as may be enjoyed by a bank director or bank favorite, enable some men to avail
themselves of more than their equal or just share of currency and capital; all these
and other influences render an equitable settlement of debts and credits in every
crisis of a factitious currency system utterly impossible; and I venture to say
that every direct contraction of one dollar of such a currency always was, and always
must be, accompanied by ten dollars of absolute insolvency. An insolvent is no less
an insolvent because he tides over his payment, and throws his deficit, through
cunning or privilege, upon other men.
Now let us apply this rule to the present condition of financial affairs in this
country. The currency, including demand deposits, must be reduced six hundred millions
of dollars, according to my estimate, so that sterling exchange, which to-day—February
23d—is at 46 in greenbacks, shall fall to 9½ in greenbacks for sight bills, before
specie payments can be maintained. The paper currency will then, of course, be interchangeable
with money, which will be raised in value to an equality with merchandise, so that
we can ship merchandise as profitably as money. By any scheme of direct contraction
this will involve six thousand million dollars of bankruptcy and insolvency. There
is nothing wonderful in this conclusion, if all the indebtedness running to maturity
on the greenback unit must respond to the money unit in demand for payment; and
this is the theory of direct contraction, whether gradual or rapid.
But when any such scheme shall be put in operation, its two forces or elements,
so to speak, will immediately change places. It will not long be the contraction
of the currency that will cause the bankruptcy, but the bankruptcy that will contract
the currency. As in 1860-61 the bankruptcy at the North, resulting from the repudiation
of debts at the South, annihilated so large a portion of the demand deposits of
the banks, which constitute the most effective part of the currency always, that
the aggregate currency of the loyal States fell below the natural and necessary
specie volume, and made money so much more valuable than merchandise here that gold
poured into the country a million dollars at a time by nearly every steamer arrival
from England during the year 1861.
So it will be again. Contraction may begin it, but the positive and negative poles
of the scheme will very soon change places. When bank accommodation fails, bankruptcy
comes into play, soon takes the lead, and one tumbler here and there knocks down
a whole line, until the securities, against which the deposits stand, fall, and
the deposits with them. Banks being pressed with their notes must redeem them, and
avail themselves of their securities in the hands of the Comptroller to purchase
greenbacks or specie. What effect this will have upon the prices of government bonds
in connection with the general pressure of individuals to realize upon securities,
may be conjectured. But in this way we may reach specie payments, without doubt,
through a flood of bankruptcy. It is the only way that has thus far been proposed
in Congress. Is there no other or better? There is a better way, as I have already
indicated in this magazine.
In the issue of October last I suggested supporting two separate units and currencies,
gold and greenback, for a specified time, during which indebtedness fairly contracted
by the greenback measure may be discharged in greenbacks, or their interchangeable
equivalent, bank currency, and new contracts made in gold. This must be the basis
of any equitable plan of relief from our present financial difficulties.
It is a method of indirect contraction that will save harmless every man who is
solvent at present prices; those who are not so cannot expect to be saved by any
Since writing the October article I have come to the conclusion that the plan may
be more simple in its details, and more speedily accomplished, than I had before
supposed. The paramount question is, does a majority of Congress really desire a
resumption of specie payments? If so, the only obstacle to be removed is the principle
of fictitious credit in banking. The way to cure a disease is to attack its source.
The principle of fictitious credit is bankruptcy. The banks are never in a condition
to meet their payments on demand according to contract, even when their
currency is called convertible. They owe hundreds of millions of dollars payable
on demand, more than are possessed by the whole country, in their best condition,
and under an uncertain forbearance of demand, we are as practically bankrupt as
Mr. Gouge's example represents his imaginary community to be. But our present extra
muddle comes of the one hundred and fifty millions of fictitious credit plunged
into the currency in the fall of 1861, with subsequent additions. Extinguish this
principle in the banking system, prospectively, by taxing the uncovered demand liabilities
of the banks out of existence, the tax to take effect one year after the passing
of the act; provide for the voluntary funding of greenbacks by an immediate issue
for that express purpose of four or five per cent twenty-year bonds, principal and
interest payable in gold, every greenback to be destroyed as soon as funded, and
no other legislation in regard to specie payments or the currency will be necessary.
Under this policy paper prices could not fall to embarrass debtors; on the contrary,
they would have a tendency to rise, which would be checked by the funding, so that
they would remain comparatively steady, while coin would gradually fill the channels
of circulation, without panic or crisis, until by an increased production and export
of merchandise, we should accumulate a metallic currency, and the uncovered paper
currency would disappear altogether.
I say the uncovered paper currency, because a notion prevails that no paper would
circulate under a metallic system. Certainly the banks would furnish certificates
of deposit for circulation under such a system; the difference being that they would
have coin in reserve, dollar for dollar, and so much capital, which, under a paper
system they have not. And the difference to the country would be in the production
of commodities to exchange for gold and silver that under a paper system are not
produced. Hence producers are more employed and enriched by a metallic system, and
the aggregate capital of the country is augmented accordingly.
The current commercial debts of this country mature in about seventy days on the
average; so that twelve months will be ample time for their readjustment on a gold
basis, and there need be no apprehension of a renewal of paper contracts under the
certainty of the withdrawal of the paper medium, as no one will contract at paper
prices knowing they must be paid in gold.
By no other plan or on no other principle, in my opinion, than this of a double
currency, temporarily maintained for a specified time, can we escape the bankruptcy
and insolvency that form the text of this article.
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