The Drama of American Banking
[Review of A History of Money and Banking in the United States by Murray N. Rothbard (Mises Institute 2002)]
The exciting book under review is a collection of Murray Rothbard's essays on money and banking put together some five to six years after his unexpectedly early death and including some material previously unpublished.
In Rothbard's hands these subjects take on new interest and importance. One reason is the author's straightforward narrative style. Rothbard meant to be understood and he did not mean to be trapped in irrelevant verbiage. Few economists—indeed, few academics—aim to write this way.
In addition, Rothbard makes it clear that money and banking are deeply entangled with politics and that most of us, quite unaware of it, are the serfs of well-placed interests, who acquired their present lordship over our economic lives one step at a time, that is to say, historically. Rothbard, as economist and historian, believed that the steps can be traced and reconstructed in a way that amounts to explanation and understanding.
In the introduction to this collection, economist Joseph T. Salerno expounds upon Ludwig von Mises's ideas on the relationship between theory and history, and observes that Rothbard was "the first to consistently apply it [Mises's approach] to economic history" (p. 11). The essential point is that an historian must derive from a multitude of historical givens some sense of past actors' purposes, using common-sense or "ideal-typical" generalizations stemming from social experience—a method which Mises called "thymology." Where needed, the historian also makes use of theory, including economics, without claiming to have found directional "laws of history" as such.
Rothbard also brought to his task his view of politics—that is, his critical insights into the nature of the state. States constitute the organization of the political means to wealth and they thrive by coercively extracting wealth from the actual producers. Further, various groups within society seek incomes above what they might have in the market by allying themselves with state power.
Rothbard took this "cynical" outlook on states from the political writings of Franz Oppenheimer, Albert Jay Nock, and Frank Chodorov (whom he knew personally), and developed it in such essays as "War, Peace, and the State" (1963) and "Anatomy of the State" (1965).
To succeed in their antisocial work, states and their allies need to persuade the broad masses that everything is on the up and up. Thus it pays such people to engage in ideological obfuscation. Let me give one example. Professor Joseph Dorfman of Columbia University, the historian of American economic thought who supervised Rothbard's dissertation on the Panic of 1819, discovered something interesting about early 19th-century advocates of soft money. Very often such a soft-money partisan signed his articles "Old Farmer" or the like. Further research revealed that he was not a farmer, but a major land speculator, merchant, or manufacturer. This put paid to theories that Jacksonian "agrarians" favored inflation because they were poor debtors. The debtors were typically a faction of wealthy enterprisers out for a quick fix.
Colonists, Founders, Factions, and Printers
Rather than go into great detail, I shall just sketch out the main points of each chapter. First comes a very welcome Austrian account of the American monetary politics of the 18th and 19th centuries. Rothbard refutes the alleged "scarcity" of money and credit in the colonial period, showing how gold and silver coins circulated freely as money. If government set an arbitrary ratio between these monies, Gresham's Law—nicely explained by Rothbard—set in.
Rothbard brings the politics of paper money—first introduced in Massachusetts in 1690—under his historical spotlight. He explains the workings of pure paper inflation and fractional-reserve banking so that the reader is prepared for the complications of Revolutionary War finance, public debt, the Constitution movement, and more. He makes the very important political point, that printing-press issues of fiat money were less harmful in the long run than monetized government debt and an inherently unstable banking system.
Once the paper had bottomed out, that was it. It was a bad policy, but its effects stopped with collapse or repudiation of the paper. Alas, it was not so with other inflationary methods.
That observation leads us on to the First and Second Banks of the United States, an uneasy period of free-for-all fractional reserve banking (1833–1862), centralized paper money inflation under Lincoln, Jay Cooke, various post-war "panics," and Populist demands for inflationary coinage of silver. Armed with Austrian theory, Rothbard is able to sort out real depressions from imagined ones. Thus there was no great recession in the 1870s; instead there were falling prices due to increased productivity, but which economists trained to hate and fear deflation take as evidence of recession.
The key political insight that emerges from the first third of book is just this: so long as a metal standard (gold or silver) existed, banks and states ran up against a natural limit to their inflationary maneuvers and were penalized by an outflow of "real money" from the economy. This was a wonderful way of keeping such people's schemes in check. Governments and bankers did not like being checked and worked consciously to break the wholesome economic fetters that bound them.
Enter the 20th CenturyGovernments and bankers were not to be denied their inflated place in the sun. Rothbard lays out in great detail precisely how top bankers, friendly treasury officials, and pro-inflation intellectuals waged protracted war from the late 1890s to 1913 to create the banking cartel we now know as the Fed. He names the perpetrators and draws the lesson that, "power elites cannot achieve their goal of privilege through statism without the vital legitimizing support of the supposedly disinterested experts and the professoriat. To achieve the Leviathan state, interests seeking special privilege, and intellectuals offering scholarship and ideology, must work hand in hand" (p. 259).
Along the way, almost as an afterthought, Rothbard spells out the very important links between the banking reformers and US imperialism. One link has to with the banker-connected school of economists represented by Charles A. Conant. The latter and his colleagues argued for an American central bank and also founded the Leninist theory of "capitalist" imperialism.
Supposedly, the market economy suffered from an inbuilt defect resulting in surplus capital and a falling rate of profit. The cure was foreign markets for goods and investment, markets to be acquired by imperialist endeavor. All Hobson, and later Lenin, had to do was to adopt this analysis, while condemning imperialism where these Americans had praised it.
This argument had had a run about seventy years earlier in Britain, in the works of Edward Gibbon Wakefield, Robert Torrens, and John Stuart Mill, as Rothbard points out in volume II of his Austrian Perspective on the History of Economic Thought (pp. 285–288).
Once the US had seized the Philippine Islands (1898), these economists—now ensconced in government service—tried to impose a new "gold-exchange standard" on their colony, as well as on other silver-standard countries like Mexico, Cuba, and China. The punch-line is that the bankers also made some money (via seigniorage), wherever these deals were successfully carried through. As Rothbard puts it, "the gold-exchange standard establishes a system, in the name of gold, which in reality manages to install coordinated international inflationary paper money" (p. 209). He remarks in a footnote that someone should investigate this imperialist initiative as a cause of the Mexican (and implicitly) the Chinese Revolutions.
But why the Federal Reserve System at home? The central logic was to create a banker's cartel to inflate the money supply by pyramiding issues of paper-out-of-nothing on top of reserves, and then on deposits, which in turn had earlier arisen from nothing, but also, to control the whole process before it could generate a business cycle or boom-bust. The iron hand of the state would prevent the market from redressing depositors' grievances via the usual means: gold outflow, bank runs, collapse, and a short-lived but instructive "bust."
This was a tall order and required considerable massaging of public opinion by Court Intellectuals (a term Rothbard coined on the model of Harry Elmer Barnes's "Court Historians"). The perfection of the bankers' inflationist utopia demanded, in the end, the destruction of any real link to metallic money. Our cousins, the British, took the next steps—as the next section of the book demonstrates.
The War to End Liberalism
In "the senseless catastrophe of 1914–1918" as Joseph Schumpeter called World War I, all the civilized belligerent powers suspended payment of notes in specie and massively inflated their money supplies. After the war, British politicians brilliantly chose to re-jigger the pound at a pre-war level of $4.86, or the gold equivalent, while still needing to inflate at home to hoodwink the syndicalist trade unions. The proto-Keynesian solution to which they came was the gold-exchange standard.
Under this pseudo-gold standard, only central banks would ever need to handle or exchange real gold. Inflation would give a temporary boost to British exports to such places as Greece and Rumania and soothe the trade unions via monetary illusion. Rothbard refers to this as British monetary imperialism—i.e., the export of inflation overseas, which has now become a staple of US foreign economic policy.
The problem with this, addressed here and in the last chapter, was that, try as they might, British inflation would lead eventually to a gold drain—to the United States. The success of British policy hinged on friendly relations to the US central bank, which could inflate the US dollar and thereby thwart the normal outcome of British monetary expansion. It is here that Rothbard introduces US and British bankers close to the J. P. Morgan firm as well as "the cloven hoof of Sir Montagu Norman," Governor of the Bank of England and a personal friend of Benjamin Strong, Governor of the Federal Reserve Bank of New York, the wheelhorse of the US system.
It would be idle to tell the whole story here, when Rothbard does it better. Suffice it to say that the Republican adminstrations of the twenties, or their monetary functionaries, were more than willing to help out the cousins. Of course US-British inflation was a major causal force in bringing on the collapse of 1929.
Morgans and Rockefellers
In another chapter, Rothbard writes that the period 1900–1941 "can far better be comprehended by studying the interrelationships of major financial groupings than by studying the superficial and often sham struggles between Democrats and Republicans" (p. 262). This puts us in touch with the nuts and bolts of monetary policy in relation to specific bankers, political coalitions, foreign affairs, etc. The short story version is that the New Deal coalition, which was close to the Rockefeller interests, rudely shoved aside the Morgan interests and their British allies.
Of such small rivalries are great historical disasters made—and if you don't believe me, read Rothbard, because he has all the details, in spades.
A final chapter on New Deal foreign monetary policy rounds out the book. The discussion here matches in political-historical importance Rothbard's asides on fin de siècle proto-Leninist banking theorists. With the 1929 collapse, the great nation-states fled from even the vestigial gold standard. Free-fall into fiat paper currencies ensued and international political-economic rivalries heated up. Hitler's financial wizard Hjalmar Schacht began to negotiate state-to-state bulk barter deals for commodities with such countries as Rumania in order to by-pass the Anglo-American financial system, which they believed was rigging world markets. (It was.)
Rothbard quotes US Secretary of State Cordell Hull, to good effect, on how these "economic" rivalries contributed to the coming of World War II.
History Not Taught in School
The result of Rothbard's efforts is a unified reinterpretation of US economic history from day one. His reading of events centers on power vs. liberty, state vs. markets, and the attempts of special interest groups to profit from privileges awarded by government, specifically through a practically and morally iffy centralized fractional-reserve banking system, stabilized only by an increasing scale of operation, which now encompasses the entire world.
Rothbard makes sense of these complex events—power struggles, recessions, foreign relations—wielding the principles of monetary theory and Austrian business cycle theory, which he explains very well, on the run. Again: if you don't believe me, read Rothbard. He names the historical "forces" at work—i.e., specific individuals acting in concert toward ends that can plausibly be teased out of the historical tale. His deft handling of individual actors and their genealogical and functional connections calls to mind the work of Sir Lewis Namier. Unlike that historian, the importance of family connections and economic interest did not lead Rothbard to conclude that ideas don't matter: they matter very much indeed.
This is why the Jeffersonian and Jacksonian movements arose to fight against the Walpolean policies of Alexander Hamilton and the two Banks of the United States. Later critics of the bankers—populist, socialist, fascist—have been muddled and bereft of decent theory. And now it is early in the new century but late in the day, and we're waist deep in the Big Financial Muddy and the Big Fool still says "push on." Sound ideas, such as those found in Rothbard's History of Money and Banking in the United States are demanded, if we are to get out of there.