A Short History of Paper Money and Banking

Our American Banks are not contented with the profits derived from lending the money of depositors to other people.

As soon as the first instalment of the capital is paid in, the Bank commences issuing notes. To those who come to borrow, it lends paper or coin. The paper being exchanged for coin, serves, at least at the place where it is issued, the same purposes as coin.

Every man desires money, because he can therewith procure whatever else he desires. If paper can procure for him the object of his desire as readily as gold and silver, paper is as desirable to him as gold and silver. The Bank, therefore, finds borrowers for all the coin it has to lend, and all the paper it deems it safe to issue. This addition of notes to the amount of metallic money previously in circulation, raises first the price of some articles and then of others. The borrower from the Bank having more money, either paper or coin, at command, can offer an additional price for the object of his desire, or perhaps procure some desirable object that was before unattainable. He from whom the borrower has bought, having made a speedier sale, or perhaps received a higher price than would otherwise have been possible—he also has it in his power to obtain some object of desire that was not before within his reach. A third, a fourth, a fifth, a sixth, each in his turn, derives a like advantage from this increase of circulating medium. The rise of prices is confined for a time to store goods, but it at length reaches real estate, and finally the wages of labor. Industry is stimulated, and enterprize encouraged. Speculation is excited, private credit is strained, and the representatives of private credit are multiplied. Every body is active, and all branches of business appear to be prosperous.

Nothing could be prettier than this, if prices could be kept continually rising. But it is, unfortunately, only while the amount of Bank issues is actually increasing, or for a short time after they have attained their maximum, that society derives this benefit from paper money. So far it has the same effect as an increase of real money—as an increase of real wealth. But in due time it affects all articles in nearly equal proportions: and men then discover that for an object of desire for which they had formerly to give one dollar, they have now to give one dollar twenty-five cents, or one dollar fifty: and that it is not more easy to get the one dollar and fifty cents to make the purchase with, than it was formerly to get one dollar. The value of land, labor, and commodities, as compared with one another, is the same as it was before. It is only the money price that is enhanced. The effect this has on public prosperity, is much the same as that which would be produced by changing accounts from pounds, shillings, and pence, to federal money. The sum total of dollars would exceed that of pounds, but the articles of the value of which they would be the exponents, would be unaltered in number and in quality.

It would be well if the issues of the Banks had no other effect than that of apparently increasing the wealth of the community, by raising the money valuation of all kinds of property. But these institutions do not continue their issues long, before they raise the price of some commodities above the price they bear in foreign countries, added to the costs of importation. In foreign countries the paper of the Banks will not pass current. The holders of it, therefore, present it for payment. The Banks finding their paper returned, fear they will be drained of coin, and call upon their debtors to repay what has been advanced to them. In two ways, then, is the quantity of circulating medium diminished: first, by the specie’s being exported: secondly, by the paper’s being withdrawn from circulation. Prices fall as rapidly as they had before risen. The traders find that the goods in their stores cannot be. disposed of, unless at a loss. The different members of society had entered into obligations proportionate to the amount of circulating medium in the days of Banking prosperity. The quantity of circulating medium is diminished, and they have not the means of discharging their obligations. The merchandise, the farms, the houses, for which they contracted debts, may be still in their possession; but the product of the farms will not bring, perhaps, half as much as will pay the interest of the original purchase money; the houses will not rent for as much as will pay the interest on the mortgages; and the store goods must, if sold at all, be sold below prime cost. Bills of exchange are dishonored, and promisory notes protested. One man is unable to pay his debts. His creditor depended on him for the means of paying a third person to whom he is himself indebted. The circle extends through society. Multitudes become bankrupt, and a few successful speculators get possession of the earnings and savings of many of their frugal and industrious neighbors.

By the reduction of the amount of Bank medium, the prices of things are lowered, the importation of some kinds of foreign goods is diminished, and specie is brought back. Then the confidence of the Banks is renewed, and they re-commence their issues of paper. Prices are raised again, and speculation is excited anew. But prices soon undergo another fall, and the temporary and artificial prosperity is followed by real and severe adversity.

“Such is the circle which a mixed currency is always describing.”