A Short History of Paper Money and Banking

“The value of Bank medium,” says a writer on this subject, “consists in its elasticity—in its power of alternate expansion and contraction to suit the wants of the community. In truth, the merit of a Bank is nearly in proportion to the flexibility of its means.”

Most unfortunately for this argument, when the demand for money is greatest, the Banks are compelled to contract their issues. When the natural demand is least, they are able to expand most. These “alternate contractions and expansions” do not, therefore, “suit the wants of the community.”

It is not a regard to “the wants of the community” that regulates these “alternate expansions and contractions.” It is a simple regard to their own profits that induces the Banks to expand their issues. In contractions, the Banks have regard only to their own safety.

Every thing is not, indeed, left to the arbitrary discretion of the Directors. The natural and political causes that affect trade, affect also their operations.

If wars, or other political operations, cause a flow of specie to a particular point, the Banks are immediately compelled to reduce their issues of paper. As a demand on the Banks for a million of specie usually causes them to reduce their accommodations to the amount of four millions, the pressure on the community is four times as great as it would be if the foreign demand operated singly.

A rise in the price of our staples in foreign markets enables the Banks immediately to expand their issues. The spirit of speculation is then excited, and the Banks supply it with aliment. Hence, immediately after news of a rise in the price of flour and cotton, in foreign markets, these articles rise so high at home that they cannot be exported and sold at a profit abroad. The original holders gain something by selling their stock to the speculators. The price is raised on the domestic consumer; but very little is added to the wealth of the nation, for the rise of price at home causes little to be exported.

To enumerate all the causes that affect expansions and contractions of Bank issues, would be to enumerate all the causes, immediate or remote, that affect trade, or affect the confidence man has in man. Any thing that excites the spirit of enterprize, has a tendency to increase the amount of Bank issues. Whatever damps the spirit of enterprize or of speculation, has a tendency to reduce the amount of Bank issues. As the wild spirit of speculation has in most cases its origin, and in all its aliment, in Banking transactions, these various causes operate in a circle. The Banks, by expanding their issues, give aliment to the wild spirit of speculation when it begins; and by their contractions, they aggravate the evils of the natural reaction.

One of the principal inducements for preferring the precious metals as the material for money, is their want of this very “elasticity” or “flexibility” which the writer above quoted, declares is the principal excellence of Bank medium. The mere desire of one man to have money, and of another to gratify that desire that he may make a profit by it himself, will not increase the supply of the precious metals. The spirit of wild speculation, therefore, in solid money countries, wants that aliment which is so readily afforded to it in our own. The production of gold and silver requires an expenditure of labor equal to that which must be expended in the production of those articles which gold and silver can procure. The supply is regulated by natural causes which are as powerful as those which regulate the demand.

When an addition is made to the stock of gold and silver in a solid money country, it does not immediately affect prices. It usually comes in the shape of bullion or foreign coin. The importer considers whether a profit may not be acquired by shipping it to some foreign country. If he decides on retaining it, part of it is probably wrought up into plate or jewellery. If he sends it to the mint, some time must elapse before it can be converted into coin. After it is converted into coin, he may not choose to put it immediately into circulation. He may make it part of his reserved stock, and wait for months, perhaps, for an opportunity for making advantageous purchases. If he can make no advantageous purchases at home, he sends the money abroad. Thus while there are powerful causes in operation throughout the commercial world, which make the demand and supply of silver and gold to vary in only an imperceptible degree, from year to year, there are particular causes operating, which make the supply in all solid money countries, just equal to the effective demand, and thereby truly “to suit the wants of the community.”

In such countries, when the spirit of enterprize is awakened by fair prospects of a profitable trade, no sudden plentifulness of money follows to convert the spirit of enterprize into a spirit of wild speculation.

If the enterprizes prove unsuccessful, the evil is not aggravated by an artificial scarcity of money.

If wars, or other political operations, create a demand for specie, the pressure is only equal to the foreign demand—not fourfold, as with us.

If there is a rise abroad in the prices of the staples of exports of a solid money country, no sudden increase of currency raises prices so high as to make the exportation a losing business.

Such are the advantages of an “inflexible” and “non-elastic” money.