December 31, 1791: The Controversial First Bank of the United States is Chartered

You are there: As the new American government starts up in 1789 one of its most pressing problems lies in creating a stable and credible currency to allow the economy to function. This task falls to Washington’s Treasury Secretary, Alexander Hamilton, who is an avid proponent of capitalism as formulated by the Scotch philosopher Adam Smith. Hamilton recognizes that America lacks a sufficient supply of hard currency, in the form of minted gold and silver coins — especially to support domestic manufacturing, the backbone of rapid economic growth. This means that he must rely on soft money “Bills of Credit” being issued by local banks across the colonies.

But the true value of these banknotes is notoriously unreliable for lack of any regulatory control over their printing. The prime example being Continental Dollars. In 1777 one Continental can be exchanged for one minted Piece of Eight; two years later, it takes 40 Continentals. Which becomes the basis for the derogatory saying, “it ain’t worth a Continental.”

To restore trust, Hamilton will try to insure that those entities handling “Bills of Credit” – largely unchartered state banks – maintain a sufficient supply of gold or silver coins on hand to “back up” their face values. He decides that a ratio of 3:1 (soft money to hard money) will work. For every $3.00 worth of banknotes in circulation the bank must maintain $1.00 worth of coins.

To enforce this ratio, he promises to bring “fraud charges” against any firm refusing a customer’s “demand” to exchange banknotes for gold or silver coins on a dollar for dollar basis. (Although this “exchange pledge” will not become explicit until around 1861.)

Hamilton then adds to his “enforcement power” by another very controversial move – creation of the First Bank of the United States, in February 1791.

It is a “private corporation” owned not by the government, but by individual stockholders expecting to make a profit on their investments. The charter calls for it to begin with $10 million in capital, allocated across 250,000 shares of stock, offered at $400 apiece. The federal government owns $2million of this stock, with the remaining $8 million owned by outside stockholders, each required to make 25% of their buy-in payments in gold or silver specie.

Hamilton sees his “BUS” as having three main public sector functions:

• Taking in federal revenue and paying bills to cover government spending;
• Supporting expenditures to strengthen the nation’s infrastructure; and
• Regulating the banking system and money supply across the state,

“Bank regulation” under Hamilton will take several forms. Formal “chartering” of state banks will accelerate – from a total of three in 1790 to over 300 three decades hence. The U.S. Mint will take control over setting and insuring weight standards and values for gold and silver coinage. The BUS will also flex its muscles with state banks who appeal to it for cash loans. Those local banks in compliance with the 3:1 soft to hard money target, will get loans at lower interest rates; those out of compliance, will suffer higher interest charges or be turned down entirely.

But Hamilton’s plan is met by fierce opposition from Anti-Federalists like Thomas Jefferson and James Madison who regard “soft money” as a proven failure; believe it will lead to wild banker speculation and lost value; and fear a disaster if all holders simultaneously demanded their gold and silver.

They also regard the U.S. Bank as an infringement on the sovereign authority of the states, and suspect that the private investors will manipulate investments to line their own pockets.

To address these issue, they add several constraints: the BUS charter will expire in 20 years; it must be run independently from the government and cannot buy US bonds; directors will be rotated every five years; no foreigners will be allowed to own stocks; and the books can be audited at any time.

Attacks by Anti-Federalists and the Democratic Party continues unabated over time. In 1811, the charter for the First US Bank expires and, despite opposition from his Treasury Secretary Albert Gallatin, Madison refuses to renew it. The existing stock is purchased by Stephen Girard, born in France, a plantation owner and wealthy merchant. He establishes “Girard’s Bank,” with himself as sole proprietor.

But during the War of 1812 Madison finds that, lacking the US Bank, he is forced to rely on Girard to fund roughly 95% of the military budget. In turn, the President reverses course to initiate the Second US Bank in 1816, modeled on its predecessor and chartered for 20 years.

This Second Bank operates until it meets another nemesis in the figure of Andrew Jackson, a fiscal conservative who is the only president ever to pay off the federal debt.

Jackson’s distrusts all bankers and what he regards as their wanton use of soft money to fuel speculative investments that create inflation and repeated financial collapses. For him, the Second Bank becomes the symbol of this corruption, and he calls it “The Monster” while vowing to “kill it before it kills me.”

To administer the coup de gras he decides to announce in 1833 that federal funds will no longer be deposited with the Second Bank, but instead be distributed across various state banks. He asks his own Treasury Secretary, William Duane, to make the announcement, but Duane refuses to comply.

After waiting four months, Jackson fires Duane, replaces him with Roger Taney, and issues the executive order himself, on September 23, 1833.

The order ends all prospects for a re-charter and sends President Nicholas Biddle on a crash mission to protect investors in the Second Bank. Cash on hand at the bank is cut in half within a few months, and to replenish the losses, Biddle “calls in” many outstanding loans, prompting a panic among borrowers, and an effective freeze on making new loans across the country.

Three years later, Jackson again shakes up the financial system by issuing his Specie Circular Act requiring that the purchase of all federal land be paid in gold or silver, not soft money banknotes. This causes public distrust of the value of their cash on hand, and a nationwide run on the banks. The Financial Panic of 1837 follows.

In 1846, another war, this time with Mexico, finds President Polk calling for an Independent Treasury. It moves accountability for handling the collection and dispersal of all public monies into the government, under Treasury Secretary Robert Walker. It will be joined in 1913 by the Federal Reserve System designed to help stabilize the currency.

Thus the notion of a Federal Bank comes full circle, ending with Hamilton’s model over Jefferson’s resistance. Support for Hamilton is evident in the remarkable growth of the nation’s GDP between 1790 and 1860, ending with the total wealth of the United States surpassing all global powers save Great Britain.