Banking
More Bodenhorn
05/11/10 09:13
State Banking in Early America: A New Economic History
2003
A second book by Bodenhorn! I must really like this guy. I do, actually, although I have issues with economic history which limit this book's usefulness to me. But it was useful, and I got a lot out of it. I need to remember to look into Nathan Appleton's 1836 Examination of the Banking System of Massachusetts, which Bodenhorn uses in both the books I read.
A big part of the motivation for this book seems to have been Bodenhorn’s desire to refute the “historical justification” provided by the two classic histories of banking (Redlich’s The Molding of American Banking and Hammond’s Banks and Politics from the Revolution to the Civil War), for central banking in general and the broadening of the Federal Reserve’s powers after the Great Depression in particular. The other claim Bodenhorn makes is that no one has really done an economic history of American banking, applying and testing state of the art economic theories against historical evidence. Both reasons highlight issues: why do we write history, and how best can we communicate historical insights to the public?
Bodenhorn’s approach and goals are clearly different from mine. I want to communicate with a broad audience, and talk about the past in ways that interest them and are relevant to their lives in the present. He wants to influence a wider range of scholars than economic history monographs normally do, but I think it’s safe to say his focus is still very much on an academic readership. Which is not to say that economic historians have no thought of influencing the present. Bodenhorn regularly cites Ben Bernanke’s published work (does it concern anyone but me that the guy GW Bush put in charge of the Federal Reserve -- and Obama kept -- is an expert on the economic history of the Great Depression?), which might illustrate the way in which economic historians seek to influence the present: from the top, down. That’s completely legitimate -- it just doesn’t happen to be the way I want to do history. But that’s political, not academic. My academic difficulty has to do with the relevance/legitimacy of applying economic models to historical data.
I’m old. I did SPSS on punch-cards, and fed them into a CDC Cyber mainframe at UMass in the 80s. I think I appreciate the ways regression and simple econometric techniques can be used to answer historical questions. But I’m also aware of the assumptions piled on assumptions that make up any complicated economic theory. This is something economists are comfortable with (any econ grad student knows hundreds of jokes about economists and assumptions), and outsiders are more-or-less unaware of -- and I think it’s one of the factors that compromises the usefulness of economic models as explanations in history. The other is, what does an economic model actually model? Once it gets out of the hands of the economists, is it descriptive? Normative? Does it point to the individual decisions of people (and if so, does it assume they’re “rational allocators” or does it allow for complexity and irrationality?), or does it point vaguely toward some generalized “historical force” that we’d say was old-fashioned teleology, if it didn’t come with the shiny new authorization of economic theory?
Maybe my bottom line objection, though, is that economic narratives just don’t excite me at all. I can’t see the people in them. So a lot of State Banking in Early America wasn’t particularly useful to me (again, this says more about me than about the book, which is why this is a blog and not a book review). But some of it was, and some of it will be useful to set up the economic-historiographical baseline that my narrative of upstate New York will depart from.
Bodenhorn’s basic contention is that states with “more banking facilities in 1830 experienced greater rates of growth up to 1860” and that more liberal banking regulations facilitated the growth of banks in these places (New York being a notable one, 3). One of the key economic roles of banks, that they have a particular advantage in, is “in gathering and processing information on the likelihood of success for at least some entrepreneurial projects.” This focus expands slightly on his earlier discussion of banks as funnels for accumulated wealth, but he doesn’t abandon that role either, of course. Bodenhorn expands on the strict definition of free banking, to make it an example of “decentralized federalism,” reflecting “the workings of early American Madisonian polity, in which state governments ceded as little power to the federal government as seemed possible” (5). He accepts Lamoreaux’s description of New England banks as the “financial arms” of “extended kinship networks of artisans, traders, and manufacturers,” as well as her claim that “younger men who promoted banks in the 1830s” did so partly because they were left out of the game by their elders, but quickly caught up to them in wealth and power (7, 15). Even with the proliferation of free banks, however, “most banks fell into the hands of a few shareholders” because “stock ownership was beyond the means of most early nineteenth-century Americans” (19).
Lamoreaux and Glaisek argued that “banks became ‘vehicles of mobility,‘ [through which] young entrepreneurs, strapped for cash, could establish a bank based on stock notes and provide credit primarily to themselves” (22). The period they’re talking about is earlier, and the demographics more urban-mercantile, but I wonder if this type of sentiment is still felt or remembered in the 1840s-50s, when my guys start making regular trips to New York City? These are they types of questions this type of book is silent on -- but at least it opens the door and points me in a direction I can explore. That’s really helpful.
Bodenhorn’s discussion of whether early banks followed a strict real-bills doctrine is interesting, because although he’s more interested in what the bankers did, it sheds light on what they may have thought. While I’m not at all interested in whether bankers conformed to a Schumperterian model, I am interested in what they thought they ought to be doing. Bodenhorn describes providing working capital to “bridge the gap between seedtime and harvest, between the purchase of raw materials and the sale of the finished product” as “passive.” This approach, he says, limits the role of banks to providing “just enough credit to meet the ‘needs of trade’ and no more;” so it’s not the growth-enabling transfer of capital he’s looking for (46). But it’s interesting to me -- and I think it becomes even more interesting if the bankers are actually the people involved in getting in the harvest or creating the product. Thinking of bankers as the actors rather than completely detached third parties seems more realistic to me (especially in smaller rural markets), and much more interesting.
Another really helpful thing this book does is specify some of the mechanics of early banking, giving me a little bit of a crash-course in terminology and functions. “Banknotes” are “noninterest-bearing promissory notes payable on demand at par at the issuing bank or authorized agency” (40). They differ from bills of exchange in that bills are usually redeemed somewhere else, and then the redeeming bank (or merchant) returns them to the issuing bank for payment. “Nineteenth-century banks,” Bodenhorn says, “extended credit not so much by loans as by discounts...If a merchant presented a banker with a $100 note payable in 30 days, he received $99.50 in funds if the note carried a 6 percent interest charge. In 30 days, he repaid $100” (48). This is interesting, because the bankers aren’t extending general-purpose credit; they’re underwriting transactions. It gets even more interesting, if the merchant doesn’t repay the $100 after 30 days!
Notes are further divided into “single-name paper,” which carried just the drawer’s name, and “double-name paper,” which carried the names of, for example, the merchant and his supplier. Bills of exchange are “double-name,” and the even safer ones are “documentary bills,” which carried an attached bill of lading (49). Both the named parties were liable for the amount, which made these notes safer. Dishonored notes or “clean bills” (those with no attached collateral) would be taken to a local judge or notary, who “recorded it as ‘protested’ for nonpayment and then notified all endorsers...that they stood potentially liable” (49). This also meant that protests could damage a merchant’s relationship with his trade partners as well as his creditors (assuming they weren’t the same people).
“The sheer complexity of these transactions,” Bodenhorn says, “and the apparent ease with which they were carried out, demonstrates that early American financial markets were more sophisticated than often believed” (51-2). This is the exciting part! Especially because these sophisticated, complex transactions connected mercantile centers like New York and Boston with “peripheral” farmers and millers as far away as the western frontier, and it wasn’t a one-way affair. The sophistication was present (and needed) on both sides!
Describing New York’s Safety Fund, Bodenhorn notes that around 1830, “New York’s per capita income was only about 84 percent of the national average,” and about 2/3 of New Yorkers worked on farms (165). The failure of the Wayne County Bank (which had “a reputation of being managed in such a way as to produce large profits for its shareholders” 168) and the Bank of Lyons are central events in the demise of the Safety Fund. The Bank of Lyons expired with about $81,000 in circulation in 1842; the Safety Fund paid a balance of $89,000 (cf. Bodenhorn’s 1996 article, “Zombie Banks...” 163). Free Banking, which passed in New York in 1838 and gradually replaced the Safety Fund, required deposits of bonds or mortgages equalling the amount of circulating notes printed for the bank by the comptroller in Albany. The original 1838 Act also required a specie reserve, but this was later repealed (185). This meant that someone who could scrape together (or borrow from his rich uncle) $100,000 worth of government bonds or mortgages could be a banker (the minimum was soon reduced to $50,000, 192). The uncle would still collect the interest on the securities, so his only liability was the risk his nephew would fail or defraud him. In this sense, starting a bank could represent a very large loan that could be monetized without actually being “spent.” Bodenhorn says this money supply was inelastic and resulted in “a general underissue of notes” relative to chartered bank issues, but I disagree (186). Chartered banks were limited by the requirement that they hold specie reserves, so they were by definition “money center” banks in mercantile cities (that’s where the gold was). And, possibly more importantly, velocity is money supply. If my notes are circulating through the economy twice as fast as yours, that’s the same as me having twice as many of them.
Free banking, Bodenhorn says, was “an unanticipated outcome of the bank war” (190). He notes, though, that the Equal Rights Party (aka the Loco-Focos) “opposed the privilege and corruption associated with corporate banking...and championed the elimination of all banks.” When the Whigs took over in New York, they called their banks “associations” and issued “circulating notes” (191). Is this a distinction without a difference, or does it point to a subtle shift in ideas about what banking was for in New York state? The big innovation of free banking, Bodenhorn concludes, was “free incorporation” (his emphasis, 218). “New York’s free banking law made incorporation a routine administrative function rather than a legislative function.” This is definitely a big, ominous change, and it’s interesting that free banking contributed to it. But I still think there’s something potentially more interesting, lurking behind this story, which may have something to do with the New York Whigs...
Banks: Capital or Credit
03/11/10 21:22
A History of Banking in Antebellum America: Financial Markets and Economic Development in the Era of Nation-Building
2000
Bodenhorn focuses on the capital formation function of banks -- I’m more interested in their transactional nature, as facilitators of exchange and sort-term credit. Seems like their might be two ways of looking at banks, and thinking about their role in antebellum America. One believes that growth was based on “capital deepening”: the accumulation of assets that were devoted to investment rather than consumption. The other believes that growth was based on overextension -- on basically living beyond your means, and juggling credit as best as you can to keep the foreclosers at bay.
Bodenhorn says “by 1820...banks became better known, more reputable, more established, and therefore more trusted,” presumably convincing more people (whether as shareholders or depositors) to put their money in banks (8). This is capital deepening, a supply-side argument: growth happened when banks began to accumulate enough money to lend to industrialists or invest. But then, growth has to await savable surpluses. This does not seem to have been the case in Western NY.
Maybe it’s a regional difference. Maybe the upstate banks (and the businessmen who declared themselves to be bankers so that they could write their own notes rather than running around the county looking for currency) were taking advantage of an earlier “deepening” of the type Bodenhorn describes, that took place in Boston, Philadelphia, and New York. “Bank-supplied currency,” he says, “performed [a] dual role as both a medium of exchange and a store of wealth” (9). But since banknotes were a claim on assets (always provided you didn’t claim them, as noted elsewhere), they were basically debt. And the rest of the paper circulating as money was out-and-out debt: promissory notes. So it’s borrowing (even if only in the form of drafts written against shipped -- but not received -- products) that drives the money supply. Even the ability to take your note and deposit it at a neighboring bank, and then draw against that deposit, suggests that capital formation, at least in the sticks, is based on credit.
Bodenhorn says Hugh Patrick called these competing views “demand-following” and “supply-leading,” but the way he uses them is not exactly what I was talking about. In the “demand-following” model, “financial intermediaries were passive agents, permissive of growth” (11). The economy grew, and when people needed banking services, bankers appeared to supply them. The “supply-leading” model, on the other hand, says “the creation of financial institutions and the supply of financial services must arise prior to the demand for them” (13) How does this happen? Bodenhorn suggests a compromise, in which the banks arise “prior to the development of a modern manufacturing sector” (14). Agricultural growth enriches people, who then put their money in banks where it becomes available to new industrial enterprises. As proof, Bodenhorn cites New York’s bank commissioners, who said in 1835 that banks were “among the most useful and powerful agents in developing the resources and stimulating the industry of the country” (15). “Banks, it seems clear,” he concludes, “were attributed leadership status by contemporary Americans.” But bank commissioners would be expected to say that. Even if they were completely sincere, they were bureaucrats, not entrepreneurs. It would be completely natural for them to put the cart before the horse.
I don’t really see a big difference between Patrick’s two models of banking. In my mind, they’re both “supply-side,” because they both focus on the role of the bank. Bodenhorn says there was about $41 million of specie in the US economy in 1820, but half of it was tied up in bank reserves. There were $36 million in bank notes, and $27 million in deposits (which are also considered liabilities of the banks, because they can be drawn against, 16-17). So “Of the $83 million in currency chasing goods around the economy, about 76 percent of it was bank-supplied” (17). But in spite of this, Bodenhorn insists that “Money creation by banks, however important it may have been, was incidental to their most fundamental task--that of intermediating between borrowers and lenders, savers and investors” (18). The rest of the book focuses very tightly on this intermediary function, which makes it less useful for my needs.
Why? Because I don’t think that’s what the guys I’m studying in upstate New York were up to. Maybe it’s just a case of emphasis, but I really see the banks’ role as providing a circulating medium without which deals can’t be done. Bodenhorn admits that “a fractional reserve system [was] a cheaper way to provide a given volume of money than...a pure specie basis,” but he ignores the huge impact this would have in areas where money was tight (18). Especially after the Specie Circular in 1837, when all the hard money was either in eastern cities or on the frontier, the need for money in the middle (the farmland) was extreme. A fractional reserve system allows banks to inflate the currency. It also speeds up the velocity of money, because paper can be handed from buyer to seller to supplier to next seller much faster than bags of gold. And faster money (higher velocity of transactions) is the same as more money. Then there’s all the notes and drafts that are being endorsed from one hand to the next (not even counted in Bodenhorn’s $83 million -- he specifically set aside credit between individuals on p. 16). So the actual comparison ought to be between $41 million of gold and silver on the one hand, held by hoarders or moving very slowly and heavily through the economy; and something like $60 to $100 million of paper on the other, issued by banks and merchants, speeding its way from hand to hand, making transactions happen every step of the way. Looked at this way, what’s the most important role of antebellum banks?
The other big difference between these models of capital formation, which focus on banks as either conduits of wealth from holders to users, or as creators of a money supply that enables trade, is that in the first one, the rich get richer, by definition. The wealthy stop hoarding their assets and put them into play in the market by handing them over to bankers to lend or invest. But in the second model, it’s not so clear. Millers “on the make”* write notes against shipments of flour to market, and discount them at their local bank, then hand those notes to the next batch of farmers who show up with wheat. Yeah, this is credit -- but it’s not the “freeing up wealth for capital investment” thing Bodenhorn is talking about. The bold may have a fighting chance, even if they start with less of a “hoard.” Bodenhorn suggests that “Bank credit...influenced the pace of industrialization” when it “freed mercantile and industrial capital for fixed investment” (107). Ultimately, his argument hangs on the relative importance of “fixed” vs. “working capital.” While this importance varies significantly with time and place, it seems to me that the much greater volume of “working capital” transactions in the antebellum economy (due in part to the smaller nature of machinery, plant and equipment in antebellum industry but also to the sheer number of credit transactions enabling all trade in a cash-poor farm sector) argues for recognition that in many cases, it wasn’t the bankers’ awakening of old money from its slumber, but their creation of new money, that made America grow.
*Why is it that people who are generally well-disposed towards business and entrepreneurs, still allow themselves to look down their noses and say that everybody in Jacksonian America was “on the make”? Is it because this was the moment when outsiders, people with no social standing or wealth, first got involved in “making money”?
Greenbacks
01/09/10 14:38
Wesley Clair Mitchell
A History of the Greenbacks, With Special Reference to the Economic Consequences of their Issue: 1862-65
1903
Mitchell places a lot of the blame for the government’s need to resort to legal tender notes with the failure of the Buchanan Treasury to raise any money. Treasury Secretary Howell Cobb of Georgia (Vice President of the Confederacy) “for four years had been contracting debts to meet annually recurring deficits.” (7) “Public confidence in the Buchanan administration was shaken,” Mitchell says, and as a result “the government was compelled to pay such high rates of interest” as 12% on one year Treasury Notes. (6-7)
“Though Mr. Chase brought with him little knowledge of financial administration, his mind was deeply impressed with certain financial theories. From his former Democratic affiliations he had imbibed the ‘hard money’ principals of Jackson and Benton and their dislike for paper currencies...The early suspension of specie payments and issue of an irredeemable currency of legal tender paper in the Civil War occurred, then, under the administration of a secretary of the treasury who cherished a strong predilection for metallic money.” (4)
Bull Run showed the North that the War was not going to be quick, easy, or cheap. The government needed to raise a lot of money quickly. Luckily, eastern banks were in a position to help out (and profit by it), since Lincoln’s election had precipitated a “sudden panic [that] caused the banks to curtail discounts. The banks were strong, because they had been hoarding specie in anticipation of war. And businessmen had cut back spending and borrowing. “Transactions of the New York clearing house declined from $129,000,000 in the second week of March [1861]. to $80,000,000 in the corresponding week of August. The banks...found it still more difficult to lend their capital. From December, 1860, to August, 1861, bank loans in New York diminished $23,000,000; in Boston the fall from January to July was $2,000,000 and in Philadelphia $3,000,000.” (22) Heavy grain exports (due to good American and poor European harvests) shifted the balance of (gold) payments toward the US, offsetting the decline in California gold shipments as the western boom ended. In August 1861, “the ratio of specie held by the associated banks of New York to their deposits and circulation was 50 percent; for Boston it was 27, and for Philadelphia 39 percent. Thus the banks were unusually strong; but they were making little profit because the stagnation of trade gave them few opportunities of lending to business men.” (23)
“The indebtedness of the South to the North was estimated on the basis of R.G. Dun & Company’s annual circular for 1861 at $300,000,000...The losses of northern creditors were usually reckoned at $200,000,000.” (21, note 5) “The specie in circulation was estimated by the director of the mint in October, 1861, at from $275,000,000 to $300,000,000, of which he thought not more than $20,000,000 was at the South...and the bank notes reported as issued by the 1,289 institutions in the loyal states amounted to about $129,000,000.” (142) But because bank notes were redeemable in specie (by state law in places like NY), banks began issuing certified checks instead of notes, and “there was a marked contraction in the bank-note circulation in the first months of 1862. January 4, the New York city banks had outstanding $8,600,000 of notes; by March 1 this circulation had fallen to $5,400,000.” (145) But after greenbacks began circulating in April 1862, the banks resumed paying out their own notes again, and “by May 3 their circulation was practically as large as it had been January 4.” (146)
“The first greenbacks in New York came in a remittance of $4,000,000 received by the assistant treasurer April 5...and from this time on issues were so rapid that $90,000,000 was outstanding before the 7th of June.” (155) For smaller denominations and “change,” the government issues “postal currency.” Basically, stamps. (164) Greenbacks became the standard of value, and gold became a commodity. “From the published tables of the premium it appears that regular dealing in gold began on the New York stock exchange January 13, 1862.” (183) Soon “gold became as favorite an article to speculate in as petroleum stocks or railway shares.” (185) “The price of gold in currency” was a measure of the deflation of the dollar’s value [but how much it correlated to general price inflation is more complicated], and “as determined by transactions in these New York markets, was regularly reported by telegraph in all considerable towns of the United States, and everywhere accepted as authoritative.” This may be the real point -- that New York became the money center, because there was a valuation to be made in the first place, and because there was a telegraph, to broadcast the news and create a uniform national value for gold. Did this function to stabilize prices across distances too, or did they vary with local conditions?
Price inflation was apparently less of a concern than “deflation” of the value of the dollar relative to gold. But when politicians and commentators discussed the question, “it was common to begin by demonstrating that the premium and the volume of the currency did not vary concomitantly, as they legitimately should have done [according to the accepted quantity theory of money], and then to launch into a tirade against unpatriotic gold gamblers.” (188-9) Because it was not needed for currency, gold became an export commodity. “In the fiscal year 1861 imports of gold exceeded exports by $14,900,000, but after specie payments had been suspended in 1862 exports exceeded imports by $21,500,000, in 1863 by $56,600,000, in 1864 by $89,500,000, in 1865 by $51,900,000, and in 1866 by $63,000,000.” (191) But even so, there was a desire among some [who, exactly?] to get back to a gold standard. “Lincoln’s re-election meant an indefinite prolongation of the war, and hence destroyed any chance of a speedy redemption of the paper money. On the strength of this view there was a fall on the 9th from $40.65 to $38.46. However, a reaction quickly followed.” (206)
But back to the question of prices and “real wages.” Mitchell shows that there was significant inflation during the war years. Based on a bundle of 36 retail commodities, prices rose from a “100” level in 1860 to peak at “264” in West Virginia, “283” in Ohio, and “218” in Indiana in 1864, before settling down to an average of “200” across the board by 1866. If this bundle is representative, retail commodities were twice as expensive at the end of the war as they had been at its beginning. (table, 340) Additionally, Mitchell mentions that on “almost all loans made before 1864 and repaid at any subsequent time...the creditor found that the sum returned to him had a purchasing power much less” than when he loaned the money. (364) This loss in value to the lender was theoretically a gain to the borrower, but since everything was suddenly more expensive, the borrower may not have felt like a winner either. Mitchell also suggests that “farmers of the loyal states were among the unfortunate producers whose products rose in price less than the majority of other articles, and that from this standpoint they were the losers rather than the gainers by the paper currency.” (388) But is this conclusion based on Mitchell’s knowledge that this is a point of contention in later [Populist] arguments? If greenbacks had never been adopted, isn’t it possible that supply and demand conditions in the wartime economy would have resulted in depressed farm prices relative to suddenly scarce imports and non-defense manufactures?
Mitchell’s last point is that the Civil War increased the “rapid accumulation of an unusual number of fortunes,” by changing the distribution of wealth in the US. Most “war-time fortunes,” he says, “resulted in a very large measure from the mere transfer of wealth from a wide circle of persons to the relatively small number” of people who had access to the proceeds of wartime industry. (400) This effect is probably given less attention than it deserves, Mitchell adds, because we underestimate the severity of the “transfer.” “The same trait that leads fortunate people to flaunt their material prosperity in the eyes of the world,” he says, “leads the unfortunate to conceal their small privations. Even an attentive observer may fail to notice that the wives of workingmen are still wearing their last year’s dresses and that the children are running barefoot longer than usual.” (400) Thus the enrichment of the few is noticed, and reformers complain of it, but it’s not seen as due to the impoverishment of everybody else. We believe we’re playing a positive sum game, when in fact we’re not. That’s probably true to some degree -- the question is, where and how much?
A History of the Greenbacks, With Special Reference to the Economic Consequences of their Issue: 1862-65
1903
Mitchell places a lot of the blame for the government’s need to resort to legal tender notes with the failure of the Buchanan Treasury to raise any money. Treasury Secretary Howell Cobb of Georgia (Vice President of the Confederacy) “for four years had been contracting debts to meet annually recurring deficits.” (7) “Public confidence in the Buchanan administration was shaken,” Mitchell says, and as a result “the government was compelled to pay such high rates of interest” as 12% on one year Treasury Notes. (6-7)
“Though Mr. Chase brought with him little knowledge of financial administration, his mind was deeply impressed with certain financial theories. From his former Democratic affiliations he had imbibed the ‘hard money’ principals of Jackson and Benton and their dislike for paper currencies...The early suspension of specie payments and issue of an irredeemable currency of legal tender paper in the Civil War occurred, then, under the administration of a secretary of the treasury who cherished a strong predilection for metallic money.” (4)
Bull Run showed the North that the War was not going to be quick, easy, or cheap. The government needed to raise a lot of money quickly. Luckily, eastern banks were in a position to help out (and profit by it), since Lincoln’s election had precipitated a “sudden panic [that] caused the banks to curtail discounts. The banks were strong, because they had been hoarding specie in anticipation of war. And businessmen had cut back spending and borrowing. “Transactions of the New York clearing house declined from $129,000,000 in the second week of March [1861]. to $80,000,000 in the corresponding week of August. The banks...found it still more difficult to lend their capital. From December, 1860, to August, 1861, bank loans in New York diminished $23,000,000; in Boston the fall from January to July was $2,000,000 and in Philadelphia $3,000,000.” (22) Heavy grain exports (due to good American and poor European harvests) shifted the balance of (gold) payments toward the US, offsetting the decline in California gold shipments as the western boom ended. In August 1861, “the ratio of specie held by the associated banks of New York to their deposits and circulation was 50 percent; for Boston it was 27, and for Philadelphia 39 percent. Thus the banks were unusually strong; but they were making little profit because the stagnation of trade gave them few opportunities of lending to business men.” (23)
“The indebtedness of the South to the North was estimated on the basis of R.G. Dun & Company’s annual circular for 1861 at $300,000,000...The losses of northern creditors were usually reckoned at $200,000,000.” (21, note 5) “The specie in circulation was estimated by the director of the mint in October, 1861, at from $275,000,000 to $300,000,000, of which he thought not more than $20,000,000 was at the South...and the bank notes reported as issued by the 1,289 institutions in the loyal states amounted to about $129,000,000.” (142) But because bank notes were redeemable in specie (by state law in places like NY), banks began issuing certified checks instead of notes, and “there was a marked contraction in the bank-note circulation in the first months of 1862. January 4, the New York city banks had outstanding $8,600,000 of notes; by March 1 this circulation had fallen to $5,400,000.” (145) But after greenbacks began circulating in April 1862, the banks resumed paying out their own notes again, and “by May 3 their circulation was practically as large as it had been January 4.” (146)
“The first greenbacks in New York came in a remittance of $4,000,000 received by the assistant treasurer April 5...and from this time on issues were so rapid that $90,000,000 was outstanding before the 7th of June.” (155) For smaller denominations and “change,” the government issues “postal currency.” Basically, stamps. (164) Greenbacks became the standard of value, and gold became a commodity. “From the published tables of the premium it appears that regular dealing in gold began on the New York stock exchange January 13, 1862.” (183) Soon “gold became as favorite an article to speculate in as petroleum stocks or railway shares.” (185) “The price of gold in currency” was a measure of the deflation of the dollar’s value [but how much it correlated to general price inflation is more complicated], and “as determined by transactions in these New York markets, was regularly reported by telegraph in all considerable towns of the United States, and everywhere accepted as authoritative.” This may be the real point -- that New York became the money center, because there was a valuation to be made in the first place, and because there was a telegraph, to broadcast the news and create a uniform national value for gold. Did this function to stabilize prices across distances too, or did they vary with local conditions?
Price inflation was apparently less of a concern than “deflation” of the value of the dollar relative to gold. But when politicians and commentators discussed the question, “it was common to begin by demonstrating that the premium and the volume of the currency did not vary concomitantly, as they legitimately should have done [according to the accepted quantity theory of money], and then to launch into a tirade against unpatriotic gold gamblers.” (188-9) Because it was not needed for currency, gold became an export commodity. “In the fiscal year 1861 imports of gold exceeded exports by $14,900,000, but after specie payments had been suspended in 1862 exports exceeded imports by $21,500,000, in 1863 by $56,600,000, in 1864 by $89,500,000, in 1865 by $51,900,000, and in 1866 by $63,000,000.” (191) But even so, there was a desire among some [who, exactly?] to get back to a gold standard. “Lincoln’s re-election meant an indefinite prolongation of the war, and hence destroyed any chance of a speedy redemption of the paper money. On the strength of this view there was a fall on the 9th from $40.65 to $38.46. However, a reaction quickly followed.” (206)
But back to the question of prices and “real wages.” Mitchell shows that there was significant inflation during the war years. Based on a bundle of 36 retail commodities, prices rose from a “100” level in 1860 to peak at “264” in West Virginia, “283” in Ohio, and “218” in Indiana in 1864, before settling down to an average of “200” across the board by 1866. If this bundle is representative, retail commodities were twice as expensive at the end of the war as they had been at its beginning. (table, 340) Additionally, Mitchell mentions that on “almost all loans made before 1864 and repaid at any subsequent time...the creditor found that the sum returned to him had a purchasing power much less” than when he loaned the money. (364) This loss in value to the lender was theoretically a gain to the borrower, but since everything was suddenly more expensive, the borrower may not have felt like a winner either. Mitchell also suggests that “farmers of the loyal states were among the unfortunate producers whose products rose in price less than the majority of other articles, and that from this standpoint they were the losers rather than the gainers by the paper currency.” (388) But is this conclusion based on Mitchell’s knowledge that this is a point of contention in later [Populist] arguments? If greenbacks had never been adopted, isn’t it possible that supply and demand conditions in the wartime economy would have resulted in depressed farm prices relative to suddenly scarce imports and non-defense manufactures?
Mitchell’s last point is that the Civil War increased the “rapid accumulation of an unusual number of fortunes,” by changing the distribution of wealth in the US. Most “war-time fortunes,” he says, “resulted in a very large measure from the mere transfer of wealth from a wide circle of persons to the relatively small number” of people who had access to the proceeds of wartime industry. (400) This effect is probably given less attention than it deserves, Mitchell adds, because we underestimate the severity of the “transfer.” “The same trait that leads fortunate people to flaunt their material prosperity in the eyes of the world,” he says, “leads the unfortunate to conceal their small privations. Even an attentive observer may fail to notice that the wives of workingmen are still wearing their last year’s dresses and that the children are running barefoot longer than usual.” (400) Thus the enrichment of the few is noticed, and reformers complain of it, but it’s not seen as due to the impoverishment of everybody else. We believe we’re playing a positive sum game, when in fact we’re not. That’s probably true to some degree -- the question is, where and how much?
A digression into money
25/08/10 14:45
Made a side-trip today, into the history of money in the U.S. Read:
John Jay Knox, United States Notes: A History of the Various Issues of Paper Money by the Government of the United States, 1894
A. Barton Hepburn, History of Coinage and Currency in the United States and the Perennial Contest for Sound Currency, 1903
Wilford I. King, “Circulating Credit: Its Nature and Relation to the Public Welfare" American Economic Review 10:4 (Dec 1920)
Started a couple of more recent things, that will take a couple of days. The whole point of this detour, is for me to try to get a handle on the way people used money and credit in the 1840s through the late 1860s. After this, there’s a “period” shift -- we’re suddenly into the “greenback” era and the fights over bi-metalism and money that animated a lot of the Populists and ultimately led to the establishment of the Federal Reserve system after the Panic of 1907.
BUT...there seems to be a link missing in this change. The historiography seems to jump right from the “market transition” to the gilded age and its money problems, and in doing this I think it misses an intermediate period that lasted two or three decades in some places. So I’m trying to get a handle on what I think goes into this “financial transition” -- and to see if somebody really has said something about it, and I just haven’t found it yet.
John Jay Knox, United States Notes: A History of the Various Issues of Paper Money by the Government of the United States, 1894
A. Barton Hepburn, History of Coinage and Currency in the United States and the Perennial Contest for Sound Currency, 1903
Wilford I. King, “Circulating Credit: Its Nature and Relation to the Public Welfare" American Economic Review 10:4 (Dec 1920)
Started a couple of more recent things, that will take a couple of days. The whole point of this detour, is for me to try to get a handle on the way people used money and credit in the 1840s through the late 1860s. After this, there’s a “period” shift -- we’re suddenly into the “greenback” era and the fights over bi-metalism and money that animated a lot of the Populists and ultimately led to the establishment of the Federal Reserve system after the Panic of 1907.
BUT...there seems to be a link missing in this change. The historiography seems to jump right from the “market transition” to the gilded age and its money problems, and in doing this I think it misses an intermediate period that lasted two or three decades in some places. So I’m trying to get a handle on what I think goes into this “financial transition” -- and to see if somebody really has said something about it, and I just haven’t found it yet.
Banking and Economic Development
09/07/10 17:23
Rockoff, H. T. (1975). "Varieties of Banking and Regional Economic Development in the United States, 1840-1860." The Journal of Economic History 35(1): 160-181.
Although this is essentially an economic history article (meaning it uses and then discusses statistical techniques that I’m not interested in, and don’t necessarily believe), Rockoff makes some points that are helpful to me. First, the general premise, that in “the two decades before the Civil War...the Federal Government withdrew from the regulation of banking” (irrelevant for me, but interesting for our times, Rockoff ultimately concludes that banking deregulation had little measurable effect on economic development in this period).
Rockoff measures “bank deposits and circulating notes...per capita as the measure of financial development.” (160) This approach favors areas where population and wealth (and possibly inequality) are greatest, and not surprisingly urbanity correlates strongly with “financial development.” But this may be misleading. Rockoff seems to ignore other economic uses of money in favor of its role as a store and signal of wealth. This basically wealth-oriented perspective discounts the (possibly much) greater velocity of money in developing regions, where funds are continuously cycling through the economy as people buy, sell, build, and consume. Rockoff’s lack of interest in this distinction is shown in the fact that New York is treated as a single entity, when in fact between 1840 and 1860, the state was a textbook example of the difference between urban and rural economies.
Rockoff highlights “free banking” laws in his analysis, which “ended the requirement that banks obtain their charters through special legislative acts.” (161) But this did not mean laissez faire. Even under free banking, the law “prohibited banks from investing in real property, [and] banks had to back issues of circulating notes with government bonds deposited with a state authority.” (162) The bond-reserve requirement (he doesn’t say, but I assume it was a 100% reserve) provided some security, but perhaps not as much as a specie reserve would have done. There seems to have been a way to “game” the discrepancy between par and market values of the underlying (state-issued) bonds. And many banks seem to have been started with capital that was immediately returned to investors in the form of loans. (160) But in any case, Rockoff says “from 1845 to 1860 New York experienced virtually no bank failures.” (162)
Rockoff notes that the “rate of growth of money per capita” in New York during this period “was quite rapid: 4.41 percent compared with 2.56 percent for the country as a whole.” (163) Of course, for my purposes, there’s the unresolved question of how much of that money growth was confined to New York City, and whether any of it found its way upstate? Proximity to the city probably increased the velocity of money through producing regions along the canal, but did it also divert accumulation to banks and their corresponding investments in the city, at the expense of local investment? Rockoff says “level of urbanization...explain[s] about seventy percent of the variance in per capita money balances.” (167) But he also admits “these coefficients refer to stocks of assets rather than flows and should therefore be compared with wealth rather than income.” (169)
And maybe this is the biggest take-away for me --- that there’s a difference between wealth and income. The way money works in a system (or the way you see it working) is different when it’s moving, from when it’s accumulated. I don’t have the language for it yet (and I should probably look for this in period, rather than in contemporary sources), but there’s a crucial difference between stocks and flows of money in the nineteenth century. To the extent that accumulation was an urban phenomenon (even for the rural elite, who deposited their wealth in secure, prestigious urban institutions), this is another “country/city” issue. And maybe it plays a role in the personalities and conflicts I’m seeing in sources like the credit reports...
Although this is essentially an economic history article (meaning it uses and then discusses statistical techniques that I’m not interested in, and don’t necessarily believe), Rockoff makes some points that are helpful to me. First, the general premise, that in “the two decades before the Civil War...the Federal Government withdrew from the regulation of banking” (irrelevant for me, but interesting for our times, Rockoff ultimately concludes that banking deregulation had little measurable effect on economic development in this period).
Rockoff measures “bank deposits and circulating notes...per capita as the measure of financial development.” (160) This approach favors areas where population and wealth (and possibly inequality) are greatest, and not surprisingly urbanity correlates strongly with “financial development.” But this may be misleading. Rockoff seems to ignore other economic uses of money in favor of its role as a store and signal of wealth. This basically wealth-oriented perspective discounts the (possibly much) greater velocity of money in developing regions, where funds are continuously cycling through the economy as people buy, sell, build, and consume. Rockoff’s lack of interest in this distinction is shown in the fact that New York is treated as a single entity, when in fact between 1840 and 1860, the state was a textbook example of the difference between urban and rural economies.
Rockoff highlights “free banking” laws in his analysis, which “ended the requirement that banks obtain their charters through special legislative acts.” (161) But this did not mean laissez faire. Even under free banking, the law “prohibited banks from investing in real property, [and] banks had to back issues of circulating notes with government bonds deposited with a state authority.” (162) The bond-reserve requirement (he doesn’t say, but I assume it was a 100% reserve) provided some security, but perhaps not as much as a specie reserve would have done. There seems to have been a way to “game” the discrepancy between par and market values of the underlying (state-issued) bonds. And many banks seem to have been started with capital that was immediately returned to investors in the form of loans. (160) But in any case, Rockoff says “from 1845 to 1860 New York experienced virtually no bank failures.” (162)
Rockoff notes that the “rate of growth of money per capita” in New York during this period “was quite rapid: 4.41 percent compared with 2.56 percent for the country as a whole.” (163) Of course, for my purposes, there’s the unresolved question of how much of that money growth was confined to New York City, and whether any of it found its way upstate? Proximity to the city probably increased the velocity of money through producing regions along the canal, but did it also divert accumulation to banks and their corresponding investments in the city, at the expense of local investment? Rockoff says “level of urbanization...explain[s] about seventy percent of the variance in per capita money balances.” (167) But he also admits “these coefficients refer to stocks of assets rather than flows and should therefore be compared with wealth rather than income.” (169)
And maybe this is the biggest take-away for me --- that there’s a difference between wealth and income. The way money works in a system (or the way you see it working) is different when it’s moving, from when it’s accumulated. I don’t have the language for it yet (and I should probably look for this in period, rather than in contemporary sources), but there’s a crucial difference between stocks and flows of money in the nineteenth century. To the extent that accumulation was an urban phenomenon (even for the rural elite, who deposited their wealth in secure, prestigious urban institutions), this is another “country/city” issue. And maybe it plays a role in the personalities and conflicts I’m seeing in sources like the credit reports...
Banks and Kinship
10/07/10 17:22
Lamoreaux, N. R. (1986). "Banks, Kinship, and Economic Development: The New England Case." The Journal of Economic History 46(3): 647-667.
Lamoreaux challenges “scholars [who] have seen the persistence of traditional social institutions, and especially kinship-oriented business, as major impediments to economic development.” (666) Using an approach that looks somewhat like the Zeitlin/Ratcliff Chilean kinship-network argument of Landlords and Capitalists (albeit with a positive spin), Lamoreaux argues that “Early banks in New England functioned not as commercial banks in the modern sense but as the financial arms of extended kinship networks.” (647)
“Scholars who have explored the relationship between banks and economic development have assessed the banking system in terms of what theoretically are its two major functions: to provide an adequate money supply and to serve as an intermediary between savers and investors.” I’d add one more function, which I think was behind Rockoff’s approach: as an intermediary to safeguard and insulate urban investors’ wealth (money stock) from direct contact with rural entrepreneur/borrowers (money flow). But I completely buy her argument that it’s the personal connections and kinship groups that are key here.
In 1800 there were 17 state-chartered banks in New England, with capital totaling $5.50 million. By 1850, this number had increased to 300, and the capital available for loan to $62.87 million. Ten years later, 505 New England banks controlled $123.56 million. (chart, 651) Capital during this period came to banks not primarily through deposits, but through investment, as first the founders and later a wider range of local people bought shares. Lamoreaux disagrees with Rockoff: even if initial capital “was largely fictitous...deposited only to satisfy legal requirements and then immediately withdrawn in the form of loans...sales of new shares to outsiders gradually transformed capital stock to a legitimate source of funds. (653-4) This may be true, but does it avoid the point that by getting in cheaply and then controlling subsequent paid-in capital, bank owners gained an incredible degree of economic power?
In the long run, institutional investors like insurance companies, savings associations, and trustees of large estates contributed the majority of bank capital. In many cases, these institutions were part of the same kin networks that initially owned, and continued to run the banks. “Members of kinship groups generally held large blocks of their banks’ stock at the time of formation.” (655) The percentage of bank stock held by the initial owners tended to decrease as the banks grew, but “the groups often retained their dominant positions on the banks’ boards of directors...because other stockholders rarely took an interest in the institutions’ affairs.” (655-6) And these same “kinship groups...often dominated the boards of the institutional investors that purchased their banks’ stock.” (657)
The role of these banks (despite the public-service rhetoric they employed to get their corporate charters during the early period, when incorporation implied quasi-governmental public status) was to “become engines to supply insiders with capital.” (657) “Even a prudent businessman,” Lamoreaux says, “might find himself in financial difficulty.” (658) The panic of 1837 and depression of 1839 had certainly proven that point. An emergency might force him to “convert illiquid assets into cash to pay off debts.” A friendly bank could “prevent distress sales of assets by accepting notes to balance accounts.” (659) After spending so much of his time in New York City, observing this process, is it any surprise that my upstate merchant started his own bank? Especially since, in the words of the 1854 Bankers Magazine, “where business is constantly and rapidly expanding, the younger class of business men who are entitled to bank facilities, equally with their older brethren, cannot have their wants fairly supplied without the occasional establishment of new banks. The old circle of customers use the existing banks to the extent of their capacity, and keep their door shut against the new men.” (663)
This raises questions that were apparently understood by bankers in the 1850s. Lamoreaux answers that “although the system of group-dominated banking doubtless resulted in some degree of favoritism in credit markets, the situation was remarkably fluid. Up-and-coming groups were able to build financial empires that rivaled those of the oldest, most established merchant families in the region.” (664) But even with no barriers to entry, is this what we’d call a “credit market?”
One thing that does seem certain, though, is that these banks facilitated a particular type of economic development. “Could kinship groups have tapped the community’s savings without their aid?” Lamoreaux asks. “The market for securities of manufacturing corporations in early nineteenth-century New England was extremely narrow,” she says. Even the Boston Associates failed to raise enough capital, and were forced to borrow. “The market for bank securities was much wider...because the diversified enterprises of the kinship groups permitted them to pay high and steady dividends and thereby draw out the community’s savings in a way that most individual ventures could never have done.” (665) “Without banks,” she concludes, “kinship groups would have been forced to depend largely on their own resources to finance investment.” (666)
Even if New England’s financial system allowed relatively free entry into banking, and banks allowed a slightly wider public to participate in a diversified portfolio of investments that would otherwise have been restricted to the very rich, was the concentration of economic activity in the hands of these “kinship groups” a good thing? Lamoreaux mentions in the first few pages of her article that lawsuits across New England challenged the “insider” ways in which these chartered corporations behaved. Even banking commissioners admitted “an almost uniform departure from the original design of banks in this respect.” (651) Although it involves counterhistorical speculation, it might be useful to ask what alternatives there may have been to simply accepting the inevitability that “kinship groups” should gain access to the “community’s savings” to finance business ventures for their individual benefit. To what degree is this a free choice, made by empowered individuals (investors and later depositors) acting in their own best interests, and to what degree is the public’s range of choices limited by laws and social conventions that allow incorporation, interlocking control, and that regulate the terms and conditions of credit? (along these lines, do usury laws actually benefit established banks, by lowering the incentive for individuals to loan money to each other at higher -- risk-appropriate -- rates of interest?)
Lamoreaux challenges “scholars [who] have seen the persistence of traditional social institutions, and especially kinship-oriented business, as major impediments to economic development.” (666) Using an approach that looks somewhat like the Zeitlin/Ratcliff Chilean kinship-network argument of Landlords and Capitalists (albeit with a positive spin), Lamoreaux argues that “Early banks in New England functioned not as commercial banks in the modern sense but as the financial arms of extended kinship networks.” (647)
“Scholars who have explored the relationship between banks and economic development have assessed the banking system in terms of what theoretically are its two major functions: to provide an adequate money supply and to serve as an intermediary between savers and investors.” I’d add one more function, which I think was behind Rockoff’s approach: as an intermediary to safeguard and insulate urban investors’ wealth (money stock) from direct contact with rural entrepreneur/borrowers (money flow). But I completely buy her argument that it’s the personal connections and kinship groups that are key here.
In 1800 there were 17 state-chartered banks in New England, with capital totaling $5.50 million. By 1850, this number had increased to 300, and the capital available for loan to $62.87 million. Ten years later, 505 New England banks controlled $123.56 million. (chart, 651) Capital during this period came to banks not primarily through deposits, but through investment, as first the founders and later a wider range of local people bought shares. Lamoreaux disagrees with Rockoff: even if initial capital “was largely fictitous...deposited only to satisfy legal requirements and then immediately withdrawn in the form of loans...sales of new shares to outsiders gradually transformed capital stock to a legitimate source of funds. (653-4) This may be true, but does it avoid the point that by getting in cheaply and then controlling subsequent paid-in capital, bank owners gained an incredible degree of economic power?
In the long run, institutional investors like insurance companies, savings associations, and trustees of large estates contributed the majority of bank capital. In many cases, these institutions were part of the same kin networks that initially owned, and continued to run the banks. “Members of kinship groups generally held large blocks of their banks’ stock at the time of formation.” (655) The percentage of bank stock held by the initial owners tended to decrease as the banks grew, but “the groups often retained their dominant positions on the banks’ boards of directors...because other stockholders rarely took an interest in the institutions’ affairs.” (655-6) And these same “kinship groups...often dominated the boards of the institutional investors that purchased their banks’ stock.” (657)
The role of these banks (despite the public-service rhetoric they employed to get their corporate charters during the early period, when incorporation implied quasi-governmental public status) was to “become engines to supply insiders with capital.” (657) “Even a prudent businessman,” Lamoreaux says, “might find himself in financial difficulty.” (658) The panic of 1837 and depression of 1839 had certainly proven that point. An emergency might force him to “convert illiquid assets into cash to pay off debts.” A friendly bank could “prevent distress sales of assets by accepting notes to balance accounts.” (659) After spending so much of his time in New York City, observing this process, is it any surprise that my upstate merchant started his own bank? Especially since, in the words of the 1854 Bankers Magazine, “where business is constantly and rapidly expanding, the younger class of business men who are entitled to bank facilities, equally with their older brethren, cannot have their wants fairly supplied without the occasional establishment of new banks. The old circle of customers use the existing banks to the extent of their capacity, and keep their door shut against the new men.” (663)
This raises questions that were apparently understood by bankers in the 1850s. Lamoreaux answers that “although the system of group-dominated banking doubtless resulted in some degree of favoritism in credit markets, the situation was remarkably fluid. Up-and-coming groups were able to build financial empires that rivaled those of the oldest, most established merchant families in the region.” (664) But even with no barriers to entry, is this what we’d call a “credit market?”
One thing that does seem certain, though, is that these banks facilitated a particular type of economic development. “Could kinship groups have tapped the community’s savings without their aid?” Lamoreaux asks. “The market for securities of manufacturing corporations in early nineteenth-century New England was extremely narrow,” she says. Even the Boston Associates failed to raise enough capital, and were forced to borrow. “The market for bank securities was much wider...because the diversified enterprises of the kinship groups permitted them to pay high and steady dividends and thereby draw out the community’s savings in a way that most individual ventures could never have done.” (665) “Without banks,” she concludes, “kinship groups would have been forced to depend largely on their own resources to finance investment.” (666)
Even if New England’s financial system allowed relatively free entry into banking, and banks allowed a slightly wider public to participate in a diversified portfolio of investments that would otherwise have been restricted to the very rich, was the concentration of economic activity in the hands of these “kinship groups” a good thing? Lamoreaux mentions in the first few pages of her article that lawsuits across New England challenged the “insider” ways in which these chartered corporations behaved. Even banking commissioners admitted “an almost uniform departure from the original design of banks in this respect.” (651) Although it involves counterhistorical speculation, it might be useful to ask what alternatives there may have been to simply accepting the inevitability that “kinship groups” should gain access to the “community’s savings” to finance business ventures for their individual benefit. To what degree is this a free choice, made by empowered individuals (investors and later depositors) acting in their own best interests, and to what degree is the public’s range of choices limited by laws and social conventions that allow incorporation, interlocking control, and that regulate the terms and conditions of credit? (along these lines, do usury laws actually benefit established banks, by lowering the incentive for individuals to loan money to each other at higher -- risk-appropriate -- rates of interest?)
