The ability of banks to issue money raises some interestingquestions about the nature of money and about the legal aspectsof its issuance in the United States. On these topics I will nowbriefly digress. Money is nothing more than a common numerairewhich reduces the search costs associated with conductingbeneficial trades. Money is also a psychological abstraction.Literally anything can serve in this capacity as long as peopleare willing to accept it as a medium of exchange, if it maintainsits purchasing power reasonably over time, and if it can serve asa convenient unit of measure. An official government edict isnot necessary to create money.
The Constitution contains only two sections dealing withmonetary issues. Section 8 permits Congress to coin money and toregulate its value. Section 10 denies states the right to coinor to print their own money. The framers clearly intended anational monetary system based on coin and for the power toregulate that system to rest only with the federal government.The delegates at the Constitutional convention rejected a clausethat would have given Congress the authority to issue papermoney. They also rejected a measure that would have specificallydenied that ability to the federal government (Hammond, 92).Although the Constitution does not state that the federalgovernment has the power to print paper currency, the SupremeCourt in McCulloch vs Maryland (1819) ruled unanimouslythat theSecond Bank of the United States and the banknotes it issued onbehalf of the federal government were Constitutional.
If the federal government only is permitted to issuemoney,coin or paper, then how could state banks issue money? Statebanks did not coin money, nor did they print any "official"national currency. However, state banks could print bills ofcredit in exchange for specie deposits. These notes would bearthe issuing bank's name and entitle the bearer to the note's facevalue in gold or silver upon presentation to the bank. Statebank notes were a form of representative money; they were notgold or silver, but they represented it. The notes were moreconvenient for conducting large transactions than their speciecounterparts, and, more importantly for the extension of credit,could be produced easily whereas the gold and silver stock of thenation was relatively small and for the most part declining(Hixson, 12-13). The Supreme Court ruled in 1837 in BriscoevsBank of Kentucky that state banks and the notes they issuedwerealso constitutional.
One potential problem with such a system is that banks mayissue notes far in excess of their specie deposits. Customersappeared from time to time wanting to exchange their banknotesfor specie. The banks, of course, made allowances for this bykeeping some of the specie on hand at all times. If thespecie/banknote ratio was too low, even a small unexpectedincrease in the withdrawal rate could force the bank intoinsolvency. Remaining depositors who had not withdrawn theirspecie would be left with worthless banknotes.
The public accounted for this risk of non-redemption bydiscounting the notes of banks that were considered risky. Forexample, a $20 banknote issued by a bank with a reputation ofredemption problems might carry a 5 percent discount off its facevalue. In other words, a local merchant might only give acustomer $19 worth of goods for a $20 note with the differencecompensating the merchant for the risk of accepting the banknote.Discounts on notes among functioning banks ranged from about 95percent for the riskiest banks to zero for banks with a highdegree of public confidence. On the advent of the free bankingera, there were 712 state banks in operation in the UnitedStates, each with its own currency (Kidwell, 59). Imagine thedifficulty for a local merchant in tracking the riskiness andvalue of perhaps dozens of different banknotes in addition to theother concerns of his business.
FAQs
Article I, Section 8, Clause 5: [The Congress shall have Power . . . ] To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures; . . . National Bank v.
What does the Constitution say about central banks? ›
The Federal Reserve is the central bank of the United States. The Constitution does not specifically say that there should be a central bank. Describe how you might defend Congress' delegation of the power to coin money and regulate the value of money to the Federal Reserve.
What is the history of central banking? ›
The story of central banking goes back at least to the seventeenth century, to the founding of the first institution recognized as a central bank, the Swedish Riksbank. Established in 1668 as a joint stock bank, it was chartered to lend the government funds and to act as a clearing house for commerce.
What is the history of banking in the United States? ›
The beginnings of the banking industry can be traced to 1780 when the Bank of Pennsylvania was founded to fund the American Revolutionary War. After merchants in the Thirteen Colonies needed a currency as a medium of exchange, the Bank of North America was opened to facilitate more advanced financial transactions.
How did the Constitution fix money? ›
Section 8 permits Congress to coin money and to regulate its value. Section 10 denies states the right to coin or to print their own money. The framers clearly intended a national monetary system based on coin and for the power to regulate that system to rest only with the federal government.
What was Thomas Jefferson's viewpoint on the National Bank? ›
Not everyone agreed with Hamilton's plan. Thomas Jefferson was afraid that a national bank would create a financial monopoly that might undermine state banks and adopt policies that favored financiers and merchants, who tended to be creditors, over plantation owners and family farmers, who tended to be debtors.
What is the central banking system of the United States? ›
The U.S. central banking system—the Federal Reserve, or the Fed—is the most powerful economic institution in the United States, perhaps the world.
Which part of the Constitution was used to create the bank? ›
McCulloch v. Maryland (1819) is one of the first and most important Supreme Court cases on federal power. In this case, the Supreme Court held that Congress has implied powers derived from those listed in Article I, Section 8. The “Necessary and Proper” Clause gave Congress the power to establish a national bank.
Is the central bank controlled by the government? ›
The Federal Reserve Banks are not a part of the federal government, but they exist because of an act of Congress. Their purpose is to serve the public. So is the Fed private or public? The answer is both.
What is the main point of central bank? ›
However, the primary goal of central banks is to provide their countries' currencies with price stability by controlling inflation. A central bank also acts as the regulatory authority of a country's monetary policy and is the sole provider and printer of notes and coins in circulation.
1791-1811: First Attempt at Central Banking
At the urging of then Treasury Secretary Alexander Hamilton, Congress established the First Bank of the United States, headquartered in Philadelphia, in 1791.
Who runs central banking? ›
Are banks at risk of collapse? ›
Consulting firm Klaros Group analyzed about 4,000 U.S. banks and found 282 banks face the dual threat of commercial real estate loans and potential losses tied to higher interest rates. The majority of those banks are smaller lenders with less than $10 billion in assets.
Why is the History of central banking book banned? ›
Stephen Mitford Goodson created a masterpiece on the origin of Central Banking and the usury system. This book is prohibited in some countries because it tells different stories than the ones taught in schools and universities.
Who ended the First Bank of the United States and when? ›
Congress opted not to renew the bank's charter when it expired in 1811. Five years later, after the War of 1812, President James Madison signed a bill establishing the Second Bank of the United States.
What does the Constitution say about finances? ›
I, § 8, cl. 1 ( The Congress shall have Power To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the common Defence and general Welfare of the United States; but all Duties, Imposts and Excises shall be uniform throughout the United States. ), with id art.
What does the Constitution say about lawful money? ›
No State shall enter into any Treaty, Alliance, or Confederation; grant Letters of Marque and Reprisal; coin Money; emit Bills of Credit; make any Thing but gold and silver Coin a Tender in Payment of Debts; pass any Bill of Attainder, ex post facto Law, or Law impairing the Obligation of Contracts, or grant any Title ...
What law protects your money in the bank? ›
FDIC deposit insurance protects your money in deposit accounts at FDIC-insured banks in the event of a bank failure. Since the FDIC was founded in 1933, no depositor has lost a penny of FDIC-insured funds.
What does the Constitution say about borrowing money? ›
Article I, Section 8, Clause 2: [The Congress shall have Power . . . ] To borrow Money on the credit of the United States; . . .
