Colonial Paper Money and the Problem of Inflation

By Murray Rothbard



Chapter 26: Inflation and the Creation of Paper Money

Note: To understand the reasons for this post, please see Birdman's Questions #4

So far we have been concentrating on the leading developments in each colony in the first half of the eighteenth century, in the "domestic" affairs, so to speak, peculiar to the colony. Now let us turn to the increasingly important experiences that were common to several or all of the colonies, experiences that helped to impart a greater degree of community in colonies that originated as completely separate and independent entities. Among these we can distinguish two categories: first, events and developments that, while still chiefly domestic to the colonies, permeated some or all of them (for example, such new developments as paper money or such intellectual currents as the Great Awakening) ; second, "foreign affairs" - that is, the emergence of common relations and problems outside the colonies, specifically relations with Great Britain and the British Empire, with the other European colonies in North America (France and Spain), and with the Indians (the last two spheres often blending). Many of the predominantly domestic questions, of course, had external ramifications, particularly vis-a-vis Great Britain. Turning first to domestic developments shared by the various colonies in the first half of the eighteenth century, one of the most important was the creation of an entirely new and destructive economic device: paper money. Apart from isolated China, during the Middle Ages, money had always emerged on the market as a useful commodity: whether goods like tobacco and grain, as in the colonies, or the more widely used but more expensive gold and silver. In any case, the monetary commodity could only be produced as other goods were: by the use of labor and capital to transform material resources into more desirable forms - for example, by growing and picking tobacco or by mining gold. Again, as in the case of other goods, the monetary commodity could then be acquired either by direct production, or by purchasing some other good or service and exchanging it for money.

National monetary units were not regarded as independent entities in any sense, but merely national names for units of weight of gold or silver. Hence, foreign coins of varying weights of gold and silver could and did easily circulate throughout the world, if unhampered by government regulations, since their value rested in their specie content rather than in their name. Until the seventeenth century, money was gold or silver or some other commodity, and there was no way to increase its stock except by purchasing more of the metal. The kings and princes, it is true, found a way to increase their share: by debasement - devaluating the specie content of the national coin and unit, and keeping the remainder, the "seigniorage," for themselves. Credit exchanges and merchant banking developed during the flowering of commercial capitalism of the medieval northern Italian cities. At first, these banking transactions promoted the advance of the market and of commercial capitalism without adding to or disturbing the supply of money. Eventually, however, some of the bankers began to accept deposits of money for safekeeping, and then began profiting on their depositors' money by lending out the money or lending newly created deposit claims on the money deposits. In this way, new money, or rather new evidences of money, was pumped into the economy essentially out of thin air, and by means of virtual embezzlement of depositors' funds.

Deposit banking did not loom large in the Italian or European economy, however, and failures by deposit bankers in Venice led to government banking based on true money-warehouse principles. In 1587, Venice established a deposit bank in which deposits were matched one hundred percent by money in the bank's vaults; therefore, no fraudulent or inflationary increase of the money supply could take place. By 1619, however, the government's need for funds and the temptation to cheat brought about a relaxation of the one-hundred-percent rule. Soon the one-hundred-percent principle was followed by new banks created in other cities, especially at Amsterdam in 1609 and at Hamburg ten years later.

In England, commercial banking began in the mid-seventeenth century with gold being deposited for safekeeping with London goldsmiths, who issued notes or book claims as evidences of gold deposited there. Since the depositors were the true owners of the gold, there were not supposed to be more such warehouse receipts than gold in the vaults. But eventually, the goldsmiths began to yield to the temptation of fraudulently increasing the money supply, through issue of pseudo-warehouse receipts. Yet, before the late seventeenth century, there was no important amount of bank money or bank issues beyond gold or silver (and that generally ancillary to other financial business) and none at all in the American colonies. And there was no case at all concerning the issue of government paper money, let alone government paper made a compulsory medium for payment of all debts ("legal tender"). We have seen above that when money remains exclusively a commodity (or as simply warehouse receipts fully representing the money commodity in the warehouse), it must be obtained by production or by exchange of goods. But bank money or government money, whether as tangible notes or demand deposits, is an increase in the effective money supply virtually out of thin air. What are the economic consequences of such an increase?

The important point about the economics of money is that once a commodity is chosen as money by the market, any amount of its supply is optimal. In short, no social benefit is ever conferred by an increase in the supply of money in society. This contrast to other useful goods is due to the fact that money is used only for exchange of other goods; it does not, like other goods, perform its service by being used up in production or consumption. Money exchanges with all other goods on terms set by the market. These terms, established by the interplay of market supply and demand, constitute the array of money prices in society. If the supply of money in society should increase, the purchasing power of each unit of money relative to goods will fall (that is, prices will rise) ; if the supply of money should decline, then the purchasing power of each unit will rise (prices will fall). In short, an increase in the money supply only dilutes the effectiveness of each unit of money (for instance, the gold ounce); a fall in the supply raises the power of each unit to do its work. Whatever happens to the supply of money, prices will thus adjust themselves so as to carry on the work of exchange as efficiently as possible. No one size of the money stock, then, is better than any other.

An increase in the supply of gold or silver, therefore, confers no social benefit by increasing the supply of money; prices will rise and the public will be no better off than before. The addition, however, does confer a social benefit by increasing the nonmonetary uses of gold or silver. But the creation through book accounts or paper issues does not yield this indirect benefit; this creation is wholly parasitical.

If the creation of bank money or government paper is not socially useful, this does not mean that its economic consequences are trivial or unimportant. Quite the contrary. For the creation of paper money severs the vital market link between production and income; for now nonproducers are able, so to speak, to "counterfeit," to create their own money and to use it to bid away resources from genuine producers. Money creation, in short, redistributes income and wealth from producers to legalized counterfeiters, and to the witting or unwitting beneficiaries of this counterfeiting. Second, this redistribution is effected by subtle and silent means, and this does not raise the opposition provoked by the more direct bludgeon of, say, taxation-and-government spending. Third, the inflation (issue of notes or deposits beyond the stock of specie) weakens and ultimately wrecks the integrity of the monetary unit. For the unit now must embrace pseudowarehouse receipts and fraudulent "dollars" or "pounds" or "francs," which do not at all represent actual weights of the money commodity. As a result, all the users of the money will be hurt and will find their money declined in value. In fact, the market will quickly tend to depreciate the paper money or banknotes in relation to genuine money, and this might happen even if government bolsters the use of money by force (for example, by declaring it legal tender). Creation of paper or bank money ("inflation"), therefore, confers a special privilege on some groups, at the expense of the producers and at the expense of the society's money. The groups that benefit include the first issuers and receivers of the new money, those who sell to them, and generally those whose selling prices rise because of the inflation before a rise in the prices of the goods they have to buy. These groups gain by imposing losses on those to whom the new money is the last to trickle down, that is, those whose buying prices rise before the prices of the goods or services they have to sell. Debtors always gain from the rise in prices caused by inflation; they can then pay back their loans in money of lower purchasing power than they had borrowed. Furthermore, if the new money is loaned out by government or banks, debtors may benefit from the artificially low interest rate on the loan. Creditors, conversely, are always among the groups injured by inflation, for they receive the inferior money, and interest return on further loans is artifically lowered if the new issue appears on the loan market. Landowners generally benefit from inflation. Land prices usually rise more rapidly than most other prices, and lowered interest rates have a particularly strong impact in raising the values of an extremely durable good such as land. Since landlords, especially speculative landlords, are often debtors as well, they have a multiple incentive for favoring inflation. Land speculators who borrow to invest in large tracts of virgin land have particularly gravitated toward the vanguard of the advocates of inflation.

American historians, recognizing the interests of debtors in promoting inflation as a subsidy for themselves, have generally made a grievous error in applying this insight to the American past. They have assumed that debtors and creditors are fixed, identifiable classes and that debtors have consisted of poor farmers, and creditors of wealthy urban merchants. The fallacies in this disastrous typology are numerous. Debtor and creditor refer not to fixed occupational categories. A man is not born into the status of debtor or creditor, and anyone may shift continually from one category to the other - or to neither one. Farmers may be in debt or out of it, and may even be creditors. Merchants are notoriously creditors and debtors both - and they may shift at any time from a net-creditor to a net-debtor position, or vice versa. And debtors are not necessarily poor. Indeed, it is precisely the wealthy who generally go most heavily into debt. After all, poor people generally do not possess a very good credit rating, and therefore are not often able to borrow even if they want to. Landowners are often debtors, but they may more likely be wealthy land speculators than dirt farmers.

As befitted their undeveloped economies, the American colonies during the seventeenth century largely relied for their money on their staple and hence their most widely marketable commodities; for example, tobacco in the Chesapeake Bay colonies, rice in South Carolina, poultry and corn and other grain in the North, and wampum in trade with the Indians. There has been much lamenting among historians about the "scarcity of money" in the colonies, reflected in the various commodity monies, and imposed by the Crown's prohibition on either colonial mints or the import of coin from England. The supply of commodity monies was, in the first place, appropriate for the low level of economic development and the limited scope of especially the internal economy of the colonies. Second, while lack of a mint was inconvenient, it was not important, for gold and silver, bullion or coin, could be bought (imported) at any time they were deemed necessary. And so they were; neither did the colonies suffer irretrievably from the imposed lack of English coin. By the late seventeenth century, abundant Spanish silver coin and Brazilian gold coin existed in the colonies, coin that was used in urban centers and in foreign trade, where wampum and the other commodities were not highly welcome as money. Commodity money flourished within the rural districts, where indeed much trade was carried on by simple barter without even a commodity intermediary of exchange.

While mercantilist fallacy and hoarding of specie led England to keep its specie out of the colonies, Americans continued to keep their accounts in English units. The English shilling consisted of eighty-six grains of silver, while the most popular coin in the colonies, the Spanish piece of eight, or dollar, obtained from the West Indies trade, weighed 387 silver grains. Hence, rationally, by their silver content, one pound sterling exchanged for $4.44, and one dollar exchanged for four shillings six pence of English money. But the colonies too were prisoners of mercantilist fallacies and were also concerned to force specie to remain in the colony (that is, to force it not to be used to its best advantage in importing goods). Consequently, they decided to juggle the standards of weight of money, and debased the money. The process began as early as 1642, when the government of Massachusetts arbitrarily decreed that the Spanish dollar be valued at five shillings. Connecticut followed a year later. This meant that the Massachusetts and Connecticut shillings, as the units of account, were now arbitrarily devalued in terms of dollars. The aim of this juggling was to attract dollars into the colony; if a silver coin could be worth five shillings instead of four and a half, then coins would be attracted into the place where they were valued more highly. In short, debasement of the unit of account, as in all currency devaluations, amounted to an artificial lowering of Massachusetts and Connecticut prices in terms of dollars, so that exports from these colonies received in mercantilist fashion an artificial subsidy. If exports were encouraged by the debasement, imports from abroad were similarly discouraged and this could only injure the colonial consumers dependent on foreign goods. This sort of artificial stimulus and burden could only be temporary, however. Soon domestic prices, stimulated by the increased demand, would increase proportionately to the fall in value and the exporters' windfall would then be over. As soon as one colony began the process of debasement, others followed, to avoid specie flowing elsewhere. Soon, indeed, the colonies began to engage in a disastrous competitive debasement, continually spurred to greater heights by the catching up of domestic prices - by the wearing off, in short, of the narcotizing dose.

The process, as we can see, was ruinously inflationary. The supply of money increased, to be sure, not through an increase of paper tickets or claims to money but by artificially increasing the nominal units of money in terms of actual money. In 1645 Virginia raised the value of the dollar to six shillings, and from 1671 to 1697, nine colonies advanced the dollar and - to make the matters more confusing - at varying rates. The general level was six shillings to the dollar. But New York advanced the dollar to six shillings nine pence and Pennsylvania and West New Jersey to seven shillings six pence. Virginia and Maryland had an additional incentive for debasement of the shilling: many of their planter oligarchs were in debt to English merchants and they were eager to repay shilling debts in appreciated dollars. But for similar reasons the English creditors were determined that these colonies not devalue; so Virginia and Maryland were restricted in further debasement, Virginia being forced to lower its valuation to five shillings. The result was that the tobacco colonies soon lagged behind the others and coin began to drain from there to Boston, Philadelphia, and New York. This meant, however, that Southern planters began to buy their supplies from the Northern merchants artificially favored by debasement rather than from the English merchants.

England finally decided to stop the competitive debasement and to insist on a uniform evaluation of money throughout the colonies. The English decree was, in fact, not only overdue but also excessively lenient. In 1704 the Crown proclaimed six shillings as the maximum value of Spanish dollars, thus allowing a one-third rise from the real free market value of four shillings six pence. The proclamation had no provision for enforcement, however, and so the Northern colonies and South Carolina continued to stamp a higher value on the dollar than did Virginia and Maryland. Consequently, Parliament enacted the proclamation into law in 1707 with penalties for violations. The colonies soon found another way to juggle monetary standards fraudulently and at the same time evade the regulations. Forced to assign a certain shilling value to Spanish dollars, the colonies turned to arbitrary changes in the value of silver itself. The true sterling value of silver, gauged by the silver content of English money, was five shillings two pence per ounce of silver. At the depreciation of silver set by Parliament's maximum of six shillings to the dollar, an ounce of silver was worth six shillings ten pence. But the colonies now began to raise the shilling value of silver, generally to eight shillings per ounce or even higher. When England properly protested this patently crude violation of the law, the Assemblies of Massachusetts and New York refused to appropriate money for the government, except at their own proclaimed higher rates, and thus won their way. Neither did the other colonies bother to obey the law, with the exception of Maryland and Virginia, where the maximum continued to be rigorously enforced. Indeed, Virginia set silver even lower than the proclaimed maximum at five shillings two pence per ounce. Jealous of the royal sovereignty and its alleged right to monopolize the mint, the Crown forbade mints in the colonies. During the Republican era, however, Massachusetts, alone of the colonies, established a mint in 1652. The mint was leased by Massachusetts to John Hull, who was allowed a fixed rate of seigniorage on each coin. In minting "pine tree" shillings, Massachusetts propelled the debasement process, coining the shilling at seventy-two grains instead of the full weight of eighty-six. This amounted to an evaluation of six shillings to the dollar. The existence of the mint was one of the Crown's grievances against the recalcitrant Bay Colony, and in 1684 it forced the Massachusetts mint to close down.

The colonies, including Massachusetts, vainly attempted to thwart economic law by barring the export of specie, but they could not succeed even with extraordinary powers of search and such penalties as outright confiscation of estates.

It soon began to dawn on the colonists that there was a far easier way to inflate the money supply, and to a far greater extent, than by juggling the standards of weight or value of money: the creation of money out of mere paper. In 1641 the English mercantilist Henry Robinson hailed the Italian banks, able to inflate banknotes beyond the stock of specie. Nine years later, William Potter in the Key of Wealth argued with consistent logic that if an increase of money is beneficial, a perpetual increase would be still better. The creator of numerous such schemes, Potter would have his notes "secured" by the nation's land. Potter failed to see that the price of land increases, along with other assets, in an inflation, so that land would hardly check a paper inflation. He also failed to see the essence of bank money and its value as a claim to standard money.

A "loan bank" to issue vast quantities of new money, particularly a "land bank" to lend on landed security, naturally enchanted leaders in New England. In 1663, Governor John Winthrop, Jr., of Connecticut urged land banking upon his fellow members of the English Royal Society. Taking the lead in proposing a land bank was the influential Reverend John Woodbridge of Newbury, Massachusetts. Woodbridge, directly inspired by Potter, pro- posed a bank that would issue and lend notes. Woodbridge tried the scheme abortively in 1671 and 1681, and then set forth his views in trying to organize a "fund" bank in 1682. Increased money, wrote the reverend in a nut-shell, "multiplies trading; increaseth manufacture and provisions; for domestic use, and foreign return; abateth interest." The first land-bank proposal with a good chance of being established came in Massachusetts in 1686. It is also a particularly instructive example of the kinds of forces behind the inflationist proposals. The originators of the scheme were emphatically not poor debtor-farmers. On the contrary, they were precisely the ruling oligarchy of Massachusetts.

The year 1686 saw Massachusetts ruled by Joseph Dudley and his associates in plunder. On assuming office, Dudley and his Council appointed a committee of leading merchants and other citizens to study trade conditions. The committee, led by Captain John Blackwell, reported with a proposal for a bank whose notes would be forced on the people as legal tender. The plan was to include all the leading oligarchs of the Dudley era in the directorship of the bank: Dudley himself, William Stoughton, Wait Winthrop, Simon Lynde, Elisha Hutchinson, Elisha Cooke, and others. No notes were to be issued below twenty shillings in denomination, to ensure that the bank would be largely limited to the wealthiest citizens. The bank was to have no specie capital whatever, though individual directors were to bear responsibility. The plan was abandoned with the arrival of Andros. The Glorious Revolution, in 1688, inspired new talk of the Blackwell bank, but again the proposal fell through. Paper money finally came to Massachusetts not in the form of a land bank's notes, but as the first issue of government paper money in the world, apart from medieval China.* Paper money can be issued either by government for direct spending, or by a bank, public or private, that lends out money to the public. While the former is cruder and more flagrant, it actually has less harmful repercussions on the economy. For, given the same amount of monetary issue, lending out the new money inflicts additional distortion on the loan market and interest rates, which fact generates the familiar features of the boom-bust trade cycle.**

The fateful plunge of Massachusetts into paper money came through direct spending rather than lending. Massachusetts had engaged in an expedition of plunder against French Quebec, an expedition it hoped would more than pay for itself. But as luck would have it, the expedition failed ignominiously, and Massachusetts was faced with the grave problem of paying the salaries of its soldiers who were on the edge of mutiny. The Massachusetts government tried to borrow from three to four thousand pounds from Boston merchants, but evidently its credit rating was far too low. Proceeding upon the principle that if it could not raise money it must print its own, Massachusetts decided in December 1690 to issue 7,000 pounds in paper notes. Now the govern- ment knew that it could not simply print paper irredeemable in specie labeled 'There is a single exception: the Card Money of Quebec. In 1685 the governing intendant of Quebec, Monsieur Meules, decided to augment his funds by dividing some playing cards into quarters, marking them with various denominations, and then issuing them to pay for wages and materials. Meules took the precaution of ordering the public to accept the cards (that is, legal tender); the cards were later redeemed with specie sent from France. Used repeatedly in Quebec, the money became playing tickets rather than playing cards.

"For an explanation, see Murray N. Rothbard, America's Great Depression, 2d ed. (Los Angeles: Nash, 1972), pt. 1.

pounds; for then no one would have accepted the money. The market value of the money would then have plummeted sharply in relation to dollars or sterling. Massachusetts therefore made a twofold pledge as it issued the notes. It promised to redeem the notes in specie out of revenue in a few years and it pledged to issue no further bills. In fact, the bills continued in use for almost forty years and the pledge limit evaporated in a few months. The heady attraction of printing one's own money is always enough to overcome initially timid limits. As early as February 1691, Massachusetts acknowledged that the emission "fell far short," and so it proceeded to issue 40,000 pounds of new money to repay all of the colony's debts, again pledging this issue to be the final limit.

Massachusetts indeed found very quickly that its "scarcity of money" could not be relieved by creating more. In that era when people still had the right to own gold and silver, the loss of value of each unit of money was drama- tized and intensified by market discounting of paper against specie. These discounts reflected not only the increase in the supply of money, but also rises or declines in its demand, governed largely by shifts in public confidence in the value of the new money.

The Massachusetts notes in fact began to depreciate against specie almost as soon as they were issued. In a year they had depreciated by as much as forty percent. 'Two pamphlets, issued in 1691, berated the people for being "delinquent" in permitting the notes to depreciate; they did not think to criticize the issue itself. The author of the pamphlets lamented that while some private bills were passing at par with specie, "our people (in this pure air) be so sottish as to deny credit to the government, when tis of their own choosing." In 1692, however, the government moved to the use of force and eliminated the discount in two ways: by making the government issues compulsory legal tender for all debts, and by granting a premium of five percent on all payment of debts to the government made in the paper notes. From that point on, Massachusetts turned on the monetary engine for its public expenditures. The notes were still supposed to be redeemed eventually in tax revenues. At first the pledges were one year ahead, so that notes issued in 1702 were to be paid out of pledged tax revenues in 1703. As time went on, however, the future kept receding further and further, and more and more years of future revenue were pledged in advance. By 1714, six years of Massachusetts revenue were so pledged, and by 1722, future pledges stretched ahead by thirteen years.

The artificial maintenance of the paper at par had the unwanted effect of "Gresham's law": that when a poor and a superior money are kept at an artificial ratio by the government, the money undervalued by government will disappear into exports or hoards, and only the overvalued money will remain in circulation. In 1690, before the orgy of paper began, 200,000 pounds of silver money were available in New England; by 1714, 240,000 pounds of paper money had been issued in New England but the silver had disappeared from circulation. Massachusetts had increased the inferior money in circulation, at the expense of displacing the superior. Furthermore, market depreciation against silver had only been checked for a time. The push of the Massachusetts issues over the brink came in 1711, when 500,000 pounds in notes were issued to pay merchants for the failure of another plunder expedition against Quebec. The issue led to the hoarding and exporting of silver, and to a thirty-percent depreciation against silver. For while the Massachusetts money was officially seven shillings to the silver ounce, it had now fallen on the market to nine shillings per ounce.

By 1714, Massachusetts, after a generation of hopefully alleviating its so-called scarcity of money, found itself with its silver gone and with the paper money, despite its efforts, rapidly depreciating. It was faced therefore with yet another "shortage of money" and with a crossroads: either it could begin to return from paper to silver or it could embark on a massive, eventually more than self-defeating, issue of yet more paper money. The former course was not seriously considered; instead a conflict arose on the proper inflationary path to follow. Merchants and debtors wanted to enjoy some of the blessings of cheap money, and a group of them tried to reactivate the land-bank plan of 1688. The leader of the private land-bank scheme was John Colman, a prominent Boston merchant and real estate speculator. Other leading supporters were Edward Lyde, a Boston merchant and heavy debtor in the 1711 expedition against Quebec; Timothy Thornton, Boston shipbuilder and real estate speculator; John Oulton and William Pain, Boston real estate speculators. The equally eminent objectors, headed by Attorney General Paul Dudley, son of the governor, prevailed with plans for further government issue. Specifi- cally, the private land bank was rejected by the General Court and a public land bank established instead. The latter 's notes were made legal tender and in 1716 it issued 100,000 pounds in notes to be loaned in real estate in the various counties.

The 1716 issue added at once a huge forty percent to the colony's money supply, and prices were raised so rapidly that objections to paper money began to be voiced. An anonymous pamphleteer in The Present Melancholy Circumstances ... (1719) and An Addition to the Present Melancholy Circumstances (1719) pointed out that monetary issues had led to a doubled cost of living in twenty years, to depreciation and to the disappearance of Spanish silver through the operation of Gresham's law. The author advocated calling in some of the notes in order to increase the value of the money. He trenchantly concluded that a law can penalize and restrict, "but it can't change men's minds to make them think a piece of paper is a piece of money." By 1718, Massachusetts had made a valiant effort to reduce its bills in circulation, by allowing retirement of notes as loans were repaid. But by this time the other colonies had taken a lesson from Massachusetts, and New England colonies were bound to honor each other's notes. Long Island had already issued 40,000 pounds in legal tender "loan bills." As a result, the price of silver in New England shillings continued its disquieting rise: by 1720 it had climbed to thirteen shillings per ounce.

With depreciation worsening and silver disappearing, the cry arose once more against a "shortage of money" and John Colman returned to the fray, again urging a private land bank to emit 200,000 pounds in notes. Colman urged farmers to support such a bank, since the increased currency would raise prices of farm produce and land. Colman also urged a law that would prohibit the depreciation of banknotes, and would fix the price of silver at eight shillings per ounce. Such a law would have been impossible to enforce and would have aggravated the shortage of silver by artificially overvaluing paper in relation to specie. Colman denounced the government bank for not being inflationary enough. The agitation for a private land bank was joined by the Reverend John Wise, but without success. Another public issue of 50,000 pounds in 1721 was enough to quiet the agitation, which was evidently concerned with more inflation rather than with private as against public banking. Throughout the colonies the Crown, propelled by English creditors, was a continuing force for sound money, and its embattled governors attempted to veto paper issues and to moderate the inflationary drive. But the legislatures often threatened to withhold executive salaries and even issued money on their own authority. Increasing royal pressure on Massachusetts, imposed especially by Governor Jonathan Belcher after 1730, managed to reduce the notes in circulation by one-half by 1741; Belcher steadily enforced a limit of 30,000 pounds of notes per year to be payable in one year's time. Neighboring Rhode Island, however, with its elected governor, was able to go hog-wild, and its note issue, being acceptable in Massachusetts, thwarted the Belcher reductions. Thus Rhode Island emitted 100,000 pounds of notes in 1733 alone. As a result, silver rose further, to nineteen shillings per ounce, and by the late 1730s, to twenty-seven shillings an ounce.

The other colonies followed the lead of Massachusetts during Queen Anne's War, to pay for military expenditures. South Carolina was the first to issue paper in 1703, to pay for an abortive plunder expedition against St. Augustine. Rhode Island began its reckless career of inflation in 1710, to pay for its share of an aggressive expedition against Port Royal in Nova Scotia. By 1740 the following colonies had indulged in paper issue for, government spending: Massachusetts, Connecticut, Rhode Island, New York, New Jersey, South Carolina, and North Carolina. Public loan banks were initiated by South Carolina in 1712, for loans on real or personal estates. Almost all the other colonies followed suit. By 1740, only Virginia had refused to join the ranks. The Carolinas, indeed, had indulged so heavily that the price of silver rose to thirty shillings in 1730, and paper money played a large role in South Carolina's rebellion against the proprietary, which had refused to assent to paper money. Other struggles between legislature and governor took place in New Hampshire, where during the 1730s the legislature refused all funds for five years in order to win its way for paper issues; and in New Jersey and New York, which did the same. In all the cases, the legislature was able to use its control of funds to win its point.

Down to the middle of the eighteenth century, Virginia was content with a decidedly noninflationary form of paper money. From 1713 on, the Virginia government established public tobacco warehouses, which issued warehouse receipts called "tobacco notes," backed one hundred percent by the amount of tobacco in the warehouse. These notes then functioned as a perfect equivalent to commodity money in tobacco. By the time of the French and Indian War in the late 1750s, however, Virginia moved to issue paper money as part of the financing of its role in the war effort. Interestingly enough, the first advocate of government paper issues in Virginia during the French and Indian War was Landon Carter, one of the largest and most influential tobacco planters in Virginia.

Most reckless of the colonies was Rhode Island, which was also particularly lax in waiving repayment of interest and even principal on the loans. The loan banks in Rhode Island were controlled by a few government favorites, or "sharers," who loaned out the money at five percent higher than they bought the new issues from the government. The sharers often sold this five-percent guaranteed privilege to others for premiums as high as thirty-five percent. In 1759 over fifty thousand pounds of outstanding loans in Rhode Island were found to be unpaid and uncollectible, and this constituted a full eleven percent of the outstanding note issue for the land banks of that colony. The Rhode Islanders had a particular economic incentive for their wild issue of new money. A small colony with many purchases to make in Massachusetts Bay, Rhode Island's money was accepted at par in the neighboring colony. Hence the incentive for Rhode Islanders to print themselves new money that could easily be spent before prices in Massachusetts could rise by the same amount - thus imposing the main cost of their inflation upon the people of Massachusetts.

If Rhode Island was the most inflationary of the colonies, Maryland was the most bizarre. In 1733 Maryland's public land bank issued 70,000 pounds of paper notes. Of these, 40,000 pounds were loaned out in the usual manner of landed security; but the remaining notes were given away in a fixed amount to each inhabitant of Maryland. This was done to spend and universalize the circulation of the new notes, which, of course, quickly depreciated. However, the impact of the new paper was greatly lessened by tobacco still being the major money of the colony. Tobacco was legal tender in Maryland and the paper was not receivable for all taxes. All the colonial paper was made legal tender, it being recognized that otherwise the paper would not be accepted in private debts. The legal tender was at the official par value in specie, but this coercion was not enough, as we have seen, to prevent grievous depreciation even though backed by fines, imprisonment, and complete confiscation of property in punishment for not accepting the paper at par. And as we have also seen, complaints of a scarcity of money followed each new emission of paper, and set up a clamor for still more accelerated inflation.

Hardest hit by the severe depreciation of all the notes were nondebtors, especially creditors, fixed-income groups, charitable endowments, and laborers, whose wages - as has generally been true - rose less than prices. Thus in 1712, when silver in Massachusetts was priced at eight shillings per ounce, wages of laborers averaged five shillings a day; in 1730, with silver appreciated to twenty-nine shillings an ounce, wages were only twelve shillings a day. In short, the price of silver (a reflection of the price movements of imports and indeed of prices in general) rose three and one-half times, while wages had risen only two and one-half times.

By 1740 the indefatigable Colman was ready to renew agitation for a private land bank in Massachusetts. The critical factor in amassing support was the change in Massachusetts land policy. Before 1720, the province had required actual settlement before granting new land to private persons or groups. But after that date, Massachusetts engaged in an orgy of grants to land speculators, who held title to the virgin land until they could resell to actual settlers at a profit. This land speculation was particularly rampant during the 1730s; much of the land was on the New Hampshire border, where a boundary dispute prevailed with the neighboring colony. The new host of land speculators was anxious for an inflationary land bank. Through the 1730s the Massachusetts General Court had been able to evade Governor Belcher's restrictions on paper issues by postponing debates on redemption. Finally, in 1739, the Crown insisted the bills be called in and redeemed on the dates due. This meant that the 250,000 pounds of paper in circulation would have to be reduced to the annual 30,000-pound limit by 1741. One way to evade this restriction, however, would be to set up a private land bank, and at the invitation of the General Court for suggestions for ways to inflate the money supply, John Colman resubmitted his old scheme. While it was largely a land bank emitting irredeemable notes, Colman broadened the appeal by permitting loans on personal property as well. It was also proposed that loans be repayable, not only in banknotes but also in such commodities as hemp and iron - the aim being to subsidize local manufacture of these products. A competing group of merchants made a rather sounder proposal, the notes of which bank could at least be redeemable in specie after fifteen years. Both proposals were led by prominent and wealthy citizens.* The Assembly *While the competing silver bank was backed by such wealthy Boston merchants as James Bowdoin, Samuel Welles, Joshua Winslow, and Andrew Oliver, the subscribers to and directors of the land bank included Samuel Adams, a wealthy Boston brewer; Peter Chardon, son-in-law of Colman and one of Boston's wealthiest merchants; the wealthy Roxbury lawyer and landowner, Robert Auchmuty; George Leonard of Norton, a large iron manufacturer and one of the biggest landowners in New England; and Samuel Watts, a merchant who owned a third of the land in Chelsea. Throughout the towns of Massachusetts, large landowners and land speculators were conspicuous in the ranks of land-bank subscribers.

favored the land bank, but Governor Belcher and the Council refused to agree to either scheme. Failing to obtain incorporation, both the land bank and the silver bank proceeded to print new money anyway, during 1740, and Belcher was not able to persuade the Assembly to outlaw these emissions. The new land bank issued over 49,000 pounds in notes, a hardly risky enterprise since the bank could issue pure money without having to redeem it in anything else. Governor Belcher promptly and properly used his position to warn the people of Massachusetts against this private inflation. He warned that the notes were unsound and "tended to defraud men of their substance." Belcher also formed an alliance with the silver bank, persuading the latter to make its bills far sounder by agreeing to redeem them in specie upon demand. The silver bank refused to accept land-bank notes, while the governor removed all government officials who received or paid land-bank notes, going to the extent of prohibiting lawyers from receiving the notes when pleading cases before the Council. Many merchants and businessmen - including 145 in Boston, and seventy-four in Newport - publicly agreed not to accept any of the unsound land-bank notes.

The idea of a land bank for one's own creation of money out of thin air enchanted many in Massachusetts. The number of subscribers to this open sesame for profit soon swelled from nearly 400 to over 900. Moreover, peti- tions for more land banks arose in several other towns and counties in the province. The enthusiasm, indeed, for the land bank was easily comprehensible; a majority of assemblymen were themselves subscribers. But if stockholders were delighted, the note holders were not. In six months' time the public was almost universally refusing to accept the notes. Inflationists are always prone to blame everyone but themselves for the con- sequences of their own actions. As the land-bank notes began to depreciate, and to be refused in trade, land bankers began to mutter about a march on Boston to try to force merchants to accept the notes. The final blow to the mischievous land bank was delivered by Parliament, which in 1741 granted the request of several Massachusetts merchants and of Governor Belcher, and outlawed land banks in Massachusetts. The prohibition covered the silver bank as well.

We have noted the predominance of the wealthy and of large land speculators in forming the land bank. Unfortunately, historians have been misled by two contemporary opponents of the bank who denounced its supporters as being "plebeians" and "insolvents" of "low condition." In those days being poor and insolvent was deemed a reproach rather than an automatic badge of merit, and it is important not to be misled by the denunciations of contemporary opponents.

Hardly had the land bank and a return to sounder money begun, however, when the vast expenses on the self-defeating expedition against Louisbourg, on Cape Breton Island, led to a great inflation and expansion of paper money in Massachusetts. In 1744, the total amount of paper money outstanding in Massachusetts was 300,000 pounds. With large amounts of new paper issued beginning in February, the total supply of notes in Massachusetts rose to 1,500,000 pounds in two years. In a short while, circulation of paper notes totalled 1.9 million pounds, and by 1748, the outstanding sum of paper money in Massachusetts had risen almost to 2.5 million pounds. The price of silver rose to sixty shillings an ounce, tenfold the amount at the beginning of the century. Original self-imposed limits on note issue had long since been forgotten, and early promises of yearly redemption were also forgotten as the period of future pledges of revenue gradually lengthened to twenty-five years. In some colonies, interest and principal on the loans were in extensive default. The saga of paper-money inflation and its depreciation was repeated from colony to colony. Demands for more money, leading to depreciation and higher prices, set up further and accelerated clamor for yet more money to alleviate the continuing "scarcity." If the original par between sterling and the dollar is taken as 100, then sterling in Massachusetts was down to 133 in 1702 (one dollar equaling six shillings). By 1740, Massachusetts sterling had depreciated to 550, and by 1750 to 1,100 - a depreciation of 11 to 1 compared with par. Depreciation in Connecticut had reached 9 to 1 by that time, and in North Carolina and South Carolina depreciation had reached 10 to 1. In viruleritly inflationist Rhode Island, sterling had sunk to 23 to 1. The least-depreciated paper was the least inflated, in Pennsylvania, but even here specie had appreciated to eighty percent over par.

Finally, after the end of King George's War, Parliament decided to grant Massachusetts a substantial sum as compensation for its expenditures during the war. Massachusetts wisely decided to use the funds to return to a hard money, and to redeem the paper at the current depreciated rate of 71/2 to 1. Connecticut followed with retirement of paper at a rate of 8 5/6 to 1, and New Hampshire retired some notes a few years later. The panicky opponents of specie resumption made the predictions usually made in such a situation: the result would be a virtual absence of money in the colony and the consequent ruination of all trade. They even threatened an uprising, and thus provoked a riot act for its suppression. After a temporary adjustment, however, this resumption, of course, led to a far more prosperous trade and production - the harder money and lower price attracting an inflow of specie. In fact, the prosperity wrought by hard money was dramatically embodied in the blow delivered to Newport. Newport had been a flourishing center of West Indian imports for sections of Massachusetts. But after 1750, with Massachusetts on specie and Rhode Island still on depreciated paper, Newport lost its trade to Boston and languished in the doldrums.

The English government, at the behest of the understandable complaints of English merchants and creditors defrauded by paper money, opposed the issue of paper money in the colonies. Royal governors had tried to repress the inflation, but were defeated by the Assemblies' appropriations. Finally, Parliament in 1751 prohibited all further legal-tender issues of paper money in New England. Bills were to be redeemed when due. The colonies could still issue treasury notes for a brief period, but not with legal-tender powers. However, Virginia, the last colony to succumb to the lure of money creation, joined the pack in 1755 as did the new colony of Georgia. By the 1760s, Virginia paper had fallen to a discount of fifty to sixty percent. It attempted to form a public loan bank, but that was vetoed by the governor. In 1764, Parliament finally extended the prohibition of any further monetary issues from New England to all the other colonies, and it also required the gradual retirement of outstanding notes. The leniency on retirement, however, as well as the provisions for treasury notes, managed to keep a great deal of paper in circulation for the remainder of the colonial period. Although the new notes could not be legal tender, they were somewhat maintained in value by being made receivable in taxes. All in all, by 1774, the estimated monetary circulation in the American colonies was $14 million, of which fifty to sixty percent was paper notes. We have indicated that the drive for paper money was led by prominent men in each colony. The economic arguments were highly simplistic - basically that more money was needed and therefore should be printed. The Reverend Cotton Mather added such typical arguments as that "money is a counter" and paper money would be an advantage in never leaving the colony (that is, it wasn't really money since it could not be used for imports). Mather also denounced "hoarding" because it obstructed the circulation of money. It was often maintained that paper money did not depreciate, but rather that silver appreciated, due to demands for its export. Such an argu- ment was used, for example, by Benjamin Franklin in his venal campaign for paper notes that he personally would be paid to print. Laying blame on the export of specie - as if it were an uncaused act of God! - was typical; thus Massachusetts thought that prohibition on the export of silver would arrest the depreciation of paper. Of course it did not!

It should be noted that the most enthusiastic supporters of the public land banks and paper money in Pennsylvania were the merchants, who were able to lobby effectively in England with the aid of Quaker bankers and merchants there. The wealthy merchant and land speculator Francis Rawle was one of the leaders of the paper-money movement in Pennsylvania. On the other hand, the proprietary, whose accruing quitrents were fixed in terms of money, strongly opposed "rotten" and "vile" paper money. In notoriously inflationist Rhode Island, Governor Richard Ward, a prominent Newport merchant, argued in 1740 that paper money had been spent on valuable public works and contended that its depreciation was due to the wickedness of the merchants rather than to economic law. The most prominent advocates of paper money in Rhode Island, it should be noted, were the Wanton family of Newport, two brothers of which were respectively the wealthiest merchant and the leading shipbuilder in the colony.

If merchants were the leaders in agitating for paper money, other merchants took the lead in opposition. At various times opposition to paper was expressed by Samuel Sewall, Thomas Hutchinson, and other prominent merchants of Boston; by merchants of Salem, Philadelphia, Hartford, Newport, and South Carolina; and by leaders of Providence and New York City. In 1750, a group of citizens of Rhode Island astutely charged that the main inciters of inflation were big landlords who had mortgaged their land in loans from the government, and who now wished to pay their debts in a relatively worthless currency.

In its argumentation the opposition began to develop the analysis of paper money that we have set forth above. The opponents pointed out, for example, that there is no sense to complaints of "scarcity" of money, since one can always buy specie on the market. They added that the clamor about "scarcity" was always worse after paper money had been issued than before. Thus, five keen Rhode Island legislators wrote in 1740 that "this bank would probably so far depreciate the whole paper currency, that we shall have in reality e less medium of exchange, and all complaints of scarcity of money greatly increased." And we have noted the contributions of the anonymous author of The Present Melancholy Circumstances ... in remarking the consequences of paper money in depreciation and in driving out specie.

Unquestionably the leading hard-money theoretician of the colonial era was Dr. William Douglass, a Scottish physician and scientist, who had settled in Boston. Douglass, whose contributions were commended by Adam Smith and by important classical economists in the next century, began his rise to influence with his Discourse Concerning the Currencies of the British Plantations in America (Boston, 1740). The Discourse was also an important statement of the Massachusetts opposition to the land bank. Douglass wove together the various strands of our analysis. He understood the various fallacies of the scarcity-of-money outcry; the workings of Gresham's law; the distress that paper wreaked on creditors, laborers, and fixed-income groups, and the special privilege it conferred on debtors; and the depreciation caused by paper-money issues. Douglass understood that paper issues were a form of taxation on the public. He also saw that it is the increase of paper that renders the balance of trade unfavorable by adding to spending for imported goods. And finally, Douglass realized that increasing the quantity of money only depreciates the value of each unit, so that a larger supply of money does no better or greater work for society than a smaller. Conversely, specie instead of paper notes will lower prices, attract specie, and balance foreign trade. Douglass, however, was inconsistent enough to favor private bank notes redeemable in specie, which would not exceed a certain vague proportion of specie reserve.

One important repercussion of the land-bank controversy was its effect on political representation in Massachusetts. Far from a "seaboard aristocracy" being dominant in the Assembly, the law of 1692 had established representation in the Assembly of one or two from each town with the exception of Boston, which could send four. This meant that as the colony grew and new towns were created, the Assembly became more and more heavily dominated by the rural towns. Furthermore, each representative had to be a resident of the particular town. Indeed, the small towns regarded themselves as over-represented: the smallest towns were not compelled to send representatives if they didn't want to, and the next smaller towns were repeatedly trying to extend this cost-saving privilege to themselves. Thus the cost and trouble of sending representatives were usually deemed greater than the advantages to be gained. Often towns accepted fines by the lower house rather than to bother sending representatives. Undoubtedly this lackadaisical attitude reflected the relative unimportance of government in the daily lives of the people.

The land-bank controversy, however, spurred the Massachusetts towns to sending more of their full complement to the legislature. Alarmed that the Assembly could use its increasing numbers to overwhelm the Council, Gover- nor William Shirley vetoed the division of old towns into new, and urged that in the future no new districts have power of representation This restriction on representation from new population centers was adopted by the Brit- ish government and enforced in Massachusetts for almost two decades. Since the lower house already far outnumbered the Council and chose each new Council annually and jointly with the old, the Massachusetts Assembly was therefore already in effective control of the Council. The new policy thus provided an irritant to colonial relations without affecting the basic dominance of the Massachusetts lower house.

By the early 1760s the Crown was progressively forced to modify the ban on representation of new towns. The close of the French and Indian War led to a rapid population expansion in Maine, and the new Maine towns clam- ored for representation. The Lords of Trade finally agreed and consented to representation from new towns in Massachusetts proper, although they still balked at representation from newly divided towns. Finally, in 1767, the Crown gave up completely and abandoned its futile attempt to check the power of the Assembly by restricting its representation.




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