The United States Constitution does not mention paper
money by that name. Nor does it refer to paper currency or fiat money in
those words.1 There is only one direct reference to the
origins of what we, and they, usually call paper money. It is in the
limitations on the power of the states in Article 1, Section 10. It
reads, "No State shall ... emit Bills of Credit. . . ." Paper that was
intended to circulate as money but was not redeemable in gold and silver
was technically described as bills of credit at that time. The
description was (and is) apt. Such paper is a device for expanding the
credit of the issuer. There is also an indirect reference to the
practice in the same section of the Constitution. It reads, "No State
shall ... make any Thing but gold and silver Coin a Tender in Payment of
Debts.. . ."Legal tender laws, in practice, are an essential expedient
for making unredeemable paper circulate as money. Except for the one
direct and one indirect reference to the origin and means for
circulating paper money, the Constitution is silent on the question.
With such scant references, then, it might be supposed
that the makers of the Constitution were only incidentally concerned
with the dangers of paper money. That was hardly the case. It loomed
large in the thinking of at least some of the men who were gathered at
Philadelphia in 1787 at the Constitutional Convention. There were two
great objects in the making of a new constitution: one was to provide
for a more energetic general government; the other was to restrain the
state governments. Moreover, the two objects had a common motive at many
points, i.e., to provide a stronger general government which could
restrain the states.
Measures to Prevent a Flood of Un-backed Paper Money
One of the prime reasons for restraining the state
governments was to prevent their flooding the country with un-backed
paper money. James Madison, one of the leaders at the convention,
declared, in an introduction to his notes on the deliberations there,
that one of the defects they were assembled to remedy was that "In the
internal administration of the States, a violation of contracts had
become familiar, in the form of depreciated paper made a legal
tender."2 Edmund Randolph, in the introductory remarks
preceding the presentation of the Virginia Plan to the convention,
declared that when the Articles of Confederation had been drawn "the
havoc of paper-money had not been foreseen." 3
Indeed, as the convention held its sessions, or in the
months preceding it, state legislatures were under pressure to issue
paper money. Several had already yielded, or taken the initiative, in
issuing the un-backed paper. The situation was out of control in Rhode
Island, and had been for some time. Rhode Island refused to send
delegates to the convention, and the state's reputation was so bad that
the delegates there were apparently satisfied to be spared the counsels
of her citizens. Well after the convention had got underway, a motion
was made to send a letter to New Hampshire, whose delegates were late,
urging their attendance. John Rutledge of South Carolina rose to oppose
the motion, arguing that he "could see neither the necessity nor
propriety of such a measure. They are not un-apprized of the meeting,
and can attend if they choose." And, to clinch his argument, he proposed
that "Rhode Island might as well be urged to appoint & send
deputies." 4No one rose in defense of an undertaking of that
character.
The ill repute of Rhode Island derived mainly from that
state's unrestrained experiments with paper money. Rhode Island not only
issued paper money freely but also used harsh methods to try to make it
circulate. The "legislature passed an act declaring that anyone refusing
to take the money at face value would be fined E100 for a first offense
and would have to pay a similar fine and lose his rights as a citizen
for a second." 5 When the act was challenged, a court
declared that it was unconstitutional. Whereupon, the legislature called
the judges before it, interrogated them, and dismissed several from
office. The legislature was determined to have its paper circulate.
The combination of abundant paper money and Draconian
measures to enforce its acceptance brought trade virtually to a halt in
Rhode Island. A major American constitutional historian described the
situation this way:
The condition of the state during these days was
deplorable indeed. The merchants shut their shops and joined the crowd
in the bar-rooms; men lounged in the streets or wandered aimlessly
about. ... A French traveller who passed through Newport about this time
gives a dismal picture of the place: idle men standing with folded arms
at the corners of the streets; houses falling to ruins; miserable shops
offering for sale nothing but a few coarse stuffs ... ; grass growing in
the streets; windows stuffed with rags; everything announcing misery,
the triumph of paper money, and the influence of bad government. The
merchants had closed their stores rather than take payment in paper;
farmers from neighboring states did not care to bring their produce. . .
. Some ... sought to starve the tradesmen into a proper appreciation of
the simple laws of finance by refusing to bring their produce to
market.6
But there was more behind the Founders' fears of paper
money than contemporary doings in Rhode Island or general pressures for
monetary inflation. The country as a whole had only recently suffered
the searing aftermath of such an inflation. Much of the War for
Independence had been financed with paper money or, more precisely,
bills of credit.
A Surge of Continentals
Even before independence had been declared the
Continental Congress began to emit bills of credit. These bills carried
nothing more than a vague promise that they would at some unspecified
time in the future be redeemed, possibly by the states. In effect, they
were fiat money, and were never redeemed. As more and more of this
Continental currency was issued, 1776--1779, it depreciated in value.
This paper was joined by that of the states which were, if anything,
freer with their issues than the Congress. In 1777, Congress requested
that the states cease to print paper money, but the advice was ignored.
They did as Congress did, not what it said.
At first, this surge of paper money brought on what
appeared to be a glow of prosperity. As one historian described it, "the
country was prosperous. . . . Paper money seemed to be the 'poor man's
friend'; to it were ascribed the full employment and the high price of
farm products that prevailed during the first years of the war. By 1778,
for example, the farmers of New Jersey were generally well off and
rapidly getting out of debt, and farms were selling for twice the price
they had brought during the period 1765--1775. Trade and commerce were
likewise stimulated; despite the curtailment of foreign trade,
businessmen had never been so prosperous.7
The pleasant glow did not last long, however. It was
tarnished first, of course, by the fact that the price of goods people
bought began to rise. (People generally enjoy the experience of prices
for their goods rising, but they take a contrary view of paying more for
what they buy.) Then, as now, some blamed the rise in prices on merchant
profiteering.
As the money in circulation increased and expectations
of its being redeemed faded, a given amount of money bought less and
less. This set the stage for speculative buying, holding on to the goods
for a while, and making a large paper profit on them. There were
sporadic efforts to control prices as well as widespread efforts to
enforce acceptance of the paper money in payment for debts. These
efforts, so far as they succeeded, succeeded in causing shortages of
goods, creditors to run from debtors trying to pay them in the
depreciated currency, and in the onset of suffering.
Runaway Inflation
By 1779, the inflation was nearing the runaway stage.
"In August 1778, a Continental paper dollar was valued (in terms of gold
and silver) at about twenty--five cents; by the end of 1779, it was
worth a penny." "Our dollars pass for less this' afternoon than they did
this morning," people began to say.8 George Washington wrote
in 1779 that "a wagon load of money will scarcely purchase a wagon load
of provisions." 9 It was widely recognized that the cause was
the continuing and ever larger emissions of paper money. Congress
resolved to issue no more in 1779, but it was all to no avail. Runaway
inflation was at hand. In 1781, Congress no longer accepted its own
paper money in payment for debts, and the Continentals ceased to have
any value at all.
A good portion of the dangers of paper money had been
revealed, and reflective people were aware of what had happened. Josiah
Quincy wrote George Washington "that there never was a paper pound, a
paper dollar, or a paper promise of any kind, that ever yet obtained a
general currency but by force or fraud, generally by both." 10
A contemporary historian concluded that the "evils which resulted
from the legal tender of the depreciated bills of credit" extended much
beyond the immediate assault upon property. "The iniquity of the laws,"
he said, "estranged the minds of many of the citizens from the habits
and love of justice. . . . Truth, honor, and justice were swept away by
the overflowing deluge of legal iniquity. .. ."11
But the economic consequences of the inflation did not
end with the demise of the Continental currency. Instead, it was
followed by a deflation, which was the inevitable result of the decrease
in the money supply. The deflation was not immediately so drastic as
might be supposed. Gold and silver coins generally replaced paper money
in 1781. Many of these had been out of circulation, in hiding, so long
as they were threatened by tender law requirements to exchange them on a
par with the paper money. Once the threat was removed, they circulated.
The supply of those in hiding had been augmented over the years by
payments for goods by British troops. Large foreign loans, particularly
from the, French, increased the supply of hard money in the United
States in 1781 and 1782. A revived trade with the Spanish, French, and
Dutch brought in coins from many lands as well. In addition, Robert
Morris's Bank of North America provided paper money redeemable in
precious metals in the early years of the decade.
The Impact of Depression
By the middle of the 1780s, however, the deflation was
having its impact as a depression. Trade had reopened with Britain, and
Americans still showed a distinct preference for British imports. That,
plus the fact that the market for American exports in the British West
Indies was still closed, resulted in a large imbalance in trade.
Americans made up the difference either by borrowing or shipping hard
money to Britain. Prices fell to reflect the declining money supply.
Those who had gone into debt to buy land at the inflated wartime prices
were especially hard hit by the decline in the prices of their produce.
Foreclosures were widespread in 1785-1786. This provided the setting for
the demands for paper money and other measures to relieve the pressure
of the debts. Some people were clamoring for the hair of the dog that
had bit them in the first place - monetary inflation - and several state
legislatures had accommodated them.
Though there is evidence that the worst of the
depression was over by 1787, if not in the course of 1786,12
paper money issues and agitations for more were still ongoing when the
Constitutional Convention met in Philadelphia. In any case, those who
had absorbed the lessons of recent history were very much concerned to
do something to restrain governments from issuing paper money and
forcing it into circulation. There were those who met at Philadelphia,
too, who took the long view of their task. They hoped to erect a system
that would endure, and to do that they wished to guard against the kind
of fiscal adventures that produced both unpleasant economic consequences
and political turmoil. Paper money was reckoned to be one of these.
The question of granting power to emit bills of credit
came up for discussion twice in the convention. The first time was on
August 16, 1787. (The convention had begun its deliberations on May 25,
1787, so it was moving fairly rapidly toward the conclusion when the
question arose.) The question was whether or not the United States
government should have power to emit bills of credit. Congress had such
a power under the Articles of Confederation, and most of the powers held
by Congress under the Articles were introduced in the convention to be
extended to the new government.
Constitutional Convention Debates
Gouverneur Morris of Pennsylvania "moved to strike out'
and emit bills on the credit of the United States'." That is, he
proposed to remove the authority for the United States to issue such
paper money. "If the United States had credit," Morris said, "such bills
would be unnecessary: if they had not, unjust & useless." His motion
was seconded by Pierce Butler of South Carolina.
James Madison wondered if it would "not be sufficient
to prohibit making them a tender? This will remove the temptation to
emit them with unjust views. And promissory notes in that shape may in
some emergencies be best." (Madison's distinction between bills of
credit that may be freely circulated and those whose acceptance is
forced by tender laws should remind us that paper instruments serving in
some fashion as money are not at the heart of the problem. After all,
private bills of exchange had for several centuries been used by
tradesmen, and these sometimes changed hands much as money does. They
are what we call negotiable instruments, and the variety of these is
large. What Madison was getting at more directly, however, was that
governments, if they are to borrow money from time to time, may issue
notes, and these may be negotiable instruments which may take on some of
the character of money in exchanges. But Madison's objection was
overcome, as we shall see.)
Gouverneur Morris then observed that "striking out the
words will leave room still for notes of a responsible minister which
will do all the good without the mischief. The Monied interest will
oppose the plan of Government, if paper emissions be not prohibited."
However, Morris had moved beyond his motion, which was
for removing the power, not specifying a prohibition, and Nathaniel
Gorham of Massachusetts brought him back to the point. Gorham said he
"was for striking out, without inserting any prohibition. If the words
stand they may suggest and lead to the measure."
Not everyone who spoke, however, favored removing the
power. George Mason of Virginia "had doubts on the subject. Congress he
thought would not have the power unless it were expressed. Though he had
a mortal hatred to paper money, yet as he could not foresee all
emergencies [sic], he was unwilling to tie the hands of the Legislature.
He observed that the late war could not have been carried on, had such a
prohibition existed."
Nathaniel Gorham tried to reassure Mason and others who
might have similar doubts by declaring that "The power so far as it will
be necessary or safe, is involved in that of borrowing."
Both Positions Argued
On the other hand, John Francis Mercer of Maryland
announced that he "was a friend to paper money, though in the present
state & temper in America, he should neither propose nor approve of
such a measure. He was consequently opposed to a prohibition of it
altogether. It will stamp suspicion on the Government to deny it a
discretion on this point. It was impolitic also to excite the opposition
of all those who were friends to paper money. The people of property
would be sure to be on the side of the plan [the Constitution], and it
was impolitic to purchase their further attachment with the loss of the
opposite class of Citizens."
Oliver Elsworth of Connecticut pronounced himself of
the opposite view. He "thought this a favorable moment to shut and bar
the door against paper money. The mischiefs of the various experiments
which had been made, were now fresh in the public mind and had excited
the disgust of all the respectable part of America. By withholding the
power from the new Government more friends of influence would be gained
to it than by almost any thing else. Paper money can in no case be
necessary. Give the Government credit, and other resources will offer.
The power [to emit bills of credit] may do harm, never good."
Edmund Randolph of Virginia still had doubts, for he
said that "notwithstanding his antipathy to paper money, [he] could not
agree to strike out the words, as he could not foresee all the occasions
which might arise."
James Wilson of Pennsylvania favored removing the
power: "It will have a most salutary influence on the credit of the
United States to remove the possibility of paper money. This expedient
can never succeed whilst its mischiefs are remembered, and as long as it
can be resorted to, it will be a bar to other resources."
Pierce Butler "remarked that paper was a legal tender
in no country in Europe. He was urgent for disarming the Government of
such a power."
George Mason, however, "was still averse to tying the
hands of the Legislature altogether. If there was no example in Europe
as just remarked, it might be observed on the other side, that there was
none in which the Government was restrained on this head." His fellow
delegates fore-bore to remind Mason that except for Britain there was
hardly a government in Europe that was restrained on that or any other
head by a written constitution.
In any case, the last remarks were made by men
vehemently opposed to the power. George Read of Delaware "thought the
words, if not struck out, would be as alarming as the mark of the Beast
in Revelations." John Langdon of New Hampshire "had rather reject the
whole plan [the Constitution] than retain the three words," by which he
meant "and emit bills."
Denying the Power to Emit Bills of Credit
The vote was overwhelmingly in favor of removing the
authority of the United States to emit bills of credit. The delegates
voted by states, and 9 states voted in favor of the motion while only 2
opposed it. (New York delegates were not in attendance, and Rhode
Island, of course, sent none.) It is a reasonable inference from the
discussion that the delegates believed that by voting to strike out the
words they had removed the power from the government to emit bills of
credit. George Mason, who opposed the motion, admitted as much.
Moreover, James Madison explained in a footnote that he voted for it
when he "became satisfied that striking out the words would not disable
the Government from the use of public notes as far as they could be safe
& proper; & would only cut off the pretext for a paper currency,
and particularly for making the bills a tender for public or private
debts." 13
The other discussion of paper money took place in
connection with the powers to be denied to the states in the
Constitution. The committee report had called for the states to be
prohibited to emit bills of credit without the consent of the United
States Congress. James Wilson and Roger Sherman, who was from
Connecticut, "moved to insert after the words 'coin money' the words
'nor emit bills of credit, nor make any thing but gold & silver coin
a tender in payment of debts'," thus, as they said, "making these
prohibitions absolute, instead of making the measures allowable (as in
the XIII article) with the consent of the Legislature of the U.S."
Nathaniel Gorham "thought the purpose would be as well
secured by the provision of article XIII which makes the consent of the
General Legislature necessary, and that in that mode, no opposition
would be excited; whereas an absolute prohibition of paper money would
rouse the most desperate opposition from its partizans."
To the contrary, Roger Sherman "thought this a
favorable crisis for crushing paper money. If the consent of the
Legislature could authorize emissions of it, the friends of paper money,
would make every exertion to get into the Legislature in order to
license it." 14
Eight states voted for the absolution prohibition
against states issuing bills of credit. One voted against it, and the
other state whose delegation was present was divided. The prohibition,
as voted, became a part of the Constitution.
Paper Money Rejected
Three other points may be appropriate. The first has to
do with any argument that there might be an implied power for the United
States government to issue paper money since it is not specifically
prohibited in the Constitution. Alexander Hamilton, the man credited
with advancing the broad construction doctrine, maintained the opposite
view in The Federalist. While he was making a case against the adding of
a bill of rights, his argument was meant to have general validity. He
declared that such prohibitions "are not only unnecessary in the
proposed Constitution but would even be dangerous. They would contain
various exceptions to powers which are not granted; and, on this very
account, would afford a colorable pretext to claim more than were
granted. For why declare that things shall not be done which there is no
power to do." 15 In short, the government does not have all
powers not prohibited but only those granted.
Second, this point was driven home by the 10th
Amendment when a Bill of Rights was added to the Constitution. It reads,
"The powers not delegated to the United States by the Constitution, nor
prohibited by it to the States, are reserved to the States respectively,
or to the people." The power to emit bills of credit or issue paper
money was not delegated to the United States. More, it was specifically
not delegated after deliberating upon whether to or not. The power was
prohibited to the states. The logical conclusion is that such power as
there may be to emit bills of credit was reserved to the people in their
private capacities.
And third, not one word has been added to or subtracted
from the Constitution since that time affecting the power of government
to emit bills of credit or issue paper money.
Since the United States is once again in the toils of
an ongoing monetary inflation, it is my hope that this summary review of
the experience, words, and deeds of the Founders might shed light on
some of the vexing questions surrounding it.
At the time of the original publication, Dr. Carson
had written and taught extensively, specializing in American
Intellectual history. He is the author of several books, his most
recent was Organized Against Whom? The Labor Union in America. He was
then working on A Basic History of the United States.
1. Actually, the phrase, "fiat money," did not come
into use until the 1880s. It might have helped the Founders to specify
more precisely what they had in mind to prevent, but they had no such
term.
2. E. H. Scott, ed., Journal of the Federal Convention
Kept by James Madison (Chicago: Albert, Scott and Co., 1893), p. 47.
3. 1bid., p. 60.
4. Charles E. Tansill, ed., Formation of the Union of
the American States (Washington: Government Printing Office, 1927), p.
306.
5. Merrill Jensen, The New Nation (New York: Vintage
Books, 1950), p. 324.
6. .Andrew C. McLaughlin, The Confederation and the
Constitution (New York: Collier Books, 1962), pp. 107-08.
7.John C. Miller, Triumph of Freedom (Boston: Little,
Brown and Co., 1948), p. 438.
8. Ibid., p. 462.
9. Quoted in Albert S. Bolles, The Financial History of
the United States, vol. I (New York: D. Appleton, 1896, 4th ed.), p.
132.
10. Ibid., p. 139.
11. Quoted in ibid., pp. 177-78.
12. See Jensen, op. cit., pp. 247-48.
13. AII the discussion and quotations can be found in
Tansill, op. cit., pp. 556-57. While there is no way to know if the
record of the debates on this and other matters is complete, nothing has
been omitted from Madison's notes.
14. Ibid., pp. 627-38. The committee on style
eventually reduced the number of articles in the Constitution to seven,
so there is not now an Article X111, of course.
15. Alexander Hamilton, et. al., The Federalist Papers
(New Rochelle, N. Y: Arlington House, n. d.), pp. 513--14.
Reprinted with permission from The
Freeman, a publication of the Foundation for Economic Education, Inc.,
July 1983, Vol. 33, No. 7.
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