National Bank Acts

Date February 25, 1863-June 3, 1864

These federal measures to finance the Union’s prosecution of the Civil War placed control of the U.S. banking and monetary system under the auspices of the federal government.

Locale Washington, D.C.

Key Figures

• Salmon P. Chase (1808-1873), secretary of the Treasury
• Jay Cooke (1821-1905), private banker who organized the sale of government bonds during the Civil War
• Thaddeus Stevens (1792-1868), Republican congressman from Pennsylvania who opposed the National Bank Acts

Summary of Event

Of the many crises faced by the federal government duirng its prosecution of the Civil War (1861-1865) against the Confederacy, none was more difficult to resolve than financing the conflict. The government needed money to pay for the war and at the same time expand support for the war among members of the financial community. However, government revenues were declining while expenses were mounting.

Salmon P. Chase, the secretary of the Treasury in Lincoln’s first administration, was reluctant to impose an income tax, aware that such taxes generated strong public hostility. A Democrat, Chase had no personal qualms about issuing paper money or about having government control the banks; he was much more interested in the larger issue of successfully prosecuting the war.

In August, 1861, Congress did legislate an income tax, which commanded 3 percent of incomes exceeding eight hundred dollars per year, and that percentage rose in subsequent years. Nevertheless, taxation could raise only a small part of the income needed to fight the war. Foreign lenders, having recently lost money in the Panic of 1857, did not want to invest in a nation at war. Public confidence in the United States was low, especially after the early Union failures on the battlefield. Meanwhile, the nation’s banks virtually all suspended specie payments before the end of 1861. Lincoln’s administration met that crisis by issuing paper currency .

The first Legal Tender Act of February 25, 1862, authorized the issue of $150 million in national notes, or “greenbacks.” Subsequent acts raised the authorized total to $450 million. Since the federal government itself suspended specie payments and thereby refused to redeem the paper money in gold or silver, the greenbacks were an inconvertible paper money supported only by the credit of the government. More important to war financing, however, was the sale of bonds by the government through the efforts of financier Jay Cooke . He utilized mass-marketing strategies to reach new groups of middle-class investors with great success. Cooke and his associates eventually sold more than one billion dollars worth of federal securities. However, during the early days of the war, in 1862 and 1863, when the battlefield success of the Union was in doubt, even Cooke had difficulty selling the bonds.

The government ultimately sold its bond issues because of the relationship between bond purchases and the establishment of the national banking system. Prior to the war, privately owned, state-chartered banks could issue their own money, backed by a specie reserve. The notes of those banks competed in the open market like other commodities, with the notes of weaker banks trading at a substantial discount. Critics argued that the nation needed a uniform currency, and that the state banks were unstable. Similar arguments had been made during the early nineteenth century by those wishing to establish the Bank of the United States. In any case, the charge that state banks were unstable was not true; some systems, especially in the South, proved remarkably solvent and stable during the Panic of 1857, particularly where branch banking was permitted.

Some critics saw a national banking system as a way to link the uniform currency to a banking system that also would provide an outlet for the government’s securities. In January, 1863, the Senate started work on such a system. State banks resisted, correctly fearing that a national banking system would have unfair competitive advantages. Thaddeus Stevens , a Republican congressman from Pennsylvania, opposed the new system. However, Secretary Chase, with support from Senator John Sherman of Ohio, pushed the bill through the Senate with a close vote. Stevens blocked the bill in the House of Representatives for months, but it finally passed there in February, 1863. Many who voted for the bill opposed the concept in principle, but supported it at the request of Chase, who argued that it was necessary in order to continue the war. Cooke also threw his influence behind the bill.

The act provided for the creation of national banks, which were required to purchase government bonds as a condition of receiving their federal charters. They then were permitted to issue notes up to 90 percent of the market value of the bonds. In an amending act of June 3, 1864, Congress made provisions for converting state banks into members of the national banking system. Nevertheless, state banks still resisted, and only the imposition of a federal tax of 10 percent upon state bank notes eliminated state bank competition. That act also ensured that the government would have a monopoly over the creation of money and could inflate at will. National banks were limited to note issues of $300 million, which, along with the greenbacks, became the national currency.

One of the problems of the new system was that it suffered from inadequate balance in its distribution of money across the nation—$170 million of the $300 million went to New England and New York—and the national banks proved to have inadequate redemption mechanisms. Demand for money in the West, especially, evolved into a considerable political issue after the Civil War. The laws also prohibited national banks from establishing branches, unless they entered the system with branches, and had other restrictions, including higher capital requirements than banks with state charters had. On the positive side, only national banks could be chosen as depositories for the Treasury Department’s tax revenues, and only national banks could issue notes. States retaliated by lowering their capital requirements, and state banks found that they could avoid the tax on bank notes by using demand deposits to finance their loans and investments, making state bank note issues irrelevant. Over time, the number of state-chartered banks overtook the number of national banks.

Significance

The national banking system did not eliminate financial crises or panics. Indeed, the poor redemption mechanisms and the lack of competitive currencies from state banks made panics more likely. Nationwide panics occurred in 1873, 1893, and 1907, eventually generating calls for reform that led to the creation of the Federal Reserve System in 1913. By 1900, deposits in national banks stood at $2,356 million, while deposits in nonnational banks totaled $3,005 million.

Creation of national banks and the corollary destruction of private note issue had another effect on the nation’s banking system. After the Civil War, the South’s banking system was devastated, and the prospects for either former Confederates or freedmen receiving federal charters were slim, if not nonexistent. Without national banks in the South, a dearth of capital occurred that retarded the postbellum growth of the region. Moreover, the destruction of competitive note issue by banks eliminated opportunities for the freedmen to create their own sources of capital. Thus, the National Bank Acts discriminated against the newly freed slaves. Whether the Radical Republicans in Congress intended to punish the South or the system accidentally discriminated against the South and West remains a matter of debate.

Another effect, almost certainly unintended, was to destabilize the banking system by removing an important market constraint, namely the necessity for banks to maintain specie reserves for their notes. At the same time, the government had to reduce the number of greenbacks in circulation, and from 1865 to 1879, the dollar value of greenbacks fell. Nevertheless, international factors led to the long-term deflation that the nation experienced from 1865 to almost 1900. That deflation was viewed by farmers and miners as damaging, and helped create groups, such as the Populists, who sought inflation, either through “free silver” or through the renewed issue of greenbacks.

The Populists and others feared that the money power was concentrated in New York, particularly in the hands of New York Jewish bankers. Those fears were incorporated into the Federal Reserve Act, by which twelve Federal Reserve Banks were spread throughout the country. Most people who were unhappy with the national bank system, however, had failed to anticipate the more serious threat: Note issue was centralized within the federal government in Washington, not with financiers in New York. Consequently, it would prove relatively easy to move final authority over the nation’s money and banking system to Washington, D.C., during the Great Depression of the 1930’s.

Bibliography

Bodenhorn, Howard. A History of Banking in Antebellum America: Financial Markets and Economic Development in an Era of Nation-Building. New York: Cambridge University Press, 2000. Examination of American banking policies in the years leading up to the Civil War, with close attention to differences between the northern and southern states.

Doti, Lynne Pierson, and Larry Schweikart. Banking in the American West: From the Gold Rush to Deregulation. Norman: University of Oklahoma Press, 1991. Discusses the shortages of currency in the West caused by the national banking system. Analyzes the western pressure for inflationary programs such as “free silver” and greenbacks. Compares branching systems in the West to states with nonbranching systems, describing the former as stronger.

Livingston, James. Origins of the Federal Reserve System: Money, Class, and Corporate Capitalism, 1890-1913. Ithaca, N.Y.: Cornell University Press, 1986. Argues that business interests rearranged the banking system to compensate for increases in labor costs. Although an unusual approach, most economists reject this interpretation of the development of banking during the late nineteenth century.

Rothbard, Murray N. A History of Money and Banking in the United States: The Colonial Era to World War II. Auburn, Ala.: Ludwig Von Mises Institute, 2002. Perhaps the best general history of banking in the United States, by a distinguished economist.

Schweikart, Larry. Banking in the American South from the Age of Jackson to Reconstruction. Baton Rouge: Louisiana State University Press, 1987. Demonstrates that the southern banking system was healthy on the eve of the Civil War, that branching made it especially competitive, and that the National Bank and Currency Acts particularly hurt the South.

Sharkey, Robert P. Money, Class, and Party: An Economic Study of Civil War and Reconstruction. Baltimore: Johns Hopkins University Press, 1959. Shows that many Democrats supported central banking; reveals splits in the Republican Party over money, mainly along class lines.

Sinisi, Kyle S. Sacred Debts: State Civil War Claims and American Federalism, 1861-1880. New York: Fordham University Press, 2003. Innovative study of the post-Civil War struggle between the states and the federal government over payment of the huge debt left over after the Civil War.

Timberlake, Richard H. The Origins of Central Banking in the United States. Cambridge, Mass.: Harvard University Press, 1978. Argues that government abused the “necessary and proper” clause to acquire power over note creation and authority over banking. Describes a system of clearinghouses developed during the late nineteenth century that effectively dealt with the problems caused by the national bank system.