Currency

After winning its independence in the American Revolution (1775–83), the United States had a bewildering variety of forms of money. American merchants who engaged in foreign trade dealt in British pounds, Spanish dollars, Portuguese johannes, or French livres. Each of the colonies also issued its own paper money, either in dollars or pounds. In addition, private banks or other businesses issued notes that circulated as yet another form of currency. Most of the American economy, however, was conducted in barter, or the trade of goods and services without any form of money passing hands. It was clear to the nation's first leaders that a new monetary system was needed.

In 1792, the new U.S. government adopted the Coinage Act, which set up the U.S. Mint (the institution responsible for producing the nation's coins) and created a “bimetallic” monetary system, meaning that both gold and silver were used as money. In this monetary system, the value of money was based on the value of the material—the gold or silver—from which the money was made. Because it was difficult to carry around large amounts of gold and silver, local banks soon issued banknotes. These were paper certificates promising to pay the bearer a precise amount of gold or silver on demand. Thus for each banknote in circulation, there was supposed to be a given amount of gold or silver stored away in a vault.

Despite the Coinage Act, the American economy continued to use other currencies: bartered products, foreign currencies, banknotes, and bills of exchange (a sort of credit system). The nation would not issue its own paper currency until the American Civil War (1861–65).

Pre–Civil War monetary policy

A uniform currency throughout the different states required a strong federal financial institution. A central bank of sorts did exist during the first third of the nineteenth century—the First Bank of the United States from 1791 to 1811 and the Second Bank of the United States from 1816 to 1836. Under Nicholas Biddle (1786–1844), a president of the Second Bank, the bank actively managed currency exchange throughout the nation. But federal banking ceased with the presidency of Andrew Jackson (1767–1845; served 1829–37), who hated banks due to unfortunate financial deals he had made early in his life.

Even with the presence of the first federal banks, state banks formed the backbone of the nation's money system, and they generally did not work together. In 1816, there were 250 state banks, and many of these institutions issued their own paper currency. By 1860, more than fifteen hundred state banks were issuing an average of six different denominations of notes. Currency printed by local banks commanded up to twice as much value as notes issued elsewhere, partly because people knew the reputation of local banks and partly because of transportation costs to redeem “foreign” (from another state or territory) currency. Caution was necessary with banknotes because counterfeits and notes of broken banks corrupted the currency.

In 1837, the United States experienced a devastating financial panic (a time when people fear their banks will be unable to pay, and therefore many people withdraw their money at once, frequently breaking the bank). Banks, finding the cost of precious metals much higher than anticipated, could not redeem their own notes for gold. This led to a major loss of confidence among note holders.

Greenbacks help pay for war

When the Civil War began in 1861, financial demands quickly depleted the nation's supply of gold and silver. This forced the government to pass the Legal Tender Act of 1862, which provided for the issue of paper money that was not backed by gold or silver. About $430 million in notes were issued. Because the bills were supported only by the government's promise to pay, people observed that the bills were backed only by the green ink with which they were printed. This resulted in the name greenbacks being used. The Confederate States of America (or South) also financed its war with the printing press. Confederate notes had blue security printing on the back, so they were called “bluebacks.”

The value of the greenbacks depended on the peoples’ confidence in the U.S. government and its future ability to convert the currency to coin. As the fighting between the Union (the North) and the Confederacy raged, confidence in government went up and down. When the Union suffered defeat, the value of the greenbacks dropped—one time to as low as 35 cents on the dollar. In general, greenbacks caused relatively high inflation—increases in costs of goods and services and a low value to money.

Gold and silver standards

After the war, the United States needed a universally approved monetary standard in order to resume international trading. Congress decided to reinstate the metal standard by backing the nation's greenbacks with a specific amount of metal. The Coinage Act of 1873 eliminated the silver dollar as a medium of exchange and placed the United States on a virtual gold standard. The elimination of the silver dollar came about in part because Britain and other foreign countries had decided to adopt a gold standard. In the United States, gold would remain the reigning medium of exchange until the 1930s, but not without great controversy.

Gold standard advocates believed the nation's money supply would never be stabilized under the bimetallic standard. They contended that because the open market value of each metal (gold and silver) was constantly changing, the undervaluation or overvaluation of either metal by the mint would impact the supply of coins in circulation. For example, when the U.S. Mint undervalued silver coins, people opted to sell their silver coins on the open market for more than their face value. When silver was overproduced and the government issued too many silver coins, the price of silver dropped and people eagerly traded in their silver coins for gold coins, thereby exhausting federal reserves.

Those opposed to the gold standard were concerned about the nation's continuing deflation, a general decrease in the cost of goods and services that plagued the country in the last part of the nineteenth century. Demand for gold expanded greatly as a number of countries went on the gold standard. Discoveries of gold deposits lagged behind, so gold's market value went up substantially. By 1896, the market value of gold relative to silver was thirty to one. If the United States had kept a bimetallic standard, people simply would have sold their gold coins at the market rate and used silver as a medium of exchange. Because Americans could not switch to silver, deflation occurred. Prices fell at the rate of nearly 5 percent annually from the end of the Civil War to 1879.

Foes of a gold-backed currency included silver producers and almost anyone whose livelihood involved incurring debt. The deepest opposition to the gold standard came from farmers, who entered into loans at a time when money was worth more and were forced to pay them back in the deflated economy in which their crops were worth less. Silver became the major issue of the 1896 presidential election. Democratic candidate William Jennings Bryan (1860–1925) demanded that humankind not be “crucified on a cross of gold.” Bryan lost the election to William McKinley (1843–1901; served 1897–1901), and in 1900 the United States officially adopted the Gold Standard Act.

National bank

The federal financial crisis during the Civil War had pointed to a need for a national bank system. In 1863, a bill calling for a banking system that would provide the country with a truly national currency was introduced in the Senate. Many people objected, fearing that the national government would gain too much control over local government by entering into the banking business. Nevertheless, in 1865 a national bank system was established. The federal government eliminated state banknotes, and national banks issued currency amounting to $300 million.

A series of devastating economic panics between 1873 and 1907 drew public attention to the need for more extensive banking and monetary reform. As a result, in 1913 the U.S. government passed the Federal Reserve Act to promote economic stability. The legislation established federal governmental regulation of currency supply and federal distribution of currency to banks. The Federal Reserve Board was charged with regulating the amount of gold reserves held against Federal Reserve notes (paper money) and supervising the issue and retirement of notes, among its many other functions.

Gold remained the standard of the U.S. monetary system until April 1933. In the midst of the Great Depression (1929–41; a worldwide economic downturn), Congress abandoned the gold standard because the United States could no longer guarantee the value of the dollar in gold. The 1933 legislation enabled the Federal Reserve to expand the nation's money supply without regard to gold reserves. At the same time, structural changes were made to the Federal Reserve, giving it almost total power over the nation's currency. The Federal Reserve System continued to grow and undergo adjustments, generally bringing stability to the U.S. currency.