The First and Second Bank of the United States – A History of Central Banking

Filed in Economic History by on October 26, 2013 2 Comments

The Hamiltonian banks

The United States’ Federal Reserve is undoubtedly one of the most important economic and financial institutions in the US and like all institutions of such importance it is easy for mainstream discourse to take it for granted. To forget the history of central banking in the US however would entail a dangerous loss of knowledge of an important context that influenced American politics for over a century. The whole question of the creation of a central bank was in fact a major issue of contention between the Founding Fathers since the early days of US independence.

As the first US Secretary of Treasury and the main proponent of the first central banking system, Alexander Hamilton quickly found himself at the centre of this debate. Commissioned by President Washington he produced several reports on the state of the new nation, the first of which, the “First Report on Public Credit” submitted in 1790, carried a projection on the creation of a National Bank.

The proposed functioning of the Bank itself demonstrated the struggle between creating a strong force for economic stability whilst also preventing too heavy a concentration of power in the Federal Government. Most importantly, the Bank would be bound to a 20-year charter after which it required Congress’ approval for renewal of the charter. This Bank would also possess an initial capitalization of $10 million, one fifth of which was held as a loan from the bank to the Government, and to be repaid in installments. The rest of the money supply was intended for private businesses and shareholders from which was also drawn a twenty-five member board of directors.

The financing of this bank, alongside Hamilton’s proposed credit measures, quickly ignited Southern and agrarian opposition. In order to finance the bank and establish viable credit for the new United States, Hamilton suggested the re-appropriation of the remaining states’ war debts to the Federal Government alongside an increase in tax revenues from new tariffs on imported spirits, which would soon be known as the “Whiskey Tax”. Not only were the new taxes extremely unpopular, the transfer of state debts to the central Government meant that many of the southern states which had already paid off their war debts would be effectively double-taxing their citizens when paying off the new Federal debt.

Establishing a new central bank also created one of the first Constitutionality debates in the US government. While the Constitution had limited the role of Congress to regulate weights, measures and to the issuance of minted currency, creating a National Bank was, for Jefferson, Madison and their anti-Federalist supporters, outside the boundaries of constitutional power. Hamilton saw himself forced to apply the now famous Implied Powers argument, declaring that the Constitution upon granting goals and aims for Government, also grants permission to create the means to achieve those same goals.  Eventually, Hamilton’s arguments succeeded in persuading President Washington into approving the Bank bill and consequently starting the Bank charter.

However, even after the First Bank of the United States had become a reality, strong opposition remained, finally reaching a climax after Hamilton left his office as Secretary of Treasury. His successor, Oliver Wolcott Jr. was swift in suggesting that the Federal Government sell all its shares of the Bank’s stock as a ready alternative to raising taxes, effectively signalling the beginning of the end for the first Federal controlled Bank. Hamilton was thus unable to prevent the abandonment of the Central Banking system, with the charter being left to reach the end of its 20 year limit in 1811, after which it was sold and transformed into Stephen Girard’s Bank in Philadelphia.

The Second Bank of the United States

The second major chapter in the history of central banking in the US began in the wake of the War of 1812. The decades following independence saw a dramatic rise in the importance of industry and trade in the economy, and the war had an adverse effect on them due in part to unregulated currency, which also increased demands for more security in government issued bonds. Thankfully for proponents of a new central bank this era in the US, now dubbed the “Era of Good Feelings”, was extremely conducive to further development of Federal projects and institutions.

What had been a fairly homogenous opposition to the First Bank of the United States was now divided between the Old and New Republicans, representing most of the Southern and Western states. While the Old Republicans insisted on the Constitutionality arguments that had been put forward by Jefferson during the debates on the First Bank of the US, the New Republicans supported the idea due to increased interdependence between the growing finance industry and the large southern plantations. New opposition did emerge however, from privately owned banks, both chartered and unchartered, that had come to dominate the market in the absence of a regulatory entity.

After some debate but with considerably more ease compared to the First Bank, the Second Bank of the United States was signed into being and afforded a 20 year charter in 1817. Once again, one-fifth of the starting capital for the Bank was owned by the Federal Government, acting as its main shareholder and customer whilst also requiring certain services of the new Bank, most notably the handling of all government transactions and tax payments. The twenty-five board of directors was also in place, with five of those members chosen by the President of the United States contingent on Senate approval.

Its first major challenge was quickly revealed to be restraining private and state-owned banks whose unregulated issuing of bank notes had been fuelling speculative booms. While by itself this posed an already formidable challenge, the Second Bank had also been created with the implied commitment to permitting prevailing laissez-faire policies that allowed credit exchanges between North and Eastern creditors to new Southern and Western debtors. The Bank was largely unsuccessful in controlling these speculative booms which led to the US market crash of 1819.

While the advent of a new crisis provided the Second Bank with an opportunity to demonstrate its economic capacity, its proposed solutions and fiscal policies were largely belated in their application. The first President of the Second Bank officially resigned in 1819, being replaced by Langdon Cheves, who was made responsible in the application of most of those solutions which included a credit contraction that contrasted with a then recovering economy.  These belt tightening policies inevitably led to increased unemployment, thus prolonging the following recession, creating further opposition and critics to central banking.

It was during this atmosphere of general distrust and dislike for the central bank, that President James Monroe appointed Nicholas Biddle as the new President of the Second Bank. Biddle proceeded to cautiously and successfully expanding credit alongside a growing US economy. The Bank also profited in public support from the first Supreme Court ruling in its favour, upholding its constitutionality and dissuading many of its more traditional critics from further challenge.

The source of the Second Bank’s demise would eventually arrive during Andrew Jackson’s Presidency in 1829. Despite the general public approval of the Bank, President Jackson attacked the Bank claiming a failure to produce a stable currency alongside traditional constitutional concerns. Despite Congressional investigations and reports defending the Bank’s role in maintaining US currency and precedents for its constitutionality, Jackson was unwavering in his condemnation of the Second Bank as a corrupt corporation. President Jackson’s anti-bank platform carried him through his re-election in 1832, and in 1833 he proceeded to remove all Federal deposits from the Second Bank, moving them into several private and state banks. The Bank charter was thus allowed to expire in 1836 with the corporation itself being liquidated in 1841.

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About the Author ()

My name is Felipe and I’ve just finished an International Relations degree at the Queen Mary University of London. I’m mostly interested in Political Economy and how government policies and intergovernmental and global interactions shape economic systems. I’ve also had a life-long interest in History which has reinforced my interest and constant desire to learn more about the long term cycles and trends of Economics.
  • Carlos

    Excellent!
    Good job.

  • Gil

    Very insightful! Thanks, keep the good work