Gold and silver coins were lawful money in the history of the US. I use the term money since it satisfies my criteria for this term (medium of exchange, unit of account, store of wealth). At one point in our monetary history precious metal coins were the primary form of money. Coins also found homes in depositories issuing certificates redeemable for the coins. The depositories charged a fee for storage. The depository served a warehouse function and the certificates were the warehouse receipt. It was a reasonable arrangement. These certificates were deemed “as good as gold” and served as payment for goods and services and for repayment of debt. The certificates also satisfied the criteria of money. Whoever presented certificates at the depository was entitled to the stated amount of gold or silver on the certificate.The owners of these depositories recognized that at any point in time, the amount of gold/silver on deposit was more than adequate to pay the certificate bearers (those wanting gold/silver). This condition is perfectly logical since as long as the depositors and certificate users had confidence in the existence of gold/silver in the depository, there was no need to withdraw the physical metal. The owners of the depositories used this to their advantage. They began to issue certificates well in excess of gold and silver deposits. This additional issuance is another example of what we call inflation. A greater amount of money (the certificates) was pursuing the same amount of goods and services in the economy. As a result, our store of wealth criteria for money was altered since each outstanding certificate had less purchasing power than before – no additional gold/silver backed the newly issued certificates.
During the American Revolutionary War, the fledgling country needed vast sums of money to fight the British. One method of acquiring this money was to tax the people. As a parenthetical note, for Government to do ANYTHING it must tax - absent taxes, it must borrow. Since taxes are usually unpopular, the country created money called the Continental Dollar. This money was credit extended to the people for goods and services. The colonists provided goods and services to the government to fight the war and the government paid the people with Continentals (not gold or silver coin). The Continentals were redeemable for Spanish milled dollars or the equivalent amount of gold/silver (meaning the Spanish dollar represented gold/silver). Since no additional wealth, in the form of gold/silver, appeared in the colonies to back the new Continentals, instant inflation occurred. We know this is inflation since the supply of money (Continentals) increased relative to what was supposed to back the money (gold/silver).
Six years after the Continentals came into existence it took $16,800 in Continentals to acquire $100 of wealth (gold/silver). During those six years would you rather have owned Continentals or wealth? Anyone realizing what was occurring with the purchasing power of a Continental would rid themselves of it (before it lost value) instead of gold/silver for transactions. This gives rise to something known as Gresham’s Law. The law says that bad money drives out the good money. In this case, the “bad” money was the Continental and the “good” money was the Spanish dollar/gold/silver. Eventually the Continental ceased to exist and the episode gave rise to the term “not worth a Continental”.
The Founding Fathers recognized Gresham’s Law and understood inflation. Article I Section 10 of the Constitution says, “No State shall enter into any Treaty, Alliance, or Confederation; grant Letters ofMarque and Reprisal; coin Money; emit Bills of Credit; make any Thing but gold and silver Coin a Tender in Payment of Debts; pass any Bill ofAttainder, ex post facto Law, or Law impairing the Obligation ofContracts, or grant any Title of Nobility.”Note the specification of gold and silver coin for the purposes of tender to pay debt.
The eruption of the Civil War necessitated the creation of US Notes. As mentioned earlier when Government needs to do something either taxes are raised or money is borrowed. During the war, the Government chose to borrow by issuing Notes. These Notes, unlike the earlier Continentals, were not redeemable in gold). In exchange for the Notes, the public provided goods and services. The public could use the Notes to pay for their taxes. The Notes were also considered legal tender (lawfully declared money) for payment of public and private debts. Returning all the Notes to the Government for tax payment represented goods/services exchanged for taxes. While the Notes circulated as money, they did not satisfy our definition of money since it was not a direct store or representation of wealth. The Notes represented inflation. The circulation of the Civil War era Notes is inflation since the supply of money increased without a corresponding increase in wealth (gold/silver).
Debasement of money occurred in the Civil War and Revolutionary War eras. The common theme in both cases was war. War is an extraordinary event requiring extraordinary effort on the part of the public. In order for a war effort to be fought, tremendous resources must be marshaled away from regular consumption towards fighting an enemy. In order to prosecute a war, a government must either raise taxes or borrow. Since taxation is rarely popular, borrowing is the alternative. I make the point about war borrowing since for a portion of our history, this was the reason for incurring public debt.
In the ensuing years, the United States functioned with an assortment of paper certificates redeemable for gold/silver. Additionally, gold and silver coins (wealth) were also used in common transactions. Late in the 19th century and early in the 20th centuries, financial panics and bank runs occurred which gave rise to one of the most significant but least understood events in the 20th century – the creation of the Federal Reserve System (Fed). With the creation of the Fed our “money” acquired an entirely different complexion.
Source: examiner.com
