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Building the Republic: National Banking and Finance

Today, most of us give little thought to banks. If we want to deposit our paycheck, get cash, a mortgage loan, a consumer loan, or business loan we automatically assume that the banks and their ATM networks will be there to provide these services. This has not always been the case. For much of history, banking services, if available at all, were available only to the wealthiest individuals in society. In today’s article we are going to look at the origins of commercial banking, its effect on economic growth, its relationship to money and trade, the availability of financial services to people in Colonial America and the rise and fall of the national banks in the Early Republic.

Ancient Origins

Some of the earliest accounts of banking date back to Mesopotamia, where the City of Ashur had a sophisticated banking system that financed trade with Anatolia (Turkey). The capital came from long-term investments made by independent speculators in return for a contractually specified proportion of the profits.

In Persia, the magi, members of the royal family and nobles who counseled the King, handled banking, as well as for religious rituals, and divination. In this system, the high priest employed lesser priests who took on the role of bankers. The Magi offered loans with an interest rate of 20 percent but could, and did, waive interest at various times for assorted reasons. Homes, land, livestock, businesses, and slaves could be bought on credit offered by the priests in return for a profit on their investment.

In ancient Greece, private and civic entities within society, especially Greek temples, performed financial transactions. The temples were the places where treasure was deposited for safe keeping. The three temples thought the most important in terms of banking deposits were the temple to Artemis in Ephesus, and temple of Hera at Samos, and the Temple of Apollo at Delphi. These supported deposits, currency exchange, validation of coinage, as well as making loans. The first treasury to the Apollonian temple was built before the end of the 7th century BC. Prior to the destruction by Persians during the 480 BC invasion, the Athenian Acropolis temple dedicated to Athena stored money. As the need for new buildings to house operations increased, construction of these places within the cities began around the courtyards of the agora. During the 2nd century BC, thirty-five Hellenistic cities included private banks while in the 1st Century AD, of the settlements of the Greco-Roman world, three were named as centers of wealth and banking, Athens, Corinth, and Patras.

Map of Financial Centers of Ancient Greece
Financial Centers of Ancient Greece

Banks in the Roman Empire were not like modern ones. Roman banks were individual or family affairs that performed the essential banking function of bringing together people who had resources (typically in the form of money) to loan and other people who wanted to borrow resources for consumption or production. They transferred money from place to place, from country estates to cities for landowners to spend, and from Asian properties to Roman investors. They also engaged in ancillary activities like financing auctions, exchanging currency, and holding endowments. There were also moneylenders who would set up their stalls in the middle of enclosed courtyards called macella on a long bench, called a bancu, from which the words banco and bank are derived. The merchant at the bancu however, did not so much invest or loan money as merely convert foreign currency into the only legal tender in Rome – that of the Imperial Mint.

The Roman empire at some time formalized the administrative aspect of banking and instituted greater regulation of financial institutions and financial practices. Charging interest on loans and paying interest on deposits became more highly developed and competitive. Just as coins helped trade by reducing the transaction costs of buying and selling goods, so bank credit helped both trade and production thus promoting economic activity. After the fall of Rome, banking temporarily ended in Europe.

Illustration of a Medieval Bank
Illustration of a Medieval Bank

The original medieval banks were "merchant banks" that Italian grain merchants invented in the Middle Ages. As the Italian merchants and bankers grew in stature based on the strength of the Lombard plains cereal crops, many displaced Jews fleeing Spanish persecution were attracted to the trade. They brought with them ancient practices from the Middle and Far East silk routes. Originally intended to finance long trading journeys, they applied these methods to finance grain production and trading. The Jewish “bankers” had one great advantage over the locals. Christians were forbidden the sin of usury, defined as lending at interest, as were Muslims. The Jewish newcomers, on the other hand, could lend to farmers against crops in the field, a high-risk loan at what the Church would have considered usurious rates; but the Jews were not subject to the Church's dictates. In this way they could secure the grain-sale rights against the eventual harvest. Later they began to advance payment against the future delivery of grain shipped to distant ports. In both cases they made their profit from the present discount against the future price.

The Jewish trader supplied services to provide both credit and insurance functions. Credit services took the form of a crop loan at the beginning of the growing season, which allowed a farmer to grow and harvest his annual crop. Insurance services for a crop, or commodity guaranteed the delivery of the crop to its buyer, typically a merchant wholesaler by arranging to supply the buyer of the crop through alternative sources—grain stores or alternate markets, for instance—in case of crop failure.

Knights Templar Banking Operation
Knights Templar Banking Operation

In the 12th century, the need to transfer large sums of money to finance the Crusades stimulated the re-emergence of banking in western Europe. In 1162, Henry II of England levied a tax to support the crusades—the first of a series of taxes levied by Henry over the years with the same goal. The Knights Templar and the Knights Hospitaller acted as Henry's bankers in the Holy Land. In the period between 1100 and 1300, the Templars' far flung, large land holdings across Europe emerged as the beginning of Europe-wide banking, as their practice was to take in local currency, for which a demand note would be given that would be good at any of their castles across Europe, allowing movement of money without the usual risk of robbery while traveling.

Beginnings of Modern Banking

Many modern banking practices, including fractional reserve banking and the issue of banknotes, appeared in the 17th century. At the time, wealthy merchants began to store their gold with the goldsmiths of London, who had private vaults and charged a fee for their service. In exchange for each deposit, the goldsmiths issued receipts certifying the quantity and purity of the metal they held in their custody; these receipts could not be assigned, so only the original depositor could collect the stored goods. Gradually the goldsmiths began to lend the money out on behalf of the depositor, which led to the development of modern banking practices; promissory notes (which evolved into banknotes) were issued for money deposited as a loan to the goldsmith.

A London Goldsmith's Shop
A London Goldsmith's Shop

These practices created a new kind of "money" that was debt rather than silver or gold coin, commodities that had been regulated and controlled by the monarchy. This development required the acceptance in trade of the goldsmiths' promissory notes, payable on demand. Acceptance, in turn, required a general belief that coin would be available; and a fractional reserve normally served this purpose. Acceptance also entailed the holders of debt be able to legally enforce an unconditional right to payment; it meant that the notes (as well as drafts) must be negotiable instruments. The concept of negotiability had appeared in fits and starts in European money markets, but it was well developed by the 17th century. Nevertheless, an act of Parliament was needed in the early 18th century (1704) to overrule court decisions holding that the goldsmiths' notes, despite the "customs of merchants", were not negotiable. In 1695, the Bank of England became one of the first banks to issue banknotes. Initially, these were hand-written and issued on deposit, or as a loan, and promised to pay the bearer the value of the note on demand. By 1745, standardized printed notes ranging from £20 to £1,000 were being issued.

In the 18th century, services offered by banks increased. Clearing facilities, security investments, cheques and overdraft protections were introduced. Cheques had been used since the 1600s in England and banks settled payments by direct courier to the issuing bank. Around 1770, they began meeting in a central location, and by the 1800s a dedicated space was set up, known as a bankers' clearing house. The method used by the London clearing house involved each bank paying cash to an inspector and then being paid cash by the inspector at the end of each day.

Nathan Rothschild - founder of London operations
Nathan Rothschild - founder of London operations

The number of banks increased because of the Industrial Revolution and the growing international trade, especially in London. At the same time, new types of financial activities broadened the scope of banking. The merchant-banking families dealt in everything from underwriting bonds to originating foreign loans. These new "merchant banks" helped trade growth, while profiting from England's emerging dominance in seaborne shipping. Two immigrant families, Rothschild and Baring, set up merchant banking firms in London in the late 18th century and came to dominate world banking in the next century.

Banking and Finance in North America

Meanwhile, the monetary arrangements in use in America before the Revolution were extremely varied. The units of account in colonial times were pounds (£), shillings (s), and pence (d). One pound equaled 20 shillings and one shilling equaled 12 pence. There were, however, problems. British policy was based upon the Mercantile Theory of Economics. Thus, British policy was guided by the supposition that its colonies would contribute revenue and stimulate industrial growth by supplying both raw materials and markets for British mercantile expansion. In return the colonies would be protected by British arms and civilized by British rule. To support this policy, parliament enacted laws prohibiting the export of British silver coinage since, according to British thought, the colonies should be providing Britain with precious metals rather than draining it away. As a result, British silver coins were quite scarce in the North American colonies. This problem was critical as it adversely affected local commerce and so it forced the colonists to turn to foreign coins, primarily Spanish American silver produced in Mexico and Peru. The most widely used coin in the colonies was the milled Spanish Dollar or eight Reales (piece of eight).

Spanish 8 Reale (piece of eight)
Spanish 8 Reale (piece of eight)

Because of these shortages, the colonists used several methods to get around the problem. Each colony had its own conventions, tender laws, and coin ratings, and each issued its own paper money in the same denominations as English money. These colonial pounds, shillings, and pence, however, were local units, such as New York money, Pennsylvania money, Massachusetts money, or South Carolina money and should not be confused with English sterling. All the local currencies were less valuable than sterling. A Spanish piece of eight, for instance, was worth 4s 6d sterling at the British mint. The same piece of eight, on the eve of the Revolution, would have been treated as 6s. in New England money, as 8s in New York money, as 7s 6d in Pennsylvania money, and as 32s 6d in South Carolina money. The disruption this caused was summed up by an English traveler in the colonies in 1742 when he said:

“There certainly can’t be a greater Grievance to a Traveller, from one Colony to another, than the different values their Paper Money bears.”

While simple “cash-and-carry” transactions sometimes occurred, most purchases involved at least short-term book credit. Henry Laurens wrote that before the Revolution it had been “the practice to give credit for one and more years for 7/8th of the whole traffic”. The buyer would receive goods and be debited on the seller’s books for an agreed amount in the local money of account. The debt would be extinguished when the buyer paid the seller either in the local medium of exchange or in equally valued goods or services acceptable to the seller.

Because of these shortages of specie, and the differences in valuation of money in different colonies, there were no modern banks in Colonial America. Very few colonists had liquid assets, as most settlers were small farmers or local merchants holding their wealth as land or in the form of perishable commodities. This situation inhibited investment and economic development so, to aid people in obtaining liquidity, several colonies instituted "Land Office Banks," run by the colony with the consent of the Governor and the Board of Trade in London. Once approved, a colony would print currency called "Land Office" notes. In several colonies the notes were allotted to local town or county boards. Property owners could then apply to their local board for a loan, usually up to £100 offering as collateral a part of their property that was assessed at twice the value of the loan. The individual had to pay off the loan with interest over a prescribed period.

Land Bank Currency - Two Shillings
Land Bank Currency - Two Shillings

In 1740, Parliament passed laws preventing the formation of all companies for the purpose of issuing paper money. In 1751, Parliament went a step further and forbade the use of legal-tender paper money issued by Colonial Treasuries, although later it allowed the currency issued by a colony to be received by its own Treasury. These restrictions, which put great strain on the economies of the various colonies, created tremendous hardships and were one of the causes that led to the outbreak of the American Revolution.

With the beginning of the American Revolution, the Colonies became independent states. No longer subject to monetary regulations imposed by the British Parliament, the States began to issue paper money, to pay for military expenses. The Continental Congress also issued paper money - known as Continental currency - during the Revolution to fund the war effort. Because of indiscriminate printing of currency by both State and the Congress to meet the monetary demands of the war, both State and Continental currency depreciated rapidly. By May 1781, Continentals had become so worthless that they ceased to circulate as money. Benjamin Franklin noted that the depreciation of the currency had, in effect, acted as a tax to pay for the war.

Continental Currency - Three Dollars
Continental Currency - Three Dollars

Banking in the Early Republic

After the collapse of Continental currency, Congress appointed Robert Morris to be Superintendent of Finance of the United States. Alexander Hamilton discussed with Morris a proposal for a national bank that would also serve as a de facto central bank. Morris at once drafted a legislative proposal based on Hamilton's suggestion and sent it to the Congress. Morris then advocated the creation of this first financial institution chartered by the United States, the Bank of North America, in 1782. This was a private national bank which served as the United States' first de facto central bank.

Photograph of the Bank of North America Building
Bank of North America Building

Funding for the bank came from several sources. The original charter, as outlined by Hamilton, called for the disbursement of 1,000 shares priced at $400 each. Benjamin Franklin bought a single token share as a sign of good faith to Federalists and their new bank. William Bingham, rumored to be the richest man in America after the Revolutionary War, bought 9.5% of the available shares. Robert Morris himself, using a gift in the form of a loan from France, and a loan from the Netherlands, bought the greatest part on behalf of the United States government, 63.3%. This had the effect of capitalizing the bank with large deposits of gold and silver coin and bills of exchange. Once this backing was in place, he then issued new paper currency backed by this capital. By 1783, Congress and several states including Massachusetts enacted legislation, allowing Americans to pay taxes with Bank of North America certificates, giving them the crucial aspect of legal tender.

With the collapse of the Articles of Confederation, and the adoption of the US Constitution, the question of money, credit, and banking quickly came to the forefront once again.

The Bank of the United States, commonly known as the First Bank of the United States, was a national bank, chartered for a term of twenty years, by the United States Congress on February 25, 1791. Establishment of the Bank of the United States was part of a three-part expansion of federal fiscal and monetary power advocated by Alexander Hamilton who was now the nation’s first Secretary of the Treasury. During his tenure, Hamilton sent various financial reports to Congress. Among these are the First Report on the Public Credit, Operations of the Act Laying Duties on Imports, Report on a National Bank, On the Establishment of a Mint, Report on Manufactures, and the Report on a Plan for the Further Support of Public Credit.

Alexander Hamilton
Alexander Hamilton

Hamilton's Report on a National Bank was a projection from the first Report on the Public Credit. Although Hamilton had been forming ideas for a national bank as early as 1779, he had gathered ideas in several ways over the past eleven years. These included theories from The Wealth of Nations by Adam Smith, extensive studies on the Bank of England, the blunders of the Bank of North America and his experience in setting up the Bank of New York. He thought that this plan for a National Bank could help in any fiscal crisis and was necessary to stabilize and improve the nation's credit, and to improve handling of the financial business of the United States government under the newly enacted Constitution.

Hamilton suggested that Congress should charter the National Bank with a capitalization of $10 million, one-fifth of which would be handled by the government. Since the government did not have the money, it would borrow the money from the bank itself, and repay the loan in ten even annual installments. The rest was to be available to individual investors. The bank was to be governed by a twenty-five-member board of directors that was to represent a large majority of the private shareholders, which Hamilton considered essential for the bank to be under private direction. Hamilton's bank model had many similarities to that of the Bank of England, except Hamilton wanted to exclude the government from being involved in public debt, while supplying a large, firm, and elastic money supply for the functioning of normal businesses and usual economic development. The tax revenue to start the bank was the same as he had previously proposed, - increases on imported spirits: rum, liquor, and whiskey.

The bill passed through the Senate with little resistance, but objections to the proposal increased by the time it reached the House of Representatives. Critics argued that Hamilton was serving the interests of the Northeast with the bank, and those of the agrarian lifestyle would not receive help from it. Among those critics who opposed the bank bill were James Jackson of Georgia, as well as James Madison, and Thomas Jefferson of Virginia. The potential of the capital not being moved to the Potomac if the bank was to be based in Philadelphia was also a significant reason, and the actions that Pennsylvania members of Congress took to try to keep the capital there made both Madison and Jefferson anxious. The Whiskey Rebellion also showed about how in other financial plans, there was a difference between the needs of different classes as the wealthy profited from the taxes while the farmers suffered. After much heated debate, the Bill finally passed the House by a vote of 39 to 20 on February 8, 1791.

First Bank of the United States
First Bank of the United States

President Washington initially suggested that he was hesitant to sign the “bank bill” into law. Washington consulted with his cabinet members looking for reasoning to either sign or veto the bill. Secretary of State Thomas Jefferson and Attorney General Edmund Randolph (both from Virginia) said that they considered the bill unconstitutional. Hamilton, who, unlike the others, was from the North (New York), responded with several arguments against their position, chief among them were:

  • What the government could do for a person (incorporate), it could not refuse to do for an "artificial person", a business. Since the First Bank of the United States, being privately owned and not a government agency, was a business, “Thus...unquestionably incident to sovereign power to erect corporations to that of the United States, in relation to the objects entrusted to the management of the government.

  • Any government by its very nature was sovereign “and includes by force of the term a right to attainment of the ends...which are not precluded by restrictions & exceptions specified in the constitution.”

Finally, convinced that the measure was constitutional, President Washington signed the bill into law on February 25, 1791.

After Hamilton left office in 1795, the new Secretary of the Treasury Oliver Wolcott, Jr. informed Congress that, due to the existing state of government finances, more money was needed. This could be achieved either by selling the government's shares of stock in the bank or by raising taxes. Wolcott recommended the first choice and Congress quickly agreed. Hamilton objected, believing that the dividends on that stock were pledged for the support of the sinking fund to retire the debt. Hamilton tried to organize opposition to the measure but was unsuccessful. In 1811, with the Bank’s 20-year charter up for renewal, the U.S. Senate tied on a vote to renew the bank's charter. Vice President George Clinton broke the tie and voted against renewal. Thus, the bank's charter expired in 1811.

Support for the revival of a national banking system grew again in the early 19th century as the economy of the country was transformed from one of simple Jeffersonian agrarianism towards one interdependent with industrialization and finance. In the aftermath of the War of 1812, the federal government suffered from the disarray of an unregulated currency and a lack of fiscal order; business interests sought security for their government bonds. A national alliance arose to legislate a central bank to address these needs. Despite broad support for reestablishing a national bank, the road to re-creation was not smooth. In January 1814, Congress received a petition signed by 150 businessmen from New York City, urging the legislative body to create a second national bank. In February, and again in November, Representative John C. Calhoun (SC) put forth plans to create a bank that would be headquartered in the District of Columbia, but his bill did not pass. In April 1814, President James Madison, who had opposed the creation of the first Bank of the United States in 1791, reluctantly admitted to the need for another national bank. He believed a bank was necessary to finance the war with Britain. But later that year, progress in peace negotiations led Madison to withdraw his support for the proposed national bank.

After peace with Britain came in 1815, Congress rejected new efforts to create the bank. In the months that followed, however, the federal government’s financial position deteriorated amid a broad economic downturn. Many state-chartered banks had stopped redeeming their notes, which convinced President Madison and his advisers that the time had come to move the country toward a more uniform, stable paper currency. In his annual report, Secretary of the Treasury Alexander Dallas called for the establishment of a national bank. After much debate, Madison finally signed an act setting up the second Bank of the United States in April 1816.

Second Bank of the United States
Second Bank of the United States

The Bank opened for business in Philadelphia in January 1817. It had much in common with its forerunner, including its functions and structure. It would act as fiscal agent for the federal government — holding its deposits, making its payments, and helping it issue debt to the public, it would issue and redeem banknotes, and it would keep state banks’ issuance of notes in check. Like its predecessor, the Bank had a twenty-year charter and functioned as a commercial bank that accepted deposits and made loans to the public, both businesses and individuals. Its board consisted of twenty-five directors, with five appointed by the president and confirmed by the Senate. The capitalization for the second Bank was $35 million, higher than the $10 million underwriting of the first Bank. Subscriptions went on sale in July 1816, and the sale period was set at three weeks. To make it easier for investors to buy subscriptions, sales were held in twenty cities. After three weeks, $3 million of scrips remained unsold, so Philadelphia banker Stephen Girard bought them.

The Bank’s reach was far greater than that of its predecessor. Its number of branches eventually totaled twenty-five in number, compared to only eight for the First Bank. This extensive branch network aided the country’s westward expansion and its economic growth in several ways. The branches supplied credit to businesses and farmers, and these loans helped finance the production of goods and agricultural output as well as the shipment of these goods to domestic and foreign destinations. Additionally, the network helped move the money deposited in the branches to other parts of the nation, easing both the government’s ability to make payments and the branches’ ability to supply credit.

Banknote from 2nd Bank of the United States
Banknote from 2nd Bank of the United States

The Bank was not without its problems though. The Bank first extended too much credit and then, realizing its error, reversed that trend too quickly. The result was a financial panic that drove the economy into a steep recession. Beginning in 1819, the bank cut in half the number of Second Bank banknotes in circulation, made fewer loans, foreclosed on mortgages, and exerted more control over the Bank’s branches. It presented state banknotes for redemption, demanding specie, a request that sent many state-chartered financial institutions into bankruptcy because they did not have enough gold and silver on hand to cover the redemptions. Another depression, characterized by deflation and high unemployment, ensued. Although the economic slump was part of a worldwide downturn, the Bank’s policies magnified the contraction in the United States. Public opinion started turning against the Bank as many believed it contributed to the recession.

Beginning in 1823, under new leadership, the bank increased the number of notes issued by the bank and restrained the expansion of the quantity of notes issued by state banks by pressing them to redeem their own notes in gold or silver. These actions contributed significantly to economic stability and growth and so public animosity toward the Bank began to diminish.

In 1828, Andrew Jackson, a determined foe of banks in general and the second Bank of the United States in particular, was elected president of the United States. While the bank did not come under direct attack during his first term, the election of 1832, which sent Jackson back to the White House, put the Bank in the spotlight. A request to renew the Bank’s charter went to Congress in January 1832, four years before the charter was set to expire. The legislation passed both the House and Senate but did not garner enough votes to overcome Jackson’s veto.

Political Cartoon of Jackson Bringing Down the National Banks
Jackson Bringing Down the National Banks

Jackson saw his 1832 win as validation of anti-bank sentiment. Shortly after the election, Jackson ordered federal deposits removed from the Second National Bank and put into state banks. The removal of federal deposits in 1833, resulted not only in a reduction in the Bank’s size but also in its ability to influence the nation’s currency and credit. In April 1834, the House of Representatives voted against rechartering the Bank and confirmed that federal deposits should remain in state banks. These developments, coupled with Jackson’s determination to do away with the Bank and the widespread defeat of the pro-Bank Whig Party in the 1834 congressional elections, sealed the Bank’s fate. It would be almost 80 years before the United States once again had a central bank in the form of the Federal Reserve System.

As we have seen, banks in the early United States were quite different from what we think of as the corner bank today. In the late 18th and early-19th centuries they were less focused on consumer lending and more on meeting the financial needs of businesses and commercial transactions. They also served many of the functions that the Federal Reserve does today such as stabilizing the money and credit supply. Today, everyone seems to complain about the fees charged by, and poor service we get from our banks, but I wonder just how we would feel if we were dealing with these early 19th century institutions?

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Knox, John Jay. 1900. A History of Banking in the United States. New York: Bradford Rhodes & Company.

Kriwaczek, Paul. 2010. Babylon: Mesopotamia and the Birth of Civilization. New York: Thomas Dunne Books.

Michener, John H. 1906. The Bank of North America, Philadelphia, a national bank, founded 1781. New York: R. G. Cooke. Accessed February 25, 2021.

Nuxoll, Elizabeth M. n.d. "The Bank of North America and Robert Morris's Management of the Nation's First Fiscal Crisis." In Papers of Robert Morris, by Robert Morris, 162. Pittsburgh: University of Pittsburgh Press. Accessed February 25, 2021.

Temlin, Peter. 2012. "The Contribution of Economics (Supplementary Material to Chapter 3)." In Cambridge Companion to the Roman Economy, edited by Walter Scheidel. Cambridge: Cambridge University Press. Accessed February 25, 2021.

Unger, Harlow Giles. 2019. "How Robert Morris's "Magick" Money Saved the American Revolution." Journal of the American Revolution. March 12, 2019. Accessed February 25, 2021.

University of Notre Dame, Department of Special Collections. n.d. Land Office Bank Currency. Accessed February 25, 2021.

University of Notre Dame, Department of Special Collections. n.d. The Comparative Value of Money between Britain and the Colonies. Accessed February 25, 2021.


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