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Constitutionality of a Central Bank
Why the Constitutional Argument From Article 1, Section 8 Has Never Been Made Against the Last Three Central Banks in United States history.
Jefferson may have been the first honest politician who was tricked by a lie from Congress, when he believed what Congress adopted in the language of the bill that created the 1791 (First) Bank of the United States. But Congress lied.
There have been four (4) central banks in the history of the United States; three after the Constitution was adopted. The first bank, in 1781, (the Bank of North America) was chartered by the Continental Congress and developed by Robert Morris. Morris was very clever in that the charter required private investors to provide $400,000 in capital, but Morris could not raise the money so he acquired the gold France lent to America, deposited it in the bank, created money out of thin air and loaned the money to himself and his associates to provide the $400,000 he otherwise could not raise. Total fraud.
The second central bank (the Bank of the United States) was chartered by the United States Congress on February 25, 1791. It was the dream-child of Secretary of the Treasury Alexander Hamilton. It was to be capitalized with ten million dollars, two million of which was to come from the U.S. government and eight million of which would come from private investors.
However, the U.S. government did not have two million dollars so their payment was by a Note (a loan by the new bank) to be paid back over ten years. The government intended to pay its share with dividends from the bank. The point is: The two million was not in the bank when the bank was formed!
Likewise, the eight million dollars, even though subscribed almost immediately by members of the public, was only to be paid with 25% in hard currency (specie) such as gold or silver with the balance to be paid over time. At least that would have allowed two million dollars in gold, etc. to actually be in the bank.
What actually happened is similar to the 1781 bank. It was funded with only $675,000 in specie, not two million. (John Kenneth Gilbreath Money: Whence It Came, Where It Went, page 72.)
This writer believes that Jefferson, Madison and Edmund Randolph were "tricked" by the language of the bill, believing Congress meant what it wrote and that the bill, as written and passed, would be implemented by the Secretary of the Treasury as it was written and passed.
Hamilton's bill provided as follows:
To establish a mint and an excise tax,
To establish financial order, clarity and precedence in and of the newly formed United States,
To establish credit; both in this country and overseas, and
To resolve the issue of the fiat currency, i.e. the "Continentals" issued by the Continental Congress immediately prior to and during the United States Revolutionary War.
There were other, nonnegotiable conditions for the establishment of the Bank of the United States.
That the Bank was to be a private company,
That the Bank would have a twenty year charter running from 1791 to 1811,
During that time no other federal bank would be authorized,
States, for their part, would be free to charter however many intrastate banks they wished,
That the Bank, to avoid any appearance of impropriety, would:
Be forbidden to buy government bonds (Monetize Debt - like QEI & QEII).
Have a mandatory rotation of directors, and
Neither issue notes nor incur debts beyond its actual capitalization of ten million dollars. (Actual capitalization was $10,000,000 but it only received $675,000).
The point of the bank was to be that it could not loan greater than ten million dollars. Congress and Hamilton stated in the bill that it was funded with ten million dollars and therefore would only be lending money it actually had e.g. no fractional reserve lending and, therefore, no monetizing. But, with only $675,000 in the vault, in gold or silver, and with lending capacity of $10,000,000, it immediately was able to practice "fractional reserve banking" in contrast to what the bill said, as written.
Remember, all decisions on the constitutionally of the bank by President Washington and his cabinet (and Madison) had to be made in ten days; long before the decision maker(s) knew that Hamilton and the Bank were not going to follow the letter and spirit of the bill.
This is the first instance of which this writer is aware that decision makers believed Congress, only to find out later that the intent of a bill was not implemented as prescribed. Jefferson believed a lie and, therefore, did not make the arguments he most certainly would have made from Article 1, Section 8, had he known that Section was to be ignored.
Therefore, with these conditions apparently existing at the conception of the bank, when President Washington asked his cabinet members, particularly Hamilton and Jefferson, to give their opinion of the bank, Jefferson, although against the bank, accepted that the bill authorizing the bank would be followed. It is my opinion that he accepted that the bill, as written, would be implemented and that is why he did not make the classic Article 1, Section 8 Constitutional argument against the bank. Instead he concentrated on the inability to find in the Constitution the Government's right to establish a Corporation for the establishment of the bank and he made excellent arguments concerning the "general welfare clause" and the "necessary and proper clause." (See our blog article on the subject.)
The classic argument from Article 1, Section 8 is that, since the founders were well aware of paper money after almost 100 years of the Bank of England and the 1781 bank debacle with the failure of the Continentals, the argument was to be made that no bank could issue paper money. No bank could practice fractional reserve banking. All bank loans had to be backed by gold or other specie. This is why Article 1, Section 8 was written and only allowed the government "to coin money and set the value thereof." It is also noted that in Article 1, Section 10, (which prohibits the states ability to perform certain tasks), the states were prohibited from issuing "bills of credit," which were in essence "paper money."
I believe the reason Jefferson did not make the Article 1, Section 8 argument is because he believed that this bank was to be backed solely by specie and was not to be allowed to practice fractional reserve banking and/or to monetize debt. He was incorrect. He only had ten days, to give his opinion and Washington only had ten days to veto the legislation.
The third bank (the Second Bank of the United States) was chartered in 1816 by President Madison to pay for the debts of the war of 1812. At that point, the argument against the constitutionality of a central bank was made in a lawsuit entitled McCullough v. Maryland. In that case, since the new bank sought a branch in Maryland, Maryland intended to tax the shareholders of the bank on a per share basis. The federal government objected. The case was tried before a federalist judge, John Marshall from Virginia, and the outcome was easily predictable. The arguments were made against the government's right to incorporate and the state's right to tax an entity that the government had the right to develop. Much reliance was made on the fact that Washington had approved the 1791 bank (in which the correct constitutional argument was not made.) Therefore, again, the real constitutional argument from Article 1, Section 8 against paper money, fractional reserve banking, and monetizing debt was never made.
The fourth central bank was formed on December 22, 1913, and is named the Federal Reserve System. That bank has never been challenged constitutionally.