First and Second Banks of the United States

The United States is unique among Western industrializing nations in that it had no central banking institution during its initial period of sustained economic growth (1840- 1910). It experimented with a form of central banking in its first 50 years of nationhood, but ultimately turned away from central banking in favour of a divorce between the central State and the banks and direct monetary stabilization by the Treasury.

Between 1790 and 1840, the US federal government chartered two banks, both called at the time the Bank of the United States, but subsequently differentiated, for the con- venience of history, as the First and Second Banks of the United States. Both institu- tions were commercial banks chartered to address problems in public finance; both were the largest banks in the country and the only ones allowed to operate a national branch network; and both encountered political opposition to their charter renewal and closed after operating for 20 years. The First and Second Banks carved out a distinct niche in the US monetary system, supplying larger-denomination notes and drafts that circulated throughout the national economy and were regarded as equivalent to specie (gold and silver coins), the ultimate reserve and settlement asset at the time.

The First Bank of the United States (1791-1811) was the brainchild of the first US Secretary of the Treasury, Alexander Hamilton, and was one part of his plan for placing national finance on a sound foundation after the fiscally disastrous years of the Confederation (1783-89). Hamilton consolidated the Revolutionary War debt at the national-government level, converted it into British-style consols, and refunded it by reserving custom duties, the primary public revenue source formerly collected by the states, for the federal government.

The First Bank was designed to support this restructuring of the public debt in several ways. The government made its notes legal tender for federal revenue collections; collected customs duties through the Bank; kept its deposits with the Bank; transferred funds between cities through the Bank; and serviced its debt through the Bank (Wettereau, 1937, pp. 270-72). The Bank was a success, commercially and in terms of performance of its public duties. But its bid to be rechartered still failed in Congress, with opponents arguing that the US Congress lacked the authority to charter a bank, and that the State- chartered banks could do everything the First Bank did, but even better.

The Second Bank was chartered in 1816, five years after the closure of the First Bank, during which time the US government had waged war against Great Britain without the benefit of a national bank. Ironically, some of the Second Bank's most ardent supporters in the US Congress were legislators who had opposed the recharter- ing of the First Bank. Like the First Bank, the Second Bank of the United States was a mixed enterprise in terms of ownership, and was closely tied in to the federal govern- ment's fiscal affairs in many of the same ways. After a rocky start, with weak leadership and macroeconomic instability, the Second Bank hit its stride under the presidency of Nicholas Biddle, who developed a new business model for the Bank based on a large-scale expansion of the Bank's operations in long-distance payments (Smith, 1953, pp. 99-146).

The Second Bank is perhaps best known for the "war" waged upon it by President Andrew Jackson (1829-37). The Bank won support for its charter renewal in both houses of the US Congress, but Jackson vetoed the bill to recharter, which was then upheld by Congress. Jackson believed that the Bank aspired to have more power than the presidency; his veto proved that it did not. It is generally thought that Jackson's populist rhetoric against the Bank secured his re-election in 1832, but that the economic effect of the demise of the Second Bank was the devolution of the "money power" to the state governments and their State-chartered banks (Hammond, 1957, pp. 443-5). A financial boom (1832-37) and bust (1837-42) followed the closure of the Second Bank, after which the US federal government pulled its funds out of banks and did its business on a specie basis (Knodell, 2006, pp. 547-69).

The First and Second Banks had an uneasy relationship vis-à-vis the State-chartered banks. They were simultaneously their regulators and their competitors. Because of their fiduciary obligations to their shareholders, the First and Second Banks had to put their own survival above that of their fellows during monetary crises, a trade-off that modern central banks never have to confront. State-chartered banking grew continuously during the period when the First and Second Banks operated. In 1791, there were only three State-chartered banks; 20 years later, there were over 100. By the time the Second Bank was chartered, there were 230 banks, and 20 years later, 460. State governments had an incentive to freely charter banks after they started taxing bank capital; additionally, they secured preferential access to finance through charter provisions. Some, but not all, of the State-chartered banks became part of the coalitions that formed in opposition to these early proto-central banks.

The political and academic debates over the First and Second Banks have featured long-standing themes in US history about the role of government in the economy, the relationship between the government and financial institutions, and the right balance of power between the federal and state governments. Both Banks exerted a stabilizing influence over the economy and over their competitors, the state banks, without being full-blooded central banks. Both ultimately came to an early demise because of their privileges and close association with the central government.

See also:

Biddle, Nicholas; Federal Reserve System; Settlement balances.