Sunday, March 22, 2009

The Panic of 1819

Yesterday, I happened upon the PBS series "The Supreme Court". As I tuned in, they were explaining some of the landmark decisions made by the Court under the leadership of Chief Justice John Marshall. A featured case was McCulloch v Maryland, which took place in the midst of the Panic of 1819.

I was intrigued by their description of the depression of 1818/panic of 1819, which featured a severe recession, bailouts of debtors, reduced foreign trade, and lots of anger directed at the banks and money men. Ohio History Central sets the scene:

During the various British-French conflicts, United States goods, especially agricultural products, were in high demand in Europe, [and] Americans had purchased Western land at an extravagant rate. In 1815, Americans purchased roughly one million acres of land from the federal government. In 1819, the amount of land had skyrocketed to 3.5 million acres. Many Americans could not afford to purchase the land outright. The federal government did allow Americans to buy the land on credit.

As the economy ground to a halt in 1819, many Americans did not have the money to pay off their loans. The Bank of the United States, as well as state and private banks, began recalling loans, demanding immediate payment. The banks' actions resulted in the Banking Crisis of 1819 and helped lead to the Panic of 1819. The federal government tried to alleviate some of the suffering with the Land Act of 1820 and the Relief Act of 1821, but many farmers, Ohioans included, lost everything.

As a result of the Bank of the United States' actions, money became scarce, making it even more difficult for people to pay their debts. Several states, including Maryland and Ohio, implemented taxes on the Bank of the United States. These states hoped that, by taxing the banks, money would then enter the grasp of state governments. The state governments could then make loans to their citizens, thus relieving the money shortage.
Gee, land speculation, easy credit, and debtors crying for relief when the economy tanked and they couldn't pay their mortgages.

The Federal Government had been selling land to pay off its debts from the War of 1812. Inflation (abetted by the use of paper money) made the debts cheaper. Wikipedia explains:

Austrian school economists view the nationwide recession that resulted from the Panic of 1819 as the first failure of expansionary monetary policy. This explanation is based on the Austrian theory of the business cycle. Government borrowed heavily to finance the War of 1812, which caused tremendous strain on the banks’ reserves of specie and led inevitably to a suspension of specie payments in 1814 during war & again in 1819-1821 during recession, violating contractual rights of depositors.[5]

The suspension of the obligation to redeem greatly spurred the establishment of new banks and the expansion of bank note issues. This inflation of money encouraged unsustainable investments to take place. It soon became clear the monetary situation was bad, and the Second Bank of the United States was forced to call a halt to its expansion and launch a painful process of contraction. There was a wave of bankruptcies, bank failures, and bank runs; prices dropped and wide-scale urban unemployment began. By 1819, land measures in the U.S. had also reached 3,500,000 acres, and many Americans did not have enough money to pay off to their loans.[6]

Today, we have a highly stimulative Fed policy, low interest rates (and getting lower by the day), and a government dedicated to printing money as fast as it can. We won't be done in by tight money like our forebears were in 1819. But is Washington setting the stage for a worse boom and bust in the future by its attempts to goose the money supply?