Obama’s Paper Chase

The Federal Reserve’s purchase of $300 billion in Treasury debt, as well as its purchase of mortgage-backed securities, has aptly been described as “monetizing the U.S. government debt,” with appropriate concern that it will fuel inflation. 

If President Obama fancies himself a twenty-first century Abraham Lincoln, then we need Timothy Geithner to be his Salmon Chase. Lincoln’s Treasury Secretary was remarkably successful at financing the Civil War, with only limited inflation, and remarkable fidelity to the Constitution.

Chase was a radical Ohio abolitionist before the war (sometimes called the state’s “attorney general for runaway Negroes”), and a relentlessly ambitious rival of Abraham Lincoln. After Lincoln beat Chase for the 1860 Republican nomination, he made him his Secretary of the Treasury. Almost all historians regard Lincoln’s ability to keep Chase on board as one of the marks of his genius as a statesman.

Chase was also a hard-money man, and abhorred paper money—especially the paper emitted by state banks, excoriated (if somewhat exaggeratedly) as “wildcat banks”– creditors were said to have to battle wildcats to attempt to redeem the worthless notes of these reckless frontier banks. Chase believed that the United States needed a national currency, issued by a national banking system. As the Civil War’s costs grew exponentially, Congress pressed him to monetize the government’s debt by issuing Treasury notes unredeemable in gold or silver, and to declare them to be legal tender for all debts—the “greenbacks,” which color our paper money to this day. Chase stuck to his constitutional guns for as long as he could, but finally gave in. But he “hated the crime about to be committed,” as historian Bray Hammond put it. By the end of the war, Chase got his national banking system, and had eliminated unconstitutional state-bank paper currency.

The Treasury eventually put nearly half a billion greenback dollars into circulation, and they did contribute to the inflation—the “hidden tax” common in wartime—of about 80 percent. This may sound like a lot, but the Confederacy experienced 9,000 percent inflation, and the Union’s rate was about the same as that of the two world wars.

Chase got the chance to expiate his sin when Lincoln appointed him as Chief Justice in 1864. The story goes that Lincoln chose Chase precisely because he wanted the Legal Tender Acts upheld. “We want a man who will sustain the Legal Tender Act and the Proclamation of Emancipation,” Lincoln is alleged to have said. “We cannot ask a candidate what he would do; and if we did and he should answer, we should only despise him for it. Therefore we must take a man whose opinions are known.” Instead, Chase got the Court to rule that the acts were unconstitutional.  Of course, the Chief Justice was in the awkward position of having to explain why he was ruling unconstitutional an act that he had endorsed as Secretary of the Treasury. He confessed that he and others had adopted unorthodox views “amid the tumult of the late civil war…. The time was not favorable to considerate reflection…. Some who were strongly averse to making government notes a legal tender felt themselves constrained to acquiesce in the views of the advocates of the measure.” But now, “under the influence of calmer times,” they had “reconsidered their conclusions.” Chase has been accused of changing his opinion in order to ingratiate himself with anti-greenback Democrats, as he continued to seek their presidential nomination. But it appears more likely that this opinion was what one historian calls “one of the most astonishing cases of intellectual honesty on the part of a public official.”

But on the very day that Chase struck down the legal tender acts, President Ulysses S. Grant made two nominations to fill vacancies on the Court. The two new justices, Joseph Bradley and William Strong, turned the 4-3 decision against the acts into a 5-4 decision upholding them. Naturally, Grant was accused of “packing” the Court, though there is no evidence to support the claim.

But the legal tender story provides an even more remarkable story than a Supreme Court Justice admitting a mistake. Despite the blank check that the Court had given Congress, the legislature resisted popular pressure for more inflation, and ultimately brought the fiat money (which had fallen to two-and-a-half greenback dollars per gold dollar) to par–by 1879, a greenback dollar could be redeemed for a gold dollar. This was also a Congress that repealed many wartime taxes, including the nation’s first income tax. “The medicine of the Constitution,” Massachusetts Senator Charles Sumner said, “must not become its daily bread.”

We’ve heard a lot about extraordinary, emergency conditions, and have been urged to support all kinds of bailouts to avoid “catastrophe.” The Civil War was a real catastrophe, and Treasury Secretaries and Congressmen kept their heads and laid the foundation for postwar recovery. We could use such men today.