Pine tree money and tobacco receipts were the exception not the rule. In 1791 when the administration of George Washington established a national bank called The Bank of the United States, it had some $10 million in gold or notes backed in gold.
Like most banks, it issued more notes than it had gold or gold equivalent on hand at any time. This is called fractional reserve banking because the banks keep only a fraction of the gold in their vaults compared with the money they issue.
The bank would also make loans above and beyond their reserves, collecting interest which is how the bank made money. This is still how banks operate today. In reality, the bank doesn’t actually have the money you give it, at least not all of it. It seems dishonest, but it actually works as long as everyone who holds notes doesn’t come to redeem them all at the same time.
The Bank of the United States was not the only bank issuing currency at this time. There were state banks, and even private banks, all issuing different dollars using the fractional reserve system. Since all the money was good for gold, having different forms of money wasn’t an issue.
Problems arose if banks overextended themselves meaning they issued dramatically more notes than they had gold on hand. If banks were issuing a lot of notes, but only had a small amount of gold, there was a problem because it would diminish faith that people could turn that money in for gold. The money wouldn’t be valuable because people wouldn’t trust it.
In 1816 The Second Bank of the United States was chartered with the purpose of regulating other banks. It did this by accepting notes from all the banks around the country. When the Second Bank got enough notes from a specific state or private bank they would demand gold payment. This action restored people’s faith that all money in the US was “good as gold.” Regulation was essential.
“Will Cryptocurrency be the Money of the Future?”
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- Cryptocurrency ebook by Morgan Franklin Fellowship
- Read blog series – “Cryptocurrency – Money of the Future”
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