Paying for War.
Colonial experiments with paper currency established a precedent for the financing of the American Revolution in 1775. The Continental Congress at Philadelphia was not empowered to directly tax colonists, and it could not borrow enough money from Britain’s traditional enemies to cover all the colonies’ financial needs.
The most practical alternative for raising funds was, therefore, to issue bills of credit, or paper currency. Many congressmen recognized that the overissue of paper currency was nothing but a form of disguised taxation, a procedure for transferring purchasing power to the government from the final holders of the depreciated currency. But it was the only “taxation” they had the power to levy. In June 1775, Congress authorized the issue of $2 million in bills of credit, declaring that it would be the only such authorization.
By 1779, in spite of its resolution to limit issues of new bills, Congress had authorized $200 million in paper currency. And, after attempts to have the colonies provide the funds to redeem these issues proved unsuccessful, depreciation, which had already started in 1776, accelerated. By 1780, a $1 silver coin was worth $80 in Continental currency!
Congress attempted to deal with depreciation by recalling much of the outstanding paper currency in a complicated plan adopted in 1780. The overall failure of that plan spelled the end of Continentals. In time, they became worthless, giving rise to the expression “not worth a Continental.”
The First Commercial Bank in the United States.
The continuing need of Congress for assistance in financing the war eventually overcame resistance to the establishment of a commercial bank. In 1781, the Continental Congress granted a charter to the Bank of North America, which aided in financing the rest of the war–principally through a large loan from France.
The Bank of North America was successful as a commercial enterprise. It issued notes redeemable in money, provided credit for trade and economic expansion, and gradually overcame the general suspicion and distrust the colonists had developed from past experience with paper currency and land banks.
Soon after, commercial banks patterned closely after the Bank of North America were established in New York and Boston. The successful operation of these three banks provided valuable banking experience and helped lay the groundwork for the Bank of the United States.
The Bank of the United States set the stage for fractional-reserve banking in the Federal government. This allowed the United States to become the welfare-warfare State it is today.