7. Monetary and Banking Thought, III: The Struggle Over the Currency School

0:00CHAPTER VII. MONETARY AND BANKING THOUGHT 3. THE STRUGGLE OVER THE CURRENCY SCHOOL 1. THE TRAUMA OF 1825 In 1823, the British economy finally recovered from the post-Napoleonic War and post-1819 agricultural depression. In fact, an expansionary boom got underway, so much so as to quieten the vociferous agricultural advocates of higher prices and the opponents of the return to gold. Unsurprisingly, Bank of England credit expansion led the way in this new inflationary boom, Its total credit rising from 17.5 million pounds in August 1823 to 25.1 million two years later, a huge increase of 43% or 21.7% uncompounded per annum.

1:07Much of the monetary and credit boom came through investment in highly speculative Latin American mining stocks. The great hard-money radical William Cobbett kept up a drumfire of attack on this inflation, but significantly he was also joined, if more privately, by such moderate hard-money men as William Huskisson, who worried that this universal jobbery in foreign stock will turn out the most tremendous bubble ever known. By late 1824, the exchanges turned unfavorable and gold began to flow abroad. By the following year, Britons began to demand gold from the banks in increasing numbers.

1:54Huskisson repeatedly warned the cabinet in the spring of 1825 that the bank, in its greedy folly, was playing over again the game of 1817. In late June, a bank in Bristol refused outright to give gold to a note-holder who spurned payments in Bank of England notes, and this ominous incident was widely publicized by Cobbett. Bank of England cash reserves were at their lowest in five years at the end of February at 8.86 million pounds, and from that low point they fell alarmingly to no No more than three million pounds at the end of October. Bank runs and a bank panic ensued and at the height of that panic in mid-December a note holder of the recalcitrant Bristol Bank distributed a leaflet warning the citizens of the city as there is no knowing what may happen, get gold, for if restriction come it will be too late.

2:58During the panic, the late Henry Thornton's important bank, Pol Thornton & Company, went under, despite last-minute borrowing from the Bank of England, and despite the fact that Sir Peter Pol, head of the bank, was connected by marriage with the governor of the Bank of England, Cornelius Buller. After a week of hysteria in mid-December, the Bank of England, pursuing a highly risky policy of massive loans to the banks and re-discounting of bills, managed to stem the run, even though its cash reserves had been reduced to one million pounds by the end of the year. The country was saved by a hair's breadth from another suspension of specie payments by the Bank of England.

3:48The bank pleaded with the government to order such a suspension, but the Tory government, largely due to the ardent pressure of Huskisson and Canning, resisted the bank's demands. The Prime Minister, Robert Banks Jenkinson, the Earl of Liverpool, much to the disgust of his fellow high Tories of the Duke of Wellington faction, agreed with Huskisson that, in the words of one prominent Wellington man, and, if the bank stopped payment, it would be a good opportunity of taking their charter from them for letting the bank break. The boom and crisis of 1825 dealt a traumatic lesson to thoughtful analysts of the monetary and economic scene, for these dramatic events demonstrated that the gold standard, important And as it was as a check on monetary and banking inflation, was not enough.

4:47Bank failures and boom and bust cycles could and would still occur. Something further then was needed to fulfill the promise of the bullionists. Something more than the gold standard was needed to counter the ills of boom and bust and of fractional reserve banking. The most concrete and immediate response to the Panic of 1825 was a decision of the government to outlaw small denomination under five pound banknotes, a measure that even the pro-bank credit Adam Smith had favored. In that way, at least for these popular and widely used small denominations, the public would be using only specie as money.

5:36On 22 March 1826, Parliament forbade banks in England and Wales to issue new small notes, or to reissue any old ones after April 1829. After June 1826, the Bank of England continued to obey this edict for a little over a century. In another banking reform, Parliament ended the system that had prevailed since the turn of the 18th century. The Bank of England had a monopoly of all commercial banking except for partnerships of less than six persons. This monopoly was now shaken. Corporate and large partnership banks were now permitted in England by an act of 26 May 1826.

6:25Unfortunately, this liberalization was greatly weakened by the acts preserving the bank's and its monopoly of corporate and large-scale banking inside a 65-mile radius of London. In short, corporate or joint-stock banking was permitted only to the country banks. Political pressure by Scottish Tories gained an exemption from these reforms for Scotland. In the first place, Scotland already had joint-stock banking, and more importantly, Scotland had had long been a swamp of small banknote inflationism. Even after resumption of the gold standard in 1821, Scotland did not have a gold standard in practice.

7:13Frank Fetter discloses the solution as follows. Even after the resumption of payments in 1821, little coin had circulated, and to a large To a large degree there was a tradition, almost with the force of law, that banks should not be required to redeem their notes in coin. Redemption in London drafts was the usual form of paying note-holders. There was a core of truth in the remark of an anonymous pamphleteer, 1826. Any southern fool who had the temerity to ask for a hundred sovereigns, gold coins, might, if his nerves supported him through the cross-examination at the bank counter, think himself in luck to be hunted to the border.

8:02To work, a gold standard must, of course, be truly in effect, in practice as well as in the official statutes. The Scottish Tories, led by the eminent novelist Sir Walter Scott, successfully blocked application of the anti-small note reform to Scotland. The mouthpiece for Scottish high Toryism, Blackwood's Edinburgh Magazine, after hailing Scott's campaign, published two articles on the country banks and the Bank of England in 1827 and 1828, in which it wove together two major strains of ultra-inflationism, going off the gold standard and praising the country banks.

8:51Blackwoods also attacked the Bank of England as overly restrictionist, thus helping to launch the legend that the bank was too restrictive instead of being itself the main engine of inflation. In contrast, the Westminster Review, mouthpiece for the philosophical radicals, scoffed at the Scots for threatening a civil war in defense of the privilege of being plundered by the bank credit system. It was also in this period, in 1827, that Henry Burgess founded the powerful Committee of Country Bankers and edited, for over 20 years, the committee's influential periodical, circular to bankers. For that entire period Burgess kept up a drumfire of inflationist vilification of the gold standard, of those ignorant, vain and obstinate projectors, Huskisson, Peel and Ricardo, and of the Bank of England for being too restrictive of bank credit.

9:55He also denounced the political economists as being the curse of the country because Because of their generally hard-money views. For its part, Blackwood's Edinburgh Magazine pursued a similar unwavering line for nearly three decades, denouncing the return to gold in 1819 as having given the Jews, stockbrokers and attorneys of the country an enormous advantage at the expense of classes connected with land. On the other hand, William Cobbett continued his hard-hitting anti-bank paper stance, proclaiming in 1828 that ever since that hellish compound, paper money, was understood by me, I have wished for the destruction of the accursed thing.

10:44I have applauded every measure that tended to produce its destruction, and censured every measure having a tendency to preserve it. Blasting the inflationist and privileged Scottish country banks as the Scottish monopolists, Cobbett also denounced the Scotsman John Ramsay McCullough for defending bank paper. This Scotch stupidity, conceit, pertinacity and impudence. Cobbett escalated the attack by asserting that these ravenous rooks of Scotland have been a pestilence to England for more than 200 years. It might be commented, of course, that one simple way for England to cast off that pestilence was for England to give Scotland back its independence, a solution that Cobbett and the other nationalist English radicals somehow failed to consider.

11:42Despite the continuing inflationism of the high Tories and of the Birmingham Atwoods, And despite the eminent clash of economic opinion over banking reform, the bulk of economists stood four-square from the mid-1820s on in defense of the gold standard. That much had been agreed upon and accomplished. Their differences on banking did not prevent unity on this fundamental monetary question. John Ramsey McCullough, James Mill and Nassau W. Sr. stood solidly in favor of gold. Even the alleged radical, and for a time pre-Keynesian Malthus, expressed complete support for return to the gold standard in 1823 and thereafter. Archbishop Waitley, Mountefort Longfield, Thomas Perinette Thompson, even the archinductivist and historicist Richard Jones of Cambridge, were all staunch supporters of gold. Even the often confused and ironic John Stuart Mill was hard-hitting in defense of gold. The younger Mill, upon reading the testimony in 1821 of Thomas Atwood in favor of a combined silver and inconvertible fiat paper standard, denounced the idea of depreciating the standard as a gigantic plan of confiscation.

13:13Mill thundered that men who are not knaves in their private dealings should understand what the word depreciation means and yet support it, speaks but ill for the existing state of morality on such subjects. 2. THE EMERGENCE OF THE CURRENCY PRINCIPLE The prohibition of small notes, however, scarcely tackled the main problem. The first to go beyond this minor aspect of banking and go straight to the heart of the matter was a brilliant and influential thinker who has remained as little known to historians as as he was obscure in his own day. It is with justice that Lionel Robbins has wittily referred to James Pennington, 1777-1862, as the Mycroft Holmes of the later monetary controversy of the Classical period.

14:13James Pennington was born into a prominent Quaker family in the town of Kendall in West Moreland. His father, William, was a bookseller, printer and architect who eventually became mayor of Kendall. Graduating from a first-rate Quaker school at Kendall, Pennington moved to London. Little is known of his personal life thereafter except that he lived in Clapham and that he and his large family of seven children were parishioners and James a trustee of the famous Clapham Anglican Parish Church, obviously abandoning the Quakerism of his youth. Apart from that, we know that he was a merchant, gentleman and accountant, and briefly became a member of the Board of Control for India in 1832.

15:04From then on, retired from commerce, he would be consulted repeatedly in technical financial matters by the government. In the wake of the great banking crisis of December 1825, London was agog with discussions of money and banking. The august political economy club dealing with this topic in its meetings of 9 January and 6 February 1826. At the latter occasion, Pennington was present as a guest, and stimulated by the discussion, He sat down to write a memorandum on the subject to the powerful president of the board of trade, the liberal Tory, William Huskisson. Huskisson did not request the memo, but he was known to be receptive to intelligent memoranda on crucial topics, and this method of promoting his views may have been suggested to Pennington by his longtime friend and one of the original founders of the political economy club, the merchant and economist Thomas Took.

16:11In this first memo to Huskisson on 13 February on the private banking establishments of the metropolis, Pennington outlined with crystal clarity how private banks, by expanding loans, create demand deposits which function as part of the money supply. Walter Boyd and others had pointed this out, but Pennington's exposition was unmatched in its lucidity, and when published as an appendix to Took's Letter to Grenville, 1829, greatly influenced the banking controversies of the era. Unfortunately, the letter did not sufficiently influence Pennington's own camp, the Currency School, who stubbornly and tragically failed to realize that bank demand deposits formed part of the supply of money, equivalent to bank notes.

17:08Without any encouragement from Huskisson, Pennington followed up his first memorandum with another, a year later, 16 May 1827, on observations on the coinage. After explaining the technical procedures of the gold standard, Pennington detailed the dangers to gold of the existence of a paper currency, and then added a tantalizing hint. It is possible to regulate an extensive paper circulation to render its contraction and expansion subject to the same law as that which determines the expansion and contraction of a Currency Wholly and Exclusively Metallic.

17:53Here was the first indication in Great Britain of the currency principle, that more than simple gold redeemability was needed to transform bank money into a mere surrogate of gold. William Huskisson finally sat up and took notice, writing to Pennington that, I perceive I believe that towards the end of your paper on coinage you state an opinion that means may be found of preventing those alternations of excitement and depression which have been attended with such alarming consequences to this country. This for a long time has appeared to me to be one of the most important matters which can engage the attention.

18:39The too great facility of expansion at one time and the too rapid contraction of paper credit at another is unquestionably an evil of the greatest magnitude. In short, bank credit and paper money were perceived by Huskisson as responsible for the business cycle. What then could be done about it? He urged Pennington to elaborate on his tantalizing suggestion. The upshot was an ironic one. While James Pennington's third memorandum in reply on the management of the Bank of England, 23 June, was the first fateful elaboration of the justly famous currency principle, it was scarcely action-oriented enough to suit the minister.

19:30At any rate, monetary matters faded temporarily, and Huskisson himself resigned his post the the following year to die three years later. But Pennington's memorandum, nevertheless, was very important, for it declared that to make bank paper currency stable and tied to gold, it must be regulated to conform to the movements of the gold supply. If the Bank of England were the monopoly issuer of notes, Pennington prophetically counseled, It would be easy for it to control the total supply. In lieu of that, the private banks, London and country, could in some way be totally and immediately controlled by the bank. In either case, the bank could then be compelled to keep its securities, that is, its earning assets, fixed in total amount. If so, its note issues would move in the same direction and to the same extent as its stock of gold.

20:36While the bank would not have 100% gold reserves to its notes, the legally fixed gap between them would mean that banknotes and, by extension, the total money supply would move in the same way and to the same extent as the gold supply, thus arriving at the equivalent of 100% specie Money for All Further Operations of the Bank. Here was the seed of Peale's great act of 1844, the embodiment of the currency principle. But Huskisson could not seize on this point because of Pennington's hesitations and qualifications. In particular, Pennington, of all people, knew full well that bank deposits are just It becomes a mystery that Pennington, the founder of the currency principle, should have been so alert to bank deposits' role as money, while the currency school concentrated with such fierce insistence on bank notes alone.

21:54They applied this variant of 100% gold money to notes exclusively, leaving deposits to go unchecked and unregulated on their own. Some historians speculate that the currency school made the conscious decision to avoid applying their principle to deposits because of an alleged difficulty in practical application, and because they believed that note holders, presumably being a broader or less wealthy section of the population, were more likely to cash in for gold than deposit holders. If so, then this practical decision to forget about deposits proved in the long run to be the height of impracticality, indeed fatal to the currency, or 100% gold, cause.

22:49For Peel's Act's prohibitions on further fractional reserve note issue simply induced the banking system, led by the Bank of England, to shift their inflationary and expansionary attentions to deposits alone, a condition that still prevails throughout the world. Currency school myopia on demand deposits scarcely extended to their cousins in the United States. On the contrary, such 100% gold leaders and Jacksonian theorists as Condi Raquet, Amos Kendall and the magnificent Jacksonian William M. Gouge of Philadelphia, 1796-1863, were perfectly aware of deposits' equivalent role to notes in the issue of bank money.

23:41A Philadelphia editor, Gouge became a treasury official in the 1830s and remained there from that point on. Gouge held firmly that deposits are, in all cases, equal to notes, that they may be created by bank lending and that they have the same inflationary effect on prices as bank notes. He called for a return to the 100% gold reserves backing the deposits of of the original banks of Hamburg and Amsterdam. Gouge was also the main theoretician of the Van Buren Polk independent treasury system in which the Federal Government would separate itself totally from banking, first by keeping no deposits in any banks, spending its funds directly in specie, and second by accepting in taxes only specie and no banknotes or deposits.

24:40In that way, the American banking system would be free not only of a central bank, as insured by President Jackson in the early 1830s, but also of any link to or support by the Federal Government. Other influential expressions of the currency principle emerged from the Panic of 1825. The highly influential Sir Henry Drummond, 1786-1860, banker and Member of Parliament, in the 4th edition, 1826, of his Elementary Propositions on the Currency, was driven by the crisis to the realization that mere specie convertibility was not enough to avoid boom-bust crises in money and in prices.

25:32He therefore concluded that the quantity of paper money should be kept constant, so that variations in the money supply would only reflect changes in the stock of specie. In the same year, Richard Page, writing as Daniel Hardcastle, stated the currency principle in crystal clear form. That only is a sound and well-regulated state of things when no greater numerical amount of Paper is in circulation than would have circulated of the precious metals if no paper had existed. After the crisis of 1825, then, a consensus began to form, beginning with James Pennington and spreading through knowledgeable circles in Britain, that the gold standard is not enough and that bank credit must not be allowed to expand unduly.

26:30At the ultimate pole were the currency school, who believed that commercial banks must be restricted to 100% of gold, at least for any further note issues. Most of the school unfortunately left demand deposits out of their reckoning as not part of the money supply. Other established leaders, such as bank governor John Horsley Palmer, developed the far more A qualified view advocating more control by the Bank of England. Bank money should pyramid on top of a fixed ratio of reserves to liabilities maintained by the Bank of England. But if bank credit was to be confined to movements of gold, and thereby to end the threat of inflation and the business cycle, by what mechanism was this to be accomplished? In In most cases, and certainly among virtually all adherents of the currency school, the answer was to be the Bank of England itself, the very institution which bullionists and their successors had long seen to be the central agent of inflation and credit expansion.

27:45The idea was that the bank would either ride herd over the private banks, or, in the developing and Census to assume a monopoly over all issue of banknotes, leaving banks to issue demand deposits in a way that tied them inexorably to the Bank of England. In short, the modern banking system, with all its deep inflationary flaws, was what was envisioned and brought forth by the currency school. In the name of ultra-hard money, they unwittingly imposed upon Great Britain and later the world, the modern centralized inflationary fractional reserve and central bank-dominated banking system.

28:31The theory was that the bank would control the private banks through monopoly of note issue and other measures, while the government would rigidly control the bank itself. The other main instrument of bank control over private banks was to centralize gold in the hands of the bank and to make Bank of England notes legal tender for all citizens and banks. In that way, the banks would be induced to surrender their gold to the bank and to happily pyramid their loans and deposits on top of their bank reserves. Their demand deposits at the bank could always be cashed in for legal tender currency.

29:17In short, as this proposed structure came to be established in Britain and then elsewhere, the world was saddled with the modern banking system. It is still a mystery how men so keenly aware and critical of the cartelizing and inflationary The monetary role of the Bank of England should have proposed centralizing control into the hands of the very same bank, and all in the name of stopping inflation and tying the monetary system closely and one-to-one to gold. It was truly putting the fox in charge of the proverbial chicken coop. A minority of currency men, it is true, favored another variant, first recommended by the spiritual father of the currency school, David Ricardo himself.

30:11Already at the end of his 1816 pamphlet on economical and scarce currency, Ricardo had hinted at this solution, influenced by an unpublished proposal of J. B. Say in 1814. In his last posthumous work, published in 1824, The Plan for the Establishment of a National Bank, Ricardo put forward and elaborated the new plan, the appointment of a government board to be in charge of a national note-issue monopoly with the Bank of England essentially confined to credit and deposit banking. The idea was that since the bank could not be trusted to be in charge of monopoly note issue, that function should be trusted to the central government.

31:02But surely here was even more of a fox, if not a wolf, to be placed in command. Government is just as much, if not more, inclined toward monetary and credit inflation as any private central bank. Bank can always use inflation to finance the deficits it desires and to subsidize credit to its political allies. There were other, far more effective ways to restrict bank credit expansion. During the Jackson Van Buren era in the United States, approximately 1828 through the 1840s, which roughly coincided with the period of the currency banking school controversies in Britain, the program of the hard money Jacksonian movement was far more thorough going and ultimately far more realistic than their spiritual cousins of the currency school.

32:01Both groups aimed at achieving hard money tied very closely to specie in order to end inflation and the boom bust cycle. But instead of maintaining and strengthening the central bank, the Jacksonians far more more logically made it their first order of business to destroy it. The next step for Gouge, Kendall, Raguet and their followers, who included Presidents Jackson and Van Buren, was to separate the Federal Government totally from money by establishing an independent treasury system passed by the Van Buren administration in 1840, repealed by the Whigs and then permanently reestablished by the Jacksonian Polk Administration in 1846.

32:51The idea of the independent treasury was, first, for the treasury to keep its own funds without depositing them in any banks, and, second, for the treasury to accept in taxes Banknotes and Other Fees, Only Specie and Not Even Notes of Specie Redeeming Banks. In that way, the Federal Government would give no encouragement whatever to the circulation of banknotes or deposits. Another plank in the Van Buren program, considered but never passed as being too hard hitting, was a Federal bankruptcy law which would have forced any bank to close its doors whenever or it failed to meet its contractual obligations to redeem its notes or deposits in specie on demand.

33:43Other parts of the Jacksonian program were state enforcement of bankruptcy, the moment a bank should fail to pay in specie, and even the outlawing of all fractional reserve banking as inherently fraudulent, as promising something that could not possibly be fulfilled, instantaneous and its redemption of all demand liabilities in specie. Less thorough going than the Jacksonian proposals, but better than the currency school's reliance on the central bank, were the proposals of a free banking group that arose after 1825, calling for elimination of the Bank of England. The free banking proponents, however, were scarcely united in their theoretical outlook or in their goals. Some wanted free banking in order to eliminate what they considered to be Bank of England restraint on bank credit expansion, while others wanted it for the opposite reason, to approach the currency school goal of pure specie money.

34:52In the former category, for example, was the veteran inflationist and anti-bullionist Sir by Sir John Sinclair. On the other hand, a particularly important example of the latter, hard money category, was the long-time bullionist and clerk at the Royal Mint, Robert Mushet. In his substantial book, An Attempt to Explain from Facts the Effects of the Issues of the Bank of England, 1826, Mushet set forth a currency principle type of business cycle theory. The Bank of England, he pointed out, set into motion an expansionary policy that created an inflationary boom, and that later had to be reversed into a contractionary depression.

35:42Like the later currency school, Muschit's aim was to arrive at a purely metallic currency or its equivalent, but he saw that free banking rather than central banking was a better way to Achieve it. Thus Muschit hailed the Act of 1826, allowing joint-stock banking outside of the environs of London as an improvement on the previous system, but still leaving intact the main evil, because they do not take the power from the Bank of England of adding extensively to the currency. But when the monopoly of the bank expires in 1833 and the trade in money is perfectly free, a better order of things may arise.

36:30The better order included stability, a currency not suffering from over-expansion and an end to the boom-bust cycle. But by far the most important hard-money free banking advocate was the veteran bullionist Sir Henry Brooke Parnell, a leading member of Parliament who had taken the bullionist side in the Irish Money Question in 1804, was a prominent member of the Bullion Committee and had supported resumption in 1819. As early as 1824, Parnell had moved in Parliament for an investigation of the Bank of England's Carter. In 1826, he denounced the bank's exclusive and mischievous privilege. In 1826 and again the following year, Parnell organized a discussion at the Political Economy Club on the theme, Might not a proper currency be secured by leaving the business of banking wholly free Parnell set forth his free banking views in his 1827 tract, Observations on Paper Money, Banking and Overtrading, 1827, 2nd edition, 1829.

37:57He began following Mushet by placing the blame for the panic of 1825 on the Bank of England The problem was that the law had taken away from the bank the great check over abuses in issuing paper money, namely the competition of rival banks. Going beyond Muschit, Parnell was not willing to wait for the bank's charter to expire in six years. No, the power of the bank over money, and thereby over prices and the general state of business, was so entirely repugnant that it ought not be tolerated any longer.

38:43Parnell concluded that the remedy was a free system of banking, and overlooking a few pages at the end of Mushet's work, proclaimed that he himself was the first man in England to raise the banner of free banking. It is hardly surprising, on the other hand, that George Paulette Scroop, the inveterate under-consumptionist, should also have been an inflationist advocate of free banking in this period. In several books and in an article in the quarterly review, heralded by articles of other like-minded men in that leading Tory journal, Scroop called for the legalizing Banking of Small Bank Notes and an End to the London Note Issue Monopoly of the Bank of England. His program was designed to fit inflationist ends. Thus the competing banks would be able to redeem their notes in bullion rather than coin. The proclaimed goal of this banking program was, in Scroop's words, to everywhere lower the values of the metals, and with them, that of money.

39:543. Re-chartering the Bank of England The Bank of England's charter expired in 1833 and this seemed to offer critics of the existing system a golden opportunity to effect a fundamental reform. A Bank Charter Committee was selected by the House of Commons in 1832 to engage in a detailed inquiry into the banking system, focusing on the question of the bank's existing monopoly of bank note issue in London and environs. The committee's hearings and inquiry was the most thorough examination of British banking to date, but Parnell, the only member of the committee to vote against re-chartering the Bank, complained with some justice that the roster of witnesses was stacked against the proponents of free banking by the maneuvers of the Chancellor of the Exchequer in Lord Grey's Whig government, the Viscount Althorpe.

41:00It was clear that a consensus of witnesses was building towards centralizing note issue in the hands of a strengthened Bank of England, a policy both the currency school and its in its misguided way, and the moderately inflationist establishment could support. Only a few witnesses favored bank competition in note issue in London, and only one, the Manchester merchant and joint stock banker Joseph Chesborough Dyer, opposed the fateful proposal to invest Bank of England notes with legal tender power. Based on the committee inquiry, Viscount Althorpe presented Parliament in 1833 with his legislative program, to keep the status quo of bank charter and bank note issue monopoly in London and a 65-mile radius, and to centralize banking further by granting banknotes legal tender power.

42:02This meant that from then on, private and joint-stock banks need not keep any of their and their reserves in gold, since depositors and note holders would be compelled by law to accept bank notes in payment, and that only the Bank of England itself would have to meet its contractual obligations to redeem its notes or deposits in gold. This measure of 1833 went a long way to reduce the role of gold coin in everyday life and to encourage its replacement by banknotes and bank deposits. In presenting his program, Althorpe noted that since the committee hearings, the public have been more inclined to look favorably on the management of the Bank of England.

42:52In short, the loaded committee had done its work well. He further provided a harbinger of the future by stating that his goal The goal was to have all banknotes issued by the Bank of England, which of course is the modern centralized banking system. The powerful country banking lobby, however, rose up in high dudgeon at this threat to its note-issue privileges, and the Cabinet was forced to back down on its goal of note-issue monopoly for the Bank of England. Lord Althorpe was so chagrined at this successful pressure that he almost resigned from the government. Although there was only one witness against it, the legal tender provision for Bank of England notes only carried in commons by virtue of support from arch inflationists opposed to the gold standard.

43:49The vote for legal tender was 214 to 156, with hard money stalwarts Sir Henry Parnell and Sir Robert Peel, the leader of the Tory opposition, voting against. Outrage against the legal tender law among the public was led, as might be expected, by the country bankers. The Committee of Country Bankers, led by Henry William Hobhouse, pointed out that the law Law would violate private rights and secure to the Bank of England an unjust and perpetual monopoly. The committee's memorial justly pointed out that the government had taken measures against the expansionary tendencies of the country banks, but had ignored the operation of the same principle at work in the Bank of England, in its case unchecked by the competition of other banks.

44:46Facing the public reaction against legal tender was the prolific free banking advocate, the Scottish attorney Alexander Mundell. Mundell warned that the 1833 law would lead to the centralization of specie reserves in the country into the hands of the Bank of England. He charged that your English industry, which has been already taxed by the exclusive privileges Because of the Bank of England as it now exists, is thus to be taxed still more, by extension of it. 4. THE CRISIS OF 1837 AND THE CURRENCY SCHOOL CONTROVERSI For the first time, the law of 1826 had allowed joint stock banking, except for the Bank of England, to exist in England.

45:40But various remaining restrictions had held the number of joint-stock banks down to 14. The Act of 1833 had removed these restrictions, and the result was a veritable orgy of joint-stock banks formed in England. 44 new banks were added from 1831 to 1835, topped by no less than 59 in 1836 alone. alone. 15 of them established between 1 May and 15 June of that year. A powerful joint stock bank, the London and Westminster Bank, was even established in London itself in 1834, although of course it was banned from issuing notes.

46:29Along with the increase in the number of banks came an expansion in bank money. Thus the circulation Production of country bank notes rose from £10 million at the end of 1833 to over £12 million in mid 1836. Of this growth, almost all came from the issue of the new joint stock banks, from £1.3 million to £3.6 million in the same period. Although the Bank of England and the private country banks complained at the new competition, The expansion of credit by the bank fueled this new burgeoning of banks and banknotes. Discounts of the bank expanded from £1 million in April 1833 to £3.4 million in July 1835, and rose to over £11 million by the end of the latter year.

47:29Federal bank credit in turn rose from £24 million in 1833 to over £35 million at the beginning of 1837. This expansion took place in the teeth of the bank's loss of specie reserves from £11 million in 1822 to less than £4 million at the end of 1836. So much for the currency principle and for its modified Palmer Rule, which the Bank's Governor John Horsley Palmer had explained to the Bank Charter Committee in 1832 that the Bank of England had been following. There is no way that such a practice of expanding credit while specie reserves were falling could be tortured into even an approximation of the currency ideal that the money supply Why should move as if it were the stock of specie in the country?

48:29To top it off, the bank credit expansion led, in what was becoming the usual way, to a financial crisis and panic at the end of 1836 and the beginning of 1837, replete with bank runs, especially in Ireland. There followed the typical signs of recession, contraction of bank credit, decline of production, expansion, collapse of stock prices, numerous bankruptcies of banks and other businesses, and a swelling of unemployment. It is not surprising that the new boom-bust cycle gave rise to parliamentary inquiries by committees on joint stock banks in 1836, 1837, and 1838, and even more so to vigorous Debates on the Banking Situation in Pamphlets and in the Press. Indeed, more than 40 pamphlets were published on the banking system in 1837 alone, and a large number continued the following year.

49:35The pamphlet war was touched off by a remarkable pamphlet by Colonel Robert Torrens, remarkable not only for being the best presentation of the currency school, but also because it signified a sudden conversion of torrents into the currency ranks. For torrents, though a distinguished political economist, a friend of Ricardo and a founder and leading member of the political economy club, had been an ardent, almost wild inflationist and anti-bullionist during the bullion report struggles. Indeed, torrents inflationism had continued at least into 1830. Then, in the course of confused and bewildering speeches in Parliament in the critical year of 1833, Torrens continued his old bitter anti-deflationist attacks on the Resumption Act of 1819, but in the midst of them also inconsistently enunciated the currency principle in clear form.

50:41Extensive and calamitous experience had established the fact that a currency consisting of precious metals and of paper convertible into these metals on demand was liable to sudden and very considerable fluctuation between the extremes of excess and of deficiency. A mixed currency would suffer a much more considerable contraction than a purely metallic. Unless our present system of currency were amended by the timely interference of the legislature, it would go on to occasion periodical and aggravated distress, until, in a national bankruptcy, it would find its euthanasia.

51:28In another speech on re-chartering the Bank of England, Torrens warned that the adoption of the measures proposed by government for continuing and increasing the exclusive privileges of the Bank of England would inflict upon the country a periodic recurrence in aggravated forms of revulsions of trade and of panics in the money market. In his notable letter to Lord Melbourne, all hesitation finally fell away, and Colonel Torrens joined the leadership of the currency school ranks. He began by pointing out, in contrast to most of his currency colleagues, that bank deposits were money equally with banknotes, paying tribute to James Pennington for pointing this out.

52:17Torrens explained the nature of deposits as money very clearly, showing that a shift of bank liabilities from notes to deposits, or vice versa, would not change the amount of bank money by which merchants and others can make purchases. He also noted that while most people have learned how an increase in coin and bank notes raises prices and depreciates foreign exchanges. Neither the government nor the directors of the Bank of England understand how loans and deposits do the same thing. But tragically, Torrens then inconsistently dismissed deposits as unimportant, apparently on the ground that the bank, not the public, decides whether to keep its liabilities in notes or deposits, and on the further erroneous assumption that country and joint stock banks pyramid at a fixed ratio upon bank notes as their reserves but not upon bank deposits.

53:23From then on, Torrens wrote and acted as if deposits were irrelevant to the money supply. Torrens also unfortunately conceded that the bank must function as a lender of last resort to Banks in Distress, but then confined his attack on the bank to its stoking the fires of inflationary credit and not conforming to the currency principle from the beginning. In order to force the currency principle upon the bank, Torrens, for the first time in print, urged that Parliament rigidly separate the bank into an issue department and a banking department. The issue department would be forced to limit its note issues to its actual supply of gold, so that banknotes could only fluctuate to the extent that the bank's stock of gold increases or decreases.

54:20In that way, wrote Torrens, the circulation of banknotes would always remain in the same state, both with respect to amount and to value, in which it would exist were it wholly The problem is that the banking department in Torrens and hence the currency plan would be left totally free and unregulated on the assumption that the bank could issue credits and deposits and that those loans and demand deposits would be totally irrelevant to the money supply. The neglect of deposits was the tragic flaw in the currency plan. General Toren's assault on the bank was, in effect, though not by name, answered in a pamphlet by bank director and former governor John Horsley Palmer.

55:14As in the case of bank apologists for decades, Palmer put the blame for the inflation and recession on every institution but the bank, on shipments of funds abroad, on bank runs, on Reckless Credit Expansion by Private and Joint-Stock English and Irish Banks. He concluded that the solution, a particular favorite of the bank, was that the bank must have a monopoly of all note issue. Ironically, the currency school, so hostile to the bank, proposed the same plan for different reasons so that the government could have but one central bank to regulate. In his letter to Lord Melbourne, Torrens had given credit to the banker Samuel Jones Lloyd for originating the idea of the separation of the Bank of England into issue and banking departments.

56:15Lloyd now weighed in with a pamphlet attack on Palmer, in which he assumed the leadership of the currency camp. Far more simplistic than Torren's, Lloyd dogmatically but fatally asserted that notes and deposits are forever absolutely different, and therefore can and must be treated totally differently. Professor Fetter offers an amusing and accurate explanation of the triumph of Lloyd's simple-minded stance. He, Lloyd, stated as a fundamental that no man in his right mind could question that Note-issuing and deposit business were completely separate, and that a mixed circulation of coin and notes should fluctuate exactly as would an all-metallic circulation.

57:06Despite its theoretical vacuity, there was no denying the effectiveness of Lloyd's argument. Lloyd's prestige as a successful banker undoubtedly made his words carry conviction to many who who felt that something ought to be done about the Bank of England, and that a man who made money in banking must understand banking. Throughout 1837 and 1838, the currency principle was advocated in highly influential pamphlets, again by Lloyd, by David Ricardo's brother Samson, and, in a particularly important pronouncement, by long-time Bank of England director George Ward Norman. Like Lloyd, Torrens and Pennington, Norman was a member of the Political Economy Club.

57:57His pamphlet of 1838 was a revision of a pamphlet that he had privately printed five years earlier. Norman agreed with Lloyd that notes and deposits are totally different, and also suggested Granting to the Bank of England a Monopoly of All Bank Notes. Since Norman was a powerful bank director, it would seem that his adoption of the allegedly anti-bank currency principle was akin to Brer Rabbit urging not to be thrown into the Briar Patch. Another economist lending his prestige as one of the last of the Ricardians to the currency Principle, was the prolific John Ramsey McCullough, both in a review of some of the year's pamphlets in the Edinburgh Review for April 1837, and again in a new edition of Smith's Wealth of Nations, which he published the following year.

58:54In 1840, at the next stage of the debate, another leading economist joined the fray Murray on behalf of the Currency Principle. S. Mountefort Longfield in a notable four-part article, Banking and Currency, in Dublin University Magazine, an article influenced heavily by McCullough's writings.