In the midst of the Civil War in 1862, Abraham Lincoln secured passage of the first legal-tender law in the history of the United States. It was a law that planted the seeds of monetary debauchery that would culminate more than 70 years later during the presidential regime of Franklin D. Roosevelt.
Up to the Civil War, the American people had been living under the most unusual monetary system in history. It was a system in which gold coins and silver coins were the official money of the United States. That’s because the Constitution, which enumerated the powers of the federal government, established a monetary system based on gold coins and silver coins rather than paper money.
The Constitution, however, also delegated to the federal government the power to borrow money. In return for money borrowed, the government would issue debt instruments. In essence, those debt instruments — bills, notes, and bonds — were nothing more than promissory notes.
Of course, there was nothing to prevent people from transferring their debt instruments to other people in economic transactions. If John owed Peter $5,000 in gold coin and possessed a $5,000 U.S. note, Peter might well be willing to accept the note rather than require John to go redeem the note for gold coins and then pay Peter with the gold coins.
Nevertheless, everyone understood that federal debt instruments were not money but only promises to pay money — that is, promises to pay with gold coins or silver coins.
During the Civil War, Lincoln was faced with the difficulty with which many other rulers in history had been faced. His administration’s expenses were exceeding its tax revenues. To express the matter in modern-day parlance, Lincoln was running a deficit.
Lincoln had options to deal with his financial problem. One option was to slash expenditures to such an extent that they matched tax revenues. That option was problematic because Lincoln was waging a war that was becoming increasingly expensive. A second option was to increase taxes to match the level of expenditures. But that option was also problematic because people were already overtaxed and a tax increase was likely to result in lots of anger among taxpayers.
Legal tender
Lincoln did what U.S. officials do today to finance their deficits. With the consent of Congress, he borrowed the difference between what he was spending and what he was bringing in with tax revenues.
A major problem arose, however. Because of the large amounts in notes that Lincoln was issuing to evidence the government’s debts, the notes began trading at a discount in the marketplace. People didn’t have 100 percent confidence that the federal government was going to repay the notes, especially since the outcome of the war was still in doubt. More important, people were figuring out that Lincoln’s government lacked the necessary amount of gold to pay off all its debts.
Lincoln’s response was to secure passage of the first legal-tender law in the history of the United States. The law required people to accept the federal government’s debt instruments at face value. Even though they might be trading at a discount in the marketplace, commercial establishments and creditors were required by the law to accept them as if they were equal in value to what they promised to pay.
For example, suppose that in 1860 Peter borrows $1,000 from Paul. Paul gives Peter $1,000 in gold coins and Peter in turn gives Paul a promissory note in which he promises to pay Paul the sum of $1,000 in gold coin plus interest, with the note coming due in 1863.
Meanwhile, let’s assume that Lincoln issues a massive amount in federal bills promising to pay the bearer the sum of $100 on demand. By the time 1863 rolls around, those federal bills are now trading at a 20 percent discount. That is, they have a fair market value of $80 in gold coin rather than $100 in gold coin.
When Paul’s note comes due in 1863, Peter approaches him and offers him $1,000 in U.S. bills in payment rather than $1,000 in gold coin. Paul realizes that the notes have a fair market value of only $800 in gold coins. He rejects Peter’s offer and demands to be paid back $1,000 in gold coins.
Peter points out that under Lincoln’s legal-tender law, Peter is permitted to pay his debt with U.S. notes and Paul is required to accept such payment at the face value of the notes. Paul responds that Lincoln doesn’t have the authority under the Constitution to deprive him of money that is lawfully due him.
In fact, that’s how the case of Hepburn v. Griswold reached the U.S. Supreme Court in 1869. A Mrs. Hepburn offered to pay a debt that she owed Henry Griswold with legal-tender notes that were trading at a deep discount. Griswold refused the tender and demanded payment in gold coins. Hepburn refused, citing Lincoln’s legal-tender law. Griswold sued and the case ultimately reached the U.S. Supreme Court five years after the war ended.
In a 4-3 decision (actually five justices favored the majority position but one retired before the formal vote was taken), the Court declared Lincoln’s legal-tender law to be unconstitutional. The Court pointed out that while the Constitution delegated to the federal government the powers to coin and borrow money, it did not delegate the power to enact legal-tender laws.
The Court stated,
It is not doubted that the power to establish a standard of value by which all other values may be measured — or in other words, to determine what shall be lawful money and a legal tender — is in its nature, and of necessity, a governmental power. It is in all countries exercised by the government. In the United States, so far as it relates to the precious metals, it is vested in Congress by the grant of the power to coin money. But can a power to impart these qualities to notes, or promises to pay money, when offered in discharge of preexisting debts, be derived from the coinage power, or from any other power expressly given?
It is certainly not the same power as the power to coin money. Nor is it in any reasonable or satisfactory sense an appropriate or plainly adapted means to the exercise of that power. Nor is there more reason for saying that it is implied in, or incidental to, the power to regulate the value of coined money of the United States, or of foreign coins. This power of regulation is a power to determine the weight, purity, form, impression, and denomination of the several coins and their relation to each other, and the relations of foreign coins to the monetary unit of the United States.
Nor is the power to make notes a legal tender the same as the power to issue notes to be used as currency….
The Court also cited the Fifth Amendment, which the American people had adopted soon after the Constitution brought the federal government into existence. It expressly prohibits the federal government from depriving people of property without due process of law. The Court pointed out that the legal-tender law was no different from a law that allowed a person who had been paid for 100 acres of land to instead deliver only 50 or 75 acres to the buyer.
“Evil likely to follow”
Thus, Lincoln’s legal-tender law was effectively dead. Under the Court’s decision, America’s monetary system would continue to be based on gold coins and silver coins. The government would continue to have the power to borrow and those debt instruments might well continue to serve as money substitutes in the economic marketplace. But the government would forever be precluded from forcing people to accept its notes at face value through the passage of legal-tender laws.
Yet the following year, owing to the appointment of two new judges to the Court, in Knox v. Lee and Parker v. Davis the Supreme Court overturned the decision in Hepburn v. Griswold and upheld the constitutionality of Lincoln’s legal-tender law. Then, in the 1884 decision in Julliard v. Greenman, the Court upheld, once and for all, the constitutionality of legal-tender laws.
Implicitly rejecting the enumerated-powers doctrine, the Court held that the federal government had the sovereign power to establish any type of monetary system it wanted over the American people. The Court’s decision effectively placed the federal government in the same position with respect to monetary power that all other governments in history had wielded, including the power to plunder and loot people through monetary debasement. Justice Stephen J. Field put the matter best in his dissenting opinion in Julliard:
If there be anything in the history of the constitution which can be established with moral certainty, it is that the framers of that instrument intended to prohibit the issue of legal-tender notes both by the general government and by the states, and thus prevent interference with the contracts of private parties….
For nearly three-quarters of a century after the adoption of the constitution, and until the legislation during the recent civil war, no jurist and no statesman of any position in the country ever pretended that a power to impart the quality of legal tender to its notes was vested in the general government….
We all know that the value of the notes of the government in the market, and in the commercial world generally, depends upon their convertibility on demand into coin; and as confidence in such convertibility increases or diminishes, so does the exchangeable value of the notes vary…. They are promises of money, but they are not money in the sense of the constitution….
From the decision of the court I see only evil likely to follow….
Some 50 years later, Field’s prophecy would come to fruition during Franklin Roosevelt’s New Deal. It continues to haunt us to this day.
This article was originally published in the June 2014 edition of Future of Freedom.