Tuesday, March 20, 2012

Alexander Hamilton: Legend of American Finance

It may be slightly exaggerated, but I feel that the title I have chosen does capture the magnitude of Hamilton's greatest accomplishment, as well as acknowledging that he was more than just the first Treasury Secretary of Constitutional America. Hamilton possessed a swath of gifts, talents, and interests, and he left his mark all over the Federal government. He was a gifted orator who used his ability to persuade people to achieve remarkable things both before, during, and after holding public office. To be sure Hamilton possessed obvious faults. From Joseph Ellis we learned that he was one of the most controversial figures of the time because his policies upset many of his contemporaries such as James Madison and Thomas Jefferson. His enemies criticized him of being a monarchist, a friend of the rich, and even as a man who wanted to restore British control. Looking back, Ron Chernow, casts him as a visionary who set up the workings for a modern, capitalist society.

            I have always had a fondness for Alexander Hamilton. When I was younger he came across as far more interesting than Jefferson or Madison. He was also different from the others in many respects. Ellis I felt was very good in his treatment of Hamilton, but what I felt was largely unsaid was whether or not Hamilton's policies were right. When we discussed his fiscal policy in class I wanted to know more about what drove him to those decisions, as well as how they affected the economy, and how Hamilton helped shape the Federal government in general.

            The book I chose to further my knowledge of Hamilton was Alexander Hamilton by Ron Chernow. I found Chernow to be an engaging writer who paints a very detailed description of Hamilton from his roots on St. Croix all the way to his death at Aaron Burr's hands. Chernow brilliantly describes his charm, wit, and his uncompromising determination to see the new country succeed against all odds. He starts on the island of St. Croix where Hamilton grew up.          Hamilton was nominated as a delegate for New York at the Constitutional Convention. Afterwards he teamed up with John Jay and James Madison to craft the Federalist papers which were a treatise for a strong central government and the role it should play. And then he became the tireless first Treasury Secretary who put the nation on sound credit, chartered the first national bank, and passed a controversial tax on whiskey.

            Along the way Chernow has to debunk certain myths about him including but not limited to; being a traitor hoping to restore the British monarchy over America, that Washington was his puppet, and that he was using his position to reap huge dividends for himself through bank bonds. Chernow also critiques some of the typical stereotypes of Hamilton, chief among them was that he was just a British tool, but also that he was a monarchist, and perhaps that he was a womanizer. The latter, Chernow points out, is probably true, but Hamilton likely only had an affair with one other woman, not multiple as some accused him of having. One of the greatest benefits of reading this book was how well Chernow describes Hamilton's attitudes about a range of things from human nature to the role of the Federal government. He also does an excellent job of detailing Hamilton's reasons for his actions which I found very helpful for this paper.

            The Articles of Confederation had been the structural document of the independent states. It permitted a very limited central government that Hamilton felt was inadequate to solve the problems the new nation faced. From Ellis we learn that the debt left over from the Revolution was massive, and that the Articles were too weak to raise taxes to pay that off. Washington feared that the thirteen states would tear the federal head clean off bringing ruin on the whole. Hamilton had even greater fears. If there were  not a unified standing army under national control the states might turn predatory on one another with larger states preying on smaller states. Hamilton's fears probably would have found their deepest realization in the empires states were creating for themselves out west. If states had competing interest in land they might declare war on one another to get that land.

            Finally, on May 25, 1787 the Constitutional Convention began. Immediately the Virginia Plan was put forward by Edmund Randolph. It sought to abolish the Articles of Confederation, and form a strong central government. Soon the New Jersey plan was put forward to challenge it. Until this point Hamilton remained silent, but he came forward with his own plan on June 18. Hamilton wanted a chief executive that functioned as an elected monarch appointed for life, and the same for his vision of the Senate. The House of Representatives would be more democratic, chosen by voters every three years. His plan largely reflected his cynicism towards direct representation or mob rule-democracy, some in his day might have called it.

            Hamilton had seen the effects of mob rule all too personally, and he felt that public opinion must be steered by educated representatives. This is probably why Hamilton felt that the wealthy and educated were best equipped to lead, and why he was willing to upset many groups of people to make sure that the country did not descend into the tyranny of the masses, and get the educated, wealthy people on the new government's side. While at King's College a mob had stormed the school to tar and feather the Tory president, Myles Cooper. Hamilton held them off long enough for Cooper to escape by giving a speech criticizing their actions and intent. Later another incident caused Hamilton to pick up his pen and condemn the lawless sacking of James Rivington's print shop, the New York Gazetteer. Hamilton wrote that, "The same state of the passions which fits the multitude, who have not a sufficient stock of reason and knowledge to guide them, for opposition to tyranny and oppression, very naturally leads them to a contempt and disregard of all authority" (Chernow, 69). After the Revolution, Hamilton witnessed another instance of mob rule which must have had struck him with fear. Shay's Rebellion looked like civil war to Hamilton. The rebels, crushed by the heavy Massachusetts taxes, dressed in their old revolution uniforms and shut down courthouses. Hamilton secretly identified with these rebels because he wanted the federal government to take on state debts left over from the war. This was known as his Assumption Plan which was a part of his Report on Public Credit.

            The Report on Public Credit was Hamilton's plan to restore fiscal stability to America.

But it was something more than that. It was an attempt to secure the Federal government as the chief taxing power. It was, in short, an attempt to make the Federal government powerful and gain the confidence of the rich particularly those who had loaned money to the government at any level. What is interesting about all of his policies is that they all helped out northern wealthy merchants and bankers. This led Madison and Jefferson to despise Hamilton's policies, which they regarded as a plot to enrich the rich. It also presented something very close to the English system of public finance including a national bank and a funded debt, but it also asked for the assumption of state debt and a "Spirits tax" on whiskey and other spirits. This report is what makes Hamilton so controversial. According to Ellis: "These developments forced the planter class of Virginia to realize, for the first time, that their days as America's premier political elite were numbered, soon to be replaced by the commercial and financial elite of New York and New England" (Ellis, 174). Since farmers tend to be debtors they have a natural aversion to bankers and creditors.

            Shay's Rebellion, in Hamilton's view, was the result of heavy taxes levied on farmers by the state of Massachusetts. By trying to settle its own debt the Massachusetts government had created heavy taxes borne by farmers. Unable or unwilling to diversify the taxes among the rest of the population, the Massachusetts government witnessed a farmers revolt. Hamilton felt that if the Federal government assumed the states' debt then it would distribute the tax burden much more evenly, and not single out one group or another. The assumption plan divided Congress, and was the most difficult part of Hamilton's Report on Public Credit to pass, requiring a compromise that fixed the capitol on the Potomac river in order to get the necessary votes. The reason for the difficulty? Some states had paid off most off their debt, and now they were going to be asked to pay for other states' irresponsibility! However, Hamilton argued that without assumption many states with large debt would have to raise taxes, while less indebted states would lower taxes creating large migrations of people from high tax to low tax states. Not only would assumption prevent this migration it would also be far more efficient "since there would be one overarching scheme for settling debt instead of many small, competing schemes" (Chernow, 299). Hamilton was also doing something more subtle. Creditors have a special interest in seeing their borrowers pay them back, therefore a kind of allegiance is formed between creditor and debtor. If the Federal government, not the state governments, was the one who owed money then lenders would become attached to it, however grudgingly, in order to see that they got their money back.

            This created a number of problems. From Ellis and class we learned that some of the bond holders were soldiers who had been paid in paper IOU's, but sold them off to speculators. They had feared that they would not get their money back. Under Hamilton's funding scheme the federal government would make good on all bond payments, and hopefully bond values would soar to their original value. So who should pocket the windfall? "The answer to this perplexing question, Hamilton knew, would define the future character of American capital markets" (Chernow, 298). And indeed it would. As we know, Hamilton decided to reward the speculators who may have coerced soldiers into selling them their bonds. In Hamilton's view the soldiers were not merely innocent victims, nor were the speculators unmerciful predators. Hamilton felt that the soldiers had shown little faith in the new government, and had been paid when they wanted it. Speculators had taken a risk, and should be rewarded for that risk. This should sound like capitalism which promotes risk taking and investing. On the other hand this is some sort of deviation from pure capitalism, which states that risk takers occasionally lose on their risk. Hamilton decided, grudgingly, to protect risk takers technically at the expense of patriotic soldiers. I say that this was technically at the expense of the soldiers because, although the soldiers had been paid for their services (albeit not by the federal government who had issued the bonds), they may have been duped or coerced into selling their bonds to selfish speculators who had shorted them on the bond's true value. And so this would evolve later into the sort of corporate welfare we see in the gilded age, and perhaps more evincing in the mortgage-backed securities crisis of 2008. Since Hamilton we have tended to cradle the rich which is not something Hamilton would have wanted. "Hamilton's interest was not so much in enriching creditors or cultivating the privileged class so much as in insuring the government's stability and survival" (Chernow, 299). Meaning that Hamilton did not want to protect the rich from every misfortune that might befall them, he merely wanted them to support the new government and know that if the government owed them money, then it would pay them back.

            Another problem created by assumption was that once news got out that the Federal government would take on the state debt it caused one heck of a commotion among speculators and investors. "Many rich merchants had already posted agents to backwoods areas of the south to scoop up depreciated state debt that would become more valuable if the federal government assumed the debt" (Chernow, 301). To Hamilton this merely showed the new confidence in the Federal government. Interest rates were going down, and creditors were showing faith in the new system. To others it reflected a wasteful spend of money. Away from the presidential office on July 29 Washington sent Hamilton a list of twenty-one complaints he had heard on his trek home. Among them was a complaint that speculation was draining capital from productive uses and corrupting Congress. This was to resurface later in Hamilton's term as Treasury Secretary when the House of Representatives launched an investigation into his policies.   

            Having assumed the state debt the federal government now had to find a way to pay for it. Hamilton's tax on whiskey and other spirits would be the method. Hamilton knew it was bound to be unpopular, but what other options did he have? He could initiate a property tax, but that might be even more unpopular than the Whiskey Tax as it would hit farmers particularly hard. If he was deprived of the tax at all he would have to raise tariffs which promoted smuggling and retaliation abroad. Again, as we know from class it was the local farmers who bore the brunt, not the large distilleries. As a result local farmers in Pennsylvania, for whom consumption and distillation of spirits was a way of life, rose up in arms, tarring and feathering tax collectors.

            So could Hamilton have taxed something else, and was he right to have small distillers bear the majority of the tax burden? Well Madison, for one thought that no alternative existed, and even cited possible social benefits of such a tax. Chernow doesn't give a detailed list of all other options he only states that Hamilton knew that any alternative would be even more unpopular; farmers would never settle for more taxes that they saw going to enrich northern bankers. "He was boxed in, however, by the already ingrained American aversion to taxation. Direct taxation, whether of people or houses, was anathema to many, and, given the strength of agricultural interests and real-estate speculators, a land tax could never have been enacted" (Chernow, 342). Hamilton clearly saw that whiskey was his only option.

            As for the taxes fairness to all distillers, Chernow notes something quite insightful I think. "The mostly Scotch-Irish frontiersmen of western Pennsylvania…had the highest per-capita concentration of home-made stills in America" (Chernow, 469). What I think this illustrates is that Hamilton is getting the most amount of revenue possible out of this tax. Sure the bigger distilleries might be proportionally larger, but small distilleries was where the majority of whiskey was being made. I think Hamilton's point is to get the debt paid off as quickly as possible without sapping too much money out of farmers and other commoners. It is also possible that had he taxed at a flat percent rate, that rate would have been much higher on wealthy distilleries in order to generate the same amount of revenue. Hamilton was willing to sacrifice fairness for a swift end to public debt which would benefit the whole population.

            The last piece of Hamilton's fiscal machine was the central bank. The bank would create a uniform currency, increase the money supply, lend to the Federal government and business, collect revenue and store government funds, and handle foreign exchange. Hamilton was well aware of the evils of banking, but he felt that the good of the bank far outweighed any negative consequences. "If banks, in spite of every precaution, are sometime betrayed into giving a false credit to the persons described, they more frequently enable honest and industrious men of small or perhaps of no capital to undertake and prosecute business with advantage to themselves and to the community" (Chernow, 348). Banks were loathed by farmers in the south where, Ellis tells us "bankruptcy often arrived as a complete surprise on many Virginia plantations, a product of account legerdemain that many planters took considerable pride in not comprehending" (Ellis, 174). Essentially many farmers were under the impression that bankers exploited them to enrich themselves. Farmers probably did not realize exactly what taking out a loan meant for them in the long-term. Plus farmers were at high-risk of default. If they suffered a bad crop, an unforgiving bank might confiscate the land. Hamilton recognized this aversion, and encouraged southerners to buy up stock in the new central bank to distribute bank ownership; needless to say few, if any heeded his call.

            Jefferson's own Treasury Secretary educated him on the importance of the national bank. Albert Gallatin, who had previously attacked Hamilton's use of the national bank, said that, along with the Customs Service, it had helped to reduce national debt. Next, Jefferson wanted Gallatin to launch an investigation into Treasury documents to find any condemning evidence against Hamilton's policies. Gallatin found none, and remarked to Jefferson that he had found the most perfect system ever devised. He didn't stop there. "As for the First Bank of the United States, once denounced by Jeffersonians as a diabolical lair, Gallatin proclaimed that it had 'been wisely, and skillfully managed'" (Chernow, 647). The bank, like much of Hamilton's system, was necessary for putting the country on firm fiscal footing. The First Bank of the United States was a forward looking move by Hamilton to create a modern fiscal machine. With it the U.S. could regulate banking and currency. Without it, the Federal government was either starved of cash (War of 1812), looking helplessly at financial panic and subsequent depression (Panic of 1837), or facing the consequences of having an unregulated currency (Black Friday, 1969).

            So what are we to make of Hamilton? Certainly the man seemed to favor wealthy, northern bankers and merchants at the expense of the poorer farmers and southern aristocrats. Nevertheless, Hamilton was not a tool of the wealthy. He did not simply want to enrich bankers and merchants; he wanted to modernize America, bring it up to speed with Europe, and create the workings of a capitalist society that promoted risk taking. Here are two quotes which I think explain (not excuse) Hamilton's policies: "As chief agent of a market economy, he had to spur acquisitive impulses, accepting self-interest as the mainspring of economic action. At the same time, he was never a mindless business booster and knew how the desire for lucre could shade over into noxious greed" (Chernow, 345), and from Thomas Hobbes he got "the sacredness of contracts in transfers of securities, arguing that people entered into such transactions voluntarily and must accept all the consequences" (Chernow, 296). What the two quotes emphasize are that Hamilton had certain misgivings about showing favoritism to the rich, but that it was indeed worth it because they had taken a voluntary, calculated risk, and it was these types of people who were going to build and characterize the American economy all the way to the modern era. I am certain that Hamilton would be revolted at the practices of the investment bankers who received government bailouts in 2008.

 Whatever flaws or moral hazards his policies contained he was resigned to the fact that the new nation must promote risk takers who sometimes lost.  

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