What this covers
Jane Knodell, professor of economics at the University of Vermont and author of "The Second Bank of the United States: Central banker in an era of nation-building" joins the show for a masterclass in financial history. Taking us back to the founding of the First & Second Bank of the United States, Knodell discusses the origins of banking, central banking and everything in between, taking us on a tour from the late 1700's to present day. To hear all this and more, you'll have to tune in! -- Follow Jane: https://twitter.com/JaneKnodell Follow Jack Farley on Twitter https://rb.gy/uesguv Follow Forward Guidance on Twitter https://rb.gy/cy0dki Follow Blockworks on Twitter https://rb.gy/igyzsj -- Get top market insights and the latest in crypto news. Subscribe to Blockworks Daily Newsletter: https://rb.gy/5weeyw
Market commentary, charts, degen trade ideas, governance updates, token performance, can’t-miss-tweets and more. Subscribe to the Blockworks Research “Daily Debrief” Newsletter: https://rb.gy/feusos -- Timestamps:
00:00 Introduction 01:02 The First Bank In The United States 04:29 The Coinage Act Of 1790 08:37 The Financing Of The Revolutionary War 14:40 How Successful Was The First Bank? 17:14 The Second Bank of the United States: “Central” Banker in an Era of Nation-Building 24:50 The Mechanics of "Discounts, Exchange & Treasury Debt" 29:05 The Panic Of 1819 33:02 The Panic of 1825 & The Role Of "Central" Banking 40:12 Did The Second Bank of the United States Closing In 1836 Have Any Effect On The Panic Of 1837? 46:29 The Panic Of 1907: The J.P. Morgan Bailouts 53:55 The Financial System's Plumbing 57:54 The Financing of WWI 01:02:34 The Great Depression 01:07:47 Can The Federal Reserve Print Money? 01:11:13 Bretton Woods 01:15:35 The Treasury-Fed Accord 01:19:15 The FTX Fallout -- Disclaimer: Nothing discussed on Forward Guidance should be considered as investment advice. Please always do your own research & speak to a financial advisor before thinking about, thinking about putting your money into these crazy markets.
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Nodell argues that central banking in America evolved from debt monetization (First and Second Banks) to financial stability management (Federal Reserve), with the gold standard constraining crisis response and international cooperation proving more stabilizing than metallic backing.
- First and Second Banks primarily transformed government debt to equity and facilitated inter-regional trade, not lender-of-last-resort functions
- Federal Reserve's capacity to address crises expanded through WWI amendments and suspension of gold standard constraints
- Gold standard worsened Great Depression by preventing monetary expansion; countries that suspended it recovered faster
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Species (gold and silver coins, particularly the Spanish piece of eight) functioned as a money hierarchy's top tier during the colonial and early U.S. period, with paper currencies and banknotes of different colonies and states all defined in relationship to species value, creating a multi-tiered monetary system.
“species was really King at this time um now and the you when the U.S government borrowed and I believe that they were borrowing species...I would argue that the species was the was like the the best form of money right so it's useful to think of money as a hierarchy there's always like one kind at the top and then others are kind of defined in relationship to that one”
State banks rejected proposals to accept each other's banknotes at full face value because inter-regional trust was limited—a Boston bank would not trust a newly-chartered three-month-old state bank in another region, as they only accepted notes from banks with established histories of good conduct and timely payments.
“if you're the bank of Boston you don't want to accept the State Bank of some you know Bank of a state that was started three months ago exactly because that that's risk like you're asking me to trust this bank I don't know this Bank yeah um and so they were not interested in that I mean they were they were obviously had inner Bank relationships but it was with banks they trusted they had long they had a history of good business you know Good Conduct timely payments”
The Second Bank's bills of exchange business was fundamentally cheaper than specie shipment—shipping gold cost approximately 4% of the gold's value in freight and insurance, making specie transport economically prohibitive for inter-regional trade financing.
“it was a lot cheaper to move Goods around with bills of exchange and drafts on the Second Bank than with species if you pay with specie you you have to send it down the Mississippi River that's perilous and you ship it all the way around to the east coast you're paying for Freight you're paying for insurance...paying in Gold if you want to ship gold around uh it can it can cost something like four percent of the value of the gold”
Nicholas Biddle, as Second Bank president, instructed branch cashiers not to act as lenders of last resort to struggling state banks—when the Savannah branch provided liquidity assistance, Biddle lectured them that the Second Bank's role was to remain aloof, letting state banks maintain sufficient reserves independently, prioritizing stockholder dividends over systemic stability.
“Biddle is lecturing them he's saying no no this is this is not what we do we want the State Banks to themselves carry enough liquidity that they can get through a panic without coming to us yeah yeah Nicholas Biddle is like are you kidding me this is this is a gold mine for us we should uh we should we should we should let it get worse so that our position will be even uh better over over the State Banks”
World War I was a 'gift' to those who wanted to see the Federal Reserve as powerful because the debt issuances required were orders of magnitude larger than any prior U.S. government debt, forcing abandonment of the Federal Reserve Act's restrictive provisions and enabling the Fed to become the primary monetary and credit intermediary.
“World War One was a gift to those who wanted to see the Federal Reserve as a powerful institution why so again with war Finance you know you needed some way to float all this debt and if you compare the the debt issue of right after the U.S enters the war in April 1917 the size of that debt was of that issue that just one issue was orders of magnitude larger than any other earlier issuance of debt by the US government”
The Second Bank of the United States was created to stabilize the payment system (which had collapsed during the War of 1812) and to manage the nation-building project of the expanded federal government, which now had to provide services across newly acquired Western territories including managing Native American populations, constructing roads, and selling public lands.
“the payment system was a basic infrastructure um and you got to get that right you know and if you don't get it right you're going to have crises recurrent crises you're going to have loss of well-being loss of output all the rest of it so the payment system was not in good shape coming out of the War of 1812 as you noted um and there was just this what I emphasize is the nation building part so the other thing that happens is the the territory under the control of this federal government has expanded significantly okay so because they as a result of the War of 1812 they pick up some Western a lot of this western land okay so that means you have to start installing federal government services out there”
Banking panics ended in the 1930s not due to Federal Reserve actions but due to three Roosevelt-era policies: (1) the banking holiday that froze bank operations; (2) deposit insurance that eliminated runs; and (3) gold price increase (from $20.67 to $35 per ounce) that expanded the monetary base without violating gold standard.
“the banking panics are ended in the 1930s not because of the FED but because of Roosevelt the banking holiday and and Deposit Insurance and he increased the the gold price he devalued the dollar”
The First Bank of the United States, chartered in 1791 with a 20-year charter, was designed as Hamilton's fiscal agent to place the finances of the new federal government on a firmer footing by assuming Revolutionary War debts from the states and refinancing them into longer-term debt backed by Customs Revenue.
“the First Bank was chartered in 1791. and it had a 20-year Charter...the purpose of the First Bank was to assist with Hamilton's project Hamilton Alexander Hamilton being the first Secretary of the Treasury to the the First Bank was part of Hamilton's project to place the finances of this new federal government on a firmer footing”
Double liability was eliminated in 1934 as part of the New Deal, which also introduced deposit insurance (FDIC)—suggesting a shift from shareholder accountability to government guarantee, potentially reducing shareholder oversight incentives and replacing it with regulatory oversight.
“a lot of people think you know and that we had National Banks had double liability until 1934. they lost it in the in the as part of the New Deal which was kind of like well wait a second maybe that wasn't such a bad thing you know because and there's a there's some interesting papers about of course the reason for it was that if they had they there would be more there would be better risk management”
The Federal Reserve Act of 1913 did not explicitly mention a lender-of-last-resort function—the act was designed to address seasonal currency shortages (the fall crop movement) through temporary note issuance backed by good commercial collateral, with the expectation that notes would be retired after the seasonal demand passed.
“first of all there's nothing nothing in the Federal Reserve Act about like lender of Last Resort yes okay so the idea was though that the the panics up to then mainly happened in the fall when there was a big demand for currency to move the crops the cotton and the wheat and all that stuff okay and then when when the New York Banks didn't have enough currency...when they couldn't get enough currency then there was that a bank run”
National Bank stockholders had double liability—they had to contribute twice their share purchase value to the bank's creditors if it failed, meaning owning $2,000 of stock exposed you to $4,000 of liability if the bank went bankrupt, giving shareholders strong incentive to oversee bank management.
“the shareholders of National Banks had double liability okay so when your bank failed it went into a bankruptcy process and there was a receiver that was set up to collect the assets and distribute them among the creditors of the bank and among the Assets in every stockholder like if you if you owned two thousand dollars of stock in this Bank you had you had to make four thousand dollars available to the creditors of that bank”
Private investors in the Second Bank could pay for 75% of the new bank stock using existing debt they owed to the U.S government, which was purchased at a premium, representing a second debt-to-equity transformation and implicit bailout of the sovereign debtor by the central bank, paralleling the mechanism used by the First Bank.
“private investors could pay for the new bank stock of the Second Bank in the United States 75 of that they could pay with existing debt that they owed to the US government which would be bought at a premium so again it's that The Sovereign debtor is being bailed Again by this Central Bank entity um but this time also we have a financial stability angle uh in addition to a sort of debt monetization angle”
The Panic of 1907 was resolved not by JP Morgan's lending (which was limited and selective) but by the arrival of additional gold imported from Europe, which increased the fixed stock of cash in the American banking system, proving that liquidity crises are ultimately constrained by commodity money availability.
“what finally ended the Panic of 1907. was the arrival of additional gold that we want to someone wanna I think Morgan organized the borrowing gold from one of the European countries um and so once the goal came in again that's the stock of cash increased right you need that stock of cash to increase somehow and that's that's what happened”
Deposit insurance in the early U.S. banking period (before FDIC) came in the form of note insurance, not deposit insurance—if your bank failed, you could take the bank's banknotes to the U.S. Treasury and receive face value, but if you had made a deposit you had no protection and were left in creditor bankruptcy process.
“not deposits there was no deposit insurance that National Bank notes if your bank failed you could go to the U.S treasury and they will give you face value for it”
The Free Banking era following the Second Bank's closure (1836 through roughly the 1860s) was characterized by widespread state bank failures and contagion—when one bank defaulted, the cascade effect would harm other banks' deposits, causing recurrent recessions lasting many years and loss of economic output.
“you had an era of Free banking for you know almost a century uh in the 1860s during the Civil War you had the introduction of the of the Greenback uh sort of a common currency but after the Civil War during the Gilded Age it was you know an era of Free banking where anyone could pretty much start a bank you'd have a State Bank Charter banks failed all the time there was contagion if the bank of uh Jack Farley went to the bank of Professor Jane nodell and I defaulted my default would cause your default which would call you know mess with all of your deposits”
The Panic of 1819 was caused in part by the Second Bank's lenient early lending on real estate collateral that proved speculative and lost value after the panic, forcing the Second Bank to foreclose on western borrowers and creating lasting political resentment in western states against the bank.
“the western branches the Second Bank had lent on collateral of Real Estate that was you know speculative turned out to be land whose value that lost a lot of value after the panic of 1819 and the FED foreclosed...there was a lot of bad blood in the western states because Pete the second bank had foreclosed on them right”
Second Bank officials engaged in corruption by lending money to themselves and friends, and lending money to individuals so they could buy more Second Bank stock to increase the bank's share price—practices that were not unique to the Second Bank but common in the banking industry at the time.
“early on it definitely had some problems tell us about that and particularly the corruption of you know Branch officers lending money to I think his last name was Jones or or lending money to themselves to friends as well as lending money so that they could buy more of the bank stock”
The Second Bank increased its leverage dramatically over its existence—at the beginning of its charter it held approximately $1.50 in assets for every dollar of equity, but by the end of the charter this ratio had increased to approximately $3 in assets per dollar of equity, allowing higher returns on equity without increasing lending rates or interest margins.
“at the beginning uh for every dollar of Bank Equity they had like a dollar and a half in assets when I and but by the end it was more like three dollars for every dollar in equity”
International monetary stability depends more on effective cooperation among central banks than on any real commodity backing like gold—this is the conclusion of monetary historian Barry Eichengreen, who argues that even the gold standard required coordination (e.g., Bank of England and Bank of France swapping gold to maintain credibility).
“if you look at the international monetary stability depends Less on you know are the are the currencies pegged to Something Real like gold and more on effective cooperation among the central banks this is what I can green argues and I think it's a pretty good argument um because in the history of the like the gold standard which is supposed to be so stable you find all these little stories of like crises you know the bank of England is worried that it doesn't have enough gold there's going to be a run on it and the bank of France ships some gold over”
After the Civil War, the United States adopted a dual banking system under the National Banking Act of 1863, where banks could be chartered either by state governments or by the national government, and national banks were regulated by the Office of the Comptroller of the Currency, with the goal of creating a unified national currency.
“After the Civil War it was a dual banking system because you're the national Banking Act set up in 8 1863. so now Banks could get a charter from their state government or from the national government okay and the National Banks you know were were regulated by a new Department within the treasury the office of the Comptroller of the currency and again the desire was we want these National Banks we won a national currency right we want paper money that is going to be worth the same throughout the country”
The Treasury-Federal Reserve Accord (1951) restored Federal Reserve independence from Treasury direction and allowed the Fed to adopt policies that diverged from government bond support, creating a framework where the Fed could pursue both full employment and price stability as independent mandates rather than subordinating monetary policy to fiscal policy.
“I think that really probably after the treasury fed Accord right because before that if all they're doing is keeping interest rates pegged there's no that's our job that's all they're doing they're buying and selling government securities to keep the interest rate where they enter the government where the treasury wants the interest rate to be but once it has control over the interest rates then it's saying okay so we we're going to we care about full employment and price stability and that's what we're going to pursue”
Unlike the First Bank, the Second Bank of the United States was not re-chartered in 1811 primarily due to constitutional concerns about the Necessary Clause, as by 1811 state banks had proliferated so the case for federal necessity was weaker than in 1791, combined with ideological concerns about federal power concentration in a period when states held primary power.
“they they and I think he may argue that in 1791 there weren't any other state many other State Banks by 1811 there's a lot of banks around so if you're going to use the necessary Clause of the Constitution to justify it maybe you could do that in 1791 you can't do it in 1811. so I think by 1811 they're feeling like we're good we don't really need this Bank anymore”
Unlike the First and Second Banks whose primary purpose was debt monetization, the Federal Reserve's distinct purpose was financial stability and preventing banking panics through lender-of-last-resort functions—a fundamental shift in central bank mandate from debt management to systemic stabilization.
“that is a distinct feature completely different from the Second Bank of the United States and the First Bank of the United States which is to monetize debt not didn't really care about being a lender of Last Resort in this case the Federal Reserve wants to preserve Financial stability and lend to beleaguered banks”
The Bretton Woods system (1944) placed the U.S. dollar at the center of international monetary order, with the dollar convertible to gold at fixed rate and all other currencies convertible to dollars at fixed rates, giving the U.S. 'exorbitant privilege' to finance balance-of-payments deficits by printing dollars that the world was willing to accumulate.
“Bretton Woods put the dollar at the center of the international monetary system so the idea was we're still going to be based on gold but it's the dollar that's convertible to gold and all the other currencies are going to convert to dollars at fixed prices interest rate system um The credibility of the system rests importantly on there not being too many dollars in relationship to the amount of gold owned by the U.S U.S government”
The War of 1812 immediately demonstrated the consequences of eliminating the First Bank: by 1814, most state banks had suspended specie payments, banknotes traded at heavy discounts, and the treasury was forced to accept state banknotes at face value for tax payments, causing the government to lose substantial value on collected taxes.
“by 1814 I mean I think literally the British burned down much of DC um most State Banks had suspended gold and silver payments specie payments banknotes traded at heavy discounts uh and the treasury was forced to accept state banknotes uh for taxes and and uh um duties and stuff like that at face value so anytime they collected taxes they were losing lots of money”
The Federal Reserve's hands were tied during the Great Depression not by bad policy decisions but by structural constraints—the requirement to maintain gold reserves against banknote issuance prevented monetary expansion even as the banking system collapsed, creating a deflationary spiral as banks called in loans to maintain reserves.
“the fed's hands are kind of tied because there's we're still on gold yeah so there's still this requirement to keep maintain some minimum reserve of gold against your notes right so then Banks called in their loans from businesses so that businesses had to pay so then they couldn't make payroll and then it's a vicious vicious cycle”
Countries that suspended gold standard convertibility early during the Great Depression recovered earlier than those that maintained convertibility longer—suspension allowed monetary expansion and borrowing/spending recovery, while gold standard adherence perpetuated deflation and depression.
“it's pretty well agreed that the countries that suspended early recovered earlier yeah because they're able to expand their you know you know do more borrowing and spending and bring the economy back”
Modern inflation (2020s) has different structural sources than 1980s inflation—today's inflation is driven primarily by supply chain disruptions and geopolitical shocks (Ukraine war) rather than demand growing faster than supply—making interest rate increases (designed for demand control) potentially counterproductive by worsening supply constraints.
“my my main critique of the FED now would be that the night the the 2020s are not the same as the 1980s and you know the world economy is more open and a lot of our problems inflation sources of inflation today are these supply chain problems which were not really a problem in the 1980s in 1980s it was definitely you know aggregate demand growing too fast right um in relationship to the supply of goods and services which was growing at a you know decent clip but now we've got these you know shortages of goods and services supply chain problems the Ukraine war so in that setting when you increase interest rates you could actually be making some of your supply side problems worse”
The Second Bank is labeled 'central' in quotation marks in Nodell's book because unlike a true central bank it was not a lender of last resort—it did not expand lending during the Panic of 1825-26 when the banking system needed liquidity; instead it profited from rising specie value as state banknotes depreciated, 'shorting' the financial system.
“if you think a key characteristic of a central bank is that it is a lender of Last Resort it doesn't seem to me that was and that Panic of 1825 to 26 is a good example of why the Second Bank didn't really step in um to help banks that were in trouble um they actually profited from the rising value of the specie that they held so they had at the end of that year that very bad year for many people the Second Bank is kind of saying we had a really good year”
A central bank's core function as lender of last resort is to increase liquidity when the banking system is illiquid—it must expand its balance sheet and borrowing precisely when private banks are trying to reduce their leverage, injecting new liquidity to prevent a liquidity spiral where all banks hoard cash and cause defaults.
“I mean what a central bank is supposed to do is become less liquid when the banking system needs liquidity you know and they're all you know the private banks are all trying to get more liquid but they're all fighting over the same constant stock of cash right and the London Last Resort is supposed to provide liquidity when the system has no liquidity exactly it's supposed to inject the liquidity right”
Treasury Secretary Albert Gallatin understood that accepting state banknotes at face value in tax collection created unequal taxation across regions—a Boston banknote held full specie equivalence but an Ohio or South Carolina banknote did not—making the case for unified federal monetary infrastructure to achieve equal taxation.
“he's pointing out if you if you're collecting taxes okay at face value in these State Bank notes and in Boston that banknote is is fully equivalent to specie but in Ohio and in South Carolina it's not then you are not equally taxing your people he was really concerned about that”
Sam Bankman-Fried's lending to bankrupt crypto institutions using borrowed money that FTX did not have parallels John Pierpont Morgan's role in the Panic of 1907, earning the nickname 'JP Morgan of crypto', except that Morgan's interventions were stabilizing (selective bailouts, gold imports) while Bankman-Fried's were fraudulent (using other people's deposits).
“when people earlier this summer referred to sand bankman freed of the now you know now disgraced uh founder of FTX they said uh you know he he was lending to uh bankrupt crypto institutions uh we we now learned he was lending to them with money that he did not have uh but he was called the JP Morgan of crypto not the not the bank JPMorgan crypto but John pierpa Morgan from what he did in 1907”
The New York City bankers who managed the 1907 crisis (including JP Morgan's banking peers) were ready to support creation of a central bank because they no longer wanted the burden of managing financial panics—the Federal Reserve would relieve them of this responsibility, making it politically easier for large banks than small banks to accept the Fed.
“a lot of people think that the the New York City banks that had been very involved in managing all these panics of the national banking period we're kind of ready not to do that anymore so they didn't put up a big fight to creating a central bank um and I think the smaller Banks were more worried about about the the creating the Second Bank but certainly the main purpose of the Fed was to prevent these banking panics”
The Federal Reserve Act did not create entirely new plumbing for the monetary system but rather added a new small pipe alongside existing ones—banks could still hold gold, greenbacks, and silver in addition to deposit balances with reserve banks, making the Fed a marginal addition to the monetary infrastructure that became increasingly large over time.
“the FED under the Federal Reserve Act the banks can would continue to hold gold and greenbacks and silver and then they would also hold you know some some balances with the with the reserve banks so didn't tear up the pipes it just added a slightly added a a new pipe that was small but it became increasingly large”
The Second Bank solved the state banking coordination problem through two mechanisms: (1) size and ubiquity—as the largest bank with branches nationwide and as the government's fiscal agent, it regularly exchanged notes with all regional banks; (2) credibility—government tax flows meant it could maintain universal convertibility at par with specie.
“the Second Bank a is the only it's the by far the largest bank in the country it has branches and it's going to be a player because it's also the U.S government's fiscal agent so though the taxes are flowing through that bank and all the government spending is flowing through that bank and that puts the bank in a position of being regularly exchanging notes with banks uh wherever it is”
After the Second Bank closed in 1836, its shareholders likely rolled over their stock into shares of the Bank of the United States of Pennsylvania (a state-chartered bank established by Nicholas Biddle), but those shareholders probably lost everything when that bank failed, making for a bad ending to Biddle's career.
“I suspect that some of those shareholders rolled over their stock into the stock of the bank of the United States of Pennsylvania because Biddle stays in the banking business he sets up a state Chartered Bank Under Pennsylvania law okay things do not go well for that bank and I think those shareholders probably lost everything um because Biddle just it was a bad ending to biddle's Career”
FTX's failure will likely be remembered as a turning point that prompted major regulation and rethinking of how crypto should be integrated with the mainstream banking system—specifically whether crypto should be segregated from banking or brought into the regulated banking framework with deposit insurance and lender-of-last-resort backing.
“I mean I really think we'll look back and say this was a turning point that led to Major regulation and rethinking of the you know how much we're gonna you know are we going to continue to segregate the mainstream banking system from crypto are we going to try to tie crypto in to the banking system that is backed up by Deposit Insurance and and lender of Last Resort”
A 'discount' in Second Bank operations was commercial paper—business loans purchased at a discount from face value, with the borrower paying the full face value at maturity, effectively providing credit to businesses through bill discounting rather than direct loans.
“discounts are basically um commercial paper all right so business loans right and it's called a discount because if I give your borrowing ten thousand dollars that paper would be bought at a discount from face value and then according to how this the interest rate and then when the bill matures the debtor pays the full face value right”
A 'bill of exchange' in Second Bank operations was a collateralized promise to pay drawn between merchants—a Cincinnati packer would draw a bill on a Philadelphia merchant who agreed to accept it, allowing the packer to receive payment immediately while goods were in transit, financed by the Second Bank purchasing the bill and collecting at destination.
“I'm a I have some packed pork in Cincinnati mm-hmm and I'm going to draw a bill of Exchange on my Accord on a business in New in Philadelphia and there I'm going to ship my port to them and they're going to sell my pork okay so it but I need I need some way of financing the movement of this pork over to Philadelphia so I'm going to draw a bill on the guy in Philadelphia okay and I have an arrangement with them where they they're going to accept that bill when when it's presented to them for payment”
Second Bank stockholders pressured Nicholas Biddle for higher dividends—when dividends were lowered from their peak, shareholders emailed demanding returns of 6% at least, with Biddle eventually achieving 7.5-8% annual dividends on a steady, predictable basis with minimal year-to-year volatility.
“the stockholders didn't want them to be helping the State Banks right exactly they paid a dividend which was I think it was lowered under the second president but a lot of stockholders emailed Nicholas Biddle saying six percent come on come on Nick you can do better than that uh he peaked at like seven and a half percent or maybe an eight percent uh of the dividends”
When the Second Bank's charter expired in 1836 it was wound down with no loss to creditors—banknotes were retired and paid back to holders, and drafts drawn on the bank were redeemed, suggesting an orderly dissolution without depositor harm or financial disruption.
“I think you're gonna have to like write that book that Professor you know more about this topic than I think anyone on Earth uh so but I'm not aware of any problem with the Second Bank um I mean a lot of the direct the the live on the about the liability side of the second bank's balance sheet right you have these notes that are circulating they're five dollar ten those are big notes for the time right right so once the second bank closes they just get withdrawn you know the the notes get paid back into the bank”
The 1970s inflation and Volcker's subsequent drastic interest rate increases represent a period when the Fed had to choose between full employment and price stability—Volcker prioritized price stability, achieving it through a deep recession, raising the question of whether the output cost was justified.
“you know vilker had to apply you know discipline if you will um relentlessly and eventually it worked but it only it only worked by by creating a very deep recession so you can ask you know was it worth it”