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NOTE 29. Capital Formation

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Capital Formation

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From 1869 to 1879, the total number of business establishments barely rose, but the next decade saw a 39.4% increase.

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Nor surprisingly, a decade of falling prices, rising real income, and lucrative interest returns made for tremendous capital investment, ensuring future gains and productivity.

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There was a massive 500% decade-on-decade increase in the purchase of structures and equipment from 1880 to 1890, and this has never since been even closely rivaled.

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It stands in particular contrast to the virtual stagnation witnessed by the 1970s.

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Total private and public capital formation roughly doubled between the 1870s and 1880s.

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It has repeatedly been alleged that the late 19th century, the golden age of the gold standard in the United States, was a period especially harmful to farmers. The facts, however, tell a different story.

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While manufacturing in the 1880s grew more rapidly than in agriculture, the census of 1890, report Friedman and Schwartz, quote, was the first in which the net value added by manufacturing exceeded the value of agricultural output, end quote.

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Farmers had an excellent decade.

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The number of farms increased from approximately 4 million in 1880 to 4.5 million in 1890.

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Farm land increased from 536 billion acres in 1880 to 623 billion acres in 1890.

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Farm productivity increased from 5.1% supplied by a farm worker in 1880 to 5.6% in 1890.

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The value of farm gross output and product increased, in terms of 1910 to 1914 dollars,

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from 4.1 billion dollars in 1880 to 4.99 billion dollars in 1890.

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So farms, farmland, productivity and production all increased in the 1880s, even while commodity

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prices were falling, and farm wage rates, even in nominal terms, rose during this time.

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In 1879 or 1880, the wage per month with room and board was $11.50.

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In 1889 or 1890, the wage per month with room and board was $13.50.

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This phenomenal economic growth during the decade immediately after the return to gold

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convertibility cannot be attributed solely to the gold standard.

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Indeed, all during this time, there was never a completely free market monetary system.

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The National Banking Acts of 1863 to 1864 had semi-cartelized the banking system.

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Only certain banks could issue money, but all other banks had to have accounts at these.

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The financial panics throughout the late 19th century were a result of the arbitrary credit

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creation powers of the banking system.

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While not as harmful as today's inflation mechanism, it was still a storm in an otherwise

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fairly healthy economic climate.

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The fateful decade of the 1890s saw the return of the agitation for free silver, which had

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lain dormant for a decade.

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The Republican Party intensified its long-time flirtation with inflation by passing the Sherman

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Silver Purchase Act of 1890, which roughly doubled the Treasury purchase requirement

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of silver.

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The Treasury was now mandated to buy 4.5 million ounces of silver per month.

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Furthermore, payment was to be made in a new issue of redeemable greenback currency, Treasury

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Inflationary Notes of 1890, which were to be a full legal tender, redeemable in either

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gold or silver at the discretion of the Treasury.

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Not only was this an increased commitment to silver, it was a significant step on the

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road to bimetallism, which, at the depreciated market rates, would mean inflationary silver

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monometallism.

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In the same year, the Republicans passed the High McKinley Tariff Act of 1890, which reaffirmed

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their commitment to high tariffs and soft money.

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Another unsettling inflationary move made in the same year was that the New York sub-treasury

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altered its long-standing practice of settling its clearinghouse balances in gold coin.

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Instead, in August 1890, it began using the old greenbacks and the new treasury notes

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of 1890.

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As a result, these paper currencies largely replaced gold paid in customs receipts in

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New York.

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Uneasiness about the shift from gold to silver and the continuing free silver agitation caused

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It encouraged foreigners to lose further confidence in the US gold standard and to cause a drop

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in capital imports and severe gold outflows from the country.

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This loss of confidence exerted contractionist pressure on the American economy and reduced

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potential economic growth during the early 1890s.

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Fears about the American gold standard were intensified in March 1891, when the Treasury

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suddenly imposed a stiff fee on the export of gold bars taken from its vaults, so that

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The fact that most gold exported from then on was American gold coin rather than bars.

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A shock went through the financial community, in the US and abroad, when the United States

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Senate passed a free silver coinage bill in July 1892.

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The fact that the bill went no further was not enough to restore confidence in the gold

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standard.

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Banks began to insert clauses in loans and mortgages requiring payment in gold coin.

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Clearly the dollar was no longer trusted.

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Gold exports intensified in 1892, the Treasury's gold reserve declined, and a run ensued on

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the U.S. Treasury.

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In February 1893, the Treasury persuaded New York banks, which had drawn down $6 million

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on gold from the Treasury by presenting Treasury notes for redemption, to return the gold and

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reacquire the paper.

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This act of desperation was scarcely calculated to restore confidence in the paper dollar.

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The Treasury was paying the price for specie resumption without bothering to contract the

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paper notes in circulation.

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The gold standard was therefore inherently shaky, resting only on public confidence,

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and that was giving way under the silver agitation and under desperate acts by the Treasury.

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Poor Grover Cleveland, a hard-money Democrat, assumed the presidency in the middle of this

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monetary crisis.

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Two months later, the stock market collapsed, and a month afterward, in June 1893, distrust

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Most of the fractional reserve banks led to massive bank runs and bank failures throughout

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the country.

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Once again, however, many banks, national and state, especially in the west and south,

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were allowed to suspend specie payments.

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The Panic of 1893 was on.

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In a few months, eastern bank suspension occurred, beginning with New York City.

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The total money supply, gold coin, treasury paper, national banknotes and national and

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and State Bank deposits fell by 6.3% in one year from June 1892 to June 1893.

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Suspension of specie payments resulted in deposits, which were no longer immediately

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redeemable in cash, going to a discount in relation to currency during the month of August.

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As a result, deposits became less useful and the public tried its best to intensify its

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exchange of deposits for currency.

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By the end of 1893, the panic was over, as foreign confidence rose with the Cleveland

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administration's successful repeal of the Sherman Silver Purchase Act in November of

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that year.

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Further silver agitation of 1895 endangered the Treasury's gold reserve, but heroic acts

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of the Treasury, including buying gold from a syndicate of bankers headed by J.P. Morgan

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and August Belmont, restored confidence in the continuance of the gold standard.

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The victory of the Free Silver Brianite forces at the 1896 Democratic Convention caused further

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problems for gold, but the victory of the pro-gold Republicans put an end to the problem

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of domestic and foreign confidence in the gold standard.