In this lesson I learned about public debt. There are really only three ways to fund civil government. Through taxes, visible or invisible, borrowing from the public, or monetary inflation.
First let’s look at Great Britain’s example, which was the greatest example at the time Hamilton was in office. Great Britain had no open defaults, though there may have been some secret defaults, the British government never said they wouldn’t pay back loans. Britain had a ready market for debt, people had great confidence that they would get a good return, and with low interest rates, there was very little risk associated with lending. Finally Britain had stable wartime finances, giving them the ability to outlast all their opponents economically with only one exception, America.
So what was America’s experience with public debt? Under the Articles of Confederation, no taxation by the national government was allowed, because of this even though it could borrow money there was real question surrounding whether or not it could pay it back. There was massive wartime debt by all governments, federal and state, and the response to it was massive monetary inflation by all governments. The federal issued currency, the Continentals, were inflated so much they were practically worthless, but different states had varying degrees of success with their currencies.
By 1790, the time Hamilton made it into office, there were $75 million dollars in debt, including state debt. This was all held by speculators, some who had bailed the government out in time of war, hoping to get something back later, and others who had bought government IOUs dirt cheap from people who had run out of money. One big difference now was the national government had the power to tax in the form of tariffs. Meanwhile the state governments always had the power to tax.
Hamilton’s response to this was to set forth the mercantilist views of commerce and prosperity that had been refuted by Adam Smith in 1776. That we should have perpetual public debt rather than paying it off, because this would increase trade, promote agriculture and manufacturers, lower interest rates and increase the value of developed land. Of course he had no way of proving it, he just said it. He spoke for the speculators, arguing that nothing should be paid to the original owners of government bonds, and that it was their fault for selling them. It was supposedly the fault of the original owners of government bonds that the government not only didn’t pay them back but devalued their bonds. Alexander Hamilton said perpetual government debt was the price of liberty. What it was, was the price of a revolution, a revolution that had been entirely undermined by a government, albeit an American government, that was far bigger than Parliament could imagine.
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