National Bank Act

• 1. Introduction

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  The National Bank Act of 1863 passed the United States Senate on the 25th of February by a margin of just 23 to 21. Two votes separated the old American banking system from the new one. Before the act, the country had no single reliable currency that held its value from state to state. A banknote issued in Michigan might circulate at a steep discount the moment it reached Ohio. The act that barely made it through the Senate chamber would reshape how American banks were chartered and how the country's money was managed. How did a country that had lived without a national currency finally reach that breaking point? And how did a law born in wartime come to shape the banking disputes of the twenty-first century?

• 2. A Fractured Financial Landscape

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  When the Second Bank of the United States ended in 1836, banking authority fell almost entirely to individual states. The results varied widely depending on where a person lived. Wisconsin banned banking outright. Indiana and Illinois each maintained only a single state-chartered institution. Ohio limited how many charters it would issue. New York threw the door open to virtually any qualified applicant, an approach known as "free banking." That model proved popular enough that several other states adopted similar rules.

  Well-publicized frauds in states like Michigan arose from free-entry regimes that did not require banks to redeem their notes for gold or silver. The phrase "wildcat banking" entered common use to describe institutions that issued notes with little ability to stand behind them. The perception of a dangerous, fragmented system fed growing support for a national alternative.

  Washington had its own reasons for wanting change. The federal government's taxation capabilities were limited, and a national currency would have allowed it to capture the financial benefits of controlling money creation. In 1846, the Polk Administration moved public funds from private banks into Treasury branches, partly to fund the Mexican-American War. The revenue that arrangement generated proved limited without a national currency to anchor it.

• 3. War Changes the Calculus

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  Congress approved the Legal Tender Act of 1862 in the early days of the Civil War, authorizing $150 million in paper notes to help pay for the conflict. These became known as "greenbacks," a name that came from the green ink printed on one side. Many thought the government's promise to redeem them was worth about as much as that green ink. Their value rested entirely on public confidence in the federal government and on the expectation that the government would eventually exchange them for coin.

  Without a central bank, Lincoln's administration could not draw on the financial tools available to countries like Britain. The Second Legal Tender Act was enacted on the 11th of July, 1862. The Third Legal Tender Act followed on the 3rd of March, 1863. Together, the two supplemental acts pushed the authorized total to $450 million. The largest sum of greenbacks actually in circulation at any one moment came to $447,300,203.10.

  Until the war, the potential damage to state banks had always been enough to prevent national bank chartering from gaining real traction. Lincoln used the war crisis to push past that political barrier. Congress reached for a more permanent fix by the winter of 1862-63.

• 4. What the Acts Built

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  The 1863 National Currency Act established the Office of the Comptroller of the Currency as a new agency within the Treasury Department. The act, later renamed the National Bank Act, introduced a bank charter issued by the federal government rather than by state legislatures. State legislatures had previously held that chartering authority exclusively.

  Before 1863, state legislatures had typically issued bank charters on a case-by-case basis. They weighed whether a community needed a new bank and whether the applicant was of good moral character. By the 1860s, more than half of all states had simplified that process through free banking laws. These laws granted charters to anyone who met the paperwork requirements. The 1864 companion act, based on a New York State law, brought active federal supervision into commercial banking for the first time.

  No less than one-third of each national bank's capital had to take the form of U.S. government bonds, deposited with the Comptroller. The volume of bank notes a national bank could issue was proportional to its deposited capital. An accompanying tax on notes issued by state and local banks was designed to push non-federal currency out of the market.

  The First National Bank of Philadelphia, Pennsylvania, holds Charter Number 1, the first national charter granted under the new system. The first entirely new national bank to open for business was the First National Bank of Davenport, Iowa, Charter Number 15. More than 1,500 existing state banks converted themselves to national status. By 1865, most of those that had not converted had collapsed.

• 5. McCulloch's Currency Bureau

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  Hugh McCulloch did not support the National Banking Act when it was passed. He came around to it slowly. But once charged with organizing the Currency Bureau, he became one of its most committed administrators. His involvement reached into nearly every corner of the operation.

  McCulloch personally evaluated applications for bank charters. He also spent time with prospective bankers navigating the new requirements, consoling those who found the process difficult. He was closely involved with the physical currency as well. He assisted in the design of the new national bank notes and arranged for their engraving, printing, and distribution. Part of his plan for the Bureau included hiring an entirely new staff.

  Many banks were unwilling to conform to McCulloch's standards. Their resistance created friction that outlasted the initial rollout. Congress responded with additional tax measures. As one contemporary description put it, its aim was to ensure that national banks would triumph and the state banks would fade away.

• 6. The Tax and the Courts

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  Further acts passed in 1865 and 1866 imposed a ten-percent tax on any payment a bank made in currency notes other than national bank notes. An act passed on the 3rd of March, 1865, set this tax to take effect on the 1st of July, 1866. The rate was deliberately set high. The goal was not revenue. It was to make state and private bank notes impossible to circulate profitably.

  A Maine bank brought a constitutional challenge. The case, Veazie Bank v. Fenno, named the state-chartered institution against the collector of internal revenue. The Supreme Court ruled seven to two in favor of the federal government. Congress's authority to tax state bank notes out of existence was settled.

  From 1,466 in 1863, the count of state banks fell to just 247 in 1868. National banks grew across the same period, rising from 66 immediately after the original act. The 1865 act also resulted in the creation of demand deposit accounts.

  Local bankers noticed that state charters required only $10,000 in capital, compared to $50,000 to $200,000 for a national charter. State banks reopened in large numbers. By 1913, the 15,526 state banks outnumbered the 7,473 national banks, with checks rather than bank notes now driving most of the system's growth.

• 7. A Dual System Endures

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  The National Banking Acts produced the federal-state dual structure that remains a defining feature of American banking. Federal and state charters coexist in the same market, each governed by its own regulatory authority. The Office of the Comptroller of the Currency was created in 1863 and continues to supervise national banks. Under the Gramm-Leach-Bliley Act of 1999, it also oversees certain activities of bank subsidiaries.

  The 1863 act proved to have long reach. In 2004, John D. Hawke, Jr. was serving as Comptroller of the Currency. He invoked the National Bank Act to bar state attorneys general from oversight and regulatory roles over national banks. Many blame the resulting gap in oversight for the late-2000s recession, the U.S. financial system bailout, and the subprime mortgage crisis.

  When the Federal Reserve Act passed in 1913, it built directly on the framework the National Banking Acts had laid. The debate about who governs American banks has continued in the same structure ever since.