The Continental Dollar: How the American Revolution Was Financed with Paper Money

BOOK REVIEW: The Continental Dollar: How the American Revolution Was Financed with Paper Money by Farley Grubb (Chicago: University of Chicago Press, 2023)

Economists and historians have been telling us the wrong story about Continental currency for two centuries. Continental money did not lose its value because Congress printed too much of it. In fact, there was less of it in circulation when its value plummeted than there had been before. Most surprising of all, Continental dollars weren’t technically “money” at all. They were bonds, and they worked just fine until Congress blew it in 1779.

Farley Grubb, an economics professor at the University of Delaware, used the pandemic to complete his quest to set the record straight on Continental currency. “For 230 years,” he writes, “traditional historiography has told us that the Continental dollar was a fiat currency — an unbacked paper money.” We have been told, “Congress printed and spent an excessive number of these paper dollars from 1775 through 1780,” driving their value almost to nothing and producing the phrase, “Not worth a Continental.” The old story is appealing in its simplicity, he concedes, but also requires us to believe the Founding Fathers were “either crazy, deceptive, ignorant, evil, or stupid.” Moreover, the old story falls apart under close examination (page 6-7).

Grubb’s book, The Continental Dollar: How the American Revolution Was Financed with Paper Money, is an interesting and valuable contribution to our understanding the Revolutionary War. It is an academic work that includes mathematical formulas that will make many readers’ eyes glaze over, but the vast majority of it is easily understood. It should be required reading for any author tempted to repeat the timeworn accusation that the states and Congress refused to give the Continental Army the support it needed. At least when it came to financing, Congress bled itself dry and pushed the states beyond the limit of what they could possibly do.

There were no banks in colonial America, primarily because of British restrictions on chartering corporations. Since there were no banks, there were no banknotes either. Paper currency did not represent claims on deposits. In Virginia, this reviewer happens to know, paper currency was backed by the value of tobacco in warehouses. Real money (specie) was made of precious metal, and hard to come by in the colonies. Consequently, most commerce was based on barter or credit.

When the Revolution began, Massachusetts issued interest-bearing bonds and asked the Second Continental Congress to recognize them as currency. New York objected to provincial currency reciprocity and urged Congress to establish its own currency instead. Debates were secret, but the actions of Congress and the diary of delegate Richard Smith of New Jersey provide a general understanding of the original plan. Congress (perhaps under Smiths’ influence) created a system that closely mirrored New Jersey’s approach during the French and Indian War.

In May 1775, Congress printed its first $3 million in paper Continental dollars. They were not like modern money nor were they intended to circulate as currency. They were very similar to what are now called “zero-coupon bonds” — bonds that pay no interest, but trade at a discount below their value at maturity. At the time, they were called “bills of credit.” Indeed, like a modern bond, they had maturity or “redemption” dates at which time they could be turned in for their face value in specie or specie equivalents. The colonies were responsible for using their own future tax revenue to redeem the bills, after which the collected paper was sent to the Continental Treasury to be burned. The system recognized that the colonies and Congress had little ability to raise actual money in wartime. Like all bonds, the dollars represented loans that would be paid back later. The first dollars would be redeemed in four annual tranches between 1779 and 1782, after the war was expected to be over and trade resumed. A sophisticated system of rebalancing ensured that an uneven distribution of bills after four years of circulation did not result in an uneven burden on the thirteen new states.

The system worked well and a second emission of dollars was made later in 1775, with the new notes maturing from 1783 to 1786, the four years following the first redemption period. Because their value was fixed to Spanish silver dollars, the paper notes did not depreciate. However, two other factors affected their value: time-discounting and the market’s faith that the bills would actually be redeemed. Time discounting simply reflected the fact that the “bonds” had not yet reached maturity. Their denominations represented future, not current, value. Professor Grubb tells us the 1775 emissions held 72 and 57 percent of their face values in the fall of that year. “Starting in November 1775 these values rose continuously, reaching face value by the last year of their respective redemption windows, 1782 and 1786.” (p. 115)

Initially, the primary use of the currency was to pay Continental soldiers. There was no need for a legal tender law. Soldiers had no choice but to accept them. Because they were really bonds and in much higher denominations than state currencies, soldiers were expected to save them rather than spend them. (One Spanish dollar was equivalent to more than $30 in modern U.S. currency.) Unlike modern paper dollars, which come in one-, two-, five-, ten-, twenty-, fifty-, and one hundred-dollar bills, Continental dollars were issued as two-, three-, four-, five-, six-, seven-, and eight-dollar bills. No other currency has ever had such an odd denominational spacing. The priority was evidently to pay soldiers with the fewest bills possible, not the convenience of vendors making change.

The system began to go awry with the third emission of bills. This time Congress failed to specifically set a redemption period. Congress and one of its committees each assumed the other was doing that job, and this important detail fell between the cracks (p. 118). People still had faith in the system, however, and the third redemption period was simply assumed to be 1787 to 1790, the four years following the second one. Though it was still working, Congress fell into a pattern of rote issuance of currency while losing institutional memory and understanding of its own system. Richard Smith, for one, had gone home to New Jersey. No specific redemption period was set for eight consecutive emissions of dollars and at the end of that time, assuming the original system was still in effect, the final run of dollars could not be redeemed for specie until 1818. The result of this was a very deep time discount. The dollars issued in 1778 were only worth a tenth of their face value in the year they were issued.

This created a serious problem for Congress in financing the war. Congress was now using far more of its dollars to buy supplies on the market than to pay soldiers and the buying power of the newer bills was weak. Congress responded with an ill-conceived plan in 1779 that sent the dollar into a downward spiral. The redemption periods for all dollars were merged and made fungible. Congress announced that there would only be one final emission of dollars and the new redemption window for all outstanding dollars would be contracted and end in 1797. This was expected to reduce the time discount and increase the dollar’s value. It was also intended to reduce Congress’s reliance on debt. The plan, however, would have required the states to raise taxes “eighty times higher than what had historically been feasible.”(p. 168) Nobody believed that would happen and faith in the dollar collapsed. In trying to fix the time value problem, Congress destroyed faith in the currency altogether. The dollar’s value dropped almost to zero, actually depreciating for the first time (time discounting is not depreciation.)

In 1780, a desperate Congress implemented a plan to immediately squeeze the minimal remaining value out of all dollars in the system. The cost was the final collapse of the Continental dollar, which ceased to play any role in government financing until the first Constitutional Congress itemized the outstanding redemption value as a debt to be liquidated in 1790.

It is a bit stunning to learn that a consistent but false narrative about Continental currency has been repeated by generations of historians for more than two centuries, but Professor Grubb leaves no room for any other conclusion. Early in his book, he explains how this was possible by looking at quotes from Pelatiah Webster, Benjamin Franklin, and Alexander Hamilton that have been cited for many decades. Superficially, the statements made by these men support the traditional narrative. Examined in detail and taken in context, however, they tell very different stories.

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