Funding Act of 1790
Encyclopedia
The United States Funding Act of 1790 was passed on the 4th of August, as part of the Compromise of 1790
, to address the issue of funding domestic debt. It resulted in the acquisition of state debts by the federal government through the issuance of securities.
, the settlement of the Revolutionary War debt was a matter of prime importance. As a result, the first House of Representatives directed the first secretary of the treasury
, Alexander Hamilton
, during the presidential administration of George Washington
, to propose a plan for the support of public credit. Consequently, the First Report of the Public Credit was issued on the 9th of January 1790, which became the foundation for subsequent action taken by the Congress for funding and paying the public debt. The Funding Act of 1790 that followed was concerned primarily with funding the domestic debt held by the states.
The terms of the loan were that two-thirds of the principal of the debt subscribed should draw an interest of 6% per annum, from the 1st of January 1791, and the remaining one-third of the principal to receive interest at the same rate (6%) from 1801, with interest “payable quarter yearly”. The debt consisting of arrears of interest should bear an interest of 3% from the 1st of January 1791.
By this act, Congress assumed a total of $21.5 million of state debts with a quota apportioning the sums assumed to each State such that:
It is worthwhile to note that not all the quotas were filled, so the total assumed was only $18.3 million. Furthermore, although this Act was limited to one year, it was later extended till the entire debt would be subscribed and funded according to the law.
This sum was also to be loaned to the United States with the terms such that each subscriber was to be entitled to a certificate equivalent of four-ninths of the sum subscribed, bearing interest at 6% per annum, another certificate equal to three ninths of the sum subscribed bearing interest at 3% with both commencing 1 January 1792, and a third certificate of the remaining two-ninths of the sum bearing 6% interest starting from the year 1800.
The Funding Act also provided for the funding of securities issued by the Confederation into new federal issues. State governments had acquired nearly $9 million of the $27.5 million of Confederation debt outstanding in I789. The law provided that for every $90 worth of principal turned in, there should be issued $60 worth of 6 per cent stock and $30 of deferred that would bear interest after 1801. Arrears of interest were funded into 3 per cent stock.
Finally, the funding program resulted in the settlement of accounts between the states and the national government completed in 1793. This was intended to equalize the per capita burden of war expenditures among the states. Each state was credited with the amount it spent during the War and debited for sums received from the national government.
Moreover, at the time, the Act was criticized for widening the influence of the federal government at the expense of the states. However, it is now believed that as a result of the erosion of debts, the states were in a better position to focus on economic growth and development, whereas the Federal government was left with trying to finance the large debt it had acquired.
The most controversial aspect of the Funding Act was the large benefits allegedly reaped by speculators – especially by the assumption of state debts. Many states’ securities sold in the open market for 10 percent of their face value or less at the time the Funding Act was being debate. This furnished considerable scope for speculative gains. However, taking into account the low security prices prior to 1790 owing to the general economic depression, monetary stringency of the times and the use of paper money by the states for debt service, the rise in security values was inevitable after 1790, once the causes of depreciation were ameliorated.
Some academics argue that the long-term effects of Hamilton’s program on the states may have proved to be detrimental. This idea is premised on the economic concept of “moral hazard
”, with the argument being that states were relieved of the responsibility of debt, began to excessively rely on federal assistance and funding through assets rather than taxation and became extravagant in incurring debt in the years to come. Hence, this “bailout” for the states set a bad precedent and may have proved disadvantageous to the economic progress of the states.
Compromise of 1790
The Compromise of 1790 was the first of three great political compromises made in the United States by the Northern and Southern states, occurring every thirty years, in an attempt to keep the Union together and prevent civil war...
, to address the issue of funding domestic debt. It resulted in the acquisition of state debts by the federal government through the issuance of securities.
Historical Context
With the formation of the new government in 1789 and under the recently adopted US ConstitutionUnited States Constitution
The Constitution of the United States is the supreme law of the United States of America. It is the framework for the organization of the United States government and for the relationship of the federal government with the states, citizens, and all people within the United States.The first three...
, the settlement of the Revolutionary War debt was a matter of prime importance. As a result, the first House of Representatives directed the first secretary of the treasury
United States Secretary of the Treasury
The Secretary of the Treasury of the United States is the head of the United States Department of the Treasury, which is concerned with financial and monetary matters, and, until 2003, also with some issues of national security and defense. This position in the Federal Government of the United...
, Alexander Hamilton
Alexander Hamilton
Alexander Hamilton was a Founding Father, soldier, economist, political philosopher, one of America's first constitutional lawyers and the first United States Secretary of the Treasury...
, during the presidential administration of George Washington
George Washington
George Washington was the dominant military and political leader of the new United States of America from 1775 to 1799. He led the American victory over Great Britain in the American Revolutionary War as commander-in-chief of the Continental Army from 1775 to 1783, and presided over the writing of...
, to propose a plan for the support of public credit. Consequently, the First Report of the Public Credit was issued on the 9th of January 1790, which became the foundation for subsequent action taken by the Congress for funding and paying the public debt. The Funding Act of 1790 that followed was concerned primarily with funding the domestic debt held by the states.
Content
The Funding Act authorized the federal government to receive certificates of state war-incurred debts and to issue federal securities in exchange. It essentially proposed “a loan to the full amount of the said domestic debt.”The terms of the loan were that two-thirds of the principal of the debt subscribed should draw an interest of 6% per annum, from the 1st of January 1791, and the remaining one-third of the principal to receive interest at the same rate (6%) from 1801, with interest “payable quarter yearly”. The debt consisting of arrears of interest should bear an interest of 3% from the 1st of January 1791.
By this act, Congress assumed a total of $21.5 million of state debts with a quota apportioning the sums assumed to each State such that:
It is worthwhile to note that not all the quotas were filled, so the total assumed was only $18.3 million. Furthermore, although this Act was limited to one year, it was later extended till the entire debt would be subscribed and funded according to the law.
This sum was also to be loaned to the United States with the terms such that each subscriber was to be entitled to a certificate equivalent of four-ninths of the sum subscribed, bearing interest at 6% per annum, another certificate equal to three ninths of the sum subscribed bearing interest at 3% with both commencing 1 January 1792, and a third certificate of the remaining two-ninths of the sum bearing 6% interest starting from the year 1800.
The Funding Act also provided for the funding of securities issued by the Confederation into new federal issues. State governments had acquired nearly $9 million of the $27.5 million of Confederation debt outstanding in I789. The law provided that for every $90 worth of principal turned in, there should be issued $60 worth of 6 per cent stock and $30 of deferred that would bear interest after 1801. Arrears of interest were funded into 3 per cent stock.
Finally, the funding program resulted in the settlement of accounts between the states and the national government completed in 1793. This was intended to equalize the per capita burden of war expenditures among the states. Each state was credited with the amount it spent during the War and debited for sums received from the national government.
Effects
The shedding of the debt burden allowed the states to reduce taxes, resulting in the lowering of internal taxes in many states including Maryland, Pennsylvania, New York, Virginia and Massachusetts. However, this was associated with a subsequent imposition of federal tax, therefore effectively leaving the status quo unchanged. However, the Funding Act left the states with substantial revenue earned through the federal securities, with income from this source making up nearly one-fifth of total state revenue. This income enabled states to directly invest in industry and promote economic enterprises.Criticism
One of the primary criticisms is that the passage of acts to raise federal revenue and to refund the debt raised the market value of the debt; the value of debt principal by five and one-half times and the value of interest arrears by three times.Moreover, at the time, the Act was criticized for widening the influence of the federal government at the expense of the states. However, it is now believed that as a result of the erosion of debts, the states were in a better position to focus on economic growth and development, whereas the Federal government was left with trying to finance the large debt it had acquired.
The most controversial aspect of the Funding Act was the large benefits allegedly reaped by speculators – especially by the assumption of state debts. Many states’ securities sold in the open market for 10 percent of their face value or less at the time the Funding Act was being debate. This furnished considerable scope for speculative gains. However, taking into account the low security prices prior to 1790 owing to the general economic depression, monetary stringency of the times and the use of paper money by the states for debt service, the rise in security values was inevitable after 1790, once the causes of depreciation were ameliorated.
Some academics argue that the long-term effects of Hamilton’s program on the states may have proved to be detrimental. This idea is premised on the economic concept of “moral hazard
Moral hazard
In economic theory, moral hazard refers to a situation in which a party makes a decision about how much risk to take, while another party bears the costs if things go badly, and the party insulated from risk behaves differently from how it would if it were fully exposed to the risk.Moral hazard...
”, with the argument being that states were relieved of the responsibility of debt, began to excessively rely on federal assistance and funding through assets rather than taxation and became extravagant in incurring debt in the years to come. Hence, this “bailout” for the states set a bad precedent and may have proved disadvantageous to the economic progress of the states.