French Experiments with Paper Money – Part 1
By: Pierre Driessen
This article was sparked by a conversation with a dealer at a recent coin show. As I was admiring the nice mandat he had for sale, the dealer surprised me with his questions. He was wondering exactly what it was, who issued it and how it worked? As we were talking, I was struck by the similarities between the story of this mandat and present day experimentation with paper money by governments all over the world.
The mandat, a form of paper money, was issued by the Revolutionary government of France at the close of the 18th century. It marked the culmination of France’s early experimentation with fi at currencies. It had three phases: 1) the Regency of Louis XV; 2) the first French Revolution and 3) stabilization by the creation of the Bank of France under Napoleon Bonaparte.
The first phase occurred during the Regency period of Louis XV. Following the death of Louis XIV in 1715, France found itself facing political, economic, monetary and fiscal crisis. These crises were a direct result of the grandiose policies of Louis XIV to make France the pre-eminent power in Europe. These policies distorted French fiscal, monetary and economic life. Industries supplying the army and navy were especially favoured. War and colonial adventures at first proved profitable and stimulative. As long as French arms were victorious, all appeared to be well. The string of French victories ended in the early 1680’s and the veneer, which on the surface had made it appear that all was well, began to crack. It became evident that France’s ambitions were outstripping her resources.
Most importantly investment in agriculture, the backbone of the French economy, had not kept pace with the increase in population and the peasantry had been burdened with new and ever increasing taxes. Disease, famine, war and neglect caused the foundation of state finances to be eroded. The combination of ever more expensive wars and falling tax revenues made it increasingly difficult for the French crown to obtain credit, except at very high interest rates.
With measures such as the state lottery of 1700, the recoinage of 1701, the issuance of billets de monnaie (state paper notes) and the largely symbolic melting down of the royal silverware in 1709, the old king was able to keep the ship of state afloat. These efforts proved temporary and the situation continued to deteriorate. It was this dire state of affairs which the Regent Philippe II, duc d’Orléans, nephew of Louis XIV, faced in 1715 when the five year old Louis XV succeeded his great-grandfather.
An intelligent, hardworking and conservative man, Orléans at first tried to deal with the fiscal crisis by traditional means. He cut government expenditures and expenses, adopted a pacifist foreign policy, streamlined the bureaucracy and put in place audit procedures, reduced the size and budget of the army and navy, cultivated relationships with new financiers and tried to cut waste and maximize tax flows. Despite these measures, the fiscal problems were proving too overwhelming for traditional fixes. As the fiscal crisis deepened and the economy weakened further, the hoarding of coin intensified, leading to a monetary crisis, causing the economy to stagnate for lack of currency. This confluence of these crises necessitated new and more radical ideas. Enter John Law.
Portrait of John Law, oil on canvas, painted 1843,
John Law (1671 – 1729), born in Edinburgh Scotland, had become acquainted with Orléans in the 1690’s.Law had attended the University of Edinburgh and later studied banking in Amsterdam. The timing of Law’s arrival in France not only coincided with the myriad of crises faced by the government, but also with fiscal and monetary reforms taking place in other countries. The Bank of England had been established in 1694, and reforms and innovations had been successfully implemented in the United Provinces, Genoa and Turin. The Scot appeared to be intimately familiar with these, giving him and his schemes an aura of legitimacy. Due to the desperate circumstances, Orléans, despite his conservative nature, gradually became receptive to Law’s advice and schemes. With royal patronage Law’s rise was meteoric.
The bankruptcy of France was Law’s initial suggestion. Orlean’s rejected this. The risks were judged too great. Subsequently Law developed what came to be know as “Law’s System”. This system, based upon Law’s overestimation of the control of absolutist governments such as France’s could exert over their economies, would create a monopoly of finance and trade and use the profits generated to pay-off crown debts.
The first part of “the System” was the creation, in 1716 by royal decree, of the Banque Générale. This private bank was permitted to accept deposits, discount bills, exchange foreign currency and issue bank notes. Government debt made up 75% of its capital. The bank would create and expand credit by printing large amounts of paper money. Acceptance of these bank notes was promoted by government officials using them in transactions and their acceptance for tax payments. In December 1718 Law’s bank became the Banque Royale, the state bank, with the crown as guarantor of its notes. Law believed that money was the reason for wealth. According to him: “Money is not the value for which goods are exchanged, …but the value by which they are exchanged.” Thus a state would prosper merely by issuing more paper currency.5 The state could also decree its value and acceptance. In 1719 the bank was awarded the monopoly of coinage and printing money, and control of the collection of direct and indirect taxes.
In 1719 a decree declared Banque Royale notes not subject to devaluation, this appeared to make them more valuable than coinage. Law began to devalue gold and silver against Banque Royale notes in official transactions. This combined with the state’s backing drove up demand for notes.
The founding of the Compagnie de la Louisiane ou d’Occident in 1717 was the second part of “the System”. It controlled large tracts of land in, and held the exclusive trade rights for 25 years, for France’s territories in North America. After taking over rival trading companies, it was renamed the Compagnie des Indes and by late 1719 controlled almost all of France’s maritime and colonial trade. Law promoted the colonies, especially the Mississippi territories, as lands of milk and honey. Reality was very different.
A Banque Générale banknote, issued in 1718, signed by John Law.
For a while domestically France experienced a boom; all hinged upon the economic viability of the Compagnie. The ever increasing volume of paper money in circulation was “backed” by the profits and supposed value being created by the Compagnie. To raise capital, large numbers of Compagnie shares were issued. The money raised was used to purchase new government debt. On paper, investors made massive fortunes, with Compagnie shares trading at up to 40 times their face value.
All classes participated in the speculation. It was said that a beggar had made 70 million livres trading Compagnie shares. One contemporary commentator stated: “servants are waited on today by their comrades and tomorrow by their masters”. All this required more paper money. At its height, Law had twelve presses printing money – day and night. Excess liquidity led to hyperinflation. Wages and prices soared. – Does this sound at all familiar to you?
In January 1720, Law became Controller-General of the Finances of France. February 1720, Banque Royale and Compangnie des Indes merged. The state monopolies of fi nance and trade were now united.
“Law’s System” threatened to undercut traditional societal divisions and the norms which defined wealth. It favored moveable wealth over real property – the ancient source of power, wealth, position and prestige of the elite.
Law’s success displaced the crown’s traditional financiers, making them enemies. They joined forces with the government’s political and aristocratic opponents, whom were vying for position with the Regent’s party and threatened by the social and economic forces unleashed by “Law’s System”. They began to exploit the flaws in Law’s economic philosophy and policies.
In early 1720 they started to redeem Banque Royale notes for bullion. Law’s previous devaluations of gold and silver now backfired. He responded by devaluing both bank notes and Compagnie shares. This created panic and angered the public. The outcry was so great that the Regent rescinded the devaluation edict less than a week after it was issued. It was too late. Public confidence and the government’s credibility had been shattered. People began exchanging bank notes for anything tangible. By mid-July 1720 the Banque Royale was bankrupt for lack of bullion reserves. By May 1721 the government demonetized all bank notes and current account balances had their face values reduced by 75%. At the same time, the lies about the profitability of the Compagnie were exposed. Share prices plummeted 97% and the Compagnie collapsed.
The government, as guarantor, annulled 1/3 of the value of the Compagnie’s bonds and converted the rest to state bonds paying 2%. It is estimated that more than 10% of the French population was directly affected. The loses struck every part of the country and all levels of society. Particularly hard hit were the middle and lower-middle classes, religious institutions, hospitals and poor-houses. The effects were not contained within France’s borders, as the resultant crisis was Europe-wide.
Not all suffered. The high nobility, due to its privileged position and inside information, was financially in a much better position. It had paid off many debts and ‘cashed-out’ before the bottom fell out. The duc de Bourbon alone made 20 million livres by converting his bank notes to bullion before the collapse. Peasant proprietors also bene fitted somewhat, having received some relief from their debt burden, due to increased agricultural commodity prices. The government on the other hand was worse-off. The royal debt in 1722 was three times that of 1715.
John Law fled France in disgrace and died in 1729 in Venice, forgotten and a pauper. In part 2 we will see how the French experimented a second time with paper money. Was it any better? Stay tuned.
Previously published in the ENS “The Planchet” Magazine Vol-56 Issue-04