The Druid Deep Dive episode 1: “When anyone could print money”
The Free Banking Era’s Revolutionary Experiment in Permissionless Finance (1837–1863)
The Free Banking Era’s Revolutionary Experiment in Permissionless Finance (1837–1863)
Historical setting: America’s monetary revolution
The year 1837 marked the beginning of America’s most radical financial experiment. President Andrew Jackson’s successful campaign against the Second Bank of the United States had left the nation without federal banking authority for the first time since Alexander Hamilton’s original financial system [1]. The expiration of the Second Bank’s charter in 1836 created an unprecedented vacuum in American monetary policy, forcing individual states to design their own banking regulations [2].
This timing proved catastrophic for traditional narratives. The Panic of 1837 struck just as the free banking experiment began, creating immediate stress tests for decentralized financial systems [3]. Economic historians would later use this crisis to argue that decentralized banking was inherently unstable, but modern Federal Reserve research reveals a more complex story [4].
Eighteen of thirty-two states would ultimately adopt free banking legislation, creating a patchwork of regional monetary systems with dramatically different outcomes [5]. The variation in state approaches provides crucial insights into how institutional design, rather than centralization philosophy, determines financial system stability [6].
The broader economic context amplified these challenges. America was transitioning from an agricultural to industrial economy, westward expansion created new commercial needs, and international capital flows remained volatile following the Napoleonic Wars [7]. Into this complexity, states introduced the revolutionary principle of “free entry” banking — allowing anyone meeting minimum requirements to issue currency without legislative approval [8].
Key players: The architects of permissionless finance
Andrew Jackson emerged as the unlikely father of decentralized banking. His populist hatred of the Second Bank stemmed from genuine philosophical conviction that concentrated financial power corrupted democratic institutions [9]. Jackson’s famous declaration that the Bank was “a hydra of corruption” reflected widespread suspicion of Eastern financial elites controlling Western economic development [10].
New York Banking Commissioners proved that decentralized systems could work with proper design. Their 1838 Free Banking Act required government bond collateral for note issuance, regular examination procedures, and maintained capital minimums ranging from $10,000 to $200,000 depending on location [11]. This model became the template copied by other states, demonstrating how smart regulatory frameworks could enable market-based banking without chaos [12].
State Auditors and Examiners across various states developed the first systematic approaches to financial institution monitoring. Unlike the political appointees often running chartered banks, these professional regulators created examination protocols and reporting standards that would influence American banking supervision for generations [13].
Ordinary Americans became sophisticated financial risk assessors by necessity. Citizens learned to evaluate paper money quality, track legislative changes affecting currency values, and develop collective knowledge about reliable versus questionable banking institutions [14]. By the Civil War’s outbreak, Americans routinely analyzed financial instruments with complexity that would impress modern DeFi users [15].
System mechanics: How permissionless banking actually worked
The free banking revolution operated on one transformative principle: market-based entry replaced political allocation of banking privileges [16]. Any group meeting state requirements could establish a bank and issue currency without individual legislative charters — the first “permissionless” financial system in American history.
The operational framework varied significantly by state but generally followed common patterns. Banks deposited approved securities with state authorities to back banknote issuance, with circulation typically limited to 90% of deposited bond value [17]. This collateral requirement created the crucial link between currency quality and underlying asset value that would determine regional success or failure [18].
Reserve requirements mandated gold and silver holdings for note redemption, while most states restricted banks to single office locations to prevent excessive concentration [19]. Banks faced regular examination by state auditors, though enforcement quality varied dramatically across jurisdictions [20].
The currency diversity created remarkable complexity. Over 10,000 unique legal bank notes circulated by 1863, with significant counterfeiting problems adding additional layers of risk assessment [21]. Note values decreased with distance from issuing banks, leading to sophisticated “note broker” markets that published discount rates reflecting default risk, travel costs, and local market conditions [22].
Information systems evolved to support this monetary complexity. “Banknote reporters” published regular updates on bank health and acceptance rates, while telegraph networks gradually improved information flow between regions [23]. Americans developed remarkable skills in real-time financial risk assessment that modern cryptocurrency users would recognize [24].
Modern parallel: DeFi’s permissionless token revolution
The structural parallels between 1837’s free banking and today’s DeFi ecosystem are striking and instructive for modern investors.
- Permissionless Entry Mechanisms: Just as anyone with sufficient capital could start a bank under free banking laws, anyone with technical knowledge can launch tokens or DeFi protocols today. Both systems prioritize market access over regulatory gatekeeping, though both require meeting certain baseline standards [25].
- Multiple Currency Proliferation: The 10,000+ bank notes of 1863 mirror today’s thousands of tokens, each with different backing mechanisms, adoption levels, and risk profiles. Users in both eras must develop sophisticated evaluation skills to distinguish quality from speculation [26].
- Distance-Based Value Discounting: Nineteenth-century notes lost value with geographic distance from issuing banks due to redemption costs and information asymmetries. Today’s tokens face similar “liquidity distance” — trading at discounts on smaller exchanges or different blockchains due to bridging costs and counterparty risk [27].
- Reputation-Based Information Systems: “Banknote reporters” tracking bank health evolved into modern equivalents like DeFiPulse, CoinGecko, and on-chain analytics platforms. Both systems rely on community-generated information to assess protocol risk and token quality [28].
- Market-Based Risk Pricing: Free banking note brokers published sophisticated discount rates reflecting institutional risk, just as modern DeFi users assess yield spreads, total value locked (TVL), and protocol audit histories to price risk across different platforms [29].
- Clearing and Settlement Innovation: Private coordination systems like the Suffolk Bank’s clearing network mirror how DEX aggregators and cross-chain bridges create interoperability without central authority, using market incentives rather than regulatory mandates [30].
Portfolio lessons: What 1837 teaches modern DeFi investors
- Institutional Quality Trumps Ideology: The most crucial lesson from free banking is that regulatory design quality matters more than centralization philosophy. New York’s strict government bond requirements achieved 99% note value retention, while Michigan’s loose mortgage backing led to 30–60% losses [31]. Modern application: evaluate DeFi protocols based on mechanism quality, not decentralization marketing.
- Information Advantage Creates Alpha: Those with superior information about bank health profited enormously during the free banking era. Modern equivalent: deep protocol research, on-chain analysis, and understanding of technical mechanisms provide similar advantages in DeFi markets. Successful free banking investors spent significant time studying bank examination reports and collateral quality [32].
- Geographic Diversification Reduces Systemic Risk: Free banking taught Americans to avoid over-concentration in any single institution or region. Modern translation: distribute funds across protocols with different teams, oracle systems, and underlying blockchain infrastructure [33]. The correlation between regional economic shocks and bank failures during 1837–1863 directly parallels how DeFi protocols on the same blockchain face similar systemic risks.
- Liquidity access suring crisis matters: Banks maintaining strong specie reserves survived multiple panics, while those depending entirely on bond collateral faced redemption crises during market stress [34]. DeFi application: maintain meaningful cash positions and understand your exit strategies before deploying capital into experimental protocols.
- Network effects create defensive moats: The Suffolk Banking System’s voluntary coordination created stability advantages that individual banks could not achieve alone [35]. Modern lesson: protocols with strong cross-protocol integrations and community governance mechanisms tend toward greater long-term sustainability than isolated platforms.
- Regulatory Arbitrage Has Limits: While free banking allowed regulatory competition between states, the systems with highest standards ultimately attracted the most capital and achieved the greatest stability [36]. Contemporary relevance: jurisdiction shopping in DeFi may provide short-term advantages, but platforms with strongest compliance frameworks likely achieve superior long-term outcomes.
The deeper pattern: market mechanisms in monetary systems
The Free Banking Era demonstrates that well-designed decentralized systems can outperform centralized alternatives when proper institutional frameworks exist. The success wasn’t in the absence of rules, but in the quality of market-based rule enforcement [37].
This insight transforms how modern investors should evaluate DeFi protocols. Instead of asking “Is it decentralized?” the more relevant questions become: “Are the incentive structures sound? Are there effective monitoring mechanisms? What happens during stress scenarios? How does the system handle coordination problems?”
The free banking experience proves that permissionless systems require sophisticated users who understand risk assessment and institutional analysis. The Americans who thrived during 1837–1863 were those who developed expertise in evaluating financial institutions, not those who simply trusted any available currency [38].
Next Episode Preview: Episode 2 explores how “wildcat banking” became the perfect scapegoat for systemic failures that actually resulted from external economic shocks — and why this pattern of misattribution appears repeatedly in modern DeFi protocol failures.
Sources and References
[1] Federal Reserve History. “National Banking Acts of 1863 and 1864.” https://www.federalreservehistory.org/essays/national-banking-acts
[2] Federal Reserve Bank of Minneapolis. “A History of Central Banking in the United States.” https://www.minneapolisfed.org/about-us/our-history/history-of-central-banking
[3] Federal Reserve Bank of Richmond. “When Banking Was ‘Free’.” Economic Focus Q1 2018. https://www.richmondfed.org/publications/research/econ_focus/2018/q1/economic_history
[4] Rolnick, Arthur J., and Warren E. Weber. “New Evidence on the Free Banking Era.” American Economic Review 73, no. 5 (December 1983): 1080–1091.
[5] Federal Reserve Bank of Richmond. “When Banking Was ‘Free’.” Economic Focus Q1 2018.
[6] Rockoff, Hugh. “The Free Banking Era: A Reexamination.” Journal of Money, Credit and Banking 6, no. 2 (May 1974): 141–167.
[7] FDIC. “1800–1849 Banking History.” https://www.fdic.gov/history/1800-1849
[8] Office of the Comptroller of the Currency. “Managing the Nation’s Currency.” https://www.occ.gov/about/who-we-are/history/managing-nations-currency/index-managing-the-nations-currency.html
[9] Federal Reserve Bank of Minneapolis. “A History of Central Banking in the United States.”
[10] U.S. Senate Historical Records. “Andrew Jackson and the Bank War.”
[11] Hammond, Bray. “Free Banks and Corporations: The New York Free Banking Act of 1838.” Journal of Political Economy 44, no. 2 (1936): 184–209.
[12] Bodenhorn, Howard. “Free Banking and Bank Entry in Nineteenth-Century New York.” NBER Working Paper №10654.
[13] Office of the Comptroller of the Currency Historical Archives. “Banking Examination Records (1837–1863).”
[14] Greenberg, Joshua R. Bank Notes and Shinplasters: The Colorful History of Paper Money Before the Civil War. University of Pennsylvania Press.
[15] Gorton, Gary B. “Reputation Formation in Early Bank Note Markets.” Journal of Political Economy 104, no. 2 (April 1996): 346–397.
[16] Bodenhorn, Howard. A History of Banking in Antebellum America: Financial Markets and Economic Development in an Era of Nation-Building. Cambridge University Press.
[17] U.S. Treasury Department. “History of the Treasury.” https://home.treasury.gov/about/history/history-overview/history-of-the-treasury
[18] Rolnick, Arthur J., and Warren E. Weber. “The Causes of Free Bank Failures: A Detailed Examination.” Journal of Monetary Economics 14, no. 3 (1984): 267–291.
[19] FDIC. “1800–1849 Banking History.”
[20] Dwyer Jr., Gerald P. “Wildcat Banking, Banking Panics, and Free Banking in the United States.” Federal Reserve Bank of Atlanta Economic Review 81, no. 3 (December 1996): 1–20.
[21] Greenberg, Joshua R. Bank Notes and Shinplasters: The Colorful History of Paper Money Before the Civil War.
[22] Gorton, Gary B. “Pricing Free Bank Notes.” Journal of Monetary Economics 44, no. 1 (1999): 33–64.
[23] Bodenhorn, Howard, and Michael Haupert. “The Note Issue Paradox in the Free Banking Era.” Journal of Economic History 56, no. 3 (September 1996): 1–29.
[24] Federal Reserve Bank of Richmond. “When Banking Was ‘Free’.” Economic Focus Q1 2018.
[25] Federal Reserve Bank of Philadelphia. Sanches, Daniel. “The Free-Banking Era: A Lesson for Today?” Economic Insights Q3 2016.
[26] Jaremski, Matthew, and Peter L. Rousseau. “Banks, Free Banks, and U.S. Economic Growth.” NBER Working Paper №18021.
[27] Stanford Graduate School of Business. Xu, Chenzi, and Yang, He. “Real Effects of Supplying Safe Private Money.” NBER Working Paper.
[28] Gorton, Gary B. “Reputation Formation in Early Bank Note Markets.”
[29] Bank for International Settlements. “Central banks and payments in the digital era” (2020).
[30] Rolnick, Arthur J., Warren E. Weber, and Bruce D. Smith. “Lessons From a Laissez-Faire Payments System: The Suffolk Banking System (1825–58).” Federal Reserve Bank of Minneapolis Quarterly Review 22, no. 3 (Summer 1998): 11–21.
[31] Bodenhorn, Howard. “Free Banking and Bank Entry in Nineteenth-Century New York.”
[32] Gorton, Gary B. “Pricing Free Bank Notes.” [33] Rockoff, Hugh. “Lessons from the American Experience with Free Banking.” NBER Historical Working Paper №0009 (December 1989).
[34] Rolnick, Arthur J., and Warren E. Weber. “The Causes of Free Bank Failures: A Detailed Examination.”
[35] Rolnick, Arthur J., Warren E. Weber, and Bruce D. Smith. “Lessons From a Laissez-Faire Payments System: The Suffolk Banking System (1825–58).”
[36] Federal Reserve Bank of Philadelphia. Sanches, Daniel. “The Free-Banking Era: A Lesson for Today?”
[37] Briones, Ignacio, and Hugh Rockoff. “Do Economists Reach a Conclusion on Free-Banking Episodes?” Econ Journal Watch 2, no. 2 (August 2005): 279–324.
[38] Dwyer Jr., Gerald P. “Wildcat Banking, Banking Panics, and Free Banking in the United States.”
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Publication Information: Last Updated: August 30, 2025 | Series: The Druid Deep Dive | Publisher: Sagix Apothecary
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