Buckling the Manufacturing Belt: Increased Financial Regulations and

U.S. Industrialization, 1850-1900

Matthew Jaremski1

Vanderbilt University

June 2011

Abstract:

The passage of the National Banking Acts stabilized the existing financial system and

encouraged the sudden entry of 783 new banks. Bank growth was also concentrated in the region

that would become the Manufacturing Belt. Using a new bank census, this paper shows that

these structural changes helped accelerate the nation’s shift to an industrialized economy. Not

only did national banks have a much larger impact on growth than state banks, but counties that

gained banks between 1863 and 1868 had an even higher rate of manufacturing growth. These

changes explain 20 percent of manufacturing growth between 1870 and 1900.

Keywords: Manufacturing Belt, National Banking, Bank Regulation, Finance-Led Growth

1 Dept. of Economics, Vanderbilt University, VU Station B #351819, 2301 Vanderbilt Place,

Nashville, TN 37235-1819. E-mail: matthew.s.jaremski@vanderbilt.edu

1

1. Introduction

Economists posit many reasons for a nation's transition to an industrial economy: legal

origins (Engerman and Sokoloff 2000; Acemoglu, Johnston, and Robinson 2001), railroad

development (Fishlow 1965; Williamson 1975), and a strong financial system (Gerschenkron

1962; McKinnon 1973). The first two factors have been studied at a local level, but the third has

traditionally only been studied using cross-country panels or highly aggregated time-series for a

single country.1 While these approaches are informative, they cannot account for the many

institutions that encourage both economic and financial development. Using the first

comprehensive bank census spanning 1850 through 1900, this paper provides a county-level

examination of the role of financial regulation in the establishment of the U.S. Manufacturing

Belt.

Agricultural production dominated in the U.S. before the Civil War. With the exception

of textiles, the industrial sector was composed of small artisan shops that produced almost

exclusively for local consumption. The shops were characterized by skilled laborers, and the few

that relied on mechanization were restricted to sites with water power and partial year

production. Sokoloff (1984b, p. 7) emphasizes: "Not only were the proportions of the firm

investments in inventories quite large in industries other than textiles, but they were especially so

in the larger firms whose development has often been linked to industrialization." Productivity

gains due to specialization occurred over time, but the industrial sector remained focused on

labor-intensive production of primary goods in the Northeast.

The Manufacturing Belt was established through a structural shift of production. After

the Civil War, industrial firms shifted into certain areas of the Midwest, began to produce

1 For instance, King and Levine (1994) use a country-panel and Rousseau and Wachtel (1998) study the U.S. at the

aggregate level and compared it with other countries.

2

secondary goods, and dramatically increased in scale. Investment in technology was behind

much of these changes. Atack, Bateman, and Margo (2003, 2008) find the ratio of capital to

output in the Midwest dramatically increased as a result of the diffusion of steam engines. The

engines enabled firms to expand, produce year-round, and raise their total factor productivity. As

a result, the U.S. quickly surpassed Great Britain as the world’s leading producer of industrial

goods.2

Studies such as Perloff (1960), Meyer (1983, 1989), and Klein and Crafts (2010) credit

railroads and urbanization for the sudden industrialization, but have not studied the direct

contribution of the financial system. The traditional story of financial development also fails to

contain a change capable of explaining both the acceleration and geographic distribution of

capital investment. Recent work by Jaremski (2011), however, shows that the National Banking

Acts of 1863 and 1864 dramatically altered the quantity and quality of the financial system just

prior to the industrialization. Moreover, the changes were more prominent in those areas (e.g.

Chicago and Detroit) that would eventually emerge as manufacturing centers.

Over 1,650 banks existed in 1860, but the state banking systems were notorious for their

low entry barriers and high default rates. In contrast, national banking was best known for its

high requirements and restrictions on agricultural banking. Therefore, while Jaremski and

Rousseau (2011) show that the instability of state banks prevented them from having a

substantial contribution to economic growth, Sylla (1969, p. 685) argues that national banking

"promoted industrial investment and growth with a ruthless efficiency". The stringent

requirements also produced a new distribution of bank capital by encouraging the entry of 783

2 Bairoch (1982) provides the estimate for historic manufacturing production.

3

new national banks within five years.3 The new banks were typically existing financial

institutions that became national banks rather than lose their ability to issue and trade bank notes.

Their conversion thus brought physical and information capital to the Manufacturing Belt,

potentially enabling them to have a more immediate effect on growth.

Despite the sudden alterations to the financial system, the lack of bank-level data has

prevented the examination of how these changes influenced local economic growth. Seminal

studies such Davis (1965), Sylla (1969), and James (1976) focus on regional differences,

whereas, the few bank-level studies must focus on small geographic areas (Redenius 2002;

Weiman and James 2010) or national banks (Fulford 2010). No study, to date, has examined the

sudden entry of banks before 1870 and compared national and state banks. As both could have

directly contributed to the timing and pattern of industrialization, I construct a comprehensive

bank census from 1850 to 1900 using annual editions of Merchants and Bankers’ Directory and

Rand McNally Bankers’ Directory and Weber's antebellum bank census (2005). The data are

then linked to Haines’ micro-census records (2004) allowing a county-by-county comparison of

finance and economic growth across each decade.

The passage of the National Banking Acts and the entry of banks between 1863 and 1868

seem to have been exogenous to manufacturing growth during the 1860’s but hastened it after

1870. The data indicate that counties that gained a bank immediately after the legislation

experienced a 3.2 percent increase in rate of manufacturing capital growth and a 1.5 percent

increase in the rate of manufacturing output growth. State banks were also correlated with

manufacturing growth, but their effect was considerably smaller than that of national banks. The

3 The conclusions of Davis (1965), Sylla (1969), James (1976), and Sullivan (2007) suggest that the additional bank

capital would have lowered interest rates and expanded a firm’s ability to receive credit. While these studies

examine growth after 1870, the same effect seems to be present during the mid-1860’s.

4

stricter national bank requirements thus had a positive effect on industrialization. Together these

changes explain about 20 percent of the period's growth in manufacturing output.

2. The Development of the Manufacturing Belt

Popularized by DeGreer (1927) and Garver et al. (1933), the Manufacturing Belt

describes a small geographic region that became the heart of American industrialization.

Historians broadly describe the Belt as a parallelogram with points at Augusta, Milwaukee, St.

Louis and Baltimore. The description ignores the large county-level variation within the region

(e.g. including agricultural areas such as eastern Illinois and western Indiana), but is a useful

approximation. As seen in Figure 1, firms in the Belt produced the vast majority of the country’s

industrial goods. Other smaller pockets of manufacturing developed, but even combined, they

were not the largest producer of goods until after 1970. Industrial production thus remained

concentrated in the Middle Atlantic and Midwest long after their natural resources were depleted

and population had moved further west.

With the exception of textiles, early manufacturing shops hired a few skilled workers and

only supplied the region around them.4 Those artisan shops that employed inanimate power

relied on waterwheels which constrained their location and limited production during the

summer and winter months.5 Sokoloff (1986) and Engerman and Sokoloff (2000) document

advances in antebellum productivity, yet Niemi (1974) and Meyer (1989) point out that firms

remained focused on the production of primary goods.

The Manufacturing Belt was established through a structural change in production, one

that emphasized technological innovation. Atack, Bateman, and Margo (2003, 2008) show that

4 North (1961), Lindstom (1978), Field (1978), and Goldin and Sokoloff (1982) describe early manufacturing. 5 See Hunter (1979) for a fuller description of the drawbacks of water power.

5

the real value of capital per dollar of output increased 70 to 100 percent between 1850 and 1880

but the largest increase occurred after 1870. Much of the capital deepening seems to be the result

of the adoption of steam engines. The engines allowed firms to shift away from running water,

produce year-round, and achieve a higher total factor productivity.6

The second half of the nineteenth century also saw a distinct rise in the scale of

manufacturing production. Firm size dramatically increased in industries such as distilling, flour

milling and iron and steel.7 Chandler (1977) argues the increase was another result of labor-

saving technological innovation. As firms mechanized, they were able to expand production

without dramatically increasing labor costs. Capital-intensive factories thus replaced the labor-

intensive artesian shops.

These structural changes are apparent in the Census data. Table 1 shows that the original

colonies dominated early industrial production. Combined, the Middle Atlantic and New

England produced nearly three-fourths of U.S. manufacturing goods in 1850. The Northeast's

importance, however, waned as population spread west, falling to about half of U.S. production

by 1900. At the same time, the Midwest's share of output doubled from 12 percent in 1850 to 24

percent of national output by 1890. The Midwest’s sustained rise does not seem to be solely the

result of extensive growth. Instead, the rise seems to have been the result of investment.

Manufacturing capital in the Midwest continued to expand for most of the century, while its

population growth slowed after 1870.8

Studies such as Perloff (1960), Meyer (1983, 1989), and Klein and Crafts (2010) use a

combination of factors to explain the sudden rise of capital and geographic shift of

6 Atack, Bateman and Weiss (1980), Brown and Philips (1986), and Goldin and Katz (1998) examine the diffusion

of steam engines. 7 The increase in factories also led to a concentration of production in many industries. See James (1983) and Atack

(1985, 1986) for fuller discussions of industries that did not became concentrated. 8 The Middle Atlantic’s growth in period also seems to be correlated with a rise in capital investment.

6

manufacturing. The simplified narrative is that travel costs were initially high and it was only

feasible to supply a small region. Early shops, therefore, needed to be small and located near

natural resources and demand. As railroads and steam power spread throughout the country,

firms were finally able to take advantage of factories rather than allowing new shops to open

near demand. The combination of increased transportation and urbanization thus provided the

necessary conditions for technological innovation and economies of scale, whereas the Midwest

represented a central distribution area.

Rousseau and Sylla (2004) and Jaremski and Rousseau (2011) show that a bank’s

presence (or lack thereof) influenced the speed of economic growth before 1870. However,

despite corresponding to the passage of the National Banking Acts in 1863 and 1864, finance has

not been directly studied as a contributing factor of the postebellum’s industrialization. Instead,

previous studies usually assume that state banks were willing to switch to a much higher set of

national bank standards.9 The increased regulations, therefore, might only have been able to

explain timing of growth not its geographic variation.

Contrary to these studies, recent county-level work by Jaremski (2011) shows that the

legislation dramatically altered the distribution of bank services. Seen in Figure 2, the financial

system expanded in locations that would become manufacturing centers such as Detroit and

Chicago, and contracted in other areas. The rest of the paper examines whether this variation

could have been responsible for the subsequent rise and pattern of capital investment.

9 As the number of banks did not dramatically change between 1860 and 1870, the previous use of aggregated data

could not rule out this possibility.

7

3. Finance and Growth Data

The previous lack of county-level bank data has prevented a comprehensive examination

of U.S. manufacturing and banking. The few studies that analyze disaggregated data do so only

for a small number of areas (Redenius 2002; Weiman and James 2010) or for national banks

(Fulford 2010). I fill this gap by assembling a nation-wide banks database from 1850 to 1900.

The postbellum data comes from the Merchants and Bankers’ Directory and Rand McNally

Bankers’ Directory. These annual directories provide the location of every bank in operation, as

well as, whether they were chartered by a state (called a state bank) or the Comptroller of the

Currency (called a national bank). The lists are consistent and exhaustive, and are easily matched

with Weber's antebellum bank census (2005) to extend the database backwards through 1850.10

The directories are available for most years, but I must reconstruct the 1890 entry from

the data that bracket 1890. I assume that banks open in 1887 (the closest entry) were open at the

end of 1890 and then add those banks that opened during 1888, 1889, and 1890. The constructed

estimates (3,012 state banks and 3,481 national banks) are consistent with Barnett’s (1911)

estimates (3,102 state banks and 3,650 national banks) with the discrepancies largely the result of

missing states in Barnett.

For the regression analysis, I truncate the panel in three important ways. First, I keep only

decadal observations in order to match the county-census records collected by Haines (2004).

The records provide each county’s manufacturing capital and output, agricultural output, the

number of farms, as well as population, urbanization, and racial composition. Second, I drop out

Southern and Western states to avoid the Civil War's destruction and changes associated with

10 While the bank database could be extended further backward, there is no manufacturing output data in which to

compare.

8

newly established states.11

Finally, I keep only counties that were present in all periods and did

not have significant boundary changes.12

The resulting balanced panel contains decadal

observations from 591 counties in 16 states between 1850 and 1900.

4. Bank Growth and the National Banking Acts

The antebellum state banking system was infamously unstable: 19 percent of the 1,463

charter banks (i.e. established by direct order of the state legislature) and 29 percent of the 872

free banks (i.e. established under a general enabling law) defaulted before 1863. The difference

between the default rates was a result of free banking’s bond-secured note issue.13

The episodic

bond price declines during the period thus caused many free banks to default, but had only a

minor effect on the more diversified charter banks. On the other hand, the remainder of the free

and charter bank defaults occurred during the panics of 1837, 1839 and 1857, suggesting an

underlying financial instability that plagued the antebellum financial system.

Despite the volatility, financial reform was only political feasible after the Civil War

drained the Union's resources.14

Secretary of the Treasury, Salmon Chase, initially raised war

funds by issuing greenbacks and selling national debt through the banking system. However,

Chase was forced to push for the National Banking Acts of 1863 and 1864 after the debt issues

caused a specie suspension.

11 The sample contains:

Midwest: Michigan, Indiana, Illinois, Ohio, Wisconsin, Minnesota, Kentucky

Great Plains: Kansas, Nebraska, Iowa, Missouri, South Dakota, and North Dakota

Middle Atlantic: Pennsylvania, New Jersey, Maryland, Delaware, District of Columbia, New York New England: Maine, New Hampshire, Vermont, Massachusetts, Connecticut, Rhode Island 12 County boundaries are obtained from Minnesota Population Center (2004). I restrict the sample to counties whose

boundaries did not change by more than 5 percent over the entire period. 13 See Rolnick and Weber (1984), Dwyer and Hasan (2007), and Jaremski (2010). 14 Davis (1910) and Gische (1979) argue the legislation would not have been passed if not for early Union losses.

9

By creating a system established on U.S. Treasury bonds, the legislation attempted to

solve the nation's revenue shortages and mitigate the default risk of the previous systems. First,

they avoided free banking’s attachment to risky state debt by requiring the use of stable U.S.

Treasury bonds to back notes at 90 percent of their value.15

Second, they prevented the creation

of rural banks by increasing capital requirements and requiring it be held in U.S. Treasury bonds.

Third, they avoided land speculation by prohibiting loans secured by real estate.

In a further effort to raise revenue and eliminate state banks, Congress passed a 10

percent tax on state bank notes in 1865. As two-thirds of banks had more circulation than

deposits, the tax effectively stripped the state banking system of its primary source of liquidity.

Existing banks would either have had to become depository institutions, convert to a national

charter, or close.

The nation's response to the legislation was immediate and large. Within five years, 783

national banks were created with new capital, 902 were created out of existing state bank capital,

and 412 other state banks were driven out of the market. The legislation not only increased the

size of the financial system, but also led to a new geographic distribution. New and converted

banks were typically in urban areas, whereas closed banks were in rural areas.

Despite corresponding to the financial upheaval, the Civil War seemed to have had little

effect on northern banking. More than half of bank closures between 1862 and 1868 occurred

outside of the South and after the War. In fact, the vast majority of northern bank closures (194

of 225) occurred after the bank note tax was passed in 1865. Those banks that closed during the

War were thus identified by their southern location, whereas those that closed after the War were

identified with high circulations.

15 National debt was relatively stable compared to state debt before and after the Civil War.

10

The end of the Civil War also cannot explain the timing of bank entry. If new banks were

created to simply replace the lack of growth during the War, then we would expect about 325

banks to have been created late in 1865.16

However, 464 banks entered in 1863 and 1864.

Moreover, as previous discussed, the geographic pattern of entry also avoided areas where banks

had previously closed.

Anecdotal evidence suggests that many of the new national banks were created by small

financial institutions that had been operating without a formal charter.17

Some of these private

banks offered traditional banking services, but many were note and security brokers. For

instance, the most outspoken of the new national bankers, Jay Cooke, was the sole subscription

agent of government war bonds, whereas John Thompson (of Thompson Bank Note Detector)

created the first New York national bank. Because private banks were not regulated by a charter,

they are often not present in state bank reports. However, those present in the Merchants and

Bankers’ Directory generally had capital levels below $10,000 and advertised the notes or

securities they were willing to trade rather than the banking services offered. A private bank

would, therefore, have had to raise a great deal of capital in order to convert to a national charter.

The choice to convert to national banks seems to have been the result of the destruction

of state bank notes. The National Bank Acts not only created homogeneous and safe notes, but

they also mandated that those notes be redeemable in at least one other major financial center.18

These notes thus eliminated the need for note discounters and traders, and began to drive risky

state bank notes out of the market. The tax in 1865 drove the last nail in the coffin by eliminating

16 Most states loosened their charter process by 1863, making the 3.5% growth an upper bound on expected growth. 17 Gische (1979) and Weiman and James (2010) also reach a similar conclusion. 18 National bank notes were guaranteed by the Treasury. County banks were required to redeem their notes at par in

a reserve city and reserve city banks were required to redeem their notes in a central reserve city.

11

the circulation of state bank notes altogether. Those private banks that handled notes would

either have had to convert to a national charter, change their type of business, or cease operation.

The rise in banks seemed to have been a one-time response to the new regulation rather

than a shift to a higher growth rate. As a result of the tight regulations, national bank entry

dramatically slowed after 1868, locking in the initial distribution of banks. Seen in Table 2, state

banks did not bounce back until 1890, and new national banks were concentrated in new western

states such as Iowa, Kansas, and Nebraska.19

The rapid return of state banks filled gaps left by

national banks, but due to much lower requirements, they still had significantly less capital and

assets.20

The National Banking Acts thus shaped the distribution of financial intermediation

within the Manufacturing Belt for several decades.

5. National Banks and Economic Growth

Schumpeter (1912) posits that the banking sector spurs technological innovation and

investment by funding those entrepreneurs with the best chances of successfully implementing

products and production processes. However, as pointed out by McKinnon (1973), picking and

funding projects is only half of a bank’s job. Instead, they must also be able to mobilize capital.

Banks have their own capital stock, but they are most successful when they are able to encourage

individuals to lend by providing a safe place to deposit their excess reserves. It is this leverage

that eases financing constraints and lowers the cost of capital to entrepreneurs. Therefore, while

19 It should be noted that the Historical Statistics of the United States and the Federal Reserve's Banking and Monetary Statistics 1914-1941 show an increase in state banks during the 1870. As described in the notes, the rise is

most likely a result of non-chartered banks being miscounted as state chartered banks. When looking at individual

state records and bank lists, state banks did not return to their pre-War levels until 1890. 20 The major difference is due to the lowering of state capital and reserve requirements over time. White (1983)

contains a summary of the changes to capital requirements late in the period.

12

banks do not create physical capital, they play an integral role of facilitating investment and

technological progress by finding capital and allocating it to its most productive use.

While the U.S. had a large financial system before 1863, the National Banking legislation

dramatically improved the way banks operated. Rousseau and Wachtel (2011) argue that the

quality not the quantity of banking was important for economic development. For instance,

individuals are not likely to place deposits in less secure banks. Therefore, in contrast to the

unstable antebellum systems, the tight national bank requirements might have been necessary to

bring liquidity into the financial system.

Cagan (1963, p.20) highlighted on a specific aspect of the legislation: the homogeneously

backed note issue. He argues that the “nation could not so easily have achieved its rapid

industrial and commercial expansion during the second half of the nineteenth century with the

fragmented currency system it had during the first half”. As national bank notes did not have to

discounted, they greatly lowered transaction costs for noteholders. Firms also benefited from the

secured issue because loans did not have to be discounted.

The large increase in banks during the 1860's also would have expanded firms' ability to

receive funds.21

Not only did the new capital replace that of closed banks, but Jaremski and

Rousseau (2011) also argue that the legislation only eliminated low quality banks. Closed banks

were generally small and had little effect on growth before the Civil War. The conversion of

private banks might also have had a larger effect on the nation’s growth than typical new banks,

as they had previously established information capital and lending relationships. To put it

21 No study has consistently examined regional interest rates before and after the Civil War, but studies by

Bodenhorn and Rockoff (1992), Davis (1965), and Sylla (1969) suggest that those regions which gained banks

experienced a slight decline in interest rates. Nation-wide convergence did not occur until after 1890, but the decline

would have would have expanded the financial system's lending capacity in certain areas.

13

another way, the new banks expanded the amount of loanable funds and ability of banks to make

good investment decisions.

5.1 Determinants of Change in Banks – 1863-1868

To understand whether the initial bank changes were endogenous to manufacturing

growth, I model each county's change in banks between 1863 and 1868 as a linear function of its

characteristics. The model is:

where denotes a state fixed effect, and denotes the error term22

. is the vector of

county characteristics: The logarithm of county population and the percentage of population

living in an urban area account for the demand for banking services, the percentage of non-white

residents proxies for education, manufacturing capital and output per capita account for

industrial composition, and the number of banks accounts for previous financial development. I

also account for whether the county had a reserve city located inside its boundaries. The model's

coefficients in Table 3 are thus indentified on variation across counties in the same state.

Densely populated counties with manufacturing seemed to gain the most banks. Banks

also faster grew in counties with high population growth during the 1860’s, but not necessarily to

those that had continued manufacturing growth. The results fit the previous explanation of bank

entry. As private banks were previously established, they would have been correlated with

growth before 1860 rather than during the decade. There thus seems to be little simultaneity bias

between the change in the number of banks and manufacturing growth.

22 Standard errors are clustered by state to account for the serial-correlation in the error term.

14

5.2 National Banking and Growth – 1850-1900

After accounting for county-level population and urbanization, the change in the number

of banks between 1863 and 1868 was not significantly correlated with manufacturing growth.

However, bank entry during other periods could still be endogenous. Following studies such as

King and Levine (1993) and Bodenhorn (2000), using the initial value of the banking rather than

the contemporaneous value should avoid any simultaneity bias.

I model a county's manufacturing (capital and output) and agriculture (capital23

and

farms) growth from 1850 to 1900 as a linear function of its financial development and other

county-level characteristics. Each observation is a county-decade and the dependent variables

measure the log change across the decade. The main explanatory variables are the initial number

of banks, initial level of the growth variable, and the change in banks between 1863 and 1868.24

The model is as follows:

where denotes either state or county-level fixed effects, denotes a decade fixed effect,

is a vector of state-decade fixed effects, is the same vector of controls as described

in equation (1) above, and denotes the error term.25

and the reserve city

dummy take a zero value before 1870, allowing the inclusion of county-fixed effects that control

for unobservable characteristics that influenced growth and attracted banks.

The regression results in Table 4 indicate that the influx of private banks might have been

different from those that entered later in the period. The coefficient on the initial change in banks

23 Farm capital is the value of farm tools and livestock. 24 Because the regressions look at growth, the first observation would be from 1850 to 1860. 25 Robust standard errors are reported as the county-level effects prevent clustered standard errors. The results do not

change when using state fixed effects and clustering by state to account for the serial-correlation in the error term.

15

is positive and statistically significant for manufacturing capital. A county gaining a national

bank immediately after the Acts is expected to have had a 3.2 percent higher growth in

manufacturing capital. The coefficient for manufacturing output is not statistically significant

when county-fixed effects are present but remains economically large. An extra bank present at

the beginning of a decade would lead to a 1.5 percent higher growth in output. Alternatively, the

initial entry does not seem to have a statistically significant or even large effect on agriculture

growth.

The entry of national banks after 1870 also significantly increased manufacturing growth,

as the coefficient on national banks is much larger than that on state banks. A 10 percent increase

in banks at the beginning of the decade would lead to a 0.79 percent rise in manufacturing capital

growth if they were national banks, but only a 0.43 percent rise if they were state banks. This

difference is most likely the result of quality mattering more than quantity. State banks were

generally less stable, potentially explaining why deposits only became important after national

banking was established. The conversion of state banks and establishment of national banks

therefore might have increased the nation’s growth potential.

On the other hand, national banks restricted agricultural growth. A county that started

with a 10 percent more national banks would have 0.44 percent lower growth of farm capital

growth, but an (insignificant) a 0.18 percent decline if it started with more state banks. The

prohibition on agricultural lending thus might have led to the consolidation of farms described by

Ransom and Sutch (1972). It could also have been one cause of the Populist Movement and

William Jennings Bryan’s infamous “cross of gold” speech.

16

5.2.1 Alternative Specifications

Using the number of banks to control for their effect on growth misses the fact that

national banks had higher capital requirements than state banks. The effect of a state bank would

be expected to have a lower effect than a national bank. Therefore for a better comparison, we

want to control for bank size. The bank lists contain the capital level of most banks, but they do

not report it for some savings banks and trust companies. Keeping in mind that the sample has to

ignore these small state banks, I replace the number of banks with their capital in Table 5.26

Despite accounting for size, the coefficients on national banks remain larger than state banks,

suggesting that the tighter regulations increased the connection between finance and growth.

To capture county-level growth patterns, I re-estimate equation (2) using a linear county-

level trend instead of the state-time fixed effects in Table 6.27

In this case, the initial change in

bank is not only positive and significant for manufacturing capital, but also for manufacturing

output. A county gaining a national bank immediately after the Acts is expected to have had a 5

percent higher growth in manufacturing capital and output. On the other hand, the coefficient on

national banks insignificantly positive, whereas state banks are insignificantly negative.

The previous regressions do not control for variable or sample selection bias. To illustrate

the robustness of the results, Table 7 presents three additional specifications. The top panel uses

the change in the number of banks between 1863 and 1866, as the shorter period might be less

endogenous to the decade's growth. The middle panel regresses only Midwest counties, as the

developed financial system of the Northeast might have positively biased the coefficients. The

lower panel uses dummy variables to illustrate whether bank losses were as costly as bank gains.

The effect of national banks continues to be larger than that of state banks, and the effect of the

26 Capital in 1850 comes from Weber (2008). 27 Because of the county-level trend, I drop the initial value of the dependent variable.

17

initial change in banks increases manufacturing growth. The final panel presents a new result:

bank losses between 1863 and 1868 were not statistically or economically important. A county

gaining a national bank immediately after the Acts is expected to have had a 15 percent higher

growth in manufacturing capital, but a county losing a bank only an insignificant 1 percent lower

growth. The result matches Jaremski and Rousseau (2011) who find that low quality state banks

did not have a significant connection to growth.

5.2.2 Counterfactual Analysis

Building on the previous analysis of growth, I estimate the legislation’s effect on

manufacturing output per capita. The counterfactual is generated using the coefficients in

Column (4) of Table 4.28

To eliminate the effects of national banking, all banks are assumed to

be state banks and the initial change of banks during the mid-1860's is removed.29

Displayed in

Table 8, the counterfactual growth rates are significantly lower than the actual ones between

1870 and 1890. The counterfactual grows faster than the actual value during the 1890’s, but

growth over the entire period still would have been 37.2 percentage points lower (about 20

percent) if the legislation had not been passed. National banking, therefore, seems to be partially

responsible for the speed of industrialization after the Civil War.

6. Conclusion

Despite being heavily dependent on agriculture in 1860, the U.S. established itself as the

world’s leading producer of manufacturing goods by the end of the century. Many studies have

28 Recall that the sample only contains Midwest and Northeast counties. However, because manufacturing outside of

those regions was small, the sample’s aggregates and the national aggregate are similar. 29 Because the regression contains the initial value of manufacturing, the counterfactual growth must take into

account the previous counterfactual changes in manufacturing.

18

examined the industrialization, but few have examined the role of financial development. The

National Banking Acts of 1863 and 1864 not only stabilized the previous state banking system,

but also dramatically increased the number of large urban banks just prior the adoption of large-

scale factories. The paper, therefore, tests whether the legislation could be responsible for the

nation's capital deepening and industrial development.

Two distinct conclusions emerge from a new bank database. First, the initial influx of

bank capital accelerated economic growth. A county that gained a bank between 1863 and 1868

had a higher rate of manufacturing capital growth throughout the rest of the century. Second, the

tight financial regulation also contributed to the nation's industrialization. Specifically, a county

that received a national bank experienced a much higher rate of manufacturing growth relative to

a county that received a state bank. Combined, these financial transformations account for about

20 percent of manufacturing output growth between 1870 and 1900.

19

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Figure 1: Evolution of the Manufacturing Output Per Capita (1860-1940)

Notes: Dispalys county-level value of output per capita. County boundaries and output obtained from NHGIS (2004).

1860 1880

1940 1900

Figure 2: Change in Banks (1863-1868)

Notes: Displays counties that gained or lost a bank between 1863 and 1868. County

boundaries and output obtained from NHGIS (2004). Counties without any fill did not

have a bank before 1868.

Figure 3: Distribution of National Banks (1880-1900)

Notes: Dispalys number of national banks in counties each year. Boundaries obtained from NHGIS (2004).

1880

1900

Table 1: Regional Development of Manufacturing (1840-1900)

New Eng. Mid. Atl. Midwest Total Output Capital Population

1840 - - - - - 10.4% 17.1%

1850 282 481 122 1,048 11.6% 14.4% 19.6%

1860 469 781 283 1,847 15.3% 19.3% 22.2%

1870 775 1,358 599 3,257 18.4% 24.6% 23.6%

1880 1,084 2,174 1,166 5,272 22.1% 25.9% 22.3%

1890 1,676 4,078 2,576 10,523 24.5% 28.7% 21.4%

1900 2,042 5,397 3,470 14,207 24.4% 27.0% 21.1%

New Eng. Mid. Atl. Midwest Total

1840 93 115 30 286

1850 162 240 54 379

1860 257 426 143 740

1870 376 695 309 1,254

1880 612 1,151 551 2,127

1890 1,315 2,857 1,728 6,010

1900 1,735 4,302 2,429 9,008

Midwest's Share of …

Manufacturing Capital (in millions)

Manufacturing Output (in millions)

Notes: Manufacturing output and capital and population taken from Haines (2008). Output is not available in the 1840

Census. The regions are defined as Midwest: Michigan, Indiana, Illinois, Ohio, Wisconsin, Minnesota, Kentucky;

Middle Atlantic: Pennsylvania, New Jersey, Maryland, Delaware, District of Columbia, New York; New England:

Maine, New Hampshire, Vermont, Massachusetts, Connecticut, Rhode Island

Table 2: Number of Banks (1860-1900)

New Eng. Mid. Atl. Midwest

Gt. Planes

& West South Total

1860 505 494 367 72 222 1,660

1870 528 694 503 158 116 1,999

1880 589 885 780 494 275 3,023

1890 686 1322 1,357 2,240 888 6,493

1900 760 1686 1,964 3,446 1,731 9,587

New Eng. Mid. Atl. Midwest

Gt. Planes

& West South Total

1860 505 494 367 72 222 1,660

1870 35 100 101 50 29 315

1880 39 232 214 301 144 930

1890 93 446 536 1,448 489 3,012

1900 189 657 1,066 2,606 1,145 5,663

New Eng. Mid. Atl. Midwest

Gt. Planes

& West South Total

1860 - - - - - -

1870 493 594 402 108 87 1,684

1880 550 653 566 193 131 2,093

1890 593 876 821 792 399 3,481

1900 571 1029 898 840 586 3,924

Total Number of National Banks

Total Number of State Banks

Total Number of Banks

Notes: Number of banks obtained from sources described in Data section. The regions are

defined as Midwest: Michigan, Indiana, Illinois, Ohio, Wisconsin, Minnesota, Kentucky;

Great Plains: Kansas, Nebraska, Iowa, Missouri, South Dakota, and North Dakota; Middle

Atlantic: Pennsylvania, New Jersey, Maryland, Delaware, District of Columbia, New York;

New England: Maine, New Hampshire, Vermont, Massachusetts, Connecticut, Rhode Island

Table 3: County-Level Determinants of Bank Growth (1863-1868)

(1) (2) (3) (4)

Characteristics in 1860

Ln(Total Banks) -0.593*** -0.655*** -0.601*** -0.662***

[0.000] [0.000] [0.000] [0.000]

Reserve City 3.263** 3.262** 3.267** 3.268**

[0.032] [0.033] [0.032] [0.033]

% Urban 1.254 1.136 1.220 1.146

[0.276] [0.279] [0.295] [0.304]

Ln(Pop) 0.968*** 0.974*** 0.958*** 0.984***

[0.000] [0.000] [0.000] [0.000]

% Black -2.755** -1.182 -2.811** -1.291

[0.028] [0.494] [0.020] [0.415]

Ln(Manu. Capital P.C.) 0.163 0.162

[0.138] [0.252]

Ln(Manu. Output P.C.) 0.188** 0.149

[0.034] [0.276]

Change 1860-1870

% Urban 1.994*** 2.097***

[0.002] [0.001]

Ln(Pop) 0.586* 0.597*

[0.090] [0.084]

% Black 3.418 3.360

[0.162] [0.134]

Ln(Manu. Capital P.C.) 0.155

[0.222]

Ln(Manu. Output P.C.) 0.075

[0.485]

Location Effects? State State State State

Observations 811 811 811 811

R-squared 0.411 0.427 0.411 0.426

Change in # of Banks (1863-1868)

Notes: The table presents the results of an ordinary least squares regression. The dependent

variable is the change in the number of banks between 1863-1868. Dollar values are deflated

to 1860 using Officer (2008). P-values are provided in brackets and clustered by state. *

denotes significance at 10%; ** at 5% level and *** at 1% level.

Table 4: Measuring National Banking's Effect on Economic Growth (1850-1900)

(1) (2) (3) (4) (5) (6) (7) (8)

Change in Banks (63-68) 0.019*** 0.032** 0.015** 0.016 0.003 0.002 0.001 -0.001

[0.007] [0.015] [0.007] [0.015] [0.004] [0.007] [0.001] [0.001]

L. Ln(National Banks) 0.093*** 0.079*** 0.114*** 0.075*** 0.040*** -0.044*** -0.001 -0.002***

[0.023] [0.028] [0.023] [0.028] [0.012] [0.012] [0.001] [0.001]

L. Ln(State Banks) -0.020 0.043* -0.012 0.037 -0.005 -0.018 0.001 -0.001*

[0.022] [0.023] [0.022] [0.022] [0.011] [0.012] [0.001] [0.001]

Reserve City -0.262*** -0.187 -0.237*** -0.094 -0.344*** -0.450*** -0.002 -0.010**

[0.076] [0.119] [0.079] [0.142] [0.054] [0.082] [0.002] [0.004]

L.% Urban 1.084*** 1.275*** 1.253*** 1.270*** -0.675*** -0.582*** -0.045*** -0.041***

[0.097] [0.135] [0.102] [0.137] [0.062] [0.071] [0.003] [0.005]

L.Ln(Pop) 0.043* 0.024 0.049* 0.022 -0.041** 0.029 -0.003*** -0.002

[0.025] [0.048] [0.026] [0.046] [0.019] [0.023] [0.001] [0.002]

L.% Black 0.031 -0.578 0.111 -1.172* -0.166 0.214 -0.034*** 0.032

[0.307] [0.854] [0.339] [0.636] [0.171] [0.259] [0.009] [0.020]

L.Dependent Var -0.395*** -0.844*** -0.487*** -0.872*** -0.343*** -0.785*** -0.429*** -0.830***

[0.020] [0.027] [0.021] [0.025] [0.038] [0.036] [0.025] [0.029]

Location Fixed Effect? State County State County State County State County

Year Fixed Effects? Yes Yes Yes Yes Yes Yes Yes Yes

State-Year Effects? Yes Yes Yes Yes Yes Yes Yes Yes

Observations 2,927 2,927 2,927 2,927 2,955 2,955 2,955 2,955

R-squared

Within 0.4319 0.5118 0.5206 0.580 0.6006 0.712 0.4922 0.5839

Between 0.0406 0.0001 0.0883 0.04 0.3746 0.0005 0.144 0.0131

Overall 0.2778 0.1117 0.3718 0.2221 0.4996 0.1878 0.3679 0.1405

Change in Per Capita…

Notes: The table presents the results of an OLS regression. The dependent variable is the per capita change in the defined variables each decade. The sample

consists of decadal county-level observations from 1850 through 1900. Every regression includes state-year interacted fixed effects as well as the defined level of

fixed effects. County-level effects are also present in the specified regressions. "Change in Banks" and "Reserve City" variables take the value of zero before 1870.

Dollar values are deflated to 1860 using Officer (2008). Robust standard errors are provided in brackets. * denotes significance at 10%; ** at 5% level and *** at

1% level.

Ln(Manufacturing Capital) Ln(Manufacturing Output) Ln(Farm Capital) Ln(Farms)

Table 5: Bank Capital's Effect on Economic Growth (1850-1900)

(1) (2) (3) (4) (5) (6) (7) (8)

Change in Bank Capital P.C. (63-68) 0.004*** 0.008** 0.003** 0.007* -0.001 -0.002 -0.001* -0.001**

[0.001] [0.004] [0.001] [0.004] [0.001] [0.001] [0.000] [0.000]

L. Ln(National Banks) 0.066*** 0.036* 0.075*** 0.029 0.038*** -0.004 -0.000 -0.001*

[0.014] [0.019] [0.014] [0.020] [0.007] [0.007] [0.000] [0.001]

L. Ln(State Banks) -0.010 0.018 -0.009 0.015 0.007 0.011 -0.001 -0.001

[0.013] [0.013] [0.013] [0.014] [0.007] [0.007] [0.001] [0.001]

Reserve City -0.185*** -0.032 -0.167** -0.011 -0.326*** -0.456*** -0.001 -0.011***

[0.065] [0.081] [0.069] [0.118] [0.050] [0.077] [0.002] [0.003]

L.% Urban 1.053*** 1.323*** 1.231*** 1.312*** -0.708*** -0.634*** -0.043*** -0.042***

[0.096] [0.142] [0.102] [0.142] [0.066] [0.072] [0.003] [0.005]

L.Ln(Pop) 0.060** 0.030 0.069*** 0.026 -0.036** 0.027 -0.003*** -0.002

[0.024] [0.048] [0.025] [0.046] [0.017] [0.023] [0.001] [0.002]

L.% Black -0.025 -0.851 0.052 -1.419** -0.256 0.276 -0.033*** 0.038*

[0.305] [0.817] [0.338] [0.623] [0.171] [0.270] [0.009] [0.021]

L.Dependent Var -0.398*** -0.842*** -0.490*** -0.870*** -0.349*** -0.782*** -0.432*** -0.826***

[0.020] [0.027] [0.021] [0.025] [0.039] [0.036] [0.025] [0.028]

Location Fixed Effect? State County State County State County State County

Year Fixed Effects? Yes Yes Yes Yes Yes Yes Yes Yes

State-Year Effects? Yes Yes Yes Yes Yes Yes Yes Yes

Observations 2,927 2,927 2,927 2,927 2,955 2,955 2,955 2,955

R-squared

Within 0.4317 0.5107 0.5207 0.5797 0.6013 0.7108 0.4956 0.5832

Between 0.0405 0.0007 0.0851 0.0391 0.3772 0.0000 0.1425 0.0411

Overall 0.2794 0.1128 0.3731 0.2205 0.5019 0.1954 0.3685 0.1470

Notes: The table presents the results of an OLS regression. The dependent variable is the change in the defined variables each decade. The sample consists of

decadal county-level observations from 1850 through 1900. Every regression includes state-year interacted fixed effects as well as the defined level of fixed

effects. County-level effects are also present in the specified regressions. "Change in Banks" and "Reserve City" variables take the value of zero before 1870.

Dollar values are deflated to 1860 using Officer (2008). Robust standard errors are provided in brackets. * denotes significance at 10%; ** at 5% level and ***

at 1% level.

Change in Per Capita…

Ln(Manufacturing Capital) Ln(Manufacturing Output) Ln(Farm Capital) Ln(Farms)

Table 6: Measuring National Banking's Effect on Economic Growth Using a County-Level Trend

Ln(Manufacturing

Capital)

Ln(Manufacturing

Output)

Ln(Farm

Capital) Ln(Farms)

(1) (2) (3) (4)

Change in Banks (63-68) 0.056** 0.053* 0.003 -0.001

[0.023] [0.027] [0.010] [0.001]

L. Ln(National Banks) 0.042 0.024 -0.080*** 0.001

[0.046] [0.052] [0.022] [0.001]

L. Ln(State Banks) -0.044 -0.054 0.007 -0.001

[0.046] [0.051] [0.022] [0.001]

Reserve City -0.273* -0.168 -0.069 -0.006

[0.147] [0.212] [0.112] [0.004]

L.% Urban -0.038 0.465 0.432*** 0.033***

[0.318] [0.366] [0.166] [0.009]

L.Ln(Pop) -0.232** -0.318*** -0.039 -0.002

[0.094] [0.120] [0.083] [0.004]

L.% Black -0.093 1.532 -0.852 0.056

[1.741] [1.924] [1.018] [0.054]

Location Fixed Effect? County County County County

Year Fixed Effects? Yes Yes Yes Yes

County-Level Trend? Yes Yes Yes Yes

Observations 2,927 2,927 2,955 2,955

R-squared

Within 0.2359 0.2745 0.4778 0.2966

Between 0.0458 0.1023 0.3587 0.0667

Overall 0.0088 0.006 0.0008 0.0091

Change in Per Capita…

Notes: The table presents the results of an OLS regression. The dependent variable is the change in the defined variables

each decade. The sample consists of decadal county-level observations from 1850 through 1900. Every regression

includes state-year interacted fixed effects as well as their level fixed effects. County-level effects and a county-level

linear trend are also present in the specified regressions. "Change in Banks" and "Reserve City" variables take the value

of zero before 1870. Dollar values are deflated to 1860 using Officer (2008).Robust standard errors are provided in

brackets. * denotes significance at 10%; ** at 5% level and *** at 1% level.

Table 7: Robustness Checks

Change in Banks (63-66) 0.022*** 0.038** 0.018** 0.024 0.009** 0.005 0.001 -0.001

[0.007] [0.016] [0.007] [0.016] [0.004] [0.008] [0.001] [0.001]

L. Ln(National Banks) 0.090*** 0.076*** 0.111*** 0.072*** 0.036*** -0.045*** -0.001 -0.002***

[0.023] [0.028] [0.023] [0.028] [0.012] [0.012] [0.001] [0.001]

L. Ln(State Banks) -0.020 0.043* -0.012 0.037* -0.005 -0.018 0.001 -0.001*

[0.022] [0.023] [0.022] [0.022] [0.011] [0.012] [0.001] [0.001]

Location Fixed Effect? State County State County State County State County

Change in Banks (63-68) 0.033*** 0.050** 0.035*** 0.040* -0.002 0.001 0.001 -0.001

[0.012] [0.022] [0.012] [0.022] [0.008] [0.014] [0.001] [0.001]

L. Ln(National Banks) 0.090*** 0.085** 0.095*** 0.066* 0.037*** -0.043*** -0.002*** -0.003***

[0.029] [0.035] [0.028] [0.034] [0.013] [0.016] [0.001] [0.001]

L. Ln(State Banks) -0.013 0.031 -0.015 0.022 -0.008 -0.006 -0.001 -0.001

[0.028] [0.029] [0.028] [0.030] [0.014] [0.017] [0.001] [0.001]

Location Fixed Effect? State County State County State County State County

Gained Bank (63-68) 0.101*** 0.153*** 0.088*** 0.079 0.050*** 0.042* -0.001 -0.001

[0.024] [0.054] [0.024] [0.058] [0.013] [0.024] [0.001] [0.001]

Lost Bank (83-68) -0.037 -0.011 -0.036 -0.080 0.015 0.030 0.001 0.001

[0.032] [0.095] [0.035] [0.098] [0.017] [0.043] [0.001] [0.003]

L. Ln(National Banks) 0.074*** 0.070** 0.095*** 0.070** 0.028** -0.049*** -0.001 -0.002***

[0.024] [0.028] [0.023] [0.027] [0.012] [0.012] [0.001] [0.001]

L. Ln(State Banks) -0.015 0.043* -0.007 0.038* -0.005 -0.019 -0.001 -0.001*

[0.022] [0.023] [0.022] [0.022] [0.011] [0.012] [0.001] [0.001]

Location Fixed Effect? State County State County State County State County

Only Change 1863-1866

Only Midwest Counties

Dummy Variables for Change in Banks (63-68)

Notes: The table presents the results of an OLS regression. The dependent variable is the per capital change in the defined

variables each decade. The sample consists of decadal county-level observations from 1850 through 1900. Every regression

includes state-year interacted fixed effects as well as the defined level fixed effects and the county-level characteristics in all

previous regression. "Change in Banks" take the value of zero before 1870.State and County-level effects are also present in

the specified regressions. Dollar values are deflated to 1860 using Officer (2008). Robust standard errors are provided in

brackets. * denotes significance at 10%; ** at 5% level and *** at 1% level.

Ln(Manu. Capital) Ln(Manu. Output) Ln(Farm Capital) Ln(Farms)

Ln(Manu. Capital) Ln(Manu. Output) Ln(Farm Capital) Ln(Farms)

Ln(Manu. Capital) Ln(Manu. Output) Ln(Farm Capital) Ln(Farms)

Actual No National Banking Difference

1870 108 108 -

1880 145 132 13.06

1890 235 180 54.91

1900 264 233 31.51

Actual No National Banking Difference

1870-1880 34.3% 22.2% 12.1%

1880-1890 61.5% 35.9% 25.6%

1890-1900 12.6% 29.4% -16.9%

1870-1900 144.1% 115.0% 29.1%

Growth of Manufacturing Output Per Capita

Level of Manufacturing Output Per Capita ($1860)

Table 8: Counterfactual Analysis of Manufacturing Output

Notes: Counterfactuals calculated using county-level fixed effects regression coefficients in

Table 4. "No National Banking" is obtained by assumming all banks were state banks, and

banks that entered or left in between 1863-1868 are respectively subtracted from and added

back. Dollar values are deflated to 1860 using Officer (2008).