Two Views of Justice in the American Founding

Mea culpa! Apologies for messing up the poll last week. I was in a hotel room in Morgantown, WV, hurrying to finish and check out so I could hit the road for the nine-hour drive home. I was moving too quickly between different things and hit the wrong button!

The Declaration of Independence holds as one of its four self-evident truths that the sole purpose of government is the protection of man’s unalienable rights to “Life, Liberty and the pursuit of Happiness.” The idea of rights is connected to the broader concept of justice. Likewise, the Preamble to the Constitution says that one of the principal ends of the new federal government is to “establish justice.” To a person, the Founding generation held the protection of private property and the sanctity of contracts as direct derivatives of the rights to life and liberty and therefore as constituent principles of justice. The American Revolution (1764-1783) and the American Founding (1787-1800) were, if nothing else, concerned about justice.

How did the Founding generation understand the nature of justice? More particularly, how did they understand the protection of private property and the sanctity of contracts as manifestations of justice? How did the Founders institutionalize and bring to life the protection of private property and the sanctity of contracts into their founding moment?

These are complex questions, which, despite their obvious importance, have gone largely neglected by scholars of the American Founding period. This essay examines one concrete but important instance of how the Founders built their understanding of justice into the core legal-political institutions of the new nation. What is most interesting about this particular founding moment is that two deepest theoreticians of the American Founding—i.e., Alexander Hamilton and James Madison—disagreed over how to apply their shared understanding of justice to a concrete instance. Hamilton and Madison were the two leading architects and proponents of the new Constitution both in and out of the constitutional convention, and they joined forces to co-author (along with John Jay) the 85 essays of The Federalist, which was the most comprehensive defense of the newly drafted Constitution ever written. But to be in government and to apply the Constitution’s principles to legislation and the governance of the new nation was something altogether different. The task of legislation is complex and fraught with complications and challenges that tore these former intellectual and political comrades-in-arms apart. The consequences of their competing views of justice and contracts (or at least the application of a shared view of justice) would shape the future of the new nation.

A New View of Contracts

As we saw in “Private Property and the Birth of a Free Society” and “Contracts and the Birth of a Free Society,” America’s Founding Fathers were committed to respecting, upholding, and institutionalizing private property and the sanctity of contracts as fundamental principles and necessary conditions of justice in the new republic. They viewed contracts as legal devices embedded with deep moral content connecting two or more freely associating people in a time-limited but binding relationship that served the self-interest of each party. The core moral content of a contract is defined by promises and obligations. In addition to recognizing and institutionalizing private property, upholding the sanctity of contracts provided an important grounding element of the new nation’s moral foundation. Contracts are a concrete manifestation and instantiation of the related concepts of “rights” and “justice.”

We also saw in “Contracts and the Birth of a Free Society” that America’s Founding Fathers institutionalized a new theory of contracts that revolutionized relations between the individuals of America’s newly emerging free society. The Founders adopted a new “volitional” or “objective” theory of contracts that was grounded in the idea of individual rights over against the older “equity” or “intrinsic” theory of contracts which was grounded in the idea of the common good. Indeed, one might even go further and say that America’s great moment of moral-legal transformation occurred—at least symbolically—when the United States formally abandoned the “intrinsic” theory for the “objective” theory of contracts in the winter of 1790 during the congressional debates over Alexander Hamilton’s First Report on Public Credit (January 14, 1790). It is to these debates that we now turn.

Hamilton v. Madison, or the Intrinsic v. the Objective View of Contracts

One of first orders of business for the new national government of the United States in 1789 and 1790 was to pay its substantial war debts, a sum of approximately $79 million. The Constitution itself pledges that “all debts contracted and engagements entered into before the adoption of the Constitution shall be as valid against the United States under this Constitution as under the Confederation (Article VI).”  

The debt was divided into what was owed foreign and domestic creditors. The new government owed foreign investors, particularly Dutch banks, some $12 million. The domestic debt of approximately $67 million was owed by the new government of the United States and various state governments to those American citizens who had supported the war either as soldiers or as creditors of one kind or another. Thousands of Americans during the war had been issued a variety of loan office certificates, continental bills of credit, and other forms of credit by the Continental Congress and state governments with the promise that the government paper would be redeemable at some point in the future. Making the new American government solvent was one of its first and most important tasks.

One serious problem confronted by Treasury Secretary Hamilton and Congress was that some of the original holders of the debt had exchanged or sold their greatly devalued securities years before at heavily discounted prices when the outcome of the war was uncertain, and the possibility of government default was real. By the time Hamilton issued his report seven years after the end of the war, the value of the securities had risen dramatically, and the secondary holders of the securities were about to make a substantial profit.

Virtually all Americans understood that America’s foreign and domestic debts had to be paid. The political question confronting Congress was: should the federal government discriminate between the original and present holders of the government paper? More specifically, the issue was: should those original holders of government securities who had sold their paper at a fraction of their face value be compensated in some way? For example, should the desperate old soldier who had sold his pay certificates to a speculator for pennies on the dollar receive some compensation? Should secondary holders of the Continental securities be required to share their funding profits with the original holders of the debt who had sold their securities at depreciated prices? Alternatively, why shouldn’t the current holders of the debt (which included both original holders and secondary holders) receive the full-face value of their certificates?

There were clearly political, economic, and even foreign policy issues at stake in the funding issue, but at the root of the Hamilton’s challenge was the question of justice. Hamilton and those who were founding the American republic believed that it was necessary to lay a solid foundation for the public and private morality of the new nation. Contracts were an issue of justice, and justice was a question of morality. The financial issues were complex, and Hamilton certainly did not hold a monopoly on questions of justice and morality. According to Patrick Henry at the Virginia ratifying convention in 1788, “there are thousands and thousands of contracts, whereof equity forbids an exact literal performance.”

The specific question for Hamilton, Madison, and the other members of Congress was: how would the disputes over these contracts be resolved? Should the Founding generation institutionalize the intrinsic or the objective theory of contracts? The answers to these questions would determine the kind of nation America would be going forward.

This mostly forgotten episode in American history represented a critical moment in the Founding of the United States. The representatives sitting in the second session of the first Congress were tasked with setting the foundation and determining the standard of justice that would guide the new nation into the nineteenth century and beyond. Put differently, the First Congress was assigned the task of determining the kind of society America would be in the present and future. To that end, the two titans of the American Founding—Alexander Hamilton and James Madison—presented the American people with two different standards of justice, or, at least, two different ways of applying a common concept of justice. The people’s representatives would have to choose which standard or application of justice would define America’s future.

In his Report on Public Credit, Alexander Hamilton argued forcefully that the “immutable principle of moral obligation” dictated that America pay its debts in full. He believed that the sanctity of contracts was the bond of all private and public morality, and it was the necessary condition for the social order of a free society. For Hamilton, the question of redemption and the discrimination between original and current holders of the public debt was first and foremost an issue of justice, which means a moral issue. To not redeem the current bondholders at full face value was, he argued, “inconsistent with justice, because in the first place, it is a breach of contract; in violation of the rights of the purchaser.” The secondary holders of the securities had every right to full redemption, and the original holders who sold their securities no longer had a just claim to any redemption. The facts of the case were clear and simple for Hamilton. The New Yorker summed up the situation this way:

The nature of the contract in its origin is that the public will pay the sum expressed in the security to the first holder, or his assignee. The intent, in making the security assignable, is that the proprietor may be able to make use of his property by selling it for as much as it may be worth in the market, and that the buyer may be safe in the purchase.

Every buyer therefore stands exactly in the place of the seller, has the same right with him to the identical sum expressed in the security, and having acquired that right, by fair purchase and in conformity to the original agreement and intention of the government, his claim cannot be disputed, without manifest injustice.

For Hamilton, the case was clear. The disputed securities permitted the original holders to sell them at market prices, and the buyers would have a full property right in their purchase. The nature and terms of the contract were clearly specified and objectively defined. The buyer and seller have the same rights of ownership guaranteed by the terms of the contract. If strict justice were to be denied the purchaser of the government paper, Hamilton argued, then justice was denied.

The initial debate on Hamilton’s report began formally on Monday, February 8, 1790, but it really took off on when James Madison entered the fray. On February 11 and then again on the 18^th, Madison responded to Hamilton’s Report and argued in Congress for some kind of “discrimination” between the original and current holders of the debt and for the older “equity” or intrinsic notion of contracts. Madison’s motion argued that both the original bondholders who had sold their government paper at discounted prices and the current or secondary holders had legitimate claims, and both should be compensated to one degree or another. He did not think either group should be compensated in full.

According to the Virginian, the original holders had, in effect, been “forced” on the front side to accept—sometimes at the “point of the bayonet”—these paper securities (as opposed to gold or silver), and then they had been “forced” on the back side to sell their securities at discount prices out of economic necessity or desperation (which in some cases was no doubt true) on the assumption that the Confederation government would or at least might default on its payments. Madison argued that in such cases, soldiers and their widows “may appeal to humanity” for their “sufferings.” The Father of the Constitution argued that “sympathy is an American virtue,” and the original holders of the debt were owed something for their service. The exigencies of their situation and equity demanded that the original holders receive some sort of recompense.

During his February 18 speech, Madison “begged gentlemen would not yield too readily to the artificial niceties of forensic reasoning.” Instead, he hoped

that they would consider not the form, but the substance—not the letter, but the equity—not the bark, but the pith of the business. It was a great and an extraordinary case. It ought to be decided on the great and fundamental principles of justice. He had been animadverted upon for appealing to the heart as well as the head: he would be bold, nevertheless, to repeat, that in great and unusual questions of morality, the heart is the best casuist.

Madison equated equity with justice, and then he used the equity principle to work out a compromise that would give the current holders most of the full value of their government paper (i.e., the highest value the certificates had reached on private markets), while giving the former holders some nominal payment (i.e., the difference between the highest value of the certificates in the private markets and the par value of the original holder). Madison enunciated his compromise position in these terms: “Let it be a liberal one in favor of the present holders; let them have the highest price which has prevailed in the market; and let the residue belong to the original sufferers.” He then admitted this solution might not yield “perfect justice; but it will do more real justice” than anything yet proposed.

Madison’s proposal to discriminate between original and current holders of government securities was met with immediate opposition from an overwhelming majority of Congress’s members. Most members of Congress supported Hamilton’s Report, arguing that any scheme for discriminating between current and original holders was tantamount to a unilateral breach of contract with the creditors. Such a plan would violate American standards of public morality and would be unjust. Hamilton’s supporters argued that that the vast majority of current holders of the debt had purchased depreciated certificates in the years after the end of the war at considerable risk to themselves. Elias Boudinot from Massachusetts, despite his announced respect for Madison, asserted that the Virginian had been “led away by the dictates of his heart” rather than the principle of justice. After much consideration, Boudinot concluded that Madison’s proposal was unjust. “Are we to disown the act of the party himself?” Boudinot asked. Congress as court could only consider the facts of the case, and the facts were that some of the original holders sold their certificates to a third party who now owned the certificate.

The new liberal doctrine of contracts was expressed most clearly in the congressional debates by Theodore Sedgwick from Massachusetts, who dismissed Madison’s older equity view of justice with extreme prejudice. Sedgwick rejected Madison’s suggestion that the original recipients of the securities had been “forced” by necessity to sell their government paper or tricked into selling their bonds. The discounted sale of the securities from the original to the current holders was a “voluntary engagement” by two equal parties, Sedgwick argued, that did not involve fraud. As a result,

[t]o deprive the citizen of the power of binding himself by his own voluntary contract, or to prevent a disposition of property in its nature alienable, would be a violent and unjustifiable invasion of one of those rights of which man, as a citizen, is the most tenacious, and would indeed break one of the strongest bonds by which society is holden together.

If the government were to not honor its full contractual obligations, Sedgwick noted, “the law for that purpose would have a retrospective operation, and that no ex post facto law could be more alarming than that by which the right of private property is violently invaded.” For Congress to discriminate in favor of the original holders of the government securities at the expense of those “who have acquired property by the known and established rules of the law” would be, Sedgwick charged, an unjust and “violent” form of wealth redistribution.

Others followed Sedgwick’s lead. John Laurence from New York noted that the original holders of the government notes sold them for their “own advantage” and Congress had “no right” to “impair the force” of any contract, particularly given the fact that there was “no fraud” on the part of current holders of government certificates and bonds. In fact, the current holders had purchased the government paper at great risk to themselves, and they had “complete and absolute ownership” of the certificates they had purchased. William Loughton Smith declared that any attempt to indemnify the original holders was an “unjust” abuse of power—indeed, it was nothing more than an “act of power.” He did not think that justice could be “founded on injustice,” and that to “take money out of the pocket of one man to put it into that of another is a precedent which my justify future interferences.”

On February 22 Madison’s motion to discriminate between original and current holders of the national debt was put to a vote, and the Virginian and his somewhat more traditional view of contracts and justice were roundly defeated, 36 to 13.

The larger meaning of the congressional debate over funding the domestic debt and the specific issue of “discrimination” has gone largely unnoticed by historians and political philosophers. The debate was, in effect, a debate over whether the American people would continue to hold their older, “intrinsic” view of contracts and justice, or whether they would adopt a newer, “objective” view of contracts and justice. Hamilton’s victory meant that his view of contracts and justice would help to define America’s legal institutions for several generations. The New Yorker’s understanding of contracts and justice simultaneously laid the moral-legal groundwork for the creation of America’s free society, and, to change the metaphor, it provided the moral-legal glue that would cement the American people together in a common understanding of justice. This was a defining and transformative moment in American history, and it launched what would come to be the golden age of contract law in the United States.

**A reminder to readers: please know that I do not use footnotes or citations in my Substack essays. I do, however, attempt to identify the author of all quotations. All of the quotations and general references that I use are fully documented in my personal drafts, which will be made public on demand or when I publish these essays in book form.

Have a great week!