Pricing free bank notes

Abstract

During the pre-Civil War period, US banks issued distinct private monies, called bank notes. A bank note is a perpetual, risky, non-interest-bearing, debt claim with the right to redeem on demand at par in specie. This paper investigates the pricing of this private money taking into account the enormous changes in technology during the period, namely, the introduction and rapid diffusion of the railroad. A contingent claims pricing model for bank notes is proposed and tested using monthly bank note prices for all banks in North America together with indices of the durations and costs of trips back to issuing banks constructed from pre-Civil War travelers’ guides. Evidence is produced that market participants properly priced the risks inherent in these securities, suggesting that wildcat banking was not common because of market discipline.