The Constitution’s Economic Compromise

The Constitution’s Economic Compromise

There were some big compromises made in framing the U.S. Constitution: the Great Compromise of a Senate with two members from each state; the slave state compromise of counting slaves as 3/5 of a person for purpose of representation; and the compromise on not ending the slave trade immediately.

Ganesh Sitaraman, the Vanderbilt Law professor who is advising Sen. Elizabeth Warren, argues in his 2017 book, The Crisis of the Middle-class Constitution: Why Economic Inequality Threatens Our Republic, that there is also an economic compromise, which cannot be understood within only the context of today's economic issues. This economic compromise, Sitaraman writes

is hidden from view if we think the original charter was constructed to serve the interests of the wealthy elites. It is hidden from view if we think of the founders as high-minded philosophers. And it is also hidden from view if we look for evidence of the compromise only in the secret debates in Philadelphia.

The framers of the Constitution not only needed to design an effective national government, they also had to solve the key economic problem that had destroyed public faith in the Articles of Confederation. The problem was that the national government needed revenue to be able to function, but under the Articles did not have the powers needed to raise revenues. Congress could only ask the states for "requisitions" but efforts by the states to comply had met with ever more serious revolts and insurgencies. Sitaraman points to the requisition of 1785 in particular, and the popular backlash it provoked, as the catalyst for the calling of the Constitutional Convention.

For rebellious ordinary Americans, the issue was not that they were irresponsible, that they thought debts unimportant, or that they did not want to pay. The problem was that they genuinely could not pay given the economic distress of the time, that the government's harsh economic policies were making things worse, and that they didn't think their payments were being put to good use. The tax and debt policies put pressure on the driving force of the economy: the people's work. Debtors were forced to sell their tools and livestock to pay their debts, leaving them unable to "save their estates'' and continue as "useful members of the community," as one New Jersey writer put it in 1785... Farmers became increasingly discouraged; any attempt to extricate themselves from their debt seemed impossible. Worse yet, in the event that they could pay their taxes in gold and silver, it would go to bondholders and creditors, who had made speculative investments at rock-bottom prices. Ordinary people thought it unfair that speculators be rewarded, and they recognized that any payment was unlikely to help the economy because the bondholders and creditors were continually sending gold and silver to Britain in return for manufactured goods.

One effect on public opinion -- overlooked by those who argue that the Constitution was designed to to be anti-democratic -- was that many people began to yearn for the creation of a monarchy to establish an effective government and "save the state from sinking into the lowest abiss of Misery," as one citizen wrote the time. This turn in public opinion toward possible acceptance of monarchy deeply distressed and disturbed most of the men who had actually fought in the Revolutionary War, particularly the officers.

Sitaraman continues:

The compromise that addresses the economic problems of both farmers and merchants, debtors and  creditors, ordinary people and elites, is buried deep in Article I of the Constitution. 

Article I, section 10 of the Constitution prohibits the states from engaging in a number of activities, including two that were of critical economic importance during the 1780s: "impairing the obligation of contracts" (which states did to protect debtors) and "lay[ing] any imposts or duties on imports or exports" (which states did to raise revenues). Article I, section 8 of the Constitution is the other side of prohibiting state imposts: it empowers Congress to create "duties, imposts and excises." Usually these clauses are not read together. Constitutional lawyers analyze the first clause -- the contracts clause -- along with the Constitution's provisions on protecting property. They normally group the impost, or tariff, clauses with the commerce clause. This conventional grouping betrays modern concerns... But thinking about these provisions from the perspective of the economic debates of the 1780s suggests another way to interpret these clauses. The contracts clause prevents states from passing laws that undermine contracts, such as pro-debtor laws that require creditors to take less for their investments.  This provision clearly supports creditors vis-a-vis debtors and is one piece of evidence for the Beardian analysis of the Constitution.... The impost or tariff clauses are a way for the federal government to generate revenue -- something it could not do sufficiently well during the Confederation... If the new Congress had the tariff power, the revenue model for the country would shift significantly. Coastal merchants engaged in international trade and wealthier people who bought imported goods would bear the lion's share of the national government's revenue burden... States could then alleviate the tax burden they had imposed on ordinary people, who were still being crushed by the post-Revolutionary War economic depression. Ordinary people would now have the ability to engage in economic activity without the fear that any money they earned would go to taxes or creditors. 

Taken together, the two provisions were an effort to solve the problems of both the creditor and bondholder elites and the ordinary people who were most heavily hit by the economic crisis. In fact, this is just what happened. Almost immediately after Congress first reached a quorum, in April 1789, James Madison introduced the tariff bill into the House of Representatives. "A national revenue must be obtained,'' Madison said. "[B]ut the system must be such a one, that . . . shall not be oppressive to our constituents." The bill became the second piece of legislation passed by the First Congress. President Washington signed it into law, appropriately, if not poetically, on July 4, 1789.] The new government, one historian has noted, "obtained almost all of its revenue from tariffs levied in the port towns, so farmers almost never had to try to come up with scarce gold and silver to pay federal taxes."  The states followed suit in alleviating the tax burden on their citizens. In Massachusetts and North Carolina, the poll tax was reduced by 90 percent, and in North Carolina land taxes were cut by just under 80 percent. A study of eleven states between 1785 and 1795 shows that on a per capita basis taxes dropped by 75-90 percent, just as the federal import tariff increased.

Now, here is where it gets really interesting, given the political and economic situation we are in, a full half century after Ronald Reagan made the Republican Party obsessed with tax cuts. (Last year, in fact, was the first year in USA history in which billionaires paid a smaller percentage in taxes than average income filers, thanks to Trump's tax cut.) At the beginning of the new government, who ended up picking up the slack, and paying more in taxes ? The rich!

Almost all the new national government's revenue came from tariffs based on imported goods. And who could afford to buy imported goods? The wealthy. As Thomas Jefferson wrote to Thaddeus Kosciusko in April 1811:

"The rich alone use imported articles, and on these alone the whole taxes of the General Government are levied. ... Our revenues liberated by the discharge of the public debt, and its surplus applied to canals, roads, schools, etc., the farmer will see his government supported, his children educated, and the face of his country made a paradise by the contributions of the rich alone, without his being called on to spend a cent from his earnings." 

Sitaraman quotes from some letters of the time to show that Americans understood how the new Constitution had made it possible to shift the tax burden onto those who could bear it.

Writing in The Massachusetts Centinel, "One of the Middle-Interest" discussed how trade and taxes were linked: " [I]t is well known how the trade of Massachusetts is gone to Connecticut, and that for want of a revenue, our own State taxes are increased. The insurrections that disgraced this Commonwealth the last winter, may be all traced up to this source."  He continued, " [T] axes may not have been necessary if we had enjoyed national regulations; and that the same constitution which is to give this authority [taxing power] to Congress, is also to give those commercial powers before mentioned, which will make proper impositions on foreign trade, and derive such revenues by
way of impost and excise, as will greatly diminish direct taxation."  

"A Farmer" in Connecticut explained how the provision would have the effect of redistributing the tax burden toward purchasers of luxury imports: "So long as taxes continue to be laid on us directly, according to the list, we farmers must inevitably sweat under the pressure of them. It is grievous to be borne, but I fear we must bear it until we can agree to throw some part of it upon the merchants, by way of an impost.... The weight of our taxes cannot be shifted from our polls and our farms to foreign luxuries and the unnecessary goods of the merchants without vesting in Congress the power of laying imposts, duties, and excises.

Sitaraman argues that if the tariff clause and the contracts clause prohibiting state imposts are reinterpreted as the great economic compromise of the Constitution, some of the results of the votes on its ratification, which have long puzzled historians, suddenly make sense.

Why was it that some of the most pro-debtor, pro-paper money areas of the country sent pro-ratification delegates to the ratification conventions? For example, in New Hampshire, almost half of the towns that were pro-paper-money during the Confederation era elected pro-Constitution delegates to the ratification convention. The answer is that the economic compromise solved one of their primary fears. Why was it that three of the first five states to ratify the Constitution -- Delaware, New Jersey, and Connecticut -- had almost no debate and scarcely token opposition to the Constitution? The answer is the tariff provisions. None of these states had a major port, and so none could issue state import tariffs on foreign goods to raise meaningful revenues. As a result, they had been forced into imposing more burdensome taxes on their populations. The Constitution let them shift their share of the national government's revenue from direct taxes on their citizens to tariffs paid by those in New York or Philadelphia. By placing greater burdens on urban merchants than on rural farmers, the Constitution's economic compromise established, in effect, a progressive revenue base that could save the equal commonwealth.