In 1861, the Confederacy thrust itself into a rather precarious position, politically and economically. As a new nation, the Confederacy faced a multitude of problems:Â how to tax, how much to tax, what structure of government to adopt, how much money to appropriate to X, size of army, size of navy, etc.
The South decided to model itself after the nation it broke itself from with a few key differences. Firstly, it was a confederacy, not a federation, which meant it had an extremely weak, voluntary central government. Secondly, as the nation was formed from secession, it had no right to "outlaw" future secession. This presented problems when one of its member-states didn’t want to cooperate.
Upon formation, the Confederacy needed a currency. However, unlike the Union which at the time relied on a Gold-Silver Standard, the South didn’t have enough gold/silver/metals to back up its currency. The entire basis of the Confederate currency rested "simply by a promise to pay the bearer after the war, on the prospect of Southern victory and independence." [1]
As one would expect, an un-backed currency created by a decentralized nation overly reliant on one crop (cotton) was bound to be pretty volatile. Then in 1861 war breaks out between the Confederacy and the Union. The Union is confident in its ability to win. The Confederacy is too, but it recognizes that it has some severe disadvantages, the largest being money.
The Confederacy needs money to pay troops, buy supplies, and win the war. However, since it didn’t have any gold/silver to sell, the Confederacy resorted to press more paper.
So, a new country with a weak central government in the middle of a war with no foreign allies and an un-diversified economy rapidly prints money backed solely by a promise to pay its debt after it wins an unlikely war. Would you invest in this currency? No, I imagine not.
To be fair, the Union did something similar, issuing greenback paper money totaling nearly $450 million. As a result, the Union (gold) dollar sank to as low as 39 cents per gold dollar. However, the South, with many more burdens than it could handle, faced much greater inflation. Overall, inflation was about 9000% in the Confederacy and 80% in the Union. Quite a large difference.
This inflation played a significant role in the war. Often the stability of a nation's money determines the confidence its citizens and foreign nations have in that nation. The Confederacy with its obvious economic problems was unable to gain foreign allies or convince the border states to join the cause.
Even more directly, inflation weakened the South economically. People sometimes reverted to barter, wealthy Confederates lost significant amounts of wealth due to inflation, the currency became practically worthless, and the government was viewed as irresponsible which further diminished trust in the central government. All of that likely played some role during the Civil War.
