Re: two currencies and Korean war

["Per Gunnar Berglund" <pgberglund@xxxxxxxxxxx>]

William,

You wrote:
> You have raised a troublesome point regarding the seigniorage
> gap, at least for some types of commodity money.  While I don't
> have an immediate answer to this dilemma, I am not yet satisfied
> that the distinction between commodity money and fiat money is
> simply measured by the gap.  As far as I can judge, the problem
> applies to precious metals but not for example to bushels of
> wheat.  It seems evident to me that certificates of ownership of
> bushels of wheat are "full bodied", and do not depend on
> government  involvement.  The value of a certificate would appear
> to depend only on the barter value of a bushel of wheat in the
> open market.

Per says:
This is getting very esoteric and hypothetical, but let me suggest a thought
experiment anyway: Suppose the bushels of wheat were certified by the
authorities and then sealed, so as to ensure the right weight, quality, etc.
This certification could in and of itself carry a (fairly small) premium.
Further suppose that the government would take only certified bushels, and
then start limiting the numbers of bushels it will certify. Under these
circumstances, a considerable premium over and above 'uncertified' wheat may
very well arise.

The point, again, is that the seignorage premium, if it is to exceed the
value of measuring and certifying the commodity, presupposes that the
production of money is brought under government control and limited in
quantity. In this example, we have two distinct types of wheat: Wheat which
is money, and wheat which is not money. There is no obvious reason why there
should be any definite price relation between the two, so long as
money-wheat requires certification.

Perhaps one should define 'commodity money' (if it is a meaningful category
at all) in terms of the lack of quantitative constraints on its production?

William wrote:
> In our modern day fiat money system, paper notes truly have no
> intrinsic value.  They cost the government something to produce,
> but that cost is not seen as intrinsic value within the private
> sector.  Clearly such money must acquire its value through the
> promise behind it.  I gather we both agree the most compelling
> promise is that the government will accept it in payment of one's
> tax liability, the chartalist view.

Per says:
There is no disputing this, although I would add, being a little bit picky,
that the 'reflux' may be secured by other mechanisms than taxation. But that
is a point of limited practical importance today.

William again:
> I would go further and
> insist that a viable modern day system requires the government to
> respond to the demand for its fiat money according to the demand
> within the private sector for cash and for banking system
> reserves in support lending.  Further that the only mechanism the
> government has for controlling the value of its fiat money, even
> though indirectly, is through its price in the interbank lending
> market.

Per says:
Yes, not least because the alternative regime of controlling the quantity,
is too terrible to seriously consider. The central bank of Colombia seems to
have been pretty close to that modus operandi until they recently changed
their standards. The graphs of the interbank rates there are not
encouraging!

William wrote:
> Early on (1792), the US defined the dollar to be equivalent to so
> many grains of gold (also silver).  Private enterprise mined the
> ore and reaped the monetary reward of doing so.  A seigniorage
> gap exists by definition whenever the cost of producing the gold
> differs from its face value in dollars.  That could be either a
> positive or negative gap.  If negative, there would of course be
> no incentive for private enterprise to continue its production.

Per says:
Yes, and worse, it would be profitable to melt coin into bullion.

William wrote:
> Now it would seem that even though the seigniorage gap could
> change sign on occasion, the producer of gold owned an asset
> without a corresponding liability.

Per says:
Well there is no denying that the bullion value (plus minting work, if any)
constitutes a 'real asset' with no corresponding liability. To my mind,
however, that covers only the 'commodity' side to 'commodity money'. The
'money' side involves offsetting assets and liabilities along the lines of
'financial assets'. I see no other way to account for any discrepancy
between face value and material value, whether that difference is negative
or positive.

The question is who holds that real asset? It would seem natural to credit
it to the bearer's balance sheet. On closer inspection, however, it turns
out that one should rather credit it to the State's balance sheet. For if
the State vows to take it for payment of taxes, etc., it assumes a liability
corresponding to the face value of the coin. And if the State has a
liability of that amount, then the bearer must have a claim on the State of
the same amount. But if the bearer has a claim on the State, and then also
owns the real asset (the precious metal disc), then we are surely making
ourselves guilty of double-counting.

It seems to me that in this case, the financial asset is inextricably tied
to its certificate (i.e. the coin). No other records are being kept of who
owes what to whom, so there is only one way of exercising one's claim
vis-a-vis the State, and that is to produce the coin. Ergo, if one melts the
coin, the financial asset is gone, and so is the State's liability. All that
remains is a lump of metal, the bullion value of which indisputably belongs
to the bearer. Melting thus appears to involve the 'transformation' of a
financial asset into a real asset from the bearer's point of view. From the
State's point of view, melting involves getting rid of a financial
liability, but it also implies losing the prospect of obtaining the real
asset which serves as a certificate of that liability.

The logical way to reconcile this is to credit the coin qua real asset to
the State's balance sheet, not to the bearer's. Melting then involves two
things: (1) cancellation of the financial asset-liability relations, and (2)
the transfer of the real asset from the State's balance sheet to the
bearer's. The State loses a liability but also an asset; the bearer gains an
asset but also loses a financial claim. The net gain or loss depends on the
size and sign of the 'seignorage' gap between face value and material value.

Pardon the digression.

William wrote:
> It is my belief (at present)
> that chartalist theory only applies to a pure fiat money system,
> that it does work well in a commodity money system.  Also it's
> not clear to me that the question of liability or not is central
> to the issue.  I very much respect your views and would be
> interested in any further thoughts you have on this issue.

Per says:
The respect is mutual - having a conversation with you is always a great
pleasure.

The question of liability is not central to anything in modern monetary
practice, save, perhaps, for the national accounting issue of how to treat
monetary gold and SDRs in the accounts. However, from a theoretical point of
view (and this is why I raised this point at all), I find it unsatisfactory
to have to rely upon two rather different kinds of explanations, and then
add, rather ad hocishly, some great historical transition between the two
systems of 'commodity' and 'fiat' money. A unified theory that embraces and
explains both these types of money would seem more viable to me.

All the best,
Per

_____________________________________________
Per Gunnar Berglund
CEPA    80 Fifth Avenue, 5th floor    New York, NY 10011
Tel: (212)229-5901, ext.327    Fax: (212)229-5903