Typography

There is a recurring story in the media that 150oz Tide detergent bottles are being used as money by criminals. It's a fun story and I can't resist using it to illustrate the idea of liquidity premia. Assume that two types of detergent bottles are held in individual's inventories. Say that they are entirely similar except one bottle is harder to sell than the other. If some unexpected event were to happen, the liquid (excuse the pun) bottle of detergent can be easily sold so as to mobilize resources to deal with the event. The illiquid one can't. This ability to serve as a superior hedge against the unexpected is a valuable service. Even if the unexpected doesn't occur, anyone holding the liquid bottle will face less stress and unease over time knowing that they are positioned to deal with any eventuality. A forward-looking individual will anticipate this stream of uncertainty-shielding services provided by the more saleable bottle, discount these streams into the...

This post may get a bit rambling. It's an attempt to tie together a couple of different strands that I've been thinking and reading about. Modern monetary theory (MMT) in a nutshell, at least as far as I see it, goes something like this. Back in the 1990s a couple of clever guys came up with the idea of a government-provided jobs guarantee. They realized that this program would be seen by the public as an expensive boondoggle requiring sky-high taxes and huge debts. Could they outflank these criticisms by finding another way to fund the jobs guarantee? To find the funds the early MMTers worked backwards through the labyrinthine relationship between the Federal Reserve and the Treasury. What they claimed to have discovered at the end of their trek was certainly shocking. The US Treasury, they said, funds itself not by the conventional route of taxes and bonds, but by creating and directly spending fiat (i.e. inconvertible) money. Furthermore, it is not only the government's ...

When my mother asked me yesterday if I was still buying the bit points, I took it as a sign that it was time for another bitcoin post. One of the most popular reasons for owning bit points—sorry, bitcoin—is that the supply of coin is fixed whereas the supply of central bank money can be increased ad infinitum. Like an amoeba colony nearing population saturation, the bitcoin supply is growing at a decreasing rate as it approaches the magic 21 million number, the ceiling specified by designer Satoshi Nakamoto . Bitcoin advocates believe that this controlled supply effectively grounds the price of bitcoin while leaving the value of central bank money to flap in the wind. But this ignores the mirror image of this argument. Yes, a central bank can rapidly increase the supply of notes and reserves. But blowfish-like, a central bank can just as quickly suck this supply back in—indeed, a central bank can go to the extreme of extinguishing every last liability it has ever issued. Bitcoin, on t...

By way of David Andolfatto's comment on my earlier post on safe assets, I stumbled onto a talk by John Moore and Nobuhiro Kiyotaki called Evil is the Root of All Money , which in turn invokes a 1978 paper by Antoin Murphy called Money in an Economy Without Banks: The Case of Ireland ( pdf link ). For anyone interested in the conjunction of history of economic thought and economic history, Murphy is a great resource. I definitely suggest his The Genesis of Macroeconomics . Murphy's paper describes an interesting episode in Irish financial history. From May 1 to November 17, 1970, all banks in Ireland went on strike. This meant that Irish bank deposits were indefinitely frozen. Despite being deprived of a large chunk of their safe and liquid assets, the Irish populace managed to soldier on with little economic difficulty—according to Murphy, retail sales were barely affected by the bank closures. Ireland filled the void vacated by frozen deposits by using uncleared cheques as ...

Robert the Bruce: Scottish  £20 issued by Clydesdale Bank. Not legal tender This is my last post on legal tender. It builds on my initial posts on legal tender, various comments, and discussion at Bob Murphy's blog . If you're getting to the debate a bit late, here are the first two posts. 1. Legal Tender 101 2. How do legal tender laws affect purchasing power? Are today's legal tender laws an imposition on monetary freedom? My short answer: not really. In the US, legal tender is comprised of Federal Reserve notes and United States coin. That means that all debts can be discharged with government coins and notes. It might seem that this would impose the circulation of coins and notes on the marketplace. But as I pointed out in my initial post, debtor and creditor can easily get around legal tender rules by negotiating their own settlement media into the terms of a debt contract. As commenter MF points out , there is one debt obligation that's tough to negotiate around:...

I've never understood the global shortage of safe asset meme. I'm willing to be educated. I know that Ricardo Caballero and Gary Gorton have written about the safe asset shortage problem. In the blogosphere it pops up in David Beckworth and David Andolfatto , and the folks at FT Alphaville can't talk about much else. First, there seems to me to be definitional issues. What is a safe asset? Beckworth, for instance, describes them as "those assets that are highly liquid and expected to maintain their value." But liquidity and riskiness are separate concepts. There are many financial instruments that are very liquid yet risky—take the S&P mini futures contract, the most liquid futures contract in the world. There are many low-risk instruments that are illiquid—a 5 year non-cashable Canadian GIC being a good example. How are we to reconcile these oppositions into one definition? Second, it seems to me that the concept of a safety is misspecified. How do we go...

Lars Christensen's excellent post about the necessity of having a monetary constitution includes an interesting point about central bank independence: We want central banks to stop the ad hoc’ism. In fact we don’t even like independent central banks – as we don’t want to give them the opportunity to mess up things. Central bank independence has become the standard approach to structuring the nexus between government service-provider and central bank liquidity-provider over the last fifty years. I think a degree of independence makes a lot of sense. Running a monopoly clearing house (which is really what a central bank is) while simultaneously operating other businesses and charities (which is what a government does) presents a tremendous conflict of interest. For instance, imagine that General Electric was granted a monopoly to operate the U.S. clearing system. Wouldn't we worry that GE might use that clearing system to support its appliance or turbine manufacturing businesses...

We are taught these days to view John Maynard Keynes and Friedrich Hayek as diametric opposites. This meme is encouraged by the Keynes vs Hayek rap videos , or Nicolas Wapshott's book Keynes and Hayek: the Clash that Defined Modern Economics . But when it came to the idea of moneyness, both Keynes and Hayek were in agreement. Wrote Hayek: although we usually assume there is a sharp line of distinction between what is money and what is not—and the law generally tries to makes such a distinction—so far as the causal effects of monetary events are concerned, there is no such clear difference. What we find is rather a continuum in which objects of various degrees of liquidity, or with values which can fluctuate independently of each other, shade into each other in the degree to which they function as money. I have always found it useful to explain to student that it has been rather a misfortune that we describe money by a noun, and that it would be more helpful for the explanation of m...

We discussed the definition of legal tender last week . Legal tender, in short, is any medium that can always be relied on to discharge a debt. Here's the next question—how does the conferral of legal tender status on an item affect that item's value? Here are my rough thoughts. As I did in an older post on chartal coupon money , I'm going to make use of McDonald's Corporation to illustrate monetary phenomena. Let's say McDonald's wants to create its own form of legal tender: frozen meat patties. It does so by setting the 4 inch wide, 1/4 inch thick frozen beef patty as legal tender for all its receivables. This means that anyone indebted to McDonald's has to settle their debt with legal tender patties. If they owe $1000, they have to pay with $1000 worth of beef. Next, McDonald's requires its suppliers, many of whom are entirely dependent on McDonald's for survival, to abide by its legal tender rules. Rather than give up their relationship with McDo...

Mutilated Bank of Thailand baht notes A couple of years ago Mike Sproul and I worked on a short project. Mike wanted to know what portion of outstanding central bank notes are actually held by the public and what percentage has been lost, destroyed in fires and foods, buried, and misplaced. The implications are that if a large percentage of notes have been destroyed over the years, then the central bank holds significant "free" assets in its vaults for which a corresponding liability no longer exists. If you're interested in what backs "money", then this amount is important. This is a similar concept to the idea of a "breakage". Businesses that sell gift cards, which are really just liabilities of the issuer, would prefer if those cards were lost and never redeemed. After all, the issuer will no longer be on the hook for anything and can book a pure profit. Gift card liabilities that are never redeemed are called breakage . The loyalty point industry a...

The trillion dollar coin debate has inspired a lot of chatter about legal tender , not all of it correct. The best source on the meaning of legal tender is Dror Goldberg (the same Dror Goldberg from my Yap Stone post ). His paper, Legal Tender is short and concise. Give it a read. This post is largely based off his work. First off. If someone offers to pay you in legal tender, say a US platinum coin, are you obligated to accept it? The answer is no. When a medium-of-exchange is denoted as legal tender, that means that it must be accepted in the discharge of certain types of debt . If you are engaged in an exchange with someone that doesn't involve the settling of debts, then legal tender laws don't apply. For example, say you walk into a corner store and offer to pay for cigarettes using legal tender platinum coins. The store owner can legally refuse to accept the coins. After all, the two of you are not settling debts—you're engaging in a spot transaction. The owner is on...

The idea behind the trillion dollar platinum coin goes something like this. According to law, President Obama is permitted to take an ounce of platinum, which is worth around $1,500 in the market, and mint it into a collector's coin that says $1 trillion on its face. Obama then heads off to the Federal Reserve and deposits the coin at face value, his $1,500 worth of platinum having been exchanged for $1 trillion worth of fresh Fed deposits. What is being exploited here is the difference between a collector coin's intrinsic value and its legal tender face value. Anyone who has collected American Eagle's will be aware of this difference. On its face, an Eagle is worth $50. But the coin's intrinsic value due to its gold content is well over $1600. Do Eagle's pass at their face value or at intrinsic value? Head on over to the US Mint and you'll see that the Mint is selling $50 Eagles at their intrinsic price of $1,900 or so. Coin dealer American Gold Exchange is h...

For diligent readers who have trudged through my first two post on Yap stones ( here and here ), I promise this will be my last on the subject. There is an interesting exchange between historian Cora Lee Gillilland, the author of The Stone Money of Yap: A Numismatic Survey ( pdf ), and critic David M. Schneider in the December 1976 issue of the American Anthropologist . Schneider was a well known anthropologist and contributor to The Micronesians of Yap and their depopulation . In response to Gillilland's survy, Schneider issues a warning that: Suffice it to say that traditional Yap does not have “money” in any technical sense of the word. None of the objects listed on page 1 [of Gillilland], like yar, gau, ma, or mbul, are money in any proper sense. It is certainly true that rai has been called “stone money” and that the literature which is cited (all of which is very far out-of-date) calls it “money.” And indeed, the Yapese themselves call rai “stone money.” But to call a “co...