Typography

[This is a guest post by Mike Sproul . Mike has posted a few times before to the Moneyess blog.] “If the Treasury were to fill old bottles with banknotes, bury them at suitable depths in disused coal mines which are then filled up to the surface with town rubbish, and leave it to private enterprise on well tried principles of Laissez Faire to dig the notes up again (the right to do so being obtained, of course, by tendering for leases of the note-bearing territory), there need be no more unemployment and, with the help of the repercussions, the real income of the community, and its capital wealth also, would probably become a good deal greater than it actually is. It would, indeed, be more sensible to build houses and the like; but if there are political and practical difficulties in the way of this, the above would be better than nothing.” -J.M. Keynes, The General Theory. Keynes’ ruminations about bank notes and coal mines are a good place to draw a dividing line between classica...

Here's an interesting fact. Remember all those worthless Zimbabwe paper banknotes? The Reserve Bank of Zimbabwe (RBZ), Zimbabwe's central bank, is officially buying them back for cancellation. According to its recent monetary policy statement , the RBZ will be demonetizing old banknotes at the "United Nations rate," that is, at a rate of Z$35 quadrillion to US$1. Stranded Zimbabwe dollar-denominated bank deposits will also be repurchased. As a reminder, Zimbabwe endured a hyperinflation that met its demise in late 2008 when Zimbabweans spontaneously stopped using the Zimbabwe dollar as either a unit of account or medium of exchange, U.S. dollars and South African rand being substituted in their place. Along the way, the RBZ was used by corrupt authorities to subsidize all sorts of crazy schemes , including farm mechanization programs and tourism development facilities. Upon hearing about the RBZ's buyback, entrepreneurial readers may be thinking about an arbitrage...

This is a guest post by Mike Sproul. Many of you may know Mike from his comments on this blog and other economics blogs. I first encountered Mike at the Mises.com website back in 2007 where he would eagerly debate ten or twenty angry Austrians at the same time. Mike was the first to make me wonder why central banks had assets at all. Here is Mike's website.   On October 26, 2008, Porsche announced that it had raised its ownership stake in Volkswagen to 43%, at the same time that it had acquired options that could increase its stake by a further 31%, to a total ownership stake of 74%. The state of Lower Saxony already owned another 20% stake in VW, so Porsche's announcement meant that only 6% of VW's shares were in “free float”, that is, held by investors who might be interested in selling. Porsche's buying had inflated the price of VW stock, and investors had been selling VW short, expecting that once Porsche's buying spree ended, VW shares would fall back to reali...

In a previous post , I made the point that banknotes aren't Samuelsonian bubble assets , say like a chain letter or a ponzi scheme or bitcoin. Upon the dismantling of a central bank, each note has a senior claim on a central bank's remaining assets. Rather than being mere "oblongs of paper", as Samuelson described them, banknotes occupy the very top of the capital structure hierarchy, above stock and bonds. This quality of being "well backed" might be sufficient for notes to trade at a positive value in the first place, and also help explain subsequent fluctuations in the purchasing power of those notes. In this post I revisit these ideas. The process of dismantling a central bank would go like this. Imagine that the Reserve Bank of Fiji announces that it will wind up operations next week and recall all notes. Its assets consist entirely of Fijian dollar-denominated bonds. With the eminent end of Fijian dollars , the entire Fijian economy will have to quick...

1942 Japanese Invasion Philippines Peso with a JAPWANCAP Stamp In his reply to Mike Sproul, Kurt Schuler brings up the question of the determination of the value of a very peculiar kind of money: military currency. Curious, I investigated one example of such money, Japanese-issued "invasion money" in Philippines both during and after World War II. As best I can tell, the mechanism by which the value of these military notes has been mediated has gone through three different phases, each of them teaching us something interesting about money. In January 3, 1942, a few weeks after successfully invading Philippines, the Japanese Commander-in-Chief announced that occupying forces would henceforth use military-issued currency as legal tender. Notes were to circulate at par with existing Philippines "Commonwealth" Pesos. Since this military scrip was not directly convertible into existing pesos, the trick to get it to circulate at par can probably be found in the tersely t...

Kurt Schuler was kind enough to host a Mike Sproul blog post, which I suggest everyone read. I think Mike's backing theory makes a lot of sense. Financial analysis is about kicking the tires of a issuer's assets in order to arrive at a suitable price for the issuer. If we can price stocks and bonds by analyzing the underlying cash flows thrown off by the issuer's assets, then surely we can do the same with bank notes and bills. After all, notes and bills, like stocks and bonds, are basically claims on a share of firm profits. They are all liabilities. Understand the assets and you've understood the liability (subject to the fine print, of course), how much that liability should be worth in the market, and how its price should change. Mike presents his backing theory in opposition to the quantity theory of money . But I don't think the two are mutually exclusive. Rather, they work together to explain how prices are determined. By quantity theory, I mean that all t...

Don Randi Trio +1 at the Baked Potato , Poppy Records, 1971. [ link ] In this post I'll argue that: 1. When it comes to financial assets, the hot potato effect is irrelevant. 2. The hot potato effect is born the moment we begin to talk about non-financial instruments — things you can touch and consume, like gold or cows or houses or whatnot. 3. Because central bank reserves are simultaneously financial assets and a tangible consumables, they are capable of generating a hot potato effect. 4. The moment that central bank money ceases to be valued as a consumer good, its hot potato effect dies. Here's a short illustration of the hot potato effect that should serve as my definition of the term. Imagine that a gold miner finds several huge gold nuggets and quietly brings them to town to sell. The gold miner approaches the town's merchant with an offer to exchange gold for supplies, but at current prices the merchant is already happy with the size of his gold holdings. He wil...

In the comments section of my post on Adam Smith and the Ayr Bank , frequent commenter John S. brought up the real bills doctrine . The phrase real bills doctrine gets thrown around a lot on the internet. To muddy the waters, there are several versions of the doctrine. In this post I hope to dehomogenize the various versions in order to add some clarity. 1. Lloyd Mints's version We may as well start with Lloyd Mints's version, since he coined the phrase real bills doctrine back in 1945 on his way to denouncing the doctrine. Mints taught at the University of Chicago and mentored Milton Friedman. [1] Here is Mints: The real-bills doctrine runs to the effect that restriction of bank earning assets to real bills of exchange will automatically limit, in the most desirable manner, the quantity of bank liabilities; it will cause them to vary in quantity in accordance with the "needs of business"; and it will mean that the bank's assets will be of such a nature that they...

Gavyn Davies's post Will central banks cancel government debt? dovetails nicely with the recent fundamental value of fiat money debate. [For commentary on this debate, see Nick Rowe , Paul Krugman , David Glasner , Stephen Williamson here , here , and here , David Andolfatto , Brad DeLong , and Noah Smith ] Let recap the debate first before turning to Gavyn's post. Noah Smith pointed out that since fiat money is fundamentally worth nothing (its future value = 0), then all financial assets are worth zero. Financial assets, after all, are mere promises to receive fiat money. Now back up a second. As I pointed out here , modern central bank money is not fundamentally worthless. Were it to fall to a small discount to its fundamental value, Warren Buffet would buy every bit of money up. Central bank money has a fundamental value because even if it can no longer be passed off to shopkeepers, there are assets in the central bank's kitty. Modern central bank money provides a cond...