Pee et eter eer er ear ee \d 3 i New York State College of Agriculture At Gornell University Dthara, N. Y. Library Cornell University Library THE CITIZEN’S LIBRARY OF ECONOMICS, POLITICS, AND SOCIOLOGY EDITED BY RICHARD T. ELY, Pu.D., LL.D. PROFESSOR OF POLITICAL ECONOMY UNIVERSITY OF WISCONSIN MONEY A STUDY OF THE THEORY OF THE MEDIUM OF EXCHANGE THE MACMILLAN COMPANY NEW YORK - BOSTON + CHICAGO - DALLAS ATLANTA + SAN FRANCISCO MACMILLAN & CO., Limirrp LONDON - BOMBAY » CALCUTTA MELBOURNE THE MACMILLAN CO. OF CANADA, Lp. TORONTO THE CITIZEN'S LIBRARY Money A Study of the Theory of the Medium of Exchange BY DAVID KINLEY, Px.D. PROFESSOR OF ECONOMICS AND DEAN OF THE COLLEGE OF LITERATURE AND ARTS, IN THE UNIVERSITY OF ILLINOIS Net Bork — THE MACMILLAN COMPANY LONDON: MACMILLAN AND CO., LTD, 1922 All rights reserved CoryRIGHT, 1904, By THE MACMILLAN COMPANY, Set up and electrotyped. Published July, rg04. Norisood 3ress J. &. Cushing Co. — Berwick & Smith Co. Norwood, Mass., U.8.A. PREFACE THE present book is an attempt to present a systematic exposition of the theory, or scientific principles, of money. The historical and descrip- tive literature of the subject is already so volumi- nous and rich that I have not thought it best to enter that field, excepting where necessary for purposes of illustration, and in those cases I have made my references as brief as possible. I began the work at the time when Walker’s “Money” and Jevons’s “ Money and the Mechan- ism of Exchange” were the only books we had in English which purported to do what I had in mind, and I expected to have my task completed long ago. Many things have postponed this com- pletion until now. The field which I attempt to cover has recently been occupied by Professor Laughlin’s “ Principles of Money” and, in part, by Professor Scott’s “Money and Banking.” If my own book had not been practically all written at the time of the appearance of these works, I might not have written it at all; but as so much of it was already done, it seemed best to me to finish it. It is my hope that some new points will be found in the work, although I am painfully aware Vv vi PREFACE of the likelihood that what is new may not be important, and what is important may not be new. As Jevons once wrote, ‘“‘I am far from supposing that the exact relations in regard to prices, com- modities, gold, and capital have been hit upon. I do not believe that any of our economists have yet untied this. Gordian knot of economic sci- ence, although some cut it in a very unhesitating manner.”! It will be seen that neither in my view of the influence of credit, nor of the relation of the quan- tity of money to its value, am I in accord with Professor Laughlin or Professor Scott. I take occasion, however, to express my appreciation of the high quality of both works and of the help they have both given me. The authorities to whom I am indebted are too numerous to mention specifically. The references at the beginning of each chapter will indicate in a general way where I have found my inspiration and my help. I am indebted to several friends for help in carrying out my work. In the first place, I wish to express my warm appreciation of the kindly patience and inspiring helpfulness of my friend, the editor. Without his encouragement I doubt very much whether I would have had patience to finish the work, owing to the harassing incidents of my administrative work. Next, I am deeply indebted to my colleague, Professor N. A. Weston, who has read a large part of the manuscript and 16 Investigations in Currency and Finance,” p. 32. PREFACE vil criticised it, I am glad to say, somewhat severely. His criticisms of the new points, however, were from the standpoint of accepted doctrines, and, after considering them carefully, I decided that I must let my innovations stand. To Professor Weston also belongs the credit of preparing the bibliography at the end of the book. It is design- edly confined mainly to Money, to the exclusion of Credit and Banking. Professor M. B. Ham- mond, Professor M. H. Robinson, and Mr. L. W. Zartman, Fellow in Economics, have also given me assistance, which J am glad to acknowledge. I hope soon to supplement this book with one on Credit and Banking. DAVID KINLEY. UNIVERSITY OF ILLINOIS, March 16, 1904. CONTENTS CHAPTER I THE SociAL IMPORTANCE OF MONEY SECTION e eee pw on n OW AMNDH DN The Intimate Connection of the aa of Exchange with Social Progress . . . Adaptation of the Monetary System to the Reveling Stage of Economic Life . ‘ $ . Relation of the Monetary System to ie Seale of In- comes . . , F : : Division of Labor “ed the emir Sraler . 7 . The Monetary System and Political and Economic Freedom . 3 z 5 é . The Monetary Sratern aa Mattonaltty . ‘ ‘ . The Monetary System and Economic Prosperity . . . The Monetary System and the Distribution of Wealth . The Socialistic View of the Monetary System i * CHAPTER II THE EvoLutTion oF MONEY . The Conjectural Character of Early Monetary History . The Character of Monetary Evolution . . ‘ 2 The First Service of the Money Article . 5 a 2 The Selection of the Money Commodity a . . Kind of Article Selected . : ‘ . . . . Subdivision of the Money Article . - i - Influence of the Market on the Evolution of Miouey - The Complex Character of the Mechanism of Ex- change . . . . . . . oe . 284 17, The Total Utility Standard. ‘ . . . » 285 18. The Purchaser’s Surplus Standard . . . . « 287 CHAPTER XIV BIMETALLISM 1. The Nature of Bimetallism . A . . . » 292 2. The Advantages claimed for Bimetallism ‘ . + 204 3. The Maintenance of the Chosen Ratio of Exchange between Gold and Silver . : a . 7 - 296 4. Some Factors adverse to the Maintenance of the Ratio . 299 5. Bimetallism and Fluctuations of the Price Level . + 301 6. Bimetallism as a Relief from the Burden of Debts . « 304 7. Bimetallism would not provide a Slowly Depreciating Currency . @ : . - 306 8. Obstacles to Intemational Binictalliem % . + 307 g. The Increase in Gold and the Bimetallic Astiatian 3 + 309 1o, Symmetallism . w j 5 . . . . . 311 11, Neo-bimetallism . . 2 . . . . - 312 12, Commissions to regulate the Price Level A . » 313 CHAPTER XV SoME FacTroRs WHICH MODIFY THE INFLUENCE OF PRICE CHANGES 1. Cause of the Demand for Steadiness of the Price Level . 317 2. Industrial Improvements diminish the Burden of Debts of Producers : ‘ . . - 318 The Debtor Class also a Creditor Class . . . + 319 w ° CONTENTS SECTION 4. Debts contracted for Profit . . . é . 5. Effect of shortening the Period of Debts : 6. The Influence of the Speculator in ere the Effect of Price Changes . 7. The Influence of the Rate of Tnterest on the Burden of Debts . 8. Difficulty of doing “Justices by Aelia Corrections ai Price Changes. é g. Gold Monometallism probably does Substantial Justice in the Long Run P . : ° ° . . CHAPTER XVI INCONVERTIBLE PAPER MONEY 1. Kinds of Paper Money . . . . . - . 2. Meaning of Convertibility : ¢ - ‘ . . 3. Characteristics of Irredeemable Paper . é s A 4. Benefits and Dangers of Irredeemable Paper . * j 5. Influence of the Issue of Irredeemable Paper on Specie 6. Signs of Excessive Issue. s a . 7. The Relation of the Quantity of Tokdayectitile Paper ts oo Io. I. 12. 13. 14. 15 I 2. its Value . The Effect of an Issue of Paper Money on nthe Prieé Lael . The Premium on Gold and the Poe, of Paper in Commodities ci . . . Special Provisions for sriainbsintap the Value af Trre- deemable Paper . - 3 . 7 . . The Evils of Irredeemable Faper Fi . . . The Fiscal Advantage of Irredeemable Paper . . Motives to the Issue of Irredeemable Paper . Some Noted Historical Examples of Irredeemable Paper Regulation of Irredeemable Paper . . . . CHAPTER XVII CONVERTIBLE PAPER CURRENCY By whom Convertible Paper Notes are Issued . . . The Advantages of Government Convertible Currency . xvil PAGE 320 320 322 322 326 327 329 330 331 333 335 337 339 341 344 347 349 35° 351 352 353 355 356 xviii CONTENTS SECTION 3. Convertible Bank Paper . : 4. The Meaning of the Term “ Elasticity’ ” as applied fo Convertible Paper Currency es 7 5. On the Desirability of Elasticity 6. The Banking Theory and the Currency ‘Theary et Note Issue . - . . . . 7. The Power of a Bank £6 force its Paper into Circulation 8. Some Practical Considerations which modify the Above Conclusions . - Fi : 9. Provision of Proper Gafeanauls for Note Issue 10. Regulation of Note Issues by limiting their Volume ‘ 11. Regulation of Note Issues by controlling Reserve . . 12. The Minimum Reserve Method . . js . 13. Proportional Reserve Method . ° . : . . 14. Simple Deposit Method . . . . . . . 15. The Partial Deposit Method . . . . . . 16. The Bond-deposit Method . : s . . . 17. The Safety-fund Method . . . ; 7 18. Notes issued on General Assets . . . 19. The Advantages of combining Several Methods 7 zo. Comparative Advantages and Disadvantages of Govern- ment and Bank Issues : % . a e . PAGE 358 359 361 363 365 369 372 373 374 375 476 376 377 378 381 382 383 385 MONEY MONEY CHAPTER I THE SOCIAL IMPORTANCE OF MONEY REFERENCES: Buckle, H. T., History of Civilization in Eng- land, Vol. II., p. 318; Del Mar, Alex., Money and Civilization; Harper, J. W., Money and Social Problems, Ch. 3; Jevons, W. S., Money and the Mechanism of Exchange, Chs. 1, 15; Nicholson, J. S., Money and Monetary, Problems, 5th ed., pp. 16-17, 107-110; Tucker, George, Theory of Money and Banks, Ch. 3. 1. The Intimate Connection of the System of Exchange with Social Progress. —We are so accus- tomed to the conveniences of the modern system of exchange that we seldom reflect on its historical significance or its present importance. Yet that system is, in a way, an epitome of the history of civilization. There is no phase of life which the system of exchange, or the monetary system, has not affected ; there is no byway of the life of the individual, or of society, into which its influence does not reach. Some writers minimize the importance of the monetary system of exchange as a factor in prog- ress and prosperity. Some, ethically inclined, and influenced by the evils which spring from the bad use of money and credit, insist that these means B I MONEY of exchange are not necessary to industry, and think to purify society by abolishing them. Others, with Mill, look at money as a third wheel, and tell us that “there cannot . . . be intrinsically a more insignificant thing, in the economy of society.” ! It is a little difficult to get the point of view from which a writer of Mill’s logical sense could make a remark so wide of the truth. Far from playing an unimportant réle, money is now, more than ever before, a social necessity ; as necessary to the easy exchange of material goods as is writing or printing to the interchange of ideas. So inter- woven with all phases of the life of society is the modern system of exchange that were it suddenly destroyed, much that is best in civilized life would be swept away; many of its noblest influences, which are commonly thought of as far removed from contact with thoughts of money, would van- ish; much of the breadth of view and the tolera- tion of spirit that comes from contact, even indirect and remote, with other peoples, workers in other fields, would be lost. The monetary system of a country reflects its economic progress. The system of exchange is at once a cause and a consequence of the stage of economic development. With every change in the form of industrial life has come a change in the system of exchange. ‘Corresponding to the changes in productive methods under mechanical machinery we should find the rapid growth of a 1“ Principles of Political Economy,” III, vii., 3. 2 THE SOCIAL IMPORTANCE OF MONEY complex monetary system reflecting in its inter- national and national character, in its elaborate Structure of credit, the leading characteristics which we find in modern productive and distribu- tive industry. The whole industrial movement might be regarded from the financial or monetary point of view.” ! 2. Adaptation of the Monetary System to the Prevailing Stage of Economic Life. — The forms of money and the whole mechanism of exchange at any time are adapted to the stage of industry and trade, and to the scale of incomes which prevails at the time. Where trade is limited, industry primitive, and market values low, we expect to find a simple and inexpensive money and a simple mechanism of exchange, with the credit system but little developed. Where industry and trade are highly organized, where business is relatively complex and expensive, and the scale of market values and of incomes high, we expect to find money of a high cost of production, and the mech- anism of exchange correspondingly complex and costly. His arrow-heads, his bow, and the skins of the beasts he kills, are the natural features of the system of exchange in the simple economic life of the huntsman. Gold, in the form of a highly finished tool, representative paper money, and the manifold forms of a credit system, widely extended and intricately ramified, are the equally natural features of the system of exchange necessary to 1 Hobson, “ Evolution of Modern Capitalism,” p. 7. 3 MONEY the complex relations of the modern business world. The people of a country with little capital endeavor to economize that little by stretching their credit. Unable or unwilling to sink labor and goods in the production of a material money, they seek to carry on their exchanges by means of its paper representatives. A rich commercial country, with abundance of capital to spare for use as money, provides itself with a plentiful supply of metallic money and rests easily and without strain, upon the basis so provided, a complex system of credit exchanges that reaches every market of the world. In short, the stage of development of their system of exchange is a measure of the industrial development of a people. 3. Relation of the Monetary System to the Scale of Incomes. More particularly, the standard of living of a community is disclosed, more or less accurately, by the kind and denominations of the money it uses. Since expenditures depend on the scale of incomes, small incomes imply small pur- chases; small purchases require small denomina- tions and a cheap money material. If goods to the value of ten cents a day represent the pur- chases necessary to the daily living of the larger number of the people of a country, the unit of money commonly in their thoughts is the cent. If, on the contrary, the usual expenditure of a majority of the people is a dollar and a half or two dollars a day, they think in dollars rather than in cents. To millions of Chinamen, cash, representing a 4 THE SOCIAL IMPORTANCE OF MONEY fraction of a cent, is the unit of purchases for a day. To an American the dollar is the familiar unit of account. The difference in the value of the two units indicates, at least roughly, the differ- ence in the scale of expenditure, and, therefore, of the standards of consumption, of the two peoples. 4. Division of Labor and the Monetary System.— Further, it is a commonplace remark that the modern system of production depends upon the extent to which the division of labor can be car- ried ; but the extent to which this division can be carried is greatly increased by an easily working system of exchange, since the size of the market depends largely on the facility of exchange of products. The remark holds as well for the divi- sion of labor between different countries as be- tween different localities within a country. In other words, money is necessary to large interna- tional trade. Without some system of exchange each country would have to provide for itself all that it needed to consume. If the mechanism of exchange, especially the credit portion of it, were to break down, the trade between countries would be so deranged that the different nations of the world would be thrown back into positions of relative economic isolation, such as characterized them before the era of modern civilization began. While it is very far from being true that Rome fell, as Sir Archibald Allison has said, because of a growing dearth of money, yet that lack un- doubtedly had an influence in checking trade, 5 MONEY lowering the standard of living, and retarding that free intercourse necessary to produce the com munity of interest, without which no country of extended territory can long remain intact. 5. The Monetary System and Political and Eco- nomic Freedom. — Money has undoubtedly been the means of promoting freedom, both political and industrial. Sir Henry Maine has pointed out that social progress is quickened by the substitution of contract for custom in the dealings of men. Cus- tom has made way for competition and status for contract in the domain of economic exchange as the money economy has extended, and has left the payer of taxes and tithes and rents, as well as the seller of goods, freer because of its extension. For contracts are more readily discharged, and there- fore more widely extended, with a medium of pay- ment that is general in character and acceptability. One of the most striking historical illustrations of the impulse which a money exchange gives to social and political improvement is found in the betterment of the condition of the serfs in the Middle Ages by the commutation of the services due their overlords into money payments. ‘So far from being an evil, during this period at any rate, the extension of the use of money as a medium of exchange was the means of effecting great social reforms, and there can be little doubt that progress was retarded largely by a deficiency of the precious metals, especially the dearth of silver.”! 1 Nicholson. “ Money and Monetary Problems,” 5th ed., p. 17. 6 THE SOCIAL IMPORTANCE OF MONEY It is true, too, that in the later Middle Ages the growing use of money to replace exchange by barter made it easier to raise revenue for purposes of defence, and thus strengthened the cities and kings in their struggles with the feudal aristocracy. As the revenue needed grew larger, and increased taxes were in consequence imposed, the demand for greater freedom and for a larger voice in the control of the government became stronger, so that a better system of exchange indirectly in- creased personal freedom. Somewhat similar is the influence of money wages and rent on the con- dition of the negro in the South. Of the economic classes among the negroes, Mr. Du Bois paints darkly the life of the “cropper” and the “ metayer,” and remarks that “a degree above these we may place those laborers who receive money wages for their work,” while “the renters for fixed money rentals are the first of the emerging classes.”’! A later instance of the good influence of the extended use of money in promoting economic freedom is found in laws abolishing the truck system and requiring that wages be paid in money. Great abuses grew up in England and in certain parts of this country under the truck system. It was not only that those who lived under it suffered loss from having to pay unreasonably high prices, but, worse, that they were not free to buy where and as they pleased, and had not the power, which ready money gives, of seeking an economic escape 1 W. E. B. Du Bois, “The Souls of Black Folk,” p. 159. 7 MONEY from their hard conditions. Under such a system the man who is politically free may be economically enslaved ; and the person who is economically a serf cannot long effectively exercise the rights of political freedom. 6. The Monetary System and Nationality. — The modern mechanism of exchange exercises an influence, too, for the promotion of national unity. Money, and the division of labor and exchange which the wide use of money implies, destroyed the self-sufficing villages of English economic history, and taught their people the advantages of mutual dependence and community of interests. The industrial and commercial unity so developed laid the foundation for an intenser common na- tional feeling. In a similar way international comity is promoted. Like the system of trans- portation, the mechanism of exchange brings the people in different parts of the world into closer touch with one another. The interests of the people of different countries are united, and the facility with which the transfer of capital is made in these days is doing much to break down the industrial isolation that custom and national prejudice have fostered so long. The influence which the system of exchange exerts in bringing different countries closer together would be greatly increased by the adoption of a uniform coinage system throughout the civilized world, or at least by the great commercial countries. The adoption of a common monetary system by 8 THE SOCIAL IMPORTANCE OF MONEY the great nations of the earth has been prevented partly by national prejudice, and partly by the in- convenience involved in making the change. Each nation is unwilling to give up its own system, and is ready to consent to the adoption of a common coinage only if its monetary unit be made the com- monone. Moreover, each country is anxious to get whatever advantage in trade is brought by the use of its coins in other countries. There is a feeling that German or English trade, for example, will be promoted in the Orient by the use of the German or the English coins. While there is some force in these contentions, the benefits that would accrue from a unification of the world’s monetary system would far outweigh any detriment that might come to particular countries. 7. The Monetary System and Economic Prosper- ity. — The modern system of exchange promotes industry and trade by making the aggregation of capital easier. It enables people to turn their savings into money and, by depositing it in savings institutions, or by purchasing the shares of corpora- tions, to concentrate under the direction of com- petent men the large capital necessary to the great enterprises of the present day. Still more, the modern monetary system facilitates the transfer as well as the aggregation of capital. Money is the most general form of capital, capital in the fluid state, so that it can be immediately turned to new enterprises and transferred for investment to dis- tant places. Without this fluidity, investments 9 MONEY would necessarily be more local in their character. and the industrial possibilities of distant places in need of capital could not be so readily developed. The monetary system indirectly increases the total utilities available for consumption by the com- munity. If a community effects its exchanges by barter alone, it does so at a certain cost. The in- troduction of money exchange, under proper con- ditions, will lessen that cost and thereby increase the volume of goods available for consumption. The same effect is produced in a community which already makes its exchanges with money, if by an increase in the amount of money exchanges can be effected which could not be effected before. Not only may the introduction or extension of monetary exchange increase the net consumption of a community, by decreasing the cost of making its exchanges, but either may add directly to the available utilities. For in a régime of barter, for example, many people possess things which have no direct use to them, but have to others. As soon as this is found out, the things acquire an indirect importance to their owners, and an exchange value. From the point of view of society money has, of course, no superiority over other kinds of goods. The belief was once common, and is still held by a good many people, that because an individual is richer the more money he has, the same is true of a country as a whole. But this is nat so. The money can be used by the country, regarded as a whole, only to do its domestic business or to buy 10 THE SOCIAL IMPORTANCE OF MONEY foreign goods. If any country could arbitrarily in- crease her amount of gold, the larger quantity, generally speaking, would simply effect the same amount of exchanges as the smaller did, but on a different price level. As a matter of fact, how- ever, an excess of money would flow abroad for goods. The only case in which a country is richer by the possession of gold beyond her need for it for purposes of payment is when she possesses her own mines. For then she can send her surplus gold abroad in exchange for other goods, and she becomes richer, not by keeping her gold, but by parting with it. A country is no better off from having a surplus of money than is a railroad company with more locomotives than it can use economically. 8. The Monetary System and the Distribution of Wealth. — On the other hand, the monetary system of exchange involves disadvantages which appear to some minds so serious as to offset the good it does. Some people believe, for example, that money produces inequality of wealth. There is a certain plausibility in this opinion. For the pos- sessor of money has a certain advantage over holders of other forms of wealth, because his goods are in general demand; while the owner of other forms of. wealth, if he wishes to exchange, must search for a purchaser who has what he wants to buy and is willing to take what he has to offer. This fact gives the owner of money a pecul- iar industrial and social power, a kind of monopo- listic advantage. It may be said in opposition to 11 MONEY this view, that the same advantage lies with any one who happens to have an article for which there is a strong demand. There are occasions on which the possessor of wheat, for example, has an advan- tage in trade over the man who has money, that is, when the demand for wheat is strong and its supply limited. This, however, is not a sufficient answer, for any one will take money for his goods, but not every one cares to take wheat beyond a very limited quantity, if at all. If a man owns a house for which he paid $5000, he can buy other things with it only as opportunity offers. If he has $5000 in money, he can buy other things as he pleases. The market for other things is more or less local ; that for money is universal. There is always a market somewhere, in some measure, for any eco- nomic goods, but the individual who has any kind of goods but money must find this somewhere and some measure. The owner of money needs not do so. Nevertheless, inequality of wealth really de- pends very little on the existence of money. Such inequalities were never greater than in pastoraland agricultural states, where wealth consisted of cattle and land. The rich are not rich because they have large quantities of money, for they do not keep their wealth in that form; but because they have acquired a legal title to a large share of the goods in the community. Another disadvantage of the monetary system lies in the disturbance which changes in the value of money cause in the distribution of incomes. 12 THE SOCIAL IMPORTANCE OF MONEY Money is the vehicle of the distribution of product, and variations in its value between the times of re- ceiving income and spending it, may change the relation of the distribution. The owner of money gains or loses, when he purchases, with every change in its value. It is true that fluctuations in the value of money may, in the long run, offset one another, so that the loss of to-day becomes the gain of to-morrow. The trouble is that the gain is not always —or perhaps seldom — made by the same persons who experience the loss. 9. The Socialistic View of the Monetary Sys- tem. — Notwithstanding the evils which the use of money entails, and the impossibility of removing all of them, we may not conclude, with the socialist, that money and the monetary system could be dis- pensed with. Even if the socialist’s dream could be realized, and all producers should turn their products into a common fund on which each would draw with equal right, it would still be necessary to have some evidence of these rights and claims, if only checks issued by the government. If the owners of these checks accepted them from one another, instead of always presenting them directly to the government warehouse, they would be, to all intents and purposes, paper money. That they would thus pass current in the absence of any other medium of exchange would be inevitable, since their currency would be necessary in order to enable each person to sell his own product for other things in such quantities and at such times as he needed them. 13 CHAPTER II THE EVOLUTION OF MONEY REFERENCES: Babelon, Les Origines de Ja Monnaie ; Biicher, K., Industrial Evolution, pp. 67 ff. ; Carlile, W. W., Evolution of Modern Money; Del Mar, A., History of the World’s Monetary Systems ; Jevons, W. S., Money and the Mechanism of Exchange, Ch. 4; Laveleye, E. de, La Monnaie et le Bimetallisme International, Ch. 1 ; Lenormant, P., La Monnaie dans antiquité; Menger, K., On the Origin of Money, Econ. Journ., 1892, pp. 239-255; White, H., Money and Banking, pp. 12-14. 1. The Conjectural Character of Early Monetary History. — There is a perennial interest in the life of early man. His habits, the instruments he used, and his ways of doing things have always been subjects of curious inquiry on the part of the anti- quarian and historian. We rake over the refuse heaps of past generations to find the kind of tools with which they worked; and use the known re- mains of a lost language to reconstruct the religious beliefs and social customs of the people who spoke it. While many of the conclusions resulting from these inquiries rest upon a substantial basis of fact, there are some that can be classed only as conjec- tures. But when these conjectures are plausible, they are likely to be accepted as correct explana- tions of the conditions they attempt to describe long 14 THE EVOLUTION OF MONEY after their origin and character has been forgotten, and by people to whom it was never known. There is no phase of the history of early institu- tions to which these remarks are more applicable than to money. The generally accepted explana- tion of the origin and development of the system of exchange is largely conjectural. It found its beginning in the @ priorz conceptions of Aristotle. It seems evident enough that the writer who would attempt to give the correct explanation of the early history of money should have at hand considerable information about life in primitive communities; but neither Aristotle nor his contemporaries had sufficient information on this subject to justify us in thinking that he or they could frame an expla- nation of money that we could accept as historically correct. It savors, doubtless, of economic heresy to say it, yet nothing can be clearer than that Aristotle’s explanation of the origin of money is pure conjecture, and is a corollary of his distinc- tion between what he calls the natural and the conventional modes of acquiring property. Speak- ing of buying and selling, he says: “The other or more complex form of exchange grew out of the simpler [or barter]. When the inhabitants of one country became more dependent on those of another, and they imported what they needed and exported the surplus, money necessarily came into use... . Hence men agreed to employ, in their dealings with each other, something which was intrinsically useful and easily applicable to the 15 MONEY purposes of life, for example, iron, silver, and the like.” 1 In this passage, especially in the last sentence, we have clearly set forth the theory which has been accepted throughout the centuries as describ- ing an actual historical evolution, but is nothing more than Aristotle’s guess of what probably oc- curred. Being plausible and at the same time Aristotelian, it has come down to us through gen- erations of writers, with scarcely any modification. We find Paulus, for example, saying that “a sub- stance was chosen which, from its permanent and universal value, might become the medium of ex- change, and obviate the difficulties constantly aris- ing in the system of barter.”? It is clear that for this passage the Roman lawyer is the debtor of the Greek philosopher. Not only is the common theory of the origin of money conjectural, but so, too, are some of the explanations of the development of the system of exchange. Hildebrand and others have told us, for example, that the régime of barter was dis- placed with one of money, and that this in turn will in time give place to a system of exchange by means of credit. We are told that the extent of the use of credit in a given country may be looked upon as a test of its civilization; that as a country becomes more highly civilized it discards barter and diminishes its use of money. The pertinacity 1“ Politics,” I., 9, 7. Jowett’s ed. 2 Digest XVIII., p. 1. Quoted by Lenormant in Cons. Rev., p. 34. 16 THE EVOLUTION OF MONEY of this theory, which has been held by not a few, is probably due in part to its simplicity, and by its show of conformity to what is called evolution. It is too great a strain on one’s credulity to believe that primitive man had as much knowledge of trade as is imputed to him in Gossen’s theory that money and exchange presuppose a knowledge of the advantage of exchange in reducing cost of pro- duction. But such explanations of the origin and development of the system of exchange assume too much knowledge of trade and too accurate foresight on the part of primitive man, and a course of development that is too simple and too clean-cut. The explanation of our social progress would be beautifully easy if we could assume that every old habit and institution was to be consigned to the limbo of the forgotten and unused as soon as some new means of performing its work were discovered ; and that we could always select in ad- vance an improved means of accomplishing our purpose. 2. The Character of Monetary Evolution. — Yet criticism of such theories must not be severe, for the temptation to interpret the past by the present and to attribute to other people motives and knowl- edge that are our own, is a pitfall that few writers succeed in escaping. The first use of money did not arise from any agreement among men, nor has the evolution of our system of exchange been one of successive displacements of one means of ex- change by another. Like other institutions, both c 17 MONEY are slow and unconscious growths from conditions and actions which existed, in germ at least, in very early times. For all three methods of trading known to the modern world — barter, money, and credit — were present in societies of more or less primitive civilization. Some early peoples traded only by means of barter, while others used barter and money, or barter ard credit, or all three means ; and no society has abandoned one means of ex- change because it resorted to another. Illustrations of these facts may be found in some of the data col- lected by Herbert Spencer.1 Among the ancient Mexicans, for example, trade was carried on by both barter and money. The money system in use was what may be called a poly-commodity system, and comprised five articles: cocoa beans, small cotton cloths, gold dust in goose quills, copper, and tin. The Shillooks, a Nigritian tribe on the White Nile, are said to have made contracts valid for one month.?- Among the inhabitants of Yucatan there was an active trade by means of a similar money system, and goods were sold on credit, without interest; while among another South American people, the Chibchaws, interest was charged. Among the Bondas, a tribe of lower Guinea, strings of beads and cowry shells were the media of exchange, while the ordinary media of the Fuegians consisted of small pieces of damoor cloth, tin rings, 1“ Data of Sociology.” 2 Featherman, “ Social History of the Races of Mankind,” Vol. L., pp. 66, 410, 424, 731, 735; Vol. V., p. 601. 18 THE EVOLUTION OF MONEY slaves, and glass beads. Such cases show clearly that the evolution of the system of exchange has not been everywhere along a single line. In some cases it was from barter to money, or money and credit; but in others, credit seems to be found as early as barter, and not infrequently more than one kind of money was used by primitive peoples. If, now, it be true that all the phases of the existing mechanism of exchange were recognized in more primitive societies, in what sense can we properly say that there has been an evolution in the system of exchange? In this sense: barter, the use of money in each single exchange, deferred money payments, and cancellation of indebtedness by credit paper, while used in all stages of social development, are used in different combinations, with different emphasis on the different members of the series among different peoples at the various stages of their civilization. It is a case of evolution in which all the organs are present, even in the most rudimentary form of the organism; but dif- ferent organs and different groups of organs have been developed by different descendants of the original organism because they have lived under different conditions. The conditions of their in- dustrial life have determined whether, among a given people, barter, or money, or credit, should be the most prominent feature of their system of exchange. 3. The First Service of the Money Article. — The use of an article, or articles, as intermediate 19 MONEY goods implies that it performs the two services of promoting exchange and expressing value. There has been a good deal of discussion of the question which of these services was first recognized. Was the first use of an article as money due to the need for a means of exchange, or to that for a common measure of value? Each view has its advocates, but the question is not of much importance, and has but little interest for the economist. Some insist that the idea of facilitating exchange must have followed the use of the money commodity for comparing values; others, that the concep- tion of a measure of value is necessarily in- volved in that of a medium of exchange. As Professor Bonamy Price puts the matter: “The savages who first took to cowry shells would hardly be up to such a thought as comparing goods with one another. The given measure was the consequence, not the motive, of the use of money.” This hardly seems the reasonable view, for we cannot believe that a comparison of values did not take place, even in the earliest use of a medium of exchange. Rational beings, even though savages, would hardly exchange their goods without reference to their value. The fact that the money was itself an article of consump- tion is sufficient proof of this view. 4, The Selection of the Money Commodity. — Of more importance than the question which service of money was first recognized, is the inquiry: What causes led ta the gradual narrowing of the 20 THE EVOLUTION:-OF MONEY circle of things used as money and the final set- tling upon one ortwo? In other words, what were the characteristics of the things most suitable for the purpose? Here again we are tempted to im- pute conscious choice to early man. We write or speak of his choosing this or that article as the exchange medium. But this cannot be the correct description of the facts. The result was reached unpurposively. The thing which was fittest at the time to serve as a medium of exchange, became the medium ; but fittest can mean only that which caused less inconvenience than other things which were used for the same purpose. The reduction of the number of things used as money came from noticing the wider acceptance of some as compared with others. That commodity for which the demand was most general established itself, without previous reasoning, on the part of its users. Among the multitude of things which men exchanged there must always have been some which, from whatever cause, were more readily or more generally sought than others. It was doubtless soon seen that these articles were the best ones for a person to get if he sold his goods at a time when he did not want things for immediate consumption. For the articles in most general demand would be most easily exchanged later on for others, and therefore came to be looked on more or less as intermediate goods. In time this circle of articles became narrower by a process of unconscious selection as experience 21 MONEY showed which of them best served the purpose of a commodity go-between in trade. Their character as consumption goods became relatively less important, and their character as intermediate goods more so. If this process of selection could be carried to its logical conclusion, it would result in finding for use as money an article which could not serve any purpose of direct consumption. The nearest approach to such a money is bank or government paper money. Moreover, that article which by its natural divisions was best suited to the prevailing range of values, was doubtless found to be more convenient than any other. It is very likely that these two attributes, general acceptability and convenient subdivision, were the qualities that had most to do with the final deter- mination of the medium of exchange. 5. Kind of Article Selected. — The article which, in early times, was generally acceptable was not always the same. Sometimes it was a necessary of life, sometimes an ornament. Articles which served the latter purpose were likely to be ac- cepted over a wider area, but the generalness of the acceptability of a particular thing depended mainly on the stage of economic life a community had reached. Skins and furs were always in demand in a community of hunters, cattle in one of shepherds, dates in a date country, and wam- pum beads, or cowry shells, or gold, where these were highly valued for personal adornment. As soon as it was recognized by all the people in a 22 THE EVOLUTION OF MONEY community that a certain article could be sold at any time, it became the medium of exchange, the money of that community. The article thus took on a new function. Instead of being simply a thing for direct consumption, it became in addi- tion an instrumental good, a means of facilitating exchanges and measuring values. There was an added demand for it, and it therefore took on a higher exchange power. 6. Subdivision of the Money Article. — But money, chosen from such commodities as men in a low industrial society had at their disposal, had incon- veniences of its own. Some people probably could not get an article which was at the same time in general demand and capable of convenient division. This difficulty seems to have been met by the early use of what may be called represen- tative money. We know that the early Greek coins were stamped with the figure of an ox, and the early Chinese with that of a shirt! One form of early Russian money consisted of small pieces of definite shapes cut from the skins of animals and passed from hand to hand as tokens of owner- ship of the whole skins. The ox, the shirt, the skin, were each too heavy or too large to pass about. A piece of metal shaped like the horse or the shirt, or a disk with pictures of these stamped on it, or a piece of skin shaped so that it would fita hole in a certain complete skin, all obviously 1 Dean, “ History of Civilization,” Vol. II., p. 76; Nineteenth Cent. Mag., Vol. V1., p. 789. 23 MONEY mean that they entitled the receiver to expect goods of a value equivalent to that of the horse, or the ox, or the shirt. The value of the metal itself was, perhaps, not prominent in the minds of the exchangers at first, so that the money was representative. Not for some time was the value of the money thing taken for the measure of the value of the goods it bought. Experience taught men in time that the metals, of one kind or another, served as a medium of exchange better than anything else that had been tried. For the metals, as Menger says, possess in higher degree than any other article the attri- bute of universal salableness. As the standard of life rose and the range of prices became higher, a more valuable unit was needed, and this need gradually led to the use of the most valuable metal available. Curiously enough, when the stage was reached where the most valuable came into use, it was found necessary to return to what has been called the poly-commodity system. The most valuable metal was not divisible into convenient units of small enough value to suit the scale of prices and the range of incomes. So modern man uses gold for his larger payments and more valuable exchanges, and one or two, or more, other articles for payments of value too small to admit of the use of the dearest metal. 7. Influence of the Market on the Evolution of Money.— The principal influence in the evolution of the money commodity was, of course, the growth 24 THE EVOLUTION OF MONEY of trade in volume and complexity. Indeed, it may be said that the development of the money system depended entirely on the development of the market. Barter was the earliest form of trade, because it is the form peculiarly suited to that stage of trade in which exchanges were few, local, and between individuals who wanted articles for direct personal use. In time, trade between indi- viduals gave place to local markets on the border- land between tribes, and these markets, in some cases, became regular established fairs, in which the traders found profit by bringing the products of different localities to these centres of trade. This class it was whose experiences of the incon- veniences of barter, and of the use of several things as money at the same time, gradually led to the various steps of progress that have been briefly described. So long as there was no sepa- rate trading class and no market in the commu- nity, individuals could as well as not use any one of a variety of goods to pay for their purchases. In local markets the adaptation of the single money medium would be a matter of great convenience, and in trade between different communities it would be almost a necessity. 8. The Complex Character of the Mechanism of Exchange. — We have seen that barter and credit, as well as money, are found as means of exchange in communities of a low degree of civilization, so that we cannot accept Hildebrand’s cut-and-dried theory of simple steps from one to another of the 25 MONEY three means. Of course the credit methods used in undeveloped communities were of a very simple character. We cannot in any case speak correctly of the existence of a credit system in such cases. So far as credit was used at all, it assumed the form of debt between individuals with direct per- sonal payment by debtor to creditor. Cancellation of indebtedness was unknown, for the clearing sys- tem, even in its simplest form, belongs to a com- paratively higher stage of civilization. The sphere of barter in the modern world is still somewhat ex- tensive. In the country districts of even the most highly civilized countries the farmer still brings his produce to the country storekeeper to exchange it for what he needs, and the world is far from hav- ing abandoned the payment of labor in kind. But as the different countries become more thickly set- tled, and society becomes more integrated, we may look for still greater restrictions of the sphere of direct barter. Perhaps in the far future barter will cease to be important as compared with the total trade of the world. But here, as in many other cases, the simple method discovered by the world in its infancy will always prove serviceable, and perhaps necessary, to the world in its maturity. It is the simple which is universal. 26 CHAPTER III COINAGE REFERENCES: Evans, G. G., History of the United States Mint and Coinage; Hepburn, A. B., History of Coinage and Currency in the United States, Pt. I., Chs. 1, 2, 3; Jevons, W. S., Money and the Mechanism of Exchange, Ch. 7; Knies, K., Das Geld, 2d ed., pp. 192-210; Laughlin, J. L., Principles of Money, Ch. 2; Liver- pool, Lord, Treatise of the Coins of the Realm; Muhleman, M., Monetary Systems of the World; Nicholson, J. S., Money and Monetary Problems, Pt. I., Ch. 3; Norman, J. H., The World’s Metal Monetary Systems, pp. 8, 12,45; Ridgeway, W., Origin of Metallic Currency and Weight Standards ; Scott, W. A., Money and Banking, Ch. 5; Watson, D. K., History of American Coinage ; White, H., Money and Banking, 2d ed., Ch. 2. 1. Natural Objects as Monetary Units.— Man naturally turned for his first money to something ready to his hand. The earliest forms of the medium of exchange were, therefore, natural ob- jects, and the diversity of the things used for the purpose by different peoples is almost as great as that of the portable natural objects available. It was necessary, however, to find articles whose units were of as nearly equal purchasing power as possible, and also capable of subdivision to make purchases of different amounts. The first of these needs gradually led to the selection of natural Zs a7 MONEY objects which were approximately uniform in size, shape, and color. Theneed for money units of dif- ferent purchasing power led sometimes to the use of different articles to furnish the necessary de- nominations. An ox, a cow, a sheep, would, for instance, be one gradation; and a buffalo skin, a beaver skin, a wolf’s skin, another. For it was impossible to divide, for example, a beaver’s skin, or an ox, or a shell, into parts to suit the amounts of different transactions. The division would have destroyed their value and. their availability as money altogether. Sometimes, however, the diffi- culty was met by using an article, different grades of which were available. For instance, different sizes or colors of cowry shells, or of wampum beads, formed a scale of related values and served roughly the purpose of coins of denominations. In colo- nial times, in New England, the black wampum beads had a higher purchasing power than the white ones. 2. The Nature and Purpose of Coinage. — In time, of course, men undertook to meet the need for uniform and graded pieces of money by artifi- cial methods. When they came to use a money substance capable of such manipulation, they made it into pieces to suit their purpose. This process of giving uniformity and thereby at the same time recognizability to money constitutes coinage in the widest sense of that word. According to Walker, the word may be defined as any method “ of de- termining, for easy popular recognition, the quantity 28 COINAGE and quality of individual portions of that which has been adopted into use as money.” ! But this definition is too broad. As it stands, it would include all kinds of money, of whatever material, whose character was indicated by a de- vice of any kind, whether stamped, printed, or en- graved. By the word “coinage” is now commonly meant the stamping of a piece of the metal for use as money so as to make known its denomination and value directly, or by indicating its weight and fineness. : 3. The Evolution of Coinage. — It is not difficult to trace in a general way the steps in the evolution of coinage. The first effort was to give definite shape or size or weight to articles which were by nature uniform in their physical character. The cowry shells of the African negro, the wampum beads or shells of the North American Indian, the Abyssinians’ cubes of salt, the Mexicans’ quills, full of gold dust, square pieces of leather, and similar articles, all illustrate this effort. Nature furnished the homogeneity and cognizability which were necessary to make convenient money, and man gave shape to the articles. The trick once learned was applied, in various ways, toall articles that successively came into use. When metal became the medium, it was made into wedges, ‘spikes, or small obelisks.” Indeed, the word “coin” is derived from the Latin cuneus, a wedge, and originally meant a piece of metal so { 1“ Money,” p. 164. 29 MONEY shaped. The modern representative of these spikes or obelisks is the bars which are used in making international money payments. Bars, it has been found, lose less by abrasion than coin, and hence are preferred for shipment. It is not clear how ring money came unto use ; but it may be that the easy bending of a thin spike into the handier form of a ring led to the change. In time the ring form suggested the plan of mak- ing metal disks with holes punched in them, prob- ably for ease in carrying. The Chinese cash are of this form. The transition from plain bars or disks, to bars or disks marked for recognition or guarantee, must have come early in monetary history ; but the manu- facture of stamped disks of the modern sort was a comparatively late development.! In the early days of the stamped coin only one side of the disk was marked ; but the presence of an unmarked face caused loss because it tempted dishonest people to rub off or file off a portion of the metal. To pre- vent this, in time both sides were stamped, and at last, in order to check the dishonesty wholly, the edges were milled, and thus we come to the coin of our own days, the mechanical technique of which leaves little to be desired. Coins have been made at different times of nearly all the commonly occurring metals. Iron, copper, lead, tin, platinum, silver, gold, and others, alone 1 The first coins of this kind were attributed to Pheidon, King of Argos. See Grote, “ History of Greece,” Vol. III., 318, 3° COINAGE or in composition, have all been used for the pur. pose. The choice of the metal depends mainly on the range of incomes and prices in a community. The higher these range, the more valuable the metal needed. It is for this reason that the coins in most common use in China are of copper; while in the advanced countries of Europe and America they are silver. In a highly developed country, however, coins of several metals are needed to meet the demands of various classes with different scales of incomes and of purchases. 4. The Requisites of Good Coinage. — The req- uisites of good coinage are accuracy in composi- tion and weight; convenience of shape, size, and weight; difficulty of counterfeiting ; durability and cognizability. Great care is taken to- produce coins as nearly perfect as possible in chemical com- position and mechanical form. Gold and silver make more durable coins if they contain a definite proportion of copper in alloy, and accordingly are always so manufactured. But it is important that the proportions of the money metal and of the alloy shall be exactly the same in all coins of the same denomination. Otherwise some would be more valuable than others. This inequality of value owing to varying composition occurred not infre- quently before the art of coinage was well devel- oped. Equally important, for the same reason, is uniformity of weight in coins of the same kind. So difficult is it to attain this uniformity that all gov- 31 MONEY ernments which coin money allowa slight variation from the exact weight prescribed for their coins. This variation is known as tolerance of the mint. In the coinage of the United States, for exam- ple, eagles and double eagles may vary one-half grain from the weight set by law. In practice, of course, this maximum variation does not often occur. If coins always passed by tale, slight differences in weight would be of little consequence. But they pass this way only in the country in which they are coined. In the payment of foreign debts they pass only by weight. It follows that if the coins of the same denomination differ much in weight, the heavier are picked out for melting or for ex- port. For the owner of the coins can either sell them as bullion or pass them by tale. If they contain so much bullion that they are more valuable in that form than for payment by tale, they will be melted or sent abroad. Either operation depletes the circulation of the country. The best shape for coins is that which allows for the least loss from use and from fraudulent altera- tion, and at the same time affords most convenience in handling. Most coins nowadays are circular, but square, octagonal, oblong, and cubical coins are not unknown. The circular is the most convenient. A good coin should not be too large nor too small for convenient handling. A five-dollar piece of silver would be clumsy, and our old one-dollar gold piece was too slight. 32 COINAGE In order to prevent counterfeiting, the device on a coin should be difficult to imitate, but in spite of the high state of the art of coinage this result is hard to reach. The coin should be hard and tough enough to reduce loss by abrasion to a minimum, and yet malleable enough to take sharply the impression of the die. The durabil- ity of the coin is generally promoted by putting a rim around it somewhat above the face so that when the coin is laid down it rests on this rim. Finally, the shape, color, and device should show at once what the coin is and what its value. The device should be simple and legible. 5. Government Versus Private Coinage. — Coin- age is now everywhere regarded as an attribute of sovereignty and is done by the government, al- though, historically, it did not originate with govern- ments. Doubtless the fact that coinage could be so éasily made a source of revenue had much to do with the early claim of governments to its monop- oly; but there are better reasons for the monop- oly than a custom derived from the claims of kings and overlords to exact tribute from trade. Since coins circulate among people who have no means of verifying the accuracy of the device upon them for certifying their weight and fineness, it is desirable that the devices shall be the same on all, and shall be made by an authority in which every one has confidence. The sovereign power is the only one that fulfils this condition. Moreover, if coinage were left to private enterprise, the diffi- D 33 MONEY culty of verification would make fraud easy. Light weight and spurious coins would be put into cir- culation, to the damage especially of the poor and ignorant. With competitive coinage more, per- haps, than in any other business would it be true that the character of competition sinks to the level of the most unscrupulous competitor. Finally, if a profit is to be made from coinage, this profit in equity belongs to the people. 6. The Charge for Coinage; Seigniorage. — Bull- ion may be turned into coin by governments either for their own account or for individuals; and they may do this free of charge or at a price which exactly covers the expense of coinage or which exceeds it. If the coinage is on government ac- count, it is said to be limited; if it is done for any individual who offers bullion for the purpose, it is called free coinage. If the work is done without charge to those who offer bullion, the coinage is gratuitous. If afeeis exacted equal to the expense incurred, the charge is called brassage;! if in ex- cess of this expense, it is called seigniorage. How- ever, the name “seigniorage ”’ is commonly used for both charges, and not infrequently describes simply the government profit on coinage whether the work is done for individuals or not. The practice of charging for coinage varies. Most nations exact such a charge, but those most 1 In compliment to Sir Thomas Brassey. Seigniorage derives its name from the old feudal exaction by the “ seignieur ” of a tribute from trade. 34 COINAGE advanced try to keep the charge equal to the actual expense of the work. To charge more than this is wrong to the owner of the bullion, deceives the public, and leads to the evils of a debased currency. England is the most conspicuous, perhaps the only important, country in which no charge of any kind is made for the coinage of the standard metal. 7. The Arguments for and against a Charge for Coinage. — Several arguments are advanced in favor of brassage. In the first place, it is urged that a coin is a manufactured article, and that to charge for its making “puts the cost of coinage where it belongs.” It is questionable, however, whether this is strictly true. The convenience to the public at large, and to traders and producers other than the bullion owners, which comes from the existence of coin is very great. It is a fair question whether they should not pay part at least of the cost of manufacturing the coin. A second argument advanced by the advocates of brassage is that if there is a charge for coinage, coins are less likely to be exported than bullion to discharge a foreign indebtedness, because with brassage the metal would be more expensive as coin than as bullion. Closely allied with this argu- ment is a third point, that brassage prevents the melting down of coin by jewellers because they will not submit to the loss of the brassage charge. Those who take the contrary view, however, and insist that coinage of the standard metal should be gratuitous, point out, in the first place, 35 MONEY that if a charge is made, the principal measure of .value will not be perfect. Inasmuch as cost of coinage will vary in different places, the same amount of gold will be embodied in coins of differ- ent values. In the second place, it is urged that if gold in the form of coin has the same value, weight for weight, as in the form of bullion, when prices change so that less money is needed, the coinage will adapt itself much more rapidly and with a nicer adjustment to the new level of prices. It is further urged that a coin of the country which makes no brassage charge is far more likely to be used by the people of other countries. That this has happened with the English sovereign is undeniable. The use of its coins in foreign countries may help the trade of a country by mak- ing people familiar with its money. “Such circu- lation, it is claimed, will amount to a demand for the trade of the country conducting the coinage, which it can very well afford to pay for, as truly as a merchant can afford to pay for advertise- ments in a newspaper, or a circus manager for hav- ing his fearful and wonderful pictures displayed along the street.” 1 A fourth argument used by advocates of gratuitous coinage is, that if merchants should find it necessary to export coin, on account of the difficulty of getting bullion, they would add the loss of the amount charged to the price of their imported goods and so transfer the loss to consumers. 1 Walker, “ Money,” 185. 36 COINAGE Finally, the advocates of gratuitous coinage insist that the loss by export is less than may be supposed, for the reason that a great many of the exported coins are eventually returned. This is certainly true in the case of English sovereigns and American eagles. It has become a practice in various countries to hold imported coins for export when the tide of trade turns. What has been said thus far about coinage and seigniorage applies to the principal coins of a country. Besides these, which comprise the stand- ard unit and its multiples, every country needs coins of smaller denominations, submultiples of the standard unit. These are called subsidiary coins, and may or may not be made of the stand- ard metal. Usually, even in gold standard sys- tems, the subsidiary coins are of silver, because coins of the small value required would be incon- veniently small and light in weight. Coins of the smallest denomination are usually copper. The number of standard coins, as dollars, which may be minted from an ounce of gold, is fixed by law, and is the mint price of gold. This mint price has no relation to the purchasing power of gold. It depends entirely on the amount of gold put into the unit of money. When coinage is gratuitous, the owner of bullion is entitled, in theory, to take this bullion to the mint and get back its full value in coin. He may have to wait, however, until his metal is coined; and if so, he loses interest on it in the interval. To avoid 37 MONEY this delay the English law requires the Bank of England to buy all gold offered at 43, 175. 9d. per ounce, which is 14d. less than the bullion owner would get if he waited for his gold to be coined. This 14d. is to cover the expense to the bank for interest and the labor of weighing and assaying the metal. When the bank is in need of gold, it sometimes foregoes part of this fee and pays more per ounce than 43, 17s. 9d. The bank is then said to pay a premium on gold. The expression is not technically correct, since one gold sovereign is not worth more than another. It simply means that the bank’s need for gold is so great that it is willing to forego part of the profit on its purchases. In the United States the owner of bullion does not have to wait for his coin, but he must pay for the alloy. 38 CHAPTER IV THE CURRENCY AND THE PRINCIPLES OF ITS CIRCULATION REFERENCES: Farrer, Sir T. H., What do we pay With ? Ch. 4; Giffen, R., Gresham’s Law, Econ. Journ., Vol. I., p. 304; Jevons, W. Sa Money and the Mechanism of Exchange, Ch. 8; Laughlin, J. L., History of Bimetallism in the United States, pp. 26-30, 65-69, and elsewhere; The Principles of Money, Chs. 5, 12,15; Moses, B., Legal Tender Notes in California, Quar. Journ. Econ., October, 1892 ; Nicholson, J. S.. Money and Monetary Problems, Pt. I., Ch. 4; Report of the Comptroller of the Currency, 1896, Vol. I., pp. §7-97 5 Report of the Indianapolis Monetary Commission, 1898, pp. 113-130 ; Scott, W. A., Money and Banking, Ch. 2; Walker, F, A., Money, Ppp. 193-195; White, H., Money and Banking, 2d ed., p. 25. 1. Classification of Media of Exchange. — The medium of exchange, or the circulating medium, comprises all the instrumental goods used for pay- ing debts or purchasing commodities. Payment may be made, indeed, with an article which to the receiver is a direct consumption good rather than an instrumental good, or one which he uses by passing it on for his payments in turn. In that case the article is not part of the medium of exchange. Some of the articles which enter into the me- dium of exchange are generally current, or com- monly accepted in payment, without any reference 39 MONEY to any characteristic except their passableness. These articles constitute the currency. Other portions of the medium of exchange do not have a circulation which can properly be called general ; they are accepted primarily because of the credit of the issuer, and are not currency. Accord- ingly, we may classify the media of exchange as follows :— (a) The medium of general circulation, or the currency, including (1) metallic money ; (2) incon- vertible paper money ; (3) certificates of deposit of metallic money ; (4) credit paper which has a gen- eral circulation, as convertible notes. (4) The medium of restricted circulation, or non- currency, including (1) credit paper which does not circulate generally, as checks and drafts, rep- resenting bank deposits; and bills of exchange, representing goods; (2) securities representing goods or property. It is obvious, then, that the currency is not sim- ple and homogeneous, but complex and heteroge- neous. In most countries we find coins of different metals and of different denominations passing side by side with paper money, and with credit paper of private, public, or semi-public origin. There are, indeed, occasional historical instances in which the currency of a community or country has con- sisted of a single article. This was probably the case in ancient Lacedzemon, where iron money was for a long time used alone, while in some other ancient states copper was used by itself. Ordi- 40 THE CURRENCY narily, however, the only cases among modern nations in which we find a single thing used as money are those in which the currency consists of very depreciated paper money. For example, during our Civil War practically the only circulat- ing medium in the United States was government and bank notes. The copper cents, and perhaps some silver, remained in use; but the fact that notes were issued for sums as small as five cents is the best evidence that coins of that denomination were out of circulation. 2. Adaptation of the Medium of Exchange to the Scale of Incomes and Prices.—It is not an accident, of course, that the medium of exchange is generally composite. It is due principally to the need of adapting the currency to a variety of grades of incomes and payments. A minor cause is the necessity for having coins convenient to handle. One kind of currency would not be con- venient for payments of all amounts. A cheap metal would be inconvenient for making large pay- ments; a dear one, for making those of small amount. The Chinese use “cash,” each of which is equal in value to a fraction of an American cent, because the scale of ordinary purchases in China makes coins of that small purchasing power suitable for daily use. If we with our higher range of incomes and prices should attempt in this coun- try to use coins of so lowa denomination, we would experience great inconvenience from having to carry about large amounts of them to make ordi- 4 MONEY nary payments. On the other hand, it would be impracticable for the Chinese to use gold for their small purchases. The best medium of exchange, therefore, pro- vides instruments of exchange of different kinds, each kind adapted, on the whole, to different scales of payments. To be sure, if paper money alone is used, it can be issued in any denomination with equal convenience; but, as we shall see, such a system involves dangers which make it extremely inadvisable. Accordingly, the circulating medium of most countries comprises metal money, paper money, and private credit instruments. As a rule, the metallic money consists, first, of the principal, or standard, money, usually gold or silver; second, of subsidiary coins, which are usually of a different metal from the standard and dependent on the standard for their nominal purchasing power. Where gold is the standard money, the smallest gold coin is usually of a denomination such as the majority of people will be able to use in their larger ordinary payments. In the United States the smallest coin of gold is the two-and-one-half dollar piece. Gold dollars were formerly coined, but were found too small for easy handling and were easily lost. In England, the smallest gold coin is the half-sovereign; in Germany, the five-mark piece; and in France, the five-franc piece. The subsidiary coins are subdivisions of the stand- ard coin and are generally silver and copper. The 42 THE CURRENCY smallest denominations are sometimes called minor coins. Inthe United States, subsidiary coins, like the half-dollars, quarter-dollars, and dimes, are of silver; the five-cent piece is nickel, and the cents are copper. Other countries, as England, Ger- many, and France, use silver and copper for their smaller coins. Paper money is used both by itself and in com- bination with coins. The technical advantages of paper money are its convenience to handle, its easy and cheap manufacture, and the possibility of mak- ing it of any denomination. It may be issued by the government, by banks, or by other corporations. In the United States paper money is issued both by the government and the banks. The same is true in Canada; but in England, Germany, and France the paper money is al] bank money. 3. The Credit Portion of the Medium of Ex- change. — Besides the kinds of medium of exchange thus far mentioned, there are certain private credit instruments which are used to effect exchanges. Broadly speaking, these include bank deposits rep- resented by checks, bank drafts, whether written or telegraphic, bills of exchange, and negotiable se- curities. In so far as the last mentioned are used in making exchanges and effecting payments, they may be properly regarded as part of the medium of exchange. Deposit currency, consisting of credits of deposi- tors in banks, and represented in circulation by checks and drafts and similar paper, has come to 43 MONEY play a part of immense importance in modern busi- ness, far exceeding that played by notes. Some idea of this importance may be had from the fact that, as shown by the clearing-house returns of the United States, transactions aggregating $114,068,837,569 were performed by means of this kind of currency in 1903. At various times, in England and in our own country, efforts have been made to determine the proportion of payments made by this part of the medium of exchange, by determining in what proportion it enters into the receipts of banks. All these examinations have shown that the receipts of the banks are over 90 per cent. in credit paper and less than 10 per cent. in all kinds of money. The most extensive exami- nation into the matter was made in the United States in 1896, and secured separate returns: of the deposits of people engaged in retail trade, wholesale trade, and all other businesses. It ap- peared from the figures that at that time about half the volume of retail payments were made with private credit currency, and more than nine-tenths of the wholesale business. After making allowances for errors and omissions it seemed from that ex- amination that perhaps 70 or 75 per cent. of the payments in settlement of mercantile business in the United States at that time were made with checks and other similar paper. Of a total vol- ume of clearings of the New York clearing house, 1See Report of the Comptroller of the Currency, 1896, and The Journal of Political Economy, March, 1897. 44 THE CURRENCY of $70,833,655,940, in 1903, only 4.68 per cent. were settled with money. 4. Securities as a Part of the Medium of Ex- change. — Another important part of the modern medium of exchange consists of negotiable secu- rities, especially the bonds and stocks of corpora- tions and the bonds of cities and states. When used as currency, these have a certain resemblance to paper money. Paper money represents or gives command over goods in general; securities represent or give command over certain general classes of goods. In other words, they avoid, al- though far less completely, the lack of coincidence in barter. Their use for the settlement of debts is confined, of course, to a special field, their service being mainly in the settlement of transactions in such paper itself, and, indirectly, in the settlement of the balances of international trade. We shall examine in another chapter the part they play in this latter matter. In the settlement of stock exchange transactions the sales of stock by the brokers are set off against their purchases, in the stock exchange clearing house, and the balance is paid in money or checks. Thus in New York “on the single day of January 23, 1899, there were sold 5,006,900 shares of stock valued at $350,900,000 by the transfer of only 735,000 shares and the payment of balances amounting to $724,500.” ? 1Charles A. Conant in The Annals of the American Academy, September, 1899, p. 44. 45 MONEY 5. Standard Money, Money of Account, and Medium of Exchange.—A distinction must be made between standard money, money of account, and current money. The standard may be gold, the money of account may be silver, and the cur- rent medium of exchange may be paper. The standard money is that to whose value the value of the other kinds of money is referred for deter- mination, but it may not be coined. The money of account is that in which prices are usually ex- pressed, and the current money is that in which actual payments are made. In the United States, for example, the standard is the gold dollar, 25.8 grains of gold nine-tenths fine, which is no longer issued. In some parts of the country payments were formerly reckoned in a money of account spoken of as bits and shillings. The public ac- counts of New York State were kept in pounds, shillings, and pence? until 1796, although the standard from 1792 was the dollar. Payments were made in various kinds of paper and foreign - coins. In England the standard is the gold sovereign, equivalent at par to $4.863. Accounts, however, are sometimes reckoned in guineas,’ sometimes in pounds, and sometimes in shillings, while the money actually used in payment may be 1 A bit and a shilling were each 12} cents. 2 First Annual Report of the Comptroller, Mew York Assembly Journal, Vol. XVI., p. 20. The New York pound was $2.50, eight shillings to the dollar. 8 Twenty-one shillings. 46 THE CURRENCY either gold, silver, or paper. The Old English, or Anglo-Saxon, unit of payment was a pound of silver. The money of account was the shilling, and the current coins were silver pence and half- pence. Similar instances can be found in other countries. 6. Legal Tender Money. — The currency may in- clude legal tender money and money that is not legal tender. Legal tender money is money the offer or tender of which in payment of a debt con- stitutes, under the law, a sufficient discharge of the obligation. The declaration that such and such a thing shall be legal tender is not necessary to its use as a medium of payment, although it doubtless facilitates that use. A legal tender law prevents uncertainty in contracts, and in a measure protects ignorant and weak creditors from being imposed on with spurious money. It does not, however, prevent people from making contracts to be settled by other means of payment. Under a legal tender law, the standard money is usually made unlimited legal tender, while the sub- sidiary money is limited to payments of certain amounts. In the United States, for example, gold coins and silver dollars are unlimited legal tender. The subsidiary coins, half and quarter dollars and dimes, are legal tender to the amount of ten dollars, while the five-cent piece and the copper cent are legal tender for twenty-five cents. 7. Systems of Metallic Currency.— The system of metallic currency in use at any time depends on 47 MONEY the development of coinage and on the scale of in- comes and prices. Uncoined metal and crudely fashioned coins pass by weight; those more accurately made, by tale. A legal tender system by tale could not well be used until coinage was perfected. A single metal would serve a com- munity with a uniform scale of incomes and prices, while more than one would best answer the purpose where considerable differences exist in the economic conditions of different social classes. Accordingly, the possible systems of metallic currency fall into five classes. Jevons! describes them as currency by weight, unrestricted currency by tale, the single legal tender system, the multiple legal tender system, and the composite legal tender system. Under the first of these the government simply provides a system of weights and measures, and people who have payments to make use these in weighing out, or measuring out, the metal used as money. This is undoubtedly the oldest method of payment with money. Some of our monetary terms, like the English pound, the French livre, the Hebrew shekel, the Greek and Roman talent, and others, were originally names of units of weight. In the system of unrestricted currency by tale, the metal is coined into pieces of uniform weight and fineness, their value, or their weight and fine- ness, being stamped upon them, and they are passed from hand to hand on the basis of this 1“ Money and the Mechanism of Exchange,” Ch. ix. 48 THE CURRENCY certification, The nearest approach to this system to-day is in the use, for international payments, of gold bars made at the government mints. Under the single legal tender system only one metal is coined as legal tender. The iron money of Sparta is an example. Such a system is suitable for a community of simple economic life. Under the legal multiple tender system, coins of differ- ent metals are used at a fixed ratio and each is an unlimited legal tender. Bimetallism is the most familiar example. Under the composite legal tender system one coin is unlimited legal tender, while others are so only to a limited extent. This is the system of advanced countries to-day. 8. Systems of Paper Currency.—There are three systems of paper money, — representative paper money, fiduciary paper money, and fiat paper money. The first is made up of notes which are receipts for metal deposited with the issuer of the paper, either in the form of coined or of un- coined metal. Credit paper money consists of notes promising to pay, with or without conditions, speci- fied sums of metallic money. Fiat paper money consists of printed statements that the notes are of such and such denominations, or represent such and such sums of metallic money. They are always in the form of promises to pay, but are not intended to be paid. Any one of these kinds of paper money may be legal tender, and any one of them may be issued either by governments or by banks. Not infrequently both metallic and paper E 49 MONEY money are legal tender at the same time. This is the case in the United States, where gold and silver are legal tender equally with greenbacks, or government notes issued during the Civil War, and the treasury notes issued against the de- posits of silver bullion under the Sherman law of 1890.1 9. Fundamental Causes of Circulation of Media of Exchange. — The underlying cause of the circu- lation of any and all of the kinds of media of exchange is confidence in their acceptability. The bases, or the causes of this confidence, are four: (a) belief in social stability, or the persist- ence of social habit ; (4) law, or the authority of a particular government; (c) the credit of the issuer, whether a public body or a private person or cor- poration ; and, finally, (@) direct agreement among individuals. Each of these forces promotes the circulation of a different kind of money. The persistence of social habit is the primary cause of the circulation of commodity money. As usually put, a commodity money, like gold, is more widely acceptable than any other kind because it has value independent of that which arises from its use as money. But this value can be present only so long as the demand for the article continues. To accept it in payment is, therefore, to show one’s belief that the general desire to own this particular commodity is permanent; that men will continue 1 By the currency law of 1900 these notes are being replaced with silver dollars. 50 THE CURRENCY to act in the future as they have acted in the past; that social habit is persistent. The second basis of confidence which may lead one to accept a certain thing in payment of debts due him, or of sales made by him, is the stability of the particular government which issues it as money. People believe that the provisions made to create a demand for this kind of money, by way of receiving it for taxes, making it legal tender, and so on, will lead to its acceptance, although it has no direct utility and no specific value. Or else they think the law can enforce its acceptance. In the next place, an article may be accepted in payment of debt or sales because of confidence in the integrity and stability of an individual or a corporation. The receiver believes that the issuer will redeem the article; in other words, guarantees that it will be accepted by himself, if not by some one else, in exchange for articles of direct utility. The cause of circulation here is commercial credit. Examples of such media of exchanges are checks and bank notes. In the fourth place, the confidence which leads one to accept a given article in payment may be the direct agreement of the individuals of a certain social or industrial group so to accept it. There is hardly to be found any historical illustration of such an agreement. Some writers have written on the origin of money in a way to imply the exist- ence of such a convention or agreement, but there is no evidence that this has ever been made. The 51 MONEY nearest approach to it is, perhaps, the use of checks by gamblers in settling their gambling claims. A case resembling such an agreement is found, also, in the action of the nations that composed the Latin Union. If international bimetallism is ever estab- lished, we shall have another remote analogy. The cause of circulation in this case will be international agreement, enforced in each country by its own laws. It is not a matter of concern to us at present to consider which one of these causes of circu- lation may fairly be considered the best on which to rest the medium of exchange. If any one of them is present, the article for which it causes a demand will serve as a medium of exchange. The first and most general principle of circulation, then, is this: The primary cause of the circulation of money is the receiver’s belief that others will take it from him in turn. The area of circulation de- pends on the basis of this confidence which induces acceptability, and may vary from the small group, in which the cause of acceptability is the personal integrity of the issuer, to the larger group influ- enced by political and legal authority, or to the largest group which takes in payment only articles whose acceptability is the result of social habit. 10. Gresham’s Law; its Operation and Limita- tions. — Although an article may be generally acceptable as money, different portions of it may have different degrees of acceptability. If coins of the same denomination differ in weight or fine- 52 THE CURRENCY ness, the better ones will serve not only for ordi- nary payments, as do the inferior coins, but also for foreign payments or for making more valuable articles in the arts. They are likely, therefore, to be treated as bullion and used for export or in the arts. Not every one, of course, who handles coins lays aside the better ones in order to make a profit from their greater value. This is done by money dealers who handle large amounts, so that a small profit on each coin yields a large aggregate gain. Their work of selecting and withdrawing from circulation the more valuable coins is known as picking and culling the coin. So likely is the elimination of the more valuable coins from circu- lation to occur, if there is much variation in coinage, that it is commonly said that “ bad money drives out good money.” This statement of the phenome- non is known as Gresham’s law, from Sir Thomas Gresham, who called the attention of modern stu- dents anew to the occurrence more sharply than any writer up to his time had done. The phenomenon was known, however, long before Gresham’s time, although perhaps not scientifically formulated 1 That it was known as early as the time of Aristophanes, at least, is shown by the following passage in the “ Frogs” (lines 717 ff.) :— “ Oftentimes we have reflected on a similar abuse In the choice of men for office and of coins for common use ; For your old and standard pieces, valued and approved and tried, Recognized in every realm for trusty stamp and pure assay, Are rejected and abandoned for the trash of yesterday ; For the vile, adulterate issue, drossy, counterfeit, and base, Which the traffic of the city passes current in their place.” 53 MONEY The second principle of circulation is, then: If a money of one material is in use, the less valu- able portions of it tend to remain in circulation, and the more valuable to disappear. There is an apparent paradox in the operation of Gresham’s law. Ordinarily, people are led by their self-interest to choose the commodity which is better and reject the one which is worse. In the case of money, however, they seem to keep the bad and reject the good. The apparent paradox is easily explained if we regard the owner of money as a seller rather than as a buyer. He keeps the inferior money because it will serve his purpose for payment; he sells the better goods because he can get more for them in that way. But it is not always the case that two articles which differ some- what in quality, yet are so nearly alike that either serves fairly well the purpose of the other, will command different prices. They will sell at the same price if the demand is strong enough to need all of both, provided the price is high enough to offset the superior cost of production of the one which is more expensive. This is the case with coins of unequal bullion value. If the demand is not large enough to use all of both, part or all of the better coins will be withheld from circulation by tale, ana held at a higher price as bullion. We thus find, as a limitation of Gresham’s law, the condition that the aggregate of good and bad coins must be in excess of the country’s need for cir- culating medium. To put the matter in another 54 THE CURRENCY way, we may say that if business is so large and brisk that it needs all of both kinds of coin to per- form exchanges, the demand for them for mone- tary purposes raises the value of the inferior coins to equality with the bullion value of the full weight coins. This cannot be exceeded because the heavier coins will not be taken anywhere for more than their bullion value. If there is any further increase in the purchasing power of coin, foreign coins or bullion will be imported, as we shall see later, and the value of the home coin will not be able to rise above the high-water mark of the value of the bullion in the full weight coins. Again, an inferior money will not circulate in opposition to custom or public opinion. Perhaps the most notable historical instance of this fact was found in California during the Civil War. The people of California would have none of the greenbacks issued by the government; public opinion was against their use. In consequence, gold continued to be the money of California while the rest of the country was using paper. Sometimes, too, a law which requires the use of a specified kind of money may prevent its entire displacement by an inferior currency. An illus- tration of this is found in the state of affairs that prevailed in this country in the early fifties. Through the operation of the independent trea- sury law, which forbade the government to keep the public money in banks or to accept bank notes in payment of public dues, gold coin was kept in 55 MONEY circulation in spite of the tendency exerted by the small notes of the banks to drive it out. The last illustration given suggests a wider ap- plication of Gresham’s law. It operates not only when the currency is of one material, with its parts of different values, but also when the cur- rency consists of two or more forms of money such as gold and paper, or gold and silver, pro- vided both forms are legally usable in the payment of debts. There are many historical instances of the loss of metal money by a country on account of the issue of paper. In our own country the most notable occurrence of the kind was the suspen- sion of specie payment and loss of gold on account of the issue of greenbacks during the Civil War. A less obvious, but equally correct, illustration is found, however, in our monetary experience under the operation of the Sherman law of July 14, 1890. According to that law the Secretary of the Treasury was compelled to buy four million ounces of silver monthly, ‘and to issue notes on the basis of the bullion thus secured. It was the anticipation of the friends of the measure that these notes, when they went into circulation, would increase the currency of the country and raise the level of prices. Their issue had no such result. The export of gold from the time the notes be- gan to be issued until July, 1893, almost exactly 1 Kinley, “The Independent Treasury of the United States,” p- 62. 56 THE CURRENCY equalled the amount of notes put in circulation. The gold exports were $141,017,158, while the note issue was $140,661,694. Gresham’s law operates because most people are completely under the influence of habit in their use of money, and only a few keenly alive to their interest in the matter. Few people have any knowledge of the laws enacted to regulate circulation. They take a coin or a note because it looks familiar. A coin may be overweight, but most of us take no notice of the fact and seek no profit from it. The force of habit in money mat- ters has sometimes been curiously shown by the difficulty of getting new coinage into circulation. Austria, for example, has found it necessary to coin the Maria Theresa dollar down to a very late date because the people of certain countries with which she trades have been so long used to it that they would use no other. Similarly the Spanish silver dollar has been hard to displace in some parts of the Orient. We thus see that Gresham’s law needs to be carefully stated in order to make it describe the facts accurately. It is really a law of tendency, and must be stated hypothetically. We might put it thus: If more than one form of money is legally usable in a country, and if one of these is more valuable for some other use than it is for making exchanges, then the inferior portion of the cur- rency will supplant the superior to the extent that the two portions together exceed the need for cur- 37 MONEY rency in the country, provided that public opinion or any other economic force does not interfere with the operation of the self-interest of dealers in money. Gresham’s law is really a limited statement of a more general principle, which may be thus formu- lated: When a community in which competition is free and intelligent has a choice of means of payment, it will use the least expensive which will serve its purpose under existing circumstances. Or, still more generally: In a community in which competition is free and intelligent there is a constant effort to perform every economic service by the agency which yields the largest net results. 58 CHAPTER V SERVICES AND NATURE OF MONEY REFERENCES: Hadley, A. T., Economics, pp. 181-185 ; Indian- apolis Monetary Commission, Report of, 1898, Pt. I., §§ 1-18; Jevons, W. S., Money and the Mechanism of Exchange, Chs. 3, 5, 6; Knies, K., Das Geld, pp. 146-237; Laughlin, J. L., Principles of Money, Ch. 1; Laveleye, E. C., La Monnaie et le Bimétallisme International, Ch. 2; Nicholson, J. S., Money and Monetary Problems, 5th ed., Pt. I, Ch. 2; Scott, W. A., Money and Bank- ing, Ch. 1; Walker, F., Money, Chs. 1, 2; White, H., Money and Banking, Ch. 1. 1. Definition of Money determined by its Services. — The word “money,” like so many other terms in economics, has different meanings, both in popular and in scientific usage. It is clear from what has been already said that.no definition of money can be framed on the basis of the material of which it is made. Whatever view is taken of the nature of money must be derived from the determination of its services or functions. To these services we must now turn our attention. The functions of money may be described as essential, or those which are necessary in all eco- nomic stages; as derived, or those which flow from, or are dependent on, the essential services ; and as contingent, or those which flow from the conditions of a particular economic stage. 59 MONEY 2. Essential Services of Money. — The essential services of money are measurement of value and fa- cilitation of exchange. The earliest service that can be called properly a monetary service was to enable an individual to buy directly what he wanted. In other words, the service rendered was to make it unnecessary for each individual to seek a buyer for his goods in the quantities that he had to sell, who had at the same time the articles he wanted in the quantities he wished to buy. The money article remedied this lack of coincidence in bar- ter. This service is fundamental whatever the stage of economic life, but is more important the farther the division of labor is carried. The extent to which this division can go, indeed, de- pends on the extent of the “ general acceptability ” of money. In an advanced economy, therefore, the emphasis must be laid, so far as concerns this function, on the fact that money promotes the division of labor by facilitating the distribution of its products. The money is a general exchange and circulating medium. It performs this service because it is accepted without question. It is taken because of the knowledge that others will take it in turn. There is no thought in the mind of him who has it that the ability to part with it depends on the promise of any third party to redeem it, or that it can be used for another purpose if it fails to pass. Its success in doing its work depends simply and solely upon the fact that it is in de- mand for the purpose of doing that work. | el] <<] a2] 8 | 3] & | aoe] a fs 1846 | 106 81 98 95 92 77 86 85 89 1847 | 129 | 88 87 | 105 94 | 78 | 86 | 86 | 95 1848) 92 | 83 | 69 | 84 | 78 | 64 | 77] 73} 78 1849 79 | 71 | 77 | 76 | 77 | 67 | 75 | 73 | 74 1850] 74 | 67 | 87} 75 | 77) 78 | 80) 78 | 77 185t|} 73 | 68 | 8 | 74] 75 | 75 | 79 | 76] 75 1852| 80] 69 | 75 | 75 | 80] 78 | 84] 8 78 1853] 100 | 82 | 87 | 91 | 105 87 | Ior 97 | 95 1854 | 120 | 87 | 85 | ror | 115 | 88 | 109 | 104 | 102 1855| 120 | 87 | 8g | 1or | 109 | 84 | 109 | ror | Io 1856 | 109 88 97 99 | IIo 89 | 109 | 102 | ror 1857 | 105 89 | 119 | 102 | 108 | 92 | 119 | 107 | 105 1858 | 87 83 97 88 | 96 84 | 102 | 94 | 91 1859| 85 | 85 | 102 | 89 | 98 | 88 | 107 | 98 | 94 1860} 99 | 91 | 107 | 98 | 97 | 90] 111 | 100} 99 1861 | 102 gI 96 97 gI 92 | 109 99 98 1862 | 98 86 98 94 gI | 123 | 106 | 107 | 101 1863 | 87 85 99 89 93 | 149 | Ior | 115 | 103 1864) 79 89 | 106 | 88 | 96 | 162 98 | 119 | 105 1865 | 84 97 97 91 QI | 134 97 | 108 | Ior 1866 | 95 96 94 95 gt | 130 | 99 | 107 | 102 1867 | 115 89 94 | 101 87 | 110 | 100 | 100 | 100 1868 | 113 | 88 | 96 | 100 | 85 | 106 | 102 | 99 | 99 1869 | 91 96 98 94 89 | 109 | 100 | 100 | 98 1870} 88 | 98 | 95 | 93 | 89 | 106 | 99 | 99 | 96 1871 | 94 | 100 | 100 98 93 | 103 | 105 | 101 | 100 1872 | lox | 101 | 104 | 102 | 127 | 114 | 108 | 115 | 109 1873 | 106 | 109 | 106 | 107 | 141 | 103 | 106 | 114 | 111 1874 | 105 | 103 | 105 | 104 | 116 92 96 | 100 | 102 251 MONEY SAUERBECK’S INDEX NUMBERS Groups oF ARTICLES AND TOTALS 1867~1877 = 100 8 5 3 ee lse ts) 4 al b|é aeP FR) Ss|/ & | 2] a] 2] 3/6 f [$8 | ae|22| 8 | 3] a | as) 2 | é 1875 | 93 | 108 | 100 | too | ror 88 92 93 96 1876) 92 | 108 | 98 | 99 | 90 | 85 | 95 | 91 | 95 1877 | 100 | tor | 103 | Ior 84 85 94 89 94 1878 | 95 | ror 90 | 96 74) 78 | 88 | 8 87 1879| 87 | 94 | 87] 90] 73] 74] 85 | 78] 83 1880] 89 | ror 88 94 79 81 89 84 88 1881 | 84 | ror | 84 | o1 77 | 77.) 86} 80 | 85 1882 | 84 | 104 | 76 | 89 | 79 73 | 85 80 | 84 1883 | 82 | 103 77, | 89 76 yo | 841 77 | 82 1884| 71 | 97 | 63 | 79 | 68 | 68 | 81 73 | 76 1885 | 68 | 88 | 63 74 | 66] 65 76 yo | 72 1886] 65 | 87 | 60] 72 | 67 | 63 | 69 | 67 | 69 1887| 64 | 79 | 67] 70 | 69 | 65 | 67 | 67 | 68 1888 | 67 82 65 72 78 64, 67 69 70 1889| 65 | 86 | 75 | 75 | 75 | 70 | 68 | 7o | 72 1890] 65 82 70 73 | 80} 66] 69] 7 72 1891} 75 | 81 71 77 | 76} 59 | 69 ; 68] 72 1892| 65 | 84 | 69 | 73 | 71 | 57 | 67 | 65 | 68 1893} 59 | 85 | 75 | 72} 68 |) 59 | 68 | 65 | 68 1894| 55 80 65 66 64 53 64. 60 63 1895} 54 | 78 | 62 | 64] 62 | 52] 65 60 | 62 1896} 53 | 73 | 59 | 62] 63 | 54] 63 | 60} 61 1897| 60 | 79 52 | 65 66 | 51 62 | 59 | 62: 1898 | 67 77 | 51 68 | 7o |} 51 63 | 61 64 1899} 60 79 | 53} 65 | 92] 58 | 65 | 7o | 68 1g00| 62 | 85 | 54 | 69 | 108 | 66 | 71 | 80] 75 Igor | 62 85 46 67 89 | 60 71 72 70 1902} 63 | 87 | 41 67 | 82 | 61 71 71 69 MEASUREMENT OF CHANGES IN PRICES 19. Falkner’s Tables.— The table of prices and index numbers! which for extensiveness takes pre- cedence of all others, is that compiled by Professor R. P. Falkner, formerly of the University of Penn- sylvania. Professor Falkner gathered together continuous lists of prices for 90 articles for the 50 years preceding 1891; and for 223 articles for the 30 years preceding that date. Of the 223 quotations, 81 were for different varieties of the same article. The basic year is 1860, and its prices, on the first of January, are called 100. Many of the price quotations are not aver- ages, but prices on selected dates. The index numbers were computed both from unweighted prices and from prices weighted according to the importance of the articles in the budgets of ex- penses of 2561 families of workingmen in the United States. Such a method of weighting is excellent for tables designed to show changes in the economic condition of the class whose expen- diture the budgets represent; but the results can show changes in the command of money over goods in general only so far as the articles in the budgets enter into the expenditure of all classes, and that, too, in the proportions in which they are weighted. Budgets in whose accuracy and com- pleteness confidence can be had are difficult to get, and introduce into index numbers errors pecul- iar to themselves. In Falkner’s tables somewhat 1 United States Senate (Aldrich) Report on Wholesale Prices, etc. 253 MONEY v6 z'96 o26 r6g1 ozee L061 gglz Sogr LE6 £56 £26 o6gr vel v6rr S:061 bog S36 0°66 Zé 6ggr ezkr reer g'ghr Eggr Z'96 v6 ob6 gest Ibo g°zoL g°'41r zogr S66 z'96 g'z6 Zggr 16 656 g'oor 19g1 v6 G96 616 9ggt O*'001 O'001 O'001 Oogr EE6 56 of6 Sger 6°zor O'ZOL ZOOL 6Sgr g'zo1r gor +66 $ggr oer 1601 grIoL gSgr 9'901 S*bor o"g01 Eggz ovrr g'60r Garr ZSgr 1601 E901 S-gor Zggr err S-gor oerr oSer gor g'Sor ZSor Iggr z'601 _ gor rérr SSgr 6"bor t€or 6901 oggr o'Sor bEor 6711 Sgr o'S6 9°96 9°96 6Zgr o'Sor t€or 1601 €Sgr g'bor r'for €'ror gZgr 6°26 S°96 Lzor eSgr grr v601 Gort LLgr 9°86 166 6°Sor Sgr Q'ez G-Srr S°Qir 9Zgt z6g 96 €-zor oSgt 6gz1 g°611 ger SZgr Sg 6°99 2:36 6rgr 6°6zr Sozr ovcer bgt E-g9 026 PIOL gbgr o6zr 6611 S-ZEr EZgr 2°56 £96 S*gor Lygr rz Beer g°ger 2Lgi 256 £96 $901 gbgr I'g€r g'bzr oroft - rZgt Z'9g r26 g°zor Sbgr orb Por fabr oZgr oSg 9°63 6°IOI pbgr €zSr 6SEr S-ESr 6981 E-bg £°69 Stor Ebgr 6EL1 LoSt S'oor g9gr 106 2&6 g’Zor zbgr g'SOL oSbr Salt Log 1°96 £36 g°S1r 1vgt LLgr Z0g1 o°r6r 9981 £16 S96 g’gIr obgr (‘QNadxX] IVLOL WaOdIN() (aNadxqY TVLOT, WOdING 40 “LNHD Wad “ONadXY NIVLYA dO “INAD Aad “ONAdXY NIVLYG’ 9°89) SONVLAOANT aoa - arate aie AVAA | 9°89) SONVLAOAN] “aONVIMOAR] 2 ees uvay OL ‘D0y. "AdAy SaIDWLay Ty OL ‘Dy ‘xaAY SHIDILAY TIY OL ‘D0y “asAW SaIDILay Ty OL ‘Oy "NRAYy SHINY TIY SHIONLUY TY O01 = oggr ‘auvanv{ do saorug —16gi-orgr ‘SqOIMd AALLVIAU SAIANWIva 254 MEASUREMENT OF CHANGES IN PRICES less than 70 per cent. of the total expenditure of the social class considered was represented. Of course the prices were for the United States, and tables were made both of retail and of wholesale prices. These tables carried the prices down to 1891. In 1900 Professor Falkner prepared a second table of wholesale prices from 1890 to 1900, which is substantially a continuation of his previous table, although in a somewhat different form and for a fewer number of articles. Ninety- nine series of prices were used in the second tables, and the base used was the average of nine quarterly prices from January I, 1890, to Janu- ary I, 1892. Falkner’s table is on page 254. Professor Falkner’s supplementary table gives average prices for each quarter, from January, 1890, to July, 1899. The January figures? are as follows :— SEAR eras TEAR ioe 1890. . 6 « e 102.0 1895. . » + © 84.7 191.5. 2 we 100.6 1896. . . .. 85.2 1892. . . « 96.5 1897. . . « 82.0 1893. - . = 97.2 1898. . . 2. 83.3 1894. 6 - +s 89.6 1899. . 2. 86.5 A comparison of all these tables shows, what has been already urged, that the same general 1 United States Senate (Aldrich) Report, etc., Vol. I. 2 Bulletin of the United States Department of Labor, No. 27, March, 1900, p. 263. 255 MONEY conclusions are reached by all the methods al- lowed, so that the labor involved in mathematical niceties is hardly worth while. 20. Other Tables of Prices. — The tables men- tioned are by no means the only ones that have been compiled. Among others which are worthy of mention are the English tables of Rice Vaughan, who compared the prices of 1650 with those of 1352; of Bishop Fleetwood in 1707; of R. H. I. Palgrave, and Mulhall; those of the Ger- man writers Laspeyres, 1831-1863, Paasche, 1863- 1872, continuing the work of Laspeyres; and Conrad; the French table of De Foville, who compiled a table of French prices of imports and exports, 1847-1880; and the tables of the United States Department of Labor. 21. Other Methods of Measuring Price Changes. — Other methods than the use of index numbers have been suggested for measuring variations in the value of money. Two or three of them are important enough to deserve mention. Dr. Dro- brisch has suggested? a comparison of the values at different epochs of an average 100 weight of goods. Of course, there is no such thing as an average 100 weight of goods, so that the method is a purely fanciful one. Professor Newcomb has proposed to measure changes in the value of gold by noting the change 1 Bulletin of the United States Department of Labor, March, 1902. 2 See Report of the Brit. Assoc. for Adv. of Sci., 1887, p. 265. 256 MEASUREMENT OF CHANGES IN PRICES in the value of the product of an average indi- vidual worker per unit of time. It is easy to measure an electrical current, or a head of water, by noting changes in the amount of work done under fixed conditions; but we cannot fix the con- ditions of individual character. There is no aver- age individual, and if there were, the value of his product would be one of the factors entering in to cause variations in the value of gold. Professor Nicholson has suggested a somewhat elaborate method, which takes account theoreti- cally of all things bought and sold. It.is briefly as follows: let f, £1, Jo, °** Ha represent the price per unit of every commodity sold on a certain date. Let 9, 71, J, *** Yn Tepresent the total number of units of each article. Then pg — 2, 9, — fog, — °° PnJn are equal to the total value exchanged, or $Y. Hence the value of $1 will be pg — £19; — pg 7.—-*** PnQn all divided by Y. Now, if this process be re- peated at any other date and the value of $1 deduced, we shall be able to determine the change in the price level. Obviously, however, we cannot construct a series of all the prices of all articles. To make the series manageable, and the scheme practicable, we must (1) group similar articles, and (2) omit the less important articles, so as thereby to reduce the number of terms; (3) we must allow for increase or decrease in old items and the addition of new items. By making all these allowances the series may be reduced, as Professor Nicholson reduces it, to very manageable shape. s 257 MONEY Mr. Giffen and others have suggested as a meas- ure of the changes in the value of money, varia- tions in the amount of money as compared with those in the amount of goods imported and exported at different times. In other words, he seeks to compare the volume of money with the volume of foreign trade. Obviously, if all other things remain the same, an increase in the volume of trade would reveal an increase in the amount of money. If the amount of money has not increased pari passu with trade, its value must have fallen. 22. Professor Edgeworth’s Presentation of the Solutions of the Problem of measuring Price Changes. — The various solutions of the problem of measuring the changes in the value of money have been admirably grouped by Professor Edge- worth in a table which, modified in form, is as follows :! — We may have A. A solution irrespective of any hypothesis as to the cause of the changes, the object being I. The consideration of a standard for de- ferred payments, the standard being re- quired to be 1. Constantly equivalent to the same quan- tity of valuables and its constituents being determined by a' Items of national consumption. 6' On some other basis than national consumption. 1 Report of the Brit. Assoc. for Adv. of Sci., 1887, p. 260. 258 MEASUREMENT OF CHANGES IN PRICES 2. Varying on the principle of a sliding scale to the constituents. a' Corresponding to the items of na- tional consumption. 6' Determined on some other basis than national consumption. Such as a" National incomes. 6'' National capital. II. Something else than consideration of the standard for deferred payments. B. A solution being based upon some hypothesis as to the cause of changes and their I. Being irrespective of the quantities of the commodities, or II. Account being taken of the quantities of the commodities. 359 CHAPTER XIII THE STANDARD OF DEFERRED PAYMENTS REFERENCES: Clark, J. B., Ultimate Standard of Value, Yale Rev., November, 1892; Fetter, F., Total Utility Standard of De- ferred Payments, Annals Amer. Acad., May, 1895; Jevons, W. S., Money and Mechanism of Exchange, Ch. 25; Jordan, W. Leighton, The Standard of Value, 6th ed.; Knies, K., Das Geld, pp. 396-431 ; Laughlin, J. L., Principles of Money, Ch. 3; Merriam, L. S., Theory of Final Utility in its Relation to Money and the Standard of Deferred Payments, Annals Amer. Acad., January, 1893, May, 1894; Nicholson, J. S., Money and Monetary Problems, 5th ed., pp. 19-28; Report of the Indianapolis Monetary Commission, 1898, pp. 92-112; Ross, E. A., Standard of Deferred Payments, Annals Amer. Acad., November, 1892, November, 1893; Scott, W. A., Money and Bank- ing, Ch. 3; Walker, F. A., Money, Trade, and Industry, Ch. 3; White, H., Money and Banking, Ch. 6. 1. Definition of the Standard. — By the stand- ard of value is meant, strictly speaking, the value of a definite quantity of the commodity chosen to measure value. We commonly say that this or that commodity, as gold, is the standard. But this is only a short way of saying that it is the value of a certain quantity of the selected com- modity which is the unit of measure of value of all other things. A distinction is to be made between the mint standard and the standard of value. The mint standard is simply the quantity of the money 260 STANDARD OF DEFERRED PAYMENTS material which the law requires to be put into a given unit, or denomination, of money. The value standard is the value, or purchasing power, of this legal quantity. But we cannot infer that the value of this quantity of gold is invariable like its weight. For example, the amount of fine gold in one dollar is 23.22 grains. This amount is invari- able, as long as the law is not changed, but its value is not so. Confusion sometimes arises from attempts to compare the unit of measure of value with the ordinary units of measure of length and weight. The essential difference between the two classes of units lies in the fact that the unit of measure of value changes with every change in the demand for it, while the unit of measure of length, or of weight, is not affected, however great or however small the demand for it may be. 2. Steadiness of the Standard Important for Deferred Payments. — The fact that the standard of value fluctuates is not of importance in the case of exchanges that are settled at once. If goods are sold and paid for at the moment, we may assume that neither party to the exchange gains or loses through any change in the value of the standard. Quite contrary is the case, however, if the sale is made at one time and the payment at a later time. During the interval between the sale and payment, or between the creation of the debt and its discharge, a change in the standard may occur, which will confer upon the amount of 261 MONEY money given in settlement a greater or a less pur- chasing power than it had at the time the debt was created. The great majority of business transac- tions are done on credit. Purchases are made to be paid for in thirty, sixty, ninety days, or later. The longer the period between purchase and settlement, the greater the opportunity for loss on account of the variation in value. If, for example, a farmer should borrow $1000 at six per cent. for one year, when wheat is selling for $1 a bushel; and if, by the time of payment, the price of his wheat had fallen to 90 cents, it would be necessary for him to sell 1177% bushels to pay his debt. Measured in wheat, the rate of interest has become 11.8. 3. Assignment of the Gain or Loss due to a Change in Prices. —It is, then, the relation of debtor and creditor which gives importance to the standard of deferred payments. The standard should be such that the discharge of the debt shall preserve the equities of the exchange be- tween creditor and debtor. It is difficult, indeed, to decide what constitutes equity in such cases. A change in the standard implies that the amount of money which the borrower will surrender at the time of the repayment of the debt will buy more or less goods than at the time of the crea- tion of the debt. Should the benefit of apprecia- tion go entirely to the creditor and the loss fall entirely on the debtor, or wice versa? Or shall the gain or loss go to neither, or shall it be shared 262 STANDARD OF DEFERRED PAYMENTS between them? It is sometimes urged that a change in the price level is a social change, and that the gain is, to the one who gets it, an unearned increment, and the loss an unearned decrement. Those who insist that all unearned increment, all value due to social progress rather than to the efforts of individuals, justly belongs to society as a whole, urge that it is the community to which the gain should accrue, or on which the loss should fall. While a defence of this claim can be made, the impossibility of fixing on society the gain or loss in any case makes the proposal impracticable. Moreover, the loss, if it went to society, would be distributed among the members of the community, and this distribution could not fail to be as inequi- table as the receipt of the gain by creditors, or debtors, or both, might be. The welfare of society is best promoted by let- ting the gain or loss, due to the change in the standard, be shared by the parties to the contract. The social advantage of this course is a phase of the benefits of private property and freedom of contract. As against each other, the creditor and debtor each has an equitable claim to share what- ever gain accrues. If the value of money rises, the debtor confers a benefit on the creditor by giving him the advantage of a sure investment, for a definite period, during which his money increases in value. It is true that if the creditor had his money, he could get the benefit of the change in prices by renewed investment. The point is, that 263 MONEY he is freed from the necessity of reinvesting at a lower rate. The benefit, such as it is, comes to him for a definite period. He secures an addi- tional advantage, moreover, in the enhanced value of the money which he receives as interest. On the other hand, the debtor gets a benefit from hav- ing command of the money for a definite period, for an element of uncertainty is thereby removed from his business. 4. Apportionment of Gain or Loss due to Change in Prices between Creditor and Debtor. — In a truly ethical sense, therefore, the creditor and debtor are partners, and they should share the gains and losses of their partnership. Now, how ought the gain or loss to be shared? Shall it be in a pro- portion determined by the social welfare, or in a proportion determined by some standard of jus- tice between the individuals? We want to pro- vide that the loss caused by a change in society’s economic efficiency, or fashion, shall not be laid altogether upon the unoffending backs of one group of its members, and the gain on those of another. We are seeking to provide that the money owner and the money borrower shall reap where they have not sown, but that neither shall be permitted to take the whole crop to himself. Perhaps the usual opinion is that the welfare of society is promoted by giving the greater share of advantage to the debtor class. If this be true, and if we believe that the gain or loss from a change in the value of money during a period of 264 STANDARD OF DEFERRED PAYMENTS debt should be so apportioned as to promote the social welfare, then we would assign the larger share of the gain and the smaller share of the loss to the debtor. But a truer statement would be, that the welfare of society is promoted by appor- tioning the gain or loss according to the economic efficiency of the parties in promoting the social welfare. This would usually, but not always, give the debtor the larger share. Undoubtedly, the debt should be so paid as to leave each in the same relative position in the scale of economic welfare as he would have been if no change in the value of money had taken place during the period, of the debt; or, what amounts to the same thing, in the same relative position in the scale of economic welfare as each held at the time of the loan, pro- vided, of course, that no other cause of change in the economic condition of either of the parties arises in the meantime, or disregarding such a change if it does occur. At the time of the loan the money of the lender had a certain value to him, estimated by the subjective value of the articles which it would buy; or it stood for a certain profit if he employed it for the purchase of articles for use in his business. The same is true of the debtor. Our aim should be to apportion the gain or loss, due to a change in the value of money, in such a way that, so far as the debt is concerned, creditors and debtors shall have the same relative purchasing efficiency as they had before. We shall examine later the exact mean- 265 MONEY ing of this phrase and its significance for the ques- tion in hand. 5. The Standard of Deferred Payments a Social Concept, not a Corrective of Individual Fluctuations. — Before considering the method whereby it is proposed to establish equity in the payment of debts, we must distinguish between a standard which is just! from the point of view of society as a whole, and one which is just between particular debtors and creditors. A standard could be just, both socially and in all individual cases, only if the prices of all goods had changed in the same degree. This, however, is impossible. For a change in the value of money, arising, for ex- ample, from a change in its quantity, causes dis- proportionate changes in the prices of goods, because changes in the marginal utility of com- modities are not proportional to changes in their supply or in the demand for them. If the com- modity of the debtor, wherewith he secures the standard commodity to pay his debt, has not changed with reference to the standard in the same degree as have other goods, he must give more or less of it than he otherwise would, in order to get the money which will buy a quantity of composite units of goods sufficient to discharge his debt. From the point of view of society, the debt is equitably discharged if the number of com- posite commodity units given in payment is to the 1 This distinction must be made whatever ideal of justice between creditor and debtor is adopted. ' 266 STANDARD OF DEFERRED PAYMENTS number which the borrower received, in the in- verse ratio of the values of these two quantities. If half the goods on sale go up in price and half go down, in such a way as to leave the price level unchanged, the return of the amount of money borrowed would be, from the social point of view, a just discharge of the debt, because this money commands at the two dates the same amount of goods in general. If, however, the goods of the debtor are among those that have fallen, while the goods consumed by the creditor are among those that have risen, neither debtor nor creditor escapes loss. Under other conditions the debtor may gain and the creditor lose, or vice versa. Suppose the debtor’s commodity enters into the composite unit as zgpq of the whole, while its exchange value has fallen 4. Obviously, the value of the composite commodity unit, which is to be returned in payment of the debt, will be affected only in a very slight degree. The return of a given number of composite commodity units will, from the social point of view, be a just discharge of the debt; but the number of units of his own commodity which the debtor must now give, to get the money value of this number of composite commodity units, will be doubled. The failure of the general, or socially just, standard to apply to individual cases is similar to the failure of index numbers, which show changes in the level of prices, to tell us any- thing about the prices of goods consumed by a particular social class. 267 MONEY It is clear, then, that we cannot find a standard which will distribute equitably the gain or loss that accrues from a change in the price of the commodity which a particular debtor produces. The most that can be expected is to find a stand- ard which will distribute the effects of changes of general prices, or offset the variations in the price level. It is disturbances of social, not indi- vidual, valuations that a general standard of de- ferred payments will prevent or correct, if it can be found ; yet it is the variation of individual valu- ations that is important to particular creditors or debtors. The best that can be done is to find a general standard, if possible, and then to adapt it to particular cases, as the circumstances neces- sitate or justify. 6. An Invariable Standard Undesirable and Im- possible. — Some people think that the hardships attendant upon a changing price level would be cured by the adoption of an invariable standard of value. By an invariable standard is meant one of which a given weight would always purchase the same quantity of goods. Such a standard, however, is impossible of realization. For, in the first place, the demand for a standard commodity for use in making payments is one of the causes of its value, and this demand is constantly chang- ing. If there were no actual use of the standard in making payments, so that its value were inde- pendent of the demand for means of payment, its fluctuations would be less; but, even then, they 268 STANDARD .OF DEFERRED PAYMENTS could not disappear altogether; for a demand of some kind, whether for monetary purposes or not, is necessary to value, and a demand, although non- monetary, would be bound to fluctuate. In the second place, a standard which was invariable, in the sense that it would measure and correct changes in the price level, could not, as we have seen, do the same for changes in the prices of particular articles, since the price level may change without any change in the prices of par- ticular commodities; but it is in these latter that the interest of individual debtors and creditors centres. Moreover, an invariable standard is undesirable, even if possible, because it would throw the bene- fit of industrial progress into the hands of the owners and producers of goods; whereas a perfect standard should distribute these benefits among the different classes of society. It should pur- chase more goods and less labor as time passes and progress is made; because, as Professor J. B. Clark has pointed out, industrial progress implies that a larger amount of goods shall be obtained for the same expenditure of labor; hence the pur- chasing power of the standard should rise as man’s command over nature increases. A change of this kind will not remove the inequalities of distribution, but it will bring to the different classes of society some of the benefit to which they are entitled. %. The Incompatibility of Returns of Equal Value, Equal Utility, etc.— We must search, then, not for an invariable standard, but for one whose 269 MONEY variations correspond with changes of economic conditions, in such a way as to effect an equitable division of the benefits of these changes. By what one of the various returns which the debtor can make can this purpose be accomplished? Of course the debtor always returns either money or goods, but the character and the quantity returned depend on the standard of payment adopted. He may pay his debt in terms of units of goods, in terms of total utility, or in terms of marginal utility, or value. It is, perhaps, super- fluous to point out that the return of the same consumption commodity, or the same quantity and quality of consumption commodities, does not imply a return of the same utility or value. The utility and the value of goods depend on their physical and psychical efficiency; that is, on their capacity to satisfy physical and psychical wants. We may bring out the difference between return- ing the same articles, the same utility, and the same value, by the following tables. At the time of borrowing, successive units of the article bor- rowed show utility, cost, and value as follows :— Unite | Eevicisncy | Eericiency | Oty | Costin Days’ Lason? I 4.00 3.00 7.00 3. Or 3.00 or 3.00 2 3.80 2.75 6.55 3. OF 2.90 or 3,01 3 3.60 2.50 6.10 3. or 2.80 or 3,02 4 3.40 2.00 5.40 3. OF 2.75 or 3.03 5 3-20 1.90 5.10 3. Or 2.70 or 3.04 1 See foot-note, p. 271. 270 STANDARD OF DEFERRED PAYMENTS At the time of payment the conditions are these : — eed pe games UTILITY Cost in Days’ Lazor! I 4.00 2.00 6.00 2 3.80 1.80 5.60 3 3.65 1.50 5615 4 3-45 0.90 4:35 5 3-25 0.70 3-95 Same as before, or 6 3.05, 0.35 3-40 less, or more. 7 2.75 0.20 2.95 8 2.70 0.00 2.70 9 2.65 0.75 1.90 Io 2.60 1.00 1.60 Suppose that four units of the commodity are borrowed. According to the first part of the table, we find that the borrower gets 25.05 units of total utility, 21.6 units of value, and a number of days’ labor which varies according as the article is produced under conditions of constant, increas- ing, or decreasing returns. If, now, the condi- tions change, so that the value of the article in question falls as indicated in the second part of the table, it will be necessary to return five units in order to give back the same total utility. To restore the same value, eight units of the commod- ity must be given; and to restore the same labor cost either the same number of units of commod- ity, or more or less, must be given, according to the conditions of production of the article. Hence, 1 According as the article is one of constant, of increasing, or of decreasing returns. 271 MONEY if we return the same number of units of the same commodity, we may or may not return the same physical efficiency, but we will certainly return less psychical efficiency, less total utility, and, probably, less cost. If we seek to return the same cost, we will very likely give back more goods, less value, and less total utility. If we would restore the same total utility, we would give back a larger amount of goods, a smaller value, and probably a different cost. According, then, as we choose one or another of these units,— commodity, cost, utility, value,—we have a dif- ferent standard and return a different thing. 8. Classification of Standards of Deferred Pay- ments. —Corresponding to the choice we make of the thing to be returned we have the following standards : — 1. The commodity standard. According to this the debtor returns the same quantity and quality of goods. 2. The labor standard. This standard requires the return of the goods produced in the same labor time as the articles borrowed. 3. The disutility of labor standard. By this standard the debtor is required to return goods in amount such that the disutility of the labor in- volved in the production of the last unit is just equal to the marginal utility of the quantity of goods borrowed. 4. The total utility standard. According to this standard an amount of commodities is returned 272 STANDARD OF DEFERRED PAYMENTS whose utility is somewhat greater than the abso- lute utility borrowed, by an amount dependent on the degree of change in the price level. 5. The marginal utility, or value standard. The debtor, under this standard, is expected to return commodities embodying the same value that he borrowed. 6. What may be called the purchaser’s surplus standard. By this standard the debtor will return to the lender an amount of goods which will leave each in the same position relatively to the marginal purchaser as he was before; that is, will afford the same proportionate purchaser’s surplus as the amount of money borrowed yielded each at the time of the loan. We proceed to the discus- sion of these standards in order. 9. The Single Commodity Standard. — The as- sumption underlying the commodity standard is that the return of the same quantity and quality of goods as were borrowed will constitute an equi- table discharge of the debt. This is only another way of saying that the return of the same absolute utility is equitable. The debtor may make this return, according to circumstances, either by giving back the same quantity of the same commodity, or the same utility embodied in different articles. But the return of consumption goods, the same in quality and quantity as were borrowed, usually means, as we have seen, a return of a different value, a different utility, and a different cost. If the price level has changed at all, whether from a T 273 MONEY change in the article borrowed or in others, the return of the same article will fail to distribute the benefit of the change between creditor and debtor. The only important instance of the discharge of debts by the return of the article loaned is that of money debts. This, of course, is the form in which debts are now usually contracted and paid. Money, however, embodies purchasing power in a general form, so that its utility and value do not depend on the physical and psychical efficiency of a single article. Therefore, it is on an entirely dif- ferent footing from all other goods, and is not to be considered in this connection. It is easy to prove that no single consumption good can be a good standard of deferred payments; but the reasoning which proves this will fail in many respects when applied to money. Wheat has been urged by some writers as a suit- able single article for standard purposes, for the reason that it has, or is thought to have, great steadiness of value through long periods of time. Before the development of modern transportation the price of wheat was remarkably steady. Adam Smith remarked that “Corn... is, in all the different stages of wealth and improvement, a more accurate measure of value than any other commodity or set of commodities.”! What Smith had in mind, however, in this statement, as an 1“ Wealth of Nations,” Bk,I., Ch. 11, (Rogers ed., I, 1, p. 198.) 274 STANDARD OF DEFERRED PAYMENTS ultimate standard, was really labor. He used wheat merely as a convenient means of measuring labor against gold and silver, because he believed that for long periods a given amount of wheat was more nearly a product of the same quantity of labor than was the case with any other article. An interesting historical application of the wheat standard is the so-called Fiars’ Price in Scotland. “Fiars’ prices in the law of Scotland are the aver- age price of each of the different sorts of grain grown in each county, as fixed annually by the sheriff, usually after a verdict of the jury; and they serve as a rule for ascertaining the value of the grain due to feudal superiors and to the clergy or to law proprietors of teinds, to landlords as a part or whole of their rents, and in all cases where the price of grain has not been fixed by the parties.”’1 A sufficient answer to the advocacy of the wheat standard, however, is the course of the price of wheat in the last ten or fifteen years. The open- ing up of fertile lands in the West, and the develop- ment of the transportation system of the world, have put wheat among the articles whose price varies in a marked degree. 10. The Nature of the Tabular, or Multiple Commodity, Standard. — Of greater importance, be- cause of the support it has received from econo- mists and publicists, as well as because of its more scientific character, is the proposal to establish 1 « Encyclopedia Britannica,” 9th ed. 275 MONEY a standard based on the prices of a number of articles. This is the Tabular Standard. The unit of measure under this standard is the aggregate price at a given time of a long list of articles, a definite quantity and quality of each being chosen, just as is done in making a table of index numbers. A table of the prices of these articles is made when the debt is created, and again when it is to be paid. If we call the sum of the prices of the articles at the creation of the debt 100, then the amount of money to be paid is to the amount bor- rowed as the sum of the prices at the time of pay- ment is to 100. Thatis, the debt is really regarded as consisting of as many units of the Tabular Standard as the money loaned would buy at the time the debt was incurred. The amount of money which will buy these units when the debt is due is what the debtor pays. For example: if, on the first of January, A borrows $1000 payable in one year, he finds the number of units of the tabular standard which $1000 will buy on January first. Suppose this number is ten. He then gives his creditor a note for ten units of the tabular stand- ard, and on the first of the following January reference is made to the price list then existing, to determine how much money ten units of the tabu- lar standard will then command. He may find that $990 will buy the same quantity of the goods used in making up the table as $1000 would buy the year before. In that case the debt is settled by the payment of $990. 276 STANDARD OF DEFERRED PAYMENTS 11. The Equity of the Multiple Standard. — Of course it would be necessary to have some means of insuring the accuracy of the prices quoted in making up the tabular standard. This would be done by creating an official commission, whose duty it would be to publish at stated periods, say weekly or monthly, changes which have taken place in the prices of the commodities entering into the table. With these prices in hand, it would be an easy matter for an individual to find out what his debt was worth in money, at any date. If the tables included all articles sold at the time, in the proportion in which they are offered for sale, and if the amount of each article in the table were scaled down so that the price of the whole should become that of a unit of money, the tabular unit would become what we have called the composite commodity unit. The aim of the tabular standard of deferred payments is, therefore, to return at the time of payment as many such composite com- modity units as the money borrowed enabled the borrower to secure at the time the loan was made. The debtor, by this method, would return the same income in goods as he received. On the face of it, this seems just. What could seem fairer than that the creditor should get back as a payment an amount of consumable goods equivalent in quantity to that which he had loaned? The plan, however, is really not so equitable as it seems. If throughout the debt period the scale of production and consumption remained constant; 277 MONEY if, in other words, the marginal utility of goods neither fell nor rose, so that the marginal utility of our composite commodity unit remained not only a constant quantity, but a constant derived from the same relative values, the proportion of the articles entering in to make up the unit being unchanged, then the tabular standard would be equitable. But changes in the price level are nearly always, perhaps always, accompanied by changes in values, changes in the marginal utility of goods. Instead of correcting these, the tabular standard gives the benefit of them to only one party to the contract. If goods become twice as abundant as they were, so that the scale of living has risen considerably during the debt period, the lender who receives in payment of a debt a quantity of goods equal to the quantity which he loaned the year before is thereby put lower in the scale of social welfare than he would be if he received an amount of goods increased in sufficient measure to give him his share of the increase in social prosperity. For we have seen that the same quantity of goods does not always represent the same quantity of value, or imply the same degree of welfare. By returning the same amount of goods, the benefit of a rise in prices is given wholly to the creditor, and the benefit of a fall wholly to the debtor. Each receives, in his respective goods, a value to which he is not entitled. But it is precisely this result that the tabular standard and all similar devices aim to prevent. 278 STANDARD OF DEFERRED PAYMENTS 12. Theoretical and Practical Objections to the Multiple Standard.— As Mr. L. S. Merriam has pointed out,’ the tabular standard aims to restore the same absolute utility as was loaned. Yet it ignores one of the elements of utility and of value. We have seen that utility is derived from the phys- ical efficiency and the psychical efficiency of com- modities ; that is, their power to satisfy physical and psychical needs. If the latter were altogether removed, so that physical efficiency alone consti- tuted want-satisfying capacity, then the tabular standard would be just enough. Its advocates seem to have been misled by concentrating their attention on the utility of such goods as wheat, and other necessaries of life, which have little or no psychical efficiency. Their utility depends ex- clusively, or mainly, upon their physical efficiency — their capacity to satisfy physical wants. The bicycle, however, is an example of another kind of goods. The loan of a bicycle fresh from the shop in 1895 could not be repaid in 1904 by the return of an exactly similar bicycle, made at the same shop and at the same expense, because fashion in bicycles has changed, and the element of psy- chical efficiency in their utility and value has largely disappeared. The physical efficiency of a bicycle is as great as ever; its total utility, or want-satisfying power, is less, because of the change in fashion, and its value is less. Its possession would now put the owner in a lower 1 Annals of Amer. Acad, of Pol. and Soc, Sci., U1, 101. 279 MONEY position in the scale of social welfare than the possession of the bicycle he loaned would have done ten years ago. There are many other cases of this kind, and the tabular standard is not ap- plicable to them. It is, after all, but a rough-and- ready method of returning the same amount of physical efficiency. It returns neither the same total utility nor the same value, nor a utility and value proportionate to changes in general prices. The tabular standard is not suitable for ordi- nary business debts, for these are usually for short periods, so that the price fluctuations are not ordinarily great enough to require a corrective. Moreover, as Professor Laughlin has pointed out,! merchants’ accounts could not be made to balance under the tabular standard, since it does not entirely replace money, and the business man would therefore be obliged to keep his accounts in both standards. He could not strike a balance between receipts and expenditures, partly in tabu- lar standard units and partly in money. A third source of trouble would come from a lack of bal- ance between notes due about the same time. A note for a certain number of units of the tabular standard would not have a fixed price, and could not well be discounted. A note which the business man had to pay in three months might not be met by the proceeds of another due him a week before, although both were made at the same time, repre- sented a transfer of the same amount of money, 1“ Principles of Money,” p. 51. 280 STANDARD OF DEFERRED PAYMENTS and the same number of units of the tabular standard. The tabular standard would be serviceable in cases where certainty in the amount of income in ordinary consumable goods was desirable. For the certainty of income in articles of consumption would in many cases offset any loss that might come from a change in the scale of values, accom- panied, as that change would be, with uncertainty as to the amount of goods which a given amount of money would from time to time command. 13. The Labor-time Standard. — Labor has been advocated at various times as a standard of deferred payments. The labor standard appears under three forms. The first makes mere labor time the unit of measure; the second, labor cost; and the third, the disutility of marginal labor. The labor-time theory is based on the socialistic idea that labor is the sole cause of value, and that the return of goods pro- duced by labor expended through equal amounts of time would be just. Different kinds of labor, however, produce unequal results in the same time, and there is no way of converting one kind into terms of another. Moreover, the efficiency of labor changes with progress, and the return of the same amount of labor time would not keep debtors and creditors in the same relative positions in a progressive society. ; 14. The Labor-cost Standard. — The labor-cost theory is based on the idea that equity is main- tained by the return of equivalent costs of produc- 281 MONEY tion. “We aim,” says an advocate of this theory. “not at the redelivery of article by article, but at the repayment of labor by labor, or of sacrifice by sacrifice.”1 Adam Smith suggested that “a day’s work of an unskilled laborer does not vary much from generation to generation, and that it, there- fore, may fairly be used as a unit of measure of value.” ‘He, of course, did not mean that the same quantity of labor would always have the same exchange value, relatively to other things, but that the inconvenience or negative utility of a given amount of exertion might be regarded as constant. If all human beings at different periods were simi- larly constituted, and if all work could be expressed in accurate physical formulz, then Adam Smith’s contention would be sound. But neither supposi- tion accords with the facts. We cannot reduce all labor to raising foot-pounds, nor can we suppose that the mental strain corresponding to the phys- ical unit of work is constant. Still, for remote periods, in which the kinds of wealth differ very much, unskilled labor is perhaps the best measure of value.” ? There is a certain amount of truth in Smith’s idea, and it is one that has always had believers; but the cost involved in such a day’s labor is difficult to estimate, and the constancy of its value is much less certain in these days of machinery than it was 1 Leonard Courtney, Vineteenth Cent. April, 1893. 2 J. Shields Nicholson, note on Bk. I., Ch. 4, of the “ Wealth of Nations,” Nicholson’s ed., p. 409. 282 STANDARD OF DEFERRED PAYMENTS in the time of Adam Smith. Labor cost would serve well in a state of society in which each one must draw “direct from nature the articles which supply his wants,” but comparison of such a day’s labor in a capitalistic régime with a day’s labor in another economic régime is out of the question. So, too, is the comparison of labor of different kinds in the same economic régime. 15. The Disutility of Labor Standard. — Closely connected with the labor-cost standard is the disu- tility of labor standard proposed by Professor J. B. Clark. The disutility of labor in production is a different thing in an advanced society from what it is in a primitive economy. In the latter it is the pain, toil, and sacrifice caused by direct labor; in an advanced society it is, in a large measure, the indirect disutility caused by the fact that, while personal toil is less in amount and less intense in character, the producer is kept from enjoyment of the increasing good things of life throughout the period of production. The marginal disutility of labor standard re- quires the return of goods whose marginal utility is equal to the direct and indirect disutility of fur- ther production. All disutility of marginal labor, both direct and indirect, decreases with improve- ments; hence this standard gives an increasing amount of commodities for a constant amount of disutility of labor. It certainly does, therefore, distribute the benefits of man’s increasing com- mand over nature. “If the creditor, in making 283 MONEY the Joan, gave to the debtor the power to get a hundred commodities, representing a hundred hours of labor; and if the debtor at the end of fifty years pays to his creditor money that will buy a hundred and ten similar commodities, but was earned by ninety hours of labor, the gains from progress are shared in a way that is prac- tically even.” ! This standard is applicable where the creditor and debtor are members of the same economic group, in the sense that the social utility and the disutility of labor are the same. It is not applica- ble, however, between societies in which this is not the case. It would not be an equitable standard for the discharge of a debt by an American if the debt were due to a Chinaman in China. More- over, it ignores the element of psychical efficiency in value. A change of taste or fashion may change the effectiveness of goods in putting creditor and debtor in the same relative position in the scale of social welfare, even though the disutility of pro- duction of those goods is unchanged. 16. The Marginal Utility Standard. — The mar- ginal utility standard of deferred payments calls for a return of equal social values as measured by marginal utilities. This standard confronts us with several serious difficulties. The marginal utility re- ferred to must mean that of the composite unit of goods — or the tabular standard unit — to society, 1 John B. Clark, “The Gold Standard of Currency in the Light of Recent Theory,” Pol, Sci. Quar., 1895, Vol. X., p. 398. 284 STANDARD OF DEFERRED PAYMENTS or to the creditor, or to the debtor. If it mean the marginal utility of goods to society, this is indi- cated by the price level, or the amount of money which will buy the composite unit of goods; and the standard calls simply for the prevailing money value of the debt. This, however, is not at all what the standard is intended to accomplish. Moreover, by the same value can be meant only the absolute value of the amount loaned at the time of borrowing, and not what would be at the time of payment the same proportion of social values as the debt was at the time of its creation. Hence, this standard would not restore to the creditor a value that would place him in the same relative place in the scale of social welfare as did the value he loaned at the time of the loan. What is wanted is not a constant value, but a value proportionate to changing social values. If these increase, the debt should be discharged by an increased amount of value. Otherwise, either creditor or debtor will not share in the benefits of social progress. 17. The Total Utility Standard. — The total util- ity standard, as proposed by Professor Ross, is es- sentially the tabular standard with an amendment. According to this standard, “the debtor is not to return a value measured in /ador, nor yet a value measured in commodities, but a value measured in objective utility. And with industrial progress this is secured by a slight excess of commodities.” } This slight excess of commodities is given to en- 1E. A. Ross, Annals of Amer. Acad., November, 1892, p. 49. 285 MONEY able the creditor to share in the benefits of progress, and is to be sufficiently ample “to compensate him for the depreciation of that portion of his wealth devoted to satisfying the needs of his social nature.” Objection might be made to this standard, in the first place, on the ground that the proposed slight excess of commodities is not definite in amount, and that the standard therefore cannot be definite. The slight excess might be a very different amount in the judgment of different people. Waiving this point, however, an examination shows a close re- semblance of the total utility standard to the com- modity standard, as exemplified in the tabular standard. The tabular standard returns the abso- lute total utility borrowed, minus a quantity due to the depreciation of that portion of the goods de- voted, as Professor Ross says, to the satisfaction of the social nature; that is, minus a certain amount of what we have called the psychical efficiency ele- ment of utility. This standard would return the utility borrowed without that diminution ; that is, the same objective utility. By this can be meant only units of utility as estimated by society at large, independent of peculiarities in the subjective wants of individual creditors and debtors. In other words, the units of utility must be determined with- out reference to the wants of any individual. Pro- fessor Nicholson’s objection to Adam Smith’s labor standard might well be made here. It is as im- 1E, A. Ross, Annals of Amer. Acad., November, 1892, p. 49. 286 STANDARD OF DEFERRED PAYMENTS possible to estimate utility in units corresponding to foot-pounds, as it is to estimate labor in such terms. A more important objection, however, may be made. The return of the same objective utility does not enable the creditor and the debtor to share the benefits of industrial progress. The slight ex- cess allowed to balance the diminution of the psy- chical efficiency element of utility in the goods loaned simply enables the creditor to get back what he loaned. Suppose that the total volume of social utility increased during the period of the debt; increased, that is, as measured in some ob- jective unit, analogous to foot-pounds. Such a unit might be the number of heat units in a pound of wheat. If, now, 100 pounds of wheat are loaned, the loan implies the transfer of 100% heat units. If the total social utility rise from one million to one million and a half, during the period of the debt, the return of 100 x heat units to the creditor will not give him any share in the increase due to the additional half million. The same number of heat units, or foot-pounds, is a smaller proportion of the whole. In other words, there is a surplus to be shared between the creditor and the debtor, altogether irrespective of the amount allowed for the diminution in the psychical efficiency of the goods borrowed. 18. The Purchaser’s Surplus Standard. — The purchaser’s surplus standard is based upon the idea that the satisfaction obtained by the purchaser, over and above the sacrifice involved in his expenditure, 287 MONEY gives the measure of his position in the scale of social welfare. The spenders of money may be arranged in rank, according to the amount of sur plus satisfaction which they obtain from the ex- penditure of the same amount of money. The purchaser of goods who receives no such surplus is the marginal purchaser, and market price in a competitive market is fixed byhim.1 The least effi- cient buyer, in other words, secures no advantage from his purchase. He has no gain and no loss. Every other buyer of commodities in the same market, at the same time, secures a surplus of satisfaction, whose amount is dependent upon his competitive efficiency as a purchaser. He has, therefore, a certain position in what we may call the scale of purchasers, and his surplus satisfac- tion bears a definite ratio to that of every other purchaser in the market. This surplus satisfaction from the expenditure of the same amount of money, for composite units of goods, may be taken as an index of the wel- fare of its owners, so far as due to this amount of money. Now, what we are aiming to do is to return to the creditor, at the time of payment, such an amount of wealth as will make his purchaser’s surplus from the amount returned bear to that of the borrower a ratio equal to that borne by their respective surpluses when the loan was made, 1 That is, by him alone of the purchasers. The influence of the sellers, being the same for all the purchasers, may be here taken as constant. 288 STANDARD OF DEFERRED PAYMENTS assuming that any change which has occurred in the value of the debt has not been caused by the creditor alone, nor by the debtor alone, but rather is a social change which is to be shared by both as members of society. We have to do only with the sum of money loaned. A change in the for- tune either of creditor or of debtor we cannot take into account. Our supposition is that, so far as all factors of individual fortune are concerned, the creditor and debtor are in the same relative posi- tions as before. The only change that has oc- curred is in the purchasing power of the amount loaned. When the price level changes, the surplus of all purchasers changes. Each one has to give more or less for the same amount of goods. Now, to any individual purchaser, the scale of marginal utilities of all the goods he buys is proportional to the scale of their prices;1 and a change in the scale of prices will induce a corresponding change in the scale of marginal utilities. Hence, under the conditions assumed, the buyer’s surplus of any individual, after a change in the price level, will bear to his former surplus the ratio of the new price level to the old; and the new surplus of any buyer will bear the same ratio to the new surplus of any other buyer as the old surplus of the first did to that of the second. Now a rise in the price of goods takes away 1 (Cf, I. Fisher, “ Mathematical Investigations in the Theory of Value and Prices,” p. 37. U 289 MONEY from the surplus of each purchaser a certain amount, which is not the same for all individuals. It diminishes the surplus of some more rapidly than that of others. In the diagram, let de, fg, etc., represent the surplus which results to differ- ent purchasers from the expenditure of a given in Ki, amount of money, say one dollar, on one scale of prices. The surplus utility of the goods bought with a dollar will be largest to the purchaser who has the largest amount of money, because to him a dollar has less value than it has to the others. A given rise of prices will cut off a larger portion of the surplus utility of some purchasers than it will of the others. Let it cut off dm, gz, etc., for the successive purchasers. The surplus utility for the series is now represented by me, /, etc., on the new price level. For the sake of simplifying the problem, let us assume for the moment that the utility curves, 290 STANDARD OF DEFERRED PAYMENTS represented by 4% and aé, are straight lines. Of course this cannot be true of actual cases, and the assumption represents the problem at what the mathematicians would call the limit of variation. Under this assumption, the line 24 cuts the paral- lels representing the surplus of utilities of pur- chasers proportionally ; so that ed is to fg as em to Ju; that is, the surplus utilities from the amount of expenditure in question would have the same ratio on the two scales of prices, and the debt would be fairly discharged with an amount of money which was to the amount borrowed, in the ratio of the price levels. But, as we have remarked, the utility curves a and 6% cannot be straight lines. They are more correctly represented by the dotted lines. Hence the ratios are not quite equal, and the amount of money to. be paid to discharge a debt will change in a ratio greater or less than the ratio of the prices. The amount of money which should be returned is, therefore, the new price, with an addition or subtraction sufficient to allow for this variation. As a matter of fact, the arrangements existing under a metallic standard are such that this amendment is largely automatic. It is brought about, as we shall see, by a fall in the rate of interest, a gradual shortening of the credit period, and the diminution of price oscillations through a refinement of speculation. 291 CHAPTER XIV BIMETALLISM REFERENCES: Barbour, D., The Theory of Bimetallism; Cer- nuschi, H., La Monnaie Bimetallique; Darwin, L., Bimetallism ; Giffen, R., The Case against Bimetallism; Jevons, W. S., Money and the Mechanism of Exchange, Ch. 12; Laughlin, J. L, History of Bimetallism in the United States; Laveleye, E. de, La Monnaie et Je Bimetallisme International; Nicholson, J. S., Money and Monetary Problems, Pt. I., Ch. 8, Essays 7, 8, 9; Scott, W. A., Money and Banking, Chs. 14,15; Walker, F. A., International Bimetallism; White, H., Money and Banking, Ch. 7; Willis, H. P., History of the Latin Monetary Union. 1. The Nature of Bimetallism.— Besides the efforts to find a suitable standard of deferred payments by means of which to correct the harm done by the changing value of money, proposals have also been made which aim to make such a standard unnecessary by obviating or minimizing changes in the price level; attempts, not to repair the supposed mischief which such things cause, but to prevent it. One of the methods suggested for doing this, bimetallism, is of great historical and theoretical importance. It is important, his- torically, because it has been practised more or less extensively at different times, and undoubtedly 292 BIMETALLISM has succeeded in a measure in preventing the monetary evils that would in its absence have arisen. It is important, theoretically, because the system is supported by arguments which are weighty, and, on some points, convincing. Bimetallism, as its name implies, is a monetary system in which the principal, or standard, money is composed of gold and silver together, instead of either alone. According to this system, free coin- age of both metals is established at a fixed ratio of exchange. Each metal is to be unlimited legal tender, so that people who have debts to pay may have the option of paying in either metal. Con- sequently, if either metal fall in value, in terms of the other, debtors will be free to take the bullion of the cheaper metal to the mints and have it coined at a legal ratio, which, it will be remembered, is higher than the market ratio, and with the coins thus obtained to pay their debts. This privilege would give the debtor the advantage of paying in a cheaper metal, and would seem to be against the interest of the creditor. It is urged, however, by the advocates of bimetallism, that the creditor would be protected by the fact that both metals are to be used concurrently, or at any rate alter- nately. It is further urged that if the ratio be properly chosen, and the system established over a sufficiently wide area, changes in the ratio would either be very small or would disappear altogether, so that, in either case, the creditor would be likely to lose little or nothing. 293 MONEY 2. The Advantages claimed for Bimetallism. — The advocates of bimetallism insist that it would obviate many of the evils which attach to a mono- metallic monetary system. In the first place, they urge, the system would enlarge the stock of stand- ard money and thereby lessen fluctuations of the price level. For the larger the stock of money, they say, the smaller will be the proportionate changes in its value, caused by additions to it, or by new demands for it. It is also urged in behalf of bimetallism, that the use of both metals would cause a more rapid increase in the total money stock than could come from the use of one metal; and that the increase in the amount of money would cause its value to depreciate slowly, and thus furnish a gentle but constant stimulant to business. For, if money is depreciating, so that expected profits are constantly or frequently wiped out by the increase in the value of money, trade becomes depressed and. the spirit of enterprise is deadened. While there is some truth in this contention, yet, as we have seen in another connection, there are counteracting forces which indicate that perhaps too much stress has been laid on the advantages of slow depreciation. : In the next place, the advocates of bimetallism bring forward historical instances of falling prices in order to show the economic evils to which con- traction of the standard money subjects the com- munity. They argue that in such periods as the 294 BIMETALLISM twenty-five years following 1873, the great fall in prices was due to the use of gold alone; that the demand for that metal in the arts increased so fast that the annual production was not enough to maintain the old price level, and that the com- munity was, therefore, subjected to all the evils of appreciation. They also emphasize the injustice of the single standard to debtors, insisting that the burden of debts is increased thereby. The fourth important claim which the advocates of bimetallism put forth is, that the system would keep steady the par of exchange between countries which trade with one another. It is a well-known fact that a country which has a depreciated cur- rency has to pay a higher price for its imports, in order to offset the depreciation that actually has taken place, and to insure the foreign importer against the risk attendant upon possible further depreciation. At present, if a merchant in a gold country sells a cargo of goods to one in a silver country, the silver price at which he sells them is determined by the rate of exchange between silver and gold on the date of the sale. He asks for as many silver dollars as will make his gold price. When the cargo arrives and the time comes for payment, however, the value of that silver dollar may have changed, so that the par of exchange between the two countries is not what it was on the day of the sale, and a loss will be incurred by one of the exchangers. The uncertainty attendant upon this fluctuating exchange is so great that it 295 MONEY might seriously affect the foreign trade of the country. Competition is so keen that a very small margin of profit will decide whether or not certain goods will be brought from a particular country, or sent to a particular country. With a depreciated currency and a fluctuating par of exchange, a small margin of profit may be wiped out, or so seriously impaired that business men will not take the risk of exporting or importing goods. There- fore any means of keeping the par of exchange steady would be an advantage. The advocates of bimetallism claim that it would remove this element of risk from business. 3. The Maintenance of the Chosen Ratio of Ex- change between Gold and Silver. These are the principal advantages claimed for a bimetallic sys- tem. It is not within the scope of our work to examine the historical instances in which bimetal- lism has been applied, with more or less success. There is good reason for believing that for a con- siderable number of years much good was done by the maintenance of the bimetallic system in France. There are reasons for believing, however, that the good was more apparent than real, although the disadvantages caused were more elusive than the benefits. The first question that naturally occurs to one, in discussing the proposals of bimetallism, concerns the maintenance of the ratio. The most rational advocates of the system take the ground that the ratio adopted should be the market ratio prevailing at the time. It would be necessary to 296 BIMETALLISM choose this ratio, or one very near it, because if a different one were chosen, the demand for the cheaper metal would have to be great enough not only to keep its price up in the face of a large increase in its production, but great enough also to overcome the difference between the market ratio and the ratio actually chosen. We must assume, in fairness, therefore, that the ratio chosen will be the market ratio. Even so, however, it would seem, at first thought, that the ratio could not be maintained against the influence of Gresham’s law. We know that ordinarily, if an attempt is made to circulate two metals of different value side by side, people will export or melt down the dearer, and use the cheaper for monetary purposes. It would seem that this procedure would make bimetallism impossible. Undoubtedly, it would do so, if the bimetallic system prevailed in only one country. It is claimed, however, that if the system were applied over a sufficient area, if it were adopted by a sufficient number of commercially strong nations, Gresham’s law would be neutralized, and the evils of constantly changing from one metal to another would be obviated. In support of this position, it is urged that as soon as one metal fell in value, or showed signs of falling, the demand for it would increase, the demand for the other metal would fall off, and the effect would be to check the separation of the values of the two. Suppose, for example, that the ratio of 16:1 were adopted. That is, for one ounce of gold we can 297 MONEY get sixteen ouncés of silver. If, now, the market value of silver falls, a given amount of gold will buy more silver in the form of bullion than in the form of coin. Instead of using the gold to pay debts and purchase goods, people will now buy silver bullion with it, and have this silver coined to make payments with. If this process went on long enough, it would seem that all the gold would go out of circulation. During the process the demand for gold to pay debts with is constantly growing less; hence, the value of gold would tend to fall. Meantime the demand for silver bullion, bought with the gold, tends to raise the market value of silver in terms of gold. That is, the in- creased demand for silver tends to check its fall in gold. In other words, the contraction of the money supply, caused by the withdrawal of the gold, will produce a fall of prices, or a rise in silver. We have, therefore, a cheapening of gold, the dearer metal, and an enhancing of the value of silver, the cheaper metal. The two movements, being in opposite directions, will tend to keep the — metals from departing very far from their estab- lished ratio of exchange, and may, indeed, prevent any separation at all. The process which has just been described is known as the compensatory action of the double standard. There is some ground for the opinion that the oscillation, or alternation, of the standard would not occur, if bimetallism were universally adopted, but that the mere prospect of such a change would be dis- 298 BIMETALLISM counted beforehand. For, the advocates of bimet- allism insist, the larger the number of countries which adopt the system, the more powerful will be the forces at work tending to prevent a change of the relative values of the two metals. The claim is undoubtedly sound. If three countries have gold monometallism, the transfer of one gold mono- metallic country to the bimetallic group not only reduces the demand for the dearer metal, but at the same time increases the demand for the cheaper metal. Every addition of monometallic countries to the bimetallic group would strengthen that group much more than in the proportion of the number of countries added. In the last analysis, of course, the steadiness of the ratio between the two metals depends upon the rate of increase of the cheaper metal; but it is doubtful whether the rate of in- crease would ever be fast enough to outrun the increase in the demand for the metal whose value is falling. Hence, with bimetallism universal, or general, the ratio might be maintained. 4. Some Factors adverse to the Maintenance of the Ratio. — There are certain considerations, how- ever, which modify the conclusion of the last para- graph. As societies grow stronger and richer, the scale of incomes and prices tends, upward, and this fact has an important bearing onthe steadiness of the ratio of exchange of the two metals under bimetallism. For a higher scale of prices and in- comes calls for the use of a dearer metal as money, a metal with a higher monetary utility, with high 299 MONEY value in small bulk. For this reason, as communi- ties became richer, the demand for gold would doubtless increase. The monetary utility of silver, the cheaper metal, would decrease, and its service- ableness to richer communities would become less; hence the demand for it for general use would diminish. If, now, under a bimetallic system, the supply of gold, the dearer metal, should increase, as communities became richer, the effect would be to lower the value of the whole mass of the money material. Under these circumstances the value of silver would fall with that of gold, and the ratio of exchangé between the two metals would not be likely to change very much. It is possible, how- ever, that the decrease in the demand for silver, due to its inferior monetary utility, under the con- ditions supposed, would offset, in whole or in part, the tendency of debtors to make payments in sil- ver. For the real cheapness of a money material in a given society depends not only on its cost of acquisition, but also on its monetary efficiency. Tf, on the other hand, the supply of the cheaper metal, silver, should increase, the value of the whole. monetary mass would fall farther than be- fore, and : the demand for silver for payments would decrease, while that of gold would increase, since its monetary utility would be higher. Conse- quently the metals would separate in value, be- cause the influence of the demand for the money of the greater monetary utility would be against the maintenance: of the ratio under conditions 300 BIMETALLISM which increased the supply of the cheapening metal. Therefore, an increasing demand for a money material of a higher monetary utility is bound to work against the demand for a cheaper metal by debtors, and lessen the influence of that demand in retarding the fall of the price of the cheaper metal, and, in so far, again, defeat the pur- pose of the bimetallic system. However, the causes just described would operate thus only during a period of rapidly increasing wealth. Dur- ing prolonged periods of slow economic develop- ment the ratio of exchange between the metals might be kept steady. 5. Bimetallism and Fluctuations of the Price Level.— If we admit that the ratio can be main- tained in the bimetallic system, and that bimetal- lism is therefore practicable, it remains to consider whether the advantages claimed for it are really attainable, and of as great importance as bimetal- lists have claimed. There is little doubt that a steady ratio would keep the value. of the metals approximately constant with reference to each other, but would it keep the value of both steady with reference to goods? It is claimed that an increase of the volume of money would diminisn the fluctuations of the price level on the theory that a larger volume of money is less sensitive to changes in supply and demand than is a smaller quantity. Water which is suffi- cient to overflow a pond would scarcely be noticed in Lake Michigan or the ocean; and a drouth 3or MONEY which would dry up the pond would lower the level of the lake but a fraction, and that of the ocean not at all. So, it is argued, the larger vol- ume of money will show fewer changes of value by reason of an increasing, or a lessening, demand for it in the shape of goods; and a smaller change, also, from an increasing supply of the metal due to changing conditions of production. For it is not unlikely that what we may call the accidents of mining, whereby one metal or the other is pro- duced in unusually large quantities for a time, may offset one another. When a new gold mine is dis- covered, the production of silver may decrease, and vice versa. The argument adduced in favor of bimetallism goes to show that in all probability the degree of fluctuation of changing prices would be less, but that the fluctuations would be greater in number, provided the conditions prevailing at the time the system was put in operation continued. That is to say, if the demand for the medium of exchange remained about the same, and its supply were in- creased, as it would be under the bimetallic system, obviously the degree of change in the value of the medium of exchange would be lessened. This would be true not only because of the increase in the mass of exchange medium, but because prices would always follow the cheaper metal,! since it is with the cheaper metal that payments are made. If the system succeeded at all, then, strictly speak- 1 Cf. Jevons, “ Money and the Mechanism of Exchange,” p. 138. 302 BIMETALLISM ing, the standard of value would alternate from one metal to the other with every variation in the ratio of exchange of the metals. Prices will not soar so high as the value of the cheaper metal would make them go if it were used by itself, nor so low as the value of the dearer metal would drive them if it alone were in use. Therefore the fluctuations would, probably, be of smaller range, but of greater, frequency. It is claimed, however, that frequent small changes would be less detri- mental to business than a smaller number of changes of considerable magnitude. This claim is of very doubtful validity. For the period of a large volume of debts, and of by far the greater number of productive and mercantile transactions, is short—too short to be seriously affected by a change of much magnitude in the purchasing power of money. The time necessary for such a change would overlap a series of periods of debt and of manufacturing and trade activity. To in- crease the number of fluctuations of the price level would be to introduce some, or many, within the debt periods and the cycles of production and trade. Business would be exposed to more uncer- tainty by such procedure, and such changes would be harder to forecast and to discount than would be a change in one direction through a portion of its progress. Moreover, even if frequent small changes were less harmful than occasional large ones, it is questionable whether the condition of greater fre- 393 MONEY quericy and less degree could be permanent. The argument which supports it ignores the influence of the supply of goods on prices. The upward impulse which the bimetallic system would give to the price level would in time stimulate industry, and, by increasing the supply of products, bring about a new fall of prices. It is very likely that under the modern system of credit, the impulse given to production by a rise of prices might cause an expansion that would overshoot the mark, and thus produce a reaction that would more than offset the gain which had been made. Although, then, bimetallism would probably give a higher range of prices, at least at first, there is no reason whatever for assuming that the higher level would be, in the long run, any steadier than the one which it supplanted. 6. Bimetallism as a Relief from the Burden of Debts. — If the argument just set forth is correct, it follows that the claim that bimetallism would relieve debtors, loses much of its force. The real cause of hardship to debtors, the thing which the argument for bimetallism assumes to be of greatest importance, is not a high or low level of general prices, but the changes in these. The mere fact that the price level is high or low is not, of itself, important for either debtor or creditor, for pro- ducer or consumer; but the change from one price level'to another is a very different matter. Now, in so far as bimetallism failed to restore the old price level completely, it would fail to justify 304 BIMETALLISM its adoption ; for it would simply substitute a new series of changes in the value of money, reckoned from a higher base line of prices. Nor could bimetallism correct these transient variations in prices which. are due to the oscillations of credit. Indeed, it is not unlikely that the larger money reserve which bimetallism must bring into use, in order to be successful, would produce an extension of credit that would increase the number of these transient variations. Moreover, the effect of a change in the demand for either one of the metals could not be felt over the whole bimetallic area at once. It would be felt in one place sooner than in another. There would be opportunity, there- fore, for loss or gain on transactions between places in which the effect is first felt and those which the movement reached later. Like the effects of a new supply of money, every variation under the bimetallic system would propagate it- self, as it were, by jerks, and the results would be unequal in different places. But it is of the es- sence of the system that it must operate over a large area. Consequently, it would be much less likely to be of service to particular classes of debtors, or to particular communities. In the interest of debtors, it is important to determine, also, what price level bimetallism would establish. Would it be the price level of five years before the adoption of the system, or that of ten years before? No evidence has ever been adduced to show that the price level which x 395 MONEY the bimetallic system would establish would be that which it was desired to restore. A larger volume of money might raise prices, but a defi- nite increase is necessary to raise them to a par- ticular level. Now it is impossible to show that the increased amount of money which the adop- tion of bimetallism would put into circulation would restore the price level of any particular year, or of any particular decade. Debts are not all of the same age. The restoration of the prices of one year, therefore, might prevent loss on debts contracted in that year, but it would not do so for the debts of longer or shorter standing. Con- sequently, it is impossible that the price level established by the bimetallic system could restore just relations between all debtors and their cred- itors. If it overshot, or undershot, the old price level, it would transfer from one party to the other whatever burden the change involved. The system might, indeed, check a fall, and substitute a rise, in the value of money ; but it offers no plan for controlling the extent of the rise, or of insur- ing that it shall go only far enough to be just, and no farther. At best, the system could only be a palliative of any hardships caused by debts on a falling price market. 7. Bimetallism would not provide a Slowly De- preciating Currency. — There is no assurance that the bimetallic system would stimulate business by furnishing a slowly depreciating currency. Aside from the fact that the importance of such stimula- 306 BIMETALLISM tion is usually exaggerated, the stimulus given to production might cause the supply of goods to gain upon the supply of money, and in that way check depreciation. The fall of value of the whole mass of money material caused by the use of the two metals would act as a check on the production of both, and retard any increase in their supply. The supply being practically constant, or of slow increase, while the volume of products constantly swelled, the value of the money mass would rise in time, and the world would then have another era of monetary appreciation, with a greater distance for prices to fall. The tremendous amount of the annual production of both gold and silver in recent years lends countenance to this argument. For the new supply has undoubtedly had considerable effect in lowering their value, and to check this production would check that fall. 8. Obstacles to International Bimetallism. — Bimetallism, to achieve any success at all in steady- ing the ratio of exchange between silver and gold, would have to be international in its scope. This requirement interposes insuperable obstacles to its adoption. International prejudice, the patriotic desire of the people of each country to have their own system of coinage, the difficulty of changing the ratios of coinage already existing in different countries, the shock to credit, and the disturbance which the change would produce in existing con- tracts and prices, as well as many other causes, stand in the way of the necessary international 3°7 MONEY agreement. If a country which was poor and economically backward at the time of the adop- tion of the system became rich and economically strong, its people would need, and would try to secure, the metal of higher monetary utility. But the international agreement would stand in its way and, in a measure, check its industrial progress. Such a country would be impelled to break away from the system, and adopt the metal best suited to its changed condition. This was the experi- ence of France. In 1803 she adopted the system of free coinage of both metals at the ratio of 154 parts of silver for one part of gold. For nearly half a century, the conditions of demand and supply were such that the ratio was fairly well maintained, and the policy of France conferred on the world whatever benefits this steadiness of ratio offers, but at the expense of her own people. The change in the relative values of the two metals, caused by the discoveries of gold in Australia and California, made it impossible for France to per- severe in her policy, except at a tremendous cost to herself. She was compelled to debase her fractional silver in order to save it, and in 1865 joined with Switzerland, Belgium, and Italy to form what is known as the Latin Union, for the mainte- nance of the bimetallic system. Under this union the great bulk of the coinage, especially of the principal coins, was gold. The monetary utility of silver was too low for economical use in France under the changed conditions. So her people saw, 308 BIMETALLISM with equanimity, her principal coins changed to gold. When, a few years later, the ratio of ex- change turned again in favor of silver, and gold once more became dearer, France protected her- self against the loss of the money of higher utility, because her industrial condition required a money convenient for large payments. Such, too, was the experience of the United States, and such, it would seem, would be the experience of every progressive country, even under international bimetallism. Finally, the arbitrary violation of all existing contracts by the establishment of bimetallism is a serious objection. Even if much of the claim were true, that gold monometallism at times bears harshly on debtors, it is more than doubtful whether the evil effects of the arbitrary violation spoken of would not create far greater hardships. The inviolability of contracts is an essential con- dition of progress. In the interests of business se- curity and development, they must be kept, even when to keep them is an unexpected hardship on one of the parties. 9. The Increase in Gold and the Bimetall.c Agi- tation.— The progress of events in recent years has quieted the demand for the establishment of bimetallism. The production of gold has increased so rapidly that the most ardent advocates of mone- tary expansion have every reason to be more than satisfied with the situation. It is not improbable, indeed, that the volume of money is greater than it would be, if, without the extension of gold pro- 309 MONEY duction, the world were living under the bimetallic régime. This progress in the production of gold, how- ever, is not an accident. It is doubtful whether it is a proper use of language to say that there ever was any real scarcity of gold in the period of fall- ing prices after 1873. The true explanation of falling prices, as has already been said, is prob- ably to be found in the fact that whatever loss the world suffered from falling prices was not enough to offset the gain received from expanding pro- duction, so that it paid to let prices fall rather than to turn capital to producing gold. As soon as the point was reached where the profit from expanding production was not great enough to offset the loss from the appreciation of gold, it became profitable to turn part of the capital which had been hitherto devoted to producing other things to the production of more gold. The inven- tive genius of mankind was turned to the solution of the problem, and gave the world chemical and mineralogical discoveries which have increased the world’s stock of money far beyond the dreams of the bimetallist. The movement has_ been, therefore, the result of curative causes whose op- eration bimetallism would have checked. The in- crease of the supply of gold has come about, in a sense, automatically, in response to increased pressure for more exchange medium. The es- tablishment of bimetallism would have been, so to speak, an artificial cure of the difficulty, and, 3190 BIMETALLISM like other artificial cures of social ills, it probably would have created difficulties of itsown. Indeed, we might say that the conclusion of the whole matter is, that while bimetallism would unde- niably offer some advantages, it is more than questionable whether these would not be offset by the evils which it would fail to cure, added to those of which it would itself be the direct cause. 10. Symmetallism.-—In its original form, bi- metallism contemplated the separate use of gold and silver in the form of coins. A modification of this plan has been at various times proposed whereby the two metals would be united in a single coin, in some proportion, such, for example, as that indicated by the ratio established between them. That is, instead of calling 23.2 grains of gold, or 371.25 grains of silver, one dollar, we might say that 11.6 grains of gold and 115.6 grains of silver make a dollar. This system is known as symmetallism. It is difficult to say what advantage this plan has over the simpler bimetallic method. It would give us a system cumbersome and complicated for making pay- ments, if the value of either metal should change; and it would offer opportunities for the abuse of coinage by governments that were not overscru- pulous in the matter. Variations in the value of coins due to wear and tear would be difficult to detect, and the poor and ignorant would be more easily imposed upon. Practical difficulties of 311 MONEY coinage also would stand in the way, and alto. gether the system has little to commend it. 11. Neo-bimetallism. — More scientific and prac- tical is the more recent form of bimetallism, or neo-bimetallism, as it is called. According to the neo-bimetallist, the best way would be to issue paper currency based upon gold and silver. Notes of given denominations would call for gold or silver, at the option of the holder. This plan would give the public all the advantage that comes from the use of paper money, and would at the same time not interfere with the working of the bimetallic system if it should be adopted. Instead of bimetallism at a fixed ratio, the free coinage of gold and silver at shifting ratios has been suggested. After what has been said of the simpler form of bimetallism, little need be added about this proposal. It does not avoid any of the disadvantages of free coinage at a fixed ratio, and it introduces new elements of uncertainty and variation. The system would be complicated, and impossible of regulation. For it would require constant government supervision of price changes, implying a knowledge of business movements, and a power to forecast their effects, that no govern- ment could by any possibility possess. The plan assumes the possibility of offsetting, by momentary acts, a series of forces acting, through a period, without any known relation between these forces and the act. This is impossible. The forces might cease to act before the remedy was applied, gi2 BIMETALLISM or they might then.be operating in an opposite direction, and the situation would be made worse. The plan presupposes, too, common action by different countries. But if the nations of the world cannot agree to establish international bi- metallism in its simple form, they will certainly never adopt a scheme against which exist all the reasons for their refusal in the other case, together with many which spring from the com- plex and changing conditions under which free coinage at a shifting ratio would have to be administered. 12. Commissions to regulate the Price Level. — Akin to bimetallism in its purpose is the proposal which has sometimes been made to keep prices steady by the injection or withdrawal of money from circulation at intervals, as prices fall or rise. To carry out this proposal it is suggested that a government commission, national or international, be established, whose duty shall be to compile tables of index numbers as a means of measuring the price changes. A base is to be selected, con- sisting, for example, of the average of prices for a series of years. This average is to be called 100, and changes in the level are to be computed peri- odically. According to the direction in which the price level has changed, the commission will then add or withdraw money from circulation. The proposal is, in substance, an attempt to create a money whose value would be invariable, and it rests for support upon the crudest form of 313 MONEY the quantity theory of money. It is a naive con- ception, as has been remarked, that the addition or subtraction of currency necessarily has any effect whatever on the price level, or that there is any direct relation between its supply and the value of standard money. It is equally naive to suppose that it would be possible to get a commission wise enough, or honest enough, to carry such a project through successfully for a considerable period of time. The history of the conduct of governments in the regulation of money does not inspire one with confidence in their possession of either the ability or the honesty to administer such a plan. But we do not need to rest our rejection of the scheme upon the difficulty of securing an honest and wise commission, for the plan is unsound in theory. This commission must inject and withdraw either standard money or government paper. If it added government paper to the circulation of a particular country, it would drive out standard money, and no effect would be produced on prices, but the country would soon be brought to an irre- deemable paper basis. If, on the other hand, the commission injected or withdrew standard money, where would it get this money? It must obtain money either by taking it out of circulation, by taxation, or by the sale of bonds, or else the govern- ment must control the product of the mines. In either case the plan would cause the very condition which it intended to prevent or to remedy. To take the money out of circulation would be to 314 BIMETALLISM contract the currency, in order later to expand it To control the production of the mines would be to withhold the supply of money, in order late: to contract or expand it. If the amount of gold added to the existing stock from year to year were not sufficient to prevent a fall of prices, how could it be made sufficient simply by passing it through the hands of a commission ? It has been suggested! that international paper money, issued in quantities sufficient to neutralize the causes of fluctuation as soon as they should arise, would retain a constant value and thereby keep the general price level steady. But the pro- posed plan takes no account of causes of price changes arising on the side of goods. It is not the case that a change in the money supply will re- verse such changes, irrespective of their source and causes. The addition or subtraction of a given quantity might merely alter the relation between the volume of exchanges settled by cancellation through credit paper and the volume settled by direct money payments, without affecting the price level at all. In short, as already said, price move- ments cannot be reversed by action that has no regard to their causes, nor can occasional action neutralize the effects of varied forces acting con- tinuously and in constantly changing directions. If at any time a quantity of money were injected to cure appreciation, there would be no means of 1 Gide, “ Principles of Political Economy,” 2d Amer. ed., Transl, by Veditz, p. 227, foot-note. 315 MONEY knowing whether the movement that had caused appreciation had come to a stop before the injec. tion was made, or whether it was to continue, or whether the current of events was to change and depreciation set in. Consequently, a commission would be setting in motion a force inadequate to cure the alleged difficulty without any knowledge whether it would continue, or be replaced with a force of an opposite character. Therefore the addition or withdrawal of a given quantity of money at any time would be as likely to aggravate as to remedy the difficulty it was intended to cure. Moreover, a measurement of the price changes by means of index numbers is a necessary feature of the scheme, and what has been said in criticism of this method of measurement would be valid against this plan. The plan is an excellent one to pro- mote speculation in stocks, and to put the money market at the mercy of gamblers; but it could have only a vicious effect on legitimate business. 316 CHAPTER XV SOME FACTORS WHICH MODIFY THE INFLUENCE OF PRICE CHANGES REFERENCES: Clark, J. B., The Gold Standard of Currency in the Light of Recent Theory, Pol. Sci. Quar., September, 1895; Emery, H. C., The Place of the Speculator in the Theory of Distribu- tion, Amer. Econ. Assoc. Pub., 3d Ser., Vol. I., No. 1, pp. 103 ff. ; Fisher, I., Appreciation and Interest, Amer. Econ. Assoc. Pub., Vol. XI., No. 4; Taussig, F. W., The Silver Situation in the United States, Amer. Econ. Assoc. Pub., Vol. VII., No. 1, pp. 91-118; Wells, D. A., Recent Economic Changes; White, H., The Gold Standard, The World’s Congress of Bankers and Financiers, pp. 84-87. 1. Cause of the Demand for Steadiness of the Price Level. — We have seen that the demand that price level, or the purchasing power of money, be kept steady, has arisen more from a desire to keep the value of debts unchanged than from a wish to distribute the current product of industry equitably. That is, emphasis is usually laid upon money as a means of discharging debts, rather than as a medium of exchange or of distribution of product. This emphasis is doubtless due to the fact that sympathy naturally goes out to people who suffer hardship from the burden of their debts, whether that burden has been brought on by their own 317 MONEY negligence, by misfortune, or by social changes over which they have no control. The feeling probably springs from the old-time notion that people are debtors because they are poor; that debts are contracted mainly for purposes of con- sumption. We have seen that this is to a large. extent a mistaken view. It is much more impor- tant in this age to take care that the laborer shall not lose by any change in the purchasing power of money, than it is to provide against the appre- ciation of debts. Now it is for the advantage of the laboring class to have money which appreciates with respect to goods and depreciates with respect to labor. The laborer gains if a dollar will pur- chase more goods and less labor to-day than it would yesterday. If money appreciates in a proper degree, it gives the laborer his due share of the benefits of industrial progress. There is some reason to think that gold, in spite of the vicissitudes of its value, comes pretty near doing this.1 In any case, it would seem that the pur- chasing power of gold, in the long run, falls with respect to labor, and rises with respect to goods. 2. Industrial Improvements diminish the Burden of Debts of Producers. — There are some considera- tions, however, which indicate that the loss to debtors from the appreciation of debts, caused by a fall in the price level, is less than at first view appears. Debtors lose, indeed, when they have to pay in products whose prices have fallen; but this loss 1 See J. B. Clark, Pol. Sci. Quar., September, 1895. 318 FACTORS MITIGATING PRICE CHANGES may be offset, in part at least, by a reduction in the cost of production of the goods which the debtor produces. Economic progress implies in- creased labor efficiency, and this, at first at any rate, is likely to benefit the producer as distinct from the laborer. It implies, also, improvements in industrial organization and in machinery, the advantages of both of which are bound in the first place to accrue to the producer. He cannot, of course, long retain this advantage, nor is it likely to be in its amount sufficient to offset the loss due to appreciation of money. Nevertheless, so far as it goes, it certainly does act as a buffer be- tween the debtor producer and the burden of his debts. Moreover, the debtor shares as a buyer the advan- tage of lower prices of goods other than his own, whether he buys for consumption or for further production. If his purchase of goods is for further production, the advantage is equivalent to a re- duction of the cost of his own articles, and the saving is of the kind referred to in the preceding paragraph. 3. The Debtor Class also a Creditor Class. — In the third place, it must not be forgotten that nowadays the debtor class is also, to a considerable extent, the creditor class, and that their debts and credits are, in large degree, simultaneous. This is es- pecially true of business debts, which form the great bulk of modern indebtedness. Business to- day is largely carried on by borrowed capital, and 319 MONEY business which is not so carried on has current debts as well as unpaid accounts. Hence, any loss which business men suffer as debtors is offset partly, or wholly, by their gains as creditors, and vice versa. 4. Debts contracted for Profit. — Moreover, debts are contracted now more for the purpose of secur- ing additional profits than from poverty. Business men contract obligations for the purpose of extend- ing their business and enlarging their incomes. Farmers put mortgages on their farms more often in order to buy new land, or to make improvements on their old land, than because the owners lack money to till the land they already have. In other words, most debtors to-day are debtors for profit, not from necessity ; and they are able to take care of themselves. Hence, to a not inconsiderable ex- tent, any loss which they incur by appreciation of debts would mean a loss of expected profit, rather than a loss of principal. 5. Effect of shortening the Period of Debts. — Still further, it is a fact that a great volume of current indebtedness is contracted for short periods, so that the adjustment of the purchasing power of money to offset the changes in the burden of debts is less necessary. This statement, again, is espe- cially true of business debts. Bank loans, which constitute so large a part of the volume of debts, usually run for a few days, or months at the most. The short-time loans of the banks constitute about sixty per cent. of the whole, and only a small por- 320 FACTORS MITIGATING PRICE CHANGES tion of bank loans run over six or nine months. The life of farm mortgages in the United States, about the burden of which so much was written when prices were still tending downward, a few years ago, did not average more than four or five years.} A gradual fall of prices running through a series of years would be distributed, therefore, among several groups of debtors, so that it is incorrect to assume, as so many times has been done, that the burden laid by falling prices upon a particular group of debtors is to be measured by the change in the purchasing power of money during the whole period of the fall. The loss is likely to be so distributed among successive debtors that the burden on each is trifling. This fact lessens whatever hardship the change brings, but does not altogether remove it. A hardship is not less a hardship because it is small in amount ; yet where the loss is less, the suffering is also less. There is, however, a fixed burden of indebted- ness which is long standing and permanent in char- acter. This is true of most public debts, and their burden, therefore, cannot be lightened by the cause just described. But we shall see that this burden is somewhat diminished by the payment of lower rates of interest, secured by means of fre- quent conversions. 1G. K. Holmes, Bulletin of the United States Department of Labor, November, 1895, p. 48. Y 321 MONEY 6. The Influence of the Speculator in diminish- ing the Effect of Price Changes. — Whatever bur- den is placed upon debtors by falling prices is diminished, moreover, by the influence of specula- tion. It has been pointed out that the speculator in a measure guarantees stability of prices by dis- counting their changes, especially for short periods. What, in the absence of the speculator, would be a violent price change is likely to be converted through his influence into a number of successive small fluctuations, so that the descent from a high level to a low level of prices is by a series of short steps. In other words, the speculator discounts the fall, so that he saves the entrepreneur from a loss due to unexpected changes in prices through a period of time corresponding to the cycles of busi- ness movements. If prices are falling through a long period, this fall need not embarrass producers, since all they care for is to be guaranteed against loss during the comparatively short period of the producing processes. 7. The Influence of the Rate of Interest on the Burden of Debts. — Still again, the burden of in- debtedness is lightened, as has been pointed out, by a fall in the rate of interest. It has been pretty conclusively shown by Professor Irving Fisher,} that the rate of interest tends in the long run to accommodate itself more or less closely to the changed value of money, and therefore to offset, 1 Appreciation and Interest,” 4mer. Econ. Assoc. Pub. Vol. X1., No. 4. 322 FACTORS MITIGATING PRICE CHANGES in part at least, the loss caused by changes in the value of the principal of the debt. It is evident enough that if we could know beforehand that the purchasing power of money was to fall steadily at a definite rate through a known series of years, the changes would be discounted from year to year, from month to month, or from day to day, in the prices of commodities, and in the rates of interest paid on loans. The changes, however, cannot be thus clearly and definitely foreseen, nor are they gradual and regular. For example, to mention only one cause of irregular fluctuations, the new methods of mining gold and the discovery of new mines would alone make it impossible to foretell exactly what the changes of a given decade, or a given year, might be. Nevertheless, even the irregular changes are more or less made up for in changing rates of discount, and this can be done more and more exactly the shorter the debt period and the more frequent the conversions. What creditors wish to have returned to them by debtors is such an amount of real capital as will yield them an amount of enjoyment equal to what they would have obtained by the consump- tion of their principal, plus a sum equal to their estimated loss by deferring that consumption, and their share of the advantage of economic progress, during the period of the loan. What lenders and borrowers are primarily interested in, then, is not the rate of interest, but what has been called the ratio of accumulation, or the amount (principal 323 MONEY plus interest), of the loan. What the lender wants is a return which will be the ratio of accumulation that he would get irrespective of any change in the value of money. The loan will be discharged by a sum of money which will purchase this amount (principal and interest), or ratio of accu- mulation, of the goods loaned. If, now, the value of money has changed, the amount to be returned in terms of money must change so that it shall be equivalent to the amount, or ratio of accumulation, in terms of goods, —or better, of satisfaction, assum- ing that it can be measured. The sum necessary to do this will be less if money has appreciated, and more if it has depreciated. But of the amount of the debt to be returned in money, the principal is fixed; hence the whole change must fall on the portion of the amount allotted to inter- est. That is, the rate of interest must change, falling as money appreciates and rising as it de- preciates. Professor Fisher has proven that high prices and rising prices are directly correlated with high rates of interest, and low or falling prices with low rates, and that an adjustment of interest to price movements takes place constantly, but for short periods is not so exact as for long ones. He has constructed the following table! of interest rates to show that experience confirms his theory: — 1 « Appreciation and Interest,” Amer. Econ. Assoc. Pub., Vol. X1., No. 4, p. 55+ 324 FACTORS MITIGATING PRICE CHANGES eg) ezleg|eg|eg| ed] ee STATE oF Prices ax Sa gu Sx a Ss 8 4 ee ee) ee | ee London, High prices 3-8 | 4.4 | 3-6] 5-4] 5.1 | 3.7] 3.0 Low prices 3-2 | 3-2 | 2.6 | 3.0] 26] 2.5] 2.5 New York, High prices 9-1] 7-4] 7.0] 5.3 Low prices 9-1 | 6.7 | 5.1] 5.4 Berlin, High prices 4.6 | 3.7] 3.3 Low prices 3-4] 3.2] 2.7 Paris, High prices 4.1] 2.6 Low prices 2.4] 2.6 Calcutta, High prices 6.2] 5.4 Low prices 5-6| 6.2 Tokyo, High prices, 12.3 | 10.1 Low prices 12.0] 10.1 Shanghai, High prices 6.0 Low prices 5-7 “ Of the 21 comparisons contained in this table, 17 show higher rates for high-price years than for low-price years, 1 shows the opposite condition, and 3 show equal rates in the two cases. As the table covers 68 years for London, 40 for New York, 30 for Berlin, 20 for Paris, 19 each for Cal- cutta and Tokyo, and 9 for Shanghai, or 205 years in the aggregate, the result may be accepted with great confidence that high and low prices are usually associated with high and low interest, respectively.” ? The reasons for the lack of exactness in adjust- ment are to be found in the unequal ability of 1 “ Appreciation and Interest,” Amer. Econ. Assoc. Pub., Vol. XL, No. 4, p. 56. 325 MONEY investors to discount changes in the price level, and in the fact that time is necessary for the adjust- ment. The imperfectness of adjustment for short periods is not of much importance, since the change in the value of money through short periods is likely to be inconsiderable. Of course, a change in the rate of interest, operating in be- half of debtors, does not decrease the burden of debts which have been contracted at a fixed rate and cannot be converted at a lower rate. In these cases the burden must be borne, but the long- period debts whose conversion is not practicable are fortunately a small proportion of the whole, and are likely to become less as loanable capital increases. Consequently, speaking generally, the burden imposed on debtors by falling prices is more or less lightened by a falling rate of interest. “We thus see that the farmer who contracts a mortgage in gold is, if the interest is properly ad- justed, no worse and no better off than if his con- tract were in a ‘wheat’ standard or a ‘multiple’ standard.” 1 Whatever loss he incurs arises from the slower movement of the interest rate, as com- pared with that of the value of money. 8. Difficulty of doing Justice by Artificial Cor- rections of Price Changes. — Finally, it is at least questionable whether a correction of any given change in the purchasing power of money would not do as much harm as good, because a correc- 1 Appreciation and Interest,” Amer. Econ. Assoc. Pub. Vol. XL, No. 4, p. 16. 326 FACTORS MITIGATING PRICE CHANGES tion that was made for debts of one duration would not do for those of another. If we could create a price level which would relieve the bur- den of debts running for three years, we might be adding to the burden of those which run for some longer period. This is true, altogether apart from the social loss that would be caused by abandon- ing the principle of the inviolability of contracts. Moreover, we must distinguish carefully between hardship and injustice. The debtor who suffers hardship on account of a fall in the price of his goods at a time when he is in debt, does not neces- sarily suffer injustice thereby. In contracting his debt, it may be for improvements or for the en- largement of his business, he takes his chances of such a change and such loss, and society requires him to estimate its probability fairly and to dis- count it correctly. 9. Gold Monometallism Probably does Substan- tial Justice in the Long Run.— In the light of all the considerations going to show that the effects of gold monometallism, in varying prices and in en- hancing the pressure of debts, are far less evil than is often claimed, and in view of the impossi- bility of finding a standard which would not be open to even greater objections than is the gold standard, especially as any evil results of the latter to debtors are offset by the other influences that we have discussed, it is safe to conclude that the common judgment of the most progressive coun- tries in favor of the gold standard is undoubtedly 327 MONEY wise. Theory leads, on the whole, to the same conclusion as experience has done; and while, in the future as in the past, there will be times when the vicissitudes of life will give rise to demands for scaling debts and for relieving some people from burdens which they have been either unfor- tunate enough, or foolish enough, to put them- selves under, yet, all things considered, the maintenance and extension of gold monometallism promises more of good and less of harm than any other system thus far proposed. The system is simpler, the monetary utility of the metal is high enough to meet the demand of economic progress for such a money, and the fluctuations in its value cause no greater difficulties, in the long run, than would occur in prices under the bimetallic system. Moreover, a sufficient supply of gold is certain enough. A.relative lessening of the annual prod- uct, under some conditions of mining, does not mean that the supply is, or is likely to be, ex- hausted ; but only that new processes are needed for the extraction of the metal. Surely the expe- rience of the nineteenth century in invention and discovery justifies one in believing that the diffi- culties caused by a relative scarcity will be duly met by new discoveries. 328 CHAPTER XVI INCONVERTIBLE PAPER MONEY REFERENCES: Hepburn, A. B., Contest for Sound Money, Pt. L., Chs. 4-11; Jevons, W. S., Money and the Mechanism of Exchange, Ch. 18; Knies, K., Das Geld, pp. 344 ff.; Knox, J. J., United States Notes, Chs. 1-3, 13; Laughlin, J. L., Principles of Money, Chs. 13-14; Mill, J. S., Principles of Political Economy, Bk. III., Ch. 13; Noyes, A. D., Thirty Years of American Finance, Ch. 1; Pareto, V., Cours d’Economie Politique, Vol. I., § 327 ff.; Ricardo, D., Works (McCulloch’s ed.), Ch. 27; Scott, W. A., Money and Banking, Ch. 6; Sumner, W. G., History of American Currency; Walker, F. A., Money, Pt. II.; Money, Trade, and Industry, Chs. 8-9; White, A. D., Paper Money Inflation in France; White, H., Money and Banking, 2d ed., Bk. III., Chs. 1-6. 1. Kinds of Paper Money. — The idea of sup- planting metal with paper money for use in mak- ing exchanges is not modern. It is true, of course, that the ancient world did not know how to make paper, but they used articles like papyrus, the bark of trees, skin, leather, and other available substitutes. Paper money was used in China as early as the ninth century, and probably long be- fore, and there is reason for believing that its use was not unknown in ancient Assyria and Baby- lon. Paper money may be, as we have already noted, of three kinds: representative; convert- ible, redeemable, or fiduciary; and inconvertible, 329 MONEY or irredeemable. Representative paper money is simply certificates of deposit, or receipts, certify- ing that so many dollars, or pounds sterling, or marks, have been deposited with the issuer of the paper, returnable to the owner on presentation of the receipt. They are more convenient to use than are coins, especially for large sums, and are in all respects the exact equals of the specie they represent. They are, so to say, representatives plenipotentiary of specie. They may be issued by banks or by governments. 2. Meaning of Convertibility.— By convertible paper we mean notes issued by an individual, or by a public or private corporation, or a govern- ment, promising to pay the value expressed on the paper in coin, and redeemable in coin as a matter of fact on presentation, without demur or delay. The term is not correctly applied to paper which is payable in anything else than legal tender coin. Notes which promise to pay so many acres of land, or so many bushels of wheat, or so many tons of coal or iron, would not be convertible, in the proper sense of the word. Convertible paper must at all times, and under all circumstances, be instantly mutable into the money which is the standard legal tender of the country in which the paper is issued. Whether or not the notes bear on their face a promise to pay in specie, in land, or in goods, unless they are as a matter of fact paid in specie on demand, they are inconvertible paper. It is important to emphasize this point, — 330 INCONVERTIBLE PAPER MONEY that notes to be convertible must be payable in legal tender specie, — because the advocates of fiat money sometimes urge that if paper is payable in goods or land, it has the attribute of convertibility. This, however, is not a correct statement. Such notes are redeemable in the goods which they call for, but they are not in any proper sense of the word convertible paper. The word “convertible” is restricted in monetary science to redeemability in legal tender standard money, and in that alone. This is the case because what business men need, if they use paper money in making payments at all, is a kind of paper immediately exchangeable , for something which they can use at once where paper money itself will not pass. The only kind of money available for this purpose is standard metallic money. No security of land or goods can take the place of the standard metal for this purpose. What is wanted is that the paper shall be exchangeable for a given amount of metal money at once on demand, and not at some future time, after the lapse of the period necessary to sell the land or goods which are held as security for the paper. 3. Characteristics of Irredeemable Paper. — Ir- redeemable, or inconvertible, paper money consists of notes for which specie is not obtainable on demand. This, too, may be issued either by gov- ernments or by banks. It may consist of notes which, although originally convertible, have lost their convertibility through the insolvency of their 331 MONEY issuers, or it may consist of paper originally issued without the expectation or intention of paying it in specie. The latter form is properly called fiat money. The two kinds of inconvertible paper differ in their mode of issue only; in their behavior and effects they are in all respects the same. A government may issue inconvertible paper money on the security of government land, or on the security of taxes specially assigned to redeem it. On the other hand, such paper may be issued without security, and put into circulation by politi- cal authority. If a government is sufficiently autocratic and strong, it may for a time force such paper upon a people unwilling to receive it. We recall that the sole condition of the use of any article as money is that it shall be generally ac- cepted in the discharge of obligations, the pay- ment of purchases and of debts. Its general acceptability is a result either of social habit or convention, of custom, of law, or of the credit of the issuer. Gold and silver pass current by force of social habit, due to their capacity for directly satisfying human desire. A check, or a bill of exchange, is accepted in payment because the maker of the paper commands the confidence of those who receive it. Inconvertible paper money issued by a government passes from hand to hand, if it passes at all, either because the people have no better money, and the quantity of it is so limited that its evils do not yet appear, or because 33? INCONVERTIBLE PAPER MONEY the government is strong enough to compel its citizens to accept the paper. Since it answers their purpose, the people are content to use it. 4. Benefits and Dangers of Irredeemable Paper. — The advantages, as well as the dangers, of irre- deemable paper money have been many times recited. Paper money has been likened by Adam Smith to a wagon way through the air, the use of which leaves the land under it available for raising produce to satisfy human wants. That is to say, paper money makes it unnecessary for society to invest real capital for the sake of getting a medium of exchange. Gold and silver are expensive to produce. The necessary amount of them requires the labor of many people and the consumption of much wealth. If a way is devised which makes it unnecessary to use gold and silver in exchange, clearly the labor and the goods formerly used in their production can be devoted to the production of goods that are directly consumable, the wealth of the community would be increased, and the gen- eral standard of consumption would be raised. If paper, whether convertible or inconvertible, is is- sued by a country which already possesses metallic money sufficient for its needs, the specie will partly or wholly cease to be used. Some of it will be di- verted to use in the arts, and some will be exported to places where perhaps it can be of more service. A displacement of metallic money in use by paper money is, therefore, beneficial only if not done by all countries at once. If all countries attempted to 333 MONEY secure this benefit at the same time, no saving of real capital would result, because the capital necessary to produce the existing specie has been invested already. The only advantage would be to divert a larger amount of the money metal to the arts. A real saving would be made, however, by the uni- versal issue of paper, in so far as it rendered un- necessary the further investment of capital for additions to the metallic money supply to meet the needs of expanding trade. The perception of this saving of real capital by the use of paper money has led men and nations often to pass the danger line of issue, on the supposition that because a cer- tain quantity of paper money was a good thing, its use for all purposes of exchange and payment would also be good. A second advantage to society in the use of paper money lies in saving the wear and tear to which the metals are subjected when used as a means of exchange. The loss from this source is considerable. Moreover, paper money is more convenient for individuals to handle; it is easy to make large payments with it, because a note for $1000 is as easily carried and transferred as a note for $1; and finally, paper money is more con- venient for making payments in distant places. The expense of sending it is less, as is also, per- haps, the'risk of loss. The fiscal advantage of paper money should not be passed by. When a government finds its credit so low that it cannot borrow money to meet its 334 INCONVERTIBLE PAPER MONEY expenses, unless, perhaps, at exorbitant rates of interest, it sometimes can find a less expensive way to secure what it needs by issuing notes. It can do this successfully only if the circulating medium of the country is wholly, or largely, composed of specie which the paper can replace. Paper money is, of course, far less stable in value than gold money. As we have seen, its circulation depends, in the last analysis, on the confidence re- posed in the political authority which issues it, whereas that of gold is based on social habit of universal and perennial prevalence. Consequently, the area of acceptability of paper money is re- stricted. Such money is, generally speaking, national money, without value beyond the boun- daries of a particular country. Its smaller area of acceptability makes the demand for it variable, and its value uncertain and changeable. Additions to the supply are dependent on the caprice, or the policy, of a government, while additions to metallic money are obtained only at a cost; and this differ- ence causes greater variations in the value of the paper. 5. Influence of the Issue of Irredeemable Paper on Specie. — In a purely metallic monetary system, when a country is using metal which is used else- where as money, any surplus of money which it may have is at once revealed by the higher prices which prevail in its markets, and is turned into the channels of trade of other countries; while any de- ficiency from which it may be suffering, under 335 MONEY similar circumstances, will be supplied from the circulation of foreign countries. Not so with fiat paper. Business may be stagnant, the demand for money may be small, and prices may fall, so that less money really would be needed, and yet the flood of inconvertible paper may rise in ever swelling proportions. When a country with me- tallic money begins to issue paper, the first re- sult is to drive the specie out of circulation. The metallic money may be taken by the government in payment of taxes, and used to defray those pub- lic expenses which must be met in gold. It may be reduced to bullion for use in the arts, because the enlarged supply available has lowered the price and increased the demand. It may be hoarded in the form of coin by people who are afraid to part with it, or who look for the return of better times when it will be once more available to make payments. Or, finally, it may be exported to discharge foreign indebtedness. If the amount of the medium of exchange de- manded by the business of the country does not increase as fiat money comes into use, the metallic money will disappear as fast as the paper goes into circulation. If the need for the medium of exchange increases in the meantime, the specie may not disappear so rapidly, and the total volume of the means of exchange in the country, paper and metallic, will increase. During this process the money of the country will be mixed paper and coin, If, however, the output of paper money be 336 INCONVERTIBLE PAPER MONEY persisted in, it will in time become sufficient to perform by itself the exchanges of the country, all the coin will be melted, hoarded, or exported, and the currency of the. country will consist wholly of paper. No positive harm may be done up to this point of the process. But if the issue of the paper becomes still larger, its mischievous effects will be at once felt. In other words, the positive harm arises from over-issue, or the output of a quan- tity larger than the specie it displaces. The paper, unlike the gold and silver, cannot be exported, nor diverted to use in the arts. The merchants of foreign countries cannot use it, and will not accept it in payment. After the paper has driven out the coin, further issues go to swell the volume of home currency and accumulate like water in a pond that has no outlet. 6. Signs of Excessive Issue. — The first effect and the first sign of an issue in excess of the whole volume of metallic money displaced, or of the amount of exchange medium needed by the coun- try, isa premium on gold. Speaking broadly, the issue of the paper does not alter the exchange relation of gold and goods. Payments for goods bought abroad, and for some other purposes, must continue to be made in gold. Butif the gold is no longer in circulation, it must be bought in the form of bullion, and a premium will be paid for it in terms of the new paper money. This premium will show itself in a rise in the rate of foreign ex- change. Foreign business indebtedness is ordi- Z 337 MONEY narily discharged by means of bills of exchange, but bills of exchange are quoted in terms of gold. If, on a specie basis, a bill of exchange for £1000, drawn in London on New York, can be paid by $4870, it would require $4969 to pay it if the cur- rency of the United States were paper which had depreciated two per cent. That is, the American importer will have to pay $4969 in paper money, in order to buy a bill payable in gold to the amount of £1000. Now, such a condition is extremely bad for the foreign trade of the country in which gold is at a premium. It must make its foreign payments with one kind of money, and dis- charge its domestic obligations with another. The greater its balance of foreign indebtedness, the more heavily does the burden of the premium on gold diminish the profits of its exports and render its trade unremunerative. On so small a margin is trade carried on, that, in some cases, the pre- mium on gold would turn an expected profit into aloss. Consequently, a small premium, or, indeed, the mere likelihood of a premium on gold, makes the foreign creditor demand a more favorable ex- change in order to offset the premium, or discount the risk of loss involved in its possible appearance. The domestic importer, being subjected to a loss, will try to recoup himself by raising the prices of his goods in the home currency. This step in the process brings us to a consideration of the second evil of inconvertible paper money. When the specie has been driven out of circula- 338 INCONVERTIBLE PAPER MONEY tion, prices are no longer quoted in gold, but in paper. That is, they rise as the value of the paper falls. Thus the paper becomes a kind of sec- ondary monetary standard. If the excess of paper over the specie displaced is small, it is pos- sible that no change in the prices of goods will be noticed. For the force of custom on prices, in some places and for some articles at least, is very strong. It is a sort of economic friction, which in- terferes with the freedom of the price movement. An excess of paper great enough to show itself in a slight rise of the foreign exchanges may not manifest itself, therefore, in general prices. But the appearance of the premium on gold as shown in the exchanges is proof that inflation of prices and depreciation of the paper, in goods as well as in gold, is close at hand, and that ere long the price level in the country of issue will be different from that of the rest of the world; or, more ac- curately, will not bear the same relation to the world price level as existed under the specie régime. 7. The Relation of the Quantity of Inconvert- ible Paper to its Value. —It is important to dis- cover how far prices respond to an increase in the paper-money issues after these exceed in amount the specie they displace. We have seen in another connection! that it is with inconvertible paper money that the so-called quantity theory of prices, within certain limits, holds true. Paper money 1 See pp. 139-141. 339 MONEY derives its value solely from the demand for it for exchange purposes. Its marginal utility is always merely the reflected marginal utility of the goods it exchanges for. If the marginal composite unit of goods exchanges for a certain amount of paper, thus fixing the price level, that marginal unit will call for double the quantity of paper money if the whole volume of paper be doubled; provided, in the meantime, the total quantity of commodities has not changed, and credit transactions and the efficiency, or rapidity of circulation, of the paper money are constant. That is, under the fixed con- ditions assumed, the value of the paper money varies inversely as its quantity. Such is the ac- cepted theory. Of course these fixed conditions are never realized, and the quantitative relation cannot be proved or disproved, statistically. But the statement that the value of the paper depends on its quantity, is not altogether correct, under any conditions. . It depends partly upon the confidence of the community in the power of the paper to continue to circulate, and this confidence becomes less as the volume of the paper enlarges. If the depreciation is slow and approximately regular, prices and other conditions will accommodate themselves to the increasing quantity. But if the depreciation be very rapid, people lose confidence in their ability to pass the paper without consider- able loss, many of them will refuse to accept it, and its value will fall more rapidly than in the pro- portion of the increased output. To pay $1000 340 INCONVERTIBLE PAPER MONEY for a breakfast, as Secretary Chase thought might be possible from the issue of United States notes in the early days of the Civil War, would so demoralize men’s confidence in the stability of the money as to cause a fall in its value altogether disproportionate to its increase of quantity. More- over, as confidence that others will take the money grows less, on account of the increasing quantity, the danger of loss from this fact is discounted by the present sellers of goods, and the purchasing power of money is still further decreased. The marginal utility of the instrument of utility for use falls more rapidly the nearer we approach surfeit, just as the marginal utility of consumable goods does under like circumstances. The relation be- tween the value and the quantity of paper money could be true, then, only under impossible condi- tions, and only if its quantity were either fixed or increasing very slowly. 8. The Effect of an Issue of Paper Money on the Price Level. — An output of paper money in one country at first gives an upward impulse to the world’s level of prices. The truth of this state- ment does not depend upon the truth or falsity of the quantity theory of the value of money, at any rate, as usually stated. All that the statement assumes is that some relation exists between the supply of money and its value, just as in the case of other commodities. A change in the supply, unless so small as to be entirely checked by economic friction, must always have some effect, 341 MONEY although it may not appear in a modification of prices, but be entirely lost to view by concomitant changes in credit exchanges, in barter exchanges, in the efficiency of money, or in the volume of goods put upon the market. Let us suppose that the metallic money of the United States were arbitrarily and instantaneously withdrawn from use, and an equal amount of paper money substituted. No reason appears why such a change should occasion any alteration in the price level of the world’s goods. Let us sup- pose, further, that this change having been made, the gold which was withdrawn is arbitrarily and suddenly put into circulation in those countries which retain their metallic money. So far as con- cerns this change alone the level of the world’s prices will tend to rise, and the prices in the United States, under its régime of paper money, will share in the upward swell. If, instead of the arbitrary withdrawal of specie, we have a gradual exportation of it, as paper money is put out in increasing volume, until all the gold has been driven out, the character of the result is not changed although the degree may differ much. As a matter of fact, gold, when supplanted with paper, disappears in several ways. The release of the metal from the service of demand for a means of payment lowers its value, and some of it is consequently attracted to use in the arts. Some, too, may be hoarded, and some will undoubtedly be exported to specie-using countries. Whatever 342 INCONVERTIBLE PAPER MONEY the division of the amount between the uses, the value of the metal is lowered in consequence of the cessation of its use in one country. In some measure, therefore, does the level of prices throughout the world tend to rise. If, in accord- ance with our first supposition, the specie pushed out went out of use altogether, the amount of paper money which would be needed to replace it in order that prices should not be affected by the change, considered by itself,! would be exactly the amount of specie displaced. But as paper comes in specie does not go out of use, but sim- ply changes its location, raising the price level as it goes. Hence the amount of paper which a country can issue, without causing its price level to vary from that of the world at large, must be greater than the amount of specie displaced, by a degree dependent on a change in the world’s price level. The amount of paper which will exactly displace the specie, as the latter goes into use elsewhere, is greater than the amount which would replace it if it were suddenly destroyed. In the latter case, the price level which prevailed under the use of specie would remain; in the former case, a higher one would take its place; in both cases, the price level in the paper-using country would be the world level. Therefore, an amount of paper equal to the specie displaced would be excessive, on the old price level. It follows from what has been said that the 1 Irrespective of any impairment of public confidence. 343 MONEY fluctuations of prices, to which a country using inconvertible paper money is subjected, have three sources. First, the prices of its goods are subject to the same fluctuations as are those of gold-using countries, due to the progress and vicissitudes of trade and industry. No country can escape these unless the excessive use of incon- vertible paper diminishes its business. Such a country must suffer, in the second place, from the fluctuations in prices caused by the varying value of its paper money in terms of gold; and, in the third place, from variations due to speculative attempts on the part of business men to protect themselves by discounting future changes in the value of the paper. 9. The Premium on Gold and the Depreciation of Paper in Commodities. —The amount of inflation of prices of goods, in terms of paper money, is the measure of the depreciation of the paper. Sincea given quantity of goods is exchangeable for a certain amount of gold as well as of paper, it would seem, at first thought, that the depreciation of the paper money in terms of goods would exactly equal the premium on gold. In other words, it would seem that the paper price of bullion would be greater than the mint price, by an amount equal to that by which the foreign exchange is below the real exchange. It has long been a matter of remark, however, that the premium on gold does not exactly measure the amount of depreciation of the paper, or the 344 INCONVERTIBLE PAPER MONEY inflation of prices. The purchasing power of inconvertible paper money is a little less, when measured in goods than it is when measured in gold. There are several possible reasons for this difference. In the first place, the differ- ence between the depreciation of paper in gold and the inflation of prices is probably enhanced by the probable risk of an increase in the quantity, and of future changes in the purchasing power of the paper. It might seem that the discount of this risk would affect gold and other goods in equal degrees. But the prices of other commodities can- not be changed as quickly as can the price of gold. Hence they cannot adapt themselves so quickly as can gold to changes in the supply of paper. The period for which the risk of change must be dis- counted is, therefore, longer for other commodities than for gold, and the amount of discount larger. Consequently the total depreciation of paper money in goods is greater than in gold. A second cause of the difference in the amount of depreciation of paper in terms of gold.and other goods, respectively, is found in the lower value of gold caused by its ejection from the country which adopts paper. As we have seen, the export of the gold raises the world level of prices; that is, it lowers the value of gold. Since prices are ex- pressed in paper money, in the country which has adopted it, an increase of paper lowers its own value in gold and goods, or raises their value in terms of itself; but gold has fallen from its pre- 345 MONEY vious value, and this fall in a measure offsets the rise due to the increase of the paper. As nothing of the kind happens to commodities, their prices show the full rise due to the increase of paper. Thus gold suffers a double fall in price as against one fall suffered by other commodities. If, on the other hand, paper money contracts, its value rises as compared with goods and gold. Another cause of the difference in depreciation as measured by gold and by goods, respectively, is found in the fact that the inconvertible legal-ten- der paper serves as a basis of credit. Besides the increased money demand for goods, caused by the additional issues of paper, there is also a credit demand due to the credit based on these extra issues. Hence the demand for goods is increased by more than the amount of the paper, and prices rise in a greater degree than the extra paper of itself would warrant. But no such twofold demand acts on gold. Hence an extra issue of paper does not cause the value of gold to rise so much as that of other goods, and therefore the paper depreciates more in terms of the latter than in the former. Suppose now that the excess of notes is withdrawn. The credit demand based on these must also be withdrawn. Prices of goods will fall under the twofold influence. Gold will fall under the influence of the retirement of the notes only. The degree of depreciation of an inconvertible paper currency is affected by several circumstances, aside from its quantity. If it be issued in increas- 346 INCONVERTIBLE PAPER MONEY ing quantities at a time when the demand for a medium of exchange is growing fast enough to absorb it, it will not depreciate. If the demand for currency happens to be decreasing, the depre- ciation will be increasing. If, again, the issue be made when for some reason gold is being hoarded, as in a time of war, or of a great commercial panic, depreciation might not ensue. There is never any certainty, however, that the issue of paper money will be timely, and no confidence can be felt beforehand that the evil effects of excessive issues would be counteracted by the influences mentioned. 10. Special Provision for maintaining the Value of Irredeemable Paper. — It sometimes happens that an attempt is made to give artificial value to fiat money by making it receivable for taxes. The effect of such a measure is temporary and, unless the quantity is carefully regulated, very small. If the amount of paper money issued is larger than the amount of metal displaced, by a quantity just equal to current government income, the excess over and above the demand needed for effecting ex- changes is the amount which the government with- draws from circulation. The effect of receiving this excess in payment of government dues is pre- cisely the same as the current redemption of the excess, provided it is held in the treasury after it is received. This could occur only if it were surplus revenue. If, however, the excess, over and above the amount equal to the metal displaced, 347 MONEY is greater than the current government revenue calls for from day to day, then this channel of overflow for surplus paper money is choked, and the effect is the same as if the current redemption were not large enough to take care of the excess. Beyond this point the course of the purchasing power of the paper money will be unaffected by the fact that it is receivable for government dues. It is further urged at times that if the people have confidence that the money will ultimately be redeemed by the government that issues it, its value will be sustained. This belief is utterly without foundation, except so far as the belief in ultimate convertibility leads to hoarding. The value of a promise to pay may be sustained under such circumstances if the paper is held as an investment, but its value as a medium of exchange will not be affected at all. The purchasing power, which is an essential characteristic of a medium of exchange, is present, not future, purchasing power.. It is what a piece of money will buy now that de- termines what it will pass for. If the paper were at a discount, and the certainty of redemption were established at a period not too remote, a portion of the paper would probably be withdrawn from cir- culation as money, and held as an investment, and the purchasing power of the remainder would thereby be raised. Aside from this probability the certainty of ultimate redemption would have no. effect. 348 INCONVERTIBLE PAPER MONEY 11. The Evils of Irredeemable Paper. — The evils of depreciating and fluctuating paper money can- not easily be over-emphasized. Inflated prices introduce an element of uncertainty into busi- ness. Business men cannot be sure that the prices at which they contract to sell or buy will remain the same from the time the contract is made until the transaction is closed. Speculation of the worst kind becomes a feature of business life. Business sagacity is thwarted, and the spirit of prudence gives place to that of gambling. Risks of change, the probability of inflation or contrac- tion, must be discounted, with a wide margin. The result is to produce greater changes in prices than the mere difference in the amount of money would of itself cause. Moreover, the speculative fever thus engendered introduces a demoralizing influ- ence into a community; a desire to get rich quickly is stimulated, to the detriment of that security and steadiness which are essential to sound business methods and morals. Expensive living becomes the fashion. The nominal price of all property rates so much higher than it for- merly did that people regard themselves as grown suddenly rich, forgetting that the change is a nominal, and not a real one. When a contrac- tion of the paper money flood takes place, these changes are reversed; but as it is so much harder to retrench the expenses of living, and to think of one’s self as becoming poor by the fall in nominal values, the feeling of sacrifice and loss engendered ae MONEY depresses a community, and for a time deadens enterprise. Moreover, the fluctuations of the value of inconvertible paper defraud creditors or debtors, according to the direction of the movement, with- out any corresponding advantage or offset, and they bear down severely on wage-earners. Wages are paid in paper, and, since wages do not rise as early or as rapidly as prices do, the cost of living is increased to all wage-earners. 12. The Fiscal Advantage of Irredeemable Paper. — The fiscal advantage which the government has in securing a loan without interest, by the issue of such paper, is dearly bought by the community. It is, in effect, an unjust method of taxation; for it strikes hardest the poor and ignorant, and it makes the burden of taxation variable and uncer- tain. When a government once yields to the temptation to issue inconvertible paper, it has entered upon a path that is likely to lead it downward in the scale of political integrity and national honor. The amount of paper money which a government is likely to issue depends primarily on its need for revenue. It is a fiscal need, rather than a business need, that determines what the quantity of this kind of money shall be. Yet money is, first and foremost, a tool of the business world. Its quan- tity must depend on the demand for a means of exchange, its value must not be caused to vary any more than the accidents of business bring about, and, above all things, should be free from the vari- 35° INCONVERTIBLE PAPER MONEY ations due to forces outside of business and alto- gether unconnected with the service which money is intended to render. When once paper money has been issued in excess of the needs of a com- munity, and the price level has begun to rise in consequence, demoralization is inevitable. Fiat pa- per has been well called the alcohol of commerce, whose fumes, entering the brains of individuals and of government officers, seem to make them incapable of sober judgment or self-restraint in the matter of further issue and further demoralization. 13. Motives to the Issue of Irredeemable Paper. — While the fiscal necessity of a government is gen- erally the primary cause of issuing fiat money, the ease with which the money is obtained and the apparent temporary profit which it brings to the government easily create a popular demand for its continued and larger use. It is not evident to the people at large that the temporary benefits of paper issues have a very definite limit, and that the use of fiat paper beyond this limit will cause only harm and loss. Besides the fiscal motive for the use of fiat money, pressure for its increase comes from the debtor class. When the paper has driven up prices, debtors find it easier to pay debts which were contracted when prices were low. Of course, payment in depreciated paper is not an equitable return ; but as long as human nature is as it is, there will always be some who are ready to take advan- tage of any means for escaping their just burdens. 351 MONEY Still another reason which makes it difficult for a country to stop short of disaster when once it has entered upon a career of depreciated paper, is found in the proper and honest desire of many people to secure for the people at large whatever saving is effected by the use of paper money. In the view of these people, money is a tool of society, and the community as a whole should obtain what- ever advantage comes from the improvement of it. The purpose of this demand is entirely proper, but the use of fiat paper money to effect this saving is very questionable, in view of the dangers which it invites. There are ways of securing to the public whatever benefit there is in the use of paper money without inviting the dangers of depreciation. 14. Some Noted Historical Examples of Irredeem- able Paper. — The most noted instances of incon- vertible paper money are the French assignats and mandats, the notes of the Bank of England dur- ing the so-called period of restriction following the Napoleonic wars, the notes issued by the Conti- nental Congress, and the greenbacks issued by our government during the Civil War. The assignats were issued by the revolutionary government of France in 1789. These were legal tender notes secured by the lands confiscated from the clergy. That is, these lands were pledged for the ultimate redemption of the notes. To facilitate their circulation, moreover, bank-note issues were prohibited ; but they fell rapidly in value because of excessive issue, and’ in 1796 a one-hundred-franc 352 INCONVERTIBLE PAPER MONEY note was worth one-third of a franc in gold. They were replaced later with the so-called mandats. These differed from the assignats only in the respect that for their payment specified portions of land were assigned. The first issue of paper money by our Conti- nental Congress was in 1775, to the amount of $10,000,000. These were not made legal tender by the Congress, although they were made so later by the various colonies. Before the time of the Declaration of Independence $15,000,000 had been issued. Within four years the volume of in- convertible paper rose to more than $240,000,000, and its value fell so rapidly that by 1781 it was worthless. This fall took place in spite of many efforts of the public and the legislature to pre- vent it. The United States greenbacks, or legal-tender notes, were first authorized by Congress in 1862, to the amount of $150,000,000. Within four months $150,000,000 more were authorized. The maxi- mum sum issued during the war was $450,000,000. They fell to 35 cents per $1 in 1864, and fluctu- ated at various rates until the resumption of specie payment in 1879. The amount outstanding is £346,681,016. 15. Regulation of Irredeemable Paper. — Waiv- ing the question, which many people answer in the negative, whether it is ever really necessary for the government of a wealthy country to resort to fiat paper, it is important to determine some means 2A 353 MONEY of regulating the amount of issues so as to avoid the evils of depreciation and inflation. We have seen that some people think it possible to measure the fluctuations in prices and to enlarge or contract the amount of paper money accordingly. Aside from the unsound theory which underlies this pro- _ posal, the measurement proposed is practically impossible. A premium on gold, however, is a sure sign of excess of issue of paper. Therefore, the quantity of paper should be so regulated as to prevent the appearance of this premium. The most‘successful instance of the management of paper issues in this way is that of the Bank of France during and after the Franco-Prussian War. 354 CHAPTER XVII CONVERTIBLE PAPER CURRENCY REFERENCES: Conant, C. A., History of Modern Banks of Issue, Ch. 1; Dunbar, C. F., Theory and History of Banking, Ch. 5; Gilbart, J. W., History, Principles, and Practice of Banking, Vol. I., Ch. 10; Jevons, W. S., Money and the Mechanism of Ex- change, Chs. 16, 17; Laughlin, J. L., Principles of Money, Ch. 13 ; Macleod, H. D., The Theory and Practice of Banking, Vol. I., Ch. 43 Nicholson, J. S., Banker’s Money; Scott, W. A., Money and Banking, Chs. 7-9; Walker, F. A., Money, Pt. III.; White, H., Money and Banking, 2d ed., Bk. IIT. 1. By whom Convertible Paper Notes are Issued. — By convertible paper currency is meant paper for which the party who issues it will pay specie on demand. The holder, therefore, has a medium of payment of the same value as the amount of gold called for, and is saved the inconvenience of handling the metal. Paper pay- able with any other commodity than specie is not properly called convertible. Such paper may, as a matter of fact, pass in exchange for gold, or goods, without depreciation ; but the cause of its so passing is not that it is secured by land, goods, or what not. As to its origin, convertible paper is usually put out by banks. Sometimes, however, it is a 355 MONEY government issue, like our own United States notes or greenbacks, at the present time. In the latter case, the action of the government in issue and redemption partakes of the nature of banking, and the government is said by critics of this ser- vice to be in the banking business. Convertible paper currency, when issued by a government, may be put out against the specific deposit of a sum of gold, or silver, as the case may be, equal to the amount called for by the notes and actually held on deposit for their redemption ; or it may be issued without specific pledge, on the general credit of the government. The former notes are really certificates of deposit, of the na- ture of warehouse receipts, and constitute what is called representative money in this book. The gold and silver certificates issued by the United States Treasury are good examples of this kind of paper. In the case of treasury notes, like the greenbacks, the government does not keep specie equal to the value of the outstanding issues, nor does it retire the notes when presented for redemp- tion or in payment of public dues. It treats them as money, paying them out again in discharge of its obligations, but guarantees their redemption in metallic money on demand, and keeps on hand a certain amount of specie for this purpose. 2. The Advantages of Government Convertible Currency.— The advantages to the people, of the use of government convertible currency, are those common to all paper money: the saving of 356 CONVERTIBLE PAPER CURRENCY capital in the production of gold and silver, the prevention of wear of the coins, and the greater convenience of paper. The advantage to the gov- ernment is the fiscal one of securing a certain amount of revenue without resorting to ordinary forms of taxation. Over against this fiscal advan- tage must be set the expense of getting and main- taining the specie reserve necessary to insure prompt redemption of the notes. This expense increases the more frequent and large the presen- tation of notes for redemption. Moreover, the likelihood of frequent and voluminous redemption endangers the whole system of government note issue. For the specie reserve cannot be quickly increased to meet unusual demands. It can be enlarged only from taxation, or from the sale of bonds; but taxation, aside from being too slow to answer the purpose, would have to be increased to meet the extra payments and would thus wipe out the profit of note issue. The sale of bonds would be open to the same objections. The interest charges would very likely be much greater than any profit arising from the paper issues. In order to avoid the danger of being confronted with a demand for redemption beyond the power of the treasury to meet, the amount of convertible paper is usually limited by law. This limitation, together with the mode of issue, deprives govern- ment paper of the power automatically to vary in volume with the need of business men for currency. The treasury notes are put out in payment of gov- 357 MONEY ernment dues; they cannot be put into circulation as loans to people who need more money to carry on trade. Hence they lack a very important char- acteristic which attaches to convertible paper issued under suitable provisions by banks. Government paper does not possess the quality of elasticity ; bank paper does. 3. Convertible Bank Paper.— A bank note is a note given out by a bank, promising to pay in stand- ard, or in legal-tender, money, the amount specified on its face. These notes get into circulation in this way : a customer may deposit metallic money with his bank and receive in exchange the more convenient notes; or, more commonly, he may give his own promissory note, or a bill of ex- change to his banker, and receive in exchange the notes of the bank. In doing this he exchanges his own credit for that of the bank. Being a merchant, for example, he has incurred debts which he cannot at the moment pay. He could offer his creditors his promissory notes; but they, like him, are in debt, and want a medium of payment which they can pass on to their creditors in turn. His credit is not well enough established, or known, to admit of his notes passing current. But it is well known at the bank, and that of the bank is well established throughout the community in which the circle of indebtedness just described prevails. Hence the promissory notes of the bank will be accepted widely in payment. Therefore the merchant in question exchanges his promissory notes for those 358 CONVERTIBLE PAPER CURRENCY of the bank in convenient denominations, and with them pays his debts. The process is simply an exchange of credit of narrow circulation, or accept- ability, for credit of wider circulation or accepta- bility. The bank notes therefore pass from hand to hand and perform the services of exchange, as does standard money. Of course the bank keeps on hand a sufficient reserve of specie to redeem these notes as they -are presented to it. Bank notes are now commonly issued in the second way described, that is, by way of discount. Business men in need of cash take their promissory notes, or bills, to the bank. The bank buys these with its own notes, charging for the exchange the interest on the amount at current rates for the period during which the customer’s notes run. This charge is collected in advance and is called dis- count, and the process is known as discounting the customer’s notes or bills. The term “discounts” is also applied to the advances thus made by the bank. 4. TheMeaning of the Term “Elasticity’’ as applied to Convertible Paper Currency. — It is evident that the amount of the bank’s discounts is determined by the volume of the notes and bills offered by its customers for bank notes. That volume depends, in turn, on the need of business men for currency. Hence the note issues of the bank are ultimately fixed by the demand of the business of the com- munity, and vary with this demand. This power of bank notes to adjust their volume to the need for currency is called elasticity. 359 MONEY The exact meaning, the desirability, and, indeed, the existence of what is called elasticity have long been much disputed. It was the debate on this topic, and on its corollary doctrine of the true theory of the management of paper issues, which occurred in England during the second decade of the nineteenth century that gave to the world the famous Report of the Bullion Committee; and, a little later, a series of papers on the subject unsurpassed for the brilliancy and exhaustiveness of their treatment. By elasticity is commonly meant the quality of a body by virtue of which it can resume its previous size and shape, when these have been changed by temporary pulling or com- pression. If applied strictly to money, the term, accordingly, should mean that the existing volume of money should do more service under the tension of additional demand, and less on the relaxation of demand. As ordinarily used, however, elasticity of money means the power of the volume of money to increase and decrease with changing demand. These two meanings are not the same, and some con- fusion has arisen from failure to notice their differ- ence. The difficulty arises from using the terms of physics in connections where their use can be only figurative. When a demand for money becomes more intense at one place than at another, under a system of metallic money, the metal leaves the place of less intense for that of more intense demand. Its total quantity, however, is not increased. Under 360 CONVERTIBLE PAPER CURRENCY a system of convertible paper, an increased local demand for money is met by the issue of more paper, not by the transfer of some from another place. If we are to resort to physical analogies, the proper term for the characteristic under dis- cussion would be fluidity, or mobility, in the case of the metallic money, and variability of volume in the case of paper. The so-called elasticity of gold money means a changed distribution ; that of paper money implies a larger or smaller volume than before, in some place or places, but not at the expense of the supply of any other place. Metallic money has fluidity, not elasticity; convertible paper money has fluidity only to the extent that it flows to its centres of redemption and not to centres of demand for money, if this demand is elsewhere than at the points of redemption. If, then, either kind of money has elasticity, in the sense of varia- bility of volume under pressure, it is convertible paper. It is the possibility and desirability of this quality of variability over and above, or otherwise than, that of metallic money that has been the subject of warm discussion in the theory of convertible paper money. 5. On the Desirability of Elasticity. Of the desirability of having a currency that is elastic, or variable in volume, rather than merely fluid, or mobile, there is little doubt. There are certain local needs for an increased amount of money, dependent on the seasons and the kind of industry. The seasonal demands of agricultural communities 361 MONEY have long been well known. With an elastic cur- rency, like bank credits, these demands can be met without an extra strain on the money supply else- where, and without the expense of transferring specie. Bank notes serve the purpose better than deposits subject to check, because the people who want the seasonal extra supply of currency are too far from banks; they receive and spend sums too small to make their accounts profitable to a bank, and they are more or less unaccustomed to the business procedure connected with keeping active bank accounts. The currency is wanted largely to pay wages and small accounts. It is urged by those who oppose elasticity of the medium of exchange, that these local and seasonal demands do not occur everywhere at the same time; that when the demand for the medium of exchange at one place is strong, it is weak at some other place. Hence, it is argued, no addition to the currency, but simply a transfer of part of it, is necessary. There is some force in this statement, but the fact that money may flow from a place of slack demand to one of intenser demand does not disprove the advisability of supplying additional currency, unless it can be shown that the amount transferred is sufficient, without causing strain elsewhere. Moreover, the expense of transfer may be greater than that of additional local bank issues, and the necessary supply should come by transfer only if that be less expensive; otherwise, additional issues should be made. 362 CONVERTIBLE PAPER CURRENCY It is also urged that the stronger demand for money will cause a greater rapidity of circulation of the existing money supply, and therefore make an additional supply unnecessary. This is true, provided the increased efficiency of the existing money supply suffices to satisfy the demand. But this argument, like the preceding, simply says that there are other ways of meeting the demand. The reply is that from the variety of ways society will choose the one which is adequate and most effective, its expensiveness being considered. It is argued further, that no attempt should be made to supply the demand for extra medium of exchange for seasonal and similar reasons, because it is better to let the stringency be felt in order to check speculation. This contention also has some force; but these demands are not always specula- tive, and in so far as they are not, the argument is beside the point. 6. The Banking Theory and the Currency Theory of Note Issue.— The different opinions held con- cerning the elasticity of bank notes have given rise to two theories of the proper mode of issue and management of such paper. One theory holds that the paper issues, if kept always convertible, cannot be issued in excess; that, consequently, they cannot depreciate, and that they will, under this condition, behave just as a like amount of metallic money would do, and, with good banking, will always be safe. This is known as the banking theory. According to this theory, if the notes are 363 MONEY always kept convertible, and are in fact constantly redeemed in specie, no precaution is necessary to prevent their excessive issue and depreciation, except good banking, the refusal to discount paper which is not wholly good, based on sound trade transactions, and made by men of integrity in business. Opposed to this view is the theory that bank paper can vary in volume independently of the gold and silver whose place it takes; that it can be put in circulation in excess of the specie which would replace it in a wholly metallic system, be- cause as fast as it is put out it will inflate prices in proportion to its quantity and so cause a demand for additional issues. This is known as the cur- tency theory. The currency principle insists, contrary to the banking principle, that good banking and constant convertibility are not sufficient to prevent over- issue, depreciation, and inflation; that, on the con- trary, the great influence of banks enables them to put their notes into circulation in excess of the specie which these displace; and that conse- quently the mixed currency of gold and paper will vary in purchasing power in a way different from that which would be shown by the purely metallic currency to whose behavior, according to the theorists of both schools, the mixed paper and gold currency ought to conform. According to this theory, bank currency must, therefore, be regulated so as to prevent its issue in excess of 364 CONVERTIBLE PAPER CURRENCY the specie it displaces, or represents. From the view-point of the currency theorist the function of the bank, as a note-issuing agency, is merely to exchange credit for specie and specie for credit. To prevent the issue of notes beyond the specie displaced, the amount must be restricted by re- quiring some kind of special security. 7. The Power of a Bank to force its Paper into Circulation. — Despite the clearness and conclu- siveness of the proof of the truth of the banking principle, and despite its acceptance by most au- thorities on the subject, it is the currency theory which has in the main been put into practice. The Bank of England, the Reichsbank of Ger- many, and the national banks of the United States are all organized, as note-issuing institu- tions, on the currency theory. Their issues are limited and safeguarded by various devices. The Bank of France, on the other hand, is an excellent illustration of an institution founded on the bank- ing principle. The experience of all these banks has furnished evidence so strong as to be conclu- sive in support of the truth of the banking prin- ciple, and the fallacy of its rival. The aim of the banks operated on the currency theory is to ex- change paper for gold and gold for paper, to let no paper into circulation except as gold is taken out, and to issue no gold except in exchange for notes paid in, so that the stock of money may be kept exactly the same as it would be if wholly metallic. It is not necessary to quote figures from 365 MONEY the history of the currency-theory banks to show that they have not been able to do this; nor to recite all the arguments whereby the Bullion Com- mittee and their adherents proved that it could not be done. These arguments got their color from the fact, which somewhat obscured the points in dispute, that note issue was a far more important form of discount at the time of the great debate than it is now. At that time it was the note-issuing function of banks that was thought to be their most important social, and their most profitable private, service. The belief in the potency of bank notes to affect the public welfare was long the chief inspiration of bank legislation, and led to the enactment of many laws directed to control the banks in the exercise of this power. Long rows of Blue Books and congressional documents and treatises on this subject fill the shelves of our libraries, silent wit- nesses to the belief of our fathers and grandfathers that as banks increased, so, too, would grow the importance of this particular function. How dif- ferent is the fact from the expectation! The check, not the note, is to-day the symbol of bank- ing progress, the instrument of large exchange. On January 22, 1904, the outstanding notes of the national banks of the United States amounted to $380,992, 307, while the individual deposits, subject to check, were $3,300,619,898. It is the deposit and the check that we must reckon with to-day. But the change of form of the bank function has 366 CONVERTIBLE PAPER CURRENCY not changed its character. When a bank buys a piece of mercantile paper, by discounting a bill of exchange or a promissory note, it creates a debt against itself, whether it gives its customer notes, or credits him on its books. To discount a piece of mercantile paper by issuing notes in pay- ment for it, differs in no respect from discounting thesame paper and crediting its seller witha proper amount as a deposit to be drawn out by checks at the convenience of the holder. To ask, therefore, whether a bank can issue its notes in excess is to ask whether it can sell its credit in excess of the demand therefor. The answer of the adherents of the banking principle is in the negative; that if the bank discounts good paper, and meets all de- mands in it for the redemption of its notes, it can- not issue notes or create deposits to a degree to inflate prices. For banks can sell their credit only by purchasing securities, mercantile or other. Merchants will not borrow unless their business makes borrowing profitable, nor will they continue to pay interest on loans, whether of notes or de- posits, longer than they must. Increase of trade, and of the volume of payments, is not caused by an enlarged demand for currency; the enlarged demand for currency is a consequence of the larger volume of business. To say that currency can be issued in excess of the demands of business is therefore to reverse cause and effect. If busi- ness grows and the volume of payments to be made enlarges, more means of exchange must be 367 MONEY obtained to settle obligations, whether the currency in use be specie or paper, and the increase of the medium of exchange would come in either case. There can be no difference. It is true that banks sometimes lend incautiously, that they sometimes discount paper based on hazardous undertakings, and that the stimulation of industry of which such enterprises are the cause and the sign is followed by, or accompanied by, an increase in the emission of bank paper. But this larger emission is a re- sponse to the demand for increased means of pay- ment which such enterprises create. An expansion of bank credits can come, therefore, only as a result of an expanded demand and a higher price scale, and they cannot exceed in amount the specie they represent, for this is the amount needed to do business on the higher price scale. The proper means of preventing enlarged emis- sions is to prevent the unhealthful stimulation of trade which causes them. True, it may be said that the inability to secure a larger volume of cur- rency would check the unsound business under- takings. But it would also check new enterprises that were legitimate and sound. The limitation of issues in order to prevent inflation from unsafe enterprises would at the same time deprive the community of the very important advantages which elasticity of the currency confers. It is an act of questionable wisdom to cure one set of ills by creating others, when the good can be obtained in other. ways without incurring the harm. Moreover, 368 CONVERTIBLE PAPER CURRENCY the banker’s interest works against over-issue. If he grants credit in excess of the legitimate need of business for it, the excess will return to him, for deposit at interest, or, failing that, for exchange into specie. He will therefore subject himself to loss. 8. Some Practical Considerations which modify the Above Conclusions. — Such is the reasoning of the banking theory, and it is without a logical flaw. Experience tells us, however, that banking is not always sound and careful; that men are sometimes carried away by extravagant expectations of busi- ness growth; that banks and bankers can, and do, stimulate this speculative feeling by making dis- counts easy and by lending on business ventures that have no substantial basis of success; that men are not always careful to insist on the instant and full convertibility of bank notes; that banks can sometimes create a feeling in the community against insistence on convertibility; and that, in conse- quence of all these facts, bank issues of notes or of deposits may possibly exceed the due needs of legitimate business, and subject the community to the evils of a depreciated currency. For this reason some strength is lent to the demand that measures be taken to prevent the undue expansion of bank credits, of whatever form; and although, as we have seen, there is no difference in character between bank notes and bank deposits, considered as forms of credit, nor in the principles which should guide banks in regulating them, their be- 2B 369 MONEY havior after issue may differ so much as to make different treatment necessary. The banking principle may be safely relied on for the control of the vast and ever changing accu- mulation of bank deposits, the result of the dis- count of commercial paper. The world over, these deposits are the property of people waco are keen and able in the protection of their own interests. The depositor chooses his bank and the form of credit which he will take from it. He is in a posi- tion to judge, with at least reasonable certainty, of the soundness of his bank and the character of its management. He is in close touch with it, he can close his account with it at short notice, with little trouble. Deposit currency, in short, is per- fectly suited to a commercial community, with its highly organized business relations, the close con- tiguity of its members, and its rapid means of com- munication. For these conditions, which are the very ones that need and favor a currency of the highest mobility, furnish at the same time protec- tion against its possible evils. The case of note issues is somewhat different. The notes, if they are to answer their purpose, will frequently, indeed usually, come into the hands of people who have no means of judging whether they are good or bad, and may never have heard of the bank which put them out. It will not do to say that people are not obliged to take bank notes, because to refuse them would be, in many instances, to injure themselves in a business way. 370 CONVERTIBLE PAPER CURRENCY Wage-earners, for example, would find it rather hard to refuse such paper. But it is precisely the economically helpless in such matters who are most commonly the victims of fraud or error. For these reasons the note form of bank credit, if abused by bad management or over-confidence, is likely to do more harm than is the deposit form. “In a coun- try where there is one chief bank, possessing an im- mense capital and unbounded confidence, the notes of such a bank, even if payable in gold, may be issued to such an extent as to cause an advance in prices, until an unfavorable course of the exchange shall cause payment of the notes to be demanded in gold.”! The same condition may be brought about where the banks of issue are numerous and possess the confidence of the community. The notes get into the hands of people who have no interest in de- manding redemption. They are scattered through the community in comparatively small amounts, so that an individual holder would gain nothing by depositing his holdings. Moreover, the trouble of making the deposits, where population is scattered, would act as a check on contraction. These con- ditions are more likely to be found in an agricul- tural community than elsewhere, and probably had much tc do with the inflation caused by the wretched issues of our earlier state banks. Practical necessities, therefore, justify the de- mand for some safeguarding of convertible bank 1 Gilbart, “ History, Principles, and Practice of Banking,” Vol. L., p. 150. 371 MONEY paper, the need for which the economic principle correctly enough denies. The theory is sound and its principle is the one which must be followed to enable banks to accomplish the purpose of their existence. But human nature and some social conditions may interfere with its operation, and some people who are expected to be guided by it may occasionally find their temporary interests promoted, or apparently promoted, by violating it. The public evils that flow from its violation, or from friction in its working, justify the community in insisting on safeguards against them. On these grounds only can be found any defence for the claims of the currency principle that note issues should in some way be regulated by law. 9. Provision of Proper Safeguards for Note Issue. — All these arguments, however, do not justify the requirement of the currency theorists that the amount of convertible paper currency should be fixed by law. They justify merely the insistence on safeguards which will leave issues free for all legitimate business needs, while pro- viding against the evil effects of expansion to meet illegitimate needs. The arguments justify regu- lation, not @ priori definite limitation. For the legislator cannot determine beforehand what issues are proper and what are not. He must leave that to the banker to decide as occasion arises. The banker must be left unhampered to extend his credit, whether by note issues or deposits, to what- ever amount is called for by the securities created 372 CONVERTIBLE PAPER CURRENCY by commercial transactions, and presented to him for discount. The owners of the securities, the business men of the community, are the best judges of what form should be taken by the bank credit which they want. The only interference which is economically justifiable, then, is the institution of proper safeguards against the abuse of the credit- issuing power of banks, and against the evil effects of this abuse on the public when it occurs. The whole matter has to do, not with limitation, but with the insistence that the banker shall regulate his note issues properly. 10. Regulation of Note Issues by limiting their Volume. — There are many methods of regulating convertible note issues in the interest of safety, but the principal ones may be grouped into these classes: those which act directly on the notes; those which, without limiting the volume of issue, provide for its safety by acting on the reserve ; those which provide special security, apart from the reserve; and those which support the notes simply with the general credit of the issuer. The plan of regulation which acts directly on the notes consists merely in fixing a maximum limit to their volume. The theory of. this limita- tion is that a certain amount of money is always needed by the business community; that this amount, of whatever kind of currency it may con- sist, will always be equivalent to gold, because it never exceeds the demand for money on the pre- vailing scale of prices. This money, it is said, 373 MONEY may as well be paper, since there will never be any call for its conversion into gold to any large extent, and the other kinds of currency in use furnish all the leeway necessary to accommodate changes in trade and in demand for specie for export. It is on this principle that the government of Canada sup- plies the small bills current in daily business, and restricts the bank to the issue of notes of denomi- nations of over five dollars. Our own greenbacks now occupy a somewhat similar place in our mone- tary system. The objection to this mode of regu- lation has already been set forth in the criticism of the currency theory. The currency thus furnished has no elasticity, and no real correspondence with the demands of trade. 11. Regulation of Note Issues by controlling Reserve.— The second group of methods for regulating convertible paper money consists of those which operate on the reserve, instead of directly on the issues. The law may require banks to protect their notes by keeping on hand a fixed minimum amount of specie, or a stock of specie equal to the notes afloat, or equal to a certain pro- portion of these notes. Instead of specie, the law may require the holding of a reserve of securities, as bonds, stocks, and commercial paper. The amount of these paper securities may be, as in the case of a specie reserve, a fixed minimum, or equal to the whole issue, or to a certain proportion of it. As Professor Jevons has pointed out, these methods of regulation may be combined in various ways. 374 CONVERTIBLE PAPER CURRENCY 12, The Minimum Reserve Method.— The mini- mum reserve method of regulation, which requires that a fixed amount of specie shall be on hand at all times, whatever the amount of notes afloat, is prejudicial to good management, and under some conditions affords but slight protection. The pur- poses of a reserve are to protect the bank against danger of failure to redeem its obligations, and to afford relief to people who need money when it is hard to get. If, however, the bank be required to keep its reserve intact, these purposes are defeated at the time when the need for their accomplish- ment is greatest. Such a plan virtually means that banks must redeem their obligations until their reserves fall to a certain point, and must not do so beyond that point. It may, of course, be said that the bank is legally and morally bound to keep its reserve at sufficient height to preclude the - danger of its falling to the fixed minimum. Yet there is a certain inconsistency in saying that a reserve sufficient for all demands must always be kept; but if it should not be sufficient, then re- demption must cease. It is like telling a boat load of shipwrecked people that they may row for the shore while they have two oars, but must cease their efforts if one of them is lost or broken. Such a restriction on redemption would very likely in- crease the difficulties of the community in a time of business distress. If, at such a time, the re- serve held against the notes approaches the mini- mum fixed by law, the fear of some people that 375 MONEY the notes they have may not be redeemed will cause a sudden increase of the demand for re demption, and precipitate the evil the reserve is designed to prevent. 13. Proportional Reserve Method. — Similar ob- jections may be made to the proportional reserve method. A demand for the payment of a consid- erable amount of notes may reduce the reserve to a quantity equal to the legal proportion of the. notes still left in circulation. In that case no more could be paid, and the proportional reserve would be virtually a fixed minimum reserve. For example, if the amount of notes in circulation is $60,000, and the reserve required by law is one- third of the issue, or $20,000, the redemption of $15,000 of the notes would reduce the outstanding amount to $45,000; but the reserve would be lessened by a similar amount and would become $5000, an amount less than the legal requirement. Whatever advantage the proportional reserve method has over that of a minimum reserve comes from fixing the reserve at a high propor- tion of the total issue. But while a large reserve would better insure the safety of the notes, it would pari passu defeat the main purpose of using paper, namely, the saving of investment in metal- lic money. 14. Simple Deposit Method.— The plan of keep- ing on hand a stock of specie equal to the whole amount of notes issued, known as the simple deposit method, gives the notes the character of 376 CONVERTIBLE PAPER CURRENCY warehouse receipts, or certificates of deposit, which have been already described. Such paper is certainly safe if the warehouse man is honest; but it possesses none of the advantages claimed for bank money, except the mere saving of the wear of the coins. Moreover, under an autocratic government, or a government which can control the management of the bank of issue, such a stock of specie is a sore temptation to the authorities in times of treasury distress. Historical instances of the seizure of such deposits are not wanting. Those of the Bank of Amsterdam were secretly loaned to the government of Holland prior to the French invasion of 1795. The English govern- ment borrowed the gold of the Bank of England in 1797 by causing a suspension of specie pay- ments; and that of France took a similar step with reference to the specie in the Bank of France. in 1870. 15. The Partial Deposit Method.— By what Jevons has called the partial deposit system, a certain part of the notes are issued against stocks, bonds, and other securities, and: further issues must be protected by the deposit of specie, dollar for dollar. This is the method employed by the Bank of England, which is permitted by law to put out a maximum of 417,500,000! of notes on the security of government bonds. One advantage 1 The amount was originally £ 14,000,000, but has been increased by the lapsed circulation of country banks which have ceased to issue notes. ‘ ; : 377 MONEY of this system is that as the amount of outstanding notes increases, the proportion of specie reserve to the whole issue increases, and thus insures greater safety to the whole. But this safety is obtained at the expense, to some extent, of whatever advan- tage in the way of elasticity is furnished by bank notes proper. 16. The Bond-deposit Method.—Under the bond- deposit system the notes are secured by the stocks and bonds of governments. The notes of the national banks of the United States are thus se- cured. The banks are required by law to pur- chase bonds of the United States with their capital stock. These bonds are deposited with the treas- urer of the United States at Washington, and the banks receive in return notes equal in amount to the par value of the bonds, but not in excess of their market value, nor of the capital stock of the bank. There are several serious objections to the plan of securing note issues with public stocks. In the first place, the bond security, by itself, does not insure convertibility in the proper sense. It pro- vides for ultimate redemption, but not for that immediate payment in gold, on demand, which is essential to business. Our own national bank notes may be paid in treasury notes, and these in turn may be presented to the treasury for gold. Evidently the bank notes command gold only so long as the treasury notes do so. Hence, our bank notes are convertible, not because their redemption 378 CONVERTIBLE PAPER CURRENCY as bank notes is properly provided for, but because the government is solvent. However, even if the law did not provide for the payment of national bank notes with government paper; if, in other words, the banks were required to redeem their notes directly in gold, the possession of bonds and other securities would not be a guarantee of their ability to do so, nor a sure means of enabling them to do so. The bonds would have to be sold to get gold to pay the notes. At a time of monetary stringency the holders of the notes present them to get gold because the need for the metal is great. If the banks must sell their securities to get this gold, the price of the securities is likely to be forced down, and that of gold raised, at a time when the need for it is greatest. A second objection to the bond-deposit system is that the purchase of the bonds uses the real capital of the bank in procuring its notes by in- vestment, instead of leaving it free for discounting commercial paper, which is the purpose for which the bank is organized. Further, a system of bond-secured issues is in- elastic. The volume of notes depends primarily on the price of bonds, and not on the amount of commercial paper offered for discount. If busi- ness is expanding and the need for currency be- comes greater, it can be supplied only by buying bonds. But the briskness of business which causes the demand for more currency also raises the prices of bonds, so that their purchase as a 379 MONEY basis for new issues is less profitable. When busi. ness is dull, the prices of bonds fall and lead to an increased output of notes, although the need for more is less. Moreover, the enlargement and con- traction of the circulation under this system is not immediate and automatic. Administrative ma- chinery must first be put in motion, and this usually requires so much time that the pressure of demand may pass before it can be met. Still further, under the bond-security system of note issue, the expansion and contraction of the currency may be adversely affected by local rates of discount. If the price of bonds is low, places in which the rate of discount is low may find it more profitable to buy bonds as a basis of further note issue; while other places, in which the rate of discount is high, and in which, therefore, there is need of an expansion of the currency, may find it less profitable to purchase bonds than to use their capital as an immediate basis of discount. The compulsory investment of bonds under cir- cumstances like the above, constitutes in effect a forced loan from the community where interest is high to one where interest is low. Those who are in need of all their capital are compelled, in other words, to share its use with people who are in less need than themselves. Nor are notes secured by the deposit of bonds necessarily safer than issues based on a partial metallic reserve. For if the credit of the govern- ment is impaired, its bonds will sink in price, and 380 CONVERTIBLE PAPER CURRENCY the security will be lessened. “The issue of notes against deposited securities did not save the note- holders from loss before the war, while careful and intelligent systems of banking like those of Louisiana, Massachusetts, and the state banks of Indiana and Ohio did protect them fully.”! Of course, these remarks about the safety of notes secured by government bonds lose much of their force in the case of a strong and wealthy popular government like our own. There is certainly no more danger — most of us will say far less — that the safety of our national bank notes will be im- perilled by impaired national credit than there would be if their management were left wholly to the banks that issue them. The bond-deposit system of security is also objectionable because it makes necessary a_per- manent public debt. The rapid retirement of United States bonds available as a basis of circu- lation has at times raised a question as to the permanence of our system of note issue. Indeed, resort to other kinds of bonds has at times been urged, such as bonds of states and cities, and of great corporations. Such a step is to be depre- cated. No matter how great the care with which such bonds may be chosen, public confidence in them would never be so great as in those of the national government, and trust in our bank paper could not fail to be shaken by their use. 17. The Safety-fund Method.— Notes may also 1 Horace White, Annals Amer. Acad. March, 1893, p. 20. 381 MONEY be kept convertible by the creation of a common fund of specie by contribution from the note-emit- ting banks. This fund, called a safety fund, is de- posited with some public officer, the Comptroller of the Currency, for example, and out of it are redeemed the notes of any banks which fail. If the fund is impaired by such redemptions, it must be restored by further contributions. The expe- rience of forty years with our present national banking system has shown that the fund which would have been required to cover the losses on notes, caused by all the failures of the period, could have been provided by a tax of about one- fifth of one per cent. per annum on the circulation. A fund which would fully insure the safety of the notes could therefore be created and maintained by so small a tax on circulation that no bank could reasonably object to it. The safety-fund system leaves the volume of notes absolutely free to respond to business needs for currency; it would leave the capital stock of the banks free for ordinary banking business, and it would provide as safe a currency as does our present system. 18. Notes issued on General Assets. — If no special provision is made for the security of notes, but they are treated simply as one of the liabilities of the bank, dependent on its property and general credit, the notes are said to be issued against gen- eral assets. This system properly regards notes and deposits subject to check as liabilities of iden- 382 CONVERTIBLE PAPER CURRENCY tical character, and aims to provide for the proper protection of both indifferently. With good bank- ing, this system is scientifically perfect; but, as has been pointed out, experience shows that bank managers cannot, any more than other industrial leaders, always be depended upon for unerring sagacity and continued honesty. Hence, bad bank- ing occurs, and would be likely to cause greater hardship in case of a failure, under a system of asset issue. As a precaution, it is frequently proposed to make the notes a first lien on the assets. Doubtless this additional security would in most cases suffice. For the notes are becoming a much smaller proportion of total liabilities, be- cause the growth of deposits, against which checks are drawn, is more rapid than the growth of notes. It. is difficult, however, to convince the public that this is the case; and in the matter of note issue the establishment of public confidence is absolutely essential. 19. The Advantages of Combining Several Methods. — It is evident that no plan of insur- ing the immediate payment of notes in specie is free from objection. No plan can be devised for insuring escape from reliance, somewhere in the management, on the integrity and faithfulness of men. Two purposes, incompatible in their nature, are aimed at by every scheme for regulating bank credits. One is to secure for society the saving afforded by dispensing with gold; the other is to avoid the dangers of inflation and depreciation that 383 MONEY accompany the use of paper. Now, it is idle to expect that the full benefits can be obtained at the same time that all of the danger is avoided. One might as well expect to secure the rapid transpor- tation furnished by a modern express train, and at the same time suffer no greater loss or injury from its wreck than one would suffer if travelling in an ox cart that lost its wheel. The benefits of complicated machinery cannot be had without in- curring risks of greater loss than was experienced undér simpler conditions, when the storm and stress of life break upon the more complex ar- rangements of society. All that we can reasonably ask is to secure a balance of advantage and risk of loss. In the matter of paper money it is far better to aim at a small portion of the advantages of its use, and run but little risk of loss, than to try to secure a large advantage at great risk. For in case of the failure of any bank to pay its notes on demand, the loss falls on many innocent people, and is likely to be distributed much more widely than is the case with the benefits during a period of successful management. In view of these facts, that system of manage- ment of bank issues is best which minimizes the danger of loss, whether by restricting the issues well within the limits of safety or by insisting on the provision of an adequate reserve. On the other hand, there is such a thing as making the notes too good. If they are put wholly beyond the risk of loss, their elasticity is interfered with. 384 CONVERTIBLE PAPER CURRENCY While business people who receive notes will de- posit them for the sake of receiving interest, this motive is of small force when the amount to be deposited is small. In such a case the paper is just as likely to be kept on hand by numerous small holders, if they feel that there is no danger at all that it will not be redeemed. If there are any notes which are not. protected by their equiva- lent in metallic money, there is some risk. This danger is more or less, according to the amount of metallic reserve held. The amount left unpro- tected should be large enough to remind holders that it is to their interest constantly to demand redemption. A specie reserve should actually be held some- where. It is sometimes said that the reserve should be made profitable by investment, for example, in government bonds. But if it is so used, it is no longer a specie reserve. It is idle to try to devise a plan whereby a specie reserve can be kept for the purpose of redeeming notes, and used for profit at the same time. The two things are in- compatible. There is no way of making a profit on idle capital, and money kept for reserve is idle capital; or, at any rate, capital which is productive only in an indirect way. It is productive only in the sense that it makes the employment of the rest of the capital safer, or lessens the probability of a loss. 20. Comparative Advantages and Disadvantages of Government and Bank Issues. — We have seen a0 385 MONEY that paper money may be issued either by banks or governments. If the notes issued are gen- erally acceptable, they will serve the purpose of a medium of exchange. Several reasons are ad- vanced, however, against the exercise of the func- tion of issue by governments. In the first place, it is argued that the issue of paper money is not a proper function of the government. We cannot here go into a discussion of the proper sphere of government, and it is well not to dogmatize about it. Whether or not the statement is true depends on one’s ideas as to what are the proper functions of government. It may be said, however, without fear of successful contradiction, that the experience of governments that have issued paper money has been so generally disastrous as to establish in a high degree the improbability of success in main- taining the notes convertible at par in times of fiscal exigency. Experience, therefore, is against government issues. The argument that the issue of paper money is equivalent to coinage, and there- fore is a sovereign function to be exercised by the government, is based on a wrong notion of the nature of coinage. The coinage of specie and the engraving of paper money differ in a very impor- tant particular, and that, too, a particular which justifies us in calling the issue of one a sovereign function and that of the other not so. Notes are a species of credit instruments; gold is not. For the government to go into the business of issuing paper money is, therefore, to draw on its credit, 386 CONVERTIBLE PAPER CURRENCY and to lay itself open to the possibility of financial weakness in times of sudden fiscal stress. In per- forming the function of coinage proper, govern- ments incur no liability ; in issuing notes, they do. The likelihood of excessive issues is greater with government paper than with bank issues. Offi- cers of the government are likely to be influenced to issue paper money beyond the needs of busi- ness, by the necessities of the public treasury, or by public clamor, or by the ignorance and corruption of lawmakers. Yet it is also true that bankers have sometimes yielded to the same temptation for their own profit. It may be fairly said that, as a rule, we can expect as much honesty in the manage- ment of our public finances as has been shown by private corporations that have had the privilege of issuing paper money. It would be rash to say that the distress caused by our own early banking, or by the depreciation of Bank of England notes pre- viously to 1819, was less than the evils caused over equal periods from excessive government issues. Therefore, no argument for or against government issues, founded on the honesty or efficiency of the government as compared with private corporations, is of much permanent weight. There is, however, a very strong argument in favor of private issues in the fact that they should come out in response to business demand, that the amount of notes should adapt itself to the need of the country for currency. It is easy enough for government issues to expand, but very difficult for them to contract. Hard meas- 387 MONEY ures, such as bond sales or higher taxes,.are usu- ally needed for contraction. But neither of these methods is directly related to business ; and contrac- tion, when it comes, may be either more or less than business requires. It has been suggested, even by so high an authority as Ricardo,! that a government commis- sion for the regulation of paper money might suc- cessfully vary the currency in response to the ebb and flow of business demand. This, of course, is possible, provided that this commission acted as bankers. It is likely, however, that people would rely too much on such a commission, and so en- courage speculation. The work which Ricardo proposes for such a commission is, of course, very different from what is in the minds of those people who propose a commission to vary the currency for the purpose of keeping the price level con- stant. It is sometimes urged against private bank issues, that the conferring of the power of issue on banks is likely to create a money power whose interests run contrary to those of the people at large. This argument is not to be altogether ridiculed. It cer- tainly is not true that the interests of the banks and the interests of the people are always identi- cal. Ina higher sense, indeed, they are so, in the long run, but at particular times they may be oppo- site. But this is really an argument for controlling banks, not for forbidding them toissue notes. Cer- 1 Works, McCulloch’s ed., p. 219. 388 CONVERTIBLE PAPER CURRENCY tainly no one’s rights are curtailed and no harm is done by a proper regulation of the power of issue. 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Appreciation, causes of, 193-196; disadvantages of, 191-193; distri- bution of effects of, 182-187; and debts, 190-191, 320; and indus- trial improvements, 318; and in- terest, 322-326; and the laborer, 318; manifestations of, 179-180; meanings of, 177-179; phases of, 180-182, Aristophanes, reference in, to bad money, 53, 20/e. Aristotle, on the origin of money, 15-16, Asset currency, 382-383. Assignats, French, 352-353. Balance of indebtedness, and credit, 206-212; and prices, 215-218. Banking theory of note issue, 363- 365, 369-372. Bank notes, 358-359; comparative advantage of government and, 385-389; regulation of, 372-385. Banks, increase in number of, 107; power of note emission, 365- 369. Barter, 18, 19, 26, 60; advantages of money exchange over, 126- 127; and the value of money, 133-134, 160-162. Bills of exchange, and movement of precious metals, 90-93. Bimetallism, 292-316; advantages of, 294-296; burden of debts under, 304-306; compensatory action of the double standard, 296-299; depreciation and, 306; and Gresham’s law, 297; in France, 296, 308; increase in gold and, 309-310; Latin Mone- tary Union and, 308; obstacles to international, 307-309; and the par of foreign exchange, 295; and prices, 301-304; and the ratio of gold to silver, 296-3or. Bond deposit system of note issue, 378-381. Brassage, 34. Business, volume of, and the quan- tity of money, Ior ; volume of, and the value of money, 146-149. Cairnes, Professor J. E., on distri- bution of precious metals, 87. Cancellation of indebtedness, 206- 2i2. Capital, money a general form of, 9, 67. Checks and reserves, 219. Circulation, by tale, 32; causes of, 50-52; Gresham's law of, 52-58; of metallic money, 48-49; of paper money, 49-56; principles of, 50-58; rapidity of, ror, 103, I51-158, 363. Clark, Professor J. B., on the stand- ard of deferred payments, 283. Clearing-house, 222-223. Coinage, 27-38; charge for, 34-38; international, 8-9; materials used in, 29-31, 72-77; origin of, 29- 30, 33; requisites of good, 31-33; tight of, 33. 4It INDEX Commissions for regulation of price level, 313-316. Commodity money, 20-23, 71-76; characteristics of good, 72-77; value of, 141-143. Compensatory action of the double standard, 296-298. Consumption of wealth, effects of money on the, 9-11. Convertibility, meaning of, 330. Convertible paper currency, 355- 389. Cost of money and its value, 163- 165; to a country, 171-172. Credit, adaptation of, to scale of exchanges, 108-112; definition of, I99-201; and amount of money needed, 105, I1q—I19; and cancellation of indebtedness, 206- 208; and crises, 223; and dis- tribution of the precious metals, 89-96; instruments of, 43-44, I10-112, 202; limits of, 109; and money, 220-221 ; and prices, 199- 223; and volume of business, 107; and wage period, 112. Creditor, effects of change in stand- ard on, I90-I9gI, 262-265. Currency, composition of, 40; de- posit, 221-223; systems of metal- lic, 47-49; systems of paper, 49-50. Currency theory of note issue, 363-365. Debtors, and changes in the stand- ard, I90-I91, 262-265, 317-318; and industrial improvements, 318; and paper money, 351-352. Debts, and appreciation, 190-191, 320; burden of, and bimetallism, 304-306; burden of, lessened by various factors, 317-328; and rate of interest, 322-326; charac- ter of modern, 319-320. Deferred payments, standard of, See STANDARD. Denominations of money, relation of, to scale of incomes and prices, 41-43; paper, II2-114. Deposit currency, 43-44, 221-223. Depreciation, causes of, 193-196; degree of, with inconvertible Paper, 344-347; disadvantages of, 191-193; distribution of effects of, 182-184, 185-187 ; meanings of, 177-179; of standard, 262-263. Discounts, 359. Distribution of the precious metals, 78-122; between gold and silver standard countries, 96; credit and the, 89-95; double meaning of, 99; and the foreign exchanges, go-95; national habit and the, 88; rate of discount and the, 94; Ricardian theory of the, 81-88; trade conditions and the, 83-86. Distribution of wealth, effects of money exchange on the, II-13, 65, 190. Disutility of labor standard of de- ferred payments, 283. Double standard. See BIMETAL- LISM. Economist, index numbers of Lon- don, 245-247. Edgeworth, Professor F. Y., on measuring price changes, 240,258. Elasticity of the currency, 359-363. Essars, Professor, on rapidity of circulation, 219. Evolution of money, 14-26, 29. Exchange, progress and the system of, 1; methods of, 18-19; system of, and the money demand, 105. Exchanges, volume of, and amount of money, IoI-104; volume of, and credit, 108. Exportation of the precious metals, 78. Falkner, Professor R. P., on index numbers, 234, 253-255. 412 INDEX Fisher, Professor Irving, on mar- ginal utility and prices, 174; on appreciation and interest, 322-326. Foreign exchanges, and movement of precious metals, go-95; and paper money, 338-339. Free coinage, 34. Freedom, the monetary system and, 6. Functions of money, VICES OF MONEY, See SER- Giffen, Sir Robert, on appreciation, 179; on index numbers, 235, 258. Gold, increase of, and bimetallism, 309; monometallism, 327-328; premium on, and depreciation of paper, 337-339, 342-343; in- creased production and value of, 167-170, 187-190, 193-195 ; value of, in arts and as money, 195-196. Government paper money, 332-335, 350-353, 356-358, 385-389. Greenbacks, United States, 353. Gresham's law, 52-58, 297. Hildebrand, on monetary evolution, 16. History, early, of money, 14-17. Incomes, scale of, and denomina- tions of money in use, 4, 113. Inconvertible paper money, 329- 354- Index numbers, 227-256; Zcono- mist table of, 245-246; Falkner's tables of, 253-255; Jevons on, 247; Sauerbeck's tables of, 250-252; Soetbeer’s tables of, 247-250; regulation of prices by, 313-316. Interest, appreciation and, 322-326. Jacob, William, on production of gold and silver, 165-166. Jevons, Professor W. S., on index numbers, 247 ; on metallic money, 48. Labor, as a standard of deferred payments, 281-284; effects of appreciation on, 318; monetary system and division of, 5. Latin Monetary Union, 308. Legal tender, 47. Mandats, French, 352. Marginal utility, of money, 159- 162, 206-207, 212-213; of goods, 134, 174-175; standard of de- ferred payments, 284. Markets and the development of money exchange, 24. Marshall, Professor Alfred, index numbers, 236, 238. Martin, J. B., on denominations of bank notes, 113. Medium of exchange, composition of, 20-21, 39-46, 60. Metals as money, 24; distribution of, 78-122; production of, 165- 171. See GOLD and SILVER. Minimum reserve method of note issue, 375-376. Mint price, 37. Monometallism, gold, 327-328. Multiple standard. See TABULAR STANDARD. on Nationality, the monetary system and, 8. Newcomb, Professor S., on meas- uring price changes, 256. Nicholson, Professor J. S., on Measuring price changes, 257. Palgrave, R. H. I., on index num- bers, 234. is Paper money, circulation of, 41-43, 50-58, 332; convertible, 329-330, * 355~389; irredeemable, 331-354; kinds of, 329-330; over-issue of, 413 INDEX 341-349, 387-389; systems of, 49. Paulus on origin of money, 16, Population and amount of money, 100, 105-108. Premium on gold, 337-339, 344-347: Price defined, 63. Price, Professor Bonamy,on mone- tary evolution, 20. Prices, balance of indebtedness and, 212-214; changes in, 102, 187-197, 224-259; cost of pro- duction and, 184-185; credit and, 197, 202, 208, 219-223; distribu- tion of precious metals and, 81- 86; level of, 81, 83-86, 124, 150, 313-317; marginal utility and, 174-175; normal case of falling, 187-190; paper money and, 341— 344; relative, 124, 172-175; ser- vices of tables of, 239-244; U.S. Senate report on, 253-255; vol- ume of business and, 146-149; wages and, 185-187. See APPRE- CIATION, BIMETALLISM, DE- PRECIATION, INDEX NUMBERS, STANDARD OF DEFERRED PAY- MENTS. Production of goods and quantity of money, 162. Progress and the system of ex- change, 1. Proportional reserve method of note issue, 376. Prosperity, the monetary system and, 9. ' Purchaser’s surplus standard of deferred payments, 287-291. Quantity of money, needed by a country, 97, 99-I22; and _ its value, 139-143, 158-160, 167, 170— 171, 196-198, 313-316, 339-341. Rapidity of circulation, ror, 151- 158, 363. Ratio, the bimetallic, 296-301. Representative paper money, 329- 330. Reserve, specie, 212-214, 219, 357- 358, 374-378, 385. Ricardo, David, on the distribution of the precious metals, 81-88; on regulation of paper currency, 388. Safety-fund system of note issue, 381-382. Sauerbeck, on falling prices, 197; on index numbers, 234, 250-252. Securities, stock, as currency, 45. Seigniorage, 34. Services of money, 19, 59-70. Sherman silver law, 56. Silver, demonetization of, 194; pro- duction of, 165-167; ratio of, to gold, 296-301; Sherman law, 56. Socialism, monetary system and, 13. Soetbeer, A., on index numbers, 234, 247-250. Speculation and price changes, 322. Standard of deferred payments, 260-291; invariable, 268-269; disutility of labor, 283; equities of changing, 262-266, 269-272, 326-327; labor-cost, 281-282; labor-time, 281; marginal utility, 284; purchaser's surplus, 287- 291; single commodity, 273-275; a social concept, 266-268 ; stabil- ity of, 261-262; the tabular, 275- 281; total utility, 285-287. Standard money, 46. Store of value, money as a, 64-65. Subsidiary coins, 37, 42-43. Symmetallism, 311. Table of prices. See INDEX NUM- BERS, Tabular standard, 275-281. Tolerance of the mint, 32. Transportation, development of, and prices, 196-197. 414 INDEX Truck payments, 7. United States notes, 353. Value, measure of, 61~63. Value of money, 123-149; barter and the, 133-134, 160-162; causes of changes in, 176-198, 224-259; cost of production and _ the, 163-165; credit and the, 134, 160-162; an equilibrium between various demands and the sup- ply, 135-145; local, 171-172; quantity theory of the, 139-144, 158-160, 167-171, 196-198, 313- 316, 339-344; rapidity of circula- tion and the, 153-155; a social phenomenon, 125-126; as a social investment, 127-130; sta- bility of the, 71, 150-175 ; volume of business and, 146-149. ‘Wages, credit payments and, 112; falling prices and, 185-187; pa- per money and, 350. Wealth, monetary system and the distribution of, 11-13. Printed in the United States of America. 41s