Yesterday we
decided that the U.S. Constitution does not give Congress sole power to create
money . . . or to create money at all, for that matter. It does, however, have the power to exchange
one form of money for another and (in common with all powers of government) can
— and must — delegate that power as it will.
In the Constitution, this is the power to “coin money.”
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| David Rittenhouse, First U.S. Mintmaster |
The easiest and
most efficient way for the government to “coin money” (whether coin or notes)
within the meaning of the Constitution is to purchase, or borrow the money to
purchase, financial instruments in one form, that is, other money, to be able
to convert it to the form of currency. Financial
instruments fall into two broad categories: 1) mortgages, and 2) bills of
exchange.
A mortgage is a
security backed by existing goods or services.
A bill of exchange is a security backed by the “creditworthiness” of the
issuer, which is based on the issuer’s ability to redeem the bill at a future
date on the occurrence of a specified event.
The basic difference between the two is that the issuer of a mortgage
must own what backs the mortgage at the time of issue as it represents existing
marketable goods or services, while the issuer of a bill of exchange must have
the wherewithal to redeem the bill at the time of redemption, not necessarily
when it is issued.
Governments emit
a special kind of bill of exchange: the bill of credit. A bill of credit is defined in constitutional
law as “A bill or promissory note issued by the government of a state or
nation, upon its faith and credit, designed to circulate in the community as
money, and redeemable at a future day.”
As we discussed previously, Congress does not have the right under the
Constitution to emit bills of credit.
This is because money
is created when one party accepts the offer of another party of a mortgage or
bill of exchange. If offered and
accepted in the ordinary course of business, the instruments are called
“merchants” or “trade” acceptances. If
offered to and accepted by a mercantile or commercial bank, the instruments are
called “bankers” acceptances.
If the acceptance
is a mortgage, the original issuer must own the goods or services represented
by the mortgage, and at the stated value, at the time of issue, or he has
committed fraud by issuing what was once called a “fictitious bill.” If the acceptance is a bill of exchange, the
original issuer must have a reasonable and quantifiable expectation that he
will have the full value of the bill on hand to redeem the bill when it matures
and is presented.
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| Federal Reserve |
Commercial banks
have the power to create money by accepting mortgages and bills of exchange and
issuing promissory notes. The Federal
Reserve System was established to convert qualified mortgages and bills of
exchange accepted by member banks (a form of large denomination money) into the
reserve currency (a form of small denomination money), Federal Reserve Notes,
or the equivalent in commercial bank demand deposits at the Federal
Reserve. Bills of exchange were to be
presented for rediscount at the discount window of the regional Federal Reserve
Bank, while other securities (mortgages and bills of exchange issued by
businesses and non-member banks) would be purchased on the open market to
ensure adequate liquidity in the system.
Purchases of
primary or secondary government securities were not included in the powers
originally delegated to the Federal Reserve, with one exception. In order to retire the debt backed inelastic
reserve currency consisting of National Bank Notes, United States Notes, and
the Treasury Notes of 1890, and replace them with an elastic, asset-backed
currency (Federal Reserve Notes), the Federal Reserve was empowered to purchase
government bonds held by the commercial banks (secondary issues) to back their
note issues, and gradually replace the government debt backing with private
sector asset backing. This program
terminated in 1938.
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| $1 U.S. Note with picture of Chase (who wanted to be president) |
This, however,
was still not money creation, for the government debt — bills of credit — was already money, i.e., previously accepted securities. The Federal Reserve does not have the power,
delegated or otherwise, under the Constitution to create money by accepting
primary issuances directly from the government and using them to back note
issues or demand deposits, any more than the government can constitutionally
issue currency and spend it into circulation directly — although that is, in
fact, what Salmon P. Chase did when he invented the United States Notes
(Greenbacks) to finance the Civil War, and spent the gold he obtained on loan
from the commercial banks instead of holding it as agreed to redeem the note
issues.
This is why the
Treasury and the Federal Reserve maintain the fiction that the Federal Reserve
deals only in secondary government securities on the open market: The Federal
Reserve is strictly prohibited from dealing in primary government securities in any market, but can — through a
loophole — deal in secondary issues,
thereby technically not creating
money because the brokers who accepted the primary issuances from the Treasury in
the first place are doing that, holding them for a microsecond, and then
offering the “existing money” created by their acceptance on the presumably “open
market” having turned them into secondary issuances by their initial
acceptance.
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| How Congress currently creates money |
The bottom line
is that Congress is currently “creating money” only by sleight-of-hand through
exploiting a loophole that should have been plugged nearly eighty years ago,
and is acting unconstitutionally in doing so.
Money can only legitimately be created by anyone when there are either
already existing assets to be monetized, or when assets will be put in place by
the creation of the money itself; there must always be assets owned by the
issuer — not liabilities — to back all money that is created.
Note also that
under the Capital Homesteading proposal, all new money created by the Federal
Reserve will be done in ways that create new owners of productive assets,
although there will be no discrimination; every child, woman, and man will
receive the equal right to participate in money creation to finance new capital
formation and thus become an owner of productive assets on equal terms with
everyone else, regardless whether one has nothing, or a fortune that dwarfs
that of Bill Gates.
#30#