A couple of days
ago on FaceBook we reposted a piece from a few years ago on why central bank
reform is so important. We tossed around
a few specialized financial and banking terms (just to make us look important,
of course), and didn’t think any more about it.
Then one of our favorite readers asked a question:
I
could use some clarification on this point:
“Technically,
of course, these were not actually bonds used to borrow existing savings, but
bills of credit emitted as money.”
I
don’t quite understand all the differences between bonds, bills of credit, etc. and how they can be or were
misused.
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| Banking largely contracts, not coins. |
Have we mentioned
recently how much we like to get questions that are really questions and not
disguised accusations or speeches? (We
still have bad memories of a twenty-minute question-and-answer period of which
half an hour was taken by someone who leaped up to the microphone, elbowing
everybody else out of the way and then proceeded to make a speech in the form
of a pseudo question. We were not the
moderator, who sat there like a bump on a log doing nothing. He may have been asleep.)
Okay. Here’s the story:
Under
the power to borrow existing money, a government can sell bonds to the public. This is not creating money, just shifting it
around. A private entity can do the same, e.g.,
a company that floats a bond issue and sells it to people who have savings.
Bonds
are supposed to be in exchange for existing money. They may be secured (technically
mortgages) or unsecured (“unsecured” . . . we didn’t make up the terminology).
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| Fugger bills of exchange were good as gold for centuries. |
A bill of exchange is, strictly speaking,
a financial instrument (contract) based on the general creditworthiness of the
issuer. Issuing a bill creates money. The term is also used in foreign exchange
and other areas of finance with different meanings, confusing matters.
Using
outdated terminology that was abandoned because it made a lot of finance sound
bad (which it is), a bill backed by an actual ability to pay out of a specific existing
or future asset tied to the bill itself is called a “real bill.” A bill that is not tied to a specific existing
or future asset, general ability to pay, or is simply fraudulent is called a “fictitious
bill.”
Bills
are typically “discounted” instead of bearing interest, that is, they pass for
less than the face value until presented for redemption, with the discount decreasing the closer to maturity it gets. Sometimes a bill passes at a premium over the
face for some reason or other, but the transaction is still called discounting.
The
first transaction involving a newly issued bill is a discount. All subsequent transactions involving a bill
prior to its redemption are rediscounts.
Some
bills may bear interest that kicks in if the bills are not redeemed or paid on
the due date. Other bills bear interest
from the start and are also discounted, depending on the creditworthiness (or lack
thereof) of the issuer.
An
issuer offers a bill, while someone
who takes it accepts it. Thus, a bill discounted or rediscounted by an
individual or business is called a merchants or trade acceptance. A bill discounted or rediscounted by a bank
is called a bankers acceptance.
Thus,
someone who uses a bill to purchase capital that pays for itself from a
business, or gets a loan from a bank on the strength of the bill offered for the
same purpose, is creating money by means of a real bill. If, however, someone
uses a consumer credit card, he or she is creating money by issuing a
fictitious bill.
A bill of credit is a special
constitutional term for a financial instrument by means of which a government
creates money. A bill of credit is a
fictitious bill because the issuer does not have a private property right at
the time the promise is made in what he promises to deliver on maturity.
Bills
of credit are usually issued in anticipation of future tax revenues that can be
used to redeem them. This is why bills of
credit are also called “anticipation notes.”
In
light of the Continental Currency debacle, the U.S. federal government under
the Constitution was not given the same power to emit bills of credit as it had
under the Articles of Confederation.
(Note that bills of exchange are “issued,” bills of credit are “emitted,” . . . and banknotes are "uttered" — again, we didn't make up this terminology).
The individual states are specifically
prohibited from emitting bills of credit.
Now
for the fun part.
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| "Not worth a Continental." |
The
Currency Principle that underlies the major schools of economic thought these
days does not recognize future savings, so that both mortgages and bills of
exchange are considered as backed by past savings.
Understanding future savings, however, is essential to understanding the
difference between a mortgage type contract based on past savings, and a bill
of exchange type contract based on future savings.
 |
| High Finance = 3 Card Monte? |
By
taking advantage of this confusion and applying a little sleight-of-hand, the
past savings assumption gives governments the ability to emit bills of credit
(future savings instruments) but call them bonds (past savings instruments). This is in spite of the fact that a
government, such as that of the United States under the Constitution, simply
does not have the power to emit bills of credit . . . unless you call them
bonds and claim they are something other than what they are!
This
is because under Keynesian economics, based ultimately on the political
theories of Thomas Hobbes, the State owns everything and can issue claims
against it in the form of mortgage-bonds-that-are-really-bills-of-credit. That way, all the government is presumably
doing is dividing its alleged ownership of all existing wealth into smaller and
smaller pieces . . . in theory.
In
reality, the government is making promises to redeem debts out of what it can
wrest out of future taxation from production that hasn’t happened yet. That’s how a Keynesian can claim that the size
of the national debt is irrelevant, while a binary economist goes into a panic.
#30#
