THE Global Justice Movement Website

THE Global Justice Movement Website
This is the "Global Justice Movement" (dot org) we refer to in the title of this blog.

Wednesday, April 6, 2016

What Backs the Money?

As regular readers of this blog may recall — at least, regular readers of the captions under the illustrations — we recently made a comment to the effect that, while all coin may be money, not all money is coin.  Not unexpectedly, this brought a response from the original questioner . . . who continued to assert rather than question, but we answered, anyway.

Does Congress have sole power to "create money"?
In this instance, the assertion was that only Congress has the right to create money.  Is that, in fact, the case that the federal government of the United States (“Congress”) has the power under the Constitution to “create money,” and is this power granted under Article I, Section 8?  The actual language is,
The Congress shall have Power . . . To borrow Money on the credit of the United States; . . . To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures.
Specifically, does the phrase “to coin money” mean the same thing as “create money”?  CESJ contends that it does not.
United States Half Eagle ($5 gold piece)
In refutation of CESJ’s position, the questioner (asserter) cited Juilliard v. Greenman (110 U.S. 421 (1884)).  The issue in Juilliard was whether United States Notes (“Greenbacks”) and coin were both legal tender and therefore could both be used to settle a debt when offered in payment.  The Court upheld the legal tender status of the United States Notes, that is, whether the tender consisted of coin or paper notes, the legal status of the currency was the same, and could not be refused.  The phrase “to coin money” therefore reasonably includes “to print notes” and (in certain circumstances) “create demand deposits” — something that CESJ has never denied.
The problem is that the Juilliard decision does not address CESJ’s concerns.  The questioner cited a decision that established an equivalency between “to coin money,” and “to print notes” and “create demand deposits,” and claimed that it established an equivalency between “to coin money,” and “to create money.”  It does not.
Five Dollar United States Note, convertible into gold.
To explain, when a government issues currency in any form, it assumes a liability.  That is, it guarantees that it will honor the face value of the currency in full.  Thus, everything else being equal, the government or its authorized agent must accept in payment of taxes or anything else its own currency at face value, or convert it into something of equal value.
The difference between the face value of a piece of currency, and the intrinsic value of the “fabric” (metal or paper) is thus not a profit, as many people suppose, to be put into “retained earnings,” but a liability that must be redeemed.  The confusion results from the fact that both liabilities and retained earnings are on the same side of the balance sheet, but — although both are claims on assets — are exact opposites: a liability is a claim on an asset from outside the accounting entity, while owners equity (under which retained earnings go) is a claim on an asset from inside the accounting entity.  The two added together must equal total assets, hence the accounting equation: Assets = Liabilities + Owners Equity.  “Money” properly goes into Liabilities for the issuer, but into Assets for the recipient.
Confederate $5 note, not convertible into gold.
The real issue here is what is behind the money, i.e., what “backs” it, what in finance is called “the underlying,” signifying “underlying asset.”  From 1879 to 1933, the question of what backs government paper currency was avoided by maintaining convertibility.  A dollar in gold and a dollar in paper were legal equivalents, as Juilliard maintained.  The individual Juilliard was being unnecessarily cautious in refusing paper money, probably fearing another suspension of convertibility as had happened from 1862 to 1878, and the paper dollar depreciated, no longer passing at par with the gold dollar, or simply did not trust paper money, likely having experienced the inflated Confederate currency or the various private “wildcat” bank issues that flooded the country prior to the National Banking Act of 1863.
Paper money and demand deposits backed by government debt became a serious problem with the rapid expansion of the deficit during the New Deal and the termination of convertibility of the paper notes into gold.  There was no longer any natural brake on government indebtedness, the politicians no longer having to be concerned with a sudden drain on gold reserves if people started converting their paper notes into gold.  They could print all the money the public would accept before catching on to what was happening.
Thus, in order to issue either coin or notes within the constraints imposed by the U.S. Constitution, the government or its delegated agent (the Mint or the Federal Reserve) must first purchase or borrow what stands behind the coin or notes, all of which comes out of existing wealth, i.e., marketable goods and services.  Money being defined as “all things transferred in commerce,” the government cannot be said to be “creating” money when it issues coin or notes.  It is only changing the form of money, from a thing transferred in commerce, to a negotiable claim on a thing transferred in commerce, or from “money” to “current money,” i.e., “currency.”
Thus, we conclude that the Constitution does not give Congress sole power to create money for the simple reason that Congress doesn’t have any power to create money — not constitutionally, anyway.  It does have the power to change one form of money to another and the responsibility of setting and maintaining a standard and uniform currency, but that is all.