The Encyclopedia of Money

The Encyclopedia of Money

SECOND EDITION

Larry Allen

Copyright 2009 by ABC-CLIO, LLC

All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, ortransmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or oth-erwise, except for the inclusion of brief quotations in a review, without prior permission in writingfrom the publisher.

Library of Congress Cataloging-in-Publication Data

Allen, Larry, 1949-The encyclopedia of money / Larry Allen. — 2nd ed.

p. cm.Includes bibliographical references and index.ISBN 978-1-59884-251-7 (hard copy : alk. paper) — ISBN 978-1-59884-252-4 (ebook)

1. Money—Encyclopedias. 2. Monetary policy—Encyclopedias. I. Title. HG216.A43 2009332.403—dc22 2009035247

13 12 11 10 09 1 2 3 4 5

This book is also available on the World Wide Web as an eBook.Visit www.abc-clio.com for details.

ABC-CLIO, LLC130 Cremona Drive, P.O. Box 1911Santa Barbara, California 93116-1911

This book is printed on acid-free paper

Manufactured in the United States of America

v

Contents

List of Entries viiPreface to Second Edition xiIntroduction xiii

The Encyclopedia 1

Bibliography 447Glossary 475Index 481

vii

List of Entries

Act for Remedying the Ill State of the Coin(England)

Adjustable-Rate MortgagesAlchemyAmerican PennyAncient Chinese Paper MoneyAnnouncement EffectArgentine Currency and Debt CrisisAyr Bank

Balance of PaymentsBankBank Charter Act of 1833 (England)Bank Charter Act of 1844 (England)Bank Clearinghouses (United States)Bank for International SettlementsBanking Acts of 1826 (England)Banking and Currency Crisis of EcuadorBanking CrisesBanking SchoolBank of AmsterdamBank of DepositBank of EnglandBank of FranceBank of JapanBank of ScotlandBank of VeniceBank Restriction Act of 1797 (England)Barbados Act of 1706Barter

Beer Standard of Marxist AngolaBelgian Monetary Reform: 1944–1945Bills of ExchangeBimetallismBisected Paper MoneyBland–Allison Silver Repurchase Act of

1878Bretton Woods SystemBritish Gold SovereignByzantine Debasement

Caisse d’EscompteCapital ControlsCapital FlightCarolingian ReformCase of Mixt MoniesCattleCeltic CoinageCentral BankCentral Bank IndependenceCertificate of DepositCheckChilean InflationChinese Silver StandardClippingClothCocoa Bean CurrencyCoinage Act of 1792 (United States)Coinage Act of 1834 (United States)Coinage Act of 1853 (United States)

viii | List of Entries

Coinage Act of 1965 (United States)Commodity Monetary StandardCommodity Money (American Colonies)Commodity Price BoomComposite CurrencyCopperCore InflationCorso Forzoso (Italy)Counterfeit MoneyCredit CrunchCredit RatingsCrime of ‘73 (United States)Currency Act of 1751 (England)Currency Act of 1764 (England)Currency CrisesCurrency–Deposit RatioCurrency SchoolCurrency SwapsCurrent Account

De a Ocho Reales (Pieces of Eight)Debit CardDecimal SystemDepository Institution Deregulation and

Monetary Control Act of 1980 (UnitedStates)

Deutsche BundesbankDeutsche MarkDissolution of Monasteries (England)DollarDollar Crisis of 1971Dollarization

East Asian Financial CrisisEnglish PennyEquation of ExchangeEuro CurrencyEurodollarsEuropean Central BankEuropean Currency UnitExchequer Orders to Pay (England)

Federal Open Market Committee (FOMC)Federal Reserve SystemFinancial Services Modernization Act of

1999 (United States)First Bank of the United StatesFisher EffectFloat

Florentine FlorinFood StampsForced SavingsForeign Debt CrisesForeign Exchange MarketsForestall SystemFort KnoxFranklin, Benjamin (1706–1790)Free BankingFree Silver MovementFrench Franc

Generalized Commodity Reserve CurrencyGhost MoneyGlass–Steagall Banking Act of 1933

(United States)Global DisinflationGoat Standard of East AfricaGoldGold Bullion StandardGold DustGold Exchange StandardGold Mark of Imperial GermanyGold Reserve Act of 1934 (United States)Gold RushesGoldsmith BankersGold-Specie-Flow MechanismGold StandardGold Standard Act of 1900 (United States)Gold Standard Act of 1925 (England)Gold Standard Amendment Act of 1931

(England)Great Bullion FamineGreat DebasementGreek Monetary Maelstrom: 1914–1928Greenbacks (United States)Gresham’s LawGuernsey Market House Paper Money

High-Powered MoneyHot MoneyHouse of St. GeorgeHyperinflation during the American

RevolutionHyperinflation during the Bolshevik

RevolutionHyperinflation during the French RevolutionHyperinflation in ArgentinaHyperinflation in Austria

Hyperinflation in BelarusHyperinflation in BoliviaHyperinflation in BrazilHyperinflation in BulgariaHyperinflation in ChinaHyperinflation in GeorgiaHyperinflation in PeruHyperinflation in Post-Soviet RussiaHyperinflation in Post–World War I

GermanyHyperinflation in Post–World War I

HungaryHyperinflation in Post–World War II

HungaryHyperinflation in Post–World War I PolandHyperinflation in the Confederate States of

AmericaHyperinflation in UkraineHyperinflation in YugoslaviaHyperinflation in Zimbabwe

Inconvertible Paper StandardIndependent Treasury (United States)IndexationIndian Silver StandardInflation and DeflationInflationary ExpectationsInflation TaxInterest RateInterest Rate TargetingInternational Monetary Conference of 1878International Monetary FundIslamic BankingIvory

Japanese DeflationJuilliard v. Greenman (United States)

Labor NotesLand Bank System (American Colonies)Latin Monetary UnionLaw, JohnLaw of One PriceLeather MoneyLegal Reserve RatioLegal TenderLiquidityLiquidity CrisisLiquidity Trap

Liquor MoneyLiverpool Act of 1816 (England)Lombard BanksLondon Interbank Offered Rate

Massachusetts Bay Colony MintMassachusetts Bay Colony Paper IssueMedici BankMexican Peso Crisis of 1994Milled-Edge CoinageMissing MoneyMonetarismMonetary AggregatesMonetary Law of 1803 (France)Monetary MultiplierMonetary NeutralityMonetary TheoryMoneyerMoney LaunderingMoney Market Mutual Fund AccountsMughal Coinage

NailsNational Bank Act of 1864 (United States)Negotiable Order of Withdrawal AccountsNew York Safety Fund System

Open Market OperationsOperation BernhardOptimal Currency AreaOttoman Empire Currency

Pacific Coast Gold StandardPapal CoinagePig Standard of New HebridesPlaying-Card Currency of French CanadaPontiac’s Bark MoneyPostage StampsPotosi Silver MinesPound SterlingPOW Cigarette StandardPrice Revolution in Late Renaissance EuropePrice StickinessPrivate Paper Money in Colonial

PennsylvaniaProducer Price IndexPromissory Notes Act of 1704 (England)Propaganda MoneyPublic Debts

List of Entries | ix

Quattrini Affair

Radcliffe ReportReal Bills DoctrineRedenominationRentenmarkReport from the Select Committee on the

High Price of BullionRepurchase AgreementsResumption Act of 1875 (United States)Return to Gold: 1300–1350Rice CurrencyRiksbank (Sweden)Roman Empire InflationRossel Island Monetary SystemRoyal Bank of ScotlandRussian Currency Crisis

Salt CurrencySavings and Loan Bailout (United States)Scottish Banking Act of 1765Second Bank of the United StatesSecuritizationSeigniorageSeizure of the Mint (England)Sherman Silver Act of 1890 (United States)ShinplastersSiege MoneySilverSilver PlateSilver Purchase Act of 1934 (United

States)Slave CurrencySlave Currency of Ancient IrelandSnakeSocial Dividend Money of MarylandSpanish Inconvertible Paper StandardSpanish Inflation of the 17th CenturySpartan Iron CurrencySpecial Drawing RightsSpecie Circular (United States)SterilizationStop of the Exchequer (England)Suffolk SystemSugar Standard of the West IndiesSuspension of Payments in War of 1812

(United States)

Sweden’s Copper StandardSweden’s First Paper StandardSweden’s Paper Standard of World War ISweep AccountsSwiss BanksSwiss FrancSymmetallism

Tabular Standard in Massachusetts BayColony

TalerTallies (England)TeaTouchstoneTrade DollarTreasury NotesTrial of the Pyx (England)Troubled Asset Relief ProgramTurkish InflationTzarist Russia’s Paper Money

Universal BanksU.S. Financial Crisis of 2008–2009Usury Laws

Vales (Spain)Value of MoneyVariable Commodity StandardVehicle CurrencyVellonVelocity of MoneyVenetian DucatVirginia Colonial Paper CurrencyVirginia Tobacco Act of 1713

Wage and Price ControlsWampumpeagWendish Monetary UnionWhale Tooth Money in FijiWildcat Banks (United States)The Wizard of OzWorld Bank

Yap MoneyYeltsin’s Monetary Reform in RussiaYenYield Curve

x | List of Entries

xi

Preface to the Second Edition

The 2008–2009 financial crisis holds implications for the subject of money that makea new edition of The Encyclopedia of Money timely. A decade has elapsed since thefirst edition of The Encyclopedia of Money came off the press. In that decade, the setof money-related issues and problems underwent drastic change. The last centurydrew to a close with the widespread perception that inflation remained public enemynumber one where money was concerned. The decade of the 1970s had not only seenthe United States suspend the convertibility of dollars into gold, but it had also seenrampant inflation. Keeping inflation corralled became the preoccupation of monetaryauthorities around the world. The proper management of fiat monetary systems as apath to price stability became the central concern of economic research.

Experience with inflation exerts subtle influences on public policy. Inflation makesit easier to resell things at higher prices than were originally paid for them. As house-holds and businesses find it easy to sell things at a profit, they acquire greater confi-dence in free markets. Because government regulation is the greatest enemy of freemarkets, households and business are ready to do away with it. Government regula-tion becomes something that might hold a price below a market price, or subtract fromthe profits earned when assets are sold for a profit. Government regulation comes tobe viewed as a relic of Depression-era economics, as something that should be safelydismantled or ignored. Deflation has the opposite effect. Under deflation, few peoplewant to be left to the mercy of a market. Instead of seeing the market as their friend,households and businesses are more likely to view markets as the playground of cleverand sometimes unscrupulous intermediaries that know how to buy cheap and sell dear.Deflation leads to the perception that government regulations are needed to protect theless informed from the better informed.

As governments around the world exalted free markets, a less conspicuous trendwas also making itself felt. The worldwide average rate of inflation gradually subsidedin the 1990s. It was as if the war against inflation had succeeded all too well. By themid-1990s, Japan was reporting deflation. In 2008, U.S. monetary authorities gave

free reign to monetary growth, trying to prevent a recession from evolving into a trendof deflation. If fear of deflation replaces fear of inflation, the idea of policing marketswith government regulations may rise from the ashes and enjoy new prestige. Theabsence of inflation removes some of the fears of regulations and weakens confidencein free markets. A wave of failures in financial institutions suggests a need for stricterand more conscientious regulation.

Whether deflation develops in the United States remains to be seen. Certainly, fearof depression has led the U.S. monetary authorities to embrace Depression-era mone-tary policies.

In a nutshell, the focus of money-related issues shifted from the concerns associ-ated with rising inflation to the concerns associated with shrinking inflation, and fromthe concerns associated with shrinking inflation to the concerns associated with defla-tion. This new edition of The Encyclopedia of Money addresses these new issues intransparent language.

xii | Preface to the Second Edition

xiii

Introduction

Money serves four basics functions in an economic system. It acts as (1) a medium ofexchange, (2) a unit of measure, (3) a store of value, and (4) a standard of deferredpayment.

As a medium of exchange, money must be universally accepted in exchange. Itmust be something always accepted in trade. In prisoner-of-war camps, cigarettes haveserved as a medium of exchange, and in the northern reaches of the earth, furs havecirculated as a medium of exchange. Livestock and precious metals have a long his-tory of service as mediums of exchange.

Money must also act as a unit of measure, comparable to yards, gallons, tons, cubicfeet, or any other measure. British pounds sterling, U.S. dollars, Japanese yen, Germanmarks, and French francs all serve as units of measurement. A consumer can buy10 gallons worth of gasoline or $10 worth of gasoline. The Hudson Bay trading postsin Canada measured sales and profits in terms of beaver pelts, and Virginia colonistspriced goods in terms of pounds of tobacco.

Anything meeting all of the demands placed on money must be satisfactory as a storeof value. That is, it must preserve its value over a length of time. Perishable commodi-ties rarely serve as money because wealth stored in perishable commodities is doomedto extinction. Precious metals such as gold and silver, known for resistance to corrosionand natural deterioration, are the most prized as monetary commodities and have fewrivals as commodities that preserve value over time. Livestock reproduce, allowing themto preserve value over time, and even earn a form of interest. Inflation is the chief enemyof paper money because it renders the paper money useless as a store of value.

Money should also furnish society with a standard of deferred payment, enablingdebtors and creditors to negotiate long-term contracts. Creditors want assurance thatdebtors cannot legally discharge debts with money possessing less purchasing powerthan the money originally borrowed. An unanticipated depreciation of the currencyshortchanges creditors and gives debtors a windfall gain, arbitrarily redistributingincome from creditors to debtors.

On the other hand, if money becomes unusually abundant, debtors easily find themeans to repay debts, and creditors find the money repaid to them is worth less.Debtors are at risk if currency unexpectedly appreciates, increasing what debtors haveto repay creditors in real terms. Unexpected currency appreciation redistributes incomein favor of creditors over debtors. Because those who need to borrow money are usu-ally worse off than those who have money to lend, an income redistribution favoringcreditors is likely to cause hard feelings among those who already feel they get lessthan their share of income. Monetary issues are the focal point of a not-so-secret warbetween debtors and creditors.

Money falls within two broad categories, commodity money and fiat money. Com-modity money makes use of some commodity, such as tobacco, rice, gold, or silver,that has an intrinsic value, or market value independent of any government decreesanctioning the commodity as legal tender for payment of private and public debts.Commodity monetary standards may make use of tokens or paper circulating money,but the circulating money can always be redeemed in a monetary commodity at anofficial rate. Under the gold standard, the United States government committed itselfto selling gold for $35 per ounce. Fiat money has no intrinsic value; that is, it has nomarket value independent of a government decree establishing it as legal tender forprivate and public debts. Modern monetary systems are called inconvertible paperstandards, because the fiat money issued by these systems cannot be converted into acommodity at an official rate. Fiat money has value because governments give them-selves a monopoly on the privilege to issue fiat money, enabling them to limit its sup-ply, and governments use their power to adjudicate disputes to make the money legaltender for all debts. By limiting the supply and creating a need, the government con-fers value on paper money that has little or no intrinsic value.

Two commodities, gold and silver, have been promoted as the aristocrats of com-modity money. Until the 19th century, silver usually prevailed as the predominantform of commodity money, punctuated by intervals of bimetallism, which made useof both gold and silver and established a fixed ratio that set the value of each metal interms of the other. Aside from the Byzantine period, when gold reigned supreme, thehegemony of silver lasted from the time of Alexander the Great until the 19th century.

Historically, precious metals have had a funny way of showing up and disappear-ing as civilizations waxed and waned. The silver mines of Laurium helped finance thegolden age of Greece, and the decline of the Roman Empire coincided with theexhaustion of the silver mines in Spain and Greece. The stagnation of Western Europeduring the Middle Ages may be explained by the virtual disappearance of preciousmetals during that era. The economic expansion of Europe that led to the eventualworld dominance of European civilization in the 19th century followed the Europeandiscovery of vast precious metal deposits in the New World.

The much-vaunted gold standard, the demise of which is still mourned by a fewtrue believers, actually represents a relatively late development in monetary history.The gold standard is a recent upstart compared to silver and bimetallic standards. Onlyin the 50 years preceding World War I (1914–1918) did gold become the sole standardof purchasing power, completely eclipsing the role of silver in the world’s monetarysystem.

xiv | Introduction

The fascination with gold may be a relic of the awe that surrounded money in someprimitive societies. The word “taboo” originated from the sacred character and atmos-phere of mystery that surrounded primitive money in islands of the South Pacific. Inthe Fiji Islands, sperm whale teeth, called “tambua,” (of which “taboo” is a variant),acted as money and conferred social status on their owners. The power of a whaletooth guaranteed compliance with any request that accompanied it as a gift. On RosselIsland, some of the most valuable units of shell money could only be handled in acrouched position, and many of these units were thought to have been handed downfrom the beginning of time. In parts of the Philippines, women were not allowed toenter sacred storehouses where rice money was kept.

John M. Keynes, a famous British economist in the first half of the twentieth cen-tury, observed in volume two of his Treatise on Money (1930) that gold had“enveloped itself in a garment of respectability as densely respectable as was ever metwith, even in the realms of sex or religion” (259). Concerning the power that a rela-tively small amount of gold played in the world’s monetary affairs, Keynes wrote inthe same work that “[a] modern liner could convey across the Atlantic in a single voy-age all the gold which has been dredged or mined in seven thousand years” (259). Theworld’s supply of gold has increased since Keynes wrote these words, but the supplyremains small in comparison to the important role it has always played in monetaryaffairs. Even during Keynes’s time, monetary gold lay out of sight in the undergroundvaults of central banks, and gold transactions were conducted by paper notations (earmarking), rather than physically moving gold to different locations.

The strength of gold as a monetary commodity lay in the hold it commanded on thehuman imagination, but its weakness lay in its restricted supply, which failed to keeppace with the growth of trade. The gold standard forced the world’s economies tostruggle constantly against what today would be called a tight money policy. Althoughfresh supplies of gold occasionally burst forth, furnishing a brief respite from tightmoney, the long-term trend was one of deflation owing to the limited money supplies.

The world’s trading partners severed the connection between domestic money sup-plies and domestic gold reserves in the 1930s, hoping that more lax monetary policieswould reinflate the depression-ridden economies of that era. Under the Bretton Woodssystem of the post–World War II era, domestic currencies remained convertible intogold at the request of foreign central banks, but not at the request of private individu-als. During the Bretton Woods era, gold reserves failed to keep pace with the need formonetary growth, and by agreement of the members of the Bretton Woods system, aform of “paper gold” was created called “standard drawing rights.” Standard drawingrights are really only entries in accounting logs, but they act as reserves of gold or foreign currencies.

Since 1971, the world’s major trading partners have been on inconvertible paperstandards. The United States dollar and other major currencies became strictly fiatmoney, inconvertible into gold even at the request of foreign central banks.

The burst of inflation of the 1970s may have been due partially to a void in mone-tary discipline left by the departure from the last vestiges of the gold standard. Theexperience of Japan between 1999 and 2005, however, cautions against generaliza-tions about the inevitability of inflation under a fiat monetary system. Japan posted

Introduction | xv

consumer price deflation for seven consecutive years. Japan’s experience would nothave been unusual if Japanese authorities had induced deflation by a restrictive mon-etary policy and exorbitant interest rates. Before Japan’s episode of deflation, theworld’s monetary authorities had already learned how to restrict the rate of monetarygrowth to noninflationary levels. By the mid-1990s, inflation had subsided to insignif-icant levels virtually worldwide. Japan’s experience appeared unique because defla-tion persisted long after short-term Japanese interest rates fell to near zero levels.Japan’s deflation existed under conditions of relatively lax monetary policies.

In 2009, the United States is trying to formulate a policy in light of previous expe-riences with inflation and Japan’s recent experience with deflation. The outcomeshould reveal clues and hints that are even more interesting about the nature of money.

xvi | Introduction

The Encyclopedia of Money

1

A

ACT FOR REMEDYINGTHE ILL STATE OF THE

COIN (ENGLAND)

In 1696, Parliament enacted the Act forRemedying the Ill State of the Coin,after one of the famous currency debatesin history, which pitted those whofavored return to a historical currencystandard against those who favored rati-fying past depreciation.

Toward the end of the 17th century, theold hammered-silver coinage accountedfor the bulk of England’s circulatingcoinage. The coinage was worn andclipped, some dating back to Elizabeth I,effectively reducing the silver weight rel-ative to the face value of each coin.Freshly struck milled coins disappearedas fast as they left the mint as Gresham’slaw played itself out—bad money chas-ing out good. The milled coins, immunefrom clipping, enjoyed greater silvervalue and were far more beautiful.

Once the government committed itselfto recoinage, two schools of thought

arose about the principles that shouldguide it. John Locke, the famous philoso-pher who influenced the American Revo-lutionaries, stood firmly in favor ofmaintaining the historical weight stan-dard of English coins. Locke’s proposalrequired that the lost silver content ofworn and clipped coins be restored inrecoinage, substantially increasing thegovernment’s costs. William Lowndes,secretary to the treasury, proposedrecoinage at a lower silver content for agiven face value, bringing the silver con-tent of freshly minted coins into line withthe silver content of worn, clipped coins.Wear and clipping had on average costthe coinage 20 to 25 percent of silver con-tent. Supporting Lowndes’s proposalwere numerous historical precedents forstabilizing depreciated coins at currentlevels. Locke described the proposal toreduce the silver content relative to facevalue as “a clipping done by publicauthority, a public crime.” Locke was alsoconcerned that reducing the silver contentenabled the government to repay debtwith cheaper money.

Sir Isaac Newton, another toweringfigure who was a player in this drama,served as warden of the mint duringrecoinage. Newton appears to havefavored devaluation and apparently fore-saw that refusing to devalue wouldincrease the amount of silver each goldcoin would buy, increasing the value ofgold at home, causing gold to flow in andsilver to flow out.

Parliament sided with Locke, and theAct for Remedying the Ill State of theCoin, with minor exceptions, mirroredLocke’s views. The cost of the recoinage

surpassed all expectations, totaling £2.7 million, more than half of the gov-ernment’s revenue. In the spirit of theEnlightenment, the government enacteda tax on windows to help pay for therecoinage. In addition to the Tower mint,several branch mints were pressed intoservice, and the recoinage was com-pleted in three years.

The mechanics of the plan for callingin the old coinage caused no smallamount of discontent. For a certainperiod of time, the government acceptedat face value worn and clipped coins for

2 | Act for Remedying the Ill State of the Coin (England)

Woodcut illustrating the alchemical bonding of gold and silver, from Von dem grossen SteinUhralten, Strasbourg, 1651. (Jupiterimages)

the payment of taxes and governmentobligations. Landowners with propertytaxes to pay, and merchants with cus-toms’ duties to pay, benefited from theplan, buying up worn and clipped coinsat a discount and paying their taxes withthem. Wage earners and the poor hadless need of the money to pay taxes, andoften found the soon-to-be discontinuedmoney accepted only at a discount byshopkeepers.

The act struck a blow for upholdingthe sanctity of a monetary standard, evenat great expense, to protect the interest ofcreditors, especially when governmentwas a major debtor. Newton correctlyanticipated, however, that the act wouldput England on the road to the gold stan-dard. Gold flowed into England, where itcould purchase silver cheaply. The silverwas then sold abroad at a profit.

See also: Clipping, Great Debasement, PoundSterling

ReferencesChown, John F. 1994. A History of Money.Feavearyear, Sir Albert. 1963 The Pound

Sterling: A History of English Money,2nd ed.

Horton, Dana S. 1983. The Silver Pound andEngland’s Monetary Policy since theRestoration, together with the History ofthe Guinea.

ADJUSTABLE-RATEMORTGAGES

An adjustable-rate mortgage (ARM)provides for varying interest rates overthe life of the mortgage. It forces theborrower to shoulder some of the risksthat fixed-rate loans place on the lender.Key to the rationale for ARMs is thealmost one-to-one relationship between

short-term interest rates and inflationrates. Over the life of a 30-year, fixed-rate mortgage, inflation ranks among thebiggest enemies that a lender faces.Increases in the inflation rate reduce thereal (inflation-adjusted) rate of interestthat a mortgage pays to a lender. Higherinflation reduces the real purchasingpower of each monthly payment whilepushing up the real operating cost of alender. If the inflation rate happens torise above a mortgage interest rate, thelender ends up earning a negative realinterest rate.

The high inflation rates of the 1970staught lenders the damage that inflationcan wreak on the interest incomeearned from mortgages. Lenders begandemanding higher interest rates on 30-year mortgages as insurance againsta wave of inflation wiping out the prof-its and capital of mortgage holders.Adjustable-rate mortgages developedas a way to get home buyers intohouses without paying the high interestrates attached to 30-year, fixed-ratemortgages.

Under an ARM, the mortgage interestrate at any given time is linked orindexed to a short-term interest rate. Twoshort-term, benchmark interest ratescommonly used for setting ARM interestrates are the London Interbank OfferedRate (LIBOR) and the one-year, constantmaturity treasury bond rate. The interestrate on an ARM is adjusted periodicallyto reflect changes in a benchmark inter-est rate. The home buyer benefitsbecause short-term interest rates are usu-ally lower than long-term interest rates,since short-term rates have less inflationrisk. The disadvantage to the home buyerlies in the risk that short-term interestrates go up, probably because of risinginflation or anti-inflation policies. If

Adjustable-Rate Mortgages | 3

short-term interest rates go up, themonthly payments on ARMs go up. WithARMs, the burden of accelerated infla-tion is born by the borrower instead ofthe lender. In turn for bearing the risk ofaccelerated future inflation, the homebuyer stands a chance getting by withlower interest rates. If inflation neverdrives up short-term interest rates overthe life of the loan, the home buyercomes out ahead.

Adjustable-rate mortgages come inseveral varieties. In some mortgages, themonthly payment can change everymonth, depending on the benchmarkinterest rate. Other mortgages allowchanges in monthly payments as infre-quently as every five years. The timeframe between rate changes is called the“adjustment period.” A mortgage with aone-year adjustment period is called aone-year ARM.

Many ARMs put a cap on the amountthat a mortgage interest rate can changefrom one adjustment period to the next.This provision protects home buyers fromlarge jumps in interest rates and monthlypayments. Other contracts put a limit onthe amount that monthly payments canincrease from one adjustment period tothe next. If interest rate adjustments callfor a 10 percent increase in monthly pay-ments, but the contract only allowsmonthly payments to go up 5 percent,then the unpaid interest will be added tothe balance of the mortgage. By law,nearly all ARMs have a cap on how highinterest rates can go over the life of amortgage.

One version of the ARM allows the home buyer to pay an initial interestrate well below the benchmark interestrate used for setting an ARM interestrate. The home buyer enjoys the lowinterest rate, often called a teaser rate,

for an initial period, such as a year. Thenthe interest rate is adjusted upwardaccording to the indexing formula tiedto the benchmark interest rate. If short-term interest rates happen to be rising atthe same time that a homeowner is tran-sitioning from the teaser rate to the fullyindexed, benchmark rate, then the homeowner may experience “paymentshock.” The large increase in monthlypayment may leave a home ownerunable to make a house payment. Thepractice of offering teaser rates con-tributed to the severity of the subprimemortgage crisis in the United States.

See also: U.S. Financial Crisis of 2008–2009

ReferenceFederal Reserve Board. 2009. Consumer

Handbook on Adjustable-Rate Mortgages.

ALCHEMY

Alchemy was a pseudoscience that flour-ished during the Middle Ages. Its chiefaims were the transmutation of base met-als into gold and silver, and the discov-ery of an elixir of eternal youth. Thealchemists searched in vain for thephilosopher’s stone, a substance that, ifproperly treated, would allegedly trans-mute lead, iron, copper, or tin into goldor silver—but particularly gold.

Perhaps it is only coincidental that SirIsaac Newton, the master of the Londonmint from 1699 to 1726 and one of thetowering intellects in the history ofhumanity, spent years conducting experi-ments in alchemy, leaving behind manu-scripts of 100,000 words. Between 1661and 1692, experiments in alchemyaccounted for most of Newton’s labora-tory work. He experimented withalchemy while he was writing his

4 | Alchemy

masterpiece, Philosophiae NaturalisPrincipia Mathematica (MathematicalPrinciples for Natural Philosophy), alsoknown as the Principia.

The origins of alchemy stretch backinto the murky recesses of history. Onelegend suggests that Jason’s goldenfleece was actually a papyrus manuscriptdescribing the gold-producing secrets ofalchemy. Probably a combination ofGreek speculation, Eastern mysticism,and Egyptian technology conspired tomake Alexandria, Egypt, one of the firstcenters of alchemical studies in the West.The Roman emperor Diocletian orderedall Egyptian texts on alchemy destroyedafter crushing an Egyptian rebellion atthe end of the third century. Apparentlyhis action was taken only to punish theEgyptians. Evidence of alchemical stud-ies in China show up as early as the sec-ond century BCE, and India also boastsof an ancient tradition of alchemy.

The Arabs inherited both the easternand western traditions of alchemy, andmade advancements in the science ofchemistry while practicing alchemy. Thegreatest of the Islamic alchemists wasthe Great Geber, regarded in medievalEurope as the father of alchemy. To theArab alchemists we owe such terms as“alcohol,” “alkali,” “borax,” and “elixir.”

The study of alchemy passed from theArabs into Europe through Spain. In 1181the University of Montpellier wasfounded in southern France. It becamethe birthplace of European alchemy, pro-ducing in the 13th century several of themost famous alchemists, including Albertus Magnus and Roger Bacon, themost renowned of the medieval scientists.Another famous graduate, St. ThomasAquinas, also wrote about alchemy. Liketheir Arab predecessors, the Europeanalchemists believed that all metals were

constituted of varying proportions of twometals, mercury and sulfur. Much of theirresearch centered on the quest for an elusive elementary solvent with whichmetals could be broken down into thesetwo basic elements and then reconstitutedin different proportions, resulting in different metals.

It was with good reason that alchemistswere perceived as charlatans promisingmore than they could deliver, yet at thesame time they were suspected of being inleague with dark forces and, akin to sor-cerers, using black magic and charms.

The European monarchies also sus-pected alchemists of fraudulent andheretical practices, but were always in abind for money. Although fearingalchemists as potential counterfeiters,they could not resist the lure of thealchemists’ promise to convert lead andother base metals into gold. James II ofScotland is reported to have dabbled inalchemy himself. King Charles II ofEngland inherited a bare treasury andsought a solution to his fiscal problemsin the magic of alchemy. He built hisown laboratory for alchemical investiga-tions, connected to his bed chamber by asecret staircase. France also turned toalchemists to help finance wars withEngland, and both countries issued gold-colored currency as soldiers’ pay. In the20th century, Adolf Hitler is reported tohave sought the services of scientistsengaged in alchemical studies, hoping tobolster Germany’s gold reserves.

The famous English philosopher SirFrancis Bacon, in his book Advancementof Learning (1605), may have bestcaught the significance of alchemy whenhe wrote, “Alchemy may be likened tothe man who told his sons that he hadburied gold in the vineyard; where theyby digging found no gold but by turning

Alchemy | 5

up the mold about the roots of the vinesprocured a plentiful vintage.”

See also: Gold

ReferencesBacon, Sir Francis. 1625/1969. Advancement

of Learning.Cummings, Richard. 1966. The Alchemists.Marx, Jennifer. 1978. The Magic of Gold.

AMERICAN PENNY

The penny in the United States is a one-cent coin. Presently, the UnitedStates Mint strikes about 12 billion pen-nies annually, accounting for over one-half of all coins struck by the mint. If thepennies struck by the U.S. Mint since itsinception were lined up edge to edge, thepennies would roughly circle the earth137 times (www.penny.org).

Historically, the penny was a coppercoin. Copper coinage came slowly to theEnglish-speaking countries, perhapsbecause of its long association with cur-rency debasement. Early in the 17th cen-tury, Spain had debased its silver coinwith copper alloy, eventually strikingcoins that were virtually all copper withface values commensurate with high sil-ver content. The prevailing opinion inEngland was that only gold and silver metthe standard of a monetary metal. A short-age of small change among tavern keep-ers and tradesmen, however, prompted theintroduction of private tokens. To meetthe need for small change, the Englishgovernment in 1613 first struck coppercoins. Great Britain struck the first copperpennies for home use in 1797.

In 1681 New Jersey sanctioned as legaltender copper coins called Patrick’spence, after the Irishman who brought thecoins to the colonies. In 1722 the British

government authorized William Wood tomint pennies and halfpence for Irelandand the colonies. These pennies were amixture of copper, tin, and zinc, and had atouch of silver. Under the Articles of Con-federation, several states establishedmints that turned out copper coins. TheCoinage Act of 1792 established the centand the half-cent and set the weight of thecent at 264 grains of copper. The act madeno provision for the actual coinage ofcopper, and the legal tender provisions ofthe act failed to mention copper coins.Congress soon amended the act to pro-vide for the purchase of copper and fornecessary arrangements for the coinage ofcopper cents and half-cents. Congressalso began to think of the copper coinageas a fiduciary issue, and authorized thepresident to substantially reduce the copper weight of the cent and half-cent.

Congress also banned the circulationof foreign copper coins, a restriction thatdid not apply for foreign gold and silvercoins. The Spanish silver dollar circu-lated as clearly legal tender currencywhile the legal tender status of the coppercents and half-cents remained in doubt.After President Washington reduced thecopper content of the cent to 168 grains,the coinage of cents and half-cents accel-erated as a profit-making venture.

In 1857, Congress substantiallyincreased the seigniorage on the coppercoins. It abolished the half-cent andreduced the weight of the one-cent cointo 72 grains with 88 percent copper and12 percent nickel. In 1864, Congressagain changed the composition of thecent, raising the copper content to 95 percent with the remaining 5 percentzinc. Congress also made the one-centcoin legal tender.

In 1909, to mark the 100th year sincehis birth, Abraham Lincoln became the

6 | American Penny

first historical figure to adorn a UnitedStates coin. Fifty years later, an image ofthe Lincoln Memorial appeared on thereverse side, and today both sides of thepenny commemorate Abraham Lincoln.In 2009, the U.S. Mint will issue four dif-ferent one-cent coins to commemoratethe 200th anniversary of PresidentLincoln’s birth and the 100th anniversaryof the production of the Lincoln cent.

Rising copper prices in the 1970scaused a shortage of pennies, then worthmore as copper than as money. Pennieswere melted down for copper, and tokeep pennies in circulation the govern-ment reduced the penny’s copper con-tent to 2.5 percent, the remaining 97.5 percent was composed of zinc.

In the first decade of the new century,the penny’s future stands somewhat uncer-tain. Inflated price levels may have madethe penny coin obsolete, but proposals todiscontinue the penny have not met withwidespread approval. State and local gov-ernments claim the penny plays a neededrole in the collection of sales taxes appliedat percentage rates. Consumer groupsclaim abolishing the penny will mean thatprices will be rounded up a nickel insteadof a penny, leading to higher prices. Oppo-nents of the penny cite its insignificantpurchasing power, and the time andresources that households and businessesput into managing pennies. In 2001 and2006, bills came up in Congress to stopproduction of the penny, but the billsfailed to pass. The U.S. Mint contends thatcoinage of the penny is profitable to thegovernment, and other large major indus-trialized countries, including GreatBritain, Canada, Japan, Germany, France,and Italy, have kept the penny, or pennyequivalents, in production. Australia andNew Zealand have removed their pennyequivalent from circulation.

See also: Coinage Act of 1792, Copper

ReferencesCarothers, Neil. 1930/1967. Fractional

Money.Gadsby, J. William. 1996. Future of the Penny:

Options for Congressional Consideration.Hagenbauch, Barbara. “A penny saved could

become a penny spurned.” USA Today,July 7, 2006.

ANCIENT CHINESE PAPER MONEY

In the second book of The Travels ofMarco Polo, Chapter 18 is entitled: “Ofthe Kind of Paper Money Issued by theGrand Khan, and Made to Pass Currentthroughout His Dominions.” In thischapter, Marco Polo, who lived in Chinafrom 1275 to 1292, described the papermoney system as follows:

In this city of Kanbulu is the mint ofthe grand khan, who may truly besaid to possess the secret of thealchemist, as he has the art of pro-ducing money by the followingprocess. He causes the bark to bestripped from those mulberry-treethe leaves of which are used forfeeding silk-worms, and takes fromit that thin inner rind, which liesbetween the coarser bark and thewood of the tree. This being steeped,and afterwards pounded in a mortar,until reduced to a pulp, is made intopaper, resembling (in substance)that which is manufactured fromcotton, but quite black. When readyfor use, he has it cut into pieces ofmoney of different sizes, nearlysquare, but somewhat longer thanthey are wide. . . . The coinage ofthis paper money is authenticated

Ancient Chinese Paper Money | 7

with as much form and ceremony asif it were actually of pure gold or sil-ver; for to each note a number ofofficers, specially appointed, notonly subscribe their names, but affixtheir signets also; and when this hasbeen regularly done by the whole ofthem, the principal officer, deputedby his majesty, having dipped intovermilion the royal seal committedto his custody, stamps with it thepiece of paper, so that the form ofthe seal tinged with the vermilionremains impressed upon it, bywhich it receives full authenticity ascurrent money, and the act of coun-terfeiting it is punished as a capitaloffense. . . . nor dares any person, atthe peril of his life, refuse to acceptit in payment. When any persons

happen to be possessed of papermoney which from long use hasbecome damaged, they carry it tothe mint, where, upon the paymentof only three percent, they mayreceive fresh notes in exchange.Should any be desirous of procuringgold or silver for the purposes ofmanufacture, such as of drinking-cups, girdles, or other articleswrought of these metals, they in likemanner apply at the mint, and fortheir paper obtain the bullion theyrequire. (Polo, 1958, 153–155)

Marco Polo’s account of the papermoney system in China may have been abit optimistic. China had been issuingpaper money since 910 CE and hadalready suffered at least one round ofhyperinflation before Marco Polo’s visit.Around 1020, inflation and currencydepreciation became such a problem thatthe authorities resorted to perfuming thepaper money to make it more attractive.China seemed to have experiencedphases of reformed currencies, punctu-ated with bouts of inflation. By 1448, theMing note was worth only 3 percent ofits face value, and no further referencesto paper money are found after 1455.

Paper money lost its charm in Chinaowing to inflation, leading to its extinc-tion as a form of state-sponsored moneyin China until the 20th century. When theWestern world saw a renaissance of papermoney toward the end of the 17th century,inflation again reared itself as a rock ofdanger for any paper-money system.Despite the inflation dangers of papermoney, however, the societies experienc-ing the fastest economic developmentsince the beginning of the 17th centuryhave been those that learned to use papermoney.

8 | Ancient Chinese Paper Money

Banknote from Kublai Khan’s first issue ofbanknotes, 1260–1287. (The Bridgeman ArtLibrary)

See also: Leather Money

ReferencesHewitt, V., ed. 1995. The Banker’s Art.Polo, Marco. 1958. Travels of Marco Polo.

ANNOUNCEMENT EFFECT

Central banks publically announceintentions of maintaining a key policyinterest rate at a certain level called the“target rate.” The practice of announcingtargets is relatively recent, and repre-sents a sharp departure from the confi-dentiality and secretiveness that wasonce thought to be a necessary part ofmonetary policy and open market opera-tions. The “announcement effect” refersto a central bank’s ability to control a keyinterest rate merely by announcing itsintentions.

In the United States, the key policyinterest rate targeted by the central bankis the federal funds rate, and the centralbank is the Federal Reserve System. Thefederal funds rate is the interest rate atwhich commercial banks can borrowfunds from each other overnight. Thefederal funds rate reflects the markettightness for these funds. The FederalReserve can ease tightness in this mar-ket by purchasing U.S. governmentbonds, and can tighten this market byselling U.S. government securities. Buy-ing U.S. government securities injectsadditional funds into the banking sys-tem, allowing banks to increase lendingand enlarge the money supply in theprocess. Central bank purchases andsales of government securities are called“open market operations.” In the FederalReserve System, a policy-making groupcalled the Federal Open Market Com-mittee (FOMC) formulates the policyfor open market operations.

Until 1994, the Federal Reserve keptdirectives involving open market opera-tions a secret until 45 days after an FOMCmeeting, keeping current financial marketparticipants unaware of the FederalReserve’s policy stance at a given point intime. In 1976, the Federal Reserve suc-cessfully defended itself against aninquiry filed under the Freedom of Infor-mation Act to obtain copies of the min-utes of FOMC meetings without the45-day delay. Federal Reserve cited an“announcement effect” that might lead tovolatility and uncertainty in financial mar-kets, and maintained that secrecy was anecessary part of monetary policy.

On 4 February 1994, the FOMC,amidst a two-day meeting, announced thatit planned to apply slight pressure to com-mercial bank reserve positions, and thatshort-term interest rates could be expectedto rise, breaking the Federal Reserve’slong stance policy of secrecy in these mat-ters. It was an experiment in clearly com-municating policy decisions to financialmarkets, and using public announcementsas a method of communication. Theexperiment had none of the dire conse-quences that the Federal Reserve cited inits 1976 defense against a Freedom ofInformation inquiry. The practice of publi-cally announcing policy decisions and tar-gets became a standard part of centralbanking in the United States and innumerous other countries. What becameknown as the “announcement effect”enabled central banks to control a targetedinterest rate with fewer interventions inthe open market. It gave central banks theability to control a targeted interest ratemerely by announcing its intentions andtaking little or no immediate action.

See also: Federal Open Market Committee,Open Market Operations

Announcement Effect | 9

ReferencesBelongia, Michael T., and Kevin Kliesen.

“Effects on Interest Rates of ImmediatelyReleasing FOMC Directives.” Contempo-rary Economic Policy, vol. 12, no. 4:79–91.

Demiralp, Selva, and Oscar Jorda. “TheResponse of Term Rates to Fed Announce-ments.” Journal of Money, Credit, andBanking, vol. 36, no. 3 (June 2004, part 1):387–405.

ARGENTINE CURRENCYAND DEBT CRISIS

Between 2001 and 2002, Argentinaunderwent an episode of currency deval-uation and debt default that rocked inter-national financial markets and offeredfresh evidence of the varied economictrends that can lead to crises. TheArgentine crisis has been the topic ofwide discussion, partly because it wasborn of circumstances not normallyregarded as fertile ground for currencycrises. In the 1990s, Argentina boasted ofone of Latin America’s fastest growingeconomies and one of its staunches devo-tees to the gospel of free market reform.Part of the credit for economic prosperityseemed to lie with a successful monetaryreform that ended the hyperinflation ofthe 1980s. This monetary reform estab-lished a currency board that fixed thevalue of the Argentine peso at one peso toa U.S. dollar. One Argentine peso,exchangeable into dollars at any time,equaled one U.S. dollar. Argentine infla-tion subsided to low single-digit levels,output grew at a fast clip, and the econ-omy seemed resilient to external shocks.

The genesis of the crisis goes back to1998 when many of Argentina’s tradingpartners saw their currencies depreciate,

perhaps because of fallout to the EastAsian Crisis and the retreat of foreigncapital. The strong demand for U.S.financial assets keep the U.S. dollarstrong, which kept all currencies peggedto the dollar, including the Argentinepeso, strong. The strong Argentine pesomeant that Argentine exports went athigher prices in foreign markets, whileArgentine imports saw falling prices. Insummery, Argentina-produced goodsgrew costlier compared to goods pro-duced by Argentina’s major trading part-ners. Cheaper imports allowed Argentinato live beyond its means, while itsexports were over-priced in foreign mar-kets. To restore balance, Argentinaneeded to either devalue its currency asits trading partners had done, or undergodomestic deflation. Argentina did experi-ence some deflation, which is a charac-teristic that distinguishes the Argentinecrises from other crises. More often thesetypes of crises occur after governmentdeficits, financed by monetary growth,lead to inflation.

Government’s budget deficits weremodest, but were large enough to force agrowing reliance on foreign debt financ-ing. A small financial sector may sharethe blame for a dependence on foreigncapital to finance both private sector andpublic sector spending. The vulnerabilityof the system arose from the large shareof loans and mortgages denominated indollars while the income generated toservice these debts came in the form ofpesos. Once deflationary forces surfaced,output shrank, unemployment spiked,government deficits rose, and the gov-ernment proceeded to pile up foreigndebt. In December 2001, the governmentof Argentina defaulted on its public debt.

After more than three years of reces-sion, in January 2002, the Argentine

10 | Argentine Currency and Debt Crisis

government, running out of credit, deval-ued the peso relative to the dollar. At thetime, 70 percent of all Argentine bankdeposits and 79 percent of all loans weredenominated in dollars (Economist,March 8, 2003). To avoid throwing manydebtors into bankruptcy, the loans wereredenominated into pesos at a rate of onepeso per dollar, and the bank depositswere redenominated into pesos at the rateof 1.4 pesos per dollar. (Economist,March 8, 2003). The peso deposits quicklydropped in value as the peso plummeted toabout four pesos per dollar. The action de-dollarized the Argentine economy.

Devaluating the peso reduced the costof Argentine exports in the world econ-omy, making it possible for Argentina toearn foreign exchange and recover fromdeep recession. Foreign exchange is nec-essary to repay foreign debts.

By 2005, the Argentine economyexhibited a strong expansion, helped inpart by a worldwide commodity boom,and the government reported budget sur-pluses. The government offered theholders of defaulted bonds new bonds ina choice of four different currencies. Thevalue of the new bonds equaled about 30percent of the value of the defaultedbonds (Economist, January 15, 2005).Creditors fumed at the rough treatmentand predicted that Argentina would meetwith difficulty trying to regain the confi-dence of foreign investors.

See also: Currency Crises, Foreign Debt Crises

ReferencesEconomist. “The Americas: Defaulter of Last

Resort.” March 8, 2003, p. 56.Economist. The Americas: Grinding Them

Down; Argentina’s Debt, January 15,2005, p. 47.

International Monetary Fund, Policy Devel-opment and Review Department.“Lessons from the Crisis in Argentina.”October 8, 2003.

ASSIGNATS

See: Hyperinflation during the French Revolution

AUTOMATIC TRANSFERSERVICE (ATS)

See: Monetary Aggregates

AYR BANK

The Ayr Bank was a Scottish bank ofthe late 18th century that caused one ofthe most famous banking debacles inEuropean history. In part the bank owesits notoriety to Adam Smith, who, in the

Ayr Bank | 11

Hundreds of Argentines fearing hyper-inflationline up to buy dollars at exchange houses inBuenos Aires on March 21, 2002. Argentinadefaulted on its debt obligations in late Decem-ber and devalued its currency in January. (APPhoto/Daniel Luna)

Wealth of Nations, devoted a good bit ofspace to describing its story.

The Ayr Bank, more accurately calledthe firm of Douglas, Heron, and Com-pany, came into being in November1769. It was founded along the lines ofthe land bank schemes suggested by JohnLaw, but unlike Law’s schemes, it was apurely private initiative without officialbacking. As a copartnership, rather thanan incorporated business, its owners werefully liable for all the debts of the busi-ness. Its founders were landowners of thefirst order, one of whom, the Duke ofBuccleuch, had accompanied AdamSmith on a tour of Europe and had thebenefit of the famous economist’s advice.Land owned by the founders was the ulti-mate security for the bank’s notes.

The Ayr Bank burst on the scene whenthe Scottish economy was in a contrac-tion and many observers felt that a short-age of circulating money acted as a dragon the Scottish economy. According toSmith, writing in the Wealth of Nations:

This bank was more liberal than anyother had ever been, both in grantingcash discounts, and in discountingbills of exchange. With regard to thelatter, it seems to have made scarceany distinction between real andcirculating bills, but to have dis-counted all equally. It was theavowed principle of this bank toadvance, upon any real security, thewhole capital which was to beemployed in those improvements ofwhich returns are the most slow anddistant, such as the improvements toland. (Smith, 1952, 135)

The liberal lending policy of the bankled to a rapid expansion of bank notes,greater than what the bank’s resources

could support. The Ayr Bank expansionof credit found its way into speculationin real estate and the London stock mar-ket. Bank notes were redeemed withbills of exchange drawn on Londonbanks in amounts that exceeded thebank’s London resources. In 1772, aLondon-Scottish banking house withclose connections with the Ayr Bankfailed, and the Ayr Bank’s house of cardscollapsed. Scotland’s public banksrefused to grant credits to the failingbank. The bank was liquidated, and theincome from the land was pledged to theredemption of outstanding bank notes.The founders of the bank lost everything,some of whom were apparently unawarethat their liability was unlimited.

The failure of the Ayr Bank was prob-ably due more to mismanagement thanto faults in the land bank principle. Thebank may have actually spurred the eco-nomic development of Scotland, but itsfailure weakened public confidence inland-banking schemes, leaving gold andsilver as the most acceptable security forbank notes. The bank’s history showshow easily an expansion of bank notesleads to a speculative bubble that ends incollapse. History has continued to repeatitself, with Tokyo being the last scene ofa speculative bubble fed by overly gener-ous credit policy.

See also: Bank of Scotland, Free Banking, LandBank System, Scottish Banking Act of 1765

ReferencesCheckland, S. G. 1975. Scottish Banking

History: 1695–1973.Kroszner, Randy. 1995. Free Banking: The

Scottish Experience as a Model forEmerging Economies.

Smith, Adam. 1776/1952. An Inquiry into theNature and Causes of the Wealth ofNations.

12 | Ayr Bank

13

B

BALANCE OF PAYMENTS

The balance of payments for a countrysummarizes all the international transac-tions that involve either an outflow or aninflow of money. It is composed of threemajor elements: (1) the current account,(2) the capital account, and (3) the offi-cial reserves transactions account. Theofficial reserves transactions accountreflects the official transactions betweencentral banks that must occur when thecombined balance of the current andcapital accounts is in either the deficit orsurplus column.

Transactions that lead to an outflow ofmoney are registered as a debit in the bal-ance of payments, and are entered with anegative sign. Transactions that lead to aninflow of money are registered as acredit, and are entered with a plus sign.Imports of foreign goods cause an out-flow of money, entering with a negativesign in the balance of payments. Exportsof domestic goods to foreign buyers leadto an inflow of money, registering as acredit with a plus sign. The balance oftrade is total exports minus total imports.

A balance of trade deficit causes a netoutflow of money, and a surplus causes anet inflow of money. Income earnedfrom foreign investments, money trans-ferred between citizens of differentcountries, can also influence the balanceof payments. When these types of flowsare figured into the balance of trade, theoutcome is the balance on currentaccount.

Capital flows between countries showup in the balance of payments on the cap-ital account. When domestic investorspurchase financial or nonfinancial assetsin foreign countries, capital flows out,and money also flows out, registeringwith a negative sign on the balance ofpayments. When U.S. citizens purchasestock on the Tokyo stock exchange, dol-lars flow out, just as when U.S. citizenspurchase a Toyota. When foreigninvestors purchase financial or nonfinan-cial investments in the domestic econ-omy, capital flows in, and money flowsin, registering as a positive sign in thebalance of payments. The sale of U.S.government bonds to Japanese investorscauses dollars to flow into the United

States. If a domestic seller exports goodsabroad on credit, the sale of goods isentered as a plus sign in the balance ofpayments, and the grant of credit is a cap-ital outflow, entered with a negative sign.

Capital flows often offset imbalances inthe balance of trade, as can be observed inthe bilateral relationship between theUnited States and Japan. U.S. exports toJapan fall well short of U.S. imports fromJapan, contributing to a deficit on the bal-ance of trade, and an outflow of dollars. Inturn, Japan invests significantly in theUnited States, building factories, and pur-chasing real estate and U.S. governmentbonds. Japan earns dollars by sellinggoods in the United States, and investsthose dollars back in the United States,causing dollars to flow out on the currentaccount and flow in on the capital account.

If the outflow of money exceeds theinflow of money, the central banks mustsettle accounts by compensating adjust-ments in holdings of gold, foreignexchange, or other reserve assets. Anexcess of money outflow over moneyinflow will draw down the reserves ofthe domestic central bank, whereas anexcess of money inflow over money out-flow will build up reserves of the domes-tic central bank. An excess in the outflowof money leaves foreigners with a claimon domestic resources; excess in theinflow of money has the opposite effect.

Persistent deficits or surpluses on thecombined current and capital accountscause changes in the value of domesticcurrency in foreign exchange markets. Adeficit causes supplies of domestic cur-rency to build up in foreign exchangemarkets, and the domestic currency willlose value. As the currency loses value,imports become more expensive, andexports become cheaper in foreignmarkets. Together these forces will

remove the deficit. A surplus causesdomestic currency to gain value in for-eign exchange markets, making importscheaper and exports more expensive inforeign markets. These forces act toremove the surplus.

See also: Foreign Exchange Markets, Gold-Specie-Flow Mechanism

ReferencesAppleyard, Dennis R., and Alfred J. Field,

Jr. 1992. International Economics.Daniels, John D., and David Vanhoose. 1999.

International Monetary and FinancialMonetary Economics.

BANCO DEL PIAZZA DELRIALTO, IL

See: Bank of Venice

BANK

The term “bank” apparently owes its ori-gin to the bank (or bench) used by themoneychangers during the Middle Ages.Historically, some banks were calledbanks of deposit, and mainly helddeposits of foreign and domestic curren-cies and arranged payment in foreigntrade transactions. The Bank of Amster-dam was a bank of deposit.

Other banks created deposits that actedas a circulating medium of money in asociety. One of the earliest banks in thiscategory, the Bank of Venice, was formedwhen a group of the government’s credi-tors combined and began using govern-ment debt as a means of payment in trade.The famous merchant bankers, such asthe Rothschilds, acted largely as brokersmarketing government and corporatesecurities to wealthy patrons.

14 | Bank

Central banks are bankers’ banks, andthese banks trace their history from theBank of England. These banks buy gov-ernment debt, have a monopoly on theissuance of paper money, and often actas a lender of last resort to commercialbanks. In current times, the term “bank”refers to a commercial bank.

Commercial banks in modern capital-ist societies act as financial intermedi-aries, raising funds from depositors andlending the same funds to borrowers. Thedepositors’ claims against the bank, theirdeposits, are liquid, meaning banks areexpected to redeem deposits on demand,instantly. Banks’ claims against their borrowers are much less liquid, givingborrowers a much longer span of time torepay money owed banks. Because abank cannot immediately reclaim moneylent to borrowers, it may face bankruptcyif all its depositors simultaneously with-draw all their money. Protecting banksand bank customers from bank failures ofthis sort is the aim of much governmentbanking regulation.

The principle of fractional reservebanking lies at the heart of the moderncommercial banking system. During agiven period of time a bank will receivefresh deposits while existing deposits arewithdrawn. Normally the fresh depositsand the withdrawn deposits cancel eachother out. Despite daily deposits and with-drawals, a bank maintains an average levelof deposits that represents funds the bankcan largely keep loaned out. For safety,banks hold back a certain fraction ofdeposits, called “reserves” (thus fractionalreserve banking) to cover themselves overperiods of time when withdrawn depositsexceed fresh deposits. Because thesereserves earn no interest, banks aretempted to cut the margin of reserves a bitthin. If adequate, these reserves enable a

bank to weather a crisis of confidencewhen masses of people suddenly with-draw deposits out of fear.

When a bank fails, the bank’s cus-tomers, the depositors, suffer as much ormore than the bank’s owners. Thismakes the banking industry an excellentcandidate for government regulation.Bank lending policy can also aggravatethe business cycle. During an economicdownswing, banks can become overlycautious, restricting the availability ofloans and sending the economy into asteeper downward spiral. On theupswing, however, banks lose their cau-tion, generously granting loans and pro-pelling the economy into an inflationaryboom. Government regulation strives toprotect bank depositors from bank fail-ures and to encourage banks to become astabilizing force in the economy.

See also: Bank of Amsterdam, Bank of England,Bank of Venice, Central Bank, DepositoryInstitution Deregulation and Monetary Con-trol Act of 1980, Goldsmith Bankers,Glass–Steagall Banking Act, Medici Bank,Swiss Banks, Wildcat Banks, World Bank

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets: An Economics Approach.

Richards, R. D. 1929/1965. The Early His-tory of Banking in England.

BANK CHARTER ACT OF1833 (ENGLAND)

With passage of the Bank Charter Act of1833, Parliament renewed the Bank ofEngland’s charter until 1855. The actalso included provisions thatstrengthened the bank as the prime note-issuing institution in England, an impor-tant step toward giving a single

Bank Charter Act of 1833 (England) | 15

institution a monopoly on the privilegeof issuing bank notes (paper money).

In 1832, Parliament formed a com-mittee of inquiry to look at variousissues from all sides, including the Bankof England’s monopoly on joint-stockbanking within 65 miles of London. Thelaw forbade incorporated banks withmore than six shareholders from engag-ing in London’s banking business. Otherjoint-stock banks wanted to enter theLondon market, and existing law seemedto suggest that other banks were free toset up business in London as along asthey did not issue bank notes. The Bankof England hotly contested this view-point, and Parliament made timely use ofthe expiration of the Bank of England’scharter to review the matter.

One outcome of the inquiry was arecommendation that did not make itinto the law, but nevertheless repre-sented an important principle. HorselyPalmer, governor of the bank, formu-lated the principle that all demanddeposits and bank notes, that is “all lia-bilities to pay on demand,” should bebacked by gold reserves equaling one-third of such liabilities. The remainingtwo-thirds could be invested in securi-ties. The gold reserves were necessaryto ensure the convertibility of banknotes and other bank liabilities. Parlia-ment failed to act on Palmer’s recom-mendation, but the quantification of areserve policy remained an importantissue in banking.

One provision of the act stated “thatany Body Politic . . . consisting of morethan six persons may carry on the Tradeof Business of Banking in London, orwithin sixty five miles thereof providedthey did not issue notes.” The forbiddennotes were notes payable on demand orwithin less than six months. Other banks

could open for business in London, butthe Bank of England held a monopoly onthe privilege of issuing bank notes.

The act also made Bank of Englandnotes for more than £5 legal tender inEngland and Wales but not in Scotlandand Ireland. These notes were legal ten-der everywhere except at the Bank ofEngland. This provision enabled countrybanks to hold Bank of England notes asreserves in lieu of gold, reducing thedrain on gold reserves in times of con-traction, and centralizing gold reservesin the vault of the Bank of England.

Another important provision lifted the5 percent usury ceiling on bills ofexchange payable within three months.This provision was the beginning of thefamed “bank rate” that became a power-ful policy instrument for the Bank ofEngland. If gold began to flow out,threatening England’s gold reserves, thebank raised the bank rate, attractingfunds from abroad and ending the out-flow.

With the Bank of England’s growingpower came responsibility for public dis-closure of activities. The act required theBank of England to begin sendingweekly statistics on notes issues and bul-lion reserves to the treasury, and monthlysummaries were to be published in theLondon Gazette.

The Act of 1833 was important in thehistory of money because it made Bankof England notes legal tender duringpeace time, it effectively made the Bankof England the custodian of England’sgold reserves, and it gave the Bank ofEngland the bank rate with which to con-trol the inflow and outflow of gold. It laidin place principles fundamental to theoperation of England’s 19th-century goldstandard, a standard that ruled the mone-tary world by the end of the century.

16 | Bank Charter Act of 1833 (England)

See also: Bank Charter Act of 1844, Bank ofEngland, Central Bank

ReferencesChown, John F. 1994. A History of Money.Roberts, Richard, ed. 1995. The Bank of

England: Money, Power, and Influence,1694–1994.

BANK CHARTER ACT OF1844 (ENGLAND)

The English Bank Charter Act of 1844represents an important step in the evo-lution of the Bank of England as a cen-tral bank with a monopoly on theissuance of bank notes (paper money),one of the defining characteristics of acentral bank. Today all moderneconomies have central banks with amonopoly on the issuance of bank notes,the Federal Reserve System in theUnited States being a good example. Inthe early 1800s a multitude of commer-cial banks issued their own bank notes inEngland, France, the United States, andother countries.

Sir Robert Peel, who was prime min-ister when Parliament passed the BankCharter Act of 1844, shared with thefamous economist David Ricardo theview that the issuance of currency shouldbe a government monopoly with theprofits accruing to the government. Peelconsidered establishing a new system ofcurrency, with a board independent ofgovernment but responsible to Parlia-ment, charged with the issue of paper,convertible into gold, and valid as legaltender. In reality, Peel chose a moremoderate course that made use of exist-ing institutions. Important provisions inthe Bank Charter Act are paraphrased asfollows:

1. The note issuing department of theBank of England became separateand distinct from other depart-ments. The bank removed it to adifferent building.

2. The Bank of England was requiredto hold gold bullion equal in valueto the volume of its bank notesissued in excess of £14 million.The government debt secured mostof the first £14 million.

3. The Bank of England was requiredto stand ready to redeem its banknotes into gold at the rate of £317/9 (3 pounds, 17 shillings, and 9pence) per ounce of gold.

4. The creation of new banks with theprivilege to issue bank notes wasprohibited.

5. Banks currently issuing bank notescontinued to issue notes as long astheir total notes in circulationnever exceeded their average forthe 12 weeks preceding April 27,1844.

6. If a bank became insolvent, it lostthe right to issue bank notes.

7. If a bank stopped issuing notes forany reason, it could never again putnotes into circulation.

8. If two or more banks combined andended up with more than six part-ners, the new bank could not issuebank notes.

9. The Bank of England was allowedto issue new bank notes backed bysecurities up to two-thirds of thevalue of discontinued country banknotes.

The act had the desired effect. Theissuance of bank notes gradually becamethe exclusive privilege of the Bank of

Bank Charter Act of 1844 (England) | 17

England, which by World War I had madeits monopoly complete. By monopolizingthe issuance of paper money, the Bank ofEngland was able to limit the money sup-ply, helping to maintain its value, which isequivalent to avoiding inflation. The acthelped bring stable prices, but its restric-tions on the issuance of bank notes ham-pered the Bank of England’s ability to actas a lender of last resort.

The government was forced to suspendthe convertibility of Bank of England notesinto gold during major financial crises. Thefinancial crises of 1847, 1857, and 1866 allsaw suspensions of convertibility.

The Bank of France has enjoyed amonopoly on the issuance of bank notessince 1848, and the Federal ReserveSystem, established in 1914, has alwayshad a monopoly on the issuance of banknotes. With the demise of the gold stan-dard in the 1930s, the practice of main-taining the convertibility of bank notesinto gold disappeared, giving central

banks more freedom to inject liquidityinto a financial system during a crisis.

See also: Bank Charter Act of 1833, Bank ofEngland, Central Bank

ReferencesDavies, Glyn. 1994. A History of Money.Powell, Ellis. 1915/1966. The Evolution of

the Money Market: 1385–1915.Roberts, Richard, ed. 1995. The Bank of

England: Money, Power, and Influence,1694–1994.

BANK CLEARINGHOUSES(UNITED STATES)

In the United States, bank clearinghousespartially fulfilled the functions of a cen-tral bank before the establishment of theFederal Reserve System. Bank clearing-houses facilitated interbank settlement ofaccounts, a necessary part of check clear-ing processes. Also, during financialcrises, when currency and coin werescarce, bank clearinghouses issued cer-tificates representing claims on bankassets. These certificates replaced cash inthe interbank settlement of accounts andinfused additional liquidity into the bank-ing system, allowing banks to survive theoutflow of currency and coin typical offinancial crises. On rare occasions thesecertificates circulated as currency.

New York City banks established thefirst clearinghouse in 1853. Two yearslater, the concept spread to Boston, andsoon all the nation’s largest cities hadbank clearinghouses. The New Yorkclearinghouse remained the most impor-tant because of New York’s (WallStreet’s) strategic role as the financialnerve center of the United States.

Under a bank clearinghouse system,an individual bank, Bank A, presents all

18 | Bank Clearinghouses (United States)

Robert Peel, prime minister of Great Britainfrom 1834 to 1846. (Library of Congress)

its claims against other banks (depositedchecks written on other banks) to theclearinghouse each day. The clearing-house credits Bank A’s clearinghouseaccount accordingly. All other banks thathave received deposits of checks writtenon Bank A will take these checks to theclearinghouse also, and Bank A will findits clearinghouse account debited to payfor these checks. Whatever discrepancyexists between debits and credits is set-tled with cash. The clearinghouse systemsubstantially reduces the amount of cashthat changes hands in the check clearingprocess.

Banks operate on the principle that,despite daily withdrawals and newdeposits, the average level of depositsat a bank remains steady during normalbusiness conditions, and thereforebanks can keep the vast proportion (80to 95 percent) of customer depositsloaned out. Banks keep reserves, suchas vault cash, for those periods of timewhen withdrawals exceed newdeposits. Sound banks, however, oftenfell prey to their own success by loan-ing out too much of depositors’ moneyand coming up short of reserves toredeem deposits during a financial cri-sis. Bank clearinghouses help banksresist the temptation to overextendloans by forcing banks to speedilyhonor checks written on their accounts.Also, the New York clearinghouserequired weekly reports from associ-ated banks showing customer deposits,assets, and reserves.

The New York clearinghouse issuedcertificates against bank assets to substi-tute for cash in interbank settlements dur-ing financial crises when acceleratedwithdrawals of deposits often left bankswithout cash reserves. The clearinghouseissued certificates against a bank’s assets

when a bank put up 100 percent collateraleither in bonds, or short-term commercialloans rated at 75 percent of face value. Ina financial crisis, a bank experiencing adrain on reserves could use certificates tosettle with the clearinghouse. The use ofclearinghouse certificates was not legallysanctioned until 1908, but certificateshelped ease the strain in every financialcrisis from 1873 until 1914. The clear-inghouse was essentially serving as alender of last resort, one of the importantfunctions of a central bank.

Although clearinghouses werestrictly private organizations, acting onprivate rather than public initiatives,they met some of the regulatory needs ofthe banking system before the UnitedStates turned to central banking in 1914with the establishment of the FederalReserve System.

See also: Central Bank, Federal Reserve Sys-tem, National Bank Act of 1864

ReferencesGorton, Gary. 1984. Clearinghouses and the

Origin of Central Banking in the U.S.Hepburn, A. Barton. 1924/1967. A History of

Currency in the United States.Myers, Margaret G. 1970. A Financial His-

tory of the United States.

BANK FORINTERNATIONALSETTLEMENTS

The Bank for International Settlements(BIS) acts as a bank for central banks,holding deposits of and providing abroad array of services to central banks.It accepts deposits in currencies andgold, mostly from central banks. By June1994, 100 central banks kept deposits atthe BIS (Siegman, 1994). Central banks

Bank for International Settlements | 19

can borrow from the BIS. Money marketinvestments account for a large share ofBIS assets.

The BIS has also grown into animportant forum for facilitating interna-tional monetary cooperation, consulta-tion, and exchange of informationbetween central banks. The BIS con-ducts research on monetary, economic,and financial issues and serves as agentor trustee for international financial set-tlements. The bank is headquartered inBasel, Switzerland.

The BIS was established in 1930 tohandle the coordination of Germany’sWorld War I reparation payments. Theterm “settlements” came from the roleof war reparations in its original mis-sion. Aside from the temporary issue ofwar reparations, the bank’s primaryobjective from the beginning lay inpromoting cooperation among centralbanks and providing added facilities forinternational financial operations.

At its inception, the central banks inEurope and the United States wereinvited to purchase a share of the totalcapital subscription of BIS. The UnitedStates elected not to subscribe to itsshare, and the Bank of France and theNational Bank of Belgium purchasedonly a portion of the issues representingtheir share. J.P. Morgan and Company,the First National Bank of New York,and the First National Bank of Chicagopurchased the U.S. part of the capitalsubscription. Private investors also pur-chased shares originally intended forthe Bank of France and the NationalBank of Belgium. In 2008, centralbanks owned 100 percent of BIS stock(www.bis.org).

The United States was slow to rec-ognize BIS as a necessary and usefulpart of the international monetary

order. The United States abstainedfrom participating in the BIS capitalsubscription on the grounds that Germanwar reparations was strictly a Europeanissue. During World War II, the UnitedStates government supported proposalsto liquidate the BIS. After the war, theUnited States played a large role in cre-ating two new international financialinstitutions, the International MonetaryFund and the World Bank. The UnitedStates had no interest in a financialinstitution that could be a potentialrival to these new organizations. Afterthe BIS played a positive role in theimplementation of the Marshall Plan,the United States began to accept theBIS as a legitimate institution in thenew international monetary system. Itwas not until 1994 that the FederalReserve System became a member cen-tral bank of the BIS and accepted posi-tions on the board of directors. Both thechair of the board of governors of theFederal Reserve System and the presi-dent of the New York Federal Reservesit on the board of directors.

Fifty-five central banks from aroundthe world are now member banks of theBIS (www.bis.org). Central bank offi-cials hold monthly meetings in Baselhosted by the BIS. Coordinated interestrate cuts by several central banks haveoccurred within a few days of thesemeetings.

See also: Central Bank

ReferencesBradsher, Keith. “Obscure Global Bank

Moves into the Light.” New York Times,August 5, 1995, p. A31.

Siegman, Charles J. “The Bank of Interna-tional Settlements and the FederalReserve.” Federal Reserve Bulletin, vol.80 no. 10 (October 1994): 900–906.

20 | Bank for International Settlements

BANKING ACTS OF 1826(ENGLAND)

The Banking Acts of 1826 banned theissuance of bank notes of less than £5 andended the Bank of England’s 100-yearmonopoly on joint-stock banking. OnMarch 22, 1826, the act put an end to notesof less than £5 and required the redemptionof the smaller notes by April 5, 1829.Apparently the number of people hangedfor the capital offense of forging notes,even small ones, was one thing that movedParliament to act. Scotland, where £1 noteswere highly popular, was exempted fromthe act. Before the act passed Parliament,the eminent author Sir Walter Scott hadwritten letters to the Edinburgh WeeklyJournal that ridiculed the abolition ofsmall notes in Scotland. Another promi-nent Scot, Adam Smith, in the Wealth ofNations, had argued against the issuance ofsmall notes in 1776, observing:

Where the issuing of bank notes forsuch very small sums is allowed andcommonly practiced, many meanpeople are both enabled and encour-aged to become bankers. A personwhose promissory note for fivepounds, or even for twenty shillings,would be rejected by everybody,will get it to be received withoutscruple when it is issued for so smalla sum as sixpence. But the frequentbankruptcies to which such beggarlybankers must be liable may occasiona very considerable inconveniency,and sometimes a very great calamityto many poor people who hadreceived their notes in payment.(Smith, 1952, 139)

Arguments in favor of small notes citedthe conservation of precious metal

reserves when precious metal was nolonger needed as a circulating medium.Scotland continued to circulate £1notes throughout the 19th century,while Britain relied on the gold sover-eign coin to circulate as the £1 piece.Subsidiary silver coinage graduallyreplaced the role played by the smallnotes.

The act of May 26, 1826, ended theBank of England’s monopoly on joint-stock banking. In addition to giving theBank of England a monopoly on joint-stock banking, an act of 1707 had prohib-ited banking partnerships with more thansix members from engaging in the bank-ing business. Small-scale partnershipsdominated English banking in the coun-tryside, while the Bank of Englandenjoyed a preeminent position within aradius of 65 miles around London. Joint-stock banks were organized as moderncorporations, affording the owners (stock-holders) the protection of limited liability.Unlike corporations, partnership banks, inthe event of bankruptcy, exposed all thepersonal assets of partners to the demandsof creditors. Scotland had pioneered theproliferation of joint-stock banking, butEngland had tended to reserve to theBank of England the exclusive privilegeof joint-stock banking.

The act of 1826 preserved the Bank ofEngland’s monopoly on joint-stockbanking within a 65-mile radius of thecenter of London, but outside the Lon-don area it authorized the establishmentof note-issuing banking corporationswith an unlimited number of partners. Tocompensate for its loss of privilege, theBank of England was authorized to setup branches anywhere in England orWales. The Bank of England promptlyopened branches in major cities, and fora while England flirted with the Scottish

Banking Acts of 1826 (England) | 21

system of banking that emphasized com-petition between note-issuing incorpo-rated banks. The Banking Act of 1833,however, made the Bank of England’snotes legal tender, and the Bank CharterAct of 1844 marked a sharp shift towarda policy of concentrating note-issuingauthority with the Bank of England.

See also: Bank of England, Free Banking, Scot-tish Banking Act of 1765

ReferencesCheckland, S. G. 1975. Scottish Banking

History: 1695–1973.Davies, Glyn. 1994. A History of Money.Richards, R. D. 1929/1965. The Early His-

tory of Banking in England.

BANKING ANDCURRENCY CRISIS

OF ECUADOR

In 1999 and early 2000, Ecuador experi-enced a banking and currency crisis thatled to the dollarization of Ecuador’seconomy. In 1999, Ecuador defaulted on$13.6 billion in foreign debt (Wall StreetJournal, March 31, 2000). A banking cri-sis drove the government to take controlof 70 percent of the country’s bankingsector and to freeze deposits. By March2000, 41.3 percent of the banking sys-tem’s loans were nonperforming. It isestimated that within little more than ayear’s time Ecuador’s per capital grossdomestic product (GDP), measured indollars, fell by 41 percent. BetweenDecember 1998 and March 2000,Ecuador’s currency, the sucre, lost 74 percent of its value against the dollar(Wall Street Journal, March 31, 2000).The political sphere mirrored the chaos inthe economic sphere. When Gustavo

Noboa ascended to the presidency in Jan-uary 2000, he became the sixth presidentin six years. In 1997, Ecuador’s Congressforced out President Abdala Bucaramafter deeming him mentally unfit.

Ecuador owed the beginnings of itseconomic problems to a 1995 border warwith Peru, the El Niño weather phenom-enon, and weak commodity prices. Crit-ics laid much of the blame at the feet ofan incompetent finance ministry and cen-tral bank. In 1999, Ecuador’s centralbank fueled the crisis by extending loansto shaky banks. A contributing factormay have been an overall climate of cor-ruption. A survey of internationalinvestors ranked Ecuador among theworld’s worst performers when it came to“rule of law.” Compiled in 1999 by Polit-ical Risk Services, based in Syracuse,New York, the survey covered issues suchas quality of bureaucracy, political cor-ruption, probability of government repu-diation of debts or expropriation ofproperty. Germany’s Transparency Inter-national put Ecuador at 82 out of 99 countries rated for corruption (Wall Street Journal, March 31, 2000).

Low oil prices diminished foreignexchange earnings and tax revenue. By1999, government borrowing ran about 7 percent of GDP, and the currentaccount deficit about 9.6 percent of GDP.Inflation stood at 43 percent in 1998(Economist, March 6, 1999). In 1999,inflation climbed further to 60.7 percent(BusinessWeek, January 24, 2000.).Ecuador’s congress rebuffed proposalsto raise taxes. Discontent festered fromall sides. Teachers went on strike for amonth, angry over pay freezes, and elec-tricity workers suspended maintenanceto protest cuts in severance pay.

In January 2000, Ecuador’s currencywithin a week plunged 20 percent

22 | Banking and Currency Crisis of Ecuador

against the U.S. dollar. Thousands ofEcuadorians took to the streets inprotest, prompting President JamilMahuad to call a state of emergency. Itwas the fourth time in a year that thegovernment had sent heavily armed riotpolice to the streets. Since the govern-ment had let the sucre float in February1999, it steadily lost value against thedollar. On January 10, 2000, it traded at24,750 sucres to the dollar (Wall StreetJournal, January 11, 2000).

President Mahuad met the currencycrisis with a plan for complete dollariza-tion of Ecuador’s economy. A new law,the Trolley-Buss Law, stated that all papersucre would be exchanged for dollars at arate of 25,000 sucre per dollar. U.S.dollars displaced the Ecuadorian currencyas the circulating currency except forsmall denomination coinage, whichwould still circulate in the form of sucre.

Dollarization was a bold and unex-pected policy move. President Mahuaddid not survive the crisis, but his succes-sor, President Gustavo Noboa, enjoyed alonger tenure as economic stabilityreturned to Ecuador. Rising oil pricesalong with dollarization put an end to thecrisis. By 2001, Ecuador saw inflationrates in single-digit territory, and GDPgrowth among the fastest in Latin Amer-ica (Economist, September 15, 2001).

See also: Dollarization

ReferencesBusinessWeek Online. “Did the IMF Drop

the Ball in Ecuador?” January 24, 2000.Hanke, Steve H. “The Americas: Ecuador

Needs More Than a Dollars-for-SucresExchange.” Wall Street Journal (EasternEdition, New York) March 31, 2000, p. A19.

“The Furies Wait.” Economist, March 6,1999, pp. 34–36.

Banking and Currency Crisis of Ecuador | 23

Workers march through the streets of Quito, Ecuador to protest President Jamil Mahuad’srecent austerity measures, February 5, 1999. The march was part of a larger nationalprotest, which occurred on Friday and left the country semi-paralyzed. (AP Photo/DoloresOchoa)

“Squandering an Unlikely Recovery.” Econ-omist, September 15, 2001, p. 32.

Vogel, Thomas T. Jr., and Michael M.Phillips. “Ecuador Leader Pegs His Politi-cal Survival to the Dollar—Currency PlanFollows Plunge and Rising Protests.” WallStreet Journal (Eastern Edition, NewYork), January 11, 2000, p. A18.

BANKING CRISES

Banking crises involve exhaustion of allor nearly all of the capital held in thebanking system and usually include apanicky run on bank deposits. As infla-tion rates worldwide began to subsidein the 1990s, another form of financialdisruption began to occur with risingfrequency and severity—the bankingcrisis. In particular, Latin America,which had tamed several episodes ofrunaway inflation in the 1980s, saw anoutbreak of banking crises. AlthoughLatin America and the Caribbean seemsto have borne a disproportionate shareof banking crises for countries of simi-lar stages of development, other parts ofthe world have also seen banking crises.Between 1994 and 2003, banking crisesoccurred in 30 different countries, aver-aged a length of 3.7 years, and cost theafflicted countries about 17 percent ofgross domestic product (GDP)(Carstens, Hardy, Pazarbasioglu, 2004).Of the 30 banking crises, 23 occurred inwhat are called emerging market coun-tries, which are considered less devel-oped than the developed countries. Theremaining seven banking crisesoccurred in the developed countries.Banking crises often occur in concur-rence with currency crises, but notalways. Of the 30 banking crises, 19coincided with currency crises. Included

in the 30 banking crises are crises inArgentina (1995, 2001), Bolivia (1994),Brazil (1994), Columbia (1999),Dominican Republic (2003), Ecuador(1996, 1998), Haiti (1994), Jamaica(1995), Mexico (1994), Nicaragua(2000), Paraguay (1995), Uruguay(2001), and Venezuela (1994).

Some of the country-specific riskfactors associated with a high incidenceof banking crises include low savingsrates, very limited long-term financialrelationships, excessive reliance onexternal financing, high interest ratespreads, dollarization, and a publicsector burdened with heavy debt. Thecountry risk factors are much morecombustible when deeper problemsexist with trust in the financial system.A history of substantially negative realinterest rates, real currency deprecia-tions, weak accounting and creditorrights, disincentives to save, and freez-ing and unfreezing bank accounts,undercut trust in the financial system,making fertile ground for sparking abanking crises. When these conditionsexist, deposit withdrawals quicklyinduce a credit contraction, starvingfirms of working capital and invest-ment, sending the economy and thebanking sector deeper into crisis. Usu-ally a combination of bad banking prac-tices and bad macroeconomic policiestrigger the crises. A sharp fall in thedemand for a key export can causedomestic currency to lose value, imme-diately enlarging the real amount of for-eign debt. If banks have borrowedforeign capital, currency depreciationcan render them insolvent.

The crises can be contagious to othercountries linked by geography or trade.Uruguay’s banking crisis of 2001 partlyreflected the banking crisis in Argentina,

24 | Banking Crises

which caused Argentines to start a masswithdrawal of cash from their Uruguaybank accounts. Contagious and spillovereffects of a banking crisis in one countrymay operate through a mere reassess-ment of expectations on the part of for-eign investors, darkening investoroutlooks in other countries at similarstages of development and with similarindustries.

In Latin America, banking crises haveoften been preceded by a boom in creditto consumers and businesses; wholesaleliberalization without a politically inde-pendent, effective regulatory frameworkfor banking; and high bank holdings ofsovereign government debt.

See also: Banking and Currency Crisis ofEcuador, Troubled Asset Relief Program

ReferencesCarstens, Agustin, Daniel Hardy, and Ceyla

Pazarbasioglu. “Avoiding Banking Crisesin Latin America.” Finance & Develop-ment (September 2004): 30–33.

Hoelscher, David, and Marc Quintyn. “Man-aging Systemic Banking Crises.” IMFOccasional Paper 224, 2003.

BANKING SCHOOL

Between 1819 and 1844, England wasthe battleground of one of the mostimportant monetary controversies in his-tory: the debate between the bankingschool and the currency school. Theresumption of specie payments follow-ing the Napoleonic Wars had not sparedEngland the trauma of periodic financialcrises. Financial crises in 1825, 1833,and 1839 became thought-provokinggrist for the monetary debating mill.

The currency school found the answerto England’s financial turbulence in

tighter linkages between domesticmoney supplies (defined as gold specieand paper money) and domestic goldsupplies that varied with the import andexport of gold.

The banking school saw domesticmoney supplies as a much more passiveplayer in the drama of economic boomand crisis, and argued that the currencyschool’s definition of money supplieswas narrow and unrealistic. To the bank-ing school a more workable definition ofdomestic money supplies would, in addi-tion to specie and paper money, includebank deposits and bills of exchange.Banks supplied these forms of money tomeet the needs of trade. Part of the think-ing of the banking school hinged on the“law of reflux,” stating that every banknote or deposit issued on a loan was can-celed when the loan was repaid. The“law of reflux,” was akin to the “realbills doctrine,” of a similar vintage.

The banking school felt it was unreal-istic to attribute a close linkage betweenprices (inflation) and money supplies asnarrowly conceived by the currencyschool, given the obvious importance ofother types of money. The bankingschool further doubted if circulatingdomestic money supplies, even if totallymetallic, would fluctuate in step withinternational gold flows as the currencyschool predicted. Rather than alteringcirculating money supplies, internationalgold flows might only lead to hoardingand dishoarding gold, especially withinthe banking community.

At the time of the debate between thebanking school and the currency school,hundreds of banks issued their own banknotes. The banking school essentiallydefended the status quo, arguing that reg-ulating the issuance of bank notes shouldbe left to the wisdom of commercial

Banking School | 25

bankers, subject to the requirement ofconvertibility. Left to their own discre-tion, the bankers would provide an elasticcurrency able to expand and contract tomeet the needs of trade.

The Bank Charter Act of 1844 largelyfollowed the recommendations of thecurrency school, especially in layinggroundwork for monopolization of banknote issues by the Bank of England.Nevertheless, consistent with the think-ing of the banking school, the act gavethe Bank of England some discretion toexpand and contract bank notes inde-pendently of gold flows.

See also: Currency School, Inconvertible PaperStandard, Real Bills Doctrine

ReferencesChown, John F. 1994. A History of Money.Spiegel, Henry William. 1971. The Growth

of Economic Thought.

BANK OF AMSTERDAM

The Bank of Amsterdam, established in1609, rose to become a major hub ofworld monetary affairs in the 17th and18th centuries. As a so-called bank ofdeposit, the Bank of Amsterdam hardlyresembled anything we now call a bank.It rarely even made loans, with theexception of loans to Dutch municipali-ties and to the Dutch East India Com-pany. The bank held deposits of majorcurrencies and facilitated payment inforeign trade transactions.

The models for the Bank of Amster-dam were banks in the small Italian city-states of Venice and Genoa, where thecirculating money consisted of a medleyof currencies issued by home govern-ments and neighboring states. Currencythat flowed into these areas from trading

partners was often clipped and worn,creating uncertainty about the value offoreign bills of exchange paid in thesecurrencies. To remove this uncertainty,these small city-states required that for-eign bills of exchange above a certainamount be paid in transfers betweenaccounts in a bank rather than in domes-tic currency. Special banks enjoying fullgovernment backing were established tohandle these transactions.

Before 1609, the prevalence of wornand clipped coins had depreciated thevalue of Amsterdam’s currency by 9 per-cent below the value of currency freshfrom the mint. With Amsterdam’s mer-chants running short of good money topay bills of exchange, the governmentcreated the Bank of Amsterdam as ameans of providing a currency of uni-form value. The bank was a bank ofdeposit, accepting deposits of currenciesat face value, foreign or domestic, worn,clipped, or freshly minted. Depositorspaid a small recoinage and managementfee deducted from each deposit. The bal-ance on a depositor’s account constituteda form of money called “money ofaccount” or “bank money,” and it neversuffered any kind of debasement. Itsvalue remained the same as if it werefresh from the mint. Along with theestablishment of the bank came the legalrequirement that foreign bills ofexchange drawn on Amsterdam, equal toor greater than 600 guilders, be drawnfor payment in bank money.

The Bank of Amsterdam also tookdeposits of bullion, giving each customera receipt valued in bank money for adeposit of bullion, and crediting the cus-tomer’s account of bank money in anamount equal to the value of the bulliondeposit. The receipt entitled the cus-tomer to buy back the bullion with bank

26 | Bank of Amsterdam

money at the price stated on the receipt.The customer paid a modest fee to thebank for storage of the bullion, and if thecustomer defaulted on the storage fee,the bank took possession of the bullionand sold it as part of the bank’s profit.The bank money was much more con-venient to handle than bullion and just asgood in the eyes of European bankers.Vast deposits of coin and bullion madethe Bank of Amsterdam an importantholder of the reserves of the Europeanmonetary system, putting the bank in aposition to play a regulatory role.

Because the Bank of Amsterdam wasnot a lending institution, it stored all thecurrency and bullion deposited with it inreadiness to redeem its outstanding bankmoney. Bank money was superior to cur-rency, and merchants were willing to paya premium for it, enabling the bank toearn income by selling its bank money ata premium.

In the 1780s, wartime difficultiesforced the bank to underwrite loans tomerchants in difficulty, and the bank sawits reserves drop substantially relative tothe deposits of bank money owed to thepublic. The public turned cautious, andwhen the French invaded in 1795, cau-tion turned to panic. Unable to redeemall the deposits of coins and bullion, thebank closed down. In 1802, a forced loanallowed the bank to reopen its doors, butit was not successful; in 1820, the Bankof Amsterdam was liquidated.

See also: Bank of Deposit, Bank of Venice,Bills of Exchange, House of St. George

ReferencesBraudel, Fernand. 1984. Civilization and

Capitalism. Vol. III.Davies, Glyn. 1994. A History of Money.Israel, Jonathan I. 1989. Dutch Primacy in

World Trade: 1585–1740.

Smith, Adam. 1776/1952. An Inquiry into theNature and Causes of the Wealth ofNations.

Van Houte, J. A. 1977. An Economic Historyof the Low Countries: 800–1800.

BANK OF DEPOSIT

From the 15th through the 18th cen-turies, banks of deposit flourished inEuropean cities with heavy traffic ininternational trade. Banks of depositaccepted deposits of domestic and for-eign currency and held them as 100 per-cent reserves, as opposed to using thedeposits to finance loans. This policy ofretaining possession of the depositsmaximized the safety of depositors’money. Records of each merchant’sdeposits were kept in account books,and funds were shifted from one depos-itor’s account to another’s account with-out coinage leaving the bank. Thesedeposits constituted so-called bankmoney, which is a form of money thatchanges ownership by bookkeepingentries, without any coinage or receiptschanging hands. This bank moneybecame the principle circulatingmedium in commercial transactions.

When Italian banks of deposit firstemerged in the 14th century, theyrequired the payer and the payee toappear in person to transfer money in thebank’s account books from one accountto another. Later, it became possible forthe payer and payee to meet elsewhere ifa notary was present. In 1494, Fra LucaPacioli, a Renaissance mathematicianand friend of Leonardo da Vinci, pub-lished a book famous for including thefirst written treatment of double-entrybookkeeping. In the tract on double-entry bookkeeping, he gave the followingdescription of banks of deposits:

Bank of Deposit | 27

It is common practice to dealdirectly with a transfer bank,where you can deposit your moneyfor greater security or for the pur-pose of making your daily pay-ments to Piero, Giovanni, andMaratino through the bank,because the registration of thetransferred claim is as authoritativeas a notarial instrument since it isbacked by the government . . .Now suppose you are a banker . . .performing a transfer: If your cred-itor, without withdrawing cash,orders payment to another party, inyour journal you debit that deposi-tor and credit the assignee. Thusyou make a transfer from one cred-itor to another, while you yourselfremain debtor. Here you functionas an intermediary, a witness andagent of the parties and you justlyreceive a commission. (Lane &Mueller, 1997, 5)

Adam Smith, in a famous digression inthe Wealth of Nations (1776), describedthe class of banks called “banks ofdeposit.” He identified the banks ofVenice, Genoa, Amsterdam, Hamburg,and Nuremberg as institutions founded asbanks of deposit. According to Smith, thecurrency of small states was made upalmost exclusively of the coinage ofneighboring states, leaving a small statevirtually no control over the quality of itscirculating medium. These foreign cur-rencies, becoming worn and clipped,traded at a discount in foreign exchangemarkets, acting as a hindrance to mer-chants in the small states. Because smallstates could not reform domestic curren-cies, which was mostly foreign, theyestablished public deposit banks as a sub-stitute. Banks of deposit accepted

deposits of all currency, new and worn,and exacted a discount of perhaps 5 percentfor currency depreciation from wear andtear. The government of the state guaran-teed the value of the bank deposits. Thesedeposits, which changed ownership onlyby means of bookkeeping entries in thebank, represented a uniform quality and,for that reason, often traded at a premiumover metallic coinage. According toSmith, the premium on the bank money ofthe Bank of Hamburg was 14 percent overthe clipped, worn, and otherwise dimin-ished currency that poured in from sur-rounding states.

Aside from the state’s commitmentto maintain its integrity, bank moneyhad several advantages over metalliccurrencies of varying consistencies.According to Smith in his Wealth ofNations:

Bank money, over and above itsintrinsic superiority to currency, andthe additional value which thisdemand necessarily gives it, haslikewise some other advantages. It issecure from fire, robbery, and otheraccidents; the city of Amsterdam isbound for it; it can be paid away bya simple transfer, without the troubleof counting, or the risk of transport-ing it from one place to another.(Smith, 1952, 205)

Perhaps the growth of paper moneyduring the Napoleonic era put an end tobanks of deposit. Unlike coins, papermoney could not be debased by “clip-ping” bits off of it. Thus, the problem ofcoins with varying degrees of wear andtear was no longer an issue after theadvent of paper money. The Bank ofHamburg inherited the precious metaltrade from the Bank of Amsterdam and

28 | Bank of Deposit

remained active in that trade until 1814,when the Bank of Hamburg was con-verted into the Netherlands Bank, adifferent type of institution.

See also: Bank of Amsterdam, Bank of Venice,House of St. George

ReferencesKindleberger, Charles P. 1984. A Financial

History of Western Europe.Lane, Frederic C., and Reinhold C. Mueller.

1997. Money and Banking in Medievaland Renaissance Venice.

BANK OF ENGLAND

The Bank of England is the central bankof the United Kingdom. It acts as thegovernment’s bank, regulates the moneystock growth rate and the availability ofcredit, and serves as a banker’s bank forcommercial banks, making loans and

holding deposits. Like all central banks,it holds the exclusive privilege to issuebank notes (paper money). Sometimesreferred to as the Old Lady of Thread-needle Street, the Bank of England sits atthe center of the London financial center.

The English Parliament granted theBank of England a corporate charter in1694 when England was waging a costlywar with France. The governmentneeded money, and the Bank of Englandbegan as a plan to help raise funds for thegovernment. Parliament imposed a taxon shipping tonnage, and earmarked theproceeds to go to such persons as shouldvoluntarily advance money to the gov-ernment.

The government planned to borrow£1.2 million at a moderate 8 percentinterest. To attract funds on the scaleneeded at that interest rate, Parliamentgranted the subscribers to the loan theprivilege of pooling their funds andincorporating themselves under thename of the Governor and Company ofthe Bank of England. The debate inParliament over this act raised quite ahowl, including predictions that thebank would encourage fraud, gam-bling, and the corruption of nationalmorals.

Initially, Parliament granted the Bankof England a charter for 10 years. Thischarter authorized the bank to trade ingold, silver, and bills of exchange, and toissue bank notes equal in amount to itscapital. It prohibited the bank from sell-ing merchandise, excepting what hadbeen held as security for unpaid loans.The charter put the management of theBank of England in the hands of a gov-ernor, deputy governor, and 24 directors,elected yearly by the stockholders.

Parliament continued to renew thebank’s charter, usually in return for loans

Bank of England | 29

Adam Smith, 18th-century Scottish economist.(Jupiterimages)

to the government, often at lower interestrates. Parliament renewed the bank’scharter in 1709 and added a provisionthat no other joint-stock company withmore than six partners could issue banknotes, a provision that eventually gavethe Bank of England a dominant positionin the issuance of bank notes. In 1751,the bank took over the administration ofthe national debt, and by 1780 the bankhad a virtual monopoly on the issuanceof bank notes in London. The Bank ofEngland began to wear the aspect of acentral bank as smaller banks began thepractice of keeping funds on depositwith it.

Originally conceived to raise moneyto fight a war, the bank underwent aparticularly innovative period of devel-opment during the wars with revolu-tionary France and Napoleon. Over theprotests of the bank’s directors, thebank was forced to accommodate thefinancing needs of the government forunlimited amounts. The bank beganissuing notes in much smaller denomi-nations, and in 1797 the bank, withapproval from Parliament, suspendedthe convertibility of its bank notes intospecie. Government borrowing hadweakened the bank’s reserve position,and bank note holders were making arun on the bank. Although they werenow inconvertible, the value of Bankof England bank notes stood up wellbecause the government accepted themat par value in all payments and, in1812, made them legal tender. Countrybanks began to hold Bank of Englandnotes as reserves for their own banknotes.

After resuming convertibility of itsbank notes into specie in 1821, the Bankof England saw its bank notes grow inacceptability relative to gold. The

country banks found the notes just asuseful as gold for managing cash drain,and began to look to the Bank of Eng-land as a place to borrow funds in a liq-uidity crisis. In 1833, the Britishgovernment again declared Bank ofEngland notes legal tender for sumsabove £5 so long as the notes remainedconvertible. As Bank of England notesreplaced gold as the circulating medium,the bank became the major holder ofgold reserves.

At first the Bank of England resistedthe pressure to become a lender of lastresort in financial crises, still seeingitself as a bank competing with otherbanks, rather than a source of succor tocompeting banks in a financial crisis.The bank discovered, however, thatadjusting its bank rate of interest tocompete with other banks destabilizedmarkets. After the crash of 1847, thebank began accepting its role as a lenderof last resort and using adjustments inits bank rate of interest to stabilizemoney markets.

The years preceding World War Isaw the Bank of England become thecustodian of the gold standard, anddevelop methods of using the bank rateof interest and open market operationsto regulate interest rates, and the inflowand outflow of gold. During World WarI the government outlawed the export ofgold, and after the war the bank becamea strong voice favoring restoration ofthe gold standard, notwithstanding thehigh interest rates required to preventan outflow of gold reserves. The highinterest rates needed to maintain thegold standard were out of step with theneeds of the time, and in 1931 Parlia-ment passed the Gold Standard(Amendment) Act, suspending the goldstandard. The bank was never quite the

30 | Bank of England

same after the loss of the gold standard,and the government gave the bank verylittle guidance as to what policies to fol-low after the suspension.

During the years between the twoworld wars, the Bank of England’s poli-cies came under closer scrutiny and drewmore criticism. In particular, the MacmillanCommittee in Parliament inquired intothe full range of activities of the bank andcriticized it for not being more commit-ted to the methods of monetary manage-ment by central banks—perhaps becauseof the bank’s loyalty to the outmodedgold standard.

The success of the government-directed war economy led a new Laborgovernment in Parliament to embark ona program of nationalization of majorindustries after World War II. Contro-versy over the policies of the Bank ofEngland before the war made it an obvi-ous target. It was nationalized in 1946and brought under the authority of theExchequer, or British treasury. Withelected officials exerting much moreinfluence over monetary policy, the Bankof England lost some of its reputation forfinancial probity. During the inflation-

ridden 1970s, Britain suffered muchhigher inflation rates than Japan, theUnited States, and West Germany. Dur-ing the 1980s, tight monetary policiesbrought down inflation, and by the late1990s there was talk of again privatizingthe Bank of England.

The Bank of England is representedon the General Council of the EuropeanCentral Bank, but so far the UnitedKingdom has opted not to participate inthe introduction of the euro, the all-European currency. The euro replacedthe German mark, the French franc, andthe currencies of other participatingEuropean countries.

See also: Bank Charter Act of 1833, BankCharter Act of 1844, Bank of France, Bank-ing Acts of 1826, Central Bank, FederalReserve System, Pound Sterling

ReferencesBank for International Settlements. 1963.

Eight European Central Banks.Clapham, Sir J. 1970. The Bank of England.Roberts, Richard, ed. 1995. The Bank of

England: Money, Power, and Influence,1694–1994.

Sayers, R. S. 1976. The Bank of England:1881–1944.

Bank of England | 31

Bank of England, 18th century engraving. (Jupiterimages)

BANK OF FRANCE

Before the establishment of the EuropeanCentral Bank, the Bank of France was thecentral bank in France. It compared to theBank of England or the Federal ReserveSystem in the United States, and wasresponsible for regulating the moneystock, interest rates, and credit conditionsin France.

When Napoleon assumed the reins ofpower in 1799, he knew the French gov-ernment had lost all credibility as a bor-rower, a factor that had helped spark theFrench Revolution. His governmentneeded to raise money, but selling gov-ernment bonds was not a practicablemeans to do so as there was no market fordiscredited government debt at the time.In 1800, Napoleon created the Bank ofFrance to help with this problem. It wasinitially capitalized at 30 million livres.Three years later livres were replaced bythe new currency, francs, making thecapitalization 30 million francs. Openlycalling the new institution a bank wasitself a bold move. After the disaster ofJohn Law’s bank in 1720, the very term“bank” had fallen into disrepute inFrance and disappeared from the namesof French financial institutions.

The financial capital for the Bank ofFrance came partly from the capital ofthe Caisse des Comptes Courants, a Parisdiscount bank issuing bank notes (papermoney) that dissolved and merged intothe new institution. Other capital for thebank was raised from public subscrip-tions, and an additional sum came fromthe government. The Bank of France wasorganized as a corporation, the stock-holders of which elected a governingcommittee.

In 1803, the government granted theBank of France the exclusive privilege to

issue bank notes in Paris. The other mainnote-issuing bank in Paris, the Caissed’Escompte du Commerce, had beenmerged unwillingly with the Bank ofFrance in 1802. Other note-issuingbanks in Paris were required to withdrawtheir bank notes before a certain date.Any new note-issuing banks in theprovinces had to have the approval of thegovernment.

From the beginning, Napoleonwanted the Bank of France to purchasegovernment bonds at the lowest possibleinterest rates and pay for the bonds withbank notes. In 1804, the bank caved togovernment pressure and issued toomany bank notes amid rumors thatNapoleon had shipped the metallicreserves to Germany for militarypurposes. A crisis forced the bank topartially suspend convertibility of itsbank notes into specie, and the notesdepreciated 10 to 15 percent, while thebank—rather than the government—took the blame for the crisis.

In 1806, the governance of the bankunderwent a major overhaul. A government-appointed governor and two deputy gov-ernors replaced the committee elected bythe stockholders. Another partial suspen-sion of convertibility came in 1814.

Napoleon emphasized low interestrates as a means of softening the blow ofhis continental blockade. He pressuredthe bank to keep its discount rate (centralbank interest rate to borrowers) in the 4to 5 percent range, a practice the bankcontinued until the mid-19th century. Healso encouraged the bank to act as alender of last resort.

The Bank of France took advantageof its authorization to set up branchbanks in the provinces. However, thesebranch banks were unsuccessful at first,even in places where they had regional

32 | Bank of France

monopolies on the issuance of banknotes. A few private banks opening inthe provinces were also unprofitable atfirst, mainly because of strict govern-ment regulation. However, by 1840 pri-vate banks began to be a threat in theprovinces. After 1840 the governmentrefused to grant charters for new privatebanks with authority to issue banknotes. Between 1841 and 1848, theBank of France opened 15 branch banksin the provinces.

In the political crises of 1848, theFrench government counted on the Bankof France for financial support. The pub-lic, remembering the worthless assig-nats of the Revolution, began to convertbank notes into specie and hoard it. Thegovernment responding by declaringBank of France bank notes legal tenderthroughout the nation, and putting alimit on the number of bank notes theBank of France could issue. The Bankof France now achieved a clear advan-tage over the private provincial banks,whose bank notes were only legal tenderin their respective regions. The privateprovincial banks then merged with theBank of France, and the Bank of Franceacquired a nationwide monopoly on theissuance of bank notes.

The Bank of France kept its discountrate fairly constant until the 1850s,when it began the practice of adjustingits discount rate to regulate the flow ofspecie. An increase in the discount ratecould halt a specie outflow. In 1857, thebank became exempt from the usurylaw setting a 6 percent ceiling on inter-est rates.

By 1900 the Bank of France had anoffice in 411 French towns, and had asmany as 120 full branches, substantiallymore than the eight branches that theBank of England had in Britain. The

Bank of France played a much greaterrole in the French money and bankingsystem than the comparable Bank ofEngland played in the British system.The tight control that the Bank ofFrance held over the development ofbanking in France may have inhibitedFrench economic growth in the 19thcentury. During World War I and WorldWar II, the French government reliedheavily on the Bank of France to buygovernment bonds with the issuance ofbank notes as a measure of war finance.Bank notes increased 400 percentbetween 1940 and 1945, but controlssuppressed inflation until 1944. Thegovernment nationalized the Bank ofFrance in 1945. Inflation grew to acutelevels in the 1950s.

On August 4, 1993, the Bank ofFrance won its independence from polit-ical authorities in a piece of landmarklegislation. With its newly won independ-ence came a renewed commitment toprice stability as its top priority regard-less of domestic political pressures.

In 1998, the Bank of France joinedthe European System of Central Banks,which on January 1, 1999, assumedresponsibility for implementing a singlemonetary policy for all member statesof the European Monetary Union. Thegovernor of the Bank of France sits onthe Governing Council of the EuropeanCentral Bank and the Bank of Franceshares in the implementation of mone-tary policy. Monetary policy in theEuropean system is determined by theGoverning Council of the EuropeanCentral Bank.

See also: Bank of England, Central Bank,Deutsche Bundesbank, Federal ReserveSystem, First Bank of the United States,Monetary Law of 1803, Second Bank of theUnited States

Bank of France | 33

ReferencesDavies, Glyn. 1994. A History of Money.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.Wilson, J. S. G. 1957. French Banking Struc-

ture and Credit Policy.

BANK OF JAPAN

Japan was the first non-Western countryto intentionally transform its economyinto a developed capitalist system. In1882, the Japanese government estab-lished the Bank of Japan on the Europeanmodel of central banks. This was threedecades before the United States createdthe Federal Reserve System and occurredat a time when feudalism was still a freshmemory in Japan.

After the Meiji Restoration in 1868,the government launched Japan on anintensive program of Westernized eco-nomic development. The new govern-ment found gold, silver, and coppercoins circulating alongside paper moneyissued by feudal lords and merchants.Like previous revolutionary govern-ments, including the Continental Con-gress of the United States, the MeijiRestoration government turned to theissuance of inconvertible paper money tofinance government spending. Inconvert-ible paper money is paper money notconvertible into any type of preciousmetal. In 1877, the government issuedanother round of inconvertible papermoney to suppress a rebellion. Thistouched off an inflationary surge from1877 to 1881.

The Japanese government learnedfrom European and U.S. models. In1872, Japan adopted a system of nationalbanks patterned after the national bank-ing system in the United States. Liketheir counterparts in the United States,

these banks held government bonds ascollateral for bank notes. The govern-ment’s inconvertible paper currency wasredeemable in government bonds, but thesystem broke down after the governmentallowed national banks to issue incon-vertible bank notes in the late 1870s.

In 1881, the Japanese minister offinance visited Europe to study centralbanking systems. The National Bank ofBelgium had been created in 1850 andappeared to the Japanese as the mostadvanced institution of its type. TheUnited States had no central bank, andthe Bank of England had evolved overnearly two centuries without a writtenconstitution.

The Bank of Japan Act of 1882 pro-vided for the establishment of the Bankof Japan. The bank was organized as aprivate joint-stock company. The gov-ernment furnished half of the capital.Government officials not only appointedthe governor of the bank and other bankofficers, but also supervised the policiesand administration of the bank. The bankheld a monopoly on the issuance of banknotes, and served as a lender of lastresort to other banks.

The Bank of Japan was set up to serveas the fiscal agent of the government, tostabilize seasonal and regional fluctua-tions in the flow of funds, to financeinternational trade, and to hold speciereserves. The Japanese treasury exertedstrong influence on the operations of thebank. In 1897, Japan went on the goldstandard, making the bank notes of theBank of Japan fully convertible into gold.

In 1868, precious metal specieaccounted for 75 percent of the moneysupply. By 1881, that percentage haddecreased to 20 percent. Bank depositsaccounted for 7 percent of the moneysupply when the Bank of Japan was

34 | Bank of Japan

formed. By 1914, this percentage hadgrown to 44 percent. Japan’s economybecame highly monetized, completewith bank notes and bank deposits.

In June 1997, the Japanese Dietenacted new legislation, the Bank of JapanLaw, which provided that the autonomy ofthe Bank of Japan be respected. In 1998,the Bank of Japan began a major reorgan-ization aiming at streamlining operationsand reducing unnecessary holdings, suchas surplus real estate.

The process that led to the formationof the Bank of Japan reveals somethingof the method that lies behind theJapanese economic miracle. Today,Japanese commercial banks are amongthe largest in the world.

See also: Bank of England, Central Bank, Bankof France, Federal Reserve System, Yen

ReferencesDavies, Glyn. 1994. A History of Money.Cameron, Rondo. 1967. Banking in the Early

Stages of Industrialization.

BANK OF SCOTLAND

The Bank of Scotland claims the honorof being the first incorporated bankowned exclusively by private sharehold-ers and devoted exclusively to the busi-ness of meeting the banking needs of theprivate sector. The Scottish Parliamentchartered the Bank of Scotland in 1695,and it remains the only surviving institu-tion created by that body. The life of theScottish Parliament came to a close in1707 when England and Scotlandmerged.

In 1695, the larger continental statesof France, Prussia, and Austria dependedsolely on private bankers, such as thefamous Fugger family of bankers who

held sway in the 15th and 16th centuries.These countries remained strangers topublic banks. Italy, Holland, England,and Sweden had founded public banks,but they all had strong connections togovernments. The Bank of Amsterdamwas founded in 1609, the Bank of Swedenin 1656, and the Bank of England in1694. The Bank of England was closestin character to the Bank of Scotland, butParliament chartered it mainly to raisemoney for the government. Some of theItalian public banks were little more thansocieties of government creditors. TheBank of Scotland was expressly forbid-den in its charter to make loans to themonarchy.

The Bank of Scotland began as a purecorporation, entailing limited liability forits shareholders and the same standing asan individual in the eyes of the law. TheScottish Parliament gave the Bank ofScotland a monopoly for its first 21 yearsand made its dividends free from taxationfor that period. Anyone could purchasestock in the bank, including foreigners.Edinburgh was headquarters for the bank,but branch offices were opened in Glas-gow, Aberdeen, Dundee, and Montrose.

Over the protest of the Bank of Scot-land, the British Parliament in 1727chartered a second public bank in Scot-land, the Royal Bank of Scotland.Intense rivalry existed between thesetwo banks from the outset. By 1745,Scotland had a highly developed bank-ing system, and notes of these bankswere an important means of payment. In1746, a third public bank, the BritishLinen Company, received a charter.

By 1730, the Bank of Scotland onthree separate occasions had suspendedpayment on its bank notes. In that year,its directors approved the insertion of theso-called optional clause on its bank

Bank of Scotland | 35

notes. The optional clause committed thebank to either redeeming its bank noteson demand or suspending redemption forsix months, paying a specified interestrate during the interval of suspension.The British Parliament banned theoptional clause in the Scottish BankingAct of 1765.

The Act of 1765 also opened upScotland to “free banking,” rendering iteasier to organize banks that issuenotes. Under Scotland’s system of freebanking, the Bank of Scotland took thelead in policing the issuance of banknotes by the smaller, provincial banks.In 1776, Adam Smith heaped highpraise on the Scottish banking system,writing that “the business of the countryis almost entirely carried on by meansof the paper of those different bankingcompanies. . . . Silver very seldomappears . . . and gold still seldomer.”

In the 19th century, Parliamentbegan to concentrate the note-issuingauthority in the hands of the Bank ofEngland. In 1833, the Bank ofEngland’s notes became legal tender inEngland, a status not enjoyed by otherbank notes. In 1844, Parliamentrestricted the further issuance of banknotes by any other bank than the Bankof England. As the Bank of Englandassumed the role of Britain’s centralbank, the Bank of Scotland lost itsposition of leadership in Scottish bank-ing. Mergers between Scottish banks inthe 19th and 20th centuries periodicallyrearranged the rankings of Scottishbanks in terms of size, but the Bank ofScotland has remained one of thelargest banks in Scotland. A 1989survey by the Economist found theBank of Scotland to be the bank mostadmired by its peer bankers.

36 | Bank of Scotland

Interior of the National Bank of Scotland in Glasgow, 19th century. (Jupiterimages)

See also: Bank of England, Royal Bank ofScotland, Scottish Banking Act of 1765

ReferencesCheckland, S. G. 1975. Scottish Banking

History: 1695–1973.Colwell, Stephen. 1859/1965. The Ways and

Means of Payment.Davies, Glyn. 1994. A History of Money.

BANK OF SPAIN

See: Spanish Inconvertible Paper Standard

BANK OF VENICE

The history of the Bank of Venicereveals something of the forces that ledto the evolution of central banks. In1171, the government of the Republicof Venice extracted forced loans ofspecie from wealthy citizens. The gov-ernment kept a record book thatshowed the amounts it owed individualcitizens, but otherwise issued no bonds,promissory notes (IOUs), certificates ofindebtedness, or other proof of indebt-edness. The government’s creditorsreceived 4 percent interest per year, butthe government did not pay down theprincipal on the loans. The citizens ofVenice began exchanging ownership ofthese government obligations to trans-act business, turning these governmentobligations into a circulating mediumof exchange like any other form ofmoney. Money transactions settled byentries in books were much more con-venient than coined money transac-tions, particularly when large amountswere involved. The citizens of Venicesoon voluntarily deposited specie withthe “bank” in return for book entrydeposits that could be transferred toother depositors in any amount.

In 1587, the Venetian governmentestablished the Bank of Venice as theBanco del Piazza del Rialto. As early as1374 a committee of scholars had pro-posed the formal organization of a publicbank, but no action was taken for over twocenturies. By the late 1500s, other Italiancities had already established publicbanks, costing Venice claims of priority inthe history of banking. The credit for thefirst beginnings of modern banking prac-tices, however, belongs to Venice.

The Venetian practice of banking onthe security of government loans survivedinto the modern period. Today in theUnited States, the Federal Reserve Systemissues Federal Reserve Notes and depositsat Federal Reserve Banks, holding govern-ment bonds as securities against thesenotes and deposit liabilities.

See also: Bank of Amsterdam, Bank ofDeposit, House of St. George, Medici Bank,Venetian Ducat

ReferencesKindleberger, Charles P. 1984. A Financial

History of Western Europe.Knox, John Jay. 1903/1969. A History of

Banking in the United States.Lane, Frederic C., and Reinhold C. Mueller.

1997. Money and Banking in Medievaland Renaissance Venice. Vols. 1–2.

BANK RATE

See: Bank Charter Act of 1833, Gold Standard

BANK RESTRICTION ACTOF 1797 (ENGLAND)

The Bank Restriction Act of 1797began England’s first experience withinconvertible paper currency—that is,

Bank Restriction Act of 1797 (England) | 37

paper currency that was not convertibleinto precious metal at an official rate.From 1797 until 1821, roughly coincid-ing with the Napoleonic Wars, theBank of England suspended payments,meaning that bank notes were nolonger redeemable in specie or cash.During this era, England managed asystem of inconvertible paper currencythat met the needs of trade withouttriggering a destructive episode ofhyperinflation.

Prior to the suspension of payments,banks in England, Ireland, and Scotlandissued bank notes that circulated as papermoney, and these banks stood ready toredeem bank notes into gold and silverspecie, assuring the acceptability of banknotes in trade. Beginning in 1793, bankshad difficulty maintaining sufficientspecie reserves to satisfy all requests forredemption of bank notes. Heavy govern-ment borrowing, coupled with subsidiesto foreign allies and military expendi-tures, caused a major outflow of gold,draining the gold reserves of the Bank ofEngland. The memory was still fresh ofthe financial debacle that followed JohnLaw’s attempt to multiply without limitthe paper money in France in 1720.Rumors of a French invasion of Irelandsparked a run on banks, further drawingdown gold reserves at the Bank ofEngland. The Privy Council at an emer-gency meeting on February 26, 1797,decided that the Bank of England shouldsuspend payments, and on May 3, 1797,Parliament confirmed the action withenactment of the Bank Restriction Act.The suspension of payments, advancedas a temporary measure, was continuallyrenewed, lasting six years after the end ofthe Napoleonic War in 1815. It domi-nated discussions of monetary issues inParliament for 24 years.

Measures of inflation during the sus-pension of payments period were notavailable because the science of indexnumbers was still in its infancy. The val-ues of gold and foreign currencies,priced in British pounds, were the mainindicators that gauged the value of thepaper pound. The Irish pound droppedsignificantly on foreign exchange mar-kets in 1801, sparking serious discus-sion. In 1809, the other monetary shoefell when the British pound dropped sig-nificantly on the Hamburg foreignexchange market. The House of Com-mons appointed a committee, the SelectCommittee on the High Price of GoldBullion, to investigate the monetary situ-ation and report to Parliament. Thereport of this committee, the BullionReport, fastened the blame on excessiveissue of bank notes and recommendedthe return to convertibility within twoyears. Thomas Malthus and DavidRicardo, famous economists of the time,supported the Bullion Report, whereasmost businessmen and bankers, particu-larly officials of the Bank of England,defended the suspension policy, arguingthat banking policy had no effect on for-eign exchange rates. In hindsight, theBullion Report represented sound mone-tary economics, surprisingly advancedfor its time, but the exigencies of warforced England to remain on an incon-vertible paper standard. The issues weresummed up with the saying that thebankers turned out to be bad economists,and the economists bad politicians.

Two factors seemed to have sparedEngland the ravages of a paper moneysystem out of control. First, Englandhad a developed capital market forlong-term financing of governmentdebt. Second, Parliament enacted anincome tax that became effective in

38 | Bank Restriction Act of 1797 (England)

1799. The government’s use of taxationand long-term borrowing lifted much ofthe pressure on the monetary system topay for the war printing by bank notes.

When the war ended in 1815, contraryto expectations, the Bank of England stillfaced a drain on its gold reserves, and Par-liament postponed the resumption of cashpayments. In 1819, Parliament passed theResumption of Cash Payments Act, call-ing for the resumption of payments by1823. The Bank of England’s reserveposition improved faster than expected,and full convertibility into gold wasrestored in May 1821. The Resumption ofCash Payments Act also put Englandsquarely on the gold standard, whichEngland had been moving toward duringthe 18th century.

See also: Bank of England, Inconvertible PaperStandard, Liverpool Act of 1816, PoundSterling

ReferencesChown, John F. 1994. A History of Money.Clapham, Sir J. 1970. The Bank of England.Fetter, F. W., and T. E. Gregory. 1973. Mon-

etary and Financial Policy in Nineteenth-Century Britain.

BARBADOS ACT OF 1706

In 1706, the colonial assembly ofBarbados, an English colony, enactedlegislation that led to one of the moreunusual monetary experiments in history,creating a fiat domestic currency that wasvirtually legal tender. The legislationsparked a strong protest from merchants,slave traders, and other English traders,the creditors in the economy of Barbados.The British Board of Trade acted to forcethe redemption of the paper money, butthe episode reveals the secret war between

debtors and creditors that often surfaceswhen monetary institutions are evolving.

Sir Bevill Granville, the lieutenant-governor at the time, favored a party ofdebt-ridden planters in the colonialassembly. With Granville’s patronage,the planter party, controlling leadershippositions in the assembly, successfullysponsored the legislation, which passedin the lower house by a vote of ten tonine. The planters clothed their proposalin arguments citing the shortage of coinas a contributing factor to the decliningstate of trade. To assure the successfulexecution of the plan, the assemblyadopted the Triennial Act, whichextended its own life for three years.

This proposal to create a locallyissued paper money allowed each planterto receive “bills of credit” equaling invalue to one-fourth the planter’s estate.The institution issuing these bills was abank, and the bank manager was calledthe holder. Among other duties, theholder had sole responsibility forappraising the estates of the planters, oneof the many objections of the creditors.The legislation called for the acceptanceof the bills at face value in all domestictransactions, and required creditors toforfeit half of a debt for refusing toaccept the bills in payment. Planters hadto redeem the bills in one year, or renewthem. Renewed bills remained in circula-tion. When the planters who first drewthe bills failed to redeem them or wereunable to pay the interest and renewthem, they faced something like a fore-closure sale on that part of their propertypledged as security for the bills.

The major flaw of the bills in the eyesof the creditors was that they paid nointerest to their holders. The planters paid5 percent interest on the bills, which wentto the bank to cover the administrative

Barbados Act of 1706 | 39

cost of issuing, redeeming, and renewingthe bills. The merchants and traders whoreceived the bills in payment earned nointerest while they held them, a factorthat assured the rapid depreciation of thebills in value.

The Royal African Company, a slave-trading company, was among the major crit-ics of the law, and vigorously objected, withother merchants and traders, to the BritishBoard of Trade. The British governmentrecalled Granville, and sent as a replace-ment Mitford Crowe, an individual in goodstanding with the merchants. The Britishgovernment ordered Barbados to redeemthe bills held by creditors involuntarily.Meanwhile leadership in the assembly lostconfidence in the new bills, and, failing topersuade the assembly to take action, dis-solved it, calling for new elections. The newelection became a battleground for a clashbetween creditors and debtors, and the cred-itors came out on top. The new assemblypassed the Relief Act of 1707, which forcedplanters to redeem their paper bills inone year or face foreclosure auctions.

The experience of colonial Barbadosillustrates the difficulty of developing afiat money standard acceptable tocreditors, who bear the burden whenmoney loses its value. Perhaps there is alesson in the fact that the same NewWorld that flooded the Old World withan influx of precious metals, was alsoinventive in coming up with new variantsof paper money.

See also: Land Bank System, Sugar Standardof West Indies

ReferencesBrock, Leslie V. 1975. The Currency of the

American Colonies, 1700–1764.Nettels, Curtis P. 1934/1964. The Money

Supply of the American Colonies before1720.

BARTER

Barter is a rude form of exchange, basedon directly swapping goods for goodswithout the intermediary of money.Exchange becomes more important asindividuals specialize in the productionof goods and services. Money consider-ably facilitates exchange because every-one accepts it in trade. In a moneyeconomy, individuals devoting all theirenergies and skills to the production ofone commodity, such as cattle, can tradecows for money, and use money to buygroceries, televisions, automobiles, andso on. In an economic system based onbarter, a cattle rancher must find some-one who wants to trade cows for every-thing else he or she may want to acquire.To buy a television, the cattle rancherwould have to find someone with moretelevisions than he or she needs for per-sonal use, and who is in need of a cow.The cattle rancher, having more cowsthan needed for personal use, will tradea cow for a television. Economists callthis conglomeration of circumstances adouble coincidence of wants.

Barter exchange is necessarily timeconsuming and inefficient. It is hard toimagine someone working in a propellershop, making propellers for airplanes,receiving pay in a bundle of propellers,and then trading propellers for every-thing they need. Money simplifiesexchange and results in a constant ratioin the exchange rate between propellers,and say, televisions.

Historically, barter exchange precedesthe use of money, but it has experiencedresurgence at times. During the MiddleAges, metallic coinage became scarce inEurope, and barter exchange began toplay a larger role. Serfs paid manor lordsin certain hours of labor, and a noble

40 | Barter

would make payment in military service.In the American colonies, barter flour-ished because of a shortage of metalliccurrency. During the 1970s in the UnitedStates, barter again grew in popularity asa means of avoiding income taxes. Indi-viduals with goods to sell, or services tobe rendered, formed bartering organiza-tions, with lists of goods that could bebartered.

In the 1990s, an antiquated system ofbarter appeared in Russia just at the timethat Western observers expected theemergence of a market economy. Someestimates suggest that as high as 70 per-cent of the transactions in Russia involvebarter. City taxes may be paid in the formof clothes for policemen. Farmers bringfood to factories in exchange for sheetmetal, paint, and other useful items, andthe factories pay workers in the food sup-plied by the farmers. Workers may bepaid in kind: Workers at a timber factoryreceived a bundle of plywood on payday.

About 50 percent of industrial sales takethe form of barter. A cannery trades itsfinished product, 12-ounce cans of meat,for livestock to slaughter, aluminum tomake the cans, canning machinery,electricity, and cardboard boxes suitablefor shipping canned meat.

In a country such as Russia, barteremerges only after a complete break-down of the currency. Companies mustarrange deals involving several othercompanies to pay their own suppliers.They must find out what goods their sup-pliers will accept in payment, then setout to trade what they have to some othercompany that will accept these goods inorder to get what their suppliers need.All kinds of imbalances develop. Apolice department might receive a largeshipment of woolen socks but no newshoes.

Despite the obvious advantages ofmoney exchange over barter exchange,metallic coinage, the most acceptable

Barter | 41

Vendors at the Rizhky market in Moscow barter their personal belongings, 1991. (ShepardSherbell/Corbis)

42 | Beer Standard of Marxist Angola

money are more efficient and produc-tive, eclipsing economies based onbarter exchange.

See also: Commodity Monetary Standard,Spartan Iron Currency

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets: An Economics Approach.

Higgins, Andrew. “Twilight Economy: Lack-ing Money to Pay, Russian Firms Surviveon a Deft System of Barter.” Wall StreetJournal, August 27, 1998, A1:1.

Paddock, Richard C. “Russians Bank of Bar-tering.” Los Angeles Times, December 28,1998, A1:1.

Williams, Jonathan, ed. 1997. Money: AHistory.

BEER STANDARD OFMARXIST ANGOLA

During the late 1980s, imported beerbecame a medium of exchange on theblack market in Angola. By that time, theeconomy of Marxist Angola was begin-ning to break under the strain of a 13-year war against rebels supported by theUnited States and South Africa. Inflationfrom wartime finance left the official cur-rency of Angola, the kwanza, trading onthe black market for 2,000 kwanzas perdollar, compared to the official rate of 30kwanzas per dollar. As goods disap-peared from the shelves of the state-oper-ated stores, a black market arose right inthe middle of the garbage dump ofLuanda, the capital of Angola. At theblack market, consumers purchased allkinds of goods with imported beer. Thedepreciating kwanzas were pegged to theprice of beer.

Initially, the government tried tosquelch the black market, which contin-

medium of exchange, was not freelyembraced by ancient societies. Com-plaints against money were perhaps bestexpressed by the Chinese scholar GongYu (ca. 45 BCE), who favored the aboli-tion of coinage. He wrote:

Since the appearance of the uruzhucoins over seventy years ago, manypeople have been guilty of illicitcoining. The rich hoard housefulsof coins, and yet are never satis-fied. The people are restless. Themerchants seek profit. Though yougive land to the poor, they muststill sell cheaply to the merchant.They become poorer and poorer,then become bandits. The reason?It is the deepening of the secondaryoccupations and the coveting ofmoney. That is why evil cannot bebanned. It arises entirely frommoney. (Williams, 1997, 155)

Ancient Chinese scholars were notalone in voicing skepticism aboutmoney. The New Testament has the nowoften-repeated refrain that the “love ofmoney is the root of all evil.” Theancient Spartans legislated that onlyhuge round metal discs could serve asmoney, hoping to discourage the accu-mulation and carrying of large sums ofmoney. Metallic coinage was oftenblamed for the vices associated with thelarge seaport cities.

Despite reservations about moneyuse, economies based upon moneyexchange rather than barter exchangesupport a much higher level of special-ization among individuals, businesses,and regions, and this specialization fos-ters productivity. Greater specializationrequires greater exchange, and moneyfacilitates exchange. Economies using

Belgian Monetary Reform: 1944–1945 | 43

The debasement of Angola’s currencyamidst civil war sounded a very familiarnote in history. Hyperinflation attendedthe War of Independence of the Ameri-can colonies, one example of many thatcould be cited. The adoption of importedbeer as a medium of exchange appeared,however, to have no precedent, andseemed a bit comical. It may have been areaction to the tendency of socialisteconomies to emphasize austerity in theproduction of consumer goods, even inpeacetime. The free market that rose upfrom the ash heap of Angola’s Marxisteconomy adopted as a monetary stan-dard a symbol of Western variety andluxury in consumer goods—importedbeer.

See also: Commodity Monetary Standard,Liquor Money

Reference“In Marxist Angola, Capitalism Thrives,

Using Beer Standard,” Wall Street Jour-nal, September 19, 1988, p. 1.

BELGIAN FRANC

See: Belgian Monetary Reform: 1944–1945

BELGIAN MONETARYREFORM: 1944–1945

The Belgian monetary reform,although not radical, was among themost thorough in post–World War IIEurope. Numerous European countries,freshly liberated from Germany, foundthemselves awash in currency that hadbeen spent lavishly to pay soldiers andfinance military expenditures. Mone-tary reform aimed at soaking up a flood

ued to grow as the state-owned industryground to a halt. The state economistsbegan to visit the black market to getideas for Angola’s economy, whichcaught the same distemper as the othersocialist economies of that era. The gov-ernment learned to tolerate the blackmarket as it sought to decentralize itsown bureaucratic economy, which wassuffering shortages of raw material andmanpower arising from the war effort.Government officials turned to studyingthe black market as a crash course incapitalism. Soon, the policemen at theblack market were there only for crowdcontrol. The black market had a name,the Roque Santeiro, the title of a popularBrazilian soap opera played in Angola, aformer Portuguese colony.

Consumers acquired imported beer inone of two ways. If they had dollars, theywent to one of the government-ownedhard currency stores and bought a caseof imported beer—Heineken, Beck’s, orStella Artois—for $12. Only the middleclasses, however, were likely to havedollars, which they acquired from for-eign travel. Workers often got on thebeer standard through their employers,who often paid them partially in couponsthat they could spend in company-ownedstores. These stores were owned by themultinational corporations that hademployees in Angola. Workers could goto one of these stores, buy a case ofimported beer, take it to the black mar-ket, sell it for 30,000 kwanzas, and thenfill their grocery list by shopping at theblack market or even buy a plane ticketto Lisbon. The plane ticket cost abouttwo cases of imported beer. The blackmarketeer would break up the case ofbeer and sell it for about 2,000 kwanzasper can, turning a nice profit of 12,000kwanzas.

44 | Belgian Monetary Reform: 1944–1945

Noncollaborators paid war-profiteeringtaxes up to 80 percent.

The immediate result of these actionswas the reduction of note circulationfrom 300 billion Belgian francs to 57.4 billion. By December 1944, theBelgian money stock had grown to 75 billion, and it grew rapidly in the fol-lowing year as British and U.S. troopsused Belgium as a base.

Belgium’s gold holdings had beenmoved to France for safe keeping,which, however, did not prevent theGermans from capturing them. TheBelgian government sued the Frenchgovernment in U.S. courts, chargingFrench negligence in securing Bel-gium’s gold. The U.S. courts ruled infavor of Belgium and awarded Belgiumcompensation out of French goldreserves held in the United States.Later, all gold that the Germans confis-cated from allied governments wasrecovered, allowing France to recoupits payment to Belgium.

With heavy British and U.S. expendi-tures in Belgium, coupled with therecovery of its gold reserves, Belgiumemerged from the war with an abun-dance of monetary reserves, sufficient tosupport a stable currency.

See also: Deutsche Mark, French Franc, SwissFranc

ReferencesDupriez, Leon H. 1946. Monetary Recon-

struction in Belgium.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.

BILLON

See: Byzantine Debasement

of currency was common in the liber-ated countries, including France andItaly, in an effort to avoid the hyperin-flation debacles that followed WorldWar I.

The Belgian government-in-exilereturned to Brussels in September 1944with plans in hand to reform the Belgiumcurrency. In the course of the war, theBelgian money supply had climbed 250 percent without commensurateincreases in price levels, creating a situa-tion ripe for a round of runaway inflation.Bank notes were up 350 percent andbank account money was up 125 percent.Either the money stock needed todecrease rapidly, or prices would soar.

Few European countries thought interms of returning to prewar exchangerate parities, and Belgium was no excep-tion. Before the war, the Belgian franchad traded at 145 francs to the poundsterling and 30 francs to the U.S. dollar.The postwar Belgian authorities aimedto maintain an exchange rate of 176.6 francs to the pound sterling and43.70 francs to the U.S. dollar.

The Belgian government had new cur-rency printed in England. In October1944, all Belgian notes over 100 francswere frozen. In five days a census of cir-culating cash was completed, and theprocess of distributing the new currencybegan. Each family could exchange2,000 of the old francs for the new francson a one-to-one basis. More exchangetook place, up to certain limits, to replaceold francs in notes, bank accounts, andpost office accounts. Up to 60 percent ofthese funds were blocked, unavailable forconversion into new francs. Theseblocked funds could be used for certainpurposes, such as special taxes, includingwar-profiteering taxes, which ran as highas 100 percent for German collaborators.

Bills of Exchange | 45

paid. Although this process seems com-plicated, it substantially reduced thetransportation of precious metals. In ourexample, a Venetian merchant boughtgoods from Flanders, and a Flemishmerchant bought goods from Venice,without any foreign currency leavingVenice or Flanders.

Bills of exchange gave cover tobankers evading usury laws by hidinginterest charges in exchange rate adjust-ments that governed foreign exchangetransactions. A Florentine bank couldadvance a sum to an Italian merchant andreceive a bill of exchange payable at afuture date to an agent of the Florentinebank in a foreign market. When the billof exchange matured, the Florentineagent in the foreign market would drawanother bill of exchange on the Italianmerchant, payable at a date in the futureat the Florentine bank that drew the firstbill of exchange on the Italian merchant.The Italian merchant would be borrowingthe use of money for the time it took forthese transactions to be completed, andthe interest would be embedded in thefees for handling the bills of exchange.Bills of exchange drawn only to grantcredit were called dry bills of exchange.

Credit transactions involving bills ofexchange are difficult to untangle, evenchallenging the talents of Adam Smith,who cited the difficulty of the subject ofbills of exchange as credit instruments inthe Wealth of Nations:

The practice of drawing and redraw-ing is so well known to all men ofbusiness that it may perhaps bethought unnecessary to give anaccount of it. But as this book maycome into the hands of many peoplewho are not men of business, and asthe effects of this practice are not

BILLS OF EXCHANGE

Bills of exchange developed during theMiddle Ages as a means of transferringfunds and making payments over longdistances without physically movingbulky quantities of precious metals. In thehands of 13th-century Italian merchants,bankers, and foreign exchange dealers,the bill of exchange evolved into a power-ful financial tool, accommodating short-term credit transactions as well asfacilitating foreign exchange transactions.

The invention of the bill of exchangegreatly facilitated foreign trade. Themechanics of this can be seen in thefollowing example: Assume that amerchant in Flanders sold goods to aVenetian merchant and accepted inpayment a bill of exchange drawn on theVenetian merchant promising to pay anagent of the Flemish merchant in Veniceat a certain date in the future and in acertain currency. The bill of exchangeallowed the Venetian merchant to acceptdelivery on the goods from Flanders,sell them, and take the proceeds toredeem the bill of exchange in Venice,probably in Venetian currency.

Bills of exchange were also instru-ments for foreign exchange transactions.Merchants in Italy and major tradingcenters in Europe bought bills ofexchange payable at future dates, inother places, and different currencies. Inthe example above, the Flemish mer-chant could sell the bill of exchange toan exchange dealer for currency of hisown choosing. In turn, the exchangedealer could sell the bill of exchange toa Flemish merchant engaged in buyinggoods in Venice. When the bill came duefor payment in Venice, the Flemish mer-chant would use it to buy goods inVenice where the bill of exchange was

perhaps generally understood evenby men of business themselves, Ishall endeavor to explain it as dis-tinctly as I can. (Smith, 1952, 133)

Smith goes on to describe a processby which bills of exchange are drawnand then redrawn with interest chargesadded, turning the bill of exchange into aform of long-term credit.

Bills of exchange circulated as moneysubstitutes, partially playing the role ofpaper money, and economizing on theneed to move specie between countries.When London became the financial cen-ter of world during the 18th century, billsof exchange became less important ascredit instruments. Uninfluenced bychurch doctrines toward usury, theLondon financial markets developedfinancial instruments that clearly statedwhat interest rate was paid.

See also: Medici Bank

ReferencesDavies, Glyn. 1994. The History of Money.Homer, Sidney. 1977. A History of Interest

Rates, 2nd ed.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.Roover, Raymond de. 1966. The Rise and

Decline of the Medici Bank: 1397–1494.Smith, Adam. 1776/1952. An Inquiry into the

Nature and Causes of the Wealth ofNations.

BIMETALLISM

Under a bimetallic standard, a unit ofmoney, such as a dollar, is defined interms of two metals, usually gold and sil-ver. The United States started out on abimetallic standard that defined a dollaras equal to either 371.25 grains of silveror 24.75 grains of gold, fixing the relative

46 | Bimetallism

Bill of exchange from Lyons, France, 16th century. (Photo12/The Image Works)

value of silver to gold at 15 to 1. Bimetal-lic monetary standards date to the ancientworld, and after the 12th century, they arewell documented in European history.The use of two metals instead of oneappeared as a reasonable means of sup-plementing money supplies.

A bimetallic monetary standard owesits complexity to the relationshipbetween the price of metals fixed at amint and the freely fluctuating marketprice of metals. A bimetallic systemfunctions smoothly in the rare instancein which the market price and the mintprice remain equal.

The true nature of a bimetallic stan-dard is best examined when mint pricesand market prices vary. If the mint ratioof silver to gold is 15 to 1, and the freemarket ratio is 16 to 1, citizens have anincentive to take silver to the mint forcoinage, convert the silver coins intogold coins, and exchange the gold coinsfor a larger amount of silver on the freemarket. According to the theory ofbimetallism, the actions of the mint inbuying silver will lift the value of silverin the free market, reducing from 16 units to 15 units the amount of silverequal to a unit of gold in the free market.In 19th-century Genoa and Florence, abimetallic system appeared to workaccording to the theory that marketprices will gravitate toward mint prices.

Subsequent experience suggestedthat bimetallic systems do not work asthe bimetallic theory suggested.Between 1792 and 1834 in the UnitedStates, the mint ratio of silver to goldwas 15 to 1, while the free market ratiowas 15.5 to 1. This discrepancy betweenmint prices and market prices led to thedisappearance of gold from circulation,because no one had an incentive to takegold to the mint for coinage. Valued in

silver, gold was worth more on the openmarket than at the mint. When Congresstried to remedy the situation by boostingthe mint ratio to 16 to 1, above the freemarket ratio of 15.5 to 1, gold replacedsilver as circulating money. Gold ratherthan silver was taken to the mint forcoinage, and the United States beganmoving toward a gold standard. Under abimetallic system, experience taughtthat the metal overvalued at the mint,compared to the free market, tended todrive the other metal out of circulationas predicted by Gresham’s Law.

The last half of the 19th century saw avigorous rivalry develop between bimet-allism and the gold standard. The UnitedStates and France were the strongest sup-porters of bimetallism, and the UnitedKingdom championed the cause of thegold standard. The difficulties of keepingmint prices and market prices in linewere a severe drawback to bimetallicstandards, and the major trading partnersof the world turned to the gold standardtoward the end of the century.

See also: Coinage Act of 1792, Crime of ‘73,Free Silver Movement, Gresham’s Law,Latin Monetary Union, Monetary Law of1803, Symmetallism

ReferencesChown, John F. 1994. A History of Money.Klein, John J. 1986. Money and the Econ-

omy, 6th ed.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.

BISECTED PAPER MONEY

Cutting notes into two or more pieces hasseemed the answer to monetary and finan-cial difficulties in more than one situation.Immediately following World War II, thegovernment of Finland, strapped for

Bisected Paper Money | 47

resources, bisected notes in denomina-tions of 500, 1000, and 5,000 markkaa.The left halves of the notes continued tocirculate at a half of the original facevalue, without any type of governmentoverstamp, and the right halves became aforced loan to the government.

Greece implemented a similar expedi-ent on two occasions. In 1915, the 100-drachma note was cut into a 75-drachmai and 25-drachmai note,mainly to meet a shortage of smallchange. In 1925, the Greek governmentbisected notes as a means of raising aforced loan. Similar to the Finnishepisode, the Greek government bisectedcirculating notes, letting one half of eachnote circulate at a half of its original facevalue and holding the other half as a loancertificate. These bisected notes also cir-culated without a government overstampor overprint signifying their new value.

In 1944, Colombia faced a shortage ofsmall change because people were hoard-ing coins to sell to tourists at inflatedprices and to convert into buttons. TheBanco de la Republica de Columbiawithdrew 1-peso notes dated 1942 and1943, bisected the notes, overprintedeach half note as now equal to a halfpeso, and recirculated the half pesos.

Toward the close of World War I, offi-cials of the Ottoman Empire cut 1-livrebanknotes into quarters, each equalingone-quarter of a livre. New denomina-tions and signatures were overprinted oneach note. The one-quarter livre noteswere apparently needed to meet the needfor small change.

With the onset of World War I,Australia faced difficulty shipping cur-rency to the 740 or so Fanning Islands.Virtually everyone on the islands was inthe employ of Fanning Island PlantationLimited, a company engaged in

exporting coconuts. The local managerof the plantation, with the aid of the U.S.military, arranged to have £1 “plantationnotes” printed in Hawaii and delivered tothe islands. At the end of the war, Aus-tralian currency again circulated on theisland, and most of the plantation noteswere withdrawn, but some were bisectedand used as movie tickets. The left halfbore a 1-shilling mark and the right halfbore a 2-shilling mark, reflecting the costof attending movies on the islands.

The Bank of England has bisectednotes as a security measure. After 1948,the new state of Israel sent bisected banknotes to the Bank of England forredemption. The notes were bisected andsent in two separate shipments, as pro-tection against robbery.

The common theme in the history ofbisected paper money is the exigenciesof war. Bisected notes either replace dis-appearing small coinage or enable thegovernment to arrange a forced loan onthe government’s terms. The bisection ofnotes as protection against robbery doesnot affect money in circulation. It there-fore is not a tool of monetary policy, butonly a detail of handling bankingoperations.

See also: Greek Monetary Maelstrom

ReferencesBeresiner, Yasha. 1977. A Collector’s Guide

to Paper Money.Freris, A. F. 1986. The Greek Economy in the

Twentieth Century.

BLAND–ALLISON SILVERREPURCHASE ACT OF 1878

The Bland–Allison Silver RepurchaseAct of 1878 reaffirmed the status of thesilver dollar as legal tender, and provided

48 | Bland–Allison Silver Repurchase Act of 1878

for the limited coinage of silver dollars.The Coinage Act of 1873 made no provi-sion for the coinage of silver dollars, anddropped the silver standard from the def-inition of the dollar. It left preexisting sil-ver dollars as legal tender—though nonewere in circulation at the time—but anamendment to coinage laws in 1874made silver coins legal tender only fordebts up to $5. The Act failed to establishso-called free silver; that is, it did notcommit the government to mint all thesilver brought to the mint. Silver coinagewas limited and gold coinage was unlim-ited. Congressman Richard P. Bland ofMissouri introduced the bill in the Houseof Representatives, and Senator WilliamB. Allison of Iowa guided the bill throughthe Senate. The act provided:

That there shall be coined, at theseveral mints of the United States,silver dollars of the weight of fourhundred and twelve and a halfgrains troy of standard silver, asprovided in the Act of January 18,1837, on which shall be thedevices and superscriptions pro-vided by said act; which coinstogether with all silver dollarsheretofore coined by the UnitedStates, of like weight and fineness,shall be legal tender at their nomi-nal value, for all debts and duespublic and private, except whenotherwise provided by contract.

The bill that passed the House of Rep-resentatives provided for the free coinageof silver. It read that “any owner of silverbullion may deposit the same with anyUnited States mint or assay office, to becoined into such dollars for his benefitupon the same terms and conditions asgold bullion is deposited for coinage

under existing laws.” The Senateamended the bill, substituting the free sil-ver provision with a limit on the coinageof silver to not less than $2 million ormore than $4 million per month. Anamendment making the silver dollarsconvertible into gold failed, as did anamendment that forbade the use of silverdollars in payment for interest on thepublic debt. Measures to increase the sil-ver content of silver dollars also failed.

Also, the act directed the president ofthe United States to invite Europeannations to “join the United States in aconference to adopt a common ratiobetween gold and silver, for the purposeof establishing internationally the use ofbimetallic money, and securing fixity ofrelative value between those metals.”This provision led to the InternationalMonetary Conference of 1878, in whichthe United States urged the adoption of agold-silver bimetallic standard, but theEuropean nations were not interested.

President Rutherford B. Hayes vetoedthe Bland–Allison Act, citing the deterio-ration in the value of silver and theinjustice to creditors receiving payment insilver. The Senate voted 46 to 19 to over-ride Hayes’s veto, and the House voted196 to 73 to override the veto, making theBland–Allison Act the law of the land.

President Hayes had vowed to veto afree silver bill, and he attached little sig-nificance in the Bland–Allison bill to theprovision that limited the coinage of silver.The silver advocates were not happy, andthe push for free silver took on the aura ofa populist movement as the century pro-gressed. The government apparently keptits silver purchases to the minimumallowed of $2 million per month. Thecoinage of silver continued until 1890,when the Sherman Silver Act required thegovernment to almost double its silver

Bland–Allison Silver Repurchase Act of 1878 | 49

purchases, but substituted the issuance oftreasury notes for the coinage of silver.After the enactment of the Sherman SilverAct, concern over the future of the goldstandard in the United States sparked afinancial panic and Congress repealed it in1893. The government discontinued thepurchase of silver under the Bland–Allisonand Sherman acts.

See also: Bimetallism, Crime of ‘73, Free Sil-ver Movement, Sherman Silver Act of 1890,Silver

ReferencesFriedman, Milton. 1992. Money Mischief:

Episodes in Monetary History.Laughlin, J. Laurence. 1896/1968. A History

of Bimetallism in the United States.Meyers, Margaret G. 1970. A Financial His-

tory of the United States.Nugent, Walter T. K. 1968. Money and Amer-

ican Society: 1865–1880.

BRETTON WOODSSYSTEM

From 1946 until 1971 the Bretton WoodsSystem governed foreign exchange ratepolicies in the world economy. The for-eign exchange rate is the rate at whichone country’s currency can be convertedinto another country’s currency. The sys-tem took its name from Bretton Woods,New Hampshire, the 1944 site of theinternational conference of monetaryofficials who created it.

For an individual country, foreignexchange rates determine the cost ofimported products to domestic con-sumers and the price of domestic exportsto foreign buyers. For example, the for-eign exchange rate between Britishpounds and U.S. dollars determines thecost of a British pound if purchased by a

50 | Bretton Woods System

Representatives Richard Bland (left) and William Allison, authors of the Bland–Allison SilverRepurchase Act of 1878. (Library of Congress)

U.S. dollar, and conversely, the cost of aU.S. dollar if purchased by a Britishpound. Therefore, this exchange rate willdetermine the cost in dollars of Britishgoods sold in the United States, and thecost in pounds of U.S. goods sold inBritain. Thus, foreign exchange ratesdetermine the competitiveness of a coun-try’s goods and services in the worldmarket. Economies rise and fall withchanges in foreign exchange rates.

Before World War I, the world econ-omy was on a gold standard, which fixedthe value of each country’s currency interms of a fixed weight of gold, therebysetting exchange rates between currenciesin the process. After World War I, govern-ments returned to the gold standard, butthe result was unsatisfactory. The samegovernments abandoned the gold standardduring the Great Depression, leaving for-eign exchange rates free to float with vary-ing degrees of government involvement.

The Bretton Woods System proposedto combine the stability of fixedexchange rates with the flexibility offloating exchange rates in a system of so-called adjustable peg exchange rates.Under an adjustable peg system, eachcountry declared a par value of its cur-rency in terms of gold and committeditself to buying and selling foreign cur-rency and gold reserves to maintain thispar value in foreign exchange markets.An individual country could not changethe pegged value of its currency morethan 10 percent without permission ofthe International Monetary Fund, apermanent international institution cre-ated by the Bretton Woods System.

In 1971, the Bretton Woods Systemcame to an end because the United Statesneeded to devalue its currency. TheUnited States experienced a large outflowof dollars relative to inflow because of

foreign expenditures from the VietnamWar and other obligations in foreigncountries. By that time, however, mostcountries kept their currencies pegged tothe value of the dollar rather than thevalue of gold, a practice that crept intothe Bretton Woods System because goldmonetary reserves were in short supply.In an effort to save the Bretton WoodsSystem, the United States devalued itsdollar relative to gold, but the outflow ofdollars remained excessive. In 1973, theworld economy went on a system of flex-ible exchange rates.

The Bretton Woods System keptalive a vestige of the gold standardwhen gold monetary reserves wereinadequate to support the growth inworld trade and money stock. It alsoprovided stable exchange rates thatreduced the risk and uncertainty associ-ated with foreign trade, a factor thatmight have helped world trade recoverfrom the disruption of world war. Per-haps its greatest accomplishment wasthe cooperation it fostered among trad-ing partners in an important area ofcommon interest.

See also: Balance of Payments, Gold BullionStandard, Foreign Exchange Markets, Inter-national Monetary Fund, World Bank

ReferencesAcheson, A. L. K. 1972. Bretton Woods

Revisited.De Vries, Margaret Garritsen. 1987. Balance

of Payments Adjustment, 1945–1986: TheIMF Experience.

Snider, Delbert. 1975. Introduction to Inter-national Economics, 6th ed.

BRIDE MONEY

See: Ivory, Pig Standard of New Hebrides,Whale Tooth Money in Fiji

Bretton Woods System | 51

BRITISH GOLDSOVEREIGN

During the 19th century, the British goldsovereign coin was the pride of the BritishEmpire, the last coin to achieve significantinternational stature before the era ofpaper money superseded metallic coinage.It was probably the most successful coinever turned out by the English mint.Toward the latter part of the nineteenthcentury it became the foremost coin on thestage of international trade, contributing toLondon’s status as a financial capital ofthe world.

Lord Liverpool’s Coinage Act of 1816had established gold as the sole standardmeasure of value for English coinage,and had provided for the coinage of a20-shilling gold piece containing123.3 grains of gold. Under the Carolin-gian system, which survived in Britainuntil 1971, £1 equaled 20 shillings,which equaled 240 pence. The new coinwas called the sovereign. Over a span ofapproximately 100 years, the sovereignlived up to Lord Liverpool’s dictum thatgold coins should be made as perfect andkept as perfect as possible.

The sovereigns were popular in for-eign countries and many left Englandpermanently. Sometimes fluctuations inexchange rates made it profitable to meltdown sovereigns, and resell the gold bul-lion to the English mint, where it wasrecoined. England did not directly feel aspecial duty to provide coins for foreigngovernments. The burden of keeping theworld supplied with coins, however,seemed worth bearing in light of theadvantage that a sound international coinafforded English commerce. Sovereignswere also struck in Sydney, Australia,and Bombay, India.

The United Kingdom continued tomint sovereigns until 1914, when goldcoinage ceased to circulate domestically.During the interwar period, the UnitedKingdom returned to a gold bullion stan-dard, but gold coins were not minted.During the post–World War II era, sov-ereigns were minted intermittently andsold as a hedge against inflation, but notas circulating currency.

The famous historian Arnold Toyn-bee, in Volume 7 of his Study of History,cited evidence that famous coins, such asthe Athenian owls continued to circulatein out-of-the-way parts of the world longafter the disappearance of the govern-ment that issued them. According toToynbee, “it may be anticipated that theEnglish gold ‘sovereign,’ of which Eng-lishmen saw the last in A.D. 1914, mightstill be circulating in Albania for genera-tions, and in Arabia for centuries afterthat portentous date” (Toynbee, 1954,317)

The British pound sterling was thepreeminent international currencyduring the 19th and early 20th cen-turies, comparable to the U.S. dollar inthe post–World War II era. The poundsterling, however, was the last interna-tional currency, the prestige of whichwas dependent on a precious metalcoin of unquestioned weight andpurity.

See also: Gold Standard, Pound Sterling

ReferencesChallis, C. E., ed. 1992. A New History of the

Royal Mint.Feavearyear, Sir Albert. 1963. The Pound Ster-

ling: A History of English Money, 2nd ed.Toynbee, Arnold. A Study of History.

Vol. 7. London: Oxford UniversityPress, 1954.

52 | British Gold Sovereign

BYZANTINEDEBASEMENT

In the 11th century CE, the ByzantineEmpire began debasing its gold coinage.For seven centuries Byzantium hadmaintained the purity of a gold coinageinherited from the reforms of the Romanemperor Constantine I.

Until the 11th century, Byzantine goldcoins show a gold content rangingbetween 22 and 24 carats fine, probablythe highest standard of purity obtainablewith the technical processes of the time.The Byzantine emperor Michael IV (r.1034–1041) had practiced the money-changing profession before his elevationto emperor, and under his rule the Byzan-tine mints turned out coins varyingbetween 12 and 24 carats. The purity ofthe gold coins continued to decline.Under Nicephorus III Botaneiates (r.1078–1081), gold coinage averaged about8 carats. By 1090, gold coins consisted ofan alloy containing a bit of gold, more sil-ver, and much more copper.

In 1092, Alexius I (r. 1081–1118)introduced a reformed coinage based onfour metals. A standard gold coin wasstruck with a fineness of 20.5 carats, a sil-ver/gold alloy coin was struck with a fine-ness of 5 and 6 carats, a billon coin wasstruck containing 6 to 7 percent silver withthe remainder of copper, and two coppercoins were struck. This system providedthe Byzantine Empire with a stablecoinage throughout the 12th century.

In 1204, Constantinople fell to Latincrusaders in the Fourth Crusade, and thegold coinage of Byzantium began adownward slide toward debasement. In1253, William of Rubruck recorded anincident that occurred when the Tartarsof Crimea were handed Byzantine gold

coinage. He reported that the Tartersrubbed the coins with their fingers andthen held their fingers to their noses totest by smell whether the coins weremade of copper or gold. Apparently, theTartars were trying to detect a sour smellassociated with copper, and the Byzan-tines debased their gold coinage withcopper. It was said that India produced acopper that was bright, clean, corrosionresistant, and virtually indistinguishablefrom gold. Supposedly, Darius haddrinking cups of gold and of copper, andthese cups could not be distinguishedexcept by their smell.

In 1261, the Byzantine Empire wasrestored under a new dynasty, but the newgovernment continued to strike debasedgold coinage. In the 14th century, debasedgold coins ranged between 11 and 15 carats, and a reformed silver coinagebegan to displace gold coins. The finalblow to Byzantine gold coinage camewhen Constantinople fell to the Turks in1453. The Emperor ordered that thesacred churches be stripped of preciousmetal vessels and objects and that these

Byzantine Debasement | 53

Byzantine gold solidus of Constantine VII, 945.(Werner Forman Archive)

vessels and objects be melted down andstruck into coin. The Emperor needed thecoin to pay the soldiers, ditch-diggers, andothers working to defend the city.

Byzantium’s monetary disorder mir-rored the deterioration of Byzantinesociety. Travelers and diplomats at thetime noted the palaces, churches, andmonasteries that were in ruins, and thedestroyed houses and neglected fields.

The Byzantine shift from a goldcoinage to a silver coinage marked ageographical shift in metallic coinage.Between the 7th century and the 12thcentury, the Eastern world depended

primarily on a gold-based coinage, andthe Western world depended on a silver-based coinage. During the 13th and 14thcenturies, a reversal occurred, with theEastern world shifting to a silver-basedcoinage and the Western world to a gold-based coinage.

See also: Gold

ReferencesDurant, Will. 1957. The Reformation.Hendy, Michael F. 1985. Studies in the

Byzantine Monetary Economy.Williams, Jonathan, ed. 1997. Money: A

History.

54 | Byzantine Debasement

55

C

CAISSE D’ESCOMPTE

The Caisse d’Escompte performed someof the functions of a central bank in pre-Revolutionary France. After the hyper-inflationary fiasco of John Law’s BanqueRoyale in the 1720s, the term “bank”acquired a negative connotation in France,and it was not used until the founding ofthe Bank of France in 1800. Despite itsname, the Caisse d’Escompte was a bank.

The failure of John Law’s BanqueRoyale thoroughly soured the Frenchpeople on banks that issued bank notes,thus retarding the continued developmentof French banking for several decades. In1767 a so-called Caisse d’Escompte wasestablished to purchase commercialpaper and government securities, paying4 percent interest (5 percent during war)and charging a 2 percent commission.The Caisse d’Escompte also enjoyed amonopoly on the issuance of coinage.

The first Caisse d’Escompte failed,but Finance Minister Turgot establishedby government decree another Caissed’Escompte in 1776. This institution was

empowered to discount bills of exchangeand commercial paper at 4 percent, buyand sell gold and silver, and act as thegovernment’s bank. It could acceptdeposits from the public, but could notborrow funds at interest, or accept anydebt that was not payable on demand. Itcould issue bank notes, because they paidno interest and were payable on demand,but could not issue less liquid assets,such as interest-bearing bonds. At first,the bank notes were not legal tender. Per-haps as a lesson learned from the BanqueRoyale, the Caisse d’Escompte could notengage in any commercial or maritimeenterprise, including insurance.

By 1783, the French government wasalready inching toward the abyss ofbankruptcy that would provide the sparkfor the French Revolution. The Caissebecame overly generous issuing banknotes to purchase government debt, andpublic confidence suffered. The govern-ment, however, was able to float a lotteryloan and repay its debt to the Caisse.Also, the capital of the Caisse wasincreased from 12 million to 15 million

livres, the term of discounted commercialpaper was restricted to 90 days, and theminimum coin reserve against bank noteswas raised to 25 percent. The interest rateon commercial paper maturing past30 days was increased to 4.5 percent.With these reforms, the Caisse won areprieve from public distrust.

By 1783, the fiscal crisis of the ancienrégime had deepened, and the Caisse andits stockholders became captives of theFrench government. In February of thatyear, the Caisse was granted a privilegeto issue bank notes for 50 years in returnfor a loan of 70 million livres to theFrench government. Now the stateabsorbed virtually all the financial capitalof the Caisse. In August public confi-dence crumbled, panic erupted, and theCaisse had to redeem 33 million livres inbank notes before the panic subsided.The governing council of the Caisserefused a government offer to make thebank notes legal tender, but did requestthat the government repay the 70 millionlivre loan. The government was in noshape to meet such a request, as thatmoney would never be seen again. Publicconfidence continued to wane, mainlybecause of the close association betweenthe Caisse and government. Panic brokeout again in August 1788, draining theCaisse’s coin reserves from 50 million to25 million livres, and convertibility wassuspended. Although repayment of the70-million-livre loan was out of the ques-tion, the government came to the aid ofthe Caisse by making its bank notes legaltender. It also authorized the redemptionof bank notes in discounted commercialpaper.

The Caisse advanced more funds tothe government before revolution brokeout in July 1789. The revolutionary gov-ernment continued to receive advances

as the National Assembly debated pro-posals to transform the Caisse into anational bank. The National Assemblyissued its own paper money, the infa-mous assignats, and the Caisse receivedpayment in these inconvertible, legaltender notes. The Caisse wobbled on,still making advances to the government,until August 1793 when the revolutionarygovernment took over its assets.

The first two French experiments withpublic banking, the Banque Royale andthe Caisse d’Escompte, ended in hyper-inflation, a reminder of the importance ofdiscipline in note-issuing banks. Englandhad a much more successful experiencewith the Bank of England. Despite twounhappy experiences with public banks,France under Napoleon established theBank of France, and the organization ofthe Bank of France strongly influencedthe design of the Federal Reserve Systemin the United States.

See also: Bank of France, Hyperinflation duringthe French Revolution, Law, John

ReferencesKindleberger, Charles P. 1984. A Financial

History of Western Europe.Wilson, J. S. G. 1957. French Banking

Structure and Credit Policy.

CALDERILLA

See: Vellon

CAPITAL CONTROLS

Capital controls restrict the ability ofhouseholds and businesses to hold assetsdenominated in foreign currency. Capitalcontrols can restrict either the inflow ofcapital or the outflow of capital. Restric-tions on the inflow of capital can include

56 | Capital Controls

bans on foreign-owned deposits indomestic banks and thrifts, foreign pur-chase of domestically issued stocks andbonds, and foreign purchase of tangiblecapital such as land and plant andequipment. Restrictions on the outflow ofcapital can prevent citizens from holdingforeign currency deposits in foreignbanks and thrifts, purchasing stocks andbonds issued in foreign countries, andpurchasing land, plant, and equipment inforeign countries.

Governments have various motives forimposing capital controls. In the 1970s,Germany imposed restrictions on theinflow of foreign capital out of concernfor the competitiveness of its exports inforeign markets (Allen, 2001, 228). For-eigners purchasing German bonds tendedto bid up the value of Germany’s cur-rency in foreign exchange markets. Asthe value of a country’s domestic cur-rency climbs in foreign exchange mar-kets, its exports become costlier inforeign markets. Germany banned interestpayments on large bank accounts held bynonresidents and nonresident purchase ofbonds. Germany lifted these restrictionsin 1981. Japan, another country concernedabout the competitiveness of its exportsabroad, banned foreign ownership ofJapanese assets until 1980. In 1984,Japan lifted remaining capital controls(Allen, 2001, 228).

Governments more concerned aboutcurrency depreciation are more likely toimpose restrictions on the outflow of cap-ital. Currency depreciation can unleash awave of inflation. It makes foreignimports costlier. The United Kingdomenforced restrictions on capital outflowsuntil 1979. France and Italy restrictedcapital outflows until 1986 (Allen, 2001,228). Developing countries may restrictcapital outflows because they want to

keep capital at home to finance domesticeconomic development. They may allowtheir citizens to convert domestic cur-rency into U.S. dollars if the dollars gotoward the purchase of a tractor or otherpiece of capital equipment. They may notallow their citizens to convert domesticcurrency into U.S. dollars to hold a bankaccount in a Miami bank.

The United States has been among thecountries most inclined to allow theunrestricted inflow and outflow of capital.In the 1960s, however, the United Stateslevied an “interest rate equalization tax”that removed the incentive of U.S. citi-zens to purchase foreign interest-bearingassets (Allen, 2001, 228). The tax lastedinto the 1970s. The North American FreeTrade Agreement (NAFTA) provides forthe free movement of capital betweenCanada, Mexico, and the United Stateswith a few exceptions. The United Statesprohibits foreign ownership of radio sta-tions, and limits the percent of a U.S. airlinethat can be owned by foreign investors.Mexico prohibits foreign investment inits domestic oil business. In 2005, Chinamake a takeover bid for Unical, a large U.S.oil company. Although Chinese purchaseof Unical did not strictly violate U.S.law, China dropped the takeover bid afterstrong opposition arose in Congress.Opponents of the takeover bid were con-cerned about the national defense reper-cussions of letting China own a largestake in the U.S. oil industry.

Part of the trend toward globalizationhas been the removal of all capital con-trols by both developed and developingcountries. Capital controls as economicpolicy have now largely lost favor. Someexceptions include cases where nationaldefense may be at risk.

See also: Currency Crises, Hot Money

Capital Controls | 57

ReferencesAllen, Larry. 2001. The Global Financial

System.Allen, Larry. 2005. The Global Economic

System Since 1945.

CAPITAL FLIGHT

Capital flight usually denotes massiveshifts in money from investments in onecountry to investments in another country.It happens when investors shun country-specific risks out of fear of currencydepreciation, inflation, or political insta-bility. Capital flight can refer to move-ments of money from one industry toanother to escape volatility or poorreturns, but that species of capital flight isless likely to threaten economic stability.

Capital flight ordinarily does not refer tothe flight of human capital, which can beanother problem for some countries. Sudden,massive outflows of financial capital froma specific country can shake up the entireglobal financial system.

A wholesale exodus of foreign capitaltypically indicates an expectation ofdomestic currency depreciation in thenear future. In a currency crash, investorscan easily watch foreign investments fallin value between 20 and 30 percentovernight. Out of self-defense, foreigninvestors and currency traders keep theirfingers on the pulse of macroeconomicfundamentals in the countries where theyhave investments and hold currencies.Countries are good candidates for speculativeattacks and currency crashes if they have

58 | Capital Flight

Traders at a Moscow investment firm, concerned about the flight of capital from Russia, work thephones to keep abreast of Russia’s financial developments, July, 1999. (AP Photo/AlexanderZemlianichenko)

large current account deficits, largepublic debts, slow economic growth, andlow foreign exchange reserves.

Capital flight is not limited to theactivities of foreign investors. With therise of oil prices between 2004 and 2007,Venezuela enjoyed double-digit eco-nomic growth and a large inflow of for-eign currency. Under these conditions, aspeculative attack on the currency andcurrency depreciation remained unlikely.Nevertheless, Venezuela experienced cap-ital flight because of distrust of one per-son, Hugo Chavez, the president ofVenezuela. The citizens of Venezuelafeared that the government under hisleadership might resort to confiscatingtheir bank accounts and businesses. Oneeconomist estimated that over three yearsVenezuela lost one billion dollars permonth because of Venezuelans protectingtheir capital by shifting to foreign invest-ments (Katz, 2007). South Florida wasthe safe haven for much of the Venezue-lan capital flight. Venezuelan bankdeposits in Miami banks went by the term“CD dollars,” meaning Chavez-driven.Real estate agents in Florida also saw aninflow of Venezuelan capital to purchasecondominiums and other real estate.

Fear of inflation is another factor thatoften drives domestic investors to safe-guard their capital by favoring invest-ments in other countries. In addition,domestic investors often suspect that adebt-ridden government will default ondomestic debt holders before it defaultson foreign debt holders.

Capital flight can be a serious problemfor developing countries. These countriesoften do not generate enough domesticsavings to finance economic develop-ment. They in effect have a capital shortage,which becomes worse if the availabledomestic capital flees to another part of

the world. One study claims that Africais a net creditor to the rest of the world(Cera, Rishi, Saxena, 2005). The externaldebt that Africa owes to the rest of theworld is less than the private assetsAfricans hold abroad when the privateassets are measured by accumulated capitalflight. At the same time that one of thepoorest continents is a net creditor tothe world, one of the richest countries,the United States, is a net debtor.

See also: Currency Crises

ReferencesCerra, Valerie, Meenakshi Rishi, and Sweta

C. Saxena. “Robbing the Riches: CapitalFlight, Institutions, and Instability.” IMFWorking Paper (WP/05/199), October2005.

Katz, Ian. “Capital Flight South Florida.”Business Week, June 25, 2007, p. 46.

CAROLINGIAN REFORM

Around 755 CE the Carolingian Reformestablished the European monetary system,which can be expressed as:

1 pound = 20 shillings = 240 pennies.Originally, the pound was a weight ofsilver rather than a coin, and from apound of pure silver 240 pennies werestruck. The Carolingian Reform restoredthe silver content of a penny that wasalready in circulation and was the directdescendant of the Roman denarius. Theshilling was a reference to the solidi, themoney of account that prevailed inEurope before the Carolingian Reform.The solidi money of account originatedfrom the Byzantine gold coin that wasthe foundation of the international mon-etary system for more than 500 years.The shilling acted to bridge the newmonetary system to the old, an important

Carolingian Reform | 59

role because debts contracted prior to theReform were defined in solidi.

For three centuries following thereform, the only coin minted in Europewas the silver penny. Shillings andpounds were ghost monies—convenientshorthand for keeping accounts, but notactual coins. Rather than writing down“2,400 pennies,” it was easier to write orsay “10 pounds,” and rather than writeor say “12 pennies” it was easier to writeor say “one shilling.” The silver pennywas the linchpin of the Carolingian sys-tem, but major transactions requiredunwieldy numbers of pennies, countinginto the tens or even hundreds of thou-sands, and the pound and shilling werehandy measures of pennies.

The Carolingian Reform was thework of Pepin the Short (r. 751–768),the first king of the Carolingian dynastyand father of Charlemagne. In additionto establishing the Carolingian monetarysystem, the Reform also reduced thenumber of mints, strengthened royalauthority over the mints, and providedfor uniform design of coins. All coinsbore the ruler’s name, initial, or title, signi-fying royal sanction of the quality of thecoins.

Charlemagne spread the Carolingiansystem throughout Western Europe.The Italian lira and the French livrewere derived from the Latin word for“pound.” Until the French Revolution,the unit of account in France was thelivre, which equaled 20 sols or sous,which in turn equaled 12 deniers. Dur-ing the Revolution, the franc replacedthe livre, and Napoleon’s conquestspread the franc to Switzerland andBelgium. The Italian unit of accounthas remained the lira, and in Britain thepound-shilling-penny relationship sur-vived until 1971.

Even in England the pennies wereeventually debased, leaving 240 penniesrepresenting substantially less than apound of silver, and the concept of apound as a money unit of accountbecame divorced from a pound-weightof silver.

After the breakup of the CarolingianEmpire, pennies debased much faster,particularly in Mediterranean Europe,and in 1172 Genoa began minting a sil-ver coin equal to four pennies. Rome,Florence, and Venice followed withcoins of denominations greater than apenny, and late in the 12th centuryVenice minted a silver coin equal to 24pennies. By mid-13th century, Florenceand Genoa were minting gold coins,effectively ending the reign of the silverpenny (denier, denarius) as the only cir-culating coin in Europe.

See also: English Penny, Ghost Money, PoundSterling, Silver

ReferencesChown, John F. 1994. A History of Money.Cipolla, Carlo M. 1956. Money, Prices, and

Civilization in the Mediterranean World.

CASE OF MIXT MONIES

At the turn of the 17th century, the Caseof Mixt Monies (1601), one of the mostfamous legal-tender cases in Englishhistory, upheld the principle in English-speaking countries that sovereigngovernments command the prerogativeto confer legal-tender status on a mone-tary unit.

On April 23, 1601 Elizabeth Brett pur-chased £200 of wares from a Londonmerchant. Brett paid £100 up front andcommitted herself to pay in Septemberanother £100 in current and lawful money

60 | Case of Mixt Monies

of England. The September payment wasalso to be paid in Dublin, Ireland. Animportant complication occurred on May24, when Queen Elizabeth sent to Irelandcertain “mixt monies” from the TowerMint, with official stamps and inscrip-tions, and proclaimed that the mixedmoney would be the lawful and currentmoney of Ireland, at rate of a shilling fora shilling, and a sixpence for a sixpence,and that none should refuse it. The Queenalso proclaimed that after July 10 othermoney in Ireland would be valued only asbullion, and not as current money. Themixed money was of a baser alloy thanEngland’s coinage and was not currentand lawful money in England. On the dayof payment, Brett tendered payment in£100 of the mixed money, which, accord-ing to proclamation of the English crown,was current and lawful money in Ireland.

The London merchant protested, notwanting to accept the baser currencywhen the original contract specified ster-ling, and brought the dispute to court.The issue at hand was whether a timecontract among parties required paymentin the money that was current and lawfulat the time the parties entered into thecontract, or the money that was currentat the time in the future when the con-tract specified that payment be made.The court found in favor of Brett, firmlysanctioning the right of the sovereignpower to endow a monetary unit withlegal-tender status.

The Constitution of the United Statesdid not expressly confer on Congress thepower to endow a monetary unit withlegal tender status, and forbade the statesfrom declaring any money as legal tenderother than gold and silver coins. In 1883,the Supreme Court upheld the right ofCongress to make a paper money issuelegal tender, citing, among other things,

that historically such a right belongedwith the prerogatives of sovereignty.

See also: Juilliard v. Greenman, Legal Tender

ReferencesBreckinridge, S. P. 1903/1969. Legal Tender:

A Study in English and American Mone-tary History.

Dunne, Gerald T. 1960. Monetary Decisionsof the Supreme Court.

CATTLE

A Gothic translation of the Bible(340–388 CE) made use of the Gothicterm for cattle, faihu, to stand for“money.” The English word “fee” is adescendant of the German word forcattle, Vieh. In the language of theAnglo-Saxons, Vieh evolved into theword feoh, which referred to cattle, prop-erty, treasury, price, reward, levy, tribute,and money. Feoh became “fee” in modernEnglish, a reminder of the importance ofcattle as money in early England. Like-wise, the English word “pecuniary”stems from the Latin word for cattle,pecos. The modern monetary unity ofIndia, the rupee, evolved from the Sanskritword for cattle, rupa.

At some point in history, cattle havefilled a niche in the money supply in vir-tually every geographical area of theglobe, from the most northern Asiaticpeople of Russia, to the southernmostpeople of Africa. The Europeans broughtcattle to the New World, where theyagain played the role of money in remoteareas.

Homer’s Iliad and Odyssey makenumerous references to the use of oxenas a standard of value. A big tripod, thefirst prize in a competition, was worth12 oxen, and a woman with many skills

Cattle | 61

was worth four oxen. An unfired cal-dron was valued at one ox. When twoopposing heroes held a friendlyexchange of arms in the midst of battle,one set of arms was valued at 100 oxen,and the other at only nine oxen. A sonof Priam, king of Troy, was capturedand sold into slavery for 100 oxen, andPriam ransomed him for 300 oxen. Inthe Odyssey, one of the suitors whoinvaded Odysseus’ house during hisabsence sought to appease him, offer-ing to give him bronze and gold equalin value to 20 oxen, suggesting thatoxen were a standard of value but not amedium of exchange.

One of the most advanced cattle mon-etary standards could be found inmedieval Iceland. Icelandic law fixed thestandard unit of value as a cow of threeto ten winters in age. The cow had to fallwithin a medium size, be unblemished

and horned, have given birth to fewerthan three calves, and be giving milk. Acow meeting these standards was calleda kugildi, the standard monetary unit ofmedieval Iceland. According to the law,values ranged from two-thirds of akugildi for a sterile cow to one and one-fourth kugildi for a five-year-old ox, oneand one-half kugildi for a six-year-oldox, and so forth. The law also fixed thevalue of horses, rams, ewes, goats, andpigs in terms of kugildi.

Cattle monetary standards have sur-vived into the modern era, particularly inAfrica. In some of these areas cattle havebecome an ecological problem. They areoverstocked because they are a presti-gious form of wealth that is valuedbeyond the bounds of economic practi-cality. The excess numbers of cows haveovergrazed the land, eroding the soil.Traditionally, tribal raids killed offexcess supplies of cattle, helping to holdthe cattle population in check. Now, agrowing cattle population is anunwanted side effect of the demise oftribal warfare. Government authoritiessearch for ways to introduce modernmoney as a means of reducing the cattlepopulation and sparing the ecology. Oneproposal in a report of the Kenya Agri-cultural Commission suggested that thegovernment issue coins bearing imagesof cows or goats, and provide specialtokens shaped in the image of livestockand convertible into money.

Cattle were close to the ideal mone-tary medium in the earlier stages of eco-nomic development of many societies.They were a source of food and clothing,a store and symbol of wealth, andobjects of religious veneration. Well-formed and unblemished cattle were indemand as religious sacrifices. Theywere movable and reproduced, earning a

62 | Cattle

Illustration from an 18th century edition ofVirgil’s Georgics, written in 29 BCE. In theforeground, a horse and cow are assessed byfarmers. (Jupiterimages)

crude form of interest. They could fulfillall the basic roles of money, acting as amedium of exchange, a store of value, ora standard of value.

See also: Commodity Money, CommodityMonetary Standard, Goat Standard of EastAfrica

ReferencesDavies, Glyn. 1994. A History of Money.Einzig, Paul. 1966. Primitive Money, 2nd ed.

CELTIC COINAGE

The coinage of the Celtic tribes in North-ern Europe and Great Britain has oftenbeen little more than a footnote in thehistory of the vast coinage of Greece andRome, perhaps because some of theCeltic coins were imitations of Mace-donian and Roman coins. Nevertheless,hundreds of thousands of Celtic coinshave been discovered, sometimes inhoards of up to 40,000 pieces. Thesecoins tell more about the life and thoughtof the Celts than any other artifactsfound from this society that left fewwritten records. Certain Celtic rulers areknown to history only because of theirrepresentation on coins.

The earliest dated coins found inBritain are the golden staters struck byPhilip II of Macedon, and imitations ofthis stater are among the earliest Celticcoins found in northwestern Europe.Philip’s golden stater found its way tothe Celts either through Celtic mercenar-ies in the pay of Alexander the Great,through the migration of peoples, orthrough a trickling trade between Britainand the eastern Mediterranean. Betweenthe first century BCE and the firstcentury CE, the Celts struck imitationsof the Macedonian golden stater. In addi-

tion, the Celts minted coins from silver,bronze, and a mixture of tin and coppercalled potin. The potin coins were castrather than hammered or struck andpassed as everyday token money. AsCeltic coinage evolved beyond the imita-tion stage, it abandoned the Greekimages, displacing them with images ofthings that reflected the pastoral life of theCelts—horses, boars, or stalks of wheat,among other things.

As Rome pushed the frontiers of itsempire northward and across the channelto England, indigenous Celtic coinagedisappeared in favor of Roman coinage.After the disintegration of the WesternRoman Empire in the fifth century CE,all coinage disappeared in the formerCeltic countries for nearly 200 years.During the sixth and seventh centuries,the Merovingian Gauls began mintinggold and silver coins, and the winds oftrade carried these coins to Anglo-SaxonEngland. During the seventh century,these gold coins were progressivelydebased with silver.

Evidence of Anglo-Saxon goldcoinage appears in the seventh century.The prime denomination of these coinswas the thrysma, a reference to one-thirdof a gold solidus. These coins also suc-cumbed to debasement, leaving silver asthe principle monetary metal. Silvercoins were often debased with copper orbrass, until the eighth century, when full-weighted silver coins again appeared,and the English silver penny began itslong history, lasting 1,000 years.

See also: English Penny

ReferencesAllen, D. F. 1980. Coins of the Ancient Celts.Davies, Glyn. 1994. A History of Money.Van Arsdell, Robert D. 1989. Celtic Coinage

of Britain.

Celtic Coinage | 63

CENTRAL BANK

Central banks are banks that serve asbanker’s banks, holding deposits ofcommercial banks and making loans tocommercial banks. Typically, a centralbank also acts as the government’sbanker, and holds a monopoly on theissuance of paper money. Commercialbanks can turn to a central bank as alender of last resort in financial crises.The Federal Reserve System in theUnited States, the Bank of England, theBank of France, and the Bundesbank ofGermany rank among the worlds lead-ing central banks.

Monetary systems regulated by a cen-tral bank became the preferred form ofmonetary regulation in the latter part ofthe 19th century. The alternative to centralbank regulation is what is called “freebanking,” pioneered by Scotland in thelate 18th century. In the high tide of 19th century laissez-faire capitalism,central banks were not fully evolved, andfree banking became a trend in theUnited Kingdom and the United States.The United States abandoned the SecondBank of the United States and turned toa form of free banking. Free banking wasa system composed of a multitude ofcompeting commercial banks, each ofwhich issued its own bank notes. Underthe free banking system, no one bankcommanded a monopoly on the issuanceof bank notes, which is the position thata central bank enjoys.

Free banking denotes a banking systemin which note-issuing banks are estab-lished according to the same principlesthat govern the establishment of anyother new business enterprise. The abil-ity to start a new bank requires sufficientfinancial capital and public confidence tomake the new bank notes acceptable to

the public and to help the new bankreach a profit-making scale of operation.A new bank need not clear any legal hur-dles, such as charters or grants thatrequire a special act of government.Each bank issues its own bank notes thatit converts on demand into an acceptablemedium of exchange—often, but notnecessarily—gold. None of the banksissue notes bearing the legal status oflegal tender, or in any way favored by thegovernment. A bank’s refusal to redeemits bank notes into an acceptable mediumof exchange is equivalent to a declarationof bankruptcy.

A system of independent commercialbanks can cause instability in the econ-omy. In an economic upswing, bankshave an incentive to make as manyloans as possible, and the loans stand anexcellent chance of being repaid. Thisexpansion of loans can turn an eco-nomic upswing into an overheatedboom and inflationary spiral. In an eco-nomic downswing, on the contrary,banks find extending loans more risky,and curtail lending activities accord-ingly. This restriction on credit andmoney can push the downswing overthe precipice into a depression. Individ-ual banks, driven by the profit motive ina free banking system, add to the severityof cyclical fluctuations.

Central banks seek the public inter-est rather than strive to maximize prof-its. In the downswing, central bankssupply more credit to the system ratherthan less. In the upswing, central banksrestrict the supply of credit. Themonopoly on the issuance of banknotes and commercial bank reservedeposits gives the central bank controlover the money supply, interest rates,and credit conditions. These can beadjusted to counter the cyclical swings

64 | Central Bank

in order to smooth out these economicfluctuations.

In the 20th century, the preference forcentral banking over free banking isdogma. Nearly all the discussion weighingthe relative merits of these two systemstook place in a 50-year interval in the 19thcentury.

See also: Bank of England, Bank of France,Bank of Japan, Deutsche Bundesbank, Fed-eral Reserve System, Free Banking

ReferencesBroz, J. Lawrence. 1997. The International

Origins of the Federal Reserve System.Mittra, Sid. 1978. Central Bank Versus Trea-

sury: An International Study.Smith, Vera C. 1936/1990. The Rationale of

Central Banking and the Free BankingAlternative.

Solomon, Steven. 1995. The Confidence Game:How Unelected Central Bankers are Gov-erning the Changed Global Economy.

Timberlake, Richard Henry. 1978. The Originsof Central Banking in the United States.

CENTRAL BANK INDEPENDENCE

An independent central bank is one thatis free from short-term political control.Central banks bear responsibility forcontrolling money stock growth, interestrates, and credit conditions. It is widelybelieved that political and electoral pres-sures favor an inflationary bias on mone-tary policy. Government officials oftenwant to finance public deficits at bargaininterest rates, and prefer easy money andlow interest rates in months leading up toelections. Easy money policies usuallybring temporary reductions in unem-ployment rates before kindling inflation,making easy money an attractive option

right before an election. In the worstcases, where central bank independenceis completely lacking, central banks auto-matically purchase government bonds atrequests of treasuries and ministries offinance. When a central bank purchasesgovernment bonds, it enlarges domesticmoney stocks. Inflation correlates almostone to one with money stock growth. Gov-ernments are often content to accelerateinflation because inflation represents a taxthat can be levied without approval of leg-islative or parliamentary bodies. Key tothe rationale of the independent centralbank is insistence that central banksshould have one policy mission that standsabove all others, and that policy mission isthe maintenance of price stability, zero ornear zero inflation. Other goals often men-tioned in central bank charters includedfull employment, economic growth, andcooperation with public finance.

In the last decades of the 20th century,economists developed quantitative meas-ures of central bank independence andemployed these measures or indexes totest for correlation between central bankindependence and inflation rates over arange of countries. These studiesreported that inflation rates were lowerin countries where central banks boastedhigh degrees of independence (Alesinaand Summers, 1993).

Among the countries registering thehighest levels of central bank independ-ence were Germany, Switzerland, andthe United States. In Germany, the inde-pendence of the central bank is stronglyanchored in the law that created the cen-tral bank. In the United States, the legalbasis for central bank independenceis not as robust, but a strong, well-developed financial sector demandsthat the central bank enjoy politicalindependence.

Central Bank Independence | 65

In the last decade of the 20th century,central bank independence became ameasure of a country’s commitment toinflation containment and currency sta-bility. Other countries moved to reformcentral bank law and grant their centralbanks greater legal independence frompolitical authorities. The European Mon-etary Union required as a condition ofmembership that its members conferlegal independence on their centralbanks. Japan enacted new central banklegislation that gave greater autonomy tothe Bank of Japan. The new law becameeffective in April 1998 (Ueda, 1999). Itprohibited the Minister of Finance fromissuing orders regarding the Bank ofJapan’s general business or from dis-missing bank executives for opinions onpolicy. Critics charged that Japan’sreform did not go far enough, since itallowed two government representativesto sit in on board meetings. The govern-ment representatives do not have votingrights, but they can request postpone-ment of a vote.

Central banks argue that independ-ence increases their credibility, whichmakes it easier for them to achievetheir goal of price stability. Anti-infla-tion monetary policies often throweconomies into recession. If house-holds and businesses believe that thecentral bank will succeed in an anti-inflation policy, the recession will beshorter and shallower. A tight moneypolicy induces greater loss in outputand jobs if households and businessesbelieve that political pressure will forcea central bank to ease up before thebattle against inflation succeeds. Sofar, research has not proven the argu-ment that central bank independencedecreases the economic pain of disin-flation policies (Economist, 1999).

See also: Central Bank

ReferencesAlesina, Alberto, and Lawrence Summers.

“Central Bank Independence and Macro-economic Performance.” Journal ofMoney, Credit, and Banking (May 1993):151–162.

“There was an old lady . . .” Economist,November 20, 1993, pp. 94–97.

“Born Free.” Economist, February 27, 1999,p. 76.

Ueda, Kazuo, Wall Street Journal (EasternEdition, New York), April 8, 1999, p. 1.

CERTIFICATE OF DEPOSIT

Certificates of deposit (CDs) are interest-bearing receipts for funds deposited withbanks or other depository institutions.Depositors purchase CDs in fixeddenominations ($1,000, $10,000, etc.)and for a fixed time to maturity, whichtypically ranges between six months andfive years for CDs of less than $100,000.At maturity, the owner of a CD receivesthe original purchase price of the CDplus interest. A purchaser of a one-year,$1,000 CD bearing 5 percent interestwould receive at the end of a year $1,000,plus $50 interest. Certificates of depositin denominations less than $100,000 arenot negotiable and cannot be sold in asecondary market. Also, the issuing insti-tution imposes a substantial penalty forearly withdrawal. Since the deregulationof interest rates, CDs pay interest ratesslightly higher than the treasury billinterest rates.

Negotiable certificates of deposit comein denominations of $100,000 and up. Themost common denomination is $1 million,and time to maturity is usually six monthsor less. These CDs are sold mainly to cor-porations, state and local governments,foreign central banks and governments,

66 | Certificate of Deposit

wealthy individuals, and financial institu-tions. They can be can be sold in a secondarymarket before maturity if the owner needscash, but most negotiable CDs are held tomaturity. In 1961, First National CityBank of New York, now Citibank, firstoffered the large denomination CDs to itslargest customers. Large CDs grew rapidlyin popularity, and by 1973 the FederalReserve Bank had lifted all interest rateceilings on these large-denomination,negotiable CDs.

Negotiable CDs quickly became afinancial instrument for the Eurodollarmarket. Eurodollar CDs are CDs denom-inated in dollars but issued by foreignbanks, or foreign branches of U.S.-ownedbanks. Eurodollar CDs first appeared in1966 and owed their success to the highinterest rates paid by institutions beyondthe reach of U.S. banking regulations andinterest ceilings. In 1968, U.S. and Britishbanks began issuing sterling pound CDs.

The small denomination CDs (lessthan $100,000) came into being in the late1970s and were intended to give smallsavers the advantages of market interestrates. The Federal Reserve Bank includesCDs of less that $100,000 in the calcula-tion of M2, a monetary aggregate oftenregarded as the best measure of the moneysupply. The larger CDs are included in thecalculation of M3, the most broadlydefined monetary aggregate.

Negotiable CDs enable banks to attractdeposits that they can count on having fora fixed period without losing to with-drawal, and the owners of negotiable CDsmay always sell them for cash, albeit at asacrifice of part of the interest yield. Incontrast to demand deposits, which allowdepositors to withdraw funds on demand,CDs assure the bank that deposits will beleft with the bank for a while, takingsome pressure off the bank. For thrift

institutions, CDs are a powerful tool forraising funds, but at the price of higherinterest rates for small savers.

See also: Monetary Aggregates, Money MarketMutual Fund Accounts, Negotiable Order ofWithdrawal Accounts

ReferencesKlein, John J. 1986. Money and the Econ-

omy, 6th ed.Rose, Peter S. 1986. Money and Capital

Markets, 2d ed.

CHECK

A check (or “cheque” in Britain) is a writtenorder for a bank to pay money. The term“check” seems to have evolved from ordersfor payment called “Exchequer orders” thatwere drawn on the Exchequer, the Britishtreasury. The British Exchequer got itsname from the checkered cloth that coveredthe tables in the rooms where cash pay-ments were counted, or checked. The clothwas either black lined with white, or greenwith redlined squares. Government offi-cials, pensioners, or whoever had a claim ongovernment revenue received written ordersthat authorized an Exchequer official, orteller, to pay cash in the amount owed.

Checks were not called “checks”when they first came into use in the lasthalf of the seventh century, but werecalled “drawn notes.” These notes, aninnovation of the British goldsmithbankers, allowed an individual to orderhis or her goldsmith banker to make apayment of gold to a third party. In 1686,a young nobleman wrote the followingdrawn note on his father’s banker:

Pray do mee the favor to pay hisbird-man four guineas for a paireof parakeets that I had of him. Pray

Check | 67

don’t let anybody either my Ld orLady know that you did it and Iwill be sure my selfe to pay youhonestly againe. —Arthur Somerset.(Nevin & Davis, 1970, 20)

Early English checks always beganwith “pray” or “pray pay.”

Checks grew in popularity in the 19thcentury. In England, the Bank CharterAct of 1844 pushed banks towarddeposit banking with checks and awayfrom the issuance of bank notes. Duringthe Civil War, the U.S. federal govern-ment put a tax on bank notes issued bystate banks, forcing the state banks totake up deposit banking with checks. In1865, France simplified its law on theuse of checks, and deposit banking withchecks became widespread.

Checks are now the most commonmeans of payment in the developedcountries. They circumvent the need tocarry large sums of cash and can bewritten for any amount. Checks areusually less acceptable than cash, butcashier’s checks and certified checksare on par with cash as an acceptablemeans of payment. A cashier’s check isissued by a bank against itself and bearsthe signature of a bank officer. A certi-fied check is a check guaranteed by thebank on which the check is written.Checks are negotiable, meaning theycan be transferred to another person byendorsement.

See also: Bank, Goldsmith Bankers, PromissoryNotes Act of 1704

ReferencesDavies, Glyn. 1994. A History of Money.Nevin, Edward, and E. W. Davis. 1970. The

London Clearing Banks.Richards, R. D. 1929/1965. The Early History

of Banking in England.

CHILEAN INFLATION

Few countries have suffered sustainedinflation rates lasting for more than 100years, often in the double-digit andoccasionally triple-digit ranges, but thathas been a fact of economic life inChile. For a country that has persistentlysuccumbed to the temptations of papermoney excesses, Chile was slow toaccept the idea that paper could circu-late as money. Paper money was rarelyobserved in circulation before 1860,and Chileans were known for an abhor-rence of paper money that only beganto soften after 1850. From the colonialperiod until 1879, Chile remained on abimetallic standard.

In 1879, Chile began its long infla-tionary career when Chilean banksstopped redeeming bank notes in specie,turning Chilean bank notes into incon-vertible paper money. A fall in exportprices precipitated the crisis, and the Warof the Pacific (1879–1882) pitted Chileagainst Peru and Bolivia for control ofthe nitrate mines in the Atacama Desert.

During the 19th century, countries ona bimetallic or gold standard often sus-pended convertibility during war, butChile never permanently returned toconvertibility, although abortive effortswere made in 1887, 1895 through 1898,and 1925 through 1931. Although suc-cess in the War of the Pacific gave Chilecontrol over the nitrate mines, Chile’sexports continued to fall. Between 1878and 1915, Chile’s share of the world’scopper production declined from 44 percentto less than 5 percent. The decline inexport earnings, coupled with heavy for-eign debt and internal inflation, crippledChile’s effort to reassert monetary order.

Between 1879 and 1904, inflation reg-istered an average annual rate of 2 percent,

68 | Chilean Inflation

a modest inflation rate but significant inlight of the worldwide trend of deflationduring that period. Annual inflation aver-aged 7 percent between 1904 and 1931.By 1914, prices were growing 10 percenta year. From 1931 until 1955, despite thedepression decade, price increases aver-aged 20 percent. In 1931, inflation stoodat 8.5 percent, rose to 15.1 percent by1940, and crested at 47.8 percent in 1952.

From the 1950s through the 1960s,annual inflation rates fluctuated in the20 to 40 percent range. In 1971, inflation,repressed by wage and price controls, fellto 20 percent, but in 1972 inflation soaredto 178 percent. As inflation accelerated in1973, General Pinochet led a militarycoup that overthrew the democraticallyelected socialist president, SalvadorAllende, and established a military dicta-

torship noted for brutality and violationsof human rights.

As inflation accelerated in the 1970s,rising to 374 percent in 1974, the right-wing military dictatorship used itspower to enforce a strict monetaristanti-inflation policy, relying onrestricted monetary growth rather thanprice controls to tame inflation. Mone-tarists argue that inflation is solely afunction of excessive monetary growthrate, and the optimal economic policy isa constant, predictable 3 to 5 percentannual growth rate in the money supply.The Chicago school of economics, aleader in monetarist economic theory,had become influential in Chilean uni-versities, and the Chilean war againstinflation became a test case of the mone-tarists’ anti-inflation policy.

Despite the strict monetarists’ diet ofslow money growth, inflation subsidedslowly in Chile. By 1981, the inflationrate stood at a hefty 35.1 percent, but itfell below the 10 percent level the fol-lowing year. A major economic slow-down in 1982 led the government toease up on its unforgiving monetary pol-icy and inflation began to creep up.Toward the end of the decade, inflationwas in the 30 percent range. Chile beganthe 1990s faced with an inflation prob-lem of moderate proportions by its ownhistorical standards. Between 1990 and1999, inflation in Chile averaged 11.5percent (International Monetary Fund,2008). Between 2000 and 2008, annualinflation in Chile remained below 5 per-cent until 2008, when inflation rose to8.9 percent (International MonetaryFund, 2008).

See also: Hyperinflation in Argentina, Hyper-inflation in Brazil, Hyperinflation inBolivia, Hyperinflation in Post–World War IGermany, Inflation and Deflation

Chilean Inflation | 69

High prices at a market in Santiago, Chilereflect inflation, 1981. (Robert Nickelsberg/Time Life Pictures/Getty Images)

ReferencesBehrman, Jere R. 1976. Foreign Trade

Regimes and Economic Development:Chile.

International Monetary Fund. 2008 WorldEconomic Outlook, October 2008.

Valdes, Juan Gabriel. 1995. Pinochets’Economists.

CHINESE SILVERSTANDARD

By the early 20th century, China andMexico were the only large countriesremaining on a silver standard, and Chinawas by far the largest. As the world’smajor trading partners abandoned thegold standard in the early 1930s, Chinafound itself in the clutches of worldwidemonetary turmoil and abandoned the sil-ver standard.

After the discovery of vast silverdeposits in the New World, silver flowedto the Far East, sometimes directly fromLatin America and Mexico, and becamethe metallic currency of choice in thatarea. After the opening of China toEuropean trade in the mid-19th century,and the subsequent influx of foreigninvestment, China ran a balance of tradesurpluses. Excesses of exports overimports brought in a steady stream of sil-ver, which became the basis of China’scurrency.

Silver bullion circulated in differentweights and shapes. Silver dollars, someminted in China and others in foreigncountries, such as the United States,Mexico, or the United Kingdom, circu-lated along with subsidiary silver coinsand copper coins. In 1895, the UnitedKingdom, itself on the gold standard,began issuing silver dollars, called “tradedollars,” specifically for trade with the

Far East. British trade dollars boreinscriptions in English, Chinese, andMalay-Arabic. Briefly during the latter19th century, the United States issued aspecial trade dollar designed specificallyto compete with the Mexican dollar inFar Eastern trade. The Chinese calledthese various silver dollars yuan, mean-ing “round things,” and yuan became thestandard monetary unit in China andmodern Taiwan.

At the end of the 19th century, Chinesebanks reintroduced bank notes intoChina, and banks held silver as reserves.The public demanded that banks maintainthe convertibility of bank notes into silver,and banks that suspended convertibilitysaw their bank notes depreciate rapidly.In 1916, Yuan Shih-kai, president of theRepublic of China, tried to enforce aregime of inconvertible paper money,instructing banks to cease redemption ofbank notes and directing the public toaccept notes at par relative to silvercoinage. Yuan Shih-kai wanted to seizethe silver reserves in government banksand divert those resources to help makehimself emperor. The public put up astrong resistance and the effort failed.Provincial governments met with similarresistance to issues of inconvertible banknotes. When the Bank of Three EasternProvinces could not redeem its notes insilver, the Manchurian governmentdecreed the death penalty for anyone whocirculated these notes at less than par.Nevertheless, irredeemable bank notescirculated at heavy discounts.

By 1922, the government banks hadretrieved their irredeemable bank notes,and the public’s confidence in bank notesstrengthened. Banks began publishingreports of their reserve positions and bythe eve of the worldwide depression ofthe 1930s, sound bank notes had virtually

70 | Chinese Silver Standard

displaced inconvertible bank notesissued by provincial banks.

At the beginning of the depression,prices—including the price of silver—fell precipitously in the gold standardcountries, making China’s exports muchmore attractive in foreign trade, but mak-ing imported goods more expensive inChina. China experienced a mild boomwhile most of the world slid into depres-sion. As the world’s major trading part-ners abandoned the gold standard andbegan reinflating their economies, Chinabegan to feel some of the effects of thedepression. The Japanese invasion ofManchuria in 1931 reinforced the forcesof depression, causing them to be felt inChina. When the United States abandonedthe gold standard in 1933 and began rein-flating its economy, the price silver beganto rise significantly, and China’s silverstandard began to change from an advan-tage to a disadvantage. The rising price ofsilver meant that Chinese-produced goodswere more expensive to the rest of theworld, and foreign goods imported intoChina were cheaper.

The crowning blow to China’s silverstandard came with the enactment by theU.S. Congress of the Silver PurchaseAct of 1934. This law authorized theU.S. government to purchase largeamounts of silver, sufficient to signifi-cantly raise the market value of silver. Asthe market value of silver rose, Chinesesilver was melted down and exported,decreasing the Chinese money supply.Also, the high price of silver made Chi-nese goods expensive in foreign markets,sharply cutting into Chinese exports. Toavoid the deeper ramifications of a defla-tionary spiral, China officially aban-doned the silver standard in 1935. Withthe abandonment of the silver standardand the Japanese invasion in 1937, China

began a descent into a hyperinflationdebacle.

See also: Balance of Payments, Hyperinflationin China, Silver, Silver Purchase Act of1934

ReferencesChang, Kia-Ngau. 1958. The Inflationary Spi-

ral: The Experience in China: 1939–1950.Friedman, Milton. 1992. Money Mischief:

Episodes in Monetary History.

CLIPPING

Clipping was a form of grassrootscoinage debasement that flourished inthe Middle Ages and the early mod-ern period. Clipping occurred whenprivate citizens removed (or clipped)small bits of precious metal from thecircumference of coins and thenpassed the clipped coins on at facevalue. It required a certain amount ofjudgment to know how much metalcould be removed without rendering acoin unacceptable in payment forgoods and debts. Moneychangers,merchants, and other private individ-uals engaged in clipping accumulatedvaluable stores of gold and silver bul-lion. The law dealt harshly with clip-pers and counterfeiters, both of whomoften met their fate at the gallows.The adoption of milled-edge coinagein the seventh and eighth centurieswas intended to make clipping moreeasily detected, and therefore moredifficult.

A variation of grassroots debasement,equal in effect to clipping, was known assweating. Sweating was performed byputting gold or silver coins in a leatherbag and shaking the bag violently,removing gold and silver from the coins

Clipping | 71

in a process that more closely resembledthe natural wear and tear that coins sus-tained from jingling in pockets andpurses over several years of circulation.It was an accelerated process of naturalwear and tear and captured small butvaluable amounts of gold and silver.

The activities of clippers andsweaters, coupled with natural wear andtear, would eventually lead to thecomplete breakdown of a coinage sys-tem. If a freshly minted coin contained20 grains of silver, but the typical coincirculating at face value averaged only18 grains, then the 20-grain coins in cir-culation would be culled out and melteddown for bullion or shipped to foreigncountries, where they would be sold at apremium. Under these conditions, gov-ernments would stop striking new coinsuntil all the clipped coins were called inunder a program of recoinage, perhapsminting new coins at a lower weight thatthe original coins.

The growth of paper money, bankdeposits, milled-edge coins, and tokencoinage rendered the methods of the clipperobsolete, and clipping ceased to be anissue faced by monetary authorities.

See also: Act for Remedying the Ill State of theCoin, Milled-Edge Coinage

ReferencesChallis, C. E. 1978. The Tudor Coinage.Chown, John F. 1994. A History of Money.

CLOTH

From the Far East to Europe and Africa,cloth has surfaced as a medium ofexchange and a unit of measurement. Dur-ing the second millennium, silk clothpassed as money in China, circulating inpieces of a uniform size. The Chineseword pu began as a word referring to cloth,but came to denote “money,” reflecting theimportance of silk cloth as money. Silkmoney survived the advent of metalliccoinage in China. In 460 BCE, the govern-ment formed three separate boards formanagement of currency, one for gems,one for gold, and one for coins and silk.

Northern Europe furnishes numerousinstances of cloth money during themedieval era. The Baltic Slavs used linenas a means of payment in commercialtransactions, and small strips of thin tex-tiles circulated as coin. In the language of

72 | Cloth

Cut farthing of Edward “the Confessor,” minted in England, Anglo-Saxon, 1042–1066. (BritishMuseum/Art Resource, NY)

the Northern Slavs, the word platni meant“linen,” and the word for “to pay” wasplatiti. Up to the 14th century, Swedenmade use of a hand-woven woolen clothcurrency called wadmal. Creditors had toaccept wadmal in the payment of moneydebts, and coined money and wadmal werelinked in a fixed exchange ratio. MedievalIceland also called its hand-woven woolencloth money wadmal. Iceland’s wadmalmet the need for a general standard ofvalue, circulated as money, and even inmodern times parts of Iceland valued landin units of wadmal. Certain districts ofmedieval Norway accepted cloth as legal-tender currency, and a district of medievalGermany had a cloth standard that set acertain length of cloth to Reilmark, orGewandmark, predecessors of the modernday German mark. In pre-Christian Prussia,pieces of cloth adorned with bronze ringspassed as money.

Cloth also enjoyed wide acceptance asmoney, lasting in some cases into theearly 20th century, in several areas ofAfrica. In Zambia, calico found favor ascurrency and was used in wages and mar-riage dowries. On the west coast of Africa,a unit of money called a long served as aunit of account. Originally, a long referredto a length of cloth, but later evolved intoan abstract unit of account used only forsetting and quoting the prices. Whiteshirts of the sort commonly worn foreveryday dress circulated as money inparts of equatorial Africa. In the Congo,barter transactions were conducted on thebasis of prices set in pieces of cloth. Apiece was 12 yards of standard qualitycloth. In districts of the Sudan, the unit ofaccount for pricing moderately pricedgoods was a bundle of 20 cotton threads.

Certain tribes in the Philippines usedEuropean cloth as a monetary standard.A monetary unit of cloth was a piece of

cloth as long as the spread of a man’sarms. The natives priced jars, glassware,gongs, and perishable items in terms ofcloth, and fines were paid in cloth. Anadulterer paid a fine of 215 meters ofcloth. In Borneo, standard rolls of clothwere a sort of legal tender of money.

In the 19th century, cloth passed asmoney on Button Island of the Indonesianarchipelago. The cloth money was calledkampuna, meaning the “head cloth of aking,” and it was woven on official looms,which validated its use as currency. Ordi-nary cloth bore no special value as cur-rency and was traded only for its utility.

See also: Commodity Monetary Standard

ReferencesEinsig, Paul. 1966. Primitive Money, 2nd ed.Quiggin, A. Hingston. 1949. A Survey of

Primitive Money.Williams, Jonathan, ed. 1997. Money: A History.

COCOA BEAN CURRENCY

At the time of the Spanish conquest,cocoa bean currency in the commerciallyactive economy of the Aztec empireranked above gold dust as the principalform of money. The Aztecs kept cocoabeans in bags holding 24,000 beans.Columbus met with a Yucatan ship haul-ing goods to trade for cocoa. One earlyobserver of the Aztec society, PeterMartyr, noted regarding Aztec money:“Oh, blessed money which yieldethsweete and profitable drinke formankinde, and preserveth the possessorsthereof free from the hellish pestilence ofavarice because it cannot be long kept hidunderground” (Einzig, 1966, 175). TheAztecs also used copper hatchets asmoney, and Cortez, in a letter to the Kingof Spain in 1524, referred to a copper

Cocoa Bean Currency | 73

hatchet as worth 8,000 cocoa beans. Dur-ing the 18th century, reports from Mexicoindicated that the cultivation of cocoabeans was restricted to maintain thevalue of cocoa beans as money. Cocoabean currency was not even spared theepisodes of debasement that haunted theearly history of precious metal curren-cies. Debasement of cocoa bean currencywas accomplished simply by removingthe stone of the cocoa bean and replacingit with dirt.

Girolamo Benzoni, writing in 1572,said that the Spanish inhabitants ofGuatemala held their wealth in the formof cocoa. Henry Hawks, a merchant whospent five years in Central America,writing in the same year, claimed that inGuatemala cocoa “goeth currently formoney in any market or faire, and maybuy any flesh, fish, bread or cheese, orother things” (Einzig, 1966, 177).When Thomas Cavendish landed atAguatulco in 1587, he found 400 bagsof cocoa beans stored in the CustomsHouse, “every bag whereof is worth tencrownes.” Master Francis Petty, whoaccompanied Cavendish, wrote, “Thesecacaos goe among them for meate andmoney. For a hundred and fifty of themare in the value of one rial of plate”(Einzig, 1966, 177). To preserve thelocal supply of money, Guatemalaenacted an ordinance banning theexport of cocoa unless payment was incoin. Cocoa bean currency stretchedinto Latin America. In 1712, a royaldecree in Brazil listed cocoa, cloves,sugar, and tobacco as commodities thatlegally circulated as money, and troopswere paid in these commodities. In 19th-century Nicaragua, 100 cocoa beansbought a serviceable slave.

The use of cocoa beans as money con-tinued into the 19th century, and remote

Indian tribes in Mexico and CentralAmerica continued to make smallchange with cocoa beans into the 20thcentury. Within these tribes, the smallestsilver coin equaled 40 cocoa beans.

The history of cocoa beans as moneystands as a reminder that money evolvesin a social context. Money is somethingthat everyone will accept in exchange.Any product that holds up as universallyacceptable to everyone necessarily hassocial significance, whether it be cocoabeans among the Aztecs, or cigarettes ina prisoner-of-war camp. Cocoa beanswere perishable and bulky to transport inlarge quantities—serious drawbacks as aform of money. Aztecs, however, placedan important ceremonial value on a bittercocoa bean drink, the precursor to hotchocolate. Montezuma, the Aztec rulerof Mexico, always drank one of thesedrinks before visiting his harem.

See also: Commodity Monetary Standard

ReferencesBerdan, Frances F. 1982. The Aztecs of Central

Mexico: An Imperial Society.Einzig, Paul. 1966. Primitive Money, 2nd ed.Weatherford, Jack. 1997. The History of Money.

COINAGE ACT OF 1792(UNITED STATES)

The United States Constitution, in ArticleI, Section 8, conferred on Congress thepower “to coin Money, regulate the Valuethereof, and of foreign Coin.” The firstlegislation Congress passed under thisauthority granted by the Constitution wasthe Coinage Act of 1792. The act wasbased on a report that Alexander Hamiltonmade to Congress a year earlier.

The act provided for the establishmentof a mint, including naming the officers,

74 | Coinage Act of 1792 (United States)

specifying their duties, and setting theircompensation. The act called for whatwas known as free coinage, indicatingthat anyone could bring gold or silverbullion to the mint for coinage at no costto the owner. The gold and silver coinsstruck at this mint were legal tender forall debts, public and private.

The act also provided “that the money ofaccount of the United States should beexpressed in dollars or units, dismes ortenths, cents or hundredths, and milles orthousandths, a disme being a tenth part of adollar, a cent the hundredth part of a dollar,and a mille the thousandth part of a dollar.”The dollar was intended to be same in valueas the Spanish milled dollar that was then incirculation in the former colonies. The actcalled for the minting of eagles, equivalentto $10; half-eagles, equivalent to $5; andquarter-eagles, equivalent to $2.50. Theeagles were gold coins. Coins minted insmaller denominations were made of silver

and included dollars, half-dollars, quarter-dollars, dismes, and half-dismes. The actalso called for minting cents and half-centsfrom copper. The act held out the threat ofthe death penalty to discourage anyemployee of the mint from secretly debas-ing the coins (reducing the precious metalcontent) for personal gain or embezzlingprecious metals or freshly minted coins.

President Washington placed respon-sibility for the operation of the mintunder the secretary of state, much to thedisappointment of Alexander Hamilton,who was then secretary to the treasury.Hamilton later made his disappointmentknown, and Washington moved controlof the mint to the treasury department.David Rittenhouse, an eminent scientistand philosopher from Philadelphia,became the first director of the mint.

Imperfections in the system soonmade themselves apparent. The act hadestablished an official exchange ratiobetween gold and silver at 15 pounds ofsilver to one pound of gold. It turnedout that gold was worth more than 15pounds of silver in world markets,causing gold to leave the United States.The overvalued silver coins shouldhave stayed in the United States, but thefreshly minted U.S. dollars were moreattractive than the Spanish dollars thatactually contained more silver. There-fore, the U.S. dollars tended to disap-pear. The Coinage Act of 1793 madesome foreign coins legal tender in theUnited States, and the Spanish dollarcirculated as legal-tender money in theUnited States until 1857.

Although much of the culture andthe social institutions of the earlyUnited States came from Great Britainand France, the dollar is one institu-tion borrowed from the Spanish, adescendent of the Spanish-milled dol-

Coinage Act of 1792 (United States) | 75

David Rittenhouse, first director of the U.S.mint. (Library of Congress)

lar that circulated in the Americancolonies. Milled referred to the corru-gated edge, now universal amongcoins, that made evident any clippingor other efforts to remove preciousmetal from the edges. AlexanderHamilton, a strong admirer of Britishpolitical institutions, recommended thedollar to Congress as the money ofaccount in the United States, citing thefact that the Spanish dollar had been inactual use in all the states and that thedecimal system was superior to theduodecimal of England.

See also: Coinage Act of 1834, Dollar

ReferencesChown, John F. 1994. A History of Money.Hepburn, A. Barton. 1924/1967. A History of

Currency in the United States.Watson, David K. 1899/1970. History of

American Coinage.

COINAGE ACT OF 1834(UNITED STATES)

The Coinage Act of 1834 put the UnitedStates on the monetary path that led tothe adoption of the gold standard. Byincreasing the official value of gold, theact caused gold to flow to the mint forcoinage because its mint price exceededits free market price. Holders of silverfound it advantageous to convert silverinto gold at free market prices, and takegold to the mint, rather than to take sil-ver directly to the mint. Thus the flow ofsilver to the mint vanished.

The Coinage Act of 1792 had over-valued silver relative to gold. Accord-ing to official values fixed by the actof 1792, 15 ounces of silver equaledone ounce of gold. In the free market,

one ounce of gold purchased nearly16 ounces of silver, meaning gold wasworth more on the free market than atthe mint. Holders of gold could obtain alarger value of coinage in face value byfirst purchasing silver on the free marketand taking silver to the mint forcoinage, rather than taking gold directlyto the mint. Therefore, only silverarrived at the mint for coinage, and goldcoins disappeared from circulation asgold coinage came to a standstill. Theovervaluation of silver in the act of1792 was unintentional and—in theeyes of many observers—cost the statestheir prosperity.

Senator Thomas Hart Benton, one ofthe staunchest supporters of gold inUnited States history, apparently wantedto attract Latin American gold to theUnited States. In the book Benton wroteof his 30 years in the United States Sen-ate, Thirty Years’View, he put the issue incrystal clear terms:

Gold goes where it finds its value,and that value is what the laws of thegreat nations give it. In Mexico andSouth America, the countries whichproduce gold, and from which theUnited States must derive their chiefsupply, the value of gold is 16 to 1over silver; in the island of Cuba it is17 to 1; in Spain and Portugal, it is16 to 1; in the West Indies it is thesame. It is not to be supposed thatgold will come from these countriesto the United States, if the importeris to lose one dollar in every sixteenthat he brings; or that our gold willremain with us, when an exportercan gain a dollar upon every fifteenthat he carries out. Such resultswould be contrary to the laws oftrade, and therefore we must place

76 | Coinage Act of 1834 (United States)

the same value upon gold that othernations do, if we wish to gain anypart of theirs, or regain any part ofour own. (Hepburn, 1924, 58).

Congress enacted the Coinage Act of1834 on June 28 with only 36 representa-tives and seven senators voting against thelegislation. Another piece of legislation,passed on the same day, gave Spanish dol-lars minted in the newly independentstates of the former Spanish colonies thesame legal-tender status enjoyed by theSpanish dollars minted in Spain.

The Coinage Act of 1834 decreased thegrains of pure gold in the eagle, a $10 goldpiece, from 247.4 grains to 232 grains, adecrease of 6.26 percent. The gold contentof the two other gold coins minted by thetreasury, the half-eagle and quarter-eagle,were decreased proportionately. The actleft the silver content of silver coinageuntouched. The increase in mint value ofgold raised the official ratio of silverto gold from 15 to 1 to 16 to 1, essentiallymaking an ounce of gold more valuable interms of a fixed weight of silver.

By 1834, the United States was on ade facto silver standard, and term con-tracts were written under the expectationthat payment would be made in silverdollars, a factor that might account forthe interest in keeping silver a part of themonetary standard. Proponents of theCoinage Act of 1834 saw clearly, how-ever, that the provisions of the act pushedthe United States toward a de facto goldstandard. The passage of the Coinage Actof 1834 marked the first time that theU.S. Congress debated monetary ques-tions, and it revealed that the majorityopinion in the United States favored agold standard over a silver standard, aview that was in step with future worldtrends. The California gold discoveries of

the 1840s further depressed the marketvalue of gold relative to the mint price,further adding to gold showing up at thetreasury for coinage, and the sight of asilver dollar became a rarity.

See also: Coinage Act of 1792, Free SilverMovement, Gold Standard

ReferencesHepburn, A. Barton. 1924/1967. A History of

Currency of the United States.Nettels, Curtis P. 1962. The Emergence of a

National Economy.Schwarz, Ted. 1980. A History of United

States Coinage.

COINAGE ACT OF 1853(UNITED STATES)

The Coinage Act of 1853 nudged theUnited States closer to a single monetarystandard based on gold. It provided for thecoinage of subsidiary silver coins to sup-port small transactions without endangeringthe precedence of gold as the preeminentmonetary metal.

The conditions that spurred Congressto approve the Coinage Act of 1853 grewdirectly out of the Coinage Act of 1834.That act had decreased the gold metalcontent of gold coins relative to facevalue, drawing gold to the mint forcoinage at the expense of silver. AtUnited States mint prices, 16 ounces ofsilver matched in value an ounce of gold,more ounces of silver than was needed topurchase an ounce of gold on the freemarket. The flow of silver to the mint fellto a trickle, and speculators melted downsilver coins and sold them for bullion.

The proponents of the act of 1834 hadforeseen that the act would lift gold topreeminence as the primary monetarystandard, and that overvalued gold coins

Coinage Act of 1853 (United States) | 77

would drive undervalued silver coins outof circulation. They did not anticipate thatthe disappearance of the small denomi-nation silver coinage would impose ahardship on retail businesses. Under thepre–Civil War coinage system, the mintstruck the gold eagle, gold half-eagle, andgold quarter-eagle in face values of $10,$5, and $2.50, respectively. In silvercoinage, the mint struck the silver dollar,the half-dollar, the quarter, the dime, andhalf-dime. Ten dimes had the same silvercontent as a silver dollar. As speculatorssold silver coinage for bullion, merchantsand consumers stood without the coinageto settle minor transactions.

The Coinage Act of 1853 reduced thesilver content of the half-dollar, the quar-ter, the dime, and half-dime, but left thesilver content of the silver dollaruntouched. The silver content of a silverdollar remained at 371.5 grains of pure sil-ver, but a dollar’s worth of half dollars,quarters, dimes, and half-dimes, droppedto only 345.6 grains of pure silver, about a7 percent reduction. The treasury contin-ued to stand ready to accept unlimitedamounts of silver for coinage into silverdollars, but the act authorized the trea-sury’s purchase of only limited amounts ofsilver to mint subsidiary coinage, that is,half-dollars, quarters, dimes, and half-dimes. The act gave the treasury theauthority to decide the amount of silver topurchase for subsidiary coinage, anamount that would necessarily be less thanholders of silver would want to bring tothe treasury at overvalued prices. The pur-pose of the act was to maintain gold as theprimary monetary metal while furnishingthe public with a subsidiary silver coinage.Theoretically, the United States remainedon a bimetallic standard because silverdollars enjoyed a legal-tender status, but inpractice no silver dollars were coined.

The act provided that subsidiary coinagewas legal tender for amounts up to $5, rais-ing issues that would surface later when thegovernment made paper money legal ten-der. A flavor of how antagonistic feelingsran on this issue is echoed in the remarks ofthe bill’s major opponent, Andrew Johnson,later vice president, and then presidentupon the death of Lincoln.

I look upon this bill as the merestquackery—the veriest charlatanism—so far as the currency of the countryis concerned. The idea of Congressfixing the value of currency is anabsurdity, notwithstanding the lan-guage of the Constitution—not themeaning of it . . . If we can by lawmake $107 out of $100, we can bythe same process make it worth$150. Why, Sir, of all the problemsthat have come up for solution, fromthe time of the alchemists down tothe present time, none can comparewith that solved by this modernCongress. They alone have discov-ered that they can make money—that they can make $107 out of $100.If they can increase it to that extent,they can go on and increase it toinfinity, and thus, by the operation ofthe mint, the government can sup-ply its own revenues. (Watson,1970, 110)

The Coinage Act of 1853 achieved itspurpose. Small coinage increased in circu-lation, and after 1857 foreign coins wereno longer legal tender in the United States.After the outbreak of the Civil War, allmetallic coinage went into hiding, and theUnited States turned to an inconvertiblepaper standard. In the last quarter of the19th century, the battle between gold andsilver was fought anew before the United

78 | Coinage Act of 1853 (United States)

States settled firmly on a gold standard,without even the pretence of a bimetallicstandard based on gold and silver.

See also: Bimetallism, Coinage Act of 1792,Coinage Act of 1834, Free Silver Move-ment, Gold Standard

ReferencesChown, John. 1994. A History of Money.Hepburn, A. Barton. 1924/1967. A History of

Currency of the United States.Laughlin, J. Laurence. 1896/1968. A History

of Bimetallism in the United States.Schwarz, Ted. 1980. A History of United States

Coinage.Watson, David K. 1899/1970. History of

American Coinage.

COINAGE ACT OF 1965(UNITED STATES)

The Coinage Act of 1965 removed allsilver content from dimes and quarters,and cut the silver content of half-dollarsfrom 90 to 40 percent.

Two separate trends conspired to sub-stantially reduce the use of silvercoinage. First, a coin shortage was mak-ing itself felt despite a triple increase inmint output of coins from mid-1959to mid-1964. The rapid growth in vend-ing machines, pay telephones, parkingmeters, and sales taxes fueled a corre-sponding increase in the demand forsmall change, including dimes, quarters,and half-dollars. Also, collectors mayhave been absorbing coins at a fasterclip. By mid-1964, merchants were fac-ing difficulty making change, and somebanks were rationing dimes and nickels.

Second, world demand for silverexceeded world production, and the U.S.treasury had been filling the gap by sell-ing off silver reserves. By mid-1965 thetreasury faced a serious depletion of its

silver reserves, and the market price ofsilver was rising, raising the specter thatthe price of silver might exceed the trig-ger price of $1.3824, at which point thesilver content of small change wouldexceed the face value. Once the price ofsilver rose above $1.3824, silver coinswould be worth more melted down andsold as bullion, leading to a disappear-ance of silver coins from circulation.

The treasury proposed the completeremoval of all silver from coinage, pre-ferring to completely circumvent thethreat that the price of silver would risehigh enough to make melting down sil-ver coins profitable. The role of silver inthe monetary affairs of the United States,however, has been a politicized issue forover a century, and Congress compro-mised by maintaining a 40 percent silvercontent in half-dollars. The act providedfor the coinage of dimes and quarterscomposed of a cupronickel plating over acopper core. Cupronickel is a copper andnickel alloy.

See also: Free Silver Movement, Silver, SilverPurchase Act of 1934

ReferencesJastram, Roy W. 1981. Silver, the Restless

Metal.Rickenbacker, William F. 1966. Wooden

Nickels, Or the Decline and Fall of SilverCoins.

Schwarz, Ted. 1980. A History of UnitedStates Coinage.

COMMODITY MONETARYSTANDARD

Under a commodity monetary standard,a medium of exchange and unit ofaccount is either a commodity or a claimto a commodity, and the commodity is a

Commodity Monetary Standard | 79

good that would have value even if itwere not used for money. Put differently,the commodity has an intrinsic value, incontrast to the paper money of an incon-vertible paper standard that has valueonly by government fiat and is called fiatmoney for that reason.

In the purest form of commoditymoney, the commodity itself may changehands. History furnishes numerous exam-ples of livestock, necessary staples,stones, shells, metals, and so on, that haveacted as a medium of exchange, a unit ofaccount, a standard of deferred payment,and a store of value. The most famous andenduring commodity standard in historyis the gold standard, but silver can boastof a history as a monetary standard thatalmost rivals the history of gold.

In more sophisticated commoditystandards, paper claims to the commod-ity change hands in exchange, while thecommodity itself is stored in warehousesor vaults. The gold standard of the 19thand early 20th centuries perhaps offersthe best example of a commodity stan-dard in which paper claims to the com-modity replace the commodity itself asthe circulating medium. Less-developedcountries of the world operated silverstandards on the same principle, untilinconvertible paper standards replacedall precious metal commodity standardsin the 20th century.

Although gold, and to a lesser extentsilver, have been the most widelyembraced commodities to act as thebasis of the more sophisticated commod-ity standards, they do not stand alone.The colonists of Virginia stored tobaccoin warehouses and issued tobacco notesrepresenting titles of ownership to thetobacco. The colonists quoted prices intobacco, and tobacco notes exchangedhands instead of tobacco itself. The

colonists could freely convert tobacconotes into tobacco as needed. In the 18thand 19th centuries, Japan operated asimilar system based on rice. Rice notescirculated as money, and even the valueof gold and silver coins was expressed interms of rice. In 1760, the Japanese gov-ernment specifically forbade landownersfrom issuing rice notes in excess of theamount of rice they had stored, a com-mon abuse in all commodity systemsusing paper claims to a commodity.Although in practice gold and silver havedominated commodity standards, in the-ory a whole range of commodities couldserve the same purpose.

Under a commodity standard, thevalue of money is the price, determinedby supply and demand, of a commoditythat is costly to produce. A governmentagency sets the price at which it standsready to buy and sell the commodity, andproduction of the commodity willexpand to a level necessary to stabilizeprices. If the official price of gold is $35per ounce, as it was for a numberof years under the U.S. gold standard,gold production expands to the point atwhich an ounce of gold costs just under$35 to produce. If gold is not profitableto produce at $35 per ounce, gold pro-duction contracts, reducing the worldmoney supply and causing prices to fall.The average level of prices continues tofall, reducing the cost of producing gold,until gold becomes profitable to produceat $35 per ounce, at which point theworld money supply (and prices) stabi-lize. If gold is highly profitable to pro-duce at $35 per ounce, the goldproduction expands, adding to theworld’s money stock, and prices rise,increasing the costs of producing goldrelative to its selling price. Theoretically,gold production expands and contracts

80 | Commodity Monetary Standard

to keep price stable, creating a self-correcting mechanism for maintainingprice stability. Although governmentshave more experience with the gold stan-dard than other commodity standards, intheory the same principles work regard-less of the commodity.

More complicated commodity stan-dards can be devised using more than onecommodity. The bimetallic standard thatfigured prominently in nineteenth-centurymonetary history was a commodity stan-dard based on gold and silver. The infla-tion surge of the 1970s renewed interest incommodity standards among monetaryeconomists. One idea that surfaced was avariable commodity standard based on acomposite commodity. A compositecommodity is a weighted combination ofseveral commodities. Thus a variablecommodity standard makes a currencyconvertible into a weighted basket of sev-eral commodities.

See also: Bimetallism, Commodity Money,Gold Standard, Rice Currency, Symmet-allism, Variable Commodity Standard,Virginia Tobacco Act of 1713

ReferencesBordo, Michael D. “The Classical Gold Stan-

dard: Some Lessons for Today.” MonthlyReview (May 1981): 2–17.

Fisher, Irving. 1911. The Purchasing Powerof Money.

Yeager, Leland B. “Stable Money and Free-Market Currencies.” Cato Journal 3(Spring 1983): 305–326.

COMMODITY MONEY(AMERICAN COLONIES)

Stable commodities produced in theAmerican colonies often filled the gap inthe colonial money supply left by the out-

flow of most hard specie for Europeangoods. Colonial assemblies sanctionedcommodity money as legal tender and setthe price of commodities for the retire-ment of public debts.

Typical of colonial assembly legisla-tion sanctioning the use of commoditymoney was an act of the South Carolinaassembly adopted in 1687. This actread:

that all debts, accounts, contracts,bargains and judgments, and exe-cutions thereupon . . . which arenot made expressly for silver ormoney or some other particularcommodity att a certain priceshall and may bee paid and dis-charged by Corne att twoshillings the bushel, Indian Peasat two shillings six pence thebushel, English Peas at threeshillings sixpence the bushel,Pork at twenty Shillings per cwt.,Beefe at twopence the pound,Tobacco at two pence the pound,Tar at eight shillings per barrell.(Brock, 1975, 9)

Around the same time New Yorkallowed pork, beef, and winter wheat toserve as money, and east New Jerseyincluded wheat, Indian corn, butter, pork,beef, and tobacco as commodity money.New Hampshire’s list of commoditiesserving as money for the years 1701through 1709 had eight kinds of boardsor staves and four kinds of fish, as well aspork, beef, peas, wheat, and Indian corn.The Caribbean colonies often made useof sugar as a medium of exchange, andtobacco dominated the commoditymoney supply in Maryland and Virginia.Curtis P. Nettels quotes a statement fromthe Virginia House of Burgesses regarding

Commodity Money (American Colonies) | 81

the salaries of the clergy, which statesthat “[f]or every marriage by license thelaws give them twenty shillings or twohundred pounds of tobacco . . . and if at aprivate house they marry any person theyhave for it one hundred pounds oftobacco at least” (Nettels, 1934, 217).The difference between a marriage bylicense and a marriage at a private houseis unclear, but tobacco was an importantmeans of paying clergy.

Colonial assemblies set legal pricesfor all public payments, such as taxes,but prevailing market prices often setthe rate for all private payments.Colonial assemblies invariably set thelegal prices for public payments abovethe market prices, often chafing publicofficials who received income in com-modity money at legal prices. Thehigher the legal price of a commodityrelative to its market price, the smaller

would be the quantity of the commodityreceived by the public official.

One of the problems with the use ofcommodity money is that commoditiesoften vary substantially in quality. Cred-itors and government officials in juris-dictions that allowed commodity moneyoften found themselves pressured toaccept low-quality commodities in pay-ment. To address this problem, thecolony of New Haven (later absorbedinto Connecticut Colony) in 1654required that on:

every plantation . . . there shall bea viewer of corn, that in case of dif-ference may judge, whether it bewell dressed and merchantable orno, which man is to be chosen byeach plantation, and shall be underoath to judge faithfully whencalled to it, and is to be paid for his

82 | Commodity Money (American Colonies)

Tobacco note from St. Mary’s City, Maryland, dated 1685. (Lowell Georgia/Corbis)

time spent and pains therein byhim whose corn is faulty, or whounnecessarily occasions the trou-ble. (Nettels, 1934, 212)

Connecticut adopted a similar meas-ure for both grains and pork. In Virginiaand Maryland a debtor presentingtobacco to a creditor who refused toaccept it could ask for two impartialjudges. If these judges declared thetobacco good and merchantable, and thecreditor still refused to accept it, the debtwas counted as paid.

Another problem associated withcommodity money is the expense anddifficulty of transporting it. In theMassachusetts Bay Colony, the generalcourt said that in the case of cattle drivento Boston for payment of taxes:

if they be weary, or hungry, or fallsick or lame, it shall be lawful torest and refresh them for a compe-tent time in any open place, that isnot corn, meadow or inclosed forsome particular use. (Nettels,1934, 220)

The widespread use of commoditymoney reveals the severity of the short-age of coins and other forms of money inthe American colonies. It shows thatforms of money will develop from theground up when governments fail toinfuse economies with sufficient moneyto finance trade.

See also: Commodity Monetary Standard, Vir-ginia Tobacco Act of 1713

ReferencesBrock, Leslie. 1975. The Currency of the

American Colonies, 1700–1764.Galbraith, John Kenneth. 1975. Money,

Whence It Came, Where It Went.

Nettels, Curtis P. 1934/1964. The Money Sup-ply of the American Colonies before 1720.

COMMODITY PRICEBOOM

An era of booming commodity prices fol-lowed the global recovery from the eco-nomic sluggishness and recession of2001. Commodity prices started edgingup in 2002 and continued to climb everyyear. By 2006, a global boom in com-modity prices had become a major factorin shaping the growth and evolution of theglobal economy and its structure. Perhapsthe most glaring case of commodity priceescalation occurred in the crude oil mar-ket. In 1999, the Economist magazine rana cover story forecasting that the price ofoil might be headed for $5 per barrel.Instead, the price turned upward. In 2002,West Texas Intermediate Crude traded inthe $20 per barrel range. The price sky-rocketed, reaching the $60 per barrelrange in 2006, and soaring past $100 perbarrel in the first months of 2008.

Not many commodity markets sawprices escalate as fast as the oil market,but oil is only a more glaring case of whathappened over a wide swath of commod-ity prices. By the early months of 2008,the average prices of several commoditieshad doubled over their average prices in2006. Commodities that saw prices dou-ble in less than two years included coal,soybeans, palm oil, and wheat (www.indexmundi.com/ commodities). Over thesame time frame, the price of coffee jumped65 percent, and the price of iron orejumped 81 percent. Between 2002 andearly 2008, gold went from trading in the$350 range to trading above $900.

Economists disagree over whatcauses booming commodity prices. The

Commodity Price Boom | 83

blame for sharp price escalations forindividual commodities often seems tolie with conditions specific to each mar-ket. Political tensions and wars are oftencredited for interrupting supplies ofcrude oil, causing prices to spike. Highoil prices can lead to high corn prices ifpart of the corn crop goes to the manu-facture of ethanol. Mad cow diseaseand avian flu bear blame for highermeat prices. Wheat production sufferedfrom multiyear droughts in key wheat-producing nations, and coffee produc-tion suffered from too much rain inBrazil. Sometimes tight supplies areattributed to labor-management clashes.

Explanations that focus on uniqueconditions in individual markets cannotaccount for a pattern of broad-basedcommodity price inflation. Therefore,some economists seek a common expla-nation that explains why prices are risingin a wide range of commodities. Oneexplanation cites the rapid growth inChina and, to a lesser extent, India.China doubled its number of steel facto-ries between 2002 and 2008 (Kraus,2008). Between 2003 and 2005, Chinabore responsibility for 31 percent of thetotal rise in global demand for crude oil,64 percent of the total rise in the globaldemand for copper, 70 percent for alu-minum, and 82 percent for zinc (Krauss,2008). As billions of people around theworld grow wealthier, they consumermore of their own commodities insteadof exporting them to the United States.

Another explanation lays the blame forcommodity price inflation at the feet ofeasy monetary policies and low interestrates. The commodity price boom beganafter a phase of very low interest rates andeasy money conditions. Some economistsargue that high interest rates quicken thepace of extraction of commodities like oil

and metals and low interest rates have theopposite effect. They also argue that highinterest rates encourage firms to minimizeinventory holdings, and low interest rateshave the opposite effect. Last, they arguethat low interest rates encourage specula-tors to shift out of short-term governmentbonds and into spot commodity contracts.All three forces cause the prices of min-eral commodities to rise as interest ratesfall. Falling interest rates cause risingcommodity prices by reducing the incen-tive for extraction, reducing the carryingcost of holding inventories, and encour-aging speculators to shift into commoditycontracts.

See also: Inflation

ReferencesFrankel, Jeffrey. 2007. “The Effect of Mone-

tary Policy on Real Commodity Prices,”in Asset Prices and Monetary Policy, JohnCampbell, ed.

Krauss, Clifford, “Commodities RelentlessSurge,” New York Times, January 15,2008, pp. C1–8.

COMPOSITE CURRENCY

A composite currency is a weightedcombination or basket of two or morecurrencies. A composite currency ordi-narily would not circulate as a mediumof exchange, as does the U.S. dollar orJapanese yen, but it can serve as a unit ofaccount and store of value. Service asmedium of exchange, store of value, andunit of account are the three basic func-tions of money.

The European Currency Unit (ECU)was the most successful compositecurrency until it was officially formal-ized as one currency in the form of theeuro. According to the weight given

84 | Composite Currency

each currency on September 1989, theDeutsche mark accounted for roughly30 percent of the value of the ECU, theFrench franc accounted for about 19 per-cent, the British pound sterling about13 percent, and the Italian lira for about 10percent (Journal of Accountancy, 1994).The Dutch guilder, Belgian franc, Spanishpeseta, Danish krona, Irish punt, Greekdrachma, Portuguese escudo, and Luxem-bourg franc accounted for the remainingvalue of the ECU at various fixed percent-ages. The percentages contributed by eachcurrency equaled 100 percent. Before theintroduction of the euro, European banksaccepted deposits in ECU, made loans inECU, and European corporations issuedbonds in ECU. Private acceptance of theECU paved the way for the euro.

The Special Drawing Rights (SDRs)created by the International MonetaryFund represents another example of acomposite currency. At first, 16 majorcurrencies defined the value of SDRs. In1981 the International Monetary Fundreduced the number of currencies to five,the U.S. dollar, the Deutsche mark, theFrench franc, the yen, and the pound ster-ling. After the introduction of the euro,the number of currencies fell to four, theU.S. dollar, the yen, the euro, and thepound sterling. Some observers saw themakings of an ideal international cur-rency in SDRs. The private sector gavelukewarm reception to SDRs. At onetime, the Bank for International Settle-ments reported 13 bond issues worldwidethat were denominated in private SDRs(Dammes, McCauley, 2006).

From the viewpoint of foreign investors,composite currencies provide a means ofdiversifying currency risk. If one currencyin the basket loses value relative to the dol-lar or the investor’s base currency, the dam-age is limited to the currency’s share in the

basket. A disadvantage of composite cur-rencies arises because the weights thatmake up a composite currency are usuallyset by an official agency. Private sector use ofcomposite currencies require complicatedcontracts explaining what happens if theofficial weights change before a bondmatures or long-term contract expires.

Composite currencies provide onesolution to a problem in comparing theperformance of global corporations.Assume two global corporations, oneheadquartered in the United States, andthe other headquartered in Switzerland.Further, assume that these two companieshave identical asset holdings worldwide.One of these companies could report again and the other company a loss if thecurrency of one country strengthened andthe currency of the other country weak-ened. This discrepancy in earnings wouldoccur even if the performance of the twocompanies was roughly even.

The success of the ECU has led tosuggestions that East Asian countriesshould establish a composite currencybased on a basket of regional currencies.Proponents argue that a composite cur-rency based on a weighted basket of EastAsian currencies would be less vulnera-ble to speculative attacks. In the EastAsian Crisis of 1997, speculative attackson one currency led to speculativeattacks on other currencies.

See also: European Currency Unit, SpecialDrawing Rights

ReferencesAsian Development Bank. “ASEAN+3

Regional Basket Currency Bonds.” Tech-nical Assistance Report, Project Number40030, August 2006.

Dammes, Clifford, and Robert McCauley.“Basket Weaving: The Euromarket Expe-rience with Basket Currency Bonds.” BIS

Composite Currency | 85

Quarterly Review, March 6, 2006, pp.79–92.

“What’s a Frozen ECU?” Journal of Accoun-tancy, vol. 177, no. 4 (April 1994): 14.

CONSUMER PRICE INDEX

See: Value of Money

COPPER

After gold and silver, copper has thelongest and most varied history as a mon-etary metal. Resistant to corrosion andmalleable, copper was used by ancientpeoples to make utensils, hammers,knives, and vessels of great beauty. Asearly as 5000 BCE, ancient Egyptiansburied copper weapons and tools ingraves for use in the afterlife. TheChinese epic Shu Ching makes referencesto the use of copper around 2500 BCE.

In the Mediterranean world, Cypruswas a major producer and the sole sup-plier of copper to the Romans, whose firstmetallic monetary system was based on acopper or bronze standard. The Romanscalled it aes cyprium, later shortened tocyprium. The English word “copper”stemmed from the word cuprum, a cor-rupted form of cyprium. The chemicalsymbol for copper, Cu, comes from thefirst two letters of the Latin name.

The ancient Egyptians operated on acopper monetary standard. The standardunit of weight was an uten or deben ofcopper, and it was subsided into the kit orkedet. Some writers contend that thecopper units were mainly used to valuegoods for barter, but others claim thatcopper rings, equal to multiples or frac-tions of the copper unit of weight circu-lated as a medium of exchange.

Copper or bronze remained the mone-tary standard of Rome until the end of theRoman Republic in 30 BCE. The Latinword for copper also denotes bronze,leaving some confusion about Rome’smonetary system. Bronze is copperalloyed with tin, and is a tougher metalthan either copper or tin separately.

Copper had many practical uses forshaping weapons and tools, but ancientcultures never seemed to have investedcopper with the religious significance thatenveloped silver and particularly gold in acloak of reverence. The Old Testamentmakes only one reference to copper (Ezra8:27), but makes countless references togold and silver, beginning in Genesis.Nevertheless, a certain Father Allouez,traveling through the area of Superior

86 | Copper

Copper ingots on display at the HeraklionArchaeological Museum on the island of Crete.Copper, which can combine with tin to yieldthe useful alloy bronze, was a scarce and valu-able commodity in Mediterranean communitiesduring the Bronze Age. (Cascoly Software)

Bay (also called Allouez Bay) on LakeSuperior in the 1660s observed:

There are often found beneath thewaters of Lake Superior pieces ofcopper, well formed and of theweight of 20 pounds. I have seenthem in the hands of Indians; and,as the latter are superstitious, theykeep them as so many divinities, oras presents from the gods beneath.(Del Mar, 1968, 30)

Before the Spanish Conquest, copperwas more valuable than gold in NorthAmerica, Mexico, and Peru. In modernEuropean history, copper has clearlybeen a second-class monetary metal. Inthe 16th century, Spain debased its silvercurrency with copper alloy. The currencywas called vellon, and by 1599 it wasvirtually pure copper. Copper moneywas sometimes called black moneybecause when mixed with a bit of silverit blackened quickly. In the 17th century,Sweden, which had vast copper deposits,adopted a copper monetary standard thatlasted over a hundred years. During theNapoleonic era, the French governmenttried to make copper legal tender in thesettlement of debts in amounts up to one-fourth of the amount owed, but the effortfizzled. In August 1800, the governmentinstructed the Bank of France to pay nomore than one-twelfth of the govern-ment’s debt service in copper.

In the 19th century, the demand forsmall change created a new demand forcopper as a monetary metal. In 1797,England began issuing penny and two-penny coins made of copper. The firstcoinage legislation of the newly consti-tuted United States authorized the coinageof cents and half-cents made of copper.Copper coinage in the United States

continued into the 1970s, when the highprice of copper made pennies more valu-able melted down and sold by weight.

The three metals that have served asmoney in the Western world are gold, sil-ver, and copper. Although copper was notas valuable as gold or silver as a unit ofweight, it filled a niche in the monetarysystem. A person planning to purchase ahouse would find it very difficult to trans-port the amount of copper needed to makethe payment. For large commercial trans-actions, gold was ideal, because of its highvalue per unit of weight. For the purchaseof a soft drink, however, the amount ofgold needed would be a very small quan-tity, too small to be easily measured andhandled. Silver was preferable for inter-mediate transactions, but for small retailtransactions, copper was most suitable.

See also: American Penny, Sweden’s CopperStandard

ReferencesDel Mar, Alexander. 1899/1968. The History

of Money in America.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.Williams, Jonathan, ed. 1997. Money: A History.

CORE INFLATION

Core inflation seeks to measure the under-lying, or core, inflation, the persistent trendin the inflation numbers. The concept ofcore inflation addresses the problem ofuncovering which price increases arepermanent and which are transient. Putdifferently, core inflation aims to be a bet-ter predictor of the future inflation rate thanthe actual inflation rate. The most commonmeasure of core inflation equals the growthrate of the Consumer Price Index orPersonal Consumption Expenditure Index

Core Inflation | 87

after the food and energy components havebeen subtracted. As use of the concept ofcore inflation has spread, the term “head-line inflation” has come to refer to theactual inflation rate. Advocates of the con-cept of core inflation claim it more effec-tively signals what the headline inflationrate will be in the medium to long term,and that the long-term average of the morevolatile headline inflation rate will roughlyequal the core inflation rate.

The CPI index for 2005 shows thatheadline inflation in the United Statesregistered 3.5 percent, whereas coreinflation posted a mere 2.1 percent. Thetendency of the core inflation rate to mir-ror long-term trends shows up wheninflation rates are averaged over longerspans of time. Between 1996 and 2004,headline CPI inflation in the UnitedStates averaged 2.42 percent, whereascore CPI inflation measured 2.23 percent.

The idea is that food and energy pricesare more volatile. Over time, changes inthe prices of these commodities eithersubside or work their way into core infla-tion. Food and energy prices are volatilebecause supplies are exposed to onetimeshocks. In the case of food, a onetimeshock could take the form of drought orpestilence. In the case of energy, highconcentration of world crude oil reservesin politically volatile areas lead to one-time interruptions in supply.

The concept of core inflation rarelycame up in economic discussions beforethe 1970s. The Economic Report of thePresident (1971) advanced the concept ofthe CPI less mortgage interest and foodprices, but the term “core inflation” wasnot mentioned. The idea of removingmortgage interest did not become part ofthe concept of core inflation. After themid-1970s, the term “core inflation” cameinto use and economists subjected the

concept to systematic and rigorous analy-sis. In 1978, the Bureau of Labor Statis-tics began reporting versions of both theCPI and the Producer Price Index thatexcluded food and energy. In 1981, well-known economist Otto Eckstein publishedthe book Core Inflation. Eckstein definedcore inflation in terms of weighted growthin unit labor and capital costs, but the con-cept of core inflation remained largelyassociated with measures of inflation thatexcluded food and energy.

Economists have questioned whetherthe exclusion of food and energy gives thebest measure of core inflation. One possi-bility for calculating core inflationinvolves subjecting inflation series to atime-series smoothing process that spreadsover time the effects of volatile compo-nents. Another possibility involves the cal-culation of a weighted median inflationrate. The weighted median inflation rate isthe inflation rate for a chosen product. Thechosen product is the one for which half ofexpenditures go to pay for products whoseprices are rising just as fast or faster, andhalf of expenditures go to pay for productswhose prices are rising just as slowly ormore slowly. The chosen product exhibitsthe median inflation rate. Studies suggestthat other measures of core inflation workjust as well in forecasting inflation.

The practice of excluding food andenergy from inflation measures draws crit-icism from observers who cite the impor-tance of food and energy in the cost ofliving for wage earners. For this reason,other measures of core inflation may even-tually displace the familiar measure basedon the exclusion of food and energy.

See also: Inflation

ReferencesArestis, Philip, John McCombie, and Warren

Mosler. “New Attitudes About Inflation.”

88 | Core Inflation

Challenge, vol. 49, no. 5 (Sept/Oct 2006):33–52.

Rich, Robert, and Charles Steindel. “A Com-parison of Measure of Core Inflation.”Economic Policy Review, vol. 13, no. 3(Dec 2007): 19–38.

CORSO FORZOSO (ITALY)

The famous Corso Forzoso, “forced cir-culation,” refers to the suspension of con-vertibility of Italy’s paper lira from 1866to 1881, which put Italy on a paper stan-dard inconvertible into a precious metal.Before the Corso Forzoso, Italy was on agold and silver bimetallic standard, andholders of Italian bank notes couldredeem notes in gold and silver specie.

The origin of the Corso Forzoso can betraced to costly wars waged to unify Italy,disorderly public finances arising fromconsolidation of budgets and taxation sys-tems of separate Italian governments, andheavy public works expenditures in thename of industrialization. Between Janu-ary 1, 1862, and January 1, 1867, the pub-lic debt grew from 3.131 billion lire to6.929 billion lire. The debt was financedby short-term treasury bonds, a third ofwhich were held by foreign investors sen-sitive to crises of confidence and expect-ing bond redemption in gold and silver.The end of the U.S. Civil War, bringingcancellation of war contracts, demobiliza-tion, and renewed competition from cheapU.S. cotton, sent the economic tremorsthat pushed Italy over the monetaryprecipice. The price of Italian bonds onthe Paris Bourse tumbled from 80 percentto 36.44 percent of par value, and Italianbondholders and Italian correspondents offoreign bondholders asked for redemptionin gold, causing a shortage of gold and acrisis of confidence in the banking system.

A run on the banks forced the govern-ment’s hand, and on May 1, 1866, thegovernment, with prior approval from thelegislature, decreed the inconvertibility ofbank notes—the Corso Forzoso.

Notwithstanding the Corso Forzoso,the National Bank of Italy avoided therunaway issuance of bank notes thatbrought to ruin many past experimentswith paper money. The index of whole-sale prices rose modestly from 0.897 in1866 to 1.051 in 1873. The gold priceindex rose from 1.046 to 1.137 over thesame time period.

Defenders of the policy of CorsoForzoso argue that the consequentdepreciation of the lira in foreignexchange markets made Italian exportscheaper in foreign markets, and foreigngoods expensive in Italian markets,together acting as a powerful boost toItalian industry. Also the Corso For-zoso accustomed the Italian people tothe acceptance of bank notes. In 1865,only one-tenth of the circulating moneyhad consisted of bank notes. Critics ofthe policy point to the fear that CorsoForzoso struck in the minds of poten-tial foreign investors at a time whenItaly badly needed foreign capital.

After achieving a balanced budgetearly in the 1870s, the Italian govern-ment began taking steps to restore con-vertibility of the lira. As the governmentpaid off its debts to the National Bank ofItaly in gold, the bank was able to restoreconvertibility, and on April 7, 1881, theCorso Forzoso came to an end.

The Corso Forzoso ranks among themore successful early efforts to circulatefiat money, or money not supported byprecious metals or other commodities.During the Napoleonic Wars, the UnitedKingdom maintained control over itsmonetary affairs despite the adoption of

Corso Forzoso (Italy) | 89

an inconvertible paper standard. Beforethe Corso Forzoso, however, the morenormal consequence of inconvertiblepaper money had been a whirlwind ofinflation. France lamented two disas-trous experiences with inconvertiblepaper, John Law’s paper money, and theFrench Revolution’s assignats, both ofwhich caused runaway or hyperinflation.

See also: Bank Restriction Act of 1797, Incon-vertible Paper Standard

ReferencesChown, John F. 1994. A History of Money.Clough, Shepard B. 1964. The Economic

History of Modern Italy.

COUNTERFEIT MONEY

Counterfeit money is mostly forged orfaked paper money, sometimes referredto as “funny money.” Counterfeit paper

money is almost as old as paper money,and the practice of counterfeiting moneysurvives into our own day as govern-ments strive to remain one technologicalstep ahead of counterfeiters.

Counterfeiting became a flourishingactivity early in the 19th century becauseof the proliferation of banks issuing theirown bank notes. Great Britain was onecountry that did not spare the rod inhanding out justice to counterfeiters.Between 1805 and 1818, the Bank ofEngland successfully brought 501 coun-terfeiters to the bar of justice, and 207met their fate at the gallows. Not onlywas it illegal to counterfeit money buthaving a forged note in one’s possessionwas illegal, and ignorance was nodefense. A public outcry arose againstsavage sentences meted out to peoplewho accidentally came into possessionof forged notes. In 1819, the Society ofthe Arts, concerned about the hanging of

90 | Counterfeit Money

This cartoon, entitled “Bank Restriction Note,” by George Cruikshank refers to the British policyof hanging anyone caught passing counterfeit currency, 1818. (Bank of England, London/HeiniSchneebeli/The Bridgeman Art Library)

innocent people, published its Report onthe Mode of Preventing the Forgery ofBank Notes. The report found fault withthe Bank of England for issuing banknotes too easily counterfeited, and pro-posed a distinct set of copper plates andemployment of highly skilled artists todesign notes and engrave plates.

The sight of two women hangedfor passing forged notes led GeorgeCruikshank, cartoonist and politicalsatirist, to produce an antihanging note.His “Bank Restriction Note” bore animage of Britannia with a skull insteadof a head, set against a background ofdespairing figures and highlighting11 individuals hanging from scaffolds.The note also bore the signature of JackKetch, a notorious public hangman.Cruikshank’s note sparked riots inLondon, and the government appointeda royal commission to find ways ofproducing notes that could not be imi-tated. The commission turned to theU.S. firm of Murray, Draper, Fairmanand Company, which had revolutionizedbank-note printing using a siderographictransfer process and highly complicatedbackground patterns. The siderographicprocess facilitates the exact duplicationof engraved steel plates by using alter-nating hardened and softened steelcylinders to pass on imprints. Anemployee, Jacob Perkins, inventor ofthese processes, offered his services tothe Bank of England, won a contract,and the firm of Perkins Bacon becamethe premier producer of postage stampsand paper money worldwide during the19th century.

Counterfeiting is sometimes a state-sponsored activity, with the object ofproducing confusion and social unrest inenemy countries. The Bank of Englandcounterfeited vast numbers of assignats,

the famous French paper money of theFrench Revolution that touched off awave of hyperinflation. One of thelargest counterfeiting schemes in historywas Operation Bernhard, the code namefor Nazi Germany’s vast program forcounterfeiting Bank of England notes.Apparently, the Soviet Union alsoresorted to counterfeiting as a weapon inthe arsenal of revolution.

Thanks to an international conferenceheld in Geneva in 1929, counterfeitinglaws are relatively uniform among vari-ous countries. Counterfeiting eitherdomestic currency or foreign currency isillegal, and counterfeiters are subject toextradition. Printing counterfeit moneyis invariably a felony offense drawing aprison sentence, but incidental offenses,such as owning counterfeiting equip-ment, or possessing counterfeit moneyusually draw lesser sentences.

The development of high-qualitycolor copying machines and sophisti-cated offset printing operations pre-sented new challenges to the problemof combating counterfeiting. TheUnited States now impresses a thinpolyester thread into its FederalReserve notes. The thread runs verti-cally to the left of the Federal Reserveseal, and can be seen when the note isheld up to a light. The notes also havethe words “United States of America”microprinted in letters that can only beread with magnification.

The advances in technology haveforced the Treasury to regularly addnew security features to the currency.The treasury introduced a new cur-rency design in 1996 and again in2004. The new series introduced in2004 is called the “New Color ofMoney” design because of its introduc-tion of subtle background colors.

Counterfeit Money | 91

Despite these innovations, counterfeit-ing remains a major problem in and forthe United States.

In 2005, it came to light that the gov-ernment of North Korea was operating alarge counterfeiting operation of U.S.currency. North Korea’s counterfeitinginvolved foreign banks, Chinese under-world gangs, and the Irish RepublicanArmy. The U.S. government found it dif-ficult to press North Korea over the issuedue to the larger issue of nuclear prolif-eration (Fackler, 2006).

See also: Operation Bernhard

ReferencesAngus, Ian. 1974. Paper Money.Beresiner, Yasha. 1977. A Collector’s Guide

to Paper Money.Dacy, Joe. “How to Spot Bogus Bills.”

Nations Business, vol. 81, no. 7 (July1993): 30.

Fackler, Martin. “North Korean Counterfeit-ing Complicates Nuclear Crisis.” NewYork Times, January 29, 2006, p. 3.

CREDIT CRUNCH

A credit crunch refers to a sharp reduc-tion in the availability of credit. It couldrefer to a sharp increase in interest ratesbut often it involves a significant shrink-age in supplies of lendable funds. Itlikely shuts out some subset of borrow-ers from access to credit. The term cameinto use in the 1960s when the homemortgage industry began experiencingperiodic credit crunches. By 2000,financial innovations and markets forwider ranges of financial assets mini-mized the possibility that one or twoeconomic sectors would bear the fullbrunt of a credit crunch. Nevertheless,

the credit crunch of 2007–2008 began inthe home mortgage industry, and resi-dential construction was the hardest hiteconomic sector.

The home mortgage industry experi-enced credit crunches in 1966 and again in1969, 1973, and 1974. These episodes ofcredit crunches occurred over a spanof years roughly coinciding with theVietnam War, a time when defense relatedexpenditures of the Cold War put the max-imum strain on the financial resources ofthe United States. In addition to heavygovernment borrowing, a piece of bankinglaw called “Regulation Q” banned pay-ment of interest on checking accounts andlimited the payment of interest rates onsavings accounts to the 5 percent range. Atthe time of these first credit crunches, atype of financial institutions called savingsand loans dominated the home mortgageindustry. These institutions raised funds byoffering savings deposits to depositors,and these funds were lent to home buyersin the form of home mortgages. As infla-tion and government borrowing exertedupward pressure on interest rates, saversbegan removing funds from savings andloan deposits. Instead, they invested in 90-day treasury bonds, which paid a substan-tially higher interest rate. The flow offunds out of savings and loan institutionsand into the bond market was called “dis-intermediation.” An increase in short-terminterest rates prompted disintermediation,forcing savings and loan institutions tocurtail lending, and residential homebuilders to cut back on construction.

The development of secondary mort-gage markets eased the squeeze of theseearly credit crunches. It severed the linkthat forced mortgage lending and residen-tial construction to move in step with theflow of deposits in and out of thrift type

92 | Credit Crunch

institutions. The secondary mortgage mar-ket allowed the institutions that had expert-ise in evaluating borrowers and establishingcustomer relationships to continue to originatemortgages. Instead of financing mortgages outof savings deposits, thrifts sold mortgagesto third parties as an investment.

In 2007 and 2008, another type ofcredit crunch, the subprime meltdown,shut out borrowers from access to credit.A wave of defaults on mortgages negoti-ated with subprime borrowers shook thesecondary market for mortgages, forcingoriginators of mortgages to greatly raisethe bar of creditworthiness. Subprimeborrowers are borrowers who paid higherinterest rates to compensate for weakcredit ratings. A contraction in homemortgages led to a contraction in thehousing industry, raising the specter ofrecession. Lenders, stunned by high mort-gage defaults and expecting a recession,began tightening credit standards for awide range of loans, including automobileloans and other types of consumer credit.As the Federal Reserve slashed interestrates to ward off recession, lenders made itharder for individuals to qualify for loans,arousing fears that the anti-recession mon-etary policy might not succeed.

See also: U.S. Financial Crisis of 2008–2009

ReferencesBradley, Michael G., Stuart Gabriel, and Mark

Wohar. “The Thrift Crisis, Mortgage-CreditIntermediation, and Housing Activity.”Journal of Money, Credit, and Banking, vol.27, no. 2 (May 1995): 476–497.

Kim, Jim. “Credit Crunch Moves BeyondMortgages: Individuals See Higher Rates,Harsher Terms on Credit Cards and OtherConsumer Loans.” Wall Street Journal(Eastern Edition, New York), August 22,2007, p. D1.

CREDIT RATINGS

A credit rating aims to determine before aloan is made whether an individual, cor-poration, or country is willing, able, andlikely to repay a debt. Lenders are themain users of credit ratings, but insurancecompanies have used credit ratings todetermine insurance premiums, andemployers have used credit ratings inevaluating job applicants. Utility and leas-ing deposits can also vary in amountaccording to credit ratings. Those withpoor credit ratings end up either borrow-ing at high interest rates or unable to bor-row at all. The main pieces of informationthat go into credit ratings are financial his-tory and current assets, liabilities, andincome. Financial history includes obvi-ous warning signs such as instances ofbankruptcies and defaults, but it alsoincludes late payments by borrowers whootherwise have clean credit histories. Inthe United States, credit bureaus such asExperian, Equifax, and TransUnion assigncredit scores for individuals. Credit ratingagencies such as Moody’s and Standardand Poor’s assign credit ratings for corpo-rations and sovereign governments.

Credit ratings are a relatively newdevelopment in the history of financialmarkets. They appeared after financialmarkets achieved a high level of develop-ment in the United States. The wideexpanse of the United States, with its rail-roads and telegraphs, multiplied the num-ber of business transactions betweenindividuals who were otherwise strangers.The mid-1800s saw the rise of mercan-tile credit agencies in the United States.These credit agencies assessed the creditworthiness of merchants. In 1909, JohnMoody began furnishing credit ratingson railroad bonds, and a year later

Credit Ratings | 93

extended his rating service to includeutility and industrial bonds. Poor’s Pub-lishing Company and Standard StatisticsCompany issued their first ratings in1916 and 1922, respectively. In 1941,Standard Statistics Company and Poor’sPublishing Company merged to formStandard and Poor’s, one of the mostwidely known credit ratings agencies forsecurities. Fitch Publishing Companybegan rating bonds in 1924. In 1982,Duff and Phelps began providing ratingsfor a wide range of companies.

As capital markets displaced bankinginstitutions as the main mechanism forchanneling international capital flows,the demand for credit rating agenciesgrew outside the United States. The lastdecades of the 20th century saw Moody’sopen offices in Tokyo, London, Paris,Sydney, Frankfurt, and Madrid. Standardand Poor’s opened offices Tokyo, London,Paris, Melbourne, Toronto, Frankfurt,Stockholm, and Mexico City. Duff andPhelps entered into joint ventures inMexico and several Latin Americancountries. U.S. credit rating agencieshave the strongest presence in the globalmarket for creditable security ratings,followed by credit rating agencies inJapan, Canada, and the United Kingdom.

Originally, the sale of publication andrelated material provided the revenue topay for the rating service, and the compa-nies who were the object of the credit rat-ings incurred no charges. After the defaultof Penn Central in 1970, investors discov-ered that a company with a householdname was not necessarily a good invest-ment risk. Other companies began havingtrouble rolling over their commercialpaper. Companies began seeking ratingsfrom credit rating agencies to reassure jit-tery investors. Fitch and Moody’s bothstarted charging companies for ratings in

1970; Standard and Poor’s started charg-ing soon after. By 1987, 80 percent ofStandard and Poor’s revenue came fromfees charged the firms who were rated(Canter and Packer, 1994). The practice ofdepending on the rated companies for rev-enue has raised questions about whetherthe rating agencies have an incentive toaward high ratings to keep its customershappy. The subprime mortgage crisis of2008 put the spotlight on the rating agen-cies and the role they had played in assign-ing investment grades to securities thatwere backed by risky home mortgages.Critics charged that the credit rating agen-cies such as Standard and Poor’s were paidhandsome fees for complicity in the crisis.

See also: U.S. Financial Crisis of 2008–2009

ReferencesCantor, Richard, and Frank Packer. “The

Credit Rating Industry.” QuarterlyReview, vol. 19, no. 2 (Summer/Fall1994): 1–26.

Lowenstein, Roger. “Triple-A Failure.”New York Times Magazine, April 27,2008, pp. 36–42.

CREDIT UNION SHAREDRAFTS (CUSD)

See: Monetary Aggregates

CRIME OF ‘73 (UNITED STATES)

The Coinage Act of 1873, a piece of legis-lation that caused hardly a political ripplein Congress, subsequently acquired theodious title of the “Crime of ‘73.” The actrather informally dropped the bimetallicstandard in the United States in favor ofthe gold standard, an action that incurred

94 | Crime of ‘73 (United States)

the wrath of debtors and western farmersas deflationary trends gathered force in thelate 1800s. Since the days of AlexanderHamilton, the United States had been on abimetallic standard combining gold andsilver in a fixed ratio. The Crime of ‘73made it into the folklore in the UnitedStates, including references in the famousbook, The Wizard of Oz.

A movement of economic and socialprotest lifted William Jennings Bryan tothe leadership of the Democratic Party, andinspired his famous “Cross of Gold”speech, which compared the gold standardto the crucifixion of mankind on a cross of

gold. Debt-ridden farmers and unemployedworkmen quite rightly pointed the finger ofsuspicion to the unforgiving discipline ofthe gold standard, and saw somethingsinister in quietly removing silver from themonetary standard without the airing of apublic debate. With vast holdings of silverin western states, coinage of silver couldhave infused additional monetary reservesin the economy, raising prices and easingpressure on debtors.

The offensive portion of the act down-graded the silver dollar to subsidiarycoinage of the same proportional weightand fineness as the half-dollar, quarter,and dime. These silver dollars were legaltender in amounts up to $5, but in 1877the treasury discontinued minting the sil-ver dollars, due to a lack of interest.

Before the act, silver owners could sellsilver to the mint for $1.292 per ounce,but the market value of silver was $1.298per ounce, creating an opportunity to meltdown minted silver and sell it for a profit,causing silver dollars to disappear fromcirculation. The high market value of sil-ver in 1873 probably accounts for the lackof public controversy at the time Congresspassed the Coinage Act of 1873. The dis-covery of additional silver reserves in thewestern states, coupled with deflationarytrends, pushed the market price of silverbelow the mint price. As deflationarytrends made themselves felt, culminatingin the depression of the 1890s, the silverinterests missed the treasury market forsilver, and depressed regions saw silvercoinage as the answer to economic woes.

Abandonment of the bimetallic stan-dard and cessation of silver as a mone-tary standard of value were in step withinternational currents at the time.Europe was rapidly turning to a goldstandard that was associated with GreatBritain’s commercial success. The

Crime of ‘73 (United States) | 95

Caricature of William Jennings Bryan in theSeptember 14, 1896, edition of Judge magazineattacking Bryan’s “Cross of Gold” speechdelivered at the Democratic National Conven-tion on July 8, 1896. In the speech, Bryan advo-cated the unlimited coinage of silver by the U.S.government, a policy he believed would bringrelief to debtors in the economic depression thengripping the nation. (Library of Congress)

failure of William Jennings Bryan towin a presidential bid ensured that theUnited States would remain on a goldstandard, which became official with theGold Standard Act of 1900. The discov-ery of new sources of gold relieved themonetary tightness of the late 1800s,effectively defusing the silver protest,and letting the Crime of ‘73 fade intopolitical oblivion.

See also: Bimetallism, Bland–Allison SilverRepurchase Act of 1878, Free Silver Move-ment, Gold Standard Act of 1900, ShermanSilver Act of 1890, The Wizard of Oz

ReferencesFriedman, Milton. 1992. Money Mischief:

Episodes in Monetary History.Myers, Margaret G. 1970. A Financial His-

tory of the United States.Nugent, Walter T. K. 1968. Money and

American Society: 1865–1880.

CUPRONICKEL

See: Coinage Act of 1965, Liverpool Act of1816

CURRENCY ACT OF 1751(ENGLAND)

The Currency Act of 1751 sought torestrict the issuance of fiat paper moneyand to ban its use as legal tender for thesettlement of private debts in the NewEngland colonies. The beginning of the18th century saw several New Englandcolonies, led by Massachusetts, issuefiat paper currency. They turned topaper currency partly because of thefinancial pressures of wars involvingthe French and the Indians and partly asa measure to relieve domestic shortages

of acceptable mediums of exchange forfinancing business activity. Colonialgovernments issued paper currency onthe condition that they would accept thecurrency as payment for taxes at afuture time, perhaps within a year orpossibly as long as seven years later.When governments issued more papercurrency than they reclaimed in taxes,the paper currency lost value relative toBritish currency, and colonial pricesinflated. British merchants who hadclaims of debt against the colonists suf-fered because the depreciated currencythey had to accept in repayment hadless value than the credit they hadextended.

The Act of 1751 opened by citing thefailure of previous acts of Parliament tostem the tide of depreciating paper cur-rency in New England, and by observ-ing that because of the legal-tenderstatus of this paper currency “all debtsof late years have been paid and satis-fied with a much less value than wascontracted for, which hath been a greatdiscouragement and prejudice to . . .trade and commerce.”

The Act provided that:

1. Effective September 29, 1751, gov-ernors, councils, or assemblies inConnecticut, Massachusetts Bay,New Hampshire, or Rhode Islandwere forbidden to enact legislationauthorizing the issuance of addi-tional bills of credit (paper cur-rency), and could not extend theperiod of outstanding bills of credit.Any actions along these lines were“declared to be null and void, andof no force or effect whatsoever.”

2. Colonial governments wererequired to retire all outstandingbills of credit at the scheduled date.

96 | Currency Act of 1751 (England)

3. Colonial governments could issuebills of credit to finance currentgovernment expenditures if suffi-cient taxes were levied to retire thebills within two years.

4. In the event of unusual publicemergencies, such as war or inva-sion, bills of credit could be issuedin excess of what the governmentwould reclaim in taxes within twoyears. These extra bills had to payinterest and be reclaimed by a taxfund within five years.

5. None of the bills issued afterSeptember 29, 1751, were to belegal tender in private transactions,and none of the bills then in circu-lation should be legal tender.

The act allowed governments to continueto issue bills of credit as an instrument ofgovernment finance, but prohibited theattachment of the legal-tender sanction forsettling private debts. The Currency Act of1751 was followed by the Currency Act of1764, which applied the same principles tothe remaining colonies. The latter act soughtto deny the legal-tender status of paper cur-rency even in the payment of public debts.This was a confusing point, however, andthe colonial governments continued to issuepaper currency that could be used in pay-ment of taxes. The Currency Act of 1773clarified the issue by specifically allowingcolonial governments to issue paper cur-rency that was legal tender for the paymentof public debts. The 1773 act allowed theuse of paper currency as legal tender for thepayment of taxes but, in deference to Britishcreditors, not for private debts.

The Currency Act of 1751, and its sisteract, the Currency Act of 1764, contributed toa shortage of circulating money in theAmerican colonies, adding to the discontent

that led up to the American Revolution. TheAmerican colonies were not blessed withthe abundance of gold and silver minesfound in the Spanish colonies. The hardspecie that was won by exporting goods toEurope had to be used to import the numer-ous European goods needed in the Americancolonies. Entrepreneurs in the Americancolonies enjoyed practically unlimited sup-plies of natural resources, but harnessingthese resources required a rapidly growingdomestic money supply, with opportunitiesfor borrowing money as the need arose.Because the availability of money fell farshort of the business opportunities affordedby such a land, the colonists tried to findways to invent their own money supply. Thefailure of the British to appreciate the needfor an elastic money supply in a land ofboundless resources contributed to the ten-sion that resulted in revolution.

See also: Currency Act of 1764, Land BankSystem, Massachusetts Bay Colony PaperIssue

ReferencesBrock, Leslie V. 1975. The Currency of the

American Colonies: 1700–1764.Ernst, Joseph Albert. 1973. Money and Poli-

tics in America, 1755–1775.

CURRENCY ACT OF 1764(ENGLAND)

The Currency Act of 1764 removed theauthority of colonial governments in themiddle and southern American coloniesto issue legal-tender paper money foreither private or public debts. The actpassed Parliament following the Frenchand Indian War (1754–1763), when colo-nial governments, particularly Virginia,freely turned to the issuance of papermoney to defray military expenditures.

Currency Act of 1764 (England) | 97

Parliament first acted to restrict theissuance of colonial paper money in theCurrency Act of 1751. That act circum-scribed the ability of New Englandcolonies to issue paper money andbanned the circulation of paper money aslegal tender for private debts. The Act of1751 enabled governments to declarepaper money legal tender for publicdebts—that is, taxes—but not for privatedebts. England’s Board of Trade movedto extend the provisions of the Act of1751 to colonies south of New England,but the French and Indian War inter-vened, and the Board of Trade tended towink or look away as colonial govern-ments issued paper money to finance warexpenditures. British merchants, how-ever, saw the issuance of legal-tenderpaper money as a conspiracy of Ameri-can debtors to defraud British creditorsby repaying debts in depreciated papermoney. They lobbied the Board of Tradeand Parliament to stop the colonies’issuance of legal-tender paper money. Tobe sure, the paper money invariablydepreciated relative to British pounds,reducing its value to British merchants.

Unlike the Currency Act of 1751, theCurrency Act of 1764 did not restrict theauthority of colonial governments toissue paper money, but did ban the des-ignation of any paper money as legal ten-der for the payment of either private orpublic debts, thus making the issuance ofpaper money impractical. The prohibi-tion on the issuance of paper money aslegal tender for public debts put colonialgovernments in a financial crunch. Thesegovernments issued paper money andthen levied taxes payable in the papermoney, automatically providing for theretirement of the paper money issues,and preventing paper money from depre-ciating in value. Government treasuries

rather than monetary authorities, con-trary to current practice, issued thispaper money. In addition, the issuance ofthis paper money helped relieve a short-age of coinage that hampered economicactivity in colonial economies. There-fore, the Currency Act of 1764 was theequivalent of England enforcing a tightmoney policy in the colonies in the after-math of the French and Indian War.

The legal-tender provisions of the actseemed perplexing and ambiguous to thecolonists, who found it difficult to under-stand how a government could issuepaper money and not accept it as taxes.Also, several colonies operated loanoffices that issued paper notes against thesecurity of real estate. The Act of 1764seemed to suggest that loan offices couldnot accept in repayment the notes theyhad issued. The colonial governmentsappear to have worked around the act andcontinued to accept their own papermoney in payment for taxes, but thecolonists lobbied with Parliament to havethe legal-tender restriction on publicdebts lifted. The colonies needed thepaper money to supplement domesticmoney supplies, which were limited andthus acted as a brake on domestic eco-nomic growth. The restrictions on theissuance of paper money added to the ten-sion between the colonies and the Britishgovernment. With the Currency Act of1773, Parliament amended the CurrencyAct of 1764 and lifted the ban on papermoney as legal tender for public debts.

See also: Currency Act of 1751, Virginia Colo-nial Paper Currency

ReferencesBrock, Leslie V. 1975. The Currency of the

American Colonies: 1700–1764.Ernst, Joseph Albert. 1973. Money and Poli-

tics in America, 1755–1775.

98 | Currency Act of 1764 (England)

CURRENCY ACT OF 1773(ENGLAND)

See: Currency Act of 1751, Currency Act of1764

CURRENCY CRISES

A currency crisis occurs when the valueof a currency crashes in foreign exchangemarkets, when holders of a currencystampede to sell it in foreign exchangemarkets out of fear that the currency isheaded for lower values in the future.Foreign exchange markets determine therate or price at which one currency canbe purchased with another currency. Anexchange rate of $1 per 10 Mexicanpesos tells how many pesos it takes topurchase a dollar and how many dollars ittakes to purchase a peso. While exchangerates are subject to market forces, certaingroups have vested interests in exchangerate stability. One such group would beU.S. investors who have purchasedMexican peso bonds issued by theMexican government. Bondholders whopurchased Mexican bonds with dollarswhen the exchange rate stood at 10 pesosper $1 will experience a windfall loss ifthe Mexican peso depreciates to 20 pesosper $1. When they sell the Mexicanbonds and convert the pesos back intodollars, they will receive roughly half asmany dollars as they originally invested.Therefore, if holders of Mexican bondsexpect the peso to depreciate in thefuture, they will try to sell their Mexicanbonds for pesos, and convert the pesosback into dollars before the depreciationoccurs. If large numbers of investors tryto sell pesos for dollars all at once, thevalue of the peso in the foreign exchangemarket will crash.

Speculators may trigger a currencycrisis if they think a currency is vulnera-ble to a sudden crash. If speculatorsthink the peso may deprecate in thefuture, they will borrow pesos and sellthem for dollars. If speculators borrowpesos to buy dollars when the exchangerate is 10 pesos per $1, then they canrepay their loans and reap a profit if thepeso depreciates to 20 pesos per $1.Speculative attacks can turn mere expec-tations that a currency will depreciateinto a self-fulfilling prophecy.

The common denominator behind allcurrency crises is a current accountdeficit. A current account deficit mostlikely indicates that outflows of domesticcurrency from imports exceed inflows ofdomestic currency from exports. As longas outflows of domestic currency approx-imately balance inflows of domestic cur-rency, the foreign exchange rate tends toremain stable. If the outflow of currencyoutruns the inflow of currency on the cur-rent account, then foreign investors musteither be willing to hold financial assetsdenominated in the domestic currency, orthe central bank responsible for thedomestic currency must buy back theexcess outflow with its holdings of otherforeign currencies. Central bank hold-ings of other foreign currencies arecalled foreign exchange reserves. Themore foreign exchange reserves a centralbank holds, the less likely a domesticcurrency will suffer a currency crisis. Acurrent account deficit and the associatedexcess outflow of currency lead to cur-rency depreciation if the central bankdoes not buy back the excess currencyoutflow and if foreign investors do notfind financial assets denominated in thedomestic currency attractive. If, forinstance, Mexico has a currency accountdeficit and the Banco de Mexico does not

Currency Crises | 99

hold sufficient reserves of U.S. dollars tobuy back the excess outflow of pesos,then excess supply of pesos will build upin foreign exchange markets and one oftwo possibilities are left. One possibilityis that foreign investors will purchase theexcess supply of pesos and use the pesosto purchase bonds and other investmentsin Mexico. If foreign investors are afraidof investing in Mexico, or find Mexicaninterest rates too low, then there will bepesos in foreign exchange markets thatnobody wants, and the Mexican peso willdepreciate.

Countries that run persistent currentaccount deficits tend to run out of for-eign exchange reserves. Speculators areprone to launch speculative attacks oncountries with current account deficitsand low foreign exchange reserves. If theattack is successful, the currencycrashes.

A current account deficit usually indi-cates a large government budget deficit,but it can indicate a high level of domes-tic investment spending relative todomestic savings. Either way, the countryis importing foreign capital. A currencycrisis usually occurs when a country thathas been experiencing a foreign capitalinflow suddenly starts experiencing a for-eign capital outflow, perhaps because for-eign investors have lost confidence.

See also: East Asian Financial Crisis, CurrentAccount, Mexican Peso Crisis of 1994

ReferencesBordo, Michael, and Anna J. Schwartz.

“Why Clashes between Internal andExternal Stability Goals End in CurrencyCrises, 1797–1994.” Open EconomyReview, vol. 7 (suppl): 437–468.

Fontaine, Thomson. “Currency Crises inDeveloped and Emerging MarketEconomies: A Comparative Empirical

Treatment.” IMF Working Paper(WP/05/13), January 2005.

CURRENCY–DEPOSITRATIO

The currency–deposit ratio equals thetotal circulating currency divided bycheckable bank deposits. Checkablebank deposits are deposits that are usedin transactions. Also called “demanddeposits,” checkable deposits representclaims on currency that the public canexercise freely and with minimal delay.The total circulating currency countsonly currency held by the nonbank pub-lic. It excludes currency held as vaultcash at banks. Both currency and check-able deposits act as a form of money.

The currency–deposit ratio reflectspublic preferences for holding currencyrelative to bank deposits. It undergoessome seasonal variation. During theChristmas shopping season, the ratiotends to rise as the public carries morecurrency. The public can raise the cur-rency–deposit ratio by withdrawing cur-rency from banks, and it can reduce thecurrency–deposit ratio by depositingcurrency in bank accounts.

The currency–deposit ratio is importantbecause currency is part of what econo-mists call “high-powered money.” High-powered money includes circulatingcurrency and bank reserves. It is calledhigh-powered money because a bankingsystem expands deposits by some multipleof bank reserves. Bank reserves are eithervault cash or commercial bank depositswith Federal Reserve Banks. Since circu-lating currency deposited in a bankaccount becomes part of bank reserves,banks can expand bank deposits by somemultiple of the amount of a new deposit of

100 | Currency–Deposit Ratio

currency. When bank lending multipliesbank deposits, the money stock expandsaccordingly. A mass withdrawal of cur-rency from banks will cause a contractionin bank deposits several times greater thanthe amount of currency withdrawn.

A sudden shift in the public’s preferencesfor holding currency as opposed to bankdeposits can induce a change in the moneystock independent of actions by officialmonetary authorities. During the early1930s, the United States saw the public sud-denly increase its preference for currencyover deposits (Boughton and Wicker, 1979).The public was reacting to a large increasein the numbers of bank failures. At thebeginning of the 1930s, the United Stateshad not established deposit insurance, andwhen a bank failed, depositors lost theirmoney. An outbreak of bank failurespersuaded many people that they wouldrather keep their money stashed in mat-tresses or buried in coffee cans. The masswithdrawal of currency from banks not onlyadded to the number of bank failures butalso caused the money stock to contract.When an economy is sinking into recessionor depression, it needs an increase in themoney stock to stem the tide of economicretrenchment. To regain depositor confi-dence, banks started holding larger reservesrelative deposits, further reducing theamount of bank lending. Between depositorswithdrawing currency from banks, andbanks trying to bolster reserve holdings, themoney stock contracted significantly eventhough the Federal Reserve increased theamount of high-powered money. To ease thecrisis, the United States government estab-lished the Federal Deposit Insurance Corpo-ration. By mid-1934, 97 percent of allcommercial bank deposits were protected bydeposit insurance (McCallum, 329). Bankfailures subsided, and the currency–depositratio began a steady decline.

See also: High-Powered Money

ReferencesBecker, William E. Jr. “Determinants of the

United States Currency-Demand DepositRatio.” Journal of Finance, vol. 30, no. 1(March 1975): 57–74.

Boughton, James M., and Elmus R. Wicker.“The Behavior of the Currency–DepositRatio during the Great Depression.” Jour-nal of Money, Credit, and Banking, vol.11, no. 4 (Nov 1979): 405-18.

McCallum, Bennett T. 1989. Monetary Eco-nomics: Theory and Policy.

CURRENCY SCHOOL

The currency school emerged as an impor-tant body of monetary thinking followingEngland’s resumption of specie paymentsafter the Napoleonic Wars in 1821. Englandhad suspended specie payments from 1797to 1821 because of the financial stress ofwars with France. The fundamental princi-ple of the currency school lay in the con-cept of a money supply composed of coinand paper money acting just as if all moneywas entirely metallic.

Before the development of papermoney, domestic supplies of metallic cur-rency fluctuated with the ebb and flow offoreign trade. Buying goods from foreign-ers caused metallic currency to flow out,and selling goods to foreigners causedmetallic currency to flow in. A net outflowof metallic currency depressed domesticprices, rendering domestic goods morecompetitive at home and abroad, and a netinflow of metallic currency lifted domes-tic prices, rendering domestic goods lesscompetitive at home and abroad. Eco-nomic competition between countriesensured monetary stability.

The resumption of specie payments—that is, the return to convertibility of the

Currency School | 101

pound in 1821—had not ended fits ofmonetary and financial disorder andadherents of the currency school sawvariations in the money supply as theculprit. England had suffered majorcrises in 1836 and 1839, a mere three-year interval that many regarded as awake-up call. According to the thinkingof the currency school, domestic moneysupplies were fluctuating, not with theebb and flow of international trade, butwith variations in bank notes issued bybanks. Everyone agreed that banks couldexpand or contract the supply of banknotes within a wide range withoutendangering their ability to convert banknotes into specie.

The currency school argued that fluc-tuations in money supplies were themajor cause of economic swings, an ideathat is commonplace now, and that bankswere causing these fluctuations. Thesolution to the problem lay in establish-ment of a state authority exercising amonopoly privilege on the issuance ofbank notes, a practice that is universal inmodern monetary institutions. Unlikecurrent monetary arrangements, how-ever, the currency school contended thatthe issuance of bank notes should be keptstrictly proportional to domestic metalliccurrency and bullion. A loss of gold toother countries should cause domesticbank notes to decrease an equivalentamount, putting downward pressure ondomestic prices. A gain in gold fromother countries worked in reverse. At thattime in Great Britain, hundreds of banksissued bank notes without coordination,and the principle of convertibility had notensured that gold flows would drivedomestic money supplies.

Opposed to the arguments of the cur-rency school was the banking school.

The banking school argued that banknotes expanding and contracting with theneeds of trade were not a source of insta-bility and that an elasticity of currencywas needed to pave the way for eco-nomic expansion. The banking schoolpreferred leaving the management ofbank notes to bankers whose discretionwas tempered by the requirement of con-vertibility.

The Bank Charter Act of 1844 was agreat victory of the currency school overthe banking school. The act included pro-visions that would ultimately give theBank of England a monopoly on theissuance of bank notes. The act also sep-arated the Bank of England’s note-issu-ing authority from its other bankingbusiness. In a departure from the princi-ples laid down by the banking school, theact left the Bank of England with somediscretion to regulate the issuance ofbank notes independent of changes ingold reserves.

The currency school shares with themodern-day monetarist school the ideathat the money supply should be man-aged by fixed rules rather than left to thediscretion of bankers and policy makers.Modern-day monetarists would agreewith the currency school that manage-ment of the money supply is the founda-tion of macroeconomic policy.Imbedded in the thinking of both thecurrency school and the monetaristschool was skepticism about the wisdomof government policy makers, and apreference for policies founded on fixedprinciples rather than subjective judg-ments made in the midst of economicdisturbances.

See also: Bank Charter Act of 1844, Bank ofEngland, Banking School, Central Bank,Monetarism

102 | Currency School

ReferencesChown, John F. 1994. A History of Money.Spiegel, Henry William. 1971. The Growth

of Economic Thought.

CURRENCY SWAPS

A currency swap allows two parties toexchange equivalent amounts of differentcurrencies initially, followed by exchangesin the series of interest payments that mustbe paid on each series. The swap is con-cluded at a future date when the initialtrade in different currencies is reversed. Abasic currency swap involves transactionsin three separate cash flows. First, two par-ties exchange or swap equivalent amountsof two different currencies, perhaps yenfor dollars. One party might be a U.S.-based corporation selling computers inJapan. The company generates revenuein yen, which it needs to convert into dol-lars to pay dividends to its stockholders.The other party could be a Japan-basedcorporation selling cameras in the UnitedStates. This Japan-based company gener-ates revenue in dollars, which it needs toconvert into yen to pay dividends to itsstockholders. In essence, these two com-panies initiate the swap by loaning eachother equal sums of cash in their homecurrencies. The U.S.-based companyloans dollars to the Japan-based com-pany, and the Japan-based companyloans an equivalent amount of yen to theU.S.-based company. Second, these twocompanies make interest payments toeach other for the duration of the swapcontract. The U.S.-based companyreceives interest payments in dollarsfrom the Japan-based company earningdollar revenue in the United States. TheJapan-based company receives interest

payments in yen from the U.S.-basedcompany earning yen revenue in Japan.Last, the two companies complete theswap by re-exchanging the exact sums ofcash originally borrowed from eachother. In the transaction, the two compa-nies have protected themselves fromadverse changes in exchange ratesbetween the currencies of their homecountries.

Currency swaps are a method of hedg-ing foreign exchange risk over long spansof time. Foreign exchange risks have to dowith risks associated with unanticipatedchanges in the rate at which a sum ofmoney in one currency can be translatedinto a sum of money in another currency.

Currency swaps can be useful in a vari-ety of situations. Take a U.S.-based com-pany that plans to raise funds by sellingbonds. Assume this company can issuebonds in Switzerland denominated in Swissfrancs at a lower rate of interest than it canissue bonds in the United States. denomi-nated in U.S. dollars. The risks of sellingSwiss franc–denominated bonds arisesfrom the possibility that the U.S. dollarmight depreciate relative to the Swiss franc,leaving the U.S. company unable to gener-ate enough dollars to pay off its Swissbonds. To protect itself from exchange ratedepreciation the U.S.-based company couldenter into a currency swap agreement with aEuropean bank. Suppose the U.S.-basedcompany raised 100 million Swiss francs byselling Swiss franc–denominated bonds. Ina currency swap agreement with a Europeanbank, the U.S.-based company exchangesits 100 million Swiss francs into an equiva-lent amount of U.S. dollars. The Europeanbank pays interest on the Swiss francs to theU.S.-based company. The U.S.-based com-pany pays interest in dollars to the Euro-pean bank. The U.S. bank will receive the

Currency Swaps | 103

Swiss franc interest payments on the sameday that it owes interest payment on theSwiss franc bonds. When the Swiss francbonds mature, the U.S.-based company willexchange dollars for Swiss francs with theEuropean bank. The exchange rate for thefinal transaction would be part of the origi-nal swap agreement. The U.S.-based com-pany will use the Swiss francs to redeem thebonds.

Central banks also engage in swapagreements with other central banks. Dur-ing the subprime financial crisis of 2008,the Federal Reserve entered into a swapagreement with the European CentralBank. The European Central Bankneeded dollars to meet the liquidityneeds of some European banks that hadliabilities denominated in dollars.

See also: Foreign Exchange Markets

ReferencesGoswami, Gautam, Jouahn Nam, and Milind

Shrikhande. “Why Do Global Firms Use Cur-rency Swaps?: Theory and Evidence.” Journalof Multinational Financial Management, vol.14, no. 4/5 (October 2004): 315–334.

Ziobrowsky, Alan, Brigitte Ziobrowsky, andSidney Rosenberg. “Currency Swaps andInternational Real Estate.” Real EstateEconomics, vol. 25, no. 2 (Summer 1997):223–252.

CURRENT ACCOUNT

The current account summarizes transac-tions that fall within the categories ofimports or exports of good and services,income earned abroad, domesticallygenerated income belonging to foreign-ers, and unilateral transfers. The com-mon denominator behind all thesetransactions is the involvement of aninflow or outflow of currency. Unilateral

transfers include foreign aid and gifts ofmoney from residents of one country tofamily members living in another coun-try. Cross-country investments, such asbuying and selling foreign stocks andbonds, also involve currency inflows andoutflows, but are summarized in anotheraccount called the capital account. Athird account, the official reserves trans-actions account, summarizes centralbank transactions that involve an inflowor outflow of currency and that changeofficial reserve holdings. A FederalReserve purchase of gold with dollars isan example of the type of transactioncovered by the official reserves transac-tions account. These three accountsmake up the balance of payments.

The current account balance is con-sidered a significant indicator of the eco-nomic and monetary health of a country.It is among the handful of indicators thatthe Economist magazine reports formajor countries of the world. The Econ-omist reports the current account bal-ance both in absolute numbers and as apercent of gross domestic product(GDP).

On the current account, transactionsthat involve an outflow of currency are adebit item, and transactions that involvean inflow of currency are a credit item.Exports of goods and services are a creditand imports are a debit. The foreignexpenditures of a U.S. family visitingGreece count as an export on the U.S.current account. The interest income thata resident earns on a foreign bond countsas a credit. The interest income that adomestic bond pays to a foreign owner isa debit. Money residents send to familymembers living abroad counts as a debit.If the money value of the debits out-weighs the money value of the credits,then the outflow of currency outruns the

104 | Current Account

inflow of currency, and a country has acurrent account deficit. If the creditsexceed the debits, the country has a cur-rent account surplus.

Persistent current account deficits isoften regarded as an indication that acurrency is overvalued and thereforefaces a heightened risk of future depre-ciation. The largest component in thecurrent account balance is net exports(exports minus imports). A currentaccount deficit is nearly always an indi-cation that imports exceed exports. Asthe value of a country’s currency goesup in foreign exchange markets, for-eign imports into that country becomeless costly while exports from thatcountry become costlier in foreign mar-kets. An excess of imports over exportssuggests that a domestic currency is toostrong and likely to weaken in thefuture. A current account deficit indi-cates that the currency outflow on thecurrent account exceeds the inflow. Ifthe excess outflow of currency from acurrent account deficit is not offset byan excess inflow on a capital accountsurplus, a currency will depreciateunless a government is able and willingto take action. Governments usuallyhold sufficient official reserves todefend domestic currencies againstspeculative attacks, but not againstlong-term downward trends driven bymarket forces.

Currencies can remain strong in for-eign exchange markets for extendedperiods of time in situations where alarge current account deficit is offset bya large capital account surplus. A capitalaccount surplus indicates that the inflowof foreign capital exceeds the outflow ofdomestic capital to foreign countries. Anet inflow of capital equates to a netinflow of currency. Countries with per-

sistent current account deficits oftenmaintain elevated interest rates. The highinterest rates encourage the inflow offoreign capital, offsetting the tendencyof a current account deficit to underminethe value of a currency.

Even with strong capital inflows, acurrent account deficit is regarded as arisk factor in foreign exchange markets.The components in the current accountare not tightly linked to the volatilityand varying psychology of financialmarkets whereas capital flows aretightly linked to conditions in financialmarkets. Capital flows are much moresensitive than exports and imports tochanges in expectations, and can there-fore be more volatile. A net capitalinflow can quickly change to net capitaloutflow, leading to almost certain cur-rency depreciation and crashing finan-cial markets for a country with a currentaccount deficit. Currency speculatorsare always closely watching countriesusing elevated interest rates to sustaincurrent account deficits offset by capitalaccount surpluses. If these speculatorssee signs that elevated interest rates arepushing a country with a currentaccount deficit into recession, they willdump the currency of that country. Thevalue of the currency will crash in for-eign exchange markets, domestic finan-cial markets will crash, and the countrywill likely undergo a full-blown eco-nomic collapse.

For several years, the United Stateshas been able sustain current accountdeficits with little difficultly. That isbecause the United States holds a reputa-tion as a safe haven for foreign capital.United States’ investments are consid-ered among the safest in the world. Overthe last 30 years, however, the Japaneseyen has gained strength relative to the

Current Account | 105

dollar, reflecting the fact that Japan usu-ally has current account surpluses andthe United States usually has currentaccount deficits.

See also: Balance of Payments, CurrencyCrises, Foreign Exchange Markets

ReferencesAbel, Andrew B., Ben S. Bernanke, and

Dean Croushore. 2008. Macroeconomics,6th ed.

Daniels, Joseph, and David VanHoose. 2004.International Monetary and FinancialEconomics, 3rd ed.

106 | Current Account

107

D

DE A OCHO REALES(PIECES OF EIGHT)

Toward the end of the 16th century, Span-ish coins, particularly the de a ocho reales,had become the international currency andheld that position until they were eclipsedby the British pound sterling in the 19thcentury. The pieces of eight was theimmediate forerunner of the U.S. dollar.

The pieces of eight, called “Spanishdollar” in the United States, was equal toeight reales, a Spanish monetary unit.“Reales” was a word for “royal” in Span-ish. Today, the monetary unit of accountin Saudi Arabia is called the riyal, and inOman and Yemen the monetary unit isthe rial, both derivatives of the real.Spanish coins dominated Far Easterntrade, Mediterranean trade, and tradewith the New World.

The Spanish real, a silver coin, cameinto existence in 1497 with the monetaryreform of Ferdinand and Isabella, theSpanish monarchs who financedColumbus’s voyage to the New World.Originally, the real consisted of one-sixty-seventh of a mark of silver and

was coined in multiples, quadruples,and octuples (the piece of eight reales),and in fractions of a real. The real wassometimes called a “bit.” The pieces ofeight were eight bits. A fourth of a realequaled two bits, a half real equaled fourbits, and three-fourths of a real equaledsix bits. The division of the dollar intobits lives on in the cheerleading yellheard at many high school sportingevents: “Two bits, four bits, six bits, adollar, all for the [name of team] standup and holler.” Ferdinand and Isabella’smonetary reform set out to provideSpain with a unified coinage system.Charles V popularized the pieces ofeight, equal to the Bohemian or Saxonthaler, which gave its name to theUnited States dollar.

Mints in Mexico City and Peru turnedout vast quantities of Spanish reales.Mexico City boasted of the largest mintin the world, and minted a pieces-of-eight coin called the “pillar dollar,”because a symbol on the obverse sidedenotes the Pillars of Hercules, the straitthat opens the Mediterranean into theAtlantic Ocean. The modern dollar sign

($) may have originated from this sym-bol of the Pillars of Hercules, with the“S” portion a reference to a banner hang-ing from a pillar.

Mexico, after winning independencefrom Spain in 1821, minted its own pesowith a bit more silver than the old Spanishpieces of eight. The new Mexican pesowas called the “Mexican dollar” in FarEastern trade, where it was the most pop-ular coin throughout the 19th century,competing with the U.S. silver tradedollar and a British silver trade dollar.Spanish pieces of eight and Mexicanpesos were legal tender in the UnitedState in much of the pre–Civil War era.Mexico remained on a silver standardwhile most of the world adopted the goldstandard, and Mexican silver pesosremained important in Far Eastern trade.During the Great Depression of the1930s, Mexico abandoned the silverstandard, just as the United States aban-doned the gold standard.

With the loss of Mexican silver, andthe European shift toward the gold stan-dard after 1875, Spanish coinage

receded into the background as interna-tional currency.

See also: Dollar, Silver

ReferencesBraudel, Fernand. 1972. The Mediterranean

and the Mediterranean World in the Ageof Phillip II, vol. I.

Hamilton, Earl J. 1947. War and Prices inSpain, 1651–1800.

Hamilton, Earl J. 1965. American Treasureand the Price Revolution in Spain,1501–1650.

Weatherford, Jack. 1997. The History ofMoney.

Vives, Jaime Vicens. 1969. An EconomicHistory of Spain.

DEBIT CARD

Debit cards, similar in shape and size tocredit cards, substantially advanced thereplacement of coins, paper money, andchecks with electronic money. Theseplastic cards with a magnetic strip onone side enable individuals to convertbank deposits into instant cash or to payfor purchases by electronically shiftingmoney from a buyer’s bank account to aseller’s bank account. The developmentof the debit card may rank with coinage,printed paper money, and checks as oneof the great innovations in money, creat-ing a new monetary era that supplantsthe era of paper money.

The debit card burst on the world in1971 when a banker in Burbank,California, connected the idea of moneywith the idea of a vending machine. Avending machine dispensing cash wouldfree customers from the rigor of fixedbanking hours, enabling customers towithdraw cash 24 hours a day, sevendays a week. Thus, the automated tellermachine (ATM) came into being.

108 | Debit Card

Obverse view of a rare Spanish Empire silvercoin from 1743. This coin, worth eight reales,was minted during the reign of King FerdinandVI. (Hoberman Collection/Corbis)

The next important step in debit carddevelopment occurred in 1974 when theFirst Federal Savings and Loan ofLincoln, Nebraska, installed debit cardreading machines at the cash registers ofthe Hinky Dinky supermarket. Ratherthan withdrawing cash, these machinesenabled customers to transfer funds fromtheir own bank accounts to the super-market’s bank accounts, ending the needto carry cash or a checkbook to thesupermarket. Debit card transactionstake less time than check transactionsand eliminate the need for protectionagainst bad checks.

Debit cards have not been an unmixedblessing. There have been numerousinstances in which unauthorized individ-uals have used debit cards to emptysomeone’s bank account. The use ofdebit cards at ATMs usually requires apersonal identification number, whichmakes unauthorized use more difficult.Some of the debit cards that double ascredit cards may be used at some retailoutlets without personal identificationnumbers, and these cards have the great-est potential for fraudulent misuse.

Debit card transactions require anintricate telecommunications networkthat is most cost effective in grocerystores, department stores, and otherlarge retail outlets that handle large vol-umes of sales. Small transactions thattake place at small retail stores and evenvending machines still depend heavilyon coins and paper money. A new debitcard, sometimes called the smart card,removes the need for an expensivetelecommunication network, making itfeasible for use with vending machinesand small retailers. The smart card hasan embedded computer chip that allowsthe card to be programmed for a fixedamount of money. The smart card can be

used to make purchases up to a fixed orapproved amount without a telecommu-nication network that connects a card-reading machine with a bank computer.The smart card can be used at isolatedretail sites, or at vending machines,without the necessity for correct change.

The latter part of the 20th century sawsmart cards develop along lines thatcould have put an end to circulatingcash. Under the Mondex system, amachine transfers money from acustomer’s card to a merchant’s card,without going through the intermediaryof a bank. The merchant then passes onthe electronic money from his or hercard to the card of another person. TheMondex system allows blips ofelectronic money to change handswithout going through a bank. The Mon-dex system seemed to hold the promiseof ending the use of coins and papermoney. The United States Congress heldhearings to learn whether digital moneywould displace coinage and papermoney.

Futuristic visions of a cashless soci-ety, however, turned out be very prema-ture. Too much shopper resistance andtoo many technological glitches existed.Smart cards continued to develop alongdifferent lines. In one application, utilitycustomers can buy a certain amount ofcredit from a local utility company,receiving a card with information thatcould be downloaded into a home utilitymeter. Electronic displays installed inthe kitchen show how much of the creditis left on the meter. Utility customers saythis method makes it easier for them toconserve on utility costs.

In a bid to replace cash and checks,credit card companies experimentedwith using key chains, wristwatches, andarmbands for payment devices. These

Debit Card | 109

devices have not caught on, but the “con-tactless” smart card is catching on. Thiscard has an embedded computer chipthat allows the allows an electronicreader to read the card when the userholds the card in front of it. This savesswiping the card through a reader. Thecontactless cards seemed to be preferredover the traditional cards.

ReferencesBecket, Paul. “Banking: Glitches Trip Up

Real-Life Test of Plastic Cash.” WallStreet Journal (Eastern Edition, NewYork) October 8, 1998, p. B1.

Bray, Nicholas. “Future Shop: No CashAccepted.” Wall Street Journal, July 13,1995.

Sidel, Robin. “American Express DropsHigh-Tech Payment Device.” Wall StreetJournal (Eastern Edition, New York)March 31, 2008, p. B1.

Weatherford, Jack. 1997. The History ofMoney.

DECIMAL SYSTEM

The decimal system, a number systembased on the number 10, became adistinguishing characteristic of currencysystems during the 19th and 20thcenturies. The currency system of theUnited States offers a typical example ofa decimal currency system, with onedime equal to one-tenth of a dollar, andone cent equal to one-tenth of a dime, ora one-hundredth of a dollar.

From the ninth century until the endof the 18th century, the Carolingiancurrency system held sway in Europe.Under the eighth-century Carolingianreform, instituted by Charlemagne’sfather, King Pepin, 12 pence equaled oneshilling, and 20 shillings made onepound.

The Carolingian reform established anew silver coinage in which 240 denarii(pennies) equaled a livre, or poundweight of silver. The Norman Conquestbrought the Carolingian system toEngland, where it survived until 1971.

The Russians deserve credit for givingthe modern world the decimal system ofcurrency. By 1535, the Russians weretrading in a Novgorod ruble, and a smallerunit, the denga, equal to a one-hundredthof a ruble. Under Peter the Great, thedenga became the kopek, but otherwiseRussia’s decimal currency system hasremained intact to the present day.

The Russian decimal system met witha cold reception in the courts of Europe,which had elaborated on the Carolingiansystem into currency systems susceptibleto manipulation because of a multiplicityof coins that could be selectivelydebased. Also, the royal courts of Europewere not impressed with innovationsfrom countries such as Russia, whichwere mired in economic backwardness.

The American revolutionaries, eagerto depart from the practice of Europeanmonarchies, found no charm in coinscalled “crowns” and “sovereigns,” bear-ing portraits of British monarchs. TheSpanish milled dollar was a popular coinin the American colonies, but theSpanish dollar was subdivided into eightreales. In 1782, Robert Morris, U.S.superintendent of finance, sent a reportto the Congress of Confederation recom-mending that the states coin their ownmoney as a substitute for the medley offoreign coins then circulating, and thatthe state coinage systems uniformly fol-low a decimal system. The reasons forpreferring the decimal system were:

that it was desirable that moneyshould be increased in the decimal

110 | Decimal System

Ratio, by that means all calcula-tions of Interest, exchange, insur-ance and the like are renderedmuch more simple and accurate,and of course, more within thepower of the mass of people.Whenever such things requiremuch labor, time and reflection,the greater number, who do notknow, are made the dupes of thelessor number who do. (Watson,1970, 10)

Thomas Jefferson forwarded the ideathat the hundredth part of the dollar becalled a “cent,” after the Latin word for“one hundred,” and that the tenth of thedollar be called a “dime,” which means“tenth” in Latin. Alexander Hamiltonincorporated these ideas into his Reporton the Establishment of a Mint, and theCoinage Act of 1792 called for the adop-tion of a decimal currency system in theUnited States. Because the Russian cur-rency system made use of coins outsidethe decimal system, the United Statescan boast of the first completely decimalcurrency system.

The arguments favoring the decimalsystem impressed the revolutionaryimagination of France, and on October 7,1793, the French revolutionary govern-ment replaced the coinage system of theBourbon dynasty with a decimal cur-rency system. In 1795, the French revo-lutionary government changed the nameof the livre to the franc, which equaledthe sum of 100 centimes. The conquestof Napoleon helped launch the decimalsystem in Europe, where it spread rap-idly during the 19th century. GreatBritain held out until 1971, becomingone of the last countries to adopt a deci-mal currency system. A pound nowequals 100 pence, instead of 240 pence.

See also: American Penny, CarolingianReform, Coinage Act of 1792, Dollar, Mon-etary Law of 1803

ReferencesChown, John F. 1994. A History of Money.Watson, David K. 1970. History of American

Coinage.Weatherford, Jack. 1997. The History of

Money.

DENARIUS

See Carolingian Reform, Florentine Florin,French Franc, Roman Empire Inflation

DEPOSITORYINSTITUTION

DEREGULATION ANDMONETARY CONTROLACT OF 1980 (UNITED

STATES)

In 1980, Congress passed the DepositoryInstitutions Deregulation Monetary Con-trol Act (DIDMCA), the most importantpiece of banking legislation in theUnited States since the Glass–SteagallBanking Act of 1933. The DIDMCA sig-naled a marked shift in governmentbanking policy in the direction of aderegulated banking system. This was asharp contrast to the banking legislationof the 1930s, which had added to the reg-ulation of the banking industry.

One of the more important provi-sions of the DIDMCA authorized alldepository institutions to offer negoti-ated order of withdrawal (NOW)accounts. These accounts are interest-bearing savings accounts with check-writing privileges that depositors

Depository Institution Deregulation and Monetary Control Act of 1980 (United States) | 111

basically treat as checking accounts.The banking legislation of the 1930shad forbidden banks from paying inter-est on checking accounts. In the 1970s,thrift institutions, faced with an outflowof funds and hoping to make their sav-ings accounts more attractive, receivedpermission from banking regulators tolet thrift depositors write checks on sav-ings accounts. Before the DIDMCA,only savings and loans (S&Ls), creditunions, and other thrift institutionsoffered NOW accounts. In practicalterms, the DIDMCA enabled all depos-itory institutions, including commercialbanks, to pay interest on checkingaccounts. The DIDMCA also removedinterest-bearing deposits from therestrictions of state usury laws.

A related provision of the DIDMCAmade automatic transfer accounts legal,further lifting restrictions on interest-bearing checking accounts. Theseaccounts let commercial banksautomatically transfer unused checkingaccount funds into interest-bearingsavings accounts. Because checkingaccounts could not pay interest beforethe DIDMCA, the ability to switch fundsfrom checking to savings as needed gavechecking accounts some of the advan-tages of interest-bearing accounts.

By the mid-1970s, technology hadmade switching an inexpensiveprocedure, but the courts had ruled thatautomatic transfer accounts violated thelaw against the payment of interest onchecking accounts. Therefore legislationwas necessary to remove the prohibitionon automatic transfer accounts.

The DIDMCA called for the forma-tion of a Depository Institutions Deregu-lation Committee charged withoverseeing the removal of interest-rateceilings on all deposits, except business

deposits at commercial banks. This com-mittee was composed of the heads of theTreasury Department, the FederalReserve Board, the Federal DepositoryInsurance Corporation, the FederalHome Loan Bank Board, and theNational Credit Union Administrator.The Comptroller of the Currency servedas a nonvoting member.

The DIDMCA freed from state usuryceilings residential mortgages and agri-cultural and business loans in excess of$25,000 and extended partial exemptionto other loans made by state-charteredbanks, savings and loan institutions, andcredit unions. States had the option toreinstate state usury ceilings on theseloans, but action had to be taken byApril 1, 1983.

The DIDMCA gave federally char-tered S&Ls permission to make con-sumer loans, and invest in commercialpaper and corporate debt securities. Upto 20 percent of a savings and loan’sassets could be committed to these uses.The DIDMAC also added credit cards,trusts, and fiduciary services to the rangeof services offered by S&Ls. In a nut-shell, the S&Ls now compete with com-mercial banks in a wider range ofservices.

The DIDMAC authorized mutual sav-ings banks with federal charters to enterthe market for business loans. Theseinstitutions could invest up to 5 percentof their assets in these loans, and thebusiness borrowers could not receivechecking privileges associated withthese loans.

The DIDMAC put all federallyinsured depository institutions underthe reserve requirements imposed by theFederal Reserve System. Before theDIDMAC, the Federal Reserve Systemset reserve requirements of federally

112 | Depository Institution Deregulation and Monetary Control Act of 1980 (United States)

chartered commercial banks. (Reserverequirements set the percentage ofchecking and savings deposits that mustbe retained in the form of vault cash or adeposit at a Federal Reserve Bank.)Reserve requirements protect depositors(or the FDIC) by making bank assetsmore liquid and less risky, but they alsoleave bank assets less profitable becausereserves pay no interest. State laws hadinvariably set lower reserve requirements,as a percentage, for state-chartered banks.The DIDMAC increased the power ofreserve requirements as a tool of mone-tary regulation, and leveled the playingfield between federally chartered institu-tions and state-chartered institutions.

The consumer is the clear beneficiaryof competition in most industries, butwhen a bank fails, the bank’s customerssuffer as much as the bank’s owners.Depression-era legislation reduced com-petition between banks to stem the tideof bank failures. The DIDMCA took an important step toward restoringcompetition to the banking industry.

See also: Federal Reserve System, Glass–Steagall Banking Act of 1933

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets: An Economics Approach.

White, Lawrence J. 1986. “The PartialDeregulation of Banks and other Deposi-tory Institutions.” In Regulatory Reform:What Actually Happened? Ed. LeonardW. Weiss and Michael W. Klass.

DEUTSCHE BUNDESBANK

The Deutsche Bundesbank is the centralbank of Germany. Before the establish-ment of the European Central Bank, itwas comparable to the Federal Reserve

System in the United States. A relativelyyoung addition to the ranks of Europeancentral banks, the Deutsche Bundesbankgained a position of preeminence amongEuropean central banks during thepost–World War II era.

The Reichsbank, the central bank ofNazi Germany, came to an end in 1948.In West Germany, the allied occupationauthorities established a new currency,the Deutsche Mark, and organized aregional system of autonomous centralbanks, called Landeszentralbanken. Atthe apex of this system stood the BankDeutscher Länder. This bank had theexclusive privilege to issue banknotesand acted as a lender of last resort. It wasa two-tier structure, the lower layer com-posed of legally independent entities,and the structure may not have beenorganizationally efficient.

The Bundesbank Act of 1957 reor-ganized West Germany’s central bankingsystem, merging the independent Lan-deszentralbanken and the BankDeutscher Länder. The act incorporatedthese entities as the Deutsche Bundes-bank, a corporation wholly owned by theWest German government. The headoffice remained at Frankfurt am Main,and each of the 11 Länder central banksoperated its own system of branch banks.In 1990, the state banking system of EastGermany was integrated with the Bun-desbank, and the latter assumed theresponsibility for monetary policy in theunified Germany. The system is spreadout into more branches than the FederalReserve System in the United States; oneof the Länder central banks may overseeas many as 50 branch banks.

The distinguishing characteristic ofthe Bundesbank is its independence fromgovernment officials. The German peo-ple, having suffered through two

Deutsche Bundesbank | 113

episodes of hyperinflation in the 20thcentury, were committed to establishinga central bank that would protect theintegrity of its currency. The law creatingthe Bundesbank conspicuously ignoredany economic goals other than price sta-bility. In the words of the statute:

The Bundesbank, making use ofthe powers in the field of monetarypolicy conferred upon it under thisLaw, shall regulate the money cir-culation and the supply of credit tothe economy with the aim of safe-guarding the currency and shallensure the due execution by banksof payments within the country aswell as to and from foreign coun-tries. (Bank for International Set-tlements, 1963, 59)

The supreme policy-making body ofthe Bundesbank is the Central BankCouncil, composed of a president, vicepresident, up to eight additional membersof a directorate, and the presidents of the11 Länder central banks. The president ofthe Federal Republic of Germanyappoints the members of the directorate,each serving eight-year terms. The presi-dent of the directorate is appointed for aneight-year term, and is highly secure inthat appointment. The president of theFederal Republic appoints the presidentsof the Länder central banks upon the rec-ommendation of the directorate of theCentral Bank Council.

Because of its independence from gov-ernment officials, the Bundesbank couldconcentrate solely on controlling inflationduring the post–World War II era when

114 | Deutsche Bundesbank

Deutsche Bundesbank in Hamburg, Germany. (Stephan Mosel)

other central banks, less independent ofgovernment authorities, pursued policiesaimed at reducing unemployment. Duringthe 1970s, when most Western countrieswere racked by inflation, West Germanykept inflation to modest levels, and theBundesbank rose to become the mostinfluential central bank in Europe. In1993 the European Monetary Institute,the precursor to a European central bank,was set up in Frankfurt, symbolizing theEuropean Union’s commitment to soundmonetary policies.

With the establishment of theEuropean Central Bank in 1998, the Bun-desbank became a member of the Euro-pean central bank system. The presidentof the Bundesbank serves on the Govern-ing Council of the European CentralBank. The European Central bank setsmonetary policy for all countries in theeuro area, which includes Germany. TheBundesbank shares in implementing theEuropean Central Bank’s monetarypolicy.

See also: Bank of England, Bank of France,Central Bank, Federal Reserve System

ReferencesBank for International Settlements. 1963.

Eight European Central Banks.Kennedy, Ellen. 1991. The Bundesbank:

Germany’s Central Bank in the Interna-tional Monetary System.

Padoa-Schioppa, Tommaso. 1994. The Roadto Monetary Union in Europe.

DEUTSCHE MARK

Before the introduction of the euro, theDeutsche Mark, or German mark, wasthe currency unit of Germany, compara-ble to the dollar for the United States.After the collapse of the Bretton Woods

system in 1973, the U.S. dollar, nolonger convertible into gold and subjectto depreciation from inflation, lost someof its position as an international cur-rency. As the U.S. dollar lost ground asan international currency, the Germanmark began to play the same role in theEuropean economy as the U.S. dollarplayed in the world economy.

Compared to the British pound ster-ling, which can boast of a 1,300-yearhistory, the history of the German markis a bit short in light of the prestige thatit commanded in international tradebefore it was superseded by the euro. Inthe immediate aftermath of World WarII, the Reichsmark, the currency ofNazi Germany, no longer functioned asa medium of exchange. Trade tookplace on a black market, outside thesystem of German price controls, andcommodities such as cigarettes andcoal acted as mediums of exchange.Barter also flourished; city dwellerswalked to the countryside with what-ever goods they had and traded themfor food.

The victorious Allies originallyplanned to introduce monetary reform in1946, but an agreement between France,the Soviet Union, Britain, and the UnitedStates to treat Germany as singleeconomic unit broke down, delayingmonetary reform from May 1946 to June1948. Part of the difficulty was thatFrance, Britain, and the United Statesdid not want to entrust the Soviet Unionwith plates to print currency, fearing thatthe Soviets would print up extra currencyto impose an inflation tax on Germany.As the rift between the Western occupa-tion powers and the Soviet Unionwidened, the decision was made to printthe currency in the United Kingdom. Theplan to replace the Reichsmark with a

Deutsche Mark | 115

new currency, the Deutsche Mark, was aclosely guarded military secret, given thecode name Operation Bird Dog.

On June 20, 1948, the Western powersissued to every inhabitant in the threeWestern zones 40 Deutsche Marks inexchange for 40 Reichsmarks. Twomonths later, another 20 Deutsche Markswere exchanged for 20 Reichsmarks.Aside from the per capita distribution,Deutsche Marks replaced the Reichs-marks on a 1:10 basis, one DeutscheMark equaling 10 Reichsmarks. Alldebts were written down at this ratio,including government debt, mortgages,bank loans, and insurance policies. Bankdeposits and balance sheets of busi-nesses were adjusted on the same basis,deflating the asset side and the liabilityside to one-tenth of their originalamounts. The authorities decreed that allnew debts had to be contracted inDeutsche Marks. A central bank, pat-terned somewhat after the FederalReserve System, was created from thebranches of the Reichsbank. It wascalled the Bank of Deutscher Länder(Bank of German States), and in 1957 itwas transformed into the Deutsche Bun-desbank.

All price controls were lifted on June24, 1948. With the new currency, goodssuddenly showed up at stores whereshelves had been empty for years.Apparently many goods had been hidingin the underground economy.

The Soviet authorities were forced tofollow the example of currency reform inorder to keep the Reichsmarks no longeruseable in the Western zones from flood-ing the Soviet zone. The Soviets issuedthe Deutsche Mark East and for a whilethe western Deutsche Mark circulatedside by side with the Deutsche MarkEast at equal value. By the end of July

1948, the Deutsche Mark East traded atabout half the value of the DeutscheMark, a factor that contributed to thepolitical separation of East and WestGermany.

A noted economist, CharlesKindleberger (1984), wrote, “I regardthe German monetary reform of 1948 asone of the great feats of social engineer-ing of all time” (418). The DeutscheMark evolved into the most prestigiouscurrency in Europe. During the inflation-ridden 1970s, West Germany kept infla-tion to modest levels, and in the 1980s,West Germany led Europe in the disin-flation process. As Europe moved towardeconomic integration, the DeutscheMark played a major role in the mone-tary affairs of Europe. In the 1990s, eco-nomic turmoil from combining the twoGermanys cost the Deutsche Mark a bitof its reputation for stability. Also,France began to rival Germany in reputa-tion for price stability.

On January 1, 1999, the EuropeanSystem of Central Banks launched anew European currency, the euro, thatreplaced the national currencies of par-ticipating countries. The euro replacedthe Deutsche Mark, the French franc,and several other European currencies.Banknotes and coins in DeutscheMarks, French francs, and other super-seded currencies continued to serve inhand-to-hand circulation until January1, 2002.

See also: Hyperinflation in Post–World War IGermany, Gold Mark of Imperial German,Rentenmark

ReferencesKindleberger, Charles P. 1984. A Financial

History of Western Europe.Padoa-Schioppa, Tommaso. 1994. The Road

to Monetary Union in Europe.

116 | Deutsche Mark

Stolpher, Gustav. 1967. The German Econ-omy: 1870–Present.

DISSOLUTION OF MONASTERIES

(ENGLAND)

Between 1534 and 1540, King HenryVIII, showing the same hasty, thoughtlessstubbornness that marked his quest for ason, dissolved most of the English monas-teries and confiscated their property.

Early in the 16th century, England’senemy was Charles V, emperor of theHoly Roman Empire, which Voltaire laterdescribed as “neither holy, nor Roman,nor an empire.” The Catholic worldlooked to Charles V to champion thecause of Catholicism against the impiousking of England, and precious metalsfrom the New World poured in to Charles,enlarging his vision of possibilities.

The dissolution of the monasteriesoccurred against the backdrop of theReformation, the 16th-century religiousmovement that began as an effort toreform the Catholic Church and endedwith the establishment of the Protestantchurches. Thus the forces of the Refor-mation in England made monasteries aclear and open target. In addition,expenses for public works impelledHenry VIII along a course that ended inthe confiscation of vast holdings ofecclesiastical properties. Aside fromextravagant court expenditures, HenryVIII financed a major enlargement of theEnglish navy, and a significant improve-ment of England’s harbors and ports.Paying for these public expenditureswith more taxes was not workable. Taxeswere already high and any increasewould have prompted tax evasion,

perhaps increasing collection costs asmuch as revenue. Henry VIII resorted tocurrency debasement, the worst suchepisode in English history, and to theconfiscation of ecclesiastical properties.Monasteries had large landholdings thatgenerated income and were also store-houses of gold and silver candlesticks,crosses, plate, and other precious metalobjects.

Legislative action began in 1534 withthe Act for the Suppression of the LesserMonasteries. This law covered all monas-teries with annual incomes of less that200 pounds, accounting for about two-thirds of all the monasteries in England.In 1538, Henry expanded the policy ofdissolution to friaries and, in 1539,expanded it to the larger monasteries.

The monasteries were stripped andsometimes destroyed. About 75,000pounds sterling in gold and silver wassent to London from dissolved monas-teries. Bells were melted down andrecast as cannon, and lead from roofsand gutters was exported. By 1540,nearly all ecclesiastical orders hadceased to exist, although a few surviveduntil Henry’s successor, Edward VI, dis-solved them in 1547, thus completingHenry’s policy.

The abbots of targeted monasteriesresorted to various stratagems to hideprecious metals when the king’s agentscame to dispose of monastery property.Some abbots placed gold and silverobjects with private individuals in hopesof getting them back later. Some objectswere hidden in secret vaults and walls,and some were sold for money, convert-ing ecclesiastical property into privateproperty. Nevertheless, the king’s agentswere tenacious, and uncovered muchproperty that had been concealed orsecretly sold.

Dissolution of Monasteries (England) | 117

Where possible, gold and silver werecoined directly, but in some casesembedded jewels, wood, or othermaterials had to be extracted andseparated. Gold and silver either wentstraight to the mint or ended up at thegoldsmiths.

The sanctity of religious temples,churches, and monasteries had alwaysenabled these facilities to accumulatelarger quantities of gold and silver than private individuals could safelyshelter. During the Reformation, theCatholic institutions lost some of their

118 | Dissolution of Monasteries (England)

King Henry VIII of England, one of Europe’s notable absolute monarchs, instituted a series ofchanges within England that had a dramatic impact on the nature of English government andindelibly altered the relationship between the English Crown and the church. (Library ofCongress)

inviolability in countries destined to bepredominately Protestant, and govern-ments pressed for funds tended toexpropriate the precious metals fortheir own use.

See also: Great Debasement, Silver Plate

ReferencesChallis, C. E. 1978. The Tudor Coinage.Davies, Glen. 1994. A History of Money.

DOLLAR

“Dollar” is the official name for the U.S.currency, the closest approximation to aworld currency, and is also the name fornumerous other national currencies.

The term “dollar” is apparently a vari-ation of the term “thaler,” a commonterm for coins in Germany and EasternEurope that may have been derived froma valley named Joachimsthal, wherecoins were minted in the 16th century.The coins were called Joachimsthaler-groschen, soon shortened to thaler, andlater to taler. In the 16th century, theScots adopted the term “dollar” to distin-guish their currency from that of theEnglish. The Scots were not alwayscompliant subjects of the English crown,and from the outset the term “dollar”bore an anti-English and antiauthoritar-ian connotation. Scottish emigrantsbrought the term “dollar” to the Britishcolonies.

Although England forbade itscolonies to mint coins, Spain put nosuch prohibition on its colonies, whichwere rich in precious metals. Mexicoboasted of one of the world’s largestmints. Spanish coins were the mostreadily accepted worldwide, includingin the British colonies, but the colonistscalled the coins “dollars” rather than

their Spanish names of reales andpesos. The Spanish pieces-of-eightcoins had a face value of eight reales,and in the United States the phrase “twobits” is still used to refer to a quarter,one-fourth of a dollar.

The most common Spanish coin cir-culating in the British colonies wassometimes called the “pillar dollar”because the obverse side bore an imageof the Eastern and Western hemisphereswith a large column on each side. Thecolumns represented the Pillars of Her-cules, and the words “plus ultra,” mean-ing “more beyond,” embellished abanner hanging from one of thecolumns. The coin was apparently ameans of publicizing the discovery ofAmerica. The dollar sign probablyevolved from the pillar dollar, with thetwo vertical parallel lines representingthe columns, and the “S’ shape repre-senting the banner.

The dollar had established itself asthe primary money unit of account inthe 13 colonies, and the Congress of thenew republic declared on July 6, 1785,that the “money unit of the UnitedStates of America be one dollar”(Weatherford, 1997). In 1794, the UnitedStates began minting silver dollarscontaining 371.25 grains of silver, anamount based on the average weight ofSpanish dollars circulating in theUnited States. Spanish and Mexicandollars remained legal tender during theearly days of the Republic.

Popular usage made dollars, whetherUnited States, Spanish, or Mexican, theaccepted currency in the New World.Canada created an official currency, theCanadian dollar, pegged at a one to oneexchange rate with the United Statesdollar. Among the British colonies in theCaribbean, dollars became the official

Dollar | 119

currency in Anguilla, Saint Kitts andNervis, Antigua and Barbuda, Montserrat,Dominica, Saint Lucia, Saint Vincent,Guyana, the Bahamas, Belize, Barbados,the Cayman Islands, the British VirginIslands, Trinidad and Tobago, the Turksand Caicos Islands, and Jamaica. MostLatin American countries adopted as theirofficial currency the peso, which shareswith the dollar a common ancestor, theSpanish real.

Spain also popularized the use of dol-lars in the Pacific basin. In the late 19thcentury, Mexican dollars dominatedPacific basin trade but both the UnitedStates and Britain issued so-called tradedollars for foreign trade with the area.The Chinese called silver dollars “yuan,”meaning “round things,” and yuanbecame the standard currency in Chinaand Taiwan. The Japanese shortened“yuan” to “yen” and established a yencurrency. Initially 1 yen approximatelyequaled 1 dollar.

The term “dollar” became the nameof the official currencies in Australia,New Zealand, Fiji, the Cook Islands,Kiribati, Brunei, Singapore, HongKong, the Solomon Islands, Pitcairn,Tokelau, Tuvalu, the Marshall Islands,and Western Samoa. By 1994, the “dol-lar” denoted the official currencies in 37countries and autonomous territories.Europe, the birthplace of the originaldollar, is one of the few places in theworld where “dollar” is not adesignation for an official currency. In1991, the newly independent country ofSlovenia, part of the former Yugoslavia,adopted “tolar,” a variation of “dollar,”to denote its official currency. Zim-babwe, among the latest African coun-tries to join the ranks of independentnations, named its official currency the“dollar.”

See also: Coinage Act of 1792, De a OchoReales, Taler

ReferencesNussbaum, Arthur. 1957. A History of the

Dollar.Weatherford, Jack. 1997. The History of

Money.

DOLLAR CRISIS OF 1971

In August 1971, the United States gov-ernment suspended the convertibility ofdollars into gold for foreign officialholders of dollars, marking the finalbreak with the gold standard in the worldeconomy. Uneasiness about the dollarreached crisis levels in 1971 as the restof the world became increasingly awarethat the United States did not ownenough gold to redeem all the foreign-owned dollars. The drain on its goldreserves also concerned the U.S. govern-ment. Before the suspension, foreignofficial holders of dollars (foreign cen-tral banks and foreign governments) hadbeen able to convert dollars into gold atthe rate of $35 per ounce. (Domesticholders of dollars had been unable toconvert dollars into gold since the1930s.) Gold has remained an importantcomponent of international monetaryreserves, but currencies are no longerconvertible in gold at a fixed, officialrate.

The Bretton Woods system, createdin 1944, established a world gold stan-dard for international purposes, requir-ing each country to define a par value ofits currency in terms of a fixed weightof gold. A shortage of world goldreserves, however, led countries todefine domestic currencies in terms ofU.S. dollars, and the United Statesstood ready to redeem dollars into gold

120 | Dollar Crisis of 1971

at the official rate for foreign officialholders. The redemption of dollars intogold drained the U.S. gold stock from$25 billion in 1949 to $12 billion in theearly 1970s.

Largely because of worldwide mili-tary and political obligations, the UnitedStates ran what are called balance ofpayments deficits after World War II,infusing additional dollars into a worldeconomy hungry for monetary reserves.A balance of payments deficit occurswhen the outflow of dollars from U.S.imports and investment abroad exceedsthe inflow of dollars from U.S. exportsand foreign investment in the UnitedStates. The consequence in 1971 was anincrease in the number of foreign-owneddollars that the United States was com-mitted to redeeming in gold. After themid-1960s, the U.S. balance of pay-ments deficits grew at a faster tempobecause of military involvement inVietnam and heavy investment abroad.The rest of the world saw that the U.S.gold stock was insufficient to redeem allforeign-held dollars in gold. In August1971, President Nixon announced thatthe United States would no longer con-vert dollars into gold for foreign officialholders. Between August 1971 and May1973, world governments endeavored,without success, to save the BrettonWoods system with a dollar devalued interms of gold.

After 1973, the value of the dollar wasno longer defined in terms of a fixedweight of gold, and other currencieswere no longer defined in terms of dol-lars. The exchange rates between curren-cies floated freely and were based onsupply and demand. Today, governmentsmanage the floating exchange rates, butcurrencies are not tied to each other infixed exchange rates.

Historically, the suspension of con-vertibility of paper money into preciousmetal has occurred during wartime—the Civil War and the War of 1812being prime examples in the UnitedStates. The suspension of the convert-ibility of the dollar in 1971 occurredwhen the United States was engaged inthe expensive Cold War with the SovietUnion, coupled with a lengthy effort inVietnam. Some observers attribute theinflation of the 1970s to the collapse ofthe gold standard and the loss of thediscipline that the gold standard hadimposed on monetary growth. Ascontrol over monetary growth broughtinflation down in the 1980s, however, a connection between the gold stan-dard and price stability seemed lessnecessary.

See also: Balance of Payments, Bretton WoodsSystem, Dollar, Gold Standard

ReferencesDe Vries, Margaret Garritsen. 1987. Balance

of Payments Adjustment, 1945 to 1986:The IMF Experience.

Snider, Delbert A. 1975. Introduction toInternational Economics.

DOLLARIZATION

Dollarization occurs when a foreigncurrency either officially replaces orunofficially displaces domestic currencyas the primary means of payment andunit account. The term suggests situationswhere the U.S. dollar as the major worldcurrency fulfills the roles of a domesticcurrency in other countries, but the termis applied in a broader sense to situationswhere other foreign currencies take prece-dence or replace a domestic currency.The euro serves as currency in Kosovo,

Dollarization | 121

and the Swiss franc in Liechtenstein.Examples of dollarization using the U.S.dollar include Ecuador and San Sal-vador. Ecuador officially adopted theU.S. dollar as legal tender domestic cur-rency in 2000, and San Salvador in 2001(Quispe-Angnoli, Whisler, 2006). Oneof the oldest instances of permanentdollarization using the U.S. dollar isfound in Panama, which adopted theU.S. dollar in 1903. Unofficial dollariza-tion occurs when the spontaneous use ofthe U.S. dollar or other foreign currencysurfaces alongside a country’s domesticcurrency. Full dollarization occurswhen the U.S. dollar or other foreigncurrency completely replaces the domes-tic currency.

Dollarization can bring monetary sta-bility to a country gripped by runawayinflation. In these cases, dollarization islikely to develop spontaneously if thegovernment does not officially enact it.Ecuador is an example of a governmentthat turned to dollarization to meet acrisis of monetary and inflationarychaos.

As a global, free-market economy hasdeveloped, full dollarization as anattractive policy has drawn strong inter-est, even in countries not rocked by mon-etary and economic stability. Countrieshaunted by a past history of rampantinflation often find that fears of a recur-rence of inflation keep interest rates ele-vated long after the inflation subsides.High interest rates act as a deterrent toeconomic growth and development inemerging economies. One method ofbringing down interest rates is to adoptas legal tender domestic currency a for-eign currency with a history of price sta-bility. A closely related reason has to dowith the attraction of foreign capital.

When foreign investors from a devel-oped economy contemplate investing inan emerging economy, one risk theyhave to weigh is the risk of currency cri-sis and depreciation in the countryreceiving the investment. Dollarizationremoves one element of risk that foreigninvestors face and helps ease the flow offoreign capital into an emerging econ-omy. Fears of currency crisis and depre-ciation can spark capital flight andspeculative attacks, even when the fearsare unfounded. Globalization and freermarkets have increased the mobility ofcapital between countries. The enhancedmobility of foreign capital has brought inits wake a higher incidence of currencycrises triggered by sudden and expectedoutflows of capital. Dollarization is oneapproach to taming what at times seemsan epidemic of currency crises. Theglobal economy stands to benefit fromdollarization since currency crises tendto spread to trading partners, causingcontagion.

In the case of the U.S. dollar, theU.S. government does not object to acountry adopting the dollar as legaltender domestic currency, but dollar-ization does involve some disadvan-tages to the country adopting the dollar.First, all governments generate a cer-tain percent of revenue from printingmoney, a practice called “seigniorage.”Revenue from seigniorage is given upwhen a country opts for dollarization.Second, dollarization takes away fromgovernments the power to pursue anindependent monetary policy. A coun-try enduring persistent high unemploy-ment may need to depreciate itscurrency to make its goods cheaper inother countries, an option unavailableto a country that has embraced

122 | Dollarization

dollarization. In summary, dollariza-tion has costs and benefits as an officialpolicy and is still being studied.

ReferencesSchuler, Kurt. “Some Theory and History of

Dollarization.” Cato Journal, vol. 25, no.1 (Winter 2005): 115–125.

Berg, Andrew, and Edwardo Borensztein. “TheDollarization Debate.” Finance & Develop-ment, vol. 37, no. 1 (March 2000): 38–42.

Quispe-Angnoli, Myriam, and ElenaWhisler. “Official Dollarization and theBanking System in Ecuador and El Sal-vador.” Economic Review (0732183), vol.91. no. 3 (3rd Quarter 2006): 55–71.

Dollarization | 123

125

E

EAST ASIAN FINANCIALCRISIS

In 1997, a financial crisis threw the EastAsian economies into a financial chaosthat threatened to derail the East Asianeconomic miracle and engulf the globalfinancial system. In the 1990s, East Asiahad become the scene of a new group ofeconomic miracles. From the mid-1990s until the outbreak of financial cri-sis, East Asian countries such asThailand, Singapore, Indonesia, SouthKorea, and Malaysia posted real grossdomestic product (GDP) growth rates inthe 8 percent range or higher (Interna-tional Monetary Fund, 1997).

Until the East Asian financial crisis,currency crises were often the domain ofcountries suffering from high inflation,slow growth, large government budgetdeficits, low savings, and political insta-bility. Unlike the usual candidates forcurrency crises, the East Asian countrieshad what economists call “sound macro-economic fundamentals.” They had highsavings rates, low public debts, fast

growth and low inflation—the veryqualities that win the confidence of for-eign investors.

One crack in the foundation involvedthe structure of corporate finance.Enterprises had relied too heavily ondebt financing as opposed to stockissuance. Enterprises do not face bank-ruptcy when the value of company stockplunges, but they do face bankruptcywhen they cannot pay debts. An equallyimportant vulnerability stemmed fromthe balance sheets of East Asian banks.These banks borrowed foreign capitalon a short-term basis to underwritelong-term loans. The short-term natureof the foreign capital inflows left thesebanks open to a sudden and unexpectedreversal from a foreign capital inflow toa foreign capital outflow. A suddenreversal of foreign capital flows madethese banks and enterprises illiquid.Much of the foreign debt was denomi-nated in dollars. When the exchangerates of local currencies fell, the realvalue of foreign debt in local currenciesskyrocketed.

The East Asian countries practiced aneconomic policy that pegged the valueof their local currencies to a basket ofcurrencies in which the U.S. dollarplayed a highly dominate role. The rateat which a local currency could be con-verted into dollars remained almost con-stant. This policy shared in making EastAsia an attractive haven for foreign cap-ital, but it also was the undoing of theseeconomies. In the late 1990s, the valueof the U. S dollar went up, probablybecause of strong global demand forU.S. financial assets. As the value of thedollar climbed, the values of currencieslinked to the dollar, such as the EastAsian currencies, also climbed. Theappreciation of a country’s currencyleaves the exports of that country moreexpensive in foreign markets. It alsomakes foreign imports into that countryless costly. Falling exports and rising

imports left the East Asian economieswith current account deficits that neededto be financed by an inflow of foreigncapital. East Asian companies began tofeel the pain as sales fell off in foreignmarkets, and domestic sales facedgreater completion from imports. Inaddition, East Asian central banks raisedinterest rates to increase the attractionfor foreign capital. The policy of keep-ing the local currency exchange ratespegged to the dollar required that currentaccount deficits be financed by foreigncapital inflows. Otherwise, the value ofthe local currency relative to the dollarwould sink.

The economic and financial situationin Thailand sparked the crisis. Many cur-rency traders believed that the baht,Thailand’s currency, traded too high,higher than the central bank of Thailandcould support.

126 | East Asian Financial Crisis

The baht, currency of Thailand. (Jupiterimages)

Thailand’s economy was already suf-fering from double-digit interest ratesand depressed stock prices. Currencytraders launched billions of dollars of sellcontracts on the baht. Fears of currencydepreciation excited a broad outflow offoreign capital, putting more pressure onforeign exchange reserves. In a singleday, the central bank spent $500 milliondollars of its dollar reserves to keep thebaht from falling below its pegged level(Daniels and VanHoose, 1999, 441). In1997, Thailand’s central bank let the bahtfloat, free to depreciate, which it did.

The depreciation of the baht triggeredforeign capital outflows from other EastAsian economies. By the end of 1997,Thailand, Indonesia, and South Koreahad watched local currencies depreciateabout 40 percent relative to the U.S. dol-lar (Daniels and VanHoose, 1999, 36).

See also: Currency Crises

ReferencesDaniels, Joseph, and David VanHoose. 1999.

International Monetary and FinancialEconomics.

International Monetary Fund. 1997. “Crisisin Asia: Regional and Global Implica-tions.” World Economic Outlook: InterimAssessment, December 1997.

Islam, Azizul, 1999. “The Dynamics of theAsian Economic Crisis and Selected PolicyImplications.” in Global Financial Turmoiland Reform, ed. Barry Herman, pp. 49–74.

Masahiro, Kawai. “The East Asian CurrencyCrisis: Causes and Lessons.” Contempo-rary Economic Policy, vol. 16, no. 2 (April1998): 157–173.

ENGLISH PENNY

The English silver penny circulated for atleast 1,100 years, first appearing in theeighth century and remaining in circulation

until 1820, setting a record of longevity fora circulating coin that has probably neverbeen matched.

At the opening of the eighth century,small silver coins circulated, known tomodern scholars as sceattas, and men-tioned in the laws of Ine, a local Englishruler, as pennies.

The clearest point of departure for ahistory of the penny begins about 760CE with King Offa, ruler of Mercia, anAnglo-Saxon kingdom in central Eng-land. King Offa enjoys the added dis-tinction of being the only English Kingever to strike coins bearing the name andbust of his consort. He minted over amillion pennies—by some estimatesseveral millions—and he surpassed allof his predecessors in the quality of hiscoinage, as well as its quantity. Begin-ning with King Offa’s coinage, thepenny remained the only English coin incirculation for 500 years. Initially 240silver pennies weighed one pound,beginning the history of the English ster-ling pound.

The weight of the penny probablyvaried. In 1266, the English governmentdefined a silver penny to be the weight of“thirty-two wheat corns in the midst ofthe ear.” In 1280, the English govern-ment fixed the weight of the penny equalto 24 grains, setting the precedent thatmakes a pennyweight today equal to 24troy grains. The 32 grains of wheat werecomparable to 24 grains. During the 13thcentury, a penny was worth a day’swages or could buy a sheep. The value ofthe penny was sufficiently high that thegovernment turned to minting halfpennycoins in the 14th century, and three-half-penny coins in the 16th century. Theweight of the penny steadily fell until sil-ver pennies struck in 1816 weighed 7.27troy grains.

English Penny | 127

In 1257, Henry III minted gold pen-nies that were worth 20 silver pennies.Per unit of weight, gold was 10 times asvaluable as silver, and Henry III’s goldpennies weighed twice as much as thesilver pennies. The issue of gold coinsfailed, being too valuable to meet theneeds of the English economy.

The word “penny” may have origi-nated from the word “pending,” whichwas the name of a coin issued by Penda,a king who ruled Mercia in the secondquarter of the seventh century. Neverthe-less, linguistic forms of “penny” arewidely spread with equivalents in Dutchand Friesian. The Danish word formoney is still Penge, resembling penig,the old English word for “penny.” Vari-ants of the word “penny” may haveevolved from an old Danish word for thepans that were used to coin money.

The smallest denomination of coinsminted in the United States are called“pennies.” They are token coins, but wereformerly minted from copper. The pur-chasing power of the U.S. penny is a bitmodest to justify the phrase, “a prettypenny,” referring to a large sum ofmoney. Sixpenny nails now denote nailsof a certain length, but originally denotednails that sold for six pennies per 100.

See also: American Penny, Copper

ReferencesDavies, Glyn. 1994. A History of Money.Feavearyear, Sir Albert. 1963. The Pound Ster-

ling: A History of English Money, 2nd ed.

EQUATION OF EXCHANGE

The equation of exchange identifies theexact mathematical relationship thatexists between the money supply, theprice level, and the volume of economic

activity. The economist Irving Fisher(1867–1947) first formulated the equa-tion of exchange, and his version tookthe following form:

MV + M'V' = PT

Here, M stands for the stock of currencyin a given year, V stands for the velocity ornumber of times a dollar bill changes handsduring a year, M' measures the quantity ofcheckable deposits, and V' the velocity ofcheckable deposits. P stands for the priceinvolved in a typical transaction, and T rep-resents the number of transactions.

Contemporary economists make useof a simplified equation of exchange thattakes the following form:

MV = PY

Here, M stands for a measure of themoney stock that includes, at a minimum,currency in circulation plus checkabledeposits. Time deposits and other highlyliquid assets may also be included. Vstands for the income velocity of money,defined as being equal to the money valueof income and output divided by themoney stock. P stands for the price level,and Y stands for real output. In practice, PYstands for gross domestic product (GDP)unadjusted for inflation, called “nominalGDP,” and Y stands for GDP adjusted forinflation, called “real GDP.” P is a factorstanding for the price level and is calcu-lated by dividing nominal GDP by realGDP. Velocity is calculated by dividingnominal GDP by the money stock.

Nominal GDP divided by M equals V,which can be converted to the form MV =nominal GDP. Furthermore, nominal GDPdivided by real GDP (Y) equals the priceindex (P), which is mathematically equiva-lent to saying that nominal GDP = PY.Therefore MV = PY is what is called an“identity” in mathematics, true by definition.

128 | Equation of Exchange

The equation of exchange is oftenconverted to a percentage change form,expressed as:

% change in M + % change in V = %change in P + % change in Y

A school of economists called “quan-tity theorists” assumes that velocity is rel-atively stable, suggesting that thepercentage change in V is always zero.They also assume that the percentagechange in Y is at the long-term growth rateof real GDP, approximately 3 percent.With these assumptions, the inflation rate(percentage change in P) will always be 3percent less than the growth rate of themoney stock (percentage change in M). Ifthe money stock grows at 10 percent ayear, the inflation rate will be 7 percent ayear. Therefore, inflation is an exact math-ematical function of the money stockgrowth rate, and the equation of exchangefurnishes us with a theory of inflation.

Empirical evidence bears out the closecorrespondence between money stockgrowth and inflation, but there is stillroom for some economists to argue thatincreases in the inflation rate forceauthorities to increase monetary growth,instead of the other way around. Theseissues stand to benefit from further study.

See also: Monetarism, Velocity of Money

ReferencesMankiw, N. Gregory. 1996. Macroeconomics,

3rd ed.Klein, John J. 1986. Money and the Economy,

6th ed.

EURO CURRENCY

On May 3, 1998, leaders of the EuropeanUnion (EU) concluded an agreement toestablish a European Monetary Union

(EMU) and, on January 1, 1999, tolaunch a common EMU currency, calledthe “euro.” The new European currencymade its debut in two phases. The firstphase lasted between January 1, 1999,and January 1, 2002. During this phase,the banknotes and coins of the traditionalnational currencies such as the Frenchfrancs and Deutsche Marks continued tocirculate and the euro only existed as a“virtual currency.” The second phasebegan on January 1, 2002. In the secondphase, banknotes and coins in euro super-seded the banknotes and coins of the tra-ditional national currencies.

Initially, 11 countries agreed to adoptthe euro, Germany, France, Italy, Spain,Portugal, Belgium, Luxembourg, theNetherlands, Austria, Finland, andIreland. Later, Greece, Cyprus, Malta,and Slovena joined the euro zone. Fornow, Britain, Sweden, and Denmark planto retain their own national currencies.Some economists have named the newmonetary zone “Euroland.”

The historic agreement to form theEMU provides that responsibility formanagement of monetary policy inEurope falls to a newly establishedEuropean Central Bank (ECB). Centralbanks regulate money supplies, interestrates, and credit conditions, and currentlyeach member of the EMU has its owncentral bank to share in the implementa-tion of the ECB’s monetary policy. Themajor challenge facing the ECB is the for-mulation of a monetary policy that canmeet the needs of such diverse economiesas Germany and Portugal. A singleEuropean monetary policy means a singleinterest rate all across Europe, regardlessof economic conditions in each country.

The president of the ECB normallyserves an eight-year term. To ease ten-sions, the first president, Dutchman Wim

Euro Currency | 129

Duisenberg, kept his promise to stepdown after four years in favor of French-man Jean-Claude Trichet. FrenchmanChristain Noyer served as the first vice-president of the ECB. The first president,vice-president, and a four-member board,with representatives from Germany, Italy,Spain, and Finland, oversaw the manage-ment of the ECB during its first years.Reaching an agreement on the leadershipof the ECB was the last major hurdle tofinalizing the agreement.

A common European currency renderstransparent differences in wages, laborcosts, and prices among European coun-tries, forcing high-cost countries to enactreforms to improve efficiency and lowercosts. Uncompetitive countries no longerhave the option of devaluing domestic cur-rencies, making their exports cheaper toforeigners and their imports more expen-sive compared to domestic goods. Thenew currency system, by increasing com-petition between European national

economies and coming on line amid aninflation-free recovery, suffered fears ofcurrency weakness that might be expectedto undercut a new currency without a trackrecord. To bolster the euro, EMU countrieshad five times more gold and currencyreserves than did the United States.

By increasing cross-border competi-tion and trade, the EMU economicallystrengthened Europe in the global econ-omy. European leaders envision that theeuro, supported by an economic blocwith more inhabitants than the UnitedStates, is well positioned to challengethe dominance of the dollar in the globalmarket place.

Nevertheless, the introduction of theeuro was not met with universal applause.Europe suffered from high unemploy-ment rates—in some countries thehighest since the 1930s—and much ofthe blame was pinned on the economicintegration of Europe. The introductionof the euro was seen as a further stepdown the road of economic integration,forcing companies to undertake morestreamlining to remain competitive bylaying off more workers.

The euro was introduced in 1999 at avalue of 1 euro = $1.16. To the embar-rassment of the European Central Bank,the currency had lost nearly one-fourthof its value by January 2002, equalingmuch less than one U.S. dollar. After theintroduction of euro banknotes and coinsin January 2002, the euro began to gainstrength. On June 3, 2009, the euro stoodat 1 euro = $1.41.

See also: Latin Monetary Union, WendishMonetary Union

ReferencesKarouf, Jim. “Start the Presses: Euro Set to

Debut.” Futures, vol. 27, no. 9 (September 1,1998): 30.

130 | Euro Currency

Euro in various denominations. (Jupiterimages)

Wall Street Journal. “Economic ClimateLooks Good for Launch of New Currency.”May 4, 1998, A17–18.

EURODOLLARS

Eurodollars come into existence when theownership of dollar deposits in U.S. bankspasses into the hands of foreign banks.The dollar deposits, more commonlycalled “demand deposits” or “checkingaccounts,” remain in U.S. banks, but theowners of the deposits are foreign banks,or foreign branches of U.S. banks. Indi-viduals in foreign countries have dollardeposits in U.S. banks, but these depositsdo not count as Eurodollars. Dollardeposits owned by foreign banks count asEurodollars because these banks conducta business of attracting dollar deposits andmaking dollar loans. Eurodollar depositsin foreign banks are interest-paying timedeposits, usually of large amounts, andborrowers of dollars can turn to these for-eign banks for dollar loans.

In the late 1950s, European banksfirst began holding deposits denomi-nated in dollars, and borrowing andlending in dollars. The probable cause ofthe growth of the Eurodollar market laywith interest rate ceilings in the UnitedStates. Regulation Q, promulgated bythe Federal Reserve Board, put a legalceiling of less than 6 percent on interestrates that time deposits could pay inU.S. banks. The payment of interestrates that exceeded the legal interest rateceiling in the United States constitutedone of the major attractions ofEurodollar deposits. When interest ratessoared in the 1970s, foreign banks, notsubject to U.S. banking regulations,were able to pay much higher interestson time deposits, and make dollar loans

on favorable terms. In the 1980s, thederegulation of U.S. banking took awaysome of the competitive advantage ofEurodollars, but the Eurodollar markethad already established itself. From1976 until 1992, Eurodollars grew from$14 billion to $56 billion.

The growth of multinational corpora-tions, major customers in the Eurodollarmarket, may have contributed to theexpansion of Eurodollars. Growth wasfurther facilitated because the Eurodollarmarket made dealing in dollars a daytimeaffair in European time zones. LargeUnited States banks also have borrowedfunds in the Eurodollar market, and dur-ing the Cold War, the Soviet governmentkept dollar deposits in European banks toprevent the U.S. government from freez-ing Soviet assets in a political dispute.

London is the headquarters for theEurodollar market, but Eurodollar trans-actions take place worldwide. Banks inthe Bahamas, Cayman Islands, Canada,Hong Kong, and Singapore hold dollardeposits and lend dollars.

Eurodollars are a subspecies ofEurocurrencies, all of which have extrater-ritorial markets such as the Eurodollarmarket. Other important Eurocurrenciesare Japanese yen, German marks, Britishpounds, French francs, and Swissfrancs. Luxembourg is headquarters forEuromark deposits, and Paris and Brusselsfor Eurosterling deposits.

See also: Euro Currency, European CurrencyUnit

ReferencesDaniels, John D., and Lee H. Radebaugh.

1998. International Business, 8th ed.Terrell, Henry S., and Rodney H. Mills.

“International Banking Facilities and theEurodollar Market.” Staff Study no. 124,August 1983.

Eurodollars | 131

EUROPEAN CENTRALBANK

The European Central Bank (ECB) is notonly the newest but also one of the mostimportant central banks in the world. Itbears responsibility for the conduct ofmonetary policy within the euro area, set-ting interest rates and money stock growthacross all countries that use the euro asdomestic currency. The mission statementof the European Central Bank underscoresthe goals of price stability and safeguard-ing the value of the euro. Headquartered inFrankfurt, Germany, the bank came intobeing on June 1, 1998, as mandated bytreaty. The bank did not wield its full pow-ers until the introduction of the euro onJanuary 1, 1999. The bank holds the exclu-sive privilege to authorize the issuance ofeuro banknotes. Individual governmentsof euro countries can issue euro coins, butthe amount must be authorized in advanceby the European Central Bank.

The German Bundesbank furnishedthe model that shaped the design of theEuropean Central Bank. Like the GermanBundesbank, the European Central Bankenjoys substantial independence frompolitical authorities. The treaty callingfor the establishment of the EuropeanCentral Bank prohibits it from takingorders from politicians.

Responsibility for monetary policy andoversight of the European Central Bankresides with a governing council. The coun-cil usually meets twice a month. Twogroups compose the council, an executiveboard and the governors of the nationalcentral banks for each of the fifteen coun-tries within the euro area. The executiveboard consists of the president, the vice-president, and four other members. Theheads of state or governments of the coun-

tries within the euro area appoint the mem-bers by common accord. The members ofthe executive board, including the presidentand vice-president, serve eight-year terms.The terms are nonrenewable, giving themembers less incentive to accommodatepolitical pressure. The executive boardbears responsibility for implementing poli-cies decided on by the governing council.

The governing council establishes atarget inflation rate of 2 percent. It aims atmaintaining this inflation rate by adjust-ment in three key interest rates. In pressreleases regarding monetary policy, thegoverning council announces the mini-mum bid rate on the main refinancingoperations, the interest rate on the mar-ginal lending facility, and the interest rateon the deposit facility. The minimum bidrate on the main refinancing operations isthe interest rate that is closest to theFederal Reserve System’s targeted federalfunds rate. The main refinancing opera-tions involve a weekly auction of two-week repurchase agreements. In theserepurchase agreements, the ECB, throughthe central banks of each euro country,provides reserves to banks in exchangefor securities, and then reverses the trans-action two weeks later. The main refi-nancing operations are the ECB’scounterpart to the Federal Reserve’s openmarket operations. The interest rate on themarginal lending facility is the interestrate that commercial banks pay onovernight loans from the ECB. This inter-est rate is usually above the minimum bidrate on the main refinancing operations.The interest rate on the deposit facility isthe interest rate that commercial banksreceive for putting excess reserves onovernight deposit with the ECB. Thisinterest rate is usually substantially belowthe minimum bid rate of the main refi-nancing operations.

132 | European Central Bank

See also: Central Bank

ReferencesMoutot, Philippe, Alexander Jung, and

Francesco Mongelli. “The Workings of theEurosystem: Monetary Policy Preparationsand Decision Making-Selected Issues.”Occasional Paper Series, no. 79, 2008.

Scheller, Hanspeter K. 2006. The EuropeanCentral Bank: History, Role, and Functions.

EUROPEAN CURRENCYUNIT

The European Currency Unit (ECU)began in 1979 as what is called a “basketcurrency,” a composite currency based ona weighted average combination ofEuropean currencies. It had a predecessorin the European Unit of Account (EUA),

which dated back to the 1950s and wasused for official transactions betweencountries. The ECU was similar in con-cept, and but it experienced a totallyunforeseen growth in private sector use,suggesting that there might be a strongdemand for an international currency.The initials, ECU, were consciouslydevised as a reference to the ancientFrench coin, ecu, which was equal tothree French livres.

The ECU acts as a unit of account forkeeping books and defining the terms ofcontracts, but does not circulate in theform of a paper currency. The EuropeanMonetary Fund kept its funds designatedin ECUs. The ECU was an intermediatestep toward a common European cur-rency that European Union countrieslaunched in mid-1998.

At its first introduction, an ECU con-sisted of specified amounts of the followingcurrencies:

West German mark 0.828

French franc 1.15

Belgian franc 3.66

Luxembourg franc 0.14

Italian lira 109.00

Danish krone 0.217

Dutch guilder 0.286

Irish pound 0.00759

British pound sterling 0.9885

Later, the ECU basket incorporatedthe currencies of Spain, Portugal, andGreece. As various currencies weredevalued or revalued, the weights werereconfigured accordingly.

ECUs could be expressed in terms ofsingle ECU units or in terms ofequivalent amounts of separate nationalcurrencies. Member countries of the

European Currency Unit | 133

The European Central Bank, based in Frank-furt, Germany, sets monetary policy for theEuropean Union. (Alexander Mironov)

European Monetary System cooperatedto maintain desired exchange ratesbetween individual national currenciesand the ECU.

The ECU began as a basket currency,but it soon took on characteristics of anindependent currency. A market forECU-denominated assets developedindependently of the market for assetsdenominated in component currencies,and ECU deposits earned interest, whichwas often different from a weightedaverage of interest rates paid on depositsof component currencies. By 1985, ECUtransactions in Paris ranked third, afterthe U.S. dollar and the German mark,and by 1987 ECU futures on the ChicagoMercantile Exchange approached 3 milliontransactions. Financial assets denominatedin ECUs included certificates of deposit,commercial paper, bank loans, and fixedrate and variable rate bonds. Central bankscreated ECUs for settling paymentsbetween individual countries, and privatebanks bundled individual currencies tocreate ECU financial instruments asneeded.

The ECU represented an importantstep in the development of a Europeancurrency. Presumably with the introduc-tion of the euro in 1998, a European bas-ket currency such as the ECU will nolonger serve a purpose.

See also: Euro Currency, Snake, The

ReferencesKenen, Peter B. 1955. Economic and Monetary

Union in Europe.Padoa-Schioppa, Tommaso. 1994. The Road

to Monetary Union in Europe.

EUROPEAN MONETARYUNION (EMU)

See: Euro Currency

EXCHEQUER BILLS

See: Exchequer Orders to Pay

EXCHEQUER ORDERS TOPAY (ENGLAND)

Exchequer orders of payment, whichappeared during the 17th century, werethe first paper money issued by theEnglish government. The orders werewhat might be called “state notes,” incontrast to banknotes, which completelydisplaced state notes as circulatingmoney in England, and later the UnitedStates. State notes are issued by govern-ment treasuries to finance governmentspending. Banknotes are liabilities ofbanks and are secured by the assets andinvestments of the issuing bank. Virtu-ally all paper money today is banknotesissued by central banks.

In 1667, Parliament authorized CharlesII to issue paper orders, or assignments ofrevenue, to whoever advanced cash orsupplied goods to the government. Arecord book kept a list of the Exchequerorders according to their order ofissuance. As tax revenue poured in, theExchequer redeemed in cash the orders inthe same sequence as they were issued.The first order issued was the firstredeemed and so on. At first, the govern-ment assigned revenue from a particulartax to redeem an issue of orders, but laterthe government issued orders for redemp-tion out of general revenue.

The Exchequer orders supplementedand eventually replaced tallies, whichwere the notched wooden sticks splitinto matching parts. Tallies served thesame purpose as the orders but were notas amendable to written endorsements,and therefore were not as suitable as

134 | Exchequer Orders to Pay (England)

currency. The orders, like the tallies,were negotiable; that is, they weretransferable to another party with awritten endorsement. This renderedthem serviceable as a medium ofexchange.

The government issued Exchequerorders to department heads who eitherpaid for supplies with orders or dis-counted orders to goldsmiths in return forcash. As a loan to the government, ordersbore interest, sometimes as high as 8 to10 percent, a handsome interest rate togoldsmiths who paid depositors as muchas 6 percent interest to attract funds fordiscounting orders. The goldsmiths madea ready market for the orders, renderingthem liquid and even more acceptable asmoney. The orders supplemented thescarce coinage in the English economyand offered an interest-bearing invest-ment in small denominations (20 poundsor so) for the small investor.

In late 1671, the market for Exchequerorders became saturated, even at the highinterest rates, and the goldsmiths stoppeddiscounting orders for the government.On January 2, 1672, Charles II issued aproclamation, the infamous Stop of theExchequer, suspending the redemption ofthe orders. The goldsmiths were left withvast holdings of unredeemable orders,and many went bankrupt. Interest pay-ments were suspended until 1677. Themoney owed by the government laterbecame part of the British public debt,but the credit of the British crown wasseriously impaired, and the issuance ofExchequer orders came to an end.

In 1696, the English governmentbegan issuing Exchequer bills. These

bills paid interest, were acceptable inpayment of most taxes, transferable bywritten endorsement, and convertibleinto cash on demand at the Bank ofEngland. The popularity of these bills asa form of currency allowed the govern-ment to drop the interest rate to as low as1.5 percent per annum. Private bankscomplained that the bills competed withtheir own banknotes.

Later, in the 18th century, the govern-ment’s financing requirements outgrewthe small denomination Exchequer bills,around 20 pounds, that were payable ondemand. The government opted for billspaying higher interest rates and payableafter a fixed time period. These bills werenot suitable as a medium of exchange,and banknotes became the only papermoney circulating in England.

The experience with the Exchequerorders struck a hard blow against thecredibility of state paper money inEngland. If the Exchequer orders hadturned out to be a successful experi-ment in paper money, England mighthave developed a monetary systembased on state paper money, rather thanbanknotes.

See also: Bank of England, Stop of the Exche-quer, Tallies

ReferencesDavies, Glyn. 1994. A History of Money.Feavearyear, Sir Albert. 1963. The Pound Ster-

ling: A History of English Money, 2nd ed.Nevin, Edward, and E. W. Davis. 1970. The

London Clearing Banks.Richards, R. D. 1929/1965. The Early

History of Banking in England.

Exchequer Orders to Pay (England) | 135

137

F

FEDERAL DEPOSIT INSURANCE

CORPORATION (FDIC)

See: Glass–Steagall Banking Act of 1933

FEDERAL OPEN MARKETCOMMITTEE (FOMC)

The Federal Open Market Committee(FOMC) is the chief policy-makinggroup within the Federal Reserve System.It makes the key decisions for monetarypolicy in the United States. Monetarypolicy has to do with interest rates, creditconditions, and growth in the moneysupply.

The FOMC consists of 12 members.All seven members of the board of gov-ernors of the Federal Reserve Systemserve on the FOMC. The president of theFederal Reserve Bank of New York isalso a permanent member of the FOMC.The presidents of the 11 other regionalFederal Reserve Banks hold the remain-ing four seats on a rotating basis. The

seven presidents of regional FederalReserve Banks who do not hold a seatattend meetings of the FOMC as nonvot-ing members. The chair of the board ofgovernors of the Federal Reserve Systemalso serves as chair of the FOMC. Thepresident of the Federal Reserve Bank ofNew York serves as vice-chair. The sevenmembers of the board of governors wielda powerful sway over monetary policy.They hold the majority of the voting seatson the FOMC and are permanent mem-bers. FOMC decisions are made either byconsensus or near consensus.

The president of the Federal ReserveBank of New York owes his precedenceover the other presidents to the special roleplayed by the Federal Reserve Bank ofNew York. The Trading Desk at this bankcarries out the day-to-day operationsrequired to implement the policies decidedby the FOMC. The account manager forthe FOMC is the chief supervisor of theNew York bank’s Trading Desk. That per-son is in daily contact with members ofFOMC subcommittees. Normally, theFOMC meets eight times per year to assessmonetary policy and make adjustments. If

developments in the economy warrantquicker action, the FOMC holds additionalmeetings either in person or by conferencecall. Immediately after a meeting, theFOMC announces its decisions to aneagerly awaiting Wall Street and financialmedia. Financial markets often reactwithin minutes of an announcement fromthe FOMC. Financial markets may reactright before a meeting as speculators try tomake money by betting on what action theFOMC will take.

The wording of the formal instruc-tions to the New York Trading Desk isdecided at the FOMC meeting. Once theFOMC decides to change policy, the newpolicy is implemented immediately. Thepolicies are implemented through thepurchase and sale of U. S governmentsecurities. The Federal Reserve’s tradingin U.S. government securities are called“open-market operations.” The New YorkTrading Desk decides the amount ofsecurities to buy or sell to carry out theinstructions handed down by the FOMC.

The main interest rate the FOMC aimsto influence is the Federal Funds Rate,which is the rate of interest commercialbanks charge each other for overnightloans. The FOMC decides on a target forthe Federal Funds Rate and instructs theNew York Trading Desk to conduct theopen-market operations necessary tomaintain the targeted rate. To ease mone-tary policy, the FOMC lowers the tar-geted rate, and to tighten monetarypolicy, the FOMC raises the targeted rate.

See also: Announcement Effect, Open MarketOperations

ReferencesMeade, Ellen E. “The FOMC: Preferences,

Voting, and Consensus.” Review, FederalReserve Bank of St. Louis, March 2005,pp. 93–101.

Thornton, Daniel L. “When Did the FOMCBegin Targeting the Federal Funds Rate?What the Verbatim Transcript Tells Us.”Working Papers, 2004-015, FederalReserve Bank of St. Louis, 2005.

FIAT MONEY

See: Inconvertible Paper Standard

FEDERAL RESERVESYSTEM

The Federal Reserve System is the centralbanking system for the United States,established by the Federal Reserve Act of1913. Most countries have only one centralbank, such as the Bank of England, orBank of Japan. Several countries inEurope share the European Central Bank.The Federal Reserve System makes up asystem of 12 regional central banks. Centralbanks are bankers’ banks, holdingdeposits of commercial banks, makingloans to commercial banks, and serving aslenders of last resort to commercial banksin an economic downturn. The FederalReserve System also acts as a bank for theU.S. government, and has a monopoly onthe issue of banknotes, called FederalReserve Notes. The term “reserve” in thetitle refers to the role central banks play indetermining the liquidity of commercialbanks. The Federal Reserve System regu-lates the money supply, interest rates, andcredit conditions in the United States.

The United States was slow to adoptthe concept of central banks as systemsof monetary control. The early years ofthe Republic saw the creation of the FirstBank of the United States in 1791, butCongress failed to renew its charter in1811. Congress chartered the Second

138 | Federal Reserve System

Bank of the United States in 1816, butPresident Jackson vetoed the renewal ofits charter in 1832. These two banks,similar in structure, were early experi-ments in central banking, but wereunpopular. The U.S. government’s con-trol over the management and policies ofthese banks was limited to the votingrights of a minority stockholder. Fear ofEast Coast domination of the bankingindustry helped undermine support forthe Second Bank of the United States.

The decentralized and unregulatedbanking system of the latter 1880s con-stantly buffeted the country with moneypanics and financial crises, leading publicofficials to see the necessity for overcom-ing the political objections to a centralbank. Political objections came from sev-eral angles, including government offi-cials who felt that the banking industrycould not be trusted to regulate itself, and

leaders in banking who felt that electedpoliticians lacked the necessary knowl-edge to regulate banking and were oftenirresponsible in financial matters. In addi-tion to the distrust between leadingbankers and elected politicians, there wasdistrust between regions of the country.Many regions presumed that a centralbank would be located in New York City,subjecting the country to Wall Street dom-ination. These contending forces helpedshape the Federal Reserve Act of 1913that created the Federal Reserve System.

To diffuse the fear of Wall Street domi-nation of banking, the Federal Reserve Actcreated a system of 12 regional central banks.The Federal Reserve Bank of New York isthe most important for policy purposes, butthere are Federal Reserve Banks in Boston,Philadelphia, Atlanta, Cleveland, St. Louis,Kansas City (Mo.), Richmond, Dallas, SanFrancisco, Chicago, and Minneapolis.

Federal Reserve System | 139

The Federal Reserve System is headquartered in the Eccles Building on Constitution Avenue inWashington, D.C. The building is named for Marriner Eccles, chair of the Federal Reserve from1934 to 1948. (iStockPhoto.com)

Like the First and Second Bank of theUnited States, the Federal Reserve Banksare privately owned. Private ownershiphelped appease the banking community’sarguments that knowledgeable bankerscan best regulate the banking industry.Commercial banks in each district thatare members of the Federal Reserve Sys-tem own the stock in the regional FederalReserve Bank. The Federal Reserve Actrequires all banks with national chartersto be members of the Federal ReserveSystem.

The final authority for monetary pol-icy lies with the Board of Governors ofthe Federal Reserve System. The presidentof the United States makes appointmentsto this seven-member board, subject tothe approval of the Senate. The sevenboard members serve 14-year terms thatare staggered so that one member’s termexpires every other year. This constantrotation on the board dilutes the power ofany one president to bias the board politi-cally. One of the board members acts aschairman of the board of governors, andthe president—with the approval of theSenate—appoints that person. The chairmanserves a four-year term that is renewable.Congress organized the board of governorsto be independent of either the bankingindustry or the elected politicians.

Despite the trend toward deregulationin banking, Congress has not limited theauthority of the Federal Reserve System,except in certain areas such as fixinginterest rates on savings accounts. TheDepository Institution Deregulation andMonetary Control Act of 1980 gave theFederal Reserve System the authority toset reserve requirements for state-char-tered banks in addition to its existingauthority to set reserve requirements fornational chartered banks. (The reserverequirement is the percent of money

deposited in checking and savingsaccounts that a bank has to retain in theform of vault cash and deposits atFederal Reserve Banks.)

Because the Federal Reserve System’sgoverning board is composed ofunelected officials who are somewhatimmune to political pressure, the FederalReserve System often bears the brunt ofthe responsibility for combating inflationin the United States. Anti-inflation policiesare often accompanied by high unem-ployment, rendering these policiesunpopular with elected officials, wholike to earn credit for reducing unem-ployment rather than increasing it.Therefore the elected officials often deferto the unelected officials that compose theboard of governors the responsibility forslowing down the economy and taminginflation.

Amid the U.S. financial crisis in 2008,the Federal Reserve put aside, at leasttemporarily, its concern about inflationand broadened its role as a lender of lastresort. Customarily, only depositoryinstitutions enjoyed the privilege of bor-rowing funds at the discount window ofthe Federal Reserves. Even banks infinancial difficulty could borrow as longas they put up good collateral. In the res-cue of investment bank Bear Stearns, theFederal Reserve accepted as collateralsecurities backed by subprime mort-gages of unknown risk and market value.The Federal Reserve agreed to grantloans against the mortgage-backed secu-rities as part of a deal for JPMorganChase & Co. to purchase Bear Stearns.The Federal Reserve justified its actionof the grounds that the failure of BearStearns put the entire financial system atrisk. The Federal Reserve also gave otherinvestment banks and primary dealers inU.S. government securities the same

140 | Federal Reserve System

access to discount window lending thatis ordinarily reserved for depositorycommercial banks.

See also: Bank of England, Bank of France,Central Bank, Deutsche Bundesbank, FirstBank of the United States, Second Bank ofthe United States

ReferencesBoard of Governors of the Federal Reserve

System. 1984. The Federal Reserve System:Purposes and Functions.

Broz, J. Lawrence. 1997. The InternationalOrigins of the Federal Reserve System.

Greider, William. 1987. Secrets of the Temple:How the Federal Reserve System Runs theCountry.

Timberlake, Richard Henry. 1978. The Originsof Central Banking in the United States.

FINANCIAL SERVICESMODERNIZATION ACT OF

1999 (UNITED STATES)

The Financial Services ModernizationAct of 1999 (FSMA) repealed the provi-sions of the Glass–Steagall Act of 1933and the Bank Holding Act of 1956 thatkept commercial banks, securities firms,and insurance companies organized intoseparate, noncompeting businesses.Before passage of the FSMA, deposit-holding commercial banks could notengage in the underwriting and broker-age activities of an investment bank, andneither a commercial bank nor an invest-ment bank could engage in the insurancebusiness. Congress put together the legis-lation after Citicorp and Travelers Groupannounced plans to merge. Citicorp wasa large U.S. international bank, and Trav-elers a large U.S. insurance company.

The heart of the FSMA repealed the pro-vision in the Depression era Glass–Steagall

Act that prohibited commercial banks fromproviding investment banking services suchas underwriting, brokerage, and holdingstock in nonfinancial corporations. TheFSMA allows commercial banks to formfinancial holding companies that can offer afull range of financial services, includingholding deposits, granting personal andcommercial loans, underwriting and broker-ing securities, and providing insurance.Holding companies do not sell goods andservices themselves, but only own a control-ling interest in stock of other companies.

Proponents of the FSMA argued that itbrought U.S. banking regulation moreinto line with banking regulation of otheradvanced, industrialized countries, creat-ing a level playing field for U.S. banks.Before passage of the act, foreign sub-sidiaries of U.S. banks could provideinsurance and underwriting services inforeign banking markets. Foreign banks,evolving under easier regulations, hadgrown larger and more diverse than U.S.banks, and some feared more resilient andcompetitive. After passage of the FSMA,the United States, along with Japan, stillhas the strictest regulations on the abilityof commercial banks to mix deposit bank-ing with insurance and securities busi-nesses. The least restrictive regulationsare found in the United Kingdom, theNetherlands, and Switzerland. Most othercountries do not require the holding com-pany structure. Foreign banks usuallyconduct the securities business within thebank and provide insurance servicesthrough a subsidiary.

The FSMA paved the way for the con-solidation of firms in the banking, broker-age, insurance business. Amid thefinancial crisis of 2008, the FinancialServices Modernization Act (FSMA)allowed JPMorgan Chase to acquire BearStearns, and Bank of America to acquire

Financial Services Modernization Act of 1999 (United States) | 141

Merrill Lynch. Before 2008, the rate ofconsolidation had been relatively slow.The difficulties of investment banks suchas Bear Stearns, Merrill Lynch, GoldmanSachs, and Lehman Brothers may havestemmed in part from the severe competi-tion posed by the large, diversified univer-sal banks such as JPMorgan Chase. Theselarge banks were not possible before theenactment of the FSMA.

Under the financial holding companyarrangement, the ability of a commercialbank to use depositors’ money to financeinvestment-banking operations in an affili-ate is severely restricted. Under the pres-sure of the financial crisis of 2008, theFederal Reserve System granted a tempo-rary suspension of these rules. The suspen-sion of these rules made it easier for Bankof America to purchase Merrill Lynch.

In addition, the FSMA opened the pathfor two ailing investment banks, GoldmanSachs and Morgan Stanley, to reorganizeas bank holding companies and createaffiliated commercial banks. These com-mercial banks are able to attract retaildeposits as an added source of funds.

One of the provisions of the FSMArequires financial service companies tofurnish customers written disclosure ofprivacy policies and practices. This dis-closure must be made at the beginning ofa banking relationship and repeated oncea year. The disclosure must indicate whatnonretail affiliates of a bank will haveaccess to customers’ data, and the rangeand kind of customer data. Customersalso have a choice to prohibit such sharingof information.

See also: Glass–Steagall Banking Act of 1933,Universal Banks

ReferencesAkhigbe, Aigbe, Melissa B. Frye, and Ann

Marie Whyte. “Financial Modernization in

U.S. Banking Markets: A Local or GlobalEvent.” Journal of Business Finance &Accounting, vol. 32, no. 7 (2005):1561–1585.

Enrich, David, and Damian Palaetta. “TheFinancial Crisis: Walls Come Down,Reviving Fears of a Falling Titan.” WallStreet Journal (Eastern Edition, NewYork) September 23, 2008, p. A6.

Knee, Jonathan A. “Boutique vs. Behemoth.”Wall Street Journal (Eastern Edition, NewYork) March 2, 2006, p. A14.

FIRST BANK OF THEUNITED STATES

The First Bank of the United States(1791–1811) met the needs of a centralbank in the early years of the Republic.It helped regulate the issuance of bank-notes by state banks and acted as thebank of the United States government.The First Bank received its charter fromthe national government in 1791, whenPresident George Washington signed thebill authorizing its incorporation.

The First Bank of the United States wasa brainchild of Alexander Hamilton, whosaw such a bank as a means of raising short-term capital for the government and han-dling bills of exchange needed for makingpayments to foreign holders of the nationaldebt. Hamilton patterned the First Bankafter the Bank of England, and got many ofhis ideas from the role the Bank of Englandplayed in the English economy and gov-ernment finances. He also promoted thebank as a means of increasing the circula-tion of banknotes, which was needed atthat time because of a shortage of specie.

Hamilton’s Report on a NationalBank went to Congress in December1790. The proposal drew fire from crit-ics concerned that the bank was a

142 | First Bank of the United States

monopoly sanctioned by Congress. Asthe debate on this issue waned, constitu-tional questions arose that were to hauntthe bank for the duration of its exis-tence. The Constitutional Convention of1787 had chosen not to give Congressthe power to grant charters of incorpora-tion and the Constitution itself was silenton the subject.

The bill for the bank’s charter passed bya 2–1 vote in the House and by a majorityvote in the Senate, but Washington balkedat signing it, partly at the urging of suchluminaries as Thomas Jefferson. Washingtonsigned the bill chartering the bank afterHamilton wrote a very able paper in itsdefense. The First Bank made Philadelphiaits headquarters and, over Hamilton’sopposition, set up branches, one as faraway as New Orleans.

The charter authorized a capital stockof $10 million. The U.S. government pur-chased one-fifth of the stock, paid for bya loan from the First Bank, and the remainingfour-fifths was opened for public subscrip-tion. The bank was fully capitalizedwithin an hour after shares became avail-able to the public. Public subscriberscould pay one-fourth in specie and four-fifths in government obligations, and for-eigners eventually held much of thestock. The charter prohibited the bankfrom trading in anything besides bills ofexchange, gold and silver bullion, andgoods held as security for defaultedloans. The total debt of the First Bankcould not exceed its capital and moneyheld on deposit. The bank needed con-gressional approval before it could makeloans in excess of $100,000 to the U.S.

First Bank of the United States | 143

Bank of the United States in Philadelphia at the turn of the 19th century. (Library of Congress)

government, any state government, or topurchase any of the public debt.

Commercial loans accounted for mostof the bank’s lending, and the bank servedsome of the functions of a central bank.At that time bank loans were paid out inbanknotes, convertible into specie ondemand. The bank held other commercialbanks accountable by presenting to themtheir banknotes for redemption in specie.The First Bank’s role in controlling theissuance of banknotes won the supportof the large commercial banks. The bankparticularly helped control the over-issuance of banknotes by country banks,often the source of inflationary pressures.

When the charter for the First Bankcame up for renewal in 1811, it failed byone vote in the House. Constitutionalissues and foreign ownership cost theFirst Bank much of its support in Con-gress. The vote in the Senate was a tie,and the vice president broke it by votingagainst the First Bank.

Congress soon missed the First Bankand, in 1816, chartered the Second Bankof the United States, but that bank lost itscharter in 1832. The Federal ReserveSystem, established in 1913, was the firstcentral bank in the United States to estab-lish itself in the confidence of the voters.

See also: Bank of England, Central Bank, FreeBanking, Federal Reserve System, SecondBank of the United States

ReferencesMyers, Margaret G. 1970. A Financial His-

tory of the United States.Timberlake, Richard Henry. 1978. The Origins

of Central Banking in the United States.

FISHER EFFECT

The “Fisher effect” refers to the ten-dency for the nominal interest rate and

the inflation rate to march in step witheach other. The nominal interest rate isthe quoted market rate and is not adjustedfor inflation. The linkage between thenominal interest rate and the inflationrate is one-to-one. A 1-percent increasein the inflation rate causes a 1-percentincrease in the nominal interest rate. Therelationship gets its name from IrvingFisher, an influential U.S. economist ofthe early 20th century.

Fisher developed his hypothesis tosolve what was called “Gibson’s para-dox,” a positive correlation betweeninterest rates and the price level that washighly evident during the period of theclassical gold standard. John MaynardKeynes named this correlation“Gibson’s paradox” and called it one ofthe most completely established empiri-cal facts in quantitative economics. Itwas considered a paradox because therewas no reason for it to exist in theory.Irving Fisher pointed out that althoughthere was no reason for a positive corre-lation between the nominal interest rateand the price level, there was strong rea-son for positive correlation betweennominal interest rate and the rate ofchange in the price level, meaning theinflation rate. Fisher also observed that aweighted moving average inflation, withrecent inflation rates having largerweights, correlated highly with the pricelevel. Fisher concluded that in Gibson’sparadox the price level in effect acted asa proxy for weighted moving average ofthe inflation rate. In summary, inflationraises nominal interest rates, but notimmediately. Over time, however, asteady and fully anticipated inflationrate is eventually fully reflected innominal interest rates.

Fisher developed an equation thatbecame the basis of his theory:

144 | Fisher Effect

nominal interest rate = real interest rate + expected inflationAccording to this equation, in a zero-

inflationeconomy,thenominalinterestrateequals the real interest rate. The real inter-est rate is determined by the productivity ofcapital and the thriftiness of savers. Theproductivity of capital creates a demandfor lendable funds, the thriftiness of saverscreates a supply of lendable funds, and thereal interest rate adjusts to keep the two inbalance. Inflationenters thepictureonboththedemandsideandthesupplyside.Onthedemand side, inflation creates an incentivetobeat inflationbyborrowingfundsandbuy-ing capital goods before prices rise. Bor-rowers are willing to pay a higher interestrate because borrowing funds allows themto buy before prices go up. On the supplyside, inflation means that money used torepayaloanhas lesspurchasingpower thanthe money that was loaned out. Therefore,lenders must demand a higher rate of inter-est to compensate for inflation. In an infla-tionary economy, lenders demand a higherinterest rate, and borrowers have an incen-tivetopayahigherinterest.Tokeepthesup-ply and demand for lendable funds inbalance the nominal interest rates has tochange on a one-to-one basis with theexpected inflation rate.

The Fisher effect is highly evident inshort-term interest rates, such as thoseearned by three-month treasury bonds. Forshort-term interest rates, the actual infla-tion rate acts as a reasonable proxy for theexpected rate of inflation. For longer-terminterest rates, the Fisher effect becomesdifficult to test because expected inflationis not subject to direct measurement.

See also: Interest Rate, Inflation and Deflation

ReferencesFisher, Irving, The Theory of Interest. New

York: Macmillan, 1930, pp. 399–451.

Gibson, W. E., “Interest Rates and Inflation-ary Expectations,” American EconomicReview, vol. 62, no. 5, pp. 854–865.

FLOAT

Float is the money available to house-holds or businesses because checks thatthey have written have not yet been with-drawn from their bank accounts. Bankshave gradually whittled down the numberof days that it takes to clear a check.Before the age of modern transportationand electronic check clearing, householdsand businesses had an incentive to holddeposits in distant banks to increase theamount of float. High interest rates partic-ularly encouraged this practice. Manychecks are still cleared in back-officebatch processes, and it can take betweentwo or three days and sometimes weeksto clear a check. The time can vary withdisruptions in transportation. After theSeptember 11, 2001, terrorist attacks onthe United States, unprocessed checkspiled up in U.S. banks because air trafficstood at a standstill, leaving banks unableto process checks.

Writing checks on accounts withinsufficient funds with plans to depositmoney in the account before the checksclear represents another way of exploitingfloat. A survey conducted during Januaryand February of 2005 indicated that 23percent of bank customers occasionallywrote checks without sufficient funds inthe accounts to cover the check (CreditUnion National Association, 2005). Thecustomers usually do not let the checksbounce, but they may end up covering thecheck by racing to the bank to make alast-minute deposit. Individuals in theirthirties and earning no more than $40,000were among the likeliest offenders. This

Float | 145

type of float decreased substantially afterCongress enacted the Check Clearing forthe 21st Century Act, which becameeffective in October 2004. Enacted tohasten the adoption of electronic checkclearing, the act allows banks to clearchecks by sending electronic images ofchecks instead of hard copies. The use ofelectronic images can subtract severaldays from the time taken to clear nonlocalchecks.

With the dwindling ability to use floatto manage their money, some consumersmay switch to credit cards. Credit cardscan defer payment much longer thancheck float, often up to 30 days beforeinterest charges are added.

Commercial banks often holddeposited funds from checks for a lengthof time before making the funds avail-able for customer withdrawal. If a com-mercial bank holds the deposited fundsfor a longer length of time than it takesthe checks to clear, the bank enjoys aform of float. It can earn interest on thefunds before it allows a depositor tomake withdrawals. The Check Clearingfor the 21st Century Act did not requirebanks to give depositors quicker accessto funds from checks deposited in bankaccounts. Banks can hold depositedfunds from local checks for up to twodays before making them available todepositors. Nonlocal checks can be heldup to five days and checks above $5000up to 11 days. Although the adoption ofelectronic check clearing decreases theamount of float available to bank cus-tomers, it may increase the amount offloat available to banks. Money comesout of customer accounts quicker butdoes not necessarily go in quicker. Intime, competition or regulation willprobably force banks to speed depositoraccess to deposited funds.

Check-kiting schemes make use offloat to defraud financial institutions ofvast sums of money. In a check-kitingscheme, a bank customer writes a checkon one bank account in which there is notenough funds on deposit to cover thecheck. To cover the insufficient funds, thecustomer deposits a check written on anaccount at another bank. This secondcheck is also an insufficient funds check.There can be several banks involved in acheck-kiting scheme. By writing checksto cover checks written on otheraccounts, an individual creates artifi-cially inflated bank balances, which arethen used to purchased goods and serv-ices from outside parties. Once thescheme is exposed, one or more bankswill be left holding large negative bal-ances in check-kiting accounts. In 1997,a Michigan bank lost $2.5 million dollarsto a check-kiting scheme (Kline, 1998).

Federal Reserve float is a type of floatthat occurs in the Federal Reserve’scheck-collection process. It can brieflyinflate the amount of money in the bank-ing system. Commercial banks handover deposited checks to a FederalReserve Bank. The Federal ReserveBank credits the commercial banks’ Fed-eral Reserve accounts by the amount ofthe checks. A prearranged scheduledetermines how soon the commercialbanks’ accounts will be credited after thechecks are presented to the FederalReserve Bank. Usually the accounts arecredited after one or two business days.The banks on which the checks are writ-ten will pay the Federal Reserve Bankafter they receive the checks from theFederal Reserve Bank. It may take morethan one or two days for the FederalReserve Bank to receive payment, inwhich case Federal Reserve float is cre-ated. Before the advent of electronic

146 | Float

check clearing, Federal Reserve floatcould be a significant amount, some-times requiring the use of open marketoperations to offset it. Since the 1980s, ithas been continually declining.

ReferencesBlackman, Andrew. “Family Finances:

Farewell to the Float: Checks will Clear inan Instant.” Wall Street Journal (EasternEdition, New York) August 1, 2004, p. 4.

Kline, Alan. “Bank in Michigan Says Check-Kiting Scheme Could Cost It $2.5 Million;’97 Profits Slashed.” American Banker,vol. 163, no. 48 (March 12, 1998): 8.

Credit Union National Association, Point forCredit Union Research & Advice. “WillConsumers Turn to Plastic to RegainFloat.” April 1, 2005.

FLORENTINE FLORIN

The Florentine florin was the first Euro-pean gold coin to achieve the status of aninternational currency after the disap-pearance of European gold coinage inthe eighth century. Florence first issuedthe florin in 1252. It weighed 3.53 gramsor 72 grains of fine gold and took itsname from the fleur-de-lis, the iris flowerwhose image adorned one side of theflorin. The florin preceded the era ofmilled coins with corrugated edges thatprotected coins against the clippers. Tocircumvent the clippers, florins circu-lated in leather bags sealed by the mint.The seal was intended to vouch for theintegrity of the coins inside. Thus, anyonewho wished to clip coins also had to beable to counterfeit the seal.

The florin did not burst on the worldwithout European rivals. Genoa alsocommenced gold coinage in 1252, butGenoa’s coins never commanded theinternational stature of the florin.

Frederick II of Sicily may have struckgold coins a few years earlier thanFlorence, but his coinage was a descen-dant of Moslem and Byzantine coinage,despite its popularity in Europe.

Originally, Florence struck the florinas a gold pound, equal to 20 soldi orshillings, or 240 deniers, or pennies. TheFlorentine version of the Carolingiansystem soon broke down amid fluctuat-ing exchange rates between gold and sil-ver, and an imaginary money of accountdeveloped based on a pound affiorino, inwhich 20 florins equaled 29 affiorinos. Aseparate silver standard evolved that setthe value of the silver pound equal to 20silver soldi, or 240 silver deniers. Marketforces overrode government efforts toestablish official exchange ratiosbetween gold and silver such as existedwith the European bimetallic system inthe 19th century.

From the outset, Florence groomedthe florin to play the part of an interna-tional currency. Florentine law providedthat only international merchants of theCalimala Guild, the moneychangers, thecloth and silk manufacturers, the grocers,and furriers, could keep books and con-duct business in florins. Silver currencywas used in retail trade, payment ofwages, and small transactions. Wholesaleprices were often quoted in florins,whereas retail prices were quoted in silvercurrency.

San Antonino (1389–1459), arch-bishop of Florence, complained of thegovernment debasing the silver currencyused by the lower classes, while maintain-ing the purity of the gold currency used bythe wealthier classes. The employer-con-trolled government of Florence couldeffectively reduce real wages by debasingsilver coins used to pay wages whilemaintaining the purity of gold florins in

Florentine Florin | 147

which wholesale goods were priced. Sep-arate gold and silver standards, with sepa-rate prices, exposed one segment of thepopulation to the ravages of inflationthrough debasement, while another segmentremained untouched by inflation. From1252 until the beginning of the 15th cen-tury, the florin rose in value 700 percentrelative to silver coinage, largely reflect-ing debasement of silver.

In the second half of the 13th centuryand the first part of the 14th century, theFlorentine florin rose to become theequivalent of the modern day dollar ininternational trade. As often happens incurrencies, the florin was unable to dodgethe pitfalls of success. Foreign govern-ments minted florin imitations fromlighter metal, and at the beginning of the15th century Florence minted florins of alighter weight. The florin may have owedpart of its success to the strength andexpansion of the Florentine economy.During the 15th century, the Venetianducat displaced the Florentine florin asthe international currency par excellence.

See also: Carolingian Reform, Gold, VenetianDucat

ReferencesChown, John. 1994. A History of Money.Goldthwaite, Richard A. 1980. The Building

of Renaissance Florence: An Economicand Social History.

FOOD STAMPS

Food stamps are coupons redeemable forfood at stores. The government allotsfood stamps to low-income families toassure that minimal nutritional needs aremet. Because they are redeemable forfood, food stamps have circulated asmoney in ghetto areas. Although the

food stamp program is a federal pro-gram, supervised by the United StatesDepartment of Agriculture, the processof identifying qualified families andissuing food stamps is left to the individ-ual state governments.

The first food stamp program grew outof the contradictions of the Great Depres-sion of the 1930s in which agriculturalsurpluses mocked the problems of risingunemployment, hunger, destitution, andfalling farm incomes. The government’sinitial response of destroying agriculturalcommodities seemed unreasonable inlight of growing poverty and hunger. Thefirst food stamp program began in 1939and continued until 1943, when thewartime boom had solved the unemploy-ment problem, and agricultural surpluseswere no longer accumulating.

The food stamp program was revivedin the 1960s, partly because PresidentKennedy, when campaigning in WestVirginia, had observed schoolchildrentaking home leftovers from schoollunches. Various pilot programs were putinto operation until Congress enacted theFood Stamp Program Act of 1964. Laterin the 1960s and early 1970s Congressincreased the benefits and eased theeligibility requirements. At first, foodstamp recipients had to pay for thestamps, but in the 1970s the stampsbecame free.

To qualify for food stamps familiesmust fall below certain income levels,after allowances are made for housingcosts, childcare, etc. The lower a fam-ily’s income, the more food stamps thefamily can receive.

In the 1970s and early 1980s, foodstamps became a sort of second-classcurrency in low-income neighborhoods.Although food stamps could legally beused only to purchase food, some

148 | Food Stamps

merchants fudged and sold alcohol andother grocery store items for foodstamps. On the streets, foods stampstraded for cash, but at steep discounts.Individuals traded food stamps for cashand used the cash to purchase items thatcould not be purchased with foodstamps.

Partly because of the fraudulent use offood stamps, the federal government duringthe Reagan years cut back on food stampexpenditures. The program remained inplace, however, and the 1990s saw manystates implement electronic benefit trans-fer programs that substituted a debit cardfor coupons. The use of the cards requiresidentification, rendering the transfer offood stamp benefits to parties other thanthe cardholder almost impossible. Since2004, all 50 states have had electronicbenefit transfers. Given that food itemssuch as livestock, rice, corn, and manyothers have historically emerged as

mediums of exchange, it should not be sur-prising that coupons redeemable for foodwould wear the aspect of money and cir-culate accordingly. Presumably, foodstamp money will disappear in timebecause it involves an illegal use of foodstamps, and the government will work toimprove its regulation of the program.

See also: Commodity Money

ReferencesBerry, Jeffrey, M. 1984. Feeding Hungry People.Weatherford, Jack. 1997. The History of Money.Weinstein, Steve. “True Benefits.” Progressive

Grocer, vol. 77, no. 5 (May 1998): 80–86.

FORCED SAVINGS

“Forced savings” refers to the use ofmoney creation and inflation to divertresources into the production and acquisi-tion of capital goods. A government that

Forced Savings | 149

Food stamps are vouchers that the poor and otherwise distressed can use, much like money, topurchase food. (PhotoDisc, Inc.)

prints money, as opposed to levying taxesor selling bonds, to pay for the construc-tion of a hydroelectric generation facilityis pursuing a policy of forced savings.Less-developed countries, particularly inLatin America, turned to forced savingspolicies in the post–World War II era as ameans of financing economic develop-ment. At least some of the inflation inLatin America has its roots in economicdevelopment strategies based on forcedsavings.

The mechanics of forced savingsoperates through the medium of inflation.The government prints money to purchasecapital goods, attracting resources into theproduction of capital goods at the expenseof consumer goods. Consumer goods pro-duction falls relative to demand, and con-sumer goods prices increase, reducing theamount of consumer goods that house-holds can afford. This forced reduction inconsumer goods acquisition translates asforced savings. Consumers still spend thesame amount of money, it just does notstretch as far as it did before inflation.Thus, the consumers do not come out withany more savings, but society does,because society is extracting resources forthe production of capital goods. Theforced reduction in consumer goods pro-duction is the key to forced savings.

Savings always involve a reduction incurrent acquisition of consumer goods.Ordinarily, households elect to divert ashare of income away from consumptionexpenditures, and set that share of incomeaside as savings. Financial institutionsand stock and bond markets channel thesesavings into businesses that need financ-ing to purchase capital goods. Savings arealways at the expense of consumptionexpenditures, but normally savings are avoluntary choice of households. Societiesmust save, that is, depress current con-

sumption, to make resources available forthe production of capital goods.

Economists and policy makers haveadvanced several arguments in favor offorced savings as an attractive vehiclefor financing economic development.First, vast portions of the populations ofless-developed countries live at the marginof subsistence, too poor to voluntarilyengage in much saving. Second, manyless-developed countries do not have thefinancial institutions necessary to mobi-lize the small savings of individualhouseholds. Third, wars have shown thatgovernments can print up money tofinance major public undertakings with-out destroying economic systems. Thesame effort that goes into financing a warcan theoretically be tapped to financeindustrialization.

Notwithstanding arguments favoringforced savings, the anti-inflation bias incurrent economic thinking emphasizesthe downside of any policy that can onlybe activated with inflation. There hasbeen no evidence of a correlationbetween inflation and growth, and manycountries, such as the United Kingdomand the United States, experienced rapideconomic development in the 19th centurywithout inflation. Also, inflation disruptssociety and the burden of inflation is notevenly shared. Unionized workers canoften strike and gain wage increases thatcompensate for inflation, and some busi-nesses may receive government aid thatcompensates for inflation. Other groupsin society, those on fixed incomes or livingon past savings, are likely to bear the bulkof the inflation burden. Inflation encour-ages households to invest voluntary savingsin hedges against inflation such as land,buildings, jewelry, gold, silver, or stocksof grocery and household necessities.Investment in hedges against inflation

150 | Forced Savings

diverts voluntary savings away from thepurchase of capital goods such as factories,machinery, and so on. After inflation hasbecome expected, creditors extort highinterest rates as inflation protection, furtherdiscouraging risk-bearing entrepreneursfrom accessing sources of borrowedfunds.

In countries that insist on printingmoney to finance government expendi-tures, forced-savings strategies maymake more sense than the acquisition ofmilitary goods, or the construction oflavish government buildings and monu-ments. Nevertheless, forced savings,because of its inflationary effects, entailsmajor complications for the efficientoperation of the economy and seems tohold little charm for contemporary policymakers.

See also: Inflation and Deflation

ReferencesFriedman, Milton. 1972. Money and Eco-

nomic Development.Hogendorn, Jan S. 1987. Economic

Development.

FOREIGN DEBT CRISES

Economies and governments can accumu-late debt to external creditors, meaningcreditors from other parts of the world.External financing for productive invest-ments can expand opportunities for economicdevelopment and accelerate economicgrowth. Just as households and businessescan sink too deeply into debt, countriesand individual economies can accumulatedebt to the point that external debt obliga-tions cannot be met. Measures of indebt-edness compare the amount of debt withincome. A household with a moderateamount of debt can double its debt if its

income doubles and remain only moder-ately in debt. If a country’s gross domesticproduct (GDP) doubles, it can double itsexternal debt without increasing its debtburden. A country that is able to meet itsexternal debt obligations is said to be ableto “service” its debt.

Analysis of an individual country’sdebt to the rest of the world takes on amacroeconomic perspective because itinvolves converting one currency intoanother currency. In addition to an indi-vidual borrower’s ability to repay, in thecase of foreign borrowing there areaggregate credit conditions that must bemet by the whole economy. Exceedingaggregate credit limitations can lead tosharp adjustments in domestic interestrates or exchange rates. Often a foreigndebt is denominated in a foreign cur-rency. In that case, a country must be ableearn enough foreign currency in exportsand capital inflows to service the debt. Ifa country’s debt is denominated in itsown currency, it still needs to service itsdebt without upsetting exchange rates. Acountry can in effect default on its externalor foreign debt by suspending convertibil-ity of its domestic currency into foreigncurrencies. If a country is unable to earnsufficient foreign currency from exportsand capital inflows to service its foreigndebt, it can increase capital inflows byincreasing domestic interest rates. Thesehigher interest rates will be a burden onthe economy and can force an economyinto recession.

The debt that a sovereign governmentowes to external creditors is called “sover-eign debt.” When a government defaults onobligations to external creditors, it is calleda “sovereign debt crisis.” Russia, Ecuador,and Argentina furnish examples of outrightdebt default. Ukraine, Pakistan, andUruguay avoided outright default through

Foreign Debt Crises | 151

debt restructuring. Mexico, Brazil, andTurkey averted default with the help oflarge-scale support from the InternationalMonetary Fund. Some debtor governmentsare more cooperative than others in resolvingdefault situations. Uncooperative govern-ments can harm the ability of privatedomestic corporations to access interna-tional debt markets. Risk of foreign debtdefault or restructuring appears to be lowestwhen total external debt as a percent ofGDP is less than 49.7 percent, short-termdebt as a percent of foreign currency hold-ings is less than 130 percent, public externaldebt is less than 214 percent of fiscal revenue,and the exchange rate not over appreciatedabove 48 percent (Manasse and Roubini,2005, p. 40).

Economists have developed indicatorsto measure a degree of a country’s indebt-edness. For poor, debt-laden countries,some type of debt restructuring is likelyto occur when net present value of debtexceeds 200 percent of exports. For other,nonindustrial countries, it appears that therisk of debt exposure starts to rise whenexternal debt as a percent of GDP risesabove 40 percent (Daseking, December2002). Countries can sustain higher debtratios if exports are growing rapidly, or ifexports represent a large proportion ofGDP, or if a large share of external debt isdenominated in domestic currency.

The United States is a debtor nation,but its debt ratios are well below thethreshold levels that signal a possibleforeign debt crisis. Given the role of theU.S. dollar as a world currency, it is notclear if the same debt–ratio thresholdlevels apply to the United States. Therise of foreign debt in the United Statesis worrisome to some observers. Easyaccess to foreign credit sometimesallows countries to delay painful butinevitable reforms.

ReferencesDaseking, Christina. “Debt: How Much Is

Too Much?” Finance and Development,vol. 39, no. 4 (December 2002): 12–15.

Manasse, Paolo, and Nouriel Roubini.“‘Rules of Thumb’ for Sovereign DebtCrises.” IMF Working Paper, WP/05/42,International Monetary Fund, March2005.

Mandel, Michael. “After The Binge, WhoShould Suffer?” Business Week, October13, 2008.

FOREIGN EXCHANGEMARKETS

Foreign exchange markets are markets inwhich national currencies are bought andsold with other national currencies. In aforeign exchange market, U.S. dollarsmay purchase British pounds, Germanmarks, French francs, Japanese yen, andso on.

Prices of foreign currency areexpressed as exchange rates, the rate atwhich one currency can be convertedinto another currency. On March 12,1997, it took $1.59 to purchase a Britishpound in foreign exchange markets, or,alternatively 0.6256 British poundscould purchase one U.S. dollar.Exchange rates are reported daily inlarge metropolitan newspapers andfinancial papers such as the Wall StreetJournal.

Foreign exchange markets are as oldas coinage itself. In the ancient world,religious temples were a popular site offoreign exchange markets because thesacredness of the grounds acted tosafeguard treasuries of coin. The modernterm “bank” evolved from the money-changers’ bench of the Middle Ages.Today, modern communication and

152 | Foreign Exchange Markets

computers have made possible a world-wide integrated foreign exchange marketwhere trades are conducted electroni-cally 24 hours a day during the businessweek. The big players in the foreignexchange markets are the large commer-cial banks with foreign branches.

Under the current international mone-tary system, foreign exchange marketsare highly competitive and exchangerates can change daily. (Between 1946and 1971, the world was on a fixedexchange rate system, and exchangerates were pegged at certain levels bygovernments.) A supply of U.S. dollarsis created in foreign exchange marketswhen Americans buy goods or makeinvestments in foreign countries wheredollars are not accepted. A demand forU.S. dollars is created in foreignexchange markets when the rest of theworld wants to buy U.S. goods, or makeU.S. investments, which require pay-ment in dollars. Exchange rates fluctuateto balance supply and demand, clearingthe market for U.S. dollars as foreignexchange. Markets for other currenciesemerge in a similar fashion.

Exchange rates can exert strong influ-ences on domestic economies. If themarket value of the dollar appreciatesrelative to the Japanese yen—meaning ittakes fewer dollars to purchase a yen—Japanese goods become cheaper to U.S.consumers, increasing the importation ofJapanese goods and reducing demand fordomestic goods in competition withJapanese goods. If the market value ofthe dollar depreciates relative to theJapanese yen—meaning it takes moredollars to purchase a yen—Japanesegoods become more expensive to U.S.consumers, diminishing the importationof Japanese goods and making domesticgoods more competitive. In summary, a

depreciation of the dollar increases thedemand for U.S. goods, and an apprecia-tion of the dollar decreases the demandfor U.S. goods.

Foreign exchange rates are quoted inspot rates and forward rates. The spotrate is the rate at which foreign currencycan be purchased for delivery within twobusiness days. A forward rate is the rateat which a foreign currency can be pur-chased for delivery after a length of time,such as 90 days. A forward marketenables a U.S. importer to strike a deal toimport French goods and purchaseFrench francs to pay for the goods whenthey arrive at some date in the future,protecting the importer from fluctuationsin exchange that could make the goodsmuch more expensive than expected.

Unless the world adopts a commoncurrency, foreign exchange markets willremain a vital part of the internationaltrade framework, the connecting linkthat allows trade between countries withdifferent currencies. On January 1, 1999,Europe launched the euro, a Europeancurrency that eventually replacedGerman marks, French francs, Swissfrancs, and other European currencies,and abolished the need for foreignexchange markets to establish rates forthe convertibility of one European cur-rency into another. If the world followsthe path of economic integration taken inEurope, then a world currency couldbecome a reality. On the upside, a worldcurrency would remove the risk anduncertainty of exchange-rate fluctuationsthat can disturb the flow of internationaltrade, and promote trade between theregions of the world. On the downside, aworld currency would preclude the useof localized monetary policies to helpspecific areas. In the 1990s, Japan strug-gled against a decade-long period of

Foreign Exchange Markets | 153

stagnation. The Bank of Japan was freeto expand the Japanese money supply tostimulate the Japanese economy. If theworld had been on a worldwide currencysystem, and Japan was the only countrysuffering stagnation, world monetaryauthorities could not have expanded themoney supply worldwide just to helpJapan, and increasing the money supplyworldwide might not have helped Japan.

See also: Balance of Payments, Gold-Specie-FlowMechanism

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets.

Daniels, John D., and Lee H. Radebaugh.1998. International Business, 8th ed.

Daniels, John D., and David Vanhoose. 1999.International Monetary and FinancialMonetary Economics.

FORESTALL SYSTEM

The Forestall system of Louisiana bank-ing regulation, established in the middleof a depression in 1842, was one of themost successful and influential systemsof state banking regulations, establishingprinciples that became standard in bank-ing regulation.

The Panic of 1837 threw the U.S.economy into a deep depression thatlasted until 1843. The depression wassparked by President Andrew Jackson’sSpecie Circular, requiring that only goldand silver specie (coinage) be used topay for land purchased from the govern-ment. The Specie Circular put the brakeson a land boom. Banks across the UnitedStates, including Louisiana, suspendedpayments, meaning they could no longerredeem their banknotes with specie. At

that time, each bank issued its own ban-knotes, in contrast to the current practiceof issuing checking accounts. Louisianaboasted of nine commercial banks whenthe Forestall system was put in place. Allnine banks had suspended payments.

Among the detailed regulations of theForestall system was the requirementthat customers’ deposits could be loanedout only for 90 days. The capital con-tributed by bank owners was exemptfrom this limitation. These short-termloans could not be renewed, and the lawrequired that banks publish the names ofborrowers requesting renewals.

The Forestall system also forced banksto maintain specie reserves equal to 30percent of their bank-note and deposit lia-bilities. The remaining 70 percent had tobe backed by short-term commercialloans.

Amid the Panic of 1857, an epidemicof payment suspensions spread throughthe United States. Thanks to the Forestallsystem, however, Louisiana banks wereamong the few banks that continued tomake specie payments. Other state legis-latures, noting the panic-proof resilienceof the Louisiana banks, began to insiston cash reserves. The reserve policy ofLouisiana banks enabled them to con-tinue to make remittances to their NewYork correspondents long after the CivilWar had started.

The success of the Forestall systemcreated a predilection for cash reserves inU.S. banking regulation that remains animportant element of national bankingregulation today. Commercial banks inthe United States are required to holdreserves either in the form of vault cash ordeposits at a Federal Reserve Bank.Deposits at another financial institution,government bonds, or other forms ofseemingly safe assets are not acceptable

154 | Forestall System

as legal reserves. The Federal ReservesSystem usually requires commercialbanks to hold reserves that range between10 to 20 percent of demand deposits.

See also: Federal Reserve System, Free Bank-ing, New York Safety Fund System, SuffolkSystem

ReferencesCameron, Rondo, ed. 1972. Banking and

Economic Development: Some Lessons ofHistory.

Davis, Lance E., Jonathon Hughes andDuncan M. McDougall. 1969. AmericanEconomic History.

FORT KNOX

Fort Knox, a United States Army post, isthe location of the largest U.S. gold bul-lion depository. Located about 31 miles

southwest of Louisville, Kentucky, FortKnox began as a post for army maneuversin 1918 and was called Camp Knox. Itsname was changed to Fort Knox in 1933.The post covers about 110,000 acres and ishome to 57,000 residents. In addition toguarding the gold bullion depository, FortKnox is famous for training armored divi-sions in the United States Army. Construc-tion of the Fort Knox Bullion Depositorywas finished in 1936. Because of the securitysurrounding the depository, which lies inthe middle of the military base, Fort Knoxhas become a universal symbol of animpregnable store of wealth. No touristsare allowed on the military base.

Early in the Great Depression of the1930s, the United States nationalized pri-vately owned gold, and devalued the dollarfrom $20.67 per ounce of gold to $35 perounce of gold. The rise in the price of goldtriggered an inflow of gold into the United

Fort Knox | 155

Often referred to simply as Fort Knox, the U.S. Bullion Depository holds most of the nation’s gold.It was built at the Fort Knox military base in 1936 for maximum security. (Library of Congress)

States, and by 1939 the United States hadswept into its vaults over half of the world’sgold stock. The United States Treasury builtthe new gold depository at Fort Knox tohelp store its newly acquired gold treasure.

The Fort Knox Bullion Depository is agranite building constructed from 16,000cubic feet of granite, 4,200 cubic yards ofconcrete, and 750 tons of steel for rein-forcement. The legend “United StatesDepository,” engraved in gold, adorns amarble-lined entry, along with the goldseal of the Treasury Department.

Today, the depository holds approxi-mately 4,600 tons of pure gold with amarket value of approximately $58 billion.The gold is stored in bars of 1,000 ounceseach. Because gold does not deteriorate,gold in the vaults of Fort Knox could behundreds of years old, probably includinggold seized from the Aztecs and theIncas. Some of the gold that flowed intothe United States from France in the1930s was still in the wrappings that heldthe gold when the Jefferson administra-tion had sent the gold to France to pay forthe Louisiana Purchase. The UnitedStates government maintains smaller goldcaches at West Point and in Denver.

The world’s largest hoard of gold is notstored at Fort Knox. The Federal ReserveBank of New York maintains an air-conditioned vault about 80 feet belowstreet level in the bedrock of ManhattanIsland, New York. This Federal Reservevault holds about 11,000 tons of gold at amarket value of about $176 billion,accounting for about a third of the goldreserves in Western economies. The goldmostly belongs to foreign governments andforeign central banks that store the gold inNew York as a matter of convenience.Some of this gold was shipped over on theeve of World War II for security, but muchof it was purchased by European

governments from the United States duringthe 1950s and 1960s, but kept in the UnitedStates to spare shipping costs. In 1971, theUnited States stopped redeeming dollarspresented by foreign governments into gold.

See also: Gold, Gold Exchange Standard, GoldReserve Act of 1934, Gold Standard

ReferencesGreen, Timothy. 1981. The New World of

Gold.Marx, Jennifer. 1978. The Magic of Gold.Weatherford, Jack. 1997. The History of

Money.

FRACTIONAL RESERVESYSTEM OF BANKING

See: Bank, Monetary Multiplier

FRANKLIN, BENJAMIN(1706–1790)

In addition to filling the roles of diplomat,newspaper publisher, inventor, scientist, andsigner of the Declaration of Independence,Benjamin Franklin, perhaps the mostAmerican of the American revolutionaries,was a tireless advocate of paper money inthe American colonies. As early as 1729, hewrote a pamphlet, A Modest Enquiry into theNature and Necessity of a Paper Currency,and continued to advance proposals forpaper money as an answer to economic illsthat afflicted the colonies. Perhaps the samepractical turn of mind that led Franklin toinvent the lightning rod, bifocal glasses, andthe Franklin stove, also led him to take upthe currency problems of the colonies, andseek answers in paper money schemes. Bythe time of Franklin’s death, and owingpartly to his efforts, North America hadexperimented with more paper money issues

156 | Franklin, Benjamin (1706–1790)

than any other part of the world up to thattime. Even today, the U.S. $100 bill bears anengraved portrait of Benjamin Franklin,symbolizing his long association with papermoney in the United States.

The young Franklin apprenticed himselfto the trade of printer, and in later yearswas publisher of the PennsylvaniaGazette. Franklin’s pamphlet on papercurrency helped secure approval of a pro-posal continuing the issuance of papermoney in Pennsylvania, paving the wayfor Franklin to receive the task of printingthe paper money, which he described as“a very profitable job, and a great help tome.” Franklin’s involvement in the printingbusiness may have favorably disposedhim toward paper money.

The Colony of Pennsylvania had cre-ated a land bank that issued paper moneyas loans against real estate and preciousmetal plate. In 1765, British governmentofficials asked for proposals to raise rev-enue from the American colonies in theleast objectionable way. Parliamentenacted the infamous Stamp Act to helpservice wartime debt and pay part of theexpense of defending the colonies.Franklin argued forcibly with the Britishgovernment for his “paper moneyscheme,” which would generate incomefrom loans and at the same time supplythe American colonies with a continentalcurrency. Franklin wanted the Britishgovernment to establish a loan office thatwould make loans secured by real estate.The interest-paying loans would be takenout as paper money issued under theauthority of the British government,infusing the American colonies withmuch-needed money and raising revenuefor the British government. According toFranklin, an annual interest rate wouldact as a general tax, but not “an unpleasingone.” This paper money would have been

legal tender for public debts, includingrepayment of loans to the land bank. IfGreat Britain had adopted Franklin’s planrather than the Stamp Act, perhaps historywould have taken a different turn.

Franklin was noted for conservativephilosophy in financial matters, andfamous for sayings such as “A pennysaved is a penny earned,” and “Early tobed and early to rise makes a manhealthy, wealthy, and wise,” and “Godhelps them that help themselves.” ThatFranklin’s philosophy of thrift, honesty,and commerce could embrace the conceptof paper money should have been takenas unerring signal that paper money wasthe wave of the future. Nevertheless, historyhas held up many examples showing thatthe abuses of paper money are harmfulof the virtues that Franklin preached.

See also: Land Bank System

ReferencesErnst, Joseph Albert. 1973. Money and Politics

in America, 1755–1775.Weatherford, Jack. 1997. The History of Money.

FREE BANKING

Free banking was a trend toward a highlydecentralized monetary system that orig-inated in Scotland and in the early 19thcentury, appeared on a modest scale inEngland, and developed on a wider scalein the United States, beginning in 1838and ending with the National BankingAct in 1864.

Before the era of free banking, bankcharters were granted for political favors,regarded as matters of political patron-age. Rising inflation from 1834 to 1837,followed by a money panic and a rash ofbank failures, elevated public concernabout privilege and political corruption

Free Banking | 157

in the banking system. New York actedfirst with the Free Banking Act of 1838.This act allowed any person or group ofpersons to obtain a bank charter whocould meet capitalization criteria requiringthat banknotes be 100 percent backedwith mortgages and state bonds, plus anextra 12.5 percent in gold and silverspecie. The reserves of gold and silverspecie enabled bank customers to counton redemption of banknotes in gold andsilver, and when banks failed, the statesold the mortgages and state bonds tocompensate bank customers.

About 18 states adopted free bankinglaws similar to the New York act. Theyusually allowed anyone, without politicalconnections, to deposit suitable financialsecurities with a state banking authority,receive a bank charter, and make loansand discount bills by issuing their ownbanknotes.

Free banking was not the only solutionto the crisis of confidence in banks. In1845, the fledgling state of Texas com-pletely outlawed banks in its first consti-tution, and by 1857, four other states hadenacted similar legislation.

The success of the free banking systemdepended on a delicate balance of stateregulation and freedom of enterprise. Acertain amount of chaos ensued. Ban-knotes circulated from defunct banks, and“wildcat” banks established in remoteareas issued banknotes that would neverbe redeemed in specie. Some scholarsargue that by the eve of the Civil War,state regulation had begun to shape thefree banking system into a workable andorderly system.

Free banking aroused fears of inflationbecause there was no one entity regulatingmoney supplies, and the perplexing assort-ment of banknotes, trading at different dis-counts, hampered trade between regions.

The development of the national bankingsystem during the Civil War ended the freebanking era in the United States.

During the 1970s, the slow progress ofthe monetary authorities toward taminginflation brought a renewed interest andattention to the free banking system.Under a properly regulated free bankingsystem, banknotes remain convertible intoa precious metal currency, but there is nocentral bank regulating the total nationalmoney supply. In the 1970s and 1980s,scholars developed theoretical models offree banking systems that maintained con-vertibility of banknotes into commoditiessuch as gold and silver. These modesfunctioned without a central bank andmuch of current banking regulation. Thesescholars saw the free banking system aspreferable to the so-called stop-and-gopolicies of the Federal Reserve System.The interest in free banking faded as theFederal Reserve showed more progresscombating inflation.

See also: Central Bank, National Bank Act of1864, Second Bank of the United States,Wildcat Banks

ReferencesRockoff, Hugh. 1975. The Free Banking Era:

A Reexamination.Rolnick, Arthur J., and Warren E. Weber.

“New Evidence of the Free Banking Era.”American Economic Review, vol. 73, no.5 (December 1983): 1080–1090.

Dowd, Kevin. 1996. Competition andFinance: A Reinterpretation of Financialand Monetary Economics.

FREE SILVER MOVEMENT

The free silver movement was a populistmovement in the United States duringthe last quarter of the 19th century. “Freesilver” meant that silver could be

158 | Free Silver Movement

brought to the mint and struck into coinswithout a seigniorage charge; that is,without taking any of the precious metalto pay mint expenses. Also, the amountof silver that could be brought to themint was to be unlimited. Before 1873,anyone who brought 3.7125 grains of sil-ver to the mint could receive a legal-tendersilver dollar, and the campaign for freesilver fought for a return of these conditions.

Between the mid-1830s and 1873, themarket price of silver exceeded the mintprice of $1.29 per ounce; therefore, verylittle silver found its way to the mint. Silverdollars had largely disappeared fromcirculation when Congress enacted theCoinage Act of 1873, an act that made noprovision for the coinage of silver, andput the United States on an unofficialgold standard. Proponents of free silverlater condemned the Act as the “Crimeof ‘73.”

The deletion of the silver dollar drewlittle attention at the time, but the UnitedStates was already in the clutches adeflationary downswing that would lastthree decades. From 1870 until 1896,prices plunged 50 percent, a deflationarywave that hit hard at farmers in the Westand South, where debt incidence stood athigh levels. These groups quite rightlysaw that a return to free and unlimitedcoinage of silver would raise the domesticmoney stock, raise prices, and reducetheir debt burden. Much of the populistflavor of the free silver movement camefrom the hopes it lifted among largenumbers of low-income farmers.

Silver prices felt an added deflationaryforce because the world was rushingtoward a gold standard that left little rolefor silver as a monetary metal. Major silverdiscoveries in the U.S. West furtherdepressed the market for silver. From1850 until 1872, the market price of an

ounce of silver stood above $1.32, clearlyabove the mint price, but the price hadslipped to $1.24 by 1874, and from thereit tumbled to $0.65 by 1895. Silver-mininginterests in the United States saw free sil-ver as a way of increasing the demand forsilver, and putting a floor under silverprices. They would have been delighted tosell silver to the U.S. Treasury for $1.29.

The free silver proponents achievedlimited success in Congress. On Feb-ruary 28, 1878, Congress enacted, overa presidential veto, the Bland–AllisonAct, which required the treasury tocoin between $2 and $5 million worthof silver per month. The bill had begunas a free silver bill but had beenamended to restrict the amount of sil-ver the treasury purchased. In 1890,the Sherman Silver Act required thetreasury to purchase $4 million of sil-ver per month and issue silver certifi-cates. The Sherman Silver Act wasblamed for sparking a crisis of confi-dence in the U.S. monetary system,and Europeans began withdrawinggold from the United States. PresidentCleveland, a staunch advocate of thegold standard, prompted Congress torepeal the silver purchase provisions ofthe Sherman Silver Act.

The silver controversy loomed as amajor issue in the presidential electionof 1896, coinciding with the nadir ofthe 30-year deflationary wave. WilliamJennings Bryan won the Democraticnomination after his famous “Cross ofGold” speech, denouncing the gold stan-dard, and defining himself as the freesilver candidate. Bryan lost the elec-tion, and in 1900, the United Stateswent squarely on the gold standard.About this time, the book The Wizard ofOz came out as a monetary allegory ofthe issues raised by the free silver

Free Silver Movement | 159

movement. Bryan ran for presidentagain in 1900, but prices were inflating,and the silver issue was losing itspunch. Bryan lost again, and he wouldrun again in 1908 without success.

The free silver movement died outwith the return of prosperity at the turn ofthe century. The silver-mining interests,however, continued to exert a dispropor-tionate share of power into the 20th cen-tury. Until the 1960s, dimes, quarters,and half-dollars contained 90 percent sil-ver. Treasury silver stocks fell as theindustrial demand for silver grew, and by1970, the half-dollar was silverless.

See also: Bimetallism, Crime of ‘73, The Wiz-ard of Oz

ReferencesFriedman, Milton. 1992. Money Mischief:

Episodes in Monetary History.Nugent, Walter T. K. 1968. Money and American

Society, 1865–1880.

FRENCH FRANC

Before the introduction of the euro, theFrench franc was the monetary unit ofaccount in France, just as the U.S. dollaris the monetary unit of account in theUnited States. It was the first decimal-ized currency system in Europe, exceptfor the Russian ruble.

French francs were first coined in1803. Before the decimalized franc wasintroduced, the French currency systemwas based on the Carolingian system, inwhich 1 livre equaled 20 sols, which inturn equaled 240 deniers. In 1793, theFrench revolutionary government decidedto replace the Carolingian system with adecimal system. In 1795, the livre wasreplaced with a franc equaling 100 cen-times. These changes meant little amidrevolutionary chaos, but Napoleon’s gov-ernment began striking francs based onthe new system in 1803.

The French Monetary Law of 1803put the franc on a bimetallic system withthe silver to gold ratio, per unit ofweight, equal to 15.5 to 1. Coin pieces of5 francs and less were struck in silver,and gold coins came in denominations of20 francs and 40 francs. One francequaled 5 grams of silver. The smallestdenomination coin authorized by the actwas a quarter franc. During the wars ofthe French Revolution and Napoleon,France imposed its new currency systemon conquered states. In 1798, Francereorganized the freshly conqueredSwitzerland as the Helvetian Republicwith a unified currency system in which1 Swiss franc equaled 10 batzen, whichin turn equaled 100 rappen. With thedownfall of Napoleon, the Swiss threwoff their imported currency system, butin 1850, they readopted the French systemvoluntarily. The Netherlands had also

160 | French Franc

Cover of Judge magazine entitled “The SilverCandle and the Moths,” July 25, 1898. The illus-tration shows proponents of the free silver move-ment, including Cleveland and Bland, as mothsflying around the flame of a candle labeled “freesilver” and dying. (Library of Congress)

seen the French system imposed fromwithout, but abandoned it in 1814. WhenBelgium won its independence from theDutch in 1830, the Belgians reestab-lished the French System. Italy adoptedthe French system in 1861, but named itsmoney of account the “lira” rather thanthe franc. One lira equaled 1 franc.Under different names, the French systembecame the basis of currencies inGreece, Spain, Rumania, Bulgaria, andFinland. Although the British poundsterling dominated international trade inthe 19th century, the French franc wasthe most influential currency in WesternEurope.

By the beginning of the 19th century,France had acquired a horror of inflationfrom two firsthand experiences. Thehyperinflation of the French Revolutionwas still a fresh memory, further bolster-ing French resolve to maintain the stabilityand integrity of the franc. The Frenchmaintained the metallic content of thefranc for 125 years. During theNapoleonic Wars, the franc experiencedmilder fluctuations than the pound ster-ling, perhaps because Napoleon’s warindemnities helped supply the gold andsilver to maintain the franc’s parity.France suspended convertibility of thefranc in the Revolution of 1848 and duringthe Franco-Prussian War of 1870–1871.Following the Revolution of 1848, con-vertibility was resumed in 1850, and duringthe whole episode, the franc had onlydepreciated mildly. After the Franco-Prussian War, France was burdened withheavy war reparations and the politicalsituation was clouded by the episode ofthe Paris Commune, which put Parisunder the control of working-class revolu-tionaries. Nevertheless, the franc fluctu-ated only within a narrow range, andconvertibility was resumed in 1878.

In 1865, France, Italy, Switzerland,and Belgium formed the Latin MonetaryUnion, which fought to preserve a uni-fied, bimetallic monetary system in theface of the growing prestige of England’sgold standard. Declining silver pricesmade the bimetallic standard untenable,and France abandoned silver in 1873. By1878, France was officially on the goldstandard.

Under the gold standard, the franc losta bit of its reputation for soundness. TheFrench authorities were hesitant to allowan outflow of gold and insisted on theirright to pay out badly worn 10-franc goldcoins and 5-franc silver coins. All Euro-pean countries effectively suspended thegold standard during World War I, but thefranc emerged from the war weaker thanthe pound sterling and suffered specula-tive attacks. In 1926, the franc stabilized atabout one-fifth prewar parity. From 1927until 1931, the franc was undervalued andthe pound sterling overvalued, putting anend to speculative attacks on the franc.With the onset of the Great Depression,England, Japan, and the United Statesdevalued their currencies, leaving the francovervalued. The Gold Bloc countries,mainly consisting of members of the oldLatin Monetary Union, clung to the goldstandard, and France, the leading member,remained on the gold standard until 1936.After World War II, the franc went througha series of official devaluations under theBretton Woods fixed-exchange regime,the last occurring in 1968.

During the post–World War II era, theWest German mark rose to become thepreeminent European currency, partlybecause West Germany, compared toEngland and France, kept inflationsubdued. In the 1990s, France tamed itsinflation and the German mark wasbuffeted bythe turmoil of merging the

French Franc | 161

two Germanys. As a consequence, theFrench franc regained some lostground as one of the leading Europeancurrencies. In May 1998, members ofthe European Union announced plansto launch a European currency, calledthe euro, to replace the individualnational currencies, including theFrench franc and the German mark.During a period of transition betweenJanuary 1, 1999, and January 1, 2002,French franc banknotes and coins con-tinued to circulate while the euro func-tioned as a “virtual currency.” In 2002,euro banknotes and coins replaced theFrench franc and other European cur-rencies as the circulating currency inthe euro area countries.

See also: Decimal System, Deutsche Mark,Dollar, Monetary Law of 1803, Pound Ster-ling, Swiss Franc

ReferencesCaron, Francois. 1979. An Economic History

of Modern France.Einzig, Paul. 1970. The History of Foreign

Exchange, 2nd ed.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.Weatherford, Jack. 1997. The History of

Money.

FRENCH LIVRE

See: Bank of France, Carolingian Reform,French Franc, Hyperinflation during theFrench Revolution

162 | Franc

163

G

GDP DEFLATOR

See: Value of Money

GENERALIZED COMMOD-ITY RESERVE CURRENCY

A generalized commodity reserve cur-rency is a currency issued with the back-ing of several commodities. It bears aresemblance to the gold and silver stan-dard, but it is based on a wide range ofcommodities, and it does not presume tokeep the price of any one commodityconstant. Under the precious metal stan-dards, the price of a precious metalremained constant. A generalized com-modity reserve currency resembles thebimetallic standard in that it is based onmore than one commodity. Again, underthe bimetallic standard the price of goldand silver remained constant. Symmetal-ism bears a closer kinship to a general-ized commodity reserve currency in thatit can include a wide range of commodi-ties. Under symmetalism, a compositecommodity is created by combining two

or more commodities in fixed propor-tions. Under symmetalism, one-tenth ofan ounce of gold and five-tenths of anounce of silver might be equivalent toone monetary unit such as the dollar. Ageneralized reserve currency does notcombine commodities in fixed propor-tions. The proportions are free to change.The gold standard, the silver standard,the bimetallic standards, and symmetal-ism may be regarded as special cases ofa generalized commodity reserve cur-rency. Like symmetalism, a generalizedcommodity reserve currency has onlybeen examined in theory and never beenput into practice.

A generalized commodity reserve cur-rency can best be understood in the contextof a simple, primitive society. This primi-tive society is composed of individualsproducing goods that they desire to trade.Assume that one member of this societyundertakes the role of banker and mone-tary authority. This banker issues currencyor script in exchange for the various goodsthat the individuals in this primitive societyproduce. This banker would not be actingmuch different than a trading-post that

pays for various good in script and standsready to redeem the script in a wide rangeof goods and not just gold or silver. Themembers of this primitive society sell theirgoods to the banker for script and laterredeem the script for merchandise of theirchoice from the banker’s inventories. Thisscript or piece of currency can be inter-preted as a receipt for goods stored in awarehouse. The total currency in circula-tion equals the value of the goods societyhas stored up with the banker. The banker’swarehouse would become empty the daythe last piece of script was redeemed forgoods. The banker may keep only the mostpopular commodities on hand, but thescript will become a generally acceptedmedium of exchange for all goods andservices. Individual goods can be boughtfrom and sold to the banker without restric-tion. The system can be expanded to allowthe banker to buy commodity futures. Tocomplete the picture the banker raises theprice of scarce items and cuts the price ofabundant items in such a way that healways has the chosen commodities instock. Although individual prices go upand down, the value of the script alwaysequals the value of the goods stored. Thescript in some sense retains its value, andinflation cannot occur.

The operation of a generalized com-modity reserve currency involves somecomplications such as storage cost thatmight render it unpractical in the modernworld. Whether it represents a realisticalternative to the current fiat money sys-tem is still open for debate.

See also: Gold Standard, Symmetallism

ReferencesLuke, Jon C. “Inflation-free Pricing Rules for

a Generalized Commodity-Reserve Cur-rency.” Journal of Political Economy, vol.83, no. 4 (1975): 779–790.

Weber, Warren. “The Effect of Real andMonetary Disturbances on the Price Levelunder Alternative Commodity ReserveStandards.” International EconomicReview, vol. 21, no. 3 (October 1980):673–690.

GHOST MONEY

During the late medieval period, moneyunits of account arose that did not corre-spond to real or tangible pieces of moneyor coin. Some historians have labeled as“ghost” money units of account withoutreal counterparts. Some of the ghostmoney owed its origin to coins that wereminted in the past, but were no longerminted or found in circulation. Twoimportant units of account, however, thepound and the shilling began as ghostmoney.

King Pepin the Short of France,father to Charlemagne, decreed that apound weight of silver be struck into240 pennies. He also introduced theshilling as a unit of account equal to 12pennies, comparable in value to thepopular Byzantine solidus. In the Car-olingian system, one pound equaled 20shillings or 240 pennies. The only cointhat was actually minted for severalcenturies, however, was the penny, andthe pound and shilling remained onlymoney units of account or ghost money.Rather than recording 2,400 pennies ina ledger, or pricing a good at 2,400 pen-nies, merchants found it much easier towrite 2 pounds. The silver weight ofpennies dropped in time, but a poundremained the equivalent of 240 pennies,losing all connection with a pound inweight of silver. The shilling was also amoney unit of account for several cen-turies. England minted its first shillingduring the 1500s.

164 | Ghost Money

In 1252, Milan began minting goldflorins equivalent to 120 pennies. Perhapsbecause of the debasement of pennies,the value of the florin rose to 384 penniesand remained at that value for 60 years. Aghost florin emerged that was equal to384 pennies, meaning that a florin cameto signify 384 pennies. Later, the value ofthe real florin rose to 768 pennies, leav-ing a real florin at twice the value of theghost florin. Venice and Genoa developedghost money in a similar fashion.

In Florence, the florin also establisheditself, after a period of stability, at a rateof 384 pennies, another ghostly multipleunit of account. The Florentines, how-ever, kept the real florin as a unit ofaccount, and made the penny a ghostpenny equal to 1/384 florin, and theshilling, also a ghost, 1/29 florin.

The subject of ghost money toucheson an issue always important to debtorsand creditors—the stability of the pur-chasing power of a unit of money.Debtors invariably prefer contractsexpressed in depreciating units ofaccount, whereas creditors prefer con-tracts expressed in a stable coin. Put dif-ferently, debtors in Milan preferred topay off debts in ghost florins rather thanreal florins. Creditors wanted to receivepayment in real florins. Depreciatingunits of money and ghost monies createdthe same divergence of interest ofdebtors and creditors as found in modernsocieties suffering inflation.

See also: Carolingian Reform

ReferencesChown, John F. 1994. A History of Money.Cipolla, Carlo M. 1956. Money, Prices, and

Civilization in the Mediterranean World.Evans, A. 1931. Some Coinage Systems of

the Fourteenth Century. Journal ofEconomics and Business History, p. 3.

GLASS–STEAGALLBANKING ACT OF 1933

(UNITED STATES)

The Glass–Steagall Banking Act, morethan any other piece of banking legisla-tion, shaped the development of the cur-rent banking system in the United States.One of the numerous acts of economicreform passed in the first 100 days ofFranklin Roosevelt’s administration, itsought to revive confidence in the bank-ing system and reduce bank competitionfor depositors’ money.

In 1931, the position of banks in theUnited States caught the attention of theeminent economist John MaynardKeynes, who described it as the weakestelement in the whole situation. Suspen-sions of deposit redemptions by bankshad been averaging about 634 banksper year before the Depression, already ahigh level. The banking crisis deepenedwith the onset of the economic crisis.Depositors pulled money out of banks,sometimes sending it abroad, sometimeshoarding it in homes. Gold reservesdeclined. From 1929 to 1933, over 5,000banks suspended redemption of deposits.One-third of all U.S. banks failed duringthe Depression. President Hoover sawthe banks as a victim of a crisis in confi-dence. To prevent panic from spreading,President Roosevelt in March 1933ordered all banks to close for a week.

On June 16, 1933, the Glass–SteagallBanking Act became the law of the land.To help restore confidence in banks, theact banned deposit banks from engagingin investment banking. Investment banksbuy newly issued stocks and securitiesfrom corporations and resell them to thepublic for a profit, playing a key role inmarshalling capital corporations. After

Glass–Steagall Banking Act of 1933 (United States) | 165

the stock market crashed, banks that hadinvested depositors’ money in stocks hadno way to recover their investment andwere forced into bankruptcy. The ban oninvestment banking remained in until1999. Innovations in the organization ofthe banking industry had weakened theact, and many people in Congressthought it should be repealed. Thisdivorce between deposit banking andinvestment banking had never existed inmany countries, including Germany,France, and Switzerland.

The Act also gave the Federal ReserveSystem the power to regulate interestrates on savings and time deposits. Thisprovision, known as Regulation Q, helpedkeep the cost of funds down for financialinstitutions. Another provision of theGlass–Steagall Banking Act prohibitedinterest-earning checking accounts. Thepayment of interest on checking accounts

increased bank competition for deposits.This added competition might havedriven some banks into bankruptcy. Thederegulation of financial institutions inthe 1980s phased out Regulation Q andremoved the ban on checking accountsthat pay interest.

The Federal Deposit Insurance Corpo-ration (FDIC) owes its existence to theGlass–Steagall Banking Act. This corpo-ration insures deposits from bank failureup to a maximum limit. All banks that aremembers of the Federal Reserve Systemmust buy deposit insurance from theFDIC. Today virtually all commercialbanks insure deposits with the FDIC.After the savings and loan crisis in the1980s, the FDIC took over responsibilityfor furnishing deposit insurance to thethrift institutions. Deposit insurancehelps maintain the public’s confidence inthe banking system.

166 | Glass–Steagall Banking Act of 1933 (United States)

On June 16, 1933, Franklin D. Roosevelt signs the Banking Act of 1933, a part of whichestablished the Federal Deposit Insurance Corporation. At Roosevelt’s immediate right and leftare Carter Glass of Virginia and Henry Steagall of Alabama, the two most prominent figures in thebill’s development. (Federal Deposit Insurance Corporation)

Large numbers of bank and thrift fail-ures during the 1980s showed that finan-cial institutions remained vulnerable todisinflation and recession. TheGlass–Steagall Banking Act went a longway toward instilling resiliency and pub-lic confidence in the banking system.Support for Glass–Steagall, however,gradually waned with rising confidence inderegulation of markets. In 1999, Con-gress overhauled banking regulation withthe passage of the Financial ServicesModernization Act of 1999. This actrepealed the provisions in Glass–Steagallrequiring separation of deposit bankingand investment banking. The U.S. finan-cial crisis of 2008 raised questions aboutthe wisdom of repealing the ban againstcombined deposit and investment bank-ing within one company.

See also: Depository Institution Deregulationand Monetary Control Act of 1980, FederalReserve System, Financial Services Mod-ernization Act of 1999.

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets: An Economics Approach.

Schlesinger, Arthur M., Jr. 1960. The Age ofRoosevelt.

Wall Street Journal (Eastern Edition, NewYork). “Many Cooks Had a Hand inRepealing Glass–Steagall in ’99.” Sep-tember 26, 2008, p. A13.

GLOBAL DISINFLATION

The decade of the 1990s saw worldinflation subside from around 30 percentto around 4 percent. More exactly, worldinflation averaged 30.4 percent between1990 and 1994 and averaged 3.9 percentbetween 2000 and 2004. It was a decadeof disinflation (Rogoff, 2003). Inflation

decelerated at a rate sufficient to arousefears of deflation. Alan Greenspan, chairof the board of governors of the FederalReserve System from August 1987 toJanuary 2006, felt the need to addressthe prospects of deflation in December2002. In a speech to the Economic Clubof New York City, he commented that itwas vital to “ensure that any latent defla-tionary pressures were appropriatelyaddressed before they became a prob-lem” (Kumar, 2003, 16).

Regardless of stage of economicdevelopment or geographical location,countries around the world watchedinflation rates recede. For the yearsbetween 2000 and 2004, industrializedcountries experienced inflation averag-ing 1.8 percent, less than half of an aver-age inflation rate of 3.8 percent that thesame countries posted between 1990and 1994 (Rogoff, 2003). The most dra-matic reduction in inflation occurred inthe transition economies, referring tothe economies switching over fromsocialism to capitalism. These countriessaw inflation melt away, averaging amere 13.4 percent between 2000 and2004, compared to an average of 363.2percent between 1990 and 1994(Rogoff, 2003). Latin America boastedsimilar success in the war to corral infla-tion. Starting at an average inflation rateof 232.6 percent for the years between1990 and 1994, Latin America sawinflation rates slip to an average of 7.9percent for the years between 2000 and2004 (Rogoff, 2003). For the same timeframe, developing countries around theworld reported average inflation fallingfrom an average of 53.2 percent to anaverage of 5.6 percent (Rogoff, 2003).In Africa, average inflation fell from39.8 percent to 11.0 percent for thesame time frame (Rogoff, 2003).

Global Disinflation | 167

If the trend toward disinflation hadgone on uninterrupted, the world econ-omy at some point would have tippedover to deflation. The thin edge of thewedge of deflation had already madeinroads in Japan, where inflation aver-aged a –0.8 percent between 2000 and2003 (Rogoff, 2003). A minus sign oninflation numbers indicates prices arefalling. Hong Kong also saw deflation,posting an inflation rate of –2.5 percentfor the 2000 to 2003 time frame (Rogoff,2003). Deflation in Japan sparked fearsthat deflation would spread to othercountries, particularly since China andGermany were flirting with deflation.China reported inflation of 0.1 percent,and Germany 1.7 percent for the yearsbetween 2000 and 2003 (Rogoff, 2003).

The onset of world deflation wouldalmost certainly herald the beginning ofworld recession. Businesses are hesitantto invest in plant and equipment if theysee the prices of their output falling.Consumers are likelier to postponespending decisions when they learn thatthe longer they wait, the lower the pricesthat they pay for consumer goods.Japan’s deflation episode coincided witha highly stagnated economy.

Several factors may have played a rolein the deceleration of inflation ratesaround the world. First, governmentsaround the world have yielded more inde-pendence to central banks, shielding themfrom electoral pressures. Central banks inboth the United Kingdom and Japan wonlegal independence. In the same vein, cen-tral bankers have become more adept atapplying tight money policies with lesscost in terms of unemployment. Anotherfactor is a technology-driven rise in pro-ductivity around the world, increasing out-put and decreasing business costs. Last,globalization and increased emphasis on

markets and competitiveness may havediminished any positive role that inflationplays in maintaining high economic per-formance. In a world where prices arerigid downward, inflation helps to main-tain balances in markets where prices arefree to rise at different rates, but prices arenot free to fall. In such situations, marketequilibriums can be achieved by someprices rising faster than others, rather thansome prices rising and other prices falling.With more markets having downwardprice flexibility as well as upward priceflexibility, monetary authorities are lesstempted to elevate inflation in a bid torestores macroeconomic balance.

By 2008, a worldwide boom in com-modity prices put an end to fears ofworld deflation. On the contrary,inflation seemed on the rise. It will beinteresting to see if the current uptick ininflation rates around the world is only atemporary reprieve from a longer-termtrend toward deflation.

See also: Central Bank, Inflation

ReferencesKumar, Manmohan S. “Deflation: the New

Threat.” Finance and Development, vol.40, no. 2 (June 2003): 16–19.

Rogoff, Kenneth. “Globalization and GlobalDisinflation.” Economic Review, vol. 88,no. 4 (4th quarter 2003): 45–78.

GOAT STANDARD OFEAST AFRICA

John Maynard Keynes, in volume 1 ofhis Treatise on Money, published in1930, says that:

A district commissioner in Ugandatoday, where goats are the custom-ary native standard, tells me that it

168 | Goat Standard of East Africa

is a part of his official duties todecide, in cases of dispute,whether a given goat is or is not tooold or too scraggy to constitute astandard goat for the purposes ofdischarging a debt. (11)

Often goats shared with cattle the roleof currency, a store of value, and standardof deferred payment in Uganda well intothe 20th century. Like many livestockstandards, the rate at which goats and cat-tle could be traded for each other wasfixed. The goats circulated more easily insubsistence economies and were oftenused to buy weapons and salt. Goatscould be loaned out for interest; a chiefmight send a herd of goats to be kept byhis subjects, and receive every third kidborn to the herd as interest. The govern-ment also fixed fines payable in goats.

In Tanzania, 25 goats were equivalentto one cow or ox, and one goat equaledone hoe. The exchange rate betweengoats and oxen varied between districts.The Masai rated one ass at five goats, aniron spear at two goats, and a big cattlebell or a small ax at one goat. They alsopaid bride money in goats.

In equatorial Africa, goats often servedas a store of value and a standard ofdeferred payment, but not a medium ofexchange. Bride money was paid in goatsand sheep; in order for a man to marry, hehad to be able to borrow goats and sheep.

Societies living closer to the thresholdof survival found food items useful asmoney because food was what everyoneneeded, and a large share of each indi-vidual’s activity was devoted to securingfood. Therefore, food items were anobvious choice as a readily acceptablemedium of exchange. The problem withmuch food, such as grain, was that it wasperishable, hampering its usefulness as a

store of value, one of the important func-tions of money. Livestock not only madeexcellent food, but also reproduced,solving the problem of perishability, andeven earning a crude form of interest.Therefore, livestock could serve both asa medium of exchange and a store ofvalue. Because livestock could becounted on to maintain its value, credi-tors preferred to define debts in terms oflivestock. Livestock shared with othercommodities one important defect as amedium of exchange. The quality oflivestock varied because of age andheath, and people invariably sought torepay debts with inferior animals, creat-ing conflicts of the sort referred to in thequotation from John Maynard Keynes.Also, livestock are often bulky and diffi-cult to transport.

Livestock money is not necessarily asymptom of primitive economics andculture. Remote areas often suffer short-ages of coins and other forms of moneyand turn to commodities as a medium ofexchange. The American coloniesresorted to commodities as money at atime when the world economy was flushwith supplies of precious metals fromthe New World. The Massachusetts BayColony enacted a law for cattle beingdriven to Boston for payment of taxes,providing “if they be weary, or hungry,or fall sick, or lame, it shall be lawful torest and refresh them for a competenttime in any open place, that is not corn,meadow, or inclosed for some particularuse” (Nettels, 1934, 220).

See also: Cattle, Commodity Monetary Stan-dard

ReferencesEinzig, Paul. 1966. Primitive Money.Nettels, Curtis P. 1934. The Money Supply of

the American Colonies Before 1720.

Goat Standard of East Africa | 169

GOLD

Gold, the most enduring, highly valued,and universally accepted monetary metal,is a chemical element represented by thesymbol “Au” on the periodic table. A lus-trous yellow metal, soft and malleable,gold does not tarnish or corrode, and isfound in nature in a relatively pure form.From earliest times up to the present, thesearch for gold in nature has remained anever-ending quest. Man’s earliest chem-ical researches were inspired by a desireto find a means of converting other met-als into gold.

Because it did occur in pure form,gold was one of the first metals that drewman’s attention, but it was too soft to bea practical metal for making weaponsand farming tools. As a metallic mediumfor artistic work, however, gold had norivals and elaborate artistic productionsin gold rank among the most prizedrelics of antiquity.

Gold’s role as a monetary metal prob-ably has its roots in the perception, wide-spread in ancient cultures, that gold wasa divine substance. That gold suffered nodeterioration with time and that its colorresembled the color of the sun may haveencouraged the belief that gold was asacred substance. Gold adornments werea necessary part of religious temples,further underlining the connectionbetween gold and the gods.

The ancient Egyptians held gold to besacred to Ra, the sun god, and vast quan-tities of gold went into the tombs of thedivine pharaohs. A religion of ancientIndia taught that gold was the sacredsemen of Agni, the fire god, and Agni’spriests accepted gold as a gift for priestlyservices. The Incas of South Americasaw gold and silver as the sweat of thesun and the moon, and these precious

metals adorned the walls of their reli-gious temples. After the Spaniards tookthe Indians’ gold and silver, the nativessubstituted foil paper, and threw goldand silver-colored confetti into the air.The Maya of the Yucatan threw gold, sil-ver, and jade sacrifices into their gods’cenotes (deep pools of water formedwhen a limestone surface collapsed).

The legend of El Dorado propelledSpain into one of the greatest searches inhistory, ending with the exploration andconquest of much of the Americas. ElDorado was the name of an Indian whoruled a town near Bogota, Columbia.According to legend, El Dorado cele-brated festivals by plastering his bodywith gold dust, and plunging himself intoLake Guatavita at the end of the festival towash off the gold, and make the gold agift to the gods. His subjects also threwgold and other valuables into the lake.The legend of El Dorado grew, and the

170 | Gold

Gold bullion from the 1622 wreck of the Span-ish galleon Nuestra Señora de Atocha on theFlorida coral reef. (Library of Congress/Jay I.Kislak Collection/Rare Books and Special Col-lections Division)

Spanish, Portuguese, and German explor-ers went in search of the golden Eldorado,a city in a land fabulously rich in gold. ElDorado himself was never found, butEldorado came to mean a land of goldpopulated by several cities rich in gold.The English explorer Sir Walter Raleighwent in search of one of these cities.

Because gold was always in demandas a religious donation or sacrifice, it hadan unlimited demand and was alwaysvalued. It was an excellent store of valuebecause it did not tarnish or corrode, andit was divisible into units of any size,making it useful for exchanges of vary-ing magnitudes, and making change. Thehigh value of gold per unit of weightmade gold more transportable than othercommodities that might serve as money.For these reasons, gold became the basisfor the most famous commodity standardin history, the gold standard, a monetarystandard that dominated the world mon-etary system from the 1880s until 1914.

See also: Fort Knox, Gold Dust, Gold Rushes,Gold Standard

ReferencesGreen, Timothy. 1981. The New World of

Gold.Marx, Jennifer. 1978. The Magic of Gold.Weatherford, Jack. 1997. The History of

Money.

GOLD BULLIONSTANDARD

Under a gold bullion standard, countrieshold reserves of gold in the form of barsrather than coins, removing gold frommonetary circulation in the form ofcoinage. Instead, each country establishesan official price of a fixed weight of goldin terms of its own currency. The United

States was on a gold bullion standard fromthe 1930s until 1971, and the officialUnited States price of gold was $35 perounce, committing the United States Trea-sury to selling gold at that price.

The gold bullion standard was ameans of stretching existing supplies ofgold, which were not sufficient to sup-port the international monetary system atprevailing price levels. The famousBritish economist David Ricardo hadfirst suggested the idea after theNapoleonic Wars.

Under a gold bullion standard, privatecitizens can only hold gold for industrialpurposes, such as dentistry, or jewelrymanufacture. Monetary gold is owned bythe government and is used solely to settleinternational transactions. Countries with-out substantial gold reserves can functionon a gold exchange standard, whereascountries with significant gold reservesremain on a gold bullion standard.

The world began to move toward agold bullion standard after World War I,when the world’s trading partners soughtto return to a version of a gold standard.With the complete breakdown of thegold exchange standard in the 1930s, theworld moved toward a gold bullion stan-dard. The gold bullion standard allowedcountries to manage domestic currencysupplies somewhat independently ofinternational gold flows, giving govern-ments more flexibility to meet the crisisof depression.

At the end of World War II, the world’strading partners established the BrettonWoods system, putting most nations on agold bullion standard. The United Statesemerged from World War II owning mostof the noncommunist world’s gold. Underthe Bretton Woods system, the UnitedStates defined the value of the dollar in afixed weight of gold. The United States

Gold Bullion Standard | 171

agreed to buy and sell gold at a rate of $35 per ounce, and most other nations setthe value of their own unit of money equalto a certain value in U.S. dollars.

The post–World War II gold exchangestandard came to an end in 1971 whenthe United States stopped converting dol-lars into gold. By 1971, foreign centralbanks held more dollars than the UnitedStates could redeem in gold without sub-stantially devaluing the dollar.

See also: Bretton Woods System, GoldExchange Standard, Gold Reserve Act of1934

ReferencesDe Vries, Margaret Garritsen. 1987. Balance

of Payments Adjustment, 1945–1986: TheIMF Experience.

Kindleberger, Charles P. 1984. A FinancialHistory of Western Europe.

GOLD DUST

During the Alaskan gold rush, gold dustbecame a circulating currency in parts ofAlaska. Silver coinage and other smallcoinage was nonexistent, so in its placelittle packets of gold dust, sealed in writ-ing paper similar to medicine powders,passed as current money. The packetscontained a fixed weight of gold dust,and the value of the enclosed gold waswritten on the outside of each packet.The packets came in popular denomina-tions, such as $1 or $2 denominations,and some of the packets were known tocirculate for two years.

The Alaskan gold dust currencydemonstrates how societies will identifya medium of exchange when nothingelse is available, but gold dust currencyhas a long history. In the 10th century,the Japanese began circulating bags of

gold dust. Later Japanese merchantsbegan wrapping gold dust in small paperpackets. The units were the ryo, the bu,and the shu. The bags of gold dustequaled about 10 ryo. After learning thata certain amount of gold dust seepedfrom the opened end of the bag, theJapanese began melting down the golddust into gold bars. In the 19th centurythe people of Tibet used as currency golddust by weight.

For part of the 19th century, gold dustwas virtually the only metallic money inGhana. A farthing’s worth of gold couldbe scooped up on the tip of a knife, andan ounce of gold dust equaled three tofour British pounds. The governmentreceived taxes in gold dust and employedspecial weighing scales that gave anadvantage to the government.

In the eighteenth and nineteenth cen-turies, gold dust by weight circulated asmoney in the islands in and around theIndonesian Archipelago. As early asthe 16th century, gold dust acted ascurrency in the Philippines. The gold-producing districts of Siam madeuse of gold dust as currency into the20th century. In 19th-century Siam, atube of gold dust, 10 centimeters longand the diameter of a thumb, could pur-chase a buffalo. Some Malayan tribespacked gold dust of uniform weight inpieces of cloth, and circulated thesecloth packets as coins.

Africa also furnished examples ofgold dust by weight circulating as cur-rency. In Arguin of Spanish Sahara, onthe west coast of Africa, an ancient Ara-bic unit of weight, the mitkhal, survivedas a unit of weight of gold dust. Themitkhal was a monetary unit of account,but it does not appear that gold dust cir-culated as money on a significant scale.For a while, gold dust by weight was the

172 | Gold Dust

favored medium of exchange in theIvory Coast.

See also: Gold, Gold Rushes, Gold Standard

ReferencesEinzig, Paul. 1966. Primitive Money.Stuck, Hudson. 1932. Ten Thousand Miles

with a Dog Sled, 2nd ed.

GOLD EXCHANGESTANDARD

Under a gold exchange standard, anation’s unit of money is convertible at anofficial rate into a unit of money of a puregold standard nation—that is, a nationthat maintains the convertibility of its unitof money into gold at an official rate.

A gold exchange standard became apopular monetary standard after WorldWar I when many nations could notmarshal the gold reserves to support a

gold standard. In 1922, Britain proposedat a Genoa conference the adoption of aninternational monetary system organizedwith major nations holding reserves onlyin gold and the remaining nations holdingreserves in foreign currencies. Govern-ments (or central banks) would holdreserves to redeem domestic currencies atofficial rates as a means of guaranteeingcurrency value. Although the adoption ofan international monetary system failed tomaterialize from the Genoa conference,many countries individually went on agold exchange standard. Nations of theBritish Commonwealth often definedtheir currencies in terms of the Britishpound. Other nations defined their curren-cies in terms of the currencies of nationsthey were dependent on politically. Thegold exchange standard of the post–WarWorld I era ended when the world’s majortrading partners abandoned the gold stan-dard early in the 1930s.

Gold Exchange Standard | 173

Illustration from Harper’s Weekly shows miners bringing in gold dust to the bank for weighing,1866. (Library of Congress)

Critics of the gold exchange standardfollowing World War I and World War IIcontend that it encouraged dominantnations to incur balance of paymentsdeficits as a method of infusing the restof the world with additional monetaryreserves. Britain ran balance of pay-ments deficits in the post–World I eraand the United States ran balance of pay-ments deficits under the Bretton Woodssystem. A balance of payments deficitallows a nation to buy goods and invest-ments from the rest of the world withpayment in domestic currency neverused to claim domestic goods. Histori-cally, the gold exchange standard helpedthe world maintain the discipline of agold standard when world supplies ofgold were not keeping pace with theneed for international monetary reserves.

See also: Gold Standard, Gold Standard Act of1925, Gold Standard Amendment Act of1931

ReferencesKindleberger, Charles P. 1984. A Financial

History of Western Europe.McCallum, Bennett T. 1989. Monetary Eco-

nomics: Theory and Policy.

GOLD MARK OF IMPERIALGERMANY

The gold mark of imperial Germany, theancestor to the Deutsche Mark, burst onthe world in 1871 with the adoption ofthe gold standard in imperial Germany.

Before “iron and blood” (Keynes,1920) forged the German Reich in 1871from 30 loosely confederated inde-pendent states, Germany was split intoseven separate currency areas. Six of theareas were on a silver standard, and onewas on a gold standard. Soon after the

Zollverein, the German customs union,first began to emerge in 1818, pressuresarose for a unified German coinage andmonetary system. In 1837, southernmembers of the Zollverein establishedthe gulden or florin, equivalent to 1/24.5Cologne mark of silver, as a commonmonetary unit. Northern members in1838 responded with the adoption of thePrussian thaler, fixed in value at 1/14Cologne mark of silver, as a commonunit of currency. The Dresden conventionfixed the exchange ratio at 4 thalers to 7gulden. In 1857, the members of the Zol-lverein and Austria formed a coinageunion that replaced the Cologne mark ofsilver with a Zollpfund (customs unionpound) of 500 grams. The Zollpfund wasequivalent to 30 thalers, 52.5 South Ger-man florins, or 45 Austrian florins, witheach currency unit convertible to theother at the fixed ratio. Austria droppedout in 1866, leaving two rival monetaryunits, the thaler and the gulden, compet-ing for the monetary hegemony of themembers of the Zollverein. German com-mercial interests continued to push for aunified monetary system based on onecurrency rather than multiple currenciestrading at fixed exchange rates.

Following the formation of the Reichin 1871, the German governmentenacted monetary reform that put Ger-many on the road to the gold standard,and establishment of the mark as themoney unit of account. The mark hadbeen a money of account on the Ham-burg exchange, equivalent to 1/3 Pruss-ian thaler. On December 4, 1871, theGerman Reichstag enacted monetarylegislation, the first three sections ofwhich read:

Sec. 1. There shall be coined animperial gold coin, 139 1/2 pieces

174 | Gold Mark of Imperial Germany

of which shall contain one poundof pure gold.Sec. 2. The tenth of this gold coinshall be called a “mark” and shall bedivided into one hundred “pfennige.”Sec. 3. Besides the imperial goldcoin of 10 marks (Sec. 10) thereshall be coined imperial gold coinsof 20 marks, of which 693⁄4 piecesshall contain one pound of puregold. (Laughlin, 1968, 137)

On July 9, 1873, the Reichstag tookaction that officially put Germany on agold standard. The first section of the actread: “Sect. 1. In place of the various localstandards now current in Germany, anational gold standard will be established.Its monetary unit is the ‘mark,’ as estab-lished in Sec. 2 of the law dated Decem-ber 4, 1871” (Laughlin, 1968, 138).

A war indemnity that Germanyextracted from France after the Franco-Prussian war helped furnish the goldreserves that enabled Germany to adoptthe gold standard. Germany also beganselling silver to bolster its gold holdings.Either Germany correctly saw the com-ing of the gold standard, and was onlyacting in step with the times, or perhapsthe commercial success of England hadelevated the prestige of the gold standardin the eyes of Germany.

At the time of Germany’s monetaryreform, England and Portugal were theonly countries on a gold standard, which iswhy Germany’s action was of an extraor-dinary nature. The gold standard becamevirtually universal in Europe between1875 and 1880. The United States went ona de facto gold standard in 1879, Austria-Hungary adopted the gold standard in1892, and Russia and Japan in 1897. Theera from 1875 until 1914 is regarded as thegolden era of the gold standard.

The mark of imperial Germany lasteduntil the monetary reform that followedGermany’s episode of post–World War Ihyperinflation. In 1923, the Rentenmarkreplaced the mark at a rate of 1 renten-mark to 1,000 million marks. In 1924,Germany enacted another monetaryreform that replaced the rentenmark withthe Reichmark, and after World War IIthe reichmark was abolished in favor ofthe deutsche mark. In the post–WorldWar II era, the deutsche mark of the Fed-eral Republic of Germany became thestrongest currency in Europe. The newEuropean currency, the euro, launchedJanuary 1, 1999, eventually replaced theGerman mark, the French franc, andother major European currencies.

See also: Gold, Gold Standard

ReferencesChown, John F. 1994. A History of Money.Keynes, John Maynard. 1920. Economic

Consequences of Peace.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.Laughlin, J. Laurence. 1968. The History of

Bimetallism in the United States.

GOLD RESERVE ACT OF1934 (UNITED STATES)

The Gold Reserve Act of 1934 national-ized all monetary gold in the UnitedStates. Only the U.S. Treasury couldown gold and buy and sell gold. The actalso limited the power of the president toreduce the gold weight equivalent of adollar, and the day after the passage ofthe Gold Reserve Act President Roo-sevelt fixed the gold equivalent of thedollar at $35 per ounce of gold, where itremained until 1971.

Gold Reserve Act of 1934 (United States) | 175

The act also established a stabiliza-tion fund of $2 billion, put at the disposalof the secretary of the treasury, to sup-port the purchase and sale of foreign cur-rencies as needed to stabilize the valueof the dollar.

The groundwork for the enactment ofthe Gold Reserve Act began with thebanking crisis in March 1933 that ledPresident Roosevelt to suspend bankingoperations for four days. Before bankswere reopened, the government requiredthat all commercial banks turn over tothe Federal Reserve System all gold andgold certificates and furnish lists of allpersons who had withdrawn gold or goldcertificates since February 1. The Fed-eral Reserve issued Federal ReserveNotes in exchange for gold and gold cer-tificates. The export of gold and specula-tion in foreign exchange was banned,and one month later individual owner-ship of gold and gold certificates waslikewise banned. The treasury purchasedprivately held gold in the United Statesat a price of $20.67 per ounce, the pricethat had prevailed with few fluctuationsfor 100 years. The value of the dollar onforeign exchange markets depreciated 15percent when the U.S. dollar was nolonger redeemable in gold.

The World Economic and MonetaryConference, held in London during Juneand July 1933, sought to forge an agree-ment for the stabilization of internationalcurrencies and the eventual return to aninternational gold standard. Even mem-bers of the United States delegation couldnot agree among themselves, and Presi-dent Roosevelt undermined the confer-ence by announcing that the UnitedStates would manage its monetary policyto meet the needs of its domestic econ-omy rather than fulfill conditions set forinternational monetary cooperation.

Abandonment of the gold standard inthe United States aroused fears of infla-tion, inspiring references to the FrenchRevolution and post–World War I Ger-many. Nevertheless, there were voices ofsupport. Winston Churchill, respondingto the United States severance from thegold standard, called the action “nobleand heroic sanity.” On July 3, 1933, JohnMaynard Keynes responded to Roo-sevelt’s announcement in an article (withthe headline “President Roosevelt ismagnificently right”), referring to thenew law as a “challenge to us to decidewhether we propose to tread the oldunfortunate ways, or to paths new tostatesmen and to bankers but not new tothought. For they lead to the managedcurrency of the future” (Schlesinger,1959, 223).

Churchill later observed, perhapsoverstating the case:

The Roosevelt adventure claimssympathy and admiration from all. . . who are convinced that the fix-ing of a universal measure of valuenot based on rarity or abundance ofany commodity but conforming tothe advancing powers of mankind,is the supreme achievement whichat this time lies before the intellectof man. (Schlesinger, 1959, 224)

The treasury began, through the NewDeal–era Reconstruction Finance Cor-poration, to purchase gold, at firstdomestically and later in internationalmarkets, driving up the price of gold indollars, which effectively devalued thedollar in terms of gold. As the price ofgold was rising, Roosevelt fixed theprice officially at $35 per ounce. Theincrease in the dollar price of gold sub-stantially increased the value of the

176 | Gold Reserve Act of 1934 (United States)

government’s gold holdings, creating awindfall profit for the government thatsupplied funds for the treasury’s stabi-lization fund and later for the U.S. con-tribution to the World Bank andInternational Monetary Fund.

In the 1970s, the United States gov-ernment stopped selling gold to foreigncentral banks at $35 per ounce, endingthe fixed exchange rate between dollars,gold, and foreign currencies. The priceof gold was allowed to fluctuate freely,and the ban on the domestic ownershipof gold was lifted.

See also: Bretton Woods System, Gold, GoldStandard, Gold Standard Amendment Act of1931

ReferencesChandler, Lester V. 1971. American Mone-

tary Policy, 1928–1941.Myers, Margaret G. 1970. A Financial His-

tory of the United States.Schlesinger, Arthur M., Jr. 1959. The Coming

of the New Deal.Schwartz, Anna J. “From Obscurity to Noto-

riety: A Biography of the Exchange Stabi-lization Fund.” Journal of Money, Credit,and Banking, vol. 29, no. 2 (May 1997):135–153.

GOLD RUSHES

Nineteenth-century gold discoveriessparked gold rushes—manias that rival,if not eclipse, the major speculativecrazes that periodically rock financialmarkets. England adopted the gold stan-dard following the Napoleonic Wars, andthe United States was on a de facto goldstandard after 1834. The discovery ofgold in California in 1848 and in Aus-tralia in 1851 increased the world’s mon-etary gold reserves from 144 millionpounds sterling in 1851 to 376 million

pounds sterling in 1861, a increase of161 percent over a 10-year period. Thegold discoveries enabled the UnitedStates to become an official gold stan-dard country, and supplied the monetaryreserves for the world to adopt the goldstandard in the last quarter of the 19thcentury. Following the gold discoveries,a silver monetary standard became themark of a low-income country.

On January 4, 1848, James W. Mar-shal found gold on land in Californiaowned by a Swiss man named Sutter.The discovery occurred nine days beforethe United States signed a treaty withMexico making California, New Mex-ico, Arizona, Nevada, and Utah part ofUnited States territory. The secret soonleaked out—not in time to prevent thesigning of the treaty—and gold feverinfected the residents of San Franciscoand Monterrey, most of whom wentstraight to the gold mines, leaving theirhouses empty. Workers left employers,and employers decided to join theirworkers mining for gold. Soldiersdeserted, and ship captains were afraidto make port for fear that sailors wouldleave for the gold mines. Some ships laystranded in harbors, deserted by sailorswho took up prospecting. The popula-tion of California had increased to92,560 by June 1850, a sixfold increase.By November 1852, the populationstood at 269,000, and by 1856, the pop-ulation had topped half a million. Wagesat unheard-of levels lured immigrants,who were content to leave the actualmining to others and take jobs as cooksor fill other skilled positions. Of course,the price of life’s necessities also soared.

The repercussions of the Australiangold discoveries were a bit mild com-pared to the California experience. Anemigrant who had already prospected in

Gold Rushes | 177

California began in 1851 searching forgold in the Northern Bathurst region ofAustralia, an area geologists believed tocontain gold. Gold was discovered, butthe mines were scattered, a factor that—coupled with a well-established sheepindustry—blunted the demographiceffects of the strike.

Something of the effect of these golddiscoveries can be gleaned from thewords of Karl Marx, who in 1859 men-tioned in the preface to his Contributionto the Critique of Political Economy thatthe gold discoveries were a factorencouraging him to continue his studiesof capitalism. He wrote:

The enormous material on the his-tory of political economy which isaccumulated in the BritishMuseum; the favorable view whichLondon offers for the observationof bourgeois society; finally, thenew stage of development upon

which the latter seemed to haveentered with the discovery of goldin California and Australia, led meto the decision to resume my stud-ies from the very beginning andwork up critically new material.(Vilar, 1976, 322–323)

The late 1890s saw another round ofgold discoveries. The monetary goldstock of the United States more thandoubled between 1890 and 1900, thanksto discoveries in Alaska and northeastCanada, South Africa, and Australia. Anew cyanide process for extracting goldfrom low-grade ores also added to goldproduction.

In 1896, gold was discovered in theKlondike area of Canada, along theYukon River, on a scale comparable tothe California gold discoveries. Twelvedollars worth of gold could be separatedin a dish full of sand. Thirty thousandprospectors, crossing a mountain range in

178 | Gold Rushes

The Bullfinch gold mine in western Australia, 1910. (The Illustrated London News Picture Library)

Arctic conditions, arrived after a heroictrial of endurance that could match thehardships of any expedition or humanmigration in history. Dawson City wasborn, where miners held out against dis-ease and starvation, and salt fetched itsweight in gold. Gold was found in otherprovinces, and Canada became theworld’s third-largest gold producer.

Under the gold standard, a shortage ofmonetary gold stocks led to fallingprices between 1875 and 1895, makinggold that much more valuable. As pricesfell, the scramble for gold increased inintensity. Gold discoveries easedmonetary tightness, allowing prices torise, reducing the value of gold and theintensity of the search for gold.

See also: Gold, Gold Dust, Gold Standard

ReferencesBenton, Pierre. 1954. The Golden Trail.Green, Timothy. 1982. The New World of

Gold.Littlepage, Dean. 1995. The Alaska Gold

Rush.Vilar, Peter. 1976. A History of Gold and

Money, 1450–1920.

GOLDSMITH BANKERS

The goldsmiths of 17th-century Londondeveloped banking in its modern form.In one business enterprise goldsmithsunited functions such as: maintainingsafe storage of gold, silver, and depositsof money; loaning out deposits of money(as well as their own money); transfer-ring money holdings from town to townor person to person; trading in foreignexchange and bullion; and discountingbills of exchange. Before the goldsmithbankers, these activities were scattered,often as sidelines or by-products of other

trading activities. Around 1633, gold-smith banking arose as an indigenousform of banking in England. Before thegoldsmiths, banking in London was theprovince of Italians, Germans, and par-ticularly the Dutch.

The first step in the goldsmith evolu-tion toward banking began when somegoldsmiths became dealers in foreignand domestic coins. Goldsmiths whospecialized as coin dealers becameknown as exchanging goldsmiths asopposed to working goldsmiths. Theseizure of the mint in 1640 and the out-break of civil war in 1642 sent people togoldsmiths in search of safety for jew-elry, gold, silver, and coins. The civil warinterrupted the normal goldsmith busi-ness of forging objects from gold and sil-ver. Instead, goldsmiths developedfacilities to store gold and silver depositsin safety. The goldsmiths maintained arunning account of each depositor’sholdings. They also conducted a prof-itable business loaning out depositors’gold, silver, and coins to government andprivate customers. To meet the demandsfrom borrowers, goldsmiths turned topaying interest on deposits and offeringtime deposits.

The paperwork and record keeping ofthese activities laid the foundation forimportant innovations in banking. Thebanknote (paper money) evolved out ofreceipts for deposits at goldsmiths. Thedepositor got a receipt with the deposi-tor’s name and the amount of thedeposit. These receipts soon becamenegotiable like endorsed bills ofexchange. Modern banking began whenthese receipts were issued not just tothose who had deposited money but alsoto those who borrowed money. Insteadof bearing the name of a particulardepositor or borrower, soon the receipts

Goldsmith Bankers | 179

were issued to the “bearer.” Thus themodern banknote came to life. ThePromissory Notes Act of 1704 ratifiedthe practice of accepting notes inexchange.

The goldsmiths were thus the first todevelop checks. The British word“cheque” came from exchequer, theBritish term for “treasury.” The chequeswere named after the Exchequer orders topay. The first cheques evolved out of billsof exchange and were called notes orbills. The courts confirmed the negotiabil-ity of endorsed bills and notes in 1697.

The paper records of credit transac-tions and transfers of funds evolved intoa considerable supplement of the metal-lic money supply. By the time AdamSmith’s The Wealth of Nations was pub-lished in 1776, banknotes in circulationexceeded metallic coins. The moneysupply of the capitalist economic systemwas no longer limited to the supply ofprecious metals.

See also: Bank, Check, Seizure of the Mint,Stop of the Exchequer

ReferencesChallis, C. E. 1978. The Tudor Coinage.Davies, Glyn. 1994. A History of Money.

GOLD-SPECIE-FLOWMECHANISM

David Hume (1711–1976), one of themost famous philosophers in Western civ-ilization, was the first to give a thoroughand complete explanation of the gold-specie-flow mechanism, which is theautomatic adjustment mechanism thatbalances the inflow and outflow of goldunder an international gold standard.

On a gold standard, a country’smoney supply, including paper money, is

directly proportional to domestic goldholdings, including bullion and goldspecie. When a country imports goodsfrom abroad, making payment causesgold to flow out of the importing coun-try. When a country receives payment forgoods exported abroad, gold flows intothe country. In addition, investments in aforeign country cause gold to flow out,destined for the country receiving theinvestment. When a country attracts for-eign investment, gold flows in to pay forthe investment.

David Hume addressed the problem ofwhat happens when the outflow of gold,owing to imports and investments in for-eign countries, is unequal to the inflow ofgold from exports and foreign investmentattracted from abroad. He developed thegold-specie-flow mechanism to explainthe forces that bring the outflow of goldinto balance with the inflow of gold, sta-bilizing domestic money supplies.

If gold outflows exceed gold inflows,domestic money supplies dwindle,

180 | Gold-Specie-Flow Mechanism

David Hume, 18th-century Scottishphilosopher. (Library of Congress)

putting downward pressure on domesticprices. As domestic prices fall, domesticgoods become cheaper relative toimported goods, decreasing gold out-flows from imports. Also, falling domes-tic prices lower the prices of domesticgoods in export markets, increasing goldinflows from exports. Therefore, importsdecrease and exports increase, closingthe gap between the gold outflows andgold inflows.

If gold inflows exceed gold outflows,domestic money supplies balloon, puttingupward pressure on domestic prices. Ris-ing domestic prices render domestic goodsless competitive in export markets,decreasing gold inflows from exports.Also, rising domestic good prices lift theprice of domestic goods relative toimported goods, increasing gold outflowsfrom imports. Therefore, imports increaseand exports decrease until the gap betweengold inflows and gold outflows has closed.

Hume’s theory of the gold-specie-flow-mechanism helped supply thetheoretical foundation of the gold stan-dard as a stabilizing force in monetaryaffairs.

See also: Balance of Payments, ForeignExchange Markets, Gold Standard

ReferencesHume, David. 1955. Writings on Economics.Hume, David. 1963. Essays, Moral,

Political, and Literary.Fausten, Dietrich K. “The Humean Origin of

the Contemporary Monetary Approach tothe Balance of Payments.” QuarterlyJournal of Economics, vol. 93, no. 4(November 1979): 655–673.

GOLD STANDARD

Under a gold standard, the value of a unitof currency, such as a dollar, is defined in

terms of a fixed weight of gold, and ban-knotes or other paper money are convert-ible into gold accordingly. Although themonetary systems of individual coun-tries have been based on the gold stan-dard at times, all the economicallyadvanced countries of the world were onthe gold standard for a relatively brieftime—roughly from 1870 to 1914,sometimes called the period of the clas-sic gold standard.

The coinage of gold dates back to 700BCE in the Mediterranean world, and itcontinued during the Roman Empire.Gold coinage disappeared from Europeduring the Middle Ages, but during the13th century Florence popularized goldcoinage among Italian cities. The influ-ence of the Italian cities seems to havebrought the practice of gold coinage toEngland, where it caught on, particularlyafter the mid-14th century. In 1663,Charles II introduced a new English goldcoin called a “guinea.” From Englandgold coinage then spread to the rest ofWestern Europe.

At the opening of the 19th century, noEuropean country was on a gold stan-dard or had developed a gold standardsystem. England and other countriescoined both gold and silver and set theconversion ratio at which gold could beexchange for silver. England was stillofficially on a sterling silver standard,but in the 18th century the Englishgovernment overvalued gold relative tosilver, causing an outflow of silver andan inflow of gold and lifting gold to aposition of preeminence in England’smonetary system.

In normal times, banks redeemedpaper money out of reserves of specie(precious metal coinage), but during thewars with revolutionary France andNapoleon, the Bank of England

Gold Standard | 181

suspended the redemption of its bank-notes in specie. After Napoleon’s defeatin 1815, Parliament turned its attentionto the resumption of specie payments,and passed the Coinage Act of 1816.This act placed England definitely on thegold standard, whereas the rest ofEurope remained on a silver or bimetal-lic standard. In 1819, Parliament passedthe Act for the Resumption of Cash Pay-ments, which provided for the resump-tion by 1823 of the convertibility ofBank of England banknotes into goldspecie. By 1821, the gold standard wasin full operation in England. Except forEngland, most countries operatedbimetallic systems until the 1870s.Under a bimetallic system both gold andsilver coins circulated as legal-tendermediums.

The English banking system evolvedtoward the use of Bank of England bank-notes as reserves for commercial banks,and the Bank of England became thecustodian of the country’s gold reserves.The Bank of England learned to protectits gold reserves by adjustments in inter-est rates, using its bank rate and openmarket operations to raise interest ratesand stem an outflow of gold. Higherinterest rates attracted foreign capitalthat could be converted into gold, andlower interest rates had the oppositeeffect. Low interest rates were the natu-ral results of a gold inflow.

By the end of the 1870s, France, Ger-many, Holland, Russia, Austro-Hungary,and the Scandinavian countries were onthe gold standard. The bimetallic systembecame awkward because official con-version ratios between gold and silveroften differed from the ratio that existedin the precious metals market. Gold dis-coveries in California and Australiaflooded markets for precious metals, and

gold began to replace silver as the circu-lating medium in France and other Euro-pean countries. The wars and revolutionsof the mid-19th century again forcedgovernments into issuing inconvertiblepaper money. Governments oftenrestored convertibility by establishingthe gold standard. If the gold standardhad a golden age, it was between 1870and 1914, when it acted as a brake on theissuance of paper money. If prices inCountry A rose faster than prices inCountry B, residents of A would startbuying more goods from Country B.Gold would flow out of Country A intoCountry B, increasing the money supplyin Country B and decreasing it inCountry A. These money supply changeslowered prices in Country A and raisedprices in Country B. These adjustmentsrestored equilibrium, eliminating theneed for further gold flows, and stabiliz-ing prices at an equilibrium level.

World War I brought an end to thegold standard, partly because the exportof gold was not feasible after 1914, andpartly because governments wanted thefreedom to print extra paper money tofinance the war effort. The end of WorldWar I set the stage for an internationalscramble for gold as countries tried toreestablish national gold standards.Britain and France kept their currenciesovervalued in terms of gold, hurting thecompetitiveness of their exportindustries in foreign markets and causingrecessions at home.

The economic debacle of the 1930sspelled the end of the gold standard fordomestic economies. Governmentswanted the freedom to follow cheapmoney policies in the face of severedepression. The United States GoldReserve Act of 1934 authorized theUnited States Treasury to buy and sell

182 | Gold Standard

gold at a rate of $35 per ounce of gold inorder stabilize the value of the dollar inforeign exchange markets. This legisla-tion laid the foundation for the world toreturn to the gold standard for interna-tional transactions after World War II.The value of the dollar was fixed in gold,and the value of other currencies wasfixed in dollars. The system only becamefully operational after World War II,when most countries lifted bans on theexportation of gold. This gold exchangestandard for international transactionsremained in effect until 1971.

In 1971, the United States, afterexperiments with devaluation, sus-pended the conversion of dollars intogold as the only means of stemming amajor outflow of gold. Abandonment ofthe gold standard preceded the strongworldwide surge of inflation in the late1970s, and critics attributed the inflationto the loss of discipline provided by thegold standard. The inflation of the 1970scan be attributed to many factors, such asshortages of important commodities,powerful unions, monopolistic pricing,and undisciplined monetary growth.

Most economists see the gold stan-dard as a relic of history. In the absenceof the gold standard, governments andmonetary authorities enjoy more flexibil-ity to adjust domestic money stocks tomeet the needs of domestic economies.The experience of the 1980s and 1990ssuggests that countries can control infla-tion without the gold standard.

See also: Dollar Crisis of 1971, Gold StandardAct of 1900, Gold Standard Act of 1925,Gold Standard Amendment Act of 1931

ReferencesBordo, Michael D., and Forrest Capie. 1993.

Monetary Regimes in Transition.Davies, Glyn. 1994. A History of Money.

GOLD STANDARD ACT OF1900 (UNITED STATES)

The Gold Standard Act of 1900 put theUnited States for the first time explicitlyon the gold standard, removing all tracesof the bimetallic standard based on goldand silver. The United States remainedon a gold standard until 1933.

The world’s major trading partnershad been moving toward the gold stan-dard since the United Kingdom adoptedthe gold standard in 1821. Portugaladopted gold as its standard in 1854,even making British sovereigns legaltender, and Canada went on the goldstandard in 1867. After Germanyadopted a gold standard in 1873, silverbegan to lose ground as a monetizedcommodity. The United States andFrance ended free minting of silver soonafter Germany acceded to a gold stan-dard. Austria-Hungary adopted a goldstandard in 1892, and Russia and Japandid so in 1897.

In 1873, the United States ended freeminting of silver in legislation that pro-voked no controversy at the time, butlater social protest and silver interestskept the United States on a limitedbimetallic standard. The uproar inspireda book, The Wizard of Oz, a monetaryallegory of the advantages of monetizedsilver. The proponents of silver wantedto return to the free minting of silver,meaning that the treasury stood ready tobuy silver at $1.29 per ounce, above thethen-prevailing world market price ofsilver. A return to a policy of free mint-ing of silver would have increaseddomestic money supplies and eased theburden of a world trend of deflation thatwas making itself felt in the UnitedStates. At the Democratic Convention in

Gold Standard Act of 1900 (United States) | 183

1896 William Jennings Bryan, referringto the enemies of silver and proponentsof a gold standard, exclaimed: “Youshall not press down on the brow oflabor this crown of thorns, you shall notcrucify mankind upon a cross of gold.”

Bryan lost the presidential election toWilliam McKinley, who favored a goldstandard but was slow to take action,knowing that feelings ran high on theissue. The Spanish-American Wargalvanized public support for McKinleyand shifted the issues that held the atten-tion of the voting public. On March 14,1900, five days before the next Democra-tic Convention, McKinley signed theGold Standard Act. Bryan, renominatedas the presidential nominee of the Demo-cratic Party, launched a vigorous cam-paign, again favoring free minting ofsilver, but lost a second time. McKinley’sreelection seemed to ratify the adoption

of the gold standard in the United States.It is probable that increased world pro-

duction of gold, and particularly increasedUnited States gold reserves, accounts forthe United States becoming the most pow-erful convert to the gold standard. Early inthe 1890s, the United States exported goldto the rest of the world, but late in the1890s, an excess of exports over importschanged the United States to an importerof gold. A substantial increase in tariffs onimported goods may have caused the tradesurplus, coupled with a general revival ofthe world economy. Also, world suppliesof gold rose significantly, partly due tonew discoveries in Alaska, Africa, andAustralia and partly due to a new cyanideprocess that made lower-grade ores a prof-itable source of gold. The annual worldoutput of gold grew from 5,749,306ounces in 1890 to 12,315,135 ounces in1900, and the U.S. monetary gold stockdoubled over the same interval.

The act unequivocally defined thevalue of the dollar in terms of gold alone,without reference to another metal. Thedollar was defined as equal to “twenty-fiveand eight-tenths grains of gold nine-tenthsfine.” Responsibility for maintaining par-ity fell to the secretary of the treasury. Nogold certificates were to be issued under$20, and silver remained as a subsidiarycoinage and currency, with 90 percent ofsilver certificates remaining under $10.

The act also set up a system ofreserves for national banks and substan-tially reduced the amount of capitalneeded to establish a national bank.These measures had the expected effectof increasing the quantity of banknotesin circulation, which rose from $349million in 1901 to $735 million in 1913.These measures were also intended tomake the supply of banknotes moreelastic as the needs of trade varied. The

184 | Gold Standard Act of 1900 (United States)

U.S. Democratic Party politician WilliamJennings Bryan was a tireless advocate ofreform and a staunch anti-imperialist. Heserved in Congress and as secretary of state,and he was a presidential candidate in threeelections. (Library of Congress)

elasticity of the currency, or lack thereof,remained a source of economicinstability, leading to the establishmentof the Federal Reserve System in 1913.

The United States remained on thegold standard until 1933 when the UnitedStates government, facing the debacle ofthe Great Depression, needed more flexi-bility in its handling of monetary matters.Like many governments around theworld at that time, the United States gov-ernment felt that a domestic money sup-ply, completely uncoupled from domesticgold supplies, could be adjusted asneeded by the Federal Reserve System tomeet the needs of trade.

See also: Gold Standard, Gold Reserve Act of1934

ReferencesDavies, Glyn. 1994. A History of Money.Hepburn, A. Barton. 1924. A History of Cur-

rency in the United States.Myers, Margaret G. 1970. A Financial His-

tory of the United States.

GOLD STANDARD ACT OF1925 (ENGLAND)

The Gold Standard Act of 1925 returnedthe United Kingdom to the gold stan-dard after the disruption of World War I,signaling the beginning of a new goldstandard era that lasted until 1931.

Great Britain’s commercial supremacyand financial leadership had secured thegold standard as the international mone-tary standard between the 1870s and1914, the years of the classic gold stan-dard. If there was a headquarters for theinternational gold standard, it was Eng-land, and the return of England to goldafter World War I was anxiously awaited.

Great Britain had not officially goneoff the gold standard during World War I,but the risk of transporting gold underwartime conditions effectively put anend to the convertibility of pounds intogold. After April 1919, the export of goldwas strictly prohibited except for freshlymined gold imported from other parts ofthe Empire.

To study the financial aspects of post-war reconstruction the British govern-ment in 1918 had appointed acommittee, soon called the CunliffeCommittee after its chairman, Lord Cun-liffe, governor of the Bank of England.Nine of the 12 members of the commit-tee were traditional bankers, perhapsaccounting for the deflationary recom-mendations of the committee. From theoutset, the Cunliffe Committee assumedthat Great Britain should return to thegold standard, and that the value of thepound should be fixed at its prewarvalue. The recommendations of the com-mittee were phased in over a 10-yearperiod, including the return to the goldstandard in 1925.

Wartime inflation had continued at thewar’s end, lifting the 1920 price levelthreefold higher than the 1913 price level.In 1920, however, the postwar boom hitthe skids, and by 1922 prices were lessthan twice the 1913 price level. The boutof deflation was temporary but prophetic,and the Cunliffe Committee would havedone well to heed the warning.

With the help of loans from the Fed-eral Reserve Bank of New York and aUnited States banking syndicate, GreatBritain returned to the gold standard.The ban on the export of gold was lifted,and the Gold Standard Act of 1925 madethe pound convertible into gold at prewarparity. Unlike the classic gold standardof the prewar years, gold coins no longer

Gold Standard Act of 1925 (England) | 185

circulated domestically, and the publiccould only convert Bank of England ban-knotes into gold bars. To meet the needsof international finance, the Bank ofEngland could have gold minted intogold coins, but the British public couldnot demand the convertibility of ban-knotes into gold coins.

Perhaps the fateful mistake of the actwas the return of the pound to its prewarvalue. The pound needed to depreciate toenhance the competitiveness of Britishexports in foreign markets, and to dimin-ish the competitiveness of importedgoods in British markets. Great Britain’sindustry could not compete with Germanindustry and industry from other parts ofthe world. England’s economy settledinto a sluggish recession, marked by mil-itant labor-management clashes, strug-gling along until the more devastatingcollapse occurred in the 1930s.

The Bank of England had to keepdomestic interest rates up to make thepound valuable in foreign markets, restrict-ing the desire to convert pounds into gold,and keeping Great Britain in possession ofits gold reserves. But domestic economicproblems limited the ability of the Bank ofEngland to raise domestic interest rates toprotect its gold reserves. A conflictbetween the need to improve domesticeconomic conditions and the need to sup-port the pound put the Bank of England ina difficult position. In 1931, the conversionof pounds accelerated, causing a drain onBritish gold reserves. The government sus-pended its gold standard with the GoldStandard Amendment Act of 1931. GreatBritain and the world’s trading partnersnever returned to domestic gold standardsafter the debacle of the 1930s. Later in the1930s, a gold standard for internationaltransactions was established, lasting until1971.

See also: Gold Exchange Standard, Gold Stan-dard, Gold Standard Amendment Act of1931, Gold Reserve Act of 1934

ReferencesFeavearyear, Sir Albert. 1963. The Pound

Sterling: A History of English Money, 2nded.

Kindleberger, Charles P. 1984. A FinancialHistory of Western Europe.

Moggridge, D. E. 1969. The Return to Gold,1925.

GOLD STANDARDAMENDMENT ACT OF

1931 (ENGLAND)

The Gold Standard Amendment Act of1931 is a rather euphemistic title for anact that marked the end of the interna-tional gold standard. The gold standardhad provided the world with a stablemonetary system from the 1870s until1914, and was regarded as the idealmonetary system in the aftermath ofWorld War I. In the pre–World War I era,Britain had been the major proponentand custodian of the gold standard, andthe departure of Britain from the goldstandard permanently removed the worldfrom the gold standard.

Despite the interruption of World WarI the world had by the mid-1920sreturned to a gold standard that com-bined elements of a gold bullion andgold exchange. Countries held interna-tional reserves to redeem national cur-rencies at official rates, and thesereserves took the form of gold or leadingforeign currencies, mainly Britishpounds and U.S. dollars, which were “asgood as gold.” The United States heldgold reserves well in excess of what wasneeded to satisfy foreign claims, but in

186 | Gold Standard Amendment Act of 1931 (England)

Britain foreign claims exceeded domes-tic gold reserves, making Britain vulner-able to an international liquidity crisis.

After World War I, Britain not onlycommitted itself to returning to the goldstandard, but also sought to fix the poundat its pre–World War I value, which wasequivalent to $4.86 in the United States.In 1925, Britain returned to the goldstandard with the pound at pre–WorldWar I parity in terms of gold and foreigncurrencies, leaving the pound overvaluedin the new international order. The over-valuation of the pound made Britishexports more expensive in foreign mar-kets and foreign imported goods lessexpensive in British markets, increasingthe supply of goods in Britain relative todemand. Deflationary effects of overval-uation in Britain caused strikes, unem-ployment, and recession, and forced onthe British government added socialspending, leading to larger budgetdeficits. The Bank of England kept inter-est rates high to attract foreign capital,and discourage withdrawal of foreignfunds, together minimizing pressure toredeem pounds into gold. High interestrates also helped keep the British econ-omy depressed.

With the onset of the GreatDepression of the 1930s, many smallercountries lost export markets and beganto draw on reserves of foreign curren-cies to pay for imports. Bank failures inAustria and Germany weakened confi-dence in foreign currencies, encourag-ing redemption of foreign currenciesinto gold. France, perhaps sensitive tothe feeling that the leading powers heldreserves in gold and that secondarypowers held reserves in foreign cur-rency, took every opportunity to con-vert its holding of pounds and dollarsinto gold.

Britain first negotiated loans with thecentral banks of France and the UnitedStates, seeking to bolster its reserves andweather a mounting crisis of confidencein the pound. Later, the British govern-ment arranged another loan from privatesources, but only after restricting gov-ernment deficit spending, and curbingexpenditures on unemployment compen-sation and wages of government work-ers. The loans however were onlystopgap measures, and the drain onBritain’s gold reserves continued.

On Saturday September 19, 1931, theBritish government decided to suspendgold payments, effective the followingMonday, September 21. The act wasrushed through Parliament on September21 and read, “Until His Majesty byProclamation otherwise directs subsec-tion 2 of section one of the Gold Stan-dard Act of 1925 shall cease to haveeffect.” The Gold Standard Act of 1925had returned Britain to the gold standard.

Australia, New Zealand, Brazil, Chile,Paraguay, Uruguay, Venezuela, and Peruhad already suspended gold payments.Within a few weeks, most of the world’strading partners abandoned the gold stan-dard or restricted foreign currency trans-actions. By the end of 1932, only theUnited States, France, Belgium, Switzer-land, and the Netherlands remained onthe gold standard and maintained free-dom of transaction in foreign currencies.The United States abandoned the goldstandard in 1933, followed by theremaining European countries in 1936.

See also: Gold Reserve Act of 1934, Gold Stan-dard, Gold Standard Act of 1925

ReferencesChandler, Lester V. 1971. American Mone-

tary Policy: 1928–1941.Chown, John F. 1994. A History of Money.

Gold Standard Amendment Act of 1931 (England) | 187

Feavearyear, Sir Albert. 1963. The PoundSterling: A History of English Money,2nd ed.

GREAT BULLION FAMINE

Fifteenth-century Europe encountered asevere shortage of precious metals—particularly silver—that scholars havenamed the Great Bullion Famine. Theworst years of the bullion famine lastedfrom 1457 until 1464. Evidence of pricelevels are scanty, but E. J. Hamilton,author of a well-known study of the16th-century price revolution, found evi-dence that prices in Valencia and Aragondropped as much as 50 percent in goldequivalents, and 25 percent in silverequivalents from 1400 to 1500. Interestrates that ranged between 4.875 and8.375 percent during the first half of the14th century in Italy, rose to a rangebetween 6 percent to over 10 percent100 years later.

The reasons for the bullion famine layin the depletion of silver mines locatedin what are now Germany, Austria, theCzech Republic, and Slovakia, and aEuropean trade deficit with countries ofthe Middle and Far East. DiminishedEuropean silver production began withthe depopulation caused by the BlackDeath epidemic of the 14th century, andcontinued into the 15th century. A con-tributing factor to the bullion famine wasthe strong tendency to hoard preciousmetals in plate, cups, jewelry, and treas-ures of coin. Falling prices renderedhoarding precious metal a productiveinvestment and hoarding was also ameans of protection against coinagedebasement.

A European trade deficit with theMiddle and Far East existed because

exotic goods from China and India—spices, silks, cotton, and others—werehighly prized in Europe, but Europeanproducts—such as woolens from Eng-land—were not valued in Eastern coun-tries. Even falling European prices couldnot erase the trade deficit. Precious met-als, particularly silver, were strongly val-ued in the Eastern countries, andEuropean precious metals sent to theEast in payment for goods never returnedin payment for exported Europeangoods. Precious metals were a Europeanexport, and Eastern countries became asinkhole for those metals. The Easterncountries exhibited the same strongpropensity to save that now is associatedwith Japan, causing Japan to exportgoods to the United States without buy-ing a comparable volume of U.S. goods.

Mints closed down all across Europe.A lack of bullion forced mints in theRhineland to close one after anotherbetween 1440 and 1443. The Englishmint at Calais shut down permanently in1442, and at one point the Tower of Lon-don housed the only mint in northwest-ern Europe that remained active. Asearly as 1392, the minting of silver inFrance had dropped to a trickle, andabout the same time Sweden endedminting silver for 20 years. At the heightof the bullion famine, mints closed downin Flanders, Holland, Hainaut (south-western Belgium), Dordrecht, andValenciennes.

The bullion famine was one of the not-so-secret causes of the Age of Discovery.Portuguese explorations down the coastof Africa opened up new routes to sub-Saharan gold. Christopher Columbus, inhis diary of his first voyage, mentionsgold 65 times. After the mid-16thcentury, the discovery of silver in LatinAmerica put an end to the bullion famine,

188 | Great Bullion Famine

Europe entered an era of rising prices,and trade with the Eastern world reacheda higher level of intensity.

See also: Ghost Money, Price Revolution inLate Renaissance Europe, Silver Plate

ReferencesDavies, Glyn. 1994. A History of Money.Day, J. 1978. The Great Bullion Famine of

the Fifteenth Century. Past and Present, p.79.

Spufford, Peter. 1988. Money and its Use inMedieval Europe.

GREAT DEBASEMENT

The Great Debasement (1542–1551)refers to the English crown’s policy ofcoinage debasement during the reigns ofHenry VIII and Edward VI. Coinagedebasement occurred when governmentsreplaced to a significant degree the goldor silver content of coinage with a basemetal such as copper. By reducing thevalue of gold or silver content relative toface value, governments extracted use-able revenue from domestic moneystocks. This stratagem was calleddebasement because each coin wasworth less in terms of its precious metalcontent.

Normally, the face value of the coinedmoney exceeded its production cost,including the cost of the precious metals.This difference, which the crown earnedas a profit, was called seigniorage. Thecrown of England, like many govern-ments, held an exclusive monopoly onthe privilege to coin money from pre-cious metals, and used the profits ofseigniorage to help pay for governmentexpenditures.

During the Great Debasement, theEnglish crown’s profits from debase-

ment rose to unreasonable levels. InMarch 1542, the value of the silver con-tent of each English coin averaged 75percent of each coin’s face value. ByMarch 1545, the value of the silver con-tent had fallen to 50 percent, and byMarch 1546 to 33.33 percent. The valueof each coin in silver content fell toonly 25 percent of face value by thetime the debasement had run its coursein 1551.

During a period of coinagedebasement, a mechanism called Gre-sham’s law comes into play. Gresham’slaw is sometimes expressed as bad cur-rency drives out good currency. House-holds and businesses will hoard thegood (or undebased) coinage, and usethe debased coinage to pay for goodsand services. The result is that only thedebased currency remains in circula-tion, and the good currency goes intohiding or is spent on goods from foreigncountries where the debased currency isnot legal tender and therefore notaccepted.

In 1551, the English governmentunder Elizabeth I instituted a plan toretire the debased currency and replaceit with currency the face value of whichcorresponded with its precious metalcontent. Because of Gresham’s law,retiring the debased currency was atricky affair because households andbusinesses tend to hoard good coinageand pay debts with debased coinage. Toretire the debased currency the govern-ment enacted laws forbidding the out-flow of good coinage to foreignmarkets, and ending the legal-tenderstatus of the debased coinage beyondcertain date.

During the gold standard era, gov-ernments achieved the same purpose asdebasement by increasing the paper

Great Debasement | 189

money in circulation relative to the goldbullion held in reserves. Debasement,like printing excess paper money, was asecret form of taxation that monarchscould impose, often without receivingthe approval of representative bodiessuch as Parliament. The secret tax madeitself felt by increasing prices relative tomeasures of wages and other incomes.

An apologist for the debasement poli-cies of the English crown might point tothe need to build up the English navy andfinance other public defenseexpenditures. Critics would answer thatHenry VIII was fond of building palaces.Whatever the driving force of debase-ment, the public gradually lost faith inthe ability of governments to managemoney supplies without oversight fromprivate financial sectors that are affectedby monetary mismanagement. In theUnited States, a quasi public-privateagency, the Federal Reserve System, reg-ulates the money supply, largelyindependent of the executive and legisla-tive branches of government. Studieshave shown that in the 1970s countrieswith independent monetary authoritiesexperienced lower inflation rates thancountries with monetary authoritiesdominated by government authority.

See also: Byzantine Debasement, Dissolutionof Monasteries, Gresham’s Law

ReferencesGlyn Davies. 1994. The History of Money.Gould, J. D. 1970. The Great Debasement.

GREEK MONETARY MAELSTROM: 1914–1928

Between 1914 and 1928, Greece sawannual inflation rates vary from 85 percent

to 11 percent, and monetary experimentsthat rank among the strangest in history.

The seeds of Greece’s monetary dis-order were sown in the middle to late19th century, when the National Bank ofGreece, founded in 1841, graduallyacquired a virtual monopoly on the pre-rogative to issue banknotes and becamethe primary creditor of the governmentof Greece. The bank was founded as aprivate bank whose principle stock-holder was the government, and it domi-nated the monetary affairs of Greece,acting as a central bank until the estab-lishment of a genuine central bank in1928. The bank also made loans to theprivate sector.

Originally, the government conferredon the National Bank the privilege toissue banknotes as long as the bank stoodready to convert its banknotes into gold.The government, however, suspendedconvertibility on four separate occasions:right after the 1848 revolutions, againfrom 1868 to 1870, from 1877 to 1884when the government borrowed heavily,and last from 1885 to 1928.

Inflation reared its head during theprolonged era of suspendedconvertibility, but never reached thefrenzied hyperinflation levels thatcharacterized post–World War IGermany, Austria, Hungary, andPoland. Between 1914 and 1928, thecost of living index rose 868 percent,perhaps reflecting the threat of losingaccess to foreign capital that may havehelped Greece keep a tight rein on itsmonetary affairs. Between 1895 and1910, international financial pressureput Greece on a stricter monetary dis-cipline, requiring the government towithdraw and burn 2 million drachmasin banknotes each year. This pressurecame from imperialistic powers with

190 | Greek Monetary Maelstrom: 1914–1928

vast financial resources, such asBritain, and served some of the samefunctions now performed by the Inter-national Monetary Fund. The Allieslifted these controls during World WarI and even granted credits to Greece,allowing Greece to substantiallyincrease the issuance of banknotes.The credits were never realized, fur-ther adding to the supply of unsecuredbanknotes in circulation.

The government budget of Greecewas clearly in the surplus column at theopening of World War I, but by 1918red ink had shown up in the deficit col-umn. The costs of the war in Asia Minorsent the budget deficit soaring, and by1922, the government was unable toraise additional revenue either from tax-ation or borrowing from traditionalsources.

Under the duress of a deficit-riddenbudget, the government of Greece car-ried out one of the most fantastic pubicfinance schemes in history. On March25, 1922, the government ordered all cit-izens to physically cut in half banknotesin their possession. One half of eachbanknote was to be retained by its ownerand could continue to circulate at half ofits face value. The owner was to surren-der the other half to the government andreceive in exchange a 20-year loan at 6.5percent interest.

The National Bank of Greeceexchanged with the government freshnotes for the canceled halves, making thewhole process a means of raising a loanfor the government. The governmentenacted a similar measure again onJanuary 23, 1926, this time putting three-fourths of the value of the note in thehands of the owner, and the remainingone-fourth the government took inexchange for a 20-year loan at 6.5 percent

interest. Despite, or because of, theseunorthodox financing measures, inflation,after reaching a peak of 85 percent in1923, steadily subsided until the end ofthe decade, even dipping into the negativerange in 1930. The establishment of theBank of Greece, a genuine central bank,began monetary rehabilitation, helpingGreece to experience monetary stabilityduring the decade of the Great Depres-sion.

See also: Bisected Paper Money

ReferenceFreris, A. F. 1986. The Greek Economy in the

Twentieth Century.

GREENBACKS (UNITED STATES)

Greenbacks were the fiat money that theUnited States government issued duringthe Civil War. Fiat money, or inconvert-ible paper money, is money that cannotbe converted or redeemed into a pre-cious metal such as gold or silver. Bythe close of the Civil War, greenbacksand related U.S. government notesaccounted for about 75 percent of themoney in circulation, largely displacingbanknotes of state banks, the principlecurrency in circulation before the CivilWar.

The United States government wasnot the first to issue inconvertible papermoney during the Civil War, but waspreceded by commercial banks. Thesecretary of the treasury of the new Lin-coln administration, Salmon PortlandChase, who came to that office withoutfinancial experience, possessed a naïvefaith in “hard money.” The governmentborrowed heavily from banks to finance

Greenbacks (United States) | 191

the difference between $6 million in taxrevenue and $25 million in expendi-tures. When the government took outbank loans, it demanded payment inspecie, and the specie was not rede-posited in banks, but was removed fromthe banking system. Fears about the ulti-mate success of the war led the public tohoard specie. On December 30, 1860,banks in New York suspended speciepayments on banknotes and deposits,and banks in other parts of the countrysoon followed. The government beganissuing “demand notes” and the countrywas effectively put on an inconvertiblepaper standard.

On December 30, 1860, Congressentertained the first proposal for issuinglegal-tender notes (fiat money) to defraygovernment expenses. Bankers raised ahowl about the government issuing fiat

money and dispatched a delegation toadvise the secretary of the treasury andCongress on ways to finance the war.This delegation urged a program ofheavy taxation and borrowing in long-term capital markets to financegovernment spending as an alternative tothe issuance of fiat money.

Government officials weighed thealternatives: the issuance of legal-tenderfiat money, or an issue of long-termgovernment bonds. Given the poorcredit reputation of the government, thepaper money was bound to depreciate invalue, but bonds would have to pay highinterest rates to attract buyers. The gov-ernment chose the issuance of fiatmoney, and the only remaining questionfor debate was whether Congress wouldclothe the fiat money with the legal sta-tus of legal-tender money.

On February 25, 1862, Congressadopted an act providing for theissuance of notes that were lawfulmoney and legal tender in payment ofall debts public and private. The govern-ment issued $150 million of these notes,$50 million of which went to retiredemand notes the government hadalready issued. The new notes werecalled greenbacks. The legal-tender pro-vision contained two noteworthyexceptions. The government demandedpayment of import duties in gold coin,and the government committed itself topaying in gold coin the interest earnedfrom government bonds.

To dampen inflationary pressures, thegovernment devised means of divertinggreenbacks from the spending stream.The greenbacks could be used to buytreasury bonds paying 6 percent interestredeemable after five years and maturingafter 20 years. Also, the treasuryaccepted deposits of greenbacks, paying

192 | Greenbacks (United States)

Sheet music from an 1863 song entitled“Greenbacks: New Song for the Times.” Thesong lyrics lampooned the greenback currencythat was issued by the federal governmentunder President Abraham Lincoln during theCivil War. (Library of Congress)

5 percent interest, and redeemable with10 days notice. The option of convertinggreenbacks to Treasury bonds wasremoved in subsequent bills that author-ized the issuance of additional green-backs.

Prices more than doubled during theCivil War. In June 1864, Congress set alimit of $450 million on the issuance ofgreenbacks, a limit that was neverexceeded. After the Civil War, variousinterest groups dreaded the deflationthat would likely follow the reductionof the supply of fiat money in circula-tion.

It was 1879 before the federal govern-ment began redeeming greenbacks withspecie, and joined the world’s majortrading partners on a worldwide goldstandard. The greenback experience wasprophetic in light of the 20th century’swidespread adoption of inconvertiblepaper money.

See also: Legal Tender, Pacific Coast GoldStandard

ReferencesBarrett, Don C. 1931. The Greenbacks and

Resumption of Specie Payments:1862–1879.

Nugent, Walter T. K. 1968. Money and Amer-ican Society, 1865–1880.

Ritter, Gretchen. 1997. Gold Bugs andGreenbacks: the Antimonopoly Traditionand the Politics of Finance in America.

GRESHAM’S LAW

Gresham’s law is often stated in a sim-plistic and aphoristic form as “badmoney drives out good money.” It meansin practice that if two coins are in circu-lation, perhaps one silver and one gold,the public always wants to hoard the

coin that has a face value equal to or lessthan the market value of the coin’s pre-cious metal value. In turn, the public willuse coins with a face value greater thantheir market value as precious metal topay off debts and pay for goods and serv-ices. Coins with a face value less thanthe market value as precious metal canalways be melted down and sold for aprofit, causing these coins to disappear.The “bad money,” sometimes called“debased money,” is the money with aface value greater than the market valueof its precious metal content, and itbecomes the medium of circulation. The“good money” is the money whose facevalue is comparable to the market valueof its precious metal content, and holdersof good money are reluctant to give it up.In a country with debased money circu-lating alongside good money, the lattertends to flow into the hands of foreign-ers, domestic hoards, or goldsmiths’melting pots, leaving only bad money incirculation, thus the phrase “bad moneydrives out good money.”

Gresham’s law owes its name to SirThomas Gresham, the foremost financialwizard of the Elizabethan era, who actedas a councilor to Elizabeth I and as theroyal agent in European financial mar-kets. England was on the silver standard,and during the mid-16th century, the sil-ver value of England’s silver coinage haddropped from 75 percent of face value to25 percent. Only three ounces of silverwas in a coin that had a face value equiv-alent to 12 ounces of silver. Elizabeth Iinherited the confusion and monetarydisorder of the debasement policies ofher predecessors, who had practiceddebasement to build up England’s mili-tary defenses. Sir Thomas Gresham for-mulated Gresham’s law to explain thedifficulty of introducing good money in

Gresham’s Law | 193

a monetary environment dominated bybad money, explaining how bad moneywould drive out the good money. Gre-sham explained that the government ranthe risk of coining full-valued moneythat would only end up in the hands offoreigners and the goldsmiths while thebad money remained in circulation. Gre-sham devised a policy based on a quickrecall, revaluation, and recoinage ofdebased money combined with severelegal penalties for melting down orexporting the new coinage.

Although Gresham received the creditfor formulating a law still discussed inmodern economic textbooks, he was notthe first to put the law into words. Aristo-phanes, the great comedic playwright ofancient Greece, writing in 405 BCE,remarked concerning Athens, “In ourRepublic bad citizens are preferred togood, just as bad money circulates whilegood money disappears” (Angell, 1929,98). A French theologian, NicholasOresme (c. 1320–1382) wrote a book, ATreatise on the Origin, Nature, Law, andAlterations of Money, in which heexplained the operation of Gresham’s lawas one of the consequences of debasement.

In the modern world inflation of papermoney has replaced debasement ofcoinage as a means of extracting morerevenue for financially strapped govern-ments. Gresham’s law can sometimes beseen in operation in countries wheredomestic currencies are depreciatingfrom inflation, and United States dollarsare hoarded as a preferred currency.

See also: Great Debasement

ReferencesAngell, Norman. 1929. The Story of Money.Chown, John F. 1994. A History of Money.McCallum, Bennett T. 1989. Monetary Eco-

nomics.

GUERNSEY MARKETHOUSE PAPER MONEY

Guernsey Island, second largest of theChannel Islands, home to the famousGuernsey dairy cows, boasts of one ofthe more interesting paper money exper-iments in monetary history. The parlia-ment of Guernsey Island, called theStates, hit on the scheme of issuingpaper money to pay for the constructionof public facilities, and in turn reclaim-ing the paper money in payment for renton the use of the finished facilities.

In April 1815, the Guernsey Statesappointed a committee to investigate aproposal for enlarging the Guernseymeat market. The committee recom-mended the issuance of 1-pound statenotes, beginning with a 3,000 poundissue. These 1-pound notes were ear-marked to pay the costs of material andwages for construction of the enlargedGuernsey meat market. According to theplan, those who used the building wouldhave to pay rent in these 1-pound notes.As these notes fell into the hands of thegovernment of Guernsey as payment forrent, they would be destroyed, andtherefore canceled. According to thecommittee report:

Thus at the end of ten years, all theNotes would be cancelled and theStates would be in possession of anincome of 150 pounds per annum,which would be a return to the 3,000pounds spent by them. Looked atfrom all sides, the scheme showsnothing but the greatest advantagefor the public and for the States.(Angell, 1929, 267)

In 1820 and 1821, the Guernsey Statesissued over 4,000 pounds in 1-pound

194 | Guernsey Market House Paper Money

notes to pay off its public debt. In 1826,the States authorized another paper issueof 1-pound notes to pay for ElizabethCollege and parochial schools. Thisauthorization set a limit of 20,000pounds on notes in circulation.

In 1827, the States authorized anotherissue of 11,000 pound notes to pay forimprovements to Rue de la Fontaine, astreet adjoining the market. Again therents related to the project would reclaimthe notes, leading to their cancellation.Other note issues were approved.

In 1828, the States appointed theFinance Committee “to replace the usedand worn-out Notes by new Notes,payable at the same time as thedestroyed notes would have been.” In1829, a member of the Finance Commit-tee observed that the volume of notes incirculation had risen to 48,183.

The Guernsey States experimentwith paper money is one of the most

interesting in history. It was a success-ful and productive use of a paper moneyissue that commanded value independ-ent of a gold standard. It never climaxedin an inflationary finale that seemed tobe the outcome of a merciless logicinherent in all the early issues of papermoney. One important characteristicthat distinguished the Guernsey papermoney experiment from other earlyexperiments was this: Unlike earlierpaper money, often inspired by wartimeexpenditures, the Guernsey papermoney issue went to pay for the pro-duction of durable, income-earningwealth. Therefore the nongold wealth ofthe community kept pace with thegrowth in paper money even though theamount of gold in the community mayhave declined.

ReferenceAngell, Norman. 1929. The Story of Money.

Guernsey Market House Paper Money | 195

197

H

HIGH-POWERED MONEY

High-powered money is sometimes calledthe “monetary base.” It includes all cash,even vault cash at commercial banks, andcommercial bank deposits at FederalReserve Banks, which are redeemable incash. These assets are called “reserves”because commercial banks hold them tohonor checking account withdrawals duringtimes when withdrawals exceed newdeposits. New loans are also made out ofreserves in the sense that a bank with noreserves would have no funds to loan out.The term “high-powered” is a reference tothe fact that a $1 increase in the volume ofhigh-powered money will cause the mostnarrowly defined measure of the moneystock to increase by about $2.50.

High-powered money is importantbecause it represents net wealth to the pri-vate sector. In contrast, checking accountmoney, called demand deposits, representsan asset to the owner of the checkingaccount, but represents a liability from theperspective of the bank, which owes thatmoney to a customer on demand. The

liability cancels out the asset, leaving a neteffect of zero on the net wealth of the privatesector. Commercial bank deposits at acentral bank represent a liability to the centralbank. However, a central bank is a governmentor quasi-government agency that is not con-sidered part of the private sector.

The narrowest definition of the moneystock, called M1, includes checkabledeposits and circulating currency, but notvault cash at commercial banks. BecauseM1 includes checking deposits andexcludes vault cash, it is possible for thesupply of high-powered money to changewithout a change in a money stock meas-ure such as M1. Normally, a 1 percentincrease in the supply of high-poweredmoney will lead to a 1 percent increase inM1, the most narrowly defined measureof the money supply in the United States.

The concept of high-powered money isimportant because central banks directlycontrol high-powered money and exert onlyindirect control over measures of themoney supply, which are influenced by thewillingness of commercial banks to makeloans out of reserves.

See also: Bank, Central Bank, Legal ReserveRatio, Monetary Aggregates, MonetaryMultiplier

ReferencesBaye, Michael R., and Dennis W. Janise.

1995. Money, Banking, and FinancialMarkets: An Economic Approach.

McCallum, Bennett T. 1989. Monetary Eco-nomics: Theory and Practice.

HOT MONEY

The term “hot money” in an economic orfinancial context refers to money thatquickly shifts between financial markets insearch of the highest short-term interestrate or rate of return. “Hot moneyinvestors” are investors who jump into andout of short-term investments, sometimesdriven to act in mass by a seemingly herdmentality. The term does crop up in criminalinvestigations where it refers to markedbills or new currency with consecutiveserial numbers. Such currency bears thename “hot money” because it can be easilyidentified and linked to a specific crime.

In today’s world of globalization andfinancial liberalization, the term “hotmoney” in the popular media usuallyrefers to the use of the term in an eco-nomic or financial context. Even fromthe economic and financial perspective,“hot money” can carry different shadesof meaning. Banks often think ofdeposits from foreign and institutionalinvestors as being hot money becausethese deposits are large and may be sud-denly and unexpectedly withdrawn.Questions about a bank’s solvency orhigher interest rates in other places cancause a mass exodus of these deposits.To a buffer against the volatility of hotmoney, banks may cultivate a large baseof consumer and household deposits.

As trading strategies of investors andspeculators have grown in complexity,the influence of hot money has been feltin markets normally outside the sphereof risky speculation. In 2006, observersexpressed concern about the influx of hotmoney in to the U.S. municipal bondmarket, one of the drabber and quieterfinancial markets (Pollock, 2006). Usu-ally investors in these bonds are U.S.investors because the interest rate paidby these bonds, although lower that theinterest rate paid on other bonds, isexempt from federal taxation. Foreigninvestors began investing in these bondsafter they found a way to place leveragedbets on a divergence between the pricesof municipal bonds and non–tax-exemptbonds. Some investors feared that than amass exodus of foreign investors wouldcause the market for these bonds toplummet.

In 2005, some analysts and investorssaw hot money behind a large run up ofoil prices and the greater volatility in oilprices (Sesit and Reilly, 2005). Theyblamed hedge funds making use of largecomputer programs, organizations thatunlike airlines and utilities had no directneed to purchase oil.

Hot money is often cited as a disrup-tive factor in international capital flows,allowing sudden shifts that can spark con-tagious financial crises. In 2008, Chineseofficials expressed concern about theexcess inflow of hot money (McMahon,2008). Foreign investors depositingmoney in China gained in two fronts.First, Chinese interest rates stood nearlytwice U.S. levels. Secondly, between Jan-uary and May of 2008, Chinese currencygained in value 4.2 percent relative to theU.S. dollar. Observers had credited hotmoney for drastic fluctuations in China’sbooming stock market and real estate

198 | Hot Money

market. Unlike many countries, Chinahas strict controls on foreign capitalmovements that should restrain inflowsand outflows of hot money, but foreigninvestors have found ways to get aroundthe controls. One way of getting aroundthe controls involves inflating receipts oflegitimate trade and investment transac-tions. Chinese officials have no way ofknowing exactly how much hot moneyhas entered China. China’s case is inter-esting in that it shows that controllingmovements of hot money can be difficult.

See also: Capital Flight

ReferencesKarmin, Craig. “Can Asia Control the ‘Hot

Money’?; Even Some Investors EndorseCash Controls to Fight Speculators.” WallStreet Journal (Eastern Edition, New York)April 5, 2007, p. C1.

McMahon, Denis. “World News: ChinaVows to Crimp ‘Hot Money’ Flows.” WallStreet Journal (Eastern Edition, New York)March 10, 2008, p. A6.

Pollock, Michael. “Welcome to a ChangedMuni World; Foreigners, Hedge FundsAre Among the Newcomers; One ‘HotMoney’ Scenario.” Wall Street Journal(Eastern Edition, New York) April 4,2006, p. C13.

Sesit, Michael R., and David Reilly. “GoingGlobal: ‘Hot Money’ Helps Drive OilVolatility.” Wall Street Journal (EasternEdition, New York) July 14, 2005, p. C1.

HOUSE OF ST. GEORGE

The House of St. George was a Genoesepublic bank, one of the first organized. Itis regarded as a direct ancestor of themodern central banks, acting both as astate treasury and a private bank. Duringthe 16th and 17th centuries, the bankingindustry would briefly lift Genoa to the

leadership of the capitalist world, withGenoese merchant bankers conductingbusiness throughout Europe, makingloans and transferring funds.

In a war with Venice during the 14thcentury, the city of Genoa had raisedmoney from citizens in return for prom-issory notes. At the end of the war,Genoa pledged the customs dues from itsport to redeem the notes. In 1407, thecreditors organized themselves into abank, the Casa di San Georgio, or Houseof St. George, appointed eight directorsto watch after their investments, col-lected taxes, and made loans to the state.The bank’s Renaissance palace can stillbe seen in the Piazza Caricmento.

The House of St. George was whatAdam Smith called a “bank of deposit.”Coins from all parts of the world weredeposited with the bank. The ownershipof the deposits, called “bank money,”changed hands by book-keeping entries atthe bank in the presence of a notary, sim-ilar to the Bank of Amsterdam or Bank ofHamburg. Shares of stock in the bankalso acted as a medium of exchange andchanged hands through book-keepingentries. The Genoese government paidinterest on the public debt in three-yearinstallments, and accounts of accruedinterest that were payable also exchangedownership in the capacity of money.

The House of St. George is creditedwith being the first bank to issue ban-knotes, not in specific denominationssuch as 100 or 1,000, but on an individualbasis for large deposits. Each note waswritten out in hand, and the ownershipcould be passed on by endorsement.These handwritten notes could representeither a deposit of gold or silver, or sharesof stock in the bank.

Genoa’s control of European financeswas brief. Repeated bankruptcies of the

House of St. George | 199

Spanish crown may have scared theGenoese bankers, or perhaps the Dutchand English demanded more involve-ment in the shipment and distribution ofthe precious metals from the New World.By 1647, Dutch ships carried Spanishsilver directly to the Low Countries.

See also: Bank of Deposit, Bank of Venice,Bills of Exchange

ReferencesColwell, Stephen. 1965. The Ways and

Means of Payment.Homer, Sidney. 1977. A History of Interest

Rates, 2nd ed.

HYPERINFLATIONDURING THE AMERICAN

REVOLUTION

On June 22, 1775, the First ContinentalCongress, struggling to finance the Rev-olutionary War effort without power totax or borrow, authorized the issuance of$2 million in bills of credit. These billsof credit, soon to be known as “conti-nentals,” were issued with the under-standing that individual states wouldredeem them according to an apportion-ment based on population. The Congresshad considered, but rejected, anotheroption that would have assessed to eachstate a sum of money to be raised by theissuance of state notes on the authorityof each state government.

Congress issued an additional $4 millionin continentals before the year was out.These were scheduled for redemptionbetween the years 1779 and 1986, and,contrary to a suggestion from BenjaminFranklin, paid no interest. The plan foreach continental to bear the signature oftwo members of Congress fell by the

wayside, and Congress hired 28 individ-uals to sign the bills. Congress continuedto run the presses, authorizing theissuance of $241,552,780 in bills ofcredit before voting to limit circulation to$200 million in bills of credit toward theend of 1779. After 1779, Congressceased the issuance of continentals.

Congress issued the continentalsbecause the states did not want to levytaxes to finance a war that was partiallysparked by anger over English taxationof the colonies. Desiring to tread lightlyon taxes, the individual state govern-ments issued $210 million of their ownnotes between 1775 and 1780, furtherfanning the flames of inflation.

Although the states shied away fromlevying taxes to redeem continentals,they complied with the request fromCongress to declare continentals legaltender. To reinforce the state action,Congress passed resolutions to shamepeople into accepting continentals inpayment for goods. After hearing of oneinstance of an individual refusing toaccept continentals, Congress resolved(November 23, 1775): “That if any personshall hereafter be so lost to all virtue andregard for his country as to refuse. . . ,such person shall be deemed an enemyof his country.” Until the end of 1776,price inflation remained relatively tame,but then inflation began to gathermomentum, becoming runaway in 1779when the ratio of continentals to speciein face value increased from 8:1 to 38:1.

In December 1776, the New Englandstates held a price convention in Provi-dence, Rhode Island, that called for lesspaper money and more taxation, and thatdeveloped a recommended set of pricesfor farm labor, wheat, corn, rum, andwool. The New England states enactedthese price recommendations into law,

200 | Hyperinflation during the American Revolution

and Congress urged other states to do thesame. Congress also gave its blessing forstates to assume the authority to confis-cate hoarded goods. Citizens held massmeetings denouncing price increases,and irate women raided shops thatreportedly were hoarding goods. Mer-chants had to defend themselves in court.Philadelphia protesters hanged in effigya specie dollar to protest dealers refusingto accept paper money.

In 1778, a second price convention setforth a list of recommended prices, andCongress seemed ready to legislate, callingfor a price convention in 1780. Congressalso asked the states to formulate pricerecommendations on the assumption that

prices were 20 times higher than theywere in 1774. Congress gave up on theidea of fixing prices, however, and inMarch 1780, Congress asked the states toremove punitive legislation against thoserefusing to accept continentals.

After 1779, the depreciation of continen-tals continued, the face value ratio of conti-nentals to specie raising to 100 to 1 byJanuary 1781. The ratio of 100 to 1 becamethe official ratio at which Congress convertedcontinentals into interest-bearing, long-termbonds under the funding act of 1790.

The experience of the continentalsbecame a lesson in the evolution of papermoney—a lesson that had to berelearned many times. The issuance of

Hyperinflation during the American Revolution | 201

The American colonies began circulating their own currencies prior to independence. States issuedtheir own currency, with Continental dollars coming a few months later. The issuances wereinitially unregulated, which caused a loss of market value and extreme inflation. Following thewar, Secretary of the Treasury, Alexander Hamilton, was charged with establishing a national bankto standardize and control the currency system. (Library of Congress)

inconvertible paper money became theaccepted practice worldwide as govern-ments learned to maintain its value byrestricting its supply.

See also: Hyperinflation in the ConfederateStates of America, Hyperinflation during theFrench Revolution, Hyperinflation inPost–World War I Germany, InconvertiblePaper Standard, Hyperinflation during theBolshevik Revolution

ReferencesBezanson, Anne. 1951. Prices and inflation during

the American Revolution, Pennsylvania,1770–1790.

Hepburn, A. Barton. 1967. A History of Currencyin the United States.

Myers, Margaret G. 1970. A Financial Historyof the United States.

Paarlberg, Don. 1993. An Analysis and Historyof Inflation.

Stabile, Donald R. 1998. The Origins ofAmerican Public Finance: Debates overMoney, Debt, and Taxes in the Constitu-tional Era, 1776–1836.

HYPERINFLATIONDURING THE BOLSHEVIK

REVOLUTION

In the aftermath of the Bolshevik seizureof power (1917), Russia experienced about of hyperinflation comparable to thehyperinflation of the French Revolution,sending prices to levels more than 600million times higher than 1913 levels.

The imperial Russian Governmentresorted to inflationary finance to sustainitself through World War I. On the eve ofWorld War I, Russia boasted of the largestgold reserves in Europe, which backed 98percent of the Russian banknotes in cir-culation. The treasury held large goldreserves to back paper rubles. Tax revenuefrom taxes levied on the manufacture and

sale of alcohol, one-fourth of the trea-sury’s revenue, fell because of a newlyenacted law against alcohol consumption.Tariff revenue also dropped significantlywith the onset of war. Instead of directtaxes and internal war bond financing, thegovernment turned almost exclusively topaper money and foreign loans to financethe war.

On July 27, 1914, the governmentsuspended specie payments on paperrubles. The gold reserve requirement forthe issuance of banknotes also came toan end. The government doubled thesupply of paper money at the beginningof the war when it issued an additional1.5 billion rubles. The issuance of papermoney continued until the supply hadincreased fourfold by January 1917. Theissuance of paper money increased 100percent in France and 200 percent inGermany over the same time frame.

This wartime finance led to monstrousprice increases, and set a precedent thatthe Bolsheviks would continue to accel-erate the revolution. Inflation forcesremained dormant through the first halfof 1915 because the war blocked exports,which increased domestic supplies.Toward the end of 1915 inflation began toaccelerate rapidly, and by the end of 1916prices were four times higher than their1913 levels. From 1913 to October 1916,the price of wheat flour rose 269 percent,buckwheat by 320 percent, salt by 500percent, meat by 230 percent, and shoesand clothes by 400 to 500 percent. Thecost of living grew two or three timesfaster than wages, and food and fuelshortages were common in urban areas.Workers formed cooperatives to purchasefood and other necessities at lowerprices. The government helped maintainorder by threatening to induct into thearmy anyone who caused trouble.

202 | Hyperinflation during the Bolshevik Revolution

Worker discontent became the politi-cal base that drove the revolution. Longlines of people waited to buy bread, andby the time workers were off work theshops no longer had bread on theshelves. The anger of the workersmounted as food and fuel became scarce,and strikes erupted in Petrograd, thelargest industrial center.

In 1917, the revolution began inearnest. Nicholas I abdicated in March1917, followed by the Bolsheviks’ seizureof power in October 1917. Throughout1917, prices rose more rapidly, topping7.55 times their 1913 level by October1917. The supply of rubles in circulationrose to 19.6 billion, compared to 2.4 billionin the first half of 1914. After the Octobercoup, the tax system fell apart and the newgovernment counted on the printingpresses to finance government spending.In 1918, notes were printed in denomina-tions up to 10,000 rubles. By October 1918,prices had grown to 102 times their 1913level, and to 923 times in October 1919.

In May 1919, the government com-pletely unleashed the supply of papermoney. The only restriction on printingof fresh paper money was the supply ofink and paper. The government used goldholdings to buy printing supplies abroad.Nearly 50 percent of the treasury’sbudget went for the cost of printing papermoney. In 1919, the supply of papermoney in circulation grew to 225 billion.In 1920, it reached 1.2 trillion and dou-bled again in the first half of 1921. In1921, notes were issued with face valuesup to 100,000 rubles. By 1923, priceswere 648,230,000 times their 1913 level.

In 1922, a new ruble was introducedthat was equal to 10,000 of the old rubles.This currency reform did not halt infla-tion, and in 1923, a newer ruble was intro-duced that equaled 1,000,000 of the 1922

rubles. Also, the government introduced aparallel currency called the chervonetzthat was linked to gold. This currencyremained in circulation until 1928.

Revolutions are often attended withepisodes of hyperinflation. The FrenchRevolution, the American Revolution,the Bolshevik Revolution, and the Com-munist Revolution of China wereattended with episodes of hyperinflation.

See also: Hyperinflation during the AmericanRevolution, Hyperinflation during theFrench Revolution, Hyperinflation inPost–World War I Germany, Inflation andDeflation

ReferencesPaarlberg, Don. 1993. An Analysis and History

of Inflation.Pipes, Richard. 1991. The Russian Revolution.Hasegawa, Tsuyoshi. 1981. The February

Revolution: Petrograd, 1917.

HYPERINFLATIONDURING THE FRENCH

REVOLUTION

The famous English economist JohnMaynard Keynes, commenting on anobservation of Lenin, wrote:

Lenin is said to have declared thatthe best way to destroy the Capi-talist System was to debauch thecurrency. . . . Lenin was certainlyright. There is no subtler, no surermeans of overturning the existingbasis of society than to debauch thecurrency. The process engages allthe hidden forces of economic lawon the side of destruction. And doesit in a manner which no one man ina million is able to diagnose.(Keynes, 1920, 236)

Hyperinflation during the French Revolution | 203

No doubt Lenin and Keynes werefamiliar with the role of inflation duringthe French Revolution.

In October 1789, the French NationalAssembly found itself in a desperate sit-uation. Tax revenue fell far short ofexpenses, and the government survivedday by day with advances from the Bankof Discount, a bank that largely loanedfunds to the government. The bankdeclared itself out of funds, and theAssembly needed resources to completethe revolution. The Assembly met thefinancial crises with two important andinterrelated measures. It confiscatedchurch lands, and it created an “extraor-dinary treasury” charged with raising400 million livres by selling assignats,which were certificates of indebtednessbearing 5 percent interest. The govern-ment announced its intention to sell thechurch property and take assignats inpayment. The church property in effectserved as collateral for the assignats.

The assignats met with less than ahearty reception, because it was not clearwhich lands would be sold to creditors.In August 1790, the Assembly turnedassignats into banknotes and added anextra 800 million livres to the issue. Thedecree specified that the total number ofassignats in circulation should neverexceed 1,200 million livres. The newassignats bore no interest and could beacquired by anyone, whereas the firstissue was available only to creditors ofthe government. Instead of just liquidat-ing the national debt, the governmenttook to issuing assignats to pay fordeficit spending.

By mid-1792, the inflation horse wasdefinitely out of the barn; prices rose 33to 50 percent while wages lagged farbehind. In January 1793, a mob stormedstores in Paris, and in February, a

scarcity of soap sparked further riots.Mobs also obstructed grain shipments.In 1794, the government implemented asystem of price controls known as theLaw of the Maximum. People whorefused to accept assignats in payment oraccepted them (or paid them) at a loss,could be fined 3,000 livres and impris-oned six months for the first offense. Thefine and imprisonment could be doubledfor the second offense. Speculation inspecie and assignats could bring sixyears’ imprisonment, and forestallingwas punishable by death. A forestallerwas a person who withheld necessarycommodities from circulation. Neverthe-less, farmers and manufactures hoardedgoods, and the specter of famine rose upfor the spring. In December 1794, thegovernment abandoned price controls,prices soared, and assignats fell to lessthan 3 percent of their face value.

The Convention, the governing bodyat that stage of the revolution, acknowl-edged the fall of the assignats in June1795. The nominal value of each succes-sive issue was reduced according to ascale of proportions. In July of the sameyear, the Convention ordered in-kindpayments for half of the land tax andrents. Peasants stopped bringing produceto market to avoid accepting assignats.Speculation became rampant, whileinflation ruined creditors and savers. Asprices outpaced wages and workers suf-fered, speculative profits created a newclass of ostentatious rich who stood instark contrast to the destitution of thelower classes. Inflation reached its peakas the Directory took power. Each daysaw prices rise hourly, and each nightpaper money came off the press forissuance the following day. Paper moneyissues doubled in four months, for a totalof 39 billion livres in assignats.

204 | Hyperinflation during the French Revolution

In February 1796, the Directory discon-tinued the assignats. It tried an issue of landwarrants, which were good for the purchaseof national property at an estimated pricewithout competitive bidding. The salewould be to the first taker. The public hadlost faith in paper money, however, and inJuly 1796, the government decided toreturn to specie. Inflation continued to ravagethe economy until the advent of Napoleonin 1799. Apparently, his wars brought inmore than they cost, and his governmentimproved the efficiency of taxation, endingthe government’s need to promiscuouslyprint paper money.

Since the experience of the FrenchRevolution, hyperinflation has been asso-ciated with revolutionary change. Itplayed a role in the rise of Hitler to powerin Germany, the Communist Revolutionin China, and the Bolshevik Revolutionin Russia. The American Revolution alsohad a hyperinflationary episode.

See also: Hyperinflation during the AmericanRevolution, Hyperinflation in Post–World WarI Germany, Inflation and Deflation, Hyperin-flation during the Bolshevik Revolution

ReferencesHarris, S. 1930. The Assignats.Keynes, John Maynard. 1920. The Economic

Consequences of Peace.Lefebvre, Georges. 1964. The French Revolution.Paarlberg, Don. 1993. An Analysis and History

of Inflation.Thiers, M. A. 1844. The History of the

French Revolution.

HYPERINFLATION INARGENTINA

Between 1988 and 1991, Argentina sawthe climax of more than a half century ofinflation, sending runaway annual inflationrates into four-digit territory.

Unlike Chile, Argentina was nostranger to paper money in the early 19thcentury. In 1822, the Bank of BuenosAires issued banknotes that traded at apremium, but war with Brazil in 1826led to the suspension of convertibility ofthese notes into gold. The notes depreci-ated significantly before resumption ofconvertibility in 1867. Convertibilitywas suspended again in 1876, andArgentina’s peso depreciated by morethan 50 percent.

In 1899, Argentina adopted the goldstandard and began an era of price stabilitythat, aside from the interruption of WorldWar I, lasted until Argentina and theworld abandoned the gold standard earlyin the depression of the 1930s.Argentina’s wholesale price index(based on 1943 prices equaling 100)stood at 31.6 in 1907, rose to 38.3 in1914, and climbed steadily—reaching68.0 in 1920. Then Argentina saw pricesdecline steadily until reaching a troughof 42.1 in 1933.

From 1934 until 1990, prices roseand inflation fluctuated with a long-termupward trend. Inflation averaged over50 percent between in 1940 and 1950,and then subsided to an average slightlyover 23 percent between 1961 and1965. Inflation began to creep upwardsand really took off in the early 1970s,averaging nearly 109 percent between1973 and 1976. Inflation finished thedecade of the 1970s in the 170 percentrange, and approached 400 percent inthe mid 1980s. By 1989, the annualinflation rate exceeded 3,000 percent.Inflation exceeded 2,000 percent in1990 and declined to 84 percent 1991.By the mid-1990s Argentina had tamedinflation to well within the single-digitrange and had become a model of mon-etary stability.

Hyperinflation in Argentina | 205

The root cause of the inflation originatedin isolationist foreign trade policies, politicalinstability alternating between militarydictatorships and civilian governments,interventionist domestic economic poli-cies emphasizing subsidies, and the failureof the tax system to fund public expendi-tures. The unfortunate episode of theFalklands war in 1982 may have helpedput Argentina on the road to bankruptcyand collapse. Between 1980 and 1990,real wages fell 20 to 30 percent. Between1973 and 1990, per capita income fell26 percent. Tax revenue as a percentageof the gross national product (GNP, ameasure of total national output andincome, comparable to the gross domesticproduct in use today) fell in the 1980s,and the public debt surpassed 100 percentof GNP. Printing money became a substi-tute for taxation.

Dissatisfaction with economic chaoshelped bring a democratic revival in

Argentina, and early in the 1990s, a dem-ocratic government brought inflationunder control, a feat that had eluded militarygovernments. Worldwide inflation in the1970s had led some observers to doubt theability of democratic governments to faceup to the disease of inflation.

In March 1991, the Argentine legisla-ture enacted the Law of Convertibility,creating a new Argentine peso convertibleinto one U.S. dollar. The new monetarybase was backed by 100 percent ofreserves in gold, dollars, or other foreigncurrencies. United States dollars werealso accepted as a currency for domestictransactions. The value of the peso waspegged at 1 dollar, and the central bankmaintained convertibility between pesosand dollars. This currency reform notonly broke the back of inflation, butmade Argentina’s monetary system amodel for other developing countries.Monetary reform coincided with a capitalist

206 | Hyperinflation in Argentina

Money is printed in Argentina in 1989, fueling inflation. (Diego Goldberg/Sygma/Corbis)

revolution in Argentina, emphasizingprivatization, less government interven-tion, and openness to foreign trade.

Between 1995 and 2001, Argentineinflation remained below the 4 percentrange. In 2002, Argentine inflationjumped to 25.9 percent. By 2007, it hadsettled down to single-digit ranges,between 8 and 9 percent (InternationalMonetary Fund, 2003, 2008).

See also: Hyperinflation in Bolivia, Hyperinfla-tion in Brazil, Chilean Inflation, Hyperinfla-tion during the French Revolution,Hyperinflation in Post–World War I Ger-many, Inflation and Deflation

ReferencesDe la Balze, Felipe A. M. 1995. Remaking

the Argentine Economy.International Monetary Fund, World Eco-

nomic Outlook, April 2003 and April 2008.Meiselman, David. 1970. Varieties of Monetary

Experience.

HYPERINFLATION IN AUSTRIA

After the close of World War I, Austria,one of the states that emerged from thedivision of the Austro-Hungarian Empire,experienced an episode of soaring hyper-inflation, registering an annual inflationrate of 10,000 percent between January1921 and August 1922. A legacy of foodshortages and high unemployment afterWorld War I helped send Austria on amonetary path of economic insanity. Thecreation of new states, coupled with thescarcities of war, disrupted traditionalflows of trade, and Austria, a loser in thestruggle, owed war reparations.

The government of Austria met thecrisis by incurring large expenditures onfood relief and unemployment relief.

From 1919 until 1922, the Austrian gov-ernment collected less than 50 percent ofpublic expenditures in taxes and financedthe remainder selling treasury bills to theAustrian section of the Austro-HungarianBank, which paid for the treasury billswith fresh banknotes, denominated inAustrian crowns. From March 1919 untilAugust 1922, the Austro-HungarianBank multiplied Austrian banknote cir-culation by a factor of 288, increasing thesupply of banknotes in circulation fromthe equivalent of $4.7 million to over$1.3 billion. Aside from public borrowing,the bank continued to make private sectorloans at favorable interest rates.

As inflation mounted, Austriansbegan a “flight from the crown.” Theyspent the banknotes sooner after receiv-ing them and Austrian crowns held as aform of wealth were spent. Austrians putwealth in foreign exchange or real assets,minimizing holdings of Austrian cur-rency. Contemporary economists mightdescribe the flight from the crown as anincrease in the velocity of money, meaningmoney is spent more frequently ongoods and services. The governmentinstituted exchange controls in a ratherineffective effort to stop Austrians fromconverting Austrian crowns to foreignexchange. The value of Austrian crownsin the New York foreign exchange marketdropped sharply. In January 1919, oneU.S. dollar bought 17.09 Austriancrowns, and in August 1922 one U.S.dollar bought 77,300 Austrian crowns.

The flight from the crown causedprices to rise faster than the money supplygrowth rate. Between January 1921 andAugust 1922, retail prices rose by a factorof 110, whereas banknote circulationrose by a factor of only 39.

The depreciation of the crown in foreignexchange markets stopped abruptly in

Hyperinflation in Austria | 207

208 | Hyperinflation in Belarus

August 1922, and the upward spiral inretail prices ended the following month.The League of Nations arranged for theAustrian government to receive a loan of650 million crowns. In return, the Austriangovernment had to end deficit spendingand establish a central bank independentof the government. The mere spread ofknowledge of the agreement was suffi-cient to stabilize retail prices and thecrown in foreign exchange markets.

The central bank of Austria continued torapidly infuse banknotes into the Austrianeconomy, but inflation subsided, appearingto defy the laws of economics. Thesebanknotes, however, were backed withgold, foreign assets, or commercialpaper, rather than government securities.The change in the composition of theassets of the central bank accounted forthe end of the monetary disorder.

At the end of 1924, long after theinflation subsided, Austria issued a newunit of currency, the shilling, worth10,000 crowns.

See also: Hyperinflation in Post–World War IGermany, Hyperinflation in Post–WorldWar I Hungary, Hyperinflation inPost–World War I Poland

ReferencesSargent, Thomas J. 1993. Rational Expecta-

tions, and Inflation, 2nd ed.Wicker, E. “Terminating Hyperinflation in

the Dismembered Hapsburg Monarchy.”American Economic Review, vol. 76, no. 3(1986): 350–364.

HYPERINFLATION INBELARUS

After becoming independent from theSoviet Union on August 25, 1991, theRepublic of Belarus entered into an economic

phase of declining output and hyperinfla-tion. As a transition economy, Belarusfaced the task of undertaking the neces-sary reforms to transform its economyfrom central planning to one based onmarket mechanisms. Runaway inflationafflicted all the new transition countriescreated after the dissolution of the SovietUnion, but in most cases, inflation sub-sided to single-digit territory by 1997.

Belarus is unique in that the problem ofmoderate to hyperinflation lasted for nearlya decade. Between 1992 and 2001, inflationnever dropped below the 50 percent range.Belarus may have owed the stubborn per-sistence of inflation to its greater reluctanceto embrace market reforms. According tothe International Monetary Fund’s WorldEconomic Outlook Database for May 2001,the trajectory of Belarus’s inflationunfolded as follows: In 1993, Belarusposted an average annual inflation rate of1,190 percent and in 1994 an averageannual inflation rate of 2,434.11 percent.By 1995, the worst of the hyperinflationwas over, with inflation subsiding to the700 percent range. In 1996, Belarusappeared well on the road to price stabilitywith annual inflation numbers in the 50 percentrange. After 1996, annual inflation startedclimbing again until it reached an annualrate of 293.7 percent in 1999. After 1999,the government, by substantial monetarytightening, again showed progress in cor-ralling inflation. By 2001, average annualinflation stood in the 75 percent range.

Under the Soviet Union, Belarusboasted of one of the more industrializedareas, including a strong concentrationof defense industries. It imported rawmaterials from and exported manufac-tured goods to other areas in the SovietUnion. At independence, it inherited apattern of trade that largely reflected itsrole in the Soviet economy. Russia

remained its main trading partner in itspost-independence phase. After the elec-tion of Aleksandr Lukashenko to thepresidency on July 20, 1994, the pace ofeconomic reform became highly uneven.He launched the country on a path of“market socialism” which reimposedsome administrative controls over pricesand exchange rates. The governmentended subsidies on staples, such asbread, milk, beef, housing, and utilities,but imposed ceilings on producers’ profitmargins to soften the blow to consumers.Even so, milk prices soared 20 fold andbeef prices tripled.

The slow progress in containing infla-tion may have reflected some confusionover the cause of the inflation. For asmall, open economy highly dependenton imported raw materials, it is possibleto make the case that inflation isimported from abroad in the form ofhigher commodity prices. Also, Belarussaw real wages increase between 1996and 1999 because of indexation and dis-cretionary wage adjustments (Bogeticand Mladenovic, 2006). Some observersfelt increases in real wage bore some ofthe blame.

Economists emphasize the role of themoney supply in situations of hyperinfla-tion. Between 1996 and 1999, the localcurrency money stock in Belarus grew atan average annual rate of 124 percent.(Bogetic and Mladenovic, 2006). A maingoal of Belarusian monetary policy dur-ing this period was to provide cheapcredit to state enterprises and privilegedsectors such as agriculture. In addition,central bank credit to the governmentexpanded at an annual rate of 65 percentin 1996, 289 percent in 1998, and 200percent in 1999 (Bogetic and Mladen-ovic, 2006). Inflation in Belarus mainlymirrored excessive monetary growth.

Other factors such as rising import pricesand real wages may have encouraged themonetary growth.

See also: Hyperinflation in Post-Soviet Russia

ReferencesBogetic, Zeljko, and Zorica Mladenovic.

“Inflation and the Monetary TransmissionMechanism in Belarus, 1996–2001.”International Research Journal of Financeand Economics, no. 1 (2006): 1–20.

International Monetary Fund. World Eco-nomic Outlook, May 2001.

HYPERINFLATION INBOLIVIA

During the 1980s, Bolivia experienced anepisode of hyperinflation that reachedannual rates of 24,000 percent during thepeak years of 1984 and 1985. Cups of coffeesold for 12 million pesos. A 1-million-pesonote that was equivalent to $5,000 in 1982was worth only 55 cents by 1985. Duringthe period of raging hyperinflation, the Boli-vian peso depreciated 40,000 percent, some-times losing 1 to 2 percent per hour.

Paper pesos were counted in bundlesof identical bills, and sometimes pesoswere measured by the height of stacks ofbills. In some cases, paper pesos wereweighed. A university professor receivedpay in a stack of bills about 19 inches inlength. A secretary received a stack ofbills from 9 to 10 inches in length.

Despite the shortcuts in countingmoney, an airline desk clerk wouldspend 30 minutes counting the 85 millionpesos charged for an airline ticket.Small-denomination bills became nearlyworthless and were often seen blowingin the wind, piling up in muddy clumpsalongside sewage ditches and in busheson vacant lots.

Hyperinflation in Bolivia | 209

The Bolivian government had to relyon foreign countries to print its paperpesos on the scale needed to satisfy thehunger of a hyperinflationary economy.Paper pesos measured in thousands oftons were flown in from Germany,Brazil, and Argentina, arriving at the LaPaz airport on pallets.

Checking account and credit cardtransactions lost favor, because the clear-ance process took up valuable time asthe inflation clock ticked away. Bankshad no money to finance mortgages forhouseholds and businesses, which paidfor construction on a pay-as-you-buildbasis.

The United States dollar became thede facto, unofficial standard of value inBolivia during the hyperinflation.Bolivia’s bustling cocaine trade with theUnited States supplied the Bolivianeconomy with dollars that fed a blackmarket in currency. Currency traderswalked the streets, offering to buy andsell dollars and pesos. Consumers cameto town with dollars, traded the dollarsfor pesos before entering a store, thenmade their purchases with the pesos. Theshopkeeper owner hardly received thepesos before going out on the street andconverting the pesos back into dollars.Legally, transactions had to be con-ducted in pesos, but no one kept pesoslonger than necessary. According to anarticle in the Wall Street Journal describ-ing the Bolivian hyperinflation,

Civil servants won’t hand out aform without a bribe. Lawyers,accountants, hairdressers, evenprostitutes have almost given upworking to become money-changersin the streets. . . . “We don’t pro-duce anything. We are all currencyspeculators,” a heavy equipment

dealer in La Paz says. “Peopledon’t know what’s good and badanymore. We have become animmoral society.” (Wall StreetJournal, 1985, 1)

The blame for the Bolivian inflation hasto be put at the feet of government finance.Tax revenues covered only 15 percent ofthe Bolivian government’s expenditures,and the government’s budget deficitequaled 25 percent of the country’s annualoutput. As late as 1990, the annual infla-tion rate was still 7,000 percent, wellbelow the levels of the mid-1980s, but stillhigh. In the 1990s, the inflation rate beganto subside substantially as the governmentreduced deficit spending. In 2002 Boliviaposted an inflation rate below one percent.In 2007, Bolivia reported inflation of11.3 percent, the first time Bolivian infla-tion had risen above ten percent since 1996(International Monetary Fund, 2003, 2008).

See also: Hyperinflation in Argentina, Hyperin-flation in Brazil, Chilean Inflation, Hyperin-flation in Post–World War I Germany,Inflation and Deflation

ReferencesInternational Monetary Fund, World Eco-

nomic Outlook, April 2003 and April2008.

Wall Street Journal. “Precarious Peso—Amid Wild Inflation, Bolivians Concen-trate on Swapping Currency.” August 13,1985, p. 1.

Weatherford, Jack. 1997. The History of Money.

HYPERINFLATION IN BRAZIL

Between 1989 and 1994, Brazil sawinflation soar into hyperinflation dimen-sions, registering annual inflation ratesfrom 1,600 to 2,500 percent.

210 | Hyperinflation in Brazil

Brazil can boast of a long history withinconvertible paper money. Notes of theBank of Brazil appeared no later than1808, and copper displaced gold and silveras the only metallic currency in circula-tion. In 1833, the government took overthe issuance of paper notes, and in 1835these notes were made legal tender. Thecurrency system was reformed severaltimes, but periods of monetary disorderbecame part of economic life in Brazil,although they never reached hyperinfla-tion proportions until 1989.

Brazil shared an inflationary trendwith the rest of the world during thepost–World War II era, but with greaterintensity. Between 1948 and 1965, theinflation rate in Brazil averaged 2 percentper month, lifting prices by a factor of 79over the same time period. Annual infla-tion rates finished the decade of the1960s in the 20 percent range. Duringthe decade of the 1970s, when world-wide inflation gathered momentum,Brazil saw annual inflation rates reach77 percent by 1979.

The dynamics of inflation seem torequire that inflation persistently riseabove the expected range. Brazilian infla-tion rose above 110 percent in 1980, andin 1988 entered four-digit territory.The year 1989 saw annual inflationexceed 1,700 percent. Inflation subsidedto the three-digit range before soaring to2,500 percent annually in 1993. The gov-ernment began anti-inflation policies inearnest, cutting the inflation rate by halfin one year. Annual inflation then droppedrapidly, reaching the 4 to 5 percent rangein 1997. Between 1997 and 2007, infla-tion in Brazil remained below 10 percentexcept for one episode in 2002 and 2003when Brazilian inflation briefly roseslightly above 14 percent (InternationalMonetary Fund, 2003. 2008).

Unlike other famous examples of hyper-inflation, the blame for Brazilian hyperin-flation cannot be pinned on wartimeexpenditures or war reparations. Brazil didbear a heavy debt burden, and much of thedebt was owed to foreigners. Brazil’s centralbank was a buyer of last resort of short-term government bonds, which was theimmediate cause of the inflation.

Before inflation reached hyperinflationlevels, Brazil had adopted a system ofindexation, making inflation more bear-able to average citizens. Under indexation,government bonds, wages, and other long-term contracts were automatically revisedupwards to adjust for inflation. The systemof indexation contributed additional inertiato inflation, and initially may have slowedthe rate of acceleration of inflation.

Hyperinflation in Brazil | 211

Supermarket in Rio de Janiero updates pricesas Brazil transitions to a new currency underFernando Henrique Cardoso’s plano real,1994. (Julio Pereira/AFP/Getty Images)

Taming inflation required deep andsubstantial economic reforms. Brazilunderwent a capitalist revolution, empha-sizing discipline in government spending,privatization, trade liberalization, andstringent monetary control. Brazil alsophased in a new currency, and when theold currency was extinguished, prices sta-bilized. The new currency was tied to theUnited States dollar, and backed by foreignexchange reserves, including dollars.

See also: Hyperinflation in Argentina, Hyperinfla-tion in Bolivia, Chilean Inflation, Indexation,Inflation and Deflation

ReferencesInternational Monetary Fund, World Economic

Outlook, October 2008.Pereira, Luiz Carlos Bresser. 1996. Economic

Crisis and State Reform in Brazil.Wachter, Susan M. 1976. Latin American

Inflation.

HYPERINFLATION IN BULGARIA

Between 1996 and 1997, Bulgaria faced adaunting macroeconomic crisis, posting anaverage annual inflation rate of 500 percentfor January 1997 (Gulde, 1999). ForMarch 1997, the average annual inflationrate soared above 2000 percent (Gulde,1999). Bulgaria owed the rapid accelera-tion of inflation to large liquidity injectionsfor propping up the country’s weakeningbanking system, to central bank financedbudget deficits, and to a loss of confi-dence in the Bulgarian lev, reducingdemand for that currency. Deeper prob-lems involved Bulgaria’s reluctance toembrace market-based institutions thatease the way for bankruptcies and liqui-dations and encourage effective corporategovernance.

The banking crisis began bubbling upin 1995. By 1996, 9 out of 10 state-ownedbanks reported negative capitalization,and more than half of the portfolios ofthese banks were nonperforming. The10 state-owned banks accounted for morethan 80 percent of banking sector assets(Gulde, 1999). Half of the private banks,including the largest and best known, fellinto the technically bankrupt category.Several runs on banks erupted amidrumors of the banking situation.

The Bulgarian National Bank closedbanks to restore confidence. The first roundof bank closures occurred in May of 1996. Itwas too narrow in scope, only closing bankswidely known to be in trouble. Confidence inthe banking system continued to vex theeconomy. In September 1996, the BulgarianNational Bank announced another round ofbanking closings. Total bank closuresaccounted for about one-third of Bulgaria’sbanking system. The National Bank ofBulgaria announced that there would be nofurther bank closures and committed itselfto keeping the remaining banks open. Asconditions continued to deteriorate in thebanking sector, the National Bank of Bulgariakept its promise of not closing more banksand met the growing crisis by injectingadded liquidity into the banking system andrepurchasing government bonds. This policyfueled the inflation.

Another side of the problem had to dowith falling tax revenues. Real output shrankby 10 percent in 1996 (Gulde, 1999). Fallingoutput translates into lower income, whichreduces tax revenues tied to income. In addi-tion, Bulgaria faced a mounting problemwith tax evasion. Tax revenues as a percentof gross domestic product (GDP) fell from40 percent to 14.7 percent (Gulde, 1999).The government financed the growingbudget deficit by issuing treasury bills withshorter maturities and higher interest rates.

212 | Hyperinflation in Bulgaria

Bulgaria recovered more rapidly thanmost countries from the hyperinflationand macroeconomic crisis. By 1998,hyperinflation had effectively erased thereal value of the public debt. Lower inter-est rates also helped with the debt burdenof the government’s deficit. The govern-ment beefed up tax collection and scaledback social spending, effectively balanc-ing its budget by 1998. The East Asianfinancial crisis may have helped Bulgariaby creating global deflationary forces. Bythe end of 1998, the inflation had fallento 1 percent, and the basic interest rate ofthe Bank of Bulgaria had fallen to 5.2(Gulde, 1999). At the height of the crisis,this key interest had stood at 200 percent.

The cornerstone in Bulgaria’s stabi-lization plan was the establishment of acurrency board to replace central bankmanagement of monetary policy. The cur-rency board went into operation on July 1,1997. A currency board guarantees that allof a country’s outstanding circulating cur-rency is supported by equivalent amountsof an anchor currency. Bulgaria chose thedeutsche mark as the anchor currency.

See also: Hyperinflation in Yugoslavia

ReferencesOrganization for Economic Cooperation and

Development. “OECD Economic Surveys:Bulgaria.” Vol. 1999, no. 9 (April 1999):1–111.

Gulde, Anne-Marie. “The Role of the Cur-rency Board in Bulgaria’s Stabilization.”Finance and Development, vol. 36, no. 3(1999): 36–40.

HYPERINFLATION IN CHINA

From 1937 until 1949, China experienceda bout of inflation no less spectacular andno less fraught with social and political

consequences than the hyperinflation ofpost–World War I Germany. The inflationbegan in Free China, the part of China notinvaded by the Japanese, and continueduntil the communist government solidi-fied control of the mainland in 1949through 1950.

Chinese inflation falls into three eras.Between 1937 and 1939, the early waryears, prices did not fully give way toinflationary pressures. Between 1940 and1945, the war years, the Chinese peoplebegan to loose confidence in currency,and inflation accelerated. The end ofWorld War II saw a brief lull in inflationbefore inflation rose to stratosphericheights, ending in the collapse of the cur-rency system just before the nationalistgovernment fled to Taiwan.

Japan’s invasion of China left FreeChina robbed of 90 percent of its indus-trial capacity, and the Chinese govern-ment bereft of the tax revenue of thewealthiest provinces of China. Japan’sblockade of ports serving Free China alsoreduced supplies of imported goods. TheChinese government sought to finance amilitary resistance and an industrializa-tion of Free China without recourse tosignificant taxes, instead relying on vol-untary sacrifices and foreign aid. Thegovernment ran up massive deficits andexpanded bank credit for industrialexpansion. However, good harvests keptthe prices of consumer goods down andwholesale prices increased 200 percentbetween December 1937 and December1939, a modest increase in light of theinflationary pressures.

During the war years, 1940 through1945, Japan tightened its noose aroundChina, blocking virtually all imports intoChina, and crop failures further reducedthe supplies of goods. China’s archaictax system, in which revenue rose with

Hyperinflation in China | 213

the number of transactions rather thanprices, failed to produce added revenuecommensurate with the rate of inflation.Government expenditures rose with infla-tion, but tax revenue tended to stand still,causing the budget deficit to increasefourfold from 1939 to 1941. Prices rosenearly 600 percent between December1939 and December 1941. BetweenDecember 1941 and December 1945, thegovernment budget deficit increased over100-fold, and prices increased 10,000 per-cent. The public lost confidence in thecurrency, and the velocity of circulationincreased, further fueling the inflation.The government made a half-heartedeffort at price controls, but China had nei-ther the administrative apparatus nor thestatistical information to carry out a planfor fixing prices.

The end of the war brought a stabilizinginfluence to prices, which actually fellfrom August to December 1945. In 1946,peace negotiations with the communistsbroke off, and the nationalist Chinesegovernment continued heavy militaryexpenditures and deficit spending. In1946, government expendituresincreased threefold, and revenue coveredonly 37 percent of the expenditure.Between June 1946 and August 1948,prices rose 146,772 percent in Shanghai.In August 1948, the government dis-counted the old currency, issued a newcurrency at a rate of one unit of the newcurrency to 3 million of the old. Thegovernment also imposed price controls.Inflationary pressures burst through theprice ceilings, and prices continued torise at a feverish pitch. From August1948 until April 1949, prices rose112,390 percent. The communists occu-pied Shanghai in May 1949, the nation-alist government was in confusion, andthe compilation of price information was

suspended. As the communists consoli-dated control of Mainland China, thenationalists’ currency became completelyunacceptable.

The Chinese inflation experience addsfurther corroboration for Lenin’s com-ment that the surest way to overthrow thecapitalist system was to debase the cur-rency. The rapid inflation was probably amajor factor causing the climate of cynicalcorruption in the nationalist government,and helped contribute to its demise.

See also: Hyperinflation during the AmericanRevolution, Hyperinflation during theFrench Revolution, Hyperinflation inPost–World War I Germany, Inflation andDeflation, Hyperinflation during the Bolshe-vik Revolution

ReferencesChang, Kai-Ngau. 1958. The Inflationary

Spiral: The Experience in China,1939–1950.

Chou, Shun-Hsin. 1963. The Chinese Inflation,1939–1949.

Friedman, Milton. 1992. Monetary Mischief:Episodes in Monetary History.

Paarlberg, Don. 1993. An Analysis and Historyof Inflation.

HYPERINFLATION INGEORGIA

One of the worst cases of hyperinflationon record occurred in Georgia between1992 and 1995. Georgia had declared itsindependence from the Soviet Union inApril 1991 and quickly sank into civil con-flict and political turmoil. The breakdownin law and order enfeebled the govern-ment’s authority, while the dissolution ofthe Soviet Union buffeted Georgia’s econ-omy with severe economic shocks. Thegovernment of Georgia met the economicdifficulties with slack financial policies.

214 | Hyperinflation in Georgia

The breakdown of trade and capitalflows within the former Soviet Unionaccounted for the external shocks. Theworst trade shock came between 1992and 1993, when the prices of Georgia’skey energy imports, gas and refined oilproducts, leaped up fourfold and 21-foldrespectively (Wang, 1999). Georgia alsolost capital inflows and transfers that inthe past it had received from the centralgovernment of the Soviet Union.

Civil conflict and wars undercut thegovernment’s ability to collect taxes. Taxrevenue measured 22 percent of grossdomestic product (GDP) in 1991, 8 percentin 1991, and only 2 percent in 1993(Wang, 1999). Expenditures as a percentof GDP changed slightly on the upside at36 percent of GDP between 1992 and1993 (Wang, 1999).

While Georgia remained in the rublezone, its monetary policy was controlledby the Central Bank of Russia. Georgiafaced a cash crisis after the Central Bankof Russia stopped supplying ruble ban-knotes to the National Bank of Georgia inlate 1992. In April 1993, the governmentintroduced a Georgian currency, the“coupon,” to circulate at par with theRussian ruble. At the direction of the gov-ernment and parliament, monetary andcredit polices became highly accommoda-tive, allowing the currency in circulationto increase 152-fold between the end ofMarch 1993 and the end of August 1994(Wang 1999). Direct or indirect loansextended to the government by theNational Bank of Georgia accounted formost of the growth in the money stock.

The excess supply of coupons quicklyspilled into the foreign exchange market.The coupon deprecated in step with eachincrease in central bank credit extendedto the government. A dual economysprang up composed of a coupon-based

official economy and an unofficial butmuch larger economy based on the rubleand other foreign exchange. The coupon-based economy consisted almost totallyof government transactions.

Between 1992 and 1994, inflationstampeded to loftier and loftier levels,posting 887 percent in 1992, 3,125 percentin 1993, and peaking at 15,606 percent in1994 (Branco, 1996). Real output mirroredthe economic chaos, shrinking 44.8 percentin 1992, 25.4 percent in 1993, and 11.4 percentin 1994 (Branco, 1996).

In March 1994, the Georgian govern-ment opened serious discussions with theInternational Monetary Fund (IMF) andagreed to a strategy for stopping hyperin-flation as first step in qualifying for IMFfinancing. The steps included (1) curbingcentral bank financing of budget deficitsand commercial bank access to overdraftprivileges at central bank, (2) removingconsumer subsidies on bread, electricity,and gas consumption, (3) curtailing govern-ment expenditures and government subsi-dies to state-owned enterprises, (4) liftingforeign exchange restrictions, (5) allowingfree floating of the coupon in foreignexchange markets, and (6) improving taxcollection and raising tax rates. Themeasures were painful. Without govern-ment subsidies, the price of bread wentfrom 700 coupons per kilogram to 200,000coupons per kilogram (Wang, 1999).

Inflation subsided rapidly after 1994,posting 162.7 percent in 1995, 39.4 percentin 1996, and 7.1 percent in 1997 (Interna-tional Monetary Fund, 1999). The Georgianauthorities issued a new currency onSeptember 25, 1995. The new currencywas called the “lari.” The conversion to thenew currency was conducted on a no-questionsbasis at a uniform rate of one millioncoupons per one lari. The new currencybecame legal tender on October 2, 1995.

Hyperinflation in Georgia | 215

See also: Hyperinflation in Post-Soviet Russia

ReferencesBranco, Marta de Castello. “Georgia: From

Hyperinflation to Growth.” IMF Survey,September 23, 1996.

International Monetary Fund. “IMF ApprovesAugmentation and Extension of Georgia’sEASF Loan.” Press Release no. 99/34,1999.

Wang, Jian-Ye. “The Georgian Hyperinflationand Stabilization.” International MonetaryFund, IMF Working Paper no. 99/65, May1999.

HYPERINFLATION INPERU

For August 1990, Peru saw its inflation ratepeak at 12,378 (Reinhart and Savastano,2003). The 12 previous years Peru had notseen inflation rates below 40 percent.Between 1960 and 1969, annual inflation inPeru averaged 9.8 percent, between 1970and 1979, it averaged 26.5 percent, andbetween 1980 and 1985, it averaged 97.3percent (Cardso, 1989). Between 1986 and1987, inflation in Peru subsided slightlybefore it took off in 1988 to an averageannual rate of over 1,700 percent. Forevery year except three between 1971 and1990, Peru experienced current accountdeficits on the balance of payments.

In August 1985, new president, AlanGarcia, came to power and launched aneconomic policy that limited externaldebt service to 10 percent of exports,imposed price controls, and fixed theexchange rate. With the help of fixedexchange rates and government subsides,the Peruvian economy briefly experi-enced high growth, moderating inflation,rising employment, and rising real wages.Peru hoped it had found a way to combatinflation without sacrificing growth and

employment, without undergoing the“tight money, fiscal austerity” cure advancedby the International Monetary Fund.

The apparent policy success wasshort-lived. The limit on external debtservice triggered a flight of foreign capital.By 1988, Peru faced shortages of basicfoods like milk, sugar, and bread. Fiscaldeficits as a percent of gross domesticproduct (GDP) hovered in the 7 to 7.4 percentrange (Reinhart and Savastano, 2003).Inflation reared up precipitously whencontrolled prices had to be adjustedupwards. Real wages fell. Output shrank20 percent in two years, foreignexchange reserves slipped into the nega-tive column, and inflation had pared taxcollection to 3.5 percent of nationalincome (Economist, November 1990).

On June 10, 1990, Alberto Fujimoriwon Peru’s presidential election by wag-ing a campaign against a policy of brutalcontraction to corral inflation, but inoffice, realities forced his hand. InAugust 1990, the new government raisedthe price of gasoline by 30-fold, andraised by fourfold the state-controlledprices of stable foods (Economist,August 1990). Peru burst into chaos. Fordays, fear of looting and rioting keptshops and markets closed, and transportbuses off the roads. Thieves left streetvendors denuded of goods to sell, andsmall farmers near the city pillaged crops.

The new government committed itselfto spending only what it received in taxes.Half of the increase in gasoline priceswent into the treasury. The governmentalso scrapped tariffs and import quotas,exposing Peru’s manufacturers to compe-tition from less expensive imports. Whenthe government abandoned the fixedexchange rate, the value of Peru’s currency,the inti, sank to 300,000 intis per U.S.dollar (Economist, August 1990).

216 | Hyperinflation in Peru

The austere policies steadily brokethe back of inflation. Peru posted aninflation rate of 409.5 percent in 1991,73.5 percent in 1992, and 48.6 percent in1993 (Reinhart, Savastano, 2003). In2000, Peru posted 3.7 percent inflationand in 2001, Peru posted deflation of0.1 percent (International MonetaryFund, 2004). Inflation edged up after2001, but remained in single-digit territory.

ReferencesCardoso, Eliana, A. “Hyperinflation in Latin

America.” Challenge, vol. 32, no. 1(Jan–Feb 1989): 11–19.

Economist. “Dearer Still and Dearer.” August18, 1990, pp. 2–3.

Economist. “Inflation Unbeaten.” November3, 1990, p. 52.

International Monetary Fund, Public Infor-mation Notice (PIN) no. 04/62, May 28,2004.

Reinhart, Carmen M., and Miguel A. Savastano.“The Realities of Modern Hyperinfla-tion.” Finance and Development, vol. 40,no. 2 (June 2003): 20–23.

HYPERINFLATION INPOST-SOVIET RUSSIA

In 1992, Russia saw an inflation rate of1,528.7 percent (Rock and Solodhov,2001). The exact number may be in doubtsince the International Monetary Funddid not start reporting inflation rates forRussia until 1993. The other post-Sovietrepublics also posted spectacular inflationrates that year. Of these countries, Latviaposted the lowest inflation rate forthe year at 951.2 percent (Rock andSolodhov, 2001).

The Russian government openedthe year with the liberalization of pricecontrols on most products at the whole-sale and retail level. The government

took that initiative in January 1992. Pricecontrols remained in effect for a handfulof key commodities: bread, milk, residen-tial rents and utilities, electricity, naturalgas, and retail gasoline. The new Russianreformers held high hopes for the transi-tion to capitalism, including the prospectthat massive Western aid would flow intoRussia. They gave scant attention to theprospect that the political and economicdisintegration unfolding in the formerSoviet Union would play havoc with theshort-run outcomes of liberalization.Between 1992 and 1993, the economy ofthe former Soviet Union went from havingone central bank and one monetary pol-icy to having 15 different central bankswith 15 different monetary policies(Rock and Solodhov, 2001). The one econ-omy became 15 separate but tightly linkedeconomies. The need for collaboration onmonetary policies, tariff policies, and taxpolicies went unnoticed.

As prices leaped up, the Russian gov-ernment directly felt budget pressure,partly because hyperinflation erased theearning power of government salaries,pensions, enterprise budgets, and socialexpenditures, and partly because state taxrevenues evaporated. Output shrank,Russian enterprises needed funds to carryon operations, and non-Russian republicsneed funds to finance trade deficits withRussia. The Russian government and itscentral bank met the crisis by channeling“centralized” loans to Russian enter-prises through commercial banks, and“technical” loans to non-Russian enter-prises through local republican authorities.Much of the proceeds from these loanswere diverted to the purchase of dollarsin the recently liberalized Russian for-eign exchange market, causing the rubleto depreciate, which increased the cost ofimports and added to the inflation.

Hyperinflation in Post-Soviet Russia | 217

With zero-interest funds available fromthe central bank, commercial banks in Rus-sia had little incentive to attract individualretail deposits and savings accounts. Inaddition, as the crises progressed, theRussian government temporarily frozewithdrawals on bank accounts at state-banks. The Russian people took to storingpurchasing power and saving in the form ofnon-ruble assets, such as U.S. dollars stuffedin a sock. By 1993, most individuals andenterprises were buying U.S. dollars when-ever possible (Rock and Solodhov, 2001).

Between 1993 and 1995, a new kindof financial institution sprang up in Rus-sia. A new banking law went so far as toallow individual nonbank businesses toattract deposits and other financial busi-nesses. Some of the new financial institu-tions were no more than Ponzi-pyramidschemes and promised depositors returnsas high as 45 percent per month payablein dollars (Rock and Solodhov, 2001).

The new financial institutions mainlyspeculated in the foreign exchange marketfor dollars. Many citizens went so far as tocollateralize their newly won privateproperty to invest in these schemes. InJuly 1995, the government successfullycurbed ruble fluctuations within therange of a managed float, severely under-cutting the ability of the new financialinstitutions to earn speculative profits inthe foreign exchange markets. In addi-tion, by this time, inflation was subsidingand those who had taken out high interestruble loans found themselves unable torepay these loans in a disinflation envi-ronment. With defaulting borrowers andfewer opportunities for speculation, thenew financial institutions quickly crum-bled. A central banker, Tatyana Para-monova, was credited for imposing thetight monetary policies that subduedinflation and stabilized the ruble. InNovember 1995, President Boris N.Yeltsin dismissed her in a bid to appeasethe Russian parliament.

Russian inflation steadily subsidedafter reaching a peak in 1992, falling to874.7 annual percent in 1993, 307.4 in1994, 197.4 in 1995, 47.6 in 1996, 14.7 in1997, and 27 in 1998 (International Mon-etary Fund, May 2000). On January 1,1998, the Russian government knockedoff three zeros from the ruble. After theRussian default in 1998, inflation againsoared into double-digit territory, reaching85.7 percent in 1999. It again subsided,posting a level of 10.9 percent in 2004(International Monetary Fund, May 2006).As of 2008, rising commodity prices seemto have frustrated efforts to push the infla-tion rate clearly into single-digit territory.

ReferencesInternational Monetary Fund, World Eco-

nomic Outlook, May 2000 and April 2006.

218 | Hyperinflation in Post-Soviet Russia

A Russian pensioner sells cigarettes in down-town Moscow in order to raise some extramoney for living expenses in the face of thecountry’s financial crisis, June 5, 1998. (APPhoto/Ivan Sekretarev)

Rock, Charles P., Vasiliy Solodhov. “MonetaryPolicies, Banking, and Trust in ChangingInstitutions: Russia’s Transition in the1990s.” Journal of Economic Issues, vol. 35,no. 2 (June 2001): 451–459.

Lewis, Michael. “The Capitalist; RubleRoulette.” New York Times Magazine,August 13, 1995, p. 622.

Oomes, Nienke, and Franziska Ohnsorge.“Money Demand and Inflation in Dollar-ized Economies: The Case of Russia.” IMFWorking Paper (WP/05/144), June 2005.

HYPERINFLATION INPOST–WORLD WAR I

GERMANY

The German hyperinflation of the early1920s stands as a constant reminder of themonetary insanity lurking beneath the sur-face of modern systems of money andbanking. The German money supply grewduring and after World War I. In June 1914,the German marks in circulation stood at6,323 million, but by December 1918 thenumber of marks in circulation had grownto 33,106 million. Prices over the sametime span more than doubled. Germanyhad financed the war largely by monetizinggovernment debt rather than raising taxes orborrowing in capital markets.

After the armistice in 1918, Germanmarks in circulation continued toexpand, and by December 1921, Germancurrency in circulation stood at 122,963million marks. Prices then were slightlyover 13 times the 1914 level. Prices nowbegan to catch up with money growth.By June 1922, German marks in circula-tion had risen to 180,716 million, butprices were now over 70 times the 1914level. The Reichsbanks abandoned allpretense of monetary control as marks incirculation rose to 1,295,228 million by

December 1922. By June 1923, the num-ber had increased to 17,393,000 million.

After June 1922, price increases brokeinto runaway inflation. By December1922, prices stood at 1,475 times their1914 level, and prices stood 19,985 timestheir 1914 level by June 1923. Priceswere rising so fast that workers were paidat half-day intervals and rushed to spendtheir wages before they lost their value.Customers at restaurants would negotiateprices in advance because prices couldchange before the meal was served. Groceryshoppers rolled to the store wheelbar-rows laden with sacks of money, whichwas also bailed up and used for fuel.Prices continued to rise into November1923. A newspaper that sold for 1 markin May 1922 rose in price to 1,000 marksin September 1923. By November 17,1923, the same newspaper sold for70 million marks.

Hyperinflation in Post–World War I Germany | 219

Bundles of German mark notes double as chil-dren’s building blocks, 1923. (The IllustratedLondon News Picture Library)

In December 1923, the money supplyand prices stabilized. The German gov-ernment reformed its monetary affairs,issuing a new unit of currency called therentenmark, equal to 1 trillion marks.The new currency was issued by theRentenbank, which replaced the Reichs-bank as the note-issuing bank. The onlyasset of the new bank was a mortgage onagricultural and industrial land, and thepaper money issue of the new bank wasstrictly limited.

The inflation began with the stress ofwartime finance. After World War I, Ger-many needed to restock its warehouseswith imported raw materials and pay warreparations. This led to an outflow ofGerman marks and a depreciation of theGerman mark in foreign exchange mar-kets. This depreciation caused inflation inthe prices of imports, and the inflationspread to the rest of the economy. TheReichsbank kept the money supply risingfaster than prices to ward off unemploy-ment. The French occupation of the Ruhraggravated the matter considerably. TheGerman government encouraged passiveresistance, banned reparation payments,and printed money to pay striking miners.The French blockaded the area, andGermany lost the tax revenue.

The German experience with hyperin-flation was the most spectacular theworld had seen. Since World War II,Germany can boast of one of the bestrecords for controlling inflation of anyadvanced industrialized country. In thebook Economic Consequences of Peace(1920) John M. Keynes saw the inflationtrends and commented:

By a continuing process of inflation,the governments can confiscate,secretly and unobserved, an importantpart of the wealth of their citizens. . . .

While the process impoverishes many,it actually enriches some. The sight ofthis arbitrary rearrangement of richesstrikes not only at security, but at con-fidence in the equity of the existingdistribution of wealth. (235)

Many observers blame the episode ofGerman hyperinflation for creating thepolitical conditions that led to Hitler’srise to power. Partly because of the Germanexperience, modern societies considerprice stability an important ingredient ofsocial stability.

See also: Hyperinflation during the AmericanRevolution, Hyperinflation during the FrenchRevolution, Inflation and Deflation, Hyperin-flation during the Bolshevik Revolution

ReferencesPaarlberg, Don. 1993. An Analysis and History

of Inflation.Parsson, Jens D. 1974. Dying of Money:

Lessons from the Great German andAmerican Inflations.

Webb, Steven B. 1989. Hyperinflation andStabilization in Weimar Germany.

HYPERINFLATION INPOST–WORLD WAR I

HUNGARY

In the aftermath of World War I, Hungary,one of the successor states to the Austro-Hungarian Empire, saw inflationadvance into a hyperinflationary stage,multiplying prices by a factor of 263between January 1922 and April 1924.

In addition to owing war reparations,Hungary inherited an economy facingshortages and uprooted from traditionaltrading relationships. The erection of newnational barriers restricted trade betweenregions of the former Austro-Hungarian

220 | Hyperinflation in Post–World War I Hungary

Empire. To complicate the economicturmoil, a Bolshevik revolution threwHungary into monetary confusion; therevolutionaries seized the plates for 1- and2-crown Austro-Hungarian banknotes andran the printing presses liberally in sup-port of their cause. A right-wing regimesupplanted the Bolsheviks, but through1924 the government continued to financebetween 20 and 50 percent of governmentexpenditures with issues of paper money.

The Hungarian section of the Austro-Hungarian bank was spun off as the StateNote Institute, a note-issuing bank underthe authority of the minister of finance.The State Note Institute exchanged itsnotes, the Hungarian krone, for the notes ofthe Austro-Hungarian bank, and even thenotes issued by the Bolshevik government.

Total notes and deposit liabilities ofthe State Note Institute grew by a factorof 85 from January 1922 until April1924, the time frame over which pricesincreased by a factor of 263. The per-centage growth in prices exceeded thepercentage growth in the money supply,reflecting the effects of the flight fromthe krone. As prices escalated, Hungar-ian residents sought to spend kronesbefore they lost value, raising the veloc-ity of circulation, adding further fuel tothe inflationary spiral. To restrict Hun-garians from using krones to buy assetsdenominated in more stable foreign cur-rencies, the Hungarian governmentestablished the Hungarian Devisenzen-tral as part of the State Note Institute.This agency was responsible for makingit difficult or illegal for Hungarians toown foreign currency.

The end of the inflationary episode inHungary came when the League ofNations arranged an international loanfor Hungary conditioned on governmentpolicies committed to balanced budgets

and a central bank independent of gov-ernment authorities. The reparation com-mittee also gave up its claim onHungary’s resources. The broad outlinesof the reconstruction of Hungary’sfinances mirror closely the Austrianexperience. The new central bank, theHungarian National Bank, was able tocontinue increasing the supply of paperkrones, but these krones were nowbacked by gold, other foreign assets, andcommercial paper.

Inflation stabilized in December1924, and the krone ended its slide onthe New York foreign exchange market.

The Hungarian inflation experienceunderlines the importance of expecta-tions in monetary affairs. The assuranceof a return to responsible governmentpolicies was sufficient to bring a quickhalt to inflationary momentum.

See also: Hyperinflation during the AmericanRevolution, Hyperinflation in Austria, Hyper-inflation during the French Revolution,Hyperinflation in Post–World War I Germany,Inflation and Deflation, Hyperinflation inPost–World War I Poland

ReferencesSargent, Thomas J. 1993. Rational Expecta-

tions and Inflation, 2nd ed.Wicker, E. “Terminating Hyperinflation in

the Dismembered Hapsburg Monarchy.”American Economic Review, vol. 76, no.3 (1986): 350–364.

HYPERINFLATION INPOST–WORLD WAR II

HUNGARY

From July 1945 until August 1946,hyperinflation raged in Hungary on ascale more spectacular than Germany’shyperinflation experience following

Hyperinflation in Post–World War II Hungary | 221

World War I. When the German hyperin-flation was stabilized in 1923, the govern-ment issued a new mark equivalent to1 trillion of the depreciated marks. OnAugust 1, 1946, Hungary replaced itsdepreciated pengo with the florint at arate of one florint to 400 octillion pengos.Although Germany’s hyperinflation crisislasted a bit short of two years, Hungary’spost–World War II hyperinflation crisisran its course in slightly less than a year.

Hyperinflation was not new to Hungary,which had shared in the hyperinflationfrenzy that had afflicted Germany, Poland,and Austria at the end of World War I. Likeits post–World War I experience, Hun-gary’s post–World War II hyperinflationepisode fit a familiar pattern in the historyof hyperinflation. Episodes of hyperinfla-tion usually occur during or immediatelyafter a war, when the government is financ-ing huge budget deficits, and supplies ofgoods have been disrupted. During Hun-gary’s second hyperinflation experience,government revenue covered only 15 per-cent of government expenditures. The fol-lowing schedule shows the increase ofbanknotes by the National Bank of Hungarythat fueled the hyperinflation:

December 31, 1945: 765,400

January 1, 1946: 1,646,000

February 28, 1946: 5,238,000

March 31, 1946: 34,002,000

April 30, 1946: 434,304,000

May 31, 1946: 65,589,000,000

June 30, 1946: 6,277,000,000,000,000

July 31, 1946: 17,300,000,000,000,000,000

Hungary’s first effort to tame theinflation came in December 1945 whenthe government announced that notes of1,000 or more pengos were bannedunless special stamps were affixed to

them. The stamps had to be purchasedfrom the government at a cost of threetimes the face value of the notes. Theowner of four 1,000-pengo notes had togive up three notes to buy a stamp tomake the one note valid. The stamprequirement effectively reduced thenumber of notes in circulation by three-fourths. Inflation halted, and prices evenfell for a few days, but by the end ofDecember, prices were rising so fast thatemployees hardly received their paybefore they rushed to spend it.

On January 1, 1946, the governmenttook an innovative approach to the infla-tion problem and created a new money ofaccount, called the tax pengo, ostensiblyto protect the government’s tax revenuefrom an inflation loss between the timetaxes were levied and the time of collec-tion. The tax pengo equaled the regularpengo multiplied by a daily price indexthat measured the ratio of current prices toprices on January 1, 1946. Soon businesstransactions were paid in tax pengos, andon January 10, commercial banks beganoffering tax pengo deposits. With taxpengo deposits, a customer deposited reg-ular pengos in a bank. When the depositwas withdrawn the customer received theamount of regular pengos multiplied bythe ratio of prices on the withdrawal dateto prices on the date of deposit. Multipli-cation by a price index ratio adjusted thepengo for loss in purchasing power. OnJune 1, 1946, the government issued taxpengo notes that circulated as papermoney with values depending on dailyprice ratio calculations. At this point, thetax pengo had become a new indexedcurrency—indexed to the rate of inflation.The regular pengo rapidly depreciated invalue relative to the tax pengo, but pricesquoted in tax pengo remained stable untilmid-April 1946.

222 | Hyperinflation in Post–World War II Hungary

In April, prices began to escalate in taxpengo, and beginning on June 20, thedepreciation accelerated rapidly. OnAugust 1, 1946, the government issuedthe new florint, the convertibility intodollars of which was assured withreserves of gold, foreign currencies, andforeign securities. At that point, Hun-gary’s hyperinflation crisis ended. Hun-gary’s official documents do not make itclear where these reserves originated.

The Soviet Union contributed to Hungary’s hyperinflation crisis, proba-bly in an effort to destroy Hungary’seconomy. In 1945, the Soviet armyissued in Hungary the highest denomi-nation banknote ever printed, a 100-quadrillion-pengo note.

Hungary’s second hyperinflation expe-rience suggests that the only remedy forinflation is monetary discipline, restraintof monetary growth. Hungary’s indexedcurrency failed because banknote circula-tion continued to race ahead.

See also: Hyperinflation in Austria, Hyperinfla-tion in Post–World War I Germany, Hyper-inflation in Post–World War I Hungary,Inflation and Deflation, Hyperinflation inPost–World War I Poland

ReferencesBomberger, W. A., and G. E. Makinen.

“The Hungarian Hyperinflation andStabilization of 1945–1946.” Journal ofPolitical Economy, vol. 91, no. 5 (1983):801–824.

Nogaro, Bertrand. “Hungary’s Recent Mone-tary Crisis and It’s Theoretical Meaning.”American Economic Review (September1948): 526–542.

Paarlberg, Don. 1993. An Analysis and Historyof Inflation.

Siklos, P. L. “The End of the HungarianHyperinflation of 1945–46.” Journal ofMoney, Credit, and Banking, no. 2 (1989):132–147.

HYPERINFLATION INPOST–WORLD WAR I

POLAND

In January 1921, the Polish wholesaleprice index stood at 25,139, indicating thatprices were over 251 times their level in1914, the base year in which the indexequaled 100. By February 1924, the indexhad risen to 248,429,600, an increase of988,223 percent in a bit over three years.That growth rate in prices is equivalent toa 50-cent newspaper rising in price tonearly $5,000. In the aftermath of WorldWar I, Poland was a country newly formedfrom territories formerly belonging toGermany, Austro-Hungary, and Russia.

The Polish episode of hyperinflationwas born of large government deficitsincurred by the fledgling Polish govern-ment freshly constituted following WorldWar I. Germany’s economic rape of Pol-ish machinery and raw materials wouldhave put even the most foresighted eco-nomic policy to the test. Furthermore, thearmistice of 1918 left Poland locked in acostly war with the Soviet Union, a strug-gle that continued until the fall of 1920.Aside from heavy claims on scarce Pol-ish resources, the Polish government fellheir to a grab bag of currencies—Russianrubles, crowns of the Austro-Hungarianbank, German marks, and Polish marksissued by the Polish State Loan Bank, aninstitution Germany established to regu-late Poland’s monetary affairs. Underthese circumstances, hardly any govern-ment could turn away from the tempta-tion to run the printing presses.

Between October 1918 and February1924, circulating banknotes grew60,090,040 percent, and the Polish marksteadily decreased on foreign exchangemarkets. The Polish government took

Hyperinflation in Post–World War I Poland | 223

command of the Polish State Loan Bank,which financed the government’s budgetdeficits by issuing banknotes.

Unlike Austria and Hungary, Polandreformed its finances without help from aninternational loan, although an interna-tional loan was granted in 1927 to prop upthe Polish mark in foreign exchange mar-kets. In January 1924, the governmentinvested the minister of finance with broadpower to balance the government’s budget.The minister of finance established theBank of Poland, replacing the Poland StateLoan Bank, as an independent central bankissuing notes secured with reserves in goldor foreign assets denominated in stablecurrencies that equaled 30 percent of thevalue of the notes. Whereas the govern-ment budget deficit in 1923 accounted forover 50 percent of government expendi-tures, in 1924 the government reported abalanced budget. The government also cre-ated a new currency, the gold zloty, worth1.8 million paper marks.

The Polish wholesale price index stabi-lized early in 1924, and the Polish mark sta-bilized in foreign exchange markets aboutthe same time. The rather quick adjustmentof inflation to responsible monetary and fis-cal policies affirms the power that expecta-tions wield over monetary affairs. Late in1925, a lax central bank policy led toanother spurt of inflation and currencydepreciation that lasted a year before thecentral bank pulled in the monetary reins.

See also: Hyperinflation in Austria, Hyperinflationin Post–World War I Germany, Hyperinflationin Post–World War I Hungary, Inflation andDeflation

ReferencesLeague of Nations. 1946. The Course and

Control of Inflation.Sargent, Thomas J. 1993. Rational Expecta-

tions and Inflation, 2nd ed.

HYPERINFLATION IN THECONFEDERATE STATES OF

AMERICA

From October 1861 to March 1864, priceincreases averaged 10 percent per monthin the states of the Confederacy, puttingthe Confederate price index when GeneralRobert E. Lee surrendered at 92 times itsprewar base. In the history of the UnitedStates, only the hyperinflation during theAmerican Revolution compares in intensitywith the hyperinflation of the Confederacy.

Like the revolutionaries that spear-headed the American Revolution, theleaders of the Confederacy faced a popu-lace that was in no mood to pay additionaltaxes. Southerners felt that the presentgeneration bore the burden of a war thatwould primarily benefit future genera-tions, and as much of the expense as pos-sible should be passed to futuregenerations. Union blockades of Confed-erate ports precluded any effort to imple-ment a revenue tariff on imports, the mainsource of federal government tax revenue.The Confederate government enacted aproperty tax but lacked the machinery tocollect it in the face of uncooperative stategovernments. By October 1864, tax rev-enue accounted for less than 5 percent ofall revenue that found its way to the Con-federate treasury.

The Confederacy met with slightlymore success in trying to finance publicexpenditures with bonds. In May 1861,the Confederate Congress approved a$50 million bond issue. The bond issuefaltered on a depressed cotton marketthat resulted from the use of cotton as abargaining chip with European govern-ments whose recognition the Confeder-acy needed, leaving angry plantersunable or unwilling to subscribe to

224 | Hyperinflation in the Confederate States of America

bonds on the scale needed. By October1864, bond sales had raised less than 30percent of all revenue that had enteredthe Confederate treasury.

The remaining source of revenue wasConfederate money. On March 9, 1861,the Confederate Congress authorizedprinting notes in an amount not exceed-ing $1 million, but the treasury depart-ment over four years printed $15 millionof notes. Treasury employees at the note-signing bureau rose from 72 in July 1862to 262 in July 1863. As printers, paper,and engravings became scarce, the Con-federate government granted credit forcounterfeit bills, which were stampedvalid and reissued. From July 1, 1861, toOctober 1, 1863, the paper money col-umn of the Confederate treasury ledgeraccounted for 68.6 percent of all govern-ment revenue.

Surprisingly, private banks in theConfederacy were restrained in theissuance of banknotes. The uncertaintiesof war encouraged private banks to holdlarge quantities of vault cash, whichactually tempered the inflationary thrustof the excess paper money.

Much of the Confederate currencybore the option to buy interest-bearingConfederate bonds up to a certain date,after which that option expired. As infla-tion gathered force early in 1864 theConfederate Congress enacted a cur-rency reform that brought a lull in theinflation rate. The reform provided thatall currency in bills greater than $5 couldbe converted into 4 percent bonds, dollarfor dollar. Currency not converted intobonds by April 1, 1864, had to beexchanged for new currency at a rate ofthree for two. Inflation subsided untilDecember 1864, when the Confederategovernment again had to turn to theprinting presses.

From the first quarter of 1861 untilJanuary 1, 1864, prices in the Confederacyrose 28-fold whereas the money supplyrose only 11-fold. Prices rose even fasterthan the money supply because ofwartime disruptions in the supply ofgoods, and the phenomenon of velocity.Velocity is the average number of timesper year that a dollar is spent, and in ahyperinflationary environment, recipientsof money rush to spend it before it losesits value. An increase in the velocity ofmoney has the same effect on the econ-omy as an increase in the money supply.

The experience of the Confederacyshows what happens when the supply ofmoney exceeds what is demanded by thenormal transactions of business and thedesire for liquidity. When the supply ofmoney exceeds the demand, the value ofmoney falls, meaning it buys lessbecause of price increases.

See also: Hyperinflation during the AmericanRevolution, Inflation and Deflation, Velocityof Money

ReferencesLerner, Eugene M. 1956. “Inflation in the

Confederacy, 1861–1865.” In Studies inthe Quantity Theory of Money, ed. MiltonFriedman.

Myers, Margaret G. 1970. A Financial Historyof the United States.

Slabaugh, Arlie. 1998. Confederate StatesPaper Money, 9th ed.

HYPERINFLATION INUKRAINE

Between 1991 and 1994, Ukraine postedthe ugliest inflation record of any formerSoviet Republic. From the beginning of1992 until the mid 1994, Ukrainianprices soared at an average monthly rate

Hyperinflation in Ukraine | 225

of 33 percent (Kravchuk, 1998). Theimmediate cause of the inflation wasgrowth in the money stock, which grewin the range of 74–75 percent per quarterbetween 1992 and 1994 (Kravchuk,1998). Ukraine declared its independ-ence from the Soviet Union on August24, 1991.

Rapid money stock growth stemmedfrom the budget deficits of the Ukrainiangovernment. During the hyperinflationyears, the government’s budget deficitranged between 10 and 14 percent ofgross domestic product (GDP)(Kravchuk, 1998). In 1992, off-budgetsubsidies and cheap credits to industrialand agricultural enterprises roughlyequaled 16 percent of GDP (Kravchuk,1998). In 1993 and 1994, the governmentmandated that the financial sector providevast amounts of nearly zero-interest creditsto enterprises.

To finance a deficit, a governmentmust borrow domestically, borrowabroad, or create new money. TheUkrainian domestic securities marketremained too undeveloped for govern-ment mobilization of domestic capital. Inaddition, the Ukrainian government hadlimited ability to borrow abroad. Theremaining alternative required the cre-ation of new money to finance a govern-ment deficit. Borrowing only accountedfor roughly 20 percent of Ukraine’s fiscaldeficit and the remainder was financed bymoney stock growth (Kravchuk, 1998).

The cost of energy helped sendUkraine down the path of hyperinflation.Ukraine imports vast amounts of oil andgas. Under the Soviet system of centralplanning, energy-using industriesenjoyed large subsidies, a practice thatbegan in the 1970s amid escalating oiland gas prices. After the break-up of theSoviet Union, Russia began raising the

prices of oil and gas and demanded paymentin hard currencies. Rising energy pricessent consumer prices soaring and evokedcries of protest from farmers and miners.To avert a strike, the government prom-ised a vast payment to miners equal tohalf its expected tax revenue for the year(Economist, July 1993). The governmentprinted the money to pay the miners,causing the money stock for June 1993to increase by 40 percent (Economist,August 1993).

Ukraine was known to have inheritednuclear weapons from the Soviet Union,making the threat of civil unrest in thatcountry a matter of worldwide concern.In addition, Ukraine held a sizable con-tingent of the Soviet Union’s defenseindustry, and the firms making upUkraine’s defense industry no longer hada market for their output.

Beginning in 1994, Ukraine negoti-ated a series of agreements with theInternational Monetary Fund. The agree-ments were conditioned on progress indeficit reduction. The massive deprecia-tion of the Ukrainian currency left it lessuseful as a means of financing deficits.Some observers felt the government hadno choice but to reign in its deficits. Thecurrency had depreciated to the pointthat households and businesses refusedto hold it. In summary, the governmentbrought deficit spending under controland inflation subsided.

In September 1996, Ukraine tookadvantage of a lower inflation to reform itscurrency, introducing a new currency, thehryvna, to replace the old currency, the kar-bovanet. By 1996, everyday transactionstook millions of karbovanet, requiring hugewads of cash. Recording transactions hadbecome difficult, time-consuming, andprone to error. The new currency effec-tively erased five zeros from all prices.

226 | Hyperinflation in Ukraine

See also: Hyperinflation in Belarus, Hyperin-flation in Georgia, Hyperinflation in Post-Soviet Russia

ReferencesEconomist. “Galloping Towards the Brink.”

July 3, 1993, p. 49.Economist. “Ukraine Over the Brink.”

August 4, 1993, pp. 45–46.Kravchuk, Robert S. “Budget Deficits,

Hyperinflation, and Stabilization inUkraine, 1991–96.” Public Budgeting &Finance, vol. 18, no. 4 (Winter 1998):45–70.

HYPERINFLATION INYUGOSLAVIA

The history of hyperinflation offers fewcases that can rival the stampeding, run-away inflation that Yugoslavia livedthrough between 1992 and 1995.Yugoslavia owed the hyperinflation tothe government’s practice of paying forbudget deficits by printing money. Theproblem was compounded because state-owned enterprises held substantial foreignliabilities, and residents held foreignexchange deposits in government banks.As the dinar depreciated, these liabilitiesbecame too costly to pay off, and residentswithdrew foreign exchange depositsuntil the government put an end to thepractice.

In terms of the multiplicative climb ofprices, Yugoslavia’s inflation ranks sec-ond only to the Hungarian hyperinflationof 1946–1947. In terms of the time ittook to run its course, it ranks secondonly to the Russian hyperinflation of1922–1924. In hard numbers, Petrovicand Mladenovic (2000) give the follow-ing scenario of Yugoslavia’s inflation: In1991, inflation in Yugoslavia gatheredmomentum, hitting 50 percent per month

by February 1992. The beginning of 1993saw inflation raging at 200 percent permonth. By June and July of 1993, themonthly inflation rate had doubled to400 percent per month. August and Octoberof 1993 saw monthly inflation on theorder of 2000 percent. November 1993posted monthly inflation of 20,000 percent.Then prices really went wild, climbing ata monthly rate of 180,000 percent inDecember, and 58 million percent in January1994. The last figure is based on black marketexchange rate depreciation and is below theofficially reported rate of 313 million percentper month.

The government levied price controlsin an effort to stop the inflation, butinflation continued. Soon the govern-ment mandated prices that producerswere receiving too low to be any kindincentive for production. In October1993, the bakers stopped baking bread.All government-owned gasoline stationsclosed for lack of gasoline to sell. Gasolinecould only be purchased from roadsidedealers who sold gasoline from a plasticcontainer conspicuously sitting on thehood of a parked car. The roadside gasolinewent for the equivalent of about $8.00per gallon (Lyon, 1996). Most peoplegave up driving personal cars. Busesbecame so overcrowded that ticket col-lectors could not climb aboard to collectfares. In November 1994, 87 patients ina large psychiatric hospital died aftergoing without heat, food, and medicine(Lyon, 1996). Pensioners waited in lineat post offices where government pen-sions were paid. Without governmentfunds to pay the pensions, the postalworkers took whatever money theyreceived when someone mailed a letteror package and gave the money topensioners, who stood in line knowingthat each minute they waited their

Hyperinflation in Yugoslavia | 227

pension would buy less. They wereafraid to go home and come back thenext day because within a mere dayinflation would eat up a pension’s value.

In October 1993, the governmentlaunched a new currency, a “new” dinarequal to one million of the “old” dinars,equivalent to removing six zeroes fromthe old currency. Early in January 1994,the government launched another newcurrency, a new “new” dinar, equal to onebillion of the old “new” dinars. On Janu-ary 24, 1994, the government unveiled the“super” dinar equal to 10 million of the newnew dinars. The super dinar was peggedto the German mark at one dinar to onemark, and residents could exchangedinars for marks at government banks. In1998, the inflation rate was 29.5 percent,and then it edged up to around 91 percentin 2001 (International Monetary Fund,2002). Inflation subsided significantly for2002. In 2002, the IMF approved a lineof credit for the Federal Republic ofYugoslavia based on a stabilization plansubmitted by the government.

See also: Hyperinflation in Belarus, Hyperinfla-tion in Georia, Hyperinflation in Ukraine

ReferencesInternational Monetary Fund. “IMF

Approves US$64 Million Tranche UnderStand-By Credit and US$829 ExtendedArrangement for the Federal Republic ofYugoslavia (Serbia/Montenegro)” PressRelease no. 02/25, May 13, 2002.

Lyon, James. “Yugoslavia’s Hyperinflation,1993–1994: A Social History.” East Euro-pean Politics and Societies, vol. 10, no. 2(March 1996): 293–327.

Petrovic, Pavle, Zorica Mladenovic. “MoneyDemand and Exchange Rate Determina-tion under Hyperinflation: ConceptualIssues and Evidence from Yugoslavia.”Journal of Money, Credit, and Banking,vol. 32, no. 4 (November 2000): 785–806.

HYPERINFLATION IN ZIMBABWE

In 2008, Zimbabwe boasted the highestinflation rate in the world, another caseof hyperinflation reminiscent of thepost–World War I hyperinflation of Germany.As of February 2007, the inflation ratestood at an annual rate of 1,281 percent(Wines, February 2007). It had remainedabove the 1000 percent level since April2006, causing prices to double everythree to four months. Zimbabwe had fin-ished 2005 with inflation in the 500 percentrange, but that was before the governmentin February 2006 printed up $21 trillionin Zimbabwean dollars to purchase U.S.dollars (Wines, May 2006). The U.S. dollarswent in payment to the InternationalMonetary Fund (IMF) to cover a debt inarrears. The IMF had threatened to oustZimbabwe from the membership in theIMF for debt delinquency.

It is hard to find the beginning pointfor Zimbabwe’s inflation. According toIMF data in the yearly World EconomicOutlook issue, Zimbabwean inflation inthe 1990s remained in double-digit territory.It fell from an annual rate of 22.2 percentin 1994 to 18.8 percent in 1997, rising to31.7 percent in 1998. Between 1997 and1999, inflation nearly tripled, reaching58.57 percent in 1999. By 2000, it hadslacked to 55.9 percent. The seeds for thecurrent hyperinflation go back to 1999when the IMF suspended its aid programsto Zimbabwe, citing a lack of fiscalrestraint owed partly to a costly two-yearmilitary intervention in the Congo. Thegovernment compounded the situation in2000 when it seized white-owned com-mercial farms. Foreign capital took flightand manufacturing output hit the skids.Capital flight strained foreign exchange

228 | Hyperinflation in Zimbabwe

reserves, restricting supplies of importedgoods. Rising prices of scarce importedgoods sparked an escalation of the infla-tion rate. In September 2001, the IMFdeclared Zimbabwe ineligible to use theIMF’s general resources or to useresources available through the IMF’sPoverty Reduction and Growth Facilityprogram. In 2003, the IMF suspendedZimbabwe’s voting rights, citing a fail-ure to cooperate with IMF in areas ofpolicy implementation and a debt thathad been in arrears since February 2001.By 2003, the inflation rate had climbedto an annual rate of 365 percent.

As the crisis unfolded, Zimbabwe’scentral bank cast aside all thought ofstabilizing prices, unleashing unbridledmonetary growth to meet the creditneeds of grossly inefficient, govern-ment-owned corporations that mainlyserved as a job source for politicalpatronage.

The inflation rate had vaulted to anannual rate of 10,000 percent by June 26,2007, when President Robert Mugabeannounced a decree that ordered busi-nesses to roll back prices by 50 percent(Wines, August 2007). President Mugabedefended the price roll back on thegrounds that profiteering businesses werepart of a Western conspiracy to bringback colonialism. Since the cost of pro-ducing goods exceeded government-imposed sale prices, business shut downproduction. Mobs seized basic dietarystaples such as bread, sugar, and corn-meal, leaving store shelves naked.

In February 2007, Zimbabwe’s centralbank declared inflation illegal and that any-one who raised prices or wages betweenMarch 1 and June 30 would face arrest andpunishment. Gangs of price inspectors

patrolled shops and factories for violationsof price caps, and 4,000 business peoplesuffered arrests, fines, and incarceration(Wines, August 2007). Trade union officialsmet with beatings at the hands of police.Many Zimbabweans survived with the helpof relatives who fled to other countries andsent food to the relatives who remainedbehind. Doctors report a rising incidenceof diseases associated with poverty, suchas tuberculosis and malnutrition, includingamong the whites who where once part ofthe wealthier classes.

By the time President Mugabe and hisZANU-PF faced reelection on March 29,2008, the inflation had soared to anannual rate of 150,000 percent and hisgovernment was facing major opposition(Wall Street Journal, 2008).

See also: Hyperinflation in Belarus, Hyperinfla-tion in Georia, Hyperinflation in Post–SovietRussia

ReferencesWall Street Journal (Eastern Edition, New

York). “Amid Zimbabwe’s EconomicCollapse, Desperate Investors Send Mar-ket Soaring.” September 15, 2000, p. A17.

Wall Street Journal (Eastern Edition, NewYork). “Freedom for Zimbabwe.” March21, 2008, p. A13.

International Monetary Fund, World Eco-nomic Outlook, September 2002 andOctober 2008.

Wines, Michael. “How Bad Is Inflation inZimbabwe?” New York Times (EasternEdition, New York) May 2, 2006, p. A1.

Wines, Michael. “Caps on Prices OnlyDeepen Zimbabweans’ Misery.” New YorkTimes (Eastern Edition, New York)August 2, 2007, p. A1.

Wines, Michael. “As Inflation Soars, ZimbabweEconomy Plunges.” New York Times (EasternEdition, New York) February 7, 2007, p. A1.

Hyperinflation in Zimbabwe | 229

231

I

INCONVERTIBLE PAPERSTANDARD

An inconvertible paper standard is a mon-etary standard based on paper money,either banknotes or government currencythat cannot be converted into any commod-ity or precious metal at an official rate.Inconvertible paper money is called “fiatmoney” and it bears a face value that mayor may not be expressed in metallic terms.

The inconvertible paper standardevolved directly from precious metalstandards. Originally, paper money circu-lated as something resembling warehousereceipts representing titles to ownershipof gold or silver safely secured with agoldsmith or bank. Exchanging titles ofownership was less risky and costly thanphysically transporting precious metals.From those warehouse receipts evolvedbanknotes, ancestors to the contemporaryFederal Reserve Notes and other ban-knotes of modern central banks.

War and other national emergenciesoften forced governments to put heavyclaims on domestic gold and silver

reserves, and in turn governments grantedbanks the privilege to suspend convertibil-ity of banknotes into precious metal. TheUnited Kingdom suspended convertibilityduring the Napoleonic wars, and theUnited States suspended convertibilityduring the War of 1812 and the Civil War.Suspended convertibility was invariablyattended with some currency deprecia-tion, but often the patriotic fervor of warhelped maintain some monetary order.Government assurances of return to con-vertibility at war’s end also helped protectcurrency values from a wave of inflation.

Two famous paper money fiascoesoccurred toward the end of the 18th cen-tury, the hyperinflations of the Americanand French revolutions. France hadalready had one paper money disasterearly in the 18th century with the episodeof John Law’s bank. The memory of theseepisodes acted as a constant reminder ofthe monetary insanity lurking beneath thesurface of an inconvertible paper moneystandard, and encouraged governments toaccept inconvertibility only as a temporarymeasure.

Between 1866 and 1881, Italy appar-ently made good use of inconvertiblepaper money to assist in the financing ofeconomic development. The episode wascalled Il Corso Forzoso, or “forced cur-rency,” and it was accompanied by amodest depreciation of the lira by 10 to16 percent. Nevertheless, a new govern-ment felt the need to promise a return toconvertibility, which was accomplishedin 1881.

By the beginning of World War I, theworld was on a gold standard. Countriesbanned the export of gold, suspendingconvertibility for international trade, andthe right of domestic convertibility wasrarely exercised. At the end of the war,returning to an international gold stan-dard became an important goal of theworld’s major trading partners.

The world was on a gold standard inthe early 1930s when worldwide depres-sion shook the foundations of the interna-tional monetary system. It was during thisera that inconvertible paper standardsbecame virtually universal among theworld’s major trading partners. Thesecountries went on inconvertible paperstandards for domestic purposes butremained on a gold bullion standard forinternational purposes. In the UnitedStates, private citizens could no longerconvert dollars into gold, and private own-ership of gold for anything but industrialpurposes was illegal. The United Statesand other countries continued to redeemdomestic currency into gold at the requestof foreign central banks. After 1971, theworld’s major trading partners went oninconvertible paper standards for interna-tional as well as domestic purposes, sever-ing the last ties with convertibility.

See also: Gold Reserve Act of 1934, GoldStandard, Gold Standard Amendment Actof 1931

ReferencesChown, John F. 1994. A History of Money.McCallum, Bennett T. 1989. Monetary Eco-

nomics.

INDEPENDENT TREASURY(UNITED STATES)

From the 1840s until 1863, the Indepen-dent Treasury, as it was called, divorcedthe government’s fiscal operations fromprivate sector banks. It accepted pay-ment for public obligations—taxes—only in gold and silver specie andtreasury notes, and operated its owndepositories around the country. TheIndependent Treasury did not acceptbanknotes and did not hold deposits incommercial banks. Its own depositorieswere separate from state banks

The Independent Treasury was born ofthe freewheeling banking environmentthat flourished after the demise of theSecond Bank of the United States. Atfirst, the treasury tried to supply a mod-icum of regulatory discipline by holdingtreasury deposits in state banks andrequiring special specie reserves forthose deposits. The treasury found, how-ever, that its own deposits could be heldhostage to overly aggressive lending poli-cies of state banks, and on occasion thetreasury could not withdraw its funds.During this time, gold and silver speciecommanded a reverence in the eyes of apublic that distrusted banks, banknotes,and even corporations themselves. Largesegments of the public saw banknotes asa sham scheme of the “moneyed inter-ests” to exploit the unwary, and the pro-ponents of the Independent Treasury were“hard currency” people who wanted thegovernment’s business separated frombanks and corporations.

232 | Independent Treasury (United States)

The Sub-Treasury Act of 1840 becamelaw during the presidency of Martin VanBuren, a staunch advocate of the hardcurrency policies that marked the presi-dency of his predecessor, AndrewJackson. Daniel Webster stood flatlyopposed to the bill, remarking on March12, 1938, that “[t]he use of money is in theexchange. It is designed to circulate, notto be hoarded. . . . to keep it that is todetain it . . . is a conception belonging tobarbarous times and barbarous govern-ments” (Chown, 1994). Opponents of thebill saw it turning the treasury into ahoarder of gold and silver, and throwingthe private sector into a deflationary spi-ral. Banks held gold and silver specie toact as reserves for the redemption of ban-knotes. If the government began absorbing

gold and silver specie, banks would beforced to contract the supply of circulat-ing banknotes.

After heated political combat, Congressenacted the Sub-Treasury Act on June 30,1840. It provided that in the first year one-fourth of public obligations, that is, taxes,should be paid in specie, and by 1843,100 percent of public obligations shouldbe paid in specie. In 1843, Congressrepealed the first Sub-Treasury Act.

In 1846, Congress enacted a secondSub-Treasury bill. This bill required thatgovernment offices accept only gold andsilver specie and treasury notes (nonlegal-tender paper money issued by the treasury)in payment of public obligations. TheIndependent Treasury System lasted insome form until 1920. As early as 1863,however, the treasury began to holddeposits in commercial banks.

In its pre–Civil War phase, the Inde-pendent Treasury proved that the fears ofsome of its critics were well founded.Problems arose because treasury tax col-lections did not coincide with govern-ment expenditures. When tax collectionsrose above government payments, specieleft private banks and entered treasurydepositories, forcing banks to contractbanknote circulation. When governmentpayments overtook tax collections, specieflowed into the banking system, andbanks issued more banknotes. The ebband flow of specie from treasury deposi-tories imparted a cyclical motion to thesupply of circulating banknotes, andacted to destabilize the economy. Afterthe treasury was allowed to maintaincommercial bank deposits, the treasurylearned to conduct the government’s fiscaloperations without rocking the bankingsystem.

The Independent Treasury System rep-resents another episode in the paper

Independent Treasury (United States) | 233

Campaign print issued in support of Democra-tic incumbent Martin Van Buren’s 1840 presi-dential bid. Designed to appeal to theworkingman, the print invokes the recenthistory of Democratic support of laborinterests, including Van Buren’s support of theIndependent Treasury Bill, passed in July,1840. (Library of Congress)

money drama that would eventuallydefine the terms on which the publicwould come to accept paper money. Itrepresented a phase in which societies hadcome to accept precious metal coins,something that could not be taken forgranted in ancient societies. Despite theacceptance of precious metal coins, feel-ings about paper money ran high, and sus-picion about paper money gained groundquickly in hard times. Distrust of papermoney left a social seam, often hidden,but always threatening to rip open andbecome a power force in political life.

See also: Free Banking, Specie Circular, TreasuryNotes

ReferencesChown, John F. 1994. A History of Paper

Money.Hammond, Bray. 1957. Banks and Politics in

America from the Revolution to the CivilWar.

INDEXATION

Indexation is a method of controlling theincome-redistributing effects of inflation.Inflation is a decrease in the purchasingpower of a unit of money. Householdsand businesses that supply commodities,credit, and raw materials under long-termcontracts have revenues and incomesthat are fixed regardless of what is hap-pening to other prices. In an inflationaryenvironment, revenues from long-termcontracts diminish in real terms, that is,in real purchasing power.

Redistributive effects of inflationsignificantly harm important players in theeconomic system. With inflation, saversand lenders find their wealth losingvalue while in the hands of otherhouseholds and businesses. The real

losses to savers and lenders occurbecause their wealth is defined in termsof a unit of money that steadily, perhapsrapidly, buys less. Debtors stand to gainwindfall profits from inflation that canreduce the value and burden of a debt,or, under hyperinflation, even eliminatea debt in practical terms.

Governments are suspected of gener-ating inflation as a means of cancelingvast public debts too large to service. Inthe aftermath of World War I, the Ger-man government, shouldering a vastpublic debt from wartime expenditurescoupled with war reparations, fueled anepisode of hyperinflation that renderedits pubic debt null and void. The U.S.government emerged from World War IIwith a sizable public debt, perhapsremoving government incentive toaggressively combat an inflation prob-lem that continued until the early 1980s.

A system of indexation protectshouseholds and businesses whose wealthand income are at risk from inflation.Under indexation, escalator provisionsautomatically administer inflationadjustments to sources of income andassets fixed in money terms by contract.In the United States, Social Securitybenefits automatically receive inflationadjustments geared to the ConsumerPrice Index, a limited application of theprinciple of indexation. Under a full-blown system of indexation, checkingaccounts, savings accounts, long-termand short-term bonds, mortgages, wages,and long-term contracts receive periodicadjustments to keep pace with inflation.

Some economists propose limitedforms of indexation, applying only togovernment bonds and taxable income.This limited indexation automaticallyincreases the maturity value of govern-ment bonds at a rate equivalent to the

234 | Indexation

inflation rate, and withholds from gov-ernment tax revenue paper profits dueonly to inflation. With limited indexation,government is spared the temptation togenerate inflation as a means of cancel-ing public debt, and levying a hidden tax.

As inflationary momentum increasedduring the 1970s, prominent economists,such as Nobel Prize winner Milton Fried-man, proposed that the United Statesadopt a system of indexation. Brazilimplemented a broad system of indexation,and Israel and Canada adopted indexationsystems on smaller scales. Proponents ofindexation felt it would lift the burden offorming accurate inflationary expecta-tions and moderate economic fluctuationscaused by discrepancies between actualand expected inflation. Strong anti-inflationpolicies often induce a bout of highunemployment because expected inflationremains high after the actual inflation ratehas fallen. Indexation should moderate thehigh unemployment that often accompa-nies disinflation. Critics feel that theadoption of a system of indexation isequivalent to giving up the fight againstinflation and observe that inflation hasoften accelerated in countries practicingindexation. The United States neveradopted indexation, and as other countriesenacted market-oriented reforms, systemsof indexation began to lose favor asanother form of government interference.

See also: Hyperinflation in Brazil, Inflationand Deflation, Tabular Standard of Mass-achusetts Bay Colony

ReferencesFellner, William. 1974. “The Controversial

Issue of Comprehensive Indexation.” InEssays on Inflation and Indexation, pp.63–70.

Friedman, Milton. “Using Escalators to HelpFight Inflation.” Fortune Magazine, July 1974.

Weaver, R. Kent. 1988. Automatic Govern-ment: Politics of Indexation.

INDIAN RUPEE

See: Cattle, Indian Silver Standard, MughalCoinage

INDIAN SILVERSTANDARD

During the last quarter of the 19th century,when the world was abandoning bimet-allism in favor of the gold standard, Indiaadapted its silver standard to a modifiedgold system that held gold reserves to main-tain the value of an entirely silver coinage.

The Indian currency system hadalways attracted the curiosity of theBritish. In 1772 the eminent economistSir James Steuart advanced a recommen-dation to the East India Company “forcorrecting the DEFECTS of the presentCURRENCY.” John Maynard Keyneswrote his first book, Indian Currencyand Finance, after serving on a commit-tee studying India’s monetary system.

A bit of the impression India’s 19th-century monetary system left on con-temporary British observers may begleaned from a quotation of A. J. Balfour,later prime minister of Great Britain:

What is the British system of cur-rency? . . . You go to Hong Kong andthe Straits Settlements, and you findobligations are measured in silver;you go to England, and you find thatobligations are measured in gold;you stop half way, in India, and youfind that obligations are measured insomething which is neither gold norsilver—the strangest product of

Indian Silver Standard | 235

monometallist ingenuity which theworld has ever seen—a currencywhich is as arbitrary as any forcedpaper currency which the world hasever heard of, and which is as expen-sive as any metallic currency that theworld has ever faced, and which,unhappily, combines in itself all thedisadvantages of every currencywhich human beings have ever triedto form. (Chown, 1994, 100)

Between 1835 and 1893, India prac-ticed what in the United States was called“free silver,” a silver standard thatallowed anyone to bring silver to theIndian mint for coinage. Only two coinswere struck, the silver rupee and the silverhalf-rupee, and only silver coins werelegal tender. Gold was not legal tender,and the mint did not strike gold coins.

As long as the European bimetallicsystem remained a viable monetary sys-tem, preserving a constant ratio of silverto gold of about 15.5 to 1, the Indian sys-tem functioned with a stable exchangerate between the silver rupee and Britain’sgold pound sterling. India’s silver rupeeequaled 22.39 pence under Britain’s goldstandard. After Western trading partnersbegan shifting over to the gold standard inthe 1870s, the value of silver fell,adversely affecting the terms of trade ofcountries on the silver standard, mainlyChina, India, and Japan. Prices of bothdomestic and foreign goods rose in India,putting a squeeze on the household budg-ets of civil servants and other groups onfixed incomes.

In an effort to raise the value of the sil-ver rupee, the government suspended theprivate coinage of silver in 1893, hopingto manage the supply of silver currencyand maintain its value in gold. Thevalue of the silver rupee modestly

climbed relative to gold to a rate of 1shilling and 4 pence per rupee, or 15rupees per British sovereign. The gov-ernment stood ready to redeem silverrupees and paper rupees in gold at an offi-cial rate of 1 shilling and 4 pence ingold per rupee. The silver coinage nowwore the aspect of a token coinagewhose value was supported in the samemanner as the value of paper rupeeswas supported. India became a goldstandard country, but its only circulat-ing coinage was silver.

The limitation on Indian coinage of sil-ver, coupled with high Indian interestrates needed to support the rupee interna-tionally, depressed economic conditionsin India and led to further calls for cur-rency reform. In 1898, another govern-ment commission studied the problemand recommended that India bolster itsgold reserves and issue gold coinage.These new reforms failed to bring mone-tary relief to India, and in 1912, theBritish government formed the RoyalCommission on Indian Currency andFinance, including among its membersJohn Maynard Keynes, who would laterbecome the most famous economist of the20th century. Keynes wrote a book onIndian currency in which he recom-mended that India remove gold coinsfrom circulation and concentrate goldholdings in a state bank that would use thegold as reserves to support banknotes.

See also: Bimetallism, Gold Standard, Silver

ReferencesCarter, Martha L. 1994. A Treasury of Indian

Coins.Chown, John F. 1994. A History of Money.Keynes, John Maynard. 1913. Indian Cur-

rency and Finance.Laughlin, J. Laurence. 1968. The History of

Bimetallism in the United States.

236 | Indian Silver Standard

INFLATION ANDDEFLATION

Inflation presents itself as an overall risein the general price level, meaning thatthe average level of all prices is rising,rather than the prices of a select fewgoods and services. A closer examina-tion suggests that inflation is a decreasein the value (purchasing power) of a unitof money, perhaps because of anincrease in the supply of money relativeto demand. Deflation is the reverse—afall in the average level of prices. Historyappears to be inflationary, althoughepisodes of deflation are numerous.

Inflation is measured by the growthrate in price levels calculated as weightedaverages of prices of a spectrum of goodsand services. In the United States, the

gross domestic product deflator (GDPD)measures the price level for all goods andservices, including factory equipmentand other goods bought by businesses,luxury goods, and goods bought by thegovernment. Another index, the consumerprice index (CPI), measures the pricelevel for goods and services that are asso-ciated with the basic cost of living,including food, gasoline, utilities, housing,clothes, and so on.

Wartime government expenditures cannearly always be counted on to createinflationary pressures, as happened in theUnited States during World War II. Atthat time, the U.S. government enactedwage and price controls to contain infla-tion. The price controls were lifted at theend of World War II, but inflationremained a problem throughout the ColdWar era. Inflation tends to become aproblem whenever governments do notwant to levy the taxes sufficient to supportgovernment expenditures.

Economists often see controllinginflation as a problem in maintaining thevalue of money, which rises in value asthe money supply is restricted. In the1980s, a prolonged reduction in thegrowth of the money supply ended theinflationary inertia in the U.S. economy.

A slow steady rate of inflation that iseasily anticipated causes less disruptionthan high inflation rates showing sub-stantial volatility. Inflation in the range of300 percent annually or higher is called“hyperinflation.” This brand of gallopingor runaway inflation is often associatedwith the complete breakdown of society.

The last quarter of the 19th centurysaw deflation in the United States andseveral European countries. Deflationputs a burden on debtors, who find itharder to earn money to repay debts thatremain fixed in value as wages and

Inflation and Deflation | 237

World War II-era Office of Price Administrationposter lays out the basics of inflation.(National Archives)

profits fall. In the late 19th century,debtor hardship attributable to deflationfueled a populist revolt in the UnitedStates that nearly propelled William Jen-nings Bryan to the presidency. Bryandecried the gold standard as “crucifying”mankind on a cross of gold. The supplyof gold was not keeping pace with rapidincreases in production due to technol-ogy, causing the supply of goods toincrease faster than the supply of money.Prices fell, and Bryan proposed toincrease the coinage of silver, adding tothe money supply and easing deflationarypressures.

See also: Hyperinflation during theAmerican Revolution, Hyperinflationduring the French Revolution, Hyperin-flation in Post–World War I Germany

ReferencesMcCallum, Bennett T. 1989. Monetary Economics:

Theory and Policy.Sargent, Thomas. 1993. Rational Expecta-

tions and Inflation, 2nd ed.Weintraub, Sidney. 1978. Capitalism’s Inflation

and Unemployment Crisis.

INFLATIONARY EXPECTATIONS

Inflationary expectations are what house-holds and businesses think the inflationrate will be in the future. Inflation is arise in the general or average level ofprices, a decrease in the purchasingpower of a unit of money. Economicdecisions involving long-term contracts,interest rates, and purchases of capitalgoods entail added complications, partlybecause households and businesses donot know what future inflation rates willbe. If households and businesses expectprices of durable goods to rise in the

future, they will speed up the purchase ofthese goods to beat inflation. If lendersexpect higher inflation in the future, theywill increase interest rates, particularlyon long-term loans. Certain economicdecisions force households and busi-nesses to form opinions about what infla-tion rate to expect in the future.

Economists theorize that at any timethere is a general, or census, rate ofexpected inflation. This expected infla-tion rate influences economic decisionsand is directly linked to interest rates ona one-to-one basis. A 1 percent increasein expected inflation leads to a 1 percentincrease in interest rates.

A difference between expected infla-tion and the inflation that actually materi-alizes has real repercussions in theeconomy. Creditors gain when actualinflation comes in lower than wasexpected. In that case, the high interestrates that creditors charged to protectthemselves against inflation turn into awindfall gain. Debtors gain and creditorslose when actual inflation comes in higherthan was expected. In that case, creditorsfail to protect themselves adequatelyagainst inflation, and debtors are able toborrow funds at low interest rates to buydurable goods before the prices of thesegoods go up. In summary, an excess ofexpected inflation above actual inflationredistributes income in favor of creditors,and an excess of actual inflation aboveexpected inflation redistributes income infavor of debtors.

The adverse effects of inflation arelargely minimized when actual inflationand expected inflation are equal, that is,when inflation is accurately anticipated.Shoe-leather costs and menu cost are twocosts that inflation imposes on an econ-omy even if the inflation is perfectlyanticipated. “Shoe-leather costs” refer to

238 | Inflationary Expectations

the cost and inconvenience of the addednumber of financial transactions house-holds and businesses undertake to avoidcosts of inflation. Inflation, even if per-fectly anticipated, erodes the value ofcash holdings. In an inflationary environ-ment, households and businesses reducecash holdings and keep a larger proportionof wealth in the form of assets that offersome protection against inflation. Thisreallocation entails more trips to financialinstitutions to convert other assets intocash as cash is needed to finance dailytransactions. The cost of these trips iscalled “shoe-leather cost.” “Menu costs”refer to the cost of updating menus andprice catalogues more often to reflect cur-rent pricing. In addition to these costs,even inflation that is perfectly anticipatedimposes some drag on efficiency. Relativeprices between goods and services exhibitsome added volatility because of differ-ences in the frequency at which variousfirms and industries change prices. Thecase of equality between actual inflationand expected inflation is theoreticallypossible but unlikely in practice.

Unlike other economic indicators,there is no ready gauge of expected infla-tion. An important step forward in meas-uring expected inflation came after theU.S. government began issuing inflation-indexed bonds. The difference in interestrates between an inflation-indexed gov-ernment bond and a regular governmentbond gives a measure of expected infla-tion at least among participants in thegovernment bond market. Economistshave also tried to measure expected infla-tion by surveying households and busi-nesses and by extrapolating past inflationrates. It is likely that extrapolations andmoving averages of past inflation rates area major determinate of expected inflation.Attitudes toward current government

budgetary and monetary policy may alsoinfluence expected inflation.

One of the most difficult economic sit-uations occurs when deflation is expected.Deflation gives households and businessesan incentive to postpone purchases ofdurable goods, knowing these goods willbe less costly in the future. Under defla-tion, holding on to cash becomes attractivebecause its purchasing power goes updaily. If expectations of deflation arestrong enough, increases in the moneysupply will fail to increase spending orarrest falling prices.

See also: Fisher Effect, Inflation

ReferenceAbel, Andrew B., Ben S. Bernanke, and

Dean Croushore. 2008. Macroeconomics,6th ed.

INFLATION TAX

An inflation tax is a tax on cash. Inflationreduces the real purchasing power of cash.After inflation, holders of cash can buyless with that cash. The decrease in whatcan be purchased with a fixed amount ofcash is the tax paid on that cash.

Like all taxes, the inflation tax is a taximposed by government and the proceedsgo to pay for government expenditures. Agovernment initiates an inflation tax byprinting money to pay for goods and serv-ices instead of raising sufficient revenuethrough taxation or borrowing. As themoney stock grows relative to the pro-duction of goods and services, prices rise,leaving households and businesses poorerto the extent that they hold cash balancesrepresenting less purchasing power. If theinflation rate is 10 percent, then an indi-vidual holding $1000 cash for a year istaxed at a rate of 10 percent on that cash.

Inflation Tax | 239

Like any property tax, households andbusinesses can avoid the inflation tax bynot holding cash. Economists theorizethat there is an optimum inflation rate atwhich the tax revenue from the inflationtax reaches a maximum. Inflation ratesbeyond the optimum rate cause cashholdings to shrink to the point that taxrevenue from the inflation tax contractsin terms of real purchasing power. Atlower inflation rates, households andbusinesses are more willing to pay theinflation tax, regarding it as a necessaryexpense to enjoy the convenience ofholding cash.

The inflation tax can generate gov-ernment revenue in other ways. Bypushing taxpayers into higher taxbrackets, the inflation tax brings inadditional tax revenue. In addition,inflation reduces the real, inflation-adjusted amount of debt that a govern-ment owes. Usually, no additional taxcollectors and mechanisms are neededto collect the inflation tax.

Critics observe that the inflation tax istaxation without consent. Without anykind of legislative approval or even publicannouncement of a tax increase, the gov-ernment increases the tax burden oncitizens. Critics also cite the numerousnegative effects of inflation.

Economists seemed to have knownabout inflation tax for several centuriesbut paid it little attention until the 20thcentury, when paper money begin todominate monetary systems. The famous20th-century economist John MaynardKeynes credited Rome with discoveringthe power of taxation through currencydepreciation. In 1922, Keynes gave thefirst full treatment in English of the infla-tion tax. In his article, “Inflation as aMethod of Taxation,” Keynes hinted thatthe Soviets preceded him in regarding

inflation as an instrument of taxation.Evgeni Alexeevitch Preobrazhensky(1886–1937), a Soviet economist, wrotethe book Paper Money in the Epoch ofProletarian Dictatorship, published inRussian in 1920, predating Keynes’s arti-cle. Preobrazhensky argued that inflationwas a highly effective policy for divert-ing resources from the private to thesocialized sector and for expropriating themoney capital of the bourgeoisie. Oneoften quoted line from Preobrazhensky’sbook on paper money referred to theprinting press as “that machine gunwhich attacked the bourgeois regime inthe rear.”

The idea of inflation as a tax on cashbalances caught on rapidly in the UnitedStates following World War II. It gave arationale for a government that seemed abit complacent in combating inflation.The Nobel Prizing economist MiltonFriedman broached the subject first inhis book Essays in Positive Economics,published in 1953. By the 1980s, theidea had entered into political debate,and “inflation tax” became a householdphrase.

See also: Forced Savings, Seigniorage

ReferencesAbel, Andrew B., Ben S. Bernanke, and

Dean Croushore. 2008. Macroeconomics.Kleiman, Ephraim. “Early Inflation Tax Theory

and Estimates.” History of Political Economy,vol. 32, no. 11 (2000): 265–298.

INTEREST RATE

The interest rate can be regarded asthe cost of money, expressed as apercentage. If the annual interest rateis 10 percent, an individual borrowing$100 for a year pays $10 interest.

240 | Interest Rate

Decimalized currency systems sub-stantially facilitated the calculation ofinterest. This is one reason countriesrapidly adopted decimalized currencysystems during the 19th century.

Theoretically, interest rates adjust toa level at which the interest earned on$100 invested in financial assets (forexample, corporate bonds) equals theincome earned from the ownership of a$100 worth of capital goods (for exam-ple, tools, machinery, buildings). Dur-ing the recovery phase of the businesscycle, interest rates tend to rise as cap-ital goods become more productive,and in the recession phase, interestrates tend to fall as capital goods loseproductivity.

During early European history, reli-gious authorities regarded charging inter-est as a sinful means of earning income.Governments either banned interest orput a legal ceiling on interest rates. In theUnited States, state usury laws limitinginterest rates were common as late as the1970s. Most of them have now beenrepealed.

Historically, the highest peaks ininterest rates have occurred duringwartime. Interest rates reached historiclevels during the Napoleonic Wars andduring World War I. Wars are often theoccasion for heavy government borrow-ing and high inflation, both of which areenemies to low interest rates. The legacyof the Depression and wage and pricecontrols helped keep a lid on interestrates during World War II, but the era ofthe Cold War, from 1946 to 1983, sawthe longest upswing in interest ratessince the beginning of the 18th century.

Governments may act purposely toreduce interest rates as an antidote todepression. In 1998, the Federal ReserveSystem in the United States acted to lower

interest rates to prevent a global financialcrisis from spreading to the United States.Again in 2008, the Federal Reservepushed its benchmark interest rate from5.25 percent to almost zero (Hilsenrathand Evans, January 7, 2009) That is thelowest interest rate on record for the federalfunds rate.

See also: Usury Laws

ReferencesBarro, Robert J. “Government Spending,

Interest Rates, Prices, and Budget Deficitsin the United Kingdom, 1701–1918.”Journal of Monetary Economics no. 20(September 1987): 221–248.

Hilsenrath, Jon, and Kelly Evans. “Fed OutlookDarkens on Economy.” Wall Street Journal(Eastern Edition, New York) January 7,2009, p. A1.

Homer, Sidney. 1977. A History of InterestRates.

INTEREST RATE TARGETING

Interest rate targeting is the most widelypracticed method and strategy thatcentral banks use for the implementa-tion of monetary policy. Large, highlydeveloped economies have centralbanks that bear responsibility for mone-tary policy. Regulation of the moneysupply, interest rates and credit condi-tions is monetary policy. In the conductof monetary policy, central banks aim toachieve ultimate goals, such as low orno inflation, full-employment, and anoverall prosperous and stable economy. Acentral bank, however, cannot directlyaffect the inflation rate, unemploymentrate, or other economic indicators thatmeasure the achievement of theseultimate goals. It is true that statistical

Interest Rate Targeting | 241

242 | Interest Rate Targeting

correlations between inflation rates andmoney stock growth rates indicate astrong linkage between the two, but thelinkages between central bank actionsand money stock growth is not thattight. Central banks have policy meas-ures that can affect money stock growth,but central bank control over monetarystock growth is far from absolute.Although setting targets in terms ofmoney stock growth may seem a moredirect approach to controlling inflation,in practice most central banks opt forsetting interest rate targets instead.

Under interest rate targeting, a centralbank selects an interest rate that it caneasily and precisely control. It will be ashort-term interest rate because the long-term rates are less controllable. TheFederal Reserve System in the UnitedStates targets the federal funds rate.Commercial banks pay that interest ratewhen they borrow reserves from eachother overnight. It is an unsecured loan.By buying and selling governmentbonds, the Federal Reserve System canpeg the federal funds rate at a certainlevel. Control over the federal funds rateis much tighter than control over moneystock growth.

The idea behind interest rate targetingis that there is some neutral interest rate.At that neutral interest rate, the economywill operate at full-employment withoutinflation. At an interest rate below theneutral rate, households and businessesbecome too aggressive in borrowingfunds, which can be inflationary. If banksexpand lending at full-employment, themoney stock grows faster, the demandfor goods outruns the supply, and infla-tion rises. At an interest rate above theneutral rate the reverse happens. Higherinterest rates slacken household andbusiness demand for bank loans. Banks

contract lending, leading to slowermoney stock growth. With less money incirculation, the demand for goods weak-ens relative to the supply, causing fallinginflation and rising unemployment.

The practice of interest rate targetingevolved over time. In 1995, the FederalReserve began to publically announce aspecific target for the federal funds rate.The Federal Open Market Committeefixes the target rate, and rarely changes itmore than a quarter of a percentage pointat each meeting. If the Federal OpenMarket Committee feels that inflation isthe primary risk facing the economy, itwill raise the targeted federal funds rate. Ifunemployment and recession appears theprimary risk, the Federal Open MarketCommittee lowers the targeted federalfunds rate.

The practice of interest rate targetinghas drawn some critical fire for havingan inflationary bias. Critics argue thatinterest rates are one of the stabilizingvariables in the economy. An excessivedemand for credit exerts upward pres-sure on interest rates. If interest ratesare allowed to go up, they will moder-ate the excessive demand for credit,decreasing the chance that an expan-sion of credit will fuel an inflationaryspiral. If a central bank prevents interestrates from going up in this scenario, itgives unwitting support to inflationaryforces. In summary, holding interestrates constant in the face of fluctuationsin the demand for credit may interferewith the stabilizing role of interestrates. Part of the problem is that no oneknows exactly how to gauge the neutralinterest rate. There is no way to meas-ure it, and it does change (Wu, October21, 2005, 2).

Despite criticisms, interest rate tar-geting has become the favored strategy

of monetary policy. During the 1970s,rising inflation discredited the practiceof interest rate targeting. In 1979,facing double-digit inflation, the Fed-eral Reserve adopted the practice of tar-geting non-borrowed reserves. Changesin non-borrowed reserves change theability of commercial banks to extendcredit and change the money stock.Proponents of non-borrowed reservetargeting argued it gave the central banktighter control over the money stockgrowth. It turned out that targeting non-borrowed reserves led to greater volatil-ity in money stock growth and interestrates. In 1982, the Federal Reserveabandoned the practice of targetingnon-borrowed reserves. It introducedanother policy that worked out in prac-tice to be similar to interest rate target-ing. In the 1990s, the Federal Reservereverted to a more explicit policy ofpracticing interest rate targeting. TheFederal Reserve had been explicitlyfollowing a policy of interest rate tar-geting for well over a decade when theU.S. financial crisis erupted in 2008. InDecember 2008, the Federal Reservestook the unprecedented step of pushingits targeted interest to almost zero, wellbelow one percentage point (Hilsenrathand Evans, 2009).

See also: Federal Open Market Committee

ReferencesDavis, Richard G. “Intermediate Targets and

Indicators of Monetary Policy.” QuarterlyReview, vol. 15, no. 2 (1990): 71–83.

Hilsenrath, Jon, and Kelly Evans. “Fed OutlookDarkens on Economy.” Wall Street Journal(Eastern Edition, New York) January 7,2009, p. A1.

Wu, Tao. “Estimating the ‘Neutral’ RealInterest Rate in Real Time.” FRBSF Eco-nomic Letter, no. 2005–27 (Oct 21, 2005).

INTERNATIONALMONETARY CONFERENCE

OF 1878

The International Monetary Conferenceopened in Paris on August 10, 1878. TheConference was called at the request of theUnited States, which wanted to push for aninternational bimetallic monetary system.It utterly failed to live up to expectations.On July 23, 1878, the New York Times hadprinted an editorial with the heading, “Pro-moting the Federation of the World,” sug-gesting that the Conference would lead tothe establishment of an international goldmetric coinage unit and the new coinageunit would inculcate “true notions of thenature and purposes of money” (Nugent,254). The idea of an international coinageunit lingered in the background of the con-ference, partly as a pretext for some countriesto attend the conference, but it never sur-faced as a goal to be reached.

The seeds for the Conference weresown with the passage of the Bland–AllisonAct in the United States. This act beganin Congress as a free silver act, butpassed Congress, over a presidentialveto, as an act requiring the treasury tocoin silver up to a fixed amount and askingthe government to call an internationalconference to negotiate a world bimetal-lic standard. A world bimetallic standardwould fix worldwide an official ratio ofgold to silver. The United States hopedthat if all governments set the same offi-cial ratio of gold to silver, the officialworld ratio would dominate the free mar-ket ratio, arresting the plunge of silvervalues in the free market.

The United States, possessing vast silverdeposits, wanted to retain silver as a mon-etary metal, but the wealthier nationswere rapidly shifting to a gold standard.

International Monetary Conference of 1878 | 243

The United Kingdom practiced “imperialbimetallism,” maintaining herself on agold standard, and India on a silver stan-dard. Germany was selling off silverreserves after the adoption of the goldstandard in 1871, and refused to attendthe conference. The Latin MonetaryUnion countries, the largest being France,had ceased the coinage of silver becauseof its plunging value and were not favor-ably disposed toward resuscitating silver.

The representatives of the UnitedStates, isolated from the outset of theconference, found no crack in the diplo-matic armor of the forces arrayed againsta revival of bimetallism. A Dutch dele-gate suggested that the United Statesmight look for monetary allies among theless-developed world (Latin America,Asia, etc.), hinting that the United Statesmight belong with the less-developedcountries itself and prompting a U.S. del-egate to ask for a clarification. The Euro-pean conference delegates offered to letthe United States save face by turning theConference into a series of sessions oncoinage and bullion practices around theworld, but the United States remainedunswerving in its commitment to aninternational bimetallic standard.

On August 28, 1878, the conferencedelegates recessed for 45 minutes to letthe European delegates reach an agree-ment on an answer to the U.S.proposal. The European delegatesflatly turned down the proposal, sayingthat each nation, governed by its spe-cial situation, should set its own mone-tary standard.

The Conference of 1878 dropped thecurtain on bimetallism, and by 1880, theworld was squarely on a gold standard.The United States, the staunchest sup-porter of silver among the monetarypowers, stood against the adoption of a

bimetallic standard unless it was part ofan international agreement.

The idea of an international monetaryunit surfaced in the latter 19th century,and it is an idea that may yet be realized.Adoption of an international monetaryunit would encourage international tradeby reducing the risk of changingexchange rates between currencies andfacilitating cost comparisons betweengoods produced in different countries.Europe has already launched a Europeancurrency, the euro, to replace nationalcurrencies in Europe, and the growth ofinternational trade may push the worldtoward the adoption of an internationalmonetary unit. Presently, the U.S. dollarfulfills some of the roles of an interna-tional monetary unit.

See also: Bimetallism, Latin Monetary Union

ReferencesBordo, Michael D. 1994. Monetary Regimes

in Transition, ed. Forrest Capie.Nugent, Walter T. K. 1968. Money and American

Society, 1865–1880.Willis, Henry Parker. 1901. A History of the

Latin Monetary Union.

INTERNATIONALMONETARY FUND

The International Monetary Fund (IMF),is a supranational lending institutionwhose primary mission lies in furnishingshort-term credit for countries sufferingbalance of payments deficits. Balance ofpayment deficits occur when a country’soutflow of money from transactions withforeign countries exceeds its inflow. Likeits sister institution, the World Bank, theIMF was born of the Bretton WoodsConference. That 1944 meeting of inter-national monetary officials put foreign

244 | International Monetary Fund

exchange markets under a system offixed exchange rates—a system thatlasted until 1971. The IMF began opera-tions in 1946 and in 1964 it founded itsheadquarters in Washington, D.C.Although the mission of the World Banklay in financing development and recon-struction projects, the IMF bore respon-sibility for loaning foreign currencyreserves to countries on a short-termbasis.

An excess of imports and investmentin foreign countries relative to exportsand domestic investment financed by for-eign investors causes an excess outflow ofa country’s currency. This leads to cur-rency depreciation in foreign exchangemarkets unless some type of marketintervention occurs. A country can pre-vent currency depreciation by borrowingforeign currencies from the IMF andusing these foreign currencies to pur-chase its own currency in foreignexchange markets, increasing the demandfor its own currency and arresting itsdepreciation.

The funds of the IMF come fromsubscriptions of member countries,which contribute on the basis of suchvariables as national income and for-eign trade. In 1946, member countriesnumbered 35, but by 1998, the numberhad grown to 182 countries. Soviet bloccountries did not join the IMF untilafter their transition to market coun-tries. The United States has the largestquota of contributions and in 1998 con-tributed about 18 percent of all IMF funds.Each country contributes sums of itsown currency, which serve as the IMF’slending capital. Out of these funds, theIMF might make foreign currency loansto countries that use the proceeds to buyup excess amounts of their own currencyin foreign exchange markets. The

borrowing country puts up its own cur-rency as collateral for such a loan.

Perhaps the greatest economic inno-vation of the IMF during the period offixed exchange rates was the develop-ment of Special Drawing Rights (SDRs),sometimes referred to as “paper gold.”By international agreement, the SDRsare exchangeable for other currenciesjust as gold reserves.

Under the fixed exchange rate system,the IMF loaned funds to countries thatneeded to intervene in foreign exchangemarkets to maintain the values of theircurrencies at the fixed rates. Under thefloating exchange rate system, the indus-trially developed countries had little needof the resources of the IMF. The IMFturned its attention to the less-developedcountries, making longer-term loans tofinance balance of payments of deficits,and granting soft loans to the poorest ofthe world’s countries. These balance ofpayments deficits allowed these countriesto import capital.

The oil price revolution of the 1970snot only pushed the fixed exchange ratesystem to the breaking point, but also puta heavy burden on the less-developedcountries of the world, which responded

International Monetary Fund | 245

Headquarters of the International MonetaryFund in Washington, D.C. (InternationalMonetary Fund)

by incurring large amounts of debt toforeign lenders. During the 1980s, highinterest rates increased the cost of servic-ing this debt, and reduced exports to therecession-ridden United States, decreas-ing the inflow of dollars needed to servicethis debt. Many of the less-developedcountries also turned to inflationarypolicies at home, further endangering theinvestments of foreigners. Under theseconditions, the IMF assumed the thank-less task of requiring these countries tofollow responsible monetary and fiscalpolicies as a condition for receiving addi-tional IMF credit. The IMF usuallyrequires policies of high interest rates,depreciated currencies, and smallerbudget deficits, translating as less socialspending. Private lenders often refusecredit to countries that fail to follow IMFadjustment programs.

The decade of the 1990s kept the IMFunusually busy. The decade opened withSoviet bloc countries making the transi-tion to market economies and needingdomestic currencies convertible intohard currencies at stable exchange rates.The IMF provided expertise on theorganization of central banks and suppliedloans of hard currencies such as U.S.dollars to help these countries stabilizetheir currencies at stable exchange rates.In 1995, Mexico fell victim to a severefinancial crisis, prompting the IMF toextend a record loan of over $17 billionto that country. Toward the end of thedecade, global financial crisis was plac-ing heavy demands on the resources ofthe IMF. By the end of 1998, Russia hadreceived over $20 billion in loans, and$35 billion was committed to Korea,Indonesia, and Thailand to assist withthe Asian financial crisis.

The U.S. financial crisis of 2008 left theIMF with little role to play. Recapitalizing

banks stood outside its authority. With crisislending to developing countries down, theIMF faced a budget deficit. In April2008, it reduced its workforce by 15 percentto cut costs (Economist, 2008).

See also: Bretton Woods System, Dollar Crisisof 1971, World Bank

ReferencesEconomist. “Finance and Economics: Selling

the Family Gold; The IMF.” April 12,2008, p. 84.

Polak, Jacques J. 1994. The World Bank andthe International Monetary Fund: AChanging Relationship.

Myers, Robert J., ed. 1987. The PoliticalMorality of the International MonetaryFund.

ISLAMIC BANKING

Islamic banking operates in accordancewith Islamic principles, which absolutelyban the payment or receipt of interest.Islamic principles also prohibit banksfrom furnishing capital to firms providingimmoral goods and services, such aspornography. Compliance with prohibi-tions against interest in financial transac-tions is the core difference betweenIslamic banks and their Western counter-parts. For the purpose of banking andfinance, the key point in Islamic principlesis that paying or receiving interest is for-bidden, but earning profits is permissible.A fixed or predetermined rate of returnrepresented by interest violates Islamicprinciples, but an uncertain rate of returnrepresented by profits raises no ethicalissues under Islam. The growth of Islamicbanking began to gain momentum in thelast half of the 1970s as oil revenue beganflowing into the Middle East.

Forms of Islamic banks can varybetween countries but follow a general

246 | Islamic Banking

line. These banks hold two forms ofdeposits, transactions deposits and invest-ment deposits. The transactions depositsbear a strong resemblance to the demanddeposits held by Western commercialbanks. These deposits earn no interest andact as a medium of exchange. The bankguarantees the nominal value of the depositagainst loses. Investment deposits providethe bulk of the Islamic banks’ funds. Thesefunds do not pay interest or a fixed rate ofreturn, and the bank does not guarantee thenominal value of these funds. Investmentdeposits bear a stronger resemblance toWestern style shares of corporate stockthan to the time and savings deposits ofWestern banks. Like shareholders, invest-ment depositors receive a share of theprofit and losses earned by the bank. Thebank only guarantees that the profits andlosses will be distributed between the bankand a depositor in a certain proportion. Theproportion cannot be changed during thelife of a contract.

Islamic banks finance business activityby acquiring profit-sharing assets.Rather than pay interest, an entrepreneurpromises to pay the bank a predeter-mined share of the profits. The bankbears all the financial loss in the case ofunprofitable ventures. Large and long-term ventures usually involve more thanone financial contributor. A predeter-mined share of the profits are distributedto the various contributors according tothe relative size of their respective con-tributions. This system works similar toan equity market in Western capitalismin that shares in an investment projectcan be acquired by the public, banks,central banks, or the government.

In financial arrangements where thereare no profits to be shared, Islamic bankshave other methods. Zero return loans canbe made to individuals. On these loans, the

bank can charge an administrative fee aslong as the fee is a fixed amount and doesnot vary with the value or length of theloan. In the case of installment purchases,the bank can buy a product on the bor-rower’s behalf, and sell it to the borrower ata higher price. The borrower pays a higherprice but can pay the higher price out in aninstallment plan. Some contracts are set upas lease-purchase agreements, in which thebank leases the product to the borrower.Part of each lease payment goes towardfinal purchase of the good when the leaseexpires. Manufacturers and farmers borrowworking capital by selling the finishedproduct or commodity to the bank, with thecondition that the bank will take delivery atsome specified date in the future, perhapsat the end of harvest season.

See also: Bank

ReferencesEconomist. “Banking Behind the Veil.” April

4, 1992, p. 49.Khan, Mohsin, and Abbas Mirakhor.

“Islamic Banking: Experiences in theIslamic Republic of Iran and in Pakistan,Economic Development and CulturalChange, vol. 38, no. 2 (January 1990):353–376.

Kowsmann, Patricia, and Karen Lane. “IslamicBanking Moves Into Singapore; City-StateStakes Claim in Growing Sector; DBS,Mideast Investors Capitalize New Firm.”The Wall Street Journal (Eastern Edition,New York), May 8, 2007, p. C7.

ISLAMIC COINAGE

See: Ottoman Empire Currency

ITALIAN LIRA

See: Carolingian Reform, Corso Forzoso, QuattriniAffair

Islamic Banking | 247

Men pose with ivory tusks in Dar Es Salaam,Tanganyika, the economic center of GermanEast Africa during the 19th century. (Frankand Frances Carpenter Collection)

248 | Ivory

Before the arrival of Arabian traders,tribes in Uganda cut ivory discs thatserved as a favored form of money.Although anyone was free to cut ivorydiscs, no one could kill elephants or pos-sess ivory without the king’s permission,and cutting ivory discs required specialskills possessed only by a few people. Ineffect, the king had a monopoly on thesupply of ivory discs.

During the time of German coloniza-tion of equatorial Africa, fines were set inivory, eventually leaving the colonial admin-istration with a large stockpile. There isalso evidence of an ivory monetary unit inGabon. In Loma, a 100-pound chunk ofivory represented a monetary unit for largetransactions, but it was a fictitious unit, inreality representing an assortment of Euro-pean goods. In the Nama tribe of south-west Africa, ivory represented a stableexport and acted as a medium of exchange.

Ivory has functioned as money prima-rily in Africa. Famous African explorer,John H. Speke, who discovered Lake Victoriaas the source of the Nile, mentioned theuse of ivory as money in his book, TheDiscovery of the Source of the Nile.Henry M. Stanley, in his book, In DarkestAfrica, tells of treasuries of ivory and hisown use of ivory to pay for services ren-dered by tribes. He also wrote of raidingparties that captured slaves mainly toexchange the slaves for ivory. Ivory mighthave acted as money on a grander scale ifit had commanded more religious signifi-cance for the Africans, or if the foreignivory demand had not been so high relativeto the domestic demand.

See also: Commodity Monetary Standard

ReferencesEinzig, Paul. 1966. Primitive Money.Speke, J. H. 1864/1906. The Discovery of the

Source of the Nile.Stanley, Henry M. 1890. In Darkest Africa.

IVORY

The tusks of elephants are composed ofivory, a substance much in demandthroughout history for its durability andbeauty. The demand for ivory has nearlybecome the downfall of elephants, whichhave been decimated in large numbers forthe sake of their tusks.

The role that ivory has played as moneyis rather limited, in spite of the fact that itsaesthetic qualities and durability give itsome of the same attraction as precious met-als. In mountain villages on the island of IliMandriri in the Indonesian archipelago,islanders used ivory as a store of value andmark of social status. An individual’s socialstanding was a function of the number andsize of ivory tusks that he or she owned. Itappears that not too far in the past ivory alsoserved as a medium of exchange. In thepost–World War II era, the islanders stillused ivory as the main form of bride money.

249

J

JAPANESE DEFLATION

Between 1999 and 2005, Japan experi-enced deflation (International MonetarayFund, 2003, 2008). That is, on average,prices fell. Between 1985 and 1994,Japan experienced an average inflationrate of 1.4 percent, a relatively low infla-tion rate by world standards. A slowingeconomy brought the inflation rate downto negative territory in 1995. It reboundedand climbed to the 2 percent range in1997, before falling again, sinking intonegative territory by 1999. The inflationrate of consumer prices stood at zero in2007. The inflation rate of consumerprices edged into positive territory in2008.

The economic deceleration thatmarked the beginnings of deflationbegan when an asset bubble burst. In1986, the Nikkei Index of the Tokyostock market stood in the 12,000 range(www.finance.yahoo.com). The markettook off, reaching the dizzy height ofroughly 39,000 in 1989. Then the marketbegan unwinding, sinking to the 15,000range in 1992. The market never

recovered its previous high. In October2008, the Tokyo stock market sank to6994.9.

In monetary systems managed bymodern central banks, unwanted anduncontrolled deflation poses a puzzle inthe eyes of many observers. In the past,central banks were limited in theamount of paper money they could issueby a gold standard. Today, central bankscan issue as much money as is consis-tent with stable prices. If a country iscaught in a deflationary spiral, thecentral bank is free to augment domesticcirculating money stocks until pricesstop falling. The concept that printingmore money leads to inflation is standardeconomic doctrine.

The trend toward deflation markedthe end of a spectacular phase of eco-nomic development in Japan. Between1960 and 1973, economic growth inJapan averaged 9.8 percent annually,over twice the rate of most developedcountries. Between 1973 and 1980,economic growth in Japan slipped to3.9 percent, still a relatively high growthrate for that period. The United States

averaged 2.1 percent growth for thesame period. Nearly all countries expe-rienced a substantial deceleration ofgrowth for that time frame. Between1980 and 1988, growth convergedcloser to the average of other developedcountries, averaging annual growth of3.6 percent. The United States averagedgrowth of 3.3 percent for this sameperiod. These comparisons are based ondata in Summers and Heston (1991). Inthe 1990s, Japan went from above aver-age growth to below average growth,averaging less than 1 percent between1992 and 2002 (Bank for InternationalSettlements, 2005).

In Japan, the overnight interest rate isthe main index of monetary policy,comparable to the federal funds interestrate in the United States. Monetary lax-ness shows up as lower interest rates. Toarrest the deflation and stimulateeconomic growth, the Bank of Japandropped the overnight interest rate. In1995, the Bank of Japan changed the ratefrom over 8 percent to less than 0.5 percent(International Monetary Fund, 2003).The easy money policy failed to stem thetide of deflation. As inflation slipped intothe negative column, the Bank of Japanpushed the overnight interest rate toranges measured in one thousandths of apercentage point. For 1999, the Interna-tional Monetary Fund reports an averageovernight interest rate of zero. The aver-age rose to 0.2 percent for 2000, and thensank back to zero for the years 2001through 2005. The International Mone-tary Fund reports an average rate of 0.2percent for 2006. In February 2007, theaverage rate stood at 0.5 percent.

The development of deflationaryexpectations became a major complicatingfactor. Expectations of inflation persuadeconsumers and businesses to borrow

money and buy goods before prices go up.Inflation encourages buying goods andcapital equipment sooner rather than later.Expected deflation has the opposite effect.Consumers and businesses are hesitant tobuy goods and equipment with borrowedmoney if the goods and equipment areselling for prices higher than what theywill sell for in the future. With expecteddeflation, businesses require a higherexpected rate of return before borrowingfunds to purchase capital equipment.

Many economists believe Japan in the1990s entered into a liquidity trap. In aliquidity trap, money is in high demandbecause of the expectation that all otherassets can be purchased on more favor-able terms in the future. The strongdemand for money as a financial assetfrustrates efforts to increase spending byincreasing the money supply.

See also: Liquidity Trap

ReferencesBank for International Settlements. “Japan’s

Deflation, Problems in the Financial Sys-tem and Monetary Policy.” BIS WorkingPaper no. 188, November, 2005.

Economist. “Wading in the Yen Trap.” July24, 1999, pp. 71–74.

Economist. “Seeking the Right Medicine.”June 21, 2003, p. 70.

International Monetaray Fund, World Eco-nomic Outlook, September 2003, April2007, April 2008.

Summers, Robert, and Alan Heston. “The PenWorld Table (Mark 5): An Expanded Set ofInternational Comparisons, 1950–1988.”Quarterly Journal of Economics, vol. 106,no. 2 (May 1991): 327–369.

JUILLIARD V. GREENMAN(UNITED STATES)

In the case of Juilliard v. Greenman,110 U.S. 421 (1884), the United States

250 | Juilliard v. Greenman (United States)

Supreme Court ruled that Congress hadthe right to issue notes to be legaltender for the payment of public andprivate debt. Legal-tender notes aretreasury notes or banknotes that, in theeyes of the law, must be accepted in thepayment of debts.

Under the Legal Tender Act of February25, 1862, Congress authorized theissuance of U.S. notes as legal tender forall debts public and private, exceptingcustom duties and interest on the publicdebt, which were payable in coin. TheUnited States Constitution had notexplicitly conferred on Congress theright to issue legal-tender notes, or otherlegal-tender paper money, and manydoubted if legal-tender legislation wasconstitutional. The Constitution wasframed while the memory of the hyper-inflation episode of the Continentalcurrency was still fresh.

Hepburn v. Griswold, 75 U.S. 603(1870), was the first Supreme Court caseto test the constitutionality of legal-tendernotes. The Court found that the issuanceof legal-tender notes amounted to animpairment of contracts without dueprocess of law, which was forbiddenby the Constitution and therefore uncon-stitutional. Contracts were abridgedbecause a creditor had to accept depreci-ated notes rather than coin. Interestingly,Chief Justice Chase, who wrote themajority opinion, was secretary of thetreasury when the notes were issued athis strong urging. Some observers feltthat Chase changed his mind to improvehis chances for a presidential bid.

The Hepburn decision did not standlong. In Parker v. Davis, 79 U.S. 457(1871), the Court—enlarged with twonew appointees—ruled in favor ofCongress’s power to issue legal-tendernotes, but the decision drew heavily on

the exigencies of war and left in doubtthe constitutionality of the issuance oflegal-tender notes in peacetime.

In 1878, Congress repealed an earlieract providing for the retirement of out-standing legal-tender notes (greenbacks)and provided for the reissuance of thesenotes. Because these notes where reissuedin peacetime, the constitutional authorityof Congress to maintain their legal-tenderstatus remained in doubt.

When Juilliard v. Greenman camebefore the Supreme Court in 1884, theCourt held that Congress had the author-ity to issue legal-tender notes even inpeacetime. The majority opinion arguedthat Congress had the authority to issuelegal-tender notes under its constitutionalpower “to raise money for the public useon a pledge of the public credit,” includ-ing the power “to issue, in return for themoney borrowed, the obligation of theUnited States in any appropriate form ofstock, bonds, bills, or notes . . . adaptedto circulation from hand to hand inthe ordinary transactions of business”(110 U.S. at 432). The majority opinionalso argued that the power to confer legalstatus on money derived from the rightsof sovereignty as understood when theConstitution was framed.

The decision of Juilliard v. Greenmansettled the question of the authority ofCongress to provide a national currencyfor the United States.

See also: Case of Mixt Monies, Legal Tender

ReferencesBreckinridge, S. P. 1969. Legal Tender.Dunne, Gerald T. 1960. Monetary Decisions

of the Supreme Court.Hepburn, A. Barton. 1924/1967. A History of

the Currency of the United States.Myers, Margaret G. 1970. A Financial

History of the United States.

Juilliard v. Greenman (United States) | 251

253

L

LABOR NOTES

Labor notes, a unique monetary experi-ment in the United Kingdom in the early19th century, bore a face value equiva-lent to a certain number of hours ofwork. The notes were the brainchild ofRobert Owen (1771–1858), a successfultextile manufacturer in the United King-dom, who rose to fame as a utopiansocialist reformer at the beginning of theindustrial age. He is famous in theUnited States for involvement with NewHarmony, Indiana. In 1825, Owen pur-chased 30,000 acres of land in Indianaand launched New Harmony as a coop-erative society, a project that would costhim 80 percent of his fortune before heabandoned it.

In 1832, Owen was publishing apenny journal, The Crisis, in which hepublicized his plan to form an associa-tion for the exchange of all commoditieson the principle of the numbers of hoursof labor embodied in each commodity.All commodities that required the sameamount of labor to produce were to be

traded evenly, and other commoditieswere to be exchanged at ratios ruled bythe number of hours of labor required toproduce each one. If it took two hours oflabor to produce product A and one hourof labor to produce product B, then ittook two units of product B to purchaseone unit of product A. Owen adapted his

Robert Owen, English utopian socialist. (Jupiterimages)

254 | Land Bank System (American Colonies)

plan from the labor theory of value, awidely accepted concept among 19th-century economists, which held that allvalue comes from labor.

To carry out his plan, Owen openedthe Equitable Labor Exchange onSeptember 3, 1832, at a building calledthe Bazaar on Gray’s Inn Road, London.Producers and manufacturers broughtgoods to the exchange and received inreturn labor notes equal to the amount oflabor required to produce the goods. Thelabor notes could be used to buy othergoods at the exchange, which werepriced based on the hours of labor thatwent into producing each good.Exchanges opened in different regions;one of the largest was in Birmingham,where two series of labor notes wereissued in denominations of 1, 2, 5, 10,50, and 80 labor-hours.

The exchanges were short lived. Itwas a utopian idea that could not com-pete with a market system that incorpo-rates all the available information thataffects the prices of goods and services.Owens closed down the Londonexchange in March 1834 and paid off a£2,000 deficit the exchange had run up.

ReferencesAngell, Norman. 1929. The Story of Money.Beresiner, Yasha. 1977. Paper Money.Birchall, Johnson. 1994. Co-op: the People’s

Business.

LAND BANK SYSTEM(AMERICAN COLONIES)

During the first half of the 18th century,land banks infused paper currency intothe economies of the American colonies,helping to relieve the shortage of moneythat hampered trade and industry. Aside

from two short-lived exceptions, thesewere public banks, functioning under theauspices of colonial governments.

Land banks loaned paper money tocitizens who put up collateral in theform of some sort of real estate, such asfarm land or houses in town. Borrowersran the risk of forfeiting their propertyin the event of default, although theland banks, as public institutions,enjoyed reputations for extending theterms for debtors in difficulty. The realestate nevertheless stood as securitymaintaining the value of the papermoney, and foreclosure was a legitimateweapon. When foreclosure failed toproduce sufficient revenue to redeemthe paper currency, then governmentswere usually obliged to make good thepaper money. The borrowers paid inter-est on the loans, which in most colonieswent to pay governmental expenses.Often a local public board of property-owning citizens acted as a loan board,approving and disapproving loans as itsaw fit. In other cases, provincialofficials at a higher level made thesedecisions. These boards or officialsreceived an allotment of paper currencyfor issuance in a given locality.

During the 17th century, severalproposals were floated for organizingprivate land banks in the Americancolonies, particularly in Massachusetts,but invariably the colonial assembliesrefused to grant charters for these privateventures. In 1712, South Carolina led theway in the land bank movement when itestablished the first public land bank inthe American colonies. Other coloniesquickly followed the example set bySouth Carolina. Massachusetts foundeda land bank in 1714, Rhode Island in1715, New Hampshire in 1717, NewJersey and Pennsylvania in 1723, North

Latin Monetary Union | 255

Carolina in 1729, Maryland in 1731,Connecticut in 1732, and New York in1737.

The British government viewed allcolonial paper money as a threat toBritish creditors who faced severe lossesif colonists sought to wipe out debts witha round of inflation. In 1720, royalgovernors in America received ordersfrom London to suspend the operationof any land bank, pending approvalfrom the Privy Council. Both Americanand British officials, however, were slow to take action. The land bank inMassachusetts remained in operationuntil 1730, and the land banks in theother colonies until 1740.

The saga of the land banks is anotherchapter in the struggle of the Americancolonies to fill the vacuum in the colo-nial money supply left by the outflow ofhard specie in payment for Europeanimports. Great Britain aggravated themoney shortage by squashing efforts tomint coins in the colonies and severelyrestricting the authority of colonial gov-ernments to issue paper money. After theAmerican Revolution, the Articles ofConfederation granted state govern-ments authority to establish mints andissue paper currency. The United StatesConstitution gave Congress sole author-ity to coin money and regulate themoney supply.

See also: Franklin, Benjamin, MassachusettsBay Colony Paper Issue

ReferencesChown, John F. 1994. A History of Money.Ernst, Joseph Albert. 1973. Money and Poli-

tics in America.Thayer, Theodore. “The Land-Bank System

in the American Colonies.” Journal ofEconomic History, vol. 13, no. 2 (1953):145–159.

LATIN MONETARY UNION

One of the early efforts to establish auniform and universal coinage, equallyacceptable in all countries, led to the for-mation of the Latin Monetary Union.The union itself came to life through thework of a conference held in Paris,France, in 1865. In addition to France,three other countries, Italy, Switzerland,and Belgium, participated in the confer-ence, all three of which were on theFrench bimetallic system. This confer-ence was the first international meetingon monetary affairs.

Under a bimetallic system, silver andgold coins circulated as money and thegovernment set the value of silver rela-tive to gold at a fixed ratio. Before theconference, the value of silver was ris-ing, causing holders of silver to buy goldand leading to the disappearance of sil-ver. Switzerland debased the value of itssilver coins to address the problem, andFrance responded by banning the accept-ance of Swiss coins in public offices.The immediate technical problem facingthe conference participants was the over-valuation of silver. Under the bimetallicsystem of the Latin Monetary Union,15.5 ounces of silver stood equal to oneounce of gold in all member countries.

The conference participants saw thetreaty creating the Latin Monetary Unionput into effect on August 1, 1866. TheStates of the Church (the lands in centraland north central Italy that were ruled bythe pope) joined the Union later in 1866,followed by Bulgaria and Greece in1867. Member countries minted goldpieces in denominations only of 100, 50,20, 10, and 5 francs. They also mintedsilver pieces in denominations of 5, 2,and 1 francs and 50 and 20 silver cen-times. Each country minted coins that

256 | Latin Monetary Union

were made legal tender and circulatedthroughout the union.

In 1867, France called another con-ference to discuss the establishment ofa uniform world monetary system.Hopes of expanding French influenceand prestige may have supplied themotive that pushed Louis Napoleon tocall the conference. The need to keepthe bimetallic monetary standard aliveand working in the face of competitionfrom the United Kingdom’s gold stan-dard may also have been a contributingfactor.

The United States accepted the con-cept of a world monetary union and madea case for France to begin minting a 25-franc gold piece. Spokesmen forUnited States, whose arguments for the25-franc piece fell on deaf ears in France,observed that:

Such a coin will circulate side byside everywhere and in perfectequality with the half eagle of theUnited States and the sovereign ofGreat Britain. These three goldcoins, types of the great commer-cial nations, fraternally united anddiffering only in emblems, will gohand in hand around the globefreely circulating through bothhemispheres without recoinage,brokerage, or other impediments.This opportune concession ofFrance to the spirit of unity willcomplete the work of civilizationshe has had so much at heart andwill inaugurate that new monetaryera, the lofty object of the inter-national conference, and thenoblest aim of the concourse ofnations, as yet without parallel inthe history of the world. (Chown,1994, 87)

The conference ended without reach-ing an agreement, only passing a resolu-tion to meet again. The United Kingdomhad refused to support the plan for aworld monetary union, but did establisha Royal Commission on InternationalCoinage to study the findings of the con-ference. The commission acknowledgedthe advantages of an international cur-rency, citing that:

Small manufacturers and tradersare deterred from engaging in for-eign transactions by the compli-cated difficulties of foreign coins. . . by the difficulty in calculatingthe exchanges, and of remittingsmall sums from one country toanother. Anything tending tosimplify these matters woulddispose them to extend their sphereof operations. (Chown, 1994, 89)

Nevertheless, the commission citednumerous practical considerations thatstood in the way of forming an interna-tional currency.

The commercial success of GreatBritain persuaded the major trading part-ners of the world that the gold standardwas the wave of the future. The fate ofthe bimetallic system of the Latin Mone-tary Union was sealed when France lostthe Franco-Prussian War and had to paywar reparations to Germany. The warreparations enhanced Germany’s goldreserves, giving Germany the where-withal to follow Britain’s example andadopt the gold standard. The value of sil-ver dropped sharply, and the members ofthe Latin Monetary Union had to restrictthe coinage of silver. The union wobbledon until the 1920s, when the strains ofwar and diverging gold and silver pricesput an end to the system.

Law, John | 257

The idea of a European monetaryunion, complete with a European centralbank, became a reality on January 1,1999, when the European Central Banklaunched the euro in a non-physicalform. It functioned as a money ofaccount. Euro banknotes and coins firstentered into circulation on January 1,2002, replacing major European bank-notes and coins in German Marks andFrench francs. This monetary union withits uniform currency ended the risk offluctuations in foreign exchange ratesand the inconvenience of convertingdomestic money into foreign exchange,thus easing the path for the growth ofinternational trade.

See also: Bimetallism, Euro Currency, Interna-tional Monetary Conference of 1878

ReferencesDavies, Glyn. 1994. A History of Money.Chown, John F. 1994. A History of Money.Willis, Henry Parker. 1901. A History of the

Latin Monetary Union.

LAW, JOHN

In the Wealth of Nations (1776), AdamSmith observed that “[t]he idea of thepossibility of multiplying paper moneyto almost any extent was the real founda-tion of what is called the Mississippischeme, the most extravagant project ofbanking and stock-jobbing that perhapsthe world ever saw.” John Law was theauthor of the Mississippi scheme. Hewas a Scottish financier who felt thatScottish industry languished from a lackof money. He conceived the notion that abank could issue paper money equal invalue to all the land in a country. TheScottish Parliament was not interested,but the new regent of France, Philippe

d’Orleans, saw Law’s theories as a wayout of the bankrupt finances of France.Philippe authorized Law to establish theBanque Generale (1716). Among otherthings, this was the first bank to issuelegal-tender paper money. It accepteddeposits, paid interest, and made loans.The value of its paper money wasdefined in terms of a fixed weight of sil-ver. In April 1717, taxes were madepayable in the bank’s paper money.

In 1717, Law secured a royal charterto launch the Mississippi Company. Thiswas a trading company organized toexploit the Mississippi basin. Law sold200,000 shares of this new company tothe public. The price stood at 500 livresper share, but three-fourths of the pay-ment could be made with governmentnotes at face value. These governmentnotes were then worth one-third of theirface value. The shares found a readymarket in holders of depreciating

John Law, 18th-century monetary theorist.(Guizot, Francois Pierre Guillaume, A PopularHistory of France From The Earliest Times,1878)

258 | Law of One Price

government notes eager for a piece of aprofit-making enterprise. Law becamebolder with success and instructed hisbank to buy the royal tobacco monopolyand all French companies devoted to for-eign trade. These companies he com-bined with the Mississippi Company forthe complete monopolization of Frenchforeign trade.

In 1718, Law’s bank was reorganizedas the Banque Royal, and the govern-ment made the bank’s paper money legaltender. By 1720, the combination oftrading companies known as the Missis-sippi Company was amalgamated withthe bank. The Banque Royal bought upthe national debt by exchanging it forshares in the Mississippi Company.Turning the national debt into shares ofthe Mississippi Company set the exam-ple that was soon copied by the SouthSea Company in Great Britain. Theprices of the shares in the Mississippirose to fantastic heights on a wave ofspeculative frenzy. Law’s bank continu-ally increased the supply of papermoney, much of which was used to bidup the shares in the Mississippi Com-pany. When prices of commodities rose100 percent and wages 75 percentbetween 1716 and 1720, the public lostfaith in the value of paper money.

In the meantime, things were notgoing well for the Mississippi Company.There were no precious metals to befound, and no attraction could inducefamilies to emigrate to the Mississippibasin. Profits fell far short of expecta-tions.

In 1719, the price of the stock peakedand the downward spiral began. Those inthe know sold their stock at the peak andredeemed their bank paper money withgold. As the sell-off gained momentum,Law’s bank issued paper money to buy

the shares of stock. Holders of papermoney besieged the bank, demandingsilver or gold, and several people werekilled in the confusion. Law himself wasforced to leave France, passing hisdeclining years as a professional gam-bler in Venice.

The Mississippi bubble left a deepdistrust of paper money and big banks inthe mind of the French people. Nearly acentury elapsed before France was will-ing to try paper money again. Learningthe pitfalls of paper money has been aslow process in modern capitalist coun-tries. Angola, Argentina, and Boliviarank among the countries that have expe-rienced hyperinflation in the post–WorldWar II era.

See also: Caisse d’Escompte, Hyperinflationduring the French Revolution

ReferencesMinton, Robert. 1975. John Law: The Father

of Paper Money.Murphy, Antoin E. 1997. John Law: Eco-

nomic Theorist and Policy Maker.Schumpeter, Joseph. 1939. Business Cycles,

vol. I.Spiegel, Henry Williams. 1971. The Growth

of Economic Thought.

LAW OF ONE PRICE

The Law of One Price states that identi-cal goods sold at different geographicallocations will sell for identical priceswhen the prices are expressed in a com-mon currency. The law assumes thattraders and arbitragers would exploitprice differences between the same goodat different locations. They will purchasethe good at the cheapest location andresell it in the location with the highestprice. The activity of traders exploitingprice differentials guarantees that the

Leather Money | 259

prices of identical goods sold at differentgeographical locations will converge toone price. The differences betweenprices of identical goods at different geo-graphical locations should only reflectdifferent transportation cost and tradebarriers.

The Law of One Price explains whyon any given day the price of gold inU.S. dollars in London is nearly equal tothe price of gold in New York. The the-ory does not work quite so well for othergoods. Since 1986, the Economist haspublished a “Big Mac Index” showingthe prices of McDonald’s Big Mac sand-wiches around the world. According tothe Law of One Price, if a Big Max cost$3.00 in the United States and $1 equals100 yen in foreign exchange markets,then a Big Mac should cost $3, or 300yen, in Japan. According to the Big MacIndex reported in the May 25, 2006,issue of the Economist, a Big Mac cost$3.10 in the United States and $2.23 inJapan. The same issue reported that inChina a Big Mac only cost $1.31 in U.S.currency.

The Law for One Price works best forhighly tradable and homogeneous goodssuch as steel, copper, and agriculturalcommodities. Houses are not tradablegoods, and house prices are known tovary substantially within regions insidethe United States. Departures from theLaw of One Price may reflect eitherovervalued or undervalued exchangerates. In the above example, a Big Macwent for an unusually low price in Chinaat a time when it was known that China’scurrency was undervalued in foreignexchange markets. The low price of aBig Mac in China could have been inter-preted as indicating that China’s cur-rency would appreciate in the future,which it did.

Studies have shown that disparateregional prices of a tradable good tend toconverge to one price. Disparate regionalprices within a single country tend toconverge faster than disparate prices forthe same good between two separatecountries. Within the United States, dis-tance between cities appears to be themajor determinant of the magnitude ofprice differences for the same goodbetween cities.

ReferencesEconomist. “Finance and Economics: Siz-

zling; The Big Mac Index.” July 7, 2007,p. 82.

Fan, C. Simon, and Xiangdong Wei. “TheLaw of One Price: Evidence from theTransitional Economy of China.” Reviewof Economics and Statistics, vol. 88, no. 4(November 2006): 682–697.

LAW OF THE MAXIMUM

See: Hyperinflation during the French Revolu-tion, Wage and Price Controls

LEATHER MONEY

Leather money should perhaps beregarded as the most immediate precur-sor of paper money. It was usuallyissued as an emergency measure underthe stress of war. The extinct city ofancient Carthage issued leather-wrapped money before the wars withRome. The leather wrapping was sealed,and the substance inside the wrappingremained a mystery.

Better documentation exists for theuse of leather money in France and Italyas an emergency measure. In Normandy,Philippe I (1060–1108) used as moneypieces of leather with a small silver nail

260 | Legal Reserve Ratio

in the middle. Leather currencies alsoappeared under Louis IX (1266–1270),John the Good (1350–1364), andCharles the Wise (1364–1380). It is notclear whether these leather currenciesbore an official stamp. Foreign ransomshad impoverished France of its metalliccurrencies, necessitating the develop-ment of an inferior substitute.

In 1122, Doge Domenico Michaele,ruler of Venice, financed a crusade bypaying his troops and fleets in moneymade of leather with an official stamp. In1237, the emperor Frederick II of Sicily,one of the first European monarchs toreestablish gold coinage after the longhiatus of the Middle Ages, paid his troopsin stamped leather money during thesieges of Milan and Faventia. In 1248, atthe siege of Parma, he again paid troopsin leather money. Frederick’s money wasconverted into silver at a later date.

Leather money bearing an officialstamp bore a close kinship to modernpaper money. English history furnishes afew references to leather money. In aspeech to Parliament in 1523, ThomasCromwell commented in referring to theexpenses of sending an expedition toFrance:

Thus we should soon be madeincapable of hurting anyone, andbe compelled, as we once did tocoin leather. This, for my part, Icould be content with; but if theKing will go over in person andshould happen to fall into thehands of the enemy—which Godforbid—how should we be able toredeem him? If they will naughtfor their wine but gold they wouldthink great scorn to take leather forour Prince. (Einzig, 1966, 286)

Reports exist of leather money on theIsle of Man during the 16th and maybe17th centuries. A description of the Isleof Man published in 1726 states thatleather currency had a history on theIsland of Man, and that men of substancewere allowed to make their own moneyup to a limit.

See also: Siege Money

ReferencesEinzig, Paul. 1966. Primitive Money.Quiggin, A., and A. Hingston. 1949. A Sur-

vey of Primitive Money.

LEGAL RESERVE RATIO

A legally required reserve ratio is oneof the important central bank instru-ments for changing the stock of moneyin circulation. The reserve ratio is thefraction of customer deposits bankshold in the form of assets that satisfy alegal definition of reserves. In theUnited States, only vault cash ordeposits at a Federal Reserve Bank maylegally serve as reserves. A reduction inthe legally required reserve ratio, allow-ing banks to loan out more depositorfunds, leads to an expansion of themoney stock. Raising this ratio reducesthe money stock.

Commercial banks accept deposits offunds from customers. On a given day,the fresh deposits approximately offsetwithdrawals from earlier deposits, leav-ing the bank with an average level ofdeposits available for loans to cus-tomers. Banks keep a fraction of thesedeposits as reserves to keep the banksolvent during those intervals whenfresh deposits fall short of withdrawals.Without government regulation of

Legal Reserve Ratio | 261

reserve requirements, banks often fallprey to the temptation to trim reservestoo thinly and come up short of funds ifdepositors suddenly place heavydemands for cash withdrawals. Becausereserves are funds that are not invested,and therefore not earning income, bankshave an incentive to hold reserves to aminimal level.

In the United States, the BankingAct of 1935 authorized the board ofgovernors of the Federal ReserveSystem to vary the legally requiredreserve ratio within prescribed limits.Before the Act of 1935, legal reserveratios were set by statute. From 1935until 1980, the board of governorscould change the reserve requirementsof commercial banks that were mem-bers of the Federal Reserve System,which included all commercial bankswith national charters. State banksremained subject to state statutoryreserve requirements until 1980. TheDepository Institution Deregulationand Monetary Control Act of 1980 gavethe board of governors authority to setreserve requirements for all depositoryinstitutions. The legal reserve ratio isusually set well below 20 percent. In1992, the board of governors reducedthe ratio from 12 to 10 percent.

If the level of deposits in a bank risesby $1,000, and the legal reserve ratio is10 percent, the bank has to retain only$100 as reserves and can loan out theother $900. If the reserve ratio is cut forall banks, each bank can immediatelyloan out more funds. Furthermore, asdeposits at each bank grow from thelending at other banks, each bank canloan out a share of new deposits. Thecumulative effect of these actions on theratio of customer deposits to vault cash

and deposits at the Federal ReserveBanks can be dramatic. If the legalreserve ratio decreased from 20 percentto 10 percent, the ratio of customerdeposits to vault cash and deposits at theFederal Reserve Banks could double.Because bank deposits account for thelion’s share of money supply measures, areduction in the legal reserve ratio cansharply increase the money stock. Anincrease in the legal reserve ratio canhave an equally blunt impact on themoney stock in the opposite direction.

Significant controversy arose out ofone of the early policy actions usinglegal reserves requirements. In 1936,commercial banks were flush withreserves, representing a potential forsubstantial increase in lending and mon-etary growth. The U.S. economy wasstill inching out of the Depression, butthe banking system brimming over withreserves aroused inflationary fears. Theboard of governors virtually doubledreserve requirements to mop up excessreserves. In 1937, the recovery stalledout, nosing the economy over intoanother recession, and many observersput the blame at the feet of the improperuse of legal reserve requirements by theboard of governors.

Today, legal reserve ratios are one ofthe less important means of regulatingmonetary growth. Small changes in legalreserve ratios have powerful effects andcreate management difficulties forbanks. Open market operations havebecome the most important means ofregulating the money stock in the UnitedStates. Open market operations have todo with central bank purchases and saleof government bonds. When a centralbank purchases bonds with new funds,the money stock increases.

262 | Legal Tender

See also: Bank, Central Bank, Federal ReserveSystem, Monetary Multiplier, Open MarketOperations

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets.

Klein, John J. 1982. Money and the Econ-omy, 6th ed.

LEGAL TENDER

Money is legal tender when creditors arelegally obliged to accept it in payment ofdebts. “This note is legal tender for alldebts, private and public,” appears on allFederal Reserve Notes, meaning that thesenotes are acceptable in payment of taxesor other obligations owed to the govern-ment and also that creditors must acceptthe notes in payment of all private debts.

In the expression “legal tender,” theword “tender” means “offer,” as when an

individual tenders his resignation. Theterm “tender,” with reference to money,arose out of actions of creditors againstdebtors in English courts. A debtor couldtender to the creditor the amount he orshe thought was owed to the creditor. Ifthe creditor thought the sum tenderedunacceptable, the debtor could depositthe sum with the court, which woulddecide if the tender met the debtor’s obli-gation.

The legal-tender quality of a unit ofmoney can be restricted. The Americancolonies issued paper money that wasacceptable for the payment of publicdebts, but not private debts. The colonialgovernments committed themselves toaccepting the money in payment oftaxes, but did not require private credi-tors to accept it in payment of debts.Currently in the United States, the dimeis legal tender for all debts up to $10.

English sovereigns arrogated tothemselves the privilege of coining

Seal of the Federal Reserve on a five-dollar bill. (Paul Topp)

Legal Tender | 263

money and stipulated penalties forrefusing to accept the king’s coinage atface value. Orders from the crown wentso far as to require the acceptance ofpennies that had been halved anddemanded that anyone refusing toaccept halfpennies should be seized forcontempt of the king’s majesty, impris-oned, and exposed to public ridicule in apillory.

Although the English governmentthrew the full weight of its sovereignpower behind its coinage, disputesbetween creditors and debtors contin-ued to raise questions, leaving with thecourts the final authority for establish-ing the legal-tender quality of money.An important court case in 1601, TheCase of Mixt Monies, set the legal-tender quality of money on firm footingwhen it demonstrated that creditors hadto accept in payment for debts themoney that was legal tender when thedebt was paid, as opposed to the moneythat was legal tender when the debt wasincurred.

The Constitution of the United Statesspecifies that: “No state shall coinmoney; . . . make anything but gold andsilver coin a legal tender in payment ofdebts.” Prior to 1862, no paper money inthe United States commanded the legal-tender status. Nevertheless, the govern-ment often accepted banknotes andtreasury notes in payment of taxes andpublic land sales, giving the papermoney some legal-tender qualities. In1862, amid the fiscal crisis of the CivilWar, the U.S. government issued papermoney that was legal tender for all pri-vate debts, and many, but not all, publicdebts. The power of the government toissue legal-tender paper money waschallenged in the courts, but the wartimecrisis clouded the issue at first. When

paper money continued to circulate after1878, the legal-tender issue came beforethe Supreme Court, and in 1883 theCourt ruled in favor of the power of thefederal government to issue legal-tenderpaper money. In 1890, the federal gov-ernment issued the first paper money thatwas legal tender in payment of all privatedebts and all payments owed to the gov-ernment.

Economists have not always writtenapprovingly of governments using theirpower to adjudicate disputes to rendermoney legal tender. The famous econo-mist John Stuart Mill wrote in book 3,chapter 7 of his Principles of PoliticalEconomy:

Profligate governments havinguntil a very modern period neverscrupled for the sake of robbingtheir creditors to confer upon allother debtors a license to rob theirsby the shallow and impudent arti-fice of lowering the standard; thatleast covert of all modes of knav-ery, which consists in calling ashilling a pound that a debt of ahundred pounds may be canceledby the payment of one hundredshillings. (Mill, 1965, 505)

When governments become majordebtors, they have an incentive to changethe standard to pay off the debts, and inthe 20th century, governments haveprinted up legal-tender paper money tocancel large public debts, the post–WorldWar I government of Germany being themost notorious case. Despite the latentpossibility for abuse, governmentsworldwide issue legal-tender papermoney, which poses no problems as longas the supply is restricted to noninfla-tionary levels.

264 | Liquidity

See also: Juilliard v. Greenman

ReferencesBreckinridge, S. P. 1903. Legal Tender.Dunne, Gerald T. 1960. Monetary Decisions

of the Supreme Court.Myers, Margaret. 1970. A Financial History

of the United States.Mill, John Stuart. 1965. Principles of Politi-

cal Economy. Vol. 3 of Collected Works ofJohn Stuart Mill.

LIQUIDITY

The liquidity of an asset refers to theease with which that asset can be con-verted into cash. Two main characteris-tics enter into the liquidity of an asset.One is the ability to sell the asset onshort notice, and the other is the abilityto sell the asset without significantly dis-counting the price. Both of these charac-teristics must be present for an asset tobe considered highly liquid. Money orcash is the most liquid of all financialassets. Ninety-day U.S. Treasury bondsand shares of corporate stock can both besold on short notice, but the treasurybonds are considered much more liquid.Treasury bonds can be quickly sold at aprice close to the price paid for them.The corporate stock can only be sold onshort notice at the current market price,which may be significantly below theprice paid for the stock. A parcel of realestate is likely to be less liquid thanshares of corporate stock. Finding abuyer for a piece of real estate on shortnotice can be difficult, and the price thatbuyers are willing and able to pay forreal estate varies with economic condi-tions and interest rates.

The liquidity of an asset does notreflect its soundness. A sales person mayfind that investing a sizable sum of cash

in a nice wardrobe can be a wise invest-ment, one that pays off handsomely inhigher sales commissions. If that salesperson turns up jobless, however, andneeds to sell the wardrobe, that personwill likely recover only a small fractionof the original investment. Often highlyprofitable investments are illiquid.

In the case of financial investments,the liquidity of the asset is not related tothe prospects that the investment willpay off. A parent may grant a ten-yearloan to a studious, overachieving childwith perfect assurance that the loan willbe repaid. If the parent, however, tries todiscount that loan to a third party forcash, they will find it very difficult. Onthe contrary, if the parent purchases aten-year corporate bond, essentiallyloaning funds to a corporation, that par-ent can easily sell that bond before itmatures. For an asset to be liquid, therehas to be a market for it.

Liquidity confers certain advantages.Cash does not earn interest, but itenables its holder to take advantage ofbargains and speculative opportunities.Interest earned by financial assets can beinterpreted as a reward that must be paidto overcome a preference for liquidity.Usually, but not always, long-term bondspay a higher interest rate than short-termbonds. The higher interest earned onlong-term bonds is partly because liquid-ity is given up for a longer period oftime.

Most business firms face a trade-offbetween liquidity and profitability. Thistrade-off is easily seen in the case ofbanks. If a bank took all of itsdepositors’ money and never loaned itout, the bank would be highly liquid butwould report zero revenue. On the otherhand, the bank cannot loan out all ofdepositors’ money and remain capable of

Liquidity Crisis | 265

honoring requests for withdrawals ondemand. Banks must strike a balancebetween liquidity and profit maximiza-tion, keeping cash holdings as low aspossible without jeopardizing the abilityto redeem deposits. Other businessesmay have to choose between holdingcash and holding inventories. Holdingcash guarantees that the business canmeet its short-term obligations. A busi-ness may increase its profits by trimmingits cash holdings to a bare minimum andinvesting in more inventories. Such astrategy can increase profits, but it alsoincreases the risk that the firm will beleft unable to meet its short-term obliga-tions. A firm with relatively large cashholdings has greater chance of remainingsolvent in the event of sudden andunexpected adversity.

ReferenceHorne, James C. Van, and John M.

Wachowicz, Jr., 1997. Fundamentals ofFinancial Management, 10th ed.

LIQUIDITY CRISIS

The liquidity of an asset refers to theease and quickness with which it can beconverted into money or other goods andservices. An asset that can be quicklysold for money at low cost is a liquidasset. Money is the most liquid of allfinancial assets since it can be quicklyexchanged for goods and services. Liq-uidity crises usually indicate difficulty inconverting nonmonetary assets, particu-larly financial assets, into cash either byselling the assets or by using them ascollateral.

Individual firms are said to face a liq-uidity crisis when they cannot obtainshort-term financing. A retailer who can-not obtain short-term loans to purchase

inventories or obtain goods on creditfrom suppliers is said to suffer a liquid-ity crisis. A liquidity crisis for a particu-lar firm indicates that creditors worryabout the firm’s ability to pay. The fail-ure of an anticipated loan to comethrough or sudden and unexpected one-time expenditures can leave a firm with aliquidity crisis. For an individual firm, aliquidity crisis may be virtually synony-mous with a credit crunch.

The more serious liquidity crises canput an entire financial sector undersevere pressure, can have wide macro-economic dimensions, and usuallyrequires government or central bankaction to resolve. In the course of busi-ness, financial institutions accept claimsagainst themselves that are liquid. In thecase of banks, depositors can withdrawtheir money any time. The claims thatfinancial institutions accept againstthemselves are offset by claims thatfinancial institutions accept against oth-ers. Financial institutions cannot demandpayment on these claims against othersas quickly. A bank must redeem a bankdeposit on demand but it cannot demandearly repayment of loans. A wave ofdepositors withdrawing money from afinancial institution can force that insti-tution into a liquidity crisis even if all itsoutstanding loans are sound and have anexcellent chance of repayment.

In the late 1980s, thrift institutions inTexas went through a severe liquiditycrisis that virtually wiped out the savingsand loan (S&L) industry. The S&L insti-tutions first encountered difficulty withtroubled loan portfolios. The crash in oilprices plunged the Texas real estate mar-ket into a deep slump, substantiallyreducing the value of collateral thatS&Ls held against loans. A string ofwell-publicized failures of Texas S&Ls

266 | Liquidity Trap

caused worried depositors to startpulling their money out. There was nevera run on these institutions, probablybecause S&L deposits had deposit insur-ance. It was a slow, steady withdrawal.Pension funds and other large customersbegan pulling money out. Texas S&Lsbegan accepting deposits put together bybrokers at interest rates well above therates paid by thrifts in other states. Reg-ulators tried to broker funds fromstronger thrifts to weaker ones, but theeffort was not sufficient. The large num-ber of failures in Texas and elsewherebankrupted the Federal Savings andLoan Insurance Corporation that insureddeposits at S&Ls. Congress enacted amultimillion dollar bailout to meet theclaims of deposit insurance.

In 2008, the United States experi-enced a liquidity crisis that threatened tobring down an entire financial system.Financial institutions were holdingmortage-backed securities, includingsecurities backed by mortgages extendedto borrowers with credit problems.Financial institutions purchased thesemortgages by borrowing short term incredit markets. When the default rate onthese mortgages rose above expectedlevels, the market value of these securi-ties plummeted. Financial institutionswere left unable to borrow short termand unable to sell mortgage-backedsecurities for cash. As an emergencymeasure, the U.S. central bank, The Fed-eral Reserve System, began grantingloans based on other kinds of collateralthan government bonds.

ReferencesApcar, Leonard M. “Thrifts in Texas Scram-

bling for Funds, Liquidity Crisis Feared,Regulators Say.” Wall Street Journal(Eastern Edition, New York) June 10,1987, p. 1.

Paletta, Damian, and Allstair MacDonald.“World News: Liquidity-Crisis Guide Setfor an Update.” Wall Street Journal (East-ern Edition, New York) February 22,2008, p. A9.

LIQUIDITY TRAP

A liquidity trap is a macroeconomic con-dition in which injecting additionalmoney and liquidity into an economyexerts very little impact on overall pricelevels, output, or employment. It is amacroeconomic phenomenon, meaningthat it applies to the economy as a wholeand not to industries individually. Onlyan economy at a low point in a businesscycle is at risk of developing a liquiditytrap. During a recession, a liquidity trapcan become a major hindrance to eco-nomic recovery, considerably complicat-ing the task of designing an effectiveeconomic policy.

The liquidity trap at first seems moreof a puzzle than a trap. It seems para-doxical that the money stock can growwithout commiserate growth in spend-ing. Theories of inflation assume thatmoney stock growth does lead to com-parable growth in spending, and thegrowth in spending drives inflation.Only economies experiencing deflationor near deflation seem to be at risk ofdeveloping a liquidity trap.

A liquidity trap becomes possiblebecause money, particularly bank bal-ances, can act as a substitute for stocksand bonds, and may even become anattractive substitute if interest rates dropto very low levels. Money pays little orno interest, but it is the most liquid of allfinancial assets. Liquidity confers certainadvantages. It puts one in a position toexploit speculative opportunities orhandle financial emergencies. To offset

Liquor Money | 267

the advantages of liquidity, stocks andbonds pay dividends and higher interest.The danger of a liquidity trap occurswhen interest rates reach very low levels,probably lower than 1 percent. Unusu-ally low interest rates of this orderoccurred in the United States during the1930s, and again in Japan in the 1990s.Extremely low interest rates, coupledwith fear of deflation, makes bank bal-ances a highly attractive financial assetcompared to much less liquid stocks andbonds. Low interest rates involve theexpectation that interest rates will behigher in the future. Investors do notwant to lock in a low interest rate by pur-chasing longer term financial assetswhen interest rates are low.

The practical significance of a liquid-ity trap is that it leaves the monetaryauthority powerless to stimulate theeconomy by increasing the money sup-ply. The main ingredient of a monetarystimulus is the purchase of governmentbonds with newly printed money. Called“open-market operations,” this actionmakes the bond market more of a seller’smarket, meaning bond sellers can sellbonds at lower expected yields. In otherwords, interest rates fall. In a liquiditytrap, the preference for holding bank bal-ances over bonds becomes so strong thatopen-market operations can no longerreduce interest rates. Falling interestrates no longer accompany above aver-age growth in the money supply.

As a recession unfolds, the market forused capital goods is likely to see severedeflation, which will undercut the pricesof new capital goods. Businesses becomehesitant to purchase capital goods if theycome to expect that capital goods can bepurchased at lower prices in the future.Falling demand for finished goods furtherundermines the willingness to purchase

capital goods. With the liquidity trap act-ing as a floor under interest rates, open-market operations cannot push interestrates low enough to stem the tide offalling investment spending. The econ-omy sinks deeper into recession.

The cure for a liquidity trap involves ahigh level of government deficit spend-ing to compensate for the absence ofbusiness investment spending. In the1990s, the Japanese government baulkedat enlarging the public debt on the scaleneeded to lift Japan out of the liquiditytrap. The Japanese economy languishedin recession during much of the 1990s.

See also: Open Market Operations

ReferencesAuerbach, Alan J., and Maurice Obstfeld.

“The Case for Open-Market Purchases ina Liquidity Trap.” American EconomicReview, vol. 95, no. 1 (March 2005):110–138.

Colander, David, and Edward Gamber. 2006.Macroeconomics.

Hanes, Christopher. “The Liquidity Trap andU.S. Interest Rates in the 1930s.” Journalof Money, Credit, and Banking, vol. 38,no. 1 (February 2006): 163–194.

LIQUOR MONEY

Perhaps some measure of the importanceof stimulants and depressants to civiliza-tion can be seen in the use of these goodsas money. Stimulants such as coffee,tobacco, and cocoa beans have served asmoney, and alcohol—a depressant—hasalso fulfilled the functions of money insome societies.

During the 19th century, gin circu-lated as money in Nigeria. A bishopreported that it was impossible to buyfood in parts of the Nigerian Delta,unless one could offer gin in payment.

268 | Liquor Money

Bottles of gin changed hands for years,eluding human consumption. Membersof a commission on native races, visit-ing the home of a chief in the centralprovince, saw a stockpile of cases ofgin, some cases exceeding 30 years ofage. Gin functioned as a store of value,with chiefs holding large stocks of ginas a treasure. Gin owed part of its pop-ularity as a form of wealth to the gov-ernment’s practice of steadily raisingthe taxes on imported spirits, renderingdomestic stocks more valuable.Although there is no evidence thatprices were fixed in gin, signifying ginas a standard of value, gin served as amedium of exchange and store ofvalue. The government banned theimportation of spirits during World WarI, ending the use of gin money andopening a period of a silver currencyshortage.

In Australia, rum served as the mediumof exchange of choice during the late 18thand early 19th centuries, a time inAustralian history known as the “period ofthe rum currency.” Metallic currency wasin short supply, a common problemamong remote colonies, including theAmerican colonies along the easternseaboard. Adding to the currency shortagein Australia was the thinking amongBritish authorities that a convict colonydid not need to be provided with money.Trade brought in a limited number ofSpanish dollars that were used to pay forimports, and rum could be found in thecargo of every ship that came into port.

Rum met the need for a domesticmedium of exchange in Australia.Farmers sold their produce for rum,workers expected to be paid in rum, con-victs performed additional work forpayment in rum, and law enforcementauthorities offered rewards in rum for the

apprehension of criminals. Rum func-tioned better as a medium of exchangethan as a store of value. Its value fluctu-ated with the size of the last shipment,and its owners often fell prey to thetemptation to drink it, rather than save itto buy other goods. Although Europeansaccepted rum in payment for goods andwages, there is no evidence that the abo-rigines accepted rum in payment, unlikethe American Indians who were reportedto have had a fondness for whiskey.

Beer has found a place among theranks of currencies. Some tribes inUganda are reported to have made pay-ments in homemade beer, and tribalworkers to have accepted beer in pay-ment of wages. The consecration of agoat or the manufacture of a shield costa pot of beer, and the barber charged apot of beer and one chicken. There isno evidence that these tribes used beeras a store of value, but there is someevidence in Angola that during the1980s imported beer served as a storeof value.

Some might expect liquor money tochallenge the physical and moralstrength of a society in ways that othercurrencies would not. Many societieshave held up objects of reverence asmoney, such as whales’ teeth on the FijiIslands, or even gold and silver inancient Western societies. In Angola,the cynicism of war may deserve somecredit for the use of imported beer asmoney. Also, colonial domination byother cultures may be a factor in the useof liquor money in Australia andNigeria.

See also: Beer Standard of Marxist Angola,Commodity Monetary Standard

ReferencesEinzig, Paul. 1966. Primitive Money.

Liverpool Act of 1816 (England) | 269

Shann, E. O. G. 1948. An Economic History ofAustralia.

LIVERPOOL ACT OF 1816(ENGLAND)

The Liverpool Act of 1816 officially putthe United Kingdom on the gold standardand provided for a subsidiary silvercoinage to complement the gold coinageand banknotes that dominated the Britishmoney supply. It gave silver a role to playin a monetary system in which the mone-tary standard was defined in terms of gold.

During the 18th century, Great Britainwas technically on a bimetallic standard,but the market price of silver stood abovethe mint price for most of that era, andconsequently no silver was brought to themint for coinage. Great Britain had inpractice settled into a gold standard, andsilver coins were in short supply. After1785, the market price of silver tumbled,and silver flowed to the mint in largeamounts for coinage, threatening to upsetan unofficial gold standard that met withthe approval of the British government.Parliament hastily enacted legislation thatprohibited the mint from purchasing sil-ver for coinage, circumventing the possi-bility that silver would oust gold as thepredominant monetary metal. By 1797,the financial stringencies of war withRevolutionary France had forced GreatBritain onto an inconvertible paper stan-dard that lasted until 1821, encompassingthe period of the Napoleonic Wars. Aspressure mounted for a return to the goldstandard, a complementary movementgathered strength to reform the silvercoinage.

As early as 1798, the government hadappointed the Committee of the PrivyCouncil on the State of the Coinage, but

the committee failed to reach quickagreement and chose not to make recom-mendations until the war ended. In 1816,the committee made its report, recom-mending the coinage of both gold andsilver, but also recommending that themonetary standard be defined in terms ofgold only, thus officially ratifying acentury-old gold standard. The commit-tee’s recommendations left the weightand denominations of gold coinsunchanged.

The committee recommended a returnto silver coins, but only as a subsidiarycoinage. Silver coins were to be regardedas representative coins, legal tender forpayments of no more than 40 shillings.The committee recommended that themint purchase silver for 62 shillings perpound, but coin the silver at a rate of 66shillings per pound. That is, the facevalue of the silver coins struck from apound of silver was equal to 66 shillings.The committee hoped that the slightincrease in face value per unit of silverweight would make the melting downand export of silver coins unprofitable.Also, the remaining silver content,which was still significant, would dis-courage counterfeiters.

The government adopted the commit-tee’s recommendations without delay inthe Liverpool Act of 1816. This act madesilver coins an important component ofthe British money supply until 1947,when the United Kingdom removed allprecious metal content from its “silver”coinage. Beginning in 1947, British silvercoinage has been composed of cupro-nickel alloy, a copper and nickel alloy.

See also: Bank Restriction Act of 1797, GoldStandard

ReferencesChown, John F. 1994. A History of Money.

270 | Lombard Banks

Feavearyear, Sir Albert. 1963. The PoundSterling.

Jastram, Roy W. 1981. Silver: The RestlessMetal.

LOMBARD BANKS

Lombard banks were banks that accepteddeposits of goods and issued credits onaccount. These credits could pass fromone person’s account to another’s as amedium of exchange. The term “Lom-bard” probably came from the importanceof Italian bankers in the early history ofthe London financial market, sometimesreferred to as Lombard Street, just as WallStreet signifies the financial center of NewYork. In early English history, “Lombard”was another name for “Italian.” Accordingto Merriam-Webster’s Collegiate Dictio-nary, “Lombard,” broadly speaking, canrefer to a banker or moneylender.

In 1661, Francis Cradocke publisheda pamphlet, Wealth Rediscovered, inwhich he proposed the establishment ofbanks secured by things other than pre-cious metals or financial assets. Amongthe commodities he advanced as possiblesecurities were jewels, “rich pictures orhangings,” silks, iron, sugar, wines,tobacco, and land. He recommendeddividing the kingdom into a hundred dis-tricts, each of which would have a“standing and constant Bank or Reg-istry” that registered all lands, houses,and rents, and granted credit on the basisof land, goods, or pawns.

In 1676, Robert Murray published AProposal for the Advancement of Trade, aproposal for a Lombard banking scheme,in which he argued for the establishmentof a “Bank and Lombard united.” Underhis plan, people would deposit their “deadstock” in magazines, and receive credit on

account that could be exchanged asmoney. He recommended awarding crediton account up to “two-thirds or three-fourths of their value according to thequality thereof.” In explaining the crediton account, Murray explained that:

[N]o more is required than what isalready practised in Banks hereand abroad, where men depositeMoney and obtain the Bank-Credit, which generally passeth inReceipts and Payments without thereal issuing of Money, the Moneyremaining as a Pawn or Ground ofSecurity in the Cash-Chest, or elseimployed by the Banker to his ownBenefit. (Richards, 1929, 101)

The most famous economist of theera, William Petty, put in a good word forLombard banks in his Treatise of Taxesand Contributions (1662). He wrote, “Ifpublic Loan Banks, Lombards, or Banksof Credit upon deposited Plate, Jewel,Cloth, Wooll, Silke, Leather, Linnen,

William Petty, 17th-century British economist.(The Print Collector)

London Interbank Offered Rate | 271

Mettals, and other durable Commoditieswere erected, I cannot apprehend howthere could be above one-tenth part of theLaw-suits and Writings as now there are”(Hull, 1963, 26). Lombard banks weresometime called “Banks of Credit.”

In 1682, the city of London estab-lished the Bank of the City of London,which acted primarily as a Lombardbank. Despite the noble mission of thebank, which was to pay down the city’sdebt to the Orphans’ Fund, the experi-ment collapsed suddenly.

Lombard banks were a hybrid of pawn-shops and deposit banks. Unlike pawn-shops of today, Lombard banks issuedcredits that could circulate as money,adding to the money supply. Althoughpawnshops, called “Lombards,” had along history, it is not clear that Lombardbanks of the sort proposed in the 17th cen-tury ever developed far beyond the theorystage. Nevertheless, the Bank of England,created by an act of Parliament in 1694,was authorized to conduct a pawnbroker’sbusiness, reflecting the influence of Lom-bard banking schemes at the time.

See also: Bank, Bank of England, Land BankSystem

ReferencesHull, Charles Henry, ed. 1963. The Economic

Writings of Sir. William Petty.Nevin, Edward, and E. W. Davis. 1970. The

London Clearing Banks.Richards, R. D. 1929. The Early History of

Banking in England.

LONDON INTERBANKOFFERED RATE

The London Interbank Offered Rate(LIBOR) is the interest rate at whichlarge, internationally active banks can

borrow funds from other banks in theLondon interbank market. The BritishBankers Association (BBA) reports therate daily, based on a filtered average ofthe world’s most creditworthy banks’interbank deposit rate for large loans.The LIBOR is the world’s main bench-mark interest rates, the basis for settinginterest rates on short-term interest loansand deposits. It is the lowest rate of inter-est at which the world’s most creditwor-thy borrowers may borrow funds. Manyadjustable-rate mortgages in the UnitedStates are tied to the LIBOR.

The LIBOR is set everyday in 10 dif-ferent currencies and 15 different matu-rities (Mollenkamp, June 2008). Eachcurrency has a panel of banks whoseborrowing costs determine the LIBORfor that currency. The BBA decides thecomposition of the panel of banks. TheLIBOR is fixed each day at 11:00 a.m.London time. Every day, the BBA sur-veys the members of each panel, askingthem the interest rates they must pay forborrowing “reasonable amounts” in aparticular currency and maturity at 11:00a.m. GMT (Michaud and Upper, 2008).The maturities on the unsecured depositsrange from overnight to one year. TheBBA counts on the banks to supply accu-rate information. One European centralbank, the Swiss National Bank, uses theLIBOR as a target in monetary policy. InMay 2008, the Swiss National aimed atmaintaining a Swiss franc LIBOR rate of2.75 percent for a three-month deposit(Wall Street Journal, May 2008).

Payments on $90 trillion in dollar-denominated mortgages, corporate debt,and financial contracts are indexeddirectly with the LIBOR. Interest pay-ments on this debt fluctuate in step withthe LIBOR (Mollenkamp and White-house, May 29).

272 | London Interbank Offered Rate

The LIBOR became a focal point ofattention as the subprime crisis deepenedin the United States. Normally, the three-month unsecured LIBOR remainedbarely above the rate at which commer-cial banks borrow from central banks. InNovember 2007, the gap between theLIBOR and the U.S. federal funds ratereached half a percentage point, anunusually high gap. The U.S. federalfunds rate is a Federal Reserve–man-aged interest rate at which U.S. commer-cial banks borrow funds from each otherovernight. Not since Y2K had the gapsbetween the LIBOR rate and centralbank-regulated rates grown so large. Thestickiness of the LIBOR kept interestrates high on many loans and adjustable-rate mortgages just as central banks weretrying to lower interest rates.

As central banks struggled againstfinancial crisis, critics began lodgingcomplaints against the LIBOR. Oneproblem cited asked whether the LIBORon dollar loans attached too much weightto European banks in light of widespreaduse of the benchmark rate in the UnitedStates. Of the 16 banks composing theLIBOR panel for dollar loans, onlythree were U.S. banks (Mollenkamp,June 2008). Ten members of the panelwere European banks. Another problemcited related to the accuracy of the datasupplied by the panel banks. The quotedinterest rates received by the BBA arenonbinding. No one expects a credittransaction to take place. Therefore, thebanks enjoy some leeway in giving lessthan accurate quotes to engage in somestrategic misrepresentation. The BBAcompensates for strategically misleadingquotes by ignoring quotes regarded asatypical, removing the highest and low-est quartiles of the quote distribution,and averaging the remaining quotes.

To narrow the gap between theLIBOR rate and the central bank-con-trolled rates, central banks began loaningmore money against a broader range ofcollateral and against a wider group offinancial institutions. Normally, centralbanks only make loans to commercialbanks holding retail deposits, and onlyaccept as collateral government bonds.The tendency of the three-month LIBORto remain stubbornly high in the face ofmonetary easing reflected the wide-spread fear of bank failures. LIBORdeposits are unsecured.

In 2008, the LIBOR rose even higherafter the BBA opened an investigationinto the possibility that banks werereporting interest rates below what theywere actually paying in hopes ofappearing stronger than they were(Mollenkamp, June 2008). Amongbanks, ability to borrow at a low interestrate is a sign of health. It appeared thatwhat observers saw as an elevatedLIBOR should have been even higher.To ease concerns, in June 2008, the BBAannounced changes to the calculation ofthe LIBOR. One change increases thenumber of banks reporting borrowingcosts for calculation of the LIBOR.Another change involves plans to policethe accuracy of quotes received frombanks more carefully. The BBA alsoannounced that it had under considera-tion a plan to establish new rates thatwould reflect differences in borrowingcost between European and U.S. banks.

See also: Federal Open Market Committee

ReferencesForsyth, Randall W. “Calling London: The

Fed Takes Aim at Libor.” Barron’s, vol.88, no. 18, p. M8.

Michaud, Francois-Louis, and ChristianUpper. “What Drives Interbank Rates?

London Interbank Offered Rate | 273

Evidence for the Libor Panel.” BIS Quar-terly Review (March 2008): 47–58.

Mollenkamp, Carrick. “U.K. Bankers toAlter Libor to Address Rate Doubts.” WallStreet Journal (Eastern Edition) June 11,2008, p. C1.

Mollenkamp, Carrick, and Mark White-house. “Study Casts Doubt on Key Rate;

WSJ Analysis Suggest Banks May HaveReported Flawed Interest Data for Libor.”Wall Street Journal (Eastern Edition),May 29, 2008, p. A1.

Wall Street Journal (Eastern Edition). “SwissBank Weighs Its Use of Libor.” May 29,2008, p. A12.

275

M

MACMILLAN COMMITTEE

See: Bank of England

MARAVEDIS

See: Vellon

MASSACHUSETTS BAYCOLONY MINT

The Massachusetts Bay Colony boasted ofthe first and only mint in the Americancolonies before the American Revolution.The colonial economies fought against acurrency shortage that acted as a brake oneconomic activity. The largest componentof the circulating coin in the colonies wasthe Spanish dollar or pieces of eight, but allcurrency tended to leave America fasterthan it came in because of the huge needfor imported products from Europe. Therewere no local coins per se, and the mint ofMassachusetts was erected on the initiativeof the Massachusetts colonial governmentto meet the need for a colonial currency.

The mint was erected in 1652 andremained in operation for 30 years, even-tually falling victim to the royal displeas-ure of the English crown. Apparently, itwas subject to the orders of the GeneralCourt of Massachusetts. The first orderissued on May 27, 1652, said:

That all persons whatsoeuer havelibertie to bring into the minthouse, at Boston, all bullion, plate,or Spanish coyne, there to bemelted and brought to the alloy ofsterling siluer by John Hull, masterof the sd. Mint, & his sworne offi-cers, & by him to be coyned intotwelue pence, six pence, & threepence peeces. (Watson, 1970, 3)

These silver coins were of smalldenominations for the time.

The mint house was a square buildingconstructed of wood, measuring 15 feeton each side, and 10 feet high. The coinswere legal tender in the area under thejurisdiction of the General Court.

The Massachusetts mint debased itscoins about 22 percent relative to the

silver content of English coins of the samedenominations. The officials of Massa-chusetts approved of this debasement inan effort the keep the coins from going toEurope in payment for American importsof foreign goods. The European mer-chants, however, simply raised the pricesof their products in Massachusetts coin,and there remained the problem of hardspecie leaving the American colonies.

The English government complainedabout debasement of the coins, contendingthat coinage should be uniform through-out the empire. To be sure, the Englishgovernment occasionally changed the sil-ver content of its own coins, but wasunwilling that the silver content couldvary among colonies. It also objected tothe coinage of copper or other inferiormetals that would solely support internaltrade.

The operation of the mint contributedto the friction that led the English gov-ernment to revoke the first charter of theMassachusetts Bay Colony in 1684,which was the last year that the mintoperated. Other colonies asked for per-mission to establish mints, but the Eng-lish government refused. The coins fromthe mint continued to circulate in theAmerican colonies until after the Articlesof Confederation authorized individualstates to establish mints. The constraintsthat a coin shortage placed on the colo-nial economy helped lift the discontent ofthe colonists to a revolutionary pitch.

See also: Massachusetts Bay Colony Paper Issue

ReferencesNettels, Curtis P. 1934. The Money Supply of

the American Colonies before 1720.Terranova, Anthony, 1994. Massachusetts

Silver Coinage.Watson, David. 1970. History of American

Coinage.

MASSACHUSETTS BAYCOLONY PAPER ISSUE

The colonial government of the Massa-chusetts Bay Colony has the dubious dis-tinction of being the first to issue papermoney in America. The first hesitantsteps toward the issuance of papermoney occurred in 1676 when the colo-nial government raised a loan fromprovincial merchants and issued treasuryreceipts as an acknowledgment of debt,expecting these receipts to circulate ascurrency. Public lands secured the loan.

In 1690, the Massachusetts Assemblyenacted legislation that authorized thegovernment to issue paper money. Theimmediate circumstance that forced thehand of the assembly was the need to paysoldiers returning from a war expeditionin Canada. Paper money is similar tomany other inventions in that pressures ofwar often serve to speed up its develop-ment and acceptance, a theme that can beexplored into the 20th century.

Although war expenditures providedthe immediate pretext for the papermoney issue, broader concerns helpedcreate a political environment receptiveto the issuance of paper money. In 1686,the governor’s council cited the “greatdecay of trade and obstructions to manu-factures and commerce in this country,and multiplicity of debts and suitsthereon, principally occasioned by thepresent scarcity of coin” (Nettels, 1934).William Penn later commented that “thewant of money to circulate trade . . . hasput Boston herself upon thinking of tick-ets to supply the want of coin” (Nettels,1934). The law of 1690 also mentioned“the present poverty and calamities ofthe country, and through a scarcity ofmoney, the want of an adequate measureof commerce” (Nettels, 1934).

276 | Massachusetts Bay Colony Paper Issue

Historically, paper money has eithertaken the form of banknotes, precursorsto the modern Federal Reserve Note inthe United States, or bills issued directlyby government treasuries. The Massa-chusetts paper money was of the lattervariety. The government issued the papermoney and levied taxes that could bepaid with the paper money. As long asthe paper money issue was commensu-rate with the tax levy, the money main-tained its value.

The first bills issued by the Massa-chusetts colonial government were notlegal tender for all debts. The legislationof 1692 specified that the bills beaccepted “in all payments equivalent tomoney,” effectively making the billslegal tender. Bills issued between 1702and 1712 were not legal tender, althoughafter 1710 these bills could be used tostay out of debtors’ prison until legal-tender currency could be obtained.

The Massachusetts paper money heldits value reasonably well until 1713.Bills issued in 1709 were not redeemablein taxes until four years beyond the issuedate, and the period of redemption forpaper money issued between 1710 and1712 was postponed for six or sevenyears. During the interim betweenissuance and redemption, the billsearned 5 percent interest, but many morebills were issued than were needed topay taxes. The bills depreciated in value,and hard specie flowed out in foreigntrade. In 1716, the assembly establisheda public bank that issued banknotessecured by land.

In 1748, over two million pounds ofpaper money were in circulation whenMassachusetts received a large reim-bursement from Great Britain for warexpenses, and used the proceeds toredeem paper money at about 20 percentof its face value. Gresham’s law that bad

money drives out good money hadplayed out its ruthless logic in Massa-chusetts as paper money virtually dis-placed the specie. After 1720, the Britishgovernment began to restrict the abilityof colonial governments to issue papermoney with legal-tender status. Experi-ences of the colonial governments withpaper money led members of the Consti-tutional Convention to endow the Con-gress of the federal government with thesole privilege to coin money.

See also: Land Bank System, Tabular Standardof Massachusetts Bay Colony

ReferencesGalbraith, John Kenneth. 1975. Money,

Whence It Came, Where It Went.Hepburn, A. Barton. 1924/1967. A History of

Currency in the United States.Nettels, Curtis P. 1934. The Money Supply of

the American Colonies before 1720.

MEDICI BANK

The Medici Bank, perhaps the mostfamous bank of Renaissance Italy, roseto the top rank of European financialinstitutions during the 15th century. Itaccepted time deposits, the sum of whichwas several times larger than theinvested capital, and was a lending insti-tution. This was unlike some of theexchange banks of the time that wereprimarily involved in fund transfersassociated with international trade. TheMedici Bank was the chief bank for theCuria, and it had branches in the majorcities of Italy, as well as London, Lyons,Geneva, Bruges, and Avignon.

In Renaissance Italy, openly charginginterest (usury) was prohibited, but inter-est charges were hidden in bills ofexchange through which foreign cur-rency was purchased for delivery at a

Medici Bank | 277

future date. Profit was at the mercy of theforeign exchange markets. What wascalled a “dry exchange” involved notransfer of goods or foreign exchange andeffectively guaranteed interest to thelender. In 1429, dry exchanges were out-lawed in Florence, but the law was sus-pended at least temporarily in 1435, rightafter the Medici became the de facto, ifnot legal rulers, of Florence. The MediciBank was organized as a partnership withthe Medici family being the largestinvestor in the parent company and theparent company being the largest investorin the branch partnerships. The parentcompany functioned like a modern hold-ing company. The system of branchbanks was organized such that onebranch could be declared independent byrearranging accounts. Such arrangementsprotected the parent bank from the bank-ruptcy of individual branches due tolocalized economic difficulties.

Members of the Medici family enteredthe Florentine banking business in thelatter 1300s. In 1393, Giovanni di Biccide’ Medici (1360–1429) took ownershipof the Roman branch of a bank owned byone of his Florentine cousins. Heremoved the headquarters of his bank toFlorence in 1397, the official foundingdate for the Medici Bank. At the timeRome was a source of funds, whereasFlorence offered a better market for mak-ing loans. By 1402, the Medici Bank hadopened a branch bank in Venice, anotherimportant outlet of investment opportuni-ties. By then the bank boasted a total of17 employees at its headquarters in Flo-rence, five of whom were clerks.

In the 14th and 15th centuries, wooland cloth industries were the exportmainspring of the Florentine economy.In 1402, the Medici Bank loaned 3,000florins (nearly one-third of its originalcapital) to finance a Medici family part-

nership to produce woolen cloth.The year 1408 saw the establishment ofa second and more successful shop forproducing woolen cloth. In addition tobanking, the Medici traded wool, cloth,alum, spices, olive oil, silk stuffs, bro-cades, jewelry, silver plate, citrus fruit,and other commodities, diversifyingtheir risks by investing in a range ofventures.

In 1429, Giovanni di Medici died,passing the management of the bank intothe hands of his eldest son, Cosimo.Under Cosimo’s leadership, the MediciBank became the largest banking houseof its time. In 1435, the bank opened abranch in Geneva, the first branch beyondthe Alps. The Medici opened anotherwoolen cloth manufacturing shop andacquired a silk shop in 1438. The MediciBank opened a branch in Bruges in 1439,and branches in London and Avignon in1446. The Milan branch was opened in1452 or 1453. The Geneva branch wastransferred to Lyons in 1464.

When Cosimo died in 1464, the bankhad passed its peak. An invalid son, Pierode’ Medici, assumed management of thebank. According to Machiavelli, he begancalling in loans, causing a contraction incredit and numerous business failures.Piero died in 1469. Piero’s son, Lorenzothe Magnificent, was a great statesman.He had a humanistic education withoutbusiness training or experience. He turnedthe management of the bank over to man-agers, and the bank gradually lost ground.On Lorenzo’s death in 1492, his son,Piero di Lorenzo, assumed control of theMedici political and business interests inFlorence. Piero had neither business norpolitical acumen, and in 1494 the Mediciwere ousted from Florence. The bank,already tottering on bankruptcy, was con-fiscated, and was not successful under itsnew owners.

278 | Medici Bank

See also: Bank of Venice, Florentine Florin,House of St. George, Quattrini Affair

ReferencesBullard, Melissa M. 1980. Filippo Strozzi

and the Medici: Favor and Finance inSixteenth-Century Florence and Rome.

Goldtwaite, Richard A. 1995. Banks,Palaces, and Entrepreneurs in Renais-sance Florence.

Roover, Raymond de. 1966. The Rise andDecline of the Medici Bank: 1397–1494.

MEXICAN PESO

See: De a Ocho Reales

MEXICAN PESO CRISIS OF 1994

The sharp depreciation of the Mexicanpeso in December 1994 marked one ofthe swiftest macroeconomic reversals inthe history of developing economies andcurrency crises. President Ernesto Zedillohad barely been in office three weekswhen, on December 19, 1994, his admin-istration asked the Banco de Mexico toundertake roughly 15 percent devaluationof the peso, adjusting the peggedexchange rate from 3.45 pesos per dollarto 4.00 pesos per dollar (Sharma, 2001). Itwas a modest devaluation, but it undercutthe confidence of foreign investors andtouched off a wild speculative run againstthe peso. On December 22, 1994, theBanco of Mexico, unable to defend thepeso against stampeding, panic-strickenforeign investors, allowed the peso tofloat. The peso immediately sank another15 percent (Sharma, 2001). By February16, 1995, the peso had depreciated 42percent against the U.S. dollar (Torres,February 1995). The peso reached its

nadir at 7.65 pesos per U.S. dollar(Sharma, 2001).

The outgoing President Carlos Sali-nas and the soon-to-be President Zedillomet on November 20, 1994, to discussthe currency situation. The Fridaybefore, Mexico had lost $1.7 billion in arun on the peso. The two leaders agreedthat devaluation on the order of 10 per-cent was needed, but the outgoing offi-cials refused to devalue the currency ontheir watch (Wessel, July 1995).

The peso crisis caught manyobservers and investors by surprise.Mexico had become the darling of WallStreet. Mexico’s economic policyseemed to have all the right ingredients.It emphasized privatization and deregu-lation of state-owned enterprises, restric-tive monetary and fiscal policies, and apegged exchange rate relative to the U.S.dollar. The ratification of the NorthAmerican Free Trade Agreement(NAFTA) in January 1994 opened Mex-ico’s economy to the largest consumermarket in the world. Between 1989 and1994, Mexico’s gross domestic product(GDP) growth averaged 3.9 percent(Sharma, 2001). Mexico’s inflation rate,which raged as high as 160 percent in1987, sank to single-digit territory in1993 (Sharma, 2001). Governmentindebtedness as a percent of GDP shrankfrom 15 percent in 1987 to 1 percent in1992 and 1993 (Sharma, 2001). Between1987 and 1994, government spending asa percent of GDP shriveled from 44 per-cent to 24.6 per cent (Sharma, 2001). InFebruary 1994, Mexico’s foreignexchange reserves stood at $28 billion,well above the $6.3 billion level held in1989 (Sharma, 2001). With the dawn ofNAFTA, Wall Street saw no limits toMexico’s potential.

In hindsight, one economic statisticsignaled trouble. Mexico’s current

Mexican Peso Crisis of 1994 | 279

account deficit steadily climbed from $6billion in 1989 to $20 billion by the endof 1993 (Sharma, 2001). Mexico’simports were growing much faster thanits exports. Current account deficitsreflect either a high level of governmentdeficit spending, high levels of privateinvestment spending relative to savings,or some combination. In 1994, govern-ment deficit spending in Mexico wasminimal, and the high level of privateinvestment spending seemed to reflectMexico’s bright future under NAFTA.Foreign portfolio investments in Mexi-can stocks and short-term bonds madepossible the high level of investmentspending. It also left Mexico vulnerableto a sudden outflow of foreign capital.

In 1994, foreign investors began toget jittery over the size of Mexico’s cur-rent account deficit. Mexico tamed infla-tion, but did not eradicate it. Under apegged exchange rate, inflation increases

the prices of domestic goods, but doesnot affect the price of imported foreigngoods unless the peg is adjusted. Mexicofailed to adjust the pegged exchange rateto compensate for domestic inflation,encouraging Mexico’s consumers to pur-chase more imported goods at theexpense of domestically producedgoods. As long as foreigners exhibited astrong appetite for Mexican stocks andbonds, the Mexican government felt nopressure to devalue its currency. Thepeso appeared to be in high demand atthe current exchange rate.

In 1994, the strong foreign demand forportfolio investments in Mexico began todiminish over worries about Mexico’srising current account deficit. Rising cur-rent account deficits often lead to a deval-uation of a currency. If a currencydepreciates 25 percent, foreign investorsimmediately see the value of their invest-ment depreciate by 25 percent.

280 | Mexican Peso Crisis of 1994

After the government’s announcement that it had effectively devalued the peso, a Mexican manchecks the peso exchange rate against the dollar at a Mexico City exchange house on December20, 1994, in Mexico City. (AP Photo/Jose Luis Magana)

Part of the attraction of Mexicanstocks and bonds had to do with lowinterest rates in the United States.Throughout 1993, the U.S. federal fundsrate remained at 3 percent. In 1994, theFederal Reserve System started raisingthe federal funds rate, pushing it up to5.5 percent by November 1994 (Sharma,2001). As interest rates rose in theUnited States, investors became lesswilling to chase higher interest rates indeveloping countries and emerging mar-kets. When the Mexican governmentannounced a devaluation of the peso inDecember 1994, foreign investorsdecided it was time to get out of Mexico.

After the peso crisis, Mexico’s econ-omy sank into steep recession. Inflationsoared as devaluation lifted the prices ofimported goods. In the United States,President Bill Clinton put together anearly $50 billion rescue package (Green-wald and Carney, 1995). Without the res-cue package, the Mexican governmentwould have defaulted on a large amountof dollar-denominated governmentbonds. (In 1994, the Mexican governmenthad started issuing dollar-denomniatedbonds to ease investor fears about devalu-ation of the peso.) The rescue packagehelped calm markets and limited the dam-age inflicted on other Latin Americancountries.

See also: East Asian Financial Crisis, CurrencyCrises

ReferencesGreenwald, John, and James Carney. “Don’t

Panic: Here Comes Bailout.” Time, Febru-ary 13, 1995, pp. 34–37.

Sharma, Shalendra. “The Missed Lessons ofthe Mexican Peso Crisis.” Challenge,vol. 44, no. 1 (January/February 2001):56–89.

Torres, Craig. “Mexican Markets Are Hit byFresh Blows—Stock Index Sags as Rates

on Treasury Bills Soar; Firm announcesDefault.” Wall Street Journal (EasternEdition) February 16 1995, p. A11.

Wessel, David, Paul Carroll, and ThomasVogel Jr. “Peso Surprise: How Mexico’sCrisis Ambushed Top Minds in Official-dom, Finance—As Pressure to DevalueRose, Finance Chief Refused; Then ItWas Done Badly—The Hot Money TurnsCold.” Wall Street Journal (Eastern Edi-tion, New York) July 6, 1995, p. A1.

MILLED-EDGE COINAGE

A milled-edge coin has various formsof graining, ribbing, or serration aroundits circumference. In an Order of Coun-cil of May 1661, Charles II, king ofEngland, set forth that all coin was to bestruck as soon as possible by machin-ery, with grained or lettered edges, tostop clipping, cutting, and counterfeit-ing. As the order reveals, the motivationfor the serrated edges lay in the searchfor a means to discourage clippers, whoremoved bits of precious metal from theedges of coins, diminishing the metalcontent of coins without rendering themcompletely unacceptable in exchange.Hammered coins minted by hand pro-duced coins of irregular shape thatinvited clipping.

Mechanized minting began in Italy,which may also have been the birthplaceof the milled edge. Mechanized mintingpassed from Italy to France and Germany,and then to Spain and England. In 1553,Eloy Mestrell fled from Paris, where hewas engineer to the mint, and arrived inLondon, bringing knowledge of the meth-ods of a horse-powered mill that turnedout uniform blank coins, stamped withuniform images, and a milled-edge cir-cumference. The machine for milling theedge made use of counterrotating handscrews. Mestrell’s coins that survived are

Milled-Edge Coinage | 281

of impressive quality, but he faced strongopposition from established moneyers.After an inquiry yielded adverse findings,Mistrell was relieved of his duties at themint, and six years later he was hangedfor counterfeiting.

The Paris mint again lost talent toLondon in 1625 when Nicholas Briot,chief engraver in Paris, left France out offrustration over the opposition of theestablished moneyers. Between 1631and 1640, Briot minted silver coins withmilled edges, but hammered coins stilldominated English coinage. In 1649,Pierre Blondeau, an engineer from theParis mint, arrived in London. Blondeauhad developed an inexpensive and prac-tical method of producing the millededge, prompting Louis III of France toban the minting of hammered coins in1639. In England, Blondeau minted atoken quantity of milled-edge coins.Apparently, both Briot and Blondeaureturned to France after the Common-wealth government refused to progressbeyond the experimental stage with thenew methods of coinage.

After the Restoration returned CharlesII to the throne, he recalled Blondeaufrom France and awarded him a 21-yearcontract to develop and apply methodsfor making milled and engrained edges.The contract for turning out blanks andstamping fell to three Flemish brothers,John, Joseph, and Phillip Roettier. In1663, the Tower mint produced a £1 cointhat signaled the beginning of mecha-nized minting in England.

Methods for minting coins with theserrated or corrugated edge also passedfrom France to Spain. In the Englishcolonies and early United States, theSpanish milled dollar was among themost popular and widely circulatedcoins, passing as legal tender for briefperiods. The Spanish milled dollar estab-

lished the dollar as the principal unit ofcurrency in the United States.

The practice of milled-edge coinagecontinues to the present day. In theUnited States, coins in denominationslarger than a nickel have milled edges.

ReferencesChallis, C. E., ed. 1992 A New History of the

Royal Mint.Craig, J. 1953. The Mint: A History of the

London Mint from A.D. 287 to 1948.Feavearyear, Sir Albert. 1963. The Pound

Sterling: A History of English Money, 2nded.

MISSING MONEY

The case of missing money refers to thefact that more than half of U.S. currencyin circulation is held abroad by foreign-ers. The money is missing in the sensethat the currency leaves the United Statesfor foreign destinations through under-ground and illegal activities.

A study of $100 bills illustrates themagnitude of the missing money. Abouttwo-thirds of the outstanding currency incirculation is in $100 bills, yet these billsplay a small part in daily transactions.Cash registers do not have a slot for $100bills, and automatic teller machines(ATM) do not issue them. Instead, $100bills rank among the important exportsof the United States.

In May 2006, the stock of U.S. cur-rency stood at $742 billion, averagingabout $2500 per person. By these num-bers, each family with two adults andtwo children should be holding about$10,000 in currency. Surveys haveshown that individual holdings of cur-rency average much closer to $100 perperson. The amount of missing currencytherefore approximates $2,400 per per-son, no small amount of money (Porter

282 | Missing Money

and Judson, 1996). Retailers and otherbusinesses hold currency to conductdaily transactions but only a small frac-tion of the $2,400 per person that ismissing. It is estimated that businessesaccount for less than $100 per person ofthe missing money. The undergroundeconomy, including the informal trans-actions aimed at dodging taxes, probablyaccounts for slightly more than the legit-imate business sector. Combining thecurrency holdings of legitimate busi-nesses and the underground economystill puts the average currency holding atless than $225 per person (Porter andJudson, 1996).

Studies have uncovered that a largeshare of the missing money is held in for-eign countries. Anywhere between 55and 70 percent of U.S. outstanding cur-rency is held in foreign countries. Duringthe first half of the 1990s, roughly 75 per-cent of the increase in U.S. currency emi-grated abroad (Porter and Judson, 1996).

Residents of foreign countries oftensee holding U.S. currency as protectionagainst domestic inflation. In the early1990s, hyperinflation plagued severalcountries that had been either part of theSoviet Union or a member of the EasternBloc. Between 1988 and 1995, abouthalf of U.S. currency that went overseasfound its way to Europe, particularly toRussia and the other nations of EasternEurope (Porter and Judson, 1996). Inaddition, residents of a foreign countrymay hold U.S. currency in case theymust flee oppression and want to takesome of their wealth with them. BeforeU.S. currency became popular in Russia,Latin America held a large share of U.S.overseas currency. In foreign countries,U.S. currency does not circulate as amedium of exchange or serve as a unit ofaccount, but it does serve as a store ofvalue.

The U.S. government does not regardthe large foreign holdings of U.S. cur-rency as a problem. Outstanding cur-rency is a liability on the FederalReserve System’s balance sheet. It is aninterest free loan to the Federal Reserveand, indirectly, to the U.S. government.The popularity of the U.S. dollar as astore of value in foreign countries allowsthe U.S. government to borrow fundsinterest free. The European Central Bankbegan issuing 500-euro notes, probablyhoping to enjoy some of the advantagesthe United States receives from the pop-ularity of $100 bills in foreign countries.

ReferencesBrimelow, Peter. “Going Underground.”

Forbes, September 21, 1998, pp. 206–207.Porter, Richard D., and Ruth A. Judson. “The

Location of U.S. Currency: How Much isAbroad?” Federal Reserve Bulletin, vol.82, no. 10 (October 1996): 883–903.

Sprenkle, Case M. “The Case of the MissingMoney.” Journal of Economic Perspec-tives, vol. 7, no. 4 (Fall 1993): 175–184.

MONDEX SYSTEM

See: Debit Card

MONETARISM

Monetarism is a school of macroeco-nomic theory emphasizing the causalrole of the money stock in aggregate eco-nomic fluctuations, and holding that thekey to aggregate economic stability lieswith a steady, noncyclical growth path inthe money supply. The aggregate eco-nomic system experiences upswings anddownswings manifested in such statisticsas the unemployment rate. These cycli-cal swings are a response to imbalancesbetween the total demand for all goods

Monetarism | 283

and services relative to the total supply,as opposed to imbalances between sup-ply and demand in individual markets,such as the market for automobiles.

According to monetarism, the aggre-gate economic system has strong intrin-sic tendencies to gravitate toward afull-employment equilibrium, and thesetendencies will assert themselves in theabsence of shocks to the money stockgrowth rate. If the money stock growthrate is stable, the aggregate economicsystem will mirror that stability. Econo-mists who adhere to the tenets of mone-tarism are called “monetarists.”

In policy terms, “monetarism” meansthat central bank monetary policy shouldset target rates of growth of money stockmeasures and rather single-mindedlypursue those targets. Keynesian monetarypolicy, the orthodox policy in the 1950sand 1960s, emphasized interest rates as atarget of monetary policy, raising interestrates to slow down the economy andreducing interest rates to speed things up.Monetarists contended that the Keyne-sian policies took the focus off the moneystock and replaced it with subjectiveideas about what interest rates should be.According to monetarism, financial mar-kets should determine interest rate levels.

Monetarism rose to prominence in the1970s as inflation began to eclipse unem-ployment as the most dreaded economicproblem. Monetarists contended that therelationship between inflation and moneystock growth was virtually a one-to-onerelationship, and that money stockgrowth was feeding the inflation. Mone-tarists clung to the money stock theory asthe sole explanation of inflation, exclud-ing the possible role of governmentbudget deficits, powerful unions, monop-olistic corporations, harvest failures, andshortages of key raw materials.

Although restricted money stockgrowth seemed a plausible antidoteagainst inflation, the first effects ofrestricted money stock growth were seenin rising unemployment rates rather thanfalling inflation rates, making the tactic atouchy matter in democratic societiessubject to the moods of voters. A presi-dent no less conservative than RichardNixon preferred to give wage and pricecontrols a try rather than put the econ-omy on a prolonged diet of restrictedmoney stock growth.

The decade of the 1980s saw whatmight be called a monetarist experiment.The governments of Margaret Thatcherin the United Kingdom and PresidentReagan in the United States imposedstrict monetarist policies of restrictedmoney stock growth in an effort to breakthe back of double-digit inflation. In theUnited States, the prime interest ratesoared to 20 percent, and unemploymentreached double-digit levels. Thatcher’spolicies put the United Kingdom throughsimilar rigors. The tight money policiesput these economies through recessionsdeeper than any economic contractionsince the 1930s.

Monetarist policies succeeded inbringing down inflation rates, and unem-ployment rates began to fall back, sug-gesting that monetarist policies weresucceeding. Nevertheless, in October1987, stock markets crashed in NewYork and London, and central banksbegan increasing money stock growth toreinflate world financial markets. Con-trary to monetarists’ expectations, theadded money stock growth did not trig-ger another round of inflation. Duringthe 1990s, inflation was less thanexpected based on money stock growth,casting a bit of doubt on monetarism.Between 1999 and 2005 Japan reported

284 | Monetarism

deflation. Japan’s deflation persisted inthe face of interest rates that stood near 0percent, further undermining confidencein monetarism.

At the very least it can be said thatmonetarism brought a stoical quality toeconomic policy making that wasneeded to endure the pain of disinflatingthe economies of the world. Notwith-standing the departure in the 1990s frommonetarist policies based on strict,steady growth rates in money stocks,inflation rates have steadily subsided,perhaps reflecting the policy effects ofnew knowledge gained from the mone-tarists’ theoretical explorations.

See also: Central Bank, Equation of Exchange,Monetary Theory

ReferencesFriedman, Milton. 1969. The Optimum

Quantity of Money, and Other Essays.Mankiw, N. Gregory. 1997. Macroeconom-

ics, 3rd ed.McCallum, Bennett T. 1989. Monetary Eco-

nomics: Theory and Policy.

MONETARY AGGREGATES

Monetary aggregates measure the moneystock, which is defined as the sum ofhighly liquid assets that serve either as amedium of exchange, standard of value,or a store of value. Money supply meas-ures in terms of monetary aggregates arenecessary because many assets serve thesame purpose as currency; for example,checking accounts, savings accounts,and so on. Therefore, operational meas-ures of the money stock must take theseassets into consideration.

In the United States, the monetaryaggregate denoted “M1” is the most nar-rowly defined measure of the money

stock, and a broader measure, denoted“M2,” includes everything in M1 plusadditional assets. “M3” is an evenbroader measure, including everything inM1 and M2 and more.

In the United States, M1 includes allthe currency not held by the U.S. Trea-sury, Federal Reserve Banks, foreignfinancial institutions, and commercialbanks, plus an array of checkabledeposits and travelers’ checks. Currencyincluded in M1 is the currency circulat-ing as a medium of exchange. Commer-cial bank vault cash is excluded becauseit is represented in depositors’ accounts,and summing the vault cash with cus-tomer checking accounts would becounting those funds twice. The largestshare of checkable deposits are called“demand deposits,” because the bankowes that money to the depositor ondemand, without prior notice or otherconditions. Bank customers often callthese accounts “checking accounts.”Another checkable account is the nego-tiable order of withdrawal (NOW)account, an interest-bearing account atthrift institutions that resembles a sav-ings account but has checking privileges.Automatic transfer service (ATS)accounts, which automatically transferfunds from an interest-bearing savingsaccount to a checking account as needed,are also included as checkable depositsin M1, as are Credit Union Share Drafts(CUSDs).

Checkable deposits owned by otherdepository institutions, the U.S. govern-ment, foreign banks, and other officialinstitutions are excluded from M1. M1therefore represents highly liquid assetsacceptable as a medium of exchange.Often, cash is preferred over checks forsmall transactions, but for large transac-tions checks are preferred over cash.

Monetary Aggregates | 285

In the United States, M2 includeseverything in M1 plus small repurchaseagreements (less than $100,000), moneymarket deposit accounts and money mar-ket mutual fund accounts when minimumdeposits are less than $50,000, and sav-ings and small time deposits (less than$100,000). A repurchase agreement is anarrangement under which a commercialbank sells a government bond to a largedepositor and agrees to buy it back at ahigher price in the future, overnight insome cases. It is an underhanded meansof paying interest, and grew into promi-nence when regulations forbade interestrate ceilings on checking accounts.Money market deposit accounts andmoney market mutual fund accountsrequire high minimum deposits, pay highinterest, and allow only checks writtenabove a certain amount, such as $500.M2 does not include deposits held in tax-exempt retirement accounts, or thoseowned by the federal government, for-eign governments, or commercial banks.M2 embraces assets less liquid than theassets included in M1, but assets that canreadily be converted into cash.

The Federal Reserve System ceasedreporting statistics on M3 in 2005. Othercentral banks still report M3 for their cur-rencies. For the United States, M3included everything in M2 but addedlarge repurchase agreements and timedeposits, Eurodollar accounts, large timedeposits, and money market mutual fundaccounts held by institutions. Eurodollaraccounts are accounts owned by U.S. res-idents at foreign branches of U.S. banksworldwide, and all banking offices inCanada and the United Kingdom. Aneven broader monetary aggregate is “L.”L includes everything in M3 plus short-term treasury bonds, commercial paper,savings bonds, and bankers’ acceptances.Commercial paper is an unsecured prom-

ise to pay. It is sold at a discount from aface value and matures in a short time, nomore than nine months. Bankers’ accept-ances, meaning a bank accepts (or guar-antees) another firm’s promise to pay,provide short-term financing for com-mercial trade.

See also: Certificate of Deposit, Eurodollars,Federal Reserve System, Money MarketMutual Fund Accounts, Negotiable Order ofWithdrawal Accounts

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets: An Economics Approach.

Federal Reserve System. 1998 (January).Federal Reserve Bulletin.

McCallum, Bennett T. 1989. Monetary Eco-nomics: Theory and Policy.

MONETARY LAW OF 1803(FRANCE)

The French Monetary Law of 1803 rati-fied the franc as the French money ofaccount and established France on abimetallic system. From the Carolingianmonetary reform in the eighth centuryuntil the French Revolution, the livre wasthe money of account in France. Under theCarolingian, system each livre consistedof 20 sols, and each sol consisted of 12deniers. These basic provisions of the Lawof 1803 were first passed in Calonne’s lawof 1785, named after a comptroller gen-eral of French finances. The chaos of rev-olution disrupted the implementation ofCalonne’s law, but on October 7, 1793,France acted on the precedent set by theUnited States and Russia, and establisheda decimal monetary system. In 1795, theFrench revolutionary government changedthe name of the money of account fromlivre, to franc. In 1799, the terms “franc,”

286 | Monetary Law of 1803 (France)

“dixieme,” and “centime” replaced “livre,”“sol,” and “denier” as the official unitsrequired in accounting.

The Law of 1803 fixed in law the pro-visions of Calonne’s law, based on a dec-imal monetary system with the franc asthe French monetary unit. The franc hadtwo legal equivalents, one in silver andthe other in gold. The law declared that“[f]ive grams of silver, nine-tenths fine,constitute the monetary unit, whichretains the name of franc.” The law alsoprovided that the mint strike silvercoins in denominations of a quarter-franc, half-franc, three-quarter franc, 1franc, 2 francs, and 5 francs.

After declaring the specifications anddenominations of the silver franc, the lawstated that “[t]here shall be coined goldpieces of twenty francs and of 40 francs.”The 20-franc Napoleon coin weighed6.45 grams, making a gold franc equal to0.3225 grams of gold. The defined metalcontents of the silver franc and the goldfranc established a bimetallic system inwhich a gram of gold was 15.5 times asvaluable as a gram of silver.

Both gold and silver coins were legaltender, and unlike the old livres eachcoin bore a stamp of its value. Anyone,

including a foreigner, was free to bringgold and silver to French mints forcoinage. The law specified that:

The expense of coinage alone canbe required of those who shall bringmaterial of gold and silver to theMint. These charges are fixed atnine francs per kilogramme of gold,and at three francs per kilogrammeof silver. When the material shall bebelow the monetary standard, itshall bear the charges of refining orof separation. (Laughlin, 1968, 313)

Just as the United Kingdom becamethe headquarters for the gold standardduring the 19th century, France becamethe staunch defender of bimetallism. Abimetallic ratio of between 15 and 16 to1 continued until the 1870s when thevalue of silver began to fall significantly,forcing France and other bimetallic coun-tries in Europe off the bimetallic standardin favor of the gold standard. The UnitedState abandoned bimetallism in favor ofthe gold standard during the same period.

See also: Bimetallism, Decimal System,French Franc, Latin Monetary Union

Monetary Law of 1803 (France) | 287

Two-franc coin bearing the likeness of the emperor Napoleon, approximately 1804. (BritishMuseum/Art Resource, NY)

ReferencesChown, John. 1994. A History of Money.Laughlin, J. Laurence. 1968. The History of

Bimetallism in the United States.Vilar, Pierre. 1976. A History of Gold and

Money, 1450–1920.

MONETARY MULTIPLIER

The monetary multiplier shows the mul-tiple by which the money stock canexpand given an initial infusion of freshfunds into the banking system. A centralbank, such as the Federal Reserve Sys-tem, can infuse additional funds intocommercial banks by purchasing gov-ernment bonds owned by commercialbanks or commercial bank customers.The central bank can also loan funds tocommercial banks, but purchasing bondshas a more permanent impact.

A customer of a commercial banksells a bond to the Federal Reserve Sys-tem, taking the proceeds of the sale anddepositing it in an account at the com-mercial bank. Under a fractional reservesystem of banking, the commercial bankhas to hold only a fraction of the newdeposit, say 20 percent if the legalreserve ratio is 20 percent, and theremainder the commercial bank can lendto a borrowing customer. Whateveramount is loaned out is likely to bedeposited in either the bank making theloan, or more likely, in another bank.The bank that receives this seconddeposit originating from the bank loanonly has to keep a fraction of the newdeposit, and can lend the remainder.Therefore, a second loan will be made.

The customer that first sold a bond tothe Federal Reserve System still has theproceeds of that sale in the form of abank deposit, and two subsequent bankdeposits have been created, causing a

magnified expansion of the money sup-ply, the bulk of which is bank deposits.The expansionary process will continue,as the proceeds of a second loan will, inall probability, land in a bank deposit,giving another bank a new deposit fromwhich it can make a loan. Each bank thatreceives a new deposit must hold a frac-tion of the new deposits as reserves, andmay lend the remainder.

Because each subsequent new depositis smaller than the previous new deposit,the cumulative expansion of newdeposits slows to a halt. The monetarymultiplier shows how far bank depositscould theoretically expand under idealconditions. If the monetary multiplier isfive, then an initial infusion of $1,000 offresh funds into commercial banks couldlead to a maximum expansion of bankdeposits of $5,000.

The simplest monetary multiplier iscalculated by taking the reciprocal of thelegal reserve ratio. A legal reserve ratioof 20 percent produces a monetary mul-tiplier of five. This simplest multiplierignores the possibility that banks maypurposely maintain a reserve ratio abovethe legal reserve ratio, or that some fundsloaned out by a bank may leak into cir-culation, never to be deposited in anotherbank. In practice, the actual monetarymultiplier will be less than the theoreti-cal monetary multiplier based only onthe legal reserve ratio. More complicatedmultipliers incorporate a currency-to-deposit ratio to adjust for the leakage ofcash into circulation.

The funds that the Federal ReserveSystem injects into commercial banks issometimes called “high-poweredmoney,” because a series of commercialbanks making loans will multiply thatinitial injection of funds into a muchlarger money stock increase. The mone-tary multiplier also shows that the

288 | Monetary Multiplier

money supply is not entirely in the handsof the Federal Reserve System, butexpands and contracts with the eagernessof commercial banks to make loans, giv-ing the commercial banks as much influ-ence on the money supply as the printingpresses at the Bureau of Engraving.

See also: Bank, High-Powered Money, LegalReserve Ratio

ReferencesMcCallum, Bennett T. 1989. Monetary Eco-

nomics.McConnell, Campbell R., and Stanley L.

Brue. 1998. Economics: Principles, Prob-lems, and Policies, 14th ed.

MONETARY NEUTRALITY

In economics, the principle of monetaryneutrality holds that changes in the circu-lating money stock leave no lasting impacton the quantity of goods and services pro-duced, unemployment rate, wages meas-ured in real purchasing power, or otherindicators of economic prosperity. Tounderstand the concept of monetary neu-trality, it helps first to understand whateconomists mean by real variables. In eco-nomics, nominal variables are not adjustedfor inflation whereas “real” variables areadjusted for inflation. If the average nom-inal wage in the United States doubledover a span of time, and prices on averagedoubled over the same span of time, theneconomist would say that real wagesremained constant. Wages doubled, butprices doubled. The result was that the realpurchasing power of wages remained con-stant, and the standard of living of wageearners saw no change. The same princi-ple applies to other variables. If the moneysupply doubles, but prices double, the realmoney supply remains constant. The realwage equals the nominal wage divided by

the average level of prices. The real moneysupply equals the nominal money supplydivided by the average level of prices. The“real interest rate” equals the contracted orquoted interest rate minus the inflationrate.

The principle of monetary neutralityclaims that even the real money supplywill not be impacted by a change in thenominal money supply. If monetaryauthorities double the money supply,then after a period of adjustment priceswill double as a result, and the realmoney supply will return to its originallevel. The real money supply is a func-tion of other real variables, such a realoutput and real interest rates. Accordingto monetary neutrality, real variables arefunctions of other real variables. There isno causal nexus between changes in thecirculating money supply and real eco-nomic variables.

The principle of monetary neutralitycasts some doubt on the value of mone-tary policy. All advanced nations havecentral banks that adjust domesticmoney stocks to meet the needs of tradeand economic activity. If the onlyimpact of a 10 percent increase in themoney supply is to increase prices by10 percent, one might ask whether any-thing useful is being accomplished. Theanswer lies in a consensus that the prin-ciple of monetary neutrality does nothold in the short run. Changes in themoney supply do not directly impactprices, and in the adjustment process,real variables are effected temporarily.The strongest adherents of monetaryneutrality tend to favor a nonfluctuat-ing rate of monetary growth that is inline with the overall growth in eco-nomic activity.

The principle of monetary neutralityhas strong logical and theoretical foun-dations, but it is difficult to verify

Monetary Neutrality | 289

empirically. Economic data clearlyshows that the principle does not hold inthe short run. To test the principle as along-term concept, the money stockwould need to be held constant for a longspan of time, giving the economy plentyof time to adjust to the last change in themoney stock. Then the economy wouldhave to undergo a one-time, abruptchange in the money stock. With themoney stock held constant at the newlevel, the economy would be given plentyof time to assimilate the new money,allowing ample time for adjustments towork themselves out. These conditionsare never met in the real world.

Even with the difficulties of estab-lishing it with unimpeachable proof, theprinciple of monetary neutrality servesas a warning against the abuse of mone-tary policy. It shows that increases in themoney supply are not a road to perma-nent increases in prosperity. In a reces-sion, accelerated money stock growthmay help bring the unemployment rateback to more normal levels, but cannotpermanently peg the unemployment rateat an unusually low rate.

ReferencesBullard, James. “Testing Long-Run Mone-

tary Neutrality Propositions: Lessonsfrom the Recent Research.” Review, Fed-eral Reserve Bank of Saint Louis, vol. 81,no. 6, pp. 57–77.

Lucas, Robert E. Jr. “Nobel Lecture: Mone-tary Neutrality.” Journal of PoliticalEconomy, vol. 104, no. 4 (August 1996):661–683.

MONETARY THEORY

Monetary theory, an important subarea ofmacroeconomics, proposes to explain therelationship between the money stockand the macroeconomic system. Macro-

economics is the part of economics con-cerned with the economy as a whole, asopposed to individual industries or sec-tors. Fluctuations in the economy as awhole, that is, in aggregate output, causefluctuations in the unemployment rate,interest rates, and average prices.

Monetary theory analyses the role ofmoney in the macroeconomic system interms of the demand for money, supplyof money, and the natural tendency ofthe economic system to adjust to a pointthat balances the supply and demand formoney, a point that is called “monetaryequilibrium.” One sector of the macro-economic system is conceived as themonetary sector, and the monetary sectorhas a natural tendency to converge tomonetary equilibrium.

A phenomenon such as inflation canbe attributed to an excess of the supplyof money relative to the demand. Excessmoney supply causes the value of moneyto drop, which manifests itself as higherprices, causing each unit of money tobuy less. A stock market crash can beattributed to an excess demand formoney relative to supply, causing stock-holders to sell stocks to raise money.Theoretically, the macroeconomic sys-tem converges to equilibrium, and onenecessary condition for macroeconomicequilibrium is monetary equilibrium.

Monetary theory usually assumes as arough approximation that the moneysupply is fixed by monetary authorities,and can be changed as necessary for thepublic’s interest. The demand for money,however, is outside the control of publicofficials and is a function of other eco-nomic variables, particularly aggregateincome, interest rates, the price level,and inflation. Aggregate income deter-mines the amount of money householdsand businesses plan to spend in the nearfuture. Households and businesses hold

290 | Monetary Theory

money because they plan to buy things inthe near future.

Money holdings of households andbusinesses that will not be needed forpurchases in the near future may beinvested in long-term assets (stocks andbonds) that earn income. Money holdingsearn little or no income. When moneyholdings are used to purchase stocks andbonds, the demand for money decreases,and the demand for stocks and bondsincreases. Rising interest rates decreasemoney demand as money holdings aredrawn into the purchase of bonds. Fallinginterest rates cause bonds to become lessattractive, raising the demand for money.

Like rising interest rates, inflationmeans that money can be put to better usein other places, perhaps in the purchaseof gold, silver, or real estate. Inflationreduces the demand for money, but defla-tion makes hoarding money an attractiveinvestment, increasing the demand formoney. Higher price levels, however, willeventually increase the demand formoney, as money is needed to financemore costly transactions. Inflationreduces the demand for money at first,but when the inflation ceases, the demandfor money will level out at a higher levelthan existed before the inflation started.

When monetary authorities changethe money supply, the macroeconomicsystem adjusts to bring the demand formoney in line with the supply of money.If the money supply is increased whilethe economy is in a recession, the extramoney will probably flow into the stockand bond markets, stimulating business.As the economy expands, income grows,and the demand for money grows, catch-ing up with the supply of money andrestoring monetary equilibrium. If themoney supply is increased while theeconomy is at full employment, the extramoney will cause an increase in the

demand for goods relative to supply.Prices will go up until the real (inflationadjusted) value of the money supply hasfallen sufficiently to stop the inflation.

Monetary theory supplies the theoreti-cal foundation for monetary policy,which has to do with the regulation of themoney supply growth rate. Economistsdisagree as to whether the money supplygrowth rate should be speeded up andslowed down to meet the apparent needsof the economy, or whether the moneysupply growth rate should remain at afixed amount, probably between 3 and 5percent per year. Many contemporaryeconomists argue that a fixed money sup-ply growth rate is the best guard againstinflation and economic instability.

See also: Equation of Exchange, Monetarism,Value of Money, Velocity of Money

ReferencesMankiw, N. Gregory. 1996. Macroeconom-

ics, 3rd ed.McCallum, Bennett T. 1989. Monetary Eco-

nomics.

MONEYER

Before the mechanization of coinage,mints were staffed by moneyers, whophysically struck the coins. In Englandat least, moneyers seemed to have ownedtheir own tools. In 1484, Robert Hart, anEnglish moneyer, bequeathed to hisapprentice “my anvil, 4 hammers, a mal-let, a pair of tongs, an hamnekyn, and 2pairs of shears” (Challis, 1978, 5 foot-note).

Moneyer as an organized trade or skillstretches back to the ancient world. Inthe Roman Empire, moneyers weremembers of a hereditary profession,recruited mainly from families holdinghigh positions in government. A member

Moneyer | 291

of the moneyer caste could not resignwithout furnishing someone to take hisplace. In Rome, as in later societies, trustand character were an important qualifi-cation for the profession of moneyer.The same skills that allowed a moneyerto strike coins meeting official specifica-tions could be put to work to forge coun-terfeit coins, or to debase official coinageat a secret profit to the moneyer.

English moneyers organized them-selves into a company or guild andelected a leader, the provost, who couldcall a meeting of the moneyers at anytime and impose mild disciplinary penal-ties. New recruits to the company had toserve as apprentices for seven years andtake an oath to serve the company andthe crown loyally. The warden of themint paid the provost, who in turned paidindividual moneyers. Mints lay idle por-tions of the year, and moneyers came towork only when the mint was in opera-tion. The most important mint inmedieval England was the Tower Mint,and moneyers from the Tower Mint wereassigned to local mints in other parts ofEngland. A few localities provided hous-ing for moneyers while they wereengaged at the mint. Some of the mon-eyers worked for goldsmiths when themint lay idle, and judging from theirdebts, moneyers were not poor people.

Codes of law in medieval Englandregulated the conduct of moneyers. Oneprovision stipulated that a moneyerfound guilty of issuing debased or lightcoin should have the offending hand sev-ered and fastened to the mint. Althoughthe profits from forgery were high, therisks were also substantial. At Christmasin 1124, Henry III summoned all money-ers to Winchester, where, according tothe Anglo-Saxon Chronicle, within aperiod of 12 nights all were mutilated.According to the Margam Annals, 94

were punished. By the close of Henry’sreign, 19 out of 30 mints had shut down,probably because of a shortage of mon-eyers.

In the 17th century, mechanizationbegan to replace the moneyers. Money-ers were now supervisors who oversawthe work of laborers operating machin-ery. The term “moneyer” does not seemto have been used in the United States. Itwas still applied to British mint workersinto the 19th century, but it fell into dis-use in the 20th century. Today there areno craftsmen working at mints who bearthe title “moneyer.”

See also: Milled-Edge Coinage

ReferencesChallis, C. E. 1978. The Tudor Coinage.Challis, C. E., ed. 1992. A New History of the

Royal Mint.Freeman, Anthony. 1985. The Money and the

Mint in the Reign of Edward the Confes-sor, 1042–1066.

MONEY LAUNDERING

Money laundering refers to the processesof turning money earned from criminalactivity into untainted, innocent moneythat bears no traces of its illegitimate ori-gin. Laundering money hides untaxed andotherwise illegitimate income from taxcollectors and law enforcement. It trans-forms the profits from crime into legiti-mate investments. More recently, the termhas been applied to money secretly chan-neled into financing terrorist activity.Money laundering makes it more difficultto trace the origin of terrorist activity.

The age of computer networking andliberalized capital flows opened newopportunities for money launderers. Aslate as 1989, Columbian police, aftershooting dead a Columbian drug lord,

292 | Money Laundering

unearthed his stash of millions of dollars.He had buried it because sneaking it intothe financial system unnoticed was toodifficult (Economist, July 1997). Accord-ing to some experts, now it is much easier.Rapid growth in the number of cross-bor-der transfers played into the hands of thoseneeding to hide ill-gotten gain. In addition,the multiplication of sophisticated finan-cial instruments has aided and abetted thework of money launderers. On one case,money launders fabricated a profitableoptions trade to account for the suddenappearance of a hefty sum of cash in abank account. Russian crime-lords havegone so far as to buy a whole bank.

Money laundering is service that canbe purchased by those who know whereto look. By one estimate, the going ratefor cleansing drug money is Britain isbetween 5 and 10 percent (Economist,May 2006). Britain has some of theworld’s toughest laws against moneylaundering.

About three quarters of launderedmoney probably originates from theprofits of illicit trade. Estimates of thetotal amount of criminal money cleansedthrough the global financial systemranges as high as $1.5 trillion per year(Economist, April 2001). The totalamount of criminal money in the globalfinancial system could easily run into thetrillions. Some even suspect that flows ofcriminal money inflate and deflate finan-cial markets. In the 1990s, both Mexicoand Thailand underwent currency crises.Although economic mismanagementexisted in each case, it was also true thatboth countries were centers for moneylaundering.

Aside from criminals themselves, themain culprits in money laundering are theoff-shore banks, particularly the “shell”or “brass-plate” banks. The shell orbrass-plate banks have no physical pres-

ence in any location. In one case, U.S.investigators discovered that illegal drugmoney has been wired to a bank accountoutside the United States. After gettingthe government in the bank’s country toassist in the investigation, investigatorsdiscovered that the bank and bankaccount to which the money was wiredactually resided in another country. Offi-cials in this last country discovered thatthe bank had no buildings or branches. Itturned out the shell bank had an accountin a correspondent bank in New York.That was where the money was found.

In 1986, the United States enacted theMoney Laundering Control Act, theworld’s first law specifically directedagainst money laundering. As the War onTerror became a major concern afterSeptember 11, 2001, the United Statesstrengthened its stance against moneylaundering, levying heavy fines againstoffending banks. In both the UnitedStates and Britain, banks are obligated toreport suspicious transactions. The prob-lem of money laundering resembles theproblem of global warming in that effec-tive action requires cooperation of allcountries. So far, an international con-sensus has not emerged on what bansshould exist on money laundering. Someremember the experience of Jews in Ger-many who violated capital controls toget money out of Germany and intoSwiss bank accounts. Bans on moneylaundering could interfere with the legit-imate needs of oppressed people to moveassets to a safe haven.

References

Economist. “Cleaning Up Dirty Money.” July26, 1997, p. 13.

Economist. “Special: Through the Wringer.”April 14, 2001, p. 64.

Economist. “Britain: In a Spin; MoneyLaundering.” May 27, 2006, p. 35.

Money Laundering | 293

Riley, Clint “Help Wanted, Bank Officials toWatch Cash; Compliance Executives Are inGrowing Demand As Regulation In-creases.” The Wall Street Journal (EasternEdition, New York) February 6, 2007, p. C1.

MONEY MARKET MUTUALFUND ACCOUNTS

Money market mutual fund accounts(MMMFA) arose during the 1970s as afinancial innovation designed to circum-vent Regulation Q, a federal rule that lim-ited the interest rate payable on checkingand savings accounts to less than 6 per-cent. The high inflation rates of the 1970sput unreasonably low government ceilingson checking and savings account interestrates. Ninety-day treasury bills wereexempt from interest rate ceilings, butthese bills were only available in denomi-nations of $10,000, outside the reach ofthe small saver. Other large denominationfinancial instruments, such as commercialpaper and banker’s acceptances, were alsoinaccessible to small savers.

Mutual funds raise capital by sellingshares to investors, and invest the capitalin an array of assets. They distribute theincome from these investments to share-holders, minus management and otherfees. Money market mutual funds sellshares to investors, but the value ofshares is manipulated to remain at afixed amount, such as $1 per share. Theproceeds from the sale of shares areinvested only in safe, short-term assets,such as U.S. Treasury bills, giving smallsavers access to the high earnings of thehigh-denomination assets.

Small savers can often open aMMMFA with a small investment,maybe as little as $500 but usuallybetween $2,000 and $4,000. As long as aminimum investment is maintained, the

shareholder of a MMMFA enjoys limitedcheck-writing privileges, generally inminimum amounts of $500 against theirshare holdings. An MMMFA is techni-cally not a deposit subject to the regula-tions of a depository institution, but theaccounts are managed to act as a depositwith check-writing privileges. Althoughan MMMFA cannot boast of the safety ofdeposits insured by the Federal Deposi-tory Insurance Corporation (FDIC),MMMFAs often invest a high proportionof their capital in U.S. Treasury bills, giv-ing them the same guarantee of the fed-eral government as deposit insurance.

With check-writing privileges,MMMFAs began to serve the same pur-poses as checking accounts, an impor-tant component of the money supply.Between 1976 and 1992, MMMFAsgrew from $2.4 billion to $360 billion,due to the movement of deposits fromchecking and savings accounts. TheFederal Reserve System includesMMMFA accounts in M2, a monetaryaggregate economists often consider thebest operational definition of the moneysupply.

On December 14, 1982, banksreceived authorization to offer moneymarket deposit accounts (MMDAs),which offer depositors comparable inter-est rates on assets similar to MMMFAsand have the added advantage of protec-tion from the FDIC. At first, MMDAsgrew rapidly at the expense of MMM-FAs, and the depository institutionsregained ground lost to MMMFAs. Bythe 1990s, MMMFAs had establishedthemselves as an important monetaryasset, but the volume of MMMFAsremained below the volume of theMMDAs.

See also: Certificate of Deposit, MonetaryAggregates, Negotiable Order of With-drawal Accounts

294 | Money Market Mutual Fund Accounts

ReferencesBaye, Michael R., and Dennis W. Jansen.

1995. Money, Banking, and FinancialMarkets: An Economics Approach.

Klein, John J. 1986. Money and the Econ-omy, 6th ed.

MUGHAL COINAGE

The Mughal emperor Jahangir(1605–1627) wrote in his diary of hisnew coinage bearing signs of the zodiac:

Previous to this the rule of thecoinage was that on the face of themetal they stamped my name, andon the reverse side the name of theplace and the year of the reign. Atthis time, it entered my mind thatin the place of the month theyshould substitute the figure of theconstellation which belonged tothat month. (Williams, 1997, 96)

One of Jahangir’s coins bore a resem-blance to himself with a cup of wine inhis hands, a significant departure fromIslamic coinage practice.

Evidence of Indian coinage prior toAlexander the Great’s invasion(329–325 BCE) is scanty, but Indiancoinage may have appeared soon afterthe invention of coinage in Lydia. What-ever the date, early Indian coinage seemsto follow Greek models, and Alexandercan be credited with spreading the tech-niques of Greek coinage in India. Indiancoinage spread eastward in the wake ofIndian culture and religion, and by the13th century could be seen as far away asIndonesia and the Philippines.

In the 16th century, the Mughalsdescended on India from the northwest,establishing an Islamic kingdom. UnderIslam, a new ruler could expect to havehis name mentioned at the daily Mosque

prayers and to have the privilege to issuecoinage bearing his name.

The money of account of the Mughalswas the silver rupee, which also datesback to 16th-century India. To beaccepted as money, coins had to bear thename of the current Mughal emperor, acustom that persisted even after theMughal emperor existed in name onlyand the Mughal empire had splinteredinto autonomous kingdoms. Roughly300 types of rupee circulated when theBritish reformed India’s currency andstandardized the rupee early in the 19thcentury.

Under the Mughal system, money-changers, called “shroffs,” played aprominent and necessary role in mone-tary transactions. All large transactionsrequired the presence of shroffs to counteach coin and assign discounts accordingto the wear of each coin and the time andlocation that each was struck.

Late in the 18th century, the Britishintroduced mechanical coinage intoIndia. Mechanical coinage had been uni-versal in Europe since 1700. In 1835, theBritish reformed India’s currency andstandardized the rupee, ending the multi-tude of rupees and the need for shroffs.The British continued the practice ofissuing coins in the name of the Mughalemperor, a necessary condition to makecoins acceptable. Under the prestigiousinfluence of the British Empire, therupee became the standard unit of cur-rency in the Persian Gulf and southernArabia, and spread as far south as BritishEast Africa and Natal in South Africa.

See also: Ottoman Empire Currency

ReferencesCarter, Martha L., ed. 1994. A Treasury of

Indian Coins.Williams, Jonathan, ed. 1997. Money: A

History.

Mughal Coinage | 295

297

N

NAILS

In the most famous book on economics,Wealth of Nations, published in 1776,Adam Smith wrote that “there is at thisday a village in Scotland where it is notuncommon, I am told, for a workman tocarry nails instead of money to thebaker’s shop or the alehouse” (Smith,1937, 23).

Smith goes on to speculate why met-als have been the money of choice formany countries:

[M]en seem at last to have beendetermined by irresistible reasonsto give the preference for thisemployment to metals above everyother commodity. Metals can bekept with as little loss as any othercommodity, scarce anything beingless perishable than they are, butthey can likewise, without any loss,be divided into any number ofparts, as by fusion those parts caneasily be reunited again, a qualitywhich no other equally durable

commodities possess, and whichmore than any other quality ren-ders them fit to be the instrumentsof commerce and circulation. . . .The man who wanted to buy salt,for example, and had nothing butcattle to give in exchange for it,must have been obliged to buy saltto value of a whole ox, or a wholesheep at a time. . . . If, on the con-trary, instead of oxen or sheep, hehad metals to give in exchange forit, he could easily proportion thequantity of the metal to the precisequantity of the commodity whichhe had immediate occasion for.(Smith, 1937, 23)

There is some evidence that nailsserved as money in one of the 19th-century French coal fields. Nails wereperhaps a convenient form of a metalliccurrency, functioning without the serviceof a mint, and putting the metal in a formthat was equally serviceable as amedium of exchange or as a practicalcommodity.

See also: Spartan Iron Currency

ReferencesEinzig, Paul. 1966. Primitive Money.Smith, Adam. 1937. An Inquiry into the Nature

and Causes of the Wealth of Nations.

NATIONAL BANK ACT OF1864 (UNITED STATES)

The National Bank Act of 1864 gave theUnited States a uniform currency, uni-versally accepted at par, sparing mer-chants the necessity to consult banknotedetectors to appraise the value of variousbanknotes received from customers.Banknote detectors were regularly pub-lished booklets showing the discount oneach banknote.

Before the National Bank Act of1864, the United States had no perma-nent and uniform national currency butonly a confusing medley of state ban-knotes trading at various discounts, usu-ally depending on the distance from theissuing bank. The National Bank Actestablished a system of note-issuingnational banks, with national charters, tocompete with the state banking system,which was regulated by separate bankingregulations in individual states.

The National Bank Act bore a strikingsimilarity to much of the states’ freebanking regulations, allowing any groupof five or more persons meeting certaincapitalization requirements to obtain anational charter. Capital requirementsvaried from $50,000 to $200,000,depending on the size of the city thebank proposed to serve. Larger citiesrequired larger capitalization. A third ofthe capital, or $30,000, whichever wassmaller, had to be held as U.S. governmentbonds deposited with the comptroller of

the currency, a new position created tosupervise the national banking system.In exchange for the government bonds,the bank received national banknotes.Aside from other advantages, the newnational banking system created a mar-ket for U.S. government debt.

The act provided for a hierarchy ofreserve banks that led to a pyramiding ofreserves in New York, creating an unstablelink between the banking system and WallStreet financial markets. Country bankshad to meet a 15 percent reserve require-ment, three-fifths of which could bedeposited in banks located in 18 largecities designated as redemption centers.The act subjected banks in the redemptioncenters to a 25 percent reserve require-ment, half of which could be depositedwith New York banks. The reserve require-ment was the fraction of outstanding check-ing accounts or other deposits that a bank

298 | National Bank Act of 1864 (United States)

Salmon P. Chase conferring with PresidentLincoln about the National Bank Act of 1864.(Library of Congress)

had to keep as reserves—vault cash or areserve deposit at an acceptable institution.

Separate legislation effectively gavenational banks a monopoly on the privi-lege to issue banknotes. In 1862, Congressput a 2 percent tax on the issuance of statebanknotes. In 1866, Congress increasedthe tax to 10 percent, putting an end to theprofits of state banknotes, and leaving onlynational banknotes in circulation. Aboutone-fourth of the state banks in northernstates survived the National Bank Act andthe tax on state banknotes. In the later1800s, the substitution of the personalcheck for banknotes brought a resurgenceof the more gently regulated state banks.

The National Bank Act significantlyadvanced the monetary system in theUnited States, but it made no provisionfor a lender of last resort to act as asafety net during financial crises. Con-cern over recurring financial crises ledthe United States to further centralize itsmonetary system with the establishmentof the Federal Reserve System in 1913.

See also: Federal Reserve System, Greenbacks

ReferencesHepburn, A. B. 1924/1964. A History of the

Currency of the United States.Myers, Margaret G. 1970. A Financial His-

tory of the United States.Selgin, George A., and Lawrence H. White.

“Monetary Reform and the Redemption ofNational Bank Notes.” Business HistoryReview, vol. 68, no. 20 (Summer 1994):205–243.

NEGOTIABLE ORDER OFWITHDRAWAL ACCOUNTS

Negotiable order of withdrawal (NOW)accounts are interest-bearing checkingaccounts offered by banks and, particularly,

thrift institutions, in the United States.The so-called M1, the narrowest defini-tion of the money supply in the UnitedStates, includes NOW accounts. NOWaccounts came about from a process ofregulatory evolution rather than con-sciously thought-out planning for themonetary system.

The Glass–Steagall Act of 1933banned payment of interest on checkingaccounts, reflecting the Depression-erathinking that interest-paying checkingaccounts had contributed to the highincidence of bank failures. Payment ofattractive interest rates on checkingaccounts was one means banks used toattract depositors away from otherbanks, and banks that lost a large quan-tity of deposits faced bankruptcy.

Because savings and loan and otherthrift institutions were not authorized toissue demand deposits, the zero-interestrate ceiling on demand deposits did notdirectly affect them. Thrift institutionswere authorized to issue passbookaccounts and regular savings accounts,which allowed customers to depositfunds or make withdrawals anytime dur-ing business hours. Technically, thriftinstitutions could require a seven-daynotice before allowing the withdrawal offunds from these accounts, but in practicethis requirement was usually waived.

The first NOW accounts were offeredin 1972 by the Consumer Savings Bankin Worchester, Massachusetts, a mutualsavings bank. Massachusetts had mutualsavings banks, which were insured by astate insurance fund and therefore inde-pendent of the regulations imposed onthe federally insured depository institu-tions. By 1970, Massachusetts savingsbanks were already authorized to waive a30-day withdrawal notice for regularsavings accounts, and depositors could

Negotiable Order of Withdrawal Accounts | 299

walk into a savings bank and transferfunds to a third party by using counterchecks devised for that purpose. TheWorchester bank only proposed changingthe location at which the third-party draftwas written. The idea came before theMassachusetts Supreme Judicial Court,and the court took two years before decid-ing that the Consumer Savings Bank hada point. After 1972, NOW accounts spreadrapidly among mutual savings banks inMassachusetts. Regulatory bodiesallowed NOW accounts to penetrate therest of New England, and then New Yorkand New Jersey. Title III of the Deposi-tory Institution Deregulation and Mone-tary Control Act of 1980, called theConsumer Checking Account Equity Act,authorized the savings and loan industryto offer NOW accounts nationwide. Theact also authorized credit unions to issuesimilar accounts called share drafts. The-oretically, share drafts pay dividendsrather than interest, but the practicalimplications are the same.

Before the introduction of NOWaccounts, savings deposits at thrifts fluc-tuated with opportunities to earn interestin other types of financial investments. Aperiod of rising interest rates was invari-ably attended with a withdrawal of fundsfrom savings deposits at thrift institu-tions. The availability of interest on NOWaccounts eased some of the pressure ondepositors to find investments for theirmoney outside of the thrift institutions.NOW accounts increased the costs offunds to thrift institutions, but also haveadded stability to savings accounts.From the consumer’s stand point,accounts that pay interest are not as vul-nerable to inflation, because the interestearned offsets the deterioration in pur-chasing power from inflation.

See also: Certificate of Deposit, DepositoryInstitution Deregulation and Monetary Con-trol Act, Monetary Aggregates, Money Mar-ket Mutual Fund Accounts

ReferencesRose, Peter S. 1986. Money and Capital

Markets, 2nd ed.Woerheide, Walter J. 1984. The Savings and

Loan Industry.

NEW YORK SAFETY FUND SYSTEM

The New York Safety Fund System rep-resents one of the early efforts to protectthe public from bank failures and is anancestor to the Federal Depositary Insur-ance Corporation (FDIC) in the UnitedStates. The Safety Fund System requiredthat banks chartered by the state of NewYork contribute to a safety fund to payfor the redemption of banknotes issuedby failed banks.

Under the pre–Civil War banking systemindividual banks issued their own ban-knotes, which in principle they stoodready to redeem in specie. Banknotesplayed the role that checking accountsplay in the modern banking system. Whenbanks, failed the public could no longerconvert the banknotes of failing banksinto gold and silver coins. In the modernbanking system, bank failures, in theabsence of deposit insurance, leave thebanking public unable to withdraw bankdeposits in cash.

The legislature enacted the New YorkSafety Fund Act on April 2, 1829, andthe system remained in effect until theera of free banking that began in 1838.Some of the public skepticism towardbanks at the time can be read in thewording of the act, which referred to abank as a “monied corporation.” The act

300 | New York Safety Fund System

required that each bank annually con-tribute 0.5 percent of its capital to a funduntil the bank’s contribution to the fundequaled 3 percent of its capital. Theinterest earned on the fund, afterallowances for administering the fund,was paid back to the banks. When a bankfailed, the safety fund paid the debts ofthe failing bank, but the fund did notreimburse the owners of the bank for lossof capital. The act put the administrationof the fund in the hands of three com-missioners, one appointed by the gover-nor, and two by the banking community.The act provided that a bank could beliquidated if the bank was two monthsbehind in its contribution to the safetyfund, had sustained a loss of half of itscapital stock, had suspended speciepayments on its banknotes for 90 days,or had refused access to bank commis-sioners. The act also required that bankofficers pledge an oath that a bank’sstock was not purchased with a bank’sown banknotes, a common abuse ofbanking laws at the time.

The safety fund system worked welluntil 1837, but the crisis of 1837 was morethan the fund could handle. The safetyfund appears to have remained in exis-tence into the era of free banking, but noton sound footing. In 1842, the act wasrevised to remove the safety fund fromresponsibility for bank deposits and debts,but maintained the fund’s responsibilityfor banknotes.

R. Hildreth, writing in 1837 on thebanking system, commented on thesafety fund, saying: “it does not level theroot of the evil; and it has the obviousdefect of taxing the honest for the sins ofthe fraudulent” (Chown, 1994).

See also: Central Bank, Free Banking, NationalBank Act of 1864, Suffolk System

ReferencesChown, John F. 1994. A History of Money.Hepburn, A. Barton. 1924/1964. A History of

the Currency in the United States.Myers, Margaret G. 1970. A Financial History

of the United States.

New York Safety Fund System | 301

303

O

OPEN MARKETOPERATIONS

Open market operations are the mostimportant means of expanding and con-tracting money supplies in modern mon-etary systems regulated by central banks.Central banks, such as the FederalReserve System in the United States,regulate money supplies as a means ofmaintaining economic stability and pricestability.

To infuse additional money into theU.S. economy, the Federal Reserve Sys-tem purchases U.S. government bonds,paying for the bonds with freshly createdfunds added to commercial bankdeposits at any of the twelve FederalReserve Banks. Commercial bankdeposits at Federal Reserve Banks, cou-pled with vault cash, make up what iscalled “high-powered money,” because asystem of commercial banks, makingloans, can expand customer demanddeposits by some multiple of the volumeof high-powered money.

To withdraw money from circulationin the U.S. economy, the FederalReserve system sells from its holdings ofU.S. government bonds, and withdrawsthe proceeds of the sales from circulationand the banking system, leading to acontraction of money supplies.

The Bank of England may have beenthe first to regulate credit markets alongthe lines of modern open market opera-tions. Late in the 19th century, the Bankof England would borrow funds in theLondon money market as a means ofraising interest rates.

The Federal Reserve System appar-ently discovered by accident the practiceof open market operations as an instru-ment of monetary control. The FederalReserve Act of 1913 did not specificallyaddress open market operations but didempower individual Federal ReserveBanks to buy and sell securities alongthe lines set forth by the rule sand regu-lations of the the Federal Reserve Board.

An economic slowdown in the 1920sreduced the demand for Federal ReserveBank loans to commercial banks.

Federal Reserve Banks began buyinggovernment securities in the open mar-ket as a means of acquiring income-earning assets, compensating for the lossin the discount loan business to commer-cial banks. At first, individual FederalReserve Banks separately purchasedgovernment securities, occasionally pit-ting individual banks against each otherin bidding for securities. The FederalReserve Banks collectively decided tocoordinate all purchases of governmentsecurities through the New York FederalReserve Bank. In 1922, the then FederalReserve Board, since renamed the Boardof Governors of the Federal ReserveSystem, established a special committee,composed of board members and offi-cials of the Federal Reserve Banks, tomake decisions about open market oper-ations. The comparable committee isnow called the Federal Open MarketCommittee.

The Federal Reserve Banks soonlearned the impact of open market oper-ations on money supplies, interest rates,and credit conditions, but the boardremained split on the wisdom of openmarket operations until the 1930s. Dur-ing the Great Depression of the 1930s,open market operations began to play alarger role in monetary policy. By theend of World War II, open market opera-tions had become the most importanttool in the central bank arsenal of mone-tary controls.

See also: Central Bank, Federal Reserve System

ReferencesAnderson, Clay J. 1965. A Half-Century of

Federal Reserve Policymaking,1914–1964.

Baye, Michael R., and Dennis W. Jansen.1995. Money, Banking, and FinancialMarkets: An Economics Approach.

Klein, John J. 1986. Money and theEconomy, 6th ed.

OPERATION BERNHARD

The scale of Operation Bernhard dwarfsall other counterfeiting operations in thehistory of paper money. Nazi Germanycounterfeited British £5 banknotes and,later, £50 banknotes to fund its foreignintelligence operations. OperationBernhard got its name from BernhardKruger, who headed a workshop inwhich Germany’s security service forgedpassports, motor licenses, universitydegrees, and other personal documents.

Counterfeiting as a weapon of warstretched well back into the 19th century,and at the beginning of World War II,Britain had dropped forged German foodand clothing coupons over Germany andhad made awkward attempts to counter-feit German marks. Germany’s technicalmastery of counterfeiting, however, farsurpassed all preceding operations.

The decision to counterfeit moneywent all the way to Adolf Hitler, whoapproved counterfeiting British poundsin his own handwriting but with the pro-viso that “dollars, no. We’re not at warwith the United States” (Pirie, 1962, 6).Germany stuck to counterfeiting Bank ofEngland banknotes even after the UnitedStates entered the war, but toward theend of the war German apparently pre-pared plates to counterfeit French francsand U.S. dollars.

The practical problem of counterfeit-ing British banknotes was broken downinto three separate parts: (1) production ofpaper identical to paper in British bank-notes, (2) construction of plates identicalwith Bank of England plates, and(3) devising a numbering system.

304 | Operation Bernhard

After finding that rags made fromTurkish flax produced paper almost iden-tical to Bank of England banknotes, theGermans hit on the expedient of sendingthe rags to factories to get dirty first, andthen cleaned the used rags before usingthem to make banknote paper. Engraversspent seven months making plates thatmatched the original prints even whenenlarged 20-fold. The numbering prob-lem was the last to be solved. Apparently,the necessity of developing a numberingsystem that would blend in with theBritish numbering system posed themost troublesome obstacle. The finishedplates were among the most closelyguarded secrets in Germany.

Later in the project, the German coun-terfeiters attacked the problem of makingthe notes age. As printed notes age, theoil in the printing ink begins to seep intosurrounding areas, blurring the quality of

the print. German counterfeit notes werenot aging properly until the Germanslearned to treat their printing ink withchemicals to make it seep into surround-ing areas, producing an aging effect.

After the technical problems weresolved, the Germans sent an agent to theSwiss, carrying a bundle of counterfeitnotes and a letter from the DeutscheReichsbank asking the Swiss to find outif the notes were forged. When the Swissreplied that the notes were genuine with-out a doubt, the agent feigned a lingeringsuspicion and asked the Swiss to checkwith the Bank of England. The Bank ofEngland also returned a reply that thenotes were genuine.

At first, the German governmentplanned to use an infusion of counterfeitnotes to ruin the British economy, butefforts to inject large quantities of notesinto circulation led to diplomatic

Operation Bernhard | 305

Example of a counterfeit Bank of England ten-pound note, created by slave laborers at the Sach-senhausen concentration camp during the Nazis’ Operation Bernhard. (AP Photo/Florence andLaurence Spungen Family Foundation)

embarrassments, and the German govern-ment dropped the plan. Then Germany’ssecret intelligence service decided to usecounterfeit notes to finance its operations,and that is how the counterfeit notes wereput into circulation.

The Bank of England banknotes werecounterfeited at the Sachsenhausen con-centration camp. Three hundred prison-ers, some of them experts in forgery, tookpart in the project, and for a time theseprisoners produced 400,000 notes permonth. About £130 million were counter-feited in banknotes. As the demand forcounterfeit money increased, theGermans began to counterfeit £50 notes.

Both the Germans and the Allies keptOperation Bernhard a secret. Because ofthe circulation of counterfeited bank-notes, the Bank of England withdrew allnotes of £10 or above in 1943 andchanged the paper of the £5 note in 1944.In May 1945, notes from £10 to £1,000ceased to be legal tender.

Toward the end of the war, the Ger-mans dumped counterfeiting suppliesand a vast quantity of notes into theToplitzee, a lake in Austria. Large num-bers of floating notes fueled rumors ofthe dumping, and the Allies sent diversinto the lake, but no banknotes wererecovered. The first public knowledge ofOperation Bernhard came in 1952 whenReaders Digest carried an article aboutit, and gradually more knowledge of theoperation came to light. Only in 1959did divers finally recover the vast quanti-ties of notes and printing supplies. Notesrecovered from the lake were indistin-guishable from genuine Bank of Englandnotes.

Apparently, some of the notes contin-ued to circulate until 1955, when theBank of England went to colored notes,and its older notes ceased to be legal ten-

der. Some evidence suggests that as lateas 1961 these notes were sold behind theIron Curtain to people looking for a storeof wealth until the communist regimesfell.

See also: Counterfeit Money

ReferencesBeresiner, Yasha. 1977. Paper Money.Burke, Bryan. 1987. Nazi Counterfeiting of

British Currency during World War II:Operation Andrew and OperationBernhard.

Pirie, Anthony. 1962. Operation Bernhard.

OPTIMAL CURRENCYAREA

In the post–World War II era, econo-mists raised the issue of the optimal cur-rency area, which is that area that standsto gain from an independent currency.The issue grew in importance as Europemade plans to establish an all-Europeancurrency, the euro, to replace individualnational currencies such as the Germanmark, French franc, and Swiss franc.Although Europe merged into one largecurrency area, the break-up of the SovietUnion held out the spectacle of a largecurrency area splintering into smallercurrency areas. New nations such asUkraine replaced rubles with their owncurrency.

One theory of optimal currency areasemphasizes the importance of resourceimmobility. Consider two areas, one witha high unemployment rate and anotherwith a low unemployment rate. If labor isa mobile resource, the unemployedworkers will migrate to the area with thelow unemployment rate. If labor is notmobile, due to distance, national laws, orlanguage differences, then differences in

306 | Optimal Currency Area

currency exchange rates between the twogeographical areas can serve some of thesame purpose, assuming the two areashave their own separate currencies. Thearea with high unemployment can lowerthe value of its currency, making itsexports cheaper to the area with lowunemployment. Also, the lowered cur-rency value will increase the cost ofimports to the high-unemployment area,encouraging domestic consumers to buylocally produced goods. Therefore,adjustments in the exchange rate willincrease the demand for goods producedin the high-unemployment area, andlower the demand for goods produced inthe low-unemployment area, indicatingthat areas with immobile resourcesshould have their own currency. Accord-ing to this criterion, Canada is probablytoo large to have a single currencybecause of the vast distance between theeast coast and west coast, making mobil-ity difficult. Among members of theEuropean Union, reductions in barriersrestricting the flow of capital and laborbetween countries preceded the introduc-tion of the euro in 1999.

Another theory of optimal currencyareas looks at the importance of internaltrade relative to trade with outsiders. Inthe case of Europe, this theory looks atthe size of trade between European coun-tries, such as France and Germany, rela-tive to the size of trade between Europeas a whole and outsiders, such as theUnited States. An area that trades a greatdeal with itself, and not so much with therest of the world, should qualify as anoptimal currency area, and have its owncurrency. Under this criterion, Canadaagain would not constitute an optimalcurrency area if regions in Canada tradedlargely with the United States, rather thanwith other regions in Canada. If regions

in Canada trade mostly with other Cana-dian regions, then Canada benefits fromhaving its own currency. This criterionleaves the case of Europe somewhat inlimbo, because Europe trades signifi-cantly within itself, but also trades signif-icantly with outsiders.

Another criterion for an optimal cur-rency area is that the area must have insti-tutions that can make political andtechnical decisions for the area as awhole. Nation-states are the most obvi-ous currency areas for this reason.Canada obviously qualifies as an optimalcurrency area under this criterion. Europehas moved toward political integration,including the election of a European Par-liament, making Europe much more suit-able as an optimal currency area.

See also: Euro Currency, European CurrencyUnit, Snake, The

ReferencesMcKinnon, Ronald I. “Optimal Currency

Areas.” American Economic Review,vol. 53 (1963): 717–725.

Melitz, Jacques. “The Theory of OptimalCurrency Areas.” Open EconomiesReview, vol. 7, no. 2 (April 1996):99–116.

Mundell, Robert A. “A Theory of OptimalCurrency Areas.” American EconomicReview, vol. 51 (1961): 637–665.

OPTIONAL CLAUSE

See Bank of Scotland, Scottish Banking Actof 1765

OTTOMAN EMPIRECURRENCY

At its height, the Ottoman Empire ruledpresent-day Turkey, the Middle East,North Africa (including Egypt), and

Ottoman Empire Currency | 307

southeastern Europe. By World War I,the Ottoman Empire had largely disinte-grated, and after the war the core of theempire was organized as the Republic ofTurkey. Although the Sunni-Ottomandynasty dates back to the 13th century,the empire became a power to be reck-oned with after the capture of Constan-tinople in 1453. Perhaps the mostfamous sultan of the Ottoman Empirewas Suleiman the Magnificent(1520–1566), whose conquest in the16th century gave the Ottoman Empirecontrol of East-West trade.

The prime coins of the OttomanEmpire were the akce, silver coins thatprovided the basis of monetary calcula-tions for prices and wages. Suleiman’sarchitect earned 55 akce per day. A nichefor smaller coins was filled by thedirham, with its quarter, and themanghir, which were copper. The mostimportant gold coin was the ashrafit, pat-terned after the Venetian ducat. To com-pete with Austrian talers, which rapidlygained acceptance in areas of the empire,Suleiman III (1687–1691) minted a sil-ver coin known as the qurush.

To meet the coinage needs of theempire, the Ottomans purchased blankcoins from Austria and the Dutch.Unlike other Islamic coinage, whichoften bore religious inscriptions, Ottomancoins bore inscriptions of the Sultan’stitles. One coin bore an inscription that

translates as “sultan of the two lands andlord of the two seas.”

Mechanized methods of mintingcoins first appeared in Turkey in the mid-19th century, two hundred years laterthan the widespread adoption of thesemethods in Europe. Iran saw its firstmechanized mint established in Tehranin 1876. In the 20th century, Europeanmechanized mints supplied coins for col-onized areas of the Ottoman Empire.

Paper money also made its debut inthe mid-19th century. The Ottomans ledthe way with the issuance of notes inTurkey, setting an example that was soonfollowed by other provinces of theempire. Iran waited until the late 1880sto issue banknotes. Colonial powersoften introduced paper money, pavingthe way for newly independent countriesto issue their own paper money. In the20th century, the paper money issued incountries of the old Ottoman Empire wasoften printed in European countries. ABritish firm, De La Rue, printed papermoney for Iraq until the invasion ofKuwait in 1990 cut Iraq off from Europe.

See also: Mughal Coinage

ReferencesEhrenkreutz, A. S. 1992. Monetary Change

and Economic History in the MedievalMuslim World.

Williams, Jonathan, ed. 1997. Money: AHistory.

308 | Ottoman Empire Currency

309

P

PACIFIC COAST GOLDSTANDARD

California and Oregon remained on agold standard during the 1862 to 1879period when the rest of the country trans-acted business on an inconvertible paperstandard. During the Civil War the Con-federate government abandoned all mon-etary discipline and flooded the Southwith Confederate paper money. In 1862,the North began issuing inconvertiblegreenbacks, and only in 1879 providedfor the redemption of greenbacks in goldand silver specie. During the 1862 to1879 period, Gresham’s law drove allgold and silver coins out of circulation inthe eastern United States, but state lawsand organized business interests keptgold in circulation on the Pacific coast.The Pacific coast could boast of no lessthan $25 million of gold and silver coinsin circulation during the period when therest of the country used paper money asa medium of exchange and standard ofvalue.

Before the Civil War, both Californiaand Oregon relied exclusively on goldand silver coins rather than banknotes tocirculate as money. When greenbackswere first issued, banknotes accountedfor almost half of the circulating moneyin the East. The constitutions of bothCalifornia and Oregon banned theissuance and circulation of paper money,and banks were forbidden to create“paper to circulate as money.”

Aside from legal barriers to the circu-lation of paper money, merchants collec-tively agreed not to accept greenbacks onpar with gold. The merchants of SanFrancisco agreed to neither receive normake payment in greenbacks at any rateother than the greenback market value interms of gold. They set prices in goldand accepted greenbacks at whateverdiscount the market dictated. When lead-ing merchants in Portland agreed toaccept greenbacks at the going rate inSan Francisco, merchants throughoutOregon enforced the same policy. Themerchants in Portland went so far as to

circulate an announcement that cus-tomers who insisted on paying debts ingreenbacks would find their names on ablacklist of the Portland merchants’association. Commercial ostracismawaited any businessperson who paid abusiness debt in greenbacks, that is, who“greenbacked” a creditor. Banks in Cali-fornia and Oregon refused to acceptdeposits in greenbacks, and newspapersworked to keep down the circulation ofgreenbacks.

After the federal government beganissuance of greenbacks, the legislaturesof both California and Oregon enactedmeasures allowing people to contractdebts in either coin or greenbacks butrequiring that payment be made as speci-fied in the contract. The Oregon legisla-ture enacted legislation requiring thepayment of state and local taxes in onlygold and silver coin, ruling out green-backs. The California Supreme Courtruled that greenbacks were not acceptablein the payment of state and county taxes.

Organized opposition to greenbackstriggered a bitter debate on the Pacificcoast. Critics charged that repudiation ofgreenbacks was tantamount to refusing toshare in the financial burden of the CivilWar. Crowding all the greenbacks on tothe East Coast caused faster depreciationof the greenbacks, putting a greater bur-den of inflation on the East Coast.Although prices in greenbacks doubledover the course of the Civil War, Oregonprices in gold increased only 25 percent.

Two factors may help explain opposi-tion to greenbacks on the Pacific coast.First, gold discoveries in California hadalready given that region a taste of infla-tion caused by increases in the moneysupply. A paper issue would only acceler-ate money growth, contributing to furtherinflation. Second, as a gold-producing

region, the Pacific coast did not want toencourage the use of any other form ofmoney. As abundant gold productiondrove out silver money, the Pacific coastmoved essentially to a gold standardbetween 1862 and 1879, a unique excep-tion to the paper standard that reigned inthe rest of the country.

See also: Gold Rushes, Gold Standard, Green-backs

ReferencesGreenfield, Robert L., and Hugh Rockoff.

“Yellowbacks Out West and GreenbacksBack East: Social-Choice Dimensions ofMonetary Reform.” Southern EconomicJournal, vol. 62, no. 4 (April 1996):902–915.

Lester, Richard A. 1939/1970. MonetaryExperiments.

Moses, Bernard. “Legal Tender Notes in Cal-ifornia.” Quarterly Journal of Economics,vol. 7 (October 1892): 1–25.

PAPAL COINAGE

The Roman papal court rose to become asignificant European financial center inthe late Middle Ages, and the papal mint,called the Zecca, was a major focus ofcurial activity. The famous Renaissanceartist and architect, Donato Bramante,built a new mint for Pope Julius II.Another Renaissance architect of somerenown, Antonio da Sangallo the Younger,later remodeled the mint, his facaderemaining on the building to this day. TheRenaissance popes needed money to paysoldiers, hire artists, and build monumentsand buildings, and the papal mint oftenfurnished the coins to make payment.

The popes minted gold and silvercoins. The principle gold coin of theRenaissance era was the gold ducat ofthe Chamber, named after the Apostolic

310 | Papal Coinage

Chamber that handled the financialaffairs of the papacy. The gold ducat waspreceded by the gold florin of the Cham-ber, approximately equivalent in value tothe ducat. In 1530, the papal mint issueda new coin, the scudo d’oro in oro, a cointhat in value fell short of the ducat by asmall margin. A papal ducat equaledabout one-third of a Tudor pound ster-ling. The papal mint struck silver coinscalled carlina, and later, giulii, thatequaled approximately one-tenth thevalue of a ducat.

The papal treasury and Roman treas-uries tended to accumulate preciousobjects, and during times of financialstress, treasures were melted down andminted. Under Innocent III, the openingof a sepulcher of a noble lady of imperialRome brought to light a golden brocadeon her robes, which was promptly sent tothe mint and melted down.

The papal court of Rome drewincome from benefices across Europe,and the Apostolic Chamber expectedpayment in its own coinage, partly toprotect itself from payments in mixedand depreciated silver money. Princesusually made payments in gold and the

lower classes in silver. The combinedgold and silver sent to Rome raised theire of northern Europe, leading tocharges that the Roman church wasbleeding Europe white.

Papal coinage was noted for itsbeauty, a trait not surprising in light ofthe celebrated Renaissance artists whoapplied their gifts to coinage at the papalmint. The most eminent was BenvenutoCellini, the Renaissance goldsmith,sculptor, and author of a famous autobi-ography. Perhaps less known isFrancesco Francia, who struck coins sodistinguished by their beauty that theybecame collectors’ items and sold at pre-miums soon after his death. Vasari, in hisLives of the Most Eminent Painters,Sculptors, and Architects, says of Fran-cia that he was “so pleasant in conversa-tion that he could divert the mostmelancholy individuals, and won theaffection of princes and lords and allwho know him”(Vasari, 1927, 119).

Papal coinage is among the more mod-ern manifestations of a familiar theme inmonetary history. Temples and religiousinstitutions usually have had the insidetrack on the accumulation of gold and

Papal Coinage | 311

Silver piastra of Pope Clement X, 1675. (The Trustees of The British Museum/Art Resource, NY)

silver. Because of the reverence for theseinstitutions, the treasures of these institu-tions are usually safe from theft and extor-tion. (This reverence did not keep thepapacy from losing much of its treasureduring the Sack of Rome in 1527.) Themoral leadership of these institutions canalso add credibility to the precious metalpurity of coinage. Historically, these insti-tutions have often held a stronger claim oftrust on the public than kings and princes.

Today the Vatican issues its ownpaper money, in francs and lire, which isnoted for beautiful pictorial and religiousthemes.

ReferencesCellini, Benvenuto. 1931. The Life of Ben-

venuto Cellini.Cellini, Benvenuto. 1967. The Treatises of

Benvenuto Cellini on Goldsmithing andSculpture.

Partner, Peter. 1976. Renaissance Rome,1500–1599.

Ryan, John Carlin. 1989. A Handbook ofPapal Coins.

Vasari, Giorgio. 1927. Lives of the Painters,Sculptors, and Architects, vol. 2.

PIG STANDARD OF NEW HEBRIDES

Until the eve of World War II, pigsplayed the role of money in the NewHebrides. The pig standard of NewHebrides was more than another live-stock standard that combined a readysource of food with a store of wealth. Inthe New Hebrides boar hogs with curvedtusks conferred status in a unique eco-nomic, political, and social system. Onsome islands, neutered pigs qualified, ifthey also grew tusks. The length of thetusks was the crucial quality determiningthe value of pigs, rather than weight or

condition of the animal. Islandersremoved two teeth from the upper jaw,causing the tusks to grow longer, addingto the pig’s value.

The special role of pigs as sacrificialvictims at feasts raised them above thecategory of a common source of food,endowing them with a special culturalsignificance that substantially increasedtheir value as a store of wealth. Islandersgauged a man’s wealth by the number ofboars in his possession, which enabledhim to make handsome contributions tosacrifices and feasts. They were too valu-able for the small change of everydaytransactions, which were facilitated byother exotic forms of money, such asmats, shells, quartzite stone money, andfeathers. Pigs were used to buy land, payworkers (including magicians, dancers,and mortuary officials), purchase brides,and pay blood money, ransoms, and finesfor violating taboos. Debts were definedin terms of pigs, and a large share of themurders on the islands arose from dis-putes over pig debts.

The social life of the islanders wasdominated by men’s clubs or secret soci-eties. To purchase a bride, gain admis-sion to a secret society, or earnpromotion within a secret society, youngmen borrowed pigs, probably from rela-tives. A young man already in a secretsociety borrowed pigs from fellow mem-bers. A person acquired power by beingable to loan pigs to those who needed toborrow them. Interest on debts was paidnot by returning to the lender more pigsthan were originally borrowed, but byreturning pigs with longer tusks.Because pigs became more valuable astheir tusks grew, interest on debts waspaid by returning to the lender pigs withlonger tusks. The rate of interest wasdetermined by the growth of the tusks.

312 | Pig Standard of New Hebrides

In the 1930s, pigs with quarter-circletusks fetched 4 British pounds, half-circletusks 6 pounds, three-quarter-circle tusksbetween 10 and 15 pounds, and full-circletusks over 30 pounds. Pigs with tusksextending beyond one circle, perhaps acircle and a half, commanded premiumprices.

The pig standard of New Hebridesshows that cultural and religious factorscan outweigh utilitarian factors in raisingup a commodity to serve as a medium ofexchange in universal demand. Live-stock standards are founded in the realitythat people must find food on a dailybasis, rendering them receptive toaccepting edible livestock in exchange.Having a large reservoir of livestock, asa source of food, however, can become astatus symbol, further enforcing thevalue of the livestock as money. In theNew Hebrides, the length of a pig’s tusksbore no relationship to its food value, butthe tusks became a status symbol thatacquired a cultural life of its own, mak-ing tusk length the lynch pin of the mon-etary standard.

See also: Cattle, Goat Standard of East Africa

ReferencesCheesman, Evelyn. 1933. Backwaters of the

Savage South Seas.Einzig, Paul. 1966. Primitive Money.Humphreys, C. R. 1983. The Southern New

Hebrides: An Ethnological Record.

PLAYING-CARDCURRENCY OF FRENCH

CANADA

The French colonies shared with theBritish colonies the problem of insuffi-cient money to transact the volume of

business that was possible in a landwith bountiful resources. FrenchCanada turned to using playing cards aspaper money to cope with a currencyshortage.

Wheat, moose skins, beaver skins,and wildcat skins are among the com-modities that belonged on the list ofmediums of exchange in 17th- and 18th-century Canada. In 1713, the British sol-diers stationed at Nova Scotia, whichFrance had just ceded to Great Britain,petitioned the British authorities to endthe practice of paying soldiers in rum,asking “that they be payd in money, orBills, & not in Rum or other Liquors,that cause them to be Drunk every days,and Blaspheme the name of God”(Lester, 1935). In 1740, the accounts of astorekeeper in Niagara showed a “deficitby 127,842 cats” (Lester, 1935).

In 1685, the colonial authorities faceda cash-flow crisis that led to the issuanceof ordinary playing cards as a form ofpaper money. During that year, theFrench government ended its practice ofappropriating and sending funds toFrench Canada in advance of a budgetperiod. The funds for 1685 did not reachQuebec until September, leaving thecivil and military authorities in Canadato fend for themselves for the first eightmonths of the year. By June 1685, theauthorities saw the necessity of issuingsome sort of paper money that they couldredeem when fresh funds arrived fromFrance. The absence of suitable paperand printing facilities to produce papermoney forced the expedient of usingplaying cards. Each denomination ofpaper money was associated with play-ing cards of a certain color and cut into acertain shape. It was a system easilyunderstood by the generally illiteratepopulation. Also, the colonial agent of

Playing-Card Currency of French Canada | 313

the treasurer wrote the denomination oneach card and, with the governor generaland the intendant, signed each card. Aslong as the French government sent ade-quate funds once a year to redeem theplaying-card money, prices in the newcurrency remained steady.

The authorities acted to discouragecounterfeiting. In 1690, a surgeon foundguilty of counterfeiting was condemned“to be beaten and flogged on the nakedshoulders by the King’s executioner”(Lester, 1939). He got six lashes of thewhip in each “customary square andplace.” After surviving this ordeal, thesurgeon was sold into bondage for threeyears. Later, the crime of counterfeitingdrew the death penalty, often by hanging.

When hostilities broke out betweenFrance and England, France stoppedsending silver coin to Canada forredemption of playing-card money.Instead, the authorities redeemed play-ing-card money with bills of exchangedrawn payable in silver coin in Paris.The merchants in Canada made use ofthese bills of exchange to pay for sup-plies imported from France.

As was the case with many other earlyexperiments with paper money, warproved to be the greatest enemy to theintegrity of the playing-card system. Thesupply of playing-card money stood at120,000 livres in 1702, when war eruptedbetween England and France. By 1714,one year after the war ended, the supplystood at more than 2 million livres. Dur-ing the war, France began paying the billsof exchange in paper money rather thansilver coin, and prices in Canada entereda spiral of inflation. In 1714, the Frenchgovernment offered to redeem all theplaying-card money in silver coin at halfits face value. The program of redemp-tion took place over a five-year period,

and after 1720, the playing-card moneywas declared worthless.

From 1730 to 1763, the French gov-ernment again issued card money inCanada, but the cards were blank cardsrather than playing cards. The secondissue of card money was again reason-ably successful until war put a strain onresources.

The use of playing-card money seemsa far-fetched expedient for a New Worldthat had supplied the Old World with anabundance of precious metals for coin-ing money. Unlike the Spanish colonies,however, the French and British colonieswere not rich in deposits of preciousmetals. The episode of playing-cardmoney shows the flexibility, adaptability,and inventiveness of an expanding eco-nomic system to raise up something toserve as a medium of exchange. It is alsoa reminder of the role of culture in iden-tifying a suitable medium of exchange.The sensibilities of the New EnglandPuritans would have been shocked ataccepting playing cards as a form ofmoney.

See also: Inconvertible Paper Standard, SiegeMoney

ReferencesBeresiner, Yasha. 1977. A Collector’s Guide

to Paper Money.Heaton, Herbert. “Playing Card Currency of

French Canada.” American EconomicReview (December 1928): 649–662.

Lester, Richard A. 1939/1970. MonetaryExperiments.

PONTIAC’S BARK MONEY

Pontiac was an Ottawa Indian chief andintertribal leader who organized theIndian resistance to British control in theaftermath of the French and Indian War

314 | Pontiac’s Bark Money

in North America. The Indian resistance,known as Pontiac’s War (1763–1764),gave rise to one of the first examples ofsiege money in America.

The French defeat in the French andIndian War had left the Great Lakes areain control of the British, who were lesshospitable to the Indians. The Indiansalso discovered that the British were thethin edge of the wedge of an aggressivesettler movement. As friction developedbetween the British and the Indians,Pontiac organized virtually every Indiantribe from Lake Superior to the lowerMississippi and launched a coordinatedand simultaneous assault against 12British forts in the area. Each tribeattacked the nearest British fort, andPontiac laid siege to the fort at Detroit.

Pontiac’s siege of Detroit lasted fromMay through October, and, unlike theassaults on most of the other forts, endedin failure. Nevertheless, while the siegewas in process, Pontiac had recourse toan interesting experiment in money. InOctober, Pontiac issued “notes” in pay-ment for supplies his warriors needed tocontinue the siege. These notes werenone other than pieces of birch bark.Each bark note bore two images, animage of the item that Pontiac wanted topurchase with it, and a figure represent-ing the otter, which he adopted as histotem or hieroglyphic signature. Appar-ently, Pontiac fulfilled his commitmentto redeem all the notes after the war, andthe notes were withdrawn from circula-tion, but the details of how this was doneare sketchy.

Pontiac’s confederation of Indiantribes achieved a momentary success,but in 1766, Pontiac, seeing theinevitable superiority of the British,negotiated a peace treaty. His expedientof bark money probably indicates how

far European practices had influencedthe Indians rather than the evolution ofancient Indian practices. The Frenchtrappers and hunters, who still hadstrong connections with the Indians, hadagitated against the British, and the barknotes bear a striking resemblance to var-ious sorts of token money or inconvert-ible paper money that governments oftenissue during wartime. By the time ofPontiac’s War, the British colonies hadissued vast quantities of paper money tofinance the French and Indian War.

See also: Siege Money

ReferencesDel Mar, Alexander. 1899/1968. The History

of Money in America.Parkman, Francis. 1899/1933. The Conspir-

acy of Pontiac and the Indian War afterthe Conquest of Canada.

POSTAGE STAMPS

Postage stamps have served as money inareas as diverse as the United States,Europe, and the Far East. During theU.S. Civil War, merchants, strugglingwith a shortage of small coins, began thepractice of making small change withpostage stamps. Daily purchases ofstamps increased fivefold in New YorkCity alone, and individual stamps circu-lated until they became too dirty and tat-tered for recognition. John Gault, aBoston sewing-machine salesman, pro-posed the encasement of stamps in circu-lar metal discs with transparent mica onone side showing the face of the stamp.Soon the metal side of the discs wasbearing inscriptions of advertisements;one series of encased stamps bore theslogan, “Ayer’s Sarsaparilla to Purify theBlood.” Denominations of encased

Postage Stamps | 315

stamp money ranged from 1 cent to 90 cents, and one rectangular encase-ment had three 3-cent stamps, making a9-cent coin.

The government took up the idea ofpostage money and begin issuingpostage currency in denominations of 5-,10-, 15-, and 50-cent stamps, and someof the postage currency was even perfo-rated around the edges to resemblestamps. The postage currency soondropped any association with postagestamps and became simple fractionalcurrency in denominations of 3 cents to50 cents and bearing the inscription“Receivable for all U.S. stamps.”

The British South Africa Companyissued stamps affixed to cards bearingthe statement, “Please pay in cash to theperson producing this card the face valueof the stamp affixed thereto, if presentedon or after the 1st August 1900. Thiscard must be produced for redemptionnot later than 1st October 1900”(Beresiner, 1977, 210).

Either during or immediately afterWorld War I, postage stamps circulatedas money in Germany, Austria, France,Russia, Italy, Norway, Denmark, Belgium, Greece, and Argentina. Germany and Austria imitated the U.S.practice of encasing the stamps in a cir-cular metal disc with a transparent face,and a reverse side bearing an advertise-ment. France issued similar discs, butput a numeral on one side indicating thevalue of the encased stamp. Russiaissued stamps on stout cards that borethe inscription “On par with silver cur-rency.” The Russian stamps wereintended to circulate as money, but couldalso be used as postage stamps.

During World War II, Ceylon and theIndian state of Bundi issued smallchange in the form of cards printed with

contemporary stamps. In 1942, Filipinoguerrillas fighting the Japanese issued 5-peso notes to which stamps of theappropriate amount were affixed.

In both World War I and World War II,the British government declared postagestamps legal tender, but the stamps werenever encased for special protection, oraffixed to a special card.

Postage stamp money has usuallyemerged as money for domestic circula-tion when wartime finance has mobilizedhard currency for purchasing militarygoods abroad.

See also: Shinplasters

ReferencesAngus, Ian. 1975. Paper Money.Beresiner, Yasha. 1977. A Collector’s Guide

to Paper Money.Coinage of the Americas Conference. 1995.

The Token: America’s Other Money.

POTIN

See: Celtic Coinage

POTOSI SILVER MINES

Potosi, a desolate plateau 12,000 feetabove sea level, now in Bolivia, was thesite of a virtual “silver mountain,” dis-covered in the 16th century. As a flood ofsilver poured into Europe, in Englandand Spain the word “Potosi” becamesynonymous with “wealth”; in France,the word “Peru” symbolized wealth,because that area of Latin America wasthen called Peru.

In the aftermath of Columbus’s dis-covery of America, until 1530, Europeimported substantial quantities of readilyaccessible gold from the New World, but

316 | Potosi Silver Mines

silver was not significantly in evidence.After 1530, silver production in the NewWorld reached significant levels, but stillwas dwarfed by the gold imports follow-ing Pizarro’s conquest of the Incasbetween 1531 and 1541.

Europeans discovered the silvermountain of Potosi in 1545, a time whensilver was still a highly favored metal inthe Middle and Far East; a unit weight ofsilver exchanged for twice as much goldin the Eastern world as in Europe. Also,existing silver deposits were playing out,putting silver in strong demand. Thebase of the silver mountain measured sixmiles in circumference. The windy,dusty plateau of Potosi nourished a fewfields of potatoes amid an otherwiseagricultural wasteland. From an unin-habited, desolate plateau, Potosi grew toa sizable city, boasting a population of

55,000 by 1555, and climbing to a peakof 160,000 by 1610. Everything to meetthe needs of this population had to bebrought in, and a journey to Lima, thecapital of Peru, took two and a halfmonths.

Even high wages could not compen-sate for the prohibitive cost of living andarduous living conditions that the newimmigrants faced at Potosi. To supple-ment a voluntary labor force, the mitasystem of forced labor required Indianvillages within a certain radius of Potosito send a quota of conscripted or draftedyoung men to work in the mines. Thework was harsh, and labor in the silvermines came down through history as asymbol of Spanish oppression of theIndians. One eyewitness tells the follow-ing account of the plight of the Indianminers:

Potosi Silver Mines | 317

Pack train of llamas laden with silver from Potosi mines of Peru, 1602. (Library of Congress)

The only relief they have fromtheir labors is to be told they aredogs, and be beaten on the pretextof having brought up too littlemetal, or taken too long, or thatwhat they have brought is earth, orthat they have stolen some metal.And less than four months ago, amine-owner tried to chastise anIndian in this fashion, and theleader, fearful of the club withwhich the man wished to beat him,fled to hide in the mine, and sofrightened was he that he fell andbroke into a hundred thousandpieces. (Vilar, 1969, 127)

In 1563, rich mercury deposits werediscovered at Huancavelica, locatedbetween Potosi and Lima, Peru. Conve-nient accessibility to mercury enabledthe Spanish to employ the mercury amal-gam process of silver extraction, sub-stantially increasing the productivity oflow-quality silver ore left after the rich-est veins were mined.

Much of the silver found its way tothe East to cover Europe’s balance oftrade deficit, and some of the silver wasshipped directly from the New World toChina. China enjoyed an economicboom until silver shipments fell off inthe 1640s, plunging China into a depres-sion. In Europe, the infusion of silverfueled the price revolution, the century-long wave of inflation that engulfedEurope from 1540 until 1640.

Spain came to view the flood of silverless as a blessing from heaven and moreas the curse of the devil. In the 17th cen-tury, Spain entered into a phase of mone-tary disorder that could rival any of themodern periods of inflation. Spain squan-dered its newfound wealth on costlywars, royal extravagance, and the growth

of churches, convents, and ecclesiastics.By the second half of the 17th century,Spain had reverted to the Bronze Age, itscoinage minted from copper.

See also: Great Bullion Famine, Price Revolu-tion in Late Renaissance Europe, Silver

ReferencesDavies, Glyn. 1994. A History of Money.Flynn, Dennis O. 1996. World Silver and

Monetary History in the 16th and 17thCenturies.

Vilar, Pierre. 1969. A History of Gold andMoney, 1450–1920.

POUND STERLING

The pound sterling is the currency unitfor the United Kingdom and has a longercontinuous history than any other cur-rency. For 1,300 years the pound hasbeen the currency unit of England, neverreplaced by a “new pound” or any otherchange of name signifying a break withthe past. Even the French franc, datingback to 1803, is young compared to thepound sterling. The German DeutscheMark came into being immediately fol-lowing World War II.

Around the time of William the Con-queror, the English government beganstriking coins from a silver alloy con-taining 925 parts of pure silver per1,000. Debased coins appeared occa-sionally, but Norman and English kingsalways returned to the silver alloy con-taining over 92 percent pure silver,which came to be known as the “ancientright standard of England.” Early in the12th century, the English called their sil-ver pennies “sterling.” The reputation ofthe English silver coinage for consistentfineness gave rise to the term “sterlingsilver.”

318 | Pound Sterling

The English currency system tracesits ancestry directly to the Carolingiancurrency reform. Charlemagne’s father,Pepin, established a silver standard thatmade 1 livre (pound) equal to a poundweight of silver. Also, 240 silver denarii(pennies) equaled a pound, and 20 shillings equaled a pound. In the Eng-lish version of the Carolingian system, 1 pound equaled 20 shillings, whichequaled 240 pence. The Carolingian sys-tem did not remain intact long on theContinent, particularly regarding the sil-ver content of the pound, but it came toEngland with the Norman Conquest,where it survived longer than anywhereelse. Only in 1971 did the United King-dom decimalize its currency, making 100pence equal to a pound.

Over the first eight centuries of itsexistence, the pound lost two-thirds of itssilver content, averaging a depreciationof 0.13 percent per annum. After 1696,the silver content of the pound remainedsteady until 1817 when the United King-dom officially adopted the gold standard,and silver coinage became only sub-sidiary. During the 19th century, thepride of the British currency was thegold sovereign, equal to 20 shillings or 1pound. The sovereign and half-sovereigncontinued in circulation until 1914.

During the 19th century, the poundsterling began to wear the aspect of aninternational currency. Although thepound sterling played no special role oncontinental Europe, the currencies ofother European countries financed tradeonly within colonial empires, leaving thefield free for the pound sterling tobecome the dominant international cur-rency.

After World War I, the United King-dom made a frantic, and briefly success-ful, effort to return to the gold standard

at the prewar parity, which was 3 pounds, 17 shillings, and 10.5 penceper fine ounce. In truth, the United Kingdom needed to devalue the poundsterling, and failure to do so helped usherin the British Great Depression. In theGold Standard Amendment Act of 1931,the United Kingdom abandoned the goldstandard, and other countries had todecide to keep their currencies tied to thepound sterling, remain on the gold stan-dard, or follow an independent policy.The Commonwealth countries, except-ing Canada, the British colonies, Portu-gal, and the Scandinavian countries,elected to keep their currencies linked tothe pound sterling, and these areasbecame known as the sterling area.

The pound sterling emerged fromWorld War II as second only to the U.S.dollar as an international currency. In thepost–World War II era, the prestige ofthe pound sterling suffered from cur-rency devaluation, and the vast U.S. goldstock, combined with production facili-ties undamaged by war, gave the U.S.dollar the preeminent position as theinternational currency.

England’s long history of conser-vatism in monetary matters may explainwhy the United Kingdom has been slowto participate in the European movementtoward monetary union. In May 1998,members of the European Unionannounced plans to launch a Europeancurrency to replace the national curren-cies of several European countries,including France and Germany. TheEuropean Union launched the euro in anon-physical form on January 1, 1999,and on January 1, 2002, euro notes andcoins replaced the circulating currenciesof several European countries, includingGermany and France. As of mid-2009Britain still refused to adopt the euro and

Pound Sterling | 319

planned to retain its own national cur-rency, the pound sterling.

See also: Act for Remedying the Ill State of theCoin, Bank of England, English Penny,Gold Standard, Gold Standard Act of 1925,Gold Standard Amendment Act of 1931,Liverpool Act of 1816

ReferencesChown, John F. 1994. A History of Money.Davies, Glyn. 1994. A History of Money.Feavearyear, Sir Albert. 1963. The Pound

Sterling: A History of English Money.Horton, Dana S. 1983. The Silver Pound and

England’s Monetary Policy Since theRestoration, together with the History ofthe Guinea.

POW CIGARETTESTANDARD

A unique form of commodity moneysurfaced in the Nazi prisoner-of-war(POW) camps during World War II. Cig-arettes came to fulfill all the functions ofmoney: a medium of exchange, unit ofaccount, standard of deferred payment,and store of value.

The Red Cross furnished the prison-ers with cigarettes along with food,clothing, and other goods. The goodswere distributed without precise knowl-edge of individual needs and taste, giv-ing prisoners an incentive to barterunwanted goods for goods that moreclosely met their needs. A situation inwhich trade can considerably raise indi-vidual welfare is fertile ground for theemergence of a money commodity, andin the POW camps cigarettes came toplay the role of money.

Prisoners set prices in cigarettes.Shirts cost 80 cigarettes, and one pris-oner would do another prisoner’s laun-dry for two cigarettes. Even nonsmoking

prisoners kept a store of cigarettes to buyother goods and services, and prisonersbuilt up supplies of cigarettes as savings,making cigarettes a store of value—another function of money. Cigarettesmet the need for a standard of deferredpayment. Debts were also run up in cig-arettes, particularly gambling debts, andprisoners bought goods and services oncredit, promising to pay out of futureallocations of cigarettes.

As a monetary commodity, cigarettespossessed many advantages. Their valuewas maintained by a strong consumerdemand; they were somewhat durable,not perishable; and to make change theycould be subdivided from a box to indi-vidual packages and even to individualcigarettes.

The history of POW cigarette moneyfurnishes examples of a wide range ofmonetary phenomenon. Gresham’s lawcould be seen in the tendency for inferiorcigarettes to remain in circulation whileprisoners hoarded higher-quality ciga-rettes. Sometimes prisoners debased thecurrency by removing tobacco in the mid-dle of the cigarette and replacing it withinferior material. A diminished (or expec-tation of a diminished) influx of cigarettescaused a fall in the velocity of circulationas prisoners hoarded cigarettes, whichwere becoming more valuable as prices incigarettes fell. An added infusion of ciga-rettes, or rumors of an added infusion,brought a rise in velocity, dishoarding,and rising prices in cigarettes. Evenbanks were established that issued bank-notes convertible into cigarettes, butunfortunately the banknotes were ofteneasily forged. Communal stores emergedthat were capitalized in cigarettes, andpaid dividends in cigarettes.

The history of cigarette money contin-ued after the war. In postwar Germany, a

320 | POW Cigarette Standard

cigarette standard emerged, particularlyin transactions between Germans andBritish and U.S. troops. In the late 1980sin the Soviet Union, packs of Marlborobrand cigarettes served as a medium ofexchange in a large underground econ-omy that had lost faith in the ruble.

See also: Commodity Monetary Standard, Gre-sham’s Law

ReferencesEinzig, Paul. 1966. Primitive Money.Radford, R. A. “The Economic Organization

of a POW Camp.” Economica (November1945): 189–210.

PRICE REVOLUTION INLATE RENAISSANCE

EUROPE

Historians call the wave of inflation thatswept Europe during the 16th and 17thcenturies the Price Revolution. It is seenas revolutionary in character partlybecause it followed a long period of stable prices, and partly because the pre-vailing view at the time was that pricesand wages should be matters of fairnessand justice rather than functions of supply and demand. By the mid-17thcentury, the inflation had ceased in mostcountries, followed by a century of sta-ble or even falling prices.

Economists have mostly ascribed theinflux of gold and silver from the NewWorld as the cause of the inflation. Anincrease in the supply of anything,including money, relative to its demandcauses its value to go down. A reductionin the value of a unit of money translatesas inflation to the public. Scholars inother areas seem less satisfied with thissingle explanation. The timing of thebeginning, the peak, and the end of the

inflation only roughly corresponds withthe timing of dates for the influx of goldand silver. The economist Jean Bodin(1530–1596) listed five reasons for theinflation: (1) the abundance of gold andsilver, (2) monopolies, (3) scarcity ofgoods caused by exports and waste, (4)the luxury of kings and nobleman, and(5) the debasement of coin. He regardedthe abundance of gold and silver as theprincipal reason.

The inflation struck Spain the hardest,quadrupling prices within a century. InEngland from 1580 to 1640, prices ofnecessities rose 100 percent while wagesinched up only 20 percent. England’sfirst series of humane poor laws cameinto being in the midst of the Price Rev-olution. The acceleration in pricesreached a peak in most countriesbetween 1540 and the 1570s. Wages andrents fell behind prices and profitssoared. Entrepreneurs ploughed theseprofits into new industries and new ventures of trade, speculation, and build-ing, laying the foundation for furthereconomic expansion.

See also: Gold, Inflation and Deflation, PotosiSilver Mines, Silver

ReferencesFlynn, Dennis O. 1996. World Silver and

Monetary History in the Sixteenth andSeventeenth Centuries.

Hamilton, Earl J. 1934. American Treasureand the Price Revolution in Spain,1501–1650.

PRICE STICKINESS

“Price stickiness” refers to the tendencyof prices to adjust sluggishly to changesin the economy. Many economistsbelieve that if wages and prices adjusted

Price Stickiness | 321

freely and quickly, then changes in themoney supply should cause only propor-tionate changes in prices and the rest ofthe economy would feel no repercus-sions. With perfectly flexible wage andprices, a doubling of the money stockwould double the average level of prices.According to this thinking, if doublingthe money stock quickly doubled prices,other important variables such as theunemployment rate and the level ofindustrial production would remainunchanged.

The level of prices is measured byindices such as the consumer price index(CPI), the gross domestic product (GDP)deflator, and the producer price index(PPI). Because of price stickiness, thelevel of prices does not quickly mirrorchanges in the money stock. Therefore,changes in the money stock can bringabout at least temporary adjustments inreal variables such as the unemploymentrate and industrial production.

In some markets, prices are highlyflexible. For commodities such as cornand wheat, prices react quickly tochanges in supply and demand. In thesemarkets, the sellers have no control overthe prices of the commodities they pro-duce and sell. Farmers that grow thesecommodities are what economists callprice takers. They have to take the mar-ket price and cannot charge one centmore without all the buyers disappear-ing. Corn farmers produce a standard-ized product and one farmer cannotclaim that his corn is superior to the cornproduced in other markets. Price sticki-ness does not occur on any appreciablescale in these markets.

It is in markets where producers andsellers set the price that price stickinessoccurs. In industries populated with onlya handful of sellers, competition becomes

personalized rivalry. These sellersbecome fearful of price competition as apath to destructive price wars. The U.S.automobile industry of the 1950s and1960s is a good example of an industrythat shunned price competition. Instead,the U.S. automobile industry of that erafavored competition based on styling,advertising, and gadgetry, unveiling newbody styles yearly. In times of fallingcosts, individual sellers in these types ofindustries are afraid to cut prices for fearof sparking a price war. In times of risingcosts, these sellers are afraid to raiseprices out of fear that competitors willnot raise prices.

In some industries, firms that set theirown prices face a large number of com-petitors. Restaurants are a good exampleof this type of industry. The fear of pricewars does not loom as large in theseindustries, but these firms may still findit costly to change prices too often.These firms bear what are called “menucosts.” Changing prices involves produc-ing a new menu or catalogue. Menucosts can be as simple as the cost ofremarking the prices of goods already onthe shelf.

The regulation of prices accounts forsome price stickiness. Utility rates forelectricity and gas are still set by regula-tory authorities. Union contracts makesome wages rigid, which may contributeto some price rigidity among unionizedemployers. In addition, some prices arefixed by long-term contracts.

Economists have studied the fre-quency of price changes among firmsthat set their own price. One study foundthat nearly half the firms in a samplechanged prices no more than once a year.

Some economists refuse to accept thatprice stickiness is the deciding consider-ation in the relationship between the

322 | Price Stickiness

money stock and real variables such asindustrial production. They argue thatthe general tendency of producers toincrease production when prices go upand vice versa leads to a positive corre-lation between money stock changes andoutput changes. This positive correlationoccurs because producers tend to onlysee the prices of their own productsgoing up, and are unaware that otherprices and costs are increasing at roughlythe same rate.

See also: Monetary Neutrality

ReferencesBils, Mark, and Peter Klenow. “Some Evi-

dence on the Importance of StickyPrices.” Journal of Political Economy,vol. 112, no. 5 (October 2004): 947–985.

Blinder, Alan. 1994. “On Sticky Prices: Aca-demic Theories Meet the Real World.” InMonetary Policy, edited by N. GregoryMankiw, pp. 117–150.

PRIVATE PAPER MONEYIN COLONIAL

PENNSYLVANIA

In 1766, eight Philadelphia mercantilehouses issued short-term, interest-bearing promissory notes that circulatedas a medium of exchange. The experi-ment was short-lived but represents thefirst instance of private money in whatwas to become the United States.

The colonial economies sufferedfrom a shortage of currency. Parliamentforbade the coinage of money in thecolonies, and the enactment of the Cur-rency Acts of 1751 and 1764 restrictedthe authority of colonial governments toissue paper money. In addition, colonialeconomies invariably faced an excess ofimports over exports, and an outflow of

metallic currency paid for the extraimports, further leaving the colonialeconomies impoverished of currency.Colonial governments lobbied for therepeal of the Currency Act of 1764, notbecause of a need to finance budgetdeficits, but because a currency short-age was strangling the colonialeconomies.

By 1766, the shortage of colonial cur-rency led to an appreciation of colonialcurrency relative to British pounds ster-ling, putting at a disadvantage exportmerchants who earned British poundssterling in exports and had to convertBritish money back into colonial moneyto purchase colonial goods for export.The currency appreciation enhanced theincentives for creating fresh supplies ofcolonial currency that could be used topurchase colonial goods for export toearn British pounds.

Eight Philadelphia mercantile compa-nies saw an opportunity to issue privatenotes, easing the shortage of a circulat-ing medium of exchange and purchasingdomestic produce at good prices forprofitable export. These firms issued30,000 pounds in short-term, interest-bearing promissory notes to pay for“Wheat and other Country Produce.”The notes were payable in nine monthsin British sterling pounds.

A public outcry rose up against theissuance of private paper money forprofit. Nearly 200 provincial merchantsput an advertisement in the PennsylvaniaGazette on December 11, 1766, declar-ing that they would not accept thesenotes in payment for goods. A monthlater the inhabitants of the city andcounty of Philadelphia petitioned theGeneral Assembly, the Pennsylvaniacolonial legislature, pleading that theprivilege to issue money belonged only

Private Paper Money in Colonial Pennsylvania | 323

to the legislature. Eventually the king’sattorney general and solicitor generaltook up the issue and declared that thenotes were probably not illegal, but thenotes were withdrawn in the face of astrong negative public reaction.

After the War of Independence privatebanks began to issue banknotes, but dur-ing the colonial period the issuance ofpaper money remained strictly a govern-ment prerogative.

See also: Land Bank System, Currency Act of1764

ReferencesErnst, Joseph Albert. 1973. Money and Poli-

tics in America, 1755–1775.Yoder, Paton S. 1941. Paper Currency in

Colonial Pennsylvania. Ph.D. disserta-tion, Indiana University.

PRODUCER PRICE INDEX

The producer price index (PPI) for allcommodities is an index of the domesticprice level that the United States Bureauof Labor Statistics estimates and pub-lishes once a month. It is concerned onlywith domestic producers and the pricesthat they receive for their output. ThePPI ranks among the oldest economicindicators assembled and reported by theFederal Government. It owes its originsto a resolution passed by the UnitedStates Senate in 1891. This resolutionauthorized the Senate Committee onFinance to look into the impact tariffshad “on the imports and exports, thegrowth, development, production, andprices of agricultural land manufacturedarticles at home and abroad.”(SenateCommittee on Finance, 1893) In 1902,the United States Department of Labor

published a bulletin on the course ofwholesale prices between 1890 and1901, marking the first publication of aU.S. price index. Until 1978, the PPI wascalled the “wholesale price index.” Thechange in name was intended to empha-size that the PPI aims to measure theprices received by producers from thefirst buyers.

The PPI for all commodities and theconsumer price index (CPI) provide thetwo main measures of monthly inflationin the United Sates. Whereas the CPIemphasizes the retail prices of goods andservices relevant for a family’s or house-hold’s cost of living, the PPI measureswhat prices output bring for the produc-ers rather than for the retailers. It includesall kinds of goods absent from the CPI,such as business capital equipment. ThePPI includes the price of footwear, but italso includes the prices of leather, hides,and skins. The prices of agricultural andconstruction equipment are reflected inthe PPI, but not in the CPI. The prices ofaircraft, ships, and railroad equipmenthelp make up the PPI.

The PPI for all commodities incorpo-rates fifteen different commodity group-ings. The groupings are Farm Products;Processed Foods and Feeds; TextileProducts and Apparel; Hides, Skins,Leather, and Related Products; Fuels andRelated Products and Power; Chemicalsand Allied Products; Rubber and PlasticProducts; Lumber and Wood Products;Pulp, Paper, and Allied Products; Metalsand Metal Products; Machinery andEquipment; Furniture and HouseholdDurables; Nonmetallic Mineral Prod-ucts; Transportation Equipment; andMiscellaneous Products. Indexes are cal-culated for each one of these sub-groups,as well as for individual commodities

324 | Producer Price Index

within these subgroups. As a case inpoint, there is a price index for Fuels andRelated Products and Power subgroup.The fuel subgroup is broken down intofurther subgroups including crude petro-leum, refined petroleum products, elec-tric power, and gas fuels. A price index isalso reported for each of the subgroupswithin the Fuel subgroup.

The PPI calculations also make avail-able price indexes for subgroups basedon the stage of processing. A finishedgoods index provides a price index for aclass of goods ready to be purchased byfinal users. They need no further pro-cessing and may be either durable ornondurable goods. Finished goodsinclude capital equipment for businessfirms. Another index measures the costof intermediate materials, supplies, andcomponents. The intermediate goodsundergo some processing before theyserve as material and component inputsto other manufacturing and constructionactivities. Another index measures thecost of crude materials, which areunprocessed goods and raw materials.

In the calculation of the PPI, theBureau of Labor Statistics makeallowances for changes in the quality forproducts. Suppose the cost of a newautomobile rises by $500, but $300 ofthe price increase is owed to extra safetyequipment required by new governmentregulations. The PPI only counts $200 ofthe price increase as an increase in theprice of automobiles.

ReferencesBureau of Labor Statistics. June 2008. “Pro-

ducer Prices.” Chap 14 of BLS Handbookof Methods.

Senate Committee on Finance, WholesalePrices, Wages, and Transportation. “TheAldrich Report.” Senate Report no. 1394,

Part I, 52nd Congress, 2d sess., March 3,1893.

PROMISSORY NOTES ACTOF 1704 (ENGLAND)

The Promissory Notes Act of 1704 offi-cially established promissory notes asnegotiable instruments. A promissorynote is negotiable when it can be trans-ferred to a third party by an endorse-ment, usually in the form of a signatureof the recipient of the note. Because thebanknote is a direct descendant of thepromissory note, the act of 1704 fur-nished the legal prerequisites for the useof banknotes as a medium of exchange.

In 17th-century England, peopledeposited gold in the safekeeping ofgoldsmiths, who in return issued some-thing like a warehouse voucher made outto the owner of the gold. It was a receiptfor a deposit of gold. Rather thanexchange gold in trade it was much eas-ier to exchange warehouse receipts, giv-ing rise to the custom of making thesereceipts transferable by endorsement.Promissory notes originated from thesereceipts. The wording on promissorynotes entitled a certain person, or the“bearer,” of the note, to a fixed amount ofgold on demand. The custom arose oftransferring the ownership of promissorynotes with signature endorsements. Theownership of these notes might changeover and over as long as there was roomfor more endorsements. With promissorynotes changing hands through repeatedendorsements, invariably disputes camebefore the courts involving cases inwhich someone did not want to redeeman endorsed promissory note, or in whichthe recipients of endorsed promissory

Promissory Notes Act of 1704 (England) | 325

notes did not receive the same considera-tion as the initial recipients of the notes.For promissory notes to circulate as amedium of exchange, it was necessarythat the holders of endorsed notes sufferno disadvantages when demanding thatnotes be paid in gold. That is, the prom-issory notes had to be negotiable. Thecourts waffled on the issue of the nego-tiability of promissory notes, forcingParliament to take action.

Parliament named the law “An Act forgiving like Remedy upon PromissoryNotes, as is now used upon Bills ofExchange, and for the better Payment ofInland Bills of Exchange.” The act pro-vided that promissory notes payable toorder, or bearer, were legally bindingobligations, assignable by endorsementto new holders, and new holders couldsue in the courts for enforcement of theirrights. Parliament cited the benefits totrade and commerce accruing from theprovisions of the act.

The first step toward the evolution ofbanknotes came when goldsmithsdropped the names of individuals enti-tled to gold, and instead made theunnamed “bearer” of the note entitled toa fixed amount of gold. The rise ofengraved notes completed the transitionto banknotes. Indorsed checks alsobecame negotiable instruments by virtueof the act of 1704. With the legal statusof notes clarified, banknotes grew inpopularity. Adam Smith observed in TheWealth of Nations, published in 1776,that bank money had surpassed metallicmoney in quantity of circulation, mark-ing a turning point in monetary history.

See also: Check, Goldsmith Bankers

ReferencesBeutel, Frederick K. “The Development of

Negotiable Instruments in Early English

Law.” Harvard Law Review, vol. 51, no. 5(1938): 813–845.

Nevin, Edward, and E. W. Davis. 1970. TheLondon Clearing Banks.

Rogers, James S. 1995. The Early History ofthe Law of Bills and Notes: A Study of theOrigins of Anglo-American CommercialLaw.

PROPAGANDA MONEY

As a circulating medium, money hasdrawn the attention of political organiza-tions looking for a vehicle to spreadpropaganda. In times of war and socialturmoil paper money is particularlysusceptible to becoming a medium forbearing revolutionary messages.

In 1967, the Chinese CommunistParty instigated riots against the HongKong government and put to use the cir-culating money of Hong Kong to propa-gate messages discrediting thegovernment. The communists wereexploiting a touchy economic situationassociated with the devaluation of thepound sterling and subsequent devalua-tion of the Hong Kong dollar. HongKong was a colony of the British gov-ernment at the time.

The Hong Kong and Shanghai Bank-ing Corporation issued notes in HongKong, and the communists took in $10 and $100 notes and overprintedmessages calculated to inflame the pop-ulace against the government. The topleft corner of the overprinted $10 notesbore the famous figure of John Bullwith outstretched hands and a gapingmouth. Behind his head in Chinesecharacters was the message, “He is sogreedy that he swallows money.” At thebottom of the overprinted $10 noteswere two Chinese characters meaning“Devaluation.” On the reverse side of

326 | Propaganda Money

the $10 banknotes the communistsoverprinted a text heavily sprinkledwith words such as “imperialism,”“banditry,” and “fascism,” and describ-ing the British exploitation of HongKong that led to the devaluation of theHong Kong dollar.

The communists overprinted the $100notes with a caricature of a pirate with asack of protruding $100 notes thrownover his back. Printed on the sack werethe words “Open Banditry.” In the centerof the bill the communists overprintedthe message, “Worth only 94.30 dollarsafter devaluation.” On the reverse sidethe communists overprinted a text end-ing with the rallying cry, “fellow broth-ers: in order to survive we must unitetogether and fight to the end against theBritish in Hong Kong.”

During the Vietnam War, peace pro-testers in the United States drew peacesymbols and slogans on dollar bills. Atthe height of the peace protests the Fed-eral Reserve Banks withdrew the billsbearing antiwar messages. During WorldWar II, the British authorities over-printed German military notes withpropaganda messages derogatory ofAdolf Hitler.

Metallic coinage may have begun as ameans of advertising seaports, and theuse of propaganda money demonstratesthat money is a vehicle for communica-tion. Propaganda money defaces a sym-bol of government—usually imageshallowed by time that are typicallyplaced on paper money—and at thesame time propagates a message that discredits the government.

See also: Siege Money

ReferenceBeresiner, Yasha. 1977. Paper Money.

PUBLIC DEBTS

In Montesquieu’s The Spirit of Laws,published in 1748, one reads that: “Somehave imagined that it was for the advan-tage of the state to be indebted to itself:they thought that multiplied riches byincreasing the circulation” (Mon-tesquieu, 183). The reasoning behindthis statement had to do with the exclu-sive use of gold and silver for money. Byissuing government bonds that house-holds and businesses were willing tohold instead of hoarding gold and silver,more gold and silver became available tocirculate as a medium of exchange.Alexander Hamilton, first secretary oftreasury of the United States, also sawadvantages in a public debt. He arguedthat interest-bearing government bondsgave businesses a place to earn intereston capital when it was not in use.

Most national governments of highlyindustrialized economies have publicdebt. The degree of indebtedness can bea matter of concern. The main consider-ation in debt, private or public, is theamount of income available to repay it.Doubling one’s debt while doublingone’s income, does not raise the debtburden or the chance of default. Econo-mists use the ratio of public debt to grossdomestic product (GDP) to measure thedegree of indebtedness of a particulargovernment. As long as GDP growsfaster than public debt, the ability of agovernment to pay off its debt is alwaysimproving. Below is a list of countrieswith public debts measured as a percentof GDP.

Public debts often soar significantlyduring wars. Following the Napoleonicwars, Great Britain’s public debt as apercent of GDP stood close to a dizzy300 percent. It steadily fell, dropping

Public Debts | 327

below the 50 percent range by the eve ofWorld War I (Miles and Scott, 606). Bythe end of World War II, the UnitedKingdom’s debt had climbed to a loftylevel of 250 percent of GDP. The UnitedStates finished World War II with a pub-lic debt above 100 percent of GDP(Miles and Scott, 266). Inflation helpscountries reduce the burden of publicdebts. In the post–World War II years,inflation helped reduce the public debtburdens of the United Kingdom and theUnited States. The stress of wartimefinance, coupled with war reparationssent post–World War I Germany into afrenzy of runaway inflation.

It is true that a government shouldnever face default if its debt is denomi-nated in its own currency. It can alwaysprint up the currency to redeem a debt, butthe outcome is likely to be inflation andeconomic chaos. Governments usuallyturn to hyperinflation to get out fromunder a debt only if creditors have lostconfidence in the government and arewithholding credit. All the U.S. govern-ment debt is denominated in U.S. dollars. Governments in developing coun-tries often contract debt denominated in

the currency of a foreign government.These governments can face default ifthey run short of foreign currencyreserves.

In the United States, the public debtas a percent of GDP steadily fell fromthe end of World War II until around1980 (Miles and Scott, 266). It reached atrough roughly at 25 percent of GDP. Inthe 1980s, the U.S. public debt as a per-cent of GDP turned upwards with largerbudget deficits, reaching a level of 70percent of GDP in 1996 (OECD, 2008).The public debt as a percent of GDPsteadily fell from 1997 until 2001, andthen began climbing. In 2008, the OECDEconomic Outlook was expecting theU.S. public debt as a percent of GDP toreach 80 percent in 2010.

The public debt equals the accumula-tion of past budget deficits. The budgetdeficit is the annual shortfall in govern-ment revenue relative to governmentspending. A public debt indicates thatover a span of years the annual budgetdeficits outweigh annual budget sur-pluses. Even if a public debt remainswithin a moderate range, observers andcritics claim that the annual budgetdeficits have harmful effects. Firstly,these deficits subtract from the amountof credit available to finance house pur-chases and business capital expansion.Secondly, they elevate interest rates, andcreate a class of financial assets that paygood interest rates at low risk. Foreigninvestors in the pursuit of these govern-ment bonds bid up the value of thedomestic currency in foreign exchangemarkets. A strongly valued currency inforeign exchange markets makes importsless costly to domestic consumers andhome exports more costly to foreignconsumers. Critics charge that imports

328 | Public Debts

Public Debt as a Percent of GDP forSelected Countries in 2007

Australia 15.4Canada 64.1France 70.1Germany 65.5Italy 113.2Japan 170.6Switzerland 48.6United Kingdom 46.9United States 62.9

Source: OCED Economic Outlook no.84, 2008

swell while exports shrink, and that theresult is fewer domestic jobs.

See also: Foreign Debt Crises

ReferencesMiles, David, and Andrew Scott. 2002.

Macroeconomics: Understanding theWealth of Nations.

Montesquieu, Charles De Secondat, Baronde. 1748/1952. Spirit of Laws.

OCED Economic Outlook, Number 84,2008. www.oced.org/publications

Public Debts | 329

331

Q

QUATTRINI AFFAIR

The quattrini was one of the three silvercoins that circulated in fourteenth-century Florence. The “quattrini affair”refers to a devaluation of the quattrini in1371 that set in motion a course ofevents leading in 1378 to a popularuprising and a brief dictatorship of theproletariat.

The Florentine money of account wasthe lira, originally meaning a pound ofsilver, and in the Florentine currencysystem 240 denarii equaled 1 lira,60 quattrini equaled 1 lira, and 8 grossialso equaled 1 lira. Florence also mintedthe florin, a gold coin that circulatedmainly in international trade and amongthe wealthiest members of society. Theexchange rate between silver coins andflorins varied with the silver content ofsilver coins.

The money stock of a 14th-centuryItalian city-state consisted of a varyingmedley of domestic and foreign coinsand the rate of coinage depended on theamount of private silver brought to themint. Private persons took their silver to

city-state mints that struck coins with thegreatest excess of face value per weightof silver. A city-state such as Florencecould debase the silver content of its cur-rency, increasing the face value of itscoinage relative to silver content, andattract more silver to its mint. The sys-tem encouraged cities to engage in com-petitive devaluation, and devaluationbecame a plague that spread from onecity to another.

Florentine authorities balked at cur-rency devaluation, and by the mid-14thcentury the coinage of denarii, quattrini,and grossi came to a halt because no sil-ver was brought to the mint. Currencyfrom Pisa invaded the Florentine econ-omy, driving out Florentine currency inaccordance with Gresham’s law that badmoney drives out good. In 1366, the Flo-rentine authorities gave way and slashedthe silver content of the denaro, the mostovervalued of the Florentine coins, by 36 percent. The authorities also bannedthe circulation of petty foreign currency,apparently under the expectation thatthe ban would have no practicalsignificance.

Next, Florentine grossi and quattrinicame under pressure as Pisan grossi andquattrini with the same face value butless silver content were exchanged forthe Florentine coins. Florentine grossistood only slightly above Pisan grossi insilver content, and in 1366, Florencedebased the grossi by 2.5 percent, a suf-ficient debasement to bring Florentinegrossi into parity with Pisan grossi.

The Florentine quattrini, overvaluedrelative to Pisan quattrini by a good18 percent, now came under pressure. TheFlorentines had sought to avoid devaluingthe quattrini because local prices weremost often quoted in quattrini and thewhole domestic price structure and mone-tary stability depended on quattrini. Theinvasion of devalued Pisan currency againforced the hand of the Florentines, and in1371, the silver content of Florentine quat-trini fell by 18 percent and Florentinedenarii by 5 percent.

Silver flowed into Florentine mintswith the rise in face value relative to sil-ver content, and soon a boom in thecoinage of quattrini and denarii wasunderway. As supplies of quattrini anddenarii soared, the forces of currencydepreciation made themselves felt with amerciless logic, in time sending a thun-derclap through the Florentine economy.

The florin rose in value as the silvercontent of the silver coinage fell, pricesrose faster than wages, and discontentrose to a boiling point among the minorartisans. In 1378, Michele di Lando, abarefoot workingman, led the wool

carders in a proletarian revolution againstthe financial oligarchy that ruledFlorence. The revolutionaries dismissedthe government officials, established adictatorship of the proletariat, and set outto reform society, repealing laws againstunionization, enfranchising unions oflower-paid workers, imposing a 12-yeardebt moratorium on debts of wage earn-ers, and reducing interest rates. Busi-nesses fought back by closing down andrecruiting outside forces to overthrow thegovernment. The proletarians split intofactions between more conservativeskilled labors and unskilled labors sympa-thetic with communistic ideas. An armedforce from the countryside overthrew thegovernment in 1381, but not before thegovernment had melted down large quan-tities of quattrini in an effort to end thepressures for currency depreciation.

The quattrini affair gives some sup-port to Lenin’s comment that the bestway to destroy the capitalist society is todebauch its currency. Inflation and mon-etary instability have attended all majorrevolutions, including the French Revo-lution, the Russian Revolution, and theChinese Revolution.

See also: Florentine Florin

ReferencesCipolla, Carlo M. 1982. The Monetary Policy

of Fourteenth-Century Florence.Chown, John F. 1994. A History of Money.Goldthwaite, Richard A. 1980. The Building

of Renaissance Florence: An Economicand Social History.

332 | Quattrini Affair

333

R

RADCLIFFE REPORT

In 1957, the British government formeda committee “to inquire into the workingof the monetary and credit system, andto make recommendations.” In August1959, this committee issued a reportcalled the Radcliffe Report after thecommittee chairman, Lord Radcliffe,that played down the importance ofkeeping the growth of the money stockwithin strict limits. The report became asymbol of the kind of government viewsof monetary policy that let inflationaccelerate and develop a momentum ofits own in the 1970s. According to GlynDavies (1994), “No official report hasever in British history (nor I believe else-where) shown such skepticism regardingmonetary policy in the sense of trying tocontrol the economy by controlling thequantity of money” (400).

The report was sprinkled with suchexaggerated statements suggesting thatbanknotes are a relatively unimportantpart of the money supply and that the supplyof banknotes should respond passively tothe needs of trade.

The report cited two main factors thatimpaired the operational significance ofregulated money stock growth. The firstfactor was the importance of monetarysubstitutes that were always ready to comeforth and fill gaps in the money supply.Obvious examples of money substitutes,or near-monies, were savings accounts andgovernment bonds. The report stressedthat it was an individual’s liquidity posi-tion, rather than money holdings, thatshaped that individual’s spending deci-sions. An individual with modest moneyholdings might nevertheless be in a veryliquid position financially.

The second factor hampering theeffectiveness of regulated money stockgrowth was the velocity of circulation.An increase in velocity has the sameeconomic impact as a money stockincrease, and changes in velocity canoffset changes in money stock growth.The flavor of the report’s findings is cap-tured in the following passages:

If, it is argued, the central bank hasboth the will and the means to con-trol the supply of money . . . all

will be well. Our view is different.It is the whole liquidity positionthat is relevant to spending deci-sions. . . . The decision to spendthus depends upon the liquidity inthe broad sense, not upon immedi-ate access to money. . . . Spendingis not limited to the amount ofmoney in circulation. (400,author’s emphasis)

In a highly developed financial systemthe theoretical difficulties of identifying“the supply of money” cannot be lightlyswept aside. Even when they are disre-garded, all the haziness of the connectionbetween the supply of money and thelevel of total demand remains: the hazinessthat lies in the impossibility of limiting thevelocity of circulation (Davies, 1994, 401).

The findings of the Radcliffe Reportessentially threw out the control of themoney stock in the arsenal of weaponsagainst inflation, a weapon that wassorely needed in the 1970s. The viewsexpressed in the report became economicorthodoxy in the 1960s, and treated as theaccepted view in economics textbooks.As inflation mounted in the 1970s, theviews of the Radcliffe Report came underincreasing criticism, and by the 1980s thequantity theory of money had largely sup-planted the views of the Radcliffe Report.The quantity theory of money emphasizesthe connection between the quantity ofmoney and inflation.

See also: Bank of England, Deutsche Bundes-bank, Equation of Exchange, Monetarism,Velocity of Money

ReferencesDavies, Glyn. 1994. A History of Money.United Kingdom. 1959. Report of the Com-

mittee on the Workings of the MonetarySystem, Cmnd. 827.

REAL BILLS DOCTRINE

The real bills doctrine holds that if banksmake loans only to finance short-termcommercial transactions, the money supplywill expand and contract to meet theneeds of trade and fluctuations in themoney supply will not be a source ofeconomic instability leading to eitherinflation or deflation. The self-liquidatingnature of these loans, and their use tofinance the production of goods andservices, allegedly checks the rise ofinflationary forces. The doctrine foundfavor with Adam Smith and it has com-manded some interest to the present day.

To appreciate the doctrine one mustfirst understand that when banks advanceloans, the money supply expands. Whenbanks allow money to build up as vaultcash or other forms of reserves, themoney supply contracts.

The real bills doctrine first broke intopublic debate in the United Kingdomduring the Napoleonic Wars. Under thestress of wartime finance, Great Britainhad suspended the convertibility of bank-notes into precious metal, putting Britainon an inconvertible paper standard com-parable to inconvertible paper standardsin the United States or the United King-dom today. So-called bullionists arguedthat the money supply should remainproportional to precious metal reserves,such as gold reserves, to maintain itsvalue and avoid inflation or deflation.Antibullionists defended the suspensionof convertibility on the grounds of thereal bills doctrine and attributed prob-lems of rising prices and currency depre-ciation to other causes. After theNapoleonic Wars, the United Kingdomestablished a gold standard and a newmonetary debate developed between thebanking school and the currency school.

334 | Real Bills Doctrine

Both schools supported the gold stan-dard but the banking school felt thatbanks should have the flexibility to makeloans according to the real bills doctrine,allowing the money supply to expandand contract to meet the needs of trade.The currency school made the case thatthe money supply should remain propor-tional to gold reserves, and should onlychange as gold flowed in and out of thecountry.

In the early stages of developmentthe Federal Reserve System followedthe real bills doctrine in practice. Dur-ing the post–World War II era the realbills doctrine and similar doctrines havelost credibility in favor of proposals toincrease the money supply at a fixedrate, such as 3 to 5 percent per year, toencourage the economy to mirror thesame stability.

See also: Bank Restriction Act of 1797, Bank-ing School, Currency School, Monetarism,Radcliffe Report

ReferencesKlein, John J. 1986. Money and the Economy,

6th ed.Perlman, Morris. “Adam Smith and the Paternity

of the Real Bills Doctrine.” History ofPolitical Economy, vol. 21, no. 1 (Spring1989): 77–90.

Spiegel, Henry Williams. 1971. The Growthof Economic Thought.

REDENOMINATION

The term “redenomination” refers eitherto a change in the number of zeros asso-ciated with a given currency, or it canapply to the introduction of a newcurrency. On January 1, 2005, Turkeyslashed six zeroes from its currency. Onemillion of the old Turkish lira con-verted to one of the new Turkish lira

(Economist, August 2004) Before theredenomination, 1 euro equaled 1.8 mil-lion Turkish lira. After the redenomina-tion, 1 euro equaled 1.8 new Turkish lira.In July 2008, Zimbabwe slashed tenzeroes from its currency (US Fed NewsService, July 2008). At the time ofZimbabwe’s redenomination its currencywas trading a 110 billion Zimbabwecurrency to one U.S. dollar. When acurrency is redenominated, balancesheets, debts, and financial portfolios areadjusted accordingly.

The introduction of the euro can beviewed either as the introduction of anew currency or a redenomination but itraised many redenomination issues.Debts and balance sheets in displacedEuropean currencies had to be redenom-inated in terms of the Euro. Each gov-ernment enjoyed certain autonomy indeciding the redenomination processfor their own currencies. The French andItalian authorities decided that theirdebt would not have any decimal placesafter redenomination whereas Germanauthorities used decimal places. Thetimetable allowed governments to imple-ment redenomination anytime between1999 and 2002.

More commonly, redenominationrefers the removal of zeroes from a cur-rency. There are several reasons whycountries undertake redenomination.One obvious reason is that it simplifiesthe mathematics of currency transac-tions. Extra zeros put a burden onaccounting and statistical records, dataprocessing software, and payment sys-tems. From political and psychologicalperspectives, slashing zeroes wipes outevidence of past hyperinflation andmonetary chaos, and serves as acommitment from government thatuncontrolled inflation is a thing of the

Redenomination | 335

past. Redenomination may represent thefinishing touches on tough but success-ful economic reform measures. Lesscommon is the case where governmentsuse redenomination to confiscateresources. Laos only gave its citizensone day to exchange old currency fornew currency in 1976 (Mosely, 2005).The Soviet Union in 1991 andNicaragua in 1988 only gave citizensthree days to swap old currency for newcurrency (Mosely, 2005). In these situa-tions, some citizens will not succeed ingetting their old, worthless currencyexchanged for the new currency. Theloss to the citizens left holding the oldcurrency becomes revenue to the gov-ernment.

Between 1960 and 2003, developingand transition economies redenominatedcurrencies on 60 different occasions(Mosely, 2005). In 14 of these cases of

currency redenomination, only one zerowas removed. In nine cases six zeroswere removed. The median redenominationremoved three zeros. Nineteen countriesredenominated only once, and ten coun-tries redenominated twice. As of 2003,Brazil has redenominated six times, theformer Yugoslavia/Serbia five times, andArgentina four times (Mosely, 2005). Afew countries have added digits to theircurrency: South Africa, 1961; SierraLeone, 1964; Ghana, 1965; Australia,1966; the Bahamas, 1966; New Zealand,1967; Fiji, 1969; the Gambia, 1965;Malawi, 1971; and Nigeria, 1973 (Mas 1995). Adding digitsmakes the currencies more comparableto a key currency such as the U.S. dollar.Triple digit inflation or higher oftenleads to redenomination, but not always.

Japan has debated redenomination forthe yen. In 2008, the yen often traded

336 | Redenomination

Man in a Harare taxi displays the newly released 50,000 Zimbabwean dollar note on October 13,2008. Inflation stood at 231 million percent. (AP Photo)

around 110 yen per one U.S. dollar. Theintroduction of the euro promptedconcern that the yen’s stature as aninternational currency might suffer fromnew competition. A sluggish Japaneseeconomy in the 1990s encouragedJapanese policy makers to consider theadvantages of redenomination. In 1999,the ruling Liberal Democratic Partyformed a committee to evaluate the ideaof removing two zeros from the yen.

Among highly industrialized coun-tries, Korea has the highest exchange ratewith the U.S. dollar. The U.S. dollar isequal to more than 1000 Korean won.South Korean Officials have also dis-cussed the possibility of redenomination.

ReferencesEconomist. “Nought to Worry About: Zeroing

on Too Many Zeroes.” August 28, 2004,p. 67.

Mas, Ignacio. “Things Governments Do toMoney: A Recent History of CurrencyReform Schemes and Scams.” Kyklos,vol. 48, no. 4 (1995): 483–513.

Mosley, Layna. “Dropping Zeros and Gain-ing Credibility? Currency Redenomina-tion in Developing Nations.” ConferencePaper, American Political Science Asso-ciation, 2005 Annual Meeting, pp. 1–28.

US Fed News Service. “VOA News:Zimbabwe’s Central Bank Snips 10 Zerosin Currency Redenomination.” July 30,2008.

REGULATION Q

See: Eurodollars, Glass–Steagall Banking Actof 1933

REICHMARK

See: Gold Mark of Imperial Germany,Rentenmark

RENTENMARK

The rentenmark was the currency thatthe German government issued in theaftermath of the hyperinflation thatoccurred in Germany immediately fol-lowing World War I. Hyperinflation hadcompletely discredited the mark, leavingthe price of something as simple as anewspaper at 70 million marks. Towardthe end of 1923, the rentenmark replacedthe mark as a new, stable currency.

A costly war and heavy war repara-tions had left Germany virtually bank-rupt, and without the gold and foreignexchange reserves needed to support apaper currency. Usually, governmentsseeking to restore monetary stability hadarranged foreign loans that allowed themto issue a new currency convertible at anofficial rate into gold and foreignexchange. Germany, lacking access toforeign loans, faced the challenge ofestablishing a new currency that wouldcommand the confidence of the publicwithout the backing of significantreserves of gold and foreign exchange.

Germany handled these monetary dif-ficulties in much the same spirit thatFrance handled similar difficulties in thepast. Early in 18th-century France, JohnLaw’s Banque Royal had issued papermoney on the security of land inLouisiana, a financial venture that set thestage for France’s first paper moneydebacle. Later the revolutionary Frenchgovernment issued paper money called“assignats,” backed by land confiscatedfrom the church. At first the church landwas reserved for sale to owners of assig-nats, but too many assignats were issuedand the plan ended in a storm of hyper-inflation.

The Deutsche Rentenbank, a new bankof issue organized to issue rentenmarks,

Rentenmark | 337

held collateral in the form of agriculturaland industrial mortgages. Theoretically,the agricultural and industrial mortgagescould have been liquidated and theproceeds used to redeem the renten-marks, but in practice such a liquidationwould have been difficult. One renten-mark was worth 1 billion of the oldmarks.

In addition to reforming the currency,the German government reformed its fis-cal affairs, balancing the budget in termsof rentenmarks and ending governmentdependence on the central bank to pur-chase government bonds. The Germangovernment, by getting its own house inorder, diffused the pressure for inflation-ary finance. In turn the Rentenbank, bystrictly limiting the issuance of renten-marks, ended the spiral of inflation,showing the world that gold and foreignexchange reserves were not necessaryfor a stable, noninflationary currency.The experience of the rentenmark under-lined the role of government fiscal mis-management as the force that invariablyfuels hyperinflation.

Late in 1924, Germany received a siz-able loan under the Dawes Plan,enabling it to reorganize the Reichbank,which had suspended the issuance ofbanknotes after the formation of theRentenbank. The Reichbank again tookover responsibility for issuing banknotesand the rentenmark was renamed thereichmark. The reichmark was convert-ible into gold but gold coins did not cir-culate as currency, a system that spreadto the rest of the world during the 1930s.Following World War II, the reichmarkwas discontinued and replaced by thedeutsche mark.

Although land-secured paper moneyhad twice led France into the chaos ofhyperinflation, Germany had embarked

on a land-secured system of papermoney determined to contain inflation-ary pressures. Germany’s experiencewith the rentenmark demonstrated that asociety may avoid inflation and stabilizethe value of a currency by strictly limit-ing currency supplies. By strict mone-tary discipline, Germany’s experimentsucceeded where similar efforts hadfailed.

See also: Deutsche Mark, Hyperinflation inPost–World War I Germany, Gold Mark ofImperial Germany

ReferencesDavies, Glyn. 1994. A History of Money.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.Stolper, Gustav. 1967. The German Econ-

omy: 1870 to the Present.

REPORT FROM THESELECT COMMITTEE ON

THE HIGH PRICE OF BULLION

The so-called Bullion Report, pub-lished on June 8, 1810, ranks with themost famous documents in the historyof monetary theory. The report wasactually written by Henry Thornton, aprominent banker and economist.Thomas Malthus and David Ricardo,the most famous economists of the day,rallied to support the conclusions of thereport, which cited fiat money (moneyinconvertible into a precious metal atan official rate) as the cause of the highprice of bullion. Actually, the first vol-ley had come from the pen of Ricardo,who wrote newspaper articles and pam-phlets on the subject, one entitled TheHigh Price of Bullion (1810).

338 | Report from the Select Committee on the High Price of Bullion

During the French Revolution andNapoleonic Wars, the Bank of Englandsuspended convertibility of banknotesinto metallic coinage and precious metal,an action that would become commonpractice during future wars but was thenunprecedented. Inflation measures calcu-lated from price indices were unavailableat the time, but the price of gold bullionin British pounds soared and the Britishpound depreciated relative to other Euro-pean currencies in foreign exchange mar-kets. Discussions on the high price ofbullion and currency depreciation led tothe appointment of a select committee tomake an inquiry.

The current state of knowledge ofmonetary theory would have the finger ofsuspicion immediately turn to theissuance of fiat money, but at the thresh-old of the 19th century other causes werecited for the high price of bullion and thedepreciation of the British pound. To theobservation that the high price of goldwas due to increased demand for gold tosupply French armies, the Reportanswered:

Your Committee is of the opinionthat in the sound natural state ofthe British currency the foundationof which is gold no increaseddemand for gold from other partsof the world however great or fromwhatever causes arising can havethe effect of producing here for aconsiderable period of time a mate-rial rise in the market price of gold.. . . it was to be expected that thosewho ascribed the high price here toa great demand abroad, would havebeen prepared to state that therewere corresponding high pricesabroad. . . . [I]t does not appear thatduring the time when the price of

Gold bullion was rising here as val-ued in our paper there was any cor-responding rise in the price of Goldbullion in the market of the Conti-nent as valued in their respectivecurrencies. (Chown, 1994, 239)

The select committee was equallyunimpressed with theories that attributedthe depreciation of the pound to harvestfailures, Napoleon’s blockade, subsidiesof foreign allies, and support of armiesin foreign lands. In the words of thereport:

From the foregoing reasoning rela-tive to the state of the Exchanges ifthey are considered apart, YourCommittee find it difficult to resistan inference that a portion at leastof the great fall which theExchanges lately suffered musthave resulted not from the state oftrade but from a change in therelative value of our domesticcurrency. But when this deductionis joined with that which yourCommittee have stated respectingthe market price of Gold, that infer-ence appears to be demonstrated.(Chown, 1994, 241)

The report recommended a return toconvertibility as soon as possible, but theexigencies of war outweighed the logicof the report and a resumption of con-vertibility had to wait until 1821.

The bullionist controversy demon-strated the difficulty of pinpointing thecauses of currency depreciation andinflation. Often the blame was laid atthe feet of shortages, greedy laborunions, monopolies, and speculators,when a more careful examinationplaced the cause in undisciplined

Report from the Select Committee on the High Price of Bullion | 339

growth in money stocks. The reportrecommended a return to convertibilityas a means of maintaining monetarydiscipline.

See also: Bank Restriction Act of 1797,Monetarism, Gold Standard, Real BillsDoctrine

ReferencesChown, John F. 1994. A History of Money.Spiegel, Henry Williams. 1971. The Growth

of Economic Thought.

REPURCHASEAGREEMENTS

A repurchase agreement is the sale of asecurity coupled with a promise to buyback the security at a specific price anddate in the future. It is called a repur-chase agreement but it is actually a loan.The seller receives cash for the securitysold. The buyer of the security is loan-ing cash to the seller, and holding thesecurity as collateral. The seller agreesto buy back the security at a higher priceafter a certain amount of time haselapsed. By repurchasing the security ata higher price in the future, the seller isin effect paying interest on funds bor-rowed from the buyer. Typically, theselling price is set equal to the repur-chase price plus a negotiated amount ofinterest. If the borrower fails torepurchase the security at the agreed ondate in the future, the lender can sell the security to a third party and recoupthe funds lent. If the lender fails toresell the security to the previous owner,the previous owner can use the funds forrepurchasing the security to purchaseanother investment.

Repurchase agreements have longplayed a role in the U.S. monetary

system. As early as 1917, FederalReserve Banks used repurchase agree-ments to extend credit to commercialbanks. During the 1920s the New YorkFederal Reserve used repurchase agree-ments to extend credit to nonbank deal-ers in short-term credit instruments.

As U.S. inflation led to higher inter-est rates in the post–World War II era,repurchasing agreements grew in popu-larity. Nonbank dealers in treasurybonds went searching for less costlyfinancing than what commercial banks,their traditional sources of credit, wereoffering. At the same time, large stateand local governments and nonfinancialcorporations discovered that, despiterising interest rates, bank deposits paidzero interest. By being party to a repur-chase agreement these institutionscould earn interest on funds idly sittingin interest-free bank accounts. Purchas-ing a treasury bond under a repurchaseagreement involved minimal risk, nego-tiable maturities, and routine mechan-ics. Treasury bond dealers andinstitutional cash managers created amarket for repurchase agreements.After the 1970s the growth in U.S.Treasury marketable debt and risingshort-term interest rates made repur-chase agreements attractive to all kindsof creditors, including school districtsand other small creditors that could notearn interest on checking accounts(Garbade, 2006). Repurchase agree-ments became a common vehicle for theshort-term investment of surplus cash.Congress lifted the ban on interest-bear-ing checking accounts in 1980.

The securities most often involved inrepurchase agreements are U.S. Treasuryand federal agency bonds, but repur-chase agreements can be arranged formortgage-backed securities, and various

340 | Repurchase Agreements

short-term money market credit instru-ments, including negotiable bank certifi-cates of deposit.

Repurchase agreements are nearly allshort-term agreements. Overnight repur-chase agreements are the most commontype of treasury bond repurchase agree-ment. Other standard maturities forrepurchase agreements include one, twoand three weeks, and one, two, three, andsix months. The parties to the repurchaseagreement may negotiate flexible termsto maturity.

The purchaser of a security in arepurchase agreement only earns theinterest that is agreed on in the con-tract. A treasury bond in a repurchaseagreement will usually remain regis-tered in the name of the seller. Theseller in the repurchase agreement willdirectly receive any coupon paymentsearned by the bond while the buyer isholding it.

U.S. commercial banks regard repur-chase agreements as a close substitutefor Federal funds borrowing. The inter-est rate commercial banks pay on repur-chase agreements is usually 25 to 30basis points below the Federal funds rate(Lumpkin, 1987). The interest rates onrepurchase agreements are a bit lowerbecause repurchase agreements arebacked by high-quality collateral. Ratherthan borrow funds in the Federal fundsmarket, a commercial bank may arrangean overnight repurchase agreement withone of its large depositors. Some coun-tries include the repurchase liabilities ofdepository institutions in the broadermeasurers of the circulating moneystock. The Federal Reserve Bank of NewYork also arranges repurchase agree-ments with primary dealers in treasurysecurities as a part of its open marketoperations.

See also: Monetary Aggregates

ReferencesGarbade, Kenneth D. “The Evolution of

Repo Contracting Conventions in the1980’s.” Economic Policy Review-FederalReserve Bank of New York, vol. 12, no. 1(May 2006): 27–44.

Lumpkin, Stephen. “Repurchase and ReverseRepurchase Agreements.” EconomicReview, Federal Reserve Bank ofRichmond, vol. 731 (January 1987):15–23.

RESERVES

See: Bank, Forestall System, High-PoweredMoney, Legal Reserve Ratio, MonetaryMultiplier, National Bank Act of 1864

RESUMPTION ACT OF1875 (UNITED STATES)

The principle objective of the Resump-tion Act of 1875 was to provide for theresumption of specie payments on green-backs, the fiat paper money born of theCivil War, which was still current in the1870s.

The act had three important sections.The first section provided for the retire-ment of the fractional paper currencythat been current since the Civil War.The fractional paper currency was indenominations of 10, 25, and 50 cents.The act of 1875 provided for theissuance of subsidiary silver coin toreplace the fractional currency. This pro-vision was a bow to the silver interestsbecause only gold coins circulated at thetime. The second section got rid ofseigniorage, or mint charges, on thecoinage of gold, a provision that pleased

Resumption Act of 1875 (United States) | 341

the mining interests. The third section ofthe act removed limitations on the totalnumber of banknotes that national bankscould issue, a provision that met thedemand for what then was called freebanking. The treasury was to retiregreenbacks in an amount equal to 80 per-cent of the increase in national bank-notes, until greenbacks in circulation fellto 300 million.

The third section took up the heart ofthe legislation, the redemption of green-backs. After January 1, 1879, green-backs were redeemable in coin whenbrought to the assistant treasurer at NewYork in sums no less than $50. The actalso authorized the secretary of treasuryto “issue, sell and dispose of, at not lessthan par, in coin” any of the bondsauthorized under existing legislation.

A certain amount of pessimism sur-rounded the Resumption Act of 1875.Many opponents felt that resumption wasnot feasible, that people would show up inmass to exchange greenbacks for gold,that it would trigger an unbearable con-traction of the money supply, and thatCongress would not stand firmly in favorof resumption. In 1878 a bill to repeal theResumption Act failed to pass Congress

by a narrow margin, and Congress didraise from 300 million to 346 million themaximum number of greenbacks thatcould remain in circulation. Nevertheless,the expected eagerness to exchange green-backs for gold had been overstated, andresumption took place without difficulty.

The term “coin” in the legislationwas generally assumed to refer to goldcoins. In 1878, the Bland–Allison Sil-ver Purchase Act made silver legal ten-der, opening up the possibility thatbonds sold to raise coin—gold coin—could be redeemed in silver. Advocatesof silver felt that redemption of bondswas legitimate, but the proposal arousedstrong opposition. President Hayes inhis veto message on the Bland–AllisonAct (the act was passed over a presiden-tial veto) cited the large number ofbonds the government had sold. Henoted that the bonds were sold for gold,and that the bondholders expected thebonds to be redeemed in gold, andwould not have bought the bonds other-wise. In the words of his veto message:

National promises should be keptwith unflinching fidelity. There isno power to compel a nation to

342 | Resumption Act of 1875 (United States)

Poster in the form of a “greenback” legal-tender note urges the repeal of the Resumption Act,1875. (Library of Congress)

repay its debts. Its credit dependson its honor. The nation owes whatit has led or allowed its creditors toexpect. (Watson, 1970, 154)

Despite the provisions of the Bland–Allison Act making silver legal tender,the U.S. government maintained its com-mitment to redeem public bonds in gold.

The Resumption Act of 1875 is one ofthe important pieces of coinage legisla-tion in U.S. history because it ended anera of fiat money.

See also: Bland–Allison Silver Repur-chase Act of 1878, Free Silver Move-ment, Greenbacks

ReferencesCarothers, Neil. 1930/1967. Fractional

Money.Hepburn, A. Barton. 1924/1967. A History of

Currency in the United States.Meyers, Margaret G. 1970. A Financial His-

tory of the United States.Ritter, Gretchen. 1997. Gold Bugs and

Greenbacks: The Antimonopoly Traditionand the Politics of Finance in America.

Watson, David K. 1970. History of AmericanCoinage.

RETURN TO GOLD:1300–1350

During the first half of the 14th century,Europe saw gold currency displace sil-ver currency as the primary circulatingmedium. The Carolingian reform of theeighth century had ended gold coinagein Europe, and for over 400 yearsEurope had contented itself with mint-ing the silver denarius, a small denomi-nation coin, predecessor to the modernpenny. A critical development in return-ing Europe to gold coinage was the discovery of Hungarian gold deposits

around Kremnica in Slovakia, whichbecame producing mines around 1320.

In the mid-13th century, Florence andGenoa had introduced gold coinage andVenice followed later in the century withthe gold ducat to rival the Florentineflorin. Dependence on African goldrestricted the supply of the early Italiangold, limiting its circulation to theMediterranean area.

After 1320, Hungarian gold grew inabundance, enabling Charles Robert ofAnjou, King of Hungary, to began mint-ing gold coins in 1328. These gold coinsimitated the Florentine florin and werethe first gold coins minted north of theAlps. An exchange of Bohemian silverfor Hungarian gold enabled John theBlind of Luxemburg, king of Bohemia,to begin coinage of gold florins coinci-dentally with the Hungarian coinage aspart of a Hungarian-Bohemian monetarycooperation.

Hungarian gold profusely poured intoItaly in exchange for Italian goods andservices. In 1328, Venice effectively aban-doned a silver standard in favor of a goldstandard, and coinage of the gold ducatbegan to vastly outstrip the silver grossi.

In the 1330s, France and Englandborrowed from Italian bankers largesums of gold florins to finance wars. Thepope also subsidized France with vastsums of florins, and in 1337, Francebegan minting large quantities of it owngold coin, the ecu.

Gold coinage began on a large scalein the Low Countries around the sametime. In 1336 the mint of Flanders beganstriking large quantities of gold coins,and the mints of Brabant, Hainault,Cambrai, and Guelders first struck goldcoins in 1336 and 1337.

Most of the German mints striking goldcoins during the 14th century were located

Return to Gold: 1300–1350 | 343

344 | Rice Currency

in the valleys of the Rhine and Main. Oneimportant exception, Lubeck, the principlecity of the Hanseatic League, receivedroyal permission to mint gold and silvercoins in 1340. In 1342, Lubeck beganstriking gold Lubeck coins.

England had made an abortive effort tocoin gold pennies in 1257, roughly coin-ciding with the appearance of goldcoinage in Italy. England’s second andmore successful effort at gold coinagebegan in 1344. Edward III engagedFlorentine mintmasters and issued a goldcoin, the “leopard,” which proved unsuc-cessful because its official value in termsof silver exceeded its market value. Afteradjustments in metal content, Edward IIminted another gold coin, the “noble,” valued at 6 shillings and 8 pence. Nobles,half-nobles, and quarter-nobles becameimportant components of English coinage.

Scotland first launched a gold coin in1357, but the first gold coinage failed,and a successful gold coinage had towait until the end of the century.

As gold coinage spread silver coinagetook on the role of subsidiary coinagesuitable for small, local transactions, arole the silver continued to play untilalloyed token currency replaced full-bodied metallic currency.

See also: Florentine Florin, Gold, VenetianDucat

ReferencesChown, John F. 1994. A History of Money.Spufford, Peter. 1988. Money and its Use in

Medieval Europe.

RICE CURRENCY

The history of rice currency takes intoscope geographical areas as diverse asthe Far East and the American colonies,

and touches on familiar subjects in thehistory of money, including debasement,Gresham’s law, paper money, and religious associations.

The most developed system of ricecurrency emerged in feudal Japan. At theopening of the 17th century, Japan addedup its wealth, measured in koku of rice,and found the country’s wealth equiva-lent in value to 28 million kokus. Afterthe 16th century, copper, gold, and silvercirculated alongside rice, but valueswere expressed in rice, debts were con-tracted in rice, and taxes were collectedpartly in rice and partly in metallicmoney. Workers received rice in pay-ment for work, and the retainers andattendants of feudal lords receivedstipends in rice.

Large landowners issued rice notes,maintained large storehouses to redeemthose notes, and often sought to redeemthe notes at harvest season to makeroom for the new crop. When they discovered that some of the note bearersnever claimed the rice, they began, inthe manner of the goldsmith bankers, toissue more notes than they could actu-ally redeem in rice. After a rash ofabuses, the Tokugawa banned this prac-tice in 1760.

Rice currency shared an inconven-ience common to commodity money—it was bulky to transport for largecommercial transactions. With thegrowth of trade, Japan began to sup-plant rice currency with metallicmoney, but not without hearing fromthe political philosophers, who sawmetallic money as the opening wedgefor all kinds of evil. Perhaps thesephilosophers echoed the Confucianemphasis on social stability and sawmetallic money as a revolutionizinginfluence. Other ancient societies,

including Sparta of ancient Greece, sawmetallic money as an immoral influ-ence. Rice currency survived in some ofthe remote villages of Japan up to theeve of World War II.

In the 19th century, local govern-ments in Burma measured their revenuein baskets of rice. The Burmese ate thegood rice and circulated as money theinferior broken rice unsuitable for foodor seed, giving history another exampleof currency debasement and Gresham’slaw.

Rice was the most important primitivecurrency in the Philippines. In 1775, theSultans of Magindan collected taxesfrom the Philippines in unthreshed rice.The prime monetary unit was a handfulof unthreshed rice, called palay. A scaleof denominations of palay rose from 1 handful to 1,000 handfuls. A day’swage of a mountain wood gatherer was 5 handfuls. Some of the Philippine tribesendowed rice with religious significance.No women could enter a rice storehouse,and men had to perform certain religiousrituals before entering.

In 1739, the colony of South Carolinaenacted a law that made rice an accept-able means for paying taxes. The follow-ing year the colonial governmentcollected 1.2 million pounds of rice. Thegovernment issued “rice orders” to publiccreditors, which were redeemable aftertaxes were collected in rice at a rate of 30shillings per 100 pounds of rice. Theserice orders circulated as money, and long-term contracts were struck in terms ofrice.

As a commodity, rice was relativelylight, making it easier to transport thansome commodities, and it could bestored up to eight or nine years. Ricecould serve the monetary functions of amedium of exchange and store of value

better than most monetary commodities,which accounts for its relatively richhistory as a form of money.

See also: Commodity Monetary Standard, Vir-ginia Tobacco Act of 1713

ReferencesBrock, Leslie V. 1975. The Currency of the

American Colonies, 1700–1764.Einzig, Paul. 1966. Primitive Money.

RIKSBANK (SWEDEN)

The Riksbank, or Bank of Sweden, theoldest central bank in the world, was thefirst European bank to issue banknotes.The English goldsmiths issued receiptsthat circulated as money, but the Riks-bank was the first bank to issue papermoney.

The Riksbank came into being in1656 as a private bank split into twodepartments. One department was anexchange or deposit bank organizedalong the lines of the Bank of Amsterdam.It accepted deposits of coins and pre-cious metals, and these bank depositschanged ownership without preciousmetals or coins leaving the bank. Theyserved as money, and were backed up by100 percent reserves of precious metals.The second department was a lendingbank.

The Riksbank issued its first bank-notes in 1661. Other banks had alreadypioneered the use of bills of exchangeand transferable bank deposits that sup-plemented the circulation of coins.Sweden turned to banknotes as amedium of exchange because paymentsin copper, which served as money inSweden, were bulky and heavy, evenfor domestic transactions. Swedenadopted copper as the basis for money

Riksbank (Sweden) | 345

in 1625, perhaps because Swedenboasted of the largest copper mine inEurope and the Swedish governmentowned a share of it. Copper minespaved the way for banknotes when, forconvenience and utility, they beganpaying miners in copper notes thatcould be redeemed for copper at themines. These notes were preferable tocopper coins and traded at a premium.

In 1668, ownership of the Riksbankpassed into the hands of the govern-ment, making it the oldest central bankin operation today. By the early 1700s,banknotes were no longer a rarity inEurope. The Bank of England was char-tered in 1694 for the purpose of makingloans and issuing banknotes, and by1720, France was learning the disastrousconsequences of issuing banknoteswithout discipline.

In 1789, the Riksbank began issuinggovernment currency, and the RiksbankAct of 1897 conferred on the Riksbank amonopoly on the issuance of currency inSweden. As late as 1873, the number ofcentral banks in the world remained insingle-digit territory, but by 1990, morethan 160 central banks dotted the finan-cial landscape, the oldest being theRiksbank.

See also: Bank of England, Bank of France,Central Bank

ReferencesBank for International Settlements. 1963.

Eight European Central Banks.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.Samuelsson, Kurt. 1968. From Great Power

to Welfare State: 300 Years of SwedishSocial Development.

Sveriges Riksbank. 1994. Sveriges Riksbank:the Swedish Central Bank, a Short Intro-duction.

ROMAN EMPIREINFLATION

During the third and fourth centuries CE,inflation in the Roman Empire rose toastronomical numbers, aiding andabetting those internal forces ofeconomic, political, and social decaythat made the Empire easier prey for thebarbarians.

Early in the first century, Augustushad minted full-valued gold and silvercoins. In the following two centuries, theRoman emperors slowly whittled downthe weight of the coins and reduced the

346 | Roman Empire Inflation

Bronze antoninianus coins, Roman, about293–296 CE. (Museum of London)

fineness of the silver coins. In the secondcentury, the silver content of the denar-ius sank to 75 percent during the reignof that philosophic prince, MarcusAurelius. By mid-third century, creepinginflation had gradually lifted pricesabout threefold.

Early in the third century, the Cara-calla replaced the silver denarius with anew silver coin, 50 percent silver in con-tent, called the Antoninianus. At midcen-tury, this coin still contained 40 percentsilver, but thereafter debasement gath-ered momentum at a heady pace andreached a climax under Gallienus,emperor between 260 and 268 CE. Thesilver content sank to 4 percent, andprices—already triple the first-centurylevel—finishing the third century at 50 to 70 times higher than the first-cen-tury price level.

The political stage mirrored the mon-etary disorder, or vice versa. In a spaceof 40 years, starting with the assassina-tion of Gordian in 244, 57 emperorsdonned the imperial purple, until theaccession of Diocletian in 284 ended therevolving door for the imperial title.

The root cause of the inflation couldbe found in the fiscal affairs of theRoman government. The governmentpaid its expenses in coins and had nomajor credit market in which to raisefunds when expenditures exceeded taxrevenue. Perhaps because of the inertiaof tradition or political opposition, taxrates could be changed only with greatdifficulty. The more notorious emper-ors found that raising funds throughtaxes was not as easy as raising fundsby condemning wealthy senators andcitizens on trumped-up charges andconfiscating their estates. The remain-ing alternative was debasement of thecurrency.

When Aurelian assumed the reins ofpower in 270, facing galloping inflation,he adopted a currency reform that wasalmost a good as printing paper money. Hesimply raised by about 2.5 times the nom-inal or face value of the silver-plated copper coins that had replaced the silvercoins of the empire. Under his reign, thetreasury began supplying sealed bags thatcontained 1,000 of these silver-platedcoins. During this inflationary ordeal, thegovernment kept the gold coins muchpurer, but it paid its expenses in silver-plated coins, which were legal tender.

Diocletian was the first emperor toaggressively combat the rampant inflation.He came to power in 284, amid an econ-omy flooded with inferior coinage, and in295, he put in place a major reform of thecurrency, issuing full-weight pure goldand silver coins. His aureus equaled one-sixtieth of a pound of gold, and his puresilver coin equaled one-ninety-sixth of apound of a silver. His coins were compa-rable in weight and fineness to the coins inNero’s time, when prices were 100 timeslower. Inflation continued to surge throughthe Roman economy and, perhaps out offrustration, Diocletian resorted to wageand price controls in 301. Raising pricesabove legal levels became a capitaloffense, and inflation may have begun toslow a bit.

Constantine became emperor early inthe fourth century. He eased up the wageand price controls and continuedDiocletian’s policy of increasing thevalue of the currency. He minted a coincalled the gold solidus, equal to one-seventy-second of a pound of gold. Thiscoin maintained its value for 700 years,becoming one of the most famous coinsin history. After making Christianity theofficial faith in 313, Constantine lootedthe pagan temples of vast quantities of

Roman Empire Inflation | 347

gold to supply his mints. The govern-ment mints, however, continued to turnout huge amounts of the debased coppercoins, and the added supply of gold mayhave added fresh fuel to the fires ofinflation. The debased denarii continuedto fall in value. By the mid-fourth cen-tury, one gold solidus in Egypt equaled30 million denarii. By then the govern-ment protected itself by collecting taxesin gold or in kind. The mass of the pop-ulation paid the penalty for the inflationwhile the wealthy hedged against infla-tion by investing in gold and land. Theinflation began to decelerate toward theend of the fourth century, but by then theempire was tottering in the face of a barbarian onslaught. The Visigoths captured Rome in 410, and in 476,Odoacer the Barbarian replaced the lastRoman emperor, Romulus Augustulus.Constantinople continued to mint thesolidus.

See also: Inflation and Deflation

ReferencesDuncan-Jones, Richard. 1998. Money and

Government in the Roman Empire.Frank, Tenney. 1940. An Economic Survey of

Ancient Rome. Vols. I–VI.Jones, A. H. M. 1974. The Roman Economy.Paarlberg, Don. 1993. An Analysis and

History of Inflation.

ROSSEL ISLANDMONETARY SYSTEM

Rossel Island, about 200 miles south-east of New Guinea, can lay claim toone of the most novel and complicatedprimitive monetary systems, one inwhich time was a significant factor inmeasuring the value of goods. Theactual pieces of money had beenhanded down virtually unchanged to

successive generations since timeimmemorial and allegedly were ofdivine origin.

Rossel money split into two varia-tions. Dap money came in single pol-ished pieces of shells, and ko money insets of 10 discs made from shells. Dapmoney covered a larger range of valuesand stretched into the smallest values,whereas ko money exchanged hands inthe larger transactions. These twovariations bore some gender connota-tion, dap money was looked on asmen’s money, and ko money aswomen’s money. Some goods wereonly priced in one type of money, andother goods in a combination of dapand ko money.

The system of denominations ofshells of different values made theRossel money unique among primitivecurrencies. The actual names were a bitclumsy, but 22 different values arerepresented. For simplification it is easiest to regard the lowestdenomination as number 1, the nextlowest denomination as number 2, andso on, until the largest denomination ofnumber 22 is reached. Dap came in all22 denominations, but ko came only indenominations of numbers 8 through 22.One denomination was not a multiple ofother denominations, and no onedenomination was equivalent to a fixednumber of other denominations, con-trary to the U.S. monetary system inwhich 100 pennies equal a dollar. Agood costing a number 10 could not bepurchased with anything but a number10, and not in a multiple of smallerdenominations.

The differences in value betweendenominations were based on the amountof time one denomination would have tobe loaned out before repayment could berequired in another denomination. If a

348 | Rossel Island Monetary System

number 10 was loaned out for a length oftime, the loan had to be repaid in a num-ber 11. A loan of a number 10 for longerlengths of time called for repayment in anumber 12, or a higher denomination,depending on the length of the loan.

Transactions involved a highlyelaborate system of credit. Supposeindividual A sought to purchase a prod-uct priced at number 10 in dap, and thisindividual owned denominations belownumber 10 and above number 10, butnot in number 10. This individualwould borrow a number 10, and wouldrepay the loan in the future with adenomination higher than a number 10,as a means of paying interest. Thisindividual would not mind this arrange-ment, having the opportunity to loanout his own dap denominations andearning interest also. If a number 22 was loaned out, an initial interestpayment was made in a smaller denom-ination, and in the future the loan wasrepaid with another number 22. A spe-cial class of brokers arranged thesenecessary transactions.

The currency units, or shells, of thehigher-valued denominations (number18 and above) were known on an indi-vidual basis by active financial traders.Only seven currency units of denomina-tion number 22 were in existence, allowned by chiefs. The higher values wereconsidered sacred. When a number 18exchanged hands, the parties involvedcrouched down. Numbers 19 to 22 werekept enclosed, always protected from thelight of day.

See also: Yap Money

ReferencesArmstrong, W. E. “Rossel Island Money: A

Unique Monetary System.” The Eco-nomic Journal 34 (1924): 424–429.

Einzig, Paul. 1966. Primitive Money.

ROYAL BANK OFSCOTLAND

The Royal Bank of Scotland, like theBank of England, began when a group ofholders of public debt received a royalcharter to incorporate as a banking insti-tution. Parliament granted the royal char-ter creating Scotland’s second publicbank on May 31, 1727. The Scottish Par-liament had chartered Scotland’s firstpublic bank, the Bank of Scotland, onJuly 17, 1695, before the unification ofScotland and England. In the Rebellionof 1715, the Bank of Scotland hadappeared to stand on the Stuart side, apoint frequently recalled by those whowanted to create a rival bank, the RoyalBank of Scotland. Parliament later char-tered a third Scottish public bank, andalso encouraged the growth of privatebanks. Scotland promoted competitionamong banks to a much greater extentthan England, pioneering the develop-ment of free banking, which flourishedin the United States in the first half of the19th century.

The Royal Bank of Scotland earned aplace in the history of money and bank-ing when it developed the antecedentsof overdraft privileges. In his famousbook, An Inquiry into the Nature andCauses of the Wealth of Nations, per-haps the most famous book on econom-ics, Adam Smith attributed thisimportant banking innovation to thepublic banks of Scotland. Although hedoes not credit a single bank for theinnovation, his description captures thespirit of the innovation in the languageof the day:

They invented, therefore, anothermethod of issuing their promis-sory notes; by granting what they

Royal Bank of Scotland | 349

350 | Russian Currency Crisis

ReferencesCheckland, S. G. 1975. Scottish Banking: A

History, 1695–1973.Davies, Glyn. 1994. The History of Money.MacDonald, Alistair, and Laurence Norman.

“World News: Bank Bailouts, SinkingRevenue Fray U.K.’s Ledger.” Wall StreetJournal (Eastern Edition), February 20,2009, p. A10.

Smith, Adam. 1937. An Inquiry into theNature and Causes of the Wealth ofNations.

RUM CURRENCY

See: Liquor Money

RUSSIAN CURRENCY CRISIS

On August 13, 1998, the Russian stockand bond markets crashed amid wide-spread investor anticipation that theRussian government would devalue theruble and default on its debt. The stockmarket lost 75 percent of its valuebetween January and August 1998(Chiodo and Owyang, 2002). Annualyields on ruble-denominated bondsrose above 200 percent. The expecta-tion of crisis accelerated the crisis. OnAugust 17, the Russian governmentdevalued the ruble, defaulted on itsdebt, and declared a moratorium onpayments to foreign creditors (Chiodoand Owyang, 2002). On September 2,1998, the Russian government let theruble float. By April 1999, the rubletraded at 22 percent of its value com-pared to where it stood before it beganto drop in August 1998 (McKay, April1999).

called cash accounts, that is by giv-ing credit to the extent of a certainsum (two or three thousandpounds, for example) to any indi-vidual who could procure two per-sons of undoubted credit and goodlanded estate to become surety forhim, that whatever money shouldbe advanced to him, within the sumfor which the credit had beengiven, should be paid on demand,together with the legal interest.Credits of this kind are, I believe,commonly granted by banks andbankers in all different parts of theworld. But the easy terms uponwhich the Scottish banking compa-nies accept of repayment, are so faras I know, peculiar to them, andhave, perhaps, been the principalcause, both of the great trade ofthose companies and of the benefitwhich the country has receivedfrom it. (Smith, 1937, pp. 282)

Other authors, such as Glyn Davies,confer the credit for this innovation to theRoyal Bank of Scotland, and cite thisinnovation as the beginning of the flexibleoverdraft. The Royal Bank of Scotland(now called the Royal Bank of Scotland,Limited) remains one of the leading com-mercial banks of Scotland. In 2008, itbecame one of the leading beneficiaries ofthe United Kingdom’s plan to bailoutbanks who had overinvested in toxicassets. In 2009, it became officiallyclassified as a public-sector entity,because the United Kingdom’sgovernment had absorbed such a largeshare of its liabilities (MacDonald andNorman, February 2009).

See also: Bank of Scotland, Scottish BankingAct of 1765

In 1997, the outlook in Russiaremained optimistic. After reportingnegative growth in 1995 and 1996,Russian economic growth inched intopositive territory at 0.8 percent for 1997(Chiodo and Owyang, 2002). Inflationsubsided to the 11 percent range com-pared to over 200 percent inflation in1994 (Chiodo and Owyang, 2002). Oilsold in the $23 per barrel range, a rela-tively high price at the time. Oil andnonferrous metals accounted for up totwo-thirds of Russia’s foreign exchangeearnings. Large foreign exchangeearnings from trade provide resourcesto keep domestic currencies strong inforeign exchange markets. Russia’scredit rating was improving, and by late1997, about 30 percent of short-term

government debt belonged to non-residents (Chiodo and Owyang, 2002).Some problems remained. One vulnera-ble point was the public sector deficit,which remained high because of Russia’s inefficient tax system.

In August 1997, speculative attackssparked currency crises in East Asianeconomies. This episode alerted foreigninvestors to other possible soft spots inthe global financial system. In November1997, the Russian ruble came underspeculative attack, causing the CentralBank of Russia to lose $6 billion inforeign exchange reserves (Chiodo andOwyang, 2002).

The Russian government was count-ing on 2 percent economic growth in1998 to help pay for rising debt. As the

Russian Currency Crisis | 351

A security officer tries to prevent a photographer from taking pictures as a man withdraws cashfrom an automatic teller machine in Moscow on August 14, 1998. As a sign of Russia’s unfoldingeconomic crisis, the bank only allowed customers to withdraw money in rubles, even fromaccounts that were established in U.S. dollars. (AP Photo/Maxim Marmur)

price of oil and nonferrous metal fell inthe wake of the East Asian Crisis,Russia’s economic situation began todeteriorate. Output would actually fallby nearly 5 percent in 1998. In February,the Russian government requested an aidpackage from the International Mone-tary Fund (IMF). It was be July beforethe IMF approved an emergency aid planfor Russia. The IMF demanded certainreforms before approving the plan.

In April 1998, the ruble came underanother speculative attack. On May 19,the Central Bank of Russia increased itslending interest rate from 30 to 50 percent (Chiodo and Owyang,2002). With inflation in the 10 percentrange, these interest rates were unusu-ally high. This action increased theinterest rate paid by ruble-denominatedassets. Raising domestic interest ratestends to shore up the value of a currencyin foreign exchange markets. The cur-rency becomes a ticket to higher inter-est rates. On May 27, 1998, the CentralBank of Russia raised its lending inter-est rate to 150 percent (Chiodo andOwyang, 2002).

Missteps in public relations may haveaggravated the crisis. Early in May, thechair of the Central Bank of Russiawarned government ministers of a debtcrisis. The warning came at a meetingwith reporters in the audience. At aboutthe same time, the prime minister ofRussia stated in an interview that tax rev-enue was 26 percent less than targeted,and that the government was “quite poornow” (Chiodo and Owyang, 2002).When the prime minister refused to meetwith a deputy secretary of treasury of theUnited States, regarding him as not highenough in the government, big investors

became worried, and began selling Russ-ian bonds and stocks.

Russian gross domestic product(GDP) growth recovered, growing 8.3 percent in 2000 and roughly 5 percent in 2001 (Chiodo and Owyang,2002). The year following the crisis,Russia saw consumer prices soar 92.6 percent (Chiodo and Owyang,2002). By 2000 and 2001, consumerprice inflation had subsided to a rangeof 20 to 22 percent. In 2000, a worldescalation of oil and commodity pricesput the government’s budget in the sur-plus column for the first time since theformation of the Federation.

See also: Currency Crises, Foreign Debt Crises

ReferencesChiodo, Abbigail J., and Michael T. Owyang.

“A Case Study of a Currency Crisis: TheRussian Default of 1998.” Review, Fed-eral Reserve Bank of St. Louis, vol. 84,no. 6 (November/December 2002): 7–18.

McKay, Betsy. “Ruble’s Decline EnergizesRussian Firms Who Manage to Win BackConsumers.” Wall Street Journal (EasternEdition, New York) April 23, 1999, p.B7A.

Sesit, Michael R., and Sara Webb. “Ruble’sWoes Could Shake Market Anew.” WallStreet Journal (Eastern Edition, NewYork) July 6, 1998, p. C1.

RUSSIAN PAPER MONEY

See: Yeltsin’s Monetary Reform in Russia

RUSSIAN RUBLE

See: Decimal System, Hyperinflation duringthe Bolshevik Revolution, Russian CurrencyCrisis, Tzarist Russia’s Paper Money

352 | Russian Currency Crisis

353

S

SALT CURRENCY

The word “salary” stems from the Latinword “salarium,” meaning “salt money.”The Romans paid soldiers, officers, andcivil administrators an allowance of salt,and “salarium” came to be a term formilitary pay after salt was no longer usedto pay soldiers.

Marco Polo in The Travels of MarcoPolo, writing at the end of the 13thcentury, tells of Chinese salt money inthe province of Kain-Du. In the words ofPolo:

In this country there are salt springs,from which they manufacture saltby boiling it in small pans. Whenthe water is boiled for an hour, itbecomes a kind of paste, which isformed into cakes of the value oftwo pence each. These, which areflat on the lower, and convex on theupper side, are placed upon hottiles, near a fire, in order to dry andharden. On this latter species ofmoney the stamp of the grand khanis impressed, and it cannot be

prepared by any other than his ownofficers. Eighty of the cakes aremade to pass for a saggio of gold.But when these cakes are carried bytraders amongst the inhabitants ofthe mountains, and other parts littlefrequented, they obtain a saggio ofgold for sixty, fifty, or even forty ofthe salt cakes, in proportion as theyfind the natives less civilized. (Polo,1958, 187)

Ethiopia offers the most recent exam-ple of a society circulating salt as money,a practice that lasted into the 20thcentury in remote areas. As early as the16th century, visiting European explor-ers noted the use of salt as money. Barsof salt money were called “amole,” afterthe Amole tribe that first introduced saltmoney to the Ethiopians. The bars ofrock salt bore a marked resemblance to awhetstone, 10 to 12 inches in length,1.5 inches thick, and black in color, per-haps from handling. They weighed abouta pound. Referring to a millionaire,Ethiopians say “he eateth salt.” Duringthe 19th century, Richard Burton visited

Harar and observed that a slave cost adonkey-load of salt bars.

20th-century reports on the value ofsalt bars varied, some putting theexchange rate of salt bars at less thanseven bars per dollar, and others report-ing as many as 48 bars per dollar. Insome areas, the bars could be broken upfor small change, and Ethiopiansenjoyed a reputation for accurately gaug-ing the amount to break off.

The Ethiopians are known for having astrong attraction to the taste of salt, butthe black bars were not used for con-sumption. White salt of a finer quality metthe needs for seasoning, and the blackbars were reserved for monetary uses.

The use of salt as money gives addedmeaning to the phrase “worth his salt.” Invirtually every quarter of the globe exam-ples can be found of salt circulating asmoney at some point in history. It is oneof those commodities universally indemand. Following the inflationary chaosof the Bolshevik Revolution, salt was themain standard of value, medium ofexchange, and store of value in Moscow.

See also: Commodity Monetary Standard

ReferencesEinzig, Paul. 1966. Primitive Money.Polo, Marco. 1958. The Travels of Marco

Polo.Williams, Jonathan, ed. 1997. Money: A

History.

SAVINGS AND LOANBAILOUT (UNITED

STATES)

In August 1989, Congress enacted theFinancial Institution Reform, Recovery,and Enforcement Act. This legislation

furnished funds to redeem insureddeposits at failed Savings and Loan insti-tutions (S&Ls) and created the Resolu-tion Trust Corporation, an agencyresponsibly for liquidating the assets offailed savings and loans. The bailout wasexpected to cost the federal government$160 billion over a 10-year period andmaybe as much as $500 billion over40 years.

Between 1988 and 1991, over 1,000S&Ls failed, putting out of businessapproximately one-third of all the S&Lsin the United States. The Federal Sav-ings and Loan Insurance Corporation(FSLIC), the agency responsible forinsuring deposits at S&Ls, ran out ofmoney to redeem insured deposits atthese institutions. In effect, the S&L col-lapse bankrupted the FSLIC.

During the 1970s, a period of risinginflation in the United States, S&Lsfaced strict legal limits on the interestrates that depositors could earn on S&Ldeposits. S&Ls paid low interest rates ondeposits and made relatively low interestloans on home mortgages.

During the 1980s, the United Stateseconomy made the transition from aninflation economy to a disinflation econ-omy, and the S&L industry also changedfrom a highly regulated industry to aderegulated industry. The deregulationof the S&Ls lifted the interest rate ceil-ings of S&L deposits, and allowed S&Lsto enter the business of consumer andcommercial loans. Interest rates esca-lated rapidly in the early 1980s under thepressure of a tight, anti-inflation, mone-tary policy, squeezing S&Ls that heldlow interest mortgages while payinghigh interest rates on current deposits.

Savings and loans tried to save them-selves by turning to riskier consumer andcommercial loans that paid higher interest

354 | Savings and Loan Bailout (United States)

rates. When depression struck in the oiland real estate industry in the last half ofthe 1980s, S&Ls began to fail rapidly.

The S&L collapse in the United Statesuncovered an unsuspected weakness indeposit insurance: fully insured deposi-tors had no incentive to favor S&Ls withconservative investment policies overS&Ls with risky investment portfolios.That is, depositors had no incentive tokeep track of investment practices ofindividual S&Ls, allowing them free reinto finance risky business ventures.

In addition to the the Financial Institu-tion Reform, Recovery, and EnforcementAct, Congress later enacted the FederalDeposit Insurance Corporation Improve-ment Act of 1991. The first act placedresponsibility for insuring S&L depositswith the Federal Deposit Insurance Cor-poration (FDIC), the agency that beforehad only insured commercial bankdeposits. The second act provided thatthe FDIC vary the insurance premiumspaid by financial institutions according tothe riskiness of their loan portfolios.Financial institutions carrying high-riskloan portfolios pay higher deposit insur-ance premiums. In 2005 Congressenacted the Federal Deposit InsuranceReform Act of 2005. This act tightenedthe linkage between insurance premiumsand the riskiness of the institution.

See also: Depository Institution Deregulationand Monetary Control Act of 1980,Glass–Steagall Banking Act of 1933, Trou-bled Asset Relief Program

ReferencesBarth, James R. 1991. The Great Savings and

Loan Debacle.Long, Robert Emmet, ed. 1993. Banking

Scandals: The S&Ls and BCCI.United States Government Accountability

Office. “Deposit Insurance: Assessment

of Regulators’ Use of Prompt CorrectiveAction Provisions and FDIC’s NewDeposit Insurance System.” GAO=07-242,A Report to Congress, February 2007.

SCEATTAS

See: English Penny

SCOTTISH BANKING ACT OF 1765

The Scottish Banking Act of 1765 estab-lished the legal foundations that enabledScotland to pioneer the development offree banking, a system of banking thatflourished in the United States before theCivil War. Under a system of free bankingno one bank, usually called a “centralbank,” claims a monopoly on the issuanceof banknotes, as the Federal Reserve Sys-tem enjoys in the United States. Instead,each private bank issues its own bank-notes, and maintains the convertibility ofits notes into gold or silver, or other com-modity, depending on the monetary stan-dard. Under free-banking systems, theprivilege to start a new bank is removedas far as possible from political processes.

The act of 1765 was entitled “An Actto prevent the inconveniences arisingfrom the present method of issuing notesand bills by banks, banking companies,and bankers, in that part of Great Britaincalled Scotland.” The act authorized all“banks, banking companies, andbankers” to issue banknotes, and for acentury, the issuance of banknotesbecame the defining characteristic ofScottish banks. In England, the Bank ofEngland had a monopoly on the privilegeto issue banknotes in London. In Scotland,the Bank of Scotland and the Royal Bank

Scottish Banking Act of 1765 | 355

of Scotland campaigned to give them-selves a monopoly on the issuance ofbanknotes, but the public sided with thesmall banks wanting to maintain the priv-ilege to issue banknotes.

The act forbade the issuance of bank-notes with a face value less than20 shillings (or 1 pound sterling, £1).The smallest note issued by the Bank ofEngland was £5, but small note issueshad circulated widely in Scotland, someas small as 5 shillings, or even 1 shilling.In Scotland, a shortage of small changecreated a vacuum that low-denominationbanknotes filled.

The act of 1765 also forbade the so-called optional clause. In 1730, theBank of Scotland, to protect itself frombank runs, began printing on its notes theoptional clause, stating that the bank couldeither redeem the banknotes on demand,or defer redemption for up to six months.The clause also stated the interest rate thatbanknotes would earn if redemption wasdeferred. The notes only bore interest forthe time redemption was suspended. Toencourage banks to follow safer bankingpolicies, optional clauses were banned.

Scotland’s free banking system did notexactly find smooth sailing. Several banksfailed in 1772, including the Ayr Bank thatAdam Smith described in the Wealth ofNations. Notwithstanding a few bank fail-ures, Smith sang the praises of Scotland’sbanking system, and noted the expansionof Scottish commerce that had coincidedwith the development of banking. Duringthe Napoleonic Wars, Parliament came tothe rescue of the Bank of England andBank of Ireland by ordering the suspen-sion of their banknote convertibility. Thebanks of Scotland, however, maintainedthe convertibility of their banknotes andnever had to throw themselves on the gov-ernment for protection.

See also: Bank of Scotland, Free Banking,Royal Bank of Scotland

ReferencesCheckland, S. G. 1975. Scottish Banking: A

History, 1695–1973.Colwell, Stephen. 1859/1965. The Ways and

Means of Payment.Kroszner, Randy. 1995. Free Banking: The

Scottish Experience as a Model forEmerging Economies.

SECOND BANK OF THEUNITED STATES

The Second Bank of the United Statesmet the need for a central bank in theUnited States between 1816 and 1836.During the War of 1812, state banks sus-pended the conversion of banknotes intospecie (gold and silver coins). At thattime, each bank issued its own papermoney and held specie to redeem itspaper money. Today, banks issue check-ing accounts and hold paper money toredeem the checking accounts. When thebanks suspended specie payments in1814, six months before the war ended,the federal government had no way topressure them to return to convertibility.The Second Bank of the United Statesbore a strong resemblance to the FirstBank of the United States, which hadlost its charter in 1811 because of consti-tutional questions and foreign owner-ship. At the time, many questioned ifCongress had the authority to grant acharter of incorporation, much less sanc-tion a monopoly. The First Bank of theUnited States provided monetary disci-pline by demanding that all banknotesdeposited with it be redeemed in specieby the bank that issued them. As the gov-ernment began to miss the monetary dis-cipline enforced by the First Bank of the

356 | Second Bank of the United States

United States, critics—mainly followersof Jefferson and Madison—began tosoften their constitutional objections andcame to support the creation of the Sec-ond Bank of the United States. Now theJeffersonian Republicans were support-ing such a bank instead of the NewEngland Federalists.

Congress approved the charter for theSecond Bank of the United States early in1816, and President Madison signed thebill on April 10 of that year. The SecondBank was capitalized at $35 million. Thegovernment owned one-fifth of the stockand appointed five of the 25 directors.Shares of stock were sold at a price toattract broadly based ownership. Foreign-owned stock had no voting rights, andlarge shareholders were limited to30 votes. Subscribers could pay as littleas one-fourth in specie and the remainderin government securities.

The Second Bank got off to a wobblystart. In 1818, a House committee investi-gated the bank. It then had $2.4 million inspecie to support $22 million in demandliabilities. The bank was on the verge ofsuspending specie payments itself. Theinvestigating committee discovered thatthe Second Bank had extended loans to itsown stockholders who used stock in thebank as collateral. This practice enabledspeculators to buy stock in the SecondBank by using the bank’s own money.The officers of the bank had speculated inits stock, and the Second Bank had alsobeen slow in demanding specie paymentson notes issued by state banks.

The Second Bank’s poor managementhad consequences for the economic con-traction in 1818. The bank’s effort to bringits own house in order hastened the eco-nomic downturn. The Baltimore branchfailed. It had made bad loans, and itsofficers had speculated in its stock. The

president of the Second Bank resigned, andLangdon Cheves assumed the leadership ofthe bank (1819). His conservative adminis-tration put the bank on firm financial foot-ing. Nicholas Biddle succeeded Cheves in1823. Biddle’s understanding of the role ofa central bank put him ahead of his time.He placed the public responsibilities of thebank above the private interests of its stock-holders. In 1834, a French traveler termedthe Second Bank the “banque centrale.”

The Second Bank forced the statebanks to maintain specie payments fortheir banknotes. To reduce money in cir-culation, the Second Bank accumulatedspecie. The bank increased the money incirculation by making more loans. Thebank’s practices made enemies of statebanks in the West and South, whichresented its regulation of state banknotes.These banks tended to expand the supplyof banknotes in circulation beyond whattheir reserves of specie could be countedon to redeem.

Second Bank of the United States | 357

Nicholas Biddle became president of the Sec-ond Bank of the United States in 1823.(Library of Congress)

The state banks had a powerful ally inPresident Andrew Jackson. Biddle and hisadvisors saw the hostility to the bankgathering momentum. Rather than waitfor the Second Bank’s charter to expire in1836, they asked Congress for a renewalof the charter in 1832. The bill for rechar-tering the bank passed the House and theSenate. President Jackson vetoed the bill.

Critics charged that the bank put toomuch power in the hands of officials whowere neither elected directly by the peoplenor responsible to elected officials. Inaddition, paper money had not yet estab-lished itself in the confidence of the voters.President Jackson himself was a “hardmoney” person. The public saw papermoney as the culprit in depressions. In hisveto message, President Jackson stated:

Equality of talents, of education, orof wealth cannot be produced byhuman institutions . . . but when thelaws undertake to add to these natu-ral and just advantages artificial dis-tinctions . . . to make the rich richer,and the potent more powerful, thehumble members of society—thefarmers, mechanics, and laborers—who have neither the time nor themeans of securing like favors tothemselves, have a right to com-plain of the injustice of their Gov-ernment. (Schlesinger, 1945, 90)

Jackson’s rhetoric may bear the stamp ofthe demagoguery of the frontier politi-cian rather than the best thinking of thetime. Perhaps the best-educated andmost cosmopolitan of all the presidents,Thomas Jefferson, described his opinionof banks in this way:

I have ever been the enemy ofbanks; not of those discounting

cash; but of those foisting theirown paper into circulation, andthus banishing our cash. My zealagainst those institutions was sowarm and open at the establish-ment of the [First] bank of the U.S.that I was derided as a Maniac bythe tribe of bank-mongers, whowere seeking to filch from the pub-lic their swindling and barrengains. (Cappon, 1959, 424)

With the establishment of the FederalReserve System in 1913, the UnitedStates finally came to terms with the ideaof a central bank. By then, the role ofcentral banks in maintaining economicstability was better understood, andbanks were better accepted than theywere in Jefferson’s day.

See also: Bank of England, Bank of France,Central Bank, Federal Reserve System, FirstBank of the United States

ReferencesBrown, Marion A. 1998. The Second Bank of

the United States and Ohio, 1803–1860:A Collision of Interests.

Cappon, Lester, ed. 1959. The Adams-Jefferson Letters.

Meyers, Margaret G. 1970. A FinancialHistory of the United States.

Schlesinger, Arthur M., Jr. 1945. The Age ofJackson.

Timberlake, Richard H. 1978. The Origins ofCentral Banking in the United States.

SECURITIZATION

Securitization occurs when a loan orpool of loans is transferred into a trust,and the trust then issues bonds that arerated by the large ratings agencies andsold in the bond market. The loans mostoften associated with securitization are

358 | Securitization

home mortgages, and the bonds sold bythese trusts are called mortgage-backedsecurities (MBS). The individual mort-gages are secured by homes and propertyof the borrowers. The trust holds thesecollateralized mortgages as collateral forthe bonds that these trusts issue.

Years ago, a potential homebuyerapplied for a mortgage at a bank or finan-cial institution. The financial institutionthat approved and funded the loan keptthe loan on its own balance sheet until the borrower repaid it. Today, that finan-cial institution is called the “originator”of the loan. The originator of the loansells the loan to a third party. Some of the well-known third parties are GinnieMae, a government agency, Fannie Mae,a government-sponsored entity, andFreddie Mac, also a government-sponsored entity. The originator may alsosell the loan to private sector financialinstitutions. The third party pools themortgage with other mortgages and sellsthe payment rights to investors. Theprocess of packaging a bundle of mort-gages and selling the package to investorsis called “securitization.”

A bundle of packaged mortgagesmight take the following form. Supposean originator has negotiated 500 mort-gages averaging $200,000 each. Themortgages are all scheduled for repay-ment over 30 years at a fixed interestrate of 7 percent. This $100 millionbundle of mortgages can act as collat-eral for 10,000 bonds. Each bond isworth $10,000, matures in 30 years, andpays 6.5 percent interest. Each of thesebonds is called a mortgage-backedsecurity (MBS). The interest earned onthe bonds comes from the mortgageinterest payments on a pass throughbasis. Payments made on mortgageprincipals go toward paying down the

principal on the bonds. The mortgagescharge slightly higher interest than thebonds earn because intermediates chargefees for their services.

From an investor point of view, theMBSs issued by Ginnie Mae, FannieMae, or Freddie Mac are safer invest-ments than those sold by private finan-cial institutions, which are more oftenbased on mortgages negotiated with lesscredit worthy borrowers.

Private financial institutions structuresecuritization to meet risk-reward prefer-ences of various investors. In the contextof securitization, subordination meansthat issued bonds carry different bank-ruptcy priorities. In case of mortgagedefault, the subordinated classes ofbonds bear the first losses. A securitiza-tion may involve up to six layers of sub-ordination (Rosen, 2007). The seniorbonds have priority in bankruptcy. Thefirst defaults are allocated to the lowestlayer of subordination. There are twoother methods for controlling risk. Oneis overcollateralization, and the other iswidened interest rate spreads betweenthe bonds and the underlying mortgages.

The packaging and sale of an MBS isnot necessarily the end of the securitiza-tion process. Bundles of MBSs are alsopackaged and sold. Bonds backed bysecuritized bundles of MBSs are calledcollateralized debt obligations (CDOs).CDOs can be backed by MBSs or otherCDOs. Similar to the CDO is the struc-tured investment vehicle (SIV). SIVsissue short-term and medium-term debt,whereas CDOs issue long-term debt.SIVs are also backed by bundles ofassets such as MBSs or CDOs.

In 2008, the process of securitizationcame under scrutiny in the United States.The originators of mortgages had littleincentive to be concerned about the

Securitization | 359

prospects for repayment. The credit ratingagencies, such as Moody’s and Standardand Poor’s, overrated the credit worthinessof MBSs. The mortgage default rate roseto high levels. The price of houses sank,undermining the value of the collateralbacking the MBSs. Investors in MBSs dis-covered themselves holding illiquid assetswithout a measurable market value. Fred-die Mac and Fannie Mae saw their stockcontinue to plummet in 2008 as MBSs lostall credibility. Rather than let two institu-tions key to home financing go under, theUnited States Treasury nationalized Fred-die Mac and Fannie Mae. The boards ofdirectors of the two institutions sold an 80percent stake in each entity to the UnitedStates Treasury for 0.001 cent per share(Jenkins, 2009, p. A13).

See also: U.S. Financial Crisis of 2008–2009

ReferencesJenkins, Holman W. Jr. “Rethinking the Fan

and Fred Takeover.” Wall Street Journal(Eastern Edition) March 4, 2009, p. A13.

Penner, Ethan. “The Future of Securitiza-tion.” Wall Street Journal (Eastern Edi-tion), July 10, 2008, p. A15.

Rosen, Richard J. “The Role of Securitiza-tion in Mortgage Lending.” Chicago FedLetter, The Federal Reserve Bank ofChicago, Essays on Issues no. 244,November 2007.

SEIGNIORAGE

Seigniorage is the profit or revenueraised through coining or printingmoney. The word “seigniorage” stemsfrom the French seigneur, a word for“feudal lord,” referring to feudal manorsthat often exercised the privilege to mintcoins in the Middle Ages. In modernsocieties, the rights of seignioragebelong to government.

Historically, kings, dukes, counts,bishops, or city-states exercised the priv-ilege to coin money. The coinage usuallybore the name, symbol, or portrait of theresponsible ruler who guaranteed theweight and purity of the precious metalcontent. Originally, seigniorage was themint’s share of the coins that were struckfrom precious metals brought to the mintby private citizens. Some authoritiesdefine seigniorage more narrowly as theprofit that mints earn from coinage ofprecious metals supplied by citizens.

Mints operated on the principle thatprivate citizens brought precious metalsto them, and they then tested the metalfor weight and purity. A private citizenthat brought precious metal meetingmint standards either received coins thathad already been struck, or received thecoins struck from the precious metal thathe or she brought to the mint. Mintedcoins were worth more than equivalentamounts of precious metal because theywere much more convenient for transact-ing business, sparing the need to weighand evaluate the precious metal. Today, agold coin such as South Africa’sKrugerrand enjoys a market value exceed-ing the market value of its gold content. Byadding value to the coined metals, a mintcould get by with taking a cut for itself.

Early in European monetary history,governments began minting bullionbrought to mints without deductingseigniorage, minting free of charge.England began the practice of free coinagein 1666. Under England’s system, a citi-zen could bring gold bullion to the mint,wait until the mint turned bullion intocoins, or take the bullion to the Bank ofEngland and receive gold coins immedi-ately at a discount of less than 0.5 percent.

The development of governmentpaper money opened new opportunities

360 | Seigniorage

for seigniorage because the face value ofpaper money far exceeds the value of thepaper as raw material. When the govern-ment prints additional paper money, itmakes the paper money already in circu-lation worth less. Prices rise, in effectimposing a tax on existing moneybalances in the hands of the public.

The dependence on seigniorage rev-enue varies substantially among moderngovernments. The United States govern-ment raises about 3 percent of govern-ment revenue from seigniorage, but Italyand Greece raise over 10 percent ofgovernment revenue from seigniorage.Seigniorage often accounts for 50 percentor more of government revenue incountries caught in a spiral of hyperin-flation. The chief cause of hyperinflationis excessive government dependence onrevenue from seigniorage, rather thanfrom taxes or borrowing.

See also: Great Debasement

ReferencesChown, John F. 1994. A History of Money.Fischer, Stanley. “Seigniorage and the Case

for a National Money.” Journal of PoliticalEconomy, vol. 90 (April 1982): 295–313.

SEIZURE OF THE MINT(ENGLAND)

The Seizure of the Mint refers to anepisode in 1640 in which Charles I,reigning king of England from 1625 to1672, intercepted the flow of coins fromthe mint to the government’s major cred-itors, the goldsmiths and merchants.Minting coins had become such a boom-ing business under Charles I that theTower Mint could not keep up, causingCharles I to open branch mints through-out the kingdom.

Charles I was always in need of money,despite a treaty with Spain that assuredhim of abundant supplies of bullion. Onone occasion, Charles I forced the EastIndia Company to sell him its entirestock of pepper on credit, payable aftertwo years. Charles I bought the pepper ata price of 2 shillings 1 pence per pound,and then turned around and sold it for1 shilling 8 pence per pound, raisinginstant cash in a roundabout credit trans-action that angered the merchants ofLondon. On two occasions, the PrivyCouncil blocked proposals that Charles Iadvanced to increase the mint profits bydebasing the coins, a favorite stratagemof monarchs for squeezing moreresources from subjects. Debasing thecoin meant reducing the precious metalcontent in coins with a given face value.

Seizure of the Mint (England) | 361

The only British monarch to be executed, KingCharles I ruled during the tumultuous EnglishCivil War. (Library of Congress)

The machinery of public finance was abit primitive during the reign of CharlesI. The government’s creditors, mainlygoldsmiths and merchants, claimedfreshly minted coins when they becameavailable. In 1640, Charles I stopped theflow of coins from the mint, planning touses the coins for his own expenditures,and instead promised to pay the crown’screditors 8 percent interest on his out-standing debt. A howl rose from gold-smiths and merchants who wanted theirmoney immediately, causing Charles I torelent and send two-thirds of the coins tothe crown’s debtors. Charles I kept one-third of the coins and promised to pay hiscreditors 8 percent for six months.

Charles I eventually paid the creditorsin full, but only after the merchants andgoldsmiths had lost faith in the govern-ment’s management of monetary affairs.Already there was talk of setting up anational or public bank, and the incidentof the mint seizure convinced influentialpeople that the government could not betrusted with direct power over such abank. The Bank of England came intobeing in 1694 and developed as a privateinstitution that nevertheless enjoyedclose ties with the government.

See also: Bank of England, Stop of theExchequer

ReferencesChallis, C. E., ed. 1992. A New History of the

Royal Mint.Craig, J. 1953. The Mint: A History of the

London Mint from A.D. 287 to 1948.

SHERMAN SILVER ACT OF1890 (UNITED STATES)

The Sherman Silver Act of 1890 nearlydoubled the government’s monthly pur-chase of silver and provided for the

issuance of legal-tender treasury notes inpayment of silver.

The Coinage Act of 1873 made noprovision for the coinage of silver dol-lars, an omission that became an angrypoint of contention as deflation anddepression spread in the late 19th cen-tury and silver interest saw silver pricessteadily decline. A “free silver” move-ment sprang up, calling for unlimitedcoinage of silver. The Bland–Allison Actof 1878 provided for restricted purchaseof silver and coinage of silver dollars,but silver prices continued to fall, andagitation for “free silver” mountedstrength. The Sherman Silver Act of1890 extended the monetization of silverabout as far as possible without embrac-ing “free silver,” and returning to abimetallic gold-silver standard.

The act called for the treasury to pur-chase 4.5 million ounces of silver permonth at market prices as long as themarket prices did not exceed $1.29 perounce, the historic mint price since 1837.The treasury was to pay for the bullion intreasury notes in denominations not lessthan $1 or more than $1,000. Thesetreasury notes were legal tender for alldebts, private and public. The act madethese notes redeemable in either goldcoin or silver coin, depending on the dis-cretion of the treasury. The act onlyrequired the treasury to coin quantities ofsilver bullion as needed to redeem treas-ury notes.

The act authorized the issuance oftreasury notes to save on coinageexpenses. Since the market value of sil-ver fell short of its official price, silverwas preferred over gold in the paymentof government obligations. Silver dollarstended to return to the treasury as fast asthey were issued, notwithstanding thetreasury’s practice of shipping the silvercoins to distant places at no cost.

362 | Sherman Silver Act of 1890 (United States)

Complaints were heard about the storagecosts and inconvenience of the silverdollars. Before the act of 1890, the gov-ernment was issuing treasury notes thatwere not legal tender.

The Sherman Silver Act passed theCongress after a “free silver” bill hadalready passed the Senate. Apparently,one motivation for enacting this legisla-tion was to avoid what gold standarddefenders saw as a worst alternative, afree silver bill.

Since the United States and the coun-tries of Europe were on either a de facto oran official gold standard in the 1890s, goldcoin was preferred over silver coin. Bankstended to ask the treasury to redeem treas-ury notes in gold coin, and the treasuryobliged. The treasury’s gold reservesdwindled, whereas silver reserves grew.Foreigners who had purchased U.S. secu-rities with gold became fearful that thesesecurities would be redeemed in silver, ata rate well below the market value of sil-ver. Foreigners began to sell U.S. securi-ties, taking payment in gold and causing agold outflow to Europe. In 1893, after thegovernment had to sell bonds to raise goldreserves, Congress repealed the Sherman

Silver Act. The treasury stopped purchas-ing silver except for subsidiary coinage,and the flight of capital from the UnitedStates ceased. The Gold Standard Act of1900 officially put the United States on thegold standard.

See also: Bimetallism, Bland–Allison SilverRepurchase Act of 1878, Crime of ‘73,Free Silver Movement, Gold Standard Actof 1900

ReferencesFriedman, Milton. 1992. Monetary Mischief.Hepburn, A. Barton. 1924/1967. A History of

Currency in the United States.Jastram, Roy W. 1981. Silver: The Restless

Metal.Myers, Margaret G. 1970. A Financial His-

tory of the United States.

SHILLINGS

See: Carolingian Reform, Ghost Money

SHINPLASTERS

Shinplasters are small-denominationbanknotes or forms of paper money. The

Shinplasters | 363

A mock banknote parodying the “shinplasters” of the 1837 panic. Such small-denomination noteswere based on the division of the Spanish dollar, the dominant specie (money in coin) of the time.Hence they were issued in sums of 6 (more accurately 6 1/4), 25, 50, and 75 cents. Thesefractional notes proliferated during the Panic of 1837 with the emergency suspension of speciepayments by New York banks on May 10 of that year. (Library of Congress)

364 | Shinplasters

face value of shinplasters is usually lessthan $1. The name probably arose fromsimilarities to plasters used on sore shins.

The term goes back at least to theearly 19th century, when some banknotesin the United States were issued for as lit-tle as 12.5 cents. In 1834, SenatorThomas Hart Benton, a famous “hardcurrency” advocate who referred to him-self by the nickname “Old Bullion,” washeard to say, “What! Do you want a coro-ner’s jury to sit and say, ‘Old Bullion diedof shinplasters?’” (Schlesinger, 1945).

Adam Smith in the Wealth of Nationsdoes not mention shinplasters per se butdevotes a good deal of attention to dis-couraging the issuance of small denomi-nation notes. According to Smith:

Where the issuing of bank notes forsuch very small sums is allowedand commonly practiced, manymean people are both enabled andencouraged to become bankers. Aperson whose promissory note forfive pounds, or even for twentyshillings, would be rejected byeverybody, will get it received with-out scruple when it is issued for sosmall a sum as a sixpence. . . . Itwere better, perhaps, that no banknotes were issued in any part of thekingdom for a smaller sum than fivepounds. Paper money would thenconfine itself . . . to circulationbetween the different dealers[wholesalers]. . . . Where papermoney is . . . confined to circulationbetween dealers and dealers, as atLondon, there is always plenty ofgold and silver. Where it extendsitself to a considerable part of thecirculation between dealers andconsumers, as in Scotland, and stillmore in North America, it banishes

gold and silver almost entirely fromthe country. (Smith, 1952, 139)

In 1829, Great Britain banished bank-notes of less than £5. In the UnitedStates, a treasury circular of April 1835disallowed the acceptance of notes under$5 for payment of federal obligations. InFebruary 1836, the treasury extended theban to notes under $10, and prohibitedbanks holding U.S. government depositsfrom issuing such notes. In April 1836,Congress enacted legislation banningnotes under $20.

In April 1862, the Congress authorizedthe issuance of a paper currency in frac-tional units of a dollar. At first, the cur-rency took the form of postal stampdesigns engraved on notes, but later tookother forms. This fractional currencycould be exchanged for legal-tender notesin amounts up to $5. In 1875, Congressprovided for the replacement of fractionalcurrency with subsidiary coinage.

In 1870, a shortage of silver coins ledthe Dominion Government of Canada toissue paper currencies in denominationsof a fraction of a dollar, familiarlyknown as shinplasters because of theirsmall size. The Canadian governmentdiscontinued the shinplasters in 1935after issuing over 300 different varietiesof shinplasters over the 65-year period.

The fact that history is inflationarymay have put an end to shinplasters. TheUnited States has attempted to replacethe $1 bill with a coin, suggesting thatthe dollar bill is beginning to fall into therange of small change, in the same valuerange as the shinplasters.

See also: Inconvertible Paper Standard, PostageStamps

ReferencesAngus, Ian. 1975. Paper Money.

Chown, John F. 1994. A History of Money.Schlesinger, Arthur M. J. 1945. The Age of

Jackson.Smith, Adam. 1776/1952. An Inquiry into

the Nature and Causes of the Wealth ofNations.

SIEGE MONEY

During a siege, coins and precious metalinvariably go into hiding, in secrethoards, and cities under siege have oftenturned to a form of fiat money, usuallypaper money.

In 1574, the Spanish laid siege to thecity of Leyden in the Lowlands. The cityneeded all the metal it could muster tomanufacture arms, and even collectedthe metallic coinage to contribute to theeffort. The burgomaster of Leydenissued small pieces of paper to take theplace of coinage. These scraps of papermoney predate by nearly a century thepermanent introduction of paper moneyin Europe.

Several cities issued siege notes dur-ing the wars of the French Revolutionand Napoleon. In 1793, the royalists inLyons, France, revolted and took con-trol of the city. The republican forceslaid siege. The royalists printed crudenotes on cardboard with the expression“The Siege of Lyon” (Beresiner, 1977,180) and distributed them as money. Inthe same year, Austria laid siege to theGerman town of Mainz, then underFrench control. The French authoritiesprinted up a paper currency with theexpression, “Siege de Mayence Mai1793 2e de la Rep. France” (Beresiner,1977, 180). In 1796, the city of Mantuain Italy issued a siege currency whenthe city came under siege by Napoleon.Colburg, Prussia, issued siege currency

in 1807, under the pressure of aNapoleonic siege. Also, several Italiancities issued siege currencies during theuprisings of 1848.

In 1884, the British government dis-patched General Charles George Gordonto the Sudan to evacuate Egyptian forcesfrom Khartoum, which was about to beoverrun by Sudanese rebels. Gordonreached Khartoum in February 1884,and a month later the rebels laid siege tothe city. The siege lasted until January26, 1885, when the rebels took the cityand killed the defenders, includingGordon. Gordon’s death after a colorfulcareer and heroic struggle made him amartyr, and the siege of Khartoumbecame one memorable episode in thehistory of the British Empire, the stuff ofHollywood movies.

One of the less well-known aspectsof the siege of Khartoum was theissuance of a siege paper money. On hisarrival, Gordon found the treasury ofKhartoum empty, and within a fewweeks Gordon issued emergency notes.Each note bore Gordon’s signature. Thefirst 50,000 notes he signed by hand,and the rest bore his printed signature.Gordon’s signature accompanied astatement on each note saying that he(Gordon) was “personally responsiblefor the liquidation, and anyone canbring action against me, in my individ-ual capacity, to recover the money”(Beresiner, 1977, 179). The total valueof the notes was approximately 168,500Egyptian pounds. About 2,000 speci-mens of these notes have survived,mostly in the hands of collectors.

The exigencies of sieges have forcedgovernments to experiment with fiatmoney, helping to make way for theascendancy of fiat paper money in the20th century.

Siege Money | 365

See also: Inconvertible Paper Standard, Pon-tiac’s Bark Money

ReferencesBeresiner, Yasha. 1977. Paper Money.Weatherford, Jack. 1997. The History of

Money.

SILVER

Silver and gold were the most aristo-cratic of the monetary metals. Silverowes its chemical symbol, Ag, to itsLatin name, argentum, meaning “whiteand shining.” Ancient artisans found sil-ver malleable, resistant to oxidation, andbeautiful. It is one of the most reflectiveof all metals, under favorable conditionsreflecting about 95 percent of the lightstriking its surface.

The use of silver for ornaments, jew-elry, and a store of wealth stretches intothe mists of ancient history. In the bookof Genesis, Abraham, after returningfrom Egypt, is described as very “rich incattle, in silver, and gold.” The laws ofMoses put a silver value on men, cattle,houses, fields, and provisions. Silverseems to have been in greater use thangold as a monetary metal among theancient Hebrews, but gold possessedgreater religious significance. Hiram,king of Tyre, furnished gold for decora-tion of the Temple of Jerusalem.

The practice of coinage began inLydia in the seventh century BCE andcrossed the Aegean Sea to ancientGreece, a country endowed with rich sil-ver deposits. The Laurion silver minesfurnished Athens with abundant suppliesof silver, and the commercial leadershipof Athens lifted the Attic silver standardto a position of dominance in Mediter-ranean trade. The Roman Empire debasedits silver coinage, but maintained the

purity and weight of its gold coinage.During the Middle Ages, the Byzantineworld maintained its gold standard, butgold virtually disappeared from Europe.Silver remained an important monetarymetal in India and the Far East. Giventhe disappearance of gold, the Carolin-gian reform of 755 CE put Europe on asilver standard that lasted until the end ofthe Middle Ages. Nevertheless, silvercoinage was rare and often severelydebased.

Gold coinage returned to Europe inthe 13th century, but silver remained animportant monetary metal. Great Britainmoved firmly toward the gold standardonly in the 18th century. On the Conti-nent, silver rivaled gold as a monetarymetal until late in the 19th century.

The discovery of the New Worldinfused vast supplies of silver through-out the world-trading system. It is notcommonly appreciated that 98 percent ofall the precious metal taken out of theNew World was silver. Silver was afavored metal in India and the Far East,and some silver was shipped directlyfrom Latin America to China. The Span-ish silver dollar became a worldwidemedium of exchange, remaining legaltender in the United States until the1850s.

In the 19th century, Europe and theUnited States began moving away fromsilver as a monetary standard, althoughsilver continued in use as subsidiarycoinage. The subsidiary coinage alwayskept the silver content sufficiently low todiscourage melting down coins forprofit. In China and India, the silver stan-dard survived into the 20th century.

Although gold became the preemi-nent precious monetary metal during the19th and 20th centuries, silver may havean even longer and more varied history

366 | Silver

as money. Silver was light enough to becarried in ships, although overland trans-portation favored gold, which waslighter per unit of value. Silver, however,was next to gold in value per unit ofweight. Gold was too precious for manyordinary transactions, but silver, betweengold and copper in value, was lightenough to be carried around in valuesuseful for ordinary transactions. In addi-tion, silver deposits, unlike gold, werescattered all over the earth, making silververy accessible.

See also: Chinese Silver Standard, Free SilverMovement, Indian Silver Standard, The Wiz-ard of Oz

ReferencesBraudel, Fernand. 1981. Civilization and

Capitalism. Vol. 1.Flynn, Dennis O. 1996. World Silver and

Monetary History in the 16th and 17thCenturies.

Jastram, Roy W. 1981. Silver: The RestlessMetal.

Williams, Jonathan, ed. 1997. Money: AHistory.

SILVER CERTIFICATES

See: Free Silver Movement, Silver PurchaseAct of 1934

SILVER PLATE

The silver plate that adorned the dinnertables of European nobility was treatedas monetary reserves and frequentlyplayed that role. To help pay for theSeven Years War (1756–1763) Frederickthe Great of Prussia requisitioned the sil-ver plate from the royal palaces. He sentit to the melting pots at the mint, andminted it into 600,000 thalers at a rate of

21 thalers per Cologne mark of fine sil-ver, rather than the usual 14 thalers. KingLouis XIV of France also sent the royalplate to the mint to pay his troops.

In 1536, Henry VIII sent 20,878pounds sterling of plate to the mint tofurnish money urgently needed to paytroops. Later, in the last of the Frenchwars, Henry VIII disgorged another10,020 pound sterling of plate forcoinage, again furnishing money to wagewar. Henry also confiscated vastamounts of ecclesiastical plate and sentit to the mint.

Those further down the social scaleused plate to pay benevolences, subsi-dies, and tithes levied against them, andthe mint could convert a quantity of plateinto a coinage equivalent. Nobles need-ing funds to finance political intriguesent plate to the mint. Plate was the clos-est thing to a near-money owned byEnglish households in the 16th and 17thcenturies, and at times the mint offered apremium to attract more silver plate tobe coined. The government also legallymandated a higher standard of finenessfor plate than for coinage, trying to pre-vent coinage from being melted downand fashioned into plate. That silverplate was associated with monetaryaffairs is revealed in a proclamation ofthe English king, Charles II, in 1661. Itdeclared: “The nation had flourished formany hundred of years, famous for herconstant silver standard and renownedfor her plenteous stock of monies andmagnificence of plate” (Einzig, 1966,368 footnote).

One common denominator in manytypes of money, whether it is humanheads in Sumatra, or manillas in Africa,is that the money has ornamental value.Even coinage is sometimes convertedinto ornaments. The Argentine gauchos

Silver Plate | 367

made leather belts a foot wide and stud-ded with large silver coins from Peru.Although articles that serve the dual pur-pose of money and ornament are mostcommon in primitive societies, silverplate in the stately homes of Englandwas a vestige of ornamental money.

See also: Dissolution of Monasteries, PoundSterling, Silver

ReferencesChallis, C. E. 1978. The Tudor Coinage.Cripps, Wilfred Joseph. 1878/1967. Old

English Plate.Einzig, Paul. 1966. Primitive Money.

SILVER PURCHASE ACT OF1934 (UNITED STATES)

Under the Silver Purchase Act of 1934,the federal government purchased largequantities of silver and issued silver cer-tificates, significantly adding to the U.S.monetary base. The act marked arenewed emphasis on silver as monetarymetal, reversing a trend to demonetizesilver, which had been evident since thelate 19th century.

The deflation of the 1930s created fer-tile conditions for another silver move-ment, an echo of the 19th-century freesilver movement. The monetization ofsilver appeared as a means of increasingthe money stock and reinflating priceswhile remaining committed to preciousmetal money rather than fiat papermoney. After the depression-driven tum-ble in prices of all commodities, pre-cious metal monetary standards of anystripe held little charm for governments.The silver-producing interests, however,still had sufficient political clout toadvance silver as a partial answer to thewoes of economic depression.

The Agricultural Adjustment Act of1932 (AAA) had an amendmentattached, the Thomas amendment,authorizing the president to return thecountry to a bimetallic standard thatwould define the dollar in both a goldequivalent and a silver equivalent, andprovide for the unlimited coinage of goldand silver. The United States had beenon a bimetallic standard from 1792 until1873, and then populist political leadershad taken up the banner of the free silvermovement, advancing the idea of re-enfranchising silver as a monetary metal.By the turn of the century, gold seemedto have won a clear victory over silver asa competing monetary standard, but theGreat Depression of the 1930s inter-vened to dethrone the much-vaulted goldstandard.

After the adoption of the Thomasamendment, the United States aban-doned the gold standard, and PresidentRoosevelt showed no indication that heplanned to exercise his authority underthe Thomas amendment. Silverites inCongress, those favoring a return to abimetallic standard based on gold andsilver, pressed ahead with new legislativeproposals, and Roosevelt finally compro-mised, sending a message to Congressthat led to enactment of the Silver Pur-chase Act of 1934.

The act authorized the government topurchase silver until either the monetaryvalue of the U.S. silver stock equaledone-third of the value of its monetarygold, or the market price of silverclimbed to the monetary value of $1.29per ounce. Under the act, the governmentpurchased silver at market prices andmade payment in silver coins and silvercertificates, a form of paper money simi-lar to Federal Reserve Notes. Soon afterthe passage of the act, the government

368 | Silver Purchase Act of 1934 (United States)

nationalized domestic silver stocks at$0.50 per ounce. By 1938, the govern-ment had acquired 40,000 tons of silver,an amount that raised the issue of stor-age. The grounds of the West Point mili-tary academy became the home of adepository that held the silver until indus-try found a need for it in the 1960s.

The Silver Repurchase Agreementraised the world price of silver, and silverproduction increased in the UnitedStates. Rising silver prices put a hardshipon the handful of countries still on a sil-ver standard because it made the exportsof these countries more expensive to therest of the world, forcing these countriesto undergo domestic deflation to remaincompetitive worldwide. China aban-doned the silver standard in November1935, and Mexico began exchanging itssilver coins for paper. In 1936 and 1937,the United States government let theprice of silver fall, but the trend towarddemonetization of silver in silver stan-dard countries had already establishedmomentum. Because of its depression-inducing effects on silver-standard coun-tries, the act of 1934 actually reduced themonetary demand for silver abroad, can-celing long-term benefits to the U.S. sil-ver industry. In the United States, themonetization of silver had no inflationaryeffects because the government retiredFederal Reserve Notes to compensate forthe infusion of silver certificates.

In the 1960s, the industrial demandfor silver accelerated, lifting silver pricesabove the official price of $1.29 perounce. The government began selling offits silver stocks. In 1963, Congressrepealed the Silver Purchase Act of 1934and authorized the issuance of FederalReserve Notes in denominations of $1and $2, enabling the government to retiresilver certificates. The Coinage Act of

1965 allowed the government to substan-tially cut the silver content of its silvercoinage, and thus further curtail its silverpurchases. The final chapter on thedemonetization of silver in the UnitedStates closed on June 24, 1968, when theright to redeem silver certificatesexpired.

See also: Bimetallism, Hyperinflation in China,Free Silver Movement, Sherman Silver Actof 1890, Silver

ReferencesFriedman, Milton. 1992. Monetary Mischief.Jastram, Roy W. 1981. Silver: The Restless

Metal.Rickenbacker, William F. 1966. Wooden

Nickels: Or the Decline and Fall of SilverCoins.

SLAVE CURRENCY

Slaves often served as a form of wealthin primitive societies, making slaves asuitable medium of exchange, particu-larly for large transactions. In the mod-ern era, Africa provides the mostevidence of the use of slaves as money.In the 19th century, a slave was the unitof account in the Sudan. A standard unitwas defined as a slave that met certainmeasurements. The value of a slave wasequivalent to 30 cotton pieces, 6 oxen, or$10. In the Bagirmi country of equatorialAfrica, a slave of medium qualities,defined as a standard slave, served as astandard of value for large transactions.The prices of better slaves were somemultiple of the standard slave. Wealthtook the form of “heads,” and a success-ful slave raid depreciated the value of thestandard, causing the prices of com-modities expressed in slaves to rise. InGhana, slave payments were made for

Slave Currency | 369

370 | Slave Currency of Ancient Ireland

a unit of account of one slave girl lastedwell into the Christian era, long after thepractice of trading human beings forgoods had ended. People in western areasof New Guinea priced calico and othertraded goods in terms of slaves.

The use of slave money probablybegan when warriors took more captivesin war than they could personally use,and therefore they traded these captivesfor goods. From this small beginning,the practice of trading human beingsevolved into the use of slaves as a type ofmoney.

See also: Slave Currency of Ancient Ireland

ReferencesEinzig, Paul. 1966. Primitive Money.Weatherford, Jack. 1997. The History of

Money.

SLAVE CURRENCY OFANCIENT IRELAND

Although ownership of slaves repre-sented wealth in slave-holding societies,and slaves were popular subjects forbarter, ancient Ireland made slave girls,called “kumals” or “ancillae,” a unit ofaccount for measuring the values ofgoods and services. A legendary king inancient Irish literature owned a chess-board, and each chess piece was said toequal 6 kumals in value. Queen Maeve, afigure in an epic poem dating frombefore the Christian era, boasted of achariot worth thrice seven bondsmaids.During the fifth century in Ireland, St. Patrick wrote in his Confessions:“You know how much I have paid out tothose who were judges in all the regions,which I have often visited; for I thinkthat I have given away to them not lessthan the price of fifteen humans”

large transactions, and slaves served as astandard of value. In Guinea, slaves werethe favored unit of account in large trans-actions, and kings charged Europeanships port dues ranging from 7 to 12 slaves, depending on the number ofmasts on each ship. In Nigeria, slaves rana close second to cowries as the primeunit of currency. A report in the late 19thcentury said of the slave: “He has been thecheque book of the country and has beennecessary for all large payments. Unfortu-nately he has a trick of dying while pass-ing from hand to hand” (Einzig, 1966).

The standard of value was defined interms of a slave of a certain age, and in thecourse of a transaction, each slave wasvalued in terms of this standard slave. InNigeria, slaves were the choice mediumof exchange for large transactions, andrich men amassed wealth in slaves. In theCongo, slaves passed in payment forgoods, and met the need for a standard ofvalue. The people of this area practicedcannibalism, and the value of a slavecould not drop below the value of thepounds of meat that could be gotten fromthe slave if the owner ate his money. In17th-century Angola, a 20-year-old slavewas a standard unit of value.

Some authors pin the blame forAfrican slavery on the absence of a con-venient currency. Slaves were mobile andoften carried other forms of primitivemoney that was bulky and difficult totransport. Merchants brought slavescarrying other currencies on trading expe-ditions, and exchanged the slaves alongwith the other currencies for merchandisewhen the opportunity arose.

In early Cambodia, slaves ranked withcattle, buffaloes, horses, pigs, and ele-phants as an acceptable means of payingfines. In early England, values were occa-sionally estimated in slaves, and in Ireland,

(Einzig, 1966). The wording suggeststhat St. Patrick did not pay in slaves, butwas using slaves as a standard of valuefor reckoning what he did pay. St.Patrick would not have used slaves as ameans of payment. Under his guidance,the Hiberian Synod decreed that retribu-tion for the murder of a bishop or highprince demanded either crucifixion orpayment of seven ancillae. The decreealso required that if blood money waspaid in specie, one-third must be in sil-ver, a clear indication that ancillae wereonly a unit of account, and not a tangiblemeans of payment.

It was probably during the secondcentury that the kumal transformed intoan abstract unit of account. The lawsunder King Fegus, king of Uldah,required a blood money payment of“seven kumals of silver” and “sevenkumals of land” for the murder of any-one under the king’s protection. Theselaws clearly show that land and silverwere mediums of exchange, and kumalswere only a unit of account. These lawswere set forth in two legal texts, theSenchus Mor and the Book of Aicill, bothof which contained a table legally sanc-tioning the kumal standard:

8 wheat-grains = 1 pinginn of silver

3 pinginns = 1 screpall

3 screpalls = 1 sheep

4 sheep = 1 heifer

6 heifers = 1 cow

3 cows = 1 kumal

The example of slave-girl money inIreland brings to the forefront four sepa-rate functions of money. Money servesas a medium of exchange, a store ofwealth, a unit of account or measure ofvalue, and a standard of deferred payment.

The slave-girl money evolved into a unitof account only, whereas the other rolesof money were filled by various com-modities, land, and precious metals.

The origin of the social acceptance ofthe use of kumals as a medium ofexchange may have stemmed from theprestige conferred by slave ownership.Also, slaves may have been regarded asthe rightful spoils of war, and warriorscapturing more slaves than they couldemploy were free to trade them for land,livestock, and goods and services thatthey needed. Perhaps the spread ofChristianity in Ireland and the concept ofChristian love helped liberate Irelandfrom the base practice of actuallyexchanging human beings in trade, mak-ing kumals less acceptable as a mediumof exchange, but still sanctioned by tra-dition as a unit of account.

See also: Slave Currency

ReferencesEinzig, Paul. 1966. Primitive Money.Nolan, Patrick. 1926. A Monetary History of

Ireland.Powell, T. G. E. 1985. The Celts, rev. ed.

SNAKE

The so-called snake was a coordinatedpolicy among European Community(EC) countries to constrict exchange ratevariations between member countries to anarrower band than allowed by the Inter-national Monetary Fund (IMF). It wasthe first stage toward the monetaryunification of Europe, a goal that becamea reality on January 1, 1999, with theintroduction of a European currency unit,the euro. The snake system began inMarch 1972 and remained in operationuntil January 1979 when the European

Snake | 371

Monetary System (EMS) replaced theEconomic and Monetary Union (EMU).The EMS and its predecessor, the EMU,were agreements of cooperation in mone-tary affairs between members of the EC.The EMS took a further step toward mon-etary unification with the introduction ofthe European Currency Unit (ECU).

Early in the 1970s, the IMF allowedthe currencies of member countries tovary within a range of 2.25 percentabove or below parity with the dollar, or4.5 percent overall. The members of theEMU committed themselves to keepingthe variation between European curren-cies to within 2.25 percent of each other,and fluctuations in the aggregate ofEuropean currencies was kept with the4.5 percent band of parity with the dol-lar. The European currencies becameknown as the “snake in the tunnel”because these currencies moved up anddown together relative to other curren-cies. When the Belgium-Luxembourgmonetary union kept its own currencyfluctuations within a tighter range, thenthe “snake in the tunnel” began to reveala “worm in the snake.” When the fixed-exchange-rate regime broke down in1973, and the dollar floated freely, theEuropean “snake in the tunnel” becamethe “snake in the lake.”

The snake terminology survived inthe EMS, in which a measure ofexchange-rate divergence from otherEuropean currencies was treated as awarning sign or signal that interventionmay be necessary. This warning sign wascalled the “rattlesnake.”

The snake was intended to keep ECcurrencies fluctuating in step with eachother, a preliminary measure to the com-plete monetary unification of Europe.The transition to a European currencyunit, the euro, managed by the European

Central Bank, removed the need for thissort of coordination, as the euro replacedthe German mark, French franc, and sev-eral other European currencies.

See also: Euro Currency, European CurrencyUnit, Optimal Currency Area

ReferencesKenen, Peter B. 1995. Economic and Mone-

tary Union in Europe.Padoa-Schioppa, Tommaso. 1994. The Road

to Monetary Union in Europe.

SOCIAL DIVIDENDMONEY OF MARYLAND

More than half of the first paper moneyissued by the colony of Maryland flowedinto the economy as a social dividend,equivalent to a gift to each inhabitantover 15 years of age. Historically, themajor sources of paper money have beenbanks that issued it on the strength ofpromissory notes, and governments thatissued it to finance government expendi-tures. Often governments have issuedpaper money during wartime whendemands on government spending areparticularly heavy. Maryland’s firstexperiment with paper money wasunique for that era because its colonialgovernment issued paper money solelyfor the purpose of stimulating the privateeconomy, without feeling pressure tofinance a portion of the public sector’sbudget.

Like other American colonies,Maryland struggled against a shortage ofcurrency that kept the colonial economyon a tight leash, limiting trade to whatcould be transacted with a limited moneysupply. Great Britain made no specialprovision to supply the colonies withcoins and currency, and the colonies had

372 | Social Dividend Money of Maryland

to get by with what could be earned fromtrade with the rest of the world. To infuseadditional coin into the local economy,the Maryland legislature in 1729 granteda 15-percent reduction in import andexport duties if they were paid withimported gold or silver.

Maryland shared with Virginia analmost exclusive dependence on tobacco,either to pay for foreign trade or as theprinciple medium of exchange in the localeconomy. In the 18th century, however,tobacco production outpaced demandand the price of tobacco on the worldmarket steadily declined, accounting forthe depression in Maryland’s economy.Maryland’s first proposal for issuingpaper money was part of a scheme forlimiting tobacco production in an effort toraise the price of tobacco. In 1731, theMaryland legislature enacted a law thatprovided for the issuance of £30,000 ofpaper money to pay for tobacco thatwould be taken out of production. Foreach 6,000 tobacco plants standing duringthe month of July, the owner was to burnand destroy 150 pounds of tobacco. Inreturn for each 150 pounds of tobaccodestroyed, the owner received from thecolonial government 15 shillings in papercurrency. For some reason, this plan wasnever implemented, and the paper moneynever issued.

The Currency Law of 1733 providedfor the social dividend money issue. Itauthorized the issuance of £90,000,£48,000 of which were to be distributedas a “bounty of thirty shillings per tax-able.” That included all citizens over15 years of age excepting ministers ofthe Church of England, imported maleservants, and slaves. The governmentissued the remaining £42,000 as loanspaying 4 percent interest and secured byreal estate appraised at twice the value of

the loans. The government levied a tax of1 shilling and 3 pence per hogshead oftobacco exported from Maryland. Theproceeds of this tax paid for investmentin Bank of England stock, creating afund for redeeming the paper money,beginning at the end of 15 years. Within30 years, the government planned toretire all the paper money.

The paper money issue helped financean economic expansion in Maryland.The paper money depreciated in valuemoderately until 1748 when the govern-ment retired the first £30,000. After1748, the value of the paper moneystabilized. The colonial governmentredeemed in shillings the entire issue ofthe paper money at face value, makingMaryland’s paper money experience themost successful in the Americancolonies.

See also: Land Bank System, MassachusettsBay Colony Paper Issue

ReferencesBrock, Leslie V. 1975. The Currency of the

American Colonies, 1700–1764.Lester, Richard A. 1939/1970. Monetary

Experiments.

SPANISH INCONVERTIBLEPAPER STANDARD

Spain stood aloof from the classical goldstandard that brought monetary order tothe world from the 1870s until 1914. In1883, Spain abandoned convertibility ofbanknotes into precious metal and neverreturned to a metallic standard, even inthe aftermath of World War I, when mostof the world’s trading partners adopted agold exchange standard.

In 1868, Spain adopted a bimetallicstandard along the lines of the Latin

Spanish Inconvertible Paper Standard | 373

Monetary Union. Like the Union, Spainfixed the official ratio of silver to gold at15.5 to 1. In 1874, the government con-ferred on the Bank of Spain a monopolyon the issuance of banknotes. The valueof silver fell as the world turned to thegold standard, raising the free marketratio of silver to gold to 18 to 1 by 1876.Gresham’s law set to work in Spain.Because gold could buy more silverabroad than in Spain, gold flowed outand silver displaced gold as domesticcurrency. Gold currency decreased from1,131 million pesetas (the monetary unitof Spain) in 1874 to 736 million in 1883.Gold reserves in the Bank of Spainincreased substantially until 1881, andthen dropped precipitously in 1883.

The suspension of convertibility in1883 may have been triggered by aninternational financial crisis, including astock market crash in France and a dete-riorating balance of trade for Spain.When Spain’s gold reserves dropped to60 percent of their 1881 level, the gov-ernment suspended convertibility.

Despite abandonment of the gold stan-dard, Spain’s prices remained relativelystable, mildly deflationary during theworld depression of the 1880s and early1890s, and rising gently in the twodecades before World War I. From1883 until 1913, the Spanish wholesaleprice index (1913 = 100) rose from 89.5 to100, an annual average increase substan-tially below 1 percent. The exchange rateof pesetas to British pounds rose signifi-cantly during the Spanish-American War,when the government ran large budgetdeficits, but returned to presuspension lev-els by the eve of World War I. Over thesame time span, the money supply grew atan average annual rate of 2 percent.

Spain eluded the severe monetarydisorder many countries witnessed

during experiments with inconvertiblepaper money. During the heyday of theclassical gold standard, Spain main-tained monetary stability with incon-vertible paper, providing lessons that arerelevant today. Despite inconvertiblepaper money, Spain’s governmentengaged in only modest deficit spend-ing, excepting the brief episode of theSpanish-American War. Spain invari-ably ran a trade surplus, exporting moregoods and services than importing, andthe Bank of Spain accumulated goldreserves, leading speculators to expect areturn to convertibility. Spain’s experi-ence proved that monetary stabilitycould be maintained without the much-vaunted gold standard.

Nevertheless, Spain paid a toll for notadopting the gold standard. The Bank ofSpain kept interest rates in Spain aboveinternational levels, a necessary expedi-ent to attract capital from countries con-sidered safer because of the goldstandard. Even with high interest rates,Spain saw a reduction in foreign capitalinflows. The higher interest rates alsoacted to retard domestic investment inSpain, further reducing indigenous eco-nomic growth.

Spain’s experience from 1883 to 1914was unique because it occurred when thegold standard was heralded as theguardian of monetary stability. Duringthe 20th century, Spain has shared manyof the difficulties of other countries oninconvertible paper standards. In the1970s, Spain’s economy sank into thedoldrums of stagflation, largely becausethe Bank of Spain issued banknotes tofinance government deficits. In the1980s, Spain reformed its public financeand monetary policy, and now Spainenjoys one of the best records for mone-tary stability in Europe.

374 | Spanish Inconvertible Paper Standard

See also: Gold Standard, Inconvertible PaperStandard, Latin Monetary Union

ReferencesBordo, Michael D., and Forrest Capie, ed.

1993. Monetary Regimes in Transition.Martin-Acena, P. “The Spanish Money Supply,

1874–1935.” Journal of European Eco-nomic History, vol. 19, no. 1 (1990): 7–33.

SPANISH INFLATION OFTHE 17TH CENTURY

The 17th century, almost from beginningto end, saw Spain debase its silvercoinage with copper and mint vast quan-tities of copper coins, causing inflationand shortages, punctuated with fits ofdeflationary policies and solemn prom-ises of currency reform. Ironically, Spainstruggled for nearly a century withdebasement and inflation after exploitingvast gold and silver discoveries duringthe 16th century. The percent of Spain’sdomestic coinage made of copper rose to92 percent, hardly believable in light ofthe influx of gold and silver from theNew World in the 16th century.

At the beginning of the 17th century,Spain’s government budget was bloatedafter years of financing wars and theroyal pomp necessary for a great worldpower. Spain’s revenues from gold andsilver mines in the New World begantrailing off, and the Spanish crownturned to minting copper coins to pay forheavy government expenditures. Spain’sdependence on foreign treasure had per-haps already sapped vitality fromdomestic industries, rendering inflation-ary policies tempting in an economy thatcould not generate sufficient tax revenueto finance its government.

During the first quarter of the 17th century, the government’s unbridled

coinage of copper coins spawned a waveof inflation that drew public protest. Theface value far exceeded the intrinsicvalue of copper coins, and the crown wasreaping the difference as a profit forminting the coins. By 1627, widespreadinflation aggravated public anger overwheat and livestock shortages, pressuringthe government to switch to a deflation-ary monetary policy. The nominal valuesof the copper coins were cut in half with-out compensating the holders of thedevalued copper coins. The governmentbegan a practice of making solemn prom-ises not to tamper with the currency—promises only meant to be broken.

In 1634, the government resumed apolicy of inflationary finance. To savethe expense of supplying copper tothe mints, the government restamped theexisting copper coins, raising the facevalue. Coins were called in several timesand restamped, often doubling or triplingnominal values. Between 1627 and1641, copper coins were inflated threetimes and deflated four times. In 1641,inflation reached a peak, and silver wasselling at a premium of 190 percent. In1642, the government undertook a brutaldeflationary devaluation, reducing theface value of copper coins by 70 to80 percent.

In 1651, the government, again shortof money for military outlays, called incopper coins of one denomination andrestamped them, quadrupling their facevalues. In 1652, the government returnedto a deflationary monetary policy anddevalued copper coins. This time thegovernment compensated holders ofdevalued copper coins with interest-bearing bonds.

Counterfeiting contributed signifi-cantly to the depreciation of copper cur-rency. After 1660, counterfeiting was

Spanish Inflation of the 17th Century | 375

punishable with the death penalty, andburning at the stake awaited those partic-ipating in the importation of counterfeitcoins.

Monetary disorder reached a climaticcrisis in 1680 with silver selling at apremium of 275 percent. The govern-ment issued a decree devaluing coppercurrency by half, equivalent to one-fourth its 1664 value. Prices plummeted45 percent in a few months, forcing aharsh readjustment. The governmentbegan reducing the supply of coppercoins, and had ceased minting copperby 1693. Monetary stability returned toSpain and lasted throughout the firsthalf of the 18th century.

Nearly a century of monetary disorderravaged the Spanish economy. Thewoolen industry in Toledo and the num-ber of cargo ships sailing between Spainand the Indies shrank by three-fourths,and some industrialized areas lost halftheir populations. Monetary chaos stifledprivate initiative, contributing to Spain’seconomic deterioration.

See also: Copper, Great Debasement, Inflationand Deflation

ReferencesHamilton, Earl J. 1947. War and Prices in

Spain: 1651–1800.Paarlberg, Don. 1993. An Analysis and His-

tory of Inflation.Vives, Jaime Vicens. 1969. An Economic

History of Spain.

SPARTAN IRONCURRENCY

In about 600 BCE, Lycurgus, the famousSpartan lawgiver, put into Sparta’s con-stitution a provision that banned the cir-culation and possession of gold, silver,

or other precious metals as a means oftransacting business and replaced theseforms of money with an iron currency,variously reported as being in the formof discs or bars. This provision was partof a plan of social reform intended tospare Sparta the evil consequences ofwealth concentrated in the hands of afew citizens. According to Plutarch,Lycurgus, after effecting a land reformthat spread out the ownership of thatwealth, set to work reforming thecurrency. In Plutarch’s Lives of NobleGrecians and Romans (1952), we readthat Lycurgus:

Not content with this [landreform], he resolved to make adivision of their moveables too,that there might be no odious dis-tinction or inequality left amongstthem; but finding that it would bevery dangerous to go about itopenly, he took another course, anddefeated their avarice by the fol-lowing stratagem: he commandedthat all gold and silver coin shouldbe called in, and only a sort ofmoney made of iron should be cur-rent, a great weight and quantity ofwhich was very little worth; so thatto lay up twenty or thirty poundsthere was required a pretty largecloset, and, to remove it, nothingless than a yoke of oxen. With thediffusion of this money, at once anumber of vices were banishedfrom Lacedaemon; for who wouldrob another of such a coin? Whowould unjustly detain or take byforce, or accept as a bribe, a thingthat it was not easy to hide, nor acredit to have, or of any use to cutin pieces? For when it was just redhot, they quenched it in vinegar,

376 | Spartan Iron Currency

and by that means spoilt it, andmade it almost incapable of beingworked. (36)

Part of the motivation for the reforma-tion of Sparta’s currency may have beenthe discouragement of trade with for-eigners, because there is no record ofexchange rates between Sparta’s ironcurrency and the coinage of other citiesof the same era. It is unlikely, but possi-ble, that Sparta was attempting to com-pensate for a shortage of domesticsupplies of gold and silver, possessingno gold or silver mines of its own. Soci-eties sometimes develop substitutemonies when the growth of commercialactivity is restricted by a shortage ofmoney. The whole tenor of these reforms,however, seems to have been intended tolimit the growth of commercial activityrather than promote it.

Lycurgus’ reforms sound a familiarrefrain in the ancient literature onmoney, variations of the Biblical warn-ing that “the love of money is the rootof all evil.” The use of money firstspread in the seaport cities, such asAthens, where traders and sailors of allreligions and creeds met at the cross-roads of international trade. Exposureto foreign creeds, morals, and traditionsoften weakened the hold of domesticreligions on the citizens of the seaporttowns. Traders from all over the world,away from home, pockets full ofmoney, made a ready market for allsorts of vices that thrived in these cities.The inland cities such as Sparta,dependent on agriculture rather thanforeign trade, sought to protect them-selves from the moral chaos that theysaw as a direct result of the introductionof money and the massive inequality ofwealth in the seaport cities.

History, however, was on the side ofthe societies that made use of money,and Sparta nearly disappeared as Athensgrew to a world-class city.

See also: Barter

ReferencesBurns A. R. 1927/1965. Money and Mone-

tary Policy in Early Times.Einzig, Paul. 1966. Primitive Money.Plutarch. 1952. Lives of Noble Grecians and

Romans.

SPECIAL DRAWINGRIGHTS

Special drawing rights (SDRs) are aform of fiat international monetaryreserves that substitute for gold asmonetary reserves in the internationaleconomy. The SDR also serves as aninternational monetary unit of account inthe accounts of the InternationalMonetary Fund (IMF).

SDRs were born of a shortage ofinternational gold reserves that arose inthe 1960s. Participants at the annualmeeting of the IMF in 1967 at Rio deJaneiro drafted an agreement to issueSDRs. Member countries ratified theagreement in 1969, and the first alloca-tions of SDRs came forth in 1970. Eachcountry received allocations of SDRsproportional to its quota of funds con-tributed to the IMF. The IMF receives itslending resources from the contributionsof member countries, which are assignedindividual quotas based on such factorsas national income and volume of inter-national trade.

Physically, SDRs are bookkeepingentries in accounts with the IMF. Knownin some circles as paper gold, SDRs canbe created with the stroke of a pen. At

Special Drawing Rights | 377

first, the value of SDRs were fixed interms of gold. In mid-1974, the gold val-uation of SDRs was dropped in favor ofa system that defined SDRs in terms of a“basket” of major international curren-cies. In 1981, the basket was simplifiedto five currencies, the United Statesdollar, German mark, French franc,Japanese yen, and British pound. Thevalue of an SDR is based on a weightedaverage of the values of major interna-tional currencies. Every five years, theIMF adjusts the weights, which deter-mines the significance of each currencythat enters into the value of an SDR. TheIMF last adjusted the weights in 1995.

Individual countries may draw onSDR accounts to settle internationalpayments that could normally be settledwith gold reserves or foreign exchangereserves. SDRs do not play a role in pri-vate international transactions, but, byinternational agreement, are accepted inintergovernmental transactions on a parwith gold and foreign exchange. Forexample, the United States could buyFrench francs from France’s centralbank by paying for them by drawing onits SDR account at the IMF. The UnitedStates might use the French francs tobuy goods and services from France orbuy U.S. dollars in foreign exchangemarkets, propping up the value of thedollar.

The value of SDRs fluctuates on adaily basis, reflecting the daily fluctua-tions in the values of currencies in for-eign exchange markets. The dailyvalues of SDRs are reported in the for-eign exchange tables in publicationssuch as the Wall Street Journal. In time,SDRs should replace gold and theUnited States dollar as the principleinternational monetary reserve. Already

the IMF uses SDRs rather than a spe-cific national currency as a unit ofaccount in financial reports. Somecountries define domestic currencies interms of SDRs.

See also: Bretton Woods System, InternationalMonetary Fund

ReferencesDaniels, John D., and Lee H. Radebaugh.

1998. International Business, 8th ed.Daniels, John D., and David Vanhoose. 1999.

International Monetary and FinancialMonetary Economics.

Snider, Delbert A. 1975. Introduction to Inter-national Economics, 6th ed.

SPECIE CIRCULAR(UNITED STATES)

On July 11, 1836, President AndrewJackson issued an executive order, calledthe Specie Circular, requiring payment inspecie (gold and silver coins) for all gov-ernment lands sold to the public. The gov-ernment no longer accepted banknotes insales of government land. The SpecieCircular actually came from the pen ofSenator Thomas Hart Benton, who unsuc-cessfully advanced a Senate resolutionwith the same intent. Jackson and Bentonwere both “hard currency” advocates, andBenton had supported Jackson’s veto ofthe rechartering of the Second Bank of theUnited States. As the bank war raged inthe Senate, Benton thundered, “Gold andsilver is the best currency for a repub-lic, . . . it suits the men of property and theworking people best; and if I was going toestablish a working man’s party, it wouldbe on the basis of hard money; a hardmoney party against a paper party”(Schlesinger, 1945, 81).

378 | Specie Circular (United States)

With the demise of the Second Bank,banking regulation was strictly in thehands of state governments. The prolif-eration of banks and the multiplicationof banknotes fed a wave of inflation anda speculative frenzy in land. Banks inthe East made loans on the conditionthat banknote proceeds were used to payfor land in the West, maximizing thechance that the banknotes would notfind their way back to the lending bankfor redemption. By accepting the bank-notes in payment for land thegovernment—in effect guaranteeingthat banknotes could be redeemed inland—was underwriting the bankingsystem. Benton roared in the Senate, “Idid not join in putting down the Bank ofthe United States, to put up a wildernessof local banks . . . I did not strike Caesar

to make Anthony master of Rome”(Schlesinger, 1945, 129).

The speculative frenzy hit the skids in1837, and Jackson’s Specie Circularmay belong with the immediate agentsthat brought down an overextendedbanking system. By increasing thedemand for specie in payment for land,the government forced banks, whichnow found it more difficult to maintainspecie reserves, to contract banknotecirculation.

See also: Independent Treasury, Second Bankof the United States

ReferencesAtack, Jeremy, and Peter Passell. 1994. A

New Economic View of American History.Schlesinger, Arthur M., Jr. 1945. The Age of

Jackson.

Specie Circular (United States) | 379

President Andrew Jackson’s imposition of the specie circular in 1837 provoked considerable negativepublicity, such as this political cartoon that depicts a financially troubled tradesman and his family.(Library of Congress)

STATE NOTES

See: Exchequer Orders to Pay, Greenbacks,Treasury Notes

STERILIZATION

Sterilization is a market interventionundertaken by central banks to preventinflows and outflows of capital frominfluencing domestic money stocks.When central banks buy and sell finan-cial assets, whether foreign currencies ordomestic bonds, domestic money stocksare affected. If a central bank purchasesa government bond, the domestic moneystock will increase by some multiple ofthe amount of the purchase. The centralbank purchases the bond with newly cre-ated funds. If the central bank sells agovernment bond, the domestic moneystock contracts. Buying and selling gov-ernment bonds is the most importantmethod central banks have for regulatingdomestic money stocks. The procedureis called “open market operations.”When a central bank purchases foreigncurrency in foreign exchange markets, itagain pays for the foreign exchange withnewly created funds and the domesticmoney stock increases. It will also havean impact on the money stock in thehome country of the foreign exchangethat is purchased. That is, if the UnitedStates Federal Reserve Bank purchasesone million British pounds, the U.S.money stock increases and the UnitedKingdom’s money stock declines. Boththe United States and the UnitedKingdom could undertake open marketoperations to cancel out the effects of theforeign exchange transaction on domesticmoney stocks. It is called “sterilization”when central banks undertake offsetting

open market operations to cancel thedomestic money stock effects of foreignexchange intervention. Since a centralbank purchase of foreign exchangeincreases domestic money stocks and acentral bank sale of a government bonddecreases domestic money stocks, thecentral bank can sterilize the moneystock effects of the foreign exchangepurchase by selling government bonds.

Issues of sterilization often come upin discussions of economic stabilizationin fast-growing emerging markets.Before a U.S. investor can invest inSouth Korea, the U.S. investor must firstuse dollars to purchase South Koreancurrency. If there is a strong inflow offoreign capital into South Korea, foreigninvestors will be buying large amountsof South Korean currency, bidding upthe price or exchange rate of SouthKorean currency in foreign exchangemarkets. South Korea’s central bank hasa choice of selling South Korean cur-rency for foreign currency, or lettingSouth Korea’s currency appreciate inforeign exchange markets. Letting SouthKorea’s currency appreciate will causethe price of South Korea’s exports toincrease in foreign markets, possiblydampening South Korea’s growth. IfSouth Korea’s central bank meets thestronger demand for South Korean cur-rency by selling South Korean currencyfor foreign currency, then South Korea’smoney supply may grow at an inflation-ary rate. The central bank of SouthKorea can sterilize the effects of the cap-ital inflows by selling South Korea gov-ernment bonds, and taking the proceedsout of circulation, cancelling the moneysupply growth driven by the purchase offoreign currency. Put differently, a nearlysimultaneous purchase of foreign cur-rency and sale of government bonds has

380 | Sterilization

a zero effect on South Korea’s stock ofmoney. Some emerging economies havehad difficulty making this policy workbecause selling government bonds tendsto push up domestic interest rates, whichattracts even more foreign capital.

Some observers claim that aggressivesterilization contributed to Japan’sepisode of deflation. In 2004, AlanGreenspan described Japan’s currencymarket interventions as “awesome”(Makin, March 2004). Japan was pur-chasing U.S. dollars in foreign exchangemarkets to strengthen the value of thedollar. A strong dollar lowers the cost ofJapanese goods to U.S. consumers. At thetime, Japan was experiencing deflation,giving Japan reason to welcome the infla-tionary effects of dollar purchases withyen. Instead, Japan sterilized its foreignexchange intervention by withdrawingyen from domestic money markets.

See also: Hot Money

ReferencesLee, Jang-Yung. “Sterilizing Capital Inflows.”

International Monetary Fund, EconomicIssues no. 7, Washington, D.C., March1997.

Makin, John H. “Sumo Economics.” WallStreet Journal (Eastern Edition, NewYork) March 3, 2004, p. A16.

STOP OF THEEXCHEQUER (ENGLAND)

In January 1672, Charles II issued aproclamation that suspended payment ontallies and Exchequer orders to pay, anaction that became known as the Stop ofthe Exchequer. The British treasury iscalled the Exchequer, because during theMiddle Ages transactions with theBritish treasury took place in a room

with tables covered by checkered cloth.The modern term “check” is a derivativeof “exchequer.”

During the reign of Charles II, theExchequer discounted tallies and Exche-quer orders to pay to goldsmith bankers,paying interest rates above 6 percent.Tallies were wooden sticks that repre-sented a debt of the government, andExchequer orders to pay were paperorders that were replacing the wood tal-lies, which were a holdover from theMiddle Ages. The goldsmith bankerspaid 6 percent interest on near-moneyaccounts (deposits not readily availableon demand, such as modern certificatesof deposit) to raise funds for discountingtallies and paper orders from the govern-ment. Tallies and paper orders were sim-ilar to some present-day governmentbonds that are bought at a discount (atless than face value) and can beredeemed at face value at some maturitydate in the future. The governmentpledged to redeem the tallies and paperorders in a rotating order.

When the goldsmith bankers had nomore money to loan out, and were nolonger able to discount tallies and paperorders, Charles stopped redemption ofthe tallies and paper orders already heldby the goldsmiths. This Stop of theExchequer initially caused a run on thegoldsmith bankers, and many were even-tually ruined by this action. Later, thegovernment honored about half of itsdebt to the goldsmith bankers.

The Stop of the Exchequer remindedpeople of the seizure of the mint in 1640and created more doubt about govern-ment involvement in banking. It also casta shadow on paper money, and post-poned the development of an institutionsuch as the Bank of England for another20 years. The credibility of government

Stop of the Exchequer (England) | 381

money suffered a severe setback fromthis experience, and in England issuingpaper money became the province ofbanks.

See also: Bank of England, Seizure of the Mint,Tallies

ReferencesDavies, Glyn. 1994. A History of Money.Horsefield, J. K. “Stop of the Exchequer

Revisited.” Economic History Review,vol. 35, no. 4 (1982): 511–528.

SUFFOLK SYSTEM

The Suffolk System was the first effortto regulate private banking in the UnitedStates. Although banking regulationlater became a government activity, theSuffolk System was born of a privateinitiative that saw a need to regulatecountry banks.

The Suffolk Bank of Boston firstestablished the Suffolk System in 1819,and in 1824, six other Boston banksjoined the system. The Suffolk Systemrequired country banks around Boston todeposit reserve balances totaling $5,000in one or more of the seven Boston banksparticipating in the system. Thesereserve balances acted as a guaranteethat country banks could always redeemtheir banknotes in specie.

In the pre–Civil War United States,individual banks issued their own bank-notes, rather than the current practice ofissuing checkbooks or debit cards toaccompany checking accounts. Intoday’s United States economy, only theFederal Reserve System can issue bank-notes. Under the banking system inwhich individual banks issued their ownbanknotes, financially sound bankscould always redeem their banknotes in

gold and silver coinage; therefore theirbanknotes circulated at face value, andwere accepted in trade as equivalent togold and silver coinage or other bank-notes. Bankers, however, often fell preyto the temptation to issue more bank-notes than was reasonable, consideringthe bank’s gold and silver coin reserves.This left the public holding banknotesthat they could not be confident wouldbe redeemed in gold and silver coin.These banknotes circulated below par,and anyone accepting one of these bank-notes in trade risked taking a loss. Banksthat often had to take banknotes asdeposits were particularly vulnerable tosustaining a loss from banknotes issuedby overextended banks.

The Suffolk System was designed toprotect the public and Boston banksfrom country banks that issued morebanknotes than they could be counted onto redeem in gold and silver coin. TheSuffolk banks always accepted at par thebanknotes of country banks that main-tained reserves in the Suffolk System.

In the course of trade, banknotesissued by country banks flowed into thehands of the Suffolk banks. The Suffolkbanks then immediately presented thesebanknotes to the issuing banks forredemption, as a way of keeping theissuing banks honest. The Suffolk banks,however, treated the banks that keptreserves within the Suffolk System witha certain amount of consideration, allow-ing these banks to redeem their bank-notes at a steady pace over time. Countrybanks refusing to keep reserves in theSuffolk System often found themselvessuddenly presented with a large volumeof their banknotes for immediateredemption, putting an intolerable strainon reserves of gold and silver coin. With-out a legal sanction, the Suffolk System

382 | Suffolk System

was able to coerce the country banks toparticipate in the Suffolk System.

By 1825, virtually all New Englandbanknotes could be converted at facevalue in the banknotes of any other bank,or in gold and silver coin, due in nosmall part to the discipline enforced bythe Suffolk System. From 1825 to 1860,New England boasted of the advantagesof a uniform currency, a rare accom-plishment at that stage of the history ofpaper money in the United States. Thepractice of centralizing reserves in a fewbanks made itself felt in the developmentof modern central banks such as the Fed-eral Reserve System.

See also: Central Bank, Federal Reserve Sys-tem, New York Safety Fund

ReferencesCalomiris, Charles W., and Charles M. Kahn.

“The Efficiency of Self-Regulated Pay-ments Systems: Learning from the Suf-folk System.” Journal of Money, Credit,and Banking, vol. 28, no. 4 (November1996): 766–797.

Davis, Lance E., Jonathon Hughes, and Dun-can McDougall. 1969. American EconomicHistory.

Myers, Margaret G. 1970. A Financial His-tory of the United States.

SUGAR STANDARD OFTHE WEST INDIES

From the mid-17th century sugarbecame the reigning monetary standardon the Leeward Islands, and to a lesserextent on Barbados and Jamaica.Jamaica, because of its importance as anaval base as well as a favorite of thebuccaneers, was always furnished with aplentiful supply of coins, but neverthe-less made use of sugar money. Barbados

and the Leeward Islands perenniallywrestled with coinage shortages, forcingthe expedient of commodity money.Before sugar rose to the forefront,tobacco met the need for a medium ofexchange and unit of account in the WestIndies.

A Barbados law of 1645 concerningfamily prayers provided that “whomso-ever shall swear or curse, if a master orfreeman he shall forfeit for every offense4 pounds of sugar; if a servant, 2 poundsof sugar” (Einzig, 1966, 291). Fees andwages were also measured and some-times paid in Muscovado or brown sugarat rates established by an act of the legis-lature. A rate of 10 shillings per 100pounds of sugar prevailed for a time as themonetary standard of Barbados.

Sugar displaced tobacco a bit later onthe Leeward Islands. Laws enacted in1644 and 1688 declared that a fine of a1,000 pounds of good tobacco in a rollawaited anyone found guilty of com-merce with the heathen or Sabbathbreaking by “unlawful gaming, immod-erate and uncivil drinking—or any otherprophane and illicious Labours of theWeek-days, as digging, hoeing, baking,crabbing, shooting and such like inde-cent actions” (Einzig, 1966, 293).

The Leeward Islands turned to sugaras the monetary commodity after mid-century. In 1668, Montserrat paid an“able preaching Orthodox Minister” asalary of “fourteen thousand pounds ofsugar or the value thereof in Tobacco,Cotton Wool, or indigo” (Einzig, 1966,293). The going rate for sanctifying amarriage was 100 pounds of sugar or“the value thereof in Tobacco, CottonWool or Indigo.’ (Einzig, 1966, 293). Forabout 30 years, the sugar standard on theislands maintained a stable parity forsugar, equating “five score pound of

Sugar Standard of the West Indies | 383

good dry merchantable MuscavadoSugar” to 12 shillings and 6 pence(Einzig, 1966, 293).

By the beginning of the 18th century,metallic currency had made inroads intothe Leeward Islands’ monetary system.An act of 1700 provided that coinagecould be substituted for commodities inpayment of debts at a rate of:

12 shillings and 6 pence for 100pounds of Muscovado sugar

2 shillings for one pound of indigo

9 pence for one pound of cottonwool

1.5 pence for one pound of tobaccoor ginger

(Einzig, 1966, 294)

Sugar played a modest monetary rolein the 18th century. On August 24, 1753,the assembly of Nevis considered, butfailed to enact, legislation making sugar

and other commodities legal tender fordebts in an attempt to ease a shortage ofmetallic currency. In 1751, Jamaica,which did not have a coin shortage,enacted legislation making sugar legal ten-der “where both parties agree for paymentin sugar and other produce of this kind”(Pitman, 1917, 139). In 1756, up to two-thirds of a tax obligation in Antigua couldbe paid in sugar. In 1784, St. Christopherenacted revenue legislation stating that,“And whereas it may be burdensome andoppressive to the inhabitants of this Islandto pay the amount in specie, be it enactedthat the payment of the taxes aforesaidmay be in cash, sugar, or rum at the optionof the person or persons liable to pay thesame” (Einzig, 1966, 294).

By the end of the 18th century, coinshad edged out commodity money in theWest Indies.

See also: Commodity Money, Commodity Mon-etary Standard

384 | Sugar Standard of the West Indies

Engraving of a West Indies sugar cane refinery, 1667. (Library of Congress)

ReferencesEinzig, Paul. 1966. Primitive Money.Nettels, Curtis P. 1934. The Money Supply of

the American Colonies before 1720.Pitman, Frank, W. 1917. The Development of

the British West Indies: 1700–1763.Quiggin, A., and A. Hingston. 1949. A Sur-

vey of Primitive Money.

SUSPENSION OFPAYMENTS IN WAR OF1812 (UNITED STATES)

The British attack on Washington in1814 unnerved the public’s confidence ina banking system that had overextendeditself in the issuance of banknotes.Banks in the Washington area suspendedpayments on their obligations to redeembanknotes, touching off a round of pay-ment suspensions that spread to everyregion except New England.

In the early banking system, individ-ual banks issued their own banknotes,which they were obliged to redeem ingold and silver coin (specie). Bank cus-tomers received banknotes instead of achecking account and checkbook, andeach bank held reserves of coin toredeem banknotes, just as a modern bankholds vault cash and other reserves toredeem checking accounts. A suspensionof payments meant that banks no longerredeemed their banknotes with specie,putting the United States on an incon-vertible paper standard. An inconvertiblepaper standard is a monetary systembased on paper money that cannot beconverted into precious metal at an offi-cial rate.

The War of 1812 contributed only partof the pressure on the banking systemthat preceded the crisis. From 1799 until1811, the First Bank of the United States

oversaw the banking system and madesure that individual banks could redeemtheir banknotes in coin. In 1811, the FirstBank lost its charter from the UnitedStates government, substantially remov-ing what regulation there was of state-chartered banks. From 1811 to 1815, thenumber of banks increased from 88 to208, and the value of banknotes in circu-lation rose from $23 million to $110 mil-lion. The capitalization of the bankingsystem only doubled during the sametime, and most states allowed banks toissue banknotes without regard to capitalor reserves. The circulation of banknoteshad outgrown the supply of gold and sil-ver, leaving the banking system floatingon a thin film of public confidence. Afterthe suspension of payments, these bank-notes circulated at discounted values, usu-ally between 10 and 20 percent, but somenotes from Kentucky banks were dis-counted 75 percent.

The United States government encoun-tered difficulty financing the war becauseits bonds not only sold at a discount, but itreceived payment in depreciated bank-notes. In addition to interest-bearingbonds, the treasury issued $5 noninterest-bearing notes that were not legal tenderbut were acceptable as payment of taxes.

Congress soon regretted its decisionnot to renew the First Bank’s charter, andin 1816, granted a charter for the SecondBank of the United States. The bankopened for business on January 17,1817, and by February had negotiatedagreements with state banks in majorcities to resume redemption of banknotesin of gold and silver coins.

The suspension of payments put theUnited States on an inconvertible paperstandard for over two years, a rathershort time considering that Great Britainwas on an inconvertible paper standard

Suspension of Payments in War of 1812 (United States) | 385

from 1797 until 1821. Just as GreatBritain avoided the excesses of the papermoney of the French Revolution, theUnited States during the War of 1812avoided the excesses of paper moneythat arose during the American Revolu-tion. Today, virtually all countries are onan inconvertible paper standard.

See also: Inconvertible Paper Standard, SecondBank of the United States

ReferencesChown, John F. 1994. A History of Money.Hepburn, A. Barton. 1924/1967. A History of

the Currency of the United States.Myers, Margaret, G. 1970. A Financial His-

tory of the United States.Timberlake, Richard H. 1978. The Origins of

Central Banking in the United States.

SWEDEN’S COPPER STANDARD

Like most European countries, Swedenemerged from the medieval period on asilver standard. In 1625, however,Sweden monetized copper and switchedto a bimetallic standard based on copperand silver. As often happened underbimetallic systems, one metal currencydrove out the other metal currency, andin Sweden’s case copper currency dis-placed the silver currency in domesticcirculation, putting Sweden on a copperstandard. Sweden’s copper standardremained technically in effect until 1776,but its operational importance ended in1745 when Sweden introduced an incon-vertible paper standard.

Sweden turned to a copper standardnot because of any perceived commer-cial advantage, but because copper min-ing was an important industry inSweden, and the Swedish government

sought to increase the demand forcopper. Gustavus Adolphus, king ofSweden from 1611 to 1632, felt thatdrawing copper into use as circulatingmoney would reduce the supply of cop-per in world markets and lead to anincrease in copper prices. Spain, then theforemost power in Europe, had furnisheda recent precedent for the monetizationof copper when it debased its own silvercoinage with a copper alloy. “Vellon”was the name given to Spain’s debasedsilver coinage, which in the first half ofthe 17th century became virtually allcopper in content. Spain’s de factocopper standard supplied the first stimu-lus to the copper industry, causing theSwedish government to look to thecopper industry, which it controlled, asits main source of revenue.

Because the purpose of the copperstandard was to create a domesticdemand for copper, it would have servedno purpose to reduce the copper weightof the copper coinage relative to facevalue. Therefore, the copper coins werefull-valued coins, with the face value ofthe coins close in value to the bullionvalue of the copper. Because copper perunit of weight was equal to about one-one-hundredth the value of silver, coppercoins on average had to be about 100times the size of silver coins, and thesheer size of the copper coins seems tohave been the major drawback ofSweden’s copper standard. In 1644, theSwedish government issued probably theheaviest coins in history, 10-daler cop-per plates weighing over 43 poundseach. In 1720, a Danish diplomat wrotehome somewhat humorously about Swe-den’s copper coinage:

A daler is the size of a quarto page . . . many carry their money

386 | Sweden’s Copper Standard

around on their backs, others ontheir heads, and larger sums arepulled on a horsecart. Four riksdalerwould be a terrible punishment forme if I had to carry them a hundredsteps; may none here become athief. I shall take one of these dalersback to you unless it is too heavyfor me; I am now hiding it under mybed. (Heckscher, 1954, 90)

The transportation of any sizeablesum of copper coins required the use ofwagons, and problems associated withthe transportation of the tax revenuecame to the attention of the highestcouncils in Sweden’s government.

The copper standard failed to increaseworld prices of copper, apparentlybecause Sweden increased domesticcopper production to meet the increaseddemand for copper as coinage. Neverthe-less, Sweden’s copper standard did leadto Europe’s first peacetime flirtation withpaper money. Copper mines discoveredthat it was easier to pay miners in copperbills, representing ownership of copper,rather that the bulky copper itself. In1661, Sweden saw its first banknotesbased on the copper coinage. These bank-notes, the first in Europe, were an imme-diate success, being much moreconvenient than the bulky coppercoinage. In 1656, Johan Palmstruch hadreceived royal permission to form abank, and five years later his bank startedissuing banknotes. Paper money experi-ments, however, seem to be especiallyvulnerable to the pitfalls of success. ThePalmstruch’s bank overissued banknotes,the public staged a run on the bank, andthe bank failed. The failed bank, how-ever, was purchased and reorganized asthe Riksbank, now the oldest centralbank in Europe.

Despite the fear inspired by the col-lapse of Sweden’s first note-issuingbank, in 1745, Sweden suspended itscopper standard and issued irredeemablebanknotes. Monetary disorder markedSweden’s paper-money experiment until1776 when Sweden returned to a puresilver standard.

See also: Commodity Monetary Standard,Copper, Riksbank, Sweden’s First PaperStandard

ReferencesHeckscher, Eli F. 1954. An Economic History

of Sweden.Samuelsson, Kurt. 1969. From Great Power

to Welfare State.Weatherford, Jack. 1997. The History of

Money.

SWEDEN’S FIRST PAPERSTANDARD

Between 1745 and 1776, Europe had itsfirst experience with an inconvertiblepaper standard. Sweden had been thefirst European country to introduce bank-notes early in the 17th century, but by themid-18th century, Great Britain andFrance had both made use of banknotes,and France had furnished Europe with itsfirst example of a paper money debacle.Neither Great Britain nor France hadofficially adopted a paper standard whenthe Swedish government put Sweden onan inconvertible paper standard.

In the 18th century, Sweden had aparliamentary government, in which twoparties vied for power. One party, theHats, identified with the exporting indus-tries, the military, the nobility, and themonarchy, and generally favored poli-cies of foreign expansion and increasedinfluence abroad. By 1720, Sweden had

Sweden’s First Paper Standard | 387

lost its Baltic empire, much to the cha-grin of the Hats, who wanted to maintainSweden as a player in European politics.The other party, the Caps, representedagricultural interests, and what might becalled the commoners. The Caps prefer-ence for policies of pacifism earned themthe nickname “Nightcaps,” shortened toCaps, because they supposedly wantedto sleep while the great powers ofEurope passed Sweden by.

Before the adoption of a paper stan-dard, Sweden, home to vast copperreserves, had functioned on a copperstandard. Copper, worth less than goldand silver per unit of weight, was bulkyand awkward to transport in large mone-tary values, and Sweden turned to bank-notes as a convenience. In the mid-17thcentury Sweden saw its first suspensionof banknote convertibility and bankpanic. Banknotes fell into disfavor atfirst, but the Swedish public found bank-notes much more convenient than coppercoinage, and banknotes returned to cir-culation by popular demand rather thangovernment policy.

The Hats held the upper hand in Par-liament from 1739 until 1765 and pur-sued a policy of inflationary war finance,a policy opposed by the Caps. Between1741 and 1743, the financial strain ofwar with Russia prompted the Swedishgovernment to look for salvation in theprinting press. Because copper wasbulky, the sheer cost of transporting cop-per enabled the government to vastlyincrease banknotes without triggering anexport of copper coins. With copperreserves held intact, the convertibility ofbanknotes into copper was not immedi-ately threatened.

The issuance of banknotes continued,partly for subsidies to manufacturers,and by 1745, the Swedish authorities

imposed an inconvertible paper standard.Unlike the suspensions of payments inthe 17th century, the public did not panic,but inflation rose to the forefront of eco-nomic problems. The Swedish currencydepreciated on foreign exchange mar-kets, making foreign goods much moreexpensive in Sweden and Swedishexports cheaper in foreign markets.

The inflationary policy irritated theCaps, who wasted no time kicking themonetary rudder in the opposite direc-tion when they returned to power in1765. The Caps imposed a deflationarypolicy. As Swedish currency appreciatedin foreign exchange markets, foreignimports became cheaper in Sweden, butSweden’s export industries had to slashprices to remain competitive in foreignmarkets. Prices in export industries fellfaster than wages and raw materialprices, plunging the export industriesinto a depression.

Political opposition to the Caps’monetary policy mounted as economicdistress defused throughout Sweden,and the Caps fell from power in 1769.The Caps’ experience with disinflationpolicies inspired a political drama thathistory would see replayed again when-ever democratic governments imposeddeflationary policies. Unemployment,bankruptcies, and virtually every otherform of economic discomfort invari-ably accompanies disinflation anddeflationary policies, and often demo-cratic governments find it difficult topursue these policies for extended timeperiods.

The Hats regained power and revertedto inflationary policies before the Capsreturned briefly to power in 1771 through1772. The political sphere began to mir-ror the turbulence in the economicsphere, and in March 1772, a bloodless

388 | Sweden’s First Paper Standard

coup d’état engineered by the Hats,displaced Sweden’s parliamentary gov-ernment with a constitutional monarchy.Sweden’s parliament survived, shorn ofmuch of its power, and the parties of theHats and Caps disappeared. In 1776,Sweden established a silver standard,completely breaking with the copperstandard and putting an end to inconvert-ible banknotes.

Sweden’s 18th-century episode ofmonetary disorder demonstrates how asociety, exhausted with war, may findinflationary policies attractive, and howthese policies are associated historicallywith political instability.

See also: Inconvertible Paper Standard,Sweden’s Copper Standard

ReferencesChown, John F. 1994. A History of Money.Heckscher, Eli F. 1954. An Economic History

of Sweden.Samuelsson, Kurt. 1968. From Great Power

to Welfare State.

SWEDEN’S PAPERSTANDARD OF WORLD

WAR I

During World War I, Sweden sought toweaken the link between gold anddomestic currency in an effort to tameinflationary forces. Sweden’s policy wasunprecedented, considering that the goldstandard usually receives strongest sup-port from those quarters where inflationis most feared. The 19th century hadseen several countries abandon a silverstandard to avoid currency depreciation,reacting to the depreciation of silver rel-ative to gold, which was a stronger metalmonetarily and clearly the preferred bul-wark against inflation.

Sweden had adopted the gold stan-dard in 1873. A gold standard countrymust stand ready to buy and sell gold atan official price in its own currency. Acountry’s commitment to sell gold at anofficial price in its own currency puts astrict limit on the volume of papermoney issued, acting as a guard againstthe issuance of inflationary levels ofpaper money. When a country suspendsgold payments, as often happens duringtimes of fiscal stress, such as wars, thecountry expects to see its currencydepreciate, and domestic prices go up.

The other side of the gold standard isthe commitment to buy gold at an officialprice, a commitment that Sweden sus-pended in February 1916. During WorldWar I, Sweden supplied war materialsand supplies to the belligerents and oftenreceived gold in payment. Foreign cur-rencies sold at a discount relative to theSwedish krone, and gold would havesunk in value relative to the krone if theSwedish central bank had not been com-mitted to buy gold at the official price.The influx of gold and foreign currencieswould not have created difficulties ifSweden’s opportunities for importingforeign goods had increased proportion-ately with its accelerating opportunitiesfor export. Wartime conditions, however,favored exports over imports.

Sweden found itself faced with aswelling domestic money supply, fueledby gold inflows, and a shrinking supplyof goods for domestic consumption asexports rose relative to imports. TheSwedish central bank saw itself havingto buy large quantities of gold that paidno interest. Also gold was sinking inprice worldwide, which acted to dragdown the values of gold-standard curren-cies, such as the Swedish krone. Thesedifficulties converged to push Sweden

Sweden’s Paper Standard of World War I | 389

into unhinging itself from the gold stan-dard.

Freed from an obligation to buygold at an official price and to mint allgold brought to the mint, Sweden con-tinued to import gold, but at reducedprices, and to augment the domesticmoney supply. Between the first quarterof 1916 and the last quarter of 1917, thecirculation of paper money increased 62percent and prices climbed 65 percent.

Although nullifying the gold stan-dard did not spare Sweden from a boutof inflation, it restrained the levels thatinflation reached. In the Stockholm for-eign exchange market, the Swedishkrone rose in value relative to the U.S.dollar, the Swiss franc, and the Britishpound. The krone rose about 10 to25 percent above the value it com-manded when it was on a strict goldstandard, and Swedish coins wereworth 10 to 25 percent more than thevalue of their gold content.

The Swedish experience of WorldWar I was a reminder that precious met-als do not offer fail-safe protectionagainst inflation, as Europe discoveredafter the influx of gold and silver fromthe New World.

See also: Gold Standard, Sweden’s First PaperStandard

ReferencesCassel, Gustav. 1922. Money and Foreign

Exchange after 1914.Lester, Richard A. 1939/1970. Monetary

Experiments.

SWEEP ACCOUNTS

“Sweep accounts” refer to accounts forwhich a computer program “sweeps”excess funds overnight from checking

accounts, which must meet mandatedreserve requirements, to money marketdeposit accounts (MMDA), which areexempt from reserve requirements. Sincereserves earn no interest, depositoryinstitutions feel an incentive to minimizereserve holdings. The Federal ReserveSystem gets its name from one of itsprinciple assignments, which is to insurethat depository institutions (commercialbanks, thrifts, and credit unions) main-tain adequate reserves. Only two assetscan serve as reserves, cash in the bankvault, or an account at a Federal ReserveBank. The Federal Reserve Systemrequires depository institutions to hold apercentage of checking account depositsin the form of reserves. Depository insti-tutions may hold a balance directly witha Federal Reserve Bank, or indirectlythrough a correspondent institution,which holds deposits in a FederalReserve Account for other depositoryinstitutions on a “pass through” basis.Checking accounts are subject to reserverequirements because these accountsundergo a high rate of daily turnover inthe form of new deposits and new with-drawals. Banks must hold reserves tocover the days of heavy cash with-drawals relative to new deposits. MMDAaccounts experience less activity in termsof daily deposits and withdrawals and aretherefore exempt from mandated reserverequirements. To be exempt from reserverequirements, an MMDA cannot allowmore than six withdrawals per month.The withdrawals can be in the form ofeither writing a check or a pre-authorizedtransfer. MMDA’s attract depositors bypaying interest.

Banking industry data suggest thatwithout mandatory reserve require-ments, a typical bank would elect to holdvault cash equal to roughly 5 percent of

390 | Sweep Accounts

transactions accounts, and deposits at theFederal Reserve equal to roughly 1 percentof its transaction accounts (Anderson andRache, 2001). Since the mandated reserverequirement for transaction deposits usu-ally ranges between 10 and 20 percent,banks regard themselves as paying a“reserve tax.” Reserves are assets thatearn no interest, and banks must holdmore reserves than they think necessarydo conduct day-to-day banking opera-tions. Therefore, banks stand eager toembrace any procedure that enables themto reduce reserve holdings within the con-straints of the legal reserve requirements.

In January 1994, the Federal ReserveBoard, the governing body of the FederalReserve System, gave commercial banksthe go ahead to use a new type of com-puter software that dynamically reclassi-fies balances in customer accounts fromtransactions deposits (demand and othercheckable deposits) to money marketdeposit accounts. At first, the new prac-tice caught on slowly, but after April1995, it spread quickly.

Key to sweep accounts is the MMDA,which did not come into being until1982. In the 1970s, when paying interestin checking accounts was illegal, banksbegan “sweeping” customer depositsinto overnight repurchase agreements.An overnight repurchase agreementrefers to a situation in which a bank sellsa treasury bill to a customer overnightand “repurchases” it the next day at ahigher price. Repurchase agreementswere a way of indirectly paying intereston a checking account that could notlegally pay interest. Only the bank’slargest customers benefited from“sweeping” into repurchase agreements.The development of MMDAs in the1980s allowed depository institutions toapply the procedure of “sweeping” to a

much larger range of depositor accounts.It also relieved commercial banks of theneed to keep an inventory of treasurybills on balance sheets for overnightrepurchase agreements.

Sweep accounts appear to haveremoved the statutory reserve require-ments that depository institutions face.That is, with intelligently designed soft-ware, banks can reduce required reservesto below the levels banks would volun-tarily choose to hold to cover day-to-daybanking operations. At first someobservers feared that the spreading useof sweep accounts might force banks toturn to the federal funds market moreoften for overnight loans, causing morevolatility in the federal funds interestrate. The federal funds rate is the key tar-get interest rate the Federal Reserve reg-ulates in the conduct of monetary policy.Greater volatility in the federal fundsmarket might hamper the FederalReserve’s ability achieve its goals. Prob-lems in this area, however, never materi-alized.

See also: Legal Reserve Ratio

ReferencesAnderson, Richard G., Robert, H. Rasche.

“Retail Sweep Programs and BankReserves, 1994–1999.” Federal ReserveBank of St. Louis Review, vol. 83, no. 1(January/February 2001): 51–72.

Koretz, Gene. “Do ‘Sweeps’ Sap Fed Policy:A Growing Bank Practice Stirs Fears.”Business Week, June 2, 1997, p. 26.

SWISS BANKS

Swiss banks enjoy a worldwide reputa-tion for protecting the identity of depos-itors. This important characteristichelped Switzerland grow to one of the

Swiss Banks | 391

world’s major banking centers in the20th century. Another factor contribut-ing to the growth of Swiss banking isSwitzerland’s position of neutrality. OnMay 20, 1815, the Vienna Congressestablished the permanent neutrality ofSwitzerland among the Europeanpowers—a position the superpowers ofthe world honored through two greatwars in the 20th century.

Switzerland was not a pioneer in earlyEuropean banking. Geneva was the firstof the Swiss cities to become a bankingcenter. By 1709, Geneva boasted of adozen bankers who left a name in Swissfinancial history, and Louis XIV floatedloans in Geneva to finance his wars.Geneva bankers kept close ties withFrance and remained involved in financ-ing French public debt until the end ofthe 19th century.

Basel developed a significant bankingindustry only in the 19th century. In1862, the Basel Register listed 20 banks,nine of which were exclusively devotedto banking.

Financial activity of various sortsappeared in Zurich during the 16th cen-tury. In 1679, an injunction from the citycouncil prohibited a reduction of interestrates from 5 percent to 4 percent. Mer-chant bankers, who accepted deposits forinvestment in securities, appeared in themiddle of the 18th century. Zurichwaited until 1786 to see the formation ofa bank in the broad sense. In 1805, theofficial register of Zurich reported twobanks devoted exclusively to banking.

By the eve of World War I, Switzer-land ranked as one of the internationalfinancial centers. Six large banks—Swiss Credit Bank, Swiss Bank Corpo-ration, Union Bank of Switzerland,Trade Bank of Basel, Federal Bank, andSwiss People’s Bank—controlled a sys-

tem of branches throughout Switzerland.These banks floated international loansfor European governments and railroadand other industrial concerns in theUnited States. After World War I, infla-tion in the currencies of the former bel-ligerents made Switzerland moreattractive as a safe haven.

In the post–World War II era, three ofthe big banking houses remained in busi-ness: the Swiss Credit Bank, the SwissBank Corporation, and the Union Bank ofSwitzerland. There was also a large net-work of smaller banks, rural loan associa-tions, and branches of foreign banks. In1968, Switzerland had a population of sixmillion people and 4,337 banking offices,which added up to one banking office forevery 1,400 individuals.

In the 1930s, Switzerland enactedlaws that strengthened the anonymityprotection of depositors in Swissbanks. During that time, some coun-tries prohibited citizens from holdingassets abroad on pain of criminalpenalties, and even sent agents intoSwitzerland to track down assets owedby their own citizens. On the otherhand, some people wanted to keepdeposits in Switzerland in case they hadto make a hasty departure from theirhomeland for political or racial rea-sons. Swiss banks began opening theso-called numbered accounts, whichsubstantially reduced the number ofbank employees who knew the name ofa depositor. Also, the Swiss govern-ment claimed no right to pry into bankaccounts either to collect informationon its own citizens or the citizens offoreign countries. Governments aroundthe world have lodged complaintsagainst Swiss banks for holdingdeposits of foreigners evading taxes.Switzerland recently has yielded to

392 | Swiss Banks

pressure to open up information ondeposits when criminal activity and taxfraud are involved.

In 1997, it came to light thatSwitzerland, thought to have been aneutral country in World War II, actedas a banking center for Nazi Germany,and that Swiss commercial banks hadaccepted three times as much gold indeposits from Nazi Germany’s centralbank as was originally thought. Jewishgroups launched a class-action lawsuitin an effort to force Swiss banks tocompensate Holocaust victims, empha-sizing that Swiss banks held on to dor-mant accounts of Holocaust victimsand laundered millions of dollars ingold stolen from Jews. On August 12,1998, representatives of Holocaust sur-vivors and Swiss banks announced a$1.25 billion reparation settlement to

compensate Holocaust survivors andtheir heirs.

Banking remains the traditionalstrength of Switzerland. In 2004, theEconomist reported that Swiss bankshold one third of all private financialassets invested across borders, substan-tially more than any other financial cen-ter. It also reported that the financialservices industry accounted for about11 percent of Switzerland’s grossdomestic product (GDP).

In 2008, Swiss banks again drew thewrath of foreign governments over secretaccounts. An ex-employee of Switzer-land’s largest bank, the Union Bank ofSwitzerland (UBS), confessed to aFlorida court tales of smuggling dia-monds in toothpaste tubes to help U.S.clients evade taxes. The ex-employeeclaimed that he was only a small cog in

Swiss Banks | 393

Headquarters of the Union Bank of Switzerland (UBS) in Zurich. (AP Photo/Michele Limina)

large tax-evasion operations conductedby UBS (Economist, July 2008).

See also: Swiss Franc

ReferencesBauer, Hans. 1998. Swiss Banking: An Ana-

lytical History.Ikle, Max. 1972. Switzerland: an Interna-

tional Banking and Finance Center.New York Times. “Settling Switzerland’s

Debts.” August 16, 1998, p. 1.Economist. “Survey: The World’s Piggy-

bank.” February 14, 2004, p. 13.Economist. “Snowed Under, Swiss Banks.”

July 5, 2008, pp. 79–80.

SWISS FRANC

Over the years, Switzerland developed alegendary reputation for financial pro-bity, helping to lift the Swiss franc abovethe crowd of national currencies andbecome a symbol of strength and mone-tary soundness. Internationally, it is afavored currency for hoarding money,partly because Swiss banking secrecylaws protect the anonymity of depositorsin Swiss banks. International pressurehas steadily eroded some of the protec-tion of anonymity afforded to depositorsin Swiss banks, particularly for deposi-tors engaged in criminal conduct.

In 1848, Switzerland adopted theFrench monetary system, preferring acoherent application of the decimal sys-tem. Switzerland had first tasted theFrench system during the Napoleonicera, when France conquered Switzerlandand turned it into the Helvetian Republic.

In 1860, Switzerland debased its sub-sidiary silver coins to prevent the expor-tation of its silver coinage. In 1865,Switzerland was one of the countriesattending a conference in Paris that led

to the formation of the Latin MonetaryUnion. Switzerland argued for the adop-tion of the gold standard and conversionof silver coinage into subsidiary coinage.The Union agreement, however, pro-vided for a bimetallic standard based ongold and silver. Switzerland, along withFrance, Italy, and Belgium, agreed tomint gold pieces only of 100, 50, 20, 10,and 5 francs. The Union members agreedto mint a fully weighted 5-franc silverpiece, but lower denomination silvercoins became subsidiary coinage withreduced weight. Under the Union agree-ment, coins from each country circulatedfreely in other Union countries. AfterGermany adopted the gold standard in1871, the Latin Monetary Union brokedown, and the member countries adoptedthe gold standard.

During World War I, the Swiss sus-pended the gold standard, and the Swissfranc appreciated relative to the currenciesof the belligerents, and even relative to theU.S. dollar. Following World War I,Switzerland returned to the gold standardat its prewar parity and maintained paritythrough the 1920s and well into the 1930s.

During the Great Depression period,Switzerland, along with France, Belgium,Holland, Italy, and Poland, organized a“gold bloc” that sought to withstand thepressures for devaluation. Switzerlanddevalued the Swiss franc long after theUnited States and Britain had devaluedtheir currencies, and only after France haddevalued the French franc in September1936. The French franc and the Swissfranc were devalued by 30 percent.

During World War II, the Swiss francremained firm, but not as firm as duringWorld War I. In July 1945, the Swissfranc traded at a 3 percent premium overthe U.S. dollar. During the post–WorldWar II era, the Swiss franc remained

394 | Swiss Franc

strong relative to the dollar and Swissauthorities had to take steps to discour-age demand for Swiss francs. Under theBretton Woods system of fixed exchangerates, slightly over 4 Swiss francs wereneeded to purchase a U.S. dollar. After asystem of floating exchange ratesreplaced the fixed exchange rate systemin the 1970s, the value of the Swiss francrose relative to the dollar. In the late1990s, about 1.5 Swiss francs wereneeded to purchase a U.S. dollar.

Switzerland is home to the world’slargest gold market, and Swiss residentshave always enjoyed unfettered freedom tohold gold, unlike citizens in the UnitedStates, where the government outlawed thedomestic ownership of gold in the decadesimmediately preceding and followingWorld War II. Banknotes in Switzerland arebacked by a minimum of 40 percent goldreserves, suggesting that gold is still impor-tant in Switzerland, even though none of theworld’s major trading partners—includingSwitzerland—is now on a gold standard.

See also: Swiss Banks

ReferencesChown, John F. 1994. A History of Money.Cowitt, Philip P. 1989. World Currency Year-

book.Einzig, Paul. 1970. The History of Foreign

Exchange. 2d ed.

SYMMETALLISM

Symmetallism is a type of monetary sys-tem in which a standard monetary unit isequivalent to a fixed number of ouncesof gold, coupled with a fixed number ofounces of silver. The standard monetaryunit becomes equivalent to a bundle oftwo precious metals, combined in afixed, unchanging proportion. As an

illustration, the dollar might be setequivalent to 0.0242 ounces of gold, plus0.3878 ounces of silver. The term “sym-metallism” seems to have been coinedby Alfred Marshall, a prominent econo-mist around the turn of the century whoproposed a symmetallic system as ananswer to world monetary woes. Sym-metallic systems were not without prece-dent, however, because the ancientkingdom of Lydia is credited with strik-ing the first coins from a metal calledelectrum, which was a mixture of goldand silver found in a natural state.

During the last half of the 19th century, the world’s major tradingpartners engaged in a monetary tug ofwar between a bimetallic system, basedon gold and silver, and a monometallicsystem relying strictly on gold. TheUnited Kingdom favored a gold stan-dard, which eventually displaced abimetallic standard that France and theUnited States had championed withoutsuccess. The bimetallic system, like thesymmetallic system, made use of twometals, but it set a fixed value for eachmetal in terms of the other metal. Undera bimetallic system, a government mightofficially set the value of 15 ounces ofsilver as equal to 1 ounce of gold, andwould stand ready to exchange gold forsilver at this ratio. Because officiallyfixed values often varied from freelyfluctuating market values, the bimetallicsystem worked less successfully in prac-tice than in theory. In contrast to thebimetallic system, the symmetallic sys-tem does not fix a ratio of value betweentwo metals, but fixes the value of a com-posite unit composed of a fixed quantityof each of two metals. A monometallicsystem circumvents the complications oftwo metals and fixes the value of a mon-etary unit in terms of a fixed weight of a

Symmetallism | 395

single metal. Under the post–World War II monometallic gold standard, theUnited States officially fixed the price ofan ounce of gold at $35.

The last quarter of the 19th centurysaw a spreading wave of mild deflationin the face of the strict discipline ofa worldwide gold standard, in whichthe world gold supply did not keep pacewith the monetary needs of an expandingworld economy. Alfred Marshall heldout the symmetallic system as a meansof avoiding the awkwardness of thebimetallic standard, while adding to theworld’s stock of monetary metals, andventing deflationary pressures. He alsoargued that the value of a compositequantity of gold and silver would fluctu-ate less than the values of gold and silverseparately. He advanced his proposal tothe Gold and Silver Commission in theUnited Kingdom in 1888.

Marshall’s proposal apparentlymade little impression on policy

makers at the time, but academiceconomists found it a fruitful idea thatcould be expanded. They saw no reasonwhy the number of commodities in thecomposite standard had to be limited totwo, or why the commodities had to beprecious metals. They extrapolatedMarshall’s concept into schemes thatincluded all the commodities in thewholesale price index as part of thecomposite monetary commodity. Thesekinds of extensions of Marshall’s ideasurfaced in the 1980s as anti-inflationpolicies stood at the top of researchagendas in economics.

See also: Bimetallism, Gold Standard

ReferencesFriedman, Milton. 1992. Monetary Mischief.Marshall, Alfred. “Remedies for Fluctuations

of General Prices.” Contemporary Review,vol. 51 (March 1987): 355–375.

McCallum, Bennet, T. 1989. MonetaryEconomics.

396 | Symmetallism

397

T

TABULAR STANDARD INMASSACHUSETTS BAY

COLONY

During two separate periods of rapidinflation, the Massachusetts Bay Colonyput in practice a tabular standard inwhich debts payable in shillings wereadjusted for changes in the purchasingpower of the paper currency. Under thetabular standard, a 100 percent rise in theprice level meant debtors owed twice asmany shillings as they had borrowed.Without the protection of a tabular stan-dard, the money that came back to cred-itors in repayment for loans had lesspurchasing power than the money theyfirst loaned out.

The first experiment with a tabularstandard occurred in 1742, when the leg-islature authorized a new issue of papercurrency. At the same time, the legisla-ture enacted a so-called equity law,requiring the repayment of all debts of5 years duration and contracted afterMarch 1742 at a rate of 6 2/3 paper

shillings to an ounce of silver. The mostinnovative portion of the law, however,empowered justices of the Massachusettscourts, in adjudicating disputes involv-ing debts paid in paper currency, to“make Amends for the depreciating ofsaid Bills from their present statedValue,” which was 6 2/3 shillings to anounce of silver. That is, the justices couldforce debtors to pay more than 6 2/3shillings to an ounce of silver to com-pensate creditors for the erosion in pur-chasing power of their money while itwas loaned out. (Creditors often do notfully anticipate inflation and do notcharge enough interest to compensate forinflation.) Every six months the purchas-ing power of the new bills was adjustedaccording to “the Rates that said Billsthen commonly pass at in Proportion toSilver and Bills of Exchange payable inLondon.”

Debtors complained that the equitylaw only considered the exchange ratiobetween paper shillings and silver, whichmight only reflect speculative activity,and ignored the cost of living in paper

shillings, which was more pertinent totheir lives. In 1747, the legislatureamended the equity law to provide that“when any valuation shall be made of thebills . . . in pursuance of said act [1742] . . .regard shall be had not only to silver andbills of exchange, but to the prices of pro-visions and other necessaries of life”(Lester, 1939). This law did not removeall disagreement about the rate of depre-ciation of the bills, but it diffused theissue until 1749 when Massachusettsreceived from Great Britain a large reim-bursement for war expenditures andbegan redeeming its paper money.

The colonial legislature faced similarproblems during the American Revolu-tion when Massachusetts soldiers com-plained that their pay, set at the time ofenlistment, had lost all but a tiny fractionof its purchasing power. To encouragereenlistment, the legislature computedthe original pay in terms of what itwould buy in Indian corn, beef, sheepwool, and sole leather, and compensatedthe soldiers accordingly for the balanceowed them in four bond issues, bearing6 percent interest. The bond issuesmatured in 1781, 1782, 1783, and 1784,successively. Soldiers refusing to enlistreceived similar bonds maturing in 1785,1786, 1787, and 1788. The legislatureindexed the principal and interest onthese bonds to the prices of four staplecommodities. A statement on the face ofthese bonds read:

both principal and interest to bepaid in the then current money ofsaid state [Massachusetts], in agreater or less sum, according asfive bushels of corn, sixty-eightpounds and four-sevenths parts of apound of beef, ten pounds of soleleather shall then cost, more orless, than one hundred and thirty

pounds current money, at the thencurrent prices of the said articles.(Lester, 1939, 158)

The advent of fiat paper currencyopened the possibility of episodes ofrapid inflation that was unknown inmonetary systems based on preciousmetal standards, such as gold and silver.Rapid bouts of inflation wiped out theclaims of creditors against debtors, set-ting the creditors against the debtors,and making the hidden seam separatingdebtors and creditors a major point ofsocial division and political discontent.Massachusetts Bay Colony demon-strated Yankee ingenuity in developinga scheme for balancing the interest ofcreditors and debtors at a time wheninflationary finance was inevitable.

See also: Massachusetts Bay Colony PaperIssue

ReferencesFisher, W. C. “The Tabular Standard in Mass-

achusetts History.” Quarterly Journal ofEconomics, vol. 27 (May 1913): 417–454.

Lester, Richard A. 1939/1970. MonetaryExperiments.

TALER

The taler was originally a German coinequal to three German marks, but theword “taler” became a common namefor currency that, in various guises,appeared in other languages and coun-tries. The English word “dollar” evolvedfrom “taler,” as did the Italian tallero, theDutch daalder, and the Swedish andDanish dalers.

The first talers came from Jachymov,now a small village in the Ore Moun-tains in the western part of the CzechRepublic. At the opening of the 16th cen-

398 | Taler

tury, Jachymov fell within the HolyRoman Empire and was administeredunder German authority. In 1516, thelocal ruler, Count Hieronymus Schlick,found a silver deposit close to his home.As early as 1519, Count Schlick, withoutofficial sanction, began minting silvercoins in his castle, and on January 1,1520, he received official approval tooperate a mint. Minting silver into coinswas probably more profitable than merelyselling silver. Between 1534 and 1536,King Ferdinand I ordered the constructionof an imperial mint in Jachymov. Thebuilding housing the imperial mint servedas a museum as late as 1976.

The coins were first called “Joachim-stalergulden” or “Joachimstalergroschen”after the German name for the valley,Joachimsthal, where they were minted.The names were shortened to “taler-groschen,” and later to “thalers,” or“talers.”

With the stimulus of silver mining,Jachymov blossomed into a bustlingcommunity of 18,000 inhabitants. In1568, a plague left its mark on this min-ing community, but the most severedevastation was wrought by religiousintolerance. Jachymov became stronglyProtestant, but the Bohemian monarchywas Catholic. Religious persecutionkilled the community, which could onlyboast of 529 inhabitants in 1613, and in1651, the government moved the offi-cial mint to Prague.

In the first year of operation, CountSchlick’s mint struck about 250,000talers. During the years of peak produc-tion, between 1529 and 1545, the minesproduced enough silver to mint 5 milliontalers. By the end of the century, CountSchlick’s mint had sent about 12 milliontalers into circulation.

The coinage of talers spread through-out the German-speaking world. During

the 16th century alone as many as 1500different types of talers found their wayinto circulation from various Germanstates and municipalities. By 1900, asmany as 10,000 different types of talershad been minted for metal currency andcommemoration medals.

Maria Theresa, a famous AustrianEmpress of the 18th century, gave hername to the best known, longest circulat-ing of all talers. In 1773, the GunzburgMint first struck a taler bearing the imageof Maria Theresa. After her death in 1780,subsequent talers were always dated1780. After the dissolution of the HolyRoman Empire early in the 19th century,the Austro-Hungarian Empire continuedto mint the Maria Theresa talers with the1780 date. Following the break up of theAustro-Hungarian Empire after WorldWar I, the Austrian Republic minted talersuntil Hitler invaded in 1937. Mussolinifound Maria Theresa talers the favoredcoin in Ethiopia, causing Italy to mint itsown talers between 1935 and 1937 tofacilitate trade with Ethiopia. After WorldWar II, the Republic of Austria resumedthe coinage of talers, still bearing the dateof 1780. Austria continued to mint talersuntil 1975.

See also: Dollar

ReferencesNussbaum, Arthur. 1957. A History of the

Dollar.Weatherford, Jack. 1997. The History of

Money.

TALLIES (ENGLAND)

In England tallies were wooden sticksthat functioned as instruments of creditand exchange in public finance. TheExchequer (treasury) began using talliesin the Middle Ages, and by the humor of

Tallies (England) | 399

history the use of tallies survived into theearly 19th century.

A tally was a wooden stick withnotches denoting various sums ofmoney. A notch the length of a man’shand denoted 1,000 pounds, and a notchthe width of a man’s thumb denoted100 pounds. A simple V-shaped notchrepresented 20 pounds. The handle ofthe tally remained notchless. In a credittransaction, the notched segment of thewooden tally was split lengthwise downthe middle and the handle remainedwith one half of the tally. The creditorkept the larger half with the handle, andthe debtor kept the smaller half, calledthe “foil.” The two halves would matchor “tally.” The tallies were assignable,meaning creditors could transfer owner-ship of tally debts to third parties. Inthis connection tallies circulated asmoney.

Tallies entered into the British publicfinance system in two ways. First, a citi-zen owing taxes to the government mighthand the Exchequer a tally, signifying adebt of taxes. The government would usethe tally to pay for goods and services.The recipient of the tally presented it tothe taxpayer who had the other half (thefoil) and demanded payment. A seconduse of tallies in public finance occurredwhen the government issued tallies inpayment for goods and services. In thisinstance, the government was the debtor,and tallies originating from the govern-ment could be used in payment of taxes.Originally, the government pledgedfuture tax revenue from specific sourcesearmarked for redemption of these tal-lies. Later, the government issued talliesto be redeemed from the general revenue.Tallies used as an instrument of govern-ment debt paid interest.

400 | Tallies (England)

Maria Theresa taler, 1780. (Paul Cowan)

It was this second use of tallies thatcontributed to the growth of a primitivemoney market in London. Purveyors ofgoods to the government received tallies,and discounted them—that is they soldthem at less than face value—to gold-smith bankers rather than using them inexchange, a practice that reached itszenith in the 17th century. The goldsmithbankers, in turn, expected the govern-ment to redeem at face value at somedate in the future the tallies they had pur-chased. Later, the Bank of England alsodiscounted tallies, creating an even moreready market in tallies and adding totheir acceptability in exchange.

By the 17th century, tallies werealready an anachronism, but they werenot officially discontinued until 1834. Inaddition to assisting the emergence ofthe London money market, talliesreduced the need for money minted fromprecious metals and eased pressure onthe English government to debase thecoinage to finance excess governmentexpenditures.

See also: Exchequer Orders to Pay

ReferencesDavies, Glyn. 1994. A History of Money.Dickson, P. G. M. 1967. Financial Revolu-

tion in England.Feavearyear, Sir Albert. 1963. The Pound

Sterling: A History of English Money.

TEA

In 19th- and early-20th-century Tibet,sheep served as a measure of value, butTibetans used tea as a medium ofexchange. Tea bricks and sheep alsoacted the role of money in Sinkiang.

In the 19th and 20th centuries, teabricks displaced sheep as currency in

inner Asia, and particularly Mongolia.During the 19th century, the Chinesepaid Mongolian troops in tea bricks.Consumers went to the market with asackful or cartload of tea bricks. A sheepcost between 12 and 15 bricks, and acamel between 120 and 150 bricks.Between two and five bricks could pur-chase a Chinese pipe. Credit transactionswere negotiated in tea bricks, and reportswere heard of houses purchased with teabricks. In Burma, a tea brick was themonetary equivalent of a rupee and cir-culated as such.

The weight and size of tea brickswere not always consistent, but twomain sizes predominated, one weigh-ing two and one-half pounds and alarger one weighing close to fivepounds. The bricks consisted of leafstalks of the tea plant mixed with otherherbs and glued with the blood of asteer or young bull. The inferior qual-ity tea went into the production of teabricks intended for monetary purposes,as if additional evidence was needed tovalidate Gresham’s law. This unappe-tizing concoction was shaped intobricks and dried in an oven. Value perunit of weight was not a selling pointfor tea brick money. The transportationof a $100 worth of tea required thesturdy back of a camel.

Asiatic Russia also furnished exam-ples of tea brick money, particularly inareas near the Mongolian border. Goodswere purchased and wages were paid intea bricks. Sugar, iron goods, tools, andarms also circulated among varioustribes, and in the 1930s, jam became afavorite and circulated as a medium ofexchange in these areas.

Evidence of tea money outside Asia isscanty. In medieval Russia, tea became aform of payment for government

Tea | 401

officials. Paraguay under Jesuit rule wasa barter economy, but there is evidenceof tea currency, including for the pay-ment of taxes.

Stimulants and depressants, concomi-tants of most if not all civilizations, showup frequently as money. Tobacco, cocoabeans, and various varieties of alcoholcome to mind as obvious examples. Teashares some of the characteristics ofthese commodities and carries a reli-gious significance in Buddhist cultures,rendering it a likely candidate to fill amonetary role.

See also: Commodity Monetary Standard

ReferencesEinzig, Paul. 1966. Primitive Money.Quiggin, A., and A. Hingston. 1949. A Sur-

vey of Primitive Money.

TOBACCO NOTES

See: Virginia Tobacco Act of 1713

TOUCHSTONE

Touchstones were stones used to test thepurity of precious metals such as goldand silver. Touchstones were also called“Lydian stones,” after the country ofLydia, the birthplace of precious metalcoinage and the first country creditedwith the use of touchstones. The spreadof gold coinage particularly increased theprofits that could be earned from adulter-ating and alloying gold coinage, andtouchstones offered an inexpensive anduseful test for purity of gold coinage.Both individuals and governments wereknown to reduce the purity of preciousmetals by alloying them with cheapermetals.

Touchstones were cut from blacksiliceous stone or opaque quartz, brown,red, or yellow in color, with a smoothsurface, and convenient for holding inone hand. Ancient and medieval assayerstested the purity of gold or silver by rub-bing the metal across a touchstone withsufficient pressure to leave a streak. Dif-ferent metals left streaks of different col-ors. The color of the streak left on thetouchstone by a metal of unknown puritycould be compared with the color of astreak left by a piece of metal of knownpurity. Nitric acid was put on the streaksto dissolve impurities, and sharpen thecontrast between the streaks of pure andimpure metal. From this comparison, anassayer rendered a judgment about thepurity of a metal. Because differences inshades of color can be slight, the testinvolved a significant subjective compo-nent. Nevertheless, the test brought tolight the more outrageous debasementsand was sufficiently accurate for mostpurposes.

Before the development of moreadvanced techniques, the Goldsmiths’Company of the City of London kept testmetals of known purity, called “touchneedles,” for use in making touchstonetests. The Company made available 24 gold needles for each of the traditional24 gold carats. They kept similar piecesfor silver.

Touchstone tests are not decisive indetecting silver alloyed with copper, butcan be used to assay gold with someaccuracy. By the 15th century, theTower Mint in London was using a newmethod, cupellation, which makes useof the tendency of various metals tofuse at high temperatures. The newmethod using fire grew out of the exper-iments of the alchemists during themedieval era.

402 | Touchstone

See also: Trial of the Pyx

ReferencesDavies, Glyn. 1994. A History of Money.Marx, Jennifer. 1978. The Magic of Gold.

TRADE DOLLAR

In 1873, Congress authorized thecoinage of the trade dollar, a special sil-ver dollar coin intended to facilitatetrade between the United States andChina, and to furnish a market demandfor rising silver production in the West-ern states. At first, the coin was legal ten-der only for up to $5, but Congress laterwithheld its legal-tender status. Thetreasury stopped minting the trade dollarin 1877, and Congress officially discon-tinued the coin in 1887.

Trade between the United States andthe Far East, particularly China andJapan, accelerated around 1869 through1870, and a popular medium ofexchange in the Pacific Basin was theMexican silver dollar containing 416grains of silver. The U.S. silver dollar,containing 412.5 grains of silver (beforediscontinuance on 1873), was not com-petitive with the Mexican dollar. Thestate of California petitioned Congress tocoin a silver dollar containing 420 grainsof silver, hoping to draw to Californiathe Chinese and Japanese trade thenflowing to Mexico.

The act of 1873, known in U.S. folk-lore as the Crime of ‘73, discontinuedthe silver dollar as a standard of value inU.S. coinage, but created the trade dollarstrictly for commercial purposes withother nations. The act defined the valueof the standard dollar strictly in terms ofa fixed weight of gold, and silvercoinage, excepting the trade dollar,remained only as a subsidiary coinage

with a face value exceeding the marketvalue of its bullion content. Apparently,Congress by accident gave the tradedollar a legal-tender status on par withthe other subsidiary coinage, making itlegal tender for debts up to $5. On July17, 1876, Congress passed a joint resolu-tion declaring that the trade dollar wasnot legal tender. The treasury mintednearly $36 billion of these coins, and allbut about $6 million of these coins wereexported.

The trade dollar was ill-fated from theoutset. The traditional U.S. silver dollarremained in circulation, although new sil-ver dollars were no longer minted. Theold silver dollars, containing 7.5 grainsless silver than the trade dollar, were legaltender, acceptable in payments of publicdebts, and the government was committedto maintaining their parity with the golddollar. The trade dollar had more intrinsicvalue, but enjoyed none of these charac-teristics, giving rise to no small amount ofconfusion. Declining silver bullion pricesput a tighter seal on the fate of the tradedollar, which commanded no officialvalue and was worth only the marketvalue of its silver content.

To put an end to an awkward situa-tion, Congress on February 19, 1887,discontinued the coin and authorized thetreasury to accept trade dollars inexchange for standard dollars or sub-sidiary coinage for a period of sixmonths. Congress further provided thatthe treasury melt down the trade dollarsreceived in exchange and recoin the sil-ver content as subsidiary coinage. Over$7 million of trade dollars flowed intothe treasury for exchange. As a legacy ofthe trade dollar, many Pacific nations,including Australia and New Zealandadopted the name “dollar” for theirdomestic currency.

Trade Dollar | 403

See also: Bimetallism, Crime of ‘73, FreeSilver Movement

ReferencesMyers, Margaret G. 1970. A Financial His-

tory of the United States.Nugent, T. K. Walter. 1968. Money and

American Society.Weatherford, Jack. 1997. The History of

Money.

TREASURY NOTES

Treasury notes were interest-bearingtreasury bonds that circulated as moneyin the pre–Civil War era in the UnitedStates. The notes were not legal tenderbut were accepted for payments owedthe federal government, including taxobligations.

For the first two decades of its exis-tence, the new government of the UnitedStates steered clear of the issuance ofgovernment notes that circulated asmoney. The hyperinflation during theAmerican Revolution remained athought-provoking memory of the dan-gers of paper money, and AlexanderHamilton stood as a staunch opponent oftreasury issues of paper money.

By the War of 1812, Congress was inthe hands of people without firsthandexperience of the Revolutionary hyperin-flation, and wartime demands forresources pressed hard on governmentofficials. On June 30, 1812, Congressauthorized the issuance of $5 million oftreasury notes, redeemable within oneyear, and paying 5.4 percent interest.The following years saw authorizationsfor additional issues, $5 million in 1813,$18 million in 1814, and $8 million in1815. The notes circulated as money andwere acceptable in payment of federalgovernment taxes.

The Constitution had strictly forbid-den the states from declaring any moneyother than gold and silver to be legal ten-der and did not expressly give the federalgovernment authority to declare anymoney legal tender. Most people at thetime felt that the issuance of legal-tenderpaper money was at best against thespirit of the Constitution, and at worstunconstitutional. On November 12,1814, Congress entertained a resolutionthat read as follows: “That the treasurynotes which may be issued as aforesaidshall be a legal tender in all debts due orwhich hereafter may become duebetween citizens of the United States orbetween a citizen of the United Statesand a citizen of any foreign state orcountry” (Breckinridge, 1969).

Congress brushed aside the idea ofdeclaring treasury notes legal tender in adecisive 95–45 vote. After the war thegovernment retired the notes. By 1817only 2 percent of the total issue remainedin circulation.

The money panic of 1837 sent thegovernment into a budgetary tailspin,and Congress again authorized theissuance of treasury notes. The noteswere to be redeemable in one year, andpay interest no greater than 6 percent.Some of these notes paid as little as0.1 percent interest per year. In 1838,Congress authorized the treasury to reis-sue treasury notes that had been paid infor taxes or other government obliga-tions, removing an important distinctionbetween treasury notes and circulatingpaper money. Congress authorized simi-lar issues in years leading up to andincluding the war with Mexico from1846 to 1848. By 1850, the governmenthad retired the treasury note issues, butin 1857 a budget crisis once again turnedthe government to treasury notes to meet

404 | Treasury Notes

a budget shortfall. These notes were ear-marked for retirement until the budgetcrisis of the Civil War overtook budget-ary policy. In 1862, the governmentbegan issuing legal-tender notes thatwere soon dubbed “greenbacks.”

The history of the treasury notesreveals how hesitant the federal govern-ment was to issue legal-tender papermoney. Congress accepted without ques-tion that the issuance of treasury noteswith the legal-tender function wasbeyond its power.

See also: Greenbacks, Legal Tender

ReferencesBreckinridge, S. P. 1969. Legal Tender.Hepburn, A. Barton. 1924/1967. A History of

Currency of the United States.Kagin, Donald H. “Monetary Aspects of the

Treasury Notes of the War of 1812.” Jour-nal of Economic History, vol. 44, no. 1(March 1984): 69–88.

Myers, Margaret, G. 1970. A Financial Historyof the United States.

TRIAL OF THE PYX(ENGLAND)

The Trial of the Pyx is a public trial ortest of the purity of gold and silver coinsthat began in the 13th century and con-tinues into the present day. In 1982,Queen Elizabeth II and Sir GeoffreyHowe, chancellor of the Exchequer,attended the Trial of the Pyx in celebra-tion of its 700th anniversary. The oldestextant writ ordering a trial came at thebehest of Edward I in 1282. Althoughsimilar tests were conducted at regionalmints, the most meticulous and thoroughtests were held for coins struck at theRoyal Mint in London.

To conduct a trial, a specified sampleof coins of each denomination was set

aside and stored in leather bags identi-fied by the month of coinage. In 1485, asample consisted of 10 shillings fromevery 10 pounds of gold and 2 shillingsfrom every 100 pounds of silver. Theseleather bags were put in a chest, or pyx.The pyx was locked with three keys, oneheld by the warden of the mint, a secondby the comptroller, and a third by themaster-worker. The crown could call fora trial every three months, but the trialswere much less frequent.

To conduct a trial, the officers of themint appeared before the Council in StarChamber, together with the lord trea-surer’s clerk and officials of the Exche-quer who brought the contractedspecifications for the weights and fine-ness of coins. The pyx was unlockedbefore the council.

The Trial of the Pyx has always madeuse of the most advanced methods forassaying gold and silver, beginning inthe earliest times with the use of thetouchstone. A public jury of 12 lawfulcitizens and 12 members of the Gold-smith’s Company of London actuallyconducted the public testing. If the juryheld the coins to meet the prescribedstandards, based on the fineness of thebullion sent to the mint by the crown, themaster-worker received a letter ofacquittance. If the coins fell short of therequired weight and fineness, the masterpaid a penalty to the crown proportionateto the profits the master skimmed byreducing the purity of the coinage. Ofcourse, the king was never broughtbefore a public jury to test the purity ofthe precious metal he sent to the mint.Presumably the mint master assuredhimself of the purity of the metal sup-plied by the king.

The custom of the Trial of the Pyxbore witness to the ever-present danger

Trial of the Pyx (England) | 405

of debasement of the coinage, either atthe hands of the crown, or at the hands ofdishonest mint officials. The longevity ofthe custom stood as a reminder of theimportance certain groups in society,particularly merchants and bankers,placed on the trustworthiness of thecoinage. The Trial of the Pyx helped theEnglish crown control the temptation todebase the currency, contributing to Eng-land’s reputation for sound currency andlaying the foundation for England’scommercial success.

See also: Touchstone

ReferencesChallis, C. E. 1978. The Tudor Coinage.Davies, Glyn. 1994. A History of Money.

TROUBLED ASSET RELIEFPROGRAM

The Troubled Asset Relief Program,known as TARP, was the cornerstone ofthe United States program to address theU.S. financial crisis that began in 2008.It came into being in October 2008 withthe enactment of the EmergencyEconomic Stabilization Act of 2008. Thelegislation was commonly billed as a$700 billion bailout for banks.

The TARP plan evolved over time butoriginally its purpose was to buy badloans, mortgage-backed securities, andcollateralized debt obligations frombanks. These assets went by the term“toxic assets” because they had no market value, and amounted to a severethreat to solvency of the banking system.At first it was thought that the govern-ment might be able to recover its invest-ment because it would be purchasingthese assets at bargain basement prices,and selling them for a profit later when

the financial crisis had passed. Furtherconsideration brought the realizationthat purchasing these assets at low pricesundercut the capitalization of the bank-ing system. Two weeks after the pro-gram’s enactment, the secretary oftreasury shifted the focus of the programto emphasize the purchase of preferredstock in banks and guaranteeing troubledassets. If a bank recovers with the bene-fit of the government’s help, and its stockclimbs, the government can sell its stakeand recover at least some of the taxpay-ers’ investment.

Citigroup was one of the large banksthat benefited from the program. TheUnited States Treasury first purchased$25 billion in preferred stock in Citi-group, and later another $20 billion. TheUnited States government in additionguaranteed troubled loans and securitieson Citigroup’s balance sheet on the orderof $306 billion. In return for the guaran-tees, the government received another$7 billion stake in Citigroup (Curran,November 25, 2008).

The government forced the top banksto participate in the government bailout.Otherwise, banks that elected not to par-ticipate would appear financiallystronger, which might give a competitiveadvantage over the banks that did partic-ipate. For smaller banks, participationwas voluntary. In the beginning, manysmaller banks worried that participationin the program was equivalent to a con-fession of financial weakness. Once thegovernment let it be known that it wouldnot let banks that were fundamentallyunhealthy participate in the program,perceptions changed. Banks began tofear that not applying for participationmight be regarded as financial weakness.

TARP drew criticism from the outset.The government did not seem to be

406 | Troubled Asset Relief Program

doing enough to track how banks wereusing the infusions of government capi-tal. Homeowners facing foreclosuresreceived no relief from TARP funds.People wondered why it was moreimportant to bail out Wall Street than tobail out families facing bankruptcy andhome foreclosure. None of the TARPfunds helped homeowners refinancemortgages that they could not pay. InDecember 2008, President Bush used hisexecutive authority to make TARP fundsavailable to U.S. automobile manufac-turers. Both General Motors andChrysler received TARP funds. The mostcontroversial beneficiary of TARP fundswas American International Group, alarge insurance company. In January2009, the new administration of Presi-dent Obama vowed to revise the TARPplan to alleviate the rate of homeforeclosures.

Bank bailouts became a global phe-nomenon in 2008. The United Kingdomestablished a plan similar in strategy andscale to the one in the United States. TheRoyal Bank of Scotland was the largestbeneficiary of government bailoutmoney in the United Kingdom. In 2008,Sweden announced a sweeping bailoutplan to save its banking system.Belgium bailed out a large bank inOctober 2008. Germany and Icelandboth bailed out financial institutions.Switzerland, eager to protect its status asglobal banking center, put together amassive recapitalization of the UnitedBank of Switzerland.

See also: Savings and Loan Bailout

ReferencesCimilluca, Dana. “The Financial Crisis:

Swiss Move to Back Troubled UBS;Under Plan, as Much as $60 Billion in

Troubled Asset Relief Program | 407

Treasury Secretary Timothy Geithner announces an overhaul of the Troubled Asset Relief Program(TARP) at the Treasury Department in Washington, D.C. on February 10, 2009. (ShawnThew/epa/Corbis)

Toxic Assets to be Taken Off BalanceSheet.” Wall Street Journal (EasternEdition), October 17, 2008, p. A3.

Curran, Rob. “Large Stock Focus: Citi Jumpson Bailout; B of A, Goldman Follow”,Wall Street Journal (Eastern Edition)November 25, 2008, p. C6.

Kessler, Andy. “What Paulson Is Trying toDo.” Wall Street Journal (Eastern Edition)October 15, 2008, p. A19.

Solomon, Deborah. “U.S. News: ObamaWorks to Overhaul TARP—Team Tries toMeld Some Paulson Ideas with Aid to Bor-rowers Facing Foreclosure.” Wall StreetJournal (Eastern Edition), December 17,2008, p. A3.

Williamson, Elizabeth. “U.S. News: RescueCash Lures Thousand of Banks.” WallStreet Journal (Eastern Edition), November3, 2008, p. A3.

TURKISH INFLATION

The March 2001 edition of Newsweekcarried an article entitled “Is This the Endof Inflation? Turkey’s currency crisismay be the last battle in the global waragainst hyperinflation.” The article citedTurkey as the last major country strug-gling against out-of-control prices. The1990s saw inflation rates around theworld subside to the point that someobservers suggested that the global econ-omy could turn the corner from inflationto deflation. Turkey was one exception tothe trend. As of 2008, Turkey had paredinflation down to single-digit territory.

Turkish inflation is more notable forits long, sustained rise in prices ratherthan for episodes of wild hyperinflation.Between 1964 and 2001, Turkey onlysaw two episodes of inflation that sentprices increasing at triple-digit rates, andeven then, the inflation rates fell short ofhyperinflation territory. In 1980, annualinflation soared to the 110 percent range.

In 1994, Turkey once again postedannual inflation rates around 110 percent(Leigh and Rossi, 2002). Nevertheless,average inflation rates steadily climbed.Between 1964 and 1980, annual inflationrates in Turkey averaged roughly 21 per-cent. Between 1981 and 1989, annualinflation rates in Turkey averagedroughly 41 percent. Between 1990 and2001, annual inflation rates averagedroughly 72 percent (Leigh and Rossi,2002).

The core problem appeared to be polit-ical. No one party could ever win anabsolute majority, and the coalitions puttogether to form governments encouragedshort-sighted thinking. Various govern-ments borrowed to pay for various vote-catching programs, including substantialpay raises to public employees. An ineffi-cient tax collection system and largeunderground economy compounded theproblems. Subsidies to sluggish state-owned enterprises and interest on the pub-lic debt added to the deficit. Before thespike in inflation in 1994, Turkey hadseen public sector borrowing as a percentof gross domestic product (GDP) risefrom 3.7 percent in 1986 to 12.3 percentin 1993 (Dowden, June, 1996). Short-term borrowing from the central bankaccounted for 15 percent of the govern-ment’s budget (Dowden, June, 1996).When central banks purchase governmentbonds, they add to the money stock in cir-culation. The central bank also had a his-tory of caving in to demands of ailingcommercial banks for more funds.

In 2001, the IMF approved a rescuepackage of $8 billion to help Turkeyavoid hyperinflation and debt default(Economist, May 2001). The $8 billionwas on top of a previous $11 billioncommitted under a previous anti-inflation program. The package came

408 | Turkish Inflation

with conditions that Turkey privatizedebt-ridden state enterprises, reform acorrupt banking sector, and increasegovernment tax collections. The IMFalso required Turkey to peg the Turkishlira’s value to a basket of euros and dol-lars. Turkey could not add to the supplyof Turkish lira without increasing thecentral bank’s holdings of foreignreserve assets.

Turkey brought down inflation withhighly stringent monetary policy. As of2006, Turkey’s central bank was keepingits key lending rate steady at 22.5 percentand inflation was hovering around 10 per-cent (www.emerging-markets-online.com,November 2006).

Persistent inflation left its marked onthe Turkish currency, the Turkish lira.Before the reform of the Turkish currencyin 2005, Turkey boasted the largestdenominated banknote in the world, a20 million Turkish lira banknote (Interna-tional Financial Law Review, 2005). Thelarge number of zeros in figures recordedin financial statements caused technicaland operational problems, particularly forbanks and the treasury. The Law on theCurrency Unit of the Republic of Turkey,No: 5308 became effective on January 1,2005. This law created a new currencyequal to the old currency minus six zeros.One unit of the New Turkish lira equaled1 million units of the old currency unit.Both the New Turkish lira and the Turkishlira circulated concurrently for one year.As of January 1, 2006, the New Turkishlira became the Turkish lira. All bankaccounts were converted from Turkishlira to New Turkish lira.

ReferencesDowden, Richard. “A Disaster that Hasn’t

Quite Happened.” Economist, June 8,1996, Special Section, pp. 8–13.

www.emerging-markets-online.com, Novem-ber 13, 2006, p. 19.

Economist. “Harsh Medicine.” May 19,2001, p. 48.

International Financial Law Review. “TheNew Turkish Lira.” vol. 24, no. 1 (January1995): 47–48.

Leigh, Daniel, and Marco Rossi. “LeadingIndicators of Growth and Inflation inTurkey.” IMF Working Paper (WP/02/231)December 2002.

TZARIST RUSSIA’S PAPERMONEY

Of the European countries, only Swedenbeat Russia to the punch on the issuanceof government-sanctioned paper moneyinconvertible into precious metal. Per-haps it is no accident that Russia firstsaw paper money under Catherine theGreat (1762–1795), whose wars brokethe power of Turkey and made Russia aplayer among the powers of Europe. Thefirst issue of paper money, called“roubles-assignats” appeared in 1768 tohelp finance the first Turkish war. Russiatermed its paper money “assignats”before the French issued their own, morefamous assignats during the French Rev-olution, which fueled one of the greathyperinflation episodes in history.

The government created two note-issuing Assignation Banks to issue thenotes. The supply of assignats swelled asCatherine fought a second Turkish warand wars with Sweden, Poland, and Per-sia. For the first two decades, the bourseexchange rate between assignat rublesand silver rubles traded close to par.Toward the end of the 18th century, theassignat rubles were trading at a 30 per-cent discount, and fluctuated around thatlevel until the Napoleonic strugglesincreased the government’s dependence

Tzarist Russia’s Paper Money | 409

on paper money. By 1811, a silver rubleequaled 3.94 assignat rubles. The victoryover Napoleon brought some improve-ment in confidence, but the trading rangeremained between 3 and 4 assignatrubles per silver ruble for the followingthree decades.

Between 1839 and 1843, Russia,under Nicholas I, reformed its currencyand issued new silver notes convertibleinto silver at a fixed rate. The assignatrubles were traded for the new silvernotes at a rate of 3.5 to 1.

During the Crimean war (1854), thesupply of paper rubles doubled andRussia suspended convertibility of its sil-ver notes. The value of the rubleremained uncertain and fluctuated untilthe period 1868 through 1875, when thegovernment succeeded in propping up

the ruble. Again, a war disrupted best-laid monetary plans during the Turkishwar of 1877 and 1878.

Until the adoption of the gold stan-dard (1897–1899), the ruble traded at amodest 30 percent discount, but fluctu-ated sharply in foreign exchange mar-kets, scaring away potential foreigninvestment. Russia adopted the goldstandard to attract foreign investors andbring in badly needed foreign capital.

See also: Inconvertible Paper Standard, Swe-den’s First Paper Standard

ReferencesCrisp, Olga. 1976. Studies in the Russian

Economy Before 1914.Pintner, Walter McKenzie. 1967. Russian

Economic Policy Under Nicholas I.

410 | Tzarist Russia’s Paper Money

411

U

UNITED STATES EAGLE

See: Coinage Act of 1792, Coinage Act of1834, Coinage Act of 1853

UNIVERSAL BANKS

In addition to the traditional commercialbanking activities of holding depositsand extending loans, universal banksoffer a full range of financial services,including underwriting, issuing newofferings of stocks and bonds, and bro-kering stocks and bonds. Some universalbanks provide insurance. Banks thatonly engage in underwriting new securi-ties, floating new offers of securities, andbrokering securities are called “invest-ment banks.” Universal banks combinedeposit banking of traditional commer-cial banking with investment banking.

In the 1800s, banks in continentalEurope and Germany in particular devel-oped along the lines of universal banks,whereas in Britain deposit banking andinvestment banking tended to remainseparate. In the United States, financier

moguls such as J. P. Morgan introduceduniversal banking in the United States inthe last decades leading up to World WarI. Congress cut short the development ofuniversal banking in the United Stateswith the enactment of the Glass–SteagallBanking Act of 1933. Aimed at restoringpublic confidence in banks, this act pro-hibited commercial banks from investingin the stock market or providing invest-ment bank services. In the Germanmodel of the 19th century, universalbanks purchased corporate stock for cus-tomers. In exchange, customers yieldedto banks proxies entitling banks to votethe customers’ shares in shareholdervotes. The banks also purchased corpo-rate stock on their own accounts. Thecontrol of a large piece of shareholderpower ensured that the banks held posi-tions on corporate boards of directors.The universal banks were also lenders tocorporations. By holding seats on boardsof directors, the banks had a voice in themanagement of companies that owedthem money. In addition, they had anincentive to watch out for mismanage-ment at the expense of stockholders and

creditors. It was an arrangement that puta large amount of power in the hands ofbanks.

In the post–World War II era, univer-sal banks enjoyed the greatest legalacceptance and experienced the fullestdevelopment in Germany. German uni-versal banks hold large equity positionsin corporations, have representatives ontheir boards, and exercise proxy votesfor customer shareholders. Japan andSwitzerland also followed the universalbanking model. The economic successof these countries, and particularly therapid economic growth in Germany andJapan, began to restore confidence inuniversal banking. Banks in these coun-tries help to minimize conflicts betweendebt and equity holders and keep corpo-rate management under tighter rein. Byensuring access to long-term financing,universal banks shield corporate man-agers from short pressures from fluctua-tions in stock market prices.

Particularly in Germany, critics raisedthe issue of universal banks dominatingthe German stock market. It is said thatrather than earning high dividends,banks were more interested in makingloans to corporations on whose boardsthey had representation. In the 1990s,Germany experienced several corporatefailures. In 1998, the German govern-ment enacted the Control and Trans-parency in Corporate Field Act. This actprohibits a bank holding more than5 percent of a company’s shares fromcontrolling the proxy voting rights for itsbank customers who also own shares inthe company.

In the 1990s, momentum began tobuild to approve universal banking in theUnited States. Critics worried that uni-versal banks would choose riskier invest-ments because under a system of FDIC

insurance the cost of funds to a bankdoes not vary with the riskiness of itsinvestments.

In 1999, the U.S. Congress lifted theban on universal banking with the pas-sage of the Financial Services Modern-ization Act of 1999. Replacing theGlass–Steagall Act of 1933, this actallowed the integration of banking,insurance, and stock-trading. By 2007,the United States boasted three largeuniversal banks, Citigroup Inc., JPMor-gan Chase & Co., and Bank of AmericaCorp (Wall Street Journal, September6, 2007). As the subprime financial crisisof 2008 unfolded in the United States,some observers felt the financial woesstemmed directly from dismantling thewall between deposit banking andinvestment banking. They were referringto the repeal of the Glass–Steagall Act.At first, the universal banks seemed tofare better than the investment banks.The financial crisis could be interpretedas a symptom of the shake-out and con-solidation that analysts expected fromthe enactment of the Financial ServicesModernization Act of 1999. As the finan-cial crisis widened, however, the stockvalues of Citigroup, JPMorgan Chase,and Bank of America crashed, and thefuture of the institutions was very muchin doubt. All three of the banks receivedlarge infusions of preferred stock invest-ments from the United States Treasury.

See also: Glass–Steagall Banking Act of 1933,Troubled Asset Relief Program

ReferencesEsen, Rita. “The Transition of German

Universal Banks.” Journal of InternationalBanking Regulation, vol. 2, no. 4 (2001):50–57.

Fohlin, Caroline. “Relationship Banking,Liquidity, and Investment in the German

412 | Universal Banks

Industrialization.” Journal of Finance, vol.53, no. 5 (October 1998): 1737–1758.

Sidel, Robin. “Do-It-All Banks’ Big Test;Universal Model So Far Weathers CreditCrunch, Remains Controversial.” WallStreet Journal (Eastern Edition, NewYork) September 6, 2007, p. C1.

Wall Street Journal (Eastern Edition). “Glassand Steagall Had a Point.” May 31, 2008,p. A10.

U.S. FINANCIAL CRISIS OF 2008–2009

The U.S. financial crisis of 2008–2009owed its origins to a failure of institu-tions to adjust to rapid innovation in thehome mortgage industry. The size andimportance of the United States in theglobal economic and financial systemleft little doubt that the outcome wouldtake on global dimensions.

The roots of the U.S. financial crisisgo back to the aftermath of the 1990seconomic prosperity. The 1990s sawthe longest economic expansionrecorded in U.S. history. The longexpansion received its thrust from aninvestment boom in information tech-nology industries. Easy credit fed theinvestment boom for a time. When theUnited States started tightening credit,a high-tech stock bubble burst, theinvestment boom ended, and the UnitedStates entered into recession. In a bidto resuscitate the United States econ-omy, the government again turned toeasy credit and bargain basement inter-est rates.

Low interest rates and easy creditbetween 2002 and 2005 sparked a boomin housing, creating a housing bubblecomparable to the high-tech stock bub-ble of the 1990s. A housing bubble

posed special risk to the financial sys-tem because houses are one asset thatcan be purchased with small down pay-ments. Compared to purchasers of cor-porate stock, purchasers of houses canput in a much smaller share of their ownmoney.

Dodd and Mills (June 2008) lay outevery step in the development of the cri-sis. A long upswing in house prices hadput creditors at ease about the risk ofhome mortgages. A house seemed to bebullet-proof collateral. Lenders begangranting riskier loans and being lessthorough in verifying the income, jobs,and assets of borrowers. Some mort-gage originators went so far as to offerinterest-only loans and negative amorti-zation payment options. Negative amor-tization meant the borrower’s monthlypayment was not even covering all theinterest charges, much less payingdown the principal. Lenders felt thatescalation in house prices assured that ahouse could always be refinanced forlarger amounts, or sold to pay off amortgage. Rising house prices shouldtranslate into falling loan-to-valueratios for creditors.

Another weak link in the stability ofthe financial situation was in the processof packaging home mortgages into finan-cial securities. Investors buying thesemortgage-backed securities had to relyon the same credit rating agencies thatrated bonds. Well-established and rep-utable rating agencies such as Standardand Poor’s and Moody’s had performedwell in rating bonds but had little knowl-edge or experience in mortgage-backedsecurities. Since mortgage-backedsecurities were new, no historical dataexisted to estimate past performance andrisk. These agencies awarded top ratingsof AAA to over 90 percent of the

U.S. Financial Crisis of 2008–2009 | 413

mortgage-backed securities based onsubprime loans (Dodd and Mills, June2008).

Investors purchased mortgage-backedsecurities with borrowed funds andcounted on being able to trade out ofthese investments in a hurry to cutlosses. Mortgage-backed securities,however, were sold in an over-the-counter market, and no dealers commit-ted themselves to making a market forthem. As the poor quality of the mort-gages became evident, no dealers cameforward willing to maintain an inventoryof these securities. The market formortgage-backed securities became amarket where everybody wanted to selland nobody wanted to buy.

The magnitude of investor lossesfrom mortgage-backed securitieswould have been easily manageable ifthe problem had not had wider impli-cations. Mortgage delinquencies andhome foreclosures began to mount in2006 and 2007 amid an otherwiseexpanding economy. It became clearthat many homeowners could onlymake their mortgage payments if homeprices continued to escalate, allowingthem to refinance their homes beforethe teaser interest rates on their exist-ing home mortgages expired. It wasequally obvious that many loan appli-cations had inflated measures of bor-rowers’ income and house appraisalvalues. Falling home prices triggered awave of foreclosures. Upward interestrate adjustments on adjustable-ratemortgages worsened an already badsituation.

A related casualty of the mortgage-backed securities market debacle wasinvestor confidence in the credit ratingsagencies such as Standard and Poor’sand Moody’s. These agencies were

forced to downgrade the credit ratings ofmortgage-backed securities at a muchfaster pace than had ever been seen forcorporate bonds.

The month of July 2007 saw a signifi-cant round of ratings downgrades formortgage-backed securities. Wall Streethedge funds began trying to liquidatelarge positions in these securities. InAugust 2007, the French bank BNPParibas suspended withdrawals fromsome money market funds that wereheavily invested in U.S. mortgage-backedsecurities. The bank claimed it had noway of putting a value on these assets.Expecting a wave of customer cash with-drawals, other money market fund man-agers shifted these portfolios frommedium- and long-term bank depositsand commercial paper to overnightdeposits. The strong demand for liquiditydrained the supply of funds for short-termcommercial credit instruments. The mar-ket for what was called “asset-backedcommercial paper” collapsed.

The collapse of the asset-backed com-mercial paper market brought to the sur-face the role of the structured investmentvehicles that a number of banks spon-sored as off-balance sheet entities. Bankssponsored these off-balance sheet enti-ties to skirt banking regulations. Theyamounted to a hidden banking system.These structured investment vehiclesraised funds by selling asset-backedcommercial paper and invested the fundsin longer-term assets that paid higherinterest rates. Part of the arrangementwas that the sponsoring banks were obli-gated to provide credit to the structuredinvestment vehicle when necessary.When the market for asset-backed com-mercial paper collapsed, sponsoringbanks had to meet unwanted and incon-venient loan commitments.

414 | U.S. Financial Crisis of 2008–2009

Banks, unable to raise funds by sell-ing loans and fearful of depositor with-drawals, set to hoarding liquidity. Theywere caught in a squeeze between keep-ing loans on their books that they hadplanned on selling, and honoring loancommitments to hedge funds and corpo-rate entities, commitments that theywished they had not made.

In March 2008, the Wall Street firm ofBear Stearns saw a run on its depositsthat would have ended in bankruptcy ifthe Federal Reserve had not assisted in itsacquisition by JPMorgan Chase. In Sep-tember, the United States governmentannounced a takeover of Fannie Mae andFreddie Mac, two government-sponsoredenterprises concerned exclusively withthe home mortgage market. Later inSeptember, the Wall Street firm LehmanBrothers failed. The United States Trea-sury refused to bail out Lehman Brothers

but did encourage other firms to acquireit. When no buyers appeared, LehmanBrothers went into liquidation.

Another important industry founditself drawn in to the mortgage-backedsecurity debacle. Bond insurers usuallyprovided investors with default insur-ance against municipal and infrastruc-ture bonds. The firms had begun sellingdefault insurance for the mortgage-backed securities. Rising mortgagedelinquencies and foreclosures ham-mered the stocks and credit ratings ofbond-insuring companies and left indoubt the ability of these companies tohonor default insurance claims in themunicipal bond market and the studentloan market, making these investmentsmuch less attractive.

The outcome of these developmentswas a banking system less willing andable to make loans and demanding

U.S. Financial Crisis of 2008–2009 | 415

Media and pedestrians gather in front of the Lehman Brothers headquarters in New York onSeptember 15, 2008, the day the 158-year-old financial firm filed for bankruptcy. (AP Photo/ LouisLanzano)

tighter criteria of credit worthiness. Aseizing of credit markets hobbled privateinitiative among producers and con-sumers. The forces of recession gatheredstrength as firms across industriesreported falling earnings. October 2008,stock markets around the world entered asteep slide. The world braced for aglobal recession. Economic policy mak-ers assumed that the economic situationin the United States was developingalong the lines of a liquidity trap. TheFederal Reserve System, the centralbank of the United States, pushed its pol-icy interest rate to near zero and allowedbanks to use a wider range of assets toborrow funds. The U.S. government metthe crisis with plans for massive increasesin deficit spending. In a liquidity trap,massive government spending is neededto offset the combined effects of strongliquidity preference and pessimisticexpectations.

See also: Liquidity Trap

ReferencesDodd, Randall and Paul Mills. “Outbreak:

U.S. Subprime Contagion.” Finance andDevelopment, vol. 45, no. 2 (June 2008):14–19.

Kelly, Kate. “The Fall of Bear Stearns: Fear,Rumors Touched Off Fatal Run on BearStearns; Executives Swung From Hope toDespair in the Space of a Week.” WallStreet Journal (Eastern Edition), May 28,2008, p. A1.

Paletta, Damian, Susanne Craig, DeborahSoloman, Carrick Mollenkamp, andMathew Karnitschnig. “Lehman FataSpurs Emergency Session; Wall StreetTitans Seek Ways to Stem WideningCrisis.” Wall Street Journal (EasternEdition), September 13, 2008, p. A1.

Reddy, Sudeep. “U.S. News: Fed ExtendsLending Programs as Threats Persist;Move Reflects Worry Over ‘Fragile’

State of Financial Market.” Wall StreetJournal (Eastern Edition), July 31, 2008,p. A3.

USURY LAWS

Usury laws either prohibit payment ofinterest on loans or set a maximum inter-est rate that lenders can charge. Histori-cally, the medieval Catholic Churchdisapproved of charging interest onloans. As late as 1950, Pope Pius XII feltit necessary to reassure people thatbankers earn their livelihood honestly. Inthe late medieval period, the Churchbegan to relent, allowing certain formsof credit involving the payment of up to5 percent interest.

In the early history of France, theFrench crown often forced subjects toloan money to the crown at zero percentinterest. Businesses worked around theChurch’s prohibition on interest. In1311, Philip the Fair (IV), drawing a dis-tinction between usury and trade loansmade at fairs, set a maximum of 2.5 per-cent interest for commercial loansbetween fairs. (The annualized rate ofthis maximum equaled about 15 percent.)In 1601, Henry IV, for reasons that wereunclear, issued an edict putting a 6.25percent legal ceiling on interest rates.The edict was widely disregarded, buthis government probably saw it as a wayof promoting commerce. Under theregime of Cardinal Richelieu, the crownissued a royal edict (1634) further reduc-ing the legal rate of interest to 5 5/9percent, citing the evil effects of highinterest rates that allow people to live oninterest income instead of engaging incommerce.

During the time of Colbert, LouisXIV issued a royal edict (1665) lowering

416 | Usury Laws

the maximum rate of interest to 5 per-cent. The discussion leading up to thisedict was revealing. Feeling pangs ofconscience for sanctioning the paymentof interest, given the attitude of theChurch, Louis XIV before issuing theedict held an informal meeting withfive of the “most learned doctors” ofSorbonne to discuss the matter. The deanof the faculty spoke first and said thatsuch a weighty matter should be dis-cussed at a meeting of the whole faculty.The faculty took up the subject in thelight of scripture, writings of churchfathers, the decisions of various coun-cils, and decrees of popes. One of thedoctors reported their findings sayingthat “no doctor of the Sorbonne couldapprove the proposition that one couldtake interest on money or set the ratethereof” (Cole, 1964).

In 1766, a law attempted to lower theinterest rates in France from 5 percent to4 percent, but it was not obeyed, leavinginterest rates in the 5-percent range untilthe French Revolution, when interestrate ceilings were abolished.

Even in England, the most commer-cialized of the European states, charginginterest was a shady activity. Writing inthe early 1600s, the famous Englishphilosopher and statesman, FrancisBacon, cited arguments of his dayagainst usury, which he defined as “inter-est, not necessarily excessive.” It wassaid that “the usurer is the greatest Sab-bath-breaker, because his plough goethevery Sunday . . . that the usurer breakeththe first law that was made for mankindafter the fall which was . . . in the sweatof thy face shalt thou eat bread—not inthe sweat of another’s face” (Bacon,1969).

Under the reign of Elizabeth I, theEnglish government enacted a usury

law condemning but allowing a maxi-mum of 10 percent interest to be paid.The wording of this law reflected thegradual change in the meaning of theword “usury.” Now the term “usury”referred to excessive interest. The legalinterest rate ceiling in Englandremained at 10 percent from 1571 to1624. From 1624 to 1651, the interestrate ceiling stood at 8 percent, and theperiod from 1651 to 1714 saw interestrates fall to 6 percent. An amendment tothe usury law in 1715 reduced the ceil-ing to 5 percent, where it remained untilthe end of the 18th century. Parliamentabolished the usury law in 1854. Interestrate ceilings did not apply to loans tothe government.

In the United States, individual stateskept usury laws on the books into the1970s. High inflation rates in the 1970slifted interest rates well above stateusury ceilings, and states repealed usuryceilings to prevent a disappearance ofcredit financing. Toward the end of the1980s, interest rates began a long down-ward swing that continued into the newcentury, easing concern about usuriousinterest rates. During the financial crisisof 2008, governments pushed interestrates to record low levels. Concern wasexpressed about what would happen ifinterest rates reached a natural floorclose to zero and government lost itsability to push them lower. A govern-ment unable to lower interest rateswould find it more difficult to revive asluggish economy.

The view has survived into the modernera that low interest rates contribute toeconomic prosperity. The proper methodof securing low interest rates, however, isto provide for an ample supply of creditrather than putting a legal lid on interestrates. The ample supply of credit must

Usury Laws | 417

come from savings rather than printingup new money, which can cause inflation.

See also: Interest Rate, Medici Bank

ReferencesBacon, Sir Francis. 1625/1969. Civil Essays.Clapham, Sir John. 1951. An Economic

History of Modern Britain.

Cole, Charles Woolsey. 1964. Colbert and aCentury of French Mercantilism.

Glaeser, Edward L. 1994. Neither a Borrower,Nor a Lender Be: An Economic Analysis ofInterest Restrictions and Usury Laws.

Homer, Sidney. 1977. A History of InterestRates, 2nd ed.

418 | Usury Laws

419

V

VALES (SPAIN)

Vales were Spanish paper money notesissued in the late 18th century and theNapoleonic era, the first paper moneyissued in Spain. During the last half ofthe 18th century, the gold and silvermines of Spanish America supplied thelion’s share of the world’s precious met-als, and mints in Spain and the Indiesstruck most of the coins. Vast gold andsilver resources were of little avail whenwar interrupted the flow of trade with theNew World, compelling Spain to turn tothe issuance of paper money.

War between Great Britain and Spain,the major colonial powers in the NewWorld, broke out in 1779. Charles III,king of Spain, refused, perhaps out offear, to raise taxes to fight the war. Alsoa history of defaults and bankruptciesdamaged the ability of the Spanish gov-ernment to float bond issues. A royaldecree of September 20, 1780, author-ized the issuance of 16,500 vales, eachwith a face value of 600 vellon pesos andbearing 4 percent interest. A syndicate of

Dutch, French, and Spanish merchantshad offered to extend funds to theSpanish government in return for interest-bearing notes that passed as legal-tendermoney.

Once a year, the vales were returnedto the treasury for payment of interest,inspection for counterfeited issues, andrenewal for another year. A holder of avale endorsed it before passing it on inexchange, and the holder of a counter-feited vale was entitled to reimbursementfrom the last endorser.

The vales were legal tender for pay-ment of taxes and other obligations to thecrown, promissory notes and other pri-vate debts, and bills of exchange. Credi-tors had to accept vales even when speciehad been stipulated in the contract’sterms. Anyone refusing to accept vales asthe equivalent of specie faced exile fromSpain and exclusion from business deal-ings with Spain abroad. Vales had legal-tender status only for transactions equalto or exceeding 600 pesos, and recipientsof salaries, wages, and pensions couldrefuse to accept them.

Other issues of vales followed on sim-ilar terms. The first issue drew a 10 percent commission to the syndicatesupplying the funds, and subsequentissues drew a 6 percent commission.

The strains of the four-year war withGreat Britain led to a modest overindul-gence in paper money, and at times valescirculated at 15 to 20 percent discountsrelative to specie. At the war’s end, bul-lion and specie again flowed into Spainfrom the New World, and vales circu-lated at par again. The retirement of aportion of the vale issues further boostedtheir value. In 1781, the Bank of Spainwas chartered partly as a means for theorderly retirement of paper-moneyissues, an unusual mission for the type ofbank usually known for issuing papermoney.

In 1793, war erupted with Revolution-ary France, and the Spanish governmentagain balked at raising taxes. At theopening of the war, vales were circulat-ing at par and suffered little depreciationdespite the 300 percent increase in thesupply of vales over the course of the 28-month war.

When Spain went to war with GreatBritain again in 1796 the strains ofwartime finance reached the breakingpoint. After resisting the issuance ofadditional vales for the first three yearsof war, the Spanish increased the supplyof circulating vales by 50 percent in1799. The inflation cooker now boiledover, and vales began to depreciaterelative to specie. When a governmentoffice began to redeem small amounts ofvales in hardship cases, a riot ensuedafter people formed a long line, andsome bought places in line. By 1801,vales had depreciated by 75 percent.

Monetary chaos continued in Spain asthe Napoleonic struggle spread to Spain,

first with occupation by Napoleon andthen by the Duke of Wellington. By thewar’s end, the value of the vales hadfallen to 4 percent of their par value.After the war, the government stoppedprinting vales and the inflation ceased.

See also: Bank Restriction Act of 1797, Incon-vertible Paper Standard

ReferencesHamilton, Earl J. 1969. War and Prices in

Spain: 1651–1800.Kindleberger, Charles P. 1984. A Financial

History of Western Europe.

VALUE OF MONEY

The value of money has to do with thepurchasing power of a unit of money.One approach to the measurement ofmoney value is to look at its preciousmetal equivalent. Under a gold standard,a dollar should be worth approximately adollar’s worth of gold. Under a gold coinstandard, the value of a dollar could dropbelow a dollar if the government reducesthe gold content of its coinage relative toits face value. Under such circumstancesit might be appropriate to say that a dol-lar is worth only 75 cents or 50 cents,based on the value of its precious metalcontent.

Despite the widely hailed virtues ofprecious metal backing for money, theamount of precious metal a unit ofmoney can buy is not the essential factorto individual consumers, who have tothink of the cost of things they must buyto maintain themselves and their fami-lies. Furthermore, under an inconvert-ible paper standard such as that of theUnited States, where even the metalliccoinage is token money, the value ofmoney is divorced from any precious

420 | Value of Money

metal connection. The true measure ofmoney value is in terms of its purchas-ing power.

The value of money can only bemeasured relative to its value at a pointin time. Assume that $1 is equal to $1 in1987. If prices double from inflation inthe following decade, and in 1997 ittakes $2 to buy what $1 would havebought in 1987, then it would be appro-priate to say that today’s dollar is worthonly 50 cents.

In practice, government statisticiansand economists calculate price indices,such as the wholesale price index, theconsumer price index, or the grossdomestic product (GDP) deflator, whichshow the ratio of a weighted average ofprices in a given year over a weightedaverage of prices in some arbitrarilyselected base year. If the base year is1987, then the price index is set to 100for that year. If prices go up 10 percentover the following year, then the priceindex for 1988 will be 110, indicatingthat it takes $1.10 to purchase what $1would have bought the year before.

In 1998, the United States GDP defla-tor (base year = 1987) stood at 137.33.The value of a dollar can be calculated bydividing 137.33 into 100 (100/137.33),which equals 0.73, indicating that a dollar was worth only 73 cents in 1998.Keeping the base year at 1987, the GDPdeflator for 1970 equals 34.5. The valueof the 1970 dollar equals 100/34.5, or$2.90, meaning a dollar in 1970 wasworth $2.90 cents relative to a 1987 dol-lar. In this context it would be appropri-ate to say that a dollar in 1970 was worth$2.90.

For a currency to be useful as a storeof value and standard of deferred pay-ment, it must maintain its purchasingpower. A general rise in prices,

commonly known as inflation, can beinterpreted as a decrease in the value of aunit of money.

See also: Inflation and Deflation, MonetaryTheory

ReferencesKlein, John J. 1986. Money and the Econ-

omy, 6th ed.McCallum, Bennet T. 1989. Monetary Eco-

nomics.

VARIABLE COMMODITYSTANDARD

Under a variable commodity standard, acurrency is officially redeemable in acertain amount of a commodity, such asgold, but the authorities may vary theredemption rate, depending on othereconomic conditions. If the commodityis gold, the monetary authorities wouldvary the amount of gold the central bankstood ready to buy and sell for a unit ofcurrency (e.g., a dollar) to maintain thevalue of the currency.

One of the legacies of the inflation-ridden 1970s and early 1980s was arenewed search for an inflation-proofcurrency. Issues surrounding the forma-tion of the European Monetary Unionand the planned development of a singleEuropean currency focused additionalattention on schemes of monetaryreform. In the late 1980s, numerous pro-posals for monetary reform surfaced thatincorporated the concept of a variablecommodity standard. The commontheme in these proposals was the idea ofa currency whose value is tied to aweighted basket of goods. The emphasiswas on a currency not convertible into afixed weight of gold, or othercommodity, but convertible, at least

Variable Commodity Standard | 421

indirectly, into a weighted basket ofgoods.

Irving Fisher made one of the firstproposals for a variable commodity stan-dard in 1926. He called it the “compen-sated dollar” and it required periodicadjustments to the rate at which dollarswere redeemable into gold. The magni-tude of the adjustments was based on thedeviations of the current dollar value of abasket of goods from the value of thesame basket of goods at a point in time.The purpose of Fisher’s proposal was tostabilize the value of the dollar in termsof a basket of goods, rather than a singlecommodity.

More recent proposals abandoned theidea of periodic adjustments in favor of acurrency indirectly convertible into aweighted basket of goods at all times.Under these plans, the monetary author-ities would constantly evaluate the valueof a weighted basket of goods in terms ofa weight of gold or other commodity,and would stand ready to redeem a unitof currency in the amount of gold neededto purchase the weighted basket ofgoods.

The weighted basket of goods in theseschemes would be identical with theweighted basket of goods in a priceindex, such as the wholesale price index(WPI). The weighted basket of goodsmight be viewed as a unit of a compositegood composed of all the goods in theWPI, and combined in the same propor-tions as in the WPI. The variable com-modity standard then is seen for what itis: A commodity standard that replacesgold or a single commodity with a com-posite of goods. If the value of a unit ofcurrency (e.g., dollar) remained constantrelative to its ability to purchase a unit ofa such a composite good, then by defini-tion the inflation rate would be zero.

The mechanics of these schemes havenot been worked out satisfactorily, atleast for operation over an extendedperiod of time. Recent discussions ofvariable commodity standards, however,may indicate that the inconvertible paperstandard may not represent the pinnaclestage of evolution in monetary standardsand that in the eyes of some theoreticalresearchers there is room for improve-ment.

See also: Commodity Monetary Standard, GoldStandard, Symmetallism

ReferencesCoats, Warren L. “In Search of a Monetary

Anchor: A New Monetary Standard.”International Monetary Fund WorkingPaper. no. 82.

Fisher, Irving. 1926. Stabilizing the Dollar.Schnadt, Norman, and John Whittaker.

“Inflation-proof Currency? The Feasibil-ity of Variable Commodity Standards.”Journal of Money, Credit, and Banking,vol. 25, no. 2 (1993): 214–221.

VEHICLE CURRENCY

A vehicle currency is a currency thatindividuals and businesses favor forinternational transactions. Individualsand businesses from a particular countrydo not always favor their home currencyfor international transactions. A businessin Japan might issue bonds denominatedin U.S. dollars, and a French investormight purchase one of the bonds. Thetransaction takes place in U.S. dollarseven though no one from the UnitedStates is involved in the transaction.Bonds, short-term financial instruments,and bank accounts can be denominatedin any number of currencies. A vehiclecurrency is the closest thing to an inter-national currency.

422 | Vehicle Currency

The U.S. dollar emerged from WorldWar II as the leading vehicle currency.Depression, wartime finance, anddeclining shares of world trade hadundermined the leading Europeancurrencies. Before the U.S. dollar rose toprominence, the British pound acted asthe preeminent currency in internationaltrade.

The depreciation of the U.S. dollarand the introduction of the euro have ledsome observes to doubt the future of thedollar as the dominate vehicle currency.In April 2008, Iran announced that it wasstopping the practice of selling oil inU.S. dollars, citing the depreciation ofthe dollar. The Organization of Petro-leum Exporting Countries (OPEC) hasalways priced oil in U.S. dollars, but Iranhas been lobbying within OPEC to sub-stitute a basket of currencies for the U.S.dollar. Members of OPEC friendlier tothe United States have so far resisted thechange.

Criteria that define a currency as avehicle currency included statistics suchas the share of exports and importsinvoiced in the currency, and the share ofinternational bonds denominated in thecurrency. On the eve of the introductionof the euro, 43.6 percent of internationalbonds were denominated in U.S. dollars,and 13.6 percent were denominated inJapanese yen (Bank for InternationalSettlements, 1998).

The U.S. dollar remains the dominatevehicle currency, but there is evidence thatit has yielded ground to the euro, accord-ing to Working Paper no. 665 of the Euro-pean Central Bank. According to thisstudy, between 2000 and 2003, the shareof Japan’s exports invoiced in euroincreased from 7.6 percent to 9.6 percent.Over the same period, the share of Japan’sexports invoiced in U.S. dollars slipped

from 52.4 percent to 48.0 percent. Theimportance of the U.S. dollar shows up indata for the emerging markets. Between2000 and 2004, the share of Indonesia’sexports invoiced in dollars increased from92.7 percent to 93.6 percent. Between2000 and 2004, Israel’s share of exportsinvoiced in euro declined from 24.6 per-cent to 23.9 percent, whereas the samenumbers for the U.S. dollar grew from62.6 percent to 64.7 percent. In 2003, 33.6percent of France’s exports and 24.1 percent of Germany’s exports weredenominated in dollars.

Certain factors account for the emer-gence of a dominant vehicle currency.Firms selling goods in a global marketmay not want the price of their prod-ucts fluctuating relative to the pricescharged by competitors. Therefore,they invoice their sales in the same cur-rency used by their competitors. Thistendency is strongest among competi-tors producing goods that are virtuallyidentical, such as steel or copper. Thistendency is not as strong among firmsproducing products that do not haveclose substitutes.

In addition, firms and investors lookfor currencies that do not sharplyfluctuate in value. Sellers do not want theprices of products fluctuating becauseprices are invoiced in a currency thatexhibits wild fluctuations. Similarly,investors do not want foreign investmentfluctuating in value because theinvestments are denominated in foreigncurrencies that are unstable. The U.S.dollar grew to prominence as a vehiclecurrency when the United States was onthe gold standard, and the U.S. dollarremained equal to a gold equivalent.Inertia also appears to be a factor inhelping a currency hold on to its positionas a vehicle currency.

Vehicle Currency | 423

See also: Dollar

ReferencesBank for International Settlements, Annual

Report, Basel, Switzerland, 1998.Goldberg, Linda S. and Cedric Tille. “Vehi-

cle Currency Use in International Trade.”Federal Reserve Bank of New York, StaffReport no. 200, January 2005.

Kamps, Annette. “The Euro as InvoicingCurrency in International Trade.”European Central Bank, ECB WorkingPaper no. 665, August 2006.

VELLON

Originally, vellon was a mixture of copperand silver that became widely used forsubsidiary coinage in Spain in the 16th,17th, and 18th centuries. Over its history,vellon took several forms. Calderilla, anearly type of vellon, contained a variablebut modest amount of silver, and wascoined mainly in the 16th century. Anothertype of vellon, rich vellon, was coinedmainly in the 17th century and contained atoken 6.95 percent silver. A pure coppervellon containing no silver or metal alloysalso appeared in the 17th century.

Vellon was coined into units ofmaravedis, ranging from 0.5 maravedi to12 maravedis. The maravedi was a largeMoorish coin that emerged as thesmallest unit of account in the Castilemonetary system.

Vellon coinage circulated before theera of paper money in Spain. Just aspaper money bears a face value far inexcess of the value of the paper, velloncoins bore face values far in excess ofthe value of their metal content. 17th-century Spain saw one of the last greatepisodes of inflation before the develop-ment of paper money vastly multipliedthe inflationary potential of modern

monetary systems. As Spain debasedvellon coinage to pure copper, velloncoins drove out silver and gold coinsaccording to the merciless logic ordainedby Gresham’s law. The governmentcalled in vellon coins and restampedthem at higher values, and in time vellonwas carried in bags to transact business.

In 1654, the government complainedthat owners of calderilla had not surren-dered them as requested and ordered thatwithin a month all calderilla should beused to pay government obligations orreturned to the mint for restamping.Nobles who failed to comply within thespecified time faced six years’imprisonment, and commoners faced acomparable sentence to the galleys.

Like modern paper money, counter-feiters saw vellon coinage as an oppor-tunity to profit from differences inintrinsic values, based on metal content,and extrinsic values, reflected in facevalues. On October 29, 1660, thegovernment enacted a statue settingforth that: (1) counterfeiting, and effortsto import vellon counterfeited abroad,were capital offenses; (2) importing,receiving, or assisting the importation ofcounterfeit coins would lead to confisca-tion of importing vessels, forfeiture ofgoods, and burning at the stake; and (3)a mere failure to denounce smugglingand counterfeiting merited a sentence tothe galleys and confiscation of goods.

Early in the 18th century, Spain’sgovernment limited the legal-tender sta-tus of vellon to transactions under 300reales, and placed the practice of sellinggold and silver at a premium in a cate-gory with “theft, highway robbery, andcounterfeiting,” with penalties commen-surate with the crime. Meanwhile,economic growth had caught up withmonetary policy, stabilizing the value of

424 | Vellon

vellon coinage, and monetary order wasfor a time restored in Spain.

See also: Copper, Spanish Inflation of the 17thcentury

ReferencesGrice-Hutchinson, Margorie. 1993. Economic

Thought in Spain: Selected Essays ofMargorie Grice-Hutchinson.

Hamilton, Earl J. 1969. War and Prices inSpain: 1651–1800.

Vives, Jaime Vicens. 1969. An EconomicHistory of Spain.

VELOCITY OF MONEY

The velocity of money is the averagenumber of times per year that a unit ofcurrency (e.g., U.S. dollar, Japanese yen,German mark) is spent on goods andservices. From a theoretical perspective,a percentage change in the velocity ofmoney can have the same impact onprices or other economic variables as anequivalent percentage change in themoney supply.

Sir William Petty (1623–1687) mayhave been the first writer on economicsto describe the velocity of money.He advanced the plausible view that thevelocity of money was determined bythe frequency of people’s pay periods.The famous philosopher John Locke(1632–1704) wrote on monetary eco-nomics and referred to the ratio of a coun-try’s money stock to its trade, a conceptbearing a marked resemblance to velocity.By the mid-20th century, the concept ofvelocity was a cornerstone of monetaryeconomics, which is the study of the rela-tionship between the money supply andprices, interest rates, and output.

A measure of velocity can becalculated by dividing a measure of a

nation’s output (i.e., gross domesticproduct, or GDP) by a measure of themoney supply. Between 1945 and1981, one measure of velocity variedbetween two and seven. The stability ofvelocity, its tendency to fluctuate in anarrow range, remains one of theimportant theoretical questions in mon-etary economics.

Under conditions of hyperinflation,money loses its value quickly and peopletry to spend it faster. During the classiccase of the German hyperinflation afterWorld War I, workers were paid at half-day intervals and took off work to spendtheir wages before they lost their value.These are the conditions that set velocitysoaring, further feeding the inflationarymomentum that begins with excessmoney supplies.

A depression economy, particularlywhen coupled with falling prices, maylead households and businesses tohoard money because they are afraidthat stocks and bonds are unsafeinvestments and perhaps because theyhope to capture the benefits of fallingprices. These conditions producedeclining velocity, having the sameeffect as declining money supplies,sending the economy into a steeperdescent.

Many modern economists argue thatif the government stabilizes the moneysupply growth rate at a modest rate, per-haps 3 to 5 percent annually, velocitywill also stabilize, and the growth path ofthe economy will mirror the stability inthe monetary growth rate.

See also: Equation of Exchange, Hyperinflationin Post–World War I Germany

ReferencesMcCallum, Bennett T. 1989. Monetary

Economics.

Velocity of Money | 425

Sargent, Thomas. 1993. Rational Expecta-tions and Inflation, 2nd ed.

VENETIAN DUCAT

During the late Middle Ages theVenetian ducat became the preferredinternational currency, sometimesreferred to as the dollar of its time, areference to the dominant role the U.S.dollar played in post–World War IIinternational trade. By the 15th century,the prestige of the gold ducat of Venicemade it the standard for currencyreform in Islamic and Christian nationsof the Mediterranean. The Mamlukashraftil, the Ottoman altun, and thePortuguese and Castilian ducat werebased on the Venetian ducat.

Venice first minted the gold ducat in1284 at a weight and fineness of 3.5grams of virtually pure gold (0.997 fine),a standard of purity and fineness thatwould be maintained until the end of theVenetian Republic in 1797. Goldcoinage had disappeared in WesternEurope after the eighth century, and theItalian city-states were the first Europeangovernments to renew coinage of gold.

Florence and Genoa first struck goldcoins in 1252, and Venice minted itsducat at the same weight and fineness asthe Florentine florin, a coin that com-manded the prestige of an internationalcurrency before it lost credibility whenthe Florentine government minted issuesof lighter weight. The florin also sufferedfrom inferior imitations issued by othergovernments. The Venetian ducat clearlysuperseded the florin in the 15th centuryas the international currency par excel-lence.

Venice has been regarded as thebirthplace of capitalism, a forerunner ofcapitalist cities such as Amsterdam andmodern Hong Kong, economies whoseonly resources are good harbors andsocial and legal environments that favorcommercial and financial activity. InVenice, political power and social pres-tige had passed from the land-owningaristocracy, which still controlled mostgovernments, to a class of hereditarymercantile families who jealouslysought to preserve the position ofVenice as an international trading cen-ter. Although feudal monarchies all tooeasily turned to currency devaluations,debasements, and seigniorage tofinance government expenses, the mer-cantile oligarchy that ruled Veniceweighed the long-term consequencesand steadfastly maintained the integrityof its currency, symbolizing Venice’scommitment to fair dealings. The Vene-tians lodged complaints against othergovernments for issuing inferior imita-tions of Venetian ducats, and allowedonly Venetian citizens to work at themint, discouraging foreign access tostamp patterns employed to strike theVenetian coins.

Venice was on a silver standardwhen ducats were first struck. At first,

426 | Venetian Ducat

Ducat minted under Doge FrancescoFoscari (1423–1457), Venice. (ErichLessing/Art Resource, NY)

the value of gold rose as gold was ingreater demand at mints for coinage. In1326, however, the value of golddropped significantly, putting a hard-ship on debtors using gold ducats topay debts defined in silver. The debtors,including banks needing to pay deposi-tors and the government needing to paybondholders, persuaded the officials toswitch to a gold standard, fixing thegold price of silver at a rate that pre-vailed before the value of gold plum-meted.

During the mid-15th century, thevalue of gold rose relative to silver, andVenice returned to a silver standard. Thename of the gold ducat was changed tozecchino and the term “ducat” came torefer to a unit of account, such as dollarsare a unit of account in the United States.The Venetian mint began producing sil-ver ducats.

In 1797, Venice lost its independenceas a sovereign state at the handsof Napoleon, ending the long history ofthe Venetian ducat (zecchino) as one ofthe most trusted coins in monetaryhistory.

See also: Florintine Florin, Return to Gold

ReferencesCipolla, Carlo M. 1956. Money, Prices, and

Civilization in the Mediterranean World.Lane, Frederic C. 1973. Venice: A Maritime

Republic.Lane, Frederic C., and Reinhold C. Mueller.

1997. Money and Banking in Medievaland Renaissance Venice. Vols. I–II.

VIRGINIA COLONIALPAPER CURRENCY

In the last half of the 18th century, thecolonial government of Virginia was the

last of the colonial governments to haverecourse to paper currency. Paper moneywas not completely new to Virginiabecause tobacco notes, essentially ware-house receipts for stored tobacco, hadcirculated as money since early in the18th century. Later, however, theVirginia colonial government issued fiatpaper currency that was declared legaltender.

The circumstances that pushedVirginia to the paper currency brinkwere hardly rare in the history of papermoney. Robert Carter Nicholas, amember of the House of Burgesses atthe time and not a friend of papermoney, explained the rationale asfollows:

Money, the acknowledged Sinewsof War was necessary, immedi-ately necessary; Troops could notbe levied and supported without it;of Gold and Silver, there Wasindeed some, what Quantity I donot know, in the Hands of Individ-uals, but The Publick could notcommand it. Did there not resultfrom hence a Necessity Of ourhaving Recourse to a PaperCurrency, as the only Resourcefrom which we Could drawRelief? (Brock, 1975, 465)

The crisis that led to the issuance ofpaper currency was the encroachment ofthe French in what is now westernPennsylvania. After Major GeneralGeorge Washington returned from anexpedition against the French andreported to the colonial governor aboutthe military situation, the Virginia Houseof Burgesses in February 1754 author-ized the treasurer to borrow £10,000 at 6percent interest. The treasurer reported

Virginia Colonial Paper Currency | 427

back that there was no money to be hador borrowed. Metallic coinage, flowingout to Europe to pay for imports fasterthan it flowed in, was hard to come by incolonial Virginia.

At first, the House of Burgessesbalked at the issuance of paper money,but in May 1755, the Burgesses author-ized the issuance of £20,000 of legal-tender treasury notes for the use ofGeneral Edward Braddock. WhenBraddock’s expedition met with disas-ter shortly thereafter, the Burgessesauthorized another £40,000. Furtherissues were made in 1756. The legal-tender status of these notes drewprotests, at first ineffective, fromBritish merchants not wanting to acceptdepreciated paper money in payment ofdebts.

In 1757 the Burgesses seized on theidea of slashing government expendi-tures by exchanging interest-bearingtreasury notes for noninterest-bearingnotes. It voted to issue £100,000 innoninterest-bearing notes to retire theinterest-bearing notes still in circula-tion. To attract additional support forthe idea of noninterest-bearing notes,the Burgesses authorized the issuanceof an additional £80,000 in noninterest-bearing notes to aid in the war effort.Although not paying interest, thesenotes were legal tender and were to beretired in the payment of taxes.

After 1762, the exchange ratebetween Virginia’s paper currency andthe British pound began to rise signifi-cantly, meaning that more of Virginia’spaper currency was needed to buyBritish currency, usually about 40 percent more. Thus, £140 of Virginiapaper currency was needed to buy £100in British pounds. This currency depre-ciation forced British creditors to

accept cheap paper, which was legaltender, in payment of debts owed byVirginia’s colonists. As Virginia’s papercurrency was convertible into everfewer British pounds, British merchantsbecame more impatient with theirlosses. Parliament finally passed theCurrency Act of 1764, which bannedpaper money as legal tender in privateand public debts. The act applied onlyto the colonies south of New Englandbecause the Currency Act of 1751 hadapplied similar principles to New Eng-land. Virginia continued to issue papermoney until the Constitution of theUnited States put the authority to issuemoney with the federal government.

See also: Currency Act of 1751, Currency Actof 1764, Virginia Tobacco Act of 1713

ReferencesBrock, Leslie V. 1975 The Currency of the

American Colonies: 1700–1764.Ernst, Joseph Albert. 1973. Money and Poli-

tics in America, 1755–1775.

VIRGINIA TOBACCO ACTOF 1713

The Virginia Tobacco Act of 1713created the most advanced form of acommodity monetary standard found inthe American colonies. Under the provi-sions of the act, planters brought theirtobacco to public warehouses, where itwas weighed, graded, and stored. Theplanters received paper notes that weretitles of ownership to the tobacco, andthese notes circulated as money. Anyrecipient of these tobacco notes had theoption of claiming the tobacco and tak-ing possession of it.

The American colonies, strugglingwith a shortage of precious metal

428 | Virginia Tobacco Act of 1713

specie for transacting business, turnedto several expedients, including allow-ing certain commodities to be accept-able in the payment of debts. Several ofthe northern and middle colonies had awhole list of commodities that could beused in the payment of debts at pricesmandated by the government. Thecolony of Virginia, however, reliedalmost exclusively on tobacco as amedium of exchange to compensate forthe shortage of specie. The governmentaccepted tobacco in the payment oftaxes and government officials and theAnglican clergy received payment intobacco.

Tobacco as a medium of exchange,however, shared many of the defects ofother commodities used for that pur-pose. For one thing, the quality oftobacco varied substantially and debtorsalways wanted to pay off debts with thelowest grade possible. Owners oftobacco also found ways to pass offlower grades of tobacco for highergrades. In 1705, the Virginia House ofBurgesses enacted a law against passingoff hogsheads of tobacco that hadtrashy tobacco packed underneath a toplayer of quality tobacco. Another disad-vantage of tobacco lay in its bulk andweight, which made it difficult to trans-port for the purposes of exchangingownership.

The Tobacco Act of 1713 called forthe construction of a number of publicwarehouses for the storage of tobacco.Each warehouse employed agents whoweighed and graded the tobacco that aplanter brought in for storage. Theagents then issued to the planter notes orwarehouse receipts vouching for thegrade and quantity of the tobacco. Thesetobacco notes allowed the ownership ofthe tobacco to change hands without

removing the tobacco. This form oftobacco money resolved many of the dif-ficulties with the tobacco standard anddecreased the inconvenience to thosewho received tobacco in payment ofdebts, effectively increasing the value oftobacco money.

The act drew strong protest from crit-ics who were against any sort of cheap-money or paper-money plan. Because ofvehement opposition, the House ofBurgesses was later forced to pass a lawassessing penalties for burning the newlybuilt tobacco warehouses. In 1730, theHouse of Burgesses enacted additionallegislation that further strengthened thegovernment’s system for inspecting andgrading tobacco and providing for therejection of tobacco that failed to meetcertain quality standards. This act madeVirginian tobacco more attractive inexport markets.

The system of tobacco notes workedsufficiently well to delay the introduc-tion of real paper money in Virginia until1755, making Virginia one of the lastcolonies to adopt paper money.Virginia’s experience with the tobaccostandard demonstrates that gold is notthe only commodity that may serve as amonetary standard. Any commodity thatis universally in demand and acceptablein trade can serve as a standard to sup-port paper money.

See also: Commodity Monetary Standard,Commodity Money, Rice Currency, VirginiaColonial Paper Currency

ReferencesBrock, Leslie V. 1975. The Currency of the

American Colonies, 1700–1764.Galbraith, John Kenneth. 1975. Money:

Whence it Came, Where It Went.Nettels, Curtis P. 1934/1964. The Money

Supply of the American Colonies before1720.

Virginia Tobacco Act of 1713 | 429

431

W

WAGE AND PRICECONTROLS

Wage and price controls freeze wagesand prices at a certain point in time, andperhaps establish procedures for gradu-ally adjusting wages and prices.Episodes of hyperinflation and wars havemost often laid the groundwork for theenactment of programs of wage andprice controls. Inflation is rising prices,but also can be defined as a decrease inthe purchasing power of a unit of money.

In 1793, the government of the FrenchRevolution initiated a system of price con-trols that became known as the Law of theMaximum. A decree of September 29,1793, empowered district administrationswith the authority to set commodity pricesat rates one-third higher than the levels of1790. The decree granted municipalauthorities the responsibility for settingwages at 50 percent higher than the 1790level. In 1794, the Committee on Provi-sions issued an enormous schedule of thenational Maximum, or price list. Each dis-trict added transportation costs, 5 percentprofit for the wholesaler and 10 percent

for the retailer, and then published a cata-logue of prices. Hoarding commodities toavoid selling at controlled prices was pun-ishable by death. Despite the govern-ment’s involvement in the forciblerequisitioning of supplies, the controlledeconomy of the revolution broke down. InDecember 1794, the government sup-pressed the Law of the Maximum.

The American colonies experimentedwith wage and price controls to copewith shortages in commodities andlabor. In 1623, the governor of Virginiaissued a proclamation fixing prices andprofit rates. The proclamation issued alist of prices embracing goods rangingfrom Canadian fish to wine vinegar. Awar with Indians apparently created ashortage of goods that led to the con-trols. The colonial government lifted thecontrols in 1641. In 1630, the Massa-chusetts Bay Colony enacted a scheduleof wages for skilled workers, coupledwith a limit on the markup for finishedgoods. In 1633, a law banning all“excessive wages and prices” displacedthe scale of wages and limitation onmarkups.

The colonists turned again to wageand price controls to protect themselvesfrom the wave of hyperinflation thatstruck the colonial economy during theWar of Independence. The ContinentalCongress did not have the power toimpose wage and price controls andremained split on the efforts of stategovernments to control prices andwages. The New England coloniesenacted legislation to control prices, butthe southern colonies demurred. Goodsflowed to regions where pricesremained free to rise with market con-ditions, and state efforts to controlprices failed.

During the U.S. Civil War, inflationsurged in the northern states, andreached hyperinflation proportions inthe Confederacy. Neither the North northe South enacted a system of wageand price controls during that conflict,perhaps reflecting the ascendancy oflaissez-faire economics during the 19thcentury.

During World War I, virtually all thebelligerent powers resorted to systems ofwage and price controls. By then inven-tions such as the typewriter hadincreased the administrative efficiency ofgovernments. In the United States,wholesale prices had risen 60 percentabove their 1914 level when Congressdeclared war on Germany. The UnitedStates government made use of as manyas eight government agencies to controlprices. The War Industries Board con-trolled the prices of many basic rawmaterials. The Food Administration setthe prices for many staple foods, such aswheat and livestock. Inflation slowedsubstantially, contributing to a generalfeeling that the controls were a success.The controls were lifted at the end of thewar amid some talk that the controls

should be extended to the peacetimeeconomy.

In 1936, Germany imposed a compre-hensive system of wage and price controlsthat remained in effect for 12 years. Thissystem of controls was part of Germany’scentrally planned economy that wasdirected toward military mobilization.When the Allied occupation governmentskept the controls in place at the end ofWorld War II, black markets sprang up tomeet the needs for certain supplies.Germany’s rapid economic growth beganafter the controls were lifted in 1948.

During World War II, many countriesestablished some form of wage and pricecontrols to contain inflation. The UnitedStates went to a comprehensive system ofwage and price regulation in 1942. TheOffice of Price Administration had toapprove of price increases and a NationalWar Labor Board approved of wageincreases. The main effect of the controlsin the United States lay in the postpone-ment of inflation until after the war. TheUnited States briefly turned again to wageand price controls during the Vietnam War.

The use of wage and price controls tosuppress inflation runs the risk that blackmarkets will emerge, and that producerswill secretly reduce the quality of prod-ucts to save money. The reduction in thequality of products, which forces con-sumers to buy them more frequently,defeats the purpose of the controls.

See also: Hyperinflation during the AmericanRevolution, Hyperinflation during theFrench Revolution, Inflation and Deflation

ReferencesBlinder, Alan S. 1979. Economic Policy and

the Great Stagflation.Rockoff, Hugh. 1984. Drastic Measures: A

History of Wage and Price Controls in theUnited States.

432 | Wage and Price Controls

WAMPUMPEAG

Wampumpeag was a famous currencyused by the American Indians, particu-larly but not exclusively along the east-ern seaboard, and became widelyaccepted by the English colonists. Thename of the currency, a bit of a mouth-ful, was usually shortened to“wampum.” “Peag” meant “beads” in thelanguage of the Indians, and “wampum”referred to the white color of the beads.The most common color was white butsome of the beads were black. Wampumrose to the status of legal-tender cur-rency in 1643 when Massachusetts setthe value of the white beads at eight tothe penny and the black at four to thepenny for sums no more than 40shillings. In 1649, Rhode Island set thevalue of black beads at four to the penny,but reduced the value in 1658 to eight to

the penny regardless of the color of thebeads. White beads, however, were takenin payment for taxes at six to the penny.As the white man with improved toolslearned to manufacture wampum at afaster rate, the supply increased, and in1662 Rhode Island ended the acceptanceof wampum for payment of taxes.

The shells of clams and other similarbivalves furnished the raw materials forthe manufacture of wampum. The estu-arine rivers of the northeast of Americaand Canada made fertile breedinggrounds for these clams and bivalves. Atypical piece of wampum was a cylindri-cal bead about one-half inch in length,and about one-eighth to one-quarter inchin diameter. The beads were strungthrough a hole drilled lengthwisethrough each bead. The ornamentalvalue of wampum remained an impor-tant part of its attraction as a medium ofexchange. Wampum strings that tradedas money were usually either 18 inchesor six feet in length. They were usuallycounted in cubits and fathoms, but couldbe divided into smaller values. The blackwampum usually traded at twice thevalue of the white wampum. Both theEnglish and the Dutch made use of thiscurrency. In 1644, Peter Stuyvesant,director general of New Netherland,negotiated a loan of between 5,000 and6,000 guilders in wampum, which wasused to pay workers who were building afort in New York.

Several factors caused wampum togradually lose its value. The stone-agetechnology of some of the tribes knownfor producing wampum had kept thesupply somewhat in bounds. Thecolonists brought with them steel drillsthat substantially increased wampumproduction, and the colonists themselvesbegan to manufacture wampum. Also,

Wampumpeag | 433

A tribal alliance belt commemorates theincorporation of the Tuscaroras (who migratedto New York from South Carolina) into the Iro-quois Confederacy in 1722. (Library of Con-gress)

part of the value of wampum hinged onits usefulness in the purchase of beaverskins. As these skins declined in value,wampum lost some of its value as well. Ina matter of a few years, the Indians sawthe value of wampum fall by 50 percent,which they interpreted as efforts of thewhite man to cheat the Indian.

Nevertheless, in New England thedemand for wampum remained stronginto the 18th century. In 1760, J. W.Campbell built a wampum factory inNew Jersey and boasted that one personcould manufacture 20 feet of wampumper day. This factory remained in opera-tion for 100 years. The manufacture ofwampum still contributes to the touristindustry.

The history of wampum as moneyamong the American colonists showsthat advanced societies will find amedium of exchange when more officialsupplies of money are in short supply.

See also: Commodity Money

ReferencesHepburn, A. Barton. 1924/1967. A History of

Currency in the United States.Martien, Jerry. 1996. Shell Game: A True

Account of Beads and Money in NorthAmerica.

Taxay, Don. 1970. Money of the AmericanIndians, and Other Primitive Currenciesof the Americas.

WENDISH MONETARYUNION

From the mid-14th century to the mid-15th century, the Wendish MonetaryUnion maintained and guarded a com-mon monetary standard for cities ofthe Hanseatic League. The WendishMonetary Union ranks among the first

of the European examples of monetaryunion, a distant ancestor to the con-temporary European Monetary Union.

The Hanseatic League was an associa-tion of north German towns, mainly mar-itime towns and inland towns engaged inforeign trade, that dominated Baltic tradeduring the 15th century. The league nego-tiated trade concessions and monopolyprivileges from foreign countries such asEngland, Norway, and Russia, often atthe expense of local merchants. Theleague operated self-government tradingcompounds, called “kontors,” at tradingcenters such as London, and these kon-tors were shared by the merchants whowere citizens of Hanseatic towns.

The Wendish Monetary Union wasformed in 1379 and officially includedonly four cities of the Hanseatic League,Lubeck, Hamburg, Wismar, and Luneburg.Other towns adopted the standard unoffi-cially, making the Union influential over abroad area, including all of Scandinavia.The Union regulated the currency of north-ern Germany until 1569 and its monetarysystem was based on a silver standard.

The Union struck a silver coin equiv-alent to the Lubeck mark, containing 18 grams of fine silver, and bearing thecoats of arms of the four member towns.The Union purchased the precious metaland supervised its coinage, including theactivities of goldsmiths and the mint’semployees. Compliance with the regula-tions of the Union was voluntary, andregular reminders issued by the Unionsuggest that it had a difficult time main-taining cooperation.

The spread of gold coinage in the14th century was met with a less-than-hearty reception among the towns of theHanseatic League. During the mid-15thcentury in Wendish towns the penalty forbuying goods with gold was confiscation

434 | Wendish Monetary Union

of the goods. Apparently, the Unionfeared the destabilizing effects of fluctu-ating exchange rates between gold andsilver, perhaps reinforced by the Union’sown unsuccessful efforts to maintain afixed ratio between gold and silver. In1340, Louis IV, emperor of the HolyRoman Empire, granted Lubeck the priv-ilege to mint gold coins, leading to theintroduction of the Lubeck gold florin,which was comparable to the Florentineflorin in weight and fineness.

Unlike many feudal governments, themerchants of the Hanseatic League neversought to profit from currency debase-ment. Often, governments dominated bymerchant princes or commercial classesdisplayed a strong commitment to cur-rency integrity, perhaps to help attractcommercial activity. Venice, living on anempire of trade and finance, maintainedthe value of the ducat for over 500 years,and in the 19th century, the UnitedKingdom became the staunch defenderof the gold standard against bimetallism,which would have allowed debtors tosubstitute silver for gold in the repaymentof debts.

See also: European Currency Unit, Latin Mon-etary Union

ReferencesDollinger, Phillipe. 1970. The German

Hanza.Williams, Jonathan, ed. 1997. Money: A

History.

WHALE TOOTH MONEYIN FIJI

The case of whale tooth money on theisland of Fiji shows how a commoditycan become a symbol of wealth in acollectivist society in which most trade

in goods takes the form of giftexchanges, omitting the need for a com-mon standard of value. To the people ofFiji the polished ivory teeth of the spermwhale commanded a ceremonial valueand sacredness that put them beyond therealm of a fixed value compared withother goods. The idea of pricing a widerange of goods in terms of whale teethwould not have occurred to the Fijians.

Captain James Cook first set forth thecustoms surrounding whale teeth in hisJournal describing his voyages throughthe Fijian and Tongan islands in 1774.The Fijians called the whale teeth “tam-bua,” a word that connoted a sacredsense of propriety, a positive sense ofwhat was fitting, as well as a negativesense of what was not fitting. The nega-tive side is captured in the modern mean-ing of the word “taboo.”

Whale teeth served as the principlestore of wealth among the Fijians andwere considered precious articles toreceive in gift or barter exchanges. Noone left unhappy who received a whaletooth in an exchange, making it a de factomedium of exchange for large purchases.In the 19th century, a single whale toothcommanded sufficient value to barter fora large canoe. It could also purchase abride, or serve as blood money in com-pensation for a murdered person. To abride, a whale tooth bore the same sym-bolic significance as an engagement ringtoday. According to some reports thepower of a whale tooth clenched anyaccompanying request, whether it was fora specific gift, an alliance, or a human life.

Whale teeth were constantly oiled andpolished, and even in the later 19th centurywere preferred to gold. After Fiji became aBritish Crown Colony in 1874, a native Fijiofficial of the government asked to be paidin whale teeth, rather than sterling silver or

Whale Tooth Money in Fiji | 435

gold sovereigns, citing the added sense ofprestige and authority commanded by thesacred attributes of whale teeth in the eyesof the Fijians. The ceremonial significanceof the whale teeth survived into recenttimes. The officials of Fiji made a formalpresentation of a whale tooth to the queenof England and the duke of Edinburghwhen they visited Fiji in 1982.

The native Fijians were not acquisitivein the modern sense. They traded theirsurplus produce for particular things theywanted, and if they did not have a partic-ular thing in mind, they let their surplusproduce rot. Gold and silver coins heldno charm for them when they were firstintroduced. Fijian whale teeth reveal pos-sible religious and ceremonial roots tothe evolution of money that precede theneed for a convenient medium ofexchange to finance trade.

See also: Rossel Island Monetary System, YapMoney

ReferencesDavies, Glyn. 1994. A History of Money.Einzig, Paul. 1966. Primitive Money.

WILDCAT BANKS (UNITEDSTATES)

During the pre–Civil War era, wildcatbanks, although technically legal, abusedthe banknote-issuing authority of statebanks by issuing banknotes or papermoney under circumstances that discour-aged or rendered impossible conversioninto gold and silver specie. The wildcatbanks emerged in a banking system thatallowed each bank to issue its ownbanknotes, which legitimate banks stoodready to redeem into gold and silverspecie. As security for outstanding bank-notes, state banking laws required banks

to own federal or state governmentbonds, and keep them on file at a stateauditor’s office. The First Bank of theUnited States and the Second Bank ofthe United States had helped maintain anhonest currency by forcing westernbanks and country banks to redeem theirbanknotes in specie.

In 1833, the demise of the SecondBank of the United States left the bank-ing system without an important safe-guard against the temptation of bankersto issue banknotes in excess of theirreserves. Banknotes from distant locali-ties circulated at varying discounts,depending on the likelihood of redemp-tion into specie. Newspapers publishedlists of good notes and bad notes, andperiodicals appeared that were exclu-sively devoted to the values of banknotes.

Wildcat banks were usually formedwithout buildings, offices, or furniture,and required minimal amounts of capi-tal. A group of investors would purchasebonds, often state bonds selling at a dis-count, and file the bonds with a stateauditor, who authorized the investors tostart a bank. The investors possessed theengraved plates and dies that were usedto print the banknotes, and often printedbanknotes equaling two or three timesthe amount of the bonds filed with thestate. In practice, the legal requirementthat the state auditor countersign eachbill did not act as a brake on the issuanceof banknotes.

Investors were known to start up wild-cat banks with only enough money tobuy engraving plates and dies and paythe cost of printing up the banknotes.Investors arranged through brokers topay for the bonds after they were deliv-ered to the state auditor’s office. Theinvestors then brought the freshly printedbanknotes to the auditor’s office, had

436 | Wildcat Banks (United States)

them countersigned, and used them topay for the bonds.

Although banknotes were theoreticallyconvertible into gold and silver specie,wildcat banks were put in places difficultto find. In some cases an Indian guide wasnecessary to find what was no more than ashanty located on an Indian reservation.The accessibility of a wildcat bank deter-mined the discount at which its banknotestraded. Brokers dispatched agents to findremote banks and demand the redemptionof banknotes into specie. Some of the wild-cat banks stationed lookouts that threat-ened and intimidated strangers who mightbe seeking redemption of banknotes.

In the early days of U.S. capitalism,the supply of capital necessarily fellshort of what was needed to exploit thevirtually endless supply of naturalresources. The wildcat banks contributedto mobilizing much-needed capital, butthey cost the banking industry a bit ofcredibility with the public. Understand-ing the history that the banking industryhas had to live down helps explain why itremains highly regulated.

See also: Free Banking, Second Bank of theUnited States

ReferencesDillistin, William H. 1949. Banknote

Reporters and Counterfeit Detectors,1826–1866.

Dowd, Kevin. 1996. Competition andFinance: A Reinterpretation of Financialand Monetary Economics.

Knox, John Jay. 1903/1969. A History ofBanking in the United States.

Rockoff, Hugh. 1975. The Free Banking Era:A Reexamination.

Rolnick, Arthur J., and Warren E. Weber.“New Evidence of the Free Banking Era.”American Economic Review, vol. 73, no.5 (December 1983): 1080–1091.

THE WIZARD OF OZ

The book The Wonderful Wizard of Oz byL. Frank Baum is one of the mostfamous American children’s stories andthe inspiration of a movie classic that isshown regularly on television in theUnited States. What is often lost to view-ers of the movie is that the book, pub-lished in 1900, allegorically representedan important monetary debate in theUnited States in the 1890s.

The book was written against thebackground of the free silver movementin the United States. From 1880 until1896, the United States saw the averagelevel of prices fall by 23 percent, a strongdowndraft of deflation that worked asevere hardship on debtors, mostly farm-ers of the South and West. The bankersand financiers concentrated in the North-east benefitted from the deflation. Oneproposal for mitigating the hardship of

The Wizard of Oz | 437

Title page of The Wonderful Wizard of OZ byL. Frank Baum, published in 1900.(Bettmann/Corbis)

deflation was to supplement the moneysupply, then tied to the gold standard,with silver, creating a bimetallic stan-dard of gold and silver to replace thegold standard. Under a bimetallic stan-dard, both silver and gold could beminted and circulated as money. Theinfusion of silver would put an end todeflation by increasing the amount ofmoney in circulation.

The political agitation for a bimetallicstandard was called the “free silvermovement.” Its most memorablespokesman, William Jennings Bryan,four times a presidential candidate, saidin one of the epochal orations in U.S.history: “You shall not press down uponthe brow of labor this crown of thorns,you shall not crucify mankind upon across of gold.” The “cross of gold”referred to the gold standard.

In The Wonderful Wizard of Oz, theheroine Dorothy represents traditionalU.S. values—honesty, kindheartedness,and pluck. The cyclone, representingthe free silver agitation, carries Dorothyto the land of Oz, as in ounce (oz) ofgold, where the gold standard reignsunchallenged. When Dorothy’s houselands on the Wicked Witch of the East,the Witch dries up, leaving only her sil-ver shoes, which become Dorothy’s.The silver shoes (which were changedto ruby in the movie version) possess amagical power, representing the magi-cal advantages of adding silver to themoney supply.

Dorothy cannot find out how to returnto Kansas, but learns that she should fol-low the yellow brick road that leads tothe Emerald City. The yellow brick roadrepresents the gold standard and theEmerald City represents Washington,D.C. On her journey to the Emerald City,Dorothy is joined by the Scarecrow,

representing western farmers, the TinWoodman, representing the industrialworker, and the Cowardly Lion, repre-senting William Jennings Bryan. Thejoints of the Tin Woodman had becomerusty because the depression of the1890s had put the industrial workers outof work.

The Cowardly Lion goes to sleep inthe poppy field that represents all theissues, such as anti-imperialism andantitrust, that threatened to distractBryan away from the central issue of thefree silver movement in the 1900 presi-dential election.

Dorothy’s group reaches the EmeraldCity, where everyone looks throughgreen-colored glasses, as in money-colored glasses. Everyone in the city,including Dorothy’s group must wear theglasses and they are locked on with agold buckle, another reference to thegold standard. In other words, the finan-cial establishment of the city requiredthat everything be looked at from theperspective of money.

Dorothy and her friends reach theEmerald Palace, representing the WhiteHouse, and Dorothy is led to her roomthrough seven passages and up threeflights of stairs, a reference to the Crimeof ‘73, an act of legislation passed in1873 that eliminated the coinage of sil-ver. The next day, the group meets theWizard, who was probably MarcusAlonzo Hanna, the chairman of theRepublican Party and the brains behindPresident McKinley’s presidency. TheWizard sends the group to find anddestroy the Wicked Witch of the West,which may have been President McKin-ley himself. Dorothy’s group finds theWicked Witch of the West, who, know-ing the magical power of the silver slip-pers, snatches one of Dorothy’s slippers

438 | The Wizard of Oz

in a trick. The separation of the silverslippers, destroying their magical power,refers to the efforts of the RepublicanParty to diffuse the silver issue by callingfor an international conference on thesubject. Dorothy angrily pours a bucketof water on the Wicked Witch of theWest, destroying her, and getting backher slipper.

Dorothy, with her friends, returns tothe Emerald City, expecting the Wizard totell her how to return to Kansas. The Wiz-ard turns out to be a fraud and Dorothyseeks out the Good Witch of the South.The South is ruled by a good witchbecause the South was sympathetic withthe free silver movement. The GoodWitch of the South tells Dorothy that shecan return to Kansas if she clicks her sil-ver slippers together three times, repre-senting the magical power of silver tosolve the problems of the western farm-ers, made possible by the support of theSouth.

Despite the agitation for free silver,the United States remained on the goldstandard. Discoveries of gold in Alaska,Australia, and South Africa substantiallyincreased the world supply of gold, end-ing the era of tight money. From 1896until 1910, prices rose 35 percent in theUnited States, diffusing the social protestthat found its expression in The Wonder-ful Wizard of Oz.

See also: Bimetallism, Crime of ‘73, Free SilverMovement, Gold Standard Act of 1900

ReferencesLittlefield, Henry M. “The Wizard of Oz:

Parable on Populism.” AmericanQuarterly, vol. 16 (Spring 1964): 47–58.

Rockoff, Hugh. “The Wizard of Oz as aMonetary Allegory.” Journal of PoliticalEconomy, vol. 98, no. 4 (1990):739–760.

WORLD BANK

The World Bank, officially the Interna-tional Bank for Reconstruction andDevelopment, is the largest provider ofdevelopment assistance to middle-income and low-income countries,directly financing projects and coordi-nating development assistance fromother agencies. It also serves as a clear-inghouse of ideas for promoting eco-nomic development, and publishesstatistical data and research on the stateof the world economy.

Aside from negotiating a fixedexchange rate system for internationaltrade, the Bretton Woods Conference of1944 organized the World Bank underthe auspices of the United Nations. Thedelegates of the Bretton Woods Confer-ence had in mind financing the recon-struction of war-torn Europe and Japan,and the development needs of the poorerareas of the world. On June 25, 1946, theWorld Bank opened its headquarters inWashington, D. C.

Member countries, now numberingmore than 180, purchase stock in theWorld Bank, which also raises capital byselling bonds in private capital markets.Member governments guarantee thebonds, reducing the interest rate thatinvestors demand and lowering the costof capital to the bank. The United Statesis the largest shareholder, and the presi-dent of the World Bank has always beenfrom the United States.

The first quarter century of the bank’sexistence saw an emphasis on financingbasic economic infrastructure needed tosupport industry. Between fiscal years1961 and 1965, electric power and trans-portation projects accounted for 76.8 percent of the bank’s lending. Thebank continued to extend substantial loans

World Bank | 439

to developed countries until 1967. AfterRobert McNamara assumed the presi-dency in 1968, the bank began to channelmore resources into projects that directlyrelieve poverty, increasing bank lending onagriculture and rural development projectsfrom 18.1 percent in fiscal year 1968, to 31percent in fiscal year 1981.

In 1960, the International Develop-ment Association (IDA) came into beingas a division of the bank that makes softloans and interest-free loans to the poor-est countries. These countries do notqualify for loans from the World Bank,whose lending philosophy is more con-servative. Also affiliated with the WorldBank is the International Financial Cor-poration (IFC), created in 1956 to raiseprivate capital for financing private sec-tor projects. The loans of the IFC arestructured on a commercial basis withmaturities ranging from 7 to 12 years.

The World Bank is perhaps the fore-most world leader on economic develop-ment issues. In 1978, the World Bankbegan publishing the influential WorldDevelopment Report, combining articleson current development issues and a sta-tistical report of economic indicators forthe nations of the world.

Until the 1980s, the World Bankmainly financed public enterprises, but

since then the bank has affirmed itscommitment to financing private sectorprojects, and used its leadership tostrengthen the private sector in ThirdWorld countries. The bank promotesreforms conducive to stable macroeco-nomic environments, and encouragesprivatization of public enterprises, envi-ronmental responsibility, and invest-ments in basic health and education.

As the financial crisis deepened in2008, critics charged that the WorldBank had outlived its usefulness, thatemerging and poor countries had madeenough progress and no longer neededthe bank. At the same time, the WorldBank had won new converts. China hadlong regarded the World Bank as aninstrument of imperialism. By 2008,China ranked among its top borrowers.China had also become a donor.

See also: Bretton Woods System, InternationalMonetary Fund

ReferencesAyres, Robert L. 1983. Banking on the Poor:

The World Bank and World Poverty.Polak, Jacques J. 1994. The World Bank and

the International Monetary Fund: AChanging Relationship.

Economist. “Lin’s Long Swim: The WorldBank.” January 19, 2008, p. 59.

440 | World Bank

441

Y

YAP MONEY

The inhabitants of the island of Yap, oneof the Caroline Islands in the centralPacific, adopted large, thick stonewheels for money, a primitive mediumof exchange that survived into thepost–World War II era. The inhabitantscalled this form of money “fei.” A studyof the operation of this system of cur-rency reveals interesting insights into thenature of money that are relevant formodern monetary systems.

The stone wheels ranged in diameterfrom a foot to 12 feet, and the largerstones were virtually immovable. Thehole in the center of the stone wheelsvaried with the diameter of the stone,and the smaller stones could slide over apole and be carried. The stones werequarried from Palau, about 260 milesaway, and sometimes from as far away asGuam. Stones could serve as fei only ifthey were made of a fine, white, close-grained limestone.

One of the interesting characteristicsof this currency was that the owner did

not have to take possession of it. Intransactions involving these large stones,a buyer would give ownership of the feito a seller in return for goods. The seller,however, would not actually take posses-sion of the fei, but would leave it on thepremises of the buyer of the goods. Amere acknowledgment that the sellerowned the fei was all that was needed tosignify its new ownership.

The logic of the Yap monetary systemwent so far as to acknowledge the wealthof a family on the strength of the owner-ship of a very large stone that had beenlost at sea for several generations.According to tradition, an ancestor ofthis family had secured this fei and wastowing it home on a raft when a stormrose, and the stone ended up at the bot-tom of the sea. Because all aboard theship towing the raft testified to the sizeand quality of the stone, and that it waslost at no fault of the owners, the inhabi-tants of Yap agreed that the stonebelonged to the family that lost it andthat its market value remained unim-paired. Therefore, the family enjoyed the

purchasing power of this stone just as ifit lay on their own property.

Another interesting anecdote relatedto the Yap monetary system occurredafter the German government purchasedthe Caroline Islands from Spain in 1898.The German government wanted thenatives of Yap to improve the roads andmake them suitable for more modernvehicles. When the natives rather obvi-ously neglected to improve the roads, theGerman government was faced withfinding a way to fine the natives. Sinceremoving fei was difficult, and the stoneshad no value outside of the island of Yap,the German government hit on the ideaof sending an agent around to paint ablack cross on the most valuable stonesto signify a claim of the German govern-ment. The natives of Yap immediately setto work to improve the roads. After theGerman government was satisfied thatthe roads were improved, it sent an agentaround to remove the crosses, and a greatrejoicing rose up among the natives.

The value of the primitive money onthe island of Yap depended on the faithof its inhabitants. The idea of acceptingmoney on faith must seem ridiculous tomodern-day advocates of a gold standardas the necessary backbone of any paper-money system. The acceptance of papermoney in our modern economies, shornof the assurance of the gold standard,requires that people have faith thatgovernment will not mismanage themoney supply, causing it to lose its valuefrom inflation.

See also: Spartan Iron Currency

ReferencesAngell, Norman. 1929. The Story of Money.Friedman, Milton. 1992. Monetary Mischief.Gillilland, Cora Lee C., The Stone Money of

Yap: A Numismatic Survey, Washington,

D.C.: Smithsonian Institution Press,1975.

YELTSIN’S MONETARYREFORM IN RUSSIA

Russia opened the 1990s in monetarychaos, manifested by soaring inflation,and a currency, the ruble, that had longbeen shielded from the free-marketforces of foreign exchange markets. Inforeign exchange markets, currencies arebought and sold with other currencies, aswhen Japanese yen are purchased withU.S. dollars.

Under economic reforms, prices,unfettered from state controls, took off,creating a ruble shortage that left someworkers unpaid for months. Wages andpensions rose, and the Russiangovernment cranked up the printingpresses on a round-the-clock basis. Forthe month of July 1992 alone, thegovernment printed more rubles than theSoviet Union government had printed inits last 30 years. To expedite the process,the government increased the largestdenomination of the printed ruble fromthe 200-ruble note to the 1,000-rublenote. Coins also became available inhigher denominations. Inflation reachedits peak in 1992 when monthly inflationrates ran 15 percent, and prices increased200 percent over the year.

In 1993, the government begin to stepon the monetary brakes, but in ways thatthrew the country into deeper confusion.In July, the government invalidated allrubles issued before 1993, and gavepeople only a few days to convert the oldrubles into new rubles. It also put a limiton the number of old rubles thatforeigners could convert into new rubles.Citizens could convert up to 35,000 old

442 | Yeltsin’s Monetary Reform in Russia

rubles into new rubles, and if they heldadditional rubles, these had to be put intosavings accounts for six months. By theend of 1997, annual inflation had fallento the 12 percent range, and thegovernment announced a plan to lop offthree zeros from the ruble. EffectiveJanuary 1, 1998, in what was essentiallyan accounting reform, 1,000 rublesbecame 1 ruble, and all prices, balancesheets, debts, and so on, were adjustedaccordingly.

One legacy of the Soviet regime wastight control over the conversion ofrubles into foreign currencies. Touristswere able to convert foreign currenciesinto rubles at a rate close to a blackmarket rate, but set by the RussianCentral Bank. Foreign-owned enter-prises earning profits in rubles faced aspecial difficulty. If a foreign-ownedcompany wanted to send profits home tothe parent company, those profits hadfirst to be converted from rubles to thehome-country currency at a disadvanta-geous exchange rate set by the Russiangovernment. To attract foreign invest-ment and integrate the Russian economyinto the world economy, Russia had tomake the ruble convertible into foreigncurrencies at free-market rates.

A loan from the InternationalMonetary Fund (IMF) helped theRussian government marshal the foreignexchange reserves needed to establish aconvertible ruble. On July 1, 1992, theRussian government established a singleexchange rate between the dollar and theruble at an initial rate of 126.5 rubles perdollar. The responsibility for adjustingthe rate fell to the Russian Central Bank,which planned to set a rate based ontwice-weekly currency auctions. AfterJuly 1993, the Russian Central Bankpegged the ruble to the dollar in a

crawling peg system that avoided wildfluctuations but allowed the ruble todepreciate over time relative to the dol-lar. In 1996, Russia further broadenedthe ruble market by allowing foreignersto buy and sell Russian governmentbonds in secondary markets. Russiangovernment bonds, paying over 100 percent interest at times, constitutea major demand for rubles. Rubles mustbe purchased before bonds can be pur-chased. The astronomical interest rateson Russian bonds were sometimes nec-essary to maintain a demand for Russianrubles. Despite high Russian interestrates, the ruble steadily declined relativeto the dollar, falling to a rate of 6,200rubles per dollar at the end of 1997.After three zeros were lopped off, therate became 6.2 rubles per dollar.

In 1998, the Russian governmentagain turned to the printing press tosolve Russia’s problems, putting pres-sure on the ruble in foreign exchangemarkets. The value of the ruble fellsharply in August of 1998, and to helpcope with the crisis, the governmentimposed a moratorium on payments onforeign debt, significantly adding to theseverity of a global financial crisis. Bythe end of the year, the ruble was tradingat around 20 rubles per dollar. As theprice of oil began to accelerate in 2000,Russia’s financial difficulties began toimprove markedly, and the rublestabilized. Russia is an oil exporter.

See also: Foreign Exchange Markets, RussianCurrency Crisis

ReferencesHanke, Steve H. “Is the Ruble Next?”

Forbes, March 9, 1998, pp. 64–65.Wall Street Journal (Eastern Edition).

“Chaos in Russia Mounts.” July 26, 1993,p. A8.

Yeltsin’s Monetary Reform in Russia | 443

Wall Street Journal (Eastern Edition). “Rus-sia, Facing Inflation, Plans Bigger Bank-notes.” January 31, 1992, p. A10.

Wall Street Journal (Eastern Edition). “Rus-sia’s Overhaul of Ruble Prompts Uneasein Nation.” December 31, 1997, p. A7.

Wall Street Journal (Eastern Edition). “Rus-sia Plans to Make Ruble Fully Convert-ible by August 1.” May 6, 1992, p. A3.

Wall Street Journal (Eastern Edition). “SovietPrinting of Rubles Soared in 11-MonthPeriod.” December 24, 1991, p. A8.

YEN

The yen is the money of account forJapan, comparable to the dollar for theUnited States. By the 1990s, the Japaneseyen had become a major internationalcurrency, sharing the stage with the U.S.dollar, the German mark, and theEuropean Currency Unit (ECU) as deter-minants of international monetary values.

The Shinka Jorei (New CurrencyRegulations) of 1871 established the yenas the monetary unit in Japan. TheJapanese derived the word “yen” fromthe Chinese word “yuan,” which meant“round thing,” a reference to the U.S.and Mexican dollars that dominated EastAsian trade at the time. The act set theyen equal to 0.05 ounces of gold, makingthe official Japanese price of an ounce ofgold equal to 20 yen. At the time the offi-cial U.S. price of an ounce of gold was$20.67. The yen was intended to beequivalent to the Mexican dollar, thestandard unit in Asian trade at the time.The yen began life as a decimalized cur-rency; one-one-hundredth of a yen wascalled a “sen,” and one-tenth of a senwas called a “rin.”

Officially, Japan was on a bimetallicmonetary system, but in practice the yenwas on a silver standard. In 1877, a civil

rebellion forced the government to issueinconvertible paper money to financemilitary expenditures. Inflation erupted,and in 1882, the government establishedthe Bank of Japan, partly to replaceinconvertible paper money with bank-notes convertible into silver. Followingthe Sino-Japanese war of 1894–1895,Japanese received in gold a large warreparation payment from China, provid-ing a gold reserve sufficient for Japan toestablish a gold standard. In 1887 a newcurrency law give the Bank of Japan amonopoly on the privilege to issuebanknotes, and put the yen on the goldstandard.

At the beginning of World War I, mostdeveloped countries, including Japan,abandoned the gold standard and prohib-ited the export of gold. Following WorldWar I, Japan, beset by economic turmoil,stumbled in its efforts to return to the goldstandard. In 1930, on the eve of the GreatDepression, Japan returned to the goldstandard, only to have to abandon it againin 1931. The Depression dealt a seriousblow to the gold standard worldwide, andJapan turned to tight government regula-tion of its currency, which continuedthrough World War II.

A wave of inflation engulfed Japanfollowing World War II, and the occupa-tion authorities instituted a currencyreform that withdrew old yen notes andissued new yen notes. In 1949, theexchange rate between the yen and thedollar was set at 360 yen per dollar.Under the Bretton Woods system,exchange rates were fixed at officialrates, and the ratio of yen to dollarsremained at 360–1 until 1971. Largetrade surpluses enabled Japan to bolsterits gold and foreign exchange reserves,paving the way for lifting all restrictionson foreign exchange transactions.

444 | Yen

When a system of floating interna-tional exchange rates displaced thefixed-rate Bretton Woods system in1973, the yen began an upward careerof currency appreciation. In 1970, it hadtaken 360 yen to purchase a dollar. By1973, it took only 272 yen, and by theend of the decade it took only 219 yento purchase a dollar. As the yen grewstronger, it took more dollars topurchase a yen, but despite thatJapanese goods constituted a majorcompetitive threat to U.S. industries.In 1984, the world’s major tradingpartners agreed to intervene collectivelyin foreign exchange markets to appre-ciate the yen even further. Whereas ittook 239 yen to purchase a dollar in1985, by 1988 that number had fallen to128 yen, a substantial increase in thevalue of the yen.

In the 1980s, Japan took further stepsto deregulate its financial system and toallow foreign firms to participate inJapan’s financial markets. Japanesebanks had become among the largest andmost powerful in the world, and the yenemerged as a major international cur-rency. By 1998, economic depression inJapan put downward pressure on the yen,and the yen traded at around 140 yen perdollar. On October 15, 2008, amid theU.S. financial crisis, the yen closed at101.35 per dollar, indicating the yen hadsubstantially strengthened against thedollar.

See also: Deutsche Mark, European CurrencyUnit, Dollar

ReferencesDavies, Glyn. 1994. A History of Money.Ohkawa, Kazushi, Miyorhei Shinohara, and

Larry Meissner, eds. 1979. Patterns ofJapanese Economic Development: AQuantitative Appraisal.

Yield Curve | 445

YIELD CURVE

The yield curve shows the relationshipbetween the yield to maturity and thetime to maturity among bonds that areidentical in every respect except for vary-ing maturities. The yield to maturity on abond is equal to the constant annual inter-est rate that makes the price or marketvalue of the bond today equal to thepresent value of the future paymentsreceived by the owner of the bond. Thevertical axis shows the interest rate oryield to maturity, and the horizontal axisshows the time to maturity.

Usually, but not always, the yieldcurve slopes up from left to right. An up-sloping yield curve indicates that longer-term bonds pay a higher interest rate.Longer-term bonds have higher defaultrisk. Since more time elapses before alonger-term bond matures, there isgreater chance that economic misfortunecould force the bond issuer to default onthe bond. To minimize the role of defaultrisk, a yield curve is always constructedfor bonds from the same issuer. Theyields on U.S. Treasury bonds are mostcommonly used in reporting the yieldcurve because the default risk on thesebonds is virtually zero.

There are other risks beside defaultrisks that favor an up-sloping yield curve.A longer time to maturity increases thechance that a wave of inflation will comealong and shrink the real purchasingpower of a bond’s maturity value. A three-month bond bears little inflation riskbecause inflation can be roughly antici-pated three months into the future. Thelonger the time to maturity of the bond,the greater the uncertainty about the aver-age inflation rate over the life of the bond.

Another risk that accounts for anupward sloping bias in yield curves may be

called the “interest rate risk.” Suppose anindividual purchases from the U.S. Trea-sury a $10,000 government bond that pays5 percent interest. Suppose at a later datemarket conditions change, interest rates goup, and an individual can purchase a simi-lar bond that pays 7 percent interest. Underthese conditions, the individual owning the5 percent bond will find that his bond willhave to be sold at a discount if he elects tosell it before it matures. A bond issued at 5percent interest is worth less the minutecurrent market interest rates on identicalbonds rises above 5 percent. The interestrate risk on a three-month bond is minimalbecause the time involved is too short forthe interest rate to matter as much. Overthe life of a 30-year bond, interest ratefluctuations can cause substantialfluctuations in the market value of a bond.

The yield curve is not always upsloping. A down-sloping yield curve iscalled an “inverted yield curve.” If infla-tion is high, but expected to be lower inthe future, short-term bonds will carry ahigher inflation premium than long-termbonds, elevating interest rates on long-term bonds relative to interest rates onshort-term bonds. In addition, centralbank’s tightening of monetary policy canlead to the expectation of a weaker econ-omy, lower inflation, and lower short-term interest rates in the future. Theseexpectations are sufficient to lower long-term interest rates. Some economic fore-casters put great weight on an inverted

yield curve as a sign of future economicdeceleration.

Expectations exert a strong influenceon the yield curve. An up-sloping yieldcurve indicates that financial market par-ticipants believe the economy is on acourse of expansion, and that the trend forshort-term interest rates is up. Borrowerswill try to beat future increases in short-term interest rates by borrowing long-term, driving up long-term interest rates.

See also: Fisher Effect, Interest Rate

ReferencesAbken, Peter A. “Inflation and the Yield

Curve.” Economic Review, FederalReserve Bank of Atlanta, vol. 78, no. 3(1993): 13–32.

Dueker, Michael J. “Strengthening the Case fortheYield Curve as a Predictor of U.S. Reces-sions.” Review, Federal Reserve Bank of St.Louis,vol.79,no.2(1997):41–52.

Kozicki, Sharon, and Gordon Sellon.“Longer-Term Perspectives on the YieldCurve Monetary Policy.” EconomicReview, Federal Reserve Bank of Kansas,vol. 90, no. 4 (2005): 5–35.

Russell, Steven. “Understanding the TermStructure of Interest Rates: The Expecta-tions Theory.” Review, Federal ReserveBank of St. Louis, vol. 74, no. 4 (1992):36–51.

YUAN

See: Chinese Silver Standard

446 | Yield Curve

447

Bibliography

Abel, Andrew B., Ben S. Bernanke, and Dean Croushore. Macroeconomics, 6th ed.New York: Pearson Education, 2008.

Abken, Peter A. “Inflation and the Yield Curve,” Federal Reserve Bank of Atlanta EconomicReview, vol. 78, no. 3 (1993): 13–32.

Acheson, A. L. K. Bretton Woods Revisited. Toronto: University of Toronto Press,1972.

Akhigbe, Aigbe, Melissa B. Frye, and Ann Marie Whyte. “Financial Modernization inU.S. Banking Markets: A Local or Global Event,” Journal of Business Finance &Accounting, vol. 32, no. 7 (2005): 1561–1585.

Alesina, Alberto, and Lawrence Summers. “Central Bank Independence and Macro-economic Performance,” Journal of Money, Credit, and Banking, vol. 25 (May1993): 151–162.

Allen, D. F. Coins of the Ancient Celts. Edinburgh, Scotland: University Press, 1980.

Allen, Larry. The Global Economic System Since 1945, London: Reaktion Books,2005.

Allen, Larry. The Global Financial System, London: Reaktion Books, 2001.

Anderson, Clay J. A Half-Century of Federal Reserve Policymaking, 1914–1964.Philadelphia: Federal Reserve Bank of Philadelphia, 1965.

Anderson, Richard G., and Robert H. Rasche. “Retail Sweep Programs and BankReserves, 1994–1999,” Federal Reserve Bank of St. Louis Review, vol. 83, no. 1(January/February 2001): 51–72.

Angell, Norman. The Story of Money. Garden City, NY: Frank A. Stokes, 1929.

Angus, Ian. Paper Money. New York: St. Martin’s Press, 1974.

Apcar, Leonard M. “Thrifts in Texas Scrambling for Funds, Liquidity Crisis Feared,Regulators Say,” Wall Street Journal (Eastern Edition), June 10, 1987, p. 1.

Appleyard, Dennis R., and Alfred J. Field, Jr. International Economics. Homewood,IL: Richard D. Irwin, 1992.

Arestis, Philip, John McCombie, and Warren Mosler. “New Attitudes About Inflation,”Challenge, vol. 49, no. 5 (September/October 2006): 33–52.

Aristotle. Politics. Translated by Benjamin Juwett. Chicago: William Benton Publisher,1952.

Armstrong, W. E. “Rossel Island Money: A Unique Monetary System,” The EconomicJournal 34 (1924): 424–429.

Asian Development Bank. “ASEAN+3 Regional Basket Currency Bonds,” TechnicalAssistance Report, Project Number 40030, August 2006.

Atack, Jeremy, and Peter Passell. A New Economic View of American History. NewYork: W. W. Norton, 1994.

Auerbach, Alan J., and Maurice Obstfeld. “The Case for Open-Market Purchases in aLiquidity Trap,” The American Economic Review, vol. 95, no. 1 (March 2005):110–138.

Ayres, Robert L. Banking on the Poor: The World Bank and World Poverty. Cambridge,MA: MIT Press, 1983.

Bacon, Sir Francis. Advancement of Learning. Chicago: William Benton Publisher,1952.

Bacon, Sir Francis. Civil Essays. 1625. Reprint, New York: P. F. Collier, 1969.

Bank for International Settlements. Annual Report. Basel, Switzerland: 1998.

Bank for International Settlements. Eight European Central Banks. New York: FrederickA. Praeger, 1963.

Bank for International Settlements. “Japan’s Deflation, Problems in the Financial Systemand Monetary Policy,” BIS Working Paper no. 188, November, 2005.

Barber, Malcolm. The Trial of the Templars. Cambridge, UK: Cambridge UniversityPress, 1978.

Barrett, Don C. The Greenbacks and Resumption of Specie Payments: 1862–1879.Cambridge, MA: Harvard University Press, 1931.

Barro, Robert J. “Government Spending, Interest Rates, Prices, and Budget Deficits in the UnitedKingdom, 1701–1918.” Journal of Monetary Economics, vol. 20 (September 1987): 221–248.

Barth, James R. The Great Savings and Loan Debacle. Washington, D.C.: AEI Press,1991.

Bauer, Hans. Swiss Banking: An Analytical History. New York: St. Martin’s Press, 1998.

Baye, Michael R., and Dennis W. Jansen. Money, Banking, and Financial Markets: AnEconomics Approach. Boston: Houghton Mifflin, 1995.

Becker, William E. Jr. “Determinants of the United States Currency-Demand DepositRatio,” The Journal of Finance, vol. 30, no. 1 (March 1975): 57–74.

Becket, Paul. “Banking: Glitches Trip Up Real-Life Test of Plastic Cash,” Wall StreetJournal (Eastern Edition) October 8, 1998, p. B1.

448 | Bibliography

Bibliography | 449

Behrman, Jere R. Foreign Trade Regimes and Economic Development: Chile. New York:National Bureau of Economic Research, 1976.

Belongia, Michael T., and Kevin Kliesen. “Effects on Interest Rates of ImmediatelyReleasing FOMC Directives,” Contemporary Economic Policy, vol. 12, no. 4(1994): 79–91.

Benton, Pierre. The Golden Trail. Toronto: Macmillan, 1954.

Berdan, Frances F. The Aztecs of Central Mexico: An Imperial Society. New York:Holt, Rinehart and Winston, 1982.

Beresiner, Yasha. A Collector’s Guide to Paper Money. New York: Stein and Day,1977.

Berg, Andrew, and Edwardo Borensztein. “The Dollarization Debate,” Finance andDevelopment, vol. 37, no. 1 (March 2000): 38–42.

Berry, Jeffrey, M. Feeding Hungry People. New Brunswick, NJ: Rutgers UniversityPress, 1984.

Betlyon, John Wilson. The Coinage and Mints of Phoenicia: The Pre-AlexandrinePeriod. Chico, CA: Scholars Press, 1982.

Beutel, Frederick K. “The Development of Negotiable Instruments in Early EnglishLaw,” Harvard Law Review, vol. 51, no. 5 (March 1938): 813–845.

Bezanson, Anne. Prices and Inflation during the American Revolution, Pennsylvania,1770–1790. Philadelphia: University of Pennsylvania Press, 1951.

Bible, The New Oxford Annotated. New York: Oxford University Press, 1973.

Bils, Mark, and Peter Klenow. “Some Evidence on the Importance of Sticky Prices,”Journal of Political Economy, vol. 112, no. 5 (October 2004): 947–985.

Binswanger, Hans Christopher. Money and Magic: Critique of the Modern Economy inthe Light of Goethe’s Faust. Translated by J. E. Harrison. Chicago, IL: University ofChicago Press, 1994.

Birchall, Johnson. Co-op: The People’s Business. New York: St. Martin’s Press, 1994.

Birley, Robert, ed. Speeches and Documents in American History. vol. III. London,UK: Humphrey Milford, 1943.

Blackman, Andrew. “Family Finances: Farewell to the Float: Checks will Clear in anInstant,” Wall Street Journal (Eastern Edition), August 1, 2004, p. 4.

Blinder, Alan. “On Sticky Prices: Academic Theories Meet the Real World.” In MonetaryPolicy, edited by N. Gregory Mankiw, pp. 117–150, University of Chicago Press, 1994.

Blinder, Alan S. Economic Policy and the Great Stagflation. New York: AcademicPress, 1979.

Board of Governors of the Federal Reserve System. The Federal Reserve System: Purposesand Functions. Washington, D.C., 1984.

Bogetic, Zeljko, and Zorica Mladenovic. “Inflation and the Monetary TransmissionMechanism in Belarus, 1996–2001,” International Research Journal of Financeand Economics, no. 1 (2006): 1–20.

450 | Bibliography

Bomberger, W. A., and G. E. Makinen. “The Hungarian Hyperinflation and Stabi-lization of 1945–1946,” Journal of Political Economy, vol. 91, no. 5 (1983):801–824.

Bordo, Michael, D. “The Classical Gold Standard: Some Lessons for Today,” FederalReserve Bank of St. Louis Monthly Review (May 1981): 2–17.

Bordo, Michael, D. Monetary Regimes in Transition. Edited by Forrest Capie. Cambridge,UK: Cambridge University Press, 1994.

Bordo, Michael, and Anna J. Schwartz. “Why Clashes between Internal and ExternalStability Goals End in Currency Crises, 1797–1994,” Open Economy Review, vol.7 (Supplement): 437–468.

Boughton, James M., and Elmus R. Wicker. “The Behavior of the Currency-DepositRation during the Great Depression,” Journal of Money, Credit, and Banking, vol.11, no. 4 (November 1979): 405–418.

Bradley, Harold Whitman. The American Frontier in Hawaii. Gloucester, MA: PeterSmith, 1968.

Bradley, Michael G., Stuart Gabriel, and Mark Wohar. “The Thrift Crisis, Mortgage-Credit Intermediation, and Housing Activity,” Journal of Money, Credit, and Banking,vol. 27, no. 2 (May 1995): 476–497.

Bradsher, Keith. “Obscure Global Bank Moves into the Light,” New York Times,August 5, 1995, p. A31.

Branco, Marta de Castello. “Georgia: From Hyperinflation to Growth,” IMF Survey,Washington D.C.: International Monetary Fund, September 23, 1996.

Braudel, Fernand. The Mediterranean. Vols. 1 and 2. Translated by Sian Reynolds.New York: Harper and Row, 1972.

Braudel, Fernand. Civilization and Capitalism. Vols. 1–3. Translated by SianReynolds. New York: Harper and Row, 1982–1984.

Bray, Nicholas. “Future Shop: No Cash Accepted,” Wall Street Journal, July 13, 1995.

Breckinridge, S. P. Legal Tender: A Study in English and American Monetary History.1903. Reprint, New York: Greenwood Press, 1969.

Brimelow, Peter. “Going Underground,” Forbes, vol. 162, no. 6 (September 21, 1998):206–207.

Brock, Leslie V. The Currency of the American Colonies, 1700–1764. New York: ArnoPress, 1975.

Brown, Marion A. The Second Bank of the United States and Ohio, 1803–1860; ACollision of Interests. Lewiston, NY: Edwin Mellen Press, 1998.

Broz, J. Lawrence. The International Origins of the Federal Reserve System. Ithaca,NY: Cornell University Press, 1997.

Bullard, James. “Testing Long-Run Monetary Neutrality Propositions: Lessons fromthe Recent Research,” Federal Reserve Bank of Saint Louis Review, vol. 81, no. 6(1999): 57–77.

Bullard, Melissa M. Filippo Strozzi and the Medici: Favor and Finance in Sixteenth-Century Florence and Rome. Cambridge, UK: Cambridge University Press, 1980.

Bureau of Labor Statistics. “Producer Prices.” Chap 14 of BLS Handbook of Methods.Washington D.C., June 2008.

Burke, Bryan. Nazi Counterfeiting of British Currency during World War II: Opera-tion Andrew and Operation Bernhard. San Bernardino, CA: Book Shop, 1987.

Burman, Edward. Supremely Abominable Crimes: The Trial of the Knights Templar.London: Alison and Busby, 1996.

Burns, A. R. Money and Monetary Policy in Early Times. 1927. Reprint, New York:Augustus M. Kelly, Bookseller, 1965.

BusinessWeek Online. “Did the IMF Drop the Ball in Ecuador?” January 24, 2000.

Calomiris, Charles W., and Charles M. Kahn. “The Efficiency of Self-Regulated Pay-ments Systems: Learning from the Suffolk System,” Journal of Money, Credit, andBanking, vol. 28, no. 4 (November 1996): 766–797.

Cameron, Rondo, ed. Banking and Economic Development: Some Lessons of History.London: Oxford University Press, 1972.

Cameron, Rondo, with Olga Crisp, Hugh Patrick, and Richard Tilly. Banking in theEarly Stages of Industrialization. London: Oxford University Press, 1967.

Cantor, Richard, and Frank Packer. “The Credit Rating Industry,” Quarterly Review,vol. 19, no. 2 (Summer/Fall 1994): 1–26.

Cappon, Lester, ed. The Adams-Jefferson Letters. Chapel Hill: University of NorthCarolina Press, 1959.

Cardoso, Eliana, A. “Hyperinflation in Latin America,” Challenge, vol. 32, no. 1(January–February 1989): 11–19.

Caron, Francois. An Economic History of Modern France. New York; Columbia UniversityPress, 1979.

Carothers, Neil. Fractional Money. 1930. Reprint, New York: Augustus M. Kelley, 1967.

Carradice, Ian, ed. Coinage in the Administration of the Athenian and PersianEmpires. Oxford, UK: B. A. R., 1987.

Carradice, Ian. Greek Coins. Austin: University of Texas Press, 1995.

Carstens, Agustin, Daniel Hardy, and Ceyla Pazarbasioglu. “Avoiding Banking Crisesin Latin America,” Finance and Development. Washington, D.C.: InternationalMonetary Fund, September 2004, pp. 30–33.

Carter, Martha L. A Treasury of Indian Coins. Bombay: Marg Publications, 1994.

Carter, T. F. The Invention of Printing in China and its Spread Westward. Rev. ed. NewYork: Columbia University Press, 1931.

Cassel, Gustav. Money and Foreign Exchange after 1914. New York: Macmillan, 1922.

Cellini, Benvenuto. The Life of Benvenuto Cellini. 1728. Translated by John AddingtonSymonds. New York: Liveright Publishing, 1931.

Bibliography | 451

452 | Bibliography

Cellini, Benvenuto. The Treatises of Benvenuto Cellini on Goldsmithing and Sculpture.Translated by C. R. Ashbee. New York: Dover Publications, 1967.

Cerra, Valerie, Meenakshi Rishi, and Sweta C. Saxena. “Robbing the Riches: CapitalFlight, Institutions, and Instability,” IMF Working Paper (WP/05/199), Interna-tional Monetary Fund: Washington, D.C., October 2005.

Challis, C. E., ed. A New History of the Royal Mint. Cambridge, UK: CambridgeUniversity Press, 1992.

Challis, C. E. The Tudor Coinage. Manchester, UK: Manchester University Press, 1978.

Chalmers, Robert. A History of Currency in the British Colonies. 1893. Reprint,Colchester, UK: J. Drury, 1972.

Chandler, Lester V. American Monetary Policy; 1928–1941. New York: Harper andRow, 1971.

Chang, Kia-Ngau. The Inflationary Spiral: The Experience in China, 1939–1950.Cambridge, MA: M. I. T. Press, 1958.

Checkland, S. G. Scottish Banking: A History, 1695–1973. Glasgow, UK: Collins, 1975.

Cheesman, Evelyn. Backwaters of the Savage South Seas. London, UK: Jarrolds, 1933.

Chiodo, Abbigail J., and Michael T. Owyang. “A Case Study of a Currency Crisis: TheRussian Default of 1998,”Federal Reserve Bank of St. Louis Review, vol. 84, no. 6(November/December 2002): 7–18.

Chou, Shun-Hsin. The Chinese Inflation, 1939–1949. New York: Columbia UniversityPress, 1963.

Chown, John F. A History of Money. London, UK: Routledge Press, 1994.

Cimilluca, Dana. “The Financial Crisis: Swiss Move to Back Troubled UBS; UnderPlan, as Much as $60 Billion in Toxic Assets to be Taken Off Balance Sheet,” WallStreet Journal (Eastern Edition), October 17, 2008, p. A3.

Cipolla, Carlo M. Before the Industrial Revolution: European Society and Economy,1000–1700. 2nd ed. New York: W. W. Norton, 1980.

Cipolla, Carlo M. The Monetary Policy of Fourteenth-Century Florence. Berkeley:University of California Press, 1982.

Cipolla, Carlo M. Money, Prices, and Civilization in the Mediterranean World.Princeton, NJ: Princeton University Press, 1956.

Clapham, Sir J. The Bank of England. Cambridge, UK: Cambridge University Press, 1970.

Clough, Shepard B. The Economic History of Modern Italy. New York: ColumbiaUniversity Press, 1964.

Coats, Warren L. “In Search of a Monetary Anchor: A New Monetary Standard.” Inter-national Monetary Fund Working Paper. no. 82, 1989.

Coinage of the Americas Conference. The Token: America’s Other Money. New York:American Numismatic Society, 1995.

Cole, Charles Woolsey. Colbert and a Century of French Mercantilism. Hamden, CT:Archon Books, 1964.

Colander, David, and Edward Gamber, Macroeconomics. Cape Town: Pearson/PrenticesHall, 2006.

Colwell, Stephen. The Ways and Means of Payment. 1859. Reprint, New York: AugustusM. Kelley, 1965.

Cowitt, Philip P. World Currency Yearbook. New York: International Currency Analysis,1989.

Craig, J. The Mint: A History of the London Mint from A.D. 287 to 1948. Cambridge,UK: Cambridge University Press, 1953.

Credit Union National Association. “Will Consumers Turn to Plastic to Regain Float?”Point for Credit Union Research & Advice, April 1, 2005, the point@cuna.com.

Cripps, Wilfred Joseph. Old English Plate. 1878. Reprint, London, UK: Spring Books,1967.

Crisp, Olga. Studies in the Russian Economy Before 1914. New York: Barnes andNoble, 1976.

Cummings, Richard. The Alchemists. New York: David McKay, 1966.

Curran, Rob. “Large Stock Focus: Citi Jumps on Bailout; B of A, Goldman Follow”,Wall Street Journal (Eastern Edition), November 25, 2008, p. C6.

Dacy, Joe. “How to Spot Bogus Bills.” Nations Business, vol. 81, no. 7 (July 1993): 30.

Dammes, Clifford and Robert McCauley. “Basket Weaving: The Euromarket Experi-ence with Basket Currency Bonds,” BIS Quarterly Review, March 6, 2006, pp.79–92.

Daniels, John D., and David Vanhoose. International Monetary and Financial Economics.Cincinnati: Southwestern, 1999.

Daniels, Joseph, and David VanHoose. International Monetary and Financial Economics.3rd ed. New York: South-Western College Publishing, 2004.

Daniels, John D., and Lee H. Radebaugh. International Business. 8th ed. Reading,MA: Addison-Wesley, 1998.

Daseking, Christina. “Debt: How Much Is Too Much?” Finance and Development,vol. 39, no. 4 (December 2002): 12–15.

Davies, Glyn. A History of Money. Cardiff: University of Wales Press, 1994.

Davis, Lance E., Jonathon Hughes, and Duncan M. McDougall. American EconomicHistory. Homewood, IL: Richard D. Irwin, 1969.

Davis, Richard G. “Intermediate Targets and Indicators of Monetary Policy,” QuarterlyReview, vol. 15, no. 2, pp. 71–83.

Day, J. “The Great Bullion Famine of the Fifteenth Century,” Past and Present,vol. 79 (1978).

De la Balze, Felipe A. M. Remaking the Argentine Economy. New York: Council OnForeign Relations Press, 1995.

De Vries, Margaret Garritsen. Balance of Payments Adjustment, 1945 to 1986: TheIMF Experience. Washington, D.C.: International Monetary Fund, 1987.

Bibliography | 453

Del Mar, Alexander. The History of Money in America. 1899. Reprint, New York: BurtFranklin, 1968.

Demiralp, Selva, and Oscar Jorda. “The Response of Term Rates to Fed Announce-ments,” Journal of Money, Credit, and Banking, vol. 36, no. 3 (June 2004, Part 1):387–405.

Dickson, P. G. M. Financial Revolution in England. London: Macmillan, 1967.

Dillistin, William H. Bank Note Reporters and Counterfeit Detectors, 1826–1866.New York: American Numismatic Society, 1949.

Dodd, Randall and Paul Mills. “Outbreak: U.S. Subprime Contagion,” Finance andDevelopment, vol. 45, no. 2 (June 2008): 14–19.

Dollinger, Phillipe. The German Hanza. Stanford, CA: Stanford University Press, 1970.

Dowd, Kevin. Competition and Finance: A Reinterpretation of Financial and Mone-tary Economics. New York: St. Martin’s Press, 1996.

Dowden, Richard. “A Disaster That Hasn’t Quite Happened,” Economist, vol. 339, no. 7969 (June 8, 1996, Special Section): 8–13.

Du Bois, Cora Alice. The People of Alor: A Social-Psychological Study of an EastIndian Island. Cambridge, MA: Harvard University Press, 1986.

Dueker, Michael J. “Strengthening the Case for the Yield Curve as a Predictor of U.S.Recessions,” Federal Reserve Bank of St. Louis Review, vol. 79, no. 2 (1997): 41–52.

Duncan-Jones, Richard. Money and Government in the Roman Empire. New York:Cambridge University Press, 1998.

Dunne, Gerald T. Monetary Decisions of the Supreme Court. New Brunswick, NJ:Rutgers University Press, 1960.

Dupriez, Leon H. Monetary Reconstruction in Belgium. New York: Ding’s CrownPress, 1946.

Durant, Will. The Reformation. New York: Simon and Schuster, 1957.

Economist. “Dearer Still and Dearer,” vol. 316, no. 7668 (August 18, 1990): 2–3.

Economist. “Inflation Unbeaten,” vol. 317, no. 7679 (November 3, 1990): 52

Economist. “Banking Behind the Veil,” vol. 323, no. 7753 (April 4, 1992): 49.

Economist. “Galloping Towards the Brink,” vol. 328, no. 7818 (July 3, 1993): 49.

Economist. “Ukraine Over the Brink,” vol. 328, no. 7827 (August 4, 1993): 45–46.

Economist. “There was an old lady . . .,” vol. 329, no. 7838 (November 20, 1993):94–97.

Economist. “Cleaning up Dirty Money,” London, vol. 344, no. 8027 (July 26, 1997): 13.

Economist. “Born Free,” vol. 350, no. 8108 (February 27, 1999): 76.

Economist. “The Furies Wait,” vol. 350, no. 8109 (March 6, 1999): 34–36.

Economist. “Wading in the Yen Trap,” vol. 352, no. 8129 (July 24, 1999): 71–74.

Economist. “Special: Through the Wringer,” London, vol. 359, no. 8217 (April 14,2001): 64.

454 | Bibliography

Economist. “Harsh Medicine” vol. 359, no. 8222 (May 19, 2001): 48.

Economist. “Squandering an Unlikely Recovery,” vol. 360, no. 8239 (September 15,2001): 32.

Economist. “The Americas: Defaulter of Last Resort,” vol. 366, No 8314 (March 8,2003): 56.

Economist. “Seeking the Right Medicine,” vol. 367, no. 8329 (June 21, 2003): 70.

Economist. “Survey: The World’s Piggybank,” vol. 370, no. 8362 (February 14, 2004): 13.

Economist. “Nought to Worry About: Zeroing on Too Many Zeroes,” vol. 372, no. 8390 (August 28, 2004): 67.

Economist. “The Americas: Grinding Them Down; Argentina’s Debt,” vol. 374, no. 8409 (January 15, 2005): 47.

Economist. “Britain: In a Spin; Money Laundering,” vol. 379, no. 8479 (May 27,2006): 35.

Economist. “Finance and Economics: Sizzling; The Big Mac Index,” London, vol.384, no. 8536 (July 7, 2007): 82.

Economist. “Lin’s Long Swim: The World Bank,” London, vol. 386, no. 8563 (January 19,2008): 59.

Economist. “Finance and Economics: Selling the Family Gold; The IMF,” London,vol. 387, no. 8575 (April 12, 2008): 84.

Economist. “Snowed Under, Swiss Banks,” vol. 388, no. 8587 (July 5, 2008): 79–80.

Ehrenkreutz, A. S. Monetary Change and Economic History in the Medieval MuslimWorld. Aldershot, UK: Ashgate, 1992.

Einzig, Paul. Primitive Money. 2nd ed. Oxford, UK: Pergamon Press, 1966.

Einzig, Paul. The History of Foreign Coinage. 2nd ed. New York: St. Martin’s Press, 1970.

Enrich, David, and Damian Palaetta. “The Financial Crisis: Walls Come Down, RevivingFears of a Falling Titan,” Wall Street Journal (Eastern Edition), September 23, 2008, p. A6.

Ernst, Joseph Albert. Money and Politics in America, 1755–1775. Chapel Hill:University of North Carolina Press, 1973.

Esen, Rita. “The Transition of German Universal Banks,” Journal of InternationalBanking Regulation, vol. 2, no. 4 (2001): 50–57.

Evans, A. “Some Coinage Systems of the Fourteenth Century,” Journal of Economicsand Business History, vol. 3 (1931): 481–496.

Fackler, Martin. “North Korean Counterfeiting Complicates Nuclear Crisis,” New YorkTimes, January 29, 2006, 3.

Fan, C. Simon, and Xiangdong Wei. “The Law of One Price: Evidence from the Tran-sitional Economy of China,” The Review of Economics and Statistics, vol. 88, no. 4 (November 2006): 682–697.

Fausten, Dietrich K. “The Humean Origin of the Contemporary Monetary Approachto the Balance of Payments.” Quarterly Journal of Economics, vol. 93, no. 4(November 1979): 655–673.

Bibliography | 455

Feavearyear, Sir Albert. The Pound Sterling: A History of English Money. 2nd ed.Oxford, UK: Clarendon Press, 1963.

Federal Reserve Board. Consumer Handbook on Adjustable-Rate Mortgages. Washington,D.C.: Author, 2009. www.federalreserve.gov/pubs/arms/arms_english.htm.

Federal Reserve System. Federal Reserve Bulletin. January, 1998.

Fehrenbach, T. R. The Swiss Banks. New York: McGraw Hill, 1966.

Fellner, William. “The Controversial Issue of Comprehensive Indexation.” In Essayson Inflation and Indexation. Washington, D.C.: American Enterprise Institute forPublic Policy Research, 1974, pp. 63–70.

Fetter, F. W., and T. E. Gregory. Monetary and Financial Policy in Nineteenth-CenturyBritain. Dublin: Irish University Press, 1973.

Figueira, Thomas J. The Power of Money: Coinage and Politics in the AthenianEmpire. Philadelphia: University of Pennsylvania Press, 1998.

Fischer, Stanley. “Seigniorage and the Case for a National Money,” Journal of PoliticalEconomy, vol. 90 (April 1982): 295–313.

Fisher, Irving. The Purchasing Power of Money. New York: Macmillan, 1911.

Fisher, Irving. Stabilizing the Dollar. New York: Macmillan, 1926.

Fisher, Irving. The Theory of Interest. New York: Macmillan, 1930, pp. 399–451.

Fisher, W. C. “The Tabular Standard in Massachusetts History,” Quarterly Journal ofEconomics, vol. 27 (May 1913): 417–454.

Fitzgerald, C. P. China, A Short Cultural History. London: Cresset Press, 1935.

Flynn, Dennis O. World Silver and Monetary History in the Sixteenth and SeventeenthCenturies. Brookfield, VT: Ashgate, 1996.

Fohlin, Caroline. “Relationship Banking, Liquidity, and Investment in the GermanIndustrialization,” Journal of Finance, vol. 53, no. 5 (October 1998): 1737–1758.

Fontaine, Thomson. “Currency Crises in Developed and Emerging MarketEconomies: A Comparative Empirical Treatment,” IMF Working Paper (WP/05/13)International Monetary Fund: Washington, D.C., January 2005.

Forsyth, Randall W. “Calling London: The Fed Takes Aim at Libor,” Barron’s, vol. 88,no. 18, p. M8.

Frank, Tenney. An Economic Survey of Ancient Rome. Vols. 1–6. 1940. Reprint, Paterson,NJ: Pageant Books, 1959.

Frankel, Jeffrey. “The Effect of Monetary Policy on Real Commodity Prices.” In AssetPrices and Monetary Policy, edited by John Campbell, University of ChicagoPress, 2007.

Freeman, Anthony. The Money and the Mint in the Reign of Edward the Confessor,1042–1066. Oxford, UK: B. A. R., 1985.

Freeman, Kathleen. The Work and Life of Solon. New York: Arno Press, 1976.

456 | Bibliography

Freris, A. F. The Greek Economy in the Twentieth Century. New York: St. Martin’sPress, 1986.

Friedman, Milton. Money and Economic Development. New York: Praeger Publishers,1972.

Friedman, Milton. Money Mischief: Episodes in Monetary History. New York: HarcourtBrace Jovanovich, 1992.

Friedman, Milton. The Optimum Quantity of Money, and Other Essays. Chicago, IL:Aldine Publishing Company, 1969.

Friedman, Milton. “Using Escalators to Help Fight Inflation,” Fortune Magazine, July1974.

Gadsby, J. William. Future of the Penny: Options for Congressional Consideration.Washington, D.C.: The Office, 1996.

Galbraith, John Kenneth. Money, Whence It Came, Where It Went. New York: BantamBooks, 1975.

Garbade, Kenneth D. “The Evolution of Repo Contracting Conventions in the 1980’s,”Economic Policy Review-Federal Reserve Bank of New York, vol. 12, no. 1 (May2006): 27–44.

Gibson, W. E. “Interest Rates and Inflationary Expectations,” American EconomicReview, vol. 62, no. 5, pp. 854–865.

Gillilland, Cora Lee C., The Stone Money of Yap: A Numismatic Survey. Washington,D.C.: Smithsonian Institution Press, 1975.

Glaeser, Edward L. Neither a Borrower, nor a Lender Be: An Economic Analysis ofInterest Restrictions and Usury Laws. Palo Alto, CA: Hoover Institution on War,Revolution, and Peace, Domestic Studies Program, 1994.

Goethe, Johann Wolfgang von. Faust. Translated by George Madison Priest. Chicago:William Benton Publisher, 1952.

Goldberg, Linda S. and Cedric Tille. “Vehicle Currency Use in International Trade,”Federal Reserve Bank of New York, Staff Report no. 200, January 2005.

Goldthwaite, Richard A. Banks, Palaces, and Entrepreneurs in Renaissance Florence.Aldershot, UK: Variorum, 1995.

Goldthwaite, Richard A. The Building of Renaissance Florence: An Economic andSocial History. Baltimore, MD: John Hopkins University Press, 1980.

Gomes, Leonard. Foreign Trade and the National Economy: Mercantilist and ClassicalPerspectives. New York: St. Martin’s Press, 1987.

Gorton, Gary. Clearinghouses and the Origin of Central Banking in the U.S., Workingpaper, Federal Reserve Bank of Philadelphia, 1984.

Goswami, Gautam, Jouahn Nam, and Milind Shrikhande. “Why Do Global Firms UseCurrency Swaps?: Theory and Evidence,” Journal of Multinational Financial Man-agement, vol. 14, no. 4/5 (October 2004): 315–334.

Bibliography | 457

Gould, J. D. The Great Debasement. Oxford: Clarendon Press, 1970.

Green, Timothy. The New World of Gold. New York: Walker and Company, 1981.

Greenfield, Robert L., and Hugh Rockoff. “Yellowbacks Out West and GreenbacksBack East: Social-Choice Dimensions of Monetary Reform,” Southern EconomicJournal, vol. 62, no. 4 (April 1996): 902–915.

Greenwald, John, James Carney. “Don’t Panic: Here Comes Bailout,” Time, February13, 1995, pp. 34–37

Greider, William. Secrets of the Temple: How the Federal Reserve System Runs theCountry. New York: Simon and Schuster, 1987.

Grice-Hutchinson, Margorie. Economic Thought in Spain: Selected Essays of MargorieGrice-Hutchinson. Edited by L. Moss and C. K. Ryan. Translated by C. K. Ryan andMargorie Grice-Hutchinson. Aldershot, UK; Elgar, 1993.

Grierson, P. “The Roman Law of Counterfeiting.” In Essays in Roman Coinage Pre-sented to Harold Matingly. Edited by R. A. G. Carson and C. H. V. Sutherland.Oxford, UK: Oxford University Press, 1956.

Gulde, Anne-Marie. “The Role of the Currency Board in Bulgaria’s Stabilization,”Finance and Development, vol. 36, no. 3, International Monetary Fund: WashingtonD.C., 1999, pp. 36–40.

Haak, Bob. The Golden Age: Dutch Painters of the Seventeenth Century. Translatedand edited by Elizabeth Willems-Treeman. New York: Harry N. Abrams, 1984.

Hagenbauch, Barbara. “A Penny Saved Could Become a Penny Spurned,” USA Today,July 7, 2006.

Hamilton, Earl J. American Treasure and the Price Revolution in Spain, 1501–1650.New York: Octagon Books, 1965.

Hamilton, Earl J. War and Prices in Spain, 1651–1800. New York: Russell andRussell, 1947.

Hammond, Bray. Banks and Politics in America from the Revolution to the Civil War.Princeton, NJ: Princeton University Press, 1957.

Hammond, G. L. Alexander the Great: King, Commander, and Statesman. Parkridge,NJ: Noyes Press, 1980.

Hanes, Christopher. “The Liquidity Trap and U.S. Interest Rates in the 1930s,” Journalof Money, Credit, and Banking, vol. 38, No. 1(February 2006): 163–194.

Hanke, Steve H. “The Americas: Ecuador Needs More Than a Dollars-for-SucresExchange,” Wall Street Journal (Eastern Edition), March 31, 2000, p. A19.

Hanke, Steve H. “Is the Ruble Next?” Forbes, March 9, 1998, 64–65.

Harl, Kenneth. Coinage in the Roman Economy, 300 B.C. to A.D. 700. Baltimore, MD:John Hopkins University Press, 1996.

Harris, S. The Assignats. Cambridge, MA: Harvard University Press, 1930.

Hasegawa, Tsuyoshi. The February Revolution: Petrograd, 1917. Seattle, WA: Universityof Washington Press, 1981.

Head, Barclay Vincent. The Coinage of Lydia and Persia. San Diego, CA: Pegasus, 1967.

458 | Bibliography

Heaton, Herbert. “Playing Card Currency of French Canada,” American EconomicReview, vol. 18, no. 4 (December 1928): 649–662.

Heckscher, Eli F. An Economic History of Sweden. Cambridge, MA: Harvard UniversityPress, 1954.

Hendy, Michael F. Studies in the Byzantine Monetary Economy. Cambridge, UK:Cambridge University Press, 1985.

Hepburn, A. Barton. A History of Currency in the United States. 1924. Reprint,New York: Augustus M. Kelley, 1967.

Herodotus. History. Chicago: William Benton Publisher, 1952.

Hewitt, V., ed. The Banker’s Art. London: British Museum, 1995.

Higgins, Andrew. “Twilight Economy: Lacking Money to Pay, Russian Firms Surviveon a Deft System of Barter,” Wall Street Journal, August 27, 1998, A1:1.

Hilsenrath, Jon, and Kelly Evans. “Fed Outlook Darkens on Economy,” Wall StreetJournal (Eastern Edition), January 7, 2009, A1.

Hoelscher, David, and Marc Quintyn. “Managing Systemic Banking Crises,” IMFOccasional Paper 224, Washington, D.C.: International Monetary Fund, 2003.

Hogendorn, Jan S. Economic Development. New York: Harper and Row, 1987.

Homer, Sidney. A History of Interest Rates. 2nd ed. New Brunswick, NJ: RutgersUniversity Press, 1977.

Horne, James C. Van, and John M. Wachowicz, Jr., Fundamentals of Financial Man-agement. 10th ed., Upper Saddle River, New Jersey: Prentice Hall, 1997.

Horsefield, J. K. “Stop of the Exchequer Revisited.” Economic History Review,vol. 35, no. 4 (1982): 511–528.

Horton, Dana S. The Silver Pound and England’s Monetary Policy since the Restora-tion, together with the History of the Guinea. New York: Garland Publishing, 1983.

Hull, Charles Henry, ed., The Economic Writings of Sir William Petty, New York:Augustus M. Kelly, 1963

Hume, David. Essays, Moral, Political, and Literary. New York: Oxford UniversityPress, 1963.

Hume, David. Writings on Economics. Edited by Eugene Rotwein. Madison: Universityof Wisconsin Press, 1955.

Humphreys, C. R. The Southern New Hebrides: An Ethnological Record. Cambridge,UK: Cambridge University Press, 1983.

Ikle, Max. Switzerland: An International Banking and Finance Center. Translated byEric Schiff. Stroudsburg, PA: Dowden, Hutchinson, and Ross, 1972.

International Financial Law Review. “The New Turkish Lira,” vol. 24, no. 1, January1995, pp. 47–48.

International Monetary Fund. “IMF Approves Augmentation and Extension of Georgia’sEASF Loan,” Press Release no. 99/34, 1999.

International Monetary Fund. “IMF Approves Stand-By Credit for the Republic ofBelarus,” Press Release no. 95/46. Washington, D.C., September 1995.

Bibliography | 459

International Monetary Fund. “IMF Approves US$64 Million Tranche Under Stand-By Credit and US$829 Extended Arrangement for the Federal Republic ofYugoslavia (Serbia/Montenegro),” Press Release no. 02/25, May 13, 2002.

International Monetary Fund. “Crisis in Asia: Regional and Global Implications”World Economic Outlook: Interim Assessment. Washington, D.C., December 1997.

International Monetary Fund. “Lessons from the Crisis in Argentina,” Prepared by thePolicy Development and Review Department, October 8, 2003.

International Monetary Fund, Public Information Notice (PIN) no. 04/62, WashingtonD.C., May 28, 2004.

International Monetary Fund. World Economic Outlook. Washington, D.C., May2000, May 2001, September 2002, April 2003, September 2003, April 2006, April2007, April 2008, and October 2008.

Islam, Azizul. “The Dynamics of the Asian Economic Crisis and Selected PolicyImplications.” In Global Financial Turmoil and Reform, edited by Barry Herman,pp. 49–74, New York, 1999.

Israel, Jonathan I. Dutch Primacy in World Trade: 1585–1740. Oxford, UK: ClarendonPress, 1989.

Jackson, Kevin, ed. The Oxford Book of Money. Oxford, UK: Oxford University Press,1995.

Jastram, Roy W. Silver, The Restless Metal. New York: John Wiley, 1981.

Jenkins, Holman W. Jr. “Rethinking the Fan and Fred Takeover,” Wall Street Journal(Eastern Edition), March 4, 2009, p. A13.

Johnson, A. C., and L. C. West. Currency in Roman and Byzantine Egypt. Princeton,NJ: Princeton University Press, 1949.

Johnston, Sir Harry Hamilton. George Grenfell and the Congo. 1908. Reprint, London,UK: Kraus Reprint, 1969.

Jones, A. H. M. The Later Roman Empire: 284–602. vol. 1–2, Norman, OK: Universityof Oklahoma Press, 1964.

Jones, A. H. M. The Roman Economy. Totowa, NJ: Rowman and Littlefield, 1974.

Journal of Accountancy. “What’s a Frozen ECU?” vol. 177, no. 4 (April 1994): 14.

Kagin, Donald H. “Monetary Aspects of the Treasury Notes of the War of 1812.” Journalof Economic History, vol. 44, no. 1 (March 1984): 69–88.

Kamps, Annette. “The Euro as Invoicing Currency in International Trade,” EuropeanCentral Bank, ECB Working Paper no. 665, August 2006.

Karmin, Craig. “Can Asia Control the ‘Hot Money’?; Even Some Investors EndorseCash Controls to Fight Speculators,” Wall Street Journal (Eastern Edition), April 5,2007, p. C1.

Karouf, Jim. “Start the Presses: Euro Set to Debut,” Futures, vol. 27, no. 9 September1, 1988): 30.

Katz, Ian. “Capital Flight South Florida,” Business Week, no. 4040 (June 25, 2007): 46.

460 | Bibliography

Kelly, Kate. “The Fall of Bear Stearns: Fear, Rumors Touched Off Fatal Run on BearStearns; Executives Swung From Hope to Despair in the Space of a Week,” WallStreet Journal (Eastern Edition), May 28, 2008, p. A1.

Kenen, Peter B. Economic and Monetary Union in Europe. Cambridge, UK: CambridgeUniversity Press, 1995.

Kennedy, Ellen. The Bundesbank: Germany’s Central Bank in the International Mon-etary System. New York: Council on Foreign Relations Press, 1991.

Kessler, Andy. “What Paulson Is Trying to Do,” Wall Street Journal (Eastern Edition),October 15, 2008, p. A19.

Keynes, John Maynard. Indian Currency and Finance. London: Macmillan, 1913.

Keynes, John Maynard. The Economic Consequences of Peace. New York: Harcourt,Brace and Howe, 1920.

Khan, Mohsin, and Abbas Mirakhor. “Islamic Banking: Experiences in the IslamicRepublic of Iran and in Pakistan,” Economic Development and Cultural Change,vol. 38, no. 2 (January 1990): 353–376.

Kim, Jim. “Credit Crunch Moves Beyond Mortgages: Individuals See Higher Rates,Harsher Terms on Credit Cards and Other Consumer Loans,” Wall Street Journal(Eastern Edition), August 22, 2007, p. D1.

Kindleberger, Charles P. A Financial History of Western Europe. London: GeorgeAllen and Unwin, 1984.

Kleiman, Ephraim. “Early Inflation Tax Theory and Estimates,” History of PoliticalEconomy, vol. 32, no. 11 (2000): 265–298.

Klein, John J. Money and the Economy. 6th ed. San Diego, CA: Harcourt BraceJovanovich, 1986.

Kline, Alan. “Bank in Michigan Says Check-Kiting Scheme Could Cost It $2.5 Million;’97 Profits Slashed,” American Banker, vol. 163, no. 48 (March 12, 1998): 8.

Knee, Jonathan A. “Boutique vs. Behemoth,” Wall Street Journal (Eastern Edition),March 2, 2006, p. A14.

Knox, John Jay. A History of Banking in the United States. New York: BradfordRhodes and Company, 1903. Reprint, New York: Augustus M. Kelley, 1969.

Koretz, Gene. “Do ‘Sweeps’ Sap Fed Policy: A Growing Bank Practice Stirs Fears,”Business Week, no. 3529 (June 2, 1997): 26.

Kowsmann, Patricia, and Karen Lane. “Islamic Banking Moves Into Singapore; City-State Stakes Claim in Crowing Sector; DBS, Mideast Investors Capitalize NewFirm,” Wall Street Journal (Eastern Edition), May 8, 2007, p. C7.

Kozicki, Sharon, and Gordon Sellon. “Longer-Term Perspectives on the Yield CurveMonetary Policy,” Federal Reserve Bank of Kansas Economic Review, vol. 90, no. 4 (2005): 5–35.

Krauss, Clifford. “Commodities Relentless Surge,” New York Times, vol. 157, no. 54190 (January 15, 2008): C1–8.

Bibliography | 461

462 | Bibliography

Kravchuk, Robert S. “Budget Deficits, Hyperinflation, and Stabilization in Ukraine,1991–96,” Public Budgeting and Finance, vol. 18, no. 4 (Winter 1998): 45–70.

Krieger, Herbert William. Island Peoples of the Western Pacific: Micronesia andMelanesia. Washington, D.C.: Smithsonian Institution, 1943.

Kroszner, Randy. Free Banking: The Scottish Experience as a Model for EmergingEconomies. Washington, D.C.: World Bank, 1995.

Kumar, Manmohan S. “Deflation: the New Threat,” Finance and Development,vol. 40, no. 2 (June 2003): 16–19.

Lane, Frederic C. Venice: A Maritime Republic. Baltimore, MD: John Hopkins Press,1973.

Lane, Frederic C., and Reinhold C. Mueller. Money and Banking in Medieval and Renais-sance Venice. Vols. 1–2. Baltimore, MD: John Hopkins University Press, 1997.

Laughlin, J. Laurence. A History of Bimetallism in the United States. 1896. Reprint,New York: Greenwood Press, 1968.

League of Nations. The Course and Control of Inflation. Geneva: League of Nations,1946.

Lee, Jang-Yung. “Sterilizing Capital Inflows,” International Monetary Fund, Eco-nomic Issues no. 7. Washington, D.C., March 1997.

Leigh, Daniel, Marco Rossi. “Leading Indicators of Growth and Inflation in Turkey,”IMF Working Paper (WP/02/231) IMF: Washington, D.C., December 2002.

Lefebvre, Georges. The French Revolution. Vols. 1–2. Translated by John H. Stewartand James Friguglietti. New York: Columbia University Press, 1964.

Lerner, Eugene M. “Inflation in the Confederacy, 1861–1865.” In Studies in the Quan-tity Theory of Money. Edited by Milton Friedman, pp. 163–175. Chicago: Universityof Chicago Press, 1956.

Lester, Richard A. Monetary Experiments. 1939. Reprint, New York: Augustus M.Kelley, 1970.

Lewis, Michael. “The Capitalist; Ruble Roulette,” New York Times Magazine,August 13, 1995, pp. 622.

Littlefield, Henry M. “The Wizard of Oz: Parable on Populism.” American Quarterly,vol. 16 (Spring 1964): 47–58.

Littlepage, Dean. The Alaska Gold Rush. Santa Barbara, CA: Albion PublishingGroup, 1995.

Long, Robert Emmet, ed. Banking Scandals: The S & Ls and BCCI. New York: H. W.Wilson, 1993.

Lopez, Robert S. The Shape of Medieval Monetary History. London: VariorumReprints, 1986.

Lowenstein, Roger. “Triple-A Failure,” New York Times Magazine, April 27, 2008,pp 36–42.

Lucas, Robert E. Jr. “Nobel Lecture: Monetary Neutrality,” Journal of Political Econ-omy, vol. 104, no. 4 (August 1996): 661–683.

Luke, Jon C. “Inflation-free Pricing Rules for a Generalized Commodity-ReserveCurrency,” Journal of Political Economy, vol. 83, no. 4 (1975): 779–790.

Lumpkin, Stephen. “Repurchase and Reverse Repurchase Agreements,” FederalReserve Bank of Richmond Economic Review, vol. 731 (January 1987): 15–23.

Lyon, James. “Yugoslavia’s Hyperinflation, 1993–1994: A Social History,” EastEuropean Politics and Societies, vol. 10, no. 2 (March 1996): 293–327.

MacDonald, Alistair, Laurence Norman. “World News: Bank Bailouts, Sinking RevenueFray U.K.’s Ledger,” Wall Street Journal (Eastern Edition), February 20, 2009, p. A10.

Makin, John H. “Sumo Economics,” Wall Street Journal (Eastern Edition), March 3,2004, p. A16.

Manasse, Paolo, and Nouriel Roubini. “‘Rules of Thumb’ for Sovereign Debt Crises,”IMF Working Paper, WP/05/42, International Monetary Fund, March 2005.

Mandel, Michael. “After The Binge, Who Should Suffer?” Business Week, October 13,2008.

Mankiw, N. Gregory. Macroeconomics. 3rd ed. New York: Worth Publishers, 1996.

Marshall, Alfred. “Remedies for Fluctuations of General Prices,” ContemporaryReview, vol. 51 (March 1887): 355–375.

Martien, Jerry. Shell Game: A True Account of Beads and Money in North America.San Francisco: Mercury House, 1996.

Martin-Acena, P. “The Spanish Money Supply, 1874–1935,” Journal of EuropeanEconomic History. vol. 19, no. 1 (1990): pp. 7–33.

Marx, Jennifer. The Magic of Gold. Garden City, NY: Doubleday, 1978.

Mas, Ignacio. “Things Governments do to Money: A Recent History of CurrencyReform Schemes and Scams,” Kyklos, vol. 48, no. 4 (1995): 483–513.

Masahiro, Kawai. “The East Asian Currency Crisis: Causes and Lessons,” Contempo-rary Economic Policy, vol. 16, no. 2 (April 1998): 157–173.

Mattingly, Harold. Roman Coins. London: Methuen and Co., 1968.

McCallum, Bennett T. Monetary Economics: Theory and Practice. New York:Macmillan, 1989.

McConnell, Campbell R., and Stanley L. Brue. Economics: Principles, Problems, andPolicies, 14th ed. New York: McGraw Hill, 1998.

McKay, Betsy. “Ruble’s Decline Energizes Russian Firms Who Manage to Win BackConsumers,” Wall Street Journal (Eastern Edition), April 23, 1999, p. B7A.

McKinnon, Ronald I. “Optimal Currency Areas,” American Economic Review, vol. 53(1963): 717–725.

McMahon, Denis. “World News: China Vows to Crimp ‘Hot Money’ Flows,” WallStreet Journal (Eastern Edition), March 10, 2008, p. A6.

Meade, Ellen E. “The FOMC: Preferences, Voting, and Consensus,” Federal ReserveBank of St. Louis Review (March 2005): 93–101.

Meek, Charles Kingsley. Law and Authority in a Nigerian Tribe: A Study in IndirectRule. London: Oxford University Press, 1950.

Bibliography | 463

Meiselman, David. Varieties of Monetary Experience. Chicago: University of ChicagoPress, 1970.

Melitz, Jacques. “The Theory of Optimal Currency Areas.” Open Economies Review,vol. 7, no. 2 (April 1996): 99–116.

Myers, Margaret G. A Financial History of the United States. New York: ColumbiaUniversity Press, 1970.

Michaud, Francois-Louis, and Christian Upper. “What Drives Interbank Rates? Evi-dence for the Libor Panel,” BIS Quarterly Review (March 2008): 47–58.

Miles, David, and Andrew Scott. Macroeconomics: Understanding the Wealth ofNations. John Wiley and Sons, New York, 2002.

Mill, John Stuart. Principles of Political Economy. vol. 3 of Collected Works of JohnStuart Mill, London: Routledge and Kegan Paul, 1965.

Millett, Paul. Lending and Borrowing in Ancient Athens. Cambridge, UK: CambridgeUniversity Press, 1991.

Milne, J. G. Greek Coinage. Oxford, UK: Clarendon Press, 1931.

Minton, Robert. John Law: The Father of Paper Money. New York: Association Press,1975.

Miskimin, Harry A. Money, Prices, and Foreign Exchange in Fourteenth-CenturyFrance. New Haven, CT: Yale University Press, 1963.

Mittra, Sid. Central Bank Versus Treasury: An International Study. Washington, D.C.:University Press of America, 1978.

Moggridge, D. E. The Return to Gold, 1925. Cambridge, UK: Cambridge UniversityPress, 1969.

Mollenkamp, Carrick. “U.K. Bankers To Alter Libor to Address Rate Doubts,” WallStreet Journal (Eastern Edition), June 11, 2008, p. C1.

Mollenkamp, Carrick, and Mark Whitehouse. “Study Casts Doubt on Key Rate; WSJAnalysis Suggest Banks May Have Reported Flawed Interest Data for Libor,” WallStreet Journal (Eastern Edition), May 29, 2008, p. A1.

Montesquieu, Charles De Secondat, Baron De. The Spirit of Laws. 1748. Translatedby Thomas Nugent. Chicago: William Benton, 1952.

Moses, Bernard. “Legal Tender Notes in California,” Quarterly Journal of Economics,vol. 7 (October 1892): 1–25.

Mosley, Layna. “Dropping Zeros and Gaining Credibility? Currency Redenominationin Developing Nations,” Conference Paper, American Political Science Associa-tion, 2005 Annual Meeting, Washington, D.C., pp. 1–28.

Moutot, Philippe, Alexander Jung, and Francesco Mongelli. “The Workings of theEurosystem: Monetary Policy Preparations and Decision Making-Selected Issues,”Occasional Paper Series, no. 79. Frankfurt am Main Europe, European CentralBank, 2008.

Mundell, Robert A. “A Theory of Optimal Currency Areas,” American EconomicReview, vol. 51 (1961): 637–665.

464 | Bibliography

Murphy, Antoin E. John Law: Economic Theorist and Policy Maker. Oxford, UK:Clarendon Press, 1997.

Myers, Margaret G. A Financial History of the United States. New York: ColumbiaUniversity Press, 1970.

Myers, Robert J., ed. The Political Morality of the International Monetary Fund.New Brunswick, NJ: Transactions Books, 1987.

Nettels, Curtis P. The Emergence of a National Economy. Madison: University ofWisconsin, 1962.

Nettels, Curtis P. The Money Supply of the American Colonies before 1720. 1934.Reprint, New York: Augustus M. Kelly, 1964.

Nevin, Edward, and E. W. Davis. The London Clearing Banks. London: Elek Books, 1970.

New York Times. “Settling Switzerland’s Debts,” August 16, 1998, p. 1.

Nogaro, Bertrand. “Hungary’s Recent Monetary Crisis and Its Theoretical Meaning.”American Economic Review, vol. 38, no. 4 (September 1948): 526–542.

Nolan, Patrick. A Monetary History of Ireland. London: P. S. King and Son, 1926.

Nugent, Walter T. K. Money and American Society: 1865–1880. New York: FreePress, 1968.

Nussbaum, Arthur. A History of the Dollar. New York: Columbia University Press, 1957.

Nussbaum, Frederick L. A History of the Economic Institutions of Modern Europe.1935. Reprint, New York: Augustus M. Kelley, 1968.

OCED Economic Outlook, Number 84, 2008. (www.oced.org/publications)

Ohkawa, Kazushi, Miyorhei Shinohara, and Larry Meissner, eds. Patterns of JapaneseEconomic Development: A Quantitative Appraisal. New Haven, CT: Yale UniversityPress, 1979.

Oomes, Nienke, and Franziska Ohnsorge. “Money Demand and Inflation in DollarizedEconomies: The Case of Russia,” IMF Working Paper, Washington: InternationalMonetary Fund (WP/05/144), June 2005.

Organization for Economic Cooperation and Development, OECD Economic Surveys:Bulgaria, vol. 1999, no. 9 (April 1999), OECD: Paris, France, pp. 1–111.

Paarlberg, Don. An Analysis and History of Inflation. Westport, CT: Greenwood Press,1993.

Paddock, Richard C. “Russians Bank of Bartering,” Los Angeles Times, December 28,1998, A1:1.

Padoa-Schioppa, Tommaso. The Road to Monetary Union in Europe. Oxford, UK:Clarendon Press, 1994.

Paletta, Damian, and Allstair MacDonald. “World News: Liquidity-Crisis Guide Setfor an Update,” Wall Street Journal (Eastern Edition), February 22, 2008, p. A9.

Paletta, Damian, Susanne Craig, Deborah Soloman, Carrick Mollenkamp, and MathewKarnitschnig. “Lehman Fata Spurs Emergency Session; Wall Street Titans SeekWays to Stem Widening Crisis,” Wall Street Journal (Eastern Edition), September13, 2008, p. A1.

Bibliography | 465

Parkman, Francis. The Conspiracy of Pontiac and the Indian War after the Conquestof Canada. 1899. Reprint, Boston: Little, Brown and Company, 1933.

Parrson, Jens D. Dying of Money: Lessons from the Great German and AmericanInflations. Boston: Wellspring Press, 1974.

Partner, Peter. Renaissance Rome, 1500–1599. Los Angeles: University of CaliforniaPress, 1976.

Penner, Ethan. “The Future of Securitization,” Wall Street Journal (Eastern Edition),July 10, 2008, p. A15.

Pereira, Luiz Carlos Bresser. Economic Crisis and State Reform in Brazil. London:Lynne Rienner Publishers, 1996.

Perlman, Morris. “Adam Smith and the Paternity of the Real Bills Doctrine.” Historyof Political Economy, vol. 21 no. 1 (Spring 1989): 77–90.

Petrovic, Pavle, Zorica Mladenovic. “Money Demand and Exchange Rate Determinationunder Hyperinflation: Conceptual Issues and Evidence from Yugoslavia,” Journal ofMoney, Credit, and Banking, vol. 32, no. 4. (November 2000): 785–806.

Pintner, Walter McKenzie. Russian Economic Policy Under Nicholas I. Ithaca, NY:Cornell University Press, 1967.

Pipes, Richard. The Russian Revolution. New York: Alfred A. Knopf, 1991.

Pirie, Anthony. Operation Bernhard. New York: William Morrow, 1962.

Pitman, Frank, W. The Development of the British West Indies: 1700–1763. NewHaven: Yale University Press, 1917.

Plato. The Dialogues of Plato. Translated by Benjamin Jowett. Chicago: WilliamBenton, Publisher, 1952.

Plutarch. Lives of Noble Grecians and Romans. Dryden Translation. Chicago: WilliamBenton, 1952.

Polak, Jacques J. The World Bank and the International Monetary Fund: A ChangingRelationship. Washington, D.C.: Brookings Institution, 1994.

Pollock, Michael. “Welcome to a Changed Muni World; Foreigners, Hedge Funds AreAmong the Newcomers; One ‘Hot Money’ Scenario,” Wall Street Journal (EasternEdition), April 4, 2006, p. C13.

Polo, Marco. Travels of Marco Polo. New York: Orion Press, 1958.

Polo, Marco. Travels of Marco Polo. Edited by W. Marsden. New York: Dorset Press,1987.

Porter, Richard D., and Ruth A. Judson. “The Location of U.S. Currency: How Muchis Abroad?” Federal Reserve Bulletin, vol. 82, no. 10 (October 1996): 883–903.

Postgate, John Nicholas. Early Mesopotamia: Society and Economy at the Dawn ofHistory. Rev. ed. London: Routledge, 1994.

Powell, Ellis. The Evolution of the Money Market: 1385–1915. 1915. Reprint, NewYork: August M. Kelley, 1966.

Powell, T. G. E. The Celts. Rev. ed. New York: Thames and Hudson, 1985.

466 | Bibliography

Quiggin, A., and A. Hingston. A Survey of Primitive Money. New York: AMS, 1949.

Quispe-Angnoli, Myriam, and Elena Whisler. “Official Dollarization and the BankingSystem in Ecuador and El Salvador,” Economic Review (0732183), vol. 91. no. 3(3rd Quarter): 55–71

Radford, R. A. “The Economic Organization of a POW Camp.” Economica, vol. 12,no. 48 (November 1945): 189–210.

Reddy, Sudeep. “U.S. News: Fed Extends Lending Programs as Threats Persist; MoveReflects Worry Over ‘Fragile’ State of Financial Market,” Wall Street Journal (EasternEdition), July 31, 2008, p. A3.

Reinhart, Carmen M., and Miguel A. Savastano. “The Realities of Modern Hyperin-flation,” Finance and Development, vol. 40, no. 2 (June 2003): 20–23.

Reiter, Seymour. A Study of Shelley’s Poetry. Albuquerque, NM: University of NewMexico Press, 1967.

Rich, Robert, Charles Steindel. “A Comparison of Measure of Core Inflation,” Eco-nomic Policy Review, vol. 13, no. 3 (December 2007): 19–38.

Richards, R. D. The Early History of Banking in England. 1929. Reprint, New York:Augustus M. Kelley, 1965.

Richter, Jean Paul, ed. The Notebooks of Leonardo Da Vinci. 1833. Reprint, New York:Dover Publications, 1970.

Rickenbacker, William F. Wooden Nickels, Or the Decline and Fall of Silver Coins.New Rochelle, NY: Arlington House, 1966.

Riley, Clint. “Help Wanted, Bank Officials to Watch Cash; Compliance Executives Arein Growing Demand As Regulation Increases,” The Wall Street Journal (EasternEdition), February 6, 2007, p. C1.

Ritter, Gretchen. Gold Bugs and Greenbacks: The Antimonopoly Tradition and the Pol-itics of Finance in America. Cambridge, UK: Cambridge University Press, 1997.

Roberts, Richard, ed. The Bank of England: Money, Power, and Influence, 1694–1994.Oxford, UK: Clarendon Press, 1995.

Rock, Charles P., and Vasiliy Solodhov. “Monetary Policies, Banking, and Trust inChanging Institutions: Russia’s Transition in the 1990s, Journal of EconomicIssues, vol. 35, no. 2 (June 2001): 451–459.

Rockoff, Hugh. Drastic Measures: A History of Wage and Price Controls in the UnitedStates. Cambridge, UK: Cambridge University Press, 1984.

Rockoff, Hugh. The Free Banking Era: A Reexamination. New York: Arno Press, 1975.

Rockoff, Hugh. “The Free Banking Era: A Reexamination” Journal of Money, Creditand Banking, vol. 6 (1974): 146–157.

Rockoff, Hugh. “The Wizard of Oz as a Monetary Allegory.” Journal of PoliticalEconomy, vol. 98, no. 4 (1990): 739–760.

Rogers, James S. The Early History of the Law of Bills and Notes: A Study of the Originsof Anglo-American Commercial Law. New York: Cambridge University Press, 1995.

Bibliography | 467

468 | Bibliography

Rogoff, Kenneth. “Globalization and Global Disinflation,” Economic Review, vol. 88,no. 4 (2003, 4th quarter): 45–78.

Rolnick, Arthur J., and Warren E. Weber. “New Evidence of the Free Banking Era.”American Economic Review, vol. 73, no. 5 (December 1983): 1080–1090.

Roover, Raymond de. The Rise and Decline of the Medici Bank: 1397–1494. New York:W. W. Norton, 1966.

Rose, Peter S. Money and Capital Markets. 2nd ed. Plano, TX: Business Publications,1986.

Rosen, Richard J. “The Role of Securitization in Mortgage Lending,” Chicago Fed Let-ter, The Federal Reserve Bank of Chicago, Essays on Issues no. 244, November 2007.

Rostovtzeff, M. The Social and Economic History of the Hellenistic World. vol. 1–3.Oxford, UK: Oxford University Press, 1941.

Russell, Steven. “Understanding the Term Structure of Interest Rates: The ExpectationsTheory,” Federal Reserve Bank of St. Louis Review, vol. 74, no. 4 (1992): 36–51.

Ryan, John Carlin. A Handbook of Papal Coins. Washington, D.C.: J. C. Ryan, 1989.

Samuelsson, Kurt. From Great Power to Welfare State: 300 Years of Swedish SocialDevelopment. London: Allen and Unwin, 1968.

Sargent, Thomas J. Rational Expectations and Inflation. 2nd ed. New York: HarperCollins, 1993.

Sayers, R. S. The Bank of England: 1891–1944. Cambridge, UK: Cambridge UniversityPress, 1976.

Schama, Simon. The Embarrassment of Riches: An Interpretation of Dutch Culture inthe Golden Age. New York: Alfred Knopf. 1987.

Scheller, Hanspeter K., The European Central Bank: History, Role, and Functions,Frankfurt am Main: European Central Bank, 2006.

Schlesinger, Arthur M., Jr. The Coming of the New Deal. Boston: Houghton MifflinCompany, 1959.

Schlesinger, Arthur M., Jr. The Age of Jackson. New York: Book Find Club, 1945.

Schlesinger, Arthur M., Jr. The Age of Roosevelt. Vols. 1–3. Boston: Houghton MifflinCompany, 1957–1960.

Schnadt, Norman, and John Whittaker. “Inflation-proof Currency? The Feasibility ofVariable Commodity Standards.” Journal of Money, Credit, and Banking, vol. 25,no. 2 (1993): 214–221.

Schuler, Kurt. “Some Theory and History of Dollarization,” Cato Journal, vol. 25, no. 1 (Winter 2005): 115–125.

Schumpeter, Joseph. Business Cycles: A Theoretical, Historical, and Statistical Analysisof the Capitalist Process. Vols. 1, 2. Philadelphia: Porcupine Press, 1939.

Schwartz, Anna J. “From Obscurity to Notoriety: A Biography of the Exchange Sta-bilization Fund.” Journal of Money, Credit, and Banking, vol. 29, no. 2 (May 1997):135–153.

Schwarz, Ted. A History of United States Coinage. San Diego, CA: A.S. Barnes, 1980.

Selgin, George A., and Lawrence H. White. “Monetary Reform and the Redemptionof National Bank Notes.” Business History Review, vol. 68, no. 20 (Summer 1994):205–243.

Senate Committee on Finance, Wholesale Prices, Wages, and Transportation. “TheAldrich Report,” Senate Report no. 1394, Part I, 52nd Congress, 2nd sess., March3, 1893.

Sesit, Michael R., and David Reilly. “Going Global: ‘Hot Money’ Helps Drive OilVolatility,” Wall Street Journal (Eastern Edition), July 14, 2005, p. C1.

Sesit, Michael R., and Sara Webb. “Ruble’s Woes Could Shake Market Anew,” WallStreet Journal (Eastern Edition), July 6, 1998, p. C1.

Shann, E. O. G. An Economic History of Australia. 1948. Reprint, Melbourne, Australia:Georgian House, 1963.

Sharma, Shalendra. “The Missed Lessons of the Mexican Peso Crisis,” Challenge,vol. 44, no. 1 (January/February 2001): 56–89.

Sidel, Robin. “American Express Drops High-Tech Payment Device,” Wall StreetJournal (Eastern Edition) March 31, 2008, p. B1.

Sidel, Robin. “Do-It-All Banks’ Big Test; Universal Model So Far Weathers CreditCrunch, Remains Controversial,” Wall Street Journal (Eastern Edition), September6, 2007, p. C1.

Siegman, Charles J. “The Bank of International Settlements and the Federal Reserve,”Federal Reserve Bulletin, vol. 80, no. 10 (October 1994): 900–906.

Siklos, P. L. “The End of the Hungarian Hyperinflation of 1945–46.” Journal ofMoney, Credit, and Banking, vol. 2 (1989): 132–147.

Slabaugh, Arlie. Confederate States Paper Money. 9th ed. Iola, WI: Krause Publica-tions, 1998.

Smith, Adam. An Inquiry into the Nature and Causes of the Wealth of Nations. New York:Modern Library, 1937.

Smith, Adam. An Inquiry into the Nature and Causes of the Wealth of Nations. 1776.Reprint, Chicago: William Benton Publisher, 1952.

Smith, R. Bosworth. Carthage and the Carthaginians. New York: Longman’s, Green,and Co., 1913.

Smith, Vera C. The Rationale of Central Banking and the Free Banking Alternative.1936. Reprint, Indianapolis, IN: Liberty Press, 1990.

Snider, Delbert A. Introduction to International Economics. 6th ed. Homewood, IL:Richard D. Irwin, 1975.

Solomon, Deborah. “U.S. News: Obama Works to Overhaul TARP—Team Tries toMeld Some Paulson Ideas with Aid to Borrowers Facing Foreclosure,” Wall StreetJournal (Eastern Edition), December 17, 2008, p. A3.

Solomon, Steven. The Confidence Game: How Unelected Central Bankers are Gov-erning the Changed Global Economy. New York: Simon and Schuster, 1995.

Speke, J. H. The Discovery of the Source of the Nile. 1864. Reprint, London: Every-man’s, 1906.

Bibliography | 469

Spiegel, Henry William. The Growth of Economic Thought. Englewood Cliffs, NJ:Prentice-Hall, 1971.

Sprenkle, Case M. “The Case of the Missing Money,” Journal of Economic Perspec-tives, vol. 7, no. 4 (Fall 1993): 175–184.

Spufford, Peter. Money and its Use in Medieval Europe. Cambridge, UK: CambridgeUniversity Press, 1988.

Stabile, Donald R. The Origins of American Public Finance: Debates over Money,Debt, and Taxes in the Constitutional Era, 1776–1836. Westport, CT: GreenwoodPress, 1998.

Stanley, Henry M. In Darkest Africa. New York: Charles Scribner’s Sons, 1890.

Stewart, A. Faces of Power, Alexander’s Image and Hellenistic Politics. Berkeley, CA:University of California Press, 1993

Stolper, Gustav. The German Economy: 1870–Present. New York: Harcourt, Brace, 1967.

Stuck, Hudson. Ten Thousand Miles with a Dog Sled. 2nd ed. New York: CharlesScribner’s Sons, 1932.

Summers, Robert, and Alan Heston. “The Pen World Table (Mark 5): An ExpandedSet of International Comparisons, 1950–1988,” Quarterly Journal of Economics,vol. 106, no. 2 (May 1991): 327–369

Svensson, Lars E. O. “Escaping from the Liquidity Trap and Deflation: The FoolproofWay and Others,” Journal of Economic Perspectives, vol. 17, no. 4 (Fall 2003):145–166.

Sveriges Riksbank. Sveriges Riksbank: The Swedish Central Bank, a Short Introduc-tion. Stockholm, Sweden: Sveriges Riksbank Information Secretariat, 1994.

Tavernier, Jean-Baptiste. The Six Voyages of John-Baptiste Tavernier, Baron ofAubonne, through Turkey, into Persia and the East Indies. 1677. Translated by J. Phillips. Reprint, London: Robert Littlefield and Moses Pitt, 1985.

Taxay, Don. Money of the American Indians, and Other Primitive Currencies of theAmericas. New York: Nummus, Press, 1970.

Terranova, Anthony. Massachusetts Silver Coinage. New York: American NumismaticSociety, 1994.

Terrell, Henry S., and Rodney H. Mills. “International Banking Facilities and theEurodollar Market.” Staff Study no. 124. Washington, D.C.: Board of Governors ofthe Federal Reserve System, August 1983.

Thayer, Theodore. “The Land-Bank System in the American Colonies.” Journal ofEconomic History, vol. 13, no. 2 (1953): 145–159.

Thiers, M. A. The History of the French Revolution. Vols. 1–5. 1881. Translated byFrederick Shoberl. Reprint, Freeport, NY: Books for Libraries Press, 1971.

Thornton, Daniel L. “When Did the FOMC Begin Targeting the Federal Funds Rate?What the Verbatim Transcript Tells Us,” Working Papers, 2004-015, FederalReserve Bank of St. Louis. 2005.

Thucydides. The Peloponnesian War. Translated by Richard Crawley. Chicago:William Benton Publisher, 1952.

470 | Bibliography

Timberlake, Richard Henry. The Origins of Central Banking in the United States.Cambridge, MA: Harvard University Press, 1978.

Torres, Craig. “Mexican Markets are Hit by Fresh Blows—Stock Index Sags as Rateson Treasury Bills Soar; Firm announces Default,” Wall Street Journal (Eastern Edi-tion), February 16 1995, p. A11.

Toynbee, Arnold. A Study of History. vol. 7. London: Oxford University Press, 1954.

Troxell, Hyla A. Studies in the Macedonian Coinage of Alexander the Great. New York:American Numismatic Society, 1997.

Ueda, Kazuo. Wall Street Journal (Eastern Edition), April 8, 1999, p. 1.

United Kingdom. Report of the Committee on the Workings of the Monetary System.Cmnd. 827. London: Her Majesty’s Stationary Office, 1959.

Usher, Abbott Payson. A History of Mechanical Inventions. Rev. ed. 1929. Reprint,New York: Dover Publications, 1988.

US Fed News Service. “VOA News: Zimbabwe’s Central Bank Snips 10 Zeros inCurrency Redenomination,” Washington, D.C., July 30, 2008.

Valdes, Juan Gabriel. Pinochets’ Economists. Cambridge: Cambridge UniversityPress, 1995.

Van Arsdell, and Robert D. Celtic Coinage of Britain. London: Spink, 1989.

Van Houte, J. A. An Economic History of the Low Countries: 800–1800. New York:St. Martin’s Press, 1977.

Vasari, Giorgio. Lives of the Painters, Sculptors, and Architects, vol. 2. New York: E. P. Dutton, 1927

Vilar, Pierre. A History of Gold and Money, 1450–1920. Translated by Judith White.London: NLB, 1976.

Vives, Jaime Vicens. An Economic History of Spain. Princeton, NJ: Princeton UniversityPress, 1969.

Vogel, Thomas T. Jr., and Michael M. Phillips. “Ecuador Leader Pegs His PoliticalSurvival to the Dollar–Currency Plan Follows Plunge and Rising Protests,” WallStreet Journal (Eastern Edition), January 11, 2000, p. A18.

Wachter, Susan M. Latin American Inflation. Lexington, MA: Lexington Books, 1976.

Wall Street Journal. “Precarious Peso—Amid Wild Inflation, Bolivians Concentrateon Swapping Currency,” August 13, 1985, 1.

Wall Street Journal. “In Marxist Angola, Capitalism Thrives, Using Beer Standard,”September 19, 1988, 1.

Wall Street Journal (Eastern Edition). “Soviet Printing of Rubles Soared in 11-MonthPeriod,” December 24, 1991, A8.

Wall Street Journal (Eastern Edition). “Russia, Facing Inflation, Plans Bigger Bank-notes,” January 31, 1992, A10.

Wall Street Journal (Eastern Edition). “Russia Plans to Make Ruble Fully Convertibleby August 1,” May 6, 1992, A3.

Wall Street Journal (Eastern Edition). “Chaos in Russia Mounts,” July 26, 1993, A8.

Bibliography | 471

Wall Street Journal (Eastern Edition). “Russia’s Overhaul of Ruble Prompts Unease inNation,” December 31, 1997, A7.

Wall Street Journal. “Economic Climate Looks Good for Launch of New Currency,”May 4, 1998, A17–18.

Wall Street Journal (Eastern Edition). “Amid Zimbabwe’s Economic Collapse, Des-perate Investors Send Market Soaring,” September 15, 2000. p. A17

Wall Street Journal (Eastern Edition). “Freedom for Zimbabwe,” March 21, 2008,p. A13

Wall Street Journal (Eastern Edition). “Swiss Bank Weighs Its Use of Libor,” May 29,2008, p. A12.

Wall Street Journal (Eastern Edition). “Glass and Steagall Had a Point,” May 31,2008, p. A10.

Wall Street Journal (Eastern Edition). “Many Cooks Had a Hand in Repealing Glass-Steagall in ’99,” September 26, 2008, p. A13.

Wang, Jian-Ye. “The Georgian Hyperinflation and Stabilization,” International Mone-tary Fund, IMF Working Paper no. 99/65, Washington D.C., May 1999.

Watson, David K. History of American Coinage. 1899. Reprint, New York: BurtFranklin, 1970.

Weatherford, Jack. The History of Money. New York: Crown Publishers, 1997.

Weaver, R. Kent. Automatic Government: Politics of Indexation. Washington, D.C.:Brookings Institution, 1988.

Webb, Steven B. Hyperinflation and Stabilization in Weimar Germany. New York:Oxford University Press, 1989.

Weber, Warren. “The Effect of Real and Monetary Disturbances on the Price Levelunder Alternative Commodity Reserve Standards,” International Economic Review,vol. 21, no. 3 (October 1980): 673–690.

Weinstein, Steve. “True Benefits.” Progressive Grocer, vol. 77, no. 5 (May 1998): 80–86.

Weintraub, Sidney. Capitalism’s Inflation and Unemployment Crisis. Reading, MA:Addison-Wesley Publishing Company, 1978.

Wessel, David, Paul Carroll, and Thomas Vogel Jr. “Peso Surprise: How Mexico’sCrisis Ambushed Top Minds in Officialdom, Finance—As Pressure to DevalueRose, Finance Chief Refused; Then It Was Done Badly—The Hot Money TurnsCold,” Wall Street Journal (Eastern Edition), July 6, 1995, p. A1.

Westermann, William Linn. “Warehousing and Trapesite Banking in Antiquity.” Jour-nal of Economic and Business History. 1931. Reprint, New York: Kraus ReprintCorporation, 1964.

White, Lawrence J. “The Partial Deregulation of Banks and other Depository Insti-tutions.” In Regulatory Reform: What Actually Happened? Edited by LeonardW. Weiss and Michael W. Klass. Boston: Little, Brown, and Company, 1986.

Wicker, E. “Terminating Hyperinflation in the Dismembered Hapsburg Monarchy,”American Economic Review, vol. 76, no. 3 (1986): 350–364.

472 | Bibliography

Williams, Jonathan, ed. Money: A History. New York: St. Martin’s Press, 1997.

Williamson, Elizabeth. “U.S. News: Rescue Cash Lures Thousand of Banks,” WallStreet Journal (Eastern Edition), November 3, 2008, p. A3.

Willis, Henry Parker. A History of the Latin Monetary Union. 1901. Reprint, NewYork: AMS Press, 1901.

Wilson, J. S. G. French Banking Structure and Credit Policy. Cambridge, MA: HarvardUniversity Press, 1957.

Wines, Michael. “As Inflation Soars, Zimbabwe Economy Plunges,” New York Times(Eastern Edition), February 7, 2007. p. A1

Wines, Michael. “Caps on Prices Only Deepen Zimbabweans’ Misery,” New YorkTimes (Eastern Edition), August 2, 2007. p. A1

Wines, Michael. “How Bad is Inflation in Zimbabwe?” New York Times (Eastern Edi-tion), May 2, 2006, p. A1

Woerheide, Walter J. The Savings and Loan Industry. Westport, CT: Quorum Books,1984.

Wu, Tao. “Estimating the ‘Neutral’ Real Interest Rate in Real Time,” FRBSF Eco-nomic Letter, no. 2005-27, October 21, 2005.

Yeager, Leland B. “Stable Money and Free-Market Currencies,” Cato Journal, vol. 3(Spring 1983): 305–326.

Yoder, Paton S. “Paper Currency in Colonial Pennsylvania.” Ph.D. dissertation, Indi-ana University, 1941.

Ziobrowsky, Alan, Brigitte Ziobrowsky, and Sidney Rosenberg. “Currency Swaps andInternational Real Estate,” Real Estate Economics, vol. 25, no. 2 (Summer 1997):223–252.

Bibliography | 473

475

Glossary

Assets—Anything a household or business owns that has monetary value. A house orfactory would be a real asset and stocks and bonds are financial assets.

Balance of Payments—Summary of all transactions that involve an inflow or outflowof funds relative to the rest of the world.

Bank Run—A demand on the part of a large share of a bank’s customers to withdrawfunds immediately.

Barter—The direct exchange of goods and services for goods and services withoutthe use of money.

Bond—A financial device for borrowing directly from a saver rather than goingthrough a financial intermediary such as bank. The borrower sells the bond to a lenderand promises to make interest payments and repay the principal at a maturity date inthe future.

Capital—Human-made goods that do not directly satisfy human wants, but help sat-isfy human wants indirectly by assisting in the production of goods and services. Atractor is a capital good that helps produce food.

Capitalism—An economic system in which the means of production (factories,mines, transportation facilities) are privately owned.

Capital Subscription—The dollar amount given to a company in payment for newlyissued shares of stock.

Commodity—A highly standardized raw material or agricultural product. Goodexamples of a commodity are aluminum, crude oil, ethanol, sugar, soybeans, coffeebeans, corn, and wheat.

Convertible Paper Money—Money that can always be exchanged with a govern-ment agency for a fixed weight or amount of a commodity, usually gold.

Coupon Payments—Periodic interest payments that a bond pays to its owner.

Debasement—A decrease in the purchasing power of a unit of coinage because of adilution in its precious metal content.

Default—The inability or unwillingness of a borrower to repay a loan.

Deflation—A decrease in the average level of prices.

Depository Institution—A financial intermediary that collects deposits from variousindividuals and organizations, and uses the deposited funds to make loans to otherindividuals and organizations.

Depreciation—A measure of the amount of plant and equipment worn out in thecourse of producing goods and services. It can also refer to a decrease in the value ofa unit of currency in foreign exchange markets.

Devaluation—A government-initiated decrease in the value of a unit of currency inforeign exchange markets.

Disinflation—A reduction or deceleration in the inflation rate.

Dividends—A share of a corporation’s profit distributed to stockholders as incomeearned by shares of stock. Just as bonds pay interest, stocks pay dividends.

Exchange Rate—The rate at which one country’s currency can be traded for anothercountry’s currency in foreign exchange markets.

Exports—The goods and services a nation produces at home and sells in foreign markets.

Federal Funds Rate—The rate of interest banks pay when borrowing reserves fromeach other.

Fiat Money—A money asset such as paper money that, unlike gold or silver, has novalue as a commodity in its own right.

Fixed Exchange Rate—An exchange rate between currencies that is set as a matterof government policy and does not fluctuate with market conditions.

Float—A situation in which the same sum of money appears on deposit at two dif-ferent institutions because of inefficiencies in check-collecting systems. In the contextof foreign exchange markets, floating exchange rates are exchange rates free to adjustto supply and demand.

Floating Exchange Rate—An exchange rate between currencies that is determinedby a free market.

476 | Glossary

Gross Domestic Product (GDP)—The market value of all completely processed andfinished goods and services produced by an economy over a fixed amount of time.

Gross Domestic Product (GDP) Deflator—A measure of the price level in an econ-omy that represents all the goods and services included in GDP.

Gross Domestic Product, Real—Gross domestic product adjusted for inflation. Infla-tion can artificially inflate market values.

Human Capital—The accumulated knowledge, skills, and experience of individualswho take time to acquire and add to society’s productivity.

Illiquidity—The lack of assets that can be converted into cash. The absence ofsaleable assets.

Imports—Expenditures on goods and services produced in and purchased fromanother country.

Inflation—A rise in the general or average level of prices.

Inflation Rate—The percentage change in the level of prices.

Interest—Payment made to a lender for the use of borrowed money.

Interest Rate—The amount paid for borrowed money per hundred dollars borrowed.

International Monetary Fund (IMF)—An international lending agency that makesloans to governments who need help coping with economic and financial crises.

Junk Bonds—Bonds that pay a high interest rate in compensation for a high default risk.

M1—A measure of the money supply that is limited to paper money in the hands ofthe nonbank public, travelers checks, and coins. Bank vault cash is excluded.

M2—A measure of the money supply that includes all assets in M1 plus additionalassets such as money market funds and money market mutual funds.

Macroeconomic—The economy as a whole, embracing all sectors and involving eco-nomic indicators such as industrial production, the unemployment rate, and the inflationrate.

Medium of Exchange—Something that everyone will accept in trade. Whatever isused as money is the medium of exchange.

Monetary Policy—The use of central banks’ control over the money supply to achieveeconomic goals such as price stability, full-employment, and economic growth.

Money—An asset that serves as a medium of exchange, unit of account, standard ofdeferred payment, and store of value.

Glossary | 477

Money Illusion—A lack of awareness among individuals and businesses that theirincome is rising faster or slower than the prices of everything they buy. As a result, thereal purchasing power of their income is either higher or lower than they thought.

Money Neutrality—The idea that changes in the money supply only affect prices andleave untouched inflation adjusted measures of economic variables such as wages,interest rates, and gross domestic product (GDP).

Money Supply—The size of the stock of money assets actually circulating in theeconomy at a point in time.

Open Market Operations—A central bank’s purchase and sale of government bondsfor the purpose of changing the money supply.

Overvalued Currency—A currency for which the official exchange rate set by thegovernment is above its market value and therefore one that is a likely candidate forfuture devaluation.

Pegged Exchange Rate—An exchange rate for a currency relative to one or severalother currencies that is fixed by the government and is held constant.

Rate of Return—The income from an investment that is expressed as a percentage ofthe investment.

Real Interest Rate—The percentage growth in the purchasing power of an interest-bear-ing asset. For the real interest rate to be positive, the quoted interest rate must exceed theinflation rate.

Shortage—A market situation in which the amount of a good or service producers wantto make available is less than the amount that buyers and consumers want to purchase.

Solvency—A situation in which a business has enough cash and assets convertibleinto cash to pay its expenses and debts.

Speculative Demand—That portion of household and business money holdings thatare kept as a substitute for stocks and bonds.

Stagflation—A seemingly paradoxical combination of high inflation, which suggestsstrong demand for goods and services, and slow growth, which suggests weak demandfor goods and services.

Stocks—Ownership shares of an incorporated business. Ownership of stock allows anindividual to buy part ownership of a business without the permission of the other part-owners, and to sell out part-ownership without the permission of the other part-owners.

Store of Value—An asset that preserves its monetary value over time and can be usedto preserve purchasing power for a future date. Acting as a store of value is one of thefunctions of money.

478 | Glossary

Surplus—A market situation in which the amount of a good or service producers wantto make available exceeds the amount that buyers and consumers want to purchase.

Time Value of Money—The relationship between the value of a sum of money avail-able immediately relative to the present value of the exact same sum of money avail-able at some date in the future. One hundred dollars payable today is worth more thanone hundred dollars payable ten years from today.

Unit of Account—A unit of money (e.g., a dollar) or other commodity that can beused as a measuring rod for the value of goods and services. Acting as a unit ofaccount is one of the functions of money.

Velocity of Money—The average number of times a dollar or other unit of currencyis spent over a given period of time.

Wealth—The accumulated stock of financial assets and income-earning physical assets.

Glossary | 479

481

Index

Act for Remedying the Ill State of theCoin (England), 1–3

Act for the Resumption of CashPayments (England), 182

Act for the Suppression of the LesserMonasteries, 117

Adjustable rate mortgages (ARMs), 3–4Africa

capital flight and, 59commodity currencies, 73, 169, 248,

369–370gold and, 172, 184, 343Great Bullion Famine and, 188inflation and, 167monetary standards, 62redenomination and, 337rupees and, 295See also specific countries and

currenciesAggregate income, 290Alaska, 172, 178–179, 184Alchemy, 4–6, 7, 402American colonies

basics, 119commodity money and, 81–83, 169,

428–429

Currency Act of 1751(England) and,96, 97

decimal systems and, 110land bank system, 254legal tender, 262wage and price controls and, 431–432See also Franklin, Benjamin; New

England colonies; specificcolonies

American penny, 6–7, 87, 128. See alsoCents (United States)

American Revolution, 97, 157,200–202, 276, 398

Anchor currencies, 213Ancient Chinese paper money, 7–8Angola, 42–43, 258, 268Announcement effect, 9–10Argentina, 151, 205–207, 258, 316,

368. See also Latin AmericaArgentine currency and debt crisis,

10–11ARMs (adjustable rate mortgages), 3–4Articles of Confederation (United

States), 6, 255, 276Asia, 94, 188, 189, 366. See also

specific countries

Note: Bold page numbers indicate main entries.

Assignats (France), 33, 56, 90, 91,204–205, 337

Assignats (Russia), 409Australia

bisected paper money and, 48gold rushes, 177–178, 182, 184gold standard and, 187liquor money and, 268pennies, 7public debt and, 328redenomination and, 337sovereigns, 52trade dollar and, 403See also specific currencies

Austria, 174, 187, 207–208, 399. Seealso Austria-Hungary

Austria-Hungary, 175, 182, 183Austro-Hungarian Bank, 207Automated teller machines (ATMs), 108Automatic transfer service (ATS), 285Automatic transfers, 112Ayr Bank (Scotland), 11–12

Bad money, 193. See also Gresham’sLaw

Bahamas, 337Bahts (Thailand), 127Balance of payments, 13–14, 104, 121,

174, 244, 245Balance of trade, 10, 13Baltic Slavs, 72Bank branches, 32–33, 35, 113, 143,

278, 392Bank Charter Act of 1833 (England),

15–16Bank Charter Act of 1833 and Ireland,

16Bank Charter Act of 1844 (England),

17–18, 22, 26, 68, 102Bank clearinghouses (United States),

18–19Bank Deutscher Länder (Bank of Ger-

man States), 113, 115, 116Bank for International Settlements

(BIS), 19–20

482 | Index

Bank Holding Act of 1956, 141Bank money, 26–27, 27, 28, 199Bank of America, 141, 142, 412Bank of Amsterdam, 14, 26–27, 28, 35Bank of Buenes Aires, 205–207Bank of deposit, 26, 27–29, 37, 199Bank of Discount (France), 204Bank of England, 15–16, 29–31

Bank Charter Act of 1844 and, 102bank notes and, 17–18, 21Bank of Scotland and, 36Banking Acts of 1826 and, 21banking school and, 26basics, 34, 35, 362bisected paper money and, 48branches, 33counterfeiters and, 90–91, 304–306First Bank of the U.S. and, 142free coinage and, 360gold standard and, 182, 186inconvertibility and, 38Lombard banks and, 271Napoleanic Wars and, 38–39regulation by, 303Stop of the Exchequer and, 381

Bank of France, 18, 20, 32–33, 56Bank of German States (Bank

Deutscher Länder), 113, 115, 116Bank of Greece, 191Bank of Hamburg, 28–29Bank of Japan, 34–35, 66, 250, 444Bank of Japan Act of 1882, 34Bank of Japan Law (1997), 35Bank of Scotland, 35–36, 349, 355–356Bank of Spain, 374, 420. See also Span-

ish inconvertible papaer standardBank of the City of London, 271Bank of the Three Eastern Provinces

(China), 70Bank of Venice, 14, 37Bank rate, 16. See also Bank Charter

Act of 1833Bank Restriction Act of 1797

(England), 37–39Bankers’ acceptances, 286

Banking Act of 1833 (England), 22Banking Act of 1935 (United States),

261Banking Acts of 1826 (England), 21–22Banking and currency crisis of Ecuador,

22–23Banking crises, 24–25, 140, 176, 212,

246, 266. See also Great Depres-sion; specific banking crises

Banking school, 25–26, 102, 334–335Banknotes

Austria and, 207Bank of France and, 32, 33Bank of Hungary and, 222Banking Acts of 1826 and, 21banking school and, 25–26basics, 17, 179–180, 231, 300–301,

325, 326, 346Chile and, 68China and, 70Corso Forzoso and, 89counterfeit, 90currency school and, 102euro, 132Exchequer orders to pay (England)

and, 134, 135, 180free banking and, 64, 158Germany and, 113Gold Standard Act of 1900 and, 184Greece, 190highest denomination, 223House of St. George, 199Indian silver standard and, 236Japan and, 34, 444National Bank Act of 1864 and, 297Riksbank (Sweden), 345Sweden and, 387, 388United States and, 68, 138, 142, 144,

154, 309, 363–364, 382, 385, 436Banks

basics, 14–15, 152, 349currency school and, 102Gold Standard Act of 1900 and, 184Great Depression and, 165Law and, 55

Index | 483

liquidity and, 264–265POW cigarettes and, 320United States, 385See also Goldsmith bankers; Loans;

Swiss banks; specific and types ofbanks

Banks of credit, 271Banks of deposit, 26, 27–29, 37, 199Banque Generale (France), 257Banque Royale (France), 55, 56, 258Barbados, 383Barbados Act of 1706, 39–40Barter, 40–42, 73, 115. See also

Commodity money; specific com-modities

Basket of (composite ) currencies, 126,133–134, 378

Batzen (Helvetian Republic), 160Baum, L. Frank, 437. See also The Wiz-

ard of Oz (Baum)Bear Stearns, 140, 141, 142, 415Beef, 81Beer Standard of Marxist Angola,

42–43Belarus, 208–209Belgian Monetary Reform: 1944-1945,

43–44Belgium, 43–44, 60, 131, 161, 187,

188, 407Benton, Thomas Hart, 76, 364, 378Benzoni, Girolamo, 74Bible, the, 42, 61, 86, 366, 377Biddle, Nicholas, 357Big Max Index, 259Billion coin (Byzantine Empire), 53Bills of credit, 200Bills of exchange, 45–46, 180Bimetallism, xiv

basics, 46–47, 395Chilean, 68commodity standards and, 81Europe and, 182France and, 160, 286, 287Great Britain and, 269India and, 235–236

Bimetallism (continued)international, 49Latin Monetary Union and, 255, 256Spain and, 373–374standards and, 163Sweden and, 386United States, 78–79, 95, 183United States and, 362, 368The Wizard of Oz and, 438yen (Japan) and, 444See also International Monetary

Conference of 1878;Symmetalism

Bisected paper money, 47–48Bits (Spain), 107Black Death, 188Black markets, 42–43, 115, 227, 432.

See also Underground economyBlack money, 87Bland, Richard P., 49Bland-Allison Act (United States),

48–50, 159, 243, 342–343, 362Blondeau, Pierre, 282Bohemia, 107, 343, 398–399Bolivia, 68, 258, 316–318. See also

Latin AmericaBolshevik revolution, 221Bonds

basics, 358composite currency and, 85Confederacy (U.S.) and, 224–225Corso Forzoso and, 89credit ratings and, 93–94currency swaps and, 103current account and, 104defaulted, 11, 359, 445Federal Reserve System and, 242Fisher effect and, 145foreign exchange and, 99government, 65greenbacks and, 192, 193hot money and, 198indexation and, 234–235, 239liquidity and, 264liquidity traps and, 267

484 | Index

Mexico and, 281monetary multiplier and, 288monetary theory and, 291repurchase agreements and, 340sterilization and, 380–381supply of money and, 303yield curve and, 445See also Open market operations

Bookkeeping, 199Borneo, 73Borrowers, 145Botaneiates, Nicephorus III (Byzantine

Empire), 53Brazil, 74, 152, 187, 210–212, 235,

337. See also Latin AmericaBrett, Elizabeth, 60–61Bretton Woods System, xv, 50–51, 120,

121balance of payments and, 174basics, 50–51francs (France) and, 161gold bouilion standard and, 171–172IMF and, 244Swiss francs and, 395World Bank and, 439yen (Japan) and, 444

Briot, Nicholas, 282British Bankers Association (BBA),

271, 272British Board of Trade, 39, 40British gold sovereign, 52British Linen Company, 35Bronze, 86Bryan, William Jennings, 95, 96,

159–160, 184, 238, 438Bu (Japan), 172Bucaram, Abdala, 22Budget deficits, public debt and, 328Bulgaria, 161, 212–213, 255Bulgarian National Bank, 212Bullion, 155–156

Chinese silver standard and, 70fiat money and, 338, 339Great Depression and, 232

Bullion Report, 38, 338–339

Bullionists, 334Bundesbank (Germany), 132Bundesbank Act of 1957 (West

Germany), 113Bundi, 316Burma, 345Business cycles, 15, 64–65, 241, 266,

283–284Butter, 81Byzantine debasement, 53–54Byzantine Empire, 59, 366

Caisse des Comptes Courants, 32Caisse d’Escompte, 55–56Caisse d’Escompte du Commerce, 32Calais, 188Calderilla (Spain), 424Calico, 73California, 309, 310California gold rush, 77, 177, 182, 310Calonne’s law of 1785, 286Canada

Eurodollars and, 131fractional currency, 364gold rushes and, 178–179gold standard and, 183indexation and, 235NAFTA and, 57optimal currency area and, 307playing-card currency, 313–314See also specific currencies

Capital, 165, 240, 247. See also Foreigncapital

Capital accounts, 13, 104, 105Capital controls, 56–57Capital flight, 58–59, 122Capital flows, 13–14Capitalism

Argentina and, 206–207banks and, 15Brazil and, 212free banking and, 64inflation and, 167Islamic banking and, 247Japan and, 34

Index | 485

Lenin and, 203Russia and, 217

Caribbean, 81, 119–120, 131. See alsospecific countries and currencies

Caroligian system, 110, 160, 286, 319.See also Coinage Act of 1816(England)

Carolingian Reform, 59–60, 343Carthage, 259–260Casa di San Georgio, 199–200The Case of Mixt Monies (England),

60–61Cash, 239–240

checks vs., 285liquidity and, 264, 265–266

Cashiers checks, 68Catholic Church, 117, 118–119Cattle, 61–63, 83, 169Cavendish, Thomas, 74CD dollars, 59CDs (Certificates of deposit), 66–67Celtic coinage, 63Centimes (France), 160, 286–287Centimes (Latin Monetary Union), 255Central America, 74. See also specific

countriesCentral Bank Council (Germany), 114Central bank independence, 64, 65–66,

113–114, 132Central Bank of Russia, 215, 352Central banks

Austria and, 208basics, 15, 17, 29, 64–65, 134, 138,

231, 241–242, 346, 380BIS and, 19–20commercial banks and, 288crises and, 22currency crises and, 99currency swaps and, 104deflation and, 168, 249European Currency Unit (ECU) and,

134European system, 33, 116euros and, 129France, 32

Central banks (continued)high-powered money and, 197inflation and, 115, 209, 224nineteenth century, 34official reserves transactions account

and, 104Riksbank (Sweden), 345Russia and, 217subprime mortgage crisis and, 272supply of money and, 261United States, 356–357Zimbabwe and, 229See also Caisse d’Escompte; specific

central banksCents (United States), 6, 111, 316. See

also Pennies (United States)Certificates of deposit (CDs), 66–67Ceylon, 316Charles II (England), 5, 134, 135, 181,

281, 282, 367, 381Charles V (Holy Roman Empire), 107,

117Chase, Salmon Portland, 191, 251Chavez, Hugo, 59Check Clearing for the 21st Century

Act (United States), 146Checkable bank deposits, 100, 128. See

also Demand depositsChecking accounts, 131, 145, 166, 390Check-kiting schemes, 146Checks (cheques), 18–19, 67–68, 145,

180, 285, 294Chervonetz, 203Chicago school of economics, 69Chile, 68–69, 187. See also Latin

AmericaChilean inflation, 68–69China

alchemy and, 5ancient paper money, 7–8capital controls and, 57coins and, 42commodity price boom and, 84copper and, 86deflation and, 168

486 | Index

gold standards and, 236Great Bullion Famine and, 188hot money and, 198–199hyperinflation and, 205, 213–214salt and, 353silver and, 70–71, 318, 366, 369tea bricks and, 401trade dollars and, 403World Bank and, 440See also Chinese Silver Standard;

specific currenciesChinese Communist Party, 326–327Chinese Silver Standard, 70–71Cigarettes, 115Circulating money, xiv, 14Citibank (First National City Bank of

New York), 67Citicorp, 141Citigroup, 406, 412Civil War (U.S.)

Confederacy and, 224Corso Forzoso and, 89fiat money and, 191free banking and, 158gold standard and, 309–310inconvertibility and, 231legal tender and, 263metallic coins and, 78postage stamps and, 315taxes and, 68wage and price controls and, 432See also Greenbacks

Clapman, J.H., 52Clearinghouses, bank, 18–19Cleveland, Grover, 159Clinton, Bill, 281Clipping, 1, 26, 28, 71–72, 147, 281Cloth, 72–73Cocoa bean currency, 73–74Coinage

basics, 366criticisms of, 42, 344–345free, 49propaganda money and, 327small denomination paper and, 364

worn, 1, 26, 28See also specific acts and coins

Coinage Act of 1792 (United States), 6,74–76, 111, 369

Coinage Act of 1793 (United States), 75Coinage Act of 1816 (England), 52, 182Coinage Act of 1834 (United States),

76–77, 77Coinage Act of 1853 (United States),

77–79Coinage Act of 1873 (Crime of ‘73)

(United States), 49, 94–96, 159,362, 403, 438

Coinage Act of 1965 (United States), 79Cold War, 92, 121, 131, 237, 241Collateralized debt obligations (CDOs),

359Collectors, coin, 79Cologne, 174Colombia, 48. See also Latin AmericaColonialism, 268, 313. See also specific

coloniesColumbus, Christopher, 73, 188Commercial banks

basics, 140, 260central banks and, 64FDIC and, 166Federal Reserve System and, 138First Bank of the U.S. and, 144float and, 146FSMA and, 141, 142instability and, 64interest rates, 138interest rates and, 242Japanese, 35repurchase agreements and, 341reserves, 154–155See also High-powered money

Commercial banks more, 15Commercial paper, 286Commercial transactions, copper and, 87Commodity monetary standard, 79–80,

428Commodity money, xiv, 79–81. See

also specific commodities

Index | 487

Commodity money (Americancolonies), 81–83

Commodity price boom, 83–85Commodity standards, 163–164,

421–422Communism, 214Competition

Banking Acts of 1826 and, 22banks and, 113, 165–166crises and, 142deflation and, 369euros and, 130FSMA and, 141Gold Standard Act of 1925

(England) and, 186gold standard and, 182gold-specie-flow mechanism and, 181Peru and, 216price stickiness and, 322vehicle currency and, 423

Composite commodity standards, 81Composite (basket of) currencies,

84–85, 126, 133–134Computers

check clearing and, 146counterfeiting and, 91debit cards and, 109float and, 145–146foreign exchange markets and, 153NOW acounts and, 112weep accounts and, 390–391

Confederacy (U.S.)paper money, 309wage and price controls and, 432

Confederacy (U.S.) and, 225Confederate States of America,

224–225Confetti, 170Confidence. See TrustCongo, 73, 370Connecticut, 82, 83, 255. See also New

England coloniesConstantinople, fall of, 53Consumer price index, 421. See also

Value of money

Consumer Price Index (CPI; UnitedStates), 87, 88, 322, 324

basics, 237Consumers, deflation and, 168Consumption, forced savings and, 150Continentals, 200Contracts, 251Convertibility, 18

Argentina and, 205Bank of England and, 30Bank of France and, 32Bullion Report and, 339, 340capital controls and, 57Chile and, 68Chinese silver standard and, 70currency school and, 101–102dollar crisis of 1971 and, 120foreign debt and, 151francs (France) and, 161Gold Standard Act of 1900 and, 186gold standard and, 182, 183Greece and, 190hypreinflation and, 223inflation and, 225Meiji Restoration and, 34Second Bank of the U.S. and, 356wars and, 121wildcat banks and, 437See also Inconvertible paper

standardsCopper, 6, 86–87

Celtic coinage and, 63commodity price boom and, 84Sweden and, 386–387United States coins, 75

Copper coinsByzantine, 53English colonies and, 276Spain and, 375United States, 79, 87

Copper hatchets, 73–74Copper standards, Sweden and,

345–346Core inflation, 87–88

488 | Index

Core Inflation (Eckstein), 88Corn, 81, 84Corporations, 35

universal banks and, 411, 412Corruption, Ecuador and, 22Corso Forzoso (Italy), 89–90, 232Cortez, Hernán, 73Counterfeit money (forgery)

Banking Acts of 1826 and, 21basics, 90–92China and, 8Confederacy (U.S.) and, 225florens, of, 148French Canada and, 314Mestrell and, 282moneyers and, 292Nazi, 304–306punishments for, 71silver content and, 269Spanish inflation and, 375–376vellon and, 424Venice and, 426

Coupon (Georgia), 215Cows. See CattleCPI (Consumer Price Index), 87, 88Cradocke, Francis, 270Crashes, 105, 166

Bank of England and, 30capital flight and, 58–59stock market, 284, 290, 350, 374See also Crises; Currency crises

Creditbalance of payments and, 14banking crises and, 24central banks and, 64Currency Act of 1751(England) and,

96–97expansion, 12IMF and, 246interest rate targeting and, 242, 243interest rates and, 417–418liquidity crisis and, 265Lombard banks and, 270paper money and, 96

public debt and, 328See also Bills of exchange

Credit cards, 146, 210Credit crunch, 92–93Credit ratings, 93–94Credit unions, 112, 300Creditors, 11

appreciation and, xivBarbados and, 40basics, 39Currency Act of 1764 (England)

and, 98depreciation and, xiiighost money and, 165recoinage and, 3tabular standards and, 397, 398See also Mortgages

Crime of ‘73 (Coinage Act of 1873)(United States), 49, 94–96, 159,362, 403, 438

Crises1998, 443bank clearinghouses and, 18, 19Bank of France and, 32banking, 24–25banknotes and, 18Ecuador and, 22–23England, 25National Bank Act of 1864 and, 301Spain and, 318United States, 238See also Banking crises; Crashes; Cur-

rency crises; Panics; specific crisesCrowns (Austria), 207–208Crowns (Austria-Hungary), 221Crowns (Great Britain), 110Cruikshank, George, 91Cupronickel, 79Currency Act of 1751 (England),

96–97, 323Currency Act of 1764 (England),

97–98, 323Currency Act of 1773 (England), 97,

98, 99–100

Index | 489

Currency crises, 24, 102, 122. See alsospecific crises

Currency inflow/outflow, 104–105Currency school, 25–26, 101–102,

334–335Currency swaps, 102–103Currency-deposit ratio, 100–101Current accounts, 13, 99–100, 104–106,

126, 280Cyprus, 86

Daalder (Holland), 398Dalers (Sweden), 386–387, 398Dap money (Rossel Island), 348De a ocho reales (Spain), 107–108, 119Debased money, 320, 347, 361, 366,

375, 402, 406, 435. See also Gre-sham’s Law

Debasement of currency, 26, 53–54, 60,63, 74, 75, 117, 188. See also Actfor Remedying the Ill State of theCoin (England); Clipping; GreatDebasement; Gresham’s Law

Debit cards, 108–110, 149Debt, 25, 59, 68, 89, 159. See also For-

eign debtDebt financing, 125Debtors

appreciation and, xivBarbados and, 40basics, 39Coinage Act of 1873 and, 95Currency Act of 1764 (England)

and, 98deflation and, 237–238depreciation and, xiiiexpectations and, 238ghost money and, 165gold standard and, 427tabular standards and, 397–398

Decimal systems, 76, 110–111, 160,241, 286, 319, 394

Deferred payment, standard of, xiiiDeficit spending, 226, 227, 267, 416

DeflationArgentina and, 10basics, 237–239China and, 71competition and, 369expectations and, 239free minting and, 183global, xi–xii, 167, 168gold and, xvgreenbacks and, 193hoarding and, 233Japan and, 249–250, 381liquidity traps and, 266policy and, xvisilver and, 368Sweden and, 388symmetallism and, 396United States, 95, 159The Wizard of Oz and, 437–438worldwide trends, 69See also Downswings

Deflationary expectations, 250Demand deposits, 67, 100, 131, 265Demand notes, 192Denarii (Carolingian), 110, 147, 319,

343Denarii (Florence), 331Denarii (Roman Empire), 59, 60, 347,

348Dengas (Russia), 110Deniers (Carolingian), 160, 286Deniers (Florence), 147Deniers (France), 60Deposit banking, 167Depository Institution Deregulation and

Monetary Control Act of 1980(United States) (DIDMCA),111–113, 261, 300

Depository Institutions DeregulationCommittee, 112

Deposits, 19, 72, 166Depreciation of currency

American colonies and, 96balance of payments and, 245Bank of France and, 32

490 | Index

banking crises and, 24banks of deposit and, 28basics, xiii, 339–340Bullion Report and, 339capital controls and, 57capital flight and, 58central banks and, 224China and, 8convertibility and, 70, 176, 231Currency Act of 1764 (England)

and, 98current account and, 105current account deficits and, 99, 100dollarization and, 122East Asian financial crisis and, 127foreign trade and, 153interest and, 40judges and, 397Mississippi scheme and, 257–258Ukraine and, 226worn coins and, 26

Depressions, 64, 95, 101, 105, 154, 171,388. See also Great Depression

Deregulation, 131, 140, 167, 354, 445Deutsche Bundesbank, 113–115Deutsche Marks (Federal Republic of

Germany), 113, 115–116, 129,175, 318, 338. See also Marks(Germany)

Deutsche Marks East, 116Deustche Rentenbank, 337–338Devaluation, 11, 130, 161, 176, 280,

375. See also Quattrini affairDeveloped countries, 24, 57, 167, 250,

440. See also specific countriesDeveloping countries, 59, 150, 244,

328, 439, 440. See also specificcountries

Development, economic, 34, 45, 57,439–440. See also Growth

DIDMCA (Depository InstitutionDeregulation and Monetary Con-trol Act of 1980 [United States]),111–113

Digital money, 109, 293

Dimes (United States), 75, 78, 79, 111,160, 262

Discount rates, 32, 33Discount window lending, 140, 141Disinflation, 167–168, 354, 388Disintermediation, 92Dissolution of monasteries (England),

117–119Dollar crisis of 1971, 120–121Dollar sign, 119Dollarization, 23, 24, 121–122Dollars, 118–119Dollars (Canada), 119Dollars (Mexican), 108, 444Dollars (Mexico), 108, 403Dollars (Spain), 268, 282Dollars (United States)

basics, 115, 118–119, 398Brazil and, 212coinage acts and, 75, 76, 77crisis of 1971, 120–121East Asian financial crisis and, 126euros and, 130foreign exchange markets and, 153half, 79, 160hyperinflation in Bolivia and, 210international currency and, 319international monetary units and, 244missing money, 282–283Russia and, 218Sherman Silver Act of 1890 and,

362–363small change, as, 364Spain and, 107, 282transactions, 134value of, 421vehicle currency and, 423Zimbabwe and, 228

Dollars (Zimbabwe), 120Dordrecht, 188Double coincidence of wants, 40Douglas, Heron, and Company, 12Downswings, 15, 64, 159, 283. See also

DeflationDrachmas (Greece), 48, 85, 190

Index | 491

Drawn notes, 67Dresden convention, 174Drug money, 292–293Dry bills of exchange, 45Dry exchanges, 278Ducats (Castile), 426Ducats (Portugal), 426Ducats (Venice), 148, 343, 426–427Duff and Phelps, 94

Eagles (United States), 75, 77, 78Earmarking, xvEast Asia, 85, 108, 131. See also

specific countries and currenciesEast Asian financial crisis, 10, 85,

125–127, 213, 351, 352East Germany, 113, 116Easy money policy, 413Easy money policy deflation, 250Eckstein, Otto, 88Ecology, 62Economic and Monetary Union (EMU),

372Economic Report of the President, 88ECU (European Currency Unit), 84–85Ecuador, 22–23, 122, 151. See also

Latin AmericaEcus (France), 133, 343Efficiency, 42Egypt, 5, 86, 170, 347, 348, 365, 366El Dorado, 170–171El Niño, 22Electronic transfers, 149Electrum (Lydia), 395Elizabeth I (England), 61, 189, 193, 417Emerging market countries, 24Endorsements, 68, 134, 135, 179, 180,

199, 325, 326, 419Energy prices, 88, 226. See also OilEngland

American colonies and, 276bank notes, 17coins, 282copper coins, 6francs (France) and, 161

England (continued)free banking and, 157free coinage and, 360gold coins, 344gold standard and, 175, 181Great Bullion Famine and, 188inflation and, 161legal tender, 262–263mints, 282, 292poor laws, 321promissory notes and, 325public banks and, 35silver plate and, 367slaves and, 370Trial of the Pyx and, 406usury and, 416, 417wampum and, 433See also Europe; Great Britain;

United Kingdom; individual Eng-lishmen; specific acts, banks andcurrencies

English penny, 127–128Equation of exchange, 128–129Equitable Labor Exchange, 254Escudos (Portugal), 85Ethanol, 84Ethiopia, 353, 354, 399Eurocurrencies, 131. See also EurosEurodollars, 131, 286Europe

American colonies and, 276credit ratings and, 94decimal systems and, 110deflation and, 237euros and, 129gold and, 155gold standard and, 95, 175International Monetary Conference

of 1878 and, 244LIBOR and, 272missing money and, 283monetary unions, 434optimal currency area and, 307postage stamps and, 316silver and, 366

492 | Index

universal banks and, 411See also European Monetary Union

(EMU); Renaissance; specificbanks, countries and currencies

European Central Bank (ECB), 31, 33,129

basics, 115, 132–133currency swaps and, 104euros and, 257missing money and, 283

European Community (EC), 371–372European Currency Unit (ECU), 84–85,

133–134European Monetary Fund, 133European Monetary Institute, 115European Monetary System (EMS),

134, 371–372European Monetary Union (EMU), 33,

66, 129, 257, 421. See also EurosEuropean System of Central Banks, 33,

116European Union (EU), 115, 133,

319–320. See also EurosEuropean Unit of Account (EUA), 133Euros (European Monetary Union), 85,

116, 129–130, 162, 257basics, 244dollarization and, 121European Central Bank (ECB), 132European Currency Unit (ECU) and,

134foreign exchange markets and, 153francs (France) and, 161marks and, 175optimal currency area and, 307redenomination and, 336snake system and, 371, 372United Kingdom and, 31vehicle currency and, 423See also Optimal currency area

Exchange rates, 169, 177, 259, 280,380. See also Foreign exchangerates; International MonetaryFund (IMF)

Exchequer, 180, 381

Exchequer bills, 135Exchequer orders to pay (England), 67,

134–135, 180Expectations, 238–239, 250, 267, 446.

See also Trust (confidence)Explorations, 188Exports

balance of payments and, 13banking crises and, 24basics, 245capital controls and, 57Chilean, 68Chinese silver standard and, 71current account and, 104dollarization and, 122East Asian financial crisis and, 126euros and, 130foreign debt and, 151, 152foreign exchange markets and, 153foreign exchange rates and, 50–51gold standard and, 184gold-specie-flow mechanism and,

180–181Japanese, 188public debt and, 329silver and, 70

Faihu, 61Falklands war, 206Fannie Mae, 359, 360, 415Fanning Islands, 48Federal Deposit Insurance Corporation

(FDIC), 101, 166, 355. See alsoGlass-Steagall Banking Act of 1933

Federal Emergency ManagementAgency (FEMA), 141

Federal funds rate, 9, 138, 242, 391Federal Open Market Committee

(FOMC), 9, 137–138Federal Open Market Committee

(United States), 242Federal Republic of Germany, 114. See

also GermanyFederal Reserve Act of 1913 (United

States), 138, 139, 303

Index | 493

Federal Reserve Bank of New York,137, 139, 155, 304, 341

Federal Reserve Banks, 303–304Federal Reserve Notes (United States),

138, 176, 369Federal Reserve System (United States)

bank notes and, 18basics, 9, 17, 19, 34, 137, 138–141,

185, 231, 390BIS and, 20central banks and, 358commercial banks and, 288crisis of 2008 and, 142, 266currency swaps and, 104DIDMAC and, 112–113European Central Bank (ECB) and,

132float and, 146–147France and (or basics), 56free banking and, 158Glass-Steagall Act and, 166Gold Reserve Act of 1934 and, 176Great Britain and, 185inflation and, 190interest rates and, 131, 241, 242,

243, 272legal reserve ratio and, 260–261missing money and, 283open money operations and, 303real bills doctrine and, 335reserve requirements, 154–155Venice and, 37

Federal Savings and Loan InsuranceCorporation, 266, 354

Fee, 61Fei (Yap), 441Feoh, 61Ferdinand (Spain), 107Feudalism, 435Fiat money

Barbados and, 39–40basics, xi, xiv, xv, 231–232bullion and, 338, 339Civil War and, 191commodity standards and, 80

Fiat money (continued)Corso Forzoso, 89Currency Act of 1751(England)

and, 96siege money and, 365special drawing rights (SDRs),

377–378United States, 191Virginia and, 427See also Greenbacks; Inconvertible

paper standardsFiji Islands, xv, 268, 337Financial Institution Reform, Recovery,

and Enforcement Act (UnitedStates), 354

Financial Services Modernization Actof 1999 (United States) (FSMA),141–142, 167, 412

Finland, 47–48, 130, 161First Bank of the United States, 138,

142–144, 385, 436First Federal Savings and Loan of Lin-

coln, Nebraska, 109First National Bank of Chicago, 20First National Bank of New York, 20First National City Bank of New York

(Citibank), 67Fish (as commodity money), 81Fisher, Irving, 128, 144, 422Fisher effect, 144–145Fitch Publishing Company, 94Fixed-rate loans, 3Flanders, 188, 343Float, 145–147Florence, 47, 60, 147, 181, 278. See also

Quattrini affair; specific currencyFlorentine florin, 147–148, 165, 331,

332, 343, 426Florins (Florence), 147–148, 165, 331,

332, 343, 426Florins (Milan), 165Florins (Zollverein), 174Florints (Hungary), 222, 223FOMC (Federal Open Market Commit-

tee), 9

494 | Index

Food prices, 88Food stamps, 148–149Food standard, 169Forced circulation (Italy), 89–90, 232Forced savings, 149–151Foreign capital

balance of payments and, 13, 94basics, 380Corso Forzoso and, 89crises and, 10, 24, 25current account and, 100, 105dollarization and, 122East Asian financial crisis and, 125,

126, 127Gold Standard Act of 1900 and, 187gold-specie-flow mechanism and, 180Greek monetary maelstrom and, 190hot money and, 198–199Mexico and, 280Peru and, 216public debt and, 328Russia and, 410, 443vehicle currency and, 423Zimbabwe and, 228See also Capital controls

Foreign currency, xv, 6, 56–57See also Capital controls

Foreign debt, 11Foreign debt crises, 151–152Foreign exchange

Austrian hyperinflation and, 207currency crises and, 99hyperinflation and, 215reserves, 100rubles (Russia) and, 442, 443Russia and, 218Russian currency crisis and, 351yen (Japan) and, 444–445Zimbabwe and, 228

Foreign exchange deposits, 227Foreign exchange markets, 14, 152–154Foreign exchange rates

basics, 152Bretton Woods Conference and,

244–245

convertibility and, 38currency crises and, 99, 121currency swaps and, 102European Currency Unit (ECU) and,

134foreign debt and, 125, 151gold and, 77interest and, 352

Foreign tradeBank of Amsterdam and, 26banks and, 14bills of exchange and, 45Celtic coins and, 63Chinese silver standard and, 70, 71currency school and, 102deficits, 188, 198 (see also Foreign

trade)euros and, 257First Bank of the U.S. and, 142florins and, 147, 148foreign exchange markets and, 153hyperinflation and, 220–221international currency and, 256inflation and, 209Law and, 258metallic currency and, 101usury and, 277vehicle currency and, 422See also Bretton Woods System; For-

eign exchange rates; Trade dollarsForestall system, 154–155Forestalling, 204Forgery. See Counterfeit moneyFort Knox, 155–156Forward rates, 153Fractional currency, 341. See also Small

denominationsFractional reserve banking, 15, 288France

alchemy and, 5bank notes, 17bimetallism and, 47, 395capital controls and, 57checks and, 68copper and, 7, 87

Index | 495

decimal systems and, 111florins (Florence) and, 343German hyperinflation and, 220gold standard and, 182, 187Great Bullion Famine and, 188inconvertible paper standards and, 90inflation and, 161–162International Monetary Conference

of 1878, 244leather money and, 259–260mints, 281, 282stability and, 116Switzerland and, 255usury laws and, 416World War I and, 202World War II and, 44See also Europe; French Revolution;

individual French persons;specific banks, currencies, lawsand wars

Franco-Prussian War, 161, 256Francs, 32Francs (Belgium), 44, 85, 133Francs (France)

basics, 160–162Carolingian reform and, 60composite currency and, 85Eurocurrencies and, 131European Currency Unit (ECU) and,

133euros and, 116, 129, 162Great Depression and, 394Latin Monetary Union and, 256Monetary Law of 1803 and, 286–287pound sterling and, 318

Francs (Latin Monetary Union), 255Francs (Luxembourg), 85, 133Francs (Switzerland), 60, 122, 131, 160,

271, 394–395Francs (Vatican), 312Franklin, Benjamin, 156–157, 200Fraud, 109, 146, 149Frederick II (Sicily), 147, 260Free banking, 36, 64, 157–158, 342,

349

Free Banking Act of 1838 (New York),158

Free China, 213Free coinage, 75, 360. See also Free

silverFree markets, xi, 10, 47, 76, 243Free silver, 49, 158–160, 183, 184, 236,

362, 363, 438, 439French and Indian War, 97, 98, 315French francs, 160–162. See also

Francs (France)French Revolution

Bank of France and, 32Caisse D’Escompte and, 55, 56convertibility and, 339decimal systems and, 111, 160French System and, 161hyperinflation and, 203–205, 231,

337siege money, 365usury laws and, 417wage and price controls and, 431

Friedman, Milton, 235, 240Functions of money, xiii–xiv, 371Funny money, 90

Gabon, 248Gambia, 337Gauls, Merovingian, 63GDP (gross domestic product), 128,

129, 152, 237, 322, 327, 421Gems, 72Generalized Commodity Reserve

Currency, 163–164Genoa, 47, 60, 147, 165, 199, 426Genoa conference (1922), 173Germany

bank bailours, 407banks of deposit, 28capital controls and, 57central bank independence, 65cloth and, 73copper coins, 7deflation and, 168ECB and, 130

496 | Index

European Central Bank (ECB) and,132

gold and, 171gold standard and, 182, 183Great Depression and, 187hyperinflation and, 205, 219–220,

234International Monetary Conference

of 1878 and, 244ivory and, 248mints, 343–344Poland and, 223public debt and, 328universal banks and, 411–412wage and price controls and, 432Wendish Monetary Union and, 434World War I and, 202, 263Yap money and, 442See also East Germany; Europe;

Imperial Germany; NaziGermany; specific banks, cities,currencies and wars

Gewandmark (Germany), 73Ghana, 172, 337, 369Ghost money, 164–165Gibson’s paradox, 144Gift exchanges, 435Glass-Steagall Banking Act of 1933,

141, 165–166, 299, 411, 412Global disinflation, 167–168Global economy, 83, 85, 125Globalization, 122, 131, 153, 168GNP (gross national product), 206Goat standard of East Africa, 168–169Gold

alchemy and, 4Bank Charter Act of 1833 and, 16Bank of Amsterdam and, 26–27Bank of England and, 30Bank Restriction Act and, 38banking school and, 25basics, xiv–xv, 170–171Byzantine, 53China and, 8, 72commodity price boom and, 83

currency school and, 102devaluing and, 2, 3dust, 172–173Federal Reserve System and, 176Great Depression and, 155–156Henry VIII and, 117–118inflation and, 389, 390money supply and, 25Renaissance and, 321return to, 1300-1350, 343–344Roman Empire and, 347–348SDRs and, 378silver and, 366–367Switzerland and, 395United States and, 175–177United States coins, 75World War II and, 44See also Bimetallism; Gold bullion

standard; Gold standard; Gold-specie-flow mechanism; Preciousmetals; specific acts; specific goldcoins

Gold Bloc countries, 161Gold bullion standard, 171–172, 186Gold dust, 172–173Gold exchange standard, 171, 173–174,

186Gold marks (Imperial Germany),

174–175Gold pennies (England), 128Gold Reserve Act of 1934 (United

States), 175–177, 182–183Gold rushes, 77, 96, 172, 177–179, 182Gold standard

Argentina and, 205basics, 171, 181–185, 396bimetallism and, 47Coinage Act of 1873 and, 94commodity money and, 80–81debasement and, 189–190England and, 39florins and, 148foreign exchange rates and, 51France and, 161gold exchange standard and, 173

Index | 497

gold rushes and, 177, 179golden era of, 175gold-specie-flow mechanism and,

181Great Britain and, 269, 366Imperial Germany and, 175Indian silver standard and, 236international, 176, 180, 185, 186,

243Japan and, 34, 444Latin Monetary Union and, 394Pacific coast, 309–310price of gold and, 163rubles (Russia) and, 410Sherman Silver Act and, 50Sherman Silver Act of 1890 and, 363Spain and, 373Sweden and, 389–390United Kingdom and, 52, 269, 319United States and, 76, 77–78, 78–79,

95, 96, 120, 159, 181–183, 238,368

value of money and, 420variable commodity standard and,

421The Wizard of Oz and, 438World War I and, 232See also Bretton Woods System;

Gold bullion standard; specificacts

Gold Standard Act (United States), 184Gold Standard Act of 1900 (United

States), 96, 183–185Gold Standard Act of 1925 (England),

185–186, 187Gold Standard Amendment Act of 1931

(England), 30–31, 186–187Goldsmith bankers, 67, 179–180, 381Gold-specie-flow mechanism, 180–181Government debt. See Public debtGreat Britain

colonies and, 255, 268, 277copper coins, 6, 7counterfeiting and, 304decimal systems and, 111

Great Britain (continued)euros and, 129gold exchange standard and, 173gold standard and, 182, 185, 186,

187Great Depression and, 394Hong Kong and, 327inconvertible paper standard and,

385–386India and, 235–236, 295money laundering and, 293Native Americans and, 315postage stamps and, 316small denominations and, 364See also Bank of England; Currency

school; Member countries; UnitedKingdom; specific acts; specificBritish monetary units; specificreports; specific wars

Great Bullion Famine, 188–189Great Debasement, 189–190, 394Great Depression

bimetallism and, 368China and, 70–71currency-deposit ratio and, 101food stamps and, 148foreign exchange rates and, 51francs (France) and, 161Glass-Steagall Act and, 164–165gold and, 155, 182, 187Greece and, 191inconvertibility and, 232interest and, 241, 299Japan and, 444legal reserve ratios and, 261Mexico and, 108open money operations and, 304policy and, 185pound sterling and, 319

Greece, 48, 190–191, 316European Currency Unit (ECU) and,

133French System and, 161Gresham’s Law and, 194Latin Monetary Union and, 255

498 | Index

seigniorage and, 361silver and, 366

Greek monetary maelstrom, 190–191Greenbacks (United States), 191–193,

251, 309–310, 341, 342, 405Gresham, Thomas, 193Gresham’s Law, 47, 189, 277

basics, 193–195Civil War and, 309Florence and, 331POW cigarettes and, 320rice currency and, 345Spain and, 374tea bricks and, 401vellon and, 424

Gross domestic product (GDP), 128,129, 152, 237, 322, 327, 421

Gross national product (GNP), 206Grossi (Florence), 331, 332, 343Grossi (Pisa), 332Growth

Bank of France and, 33Corso Forzoso and, 89equation of exchange and, 129foreign debt and, 151inflation and, 129, 150interest rates and, 374iron currency and, 377Japan and, 249–250paper money and, 8Renaissance and, 321Scotland and, 356See also Development, economic

Guatemala, 74. See also Latin AmericaGuernsey market house paper, 194–195Guilders (Holland), 85, 133Guldens (Zollverein), 174

Haiti, 24Hamilton, Alexander, 74, 75, 76, 111,

142, 143, 327, 404Hamilton, E.J., 188Hammered coins, 1, 63, 281, 282Hard currency, 364, 378Hard money, 191, 232, 233, 246, 358

Hatchets, 73–74Headline inflation, 88Helvetian Republic, 160Henry III (England), 128, 292Henry IV (England), 416Henry VIII (England), 117, 189, 190, 367High price of bullion, 338–340High-powered money, 100, 101, 197,

288, 303Hitler, Adolf, 5, 220, 304. See also Nazi

GermanyHoarding

American Revolution and, 201Civil War and, 192crisis of 1848 (France) and, 33debasement and, 189French Revolution and, 204great bullion famine and, 188Gresham’s Law and, 193Swiss francs and, 394velocity of money and, 425wage and price controls and, 431Webster on, 233See also Siege money

Holding companies, 141, 142Holland (Netherlands), 35, 128, 141,

160–161, 182, 187, 188, 200, 244,433. See also specific banks andcurrencies

Holocaust survivors, 393Homer, 61–62Hong Kong, 168, 326, 327Hot money, 198–199House of St. George, 199–200Hryvna (Ukraine), 226Hume, David, 180Hungarian National Bank, 221Hungary, 220–223, 343. See also Aus-

tria-HungaryHyperinflation, 237, 328, 336, 338, 361,

408–409, 425. See also Hyperin-flation entries

Hyperinflation during the AmericanRevolution, 200–202, 231, 251,398, 404

Index | 499

Hyperinflation in Argentina, 10,205–207

Hyperinflation in Austria, 207–208Hyperinflation in Belarus, 208–209Hyperinflation in Bolivia, 209–210Hyperinflation during the Bolshevik

Revolution, 202–203, 354Hyperinflation in Brazil, 210–212Hyperinflation in Bulgaria, 212–213Hyperinflation in China, 71, 213–214Hyperinflation in the Confederate States

of America, 224–225, 432Hyperinflation during the French Revo-

lution, 203–205, 231, 337. Seealso Assignats (France)

Hyperinflation in Georgia, 214–215Hyperinflation in Peru, 216–217Hyperinflation in post-Soviet Russia,

217–218Hyperinflation in post-Word War II

Hungary, 221–223Hyperinflation in post-World War I Ger-

many, 219–220, 234, 337, 425Hyperinflation in post-World War I

Hungary, 220–221Hyperinflation in post-World War I

Poland, 223–224Hyperinflation in Ukraine, 225–226Hyperinflation in Yugoslavia, 227–228Hyperinflation in Zimbabwe, 228

Iceland, 62, 73, 407Imperial Germany, 174–175Imports

American colonies and, 275balance of payments and, 13basics, 245Chinese silver standard and, 71colonial land banks and, 255current account and, 104current account deficit and, 99East Asian financial crisis and, 126euros and, 130foreign exchange markets and, 153foreign exchange rates and, 50–51

Imports (continued)gold standard and, 184gold-specie-flow mechanism and,

180–181greenbacks and, 192pegged exchange rate and, 280public debt and, 328–329Zimbabwe and, 229

Incas, 170Inconvertible paper standards

basics, 34, 231–232Chilean, 68Chinese silver standard and, 70–71Civil War and, 192, 193England and, 37–38Spain, 373– 375supply of money and, 202Sweden and, 386, 387United States and, 385See also Convertibility; Corso

Forzoso (Italy); Fiat moneyIndependent Treasury (United States),

232–234Indexation, 211, 222–223, 234–235,

239, 271, 398. See also specificindexes

Indiaalchemy and, 5coinage, 295commodity price boom and, 84copper and, 53Great Bullion Famine and, 188silver and, 366silver standard and, 235–236, 244See also specific currencies

Indian silver standard, 235–236Indonesian Archipelago, 73, 172, 246,

248, 295Industrialization, 150Inflation

bank notes and, 18, 56Bank of England and, 31Bank of France and, 33Bank Restriction Act and, 38banks and, 15

500 | Index

basics, 237–239, 339–340Belgium and, 44bonds and, 446Bundesbank and, 114–115capital controls and, 57capital flight and, 59central bank independence and, 66central banks and, 242Chile and, 68–69commercial banks and, 64commodity standards and, 81convertibility and, 38copper pennies and, 7core, 87–88dollarization and, 122Ecuador and, 22Europe and, 132, 318, 321florens and, 148forced savings and, 150France and, 91, 161free banking and, 158generalized commodity reserve cur-

rency and, 164ghost money and, 165gold and, xvgold standard and, 176, 183, 390Greece and, 190, 191greenbacks and, 192Gresham’s Law and, 194Guernsey market house paper and,

195inconvertible paper money and, 89, 90indexation and, 234, 235interest rates and, 242Japan and, 34, 444missing money and, 283monetarism and, 284monetary theory and, 290, 291money stock and, 25, 129mortgages and, 3paper money and, 8, 96paper standards and, 389policy and, xvi, 369politics and, 65post WW II, 161

price indices and, 422public debt and, 328public policy and, xiRadcliffe Report and, 334real bills doctrine and, 334redenomination and, 337repurchase agreements and, 340reserves and, 338Roman Empire, 346–347Russia and, 350–351, 442Spain and, 375–376Specie Circular and, 379stability and, 168Sweden and, 388United States and, 140, 144, 157value of money and, 421vellon and, 424velocity of money and, 425wage and price controls and, 431, 432war and (See specific wars)West Germany and, 116World War I and, 185See also Fisher effect;

Hyperinflation; Hyperinflationentries; Inflationary expectations

Inflation tax, 239–240Inflationary expectations, 238–239, 250Information sharing, 142Interest

bills of exchange and, 45checking accounts and, 111–112current account and, 104depreciation and, 40Exchequer Orders to Pay (England)

and, 135Great Depression and, 299Islamic banking and, 246liquidity and, 264London and, 46NOW accounts and, 299, 300public debt and, 327repurchase agreements and, 340Russia and, 218See also Adjustable rate mortgages;

Announcement effect; Federal

Index | 501

Funds Rate; Interest rates; Usury;Usury laws

Interest rate equalization tax, 57Interest rate risk, 446Interest rate targeting, 241–242Interest rates

Bank of England and, 30Bank of France and, 32banking crises and, 24basics, 240–241BIS and, 20bonds and, 445, 446CDs, on, 67central banks and, 64commodity price boom and, 84credit and, 92–93crisis of 2008 and, 416dollarization and, 122East Asian financial crisis and, 126Eurodollars and, 131European Central Bank (ECB) and,

132euros and, 129expectations and, 238foreign debt and, 151foreign investment and, 281Gold Standard Act of 1900 and, 186,

187gold standard and, 182, 374Great Bullion Famine and, 188hot money and, 198inflation and, 151Japan and, 250liquidity traps and, 266–267London interbank, 271monetarism and, 284nominal/real, 144–145public debt and, 328“real,” 289repurchase agreements and, 286rubles (Russia) and, 443S&L bailout and, 354sweep accounts and, 391See also Regulation Q; Usury; Usury

laws

International Bank for Reconstructionand Development, 439–440

International currency, 153–154, 244,256, 319, 337, 378, 422, 444, 445

International Financial Corporation(IFC), 440

International gold standard, 176, 180,185, 186, 243

International Monetary Conference of1878, 49, 243–244

International Monetary Fund (IMF)basics, 20, 177, 191, 244–246composite currency and, 85EC and, 371foreign debt and, 152foreign exchange rates and, 51Georgia and, 215hyperinflation and, 216, 217, 226,

228, 229Russian currency crisis and, 352, 443snake system and, 372Turkey and, 408–409units of account, 377World Economic Outlook Database

for May 2001, 208International settlements, Bank for, 19–20International standards, 176, 255–256International trade. See Foreign tradeInvestment banking, 166, 167Investment deposits, 247Investments, 168, 264, 355. See also

Foreign capitalIran, 423Ireland, 38, 370–371. See also Great

Britain; United Kingdom; specificacts; specific currencies

Irish Republican Army, 92Iron currency, 376–377Islamic banking, 246–247Isle of Man, 260Isolationism, 206Israel, 48, 235Italy

banks of deposit, 27bills of exchange and, 45

502 | Index

bimetallism and, 161capital controls and, 57copper coins, 7ECB and, 130gold and, 343inconvertibility and, 232mints, 281public banks and, 35seigniorage and, 361siege money and, 365World War II and, 44See also Corso Forzoso (Italy);

Europe; Lombard banks; specificbanks, cities and currencies

Ivory, 248Ivory Coast, 172

Jackson, Andrew, 139, 154, 233, 358, 378Jamaica, 383, 384. See also Latin

AmericaJames II of Scotland, 5Japan

balance of payments and, 13–14capital controls and, 57central bank independence and, 66central banks, 168China and, 213commercial banks and, 141commodity standards and, 80deflation and, 168, 249–250exports, 188francs (France) and, 161gold dust and (Japan), 172gold standard and, 175, 183, 236invasion of China, 71liquidity traps and, 267monetarism and, 284–285rice currency, 344speculation and, 12stagnation and, 153–154sterilization and, 381trade dollars and, 403universal banks and, 412See also specific banks and

currencies

Japanese deflation, xv–xvi, 7, 249–250Jefferson, Thomas, 111, 143, 357, 358Joint-stock banks, 34, 1621JPMorgan Chase & Co., 140, 141, 142,

412Julliard v. Greenman (United States),

250–251

Kampuna (Indonesian Archipelago), 73Karbovanet (Ukraine), 226Kentucky, 155Kenya, 62Keynes, John Maynard

Gibson’s paradox and, 144goats, on, 168–169gold standard, on, xv, 176India and, 235, 236inflation, on, 220inflation tax, on, 240Lenin, on, 203U.S. banks, on, 165

Ko money (Rossel Island), 348Kokus (Japan), 344Kopeks (Russia), 110Korea, 246, 337Krona (Denmark), 85, 133Krona (Hungary), 221Krona (Sweden), 389, 390Krugerrands (South Africa), 360Kugildi (Iceland), 62Kumals (Ireland), 371Kwanzas (Angola), 42

Labor. See WorkersLabor notes (United Kingdom),

253–254Land bank system (American colonies),

12, 254Landeszentralbanken, 113Laos, 337Lari (Georgia), 215Latin America

banking crises, 24banking crises and, 25basics, 120

Index | 503

cocoa beans and, 74credit ratings and, 94forced savings and, 150gold and, 76Great Bullion Famine and, 188inflation and, 167missing money and, 283silver and, 366See also specific countries and

currencies; specific Latin Ameri-can monetary units

Latin Monetary Union, 161, 244,255–256, 373–374, 394

Law, John, 12, 32, 38, 55, 90, 231,257–258, 337

Law of Convertibility (Argentina), 206Law of the Maximum, 204Law of One Price, 258–259Law of reflux, 25League of Nations, 208, 221Leather money, 259–260Leeward Islands, 383–384Legal reserve ratio, 260–261Legal tender

American colonies, 119, 277basics, xiv, 60, 262–263Civil War and, 192dollarization and, 122France, 257, 258free banking and, 64United States, 75, 77, 78, 81, 251See also specific currencies and laws

Legal Tender Act (United States), 251Lehman Brothers, 142, 415Lenders, 145, 234, 238Lenders of last resort

Bank of England and, 18, 30Bank of France and, 32basics, 15, 138central banks and, 64clearinghouses (United States) and, 19Germany, 113Japanese, 34National Bank Act of 1864 and, 298

Lenin, 203, 214

Leopards (England), 344LIBOR (London Interbank Offered

Rate), 3Lincoln, Abraham, 6–7Lincoln Memorial, 7Linen, 72, 73Liquidity, 18–19, 30, 138, 250,

264–265, 266–267, 333–334, 416.See also Monetary aggregates

Liquidity crisis, 265–266Liquidity trap, 250, 266–267, 416Liquor money, 267–268Lira (Florence), 331Lira (Italy), 60, 85, 89, 133, 161, 232Lira (Turkey), 336, 409Lira (Vatican), 312Liverpool Act of 1816 (England), 52,

269–270Livestock. See specific livestockLivres (Carolingian), 13, 110, 160Livres (France), 32, 56, 60, 133, 204, 286Loans

Argentina and, 10bank clearinghouses and, 19central banks and, 64currency-deposit ratio and, 101developing countries and, 440fixed rate, 3government, 359real bills doctrine and, 334, 335securitization and, 358time money and, 349usury and, 112See also Repurchase agreements

Local money, 39Locke, John, 1, 2Lombard banks, 270–271London, 179, 271London Interbank Offered Rate

(LIBOR), 3, 271–272Long (Africa), 73Louis III (France), 282Louis IX (France), 260Louis XIV (France), 367, 392, 416–417Louisiana, 154–155

504 | Index

Lubeck, 344, 435Luxembourg, 131, 133Lydia, 366, 395, 402

M1, M2 and M3, 67, 197, 285, 286,294, 299

Macedonia, 63Malawi, 337Malaya, 172Malthus, Thomas, 38, 338Maravedis (Castile), 424Market economies, 246Market socialism, 209Markkaas (Finland), 48Marks (Cologne), 174Marks (Germany), 73, 85, 131, 134,

219, 222, 228, 337. See alsoDeutsche Marks; Deutsche MarksEast

Marks (Imperial Germany), 174Marks (Polish), 223, 224Marks (West Germany), 133, 161–162.

See also Deutsche Marks (FederalRepublic of Germany); Marks(Germany)

Marshall Plan, 20Maryland, 81, 82, 83, 255, 372–373Massachusetts (state), 299–300Massachusetts Bay Colony

commodity money, 83land banks and, 254, 255livestock and, 169paper currency and, 96tabular standard, 397–398wage and price controls and, 431wampum and, 433See also New England colonies

Massachusetts Bay Colony mint,275–276

Massachusetts Bay Colony paper issue,276–277

Maya, 170McKinley, William, 184, 438Mechanization of minting, 281, 292,

295, 308

Media of exchange, xiii, 63, 79–80. Seealso specific media of exchange

Medici Bank, 277–278Meiji Restoration government, 34Men, 348Menu costs, 239, 322Merovingian Gauls, 63Merrill Lynch, 142Mestrell, Eloy, 281–282Metal, 5, 28–29, 34, 40, 41, 54, 117.

See also specific metalsMetallic currency, 101Metals, 84. See also specific metalsMexican dollars, 108, 444Mexican pesos crisis of 1994, 279–281Mexican war, 404Mexico

basics, 119cocoa beans and, 74copper and, 87foreign debt and, 152gold and, 76IMF and, 246mint, 107money laundering and, 293NAFTA and, 57silver and, 369silver standard and, 70See also Latin America; specific

crises and currenciesMichael IV (Byzantine Empire), 53Middle East, 188, 189, 317. See also

specific countries and currenciesMilan, 165Mill, John Stuart, 263Milled-edge coins, 71, 76, 281–282Milles (United States), 75Minerals, 84Mints

bimetallism and, 47Carolingian, 60Chinese, 7, 8Czech, 399devaluation and, 331, 332English, 179, 361

Index | 505

European, 343–344free silver and, 160Great Bullion Famine and, 188milled-edge coins and, 281papal, 310Roman, 348seigniorage and, 360Tower, 2United States, 119U.S., 74–75Venice and, 427Wendish Monetary Union and, 434See also Moneyers; specific mints

Missing money, 282–283Mississippi scheme, 257Mitkhal, 172Mixt monies, 60–61, 263Mladenovic, Zorica, 227MMDAs (money market deposit

accounts), 294, 390, 391MMMFA (money market mutual fund

accounts), 294A Modest Enquiry into the Nature and

Necessity of a Paper Currency(Franklin), 156

Mondex system, 109Monetarism, 69, 283–285Monetarist school, 102Monetary aggregates, 67Monetary base, 197Monetary equilibrium, 290Monetary Law of 1803 (France), 160,

286–287Monetary multiplier, 288–289Monetary neutrality, 289–290Monetary standards. See specific

standardsMonetary theory, 290–291Monetization, Japan and, 35Money aggregates, 285–286Money laundering, 292–293Money market accounts, 286, 294, 391

2008 crisis and, 414sweep accounts and, 390

Money market investments, 20

Money of account, 26Money stock. See Supply of moneyMoney supply. See Supply of moneyMoneyers, 291–292Monopolies, bank, 16Monopolies, 355–356

bank, 16Monstaries, dissolution of (England),

117–119Montezuma, 74Moody, John, 93–94Moody’s, 93, 413Morgan Stanley, 142Morris, Robert, 110Mortgage-backed securities (MBS),

359, 360, 413–414Mortgages

Argentina and, 10core inflation and, 88credit crunch and, 92–93hyperinflation and, 210LIBOR and, 271securitization and, 359usury and, 112See also Mortgage-backed securities

(MBS)Mortgages, adjustable rate, 3–4Mugabe, Robert, 229Mughal coinage, 295Multinational corporations, 131Municipal bonds, 198Murray, Draper, Fairman and

Company, 91Murray, Robert, 270Muscovado (Barbados), 383Mutual funds, 294Mutual savings banks, 112, 299

NAFTA (North American Free TradeAgreement), 57

Nails, 297Napoleon coins, 287Napoleonic Wars

convertibility and, 231, 269, 339,356

506 | Index

currency school and, 101ducats (Venice) and, 427England and, 25, 38, 39, 89–90francs, 160, 161francs and, 60interest rates and, 241public debt and, 327–328real bills doctrine and, 334Russia and, 409–410siege money and, 365Spain and, 420Switzerland and, 394

National Bank Act of 1864 (UnitedStates), 298–299

National Bank of Belgium, 20, 34National Bank of Bulgaria, 212National Bank of Greece, 190National Bank of Italy, 89National Banking Act of 1864 (United

States), 157National banking system, 158National debt. See Public debtNational defense, 57Nationalization, 31, 33Native Americans, 87, 268, 314–315,

317–318, 433Nazi Germany, 91, 113, 115, 304–306,

393. See also Hitler, AdolfNegotiatable order of withdrawal

(NOW) accounts, 111–112, 285,299–300

Netherlands (Holland), 35, 128, 141,160–161, 182, 187, 188, 200, 244,433. See also specific banks andcurrencies

Netherlands Bank, 29Neutrality, 393New England colonies, 200–201,

382–383, 432, 434. See alsoAmerican colonies ; specificcolonies

New Hampshire, 81, 254. See also NewEngland colonies

New Harmony, Indiana, 253New Hebrides, 312–313

New Jersey, 6, 81, 254, 300New York, 158, 255, 300, 433New York Federal Reserve, 20, 81, 304,

340New York Safety Fund System,

300–301New York Trading Desk, 137, 138New Zealand, 337

gold standard and, 187trade dollar and, 403

Newton, Isaac, 2, 3, 4–5Nicaragua, 74, 337. See also Latin

AmericaNicephorus III Botaneiates (Byzantine

Empire), 53Nigeria, 267, 337, 37090-day treasury bonds (United States),

92, 264, 294Nixon, Richard, 121, 284Nobles (England), 344Non-Russian republics, 217. See also

specific republicsNorman Conquest, 110North America, 87, 94. See also specific

countriesNorth American Free Trade Agreement

(NAFTA), 57, 279North Carolina, 254–255Northern Slavs, 73Norway, 73NOW (negotiated order of withdrawal)

accounts, 111–112, 285, 299–300Noyer, Christian, 130

Offa (Mercia), 127Official reserves transactions account,

13, 104, 105Off-shore banks, 293Oil

capital flight and, 59China and, 57commodity price boom and, 83, 84Ecuador and, 22, 23hot money and, 198hyperinflation and, 226

Index | 507

IMF and, 245–246Islamic banking and, 246prices, 88Russian currency crisis and, 351, 443S&L bailout and, 355S&L crisis and, 265vehicle currency and, 423

Open market operations, 9, 138, 261,267, 303–304, 380

Operation Bernhard, 91, 304–306Operation Bird Dog, 116Optimal currency area, 306–307Optional clauses, 35–36, 356Oregon, 309, 310Ornaments, 367–368, 433Ottoman Empire currency, 48, 307–308,

426Overdraft privileges, 349

Pacific basin, 120Pacific coast gold standard, 309–310Pacioli, Luca, 27Pakistan, 151Palay (Philippines), 345Panama, 122Panics, 27, 50, 56, 154, 404Papal coinage, 310–312Paper gold, 245Paper money

American colonies and, 323banks of deposit and, 28basics, 17, 277Brazil and, 211central banks and, 64Chile and, 68Chinese ancient, 7–8clipped coins and, 72Coinage Act of 1853 and, 78commodity standards and, 80Currency Act of 1764 (England) and,

97–98debasement, 189–190debit cards and, 108England and, 135Franklin and, 156

Paper money (continued)gold standard and, 182hyperinflation and, 209inflation and, 195Italy, 89Jefferson on, 358legal tender, as, 61Maryland and, 372–373Massachusetts Bay Colony and, 397Ottoman Empire and, 308reserves and, 382–383seigniorage and, 360–361small denominations, 364Smith on, 36Stop of the Exchequer and, 381Sweden’s copper standard and, 387taxes and, 239–240trust (confidence) and, 442Tzarist Russia’s, 409–410United Kingdom and, 38Virginia and, 429See also Convertibility; Fiat money;

Hyperinflation entries;Independent Treasury; Law, John;Legal tender; specific papercurrencies

Paper standards, xiv, 387–389Paraguay, 187, 402. See also Latin

AmericaPatrick’s Pence, 6Pawnshops, 271Peas, 81Peg exchange rates, 51Pence (Carolingian), 110Pence (Great Britain), 111Pence (United Kingdom), 319Penda (Mercia), 128Penge (Denmark), 128Pengos (Hungary), 222Penig (England), 128Pennies (Canada), 7Pennies (Carolingian), 110Pennies (England), 60, 87, 127–128,

147, 263, 318Pennies (Florence), 165

508 | Index

Pennies (United States), 6–7, 87, 128.See also Cents (United States)

Pennsylvania, 157, 254, 323–324Pennyweight, 127Pepin the Short (Carolingian), 60, 110,

164, 319Perfume, 8Perkins Bacon (firm), 91Peru, 22, 68, 87, 187, 216–217,

316–318Pesetas (Spain), 85, 374Pesos (Argentina), 205, 206Pesos (Bolivia), 209, 210Pesos (Colombia), 48Pesos (Mexico), 108, 279–281Pesos (Spain), 119Petrovic, Pavle, 227Pfennige (Imperial Germany), 175Philip I (France), 259–260Philip II of Macedon, 63Philippe d’Orleans (France), 257Philippines, xv, 73, 172, 295, 316, 345Pieces of eight, 107–108, 119Pig standard of New Hebrides, 312–313Pillar dollars, 107, 119Pisa, 331Playing-card currency of French

Canada, 313–314Poland, 223–224Policy, monetary

Bank of England and, 31banking crises and, 24basics, 241bonds and, 446commodity price boom and, 84credit crunch and, 93Europe and, 33, 129, 132FOMC and, 137lax, xvimonetarism and, 283–285, 284monetary neutrality and, 290monetary theory and, 291Radcliffe Report and, 333reserves, 16Russia and, 217

tight, xv, 9, 66See also Announcement effect; Cen-

tral bank independence; Centralbanks; Easy money policy;Federal Reserve System (UnitedStates); Regulation; Tightness;specific policies

Polish State Loan Bank, 223–224Political Risk Services, 22Politics, 65, 139, 140, 157, 326–327,

355, 408. See also Central bankindependence

Polo, Marco, 7Pontiac’s bark money, 314–315Poor laws (England), 321Poor’s Publishing Company, 94Popes, 310–312, 343Pork, 81Portugal

European Currency Unit (ECU) and,133

gold and, 171gold standard and, 175, 183Great Bullion Famine and, 188

Postage stamps, 91, 315–316Potin coins, 63Potosi Silver Mines, 316–318Pounds (British), 186

World War I and, 187Pounds (Carolingian), 60, 110, 164Pounds (Egyptian), 365Pounds (England), 319Pounds (Great Britain), 111, 423

Eurocurrencies and, 131Pounds (Guernsey), 194–195Pounds (Ireland), European Currency

Unit (ECU) and, 133Pounds sterling (Great Britain), 52, 85

basics, 127, 318–320European Currency Unit (ECU) and,

133French System and, 161history, 115Indian silver standard and, 236World War I and, 161

Index | 509

Poverty, 3, 21, 42, 147, 148, 150POW cigarette standards, 320–321Power, xvPrecious metals, xiv

capitalism and, 180value of money and, 420–421See also Debasement of currency;

SpeciePreobrazhensky, Alexeevitch, 240President of the United States, 175Price, 80, 128

interest rates and, 144See also Commodity price boom;

InflationPrice controls, 214

Nixon and, 284Peru and, 216Roman Empire and, 347Russia and, 217World War II and, 237Yugoslavia and, 227See also Wage and price controls

Price index, 421, 422. See also Supplyof money

Price revolution in late RenaissanceEurope, 321

Price stickiness, 321–323Prices

Argentina and, 205Austrian hyperinflation and, 207, 208basics, 237Belarus and, 209China and, 213Civil War and, 193debasement and, 190deflation/inflation and, 237gold-specie-flow mechanism and,

180–181Great Bullion Famine and, 188hyperinflation and, 200–201Law of One Price and, 258–259monetary theory and, 291See also Energy prices; Inflation

Principles of Political Economy (Mill),263

Prisoner-of-war (POW) cigarettestandards, 320–321

Private banks, 33, 35, 190, 345, 355,359, 382–383. See also Free bank-ing

Private paper in colonial Pennsylvania,323–324

Producer price index (PPI), 88, 322,324–325

Production, technology and, 168Productivity, coinage and, 42Productivity of capital, 145Profitability, liquidity and, 264, 265Profits, banks and, 247Promissory notes, 323Promissory Notes Act of 1704

(England), 180, 325–326Propaganda money, 326–327A Proposal for the Advancement of

Trade (Murray), 270Protestant Reformation, 117, 118–119Prussia, 73, 367Pu (China), 72Public banks, 35, 37, 349Public debt (government borrowing), 38

basics, 327–329China and, 214Civil War and, 191–192crisis of 1998 and, 443England and, 38, 187, 362Greece and, 190, 191hyperinflation and, 210, 213, 215,

226indexation and, 235inflation and, 234, 240Law and, 258legal tender and, 263Poland and, 224Roman Empire and, 347Russian currency crisis and, 351–352stability and, 374war and, 241

Public debtsbanks and, 349

Public policy, xii

510 | Index

Punts (Ireland), 85Purchasing power, 420, 421

Quantity theorists, 129, 334Quarters (United States), 78, 79, 160Quattrini (Pisa), 332Quattrini (Florence) affair, 331–332

Radcliffe Report, 333–334Raleigh, Walter, 171Rappen (Helvetian Republic), 160Rate of exchange. See Gold exchange

standardReal bills doctrine, 25, 334–335Real variables, 289Reales (Spain), 107, 110, 119, 120Receipts, 231Recessions

basics, 66, 101, 267foreign debt and, 151Glass-Steagall Act and, 167global, 168Gold Standard Act of 1900 and, 186interest rate targeting and, 242interest rates and, 241legal reserve ratios and, 261liquidity traps and, 266, 267

Recoinage, sovereigns and, 52Reconstruction Finance Corporation,

176Redenomination, 335–336Redistribution of wealth, xiii, xivReformation (Protestant), 117, 118–119Regional central banks (United States),

139Regulation, xi, xii

2008 crisis and, 414bank branches and, 33Bank of Amsterdam and, 27banking crises and, 25basics, 15Bundesbank and, 114CDs and, 66central banks and, 64DIDMAC and, 113

Eurodollars and, 131free banking and, 158FSMA and, 141Independent Treasury and, 232mutual savings banks and, 299price stickiness and, 322Radcliffe Report and, 333Regulation Q and, 166reserve ratios and, 260–261Specie Circular and, 379United States, 111, 139, 154United States and, 379See also Deregulation; Forestall sys-

tem; specific laws andregulations; specific regulations

Regulation Q, 92, 131, 166, 294Reichsbank, 113, 219Reichsmarks (Germany), 115–116, 175,

338Reilmark, 73Relief Act of 1707 (Barbados), 40Religion

banking and, 246copper and, 86foreign exchange markets and, 152gold and, 170, 171Henry VIII and, 117–119interest rates and, 241media of exchange and, 313rice currency and, 345Roman Empire and, 347–348Rossel Island, 349usury amd, 416, 417whale teeth and, 436–437See also Papal coinage

Renaissance, 277, 310, 321Rentenmarks (Germany), 175, 220,

337–338Reparations, war, 20, 221, 256, 337,

393, 444Report from the Select Committee on

the High Price of Bullion,338–339

Republics, non-Russian, 217. See alsospecific republics

Index | 511

Repurchase agreements, 286, 340–341Reserves

Bank Charter Act of 1833 and, 16basics, 19, 100, 197, 390–391euros and, 130foreign exchange, 378Forestall system and, 154free banking and, 158gold exchange standard and, 173,

174gold rushes and, 177Gold Standard Act of 1900 and, 186gold standard and, 182, 184, 444Great Depression and, 165Independent Treasury and, 232Indian silver standard and, 235international gold standard and, 186legal ratios, 260–261, 288National Bank Act of 1864 and,

297–298requirements, 112–113, 140Suffolk System and, 382

Resumption Act of 1875 (UnitedStates), 341–343

Return to gold 1300-1350, 343–344Revolution of 1848, 161Revolutions, 332. See also specific revo-

lutionsRhineland, 188Rhode Island, 254, 433. See also New

England coloniesRials (Oman/Yemen), 107Ricardo, David, 17, 38, 171, 338Rice, 80Rice currency, 344–345Riksbank (Sweden), 345–346, 387Rin (Japan), 444Riots, 204, 216, 229, 258, 326Risk, 85, 355, 359, 412, 445–446Rittenhouse, David, 75Roman Empire, 60, 63, 86, 181,

291–292, 353, 366Roman Empire inflation, 346–347Roosevelt, Franklin, 165, 166, 175–176,

368

Rossel Island Monetary System,348–349

Royal Bank of Scotland, 35, 349,349–350, 350, 355–356, 407

Royal Commission on Indian Currencyand Finance, 236

Royal Commission on InternationalCoinage (United Kingdom), 256

Rubles (Russia), 110, 202, 203, 217,350, 409, 442–443

Rule of law, 22Runs on banks, 38, 89, 212, 268, 356Rupees (India), 61, 236, 295Russia

barter and, 41capital flight and, 58decimal systems and, 110, 111foreign debt and, 151gold standard and, 175, 182, 183hyperinflation and, 202–203IMF and, 246missing money and, 283money laundering and, 293postage stamps and, 316tea bricks and, 401–402See also Hyperinflation during the

Bolshevik Revolution; Hyperinfla-tion in post-Soviet Russia;individual Russians; specificbanks, currencies, laws and wars

Russian Central Bank, 443Russian currency crisis, 350–351

Saggios (China), 353Salt currency, 353–354Saudi Arabia, 107Saving, 24, 149–151, 234, 300,

417–418Savings and Loan bailout (United

States), 265–266, 354–355Savings and Loan institutions (S&Ls)

(United States), 112, 299. See alsoSavings and Loan bailout

Scandinavia, 182, 434. See also specificcountries and currencies

512 | Index

Sceattas (England), 127Scotland, 11–12, 16, 21, 64, 157, 344,

356. See also Great Britain;United Kingdom; individualScots; specific banks, currenciesand laws

Scottish Banking Act of 1765, 36,355–356

SDRs (Special Drawing Rights), 85Second Bank of the United States,

138–139, 144, 356–358, 385,436

Securitization, 358–360Seigniorage, 122, 160, 189, 360–361Seizure of the mint (England),

361–362Sen (Japan), 444September 11, 2001, 145, 293Seven Years War, 367Shells, 348, 433Sherman Silver Act of 1890 (United

States), 49–50, 159, 362–363Shillings (Austria), 208Shillings (Carolingian), 59, 60, 110,

164Shillings (England), 164, 319Shillings (Florence), 147, 165Shillings (Scotland), 356Shinka Jorei (New Currency

Regulations), 444Shinplasters, 363–364Shirts, 73Shoe-leather costs, 238–239Siam (Thailand), 172Siderographic process, 91Siege money, 315, 364–365Silk, 72Silver

alchemy and, 4basics, xiv, 366–367Bohemia and, 399China and, 8demand for, 79florins and, 147France and, 161

gold standard and, 183Great Bullion Famine and, 188Henry VIII and, 117–118mines, 316–318pennies, 60, 63Renaissance and, 321United States and, 75, 76, 77, 95,

183, 243The Wizard of Oz and, 438See also Bimetallism; Chinese Silver

Standard; Clipping; Debasementof currency; Free silver; Poundsterling; Precious metals; Silverstandard; specific coins and laws

Silver certificates (United States), 184,368, 369

Silver coins, 78, 79, 160, 269,275–276, 394. See also specificsilver coins

Silver dollars (United States), 78, 95,119, 159, 403

Silver plate, 367–368Silver Purchase Act of 1934 (United

States), 71, 368–369Silver standard

China and, 369commodity money and, 80England and, 181Europe and, 182florens and, 148gold rushes and, 177Gresham’s Law and, 193Mexico and, 108price of silver and, 163Sweden and, 389United States and, 77Venice and, 426–427yen (Japan) and, 444

Sino-Japanese war, 444Sixpenny nails, 128Slave currency, 369–370, 370–371Slave currency of ancient Ireland,

370–371Slave trade, 40Slavs, 72

Index | 513

S&Ls (savings and loans institutions), 299Now accounts and, 112See also Savings and Loan bailout

Small change, 79, 356copper and, 87

Small denominations, 364. See alsoFractional currency

Small states, 28Smart cards, 109, 110Smith, Adam, 11–12, 36, 199, 334. See

also The Wealth of Nations(Smith)

Snake system, 371–372Social context, 74Social dividend money of Maryland,

372–373Socialism, market, 209Socialist economies, 43Solidi (Byzantine Empire), 59, 60, 63,

147, 164Solidi (Roman Empire), 347Sols (Carolingian), 160, 286Sols (France), 60Sous (France), 60South Africa, 337South Carolina, 81, 254, 345South Sea Company, 258Sovereign debt, 151Sovereigns (India), 52Sovereigns, British gold, 52, 110, 183,

319Indian silver standard and, 236

Soviet Republics, 217, 306. See alsospecific republics

Soviet Unioncigarette currency and, 321counterfeiting and, 91Deutsche Mark and, 115, 116Eurodollars and, 131Georgia and, 215Hungary and, 223inflation tax and, 240oil and, 226redenomination and, 337See also specific currencies

Spaincopper and, 87, 386copper coins, 6debasement and, 6ECB and, 130European Currency Unit (ECU) and,

133French System and, 161gold and, 170inconvertible paper standard,

373–375Indian miners and, 317–318inflation and, 321, 375–376milled-edge coins, 282silver and, 200United States and, 75–76, 77See also specific coins; specific cur-

rencies“Spanish dollar,” 107Spanish inconvertible papaer standard,

373–375Spanish inflation of the 17th century,

375–376Spanish-American War, 184, 374Spartan iron currency, 376–377Special drawing rights (SDRs), 85, 245,

377–378Specialization, 40Specie, 154, 181

Civil War and, 192Specie Circular (Jackson), 154Specie Circular (United States),

378–379Speculation

Ayr Bank and, 12FOMC and, 138French Revolution and, 204hyperinflation and, 210interest rates and, 84Law and, 258liquidity traps and, 266Russia and, 218Second Bank of the U.S. and, 357silver coins and, 78Specie Circular and, 379

514 | Index

Speculative attackscandidates for, 58–59composite currency and, 85currency crises and, 99current account and, 105current account deficits and, 100francs (France) and, 161Russian currency crisis and, 351–352

Speke, John H., 248Sperm whale teeth, xvSpot rates, 153Sshu (Japan), 172Stability, 337

Argentina and, 205dollarization and, 122equation of exchange and, 129gold standard and, 121Greece and, 191inflation and, 168monetarism and, 283–285NOW accounts and, 300social stability and, 220Spain and, 374, 376trust and, 221

Stabilization, 15Austria and, 208bank notes and, 18Bank of France and, 33Bulgaria and, 213Bundesbank and, 114central bank independence and, 66central banks and, 65, 66foreign trade and, 101Gold Reserve Act of 1934 and, 176,

183Gold Reserve Act of 1934 and, 177interest rates and, 30supply of money and, 338

Stamp Act (Great Britain), 157Stamps, postage, 91Stamps, 260Standard and Poor’s, 93, 413Standard drawing rights, xvStandard of deferred payment, xiii, 421Standard of value, viii, 63

Standard Statistics Company, 94State coinage (U.S.), 110State Note Institute, 221State notes, 134Staters (Macedonia), 63States (United States)

bank reserves and, 385legal reserve ratios and, 261National Bank Act of 1864 and,

298regulations, 154–155, 158reserve requiements, 113Second Bank of the U.S. and, 356,

357–358wilcat banks and, 436See also specific states

Staves, 81Sterilization, 380–381Steuart, James, 235Stock, corporate, 264, 291

liquidity traps and, 267universal banks and, 411–412

Stock issuance, 125Stocks, growth of, 65Stone wheels, 441Stop of the Exchequer (England), 135,

381–382Store of value, xiii, 63, 283, 421Structured investment vehicles (SIVs),

359, 414Study of History (Toynbee), 52Subprime mortgage crisis (United

States), 4, 93, 94, 140, 272Sub-Treasury Act (United States), 233Sucres (Ecuador), 23Sudan, 73Suffolk System, 382–383Sugar, 81Sugar standard of the West Indies,

383–385Supply and demand, 80

commodities and, 322Fisher effect and, 145foreign exchange markets and, 153precious metals and, 321

Index | 515

Supply of money, xiv, 128, 129American colonies and, 97, 98, 255,

276announcement effect and, 9banking school and, 25basics, 237Bullion Report and, 340central banks and, 64, 65, 242commercial banks and, 289commodity money and, 83credit and, 92currency school and, 101, 102currency-deposit ratio and, 101deflation and, 250equation of exchange and, 128expectations and, 239FOMC and, 137free banking and, 158gold standard and, 182gold-specie-flow mechanism and,

181high-powered money and, 197hyperinflation and, 209, 219, 223,

225, 226inflation and, 69interest rate targeting and, 242, 243legal reserve ratios and, 260, 261measures of, 67, 197, 285, 286, 294,

299monetarism and, 284paper money and, 202price stickiness and, 323prices and, 322public debt and, 327public debts and, 327Radcliffe Report and, 333“real,” 289sterilization and, 380tax and, 361United States, 282velocity of money and, 425wildcat banks and, 437See also Liquidity trap; Monetary the-

ory; Money aggregates; Open mar-ket operations; Real bills doctrine

Suspension of payments, 385–386, 389Suspension of payments in War of

1812, 385–386Sweden, 35, 73, 87, 129, 188, 407Sweden’s copper standard, 386–387, 388Sweden’s first paper standard, 387–389Sweden’s paper standard of World War

I, 389–390Sweep accounts, 390–391Swiss banks, 391–394. See also specific

banksSwiss francs, 60, 122, 131, 160, 271,

394–395Swiss National Bank, 271Switzerland

banks, 391–394 (see also specificbanks)

bimetallism and, 161, 255central bank independence, 65France and, 160, 255gold standard, 187universal banks and, 412See also specific currencies

Symmetalism, 163, 395–396

Taboo, xv, 435Tabular standard in Massachusetts Bay

Colony, 397–398Talers (Austria), 308, 399Talers (Italy), 399Talers, basics, 118, 398–399Talleros (Italy), 398Tallies (England), 134–135, 400–401Target rate, 9, 81Tax pengos (Hungary), 222–223Taxes

American colonies and, 96, 98American Revolution and, 200barter and, 41basics, 237China and, 213–214Civil War (U.S.) and, 224copper pennies and, 7Currency Act of 1751 (England)

and, 97

516 | Index

Currency Act of 1764 (England)and, 98

debasement and, 190dissolution of monasteries and, 117Exchequer Orders to Pay (England)

and, 134fiat money vs., 192Franklin and, 157Georgia and, 215gold dust and, 172hot money and, 198hyperinflation and, 212Independent Treasury and, 233indexation and, 234–235inflation and, 38–39, 65, 239–240livestock and, 169Nazi collaboration and, 44paper money and, 277recoinage and, 2, 3Swiss banks and, 392, 393–394

Tea, 401–402Terrorism, 292, 293Thailand (Siam), 126–127, 172, 293Thalers (Bohemia/Saxony), 107Thalers (Prussia), 367Thalers (Scotland), 119Thalers (Zollverein), 174Thalers, basics, 118Third World. See Developing countriesThreads, 73Thrift institutions, 57, 67, 92, 93, 167,

300, 390. See also Savings andLoan institutions

Thriftiness of savers, 145Thrysmas (Anglo-Saxon), 63Tibet, 172, 401Tightness

American colonies and, 98Bank of England and, 31basics, 66Belarus and, 208deflation and, 168Federal Reserve System and, 9, 242FOMC and, 138gold rushes and, 179

recessions and, 284Russia and, 218S&L bailout and, 354

Time value, 348–349Tin, 63Tobacco, 80, 81–82, 373, 383, 402,

428–429. See also CigarettesToken coinage, 72Touchstones, 402Tower mint, 282, 292Toynbee, Arnold, 52Trade. See Foreign tradeTrade dollars, 403Transaction deposits, 247Transition economies, 167, 208, 337Treasury bills (United States), 66, 212,

340Treasury bonds (United States), 3, 445Treasury notes (United States), 404–405Treatise of Taxes and Contributions (W.

Petty), 270–271A Treatise on the Origin, Nature, Law,

and Alterations of Money(Oresme), 194

Trial of the Pyx, 405–406Trichet, Jean-Claude, 130Trolley-Buss Law, 23Troubled Asset Relief Program (TARP),

406–407Trust (confidence)

banks and, 24Bulgaria and, 212Caisse d’Escompte and, 55, 56capital flight and, 59China and, 213, 214Chinese silver standard and, 70Corso Forzoso and, 89crisis of 2008 and, 414currency-deposit ratio and, 101expectations and, 239Federal Reserve System and, 144foreign capital and, 100Glass-Steagall Act and, 165, 411Great Debasement and, 190Independent Treasury and, 232

Index | 517

inflation and, 224Law and, 258paper money and, 234seizure of the mint and, 362Sherman Silver Act and, 159stability and, 221Stop of the Exchequer and, 381–382United States and, 437War of 1812 and, 385Yap money and, 442

Turkey, 152, 308, 336Turkish Inflation, 408–409Tzarist Russia’s paper money, 409–410

Uganda, 168–169, 248, 268Ukraine, 151, 225–226, 306Underground economy, 283. See also

Black marketsUnemployment

Argentina and, 10Austria and, 207central banks and, 115, 168, 187disinflation and, 140, 388euros and, 130Great Depression and, 148indexation and, 235interest rates and, 241, 242optimal currency area and, 306–307price stickiness and, 322supply of money and, 284, 290

Union Bank of Switzerland, 393–394Unions, 322, 332Unit of measure, xiii, 46United Bank of Switzerland, 407United Kingdom

bimetallism and, 244capital controls and, 57central banks, 168Chinese silver standard and, 70commercial banks and, 141crisis of 2008, 407crisis of 2008 and, 350debasement and, 435Deutsche Mark and, 115euros and, 31

United Kingdom (continued)fiat money and, 89–90free banking and, 64gold standard and, 47, 183, 395Latin Monetary Union and, 256precious metal and, 269public debt and, 328sovereigns and, 52See also Great Britain; member

countries; individual subjects;specific banks, currencies, lawsand wars

United Statesbank clearinghouses, 18–19bimetallism and, 47, 395BIS and, 20capital controls and, 57capital flight and, 59central bank independence, 65checks and, 68commodity money and, 81–83copper and, 87counterfeiting and, 91–92CPI, 87, 88crises, 238current account and, 105–106deflation and, 237foreign debt and, 152foreign trade and, 70francs (France) and, 161free banking and, 64, 157gold bullion standard, 171–172gold rushes and, 177, 178gold standard and, 76, 175, 181–183,

186, 187Great Depression and, 394growth, 249–250IMF and, 245indexation and, 235inflation and, 237, 240Japan and, 34Latin Monetary Union and, 256legal tender, 61liquidity traps and, 267milled-edge coins, 282

518 | Index

money laundering and, 293post-WW II inflation, 234president, 140public debt and, 328repurchase agreements and, 340, 341securitization and, 359–360seigniorage and, 361small denominations and, 364TARP and, 406–407universal banks and, 411, 412usury laws and, 417World Bank and, 439See also American colonies; Decimal

systems; Federal Reserve System;individual Americans; specificbanks, crises, currencies, lawsand wars

United States Constitution, 74, 143,251, 255, 263, 277, 357, 404

United States pennies, 6–7Units of account, 133, 160, 164, 172,

371, 377, 427Universal Banks, 411–412Uruguay, 24–25, 151, 187. See also

Latin AmericaU.S. Financial Crisis of 2008-2009,

142, 266, 406, 412, 413–416, 445interest rates and, 417World Bank and, 440

U.S. government bonds, 9U.S. government securities, 9, 138U.S. Mint, 6

copper coins, 7Usury, 241

Bank Charter Act of 1833 and, 16Bank of France and, 33bills of exchange and, 45Italy and, 277London and, 46Now accounts and, 112

Usury laws, 416–417Utilities, 109, 322

Valencia, 188Valenciennes, 188

Vales (Spain), 419–420Value of money, 420–421Van Buren, Martin, 233Variable commodity standard, 421–422Vehicle currency, 422–423Vellon (Spain), 87, 386, 424–425Velocity of money, 128, 207, 225, 320,

333, 334, 425Venetian ducats, 426–427Venezuela, 187. See also Latin AmericaVenice, 60, 165, 260, 278, 426, 435. See

also specific coinsVenzuela, 59Vieh, 61Vietnam War, 51, 92, 121, 327Virginia, 83, 97, 431Virginia colonial paper currency, 81,

427–428Virginia Tobacco Act of 1713, 428–429Voltaire, 117

Wadmal, 73Wage and price controls, 284, 347,

431–432. See also Price controlsWage increases, 209Wales

Bank Charter Act of 1833 and, 16Banking Acts of 1826 and, 21See also Great Britain; United

KingdomWall Street, 139

bank clearinghouses and, 18Wampumpeag (Native Americans), 433War

paper money and, 427–428vales (Spain) and, 419, 420

War of 1812, 356, 385–386War of the Pacific (1879-1882), 68Wars

Angola and, 43Argentina and, 205bank notes and, 181–182banks and, 30bisected paper money and, 48commodity money and, 62

Index | 519

commodity price boom and, 84convertibility and, 269Corso Forzoso and, 89counterfeiting and, 91Currency Act of 1751(England)

and, 97debasement and, 53–54florins (Florence) and, 343forced savings and, 150gold and, 179gold standard and, 182hyperinflation and, 222 (See also

Hyperinflation entries)Imperial Germany and, 175inconvertibility and, 38, 231inflation and, 237interest rates and, 241leather money and, 260legal tender and, 251paper currency and, 96, 276playing-card currency and, 314public debt and, 327–328reparations, 220Stamp Act and, 157See also Hyperinflation entries; spe-

cific warsWashington, George, 75, 142, 143

copper coins and, 6The Wealth of Nations (Smith)

bank notes, views on, 326Banking Acts of 1826 and, 21banks of deposit, on, 28bills of exchange and, 45–46Mississippi scheme, on, 257nails and, 297overdraft privileges, on, 349–350Scotland, on, 12, 349–350, 356small denomination notes, on, 364See also Smith, Adam

Webster, Daniel, 233Weight standards, 1Weighted median inflation, 88Wendish Monetary Union, 434–435West Germany, 113West Indies, 76, 383–385

West Point, 155Whale tooth money in Fiji, xv, 268,

435–436Wheat, 81, 84Wholesale price index, 223, 324, 396,

421, 422Wildcat banks (United States), 436–437William of Rubruck, 53The Wizard of Oz (Baum), 95, 159–160,

183, 437–439Women, 348Wood, William, 6Workers

euros and, 130francs (France) and, 161inflation and, 150, 219price stickiness and, 322public debt and, 329quattrini affair and, 332Russia and, 202–203The Wizard of Oz and, 438See also Labor notes; Unemployment

World Bank, 20, 177, 244, 439–440World Economic and Monetary Confer-

ence, 176World monetary union, 256World War I

Bank of France and, 33BIS and, 20bisected paper money and, 48gold and, 30, 444gold standard and, 161, 182, 185Greece and, 191hyperinflation and, 202inconvertibility and, 232interest rates and, 241Poland and, 223postage stamps and, 316

520 | Index

sovereigns and, 52Sweden’s paper standard of,

389–390Swiss francs and, 394wage and price controls and, 432See also Hyperinflation entries

World War IIBank of France and, 33Belgium and, 43–44BIS and, 20bisected paper money and, 47–48Bretton Woods System and, 51gold and, 444interest rates and, 241postage stamps and, 316propaganda money and, 327Swiss francs and, 394wage and price controls and, 432

Worldwide currency. See Internationalcurrency

Yap money, 441–442Yeltsin’s monetary reform in Russia,

218, 442–443Yemen, 107Yen (Japan), 105–106, 120, 131,

337–338, 423, 444–445Yield curve, 445–446Yuan (China), 70, 120Yugoslavia, 120, 227–228, 337

Zambia, 73Zecchinos (Venice), 427Zimbabwe, 120, 228, 336Zimbabwe and, 229Zlotys (Poland), 224Zollpfund (customs union pound), 174Zollverein, 174

About the Author

Larry Allen is a professor of economics in the Department of Economics at LamarUniversity in Beaumont, Texas. Dr. Allen has written The Global Financial System:1750–2000 and The Global Economic System since 1945.