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What kind of paper money and why?

By D.G. Martin Posted April 11, 2011 at 7:41 pm

What is money?

I asked that question again recently when I heard that State Representative Glen Bradley had introduced House Bill 301 to “study whether this State should adopt a currency to serve as an alternative to the currency distributed by the Federal Reserve System in the event of a major breakdown of the Federal Reserve System.”

I have never understood what money is, even though I studied economics at Davidson under one of the college’s great teachers, Dr. Charles Ratliff.

A few months ago we heard that the Federal Reserve has embarked on a program buying $600 billion in treasury bonds. Where did it get the money to buy those bonds? It simply “created” the additional money and put 600 billion new dollars into circulation.

What is money? It is what the Federal Reserve says it is. One of the Federal Reserve’s jobs is to determine how much money the country needs to have in circulation and then, if necessary, to create more money to meet those needs.

What backs up the currency that the Federal Reserve creates? Not gold or silver. Take a look at a one-dollar bill. There is no promise to pay in gold or any other precious metal. There is simply a statement that the bill is “legal tender for all debts, public and private.”

The only thing that backs up the Federal Reserve currency that we use today is trust in the Federal Reserve.

Of course, people like Representative Glen Bradley do not trust the Federal Reserve or its ability to provide a stable currency for our country.

I confess that I shared a little bit of Representative Bradley’s concern. Something did not seem right about the Federal Reserve “magicking up” billions of dollars of new money, just because it thinks we need it.

Just when I needed it, a new book came along to help me begin to understand why we need the kind of flexible money supply the Federal Reserve provides rather than a limited gold-based standard.

The book is “Moneymakers: The Wicked Lives and Surprising Adventures of Three Notorious Counterfeiters” by Ben Tarnoff.

Ironic, isn’t it, that a book about counterfeiters helped me understand the value of our system of paper money?

The “Moneymakers” story of counterfeiters entertains with its tales of the antics of very energetic and creative criminals. Along the way, it gives its readers a history of paper money in America.

Colonial American governments were trendsetters. They issued paper money long before their English overlords. The colonies could get very little coinage or “hard currency” from England. Without sufficient money in circulation, the colonial economy struggled. So the colonial governments printed notes that were “promises” to pay in coinage or precious metals at some later date.

These crude notes were open invitations to counterfeiters, but they nevertheless served the colonial economy well. When “hard money” purists tried to force Massachusetts to redeem all its paper money, the economy suffered.

The issuance of great amounts of paper money by Congress and the states during the Revolution and the resulting inflation led to Constitutional prohibitions on government-issued paper money.

But when money was needed, governments found a way. They simply gave banks the authority to issue paper money. At times during the 1800s there were hundreds of banks across the country issuing paper money. The value of each bill was dependent on the soundness of the issuing bank, and the resulting confusion, though a boon to counterfeiters, hurt commerce.

That confusion was one reason for the creation of the Federal Reserve in 1913, and ultimately for its assigned responsibility to manage the country’s currency system—for better or worse.

Considering the options—like Representative Bradley’s separate state currencies—it is for the better.

Those are my thoughts. Now, what are yours? Comment below.

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