On The Principles of Political Economy, and Taxation

by David Ricardo

While the state alone coins, there can be no limit to this charge of seignorage; for by limiting the quantity of coin, it can be raised to any conceivable value.

It is on this principle that paper money circulates: the whole charge for paper money may be considered as seignorage. Though it has no intrinsic value, yet, by limiting its quantity, its value in exchange is as great as an equal denomination of coin, or of bullion in that coin. On the same principle too, namely, by a limitation of its quantity, a debased coin would circulate at the value it should bear, if it were of the legal weight and fineness, not at the value of the quantity of metal which it actually contained. In the history of the British coinage, we find accordingly that the currency was never depreciated in the same proportion that it was debased; the reason of which was, that it never was multiplied in proportion to its diminished value.[45]

After the establishment of banks, the state has not the sole power of coining or issuing money. The currency may as effectually be increased by paper as by coin; so that if a state were to debase its money, and limit its quantity, it could not support its value, because the banks would have an equal power of adding to the whole quantity of circulation.

On these principles it will be seen, that it is not necessary that paper money should be payable in specie to secure its value; it is only necessary that its quantity should be regulated according to the value of the metal which is declared to be the standard. If the standard were gold of a given weight and fineness, paper might be increased with every fall in the value of gold, or, which is the same thing in its effects, with every rise in the price of goods.

"By issuing too great a quantity of paper," says Dr. Smith, "of which the excess was continually returning, in order to be exchanged for gold and silver, the Bank of England was, for many years together, obliged to coin gold to the extent of between eight hundred thousand pounds and a million a year, or at an average, about eight hundred and fifty thousand pounds. For this great coinage the Bank, in consequence of the worn and degraded state into which the gold coin had fallen a few years ago, was frequently obliged to purchase bullion, at the high price of four pounds an ounce, which it soon after issued in coin at 3l. 17s. 10½d. an ounce, losing in this manner between two and a half and three per cent. upon the coinage of so very large a sum. Though the Bank therefore paid no seignorage, though the Government was properly at the expense of the coinage, this liberality of Government did not prevent altogether the expense of the Bank."

On the principle above stated, it appears to me most clear, that by not re-issuing the paper thus brought in, the value of the whole currency, of the degraded as well as the new gold coin, would have been raised; when all demands on the Bank would have ceased.

Mr. Buchanan, however, is not of this opinion, for he says, "that the great expense to which the Bank was at this time exposed, was occasioned, not, as Dr. Smith seems to imagine, by any imprudent issue of paper, but by the debased state of the currency, and the consequent high price of bullion. The Bank, it will be observed, having no other way of procuring[46] guineas but by sending bullion to the mint to be coined, was always forced to issue new coined guineas, in exchange for its returned notes; and when the currency was generally deficient in weight, and the price of bullion high in proportion, it became profitable to draw these heavy guineas from the Bank in exchange for its paper; to convert them into bullion, and to sell them with a profit for bank paper, to be again returned to the Bank for a new supply of guineas, which were again melted and sold. To this drain of specie, the Bank must always be exposed while the currency is deficient in weight, as both an easy and a certain profit then arises from the constant interchange of paper for specie. It may be remarked, however, that to whatever inconvenience and expense the Bank was then exposed by the drain of its specie, it never was imagined necessary to rescind the obligation to pay money for its notes."

Mr. Buchanan evidently thinks that the whole currency must, necessarily, be brought down to the level of the value of the debased pieces; but surely by a diminution of the quantity of the currency, the whole that remains can be elevated to the value of the best pieces.

Dr. Smith appears to have forgotten his own principle, in his argument on colony currency. Instead of ascribing the depreciation of that paper to its too great abundance, he asks whether, allowing the colony security to be perfectly good, a hundred pounds, payable fifteen years hence, would be equally valuable with a hundred pounds to be paid immediately? I answer yes, if it be not too abundant.