Seigniorage

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Seigniorage /ˈsnjərɪ/, also spelled seignorage or seigneurage (from Old French seigneuriage "right of the lord (seigneur) to mint money"), is the difference between the value of money and the cost to produce and distribute it. The term can be applied in the following ways:

  • Seigniorage derived from specie—metal coins—is a tax, added to the total price of a coin (metal content and production costs), that a customer of the mint had to pay to the mint, and that was sent to the sovereign of the political area.[1]
  • Seigniorage derived from notes is more indirect, being the difference between interest earned on securities acquired in exchange for bank notes and the costs of producing and distributing those notes.[2]

The term also applies to monetary seignorage, where sovereign-issued securities are exchanged for newly minted bank notes by a central bank, thus allowing the sovereign to 'borrow' without needing to repay.[3] However, monetary seignorage refers to the sovereign revenue obtained through routine debt monetization, including expanding the money supply during GDP growth and meeting yearly inflation targets.[3]

Seigniorage is a convenient source of revenue for some governments.

Examples[edit]

Scenario A[edit]

A person has one ounce of gold, trades it for a government-issued gold certificate (providing for redemption in one ounce of gold), keeps that certificate for a year, and then redeems it in gold. That person ends up with exactly one ounce of gold again. No seigniorage occurs.

Scenario B[edit]

Instead of issuing gold certificates, a government converts gold into currency at the market rate by printing paper notes. A person exchanges one ounce of gold for its value in currency. This person keeps the currency for one year, and then exchanges it all for an amount of gold at the new market value. If the value of the currency relative to gold has changed during the interim this second exchange may yield more or less than one ounce of gold. (Assume that the value or direct purchasing power of one ounce of gold remains constant through the year.)

If the value of the currency relative to gold has decreased, then the person receives less than one ounce of gold. Seigniorage occurred.

If the value of the currency relative to gold has increased, then the person receives more than one ounce of gold. Seigniorage did not occur.

Seigniorage, therefore, is the positive return on issuing notes and coins, or "carry" on money in circulation.

The opposite, "cost of carry", is not regarded as a form of seigniorage.

Ordinary seigniorage[edit]

Ordinarily seigniorage is only an interest-free loan (for instance of gold) to the issuer of the coin or paper money. When the currency is worn out, the issuer buys it back at face value, thereby balancing exactly the revenue received when it was put into circulation, without any additional amount for the interest value of what the issuer received.

Historically, seigniorage was the profit resulting from producing coins. Silver and gold were mixed with base metals to make durable coins. Thus the British "sterling" was 92.5% pure silver; the base metal added (and thus the pure silver retained by the government mint) was (less costs) the profit, the seigniorage. USA gold coins were made from 90% gold, 7% silver, and 3% copper. To make up for the lack of gold the coins are over-weighted. A one ounce Gold American Eagle will have as much of the alloy as is needed to contain a total of one ounce of gold which will be over one ounce. Seigniorage is earned by selling the coins above the melt value in exchange for guaranteeing the weight of the coin.

Currently, under the rules governing monetary operations of major central banks (including the central bank of the USA), seigniorage on bank notes is simply defined as the interest payments received by central banks on the total amount of currency issued. This usually takes the form of interest payments on treasury bonds purchased by central banks, putting more dollars into circulation. However, if the currency is collected, or is otherwise taken permanently out of circulation, the back end of the deal never occurs (that is, the currency is never returned to the central bank). Thus the issuer of the currency keeps the whole seigniorage profit, by not having to buy worn out issued currency back at face value.

Solvency constraints of central banks[edit]

The solvency constraint of the standard central bank only requires that the present discounted value of its net non-monetary liabilities (separate from its monetary liabilities accrued through seigniorage attempts) be zero or negative in the long run. Its monetary liabilities are liabilities only in name, as they are irredeemable: the holder of base money cannot insist at any time on the redemption of a given amount of base money into anything else other than the same amount of itself (base money) – unless, of course, the holder of said base money is another central bank reclaiming the value of its original interest-free loan.

Seigniorage as a tax[edit]

Some economists regarded seigniorage as a form of inflation tax, redistributing real resources to the currency issuer. Issuing new currency, rather than collecting taxes paid out of the existing money stock, is then considered in effect a tax that falls on those who hold the existing currency.[4] The expansion of the money supply may cause inflation in the long run.

This is one reason offered in support of free banking, a gold standard, or at a minimum the reduction of political control over central banks. The latter could then take as their primary objective ensuring a stable value of currency by controlling monetary expansion and thus limiting inflation. Independence from government is required to reach this aim – indeed, it is well known in economic literature that governments face a conflict of interest in this regard[citation needed]. In fact, "hard money" advocates argue that central banks have utterly failed to obtain the objective of a stable currency. Under the gold standard, for example, the price level in both England and the US remained relatively stable over hundreds of years, though with some protracted periods of deflation[citation needed]. Since the US Federal Reserve was formed in 1913, however, the US dollar has fallen to barely a twentieth of its former value through the consistently inflationary policies of the bank. Economists counter that deflation is hard to control once it sets in and its effects are much more damaging than modest, consistent inflation.

Banks or governments relying heavily on seigniorage and fractional reserve sources of revenue can find it counterproductive.[5] Rational expectations of inflation take into account a bank's seigniorage strategy, and inflationary expectations can maintain high inflation. Instead of accruing seigniorage from fiat money and credit most governments opt to raise revenue primarily through taxation and other means.

Seigniorage today[edit]

The "50 State" series of quarters (25-cent coins) was launched in the U.S. in 1999. The U.S. government planned on a large number of people collecting each new quarter as it rolled out of the U.S. Mint, thus taking the pieces out of circulation.[6] Each set of quarters is worth $14.00 (a complete set includes quarters for all fifty states, the five U.S. territories, and the District of Columbia). Since it costs the Mint about five cents for each 25-cent piece it produces, the government made a profit whenever someone "bought" a coin.[7] The U.S. Treasury estimates that it has earned about US$6.3 billion in seigniorage from the quarters over the course of the entire program.[8]

In some cases, national mints report the amount of seigniorage provided to their respective governments; for example, the Royal Canadian Mint reported that in 2006 it generated $C93 million in seigniorage for the Government of Canada.[9] The U.S. government, the largest beneficiary of seignorage, earned approximately $25 billion annually as of 2000.[10] For coinage only, seigniorage accruing to the U.S. Treasury per dollar issued for the fiscal year 2011 was 45 cents.[11]

Occasionally, central banks have introduced limited quantities of higher-valued banknotes in unusual denominations, with the intention of these notes being collected. The denomination chosen will usually coincide with an anniversary of national significance. However, the potential seigniorage that can be earned from such printings has proven to be limited, since the unusual denomination makes the notes more difficult to circulate and only a relatively small number of people are willing to collect higher-valued notes.

According to some reports, over half of Zimbabwe governmental revenue in 2008 was seigniorage.[12] Zimbabwe has experienced hyperinflation (see Hyperinflation in Zimbabwe), with the annualized rate at about 24,000% in July 2008 (prices doubling every 46 days).[13]

Overseas circulation[edit]

A very profitable type of seignorage is from the international circulation of banknotes. While the cost of printing banknotes is minimal, the foreign entity must provide goods and services at the face value of the note to obtain it. The banknote is retained because the entity values it as a store of value because of mistrust of the local currency.

Overseas circulation is intimately tied in with large value banknotes. One purpose of using foreign currency is for store of value, but another is efficiency of private transactions, some of which are illegal.

American currency has been circulating globally for most of the 20th century. Certainly in World War II, the amount of currency in circulation was increased several fold. However, the modern era of huge printings of the United States one hundred-dollar bill started with the fall of the Soviet Union in 1991. Production was quadrupled with the first ever trillion dollar printing of this bill. As of the end of 2008, U.S. currency in circulation with the public amounted to $824 billion and 76% of the currency supply was in the form of $100 denomination banknotes, amounting to twenty $100 bills per U.S. citizen.[14] Over the past decade there has been considerable controversy concerning the amount of U.S. currency circulating abroad. Porter and Judson[15] have claimed that in the mid nineties between 53 and 67 percent of U.S. currency was overseas, whereas Feige’s[16] estimates suggested a figure closer to 40 percent abroad. Most recently, Goldberg[17] writing in a New York Federal Reserve publication asserted that “about 65 percent ($580 billion) of all banknotes are in circulation outside of the country. However, these assertions are contradicted by the Federal Reserve Board of Governors Flow of Funds statistics[18] which show that at the end of March 2009, only $313 billion (36.7 percent) of U.S. currency was held abroad. Feige calculates that since 1964, "the cumulative seigniorage earnings accruing to the U.S. by virtue of the currency held by foreigners amounted to $167–$185 billion and over the past two decades seigniorage revenues from foreigners have averaged $6–$7 billion dollars per year".

The American $100 bill has some competition, primarily from the €500 note. The larger value of the banknote makes it easier to transport larger amounts of money. As an example, $1 million in currency in $100 bills weighs 22 pounds, if, say, you were to carry it on board an airplane. It is difficult to carry this much money without a briefcase and some physical security. Since it is contrary to Title 26 of the United States Code (U.S.Tax Code) to carry more than $10,000 without reporting it (31 USC 5311), this is unlikely to pass security unnoticed. The same amount in €500 notes would weigh less than three pounds, and it could probably be dispersed in clothing and in luggage without attracting attention or alerting a security device. For many illegal operations, the problem of transporting currency is more difficult than transporting cocaine because of the size and weight of the currency. The ease of transporting banknotes makes the euro very attractive to Latin American drug cartels.[19]

The Swiss 1000 franc note is probably the only other banknote that is in circulation outside of its home country. It is worth slightly more than US$1000. However, to the non-Swiss it doesn't provide a significant advantage over the €500 note as there are 20 times as many of the €500 note circulating and they are more widely recognized. As a reserve currency it is roughly 0.1% of the currency composition of official foreign exchange reserves.

Governments differ radically in their issuance of large banknotes. As of August 2009, the number of 1000 Swiss franc notes circulating was over three times the population of Switzerland. In comparison, the number of £50 banknotes circulating is slightly less than three times the population of the United Kingdom. But the 1000 franc note is worth roughly £600. The British government has traditionally been wary of large banknotes since the counterfeiting Operation Bernhard in World War II which caused the Bank of England to withdraw all notes larger than £5 from circulation, and not reintroduce other denominations until the early 1960s (£10), 1970 (£20) and March 20, 1981 (£50).

The American treasury considered re-issuing a US$500 banknote when the euro banknotes began circulating. There was concern that the high value banknotes would provide competition. However, after recognition that the $500 banknote would provide a huge advantage to worldwide criminal operations and dictatorships, the decision was made not to pursue this option.[citation needed]

See also[edit]

References[edit]

  1. ^ http://www.minneapolisfed.org/research/QR/QR2142.pdf
  2. ^ Bank of Canada (March 2012). "Backgrounders: Seigniorage". Retrieved 2 January 2013. 
  3. ^ a b Neumann, Manfred J.M. "Seigniorage in the United How Much Does the U.S. Government Make from Money Production?". Federal Reserve Bank of St. Louis. Retrieved 17 June 2014. 
  4. ^ Brian Snowdon and Howard Vane, An Encyclopedia of Macroeconomics, p. 246
  5. ^ Tara McIndoe-Calder, Hyperinflation in Zimbabwe: Money Demand, Seigniorage and Aid shocks, Central Bank of Ireland; University of Dublin - Institute for International Integration Studies, May 1, 2009
  6. ^ United States Mint 50 State Quarters® Design Use Policy, Retrieved December 5, 2013
  7. ^ "Frequently Asked Questions". The 50 State Quarters Program of the United States Mint. United States Mint. Archived from the original on 2007-07-13. Retrieved 2009-10-18. 
  8. ^ http://news.coinupdate.com/state-quarters-program-seigniorage-0133/
  9. ^ Annual Report (2006), Royal Canadian Mint, p. 4
  10. ^ http://banking.senate.gov/docs/reports/dollar.htm
  11. ^ United States Mint FY 2013 President’s Budget Submission United States Treasury
  12. ^ Gerson, Michael (2008-02-20). "Dying Silently In Zimbabwe". The Washington Post. Retrieved 2009-05-29. 
  13. ^ http://www.newzimbabwe.com/pages/inflation180.17386.html
  14. ^ Edgar L. Feige "New estimates of overseas U.S. currency holdings, the Underground economy and the "Tax Gap" Forthcoming in Crime, Law and Social Change. http://ideas.repec.org/p/pra/mprapa/19564.html
  15. ^ Porter and Judson, 1996, R. D. Porter and R. A. Judson, The location of U.S. currency: How much is abroad? Federal Reserve Bulletin 82 (1996), pp. 883–903
  16. ^ Feige, 1997, E. L. Feige, Revised estimates of the underground economy: Implications of U.S. currency held abroad, in O. Lippert and M. Walker (ed.) The Underground economy: Global evidence of its size and impact. (1997), pp. 151–208. http://ideas.repec.org/p/pra/mprapa/13805.html
  17. ^ Goldberg, 2010, L. S. Goldberg, Is the International Role of the Dollar Changing? Federal Reserve Bank Of New York, Current Issues in Economics and Finance, 16(1) (2010) pp. 1–7.
  18. ^ http://www.federalreserve.gov/releases/z1/current/ and See:Edgar L. Feige "New estimates of overseas U.S. currency holdings, the Underground economy and the "Tax Gap" http://ideas.repec.org/p/pra/mprapa/19564.html
  19. ^ "Latin American drug cartels find home in West Africa". CNN. September 21, 2009. 

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