Who Benefits from Seigniorage?
- From: "Arizona Coin Collector" <nospam@xxxxxxxxxx>
- Date: Sun, 28 Dec 2008 05:32:15 -0700
FROM:
http://seekingalpha.com/article/112393-who-benefits-from-seigniorage
Who Benefits from Seigniorage?
by: William Hummel
December 28, 2008
During the era of metal-based money, the monetary
base consisted of precious metals produced by the
public and converted into coins by the State. The
difference between the face value of the coins
versus the cost of acquiring the metals and
minting them generated a financial benefit for
the State treasury, known as seigniorage.
The Monetary Base Today
In the U.S. today the monetary base is created by
the Fed when it buys Treasury securities from the
public and simply credits the sellers' banks with
reserve deposits at the Fed. The Fed must supply
reserves as needed to balance supply and demand
at its target Fed funds rate.
Cash withdrawals from banks are a drain on their
reserves, which the Fed must replenish or lose
control of the Fed funds rate. A net withdrawal
of cash from banks causes a continuing demand for
additional base money from the Fed. Under normal
conditions, that is the principal reason for the
growth of Treasury securities in the Fed's
portfolio.
Seigniorage in a Fiat Money System
The Fed thus acquires Treasury securities equal
to the amount of base money it creates. The
interest paid by the Treasury on those securities
is the main source of income for the Fed. The Fed
keeps enough to cover its expenses and refunds
the balance to the Treasury. On average, over 90
percent of the interest paid by the Treasury on
those securities is refunded by the Fed. Thus for
all practical purposes, the Treasury securities
held by the Fed are retired.
Retiring outstanding Treasury securities in that
way eliminates a cost to the Treasury. That is
the way in which seigniorage in a fiat money
system differs from the classical view of
seigniorage. The value of the seigniorage is
approximately equal to the face value of the
securities held by the Fed, which in turn is
equal to the monetary base created through open
market operations. The monetary base can also
be increased through lending by the Fed, but
that has no seigniorage benefit for the Treasury.
How the Issue of Notes Affect Seigniorage
The Bureau of Engraving and Printing in the
Treasury produces all notes for the Fed. The
Fed buys the notes at cost, and pays by
crediting the Treasury's account at the Fed.
The Fed provides notes on demand to banks at
face value, debiting their accounts at the Fed
in payment. Banks provide notes on demand to
depositors, debiting their individual accounts
in payment. Conversely depositors can return
notes to their banks and regain credits in
their accounts. Likewise banks can return notes
to the Fed and regain credits in their Fed
accounts.
Since the Fed buys notes at cost and sells them
to banks at face value, it would seem that
seigniorage from notes accrues to the Fed.
However until the notes are sold to banks, they
are not a part of the monetary base, but only
engraved pieces of paper stored in the vaults of
the Fed. As the Fed sells and redeems notes, it
simply swaps liabilities on its balance sheet.
The asset side of the balance sheet remains
unchanged, and the Fed gains nothing from the
"sale" of notes to banks. The more notes
withdrawn, the greater the seigniorage benefit
to the Treasury.
How the Issue of Coins Affects Seigniorage
The U.S. Mint, a bureau of the Treasury, produces
all coins. It sells them to the Fed at face
value for credit in its account at the Fed. The
difference between the face value of the coins
and the cost of their production is seigniorage
for Treasury, which accrues at the time of sale
to the Fed.
Coins held by the Fed are carried on its balance
sheet as assets. Those assets vanish when sold
to the private sector. The Fed sells the coins to
banks at face value, who in turn sell them to the
public at face value. This peculiar distinction
between coins and notes is a hold-over from the
days when the monetary base was precious metal
Who Really Benefits from Seigniorage?
The notion that the Treasury is a beneficiary of
seigniorage is an illusion. As the late economist
Herb Stein observed, "The government is no one,
there is nobody here but us people." Rather it
is a temporary assemblage of citizens who
determine how the government should spend and
tax. However the government must spend at least
as much as it acquires from taxes and the sale
of securities. Otherwise it would drain the
monetary base and stifle the economy.
In a modern fiat money system, the Treasury has
no need for balances in excess of its near term
obligations. If its balances increase due to
seigniorage, it will have to be returned to the
private sector, either through reduced taxes or
increased spending. Thus the private sector is
the ultimate beneficiary.
What about Federal Reserve notes that are bought
by foreign interests for use overseas? If the
notes never return, they represent a large gift
of seigniorage to the U.S. Again the beneficary
is the U.S. private sector as a whole.
...
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