Wednesday, November 23, 2011

Seigniorage

Si, Seigniorage! It's magic!
"Anytime a government prints money in order to purchase government debt, it obtains a sort of revenue that economists call "seigniorage."  In effect, the government has gone out and bought real goods and services on behalf of its citizens, paying for them with nothing but paper.  The real "revenue" from that operation is measured simply by the quantity of money issued, divided by the general price level.  Seigniorage is sometimes called an "inflation tax", but that term can be misleading - the inflationary effects can be a long-run process, so people often believe that printing money is costless if they don't see inflation result immediately.  Yet regardless of whether inflation results immediately or not, it is always true that buying government bonds with newly printed money represents a fiscal revenue-generating operation." - John P. Hussman at http://www.hussman.net/wmc/wmc111114.htm.  An example from Wikipedia: Scenario A: You have one ounce of gold, trade it for a government-issued gold certificate, keep that certificate for a year, and then redeem it in gold.  You end up with exactly one ounce of gold again. No seigniorage occurs.  Scenario B: Instead of issuing gold certificates, the government converts gold into currency at the market rate by printing paper notes.  You exchange one ounce of gold for its value in currency, keep the currency for one year, and then exchange it for an amount of gold, but at the new market value.  This second exchange may yield more or less than one ounce of gold if the value of the currency relative to gold has changed during the interim.  If the value of the currency relative to gold has decreased, then you will receive less than one ounce of gold.  Seigniorage has occurred.  If the value of the currency relative to gold has increased, you will receive 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.)  I hope you're clear on that.