Poor and Rist on Tooke

Poor and Rist on Tooke

Thomas Allen

    This article presents two views, Poor's and Rist's, on Thomas Tooke. Thomas Tooke (1774-1858) was an English merchant, economist, and historian of prices. He wrote History of Prices and of the State of the Circulation during the Years 1793–1856 (1838-1857) in six volumes and Enquiry into the Currency Principle (1844). Unlike most of the people whom Poor reviews, Tooke is not an ardent supporter of the Quantity Theory of Money. He considers the quantity of money, i.e.,  circulating purchasing media, to be mostly irrelevant.

Poor on Tooke
    In 1877, Henry Varnum Poor (1812-1905) wrote Money and Its Laws: Embracing a History of Monetary Theories, and a History of the Currency of the United States. He was a financial analyst and founder of a company that evolved into Standard & Poor’s. Poor was a proponent of the real bills doctrine and the classical gold-coin standard and, thus, the quality theory of money. He gave little credence to the quantity theory of money — especially if credit money, such as bank notes, were convertible on demand in species. Also, he contended that the value of money depends on and is derived from the value of the material of which it is made and with paper money, its representation of such value.
    In the latter part of his book, he discusses leading monetary theorists from Aristotle (350 B.C.) to David A. Wells (1875). Most of the economists whom he discussed were proponents of the quantity theory of money. My comments are in brackets. Referenced page numbers enclosed in parentheses are to Poor’s book.
    Tooke sought to prove “that a rise in prices always precedes, and causes an increase of money, in whatever form” (p. 313). Poor states that Tooke’s claim is like saying “that a rise of water in rivers always precedes and is the cause of rainfall.” [In other words, Poor asserts, to the extent that changes in the money supply relate to prices, that a rise in general prices follows an increase in money supply while Tooke asserts that it precedes an increase money supply. Both include all forms of credit money as part of the money supply.]
    Tooke believes that no variation in the quantity of the circulating medium affects prices. He believes “that the amount of the circulating medium, is the effect, and not the cause, of variations in prices” (p. 314). Because people have more money to spend does not mean that they will spend it. He maintains that as long as paper money is convertible to gold on demand, increasing the quantity of paper money will not affect the prices of commodities. Thus, convertible paper money cannot affect prices under any condition (pp. 314-316). [Tooke appears not to distinguish between paper money issued to discount real bills and paper money issued to discount fictitious bills like accommodation bills or financial bills like government bills. The former has little or no affect on prices whereas the latter often cause prices to rise, i.e., causes the currency to depreciate.]
    Following Adam Smith, Tooke believes that paper money is merely a substitute for gold coin. For each unit of paper money in circulation, a unit of gold coin is removed from circulation. Any excess paper money would be redeemed in gold coin. Thus, paper money is a substitute for coin and is not in addition to gold coin. [Under the real bills doctrine, paper money is not a substitute for gold coin, but is in addition to gold coin. However, if excessive paper money is issued, the excess is quickly redeemed for coin. As shown below, Rist disagrees with Poor on this interpretation of Tooke.]
    According to Tooke’s argument, convertible paper money cannot affect prices. Moreover, “[n]either could a government inconvertible paper currency affect prices, so long as it was not in excess of the wants of those using it in their exchanges” (p. 216). Also, Tooke maintains that “[v]alue was no necessary attribute of [paper money or gold coin]” (p. 316).
    Poor objects to Tooke’s claim that money, i.e., gold coin, has no value per se. Poor states, “Whatever is to serve as money, in the last resort, must always possess uniformity of value, not only for months and years, but for ages” (p. 316). [Whatever serves as money needs to be able to transport value not only through space but also through time. Before a material becomes money, it must be able to transport value through time and space or represent something that can transport value through time and space. To do that, it has to have value in itself.]
    According to Tooke, prices “depend upon cost, and the ability, not the will, of the public to consume” (p. 317). Poor remarks, “The public are able to consume a thousand things they will not” (p. 317). [As value is subjective and price reflects value, a person must have the will to consume before he consumes. Also, once he decides to consume, he must have the ability to consume. Poor is much closer to the truth on this issue than Tooke.]
    According to Poor, Tooke fails to understand “that it is possible for prices to fall enormously, even when it [money] is greatly inflated” (p. 317). Poor continues:

The effect of an inflation is to advance prices, from an increase of the instruments of expenditure, and from its tendency to excite speculation, which may be carried to such a pitch as to seize and attempt to hold all the food, for example, upon the market. In such case, it not unfrequently happens that the public can be supplied from other sources, or that, from the excessive rates charged by holders, consumption will be so much reduced that those who attempted to control prices find themselves unable to carry their purchases, and are forced to throw them upon the market; in consequence of which, prices may for a time be far below what they would have been under a metallic currency (p. 317).

    [In the United States, the decades following Lincoln’s war to prevent Southern independence, general prices trended downward although the money supply was inflated. First, it was inflated with U.S. notes; then it was inflated with silver dollars. Although this inflation did not result in a rise in general prices, it did distort the economy and lead to the depression of the 1870s and the depression of the 1890s. Moreover, technological advances were driving prices down faster than the inflation could push them up.]
    Tooke’s notion that prices are “wholly independent of the quantity of the circulating medium” (p. 317) comes from observations of events occurring when the Bank of England had suspended redemption of its notes. About Tooke’s notion, Poor writes in his concluding remarks on Tooke:

He might as well have attempted to prove that indulgence in liquor had no tendency to elevate one, from the exhaustion or syncope resulting from its excessive use. So, under an inflation of the currency, prices may fall in much greater ratio than the inflation, from the decreased cost of production, or from the falling off, from any cause, of the demand. None of these causes or influences were properly considered by him. He sought to erect a science from an observation of certain phenomena, without sufficient reference to their cause or law. It is as useless, however, to attempt to reason with him as it was with the philosopher in the tale of “Rasselas.” It was, probably, from an examination or an attempted examination of his works, that Mr. Gladstone declared the study of money to be a fruitful cause of insanity (p. 317).

    [In recent decades, the money supply in the United States, Japan, Europe, and other countries have been highly inflated. Yet none of the developed countries have experienced a rise in general prices of the magnitude that one would expect if the Quantity Theory of Money were correct.
    Whereas Poor is more focused on the real bills doctrine than on the Law of Reflux, Tooke focuses on the Law of Reflux and mostly ignores the real bills doctrine. {The Law of Reflux claims that banks cannot overissue bank credit money, bank notes and checkbook money, because any over issued currency quickly returns to the issuing bank for redemption. The Law of Reflux pertains to the liability side of a bank’s balance sheet while the real bills doctrine pertains to its asset side. Although the real bills doctrine depends on the Law of Reflux, the Law of Reflux does not depend on the real bills doctrine. That is, the Law of Reflux can operate when financial papers like government bills and commercial papers other than real bills of exchanges like accommodation bills are discounted. The Law of Reflux functions under the gold standard where excess credit money can be exchanged for gold, which extinguishes the credit money. However, it does not function under today’s fiat money standard where one form of credit money can only be exchanged for another form of credit money.} As shown below, Rist is more in agreement with Tooke than is Poor. However, Rist places more importance on the real bills doctrine than does Tooke.]

Rist on Tooke
    In 1938, Charles Rist  (1874-1955) wrote History of Monetary and Credit Theory from John Law to the Present Day (translated by Jane Degras, New York: Augustus M. Kelly Publishers: 1966) in which he reviews several economists including Tooke. Rist was a French economist, who was of the Banking School as opposed to the Currency School. [Under the gold standard, banking philosophies generally fell into either the banking school or the currency school. The banking school “holds that as long as a bank maintains the convertibility of its bank notes into specie (gold), for which it should keep ‘adequate’ reserves, it is impossible for it to over issue its bank notes against sound commercial paper with fixed short term (90 days or less) maturities.”[1] Its position is also called the “Banking Principle” or “Principle of Fullerton.” To the banking school, bank notes are merely circulating credit instruments. Although they can be exchanged for gold, they are not intended to be warehouse receipts for gold. The currency school “maintains that all . . . changes in the nation’s quantity of money should correspond precisely with changes in the nation’s holdings of monetary metal. . . .”[2] Its position is also called the “currency doctrine.” To the currency school, bank notes are merely warehouse receipts and, therefore, should be backed 100 percent by specie. To the banking school, bank notes are claims for new merchandise offered for sale in the markets. Under the currency school, bank notes are claims for gold. Under the currency school philosophy, an elastic currency does not exist; under the banking school, it does.] Rist’s opinion of Tooke differs somewhat from Poor’s. My comments are in brackets. Referenced page numbers enclosed in parentheses are to Rist’s book.
    As an opponent of devaluation, Tooke supports making bank notes convertible to gold at the same rate that existed before suspension during the Napoleonic wars. Devaluation hurts the working class (pp. 184-185). [However, devaluation benefits debtors, most of whom are speculators, governments, and people living beyond their means, as it allows them to pay their debts with less gold.]
    Tooke does not believe that the fall of prices and the concomitant economic sluggishness resulted from returning to the gold standard at prewar parity (p. 185). About the fall in prices, Rist notes:

In all probability, the output of the gold and silver mines being what it was, the increase in the volume of goods produced would in itself have been enough, once the war was over, to bring prices down. . . . [T]he very high level to which prices in England and on the continent had been raised by the war and by paper money could not be maintained once the increase in the quantity of paper issued, which had been continuous up till then, was interrupted by the return to gold. The normal lowering of prices which would in any case have followed from a greater output of goods while the volume of currency remained the same, was intensified in England by the rise in the gold value of the pound sterling. . . . [T]he scarcity of gold was made responsible for what was in fact the obvious result of war and inflation (pp. 185-186).

    Tooke distinguishes between paper money and bank notes. Paper money is money in the proper sense of the word. Bank notes are instruments of bank credit. Moreover, bank notes should not be treated differently from checks and bills of exchange. All three are credit instruments and have the same character. Also, in the full meaning of the word, none are money (p. 187).
    Whereas Ricardo considers only the supply of paper money to explain the rise in prices when bank notes are not convertible to gold, Tooke considers both the supply of and the demand for currency (p. 187). Demand depends on the conditions of the markets and fluctuates accordingly (pp. 188-189). Fluctuation in foreign demand for the British pound has an immediate effect on domestic prices. Thus, the rise in prices is affected by “expansion of the home demand for goods due to successive increases in the amount of paper money put into circulation, and a rise in the price of goods imported due to the depreciation of the paper money on the foreign exchange market” (p. 189).
    Rist compares Tooke with Ricardo on the rise in prices under a paper money standard: “Tooke contends that the rise in English prices during the Napoleonic wars was to a large extent the effect of the depreciation of sterling on the exchange, whereas Ricardo regards that depreciation merely as a repercussion of the preceding rise in the prices of English goods” (p. 190).
    Tooke contends “that in fact that part of the rise in English prices above the rise due to exchange depreciation was the result of an excessive issue of paper money” (p. 190). However, he also believes that exchange depreciation is closely connected with the increased quantity of paper money (p. 191).
    Ricardo argues that “the only way to bring the pound back to par was to reduce the note circulation” (p. 193). However, the pound was brought back to parity with gold not by reducing the quantity of notes in circulation, but through improvements on foreign exchanges, which Tooke noted (pp. 193-194).
    Whereas Ricardo treats convertible bank notes as equivalent to paper money, Tooke notices a great deal of difference between the two. Also, Ricardo distinguishes bank notes from other credit instruments (checkable deposits and bills of exchange) while Tooke considers them the same (p. 196).
    To Tooke forced paper currency, such as the pound during the Napoleonic wars and the U.S. note until 1879, is money. Legal-tender paper money “is issued to meet the requirements and cover the expenditure of the State, it represents a final income (that is to say, not subject to repayment) for those individuals who come into possession of it, increasing their purchasing power, thus increasing their demand for goods and making prices rise. In brief, paper money acts on prices in the same way as metallic money does” (p. 197). [Examples are the U.S. note between 1862 and 1879 and the federal reserve note after 1933 domestically and after 1971 on foreign exchanges.]
    On the other hand, convertible bank notes “are credit instruments. They are only issued as advances. Far from being incorporated in the currency, they are bound to return to the bank which has issued them when the advances are repaid” (p. 197).
    Bank notes can “affect prices only provisionally, for in order to repay the advances a sum exactly equal to those advances has to be taken from the final income. An advance from the bank enables the borrower to spend to-day an income which he will in fact receive only later, but he will not spend that income since it will be used to repay the advance” (p. 198). Thus, “[b]ank-notes are claims on a defined quantity of gold. Paper money is a means of payment whose purchasing power over goods (or gold) is fixed on the market according to variations in supply and demand. It is a legal claim, and it is only the law which gives it the power to settle debts” (p. 199). [Legal-tender paper money settles a debt by passing that debt to another. However, being an obligation of the issuer, it can never extinguish debt. On the other hand, gold coin is no one’s obligation and can, therefore, extinguish debt.]
    Not only does convertibility limit the quantity of notes issued [and checkbook money], it also “gives notes legal and economic qualities which paper money does not possess, and which are independent of quantity” (p. 200).
    Unlike Ricardo, Tooke does not consider bank notes identical to metallic money, gold or silver coin. To Tooke, money is more than a medium of exchange or a common denomination of value; “it is the ‘subject of contracts for future payment,’ and ‘it is in this latter capacity that the fixity of a standard is most essential’” (pp. 200-201). “[T]the value of the convertible bank-note is derived precisely from its connexion with the metallic standard” (p. 201). Although a paper money standard is a standard, it is, however, a poor standard because it has nothing to guarantee stability (p. 201).
    Rist summarizes Tooke’s conclusion on the identity of bank notes and checkable deposits:

        1.  Since all credit instruments are essentially the same, it is absurd to put bank-notes in a class apart. If credit has been granted in excessive quantities, the situation cannot be remedied merely by limiting the number of bank-notes issued, as the Currency School argued, it is necessary to deal with credit as a whole.
        2.  The banks’ creation of credit, in all its forms, and particularly in the form of bank-notes, takes place only because the public demand credit. Banks cannot create notes at will, any more than they can create deposits. They are only created if the public demand them. That is why it is impossible to get out of a crisis by creating paper. Whereas paper money is created by the government at will in order to meet expenditure which cannot be covered by its ordinary revenue, credit instruments are created only in response to public demand. The State creates paper money at will but cannot withdraw it from circulation, the banks do not create credit instruments at will, but can withdraw them by ceasing to renew credits (p 213.).

    According to Tooke, financial crises result from the abuse of credit (p. 214). Preventing the abuse of credit is necessary to prevent financial crises. “[T]he abuse of credit is the result of the ‘spirit of speculation’” (p. 214). Moreover, “[c]redit does not give rise to speculation, but follows it; credit is always the response to a demand, and this demand is itself the result of a given economic situation” (p. 214). [The beginning of the twenty-first century bears witness to speculation abusing credit — the housing bubble for example.]
    Tooke identifies two primary price movements: (1) speculative price movements and (2) permanent or fundamental price movements (p. 215). Speculative price movements “originate not in an expansion of credit, but in a favourable price situation in certain commodity markets” (p. 215). As a result, credit expands in response to the demand for speculation. Thus, the boom begins.
    According to Tooke, “1, . . . speculation originates in the situation of the commercial or industrial market, and not in an increase in the note circulation; 2, that the steady expansion of credit is an effect, and not a cause of this speculation, for there is no expansion of credit without the demand for it; 3, that the contraction in the currency which follows a crisis is the consequence and not the cause of the slump” (p. 215).
    An economic slump (panic, depression, or recession) occurs when the income (wages, interest, dividends, profits, etc.) of consumers fails to keep up with rising prices of commodities. As a result, commodity prices must drop, which leads to an economic crisis. Prices decline to the level of the income of consumers, i.e., consumers can again afford to buy (pp. 216-217). [The world has been witnessing such an event with the collapse of the prices of real estate and commodities beginning in 2008.] Thus, according to Tooke, the aggregate of money income devoted to consumption limits the aggregate of money prices. [The Social Credits advocates hold a similar view. They believe that economic slumps result from the people lacking the money to buy the goods that have been produced. Their solution is to have the government or its central bank to print enough money, either physically or electronically, for the people to buy the excess goods and give it directly to the people.]
    Tooke does not deny that the influx of gold or the creation of paper money affects prices. However, other things also affect prices (pp. 219-220). For example, speculation can lead to an increase in the velocity of money, which can affect prices (p. 220). Also, affecting prices are the balance of trade, the capital markets, and the state of credit (p. 222).
    Rist summaries Tooke’s observation on interest:

    1.    A low discount rate cannot by itself stimulate the price level;
    2.    A low discount rate can affect prices on the stock exchange without having any effect on commodity markets.   

[Tooke’s observation is seen in lowering of interest rate following the 2008 crisis. Stock markets have trended upward while commodity prices have trended downward.]
    For a fall in interest to stimulate the economy, it has to “‘coincide with a tendency from other causes, to a speculative rise of prices, and with the opening of new fields for enterprise’” (p. 223). Otherwise, any action undertaking by the central bank to stimulate the circulation of money will not affect prices (p. 223). Nevertheless, “a low rate of interest may foster and support a rise which began from other causes. ‘If there exist grounds for speculation in goods, a coincident facility of credit may, but will not necessarily, extend the range of it.’ . . .[A] low rate of interest is at the bottom of all cases of ‘overtrading’ and ‘overbanking’” (p. 223). (“Overbanking” means “advances, either on insufficient or inconvertible securities, or in too large a proportion to the liabilities” [p. 214, fn].)
    “Tooke maintained that the raising of the discount rate, coupled with a strong cash position, would enable the Bank of England to mitigate the effects of a crisis and to prevent it from developing. Mere limitation of notes will only make the crisis more acute, for it is the function of notes to provide additional temporary currency in times of crisis, which will make it possible to avoid bankruptcies and collapses” (p. 228).
    [Poor is a proponent of elasticity in the credit system. There seems to be less difference between Poor and Tooke than Poor claims. Tooke’s explanations are closer to the truth than Poor credits him.
    As shown above, Poor’s view of Tooke’s works differs significantly from Rist’s. Poor’s views Tooke unfavorably while Rist views him favorably.]

End Notes

1. Percy L. Greaves, Jr.,Understanding the Dollar Crisis (Belmont, Massachusetts: Western Islands, 1973), p. 8.

2. Ibid., p. 28.

Copyright © 2016 by Thomas Coley Allen. 

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