Poor on Ricardo

Poor on Ricardo

Thomas Allen

    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. We will look at his discussion on David Ricardo. My comments are in brackets. Referenced page numbers enclosed in parentheses are to Poor’s book.
    David Ricardo (1772-1823) was a British economist. Included among his major works are The High Price of Bullion: A Proof of the Depression of Bank Notes (1809), Proposals for Economical and Secure Currency (1816), and Principles of Economy and Taxation (1817). When Parliament returned Great Britain to the gold standard after the Napoleonic Wars, it relied on his works. It also relied on his works when developing banking and monetary laws in the decades that followed.
    Ricardo argued that a currency without a specific standard was a chimera. He favored a monometallic silver standard. Also, he preferred the bullion standard to the coin standard. That is, banks redeemed their bank notes in standard bullion bars instead of coin. Thus, people would be forced to make small payments with paper money. Ricardo was a proponent of the quantity theory of money and believed that the value of money can be properly maintained by regulating its quantity.
    Ricardo believed “that value was not a necessary attribute of money. . . . [M]oney became such by virtue of the insignia of government; that its value was in ratio to its quantity, — that the most worthless pieces of paper, or the most debased coin, might be raised to the highest pitch of value simply by limiting their amount” (p. 221). That is, the government can declare anything to be the medium of exchange, give it a specific value, and maintain that value by properly regulating its quantity. [Menger proves the falsity of this notion. Gold and silver were used as purchasing media before any government insignia was stamped on it. Gold and silver have been used throughout history, and even today, as purchasing media without a government insignia stamped on it. When a government debased its coins, history shows that the value of the coin falls until it reaches the value of its gold or silver content. Therefore, the metal content, and not governmental decree, fixes the value of the coin.]
    Poor quotes from Ricardo’s Principle of Political Economy and Taxation:

        The quantity of money that can be employed in any country must depend upon its value. . . . A circulation can never be so abundant as to overflow; for, by diminishing its value, you will in the same proportion increase its quantity, and, by increasing its value, diminish its quantity. . . .
        While the State coins money, and charges no seigniorage, money will be of the same value as any other piece of the same metal of equal weight and fineness; but, if the State charges a seigniorage for coinage, the coined piece of money will generally exceed the value of the uncoined piece of metal by the whole seigniorage charged, because it will require a greater quantity of labor, or, which is the same thing, the value of the produce of a greater quantity of labor, to procure it.
        While the State alone coins, there can be no limit to this charge of seigniorage; 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 seigniorage. 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 the 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. . . .
        [I]t 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 its 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. . . .

    Poor argues against Ricardo’s assertion that the government can charge whatever seigniorage that it wants to. For example, if the government charged 9 ounces of gold to coin 1 ounce, Ricardo believes that people will still bring gold to be coined because they need coins, or money, in commerce. Poor argues that people will cease bringing their gold to be coined. Instead, the metal will be privately assayed and will pass by weight. “A person possessing bullion might wish to sell it for use in the arts, or for the purchase of foreign commodities; for which it would be received at its full value” (p. 223). Noting that a lack of coinage may cause inconveniences, he adds that “great commercial communities existed long before coinage was invented” (p. 223). Furthermore, “[t]he inconvenience resulting from the want of coinage, relative to the magnitude of the transactions taking place, would be much less now than before the invention or use of symbolic money; for the reserves necessary for the conversion of such currency may be in the form of bullion, nearly as well as in that of coin. They are now largely held in bullion” (p. 223). Disagreeing with Ricardo about the government’s insignia giving money value, Poor writes, “[G]overnment can no more create values by its insignia without an obligation, than the Alchemist could create gold out of curious and fanciful combinations of the baser metals” (p. 223). [Moreover, history shows that under the gold standard, bank notes without the government’s insignia circulated at par with gold coins as long as they were convertible in gold coin on demand.]
    Ricardo acknowledges that paper money has no intrinsic value. However, according to Ricardo, its value can be maintained by properly controlling its quantity. Poor argues that governments cannot be trusted with the issuance of paper money. As history shows, they will always abuse that power. Therefore, Poor argues that paper money should always be issued by private parties or bankers (p. 224). As long as bankers have to convert their paper money to species on demand, their issue of paper money will be regulated. Any excess issue of paper money, i.e., in excess of the real demand of the domestic markets, people will convert to gold for use in foreign markets. [A situation like this occurred in the United States in the early 1890s. In response to political pressures, the U.S. government had left a large quantity of U.S. notes, greenbacks, in circulation following Lincoln’s war to suppress Southern independence. Gold backed less than half these notes. Also, to satisfy the silver interest and the inflationists, i.e., the “easy money” folks, Congress enacted the Sherman Act. This Act required the U.S. government to buy large quantities of silver with legal tender Treasury notes of 1890. These notes were redeemable in gold or silver at the discretion of the Secretary of the Treasury. He chose to redeem them in gold. People began redeeming U.S. notes and Treasury notes of 1890 for gold, which they exported. The Secretary of the Treasury could retire Treasury notes when they were redeemed. However, the law required him to reissue U.S. notes that were redeemed. The reissued U.S. notes were redeemed for gold, thereby creating a vicious cycle draining the treasury of its gold. The crisis ended with the repeal of the silver purchase part of the Sherman Act and the sale of bonds for gold to European bankers to replenish the treasury’s gold stock. Nevertheless, this crisis helped to precipitate the depression of the 1890s.]
    “Convertibility of paper at all times into coin . . . [is] the only certain test of the propriety of its issues” (p. 224). Nevertheless, much more than convertibility is needed to ensure the propriety of issue. Poor writes that “convertibility of issue may have no relation whatever to propriety of issue. A person may be able to pay a bill he has uttered; but by doing so be may strip himself of every dollar he possesses. The question, therefore, far in advance of convertibility, and which is the only one important to be considered, is the manner in, or cost at which, convertibility is sought to be secured” (p. 224). The solution to the propriety of issue is the real bills doctrine: “Where bills are discounted, obligations are mutually created; and, so long as such bills represent merchandise entering into consumption, their payment is certain to return to the Bank its obligations, without the withdrawal of any considerable portion of its means. So long as such rule is followed, so long as a currency is issued only in the discount of bills representing merchandise, there can be no inflation; nor is there any danger that the Bank issuing it will be called upon for any considerable amount of coin” (p. 225).
    When a bank ceases discounting bills and uses its bank notes to buy government securities, the result is often bankruptcy and financial crisis. The only way to avoid this outcome is some provision to retire bank notes without any act of the issuer. With financial papers like government securities, no such mechanism exists. Poor states, “The only proper mode of issuing a currency is that which shall provide for its retirement automatically, by the operation of the laws of trade, — by the debtors of the Bank, instead of the Bank itself” (p. 225).
    About government notes, Poor declares, “A government currency, which may at first have a value in coin nearly equal to its nominal value, may become wholly valueless; but its price at any given time is to be accepted as its value. In other words, money will no more be taken but at its value than any other kind of merchandise or property” (p. 225). Yet, Ricardo “held value to be no attribute of money; but that it was an instrument of commerce precisely in the same manner that scales or balances are instruments of commerce, the value of both depending upon their quantity” (p. 226). Poor responds, “If Ricardo be correct, then provided there be but one shilling in the world, and that a debased one, its value might be equal to all the money in it at the present time. If he be correct, then the debasement of a currency, provided its nominal amount be not increased, is the wisest possible policy both for princes and people” (p. 226). As shown, Poor strongly disagrees with Ricardo.
    Ricardo preferred the government to issue the country’s paper money if it would not abuse this power. However, governments are more likely to abuse this power than a banker. Redemption of notes to gold would limit the ability of banks to expand the money supply. Governments are more likely to suspend the redemption of government notes than they are of bank notes. Nevertheless, he saw no problem with an independent government commission issuing the country’s currency as convertibility would not be suspended, so he believed (pp. 226-227) [Ricardo’s logic is flawed. First, no government body is truly independent. Like all government agencies, politics control it. The legislature can withdraw independence as quickly as it grants it. Furthermore, the French made similar arguments before they introduced the assignat, and that turned out to be a disaster.]
    Ricardo praised paper money and preferred not to see gold and silver coins circulated. Circulating coins were a waste of resources and much more expensive than paper. He restricted the conversion of paper to gold to large bars of gold. Redemption should be in bullion and not in coin (p. 230).
    Poor writes, “Ricardo would maintain the value of paper money by having it represent gold, but would prevent a resort to gold by throwing inconveniences in the way of its use. He assumed, of course, that only a small amount of gold would be required to meet occasional calls; for nothing would be gained, provided the amount of gold to be held in reserve equaled the amount of notes issued. But, if it were optional with the public whether or not they would receive the notes of the Bank, they would not receive them, if they could get nothing for them but bullion” (pp. 281-282). Thus, Ricardo based his monetary argument on the assumption that the public wanted currency, a medium of exchange, instead of capital. Also, he believed that if people were free to choose between coin and paper, they would choose the more expensive (to manufacture) coin over paper. Therefore, they should be denied the choice of coin. According to Ricardo, “a perfect currency would be realized; costing nothing in itself, yet always at the standard of coin” (p. 232)!
    Poor concludes his discussion of Ricardo with the following critique:

Ricardo possessed in an eminent degree the gift of money-making, and undoubtedly ranked high as a man of affairs. He, however, no sooner took up his pen than he seemed instantly discharged of all reasoning faculty. In the same sentence, he could affirm propositions exactly opposed the one to the other, without the least perception of their incongruity. Never was there a more striking instance of confident assumption on the one hand, and fatuity on the other. To add to the strangeness of the picture, he occupies the front rank among the Economists as an original and profound thinker, — one who exploded many of the radical errors, who placed on firm foundations some of the most important truths of Political Economy, and to whom it is more indebted than to any writer but Adam Smith. . . . From his example, it would seem that no mind is capable of discussing the subject of money, and of preserving, at the same time, its balance and integrity. (pp. 232-233).

    Poor adds that “in the matter of money, the most groundless and absurd theories are often found intimately associated with the greatest practical talent for its accumulation and administration. Life nowhere else presents an example of such complete disassociation between the practical and speculative sides of our nature” (p. 233).

Copyright © 2016 by Thomas Coley Allen.

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