Thursday, 6 October 2016

Base money is not a liability of the state or the central bank.

Central bank (CB) created money, or “base money” as it is often called appears as a liability on CB balance sheets. But is that money really a liability?

Well it certainly isn't a liability just because it says so on Bank of England £10 notes: those notes say that the BoE “promises to pay the bearer on demand the sum of £10” – presumably in gold. Well you’ll get sweet nothing, and certainly no gold, if you turn up at the BoE demanding “payment” of £10 in respect of your £10 note. So to that extent, base money most certainly is not a liability of the BoE.

Against that, the argument has been made that base money is a liability of the CB in that when government demands $X off you by way of tax, you can pay by using some of that base money. And that, so the argument goes, is a case of one liability cancelling out an equal and opposite one.

Well the first problem there is that tax is not a debt owed to a CB: as just intimated, it’s owed go GOVERNMENT. But let’s get round that one by assuming CBs are an arm of the state, thus when settling a tax debt of $X, a liability of the state (i.e. base money) is being used to cancel out an equal and opposite liability.

Now there’s something very fishy about that argument, namely that the alleged “liability” characteristic of base money does not come into being UNTIL the tax liability comes into being. To illustrate, if you have a stock of base money and you owe no tax and never will do (perhaps because you’re on a relatively low income), then in what sense is your stock of base money a liability of the state? Absolutely none whatever!

Put another way, if entity Y has a $Z liability (in the normal sense of the word liability), it very definitely owes $Z right now or at some point in the future: it’s not a case of the liability POSSIBLY arising at some point in the future. If I “might” or “might possibly” owe someone $Z at some point in the future, that just isn't a liability. I might get caught exceeding the speed limit in my car next week, and then owe the authorities some money by way of a fine. But right now, I just don’t have a “speed limit violation” liability.

Let’s illustrate that point another way. Suppose I give you a bag of gold coins as a Christmas present. Are those gold coins any sort of liability of mine? Of course not!

Now let’s suppose that for some reason in the future you become indebted to me. You can if you so choose, use some of those gold coins to pay me. And if I accept them, then that wipes out your debt to me. Or you can choose to pay in some other way.

But the point is those gold coins are in no way any sort of liability of mine.

Exactly the same applies to base money: that money is just one way of settling a tax liability, but it’s not the only way. Certainly in the UK, the tax authorities will accept other methods of payment: in fact they’ll accept almost anything – jewellery, land, a house, and indeed, gold coins.

And the fact that the tax authorities subsequently sell the latter jewellery etc for base money is completely irrelevant: the important point is that the tax liability is extinguished at the point where the jewellery etc is handed over to the tax authorities.

If those working for the tax authorities subsequently misappropriate the jewellery and wear it in the office every day, that’s nothing to do with the original owner of the jewellery.

Conclusion: base money is not a liability of the state.

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