David R. Henderson  

The Relative Unimportance of Seigniorage

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I start every 50-minute segment of my class with a 5-minute discussion in which the students can ask about or talk about anything as long as it is economics. I've been doing it since January 1993 and it has been a big hit.

Sometimes I get caught off guard because I'm asked about something that I have general knowledge about but don't know the exact specifics. So I was pleased that even my thinking about numbers was in the ball park.

The student who asked the question had sent it to me the night before and it was about his worry that the recent partial government shutdown and wrangling over the debt would hurt the United States in its competition with other countries. I emailed back that countries don't compete economically and asked him if he wanted me to talk about that in the next morning's discussion. He said he did and so I showed up the next morning after a quick skimming of some great essays by Paul Krugman in his book, Pop Internationalism.

I made the case and the students seemed to get it.

Of course, though, one thing led to another and the student's follow-up was about the danger of the U.S. $ no longer being the world's currency. I pointed out that it was a matter of degree and that the major benefit to the U.S. government from having the dollar widely used is that the government can create $1 bills for about 6 cents and $100 bills for about 25 cents and, in return for people in other countries holding on to those bills, we got real goods worth respectively, at least $1 and $100. I also said that my impression is that the annual gain to the U.S. government from people holding these bills is probably no more than $30 billion, a large number, but less than 0.2 percent of U.S. GDP.

So it was heartening to check Paul Krugman's blog today and find him making the same point and even presenting very similar numbers. Here are his relevant two sentences:

What is true is that the large holdings of US currency outside the United States -- largely in the form of $100 bills, held for obvious reasons -- represent, in effect, a roughly $500 billion zero-interest loan to America. That's nice, but even in normal times it's only worth around $20 billion a year, or roughly 0.15 percent of GDP.

After class, the student stayed around to talk and I pointed out that when the Euro came into existence, I thought it had a good chance of, at least on the margin, replacing the dollar in people's holdings abroad for one main reason: the highest-denomination Euro was 500 Euros. But, I noted, once the EU got rid of the 500 Euro and made the highest denomination 100 Euro, there went that chance to compete. On this I was wrong. Despite some pressure to get rid of it, the 500 Euro still exists.

COMMENTS (17 to date)

What about the competitive advantage US businesses get from not having to arrange currency swaps to do business internationally? Since most of their business is denominated in dollars, they don't have to spend resources buying Euros to buy things in the EU or selling Yen after selling things in Japan.

I've seen estimates that that adds as much as 3% to profits at firms with a lot of overseas suppliers or customers.

Mike Sproul writes:

If you think the US gets a free lunch when dollar bills leave the country, ask yourself if the same thing happens when shares of GM stock leave the country. It's obvious that there is no free lunch with GM stock, and that the price of GM shares is unaffected by which side of the border the shares happen to be on.

Now think things through with US dollars. As they leave the country, there is no change in US net worth. Sure, we got the goods, but the foreigners got a dollar bill, which is the liability of the Fed.

David R. Henderson writes:

@Mike Sproul,
You've basically said that you think there's no such thing as seigniorage.
@Steve Fritzinger,
Good point. 3% sounds high but I'll think about it.

Justin Rietz writes:

"Sure, we got the goods, but the foreigners got a dollar bill, which is the liability of the Fed."

The beauty of this dollar bill "liability" is that the Fed only has to redeem a call on the liability with another dollar bill.

Bob Murphy writes:


I'm looking at this very simply, and can't see why that's not the way to do it.

If I'm reading Krugman correctly, he's saying there foreigners are holding $500 billion in actual U.S. currency as part of their cash balances. They shipped us goods and assets with a market value of $500 billion, in exchange for green pieces of paper.

So doesn't that mean Americans gained about $500 billion (less printing costs)? Doesn't that work out to about $1,500 for every man, woman, and child?

Is it that you disagree with the number, or that you think $1,500 per person is relatively unimportant?

Last thing: I'm not convinced that the actual paper currency held abroad is the only thing to include. What if someone in Spain holds $1,000 in a U.S. checking account, that serves the same function for him that ten $100 bills under his mattress would serve? Isn't that basically the same economically? So shouldn't the number be a lot more than $500 billion, which I think just refers to green pieces of paper?

Tom Nagle writes:

It's not just bills and checking accounts that reward the US government for responsibly managing the world's reserve currency. Dollar denominated bonds sell for a higher price (a lower interest rate)because the US Government is the only institution in the world that can issue them with what everyone believed was certainty that they would always be redeemed. That certainty was based on the recognition that only the US government can print more money if necessary to do the redemption, so it is unimaginable that it would not do so. The GOP has now proven itself to be as economically irresponsible as Democrats by trying its best to convince the world that US politicians might actually be stupid enough to default on a debt that can be so cheaply redeemed.

Mike Sproul writes:


"You've basically said that you think there's no such thing as seigniorage. "

Correct, because there isn't. If there were, then competition from rival moneys would reduce the seignorage to zero.

Suppose I'm a landlord, and I own land worth 1000 oz of silver. One day I go to the grocery store and I buy a loaf of bread by handing the grocer a piece of paper that says "Good for 1 oz rent on my property". That note could circulate for a long time as money within my town, but it is my liability, and it is backed by my assets. I did not earn seignorage on that note, and governments do not earn seignorage on the notes that they issue.

David R. Henderson writes:

@Bob Murphy,
Quick answer: $500 billion is a stock, not an annual amount. $30 billion is a flow, an annual amount.

Enial Cattesi writes:

@Mike Sproul:
So what you are saying is that using that piece of paper I could go to the guy who rented your land and ask for 1oz? Why would I want to do that? And why should anyone accept that paper from me as money?

Bob Murphy writes:


Right. Suppose Obama said, "To fix ACA we're going to levy a one-time $1,500 head tax on every human in America."

Would you say it was relatively unimportant because it works out to $60/year forever?

Floccina writes:

So Mike Sproul I print baseball cards and some people trade them like money. Can I turn a profit?

Mike Sproul writes:

People would accept my 1 oz IOU for the same reason that anyone accepts any IOU: It's backed by 1 oz worth of my assets. If I offered those IOU's for only .99 oz, there would be an endless line of people wanting my 1 oz. IOU's.

You'd earn a profit until rival moneys cam along and competed your profit away, which might happen instantly.

Mike Sproul writes:

"The beauty of this dollar bill "liability" is that the Fed only has to redeem a call on the liability with another dollar bill. "

Before 1933, there were at least 3 channels through which a dollar bill could reflux to the fed:
1. the gold channel
2. the bond channel
3. the loan repayment channel

Since 1933, channel 1 has been closed, but the other two are still open.

David R. Henderson writes:

@Bob Murphy,
Right. Suppose Obama said, "To fix ACA we're going to levy a one-time $1,500 head tax on every human in America."

Would you say it was relatively unimportant because it works out to $60/year forever?

If I believed him, then yes.

Greg Jaxon writes:

I believe talk of FRNs in circulation causing a flow of funds to the Treasury is mistaken. In fact maintaining the stock incurs an ongoing cost, which I think the Treasury bears. Seigniorage does arise elsewhere in the FR system, however, and the question of whether it is statistically significant needs an exact answer.

According to the Act, the Federal Reserve Agent (that'd be Ben or Janet) must post collateral of enumerated, highly liquid sorts, before the Secretary can authorize the Bureau of Printing and Engraving to issue him or her new FRNs of that face value. Initially Treasury debt was not in the enumerated list! Though the Treasury does not get use of the collateral (and neither should the Fed), a stiff seigniorage is charged by Treasury to the Fed for this privilege: namely all their profits after their exorbitant expenses (which include paying off generations of economics researchers to help maintain this ...er ...machinery). That is a bit more significant that you or Krugman suggest.

If you only consider the opportunity cost loss by idling the collateral for outstanding FRNs as the seigniorage, then it's as insignificant as you say. I am not clear on whether the Act requires the Fed to also post collateral for every dollar they invent as a book entry. I think that may have been the original intent, but I hardly hear anything about that tight a constraint on Fed new money; so I don't think this is done. Does the Law require it? If not, and these are fractionally reserved, then the "profits" could hypothetically vanish in a run on the Fed's deposit book.

paul writes:

here's a paper on seigniorage from the st louis fed


Greg Jaxon writes:

A Reuters article earlier this year includes a few numbers consistent with the wonderful paper paul mentioned. It seems to regard return of portfolio profits as one all-inclusive fee for the whole franchise, which also authorizes the Fed to regulate the banking industry, and to police their own premises. Seigniorage is thus just a portion of the whole bill, and is then further offset within the Treasury by its maintenance & production costs for the actual stock of paper notes & coins.

Direct returns from operating this monopoly system redound to both the Treasury and to the Fed and to all its contractors, grantees, employees, etc. It is worth measuring as an indicator of the force acting to preserve the monopoly, including outright propaganda efforts and less overt sponsorship of economics education. It may be insignificant vs the government deficit, but it is probably the largest single force acting on the economics profession itself.

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