Say "Goodbye" to the Dollar and "Hello" to Debt

It is time for a further update to my earlier series, which I naïvely called "The People's Money." Money, as most people still understand that word, used to belong to the People -- that is, the monetary unit of the country, the Dollar, was defined by the peoples' representatives in Congress. So that made it fair to say that the Dollar was "the People's Money."

But no longer. It is time to wake up and grasp where this country -- along with the rest of the world -- is going.

And here is a wake-up question: When is the last time you either saw, or held in your hands, a real true United States Dollar?

Some people may interpret that as a trick question -- fair enough. So let us define our terms, just as Congress did, beginning at the beginning. Under Article I, Section 8 of the Constitution as ratified in 1789, and as the language has remained ever since, Congress has the legislative power "to coin Money, [and to] regulate the Value thereof ...".

In 1789, there was already a silver coin in circulation which Americans called the "dollar." It had been established as a coin when Spain governed whole portions of the new world, and the pre-U.S. Continental Congress had already, in 1785, defined those coins (actually, "pesos", or "pieces of eight") as the American unit of currency. (The name "dollar" came from the German "[Joachims]Thaler", used to describe a popular coin of that country by its valley ["Thal"] of origin.)

Thus it required no great leap of imagination for the first Congress of the United States, in 1792, to adopt a uniform Dollar as the new country's unit of currency, and to define it in law as a coin consisting of exactly 371.25 grains (Troy) of fine silver, or 24.75 grains (Troy) of gold. Note the official exchange ratio thereby established, for silver to gold, of 15 to one (changed to 16:1 in 1834, to reflect a decrease in the value of silver). And that was how America got its Dollar.

Paper money also circulated before and after the Revolution, but it had a much poorer reputation. Having no intrinsic value like a gold coin, a paper bill was backed only by a promise to redeem it, either on demand or at some future time, in specie (gold or silver). The Continental Congress used paper bills to finance the Revolutionary War, but it had no power to coin money on its own, and the "continentals" so called were supposed to be redeemed by the collective States. So many were printed, however, that the promise could not be kept -- hence the phrase "not worth a continental."

After the revolution, paper notes were issued both by the first two Banks of the United States, as well as by individual State-chartered banks -- but the effect of Gresham's Law was substantial, so much so that the U.S. Government actually stopped minting gold coins for a while in 1816-17, due to their being hoarded rather than circulated. This did not help the money supply keep pace with the developing country.  The resulting squeezes -- called "panics" because no one could get their "money" out of banks, many of which failed -- led to a widespread distrust of "paper money."

The Constitution is curiously ambiguous about the subject of money and currency. As noted above, it gives Congress the power to "coin" money -- but what about the power to print paper money? Also, in Art. I, Section 10 the States are prohibited from making "any Thing but gold and silver Coin a Tender in Payment of Debts ..." (emphasis added). That same Section prohibits the States from "coin[ing] Money, [or] emit[ting] Bills of Credit" (i.e., paper notes).

The Founding Fathers would not appear to have contemplated the use of anything but gold and silver coins as lawful money, or as legal tender for the satisfaction of public and private debts. But it was not perfectly clear: for example, while the individual States could not issue paper bills, or make anything but gold and silver coin legal tender, nothing was said about the United States itself being unable to do so. And when that issue came to the fore was in 1862, right after the Civil War had begun. One commentator set the scene in these words:

... a civil war was then raging which seriously threatened the overthrow of the government and the destruction of the Constitution itself. It demanded the equipment and support of large armies and navies, and the employment of money to an extent beyond the capacity of all ordinary sources of supply. Meanwhile the public treasury was nearly empty, and the credit of the government, if not stretched to its utmost tension, had become nearly exhausted. Moneyed institutions had advanced largely of their means, and more could not be expected of them. They had been compelled to suspend specie payments. Taxation was inadequate to pay even the interest on the debt already incurred, and it was impossible to await the income of additional taxes. The necessity was immediate and pressing. The army was unpaid. There was then due to the soldiers in the field nearly a score of millions of dollars. The requisitions from the War and Navy Departments for supplies exceeded fifty millions, and the current expenditure was over one million per day. The entire amount of coin in the country, including that in private hands, as well as that in banking institutions, was insufficient to supply the need of the government three months, had it all been poured into the treasury. Foreign credit we had none. We say nothing of the overhanging paralysis of trade, and of business generally, which threatened loss of confidence in the ability of the government to maintain its continued existence, and therewith the complete destruction of all remaining national credit.

The solution was for the United States itself to issue its own paper money -- called "greenbacks" due to the color of one side. There was, as noted, insufficient gold and silver to back them up; but that did not stop Congress from declaring them "legal tender" -- indeed, it is extremely doubtful whether creditors would have accepted them without that official status. Like continentals, greenbacks were a future promise to pay in specie, backed by the "full faith and credit" of the United States. And unlike continentals, all of the greenbacks which people later chose to redeem were redeemed in specie. Knowledge that they could be so redeemed left millions of them in circulation, long after the War was over, simply because of their convenience in comparison to heavy, bulky coins.

This being America, there were inevitably multiple lawsuits brought over the authority of Congress (a) to issue paper bills in the first place, and (b) to declare them legal tender for all debts. In a remarkable series of decisions between 1871 and 1884 which changed the course of this country forever, first a bare majority, and later an 8-1 majority, of the United States Supreme Court eventually ruled that Congress had the implied authority under the Constitution to do both.

As a result of the Legal Tender Cases, we now have a tripartite division of money in this country: there are coins; Treasury bills, notes and bonds; and Federal Reserve Notes (which I fully described in this earlier post). Treasury paper is not really "in circulation", so it is not, strictly speaking, money -- but it is debt, and as we shall soon see, debt is the new money.

United States coins in circulation no longer have any silver in them, because the price of silver is too high (due to the devaluation of what people still erroneously call "the dollar"). The last real "silver" dollar was the Eisenhower dollar, issued from 1971 to 1976. Even though they contained just 0.3161 Troy oz. of real silver (that's 9.83 grams, compared to the 371.25 grains, or 24.0566 grams, in the 1792 silver dollar), that much silver would be worth (at today's $20 / oz.) about $6.63 -- which is why you no longer see any Eisenhower dollars in circulation.

And now you know the answer to the question I asked at the outset. There are no real dollars left in circulation; the last partial one was issued in 1976. Our "money" consists of base metal alloys molded into traditional shapes, special pieces of paper printed with colored ink, and electronic bookkeeping entries maintained by computers.

What, you might ask, do all of these forms of "money" have in common?

Answer: They have no intrinsic value of their own. They represent only promises -- promises to  exchange something for them in the future. And what is that "something"?

It is just new promises for the old ones. When you take a dime or a dollar bill into a bank, you cannot get gold or silver, but just a newer alloy dime or a newer paper "dollar."  If you buy a Treasury note and keep it until maturity, you are paid with more paper "dollars" -- actually, Federal Reserve notes.

Notes are a form of debt -- they evidence a promise to pay a debt. All of our present money, therefore, is nothing but debt.

Given this unarguable fact, it no longer makes sense to speak just of "the money supply" -- M1, M2, M3 or the like. For those traditional measures simply count currency in circulation (plus some types of deposit accounts). Here, for instance, is the latest chart showing the growth of M2 over the past 33 years:

As you can see, this "measure" of "money" accounts for only about $11 trillion worth. But now, take a look at the chart of total public and private debt in this country ("public debt" includes what is owed by the federal, State and local governments; "private debt" is consumer and household debt owed on mortgages, credit cards, retail accounts, and the like -- but not what you borrowed from your brother-in-law):

Do you see that index on the left? The graph of M2 was reaching $11 trillion, but this graph is pushing sixty trillion "dollars" -- more than five times as much. All of that money is what we Americans owe to ourselves and others. As you may know from recent headlines, the total official U.S. debt is pushing $17 trillion, or just about 30% of the total. Who, then, owes the other 70%?

Logic tells us that if it is not government debt, then it must be corporate and household debt, and logic is correct. Given that the gross value of all goods and services produced last year in the United States ("GDP") was just about $17 trillion as well, we then have a good yardstick, as follows:

Total U.S. government debt amounts to about 100% of GDP; but

Total private and corporate debt amounts to about 235% of GDP;

So all in all, total U.S. debt of all kinds amounts to about 340% of GDP.  We owe, in other words, 3.4 times what we make in a year. Does that sound healthy?

And that is just officially recognized debt. If you add in the M2 number -- because all of that currency and those deposits represent a form of debt too, remember (just not "official debt") -- then total debt comes to nearly seventy trillion, or over 400% of what we make annually. And that says nothing about all the "unfunded debt" -- a misnomer, if there ever was one, because as just explained, all of our current debt is unfunded -- in the form of future pension and welfare liabilities.

This level of debt became possible only when the country went off the gold standard -- domestically in 1968, and internationally in 1971. Before that time, international debts had to be settled each year in gold, so that a country's ability to obtain credit depended on how much gold it had in reserves. If a country exported more than it imported, it received gold (or dollars, then accepted as its equivalent, because each dollar could be exchanged for gold) to make up the difference. But if it purchased abroad more than it sold abroad, it had to pay out its gold (dollars) to other countries.

And the same was true domestically, until 1968 -- any dollar notes printed by the Federal Reserve could be exchanged for the official equivalent in silver coin (not gold, because FDR had outlawed the private possession of gold in 1933 -- a ban which Congress did not lift until 1974).

Removing the backing of gold and silver from our money was the final step in cutting us loose to pile up no end of debt. Making paper "money" legal tender was the first; but turning it into truly just paper promises was the last.

And while the government has been borrowing like crazy recently, so have we -- remember that private debt outstrips public debt by more than two to one. Do we have any moral grounds for demanding that the government observe a "debt ceiling" when we ourselves lack the will to do so?

I hope I have succeeded in demonstrating how profound a shift has occurred in this country since the 1960s. Money that we traditionally think of as money is money no longer. It is better to call it what it is, namely, debt -- or promises to pay in the future. And because it represents just promises, it is easy to rack up: debt is out of control, as the second chart above illustrates.

Where will it all end? Where can it end? No one can say for sure, because we are in uncharted territory. In future posts in this series, I will explore some of the shorter- and longer-term consequences of this profound shift in our way of thinking and acting about money.