Colonial Finance Redux In The California Republic

John Ford

Way to go California! The eighth largest economy in the world has done it again for the second time. With no way out of the 2009 budget crisis and a plummeting bond rating, Governor Schwarzenegger went begging hat in hand to the Obama administration asking for a Federal guarantee of its short term notes. Obama and the Treasury told Schwarzenegger to go piss-off and find a way to fix their own problems. Just play the game as usual and implement the typical neo-liberal austerity programs of raising taxes, laying off state workers and cutting social programs left and right. Problem was that there was a limit as to how much cutting and taxing they could do and the black hole of the budget deficit was sucking up everything in site. The joke going around at the time went something like: “State employees in California have finally struck an agreement with the Schwarzenegger administration they can all live with. If the state pretends to pay its employees, then they’ll pretend to work.” But the joke was short lived because what California did was an innovative end run around the restrictions placed on the States by the legal tender laws in the Constitution.

Governor Schwarzenegger then decides its time to flex his muscles and get serious about things and along comes Assembly Bill 1506 which states in part:

Existing law provides procedures for registered warrants and provides that a registered warrant is acceptable and may be used a security for the performance of any public or private trust or obligation.

This bill would require a state agency to accept, from any person or entity a registered warrant or other similar indebtedness issued by the Controller endorsed by that payee, at full face value, for the payment of any obligations owed by that payee to that state agency.

So there you have it. California decided to get hip and get into the money issuing business, albeit for a short period of time by issuing IOU Registered Warrants to pay state vendors and issue tax refunds to residents totaling $3 billion. And what do you do with a registered warrant? Well, you have a couple of options. One of the ways that a warrant functioned was like a post dated check. The State of California says sorry but we are broke and here’s a warrant, but you will have to hold it until October of this year to get your money with interest of 3.75%.  That’s if you can find a bank that is willing to redeem the warrant for U.S. dollars, and many of them would not.

Supposing that you have a window cleaning business to clean windows in State buildings for $5000 per month and you soon find out that the checks not in the mail, and what you get instead was a warrant that’s going to get stuffed in your wallet until October. And meanwhile you have employees that need to be paid.  Remember now, that according to the state Controller that warrant is a negotiable instrument meaning that it can be circulated by being endorsed by the original payee and can be redeemed by the bearer. So the first month you get paid with this warrant and realize you are pretty strapped for cash and so instead of stuffing that warrant in your wallet, you decide to endorse it over to a family member who has the cash and wouldn’t mind collecting the 3.75% interest on the warrant and gives you the cash for immediate use. (California would only pay the interest to the original payee and not to the bearer of the warrant)

But suppose you didn’t have a family member with the cash, but you had a number of bills that needed to be paid to the State of California like your taxes for example, or tuition to a State college. Assembly Bill 1506 says “for the payment of any obligation owed by that payee to that state agency”. So you put a stamp on the envelope, endorse the warrant and send it off to the state of California. And voila, you have just stepped out of the matrix of the U.S. dollar and into the strange new world of Registered Warrants where debt becomes a negotiable instrument.

With the stroke of a pen you and the state of California have teamed up and gone into the money creation business engaged in the very same activity as the Colonial states and their bills of credit where they utilized essentially a parallel currency system. In parallel systems of exchange both you, the State and your piers always have more then one way of engaging in exchange. In the Colonial states internal commerce was carried on with Colonial Scrip, while trade with other countries was gold coin. California, by utilizing Registered Warrants in 1992 and again in 2009 has morphed into an open source system of exchange that operates in its dual capacity in both US dollars and  warrants. And although the warrants were intended simply as a stop-gap measure in a deficit crisis and were somewhat clumsy and limited in their application, they nevertheless fulfill the basic requirements necessary for a parallel currency system primarily due to the fact that the State accepts them as payment for taxes and fees, a measure that immediately imparts value to them.

By taking the step to issue warrants, California has trespassed into the forbidden zone outlined in the Constitution regarding bill of credit where it states “… state shall coin Money; emit Bills of Credit; make any Thing but gold and silver Coin a Tender in Payment of Debts.” In Craig v. Missouri, 29 U.S. 410 (1830) the court reestablishes the definition of bills of credit outlining the differences between a bill of credit and a municipal bond where a bill of credit is a paper medium of exchange that circulates between citizens and citizens and government. And although California did not impart legal tender status to the warrants, they were clearly intended to circulate for ordinary purposes of exchange in society.

If California were to embark on a more aggressive policy of issuing warrants then they would no longer be revenue constrained as are all non-sovereign governments and their deficit problems would be over. And they are over because the State of California in its capacity as a sovereign would become an issuer of money, no longer limited to raising revenue by taxing and borrowing.

When the IOU warrants become functionally like a currency, the limitations of closed source systems and budget deficits no longer apply. A sovereign entity does not necessarily need to raise revenue before it can spend. Quite the contrary. In a sovereign credit system of finance the function of taxation is not limited to raising revenue. Taxation works to impart value to fiat currencies to secure their standing as a medium of exchange and to maintain an adequate velocity of this currency by keeping it moving out of the system.  By invoking the power of seignorage (money creation) governments are Never revenue constrained, but act according to the primary fundamentals of economic stewardship that ensure that money works for the benefit of the citizens and not for the exclusive domain of a private financial cartel.

Parallel currencies that are issued to circulate internally in a given region operating in tandem with an international trading currency represent the most viable expression of human scale economics. Parallel or open source systems of exchange historically have provided some of the best examples of human scale economies where the multiplier affect of money worked to build real value in a given region.

One of the most viable examples of open source currency began in England in the 11th century with King Henry I and the tally stick economy.  The tally sticks were cut with various sized notches to indicate the denomination of money that the stick represented in shillings, pence and pounds. The stick was then split lengthwise through the notches so that both pieces had a ‘record’ of the notches. The king’s exchecker kept one half to protect against counterfeiting and the other half was spent into the economy.  Decreed by the King (Fiat money) to be accepted as payment for taxes the tally stick economy spread rapidly and maintained its existence as a parallel currency for over 700 years. At about the same time period as the tally sticks were coming to a close with the usurpation of the money power by the Bank of England, the Colonial paper money bills of credit and loan bills had taken root in the Colonies beginning in Massachusetts around 1690.

One of the most successful illustrations of a parallel currency today operates on the island of Guernsey in the English Channel with a dual exchange in British and Guernsey pounds. Guernsey began issuing interest free public credit money around 1816 in the amount of 6,000 pounds for various public works projects. Guernsey has continued the issuance of public credit money for roads, sea walls, public markets, churches and colleges, funding all of these projects with no debt accumulation. As recently as 1990 there was an issuance of 13 million pounds in State issued notes. Like the Colonies prior to the War of Independence, Guernsey has very low unemployment, a relatively high standard of living and low taxes. And as is the case with all parallel currencies they are not just lent into existence, but spent into existence as well, funding public works projects.

Argentina And The Patacone

When the Argentinean financial crisis deepened in 2000, the local governments took the same steps as California did in 2009 by issuing Patacones which were bonds with interest that circulated as a local currency. And like California, the Patacones were accepted as payment for taxes giving them a wide circulation. This tax is what gives currency its value. Public employees received up to 90% of their wages in Patacones which in turn were accepted by utility companies and supermarkets, eventually comprising 20% of the currency in circulation in Argentina. Even McDonalds had no choice but to accept them, offering a meal called the Patacombo. By that time the banks were also accepting them offering dual currency accounts with both the Argentinean peso and the Patacone available at ATM’s. Fearing that the Patacones gave the provinces too much autonomy that could even lead to separatist movements and the break up of the country, and along with pressure from the IMF, the government called them in. In 2003, the Patacones were bought by the government on a one to one exchange for pesos.

In a 2009 article in Noriel Roubini’s Europe EconoMonitors, macro-economist Edward Hugh comments on the current economic crisis in Spain wondering when “some crazy politician out there in one of Spain’s minor autonomous communities starts proposing to issue regional IOUs/quasi money of the Argentinian type. If and when this does happen, then we will know that the end is well and truly begining (ie that the point of no return has been passed), and if you like we could treat such a hypothetical event as an early potential indicator of impending disaster”.

In proposing another rehashed neo-liberal austerity scenario for Spain, Hugh says that they “could decide to reduce prices and salaries in the public sector (ie internal deflation as an alternative to devaluation), and bring the budget more back into line with Spain’s ability to pay”. But remember this is Spain we are talking about here and it was in one of those ‘autonomous communities’ in 1956 that witnessed the founding of the Mondragon Cooperative, today the leading business group in the Basque region employing over 85,000 people and running its own banks and businesses by their worker members.

This is not the kind of community that is going to turn around and take another kick in the backside when the IMF henchmen decide to tighten the noose and impose another austerity program. No. If there are enough ‘crazy politicians’ in Spain they will soon realize that the austerity plan for them will fail just as assuredly as it failed in Argentina and that the long term answer is neither borrowing more Euros or imposing more austerity programs, but embarking on a parallel currency creation program similar to Argentina.

When the production sector whether in Spain or anywhere else competes with a debt currency system, in the long run they always loose. Compounding debt interest always favors the finance sector that issues the debt. Spain may attempt to toe the line for a while with the IMF, but the inevitable day of reckoning is not far off for the Euro zone where a necessary write down of the debt will come one way or another.

The Argentinean response to economic collapse will no doubt become a working model for any country or state that wishes to have greater control of the money supply through a parallel currency that works at a regional level. This model could be adopted incrementally in five stages where each succeeding stage would build greater reliance on the regional currency, increase the multiplier affect of that currency and build value, jobs and increased resiliency in the face of collapse. These five stages are listed as follows:

1.      In the first stage of collapse, the government issues interest bearing bonds as IOU’s in relatively small amounts to pay to pay state workers, state contractors and as payment for tax refunds to businesses and individuals. These bonds are redeemable at a later date for the accepted currency of a given region. Alternatively, they could be used to pay whatever fees are due to the government of issue. As a third way of exchange, they could be circulated among individuals and businesses until the redemption date arrives and they are “cashed in”. This first stage is a way of dealing with a short term credit contraction as was witnessed in California.

2.      As the budgetary crisis deepens the IOU’s would then no longer pay  interest, but greater amounts would be issued in the face of increasing unemployment and a shrinking tax base, affecting greater acceptance by retailers, utility companies, etc. who in turn use them to pay taxes.

3.       Governments then begin to default on the bond redemptions, the direct exchange to the circulating currency is broken resulting in a the formation of a parallel currency, that then begins to look more like a bill then a bond. In Argentina the Patacone was available at ATM machines along with the Peso.

4.      In the fourth stage of collapse, government makes the radical move to assert its position as sovereign, recognizing its creative power and responsibility to exercise its prerogative to issue money. It is in this position as an issuer of money as opposed to simply a money user, that government is no longer revenue constrained by having to borrow or tax to raise necessary funding and continually jump through hoops to ‘balance the budget’. Within a fully functioning parallel currency system, the regional currency works to create jobs by spending into the manufacturing and agricultural sectors as they did in Argentina. This in turn kicks in the multiplier affect of the money (quantity) raising the standard of living and job security (within four months in Argentina the Plan Jefes y Jefas de Hogar had created jobs for 2 million participants—equal to 13% of the labor force) which in turn increases money velocity necessary in a mature economy.

5.      With two parallel currencies running side by side in the fifth stage, the collapse that precipitated the creative response into Registered Warrants or Patacones is fully resolved. Here, a regional economy fully funded by a regional currency will soon outpace (after a few years, the Patacone comprised 20% of the money in circulation) the previous dominant currency that would then function mainly as a trading currency for purchase of non domestic goods and services produced outside the region.

One Response to Colonial Finance Redux In The California Republic

  1. Jim says:

    Way to lay it out there, John. Good, clear writing. (A few typos etc.)