The Mystery of Banking

debasement
. 
How debasement profits the State can be seen from a hypo-
thetical case: Say the 
rur
, the currency of the mythical kingdom
of Ruritania, is worth 20 grams of gold. A new king now ascends
the throne, and, being chronically short of money, decides to take
the debasement route to the acquisition of wealth. He announces
a mammoth call-in of all the old gold coins of the realm, each
now dirty with wear and with the picture of the previous king
stamped on its face. In return he will supply brand new coins with
his face stamped on them, and will return the same number of
rurs
paid in. Someone presenting 100 
rurs
in old coins will receive
100 
rurs
in the new. 
Seemingly a bargain! Except for a slight hitch: During the
course of this recoinage, the king changes the definition of the 
rur
from 20 to 16 grams. He then pockets the extra 20 percent of
gold, minting the gold for his own use and pouring the coins into
circulation for his own expenses. In short, the number of grams
of gold in the society remains the same, but since people are now
accustomed to use the 
name
rather than the weight in their money
accounts and prices, the number of 
rurs
will have increased by 20
percent. The money supply in 
rurs
, therefore, has gone up by 20
percent, and, as we shall see later on, this will drive up prices in
the economy in terms of 
rurs
. 
Debasement
, then, is the arbitrary
redefining and lightening of the currency so as to add to the cof-
fers of the State.
6
The pound sterling has diminished from 16 ounces of silver
to its present fractional state because of repeated debasements, or
Money: Its Importance and Origins
11
6
This enormous charge for recoinage is called “seigniorage,” payment
to the seignieur or sovereign, the monopoly minter of coins.
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changes in definition, by the kings of England. Similarly, rapid
and extensive debasement was a striking feature of the Middle
Ages, in almost every country in Europe. Thus, in 1200, the
French 
livre tournois
was defined as 98 grams of fine silver; by
1600 it equaled only 11 grams. 
A particularly striking case is the 
dinar
, the coin of the Sara-
cens in Spain. The 
dinar
, when first coined at the end of the sev-
enth century, consisted of 65 gold grains. The Saracens, notably
sound in monetary matters, kept the dinar’s weight relatively con-
stant, and as late as the middle of the twelfth century, it still
equaled 60 grains. At that point, the Christian kings conquered
Spain, and by the early thirteenth century, the dinar (now called
maravedi
) had been reduced to 14 grains of gold. Soon the gold
coin was too lightweight to circulate, and it was converted into a
silver coin weighing 26 grains of silver. But this, too, was debased
further, and by the mid-fifteenth century, the maravedi consisted
of only 1½ silver grains, and was again too small to circulate.
7
Where is the total money supply—that crucial concept—in all
this? First, before debasement, when the regional or national cur-
rency unit simply stands for a certain unit of weight of gold, the
total money supply is the aggregate of all the monetary gold in
existence in that society, that is, all the gold ready to be used in
exchange. In practice, this means the total stock of gold coin and
gold bullion available. Since all property and therefore all money
is owned by 
someone
, this means that the total money stock in the
society at any given time is the aggregate, the sum total, of all
existing 
cash balances
, or money stock, owned by each individual
or group. Thus, if there is a village of 10 people, A, B, C, etc., the
12
The Mystery of Banking
7
See Elgin Groseclose, 
Money and Man
(New York: Frederick Ungar,
1961), pp. 57–76. Many of the European debasements were made under the
guise of adjusting the always-distorted fixed bimetallic ratios between gold
and silver. See Luigi Einaudi, “The Theory of Imaginary Money from
Charlemagne to the French Revolution,” in F.C. Lane and J.C. Riemersma,
eds., 
Enterprise and Secular Change
(Homewood, Ill.: Irwin, 1953), pp.
229–61.
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total money stock in the village will equal the sum of all cash bal-
ances held by each of the 10 citizens. If we wish to put this in
mathematical terms, we can say that 
M = 
Σ
m
where M is the total stock or supply of money in any given area
or in society as a whole, m is the individual stock or cash balance
owned by each individual, and 
Σ
means the sum or aggregate of
each of the ms. 
After debasement, since the money unit is the 
name
(dinar)
rather than the actual weight (specific number of gold grams), the
number of dinars or pounds or maravedis will increase, and thus
increase the supply of money. M will be the sum of the individual
dinars held by each person, and will increase by the extent of the
debasement. As we will see later, this increased money supply will
tend to raise prices throughout the economy.
Money: Its Importance and Origins
13
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II.
W
HAT
D
ETERMINES
P
RICES
:
S
UPPLY AND
D
EMAND
W
hat determines individual prices? Why is the price of
eggs, or horseshoes, or steel rails, or bread, whatever it
is? Is the market determination of prices arbitrary,
chaotic, or anarchic? 
Much of the past two centuries of economic analysis, or what
is now unfortunately termed 
microeconomics
, has been devoted
to analyzing and answering this question. The answer is that any
given price is always determined by two fundamental, underlying
forces: supply and demand, or the supply of that product and the
intensity of demand to purchase it. 
Let us say that we are analyzing the determination of the price
of any product, say, coffee, at any given moment, or “day,” in
time. At any time there is a stock of coffee, ready to be sold to the
consumer. How that stock got there is not yet our concern. Let’s
say that, at a certain place or in an entire country, there are 10
million pounds of coffee available for consumption. We can then
construct a diagram, of which the horizontal axis is units of quan-
tity, in this case, millions of pounds of coffee. If 10 million
15
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pounds are now available, the stock, or supply, of coffee available
is the vertical line at 10 million pounds, the line to be labeled S
for supply. 
16
The Mystery of Banking
F
IGURE
2.1 — T
HE
S
UPPLY
L
INE
The 
demand curve 
for coffee is not objectively measurable as
is supply, but there are several things that we can definitely say
about it. For one, if we construct a hypothetical 
demand schedule
for the market, we can conclude that, at any given time, and all
other things remaining the same, the higher the price of a prod-
uct the less will be purchased. Conversely, the lower the price the
more will be purchased. Suppose, for example, that for some
bizarre reason, the price of coffee should suddenly leap to $1,000
a pound. Very few people will be able to buy and consume coffee,
and they will be confined to a few extremely wealthy coffee fanat-
ics. Everyone else will shift to cocoa, tea, or other beverages. So
if the coffee price becomes extremely high, few pounds of coffee
will be purchased. 
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On the other hand, suppose again that, by some fluke, coffee
prices suddenly drop to 1 cent a pound. At that point, everyone
will rush out to consume coffee in large quantities, and they will
forsake tea, cocoa or whatever. A very low price, then, will induce
a willingness to buy a very large number of pounds of coffee. 
A very high price means only a few purchases; a very low
price means a large number of purchases. Similarly we can gener-
alize on the range between. In fact we can conclude: The lower
What Determines Prices: Supply and Demand
17
1
Conventionally, and for convenience, economists for the past four
decades have drawn the demand curves as falling straight lines. There is no