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Definition: Seignorage is "The amount of real purchasing power that [a] government can extract from the

public by printing money." -- Cukierman 1992

Explanation: When a government prints money, it is in essence borrowing interest-free since it receivesgoods in exchange for the money, and must accept the money in return only at some future time. It gainsfurther if issuing new money reduces (through inflation) the value of old money by reducing the liability thatthe old money represents. These gains to a money-issuing government are called "seignorage" revenues.

The original meaning of seignorage was the fee taken by a money issuer (a government) for the cost ofminting the money. Money itself, at that time, was intrinsically valuable because it was made of metal.

(Econterms)

Seignorage

From Reuters Financial Glossary

Revenue, or spending power, which a government acquires byprinting money. The act ofprinting money increases themoney supply at very little cost without increasing the supplyof goods, so it can be regarded as an inflation tax.

See also: Printing Money

Retrieved from "http://glossary.reuters.com/index.php/Seignorage"

Inflation, Growth and Seignorage Revenue The Ghanaian Experience

Lawrence K. Apaloo

Centre for Policy Analysis

CEPA, Accra

April 2001

Seignorage Revenue and Inflation

From the perspective of both economic theory and empiricism, it is often suggested thatgovernments raise seignorage revenue by issuing unbacked financial liabilities at near-zerocost of production. This revenue consists of two parts, the first flowing from thewillingness of the private sector to hold government financial liabilities (the real balanceeffect), and the second part from the taxation through inflation of the outstanding stock ofreal balances (the inflation tax effect) Adam, Ndulu and Sowa (1996).

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Seignorage is particularly attractive in economies where the traditional tax base is narrowand where the costs of other forms of revenue collection are high. Moreover in economieswhere the policy regime limits the portfolio of domestic financial assets available to theprivate sector, for example, where there are limited possibilities of currency substitution,the potential for raising seignorage revenue may be expected to be high. In addition, by

exploiting the high adjustment costs faced by the private sector in such economies, revenuecan be increased in the short-run as holders of money are temporarily forced off theirequilibrium money demand functions and obliged to hold higher than desired moneybalances. The higher the costs of adjustment, the greater the short-run value of thesurprise revenue (see Adam, Ndulu and Sowa, 1996).

Figure 2: Seignorage and Inflation

Seignorage (s)

B

ds/d > 0

increasing increases s

ds/d < 0

A increasing reduces s

S

max(15,20) Inflation ( )

Christopher Adam, Benno Ndulu, and Nii Kwaku Sowa (1996) "Liberalization and

Seignorage Revenue in Kenya, Tanzania and Ghana", The Journal of Development Studies,Vol. 32, No.4 (April) pp. 531-553 have estimated the revenue-maximizing inflation rate

(max) for the economy at between the 15 and 20 percent range. This means that with thecurrent levels of inflation, the economy would be far above its revenue-maximizing level;seignorage revenue is continuously lost because the economy lapses towardshyperinflation. It will therefore be best if inflation is reduced (through fiscal contractionand control over the growth of nominal money supply, say) in order to bring the economy

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back to equilibrium (i.e., for the economy to lie on the rising portion, AB, of the Laffercurve, AS, in Figure 2).

Seigniorage (pronounced/ se

njrd/sayn-y-rij), also spelled seignorage orseigneurage, is the net revenue derived from the issuing ofcurrency. Seigniorage derivedfrom coins arises from the difference between theface value of a coin and the cost ofproducing, distributing and eventually retiring it from circulation. Seigniorage derived fromnotes is the difference between the interest earned on securities acquired in exchange forbank notes and the costs of producing and distributing those bank notes.[1] Seigniorage is animportant source of revenue for some nationalbanks. In macroeconomics, seigniorage isalso referred to as an inflation tax, as government could pay for services by issuing newcurrency rather than by collecting taxes; the "inflation tax" is paid by those who hold theexisting currency.[2]

[edit] How it works

To see how seigniorage works, let's compare two scenarios.

Imagine you start the year with one ounce of gold. You trade it in for a gold certificate,which allows you to redeem the certificate for an ounce of gold. You keep the certificatefor a year, then trade it in. At the end of the year you have exactly what you started with:one ounce of gold. No seigniorage occurred.

Now imagine that you have one ounce of gold, but the government doesn't issue goldcertificates. Instead the government will convert your gold into currency at the market rate.If gold were $500 per ounce, then at the start of the year you trade your ounce for $500.You keep the currency for a year, then at the end of the year you trade the currency back infor an amount of gold. However, this time the price of gold increased over the year, so goldis now $525 per ounce. (Rather, a better way to put it, is that the currency has decreased invalue over the course of the year due to inflation) You will receive slightly less than anounce. This slight loss is due to seigniorage.

Even if you were then to use the currency to buy something,someone is holding the bill forthe entire time and the government still has the gold.

Pithily, seignorage is the carry on money in circulation.

[edit] Further discussion

Ordinarily seigniorage is only an interest-free loan to the issuer. When the currency is wornout, the issuer buys it back at face value, thereby negating the revenue earned when it wasput into circulation. Currently under the rules governing monetary operations of major

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central banks (including the central bank of the USA), seigniorage on bank notes is simplydefined as the interest payments received by central banks on the total amount of currencyissued. However, if the currency is collected, or is taken permanently out of circulation, theback end of the deal never occurs. Thus the issuer of the currency keeps the wholeseigniorage profit, by not having to buy worn out issued currency back at face value.

Seigniorage can be seen as a form oftax levied on the holders of a currency and as such aredistribution of real resources to the issuer. The expansion of themoney supply causesinflation. This means that the real wealth of people who hold cash or deposits decreasesand the wealth of the issuer of the money increases. This is a redistribution of wealth fromthe people to the issuers of newly-created money (mostly banks) very similar to a tax.

This is one reason offered in support of the creation of modern, independent, central bankswhose primary objective is arguably to ensure the value of currency by controllingmonetary expansion and thus limiting inflation. Independence from government is requiredto reach this aim - indeed, it is well known in economic literature that governments face a

conflict of interest in this regard. In fact, "hard money" advocates argue that central bankshave utterly failed to obtain the objective of a stable currency. Under the gold standard, forexample, the price level in both England and the US remained relatively stable overliterally hundreds of years, though with some protracted periods ofdeflation[citation needed].Since the US Federal Reserve was formed in 1913, however, the US dollar has fallen tobarely a twentieth of its former value through the consistently inflationary policies of thebank. Economists counter that deflation is hard to control once it sets in and its effects aremuch more damaging than modest, consistent inflation.

A seigniorage reform for the information age on a full-reserve banking base is proposed byJoseph Huberand James Robertson: Creating new money. They argue for the

reappropriation by governments of the right of seigniorage now possessed by privatebanks. About 95% of new money currently issued takes the form of loans made by privatebanks to their customers. Huber and Robertson want to make this illegal. The creation ofnew money, both cash and non-cash should be the exclusive prerogative of the centralbank. The latter should determine how much it creates in the light of the objectives chosenfor the country's monetary policy and credit the new money to the government who willthen put it into circulation by spending it.

However, it is important to reiterate that banks or governments relying heavily onseigniorage and fractional reserve as a source of revenue will find it counterproductive.Rational expectations of inflation will begin to take into account the bank's seignioragestrategy leading to hyperinflation which causes significant real damage to the economy.Instead of cashing seigniorage from fiat money and credit most governments opt to raiserevenue primarily by other means, generally taxation.

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[edit] Examples

The "50 State" series ofquarters (25-cent coins) was launched in the U.S. in the late 1990s.The U.S. governmentplanned on a large number of people collecting each new quarter as itrolled out of the U.S. Mint, thus taking the pieces out of circulation [citation needed]. Since it coststhe Mint less than five cents for each 25-cent piece it produces, the government made a

profit whenever someone "bought" a coin and chose not to spend it. The U.S. Treasuryestimates that it has earned about $5 billion in seigniorage revenue from the quarters so far.[3]

In some cases, national mints report the amount of seigniorage provided to the respectivegovernment; for example, the Royal Canadian Mint reported that in 2006 it delivered $93million (Canadian) to the Government of Canada in seigniorage ("the difference betweenthe face value of a coin and its cost of manufacture and distribution") .[4]

The introduction of 500 and 200 Euro notes is seen as a source of seigniorage revenuefor the European Central Bank, particularly because no other majorcentral bankissues

currency in such large denominations[5]. The Monetary Authority of Singapore does,however, issue $1000 and $10000 denominations that are routinely circulated

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