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Reply to Mr. Bosanquet’s Practical Observations on the Report of the Bullion Committee
Excerpt from Reply to Mr. Bosanquet’s Practical Observations on the Report of the Bullion Committee
Phat amount of money which IS received by government in the shape of taxes, is taken from a fund Which would otherwise have been ex bended on consumable commodities....
Phat amount of money which IS received by government in the shape of taxes, is taken from a fund Which would otherwise have been ex bended on consumable commodities....
159 pages, Hardcover
Published August 24, 2018
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May 28, 2024
(1810)
Ricardo's "Reply to Mr. Bosanquet" is described in the Dictionary of National Biography (1917, p. 874.) as "perhaps the best controversial essay that has ever appeared on any disputed subject of political economy." (For a history of the period, see Ashton & Sayers (1953)). The subject of the controversy was the inflation that occurred subsequent to the suspension of payments by the Bank of England in 1797. Charles Bosanquet had argued for the real bills (or 'Antibullionist') proposition that the Bank of England could not have been the cause of the inflation, since that bank only issued its money in exchange for good security:
"...(inflation will result whether) the issue be gold from a mine or paper from a government bank. All this I distinctly admit, but in all this statement, there is not a single point of analogy to the issues of the Bank of England.
The principle on which the Bank issues its notes is that of loan. Every note is issued at the requisition of some party, who becomes indebted to the Bank for its amount, and gives security to return this note, or another of equal value"... (Bosanquet, 1810, pp. 52-53.)
A brief digression: Nothing in Bosanquet's statement implies that money must be issued only for 'productive' purposes. He only insisted that money must be issued for security of sufficient value, and he emphasized the importance of money being recognized as the liability of the entity that issued it. The Antibullionist school has been widely misunderstood on this point. Humphrey (1974, p. 10), for example, claims that:
"The real bills doctrine states that just the right amount of money and credit will be created if bank loans are made only for productive (nonspeculative) purposes. Defending the Bank of England against the Bullionists' charge of note over-issue, Antibullionists argued that excessive issues were impossible as long as the Bank's note liabilities were based on sound commercial paper, i.e., were issued only to finance genuine production and trade."
A key error is evident in this passage, and it has insinuated itself into virtually all of the anti-real-bills literature. It is the belief that the money supply should move in step with real output, as opposed to moving in step with the assets of the money-issuing entity. It is this belief which leads to the misplaced emphasis on 'productive' loans, as opposed to loans that are made on security that is merely of sufficient value.
The 'Bullionist' (quantity theory) explanation was championed by Ricardo, who held that money-issuing banks had increased the quantity of money:
"Let us suppose all the countries of Europe to carry on their circulation by means of the precious metals, and that each were at the same moment to establish a Bank on the same principles as the Bank of England--Could they, or could they not, each add to the metallic circulation a certain portion of paper? and could they not permanently maintain that paper in circulation? If they could, the question is at an end, an addition might then be made to a circulation already sufficient, without occasioning the notes to return to the Bank in payment of bills due. If it is said they could not, then I appeal to experience, and ask for some explanation of the manner in which bank notes were originally called into existence, and how they are permanently kept in circulation." (Ricardo, 1811, p. 117.)
In this statement, Ricardo convincingly showed that banks are able to increase the quantity of money. Being imbued with the quantity theory, he considered this as satisfactory proof that banks cause inflation. But the connection between money and inflation should have been the very point under examination. On real bills principles, an increase in the money supply, accompanied by an equal increase in bank assets, will have no effect on prices. But Ricardo, like quantity theorists ever since, ignored bank assets, and did not consider the reasonable proposition that the pound had fallen because the Bank of England's assets (mainly British government bonds) had fallen in value. Unfortunately, Bosanquet and his fellow Antibullionists also failed to consider this explanation, and instead pointed, unconvincingly, to crop failures and military expenditures as the cause of inflation .
Ricardo held that during the Restriction period the pound was a true fiat money, whose value was determined by its quantity. (“...depreciation may arise from the abundance of the notes alone, however great might be the funds of those who were the issuers of them.” (Ricardo, 1811, p. 114.))
His mistake was in confusing backing with convertibility. On February 27, the day after the suspension of convertibility, the Bank of England's ratio of outstanding notes to assets cannot have been much different from the day before. Thus the real bills doctrine implies that the pound would be stable, as for a time it was (Table 1 (Cannan, 1969, p. xliii)). Ricardo, however, asserted that all that was necessary for an inconvertible currency to have value was a limitation of its quantity. This leads to the doubtful proposition that the forces determining the value of the pound changed completely on February 26. Before that date, convertibility would have forced the pound to be worth its backing. Afterwards, the value of the pound was supposedly determined by the number in circulation. Ricardo made this assertion in spite of the fact that the suspension of convertibility was temporary, and in spite of the fact that the Bank of England continued to hold backing for the pound throughout the Restriction period.
Ricardo’s argument could still be salvaged by contending that the value of the pound had been maintained all along by a limitation of the quantity in circulation. We could suppose, for example, that when the pound was convertible, a certain number were called into existence by the needs of business. Then, the proper quantity of pounds having been established by long use, convertibility would gradually become less important, until at last it would become possible to suspend convertibility entirely, and the value of the pound could be maintained strictly by the limitation of quantity.
The trouble with this view is that it still requires us to believe that the forces determining the value of the pound changed over time. No serious economist would deny that a newly created money, issued by a bank that has only just commenced business, must be valued according to its backing and convertibility. And yet quantity theorists insist that the paper pound, and all similar currencies, were and are valued because of a limitation of quantity, and not because of backing. Thus quantity theorists are forced to contend that the factors determining the value of the paper pound must have changed sometime between the Bank of England’s first issue of notes in 1694, and its suspension of convertibility in 1797. Against this unlikely scenario, I propose the more plausible alternative that the pound’s value was determined by backing both before and after the suspension of convertibility; that it was backing that mattered during normal business hours when the notes were convertible, that it was backing that mattered during the nights and weekends when the notes were temporarily inconvertible, and that it was still backing that mattered during the longer suspensions of convertibility such as the period from 1797-1821.
*Bosanquet's ideas, and even his errors, are identical in this respect to those of Fullarton (1845, p. 58), Samuelson (1971, p. 2), and Tobin (1963, p. 415).
Ricardo's "Reply to Mr. Bosanquet" is described in the Dictionary of National Biography (1917, p. 874.) as "perhaps the best controversial essay that has ever appeared on any disputed subject of political economy." (For a history of the period, see Ashton & Sayers (1953)). The subject of the controversy was the inflation that occurred subsequent to the suspension of payments by the Bank of England in 1797. Charles Bosanquet had argued for the real bills (or 'Antibullionist') proposition that the Bank of England could not have been the cause of the inflation, since that bank only issued its money in exchange for good security:
"...(inflation will result whether) the issue be gold from a mine or paper from a government bank. All this I distinctly admit, but in all this statement, there is not a single point of analogy to the issues of the Bank of England.
The principle on which the Bank issues its notes is that of loan. Every note is issued at the requisition of some party, who becomes indebted to the Bank for its amount, and gives security to return this note, or another of equal value"... (Bosanquet, 1810, pp. 52-53.)
A brief digression: Nothing in Bosanquet's statement implies that money must be issued only for 'productive' purposes. He only insisted that money must be issued for security of sufficient value, and he emphasized the importance of money being recognized as the liability of the entity that issued it. The Antibullionist school has been widely misunderstood on this point. Humphrey (1974, p. 10), for example, claims that:
"The real bills doctrine states that just the right amount of money and credit will be created if bank loans are made only for productive (nonspeculative) purposes. Defending the Bank of England against the Bullionists' charge of note over-issue, Antibullionists argued that excessive issues were impossible as long as the Bank's note liabilities were based on sound commercial paper, i.e., were issued only to finance genuine production and trade."
A key error is evident in this passage, and it has insinuated itself into virtually all of the anti-real-bills literature. It is the belief that the money supply should move in step with real output, as opposed to moving in step with the assets of the money-issuing entity. It is this belief which leads to the misplaced emphasis on 'productive' loans, as opposed to loans that are made on security that is merely of sufficient value.
The 'Bullionist' (quantity theory) explanation was championed by Ricardo, who held that money-issuing banks had increased the quantity of money:
"Let us suppose all the countries of Europe to carry on their circulation by means of the precious metals, and that each were at the same moment to establish a Bank on the same principles as the Bank of England--Could they, or could they not, each add to the metallic circulation a certain portion of paper? and could they not permanently maintain that paper in circulation? If they could, the question is at an end, an addition might then be made to a circulation already sufficient, without occasioning the notes to return to the Bank in payment of bills due. If it is said they could not, then I appeal to experience, and ask for some explanation of the manner in which bank notes were originally called into existence, and how they are permanently kept in circulation." (Ricardo, 1811, p. 117.)
In this statement, Ricardo convincingly showed that banks are able to increase the quantity of money. Being imbued with the quantity theory, he considered this as satisfactory proof that banks cause inflation. But the connection between money and inflation should have been the very point under examination. On real bills principles, an increase in the money supply, accompanied by an equal increase in bank assets, will have no effect on prices. But Ricardo, like quantity theorists ever since, ignored bank assets, and did not consider the reasonable proposition that the pound had fallen because the Bank of England's assets (mainly British government bonds) had fallen in value. Unfortunately, Bosanquet and his fellow Antibullionists also failed to consider this explanation, and instead pointed, unconvincingly, to crop failures and military expenditures as the cause of inflation .
Ricardo held that during the Restriction period the pound was a true fiat money, whose value was determined by its quantity. (“...depreciation may arise from the abundance of the notes alone, however great might be the funds of those who were the issuers of them.” (Ricardo, 1811, p. 114.))
His mistake was in confusing backing with convertibility. On February 27, the day after the suspension of convertibility, the Bank of England's ratio of outstanding notes to assets cannot have been much different from the day before. Thus the real bills doctrine implies that the pound would be stable, as for a time it was (Table 1 (Cannan, 1969, p. xliii)). Ricardo, however, asserted that all that was necessary for an inconvertible currency to have value was a limitation of its quantity. This leads to the doubtful proposition that the forces determining the value of the pound changed completely on February 26. Before that date, convertibility would have forced the pound to be worth its backing. Afterwards, the value of the pound was supposedly determined by the number in circulation. Ricardo made this assertion in spite of the fact that the suspension of convertibility was temporary, and in spite of the fact that the Bank of England continued to hold backing for the pound throughout the Restriction period.
Ricardo’s argument could still be salvaged by contending that the value of the pound had been maintained all along by a limitation of the quantity in circulation. We could suppose, for example, that when the pound was convertible, a certain number were called into existence by the needs of business. Then, the proper quantity of pounds having been established by long use, convertibility would gradually become less important, until at last it would become possible to suspend convertibility entirely, and the value of the pound could be maintained strictly by the limitation of quantity.
The trouble with this view is that it still requires us to believe that the forces determining the value of the pound changed over time. No serious economist would deny that a newly created money, issued by a bank that has only just commenced business, must be valued according to its backing and convertibility. And yet quantity theorists insist that the paper pound, and all similar currencies, were and are valued because of a limitation of quantity, and not because of backing. Thus quantity theorists are forced to contend that the factors determining the value of the paper pound must have changed sometime between the Bank of England’s first issue of notes in 1694, and its suspension of convertibility in 1797. Against this unlikely scenario, I propose the more plausible alternative that the pound’s value was determined by backing both before and after the suspension of convertibility; that it was backing that mattered during normal business hours when the notes were convertible, that it was backing that mattered during the nights and weekends when the notes were temporarily inconvertible, and that it was still backing that mattered during the longer suspensions of convertibility such as the period from 1797-1821.
*Bosanquet's ideas, and even his errors, are identical in this respect to those of Fullarton (1845, p. 58), Samuelson (1971, p. 2), and Tobin (1963, p. 415).
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