One does not usually think of Gertrude Stein in the Pantheon of great economists, but she nevertheless has added her thoughts about money to those of Adam Smith, John Maynard Keynes, Milton Friedman and others. She said: "The money is always there, but the pockets change; it is not in the same pockets after a change; and that's all there is to say about money." All that she said is true, but like many things in our society, money is in a state of flux. The nature of money, who issues it and how it is used is being transformed and altered by technology.

More than three decades ago Milton Friedman and Anna Schwartz in their seminal study of monetary policy ended their book with these prophetic words: "One thing of which we are confident is that the history of money will continue to have surprises...- surprises that the student of money and the statesman alike will ignore at their peril."[1]  Today we are witness to a new surprise. In some respects, what is happening now may be a kind of reprivatization of money in the electronic age.

Over the years, as barter gave way to money and credit, people have used all kinds of things for money ranging from the huge immovable stones in the front yards of the residents of Yap Island, to salt in Upper Niger, from furs in Siberia which were called "soft gold," to the colored shells called wampum used by native Americans. Then, as now, scoundrels were at work. Fernand Braudel tells us that "The production of counterfeit wampum in glass paste in the nineteenth century by European workshops led to the total disappearance of the old money."[2]  Then as now, Gresham's Law that bad money drives out good, at a fixed exchange rate, prevailed. The theft of personal identification numbers at ATMs and on the Internet is only a modern manifestation of a problem as old as money itself.

The government monopoly on issuing money, which we tend to take for granted, did not always exist - indeed the early mints were all privately founded and owned by merchants who stamped out standard coins that eliminated the need to weigh the precious metal each time a transaction took place. These standard coins commanded a premium over raw metal which gave the private mints an earning stream. At that time taxation was rudimentary, and Governments were quick to notice the earnings and then as now wanted it for themselves. As David Glasner has pointed out, "Besides the attraction any revenue source has for a sovereign, the monopoly over coinage had a particular advantage the ancient state was loath to relinquish. Because the monopoly over coinage could be exploited quickly in an emergency, it was a welcome source of funds in wartime when other revenue sources could not generate additional funds as quickly."[3]  It is still a welcome source of funds, and it is no accident that the Federal Reserve is the most profitable organization in the world. The government has myriad ways to make money by having a monopoly on the production of money. Indeed the word "seigniorage", which is the fee charged for minting coins, has come to signify the right of the sovereign to this monopoly. Before the use of paper money, the sovereign created profit by mixing more and more base metal with the gold or silver in coins, almost always in an attempt to finance a war. The Roman Republic, under attack by Hannibal in 217 B.C. depreciated the bronze coins by half and silver by 14%, in order to help pay the army. The Republic, in an early attempt to fool its citizens, also issued silver-plated copper coins.[4]  Today, in the world of fiat money the theft is achieved by inflation caused by the central bank printing too much money.

Sometimes what we use for money, like a lot of other things, is born of necessity. The common bank note is one example. In 1640, when the British Parliament revolted against King Charles I, he promptly seized all the gold and silver ingots which the merchants had stored in the Tower of London. At this point the merchants turned to the London goldsmiths who stored their gold and issued a kind of receipt or note which circulated as money. The goldsmiths' good luck was cut short by the creation of the Bank of England which took over their lucrative business. The reason to recite this very abbreviated ancient history is to illustrate that the issuance of money has moved from the private sector where it was invented, to the public sector and in some cases may be moving back again to the private sector.

We have grown so accustomed to the familiar Federal Reserve note, many forget that Americans had no central bank for about 75 years, from 1836, after President Jackson vetoed the bill to renew the charter of the Second Bank of the United States, to the start of World War I. Indeed, many believed that the Constitution left authority over banking to the states, and the Federal Government's bank was unconstitutional. After the passage by New York State of the Free Banking Act, the idea of state chartered banks spread across the country, and each commercial bank issued its own dollar bills of various shapes, sizes and quality. By some estimates, at the outbreak of the Civil War, about 10,000 kinds of paper money were circulating.[5]  The general perception has been that free banking was a disaster, but recent research has proved otherwise. It was not problem free, but as Gerald Dwyer of the Federal Reserve Bank of Atlanta has concluded "There is little evidence supporting a generalization that these free banks were imprudent, let alone financially reckless."[6]  Sometimes, as in the private sector today, states competed with each other as when Ohio in May 1854 passed a bill making it illegal for anyone in Ohio to use small bank notes issued by banks in other states. A somewhat similar situation to 19th century free banking may soon exist with smart cards, and cybercash, except that this time these new kinds of money will be, and are now, being issued not only by banks, but by all kinds of companies from 7-11 stores to telephone companies. Today instead of the government decreeing that dollar bills must be of a standard shape, color and size, the private sector is trying to work out the modern equivalent of uniformity which we now call "standards" so that cards can communicate with machines, and machines with each other. In the last century, the National Bank Act was passed, among other reasons, to make a market in the government bonds needed to finance the Civil War, and to bring some order to the private issuance of currency. The Act required that bank notes issued by commercial banks be uniform in appearance and that they be backed by collateral consisting of U.S. Treasury securities. The Federal Government drove out of the market the competing currency issued by state banks by imposing a heavy tax on their notes. As the old Civil War bonds were paid off, the currency base of the country declined some 60% from 1881 to 1890. This inflexible system led to panics and instability. To a certain extent the Treasury Department during this time assumed some of the functions of a central bank. All during this period a debate raged, not about whether America needed a central bank, or whether only the government should issue currency, but about "free silver" and ratio of the price at which the treasury would buy gold and silver. Indeed William Jennings Bryan was nominated for President on a platform of 16 to 1, that is that 16 ounces of silver would have the same value as 1 ounce of gold. This was the high point of bimetalism. This question of whether or not private banks should be able to issue currency formed no part of the political debate. It was not until the eve of World War I, that passage of the Federal Reserve Act finally gave the United States Government a monopoly on the creation of money which was legal tender. There is very little, if any evidence, that government has managed our currency values any better than the commercial banks did in the pre-Federal Reserve days. Indeed the Nobel laureate, F. A. Hayek, puts it more strongly: "The history of government management of money has, except for a few short happy periods, been one of incessant fraud and deception."[7] 

The idea of private issuance of money was endorsed by Adam Smith in his seminal book, The Wealth of Nations: "The late multiplication of banking companies in both parts of the United Kingdom, an event by which many people have been much alarmed, instead of diminishing, increases the security of the public. It obliges all of them to be more circumspect in their conduct, and, by not extending their currency beyond its dues proportion to their cash, to guard themselves against those malicious runs, which the rivalship of so many competitors is always ready to bring upon them...By dividing the whole circulation into a greater number of parts, the failure of any one company, an accident which, in the course of things, must sometimes happen, becomes of less consequence to the public."[8]  A contemporary and friend of Smith's, David Hume, took a directly contrary view. And the debate continues to this day. Some argue that the states' desire to have a monopoly over the issuance of money is driven not by a desire to increase the efficiency of the monetary system, but rather from military necessity and as an act of sovereignty.

There are even some today who see Germany's drive to implement the Maastricht Treaty and produce a single currency for the Common Market more as a reach for power than a device to facilitate trade. Indeed, the perceived loss of sovereignty was at the heart of Margaret Thatcher's objection to a common currency in Europe.

As the monetary system of the world has evolved we have arrived at the point where for the first time in history, no major currency is tied directly to a commodity like gold or silver. In 1911, long before the advent of information technology, Irving Fisher opined that "irredeemable paper money has almost invariably proved a curse to the country employing it." The advent of the Gold Standard and the Gold Exchange Standard furnished for a time a discipline on the creation of money, but now with the uncoupling of money from any commodity, those old arrangements have been replaced by an even more draconian device which I call the Information Standard. This new discipline is being administered by a completely new system of international finance. Unlike all prior arrangements, this new system was not built by politicians, economists, central bankers, or finance ministers. No high-level international conference produced a master plan. The new system was built by technology. The new world's financial market is not found on a map, but consists of more than 200 thousand electronic monitors in trading rooms all over the world linked together, and the value of our currency is determined by the price that the market will pay for an American dollar in exchange for yen, marks, or pounds. Whatever the price, it is almost constantly being condemned by someone somewhere as too high and by someone somewhere else as too low. Few governments are entirely satisfied with the value the market places on their currency. Someone is always demanding that government do something to push the value of its currency up or down, depending on how one's interests are affected. But the market is so huge that intervention by central banks has become an expensive exercise in futility. Indeed, your colleague, Peter Drucker, has written: "Control over money was at the very center of what came to be called 'sovereignty'. But money has slipped the leash...It cannot be controlled any longer by national states, not even by their acting together."[9] 

In addition to the huge international foreign exchange market, technology has been the midwife of many new forms of money from the Euro-dollar to the smart card. The word money has different meanings to different people at different times. The definition of money in an economist's view has a specific meaning. As Milton Friedman has written "...money refers to an asset..." but "...the use of the term as a synonym for income or receipts (is) so ubiquitous, I cannot guarantee that even I...will not occasionally slip and use the term..."[10]  in that sense.

Today your bank account, which is certainly an asset is just a series of bits and bytes, but we all believe merchants will accept our checks in payment of merchandise, and that its balance can be turned into legal tender if we so desire. Many new kinds of things from smart cards to E-cash are appearing, and while not legal tender, are nevertheless being accepted in payment by ordinary people and shopkeepers because they are sure that others will do the same. For any item used for money, from the stones in Yap Island to Digitcash, to have value everyone will have to think they have value based on experience. So if everyone thinks bits and bytes arranged in a certain way have value as an asset, it can be argued that they will qualify for money in even a narrow sense.

Although virtually unknown in the United States, there are hundreds of millions of smart cards in use through the world. The cards have evolved over the past quarter century until today they typically contain a CPU (a central processing unit), blocks of memory, including RAM and ROM, and an assortment of features designed to enhance security. There are, broadly speaking, two main kinds of cards in use today - the electronic purse or stored-value card which functions like a traveler's check, but one that makes exact change. Although not much in evidence yet in this country, these cards would fit nicely into the payment habits of Americans since in the United States it is estimated that 88% of transactions are effected by cash or check, and of these 83% are for less than $10. In many parts of the world these so-called electronic purse cards, which contain stored value, can be "spent" in pay phones or vending machines. When their stored value is exhausted they are thrown away. The second kind of card, the so-called "intelligent" smart cards, can be taken back to the issuer and recharged. Like 19th century banking in America, not only can these cards be issued by banks, but are now issued by all kinds of commercial firms. For smart cards to reach their potential, there must be what Colin Crook calls "...an enabling alliance based infrastructure in place. Without it...smart cards will take a long time to happen."[11]  One of the more dramatic effects of the widespread use of smart cards would be on government revenues. John Wenninger and David Laster at the Federal Reserve Bank of New York have written: "Consider an extreme case: Were electronic purses to displace all coins and currency denominations $10 and under, they would substitute for more than half of physical currency outstanding but less than 13 percent of its dollar value, or roughly $50 billion. As the currency was retired, the Federal Reserve would have to sell $50 billion of government securities, thereby losing the interest income on the securities that it normally turns over to the Treasury. At a 7 percent rate of interest, the sale of securities would cost the Treasury about $3.5 billion of interest income each year.[12]  This would be in addition to the 773 million seigniorage accrued on the production of our coins in 1994.[13] 

As a practical matter, any such substitution would be slow, but any loss of revenue gets any government's attention. In addition to loss of revenue, other issues will present themselves. If more and more firms issue smart cards for cash or credit, what will be the effect on the velocity of money? How will central banks form policies on the control of the money supply if any company can issue electronic purse cards on credit, with or without collateral? What will happen and who, if anyone, will pay if the issuer of the card goes broke? In many significant ways all these questions are a replay of the 19th century banking in the United States. We used to have a little book in Citibank that gave us the discount at which we would buy a bank note issued by a distant bank. Sometimes by the time the note was returned for collection the bank was no longer in business. This experience may or may not be repeated with smart cards. These, and other public policy questions, which I will discuss later, will become of more than academic interest as the use of these cards grows over time.

There are those who argue that the familiar credit card is not a form of money within the narrow economic definition. If, on the other hand, we view money as an asset, a person with a credit card has a very real asset because he or she has a committed line of credit. These cards are now issued and accepted in payment by every kind of business. So many people in so many businesses are in the act that "During the last four years, spare credit card capacity has risen 2 1/2 fold to $1.1 trillion. It rose 33% during 1995 alone. As a result, the dollar value of unused credit card lines is now as large as the M1 money stock."[14]  Obviously, not all this credit will be drawn down at once, but it constitutes a new element in the equation that must be factored in by our central bank.

In addition to the world-wide growth in the use of smart cards, information technology is about to permit the creation of both electronic token money and cash money in cyberspace. As matters now stand, as in ancient times, anyone can announce the issuance of his or her brand of private cash and then try to convince people that it has value. They must do this because our Constitution gives Congress the sole authority to coin money that serves as legal tender, but parties are free voluntarily to accept any other form of payment they wish. There are no lack of entrants from Microsoft to Mondex and more enter every day. Already we have DigiCash in Amsterdam reviving in modern guise something very close to the old American free banking system by issuing electronic money, backed as in the free banking period, by some depository bank holding collateral in the form of treasury securities and performing the clearing function. The British-based Mondex has its own entry in electronic cash that can be transferred by wire. At Citicorp, Colin Crook and his staff are busy creating what they hope will be a very secure electronic payment system for both real and token cash. While in the nineteenth century in the United States only banks issued dollar bills, today every kind of company is now, or will shortly be trying to issue some form of what can broadly be defined as money.

Despite all this activity, the dreams of those who predicted the arrival of the cashless society have so far joined the ranks of those who foresaw a helicopter in every backyard. Cash still has the great advantage of being anonymous in a world that is more and more intrusive. If one uses only cash, it is difficult, if not impossible, for friend or foe to construct a pattern of your spending habits and life style. The use of cash tends to defeat Big Brother's data base. Cash is, however, expensive, it has to be counted, stored and transported. David Chaum has estimated that: "Perhaps 2 to 3 percent of the gross national product is tied up in maintaining the bank note payment system."[15]  It is also heavy. A million dollars in $20 bills weighs 111 pounds, while a million dollars in digital form weighs nothing and moves with near the speed of light. Like gold and silver coins which were used only by the gentry and were rarely seen by digital cash although a trillion dollars a day is moved by banks in New York alone.

The security of digital payments on the Internet and the World Wide Web is a crucial issue in the development of electronic commerce. David Kahn's seminal book, The Code breakers, which details the history of secret writing and the influence the code breakers had upon history, was written before the invention of cybercash. And yet, at the end of the day secure encryption of one kind or another will be the centerpiece of any broad use of the Net for commerce. In this country, the American government's policy has prevented the private use of really high level encryption, thus putting American business at a competitive disadvantage, and framing a public policy debate. David Chaum of DigiCash and an expert on encryption is a well known proponent of a system of preserving the privacy of the spending of the customer while allowing banks to verify that the same dollar is not spent twice. If one is operating on the Net, such privacy may greatly to be desired, lest one's every purchase can be traced by Big Brother. If, on the other hand, you are a government official in charge of anti-terrorism or drug interdiction, your view might be that you want the ability to crack any cypher in private use. This was the story of the ill-fated clipper chip. This governmental attitude is not new. It is said that British sovereigns demanded that the post office be operated by the crown so that letters could be steamed open to detect any treason against the king. The clipper chip was thus only a modern version of a very old argument. The problems created by our government blocking the private sector from using high level cyphers is more acute than in former times because the market is now global and people abroad are using far better systems of encryption than are allowed to Americans.

While money used to be mainly the province of banks and governments, now almost everyone is in the act. The Federal Reserve still issues its currency as legal tender and profits handsomely from seigniorage. A quasi-government agency, the post office issues 200 million money orders a year, and every type and kind of private business is issuing debit and credit cards, and smart cards, and the entrepreneurs of the world are busy creating more and better forms of cybercash.

Today when money laundering is a major activity for drug lords, and it is said for some political contributions, some forms of E- cash present major problems for law enforcement officials. Governments will want audit trails, but individuals may want privacy. The legal situation of venue is also murky. No consensus has emerged as to what nation's laws would apply for transactions in cyberspace. As a recent Treasury study dryly put it: "Nation states may find unilateral enforcement of electronic money related rules difficult."[16]  Since any product of the mind can be communicated as a stream of digital bits, the situation grows more complex. One thing is certain: At the end of the day the value of a currency rests on the productive capacity of the people who use it. In today's world that productive capacity rests, to a large extent, upon the fact that information applied to work is creating wealth. As Bill A. Frezza has pointed out, if ordinary people are able to create and exchange wealth on the Net "...The underlying products of their creative output upon which the value of money will be based - may never exist in the physical world. And since that wealth may not have to be exchanged for government fiat currency in order to be useful, there may be scant opportunity to seize it."[17]  It is not beyond the realm of possibility that counterfeiters of E-cash could create their own mints, that hackers can and will break encryption systems said to be secure, and tax collectors will be frustrated as they attempt to move through cyberspace.

Technology has always moved faster than governments, and technology as it affects money is no exception. The private issuance of things that have the appearance of being money is accelerating, and public policy issues will grow along with that phenomenon. There seems little doubt that one day there will be significant commerce moving over the Net. What kind of money will be used, who will issue it, who will redeem it are all open questions. What is clear is that we are witness to a real revolution, the consequences of which are only dimly visible.

"A commerce whose primary form of money is data," David Bollier has written, "alters many of the implicit assumptions we have about contemporary organizations."[18]  All this has caught the attention of our government, and the Secretary of the Treasury convened a group of experts this September to ventilate the problem.

John Reed at that Treasury Conference when called upon to examine some of the problems and opportunities of electronic commerce, suggested what might be called the ultimate mutation of the organization when he said "...that at some time well into the future banking is going to be a little bit of application code on a smart network." He added "It's going to take longer to get there than we would think."

There is little doubt that technology and innovation will create new monetary abstractions and new forms of organizations, which no one can predict with any certainty. Old technologies, like the Fax machine which lay fallow for years, may develop in new and unexpected ways. It may even be that old definitions have to be rewritten to help us understand this new world. At that same Treasury Conference, Alan Greenspan, Chairman of the Fed, took note of this and urged the government to go slow with rules and regulations for the new world.

"In the current period of change and market uncertainty," he said, "there may be a natural temptation for us--and a natural desire by some market participants--to have the government step in and resolve this uncertainty, either through standards, regulation, or other banking policies. In the case of electronic money and banking, the lesson from the Automatic Clearing House is that consumers and merchants, not governments, will ultimately determine what new products are successful in the marketplace. Government action can retard progress, but almost certainly cannot ensure it.

"Before we set in stone a series of rules for this emerging new medium, let us recall that, across many industries in the economy, forecasting the particular direction of innovation has proven to be especially precarious over the generations."[19]  So we come back to Gertrude Stein - the money is always there, but increasingly it is a different kind of money, and often it has the ability to change pockets with the speed of light. The specific impact of these events on our lives, our laws, and our politics and businesses is still unclear, but what is clear is that the financial world we have known is changing rapidly and will never be the same again.

[1] Friedman, Milton & Schwartz, Anna, A Monetary History of the United States. Princeton University Press, p 700

[2] Braudel, Fernand, The Structures of Everyday Life, Harper & Row, p 444

[3] Glasner, David, Free Banking and Monetary Reform, Cambridge University Press, p 30

[4] Glasner, David, Free Banking and Monetary Reform, Cambridge University Press, p 31

[5] Gleick, James, The New York Times Magazine, June 16, 1996, p 30

[6] Dwyer, Jr., Gerald P., Wildcat Banking. Banking Panics and Free Banking in the United States, p 22

[7] Hayek, F. A., The Fatal Conceit, University of Chicago Press, 1988, p 103

[8] The Essential Adam Smith, edited by Robert L. Heilbroner, W. W. Norton & Co., p 233

[9] Drucker, Peter, Post Capitalist Society, Harper Collins, p 142-3

[10] Friedman, Milton, Money Mischief, Harcourt Brace Jovanovich, p 8

[11] American Banker, 9/26/95

[12] Wenninger, John and Laster, David, Current Issues, April 1995, published by the Federal Reserve Bank of New York

[13] U.S. Department of Treasury, "An Introduction to Electronic Money Issues," Sept. 1996, p 33

[14] The BCA Interest Rate Forecast, May 1996, Volume 18 Number 5

[15] Chaum, David, Cato Policy Report, July/August 96, p 10

[16] U.S. Dept. of Treasury, op cit, p 33

[17] Frezza, Bill A., Cato Policy Report, July/August 1996, p 11

[18] Bollier, David, The Future of Electronic Commerce, Aspen Institute, p 27

[19] Greenspan, Alan, "Electronic Money & Banking: The Role of Government" at U. S. Treasury Conference, Sept. 17, 1996