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Thursday, February 01, 2007

Rebasing the Penny

More talk of eliminating the penny:

Economic Scene Now That a Penny Isn’t Worth Much, It’s Time to Make It Worth 5 Cents, by Austan Goolsbee, Commentary, NY Times: How dumb do you have to be to mint money at a loss? In the latest only-in-Washington episode, we find that the government may have lost as much as $40 million coining pennies and nickels last year.

The metal in them — the zinc, copper and nickel — has soared in value in the last few years, making the coins more valuable as raw materials than they are as currency. The government reaction has been to ban the melting of the coins to get the metal. ...

Our coins are just tokens... They are valuable only because the government says they are — because the government is willing to trade them for dollars.

And making tokens that cost more to manufacture than they are worth is monetary insanity. We could make them out of any material we want, so why in the world would we lose money?

To stop this senselessness, we would seem to have only two choices: debase the coins (i.e., make them out of something cheaper) or abolish pennies (and, perhaps, even nickels).

The United States has debased money in the past. In World War II, we made steel pennies to save copper. In the 1960s, the high value of silver caused a run on quarters and dimes and led to a full-blown coin shortage until we substituted copper and nickel. We also took most of the copper out of pennies in 1982 for the same reason.

But debasement only puts off the inevitable for a short time. Because the penny is fixed in value at 1 cent, no matter what the penny is made of, the cost of its material will rise with inflation and eventually be worth more than a cent.

Most economists, then, argue that we should use this opportunity to abolish pennies... But polls show that a majority of Americans like their pennies, and abolition might lead people in Illinois — the land of Lincoln, where pennies still work at tollbooths — to outright currency rebellion.

On top of that, Raymond Lombra, an economist at Pennsylvania State University, claims that the rounding of prices — a $6.49 bill would cost you $6.50 — might not be evenly distributed and might cost consumers as much as $600 million a year, a cost that would be paid disproportionately by the poor who use cash more often.

Others counter that retail stores could not get away with such shenanigans. But, clearly, the case for abolishing pennies is not universally believed. So what to do?

Mr. Velde, in a Chicago Fed Letter issued in February, has come up with a solution that would abolish the penny, solve the excess costs of making nickels, help the poor, keep the Lincoln buffs happy and save hundreds of millions of dollars for taxpayers. ...

Mr. Velde ... would rebase the penny by having the government declare it to be worth 5 cents.

At first that sounds impossible. But our coins are just tokens the government gives a value to. We can say they are worth whatever we like. ...

So pull out those sofa cushions, ladies and gentlemen, and start looking for the shiny face of Honest Abe. All that glitters may not be gold, or even nickel, but it may be worth 5 cents.

If you are wondering how the government could simply declare that pennies are worth five cents, it could offer, on demand, to exchange a nickel for a penny. Once that offer is in place, a store would accept twenty pennies in payment for a good worth a dollar because it knows the bank will always exchange twenty nickels for the twenty pennies.

I know this isn't a very good reason, but not having a "one" in the monetary system - not being able to cover all the natural numbers as prices - would bug me. But it's also true that I leave pennies in the tray at the cash register - they don't have enough value to bother carrying around.

So here's what we do. Define the base unit to be five cents. Call them fents (or something, I realize that's not a great name). One fent = five cents. Then I have my "one" back. A nickel is "one fent" and new coins could be stamped that way, a quarter becomes "five fents", a fifty cent piece would be a dime, a five dollar bill is a one dollar bill in fents, and so on.

Pennies would be gone and replaced with the new one fent piece. There are some sloppy conversions. For example, the dollar bill would become a twenty fent piece. But it could gradually be taken out of circulation and replaced with a standard 25 fent quarter, i.e. a 125 cent coin. This would appeal to people who have wanted a higher valued coin - a dollar coin in current units - for use in vending and other transactions.  Other conversions, such as the hundred dollar bill, could be handled similarly.

    Posted by on Thursday, February 1, 2007 at 02:34 AM in Economics, Financial System | Permalink  TrackBack (1)  Comments (31)

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