Expenditure on social protection will lead to accumulation of debt if not financed through revenues, grants or donations. A part of expenditure on social protection can easily be financed through government-issued currency in a reasonably lower denomination, without being inflationary. A simple way to understand this is to think about how the old one-rupee note worked. This note was issued by the Government of Pakistan and it was practically like a coin but made of paper. Unlike SBP-issued bank notes of higher denominations, it did not create any liability in the books of central bank, simply because it was booked as an asset. Any note issued by SBP increases its liability, which must be backed by an asset (either a loan to government, or to the private sector, or through acquiring foreign assets).
One-rupee note, however, became worthless due to inflation and discontinued long time back. Value of one rupee was financially significant in 1947 and its purchasing power did not decline much till early 1970s. Later on, its value deteriorated rapidly before its demise. One-rupee bought around eight litres of fresh milk in 1947, whereas it bought only eleven milli-litres in April 2021. In other words, one-rupee in 1947 was able to buy over 700-times more milk than it did in 2021. While a better comparison of purchasing power is possible only through use of appropriate price indices, the comparison through milk helps put things in perspective for this discussion (milk almost always has the highest share in household expenditure among food items, or in overall basket after house rent). An estimate based on spliced series of CPI from June 1949 to April 2021 indicates that the purchasing power of one-rupee of 1947 is close to two hundred rupees of 2021.
The issue of one-rupee currency note generated some amount of direct nominal seigniorage (ignoring printing costs) to the government, which can also be expressed as a proportion of total stock of currency (inclusive of all coins, one-rupee note, and currency notes of higher denominations). Direct seigniorage earned in this manner went as high as 9.5% of stock of currency issued in 1965 (see Table 1 and Figure 1). Between 1959 and 1968 (Decade of Development of Ayub era), this ratio remained above 8% (on average, 8.7% during these ten years). Later on, due to loss of purchasing power of one-rupee and coins, it started to fall and came close to 1% in 1999 and declined further onwards close to 0.3% in 2015 (indicating practical demise of one-rupee and coin-use in our economy). This trend gives us an indication that the seigniorage earned in this manner remained non-inflationary even when its share was as high as 9.5%. Besides, and more importantly, one-rupee note did not create any debt for the government either through SBP or the commercial banks.
It should be noted that the issue of currency notes by SBP also resulted in seigniorage through interest earned on public debt (mostly T-bills) created at the back of note issue. Central bank seigniorage, however, is lower than the face value of notes issued as it is the interest earned on the face value of debt held by the central bank. This seigniorage is, of course, also transferred to government through its profits and becomes a part of non-tax revenue.
Currently in 2021, under the onslaught of the third wave of Covid-19 pandemic worldwide, Pakistan is also going through a difficult economic phase and needs all the methods (other than borrowing from SBP) to financially equip its government to lessen the immense and mounting economic burden. It is the right time for the government to start issuing its own currency notes, which have a purchasing power not very far from that of one-rupee note in 1947. I propose that a newly designed note in the denomination of Rs 200 be issued as soon as possible. This will help the government to supplement its diminishing fiscal space with non-inflationary and non-debt creating seigniorage revenue, like one-rupee did it in the past.
One-rupee note was issued by the government under Pakistan Currency Act, 1950. This act, however, binds the issue to denomination of one rupee only. This legal limit was very prudent for that time. However, due to the cumulative inflation since then, this law seems too restrictive now in 2021 and needs to be suitably amended to allow issues up to Rs 200. Denominations exceeding Rs 200 should continue to be in the domain of SBP, without any change in existing denominations. Proposed system will ensure that the share of government-issued notes (in stock of total currency issued) will remain below the single digit (as percentage of total stock of currency) and will not create pressures for excessive currency creation.
During the initial year of printing of Rs200 note, these can be issued in the amount equivalent to a share of 10% of total currency notes issued (i.e., 10% of the yearly flow of total issue). For example, if Rs 900 billion of total currency is to be issued during 2021-22, Rs 90 billion may come from Rs200 notes. Share of Rs200 note will initially be a minuscule portion of stock of currency issued in this manner, and unlikely to go beyond 3 or 4% even after a few of years. Actual share will depend on its demand for currency in circulation, as it replaces some Rs100 and Rs500 notes gradually. Its demand should be actively created by asking commercial banks to use reasonable amounts in ATMs, as well as distributing it partly in place of Rs500 note, or Rs100 notes, whenever possible.
In this manner, government can earn direct seigniorage revenue every year, without creating any debt. As explained earlier, Rs200 note issue will not cause inflationary pressures because the total money created in this manner will remain a small proportion of total currency issued.
It is very easy to misunderstand a proposal about financing through printing of money. It is, therefore, important to emphasize that this proposal is not about printing any additional currency (over and above whatever amount currently being printed). This proposal is about printing a small portion of currency in a manner that lessens the burden of domestic debt for the government. In this sense it is going to be much better compared to the existing system.
Keynes (1923) had very succinctly written the following about monetary financing in his ‘A Tract on Monetary Reform’:
“A government can live for a long time…by printing paper money… it can by this means secure the command over real resources, - resources just as real as those obtained by taxation. The method is condemned, but its efficacy, up to a point, must be admitted.” (Emphasis mine).
What is remarkable here is that despite condemning this method of raising resources, Keynes clearly realized its strength, if not done beyond a certain limit. Global experience of great depression of the 1930s and great recession of 2008 indicates that the “Keynes Point” becomes much larger during crises compared to whatever it is in normal times. This is also happening in current period of COVID-19 pandemic. Almost every country of the world is seeing and will continue to see for some time to come, increased reliance on monetary financing (or quantitative easing).
There are essentially two methods of issuing currency (see Bibow,2018). First is that government mints coins or itself issues currency (like the defunct one-rupee note). In this case, government earns seigniorage revenue in terms of the face value of coins and currency, less its minting or printing costs. Second is that the central bank issues its notes (like SBP banknotes of Rs10 and higher denomination), which come into existence after SBP purchases financial instruments from government (debt held by SBP), or government sells T-bills/bonds to financial institutions (debt held by commercial banks), or SBP makes loans to banks or to the private sector (like export finance etc.). In this case seigniorage is earned by the SBP in terms of its earnings on its assets less payments on its liabilities, which is much less than the direct seigniorage earned through the first method.
In times of crises (financial or like pandemic-induced), which are likely to have medium to long-term impacts, first method should obviously be preferred as it entails more revenue for government, with less accumulation of debt. In fact, some famous economists think that the first method should always be preferred. James Buchanan, Nobel Laureate 1986, has advocated this forcefully in his works. “The efficient means of purchasing the services of unemployed resources is through inflation of the currency”. (Public Principles of Public Debt, 1958, page 125). What Buchanan proposed is to create money without increasing the liability of a central bank in a way resources are transferred to fiscal authorities for undertaking employment generating development expenditures, and without increasing public debt.
The first method, however, is less preferred in modern central banking and almost out of fashion now. Proponents of the first method like Shaw (1930) passionately advocated state-issued currency to the extent of writing, “… suppress the Bank of England Note and Bank of England control. We must reinstate the state note and the principle of uncontrolled automatic self-regulating issue. And this we must do while yet there is time. We must not wait for the next great war or for another world-encircling financial crash.” Shaw (page 80) was referring to British Treasury notes issued during the First World War but discontinued in 1928. Opponents like De Kock (1939) stated, “… this is generally accepted as proof in itself that the central bank has been found by experience to be more suitable and appropriate medium for the issue of note currency, …” (De Kock, page 32).
The fact of the matter is that both the methods can either be put to good use, or abused by the state. The first method can be abused by dumping excess state-issued notes to the central bank for distribution, while the second method can be abused by dumping financial instruments (like T-bills) to central bank. In both instances, high or hyperinflation may result depending on the amount of excess dumped. The first method, however, will not result in accumulation of domestic debt due to purchase of T-bills by central bank. But at the same time, the first method will deprive the central bank of seigniorage revenue. It will also deprive commercial banks some of their seigniorage revenue. However, for my current proposal this debate is not practically relevant as it is not advocating the first method for complete adoption. Second method, i.e., central bank-issued notes should continue to dominate the first. Notes of smaller denominations can be issued by the state and the notes of higher denominations by the central bank. Moreover, this method had already been practiced in Pakistan and worked without any problems.
Present proposal for government-issued currency note of Rs200 will put some of the needed real resources at the hands of the government close to purchasing power of one-rupee in 1947. It may be prudent for the government to earmark seigniorage revenue earned in this manner only for expenditure on social protection or health sector.
(The writer is the former Deputy Governor, SBP)
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Table 1: One-rupee and coins as % of Currency Issued.
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End-June 1-rupee and coins Currency Issued 1-rupee and
(Million Rs) (Million Rs) coins as %
of Currency Issued
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1950 80 1,845 4.3
1955 233 2,768 8.4
1960 350 4,029 8.7
1965 522 5,481 9.5
1970 568 7,716 7.4
1975 525 11,474 4.6
1980 1,058 30,236 3.5
1985 1,940 60,799 3.2
1990 2,302 120,817 1.9
1995 3,276 232,589 1.4
2000 3,258 376,997 0.9
2005 6,760 712,480 0.9
2010 8,271 1,385,548 0.6
2015 8,298 2,715,556 0.3
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Source: Based on Table 4.2, Handbook of Statistics on Pakistan Economy 2015, SBP
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Copyright Business Recorder, 2021
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