July 26, 2005
Gordon Brown grabs for seigniorage

Three long-standing commercial banks in Scotland and four in Northern Ireland continue to be allowed to issue their own banknotes – a business legally monopolized by the central bank in most countries – under provisions of the Banknotes (Scotland and Ireland) Acts of 1845. Each bank is required by the law to hold 100% reserves against its notes in circulation, beyond a specified initial uncovered issue, in the form of central bank liabilities (Bank of England notes) that pay them no interest. (Part of my doctoral dissertation was about the history of these arrangements.) The reserve requirement means an interest-free loan to the UK government that owns the Bank of England. The technical name for the BOE’s profit from having its note held is “seigniorage”.

Compliance with reserve requirement is currently monitored and enforced once a week, on Saturday evening. That detail was news to me, but not to the vigilant Gordon Brown, who is Tony Blair’s Chancellor of the Exchequer (equivalent to the Secretary of the Treasury in the US). The banks naturally invest in interest-earning assets during the week, and switch to 100% BOE note backing just in time to pass inspection. Brown’s staff has today published a report estimating that the UK government can get an additional £80 million a year in seigniorage by making the reserve requirements continuously binding. Reports the Times:

Mr Brown has decided that this [once-a-week compliance] gives the eight [sic] banks involved an unfair advantage over other institutions, as well as cutting into his revenues.

The Treasury proposes a Bill to oblige all eight of the Scottish and Northern Irish banks to back their own notes with Bank of England notes at all times. That would also hand supervision of the arrangements to the Bank of England, rather than the Revenue Commissioners who now police them.

Stripped of technicalities, Brown is proposing a tax increase on the issuing banks. The result will be poorer service for their customers. It will, for example, take away the banks' current incentive to off ATM withdrawals of their own notes free of transaction charges.

As far as "unfair advantage" goes, UK banking law could be amended to allow newer banks the same note-issuing rights.

Note: I spend a week in Belfast every year, and as far as I know, there are only seven banks of issue today in Scotland and Northern Ireland combined. The news article lists “the National Bank” as a fifth issuer in Northern Ireland, but I’ve never seen any notes in circulation from a bank with that name. The National Bank of Ireland was absorbed by the Bank of Ireland in 1969. (The National Bank of Scotland was absorbed by the Royal Bank of Scotland in the same year.) Perhaps the article is double-counting the National Australia Bank Group, which owns the Clydesdale Bank in Scotland and the Northern Bank in Northern Ireland.

Posted by Lawrence H. White at 02:02 PM in Economics  ·  TrackBack (0)

The statesman who should attempt to direct private people in what manner they ought to employ their capitals would not only load himself with a most unnecessary attention, but assume an authority which could safely be trusted, not only to no single person, but to no council or senate whatever, and which would nowhere be so dangerous as in the hands of a man who had folly and presumption enough to fancy himself fit to exercise it. -Adam Smith

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