The case against the penny

Mike Moffatt delivers the coup de grâce for the penny in today's Ottawa Citizen. Go read it. Tell your friends to read it. Tell your MP to read it.

Comments

[Robert McClelland]

Is "coup de grâce for the penny" a euphemism for "wastes his time"? There are very few no-brainer situations in politics these days, but when nobody showed up at the commission to defend the penny and nobody to my knowledge has even bothered to make a peep about eliminating it this became one. I'd say it's almost certain we're going to see the elimination of the penny announced as part of the spring budget.

[Mike Moffatt]

Thanks for the plug!

Robert: Piece came about because of a debate on Twitter (now THAT is a waste of time) with a well-known pundit who, in fact, took the opposite view.

[Stephen Gordon]

And it's by no means a sure thing that the government will in fact kill the penny.

[Michael]

I'm so glad Australia doesn't bother with 1 or 2 cent coins now. In fact, I'd love to get rid of 5 cent coins as well. I just keep accumulating the damn things and no one wants to take them.

[Robert McClelland]

Really Mike. Who was this well know pundit and are you sure he wasn't simply playing devil's advocate.

Since when do the Senate's views matter, Stephen.

[Mike Moffatt]

"Really Mike. Who was this well know pundit and are you sure he wasn't simply playing devil's advocate."

For that you have to subscribe to my Twitter feed. And for the latter - yeah, it's certainly possible.

And I don't see how you can be so certain the one cent coin will be eliminated when the Conservatives have stated they have no plans in this area.

[Nick Rowe]

If it were that easy, politically, to get rid of the penny, it would have been gotten rid of decades ago. It's a good idea, but there isn't a big lobby group of people who are prepared to fight and argue for it. Nobody can say it's a really big benefit. The forces of sheer inertia are powerful.

[Stephen Gordon]

Yep. When the $1 and $2 coins were brought in, there were lobby groups (transit companies, coin machine operators, etc) that were willing to tell anyone who would listen about the benefits of the switch.

Maybe someone should make a TV ad featuring a harassed cashier at the dollar store.

[Robert McClelland]

And I don't see how you can be so certain the one cent coin will be eliminated when the Conservatives have stated they have no plans in this area.

I just don't see how they can refuse to save $130 million per year--especially in a time of deficits--when there is no real opposition to the idea. Also because if they don't do it in the spring budget it'll almost certainly trigger a tsunami of op-eds condemning them for not doing it.

[Mike Moffatt]

"I just don't see how they can refuse to save $130 million per year--especially in a time of deficits--when there is no real opposition to the idea."

What do deficits have to do with it? It isn't $130 million of government money being wasted. And I think you're downplaying the potential opposition.

But that being said, I'm always open to a wager. What kind of odds are you giving?

[Determinant]

The Royal Canadian Mint is a Crown Corporation. All of its profits are paid into the Consolidated Fund. Eliminating the loss-making Penny will therefore improve government revenues by improving the Mint's profits.

[Frances Woolley]

Nick: "If it were that easy, politically, to get rid of the penny, it would have been gotten rid of decades ago. It's a good idea, but there isn't a big lobby group of people who are prepared to fight and argue for it."

Actually charities like the Salvation Army are lobbying for it - if people can't drop in a bunch of pennies, they'll drop in nickels and dimes and quarters instead. Much more valuable.

And think how much it costs businesses - one or two seconds per cash transaction*number of cash transactions in Canada=a lot of money. People who hold up the line while searching through their change for 4 pennies. And banks - every so often I roll up my pennies and take them all into the bank - it's hassle and no revenue for the banks. That's where the political pressure is coming from.

A couple of random thoughts/observations:

We could just officially adopt the American penny, and buy pennies from the US instead of minting them ourselves. It would be cheaper.

Rob Gilroy asked the people who write for the G&M to send in their best policy ideas of the year. I wrote in with "eliminate the penny" about two or three days before Senate committee reported - if he'd published it right away I'd have looked so prescient. As it is: not.

[Mike Moffatt]

"The Royal Canadian Mint is a Crown Corporation. All of its profits are paid into the Consolidated Fund. Eliminating the loss-making Penny will therefore improve government revenues by improving the Mint's profits."

True, though the $130M figure is from "...the cost to retailers and financial institutions in handling, sorting and depositing pennies." Not the cost of production.

"Rob Gilroy asked the people who write for the G&M to send in their best policy ideas of the year. I wrote in with "eliminate the penny" about two or three days before Senate committee reported - if he'd published it right away I'd have looked so prescient. As it is: not."

I think Kevin Milligan and I picked the same one, so I'm just going to look like I stole his.

[Stephen Gordon]

Just to get back to those dollar store cashiers. Before the Conservatives reduced the GST, GST + QST = 0.15 here in Quebec, so all transactions at the dollar store were in increments of 0.05 - they never had to deal with pennies, unless people paid with them. Then the GST was cut, and everything got out of whack, and now they spend any number of person-hours counting out pennies.

[Frances Woolley]

Stephen, fascinating. The dollars stores could eliminate pennies by lowering prices to 97 cents (or raising them to $1.02).

If they don't lower prices, that provides an upper bound on the per transaction cost of dealing with pennies.

But how vain are we that we think we can be prescient and/or original anyways?

[Ed Seedhouse]

I am all for eliminating the penny, but a bad argument is a bad argument no matter how good the cause, and it seems to me that the fact that a penny costs more than it's face value to manufacutre is just that. A bad and illogical argument.

A penny, once manufactured, will be used hundreds or thousands of times to exchange value, and the total of those exchanges will dwarf the cost of manufacturing it. If a penny circulates for ten years and is used once a day it will mediate the exchange of $36.50 of value, far in excess of it's nominal face value and far in excess of the cost of manufacture.

By all means let's get rid of it, but let's also stop making dishonest and fallacious arguments in favour of doing so.

[Nick Rowe]

Ed: actually, it's a good argument. Normally when the government creates money, the government earns revenue from doing so, called seigniorage. For example, if the government prints a $20 bill, and it costs 10 cents to print, then the government (via the Bank of Canada, in the case of bills) earns seigniorage of $19.90. (Actually, it's less than this, since the bills wear out, and the BoC needs to print new ones every so many years.) But if it costs more to make a penny than 1cent, then that seigniorage is negative. It's a subsidy on "printing" money. And that subsidy has to be paid for through higher taxes. So, unless you can show some positive externality that would justify that subsidy, it's inefficent.

And if the rest of the argument is that we can manage just as easily without the penny, maybe even better without the penny because of the high handling costs, then there is no positive externality. If anything, it's negative. So there is no justification for the subsidy.

[K]

Ed:  "it will mediate the exchange of $36.50 of value"

It won't.  If transactions have random fractions of a penny, it will mediate between -0.5 and 0.5 cents per transaction.  On average it will mediate *nothing* with a standard deviation of 0.5*sqrt(3650)=30 cents over 10 years.  If I bet you the outcome of a mean-zero normal distribution with a 30 cent standard deviation, how much will you pay me to get rid of that risk?  My answer to that question is "nothing".  And if I can get rid of pennies at the same time, I would gladly take that risk *and* even pay something for it.

[K]

I'll restate that: actually the penny mediates what can't be mediated by the nickel.  So a random 2.5 cents rather than 0.5 cents.  So $1.50 standard deviation over 10 years.  I stand by the rest.

[Bob Smith]

Frances: "We could just officially adopt the American penny, and buy pennies from the US instead of minting them ourselves. It would be cheaper"

Back when the dollar was at US$0.63 I had a friend back in grad school who spent too much time trying to work out the math on a penny arbitrage scheme where he slipped cdn pennies into rolls of US pennies and exhcnaged them for real money. It was a clever scheme, in theory, but the transaction costs did him in.

[adjacent / q]

wouldn't it make more sense, in terms of changing costs, to wait until it makes sense to get rid of the five cent piece and do both at the same time?

[K]

Maybe we could already get rid of the nickel. And the dime too. So long as rounding is unbiased and the coin is way smaller than any transaction I don't see why we need it. In Denmark, for example, they have eliminated everything less than one krone, or about 18 cents. Doesn't seem to bother anyone.

[Declan]

The penny itself is obviously a fairly trivial issue, but I treat it as a sort of litmus test for the maintenance of our culture/society/economy. If we can't even deal with the obvious housecleaning, how much confidence can we have in our ability to deal with more serious issues?

[Determinant]

Frances:

The Mint actually has a significant business minting coins for other countries. They will fight tooth, nail and claw before allowing others to take over their home turf.

[happyjuggler0]

I'd make pennies worth 5 cents, and stop minting nickels. Also make both worth 5 cents, and make them both legal tender. If they are like US coins, the nickels cost more to create, and amongst other things contain more copper than pennies do.

By the way, the special interest you'd be fighting are the mining companies. My apologies if I missed it and someone already posted that fact.

[RSJ]

Hmm, let's kill the penny both in the U.S. and elsewhere.

But "seignorage", in the era of central banking is not the difference between the production price of a bill and the face value of a bill, because the government does not "print" $20 of money and then buy $20 of goods. The central bank creates money and buys bonds with it, and the banks turn around and deposit the newly created money with the CB, and get interest payments on the amount.

Suppose, for example, if 1 year bond yields are 1%, the CB pays .25% on reserves, and the CB purchases creates $10 billion of new 1 year bonds, and the cost of doing this is $1 million.

Then the seignorage income to the government is not going to $9,999 million, but $74 million in that period.

That number will go up and down as interest rates change. If, immediately afterwards, the CB hikes rates to 2%, then it will be a seignorage loss, because it is paying 2% on reserves while obtaining 1% from the bills, for a loss of $100 million.

Suppose that rates do not change, and they stay forever at 1% for 1 year bills and .75% for 0-day reserves. Then, the CB will get $74 years in perpetuity -- just like a bank, it earns money from the spread between the rate on the assets it chooses to buy and the deposit rate, or the overnight rate on reserves by the CB.

So, for example, if you really believe in the pure expectations hypothesis, then it would be impossible for the government to earn any seignorage income at all, on average.

If you relax that assumption and just believe that there is a term premium, then this premium will determine the seignorage income of the government for creating an additional dollar.

[Nick Rowe]

RSJ: Ignore printing costs for simplicity. Suppose the CB prints $100 and buys a $100 bond, issued to finance $100 of government spending. Suppose the bond is a perpetuity that pays 5%, and so the CB earns $5 per year. There are two ways to calculate the seigniorage:

1. $100 that the government spends today.

2. The Present Value of the $5 per year the CB earns, discounted at 5%, = $100.

Depends on how you want to do the accounting.

If currency pays no interest, and bonds do, there's the term premium right there.

[RSJ]

But when the government creates $100, it doesn't have control over whether that $100 ends up as currency (held by the public outside of the banks), or whether that $100 ends up as reserves (held by the banks).

Currency does not pay interest, but reserves do -- i.e. the interest paid on reserves is the CB target rate.

So now you have a tension between the CB's goals of maintaining a policy rate, and the government's ability to create money.

If the non-bank sector doesn't want to hold the $100 as currency, because they already have enough, then they will not, as some models assume, drive up inflation as they struggle to rid themselves of the currency but are unable to do so. They are able to rid themselves of the currency by depositing it. They push the $100 onto the financial sector, which ends up with excess reserves and the CB loses control over the policy rate.

There are currently two options of dealing with this. First, the CB can drain the excess reserves by selling a bond, so that the combined CB + government doesn't add cash to the economy, and there are never any excess reserves. In that case, you don't need to pay interest on reserves, but you lose control over the ability to issue any more money than the banking system needs in order to fulfill reserve requirements.

The second option is to go ahead and issue money whenever you want, but to pay interest on the $100 so that the cost of obtaining reserves remains the policy rate.

In either case, the seignorage is the difference between the interest paid on the bonds that the government+CB retires and the interest paid on reserves. I.e. both options result in exactly the same amount of seignorage, which is not bond rate - currency rate, but bond rate - overnight rate.

[Ed Seedhouse]

Ed: "it will mediate the exchange of $36.50 of value"

K:It won't. If transactions have random fractions of a penny

But it can't be used for transactions with values of random fractions of a penny. You are in effect claiming that a penny may be used as money to exchange value thousands of times without any actual value being exchanged. That's simply nonsensical on the face of it.

[Ed Seedhouse]

Nick: "Normally when the government creates money, the government earns revenue from doing so, called seigniorage."

But it'a irrelevant to the question of how much exchange of value the coin mediates over it's lifetime. The face value of a coin or a bill only applies to a single transaction. But either is involved in many many transactions and therefore is involved in making transactions possible that far exceed it's face value. The fact that a government or mint may only be paid a penny when it sells a coin that cost it a penny and a half to make is irrelevant to the purpose of the coin, which is to mediate exchanges of real, actual value. And it is as a medium of exchange in which the only real value of the coin resides. The value of money held in bank accounts and transferred electronically is virtually zero, yet it is just as effective a medium of exchange as the physical penny that may be used instead.