The “Real Bills” Doctrine: A Modern Application?

A blogger named Syzygy just wrote this comment to the entry called “Why Not Gold?” below.  The query was about the “real bills” doctrine, but I’ll quote the whole thing, as it was nice! —   

“Am one-third through your book now.  Of the hundreds of non-fiction books I’ve read, yours easily deserves a place in the top ten.  Astonishingly well done and important.

“As for this Fekete/Hultberg stuff, I don’t understand a word of it.  Will you please post your understanding of it on your site?

“I confess I’m pretty skeptical of gold/silver standards; what’s to stop foreign creditors from simply sucking out all the specie?  If the Saudis, Chinese, and Japanese could exchange their declining US dollars for gold and silver bullion, wouldn’t they do that in an instant?” 

                                                                 — Syzygy

 Thanks Syzygy.  I agree that gold would just be vacuumed out by dollar-holding foreigners.  That’s exactly what happened before 1971, when Nixon finally closed the “gold window” to preserve what little gold was left at Fort Knox.   Fekete and Hultberg propose fixing the gold system by supplementing gold with “Real Bills” as was done in the 19th century.  (See Hultberg, “The Future of Gold as Money,”, February 1, 2005.)  I’m currently doing a book revision (to be available hopefully in early January) that contains a brief discussion of the Real Bills Doctrine, which I’ll post it here:

The “Real Bills” Doctrine

If using gold as a currency is plagued with so many problems, why did it work reasonably well right up to World War I?  Nelson Hultberg and Antal Fekete argue that gold was able to function as a currency because it was supplemented with a private money system called “real bills” – short-term bills of exchange that traded among merchants as if they were money.  Real bills were invoices for goods and services that were passed from hand to hand until they came due, serving as a secondary form of money that was independent of the banks and allowed the money supply to expand without losing its value.8 

The “real bills” doctrine was postulated by Adam Smith in The Wealth of Nations in 1776.  It held that so long as money is issued only for assets of equal value, the money will maintain its value no matter how much is issued.  If the issuer takes in $100 worth of silver and issues $100 worth of paper money in exchange, the money will hold its value since it can be cashed in for the silver.  Likewise, if the issuer takes I.O.U.s for $100 worth of corn in the future and issues $100 worth of paper money in exchange, the money will hold its value, since the issuer can sell the corn in the market and get its money back.  Or if the issuer takes a mortgage on a gambler’s house in exchange for issuing $100 and lending it to the gambler, the money will hold its value even if the gambler loses the money in the market, since the issuer can sell the house and get its money back. 

Professor Fekete observes that the real bills system works to preserve monetary value only when there is gold to be collected at the end of the exchange, but other commodities would obviously work as well.  One alternative that has been proposed is the “Kilowatt Card,” a privately-issued paper currency that can be traded as money or cashed in for units of electricity.10  The nineteenth century Greenbackers relied on the “real bills” doctrine when they contended that the money supply would retain its value if the government issued paper dollars in exchange for labor that produced an equivalent value in goods and services.  The real bills doctrine was rejected by twentieth century economists in favor of the quantity theory of money, but it is actually the basis on which the Federal Reserve advances credit today: it takes mortgage-backed loans as collateral, then “monetizes” them by advancing an equivalent sum in accounting-entry dollars to the borrowing bank.9 


That was what I had written, but in response to Syzygy’s question, I too don’t understand how adding “real bills” would allow a modern-day gold standard to work any better than it did in the 19th century, when it precipitated periodic serious depressions.  Why not just use the “real bills” and skip the gold?  Roosevelt took the dollar off the gold standard domestically for the same reason Nixon took it off internationally: people were cashing in their dollars for gold, draining gold reserves and collapsing the supply of paper dollars, which in 1933 were backed by 40 percent gold reserves.  That meant that whenever two paper dollars were cashed in for gold, three other paper dollars issued as loans had to be called in as well.  If Roosevelt had let it go on, the money supply could eventually have collapsed completely.

What I like about the real bills doctrine, though, is that it defines the difference between money created out of nothing just to pay off loans to banks (the sort of loans being madly extended right now by central banks in an effort to bail out commercial banks) and Greenback-style money issued  as receipts for real goods and services (as Lincoln and the Guernsey Islanders did it).  The latter was “backed” by something; supply balanced demand, so no inflation resulted.  The Fed/central bank version is HIGHLY inflationary, because it pumps ever more “demand” into the system without creating anything productive to balance it in the way of “supply.”   

9 Responses

  1. Happy New Year Ellen!

    It just occurred to me reading the Real Bills Doctrine that the only way it will work is if value is NOT a function of any standard (i.e. gold, silver).

    1. The standard is simply a means by which to manipulate it later.

    2. Total known and acknowledged transparency from the very beginning is the only way to start from a clean slate that confers no advantage in the flavor of the standard.

    3. Putin on the cover of Time (wtf?) looks to me like a very convincing Vladimir Goldstein (Big Brother).

    New Meaning to some old Double Meanings:

    MAKE MONEY (banks)
    FREE LUNCH (markets)
    GET SMART (life)

    Where there is a will, there is a way to wreck it.


  2. Cheers and happy New Year to you too! I’m hoping for big positive changes without too much upheaval getting there. Best, Ellen

  3. I’m glad to see the real bills doctrine being discussed, but it needs some clarification, which you’ll find at

    or click on my name below.

    The RBD holds that the paper dollar is backed by the assets of the federal reserve, and that if the fed issues 10% more money, while acquiring 10% more assets in exchange, it will not cause inflation.

  4. Thanks — very clear explanation!

  5. Hi Ellen:

    I hope your readers haven’t confused my statement of the real bills doctrine with the textbook presentation, or that of Antal Fekete. Both of those views hold that the real bills doctrine works when money is only issued in exchange for “real bills”. In this way, they say, the quantity of money will move in step with real output and prices will be stable. This implies, for example, that money can safely be issued in exchange for a farmer’s IOU, but not for a gambler’s IOU.

    My view of the real bills doctrine holds that it is only the value of the bills that matters–a gambler’s IOU works as well as a farmer’s IOU, as long as both IOU’s are backed by assets of adequate value. My favorite way of stating the real bills doctrine is this:

    The value of money is equal to the value of the assets backing it.

    This has two main implications: (1) There is no such thing as fiat money, since all money is backed by the assets of the institution that issued it. (2) If the money supply rises in step with assets, the value of the money will not change. If money outruns assets, the value of the money will fall, and if assets increase more than money, there will be deflation.

  6. Maybe, but what if the assets supposedly backing the money aren’t there? For example, the Fed issues several hundred billion dollars in loans to banks in exchange for mortgages on which the debtors have defaulted and the property is no longer worth what it was just swapped for?

  7. That’s the case of money outrunning assets, and there will be inflation. For example, if a bank has 100 ounces of silver as backing for 100 paper dollars, then each dollar will be worth 1 ounce. If the bank then issues another 100 paper dollars in exchange for mortgages that are worth only 98 ounces, then the value of the dollar will be 198/200=.99 ounces/$

  8. Suppose a county were to issue its own currency to pay for a new building. The money wouldn’t be legal tender, but would be accepted for property taxes. Wouldn’t the taxpayers be better off by avoiding the interest of a bond proposal?

  9. Yes! I think there is no reason local governments couldn’t issue their own credit of some sort.

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