Theories of credit money in Japanese Marxian economics: 2 Okahashi in Banknote controversy

A. Okahashi in Banknote controversy

“Banknote controversy” on inconvertible banknote arose in Japan from the mid-1950s to the early 1960s. The gold standard suspension in the Great Depression of the 1930s. Then, after World War II, the advanced capitalist economies recovered and restored the exchangeability between main currencies. However, the convertibility to gold remained unrecovered. Can the currency circulate normally without convertibility? The controversy began with the proposition by Tamotsu Okahashi that “even inconvertible banknote is also credit money, not state paper money.” State paper money is fiat money, which has no value in itself and can circulate only by state force. Although money is not necessarily tangible such as banknotes, Okahashi and his contemporaries mainly treated the banknote as money with finality. Therefore, the banknote in this controversy means the money itself.

Many in the Banknote controversy disagreed with Okahashi’s theory, arguing that inconvertible money is state paper money that can circulate only by state compulsion. Okahashi’s argument did not spread. Therefore, it is essential to quote some paragraphs of Okahashi’s book.

 

A.1 Creation of credit money

According to Okahashi, credit money arises from bill transactions. In the commodity economy, obtaining a commodity needs paying money. However, the delivering money need not occur at the same time as receiving the commodity. It is also possible to receive the commodity first and pay the money after a certain period of time. The promise to “pay later” is the bill of exchange, which is the basis of credit money. If the bills cancel each other out, the proper money is no longer needed. Thus, “they act absolutely as money.” (Marx [1981] p.525)

Okahashi explains the creation of credit money is as follows:

 

In the monetary economy, receiving something must correspond to giving another. There can be no receiving without giving anything. Therefore, only if a person contributes to society can he receive what deserves his contribution. his mutual reward relationship is always strictly secured in the monetary economy. Thus the commodity circulation consists of giving and receiving through money. However, this mutual reward relationship does not necessarily coincide.  … In a particular stage of development of the circulation, the producer can receive something without giving anything. In the production relationship that allows him to delay giving for a certain period of time, a credit relationship enables receiving before giving. There, money becomes the means of payment.

The credit relationship gradually develops with money as the means of payment and gives the bill a monetary function. The bills become so-called commercial money. Commercial money arises from the mutuality of giving and receiving credit between producers and merchants. Such complicated mutual credit relationships exist in the roots of the bill circulation. Therefore, the bills can circulate as means of payment or purchase instead of the proper money. As long as the receivables and debts cancel each other out, no proper money is needed. In this way, bills can function instead of money because the mutual credit between producers and merchants establishes a corresponding reward relationship between giving and receiving. Thus, in general, commercial bills are the first alternative to the money function as a means of payment. (Okahashi  [1957] pp. 109-110)

 

The credit money is, in essence, a bank bill or bank deposit issued by bill discounting and circulates in place of a private bill. It is the money as a payment instrument peculiar to the banking system, based on the circulation of bills, and has developed from commercial money. Just as the money arises from commodity circulation, commercial money arises from developed commodity circulation with credit relationships. When banks emerge, the credit money arises through the lending of credit by banks. (ibid., p. 137)

 

Okahashi explains that credit money circulates instead of a commercial bill. Then, The commercial bill is used instead of the proper money. The proper money is a kind of commodity and is selected among all the commodities. As long as the credit money is issued on the basis of bill circulation, it is neutral to the economic process. (This neutrality will be described later in section A.4.)

Thus, the matter is not whether convertible or inconvertible, but how the banknotes are issued. When they are issued not based on bill circulation, they are non-proper banknotes.

 

Because inconvertible banknotes issued by bill discounts and securities-backed loans can contract depending on the situation of circulation, they would not remain in circulation forever. In contrast, when inconvertible banknotes are thrown into circulation with unproductive public bonds as collateral, they cannot contract and remains in circulation as a legal means of payment forever. Indeed, such inconvertible banknotes remaining in circulation obey the laws of state paper money. Nevertheless, the inconvertible banknote not originally based on the circulation of paper money cannot be the same as state paper money. Since the proper banknote is “not based on monetary circulation, that of metallic or government paper money, but rather on the circulation of bills of exchange” (Marx [1981] p. 525), it is a means of circulation peculiar to “commercial circulation” (ibid., p. 529), not one for general circulation.

Nevertheless, banknotes have entered the general circulation as legal tender in place of state paper money because some of them come to be issued on the basis of the money circulation. Thus, the problem is not whether convertible or inconvertible, but rather whether the banknote circulates as bill circulation or money circulation (Okahashi [1957] p.208).

 

Clearly, Okahashi shows that the nature of banknotes depends on the financial asset which the bank receives at their issuing.

 

A.2 Multiple ways to issue banknotes and three laws of circulation

Okahashi explains the multiple ways to issue banknotes and three laws of circulation:

 

Although the banknotes are not prescribed as the Bank of Japan’s bills, they are related to different circulations through the different properties guaranteed. Therefore, depending on different properties, banknotes flow into circulation according to different laws and are constrained by these laws. Under the gold standard, just because the banknotes are obligated to convert to gold does not mean all the convertible banknotes conform to the same law. Similarly, after suspension of the gold standard, just because the banknotes become inconvertible does not mean all the “inconvertible” banknotes are inconvertible paper money, that is, state paper money. Moreover, conversely, all the inconvertible banknotes do not have the same effect on circulation. They differ in the circulation law by the way to enter circulation or the guaranteed properties. Whether the banknote is legally convertible or inconvertible, the banknote is always tied to and constrained by gold. Therefore, in this sense, there is no monetary system other than the gold standard. It does not matter whether the conversion of banknote to gold is legally obligated or suspended (ibid., pp.214-215).

 

It is challenging to understand Okahashi’s claim that the gold standard exists even without conversion. However, it can be understandable by considering that the banknotes can circulate on the basis of the bill circulation without gold conversion. Thus, despite the suspension of the conversion, the gold standard system could continue.

The following figure shows the explanation of Okahashi about three laws of circulation.

Table A-1

Laws of circulation	In Marx’s “The Capital”	Guaranteed property・Backing assets, By Okahashi	arise from…
Laws of the circulation of bills of exchange	v.3, p.525	commercial bills、bank accepted bills	means of payment
laws of metallic circulation	v.2, p.192,400	securities, gold, non-commercial bills	means of circulation
Laws of circulation of paper money	v.1, p.224	state bond, unsecured loan to the state	metal circulation

 

The money based on the bill circulation increases or decreases, depending on the demand of the commerce. The money based on the metal circulation arises in exchange for things possessing value, such as gold and securities, which possess value within or without circulation. The money based on the paper money circulation is valued as long as it remains within circulation instead of the metallic money. If its quantity increase more, its value declines

Okahashi explains the three ways as follows:

 

Firstly, banknotes guaranteed by commercial bills, bank accepted bills, and other bills rest on the re-discount of commercial bills and are the proper banknotes that follow the law of bill circulation. However, when the bills securing banknotes are not directly based on commercial trade, the banknotes obey the law of metal circulation. When the bills securing banknotes are insolvent and taken over by the government, the banknotes obey the laws of paper money.

Secondly, banknotes guaranteed by government bonds do not stand on the general circulation. They follow the laws of paper money circulation. In addition, when banknotes are issued by loans collateralized by state bonds or unsecured loans to the government, they also follow the laws of paper money circulation.

Thirdly, the banknotes guaranteed by bullion of gold and silver follow the laws of metal circulation. … Nevertheless, the banknotes by purchasing bullion are still just commercial money (Okahashi [1957] p.215).

 

According to Okahashi, banknotes issued by lending on the securities or the bullion follow the laws of metal circulation because the money the borrower paid to buy them is just taken over by bank lending.  In short, no money increases. (ibid., p.195)

It may be difficult to understand that “the banknotes by the purchase of bullion are still just commercial money.” Since commercial money is a direct payment promise by the issuer (ibid.,p.195), the banknote issued in exchange for gold is the commercial money for the bank. The bank’s liability becomes the credit money, when the bank gives credit by handing over its liabilities at sight in exchange for the commercial money of the debtor by bill discount (ibid., pp. 115-116).

 

A.3 Currency prescribed as the legal tender and compulsory currency

Okahashi emphasizes that legal tender provision is not a panacea for the circulation of money. The legal tender provision only legally confirms that banknotes based on the circulation of bills are actually accepted as means of payment. Not all legal tenders can circulate. Okahashi explains as follows:

The basis of the circulation of monetary substitutes lies in each aspect of circulation. Just as state paper money originates from the circulation of metal, the proper banknotes originate from the circulation of bills and stand on the means of payment of money. On the other hand, since the state paper money arises as a function of the means of circulation of money, it directly enters the general circulation as an intermediary for commodity circulation. However, since the proper banknotes arise in place of commercial bills, they appear in commercial circulation in the same way as commercial money. They are liabilities at sight, very trusted, have a more comprehensive circulation than personal bills, and seem as if they were cash (general means of circulation). However, banknotes are still just bills, and the circulation of banknotes never stands on the circulation of money. The provision of the banknote as legal means of payment stands on its nature of bill circulation. Banknotes are accepted legally because banknotes actually circulate based on the bill circulation. They are fundamentally different from the state paper money as proper paper with “compulsory power.”  The state paper money does not circulate depending on the fiat of the state. Instead, the metal circulation enables the state paper money to circulate as a symbol of value in a limited amount. Similarly, banknotes also do not circulate by the provision of legal tender. Instead, the provision is just a “legal confirmation” that banknote is already widely circulated instead of the money. The legal means of payment and the mandatory circulating power are essentially different. Even if the banknote becomes legal tender, it neither has “the mandatory circulating power” nor loses its essence as a bill. Its nature does not change after the suspension of conversion. Unlike state paper money, the inconvertible banknotes still circulate on the ground of the nature of bills. (ibid., pp. 124-125)

 

Banks acquire financial assets and issue banknotes (credit money) as their liability. The asset supports the value of the banknote as guaranteed property. If the property is the bill that is certain to be repaid in the future, the banknote is the proper banknote. However, the banknote backed by other properties is non-proper.

 

A.4 Neutrality of credit money and denial to credit creation

Famously, Schumpeter maintained that credit creation creates new money as purchasing power from nothing. The producer with new purchasing power gives birth to a new product or a new production method. Interestingly, Okahashi’s denies such an effect of credit creation on the real economy and claims the neutrality of credit money. He explains the reason as follows:

Credit money as additional money appears through various processes. … In whatever way it appears, the created credit money is a new form of additional fictitious capital for the issuing bank, as for the portion not guaranteed by gold or cash reserve on hand. However, even if it is privately additional capital, it is socially neither “additional” capital nor additional net demand as extra money. This additional credit money is the claim to the existing social products made by economic development. Even though the sums of created credit money “appear newly created side by side with the existing sums” (Schumpeter [1951] p.99), there is already a contribution to social products that should correspond to additional credit money. The money has been newly “created” to realize the price of the additional social products. Unlike Schumpeter argues, it is never “certificates of future services or goods yet to be produced.” (ibid.,p.101) Moreover, it is not the credit means of payment, especially “created” without contributing to social products (pp. 173-174).

The following figure shows a comparison between Schumpeter’s credit creation and Okahashi’s denial of credit creation.

Fig. A-1

Schumpeter’s credit creation

Okahashi’s denial of credit creation

In Schumpeter, the money created by banks allows borrowers to hire workers and buy means of production to make new products. Credit creation has a significant impact on the economic process.

In contrast, in Okahashi, the commodity the borrower buys already exists, and newly created credit money realizes the value of the seller’s commodity. The new credit money only corresponds to the value of the existing commodity. Thus, credit money is neutral to the economic process.