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Reminding the Mint of Gresham's Law

On December 14th, the U.S. Mint issued a press release about a new rule to "prohibit, with certain exceptions, the melting or treatment of all one-cent and 5-cent coins." Nearly a week later, the rule itself was published in the December 20th Federal Register. (Both HTML and PDF formats of the relevant pages are available.)

Unlike the press release, the rule cites its legislative authority in 31USC5111(d)(1):

The Secretary may prohibit or limit the exportation, melting, or treatment of United States coins when the Secretary decides the prohibition or limitation is necessary to protect the coinage of the United States.

So, the Secretary does have this power. But for what purpose is it being invoked … and will it work? From the rule as published in the Federal Register:

The primary reason for limiting the melting, exportation, and treatment of 5-cent and one-cent coins is to avoid a shortage of these coins in circulation.

[T]he values of the metal contents of 5-cent and one-cent coins are in excess of their respective face values, raising the likelihood that these coins will be the subject of recycling and speculation.

It won't work. It can't work. This isn't merely an opinion; it's a straightforward application of economic law. And I'm going to educate the Mint. They ought to know it already — they went through it once before, in the transition away from silver coinage in the 1960s — but it's a lesson that bears repeating.

The following is a comment I'm submitting to the Mint:

This is a public comment on FR Doc. 06-9777, published Dec. 20, an interim rule titled "Prohibition on the Exportation, Melting, or Treatment of 5-Cent and One-Cent Coins."

I urge the Mint to withdraw this rule or allow it to expire. This rule will not achieve its stated purpose, "to avoid a shortage of these coins in circulation." Moreover, the rule is harmful to individual liberty and to the consumers of base metals.

This rule will be ineffective due to what economists call Gresham's Law, informally stated as "bad money drives good money out of circulation." The insight behind this economic law is that people prefer to hold money of high value and to spend money of low value. Until the recent rise in base metal prices, this law had no impact on circulating coins because all exchanges were at the legal tender value. A dollar was a dollar, and it didn't matter if it were in the form of 4 quarters or 20 nickels.

The rule correctly identifies that the situation has recently changed, and that now the use-value of the metal in the 5-cent and one-cent coins exceed their legal tender exchange-value as money. This creates the tension driving Gresham's Law. The 5-cent and one-cent coins have become "good money," more valuable than the other coins which are now comparatively "bad money."

The Mint understands the incentive to recycle 5-cent and one-cent coins, but underestimates the scope and power of Gresham's Law. The circulation of these coins will decline simply because they are "good money" — the actual recycling of the coins is unnecessary. History bears this out: When the United States abandoned silver coinage in the 1960s, the silver coins were removed from circulation. Even though it is no longer illegal to recycle them for their silver content, they have not all been recycled. In fact, they are readily available in large quantities from silver bullion dealers. These coins were hoarded, not recycled.

Silver recycling is not the reason that silver coins no longer circulate. Silver coins no longer circulate simply because their metal value exceeds their face value. That is all that was required for Gresham's Law to drive them out of circulation. The same will inevitably happen to 5-cent and one-cent coins, as people will be reluctant to spend these coins for less than they're worth. The laws of economics cannot be overridden by legislative or regulatory action any more successfully than the laws of physics could be. The rule prohibiting the exportation, melting, or treatment of these coins is futile. It cannot achieve its stated purpose of keeping these coins in circulation.

The rule is futile, but it is not harmless, and this is why I urge its withdrawal.

The rule is an infringement on individual property rights. A person has the right to use their property in whatever way they see fit, so long as this use does not infringe on another person's rights. A person's money is their property and they have the right to treat it as a raw material (for its metal content) if they judge that to be its best use. The only difference between a chunk of refined metal and a coin is that the latter has gone through your presses; an irrelevant distinction to someone who does not desire to use it as money.

The rule is also economically harmful to the consumers of base metals. To whatever extent the rule prevents metal recycling — and I stress that it could only prevent recycling, not hoarding — the supply of metals is correspondingly reduced. The effect of this supply reduction is base metal prices that are higher than they otherwise would have been. This increases the costs of base metal consumers and ironically strengthens the incentive to hoard the 5-cent and one-cent coins, removing them from circulation!

The rule won't achieve its purpose, is an infringement on individual property rights, and imposes higher costs on base metal consumers. By supporting the prices of base metals, the rule is actually counterproductive, hastening rather than slowing the removal of 5-cent and one-cent coins from circulation.

Please withdraw the rule.

There is still ample time before the deadline for public comments (Jan. 19th), so if you have suggestions on how I could improve this letter, please leave them in the comments or e-mail me.

Tiny Island