2. Letter to l’Abbé de Cicé Also Known as the “Letter on Paper-Money”

CHAPTER 2

Letter to l’Abbé de Cicé, since then
Bishop of Auxerre, on the
Replacing of Money by Paper.

Also Known as the “Letter on Paper-Money”

Paris, 7 April 1749

avail myself of the first free time which has come along to write to you.¹

You are well aware that the seminary is not a place of comfort, and you know also that it is not one which can compensate me for the pleasure of seeing you.

Here we are already reduced to conversing from a distance. I have by no means forgotten my promises, and, to start immediately on some matters which merit our attention, I shall tell you that I have read the three letters, published by l’Abbé Terrasson in favor of Law’s system, some days before the famous decree of the 21st of May, 1720, which, as you know, covered it with ridicule.²

Part of these writings deals with “rentes constituées,”³ which, he maintains, are usurious. His reasoning contains some truth, some falsity, and nothing profound. He knows nothing of the origin of interest on money, nor of the way in which this is produced through labor and circulation, but he shows quite clearly that the Parliament, in its remonstrances about the falling value of the funds, was even more ignorant than he himself.

The remainder of the work deals with credit and its nature, and as this is the foundation of the system, or rather, is the whole system,⁴ I will give you an account of the reflections that occurred to me while reading it. I believe that the principles which he expounds are those of Law himself, since he was undoubtedly writing in harmony with him; and consequently I cannot help thinking that Law had neither a sufficiently certain nor a sufficiently extensive insight for the work which he had undertaken.

“Firstly,” says l’Abbé Terrasson at the beginning of his second letter, “it is an accepted commercial axiom that the credit of a well-managed merchant amounts to ten times his capital.” But this credit is not a credit of banknotes as that of Law’s bank. A merchant who desires to purchase merchandise worth ten times his capital, and who pays in bills payable to the bearer, would soon be ruined. The true meaning of this statement is as follows. A merchant borrows a sum of money in order to invest it to good account, and not only does he derive from this sum enough to pay the agreed interest and to repay the principal at the end of a certain period, but also considerable profits for himself. This credit is not founded on the property of this merchant, but on his integrity and industry, and it necessarily assumes an exchange for a fixed term, arranged in advance; for if these bills were payable at sight, the merchant would never be able to invest the money which he borrowed. It is therefore inconsistent that a bill payable at sight should bear interest, and a credit of this nature could not exceed the capital of the borrower. Thus the profit which the merchant makes through his credit, and which is claimed to be ten times what he would make with his own funds, comes solely from his industry; it is a profit which he draws from the money which passes through his hands by means of the confidence caused by his punctuality in repaying it, and it is ridiculous to conclude from this, as I believe I read in Du Tot, that he is able to draw bills for ten times the money or assets he owns.

Observe, that the king derives no interest from the money he borrows: he needs it either to pay his debts, or for the expenses of the kingdom; consequently he is able to refund it only by taking from his domain, and it follows that he ruins himself if he borrows more than he owns. His credit resembles that of the clergy. In short, all credit is a loan and has a necessary relationship to its repayment. The merchant can borrow more than he owns, because it is not from what he owns that he pays both interest and principal, but from the merchandise which he buys with the borrowed money, and which, instead of dwindling in his hands, increases in price through his industry.

The state, the king, the clergy, the provincial estates, whose needs consume their loans, necessarily ruin themselves if, every year, their revenue is not sufficient to pay, besides their current expenses, the interest and part of the principal of what they have borrowed in times of exceptional needs.

L’Abbé Terrasson thinks very differently. According to him “the king can greatly exceed the proportion of tenfold to which merchants and private persons are bound.” "The bill of a merchant,” he says, “since it can be refused in commerce, does not circulate like money and consequently returns quickly to its source; its drawer finds himself obliged to honor it, and is deprived of the benefit of the credit. It is different with the king: since everybody is obliged to accept his bill, and since it circulates like money, he validly pays with his own promise.” This doctrine is obviously an illusion.

If the bill is worth money, why promise to pay? If the bill takes the place of money, it is no longer credit. Law was conscious of this, and he states that his circulating paper is really a type of money; he maintains that it is as good as that of gold and silver. “These two metals,” says l’Abbé Terrasson, “are only the tokens which stand for real wealth, i.e., commodities. An écu is a bill conceived in these terms: Any seller will give the bearer the produce or commodity which he needs to the amount of three livres, for that same value of another commodity which has been given up to me, and the effigy of the prince takes the place of a signature. Now what does it matter whether the token is silver or paper? Wouldn’t it be better to choose a material which costs nothing, which does not have to be taken out of commerce where it is used as merchandise, which is indeed manufactured in the kingdom and which does not necessarily make us dependent on the foreigners and proprietors of mines who profit greedily from the enticement which the glitter of gold and silver holds for the other nations; a material which one can increase according to need, without ever fearing its deficiency, which, indeed, one would never be tempted to put to any use other than circulation? Paper has all these advantages, which make it preferable to silver.” If all these reasonings were correct, this would be as good as the philosophers’ stone; for there would never be any shortage of either gold or silver to buy all sorts of goods. But was it permissible for Law to ignore that gold, like everything else, lowers its price by its increase? If he had read and studied Locke,⁵ who had written twenty years before him, he would have known that all the commodities of a State are always balanced among themselves and with gold and silver, in accordance with the proportion of their quantity and their vent; he would have learned that gold has no intrinsic value which always corresponds to a fixed quantity of merchandise; but that, when there is more gold, it is cheaper, and more of it is given for a fixed quantity of merchandise; that gold, therefore, when it circulates freely, is always sufficient to meet the needs of the State, and that it matters little whether there are 100 million marks or one million, if all commodities are purchased more dearly in the same proportion. It would, be ridiculous to imagine that money is only token wealth, the repute of which is based on the stamp of a prince.

This stamp is only there to certify its weight and standard. In their respective relation with commodities, uncoined silver is at the same price as coined silver, the legal value is purely a name. This is what Law ignored when he established the bank.

It is thus as merchandise that silver is, not the token, but the common measure of other commodities, and this is not by an arbitrary convention based on the glitter of this metal, but because its value may always be ascertained, since it can be used in various shapes as merchandise, since it has, on account of this property, an exchange value, which is slightly raised by its use as money as well, and since it is, moreover, convertible to the same standard, and accurately divisible.

Thus gold draws its value from its scarcity, and far from it being an evil that it is used both as ordinary merchandise and as a measure at the same time, these two uses maintain its price.

I assume that the king can establish a system of paper money, although this would not be easy in spite of all his authority: let us examine what will be gained thereby. Firstly, if he increases its quantity he will debase it thereby; and as he reserves the power to increase it, it is impossible that the people would consent to give their wares at a nominal price, for a bill which a stroke of the pen can lower in value. “But,” says l’Abbé Terrasson, “the king, in order to keep his credit, has an interest in restricting the paper within just bounds, and this interest of the prince is sufficient to build up confidence.” What will these just bounds be, and how are they to be determined? Let us follow the system in all the different assumptions which can be made, and see what will be its soundness relative to its usefulness in each case.

At first I observe that it is absolutely impossible that the king should substitute the use of paper for that of gold and silver. The actual gold and silver, to consider them simply as tokens, are in fact distributed among the people by their very circulation, according to the proportion of commodities, industry, land and real wealth of each private person, or rather of the income derived from his wealth compared with his expenditure. Now this proportion can never be known, as it is hidden, and varies continually through new circulation. The king is not going to distribute his paper-money to each according to his possessions of gold money simply by prohibiting the use of the latter in commerce; it is essential that he draws the gold and silver from his subjects to himself, giving them his paper in place of it, and he is able to do this only by giving them his paper as representative of money. To make this clear, you only have to substitute a commodity for money, and see if the prince would be able to give paper for grain, if it would be accepted if he were never obliged to give anything else. Certainly not, then the people would not take it; and if attempts were made to force them, they would justly say that their grain is taken without payment. Thus the bank-notes used to announce their value in terms of silver; by their nature they were subject to repayment; and all credit is repayable, because people are loath to give silver for paper. That would be to put their fortune at the mercy of the prince as I will show below.

It is a point of theory and experience alike that the people will never receive paper other than as representative of, and therefore, convertible into, silver.

One of the ways, and perhaps the only one, in which the king would be able to draw the silver to himself through exchange, would be to receive his bills conjointly with silver, and to give out only bills while keeping the silver. Then he would choose between these two things: either to have this silver melted for use as merchandise and to reduce his subjects to the use of paper; or to allow silver and paper to circulate conjointly, both representative of one another.

I begin by examining this last hypothesis. Well then, I assume that the king puts a certain quantity of paper into commerce, equal to that of silver (Law wanted to put in ten times more): as the total quantity of tokens must always balance with the total quantity of commodities, which is always the same, it is evident that the tokens would halve in value; or, what is the same thing, that the commodities would double. But independently of their capacity as tokens of value, gold and silver have a real value as merchandise; a value which is also balanced with the other commodities proportionally to the quantity of these metals, and which, on the contrary, they do not lose through their capacity as money. That is to say, their value, as metals, will balance with more merchandise than the paper with which they are balanced as money. And since, as I will show below, the king is continually obliged to increase the number of his bills, if he does not wish to render them useless, this disproportion will increase to the point where the specie will no longer be reciprocally convertible with paper, which will be discredited daily, while silver maintains its value always, and will balance itself with the same quantity of goods. Now, as soon as the bills are no longer reciprocally convertible into silver, they have no longer any value, and this is what I am going to prove by examining the other assumption, which is that the king completely reduces his subjects to the use of paper-money.

I have already remarked that this has a general inconvenience, which is, that, since the quantity is arbitrary, there can never be any sure basis for its balance with commodities. While the legal value of money changes with its weight, it is always in the same proportion. But in the case of paper as sole legal tender, nothing is fixed, nothing ensures that the bills are of the same legal sum, neither greater nor smaller, as all the silver which used to be in the kingdom. And even if, by assumption, they were given all the confidence imaginable, if the bills were doubled, the commodities would rise proportionately, etc.

Firstly, it is therefore not true that the system is, as l’Abbé Terrasson puts forward, a means of always having enough tokens of the commodities for the expenses which are made, since it is equally contradictory that there should not be enough silver to counterbalance the commodities, and that it should be possible to have too much of it, since the price of the commodities is related to the relative scarcity of silver, and is simply the expression of that scarcity.

In the second place, the benefit which the king will derive from the system will be only a transient one during the creation of the bills, or rather, during their increase, but it will vanish very quickly, since the commodities will increase in price in proportion to the number of bills.

I can see what the retort will be: “There is,” it will be said, “a difference with the pure increase of legal values by which specie increases in the hands of all the private persons among whom it circulates, and which affects nothing but the debts fixed in legal value. But when it is a question of the bills of the State, the increase is left entirely in the hands of the king who thereby creates wealth for himself according to his needs, and who, by putting the bills into circulation only while depreciating them, has already drawn from them all the profit when, through their circulation, these bills begin to raise the price of commodities.”

What happens next? The king will be able, by thus creating bills for his needs, to exempt his people entirely from taxes, and to incur much more considerable expenses. It will be enough simply to know (and this is easily calculated) in what progression the number of bills must be increased each year; for it is evident that since those of the preceding year will have increased the price of commodities and balanced themselves with them, it will be necessary, in order to incur the same expenses, to make many more of them in the second year, following a progression which will again increase as the expenses take on a higher nominal value. In general, it is necessary always to keep the same proportion between the total sum of old bills and that of new bills, a quarter, for example.

Let us follow this hypothesis and consider its advantages and disadvantages. We will then draw some conclusions.

1. I acknowledge that, by this means, the king, while giving bills to his subjects for their commodities, bills which are not equivalent to goods, which would in any case be making use of their welfare, would at least save them the charges and vexations which increase the quantity and burden of taxation.

2. I am not very sure how one would be able to know if this aid which the king draws from his subjects would be paid by all in proportion to their wealth. It is evident that if the merchant, who has received the king’s bill, obtains for it only the price which it must have in its circulation with the total of bills whose number it has increased, then in this case, those with whom the king deals directly would alone carry the burden of the tax.

The answer to this question depends on a fairly complicated problem, which is as follows: when and how, through circulation, does a new sum of silver come to balance itself with the total mass of commodities?—It is clear that it is only through being successively offered for the purchase of various commodities, that it comes to raise the price for the public and to lower its own price. When those who have received the silver of the king, spend it, it has not yet circulated and thus the commodities are not yet raised in price; it is only by passing through several hands that it succeeds in raising the price of all of them. It appears from this, that although nothing very precise can be said about this, it is, all the same, likely that the loss would spread itself fairly uniformly over all private persons, i.e., that they would all be discontented, and not unreasonably so.

It is known, through the money registers, that since the general recoinage⁶ of 1726, 1,200 million worth of coin has been manufactured in France; what the foreigners have manufactured balances itself with what has left the kingdom due to the needs of the State. 1,200 million may thus be taken as a rough estimate. The revenue of the king is approximately 300, or a quarter. The king, therefore in order to provide for his necessary expenditure, needs a quarter of the total mass of legal value existing in the state and distributed in the circulation. In the case where the king creates all his revenue for himself, as in the case of the philosophers’ stone or of the bills which are increased arbitrarily, since at the moment of multiplication the commodities have not yet increased in price, he would not be forced to make a greater increase. In the first year the total of bills will then be:

The second year:

and so on. …

(It is unfortunate that the remainder of this letter has been lost, but what has just been read of its shows that the young seminarist, at less than 22 years of age, had some very sound ideas on political economy in 1749. [Note by du Pont de Nemours.])

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¹ This passage was apparently changed by du Pont de Nemours, and should read as follows: “The duties with which we are burdened have prevented me to write until today, my dear friend, and I avail myself of the first free time available. Undoubtedly, you yourself are also very busy, as much with the duties of holy week as with your visits to town. At least, I’ve seen a letter from l’Abbé Véri where he indicated that his company at Bourges was good as well as numerous; I request you to give my regards to all, but especially to him; that could alleviate the boredom caused by being away from Paris and refresh you after the hardships of study and the important matters you would like to discuss. As for me, my dear friend, you fancy that the seminary isn’t a place of comfort, but you know also that there is nothing which can compensate me for the pleasure of seeing you, and of embracing you as frequently as my affection desires.”

² L’Abbé Jean Terrasson (1670–1750) in 1720 published three letters in the Mercury in which he defended John Law’s financial system against the criticism of D’Aguesseau. Two of these letters were later published in pamphlet form under the title, Lettres sur le nouveau système des finances, (Paris: 1720).

³Rentes constituées: annuities in the National Debt. As Turgot pointed out, nearly the whole of Terrasson’s first letter is devoted to this subject.

⁴ I.e., Law’s system of banking, credit and public finance which operated in France from 1716–1720. Law described the theory behind his system of credit in his Money and Trade Considered with a Proposal for Supplying the Nation with Money (1705).

⁵ I.e., John Locke, Some Considerations on the Consequences of the Lowering of Interest and Raising the Value of Money which was first published in London in 1691.

⁶ A declaration of 15 June 1726 stabilized the coinage of France by making 1 marc in gold the equivalent of 740 livres, 9 sols, 1 denier, and 1 marc in silver the equivalent of 51 livres, 3 sols, 3 deniers. This value lasted till 1785 when the coinage was further debased.

Remarks on the Notes
to the Translation of Josiah Child

Turgot suggests that high interest rates encourage lending; but if this process is used to build up a large fortune, people who have accumulated it will after a while tend to dissipate it in spending on luxuries. Efforts by the state to regulate interest reflect an undue partiality to consumers. In general, regulation of the economy is unnecessary. The fear of loss of reputation will operate as an incentive to manufacturers to fulfill what they promise. Large amounts of military spending by a state are undesirable. If it is argued that small states such as Genoa and Venice need heavy spending on the military to defend themselves, the answer is that such expenditures would not be sufficient to prevent invasion by a larger state. These expenditures are thus useless.