I read about this problem of fake currency where fake notes were being put into circulation. At first I thought “What could be the problem with it? Doesn’t it mean there’s more money for everyone now?”
My teacher then told me something about the “value” of money dropping and that each currency note has a particular value because of its rarity.
Then I ask, "How about we destroy currency notes?.. Burn them… Wouldn’t that make the remainder of the notes rarer and more valuable? "
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My teacher threw me out of the class 
but the question still remains.
I hope someone can answer my question.
Thank you.
Notes wear out. When they do, they are destroyed, but at the same time freshly printed notes are put back into circulation to replace them, so the net result is no gain or loss. Fake notes however are simply destroyed and are not replaced.
Banknotes aren’t burned, but shredded. If you ever visit the NY Fed, you can buy bags of confetti consisting of shredded bills. I even have a note pad made from shredded currency that was then pulped and reformed into note paper. It’s very soft and makes for nice writing stock.
Since new bills are constantly being printed to replace the notes taken out of circulation, the destruction of old notes has no effect on their over all value. And since the total amount of currency in circulation is less than 1.2T USD, which represents only about 10% of the total money supply (i.e., MZM - exclusive of time deposits), it would be difficult for changes in the value of banknotes to affect the value of US currency overall.
You’re right, it would. It would cause deflation which, in theory, would benefit everyone except the sucker who burnt all his cash, since they would all see their dollars increase in value.
In practise, however, a period of deflation is seen as a problem, and I believe that the reason is, once people see that the value of their money is rising, they tend to try to hang on to it rather than spend it now, in the hope that they can get more value out of it in two months/a year/ ten years. Which means that money stops circulating (ie, stops doing its job) and providers of goods and services start to run into problems as nobody is buying their stuff any more (unless it’s essential stuff, like food and housing).
The British band the KLF once did this for real. ISTR it was surprisingly controversial at the time, though it was legitimately their own money.
@Aspidistra: I see what you mean… almost begin to use the currency note itself as an investment! I know of a couple of places where they invest in foreign currency… never thought it’d indirectly be linked to my question
It’s still controversial whether or not they burned real money. But the KLF were wacky like that.
A classic example is the old German Weimar republic between WWI and WWII which printed money to pay its bills. Zimbabwe has been in the same boat, as was Argentina in the 80’s.
There’s an odd relationship between money in circulation and value.
The small village, let’s say, wants to build a road. It can tax extra so it has the money, or it prints it. Each worker gets paid at the end of the week - they take their bills and buy things. Suddenly the melon farmer notices everyone working on the road seems to have a lot of money. They can afford to pay more for his melons; but he only has so much to sell. When his market stall sells out the first day, he thinks"OK, I can raise prices and people will still buy." The people who came by the stall toward the ned of the day said “I’ll pay you twice as much because nobody else has good melons.” The guys who pick his melons say “why should I pick your melons for $6 an hour when I can work on the road at $10 an hour?” So he pays them $11. So the price of melons goes up.
A few days later it happens again. And again. The government doesn’t care, they can outbid the melon farmer for labou because they can print more money. The number of melons, bags of wheat, taxi rides, rent, cooking gas, etc. has not changed, but there’s more and more moeny chaing the same amount of goods. Prices and wages increase in an inflationary spiral.
If you decrease the amount of money - burn banknotes - then the opposite happens. The farmer needs to sell his melons to pay the melonpickers, but nobody has enough money. He has to lower his price; “if you only have $5 in your pocket, I’ll cut the price of a melon to $5 rather than not make a sale.” Then he tells his melon pickers he can only pay them $4 an hour. Since everyone else is in the same boat, the pickers can’t get a better job, they take it. This is deflation. Prices, wages go down. This is rare, because destroying money supply is harder than printing more. IIRC there is some sort of situation like this when, for example, everyone was buying goods from China using silver in the 1800’s. Silver becomes more expensive, coins are harder to find, money is scarce. This was, IIRC, a more gradual and less disruptive process.
So the “money supply” of various types - cash, money in banks, etc. - must match the value of the economy that uses it. If not, prices will bid up or down to match the available supply of goods and services.
As for the concept of “burn money”, to reduce the money supply… to do this, the government would have to get it - by taxing. Not too many governments will last long by saying “we are taxing away your money so we can not spend it”.
A more common way to cool inflation or reduce money supply is to raise interest rates. Most people and businesses borrow the money to buy things, then pay it back later (essentially taking money from the future). If it costs more, they borrow less, so the amount of money to spend is less.
md2000: I have no idea where you’re getting this from but nothing you’ve said is applicable to a modern economy where most transactions are cashless.
The last time I bought a melon I paid with a debit card. The last time I bought gas I used my credit card. If I were a farmer paying wages I would be cutting checks to the workers not paying them in cash unless I were hiring illegals. But in that case we’re talking about the gray and black market economies which are completely different animals.
It’s a lot like what we saw in 2008-2009 with the economic and banking troubles around then, except more severe.
That was an example of deleveraging which leads directly to deflation.
Perhaps the O.P. is trying to say, if inflation has been caused by some counterfeiting, and we can’t reach the counterfeit bills, couldn’t we remove some genuine currency from circulation. I suppose that would be quicker that tracking down counterfeiters, but maybe we just want one, clean, controlled currency out there, as a standard currency.
I seem to recall, on a episode of the Flintstones, Barney was mocking up some counterfeit bills, and told Fred since the quality of his were superior to government currency, people would soon prefer his. Not very well logical – but Barney was just pranking Fred, anyway.
That’s a good point, but that’s why I tried to highlight the fact that less than 10% of the money supply as gauged by the MZM component is in currency in circulation. IOW, even if ALL of it were counterfeit, I can’t see how it would have a huge impact on inflation. People would just stop using cash for transactions.
In situations where this isn’t possible such as the gray and black markets as I also mentioned, to be sure, this would be a serious issue, but I don’t really see those as being legitimate concerns.
Under the fractional reserve system, if the cash supply doubles, (let’s assume the banks can’t detect any of it as counterfeit and nobody reacts by removing any of the cash supply,) wouldn’t the amount of money in electronic chequing accounts also tend to roughly double over not too long a time? Because more people are bringing cash into the banks, the banks can stock some of it in their vaults and lend out the rest.
If you assume that the counterfeits are so good that they can’t be detected then of course all bet are off.
@md2000: Thank you so much! That example gave me a primordial idea as to how money works…
@Arckon: You really got very close to a deeper question in my head. I was however, thinking about all the black money stashed away by the corrupt in offshore accounts. Instead of going through tonnes of negotiations and what-nots to get account info and money details… why not simply invalidate all that money? Not only would their efforts to hoard cash become futile, but subsequently increase the value of money for other innocent citizens…
@md2000: Thank you so much! That example gave me a primordial idea as to how money works…
deltasigma: I believe it would be easier to monitor cash… I mean “credit” flow if everything became electronic. “Cash”; I feel would be replaced by a representative “credit amount” associated to your bank account… Something like “points” earned by an individual. These points can be transacted on the same lines as normal cash.
With such a scenario… the analogue of counterfeiting would probably be hacking into the bank system and increasing the credit associated to your account. So now your account will hold more “cash”/“Credit”/Points which you can use for future electronic transactions…
What say? Do you think I’m right?
@Arckon: You really got very close to a deeper question in my head. I was however, thinking about all the black money stashed away by the corrupt in offshore accounts. Instead of going through tonnes of negotiations and what-not 's to get account info and money details… why not simply invalidate all that money? Not only would their efforts to hoard cash become futile, but subsequently increase the value of money for other innocent citizens…
I’m not sure what your point is. If you could hack a banks records such that all of the cross checks and safeguards were circumvented, I guess that would equivalent to making the perfect counterfeit, if that’s what you mean. However I think going the hardcopy route would probably present less of a challenge.
Yes… That’s exactly what I was trying to say… A “conjecture”, if you will.
I hear this a lot, and I can understand the logic, but I’m not sure how true it is. Technology in general has been decreasing in price for over a century. Adjusted for inflation, radios were several thousand dollars in the early part of this last century. And yet, people still bought them. People still buy computers even though next year’s model will be cheaper and better. Does anyone have evidence that people actually spend less during deflationary periods, and why is that different from the situation in tech?
I think the issue has more to do with the fact that there isn’t enough money to support the amount of economic activity that could potentially take place but for the lack of money to fuel those transactions.
IOW, if you think of economic activity as being comprised of transactions and a certain volume of transactions as requiring a certain amount of money (the money supply), then it’s easy to understand that if economic activity rises faster than the money supply, there will be a shortage of money which equates to deflation.