John Kay Puts Legal Tender in its Place

In today’s Financial Times, the always interesting John Kay discusses how it is that Scottish banknotes are accepted as payment for goods and services in London even though, unlike Bank of England notes, the Scottish banknotes are not legal tender in England. And in fitting reciprocity, Bank of England notes are not legal tender in Scotland, but will serve you just as well in Edinburgh as they would in London. Legal tender laws, Kay concludes, are meaningless and irrelevant. What matters, he argues, is convention. When people agree (formally, or, more often, informally by habit and custom) to accept something as money, it is money; when they don’t, it’s not. And legal tender has nothing to do with it. He concludes:

I tip in restaurants or cabs, but not post offices or doctors’ surgeries. Often there is some underlying reason for these practices, although I cannot think of one that applies to the custom of tie-wearing. But in any event it is custom, not reason, that leads me to do it. The Scottish pound is accepted where it is accepted, and not where it is not. There is really no more to it than that.

That paradoxical, and mildly nihilistic, conclusion is, in my view, not quite right. But it contains an important kernel of truth that disposes of the metaphysical delusions of the gold bugs that anything other than gold is not REAL money, and that the only thing that keeps gold from being universally recognized as the one and only true money is the existence of blasphemous legal tender laws. For more on the paradoxical nature of money, see this post from last July.

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12 Responses to “John Kay Puts Legal Tender in its Place”


  1. 1 Marcus Nunes February 8, 2012 at 12:40 pm

    Nice trick! The “not quite right” makes me hope the next post is coming soon to “wrap up” the story!

  2. 2 Phil Koop February 8, 2012 at 1:29 pm

    I get the point, but still … I can’t help but be reminded of this: http://www.lrb.co.uk/v31/n10/john-lanchester/its-finished.

    “It’s a moment of confusion and loathing that most of us have experienced. You’re in a shop. It’s time to pay. You reach for your purse or wallet and take out your last note. Something about it doesn’t feel quite right. It’s the wrong shape or the wrong colour and the design is odd too and the note just doesn’t seem right and … By now you’ve realised: oh shit! It’s the dreaded Scottish banknote! Tentatively, shyly – or briskly, brazenly, according to character – you proffer the note. One of three things then happens. If you’re lucky, the tradesperson takes the note without demur. Unusual, but it does sometimes happen. If you’re less lucky, he or she takes the note with all the good grace of someone accepting delivery of a four-week-dead haddock. If you’re less lucky still, he or she will flatly refuse your money.”

  3. 3 Frank Restly February 8, 2012 at 4:29 pm

    And if you keep reading:

    “A theory called chartalism, which sounds cranky, or modern monetary theory, which sounds better, argues that money derives its value from the willingness of governments to make payments and accept taxes in it.”

    What modern monetary theory says is that the government levies taxes (cause) to create a demand for currency issued by the government (effect). In essence, government taxation and spending assures some level of money velocity within an economy. Interest rates are another way that the velocity of money is regulated within an economy.

    Modern monetary theory does not argue that currency gets its value from the government’s ability to tax and spend. A government can tax and spend while destroying the value of it’s currency if it choses to spend that money on nonproductive or even destructive ventures – wars for instance.

    The value of a currency relative to the goods and services it buys is strictly

    Price Level ($ / good) = Debt ($ – All money begins as a debt) / Quantity of goods (goods) – aka the quantity theory of money

    Money that is “printed” by the monetary authority has no effect on any economic variable until it is leant out – which is why I replace money supply M with debt D.

    The change in price level (the inflation rate) introduces time as a variable in the equation:

    Change in price level ($ / good * time period) = Debt ($) * Velocity (1 / time period) / Quantity of goods (goods)

  4. 4 Richard W February 8, 2012 at 9:34 pm

    The Scottish notes are not legal tender in Scotland either and no one in Scotland would ever think of refusing one as payment. It can be confusing for strangers to see notes circulating with four different banks’ names on them. Contrary, to gold bug ideas the BoE has no monopoly on money, they only have a monopoly on sterling. Anyone could introduce their own money if they could get other people to accept it as money. Only calling it sterling would be illegal.

    Legal tender laws have limited meaning in the UK. BoE notes must be accepted in England if offered in payment to settle debts. Scots Law does not recognise any paper money as legal tender. The courts developed their own understanding of legal tender by precedent when it comes to contracts. If a contract does not specify a currency for settlement, the court will assume sterling.

  5. 5 W. Peden February 9, 2012 at 12:19 am

    Sterling does have a special legal function in Scotland; it’s just not as legal tender. The Scottish banks are limited in how much money they can create and this limitation comes from the BoE.

    The funny thing is that people have got it into their heads that our notes are legal tender here in England, mainly because we’ve been repeating it over and over again for about 300 years. The only occasion one is likely to hear the phrase “legal tender” is when there’s some controversy over a Scottish banknote (Clydesdale notes being the hardest to use).

    Sayers’s 1960s book on banking described the Scottish and Ulster banks as being the “innermost parts of the Sterling zone”, which is a rather apposite way of describing the situation.

  6. 6 Richard W February 9, 2012 at 8:40 am

    W. Peden February 9, 2012 at 12:19 am

    ” Sterling does have a special legal function in Scotland; it’s just not as legal tender. The Scottish banks are limited in how much money they can create and this limitation comes from the BoE. ”

    The limitation is only that they must hold on deposit at the BoE the same amount of sterling as the notes they create. They discovered early on that legally they only have to leave the sterling on deposit over the weekend. So they withdraw the sterling on a Monday and lend it into the money markets and redeposit on a Friday.

    ” The funny thing is that people have got it into their heads that our notes are legal tender here in England, mainly because we’ve been repeating it over and over again for about 300 years. ”

    Yes, they are promissory notes that promise to pay the sterling equivalent.

  7. 7 Benjamin Cole February 9, 2012 at 4:16 pm

    Excellent post. Yes, if something is legal tender, then it is money if only because you can pay taxes with it, or it is accepted at the post office. So everyone will accept that tender.

    That is how a sovereign can create money, by printing it. If we have large unused capacity, and we are near deflation, then the sovereign can print more. It is a wonderful tool to have in a modern economy.

    Is this hard to understand?

  8. 8 David Glasner February 9, 2012 at 5:31 pm

    Marcus, I barely got this post out; I was under the weather all week, and am just catching up on comments today. But thanks to your encouragement, perhaps I will have another word to say about this later on.

    Phil, Thanks for the link and the excerpt. Having seen only Bank of England notes on my three visits to London, I am in no position to comment on the acceptability of Scottish banknotes in London. I gathered from John Kay that it was fairly routine, but maybe London cabbies are a more obliging group than the tradespeople frequented by John Lanchester.

    Frank, I suspect that you know a lot more about MMT than I do, but my understanding is that making currency acceptable in payment of taxes, creates a real (i.e., non-monetary) demand (analogous to the real demand for gold). Without an independent real demand for an asset, so the argument goes, there cannot be a monetary demand for the asset.

    Richard, Thanks for your elucidation

    W. Peden, And yours.

    Benjamin, But the point is that what constitutes legal tender in England and Scotland is not exactly clear, and yet money does seem to circulate there.

  9. 9 Benjamin Cole February 9, 2012 at 9:09 pm

    David-

    I understand. But the point is really this: Even if legal tender is just probably legal tender, people will still accept it. Or if they know that can drive a few miles to the place that it is legal tender.

    Paper money is one of the greatest creations ever. Only the demented genuflect to gold.

  10. 10 David Glasner February 10, 2012 at 9:34 am

    Benjamin, Well, I say that the point is that sometimes legal tender simply validates what it is already accepted. The causality can go in both directions. In other words, it’s complicated.


  1. 1 John Kay Puts Legal Tender in its Place ? Uneasy Money | Solange Knowles Movie Trackback on February 11, 2012 at 8:28 am
  2. 2 Am I Being Unfair to the Gold Standard? « Uneasy Money Trackback on February 12, 2012 at 9:11 pm

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About Me

David Glasner
Washington, DC

I am an economist at the Federal Trade Commission. Nothing that you read on this blog necessarily reflects the views of the FTC or the individual commissioners. Although I work at the FTC as an antitrust economist, most of my research and writing has been on monetary economics and policy and the history of monetary theory. In my book Free Banking and Monetary Reform, I argued for a non-Monetarist non-Keynesian approach to monetary policy, based on a theory of a competitive supply of money. Over the years, I have become increasingly impressed by the similarities between my approach and that of R. G. Hawtrey and hope to bring Hawtrey's unduly neglected contributions to the attention of a wider audience.

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