The Principles of Political Economy
by John Stuart Mill

Book 3: Distribution

Chapter 9

Of the Value of Money, as Dependent on Cost of Production

    1. But money, no more than commodities in general, has its
value definitively determined by demand and supply. The ultimate
regulator of its value is Cost of Production. 
    We are supposing, of course, that things are left to
themselves. Governments have not always left things to
themselves. They have undertaken to prevent the quantity of money
from adjusting itself according to spontaneous laws, and have
endeavoured to regulate it at their pleasure; generally with a
view of keeping a greater quantity of money in the country, than
would otherwise have remained there. It was, until lately, the
policy of all governments to interdict the exportation and the
melting of money; while, by encouraging the exportation and
impeding the importation of other things, they endeavoured to
have a stream of money constantly flowing in. By this course they
gratified two prejudices; they drew, or thought that they drew,
more money into the country, which they believed to be tantamount
to more wealth; and they gave, or thought that they gave, to all
producers and dealers, high prices, which, though no real
advantage, people are always inclined to suppose to be one. 
    In this attempt to regulate the value of money artificially
by means of the supply, governments have never succeeded in the
degree, or even in the manner, which they intended. Their
prohibitions against exporting or melting the coin have never
been effectual. A commodity of such small bulk in proportion to
its value is so easily smuggled, and still more easily melted,
that it has been impossible by the most stringent measures to
prevent these operations. All the risk which it was in the power
of governments to attach to them, was outweighed by a very
moderate profit.(1*) In the more indirect mode of aiming at the
same purpose, by throwing difficulties in the way of making the
returns for exported goods in any other commodity than money,
they have not been quite so unsuccessful. They have not, indeed,
succeeded in making money flow continuously into the country; but
they have to a certain extent been able to keep it at a higher
than its natural level; and have, thus far, removed the value of
money from exclusive dependence on the causes which fix the value
of things not artificially interfered with. 
    We are, however, to suppose a state, not of artificial
regulation, but of freedom. In that state, and assuming no charge
to be made for coinage, the value of money will conform to the
value of the bullion of which it is made. A pound weight of gold
or silver in coin, and the same weight in an ingot, will
precisely exchange for one another. On the supposition of
freedom, the metal cannot be worth more in the state of bullion
than of coin; for as it can be melted without any loss of time,
and with hardly any expense, this would of course be done until
the quantity in circulation was so much diminished as to equalize
its value with that of the same weight in bullion. It may be
thought however that the coin, though it cannot be of less, may
be, and being a manufactured article will naturally be, of
greater value than the bullion contained in it, on the same
principle on which linen cloth is of more value than an equal
weight of linen yarn. This would be true, were it not that
Government, in this country, and in some others, coins money
gratis for any one who furnishes the metal. The labour and
expense of coinage, when not charged to the possessor, do not
raise the value of the article. If Government opened an office
where, on delivery of a given weight of yarn, it returned the
same weight of cloth to any one who asked for it, cloth would be
worth no more in the market than the yarn it contained. As soon
as coin is worth a fraction more than the value of the bullion,
it becomes the interest of the holders of bullion to send it to
be coined. If Government, however, throws the expense of coinage,
as is reasonable, upon the holder, by making a charge to cover
the expense (which is done by giving back rather less in coin
than has been received in bullion, and is called levying a
seignorage), the coin will rise, to the extent of the seignorage,
above the value of the bullion. If the Mint kept back one per
cent, to pay the expense of coinage, it would be against the
interest of the holders of bullion to have it coined, until the
coin was more valuable than the bullion by at least that
fraction. The coin, therefore, would be kept one per cent higher
in value, which could only be by keeping it one per cent less in
quantity, than if its coinage were gratuitous. 
    The Government might attempt to obtain a profit by the
transaction, and might lay on a seignorage calculated for that
purpose; but whatever they took for coinage beyond its expenses,
would be so much profit on private coining. Coining, though not
so easy an operation as melting, is far from a difficult one,
and, when the coin produced is of full weight and standard
fineness, is very difficult to detect. If, therefore, a profit
could be made by coining good money, it would certainly be done:
and the attempt to make seignorage a source of revenue would be
defeated. Any attempt to keep the value of the coin at an
artificial elevation, not by a seignorage, but by refusing to
coin, would be frustrated in the same manner.(2*) 

    2. The value of money, then, conforms, permanently, and, in a
state of freedom, almost immediately, to the value of the metal
of which it is made; with the addition, or not, of the expenses
of coinage, according as those expenses are borne by the
individual or by the state. This simplifies extremely the
question which we have here to consider: since gold and silver
bullion are commodities like any others, and their value depends,
like that of other things, on their cost of production. 
    To the majority of civilized countries, gold and silver are
foreign products: and the circumstances which govern the values
of foreign products, present some questions which we are not yet
ready to examine. For the present, therefore, we must suppose the
country which is the subject of our inquiries, to be supplied
with gold and silver by its own mines, reserving for future
consideration how far our conclusions require modification to
adapt them to the more usual case. 
    Of the three classes into which commodities are divided --
those absolutely limited in supply, those which may be had in
unlimited quantity at a given cost of production, and those which
may be had in unlimited quantity, but at an increasing cost of
production -- the precious metals, being the produce of mines,
belong to the third class. Their natural value, therefore, is in
the long run proportional to their cost of production in the most
unfavourable existing circumstances, that is, at the worst mine
which it is necessary to work in order to obtain the required
supply. A pound weight of gold will, in the gold-producing
countries, ultimately tend to exchange for as much of every other
commodity, as is produced at a cost equal to its own; meaning by
its own cost the cost in labour and expense, at the least
productive sources of supply which the then existing demand makes
it necessary to work. The average value of gold is made to
conform to its natural value, in the same manner as the values of
other things are made to conform to their natural value. Suppose
that it were selling above its natural value; that is, above the
value which is an equivalent for the labour and expense of
mining, and for the risks attending a branch of industry in which
nine out of ten experiments have usually been failures. A part of
the mass of floating capital which is on the look out for
investment, would take the direction of mining enterprise; the
supply would thus be increased, and the value would fall. If, on
the contrary, it were selling below its natural value, miners
would not be obtaining the ordinary profit; they would slacken
their works; if the depreciation was great, some of the inferior
mines would perhaps stop working altogether: and a falling off in
the annual supply, preventing the annual wear and tear from being
completely compensated, would by degrees reduce the quantity, and
restore the value. 
    When examined more closely, the following are the details of
the process. If gold is above its natural or cost value -- the
coin, as we have seen, conforming in its value to the
bullion-money will be of high value, and the prices of all
things, labour included, will be low. These low prices will lower
the expenses of all producers; but as their returns will also be
lowered, no advantage will be obtained by any producer, except
the producer of gold: whose returns from his mine, not depending
on price, will be the same as before, and his expenses being
less, he will obtain extra profits, and will be stimulated to
increase his production. E converso if the metal is below its
natural value: since this is as much as to say that prices are
high, and the money expenses of all producers unusually great:
for this, however, all other producers will be compensated by
increased money returns: the miner alone will extract from his
mine no more metal than before, while his expenses will be
greater: his profits therefore being diminished or annihilated,
he will diminish his production, if not abandon his employment. 
    In this manner it is that the value of money is made to
conform to the cost of production of the metal of which it is
made. It may be well, however, to repeat (what has been said
before) that the adjustment takes a long time to effect, in the
case of a commodity so generally desired and at the same time so
durable as the precious metals. Being so largely used not only as
money but for plate and ornament, there is at all times a very
large quantity of these metals in existence: while they are so
slowly worn out, that a comparatively small annual production is
sufficient to keep up the supply, and to make any addition to it
which may be required by the increase of goods to be circulated,
or by the increased demand for gold and silver articles by
wealthy consumers. Even if this small annual supply were stopt
entirely, it would require many years to reduce the quantity so
much as to make any very material difference in prices. The
quantity may be increased, much more rapidly than it can be
diminished; but the increase must be very great before it can
make itself much felt over such a mass of the precious metals as
exists in the whole commercial world. And hence the effects of
all changes in the conditions of production of the precious
metals are at first, and continue to be for many years, questions
of quantity only, with little reference to cost of production.
More especially is this the case when, as at the present time,
many new sources of supply have been simultaneously opened, most
of them practicable by labour alone, without any capital in
advance beyond a pickaxe and a week's food; and when the
operations are as yet wholly experimental, the comparative
permanent productiveness of the different sources being entirely
unascertained. 

    3. Since, however, the value of money really conforms, like
that of other things, though more slowly, to its cost of
production, some political economists have objected altogether to
the statement that the value of money depends on its quantity
combined with the rapidity of circulation; which, they think, is
assuring a law for money that does not exist for any other
commodity, when the truth is that it is governed by the very same
laws. To this we may answer, in the first place, that the
statement in question assumes no peculiar law. It is simply the
law of demand and supply, which is acknowledged to be applicable
to all commodities, and which, in the case of money as of most
other things, is controlled, but not set aside, by the law of
cost of production, since cost of production would have no effect
on value if it could have none on supply. But, secondly, there
really is, in one respect, a closer connexion between the value
of money and its quantity, than between the values of other
things and their quantity. The value of other things conforms to
the changes in the cost of production, without requiring, as a
condition, that there should be any actual alteration of the
supply: the potential alteration is sufficient; and if there even
be an actual alteration, it is but a temporary one, except in so
far as the altered value may make a difference in the demand, and
so require an increase or diminution of supply, as a consequence,
not a cause, of the alteration in value. Now this is also true of
gold and silver, considered as articles of expenditure for
ornament and luxury; but it is not true of money. If the
permanent cost of production of gold were reduced one-fourth, it
might happen that there would not be more of it bought for plate,
gilding, or jewellery, than before; and if so, though the value
would fall, the quantity extracted from the mines for these
purposes would be no greater than previously. Not so with the
portion used as money; that portion could not fall in value
one-fourth, unless actually increased one-fourth; for, at prices
one-fourth higher, one-fourth more money would be required to
make the accustomed purchases; and if this were not forthcoming,
some of the commodities would be without purchasers, and prices
could not be kept up. Alterations, therefore, in the cost of
production of the precious metals, do not act upon the value of
money except just in proportion as they increase or diminish its
quantity; which cannot be said of any other commodity. It would
therefore, I conceive, be an error both scientifically and
practically, to discard the proposition which asserts a connexion
between the value of money and its quantity. 
    It is evident, however, that the cost of production, in the
long run, regulates the quantity; and that every country
(temporary fluctuations excepted) will possess, and have in
circulation, just that quantity of money, which will perform all
the exchanges required of it, consistently with maintaining a
value conformable to its cost of production. The prices of things
will, on the average, be such that money will exchange for its
own cost in all other goods: and, precisely because the quantity
cannot be prevented from affecting the value, the quantity itself
will (by a sort of self-acting machinery) be kept at the amount
consistent with that standard of prices-at the amount necessary
for performing, at those prices, all the business required of it.

    "The quantity wanted will depend partly on the cost of
producing gold, and partly on the rapidity of its circulation.
The rapidity of circulation being given, it would depend on the
cost of production: and the cost of production being given, the
quantity of money would depend on the rapidity of its
circulation."(3*) After what has been already said, I hope that
neither of these propositions stands in need of any further
illustration. 
    Money, then, like commodities in general, having a value
dependent on, and proportional to, its cost of production; the
theory of money is, by the admission of this principle, stript of
a great part of the mystery which apparently surrounded it. We
must not forget, however, that this doctrine only applies to the
places in which the precious metals are actually produced; and
that we have yet to enquire whether the law of the dependence of
value on cost of production applies to the exchange of things
produced at distant places. But however this may be, our
propositions with respect to value will require no other
alteration, where money is an imported commodity, than that of
substituting for the cost of its production, the cost of
obtaining it in the country. Every foreign commodity is bought by
giving for it some domestic production; and the labour and
capital which a foreign commodity costs to us, is the labour and
capital expended in producing the quantity of our own goods which
we give in exchange for it. What this quantity depends upon, --
what determines the proportions of interchange between the
productions of one country and those of another, -- is indeed a
question of somewhat greater complexity than those we have
hitherto considered. But this at least is indisputable, that
within the country itself the value of imported commodities is
determined by the value, and consequently by the cost of
production, of the equivalent given for them; and money, where it
is an imported commodity, is subject to the same law. 


 NOTES:

1. The effect of the prohibition cannot, however, have been so
entirely insignificant as it has been supposed to be by writers
on the subject. The facts adduced by Mr Fullerton, in the note to
page 7 of his work on the Regulation of Currencies, show that it
required a greater percentage of difference in value between coin
and bullion that has commonly been imagined, to bring the coin to
the melting pot.

2. In England, though there is no seignorage on gold coin, (the
Mint returning in coin the same weight of pure metal which it
receives in bullion) there is a delay of a few weeks after the
bullion is deposited, before the coin can be obtained,
occasioning a loss of interest, which, to the holder, is
equivalent to a trifling seignorage. From this cause, the value
of coin is in general slightly above that of the bullion it
contains. An ounce of gold, according to the quantity of metal in
a sovereign, should be worth 3l. 17s. 10 1/2d.; but it was
usually quoted at 3l. 17s. 6d., until the Bank Charter Act of
1844 made it imperative on the Bank to give its notes for all
bullion offered to it at the rate of 3l. 17s. 9d. 

3. From some printed, but not published, Lectures of Mr Senior:
in which the great differences in the business done by money, as
well as in the rapidity of its circulation, in different states
of society and civilization, are interestingly illustrated.