Frank Taylor


Axiomatic to the notion of Monetary Reform is that the State, through the medium of an independent central bank, shall use its seignorage of the money supply to circulate interest-free money into the economy. This paper will assume that the arguments for doing so are taken as read. Instead it will concentrate on the specific benefits of using such money for fixed public capital investment and proposes a carousel mechanism by which such benefits could be extended in perpetuity.

What is meant by ‘spending’ money into circulation? The implication of this terminology is that the flow of money would be unidirectional, outwards from the central bank, yet with no return current.

The problem is immediately obvious. Naturally such money ’spent’ will remain in circulation unless there is a countervailing act to remove it. It does not simply disappear at the end of the financial year. So it will accumulate until the point of saturation is reached. After that stage there will be an inevitable fluctuation in the interest free money supply. According to the general state of the economy, a little more may have to be put into circulation in one year, so much might have to be withdrawn in another.

Public investment will benefit in the short to medium term from such an injection of interest-free money. But what happens after the point of saturation is reached? Is public spending to enjoy a bonanza followed by cuts and/or tax increases? Indeed such a surge of interest-free cash, over a period of perhaps 10 -20 years, could be highly distorting and destabilising to the public budget over the longer term.


What is required therefore is a recycling mechanism by which a proportion of the interest free money is returned annually to its source. This would enable such a return to be re-invested. Such a situation would create a year-on-year accumulation which would progressively increase the return thus progressively reducing the net requirement for new money. This process would continue over a period of years until a point of balance is reached where a given level of investment can be achieved without the need for further new money.

Now some categories of Government capital budgeting produce a natural return. For example dividends from nationalised industries, public transport (from fares), and social housing (from rents). Other areas of capital budgeting such as hospitals and schools do not create a money return. Rather they create returns in human capital ... so often unacknowledged ... in good health and education.In the first instance the natural income from the state investment will be used to recycle the interest-free money through the system. In the second category a return will need to be created by service users, approximating to the service and depreciation costs, rather in the manner that a Health or Education authority might currently pay a PFI contract, but without the rent, interest and profit components.

At the outset of such an investment programme the annual return will be small in proportion to the total investment being made annually. But assuming a fairly constant rate of annual investment the return will grow year on year until a point of balance is reached whereby the money flowing in will balance the money flowing out.

At that stage the carousel will be complete and what is effectively a perpetual motion mechanism for government capital investment will have been achieved. What will be of great benefit to the taxpayer and to the health of the economy and society as a whole is that such a perpetual capital budget can be achieved for only a modest proportion of the current cost to the taxpayer.


There are two strands of thinking in monetary reform. The first envisages a return to the situation ex-post ante with the proportion of government issued money comparable to that persisting in the immediate post war years (around 40%), combined with a restoration of bank regulation, credit controls and statutory deposits. The second would go rapidly to a situation where the government issued all money interest free.

The central problem here is that whilst we have experience of the first situation the second scenario remains a theoretical construct untried in a modern peacetime democracy. Therefore monetary reform will be a journey. Because we already have experience of managing an economy in such a manner, we could travel with at least reasonable speed to the form of economic management which predominated prior to the 1970’s. How far beyond that we could go remains an essentially practical issue of pushing boundaries to see what would happen in real terms in a real economy. That is a question for the future.

However no-one from either view in monetary reform would envisage a money supply greater than M4. Herein lies a conundrum. For experience teaches us that as the credit-based money supply expands the velocity of circulation becomes ever more sluggish resulting in an expansion of M4 relative to GDP. It might therefore be reasonable to expect that a reduction in credit-based money would result in a reduced money supply operating at a higher velocity of circulation and thus a shrinkage of M4 relative to GDP.

Therefore caution may be needed in shaping a policy of monetary reform around a dogmatic attachment to existing levels of M4. There are two consequences so far as this paper is concerned.

Firstly the axiom must be, until practical experience proves to the contrary, that interest —free state investment must be for capital budgeting only, whilst current spending must continue to be financed from taxation. Secondly the diagrammatic examples given below make a cautious assumption of lower monetary aggregates than are presently the case. Currently UK GDP is around £1 .3 trillion and M4 around £1 .6 trillion (around 1 20% of GDP) whereas in the 1980’s M4 would have been around 70% of GDP and M2/M3 around 40% of GDP.


The current Government capital budget is a little short of £50 billions per annum, excluding PFI. The first diagram assumes an issue of £50 billion of interest free money per annum at a rate of return of 5%. It is important to emphasise that this 5% is not interest. It would comprise of profits from public enterprises, sales of services (such as transport fares), rents from social housing, user service charges, and depreciation charges. In effect service users and taxpayers would obtain a capital investment of £50 billion per annum at a cost of £2.5 billion. The following (below) presents an example of how such a carousel would operate over a 20 year period until the point of balance was reached. For simplicity depreciation is excluded. Figures are given in £Bn.

The net cumulative money issue is equivalent to the money supply created. At the end of 20 years £ 1000Bn of government investment would have been procured at a cost to taxpayers and service users of £50Bn, and result in a supply of £475Bn of interest - free money, around 40% of current GDP.

Public budgets are always insufficient. The above projection is predicated on present levels of capital spending. However there may be scope for significant expansion. For example if we were to replace PFI, increase the social housing budget to £10Bn per annum (as against a current budget of £1.9Bn), a green energy budget of £10Bn per annum (current spending is effectively negligible), and raise public transport investment to £10Bn from £6.9Bn we would still be left with a good margin to raise the capital budget towards £ 100Bn. On the basis of a 5% return this would result, after 20 years, in a total investment of £2000Bn, and result in a money supply of £950Bn (around 70% of GDP), as follows (right)-

The carousel could be very flexible. There would be wide scope for altering the notional depreciation charge and thus the charge to the taxpayer and service user. For example a programme of £80Bn per annum but at a return of 10% would yield , over ten years, a total investment programme of £800Bn at a cost of £80Bn, whilst yielding a money supply of £360Bn.


Social Housing The capital programme of £3.9Bn for 84,000 housing units 2006-2008 is widely regarded, not least by the government itself, as inadequate. More reliable estimates would put such housing need nearer double this level. The government grant provides less than half the construction cost, the balance largely being provided by private finance, both directly and through shared equity schemes. Social housing is intended for the lower paid who currently have a choice of dead money rents or shared equity mortgages. Both contain a substantial interest component.

Yet if social housing were to be funded by interest free payment, a very different picture would emerge. A house could be sold at cost and paid for over 20-40 years, free of interest, and subject only to s small administrative charge (a typical, and reasonable, administrative charge on a mortgage is around 0.2-0.3%). Thus on an interest free repayment plan a house costing, for example, £120,000 would cost over, say, 25 years, a gross amount of £125,000, whereas a mortgage, at current rates would cost £250,000 or more. The redistributive potential of such a policy is obvious.

Sustainable Energy Current government spending on sustainable energy is effectively negligible. Yet a major programme, placing the issue virtually on a war footing, yet self financing from the sale of the power generated, using interest free capital could transform the situation.

Public Transport Public transport yields income from fares. Again inadequacies in the current programme have been widely acknowledged, for example the funding difficulties for urban light rail and the London Crossrail scheme. It may be that to generate income would require some subsidy. That would come from current spending.

The following sets out a simplified illustration of an investment programme which could be applied to social housing, sustainable energy, or public transport. It assumes a fixed investment of £10Bn per annum and applicable to both, over 25% at a 4% return. Such schemes would be entirely funded by returns from users (perhaps with a subsidy element from current spending), with no direct call on the taxpayer. (Below):


Schools and hospitals do not, of themselves, generate a money income. Instead they add value to a population in terms of improved health and education but in a manner that is not easily quantifiable in cash terms.

However there is a depreciation and service user cost regardless of what accounting system is used. An interest free investment programme in health and education would be financed from such charges. It may be that depreciation charges would be higher than in other areas of government capital budgeting discussed above. Whilst buildings is the most durable and visible component of any investment programme they are often the least costly. The equipment within the building is likely to be the most costly and least durable component.


It must not always be assumed that government issue of interest-free finance need be a highly centralised operation. Whilst it would be the task of the government to set down the broad policy parameters there is no intrinsic reason why the operation of such a policy could not be devolved.

Could we therefore look forward to a situation where the Bank of England would have a branch in every large town from where local councils, health authorities, public transport undertakings, housing associations, and education authorities could draw funds? In that case there would be no substantial difference in the relationship from that between any bank and a client seeking an advance

The notion of ‘spending money into circulation’ requires further refinement. Are we talking of ‘spending’ or ‘investing’? The latter is perhaps the true objective as well as being more politically acceptable than a definition which raises the spectre of spendthrift government.

It is possible to procure government capital spending simply on the basis of depreciation costs and service user charges. Thus, for a modest proportion of present taxation levels, government capital investment can be placed on a basis which is flexible, self limiting and perpetual.

Frank Taylor

[Response invited. E.g. "What happens after the point of saturation is reached?"

– and "as the credit-based money supply expands the velocity of circulation becomes ever more sluggish resulting in an expansion of M4 relative to GDP." – but would debt-free credit have the same result?

– BL]