Inflation and Convertible Money Tokens
It is always the case, therefore, that, even with gold coins, these coins act as money tokens, rather than as actual gold bullion. A sovereign that has lost 10% of its gold content, due to clipping or wear, still circulates as though it were full weight. In reality, 10% of it consists solely of a token for the gold which it no longer contains. The restriction on this is only that no greater quantity of these coins are put in circulation than the gold they represent.
In other words, if total social labour-time amounts to 1,000 hours, and an ounce of gold is equal to 10 hours, then 100 ounces of gold are the equivalent form of this value, and are required as coins, assuming each coin circulates once. If, the coins in circulation are debased, on average, by 10%, and this 10% is melted down and minted into additional coins, so that 110 coins (nominally representing 10 hours labour each) are put into circulation, that would mean that 1,000 hours of labour in commodities was confronted by 1100 hours of labour as its equivalent form in currency, which is a clear contradiction. The 110 coins could not act as an equivalent for more than the money they represent, which is only 1,000 hours.
Each coin, would fall in value accordingly, resulting in a rise in prices. That is what happens when the currency is rebased so that an actual fall in its metal content is officially recognised. But, the same effect would occur if 110 coins were put into circulation at full weight. Although, as gold bullion these coins would have a value of 1100 hours of labour, as coin, they can only have a value of 1,000 hours of labour, because that is the money/equivalent form of value they represent. Each coin would fall in value relative to the value of the gold it contains. The obvious result would be that coins would be taken out of circulation, and melted into bullion, and so, the currency supply would be reduced accordingly.
That happened some years ago, when copper prices rose sharply. For some UK 2p pieces, the value of the copper in the coins was greater than the 2p represented by the coin. If you could collect a sufficient quantity of such coins, and melt them down, it was possible to obtain a greater value from the resultant copper.
When gold or other precious metals are replaced by base metals or paper tokens, this same principle that the amount of gold they represent limits the quantity of them that can act as currency, where they are redeemable against the money commodity. For example, in the scenario above, 100 ounces of gold are the equivalent form of the 1,000 hours of universal labour contained in the commodities to be circulated. If these 100 ounces are, instead represented by 100 £1 notes they can circulate in place of the gold, which acts only as the standard of price, and unit of account. But, if 110 such notes were put into circulation, then again, this would nominally represent 1100 hours of universal labour.
Because, paper currency cannot be melted down, as gold can be, the notes are not automatically taken out of circulation, and each one falls in value by 10%. However, each note is redeemable for an ounce of gold, whose value is 10% greater than that, now, of the note. So, holders of notes would redeem them for gold, reducing the quantity of notes in circulation.
“How many reams of paper cut into fragments can circulate as money? In this form the question is absurd. Worthless tokens become tokens of value only when they represent gold within the process of circulation, and they can represent it only to the amount of gold which would circulate as coin, an amount which depends on the value of gold if the exchange-value of the commodities and the velocity of their metamorphoses are given... If £14 million were the level below which the circulation of a country never fell (this is the presupposition of English Banking legislation, not however with regard to coin but to credit money), then 14 million pieces of paper, each a token of value representing £1, could circulate. If the value of gold decreased or increased because the labour-time required for its production had fallen or risen then the number of pound notes in circulation would increase or decrease in inverse ratio to the change in the value of gold, provided the exchange-value of the same mass of commodities remained unchanged... The number of pieces of paper is thus determined by the quantity of gold currency which they represent in circulation, and as they are tokens of value only in so far as they take the place of gold currency, their value is simply determined by their quantity. Whereas, therefore, the quantity of gold in circulation depends on the prices of commodities, the value of the paper in circulation, on the other hand, depends solely on its own quantity.”
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