In this post, we’ll dive into a slightly more technical topic.
In my previous posts on Credit Creation, I explained the two primary mechanisms by which the money supply (Money Stock) increases and compared this with the Bank of Japan’s (BOJ) quantitative easing. I demonstrated that simply increasing BOJ current account deposits—which is money used in the interbank market—does not directly increase the amount of money circulating in the hands of the public.
But what about physical cash? This includes coins issued by the Ministry of Finance and banknotes issued by the BOJ. Does the act of issuing this physical currency increase the Money Stock?
The short answer is no, not directly. Cash enters circulation by being exchanged for existing deposits. When you withdraw cash from an ATM, your deposit decreases by the exact amount the cash in your wallet increases. Therefore, the total money supply remains unchanged.
The Unique Mechanism of Coinage Seigniorage
However, coins possess a secondary mechanism that does have the effect of increasing the Money Stock.
The Ministry of Finance procures coins at a certain minting cost and “sells” them to the BOJ at face value. The difference between the face value and the minting cost becomes government revenue. This is a classic example of Seigniorage in its literal sense.
The government is free to use this revenue to fund public works or pay civil servant salaries. The only difference here is whether the government raises funds via bond issuance or via “Face Value minus Minting Costs.” When the government actually spends this seigniorage revenue, it triggers the same credit creation mechanism I explained in my second model of credit creation—thus increasing the total money supply.
Theoretical vs. Practical Limits
In reality, the demand for coins is limited, so the scale of this seigniorage is relatively small. Theoretically, the government could mint a “100 trillion yen coin” and force the BOJ to buy it for pure financing purposes—an idea that would require legislative changes. But since the government can already raise any amount of funds through bond issuance, there is no practical need for such gimmicks.
It’s worth noting that seigniorage also occurs with BOJ current account deposits, but that does not have the effect of increasing the Money Stock. That discussion is even more technical and complex, so I’ll save it for another occasion.
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