July 13, 2009

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California, strapped by an insane budget crisis, is issuing IOUs to its employees and creditors, and will soon likely be willing to accept these IOUs as payment for taxes and other state obligations. Nothing like a little extra-constitutional currency creation to spice up the economic picture of the U.S.A!

The Economist’s Free Exchange offers this take on the consequences:

The highly uncertain long-term value of the IOUs may make anyone reluctant to accept them, preventing them from rising to de facto currency status. On the other hand, if enough people and institutions begin accepting them, Gresham’s law may apply. Consumers may be anxious to hold on to dollars and spend their funny money wherever they can, until circulation is dominated by the IOUs.

But then, of course, economies that do business with California would have a demand for the IOUs, and other states—Nevada, and Oregon, say—or countries might begin accepting them. A constitutional challenge likely wipes all this out, but it is interesting to consider.

Another question—what to call them? I nominate the term “props”, in honour of the ballot initiatives which landed California in this mess in the first place.