If you’re satisfied with phone plans that round-up usage to the next minute when calls exceed 60 seconds, then you’ll love President Obama’s plan to eliminate the US penny.
For that same rounding-up is precisely what will happen to prices of almost everything, including taxes, should such a plan be approved. To be fair, similar proposals have reared their ugly heads before, including in 1990, 1996, and 2006. Instead, smart Americans should support keeping the US penny.
From the consumer’s perspective, the worst effect is the inflation that begins at the point of purchase and then perpetuates itself. Remember, 80 percent of all prices do not end in a number evenly divisible by five. Most evidence suggests Americans are price conscious enough to prefer the exact amount rather than “not bothering” with the odd cents. With the proposed legislation, 80 percent of all transactions will be rounded-up. Taxes, often state and local sales taxes, are added to that price, so there is an additional rounding-up.
Even if companies price each item so its total price is evenly divisible by five, companies aren’t going to achieve this by rounding-down their costs or profits. They will round-up their prices and that will result in more sales tax. (A simple example at the end of this column shows the arithmetic.) There are also the costs incurred by businesses to reprogram or buy new cash registers, which in the case of smaller businesses could be a significant amount percentagewise. Those costs will also be passed on to consumers.
Banks would benefit
Suppose this legislation only applies to the uncounted tens of millions of cash transactions, and not to checks and “plastic.” So people figure they’ll use plastic all the time and not have to pay the few extra cents. Does anyone really think banks will tolerate this new influx of tens of millions of “penny ante” transactions to process? Of course not!
Banks will charge either steeper or new fees for transactions under a certain amount. Consumers who pay those fees will wind-up more than offsetting the few cents that could have been saved. Again, the consumer will get chiseled out of an option to be prudent, because the government is interfering with market pricing by eliminating 80 percent of all possible cash prices.
Some argue that the government would save somewhere around $120 million. That’s a whopping 38.71 cents for each of the more than 310 million Americans. Budget-wise that is 1/30,000th (.00333 percent) of our over $3.6 trillion federal budget.
One of many related points is that the US has fiat money, meaning most of the money supply is not backed by anything of intrinsic value. Intrinsic value means coins consist of or the currency is explicitly backed by something of value, such as gold or silver. President Lyndon Johnson, in 1964, and Richard Nixon, in 1971, removed the last vestiges of silver and gold, respectively, that “backed” US coins and currency. What backs money now, and, in fact, before those dates, is the confidence that the next person will accept the money at face value without any hassle. We don’t need to have coins made of copper, silver, gold or other commodities with intrinsic values and that are subject to wide price swings.
A closer look at values
To exemplify how the intrinsic value of coins varies, while being meaningless in terms of coins’ face values, consider: The 1964 Kennedy half-dollar is 90 percent silver and has a current “melt value” (i.e.; what the silver content is worth on the open market) of roughly $10.55. The Eisenhower silver dollar (worth twice as much when used as money) has a current melt value of $9.20. The 1965-1970 Kennedy half-dollars have current melt values of $4.30, as Congress cut the silver content of those coins to 40 percent.
Readers can go to sites, such as http://www.coinnews.net/tools/automated-silver-coin-valuator/ and perform similar calculations.
Note: The values shown above are rounded to the nearest nickel for Feb. 25, 2013, prices. These numbers will probably vary daily, as the closing price of silver fluctuates most market days. Using the link, readers may also discover other disproportionate face and melt values. The point is, a penny's composition is irrelevant to its monetary value.
An accompanying image displays the first of a wonderful exchange of letters, originally compiled in American Affairs, Vol. X, No. 2 (April, 1948), between Mr. A.F. Davis (a formerly anonymous citizen) and US Treasury Secretary John Snyder. Davis demanded $10 in “lawful money” for his $10 Federal Reserve Note. An exchange of letters followed, before Davis was told there is no meaningful difference. The letters humorously help clarify the nature of money, and help show why this whole penny-saving measure is so much nonsense.
The four criteria our coins must meet are: durability, difficulty in counterfeiting, working in existing machines (e.g.; vending machines, parking meters, etc.), and acceptance by the American people. The first two are self-explanatory, and the third is less relevant to pennies, except maybe with older machines. The last criterion was discovered with the Susan B. Anthony dollars (aka SBAs). Their somewhat odd (11 sided) shape was determined to be one reason they weren’t widely accepted, although they could be used in most machines. The other issue was that SBAs were originally proposed to replace the one dollar bill. Many Americans resented Anthony replacing George Washington.
The reason we have pennies is to allow more precise pricing, which is part of what a market system needs to function properly. Then there is the inherent inflation and not just from businesses naturally rounding up. There is also more tax collected, which explains some of why governments tend to favor such an anti-consumer move.
The issue is that a one-cent coin is necessary for proper pricing and what is in the coin really doesn’t matter. Don’t be conned into being “penny-wise, pound-foolish.” Eliminating the penny would reduce federal spending less than 39 cents per capita. American consumers would fork out considerably larger amounts, just because some people were too lazy to count precisely, and governments wouldn’t refuse an easy and unlegislated gain in revenue.
If you understand arithmetic, you'll understand this example
Suppose the total cost of a product including labor is exactly 30 cents, or $0.30, and the firm wants to make 10 percent, which is $0.03. The firm prices the product at $0.33.
Now suppose sales tax is 6.75 percent, the current rate here in Columbus, Ohio. That would calculate to $0.022275. Then, the total price becomes $0.33+.022275, which equals 35.2275 cents, or $0.352275. Under the proposed currency change, the firm would price the product at 40 cents ($0.40). For sellers, that is preferable to reducing their nominal profit margin of 10 percent or asking labor or their suppliers to lower prices. It’s much easier to raise the price. Here’s what happens:
The target price is 40 cents, or $0.40. So divide .40 by 1 plus the tax rate of .0675, which equals 1.0675. This gives you the pretax price of $0.37470726 (37.470726 cents). Since the cost to produce the item is still $0.30, the firm profits $0.0740726, or 7.470726 cents per unit instead of 3.0 cents. At the point of sale, the government whose sales tax was 2.2275 cents per unit now gets 2.529274 cents per unit. That amounts to a tax increase of $.301774 per unit, or 7.3755 percent.
So, it’s hard to imagine governments and firms having any incentive to oppose eliminating the penny, because they all would profit from the change. Consumers would be the losers.
Note: You can try this using other tax rates, prices, and profit margins. The amounts will vary but the direction of change will be the same as long as the firms and government round-up, which will be their normal inclination.
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