Thursday, 6 August 2009

Californian IOUs: I'll be paying you back

There's an interesting new financial instrument in town. The state of California has issued registered warrants, usually referred to as IOUs, to some of its suppliers as payment for goods and services, and instead of cash when state tax refunds are due.

IOU: As good as money, on or after 2nd October

California has run out of money. It can't pay its bills. In this respect it's just like the Federal Government and plenty of municipalities. However, there's one big difference, the state, like almost all US states, is required to balance its budget - it can't just issue bonds and go into debt.

So they came up with these registered warrants. They started issuing in July, and plan to redeem them in October. The warrants carry a 3.75% per annum equivalent interest rate, provided you hold for the full term.

But, what was planned as a very short term measure to cover a cash shortfall has gained a momentum of its own. The IOUs are being traded on eBay, and the SEC is sniffing around to see if they count as a "security" and should be regulated. The state has issued instructions to eBay and Craigslist about how transactions should be processed.

And if the IOUs start becoming "money" there's another problem. The US Constitution says (Article 1, Section 10) "No state shall ... make anything but gold and silver coin a tender in payment of debts." Oops! You can already pay your debts to the state using these IOUs.

So far there has been no great objection from on high to the IOUs. The Federal government hasn't tried to quash them. In fact it seems to have collaborated in making them work. Could we be seeing the earliest signs of California having its own currency?

Link: CA IOU FAQ

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