Real bills doctrine

The Real Bills doctrine (RBD) is a theory of money creation that argues that issuing money in exchange for short term private credit is not inflationary. In this context a "bill" is a promise to pay at a future date. An example would be a merchant buying goods for sale, with a promise to pay when the goods are sold. A "real bill" would then be one where the goods are obviously in such demand, and the possibility of loss insured against.

Each time the bill is exchanged, the seller "discounts" it by reducing the face value for the amount of time left before the bill is payable. In a RBD economy, banks would be allowed to issue notes, that is currency, based on real bills that they hold, in addition to specie. (See free banking)

In the 19th century, such bills circulated in a manner similar to options trading today, that is with standard terms to payment at a particular location, generally London, at a particular time, generally 90 days, even for goods which were not to be delivered to London, and between buyers and sellers that were not intending to be physically present in London at any time. In the theory of the Real Bills Doctrine, the gold standard and the tying of central bank portfolios to bills, that is economic transactions in process, would regulate the amount of money in an economy. The collapse of the RBD can be seen as being tied to the collapse of the pre-1913 international gold standard.

RBD was enunciated by Adam Smith in The Wealth of Nations, and found supporters in influential writers such as John Stuart Mill. Some aspect of RBD is present in the creation of the United States Federal Reserve. In later hard currency economic thinking, it was considered discredited by the writings of Ludwig von Mises and Lloyd Mints. This rejection is a component of what would lead Milton Friedman to formulate monetarism. In recent decades some papers have been published which argue that RBD, and not Quantity Theory, is compatible with pareto optimality and observed inflation data.

The RBD is often remembered as "the decried doctrine of the old Bank Directors of 1810: that so long as a bank issues its notes only in the discount of good bills, at not more than sixty days’ date, it cannot go wrong in issuing as many as the public will receive from it.'" (Fullarton, 1845) The Real Bills Doctrine was opposed to some form of strict issuance, called in this context "Quantity theory of money," though this does not mean the same thing as the present neo-classical use of the term quantity theory of money.The controversy between the bullionist and anti-bullionist schools of thought in the early 19th century, and the banking versus currency controversy of the mid-19th century represent various examples of the conflict between the two ideas.

The Real Bills Doctrine is a matter of continuing controversy in libertarian economic circles, but far less so in mainstream economics at large, since the basic assumption of a restricted currency basis is not in force in most economies.