Scottish banknotes are not legal tender in England – or in Scotland. What matters is not what is legal tender, but what others will accept.
Over lunch one day at the Bank of England, someone told me he had spent the morning signing £1m banknotes. I guessed the notes were used by London’s wealthy but tax-exempt non-domiciled residents to tip their butlers.
But I was wrong. The notes went north of the border.
Once, most banks issued their own currency. Following earlier credit crises, the Banking Act of 1844 led to the gradual disappearance of private issues and ultimately to a Bank of England monopoly. But only in England and Wales, not in Scotland and Ireland. The banks of Scotland and Northern Ireland retain the right of issue to this day.
No one is obliged to accept these notes. They are not legal tender in England – or in Scotland for that matter. Nor are Bank of England notes legal tender in Scotland (though the English £20 ($39) notes bear the head of that great Scotsman, Adam Smith). The only way you can safely discharge a Scottish debt is with a sack of coins.
But the recipient might not be grateful. What matters is not what is legal tender, but what others will accept. Since shops do not have to deal with you at all, they are free to refuse your cheques and your Scottish notes – and your English ones. They take your credit cards, not because the cards are legal tender – they are not – but because they want your money and your business.
The right to issue notes allows the bank to benefit from seigniorage – the value of its float of currency. Banks are not the only businesses to profit in this way. American Express derives seigniorage from its Travellers Cheques. The Post Office has the financial benefit of stamps paid for but placed in stamp collections or lost a century ago – and the corresponding contingent liability.
Government is resentful of seigniorage and fearful that note-issuing banks could conduct their own monetary policies. So Scottish and Irish banks are required to match their issue pound for pound with Bank of England notes. That was the role of these hand-signed £1m notes. But a canny Scotsman noticed that the obligation to hold equivalent cash applied only on Saturday evenings, when Scottish pubs are open and banks are closed. If the banks deposited the money on Friday, they could withdraw it on Monday and lend it profitably for the rest of the week.
The £1m English notes do not give the holder of Scottish notes much security. Whether the Bank of Scotland failed on Saturday or a Tuesday, people with Scottish cash in their wallets would simply rank with other unsecured creditors.
Perhaps there is a case for making note-holders beneficiaries of the Financial Services Compensation Scheme. And it is through the review of that scheme’s provisions for bank depositors that the Scottish note issue has become entangled with the Northern Rock fiasco.
But the issue of the value of the pound in the Scotsman’s sporran is a smokescreen. The larger question is the income Scottish banks derive from lending out the cover for their £3bn note issue for about half the time. If they were required to hold that cash continuously, the UK Treasury might, through the Bank of England, gain about £100m a year. The amount is not large relative to the scale of operations of the Scottish banks, but not negligible either. Although they huff and puff, Scottish banks would probably continue to issue their own notes even if there were not financial advantage – it is not often that people carry your advertising in their wallets and purses.
But Scotland elected its first nationalist government last year. Only someone with a tin ear for politics could think this a good moment to emphasise the fealty of the Bank of Scotland to the Bank of England. The plan would be easier to justify if the Bank of England were renamed the Bank of the United Kingdom (since Northern Ireland is also affected, the more euphonious Bank of Britain would not do).
I can already imagine the jokes about passing the BUK. There are some historical anomalies that wise modernisers leave well alone.