By John W. Schoen
msnbc.com
updated 10/25/2004 3:07:43 PM ET 2004-10-25T19:07:43

August 27, 2004

Now that travelers are criss-crossing the globe during peak summer vacation season, many of them are spending a lot of time trying to keep track of  how much they're spending in the local currency of their destination. Which has Betty wondering: just why does the world have so many different currencies?

WHY SO MANY CURRENCIES?
Can you explain to me why there are different currencies around the world and why they have different values from country to country?
          Betty W.  

The simple answer is that currencies are created by governments, so each of the 145 or so countries out there have the ability to create their own.

The value of a currency is determined every hour of every day by the faith people have in its buying power. If a nation’s economy is weak or the government backing that currency pursues economic policies that hurt the buying power of that paper, people will quickly adjust and demand more currency or refuse to accept it altogether — both in and outside the country.

The value of one currency relative to another is set largely by the global financial markets. Traders (mostly at big banks and brokerage firms) call each other on the phone all day long, buying and selling dollars, euros, yen, pesos, etc. based on news events or economic reports that impact the value of those currencies. These traders are just trying to make a quick buck, but all this buying and selling amounts to a vote of confidence (or lack of it) in a particular
currency.

Some countries realize that their economy is too small to support a stable currency, so they adopt the currency (officially or unofficially) of a larger country. This is especially true of the dollar. That’s one reason the U.S. government’s ability to control the value of the dollar is limited. Rising oil prices, for example, hurt the value of the dollar because it takes more dollars to buy a barrel of oil.

August 20, 2004

With oil prices hitting new highs every day, Al in New York is wondering why gasoline prices haven't been jumping as well. (Or at least not yet.)

What's up with gas?
Why have the gas prices at the local gas stations not gone up in a couple of months when oil has gone up 10 to 15 percent a barrel in just the last couple of weeks? Last time oil was getting out of hand you could watch the gas stations change the prices while you where pumping the stuff?
          Al O. -- Rockland County, N.Y.

Keep an eye on those pump prices, Al. The recent pullback could be temporary.

Major Market Indices

One big reason gas prices jumped this spring was that there looked like there might not be enough gasoline to go around in time for the summer driving season. (Gas prices usually rise somewhat every summer because of the increased requirements for special “reformulated” blends designed to reduce air pollution during warmer weather.)

While those high prices made it a lousy time to fill up your tank, they made it a great time to make gasoline — profits margins for refiners were huge because crude was still relatively cheap. So those refiners began cranking up production to near record levels — and they made a bundle of money by doing so. Now, with all that gasoline sloshing around the system, and the summer driving season wrapping up, prices are falling again.

But so are profit margins for refiners. If unusually cold weather this winter cranks up demand for heating oil, there will be less crude oil available to make gasoline. And if gasoline supplies get tight again, prices could head back up.

A lot depends on what happens to oil prices. So far, the recent oil price rise hasn’t yet moved through the system. But if oil prices keep rising through $50 a barrel — and stay there — the price of all refined products will go up.

What’s troubling about the current oil price run-up is that it’s not based on OPEC withholding oil. In the past, if prices rose too far, OPEC would simply pump more oil and prices would fall. But for the first time since the cartel was founded in 1960, oil producing countries are pumping as fast as they can. (At these prices, who wouldn’t?) Saudi Arabia has said it has a little spare capacity left, but so far its promises to pump more haven’t helped.

The good news is that the run-up in oil prices also seems to be coming from traders bidding up prices on fears that we may see actual shortages of oil. (Kind of like when everyone goes out before a hurricane and buys more flashlight batteries than they really need.) If the markets settle down, and political stability returns to major oil producers like Iraq and Venezuela, we’ll see oil prices fall again.

But oil could well hit $60 a barrel before it hits $30 again.

August 13, 2004

With oil prices soaring and the Fed raising interest rates to keep a lid on inflation, Rod in Texas wants to know just how big an impact those oil prices are having on inflation and the economy.

Return of stagflation?
(Will higher) oil prices (bring) inflation or a drag on the economy? Recent articles seem to indicate it will do both if it goes really high. How can we have inflation when the economy is not growing and therefore creating jobs and pushing wages up?
          Rod M. -- Austin, Tex.

In theory, higher oil prices can bring both higher inflation and lower economic growth. That's what happened in the 1970s, when the first "oil shock" gave economists a new piece of jargon: stagflation, which had nothing to do with bachelor parties. (A stagnating economy with high inflation = stagflation.) What made stagflation so difficult to deal with was that the usual levers at the Fed don't work very well. Higher interest rates cut inflation, but they also throw more cold water on the economy. Lower rates help spur growth, but they add fuel to the inflation fire.

This time around, however, the economy is growing, according to the government's latest report on Gross Domestic Product. But that growth is coming primarily from increased productivity — not from newly-hired workers. What's not clear is whether all the increased productivity is the result of technology helping us all become more efficient — or whether we're all just turning into round-the-clock slaves to that technology.  In other words, are we working smarter or harder?

As for inflation, there are two kinds: price inflation and wage inflation. Price inflation generally comes first, often from shortages of critical commodities (like oil). Those higher prices then squeeze workers' buying power, so they go to their bosses and demand pay raises (or threaten to strike). To pay for those raises, companies raise the prices of their goods and services, which then sends workers back for more raises, and the vicious cycle begins. That's what happened during the Great Inflation of the 1970s.

With today's employment outlook uncertain and job security reduced, workers are more reluctant to demand those raises. So far, we've only seen the beginning of the impact of higher oil prices. If companies begin to pass those higher costs along (oil is used to make or ship just about everything we consume), eventually workers will start squawking.

Still, there are several big differences between today and the 1970s. For one thing, U.S. taxpayers just got a big tax cut last year, which boosted buying power. Second, when adjusted for inflation, oil prices really aren't as high as they were in the 1970s. And perhaps most important, the oil shock of the 1970s created a huge national effort to become more energy efficient. The result is that the amount of oil used to produce each dollar of GDP is about half what it was 30 years ago.

Aug. 06, 2004

Here at the Answer Desk, most of the mail we get touches on the subject of money one way or another. This week, Carmen in Texas is taking the question head-on: she’d like to know what, exactly, is money? Jeffrey in Omaha, meanwhile, has money to burn — literally — and he’s wondering if he can get arrested for doing so.

Tender question
In plain and simple English can you explain exactly what is money?  I know it is green and made from paper or coins.  However, I need to understand what IS money.  How is it created? And if the gold standard was eliminated, then is our paper money backed only by the faith in our government and their power to manipulate us and the world?   What stops another country from creating a faith-based currency? Nuclear capability?   It all sounds like a house of cards. And if that were true, then would it be most likely that we would associate value to tangibles, such as real estate, gold, tulips?  Once the gold standard was eliminated, did we also eliminate REAL money?
         
Carmen A. -- Garland, Tex.

We’d hate to be the cashier at the supermarket who had to break a $20 for you.

But you’re right that much of the strength of a country’s currency lies in the faith we all have that it will retain its purchasing power. While coins may have intrinsic value based on the metal used to mint them, paper money is essentially a legal document. What you're really asking is: what are the terms associated with U.S. paper currency?

Here's what the Federal Reserve has to say:

"According to the Legal Tender Statute (section 5103 of title 31 of the U.S. Code), United States coins and currency (including Federal Reserve notes and circulating notes of Federal Reserve banks and national banks) are legal tender for all debts, public charges, taxes, and dues. This means that all U.S. money, as identified above, when tendered to a creditor legally satisfies a debt to the extent of the amount (face value) tendered....However, no federal law mandates that a person or an organization must accept currency or coins as payment for goods or services not yet provided."

In other words, if you owe someone money, the law says you can use these paper notes to pay them back — and they can't try to take your house to settle the debt. But if someone is selling, say, food or gasoline, they are not required to take your paper if they don't want to. They may prefer that you pay them in live chickens or lumber — based on amounts negotiated by buyer and seller.

That kind of barter economy, of course, worked for thousands of years and still prevails in developing countries with currencies that no one has faith in. Using paper to stand in for physical goods first became widespread in the Western world about 500 years ago, when European trading companies financed voyages to find and transport precious goods like gold, spices, lumber, etc. In some cases, those "notes" could be redeemed for goods. Some notes changed hands — with the value rising or falling based on news of the voyages success or failure.

This exchange of paper was the origin of the modern global financial markets, where traders swap billions of dollars worth of stocks, bonds, cattle futures, etc. In some cases, people trade paper than represents the value of another piece of paper called "derivatives." And every time you write a check, you're creating new paper — with separate legal terms and conditions. (There are limits on your obligation to make good on that paper. For example, if someone puts a gun to your head and tells you to write a check, that's called armed robbery.)

You're correct that if the world suddenly and completely lost faith in the value of the U.S. dollar, our economy would pretty much grind to a halt. That's one reason U.S. currency was recently redesigned — to thwart counterfeiting. Nothing undercuts confidence more than the fear that the paper you're working for and saving is not the real thing.

Today, we've moved beyond paper. Economic value is now represented by electronic bits stored in the sprawling computer networks that make up the U.S. "financial system."  It's taken decades for banks to create the current widespread consumer confidence in credit cards, ATMs and electronic funds transfer. In some cases, you're out of luck if you don't have access to plastic. (Ask any teenage kid trying to buy something on the Internet.)

This electronic system is clearly subject to abuse, as anyone who has been the victim of identity theft can attest. But as long as the folks at Wal-Mart will let us use plastic, we'll keep shopping there. The minute they stop accepting it, many consumers will likely move to the next merchant.

It's possible to envision nightmare scenarios: terrorists figure out how to hack the U.S. financial system or flood the world with bogus dollars. But we'll always need to trade and, in the modern world that means creating something — paper or bits — to represent the value of our labor and accumulated wealth.

Money to burn
I know it is illegal to deface and/or damage money with the intent to defraud or to force the government to replace the damaged bills with new ones. My question is: is it illegal to burn a bill beyond recognition and scatter the ashes? Since I cannot submit it to the Feds for replacement, they are out nothing. Actually, that's one less bill they have to answer for, so it's like donating money to the Government.

True or false?

          Jeffrey K. – Omaha, Neb.

Even though you may have money to burn, turning cash into ashes is a no-no, according to the U.S. Bureau of Engraving and Printing, which makes all U.S. paper currency.

Specifically, this is a violation of Title 18, Section 333 of the United States Code, which says that “whoever mutilates, cuts, disfigures, perforates, unites or cements together, or does any other thing to any bank bill, draft, note, or other evidence of debt issued by any national banking association, Federal Reserve Bank, or Federal Reserve System, with intent to render such item(s) unfit to be reissued, shall be fined not more than $100 or imprisoned not more than six months, or both.”  The law is enforced by the Secret Service.

As a practical matter, of course, money burners are not easy to catch. If you find yourself in the woods trying to start a fire, and the only paper you’ve got is cash, you’ll probably get away with the crime. Just don’t light the match if you see a guy in a black suit with sunglasses talking into his sleeve.

One big reason the government takes a dim view of destroying or defacing currency is that it has to replace it; it costs money to make money — about a nickel per note. And the demand for dollars is huge. The Bureau of Engraving and Printing produces 37 million notes a day with a face value of approximately $696 million.

As for helping out Uncle Sam, it’s not the government’s money, it's yours. Legal tender is provided by the Federal Reserve as a method of satisfying debts (see above), but unless you use it to pay taxes, the government doesn’t own those notes.

According to the Federal Reserve Bank of New York, there is about $675 billion in cash in circulation — the majority of which is outside the United States.  But that amount is not fixed; it rises and falls based on the how much cash banks need to keep their ATMs stocked and keep the U.S. economy humming. (The Fed manages the supply of money by buying and selling Treasury debt from banks.)

As money circulates, the Fed takes old, tired bill out of circulation and replaces them with crisp new ones. Despite those laws against manhandling it, paper money still takes a beating. The average lifespan of a one dollar bill is about a year and a half.

GOT A QUESTION?

Ever wonder what a P/E ratio is and why it's so important? Are you confused about the official definition of a recession? And just what the heck is a derivative? We're here to give you the answers. MSNBC.com's weekly feature "The Answer Desk" helps you make sense of business, the economy and investing. So send along your questions to answerdesk@msnbc.com and we'll try to get you the answer. (Please include your home town with your question; we'll only include your first name if we use your question.)

Any question is fair game, with one exception: no questions about specific investment recommendations, please -- we'll leave the stock picking to the "pros."

Each week, we'll take some of the most-frequently-asked questions and answer them here. We may not be able to answer every question, but over the weeks and months we will provide a comprehensive resource for you, explaining some more puzzling aspects of business and finance.

You can mail in questions at any time and then check this column every Friday for the answers.

(All information will remain confidential in accordance with MSN's privacy policy.)

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