California IOUs: Buying, Selling, and Inherent Value
The state of California is in poor fiscal shape. Without an agreed-upon budget, the state has resorted to sending people and businesses IOUs rather than the money owed. California has distributed $335 million in the form of these documents. The IOUs look like checks with “Registered Warrant” printed in the top corner, carry an interest rate of 3.75% and they can theoretically be cashed or deposited in October or earlier if the state comes up with the money.
Many banks and credit unions have been accepting the IOUs for deposit for recipients who are willing to forgo the interest. But on Friday several banks have begun refusing the IOUs. Wells Fargo, Bank of America and JP Morgan Chase no longer accept IOUs issued by the state of California. It is their intention to encourage the government to resolve the budget crisis as soon as possible and they believe this move will put pressure on the state to get closer to resolution.
Individuals who have cash now are taking the opportunity to buy IOUs from people who need the money. A marketplace has popped up. People are buying and selling the IOUs on Craigslist for less than face value, which surprises me as there are enough banks still accepting the IOUs for full deposit. Some buyers are just looking for a guaranteed investment.
Just like any new investment, this process is susceptible to fraud. If you find yourself in possession of an IOU that is not addressed to you, make sure you have a notarized bill of sale; otherwise, according to the California state treasurer, the state may not honor the transferred agreement. The Securities and Exchange Commission is getting involved, too.
Paper money was originally intended as an IOU, to be exchanged for something of “inherent” value, such as silver, at some other time. Eventually it became accepted that objects of “inherent” value were not needed as long as everyone had faith in the paper money. These IOUs from California would not be much different if everyone believes the government will eventually pay up and banks would accept them for deposit.