The unprecedented expansion of money supply with all its social, economic and political consequences is only possible with certain kinds of money. This makes choosing the kind of money we use an important consideration. I outline 5 kinds of money based on their stability, degree of central control and how open they are to abuse.
The worst and best forms of money on my list are still hypothetical. I have included them because they seem to me to represent two futures for humanity, one dystopian, the other immensely more appealing.
Many will agree with J.P.Morgan that “Gold is money, that’s it!” and wonder why it is not on the list. I agree that gold is the basis of sound money. Historically its use as a means of exchange preceded the invention of coinage by several thousand years. However gold as money is handicapped by two things. First it is heavy and difficult to lug around. Second demand for money is many times greater than the amount of gold available. Using gold would hobble economies for want of a means of exchange.
Others will point to crypto-currencies such as Bitcoin as new money. While all of the five forms of money I outline can be delivered via a distributed ledger (blockchain), and indeed the best form of money, the People’s Gold Standard pretty much depends upon it, Bitcoin and other genuine crypto currencies are not in my opinion money. There is no attempt with Bitcoin, Monero, Litecoin or others to be stable. Instead they are speculative instruments where the holders hope that their value increases. For money to work it has to be at least designed to be stable, even if the results prove otherwise.
Here are the five forms of money starting with the worst:
5. One World Currency
At the Bretton Woods conference in 1944 head of the British delegation, economist John Maynard Keynes proposed a single world currency which he named “Bancor”. The same conference created the International Monetary Fund (IMF). The IMF already has a super-national currency called “Special Drawing Rights” (SDR) made up of a composite of fiat currencies.
One option to the current financial situation is a reset of currencies with a single global currency. The currency would be digital and controlled by a supra-national body such as the IMF. The loss of banknotes would mean that each person’s money would be solely represented by digits in their bank account.
As such this money, like fiat money in the bank today would be open to confiscation by the authorities. During the 2013 banking crisis in Cyprus depositors lost billions of dollars when the government unilaterally decided to remove funds from their accounts. Other limitations could be placed on money. Recently China has limited the amount of withdrawals from certain banks.
The one-world currency option increases the centralisation of authority seen with fiat money. Rather than being a solution to current financial issues it is likely to increase them with the consequent social and economic effects.
Fiat is government money whose value is allowed to float relative to other currencies. From the perspective of fiat money, the peg to gold before 1971 posed an unnecessary straightjacket to monetary policy. Free from having to adjust the supply of money in order to maintain the currency’s peg to the value of gold, money could be printed in order to meet any number of social goods such as full employment, stimulation of the economy and government spending.
The actual result of fiat money has been poor. Fiat currencies have inflated to be worth just a fraction of their purchasing power in 1971. 1971 was also the year workers’ wages peaked in the United States. GDP growth has been sluggish compared to the prosperity enjoyed during the 19th and early 20th century classical gold standard era.
The current need for central banks to inject new money supply in ever increasing amounts simply to prevent default on unsustainable debt levels can be seen as the logical outcome of the fiat money experiment. Historically governments have seldom been able to resist the temptation to print more fiat money. In the words of currency historical Nathan Lewis: Those who claim “this time is different” simply have no idea how much it is the same.
3. Government Gold Standard
The reason why gold is the basis of good money is because it has kept a stable value for thousands of years. This stability is not perfect but it is better than any other option that humans have come up with to date.
Because gold keeps a stable value, money pegged to the value of gold also takes on this stability. This is what is meant by a gold standard – money whose value is pegged to the value of gold.
During the classical gold standard era during the 18th, 19th and early 20th centuries the way governments pegged their currencies to gold was through the control of supply.
If the currency was weakening relative to the official peg to gold (in the US first $20.67 and then in 1934 $35 an ounce) people would go to the bank to buy gold with their dollars as they would make a small profit. The bank would sell the gold and retire the dollars from circulation. This reduction in supply would continue until the demand for dollars would again raise their value to the official peg with gold.
If the opposite was the case and the dollar became overvalued relative to gold then people would take their gold to the bank and exchange it for dollars in order to make the small profit. The bank would buy the gold with newly created dollars. This would increase the supply of dollars until the value of the dollar fell back to its official peg price with gold. At this point people would no longer come to the bank to exchange gold for dollars because the profit on the trade had disappeared.
Before 1971 maintaining this peg to gold through the control of money supply was the primary function of a country’s central bank.
Apart from the stability that the peg with gold provided, the other great advantage of the gold standard is that is provided monetary discipline. Governments could not print as much money as they wanted. The supply of money could only be used to maintain the peg with gold. When governments wanted to print more money, for example to finance a war, they would abandon the gold standard as this is the only way they could do it.
Throughout history stable money, first in the form of gold and silver coins and then as a gold standard has coincided with economic expansion and political stability.
2. Distributed Gold Standard
The United States was a late comer to the central bank gold-peg system. The Federal Reserve was not formed until 1913 and even then its role was not to maintain a gold-pegged currency but to be a lender of last resort in the event of currency shortages that tended to happen each harvest season.
Until that time individual banks issued their own notes. Seven thousand US banks issued their own notes in 1910. The period 1837 – 1864 has become known as the “Free Banking” era when banks had practically no federal regulation but were instead managed at the state level.
Each of these banks maintained the peg of its notes to the value of gold through the control of supply as above. The period demonstrates that a gold-pegged currency does not need government mandate to operate. It’s relevance for today is that it shows that non-government organisations could initiate their own gold-pegged currency. For example, Facebook proposed its own digital currency, Libra. There is no reason why the company could not have proposed a currency pegged to gold and maintained the peg through the management of supply. Food retailers are also potential contenders. By accepting the money they issue food retailers would provide immediate utility for their currency.
The free banking era has been criticised for the number of bank defaults that occurred in some states. This “wildcat” banking has been used as an argument in favour of currency issue by central banks. However research has shown that the cause of a spate of bank closures, especially in Indiana in January 1855 was not due to the size of the bank.
The reason goes back to the failure of government, this time, state government to manage its finances. For a bank to operate it was required to purchase state bonds. These bonds were lodged with the state as collateral for the issue of notes. In 1854 Indiana state bond prices fell about 26% between August and December. This loss of collateral value meant banks could no longer repurchase their notes from customers for gold as they no longer had sufficient collateral to do so.
It is interesting to wonder how much longer the free banking era would have continued without the state government obligation to buy their bonds. What if the banks could simply keep physical gold (specie) as collateral?
Another benefit of the free banking model over central bank gold-pegged currencies is the inherent competition it creates. Like elsewhere in the economy, competition in currency is good for the customer and good for the currency. A secondary market for the notes of various banks during the free banking era meant that banks had every incentive to minimize risk in the loans they made. Any fall in the traded value of their notes would be bad for business and could lead to a run on the bank. Banks with poor risk management would lose out to those firms that where better able to maintain their currency’s peg with gold.
F. A. Hayek made a similar point on 25 September, 1975, at Lausanne, Switzerland with his paper Choice in Currency – A Way to Stop Inflation. Hayek suggested that if people were given a choice in the currency they used they would naturally choose those that held their value. The US free banking era supports Hayek’s suggestion.
1. People’s Gold Standard
Like the One World Currency, gold standard money owned by people has not yet seen the light of day. I am currently implementing the approach with RedPill money in New Zealand where I live. I have also created a website that outlines how the process works for others wishing to create their own stable money.
Fiat and other forms of gold-pegged currencies enter the economy as a form of debt. Government bonds are the primary form of collateral the currency issuer holds against the money it prints. A gold-pegged currency owned by people on the other hand is simply given away. For example 750,000 New Zealanders can now receive 10,000 RedPill, free, no strings attached.
Without collateral the peg to gold cannot be maintained by changes in supply. Instead a passive peg is used.
A passive peg is the ability of people to maintain price stability from their need and expectations alone. This stability mechanism is as old as the use of gold itself. Indeed the stability of gold’s value is the best example of a passive peg. There is no reason why gold should have kept a stable value for so many thousands of years except for the need and expectation of people that it should be so.
During the Weimar Republic people used a passive peg to keep Gold Loan Bonds at a stable value even though they had no more collateral backing them than the hyper inflating mark. Today, by default the crypto currency Tether maintains its peg with the USD with the same approach – the company does not keep 1:1 USD collateral for its coins.
A people owned currency is therefore distributed to a population of individuals, preferably in a given geographic area such as New Jersey or New Zealand so that the currency can become a means of exchange in the economy. The supply of currency is also hard capped so that no more can ever be issued. If demand increases beyond supply then another currency is created and distributed in the same way.
Once all the currency has been distributed the expectation is that people will start using it at its suggested pegged value. For RedPill this value is 1,000 RedPill = 1 ounce of gold. It is in the self-interest of people to maintain this peg in order for them to use the currency. If they are able to do for themselves what in the past central banks operating a gold standard have done for them, then they have created for stable money with no centralised control. If they cannot the currency remains worthless.
The use of stable money owned by people is also the best form of money for the real economy. The Cantillon Effect states that when there is new money those closest to the issue benefit most. This is one reason way the current monetary expansion by the Federal Reserve increases government debt and valuations in the stock market but does not stimulate the real economy. Banks, large corporates and government are all closer to the Federal Reserve than people. With money owned by people it is they that receive most benefit from the new currency. As they use the money this benefits the real economy more than government and equity prices.
Stable money owned by people also has the benefit that people remain in control of the currency they own. By using a blockchain to record ownership banks are no longer required and the risks of bail in, confiscation or other constraints on use eliminated. Not only does each individual assume responsibility for maintaining the currency’s peg to gold, they also have responsibility for managing their account. If they lose their account details the money is lost.
Another way of viewing this list is to see it as a progression in individual self-responsibility. With a One World currency every aspect of the money is done for the individual. Government gold-pegged money imposes monetary discipline on the government. Competition between currencies during a free banking scenario enables people to maintain the integrity of money by choosing which currency to use. People owned money gives the responsibility of maintaining the peg and one’s own personal bank account to the individual.
Because monetary value is ultimately created by people the form of money we use is an expression of our self-image. The more self-aware we are as a society the more our money will reflect this. Centralised control diminishes and general prosperity increases proportionally.