In defense of fiat.

Discussion in 'Markets & Economies' started by BeHereNow, Mar 6, 2014.

  1. bordsilver

    bordsilver Well-Known Member Silver Stacker

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    Bank runs and competitors looking to encourage bank runs.
     
  2. BeHereNow

    BeHereNow New Member

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    I am having a problem reconciling that, with this :
    " The inherent characteristics of gold, bitcoin etc is what removes the need for placing substantial trust into the hands of others.
    It's lack of "backing" combined with its high cost of new production is the very strength required for sound money
    ."

    Apparent problem: How would I not be putting my substantial trust into the ones creating these example of gold-standard-money, in the first place, and in the users and passer-ons of these non-coin forms of 'gold credit'.
    Are you saying buyers of bitcoin have no reason to doubt the security of their 'wealth'.

    I have seen this alliance with non-fiat supporters, liking bitcoin.
    I have to say it confounds me.
    The most explanation I have received is "I think I can make money (profit) with 'bitcoin'.
    So many of the arguments against fiat start as 'Imaginary money, hot off the presses, who wants that!'
    And bitcoin is REAL formulas and digital information, created by an unknown entity.
    Supervised by not to be concerned, it is all good.
    What's not to trust?

    ~
    Okay, so banks had their own currency. city banks in the case of the U.S., Maybe some state banks.

    When they issued a "not actual gold coin" for $100, they are saying "We have that money in our vaults, waiting for you to claim it if you choose, just let us know." Agreed?
    So the owner of that $100 worth of 'not-actual-gold-coin' wants to go from NYC, to Sidney AU, and buys some scuba gear.
    Will the scuba shop readily take my $100 of not-actual-gold-coin' from the NYC bank, and if so, why is there not a large amount of trust, by the NY bank, myself, the vendor, and his bank.
    What gives all of them confidence, without substantial trust?

    Many banks in one country, many countries, so Very Many banks globally, all issuing currency, all approving payment of debt, through each other, on ledger sheets, based on gold they have in their vaults.
    My understanding is this did not go so well.
    That bank in NY will have currency floating all around the world.
    As I understand, it was a very inefficient system, and was soon replaced, with consolidated banks at first, then government banks. My understanding is this was a very natural, evolutionary movement, not imposed on the banks by threat of force.
    Do you see it differently?

    ~ ~

    So I know you are not suggesting the government of these countries start a gold based economy.
    It has been clear you want the government out of the money producing game Right?
    So when you say "a single country..", you actually mean the private citizens of that country right?

    And we are back to this problem of banks each putting into circulation their own currency.
    Are you actually saying banks should be consolidated right from the start?
    Across national borders?
    And to be sure I am clear no outside regulators right? No government interference?

    Self regulated banks controlling vaults of gold, issuing no-actual-gold-coins currency, all with no substantial trust.
    Maybe Facebook or Twitter should head up some of these banks, everyone trusts them (scarism).
    I do not see this 'Gold keeps everyone honest' thing that you do.
    Seems just the opposite to me.

    ~ ~ ~

    If my currency travels to other countries to purchase my needs, will the gold in the vault that it represents also go to those countries?
    Won't those Ozzy banks want to have the gold?

    I see nothing but a logistic nightmare with anything other than 'money' being controlled by a limited number of governing authorities - like national governments.
    How is this resolved?
     
  3. BeHereNow

    BeHereNow New Member

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    Hasn't privately issued currency been tried, and did not work so well?
    Are you also suggesting the 'First Global Bank of Sidney' would be issuing their own currency (not-gold-coins), backed by gold in their vaults, to be spend far and wide?

    I do not understand the logistics of the gold, in a gold-standard, world-monetary-system - where it is, who manages it, when is it transferred, how it is transferred, just over my head.
     
  4. bordsilver

    bordsilver Well-Known Member Silver Stacker

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    Banking would be vastly different without central banks and in a non-fiat world. It would be a lot smaller to start with and would be focussed on core functions rather than continuously leveraging consumption debt in preference to investment debt in ever bigger bubbles. Bank failures would happen just like they happen regularly today. Importantly they would be just another business treated the same as everyone else and not subject to special treatment and bailouts. This is a thing to be desired.

    Cowboys exist in all industries but they get weeded out. Banking in the past with "privately issued currency" was no different, and indeed still exists today with the hundreds to thousands of bank failures that have happened in developed countries since the start of the GFC. To say that "privately issued currency been tried, and did not work so well" is to ignore that every fiat single currency in the past has also failed often with bigger, more widespread consequences. Everytime in the past money always started with a commodity basis and fiat currencies were always instituted by force. No fiat currency was chosen by the market. This by itself says that the free market positively "craves" commodity money and not fiat money. Whether or not banks benefit from FRB, central banks and fiat is of no consequence to whether consumers using banks actually want these things.

    The advent of the internet and cryptography have allowed new forms of money to be experimented with. I am not convinced one way or the other about the longer term success of things like BTC but I certainly don't begrudge people giving it a go.

    In terms of all of the logistics of a commodity-based money world, it is simply a balance of prudence, common sense and need. For the most part small everyday transactions can rely on physical coins or respected redeemable notes. With respect to many competing alternatives, Gresham's Law was coined (pun intended) in such a time. People are people and will haggle and barter and will naturally want a degree of uniformity thereby settling on a handful of "standard" currencies within a given region. As our interconnectedness has grown, the desire for uniformity is no doubt also stronger and it seems more likely that it will be supplied by larger networked note issuers than in the past. On the other hand however, the rise of cheap real time information transfer allows as all to simply access some form of exchange allowing even a wide number of currencies to be traded with ease. With really large transactions they used to be done with bills of exchange with different degrees of ID requirements and the like. Transactions over large distances were handled by limiting transfers to within foreign branches of the same bank with ledger accounts doing most of the work rather than perpetually transferring large quantities of gold or silver through bandit country. Electronic banking systems and centralised 3rd party vaults make all of this a breeze. So I can still have my deposit account and I can still have my platinum credit card with attached paypal.
     
  5. CriticalSilver

    CriticalSilver New Member Silver Stacker

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    And when totalitarian governments can use fiat currencies to create credit without end and then use that credit growth as an extension of foreign policy to undermine the economies of foreign countries, you can really start to see how dangerous the "faith and trust" in fiat currencies can become. Fiat currencies are not sound and in ideologically opposed political systems are not created equally and should not be considered as equal.

    Try doing this with sound money...


    Of course, if this unlimited credit converted into cash stays in China, it poses no problem. But when it is then deposited into foreign currency bank accounts and used to buy property and other assets outside of China, that is when the unlimited, unbacked, fiat currency of a totalitarian state becomes an international financial weapon in that state's quest for global dominance.
     
  6. bordsilver

    bordsilver Well-Known Member Silver Stacker

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    If anyone is interested in academiccy research, then in terms of the history of Free Banking, THIS ARTICLE by Ignacio Briones and Hugh Rockoff provides a detailed outline of some past flirtations with lightly regulated banking (no actual Free Banking examples unfortunately). The authors undertook extensive research and try to dispassionately present the facts. I have copied the summation below.

     
  7. bron suchecki

    bron suchecki Active Member Silver Stacker

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    Thanks Bordsilver, point (5) is why I think some restriction on maturity transformation would be required although the point of free banking for me is that without any govt backup, average people would only hold deposits with highly transparent and conservative banks, if at all. This would create a big restriction on debt creation and thus provide some mitigation of business cycles.

    For an explantional of the theory of free banking and how it is self controlling, see http://oll.libertyfund.org/index.php?option=com_staticxt&staticfile=show.php?title=2307&layout=html

    See also http://goldchat.blogspot.com/2014/02/fractional-reserve-bullion-banking-and_11.html for my summary of it and contrasts to how bullion banking works today.
     
  8. BeHereNow

    BeHereNow New Member

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    To me it is not enough to say this or that system has problems, weaknesses.
    If there are no better alternatives..better to stay with the bad system you do have, then to flounder.
    If one wants escape, a plan is necessary.
    At a minimum I should want to look to the future, of what happens if a working system is replaced. Use my imagination and reasoning to get my crystal ball operating.
    So when I look to the nations of U.S., Canada, Great Britain, Australia, China, maybe even Russia, all going off Fiat money, I see chaos.
    You say "banking would be smaller"what does that mean?
    But you also say " People are people and will haggle and barter and will naturally want a degree of uniformity thereby settling on a handful of "standard" currencies within a given region."
    So banking will be smaller, but with larger banks?
    When banks replace all government mints, I see expanded banking, not diminished.
    When banks literally 'make money', they will be even more in the business of 'making money', and that means bigger, as I see it.

    No unified currency, no controlling agent of coins privately issued gold coins, floating around, and there is a diminished need for banks?

    This seems to be an important issue for those who are against fiat.
    Neither gold based nor fiat based money systems have withstood the tests of time. I understand. Not an issue as far as I can see.

    What might be relevant is why particular systems failed.
    The Roman Empire is often pointed to as a nation that did fine with PM based currency, and failed when it converted to basically a fiat system, adding base metals in coinage.
    They went off the PM system of money for a reason(s).
    This quote from Wikipedia seems to me to be spot on.
    " While it is not clear why debasement was such a common occurrence for the Romans, it's believed that it was caused by several factors, including a lack of precious metals, inadequacies in state finances, and inflation. When introduced, the denarius contained nearly pure silver at a theoretical weight of approximately 4.5 grams."
    There was not enough gold/silver, they did not tax enough based on tax usage (to wage wars and for conquest of new territory), and there was inflation, all under non-debased (non-fiat) money.
    So what I see, is the gold standard failing (first), and being replace by fiat, which also fails, because the government failed.
    The government caused fiat to fail, not fiat caused the money system and government to fail.
    That is what history tells me.
    You see it differently.
    So, why did Rome debase coinage, if not for the short coming of the "gold standard" money, as they saw their needs?

    A complaint against gold stand currency is there is not enough of the metal to supply the needs of all nations. You say, no, this is not true.
    It was true for one nation, not the globe.
    It is a contributing reason for the failure of the gold system for Rome, but you assure us this won't happen again, not even one hundred years from now, even if the modern world is all on board for gold standard money.

    I say money is based on trust, no matter what form, but you say no trust is needed for money.
    Gold will take care of all of that, and make men honest.
    We see exact fakes of coins that are plated or clad, being bought and sold as the real thing, now, today.
    My reasoning says this will be worse, in a global economic system where any entity can issue 'money', that will be self-regulated.
    You see the market wanting a small number of money issuers, moving government control to private business.
    Your belief (trust?) that Wall Street will do a good and fair job controlling the creation and handling of money is greater than mine.

    ~ ~ ~

    Later I will be reading the references from bron, to see if they change anything, and Ignacio Briones and Hugh Rockoff from bordsilver.
     
  9. Pirocco

    Pirocco Well-Known Member

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    I have no problem with fiatmoney, when the market is free, and those that produce extra fiatmoney face the consequences: other people dumping it due to the watering. So byebye legal tender laws, byebye intrest rate manipulation and in the end, byebye governments.
     
  10. bordsilver

    bordsilver Well-Known Member Silver Stacker

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    @ BHN - I'll answer your questions in parts.

    First, with respect to the Roman Empire example the Wikipedia quote is actually confused:

    " While it is not clear why debasement was such a common occurrence for the Romans, it's believed that it was caused by several factors, including a lack of precious metals, inadequacies in state finances, and inflation. "

    It is simply nonsensical to say that a lack of precious metals was causing inflation. The opposite would be the case. I don't know much about that period of time, but if anything I'd suspect it was the same old reason as any other time that countries have gone off a commodity standard - spending binges by governments on wasteful, uneconomic policies. In the case of the Roman Empire it would be informative to see whether the state was undertaking large war expenses combined with large infrastructure/public works spending beyond their means. (W.r.t. the standing army, an understanding about the wealth transfers from newly conquered regions back to the state and whether the rate of new "acquisitions" leading up to the debasement was enough to support the standing army would also be a relevant question.)

    The early period of such spending would be to send the government into deficits and needing to raise the money through bonds etc. This can only continue for so long however, and inevitably the financial reality forced on them by the commodity standard shackles their ability to follow through on their promises to the public without resorting to large unpopular taxes that risk civil war. The resultant political pressure combined with the power of a few key people is enough to begin to undertake taxation by stealth through currency debasement. This is a temporary "solution" to the political dilemma and depending on how dire the finances really are and how rapid the debasement is, can seem to work for a few years without noticeable effects. The problems are not a result of the sound money. The problems are a result of the state abusing its privileges and power to bring money creation into its sphere of control and the political economy then failing to understand the realities of the market economy. This is why sound money advocates always argue that there needs to be a competitive supply of tender and real choice for consumers. Besides the immoral criminalisation of citizens and outright theft of property during the period of gaining illegitimate control over money, monopoly issuance over money has always led to debasement and misuse of their power in order for the monopolist to spend on fundamentally uneconomic activities. I dare say the Roman Empire reasons rhymed strongly even if nuanced with their own back story.
     
  11. bordsilver

    bordsilver Well-Known Member Silver Stacker

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    Exactly. And as I said, I'd be very surprised to see it exist in any substantial way in such a world.
     
  12. bordsilver

    bordsilver Well-Known Member Silver Stacker

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    The banking system has an advantage in supplying money over other investors because they are able to front run the inflation and undercut the price of money supplied by other channels such as the stock market. This advantage exists because of the fiat debt-based money that we have today. They crowd out other sources of money because they can supply it the cheapest (by central bank printing, monetisation of assets etc). This depresses the interest rate below the true market rate with the consequence that true savings are diminished and people are encouraged to take out debt from the banking system (the bastards get you coming and going). The reduction in true savings results in the cost of money via other channels (such as the stock market) being higher. You simply have to look at any asset valuation to see that weighted average cost of capital (or WACC) always has money supplied via the banking system significantly cheaper than from other sources.

    With sound money this advantage is reduced (or maybe disappears) with the consequence that the physical size of the banking system will be smaller and other avenues for financial intermediation will be larger. The number of loans (particularly consumer debt) will be less.

    What I meant was that rather than a hundred individual institutions with a few branches supplying currency (definitely do not have to be banks - can be Walmart, Berkshire Hathaway or even a big enough not for profit like the Lions club or the Catholic church) the desire for uniformity is likely to result in, say, 10 institutions with a larger number of branches supplying currency. Basically I was just referring to economies of scale associated with the value of networks.

    W.r.t. mints, there's no reason why they can't simply be like the Perth Mint or Securency and simply mint on a fee for service basis to multiple currency issuers.
     
  13. bordsilver

    bordsilver Well-Known Member Silver Stacker

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    Of course money is based on trust. I don't want to exchange my labour or goods for money. I want to trade it for other people's labour and goods. Money is simply an efficient medium of exchange in a complex economy with significant division of labour. I need to trust that the money you provide me will actually be able to be traded for other people's labour or goods in a day's, week or year's time.

    Anytime that you rely on an intermediary to obtaining the goods you actually want at a future date - be it via physical cash, contractual promises or detailed ledger accounts - there is counterparty risk. This exists with fiat and bills of exchange (commodity backed or not) but far less so when you trade your current labour or goods for the physical commodity itself no matter how pretty the stamp. But as we all know, there is risk in holding physical goods (of any kind but more so for small, highly valuable ones compared to large bulky ones). This created a dilemma around security and how to deal with it, but deal with it people do and always have done.

    What commodity money does is to remove/reduce one area of trust. Namely trust that the note issuer will not flood the market with notes thereby devaluing the ones in your possession. Because the temptation to flood the market is so strong there needs to be a cost to doing so. Early in his career Milton Friedman advocated forcing the central banks to limit currency creation to a fixed rate per year (say 3%). The fiat money would then have the appearance of sound money but without the physical resource cost. Later in his career however, he realised that the idea relied on the currency issuers not deliberately deviating for any reason and thereby was a pipedream that could never exist in reality for any reasonable length of time. The free market solution was to have money that has a true resource cost (ie gold and silver). Bitcoin does it by an algorithm. It works because it gets rid of a moral hazard.

    Add in real competition between suppliers and there's then a double incentive to stay "honest" and to positively go out of your way to prove to the customer that they can trust you. Just imagine if you were faced with an unknown or unfamiliar currency that someone said "trust me, it's good", you'd be undertaking tests or need some form of verification before your would be willing to part with your labour or goods. Because the person who wants to buy from you wants to trade they also have an incentive to prove that their currency is good. You simply don't trade unless the currency being offered is deemed to be of sufficient worth. Simples.
     
  14. hilaire9

    hilaire9 Member

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    I am paid in US Dollars which I put into my checking account.
    I pay for all my needs by check or credit card.
    I have done this for over forty years.
    Calling money 'fiat' would make me feel very stupid.
     
  15. CriticalSilver

    CriticalSilver New Member Silver Stacker

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    Is that because "money" is a noun and "fiat" is an adjective? Or because over the past 40 years, 35 years had positive real interest rates and you haven't yet adjusted your vocabulary to ZIRP?

    ZIRP and a policy of maintaining negative real interest rates removes the characteristic of a Store of Value from a fiat currency. The idea that you can speak of a fiat currency as "money" without reference to or in context with current monetary policy of the State underlines the artificial and politically dependent nature of fiat currency, as opposed to sound money.
     

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