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Musings Report 2024-21 5-25-24 Are Gold-Backed Currencies the Future of Money?
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Are Gold-Backed Currencies the Future of Money?
Any exploration of money is at its heart a philosophic investigation, for money is a social construct which functions not as scientific facts in a mechanistic universe but in a specific context of time, place and culture.
The stone coin "money" on the island of Yap is an interesting example of the fluidity of money as a social construct. A stone coin laying on the sand at the bottom of a lagoon is just as valuable and serves the same role as a coin on land. Physical possession of the coin is not necessary.
In this context, yesterday I asked, Would Returning to the Gold Standard Resolve Our Most Pressing Monetary Problems? Rather than answer "yes" or "no," I discussed the inherent complexities imposed on "money" by geopolitical necessities / existential threats, global trade and foreign exchange market discovery of price. I closed by promising to discuss the complexities of trade and the distribution of wealth / inequality.
Before we start today's philosophic investigation of "money," consider a metaphor for gold-backed currencies.
In the medical realm, antibiotics are the miraculous cure for bacterial infections. In the financial realm, gold-backed currencies are viewed as the cure for excessive money creation and the resulting hyper-inflation which then leads to "the death of money."
Faced with a single potentially fatal threat akin to a nasty microbe, gold-backed currencies (a.k.a. "sound money," money backed by the tangible value of gold reserves) are the cure much like a dose of antibiotics.
But if we consider the problems to be a scarcity of opportunity for productive use of capital and labor, and the social disorder created by extreme wealth inequality, then the metaphor is the totality of human health, which is intrinsically complicated and thus not fixable with a simple dose of antibiotics. The problem is then more like a lifestyle illness in which diet, fitness, stress levels, the microbiome and a host of other factors are all interconnected.
The point here is that being the potential solution to one problem--hyper-inflation--doesn't make gold-backed currencies the automatic solution to all the other lifestyle-like complexities of the socio-economic system.
Every one-size-fits-all solution comes with limitations, and since most of recorded human history occurred in eras in which gold and silver were "money," we have a large body of knowledge about the limitations of gold-backed currencies.
Just to name a few: gold by itself doesn't create wealth (via investment in productive assets and labor); throughout much of history, gold merely moved from one elite to another as "dead money" stored in vaults or in trade for luxuries (consumption). Nor does gold money in and of itself encourage distribution of wealth outside the elites that own most of the gold. Gold doesn't stop inflation caused by severe scarcities of essentials such as grain, or the social unrest such scarcities generate, or limit speculative bubbles--both the Tulip Bubble and the South Seas Bubble occurred in gold-is-money eras.
As David Graeber explained in his book Debt: The First 5,000 Years, credit has been essential for commerce from the earliest days of civilization, as gold and silver were too limited in supply to conduct all the commerce that people wanted to conduct.
If we really want to understand the role of credit in modern capitalism, a good place to start is the several thousand pages of Fernand Braudel's trilogy, The Structures of Everyday Life: Civilization and Capitalism, 15th-18th Century Volume 1,
The Wheels of Commerce: Civilization & Capitalism 15th-18th Century, Vol. 2,
The Perspective of the World: Civilization & Capitalism, 15th - 18th Century Volume 3.
For an understanding of trade and currency flows in the heyday of the Roman Empire, we can add The Roman Empire and the Indian Ocean: Rome’s Dealings with the Ancient Kingdoms of India, Africa and Arabia.
Let's consider a few examples of commerce to help us understand the limits of gold-backed currencies.
In the pre-modern era, gold and silver were scarce and so commerce was conducted with bills of exchange, agreements to buy or sell specified goods in an exchange. For example, if one trader had surplus goats and another had surplus firewood, they might agree to exchange a specified number of goats for a cartload of firewood.
In the idealized version, there is a unity of time, space and price: the goats, firewood and the traders are all in the same place at the same time so the exchange can be transacted in real time.
But in the real world, where transport was slow and prices prone to change, the deal was settled with a bill of exchange, and the actual exchange occurred later at a large trade fair.
In the meantime, the bill of exchange became "money," as it could be sold or traded for something else--either other goods, or gold/silver coinage, or another bill of exchange.
Maybe the trader who pledged the firewood decided he didn't need the goats any more, and so he traded the bill of exchange for sheep. The fellow who traded the sheep would then submit the bill of exchange for the goats at the trade fair. Perhaps the owner of the goats happened upon an opportunity to buy some quality tools and traded the bill of exchange for the firewood in lieu of silver coinage, of which he had none.
In every one of these transactions, the credit instrument was "money" which could be converted into gold or silver.
When the trade fair assembled, all these bills of exchange would be settled, and the goats and firewood might have ended up being delivered to someone several transactions away from the original buyers and sellers.
The advantages of "credit as money" is obvious: given the scarcity of gold/silver coinage, using bills of exchange enabled a vastly larger quantity of commerce to be transacted than could have been possible were gold/silver coins required in every transaction. In this way, hundreds of transactions could be settled with a relatively modest final exchange of gold/silver in the trade fair.
So if the total sum of gold/silver in the realm (or in today's context, currency backed by a specified quantity of gold-silver) was 1,000 units, and 10,000 units of bills of exchange were issued and floating around as "money," then were all 10,000 units of "money" backed by 1,000 units of precious metals? If we answer "yes," then we're saying each unit of gold/silver was devalued by the vast expansion of credit-money. If we say "no," then we're not recognizing that each bill of exchange was "backed" by a good with a value that could be reckoned in gold/silver.
Let's try another example. Let's say we have an economy in which gold is the only currency. Let's say there are 100,000 gold coins in circulation. Some percentage--let's say 10%--have been deposited in banks which loan out half of their deposits at interest to borrowers. They can't loan all their deposits, as they need to hold enough to redeem depositors' savings upon demand. If the bank doesn't have enough on hand, then depositors panic and rush to the bank to withdraw their cash, a "bank run." Should the bank run out of cash, it goes under.
So the total sum of credit available in this economy is no more than 5% of all money in circulation: 5,000 coins.
Since banks can also go bust by loaning money to risky ventures which don't pay back the sums borrowed, banks naturally lower their risk by lending to the wealthy with ample incomes, not struggling entrepreneurs.
This is a perfect setup for the concentration of wealth in the hands of the few: credit is scarce and only available to the wealthy. This describes the economy of the U.S. in the early 1800s, when the demand for credit by the commoners to invest in commercial ventures was unmet. Commerce, innovation and opportunity were all choked off by the scarcity of credit.
Now consider a gold-backed currency in a modern fractional reserve banking system in which commercial banks can loan out $9 for every $1 on deposit. (In the real world, the number can be considerably higher: 15-to-1 or 19-to-1.)
Unlike the previous example, where only half of depositors' gold coinage could be loaned out at interest, in our fractional reserve system, banks can originate a $900,000 home mortgage while holding only $100,000 in reserve. This $900,000 is newly created money, not depositors' cash. When the mortgage is paid off, this money disappears from the system.
In other words, banks create money that isn't backed by central bank gold, it's "backed" by the collateral of the house. Other loans are "backed" by the collateral of a vehicle, while others--credit cards and student loans--aren't backed by anything but the promise of the borrower to pay the loan off with interest.
So if this economy has $100 billion in gold, and issues $100 billion in "gold-backed currency," what's backing the (say) $500 billion in new borrowed-into-existence money? This money is just as real as the money issued by the central bank--it's the exact same currency.
But if we consider the total sum of currency, the $100 billion in gold reserves is actually backing $600 billion in currency. If each unit of the $100 billion in currency is set at 1/1000 of an ounce of gold, once we add in the bank-created money, each unit of currency is actually worth only 1/6000 of an ounce of gold.
Recall that "gold-backed currency" means each unit of currency can be converted to the weight of gold promised by the government / central bank upon demand. If the currency can't be converted to gold on demand, it's not backed by anything but a fictitious claim that has no value.
You see the point: in the real world, credit is the essential grease for commerce, and so how can a gold-backed currency retain its supposed value-in-gold if the currency in circulation is expanding via bank lending faster than gold is being added to reserves?
A dose of antibiotic won't heal a complex lifestyle disease. In a similar fashion, no one form of money can meet everyone's needs. Perhaps the best solution isn't one currency, but a wide variety of currencies available to all to use as each individual and enterprise sees fit.
Are gold-backed currencies the future of money? Perhaps they might be part of the future of money, but there are many other forms of money that might play a part as well. Money is after all, a store of value, a means of exchange, a form of power and a distribution system for wealth, income and resources. Can any one currency serve all these roles equally well for everyone?
I've laid out my own view on the most useful currency conceivable since 2016: a labor-backed currency which is created by human labor at the bottom of the wealth-power pyramid rather than at the top of the pyramid by banks, Treasury Departments and central banks as we do now.
Yes, yes, this is "impossible" and "couldn't possibly work," but before we embrace such certainty, we should recall that all money is a social construct, and a two-ton stone coin laying on the bottom of a lagoon can be money, too.
Highlights of the Blog
Would Returning to the Gold Standard Resolve Our Most Pressing Monetary Problems? 5/24/24
Is Anyone Else's Life as Stupidly Complicated by Digital "Shadow Work" as Mine Is? 5/22/24
Maybe We're Closer to "You'll Own Nothing" Than We Realize 5/20/24
Best Thing That Happened To Me This Week
Harvested a new hybrid bok choy (a.k.a. pak choi). Commercial growers uproot and sell the entire plant, I'm lazy and harvest leaves until it bolts (flowers and produces seeds). If I'm lucky, the seeds propagate on their own. This is what happened with my yao choy veggies last year: I get new seedling volunteers every time I let one or two plants go to seed. This bok choy looks like mustard cabbage but is tender and not too bitter--just bitter enough that insects don't seem to like it. Every new veggie is an experiment; not all thrive. Also note the proliferation of weeds: maintaining a perfectly no-weeds garden isn't worth the time and energy required, effort that is better applied elsewhere in the (messy) yard.
What's on the Book Shelf
This is a new occasional feature to the Musings Reports: what I'm reading / just finished reading, along with books readers / correspondents have mentioned as worthy. I'm listing the books' Amazon pages for the comments, but of course it's best to borrow the book from the local library if that's possible.
Recently finished:
Rome Resurgent: War and Empire in the Age of Justinian
Currently reading:
Armada: The Spanish Enterprise and England's Deliverance in 1588
Mentioned by readers:
The Boy Captives (via Timmy T.) "Being the true story of the experiences and hardships of Clinton L. Smith and Jeff D. Smith among the Comanche and Apache Indians during the early days - the only two brothers ever known to endure the same hardships of captivity and get back alive."
Under the Sky We Make: How to Be Human in a Warming World (Kimberly Nicholas PhD) "Nicholas does for climate science what Michael Pollan did more than a decade ago for the food on our plate."
Read Write Own: Building the Next Era of the Internet (via Craig H.)
"Chris Dixon argues that the dream of an open network for fostering creativity and entrepreneurship doesn’t have to die and can, in fact, be saved with blockchain networks."
From Left Field
NOTE TO NEW READERS: This list is not comprised of articles I agree with or that I judge to be correct or of the highest quality. It is representative of the content I find interesting as reflections of the current zeitgeist. The list is intended to be perused with an open, critical, occasionally amused mind.
Many links are behind paywalls. Most paywalled sites allow a few free articles per month if you register. It's the New Normal.
How Average Income People Afford the High Housing Costs in California-- six to a one-bedroom flat, perfect!
Could Technological Change Solve the Problem of Inequality?
I've Got A Bad Feeling About This -- apt summary of global trade, currency and finance....
Harry Glasbeek on how the law keeps workers’ aspirations firmly in check (via Cheryl A.)
NYC hospital-building boom on Upper East Side roils upper-crust residents (via Tom D.)
You Might Be Surprised by How Many Know of the War Against Gold.
US charges two brothers with novel $25 million cryptocurrency heist
Signs of Alzheimer’s were everywhere. Then his brain improved -- by improving his overall health...
$400 for one pineapple: The rise of luxury fruit (via Cheryl A.)
How Auto-Tune Destroyed Popular Music (9:18 min)(via S.T.)
Roy Hawkins-The Thrill Has Gone (the song's composer, recorded 1951)(via Cindy F.)
Tracy Chapman & BB King - The Thrill Is Gone
BB King with Gary Moore - The Thrill Is Gone (Gary Moore is playing Peter Green's famous "Greenie" Les Paul guitar)
"If I have to go around telling everyone how great I am, then there's something wrong with my act." Les Paul
Thanks for reading--
charles |
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