All Fiat Money Systems Fail, Right? Wrong.

[Pointedstick]

So, unless you are advocating that everyone carry a bag of coins in their pocket at all times

That would be pretty cool, I have to admit. We could bust out the medieval clothing and wear swords around town. I think people look much cooler dressed in studded leather armor and carrying swords and bows.

[craigr]

I can't prove that some fiat currency somewhere now or in the future won't work going on indefinitely.

But we can prove that gold-backed currency fails when a government fails. So, unless you are advocating that everyone carry a bag of coins in their pocket at all times, it really doesn't make a difference if a government is on a gold standard or not. Either way, the government can fail just as easily.

Well you know I can show you that some people drive drunk all the time and never get into an accident. But that doesn't mean driving drunk is a good idea.

Comparatively speaking, gold standards are better than pure fiat. Even ignoring the conversion issue which can always be a problem, it tends t exhibit more control on government and that means less chance that government is going to have fiscal problems that cause it to go bye-bye.

[Gumby]

Governments on a gold standard are less likely to fail?  Why would this be?  Or do I misunderstand your point?

Yes they are less likely to fail because when you wreck a currency you kick of revolutions. When you kick of revolutions the governments tend to go away.

Now it seems you are the one arguing in circles. In your very own blog post, you said...

In fact, hyper-inflation is the final gasp of most dying governments
Source: https://web.archive.org/web/20160324133 ... ways-fail/

In other words, you admitted that the wrecking of a currency comes at the end of a government's death (i.e. hyperinflation does not begin the death of a government). So, to then turn around and say that "when you wreck a currency you kick off revolutions" is conflating cause and effect. History shows us that currencies die when a government fails, not the other way around.

[Pointedstick]

Well you know I can show you that some people drive drunk all the time and never get into an accident. But that doesn't mean driving drunk is a good idea.

Comparatively speaking, gold standards are better than pure fiat. Even ignoring the conversion issue which can always be a problem, it tends t exhibit more control on government and that means less chance that government is going to have fiscal problems that cause it to go bye-bye.

That seems sort of like a cop-out. Governments on a gold standard always suspend it during times of great perceived need for monetary expansion and spending. The gold standard sure didn't prevent the North from spending tons of cash during the Civil War, or the USA from doing the same in the world wars, especially the second, which was ridiculously expensive. If the gold standard is supposed to prevent things like this from happening, then it did a poor job if it was so easily swept aside with the stroke of a pen.

[craigr]

In other words, you admitted that the wrecking of a currency comes at the end of a government death. So, to then turn around and say that "when you wreck a currency you kick of revolutions" is conflating cause and effect. History shows us that currencies die when a government fails, not the other way around.

No. You can also wreck a currency but the government continues. Argentina and Iceland are two recent examples of fiat currency problems but the government lived.

So it is not always the case that a dying currency means dying government. But it is always the case that fiat currencies will have a problem.

"The perfect is the enemy of the good."

Gold is not perfect, but it's much better than fiat. History bears this out.


No more arguing the topic for me. Sorry.

[Gumby]

Comparatively speaking, gold standards are better than pure fiat. Even ignoring the conversion issue which can always be a problem, it tends t exhibit more control on government and that means less chance that government is going to have fiscal problems that cause it to go bye-bye.

So.. let me get this straight. Governments can't be trusted to follow the rules of fiat currency when they have a fiat monetary system, but they can be trusted to follow the rules of a gold standard when they have a gold standard to maintain? That's quite a double standard. And history shows us that isn't true.

The flaw in your argument is that every government on the planet decided to not follow the rules of the gold standard because it was flawed to begin with — which is exactly what the author said to begin with.

Gold is not perfect, but it's much better than fiat. History bears this out.

It doesn't! There are no more gold-backed currencies! They all failed! You are just arguing for physical gold, not the backing by gold.

[Gumby]

But it is always the case that fiat currencies will have a problem.

No more so than a gold-backed government. Gold-backed paper currency becomes just as worthless and governments simply drop the gold standard when it isn't convenient for them — which eventually always happens.

[moda0306]

The value of a currency can come from two sources: 1) The credible promise to exchange a note for gold, or 2) the use of taxes (you would have needed to implement some sort of tax, anyway) to create a societal demand for pieces of green paper, as well as the credible promise to maintain conditions that allow productive activity to flourish (thereby creating an incentive to "save" these green pieces of paper as claims on future production.

Either way, you're having the government promise something.  One simply creates a lot more negative economic rigidity than the other. 

Even if we can assume that fiat currencies and pegged currencies are just as likely to fail their holders, they're simply pieces of paper.  The fact that they collapse doesn't necessarily mean that wealth has been destroyed, because there was no real wealth there to begin with.  Heck, even with raw gold, if the real economy around it was decimated, you'd probably have very high inflation... no promises needed... just lots of yellow metal and not enough food, shelter, or production.  What is most relevant is not a currency in and of itself, but the economy around it (the real goods and services we produce and consume) and what kind of currency can be better at facilitating the creation of wealth and stability of the economy.

Strong recessions result in massive amounts of wealth that simply does not get created because everyone's clinging to an asset (money) that really has no other purpose than to make an economy MORE productive and MORE efficient, not to have a bunch of people race to the bottom and hoard a figmint of our imagination.  Gold, and commodity based money, results in massive amount of wealth non-creation over periods of severe recession, as we all participate in an economic Mexican standoff.

[RuralEngineer]

Despite the fact that we can trade gold still for things, it doesn't mean it hasn't failed as a sovereign system of transaction.  We can still barter.  We can still barter with gold.  I can still barter with stamps too.  You can slice and dice the definitions however you want until you get gold included back in as a non-failed currency.  But IMO, that's a useless endeavor.

What a horrible argument.

Barter with real goods as you're referring to requires each party to posses something that the other wants.  Nobody is going to trade a chicken for a chicken, but they might trade a chicken for a copper pot.  Chickens are not currency because they're not a universal store of value.  Gold is a currency.  It's a universal store of value and has been so for thousands of years.

The argument against gold is extremely weak and so the topic has now shifted away from gold to gold backed paper money.  The problem is that a gold-standard paper money system was implemented for convenience.  Other than the fact that the paper money weighs considerably less and you don't have to carry a scale around to ensure your coins haven't been shaved, it doesn't add any value.  Pointing out that it is susceptible to government collapse due to inability to redeem paper for gold in no way supports the assertion that "gold is a failed currency."

[Gumby]

The argument against gold is extremely weak and so the topic has now shifted away from gold to gold backed paper money.  The problem is that a gold-standard paper money system was implemented for convenience.  Other than the fact that the paper money weighs considerably less and you don't have to carry a scale around to ensure your coins haven't been shaved, it doesn't add any value.  Pointing out that it is susceptible to government collapse due to inability to redeem paper for gold in no way supports the assertion that "gold is a failed currency."

The conversation was always about gold-standard monetary systems (read the original article). Craigr was the first person to mention physical gold here. And nobody discounts that our Gold Eagles will always be worth something by somebody. But, again, for the fifteenth time, that wasn't what we (or the article) was talking about.

So, do you advocate a world where everyone uses bags of coins and ingots for money and no paper money exists?

[moda0306]

I love that graph.  It shows how much more damaging deflation is than inflation in terms of a nations ability to create and market wealth & production.

[Mark Leavy]

You want everyone to carry a bag of coins around with them??

I typically carry around a few hundred dollars in folding cash and a buck or two in change.  If I replaced my pocket change with a mix of gold, silver and coppers, I could ditch the folding money whilst carrying the same value and the same transaction flexibility.

[craigr]

Guys I've been to Brazil. Their kangaroo currency has had lasting effects on how they do business and live down there. An unstable currency doesn't lead to prosperity.

Cross-country comparisons are all misleading. Brazilians aren't Greeks. They also aren't the EU. The Euro is going to fail because it is just an all-around stupid idea to marry all those countries together. If Greece, Italy, Spain, etc want to hyper-inflate, let them do it on their own but don't ask the Dutch, Germans and French to go along with them. It will fail as a fiat currency all on its own and just think, you can't blame gold when it happens.

Once again, economics is not accounting. There is lot more going on in these places with their government and cultures than what you can show on a line chart!

[moda0306]

If the EU had instead tied all their currencies to gold, rather than resetting with the Euro, they'd have the same problem today if they had chosen to borrow/lend buy/sell to each other like they did.  We won't blame gold... we'll blame fixed exchange rates or pegged currencies amongst various nations, which is exactly what the gold standard is.  It's the exact same problem.  If Greeks bought German sauerkraut with their currency, the Germans would have a claim on some Greek gold... effectively they ARE using the same currency, but it's simply masked by different pieces of paper trying to make similar promises.  This is what happened during the great depression, and countries that abandoned or weakened the gold standard first were the first to get out of it.

Sure Brazil may have its issues, but the question is would having an inflexible, pegged currency improve or weaken their economy from where it's currently at.  The idea that making a people suffer immensely through a depression improves them somehow is a bit extreme.

[RuralEngineer]

The conversation was always about gold-standard monetary systems (read the original article). Craigr was the first person to mention physical gold here. And nobody discounts that our Gold Eagles will always be worth something by somebody. But, again, for the fifteenth time, that wasn't what we (or the article) was talking about.

So, do you advocate a world where everyone uses bags of coins and ingots for money and no paper money exists?

If it protected me from a situation where the local currency dropped to a value of effectively zero, yes.  These situations are real and have happened several times in the last 60 years.

You can't disassociate the gold standard and physical gold.  Physical gold has never failed, the gold standard has failed because governments take steps that deliberately break the gold standard.  So if your argument is that governments, given enough time, will become stupid enough to destroy their own monetary system, then yes, I agree.

[craigr]

If the EU had instead tied all their currencies to gold, rather than resetting with the Euro, they'd have the same problem today if they had chosen to borrow/lend buy/sell to each other like they did.

Don't tie the countries together at all. They have nothing in common with each other culturally. Europe is a great place. But the Germans and Italians do things much differently for instance. Those countries have no business being under the same government and currency. You're mixing issues.

Sure Brazil may have its issues, but the question is would having an inflexible, pegged currency improve or weaken their economy from where it's currently at.  The idea that making a people suffer immensely through a depression improves them somehow is a bit extreme.

Economics is not accounting.

Honestly I wish I had come up with that quote because it sums up why MMR is just wrong.

Look, Brazilian culture is just different. I'm not an expert in every foreign culture. But I've been to something like 25 countries in my life and Brazilians are not Swedes. Swedes are not Italians. Italians are not Brits. Brits are not Japanese. Japanese are not Chinese. Chinese are not Germans. Etc.

Culture matters. And how that culture views the role of government, community, tolerance for corruption, etc. matter way more than how their fiat system is organized.

Simply this:

If anyone needs a gold standard it's places like Brazil, not Sweden. I'd trust the Swedes to run their fiat currency way more than I would the Brazilians. Even THEN, the Swedes have also blown up paper currencies in the past. It's not a dig on Brazil, but for God's sake how many times do they have to set their money on fire before someone points out they're just crappy at managing it?

Gold is a babysitter for humans that have shown they can't handle the paper money handgun responsibly.

[Pointedstick]

craigr, I think you said it best yourself in another thread:

This is what I was thinking too.  Paraphrasing melveyr... "Gold [the metal] doesn't make any promises.  It just sits there, being gold."  But a gold standard is indeed a promise.  Why wouldn't the promisors simply break it in an emergency?

Again it's not a panacea. Ultimately if you live in place where the government is going to do things that are immoral as a matter of course, then nothing is going to protect you outside of simply leaving for greener pastures. I do think that gold, along with other constitutional protections initially built in, provided a layered defense. But over time the fail-safes have each been gradually disarmed. However I certainly do think we'd have less problems with a gold standard than without.

If the swedes can be trusted, do they need a gold standard to keep them honest? And if the Italians or Greeks don't deserve that trust, will a self-imposed, easily-suspendable gold standard really help them?

[craigr]

If the swedes can be trusted, do they need a gold standard to keep them honest? And if the Italians or Greeks don't deserve that trust, will a self-imposed, easily-suspendable gold standard really help them?

The problem is much more complex than monetary bookkeeping. But yes in virtually all cases I think a metallic standard is better even with the inherent problems. Why?

- First of all the money will always be worth something if the citizens can hold actual specie. They can't have their wealth stolen from them by pols.

- The government can't go into debt easily and cause problems by promising things to people they can't pay. People do not like having things taken away from them. It's better to not give humans anything than give them something, get them reliant on it, and then take it away later. Debt financing does exactly that.

- The government can't use debt financing to justify all manner of dumb ideas and wars that lead to other problems.

- Finally, humans have just shown repeatedly that fiat systems blow up. They can't manage the power.

I don't really have time to write on this thread and should have just avoided it to begin with. But this article and the premise behind it is just wrong.

Fiat systems just aren't workable in real life. That's why I think MMR/Keynes is "communism for economists." Sounds great in theory, but bad in practice.

Gold may stink too (I don't think so), but it stinks less than paper. Paper money causes a ton of problems and will continue to do so well after we've all gone the way of other paper money in the past. Pols just can't be trusted with the power.

[moda0306]

Craig,

I fully understand that economics is not accounting, as does everybody else, even before you trotted it out like the best idea since sliced bread.

Economics has a lot to do with sociology, geography, human behavior, etc.  I'm not simply looking at these things from an accounting aspect.  I think you maybe need to look at things from a MACRO perspective rather than micro.  Macroeconomics is not microeconomics is a lot more pertinent to most of our conversations.

You are linking your currency to a foreign country if you are in a position to have to pay said foreign country the currency you hold as a peg (gold) if they should so choose to redeem it.  This creates problems on a macroeconomic level.  It's better to just understand that inflation and debasement is a risk and put it right out there, and have people own real assets on an individual level, then end up owing some other country massive amounts of your common currency (the gold your paper currencies are backed by).

Culture does matter.  You're not wrong.  However, Greece, for instance, has always had these issues.  They've never been extremely fatal or brutal in their result, nor should they have been.  Even the most responsible business owners in Greece are suffering greatly right now, just as a lot of businesses during our great depression were. 

None of us are looking at Brazil as poster-children of monetary policy.  We're simply showing that hyperinflation, for all the hubbub, can be a lot less damaging than a depression in terms of all the precious "wealth creation" and the ability for hard-working businessmen to make a living.

I know you've completely kicked ass in the private sector.  Do you give any credit to "artificially low" interest rates that allowed you to simultaneously secure an easier loan, and encouraged people to spend their money in ways that drove the demand that paid for all the contributions you were able to bring to market?  I really don't see how conservatives can't for the life of them see this equilibrium between supply and demand... they want to slash spending, reward saving, and want people to go through personal austerity, yet they want to be recognized for their supply-side achievements... well the only real recognition for your contribution to wealth-creation in this country is the DEMAND that paid you for it. 

[craigr]

Economics has a lot to do with sociology, geography, human behavior, etc.  I'm not simply looking at these things from an accounting aspect.  I think you maybe need to look at things from a MACRO perspective rather than micro.  Macroeconomics is not microeconomics is a lot more pertinent to most of our conversations.

Believe me, macro issues are all micro issues. If the cop on the street expects to get bribed for small infractions, if the lowest level bureaucrat wants the same, if you can't open a business without having to pay off local groups with continuous bribes that's all micro.

But on the macro scale it just gets *worse*.

I think all these macro economists do this hand waving because they can't tell me why I would want to trust a country to handle a paper currency and debt responsibly when I can't even trust the local cop not to shake me down for $20. I promise you they are both related. Big time.

Culture does matter.  You're not wrong.  However, Greece, for instance, has always had these issues.  They've never been extremely fatal or brutal in their result, nor should they have been.  Even the most responsible business owners in Greece are suffering greatly right now, just as a lot of businesses during our great depression were. 

Greece should get out of the Euro. In fact the entire EU should just go away. It will never work. I hope those countries can all break free and go back to running their own affairs. It's the best thing that could happen to all of them.

None of us are looking at Brazil as poster-children of monetary policy.  We're simply showing that hyperinflation, for all the hubbub, can be a lot less damaging than a depression in terms of all the precious "wealth creation" and the ability for hard-working businessmen to make a living.

Look I have friends from Argentina and I talk about this stuff with them. None of them think the instability of the Peso has been a good thing. Who would? It undermines people's confidence to invest, grow businesses, etc.

So I hear these economists pointing at the graphs of Argentina and showing how much better it is after the last devaluation and I guess I think it is irrelevant. It's irrelevant because we don't know how they'd have done if their currency were stable this entire time. I *suspect* they'd be even more prosperous than they ever were. Stable currency is good for business. It allows those business owners to invest and know they aren't going to get the rug yanked from under them.

well the only real recognition for your contribution to wealth-creation in this country is the DEMAND that paid you for it.

So there was no demand at all for American products under the gold standard? There was absolutely no growth at all of American business and industry?

You don't need some guys printing out funny money to get an economy organized and growing. You need a stable money so you can trade with people squarely. Inserting some entity in the middle that is taking the money, subtracting an arbitrary sum as inflation, and then handing it to the other party you want to do business with is not your friend.

[Gumby]

I think a metallic standard is better even with the inherent problems. Why?

...- The government can't go into debt easily...

...- The government can't use debt financing...

... fiat systems blow up. They can't manage the power.

We all know that the gold standard did not constrain governments the way you suggest.

Governments did whatever they wanted to, when they wanted to. They found ways (Greenbacks, debt, devaluation. etc). And when it became inconvenient for them they just left the gold standard one by one. Gold did not restrain them from doing what they wanted.

You have a double standard when it comes to fiat vs. gold. When a country has a fiat monetary system you warn us that they will do something stupid and "blow up" their monetary system. When a government has a gold standard, you have this belief that they will act responsibly. It's just not true — particularly since their are inherent flaws in a gold standard that makes it difficult for many countries to maintain a gold standard.

You don't seem to acknowledge that every country on the planet on a metallic standard literally woke up, threw their gold scales away, and voilà... they had no more constraints. They did whatever they wanted to. Gold didn't restrain governments any more than an eggshell restrains a chicken from being born.

It's fine to say that some countries might be better at managing their finances under a certain monetary system, but its naive to assume that those countries will follow the rules of that system.

[Tortoise]

It's fine to say that some countries might be better at managing their finances under a certain monetary system, but its naive to assume that those countries will follow the rules of that system.

I agree. That's why governments shouldn't issue money. It should be issued by competing private businesses. The competition will enforce monetary discipline.

If you're a private business that issues currency, and you decide to devalue or inflate your currency, you're going to lose market share and go out of business.

[melveyr]

Believe me, macro issues are all micro issues.

Craig,

I think I finally get where you are coming from. I didn't realize that you hadn't learned about macroeconomics. The entire reason economics is split into two areas is because the above quote is wrong. This isn't a liberal versus conservative idea. Both liberal and conservative economists address this in their own manner. You are succumbing to a logical trap called the fallacy of composition. Here is a decent example I found:
http://www.kingwatch.co.nz/Christian_Po ... sition.htm

You can still come up with conservative arguments to justify yourself, but extrapolating microeconomics to the broader economy will not get you there.

[Gumby]

The biggest flaw with the gold standard, which nobody seems to want to discuss, is...

Because nations were required to have specific amounts of gold there was generally an imbalance in the global economy due to trade imbalances.  Trade surplus nations were hoarders of gold while trade deficit nations were generally in shortage.  If you were unable to mine or obtain the gold thru other measures your trade deficit put you at a persistent and inherent risk of recession without a reasonable ability to defend your citizenry from depression.  Einstein described the inherent weakness in this monetary system:

“The gold standard has, in my opinion, the serious disadvantage that a shortage in the supply of gold automatically leads to a contraction of credit and also of the amount of currency in circulation, to which contraction prices and wages cannot adjust themselves sufficiently quickly.”?

In essence, trade deficit nations (as we see in Europe today) were forced to overcome their trade deficit by counteracting it with high budget deficits.  The sectoral balances must net to zero so a nation which attempts to run high trade deficits cannot also run budget surpluses without experiencing economic contraction.  As we’ve seen in the sectoral balances approach, this is an accounting identity and not opinion.  So, there is an inherent flaw in a monetary system which lacks the flexibility to respond to these imbalances.

This is apparent in Europe today where trade deficit nations have been largely coerced into profligacy with no real ability to defend themselves from the inevitable recession.  Not surprisingly, Germany, the trade surplus nation in the region is booming.  In a floating exchange rate system with monetary sovereignty the periphery nations would simply devalue their currencies and natural market forces would help to remedy the trade imbalances.  Germany’s currency would rise which would make German manufactured goods less attractive, the periphery nations would experience currency devaluation and higher trade.  Over time their economies would stabilize and recover.  This, of course, was not an option under the gold standard and is not an option in modern day Europe.  Hence, the persistent weakness across the region’s periphery nations.

The gold standard is not a viable monetary system.  The reasons why it failed are simple to understand once one sees the natural flaws that the sectoral balances approach exposes.

Source: PragCap: Einstein On The Inherent Flaws In The Gold Standard

Eventually, these trade-deficit nations have a real incentive to leave the Euro, or the Gold Standard, and issue their own currency.

[craigr]

Believe me, macro issues are all micro issues.

Craig,

I think I finally get where you are coming from. I didn't realize that you hadn't learned about macroeconomics.

No I understand the issue. I simply don't agree with the theories.

Even in the case of Argentina back in 2001 we get the excuses that it was tied to foreign debt, currency pegs didn't allow them to be flexible, wrong kind of government involvement, etc. Ok, all well and good.

But what do we have now? We have this:

http://www.bloomberg.com/news/2012-09-1 ... -data.html

Argentina is on track to be the first country ever censured by the International Monetary Fund for not sharing accurate data about inflation and the economy.

The IMF’s board of directors, meeting yesterday in Washington, gave the country until Dec. 17 to respond to concerns about the quality of its official data, it said today in an e-mailed statement. If the deadline is missed, the board can issue a declaration of censure, a warning that has never been used and which means sanctions may be applied if the concerns aren’t addressed.
…
Argentina’s inflation data has been under question since 2007, when Kirchner began replacing personnel at the national statistics agency in a bid to “improve operations.”? Last year the government fined more than a dozen researchers as much as 500,000 pesos ($107,000) each for reporting inflation rates that were higher than official data.

So they are on the path to blowing up their currency again. But what will it blamed on this time from macro perspective? Can't blame gold. Can't blame currency pegs. Can't blame foreign demons. It is solely the responsibility of the people running the government and money. That's it. There is no macroeconomic excuse for it this time. The micro level details of corruption make the macro level solutions unworkable.

So my statement: "Macro issues are all micro issues." is factually correct.

Which is the point of my other posts that micro becomes macro. If a country is corrupt from top to bottom it doesn't matter what monetary system they adopt, it will explode. Even if the country is *not* corrupt it likely will explode eventually because you'll get people in power that will abuse it.