Moneyness 2: Money is Credit

"Gold is the only money the world has ever known"
Sounds like a simple thought, but it isn't.

To understand the following you must rethink your basic
knowledge of money and investments. Get your aspirin ready.
–ANOTHER

What will change is how we view money and wealth

Everything else in Freegold flows from that!

My purpose in writing this post is to state my personal view of the concepts of money and wealth as clearly as possible. I think that my view is useful in both understanding our unfolding present landscape as well as profiting from that early understanding. There are other views of money and wealth which are much more widely accepted, and I hope to explain why I think their biggest flaws are found in their useless conclusions and the destructive prescriptions to which they logically lead.

Anyone who chooses to read this post is free, of course, to take it or leave it, because all I care is that you see and consider it. If there's one thing I know, it's that I cannot claim credibility for myself, that judgment is up to you. So think of this post as a "stack of rocks" marking this spot on the trail. And since I can't say it any better than FOA did a decade ago, here's what I'm trying to say:

FOA: "I (we) expect none of you to consider anything said here as credible. Everything is given as I understand it. If you came with a notion that I am someone who sees the future, grab the children and run far away. For these Thoughts, and my ongoing commentary, are meant to impact exactly as the "gentleman" said they would. People hear them, and whether believed or not, the words leave a mark. A mental mark on the trail, if you will. And later, after the world turns, our little "stacks of rocks" will be easier to understand next time you are passing this way. In fact, your ability to find your own way will forever be enhanced for having seen this path in a different light."

There is no authority for the money concept

The first thing that is important to understand is that money (and later banking) was never designed, patented, invented and then rolled out such that we can pull up the original plans and put centuries-old debates to rest. It simply emerged over thousands of years. There is no original set of rules and definitions. There is only reality, a menu of different perspectives from which you can choose to view reality and the conclusions that are logically drawn from each perspective, and then how useful those conclusions end up being in hindsight.

Economists and philosophers, from John Locke to Adam Smith and Jean-Baptiste Say, to Marx and Menger, Mises and Keynes, Friedman and Hayek, to Minsky and Rothbard, have, for centuries, been adding their perspectives to the debate and collective understanding of the emergent concepts of money and banking. This has led to several formal schools of thought on the subject which I argue can be generally divided into two camps—the easy money camp and the hard money camp.

I'll tell you right up front that I think my perspective is far more useful, especially right now, than those offered by either camp. But one of the revelations that I found most vexing while walking this trail was that, in terms of describing money, the easy money camp has always been closer to reality than the hard money camp. Even so, the usefulness of the (macro and micro) conclusions (and prescriptions) coming out of both camps has run the gamut over the last few centuries due to what I think is a fundamentally flawed view of the big picture—a flaw which, in and of itself, has set the two camps perpetually and unnecessarily at odds with each other.

I make no prescriptions here, only observations. Even the personal action I endorse for savers—buying physical gold bullion coins and bars—is not recommended beyond what you understand. In other words, I don't even need to recommend it. If you understand, you will do. But if you do without understanding, your results may vary.* So I'm only sharing my perspective and, if it makes sense to you, you'll know what to do with it.

The goal of this post is to present a lens through which you can see the true role of money and wealth/savings in your daily life today and in the Freegold future. Only time reveals all things, including the full extent of any reward for understanding changes ahead of time and then acting with the full force of that understanding. But I can tell you, from personal experience, that there is an immediate reward from understanding something and then acting upon that understanding. And that reward is peace of mind.

In as few words as possible

Since I'm writing at length here, I thought I'd start out with a kind of abstract for those who can't stand long posts. Blondie once asked me how I would describe money in as few words as possible. My answer was: "Money is credit." I followed that up with a little more detail: "More specifically, it is the recording of current balances of credit. It can be recorded in your head, represented on an institutional ledger, or carried in your pocket as pieces of paper or metal with numbers recorded on them. But notice that it's the recorded numbers and not the paper/metal in your pocket that constitutes the money."

But you can't possibly understand the pure money concept without also understanding the wealth concept. The pure concept of wealth is really simple. Its only attribute is possession (or at least unambiguous ownership of something tangible, if it's not in your immediate possession). Your wealth includes all of your owned possessions, from the air you breathe down to your comfy, worn-out slippers. Value is subjective—it's in the eye of the beholder. Value comes from utility (usefulness) to the user. If something in your possession has no use to you, no value, then it is likely that you won't go to the hassle and expense of continuing to possess it. You'll probably just throw it away. So possession is the distinguishing characteristic of wealth, which also puts wealth squarely in the physical plane.

What sets your gold apart from your stinky slippers and other items you possess is that it is the most tradable—tradable wealth! Imagine that! It is tradable because someone else values it too, unlike your slippers. But not only does someone else value it, but almost anyone anywhere in the world values it nearly equally, even the Giants! How many of your other possessions would measure up to the quality standards of a Giant? None, I imagine. This is what FOA meant by "equal footing".

That's basically it in a nutshell. Those who have been following the comments know that Blondie prefers the term "credibility" more than "credit". It's a fine line, and I could go either way. In this post I'll use both words almost interchangeably, but I think I'll stick with "credit" as the closest proxy for the pure concept of money.

Okay, I guess a few more words are needed

Think of it like this. Value is subjective—it's in the eye of the beholder. You value your slippers, but no one else does. Gold is the one item in the world that comes closest to having a relatively objective value because your knowledge that others value it for the same reasons you do is the very reason you value it in the first place. It's the reason behind gold's utility as a store of value or, phrased another way, a wealth reserve. Salience is a good descriptor.

Credibility, like value, is also subjective. But unlike value it's not something you can claim for yourself. Only someone else can judge you credible. Ergo, credibility must be earned. It is subject to the judgment of others. Credit is like spendable credibility. Money is the fungible exercise of credit (accepted everywhere, even by those who don't understand why you're so darn credible even when you're wearing such ugly slippers). A bank doesn't really give you credit. You earn it before you ever walk into the bank.

If you want to buy a house, you don't need to have saved the full price of the house. All you need to have is earned credit/credibility. You walk into the bank, the bank checks your credit and, if it is not found wanting, facilitates the fungible exercise of your credit/credibility. And then, because it's now fungible, it circulates!

The real world operates on massive amounts of credit. And by real world, I mean the businesses that make everything in your life. Credit is not just about consumer credit cards, evil speculators maxing out their margin and housing bubbles. And the hard money view of "money" as something we all want to hoard is just as pedestrian a view as thinking credit (or debt) is something intrinsically bad. Money has always—ALWAYS—been credit/debt. That's not bad at all. Debt is simply credit (or credibility) fungibly facilitated and then exercised!

Short post fans can stop reading here

FOA wrote so much good stuff on this subject of which I excerpted some and extrapolated more and carried on into MMT and hyperinflation in my first Moneyness post that I implore any new readers to stop here and go read the first one first. I'm not going to rehash anything from that post, so if you haven't read it, it's like you're starting in the middle of a book.

Useless conclusions

I want to start by detailing how a faulty premise can logically lead to useless conclusions and worse—occasionally to destructive prescriptions. The faulty premise I want to discuss is one that is almost universally accepted in today's hard money camp. It is just one example among so many that I can't count them all, but it will also set us up to discuss why money is, and always has been, credit.

This premise was posted here in the comments a few days ago by a reader named Herb. So I'll just cut and paste it here from Herb's comment:

The reason gold is money is because it has the premier attributes of money. You know, the good old textbook qualities of fungibility, divisibility, portability, etc, etc. You can no more deny gold is money than you can deny that a dog is canine or a cat is feline. It simply is what it is.

Indeed, those are great attributes, along with durability, easy recognition and a relatively stable supply! But are those truly the attributes of the original money concept, or are they more befitting the concept of a salient tradable wealth reserve? Is there a difference between money and a tradable wealth reserve? And if so, why is it important to understand this difference? The answer is that not understanding the difference leads to useless conclusions about money and banking and terrible prescriptions for remedies whenever problems arise.

Obviously I am simply describing two different perspectives here. And hopefully we can all agree that common sense says Herb's list of "textbook qualities" at least applies to the very best tradable wealth reserve (or reserve asset). So then the main difference between perspectives is whether or not the concept of money is the same as the concept of a tradable wealth reserve/reserve asset. The hard money camp says yes; I say no. And to judge this distinction I think we need to look at the conclusions drawn from these two different premises.

FOA wrote that, in antiquity, gold was used as a tradable wealth reserve, not as money. From Moneyness:

FOA: Gold, that wonderful metal that has all the unique qualities to function as our one and only wealth medium, and we just can't use it without altering its purpose. You know, the Lydians had it right, back around 430 BC. They didn't struggle with the concepts of money, like we do today. They just stamped whatever pieces of gold they found laying around and kept it for trade. There was no need to clarify for certain that their gold money needed properties of "utility", store of value, medium of exchange, etc. etc.. They didn't need to identify these qualities were in gold before they stopped questioning if it was safe to use gold as savings. Gold was owned and the knowledge that people owned it and carried it for trade was alone enough to make it "worth its weight as wealth".

You see, back in antiquity there existed another property that could override our need for modern definitions of tradable wealth. That property was found in the one identifying mark of wealth that transcended all ages; real possession!(smile) This factor and this one factor alone had the ability to activate all the other modern attributes of money properties, even when the knowledge of these attributes was unknown in the ancient era.



It was only when governments stamped official denominations and numbers onto pieces of gold that we can say the money concept was applied to gold. But as I said earlier, it was the number recorded on the metal, not the piece of metal itself, which constituted the use of the money concept. FOA mentioned this as well. Again, from Moneyness:

To understand gold we must understand money in its purest form; apart from its manmade convoluted function of being something you save. Money in its purest form is a mental association of values in trade; a concept in memory not a real item. In proper vernacular; a 1930s style US gold coin was stamped in the act of applying the money concept to a real piece of tradable wealth. Not the best way to use gold, considering our human nature.

There is a key concept hidden in that paragraph. If we look at all of history we find a whole host of materials that have been used to record the money concept—electrum, gold, silver, copper, iron, nickel, zinc, paper, wooden tally sticks, Yap stones, even silicon microchips buried in secure computer servers for the last 40 years or so. But even from the very beginning this was a sub-optimal use of gold in particular, because it had naturally emerged as the leader of the pack of tradable wealth reserve items due to our list of "textbook qualities".



But let's say that you reject this notion that money is really only the credit notation and insist that it is, instead, the physical item itself. What is the harm in that? Well, I think it leads to some horribly wrong conclusions, especially about how banks work.

Banks facilitate the fungible exercise and circulation of credit. If I have plenty of credit, I can walk into any bank and get a loan. Then I can spend that loan and my credit (money) will begin to circulate throughout the economy as a medium of exchange. But if I am to accept that money is actually some tangible wealth reserve item, then I have to be skeptical about the source of that bank loan.

If, on careful examination, the bank has less of these physical wealth items in reserve than it has in outstanding liabilities, I might craft the common description of fractional reserve banking to explain what I found. This would lead me to the cynical notion that banks are somehow cheating by counterfeiting the real money that they have on deposit or in reserve. It would probably just remain my theory until some sort of crisis happened, and then it could mature into an outright accusation of fraud.

Reserves, of course, have always been vital to the business of banking. They are how banks settle up amongst themselves, and in the case that a bank customer decides to transact in a distant land outside of his local system of bank settlement (or locally in a black market), reserves are what the bank gives the customer to take with him. But this idea that the reserves are the real money and the credit is some sort of counterfeit or fraudulent money leads to horribly wrong conclusions and destructive prescriptions whenever a banking crisis occurs.

There is a big hump to get over here if you are in the hard money camp. Simply, get over this idea that banks need to have something to lend. This is the faulty premise: that banks lend something to the borrower. They do not. The borrower already has the credibility, the credit, and the banks are simply facilitating the exercise of that credit so that it can be used in transactions, and so that the counterparty to those transactions doesn't need to understand the borrower's credibility. The bank has already verified it and now stands behind it. This is the very essence of money.

In fact, banks are not (and should not be) constrained by the amount of reserves or capital/equity they have. But that's not to say they are not constrained. They are, just not by reserves and capital as this faulty premise leads some to believe. Instead, they are profit constrained; they want to make a profit. And because of this, they are experts at verifying credit and managing their reserves.

I realize this is difficult to see given the current state of the modern banking and financial landscape, but worse, it is impossible to see without a proper perspective on money. Without a realistic view of money, a proper understanding of banking is impossible. And without that, if you happen to be one of the few with the drive to be heroic, you'll be spinning your wheels on "solutions" (prescriptions) that range from useless to disastrous.

I'm not describing the current state of banking. I am describing the timeless state of the emergent banking model. There is nothing wrong with it. You can hang bankers from lampposts and rage against "fraudulent thin air debt-based money" and "fractional reserve lending" all you want, but that will do nothing heroic. The solution to this crisis is already unfolding, and anything short of relaxing in your lawn chair and explaining the show to your neighbors while watching it unfold is the opposite of heroic.

The latest antihero movements I've seen have come from some who read this blog. Perhaps I isolate myself (I do), but that's why I'm writing this post right now—because of these "movements" which crossed my highly-filtered field of view. Freegold combined with full-reserve banking a la the Chicago Plan which completely misunderstands money was one, and Freegold combined with CB's tasked with centralized "control over the credit volume created by their commercial banks" was the other.

This is why I think it is very useful (at least in the peace of mind department), even for regulars of my blog who presumably understand gold, to also have a deep understanding of money. And this is why I am writing this difficult post. Don't spin your wheels unnecessarily. Embrace the view that money is credit, to the full extent possible! Freegold is all about enabling savers with a realistic understanding of money and wealth… everything else flows from that. Money is not wealth, no matter how stable it is.



Money is credit

Money is credit; it is quite literally "money of the mind." Money is one of those intangible things, very powerful, but not something to be saved for the unknown future.

I should state right up front that I have no problem with fractional reserve banking or fractional reserve lending, except when we do it with gold. I think that even using the term fractional reserve banking reveals someone who doesn't understand money very well. I went into some detail on it in my Honest Money post. It’s a long post, but here are the first couple of paragraphs setting the stage:

What is honest money?

And what does it mean "to return to honest money?"

The most common answers to these questions have roots in the Austrian School of Economics, developed and made famous by the Austrian economists Carl Menger (1840-1921), Ludwig von Mises (1881-1973) and Friedrich Hayek (1899-1992). At least the most common answers today come from modern followers of the Austrian School. And modern practitioners will tell you that gold and silver are honest money, and that the way to return to honest money is to make money harder and/or to limit or eliminate fractional reserve banking.

But this meme of honest money has been canonized in such a simplistic way that its proliferation has become a bit of a credibility problem for those who promote it, and a source of confusion among their more credulous followers. So I have a slightly different take on honest money that I'd like to share with you.

That old story about how the banker lends out more paper receipts than the gold he has on deposit has done a great deal of damage to the collective understanding of money, in my opinion. I think this is why FOA spent so much time discussing the pure concept of money, what it is, how we use it, where it came from and how it has been corrupted over the years to fit a hard money agenda which led to a modern understanding of money in the hard money camp that’s not consistent with reality. His discussion begins in Gold Trail III – The Scenic Overview with "The Gold of Troy" and continues onto the next page. I included several excerpts from his discussion in Moneyness.

The idea that "fractional reserve banking" is bad, wrong, or the flaw in the system, is simply wrong in my opinion. The way the real economy has always used "the pure concept of money" is, in one simple word, credit. When physical gold emerged as the most versatile item for long-distance trade, that was not really the use of money per se. It was still just a tradable item, one of many, and simply the best on the road. When it was used as money was when we started trading using credit denominated in it. But that doesn’t mean that there was an ounce of gold for every "ounce of credit" in existence.

That early banker who issued more receipts than the gold he had on deposit issued those receipts (lent them out) against the credibility or the character of the borrower—and his promise to repay the debt. We do this all the time in the real economy—issue credit to our clients and receive credit from our vendors based on their known credibility or character and this is what keeps the economy running. There is not a monetary base unit set aside for each unit of credit we extend to our clients. If there had to be, the economy would grind to a standstill.

Centralizing, aggregating and harmonizing this system of credit (money!) was an evolutionary leap in the right direction. Banks created a fungible credit system that could be centrally cleared. No longer did I need to extend credit directly to my client (although I still do to some extent), but he could get some of the credit needed to get the job done from his bank and pay me a deposit so that I could give my vendors a deposit. This is how money lubricates the economy!

And this credit (money!) is not backed primarily by gold, property or any kind of collateral. It is backed first and foremost by the character of the borrower and the credibility of his promissory note. Additional backing (like collateral) can lower the risk of loss through default and can thereby lower the interest rate. But collateral backing is in no way a universal element of credit (the pure concept of money).

Here’s a great excerpt by Randy Strauss from my 2009 Gold is Money – Part 3 post that was especially revelatory to me in understanding that money is credit, not the reserves used for clearing and settling credit, and recognizing a flaw in the "fractional reserve banking is bad" meme – money is credit backed by character, not by reserves. Notice that it takes place in 1907, before the Federal Reserve even existed and while we were still on a gold coin standard, yet top bankers of the time like JP Morgan and George F. Baker had the same, deep understanding of money that I am describing in this post:

"The following is a post by Randy (@ The Tower) describing the end of the gold coin standard and the dawn of the Federal Reserve System:

Continuing our investigation into the meaning/essence of "money"... In 1907 America was on the Gold standard and WITHOUT any central bank. Many modern goldbugs might be inclined to yearn for those "good ol’ days" when "money was money and banking was as it should be!"

However, that year is best known by the Panic of 1907 in which the people's economy was plagued by runs on trust companies, banking panics, and a bear market in stocks. Across the nation, banks were unable (and refused) to deliver gold coins and currency to satisfy the requests of depositors for withdrawals of money from their own accounts -- and 246 banks collapsed. It is not difficult to see how the frustration of depositors unable to obtain currency from banks (even solvent ones!) holding their deposits would lead to pressure for political intervention and change.

For a quick exercise in perspective, imagine what you would do today if faced with the same situation in which your bank could not give you any currency ($1s, $5s, $10s, $20s $50 or $100s) to carry away with you as a representation of the money residing in your bank account. No problem. You would simply write a personal check to meet your spending needs, or perhaps ask for a bank draft, or wire the money wherever it needed to go. Amazing! What IS money??? How did you get yours; where did it come from? How do you know what its value is?? Ponder that, and now we return to our glimpse at history...

Panic of 1907

In the wake of this banking panic, a National Monetary Commission was formed to undertake a scholarly look at the failings of America's financial system. Of these, the four major flaws cited were that the banks were decentralized, clearing methods were inefficient, the huge cash holdings of the federal government were not distributed where most needed, and the currency supply was inelastic. (Please ponder for a moment how or why the CURRENCY supply would ever be an issue if the amount of MONEY found in banks were at a one-to-one ratio with the currency (gold) that represented it. Surely, in this absence of a central bank there couldn't be more money than gold coin! That's impossible!! ) By 1911, the Commission had recommended a plan for a "Reserve Association of America" as the solution to these defects, giving rise two years later to what became our central bank -- The Federal Reserve System. However, that's another story for another time.

Through the coordinated stabilizing actions of three prominent NY bankers to arrest the banking panic [J.P. Morgan, George F. Baker (First National Bank), and James Stillman (National City Bank / Citibank)], their wealth and power was perhaps made more conspicuous in the eyes of the nation than perhaps it would otherwise have been. A prominent Wall Street lawyer named Samuel Untermyer suggested that there was a "Money Trust", and The Wall Street Journal also took notice of affairs and wrote, "So long as Congress will not give us what every other civilized country possesses, a central bank, it forces Wall Street to improvise something of the kind itself."

Samuel Untermyer

The House Banking and Currency Committee formed an investigative subcommittee to determine whether a Money Trust existed in NY. The chief counsel was Sam Untermyer, and I think you might gain some insights about the true nature of money from the testimony delivered by Morgan and Baker before the committee in Washington DC at the beginning of 1913.

In questioning Baker about the proposal for banking reform regarding expanded disclosure of bank assets and investments, Untermyer probed, "Why should not the assets, and the detailed assets, be a matter of public knowledge?"

Baker replied, "Business would come to rather a standstill."

Untermyer demanded, "I want you to explain to the committee why."

Baker declined, "I can not explain it."

Untermyer pressed further, "You mean you can give us no reason?"

Baker admitted, "It would be exposing all the details of that business to the whole world."

After following a sidetrack in questioning, Untermyer returned to this issue, asking, "Why should the public do business on confidence when it can get the facts?"

To which Baker proclaimed, "Mr. Untermyer, THE FUNDAMENTAL PRINCIPLE OF BANKING, perhaps more than some others, is CREDIT." [emphasis added]

It seems that George Baker sensed (rightly?) that the public, familiar with their Currency being a tangible asset (gold coin), would NOT be readily comfortable with the truth about Money. That is to say, that they might struggle to accept the reality that their Money Supply, as represented on the books of the bank, was created by credit, and existed through the grace of confidence. In effect, the tangible Currency had become a mere symbol for the Money (credit) it represented while circulating outside of bank account ledgers.

John Pierpont Morgan

If you don't care to believe my assessment, I have another point for you. When Untermyer had J.P. Morgan on the witness stand, he asked him, "Is not commercial credit based primarily upon money or property?" [In this exchange, it appears that Untermyer ignorantly used the word "money" as equivalent to gold coin, a usage which Morgan plays similarly until his concluding point about granting CREDIT.]

"Morgan responded, "No, sir, the first thing is CHARACTER." [emphasis added]

Untermyer, shocked, reiterated, "Before money or property?"

Morgan reassured, "Before money or anything else. Money cannot buy it. [credit]"

Untermyer remained obstinate against this notion, as though there were communication difficulties, and pressed again on this point.

Morgan then conclusively stated his conviction on the point that commercial CREDIT is based on character: "Because a man I do not trust could not get MONEY from me on all the bonds in Christendom."

From two eminent bankers who surely knew their business, you now have it that the creation or granting of Money (the extension of Credit) has more to do with the creditworthiness of the borrowers than the collateral that secures against possible default. And recall, these comments occurred while on a gold standard AND in total absence of a government-sponsored central bank -- which was authorized (against Baker's preference) a year later.

As you come to understand how Money and Credit are interrelated, the more you will understand the separate Wealth of gold and why you need it now more than ever."**

It might be tempting after reading that to think that the banks, through their "fractional reserve banking", caused the Panic of 1907. But, again, that would be to misunderstand how the economy has used "money" since the beginning of time. If that’s all you get from Randy’s post, then perhaps you are one who, as George Baker sensed, and because of your hard money upbringing, would NOT be readily comfortable with the truth about Money.

The inclusion of savings in the money creation process is the very root of the problem

Today all money is credit, even the monetary base. Today we use government credit as a base reference point for the private economy’s credit. To view this in the proper light, I like to think of the base, or the government’s credit, as a negative to the system, and the economy’s credit as a positive. When the government borrows to spend it never really pays back in real terms, because governments are always net-consumers.

We enable essential government functions through taxes, the parts of government which are a necessary foundation for a functioning economy, but beyond what politicians can get away with through direct taxation, the rest of government is essentially a negative force on the monetary system. That’s what I mean by government credit is a negative as opposed to private credit which is economically positive. It’s a tough concept to swallow right now because everything is so topsy turvy on both the government and private banking sides, but that’s really the gist of it.

What allowed it all to get so out of whack to the point that it is today is very simply the inclusion of savers' savings in the monetary process. This inclusion can be most clearly seen with the emergence of debt securitization in the 70s and 80s. Banks extend credit, but securitization allowed them to sell their income stream to savers for a fee. This cleared their books for more lending. Eventually lending standards had to be reduced in order to feed the demand for securitized debt from the savers. The added risk of lower lending standards wasn’t a big concern because the banks never planned to sit on that risk; they planned to offload it to savers, China and German pension funds. This led to sub-prime and ultimately to collapse.

It is not that securitization reduces the banks' risk and liabilities. It is an ongoing process which gradually increases the risk banks face while reducing the profitability of their primary business model—lending at interest—forcing them to rely too heavily on fees and speculation for income. They are selling their profitable loans first while adding new riskier ones for the next round of securitization. What securitization does over time is make the risk of default from poor quality loans systemic so that it must be socialized in the end.

There are only so many profitable loans that can be made at any given point in time. Eventually you run out of responsible people with good credit with whom to extend loans. With securitization, the banks started making more profits from the fees from selling securitized bonds to savers (mostly pension funds and foreign CBs) than from their normal business. So once you've run through all the good borrowers with credit, where do you go? You create new borrowers by lowering lending standards, especially if your profit is now coming more from sales commissions than from interest. This was demand-driven, not bankster-greed-driven. The banks met the demand and made a profit from the fees while being spurred on by ignorant politicians. The banks never wanted to carry sub-prime mortgages on their books to maturity, but once the collapse began they had no choice. Neither did the Fed.

Without securitization, banks would never get down to the sub-prime "bottom-of-the-barrel" borrowers (and purely speculative borrowers). There are plenty of good, credit-worthy (producing) borrowers to keep the banks in business, but not if the savers are hogging all the prime "income streams". Eventually, even the savers started buying up the sub-prime MBS garbage and then, when a few debtors started defaulting, it took down savers, banks, hedge funds and day-traders alike.

Take away the demand from savers and the banks will stick to the prime borrowers so that they can turn a profit from their primary business. This is also how we devolved into such a debt-driven consumption economy… because of the systemic demand for our debt.

Debt is not bad by nature. It is the natural essences of money, period! Money is debt. That's not a bad thing! But yes, because debt is the essence of money, bad debt leads to bad money.

And it's more than just securitized debt held by savers that brought us to this point. It is systemic in that our international trading partners like China stacked up our debt rather than settling trade imbalances by purchasing a tangible reserve asset on the open market with the left-over currency. It is the stacking of debt which allowed for the non-inflationary expansion of the US govt. (USG) consumption machine just like the stacking of MBS by savers allowed for the expansion of sub-prime and consumption-based debt. This led to a USG addicted to an artificially high rate of consumption which led to the necessity of QE once the budget deficit exceeded the trade deficit.

There is no need for bank deposits to be any more than the money we all earn and then spend within a normal period of a few months. That’s all of the money anyway. Think about it! And if no one is sitting on "money" (credit) for more than a few months, then mild inflation (like 2% p.a.) is not only inconsequential, but it becomes economically beneficial and desirable.

The inclusion of the savers' savings in this process only damages the savers disproportionately to everyone else. And it damages the savers more the more they save. Inflation "taxes" savers disproportionately. But not in Freegold. As I said above, Freegold is all about enabling savers with a realistic understanding of money and wealth… everything else flows from that. Money is not wealth, no matter how well it is managed.

Thinking about the bank runs of the 1930s in terms of fractional reserve banking is an interesting exercise. It certainly was a problem in 1933, and it was precisely this problem that was the reason behind the FDR confiscation—to stem the tide of bank runs. Today that kind of a bank run is a thing of the past. That’s not to say it cannot happen, but that even if it did, everyone would get their money in the end, unlike the 30s. And that is because today the CB can create commercial bank reserves at will.

Opponents of fractional reserve banking (FRB) blame the banks and the practice of FRB for the shortage of reserves in the 30s. But I think that misses the bigger issue. If the system's store of value simply floated in value and was available to anyone at any time at the current price, the runs would have never occurred. They occurred precisely because money (credit) was denominated in the store of value, the system's ultimate reserves. It is the lending of credit denominated in, and redeemable at a fixed exchange rate for, tangible reserves that is the problem.

Today we have a better system. Floating gold as reserves behind the CB money (Eurosystem model) and the CB money (CB credit) as reserves behind the economy’s money (commercial bank credit). So the ultimate reserves in the system float in value against everything else and float in price against the money, and are therefore available to anyone, anywhere, anytime.

Try to imagine the gold ounces at the banks in the 30s floating in value relative to paper dollars rather than being fixed in value. You might have a deposit of $X,XXX, but that number only references a fixed number of paper dollars, not a fixed number of gold ounces. In the case of a bank run, if everyone wanted to withdraw their deposits, perhaps preferring a withdrawal in gold, then the bank would do a self-evaluation and likely render over the requested deposits in dollars telling the customers to go and shop for the gold themselves. The price of gold would simply rise.

Back in July, Lee Quaintance asked me this: "If debtors seek to borrow in the medium which they plan to spend (fiat paper money) and lenders seek to lend (save) only in a medium which they believe will maintain its purchasing power (gold), does not the entire borrowing/lending platform simply break down? This seems to be a manifestation of Gresham’s Law, no? Can the spending and savings medium truly then be separated if no one is irrational enough to lend in paper money terms?"

Truly, it is supremely rational to lend (grant credit) only in terms of paper units. It is likewise irrational to forsake the sublime paper unit avenue and opt instead to put your tangible reserves out on loan where they will then be subject to both devaluation and risk of non-repayment. Remember, and this is a key point, banks only require nominal performance. If a promissory note held by a bank devalues in real terms, the bank's liabilities devalue equally. So there is no loss to the bank through currency devaluation.

"For more about why FRB and time deposit maturity transformation are not the root of the problem—the root is simply the lending of the monetary reserve, a problem that would still exist even with Rothbard's 100% reserve banking—please see my Reply to Bron. Here's a short excerpt:

** Spending Gold into the marketplace, whether by the owner or by a borrower, would tend to result in prices "that weigh more"--cost more Gold, that is.

** As ever more Gold is borrowed out of other people's savings to be spent into the economy, the Gold's purchasing power is lessened from what it otherwise would be...hurting those who have elected to hold their Gold instead of risking it by lending it out as a source of income.

[notice in the above that we have all the bad devaluation effects without a single bank entering the equation!]

** For Gold to find its truest value, all savers must retain their Gold for their own use. Its properly retained value will more than make up for the foregone interest income. Gold must not be lent! [Gresham's law alone is adequate to achieve this.]"


What about bank reserve ratios and capital requirements?

What about them? Haterz gonna hate, loverz gonna love, and central plannerz gonna plan, right? But that still doesn't change the essence of money. Credit/credibility exists within the economy in amounts that are unconnected to the capital or reserves at the banks. It is the banks' business to enable the fungible exercise (and circulation) of that already-existent credit whenever it shows up wanting to be exercised. That’s how banks contribute to society.

A reader asked me a question about an article that someone posted in the comments. The title of the article is "The Myth of the Money Multiplier" but it could just as easily have been called "The Myth that Central Planners Actually Control the Size of the Money Supply through the Transmission of Monetary Policy".

Interestingly, the author of the article, Steve Keen, makes some of the same observations I am making here, like "In the real world, banks extend credit… and look for the reserves later" and "bank lending creates deposits… reserves are largely irrelevant." The term he likes for this is endogenous money, which is remarkably close to how I am describing that "money is credit" in this post. But even though he seems to understand money and banking very well, there's a vital ingredient missing from his money model which I think leads to faulty conclusions and prescriptions.

His point in the article is that Bernanke is now pushing on a string that is not going to translate into credit inflation or revive consumer demand. I agree. But his implied conclusion/prescription is apparently that, because "the textbook treatment of money in the transmission mechanism" (meaning how CBs purport to control commercial bank money creation) doesn't actually work the way other people say it does, we need to find a new way for central plannerz to constrain these banks gone wild and that we would have never gotten to the point of collapse if we hadn't let Capitalism run awry through an empirically unconstrained banking system.

So, while he understands "modern monetary theory" very well, he doesn't understand the wealth concept (unambiguous ownership of something tangible) and therefore he still equates money and wealth (along with most everyone else) which leads him to the conclusion that monetary reserves are the real money while "endogenous money" is just a problem of Capitalism that needs a new centralized regulation model. He sees "debt deflation" – a contraction in "endogenous money" which has been overextended due to the reasons I cited above – and concludes that the lack of an observable constraint on the banks (he doesn't see that banks are actually profit constrained in the absence of the systemic demand for debt securitization cited above) is responsible for booms and busts, including the catastrophic bust we are still heading into today.

What I'm trying to say is that, because he doesn't have a full understanding of money (remember at the top of the post I proposed that you cannot properly understand money without also understanding the pure wealth concept), he draws the conclusion that the banking model is to blame, and also that deflation will be the outcome. I, on the other hand, conclude that the systemic choice to use debt as savings and reserves is the primary cause, and that there's nothing fundamentally wrong with the banking system. I also conclude that USD hyperinflation will be the outcome. More on that in a moment.

Anyway, my reader's question was this, first quoting from the article:

"M2 averaged about $7.25 trillion in 2007 … bank loans for 2007 were about $6.25 trillion... if we consider the fact that reserve balances held at the Federal Reserve were about $15 billion and required reserves were about $43 billion, the tight link drawn in the textbook transmission mechanism from reserves to money and bank lending seems all the more tenuous."

If required reserves were $43 Billion and bank loans were $6.25 trillion does that mean the required reserve ratio was 0.69% (43/6,250), or to put it another way, that the money multiplier was 145 (6,250/43)? How can that be? Do banks have a capital cushion on top of reserves, which at 0.69% system-wide would be razor thin?

Is my thinking correct about the money multiplier being 145 in the example Keen cites. This would put the Reserve requirement ratio below 1%, effectively unconstrained. I am guessing this is possible because capital adequacy ratios are a better metric than the reserve requirement ratio?

I replied yes, you are basically correct, but I say "so what?" You are talking about the money multiplier, reserve ratios and capital adequacy requirements as if they are constraints. As I said, they are not. Banks are not lending deposits. They are not lending anything. They are simply facilitating the exercise of credit/credibility that already exists in the economy. You earn credit, and then in order to exercise it you go to the bank which facilitates your desire to exercise your credit (purchasing power).

The problem is that some people who didn't have credit were facilitated anyway (sub-prime, for example), because the system today demands debt well beyond what banks would normally facilitate given that they are naturally profit constrained and would otherwise have to carry the debt on their books.

Who cares about the reserve ratio? The CB can create commercial bank reserves with the click of a mouse today. They can swap a bank's assets (promissory notes) with reserves, temporarily or permanently, in any amount, at any time. Commercial bank reserves were more important back in 1933 when they included gold coins. But today they are not. Just look at the changes since Steve Keen's 2007 example.

Today, required reserves are $107B and reserves held at the Fed are $1.5T, for excess reserves of $1.4T with an M2 of $10.2T. So what's the big deal? If your money multiplier of 145 and reserve ratio of 0.69% mattered, then today the problem is fixed! Today's multiplier, using your same math from above, is 6.8, down from your 145 in 2007. And your 0.69% reserving is back up to a very comfortable 14.7% today. So problem solved, right?

Remember what I wrote in my first email?

"There is just what emerged (what is), the perspective from which you choose to view it, the conclusions you draw from that perspective, and how useful those conclusions end up being in the long run."

What conclusions were you drawing from that 2007 data and how useful did they turn out to be in 2012? If they were important, then the problem seems to be resolved, right? Or maybe the problem is something else. Maybe the problem isn't that the banks are unconstrained and don't know when to stop making loans.

Maybe the problem is that the insatiable systemic hunger for new debt as reserves/savings drove lending standards and interest rates down to the point of collapse. It's a little bit of a different perspective from Steve Keen's, don't you think?

Say what?

Since I'm already talking about Steve Keen, I want to take this opportunity to point out how the widespread misunderstanding of money and wealth leads to conflict, macroeconomic problems and flawed analysis. And the corollary to this point is that the emergent widespread understanding of these concepts that Freegold will naturally usher in will solve these same conflicts and problems.

In Nudge Nudge, Wink Wink, Say No More, Steve Keen, author of "Debunking Economics", debunked Say's law which, very roughly stated, says supply equals demand in the physical plane even with the inclusion of money. Or, perhaps, supply comes from demand while demand is supplied by supply which comes from demand created by supply. A circular logic no doubt, but profound nonetheless. From Wikipedia:

In Say's language, "products are paid for with products" (1803: p. 153) or "a glut can take place only when there are too many means of production applied to one kind of product and not enough to another" (1803: p. 178-9). Explaining his point at length, he wrote that:

It is worthwhile to remark that a product is no sooner created than it, from that instant, affords a market for other products to the full extent of its own value. When the producer has put the finishing hand to his product, he is most anxious to sell it immediately, lest its value should diminish in his hands. Nor is he less anxious to dispose of the money he may get for it; for the value of money is also perishable. But the only way of getting rid of money is in the purchase of some product or other. Thus the mere circumstance of creation of one product immediately opens a vent for other products. (J. B. Say, 1803: pp.138–9)

Keen correctly notes that Say's Law is widely disregarded in economics today, so I guess it was an easy target to debunk. A common criticism of Say's Law is that it only applies to a simple barter economy, and that he didn't really understand money since he was apparently describing an economy devoid of the capitalist drive to accumulate wealth. But it seems to me that Say might have understood money and wealth on a much deeper level than any of his critics.

I don't know, but let's take a closer look and you can decide for yourself. Here are a few excerpts I took from Steve Keen's paper debunking Say's Law. I tried to capture the essence of his argument here, but I'd still recommend reading the full article linked above.

Belief in Say’s Law is a minority position in economics today. Those who adhere to it appear to believe that it is a self-evident truth that is misunderstood by modern economists of all persuasions, and that properly understood it is not only true, but the foundation of an accurate appreciation of the functioning of a market economy and the phenomenon of the trade cycle.

I concur with the majority perspective that Say’s Law is fallacious, but not for reasons that make me a member of any defined majority in economics at large.

[…]

As Marx showed far better than did Keynes, the conditions under which Say’s Law is correct are not those of a capitalist economy.

[…]

Use-values must therefore never be looked upon as the real aim of the capitalist. Neither must the profit on any single transaction. The restless never-ending process of profit making alone is what he aims at. This boundless greed after riches, this passionate chase after exchange-value, is common to the capitalist and the miser; but while the miser is merely a capitalist gone mad, the capitalist is a rational miser. The never ending augmentation of exchange value, which the miser strives after, by seeking to save his money from circulation, is attained by the more acute capitalist, by constantly throwing it afresh into circulation. (Marx 1867: 151)

Say’s ‘Law’ therefore, is not a recondite insight into the nature of a market economy, but evidence of a basic failure to comprehend capitalism.

[…]

While we ‘do not consume money’, people certainly do seek to ‘conceal’ (or accumulate) it. Though a capitalist will undoubtedly consume with part of the money he accumulates, it is not true that ‘he may be considered as already asking for the merchandise which he proposes to buy with this money’ since if he converts all his profit into consumables, he has failed to accumulate wealth – to be a capitalist.

As Marx puts it, capitalists are characterised not by an equality of their supplies and their demands, but by an inequality. This inequality is possible because … production produces a physical surplus that the capitalist hopes to turn into a monetary surplus:

The capitalist throws less value in the form of money into the circulation than he draws out of it . . . Since he functions . . . as an industrial capitalist, his supply of commodity-value is always greater than his demand for it. If his supply and demand in this respect covered each other it would mean that his capital had not produced any surplus-value . . . His aim is not to equalise his supply and demand, but to make the inequality between them . . . as great as possible. (Marx 1885: 120-121)

[I want to pause here to point out that the "net" portion of a term I use for savers—"net-producers"—represents the "inequality" between what is produced by a saver and what he consumes.]

Thus as Marx emphasises in the immediate term and Veblen in the long term, a capitalist’s supply, if he is successful, is greater than his demand.

[Also, a net-producer's production is greater than his consumption.]

There is an inherent inequality at the core of capitalist society, and the simple balance of Say’s Law collapses.

[…]

Marx also realised that… money has an essentially new role in addition to those of medium of exchange and measure of account: it is now also a measure of accumulation. Failure in accumulation can now result in money being withdrawn from circulation, which in turn can lead to deficiencies in aggregate demand:

money functions neither only as measure, nor only as medium of exchange, nor only as both; but has yet a third quality… It is very true that money, in so far as it serves only as an agent of circulation, constantly remains enclosed in its cycle. But it appears here, also, that it is still something more than this instrument of circulation, that it also has an independent existence outside circulation, and that in this new character it can be withdrawn from circulation just as the commodity must definitely be withdrawn. We must therefore observe money in its third quality. (Marx 1857: 202-03)

In this ‘third quality’, money is more than the mere lubricant for barter that Say perceived. It is also the form in which wealth is accumulated:

The third attribute of money, in its complete development, presupposes the first two [measure and medium of exchange] and constitutes their unity. Money, then, has an independent existence outside circulation . . . as money, it can be accumulated to form a treasure . . . This aspect already latently contains its quality as capital. (Marx 1857: 216)

[…]

Expanding debt also becomes an essential characteristic of a growing economy, as Minsky realised… in the aggregate there had to be an inequality between income and spending if the economy was to continue growing in the context of a constant or rising price level:

If income is to grow, the financial markets, where the various plans to save and invest are reconciled, must generate an aggregate demand that, aside from brief intervals, is ever rising. For real aggregate demand to be increasing, . . . it is necessary that current spending plans, summed over all sectors, be greater than current received income and that some market technique exist by which aggregate spending in excess of aggregate anticipated income can be financed. It follows that over a period during which economic growth takes place, at least some sectors finance a part of their spending by emitting debt or selling assets. (Minsky 1963 [1982]: 6)

[…]

All attempts to provide a formal expression of Say’s Law rest on the same fallacious proposition that there is neither the desire nor the possibility to accumulate wealth for its own sake in a capitalist economy.

[…]

Therefore Say’s Law – and Say’s Principle, and Walras’ Law, and all other concepts which portray the sum of all excess demands as zero – is thus a ‘law’ applicable only to a market economy without capitalists and the accumulation of wealth. We live in a market economy with capitalists and with the accumulation of wealth, and we will continue to live in such a society for the foreseeable future. Say’s Law is thus irrelevant to the world in which we live. Rather than discussing Say’s ‘Law’ any further, we should consign it to the dustbin of the history of economic thought.

Some interesting thoughts in there, huh? I think it's clear from this article that there's not much difference between money and wealth in his view. The "accumulation of wealth" which he says is capitalism means the accumulation of more and more money. And this, he says, leads to a supply glut and insufficient demand which leads to deflation and depression.

"if [a "capitalist"] converts all his profit into consumables, he has failed to accumulate wealth – to be a capitalist."

"production produces a physical surplus that the capitalist hopes to turn into a monetary surplus"

"If [a "capitalist's"] supply and demand in this respect covered each other it would mean that his capital had not produced any surplus-value"

Would a net-producer's demand equal supply if, in his "accumulation of wealth" he purchased Veblen goods and physical gold? Someone has to supply those hard assets and gold, right? Mr. Market and his price adjustments would, in this scenario, make "the sum of all excess demands equal zero" as all wealth accumulation would have to be matched by either new wealth production or wealth dishoarding by net-producers of the past.

"Therefore Say’s Law… is thus a ‘law’ applicable only to a market economy without capitalists and the accumulation of wealth."

Using my definition of wealth, which I propose is a necessary element in understanding the reality of money, this statement suddenly appears fallacious. I honestly wonder if Steve Keen would agree. Or does his disdain for (his Marxian idea of) Capitalism run too deep? I don't know. But enough about the wealth concept. Let's see if Say understood money.

Say wrote that "a product is no sooner created than it, from that instant, affords a market for other products to the full extent of its own value."

He’s talking about the creation of credit, aka credibility, aka purchasing power. Imagine you’ve got a crazy inventor working for years on a contraption and everyone just laughs at him saying "that’ll never work. It’ll never fly." Then one day he finishes his project and it flies! It's going to change the world, and everyone applauds! He has instant credibility (purchasing power) that he didn’t have before. And the world is also a richer place for it.

He may not yet have actual product units to sell, but he can certainly afford to immediately improve his standard of living while also funding the production of units of his new invention for sale to the marketplace. In fact, depending on how earthshattering his invention is, he may have more credit than he needs for his standard of living and business overhead. This is surplus value, which he is unlikely to spend until after he starts selling units.

At the point that he sells units which the public values higher than his cost of production plus the cost of his standard of living, he will start to accumulate wealth from that surplus value. But, in fact, the purchasing power used to accumulate wealth – the surplus value – was present long before he actually exercised it. Sure, he could have bought gold on credit as soon as his invention's success revealed his credibility, but that's not usually the way it's done.

It seems clear, at least to me, that the widespread misconception—and thereby the misuse—of the money and wealth concepts goes back centuries at least. And that this simple misunderstanding has led to some longstanding conflicts, major macroeconomic failures and entire schools of flawed economic analysis, some of which are reflected in the above paper. (See also my post The Debtors and the Savers)

I think it can be stated as simply as this: When a single medium is used as both money and wealth, it leads to a conflict between those who choose to accumulate wealth and everyone else. This applies to both hard and easy money systems. It's like FOA said, applying the money concept to gold coins was "not the best way to use gold, considering our human nature."

The accumulation of wealth need not be a drain on anyone. When viewed properly, it is apparent that the "wealth circuit", supplied and demanded only by those who accumulate and dishoard wealth, is isolated from the "money circuit" through the magic of Mr. Market and his price adjustments. It's only when we call money wealth, and wealth money, that we join the circuits creating conflict and crashes.

And my main message here is simple. No one needs to understand this for a change to take place. Because, when the current system crashes, what will change is how we view money and wealth. Everything else I talk about flows from that one change.

Hyperinflation

Credit requires some unit of reference. You could borrow an egg from your neighbor and you might say, "thanks, I owe you." If you happen to take that debt seriously, your unit of reference might be one egg. Money is essentially our shared use of a common reference point which makes credit fungible and allows it to circulate. This is what I wrote in Moneyness:

The pure concept of money is our shared use of some thing as a reference point for expressing the relative value of all other things. Money is the referencing of the thing, not the thing itself. As FOA said, money is "a value stored in your head!" Money is not something you save. "Money in its purest form is a mental association of values in trade; a concept in memory not a real item… the value is in your association abilities. This is the money concept, my friends."

Money is not something you save. Wealth is what you save. Yet money still needs something to reference. When hyperinflation occurs, it occurs not in money itself, but in that reference unit. It is true that, when ounces (or any other unit) of gold is used as the sole reference item, hyperinflation per se is unlikely because gold has that property of a relatively stable supply. But again, that's not the best use of gold because of its intrinsic salience as the tradable wealth item par excellence.

But hyperinflation is not just about the supply of the reference unit, it is more about its perceived value relative to everything else. Hyperinflation begins when the perceived value of that common reference point goes into free fall. This could hypothetically happen with something like gold if, say, aliens arrived and explained to us that exposure to gold was somehow harmful, perhaps limiting our lifespans to only one century. Then you might see something like hyperinflation as humans quickly devalued their golden reference point against all else. But again, I'm only talking about the hypothetical here to make the point that hyperinflation begins with the perceived devaluation (currency collapse) of the monetary reference point.

Today we use the US dollar as the common monetary reference point unit. The US dollar gets its value from price tags that list dollar amounts rather than from the cost of making a dollar. I realize that this seems paradoxical, or some kind of circular logic, but it's actually quite sublime, and it works!

It is true, however, that we only get full-blown hyperinflation, like we saw in Weimar and Zimbabwe, with government "fiat money". Circulating real money (bank credit!) all but disappears when full-blown hyperinflation takes hold. So you see, hyperinflation is not really about money. It is about the loss of confidence in our shared reference point, which is usually because it has been abused by the government, and which often leads to a vicious feedback loop of further abuse by the government.

It's a shame that the most efficient form of money ever devised by mankind has this downside, but I think you'll find that the risk of abuse is worth the innumerable benefits, especially once there is a systematic and foolproof way to protect yourself from the worst of it! And this is why Wim Duisenberg so proudly stated that the euro "is the first currency that has not only severed its link to gold, but also its link to the nation-state."

Tribal Life & Government "Fiat Money"

With the potential for abuse and the risk of hyperinflation, why do we keep returning to government "fiat money"? Why do we, the productive economy, lend to our Tribal Chieftain and Tribal Council enough of our credibility to allow them to print currency for the good of the tribe and then use that currency as the reference point for money? Is it really forced upon us as some in the hard money camp proclaim? The answer is no, we demand it.

Since the beginning of time, man has been exploring and discovering the advantages of tribal life. Of course we must give up some measure of individual freedom to be part of a tribe, but in most cases the benefits have far outweighed the costs.

Given the current state of "tribal leadership" and "government money" in the US, I thought it quite timely to include a few posts from FOA which can be found here. They might even help us understand the outcome of this most recent election. Has the US really passed some disastrous tipping point of human desire for free stuff, or was this election just business as usual?

Trail Guide [FOA] (2/12/2000; 9:52:36MDT - Msg ID:25137)
Reality

Hello ORO,
Well, I knew that if I only asked, we would all receive! Boy did you deliver in ORO (Msg ID:25113).

Good stuff for everyone to read, my friend. You mentioned; """ The comments below - particularly those to Aristotle, are somewhat harsh. I hope this is taken in the spirit of friendly criticism."""

Sir, you can serve me (and probably everyone here) your "harsh" anytime. Waiter ,,,,,,,, I'll have a double order of that please! (smile)

OK, brace yourself ORO ,,,,,, a big plate of my "Trail" harsh coming up!

=============================

You write:
-------There are consequences to the existence of a fiat currency and for the use of debt money for trade settlement. FIAT HAS NEVER BEEN THE CHOICE OF THE PEOPLE ACTING IN COMMERCE OF THEIR OWN ACCORD. Even when wildly popular, fiat money has not had a single instance when it had not been established by force - by laws imposing its use.-----------

ORO,

On a larger scale there was always more to it than this. Human society has from the very beginnings formed tribes and picked sides against each other. When we are not battling nation against nation, we jockey for position within our own groups. Right down to "me and my neighbour against the three houses down the street. As a tribe ,,, as a nation ,,,,,, as a group ,,,,,, our war is really a human problem with each other and always has been. In better context; the problems are in the way we use our laws and governments to gain advantage over the next in line.

Whether through force (war) or democratic means, we subject ourselves to the order of governments. We rightly perceive that,,,,,, the order gained from this action ,,,,,,, the security of a group, overcomes the rights and property lost on an individual level that living in a tribe requires. It's been this way through the ages. It's a political process that has always had its in-house battles ,,,,, namely portions of society try to circumvent their percentage of lost rights and property by maneuvering the rules (laws) in their favor. Yes,,,,,if I can gain the advantages of tribe life and still keep my "lost portions",,,,, I'm gaining wealth to the disadvantage of the group. Truly, the most obvious action of not paying your taxes,,,,, and that's only a small item when viewing the world battle as a whole.

So, how does this apply to money?

When you and others say """ FIAT HAS NEVER BEEN THE CHOICE OF THE PEOPLE ACTING IN COMMERCE OF THEIR OWN ACCORD """ ,,,,, this is true.

This is true, but this was never the thrust of the argument. The use of money in any context, fiat, gold or seashells, has always entailed the use of borrowing and lending... And as long as economies function at a profit, debts are made and paid back without argument. However, when the eventual downturn arrives, some portions (perhaps a large portion) of the owed wealth (debt) cannot be returned.

It's here,,,, at this point in tribal life,,,,,,, that all of the context from above comes into play. The "reality" of life on this earth is this: ,,,,,,Some portion of society will use their influence or control of the leaders to make their debts easier to pay. In fact,,,,, it's times 2 for that number of government influencers ,,,, because even the ones that have debt owed to them will try to alleviate an impossible pay back situation to save the ones that owe them face.

You see,,,,, tribal life and the human nature that comes with it ,,,,,,,, will not allow any money system to "completely" destroy the wealth of a good portion of society. Even if everyone is plainly shown that they are going to lose something ,,,,,,they would still opt for the good of the overall tribe. This is why we return,,,, time and again to fiat monetary systems. In the few examples where a gold system brings the harsh reality of loses to bear on a nation,,,,,, usually war is the result. Not a good outcome.

Yes, we can break gold into many small parts,,,,, 'stamp it into coins and circulate gold certificates as money. We can borrow it, lend it and also circulate gold bonds as the economy grows. It is the perfect "weights and measures" monetary system. Exactly representing our productive efforts in every facet of human endeavour. But, when the losses mount, our tribal human tendencies will not allow us to support a government or banking system that forces these real losses on only a portion of the group. Never has,,,, and never will! Without this escape valve, we go to war ,,,,,, internally or on a world scale,,, so we all can share the loss,,, one way or another. As a human society of thousands of years,,, outside of war,,,,, we have learned to inflate our loses upon everyone as a whole,,,,, for the good of the keeping the whole from each others throats. Even to the point of a total loss of the current system,,,,, and all the destruction that entails for everyone.

Yes, indeed,,,,,,,we will transition to the next fiat system from the dollar, when the time comes. Believe it!

Further:

For myself and other observers ,,,,, we know about "peace on earth" and live our life in this context but,,,, as a member of the world tribe,,,,,, and following our best interest,,,,,, one must still arrange his affairs to shield their family from the "I'm going to get yours" times we live in. Should we get our leaders to help us? Well, the leaders of this world can only be but a reflection of us as a whole. Yes, many things are not right, but they can only strive to do what can be done, not what must be done.

Consider the dilemma:
If a small portion of society telegraphs thoughts that "if we cannot have our oil we will go to war",,,,,,,, how would you force them to not elect officials that ease their pain from a gold money system? What's right and what's wrong is not the issue,,,,,, it's what this present generation will live with that rules. If they will break the gold yoke, no matter what,,,, then why place gold on them? Is it not better to at least free the "knight" (gold) for the good of those that would stand with him?

During the period we are now entering,,,,,we can see all the ugly aspects of a fiat system that is failing its tribe. Look far and wide and witness the various groups ,,,, all jockeying for position as they use whatever influence they have to lessen their own private losses. If this had been a gold system, the outcome would be the same,,,,, as players force their leaders to lessen the gold debts that could not be paid. They would raise the price of gold and inflate their way out of it,,,,,, for better or worse ,,,, come hell or high water.

So, my friend (smile),,,,,,, as you can see,,,,, I completely agree with all of your post. Only, my trail is hiked with a different mind. "Another" mind set, if you will. We use the life experiences of man to dictate the best path to follow. As such,,,,,, Gold must not be part of any money system,,,,,, it must reside as a freely traded asset without debt or paper to resemble it. In this position ,,,,, its value can fully represent the ebb and flow of the affairs of man. And in doing so retain the wealth of man as a holding of things. Truly, the "Wealth of Nations" in the people's hands. We move forward by starting at the beginning of time.

We'll talk much about this and all the affairs of the world,,, including gold,,,, on the gold trail.

"We walk this new gold trail together, yes?" I hope to see everyone there when I return.

Trail Guide

Trail Guide (2/14/2000; 8:08:19MDT - Msg ID:25302)
Gold

ALSO: The point I was trying to make in #25137 (and the question I was asking) was this;
A full gold money system works during level and rising economic dynamics. It also works "VERY" well during a downturn. In fact it works "Perfectly" all the time! It's the lending of money that creates debt, be it gold debt or fiat debt ,,,, and the failure of that debt during a downturn is what causes the pain.

I ,,,,, we as gold bugs ,,,,,, most financial thinkers ,,,,, do not debate this point. The argument is that: If the pain dynamic (losses) of a financial downturn is not "Somewhat" shared by society as a whole ,,,,, the economic dislocation always intensifies until we go to conflict. (see my earlier post)

It's during the downturns that society in general will not tolerate a full gold system because it concentrates the losses upon their rightful owners. As such "these same" are usually "wiped completely out" and the fallout effects on the social and economic structure can be widespread and very destructive to tribal life.

Again, history has proven, time and time again that humans will not allow the full (natural) effects of gold money ,,,,, if it threatens to create factions. They accept gold during long periods until conflict (internally political or externally war) forces a break in the gold bond.

We, as nations, will break the "gold bond" by calling for the shared pain of inflation. Whether we (as countrymen) understand the reasoning behind it or not; currency inflation (not price inflation) in the modern world is carried out until its debt destroys the current system ,,, thereby sharing all the pain of the losses before it. We then move into the next fiat system.

The question:

Is it not better for all ,,,, if we remove gold from the official currency structure by forcing derivatives failure and creating a free physical only marketplace,,,,, so as to keep "us" ,,,,,, ourselves ,,,,,, from controlling it through our politicians?

Through "legal tender laws" currently in place ,,, let's force us (ourselves) to continue to create debts only in paper. As such, "they" ,, "we" can manipulate the fiat as needed for society.

Does this not place gold in its rightful position of being a "real currency asset" as it was chosen to be used from the beginning of time? A private money for trade and savings that's outside the 'contract / debt' system. Your thoughts?

Trail Guide

Robert Mundell:
--------I think that legal tender is a very old institution. It certainly goes back thousands of years and legal tender is an institution, whether we like it or not is going to stay. ----------

Robert Mundell :
------There's no institutional mechanism by which we could ever duplicate the kind of financial system we have under a system that relied almost entirely upon gold. Of course you could always have a system that used a lot of paper that was in some sense convertible into gold. You could always find a price of gold that you could convert that paper theoretically into gold. But I don't think anyone has thought in terms of the enormous price of gold that would be required in order to achieve that.-----------

Larry Parks:
---------George Soros says in his book Soros on Soros that the gold standard had to be given up because it did not make possible a lender of last resort. And says Soros, because financial markets are in his words "inherently unstable" you have to have a lender of last resort.-------

Trail Guide (2/14/2000; 18:20:51MDT - Msg ID:25335)
Freegold

Thanks for your reply, ORO.
My comments presume that readers have read our full posts.
Your major point, logic and comments that I got from your post (25310), followed by my comments:

ORO's POINT:
I pointed out that it is the existence of a "lender of last resort" that causes the debt boom

ORO's Logic:
It is obvious then, that had there not been a lender of last resort there would not have been a substantial credit crunch, because the lenders would not have taken the same risks they allowed themselves once a promise of bailout was given, and thus would have avoided the credit boom.

ORO's Comments:
The argument is false in that it is circular. (FOA note: I think he is referring to my logic?) The lender of last resort was there in the first place, the inevitable credit boom followed, the credit crunch followed - just as inevitable - and a further lender of last resort was needed. History shows that the credit policies of the BOE led to its bankruptcy before WWI and before the Fed was created. This was among the reasons for the argument for the Fed being pressed. All the previous lenders of last resort were tapped out and a new one was necessary. In 1929-1930 the Fed was tapped out and the gold standard obligation was abolished shortly after.

My (FOA's) Comments:
ORO, I cannot accept that a "lender of last resort" causes a debt boom. It presumes that a great portion of lending is done for reckless, uneconomic reasons. Yet, at the end of great expansions many projects that were considered "blue chip" in the beginning still go bad. Sometimes, the most necessary economic activity is curtailed because people's needs change during the course of life ,,, not to mention a recession. Thus changing business dynamics.

How many instances can we document where banks lent into real demand ,,,,,,, backed with the very best demographic patterns ,,,,, only to find the loan blow up from changing demand. Oil in the late seventies would be a convenient example for us (smile). People were breaking down the doors of the old "Texas Commerce Bank" in Houston ,,,,,,, all in an effort to finance hugely profitable petroleum projects. This was no flash in the pan, as the oil industry had a progressive expansion history of 15++ years before this. Truly, a lender of last resort was the very last thing on their minds. [FOFOA: Reserves were the last thing on their minds.] Later, even paper based on $10 producing reserves was trashed! Certainly there are many, many other examples,,,,,,,, most are of a more mundane, unglamorous nature, but fine examples.

Further:
Was this really circular thinking on our part? Did the Lender of last resort exist during the 'South Sea Bubble" or the "Tulip mania",,,,,, and did the "Black Plague" of Europe shut down a few sound financial systems then? I think gold was the norm in that period?

ORO, this portion of your thinking needs to include the other side of the lending aspect,,,,,, people want and demand loans for sound, economically justifiable, profitable projects,,,, and they get them on sound lending principles. [FOFOA: Real credit exists and then banks facilitate it] Still, some 90% of them can become only "at the margin" when demand changes. And typical of our human society, we all shift at once.

Truly, my friend, bank loans often fail because human events change the course of money dynamics ,,,,,, and it does so in a way that is beyond the vision of any lender. Be the lender you, me or a group of people such as a bank, large portions of deals go bad just as much from human affairs as from "over lending".

After all, the entire economic structure of the world is nothing more than a people dynamic ,,,,,,,,, in the long run it's just too risky to bet one's physical gold on (huge smile)! [FOFOA: from above – "Truly, it is supremely rational to lend (grant credit) only in terms of paper units. It is likewise irrational to forsake the sublime paper unit avenue and opt instead to put your tangible reserves out on loan where they will then be subject to both devaluation and risk of non-repayment." ]

Yes, our present financial system gives the impression of total insanity,,,, but we are looking at the very "end of the timeline",,,, not how it began. It all starts with the very first loan and progresses until everyone has borrowed "too much", but no one wants the music to stop. Last resort lenders then become the norm because society will lose "across the board" if everything is "marked to the market". It is not a circle (smile) as it starts and ends with the currency system (gold or fiat) everyone demands to borrow into. It all ends in the shared pain of debt collapse as the debt is discounted to zero from price inflation ,,,, even if it's based on gold ,,,,,, gold that cannot be returned. Not much different from our present gold loan structure. We will move on to the next money system when this one ends.

If it were gold we started with? The banker would lend his gold only to find the same metal returned to his bank as a new deposit. The "society at large" would remove his franchise if he did not re-lend that same gold during "good times", "booming times" no less! Round and round the gold goes.

Reserve lending hits its limit and society demands the limits be raised again ,,, and again ,,, and again! Lender of last resort ,,,,,, or not.

In our modern world we must remove gold from the official money system, place it in a free market and people will use it as wealth money, not borrowing money. Then the fiat can come and go as the wind! Yes?

You agree now! I'm so very glad!

Trail Guide

Trail Guide (2/14/2000; 21:11:17MDT - Msg ID:25350)
Freegold

Elwood,

I have read much of Mises and even a few others. Actually, I completely agree with them that the Gold money systems of the nineteenth century worked very well. As such we do not fall into any of the groups that argue against that concept. Our problem is with people (smile).

In a Money and Freedom speech at a Mises meeting Mr. Joseph T. Salerno made this point:
-------Unfortunately, the monetary freedom represented by the gold standard, along with many other freedoms of the classical liberal era, was brought to a calamitous end by World War One.----------

Further, he stated:
------Within weeks of the outbreak of World War One, all belligerent nations departed from the gold standard. Needless to say by the wars end the paper fiat currencies of all these nations were in the throes of inflation of varying degrees of severity, with the German hyperinflation that culminated in 1923 being the worst.--------

My point (as an extension of earlier posts):
No country, however rich in gold or resources, can continue to fight a war once their money runs out! Consider ,,,,,,, You and your family as a country, a nation ,,,,,, you are under attack and have spent the last of your gold ,,,,,You will print money and continue the effort, no matter the inflationary costs,,,, come what may!

Many nations utterly failed to return to the original gold standard simply because they were mostly tapped out from the war. At the best, the richer, surviving countries would have taken a major economic hit by going back into a full gold system. All the eventual gold deals and non-deals were little more than a part of the progression of events that led us here today. All in an effort to keep from fully marking to the market the cost of a shared loss in war, defence and other financial failures.

There is not one person among us that ,,,,,,,,, if their family was completely broken from the war experience ,,,,,,,,,, would have asked for a return to gold. In full a honest context, millions would have starved in the process. The world opted to share the loss and spread it out as far and as long as possible.

The war experience is but one example of why society has such a hard time with an official gold system during times of stress. Over and over again we have seen where gold is the very best holding and defence against private and public financial loss. Yet, when large scale national loss threatens society as a whole ,,,,,, it's always the money system that receives the brunt of the demands for change. Society demands that whatever money system is in place at the time of stress be shifted so as to spread the burden amongst all. Is it right?,,,,,, is it just?,,,, I do not think so. But it is what we do and have done for a long time!

Today, if gold can be forced out of the official money system, it will be to the benefit of everyone during times of stress in the future. In times of war people spend the legal tender in commerce. Yet they save the food, liquor and necessities. A common currency of the world would be just such a necessity to hold as part of your wealth.

Trail Guide

____________

Money versus Wealth

The essence of money is credit, which is a reflection of the amount of credibility in the economy currently being exercised and circulated. In reality, in fact, even if not in the textbooks, money is a reflection of ongoing and planned future production. Wealth, on the other hand, which is everything physical that is owned and possessed, is the embodiment of past production.

So here we have a very simple dichotomy. Money reflects present and future production while wealth is, in fact, production from the past. But there's more. Money is an extremely useful, vital, and very powerful tool used by the Superorganism. But it is also used by those central plannerz. Price signals are what the Superorganism gets from money, and price signals are also what central plannerz try to control. Strangely, it is what we demand from them.

It is the very nature of our humanity that makes money a poor substitute for wealth when saving for an unknown future. And it is the nature of money itself that makes not understanding this simple view so widely destructive in the long run.

The fallacious premise that money and wealth are—or should be—one and the same (or at least managed to attain parity) is the flaw I mentioned at the top of the post "which, in and of itself, has set the two camps perpetually and unnecessarily at odds with each other."

The de facto abandonment of this premise in both camps is what I see coming. There is no need for anyone to convince the camps that they will abandon this premise. As ANOTHER said, time will prove all things. You cannot convince them of this. Only the unfolding of time can.

What you can do is consider – with a measure of intellectual integrity – the effects that will flow from a more realistic widespread view of the concepts of money and wealth. And, most importantly, how that view applies to you and how you use money and wealth/savings in your daily life.

Today, money is widely used as wealth, or at least as a measure of one's wealth. If you believe that the current system is not sustainable, perhaps even at the end of its timeline, it would be incongruent not to consider the implications of this simple change in widespread perception. Here are a few things ANOTHER had to say about it. I present these now because I find them to have enhanced meaning in the context of this post:

When an investment in stocks, bonds, bank accounts, CASH, businesses etc. is priced in US$ currency you are really holding the "intentions of providing value" locked away in the thoughts of another mind.

_____

One day ( it has already started ) a type of nuclear chain reaction will occur in the currency markets as people start "unvalueing" the thoughts of others. Little by little all debts owed will be marked down.

_____

The "wealth of nations" are held as "thoughts of value" not real value! And even these thoughts are "in debt" as they are owed to other nations. As it has always been, time moves the minds of people to change, and with this, the thoughts of value also change. In this day, as not in the past, the loss of paper value as a concept will destroy the very foundation of wealth that this economic system is built on. This drama has started and is well underway!

_____

How can one know value in currency, when paper does not lie still? It moves at night, where no one can see, and this we hold to prove our worth? Real things know not this paper value, for they hold tight in the earth. In this time, we do stand firm with value and watch as "thoughts of others change in the wind"!

Thinking ahead

There has been some debate recently in the comments about the functions of gold (and other less-salient items of tradable wealth) and currency as it relates to savers after the transition. It has been suggested that, because gold will finally be functioning properly, currencies (money) will become relatively stable and will therefore function as savings for the masses.

Here's what I think.

What will change is how we view money and wealth. Everything else flows from that. But it is not our change in view that is causing the transition. It is the other way around. The transition will cause a widespread change in view. What is causing the transition is the de facto failure of the present system.

In the future, I think that if you are saving for something known, especially something with a known currency price like a down payment or a car, you'll save currency or "money". But if you're saving for the unknown future, you'll apply your newfound understanding of the difference between money and wealth and you'll probably choose gold, the most salient and liquid of the tradable wealth items.

This view even scales up from the individual to the national or regional level. I think that short-term trade imbalances—due to known factors that are expected to be short-lived—will be recorded in currency or even debt terms. But structural or long-term imbalances will be settled in gold through the open market, effectively eliminating structural or long-term imbalances.

Gold is real, tradable wealth. Money is not wealth, no matter how well it is managed. You will understand this distinction in the future and you will act upon that understanding.

Today I hold gold for the expected revaluation, because the weight of gold that I find I can still buy because the former system is still functioning is so vastly disproportionate to the relative shrimp I am. But even after the transition, I expect that I'll still feel the amount of gold I possess is vastly disproportionate to my "size". So I expect that I will, at that time, apply my new understanding of wealth and trade some of my gold for other tradable wealth items that are better suited for display and enjoyment in life than gold.

There's a reason I keep mentioning other "hard assets" like antiques, fine art, classic cars and high-end real estate when talking about Giants today. That's because those items are the closest thing we have to "Freegold-like savings" today. And yet they are only accessible to the Giants because of their nose-bleed prices. But they are still quite inferior to Freegold. They are not as portable, durable or liquid as gold, but most importantly, they are not divisible like gold which, as FOA said, puts us shrimps "on equal footing" with the Giants!

Another recent debate in the comments was whether our central plannerz of the future will target consumer price inflation, monetary inflation or the price of gold to achieve stability.

Here's what I think.

I think that this whole question is somewhat "old paradigm" thinking. In the "new paradigm" I think I'd say that the real economy will manage the money supply since, as I proposed above, "money is a reflection of the amount of credibility in the economy currently being exercised and circulated."

Of course the monetary base will still be subject to abuse by governments in places where, unlike the Eurozone, the government retains ultimate control of the central bank. But like I said above, I think you'll find that the risk of fiat currency abuse is worth the innumerable benefits, especially once there is a systematic and foolproof way to protect yourself from the worst of it!

And remember, this is why Wim Duisenberg so proudly stated that the euro "is the first currency that has not only severed its link to gold, but also its link to the nation-state." I don't really think the euro architects came up with this ground-breaking idea because they thought they were smarter central plannerz than the Superorganism! ;)

In Conclusion

FOA: In this light we should know that our real things in life will not change all that much. Your tools, chairs, clothes and cars will remain yours. Houses and land, TVs and boats, all will retain the exact same "value" they always had. What will change is our ability to use our currency and paper assets as a medium to measure the "real value" that's always so inherent in these items, yet so well hidden in our perception of today. Yes, the currency price of things will greatly change, even as their "use value" moves little. Such is the nature of dying paper money systems. Such is the ending of a currency timeline!

Trail Guide

ARI: So you see, learning how the world works is all about each man coming to the understanding about the real wealth we all require to best ensure our survival. Knowing that Gold is the master proxy for our life's day-to-day and year-to-year shifting requirements for food, clothing, shelter, and energy, it simply makes more sense to gather in Gold for later use than to gather in clothes (that we may outgrow,) food (that may spoil,) houses which are more than our needs, or energy (that we can't store.) You see, time bears witness to this undeniable fact: Gold can be called wealth because it is an enduring wealth proxy in exchange for our life's needs. Currency, on the other hand, serves a specific modern economic purpose--to be borrowed and inflated in placation of man's immediate desires. It is not wealth, it fails as a proxy for the Gold it tries to immitate. Do not confuse the two.

Understanding how the world works is easy as soon as you understand the Wealth Hierarchy. Like this: Earn money/currency, buy what you need, save Gold, enjoy what life has to offer.

Real wealth. Get you some. ---Aristotle

ANOTHER: Sir, Thank you for reading my thoughts, as I do read yours! As in all life, "events make truths", not the words of Another. "time will prove all things" Thank You

Sincerely,
FOFOA

*If you buy gold because of my blog without really understanding my view, I think it is possible that you will sell your gold "to lock in a profit" with the worst timing in the last 5,000 years. You don't want that on your headstone, now do you?

**For anyone who would like to read J.P. Morgan's full testimony before the House Bank and Currency Committee on Dec. 18 and 19, 1912, with cross-examination by Samuel Untermyer, for context, here is the full 55 page transcript of Morgan's testimony as archived by the Library of Congress:
http://memory.loc.gov/service/gdc/scd0001/2006/20060517001te/20060517001te.pdf

____________

We gold, we gold, we shine!

"Shine Your Light"
F-ff-f-fresshhhh music from Rita Ora (h/t DP!)

We gold, we gold, we shine
We gold, we gold, we shine
We gold, we gold, we shine
We gold, we gold, we shine

Hey there rock stars
Turn up your radio
I can hear you coming
Start up the video
You're still standing
They'll never knock you down
The beat never ending
Let me hear your heart pound

Eh, ah, eh, ah
Eh, oh, a shining star
Eh, ah, eh, ah
Don't matter where you are

Wo-oh, shine your light
Wo-oh, set the world on fire
Wo-oh, shine tonight
Wo-oh
(set the world on fire)

We gold, we gold, we shine
We gold, we gold, we shine

We going solar
Push up your lights out
Faster and faster
I see the sun rising higher

Eh, ah, eh, ah
Eh, oh, a shining star
Eh, ah, eh, ah
Don't matter where you are

Wo-oh, shine your light
Wo-oh, set the world on fire
Wo-oh, shine tonight
Wo-oh
(set the world on fire)

Wo-oh, shine your light
Wo-oh, set the world on fire
Wo-oh, shine tonight
Wo-oh
(set the world on fire)

And we don't give up till we run out of desire
We see the finish and we never get tired
We are the winners cause we hold the world title
We started slow, but we beat you in the final

Eh, ah, eh, ah
Eh, oh, a shining star
Eh, ah, eh, ah
Don't matter where you are

Wo-oh, shine your light
Wo-oh, set the world on fire
Wo-oh, shine tonight
Wo-oh
(set the world on fire)

Wo-oh, shine your light
Wo-oh, set the world on fire
Wo-oh, shine tonight
Wo-oh
(set the world on fire)

We gold, we gold, we shine
We gold, we gold, we shine

We gold, we gold, we shine
We gold, we gold, we shine