Wednesday, November 2, 2011

Fiat Money: A Critique

Now let's examine Fiat Money. Let us compare it to the five traits of sound money:
  1. Divisible. Yes. It is denominated in pennies, nickels, dollars, 5 dollars, etc..
  2. Portable. Got that too. Mostly paper and light.
  3. Durability. Sketchy there. Made of paper. It can easily get torn, burned, etc.. 
  4. Recognizable. Absolutely. The dollar is known around the world.
  5. Scarcity. Oops. Not here. The government can print as much as it wants, or lately just hit a button on a computer.
Fiat is a Latin word meaning "let it be so". In other words, by government decree. This is not free market money (more on that below). By law (legal tender law), the dollar is supposed to be used for trade and to pay taxes (in other words, the government does not accept, say, gold or silver for payment), nor can there be competing monies. By doing so, the government actually has, by decree, created a money monopoly. From this monopoly, the Federal Reserve (which is privately owned, by the way), creates dollars and charges interest to the government. Say what? I know. It sounds crazy, but it is true. For the most part, the system seems to work well. After all, the United States is the wealthiest country in the world, right? That is debatable (and a blog for another day), but here I want to focus on the unintended consequences of Fiat Money. What does Fiat money do?
  • Increase the welfare, warfare state. Since fiat money is created out of thin air, the government can have as much produced as it wants (it claims it needs). Government representatives get elected on promises to it's constituents, who always want something from the government. Be it big military contracts or social programs, they all want something from their congressman.
  • No accountability. These programs cannot come into being, or if they do, get out of hand if we had to pay from them from the collective labor and wealth of the citizenry. In other words, the government would have to prioritize where to spend it's limited funds.
  • An increase in the rich/poor gap. The people and organizations that are closely connected to the money supply get first dibs before the new money circulates in the economy. They get to buy the goods and services before the prices go up to reflect the new money. The ones further down the money spigot have to pay higher prices before they get the increased money. In many cases, wages do not keep up with the inflation. And those on fixed incomes? They are the worst off. Their incomes do not go up, but prices do. This leads to a lower quality of life for all except the well connected. Who are they? Bankers, big corporations, politicians, and big contractors that bid for government work among others.    
  • The business cycle. The "elastic" money we have is the primary reason for our booms, recessions, and depressions. It is called "the business cycle". I will devote a full blog on this in the future. 
  • Ultimately, I believe, we will see a collapse of the financial system, dragging the economy (and the middle class) with it. 
Every single one of these problems are the cause of inflation from the fiat money system we have now. Fiat money, since in my opinion it does not store value, is not money, nor should it be called money. It is a currency. It works as a medium of exchange, but it is so flexible you cannot count on it to store your wealth long term.

The use of fiat money has problems. Big problems. So far the powers that be have been able to kick the problems created by fiat money down the road. The problems did not disappear. They are bigger. They are like a wave that keeps getting bigger and bigger. Eventually it will it us, and there is nothing that can stop it.

What do I mean about "free market" money? easy. It is money that comes into use organically by people in the market. In other words, the state does not create nor own it. It is what we choose is money. It would show the five traits listed above, and most importantly, it cannot be created out of thin air. It would represent the true value of stored labor that can be used for capital formation (more factories and better tools for use in production), and sustainable economic growth.

Here is a 5 minute video that explains what fiat money is very well. I encourage you to watch it.


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