Fiat Money

A description from the Financial Times, from someone who actually approves of it:

The monetary liabilities of the central bank are liabilities only in the legal sense. They are not liabilities in the substantive economic sense. This is clearest with currency. A UK 10 pounds note carries the inscription: I promise to pay the bearer on demand the sum of 10 pounds. That’s good to know. All it means is that I can take my scruffy old 10 pound note to the Bank of England and exchange it for a new crisp 10 pound note. If I am lucky, I might get 2 five pound notes instead. But a given face value of currency does not give me a claim on the issuer for anything other than the same amount of currency. My 10 pound note is a claim on a 1o pound note. Because it is legal tender, and because it is also de facto accepted in payment for just about anything, it is wealth – an asset – to the holder. But to the issuer, it represents no obligation to provide anything else to the holder. It is not a liability in any substantive sense.

At bottom, it is “money” that is nothing.  That cannot continue.


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6 responses to “Fiat Money

  1. Well, that isn’t quite right. Fiat money isn’t “nothing”. It is a representation of the value of the productive assets of the country that issues it. Just as government debt is. Really they are two versions of the same thing. Fiat currency can be regarded as a non-redeemable, non-interest bearing form of government debt. In the article from which you’ve just quoted, Buiter discusses “monetisation” of government debt, which is its conversion into fiat currency.

    The problem is that the more fiat currency there is, the lower its value unless the productive assets of the country also increase at the same rate as the amount of fiat currency in circulation. Inflation occurs when the rate of issue of fiat currency exceeds the rate of increase of productive assets. Buiter advises that monetisation of debt should be a short-term expedient only at times of recessionary deflation and there must be commitment to reversal of that monetisation when growth resumes to prevent inflation spiralling out of control.

    Persistent monetisation of fiscal deficits is historically associated with hyperinflation.


    • Fiat money isn’t “nothing”. It is a representation of the value of the productive assets of the country that issues it.

      It’s a promise to pay that is never kept or even meant to be. That is a serious problem, intellectually and morally. Redeemability is key if we are to have an honest monetary system and any hope of an honest economy.

      You hear about “monetisation” sometimes. Although we would say monetization, with a ‘z’, but it sounds the same – the word, not the letter ‘z’, which you guys say “zed”, which sounds more like a pet name than a letter, but it’s still impressive which is why we yanks are always deferring to you Brits. Because even if you’re not smarter you just sound smarter, and that whole zed thing proves it.

      But where was I? Oh yes, monetisation.

      Easier said than done my dear Frances. They never let any new money out unless someone owes it back in. There’s the rub that makes calamity of so long life. See? Hamlet was talking about fiat money. It’s a parable for our time. Polonius (neither borrower nor lender be!) is Ben Berananke, behind the curtain of course, but then that’s the death of him, isn’t it? We’ll have to make sure our modern Hamlet, whoever he is, doesn’t play with swords.

      The point is, you can only monetise from lower debt levels than we have, because monetisation requires issuing more money which in turn means more debt. Even if they drop currency from helicopters overall debt will still go up. And we’re saturated with debt. That’s what this is all about, and always has been, ever since ’07 and the sub-prime thing. And it started in Scotland with that Northern Rock bank run, because everything scary starts in Scotland because they have werewolves up there in the bogs.

      You see how you start talking about money and the next thing you know it’s like some British horror movie from the 1960’s with Christopher Lee or Peter Cushing, or both? Why did you guys, smart as you are with your ‘zeds’ and all, make such cheesy movies? I mean, we made things like “The Blob” but we were only kidding, and Steve McQueen had to start somewhere.

      But anyway, it’s the debt. Steve Keen knows that. Something has to be done. Better the injection idea than nothing, but I would prefer to take it out roots and all, like some diseased plant from Day of the Triffids, which was another cheesy Brit horror flick but you get the idea: as long as one little speck of that virulent alien life form ipse dixit money exists, we’re doomed to become plant people with no souls.

      And we’ll be broke, too.


  2. Andrew MacDonlad

    How is gold not fiat money? It only has value because other people think it has value. Once people stop believing it has value, it won’t have value.

    “Value” is inherently subjective and trying to create a currency that has objective value is an exercise in futility.


    • Well, Andrew, I could run through all the Aristotle stuff but what’s the point?

      So many disputes seem to boil down to this: is anything really true? Or is “truth” just a pretense that I attach to my subjective preferences to make them seem more lofty and persuasive than yours or someone else’s?

      It’s a harmless little intellectual exercise when we are undergraduates to debate this point. As long as it remains entirely theoretical, it helps us sort out what we think about things and hurts no one.

      The trouble comes in practice. What does “nothing is really true” translate into, in practice?

      Reality asserts itself. It takes our sophomoric propositions and tests us with them: “Nothing is really true, you say? How about the force, express or implied, that I apply to bend you to my will? If nothing is really true or real, then neither is that. But you bend to it. And so does everyone else.”

      Put another way: Nothing is really true? Is that true?

      In practice, then. Our belief that nothing is really true or false translates into: my will is the truth, if it is stronger than yours and prevails. That is all the truth there is. It’s Thrasymachus come to life.

      The alternative is we are subjected to reality rather than subjecting reality to us.

      We cannot promise to pay, and then turn around and say the promise is the payment – because we say so – unless we’re content to live in a world where the strongest will prevails and where reason and truth count for nothing. Our courts of law now behave exactly like this. They are a nightmare of incoherence and malevolence wearing a mask of justice.

      The money system where the promise to pay is payment has taught this to everyone.

      Gold redeemability may not be the only solution, but it is a solution.


  3. Andrew MacDonlad

    Let’s move out of the philosophical and into the real world. Go back to the example of cigarettes in WWII prison camps. Cigarettes are inherently a real thing, and using them as a medium of exchange is in many ways similar to using gold – cigarettes had value as a medium of exchange and as something that could be used. They were “real”. What happened to the trade value of cigarettes as the days got closer to the end of the month when people were running low on cigarettes, before the next aid package would come in? If you had cigarettes, you didn’t have to trade nearly as many for, for example, chocolate.

    So the value of something “real”, which had an “objective” worth, fluctuated as supply ebbed and flowed. Gold can be made by certain chemical processes. It isn’t economical at the current price of gold, but if gold were valuable enough, there would be nearly unlimited supply. Likewise, if one country or another hoarded gold (so that the world supply shrank), you can imagine what would happen to the price of gold (and, in a gold-linked economy)

    Any object that is desired by any person will ebb in value according to the supply available in the world. If a massive new vein of gold were discovered, people will only want so much gold (you can only wear so much jewelry). So what then is the objective value of gold? There is none. Gold is only worth what you can get in exchange for it, which in turn depends upon the amount of gold in the world. It’s exactly the same principal that defines any currency or medium of exchange.


    • Forgive me. I am terminally focused on the truth thing.

      I have never maintained, at least not since I really started thinking about this stuff, that gold redeemability is an absolute guarantee of monetary stability. Historically it has done pretty well on that score, but that’s not the main point.

      The main point is that the absolute discretion to change the quantity of money, unconstrained by any underlying natural reality whatever, is effectively a conjuring power that will invariably reward those who seek to serve it while financially oppressing everyone else. It is so objectionable to natural reason that it must also disguise itself; thus there is always a pretend reality it claims to be observing: productivity and output and employment and so on, the measures of which become increasingly falsified and farcical as time goes on, because the brute fact of the system is absolute discretion to conjure “money”, and no underlying reality can be permitted to constrain it, otherwise it wouldn’t be what it is.

      So where are we now? The system’s servants, a/k/a the 1%, have utterly monopolized the money supply. They have used the conjuring power to benefit themselves, inadvertently reducing the 99% to relative penury. The 99% can no longer borrow, being already saturated with debt; but the 1% – controlling money issuance as they do, which is what the system permits – will provide new money only on the condition that it is borrowed, and since their discretion is absolute their will prevails.

      This is the nature of the thing: it is an impasse between the classes. If the 99%, in their naive and plaintive cries ask to be paid instead of lent to, the 1% respond that they can buy the same thing the 99% are offering cheaper elsewhere, like in China, owing to the very conjuring power they possess in the first place. And this, more than anything else, is why borrowing in the US has skyrocketed while incomes have declined. It is not the fault of the Chinese, who are as much victims of this dynamic as everyone else. It is the nature of the system itself, to systematically exploit the whole earth and its people on behalf of those who are willing to use power for that purpose. It benefits the worst among us.

      And yet it’s an illusory power. It exploits, it does not produce. It moves onto China not as useful capital, but as a pillaging plague of locusts.

      Will gold redeemability change this? In a word, yes. Because the essence of the problem is the illusory power of absolute discretion to conjure money, and gold redeemability is the formal renunciation of that illusory power.

      Now, I have figured that the dollar gold ratio would be about $30,000 to the ounce to begin with, in a new monetary regime. Perhaps at that level it would be economical to extract gold from sea water, and the supply might be practically unlimited, as you point out. But that is one reason I decided that there should be a central bank in the short term, because while the dollar price would be capped, it could be lowered by the central bank if the supply of new gold was too great. Also, at very high price levels the central bank could charge a lot of seigniorage.

      Eventually things would settle down into some kind of equilibrium, monetary supply-wise.

      Update: As if on cue:


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