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Source link: http://archive.mises.org/12103/trade-deficits-and-fiat-currencies/

Trade Deficits and Fiat Currencies

March 8, 2010 by

There is a definite connection between fiat currencies and trade deficits. Critics of the Federal Reserve are right to blame it for distorting trade flows and setting the US economy up for an inflationary crash. FULL ARTICLE by Robert Murphy

{ 63 comments }

Daniel Kuehn March 8, 2010 at 9:02 am

This doesn’t seem to be a question of the dollar’s status as a fiat currency so much as it’s status as a reserve currency. Would these arguments really apply to a non-national, fiat, reserve currency like SDR’s?

Dick Fox March 8, 2010 at 9:31 am

Bob,

Good article.

This was a primary part of the Reagan Supply Side Revolution. John Rutledge made the argument that if the US were to stabilize the dollar and lower taxes foreign investment would flow into the US and finance economic growth. Keynesians and monetarists argued against this notion and OMB, especially Stockman, resisted because they wanted high tax revenue to balance the budget. They simply did not understand growth and the attraction of a prosperous nation. This has always been one of the greatest assets of the us, you could call it goodwill.

But these same Keynesians and monetarists make the mistake you highlight in your article. Prior to leaving the gold standard they attempted to use tariffs to balance trade. Today their desire is to artifically create a trade surplus through monetary trade wars. This is even codified in the GDP calculation where GDP is increased if exports exceed imports even if both exports and imports crash, a clear sign of world economic contraction.

Nick Bradley March 8, 2010 at 10:16 am

Dick,

Under a gold standard, trade was automatically balanced. A current account surplus necessitated an inflow of gold, which increased the money supply and domestic prices; as a result, imports becoem cheaper and trade zeroes out.

http://mises.org/daily/1955

Dick Fox March 9, 2010 at 8:56 am

Nick,

You either do not understand what I wrote or you don’t understand Polliet. From the article you linked:

The upshot of such an interpretation would be that the United States continues to attract funds from abroad as long as internationally scarce resources are allowed to be used most efficiently.

That is exactly what I said above.

I did not read that Polliet said that under a gold standard trade was always balanced. You misunderstand. The gold standard does work to balance trade but at any given time even under a gold standard trade is unbalanced. But this imbalance is normal and so any efforts to “fix” it simply creates greater problems.

Central Planners have always tried to make trade “more favorable” than the market and, as should be expected always fail. Under the gold standard this was via tariffs, as I said.

Nick Bradley March 9, 2010 at 9:23 am

Dick,

I do not think that you understand. the quote you pulled from Polliet applies to the current monetary regime: as long as foreign demand for us assets is higher than US demand for foreign assets, the US would continue to attract assets from abroad…that’s it.

When discussing the gold standard, Polliet stated that the inflow/outflow of gold that you would see under an international gold standard would make prices correct very quickly and return the balance of trade back down to near zero.

According to Polliet, a nation cannot run large, permanent current account deficits (or surpluses) under a gold standard because the money supply would shrink/expand to correct it.

Take the following case study:

- Assume the US is the world’s best investment climate AND was on a gold standard
- in such a scenario, the US would run a massive trade surplus
- Over time, the US would see a large influx of gold
- This large influx of gold would cause domestic prices to rise, exports to become more expensive, and imports cheaper
- higher asset prices in the US would make the US a less attractive investment climate
- The system balances out.

Mike Sproul March 8, 2010 at 10:03 am

The whole thesis depends on the assertion that the dollar is fiat money. But fiat money is an illusion, like phlogiston, caloric, etc. The dollar, like every other so-called ‘fiat’ currency, is backed by the assets of its issuer, and is valued just like any other liability. This means that the value of the dollar is unaffected by how many dollars lie on which side of the US border. If a share of IBM stock crossed the US border into Mexico, that would clearly not affect the share price of IBM stock, since the value of stock is determined by the company’s assets, and not by how many shares cross a border. The same thing is true of money, so the trade deficit does not affect the value of the dollar.

Nick Bradley March 8, 2010 at 10:11 am

Good article, but you overlooked the role of gold in balancing out trade under a gold standard.

A few years ago, Thorsten Polleit wrote a piece for Mises.org stating that a gold standard makes long-term trade imbalances nearly impossible; only short-term imbalances can exist:

“To better understand why a trade deficit is widely viewed as “dangerous,” it is useful to look briefly at the period when the gold standard prevailed. Under such a monetary regime, countries’ trade balances tended to be zero, with temporary trade surpluses or deficits ironed out over time. For example, think of a country accumulating a trade surplus during this period. It would receive gold inflows from importing countries. The increase in the domestic stock of gold, in turn, would make the domestic money supply “looser,” thereby stimulating output and employment.

The rise in the domestic money supply would then translate, sooner or later, into higher domestic prices, which caused exported goods to be less price competitive and imported ones more attractive. As a result, a country’s exports declined and imports rose. The trade balance “deteriorated,” that is to say the surplus declined (and even became negative), as did the stock of domestic gold (i.e., money); the latter declined to the same extent to which the trade surplus declined. So over time, a country’s trade balance tended to follow along the line of a “zero mean reverting” process.”

http://mises.org/daily/1955

Dick Fox March 9, 2010 at 8:58 am

Nick,

You may not have notice but we are no longer on a gold standard.

Nick Bradley March 9, 2010 at 9:26 am

perhaps you did not notice that the article discussed the differences between a fiat currency’s impact on trade and a gold standard’s impact on trade.

J. Murray March 8, 2010 at 10:57 am

I personally find it silly concerning ourselves over trade balances. In a properly functioning market, a trade imalance that pops up won’t last long. We don’t seem to hear much hooplah over how Oklahoma has a trade imbalance with Texas.

An economy is nothing but a group of individuals. When an individual spends too much and can’t buy all the stuff he wants, he either has to make himself more valuable or buy less. And since economies are just individuals acting in a larger whole, the basic idea doesn’t change. The only real problem when it comes to trade balance issues is when someone is permitted to get something for nothing, which is the foundation of what a fiat currency is. The issuer of the currency gets something for nothing. That’s the trade balance we should concern ourselves with.

billwald March 8, 2010 at 12:29 pm

Since fiat money in the form of electronic transfer has replace gold as money in the ENTIRE world then any effect on trade balance would balance out, pun intended.

billwald March 8, 2010 at 12:43 pm

“I personally find it silly concerning ourselves over trade balances. In a properly functioning market, a trade imalance that pops up won’t last long. We don’t seem to hear much hooplah over how Oklahoma has a trade imbalance with Texas.”

That’s because the American system is based on greed and theft. We elect people to Congress whom we think will get our state a larger slice of the national pie.

Barbarossa March 8, 2010 at 1:17 pm

Mr. Murphy needs to speak with Don Boudreaux of Cafe Hayek, because the latter gentleman, although brilliant, erroneously disagrees with the former’s position.

Barbarossa March 8, 2010 at 1:25 pm

Anyone who maintains that a trade deficit under a gold standard cannot persist for long and is “self-correcting” is either incorrect, since our trade imbalance has existed and indeed expanded for a long time, or must recognize and admit that a trade imbalance under a fiat-currency regime, especially one such as ours in which our currency is the world reserve currency, is qualitatively different from a market-commodity system and CAN result in a perverse, non-productive, and dangerous trade deficit. The trade-deficit apologists are simply WRONG, and I appreciate it that Mr. Murphy has now publicly disputed their position.

Who Knew? March 8, 2010 at 3:33 pm

“The dollar, like every other so-called ‘fiat’ currency, is backed by the assets of its issuer, and is valued just like any other liability.”

You mean if I managed to save up a $1 million I could take those Federal Reserve Notes to a Federal Reserve Bank and demand that they be redeemed in a $1 million in assets? I had no idea!

Mike Sproul March 8, 2010 at 4:57 pm

Now you know. The Fed will give you a $1 million in US bonds for your cash. You can use those bonds to pay your taxes, and if you happen to owe $1 million in taxes, and the IRS is about to take your $1 million house, you’ll find that the backing of the US dollar is a good deal more real than you thought.

Michael A. Clem March 8, 2010 at 5:43 pm

Aha! So the Fed would give me debt for debt. What a deal! What value! What’s the point?

Mike Sproul March 9, 2010 at 1:35 am

Actually, in the example I gave, you can save your house from the IRS either by handing the dollars directly to the IRS or by handing them first to the Fed, then handing the Fed’s bonds to the IRS. The point is that the Fed’s paper dollars can be redeemed at the Fed for valuable assets.

Dick Fox March 9, 2010 at 9:12 am

Mike,

Mike, The dollar is backed by … Uh, the dollar. Now you can trade a dollar for an IOU but that IOU will only give you another dollar because the dollar is backed by nothing but a dollar. The government may give you a bond worth a dollar but once again you are only receiving dollars for dollars.

Now you can use that dollar to pay taxes because the government allows it, but the government will not exchange it for anything other than another dollar or a dollar denominated financial instrument equal to a dollar.

The point is that the FED’s paper dollars can only be redeemened for other dollars in whatever form. If you believe that is a valuable asset then what can I say?

Mike Sproul March 9, 2010 at 11:31 am

You could start by noticing that the dollar is backed by the Fed’s bonds and gold. The bonds are backed mostly by taxes due to the US, and those taxes are backed by the fact the the US will take your house if you don’t pay. Your “dollar backed by a dollar” assertion makes it look like the whole thing comes down to which denomination we choose.

If you really think that modern paper currencies have no backing, and that the central bank’s assets don’t determine the value of the currency, then you should be able to find many examples of central banks that have issued paper money (of positive value) without holding assets against that currency. You won’t find them, because they have never existed.

Eric March 8, 2010 at 9:34 pm

That is like saying I can redeem my $100 fed note for five $20 fed notes.

The problem is what sort of real assets can I get for that $100 fed note. Even if the FED does have assets backing up each note it issues, what is the market value of those assets? When the FED buys up debt that will never be paid back, what is the value of those assets? If the FED tried to sell it’s debt holdings on the open market, what are the chances that it will get all those FED notes back that it originally used to purchase the debt? How much are the toxic assets it recently bought really worth today on the open market?

And if all this is some sort of illusion, then please explain how in the years I was growing up one federal reserve dollar would buy 4 gallons of gasoline and that same dollar today will buy only 1/3 of a gallon, or about 1/12th of what it originally would buy (I grew up in the 50-60s).

Mike Sproul March 9, 2010 at 1:46 am

No; It’s like saying you can redeem your $100 note to save part of your house from the IRS. The backing theory of money doesn’t try to say what the value of the Fed’s assets is. It just says that the value of the dollar is determined by whatever the value of those assets is. If the fed holds assets worth 100 oz of silver, against which it has issued $100, then each dollar will be worth 1 oz. If the Fed then issues another $100, while getting assets worth only 50 oz, then each dollar will now be worth 150/200=.75 oz. Inflation happens when the fed allows its issue of money to outrun its assets.

David S March 9, 2010 at 3:51 am

That makes no sense. Let’s say the money supply is $10T and there is “y” amount of goods in the economy. If the fed buys “x” units of goods for $1T, the total money supply increases to $11T. True, the Fed has more assets, but the total amount of goods, y, has not increased. There are now $11T still with y amount of goods. As the new money trickles throughout the economy, prices will rise as there has been a rise in the money supply but no corresponding rise in the supply of goods. It makes no difference how many assets the fed has.

Mike Sproul March 9, 2010 at 11:40 am

Start by thinking of what happens when a corporation issues new shares of stock. If a firm’s assets are worth $60 million, and the firm has issued 1 million shares of stock, then each share is worth $60. The firm can then issue 1 new share, sell it for $60, and assets rise in step with the issue of stock and the stock price is unaffected. The firm could even issue 1 million new shares, sell them for $60 million, and each share will still be worth $60, since there are 2 million shares laying claim to $120 million in assets. Note that the value of the stock is unaffected even though there are twice as many shares relative to goods produced.

The same is true of money. As a bank issues new money, it normally gets assets of equal value in exchange, and the ratio of assets to liabilities is unchanged. Thus the value of the dollar is unaffected even though there are more dollars relative to the quantity of goods.

If you have to think of it from a quantity theory view, you could imagine that as new money is issued, it displaces barter or other kinds of money, or its velocity slows.

frank March 9, 2010 at 1:11 pm

“The firm can then issue 1 new share, sell it for $60, and assets rise in step with the issue of stock and the stock price is unaffected. The firm could even issue 1 million new shares, sell them for $60 million, and each share will still be worth $60, since there are 2 million shares laying claim to $120 million in assets”

You’re making a fundamental mistake here. The capital value of the firm is not just some value you can assert, it is based on the projected future earnings of the firm. This in turn is based on expectations of certain activity from consumers and investors from a certain structure of productions, consumption patterns etc.

Suddenly selling 1 million shares and thereby depriving the rest of the economy of 60 million of investment it was expecting changes those very patterns and the structure of the economy, so the capital value of the firm is not constant like you assume.

Eric March 9, 2010 at 2:02 pm

The problem is that the IRS (or the Franchise Tax Board in CA) each year increases the amount (in dollars) that I must pay because the value of each dollar has decreased. So, you’re incorrect, that $100 I put under the bed 10 years ago won’t keep the tax man as much at bay as it did 10 years ago.

And you don’t think this has something to do with the ability to keep creating new money that we are forced to use?

If there is nothing wrong with this then how come you and I can’t (legally) do the same thing? Let’s start creating currency with pictures of you and me on them – and then let’s use them to buy things. And oh yeah, anyone that refuses to accept them, we point our guns at them until they comply. And finally, we have to point our guns at all the other posters here that try to do the same thing – unless they start their own country with their own central bank. Then we’ll just threaten wars if things get out of hand.

Mike Sproul March 9, 2010 at 9:03 pm

Inflation results when there is less backing per dollar. That can happen either because the money supply increased faster than backing, or because the backing lost value. The dollar’s backing has obviously not kept up with the issue of dollars.

You and I can legally create money. Say I own land that yields me rent of 50 oz of silver per year. At a market rate of 5%, this land will be worth 1000 oz. If I’m known in town, I can buy groceries by handing the grocer a piece of paper saying “Good for 1 oz. rent on Mike’s land”. People will accept it as money because I accept it for rent. Note that I don’t ever have to pay out an actual ounce of silver for my rent certificate.

I could probably issue something like 600 of these certificates before people started to worry about my solvency, and they would stay worth 1 oz even as I increased their quantity. I could even issue another 100 certificates, use them to buy a government bond worth 100 oz, and still not cause inflation, since the extra 100 certificates are adequately backed by the 100 oz. bond.

Bob Kaercher March 8, 2010 at 5:51 pm

You’re hilarious.
I’ll tell you what: I promise not to steal your car if you buy a pile of my IOU notes. Think of how much better off you’d be with your new “assets”!

Income Tax backs the FRN March 9, 2010 at 4:29 am

and that’s what really “backs” the dollar.

frank March 8, 2010 at 6:40 pm

“..The dollar, like every other so-called ‘fiat’ currency, is backed by the assets of its issuer.”

I’m all for debate but is anyone else ready to puke blood every time they see Mike Sproul spouting this claptrap. It really is tiresome.

billwald March 8, 2010 at 8:09 pm

It is not complicated. The purpose of electronic money and the cash associated with is NOT to provide a means of storing wealth. It is a means of transferring wealth – goods and services. Unless one is a money trader there is no point to saving large sums of money One uses it to invest in real assets.

Let me explain in very simply. All theories of money admit that “money” was invented as a convenience. Money is not necessary to do business. Thanks to electronic transfer it is no longer convenient. Retaining the name, “money,” for the process is the convenience.

Say I buy $100 of groceries from my corner grocer. He knows me so he takes my IOU for $100, knowing that I will pay him on my pay day. The grocer could give my IOU to the guy who delivers milk but the guy who delivers milk doesn’t know me or when I get paid so payoff gets complicated.

“Money” is a government issued IOU that is universally accepted because everyone knows whom the US government is. There is no need for my name to be on them and it doesn’t matter when I get paid. These government automatically created the IOUs when it went off the gold standard and stopped handing out gold in exchange for cash. The same IOUs have been circulating ever since.

The IOUs are worth “the full faith and credit” of the US government. This may not impress you, but so far, the money traders are convinced that the full faith of the US government is worth more than the full faith of GB, Japan, Germany, Spain, Mexico . . . and that is all that matters.

danny March 8, 2010 at 10:30 pm

As long as all things produced are consumed relatively quickly, the idea that money is a “convenience” works fine. However, money is also to act as a store of value. What if I want to store my production to be consumed at some point in the future? Must I keep wheat? Learn how to be an “investor” along with my day job and hope I pick the right stocks?

Why can’t I store value in my money?

What a pitiful society that is incentivized to consume now, and where savings is discouraged. Money backed by nothing (oh, wait — backed by fannie mae bonds and commercial mortgages) is not conducive to a society that saves. A society that does not save will not produce wealth.

frank March 9, 2010 at 5:22 am

“It is not complicated”

What is “It”? What is the point of your post, what are you refuting/correcting?

Peter Surda March 9, 2010 at 8:49 am

The purpose of electronic money and the cash associated with is NOT to provide a means of storing wealth. It is a means of transferring wealth – goods and services.

The only purpose of anything is whatever the consumers want to use it for. Why should one of the purposes have a preference over the other? Why do the hard currency proponents have to finance the fiat currency proponents’ decisions? If you prefer a more liquid currency, get it from a private issuer rather than force it on everyone. However, I expect the hard currency proponents to do the same.

Craig March 8, 2010 at 8:20 pm

To J. Murray:

An economy is nothing but a group of individuals.

I find your post more elucidating than the article.

I would be fascinated to know just why a low-tax environment would trigger an influx of capital goods as opposed to consumer goods, but it’s never explained. That’s not to say that I disagree — just that I wish there were more explanation and fewer assertions.

Many of you, no doubt, have so internalized the theories of the Austrians that it’s obvious. To those of us still learning — not so much.

Anthony March 8, 2010 at 10:09 pm

Low taxes would trigger an influx of capital because it is capitalists who pay the largest share of taxes under progressive tax regimes, and thus it is capitalists who would stand to benefit the most from a reduction in tax.

David Turner March 9, 2010 at 2:51 am

Fiat currency – currency that must be accepted because someone says so, rather than because it has actual value – is morally indefensible. By the way, it also has negative economic consequences, as your article astutely points out.

But a gold standard is a terrible idea. If one had to select criteria for a commodity basis to a currency, here are a few that can be defended: (a) usefulness, (b) liquidity, (c) fungibility, and (d) market-correlated cyclicality.

(a) should be obvious – the currency must be economically useful (rather than just high-priced). (b) goes without saying. (c) is necessary to prevent domination of the currency by producers with a durable competitive advantage (as in oil). (d) is more technical, but boils down to the fact that you don’t want your currency to be overvalued just when your production is down – gold-standard countries discovered that this exacerbates market instability.

Of these, the only one that gold could truly be said to embody is (c) fungibility. So how about a copper standard? Or a wheat standard, for that matter? Both of these commodities satisfy all four criteria.

Why is everyone so hung up on useless, fashionable, rare gold?

cy March 9, 2010 at 10:28 am

You’ve left a few criteria from your “analysis.” For one, durability. Gold is popular because you can basically store it forever. It doesn’t rust or oxidize like other, more commercially popular metals. It also doesn’t rot away, like basically every agricultural product. It also doesn’t evaporate, like oil.

That said, even if these other commodities didn’t face such large durability challenges, gold would still be a superior means of exchange due to its relative scarcity. Think about it: right now you could exchange one ounce of gold for roughly five hundred gallons of gasoline. Which would you rather haul to the market to do some shopping?

frank March 9, 2010 at 12:27 pm

“So how about a copper standard? Or a wheat standard, for that matter?”Copper is much less scarce as cy pointed out. Wheat? Are you joking? You seem to think that we must choose something to be money but must not actually choose it for its suitability as money, but instead for its suitability as something else. This is stupid and nonsensical anyway if we allow the free market to choose what will be money.

“I submit that the high price of gold has more to do with perception than with intrinsic value”.

To see where you’re going wrong, explain what intrinsic value is.

billwald March 9, 2010 at 12:36 pm

You don’t have to accept US money. Your problem will be finding an employer who wants to pay in gold and a grocer who wants to be paid in gold. The bookkeeping for tax purposes would be a nightmare.

Peter Surda March 9, 2010 at 4:45 pm

You don’t have to accept US money.

Well, since I don’t live in the US, I indeed don’t. But I suspect that is not what you meant. I recommend you make yourself familiar with legal tender and Gresham’s law.

Eric M. Staib March 9, 2010 at 4:31 am

“The currency must be economically useful (rather than just high-priced).”

Nothing is high-priced (by the market, anyway) without being “useful.”

David Turner March 9, 2010 at 7:26 am

I disagree. Gold has a high price, but what are its economic uses? Take away jewelry, and you’re left with coating for certain electronics, catalyst in some minor industrial processes, and… ?

I submit that the high price of gold has more to do with perception than with intrinsic value. If we only bought gold because we had something useful to do with it, then its price would plummet. That’s one of the reasons it’s counter-cyclical. A commodity whose value is based on vanity seems a poor choice for the basis of a currency.

anonymouse March 10, 2010 at 5:52 pm

Gold price generally does not rise. It’s value of paper money that goes down. Economic uses of gold? Because of it’s scarcity and long history as money it is great hedge against (hyper)inflation also central bankers all over the world seem to have interest in having some in their reserves. There is no such thing as intrinsic value. Value is highly subjective thing. Don’t confuse value with cost. Precisely because it is used as jewelry it’s great as money because it will always be accepted by rich people (when they satisfy their need for basic goods they go for luxury goods – basic human nature) which in turn tend to be producers of goods.

Vindician March 9, 2010 at 5:11 am

Am I completely missing something, or did Bob cut his example short?

I mean, wouldn’t the influx of capital goods lead to an increased output of consumer goods, which would then be exported from the US, thus offsetting the “trade deficit” incurred by the import of capital goods?

David March 9, 2010 at 9:40 am

“There is a definite connection between fiat currencies and trade deficits. Critics of the Federal Reserve are right to blame it for distorting trade flows and setting the US economy up for an inflationary crash.” If there is a “definite connection” and the critics are “right to blame”, then why is the government or the Federal Reserve going down the path that they are on. I am not an economist and still low on the learning curve, but am confused by the vast differences in the thoughts of professionals in this field. What is the reason that the people in charge continue to repeat the same mistakes the critics say that they are repeating? And, why are the critics not in charge if they understand economic conditions so much better?

danny March 9, 2010 at 10:09 am

“…then why is the government or the Federal Reserve going down the path that they are on.”

Don’t be fooled into thinking that they are working toward your best interests. Events over the last two years should make crystal clear for whom these powers are working. In this light, it is plain why they do what they do.

frank March 9, 2010 at 12:40 pm

“why is the government or the Federal Reserve going down the path that they are on. I am not an economist and still low on the learning curve, but am confused by the vast differences in the thoughts of professionals in this field”

I understand where you are. But the people in charge are not trying to do what’s best for you or me, they’re trying to rise up their own management ladder and pay their mortgages and have a nicer car than next door and all the other things everyday people do. And they are part of a system that rewards them personally for actions that harm the nation/economy as a whole, so some of them simply don’t know. Some of them of course are liars and crooks but not all.

Fractional reserve banking and central banks are a designed to steal money from the public. The first thing you need to get straight if you want to understand this is what money is. Here

http://mises.org/daily/3480

is a good start, and this is longer and more complete when you know more.

http://mises.org/books/moneyproduction.pdf

Good luck

David March 9, 2010 at 4:32 pm

Thanks Danny and Frank,
I will study the sites that you listed. But your comments bring more questions to mind than answer what I asked. Danny, what event are you refering to and how do those events help the ones that are destroying our monetary system? Frank, sounds like those people are wanting the same thing as I am. How is destroying the dollar helping them and the future of their children? Aren’t we all in the same boat economically? Doesn’t destroying the dollar, destroy their way all of our lives, us and the ones your are talking about? Wouldn’t the reward be bigger and better if they did the things that would strengthen the dollar and improve our economy? I am just trying to see the issue from both sides before I weigh in.

frank March 9, 2010 at 6:31 pm

David – i understand your questions but certainly can’t answer them, it’s a reading list you’re looking for rather than a comment on a blog! But asking these questions is the first and probably most crucial step towards answering them. And the answers are on this site and in few other places.

Economics in One Lesson by Henry Hazlitt is also a great intro. If you want something by a non-Austrian economist, Basic Economics by Thomas Sowell is great. But I stress that a thorough understanding of money, as well as free markets, is also essential. If you want to read about money and the federal reserve alongside some 20th history, try The Creature from Jekyll Island by G Edward Griffin.

danny March 9, 2010 at 7:44 pm

Frank is right, you need a reading list.

I will comment on two point:

1) As to the events, bailouts both fiscal and monetary combined with false bookkeeping – allows bondholders and employees to continue on the good times at the expense of 98% of us.

2) The scam – and both purists and moneterists forgive me, it is a simple example for illustration only.

Say the money supply is $100, and it (obviously) suffices as claim on all goods. Some guy at the top creates an extra $2 for himself. The real stuff available to consume hasn’t changed, but he has extra claim on the same stuff. You, on the other hand, can buy 2% less stuff.

It is a nice scam. The guy who creates an extra 2 bucks for himself essentially is taking 2% off the top of every transaction, every dollar saved, etc.

We aren’t in this together. We aren’t in the same boat. There are many who benefit from the system, both monetarily and with power. Most of us just pay.

And their children inherit millions, while yours get….

David March 9, 2010 at 9:57 pm

I am reading now, there is a lot of info so it will take time. The bailouts were a different story than fractional banking. And, I didn’t agree with the government doing that. The bailouts were a big blow to capitalism and caused a number of problems. I understand your example and would agree that if there was a person that could create extra money like your example, that it would make him rich and hurt the rest of us. But it is not individuals that are doing this, it is the government (through the Federal Reserve) so, even if it is right or wrong for the government to do, it is a different ball game. I am getting a grasp of what fractional banking is about but am still on the fence about if it is destructive or helpful for the economy. I do think that there is a large potenial for abuse but it also can be a good tool for an economy to expand. I will keep reading and do my best to understand both sides of this issue. If and when I feel comfortable with my knowledge of the subject, I hope to be able to discuss the issues with you guys on this site.

Alex March 9, 2010 at 10:48 am

People tend to embrace economic theories which align with their philosophical bliefs. If one thinks individuals are stupid and make decisions that are not in their best interests, then one tends to believe that the government should direct economic affairs. Such people then tend to use whatever economic theories align with these biases.

Alex March 9, 2010 at 11:31 am

One point about the article. Under a gold standard, as to whether the U.S. would import capital or consumption goods surely depends upon comparative advantage. If the U.S. has a comparative advantage in producing consumption goods, then it would export those for capital goods; if the comparative advantage situation is the reverse, then the U.S. would import capital goods and export consumption goods.

billwald March 9, 2010 at 12:28 pm

>Why can’t I store value in my money?

If you want to store your money in gold no one is stopping you. Why must it be in the form of government issued coins? You like disks better than bars? But unless there is inflation your gold is not an investment and will lose you any interest you could have gained by not simply storing it.

If you have so much “money” that you you don’t need it, then put your billions in a NUMBERED Swiss account. They will charge a nominal fee to hide it from the Feds.

There is no requirement for using US money for anything but paying taxes and government fees. If you want to use gold or bottle caps for money all you gots to do is find a store keep who will accept gold or bottle caps. As long as the gold or caps are not in a form that looks like government issued money the Feds will not care. Municipalities issue wooden nickels for local promotional reasons.

Peter Surda March 9, 2010 at 1:07 pm

If you want to store your money in gold no one is stopping you.

And if you want a more liquid currency, noone is stopping you from obtaining it from a private issuer either. Why should legal tender laws and central bank force everyone to participate in their ideas of what currency should be?

George March 9, 2010 at 2:01 pm

“If you have so much “money” that you you don’t need it, then put your billions in a NUMBERED Swiss account. They will charge a nominal fee to hide it from the Feds.

Read more: Trade Deficits and Fiat Currencies — Mises Economics Blog http://blog.mises.org/12103/trade-deficits-and-fiat-currencies-2/#comments#ixzz0hhvpG6rU

I thought this was now being cracked down upon?

billwald March 9, 2010 at 4:10 pm

As I understand it, with a numbered account the bank doesn’t know who you are – the origonal ‘don’t ask, don’t tell policy.” The bank deals with anyone who knows the number. They can’t tell the IRS what they don’t know.

billwald March 9, 2010 at 1:36 pm

A SHARE of stock is worth only what someone will pay for it. The good people at GMC and Chrysler can explain it.

The capital value of a company is the plant, machinery, patents they own. Future earnings is speculative. In the case of a company which has no track record of turning a profit, a crap shoot.

Mike Sproul March 9, 2010 at 2:07 pm

Yikes! See if you can find a finance/econ professor who will explain about the present value of future earnings, and how that determines stock prices in a risky or riskless world. You obviously won’t take my word for it.

billwald March 9, 2010 at 4:07 pm

I understand the theory but the stock market has been turned into a computer contest by technical traders. Not complaining. My guy is doing just fine for me.

frank March 9, 2010 at 6:39 pm

“The capital value of a company is the plant, machinery, patents they own”

Er, okay, how do we value the “plant, machinery, patents” then if not on what they can earn us in the future?

Eric March 10, 2010 at 2:58 pm

Mike says: “You and I can legally create money”

You are ignoring the legal tender laws. Your creation of “mike’s notes” can be discounted (or the reverse) depending on the market value of the notes. That’s not legal tender money. You cannot force me to accept them at any particular value you choose to give them.

In addition, suppose I hold on to your note for say, 10 years and then trade it. I will have to compute the value in dollars of the note ten years ago and the present nominal dollar value of that note. Then I must pay a capital gains tax on the increase in the nominal number of dollars that this note is now worth. This is true even if I merely trade it for the said rent since that rent will be appraised by the IRS and I will be given a bill for capital gains taxes.

And if you think you can just willy-nilly create money without any consequences, go talk to the people who were creating the Ron Paul Dollar.

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