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Source link: http://archive.mises.org/8932/monetary-freedom-and-its-opposite/

Monetary Freedom and Its Opposite

November 12, 2008 by

As we enter the era of decline for the dollar all sorts of reforms will be used to address this decline and the economic instability it causes. However, reforms designed on Wall Street or in Washington will not work and will amount to nothing more than rear guard action by the moneyed interests that control the government.

The only true path to reform is monetary freedom. FULL ARTICLE

{ 25 comments }

MIchael A. Clem November 12, 2008 at 9:12 am

Radical stuff! Others may quake in their boots at private money, but it’s the only sure path to security and stability.

greg November 12, 2008 at 9:52 am

Radical to say the least. I suggest you take all of your cash and buy gold ingots ranging from 1/4 ounce to 1 ounce. Then go out in the world and trade them for your goods and services. That is your choice and you are not stopped in doing so. If you think the economy is going into hyper-inflation, then having all of your cash in gold will be a smart move. Then again, you may have done so already and you need a policy like this to create a demand for gold and then the price will go up. With gold trading at $718 today it will not see any noticable increase unless the use of gold is expanded. You will see short term bumps with speculators moving in and out.
Anyway, in our current society, you can do what ever you want. And if you are a big winner with your direction, others may take your lead.

Michael A. Clem November 12, 2008 at 10:10 am

Greg, you don’t get it. It’s not money unless other people accept it in exchange for goods and services, and very few people accept gold at this time. Right now, besides its actual uses in industry and jewelry, gold can only be an investment, not money.
Furthermore, if you did try to use gold as money, and managed to get others to accept it, the government might still try to prevent its use. Remember what happened to the makers of the Liberty Dollar?

Eric November 12, 2008 at 10:27 am

“Banks and depositors can overcome this problem simply by being certified as holding 100% reserves against all their demand deposits.”

Perhaps you could explain to me how any credit will flow in a system with this structure? For instance, do Banks move deposits (liabilities) from “deposit” classification to some other sort of liability against which depositors cannot ever draw (until the credit is repaid, of course)? Do you do this on a depositor-by-depositor basis? With this certification, how does credit not become more expensive than it is today? In other words, with 100% “deposit” (actual deposits less the “some other sort of liability I described above) coverage, do depositors effectively control the rates charged for credit because their individual deposits totally lose control over each deposit dollar they allow to enter the stream of credit. Or do the depositors cede control over rates charged to bankers, where these bankers take $1 away from the control of the depositors for a given period of time and decide how much to charge the debtor in interest for the use of the money? Do depositors sign agreements with the banks/bankers indicating they relinquish control over a certain amount of their deposit dollars for a certain period of time – and also relinquish control over the PRICE/COST? This seems to me to be a double-edged sword that will drive up the price of credit and slow credit markets that do drive a market economy (and an unregulated market economy is near and dear to my heart). The double edges of the sword are:
1) Depositors cede control over a certain amount of their deposits for a certain period of time. When they need cash in excess of their deposits, they are forced to use the credit markets.
2) The depositors cede control over the price of their use of dollars to bankers, which a market economy should be able to control at market rates. Nevertheless, the total size of the credit markets can now never be any greater than the total savings deposits in banks.

Effectively, you have shrunk the money supply.

greg November 12, 2008 at 10:51 am

I get it. The trouble with a currency is when the base metal is worth more than the face value of the coin. You can use a currency that has a face value of say $20 and you are free to buy anything you want up to $20. But if the base metal of the coin is $100, then you need a system to weigh and measure in order to get $100 worth of goods. Or you just give them $100 worth of gold for $20 worth of goods. Furthermore, you have the problem that the base metal changes minute by minute which adds more complexity to the issue.
The whole system would be very complex and actually add cost to every transaction to insure that every coin you use is the proper weight and purity. In a system like ours today, added cost will greatly inflate the price of goods. For example, an item today that cost $1.50 to manufacture must retail for $12 to cover cost of transportation, sales reps, wholesalers, distributors and retailers. Each of these levels has money changing hands and if you are using a currency that is tied to the base metal for its value, you add another cost to each of those transaction.
I operate in the real world and you are never going to see gold coins used. You too operate in the real world and you are free to invest accordingly. And if you want to buy gold up to the $2000 an ounce that the guy on the TV ad says gold is heading, I say go for it. I need some movement so that I can buy more puts.

Michael A. Clem November 12, 2008 at 12:02 pm

I don’t think you do, Greg. Money is anything that most people willingly accept for indirect exchange. Historically that has been metal commodities like gold, silver, and copper, and for good reasons–the complexity you mentioned didn’t stop them in the past, and there’s no reason such complexity is inherent or inevitable. Nor is there any particular reason for the added costs that you talk about, certainly nothing like the cost of a central bank that continually inflates the money supply and erodes the value of your Federal Reserve notes.
Sure, you can buy gold as an investment, but actually using gold as money in today’s society is problematic for legal and political reasons, not for economic reasons.

Joe Stoutenburg November 12, 2008 at 12:07 pm

Greg, I’m not sure that you do get it. Why are you referring to gold as money still in dollar terms. Instead of referring to $100 and $20 amounts, I’ll replace your example with pertinent figures.

Suppose that gold is money and that the most basic coin is a half ounce coin. Suppose further that gold has the buying power as represented by its price in dollars. Therefore, a half ounce coin would buy somewhere around what $350 in current currency would purchase. Clearly, we can not carry on normal economic activity with this currency. What, oh what is the poor free market to do?!?

I’ll only give the ideas that are obvious to me. A central feature of “free markets” is that everybody participating in the market has the opportunity to come up with solutions. If an entrepreneur’s solutions are widely accepted, he is rewarded with profits and given more influence. There is no telling what innovations the combined effort of all market entrepeneurs would generate to enable money to enable commerce.

Now, to my ideas:

1) Mint smaller coins. If we insist upon gold as our only currency, we would have to create coins of weight less than 1/700 of an ounce to match the buying power of $1. Clearly, we are limited in this route.

2) Use less valuable materials such as silver or copper. For smaller purchases, less valuable coins could be used. The value of these coins relative to more precious coins would be determined by market participants’ subjective valuations along with all other prices.

3) Issue notes redeemable for very small amounts of the base metals. Go ahead and issue a note for 1/700th of an ounce of gold. Where is the problem?

You are right about one thing. Monetary issues are complex. What is it about government that makes you think that it is equipped to deal with the complexity???

Joe Stoutenburg November 12, 2008 at 12:22 pm

Eric wrote:

Perhaps you could explain to me how any credit will flow in a system with this structure?

In a 100% reserve banking system, credit could only be found by locating people willing to lend actually hard money. For instance, if you are planning on a project that requires 1,000 ounces of gold, you would have to find someone (perhaps the intermediary of a bank or other similar institution) who is willing to give you actual possession of that much gold today in exchange for certain future considerations in the future.

Alternatively, I see no reason why a free market banking system couldn’t instead offer credit based upon other assets that it could convert into the required amount of base money. For instance, if you have unencumbered ownership of property that the bank is reasonably sure could be sold for 2,000 ounces of gold, it might be willing to issue notes redeemable for 1,000 ounces of gold. As long as it builds into its contracts provisions to allow it to delay certain redemptions in order to enable it to sell the lien on your property, there is no problem.

Credit could flow in either system. If the market (or people who wish to restrain the market – apparently including some Austrians) requires a 100% reserve, I think that we’d see relatively high interest rates to induce lending while prices remained low. A market that allowed the creation of credit on less than 100% reserves would certainly see lower interest rates offset by higher prices (relative to what they would have been with a 100% reserve).

The key that we should require is that any monetary institution be allowed to develop based upon the voluntary decisions of market participants. Legal tender laws along with all other government interventions need to stop.

Jeff Herron November 12, 2008 at 12:38 pm

So how many actually follow Thornton’s advice and hold their savings exclusively in gold, silver, and other “money metals”?

I’m relatively new to the Austrian approach, but it is very appealing to me. I am curious how many of its adherents put their money where their mouths are.

Dr. Mark Thornton November 12, 2008 at 1:56 pm

I can tell you that Thornton doesn’t keep his saving exclusively in precious metals!

FYI: I have not been invested in stocks for over a year (Sept 07). I have always been invested in metals and continue to add to my holdings. I also hold funds in “cash” and some bear market investments.

Your best investment is ticker symbol LvMI

Dave November 12, 2008 at 2:16 pm

Gold coins are preferred and authors on this site refer to how gold was used successfully in centuries past, minus government intervention (http://www.iappm.org/member.php?mId=466).

RE: the Murray N. Rothbard chapter above, how did these 18th century British merchants acquire the gold/silver? Who was mining the material? Where was it mined? Columbus’ crew massacred huge numbers of native people in pursuit of land/gold. What is the legacy of such a monetary system in which those who enslave/kill in the name of acquiring silver and gold become our trusted bankers?

Mostly, I want to understand why we need gold/silver to back up money. These metals reside in hard to reach places and have no biological value — except that someone decided they’d make good currency.

If you can explain this, or point to a good explanation, i would appreciate it.

Thank you very much!

fundmentalist November 12, 2008 at 2:20 pm

Eric, You’re right. I meant in theory fiat money can increase at any rate. And it has in the past increased at dramatic rates. But thanks to Friedman central banks are more afraid of high inflation these days.

Mark Humphrey, I agree with Dr. Reisman completely. It’s a complicated issue because so many things are happening at once. Rothbard focuses on time preferences, Dr. Reisman on wasted wealth. Both of those happen with fiat money and not with an increase in gold. However, Hayek adds more variables to the equation. An increase in gold that is saved will cause an increase in loanable funds. Those funds will increase investment and consumption at the same time as interest rates fall (New workers hired by the increased investment will consume more, too). But as Hayek and Mises point out, the rise in consumer prices will always lead the rise in capital goods prices, making profits higher in the consumer goods industries. Higher profits cause a shift to consumer goods industries at the expense of producer goods. Also, higher consumer goods prices are the same thing as lower wages and those cause the Ricardo Effect to kick in. Finally, higher prices for raw materials eventually squeeze producer goods makers on both sides and cause business failures.

I don’t see how gold would differ from fiat money in the variables considered by Hayek, except as a matter of degree. The business cycle would be much smaller and shorter and you wouldn’t have major shocks to the money supply as you have with the Fed. Gold money would be much more predictable because you could keep track of production of gold before it became money.

Som November 12, 2008 at 3:35 pm

Some people on this blog have said that other precious metals can be used for smaller units of gold that are difficult to monetize just by using gold. For example: If gold has a value of $1000 per ounce, then a copper coin could be used to denote to a dollar’s worth of gold.

I have to disagree on this one.

The assumption here is that there is a constant fixed ratio between gold and other precious metals. A simple thought experiment refutes this assumption. Lets say a pure ounce silver coin denotes a 1/2 ounce of gold, as determined by the current supply of both metals that there is twice as much silver as there is gold. If 2 million tons of silver were suddenly found under Alaska, the ratio will change, and not enough gold will be there to redeem claims on silver coins. These types of “fluctuations” happen all the time. Only one metal can be used as a monetary base to work consistently.

Other than that, banks will have to issue notes for small units of gold (if deflation is gradual, and population growth is still occurring) that can be fully redeemed for that specific amount. Trying to fix coins under 2 different metals will make pricing difficult over time. Isn’t this what bimetalism was all about?

greg November 12, 2008 at 3:43 pm

To all of you that don’t think I got it. Go out and buy a gold coin and sell it the next day. You will get a lesson in the cost of margins, manufacturing the coin, distribution and handling charges.
Here is the facts: A 1 ounce coin or ingot will cost you $798 today. The spot price of gold is $715 and ounce. The price you will get for your gold coin is in the $690 range. So basically you lost $108. This is the cost of using gold. And because of this 12% transaction cost, look to pay more for your goods and services when you pay in gold because the vendor needs to pay for his handling cost. It does not matter what you call your currency, this cost to manufacture coins remains and the price of the base metal will always flucuate in the futures markets which will constantly maintain a margin between the buy and sale price of your coin.

Fephisto November 12, 2008 at 4:37 pm

Joe Stoutenburg:

Dammit, start up the next Liberty Dollar mint already! And could someone get a few goldmoney.com’s going?

Come on, where are the entrepreneurs? :(

greg November 12, 2008 at 5:25 pm

Start a mint? I hate to rain on your parade, but that is a poor business. Here is the problem:
1. It cost $520 an ounce to mine gold today (average price for the largest mining companies).
2. Add cost of manufacturing and distribution.
3. Add the cost of holding and maintaining an inventory.
4. Add the cost of dealers.

The cost of a gold coin should be at least $1040 an ounce at retail which is allowing for a 50% margin from mining to retail which is not good! In reality, the cost of the gold coin should be $2080 at retail to pay proper margins to all those involved.
If you think those numbers are out of wack, apply oil to the retail model. It cost about $7.50 a barrel to produce Saudi sweet and it sells today for $55 a barrel. Basically they can make money at $40 a barrel and that maybe where it is headed.
To conclude, there are not anyone minting pure coins because there just isn’t the profit in it. So if you are looking for a profitable mint, go for the one that makes the gold plated coins with Elvis on the face.

Jeremy November 12, 2008 at 11:35 pm

Greg,

All you need is an electronic system based on 100% reserves and constant audits to make sure the gold is there.

You would trade in ownership of tiny fractions of an ounce of gold – and yes, there would be a small percentage fee for storing your gold, but the rate of reduction in your purchasing power would be far less than under our current fiat money standard.

I’m confident the free market could come up with such a system… oh wait, it already did (www.goldmoney.com)

And since it would be used as money, not another good as it is today, there would be no extra markup or markdown that you allude to.

Fundamentalist – ABCT is based on the fact that the lowering of interest rates below what they would have been in an unhampered market causes investment to shift to higher stage capital goods. That means that ‘producer’ goods rise in price relative to consumer goods.

When the inevitable correction sets in, it is then and only then that consumer goods rise in price relative to producer goods (or put more accurately, the ‘higher up’ the goods are within the production process, the more in price they will fall relative to goods lower / closer to consumption in the production process once the downturn sets in).

greg November 13, 2008 at 7:37 am

Jeremy
As you spend against your reserves, those reserves will need to be transfered. There will be a cost associated with that.
The idea that margins between buying and selling gold will close is completely out in left field. And by some wave of the market hand a person could mint coins or ingots and sell them for close to the spot price is even farther out in left field. You must understand there are cost of manufacturing that must be covered like rent, tooling, dies, labor, utilities, interest, taxes, licenses and a whole host of other cost. Then, as a manufacturer you need dealers to sell your coins through unless you want to set up your own sales force.
Bottomline, you can’t by gold at spot and mint it into useable units while keeping the finished price close to spot. And you will need smaller units because in your electronic transfer world, you can not add and subtract in $71,500 blocks.
Don’t confuse money with gold coins. Money has a face value that is set and is subject to small moves. Gold is a commodity where the value is set by the market and is subject to great moves in price. To explain this in the real world, try getting a price for an ounce of gold you want to sell. That price is not posted anywhere, you must call a dealer for the latest price.

Joe Stoutenburg November 13, 2008 at 9:05 am

Greg:

In quantitative finance, practitioners refer to monetary units of measure that we term “numeraire”. The problem that we have communicating is that you insist upon using the fiat dollar as your numeraire.

Forget the dollar. In the economy that we are proposing (admitting that for the moment it is unattainable), there are no dollars. There is only gold.

Your points about the costs to maintain a gold-based economy are spot on. However, one could deduce from your arguments that there is no cost to maintain our current monetary system. Of course, this is not true. The mere printing of paper money or minting of government coins requires real resources in terms of machinery and labor. I don’t know how these costs are realized. Whatever it may be, once the currency is in circulation, relative to itself there is no transaction cost for small transactions (the numeraire relative to itself is always riskless and without transaction cost). However, there are still expenses for maintaing the monetary system thereafter. We require systems and people for clearing checks, for managing credit card transactions and for physically transporting hard (sic) currency.

Participants in a free market will naturally do things to lower costs and so obtain a competitive advantage. There is no reason to believe that we would forfeit practices that we use today to lower costs if the banking system were changed to a gold standard.

Regarding the cost of minting, I’m guessing that only a small amount of gold would actually be minted into gold. You might see institutions holding raw gold as reserves. The market could deal with the convertibility between unrefined gold and minted coins.

Joe Stoutenburg November 13, 2008 at 9:12 am

Som wrote:

The assumption here is that there is a constant fixed ratio between gold and other precious metals.

I actually tried to explicitly make clear that I do not make that assumption. To quote my prior post:

For smaller purchases, less valuable coins could be used. The value of these coins relative to more precious coins would be determined by market participants’ subjective valuations along with all other prices.

Some economists have opined that the fluctuations between the different forms of commodity money will tend to lead toward one dominant form. While this may be true, there is every reason to believe that market participants could accept competing forms of money. What is needed to avoid problems is to not allow coercive institutions to fix the relative prices of the currencies when they do fluctuate.

Michael A. Clem November 13, 2008 at 9:33 am

And because of this 12% transaction cost, look to pay more for your goods and services when you pay in gold because the vendor needs to pay for his handling cost.
That’s cheap compared to how much inflation is costing us in our current system! But you’re also overlooking economies of scale. The cost of producing gold coins today is due in part to the small investment niche that it provides for. If everyone used gold as money, then the costs involved would decrease because of the larger quantities involved. Furthermore, other innovations could be utilized. We might use gold certificates instead of gold directly. Private markets have incentives to make improvements that governments lack, and this would be as true for money as for any other good.

Joe Stoutenburg November 13, 2008 at 9:37 am

Fephisto:

If you mean to criticize me for being all talk and no action, I will respond that I am properly chastized. It’s easy to talk. At some point, action is required. Those of us who love liberty and desire it in banking should watch carefully for opportunities as fiat currency comes more and more under pressure.

In addition to the typical concern of would-be entrepreneurs of providing adequately for ourselves (would I have to foreit my salaried income to pursue a risky venture?), we must also consider the possible response that the government would present to direct challenges to its money. References to the Liberty Dollar are not reassuring in that context.

With a healthy repsect for the risks, we should seek for opportunities that could both enrich ourselves while generally benefitting society.

Som November 13, 2008 at 6:53 pm

Joe,

“For smaller purchases, less valuable coins could be used. The value of these coins relative to more precious coins would be determined by market participants’ subjective valuations along with all other prices.”

Granted I may have been too quick to overlook this quote on the assumption I pointed out, but the only way I could see your idea working is if gold and silver were neither set on a fixed “price”. There won’t be any “prices” on precious metal coins but just physical amounts. There wont be a $700 one ounce coin label on a gold coin just the one-ounce part. This would allow for fluctuations between precious metals (e.g. on Monday 20 ounces of silver is worth an ounce of gold and on Thursday it could be 24 ounces of silver to an ounce of gold.) perhaps a bank note system such as dollars and cents could make pricing easier as a compliment to the precious metals circulating (but the amount of dollar notes is fixed solely on one metal – probably gold). It’s certainly possible and useful, but that’s the only way I could think of multiple metals being used as circulated money in a community.

“Some economists have opined that the fluctuations between the different forms of commodity money will tend to lead toward one dominant form. While this may be true, there is every reason to believe that market participants could accept competing forms of money.”

I generally agree, under the conditions I stated above.

“What is needed to avoid problems is to not allow coercive institutions to fix the relative prices of the currencies when they do fluctuate.”

Strongly agree. Destroy the legal tender law and the compulsory school attendance laws, and the state will be dismantled left with no legs to stand on.

Jeremy November 14, 2008 at 1:53 am

Greg,

You said:

“As you spend against your reserves, those reserves will need to be transfered. There will be a cost associated with that.”

The gold doesn’t necessarily have to be transferred at all. All that has to be transferred is ownership of it, which can be done electronically. This cost wouldn’t be any greater than what is currently incurred with debit cards today PLUS a small annual (likely percentage) fee for the warehouse based on your average daily holdings over a year (or some such calculation). Yes, there would be a cost to store your gold, but so long as you were willing to keep it at a fully audited warehouse (where you could go get it at any time if you wished to do so), there would be no additional cost than what we see today.

Another point you made is this:

“The idea that margins between buying and selling gold will close is completely out in left field. And by some wave of the market hand a person could mint coins or ingots and sell them for close to the spot price is even farther out in left field. You must understand there are cost of manufacturing that must be covered like rent, tooling, dies, labor, utilities, interest, taxes, licenses and a whole host of other cost. Then, as a manufacturer you need dealers to sell your coins through unless you want to set up your own sales force.”

Again, the warehouse already is holding gold for you. Sure, some part of the purchasing power of the gold you own would be increased by the additional costs of manufacturing and distribution, but there is no reason to assume that there would be any additional spread involved in transactions (beyond the electronic costs that retailers already bear for debit and credit cards). Is there a huge spread on buy and sell bids for GLD or SLV? No, there’s only a small spread and a small trading fee if you are a large enough brokerage (large trading fees only apply to small individual investors). That’s basically what happens when you use a debit card or credit card, and the merchant pays for the spread.

Why would it be any different in the system I describe? (Apart from the warehouse fee to hold your gold?)

Joe Stoutenburg November 14, 2008 at 8:41 am

For what it’s worth, the bid-ask spread of GLD is about $0.04 around a mid market price near $73.50. The bid-ask spread for SLV is about $0.02 around a mid market price near $9.50.

[Source: Bloomberg]

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