Antal Fekete at The Daily Bell

DB: This is a great interview with Professor Fekete because in it he abandons some of the vocabulary that tends to confuse people who don't have a sufficiently high intellect to understand him, which means almost everybody.

BM: Agree, speaking as one of those who doesn’t have sufficiently high intellect.  Fekete also did a good job of remaining on good behavior.

AF: World trade is facing an avalanche-like transformation flattening out monetary economy into barter economy.

BM: If true, the majority of the population in developed economies is done for. 

AF: Gold is a monetary metal due to the fact that its marginal utility declines at a rate lower than that of any commodity.

BM: But, admittedly, it does decline.

AF: For this reason gold does not obey the Law of Supply and Demand.

BM: Fortunately, this was stated simply enough for me to understand.  It is statements like these that cause me to look askance at Dr. Fekete. 

Gold has been in the market for thousands of years – has no economist before ever noted that the law of supply and demand is not applicable to this commodity?

All commodities, including money – the most marketable commodity – are subject to supply and demand; if not, how could money be money?  Fekete even suggests that gold has a declining marginal utility.  It does not have a constant marginal utility. It is subject to supply and demand.

AF:  My own position is that manipulation in the gold and silver markets, if that's what's been occurring, is far less important than it is made out to be by market observers.

BM: Agree.  It is difficult to even understand what market manipulation means when every financial market is subject to the non-market backstop of central banking and state-regulation.  All markets are manipulated – there is nothing terribly special about the gold market manipulation.

AF: I don't have much respect for Hayek's position that choosing the monetary standard should be "left to the free market". The market has already spoken.

BM: Then there is little to fear.  The only way to ensure a sound financial system is to allow the market to speak – any other avenue is central planning, and this cannot stand because it suggests no foundation of understanding by market participants.

AF: The value of gold, like the length of the yard, is not subject to individual preferences or to market forces.

BM: On this, I will simply disagree.  Suffice it to say, if this was true, everyone would clamor to own gold, regardless of price (and yes, I am differentiating “price” from “value”).

AF: Instead of saying that there is too much or too little gold, it would be more accurate to say that the rate of interest is too high or too low.

BM: I appreciate the simplicity by which this way of looking at it is stated.  I suspect there may be some differentiation (are long-term or short-term interest rates applicable?), but as far as the statement goes, it is outstanding in its simplicity.

AF: We may recognize ZIRP (Zero Interest Rate Policy) of Bernanke as an imitation of the scheme of Gesell.

BM: This is quite correct, and Bernanke has implemented greenbacker policy – the state is issuing the money to fund the state’s spending, at virtually zero cost.  For this reason, Brown turned from being a critic of Bernanke to a fan. 

Further, Fekete’s criticism of Gesell’s Freigeld theory is sound.

AF [regarding “Real Bills”]: This is not inflationary because the ephemeral cash arises together with the rise of the new merhandise in production, and it expires simultaneously with the removal of the merchandise from the market and with its disappearance in consumption.

BM: It is most certainly inflationary to the money supply, therefore it is distortive; it may or may not be inflationary to prices.

AF [regarding the state as necessary toward the market for “Real Bills”]: Absolutely not.

BM: Thank you!  I agree, the state is not necessary, and it is reasonable to expect that such a market would come forth naturally, through the actions of market participants.

AF [regarding state-mandated accounting standards]: If the government can make them, it can also scrap them, it can ignore them overtly or covertly.

BM: Thank you, again!

AF [regarding why the Rothbardian Austrians are dismissive of the “Real Bills Doctrine”] The Real Bills Doctrine is a thorn in the flesh of the Quantity Theory of Money to which the Rothbardians are uncritically committed.

BM: This comment confused me more than anything in the interview.  The Rothbardians are uncritically committed to the subjective theory of value.  How then can they also be uncritically committed to the Quantity Theory of Money?  Somewhere, there is confusion.

In any case, I believe the Rothbardian criticism is due to the fractional reserve nature of real bills.  That real bills are fractional reserve is without a doubt – Fekete even says so, in his reply to the Rothbardian criticism of fractional reserve banking, when he writes:

“Fractional reserve banking is fraud, in whatever shape and form it may come – they say. However, there is such a thing called self-liquidating credit that Rothbardians refuse to recognize. It is represented by real bills covering goods in most urgent demand and moving to the ultimate consumer with all deliberate speed.”

AF: The demise of the system of irredeemable currency is a foregone conclusion. Not only is it illogical; it is also immoral. A free society cannot be built on a coercive basis. Moreover, the regime of irredeemable currency is incompatible with the ideal of limited government.

BM: The truest words spoken in this interview.  A fabulous statement.

Color me Confused

Joe Salerno has written an article entitled “The Flipside of the Trillion Dollar Coin.”  From the first time I read the article, I have struggled with many of his conclusions and statements – both on monetary issues, as well as political issues.  You can see a small taste of my confusion in the comments section, for example, Salerno’s comments as basis for my initial question at the site:

When new money is injected into the economy via open market operations, as it is today, it expands bank reserves….In contrast, when the Treasury creates money it does so by writing checks for bureaucrats’ salaries, for entitlement payments, and to pay vendors for government purchases.

I thank vikingvista for patience in replying; however I remain unsettled regarding his replies.  As most (but not all) other comments seemed to be supportive of Salerno’s views, I have decided not to clog the thread up further with my confusion.

Additionally, I struggle with Salerno’s political conclusions as well, for example:

Last but not least, as an adjunct of the Treasury, the Fed would no longer function as bailer-outer of last resort…. A partisan Treasury under the watchful eye of the congressional opposition and in full view of the public will have to make these decisions.

In my ongoing struggle with many of the statements in this article, I have decided that the initial question (as well as follow-on questions) I asked at the Mises site, as well as the political point raised above are of secondary importance.  I will come to address these later in this article, however I would like first to focus on these two points made by Salerno that most color me confused:

Thus, at a given level of government spending, siphoning off resources from the private economy via deficits financed by money creation is no worse than extracting them through taxation….As outlandish as the idea of the $1 trillion platinum coin at first appears, it gives us a glimpse of a monetary arrangement that, although far from ideal, is superior to the current system.

I am confused by both parts of this: 1) between these two alternatives, I believe the method that government uses to extract resources does matter, with money creation being worse than taxation, and 2) if offering for the dollar relatively more credibility is of value, the realities of politics would make this system inferior, not superior.

The system that is behind the idea of the trillion dollar coin is one of money creation from nothing, just as the Fed does today, but with two twists: a) not brought on via debt, and b) controlled by the Treasury Department as opposed to a supposedly independent central bank. Salerno is arguing that inflation (of a slightly different sort than that which exists today) is better than deficits paid for or financed with actual production.

Many propose this today (most famously Ellen Brown), and I have always viewed it as a step in the wrong direction from current methods (although it would likely bring down the dollar even faster, if that is what you like).  Salerno is suggesting it is a step in the right direction, a system “superior to the current system.”  I am reeling….

More on the Trillion Dollar Coin

Joe Weisenthal is out with another column on this issue, entitled “Why The Fight Over The $1 Trillion Coin Is The Most Important Fiscal Policy Debate You'll Ever See In Your Life.”

He might be right, but I suspect not for the reasons he believes.  He is right because there are NO important fiscal policy debates, so ANY fiscal policy debate will be the most important one.

As Jonathan Chait at NYMag observes, what's interesting is that there are very few good arguments, legal or economic, against minting the coin.

Well, there is one economic argument.  As to legal arguments, as government employees have made clear that whatever government employees do is legal, he is correct.

Most of the critics' arguments basically boil down to: It's just not serious, and it would make the US monetary and political system look like a farce.

I don’t know if it is serious or not.  And it can’t make the system look like a farce – it already is a farce.  But what it can do is make the farce evermore obvious.  This will certainly bring the farce to sooner end.

But contrary to all these people who say that this is a childish, non-adult proposal put forth by impish trolls, it's actually quite the opposite. It may be the most important fiscal policy debate you'll ever seen in your lifetime, because it gets right to the nature of what is money.

It may further expose the debate of what is money, but the debate has gone on for centuries.  On the one hand, money is a commodity with some very specific attributes, chosen in the market.  On the other hand, money can be created from nothing.

The problem is that the second proposition – money from nothing – has already won the debate, at least in the last one hundred years and at least for a time.  There is no debate about this among “serious” economists.  The only debate is because of that Ron Paul fellow and his Australian school, or whatever.  But for some reason, Weisenthal thinks producing this coin is somehow different than the Fed producing digits.  Only in form, not in function.

Almost everyone talking about fiscal policy imagines money to be a commodity of sorts that we can "run out" of if we don't spend it carefully.

As long as money is produced in a free market, the economy will not run out of it.  supply and demand, if left free, will ensure this.  Those who recognize money is a commodity understand this.

In this sense, although we've long gotten rid of the gold standard, we're still shackled with a gold standard mentality, where we think of money as a scarce natural resource that we need to husband carefully, lest one day the bond vigilantes show up at our door, causing us to go broke.

Weisenthal will come to eat these words, with or without this trillion dollar coin.

He finds flaw with those who complain that the state is just “creating” money:

Creating money is exactly what government does. What's absurd for a private business is not absurd for the government.

As John Maynard Keynes simply put it a long time ago: "Money is the creation of the state."

That the state creates the money we use is actually known to just about everyone, but people have a hard time making the key leap, which is that once the state is in the business of creating money, then the old gold standard notions of monetary scarcity don't apply in the same way.

The issue isn’t monetary scarcity – central banking has temporarily relieved us from this reality; the issue is scarcity of goods and services.  The world is a world of scarcity, at least since Adam and Eve got the boot.  All the dreams and wishes of do-gooders, political schemers, and economic quacks cannot change this.  Have the state create all the so-called money you want – this will not end scarcity, but only further exaggerate the deterioration of wealth.  Witness the last five years.

Stephanie Kelton, an economics professor at the University of Missouri Kansas City and one of the earliest defenders of the coin, explained via email:

Until the idea of minting a $1 trillion coin became a reality, most people probably never gave much thought to the government’s financial operations.  We understood that the government spent money, and we knew the money had to come from “somewhere”, but we assumed there were limits to how much the government could afford to spend. 

Chits in one pile, the stuff the chits buy in another.  Increasing the number of chits doesn’t change the second pile.  The issue is an issue of claim on resources – real stuff.  Creating money from nothing does nothing to create the real stuff money buys.  And since government and its minions won’t be limited in this, guess who will receive the blunt end of the stick in the gut?

Enter the coin.  An idea so simple the mind recoils.  The Treasury has the power to end-run the process by cutting out the middlemen – taxpayers and bond markets –simply directing the Federal Reserve to add some numbers to its balance sheet.  Saints preserve us! 

He’s right, the mind does recoil.  The saints won’t be able to preserve us.  This is greenbacker stuff – Ellen Brown is joyful, I suppose. 

Weisenthal’s complete ignorance comes out in his conclusion:

Remember, money is a fiction. Real wealth is capital assets, our infrastructure, our cars, our houses, and most importantly the potential human ingenuity and cooperation. Money is just something that the government creates to facilitate the trade in all of those things.

Human cooperation.  Weisenthal is so close to the truth yet remains blind.  Money (to include currency and credit) is what makes possible the division of labor – this is the ultimate form of human cooperation.  This cooperation allows for the standard of living we enjoy via the resulting labor specialization. 

Debase the money by making it of no value (any good that is not scarce is not valued), and you will deteriorate the division of labor.  Deteriorate the division of labor, and real wealth – not in nominal-money terms, but as Weisenthal describes it – will be destroyed. 

Imagine a world with a much lower division of labor: it is certain that most of us will not remain alive for very long.  But those who remain will all be fully employed as farmers.  It is for this world that Weisenthal is advocating.  At minimum he is advocating for hyper-inflation.  In the worst case, he is advocating for your death.

I believe under the Fed, the US will see a high inflation but likely not hyper-inflation.  My concerns of hyper-inflation increase greatly if Congress takes over the Fed’s power.  This proposal will do that.  If this coin idea happens, be prepared, as high inflation is certain, and ultimately hyper-inflation will follow.

The Trillion Dollar Coin

Joe Weisenthal has written a column about the proposed trillion dollar coin as a means to resolve the debt ceiling issue:

This is really thrilling.

An arcane idea that started on finance blogs in the summer of 2011-- that Tim Geithner should mint a trillion dollar platinum coin to avert the debt ceiling -- is now seriously taking off.

The premise of the idea is this: Although the Treasury can't just create money out of thin air to pay its bills, there is a technicality in the law that says the Treasury has special discretion to create platinum coins of any denomination, and the thinking is that Tim Geithner could make the coin and walk it over to the Federal Reserve and deposit it in the Treasury's bank account.

“Thrilling” isn’t the word that comes to mind….

Weisenthal points to a blog post by Cullen Roche as the first blog to really promote the idea:

The simple threat of doing this would end this debate right here and right now.   It’s time for Congress to stop playing Russian roulette with the US economy.  If you want to take a stand on spending then do so before you pass legislation that causes us to run up into the debt ceiling.  Don’t use some phony law to try to scare people into thinking that we are Greece (something that’s entirely impossible anyhow).

Now it is quite true that the debt ceiling game is Kabuki Theater, a charade allowing some congressman to pretend they are fiscally conservative, while all the while supporting bills that increase the debt.  But this isn’t the solution.

Weisenthal even evokes Paul Krugman, but fails to mention that Krugman, if anything, comes out against the idea (well, tepid at best):

The peculiar exception is that clause allowing the Treasury to mint platinum coins in any denomination it chooses. Of course this was intended as a way to issue commemorative coins and stuff, not as a fiscal measure; but at least as I understand it, the letter of the law would allow Treasury to stamp out a platinum coin, say it’s worth a trillion dollars, and deposit it at the Fed — thereby avoiding the need to issue debt.

In reality, to pursue the thought further, the coin really would be as much a Federal debt as the T-bills the Fed owns, since eventually Treasury would want to buy it back.

I don’t know why the Treasury would eventually want to buy it back.  Why?  There is no plan to buy back the debt issued by the Treasury, why would this be any different? 

Krugman is now apparently at least beginning to show some concern about (price) inflation…

It’s true that printing money isn’t at all inflationary under current conditions — that is, with the economy depressed and interest rates up against the zero lower bound. But eventually these conditions will end. At that point, to prevent a sharp rise in inflation the Fed will want to pull back much of the monetary base it created in response to the crisis, which means selling off the Federal debt it bought.

…so he throws a few drops of cold water on the idea:

We are living in weird economic times, where many of the usual rules don’t apply and there are big free lunches to be had. But not everything is a free lunch, even now. Sorry.

So, Krugman seems to come out against the idea of the trillion dollar coin, but he remains wrong on there being free lunches.  There are none, at any time.

The Weisenthal points to Josh Barro at Bloomberg:

If Republicans start issuing a list of demands that must be met before they will raise the debt ceiling, Obama should simply say that he will issue platinum coins as necessary to pay government bills if he cannot borrow. But, to avoid causing long-term inflation expectations to skyrocket, he should pledge that he will have the Treasury issue enough bonds to buy back all the newly issued currency as soon as it is allowed to do so.

Does Barro actually believe that the President will give up this power once he uses it?

Back to Weisenthal : what about inflation?

This would not result in massive inflation, because we wouldn't have a gigantic injection of new money into "the system." That is only achievable through massive spending beyond which the economy can handle. But this loophole would in no way let the government spend beyond which Congress has allocated through the budget.

He (nor Krugman) understands anything of inflation.  It seems he is thinking only in terms of prices.  However, unless the coins have $1 trillion worth of platinum in them, this is inflationary to the money supply.  Once that happens, the misallocations begin; resources are diverted from the productive to those with first access to the coin; and new bubbles form…somewhere.

This entire idea is a green-backers dream.  The Treasury should issue currency (and coin) directly, and not borrow.  No effort needed to back the currency.  Just print (or coin) away.

If this power ever transfers from the Fed to Treasury (or Congress), the odds of hyper-inflation go from miniscule to probable. 

The Wörgl Experiment

Information from the following sources: 

http://www.reinventingmoney.com/documents/TGWoerglCommentDistributed.html  

http://www.reinventingmoney.com/worglExperiment.php 

 

http://www.reinventingmoney.com/worglFrench.php 

 

http://www.reinventingmoney.com/worglUnter.php 

 

The first article, written in 2002, is a summary of the other three – all three written contemporaneously in 1934.  The first and third of the older articles are quite instructive (the third being penned by the Wörgl mayor himself).

I will begin by reminding that I am all for competitive currency and money schemes derived in the free market.  I can even accept decentralized schemes that come with some form of community backing – I would strongly prefer no state action, but can also accept multiple and competing small state options.

So Wörgl presents no significant philosophical hurdle for me.  Led by the mayor, a local village decided to introduce a new currency.  What follows are my key takeaways from the referenced articles – all penned by individuals sympathetic to the experiment:

About 32,000 shillings of notes were printed, but only 12,000 were ever placed in circulation.  Of these, about 4,000 were hoarded – despite the demurrage – as collectibles, etc.

The demurrage was 1% per month.

Each of the issued Wörgl notes was backed by the equivalent amount of official central-bank issued notes.  These notes were deposited at the local Raiffeisen Bank, and earned 6% interest, to be earned by the parish (Wörgl) treasury.

The Wörgl notes could be converted to the official currency at a charge of 2%.

The notes entered circulation via payment to the parish employees – first at 50% of their wages, later 75%.

Apparently there was no noticeable price inflation; it should be kept in mind that a) the experiment lasted only approximately one year, and b) the notes were backed by the official Austrian-state note.  Both factors would minimize price impacts, and certainly relative to the impacts to the larger Austrian economy.

The notes were accepted by outside (non-Wörgl) businessmen, at times reluctantly due to the demurrage, as they were seen as a means of increasing trade.

Approximately 100,000 shillings worth of projects were implemented in Wörgl during the time of the experiment – in a town which had “normal” annual tax and interest income of approximately 36,000 shillings.  This “investment” represents the miracle.

It seems the miracle could be accounted for as follows:

During the time of the experiment, local tax payments to the parish increased by 37,000 shillings, while federal and provincial tax payments fell by an aggregate of 29,000 shillings (if I understand the source information properly) – keeping more money in the local economy.

In addition to the increase in annual tax payments to the parish, significant payments were made in taxes owed in arrears, as well as taxes paid in advance.  This was due, primarily it seems, to the desire to avoid the demurrage.  In other words, where tax payments previously occupied the last spot in the monthly budget, it quickly moved to the first spot.  Of 83,000 shillings of taxes owed in arrears at the beginning of the experiment, 77,000 shillings was paid to the parish accounts.  Basically, a huge tax increase.

Parish debt owed to the Innsbruck Savings Bank was defaulted, resulting in significant gain to the parish.  The default was over 100,000 shillings.

My conclusion: It seems that the entire experiment was a Keynesian one – significant increased spending on public works financed by a) stiffing the federal and provincial governments, b) defaulting on debt owed to the Innsbruck Bank, and c) significant increase in taxes in arrears being collected due to the threat of demurrage.

I find no miracle here.  The experiment likely could not have lasted much more than a year, given that the bulk of the projects were funded by one-time events that could not be repeated.

One more fallacy in the long list of funny-money miracle fallacies.