• Tag Archives money

  • India’s Demonetization Effort Has Demonstrably Failed

    Posted on by Azrael Comment

    Dormant for a while, the debate over India’s demonetization program of last fall has been revived by new evidence. The new evidence on note returns and GDP vindicates the critics and has the defenders in strategic retreat.

    What Happened

    To recap: On November 8, 2016, India’s Prime Minister Narendra Modi shocked the nation by announcing the immediate “demonetization” of the two largest rupee currency notes (Rs 500, worth about $7.50, and Rs 1000, worth about $15). Noteholders would have only 50 days to turn them in for new Rs 500 and Rs 2000 notes. The move, Modi promised, would sharply penalize holders of unaccounted “black money,” namely tax evaders, bribe-takers, professional criminals, and terrorists. Their currency hoards would become worthless — a welcome one-time wealth loss — or they would expose themselves to detection by trying to swap or deposit large batches. Anyone depositing a large sum in old notes would face scrutiny by tax authorities.

    In order to keep the move a surprise (the better to catch the black money holders), new notes to replace all the discontinued notes had not been printed in advance. The canceled notes represented 86% of the currency in circulation, and more than half of M1 (currency plus checking deposits), India having a highly cash-intensive economy with half the population unbanked. As criminals were far from the main users of currency, the impact was unavoidably felt well beyond the black-money set. A serious currency shortage immediately arose, with predictable consequences. Honest wage laborers in the huge cash economy went unpaid, honest construction projects came to a standstill, honest shopkeepers saw sales dry up, and honest businesses failed. Honest people wasted billions of hours waiting in queues to exchange old notes for the trickle of new notes.

    As Shruti Rajagopalan and I noted in November last year, there was also a fiscal angle: for every billion of old rupee notes not turned in (for fear of being scrutinized), the government could issue a replacement billion and pocket it as one-time seigniorage revenue. For example:

    If 20% of the old notes are never turned in, the government’s revenue windfall is up to Rs 2.9 trillion ($42.5 billion).

    The destruction of the private wealth of non-redeeming old-note holders, combined with the revenue windfall to the government, makes the currency policy effectively a large capital levy, a massive one-shot transfer of wealth from the private to the public sector.

    We speculated: “The wealth transfer to government may help to explain Prime Minister Modi’s enthusiasm for the currency cancellation and re-issue, despite its likely ineffectuality against black money.”

    Economically literate defenders of demonetization have been fewer than critics. The most prominent defenders have been the well-known trade economist Jagdish Bhagwati of Columbia University together with his former students Vivek Dehejia and Pravin Krishna, and with his Columbia colleague Suresh Sundaresan.

    The Defense

    In a December 2016 piece in the prominent Times of India, Bhagwati, Krishna, and Sundaresan (hereafter BKS) praised the demonetization program as “a courageous and substantive economic reform that, despite the significant transition costs, has the potential to generate large future benefits.” BKS recognized that “the process is inconvenient, and subjects many households to hardships,” but thought it worthwhile for “potentially increasing transparency and expanding the tax base and revenues to the government from taxes and surcharges.” The fiscal angle was foremost: since “unaccounted deposits will be taxed, this will yield a windfall for the government permitting large increases in social expenditures.” In addition, it would promote a “switch into digital transactions” and “put a major dent in counterfeiting.”

    In an Op-Ed published on December 27, Bhagwati, Dehejia, and Krishna (hereafter BDK) defended the demonetization program entirely on the grounds that it would impose an effective capital levy. It was, they wrote, “a policy designed, in effect, as a one-time tax on black money.” They noted that the government’s revenue gain would not come just from replacing unreturned notes. Under “voluntary disclosure” rules promulgated after the initial announcement, depositors of old notes who acknowledged their holdings as illegitimate would also pay: “deposits of unaccounted money will be taxed at 50% — with a further 25% taken by the government … as an interest-free loan for a period of four years.” Thus there would be a one-time fiscal gain to the government not only from notes never returned, but also from notes returned under such terms.

    BDK proposed the size of the revenue gain as a sufficient criterion for judging the success of the program: “at least from the perspective of its effectiveness in dealing with the black money issue, success has to be measured by the sum of tax revenue generated [from the 50% tax on acknowledged black deposits] and black money destroyed [i.e. revenue from replacing unreturned notes].” For the sake of illustration, they supposed (calling it an “estimate”) “that one-third [Rs5 trillion] of the approximately Rs15 trillion in demonetised notes is black money.” Then if by the end of the turn-in period “Rs1 trillion is unreturned, as is believed, and we further assume that only half of the remaining Rs4 trillion of black money that is returned falls within the tax net, the net gain works out to Rs1 trillion of black money destroyed and 50% times 2 trillion = Rs1 trillion in tax revenue.” With such a total fiscal gain of Rs2 trillion, “the government could reasonably claim this as a successful outcome.”

    In a commentary on the BDK piece, Rajagopalan and I pointed out that, from the economist’s point of view, the costs of any measure must be taken into account before judging it worthwhile or efficient. What matters is effectiveness per unit cost. Unlike the earlier BKS piece, BDK had simply neglected the costs incurred in collecting revenue or suppressing black money through demonetization. We noted a think tank’s estimate of Rs. 1.28 trillion in losses during the transitional period from expenses of printing new notes, lost income of those waiting in queues, additional costs to banks tied up with exchanging currency, and (the largest item) lost business sales due to the currency shortage. It was then too early to replace the estimate of lost business with measured effects on GDP, but we noted that one percentage point of lost annual growth equals Rs1.45 trillion. These costs need to be set against the revenue. Even if the revenue were as high as Rs2 trillion, collecting it at a deadweight cost of 64% or more would be a very bad bargain.

    Doesn’t it matter that the transfer, in this case, is coming from bad actors whose welfare one may disregard? No. In the above reckoning, as in standard tax analysis, the pure wealth-transfer losses of taxpayers don’t figure in the deadweight loss calculation, which only counts the costs associated with extracting the transfer.

    BDK had noted in passing the argument “that the short- to medium-run economic impact post 8 November will be contractionary” due to a “temporary liquidity shortage induced by an insufficiently fast replacement of old notes with new notes.” But they dismissed on theoretical grounds that “this is not necessarily the only outcome possible.” Government could avoid a currency shortage by promptly providing new notes, they reckoned. This was a very odd line to take seven weeks into demonetization, given that the government was not in fact providing new notes sufficiently fast, and when the evidence of currency shortage was plain to see. Alternatively, they proposed, hoarded currency could come out from under mattresses, be deposited in banks, and actually expand M1 “via the classical money multiplier.” This was an odd line to take given that expansion of deposits (even should it happen) would not remedy the currency shortage being suffered by the unbanked half of India’s population.

    In March 2017, Bhagwati was quoted by the Indian newspaper Firstpost making the surprising claim in an email interview that demonetization had actually promoted economic growth: “On the effects of demonetisation on growth, I should say that I was the one economist who had argued (with my co-authors), from first principles, that demonetisation would increase, not diminish, growth. And that is exactly what appears to have happened.” The factual basis for saying that it appeared to have happened was not clear.

    In a March 30 piece, BDK cited a new 2016Q4 GDP report as showing that GDP had suffered “only a modest dip … of roughly half of a percentage point” below pre-demonetization projections. This was not an increase in growth. But they counted it a victory compared to “the economic disaster that the critics had imagined.”

    The Evidence Against

    The debate over demonetization was revived this month (September 2017) after the Reserve Bank of India finally announced the count of returned currency. It announced that 99 percent of the discontinued notes, Rs 15.28 trillion out of Rs 15.44 trillion, had been returned. As Vivek Kaul has noted, “The conventional explanation for this is that most people who had black money found other people, who did not have black money, to deposit their savings into the banking system for them.”

    The trivial size of unreturned currency, of course, obliterates BDK’s projection of a government seigniorage windfall.

    What about BDK’s other projected source of revenue, the 50% tax on acknowledged black deposits? Whereas in BDK’s scenario, black currency holders would make Rs2 trillion in voluntary-disclosure deposits, which would yield Rs 1 trillion in revenue, the actual collections under the scheme were reported in April at Rs 23 billion, or 2.3% of the BDK-imagined sum. Such paltry revenues mean that demonetization, from the fiscal perspective, was all pain and no gain.

    The accumulating evidence on economic growth, meanwhile, has become damning. Between July and September 2016, India’s GDP grew 7.53 percent. Between January and March 2017 it grew 5.72 percent. Former head of the Reserve Bank of India Raghuram Rajan, now returned to the University of Chicago, links the drop to demonetization: “Let us not mince words about it — GDP has suffered. The estimates I have seen range from 1 to 2 percentage points, and that’s a lot of money — over Rs2 lakh crore [i.e. trillion] and maybe approaching Rs2.5 lakh crore.” Kaul adds that GDP does not well capture the size of the informal cash sector, where the losses from demonetization were greatest.

    In response to the RBI report and GDP data, and to their credit, BDK have substantially retreated from claims of success to what can be regarded as the claim that there is still a chance to break even. They have recently written:

    First off, it must be conceded that if demonetisation is to be judged narrowly on the basis of the triple rationale originally advanced … , it would at best be unclear if it could be accounted a success. For, little black money was literally “destroyed” and there is scant evidence that the policy had much if any impact on counterfeiting or terror finance.

    Although they acknowledge that they “overestimated the quantum of black money that would ultimately be unreturned” and thus overestimated the seigniorage gain, they still contend that the “money deposited into bank accounts can also generate fiscal gain, as these will invite the scrutiny of tax officials.” For about two-thirds of the deposits of old currency by value, even though no admission was made and thus no 50% tax was paid, the sums deposited were large and “are mostly open to scrutiny by tax officials.” Thus it is conceivable that tax investigators may eventually squeeze taxes and fines out of them, and it is premature to rule this out.

    Conceivable, but unlikely. The investigatory capacity of the tax authority is finite and it already has its hands full, as Vivek Kaul spells out in detail.

    BDK concede: “Should, however, the government fail in identifying and taxing black money deposits in any significant quantity, we can all conclude that demonetisation will have failed in achieving its primary goal.” Welcome as this reasonable concession is, the converse does not follow: whether even significant eventual revenue counts as success depends on how it compares to the sizable costs of demonetization. A deadweight burden of less than 100% seems highly unlikely.

    BDK add an odd coda. They acknowledge transition costs in the program actually followed, but suggest that it could have been otherwise:

    in principle, had demonetisation occurred without transition costs — for instance, if old notes could have been seamlessly converted or deposited within a few days after 8 November, or if demonetisation had been pre-announced to occur with a lag, allowing time for an orderly remonetisation — there could only have been largely upside gain without any downside cost.

    It is hard to square this with BDK’s earlier statements that demonetization without secrecy would have been pointless because it would not have caught out the black money holders. Are BDK saying that if the aim had been merely to introduce new notes with better anti-counterfeiting features, the Modi government’s demonetization program was an unnecessarily costly way of doing it? Well yes, the critics have said that all along. High transition costs were a feature and not a bug of the dramatic scheme to penalize black money by surprise.

    Reprinted from Alt-M


    Lawrence H. White

    Lawrence H. White is Professor of Economics at George Mason University and The Freeman contributor.  He previously taught at New York University, the University of Georgia, and the University of Missouri – St. Louis. He is a member of the FEE Faculty Network.

    This article was originally published on FEE.org. Read the original article.


    📂This entry was posted in News and Politics 📎and tagged

  • Money Isn’t a Gift from the State

    Posted on by Azrael 1 Comment

    I’ve begun working on a new book on the gold standard. In the first chapter I plan to discuss the origin of money, as a preliminary to discussing how silver and gold became the world’s dominant commodity monies.

    The topic of the origin of money has become controversial in recent years. The dominant view among economists (for good reason), suggested by Adam Smith in the eighteenth century and fleshed out by Carl Menger in the nineteenth, is that money is a market-born institution.

    Convergence on one or two commodities as the common media of payment emerged from the actions of barterers seeking more effective trading strategies, without anyone aiming at the final result. But this view has lately been challenged by a resurgence of the “state theory of money,” also known as Cartalism, which argues that governments played an essential role in the establishment of money.

    Money’s Origins: A Cartalist View

    Cartalists have made the valid point that extensive specialization in production could not have preceded the development of commonly accepted media of exchange; rather, greater specialization and wider acceptance of media of exchange must have developed together.

    But this is a useful expositional caveat rather than a refutation of the Mengerian theory. While a lecturer spelling out the Mengerian theory (and I have done this myself) may ask the listener to imagine a highly specialized producer (say, an asparagus farmer) entering a moneyless market and meeting frustration in attempts to trade directly (say, for a plaid shirt) in order to dramatize the difficulty of direct barter, this should not be taken to suggest that, as a historical matter, societies developed extensive specialization and trade before the emergence of money.

    Indeed, because it starts from the premise that finding a well-matched trading partner (who “has what you want and wants what you have”) is very difficult, Menger’s theory implies the opposite. As Adam Smith himself emphasized, the division of labor is limited by the extent of the market, and the extent of the market is limited by the ease of trade.

    The classic source of the Cartalist view is The State Theory of Money (1924) by the German economist George Friedrich Knapp. Knapp’s rejection of a market evolutionary account, it appears on close inspection, is more a matter of wordplay than of substance. Rather than regarding “money” in the conventional way as any medium of exchange commonly accepted in the market, and so viewing the explanatory challenge as how to account for a particular commodity coming to play that role, Knapp focuses his attention on what he calls public money.

    The test of a public money, in his words, is that “the money is accepted in payments made to the State’s offices,” namely in tax collections. Knapp (1924, p. 95) declares:

    “State acceptation delimits the monetary system.”

    A market process cannot endow a payment medium with state acceptance; only the sovereign state can do that. Mengerians would reply: True enough, but this does nothing to contradict Menger’s logical evolutionary account of how a commonly accepted means of payment arises without state action.

    The anti-Mengerians, in the words of sympathetic economist Charles Goodhart, “are those who argue that the use of currency was based essentially on the power of the issuing authority (Cartalists) — i.e., that currency becomes money primarily because the coins or monetary instruments more widely are struck with the insignia of sovereignty.”

    The claim that state power or sovereignty is essential or primary for any currency to become a commonly accepted medium of exchange, however, is plainly at odds with the historical fact that privately issued banknotes without sovereign backing were the dominant media of exchange in the eighteenth and nineteenth centuries where they were allowed. And with the fact that privately minted silver and gold coins were widely accepted when and where they were allowed (which was much rarer), as in gold-rush California.

    While Knapp (1924, p. 134) recognized the fact of the widespread use of private banknotes, he simply classified them — by definition — as outside the system of public money. A note-issuing private bank and its customers “form, so to speak, a private pay community; the public pay community is the State.”

    Why Precious Metals?

    Turning from the question of origins to the question of why silver and gold became the most popular commodity monies, out of a large set of contenders that included salt, cowrie shells, and oxen, one naturally wonders what the Cartalists have to say on the second question. The answer turns out to be: nothing helpful.

    Menger’s approach lends itself to a decentralized account of why silver and gold emerged as the most commonly accepted, pushing other candidates to the margins. Put yourself in the position of a trader in a market where there are a variety of commodity exchange media (the market has not yet converged). You sell your produce for a physical payment medium which you then carry around with you until you spend it away in purchases.

    In this situation, it pays you not only to consider which media are most popular with other traders, but also which media involve the least cost or hassle in acquiring, carrying to the next transaction, and trading away.

    As textbooks during the nineteenth century emphasized, the precious metals have a number of properties that make them superior media of exchange in such a setting. Compared to other commodities, silver and gold score high on (1) portability or preciousness, allowing you to carry around high purchasing power with little bulk; (2) durability, not spoiling between the date of acquisition and a later date of spending; (3) divisible and fusible, like any metal, allowing pieces to be made in a range of sizes to suit a range of transactions, and allowing small change to be given; (4) stable in value across the seasons, unlike foodstuffs that are cheap right after the harvest but dear six months later. These properties enhance their widespread acceptance.

    An important technical advance came with the introduction and spread of coinage in Turkey and Greece during the 7th to 5th centuries BCE. Unlike raw nuggets straight from the mine or variously refined precious-metal bars, coined pieces of silver and gold gained a major additional advantage: they became (5) uniform in size and quality, so that traders need not incur the cost of testing (or the risk of not testing) each piece for its weight and its fineness (percentage of pure silver or gold content). Early coining entrepreneurs could have profited, as later mint masters in California did, by charging for the service of converting raw silver or gold into easier-to-spend uniform coins.

    With the spread of coinage to India, the Middle East, and Europe, merchants found silver and gold payments easier to make and to accept. The use of bulky commodity monies like shells and salt dwindled. Market convergence on the precious metals in coined form reflected a “survival of the fittest,” namely of the most convenient media for hand-to-hand exchange.

    The Cartalist approach, by contrast, doesn’t provide a distinct theory as to how silver and gold came to dominate other commodity monies. In the Cartalist view the sovereigns of various lands must have chosen to preferentially accept silver and gold, of course, but why? It seems reasonable to suppose that sovereigns made the choice because they, like other transactors, were aware that coined pieces of silver and gold score high on the five useful properties listed above. If so, then sovereigns did not alter but merely reinforced the market process already underway.

    Leading Cartalists have made other suggestions, however. Anthropologist David Graeber, author of Debt: The First 5000 Years, states in an interview that:

    … coinage seems to be invented or at least widely popularized to pay soldiers — more or less simultaneously in China, India, and the Mediterranean, where governments find the easiest way to provision the troops is to issue them standard-issue bits of gold or silver and then demand everyone else in the kingdom give them one of those coins back again.”

    The economist L. Randall Wray (2000, p. 46) likewise states, “Coins appear to have originated as government ‘pay tokens’ (in Knapp’s colourful phrase), as nothing more than evidence of debt.” Silver and gold coins, in other words, should be understood as state-issued tax-anticipation tokens, their value resting on a state-imposed obligation to pay them back.

    This account fails to explain, however, why governments chose bits of gold or silver as the material for these tokens, rather than something cheaper, say bits of iron or copper or paper impressed with sovereign emblems. In the market-evolutionary account, preciousness is advantageous in a medium of exchange by lowering the costs of transporting any given value.

    In a Cartalist pay-token account, preciousness is disadvantageous — it raises the costs of the fiscal operation — and therefore baffling. Issuing tokens made of something cheaper would accomplish the same end at lower cost to the sovereign. (By the way, note also Graeber’s equivocation “invented or.” Proposing that governments enlarged the acceptance of coins, after the market economy had already begun using them, is categorically different from proposing that governments invented coinage. Menger himself had no problem with the former proposition, but he rejected the latter as an unfounded prejudice.)

    Wray offers in passing (p. 46) the conjecture that kings likely minted coins “in the form of precious metal to reduce counterfeiting.” But a sovereign imprint on silver or gold coins is not in any obvious way harder to counterfeit than the same imprint on iron or copper coins. So the bafflement remains.

    The notion that full-weight silver and gold coins are mere tokens, deriving their value from the future tax liabilities they discharge, is in clear conflict with the historical experience that large-value silver and gold coins issued by (say) the Spanish national mint circulated well outside the set of Spanish taxpayers. (Small-value silver coins, which sovereigns debased and did treat as overvalued tokens, were another and more Cartalist story.)

    Large-value coins were used as media of exchange among participants in an international trade network that operated beyond any one nation’s boundaries. They were valued by holders who had no tax obligations to the state of the issuing mint. In the international market, coins issued by various national mints were valued against one another in proportion to their precious metal content, not in proportion to the nominal values at which national tax offices accepted them, where the two values differed. These facts indicate a market source of the moneyness of large-value silver and gold coins, not a tax-acceptance source.

    Wray denies that coins were valued according to their precious metal content, as it conflicts with his maintained view that even full-weight precious metal coins were merely tokens. He even denies (p. 47), rather surprisingly, that kings debased their coins, i.e. reduced their precious metallic content below the standard, since “it would make no sense” when they are mere tax-discharging tokens to begin with. The histories of state-issued Roman and medieval silver coins, however, shows repeated debasements.

    Once sovereigns monopolized the mints they took advantage of the propaganda value of stamping their own faces on the coins, of course. But as far as we know coins were already in use among merchants before that happened. Very early coins from ancient Lydia, in what is now Turkey, were not inscribed with human faces but rather animal figures.

    The Ancient History Encyclopedia states:

    It appears that many early Lydian coins were minted by merchants as tokens to be used in trade transactions. The Lydian state also minted coins.”

    Regarding Lydian coins inscribed with the names Walwel and Kalil, the British Museum comments:

    It is unclear whether these are names of kings or just rich men who produced the earliest coins.” Regarding a nearly contemporary ancient Greek coin bearing the legend “I am the badge of Phanes.”

    The Museum comments:

    We cannot be certain who this Phanes was, but it seems that he was placing his badge on coins as a guarantee of their quality.”

    It is possible, of course, that in surveying the literature I have overlooked a more plausible Cartalist account of why sovereigns chose very expensive materials, silver and gold, for their tax-anticipation tokens. If anyone can point me to such an account, I would be grateful.

    Reprinted from Alt-M.


    Larry White

    Lawrence H. White is a senior fellow at the Cato Institute, and professor of economics at George Mason University since 2009. An expert on banking and monetary policy, he is the author of The Clash of Economic Ideas (Cambridge University Press, 2012), The Theory of Monetary Institutions (Basil Blackwell, 1999), Free Banking in Britain (2nd ed., Institute of Economic Affairs, 1995), and Competition and Currency (NYU Press, 1989).

    This article was originally published on FEE.org. Read the original article.


    📂This entry was posted in News and Politics 📎and tagged

  • Monopoly Money Should Give Way to Choice in Currency

    Posted on by Azrael 1 Comment

    Monopoly Money Should Give Way to Choice in Currency

    For more than two hundred years, practically all of even the most thoroughgoing free market advocates have assumed that money and banking were different from other types of goods and markets. From Adam Smith to Milton Friedman, the presumption has been competitive markets and free consumer choice are far better than government control and planning – except in the realm of money and financial intermediation.

    This belief has been taken to the extreme over the last one hundred years, during which governments have claimed virtually absolute and unlimited authority over national monetary systems through the institution of paper money.

    At least before the First World War, the general consensus among economists, many political leaders, and the vast majority of the citizenry was that governments could not be completely trusted with the management of the monetary system. Abuse of the monetary printing press would always be too tempting for demagogues, special interest groups, and shortsighted politicians looking for easy ways to fund their way to power, privilege, and political advantage.

    The Gold Standard and the Monetary “Rules of the Game”



    Thus, before 1914, the national currencies of practically all the major countries of what used to be called the “civilized world” were anchored to market-based commodities, either gold or silver. This was meant to place money outside the immediate and arbitrary manipulation of governments. Any increase in gold or silver money required private individuals to find it profitable to prospect for it in various parts of the world, mine it out of the ground, and transport it to where it might be refined into usable forms, and then mint part of any new supplies into coins and bullion, with the rest made into various commercial and industrial products demanded on the market.

    The paper currencies controlled by governments and their central banks were supposed to be issued only as claims to – as money substitutes for – quantities of the real gold or silver money deposited by members of the society in banks for safekeeping and the convenience of everyday business in the marketplace.

    Government central banks were meant to see that the society’s medium of exchange was properly assayed and minted and to monitor and police private banks and itself to make sure that the “rules” of the gold (or silver) standard were properly followed.

    Bank notes were to be issued or deposit accounts increased in the banking system as a whole only when there had been net additions to the quantity of the commodity money within the economy. Any withdrawals of the commodity money from the banking system was to be matched by a decrease in the total quantity of banknotes in circulation and in deposit accounts payable in money.

    Did governments always play by these “rules”? Unfortunately, the answer is, “No.” But, by and large, in the half-century or so before the beginning of the First World War in 1914, governments and their central banks managed their national currencies with surprising restraint.

    If we look for a reason for this restraint, a leading one was that for a good part of this earlier era, the predominant set of ideas was that of political and economic liberalism. But we need to remember that at that time “liberalism” meant an advocacy and defense of individual liberty, secure private property rights, free markets, free trade, and limited government constitutional under impartial rule of law.

    But, nonetheless, these national currencies were government-managed paper monies linked to gold or silver by history and tradition, and more or less left fairly free of direct and abusive political manipulation, due to the prevailing political philosophy of the time that considered governments as protectors of individuals’ rights to their lives, liberty and honestly acquired property.

    Political Paternalism and Monetary Central Planning

    However, in the decades leading up to the First World War, the political trends began to change. New ideals and ideologies started to appear and gained an increasing hold over people’s minds. The core conception was a growing belief in the necessity for and the good that could come from political paternalism. Governments were not simply to be impartial “umpires” who enforced the rule of law and protected people and their property from violence and fraud. Rather, government was to intervene in the social and economic affairs of men, to regulate markets, redistribute wealth, and pursue visions of national greatness and collective welfare.

    This meant a change in the political philosophy behind the government’s control of the monetary system, as well. In the decades after the First World War, in the 1920s, 1930s, and 1940s, and up to the present, the government monetary managers increasingly became monetary central planners. The central bankers were to manipulate the supply of money and credit in the economy to achieve various goals: stabilize the price level; maintain “full employment”; peg or change foreign exchange rates; lower or raise interest rates to influence the amount and the types of investments undertaken by private borrowers and investors; and, whenever and however necessary, increase the quantity of money to fund government deficits needed by politicians and interest groups to feed their insatiable appetite for power, privilege, and political plunder.

    The triumph of Keynesian economics in the post-World War II period resulted in a near monopoly of academic and public policy advocates who argued that private enterprise was inherently unstable and frequently unfair, and could only be allowed to exist and function in a wider environment of dominating government control. The consequence was a government constantly increasing in size, scope, and pervasive supervision and intrusion into every corner of personal, social, and economic life.

    Big Government, Big Spending, and the Monetary Printing Press

    But big governments cost big sums of money. A little over a hundred years ago in America, in 1913, all levels of government combined – Federal, state, and local – absorbed only around eight percent of the nation’s income and output. Today, all level of government seize nearly fifty percent of all that is earned and produced in the United States. That cost of government is even more if we add the financial burdens imposed on private enterprise to comply with the strangling spider’s web of regulations and controls imposed on private enterprisers going about their business.

    In the nearly ten years since the financial crisis of 2008-2009, the Federal government has accumulated nearly $10 trillion in additional debt. At the same time, during the past decade, the Federal Reserve – America’s central bank – had created more than four trillion dollars of new money in the banking system. In other words, the Federal Reserve has, in fact, produced out of thin air a sum of new money equal to four out of every ten dollars the Federal government has borrowed during this period.

    The economics textbooks usually sanitize this type of process with a sterile terminology that calls it, “monetizing the debt.” An earlier generation of economists and critics of political paternalism used to call this process paper money inflation and debauchery of the currency: the diluting of the value of the money in people’s pockets through monetary depreciation and currency devaluation.

    Political Demagogy, Fiscal Burdens and the Danger of Inflation

    As a result of the growth of the modern welfare state, America and the other major Western countries of the world have become, in the words of Nobel Prize-winning economist, James Buchanan (1919-2013), perpetual democracies in deficit, funded in total or in good part by, now, trillions of dollars created by government monetary monopolies – the central banks.

    Today, we are reaping the whirlwind of decades of political paternalism and monetary central planning. Nations like Greece and now Puerto Rico have been teetering on the edge of financial bankruptcy and debt default. And countries like the United States, which are woven tightly with networks of special interest groups living off the redistributed plunder of other more productive members of society, seem to lurch from one fiscal crisis to another. The current politics of redistributive paternalism seems to offer no way to stop the worsening avalanche of annual deficits and mounting national debt.

    The demagogues and political tricksters harangue about “soaking the rich” to fund the unfunded “entitlements” of social security and Medicare through the rest of the twenty-first century. They demand that “big business” pay for the government “jobs to nowhere” that is promised to end the unemployment that earlier and current misguided economic policies have created and prolonged.

    The politicians of plunder have also taken recourse to that last refuge of every political scoundrel: a call to “patriotism.” It is your duty as a “good citizen” to pay a fair share” in taxes; to cooperatively be subservient and obedient to the demands and needs of government; and to sacrifice your freedom and the fruits of your own hard-earned honest labor for “the national interest” and “the common good.”

    It is worth remembering that those in the political arena who claim to know what is in “the national interest” and for “the common good” are the same ones who also assert the right to compel you to conform to their vision of a “just” and “fair” America, regardless of how much you may honestly disagree or desire to peacefully go your own way.

    A central tool for governments to maintain their authority in society and their control over people’s lives is the ability to make the citizenry accept and use their monopoly medium of exchange. This is a lynchpin in the government’s ability to transfer the people’s wealth and privately produced output to satisfy the “needs” of government spending.

    It makes each and every citizen an existing and potential victim of government abuse of the monetary printing press, since paper currencies are no longer in any way linked to or limited by a market-based supply of a real commodity such as gold or silver. We should not presume that runaway hyperinflations and the accompanying destruction of a society’s medium of exchange only occur in places like 1920s Germany or contemporary African nations like Zimbabwe. That, “it can’t happen here.” It can happen anywhere.

    The Bankruptcy of the Welfare State and Redistributive Dependency

    The fact is, the modern welfare state is bankrupt. It is bankrupt ideologically; no one really any longer believes that the Interventionist-Redistributive State will bring mankind material happiness or social harmony. Everyone knows that it is nothing more than a vast and corrupt political machine through which, as Frederic Bastiat said long ago, everyone tries to live at everyone else’s expense.

    In the process, the productive capacity of the society slowly grinds to a halt, as more and more people turn from productive self-responsibility to redistributive dependency. It also generates a mental attitude and a political presumption of legitimacy to that redistributive dependence that pervades each and every income group and social category throughout the nation.

    Most opinion polls show that a fairly sizable majority of the American people think that government is too big, spends too much, and taxes far too excessively. But once the questions turn to “specifics” of cutting particular government programs, it is soon seen how the tentacles of the welfare state reach into virtually everyone’s pocket.

    It is not only that government taxes people in varying amounts to feed the redistributive process. It is also the case that there are few people in the land who do not have some type of money, program, or benefit put into their pockets by government. Most people cannot imagine living without their government redistributive “fix.” And, admittedly, breaking people’s addiction to their government benefits, subsidies, protections, and special favors would and will involve serious withdrawal pains.

    This also means that the welfare state is rapidly reaching financial bankruptcy, as well. Neither taxation nor borrowing of private savings can or will be able to cover all the costs of current and future government spending under existing interventionist and redistributive legislation and regulation.

    The government may very well, therefore, use its most important financial resource to keep moving the wheels of political spending. In the future, those in political power may more and more turn the handle of the monetary printing press. And no one should be fooled due to the apparently non-price inflationary environment that has prevailed in the United States and the European Union for most of this last decade. Monetary expansion distorts the structure of relative prices and generates misallocations of capital and labor, even when the general price level seems relatively “stable.” Beneath the “macroeconomic” surface of low or near zero price inflation, “microeconomic” imbalances and misdirected investments may still be setting the stage for an eventual economic downturn.

    Hyperinflations and Opting Out of Government Monopoly Money

    Time after time, history has demonstrated that when serious price inflations move into disastrous hyperinflations, people first discount and then abandon the government’s monopoly money. They shift into alternative currencies of choice that they consider more stable, more predictable, and more wealth and income preserving that the increasingly worthless pieces of paper money that their own government spews out in increasing quantities.

    Now such a monetary disaster is not preordained. It is not written in some “big book” in the sky. Governments and societies have in the past pulled back and stopped short of following a path leading to social and economic ruin. America, too, may yet slow down or bring to a halt the political course it is currently traveling. The future is unpredictable and trends have changed many times in the past.

    But . . . forewarned is forearmed. So how might any of us be able to shelter ourselves from the possible coming fiscal and monetary storm? Central to such precautionary actions is to hedge against the possible radical depreciation and or even destruction of the government’s currency.

    To the extent that one sees such a danger and has the financial wherewithal to “plan ahead,” individuals should be legally allowed to opt-out of the government’s monopoly money. In other words, every American should be free from the government’s power to compel its citizens to use and accept in trade and in settlement of debts its own monopoly money.

    The Road to Choice in Currency

    Everyone should be free to choose the currency or commodity (gold and silver, for example) they wish to hold and use as a medium of exchange without legal restriction, penalty, or political prejudice. Greater monetary freedom would not only give every citizen a legal right to protect and secure his income, wealth and market transactions from abusive mismanagement of the government’s monopoly monetary printing press. It could also serve as a check on the degree of such government abuse.

    More than forty years ago, in September 1975, Austrian economist and Nobel Laureate, Friedrich A. Hayek, delivered a lecture on, Choice in Currency: A Way to Stop Inflation, in Lausanne, Switzerland, and said:

    “There could be no more effective check against the abuse of money by the government than if people were free to refuse any money they distrusted and to prefer money in which they had confidence. Nor could there be a stronger inducement to governments to ensure the stability of their money than the knowledge that, so long as they kept the supply below the demand for it, that demand would tend to grow. Therefore, let us deprive governments (or their monetary authorities) of all power to protect their money against competition: if they can no longer conceal that their money is becoming bad, they will have to restrict the issue.

    “Make it merely legal and people will be very quick indeed to refuse to use the national currency once it depreciates noticeably, and they will make their dealings in a currency they trust.

    “The upshot would probably be that the currencies of those countries trusted to pursue a responsible monetary policy would tend to displace gradually those of a less reliable character. The reputation of financial righteousness would become a jealously guarded asset of all issuers of money, since they would know that even the slightest deviation from the path of honesty would reduce the demand for their product.”

    Taking away from the government its power of compelling the citizenry to accept money that it monopolistically controls and abuses may serve as an important legal and economic change to force the government and those who live at its spending trough to face the reality of the welfare state’s ideological and fiscal bankruptcy before it is too late to avert a complete collapse of the society.

    Choice in currency may be a valuable avenue for helping to restore the American tradition and practice of individual rights, free markets, and limited government under the rule of law. And it can be an important legacy for us to leave to our children and grandchildren, so they may, hopefully, live out their lives in liberty for the remainder of the twenty-first century.


    Richard M. Ebeling

    Richard M. Ebeling is BB&T Distinguished Professor of Ethics and Free Enterprise Leadership at The Citadel in Charleston, South Carolina. He was president of the Foundation for Economic Education (FEE) from 2003 to 2008.

    This article was originally published on FEE.org. Read the original article.


    📂This entry was posted in News and Politics 📎and tagged