On Thu, May 30, 2013 at 7:40 PM, Daniel Fussell <[email protected]> wrote:
> On 05/29/2013 08:45 PM, Levi Pearson wrote:
>> Fiat currency is specifically a kind of currency that is by definition not
>> pegged in value to any commodity. Gold-backed currency does not meet that
>> definition, and thus it is not fiat currency.
>>
>> Actually, fiat currency is a good thing. Pegging the value of your
>> currency to a commodity or someone else's currency is asking for trouble.
>> About the most important thing a government can do is regulate its economy
>> by keeping its currency stable. Pegging the value of the currency to some
>> arbitrary thing just makes it harder for the government to do its job. There
>> is a reason no one is on a gold standard anymore.
>
>
> I think we can all agree that nobody wants the deflation inherent to hard
> currency, nor does anyone want the hyper-inflation risk inherent to a soft
> fiat currency either. We want a stable currency, where my savings are not
> worth less tomorrow simply from sitting, and which my debt principal is not
> harder to repay either.
Well, there are plenty of people who say they want a deflationary hard
currency. They are foolish, but what can you do?
There is no economic value in money that is hoarded. Hoarding is a
deflationary act. By keeping inflation at a stable but low rate, the
government (via the Fed) encourages investment over hoarding. All
else being the same, your real assets will keep the same real value
over time despite the delays in the short term value caused by
inflation. You can keep your short-term savings in fairly safe and
liquid investments to earn interest sufficient to counteract inflation
and longer-term savings in investments that will be less liquid but
even more valuable in the long term. This will earn you money along
with keeping the economic machine moving.
The merits of targeting inflation at 2% rather than 0% are debatable,
but the "hyper-inflation risk inherent to soft fiat currency" is just
silly. Theories that predict hyper-inflation just around the corner
are phenomenally stupid and their adherents are not paying attention
to how modern economies actually function. This is not to say that
hyper-inflation can't happen, just that it is incredibly unlikely
given current circumstances.
The Fed is a set of privately-run banks chartered by Congress in a
public-private partnership with the explicit mandate of providing a
stable currency, which currently means a target of consistent 2%
inflation. Keeping the value of the currency stable (or, as the case
is, changing at a stable rate) is the whole point of the Fed and is
the ultimate reason behind all the actions it takes. The reason it's
set up as a public-private partnership is precisely so interests in
Congress can't meddle with *how* it does its job other than the fact
that it can end the Fed if it doesn't feel it's behaving
appropriately.
So, there's been all sorts of noise about how the Fed is printing
boatloads of money and how that will inevitably lead to huge amounts
of inflation. These accounts are almost entirely inaccurate. The Fed
does not 'print money'. It can expand the monetary base (which is not
quite the same as the money supply in actual circulation), but it
can't do so by just arbitrarily crediting accounts somewhere. It acts
by purchasing and selling securities on the open market, almost always
in the form of U.S. Treasury Bonds. So in a buy, it swaps an illiquid
asset for cash. The cash does indeed appear out of thin air (no
account at the Fed is debited) but the Treasuries are removed from
auction and put on the Fed's balance sheet. This has the effect of
reducing the number of outstanding Treasuries, which changes the
market rate for them and also influences the interest rate. The
interest rate is influenced because when purchased at auction, they
are purchased from a bank that currently owns them. By trading an
asset for cash, they end up with more money in their reserves. This
means that more loans can be made while still keeping enough in
reserve, which means (assuming there's demand for those loans) the
interest rate can be lowered to attract them. This is a somewhat
simplified version; in actuality there's an inter-bank reserve market
and the Fed also can make loans to provide the liquidity necessary to
cover unexpected withdrawals, but in any case the Fed's act of
purchasing Treasuries lowers interest rates, which typically
accelerates the economy.
Anyway, the first effect that the Fed's operations have is to affect
the quantity of reserves available. This is one of several factors
that influence the amount of money lent by the banks, which is the
money that actually circulates in the economy. One other major factor
is the availability of demand for loans, and then there's the risk
assessment done internally to the banks as to how many loans their
current capital assets can support. Due to the housing crash, many
banks were left with "toxic assets" that were difficult to determine
the true value of, which makes banks very wary about lending despite
large amounts of reserves available. So despite huge increases in the
base money supply (which is just a fraction of the money in the entire
economy) when first Treasuries and then toxic assets were purchased by
the Fed, the amount of currency actually moving in the economy has not
increased beyond roughly normal inflation levels. For a while, the
total money supply actually shrank despite infusions to the monetary
base!
When things start moving again, if aggregate demand starts to drive
prices up, the Fed can decrease the amount of bank reserves by taking
the assets it previously bought and selling them on the market. The
money for these purchases comes out of the bank reserve market and the
purchases have the effect of raising interest rates, which slows down
the rate of loans, and thus the monetary base and money in circulation
are reduced so that inflation stays in check. And when the Fed ends
up with cash from the asset sales, it gets returned to the Treasury
Dept.
Anyway, there's plenty of places where the Fed's actions could be
criticized, but it has generally done an excellent job in recent years
of keeping inflation low and stable. Although I'm sure there's
corruption there, as there is pretty much everywhere to some extent,
it's not the big evil monster it's often made out to be, and it
generally does a good job of keeping our currency stable. There's a
reason the Dollar is the most widely used currency in the world.
>
> Unfortunately, I don't see cryptocurrency being the sweet spot between the
> two. Frankly, it reminds me a lot of the Tulip Bubble.
Indeed. It's got some interesting features, and it may hang on in a
niche, but it's never going to be a major currency.
--Levi
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