Fiat Money

[bitfreak!]

I've just put together this essay on fiat currency and inflation for my website. I'm hoping some of you might have the time to read through it and analyze my arguments and logic and give me some feedback on it, such as pointing out any mistakes I may have made or giving me some suggestions to make it even better.

Bitfreak - Fiat Money

Cheers.

[Etlase2]

What you come to understand, is that it doesn't actually matter what backs a currency, but who controls the quantity.

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When the bankers forced Rome to revert back to a gold backed currency, productivity came to a sudden halt, a deep depression set in, and it quickly led to their downfall. This is probably because the bankers control almost all of the worlds gold.

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The important thing is that the total number of bitcoins that can ever be 'mined' is limited to 21 million. In this way, bitcoin has properties much like gold.

When the bankers forced Rome to revert back to a gold backed currency, productivity came to a sudden halt, a deep depression set in, and it quickly led to their downfall. This is probably because the bankers control almost all of the worlds gold.
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Bitcoin is a limited quantity digital commodity, a deflationary fiat currency that can't be manipulated by bankers, and it will hold its value in much the same way as gold does... In this way, Bitcoin is almost the perfect type of currency. Everyone has a chance to mine bitcoins, no one owns them all[.]

Am I to presume that the early adopters will not become the new banking elite of bitcoin? No one owns all the world's gold, certainly not the bankers. Nor did they ever. All you need is 'enough'.

I'm not sure why you posted the mises video (which I have not watched after realizing 30 seconds in it is probably heavily austrian-biased whereas the secret of oz is not) then go on to extol the virtues of the Greenback which I agree with.

Gold-backed currency was not debt-based in the same sense that bitcoin is not debt-based. At least until fractional reserve came along. But you seem to want to ascribe virtues of debt-free currency not backed by anything as well as debt-free currency backed by gold to bitcoin, without having either of the problems. That is simply not the case. While bitcoin is not backed by anything, it still heavily favors the "gold-standard" style of currency, even including the king-maker initial distribution. It is by no means a debt-free, unbacked currency in the sense of the greenback or roman currency that were controlled by a sovereignty--which, believe it or not, can have its benefits.

[bitfreak!]

Am I to presume that the early adopters will not become the new banking elite of bitcoin? No one owns all the world's gold, certainly not the bankers. Nor did they ever. All you need is 'enough'.

That's a good point. I didn't really think of it that way. I wasn't really trying to downplay the positive qualities of a gold backed currency, I was just trying to show how well a fiat currency has worked in the past. It's a bit confusing trying to explain how bitcoin is like a commodity such as gold but it's also a fiat currency not backed by anything. I hesitate to refer to bitcoin as a 'digital gold', even though that's pretty much what it is.

I'm not sure why you posted the mises video (which I have not watched after realizing 30 seconds in it is probably heavily austrian-biased whereas the secret of oz is not) then go on to extol the virtues of the Greenback which I agree with.

I posted that video so that I could basically start off by presenting the typical argument against fiat currencies, and to show how their whole argument is based on excessive printing, leading to inflation. The point obviously being that when excessive printing is taken out of the picture fiat currencies are a perfectly plausible solution.

It seems I'm going to have to rethink my approach a little bit after considering your statements...

I guess I need to explain how bitcoins are not technically backed by anything of intrinsic value, but they get their own value from their desirable qualities and usefulness as a decentralized currency. I'm mainly trying to deal with that fiat stigma which moans about currencies being created out of thin air with no backing.

[bb113]

I think you need to focus a bit more on the difference between fiat and debt-backed currency. I do not yet really understand how this debt-backed system is playing out. My understanding is that the fed doesn't really print money from nothing, it buys debt-assets, effectively turning the debt into money. The market then considers that debt paid, and receives an influx of money of which part goes to creating new credit-debt and part goes to redistributing wealth (in the form of investing in commodities, etc) to the entity that the fed purchased the debt from.

[bitfreak!]

My understanding is that the fed doesn't really print money from nothing, it buys debt-assets, effectively turning the debt into money.

The FED trades Government bonds for Federal Reserve Notes which they print very cheaply. So it's actually like the Government is buying Federal Reserve Notes on credit. But the Government never really intends on paying that debt back, and the FED will keep printing more money for the Government when ever they ask for it, not to mention debt has no real intrinsic value. So in that sense it's basically a fiat currency, they can just keep creating more for no real cost. But you do have a point though, if I'm going to demonize debt-based currencies I need to explain more clearly why that is. The reason is the basically the interest, and the fact the FED basically owns the Government because all the debt is owed to them. The point I was trying to make is that there's no real reason to have a debt-based currency when it's easier and fairer to issue a currency directly, as with Lincolns Greenback note. I was using the Greenback as the sort of ideal fiat example. It was a non-debt-based fiat currency which worked well. Bitcoin is similar because it can be considered a fiat currency and it's not debt-based.

I'll need to think about these points some more...

[Etlase2]

I guess I need to explain how bitcoins are not technically backed by anything of intrinsic value, but they get their own value from their desirable qualities and usefulness as a decentralized currency. I'm mainly trying to deal with that fiat stigma which moans about currencies being created out of thin air with no backing.

And if this were 1907, we'd be dealing with the gold-backed liquidity recessionary stigma--the same stigma bitcoin will run into if it ever becomes a significant portion of the world economy. Fiat has the backing of debt. It must be repaid. This is supposed to be a good thing, just like backing a currency with gold was a good thing. Unfortunately, as history has enlightened us, debt-based currency does nothing to solve recessions. Politicians don't give a fuck if they screw over our children, therefore debt backing is meaningless.

What bitcoin sort of has going for it is that fractional reserve is unlikely to prosper under this system, and certainly not at all directly through the block chain. But what that means is when there is a liquidity problem, people will flock to another currency. Or wait for Satoshi or other early adopters, like JP Morgan did in the late 1800s and early 1900s (before he sponsored the Federal Reserve Act to be written on his private island), to buy up lots of property and investment for cheap in a grand gesture to bring liquidity back to the economy.

If you hadn't noticed I don't think bitcoin is the solution, so I came up with my own: https://bitcointalk.org/index.php?topic=49683.0

[Etlase2]

The reason is the basically the interest, and the fact the FED basically owns the Government because all the debt is owed to them.

This really doesn't make sense. The fed owns about 10% of the government's debt, and the interest earned on that debt is repaid to the treasury. However that leaves 90% that is owed to other countries or very wealthy individuals/corporations.

The point I was trying to make is that there's no real reason to have a debt-based currency when it's easier and fairer to issue a currency directly, as with Lincolns Greenback note. I was using the Greenback as the sort of ideal fiat example. It was a non-debt-based fiat currency which worked well. Bitcoin is similar because it can be considered a fiat currency and it's not debt-based.

Greenbacks (and prior to that colonial scrip), roman coinage, british tally sticks were all flourishing examples of debt-free currency unbacked by gold. But all of those were issued to the people when the demand arose. Bitcoin can do no such thing.

[bitfreak!]

This really doesn't make sense. The fed owns about 10% of the government's debt, and the interest earned on that debt is repaid to the treasury. However that leaves 90% that is owed to other countries or very wealthy individuals/corporations.

I wasn't talking about the total debt of the Government, I mean the debt they owe from buying Federal Reserve Notes. You're right, interest isn't necessarily a problem, the real problem is that whilst the FED can print their notes very cheaply, the Government trades them debt equal to the full value of those notes denominations. There's absolutely no reason they should need to go through this whole convoluted process to give the illusion the notes are backed by something. Because the result is that the Government goes into debt for things they don't need to go into debt for.

Greenbacks (and prior to that colonial scrip), roman coinage, british tally sticks were all flourishing examples of debt-free currency unbacked by gold. But all of those were issued to the people when the demand arose. Bitcoin can do no such thing.

I can't see how the currencies you mentioned were debt-based, care to explain that? I just read a little bit about your EnCoin idea, and it seems the main idea is to create a completely stable currency. Personally I don't see the point of that, it's like continuously printing more money, but carried out at "just the right amount" so that the value of the currency remains the same over an infinite amount of time. I don't particularly see the point, what is wrong with a deflationary currency? And actually, I don't think Bitcoin could keep deflating forever, because economic growth and demand can only increase so much before it reaches some sort of stable position and maximum threshold. It's not like the early-adopters are going to benefit forever. What happens if the threshold of demand is reached with EnCoin but the system is still capable of creating more units? Even if it's not profitable could someone still mine more to cause inflation?

But we are getting off topic now I think...

EDIT: never mind the striked out bit, I read you wrong

[Etlase2]

I wasn't talking about the total debt of the Government, I mean the debt they owe from buying Federal Reserve Notes. You're right, interest isn't necessarily a problem, the real problem is that whilst the FED can print their notes very cheaply, the Government trades them debt equal to the full value of those notes denominations. There's absolutely no reason they should need to go through this whole convoluted process to give the illusion the notes are backed by something. Because the result is that the Government goes into debt for things they don't need to go into debt for.

Right, it means the wealthy elite owns the government, not the fed. You could argue that they are heavily related, but they are definitely not one and the same.

Personally I don't see the point of that, it's like continuously printing more money, but carried out at "just the right amount" so that the value of the currency remains the same over an infinite amount of time. I don't particularly see the point, what is wrong with a deflationary currency?

lol. The point is it is akin to roman coins and british tally sticks and greenbacks without the need for the government (or the wealthy padding politician's pockets) to decide what is "just the right amount."

And actually, I don't think Bitcoin could keep deflating forever, because economic growth and demand can only increase so much before it reaches some sort of stable position and maximum threshold. It's not like the early-adopters are going to benefit forever.

Any idea when this is going to happen? Because it hasn't happened since economics began however many thousands of years ago. Must we endure the business cycle ad infinitum until we finally reach this mythical point? And I pointed out that gold-backed currency's problems is the reason we moved to fiat, and how bitcoin is essentially gold-backed without fractional reserve, so where is the benefit in bitcoin as a currency? Better the devil that is a few decades removed from the present than the devil you currently know?

What happens if the threshold of demand is reached with EnCoin but the system is still capable of creating more units? Even if it's not profitable could someone still mine more to cause inflation?

Although I only posted a snippet of the idea late in the thread, I've since heavily refined the idea of giving away free money when people are mining. Not only does it prevent silly malicious miners from devaluing the currency, it also reduces the amount of electricity wasted on mining. Free money will be given to people spending money (encourages trade even more) as well as to all existing account balances. So even if the currency inflates, everyone gets more coins for it so in the end it is of no matter. It also protects against future hashing vulnerabilities.

[bitfreak!]

Any idea when this is going to happen? Because it hasn't happened since economics began however many thousands of years ago. Must we endure the business cycle ad infinitum until we finally reach this mythical point?

Well all the Bitcoins wont be mined until 2140, so it will be a long time yet before they stop being created. And by that point in time I'm fairly sure we'll be reaching that threshold, the growth in demand will definitely be a lot more evened out by that point in time. And even if it isn't, I still don't see anything particularly wrong with a currency which gains value slowly over time. That's why it is made to be so divisible, so it can handle such growth easily.

And I pointed out that gold-backed currency's problems is the reason we moved to fiat, and how bitcoin is essentially gold-backed without fractional reserve, so where is the benefit in bitcoin as a currency?

The benefit of Bitcoin over other fiat currencies is that it is decentralized and obviously that the amount of Bitcoins in circulation will be completely predictable. I can see why you might desire a money supply which grows as demand increases, but I simply don't think it's a must have feature.

Although I only posted a snippet of the idea late in the thread, I've since heavily refined the idea

And if you can manage to turn your idea into a reality I will certainly be paying close attention to it because it will certainly be different from the other alternative crypto-currencies we have at the moment. It might just be able to compete with Bitcoin.

[bitfreak!]

Article has been updated to cover some of the issues brought up so far.

Thanks for the help.

[bb113]

I don't understand the greenback argument in the second video. It seemed to be that the government will spend as much as possible no matter what so they may as well print the money.

[Etlase2]

Well all the Bitcoins wont be mined until 2140, so it will be a long time yet before they stop being created. And by that point in time I'm fairly sure we'll be reaching that threshold, the growth in demand will definitely be a lot more evened out by that point in time. And even if it isn't, I still don't see anything particularly wrong with a currency which gains value slowly over time. That's why it is made to be so divisible, so it can handle such growth easily.

That is speculation a hundred times worse than the child forum here.  As far as gaining value slowly, see last year. As far as not seeing anything wrong with it, see every banking panic that happened under gold-backed currency. Economies don't just have a gradual rise up, they tend to have flat periods and periods of explosive growth. As bitcoin would be come adopted by the world, it would go through several periods of explosive growth. Divisible does not mean it can handle growth easily, it just means it is capable of handling it. There is a difference.

The benefit of Bitcoin over other fiat currencies is that it is decentralized and obviously that the amount of Bitcoins in circulation will be completely predictable.

See goldsmiths. Decentralized currency. The amount of bitcoins in circulation will not be predictable because you would need to know the future velocity of money. Now if you were a group of the early adopters, you could probably move the velocity in either direction very easily, just like JP Morgan did. But for the rest of us, we're in the dark.

[johnyj]

1. Central Bank loan out 1 million to Government
2. Central Bank loan out 1 million to Enterprises (through commercial banks)

Now government spend 1 million to buy something from Enterprises, and Enterprises spend 1 million to buy something from Government, or pay tax

If one of them could not get the loan, the loop will break

Since one can not loan out something that is not belong to him, Central Bank must have the ownership of all those created money at the first place

[bitfreak!]

I don't understand the greenback argument in the second video. It seemed to be that the government will spend as much as possible no matter what so they may as well print the money.

No the argument is that the Government should furnish its own money instead of essentially lending it. In the same way that bitcoins don't represent a debt to anyone, a Government fiat currency like the Greenback also doesn't represent a debt to anyone. They are both a type of fiat currency not backed by anything, not even backed by debt. The only difference with Bitcoin is that the quantity is limited, where as the Government can always print more Greenbacks when they want to. The idea is though, that the Government is lot more accountable than semi-private entities like the FED which can issue secret loans and debase the dollar when ever they want. It would be harder for the Government to debase the dollar because of that accountability, they would only issue more Greenback notes when ever they feel the economy is growing to keep the value stable (which is what the FED should be doing), which would essentially be the perfect type of fiat currency according to our friend Etlase2. However, I still think a limited quantity currency like Bitcoin is better, it just seems more natural to me than continuously creating more of a currency. The value of Bitcoin should just be able to naturally fluctuate in the same way other limited quantity commodities fluctuate, it doesn't matter if it isn't perfectly stable. It just seems more natural to me than trying to mess with the money supply to enforce some stability where stability might not even be necessary. I still don't see what is truly wrong with a deflationary currency.

[bitfreak!]

As far as gaining value slowly, see last year.

Yes but now it's slowly rising again isn't it? Any unbacked currency is based on trust and faith, market scares like that are to be expected. If bitcoin hadn't risen in price so much is might not have survived that sudden crash. What would happen to your EnCoin if a similar crash were to happen? You might possibly be able to stop the price rising, but you'll never be able to stop it from falling suddenly, because it all comes down to trust and faith. So it's still going to fluctuate in one way or another. Why not simply leave it alone and let it fluctuate in the way it wants to instead of trying to manipulate the money supply. In the end there's no real point to it as far as I'm concerned.

[hgmichna]

Interesting article, related to this topic:

What gives money value, and is fractional-reserve banking fraud?

http://www.goldmadesimplenews.com/gold/what-gives-money-value-and-is-fractional-reserve-banking-fraud-6385/