His­tory of money de­bunks no­tion of state­less cur­ren­cies

Irish Independent - Business Week - - BUSINESSWEEK - Ed­ward Hadas

“I PROM­ISE to pay the bearer on de­mand the sum of twenty pounds.” Cu­ri­ous Bri­tish chil­dren some­times ask their par­ents the mean­ing of this state­ment, printed on ev­ery £20 note. Be­fud­dled el­ders can find the an­swer in the ex­cel­lent ‘Mak­ing Money: Coin, Cur­rency and the Com­ing of Cap­i­tal­ism’, by Chris­tine De­san.

The 2014 book cov­ers English mon­e­tary his­tory from An­glo-Saxon days to the be­gin­ning of mod­ern times, with a con­clu­sion that takes in some cur­rent is­sues.

It turns out that the words on the bank note are the last rem­nants of a long­stand­ing lie about pa­per money. The un­truth is that cur­rency is only worth as much as the gold or sil­ver that it can buy.

‘Mak­ing Money’ traces the his­tory of the ac­tual re­la­tion­ship be­tween these valu­able com­modi­ties, the coins used and mon­e­tary ac­counts kept in Eng­land.

Bri­tish pa­per money started as a claim on the loan ac­count from the Bank of Eng­land to the gov­ern­ment.

The share­hold­ers of the BoE, which was a pri­vately-owned in­sti­tu­tion un­til 1946, wor­ried that peo­ple would not ac­cept the notes un­less the gov­ern­ment promised that they could be cashed in for gold coin.

So like the father in the story of Rumpel­stilt­skin, who said his daugh­ter could spin straw into gold, the BoE promised to turn pa­per money into pre­cious metal.

But there was no lit­tle man to per­form mir­a­cles on Thread­nee­dle Street. There was just a po­lite fic­tion. The store of gold was al­ways far too small to match the is­sue of notes. In 1797, when too many peo­ple ac­tu­ally asked for gold, the BoE ar­ranged for par­lia­ment to free it from the com­mit­ment to con­vert­ibil­ity.

The fic­tion of gold back­ing was re­stored in 1821, in what came to be known as the gold stan­dard. The al­ways-false prom­ise of gold re­pay­ment was fi­nally aban­doned a lit­tle more than a cen­tury later, leav­ing only the printed words to con­fuse at­ten­tive chil­dren.

The pres­ence or ab­sence of gold pseudo-back­ing has no ef­fect on the value of notes. That’s be­cause the value of money does not come from any tan­gi­ble com­mod­ity.

It is al­ways cre­ated and pro­tected by some public au­thor­ity, be­cause the money sys­tem is deeply em­bed­ded in so­ci­ety. Money is al­ways what De­san calls a gov­er­nance project or a con­sti­tu­tional un­der­tak­ing.

A pro­fes­sor of law at Har­vard Uni­ver­sity, she cites ev­i­dence from her own field and also from his­tory and phi­los­o­phy, with a bit of an­thro­pol­ogy and so­ci­ol­ogy thrown in.

Gov­er­nance comes with gov­ern­ments. While pri­vate banks cre­ate most of the money sup­ply these days, the ul­ti­mate po­lit­i­cal au­thor­ity still pro­vides the ul­ti­mate guar­an­tee of mon­e­tary value.

No other per­son or or­gan­i­sa­tion can per­suade peo­ple to ac­cept a to­ken which “must de­liver value im­me­di­ately… for strangers as well as friends, for those with­out trust or fur­ther con­tact as well as those who can re­cip­ro­cate at a later time”.

De­san shows how the English sys­tem grad­u­ally changed. For cen­turies, peo­ple paid the gov­ern­ment some quan­tity of gold or sil­ver to turn the rest of their specie into state-ap­proved coins. By the be­gin­ning of the 18th cen­tury, it was the gov­ern­ment which paid in­ter­est on debts that were con­verted into pa­per money and which al­lowed bank ac­counts to be de­nom­i­nated in the same cur­rency.

The jour­ney from coins to ac­counts was marked by scan­dals, crises and de­pres­sions. Some­times the gov­ern­ment ig­nored or even abet­ted mon­e­tary ex­cesses; some­times it put dis­as­trous lim­its on the sup­ply of money.

The path might have been smoother if more peo­ple had un­der­stood ear­lier that money was es­sen­tially man-made. Then again, public trust in what was ac­tu­ally fiat money may have been en­hanced by Bank of Eng­land’s sin­cere be­lief in the un­truth that this back­ing ex­isted.

Though ‘Mak­ing Money’ is a his­tory, the past sheds light on some cur­rent ques­tions. First, ridicule is the right response to sug­ges­tions that gov­ern­ment-backed money could give way to gold or some pri­vate sys­tem us­ing an elec­tronic to­ken. Money and states are too en­twined ever to be sep­a­rated.

Sec­ond, the con­trol of money is po­lit­i­cal, rather than tech­ni­cal. A cen­tral bank’s mon­e­tary pol­icy re­quires es­sen­tially po­lit­i­cal judg­ments be­tween debtors, who wel­come un­ex­pected in­fla­tion, and cred­i­tors, who gain from sta­ble prices. There are no tech­no­cratic an­swers to that dilemma.

Third, there is noth­ing nat­u­ral or in­evitable about let­ting profit-seek­ing pri­vate banks con­trol the money sup­ply. They only ac­quired this role through a his­tor­i­cal ac­ci­dent and they are ex­ces­sively prone to eco­nom­i­cally dam­ag­ing mood swings.

Fi­nally, here’s some ad­vice for BoE Governor Mark Car­ney. The next time you ap­prove a new de­sign for a ban­knote, get rid of the “prom­ise to pay”. Par­ents will be grate­ful.

(Reuters Break­ingviews)

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