Monetary policy is in turmoil. Ever since the financial crisis engulfed eight years ago, 2. major main banks have fundamentally reformed the way they create and absorb money.
Their activism is unsucssesful to extinguish the fire. There are already plans to equip monetary policy along with new tools, such as the eradication of cash and “ helicopter money” in order to encounter the challenges of the instant and the near future.
One thing seems to be clear: the particular monetary policy of tomorrow will still be very different from that of today. The monetary system and the economy of the next day will be profoundly different from those of today. Can we predict this future?
The future is the result of the prior choices. Where there are options, the future is in principle uncertain. But this matter of fact needs to be put into perspective. Monetary history has been solid under the impact of particular forces that tirelessly force for an inflation of the money supply. These forces are in work today as at the dawn of time, and they will not really disappear tomorrow. It is therefore fascinating to identify them, to imagine their particular extension into the future and also to assess them in the light of economic analysis.
This is what we suggest to do in this article. In the very first part, we will study the main forces at work in the creation of money, as well as the resulting developments. Part two will be dedicated to analysing the current situation and shorter-term trends. In conclusion, we are going to contrast two interpretations of this evolution: the classical eyesight, anchored in the conviction how the production of money is not a reason of the wealth of nations, and the mercantilist-Keynesian vision, in line with the opposite conviction.
Causes and Finality associated with Inflation
The term inflation is today generally defined as a sustained embrace the level of money prices (price-inflation). But its etymological root refers to an artificial expansion from the money supply which outcomes most notably from state interventions (see Hü lsmann, The Ethics of Money Production , chaps 5 and 7). It is this particular phenomenon that is at the heart associated with world monetary history. Often and everywhere, political energy seeks to stimulate the availability of money for its own advantage. We must therefore first and foremost consider the economic mechanisms that are at the office here.
The Root Mechanism: Cantillon Effects
Money is an economic good that is generally used as a medium of trade. It represents a very water and desired purchasing power. Its production is as a result a source of income. These days the most important producers of money are usually central banks (which create base money) and commercial banks (which create money substitutes). Banks produce money because this production is a income source for them, just as miners get rid of silver and gold from the ground as this extraction is a source of income on their behalf.
One may object that this would not hold true if money were strictly neutral with respect to the genuine economy. For example , suppose that an increase in the money stock associated with 10 percent eventually leads to a boost in all money prices, also by 10 percent. At the end of this technique, all market participants would therefore be in the exact same real situation as at the beginning. Everybody’s money income would have improved by 10%, but expenses would have kept pace. Therefore , in this light, it seems that improving the money stock is in vain, because it cannot create any kind of real income for anyone.
However , it must be taken into account that, following an enlargement of the money stock, person prices do not increase simultaneously and in the same proportion, but at different points of your time and in different proportions. This effect is called the “ Cantillon Effect” after Richard Cantillon who described it at the beginning of the 18 th one hundred year in his book Essai sur la nature du commerce en gé né ral ( An Essay on Economic Theory ). The uneven impact of money production on individual prices creates winners and losers. Winners are those that sell at prices that will increase faster or more dramatically than the prices at which they buy; and losers those who suffer the reverse.
This redistribution associated with income takes place in particular for your benefit of the first owners from the new units produced. Indeed, these can exchange the new models as long as the price level is still at its initial level; while those who use the brand new units last have to pay higher purchase prices already just before they can increase their spending.
The Long-Run Propensity: Forced Socialisation of Money
Whatever the monetary program, any production of money results in a redistribution of income in favour of the producers as well as the first users of the brand new units. But this effect is particularly pronounced in the case of “ cheap” monies, which have the form of tokens, banknotes, or even accounting money. The only problem is that such monies, precisely because they can be multiplied effortlessly, do not normally have the confidence that is necessary to give them general circulation. If they do not have politics backing, they tend to be rejected by users.
However , with the support of state interventions, it is possible, within certain limits (competition from all other currencies, hyperinflation, etc . ), to impose them out there. Then the state benefits, as well as the agents in charge of the technical execution of this imposition can also profit from this imposition.
There is therefore an over-all tendency for the state to get ever more involved in the production pounds, in order to obtain these benefits. This tendency can be noticed in monetary history from longevity to the present day. It is a propensity. The men and women in political power understood very early on the material advantages that will spring from monetary surgery. But their political opposition recognized this, too. Accordingly, says have seldom been able to impose overnight a monetary system that leaves them free to increase the money supply as they see fit. The development of monetary systems has been made by trial and error around a general trend. Sometimes it was interrupted very abruptly (for instance, during the abandonment of the Assignats and Territorial Mandates at the end of french Revolution), but it immediately continued its expansionist trend.
The Final State of Monetary Interventionism: The Monetary System of the Future
In view of the facts that we get just established, we consider that the general tendency of monetary development is to the monetary system which provides the greatest liberty of action in order to political power; or, to state the same thing from the opposite politics point of view, towards the monetary program which subjects the population to the most arbitrary choices of political power and which usually therefore creates the greatest monetary tyranny. In order to form a reasonably correct idea of the future of cash, it is therefore necessary to imagine this kind of system. In our opinion, it is distinguished by five characteristic features:
(1) There is only one base cash and there are no money substitutes (no secondary currencies).
(2) This cash can be produced without cost.
(3) Politics power controls the production of money.
(4) Political power is completely free concerning how to use any new products: it can give them away, exchange all of them, or lend them.
(5) Political power can also control, without cost, all the already existing units pounds, which are held by the brokers of the private sector: individuals, associations and firms.
Such a system might be set up on a national or regional level. In this case, the monetary freedom of the state would still be limited by competition from other monies. But this technique can also be achieved globally, then the monetary freedom from the state would be at its apex.
It really is clear that such a system has never existed. However , today, the monetary systems from the civilised world have come nearer to it, most notably because of the technical progress of the last fifty years, especially in information plus payment systems. Let us thus take a closer look at present practice, both to assess the gap that still prevails between it and our own future monetary system, and order to anticipate the next steps in monetary development.
The Current Situation
The various monetary techniques that exist today in different nations of the world are variations of the same model that has emerged over the last two generations. This model first appeared within the Anglo-Saxon countries before this spread more widely throughout the West and then around the rest of the world.
The Prevailing Model of a Monetary Program at the Onset of the twenty one st Century
This particular model is distinguished simply by strong state interventionism in regard to institutions (central banks and various public banks) and regard to monetary plus financial regulations; by the presence of a hierarchical banking system involving central banks on a single side, and commercial banks on the other; by a parallel circulation of base funds, produced by central banks, and multiple money substitutes, made by commercial banks (notably current accounts created by commercial banks); by the global imposition of fiat monies to the detriment of traditional metallic foreign currencies; by close cooperation involving the central banks of the richest regions; by a growing central intelligence of financial flows and a growing hold simply by central institutions over the monetary and financial assets of citizens; and by the theory of money production by way of credit score.
What sets apart this model from the financial system of the future that we have sketched above? On the one hand, the politics control of the money units that are already in circulation, whilst quite strong, is not yet fully achieved. On the other hand, and most importantly, the state’s liberty to produce money is still quite limited, in particular by the principle of money production by way of credit. Let us look at these two points in a little bit more detail.
The political control of money held by private brokers is already quite firmly entrenched, although it is not yet ideal. Today most of the money share is produced by private banking institutions, and central banks themselves have a status of comparable independence from governments. Nevertheless , this independence of central banks stands on shaky grounds. It can be abrogated immediately by simple parliamentary majorities, and the appointment of their directors remains subject to political approval. As for the commercial banks, they may be already very strongly limited by financial regulations, plus they are dependent on refinancing from central banks. In addition , thanks to advances in information technology, all money units that exist in scriptural form (accounting money), whether in a central bank account or even a commercial bank account, are, on the purely technical level, modifiable (in particular taxable) according to the political imperatives of the minute. The only money units which escape this control are those which exist in the form of banknotes, held in a more or less anonymous strategies the purses and value chests of the private sector.
As far as the particular liberty to produce money is concerned, the action of banks is always limited, somewhat simply by competition and much more so by principle of producing cash by way of credit.
In the current situation, there is not just one money. There is a multitude of bottom monies and an even greater large number of monetary substitutes. This competition undoubtedly places limits on the liberty of action of every of the central banks. But the increased cooperation between main banks and financial regulation in recent years have created solid tendencies towards the cartelisation of the banking sector, both general public and private.
The most important constraint weighing at the production of money lies in the fact that this production must occur, in principle, by way of credit (this is the principle of the banking-style production of money, observe Mises, Theory of Money and Credit , chap. sixteen, section 1). Neither public nor commercial banks are free to create money simply by unilateral acts. To create money, they must find a borrower. They may be therefore constrained by the permission of potential borrowers, respectively by the latter’s capacity to take on more debt.
Traditionally, this constraint continues to be eased by lowering interest rates to mobilise marginal borrowers who previously were not however willing to take on debt. Yet after the onset of the 08 crisis, central banks forced interest rates close to zero, yet they struggled to find borrowers.
This constraint of the “ zero frontier” of the interest rate is reinforced, on the one hand, by the prudential approach to credit which has traditionally centered banking practice and based on which bank loans should be granted only in the short term, only to creditworthy counterparties, and only secured by first-rate collateral. On the other hand, this constraint is reinforced by conventional practice of main banks, which is not to lend directly to governments, but only through the interposition of commercial banks.
It is true that these limitations have been melted in recent years in the context from the fight against the crisis. The central banks of the Eurosystem have started to lend on the longer-term basis, to clearly insolvent firms and claims, and against low-quality security. They began to lend a lot more directly to governments in the Eurozone, bypassing commercial bank intermediation. They have also circumvented the very principle of banking-style cash creation, especially through currency-swap operations with other central banks. Some central banks (notably those of Switzerland, Japan and the United States) have even started buying company gives on the stock markets.
All the same, the theory of money creation by way of credit score remains in force. It constrains the liberty of actions of central banks and therefore slows down the expansion from the money supply. What are the possible solutions? There are two, one which respects the traditional principle of banking-style creation of money, and something which requires its abandonment. The first is that of negative interest rates, the second that of “ helicopter money. ” Both need a prior elimination of money and the establishment of a monopoly of accounting money. Allow us to explain this in more detail.
Negative Interest Rates and the Elimination of Money
Negative interest rates have long been used (in Switzerland and Japan) in order to penalise money hoarding. What is new about the current situation is that they are also used to encourage debt. The idea is that the borrower receives 100 pounds today to return 98 euros tomorrow. Instead of paying the lending company to save, it is the borrower who will be paid to get into debt, because this debt goes hand in hand by having an expansion of the money provide.
This approach will not pose any particular technical difficulties for central banks. On the one hand, they enjoy a monopoly and their clients are forced to have accounts with them. On the other hand, they can create fiat money — a fiscal good in its own right and which is not a declare on any underlying good. Since fiat money could be produced almost free of charge, it is also lent at negative rates (therefore at a loss) without entailing any life-and-death difficulties for central banks.
Things are much harder for commercial banks. These do not have a monopoly place on the market. Above all, they do not develop fiat monies, but only money substitutes. The latter are claims on fiat money and can therefore be converted into money at the simple request associated with account owners. Commercial banks could grant loans with negative rates only if they can also tax the property in their customers’ accounts, along with even more negative rates. For example , to profitably lend one hundred dollars to Smith in -2%, it would be necessary to inflict a rate of -3% on Brown’s 100 dollar bank account. However , negative rates on checking accounts are not possible as long as there is the option of cash withdrawal. Brown, in our instance, would simply make a drawback. Instead of holding 100 dollars in his bank account, where this sum would be taxed with 3%, he would hold it in cash without paying this tax. For commercial banking institutions, this would have a negative consequence: they would lose the funds they need to make loans.
One could imagine that central banks would fill the void left by running bank customers, by lending generously, at negative rates, to customer-deprived commercial banking institutions. However , as long as there is the chance of cash withdrawals, this approach would quickly lead to hyper-inflation: any sum borrowed at – 3% from the central financial institution and loaned at – 2% to a client will be immediately withdrawn in money. Customers would be relentlessly asking for new loans— after all, these are being paid to go into debt— and thus the central bank would be forced to boost the money supply at an speeding up rate. The end result would be an inflationary spiral followed by the collapse of the demand for money, and therefore of the monetary program.
This trouble could be avoided by outlawing cash withdrawals and, ultimately, any use of banknotes plus coins. As a result, the customers of commercial banks could no longer prevent being taxed by harmful rates on the value of their particular checking account holdings. Even if these people left their bank plus opened another account elsewhere, they could not escape the tax. Another advantage of getting rid of cash, at least from the viewpoint of central banks, would be the facilitation of “ bail-ins” to save over-indebted commercial banks.
Helicopter Money and the Elimination of Cash
Hence, we see the central role played by the abolition of money in facilitating the further expansion of money and credit today. But outlawing cash might play an almost equally natural part if ever it were chose to throw overboard the basic principle of money creation by way of credit and adopt what in current jargon is called “ helicopter money. ”
This expression describes a famous article by Milton Friedman on the optimum amount of money. Issuing money from the helicopter means issuing money without going through credit. Friedman had in mind to concern new money by way of a gift : drop 1000 dollars in banknotes from a helicopter and that money is going to be collected for free by the people who are luckily standing just below. But fiat money can also be issued by purchasing all kinds of economic goods that are not financial debt securities. For example , the central bank could simply spend all new money units into the personal accounts of its directors and managers. Or it could give blank checks towards the finance ministry which would invest them on public investments or for other purposes.
There are thus many “ non-banking-style” tips for issuing fiat currency. They were known long before 1969, whenever Friedman’s article appeared. Certainly, in the 19 th century and before, it was not uncommon for banknotes, whether transformable or not into precious metals, to be issued in a non-banking-style manner. Perhaps the most famous example is that of the Assignats .
Repealing the principle of banking-style money creation in favour of the particular principle of non-banking-style money creation would all at once produce greater liberty of action for central banks. There is no more constraints, neither technical, nor commercial, nor lawful on the expansion of the money supply. There would just be one technical problem: it would be difficult for central banks to control the money products that are already held from the public. Under the banking-style creation of money, central banks may absorb sums already within circulation, by tightening the particular conditions for granting credit. Under the principle of non-banking-style money creation, this chance would no longer exist.
However , this problem might be solved by outlawing money. If all money devices had to be held in bank accounts, then it would be possible to manage the money stock by challenging the accounts. Thus, we all see again the central issue of the elimination associated with cash at this current instant in monetary history.
How to Assess This Transformation?
We now have just analysed the forces at work in the transformation associated with monetary systems and the resulting trends. The long-term trend is towards greater liberty of action for the state. We have seen that this development implies, in the short term which is our bait, that monetary authorities come with an incentive to outlaw money and also to suppress the process of the banking-style creation of money.
We have intentionally side-stepped the question how these types of trends stand up to scrutiny from an overall economic, political, plus social perspective. But this question does arise and the answers are very different depending on the colleges of economic thought.
From the point of view of present-day standard macroeconomics, which is Keynesian to the core, financial history is a succession associated with technical changes to help an increasingly large inflation of the money supply for the benefit of the greatest number, yet without having running the danger of hyperinflation, because this would risk wrecking the tool of the publishing press. From this point of view, monetary policy has the delicate task of finding the transmitting channels which allow the finest increase in aggregate revenue using the least expansion of the money supply and the least embrace the level of prices.
From the perspective of the classical economists and, today, of the Austrian School, monetary history is an ongoing struggle among those who use political capacity to generate illegitimate incomes and those who oppose any such efforts. In the eyes of the Austrians, the inflation of the cash stock does not have a positive overall impact. It stimulates employment and growth only within the short run, and invariably at the cost of capital consumption, that will hurt growth and genuine wages in the longer operate. In addition , the Austrians think about that monetary inflation causes multiple forms of collateral damage at the political , economic and cultural levels. Let us mention some of them in conclusion.
The improved monetary liberty of motion of the state necessarily goes hand in hand with the monetary enslavement of the rest of the population. Once the state possesses the liberty to control all bank accounts, the particular citizens do not have the freedom to use their money as they see fit, no matter what. When the condition has the liberty to produce just as much money as it wishes, then your monetary purchasing power kept by citizens is subject to the arbitrariness of federal government intervention.
The rise of fiat funds reinforces the dependence pounds users on banks. The establishment of central banks reinforces the habits of political and financial centralisation . It also gives rise to a kind of institutionalised irresponsibility, these days called “ moral hazard. ” Indeed, all market participants are used to the presence of “ lenders of last resort” and neglect their own precautions. Under the inflationary expansion of money and credit score, the financial system is therefore weakening all the while it really is centralising . The appearance of periodic banking crises within the 19 th century, and the determination of these crises until the current day, provides an illustration.
The principle of banking-style money creation has became a member of at their hips the expansion of the money stock and the growth of the credit market. The consequence will be the so-called financialization of the economic climate, so decried since the 1990s, but already at work in the 19 th century. And last but not least, monetary expansionism is at the root of significant income and wealth inequalities .
- *. This particular paper was first published under the title “ L’avenir de la monnaie” in “ Comprendre la finance, ” special issue, Problè mes é conomiques , hors-sé rie no . 10 (September 2016): 96– 103.