We’re at a turning point in history. This could be said of many things, but it is certainly true of the modern monetary system. Like most transitions in life and in history, the monetary system’s transformation is occurring slowly, then suddenly, in that the changes are almost imperceptible but then, like all cataclysms, will eventually be impossible to miss.
The last time the world’s monetary system fundamentally changed was in the first half of the twentieth century when, nation by nation, the world went off the gold standard and adopted fiat, i.e., government issued paper currencies backed by nothing more than the “faith and good credit” of the issuing government. The century-long fiat era—characterized by debt fueled monetary growth and runaway government deficits and national debt—is almost certainly drawing to a close.
Facing galloping inflation driven by war economies, the modern world could no longer bear up under the hard money system represented by the gold standard. Their currencies, economies and governments would collapse under their own weight. The world entered the fiat era, defined by U.S. dollar dominated global flows, a money supply that expanded and contracted based on debt issuance, and increasingly leveraged governments who discovered that the natural constraints on spending beyond the nation’s means no longer existed. Running deficits? Simply raise more debt and print more money.
The U.S. abandoned the gold standard for domestic transactions under President Franklin D. Roosevelt in 1933 (including making it illegal for U.S. citizens to hold gold coins or bullion), and ended the dollar’s convertibility into gold for international transactions under President Nixon in 1971. Both actions were taken during times of great economic stress, the Great Depression in the first instance and stagflation (high inflation and high unemployment) and loss of faith in the dollar by trading partners around the world—suddenly demanding to be paid in gold—in the second.
We are nearing another equally significant shift away from fiat to something yet to be defined. The high and growing levels of indebtedness relative to GDP across the Western world are not sustainable. They will either have to be defaulted, taxed, and/or inflated away. Any alternative is likely to be extremely painful and worse, politically, and socially destabilizing. In fact, the consequences appear so grave that nations around the world are exploring what the new monetary order might look like and how to navigate it. Whether this process takes five or fifty more years is debatable, but its occurrence is inevitable.
As far as I can see, there are three alternatives vying for the future of money in a post-fiat era: going back to a hard money system like gold, adopting a government controlled alternative like China’s central-bank issued digital currency (CBDC), which could be backstopped by some basket of commodities (as Russia is considering for the Ruble) in a new digital version of a fractional reserve system, or a non-government controlled system such as what Bitcoin proports to become.
The Federal Reserve argues that going back to the gold standard doesn’t make sense because “it doesn’t guarantee financial or economic stability,” “it’s costly and environmentally damaging to mine,” and “the supply of gold is not fixed.” While the global supply of gold is not fixed, it grows by an average of only one or two percent a year as a result of mining production constrains. Compare this to the U.S dollar, which supply has been grown at an average of over seven percent per year for two decades (such that the total amount of money stock has tripled since the global financial crisis). A bigger issue for the U.S. is that on a combined basis Russia and China have three times greater gold production than does the U.S., which sits at a distant fifth globally. Deeply indebted, the U.S. and the West simply cannot bear a return to the gold standard and the enforced fiscal discipline it requires.
The CBDC alternative, such as China’s digital Yuan, could rightly be called surveillance currency. It is a centralized, authoritarian, and privacy eliminating alternative that will allow governments to impose a complex but through system of rewards and punishments on its citizens. Every transaction will be seen and monitored by government authorities, and antisocial behavior (however the State defines it) quickly addressed. There are many legitimate reasons for wanting one’s transactions to remain private (medical records, charitable or political donations, or legal but quirky lifestyle choices, to name but a few), but nothing will be hidden in the world of CBDC surveillance currencies.
Cryptocurrencies such as Bitcoin and Ethereum propose an intriguing alternative. By design, they are anonymous, private, decentralized, stateless, trustless, bankless, requiring no intermediary or issuing authority. These are wonderful principles. And they are exactly the reasons that governments ultimately won’t tolerate them. Crypto poses a threat to both the legacy fiat regime and the emerging world of CBDC surveillance currencies. As a result, the probability of crypto eventually being criminalized, marginalized, or regulated away into oblivion seem high over the long-run. But in the meantime, it remains an attractive alternative to inflationary fiat.
I don’t know which system will prevail in the future, but I fear it is likely to be nearer to CBDC surveillance currency model that the libertarian and freedom loving world of crypto. Such an authoritarian outcome should be strongly resisted for as long as possible.
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