Talk:Fiat currency

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In general, the Wikipedia articles (gold standard and fiat currency) need to attribute beliefs to the relevant economic schools of thought. Many of the statements in the current articles appear to be statements of faith, not fact, and they don't, in general, acknowledge which school of thought they are from. This BIG problem kind of overwhelms a lot of the little problems.


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[edit] start again?

In general, the Wikipedia articles (gold standard, fiat currency, related ones) need to attribute beliefs to the relevant economic schools of thought. Many of the statements in the current articles appear to be statements of faith, not fact, and they don't, in general, acknowledge which school of thought they are from. This BIG problem kind of overwhelms a lot of the little problems.

[edit] several problems here

Andrew Jacksons destruction of the "Bank of the United States", was not -at all- a declaration that government backed currency was illegal -you may have been deceived by the name of the bank, as many are. The "Bank of the United States" was actually a privately owned bank which, through fractional reserve banking, was sucking the lifeblood out of the economy -then and today through the falsely named "federal reserve bank" and banking in general (again via fractional reserve banking).

What most people fail to realize when contemplating banking is that banks aren't earning 5-10% interest based on their loans, they earn vastly more than this (in an expanding economy) because the fractional reserve system allows them to issue 10 times what they hold in reserves, functionally allowing them to 'earn' 50-100% on reserves. As most 'money' in the economy comes through bank loans and as repayment of interest is often far more than the principal, banks functional drain money from the economy UNLESS the economy is growing INFINITELY (and subsequently destructively consuming the FINITE resources of the planet). This means that with fractional reserve banking, FIAT money can never be functional unless the economy is self-destructive i.e. a pyramid/ponzi scheme.

Further, the US dollar, while not backed by metal gold, is backed via the saudi bourse, by black gold. This is the reason why the US economy can maintain such high trade deficits, as so many of the US trade partners must buy their oil with US dollars. i.e. if they revalued their currency against the US dollar, the price of oil would naturally go much higher and they'd have to pay far more while simultaneouly losing business as the deficits rebalanced.

If you have any questions for me about these points, email me:

tyler (at) earthsociety.org

_____________

You neglect to consider the liabilities of banks (ie deposits) which multiply under fractional reserve banking and return the bulk of the income to broader society. Banks manage credit not money. Every business has limited cash reserves.

Terjepetersen 20:54, 28 February 2006 (UTC)----

[edit] Bad start

I have several problems with this article but let's just start with the first sentence:

Fiat currency or fiat money, is money that is current or legal tender as satisfaction for money debts simply and only by government fiat i.e. by arbitrary order or decree, by nothing more than law.
  1. To define currency in terms of the word "current" is reflexive and therefore not helpful.
  2. Not all forms of a fiat money are legal tender. Legal tender refers to the lawful (i.e. legal) forms of payment (the meaning of the word "tender") in a particular currency. What constitutes legal tender depends upon (a) the currency, (b) the jurisdiction, (c) what the payment is for, and (d) the amount of the payment. In some jurisdictions only certain coins of a currency are legal tender for that currency, in others only the bank notes, etc etc. Not more than a small number of coins can be used in some places, for some things. So the term "legal tender" is used incorrectly here.
  3. Again and again in WP we find the assertion that all debts can be satisfied by the payment of "legal tender". No. Legal tender is simply a form of a currency which MUST be accepted in discharge of a debt denominated in that same currency. If I owe pounds sterling I cannot legally tender (see where the term comes from?) US dollars. And vice versa.

OK. I'll stop there, for now. Paul Beardsell 04:15, 6 January 2006 (UTC)

I agree with all your points. Fiat Currency is merely currency that is created by a government and is accepted in a community as money proper. The reason for the acceptance may vary from coercion, prohibition of alternatives, superior stability or some other form of superior utility. Fiat Currency is characterised by the fact that it is not redeemable for anything (ie it is not a promisory note). As such it is one form of money proper (there are other forms such as commodity money) and it is not merely a credit substitute. Terjepetersen 10:15, 7 January 2006 (UTC)


[edit] Bad example

I find this statement deceiving:

"One recent example was the Argentine bust which followed the unravelling of its “currency board”. Instead of being linked to gold, the peso was linked to the U.S. dollar, which served as the hard money basis. When an economic crisis hit, dollar reserves fled the country, causing the monetary basis to collapse."

How can "dollar reserves flee the country", I think what must have happened is that they were spent. This hardly seems like a problem with the monetary system, but rather simply a reflection of a collapsed economy. If you spend all the money, you've spent all the money! In effect, wouldn't this be a testament to the success of the system, the government was not able to pretend that they hadn't spent all by simply printing more money, ensuring that the money did not inflate?


[edit] OK, this example is meaningless

"A further illustration of the irrelevance of physical convertibility can be seen by supposing that a bank issues two kinds of paper dollars: one redeemable for one ounce of silver throughout the year and another redeemable for the same amount of silver, but only at the end of a year. If the market interest rate is 5%, and if it is costless to issue paper dollars, then the inconvertible dollar must start the year worth about .95 ounces, rise to about .97 ounces at mid-year, and finish the year worth exactly 1 ounce. Any other values would result in arbitrage opportunities. For example, if the inconvertible dollar started the year worth .96 ounces, then each time the bank received .96 ounces of silver in exchange for a newly-issued dollar, it could lend the .96 ounces at 5% interest, be repaid 1.01 ounces at year-end, pay off the paper dollar with 1 ounce, and earn a free lunch of .01 ounces.

What is the value of the convertible dollar? A little reflection will convince the reader that it too must start the year at .95 ounces, reach .97 ounces at mid-year, and finish the year at exactly 1 ounce. That is, the issuing bank must actually raise the amount of silver it will pay for a dollar over the course of the year, or arbitrage opportunities will result. For example, suppose that at the start of the year, customers can deposit .95 ounces and get one paper dollar in exchange — a physically convertible dollar that can be returned to the bank for .95 ounces if the customer desires. If that dollar remained at .95 ounces over the whole year, then at the end of the year the bank will have received a free lunch of .05 ounces — a free lunch that will attract rival bankers willing to pay 5% interest to the holders of their dollars."


How can any logic be derived from this example without specifying how the notes are issued to start with? They don't just get issued, they get sold, but at what price? How much silver is paid for these two notes to start with? Obviously at the begining of the year, one would pay the bank a full ounce for the note that is convertible (back to 1 ounce), but only .95 ounces for the one that wasn't! This example is therefore bogus.

I agree, I am going to remove those two paragraphs as it is more confusing (and erroneous I believe) than it is informative over what I see is something quite simple. A physically convertible currency is affected by the interest rate of the specie or commodity that is backing it. And by the way, no one knows what the actual interest rate for anything will be for the year. That would be the same thing as predicting the future. Also, a 5% interest rate would not increase 0.95 to 1; it would increase to 0.9975. 5% interest would raise 1 to 1.05.--Acefox 00:10, 25 November 2006 (UTC)

[edit] Currency as a brand

I've wondered for a long time why people are willing to accept a currency that is not physcially convertible. And "financially convertible" sounds to me too much like "bootstrapping", which is worrysome to me as a mathematician.

So I rescently discovered some important fact of the media / ad industry, namely that adverts often promote something other than the owner of the relevant trademark. For example, shop owners will seldom put up a sign saying "Ice cold softdrinks available here". Instead they'd rather put up a "Coca-cola" sign, giving "Coca-cola" free media exposure.

Now many ads include prices e.g. "Coca-cola now only $1". Therefore currencies gets free media exposure almost everywhere you look. My guess is that this media exposure is of the order of a hunderd of billion of dollars every year (based on global adspend). This means that the dollar is the largest brand to ever exist. It also means the brand equity of the dollar rivals the value of the gold backing the dollar.

I'm sure someone figured all this out before me, but why does the article not mention any of this ? -- Nic Roets 13:49, 6 August 2006 (UTC)

To elborate : Paper carrying the signature of the central bank president trade at a premium to a blank piece of paper, just like an official FIFA soccer ball will command a premium over an unbranded soccer ball. -- Nic Roets 19:28, 10 August 2006 (UTC)

[edit] NPOV/ factual accuracy

I put the warning due to this:

The importance of financial convertibility can be seen by imagining that people in a community one day find themselves with more paper currency than they wish to hold — for example, when the Christmas shopping season has ended. If the dollar is physically convertible (for one ounce of silver, let us suppose), people will return the unwanted dollars to the bank in exchange for silver, but the bank could head off this demand for silver by selling some of its own bonds to the public in exchange for its own paper dollars. For example, if the community has $100 of unwanted paper money, and if people intend to redeem the unwanted $100 for silver at the bank, the bank could simply sell $100 worth of bonds or other assets in exchange for $100 of its own paper dollars. This will soak up the unwanted paper and head off peoples’ desire to redeem the $100 for silver.
Thus, by conducting this type of open market operation — selling bonds when there is excess currency and buying bonds when there is too little — the bank can maintain the value of the dollar at one ounce of silver without ever redeeming any paper dollars for silver. In fact, this is essentially what all modern central banks do, and the fact that their currencies might be physically inconvertible is made irrelevant by the maintenance of financial convertibility. Note that financial convertibility cannot be maintained unless the bank has sufficient assets to back the currency it has issued. Thus, it is an illusion that any physically inconvertible currency is necessarily also unbacked.

It doesn't make any sense and seems to assert as fact that whether or not there is a gold standard "doesn't really matter". In the example, what is going on? The customers deposited silver for a warehouse receipt entitling them to silver. Now, how does issuing bonds head off the run? The bank still has to pay those bonds with interest, despite doing nothing to increase its reserves. The passage would imply that I can start a storage facility for some asset, then pocket the asset for myself, and nobody would mind. If someone doesn't clarify what this passage is saying, I'm going to have to delete it. MrVoluntarist 16:26, 15 October 2006 (UTC)

Let me state right off that I have little familiarity with monetary theory, so feel free to ignore me. However the example seems fairly clear to me. The issuing of bonds in the example has nothing to do with heading off a run, but offering "financial convertability" as an alternative to "physical convertitibility". The bank pays the interest owed with the interest paid on loans (not in example). It works for money and not other assets because it is not the actual "thing" (gold, silver, etc) that is desired in the case of money, but its purchasing power. --T. Mazzei 02:21, 24 October 2006 (UTC)
I understand that the passage is explaining the relative importance of physical or financial convertibility, but it quite clearly does have to do with heading off a run. Like it says right here: "If the dollar is physically convertible (for one ounce of silver, let us suppose), people will return the unwanted dollars to the bank in exchange for silver, but the bank could head off this demand for silver by selling some of its own bonds to the public in exchange for its own paper dollars." Nor will the incoming loan money cover it, because the incoming loan money is already allocated to pre-existing obligations. The passage implies I can start e.g. a gold warehouse, issue receipts, steal the gold, and then keep issuing bonds to get new gold receipts to get people to go away. MrVoluntarist 03:21, 24 October 2006 (UTC)

I agree that it not neutral. Any suggestions on how to improve it? --Benn Newman 16:27, 21 October 2006 (UTC)

Well, as it stands, it seems to be both false, and POV, so I'd like to remove it in it's entirety. However, I have seen the same argument elsewhere, so I think it's trying to convey an important idea, so I'd prefer a rewrite to a removal. So, first I want to understand what the passage is trying to say so I can better clarify the idea it's presenting here. It sounds like a statement of the Real bills doctrine, except that, even accepting the validity of RBD, it's applying it incorrectly. That's why I first want to hear from someone who wrote or agreed with that passage. MrVoluntarist 20:50, 21 October 2006 (UTC)
The whole thing needs to be rewritten. Making it one-tenth as long wouldn't be a bad start. Demanding references on anything added after that would be even better. Smallbones 17:54, 29 October 2006 (UTC)


I wrote the section on physical vs. financial convertibility (sproulmike@yahoo.com). Everyone agrees about physical convertibility--one dollar can be redeemed for one ounce. Financial convertibility seems to be misunderstood. It only means that a bank stands ready to use its bonds to buy back the dollars it has issued. For example, if the Fed believes there is too much cash in the hands of the public (usually evidenced by a low federal funds rate), it will sell bonds, thus soaking up the excess dollars. The importance of financial convertibility is to correct the common misconception that if a currency is not physically convertible, it is unbacked. A currency can in fact be physically inconvertible but still backed by the bank's assets, and the more diligent the bank is in maintaining financial convertibility, the less physical convertibility matters.

This is, as you said, similar to the real bills doctrine. There is a further discussion in a UCLA working paper entitled "There's No Such Thing as Fiat Money". I forget the number, but that's why we have google.

Mike Sproul, you're the one I remembered from elsewhere claiming this. From what you've said, it sounds like original research. We'll need something better than a working paper to support this. At the very least, it needs to remove the references to bonds, which merely confuse the issue. I can see what it's saying about the money still being "backed", but that has nothing to do with the possibility of selling bonds.
Anyway, I still see a difference in btw, financial and physical convertibility. Let's say a bank takes 100 silver ounces and issues 100 notes entitling the user to an ounce of silver. You say that if the bank adds a house to its assets, worth 10,000 silver ounces (say), it can issue 10,000 more notes, without affecting the financial convertibility or value of the notes. That's wrong. If one day the real estate market crashed, and the house becomes worth only 5,000 silver ounces, there are notes outstanding that stake a claim to 10,100 ounces of silver, while the bank only has 5,100 silver ounces' worth of assets. Oops. Now how does the bank get out of this? MrVoluntarist 18:14, 16 November 2006 (UTC)


[edit] My suggestion

Okay, I'm going to take a stab at rewriting this section to say what I *think* was meant and without being POV or adding unnecessary suppositions. Here goes...

A distinction should be made between the differt kinds of convertibility:
Physical convertibility: A dollar can be redeemed at the issuing bank for a set amount of silver.
Financial convertibility: A dollar can be traded somewhere on the market (not necessarily the issuing bank) for assets equal in value to the dollar's quotal share of the issuing bank's assets.
In practice, if a bank maintains financial convertibility, no one will ever care about physical convertibility because they can already trade the dollar on the market for the same amount that a physical conversion would yield. It is possible to maintain financial convertibility without physical convertibility, which is seen in the following example: Assume a bank issues 100 dollars and maintains assets of 100 ounces of silver. Assume then that dollar holders find that merchants demand more than one dollar for an ounce of silver. In this case, the bank can sell its own silver at market prices until silver ounces trade for one dollar. The fact that the bank will not, on demand, redeem notes thus does not keep the notes from maintaining a value of one ounce of silver. In practice, this is how central banks maintain the value of their currencies, through such "open market operations".

Thoughts? MrVoluntarist 02:11, 8 December 2006 (UTC)


While banks can mantain the value of the currency with "open market operations" almost making physical convertability redundent. Requiring them to allow physcial convertability forces them not to endlessly inflate the money supply. Geoffsmith82 01:41, 15 December 2006 (UTC)

What does that have to do with what I posted?

Financial convertibility means that a dollar is redeemable for a dollar's worth of stuff at the issuing bank--not that it is just acceptable in the market. If the bank didn't maintain financial convertibility then the money would lose value in the market. I don't think ths rewrite is an improvement. (Preceding unsigned comment by 67.49.42.239 aka Mike Sproul)

Okay, first of all, and I know I should have said this before, but "a dollar is redeemable for a dollar's worth of stuff" is tautological. A dollar will always be redeemable, anywhere, for a dollar's worth of assets, because that is what it means for an asset to be worth a dollar. And that is why I thought it meant the dollar's quotal share of assets. Second, the whole point of distinguishing financial convertibility (which you added) was that it does *not* need to be redeemable at the issuing bank on demand, in order to have value on the market. That's the whole point of the example. Make sense. MrVoluntarist 00:10, 10 December 2006 (UTC)

If a dollar is issued by a bank in exchange for a bond worth a dollar, then if that dollar is no longer wanted by the public, that dollar can be returned to the bank in exchange for a bond worth one dollar. That dollar is financially convertible. If the dollar cannot be returned to the bank for a bond worth one dollar, then the dollar is financially inconvertible. Obviously a dollar will buy a dollar's worth of stuff on the market, but that is not what financial convertibility means. For example, if the bank wants to maintain the value of a dollar at one ounce of silver, then if it sees the value of the dollar starting to fall, it can sell a dollar's worth of bonds for paper dollars, thus soaking up the unwanted dollar and keeping the dollar equal to one ounce. Thus, by conducting ordinary open market operations, the issuing bank can make physical convertibility unnecessary. (Preceding unsigned comment by 67.49.42.239 aka Mike Sproul)

Do you see, though, how my complaint about the tautology affects this? The bank could publicly destroy all of its assets. Then the dollars (we assume) are worthless. And surprise surprise, a dollar will get you nothing at the bank -- a dollar's worth of assets. Is this what you mean by "maintaining financial convertibility"? Basically, having a recursive definition confuses the issue.MrVoluntarist 02:48, 15 December 2006 (UTC)

It is tautological to say "a dollar is worth a dollar", but not to say "a dollar is worth an ounce of silver". Saying that the bank uses financial convertibility to maintain the dollar at one ounce is equivalent to saying that the bank uses open market operations to maintain the dollar at one ounce. In conducting those open market operations, the bank is continually exchanging paper dollars for a dollar's worth of bonds, but that does not mean the value of the dollar is indeterminate; it remains at one ounce. If, as you say, the bank threw away its assets, then of course the dollar would lose its value. A dollar would be worth zero ounces, though a dollar would also still be worth a dollar. (This seems to be what GeoffSmith was getting at above.) BTW: Are you adding my name to these posts on purpose? It's no big deal, but if I were worried about my privacy it might be. I assume you go by "MrVoluntarist" because you also don't want your name displayed.

Okay, I think you and I are saying the same thing, but you're unnecessarily adding a lot of suppositions. The point of the example, I thought, was to show that the bank could maintain the value of its currency even if it fully suspends convertibility, and merely buys and sells at its pleasure. I agreed with you that when the bank conducts open market operations, it is buying/selling its dollars at whatever it can get, i.e., the market price. But since you agree with me that it's preferable to refer to "a dollar is worth an ounce of silver" as opposed to "a dollar is worth a dollar", I don't understand why you keep wanting to refer to "a dollar's worth of assets" in the definition. If there are 100 notes and 100 ounces, and it's possible for the bank to maintain a market price of 1 note per ounce, the probper way to describe that would be to say that "the note can be traded for assets equal in value to the dollar's quotal share of the bank's assets. (i.e., if there are a hundred dollars, each dollar's quotal share is one hundredth) And that's why I already have in my rewrite. Further, I don't like how you suppose that the assets are bonds. Since the bonds themselves are claims on future dollars, that adds another recursive step that makes it harder for the reader to understand what's going on. So that's why I replaced bonds with silver in the example, referred to financial convertibility as a market (rather than bank) condition, and referred to a dollar's "quotal share" of asset value, instead of being, tautologically, "worth a dollar". Now, what part do you object to? It seems you're in agreement.
As for the name issue, you identified your email address above, which suggested you were "Mike Sproul", so I though you were confortable being so named. I recommend registering. Even if you don't, it would help the flow of discussion if you would sign with your IP address, using four tildes (~~~~). Thanks. MrVoluntarist 21:53, 15 December 2006 (UTC)
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