In Part 30, we finally arrived at a fully unbacked fiat currency. Wasn’t that exciting? Let’s process some of the impacts of that major change.
First, let’s talk about a strange phenomenon that you may not have noticed in Part 30.
We’ve talked many times about how Wealth Units don’t come out of thin air, not matter how sophisticated the accounting trick or monetary manipulation. But did you notice that there was a seemingly free lunch (i.e., extra Wealth Units from thin air) when President was able to spend all of that gold without any repercussions on the monetary system?
Let’s see if I can clarify that quandary with an example.
Say a society is using exclusively receipt money (bank notes), and they’re 100% backed by gold coins being stored in the society’s single bank. Nobody ever exchanges a bank note for a gold coin. They only use bank notes for every transaction. If they have an aggregate of 40,000 bank notes, there are 40,000 gold coins sitting there in that bank’s vault. And, for simplicity, let’s say that the Wealth Unit:gold coin exchange rate is 1:1, so there are 40,000 WUs worth of gold sitting in that one vault. And because nobody ever actually exchanges a bank note for a gold coin, the banker never even opens his vault.
And then something terrible happens. In the middle of the night, a burglar digs a tunnel under the bank, drills into the bottom of the vault, and empties out all 40,000 gold coins, which he takes to a foreign country, melts down, and sells for 40,000 WUs worth of the local currency.
Meanwhile, society continues on as usual. They have no idea that all their gold is gone. Overnight, they went from using 100% backed receipt money to using 0% backed receipt money, but nothing has changed, and they continue transacting as they always have with bank notes.
Has the perceived number of Wealth Units temporarily doubled? Yes. The people still have all their 40,000 WUs worth of cash in the form of bank notes, and the burglar now has 40,000 WUs worth of gold coins (or the foreign currency he exchanged it for).
Then a missionary comes along and converts the entire society to a new religion that believes that using paper is a sin, so they decide they will all shift to using exclusively gold coins again. They hold a big ceremony in the middle of the town. Each person counts out the total number of bank notes they own and the banker makes a note of it, and then they all throw their bank notes into a big bonfire and go together to distribute the gold coins from the vault according to the records the banker kept during the ceremony.
To their horror, they find the vault empty, with a big hole in the bottom that makes it clear that they were burgled. Suddenly, their perceived cash wealth is now 0 WUs, so the total number of Wealth Units arising from those gold coins is back down to 40,000–the burglar has all of them, and the people have none of them. (Fortunately, the people in this society have plenty of non-cash wealth, so it’s not like they are instantly poverty stricken.)
And so the people are faced with a choice. Do they print all new bank notes (out of synthetic paper this time) and go back to how they were, using intrinsically worthless bank notes to conduct their business? Or do they want to get back to using an intrinsically valuable commodity as their money?
For them to be willing to choose to start using gold or some other intrinsically valuable commodity again, it would cost them a lot because the moment they decide not to use unbacked bank notes anymore, they lose all their cash wealth. For them to be willing to do this, the benefits of shifting back to using commodity money again would really have to be significant! And on the other hand, continuing to use unbacked money would require everyone to re-enter their illusion of those worthless pieces of paper each storing 1 WU, in which case the paper money will continue to work just fine as a means of storing and exchanging wealth.
Basically what we have with any 0% backed fiat currency is this illusion going on. People believe they have actual wealth in their currency, but it’s not true. Someone else has that wealth (assuming the gold that originally backed the currency has already been sold out from under them). But, as long as the illusion holds, their worthless money continues to do just fine facilitating trade.
Here’s another (somewhat off-the-wall) example of this: Let’s say a guy named Friendly Frank goes on vacation and leaves his car at home in his garage. And the very day that he leaves, some guy named Stealy Steve goes to Friendly Frank’s garage and steals his car. Friendly Frank now has the false belief that he has a car, and Stealy Steve has the correct belief that he has that same car. One car, two people believing they own it. Did the number of cars get doubled? Of course not–additional wealth doesn’t come from nothing. In reality, there is one car. But, in the minds of the humans, there are two cars because one person is under the illusion of still having that car. And that imaginary existence of two cars only collapses back down to the reality of one car when Friendly Frank gets home from his vacation and discovers that he doesn’t have a car anymore.
In that example, unfortunately Friendly Frank can’t continue to pretend he has a car. He can’t draw a picture of the car he used to have and use that as a “receipt car” to drive to and from work.
Money, on the other hand, is different. As long as everyone maintains the illusion, money can still carry out its two purposes of (1) acting as a common medium of exchange and (2) acting as a store of wealth.
So, no. No new Wealth Units were magically created when President broke First Bank Notes from their gold backing and then started selling off the gold. It’s just that the Avarians have the illusion of still having that wealth.
But there’s no harm in continuing to live this shared money illusion is there? Yes there is. There is great harm, which I will show starting in future parts. The question is, is the harm great enough that it is worth the cost of getting us back to commodity money? About that, I’m honestly not sure. Part 32 here.
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