A Challenge to Banking
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SECTION TWO - Honest Money
Once the production of new units of money by the banking
system had ceased, and once sufficient notes and coins to
repay government debt have been printed, and once forgery
is adequately controlled, and once governments and Central
Banks are prohibited from producing new notes and coins -
even for foreign exchange transactions - except to replace
damaged or worn ones, there will be no means of expanding
the paper money supply. Money will then seek its own realistic
level of exchange value.
The new notes and coins minted by the government will cause
an increase in the money available for exchanges, so there
will be one further decrease in the exchange value of money.
This means one further round of inflation. After that, there
will be no more debasement of the currency - and thus no inflation
to follow in its wake.
To what extent will this minting of new notes increase the
money supply? Perhaps an exercise I did some years ago can
shed some light.
In America, as of June 1985, total government debt stood
at approximately $6,525 billions. The money supply, including
both cash in circulation and bank deposits, stood at $3,136
billions; less than half the government debt. There, if none
of the government debt were owed to banks and the newly minted
notes and coins went directly into circulation, the money
supply would increase about three times to $9,661 billions.
The United Kingdom presents a similar picture. As of the same
date, the money supply stood at £138.5 billions, while
total government debt was £170.7 billions: the money
supply in the United Kingdom would increase at most 2.25 times.
To the extent that the government owed money to the banks,
the newly minted notes and coins used to repay the banks would
be placed in the banks' vaults and would be available to be
claimed by depositors. They would become part of the previously
measured money supply and so the size of the increase would
be less. The repayment of government debt has another important
benefit. Once new coins have been minted to clear the debt,
governments will no longer need to service their debts. No
interest payments will be required. Their budgets can be significantly
reduced. This will benefit all taxpayers.
Having by these processes established a stable, limited,
money supply, it is important to remind ourselves of how the
boundaries of exchange value are set. Natural human self-interest
might well, at a time of concern about the value of money,
discourage people from holding it. The resulting lack of demand
could push the value of money below its realistic level. Many
might then not want to hold money. Demand for it could fall
further. But demand for exchanges cannot go below the level
required for the survival of the population. Therefore the
demand for the medium of exchange will also have a minimum
level. With a fixed money supply the minimum level of demand
for money would, in due course, be discovered.
Of course, there is also a concern about how high the value
of money can go. To avoid hoarding as the value of money increases,
thereby reducing the amount available for exchanges and forcing
the value of money even higher, substitution can be encouraged.
If substitutes are legally acceptable as currency, the demand
for money will be reduced by the amount of the substitutes
accepted in exchanges and the upward pressure on the exchange
value of money will be accordingly reduced.
Under normal conditions, as time progresses, both population
and the expectations of that population will increase. This
will lead to both an increase in the demand for money, and
an increase in the norm around which the exchange value of
a fixed money supply will fluctuate. The introduction of substitutes
will help to avoid an increase in the level of this norm and
thereby will help to promote price stability.
Control forgery and limit the minting of new money to the
replacement of worn or damaged stock, and the total paper
money supply will not be able to increase. Any increase in
total bank deposits will be limited to that coming from private
storage, or returning from foreign countries. These figures
are accurately measurable and predictable within reasonable
tolerances. By keeping a watchful eye on the total of all
bank deposits, both domestic and foreign, those responsible
for any currency should soon detect any leakage and its source.
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The processes of re-assessment
Once this non-money-lending fixed paper money supply system
is established, two processes of re-assessment will occur:
the value of money will be measured and reassessed in terms
of goods and services and the value of goods and services
will similarly be measured and reassessed in terms of money.
Both processes will be part of each exchange transaction.
Thus, the processes of reassessment will occur continually,
every minute of the day, hour by hour, day by day, transaction
Until the value of money begins to stabilise, there will
no doubt be much more negotiation and haggling over prices
in restaurants, shops and other retail outlets than there
is now. Prices will not be fixed. The precise value of money
will be uncertain. So, too, will the strength or weakness
of the position of both buyer and seller be uncertain. In
due course, however, the value of money will begin to settle
and buyers and sellers will begin to recognise their respective
strengths and weaknesses.
As people come to recognise that the value of money has begun
to reach its bottom, some will begin to set units aside in
the hope that their value might rise. Inevitably the value
of money will begin to rise and prices will begin to fall.
We will then be presented with a new problem: there are mechanisms
in place for altering the prices of goods and services both
upwards and downwards but there are no mechanisms for adjusting
wages and salaries downwards when the value of money increases.
This is an area which will need attention.
If your salary begins to buy more than it did, you will be
delighted. The difficulty will arise if you are an employer.
As prices decline, so too will the number of units of money
received by the business. The exchange value received may
be the same but the amount of money will be less. If the amount
of money paid in wages and salaries remains fixed, employees
will receive a greater portion of the wealth produced, profitability
will be squeezed and the survival of the business will be
threatened. In the processes of negotiation which will naturally
follow, the interdependence of manager, employee and shareholder
will become more obvious. Out of this recognition can grow
mutual respect and co-operation.
From the perspective of those of us who might wish to put
something aside for the proverbial "rainy day",
we will no longer be able to avoid real decisions by using
debt as a method of storage or investment. We will have either
to store our money, or exchange it permanently for something
else. Storage and distribution will become a more expensive
option than currently.
Banks would no longer have the benefit of interest income
to carry most of their operating costs. They might gain some
income from brokerage fees on share exchanges and for other
financial services which they might choose to offer, but these
will not fully replace interest income. So, in addition to
having to become more efficient, full storage and distribution
charges will have to be introduced. Leaving money in a bank
will become an expensive choice.
Equity investment will prove a more attractive option to
most of us, whether it be in shares, a partnership, our own
business or simply buying a commodity, a product or a property
which we believe will increase in value. Those of us who receive
dividends from our investments will also be more likely to
invest it in equity investments rather than to store it. Thus,
the portion of the money supply which seeks investment will
be constantly being renewed and measured against the investment
opportunities on offer.
There will be a continuous flow of capital seeking equity
investment. Either it will go into new ventures, commodities,
products or properties or it will be used to buy existing
ones from previous equity investors. In the latter case, the
previous equity investor who sold will then have the money
and will face the same choices. The net result will be a continuous
flow of new capital available for new equity investments.
Sustainable economic growth is a natural result of an equity-based
economic and monetary system.
Nevertheless, some will wish to store money itself for future
use. They will either pay the rate for storing it in someone
else's facilities or they will provide their own. This private
hoarding would cause a decrease in the amount of money available
to service the existing level of exchanges. Demand for money
will then increase. As a result the exchange value of the
money will increase and prices will fall.
The decreasing prices will produce two separate effects.
The first is that it will draw units of money back from savings.
Some who have stored cash will want to take advantage of the
increased purchasing power gained during the period of storage.
As they bring money from storage and use it in exchanges,
the amount of money available for exchanges will increase.
The value of money will then fall and prices will increase.
The second effect is, as we noted earlier, that it would
draw money substitutes into the market-place. When the exchange
value of notes and coins increases and individuals are tempted
to store or hoard their money, each will need to find something
else to use for exchanges. Substitution will occur. No doubt
some will use gold in exchanges. Others will simply barter
their own products or services. Perhaps barter will become
a more common practice once again. In any event, in due course,
some other products will become commonly acceptable as media
of exchange. Each of these practices will allow the money
supply to expand at whatever rate is required.
The net result of all of these processes will be the establishment
of a norm around which the value of units of money will fluctuate.
As greater experience is gained by all involved in these new
market activities, a tendency to narrow the range of the fluctuations
will grow. In time this will promote genuine and sustainable
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New function for banks
The changes in the law which are proposed will not themselves
lead to the closure of any banks or the system as a whole.
There are still valid and important functions to be performed.
The need to store money safely and to distribute it efficiently
with minimum risk will continue. Depositors wishing to exchange
their money for shares will need to be brought together with
those seeking capital. The existing staff in most branches
of most banks are in the best position to assist in each regard
in each local market as well as to provide both information
and connections through their national networks.
At the same time, through the conversion of debt to equity,
banks will have themselves become large holders of shares.
Much of the loans which they had previously issued will have
been converted to shares whose value will need to be determined.
This valuation will, in turn, help to determine the value
of shares in each bank which will now be owned by many previous
depositors. In each respect, existing banks are a logical
place to begin to develop the new market for shares which
will emerge as a result of those who suddenly find themselves
with shares when they need cash and those who intend to invest
rather than to store money.
The natural activity of the market-place will also begin
the process of measuring the exchange value of goods and services
more precisely and more accurately. The alternative to exchange
is storage: those choosing to put their money to work rather
than pay the cost of storage will exchange it for a share
in a business venture, a property, a commodity, a product
or a service. Each carries risk. So each potential investor
will need critically to examine the merit of each potential
The permanency of exchange requires careful judgements about
present and future value. Products of poor quality with built-in
obsolescence are unlikely to maintain their value in terms
of either investment or consumer acceptability. Quality and
durability will need to be more accurately assessed.
The arrangements which the proposed system would require
to finance housing illustrate the need for critical judgement.
Debt investment, or mortgages, would no longer be an option.
Those wishing to purchase a home would have to seek co-owners
on an agreeable shared-ownership basis. Each of the co-owners
in a particular house, whether they be an individual or a
company, would own an exact portion of that house. The resident
owner would pay the appropriate rental to each other owner.
There could, if required, also be an agreed programme between
the resident owner and his co-owners by which he could purchase
from them additional equity, eventually owning his own house
Whatever the arrangement, the value of each co-owner's investment
would depend on the value of the house. If its condition deteriorated,
each investor would lose. Investors might well be very chary
of many of today's construction practices. The use of green
soft wood which warps and deteriorates over time may not be
acceptable to the critical investor. Construction materials
which have proven the test of time will be sought after. Their
use will assure the investor that his investment has less
risk of deteriorating and thus less risk of losing value.
Similarly, owner-occupiers who have a reputation for caring
for their properties will be sought after. Those who do not
care for their properties and have a reputation for neglect
will find it hard to raise equity-based finance.
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Every product, every service, every commodity, every bit
of land, will be viewed from this new and critical perspective.
Each and every individual will also continually have to re-assess
the size of the unit of measurement of exchange value from
his or her own perspective. That measurement will then need
to be applied to the products of his or her own energy.
Each different measurement will have an effect on another.
The resulting changes will work their way through the market-place.
The dynamic of change will be considerable: continual re-assessment
in the light of changing conditions and priorities.
The extent of the interdependence of owner, shareholder,
manager, employee, supplier and customer will be more readily
apparent. Each business will be a joint venture. The individuals
in its component parts will act with self-interest. Continuing
co-operation at all levels of business will be vital to continued
Applied on a world-wide basis, the conversion
of debt to equity can also resolve the international
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