Fractional reserve banking question

Absoutely agree, and your reply doesn't seem to contradict my message. On the whole  I don't currently have a problem with the currency other people use, thats their decision.  I would think we might have a more efficient and reliable system if we agree to all use the same currency. In fact i wonder if the optimal currency might ultimately be dollars which are ultimately just  128 bit ID numbers stored on a central bank hard-disk.

But yes, a monopoly currency seems to raise trust issues for some people regarding what they see as a potentially corrupt,  government driven expansion of the money supply to fund political agendas the people don't agree with.  Thats fine.  Still,  I say 'on the whole' since i am undecided as to whether inflation is a good or bad, efficient or unefficient, fair or unfair mechanism of taxation -maybe if the  government gained the publics trust and were more transparent about the debasement process, with the reason for such inflation democratically agreed upon, maybe it might not be such a bad thing. What do you think?

How about simply more checks and balances with the existing system so that people can more confidentally observe what the government is doing with the money supply?

However, what I really cannot understand is why someone wants to trade with a backed currency.  If a receipt of an asset can potentially be circulated at the same time as the underlying asset of that receipt, then you have a currency system open to fraud, say by the banks, or by robbers stealing the underlying asset.  But how can a bank debase a currency if the currency isn't backed? e.g as in direct gold trading, or as in 'unbacked' paper note trading? sure, in the case of the latter  the government can print more notes to debase the currency, but a bank cannot do that surely?  Money must be returned before it is lent out again....

 From my understanding, if I trade with 'unbacked' money such as gold coins or special paper which represents its own value, the bank cannot defraud me, although the government can in the case of paper. On the other hand,  if i trade with asset backed money such as gold receipts, the bank can defaud me, but the government cannot. Or can it?  The government can still influence the amount of gold currently in circulation...

 

 

To the original question: inflation is simply the expansion of the supply of money.  What is money?  That which attempts to be used to trade with any other good.

FRB is inflationary and deal with demand deposits.  Demand deposits usually trade as money, because people assume that the bank has the underlying money.  Thus, FRB is one of two things.  Either the bank lends out the underlying money, thus unable to fulfill 100% of its demand deposit claims, or it increases the amount of demand deposits/claims without increasing the underlying money.  Obviously, this is an increase in the money supply, inflation, and will result in price inflation.

If on the other hand depositors loan the bank money for a specified period of time, and the bank loans the money out, this is not inflationary.  The risk and constraints prevent such debt from being traded as money.

 

The large problem of FRB is fraud.  FRB is fraudulent, as depositors find when a bank practicing FRB goes bankrupt and their claims are made simply invalid.  Fraud is not preferred by the market, but the market will not act against a bank if it has not discovered the fraud.  Under free banking, banks were constrained against practicing FRB, although many did to limited degrees.  It is only through government intervention that FRB can be widely and openly practiced.

FRB will fail.  If the government doesn't prosecute this action as fraud (which it often does not as such practices are often used to pay for major government events like war), it will grow and become a bigger problem.  Thus, government faces a change - it can yield back power to the market and prosecute fraud, or it can invent some scheme to prevent FRB from being a problem.

One scheme is central banking, or forcing the banks to cartelize.  This makes FRB that much more easily practiced, and causes a much larger problem.  In other words, as FRB would cause one bank to fail and leave massive fall-out, central banking could similarly fail, leaving a much more massive fall-out.  Yet...there is another scheme...yet again involving more state power and less market power.

This is fiat currency, which basically means that government debt, rather than free market money (such as gold or silver...but not necessarily any one thing, only what the market chooses) is the new base money.  Thus, in the case of a bank failures, depositors don't get screwed - the entire public does.  The depositors are paid simply by increasing public debt and thus the money supply.  This is double taxation upon the general public - once because their money is devalued and twice because their taxes collected will be used to pay down that debt.

 

Why didn't people reject this system, as it is based upon protecting fraud?  Because it was made illegal to do so.  Americans were forbidden from owning gold, and national commercial banks were not allowed to exist outside the federal reserve system.

These days, Americans can own gold, but it is still pretty much illegal, from a banking perspective.  E-gold is the best example of a true bank that does not practice FRB, and the American government has tried to put them out of business.  Why not use gold or silver currency outside of banks?  Several legal reasons: capital gains taxes, legal tender law, sales tax, prohibition of private minting.  But a main reason is simply the inconvenience of not being allowed to commercially bank through such mediums.  The government will most likely not honor any contracts made in alternative currencies, such as gold, given Fed money is the only "legal tender".

 

As for consumption of money, consider Fed money - it gets torn up and eventually destroyed, simply because it is used as money.  Thus, it would be consumed in its use as money.  The problem is its very easy to create new money.  And given the Federal Reserve System, there is even less requirement, as most money is in the form of accounts, probably electronic, rather than paper.  Similarly, gold and silver have many consumer uses in everything from computer chips and photography to jewelry.

But gold and silver, as heavy metals, are elemental.  They are very, very rarely converted into a different element.  When they are mined, it is doubtful they are 100% pure.  This means that gold put to consumer use can be used as money in that form, or melted down, purified, and used as money.  If deflation ever became a serious problem, more people would be likely to use their consumption gold as money, adding to the money supply.  Only the supernova of a dying star can create gold (at least in a cost-effective manner), so the entire increase of their supply comes from mining operations.  Mining is costly, and entrepreneurs can estimate the rate of expansion.  Similarly, as the population grows, demand and supply grow, thus money growth is needed to keep prices stable.  All of these things mean that rare metals find a unique niche satisfying desired qualities of money.

 

Confuse a cat, for modern-day bank runs, look what happened to IndyMac.  When a bank can't pay its obligations, it goes bankrupt.  Why didn't it simply print more money?  Because it couldn't - they would be prosecuted for counterfeit.  Only the Treasury can create the paper aspect of paper money.  Banks expand money by expanding its accounts through loans.  Only the cartel, as a whole, can create new money, through the FOMC, by monetizing debt.  Commercial banks can only LEND out up to 90% of their reserves.  This doesn't provide them short-term liquidity to meet debts - it does the opposite.  In this sitution a bank must borrow from another bank and if they can't, they may go bankrupt.  The cartel attempts to prevent bank failures by creating new money and lending it to failing institutions, thereby allowing them to pay their debts in debased money.  If they go bankrupt, all its deposits are virtually null and void.  Thus, you could see why a bank run would still happen.  Either you go redeem your bank account before the bank goes bankrupt, or you have to wait for an unspecified period of time for the FDIC to repay you.  The FDIC doesn't cover deposit amounts over $100,000, although they claim there are ways to insure over that amount.  Of course, there is always the possibility that the FDIC could go bankrupt as well...

Now, there is another possibility, which would likely happen if the FDIC busts, which I think is inevitable.  That is, there will be a bank run on the central bank - basically the entire system will be abandoned.  This will not happen as simply as everyone going to the bank and demanding gold.  That simply can't happen.  Rather, the abandonment will be in the market.  Everyone will simply be trying to sell their government money for market money.  The result will be that the price of market money will become higher and higher in terms of government money.  This is virtually the same as a bank run; the actual value of government money will collapse very quickly.

I've accepted worthless pieces of paper all my life.

Right, and why is that? Because you expect it to be able to buy something else. You do not accept it for any intrinsic value it possesses - it only possesses exchange value. Now why would the person receiving the money accept it? Because they are confident in the government's ability to compel acceptance of the medium of exchange. Absent this, they'd face a major possibility that people would see it for worthless paper.

But issuing currency in gold in order to be assured of a fixed money supply is surely going from the information age and  returning to the middle ages. Surely  the important thing is restoring public confidence in the current financial system.  Not returning to gold.

No, two problems with this 1) gold does increase sufficiently to match growth in productivity (around 2-3% p.a. IIRC) and 2) that isn't important; what is important is letting people use a currency they themselves are willing to do business with. That would have the consequence, of course, of restoring confidence in the financial system. The current system is rubbish and deserves no confidence. 

any paper notes deposited at a bank are removed from circulation and can no longer be spent by the depositor.

You're aware of credit expansion, right? Banks lend out a multiple of what is actually deposited in them. The current reserve requirement stands at 10% IIRC in the US, even lower elsewhere.

-Jon

confuse a cat:

From my understanding, if I trade with 'unbacked' money such as gold coins or special paper which represents its own value, the bank cannot defraud me, although the government can in the case of paper. On the other hand,  if i trade with asset backed money such as gold receipts, the bank can defaud me, but the government cannot. Or can it?  The government can still influence the amount of gold currently in circulation...

If you trade with physical gold, then the only way you lose is if someone physically steals the gold coin from you.

If you trade with warehouse receipts for gold, you can lose if someone steals your receipt or if the warehouse commits fraud.  How do you know that the warehouse isn't printing more receipts than the physical gold in its vault?  How do you know that someone won't raid the warehouse and steal their reserves?  (That happened with the Liberty Dollar and some E-Gold vendors.)

If you trade with fractional reserve gold receipts, then you may not be able to redeem your paper for gold.  Why use a receipt for gold instead of physical gold?  Gold isn't that heavy.

If you trade with unbacked fiat paper, you can lose if someone steals your paper or if the government prints more of them.

I'm completely convinced.  Taxation is theft and inflation is theft.  If you disagree, then it's merely a question of how I can best protect my property from you.

fsk:

Why use a receipt for gold instead of physical gold?  Gold isn't that heavy.

Several reasons:

1) liquidity - rather than carrying $1 worth of gold as ~1/10000 oz, which would be nearly invisible and easily lost, you could use an easily visible and carryable note...(or you could use silver)...making and issuing bank notes worth a certain denomination of gold is usually easier than melting down gold, minting coins, etc.

2) convenient exchange - by having deposits at the same bank, it is easier for people to simply trade notes rather than to trade gold/silver, especially for large transactions where gold would indeed be heavy.  also, people may prefer to write checks, which can more easily be sent long distances and do not require the time to physically count the money.

3) safety - having the ability to write checks allows one to not keep money, available for theft, on his person, while still retaining full purchasing power

meambobbo:

[...]

2) convenient exchange - by having deposits at the same bank, it is easier for people to simply trade notes rather than to trade gold/silver, especially for large transactions where gold would indeed be heavy.  also, people may prefer to write checks, which can more easily be sent long distances and do not require the time to physically count the money.

[...]

Nit: There is no reason that people would only accept bank notes from their own bank. Banks routinely accepted notes from other (solvent) banks. Banks would routinely meet in what were called "clearing houses" to settle accounts. So if someone paid you in the notes of some other bank, you usually had no problem depositing them in your own bank. In fact this process was a big part of what constrained banks from getting away with fraud—er, fractional-reserve banking.

 

 In my understanding I see two further steps that need to be taken for true and fair money. 1) Gold actually has alot in common with paper money in that it has what amounts to an artificial demand much like paper money. The only difference is that gold has had this artificial demand for a much longer period of time than paper money. Neither has a real intrinsic value other than people have believed they can use it to exchange for goods and services but neither of them can be eaten or driven or have any other practical use equal to their value. I believe it is extremely inefficient to use gold as a currency because  the more we produce the more labor we need to be out there mining gold which is a fairly ridiculous idea. 2) From my understanding the real big problem with paper money is the interest being charged on it. Interest and improper lending practices are the cause of inflation. There are 2 ways to look at this if I borrow $200,000 for a house and pay the %5 interest immediately I have $190,000 to "buy" a $200,000 house. The other way is if I get a $200,000 loan for a house and after 30 years it costs me $550,000 with interest I am obviously not going to sell it for the pre-interest cost. This is how interest causes inflation. Supply and demand can also cause inflation but on average, say within a country, interest causes much much more inflation than supply/demand constraints.

 The worlds hypnosis by gold is the actual cause of, and inevitably evolved into, our current system. The similarities are striking in that they are both representations of value that are supposed to be hard to acquire but neither has a real intrinsic value on its own. Neither will ever work because the interest of all existing loans has to be covered by future loans on an exponential curve. There were good reasons we switched from the gold standard and it is because the fundamental problem of ever increasing interest debt this causes our economy to be unsustainable no matter what is representing value. This problem is just easier to hide with a Fractional Reserve system than a gold backed system but still applies to both equally over time. If you do the math you will see that interest debt is ever increasing proportionately to GDP staring at %0 and over time theoretically reaching %100, loan defaults mitigate the speed at which this happens and total economic collapse will occur long before %100 is ever reached but the problem of this situation is inescapable.

 In my opinion the only way around this is a monetary system where %0 interest term loans are given out for assets. If you have a house you want to sell and it is worth $100,000 the bank gives you a 5 or 10 year loan for $100,000. Then say someone else does the same thing and you buy his house and he buys yours then the function of money has been fulfilled albeit in a very simple way. You each pay back the bank and the function of money to simplify trade has been fulfilled. It does not matter what represents the value in the framework of barter only that it actually represents the worth of the goods and services in the society. If a certain denomination of value would magically appear that was equal to the value of a good, that was definitely going to be sold, when it was created then an economy would function perfectly. Since this is obviously not possible we need to setup a system that simulates exactly this.

 Acquiring capital without assets is the Achilles heal of this type of system though but it can easily be argued that is also true of our current system. The extra risky or non-asset backed loans that can be made by banks due to their interest profits is not worth the trade though. The interest does much more damage than the extra risky loans do good. The extra loans that can be made due to those profits come nowhere close to offsetting the cost to society of the interest paid on loans. To overcome this problem there could be a trust system built up where people who have made small loans and paid them back without an asset backing it can get a bigger loan and so on. The loan could be made with the assumption that it will be used to create an asset that would back the loan in case of failure. In cases of outright fraud jail time could be imposed in effect imposing consequences on trying to steal loan money and therefore protecting it's value. The only way such a system would work is with complete transparency and strict accounting and appraisals.

 The big problem with our economy is that we have been hypnotized by paper money and gold to see them as having some intrinsic practical value when in actuality they have none or nowhere near the value we now accord them. In order to correct this we need to change the perception of money to be a representation of a good or service we have made through labor and want to trade for another good or service. Letting a bank charge us interest on our promise to work is an insanity clearly seen when this perception is attained. They are trading paper for our work. I am not arguing that banks should get no profits but it should be a cost plus situation where they also get money that represents a good or service they have provided not a percentage of societies work. Interest is the fundamental and unsustainable error in our current economy.

 Whether this type of system would be private or government would not really matter as long as the rules of the game were followed and every dollar lent out actually represented a product or service that was going to be sold and no interest was charged and as I said complete transparency and strict accounting and appraisals would be needed to make sure this was the case at all times.

Wow, Slider, I'd have to disagree with most of this.

1) Gold has far more intrinsic value than paper.  It is used in a wide variety of consumer products (jewelry, computer chips...).  Gold is currently prevented from being a completely functional currency, yet it still has a very high price.  If you believe gold's price is artificially over-valued based upon its history of monetary use, why did people ever start using gold as money?

2) Money cannot be overvalued or undervalued without price fixing.  Essentially, all supply and demand is measured in goods, not money.  Money simply eliminates the problems of exchange when you have division of labor.  When there is monetary freedom, there is no such thing as artificial demand.  If gold is suspected of being "artificially" over-priced, then it both buys and sells at "high" prices in terms of real goods.  In other words, the demand is expressed in terms of exchange ratios of real goods; how would that be artificial?

3) Value is relative.  You might prefer a sandwich over an ounce of gold, but someone else prefers the opposite.  In fact, they may prefer an ounce of gold over 1,000 sandwiches.  At this point, it becomes every sandwich lover's interest to obtain an ounce of gold.  Differing relative values, scarcity, and free trade transmute into overall market values, as commonly expressed in money.  If everything were designed so that everybody else would demand it, everything would have to be free.

4) Gold is inefficient as a currency because mining it costs too much?!  Are you suggesting the best currency would be the one that is most cheaply produced?  Should we use handfuls of air as money?  One of the most important aspects of money is for it to retain a stable value, without other conditions changing.  If the money supply can be changed whimsically, not just by a central authority, but by anyone, then money has completely lost its purpose, because price/value is directly related to supply.  If mining costs for gold rise higher than gold is actually worth to the market, the gold supply will become constant, enabling an extremely stably valued currency.  Yet, if there is huge profit in gold mining, supply will rise quickly, which pushes the gold price down so the profit margins disappear.  In this way, the growth of the gold supply is limited.  Plus, it cannot be manipulated as a monopoly by some central authority.

5) Interest on paper money, or any form of money, is not a problem.  Interest on artificial credit, which only one privileged organization can create is.  If the paper wasn't given value through government force, the paper most likely is promised to exchange for a fixed quantity of some good for it to have value.  This is real credit, and it should carry interest in loans.

6) Interest and improper lending practices are not the cause of inflation.  Most Austrians here believe inflation is an increase to the money supply.  The public mostly regards inflation to be general price inflation.  Thus, the cause of inflation (price increase) is inflation (money supply increase) unless there is economic recession; however, changes to the money supply always dwarf growth or recession annually.

7) People don't sell things at a higher price than the market demands for it.  Look at the housing market right now.  Prices are moving downwards because every sale needs a buyer, and jacking up the price is a good way to not find one.  Buyers, not sellers, ultimately determine prices.  The reason we have general price inflation is because the amount of money people have at their disposal to demand goods with is growing, because the overall money supply is growing.  The easiest example to see this is in commodity prices.  You don't need a loan to buy them, yet their prices continually rise generally.

...that's just your first paragraph and I'm already exhausted...I'll read the rest, but I don't think I really need to say any more.  Your entire premise is flawed.

meambobbo:

1) Gold has far more intrinsic value than paper.  It is used in a wide variety of consumer products (jewelry, computer chips...).  Gold is currently prevented from being a completely functional currency, yet it still has a very high price.  If you believe gold's price is artificially over-valued based upon its history of monetary use, why did people ever start using gold as money?

 

Dude, did you learn anything from the Austrians? Nothing has intrinsic value, just imputed value.

ok, you are vilifying and advocating the same thing: artificial credit.  Artificial credit is simply loaning someone a claim to something that presently does not exist.  Banks used to do it by lending you bank notes that could supposedly be exchanged for gold at any time, although they do not currently own that gold.  They were basically saying, "by the time our obligation becomes due, we will have the underlying asset."  They are loaning out things that they don't own...yet

Similarly, the American government and Federal Reserve create money by buying government securities with made-up money.  The money's value is represented by the value of the government debt, which is represented by the government's ability to tax the economy of the future.  Again, they are loaning out things they don't own...yet

Artificial credit has two effects on interest rates.  At first, it drives them down, as there is now a greater supply of "credit".  As this artificial credit causes the money supply to increase, price inflation increases, and interest rates proportionally rise to stay above inflation (otherwise, lenders are actually losing purchasing power after being repaid).

You are seeming to argue that some central institution (the banks - i guess as a cartel) should create money at their own whim, but only lend it out at "cost plus", rather than interest of its value in the market.  This is an impossibility.  There would be none of this "official money," although I would bet you could find people using unofficial gold coins.

And perhaps you have not paid attention to how "cost plus" has worked out with medicare.  You will perform the rare situation where prices continuously go up while supply remains limited.  Prices must be determined by supply and demand.  If this creates situations of obscene profits, then there must be free enterprise, which will show these profits to shrink as competitors flood the market and supply increases tremendously.  If there is not free enterprise, this is a classic case of a coercive monopoly, maintaining high profits by limiting supply.

 

You mean a good's value isn't related to the amount of time I spend to produce the good?

My bad.

I really cannot see now why FRB is always inherently fraudulent. It seems similar to insurance.

If an insurer took your money, you had an emergency and tried to make an insurance claim, and they said, "Oh, we don't have enough money to cover this, so we won't be," that wouldn't be fraudulent?  Insurers may mismanage capital and find themselves unable to cover claims, but if they simply spent all the money you sent them then refused to cover any claims, that would be fraud.

I think the public will tolerate a small amount of FRB.  But the fraud really isn't revealed until the bank is put in a position where it cannot own up to all its claims.  The fact that the bank is intentionally putting itself in a situation where it is impossible to fulfill the claims it has made is a pure example of fraud.

Now, if they claimed that demand deposits might be redeemable, that would be different.  They don't seem to advertise that.

There is a huge difference between clearly attempting to fulfill contracts and failing and purposefully attempting to avoid fulfilling them.

vp3434:

I was reading a debate between two people who disagreed on whether fractional reserve banking was bad.  I wanted to get to the root of why it is bad.  Would it be correct to say it's only bad to the extent that it requires the central bank to print more money to meet redemption requests?  For example, if I deposit $100 in a bank that lends $90 of it to someone who spends it on a product and the seller of the product then deposits the $90 in another bank, as long as I don't redeem my deposit before the loan is repaid, the central bank doesn't have to print money and lend it to my bank in order to repay me, right?  Or is this an impossible situation because the loan cannot be repaid without some sort of monetary expansion in order for the borrower of the $90 to cover the interest that accrues on the principal?  Thanks!

All those things, and also the gross injustice of a person having property, etc. seized to repay a loan of money a bank created from nothing. They are the only place to get money for a normal person, and all the prices on the markets reflect his availability of credit, thus increasing the demand in an ugly cycle, a la the housing bubble. It is a fraud. It allows the bank to profit from interest on money they lent literally by typing it into existence. The principla will dissapear as it is paid, but the interest will be kept. Of course, we are all forced to use and accept this illusion.

It's actually way, way worse than just this in our current system, but there's a start.

That would not be fraud.

1 a: deceit, trickery; specifically : intentional perversion of truth in order to induce another to part with something of value or to surrender a legal right b: an act of deceiving or misrepresenting : trick

 The refusal to obey terms of contract is not fraud. It should be prosecuted against banks or insurers naturally. And owners should be liable ot course, with their assets possibly. But insurers also put themselves in situations where it is impossible to fulfill the claims they have made. If earthquake hit no insurer could pay all the high damages for all clients, yet it is still a legitimate enterprise. Deposit insurance could develop for banks as it did, and insurance companies also insure themselves against such risks today.

The problem is this terminology that a contract violation is called fraud and when the state lets them get away with it.

 What I am saying is fundamentally different than most theories and requires a suspension of disbelief to understand. Understanding that our current system is flawed is halfway there.

1) You are right gold is worth more than paper money insofar as it has practical uses but these consumer products (jewelry, computer chips) do not solely elevate the value to what it is today. That is what I mean by artificial the price of gold is not reflected in it's real practical value but by the long term tradition of using it for trade. In this way it is very similar to paper money except the paper money tradition has not been around for quite as long.

2) I am saying that through what is a perceptual anamoly gold has been elevated to a value which it in practical terms is not worth much like money. When you get down to the basis for survival it is easy to see that a sandwich or shelter is worth something and gold is not. If you are starving you cannot eat gold if you need shelter gold would be a poor choice. Food,shelter etc have an intrinsic value that gold does not. If 2 people are on a desert island with no food 1 has a sandwich the other a million pounds of gold the guy will not sell the sandwich unless he is completely hypnotized by gold. In practical terms it can definitely be overvalued.

3) The function of money is to simplify trade. If everything were designed so that everyone else wanted it it would definitely not be free because you would still have to trade your labor skills products etc for someone elses labor skills products. Just because money is not involved does not mean it is free. If I misread what you meant sorry.

4) If we mined gold so that there is a certain weight of gold per product which would be necessary to remove the banks influence from inflating the money supply it could get fairly ridiculous at some point in the future. Automation advancements are increasing every decade so we would need someone mining gold to backup the automated production. The more efficient production becomes the more mining we would have to do. Gold is also a finite resource so while the production capabilties per person would be ever rising the gold mined per person would be ever declining. Would we have to slow down our production capabilities to keep in line with our mining capabilities. This is exactly what we do now when there is a credit crunch we scale back our production to keep it in line with our liquidity. If a country was run like a company no one would ever think such an inefficient use of manpower was a good idea why would it be a good idea in the case of a country.

5&6) Interest would not be a problem if it were spent back into the economy but as it is not generally spent back into the economy it is a huge problem. This is hard to see in a huge country but if it were to happen on a small island with a few people it would become readily apparent. On an island if person A got a loan from a bank for $1000 with %10 interest he would quickly realize he cannot pay $1100 since only $1000 exists. In our society this is hidden by the next loan, on this island that would equal person B getting a loan for a $1000 dollars then person A sells goods to B gets the $1100 and pays the bank but now person B has $900 and owes $1100 putting society on average even more into debt. Some people say but there is a wealth increase (or inflation) and person A and B's goods are worth more so they can refinance but interest is always higher than inflation so they are still on average always going deeper into debt. The only factor that mitigates this is loan defaults without them though the interest debt keeps getting switched from one person to another (growing and compounding in the meantime) indefinitely until someone defaults and eventually the country defaults. This is a huge problem and the fundamental reason our economy is unsustainable.

7)People also don't generally sell things for less than they pay for them either and as long as there is not a credit crunch it will generally sell. The market demand is guided strictly by the loans given out. This is interconnected with interest and the shifting interest debt. In my example of a house that is worth $200,000 that costs $550,000 with interest the difference of $350,000 has to be loaned to other people in society so that I can then earn it from them and pay of my loan which in effect shifts the interest debt to others. This works as long as there is enough trustworthy people out there to borrow the money and the economy is strong enough to support it but with the compound nature of this debt there comes a point in time where enough money cannot be lent out in the next wave of loans to service the interest on all previous loans (less the loan defaults) this causes the collapse of the value of goods because there is not enough money lent out to buy them all. So even though my example is simplified it is true.

 In an economy that works the only thing that would need to be simulated is the example I gave where if I produced a good worth $10 that I was going to sell I would get the $10 in effect a credit to hold me over until I did sell the good if another person did the same thing I could buy his good and he could buy mine in effect simplifying trade or I could buy 10 $1 goods from 10 people and one of them could buy my $10 good. If there was no interest and the money given out reflected the cost of goods up for sale there would be no inflation or bust and boom cycles. In the society there would be a 1,000,000 dollars of money in existence and a $1,000,000 worth of goods as long as that was the case and enforced through strict transparent appraisals,accounting and regulations there would be no problems. In the current economy I get a $10 loan for a good and have to pay interest so I now have $9.50 the same thing happens to the other guy now I have to earnthe extra 50 cents from him and I can buy his good but he only has $9 so he cannot buy mine. This is the extra complexity and imbalances that banks inject into the system by charging interest. We pay them vast sums of money to complicate what should be a fairly simple process.

 Also when I said cost plus I did not mean a monopoly a cost plus private banking system with strict transparent appraisals, accounting and regulations would work fine. They would not be based on an investment banking model but more of a management model which appraises the worth of a good which someone is putting up as collateral and loaning that amount for a set period of time interest free. This could be opened to competition as long as the businesses were strictly monitored for impropriety and the market would naturally keep the price down. If any bank lent out more money than the assets backing it it would be revoked the ability to give any further money out. Checks and balances could easily be put in place where a government agency controlled the printing presses and banks would control the loan appraisals. When the bank went to get the money the government would verify that there is appropriate collateral and in the much rarer case of non asset backed loans that the person has the appropriate credit rating and busines plan. Risky loans could have a set limit so that people would have the ability to work up to having assets over time to attain larger loans but could not get huge sums of money and disappear. This would drastically reduce the ability of banks to give out loans without any collateral backing it which is a necessity in our current system to make sure there is enough liquidity to pay off the interest on all previous non defaulted loans.

 Speculation is another flaw and when taken to the extreme would enable someone to buy all of a certain commodity and squeeze the supply driving up the price artificially we accept this problem to degrees but not when it is absolute but there really is no difference. Speculation should be abolished as it only serves to steal the work of people who buy and use the commodities whether it is one person hoarding it all by themselves or thousands of people doing it in concert should not matter as the end result is the same. With proper banking where money could not be lent out to buy a commodity again and again driving up the cost this would not be possible. The same can be said for a business plan where a loan is taken out to strip the assets out of a productive company because more money can be made from the assets that day than from the production created from those assets. If a country was run like a company these types of speculative business ventures would be seen as harmful as they should be. In a company this would be seen as department A making a million dollars at the expense of department B which lost 2 million any CEO would know that is not an effective business plan and so should we as a country.

   Here is an example of how interest debt is continually rising compared to GDP it is a post by someone else:

    The entire outstanding money supply is used to calculate interest owed.
   
    If money supply grows faster than real GDP or if debt grows faster than the ability to payback - then eventually, interest payments consume all GDP.

    This is the case.

    Take FED Funds at 1%, money supply growth at 5% and GDP at 3%.

    First Year

    Nominal GDP 100 x 1.01 = 1$ interest paid from 103 Real GDP available.

    5th Year

    Nominal GDP 127.62 x 1.01 = 1.27$ interest paid from 115.92 Real GDP available.

    10th Year

    Nominal GDP 166.88 x 1.01 = 1.66 Interest paid from $134.49 Real GDP available.



    Interest Paid as % of Real GDP

    1st Year = 1 / 103 = .0097

    5th Year = 1.27 / 115.92 = .0109

    10th Year = 1.66 / 134.39 = .0123



    Each year, interest paid gets bigger as a percent of Real GDP.

    Takes a long time. But its exponential.

    The net effect is the difference from Real GDP and Money Supply Growth. That differential is the exponential multiplier.

   Also I am not villifying artificial credit it is a useful tool when used properly I am villifying the rules it is set up to work under such as charging interest encouraging speculation and the lack of transparency, proper acounting, and appraisals. The idea of interest is rooted in history when someone would give out seeds and expect a percentage of more seeds in return. This is much more reasonable as seeds have the ability to create more seeds but paper money does not have the same ability to reproduce and create more paper money nor does gold which is essentially a finite resource.
.

 I suggest reading the book Web of Debt and The Creature from Jekyll Island which explain the more fundamental cause of our economic problems then most theories do.

in the insurance analogy - it would be fraud if the insurers did not use their customers' payments in a manner that could cover claims. if the managers simply paid upfront costs to their employees and then used remaining funds to buy themselves expensive automobiles, leaving no funds in some trust, etc, to cover the claims that were the reason its customers paid them at all. it would be simply breach of contract if they made a valid attempt to use their funds to cover future disasters but came up short in some unforeseen, large-scale circumstance. banks can't operate with a high margin of FRB in a free market. the wildcat banks did - they were fraudulent. they had no plan to cover the claims they made. in using government protection and the central banking, fiat currency, and regulatory schemes, to support FRB, its not so much fraud as it is simply a bad plan, doomed to fail.

But the point of insurance is that you do not pay the full amount of possible future claims neither do others, and this works because the damages occur largely randomly, so the insurer can pay your claims mostly without problems.

Why are banking and insurance being compared?  They are two totally different services and business models.  I think it is safe to assume that the average depositor assumes there will be zero risk that his funds will not be available on demand.  If he thought there was any risk, he might not deposit his money.

Insurance 'works' because accidents are, well, accidental. The odds of you smashing your car are 1/10000. The odds of you trying to get the money you deposited back are 1/1 - so FRB will always fail.

slider123456:

What I am saying is fundamentally different than most theories and requires a suspension of disbelief to understand. Understanding that our current system is flawed is halfway there.

You need an intervention.  I recommend you read Murray Rothbard's "The Case Against the FED" as soon as possible.  And anything by Jeffrey Tucker and Lew Rockwell.

Case Against the FED *FREE* - http://mises.org/books/fed.pdf

J. Tucker on Speculation - http://mises.org/story/2976

Karrlson on Speculation - http://www.lewrockwell.com/orig6/karlsson9.html

Butler Shaffer on Speculation - http://www.lewrockwell.com/shaffer/shaffer177.html

 

Lew Rockwell, selected readings

The Greatness of the Market in a Crisis - http://mises.org/story/3055

The Government Wrecks the Economy - http://mises.org/story/3017

The War on Recession - http://mises.org/story/2925

Everything You Love, You Owe to Capitalism - http://mises.org/story/2982

 

Hope these help you.

 

 

liberty student:

Why are banking and insurance being compared?  They are two totally different services and business models.  I think it is safe to assume that the average depositor assumes there will be zero risk that his funds will not be available on demand.  If he thought there was any risk, he might not deposit his money.

Actually I don't believe my "money" has any risk of not being there when I go to withdraw it. It is insured by the FDIC up to $100,000. I am as certain as I can be that I will get my money back if I demand it. On the other hand, I don't believe that necessarily means that I will get all of the value of the money I put in back.

 

 I do not see why I need an intervention. All the links you supplied fit in with my understanding of the problems in our economy but they do not seem to point out the cause of why our paper money supply is inflationary. The cause of the ever expanding money supply is interest. When the banks made the first loan for say a $1000 at %5 interest they knew that the guy would realize that he could not pay back the loan since $1050 did not exist. The only way of solving that problem while still making lots of money is to lend out more to someone else with a time offset so the first guy could make the interest off the 2nd guy and pay back the loan then the second guy would make it off the 3rd and on and on. The interest never really gets paid off though it just gets shifted from one person to the next person. Everyone pays %5 interest so the 1st loan of $1000 has $50 interest the second adds up to $2000, $100 interest the 3rd is $3000, $150 interest the next guy in line inherits the interest from the guy before unless someone defaults. This can be mathematically shown to be the case without much effort. The only way the interest could be paid off is if it was spent into the economy but that is not what happens it is instead used to back another loan.

 Even in an economy with a gold standard that was not inflationary it is obvious it would not work. Say there was a million dollars in gold coins lent into circulation at %5. The total owed to the banks would be $1,050,000 since there is only 1,000,000 in existance someone would have to default and the bank would gain $50,000 worth of that countries assets. Repeat this procedure for a long enough perid of time and the bank would own all assets essentially trading the interest on gold which does not have alot of practical uses (at least versus supply) for all the goods houses etc the country made.

 Once you add interest to a commodity that is meant to simplify trade you pay to make it inefficient and unstustainable. As I said before Web of Debt is probably the best book about the problems with our current economic models and while I might not agree with all the proposed solutions I do see alot of validity to the fundamental problems as explained in the book.

slider123456:

I do not see why I need an intervention.

I was trying to be humorous.  Mostly.

slider123456:

All the links you supplied fit in with my understanding of the problems in our economy but they do not seem to point out the cause of why our paper money supply is inflationary.

Then you didn't read them.

slider123456:

The cause of the ever expanding money supply is interest.

That is like saying, "the cause of my house is hammer and electric drill".  Interest is a technique, a method a strategy.  It is not the cause.  What you're doing, is ignoring what I posted, and continuing forward with your preconceived ideas about money.  Which is fine.  Eventually you will only be talking to yourself, because you're way off base.

slider123456:

Even in an economy with a gold standard that was not inflationary it is obvious it would not work.

People who think they understand the debt virus or the compound interest paradox without having read anything else are really frustrating.  Your "perfect debt virus" scenario is contingent upon a lot of stars aligning.  And even then, I'm not sure it could happen in the absence of legal tender laws.  You're discussing the flaws in a flawed system.  Attack the system, not the notion of money or a means of exchange.

slider123456:

Once you add interest to a commodity that is meant to simplify trade you pay to make it inefficient and unstustainable. As I said before Web of Debt is probably the best book about the problems with our current economic models and while I might not agree with all the proposed solutions I do see alot of validity to the fundamental problems as explained in the book.

Please, please, please read Rothbard.  You've read one or a couple books that do not give you a complete view of money and banking.

Solid_Choke:

Actually I don't believe my "money" has any risk of not being there when I go to withdraw it. It is insured by the FDIC up to $100,000.

How does the FDIC cover this risk when it can only cover about 1% of all deposits?

Let's just hope that your bank is the one that fails in the first 1%.

 

The FDIC is simply a smokescreen.  The whole process is still unsound.  Central banking, deposit insurance, fiat currency backing, and regulatory controls cannot stop the day of reckoning, where FRB must severely contract its artificial credit and fail to return anything to its depositors.

slider...

1) like i said, if gold tends to be used as money because it is over-valued, why would it have ever been used as money in the first place, before it was possible to have such over-valuation?  And through market pricing and exchange, how can we even claim that something has a different value than its market price?

2) first, the high or low value of a substance has little to do with its use as money.  it simply needs a stable value - in the case of money, this means a relatively static supply. as i said, if gold costs a lot, it also sells for a lot. its value has nothing to do with the exchange rates of the non-monetary goods that are actually being traded.

gold might be a pretty value-less thing to have on a desert island (i also don't know about this...if you had enough, a gold statue would make a pretty attractive beacon to any passing ships).  but if everyone was stranded on a desert island, we'd have bigger problems than determining ideal money.  for a normal society, gold has far greater value for its weight than food or shelter...this makes sense; it cannot be produced at will.  also, two of the ideal properties of money are durability and portability, which neither sandwiches and houses have both.

i am not simply making this up.  your dilemma here was debated and solved in the 1700's. http://en.wikipedia.org/wiki/Paradox_of_value

and you may prefer a sandwich over gold, and would only value gold if it were able to be traded for many sandwiches.  but as i said, there are others with the complete opposite persuasion, who want gold not to simply sell it for a greater number of sandwiches, but simply because they want it more than anything else at that value.  if everything had a specific value common to everyone, then there would be no trade whatsoever.  trade requires people to value what they receive more than what they offer in exchange.

3) This is what I originally meant: all that is required for gold to have a market value higher than a sandwich is for one powerful person to desire gold many more times than a sandwich.  maybe everyone else would prefer a sandwich over an ounce of gold, but they know that they could sell the gold to that one person for 100 sandwiches.  But, if everyone could mine an ounce of gold far easier than they could make 100 sandwiches, this situation would change quickly -> the market price of gold would go down as production increased and demand decreased.  Normally, it is easier to make 100 sandwiches than to find an ounce of gold.  Thus, depending upon how much that one person wanted gold, he may up the price.

People will act to reward themselves.  In an exchange society, that means not producing simply what you want, but what others want, provided they in turn provide you with what you want.  People actively attempt to produce things like gold, because it is a quicker means of attaining what they do want, then directly producing those things.

4) I don't know what you are saying here.  How is gold production different from gold mining?  And I don't see how a significant amount of man-power would be wasted in such operations.  Shouldn't the same thing be occurring today?

5 & 6) No, no no!  I hate when I run into this argument because it is simply not true.  If you take a $1,000 loan which is the only money in existence, you can still pay the loan and interest (let's say $1,100) with only $1,000 in circulation.  The reasons for this are (a) you don't have to pay the loan back as one lump payment and (b) the bank spends the money that you pay it back into circulation.  As long as you produce things that others want, you should be fine.

of course, it can become a problem when only one institution can create what is solely legally known as money.

7) You're squaring a circle.  Of course everyone tries to avoid selling at a loss, yet people still do.  The reason that people sell at enormous "gains," however, is not because of interest, but because of increased nominal demand, which is basically what you're saying on the side.  This isn't simply interest.  It occurs outside of interest.  Why wouldn't I buy a house at $200,000 with cash, then sell it later for $550,000?  Because $550,000 later isn't the same thing as $200,000 today.  It's not a true 100+% profit in real terms.  And this is due to money supply, not interest.

Simply because our inflationary currency system is created through the banking system and loans doesn't mean lending at interest is the required ingredient for inflation.  For instance, the emperor of Rome used to debase his coins with base metals, then spend the increased supply.  There was no interest, yet prices went up.

 

 

Look, your basic premise is flawed.  Thus, your conclusions are quite flawed.  You are essentially defining your own values for your products.  Who is doing all this appraising?  An exchange economy uses money for calculation.  You should read Mises's rebuttal to socialism.  Here, I'll give you a link to a summary: http://mises.org/story/2401   It basically says you can't replace market exchange rates with appraisals and expect to have a properly working system.

Speculation may have occasional negative effects (although I think you are over-stating them), but it also allows capital investment, the backbone of our economy.  You are starting to sound like a 100% Marxist with this stuff.  You are suggesting we can engineer a money system to remove interest from lending and an economy that is free from speculation.  Good luck.

slider123456:

they do not seem to point out the cause of why our paper money supply is inflationary.

Because there's more money, nominally.  Why is there more money?  Because one privileged group is allowed to create it, which essentially allows them to forcibly transfer others' wealth to themselves.

Why is this so hard to understand?  You may have stake in your interest theory, but it is wrong.  Even a book you mentioned reinforces this.  The Creature from Jekyll Island clearly says that interest doesn't require new money to afford it, only that the interest payments are spent back into the economy.  Of course, this only pertains to a system where only one institution can introduce money into society, and everyone has to accept it as money.

In a free market, where anything can serve as money and anyone can make loans, interest, market prices, and speculation are not a problem.

Juan:

Insurance 'works' because accidents are, well, accidental. The odds of you smashing your car are 1/10000. The odds of you trying to get the money you deposited back are 1/1 - so FRB will always fail.

Too many depositors asking for too much money at the same time is an accident. The chance that they will not pay your money is <<1 .

Too many depositors asking for too much money at the same time is an accident.

No it is not - it's something that always happens, sooner or later. There must be a hundred posts in this thread explaining what's wrong with FRB and fiat-money - take a look at them.

Insurance is a workable system. FRB is not.

Whatever. That does not make it fraud.

That was also discussed in depth. Bankers never explain upfront how their system works. To me that's fraud, but call it 'whatever' you please. Despite its name, it will not work.

scineram:

Too many depositors asking for too much money at the same time is an accident. The chance that they will not pay your money is <<1 .

Under "normal" circumstances, no more than 10% of depositors will demand their money.  With a few failing banks and a little pressure put on the FDIC, this will change.  Once the FDIC has gone bust, there is 0% chance that the banks will be able to meet their depositors' demands to withdraw, without completely destroying the value of that money by storming the discount window.   I don't even think the FOMC could buy up enough debt to cover this amount.

That said, I don't think the banks are as fraudulent as the government, if at all.  The banks are really forced into this system.  The government is the one who has defrauded the world by steadily preventing gold redemption for federal reserve notes.  Yet, supposedly power comes from the people.  In this view, it would seem that fraud is impossible, as the citizens can't demand this system then claim they were deceived into accepting it.  I wouldn't call it fraud, but error.

When the fall does come, I don't think too many people will be saying, "Well, I guess we made an error by using central banking and fiat currency to preserve a fractional reserve system that is doomed to be unable to meet its claims.  Our bad."  They will most likely blame you and me, for abandoning the dollar and investing in gold/silver, or the government, for giving them what they asked for.

Juan:

That was also discussed in depth. Bankers never explain upfront how their system works. To me that's fraud, but call it 'whatever' you please. Despite its name, it will not work.

 It worked quite well in Scotland until central banking.

 

I never mentioned FDIC and FOMC, they should be abolished.

It worked quite well in Scotland until central banking.

FRB ? I doubt it.

http://cepa.newschool.edu/het/schools/bullion.htm

In the 18th Century, there was a clearing-house system of banking in the United Kingdom. Banknotes, which circulated as money, were issued by private banks. These bearer notes were claims on gold held by the bank - hence the common preamble which still persists in modern Bank of England notes, "I promise to pay the bearer on demand X pounds." In that time period, that promise was actually true: a person could take a note to the bank which issued it and ask for it to be exchanged for gold. Thus, for a long time, all paper notes were issued by private banks on the basis of the gold they had in their vaults.

In Scotland, however, there was a slight exception: banknotes often had a clause that allowed the bank to suspend convertibility. Although banks were legally required to pay the bearer in gold bullion, they could temporarily suspend that conversion should they find that necessary. The suspension clause in Scottish banks was the way that system responded to clearing house "bullying" trick - whereby several banks would surreptitiously hold back notes issued by bank Z and then, one day, they would all collectively unload the notes upon bank Z and demand redemption. Naturally, as it was a fractional reserve banking system, bank Z would not be able to redeem them all. If convertibility was required by law, then bank Z would have to declare bankruptcy. This sort of ruination by a clearing house cartel against a loner bank was not uncommon in Europe and North America. Thus, Scottish law allowed for a temporary suspension of convertibility. This clause, however, was banned in 1765 and henceforth Scottish banks were required to pay the full amount on demand.

The government banned the tool the market protected its stability. Great.

scineram:

The government banned the tool the market protected its stability. Great.

That is what caused the depression of 1819 - government protection of breach of contract.  It does not promote stability, it only dams up instability, while in the process distorting the economy through changes to money supply.

Conversely, the government didn't protect the trusts in the Panic of 1907 when J.P. Morgan and co sought to wipe them off the map and make the case for central banking at the same time.  While this was painful, it wasn't as bad as 1819...

And it pales in comparison to 1929 - ?, when the contraction of artificial credit was simply disregarded through not only central banking, but the prohibition of gold currency.  Of course, there were many other poor policies put into place in those days...

liberty student:

Then you didn't read them.

 I did read all the links and I completely understand that inflation is the problem. None of the articles mentions interest at all and to me the problem is that interest is such an ingrained part of our system that people do not think to contemplate it at all which is in fact alot like paper money in our current system it is taken for granted that it is a necessity that most people do not bother to look into it any deeper than they need to. As far as speculation that is not something I am completely deadset against but I believe that in the context of a fair democratic monetary system it is something that would be drastically reduced.

slider123456:

The cause of the ever expanding money supply is interest.

liberty student:

That is like saying, "the cause of my house is hammer and electric drill".  Interest is a technique, a method a strategy.  It is not the cause.  What you're doing, is ignoring what I posted, and continuing forward with your preconceived ideas about money.  Which is fine.  Eventually you will only be talking to yourself, because you're way off base.

 All I am saying is that making money out of thin air is not the real problem. As an example if the fed lent out paper money to reflect the goods in society there would not be a problem it is when they give out more money than the goods are worth that problems begin to arise. If there were 3 people all with assets appraised (guessed using current market prices or an agreement between buyer and seller) at $10 each and they were all lent $10 for a set term at %0 interest with those goods as collateral they would be able to all buy each others goods without having to resort to inefficient bartering and then pay back the loan or lose their product. Now giving one agency that kind of power is very likely a bad idea and how to best implement that system I do not know I am just saying that it would be more effcient and fair. To me paper money or gold have very little intrinsic worth, there worth relies completely on the products and services a society makes if everyone stopped producing goods tomorrow no one would pay interest to attain either paper money or gold. If all the gold and paper money dissapeared tommorow goods and services would still have a demand although the inefficiencies of barter would complicate trade. What this tells me is that the more fundamental aspect of our economy is goods and services and money is just a way to abstract goods and services to make trade more efficient.


 In some foreign countries in small communities the role of banks are being usurped with pen and paper. In a community where people know and trust each other they make a certain product then credit themselves the amount it is worth on a ledger. So everyone who made a ten dollar good credits themselves then when they want to buy something they buy the good then minus it off their ledger than add it to the ledger of the person they bought it from. So they have obsoleted the need for a bank and the vast sums of money they get paid with pen and paper. Obviously this would never work on the scale of a country as there is no way everyone could be trusted, outright fraud and exagerations of a goods worth would be commonplace, but with a 3rd party non profit institution that gave jailtimes for fraud and had strict transparent accounting and oversights it could be done.

slider123456:

Even in an economy with a gold standard that was not inflationary it is obvious it would not work.

liberty student:

People who think they understand the debt virus or the compound interest paradox without having read anything else are really frustrating.  Your "perfect debt virus" scenario is contingent upon a lot of stars aligning.  And even then, I'm not sure it could happen in the absence of legal tender laws.  You're discussing the flaws in a flawed system.  Attack the system, not the notion of money or a means of exchange.

 I gave a few examples before of how I understand the, as you call it, debt virus and I would like to know what counteracts it. The only stars I can see that would counteract the effect is if banks spent the interest into the economy but this is definitely not the case they lend it into the economy. The other process that would seem to counteract it is loan defaults but if the loan has collateral the bank sells the collateral and gets most of the money back anyway. Loan defaults on unsecured loans would mitigate the problem since they in fact release "free money" into the economy but loan defaults on unsecured debt are a drop in the bucket. Also trade surpluses which are enough to pay of interest on a debt will also negate the effects of interest but at the cost of another country who will soon realize the trade deficit is hurting them and remedy the problem through less consumption (lower satandard of living) and more work.

 Banks spending the interest back into the economy is not the case. Most money comes into the economy through house loans and as I pointed out before a $200,000 house costs about $550,000 with a 25 year loan. Since their profits are about %50 of the cost of the house at the 25 year mark they would have to buy half of the houses (or spend an equivalent amount somewhere else)  for them to spend the interest back into the economy. Banks do not spend such large amounts of money into the economy they lend it out to the economy which only serves to perpetuate the problem and increases the debt owed due to interest. I do not see how people will not accept that when I buy a house for $200,000 dollars then get a loan and ask how much I will pay for the house at the end of 25 years and the bank says $550,000 that is in fact the defintion of inflation. I have to pay more for the same good because the bank lent me $200,000 worth of paper. If the banks did not charge interest the price of the houses on average would not go up they would stay the same what drives the prices up is that no one is going to sell a house they paid $550,000 for for $200,000 and a consensus of new prices occurs because everyone is in the same predicament.

liberty student:

Please, please, please read Rothbard.  You've read one or a couple books that do not give you a complete view of money and banking.

 I did read Rothbard and there was no mention of interest at all. There was nothing that explains how the debt virus is overcome without shifting vast amounts of money to the lendor who in effect contributes very little practically to the production of the borrower. I completely agree that gold seems to be a better medium because it cannot be counterfeited and removes the ability of the lendor to do so. But on the other hand people seem to assume that gold has an inherint value and are willing to pay interest on it because of that and to me that is dangerous. Gold has very little inherint value and gains most of  its value not from itself but from the goods and services the society provides without these goods it value would be considerably less.

 

meambobbo:

slider...

1) like i said, if gold tends to be used as money because it is over-valued, why would it have ever been used as money in the first place, before it was possible to have such over-valuation?  And through market pricing and exchange, how can we even claim that something has a different value than its market price?

2) first, the high or low value of a substance has little to do with its use as money.  it simply needs a stable value - in the case of money, this means a relatively static supply. as i said, if gold costs a lot, it also sells for a lot. its value has nothing to do with the exchange rates of the non-monetary goods that are actually being traded.

gold might be a pretty value-less thing to have on a desert island (i also don't know about this...if you had enough, a gold statue would make a pretty attractive beacon to any passing ships).  but if everyone was stranded on a desert island, we'd have bigger problems than determining ideal money.  for a normal society, gold has far greater value for its weight than food or shelter...this makes sense; it cannot be produced at will.  also, two of the ideal properties of money are durability and portability, which neither sandwiches and houses have both.

i am not simply making this up.  your dilemma here was debated and solved in the 1700's. http://en.wikipedia.org/wiki/Paradox_of_value

and you may prefer a sandwich over gold, and would only value gold if it were able to be traded for many sandwiches.  but as i said, there are others with the complete opposite persuasion, who want gold not to simply sell it for a greater number of sandwiches, but simply because they want it more than anything else at that value.  if everything had a specific value common to everyone, then there would be no trade whatsoever.  trade requires people to value what they receive more than what they offer in exchange.

3) This is what I originally meant: all that is required for gold to have a market value higher than a sandwich is for one powerful person to desire gold many more times than a sandwich.  maybe everyone else would prefer a sandwich over an ounce of gold, but they know that they could sell the gold to that one person for 100 sandwiches.  But, if everyone could mine an ounce of gold far easier than they could make 100 sandwiches, this situation would change quickly -> the market price of gold would go down as production increased and demand decreased.  Normally, it is easier to make 100 sandwiches than to find an ounce of gold.  Thus, depending upon how much that one person wanted gold, he may up the price.

People will act to reward themselves.  In an exchange society, that means not producing simply what you want, but what others want, provided they in turn provide you with what you want.  People actively attempt to produce things like gold, because it is a quicker means of attaining what they do want, then directly producing those things.

4) I don't know what you are saying here.  How is gold production different from gold mining?  And I don't see how a significant amount of man-power would be wasted in such operations.  Shouldn't the same thing be occurring today?

5 & 6) No, no no!  I hate when I run into this argument because it is simply not true.  If you take a $1,000 loan which is the only money in existence, you can still pay the loan and interest (let's say $1,100) with only $1,000 in circulation.  The reasons for this are (a) you don't have to pay the loan back as one lump payment and (b) the bank spends the money that you pay it back into circulation.  As long as you produce things that others want, you should be fine.

of course, it can become a problem when only one institution can create what is solely legally known as money.

7) You're squaring a circle.  Of course everyone tries to avoid selling at a loss, yet people still do.  The reason that people sell at enormous "gains," however, is not because of interest, but because of increased nominal demand, which is basically what you're saying on the side.  This isn't simply interest.  It occurs outside of interest.  Why wouldn't I buy a house at $200,000 with cash, then sell it later for $550,000?  Because $550,000 later isn't the same thing as $200,000 today.  It's not a true 100+% profit in real terms.  And this is due to money supply, not interest.

Simply because our inflationary currency system is created through the banking system and loans doesn't mean lending at interest is the required ingredient for inflation.  For instance, the emperor of Rome used to debase his coins with base metals, then spend the increased supply.  There was no interest, yet prices went up.



Look, your basic premise is flawed.  Thus, your conclusions are quite flawed.  You are essentially defining your own values for your products.  Who is doing all this appraising?  An exchange economy uses money for calculation.  You should read Mises's rebuttal to socialism.  Here, I'll give you a link to a summary: http://mises.org/story/2401   It basically says you can't replace market exchange rates with appraisals and expect to have a properly working system.

Speculation may have occasional negative effects (although I think you are over-stating them), but it also allows capital investment, the backbone of our economy.  You are starting to sound like a 100% Marxist with this stuff.  You are suggesting we can engineer a money system to remove interest from lending and an economy that is free from speculation.  Good luck.

 1) I am just talking in practical terms of the worth of gold. In ancient times it was thought to be a dense combination of water and sunlight and this mystical idea of owning sunlight probably contributed significantly to its worth. The use of it as money is very similar to our use of paper money except the powerful people who gave gold its worth were royalty who desired it for its malleability and resistance to tarnish which made it easy to make shrines and idols, plates, cups, vases etc that the powerful desired. Whereas today the powerful (our government) have done the same thing for paper money by making it something which can be used to pay taxes and private debts. I am sure the excessive value of both in practical terms came from the ability to use it to pay taxes which served to elevate it as a standard means of trade. The fact that paper could be elevated to something that could be traded  for labor goods etc through crafty manipulations shows that it is not so much the material that is used for trade that is important but the goods services etc that they represent or abstract.

2) I am only arguing that the value of gold when there is nothing to buy with it is worthless but the value of a sandwich which cannot be traded for anything is not reduced. I am saying that the value of goods is a more fundamental aspect of an economy than the gold which can be used to buy them. If gold and all forms of money dissapeared tomorrow trade would still be possible through barter but if all goods and services dissapeared tomorrow all the money in the world would not matter.

3) I agree and believe that the powerful person who desires gold or money is the reason beliefs become skewed to valuing gold or paper money as having an unreasonably high (in practical terms) intrinsic value. The fact that our current valuation of paper money is so high shows that with the proper resources anything of sufficent rarity or controlled production can be manipulated to be seen as having a value which in practicality it does not have. Whether it is gold or paper money that is very hard to counterfeit and has controlled production does not matter. Here is a quote by Warren Buffet (who has surpassed Bill Gates as richest man) on gold:

"It gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head."

4) I believe that any gold mining that is not used in a actual product is a waste of manpower. What I was saying though was if we used gold with many of the same rules in place as today such as inflation gold would have to be mined to keep up with inflation or it would have to be constantly devalued much like paper money is today. If there was a sudden housing boom so that the number of houses doubled there would either have to be more gold mined or the value of gold would have to be davalued to reflect the extra production. Also if a bank lent out $200,000 dollars for a house the interest of $350,000 worth of gold would have to be mined and lent to someone else otherwise the borrower would never be able to pay his loan so he would have to default. I am saying in an inflationary framework gold would not work very well.

5&6) Banks do not spend the interest back into the economy they lend it back into the economy which only serves to perpetuate the problem. If banks spent all the interest back into the economy they would end up owning everything over a period of time. With the example of mortgages (which are a huge part of the money injected into the economy) on a $550,000 house the bank gets roughly half. They would have to spend at least $250,000 into the economy for that house they do not do so they lend it out. Lump sum or not it has the same effect it serves to create inflation because all people who have bought a $200,000 house have payed $550,000 they are all going to ask for $550,000 or more for the house when they sell it this in effect sets the market value for houses as long as the banks are willing to finance them for that price. Prices are much less in control of the maket than they are in control of the banks and if the banks are willing to finance and no one defaults on it the price will hold.

7) I do not believe that I am squaring a circle. In previous generations after the great depression when the economy was picking up steam prices continually dropped there were newspaper articles from politicians saying that they were entering a golden age where less work was needed to acquire the same amount of goods. This was a result of all the interest that had been propping prices up having been defaulted on. People began to gain the benefits of automation, competition and ever increasing efficiencies in the market place. This should also be the case today in most areas of productin and service not just electronics. When a more efficient method is discovered it means less man/hrs to produce the same good widening the margins when a competitor sees this he will enter that field lower his margins a little selling goods cheaper and through market share increase his profits. This is how our economy would work if interest was not eating up the gains of efficiency and at one point in time it was. This ever decreasing cost was a problem for big business as it was a disincentive to buy goods as more goods could be bought later for the same price this encouraged savings but was not as beneficial to big business as a incentive to spend (such as inflation) would be so in hindsight it looks as though they did everything in there power to encourage this inflationary economy.

 $550,000 dollars later is not the same thing today because the banks have to lend out the interest so the borrower can pay off the loan this creates inflation and causes the dollar to be worth less. If loans where given out at %0 there would not be a need to loan the interest out so that the borrower could pay back his loan and inflation would not ocurr.



 As far as appraising who apraises the cost of something today? An appraisal is a guess based on current market prices it is not fixing the price to a certain level outside of the market. I am in no way advocating socialism or marxism I am advocating a system which does not use interest as a means of releasing "money" into an economy. When someone takes a step back and realizes that money is essentially made out of "thin air" and that we are charged large sums of our time for the benefit of using it even though it has been replaced with a pen and paper in some places you come to realize what a collosal rip off this process is. I am not even saying interest should become illegal just that if it were mandated that there would be an institution lent at %0 it would eventually overtake any institutions that lent out money for more. Anyone could still try to lend out at interest but almost no one would take up the offer since they could get it cheaper somewhere else.

meambobbo:

slider123456:

they do not seem to point out the cause of why our paper money supply is inflationary.

Because there's more money, nominally.  Why is there more money?  Because one privileged group is allowed to create it, which essentially allows them to forcibly transfer others' wealth to themselves.

Why is this so hard to understand?  You may have stake in your interest theory, but it is wrong.  Even a book you mentioned reinforces this.  The Creature from Jekyll Island clearly says that interest doesn't require new money to afford it, only that the interest payments are spent back into the economy.  Of course, this only pertains to a system where only one institution can introduce money into society, and everyone has to accept it as money.

In a free market, where anything can serve as money and anyone can make loans, interest, market prices, and speculation are not a problem.

 I know there is more money I am saying that if they created money to actually reflect the goods for sale without interest there would not be a problem of inflation. If there were 3 people with houses that where agreed by society to be worth $100,000 each and the bank made a term limited loan with the houses as collateral to each one, they would be able to buy each others houses with no problems the market value would not be driven up by the cost that was paid for the house so the cost would stay the same. Population increases would drive prices up but population decreases would drive the price down.  Once you add interest into the equation it starts becoming exremely complicated and an entirely new set of rules comes into play which includes ever rising prices. Banks also do not spend the interest back into the economy they use it to back new loans.Ever increasing prices that do not remain relative to wages are unsustainable as there will be not enough money from wages to buy the goods produced.

 

 As far as arguments against socialism I completely agree that a free market is better but in the far future that will not likely be the case as automation obsoletes jobs some form of socialism seems inevitable. In the last 40 years we have halved the number of people working in manufacturing jobs but our manufacturing output has remained the same. There is no reason to believe this trend will not continue and accelerate. I would consider making jobs in the service industry that are for the benefit of society as a form of socialism and as the only way to counteract the trend towards automation. There have recently been new products in farming that can do weeding etc using GPS and computer programs combined with machinery so the automation process is beginning to leave the confines of the factory and enter the outside world. So far we have been able to replace these jobs with new ones but any breakthrough technology could rapidly change that and even the service industry is switching to automated answering services or ATM's instead of tellers so there is no guarantee that the service sector will be completely immune from future advancements. Whether these advancements will happen or are possible I do not know but if they do and are some form of socialism might be the only humane answer.

check out mises's theory of interest. here you will have the interest angle of all those articles you read. automation/technology is a net benefit. the best way to increase wages is to increase productivity per worker, which technology does. where it does push marginally skilled workers out of work, it allows charity an easier job of helping such people. i'm sorry, slider, but what you are suggesting isn't new. check out veblen's work. most quack economists come at the subject from an emotional angle, where the data will be manipulated to reveal the results you want. this engineered society where goods are priced according to their "true value" and such is a utopian approach to a real problem. when we get to post-scarcity, you may have a point; however, post-scarcity is a fiction. even if physical goods are a dime a dozen, intelligence will always be a scarce resource.

Is that what he's going on about? I can't be bothered to read huge posts any more. The number of quacks railing against interest is phenomenal.

-Jon