Thursday, November 20, 2008

Money's role in plunder

I strongly recommend this excellent post by Arnold where he posits how money is intimately intertwined with Government power. Part of me wants to say "duh", but fully embracing the reality of fiat money is hard, especially when our intuitive sense is tied to this atavistic idea of "store of value".

Fiat money comes into existence when it is issued by a Government. First the Government creates the loan, then the loan creates the deposits. Demand for Government money comes from requiring taxes in that fiat currency, and the secondary market comes into existence as individuals exchange goods and services to get the money to pay taxes, and net save. Fiat currency by definition is entirely a creation of the Government.

The role of the banking system is administrative -- someone needs to tally all the credits and debits -- and it should also be to assess credit risk (how likely is this loan to be repaid). The Government creates the money to be loaned out, but it wants an intermediary to decide who should get it and who should not based on their assessment of credit risk.

As Kling says, the standard view is a medium of exchange view, where money makes trade between producers easier. This view gets us to a "money is a store of value" concept, a gold standard, etc. etc. But in fact, fiat money is just willed into existence by a sufficiently powerful Government. The strength of fiat money depends on the strength of the Government's ability to demand and collect taxes.

Arnold seems to find something sinister in this, but it's just the way fiat currency works.

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