Home > Uncategorized > feedback in credit-based monetary systems

feedback in credit-based monetary systems

In light of the recent economic crises, and because fiat money is typically given as an example of the Tinkerbell Effect, it is worth looking closer at some aspects of this.

deleted from Wikipedia’s entry on fiat money, but still available in slightly altered form elsewhere on the net (like reference.com’s page on fiat currency):

…fiat money’s value is unrelated to the value of any physical quantity, for instance gold, but is typically backed by a state’s future tax incomes…

Feedback in credit-based monetary systems
Global capitalism, wherein a currency is widely traded as a commodity in itself, is more likely to rely on credit money which can reflect both (commodity) supplies and protections of supplies (by states’ military fiats). It is not held stable by any one state but rather by tension between states, as investment migrates from currency to currency in an open “money market”. As long as there is an international feedback mechanism, such that states attempting to inflate their currency suffer a corresponding drop in international buying power, and an internal feedback mechanism, so that the government is liable for economic failures that stem from fiscal or monetary irresponsibility, the money system does not take on the characteristics of a fiat money system. However, to proponents of hard money such mechanisms are not to be trusted, and all money not directly based on specie redeemable on demand is “fiat money”. This means that today all the currencies are fiat money, because none is based on specie redeemable on demand (generally gold).

The regime of asset-based money, or credit-based money – in which banks create currency as intermediaries and governments, in turn, back the banking system – produces a different series of problems. In no small part because it is not immediately easy to differentiate sound currencies from unsound ones, and it is possible to convert credit-based money into fiat money by a legal act or regulation. The question of confidence dominates credit-based money, the confidence that a particular central bank or government will not act in a manner contrary to its national interest by allowing the money supply to rise or fall too much. Part of the system of confidence includes holding of reserves to be able to support a currency if attacked, and the issuing of debt to regulate the supply of currency.

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