Monetary System, Intrinsic value of money and hyperinflation

 

Fear of hyper-inflation:

Monetary system, Money is originally printed out of the air, and its value depends  that is, trust in the state.

Countries including the United States have released tremendous liquidity after the Corona crisis.

Looking at the size of the Federal Reserve (Fed) assets, which is one of the indicators for determining the scale of liquidity expansion by central banks, it surpassed the 4 trillion dollars at the time of the financial crisis and reached 7 trillion dollars.

[caption id="attachment_5996" align="alignright" width="310"] Federal Reserve[/caption]

Its scale is great, but its speed is also unprecedented.

During the 2008 global financial crisis, central bank assets expanded from 1 trillion won to 4 trillion won through four quantitative easing over about six years.

Because they release money like this indefinitely, some people are also afraid of hyper-inflation.

I am afraid that the value of money will drop and the price of money will soar because I have released a lot of money.

Today, let's take a look at what money really is and how its value is affected.

What is money?

[caption id="attachment_6000" align="alignleft" width="300"] Orthodox economics theory[/caption]

Orthodox monetary theory, or orthodox economics, teaches this.

Money is a medium of exchange, a measure of value, and a store of value.

And the development process of money started with barter, went through commodity money (shells, etc.), metal money (gold coins, silver coins, etc.), and developed into banknotes and credit money.

Jeffrey Ingham, professor of sociology at the University of Cambridge, says all of these explanations are wrong.

It was logically wrong, and it is said that the actual history did not proceed that way.

First of all, money is a debt. If the other party has what I want, and I have what the other party wants, and an equivalent exchange is established, then there is no debt.

 

Simply put, I want the pen you have, you want the paper I have, and if you can agree on an exchange rate between the two, the relationship ends with the exchange.

This is called ‘double unity of desire’.

In real life, the ‘double coincidence of needs’ occurs extremely rarely. How likely is it that someone who has what I want will have what I want “right now”? That possibility must have always been very low.

Computation currency and commodity money:

 

 

So, to make an exchange, I can promise to pay you something of value 'in the future' in exchange for what I have.

If you trust that promise and the exchange is made, you have a debt to me and a bond to the counterparty.

The important point here is that the value of the debt (bond) must be equal to the value of the good or service provided when the exchange first took place.

Some metrics are needed to measure its value.

Those indicators are the dollar, the pound, and the denarius (Roman monetary unit). Money as a unit of measure of value is called ‘computation currency’. Currency with the concept of using easy-to-use products as money as a medium for transactions is called ‘commodity money’.

 

Metal money is also commodity money in a broad sense. Commodity money is the result of human society's continuous development of goods that can be used as money according to the unique properties of commodities, such as weight, density, immutability, and ease of processing.

From this point of view, money itself has intrinsic value. Gold is gold, and shells are shells.

Actually, it is an object with a certain value that we need in life, which means that we are only using it as a medium for transactions.

"Certificates" representing money:

[caption id="attachment_6009" align="aligncenter" width="339"] $1.00 USD[/caption]

According to the bond/debt logic above, in order for commodity money to exist, computational money must first exist.

The fact that the real thing to represent the debt is needed only when the debt exists first
no see.

Historically, Sumerian and Mesopotamian clay tablets were used much earlier and more extensively for marking debt obligations.

When we think of Roman or medieval times, we often think of minted metal coins such as gold coins and silver coins.

Metal coins:

 

However, even during the period when metal currencies were most active, the proportion of metal currencies used in all transactions did not exceed 50%.

Currency as a real thing, such as coins or banknotes, is not money in itself.

 

It's just a 'certificate' that represents money.

It doesn't matter whether the physical token is pure gold, foreign gold, clay tablets, or wooden sticks.

If only I could pay off my debt. What does the value of money change according to?

Now, I mentioned that a transaction using debt is necessary, and there is a currency of calculation to measure the debt.

 

Why is monetary system accepted by society?

 

 

To trade goods with money means to defer debt.

When A buys (exchanges money) a good from B, it means that B expects to pay off a debt owed to someone else with that currency.

When B buys a good from C, it means that it acquires some value from C, and in return for it, A defers the debt owed to B back to C.

When money goes around, it means debt keeps going around.

People inevitably incur various types of debt in their lifetime.

So, the more likely that ‘something’ I received in return for providing value to someone, the more likely it is to be used to pay off my debts in the future, the easier it will be for me to accept.

In other words, a currency that is more likely to pay off debt has a higher value. What is the strongest debt?

Taxes, the strongest debt:

 

Taxes are a debt that every citizen must owe. If a currency could be used as a means of paying taxes, that currency would have a much greater value than others.

This means that any currency that can be cleared from taxes can be accepted as a transaction.

Until the subject of the tax payment changes. If the country goes bankrupt, there will be no more tax obligations
yo. This?

At that time, the value of money as a ‘certificate’ will also disappear.

 

 

Gold coins are basically money. When gold coins function as money, the actual gold content is not ‘surprisingly’.

As long as there is a monetary system in which the gold coin belongs, whether it be denarii, drachma or pound, the gold content does not matter as long as there is a guaranteed settlement of debts in that currency.

However, if the system is in danger of disappearing, that is, if the country is on the verge of bankruptcy, the value of gold coins as a 'certificate' disappears, leaving only the real thing, that is, the value as a 'commodity'.

'Gresham's Law' or 'exacerbation builds up good':

 

[caption id="attachment_6019" align="alignleft" width="193"] Thomas Gresham[/caption]

This is the phenomenon in which the content of precious metals in precious metal currencies such as gold coins and silver coins is reduced from the face value, while people keep money with a high content of precious metals at home and keep the content. It talks about the phenomenon that the circulation volume gradually decreases as only this low currency is used for transactions.

Some even refer to it as the reason for the fall of the Roman Empire. Would that be true?

Although the content of precious metals in the Roman Empire's precious metals was declining, inflation was far slower than that.

Inflation surged at the end of the Roman Empire, most likely due to a weakening of power in the Roman Empire, a widespread belief that the Roman Empire would no longer have to pay taxes in denarii.

Inflation is the result, not the cause, of the weakening of state power.

Does quantitative easing lead to hyperinflation?

The value of money depends on ‘trust in the monetary system’:

 

[caption id="attachment_6021" align="alignleft" width="300"] U.S monetary system[/caption]

To use money as a medium of exchange, you must believe that the price of the currency exchanged today is the same as the price you will exchange for money tomorrow.

This belief is basically an illusion. You have to convince someone that the illusion actually exists.

It is the central bank of each country in this era that plays that role. The central bank needs to instill in the people the belief that the central bank is trying to maintain the value of money.

As former Fed Chairman Alan Greenspan (as usual in vaguely) put it this way:

 

“The most effective way for the Federal Reserve to work is for the Fed to fulfill the expectations of the people it has created so far.”

Quantitative easing is an attempt to stabilize the economy by printing money. When a financial crisis comes, creditors do not buy new bonds, and debtors (including businesses and individuals) cannot repay their existing debts, leading to bankruptcy.

Quantitative easing is when the government steps in and buys bonds to breathe life into debtors' funds and keep the economy running.

Money is originally printed out of air:

 

 

The problem is that to finance this funding, the government literally prints money out of the air.

It is intuitively plausible to fear that the value of money will decrease because the money supply increases when money is just printed.

But the reality is not. Money is originally printed out of the air.

Randall Ray, a professor of economics at the University of Missouri, explains this mechanism in detail in her book The Balanced Fiscal Theory Is Wrong.

The government is the issuer of the currency, and the private sector is the user of the currency.

In order for the private sector to use money, the government has to issue a currency first.

As I said earlier, money is a debt. Government issuance of currency is done through the issuance of government debt. (To be precise, adding money to the reserve account of each private bank deposited in the central bank is quite complicated, so let's understand this only.)

If the people (and currency users of other countries) believe that the state has the will and ability to maintain the value of money, the value of money is maintained.

Otherwise, the value of money will plummet.

Printing money and hyperinflation:

 

Typical examples of what is referred to as hyperinflation are the Weimar Republic and Zimbabwe. We are terrified to hear anecdotes of bills being carried in carts, or the money that could have bought a loaf of bread in the morning can't even buy half a loaf of bread in the afternoon.

Randall Ray explains the issuance structure of money and then states:

“The fact that we have to keep mentioning cases like the Weimar Republic and Zimbabwe, which we will meet when talking about hyperinflation, has a lot of implications for the relationship between ‘printing money’ and hyperinflation.”

[caption id="attachment_6033" align="aligncenter" width="350"] Money printing and hyperinflation[/caption]

“There is no causal relationship between the two.”

Weimar Republic suffered huge war reparations after its defeat in World War I.

Concerns spread that the reparations could not be paid in the Weimar Republic, where all production facilities were destroyed.

Therefore, if the Weimar Republic collapses, the currency of the Weimar Republic becomes meaningless, resulting in hyperinflation.

Zimbabwe, too, has been in a state of disrepair due to long-standing corruption.

Lack of money resulting in hyper-inflation:

 

As in the case of the Roman Empire, hyperinflation is likely to be the result of, not the cause of, the weakening of national power.

If this logic is correct, what should the central bank do during the financial crisis or the corona crisis?

A series of events put the system at risk of no longer working.

[caption id="attachment_6034" align="aligncenter" width="476"] Roman empire inflation[/caption]

If the money was not released at the time it was supposed to be released, would this have led to distrust of the system?

It is not to say that hyperinflation does not come because money is released, but hyperinflation will come if the money is not released.
It would be more true to the facts.

Of course, there are people everywhere who do not trust fiat money (money that is not exchanged at a fixed rate for real things such as gold).

Such people are eager to buy gold whenever there is QE.

Gold prices skyrocketed after the Nixon Shock in 1971.

Printing money collapsing monetary system: 

 

There are people who view the sharp rise in gold prices as a preference for safe assets and as a harbinger of the collapse of the currency value.

It is true that gold prices rise whenever there is a preference for safe havens, but it is unreasonable to view this as inflation.

Inflation, under normal conditions, refers to a booming economy. The preference for safe-haven assets is a phenomenon that occurs when the economy is in recession.

And hyperinflation is totally different from normal inflation.

Hyperinflation occurs when trust in the system breaks down.

At this point, the concern about hyperinflation is the same as the expectation that the global monetary system based on the dollar, including the United States, will collapse.

There is no guarantee that the existing monetary system will last forever. However, the monetary system does not collapse just because money is printed out of the air. Because money is originally printed out of the air.