But Enoch was right. He had made the two intellectual leaps in economic policy which Keith Joseph and I would only make some years later. First, he had grasped that it was not the unions which caused inflation by pushing up wages, but rather the Government which did so by increasing the supply of money in the economy.

—Margaret Thatcher. Margaret Thatcher, The Path to Power, 1995.

The stock of money

The stock of money is the amount of actual notes and coins in circulation.

Debt instruments are not money

It is a mistake made universally by economists to consider that debts form part of the stock of money. They include deposits at banks, warrants, government loans, travellers cheques and other money substitutes as though they were money. This error leads to fundamental mistakes in their analysis. In fact money substitutes are promises to pay real money. They circulate alongside real money, but they are not real money. (When a country is on the gold standard, the currency itself is a debt instrument and the real money is gold.)

The cause of monetary deflation

Monetary deflation is caused by the stock of money (actual notes and coins in circulation) contracting. That means notes and coins leaving circulation is what causes monetary deflation. For example if a drug runner’s speed boat sinks, any cash he had with him is lost from circulation. Likewise, when a coin rolls down a drainpipe it is lost from circulation.

When the government refrains from spending tax revenue, it causes monetary deflation. This is because the money locked in a government vault leaves circulation. If there is a significant budget surplus, the economy simply adjusts to work with the reduced stock of money. Thus, when the government finally comes to spend the money, it is, for all practical
purposes, the same as printing money (it causes monetary inflation).

The cause of monetary inflation

Monetary inflation is caused by the stock of money (actual notes and coins) expanding. Thus, it can only be caused by the government printing notes and minting coins.
monetary inflation causes unemployment

The evils of monetary inflation

Inflation destroys nations and societies as surely as invading armies do. Inflation is the parent of unemployment. It is the unseen robber of those who have saved.

—Margaret Thatcher. Speech to the Conservative Party conference, Brighton, October 10, 1980.

When a government wants to spend money but lacks the honesty to raise taxes, it will often resort to printing money. At first the new money goes unnoticed; people continue negotiating as if prices remain the same. After twelve to eighteen months the effect of the extra money in circulation begins to tell in the form of increased prices. As the government prints more money, the rate of rising prices (monetary inflation) accelerates. This This leads to an adverse effects, including:

  • Cash quickly loses value, so people stop saving. Instead, they spend their money as soon as they can, meaning they no longer save up to buy houses, cars, and other big ticket items. The result is that workers in those industries become unemployed.
  • When businessmen and foreigners undertake a new investment, they need to be able to calculate how much money they will need. However, when there is rampant inflation, the effective return on their investment is impossible to calculate. This causes foreign investment to dry up. This leads to more unemployment.
  • People on fixed incomes lose purchasing power. With less purchasing power they buy less. This means the businesses they buy from sell less and need fewer employees. This leads to more unemployment.
  • People’s lifetime savings shrink in value so, fearful for their retirement, they spend less, hurting businesses and causing more unemployment.
  • Employees, terrified by the drop in the purchasing power of their wages, demand higher wages, usually slightly ahead of the rate of inflation (more in real terms). Businesses, already hurt by declining sales due to inflation, suddenly find they are paying staff more in real terms. This forces them to lay off staff or to shut their doors altogether, leading to more unemployment.
  • Banks and other lenders need to factor inflation into their interest rates in order to ensure an adequate return. This leads to high interest rates that deter businesses and homebuyers from borrowing. Capital-intensive businesses, especially construction, then grind to a halt, leading to more unemployment.
  • A government usually decides to address the symptom of its money-printing by banning price and wage increases. This always fails, even if the law is backed by the death penalty, as it was during the French Revolution. The price mechanism is how the market distributes resources efficiently; when it is distorted, producers cannot sell goods for what it cost them to make, so they simply stop making them. Any commerce that does survive is driven underground, while most businesses, unable to make a profit, are forced to close their doors and lay off their staff, which causes more unemployment.

The ruinous effects of inflation have been repeatedly demonstrated throughout history. Notwithstanding, Keynesian economists invented the ‘Phillips Curve’ theory. In short, the theory states that if you have an unemployment problem you can solve it by printing vast amounts of money. Based on this absurd theory, in the 1970s governments around the world turned on the printing presses in order to ‘beat unemployment.’ This led to so-called stagflation (simultaneous inflation and unemployment).

The invention of the word ‘stagflation’ to explain what they called the “previously unknown phenomenon of simultaneous inflation and unemployment” was another absurdity of Keynesian economists, for while it was previously unknown during peace time (in the past only a government made desperate by war would do something so foolish), history shows that monetary inflation always causes unemployment.

In summary, the main utility of money is that it has a constant value upon which to rely when negotiating contracts and storing wealth. Monetary inflation undermines that utility.

The non-existent evils of monetary deflation

Scarcity is the essential feature of an economic good. Goods which are not scarce in relation to the demand for them are not economic goods but free goods … . To establish the fact that gold or dollars are in short supply is to pronounce a truism.

—Ludwig von Mises. The Theory of Money and Credit, trans. Harold E. Batson, originally published 1912, Indianapolis: Liberty Fund, 1981.

There may have been a time when monetary deflation was a problem, back when gold was used as money. In those days, if there was not enough gold in circulation merchants would go to the market and, having no coins to exchange, would be forced to barter. The problem then was that the gold was not infinitely divisible—coins could only be made so small. Europe suffered from such a lack of gold during the Dark Ages. Today, thanks to electronic payments, denominations of money (gold-backed and fiat currencies) are infinitely divisible. Thus monetary deflation can no longer cause a physical shortage.

In theory, the constantly increasing value of the currency (monetary deflation) brought about by population growth could be harmful because it denies the market the certainty of a constant value. However, this fear is debunked by the experience of the nineteenth century, a century of hard currency (gold and silver backed). During that century, the populations of America, Britain, France, and Germany grew rapidly, as did their economies, but the mining of precious metals did not keep up. This caused relative monetary deflation, yet there were no negative effects on economic growth. This was because the monetary deflation was slow enough that it did not cause uncertainty in the making of contracts.

The optimum stock of money

No increase in the welfare of the members of a society can result from the availability of an additional quantity of money.

—Ludwig von Mises. The Theory of Money and Credit, trans. Harold E. Batson, originally published 1912, Indianapolis: Liberty Fund, 1981.

In the modern era of electronic payments it makes no difference what the stock of money is. The important thing is that it remains fixed. The optimum stock of money is therefore a fixed stock of money. In the past, it was important that there were enough coins and notes to allow physical exchange in the marketplace, but not anymore. Today prices can adjust to the scarcity of the stock of money without the inconvenience attending a physical currency. Thus when purchasing bread, instead of paying a dollar, after several decades of economic and population growth you would only pay 50 cents. After several more decades you would only pay 10 cents. Eventually you would be asked to pay a fraction of a cent. At that point the decimal point could be moved to the right or new names could be invented for the smaller fractions.

Why the gold standard is not the answer

The gold standard in theory is an excellent way to stop governments from printing too much money. Alan Greenspan explained the theory in his 1966 essay “Gold and Economic Freedom.” However the gold standard has two major problems. First, the mining of gold is a wasteful exercise. Re-implementing the gold standard would again put a premium on gold’s value so that once again vast resources would be diverted to finding it. Second, modern history shows that the only thing the adoption of hard currency does is to transfer the money tampering away from paper and onto the market for gold itself.
The optimum form of money

A proposal for a perpetually fixed volume of electronic money

Notes and coins should be replaced with electronic money. This will severely hamper the commission of crimes motivated by money, for example, theft, fraud, drug dealing, employment of illegal immigrants, corruption, blackmail, kidnapping, extortion, racketeering, and financially motivated murder, to name just a few. Just as commerce can barely operate at all when reduced to bartering, so too criminals, when reduced to bartering, will barely be able to operate.

There is currently no such thing as electronic money. Electronic bank transfers and payments by credit card or debit card are electronic instructions to the banks to transfer debt. Electronic money is something quite different. It involves the government issuing a fiat currency without creating a physical coin or paper note to record its existence or signify its ownership. Instead, the existence and ownership of each unit is represented by an entry in a government-operated register.

Electronic money (using a Money Register) would have the following parallels with the Torrens system of land title by registration:

Torrens Register Money Register
Each plot of land has a unique record. Each denomination of currency has a unique record.
The legal ownership of each plot is recorded within the record. The legal ownership of each unit of money is recorded within the record.
The consideration (the price the land sold for) for every transfer is recorded. The consideration (the item the money paid for) for every transfer is recorded.
The database is absolutely determinative of who legally owns the land, allowing transferees for legitimate consideration to take ownership without fear of being affected if the land was fraudulently obtained by the transferor or transferred in breach of trust. The database is absolutely determinative of who legally owns the money, allowing transferees for legitimate consideration to take ownership without fear of being affected if the money was fraudulently obtained by the transferor or transferred in breach of trust.
The system can tell how much land there is in the country down to the last square centimeter. The system can tell how much money there is in circulation down to the last cent.
It is impossible for the government to create more land. It is impossible for the government to create more money.
Large tracts of land can, if required by the private sector, be subdivided into smaller plots of land. Conversely small holdings can be consolidated. This does not increase or decrease the volume of registered land by a single square centimeter. The new plots carry reference within their records to the cancelled plot (whose history is retained on the register). Large denominations can, if required by the private sector, be subdivided into lower denominations. Conversely smaller denominations can be consolidated into larger denominations. This does not increase or decrease the volume of money in circulation by a single cent. The new denominations carry reference within their records to the cancelled denomination (whose history is retained on the register).
The current and past ownership of every plot of land is recorded. This allows investigators to track down fraudsters easily. The current and past ownership of every unit of currency is recorded. This allows investigators to track down fraudsters easily.
The transfer of land is quick, cheap, and safe. It prevents fraud and when a fraudulent transfer takes place the government compensates the victim. The transfer of money is quick, cheap, and safe. It prevents fraud, and when a fraudulent transfer takes place the government compensates the victim.
Court-ordered injunctions can be recorded on the register, preventing the registration of transfers until further court order. Court-ordered injunctions can be recorded on the register, preventing the registration of transfers until further court order.

In creating electronic money, the government should not try to create an encrypted packet of data independent of the government’s database. Such an approach would lead to forgery and the loss of money from circulation. Moreover it would enable the government to defraud the populace by increasing the stock of money because the stock of money would not be transparent.

Rather, each unit of electronic money should be a unique record in a government-operated database. Every time the ownership of the unit changes, the record should reflect the change of ownership by reference to a record on the Individuals Register, the Company Register, or the Foreign Nationals Register, as described in Chapter 11. The record for each unit should store historical information about the previous owners of the unit. It should also record the consideration given for each transfer. Thus, if groceries are bought, a link to the receipt should be stored.

Individuals should be able to transfer cash between themselves using certified devices which interface directly with the register. The existing debit and credit payment system via the banks, whereby debt obligations are exchanged, would run in parallel with the system. However, the debit credit system should be also be enhanced so that when an item is purchased, a link to the merchant’s invoice is recorded on the spender’s electronic bank statement. If this metadata is included, it will be possible to do away with bookkeepers altogether.

The currency should be divided into units, e.g., 1¢, 2¢, 5¢, 10¢, 20¢, 50¢, $1, $5, $10, $20, $50, $100, $1,000. In response to monetary deflation, the decimal place should be moved to the right every fifty years or so. In the meantime, banks and other issuers of debt instruments should account between themselves for fractions of cents. Thus a busy tollway might electronically charge users one hundredth of a cent and the banks would account between themselves for that small amount.

Governments have long assumed the prerogative of issuing currency, and all governments currently use fiat currencies. Likewise, for many thousands of years governments have kept registers as part of the framework of property rights.

A system of money registration, by making the volume of money known, transparent, and verifiable, will ensure the volume of money does not change and cannot be tampered with by anyone.
In order for there to be transparency, the register must be open to being queried and copied by anyone. Searches should reveal who is the legal owner of every unit of money.

The debit card and credit card network, which accounts for the majority of all retail purchases in industrialized countries, has proven that the technology currently in existence is robust enough for the task. Developments in storage, processing power, and data transmission make it clear that not only is such a system feasible, but in fact mirror copies of the entire register might in a few years be able to be kept on handheld devices. If each financial institution held a copy of the register updated in real time, there would be no need for a government register at all, but rather it could be split between hundreds if not millions of separate mirror registers running according to legally-prescribed specifications.

The banking system would be unchanged. No doubt the vast majority of transactions would continue to be carried on by banks making debt transfers amongst themselves. Fractional reserve banking would still exist. When a customer deposits money with a bank, the ownership of the money on the register will change from the customer’s name to the bank’s name. As the register will be searchable, depositors and shareholders will be able to verify with absolute certainty the bank’s cash holdings. For the sake of privacy most individuals will keep their money with a bank (the bank will be the legal owner disclosed on the register). In times of economic strife individuals will seek to convert their debt holdings with banks to hard cash.

Electronic money is the final piece of the puzzle that will allow sales taxes to be collected without leakage. As all transactions (whether debt transfers between financial institutions or electronic cash) will go through licensed financial institutions, it will allow the responsibility for collecting sales tax to be given to financial institutions. This will remove the burden of tax collection and accounting from individuals and small business.

The cash economy will cease to exist. This will remove the distortions created by the cash economy and make crime unrewarding. It will spread the tax burden fairly, forcing those who evade to pay their aliquot and so allow the reduction of tax rates.

Illegal immigrants will be unable to earn money for work because only persons legally in the country (with entries on the Individuals Register and the Foreign Nationals Register) will be able to transfer or receive cash or debt. This will greatly reduce the incentive to enter the country illegally, and it will make it virtually impossible to stay.

Those who commit crime for profit, like drug dealers, will be reduced to bartering. This will make large-scale, organized crime virtually impossible. Statistical analysis of sales tax collections (provided by banks and other licensed funds transferrers) will reveal which citizens are criminals, vagrants, or supporting illegal immigrants. They can then be investigated and prosecuted.

Armored vans will no longer be needed to transport cash, automatic teller machines will be unnecessary, armed bank robbery and armed muggings, home invasions, purse snatchings and every other type of violent theft will be a fraction of what they were as it will be impossible to steal money and very difficult to fence stolen goods. Unable to steal money, and unable to convert stolen goods into money, drug addicts will be forced to give up their habits and criminals will be forced to get honest jobs. The only money spent will be money honestly obtained.

This article is an extract from the book ‘Principles of Good Government’ by Matthew Bransgrove