Het volgende is een transcript van een lezing gehouden door Joseph T. Salerno op initiatief van Ron Paul voor een publiek van staffers van leden van het US Congress (link)
(00:53:59)
Lecture 1/3
What Is Money?
Presentation:
Good
afternoon ladies and gentlemen. I'm Lydia Mashburn, Chairman Ron
Paul's Policy Director for his Subcommittee on Domestic Monetary
Policy. On behalf of the Congressman Ron Paul and his office I
welcome you to the first in our three part afternoon tea lecture
series on the basic principles of money. Thank you for coming.
Today's question, What Is Money? is a simple one. But a rarely asked
question and as such not properly understood. Understanding money as
a market phenomenon versus understanding it as a government
phenomenon is crucial to understanding our economy and understanding
crises that we have faced in the past few years. To help us answer
this question of What is money we have joining us today Dr. Joseph
Salerno, who is a professor of economics at Pace University. He is
also the Academic Vice President of the Mises Institute in Auburn,
Alabama, and he is the author of the book Money,
Sound and Unsound. He
will speak for about 35 to 40 minutes followed by Q & A. Without
further ado please join me in welcoming Professor Salerno.
Joseph
T. Salerno: (00:01:23)
Thank
you, Lydia. And thanks all for being here, it's a great turnout. And
I'm thrilled to be here.
Why
do we accept paper money?
As
Lydia pointed out, what I want to do is address a deceptively simple
question. The question of What is
money? We all use it every day. It's part of our daily lives. But if
you examine it a little bit more closely, if you think about why you
would accept for maybe a house that you're selling or your very
valuable labor time, little pieces of paper with green ink on them,
that – the materials in which cost about four cents – that might
puzzle you. Because you have no intention to use these notes, or
paper tickets, directly, right? You can't eat them. You can't use
them as wallpaper – well, you could use them maybe. Maybe a miser
would want to lie in his bed at night and fondle them, or something.
But normal people have no direct use for these pieces of paper. So,
there's a lot of questions that come up when you're talking about
money. For example, why are 80 percent of the hundred dollar bills
that have been printed in the US outside the country? Being used to
finance drugs trade or being used as a hedge against inflation by
citizens of other countries with irresponsible monetary systems.
Things like that which I won't address. But the basic question of why
would we accept paper tickets worth very little in exchange for very
valuable goods, deserves an answer. So, what I want to do is to give
you that answer, but that answer has to be given historically. We
want to start from the beginning and that is:
What
occurred before
there was money?
If
you go back to primitive times, you will find that there were
instances of barter. You will find many of them. Even the ancient
Babylonians' first records talk about money, but there was a time
before there was money. And that state of affairs is called barter, where people exchanged things that they intended to
use directly to
satisfy their wants, for other things that they valued less. So
I put up a little model up there. What I want to point out is that there's an almost insurmountable problem with barter, or a problem that makes it very costly in terms of time and resources to use barter to satisfy your wants. And that is what we call double coincidence of wants. That term that seems forbidding at first, really refers to the fact that: Look, I may want what you have. Or, I may want that pastry that you have. But,
you may not want my watch. You may have enough watches. So in this
case let's say that A is in desperate need of a pair of shoes and has
eggs. So he wants what B has. But B is allergic to eggs, breaks out
in hives and so on. Doesn't want to hear about eggs, even the thought
of them makes him nauseous. Now, that could be the end of it. He
would then have to begin to search – and especially in an area
that's not necessarily densely populated – for someone else that is
capable of producing shoes. But if he was ingenious and persistent,
he would hit upon a solution that at first seems more complicated and
less likely to achieve his ends, but in fact is much more efficient.
And that is indirect
exchange. A may know that everyone in that society uses salt. This is
before refrigeration, so people use it to season their foods, but
also to preserve their perishable meats, and so on, and so forth. And
so he knows that there is a wide demand among people who may have
many different goods for salt. So what he would do then would be to
take his eggs to some person C – there's a lot of C's out there,
many people have salt – and find a person who would want his eggs
in exchange for salt. But he himself doesn't want the salt. At that
moment in time you have the emergence of indirect exchange, the first
step towards money. We don't know when it happened, we don't know
which individual discovered that way of solving the problem of barter
– the double coincidence of wants – but what we do know is that A
would turn around with that salt and use it in exchange for the
shoes, that he initially wanted. Others will see that A solved his
problem that way and will then seek to emulate him. But the more
people use salt for a medium of exchange, the more widely acceptable
it is, and therefore the better a medium of exchange it is. So, as
time goes on, salt becomes, in that society, a medium of exchange.
Yes, it's still used directly to satisfy certain human wants, but its
main use becomes the facilitation of further exchanges. As we'll see,
then everyone is permitted to specialize, because whatever they
produce, they can always sell it for salt, and then use the salt to
buy all the other things they need.
Another
problem with barter
Another
problem with barter, very quickly, is if someone has an indivisible
good, like a dairy cow, and that person wants clothes, shoes,
whiskey, and other things. Well, if he cuts the cow up it loses its
value. So how does he buy these different things from different
people, without dividing up the cow? Very simply, he takes the cow
and sells the cow for salt. He sells it for maybe 15 barrels of salt
an then divides the salt up among the other specialists he wants to
buy from. So, these problems are then solved in that way. And we know
from history that many useful items were used as media of exchange –
the plural of medium of exchange – which means the intermediary
good that people buy, not because they want it, but because they want
to give it away again in the future for something more valuable.
Which is why we hold the dollars. We'll come back to that. Cattle was
used in Greece; leather in Rome; maize or corn in Mexico; wampum –
strings of beads that were used by the American Indians, you've heard
the story, whether apocryphal or not, that the Dutch purchased
Manhattan Island from the Indians for $26 worth of wampum; dried fish
in the Canadian maritime colonies, salt was
used and so were iron implements in ports of Africa; wives were used
in ancient Egypt – before the advent of capitalism women were
little more than chattel property, so while you were watching a
football game you could say “You're going to be someone else's
wife, tomorrow”; and finally dried tobacco was used in the colonies
of Virginia.
An
example of money arising in modern society
So,
all these things were used, but a few goods came to be used
throughout the world over time, because of the qualities that they
embodied as media of exchange. But before we get to those goods, let
me just mention that there are some interesting modern examples of
money arising in emergency situations. Some of you had economics so
you must have heard the story of the German POW camps. American
prisoners received rations from their German captors, as well as care
packages from the Red Cross during WWII. An American economist
happened to be a captive in a POW camp and recorded all of this. And
what he found was when people got their care packages and their
rations every week or month, there were many things in those
packages: chocolate, razor blades, socks, underwear, cigarettes, and
so on. But if you've seen old WWII movies, what does everybody do?
They all smoke. (00:10:00)
What
occurred – and this is representative of what actually happened –
is that since everyone used cigarettes, eventually people who had too
much chocolate and wanted razor blades but couldn't find someone with
razor blades who also wanted his chocolate would begin to exchange
for cigarettes. So eventually, on each barracks – prison building –
there was posted cigarette prices of the various prison services.
So, money emerged. And there was inflation and deflation. As the
months wore on people smoked the cigarettes so that prices went down
until just a few were in the camp, and then when the new packages
arrived, they went up again.
Another
interesting example in Iraq
But
I found another interesting example in Iraq. There was an article by
a former Marine who did a seven month stint in Iraq and he was posted
in a number of different farming villages. A lot of wealth had been
destroyed, real wealth: houses, cars, trucks, fishing boats, and so
on. The people in those villages rightly didn't put much trust in the
paper money issued by Baghdad and what they did was – they all
owned sheep and if you're affluent you owned a whole herd of sheep,
but even the poorer families had some sheep. And what happened was –
people began to exchange sheep for other goods and services, and
write their contracts in sheep, and repay debts in sheep. But sheep
were very big and valuable in that sort of an economy. So, a second
good began to emerge, alongside the sheep. These villages were
located near the Euphrates river. The water in the Euphrates was
suitable for watering their crops and the sheep, but not for human
consumption, so water from the cities was generally purchased and
came in in big trucks. For smaller purchases, people began to use
water, because everyone drank water, especially in the summer. And
then, finally, cigarettes – usually smoked at night with a chai tea
by the villagers – were in circulation. So we have three parallel
monies, and the paper money wasn't used at all. This was in 2007 that
this occurred. So, this is some examples.
Media
of exchange compete
As
trade between different regions and countries began to develop, as
small groups began to trade with other small groups, and we began to
get a network of interregional and even international trade, during
the Middle Ages, a few goods emerged as the
general media of exchange. When we talk about a general medium of
exchange, we mean that good that is universally and routinely
accepted by everyone without giving it a second thought. And right
now the Federal Reserve note is such a good. We
don't think twice about accepting Federal Reserve notes, or claims on
Federal Reserve notes – which is bank deposits – in exchange for
all the goods that we sell or the labor that we sell to our
employers. So, it's a medium of exchange in that sense, when people
do not think twice about it but simply accept it and pass it on. The
question I asked in the beginning could be answered by pointing out
the reason we accept these pieces of paper is because they have a
preexisting purchasing power: You know that people will be willing to
accept them at certain prices for different things so that you accept
them and pass them on. That happened with gold and silver. So, over
centuries an evolutionary process took place in which gold and
silver, and to a lesser extent, copper, out competed all other local
media of exchange, so that they became the world money.
The qualities
of a good medium of exchange
Now
let me just – very quickly – talk about the
qualities of a good medium of exchange.
First of all – as you saw in the Iraq example – they have to be
generally
acceptable.
They have to be widely acceptable in that society. That's the first
quality. It's extremely important. Gold and silver were used in
almost all societies and cultures in religious rituals, for
ornamentation, as jewelry, for embroidery in the dresses and suits of
the nobility, so everyone accepted them.
Second,
they were also extremely
durable.
When you accept a medium of exchange, you don't want it to
deteriorate overnight. That's why cigarettes for example aren't a
good medium of exchange: they're used up in their natural function.
Because you want to hold them until you find attractive opportunities
on which you want to spend those gold or silver coins. Just keep in
mind that almost all the gold that was mined when, let's say Jesus of
Nazareth walked the earth, is still in existence today. Even if you
go back beyond recorded history: all the gold and silver ever mined
is still in existence today, except that which was lost in fire –
gold can be melted and lost in a fire – or sunk in ships. So, gold
is extremely durable. Ah, but if that's so, why isn't iron a good
medium of exchange? Iron did
serve as a medium of exchange for a while but was out-competed. It's
enormously durable,very highly durable. Well, there's a third
characteristic that's very important, and that is that it must be
portable
– easy to carry. Now, you could
say, “An ounce of iron is just as easy to carry as an ounce of
gold.” But the key is: the good must have a high value-to-weight
ratio. So, if you wanted to buy a lawnmower at Sears or at Walmart,
or something, that cost three hundred dollars, you'd have to bring
only a small amount of gold – maybe a fifth of an ounce of gold –
but you'd have to bring a ton of iron. So, iron wasn't very portable,
because it had a very low value-to-weight ratio, so it was
out-competed.
It
also must be highly divisible.
That you can divide up gold into very small pieces, without them
losing any of its value . You cannot do that for example with
precious gems, which were used as a medium of exchange. If you break
up a diamond into small pieces, it loses its value. So, that's why
precious gems were out-competed.
Every
unit has to be identical to every other unit. So every ounce of gold
ever mined is exactly the same, in all its physical properties, as
every other ounce of gold. Which we call homogeneous.
That's not true of diamonds. In fact, diamonds are precisely desired
– especially for engagements, and so on – because no diamond is
like any other diamond, like no two snowflakes are exactly the same.
When two things are exactly the same it is easy to recognize the
value of it. Whereas, when each time it's different, the value of it
would have to be appraised at each purchase and that would be highly
expensive.
Finally,
it has to be easily recognizable.
In those old western movies, when a coin was passed in the old West,
you'd see a cowboy biting down onto it. Well, the gold leaves
teethmarks, because it's malleable, it's easy to work with. Whereas
fool's gold, which looks very much like gold – I don't know which
chemical element it is – is very hard. So, there were easy chemical
tests which allowed you to quickly and inexpensively find out if you
were dealing with the counterfeit or not.
So,
the bottom line in all this is that money was not invented. It was
not created by the State. There wasn't some benevolent, wise old king
that said “My people are suffering from a lack of coincidence of
wants and therefore I must get all my wise men together and solve
this problem.” And then they got together and said “Yes, we must
use salt!” That's nonsense, that's not the way it happened. Nor was
there a big town meeting where all the Virginia colonists got
together and made a contract that they would all use dried tobacco
leaves as money. That's not the way it happened either. It happened
as the result of a market process, which embodied the actions of
millions of people over time, all seeking their own benefit, all
seeking to solve the problems of indivisibility and coincidence of
wants. And in doing so, motivating others to follow their example, so
that over time money arose on the market. Government had nothing to
do with it. It stepped in much later and actually distorted the
monetary system later on.
I
want to mention one other thing here. And that is:
Could money come into existence as a paper fiat currency?
“Fiat” meaning “issued by the State.” “Fiat” is a Latin
word for “this must be” or “this is my will”, “you will use
this paper”. No, it couldn't. And the reason why it couldn't is
because if you issued paper … Let's say you trusted me. Completely.
Despite the fact that I'm from New Jersey and my name ends in a
vowel, you still thought I was very trustworthy. (00:20:00)
So, I came to you and I said, “Look, here's ten Salerno's. Can I
have your watch?” Even if you trusted me you wouldn't accept it,
because “What the hell is it worth?” There's no past history. But
with gold, silver, salt, iron, there's a past history: there's
barter. They were exchanging for other things on the barter. So you
had an idea of what they were worth. So money must come in existence
as a useful market commodity and cannot be imposed from without by
the state.
The
benefits of money
Now, let me just mention some of the
benefits
of money. First of all and very importantly, it serves as a
unit
of pricing.
It allows you to compare prices against one another. And also as a
unit
of economic
calculation.
It allows businesses to calculate their revenues, costs, profits, and
losses. In a barter economy, let's say there are only 1,000 goods.
That means there are 499,500 prices to keep track of, because each
good has 999 other prices – because each good can potentially be
exchanged for each of the other 999 goods. In a money economy, money
is always one half of every transaction so if there are
1,000 goods, there's 1,000 prices and
not 499,500 prices. That's just 1,000 goods: The average supermarket
in the US today has 27,000 items. So there's millions and millions of
barter prices for those goods, if they were exchanged against one
another. There'll be no way to have a supermarket under barter.
Also
under barter: there's very little specialization,
that is, people specialized in those things in which they are most
productive, which raises our standard of living and the productivity
of labor so greatly. And the reason is the following: Supposing I'm
an economics professor and I want a Wall Street Journal. How do I get
it under barter? There is no money, so I can't sell my services for
money. I have to go to the guy and give him a ten minute economics
lecture, or something like that, which he probably doesn't want to
hear, so he won't give me the Wall Street Journal anyway. Same if I
want breakfast. I'd have to stand there and talk to the waitress, or
whatever. You see the problem. And there's a third problem. The third
problem that money solves is that you can't sell
large durable consumer goods or capital goods, because how is
the entrepreneur going to pay the workers? Let's you're producing
cars. Are you going to pay the workers in cars? Are you going to
break up the cars and try to pay the workers every two weeks, or
something like that? That's impossible. Or, if you're producing
something that's not even a consumer good, like oil or steel. Are you
going to give them bars of steel or barrels of oil? They don't want
that. So, you have a very primitive economy under barter and money
solves that problem. Again, no one set out to solve all of those
problems, no one set out to invent money. It, again, happened
as a result of the interactions of hundreds of millions of individual
human minds over time.
What
is the monetary unit?
So,
what is the monetary unit? Money comes into existence as a
useful commodity. Most commodities circulate by weight or by volume –
ounces of gold, pounds of silver, barrels of salt. Well, money
circulates by weight, that is, the unit of weight of a specific
commodity. Even when the gold standard in the nineteenth century came
into existence – and by then we had names for different national
currencies – it was still a unit of weight. Let me just take three
different currencies, the British pound, the French frank and the
American dollar. They were actually just names for units of weight.
Let me give an example of that:
1834 –
1933 $ 1.00 = 1/20 oz gold
1821 – 1931 £
1.00
= ¼ oz gold
OK,
let's stick with the pound and the dollar. For about a hundred years
the dollar was legally defined as about one twentieth of an ounce of
gold, that's an approximation. And the British pound was defined from
1821 to 1931, when Britain went off the gold standard, as one fourth
of an ounce of gold. They weren't different monies. They were the
same money. Now, the exchange rates for all the 19th
century – I was in Austria last week where I was watching the
continually changing exchange rates between the euro and the dollar
in order to make the most advantageous exchanges from the dollar to
the euro and from the euro to the dollar, and it was changing all the
time, every day – but for a hundred years it was stable. The
exchange rate between dollars and pounds was approximately $4.86 per
pound. Some people – and many economists – say that under the
gold standard we had “fixed exchange rates”, but an exchange rate
is a price between two different things. The pound and the dollar
during the 19th
century were not two different things. They were different weights of
the same thing. So it's wrong to say that that is an exchange rate.
That is determined, not by the laws of economics, but by the laws of
arithmetic. In the same way that the “exchange rate” between a
quarter and nickels is 5 to 1. Because a quarter is defined as one
fourth, or .25, or 25 cents of a dollar, and the nickel is defined as
one twentieth, or .05, or 5 cents of a dollar. Since the quarter
refers to five times more of a dollar than does a nickel, five
nickels exchange for a quarter. The same applies here: the pound was
defined as having approximately five times the amount of gold to the
dollar, and therefore was five times more valuable than the dollar:
$4.86 / £1.00
. That is not true today. All currencies are different things now
because they
are issued by different monopolists, different monopoly-central
banks.
What
was the money supply under the commodity standard?
What
was the money supply under this what we call the commodity standard?
Money developed as a useful commodity, so we called it commodity
money. Today we call money, fiat money, because it's a piece of paper
or it could even be this bottle. The government or the US central
bank as a legal monopoly that can print money, can put in this space
here [points to the label on his water bottle] “ten dollars” or
“twenty dollars”, and it would be legal tender. You could use
this eraser, you can use my shirt, or anything. It's not necessary to
use paper. But under a commodity standard, there was one thing
that was the commodity, that was the money and that was the physical
commodity itself. So, the money supply was the total quantity of the
commodity that was in monetary form, the total amount of gold in the
country that was in the form of bars, which is called bullion, or
coins. Or even gold dust was used in western towns. Or gold nuggets.
So, all of those things constituted the money supply.
How
did the money supply behave under commodity money?
Let
me talk just a few minutes before I end on,
how did the money supply behave under a commodity money? Did we have
inflation? Did we have deflation? In the case of gold, the only time
the money
supply increased was when gold was mined. So it increased very slowly
over time. Every once in a while it would jump because a new source
was discovered, in Australia in the 1870s, in California in 1849, in
South Africa in 1896, and so on. Or when a new improved technology
for extracting gold was developed. So, there was very little
inflation. In fact, there wasn't even inflation., there was a fall
in prices. Since gold and the money supply increased very slowly, the
increase in goods and services – real wealth – was faster. And
so, as a result what happened was as the supply of goods and services
shifted out – there was an increase in the supply of these things –
in relation to money – and money is what lies behind the demand for
these things – prices actually fell. To take an example, even
though the money supply is increased very rapidly and has been
increased very rapidly since WWII, we still found that if goods and
services in certain sectors of our economy increased more rapidly
than the money supply, prices are going to fall, and we are going to
benefit from those falling prices. Take the example of computer. A
mainframe computer, produced by IBM in the seventies, cost about
three million dollars. A personal computer nowadays costs five
hundred dollars, and the PC is faster and has more memory. So, we've
had a tremendous drop in prices. Now, did this “deflation” cause
any sort of problems in the computer industry? No. In 1980 there was
about a half a million PCs shift. By 1999, (00:30:00)
twenty years later – despite the fact that prices had come down
from $20,000 to less than $1,000 for PCs – you had eleven million
or twenty-two times the amount of computers shift. So, falling
prices, when they occur naturally on the market as a result of goods
and services being increased due to improvements in technology and in
capital that brings about labor productivity, bring about a very
benign – what we call – growth deflation. And that's actually
what happened in the 19th
century. So, to end up with a few of the statistics: In 1913, it took
only 79 cents to purchase what a dollar in 1800 could buy. In 113
years, the value of one dollar had gone up 27 percent. In other
words, what you could buy for a dollar in 1800, cost you only 79
cents to buy in 1913. What you could buy in 1913 for a dollar, the
year the Fed came into existence, didn't cost you less, but much
more, it costs you 22 dollars today. So, under the commodity
standard, the value of the gold dollar went up by about 27 percent,
because prices fell very gently. Under the fiat standard, which is
controlled by a central bank, the Federal Reserve System, the value
of the dollar has shrunk to about what a nickel was worth in 1913,
when the Fed was established. Basically, what you've got for all
countries on the gold standard during the 19th
century was a very slow decline of prices. Which meant that all the
fruits of improved technology, of increased investments in machines
and other labor productivity increasing investments, all of those
things were spread to the whole population, whether your salary went
up or not in money terms. Because prices were coming down, as they
have for computers, your dollar became more powerful. So, if you go
back to a commodity standard, you'd find that, over time, the value
of money would rise.
Questions
and Answers
Missing
question(s)
Joseph
T. Salerno:
(00:32:16)
Under
the gold standard, eventually, the governments began to get involved.
They took over monopoly over the mints. They began to debase the
coins. They made them lower and lower in weight. The kings would call
back the coins to re-coin them. When they had a full ounce of gold –
Let's say there was a King Nitwit, who was king of some realm. The
first thing he did when he took over the mints was put a name on the
face of the coin. And he would charge people a lot of money to get
their gold minted into coins. That's called seigniorage.
It was a monopoly price for getting your gold coined. In any case,
what would happen then is every now and then the coins would get worn
or a new king would come in and want to put a new face on the coins.
So they called the coins back, but instead of giving you a full ounce
of gold back, they would only give you eight tenths of an ounce back.
And they would put the same name on it: one nit. So what they did was
in fact increase the money supply by twenty percent, because they
would keep the twenty percent that they stole from the people who
were turning in their gold coins and mint them into their own coins,
so that they could pay for more palaces, wars, mistresses, and so on.
Over
time, and after the printing press was discovered, they found that an
easier way of creating money, that was less costly, was simply to
print paper, set up a central bank – the first central bank was set
up in that fashion with the Bank of England in1694 – get the bank
to loan them money, to pay for the wars, and so on. And then the bank
would promise to pay back the notes that the king spent in gold. So,
people got used to paper money over time, but we still had a gold
standard, but, to get to your question, by the 19th
century it wasn't a pure commodity standard anymore. So, the central
banks would keep maybe 20, 30 or 40 percent of the notes they issued
in the form of gold. And then you had private banks beginning to
start. And they would hold, not gold itself, or very little gold, but
they would hold the notes of the central bank. So, eventually, all
the gold which backed up the money became centralized in the central
bank. So you had maybe 10 percent backing up – Let's say there was
ten million dollars in the economy, then there was only a million
dollars worth of gold in the central bank. So that, if everyone –
or even a significant portion of the population, because they didn't
trust paper money – came and demanded gold, the whole system would
collapse literally like a house of cards.
So,
there were problems under even the gold standard, because the banks
could create paper money and lend it out, pushing the interest rate
down, and cause inflation to occur. And at that point, when prices
went up, people began to buy goods from other countries, where the
prices were lower. But other countries didn't want the paper, they
wanted gold. At least under the gold standard the central banks would
start to lose gold as people turned in their dollars to pay for their
imports from China and so on. At that point, everyone would begin to
get fearful that they wouldn't get their gold back, so central banks
had to stop inflating. So the gold standard was called “the golden
handcuffs”, because if the banks got too inflationary, gold would
start to flow out. The people would see that, the clients of the
banks who had deposited their money would see that. They would begin
to get nervous, and that would increase
the outflow of gold, because people would rush to the banks. To
prevent that from happening, they always nipped the inflation in the
bud.
After
1933 we went off the gold standard, almost every country did. They
tried to reconstruct it after WWII, in 1946. It was called the
Breton-Woods system, the brainchild of John Maynard Keynes and Harry
Dexter White – who turned out to be a Soviet spy. He worked for the
US Treasury. That system was a phony gold standard: normal people,
like you or I, or your parents or grandparents, could not redeem our
dollars for gold at the stated price of $35 per ounce. Only the
foreign central banks and governments could do that. But the US
continued to inflate to pay for the Vietnam war and then also for the
War on Poverty under president Johnson, and as a result of that we
began to lose a lot of gold to the rest of the world. People were
content to hold US dollars, because we had most of the gold at the
end of WWII.
And since our own people couldn't get hold of that gold, they
couldn't convert their dollars, the rest of the world said, “There
is more than enough gold to accommodate all the outstanding dollars.”
But the Fed, to pay for government deficits, created so much money
during the 1960s, that – I think that towards the end of the
sixties we had twelve billion dollars worth of gold, and foreigners
held eighty billion dollars, so that the French under De Gaulle and
the Germans wanted to en
masse
convert their dollars into gold. And we basically blackmailed the
Germans, and tried to blackmail De Gaulle by basically saying “We
have to remove our nuclear umbrella. We have to stop protecting you
from the Soviet Union, if you do this. It's gonna cost a lot of
money.” In any case, the Germans backed off, the French dropped out
of NATO, and at the end of the whole story, we were still losing gold
like crazy, so by 1971, when we had about two weeks of gold left,
president Nixon – it's forty years this past August, right? –
then stepped up to the podium and said, “We're going to close this
gold window.” So, we reneged on the solemn pledge that we made to
the rest of the world in 1946, and the whole thing collapsed. From
1971 on, there was enormous inflation because now there was no more
danger of losing any gold.
Question:
Would
you recommend going back to the gold standard as a commodity based
standard, and if so how would you accomplish that?
Joseph
T. Salerno:
(00:38:22)
The
answer to the first question is yes. The answer to the second
question is, that's very, very difficult. But I think you could
accomplish the first few steps in that direction. A few things that
you could do is to allow people to buy and sell gold without any
capital gains taxes, without any sales taxes, excise taxes. Remove
all the taxes on gold and silver so that now people could use them if
they wanted as a parallel currency. At the same time allow people to
hold euro accounts in American banks, and Swiss frank deposits. So,
then the American government would be looking at the fact that dollar
deposits are losing popularity vis-à-vis these alternative monies.
That's one way you could begin to be working back in that direction.
And in the mean time stop the inflation.
Question:
What about repealing legal tender laws?
Joseph
T. Salerno:
(00:39:16) You're
absolutely right. And repealing legal tender laws. So people could
make their contracts in gold or silver, and they would have to repay
them in gold or silver. Legal tender allows you to repay any debt you
owe in paper money. It forces the creditor to accept the paper money.
Question:
Just to
single out of what he just said. It actually seems that the most
common objection to going back to a gold standard is that precious
metals is one of the least abundant(?) phenomena in the world today.
Is that actually true?
Joseph
T. Salerno:
(00:39:46) Well,
remember,
there's
not enough of anything in the world to satisfy the human wants for
it. That's why we have prices for things. So if the price is
right.... In the Soviet Union at the end, even a simple item like
toilet paper (00:40:00)
was
in short supply. If you've seen the movie Moscow
on the Hudson,
people were lining up to get toilet paper. Because the prices were
kept so low. Well, the same thing is true for gold. At some price for
gold it will be enough to back the dollar, and so on. And also I
think silver would be used in smaller transactions.
Question:
So you're
saying basically commodity money of (?) goes up in value, becomes
more valuable, that's deflation, and fiat money becomes less valuable
through inflation. How come a lot of talking heads blame the Japanese
recession of the eighties and nineties on deflation?
Joseph
T. Salerno:
(00:40:41) Because
they're confusing depression with inflation. If you look at it, there
is a little deflation in the Japanese economy, but the money supply
was almost always increasing. You really can't have deflation without
a fall in the money supply unless there's a big increase in the
demand for money, when people are frightened of the future and want
to hold their money – which happened here in the US in 2008 during
the financial crisis. So even though the money supply is going up,
the demand to hold the money and not spend it was going up by more.
So that
can cause prices to fall, but that only happens during crisis
situations. For the most part, Japan did what all American economists
were urging them to do. They ran big deficits and they increased the
money supply. But they have a very productive economy, so they never
really had much of a recession. They had what's called a growth
recession – their rate of growth went down. Their economy shrunk
only for a few quarters. So, I would say that main problem with Japan
is the fact that its labor market is extremely rigid, its business
organizations are tied into government and aren't flexible. There was
actually a very good article about all of this very recently […]
and it had to do with the fact that Japanese companies are looking
down on this new firm – I think its called Uniglove – which is
selling a lot of clothing, like a low tech product, and it's looked
down on in Japan. People are dismissing it. But the guy who owns it –
Yanei (?) – is the second wealthiest man in Japan, now, and he's
broken the whole Japanese model. He's hired foreigners and he's
poaching – going around the other companies – which isn't done.
So I think it's the rigidity in the Japanese economy, that has a lot
of government intervention, that really caused that recession.
China
had falling prices for a long time, and they were growing like crazy!
Because they're very entrepreneurial.
Question:
Is there
a lot of money that's owned (?)... that they're holding, to instill
these in the economy and what would happen if we really repatriate
money: lower capital gains [tax], decreased regulation and start
encouraging money that's being held also flow into the economy. What
happens if it comes from both directions?
Joseph
T. Salerno:
(00:43:17) You're
asking a good question. The first part of that question: The Fed has
increased what's called the monetary base. That is, the reserves of
the bank, and currency. The banks, because of the bad business
climate, aren't lending them out to the extent that they could lend
those reserves out. They're holding what's called excess reserves.
They're allowed to lend out 90 percent of all their deposits, but
they're not doing that. So, you're right, if things pick up and that
money is lent out – and also by the way, they're discouraged from
doing that because the Fed is paying them a quarter of a percent on
holding that money at the Fed rather than lending it – that could
cause an enormous inflation. But the way the Fed could offset that is
try to begin to sell off some of its assets that it has purchased in
mortgage backed securities, and so on, and begin to absorb those
extra dollars from the banking system. Because when it sells things
to the banking system, the banks have to pay with their own reserves.
So that's a question what the Fed will do and I think it will try to
prevent that sort of an inflation.
The
other part of your question is people themselves holding money,
investors, and not investing. Because they're fearful of the
potential cost of Obamacare, of what is going to happen with taxes as
a result of the 15 trillion dollar debt we keep racking up, and all
of those questions. That kind of spending is good for the economy. In
other words, then people will begin to be taking risks to invest in
actually producing goods and services. And that will actually cause
prices to fall, all other things [remaining] equal.
Question:
Milton
Friedman blamed the lack of action on the part of the Federal Reserve
as one of the causes of the Great Depression. If we'd taken away the
Fed's ability to expand the money supply, how would we've ever gotten
out of the Great Depression?
Joseph
T. Salerno:
(00:45:08) If
we had taken it away before that, we would've never had a Great
Depression. I don't mean to be flip, but the point is during the
1920s the Fed expanded the money supply at between six and seven
percent per year. Most – or all – of American economists believed
the true indicator of inflation was consumer prices. whereas the
Austrian economists who observed America – and came to America such
as Hayek, the Nobel prize winner, and Mises, in Austria – they
pointed out that the American economy was growing tremendously during
the 1920s. We had electricity now coming into general use,
refrigeration was being developed, cars were being mass produced
after WWI, so there was tremendous industrial activity. Prices should
have actually fallen a great deal every year, but prices didn't
change. Between 1921 and 1928 prices stayed about the same, when they
should have come down tremendously. What caused prices to stay up?
Inflation. The Fed was inflating the money supply, the money was
being lent out to the banks , pushing interest rates down, causing
people to speculate on the stock market and drive up real estate
prices. So, my response to Friedman would be, that had they not had
that power, prices would have naturally fallen, as they did during
the 1880s and 1890s, and we wouldn't have had a crash that led to the
Depression. And the reason why it was extended […] was that there
was a lot of legislation that prevented prices and wages from falling
to meet the fact that ... Look, people didn't want to spend during
the Depression, they were afraid of the future. So, yes, there was a
deflationary pressure, but if the Fed tried to stop that, they would
simply reproduce the problem. […]
Question:
Are you
sure that there
aren't times when monetary policy is necessary. Maybe where we did
things right but we still get into a new recession or depression or
something like that. What do you propose we do then if we have no
access to all those tools.
Joseph
T. Salerno:
(00:47:23) Again,
that's a good question, and I'm not sure how much that confuses
inflation with depression. If a depression occurs, that means that
the relation between prices are wrong. That is, costs are too high in
relation to selling prices, so businesses don't want to invest. So,
by holding up wages and by holding up prices of agricultural
commodities during the Great Depression, the New Deal prevented the
reestablishment of profitable margins. So, let me put it this way.
Anything that monetary policy can do, you're right, maybe in the
short run if you can inject money in the economy to push prices up,
so that businessmen believe that there's a profit to be made. But
that's only a short run solution, because then costs catch up again.
A better solution, a better approach would be the micro-economic
solution. Getting rid of all government legislation such as special
privileges to labor unions, minimum wage laws, price support for farm
products, that keep costs up.
Question:
You
said that computers are so much cheaper right now, so are you saying
they should be cheaper than that?
Joseph
T. Salerno:
(00:48:31) Yeah,
I would love for them to go down to a nickel. No, I'm serious!
Question:
So you would like it if we were still on nickels and cents?
Joseph
T. Salerno:
(00:48:37) Yeah,
very good question. The price of a car was $350 in 1915 or 1916,
right after they started to be mass produced. And maybe they should
be that much, or a little bit less, whatever, yeah! I mean prices
would be going down, sure.
In
other words, the actual price doesn't matter. It's always the
relationships between prices. If your salary doubled tomorrow, but
prices tripled, you'd be worse off, not better off, right? But if
your salary fell by ten percent, but prices fell by fifteen percent,
you'd be better off. So you should get away from this illusion of
what's happening to the actual height of these nominal prices. It's
always the relationships
between prices.
Question:
[...] At what point do the falling prices become an issue for the
producer? We see that in agriculture, today. Let's say potatoes. They
produce so much of it, they can't make a living out of producing them
anymore.
Joseph
T. Salerno:
(00:49:40) OK.
There's two parts, so two answers. It's a good question. The first
part is that in industries that are growing, like computers, costs
are coming down, faster than the prices are dropping. That's why the
computer industry is expanding even though prices are dropping. So,
industries like that you don't have to worry about. (00:50:00)
As long as costs are falling, no matter how far prices fall, as long
as costs are falling too – and they're producing more, because it's
now more profitable – you're going to have growth. The problem
comes with farmers: there are too many farmers. We are supporting
inefficient farming. Because, as technology develops, some of the
smaller farms are unable to take advantage of that and would go out
of business – normally, as prices come down. We don't let that
happen with all our farm subsidies, and so on. So, that's a market
adjustment that needs to happen. Two hundred years ago, we used to
have maybe 97 percent of the labor force work in farming, and we
could barely feed the whole United States. Do you know what
proportion is involved in farming today? One and a half percent. So,
all those jobs went elsewhere, and that's fine. Because farming labor
is so much more productive today, because of capital investment,
technological improvement, and so on. But that doesn't mean that you
don't have, sometimes, firms going out of business as a result of
these low prices. But if those prices are manipulated in any way,
that's giving a signal: too much farming goods, and not enough other
goods.
Question:
So,
if we didn't have these farming subsidies, there would be no need for
a price for it, because there would be less farmers producing less of
it.
Joseph
T. Salerno:
(00:51:25) Right.
Well, more efficient farms would expand as these other farms went out
of business.
Question:
In
terms of, if the price of computers could drop to, say, I don't know,
maybe $200 per computer, but they're able to and making a decent
amount of money charging $1,000 per computer. Why wouldn't they
simply charge still $1,000 per computer because they could get enough
people to buy those computers?
Joseph
T. Salerno:
(00:51:51) Competition.
Because the other guys are gonna... The ballpoint pen was first
introduced in 1946. It sold for $25. In today's world that's $200,
eight times as much. People would leave them on their coffee tables,
just like you would leave your BMW... just to show that you were
affluent. Within two years, the price went from $25 to eighteen
cents, or something like that. And the costs had come to like ten
cents. Because of the fierce competition. You could prevent that from
happening if you allow patents and crap – stuff like that. But
otherwise it's same with computers.
Question:
But
why would competition occur, now as well...?
Joseph
T. Salerno:
(00:52:38) Competition
is
occurring.
Question:
But why are prices low?
Joseph
T. Salerno:
(00:52:41) Because
they're as low as costs will permit them to be. If everyone can
enter, and no one is entering, that means there's some sort of an
equilibrium, right? That that rate of return is what everyone is
satisfied with. But if someone finds an even cheaper way of making
it, so that they can increase the rate of return to themselves,
they'll enter and they'll sell at a slightly lower price and the
others will have to adopt that new technology, or go out of business.
Thank
you.
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