Fiat money – the confidence trickster
Since immaterial money is based on nothing but confidence, a loss of confidence is, unquestionably, the biggest risk to the survival of any paper money system. – Detlev Schlichter, Paper Money Collapse
Never mind the collapse of the dollar, the Euro or any other currency, we are about to experience the mother of them all – the collapse of confidence.
Earlier this week Helicopter Ben, by far the most powerful non-elected official on the planet, put to bed any hopes that the Federal Reserve had the citizens’ best interest at heart.
One of the main points to come out of the press conference was the new measure of inflation which they will be implementing. Rather than using the CPI they are switching to the PCE – Personal Consumption Expenditure.
Apparently this measure is more ‘relevant to the average person’ as it places less of a weighting on the housing market but more of a weighting on the healthcare market. What Mr Bernanke declined to mention is that it does not account for changes in seasonal food and energy prices (coincidentally, the two areas where the majority of daily household expenditure goes).
According to Mr Bernanke they are trying to avoid both high inflation and too little inflation. Seemingly inflation which is below 2% would cause concern that the economy is heading for a period of deflation which, says Mr Bernanke, would have greater negative economic consequences than that seen by inflation.
This is classic central banking. As Ferdinand Lips says central bankers ‘know perfectly well that their display of fighting inflation is for the benefit of a gullible public.’ When pressed with the argument that 2% inflation will continue to devalue savings Bernanke responded, “At levels of inflation this low, interest rates should fully compensate for the losses to savers”.
Firstly, interest rates are apparently not going to rise until 2014, so this doesn’t provide any immediate consolation to people who rely on fixed incomes. Secondly, even if interest rates do come up, our money is being continuously devalued by the various rounds of quantitative easing. Let alone, credit creation which happens every minute of the day and goes that little bit further to reducing the value of our cash.
According to Bernanke, the long term guarantee of low interest rates doesn’t run the risk of alienating long term savers either; “The savers in our economy are dependent on a healthy economy in order to get adequate returns.”
What happened both as a result of Bernanke’s press conference, and the Federal Reserve announcement? Did everyone suddenly feel much more reassured and confident? No. The gold price climbed to well above $1700 – the ‘psychological barrier’ so many gold experts had been discussing since the price drop in December last year.
What has lead people to buy gold again?
Fiat money is backed by confidence alone. When that confidence begins to wane, as it has done for many years , people turn to something which human kind is always confident they can turn to in a crisis. Gold.
Detlev Schlichter states the ‘remarkable’ situation in which we find ourselves, where the majority of the public and media “readily accept a system of book entry money in which the state can create money without limit.” I suspect this situation will begin to change over the next year or so.
The confidence in paper money took many years for governments to build up. It, therefore, may take almost as long to destroy. When individuals lose trust in the fiat monetary system, they are giving up their trust in two significant parts of their every-day lives – government and money. It is quite something for us to expect people to stop trusting something having been brought up to put trust and have faith in their whole lives.
In order for fiat currency to survive citizens must have confidence that:
Their currency will maintain its store of value
- So far the US Dollar has lost over half of its value since 1971 – when President Nixon closed the gold window. Since 1774 it has lost approximately 97% of its value. Gold, in comparison remains on its 11 year climb. It seems that as confidence falls in paper money, it can only grow more in sound money.
Governments will not overspend
- Governments have overspent several times over, and some. In the US both private and public debt is 279% of GDP, in the UK it is nearly twice as bad at 507%. Gold and sound money force governments to act as we are meant to at an individual level; responsibly.
Central banks will not overprint and therefore debase the money supply through inflation
- Just two words are needed here: Quantitative Easing.
We have seen repeatedly throughout history and in recent years that these factors of confidence are impossible to maintain.
Confidence takes time
But confidence can take as much time to diminish as it does to build. Money aside, trust in one’s government is an intrinsic part of society, particularly in the West. We often moan about how we can’t trust politicians, but we do still expect them to solve major geo-political and economic crises such as the one in which we find ourselves. It is still beyond the majority of most people’s realm of thought that the governments of the EU and the US would allow us to falter.
However something which is unstable and based on a fallacy will falter and I think this is what we will find starting to happen in the coming year. As I said in the beginning, confidence takes a huge amount of time to build up, and it can take just as long, if not longer to destroy it. The confidence in gold has been around since man began exchanging it 5000 years ago and our belief in it keeps strengthening the more we are let down by the alternatives. The confidence in paper will not last much longer. Monetary history moves in cycles, we are witnessing a resetting of the global monetary system.
This crisis, now 5 years old has seen many, many ‘rescues’ and solutions offered and played out by governments, central banks and international bodies. Yet we still find ourselves deeper in crisis and without a quick fix solution. We need drastic reform of the monetary system.
A paper money system and a fractional-reserve banking system are confidence-based. Once the confidence goes, the system collapses. – Detlev Schlichter, Paper Money Collapse
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