Economics In The Age Of Paper Money
I call my website “Economics In The Age Of Paper Money” because our
economy no longer works the way it used to when gold was money. The
difference is not a small one. It is fundamental. Most economists,
however, have not grasped the profound significance of the change in the
way our economy works now. The purpose of my website is to point out
those changes. We have a new kind of economic system. It responds
differently to government policies than did 19th Century Capitalism. It
is not bound by the same constraints. Our economy is turbo charged, but
the operating manual that still guides the economics professions was
written in the days of the horse and buggy. If we don’t learn how to
operate our new economic system, it is very likely to crash.
Back in the olden days – before World War I – gold was money,
governments balanced their budgets and trade between nations balanced.
Sound money, balanced budgets and balanced trade were the core
principles of economic orthodoxy and the foundation stones around which
all classical economic theory was built.
Capitalism worked the way it did because gold (or more precisely a
gold-based monetary system) would not allow it to work any other way.
The gold standard forced governments to balance their budgets and it
forced trade between countries to balance.
In the 19th Century, if a government spent more than it took in as
taxes, it had to borrow money to finance that budget deficit. When gold
was money, there was always a limited amount of money in the economy and
governments could not create any more of it. Therefore, if a government
borrowed a lot of money, there would be less money available for the
private sector to borrow. That would cause interest rates to rise; and
higher interest rates would cause the economy to suffer. Therefore,
governments did their best to balance their books – at least during
peacetime.
When gold was money, trade between nations had to balance because if
one country bought more from another country than it sold to that
country, it would have to pay for that trade deficit with gold. A
persistent trade deficit would drain away all the deficit country’s
money and impoverish it. Soon that country would not be able to buy any
more imports because it lacked sufficient gold to pay for them.
Therefore, in the past, nations were very concerned to ensure that they
imported no more than they exported.
Operating within those binding constraints that the gold standard
imposed, the Capitalist economy grew through a process of investment and
capital accumulation. Businessmen would invest. Some of them would make
a profit. They would save that profit – or, in other words, accumulate
Capital (hence Capitalism). And they would repeat the process.
Investment and capital accumulation drove the economic growth dynamic
under Capitalism.
Everything changed when governments stopped backing money with gold.
The transition from a gold based monetary system to a fiat (or paper)
monetary system occurred in stages beginning in World War I, when all
the European nations went off the gold standard, and ending in 1971,
when President Nixon announced the US would no longer allow other
countries to exchange the dollars they held into gold, thus destroying
the Bretton Woods international monetary system.
Thereafter, money was no longer “sound”, governments no longer had to
balance their budgets and trade between nations no longer had to
balance. Governments could create money from thin air; and budget
deficits and trade deficits could be financed with paper-money
denominated debt. Credit growth began to explode. Every sector of the
economy took on much more debt: the government, the households, the
corporations and the financial sector. Total debt (and, therefore, total
credit) in the US first topped $1 trillion in 1964. By 2007, it had
expanded 50 times to $50 trillion. Consequently, the economic growth
dynamic ceased to be driven by investment and saving. Instead, it came
to be driven by credit creation and consumption.
That explosion of credit created very rapid economic growth in the US
and around the world. However, in 2008, the private sector began to
default on its debt on such a large scale that our new, credit-based
economic system came very close to complete collapse. Had the government
sector not intervened by increasing its debt by roughly $5 trillion
since then (of which $2 trillion was financed by paper money creation),
we would now be in a great depression as bad or worse than the one that
occurred during the 1930s.
Many people think that if we just cut government spending on welfare or
have fewer government regulations or fire some bureaucrats that after a
short while we will once again be back in some kind of Capitalist
nirvana. That is a fantasy. The truth is that there is no way for our
21st Century credit-based economic system to return to the gold-based
monetary system of the 19th Century. It would completely break down if
we tried to return to a system based on sound money, balanced government
budgets and balanced trade. If our economic system, which I call
Creditism, collapses after a four and a half decade long, $50 trillion
expansion of credit, our civilization will not survive it.
Therefore, we must learn how to make our new economic system work. That
is what Economics In The Age Of Paper Money is all about.
Here’s the link to my website: http://www.richardduncaneconomics.com/
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