Money

Money
(Excerpt from new book: How Privatized Banking Really Works)

"Money is such a routine part of everyday living that its existence and acceptance ordinarily are taken for granted. A user may sense that money must come into being either automatically as a result of economic activity or as an outgrowth of some government operation. But just how this happens all too often remains a mystery."

—Federal Reserve Bank of Chicago¹

It is an error to think that everybody in society truly understands money, how it originates, how it functions, or even the concept that it is simply a medium of exchange. When we take the time to seriously consider the subject of money and ask ourselves the same kind of questions the young child asked in the opening chapter of this book, we come full circle to realize that money is the common denominator of virtually everything on this planet. Virtually everything is expressed within the terms of this one system. Most, if not all, of our relationships with other entities and other humans involve money. Even time is expressed in terms of money. If the goal of this text is to help bring clarity to all of the hidden aspects of the money problem, then we must start with the more basic facts about money and move along a deliberate line of thought that eventually addresses our concern. The idea is to make sure we inform everyone, because everyone's full understanding is important to our cause.

A good place to begin our basic study of money is by physically examining it. It is true that in our current times money in one sense has become invisible. Often moving electronically at the speed of light it does not even posses a physical body. Typically it is most often seen as numbers on a ledger on some account balance, your account or theirs. Nevertheless, all forms of our current money must convert back to our paper currency and coins. An economist would refer to our money as fiat money, electronic or otherwise. Our first query will be, "Why fiat money?"

First of all, the word fiat is defined as a "declaration by supreme law or a formal authorization, a command." By fiat, the supreme law of this land has declared this paper note to be legal tender for all debts public and private. Study the small print at the top left hand corner of this familiar piece of green paper. Simply put, this is officially our medium of exchange, the only money we can use—period! We may use a check, online banking or even credit cards to pay for things, but ultimately all payment transactions are denominated in reference to these paper dollars. To clarify further, if a creditor owes you money and you refuse to accept this currency in payment, that creditor's debt to you, by law, is simply canceled.

Notice also at the very top of our dollar bill the wording Federal Reserve Note. Again, very simply, the note indicates clearly that it was made and distributed by the Federal Reserve, our country's central bank. Obviously, we know that this is printed money because it is paper and ink. We also determine by observation that it certainly appears official. It is elaborately adorned with authoritative images that express the full faith and strength of the U.S. government. However, we shall soon see that there is nothing federal about it and there is no reserve.

Now compare the first dollar bill with the one below.

This dollar, which circulated in 1957, looks exactly like the dollar on the previous page except for this one very important distinction. At the very top we see that this dollar has written across it SILVER CERTIFICATE. We also read the following: "This certifies that there is on deposit with the Treasury of the United States of America, one silver dollar, payable to the bearer on demand."

That is quite a distinction. In case the reader isn't sure, let us be crystal clear: There is nothing backing our current currency. By that we mean that its precious metal convertibility has been removed, gradually at first, but over time permanently. This process actually began when President Franklin D. Roosevelt, in one of his first acts in office, declared as illegal the use of gold as money in 1933. It was pronounced a crime for any citizen to continue using gold as money, a law that was strictly enforced by a stiff fine, even imprisonment. Furthermore, President Roosevelt demanded that all gold be turned over to the government, to be stored and locked in a vault under armed military protection. The gold vault is known as Fort Knox and is located in the state of Kentucky.

Our coins were at one time made of 97% pure silver. Today they are merely tokens made of cheap metal. When we say that our money has lost 95% of it value since the early 1900s, we are speaking of its loss of purchasing power, but also of the fact that it has been un-linked from precious metals—real money.

One other significant point needs mentioning. The U.S. once owned a large share of all the gold in the world, but today the amount actually in U.S. possession is unknown. No outside agency has been allowed inside Fort Knox in many decades to audit the gold bullion held there. Obviously none of this is good news. Understanding how and why we have wound up in this situation is of supreme importance to us today. We will learn more specifics later, but for now these facts should not be forgotten.

A Brief Tour of America's Early Monetary History

There were two large-scale experiments with fiat money in our country's early history. Both times illustrated the danger of giving politicians control of the printing press. The first episode occurred during our country's infancy. During the War of Independence, the desperate Continental Congress began paying its debts in fiat money called Continentals. At one point, General Washington complained to Congress that it took a wheelbarrow of Continentals in order to buy bread for his starving soldiers. People would not readily accept Continentals as money, simply because they knew it was not real money. (The reader may have heard the phrase "not worth a Continental.") They knew it was paper fiat money whose convertibility to a precious metal was questionable.

Indeed this early disaster with fiat money greatly influenced the Founding Fathers. G. Edward Griffin describes some of the commentary at the Constitutional Convention:

Oliver Ellsworth from Connecticut, who later was to become our third Chief Justice of the Supreme Court, said, "This is a favorable moment to shut and bar the door against paper money. The mischief of the various experiments which have been made are now fresh in the public mind and have excited the disgust of all the respectable parts of America."

George Mason from Virginia told the delegates he had a "mortal hatred to paper money." Previously he had written to George Washington: "They may pass a law to issue paper money, but twenty laws will not make the people receive it. Paper money is founded upon fraud and knavery."

James Wilson of Pennsylvania said: "It will have the most salutary influence on the credit of the United States to remove the possibility of paper money."

John Langdon from New Hampshire warned that he would rather reject the whole plan of federation than to grant the new government the right to issue fiat money.

George Reed from Delaware declared that a provision in the Constitution granting the new government the right to issue fiat money "would be as alarming as the mark of the beast in Revelation.²

Needless to say, the original signers of the Constitution did not think they were creating a federal government that had the right to give green pieces of paper the force of legal tender. The clause granting Congress the power to "coin money" and "regulate the value thereof" has been as heroically strained (in order to justify the government's debasement of the dollar) as the other modern misinterpretations of the obvious intentions of the signatories. Griffin explains:

In view of the fact that gold and silver coin was specifically defined as the only kind of money to be allowed, there can be no doubt of what was meant...To coin money meant to mint precious-metal coins. Period.

The second half [of the clause] is equally clear. Both in the Constitution and in the discussions among the delegates, the power to regulate the value of gold and silver coin was closely tied to the power to determine weights and measures. They are, in fact, one and the same. To regulate the value of coin is exactly the same as to set the nationally accepted value of a mile or a pound or a quart. It is to create a standard against which a thing may be measured....

The intent, therefore, was simply for Congress to determine the exact weight of a precious metal that would constitute the national monetary unit.³

To drive home the point that the Founders did not think the new Constitution gave the federal government the power to issue fiat money, consider the following thoughts that George Washington wrote in 1789:

We may one day become a great commercial and flourishing nation. But if in the pursuit of the means we should unfortunately stumble again on unfunded paper money or any similar species of fraud, we shall assuredly give a fatal stab to our national credit in its infancy.⁴

During Washington's first term as president, his Secretary of the Treasury Alexander Hamilton proposed the creation of a central bank (the First Bank of the United States). This raised the fierce ire of Secretary of State Thomas Jefferson, who declared: "A private central bank issuing the public currency is a greater menace to the liberties of the people than a standing army." We see that the Founding Fathers, were they to view present-day America, would be shocked on many levels.

Despite the awful experience with Continentals during the War for Independence, both sides in the Civil War (or what is also known as the War Between the States) succumbed to the temptation to rely on unbacked fiat money to pay their expenses. The price inflation in the Confederate states was appalling, and even in the North the public became disillusioned with the rapidly deteriorating "Greenbacks" until they were once again linked to precious metals after the war.
Anytime sound money, as in gold, circulates alongside paper money not backed by a precious metal, the people tend to hoard the sound money and spend the bad money. This phenomenon was first discovered in the 1500s and is known as Gresham's Law: "Bad money drives out good under legal tender laws." When the government forces merchants and creditors to accept debased money as if it were equivalent to the genuine article, everyone trades away the inferior version. No one wants the paper money. No one saves the paper money. The people will hoard the good money each and every time. This partly explains FDR's confiscation of citizens' holdings of gold in 1933.

Once again, our nation is using a paper money not redeemable in precious metals. Federal Reserve Notes now circulate in our economy totally free from its main competitors, gold and silver. It is officially legal tender and it is the only money we can use. Even more noteworthy, today all countries in the world use fiat money. Here and abroad we are completely off the gold standard. Universally it is all nothing more than paper and ink.

The Bretton Woods Agreement 1944

After World War II, the United States emerged as a world superpower. Using this powerful influence the U.S. formulated and drove into acceptance a new global monetary system at the conference in Bretton Woods, New Hampshire in 1944. In contrast to the classical gold standard, in which every nation's currency was convertible by anyone into a specified weight of gold, the new system enshrined the U.S. dollar as the anchor upon which all other fiat currencies were based. Rather than stockpiling bars of gold in their vaults as reserves, foreign central banks were encouraged to use U.S. dollars as their "reserves."

Under the Bretton Woods agreement, the U.S. dollar itself was still backed up by gold, at the official exchange rate of $35 an ounce, thus providing a firm foundation to the entire system. However, unlike the practice during the classical gold standard, in the new arrangement only central banks had the right to turn in their paper dollars for gold bullion. American citizens would never again regain the ability—stripped from them by FDR—to turn their dollars in for gold. Thus one of the most potent checks on inflation had been removed.

As stated earlier, the United States had a huge stock of gold reserves after World War II and began pursuing a highly inflationary course much to the dismay of foreign countries. As the dollar weakened because of these monetary activities, gold started flowing out of the country in large amounts as foreign governments cashed in their dollars for gold. It reached a crisis point by 1968, and in 1971 President Richard Nixon took our dollar totally off gold and declared the Bretton Woods agreement null and void. At this point, the U.S. dollar—and by extension, the currencies of other world powers—was an asset unto itself, having no link to the precious metals. At this point, the only restraint on the printing of new paper dollars was the discretion of Federal Reserve officials. There were no formal checks left on their appetite for inflation.

Many people expected that the entire international monetary system would collapse after the breakup of Bretton Woods. Surprisingly it didn't. Some historians speculate that U.S. military might and fears of an outbreak of World War III kept other governments in check, continuing to use the U.S. dollar as the world's reserve currency even though they never would have agreed to the arrangement originally without the dollar's backing by gold. In any event, the U.S. experience of "stagflation" during the 1970s showed that the tie to gold—weak though it was under Bretton Woods—had restrained inflation. After Nixon removed the last shackles, the U.S. suffered from an orgy of dollar printing.

L. Carlos Lara | Tuesday, July 6th, 2010

L. Carlos Lara is President of United services and Trust Corporation, a Management Consulting Firm specializing in Business Consulting, Corporate Trust Services, Corporate and Private Seminars and Speaking Engagements. Visit him or contact him at www.usatrustonline.com.

Notes:
(1) Federal Reserve Bank of Chicago, Modern Money Mechanics: A Workbook on Bank Reserves and Deposit Expansion (1994), p. 1. Available at: http://www.rayservers.com/images/ModernMoneyMechanics.pdf. Accessed June 3, 2010.
(2) G. Edward Griffin, The Creature From Jekyll Island (Westlake Village, CA: American Media, 2002), p. 315.
(3) G. Edward Griffin, The Creature From Jekyll Island, pp. 317-318.
(4) Quoted in Griffin, p. 323.