A market based on perpetual debt
The advantage of the gold standard was precisely the imposed scarcity, while the problem with fiat money is that it can be “dropped by helicopters,” as in Friedman’s famous analogy.
L. Randall Wray (2014)¹
The Fractional-reserve banking system (the system used in most modern economies as state-money) is antiquated. It serves society no more.
Here’s one reason why. When a creditor adds interest rates, or a debt issuer promises yields, the current banking system dictates that at any given moment, the existing debt is always greater than the total amount of money available to pay it.
This particular aspect creates scarcity, not by limiting the pool of money, like the gold standard or some cryptocurrencies, but constantly issuing more debt than currency to pay it.
This implies something very simple: when the wheels of economy slow down, less money is created, and normal obligations persist, bankruptcies and distressed equity buyouts will happen. They are the only fall back plan.
Banking institutions have demonstrated some agility in protecting their shareholders, which has generally mitigated the severity of the issue for most of their stakeholders. However, even banking and financial organisations are not immune to uncertainty. Some lack the resilience required to withstand prolonged economic downturns. The activity of the financial sector within the current monetary system has had significant and negative consequences. Mr. Mervyn King, former Governor of the Bank of England, highlighted this very concern during his address to the Worshipful Company of International Bankers in 2009³.
Banks are dangerous institutions. They borrow short and lend long. They create liabilities which promise to be liquid and hold few liquid assets themselves.
In attempting to control inflation, the increase in interest rates or yields often leads to the creation of unredeemable debt. Consequently, the current Fractional-reserve banking system, exacerbates the problem of money scarcity. This system compels individuals and organisations engaged in normal economic activity to constantly generate and compete for money to face fiduciary obligations, even if their products or services fail to create substantial value. If someone can obtain money from selling something, then debt can be repaid. In our daily lives, we often find ourselves trapped in a cycle of working solely for the sake of productivity. In some cases, these obligations can be seen as a burden that the monetary system imposes on its stakeholders. (Dyson et al., 2016)⁴:
Banks reap the private benefit of creating money, in the form of interest on the debt that backs that newly created money. However, the social costs of their creation of money fall upon society more widely. Since banks do not face the ‘negative externalities’ of their private money creation, they face powerful incentives to create ‘sub-optimally large’ volumes of credit and money.
Most monetary theories agree that some kind of reference (from money to value) is essential. In that respect, may it be a bank-note, or credit account, may it be tied to a contract or a commodity, it is reasonable to believe that money’s valor (the trichotomy of functions) and the social contract it performs are still the most agreeable safeguards of worth for those who use it: we think money is of worth because we can trade with it (it is a means of exchange), we can use its mathematical nature (it is measured in numbers) and we can save it (it is a store of value). This is the present scenario: current monetary systems and economic models are failing to keep these money’s canonical trichotomy of functions across almost all forms of money. Some monetary theorists are so baffled they are willing to forget money’s classical triad of functions. Sgambati (2015) for instance, in his paper The Significance of Money Beyond Ingham’s Sociology⁶, surrenders money’s valor to two other functions instead of the afore-mentioned triad. By analysing the financial and monetary anomalies that occur within credit economies Sgambati concludes that the key attributes of money are not the classic trichotomy of money’s functions, but money’s conceptual nature of ‘purchasing potential’ and ‘power to buy time’.
But what does this even mean to a citizen? In rough terms it means that according to Sgambati, money’s functions are not storing value, nor measuring value — money simply has to 1) represent that someone can buy something, and to 2) keep the ball rolling.
Reverting to a semiotic analogy — money as a linguistic symbol—the study (and practice) of a language can be more or less ‘prescriptive’⁵. Some languages, like the English one, accept new vocables without relinquishing classical forms (words do fall out of use but they stay grammatically correct and you can still use them to write a perfectly valid contract for instance). Likewise, the study of money and economics can preserve older meanings and functions of money (I’m here referring to the triad of classical functions in this case) while acknowledging the need for new instruments and perspectives. Therefore under a less restrictive approach there is no convenience in abandoning money’s classical trichotomy of functions in favour of the ones Sgambati takes from Geoffrey Ingham (British sociologist, political economist). Sgambati’s conclusions seem to be prudent:
To bring the question of ‘money as value’ into being, we must start from the common sense of what makes money so worth being pursued in the daily praxis: purchasing power.
As ‘credit cycles’ unfold, economic agents are likely to get caught in speculative practices of debt financing, to the point they will seek money to merely pay interest on outstanding liabilities (see Minsky 1977; 1986; Ingham 2008, pp.40–43; Nesvetailova 2007; 2010)
When the economy reaches this ‘Ponzi stage’, money is sought-after mostly to procrastinate the final fulfilment of debt commitments. As it were, towards the end of its ‘life-cycle’ money reveals itself as the power to buy time.
This vision highlights the ‘eternal-debt’ design deficiency entrenched in the fractional-reserve banking system. When debt is unredeemable the only way to purchase time is to push more credit and debt into the system. Sgambati realises the predicament and warns:
What everybody fails to see, or perhaps choose to ignore, is the material cost that many must incur or anyway charge for ‘living the dream’ of owning (in fact, owing) without necessarily having to pay for it: debt without end… Admittedly, by conceptualising money in these terms I am here calling for a tremendous re-consideration of what is today significant about it. For it is not true, as Ingham (2004, p12) asserts, that “something can only be issued as money if it is capable of cancelling any debt incurred by the issuer”. Rather, something can only be issued as money if it is capable of buying time for both the issuer and the acceptor, by granting them the possibility to access historically-specific and contextually contingent markets for debts. As a result, money cannot exist without the simultaneous existence of a debt that it will never redeem because of an underlying conflict of interests among proprietors that nonetheless converge on the necessity to keep the overall spiral of debt relations ongoing. (pp.27–28)
Sgambati specific interpretation of money’s valor and value does therefore resides in these two innate properties: its purchasing power and its ability to buy time. But what Sgambati doesn’t attempt to explain is why a new monetary model has to implicate a debt that it will never redeem in its design.
It is certain however, that the current monetary financial tools of fractional-reserve banking (bonds, securities, tenders, derivatives) and big monetary programs are all trapped by this predetermined fate.
There is an added scale problem inherent to this system: while the potential benefits for the population are watered down during a trickle-down process, a citizen is often left dealing only with cash and the money on banking accounts. This money always comes from some form of loan—even the money a worker receives as a salary always comes from a loan somebody else did that hasn’t been repaid yet. This unredeemable deal that creates an endemic competition environment and pushes for the notion of eternal growth — where the only way out of bankruptcies is to continuously push more credit and more debt into the system. This limiting and endemic competition environment is at the very root of many other huge problems.
Most sectors of economic activity have slowly been forced into a degenerative process while trying to remain solvent and viable throughout time. Because competition is endemic it extends across all aspects of society, even politics. The current financial model burdens the goodwill of already struggling governments, the responsibility to fund research projects that cannot guarantee short or medium term return on investment. And as this happens, even popular governments in developed nations battling financial imbalances, quickly lose the trust of the public. When struggling with financial imbalance, public administrations have been forced to privatise essential public services (some of which are natural monopolies most suited to centralised administration) such as water, energy production, the electric grid system, public transport, postal and delivery services, even health and education. This has often lead to an increase of costs to the citizen to access foundational civic programs (such as education) or even of services essential to survival (such as health). The competition environment is therefore contributing to the erosion of nuclear aspects of the social contract offered by ‘developed’ nations.
We can observe the consequences across most areas of research that depend on monetary viability. These days the developments we see are almost always about technology and rarely about humanistic studies. Researchers will often have to wait for the market to demand a particular development. While it is true some technologies can find funding through the market (venture capital, crowd-funding), deep-tech research, for instance, demands a completely different type of financial strategy. These difficulties are not limited to the deep-tech world. To get funding, the humanities, culture, and liberal arts often have to bend their focus, change their research and work mechanisms to meet the expectations of funding institutions and potential donors. All this may lead us to useful questions: How can philosophy, sociology, anthropology and other humanities fund their work? Is there a way of diluting the costs and risks of investing in big common interest projects? How do you opt in and out of social contracts? Is the fractional-reserve banking system capable of doing it or is it bound to reduce the array of economically viable human activities?
Can an alternative monetary system provide the solution?
The neoclassical hubris
Monetary systems should benefit their users (society). They should be improved and sophisticated whenever they cannot serve society anymore. It has become clear that the current monetary systems lacks the structural refinement to articulate the various facets of money in a globalised world — in particular the social contract that can be established between states and their citizens. While it is true that the economic systems operating within current monetary systems have created wealth, it is also undeniable that they have widened the economic gap between rich and poor. Most modern mainstream economists are unconcerned with justice or welfare. Léon Walras, one of the two main designers of what became know as the neoclassical economics, even tried to elevate economics to an exact science (Mazzucato, 2018)⁸:
For him (Léon Walras), ‘the characteristic of a science properly speaking is the complete indifference to any consequences, advantageous or undesirable, of its attachment to the pursuit of pure truth’.
With this hubris, the modern mainstream economics discourse was able to convince the population of its own reliability. By announcing itself as a neutral and amoral science, the field bypassed the gates of economic and monetary thinking and trended into other disciplinary discourses, including journalism, finance, law, and international politics. All of these are sectors of activity that hold positions of power, essential to the functioning of contemporary societies (and none of which a particularly exact and hard science). Nowadays, even the forms of democratic governance we have created and designed to represent and act for a majority of voters, have their decision-making powers extremely reduced within the current monetary and economic framework. Mellor (2015)⁹ described this phenomenon as “Handbag Economics” in which politics is placed under a stranglehold by the supra-monetary agents:
A handbag (purse) is here seen as symbolic of the public, as a ‘housewife’ dependent on an allowance from the capitalist ‘head of household’.
In this context even the most well-intentioned politicians are no more than secondary actors. Lesser players (often awaiting for an ensuing job offer in the financial sector) who have refrained from intervening on behalf of the population. The same population from whom they derive their legitimacy to legislate on all matters of public interest. For the most part, politicians and media commentators can convince voters that there is only one solution for a specific economic equation. But although the mechanics of money are based on logic, they are not exclusively based on mathematics. They rely on many other contextual and subjective concepts. Allow me a quick metaphor: the physics of sound are measurable and predictable but this does not imply that the music playing is any good — it just means it is loud enough to be measured. Maintaining this last analogy, given the objectives of pop-music/state-money, such concert/economy should always be meaningful for citizens. It is fruitless to take and glorify any narrative about economics and money if the majority of the population struggles to find its ‘beat’.
When arguing for a better form of money we must first define what we mean by ‘better’? ‘Better’ is first and foremost a qualitative adverb. And qualities may have different benefits and detriments depending on the context. For instance: Bitcoin may be adequate to serve the contract between a Bitcoin owner, the rest of the blockchain, and Bitcoin trading platforms but it might not be suitable for shopping malls, casinos, and corner store operations; casino chips on the other hand are a form of money designed to serve hotels, and casinos and gamblers, but they are not apt for governments to use at a national scale. The point being, at the centre of money’s valor (as a system to build trust amongst all users and stakeholders) there is always a social contract. The capability of fulfilling a specific social contract between a group of users emerges as the benchmark to evaluate if a certain monetary system is ‘good’ or ‘bad’ for their users. This assessment is naturally inclined to be qualitative for the simple fact socio-economic contracts are ethical, moral, political, and philosophical constructs, not just mathematical constructions.
When thinking about a monetary model for a state we must a priori study the social contract that a state wishes to uphold. Commonly, contemporary states offer safety, security, a legislative system, health services, and other basic services and infrastructures deemed essential to keeping the nation’s peace and contribute to collective development. This varies from nation to nation, but any monetary system performing ‘national money’ (or even ‘supranational money’) functions will always be bound to some form of agreement between the collective (a nation or a group of nations) and their citizens: “I will use Euros because I can pay my tax in Euros in my nation, have some essential basic services provided at the lowest cost possible, and will be able to use Euros in other Eurozone countries”.
Looking at the problem from this perspective, money could here be treated as an essential basic service in itself. In the midst of this, semiotics and pop-music metaphors may help to regain perspective but they will not suffice. A new monetary model must emerge. A model is needed, with a better form of money, that can tie accounting systems, politics, law, basic human needs. It must also leave space for human desires, subjective valuation, innovation, and leisure instead of imprisoning nations and citizens with a trading framework that neglects and erodes its own social contract.
Full working paper out (invited submission, peer reviewed, accepted manuscript by the Journal of Accounting and Finance): https://unit-world.web.app/downloads/For_a_Better_Form_of_Money4.1_workingpaper.pdf
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- Queen. and Bowie D. (1981), Under Pressure, EMI, Elektra
- Mazzucato, M. (2018). The Value of Everything (6th ed., p. 59). Penguin UK
- Mellor, M. (2015). Debt Or Democracy: Public Money for Sustainability and Social Justice. Pluto Press. E-book — Available at: https://www.perlego.com/book/664524/debt-or-democracy-public-money-for-sustainability-and-social-justice-pdf [Accessed: 14 January 2021
