“Are new currencies a threat to old money” was the subject of a talk from Philip Vermeulen, Professor of Economics and Finance at the University of Canterbury. Philip spent 20 years at the European Central Bank during the time when countries’ individual currencies were switching to the Euro.
He pointed put that banknotes are just a tiny fraction of money. In Aotearoa we mainly use EFTPOS or a mobile banking app on our phone. The numbers on the phone are also money, and represent what we have in the bank. These methods are easy to use, transparent, and almost immediate. All local banks have an account at the central (Reserve) bank, and transactions are done through this.
Money has three features. It is (a) a medium of exchange, (b) a store of wealth, and (c) a unit of account. In Aotearoa the wealth stored is guaranteed by the government. The unit of account refers to the fact that everything has a price. Money needs to be scarce, to be accepted by others as having purchasing power, and its price needs to be stable.
The price of something depends on how much money is needed to buy it. The value of something depends on its usefulness. Philip pointed out that water is not usually charged for, but is of immense value. An old joke says: “An economist is someone who knows the price of everything, but the value of nothing.”
Before humanity had money there were two ways to exchange goods: barter (an immediate trade) and gift exchange (reciprocity, where the benefit may come in the longer term). The first evidence we have of money being used is in Mesopotamia (Iran/Iraq). In 6,000 BC people there used barter as a means of exchange, and goods such as wheat and barley came to be used as money. This extended to other communities along the Nile (Egypt) and by 3,300 BC silver was being used as a standard of value. The Shekel is an ancient Mesopotamian coin, usually of silver. At first the Shekel was a unit of weight, then it became a currency.
In ancient Rome cattle (pecus) became a standard of value, and this is where we get the word pecuniary. All this shows that barley and cattle are early forms of money. Metal as a medium of exchange had the advantage of being durable, divisible, and portable (although heavy). People started to use bars of gold, silver, bronze, and copper. In the early 6th century BC (610-560 BC) the Lydian electrum coin began to be used (Electrum is a mixture of gold and silver, and Lydia is in present day Turkey). Coins were soon seen to be a useful way to store wealth, e.g. they could be buried. Whatever was stamped on a coin didn’t really matter. The important thing was the amount of underlying metal that made up the coin, which could always be melted down and re-stamped.
In Asia Chinese coins were widely used, and the Silk Road stimulated this use. The problem of coins was that they were heavy, and the solution to this was paper money. The first promissory note, where the issuer promises to pay, appeared in China in the 11th century and was called the Jiaozi. When Marco Polo travelled through Asia 1271-1295 he noted that Kublai Khan caused all payments on his account to be made with these notes, which could be universally passed across his kingdoms.
During the 14th and 15th centuries European banks developed Bills of Exchange, which were written by one bank to another. These required trust between the banks and were used by the Knights Templar and the Medici family. A famous painting in1514 shows the Moneychanger and his Wife weighing coins.
The first promissory notes were personally registered, but they soon became a written order to pay the amount to whoever had the note in their possession, i.e. a bank note. Early bank notes were issued in 1661 by Stockholms Banco, and in 1695 by the Bank of England. These notes were a promise to the bearer that they could be redeemed for the note’s value in coins (specie). At this stage paper currency in most countries was handled entirely by private banks. In the United States, between 1793 and 1861 there were approximately 1,600 private banks who were permitted to print and circulate their own paper currency. In 1861 Congress permitted the Treasury Department to print and circulate money, and specie payments were suspended. This meant that paper money could no longer be converted to coins or bullion and was the beginning of fiat money (guaranteed by government).
In 1844 the Bank of England gained a monopoly over the issue of notes, and from1873 to 1914 there was still an international classical gold standard, where central banks agreed to exchange notes for gold. After World War II countries fixed their exchange rate with US dollars, which could then be exchanged into gold at the official rate of $35 per ounce. In 1971 President Nixon ended the conversion of US dollars into gold.
Fiat money is a currency that lacks intrinsic value and is established as legal tender by government regulation. It works because money needs to be scarce, it needs to be accepted by others and by government, and there needs to be an important reason to use it. The government will only accept its own fiat money when people pay taxes, and we all need to pay taxes (e.g. income tax, GST). These can only be paid in NZ$, and if this was changed it would undermine the NZ$. How is money kept scarce? The Reserve Bank controls the supply and regulates inflation. Philip believes that in ten years time we will still be paying in NZ$.
Today there are over 10,000 crypto currencies in circulation, and while they are super easy to create they don’t have the features of old currency. China has ruled them out completely. Philip considers that Bitcoin is the biggest bubble in history, is very unstable, and doesn’t function well as a basis of exchange. Why would we want to shift to something that has no value? Use of NZ$ is getting easier every year, and the cost of using them is going down all the time. Government control of money is only a problem for people such as drug dealers.
So why are so many buying crypto currency? Some are true believers in non-government. Some have FOMO – fear of missing out – gambling on the hysteria of people. Some want to get rich quick. Some fear the debasement of fiat currency as happened in wartime Germany. When considering whether Bitcoin is money we need to consider whether it is a medium of exchange, a store of wealth, and a unit of account? This talk was an excellent antidote to last week’s discussion of Bitcoin.
New Zealand dollars here to stay
They are a stable way to pay
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