A history of paper money and inflation in China, from Edward Chancellor's Wall Street Journal review of Jin Xu's Empire of Silver. In these sparse paragraphs is most of monetary (and fiscal!) theory, along with a history I was not aware of.
Paper money, Ms. Xu tells us, dates back to the Tang dynasty in the ninth century, when the authorities allowed merchants to exchange bronze coins for promissory notes, known as “flying cash.” Two centuries later, in the time of the Song dynasty, merchants in Sichuan were using private exchange notes in place of the cumbersome iron coinage. The Song emperor issued his own paper money against deposits of coin. The jiaozi, as these notes were called, proved so popular that they traded at a premium to cash.
The convenience of paper money proved its undoing, however. The first temptation was for the Song authorities to make the jiaozi inconvertible, severing the connection with metal reserves. The next step was to increase the issue of paper money, both to feed the people and, more pressingly, to fund the fight against the Mongol invaders. The inevitable outcome was inflation, followed by the collapse of the currency.
The Mongols resurrected paper money. Marco Polo, in the late 13th century, reported that Kublai Khan, the great Mongol leader, had discovered the “secret of alchemy” by making money from the bark of mulberry trees. But in time the Mongols issued too much paper and sparked a hyperinflation, as did their successors, the Ming. From the late 14th century onward, silver replaced paper money in China.
The advantage of “white gold,” Ms. Xu emphasizes, was that it couldn’t be conjured up at the emperor’s command. The silver currency provided stability, a quality much prized by the mandarinate. But there were disadvantages. Lacking domestic reserves, silver had to be imported from abroad—first from Japan and then from the Americas. Massive inflows of silver promoted vigorous economic expansion in the late Ming era. In the 1630s, however, Spain stopped exporting American silver to the Far East. The money shortage in China that followed coincided with crop failures brought about by the Little Ice Age. Ms. Xu suggests that “silver was the fuse” for the collapse of the Ming dynasty in 1644.
Silver retained its monetary role under the Qing—the dynasty that ruled China from the mid-17th century to the early 20th—and money shortages remained. Part of the problem was that China needed to run a trade surplus in order to increase its money supply. Imports of foreign goods, which drained silver from the country, were officially discouraged.
Paper money inflates, metallic money leaves a country dependent on trade surpluses or mining for supply. Obviously a better system is one that combines a metallic standard, recommitting the government against printing money to finance deficits, but with an ``elastic supply'' of paper and credit.
There is no reason why silver shouldn’t have provided the base money for a modern credit system, performing a role similar to the one gold played elsewhere. The problem lay with China’s institutions...
So many questions ...
ReplyDeleteDoes a money supply based on gold or silver inherently tend to contract as savers bury the metal and withdraw it from circulation?
Was the rise of the West driven by large silver discoveries in the Americas and in Germany in the 1540s making coins (money) more available and facilitating trade? That is, did the silver encourage development through liquidity rather than through a wealth effect? To what extent was the rise of the United States in the 19th Century a monetary phenomenon resulting from the California gold rush?
Absalon,
DeleteThere were numerous gold rushes in the United States throughout the 1800's and early 1900's (California being one of many).
See:
https://en.wikipedia.org/wiki/Gold_rush
Carolina Gold Rush, Cabarrus County, North Carolina, US (1799)
Georgia Gold Rush, Georgia, US (1828)
California Gold Rush (1848–55)
Northern Nevada Gold Rush (1850–1934)
Kern River Gold Rush, California (1853–58)
Idaho Gold Rush, near Colville, Washington (1855)
Gila Placers Rush, New Mexico Territory (present-day Arizona; 1858–59)
Pike's Peak Gold Rush, Pikes Peak, Kansas Territory (present-day Colorado; 1859)
Holcomb Valley Gold Rush, California (1860–61)
Clearwater Gold Rush, Idaho (1860)
Eldorado Canyon Rush, New Mexico Territory (present-day Nevada; 1861)
Colorado River Gold Rush, Arizona Territory (1862–64)
Boise Basin Gold Rush, Idaho (1862)
Montana Gold Rush (1862–69)
Montanta Gold Rush - Bannack, Virginia City (Alder Gulch) (1862-64)
Montana Gold Rush - Helena (Last Chance Gulch) (1862–64)
Montana Gold Rush - Confederate Gulch (1864–69)
Owyhee Gold Rush, Southeastern Oregon, Southwestern Idaho (1863)
Owens Valley Rush, Owens Valley, California (1863–64)
Eastern Oregon Gold Rush (1860s–70s)
Black Hills Gold Rush, Black Hills of South Dakota and Wyoming (1874–78)
Bodie Gold Rush, Bodie, California (1876)
Cripple Creek Gold Rush, Cripple Creek, Colorado (1891)
Mount Baker Gold Rush, Washington, United States (1897–1920s)
Nome Gold Rush, Nome, Alaska (1899–1909)
Fairbanks Gold Rush, Fairbanks, Alaska (1902–05)
Iditarod Gold Rush, Flat, Alaska, (1910–12)
What's significant about this list is that the last American gold rushes ended in 1920 (Mount Baker) and 1934 (Northern Nevada).
DeleteJohn,
ReplyDelete"The next step was to increase the issue of paper money, both to feed the people and, more pressingly, to fund the fight against the Mongol invaders."
Key phrase - To fund the fight against the Mongol invaders.
So was inflation caused by the use of paper money itself or was it caused by how the paper money was used?
It is one thing to pay people with paper money to work on farms and produce goods.
It is quite another to pay normally productive people with paper money to fight in a war.
"The advantage of white gold, Ms. Xu emphasizes, was that it couldn’t be conjured up at the emperor’s command."
Not quite, the advantage was that an emperor forced to pay his soldiers in "white gold" would soon run out of funding for his war.
In the 1970s, the government of Indonesia paid its employees a combination of government script and bags of rice. The government script was subject to inflationary pressure if over-issued; the value of rice fluctuated with the level of the annual harvest.
DeleteIn the kingdom of Spain at the height of the shipments of bullion from the mines in the kingdom's central and south American possessions, the corn price of gold fluctuated as the supply of gold waxed and waned. The corn price of gold in Spain much exceeded the corn price of gold in England at the time, according to Adam Smith's accounts. We can infer from this that it is the supply of the metal that determines its purchasing power in terms of real commodities in stable supply. Oversupply hits the purchasing power of the currency whether metallic or script.
In our day, the price of hunting lodges ("ranches" as they styled in the sales literature) much sought after by Wall Street types in the foothills of the U.S Rocky Mountains has risen at a steadily increasing rate since 2010, as a result of the Federal Reserves efforts to monetize the U.S government debt issuances. Good hunting and fishing properties are in limited supply, government script is in ever-increasing supply. Price inflation is the result. We can find parallels to that far distant past in our present day, if we choose to seek them out. The principles that held then, hold today and will hold long into the future. The bond market's flutter in long bond yields portends what the future holds. It will be good for the common stocks for a time, as long as the fiscal stimulus lasts, but negative for bonds which appeal as a store of value which to be redeemed at a date far into the future.
And so it goes. Today, the government is going at it as recklessly as any Emperior of China once did back in the day. Spend-trifts' joy; savers' woe. And, in time, the Devil'll take the hindmost, as usual. Vae victis! all over again.
Old Eagle Eye,
Delete"In the 1970s, the government of Indonesia paid its employees..."
Full stop. I only mentioned the war aspect because of it's mention in the article above (to fund the fight against Mongol invaders). In a broader sense, any non-productive activity funded by government can negatively affect inflation, whether that be a war or simply paying people to stay at home and do nothing.
"In our day, the price of hunting lodges ("ranches" as they styled in the sales literature) much sought after by Wall Street types in the foothills of the U.S Rocky Mountains has risen at a steadily increasing rate since 2010, as a result of the Federal Reserves efforts to monetize the U.S government debt issuances...Price inflation is the result."
Oh wait, haven't you heard. The rise in the price of houses / homes isn't "officially" considered inflation since it was taken out of the Consumer Price Index under Ronald Reagan in 1983 (and replaced with owner's equivalent rent).
"Good hunting and fishing properties are in limited supply, government script is in ever-increasing supply. Price inflation is the result...And, in time, the Devil'll take the hindmost, as usual."
Looks like the "Devil" has taken his first bite:
https://www.latimes.com/california/story/2020-08-26/california-fires-burn-more-than-1-600-structures-but-total-losses-could-top-3-000-officials-say
"The bond market's flutter in long bond yields portends what the future holds."
Hilarious. Still believing in the "Bond Market Vigilantees" are you? They all died or got consolidated into financial service firms courtesy of Greenspan, Rubin, and Summers.
I realize the history of Bitcoin is brief.
ReplyDeleteBut if you own Bitcoin (sadly I don't) the world is defined by violent implosive deflation. This is the free market at work.
Bitcoin is backed by nothing. Nothing! Not even the taxing power of the state, or the acceptability in paying taxes, or a sovereign say-so that creditors must accept debts paid in this currency. As a currency, Bitcoin is entirely unmoored by anything.
Well, the Bitcoin crowd says the Bitcoin supply is restricted, which is enough, evidently, to result is runaway hyper-deflation in free markets. To state the obvious, Bitcoin has no metallic backing.
Another odd example: The Swiss National Bank has been battling for years against strong appreciation of the Swiss franc, or deflation. The SNB has engaged in QE equal in size to the Swiss GDP, but with only middling success in holding down the value of the Swiss franc. The Swiss franc's link to gold was terminated in 2000.
Imagine if the balance sheet of the Fed was $22 trillion or so. The SNB has done the equivalent of that, and not succeeded in preventing deflation.
Yes, there are counter-anecdotes, you can get inflation by monetary growth, in the Weimar Republic, or Zimbabwe.
But conventional economics seems to be losing traction of late. It does little good in the real world if a theory is correct, but only after 50 years, or a century. In the modern, urbanized world, citizens need prosperity continuously.
Tricky shoals to navigate.
Bitcoin is guaranteed to implode. In order to transfer a bitcoin, the owner must use a password (a private key) that the owner alone knows. The point of failure is that people are really bad at remembering passwords.
Delete"Of the existing 18.5 million Bitcoin, around 20 percent — currently worth around $140 billion — appear to be in lost or otherwise stranded wallets, according to the cryptocurrency data firm Chainalysis.
https://www.nytimes.com/2021/01/12/technology/bitcoin-passwords-wallets-fortunes.html
As the years roll by more and more bitcoins will be lost. Eventually, they will be useless.
That is the good news for bitcoin. The bad news is governments will eventually decide something that is most useful to hackers, drug smugglers, tax cheats, and terrorists should be contraband.
Fat Man: Yes, perhaps all true, but governments putting the torpedo into Bitcoin is not the same as Bitcoin failing in real free markets due to a lack of public confidence.
DeleteBitcoin just topped $60,000. With a entirely digitized currency backed by nothing, the result is hyper-deflation.
For now.
How does the 'better system' combining a metallic standard and an elastic supply work - are there historic examples that might illustrate this? I'm curious if there's been an ideal balance in practice. To me, it seems more efficient to curb governments' tendencies to print money in other ways than tying currency to metal reserves.
ReplyDeleteThat's the classical gold standard. Steady price level in the very long run, a lot of short run volatility, occasional crashes when governments couldn't keep their gold (implicit fiscal) promises, occasional banking crises when people wanted gold not private paper, a big deflation in 1933 that ended the system. Better than all paper, better than all gold coins, but not what we do today.
DeleteThomas,
Delete"I'm curious if there's been an ideal balance in practice. To me, it seems more efficient to curb governments' tendencies to print money in other ways than tying currency to metal reserves."
There can be a balance, but to achieve that balance you need three government liabilities (not two).
1. Money
2. Bonds
3. Equity
When equity that is separate and distinct from both money and bonds is sold by a government, then the inflation risk associated with money and bonds disappears.
That's the problem with our two party (Republican / Democrat) system.
Neither party understands that the financing decision (how government pays for things) affects economic output as much if not more than the spending decision (what government ultimately purchases).
"How does the better system combining a metallic standard and an elastic supply work..."
I wouldn't say that that a system using a metallic standard is by any means a "better" system. For instance, if you live in a country with few metallic resources, then a metallic monetary standard is a poor standard to use.
The problem is that governments don't treat an elastic currency as such. Instead they borrow (sell bonds) and then continuously roll over the principle on that debt so that you never get back to zero.
Thanks for the replies - I assumed the drawbacks of a gold standard made it an untenable option but perhaps I should re-assess that assumption.
DeleteKinesis has made gold (KAU) and silver (KAG)spendable currencies again that you can actually use to pay your groceries using a debit card. Allocated, fully insured vaulted gold on blockchain that you own outright, that you can save and earn yield on (by means of distributing transaction fees among participants) or spend as normal money.
ReplyDeleteSo now you can actually decide by yourself if you want to be on a gold standard or not!
Here's my second best monetary standard: A bit of gold,a bit of silver, a bit of copper, which would comprise a symmetalic standard.
ReplyDeleteBetter yet, have a tad of washing machine,automobile, haircut,rent, college degree, heart transplant, smart-phone.
One gets the idea. Let's leave the magic of money and concentrate our faculties on real things, not ephemeral things.
Frank,
DeleteIMHO, the "best" monetary standard wouldn't involve metals at all. It would be energy centric where blocks of megawatt hours or megajoules are used in the exchange of goods.
Governments can't "fake" energy any more than they can "fake" metals.
The advantages of energy are
1. The economic losses in transporting large amounts of energy across large distances are significantly smaller than in transporting metals.
2. No country is resource poor when it comes to it's potential for energy production.
The only problem with energy as money is storing the stuff (need big batteries). Most energy used these days is created on demand.
The problem with bitcoin is that it takes a lot of energy to "mine" a bitcoin, but you can't reverse the process - you can't take bitcoin and recover the energy that was used to mine it.