[ExI] Gresham's Law?/was Re: Bitcoin

[Dan]

On Wednesday, April 10, 2013 6:32 AM The Avantguardian <avantguardian2020 at yahoo.com> wrote:
> No not the way I see it. Of all the things driving the demand for
> BTC right now, its usefulness as a currency is one of the least
> significant. Right now it is a store value and little else.

Um, the two are related in that what can be used as a store of value can usually be exchanged easily for other things.

> Because of Gresham's Law, so long as fiat is capable of purchasing
> particular goods and services, it will be used for such in preference
> to bitcoin, precious metals, or other scarce commodities. That is what
> gold bugs refuse to understand that is that scarce deflationary
> commodity money does not circulate as much as fiat because people are
> afraid to spend it. I don't see how a gold-based economy can achieve
> any meaningful growth since the influx of gold does not create wealth
> but simply dilutes it as happened in Spain after the conquest of the
> Americas.

Things are a bit more complicated. Gresham's Law really applies when people are forced at par to accept two monies -- usually because both are legally defined as equivalent, when they're not. But in a free market in currencies, Gresham's Law wouldn't apply and there'd more likely be a flight to quality as people would prefer to only receive the better quality (read: more highly valued) money in trade for anything. The inflation of currencies we've all seen and accept as business as usual is only in place because of legal tender laws.* I'd actually expect, absent such laws, and given enough time for people to reaquaint themselves with using commodity monies, foreign currencies (even in the US and the Eurozone), and other alternatives, people would tend to flee from inflated currencies to less inflated ones. (This doesn't mean merely getting rid of legal tender laws would solve all monetary problems -- at least the ones that might be solved through policy
 reform. There'd still be a huge nest of money and banking regulations and subsidies to remove. But it would be a good step to abolish legal tender laws to allow individuals to choose what currencies they wanted to use.)

Regarding growth, considered as currency, any change in the currency supply does not create wealth -- whether an increase in silver (the more often used commodity currency in history; there was simply not as much gold**). What grows wealth is usually more production -- not meddling with or "fine-tuning" the money supply. Overall, though, fiat money inflation tends to have the net impact of redistributing wealth in a systematic manner to debtors, especially large debtors, who tend to benefit early from the inflation. (This seems to be why inflation has continued, with mainly fluctuations from slower to faster levels of inflation rather than no inflation, disinflation, or deflation under fiat money regimes. The biggest debtors in any national economy, after all, tend to be the state itself -- which controls the monetary authority directly*** -- and the biggest and best politically connected investors. This isn't to argue that they willingly inflate with
 foreknowledge of its impact. Rather, it's probably more a Darwinian process of the inflation approach winning out because it works so well -- i.e., has strong upfront incentives and the disincentives are delayed and hard to perceive and track: the losers tend to be late to the party and distributed, whereas the winners are early and concentrated.)

Regards,

Dan
My science fiction short story "Residue" is now available at:
 http://www.amazon.com/gp/aw/d/B00BS3T0RM/

* And, in some cases, outright criminalization of rival currencies, especially during crises. Think of the German inflation, where foreign monies were outlawed. Why were they outlawed? If Gresham's Law applied, there'd be no need to outlaw them as people would have wanted to trade in the extremely low valued Mark over, say, the Swiss Franc or Dollar.

** And nothing wrong with having more than one commodity here, though problems arose when the state defines what's the right one -- why can't we switch or have many? -- and what ratio more than one will trade at. E.g., if both silver and gold are used and their relative prices don't fluctuate and the state then defines them as trading at that ratio and the relative price changes, this creates by decree a unstable money base.

*** The fairy tale that monetary authorities, such as central banks, are independent is easy to dispel in two ways. One, ask who appoints those authorities. Two, look at the political business cycle, which tracks elections and central bank activity.