Mon, 03 Sep 2007

Gold Bugs

I know that some people are gold bugs; I am not one of them. A chief advantage of gold is that it limits the supply of money, making for a constant predictable mild deflation. In a free market society, as each person trades, they increase the total valuable of the tradable items. If you have a fixed amount of gold, and your money is gold receipts, then you will have a small value of deflation, as the same money chases goods worth more and more.

For some reason, people think that deflation -- any deflation -- is bad. They say that when money is deflating, people will hold their money because they know that it will always be worth more the next day. Thus, the economy shuts down because nobody wants to spend their money. That's a great theory, but it neglects the fact that people can get used to anything, including deflation. So yes, their money will be worth more the next day, but so will their money if they invest it. The same incentives apply: don't spend now because you'll have more to spend later.

Yet a fiat currency can work exactly the same way. Keep the amount of the currency fixed, and you'll have a small amount of deflation. Or, you can inflate the currency at the same rate of growth as the economy. The money-maker (the person who prints money and turns bills into money through their promotion of the currency) can earn money at the growth of the economy (which is a tolerable income) by constantly inflating money to keep prices constant. That is one way that a private money-maker could earn a profit on turning pretty pictures into money.

Note, though, that issuers of fiat currency have the weight of law behind them forcing people to accept fiat currency as if valid. Gresham's law applies, and a fiat currency will drive all more valuable money out of the market.

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