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Saturday, 5 March 2011
What Kind of Monetary System Do We Have

You may have read on that the US has a central bank (the "Fed") that has complete discretion in its directors to manipulate and control a fiat currency, with a 10% fractional reserve requirement as the monetary system in America. So what does each of those things mean?

Central Bank - A central bank like our Federal Reserve is a public monetary authority with a monopoly for creating the currency. It has many powers including two primary methods for "managing" the economy. a) It can set the "discount rate" or the interest rate at which banks can borrow short term funds. b) It can also purchase or sell debt. The supposed primary objective is to minimize swings in the economy. There are two kinds of central banking - rules based and discretionary. 

Discretion vs Rules - There are two ways a central bank like the Fed can "manage" things. One is based on monetary rules whereby some targets or rules are set for a specific period of time that bind the monetary authority to buy or sell debt or raise or lower rates in order to meet the targets. The other is based on discretionary decisions by the authority to buy or sell debt or raise or lower interest rates in any way they feel is correct based on whatever rationale they wish to use.

Fiat Money - Fiat money is paper money that has value only because a government says it has value. It has two characteristics. a) It does not represent anything of intrinsic value. b) It is decreed to be legal tender (laws that require everyone to use it in settlement of private debts and it will be accepted as payment of taxes). These two characteristics always go hand-in-hand because fiat money is worthless and it would be rejected by the public without the government's threat of fines or imprisonment for failure to accept it as money. 

Fractional Reserve Banking - Fractional reserve banking requires a bank to only keep a fraction of its capital on hand to back deposits. A 10% reserve requirement means that for every $10 of deposits a bank has, it can loan $9. If the borrower then deposits the $9 in a bank, that bank can lend out all but 10% or $8.10 and so on. So the banking system can turn the original $10 deposit into $100 of money in circulation ($10 + $9 + $8.1 + $7.29 + ... = $100) at a 10% reserve requirement.

We have ended up with a system that we never chose or voted on, that is very susceptible to government manipulation and extremely destructive to the wealth of individual citizens. It could only be worse if we further lowered the fractional reserve requirement, but that's about it. It is our opinion that the United States needs a different monetary system and that besides stopping the bleeding, the Amendment we propose will force that discussion and America will end up with a much more satisfactory system.

Posted on 03/05/2011 9:35 AM by Jack Massari
26 Apr 2012
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