Comment after asking for my post Libertarian monetary concepts Most focus on the question of what it means to cancel the Fed.

1. Some consider the phrase not literal, but rather a call to the Fed to stop exceeding its mandate when intervening in the economy. According to this view, the Fed could still do things like target inflation or NGDP, but would stop doing things like bailouts.

2. Some urged the Fed to do something less discretionary, such as freezing the regulatory monetary base. The Treasury could do it.

3. Some suggested the US government replace currency with gold as a medium of account. Again, no feds will be needed.

4. Some have suggested just getting the government out of money entirely and seeing what the market comes up with. Perhaps something like Bitcoin could win the competition.

Here’s what makes money so difficult for libertarians. The US dollar is already deeply embedded in our economy. All contracts are denominated in dollars, and many of those contracts commit to dollar transactions decades into the future. That means the US government has an obligation to maintain some stability or at least predict the value of the dollar over time. Right now they’re not doing a great job, but things could get worse.

It is like catching a tiger by its tail. You might hope that the US government never created fiat dollars, but now it’s hard to let go.

That doesn’t mean it’s impossible, but you have to make sure we have some sort of asset called “US dollars” for the foreseeable future to prevent the collapse of our financial system.

This does not mean we must have a Fed. Commentators point out that we had the US dollar before the Fed was created in 1913. However, even before 1913 the federal government had a monetary policy. This principle had two components:

1. Definition of dollar as a fixed quantity of gold.

2. Substantial government gold holdings, which have changed over time. This has affected the price of gold (purchasing power).

So it was not pure laissez faire.

Many people wonder why options #2, #3 and #4 are such a bad idea. After all, in 1900 we had a gold standard. Why not return to that arrangement?

I would like to make two points here:

1. The gold standard was quite not successful As advertised by its proponents.

2. Abolishing the Fed will not recreate the historic gold standard. That system is probably gone forever, like the Holy Roman Empire.

A fixed monetary base, gold and bitcoin all share the same problem, which makes them unsuitable as a medium of account. In each case the quantity of the medium of account is fixed, or at least highly elastic in the short run, and in each case the value (purchasing power) of the medium of account is likely to be highly volatile.

It is not enough to say that the market will choose a currency that creates price stability. The price of Bitcoin has been extremely volatile, and yet the market has chosen Bitcoin over other cryptocurrencies that have much more stable purchasing power.

Gold market prices have also been extremely volatile in recent decades, much more volatile than in the 1800s. If the US were to adopt the gold standard, it would make the gold standard somewhat less volatile, but still nowhere near stable enough to serve as a medium of account. The US government by itself is not influential enough to have the kind of stability we saw in the gold price in the late 1800s and early 1900s. This would require a level of international cooperation unimaginable today. It would look more like the 1918-33 gold standard—in other words, a mess.

Additionally, if the change occurs to something close to the current market price of gold, long-term inflation expectations will drop from 2% to almost zero. This will lead to massive transfer of wealth from borrowers to lenders. In the case of Treasury bonds, we would need tax increases to finance the massive transfer of wealth to T-bond holders. Try selling that idea to voters!

A fixed financial base has the same problem. The value of base money will be affected by changes in nominal interest rates and financial stability. If the nominal interest rate falls to zero and/or if a financial crisis occurs, the demand for principal money will rise, creating hyperinflation. With a fixed base, QE would be impossible during a financial crisis. Conversely, technological innovations that make the financial system more efficient can reduce the demand for capital, creating inflation.

As a practical matter, the amount of money actually held in the United States will decline rapidly over time, as something on the order of $100 billion in currency flows abroad each year, held by people in other countries. So freezing the total monetary base is equivalent to rapidly reducing the money stock remaining in the United States. This may lead to banking crisis.

I think starting from the premise of “we need to get rid of the Fed” is a mistake. Perhaps the best monetary system would not involve the Federal Reserve. But the reasoning process should begin with the search for the best financial system. (And in doing so, don’t assume that other countries will join us in abandoning fiat money.) The second step is to figure out how best to move from here to the system.

Right now we have a tiger on our tail. It’s not enough to say “release the tiger”, you need a plan for what to do next

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