Gyroscopic Investing

"The fact that taxes are paid in dollars gives the dollar its value."

I've heard this and read this statement before many times.  As I understand it, it's also an important postulate in MMT, (although maybe it's only part of the dollar's value in MMT).  I'm not sure I buy it.

"The legal tender laws force all contracts to be repaid in dollars."

I've heard this one before many times, but that's also unconvincing to me.

I think that if the government charged no taxes, and didn't enforce any legal tender laws, the dollar would still have value.  Also, most people would still exchange dollars for goods and services.  I think the major reason that fiat currencies have value is simply that they are a Standard medium of exchange over some geographic area.  It doesn't matter how they got to be a standard... once they become a standard, I think there is a huge amount of "momentum" that keeps them circulating around as the Standard currency.

Before paper money, and before even gold was used as money, societies used other things like shiny rocks, gems, and colorful feathers as money.  They all had value because they were portable, didn't degrade or spoil with time, and were generally accepted in exchange for goods and services.  I think, even in the absence of a government or taxes, the fiat money would still retain its value until something else replaced it as the Standard medium of exchange.

Of course, this doesn't say anything about how MUCH value the currency has... as that's determined by the various measurements of the money supply and money velocity, versus the supply of goods and services, etc.

A thought experiment about taxes as a source of fiat currency value:

What if the US government decided that all 2012 taxes MUST be paid in giant stone coins from Yap Island:

http://en.wikipedia.org/wiki/Rai_stones

In that case, I'm betting that most private debts would still be paid in US dollars.  When tax time came around, you would go to "Rai Stones R Us" and order some stones (at the current market value).  Then, you would load them up on a dump truck and cart them off to the IRS.

I seriously doubt people would be carrying the stones around through the malls and supermarkets of America.

On the other hand, I believe the value of a Rai stone would probably increase due to the increased demand for Rai stones for paying taxes.  But then again, if the government paid its employees in Rai stones, those employees would constantly be redeeming them back for US dollars before they went shopping.  That would put downward pressure on their prices as well.  Maybe their value wouldn't change in the end.

I suppose it's concievable that banks would have "Rai Stone" accounts that you could open.  Then, they'd store the Rai Stone inside the vault, and you could write checks in terms of Rai Stones at the supermarket.  With fractional reserve Rai Stoning, I suppose we could then have a Rai M0 and Rai M1 that are different, etc.

moda0306 wrote: MG and Gumby,

I am more thinking that if there are US dollars sitting in a foreign bank they must be included in the "reserves" of that country, right?

Other than that, though, its interesting to finally see these "foreign accounts" for what they are.

Well, again, there can't be any dollars sitting in a bank in Beijing, China. There's no way the bank in China would be able to comply with the Fed and US banking laws — since US banking laws wouldn't apply within China's own borders. So, it's impossible for dollars to ever live in a bank outside of the US. That doesn't mean that the Bank of China can't open up a branch on 5th Avenue, in New York, and offer US dollar deposits for their customers from that location. They can. But, the bank on 5th Avenue is really an American bank — following US regulations — that happens to be operated by a Chinese parent company.

Countries, such as China, tend to hold a lot of dollars and Treasuries. Those assets are called Forex Reserves:

http://en.wikipedia.org/wiki/List_of_co ... e_reserves

Now, here's what happens when China gets our dollars...

Every month, Apple sends a check to Foxconn, the Chinese manufacturing company. A Chinese representative from Foxconn deposits its monthly check from Apple into its US checking account in San Francisco. Now Foxconn has lots of dollars. But those dollars are absolutely useless to Foxconn, in China. They can't build factories or pay their employees in dollars. So, Foxconn trades those dollars for Chinese Yuan on the open Forex market.

Most of the time the Chinese government is printing off fresh Yuan to complete the exchange of dollars into Yuan — particularly since most Chinese companies want Yuan to run their businesses. So, now the Chinese government is holding all of the dollars that were originally given to Foxconn.

The Chinese government doesn't have a checking account at a commercial bank. Rather, they have a special checking account at the Federal Reserve — as do all foreign countries. And what does the Chinese government do with all those dollars? Warren Mosler explains the operational reality:

And as for the U.S. national debt and all the talk about borrowing from China, MMT recognizes that U.S. Treasury securities are, functionally, nothing more than savings accounts at the Fed, which the Fed in fact happens to call securities accounts. Yes, the trillions of dollars of U.S. national debt is nothing more than that many dollars in savings accounts at the Fed. So when China buys Treasury securities, which we call going into debt to China, all that happens is the dollars they got from selling things to us that went into their checking account at the Fed, get shifted to their savings account at the Fed. And when we pay back China, which happens every month as some of their Treasury securities come due, all the happens is the Fed shifts those dollars (plus interest) from China's savings account back to China's checking account, all on the Fed's books. (note: there are no grandchildren involved in this process!)

So, the important thing to remember is that the dollars never leave US shores.

And if anyone out there doesn't believe all this, you can listen to Harry Browne explain this exact phenomenon on his final radio show:

https://web.archive.org/web/20160324133 ... -11-13.mp3

(Skip to 21 min 40 sec to hear how dollars never leave American shores.)

Edsanville, I think it often gets overlooked just how prevalent credit money was in early history. The state tally stick system used in medieval England as fiat currency was really just the state adopting a much older used of tally sticks for private credit arrangements. Historically, in peacetime, private credit has often prevailed over use of other forms of money.

A clear example of taxation being used to impose the use of state money is the hut tax token system used by colonialist. The colonialists imposed a tax on every home that could only be paid in hut tax tokens and the only way to obtain the tokens was in return for collaborating with the colonists or trading with someone who had.

Thanks, Gumby!

How would somebody deposit $100 US dollars in countries that use the USD as currency then?

I'm not trying to argue with your point in the least, as you probably agree with this, but the dollars may not be leaving US shores, but they are certainly leaving the balance-sheets of U.S. citizens... this is probably why we can (or need to) run larger deficits with a smaller affect on the domestic economy.

moda0306 wrote:How would somebody deposit $100 US dollars in countries that use the USD as currency then?

They get special permission.

In Palau's case, according to the State Department...

The government is stable, with national elections held every 4 years in the executive branch and Congress. Elections are free and fair, and candidates rely heavily on media campaigns, town meetings, and rallies. There are no political parties, and candidates run on their own platforms.

Legislation making Palau an "offshore" financial center was passed by the Senate in 1998. In 2001 Palau passed its first bank regulation and anti-money laundering laws.

Source: http://www.state.gov/r/pa/ei/bgn/1840.htm

...and if you research it a bit, you'll find that there are 16 banks in Palau that are mainly representative offices of United States or Asian banking corporations.

And you can bet that those bank reserves are often held as Treasuries.

Gumby,

You are a currency nerd.... mind if I ask what you do for a job?

Ever think of working in finance, forex, banking, etc?

Edsanville, as stone points out, the experiment you're imagining has already been conducted during the times of Kings and Emperors. You couldn't pay your taxes to the king with a coin that came from a foreign king. You'd be imprisoned. Therefore, the foreign coins were only worth the weight of their metallic content outside of the country's borders. Inevitably, a coin was always worth more than its pure metallic content within a King's own realm.

moda0306 wrote: Gumby,

You are a currency nerd.... mind if I ask what you do for a job?

Ever think of working in finance, forex, banking, etc?

I'm a web designer. Most of what I learned about finance I learned from HB's radio shows. That last show of his was life-changing for me. That's when I realized that debt fear-mongering was mostly political posturing and I revisited MMT after that. It's clear to me now that Browne fully understood the operational realities of the monetary system. He would have agreed with the operational fundamentals of MMT — though, I'm sure he would have disagreed with its theoretical prescriptions.

I'm just really good at targeting information using Google operator commands.

For instance...

http://google.com/search?q=site:moslere ... s+currency

Or..

http://google.com/search?q=site:.gov+Pa ... ing+system

This hut tax system sounds interesting, I'll have to look it up.

Do you know what the natives were using for exchange before the hut tax tokens were introduced?  Was there some kind of punishment introduced for settling debts without using the tokens?

Maybe, if the people have the choice of two or more exchange media that both meet the basic currency needs (portability, non-spoiling, widely accepted), they will choose between them using some imposed requirement else like required tax payment.  But, once something gets momentum, I still think it would grow to dominate the market even without the continuation of the initial impetus, wouldn't it?  How stable is a society that has two or more co-existing, widely used currencies floating around?  The logistics would be annoying I would think.  You'd have to ask stores and restaurants which they prefer or figure out exchange rates constantly.

I think it's like how computer users during the 1980s figured out that it's nice to have a "compatible" computer, so you can run the same program binaries as everyone else.  The IBM PC was that standard, even though it was inferior in many ways to a lot of the other 1980s systems that eventually disappeared.

I guess that's the "momentum" thing I was driving at earlier.

stone wrote: Edsanville, I think it often gets overlooked just how prevalent credit money was in early history. The state tally stick system used in medieval England as fiat currency was really just the state adopting a much older used of tally sticks for private credit arrangements. Historically, in peacetime, private credit has often prevailed over use of other forms of money.

A clear example of taxation being used to impose the use of state money is the hut tax token system used by colonialist. The colonialists imposed a tax on every home that could only be paid in hut tax tokens and the only way to obtain the tokens was in return for collaborating with the colonists or trading with someone who had.

I see your point.

But, what if we assume that the extra value for domestic coins (beyond their metallic content), comes from the fact that they are widely used within that geographical area?

What if one king imprisons anyone who pays taxes with foreign coins, and then his son comes into office and starts to accept any type of foreign coin?  Would the country suddenly become awash in foreign coins circulating around in harmony, or would most people stick to domestic coins?  Would the value of domestic coins drop to the metallic content, simply because taxes could be paid with any type of coin?

Gumby wrote: Edsanville, as stone points out, the experiment you're imagining has already been conducted during the times of Kings and Emperors. You couldn't pay your taxes to the king with a coin that came from a foreign king. You'd be imprisoned. Therefore, the foreign coins were only worth the weight of their metallic content outside of the country's borders. Inevitably, a coin was always worth more than its pure metallic content within a King's realm.

edsanville wrote:What if one king imprisons anyone who pays taxes with foreign coins, and then his son comes into office and starts to accept any type of foreign coin?  Would the country suddenly become awash in foreign coins circulating around in harmony, or would most people stick to domestic coins?  Would the value of domestic coins drop to the metallic content, simply because taxes could be paid with any type of coin?

The next King would have given up all of his power if he had done that. Having the King's own currency allowed him to change the metallic content of the coin. And refusal to accept the king's lighter coins would result in imprisonment (or death). The King would maintain his power by only accepting the coins with his own stamp and tax by the overall weight of those coins used for tax payment.

Please read the following to understand what we're talking about:

http://neweconomicperspectives.blogspot ... coins.html
http://neweconomicperspectives.blogspot ... coins.html

Interesting counter examples come from use of Austrian silver coins in Africa long after the Austrian political system had completely changed and they were no longer legal tender in Austria. They were still worth a lot more than the silver content in African transactions. Also "pieces of eight" were a global currency for centuries (Basically all the time that the Spanish colonial empire was up and running). Chinese merchants knew and trusted coins with a certain Mexican ruler's image on them. Coins like that were specifically minted long after that ruler was dead because China was the dominant global "sink" for the currency. The coins were made in Mexico and Bolivia, circulated around the World and came to rest in the Chinese state hoard.

Gumby wrote: He would have agreed with the operational fundamentals of MMT — though, I'm sure he would have disagreed with its theoretical prescriptions.

I really don't think so.  Browne's views on money came out of the Austrian school, which his book "99% of All You Need to Know About Money" demonstrates pretty clearly.  That is decidedly not a book that supports "MMT" or its concepts, at all.

LW,

Austrians seem to have a fear that we are going to go bankrupt as a nation.

Regardless of his moral attitudes towards government (definitely Austrian), I believe HB understood the machinations that prevented default risk spiral in a fiat currency.

moda0306 wrote: Austrians seem to have a fear that we are going to go bankrupt as a nation.

YMMV but I've not seen talk of "default" per se.  From what I've observed, Austrians tend to talk mostly about the dangers of inflation.  Many Austrians are convinced that the government is going to crank up the printing presses in order to pay its bills.

While Browne seemed to more or less agree with this premise, he didn't fall into the trap of "I know a lot about economics and will therefore be able to make flawless, timely predictions about what will happen when".  That one seems to ensnare Austrians in disproportionate numbers, even though Hayek of all people did a great job of emphasizing how much uncertainty exists in economics.

Austrians don't like central bankers or the concept of central banking.  That can, I think, leave a blind spot where you might miss that in the short term, some central bankers (think the ECB, for example) are working very, very hard to keep inflation tame.  So while the very long-term trends of fiat currencies are without question inflationary, the short- and medium-term trends defy prediction.  Keep it diversified!

Lone Wolf wrote:

Gumby wrote: He would have agreed with the operational fundamentals of MMT — though, I'm sure he would have disagreed with its theoretical prescriptions.

I really don't think so.  Browne's views on money came out of the Austrian school, which his book "99% of All You Need to Know About Money" demonstrates pretty clearly.  That is decidedly not a book that supports "MMT" or its concepts, at all.

You're not listening to what I'm saying. Browne obviously preferred the recommendations of the Austrian School. But, Browne clearly understood the operational realities of a fiat currency (as MMT describes). We know this because Browne understood that there was zero risk to Treasuries. He knew that the reserves to buy Treasuries would always exist in the US banking system — and that the demand would always be there. Browne also understood that the Quantity of Money Theory couldn't predict inflation (as he explained on his radio show). That's all that MMT describes. You don't need to be an MMTer to understand that MMT accurately describes how a fiat currency works.

And in fact, Browne's descriptions of our fiat currency never contradicted MMT — they matched up very well. It doesn't mean he didn't deplore fiat currency as a way to run a country.

No one is saying that Browne didn't prefer a gold buffer-stock policy. He likely believed that a fiat currency gave politicians too much power.

Lone Wolf wrote:Many Austrians are convinced that the government is going to crank up the printing presses in order to pay its bills.

And MMTers just realize the operational reality that proves that the government already does this every day. The government spends the money into existence first and coordinates with banks to use the savings that were created by that spending to buy up Treasuries that are issued later.

Lone Wolf...

When we tell you, "The funds to pay taxes and buy government securities come from government spending," do you not believe that?

It's the equivalent of growing coconuts and planting some of them to grow new coconuts. Or put another way...

The coconuts to eat, harvest, and plant new coconut trees come from coconut trees.

Gumby wrote: We know this because Browne understood that there was zero risk to Treasuries. That's all that MMT describes. You don't need to be an MMTer to understand that MMT accurately describes how a fiat currency works.

Zero credit risk to Treasuries, right.  The Fed has a printing press and the government has the power to tax.  Understanding this doesn't imply that you buy into MMT.

You may want to give "99%" a look and see whether you still think they line up.  You may have a different interpretation of that book's material than I did, which could be interesting.

Gumby wrote: When we tell you, "The funds to pay taxes and buy government securities come from government spending," do you not believe that?

I believe that dollars come from the Federal Reserve and are multiplied through the banking system.

When the Federal Reserve buys mortgage-backed securities, those dollars don't come from government spending.  When money multiplies through the fractional-reserve banking system, those dollars also didn't come from government spending.

Lone Wolf wrote:You may want to give "99%" a look and see whether you still think they line up.  You may have a different interpretation of that book's material than I did, which could be interesting.

Interesting. I'll have to check it out sometime. All I'm saying is that Browne's ideas on his radio shows never contradicted anything about how MMT describes the operational fundamentals of our currency.

Lone Wolf wrote:

Gumby wrote: When we tell you, "The funds to pay taxes and buy government securities come from government spending," do you not believe that?

I believe that dollars come from the Federal Reserve

This tells me that you don't understand where money comes from. The Fed doesn't create new money. The Treasury does. The Fed can only create liabilities — which are offset by the assets taken out of the private sector.

When the Treasury balances its books, the private sector still owns the liabilities (i.e. liquid Treasuries) as part of their private savings. You are no richer or poorer for owning either Treasuries or cash.

The Fed only changes the composition of our currency — trading bonds for cash, or MBS for cash. New net financial assets can only come from the Treasury, via Congress's budget instructions.

Lone Wolf wrote:and are multiplied through the banking system

Not very much at all...

http://www.federalreserve.gov/pubs/feds ... 041pap.pdf

Lone Wolf wrote:And When the Federal Reserve buys mortgage-backed securities, those dollars don't come from government spending.

That's correct. And those mortgage-backed securities then disappear from the private sector. Nobody in the private sector owns them anymore. Therefore, the Fed never adds new net financial assets to the private sector. All they did was change the liquidity of the savings.

Lone Wolf wrote:When money multiplies through the fractional-reserve banking system, those dollars also didn't come from government spending.

The Fed paper I linked to above already explains why money rarely multiplies through the fractional-reserve banking system.

And even if it did, it would be mathematically impossible for people to pay their taxes with money that needs to be paid back to a private bank someday (plus interest). Impossible. In your model, people would be taking out loans to pay their taxes each year.

Therefore...

The funds to pay taxes and buy government securities come from government spending.

Gumby, to be fair to Lone Wolf he didn't (seem to me to) say that the "money multiplier" was an automatic fixed multiple of the base money. We could agree that as more base money is created, less M1 gets produced for a given unit of extra M0 so M1 doesn't get influenced much by increases in M0. That isn't to say that M1 isn't much larger than M0.

stone wrote: Gumby, to be fair to Lone Wolf he didn't (seem to me to) say that the "money multiplier" was an automatic fixed multiple of the base money. We could agree that as more base money is created, less M1 gets produced for a given unit of extra M0 so M1 doesn't get influenced much by increases in M0. That isn't to say that M1 isn't much larger than M0.

Perhaps. But I don't think LW grasps the fact that you couldn't pay taxes with private bank loans. Everyone would eventually default if that happened.

Gumby wrote: Perhaps. But I don't think LW grasps the fact that you couldn't pay taxes with private bank loans. Everyone would eventually default if that happened.

Unless private bank loans grew and grew. I suppose debts die when a person dies. I guess the time must be coming when people with significant negative net worth start dying of old age en mass?

stone wrote:

Gumby wrote: Perhaps. But I don't think LW grasps the fact that you couldn't pay taxes with private bank loans. Everyone would eventually default if that happened.

Unless private bank loans grew and grew. I suppose debts die when a person dies. I guess the time must be coming when people with significant negative net worth start dying of old age en mass?

But each year there would be less base money in the private sector to back private loans with — eventually you wouldn't be able to create enough loans to pay taxes anymore. And god forbid a recession took place, there wouldn't be enough velocity to pay back any loans.

Gumby,

Try to tie this all together for me, because we 95% agree.

Are we actually wealthier for the government issuing base money and giving it "value" via threat of taxation/jail, or are we simply making our real wealth more efficiently transmittable throughout the economy.

It seems to me that despite the fact that I'd look very, very fondly upon $50,000 in a briefcase, that it wouldn't be valuable if it wasn't in some sense stealing value from somwhere else in the economy.  I understand how government can create an efficient medium of exchange via printing/taxation, but how can a government simply engineer net wealth?  It seems to me there's some side of the equation we're not 100% acknowledging here.