Redistribution a solution to inherent unfairness of fiat monetary system?

[Pianist4Freedom]

Ever since I heard about Ron Paul I've been reading a lot about his ideas and thinking very carefully about them, particularly on the topic of monetary policy.

I understand very clearly he is for returning to a gold standard, and does not support redistribution of wealth of ANY kind.

However, if it does prove to be infeasible to return to a gold standard, wouldn't redistribution of wealth be a practical solution to an unfair fiat monetary system? Some would say, but then you are taxing the wealth creators. But in my opinion, all people have the potential to create wealth, and I think small, energetic startups are often much better innovators than monolithic mega corporations. Therefore, if we remove tax burdens from the middle class and give them and small businesses tax credits, this will help redistribute the unfairly accumulated wealth that the privileged few amass via the unfair inflation tax.

What brought this thinking on is me playing devil's advocate to the political views I've held my whole life: namely that wealth redistribution is always bad, because to help poor people the most you really need to create more wealth. However, if that created wealth actually becomes less and less attainable by the poor and middle class, helping the wealth creators by not taxing them isn't going to help a society living with an unfair inflation tax. Therefore it seems almost obvious to me we should redistribute it (unless of course there really is some way to return to a gold standard, which I doubt).

Have I gone wrong somewhere...?

 

[JSutter]

Who would be in charge of the redistribution? I don't trust the government to play Robin Hood.

 

[forsmant]

I'm for redistribution as long as you redistribute it to me.

Ron Paul is for legalization of monetary competition. That does not mean a gold standard. People will choose gold because it has historically been the best.

Fiat money is a redistribution of wealth system. Whoever gets the inflated dollars first has gets more value for their money. The banks get that money first.

General Electric doesn't invent anything and Microsoft hasn't innovated for years. Small business doesn't need tax credits, they need to be not taxed at all. There should be deregulation of all industries to promote competition. Licensing laws, minimum wages, and insurance premiums are just as large a speed bump to small businesses as taxes.

 

[Mini-Me]

Pianist, let me ask you to clarify:
Are you suggesting that we keep the federal reserve and the inflationary fiat money system, but then redistribute wealth? That's what we're already doing

I think you are going wrong somewhere, though - I think you've fallen into the trap of assuming that our wealth gap is inherent to a free market economy, when in fact, it is not. Our wealth gap is entirely caused both directly and indirectly by government interference and meddling.

I'll borrow a bunch of text from a post I made last night (editing out the irrelevant points):
Our government's heavy-handed involvement in our economy (corporate welfare and subsidies, outrageous taxes and wasteful spending, the inflation tax, and regulations) destroys free-market competition and simultaneously keeps our economy much smaller than it needs to be to support our population. Leaving the precise how's and why's to another discussion, this ultimately results in a surplus of workers vying for a shortage of jobs at an unnaturally small number of competing companies (which follow an unnatural pattern of consolidation - as you said so yourself, smaller companies often have a competitive advantage when they're on an even playing field!). In terms of both consumers and workers, this means that supply and demand is working well in the favor of existing corporations [, resulting] in [low] wages and benefits for all but the "cream of the crop" who benefit from this. Of course, even many of them will eventually suffer the consequences as well, because the wealth gap (caused by government meddling) is self-reinforcing and eventually results in lower and lower consumption and savings overall (because the economy begins to shrink at an accelerating rate, since people start being able to afford less and less). The governments' practices (like excess taxation and monetary inflation) are quite effective at destroying the middle class all by themselves, but the indirect consequence of an artificially small and uncompetitive economy (uncompetitive for large corporations, at least) is even more disastrous.

A few weeks ago I started working on an essay explaining the "why and how" of this in more detail, but I'm nowhere near done yet, and it's on another computer In other words, at the moment, I cannot prove to you my assertion that our wealth gap is an unnatural result of government involvement, but...if it's any consolation, I've gathered that libertarians (who tend to be the most well-read on economics, especially alternative schools to Keynesian economics) are pretty much at a consensus about it.

Anyway...the inflation tax is just one crucial part of this, but it's actually the most sinister of all because of how much it can be abused at the whim of the banking elites. What you need to understand is this quote right here:

Banking was conceived in iniquity and born in sin. Bankers own the earth; take it away from them but leave them with the power to create credit; and, with a flick of a pen, they will create enough money to buy it back again. Take this power away from them and all great fortunes like mine will disappear, and they ought to disappear, for then this world would be a happier and better world to live in. But if you want to be slaves of bankers and pay the cost of your own slavery, then let the bankers control money and control credit.
- Sir Josiah Stamp, Director, Bank of England, c. 1940​

In other words, if we ever want to have a truly thriving, fair, and just economy, getting rid of the Federal Reserve is not optional - it's mandatory. We can't "work around" them. Furthermore, regardless of whether elites are elected or unelected, allowing anyone to have unrestricted control the supply of fiat money is a recipe for disaster. We need to face the fact that giving anyone the power to create money out of thin air results in an inherent and terrifying conflict of interests. Even if fiat money were to be issued directly by the Treasury, Congress would still see it as a blank check to spend, spend, spend (without directly taxing, which would be blatant and therefore political suicide). If absolute Constitutional fidelity were restored to government, maybe we could trust an amendment that allowed for fiat money (but not unrestricted creation of credit) given certain precautions, but...if absolute Constitutional fidelity were restored to government, we'd be back to a gold and silver standard anyway.

So, in short - returning to commodity-based money that cannot be reproduced at will is not "impractical" - it's a practical necessity. This can be done via a gold standard, a platinum standard, competing private currencies, or whatever, but if we are to prevent our wealth from being perpetually stolen by bankers, it absolutely must be done. Although you mention that Ron Paul is "very clearly for a return to a gold standard," he actually is not. He spends a lot of time talking about the benefits of a gold standard, but his personal preference is for freely competing currencies.

However, although Paul's "favorite" idea is competing commodity currencies, returning to a gold standard is actually pretty feasible in itself. Why is it that you think it's impractical? If you elaborate on your specific concerns, I'll hopefully be able to address them (if I remember to check back on this thread...I have like 202 tabs open ).

 

[Mini-Me]

I'm for redistribution as long as you redistribute it to me.

Ron Paul is for legalization of monetary competition. That does not mean a gold standard. People will choose gold because it has historically been the best.

Fiat money is a redistribution of wealth system. Whoever gets the inflated dollars first has gets more value for their money. The banks get that money first.

General Electric doesn't invent anything and Microsoft hasn't innovated for years. Small business doesn't need tax credits, they need to be not taxed at all. There should be deregulation of all industries to promote competition. Licensing laws, minimum wages, and insurance premiums are just as large a speed bump to small businesses as taxes.

This is a bit irrelevant to the original post, but I'd like to register agreement with most of your post and some disagreement about minimum wage:
Minimum wage is a crutch that we use to compensate for the fact that market wages are currently much lower than we'd like them to be. This is because the demand for jobs (particularly low-skilled ones) greatly exceeds the supply. Therefore, supply and demand is greatly in favor of the companies offering the jobs, rather than coming to a natural equilibrium in which everyone benefits (red flag of government meddling ). Purely market-driven wages would therefore be pretty damn low under our current situation; minimum wage laws "compensate" for this by forcing a minimum wage, which in reality is essentially forcing companies to price their jobs as if they weren't so scarce and as if they actually had to fiercely compete for workers (all of the red tape and regulations involved in hiring also directly drive down market wages, though - which is why illegals are often paid under the table for higher than the typical wage). Now, the whole reason the demand for jobs exceeds the supply is because our economy is smaller than it needs to be to support the population - which is a result of government interference (overtaxing, over-regulating, the inflation tax, and corporate welfare and subisidies for "government favorites"). If the government got out of the way and we had real free market competition, this wouldn't be the case...however, I personally think that minimum wage is the least damaging regulation in existence, and it should be the last one we dismantle. After all, if we had a stronger economy in the first place, market wages would be higher than the minimum wage anyway (thereby rendering the minimum wage obsolete and unnecessary). In other words, I reject the notion that minimum wage by itself is actually hurting businesses - rather, all of the other government actions are hurting business, and minimum wage is just a "cheap crutch" to compensate for that (essentially, it keeps some of the "hurt" from the rest of the government's interference from being entirely passed onto employees).

 

[jkm1864]

I am for abolishing the income tax but have a 100% death tax if the estate is over 200 million. That right there would cut the CFR and TLC jerks down to size. Also I would get all the rich people with overseas accounts and seize those for trying to evade taxes.

 

[midevilmark]

The whole theory of redistribution is flawed. Let us play make believe for just a moment. There are ten of us on a deserted island, and a static store of value (money) represented by 100 clam shells. We all have a distinct ability to produce some good of service that the others on the island need and want, i.e. one fishes, one gathers coconuts, one gathers fresh water, etc. Now one of the people on the island has thru shrewd trading and innovation gathered 50 of the clam shells, should we take them by force? Should we institute an extremely high rate on his wealth and give it back to the others on the island? And who gets what, who decides?
Wouldn’t we be better served by the idea that Joe the coconut guy who only has 5 clams to name start breeding coconuts that are better than any other anyone has ever had. Now after some time he perfects the world’s best coconut and can charge a premium for this special coconut. Guess who he gets to charge that premium to, the guy with 50 clams who desires the luxury of the world’s best coconut.
Through innovation and the creative exercise of ingenuity, Joe the coconut guy has instituted his very own redistribution of wealth system that one great feature….FREEWILL AND CHOICE OF PARTICIPATION. If you don’t like the price of luxury coconuts, don’t buy! If you are worrying about accumulating wealth, economize, save, accumulate, it’s that simple.

 

[Pianist4Freedom]

The whole theory of redistribution is flawed. Let us play make believe for just a moment. There are ten of us on a deserted island, and a static store of value (money) represented by 100 clam shells. We all have a distinct ability to produce some good of service that the others on the island need and want, i.e. one fishes, one gathers coconuts, one gathers fresh water, etc. Now one of the people on the island has thru shrewd trading and innovation gathered 50 of the clam shells, should we take them by force? Should we institute an extremely high rate on his wealth and give it back to the others on the island? And who gets what, who decides?
Wouldn’t we be better served by the idea that Joe the coconut guy who only has 5 clams to name start breeding coconuts that are better than any other anyone has ever had. Now after some time he perfects the world’s best coconut and can charge a premium for this special coconut. Guess who he gets to charge that premium to, the guy with 50 clams who desires the luxury of the world’s best coconut.
Through innovation and the creative exercise of ingenuity, Joe the coconut guy has instituted his very own redistribution of wealth system that one great feature….FREEWILL AND CHOICE OF PARTICIPATION. If you don’t like the price of luxury coconuts, don’t buy! If you are worrying about accumulating wealth, economize, save, accumulate, it’s that simple.

I can see that it would be simple under a gold standard or under some sort of fixed money supply, but under the present system, which is inherently unfair, simply economizing, saving and accumulating is not enough for people at the bottom of the economic ladder. Thus since it is unfair, it seems to me it would make it more fair to redistribute. I completely understand and agree under a commodity backed monetary system, this would not be necessary. But perhaps under the current one, it is.

I fully realize it is not ideal to redistribute wealth, but if fiat monetary systems are what we are stuck with, they are already redistributing wealth supposedly to the already wealthy---which to me sounds like we OUGHT to redistribute it back to the poor and middle class from which that wealth was gradually confiscated through inflation.

Basically i'm just saying, if ron paul and libertarians in general are correct about the inflation tax, AND UNTIL WE GO BACK TO A COMMODITY BACKED STANDARD, is it MORE fair to redistribute wealth than allow it to gradually accumulate in the hands of the already wealthy? I think it is.... but I'm in total agreement with everyone, if we COULD go back to a commodity backed standard or competing currencies, that fairness would occur on its own without government intervention.

Sorry if my thoughts seem like a cobweb...they are.

 

[Mini-Me]

I can see that it would be simple under a gold standard or under some sort of fixed money supply, but under the present system, which is inherently unfair, simply economizing, saving and accumulating is not enough for people at the bottom of the economic ladder. Thus since it is unfair, it seems to me it would make it more fair to redistribute. I completely understand and agree under a commodity backed monetary system, this would not be necessary. But perhaps under the current one, it is.

I fully realize it is not ideal to redistribute wealth, but if fiat monetary systems are what we are stuck with, they are already redistributing wealth supposedly to the already wealthy---which to me sounds like we OUGHT to redistribute it back to the poor and middle class from which that wealth was gradually confiscated through inflation.

Basically i'm just saying, if ron paul and libertarians in general are correct about the inflation tax, AND UNTIL WE GO BACK TO A COMMODITY BACKED STANDARD, is it MORE fair to redistribute wealth than allow it to gradually accumulate in the hands of the already wealthy? I think it is.... but I'm in total agreement with everyone, if we COULD go back to a commodity backed standard or competing currencies, that fairness would occur on its own without government intervention.

Sorry if my thoughts seem like a cobweb...they are.

Well, let's pretend for a moment that we have to stick with fiat money and the Federal Reserve. In that case, the only way to really redistribute money is by forcefully taking it from bankers and giving handouts to everyone else. There's no "peaceful" way. Why is that? Well...my understanding of our current system is not perfect, so if I'm wrong about something, I'd appreciate if someone corrects me...but as far as my understanding goes, it's because under our system, almost all money in circulation exists solely as debt. Money is created out of thin air by the banks, who loan it to people (or corporations, or the government, etc.)...at interest. That means, for every dollar held by anyone in the world other than bankers, someone somewhere owes a bank that dollar...plus interest. In other words, if everyone paid off all of their debts, banks and bankers would hold every US dollar in existence, and in fact, they'd still be owed interest (meaning everyone didn't really pay off their debts in full)! The only way to keep this system afloat is for banks to continually loan out more money (by creating it out of thin air). By inserting new money in the economy, the banks are making it possible for people (as a collective) to pay off all previous debt, but only by saddling them with even larger new debt. The only dollars that do not exist as debt are those that have already been paid back to the bankers...but to facilitate that process and bring those dollars "full circle" as such, an ever-increasing pool of new debt-money must be created. As a population, we're perpetually paying off our current debts by borrowing new money. We the people lose wealth with every dollar printed, but even worse, we as a population are collectively given only one option: Borrow more money to pay back borrowed money, and enslave ourselves in a cycle of ever-increasing eternal debt.

On an individual level, some people can obviously beat this out and stay in the black, but by definition, the population as a whole (bankers notwithstanding) will always be in the red. It's bad enough that individual people's savings are redistributed to new borrowers every time money is created, but it should really piss you off when you realize that as a population, we are inherently and inevitably not only poor, but permanently in debt. At the top of the food chain, the bankers are just rolling in the dough, since we're paying every single dollar back - with interest - and they keep creating new money out of thin air for us to pay them back at interest with. There are two possible outcomes for this...both of them are evil, and the actual situation is really a mix of both absolutes:

• One outcome of this system is that a significant percentage of the population is always going to be in poverty - always, and without fail. Because of the way our system works, for every rich person, there is a poor person - and for every very rich person, there are a lot of poor people. No matter how much wealth society produces, the monetary system prevents us from ever being able to eliminate poverty and exist as a truly free and prosperous society.
• It's also possible for our system to consist fully of people "not in poverty," but everything they have, they must ultimately pay back to the banks. In order to do this, they must continually borrow money and work their asses off, always on the move to pay off their eternal debt, with no end in sight. Unless someone in society is poor enough to compensate (which of course does happen - a lot), nobody except the bankers can take a rest and enjoy the fruits of their labor (and neither can the bankers, since they perform no labor...). It's inherent to the system: If any one person is debt-free and able to enjoy their life, it's at the expense of someone else (but not the fault of the debt-free person - it's the fault of the system and the people in charge of it).

So, as you can see, we really only have three options:

• Live as debtor slaves to our banking masters and allow our socioeconomic inequalities to continue. (We could also ask the banks nicely to give us handouts from the vast piles of money they don't deserve to have, but I doubt they'd...what was it..."acquiesce to our request.")
• Use the government to force the bankers to give up their massive accumulated wealth and redistribute it to us fairly. While I usually frown upon the use of government coercion, I think this could be considered "sweet, sweet justice!" In other words, to answer your question, yes, I think it's "more fair" - but I'm biased. However, as Sir Josiah Stamp said, "the bankers own the earth," and they would never allow us to take it from them without a fight...and even if we did, "take it away from them but leave them with the power to create credit; and, with a flick of a pen, they will create enough money to buy it back again."
• At the very least, eliminate the Federal Reserve and restore the power to create fiat money to the Treasury (and really, there still is no Constitutional basis for creating fiat money anyway). Better yet, return to solid commodity-backed money or allow competing currencies. This third option would require an approximately equal amount of effort to the previous one, but it's unique in that it would actually fix the problem. It would also help to eliminate the FDIC as well (to prevent irresponsible fractional reserve banks from being bailed out) or even make fractional reserve banking illegal (after all, what right do banks have to loan out money they do not actually possess?).

Of course, I could be full of crap, and it's quite possible that I simply have an incomplete (and highly flawed) understanding of the Federal Reserve system. I could be missing something, so I kind of hope AceNZ comes to this thread and either backs me up or straightens me out (edit: scratch that, I just PM'ed him, so hopefully we'll get his input).

Still, here's an interesting quote from Alan Greenspan. He's a bit of a flip-flopper...generally speaking, he sometimes manages to say the right things when he's not in power, but he says and does the wrong things when he is in power. Anyway:

An almost hysterical antagonism toward the gold standard is one issue which unites statists of all persuasions. They seem to sense - perhaps more clearly and subtly than many consistent defenders of laissez-faire - that gold and economic freedom are inseparable, that the gold standard is an instrument of laissez-faire and that each implies and requires the other.
- Gold and Economic Freedom, by Alan Greenspan, 1966.​

 

[MoneyWhereMyMouthIs2]

Who would be in charge of the redistribution? I don't trust the government to play Robin Hood.

No kidding. If you look under the surface, their redistribution scheme seems to go from the poor to the rich.

 

[BigRedBrent]

(unless of course there really is some way to return to a gold standard, which I doubt).

If we don't get away from our current monetary policy we are doomed anyway.
http://www.ronpaulforums.com/showthread.php?p=1228697

 

[AceNZ]

I could be missing something, so I kind of hope AceNZ comes to this thread and either backs me up or straightens me out (edit: scratch that, I just PM'ed him, so hopefully we'll get his input).

Your description is partly right. I don't have the energy to write up a detailed response at the moment, but here are a few things to consider:

First, you're right that all money is created as debt. If everyone paid off all of their debts, including the government, there would be no more money.

However, the fractional reserve banking system is a bigger problem than the Fed by itself. Banks hold most of the debt, and therefore create most of the money (when you take out a loan from a bank, the loan is funded by the creation of new money). Eliminating the Fed while keeping fractional reserve banking and allowing the Treasury to create fiat money wouldn't fix anything.

Only about 7% of the national debt is held by the Fed. The rest is held by the public, pension funds, banks and foreign investors. Also, remember that any interest paid to the Fed is rebated to the treasury at the end of the year.

Banks don't hold onto all of the money they receive in interest -- it is spent into the economy, so any attempt to confiscate or redistribute the money they receive wouldn't work.

Bank reserves decline when someone defaults on a loan. Because banks are highly leveraged through fractional reserves, even a small number of defaults can be very damaging. As a result, the net effect of the whole subprime fiasco actually already was a redistribution of wealth from banks to the poor -- and it just made things worse.

The source of wealth is production. Any plan that doesn't acknowledge that fact is doomed to fail. You can't steal from productive companies or people (even very wealthy ones) and give to the poor if you want your economy to survive and prosper.

What the OP suggested is basically central economic planning. Any system where planners try to second-guess the free market just won't work. The right answer is to fix the system, not to try to patch it up by applying more of the same kind of faulty economic logic. If you want to return justice to the banking system and help the poor, then ban fractional reserve banking, go back to a gold standard, and let an unfettered free market work its magic.

 

[Pianist4Freedom]

Whenever I try to understand how banking works, I try to think about how different systems would work if they were introduced into an economy which previously had no money. In other words, how do you introduce money into an economy based purely on barter?

If you introduce fiat money, you'd basically have someone offer to make trade more efficient by issuing promissory notes (and the unit of value may be based on the current exchange rates of barter, perhaps for some service that can be created indefinitely such as a haircut perhaps). Since you are just introducing the money to the society, interest may have to be paid off initially with real created wealth, either goods or services, which may become the property of the bank as the loans are paid off. The bank deserves to collect that wealth because it has taken a risk on the entrepreneurs in the society to help make their trade more efficient--they are providing the objective value of risk and efficiency. So the bank becomes fat and happy and everyone else can trade efficiently. Some people undoubtedly become bankrupt because of unwise lending/borrowing...this happens under any system.

If you introduce commodity backed money such as gold, then the goldsmiths can buy anything they want just by mining the gold (and once they've bought things from the economy everyone else can start to trade their gold pieces, making trade more efficient). Of course they are restrained by the amount of gold they can mine, but still they haven't really created anything new, they just pulled some metal out of the ground. That seems almost as mundane and un-worthy of wealth acquisition as writing a number in someone's bank account, doesn't it? I guess the difference is the gold smith doesn't have to charge interest to actually acquire any real created wealth.

The bottom line is, as many of the Randian objectivists have correctly pointed out in this thread, is that wealth creation is infinite. That is, people who know how to create computers, who know how to bag groceries, are all creating wealth (of varying amounts of value) when they do what they do. Money is only a means by which to trade created wealth. When mistakes are made, debt forgiveness and bankruptcy occurs. That doesn't really seem all that pernicious to me.

All the doom and gloomers who say that our debt-based system is going to lead to certain death seem to assert that debt forgiveness never occurs, and seem to imply that bankers are these awful evil people that don't provide anything of real value to society...I disagree. They provide the efficiency of trade with promissory notes, and they provide risk to budding entrepreneurs. That seems like an objective kind of value/service that can be provided...something I would expect randian objectivists to think was a good thing!

Maybe I've still gone wrong somewhere.... ?

 

[Mini-Me]

Your description is partly right. I don't have the energy to write up a detailed response at the moment, but here are a few things to consider:

First, you're right that all money is created as debt. If everyone paid off all of their debts, including the government, there would be no more money.

<snip>

Banks don't hold onto all of the money they receive in interest -- it is spent into the economy, so any attempt to confiscate or redistribute the money they receive wouldn't work.

Bank reserves decline when someone defaults on a loan. Because banks are highly leveraged through fractional reserves, even a small number of defaults can be very damaging. <snip>

These statements combined lead me to believe I was quite mistaken on a very important point (really the crux of my whole post), and it raises an important question...

In full reserve banking, banks loan out money which they hold in reserve, and then they're paid back principal and interest. The principal merely reimburses them for the money they loaned out, and the interest is what makes them money.

In fractional reserve banking, banks create credit out of thin air when they lend it, correct? The amount they are permitted to create is based on the amount they hold in reserve, but nevertheless, they are still "magically" creating the principal from nothing. Fast forward - when the borrower pays the bank back, the bank makes money off interest as usual, but what happens to the principal? As far as commercial banks go, it simply disappears and ceases to exist, correct? However, the steady inflation of our monetary supply indicates to me that someone must be creating money (whether physical bills or mere credit) without destroying it once the principal is returned. Otherwise, we would not have steady inflation. That led me to conclude one of the following must be true, and in my argument, I assumed it was the first and then totally ran with it to a pretty "doom and gloom" conclusion (since I have heard the second contradicted by many who have asserted that all money is debt, including yourself):
Either the Federal Reserve / central bank keeps the principal returned to them instead of vanishing it, or new physical money is in fact introduced into the economy by a means other than debt...or I'm missing something extremely important, which seems to be the case...?

 

[Pianist4Freedom]

So someone answer me this question: Under a gold standard, you would have a fixed supply of money (or a very gradually increasing supply). If banks charge interest on loans even with full reserves...this implies extra money is going to come from somewhere. Where does it come from under a gold standard? It seems to me it is just the same situation, only we're using gold instead of promissory notes.

Also...we keep harping on this "out of thin air" idea. How is it out of thin air? Say someone comes up with a new business, a new product or service, but they don't have any money. Say they take out a loan, then charge for their product or service, pay off the loan, and make a profit. Because of that complete cycle, the money they were loaned is not out of thin air---it quite literally represents the new product or service they invented! the interest that was paid represents the risk the bank took on that entrepreneur, so that money represents value also. I really don't get the "out of thin air" idea. When someone invented the computer, was that out of thin air? No...it was an idea. It took effort and ingenuity to come up with. To represent that idea directly with promissory notes isn't out of thin air I don't think.

 

[Mini-Me]

So someone answer me this question: Under a gold standard, you would have a fixed supply of money (or a very gradually increasing supply). If banks charge interest on loans even with full reserves...this implies extra money is going to come from somewhere. Where does it come from under a gold standard? It seems to me it is just the same situation, only we're using gold instead of promissory notes.

Although I seem to have been incorrect as to the exact source of permanent monetary inflation (and hopefully AceNZ will clue me in on the "missing link"), I think I can still be of help here (but man, do I feel like an idiot for not being able to figure out the cause of permanent monetary inflation!):

It seems to me that you're under the impression that when banks are paid interest on loans, the money disappears into a black hole, and new money must be created to compensate for that fact so that money doesn't disappear from circulation and end up in the hands of the banks forever. Am I correct in assuming this is your concern? If so, the answer is simple: That money doesn't disappear into a black hole. If we ignore fractional reserve banking and temporary money creation for a moment, at the most basic level, commercial banks are not really any different than any other service-oriented company: They perform a service for customers (by loaning money), and they expect to turn a profit (which they receive through interest). However, that interest doesn't just disappear from the economy - just like when any other company makes money, it's invested, paid out as dividends, or whatever. It doesn't disappear forever, and so there's no need for new money to be created to compensate. (Even if banks did sit on their profits forever, the theoretical result would be price deflation, because assuming all other things are equal, the verall supply of money currently in circulation would be lower. In practice, price stickiness might get in the way of deflation, but that's another conversation altogether). In other words, there's never any real economic need for permanent monetary expansion (although new Keynesian economics based on monetarist policies does advocate cycles of credit expansion in the face of recession and unemployment and contraction in the face of inflation). However, overall production and wealth creation does tend to increase as time goes on (barring recessions, depressions, etc.). If the money supply stays constant, this should lead to a general (slow) trend of price deflation since each dollar is now worth more. If a small amount of money is added into circulation annually, prices will stay the same, and the value of each dollar will stay the same, but there will be more dollars in the economy to compensate for the newly created wealth (production). This can be done either through money expansion through fiat, or, in the case of the gold standard, I've read that coincidentally, the rate at which new gold is mined roughly corresponds to the general rate of economic growth.

The primary difference of having a true gold standard or other commodity-based money and full reserve banking is that when a real, physical, scarce commodity is used as money, nobody can arbitrarily increase the money supply and create inflation. When nothing but "full faith and credit" backs paper money and the paper itself is used as "real money," whoever prints it will have the ability to print any arbitrary amount. I'm obviously confused as to the direct cause of permanent new money and permanent inflation (temporary inflation is caused by commercial banks creating credit and loaning out money, but that money vanishes when it is returned - so what about permanent inflationary trends?), but anyway...
When new permanent money is created, no new wealth is created. Rather, the economy still has the same amount of wealth, but there are now more dollars - hence, every dollar is now worth less than it was before, since the buying power behind the dollars has been split into more pieces. As such, the creation of new money results in a transfer of wealth from everyone who owns dollars (which become worth less as the new money begins to circulate) to the recipients of the newly printed money. Of course, the recipients of the new money get an additional bonus in that they're the first ones to use the money. Since the money has not yet circulated through the economy, the market does not yet realize that the dollar has lost purchasing power, so prices themselves have not inflated yet. As time goes on and more money is permanently introduced, people holding dollars in savings get shafted, since those dollars become worth less each and every day. The gold standard protects against this by preventing money from being arbitrarily created. Paul also talks about how fiat money and fractional reserve banking cause our boom/bust business cycle, and that the gold standard and full reserve banking would protect us from that. I don't have sound knowledge of how or why, but my best guess is because the temporary inflation (cycles of credit expansion and contraction, I imagine?) involved with fractional reserve banking cannot occur under such a system.

Also...we keep harping on this "out of thin air" idea. How is it out of thin air? Say someone comes up with a new business, a new product or service, but they don't have any money. Say they take out a loan, then charge for their product or service, pay off the loan, and make a profit. Because of that complete cycle, the money they were loaned is not out of thin air---it quite literally represents the new product or service they invented! the interest that was paid represents the risk the bank took on that entrepreneur, so that money represents value also. I really don't get the "out of thin air" idea. When someone invented the computer, was that out of thin air? No...it was an idea. It took effort and ingenuity to come up with. To represent that idea directly with promissory notes isn't out of thin air I don't think.

Under fractional reserve banking, commercial banks loan out more money than they actually possess in deposits (in fact, they loan out nine times as much) - as such, they temporarily create money out of "thin air" (until it's repaid, whereupon it disappears). The "out of thin air" part merely references the fact that the bank is loaning money it does not actually possess; instead, it is creating it to loan it out. Under full reserve banking and a gold standard, they may loan out only the money they actually possess in deposits. Frankly, they probably only really "deserve" the amount of interest they get under full reserve banking (since they loaned the money more, uhh...honestly), but that's beside the point.

Also, I think you're oversimplifying when you say that loaned money (which under fractional reserve banking is created out of thin air for the purposes of making the loan) quite literally represents the new product or service (especially considering how services don't really create new wealth, at least not to the degree that production does). To give a counterexample of how this might not be the case (new wealth being created equal to the value of the loan), let's say the new business is a Wal-Mart. Wal-Mart typically does not create new jobs or wealth - rather, it destroys its competition and siphons off their employees and customers. In such a scenario, Wal-Mart certainly receives enough money to pay off the loan, but did it really add net wealth to the economy? Well, no. That's why it's really an oversimplification to say that the money created for the purpose of the loan translates dollar for dollar into new permanent wealth for the economy.

 

[AceNZ]

In full reserve banking, banks loan out money which they hold in reserve, and then they're paid back principal and interest. The principal merely reimburses them for the money they loaned out, and the interest is what makes them money.

Correct.

In fractional reserve banking, banks create credit out of thin air when they lend it, correct?

Yes.

The amount they are permitted to create is based on the amount they hold in reserve, but nevertheless, they are still "magically" creating the principal from nothing.

Technically, banks can loan out an amount equal to their "excess reserves".

Fast forward - when the borrower pays the bank back, the bank makes money off interest as usual, but what happens to the principal? As far as commercial banks go, it simply disappears and ceases to exist, correct?

Yes, it disappears. The money is "extinguished" when a loan is either paid back, or when the borrower defaults.

However, the steady inflation of our monetary supply indicates to me that someone must be creating money (whether physical bills or mere credit) without destroying it once the principal is returned. Otherwise, we would not have steady inflation.

Correct.

Either the Federal Reserve / central bank keeps the principal returned to them instead of vanishing it

No. If a bond held by the Fed is paid off, the corresponding money is extinguished.

or new physical money is in fact introduced into the economy by a means other than debt

No. All money is created as debt.

...or I'm missing something extremely important, which seems to be the case...?

Inflation is driven by borrowing, since it's the process of borrowing that creates new money. The government is the "initial" or primary borrower, followed by companies and individuals.

The government doesn't really have any money. When they want to spend, they have to either raise the money from taxes or borrow it from somewhere first -- from either the public, foreign investors or the Fed. Because the government is spending more than they take in with taxes, the national debt is continually increasing. Existing debt is replaced with larger debt. When the full amount that the government wants to borrow can't be obtained from outside sources, the Fed will buy what's left over. The resulting new money adds directly to inflation and also creates new bank reserves, which allows the banks to create more money with new loans, which further adds to inflation.

Another way to think of this is that since loans held by the Fed form the foundation of bank reserves, then if they were fully paid off, then all money in existence would disappear. If the national debt was fully paid off first, banks would be forced to borrow an equivalent amount from the discount window in order to maintain their reserves.

I'm working on a video that describes the process of money creation that you might find helpful. I'll post in this thread when it's ready.

 

[AceNZ]

So someone answer me this question: Under a gold standard, you would have a fixed supply of money (or a very gradually increasing supply).

Yes.

If banks charge interest on loans even with full reserves...this implies extra money is going to come from somewhere. Where does it come from under a gold standard? It seems to me it is just the same situation, only we're using gold instead of promissory notes.

The money supply doesn't have to increase in order for interest to be paid. No "extra money" is needed. Various demands in the economy would compete for a fixed supply of dollars. If debt was in high demand relative to the number of available dollars, then interest rates would be very low.

Also...we keep harping on this "out of thin air" idea. How is it out of thin air?

Money is created as bits in a computer, or as bookkeeping entries. Nothing is required to back the money first -- hence "out of thin air".

Say someone comes up with a new business, a new product or service, but they don't have any money. Say they take out a loan, then charge for their product or service, pay off the loan, and make a profit. Because of that complete cycle, the money they were loaned is not out of thin air---it quite literally represents the new product or service they invented! the interest that was paid represents the risk the bank took on that entrepreneur, so that money represents value also. I really don't get the "out of thin air" idea. When someone invented the computer, was that out of thin air? No...it was an idea. It took effort and ingenuity to come up with. To represent that idea directly with promissory notes isn't out of thin air I don't think.

But an idea or a product or service is not required to create money. You could say that the money becomes "backed" by those things once they come into existence, but that happens after the money is created, if at all.

 

[Mini-Me]

Correct.

<snip>
No. If a bond held by the Fed is paid off, the corresponding money is extinguished.

No. All money is created as debt.

Inflation is driven by borrowing, since it's the process of borrowing that creates new money. The government is the "initial" or primary borrower, followed by companies and individuals.

The government doesn't really have any money. When they want to spend, they have to either raise the money from taxes or borrow it from somewhere first -- from either the public, foreign investors or the Fed. Because the government is spending more than they take in with taxes, the national debt is continually increasing. Existing debt is replaced with larger debt. When the full amount that the government wants to borrow can't be obtained from outside sources, the Fed will buy what's left over. The resulting new money adds directly to inflation and also creates new bank reserves, which allows the banks to create more money with new loans, which further adds to inflation.

Another way to think of this is that since loans held by the Fed form the foundation of bank reserves, then if they were fully paid off, then all money in existence would disappear. If the national debt was fully paid off first, banks would be forced to borrow an equivalent amount from the discount window in order to maintain their reserves.

I'm working on a video that describes the process of money creation that you might find helpful. I'll post in this thread when it's ready.

Oh...my...God...
How could I have missed that?
I was thinking, "Okay...so, loans create money, but eventually that loan either defaults or the money is paid back, so permanent inflation shouldn't happen that way, unless we have some weird 250 year loans I don't know about." Somewhere along the line, it completely slipped my mind that the government continues to pay off debt with more debt, so rather than being paid off, it only increases (a point I did understand when I made my post to Pianist...). Inflation rises because the national debt rises. In other words, my third post in this thread was correct about the horrible effect our system has on the populace, but it was incorrect in the assumption that the central bankers are sitting on a giant pile of money because of it (and therefore also incorrect in the wry statement that it would be poetic justice to take that money back ). Commercial banks (but apparently not the central bank) do indeed profit off of this system more than under a gold standard and full reserve banking (since every dollar is held as debt), but only because of interest payments, not principal. Correct?
Man, I clearly need to get more sleep. Thanks

In contrast with our current system, I've always been under the assumption that all money would not be debt under a gold standard and full reserve banking, and the people as a whole would be in the black (hence, money would represent wealth rather than debt). In other words, under a gold standard with full reserve banking (and loans financed by real deposits), the people would not be forever, collectively, in debt to banks, who are forever, collectively, in debt to the central bank, as is the case under our current system. Is this the case? I'm thinking yes, because if all money was still held as debt to a bank, then we would need extra money to pay interest. In fact, I wonder if this might have been the basis for Pianist4Freedom's own question!

 

[Pianist4Freedom]

Also, I think you're oversimplifying when you say that loaned money (which under fractional reserve banking is created out of thin air for the purposes of making the loan) quite literally represents the new product or service (especially considering how services don't really create new wealth, at least not to the degree that production does). To give a counterexample of how this might not be the case (new wealth being created equal to the value of the loan), let's say the new business is a Wal-Mart. Wal-Mart typically does not create new jobs or wealth - rather, it destroys its competition and siphons off their employees and customers. In such a scenario, Wal-Mart certainly receives enough money to pay off the loan, but did it really add net wealth to the economy? Well, no. That's why it's really an oversimplification to say that the money created for the purpose of the loan translates dollar for dollar into new permanent wealth for the economy.

I suppose we should discuss what the definition of wealth is. For me, it is simple. It is anything which saves time or effort for people. The best kind of wealth is of course "permanent wealth:" an idea. When someone figures out you can use slimy black muck in the ground to make oil to power a car, they have basically come up with ideas that can revolutionize how the entire world works and make everyone vastly, vastly wealthier(this is where John Galt and his friends come in). This isn't the only kind of wealth creation, however. Just creating a new Wal-Mart store as you pointed out, IS wealth creation, if it turns out that it is 1) more convenient and faster for everyone to buy stuff there 2)everything there is cheaper. If it saves time and money (and money represents effort and ideas of people) then it has created wealth. Therefore, the more wal marts we have, the more wealth we have. The more widgets we have, the more wealth we have. Of course, the IDEA of a car or the IDEA of wal mart is the permanent wealth, but having more of them is ALSO wealth creation (in my opinion).

Perhaps Wal Mart did become unfairly large because of corporate welfare and because of the inflation tax...but if it does make people's lives easier I would say it is in fact creating wealth.