Free For All - The Free Liberal Blog: Liberty Dollars: What's the Big Deal?

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Well, the feds finally raided the Liberty Dollar folks. Frankly, I am surprised it took them so long to get around to it.

This is not to say I agree with the federal government action; I don't. I simply figured that the purpose of the Liberty Dollar was to trigger federal action in order to have a public lawsuit. That's how civil disobedience works. The feds finally fell into the trap.

Unlike many in the freedom movement, I consider the Liberty Dollar to be something of a joke. Why spend $20 for a coin with only $14 worth of silver. That's instant 30% inflation! Federal Reserve notes are a better deal, and they fit in my wallet. At least Liberty Dollars are refused by most merchants – a powerful money-saving factor.

(OK, as collectibles, Liberty Dollars may prove to be a good investment, especially after the federal raid. But as currency, no thanks.)

Some would argue that Liberty Dollars are inflation proof in the long run, that the initial 30% hit will be small compared to fed note inflation over time. However, the U.S. Treasury offers inflation-proof currency for a much lower premium: it's called T-Bills.

Yes, you pay a few percent a year to hold fed notes, but who does so in large quantity anyway? Bank CDs and other instruments usually keep up with inflation. And if you really want to short the dollar, don't buy gold, buy land! Compare land prices since 1980 with gold prices since 1980. And you get to use the land while you wait for it to appreciate.

Liberty dollars are a joke. Both the gold bugs and the feds take them way too seriously. And the reason they take them too seriously is that they don't understand fed notes.

Federal Reserve notes are not backed up by faith or by legal tender laws. The feds have nothing to fear from Liberty Dollars, and U.S. citizens need not worry about fed notes losing their value overnight due to loss of faith. Fort Knox could vanish and the fed could issue new bills with pictures of Bozo the Clown, David Duke and Hillary Clinton and people would still accept them as currency.

The reason? Federal Reserve notes have intrinsic value. They are backed up the same way the corporate bonds and stock certificates are backed up. Crack open a textbook on banking. Close to 90% of money creation is by privates banks, and the practice precedes the existence of the Fed. Federal Reserve notes are backed up by trillions of dollars of real estate, factories, and consumer durables.

If you have a mortgage, you need fed notes to keep your house. If you have a car loan you need fed notes to keep your car. If you lease office space with a contract measured in dollars, you need dollars to keep your office. No faith needed. Federal Reserve notes are backed up by debt.

Yes, there are problems with fed notes. The fed can dilute their value through open market operations. (The same holds for stocks and bonds. Corporations can dilute their values with new issues.) And debt based money has inherent instabilities. I'd like to see an equity based currency myself, though it should be backed up by more than gold.

But let us not overestimate the problems with fed notes. The result is misplaced efforts, loss of credibility – and run-ins with the FBI.

Comments

Uh, some awfully inaccurate stuff here. Are we suppose to be economically illiterate when we read this crap?!

Fed Note is backed by its universal acceptance in the entire world. The universal acceptance is driven by a combination of the petro-dollar connection, the legal tender legislation, and the strong economy of the United States. If people lose faith in the Fed Note and it is no longer universally accepted, the Fed Note loses its value. There'll be a residual demand as debt needs to be paid off, but then it'll be fairly cheap to pay off those debts with the massive amount of unwanted Fed Notes. It's paper. It has no intrinsic value. (Look at the hyper-inflation of the Weinmar Republic.)

T-Bills (another piece of paper) don't fight inflation perfectly. T-Bills pay an interest rate, but there is no guarantee that inflation will stay below the interest rate of the T-Bill. Also T-Bills are back by the government's promise and ability to tax its people in the future or acquire revenue through other mechanisms. Purchasing a T-Bill is a vote of confidence in future government taxation.

Land (finally a good hard asset idea) has higher demand when capital is cheaper i.e. during periods of low interest rates. If interest rates rocket to 1980 levels, those land prices will come back down.

All the other stuff you mentioned, stocks, corporate bonds, and commercial paper, are all paper assets. They're back by a promise. Loss of faith in the promise will cause the paper assets to lose value. Look at what happened to mortgaged-backed CDOs.

Posted by: TanGeng | November 20, 2007 08:50 PM

I have a question. If you bought huge bars of silver at spot, shipped them to a mint, then melted them down and minted one ounce medallions from them, how much would the materials and the minting process come out to?

If you were a merchant, what motivation would you have to introduce silver medallions (I call them "glorified gift certificates") to your customer base if there was not a profit to be made?

Finally, is there a particular reason you felt the need to refer to something you do not understand, but a few of your associates have some admiration of, as "a joke?"

Posted by: Tarvok | November 20, 2007 10:41 PM

Tarvok has already explained the cost involved in making the coins and I would also like to point out something that I find interesting about people complaining about the dollar amounts not being perfectly equal.

They aren't supposed to be. There is no such thing as a dollar that is fixed in a solid state. It's just a word that we use to indicate trading value.

I think Liberty should have used a different word because it's too confusing trying to compare silver dollars to green dollars.

You're going to be even more unimpressed when Liberty Dollar gets back into business because each year, the cost of the medallions is going to go up because the value of the paper is going down. You might have to pay $30 for a medallion with $20 stamped on it.

That's the point of owning them. Next year, a $20 Liberty medallion might be worth $25 or the market could crash and it will be worth $10.

I don't own any Liberty Dollars (never heard of them until the FBI pulled their stunt) and I'm not a gold bug. I just find it interesting that in several articles people complain that two completely different dynamic market commodities don't match up perfectly and think that's not right just because they share the name "dollar".

Posted by: Success Warrior | November 22, 2007 09:29 AM

I do understand quite a bit about the nature of Federal Reserve Notes, money, and hedging against inflation. That's why I consider Liberty Dollars to be a joke.

1. They are not a threat to the existing money system.

2. They are a lousy inflation hedge, unless they become collectables (i.e., fail at mission 1)

The joke is taking them too seriously. As pretty commemorative coins, they're quite nice.

Financiers have T-bills. Unions have COLAs built into their contracts. Citizens have CDs, or mortgages. Inflation hedges are everywhere.

If the government were to set gold as is measure of value, then there would be less economic activity devoted to such hedging, which is a good thing. But done too quickly, we'd see the mother of all short squeezes, pretty much wiping out the middle class financially.

Posted by: Carl Milsted | November 26, 2007 10:02 AM

TanGen calls me economically illiterate. In the process he displays his own economic illiteracy. Message to all gold bugs: try actually reading a textbook on money and banking.

True, any paper instrument, be it fed notes, stocks, bonds, silver certificates, warehouse receipts, etc. are but a claim on the underlying physical assets. Fraud can dilute their respective values.

That said, such instruments are generally backed up by more than faith or legal tender laws. Dollars would still have value even if the Arabs convert to euros, the Chinese demand gold, and George Washington's portrait is replaced with Bill Clinton's.

Those who have mortgages, need dollars to avoid homelessness. The dollars are backed by the mortgaged assets.

Yes, if the Fed goes on an open market buying spree, there will be more fed notes chasing the same intrinsic backing. That threat is indeed ever present.

But the backing still exists!

Message to gold bugs: had you bought gold in early 1980, you would just now be breaking even with keeping fed notes in your mattress. T-bills would have been a much better investment. Land, WAY better.

Had you bought silver at the peak in 1980, you would still have lost 60% of or so of you money vs. fed notes in a matress. T-Bills win yet again.

Posted by: Carl Milsted | November 27, 2007 12:49 PM

Oh, really? Is there really a physical asset I could claim with a Fed Note? I would like to know how to do just that. As far as I can tell, Fed Notes can only be redeemed when someone else agrees to accept them (unless forced to by Legal Tender Laws within the US.)

There's paper assets and then there's paper assets. Stocks and bonds are paper assets backed by contractual obligations or ownership stakes. The Fed Note has nothing. The government issues them but promises nothing for them.

I make a distinction between these two types of paper assets to make the point that the Fed Note is fiat currency and only has value because of its universal acceptance and demand and the expectation that it will be a good storage of value. Rather people think that it will continue to have a similar level of universal acceptance, demand, and supply. Part of this universal acceptance and demand are the Legal Tender Acts, the petro-dollar connection, and the strong economy of the United States.

The expectation of a good storage of value is 'faith.' Rapidly inflating the currency would drastically undermine this 'faith' in the Fed Note because the Fed Note would not be a good storage of value.

All currencies, paper or specie, share this characteristic. If the gold supply were to inflate by 100% year-over-year, people would lose faith in gold as a currency.

Inflating doesn't only cause inflation in proportion to the ratio of increase in the money supply. Rapid inflation risks triggering hyper-inflation when people who use to use the currency as wealth storage sell the currency because it no longer stores wealth and merchants charge a high premium for conducting transactions in the currency. Residual demands in loans and obligations are still in place, but the hyper-inflation will make it cheaper to repay those debts.

The faith, the expectation that money is a good storage of value is vitally important.

And why in the world would you call out the gold bugs in your post? I've never liked gold as a long term investment. Its strong suit is that it has intrinsic value and thus is secure, and during tumultuous financial times, people are willing to pay a huge premium for that security. You keep referencing the prices during 1980. Gold and silver had huge security premiums that year.

You can also compare gold prices between 1971 and 1980 - when Nixon closed the gold window - and its price in 1980. With the $35 per ounce price under the Bretton-Woods fixed exchange, gold was over 20x better than the Fed Note over a short 9 years. The sweet time to own gold is when there is hyperinflation and the security premium goes through the roof.

T-Bills were the sweet spot during the 80's. You could have cashed in on some double digit super secure yields. Stocks and housing have been the super performance of late.

Ha! Carl, read a book about money yourself before you give out bad advice to others.

Posted by: TanGeng | November 29, 2007 04:10 PM

TanGeng: Fed Notes are not backed by "nothing". They are backed by debts. This has been the case from the beginning, when we were still on a gold standard.

Repeal the legal tender laws, teleport Fort Knox to Jupiter, and let the Arabs accept Euros, and Fed Notes will still have intrinsic worth. There are trillions of dollars of real estate and other assets mortgaged in contracts denominated in U.S. dollars.

It would take some truly phenomenal Fed bank activity to liquidate all those debts in a hurry. Yes, it is possible. And yes, the stocks you hold could turn out to be the next Enron.

My argument is not that inflation cannot happen or accelerate. My argument is that privately minted silver coins aren't going to replace Fed notes. Fed notes are good enough for short term value storage (in the wallet), and there are plenty of better inflation hedges long term than silver coins.

You last comment about T-Bills is incorrect. T-*Bonds* hit their sweet spot in the time you mention. T-Bills are short term instruments. No risk, no risk premium.

Posted by: Carl Milsted | November 30, 2007 11:17 AM

Ok, going to keep it simple.

I was talking about T-Bonds. T-Bills still have risk. They are sold at a discount for exposure to inflation.

Fort Knox is entirely irrelevant to a fiat currency. Gold stock does not matter in the least.

Backing for fiat currency boils down to supply and demand. Demand is the willingness of people to accept FRNs for goods and services. Supply is the money stock divided by how long people are willing to hold onto it. The value of the fiat currency is the equilibrium.

Debt requires debtors to acquire FRNs and that increases the willingness of debtors to accept FRNs in trade. More debt means more willingness to accept FRNs. Great.

But people don't accept FRNs solely for the purpose of paying off debt. The Chinese, the Japanese, the Saudis, or a thrifty neighbor don't have much FRN-denominated debt to speak of. If those people stopped accepting FRNs in trade, the demand for FRN would crater and reduce the equilibrium value of FRNs. Debt is only a fraction of the backing.

One the other side of the coin is the willingness to hold onto currency. The key factors are value storage, liquidity, and security.

People avoid wildly fluctuating currencies. They avoid currencies that inflate. They avoid currencies that are difficult to trade. (Land isn't a very liquid asset.) If the Asians stop hoarding dollar, if people in the US start passing FRNs around like hot potatoes, or if people believe that the dollar doesn't hold its value anymore, the supply would skyrocket, and the equilibrium price would crater.

And you wouldn't have to settle all existing debts immediately. The debt would represent a trickle of demand for FRNs. People would accept just enough FRNs as to be able to pay off their debts on payment day. (I referred to this as "residual demand" in my first post.) I merely point out that scenario, it would be rather cheap to pay back debts.

Posted by: TanGeng | December 2, 2007 11:41 AM