People continue to ask me about inflation. Before we can understand inflation, we have to first understand money. Go over to your couch, lift up a cushion, and grab a penny, nickel, dime, quarter, half-dollar, and a dollar bill. Inspect them carefully and set them down in value sequence in front of you. First, let’s understand that if your coins have a date on them after 1965, they are not actually coins, they are tokens. The term “coin” is used for precious metals coins (gold and silver), which have not circulated in this country for nearly fifty years. You will also notice that aside from the penny and nickel, the other coins have grooves on their edges. This grooving is called “reeding”. Reeding has been necessary for over a thousand years, because people and governments alike have conspired to shave or “clip” the coins made of precious metal in order to extract value. Reeding makes it obvious if a coin has been clipped. Back in the days of the Roman Empire, Julius Caesar conspired to inflate his “denarius” coins by clipping the edges of each coin and making new ones with the clippings. People got wise and began refusing clipped coins, or requiring more of them. This practice is actually considered counterfeiting, since the new and old coins are both bogus. Another form of this problem is the mixing of metals in such a way to hide the reduction of precious content. This practice is called debasement. The last 90% silver coin was minted in the US in 1965. By 1969, the half dollar coin was only 40% silver. Today they contain none.
Inflation and Money
The Romans were not dummies. They could see what was happening. The natural response is to hoard the good money and spend the bad money. Today, this is known as Gresham’s law. This is the tendency of debased money to push valuable money out of circulation. This law is named after Sir Thomas Gresham (1519-1579), but it was really just a remake of writing by Copernicus in the 1400′s and was even the subject of a play in the 5th century called, The Frogs, written by Aristophanes. So this currency problem is not new.
Coins, as a store of value, create certain problems. The most glaring problem is weight. This is why the Silver Certificate was invented. This paper money was used to represent silver held in storage. This lasted until the 1960′s when such accountability became restrictive. The silver certificates were replaced with Federal Reserve Notes. When we used to have precious metal coined money, those coins contained three important pieces of information; the weight, the purity of the metal, and the name of the mint. Through the ages certain mints have been preferred over others, due primarily to methods of “striking”, which is the method of shaping or stamping the coin. Centuries ago, silver coins produced at a mint in Czechoslovakia were preferred over all others. This mint was called Joachimthal. Since Joachimthal is quite a mouthful, many people started calling these preferred coins, “Thalers”. Thaler eventually morphed to “dollar”, which is what many governments have called their medium of exchange for hundreds of years.
Gold was used in the US as money and was formalized with the Gold Standard Act of 1900. Inflation is the antidote to a depression. With the onslaught of the Great Depression,implementing inflationary policy required the removal of impediments to inflation. In 1933, President Franklin D. Roosevelt outlawed individual ownership of gold in the US (except for jewelry). In 1944, the US and Great Britain adopted an international fixed exchange system that locked the value of the dollar to an ounce of gold at $35. This was called the Bretton Woods Treaty. This agreement was voided by declaration of President Richard M. Nixon in 1971. Commodity prices and currencies have floated independently since then.
This brings us to the paper money. Pick up your dollar bill, and take a closer look. Look specifically at the small print in the top left hand quadrant, below the “UNITED STATES”. See “THIS NOTE IS LEGAL TENDER FOR ALL DEBTS, PUBLIC AND PRIVATE”. That phrase means that a creditor cannot require more dollars to retire a debt. Remember I said that Romans wised up to coin clipping and would require more coins if they felt they had been tampered with? This opens creditors up to currency debasement risk. However, it does not address the flip side to inflation….spiraling prices. There is no current requirement to freeze prices because inflation is not currently seen as a problem. However, this has been done before. On August 15, 1971, President Nixon imposed a 90-day freeze on wages and prices. Currently, there is no law illegalizing the ownership of foreign currencies or metals, but such laws have been enacted before and would not be all that surprising.
So What’s the Point?
We take for granted that money is worth the value stated on its face. But this is only true if the supply is limited, and the value is unquestioned. We have also easily accepted the subtle shift from real money (silver and gold) to promises decades ago. The continued reeding of our coins is part of the illusion to show that nothing has changed, despite the fact that clipping silver look-alike-coins that are made of nickel and copper is a pointless exercise.
I leave you with this quote from Thomas Jefferson:
“We must not let our rulers load us with perpetual debt. We must make our election between economy and liberty or profusion and servitude. If we run into such debt, as that we must be taxed in our meat and in our drink, in our necessaries and our comforts, in our labors and our amusements, for our calling and our creeds…[we will] have no time to think, no means of calling our mis-managers to account but be glad to obtain subsistence by hiring ourselves to rivet their chains on the necks of our fellow-sufferers… And this is the tendency of all human governments. A departure from principle in one instance becomes a precedent for[ another]… till the bulk of society is reduced to be mere automatons of misery… And the fore-horse of this frightful team is public debt. Taxation follows that, and in its train wretchedness and oppression.”