JP Konig writes as engagingly as ever about whether Bitcoin and central bank fiat currency differ in possessing inherent value, and what underpins their value. He takes Paul Krugman’s side.
Krugman points out, correctly, that governments accept, in fact demand payment of taxes using the currency of its own central bank. The same of course does not apply to Bitcoin or any of the other crypto-currencies. At least not yet. This, he says, is what underpins the value of fiat currency.
In the same vein one might similarly add that the government enacts a law of legal tender. This law provides that a debt settled in fiat currency is settled. If you contract in advance to sell something for £10, you cannot later complain that the debt is not settled if you are given £10, a complaint that you may take to the civil courts to obtain redress if you were to object to receiving instead £10 worth of bananas. As well as demanding £ itself, the government seems to demand we also accept £.
However, I want to take a different position.
I would like to assert that the government’s demand that debts to it [ie taxes owed] be settled in fiat currency are an equilibrium response to the prevailing fact that that fiat currency has value, in the sense that it can be reliably be exchanged for things that the government wants. Or rather, be exchanged for things that the government’s creditors [like civil servants owed salaries] might want [namely goods and services] after the government has tried to settle its debts by palming off the fiat currency it took in in lieu of taxes. It is not an unconditional promise or demand that would prevail in all possible circumstances. In so far as it is presented as one, it has to be considered a bluff. Observationally, a deft policy to help select a monetary equilibrium and a rather prosaic one to help raise a convenient source of finance for government business look the same.
The authorities don’t explain the conditionality of tax demands openly. Tax demands are not accompanied with riders that say ‘if the monetary framework and therefore the value of money were to implode between now and when your tax payments fall due, we may ask for payment in something else’. This is because – I assert – if those riders were inserted, they fear it might unsettle confidence in money and make the highly unlikely implosion of the monetary equilibrium somewhat more likely.
Why is the tax demand/promise not unconditional?
If society turned against money for some reason, right or wrong, the government’s own best interests, whether those coincide with its citizens or not, would ultimately be served by taking what was useful to it in executing its business; it will have civil servants, teachers, doctors and nurses and soldiers to pay. If they want – or rather need – something other than fiat currency, in extremis, to manage their own affairs, they will get it, because if they do not the government will not be able to fulfil its basic obligations to maintain public services and law and order. The analyst piping up about defending the old monetary order will be drowned out by the overwhelming need to pay and feed people.
Indeed, it’s possible to conceive that society turns away from fiat money and towards one of the crypto currencies. Not very likely, given the protocols used to manage their supply, which induce high price volatility, and many other reasons right now. But for the sake of our argument here, if society did turn to crypto currencies to do its record keeping, the government would, eventually, have to give in and accept crypto in lieu of taxes.
Thus, government behaviour here is codetermined with, and not the ultimate determinant of the value of the fiat money it issues. Money is not treated as an asset solely because the government treats it as a liability. It is at the same time true that governments treat money as a liability because others treat it as an asset. Both behaviours emerge from successful management of the fiat supply protocol and the magic of equilibrium selection!
This same debate crops up in discussions of the merits and dangers of helicopter money.
I wrote about this before, but to recap: helicopter money proponents have railed against their adversaries for asserting that since money is a ‘liability’, dropping loads of it on the private sector cannot have a wealth effect, and stores up trouble for the authorities. [Echoing those that argue that helicopter drops of bonds would not be net wealth for those who catch them]. The assertion that money is a liability is sometimes linked to the fact that currently it is accepted as such in lieu of taxes [money deducts from its assets, tax claims, and hence is treated as a liability].
Repeating the argument I made above, I would argue that money may be treated as a liability currently, but only because the authorities know that its creditors will treat it as an asset subsequently. And this is a behaviour that emerges in response to the current monetary framework and how it is operated. Not one that would be expected to obtain regardless, unconditionally. Money may seem like a liability now, but perhaps not in the future, and relevantly perhaps not after several large and unusual doses of helicopter money.