Now this 3rd column was intended to be the final instalment in my “Trilogy of Sound Money” series, yet it may continue to grow, and include a chapter in floating exchange rates. It began with the following link on the Gold Standard.

The Gold Standard chapter was followed through to the next logical subject of how Fractional Reserve Banking at the Commercial level prevents the Gold Standard at the following link Fractional Reserve Banking Prevents Gold Standard.

Many people wanted an explanation of the direct connection between central banks, gold, and the interests of commercial banks in regards to how money is printed out of thin air. For those you in search of the most powerful political tool - economic knowledge - you will be pleased to read this new chapter on how Commercial Banks print Fractional Reserve Fiat Money without a Gold Standard.

All Central Banks like the Bank of Canada or the US Federal Reserve decide at some point they are going boost the money supply in times of economic slowdown, economic stagnation, and or financial crisis. The increased money supply happens in the mistaken belief, that they themselves know how to grow or stimulate the economy.

At this very point, when Central Banks delude themselves into believing they hold the mystical keys to boost the economy, commercial banks begin working in conjunction with the Central Bank at counterfeiting the money supply by printing money which is backed by nothing at all, not even a hard currency such as gold.

The Central Banks decides to visit the free-market (or "open market" for those of you who watch economic television programs) and purchases an asset or combination of assets. When the Central Bank purchases an asset, it is writing out a check, which is backed by nothing, not even a hard currency anymore like gold. The asset purchased is one of the following or combination of the following such as corporate stocks, buildings, foreign currency, and government securities.

The Bank of Canada Governor who we will call Kevin Smith for this discussion, along with his directors decide to buy $100.00 of Canadian Treasury bills from some "approved" government bond dealer (a small cartel like group), for the sake of this discussion we will call this bond dealer HalifaxLive which is located in a financial district. The Bank of Canada writes a check for $100.00, which is backed by nothing; the cheque is given to the approved government cartel bond dealer called HalifaxLive for $100.00 in securities.

Where does the Bank of Canada get the $100.00 to pay the cartel like bond dealer? The Central Bank simply prints the money, which is backed by nothing more than faith that those who manage the system have everyone’s best interest at stake, and, somehow know how to achieve it. After all, the historical use of Gold as hard currency has been completely phased out now for some 35 years.

Another worrying aspect of this transaction between central banks and bond dealer is that a price-fixing scenario ends up being created. When the central bank authorizes the purchase of the bond for $100.00, it props up the bond price, which the general public, who may deal in personal finance are then forced to pay for. Furthermore, when bonds purchased consist of stocks in the stock market, it also alters the normal supply and demand of the stock market. All of this allows the state to control prices in the market place deliberately.

Money that you or I have earned through our labor activities, either in the mental or physical form, represents a benefit that works to improve the free-market at all levels. Fiat money which is backed by no hard currency, such as gold, allows someone to exchange little or limited work in exchange for something which would not normally be tolerated under normal market conditions. After all if money is simply printed out of thin air, how stable can the market place be in the long run?

The HalifaxLive Bond Dealer is only allowed to do one thing with the check from the Bank of Canada; it must deposit the cheque in its checking account at a commercial bank.

Once this cheque has been deposited into a commercial bank, the "money supply" of the nation has increased by $100.00, and yet at the very same time no one else's checking account has decreased by $100.00. There has been a net increase of $100.00 in the supply and the dangerous path of inflation has been let loose to reap its damage onto the masses. At this very instant, the commercial bank is able to lend out $100.00 to someone, which it did not have in safe storage at any point to begin with. Combine this dangerous nonsense with the existing practice of fractional reserve banking of existing real money, and you have money simply being printed out of thin air. No logical or rational monetary policy is used to back up the practice, all because nothing is backed by a hard currency such as a gold standard. This current practice allows political intervention into the market place, which is always inexcusable for the sake of pleasing the electorate. Politics trumping sound economic policy, all so that politicians enjoy the fruits of doing nothing, and getting everything in the short term.

When this new money is deposited into a commercial bank from the Central Bank it has also managed to debase the existing money supply, successfully destroying your savings. You are forced to work harder to get back to the point of where you were before the money supply was debased.

This $100 of new “reserves” is then fractioned by a multiplier of 10 and allows the commercial bank to pyramid the “new money” they loan by up to $1000.00. This is how the commercial bank simply prints money out of thin air while also increasing the nation’s money supply by an additional $900.00 on top of the original $100.00, which was printed by the central bank.

Now things really start to get exciting for us economic/accountant types; the $100.00 by the central bank, which was turned into $1000.00 by the commercial bank out of thin air through the Fractional Reserve Process, is “lent out” for business or purchasing requirements that the general public requires. The catch however is that when the money is “lent out”, the borrower must repay the loan plus interest. When the loan is paid back with interest, the interest is fractioned off, by a multiplier of 10. This further increases the nation’s money supply. At some point, the real hard-nosed economic business types, such as myself who wear the red suspenders and pin stripes pick up on this bad or loose money, which has been dumped into the market place. Just before people begin to put the pieces together, politicians say, ‘hey look we “created” new jobs and the unemployment rate is lower then when we took office’. When interest rates are raised to perform a correction in the market place, and reign in a hot market, the tightening of the money supply begins; people find themselves unable to pay back the money, which they would not have normally borrowed under normal free-market conditions and costs.

Conservative/Liberal Keynesian economic theory and Friedmanite monetarism policy is where the current manipulation of the banking industry and hence the money supply has found its unfortunate societal acceptance through the notion of Fractional Reserve Banking and fiat money backed by nothing in hard currency.

This entire idea of Fractional Reserve Banking and Printing money is nothing but a giant pyramid scam similar to how Amway operates. What is even more worrying about this practice is that almost all of my so-called “conservative” or even “free-market” type friends and associates feel this entire devious action is acceptable. Accepting this evil action puts you in the same company as Marx and Keynes. Marx and Keynes as you may recall made it their entire life’s existence to eliminate the Gold Standard while at the same time simultaneously eliminating Properly Backed Reserves at both the Central and Commercial level of banking on top of wiping out private property ownership rights.

Gary Huskins a Nova Scotia conservative author with some libertarian leanings currently shopping his latest novel points out, “allowing statists of whatever political persuasion to run the money supply, is the equivalent to allowing a pedophile to run a day care.”

There is a legitimate alternative to the mess we find ourselves in today, an alternative that could be practiced that completely follows a rational and logical sound money supply. While it may not eliminate, it definitely reduces political intervention into the money supply and hence the market place:
Only one alternative exists to the current fractional reserve and printing press mess we find ourselves in today with so-called “commercial” banks. That alternative would be a decentralized private system of commodity money banks. The bank could not lend out any of its deposits, only the equity in the bank. The practice of issuing receipts, or bank notes, for exactly the amount of commodity on deposit would follow from here on out. For every bank note in circulation, the bank would always have in its possession the commodity to which the note entitles the holder.

The commodity of Gold just happens to be what the market has chosen historically as money, and it has certain valuable properties as money. Gold is divisible, interchangeable, etc. and when combined with 100 per cent backed reserves, the banking industry then has honest money. A Gold Standard represents honest money, being protected by honest practices.

Now, ask yourself this: What stops the government from changing the weight of gold which it will back the currency with?

Answer: Nothing!

This is precisely what governments have done either when their gold reserves got too small, or when they simply wished to alter the money supply indirectly. Gold, for example, in the 1930s, went from $35 an ounce to $42 an ounce. This effectively amounted to a devaluation of the currency on the world markets and a fall in the value of money in relation to gold, or, reinterpreted, a dollar was backed by less gold than it used to be.

So, your precious "gold standard" really isn't all that much different from a fiat money system anyway, since governments these days have simply ended the rigmarole of altering the gold par value to allow the expansion or contraction of the money supply to curb or raise inflation as needed.

Since the Fisher equation, MV = PQ, can be restated as MV = GDP, and in the Keynesian method, MV = C + I + G + (exports - imports), the end result is that since the above represents an equality, increasing the money supply increases national production, and therefore increases either singly or in combination consumption, fixed investment, government spending, and net exports.

(An expansionary monetary policy should be linked with an expansionary fiscal policy to preserve the equality in the above equation but nothing requires this and increasing the money supply can easily be felt in increased capital investment or in consumer spending)

James Surowiecki of the New Yorker on gold:

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Yet gold is valuable only as long as we collectively agree that it is. It may be soft, shiny, durable, and rare, but it has no more intrinsic value than feldspar or quartz. Just because it has a long history of being used as money doesn’t mean that it has a future. In the end, our trust in gold is no different from our trust in a piece of paper with “one dollar” written on it. The value of a currency is, ultimately, what someone will give you for it—whether in food, fuel, assets, or labor. And that’s always and everywhere a subjective decision. Gold or not, we’re always just running on air. You can’t be rich unless everyone else agrees that you’re rich.

Gold investors like to pride themselves on being sober realists. The irony is that buying gold is the purest form of speculation. If you invest in a company, you’re investing in machinery, technology, and people. If you buy steel, you’re investing in something that people need. But if you invest in gold you’re basically betting that someday a greater fool will come along, who thinks gold is worth more than you do. You’re buying into a collective hallucination—exactly what those dot-com investors did in the late nineties. One could say that gold is the biggest, most durable bubble in history. Someday, even this one may pop.

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The idea that he has is that governments and banks will share the responsibility of creating new money. The point of using gold or any other standard for that matter is that it is in theory supposed to limit the money supply and prevent inflation from eating away at the money uncle Jeb keeps in the sock at the end of the bed.

The interesting thing about Hellyer's ideas are they form a somewhat coherent policy toward money supply. He suggests I think that money should only be increased in proportion to economic growth or in unusual circumstances to accomodate the best social policy.

He fairly effectively destroys the argument that printing money causes inflation by pointing out that banks are effectively doing it and have so for about 10 years without any trestarints or government limitations. Bread is not $12.00 a slice.

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Secondly, during the Mulroney years government handed the chartered banks a fantastic recurring gift. They began the gift with deregulation of banks. ("Deregulation" like "privatization" had become the buzz words for the "new and better" way. "Deregulation" like "privatization" is part of the process of "structural adjustments" demanded by the IMF.) Deregulation removed the firewalls between banking, stock markets, and insurance. Deregulation allowed the banks to gamble in derivatives (an aspect of securities instead of the security itself), merchant banking (trading and warehousing in entire companies), underwriting (guaranteeing the distribution of a new issue of stock), stock brokeraging (where many scams and misrepresentation take place), insurance.

With deregulation, banks could now access pools of capital previously unavailable to them. This process gave them inside information, and it created conflicts of interest and unreliable service to clients as a result of banks now wearing many hats. Every small business and farmer has a story to tell about increasing difficulties in accessing loans, and every consumer is familiar with the disappearing branch of its local bank. The banks are no longer interested in providing much service to ordinary people now that they can gamble in the big casino of international finance (except when they get burnt and come back to peddle more credit cards at home).

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Originally posted by speechpoet:
But DrConway, shurely you'll acknowledge the link between, say, posting multiple threads on the same topic and a precipitous decline in the value of each thread.

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I believe that the devaluation extends to the poster himself.