24 Nov 2009
|
History
A History of Money
Jonathan Gregson on how governments have created and used money historically, and the implications involved.
Governments have been printing or minting new money to make good temporary shortfalls ever since precious metals or paper notes guaranteed by them became accepted as a store of value.
MONEY FROM TREES
The Roman Empire, whose rise was hugely assisted by maintaining a sound silver-based currency, eventually sowed the seeds of its own decline by repeatedly reducing the silver content of the denarius from the 2nd century AD onwards, so that by around 260 the coins contained barely five per cent silver.
The main reasons were that bullion was being exported to pay for silks and other luxuries, but still the army needed to be paid. This deliberate policy of devaluation may have provided for immediate expenses, but inflation and economic collapse followed hard on its heels.
Henry VIII of England set in train a similar chain of events by debasing the coinage, thereby creating ‘new money’; but the cost was creeping inflation that, despite Queen Elizabeth’s attempts to revalue the currency, endured until the late 17th century.
If any country had a heaven-sent opportunity to genuinely create new money it was Spain in the 16th century – thanks to the massive influx of gold and silver bullion from the New World.
The very strength of Spain’s metal currency rendered its domestic industries uncompetitive and soon led to price inflation. Most of the precious metal seeped out of the country to purchase foreign luxuries or finance wars in the Low Countries and Italy, and as bullion shipments dried up in the 17th century the Crown resorted to a combination of debasing the coinage and foreign loans. Spain’s ‘Golden Age’ was brief and, having squandered the wealth of The Indies, entered a long period of decline.
The temptation to create money out of nothing was given a huge boost by the development of a paper currency in China early in the 11th century. Marco Polo marvelled at “this paper currency that is circulated in every corner of the Grand Khan’s dominions…nor dares any person – at the peril of his life – refuse to accept it in payment”. The widespread acceptance of paper money stemmed partly from its being backed by reserves of gold and silver, and partly from confidence in the government’s not printing it in excessive quantities. When subsequent emperors did precisely that, the result was successive devaluations and inflation, against which repeated attempts to revalue the currency through fresh paper issues ultimately failed, and by the end of the 15th century China returned to a metal-based currency.
MONEY BURNING
History is littered with desperate regimes, from the French revolutionary governments issuing floods of assignats, to the Confederate States’ bonds backed by cotton that could no longer be exported, but perhaps the most chilling example of how the uncontrolled expansion of money supply has caused economic and social dislocation is the Weimar Republic’s hyper-inflation. By late 1923 some two thousand printing presses across Germany were turning out higher denomination notes, the wholesale price index soared above 700 trillion and housewives burned mark notes in their stoves because it was cheaper than buying firewood.
Folk memories of that economic disaster may explain contemporary Germans’ anxiety over the ‘Anglo-Saxon’ remedies of quantitative easing and government spending to provide economic stimulus. Chancellor Angela Merkel’s extraordinary criticisms of central banks pursuing such policies have only added to her popularity, and German parliamentarians recently voted in a new law requiring a balanced budget in future.
Nor was the destructive potential of flooding an economy with worthless paper lost on the Nazi leadership, who during World War Two set up ‘Operation Bernhard’ using highly skilled Jewish forgers held in Sachsenhausen concentration camp to print counterfeit sterling and US dollar notes in order to undermine confidence in the Allies’ currencies.
The only real prototype model for quantitative easing is Japan between 2001 and 2006, which produced mixed results. After the ‘lost decade’ of the 1990s and the failure of a zero interest policy, the Bank of Japan tried to combat persistent deflation by pouring trillions of yen into the money markets. The aim was to get Japan’s banks lending again. It worked, but they lent to each other or to major corporations rather than to small businesses and consumers. The economy did eventually start growing faster and moderate inflation replaced years of price deflation.
If, historically, the creation of new money from thin air has had such dire consequences, why should today’s experiments with quantitative easing prove to be any different? In these times, quantitative easing is intended to pump liquidity into the financial system to prevent both a banking collapse and deflation. The hope is that when there are clear signs of a sustainable recovery any excess liquidity can be withdrawn.
Jonathan Gregson is editorial consultant at FIRST magazine and writes for the FT, The Wall Street Journal and Global Finance magazine.
The views that are expressed in this article should not be taken as fact and no reliance should be placed upon these when making investment decisions. They should not be considered as advice or a recommendation to buy, sell or hold a particular investment.
This article contains information and opinion on investments that does not constitute independent investment research and is, therefore, not subject to the protections afforded to independent research.