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The Domestic and International Economic Consequences of Mexico Monetizing Silver as Legal Tender |
Caleb Bolander |
8/22/2010 |
“The monetary role of gold today is only that of a glittering ghost haunting efforts to reform the international monetary system.”
It is hard to contemplate a country returning back to a monetized currency in which a legitimate tangible object was the basis for its foundation rather than the government run fiat currencies officially took over after the Bretton Woods fiasco in 1971. But it appears that this may be becoming a more realistic possibility as Hugo Salinas-Price explains, “two Mexican polling companies carried out polls on public opinion in 2008…both polls showed that 81% of Mexicans would like to have silver money.”
It is important to note that the international implications are completely dependent upon the microeconomic application of silver to the domestic currency. The common application being that of a peg as this is what Salinas-Price also suggests, “the monetary value would not fluctuate according to the price of the silver ounce, but its monetary value would be raised if the bullion price of silver rose and closed in on the monetary value. The Central Bank would give the coin its monetary value, according to a formula in the proposed legislation.”
The question arises what would be the initial introduction strategy involving the Libertad. The anarchic viewpoint would incorporate the sale and distribution of public property along with the governmental reserves of said silver. This introduction would permit a more smooth transition of asset prices than the simple introduction of the Libertad at a fixed price. This is due to the bidding for the silver in pesos that would occur domestically. Also, the governmental repurchasing of the fiat peso would involve, if properly approached, its own decrease in supply due to the retiring of reacquired pesos. This retiring of pesos would involve the melting of the peso into its natural productive elements and again redistributed to the public through open market sales. This in turn would appreciate the nominal value without depreciating the real value in relation to international exchange rates. It would be similar to a company on the stock exchange repurchasing its debt in exchange for the tangible decrease in the supply of its stock to appreciate its own real value.
Upon the success of the Libertad, it will likely be hoarded and used as a store of value, savings, and the peso will continue to be used as the standard transacted currency. As the supply remains the same but demand increases the price will inevitably have an initial upwards price shock. Also, investments denominated in silver will require a greater rate of return stated within the contract due to their stability. Silver will also be demanded upon request for larger purchases involving more substantial payments because of its more stable value. The implications towards the peso are especially important considering what happens to the local domestic currency is largely applicable to what would occur to other currencies across the world.
“A metallic currency is not subject to government manipulation. Of course, the government has the power to enact legal tender laws. But then the operation of Gresham’s Law brings about results which may frustrate the aims sought by the government. Seen from this point of view, a metallic standard appears as an obstacle to all attempts to interfere with the market phenomena by monetary policies...It is the characteristic mark of an economic good that the supply available is not so plentiful as to make any intended utilization of it possible. An object that is not in short supply is not an economic good; no prices are asked or paid for it. As money must necessarily be an economic good, the notion of a money that would not be scarce is absurd…As a policy of foreign trade nationalization, foreign exchange control is a step on the way toward a substitution of socialism for the market economy. From any other point of view it is abortive. It can certainly neither in the short run nor in the long run affect the determination of the rate of foreign exchange.”
As Mises explains this would eradicate the position of government as the enabler of inflationary actions. This would have great benefits towards Mexican foreign exchange. With the monetization of silver there would be a more solidified currency in which there would be more fluidity in the exchange rates in which Mexico’s would provide itself as the most stable due to the lack of inflationary pressures. If there are no inflationary pressures then there also is a better idea of time preferences throughout the entire production sequences that Mexican producers would encounter. This would steadily increase the value of their goods in comparison to international goods and permit it to purchase further lower order goods at relatively less costs therefore greatly increasing Mexico’s standards of living. This would essentially transplant the United States as the biggest economic powerhouse in North America and would perhaps create a situation where the United States would be creating the lower order goods in order to accommodate the demands of Mexican consumers. This would assuredly avoid the circumstances of the past in which countries have encountered governmental inflationary pressures.
Such an example is given by Murray Rothbard in regards to the global economy pre World War, “the gold standard in the prewar era was never ‘pure,’ no more than was laissez-faire in general. Every major country, except the United States, had central banks which tried their best to inflate and manipulate the currency. But the system was such that this intervention could only operate within narrow limits. If one country inflated its currency, the inflation in that country would cause the banks to lose gold to other nations, and consequently the banks, private and central, would before long be brought to heel. And while England was the world financial center during this period, its predominance was market rather than political, so it too had to abide by the monetary discipline of the gold standard.”
This is how the foundation of the Mexican economy would be constructed. That there would be far greater difficulty in losing gold to foreign nations would make it so that the gold instead fluctuates in greater velocities and lower time preferences around the country itself and also incorporates the currencies of foreign countries but Mexicans are able to give a lower real rate of interest on the investments from foreign companies in Mexican business ventures because the silver based currency is at less risk than any others. This will still give foreign investors better nominal rates of interest in comparison to investments in fiat controlled currencies because the silver denominated currency will appreciate in value throughout the intertemporal production schedules while the investments are in development. This should cause foreign central banks to increase their interest rates through the issuing of higher rates on their bonds in order to compete internationally for investment funds. It is also important to note that since there will be a relocation of some labor from the arbitrage investors who are required to keep the balances because of the more easily facilitated process of international price mechanisms towards more productive functions and means of creating value that the overall standard of living in the modernized world should actually increase substantially as well. It is possible to contemplate the coexistence of silver as currency along with other tangible goods as legal tender.
It is, however, difficult to contemplate the future of the peso as to whether or not the currency would continue to function considering its easier portability as well as the Gresham’s Law aspect of pushing out the more fiat currency. However, considering silver as a commodity, it will instead compete against all other tangible goods for market value. “It is impossible to predict whether the market would have continued indefinitely to use gold and silver or whether one would have gradually ousted the other as a general medium of exchange [or something completely different]. For, in the late nineteenth century, most Western countries conducted a coup d’etat against silver, to establish a monometallic standard by coercion. Gold and silver could and did coexist side by side in the same countries or throughout the world market or one could function as money in one country, and one in another. ..two different kinds of money will exchange in a ration corresponding to the ratio of the purchasing power of each in terms of all the other economic goods. This equilibrium rate between two moneys is termed the purchasing power parity…similar gains from this arbitrage action will take place for all other commodities. ..It is impossible for economics to state whether, if the money market had remained free, gold and silver would have continued to circulate side by side as moneys. There has been in monetary history a curious reluctance to allow moneys to circulate at freely fluctuating exchange rations. Whether one of the moneys or both would be used as units of account would be up to the market to decide at its convenience…changes are taking place all the time in each of these determinants. In the real world of human action, there is no one determinant that can be used as a fixed benchmark; the whole situation is changing in response to changes in stocks of resources and products and to changes in the valuations of all the individuals on the market…in human action there are no quantitative constants. As a necessary corollary, all praxeological-economic laws are qualitative, not quantitative…if we do not know what something is, we cannot very well act to keep it constant.”
Therefore, it is possible that by installing silver as a legal tender there would become other perhaps less established goods that would and could be used as exchangeable currency. For example, 100% copper coins may be initiated to go along with the silver Libertad as well. All these possibilities would facilitate domestic as well as international trade even further due to the easier possibility of immediately turning the currency into a tangible function or re-exchange it after a transaction for other goods. The factors of exchange would be based on the foundations of the commodities in so far as the transacting parties agree upon and would be legally binded to contractually. There would also still be those who would take advantage of differences in price mechanisms throughout the world which would serve the purpose of price smoothing in order to create a less volatile foundation for the commodities to function as a monetary good. In contrast to a bimetallic currency system there also is the possibility of a system in which silver could coexist with the peso as it is.
The success of the combination of silver and peso would hinge upon the quantity, if any, that the government would inflate the currency through increases in the monetary supply or any artificial manipulation of the balance of payments, interest rates or exchange rates. “Balance of payments of a country are merely a very small segment of the combined balances of millions of individuals, a segment that is limited to personal exchanges across national boundaries...The fact is that drains on gold are no mysterious forces that must be managed by wise governments, but are the result of deliberate choices by people eager to reduce their cash holdings. Wherever governments resort to inflation people tend to reduce their cash holding through purchase of goods and services. When domestic prices begin to rise while foreign prices continue to be stable or to rise at lower rates, individuals like to buy more foreign goods at bargain prices…Thus an outflow of foreign exchange and gold sets in…when money ceases to function as a medium of exchange, government ceases to function in any form…a double standard in which both gold and fiat money are legal money could be used to re-establish the gold standard. But it requires the cooperation of government, which an administration indulging in deficit spending is unlikely to provide. The administration would have to abandon any further inflation and prevent any further expansion of money substitutes. At the same time all restrictions on gold contracts and clauses would have to repealed, which would permit gold to function as money.”
I will disagree with Sennholz in respect to the expansion of money substitutes. If he only means credit oriented investments such as derivatives and other MZM or M3 uses or more artificial reserves then I would agree with him. However, allowing money substitutes to compete with each other would allow for a more natural fluctuation of price mechanisms amongst competing commodities as was stated by Rothbard previously. The likeliness of obtaining the cooperation of the government is doubtful. This is why I would hope that Salinas-Price encourages Mexico to instead eliminate any type of pegging system where government interference would interfere with the production functions and interest rates domestically as well as the exchange rates internationally. Understandably, this is looked at as too risky considering government would no longer have a source of income. This would be frowned upon by those in power but the reality is that these moves would allow the country to be more successful in comparison to other international standards of living.
“There was no longer one homogeneous sort of money in each country, the different units of which could be regarded as equivalent for all relevant purposes. There had arisen a hierarchy of different kinds of money within each country, a complex organization which possessed a definite structure, and which is what we really mean when we speak of the circulating medium of a country as a ‘system.’ It is probably much truer to say that it is the difference between the different kinds of money which are used in any one country, rather than the differences between the moneys used in different countries, which constitutes the real difference between different monetary systems. ..It was only the growth of centralized national banking systems that all the inhabitants of a country came in this sense to be dependent on the same amount of more liquid assets held for them collectively as a national reserve…We get here new artificial currencies and involving all the consequential possibilities of disturbances following from changes in what is now called ‘liquidity preference.’ Second there will be the change of a gain or loss of these foreign balances due to changes in the rates of exchange. Thus the anticipation of any impending variation of exchange rates will tend to bring about temporary changes of a speculative nature in the volume of such balances. Whether these two kinds of motives must really be regarded as different, or whether they are better treated as essentially the same, there can be no doubt that variability of exchange rates introduces a new and powerful reason for short-term capital movements, and a reason which is fundamentally different from the reasons which exist under a well-secured international standard.”
Hayek alludes to the existence and obtainment of arbitrage possibilities in exchange rates in order to not only profit from temporary inequalities in the system but also to make the trade exchanges and exchange ratios much more accurate towards an actual standard. This would make them act as more of a price mechanism in which the intertemporal requirements of each individual commodity would be incorporated into the exchange ratio between the Mexican currency as well as foreign competitors depending on the current demand for the commodities behind the currencies. For example, if a popular new technology requires more platinum then is capable of instantly being refined from the ground then the price will go up until either the demand returns downward or the arbitrage profit made from supplying this demand from the ground is enough to return the price of platinum to its previous equilibrium. This incorporates scarcity as well as a number of other critical components to a successful future for Mexico.
In conclusion, if Mexico monetizes the legality and function of silver the peso could eventually be eradicated from the market. This would be because people would want the stability of a currency with the backing of a tangible resource in comparison to a fiat currency. This is unless the peso is allowed to function in a freely floating exchange ratio, no government interference, with the Libertad. In regards to exchange rates with foreign currencies that would depend on the functional uses of silver itself and the inflationary rates of the foreign countries domestic currencies. For example, if their country is inflating then it would cost more of their currency in the future to obtain the silver Libertads ceteris paribus. This would cause the foreign country to have less purchasing power and would be forced to export more or have to have a higher velocity and lower time preference of their goods in order to try and maintain an even balance of payments. This would greatly strengthen the Mexican currency in relation to the world assuming it is left to its own devices. This would also create more opportunities for productive possibilities within Mexico due to investors seeking the stability of the currency. Because the currency would also be a stable store of value on top of the investment opportunity companies seeking to convert currencies to the Libertad in Mexico need only have a smaller actual return on investment in order to accommodate the loans from abroad because the nominal values of their currency would appreciate in value in comparison.
One issue may come in the form of convertibility of foreign currencies into the Libertad. Because this would not only be continually changing due to the strengthening of the Libertad but would also still necessitate the foreign fiat currency holding some tangible value. The currency would likely only hold its value at least in their domestic markets but would still be a method of exchange and would have to be written into a contract which method and actual interest rates the investor gets to be paid out in either the Libertad or their domestic currency. As long as the acceptance of that particular fiat currency increases in relative comparison to other fiat currencies then the value of it may be transferred into other currencies for a profit once payment is returned for the investment in the Libertad currency. This is due to the inability to determine for certain the qualitative aspects, such as future inflationary powers, of each individual currency.
The most important conclusions arise in the forms of the international monetary consequences involving more domestic stability of interest rates, exchange rates and production function strategies. All these would permeate internationally because it only takes one country to step outside the box and decide to incorporate the lost values and economic gains of a currency based on tangible resources. Mexico would supplant the United States as the superior North American economy because of their more consistent stability of currency and inherently the numerous successful production functions that this would support. Also, exchange rates would highly benefit Mexico in regards to the inflationary actions of other countries becoming much more visible due to their currencies’ erosion in comparison to the silver standard of Mexico that would remain economically viable and does not rely on such fiat concepts. This would also cause foreign countries to increase their interest rates in order to compete with their internal inflation as well as with the erosion of their currencies’ value in comparison to Mexico. So here’s to the success of Hugo Salinas-Price in organizing a coup against the powers that be in Mexico. If it really is the standards of living of their people that the government is concerned about then it will implement the longstanding value of silver to the Mexican citizens into society and their standards of living will become much appreciative in the process. Good luck to you Mr. Salinas-Price, Rothbard, Hayek, Sennholz, and Mises would be proud.
Bibliography
Carbaugh, R. (2007). International Economics 11th Edition. Mason, OH: Thomson Higher Education.
Hayek, F. (2008). Prices and Production. Auburn, AL: Ludwig von Mises Institute.
Mises, L. v. (1996). Human Action. Little Rock, AR: Fox & Wilkes & The Foundation for Economic Education.
Rothbard, M. (2002). A History of Money and Banking in the United States. Auburn, AL: Ludwig von Mises Institute.
Rothbard, M. (2004). Man, Economy, and State. Auburn, AL: Ludwig von Mises Institute.
Salinas-Price, H. (2009). Gold and Silver as Monetary Assets. Asociacion Espanola de Metales Preciosos , 3.
Sennholz, H. (1979). Age of Inflation. Belmont, MA: Western Islands.
Smith, S. (2010, May 24). Hugo Salinas-Price on the Nature of Money and Why Silver Should Be Legal Mexican Currency. Retrieved August 21, 2010, from Lew Rockwell: http://www.lewrockwell.com/spl2/hugo-salinas-price-on-mexico-silver.html
