FIAT CURRENCY DESTROYS PURCHASING POWER

Fiat Currency 

The purchasing power of fiat money is the amount of goods and services that a unit of fiat money can buy.

Fiat currency is backed not by any physical commodity but by the authority and trust of the government that issues it.

Fiat currency can be created or destroyed by the central bank, an independent institution that manages a country’s money supply and interest rates.

The central bank can print more fiat currency by buying government bonds or other assets with newly created reserves or by lowering the reserve requirement ratio, the percentage of deposits that banks must hold as reserves.

The primary purpose of printing more fiat currency is to generate economic growth and reduce unemployment during recessions or crises.

By printing more money and increasing the money supply, the central bank can lower interest rates, making borrowing cheaper and encouraging spending and investment.

This can boost aggregate demand and output and create more jobs and income for people. Printing more fiat currency can also help to finance government spending or debt reduction, especially if there is a lack of fiscal space or political consensus.

That is the theory. So what has gone wrong?

• The Destruction Of Purchasing Power
• Inflation And Purchasing Power
• Summary

The Destruction Of Purchasing Power

After World War II, a record number of people were born in the Western world.

These baby boomers entered the workforce in the 1970s and started earning an income. The demand for goods and services increased significantly, which in turn drove inflation.

Their arrival in the workforce resulted in a record number of people competing for jobs.

In the 1980s and 90s, the baby boomers became more financially aware and started buying assets. This drove the increase in asset prices as people started investing in their pensions.

That period also coincided with the World Trade Organisation (WTO) agreement. In effect, people from China, Mexico, Vietnam, etc., now entered the workforce. This increased the number of people competing for jobs, and a consequence was a stagnation in wages. Employers had plenty of people chasing jobs with no incentive to pay more. Wages, in real terms, have not increased from this period onward.

People increasingly took on debt to fund the gap between the increase in asset prices and wage stagnation.

The increase in debt was not confined to household finance. Governments were printing more and more money to fund their fiscal programmes.

By 2008, every major economy had debt greater than 100% of GDP. Household debt was at record levels, and corporate debt was at record highs.

Financial Crisis

Then, the world stopped.

The value of the collateral in the financial system started falling. There were huge amounts of collateral and massive amounts of borrowing in real estate. As the value of the collateral fell, the borrowing became unsustainable. Banks were leveraged at record levels, leading to the complete meltdown of the financial system.

The whole system imploded.

The global financial system and economy were on the brink of a significant depression not seen since 1929.

Central banks made a key decision at that time that would fundamentally shape the purchasing power of future generations.

Central banks decided to use their balance sheets to deflate the value of money. They started printing money, cutting interest rates to zero, and debased fiat currency in doing so.

Asset prices rose, and the financial system was saved. They restored the value of the collateral.

Sleight Of Hand

However, it was merely a sleight of hand.

Printing more money and increasing the central bank balance sheet is debasing fiat currency.

Currency debasement is a hidden tax. Since the financial crisis, fiat currency has been debased by 15% on average. That means that, on average, we are 15% poorer every year.

Governments could have been more transparent. They could have accepted accountability for their role in the financial crisis and should have been open and honest about the economic damage.

They could have raised taxes by a further 15% instead of debasing the currency. However, politically, that was a non-starter. Instead, they chose smoke and mirrors.

Wage growth stagnated during the same period while asset prices have risen.

The result is the wealth gap gets wider. The rich can afford more assets, but the rest are shut out.

At the same time, developed countries are facing an ageing population crisis. Productivity is decreasing as the working-age population declines, leading to lower GDP trends.

Government debt increases because they have to pay the interest on the debt to offset the missing growth. They are paying the interest on the debt by issuing more debt, which ends up on the central bank’s balance sheet. This will increase government debt to GDP and result in increased use of the balance sheet.

In short, that is the central bank’s game. To maintain the current economic structure, they need to offset the falling trend rate of GDP with higher government debt.

In “fixing” the financial crisis, they kicked the can down the road. The can gets bigger as the debt rises exponentially.

Your future self is getting poorer.

The Money Printer

Printing more fiat currency has costs and risks.

Inflation
One of the main costs of printing more money is inflation, which is manifest in a general increase in the prices of goods and services over time.

Inflation reduces the purchasing power of money and erodes the value of savings and fixed-income assets. Inflation can also distort economic signals and create uncertainty for consumers, businesses, investors, and creditors.

If inflation becomes too high or persistent, it can force the central bank to raise interest rates to curb it, which can have negative effects on economic activity and employment.

Devaluation
Another cost of printing more fiat currency is devaluation, a decrease in the value of a country’s currency relative to other currencies.

Devaluation can occur when there is an excess supply of money in relation to the demand for goods and services in a country. It makes imports cheaper but exports more expensive, affecting trade balance and competitiveness.

Devaluation can also trigger capital outflows if there is a loss of confidence in a country’s ability to repay its debts or maintain its exchange rate stability.

Moral Hazard
A third cost of printing more fiat currency is moral hazard, where one party takes excessive risks because another party bears most of the consequences.

Printing more fiat currency can create moral hazard if it encourages excessive borrowing or spending by governments or households without regard for their future repayment obligations or long-term consequences.

Printing more fiat currency can also create moral hazard if it reduces transparency or accountability in monetary policy decisions.

Inflation And Purchasing Power

Inflation affects fiat currency’s purchasing power differently, depending on how it is measured and controlled.

CPI
The Consumer Price Index (CPI) is a popular measure of inflation. CPI tracks the prices of a typical basket of goods and services that average households consume.

The CPI reflects how much people spend to maintain their living standards over time. A higher CPI means that prices are rising faster than incomes, which reduces the purchasing power of money.

WPI
Another way to measure inflation is using the Wholesale Price Index (WPI), which tracks the changes in the prices of goods sold by businesses to other businesses or consumers.

The WPI reflects how much companies have to pay for their inputs and how much they can charge for their outputs over time. A higher WPI means that costs are rising faster than revenues, which reduces the profitability and competitiveness of businesses.

Central Banks
The Bank of England (BoE) is responsible for keeping inflation at a target level set by the government, which is currently 2%.

The BoE uses interest rates to influence inflation and economic activity.

By raising interest rates, the BoE makes borrowing more expensive for consumers and businesses, which reduces spending and investment.

By lowering interest rates, the BoE makes borrowing cheaper for consumers and companies, which increases spending and investment.

The BoE also uses other measures to control inflation, such as quantitative easing (QE), forward guidance, exchange rate intervention, and asset purchases. These measures aim to increase or decrease the money supply or affect its expectations to influence inflation expectations.

The Impact Of Inflation

Fiat currency can be affected by inflation through several channels:

• Inflation erodes the actual value of fiat currency over time, making it less attractive as a store of value or medium of exchange.
• It reduces tax revenues for governments, which may limit their ability or willingness to spend on public services or infrastructure.
• Inflation increases public debt burdens for governments, which may affect their credit ratings or borrowing costs.
• It affects international trade balances for countries, as imported goods become more expensive relative to exported goods.
• Inflation influences exchange rates for countries, as domestic currency becomes more valuable relative to foreign currencies.

Quantitative Easing And Purchasing Power

Quantitative easing (QE) is a monetary policy strategy central banks use to increase the money supply and lower interest rates in an economy. QE involves the purchase of financial assets, such as government bonds, corporate bonds, or even stocks, from banks or other financial institutions. The central bank pays for these assets with newly created money, which increases the banking system’s reserves. This reduces the cost of borrowing and encourages more lending and spending by consumers and businesses.

Interest Rates
One way that QE affects fiat currency’s purchasing power is by lowering long-term interest rates. By buying long-term securities, such as government bonds, the central bank reduces their yield or returns to investors. This makes them less attractive than other investments, such as stocks or real estate. As a result, investors may shift their funds from long-term securities to other assets that offer higher returns or more liquidity. This increases the demand for these assets and pushes up their prices. Higher asset prices mean that people can buy more goods and services with their money without spending more.

Aggregate Demand
Another way that QE affects fiat currency’s purchasing power is by increasing aggregate demand. By creating more money and lowering interest rates, QE stimulates economic activity and boosts consumer confidence and spending. The demand for goods and services in the economy increases, which puts upward pressure on prices. Higher prices mean people must spend more to maintain their living standards over time.

Exchange Rates
A third way that QE affects the purchasing power of fiat currency is by influencing exchange rates. By buying foreign currencies with its currency, QE increases the supply of its currency relative to foreign currencies. This makes its currency less valuable compared to foreign currencies. A weaker domestic currency means that imported goods become cheaper than exported goods for domestic consumers and businesses. This increases net exports or trade balance for domestic producers.

In conclusion, QE affects fiat currency’s purchasing power through various channels: lowering long-term interest rates, increasing aggregate demand, and influencing exchange rates. These effects can positively or negatively impact inflation depending on how they interact with each other and other factors affecting inflation expectations.

Quantitative Tightening And Purchasing Power

Quantitative tightening (QT) is a monetary policy strategy central banks use to reduce the money supply and increase interest rates in an economy. QT involves the sale of financial assets, such as government bonds, corporate bonds, or even stocks, from banks or other financial institutions. The central bank receives the proceeds from these sales and reduces its balance sheet. This increases the cost of borrowing and decreases the banking system’s reserves. As a consequence, the demand for goods and services by consumers and businesses is lowered.

Interest Rates
One way that QT affects fiat currency’s purchasing power is by raising long-term interest rates. The central bank increases its yield or returns to investors by selling long-term securities, such as government bonds. This makes them more attractive than other investments, such as stocks or real estate. As a result, investors may shift their funds from long-term securities to other assets that offer higher returns or more liquidity. This decreases the demand for these assets and pushes down their prices. Lower asset prices mean that people can buy less goods and services with their money without spending more.

Aggregate Demand
Another way that QT affects fiat currency’s purchasing power is by decreasing aggregate demand. By reducing its balance sheet, QT reduces its ability to create new money and lower interest rates in an economy. This reduces economic activity and lowers consumer confidence and spending. This decreases the demand for goods and services in the economy, which puts downward pressure on prices.

Exchange Rates
A third way that QT affects the purchasing power of fiat currency is by influencing exchange rates. By selling foreign currencies with its currency, QT increases the supply of its currency relative to foreign currencies. This makes its currency less valuable compared to foreign currencies. A weaker domestic currency means that imported goods become cheaper than exported goods for domestic consumers and businesses. This decreases net exports or trade balance for domestic producers.

In conclusion, QT affects fiat currency’s purchasing power through various channels: raising long-term interest rates, decreasing aggregate demand, and influencing exchange rates. These effects can have positive or negative impacts on inflation depending on how they interact with each other and with other factors affecting inflation expectations.

Summary

Printing more fiat currency has both costs and benefits for a country’s economy and its citizens.

The decline in purchasing power of fiat money has significant implications for individuals and businesses who use it for transactions or investments. It means they have to spend more units of fiat money to buy the same goods and services as before. It also means that they have to earn more fiat money units to maintain their income and wealth over time.

The amount of money creation, historically, has been driven by various factors, such as economic conditions, inflation expectations, exchange rate movements, fiscal policy stance, international financial market conditions, etc.

The central bank has to balance these factors carefully to achieve its objectives while avoiding undesirable outcomes.

In reality, central banks have failed to avoid the undesirable outcomes for the majority of its citizens. They have destroyed the purchasing power of fiat currency and, as a consequence, the wealth gap gets ever wider.

Your Future Self Will Be Poorer

There is a high probability that your money will be worth less in the future. The cost of living will remain high and asset prices will continue to rise. By debasing the fiat currency central banks are robbing you of your purchasing power.

In essence, the government is taxing you and hiding the fact. It’s what governments and central banks do. They clip the corners off the coins until there is no coin left. It’s a stealth tax—a way of taxing its people without them knowing it.

What’s so massively unfair is that it disproportionately impacts wage earners and people who don’t own assets.

If you owned financial assets in the period after the financial crisis, you got richer. If you didn’t, you didn’t.

It’s what governments and central banks do. They clip the corners off the coins until there is no coin left. It’s a stealth tax. A way of taxing its people without them knowing it.

Have central banks employed a policy to create and transfer wealth to the wealthy? No.

The underlying problem is demographics. The population is ageing, and that segment has much of the wealth. If the market is allowed to correct lower, then you wipe out much of the wealth, which is the collateral for the debt on the balance sheet.

By debasing the fiat currency, central banks are trying to support the baby boomers and the governments trying to keep economic growth going with an indebted ageing population. The transfer of wealth, and widening inequality were unintended consequences.

That said, it doesn’t explain why governments aren’t actively seeking to implement policies (for example, a wealth tax) that would address the imbalance.

Today, we have a wealth gap greater than the turn of the 20th Century. The top 1% of net worth equals the bottom 90% combined. You have to go back to 1935 to find a similar period of wealth inequality.

That is leading to populism. Populism is driven by disenchantment with capitalism’s failure to work for the majority of people. There is a political gap, a social gap, and a wealth gap that governments are not addressing.

The ageing population and debt accumulated over time will drive pension and healthcare problems, which will be just the tip of the social and political issues that follow.

The Money System Is Broken

People understand that the system is broken, and they’re looking for answers. They can feel it. It’s all around.

Fiat money gives power to the government, while real money keeps the power with the people. With real money, the government is limited to spending only what it taxes, and it knows the public will resist taxation.

If the government can print and borrow, there’s a lot less resistance, and so it’s a lot easier for the government to grow when it can promise something for nothing. So that’s what they do.

If we continue to look to them to be our leaders and solve the problem, how can we expect anything to change?

The only alternative is to stop inflating fiat currency and to return to a sound money system. Just have something real that has intrinsic value, that is scarce, and that will remain scarce.

God Bless Bitcoin is a documentary created by the Bitcoin community.

It explores the ways in which bitcoin can present alternatives to the current fiat money system.

Click on the image below to watch the film:

People are beginning to understand that central banks are debasing currency, making money less valuable.

Some people may prefer alternative forms of money with higher purchasing power over time, such as commodity money (e.g., gold, silver, oil ) or digital currencies (e.g., Bitcoin). These forms of money are not issued by governments but are based on natural resources, technological innovations, or peer-to-peer networks. They offer more stability, transparency, efficiency, and security than fiat money.

They realise that Bitcoin and gold are likely to sustain their value by way more than a piece of paper.

It’s not that the price of Bitcoin is going up. It’s that the value of the dollar is going down. The cost of Bitcoin remains constant in terms of human effort and purchasing power.

The current financial system is dying. Where there is chaos, there is also opportunity. The door may be opened for greater prosperity as the old model falls apart.

It’s not something that we should fear. We should embrace it.

It will be the most significant wealth transfer in history.