From: lexfridman
Fiat money, distinguished from commodity money such as gold, is a currency without intrinsic value established as money by government regulation. This system, beginning in earnest in the 20th century, particularly around the time of the First World War, has had profound effects on the global economy and society.
A Historical Overview
Fiat money began to secure its role in the global economic system during World War I. When the British government needed to finance its war efforts, it issued bonds, but only a third of those bonds were subscribed to by the public [01:30:00]. The Bank of England then performed what is known today as quantitative easing by financing the remaining bonds via credit creation. This manipulation allowed Britain to continue its war efforts, setting a precedent for future monetary policies.
Fiat currencies became widespread following the departure from the gold standard, most notably in 1971 when the U.S. ended the convertibility of dollars to gold. This shift allowed central banks to control and manipulate money supplies to accommodate various economic strategies, such as inflation targeting or economic stimulus via quantitative easing [23:00].
Impacts on Economic Stability
The effects of fiat money are profound and widespread. Economically, inflation becomes a common phenomenon as central banks have the power to increase money supplies without regard to physical commodities like gold. The global fiat supply has increased significantly over the years, with an average annual growth rate of 14% in recent history [01:56:32]. This continuous devaluation causes the purchasing power of fiat money to erode over time, making saving in fiat currency challenging for individuals.
Fiat money can contribute to economic cycles of boom and bust. The flexibility to print money at will enables governments to stimulate economies in downturns but can also lead to excessive speculation and financial bubbles. The eventual bursting of these bubbles can lead to severe economic repercussions, as seen in the 2008 financial crisis [00:55:00].
Social Implications
Fiat money also has significant social implications. Historically, it has financed extensive government actions, including wars [01:32:06]. As noted by economists like Saifedean Ammous, modern governments can fund continuous military engagements without needing the explicit financial backing of their citizens, which was necessary under a gold standard [00:00:06].
Furthermore, the reliance on fiat money affects social behavior. Inflation and currency devaluation discourage saving and incentivize people to spend or invest their money to avoid losing its value over time. This dynamic leads to a higher time preference, focusing more on short-term consumption rather than long-term saving and investment [02:03:00]. Such behavior can affect personal financial security and economic inequality, as those without the means to invest successfully can fall further behind economically.
Potential Shifts
There are ongoing discussions and movements regarding potential shifts back to commodity-based systems or towards decentralized technologies like Bitcoin. Bitcoin, as a decentralized digital currency, offers an alternative to fiat’s inherently inflationary nature, given its finite supply of 21 million coins [02:32:59]. Although not yet mainstream, Bitcoin and other cryptocurrencies represent a growing interest in monetary systems that seek to avoid the pitfalls associated with fiat money.
Conclusion
The fiat monetary system has indeed shaped the global economy and societal norms in profound ways. While it provides certain flexibilities, such as the ability for governments to respond to economic crises with monetary measures, it also introduces significant risks, such as inflation and financial instability. As the world continues to evolve, there is an opportunity to reassess the role of fiat money and explore more sustainable and equitable systems.