A similar version of the below, without markups, is at http://www.professorfekete.com/articles%5CAEFArchitectureForANewWorldFinancialSystem.pdf
Markup by Frederick N. Chase using only i) emphasis (red, bold, underline, or font size) and ii) bracketed pink commentary.
1
ARCHITECTURE FOR A NEW
WORLD FINANCIAL SYSTEM
An adaptation of the keynote address delivered at the
European BANKERS Symposium
June 9 - 10, Hall in Tirol, Austria
Antal E. Fekete
Historical background
The Symposium was held at the historic town of Hall in Tirol, Austria, for a
good reason. Hall in Tirol (just east of Innsbruck) had been the “monetary
capital” of Europe for centuries.
It all started in 1477 with the moving of the Mint from Meran in South
Tirol (now part of Italy) where it had been operating since 1271, to Burg Hasegg
in Hall, by Archduke Sigismund of Austria (1427-1496). At the same time the
Archduke instituted important monetary reforms. He opened the Mint to silver.
As a result, silver mining was revived in the valleys of Tirol, and new mining
methods and technology were developed. Ultimately, the much-debased coinage
of Medieval Europe was replaced by sound currency that brought heretofore
unprecedented prosperity to the people of Renaissance Europe. The currency
reform of Archduke Sigismund has laid the foundations for the architecture of a
new world financial system.
The coins issued by the Mint were revolutionary in several respect. The
fineness of silver coins was 937. Prior to this date, practically no silver had been
coined in Europe. The size of silver coins was also increased, first from 4 to 6
Kreutzers and again, in 1484, with the introduction of the half-guldengroschen,
from 6 to 30 Kreutzers. The runs were still small. The real revolution occurred
in 1486, when the size of the silver coins struck at the Mint was doubled, and
serial production was introduced.
As the fifteenth century drew to a close, coinage throughout Europe was
in a shambles. The financing of ceaseless wars between dukes and kings over
territorial disputes was largely done through the debasement of the silver
coinage. The fact that the rate of debasement differed from country to country,
from dukedom to dukedom, only made matters worse. Trade, investment, and
progress were hampered by the lack of uniform, easily recognizable, and reliable
means of payment.
2
The Great Debasement of Middle Ages in Europe was akin to the
debasement of coinage a thousand years earlier, culminating in the collapse of
the Roman Empire in 480, followed by a breakdown of law and order lasting for
centuries. Had the Great Debasement of the Middle Ages been allowed to
continue, history would have repeated itself, and another breakdown of law and
order lasting for centuries would have followed.
Also, there was an incessant drain of silver from Europe to Asia,
especially to India, Indonesia, and the Far East, representing payments for exotic
Oriental goods such as spices, porcelain, silk, and other fine fabric and cloth.
The word „consumerism” could be applied to this period as well, meaning the
„conspicuous consumption” of the aristocracy. Just as today, the one-way trade
from Asia was sapping the resources and threatened the prosperity of Europe.
The demand for reliable and uniform silver coinage to finance expanding
trade was met by the currency reform of Archduke Sigismund. As more silver
was coming from the mines due to improved mining technology, minting
technology was also changed to make large mintages possible. Mass production
methods in striking silver coins were introduced. Previously, coins had been
struck individually by hand from single blanks. No wonder that issues were
small. In 1486 the Mint in Hall introduced silver strips to replace silver blanks,
and installed machinery to strike silver coins serially from the strips. The
machinery was made of wood and was powered by hydraulics, but was still
strong enough to allow doubling the size of the silver coin from 30 to 60
Kreutzers (from 5 to 10 Groschens). Thus was the historic Guldengroschen coin,
nicknamed the guldiner of Hall born. It served as prototype of the other historic
coin 30 years later, the thaler.
In 1490 Archduke Sigismund ceded his control of Tirol, rich in salt and
silver (both having monetary importance) to his cousin, the future Holy Roman
Emperor Maximilian I (1459-1519), a towering historical figure, recognized as
the second founder of the House of Habsburgs. Their names are shining in the
monetary history of the world. History books assert that the Modern Age started
with the discovery of America by Columbus in 1492. They got it wrong. The
Modern Age started with the opening of the Mint to silver in 1487 by Sigismund
and Maximilian.
The father of Maximilian, Emperor of the Holy Roman Empire, Frederick
III, suffered a great setback in his fortunes when the king of Hungary, Mathias
Corvinus occupied the Habsburg capital Vienna in 1485. He had to pay for his
defeat a second time as well: next year the electors forced him to give up his title
as the King of the Romans and elected Maximilian in his stead (while he could
retain his title as Emperor until his death in 1493).
Maximilian I was crowned in Aachen on April 9, 1486. This important
event was followed by the first issue of the Guldengroschen, struck from silver
found in Schwaz near Hall, in 1487. The new coin was an instant and
unqualified success. Indeed, it was a landmark in the monetary history of the
3
world. The silver coin soon reached world-class status as its mintage beat all
earlier records, and its circulation spread all over Europe. Naturally, the success
of the guldiner soon attracted imitators in every dukedom of Europe with a
silver mine.
The winner among these imitators was the Joachimsthaler nicknamed
“thaler” (from which the English word “dollar” was derived). The silver came
from the rich mines of Joachimsthal, or Joachim’s Valley, in Bohemia (today,
the Czech Republic). Saint Joachim, the husband of Saint Anne and the father of
the Blessed Virgin Mary, is commemorated by the first thaler struck 30 years
after the inauguration of the guldiner in 1518. It was of similar physical size but
had slightly lower fineness. It became the standard for silver coinage for almost
four hundred years in Europe and, later, in America.
The market dropped the guldiner and embraced the thaler. The Mint in
Hall had to turn to the production of thalers of which it struck 17 million
specimens during the 20-year period from 1748 through 1768 alone.
Burg Hasegg was built in the late 13th century. It housed the Mint from
1477 through 1806 when coin production ceased partly because of the
Napoleonic wars, partly because of the exhaustion of nearby silver mines. The
Mint in Burg Hasegg is a museum now, open to the general public. It displays
minting presses at their various stages of development, including (a replica of)
the first mass-producing minting press utilizing silver strips instead of silver
blanks. Demonstrations of historical printing techniques are given from time to
time. The castle itself is an example of early Gothic era Tirolean fortress
architecture, with an impressive watchtower, the Münzerturm.
On June 9, 2010, I climbed the 204 steps leading to the top observation
deck of Münzerturm. It offers an unparalleled view of the valley of the River Inn
and the mountains enclosing it. There was a guestbook, in which I wrote the
following sentence:
Open the Mint to Gold Again!
Let us hope that world leaders will have the wisdom of Archduke Sigismund
and Emperor Maximilian I who opened the Mint to silver, thus saving European
civilization from further decay, ushering in the “Silver Age” of prosperity.
Once again, both civilization and prosperity are in grave danger as a result
of spiraling monetary debasement and one-way trade from Asia to Europe,
threatening the West with capital destruction and shrinking employment. This
trend can be reversed only through a return to sound currency. Opening the Mint
to gold would usher in a new “Golden Age” of prosperity.
* * *
4
The Great Financial Crisis
The present Great Financial Crisis is far from over. In fact, it is getting worse. It
can be described as a debt crisis or, at its roots, a belated gold crisis. The
landmark year was 1971, when the United States defaulted on its international
gold obligations. Now there have been many defaults in history, but the one
forty years ago was unique in that it exiled gold from the international monetary
system; thereby gold has been prevented from discharging its natural function
as the ultimate extinguisher of debt ever since.
When you pay a debt of $100 by writing a cheque on your bank account,
the debt is not extinguished, it is merely transferred to your bank. If you pay it
by handing over a $100 Federal Reserve note, the debt is not extinguished either
but is transferred to the Federal Reserve bank that has issued the note.
Ultimately the U.S. Treasury is responsible for all the liabilities of the Federal
Reserve. Under these monetary arrangements the total dollar debt outstanding
can only grow, never contract, even if there is a net reduction of debt in the
economy. All debt presumed to have been extinguished will ultimately show up
as an increase in the indebtedness of the U.S. government. No matter how you
look at it, the desire to retire debt is frustrated by the lack of an ultimate
extinguisher in the system. The consequences are frightening.
Let’s draw a biological, nonetheless valid and convincing analogy by
looking at the human metabolism. The elimination of toxic waste from the
human body is of paramount importance. Bowel movement and passing water
are the two main forms of excretion. If either of these processes is blocked
permanently, death becomes inevitable. It is no different with the economy,
albeit death may be longer in coming. The economy uses credit all the time, and
some of it will turn out to be toxic even in the best of circumstances. If there is
no way to eliminate this toxic waste from the system, that is to say, if there is no
ultimate extinguisher of debt, then death is near. In the world economy, gold is
the main agent of detoxification.
The tragedy is that the captains of the world economy refuse to realize
that runaway debt is the logical consequence of their having exiled gold from
the international monetary system in 1971. They try to cure the bad effects of
too much debt, or the presence of toxic debt in the system by introducing more
of it. They have no idea how total debt could be decisively reduced and toxic
debt safely eliminated.
They are playing a very dangerous game with the welfare of the people.
When credit collapse finally comes, production disappears, employment shrinks,
law and order break down. We are running into an unprecedented crisis with our
eyes blindfolded. Wishful thinking will not coax out “green shoots”.
5
Open the Mint to Gold!
The economic disaster staring us in the face will force the recognition that we
have to change course. The present leadership will have to admit that its theories
and practices have utterly failed. They will have to give up their position in
disgrace, and the new leadership will have to see reality as it is. They must see
that gold has a place in the body politic as well as in the body economic. They
must return the world to the gold standard which is the only monetary
arrangement that provides for an orderly retirement of debt, and is capable of
doing justice between consumption and saving. The world needs a new financial
system with stable exchange rates, stable interest rates, and stable bond prices.
The architecture of this new financial system must involve three principles.
FIRST, the Mint must be opened to gold. What does this mean? It means
that if people think that there is not enough money in circulation, they can do
something about it. They can take their gold to the Mint and exchange it for the
gold coin of the realm free of seigniorage charges, and with no limit imposed on
the amount. In other words, they would get gold back in coined form, ounce for
ounce, and the cost of minting would be absorbed by the government, the same
way as it absorbs the cost of maintaining highways in good repair. Such a
regime is mandated by the U.S. Constitution, and is referred to as “free and
unlimited coinage of gold”.
Conversely, if people think that there is too much money in circulation,
they should be able to do something about that, too. Owners of gold coins of the
realm must have the right to hoard, melt down, or export them as they see fit. In
this way the power to regulate the money supply will be vested in the people,
rather than in representatives or unelected bureaucrats. When you look at it this
way, you realize that the destruction of the gold standard in the 1930’s was a
power-grab, pure and simple. The power to create money is unlimited power. As
such, it must be reserved for the people. Take it away, and you have overturned
constitutional order. Opening the Mint to gold simply means a return to limited
government and to the principle of separation of powers. The world-wide regime
of irredeemable currency will in retrospect appear as a brief reactionary period
in history.
Abolish legal tender protection of paper money!
SECOND, legal tender protection of fiat money must for once and all be
declared unconstitutional. This measure is necessary to remove coercion
whereby the government can force citizens to provide services against
irredeemable promises to pay.
Such coercion was first legalized in France and Germany in the year 1909,
five years before the outbreak of World War I. These countries wanted to make
sure that their military and civil service can be paid in chits, thus putting the
6
defense and labor force at the disposal of the government, independently of the
state of budget and collection of taxes. In this way the electorate was denied its
say in deciding whether the planned war is worth the blood and treasure to
expend, or when to stop a war already in progress. World War I could have
come to an early end but for the legal tender laws. As soon as treasuries had run
out of gold, the belligerent governments would have been forced to make peace,
unless the electorate agreed to pay for continuing the bloodshed and destruction
of property in the form of higher taxes and sending more young men to their
death in the trenches.
Bring back self-liquidating credit!
THIRD, Adam Smith’s Real Bills Doctrine [See also Bills of Exchange] should be rehabilitated. Bills of
exchange, drawn on merchandise in urgent demand, maturing into gold coins in
91 days (the length of a quarter), must be allowed to enter into spontaneous
monetary circulation. The credit represented by maturing bills of exchange —
representing a mass of goods moving apace to the final consumer, also known as
social circulating capital — is elastic and self-liquidating. It flows and ebbs with
the variable need for goods and services. Most importantly, it is liquidated at the
time when the ultimate gold-paying consumer withdraws merchandise from the
market. For this reason it is not inflationary.
Our financial system lacks self-liquidating credit and, in consequence, the
debt tower of Babel just keeps growing until it will topple and bury the world
economy under the debris. Real bill circulation would bring back selfliquidating
credit. This would guarantee the flexibility of the monetary system
not through government coercion but through the voluntary cooperation of the
producers and the consumers in satisfying human wants.
It can be seen that the market for real bills is nothing else but the clearing
house of the gold standard. In 1918, at the end of World War I, the victorious
powers in their wisdom decided not to allow the world to return to multilateral
financing of international trade. To be sure, they were sincere in saying that they
wished to return to the gold standard, witness Great Britain’s 1925 decision to
make the pound sterling once again convertible into gold at the pre-war
exchange rate — but only bilateral trade was authorized. This was tantamount to
the castration of the gold standard: once its clearing house was amputated, it
could not perform.
The victorious powers did this out of spite and vengeance. They wanted to
cripple Germany over and above the provisions of the Versailles peace treaty.
Forcing bilateral trade upon Germany was equivalent to peacetime blockade
whereby the Entente powers could monitor and control Germany’s imports and
exports. The measure backfired. The Great Depression and the 1931-36 collapse
of the international gold standard was a direct consequence of the forcible
elimination of multilateral financing of world trade through real bills.
7
The measure to eliminate real bills from circulation world-wide had
another grave consequence that I have to mention. It destroyed the wage fund of
society and became the cause of mass unemployment on a scale never before
seen — as predicted by the German economist Heinrich Rittershausen. Real bills
alone make it possible to pay workers for producing goods that the consumer
cannot purchase before they reach the maturity of a finished good in 91 days.
But workers have to eat in the meantime! A substantial part of the social
circulating capital is spoken for by the wage fund. Disallowing real bill
circulation destroys the wage fund and causes mass unemployment, forcing the
government to pay dole to the unemployed. The architecture for a new world
financial system may start dismantling the so-called welfare state since, with the
return of real bills circulation, the wage fund will be replenished and full
employment can be realized.
Outlawing open market operations
The gold standard did not collapse because of its “contractionist tendencies” —
as alleged by Keynes. It collapsed because of its clearing system, the bill market
was blocked. Falling prices in 1930 were not the cause of the Great Depression:
they were the effect. The cause was falling interest rates.
Falling interest rates were in turn caused by the illegal introduction of
open market operations by the Federal Reserve of the United States in 1921,
following the panic in the Treasury bond market. The Federal Reserve Act of
1913 did not authorize open market operations, quite the contrary. Treasury
bonds were not on the list of “eligible paper” acceptable as collateral for issuing
Federal Reserve notes and deposits. Federal Reserve credit was supposed to be
backed by gold, or real bills maturing into gold. To the extent that Federal
Reserve credit outstanding could be backed only by Treasury paper in lieu of
real bills or gold, the Federal Reserve bank was found short of collateral and
was to be penalized by fines on a progressive scale. Starting in 1921 the
Treasury “forgot” to collect the penalty. It was a “sweetheart deal”: in turn, the
Federal Reserve banks offered a cozy place in their portfolio to Treasury’s
bonds, notes, and bills. Congress was presented with a fait accompli. It had no
choice but to legalize the practice of open market operations ex post facto in
1935.
The architecture for a new financial system must rule out such a
conspiracy between the government and its central bank. Open market
operations must be outlawed as they invite bond speculators to bid up bond
prices by promising them risk-free profits. As a consequence, interest rates will
have a downward bias. Falling interest rates not only falsify the natural rate of
interest; they also cause capital destruction. The gold standard plus outlawing
the practice of open market operations will stabilize interest rates at their natural
level.
8
Outlawing the practice of borrowing short to lend long
In addition to outlawing open market operations, the practice of commercial
banks to borrow short in order to lend long must also be outlawed. Such a
practice ignores the danger that the bank could be caught on the wrong foot
when short-term interest rates rise while long term interest rates fall (i.e., the
yield curve is “flattening”, let alone “inverting”). This means, in particular, that
mortgages are ineligible as collateral to back commercial credit, and commercial
banking must be separated from investment banking.
Eliminating double standard in applying the Criminal Code
In drawing the blueprint for the architecture for a new financial system it must
be remembered that double standard in jurisprudence is inadmissible. The
government and its central bank must be subject to the same Criminal Code as
everybody else. Ordinary citizens are not allowed to issue obligations which
they have neither the intention nor the means to meet at maturity. If they do,
they commit a crime dealt with by the Criminal Code under the heading “fraud”.
There is no valid reason to allow the government and its central bank to issue
obligations that they have neither the intention nor the means to pay.
Eliminating double standard in applying contract law
In the same order of ideas I mention that no double standard ought to be
tolerated in contract law either. In particular, banks should not be exempt from
the provision of bankruptcy procedure in case of non-performance on
contractual obligations. If a bank fails to pay its sight liabilities in gold as
contracted, then it must not be allowed to promote its dishonored paper as
money. Depositors ought to be able to press for liquidation of the bank or to
avail themselves of any other remedies prescribed by contract law. There is no
valid reason to treat banks and financial institutions any differently from other
corporations in case they fail to perform on their contracts.
When the Mint in Hall was opened to silver in 1477, Archduke Sigismund
and Emperor Maximilian I put the threat of a breakdown in law and order
behind them. Their measure ushered in a new financial order promoting peace
and prosperity.
In a latter-day replay of the medieval saga, an enlightened government in
some part of the world may open its Mint to gold. The initiative would be
widely followed, as was that of the Mint in Hall, and the world would be spared
of a breakdown of law and order. The measure would usher in a new financial
order promoting peace and prosperity.
June 22, 2010
9
Calendar of Events
ANNOUNCING THE ESTABLISHMENT OF THE AUSTRIAN SCHOOL
OF ECONOMICS IN BUDAPEST. The first ten-day, 20-lecture course
offered is entitled: Disorder and Coordination in Economics — Has the
world reached the ultimate economic and monetary disorder? The lecturer is
Professor Fekete, with the cooperation of Mr. Rudy Fritsch (Canada), Peter van
Coppenolle (Belgium), and Mr. Sandeep Jaitly (United Kingdom). It will be
held in Budapest, Hungary, from August 9-20, 2010. Participation is limited,
early registration is advisable. For more information and registration, contact Dr.
Judith Szepesvari at: szepesvari17@gmail.com. Inexpensive dorm-type
accommodation is available for students (shared bathroom, shared kitchen); a
three-star hotel is next door. Extra-curricular consulting with Professor Fekete
can be arranged for an extra fee.
The school is meant for all students (including beginners) interested in the
Austrian theory of money, credit, and banking. Its program plans to cover the
whole spectrum of Austrian economics, with special emphasis on developments
that took place after the death of the greatest 20th century economist, Ludwig
von Mises, including the Real Bills doctrine and social circulating capital; the
theory of money, credit and banking; and the theory of interest and discount.
Completion of this course will earn participants one credit towards a fourcourse,
four-credit program that has been submitted for accreditation to the
Adult Education Accreditation Board of Hungary. Participants will receive a
certificate signed by Professor Fekete. The follow-up credit courses will cover
these areas:
Adam Smith’s Real Bills Doctrine and Social Circulating Capital.
The Austrian Theory of Interest and Discount.
The Austrian Theory of Money, Credit, and Banking.
Some of the future courses may be offered in Martineum Academy in
Szombathely, Hungary, where we have had four successful conferences already
in the past. A special cordial invitation is extended to all Martineum alumni and
their family members and friends!
It is not well-known that Budapest is one of the foremost spas in Central
Europe with a dozen or so medicinal thermal springs. Participants of the course
could stay on afterwards and savor the superb spa and cultural offerings in the
city. Make it a family holiday! Eating and shopping facilities, as well as a
swimming pool are nearby. Spectacular excursions can be arranged in the
surrounding hills, and boat trips on the River Danube!