Interest in a gold economy

Imagine a society on a gold standard where the supply of gold is fixed. As the economy grows, more goods and services become available. Because the supply of money (gold) is constant, gold constantly rise in value, and prices of everything drop steadily.

Economists of today would call this "deflation", and some of them would claim that it's a Bad Thing. I don't think it would be a Bad Thing--seems perfectly natural to me--but that's not the point of this post.

Imagine further that you lent someone an ounce of gold. How much interest would you charge him?

Share this

interest...

with a truly fixed money supply I think you'd probably be looking at competitive interest rates in the neighborhood of 2%. My old econ & risk management professors used to suggest that, the "natural" rate of interest if you will is in that neighborhood. Hulsmann would call this "originary" interest, the rate of interest which cannot be arbitraged away.

interest...

with a truly fixed money supply I think you'd probably be looking at competitive interest rates in the neighborhood of 2%. My old econ & risk management professors used to suggest that, the "natural" rate of interest if you will is in that neighborhood. Hulsmann would call this "originary" interest, the rate of interest which cannot be arbitraged away.

Seriously:

All the market would bear.

QFT

Exactly.

The money supplied tied to the gold held by the treasury?

>Imagine a society on a gold standard where the supply of gold is fixed.

This mean what? Would the sum of all cash, checks, and electronic money in circulation be represented by the gold? Would banks need to hold cash equavalent of all loans credit card balances, and mortgages?

The Treasury holds about one ounce of gold per capata. The price of gold would have to be inflated so that the total OZ of gold represented what percentage of the GDP?

Financial advisers recommend that each family maintain a liquid reserve of 3 months pay. There are about 3 people/family. The median family pay is about $40k. 3 OZ of gold would have to represent $120K of liquid assets? Or am I missing something?

>>Would the sum of all cash,

>>Would the sum of all cash, checks, and electronic money in circulation be represented by the gold?

Backed by gold, yes.

>>Would banks need to hold cash equavalent of all loans, credit card balances, and mortgages?

That, or face a brick wielding horde when the inevitable bank run occurs. By cash I assume you mean gold. By banks I assume you mean honest financial match makers who cannot rely on chicanery to accumulate wealth.

>>The Treasury holds...

If government numbers are to be believed, the US government has a gold reserve worth 260 Billion USD. Which is roughly a 50th of the national debt. So, why bother inflating? why not issue notes backed by fractions of a gram of gold? Or coins with a minute percentage of gold in them?

Better yet, lets assume no central control of currency, which only favors the government and its big business cohorts.

>>The median family pay is about $40k. 3 OZ of gold would have to represent $120K of liquid assets? Or am I missing something?

Yeah you missed something big, the family makes 40k a year, not per month. So, the family should have 10k saved. 3oz would cost 10k worth of federal funny money? Sounds appropriate. Yet this is all based on assumptions and government numbers which are routinely fudged on just about every level, from troop casualties to unemployment.

I was discussing this very

I was discussing this very question last week with a friend much more knowledgeable than me in finance, and we both agreed that the interest rate in a society with a 100% gold-backed currency (i.e. no fractional reserve banking) would be extremely high.

Think about it: Without fractional reserve banking, every loan made has to be fully backed by physical capital, which is costly to store and protect. There would be no such thing as banks as we currently understand them today (not necessarily a bad thing, of course); rather, there would only be safety-deposit box services. You would either have to hide/store/protect all of your gold yourself, or pay someone else to store and protect it for you. Any loan made must either be a loan of actual physical gold, or a certificate representing that gold, and the gold represented would have to be stored someplace safe and not used for anything else.

Also, there would be no such thing as credit-card companies, or if such companies did exist, their interest rates would have to be astronomical to fully cover every line of credit extended with an equal value in unused gold. Want a credit card with a $20,000 credit limit? Your credit card company better be storing $20,000 in gold in their vaults just for you, even though you may only put a few hundred dollars on the card each month, and pay off the balance completely. Can you imagine how high the interest rate would need to be to make a credit card company financially viable under such conditions?

Both of your points seem to indicate a difference between...

...a reserved-currency vs a fiat-currency, not fractional reserve currency vs 100% reserve currency.

Whether you have a 100% reserve currency or fractional reserve currency, bankers still have to secure those reserves.

Only when there are no reserves, i.e., when the paper itself is money (fiat), is security not an issue.

Security is still an issue in

Security is still an issue in that the fiat notes themselves can be stolen. Also, there's the problem of counterfeiting.

My concern is what effect a

My concern is what effect a non-fiat, fully-backed 100% reserve currency would have on interest rates, and therefore on the willingness of people to lend money. If banks and credit card companies were forbidden from lending beyond what they keep in their reserves (anything else would be fraud, of course ), how high would the interests rates have to be on a monthly credit card statement to make lending money this way financially viable? A bank loan for a new business? A mortgage?

The way I had come to

The way I had come to understand the solution is that bankers would act as match makers, not lenders. They would pair potential investors with those seeking capital for some new expense. The new partners would work out a repayment scheme that would not involve interest as we know it. There are many ways to repay someone without traditional interest, many of which have probably been experienced by folks like us in private dealings with our friends.

bank leverage and soundness of money are two different things

soundness of money means the form of money be tied to something physical, in this case, gold. That does not preclude the bank from fractional reserve lending, that is the precise definition of sound banking. Do it badly and your bank sustains a run and is ruined. Do it well and you can be quite well off. Bankers hours even.

The issue is we have gotten past that point in time and arrived at wally world. All the old rules do not apply and the object seems to be who is best at fleecing the customers by debasing others customers. Quite a game.

Sound money provides a nice reset point. Beyond that are the problems of a money supply that is constrained by physical assets. That tends to limit the ability of the economy to actually grow. There is the rub with a gold back currency. It can not reflect gains in productivity of the economy and the lag causes great pain and retards growth.

sorry about the math error, hot weather kills me

>Or coins with a minute percentage of gold in them?

You mean like gold ore which requires processing with arsenic?

And sometimes cyanide. Are

And sometimes cyanide. Are you making a point?