Rethinking Money

by Bernard Lietaer

  DYNAMIC CIRCULATION

  The economic importance of cooperative currencies has been underestimated, in part because the impact of their higher velocities of circulation—the number of times they circulate—has been overlooked. Irwin Fisher, a leading U.S. economist during the 1930s, proved that the volume of economic activity depends not only on the quantity of money in circulation but just as much on the number of times it circulates.

  The so-called Fisher equation summarizes this idea thus: E = Q × V, where E equals the total economic activity in a given time period, Q equals the quantity of money in circulation, and V equals the velocity of circulation measured by the average number of times this money circulates in that time period.

  A distinction needs to be made between the two types of money in use within a community: the conventional type, used for both savings and exchange, and cooperative currencies, used only as a pure medium of exchange. Each has its own very different quantity and velocity. Therefore, in this environment, Fisher’s equation becomes: E = (Qs × Vs) + (Qc × Vc), where Qs equals quantity of money that can be used for savings (i.e., typically conventional money), Vs equals average velocity of circulation of that kind of money, Qc equals quantity of complementary currency used as pure medium of exchange, and Vc equals average velocity of these complementary currencies.

  When a currency is not used as a store of value, it will logically tend to have a higher velocity than a currency that tends to be accumulated. In other words, Vc will be substantially larger than Vs (i.e., mathematically Vc > Vs). The economic effect of a given quantity of local currencies (Qc) will therefore be amplified proportionally by the higher velocity of this Vc currency.

  There are no current studies on the velocity of circulation of cooperative currencies. In Chapter 10, however, one of the few well-documented recent cases is described, that of a demurrage-charged local currency issued by the city of Wörgl in Austria during the early 1930s. This currency circulated between 12 and 14 times faster than official money.6

  The positive economic effects of these currencies are, therefore, more substantial than their low intrinsic value and low prestige would lead one to believe.

  DUAL CURRENCY SYSTEM

  Cooperative currencies are not generally designed to replace conventional money, but rather to work in tandem with the official system. That is why they are often referred to as complementary currencies. They supplement and balance the conventional system by stabilizing the overall competitive structure, dampening its otherwise hyperaggressive feature.

  The practice of dual currency systems is not new. Cooperative currencies have been in wide usage throughout most of history. In Western Europe, for example, they have been used without interruption for hundreds of years, from roughly 800 AD to around 1800 AD.7

  Traditionally, the dual monetary system was comprised of two different types of currencies: One consisted of gold and silver coins, which were acceptable for long-distance trade, and the other was a set of smaller coins of copper, lead, and other metals mainly used for local exchanges.8 As noted earlier, an example of the former was the bezant, a Byzantine gold coin that holds the world record for longevity of a currency.9 Examples of the latter include the currencies issued by local or regional lords, city administrations, bishops, or monasteries.

  Another system, the tally stick, was introduced by King Henry I of England. This currency was made of polished wood, with notches cut along one edge to signify the denominations. The stick was then cut in half so each piece still had a record of the notches. The monarch kept one half for proof against counterfeiting, while the other circulated as money. This worked very well for 726 years.

  Despite these examples, such local systems are often described as defective, riddled with problems that the establishment of the international gold standard would later claim to remove.10 The coexistence of different forms of currency is interpreted as a lack of homogeneity and, therefore, as a hindrance to the efficient functioning of exchange and price formation. It is also possible to argue quite the opposite, however, recognizing the differentiation of currencies as an institutional feature expressly designed to keep separate exchange circuits of different natures (local versus long distance) and different monetary functions (store of value versus means of payment).11,12

  CURRENCY VERSUS BARTER

  Given the collective blindness around money, terms are often interchanged in the belief that they are synonymous. Cooperative currencies are typically designed to facilitate transactions, that is, to operate purely as a medium of exchange. But cooperative currencies should not be confused with barter exchanges.

  Barter is the direct exchange of goods or services unmediated by any type of money. For example, a boy agreed to cut his neighbor’s lawn. The neighbor had two tickets to an upcoming Van Halen reunion concert he couldn’t use; he also had an earlier version of an iPod lying around. But the tickets were not of interest to the boy, and the used iPod, the neighbor realized, was far more valuable than the boy’s time and effort warranted. Bartering requires matching the needs and resources of both parties involved in the transaction, yet it’s not always possible to line up an equitable exchange of goods or services. So the neighbor may decide to pay the boy in cash rather than bartering, and put the items up for auction on eBay.

  In most cases, cooperative currencies are not instruments for saving or investment or, in technical terms, to be a store of value. This cuts to the crux of the issue of conventional money. As it is used as a store of value, there is a built-in tendency to save it, while at the same time it functions as a medium of exchange, meaning it’s supposed to be spent. This juxtaposition of functionality causes a push-pull conflict. Conversely, cooperative money, by and large, is designed to facilitate transactions by being a medium of exchange exclusively—nothing more, nothing less. Savings and stores of value accrue using other items, such as savings accounts or bonds denominated in conventional money, real estate, gold, or a charcoal etching by Impressionist Edgar Degas.

  INTEREST VERSUS DEMURRAGE

  In Chapter 3, the singular dynamics of interest were revealed. In contrast to conventional currencies, some cooperative currencies carry a negative interest rate, namely, a time-related charge for holding onto money. This is called a demurrage fee. This term comes from the railroad industry, which would levy a charge for a railroad car that was left idle. When applied to money, a demurrage charge means that if money isn’t spent within a given time frame, a fee is applied. In the parlance of local currency circles, if the currency isn’t spent by a certain date, the money rusts.

  Applying such a fee generates an incentive to spend the money before that date. This ensures that the cooperative currency is kept in circulation. Remember that most local currencies are designed purely as a way to pay for goods and services and not for savings. The point of these currencies is to get an economy moving again.

  There is another important factor to consider, especially in light of efforts to create a sustainable world.

  A demurrage charge does not cause the future to be discounted, so long-term projects can be favored and the resources of the Earth can be protected and nurtured. That is why, in a vignette in Chapter 12, a corporation empowered by a money system with a demurrage is rationally deciding to invest in a 100-year reforestation project in sub-Sahara Africa or a multigenerational watershed conservation plan for the Himalayas.

  What’s more, the boom and bust phases of the business cycle can be addressed effectively when a demurrage-charged currency is designed to be countercyclical. Such a currency would then be issued in greater quantities in a downturned economy, when the banks are not inclined to make loans. This generates a more dependable economic environment, which in turn translates into more employment opportunities, thus averting massive layoffs and business closures. This idea is explored in greater detail in Chapter 7 with the Terra initiative.

  Finally, unlike regular interest, demurrage fees do not contribute to colossal concentrations o
f wealth, so there is greater equality and less income disparity within the system. Consequently, rather than money eroding social capital, demurrage-charged currencies engender a greater sense of community.

  CONCENTRATION OF WEALTH

  The law of concentration has been sometimes described as the 80-20 rule, and it manifests almost everywhere in nature.13 It explains, for instance, how big, medium, and small rocks and sand are distributed unevenly in riverbeds. Similarly, it applies to matter and particles (most of it in the universe is concentrated, probably in black holes), waterways (most sweet water ends up in a few big rivers), traffic on the World Wide Web (most goes through a few sensitive hubs), demography (80 percent of the population lives on 20 percent of the land, such as in cities), and even popularity (a few people—politicians, entertainers, corporate leaders—accumulate most of the attention). It also applies to the workforce (80 percent of the work is done by 20 percent of the staff) and commerce (20 percent of customers often generate 80 percent of sales in a given company). Particularly relevant for us is how this applies to the distribution of wealth, where it has also been called the Pareto distribution.

  In all these cases, some concentration is natural, but the concentration doesn’t automatically have to be stuck at a magical 80:20 ratio. By simply increasing the number of exchange transactions, automatically the concentration effect is reduced.

  As stated earlier, in comparison to national money, local currencies have a higher velocity of circulation—meaning there are more transactions. There are two principal reasons for this. The first is that for the most part the currencies are designed purely as a medium of exchange: They are intended to be spent, not saved. (The addition of a demurrage charge boosts this function as the money “rusts” by a certain date.) Second, as these currencies are designed for local communities or specific networks, the money remains within the community it is intended to serve. This is in stark contrast to national money. If someone spends a dollar in Harlem on a Monday, that same dollar could be part of a transaction in Anchorage, Alaska, or Dubai in the United Arab Emirates by the end of the week. But a local currency such as a BerkShare or a Brixton Pound will remain within a short radius around Great Barrington, Massachusetts, or within the district in the Borough of Lambeth in south London, respectively, the localities of their issuance.

  SUBSIDIARITY: POWER TO THE APPROPRIATE LOWEST LEVEL

  Solutions can be generated at any level: neighborhood, borough, village, city, county, region, or state. But who is better equipped to devise an appropriate solution to a problem: the people who are actually involved or a remote, centralized authority?

  The principles of subsidiarity14 state that a central authority should perform only those tasks that cannot be performed effectively at a more local level. This is also one of the tenets of federalism, which asserts the rights of the parts over the whole, as would be exemplified, for instance, by the rights held by states in the U.S. Constitution.

  SOLUTIONS INSIDE THE BOX

  The fragility of the conventional system has been a concern for quite a while now. Following the 1929 crash, two banking reforms were proposed in the United States to ensure that such a disaster would never happen again. One was the Banking Act of 1933, also known as the Glass-Steagall Act. It strictly separated banking activities between Wall Street investment banks and commercial banks. However, the most prominent academics of the time favored another proposal known as the Chicago Plan.15

  The quickest way to explain the Chicago Plan is that bank-debt money would be made illegal. The government would itself issue a currency to be used in payment of all debts, public and private.16 Banks thereby would become simple intermediaries. They would be forbidden to lend out more than the deposits they collected. Said another way, banks would have to apply a 100 percent compulsory reserves rule, and since no bank-debt money could be created at all, banks would de facto be limited to the role of money brokers.17

  The Glass-Steagall Act was repealed with the Gramm-Leach-Bliley Act, signed by President Clinton. Since then, this repeal has been blamed for triggering the subprime crisis and the collapse of Lehman Brothers in September 2008, which in turn precipitated the global banking scramble, leaving so many governments overindebted.

  The 1930s debate—whether to reinstate some form of the Glass-Steagall Act or implement some version of the Chicago Plan—is now starting all over again. Although unofficial reports have surfaced that several nations are discussing the latter strategy, there are clear reasons that the Chicago Plan isn’t the best solution available, given the current understanding of systems.

  First, implementing the Chicago Plan would be replacing one monoculture with another. But for the economic system to be robust, there needs to be diversity in exchange media. Simply replacing a private monopoly with a public one wouldn’t resolve the resulting problem of structural fragility.

  Second, although it is true that a Chicago Plan reform would eliminate the risk of widespread banking crashes and sovereign debt crises, there would still be monetary crises. In other words, the 145 banking crises and 76 sovereign-debt crises that have hit the world since 1970 would not have happened if such a reform had been in place. The 208 monetary crashes would not necessarily have been avoided.

  Third, the Chicago Plan gives the power of creation of money only to the federal government. This could disproportionately empower central governments compared to state, regional, and local ones. Central governments have often tended to concentrate power, thereby reducing the capacity for governing entities at the lower level to take creative initiatives to deal with their problems. In the near future, flexibility will become more critically important than ever. For example, appropriate strategies to adapt to the impact of climate change may be very different in Texas as compared to Vermont or California. Or in the case of bio-regions, the Rocky Mountain caldera might address this issue in contrast with the island of Manhattan. Generally, as will be explained in depth in the next chapter, genuine regional development requires a regional currency. If the funding for such strategies is made available only from the federal level, there will be less flexibility and creativity than if both state and federal levels create their own currencies.

  Furthermore, a fourth and a crucial distinction will be made between competitive versus cooperative currencies, and it will be show that both are necessary. One can argue that government-issued currency is less competitive than bank-debt–issued currency because it is created without interest. Being less competitive however, still doesn’t make it a cooperative currency.

  Moreover, although Hayek and the Austrian School of Economics are questionable in several domains, Hayek’s condemnation of currency monopolies is compelling: “It has the defects of all monopolies: one must use their product even if it is unsatisfactory, and, above all, it prevents the discovery of better methods of satisfying a need for which a monopolist has no incentive… But the people have never been given the opportunity to discover the advantage [of using another currency].”18

  The final argument is about risk. Nationalizing the money creation process cannot be done on a small pilot scale. It must be implemented on a massive national scale or, in the case of the euro, a multinational scale. Any change always involves the risk of unintended consequences. Logically, large-scale change involves greater risk. With these distinctions between the conventional competitive system and the emergent cooperative money system, how would a new divergent monetary ecology work in practical terms?

  The final argument is about risk. Nationalizing the money creation process cannot be done on a small pilot scale. It must be implemented on a massive national scale or, in the case of the euro, a multinational scale. Any change always involves the risk of unintended consequences. Logically, large-scale change involves greater risk.

  With these distinctions between the conventional competitive system and the emergent cooperative money system, how would a new divergent monetary ecology work in practical terms?

  Cha
pter Five

  THE FUTURE HAS ARRIVED BUT ISN’T DISTRIBUTED EVENLY … YET!

  There is not the slightest indication that we will ever

  be able to harness atomic energy.

  ALBERT EINSTEIN, 1932

  (13 years before the atomic bomb

  was dropped on Hiroshima)

  A quiet revolution is happening that has, for the most part, gone under-reported. The number of contemporary cooperative currencies operating in the Western world has grown exponentially from two in 1984 to more than 4,000 mature systems today. They are more prominently in use in Latin America, Australia, Japan, and continental Europe than in the United States, although the current economic downturn is resulting in a significant increase in the United States and globally. The oldest written record of an operational cooperative system still in use today is found in Bali, Indonesia. The island-wide system was first documented in 826 AD, when writing was first introduced in that area, and it’s believed the system was thriving for centuries prior to that date.

  A diverse monetary ecology is what is needed to stabilize the global economy, but the flowering of cooperative systems and other monetary innovations has tended to be in small pockets, driven by struggling local economies. As futurist John Naisbitt noted, “Change occurs when there is a confluence of both changing values and economic necessity, not before.”1 The cooperative currency movement is a major boon to the million-plus nongovernmental organizations and local communities around the world that Paul Hawken identifies as the most powerful instruments for change in his book Blessed Unrest. He observes, “After spending years researching this phenomenon. … No one knows its scope, and how it functions is more mysterious than meets the eye. What does meet the eye is compelling: coherent, organic, self-organized congregations involving tens of millions of people dedicated to change.”2