Foldvary: Iraq: Avoid Fiat Money!
|February 18, 2005||Posted by Fred Foldvary under Archive, Progress Report, The Progress Report|
Iraq: Avoid Fiat Money!
by Fred E. Foldvary, Senior Editor
The old currency of Iraq is defunct. It has become a collectible rather than a medium of exchange. The U.S. military administration is paying workers in U.S. dollars.
The interim government of Iraq will need to deal with money and banking. Here is a great opportunity to start fresh rather than copy the failing fiat-money policies now practiced throughout the world. Currency after currency in Latin America, Africa, Asia, and previously in Europe, has been inflated to a worthless nothing. The reason is very simple.
All countries today issue fiat money. That means the money is created by government command. Essentially, fiat money has no cost of production. If something can be created at no cost, its value can drop to just that, zero. As the central bank issues ever more fiat currency, the price level rises and the value of the currency falls.
Probably the ultimate best policy for the new government would be to do nothing about money, and just let people use whatever currency they wish. Various foreign currencies would circulate, and entrepreneurs would see an opportunity to issue private local money, and the best moneys would become widely circulated and become the media of exchange.
But the new government will most likely wish to issue a new Iraqi currency as a symbol of the new era and as a nationalist device. In that case, what kind of money would be best for the economy? It would be a great error to copy central banking and fiat money just because that is the current monetary fad. Aside from political pressures, central bankers just don’t have the knowledge to know how much money to issue for stability. This is unknowable.
Iraqis would not want to base their new currency on the dollar or the euro, but would want to have their own independent domestic money. To anchor the value, the Iraqi money should be convertible to some commodity at a fixed exchange rate. It should be a commodity that folks regularly use. I propose a currency based on postage.
The government of Iraq would issue “forever” postage stamps valid for domestic use indefinitely. These would be a good store of value, since a stamp could always be used to pay for postage. Then the government would issue a currency called the “post.” It would have a picture of the “forever stamp,” and a one-post bank note could always be exchanged for a “forever” stamp. The unit of account of the money would thus be the post.
Now the currency would have a stable anchor. The government would not want to over-issue, since the posts would be obligations to provide postage service. Inflation would be possible if the government subsidizes the postal service, but then this would create a real cost for the government. In contrast, with fiat money, inflation benefits the government chiefs as a tax on money holdings, easier to impose than taxes on income or sales. The incentive for the government would be to avoid inflation.
The post should be a voluntary currency. Banks should be free to use any currency and issue their own private currency, as would be any person or organization. There should be no deposit insurance, required reserves, or other restrictions on banking other than being honest. So long as the bank policy is fully disclosed, it would do business with willing customers as it pleases.
Besides stable money, Iraq needs free trade and a sound system of public revenue. The U.S. government has called on the United Nations to drop trade barriers with Iraq. Unfortunately, some European countries are resisting this, first wanting to settle how the oil will be handled. This is wrong. Let’s have immediate free trade for Iraq!
The U.S. government is also calling for the elimination of the national debt of Iraq. Again, some European countries, having loaned billions to the Iraqi dictatorship, now resist canceling the debt. If they want to impose conditions, they should just be ignored. The Iraqi debt should be declared wiped clean. It was the dictator’s debt, not the people’s.
The public revenue for the new Iraq should come only from the rent of natural resources. Oil profits, which is really the economic rent of that resource, should finance reconstruction. Local governance should be financed from the rental value of land. There is no need to impose any tax on wage income, sales, or business profits. Investment will rush to Iraq if it is not punished with taxes. If we are serious about freedom for Iraq, it should include economic freedom.
So that’s the formula for success in Iraq. Establish sound money based on a real commodity. Cancel the debt. Have free trade. Get public revenue from rent. The economics is easy. It’s the politics that’s hard.
Copyright 2003 by Fred E. Foldvary. All rights reserved. No part of this material may be reproduced or transmitted in any form or by any means, electronic or mechanical, which includes but is not limited to facsimile transmission, photocopying, recording, rekeying, or using any information storage or retrieval system, without giving full credit to Fred Foldvary and The Progress Report.