That was a brilliant analogy!

(Your last post reminds me of telling a joke and then having to explain the joke to those who didn’t understand it — it kind of spoils the joke!)

Tom, the point of my article is this: money (no matter what it’s form) stands for wealth, and wealth can be used for one of two things. Either you can consume it, or you can invest it to produce more wealth. As your infrastructure grows, so does both your net output of wealth and the amount of wealth needed to keep it going. In order to stay level, a certain amount of that wealth *must* be used each year to maintain the infrastructure that created it. In order to stay alive a certain amount of wealth *must* be consumed (in my story, literally; in real life, by exchanging symbolic pieces of paper for food). The rest you can either consume or invest, and most societies usually choose to do a bit of both. A recession can be caused by either a natural disaster which wipes out crops or infrastructure, by a literal loss of commodity money (such as when a ship of gold sank in 1857, which helped to precipitate the crash of that year), or both. It can also be caused by bad government policy, like when the Fed kept interest rates artificially low in the 20′s, thus facilitating over investment and bad investment which precipitated the crash of 1929 (that can happen in a free market too, btw, but it corrects itself more easily when it does). But any way you cut it, a recession means that some wealth has been lost and that in order to preserve our infrastructure, we must save more wealth than usual and be very careful about how we allocate the wealth we do spend. We should not, no matter what emotional appeals are made, spend that wealth in consumption because the lower we drive our net wealth, the less wealth we will have available for investment, and the harder this recession will be to get out of.

All money is based on the fact that there is a value (food, a house, a factory) in the market to back it up with. Even gold wouldn’t work in the middle of an empty plain; fiat money only works because people trust it to work as well as the real thing. This is its downfall, because inevitably politicians will always use the fiat money system to pretend wealth that doesn’t exist, and you can only cheat reality for so long before the world catches on and erupts into chaos.

If you look back into history you will see that the way governments have always paid for wars and spending programs by devaluing the money supply. We did it in the Civil War, we did it when we created the Fed and the fractional reserve system and it caused the Depression, we did it again *during* the Depression when Roosevelt confiscated the nation’s gold, we did it again when we abolished Bretton-Woods so we could inflate the money supply to pay for Vietnam and LBJ’s “Great Society”, and we’re doing it now in an attempt to cover our butts with the national debt from Iraq, Afghanistan, the housing insanity, the stimulus package, the bailouts, etc. Having a fiat money supply is like telling the people in my allegory that they should attempt to replace their corn with sawdust, and eat that instead. It might fill their stomachs for a while, but it won’t work forever.

You can only have fluctuations in gold prices (not gold value, only its price) when gold is no longer used as money. How would you have a fluctuation in the value of gold against gold? Similarly, when the value and quantity of paper currency is fixed, by law, to a certain quantity of gold, the value of neither the gold nor its paper EQUIVALENT can change relative to each other, for they are, legally and practically speaking, the same thing.

Really? Then how do you think credit worked in the 1920′s when we were still on the gold standard? Or between 1945 and 1971 when we were still kinda-sorta on the gold standard via the Bretton-Woods system.

Credit is based on the assumption that the value you are borrowing today will be paid for with future production. Money is paid by a third party to purchase an item, and you eventually pay back that third party with interest, ’cause if there’s no profit in loaning money, then why should I bother? That is the same in both a commodity and a fiat system. The only difference between a commodity and a fiat system is that a fiat system gives the government a lot more room to screw around with the money supply (which I might add, has worked out oh-so-well for our economy so far).