Discussions about improved prudential regulation, changing the incentives that players in the financial sector face and the possibility of a financial transactions tax as means of reviving the economic system have tended to overlook innovative monetary proposals that focus on changing the nature of credit money itself. Some of these have come from outside academic economics and aim to promote eco-friendly paths of economic recovery. In this post I hope to stir up some discussion by presenting a guide to some of these proposals and showing how they are related to each other. First, though, it is necessary to offer a short reflection on the need for reliable stores of wealth.
During the Global Financial Crisis we have tended to think of property bubbles as being driven, on the demand side, by consumers operating with a ‘get rich quick’ mentality, who hope to increase their wealth or ability to consume more rapidly than they can by generating income from work. However, in the 1970s, when inflation was accelerating, property prices were often driven less by hopes of easy capital gains than by the potential for a house to serve as a hedge against inflation. Real estate markets therefore tended to be fuelled by first-time buyers trying to get on the home-ownership bandwagon before their deposits eroded. With bitter experience of losses associated with financial failures and weak stock markets, consumers are again looking for safe stores of value, especially if they are retired or approaching retirement. Though house prices can go (and have gone) down as well as up, the combination of short memories, the tangible nature of real estate and limited taxation of capital gains on home ownership is likely sooner or later to sow the seeds of another real estate bubble and further financial disasters, unless consumers are presented with credible alternative stores of value.
Ideally, such a store of value would help support effective demand without having adverse environmental consequences. Precious metals such as gold serve well as stores of value precisely because their production cannot easily be increased. The difficulties entailed in mining and refining them bring bad news regarding energy use and other sources of pollution such as mine tailings. The limited geographical spread of such resources means that few economies benefit directly when they are in high demand as stores of value. (Australia’s current prosperity and woeful carbon footprint per capita both are partly a consequence if its luck in having gold as well as other sought-after minerals.) The good news is that some of the innovative approaches to creating stores of value appear to have potential to serve us all far better in this respect than mining precious metals has done.
These ideas typically involve the creation of something that can serve as a parallel currency alongside the official currency, rather in the way that US dollars are often accepted by traders and circulate widely parts of Latin America alongside local pesos. Easiest to understand are local currencies exemplified by the ‘Totnes Pound’ project (see the wikipedia entry and the project’s website) in the town of Totnes in South-West England. This is mainly designed to try to limit the leakage of spending from Totnes to other areas. The idea is not merely to maintain employment in Totnes but also to help reduce environmental damage since the project is part of a wider programme to make the town far more environmentally sustainable than a typical town. Totnes Pounds come into circulation after individuals buy them in exchange for Pounds Sterling, with the latter being held in trust in a regular bank account. They can be spent at any business that accepts them in the locality.
Clearly, the success of the Totnes Pound project, and its imitators in other towns, depends upon its ability to win strong community support so that its unofficial currency is accepted in many businesses. Without this, people who accept Totnes Pounds in payment will then tend seek to sell them back to the trust in exchange for Sterling. The limited acceptability of a parallel currency inherently makes people nervous about using it and gives a sense of restricted choice similar to that experienced by members of the Bartercard network. (The probability of being unable to use Bartercard credits readily may result in traders who are members of the network only accepting Bartercard payment if the customer foregoes a cash discount.) But in the case of the Totnes Pound the project is designed to limit choice, to stop spending from leaking out of the eco-friendly town, and community support has been strong.
The next step along from issuing a parallel currency in exchange for official currency is to use the proceeds to finance eco-friendly ventures rather than simply keeping the receipts from selling the parallel currency in trust in a regular bank account. This is pretty much the idea behind what is known as Green Money. If local knowledge and social connection can be employed to assess creditworthiness and enforce repayment obligations, the administrators of a Green Money fund may be able to offer loans with lower rates of interest that regular banks would charge (or make loans available when they otherwise might have been declined), thereby making it more viable to invest in eco-friendly projects with lower internal rates of return than rival technologies that do not have to cover their environmental costs.
Notice how, under a Green Money system, this addition to the supply of credit can come about without community-/environmentally-conscious consumers necessarily keeping their savings in a ‘green bank’: the Green Money liabilities of the trust are the Green Money notes in circulation and these notes typically will get created because people buy them as means of payment rather than as alternative stores of value. With no deposit interest inducement needed for the system to operate, loan charges can be reduced yet further, making eco-friendly projects with long payback periods yet more viable. If people buy the alternative currency via a transfer from their existing bank to the trust’s bank account they do not change the ability of the banks to lend, though they will be reducing the velocity of circulation of money defined in terms of the liabilities of traditional financial institutions.
In contrast to the idea of a parallel local currency stands proposals based around transferable titles to standard products, such as kilowatt-hours of electricity (as in the work of Shann Turnbull or in Robert Hahl’s ‘kilowatt cards’ experiment). What happens here is somewhat akin to what happens when we insure our cars, homes or health by parting with a known sum of money today in return for some kind of guarantee of being able to get a particular kind of service at an unspecified date (in these cases, typically within a particular year) if a particular contingency arises. By buying insurance, we know where we stand in that part of our lives – at least, so long as we have read the fine print carefully and the insurance company does not default. The ‘fine print’ issue should be less of a problem with Hahl’s ‘kilowatt cards’: the buyer of these cards hands over (by electronic transfer) a sum of conventional money in return for vouchers that can be redeemed to pay for a specific number of kilowatt-hours of electricity. The ‘kilowatt card’ organization makes the transfer to the nominated electricity company account on behalf of the person who is trying to redeem the vouchers, and an ingenious voucher registration system prevents counterfeiting by ensuring each voucher has a unique registration code that initially resides partly on the vouchers and partly online. Consumers who buy these vouchers can use them as stores of value or as gifts to others. Those who hold the vouchers can opt to sell them rather than redeeming them for electricity.
If a kilowatt-hour monetary system is running, consumers can exchange a known sum of conventional money today in return for access to a known quantity of electricity at an unspecified point in future. Someone who is about to retire can thus guarantee their electricity supply for a particular number of years by buying the requisite number of vouchers and thereby insulate themselves from unpredictable changes in energy prices, interest rates and stock market yields. If they find themselves using less electricity than expected, they can later sell surplus vouchers, and if they die before using the vouchers, their bequests can include these titles to electricity services. At no point does the system require the issuing organization or any other party to store electricity, despite these titles to electricity delivery serving as stores of value.
In this system, buyers of the vouchers run the risk that electricity prices may fall, or that the issuing organization goes bankrupt and fails to honour the vouchers when they are presented for redemption. By buying them today the consumer foregoes the opportunity to invest the funds in alternative assets. However, the organization that issues and honours the vouchers then has the opportunity to invest the proceeds from the sale of vouchers so long as they are in circulation. Aside from costs of administering the scheme, the main driver of the difference between the current offer price for electricity vouchers and the current price of electricity will depend on balance of expectations about future prices of electricity and other assets between consumers and the issuing organization, along with their risk preferences.
In principle, a single class of voucher could be used to pay for an identical amount of electricity anywhere in the world, despite the fact that, due to the costs of long-distance transmission and lack of integration of electricity networks, there is no single ‘world price’ for each kilowatt-hour. Like a bank or insurance company, the issuing organization (or another institution to which it on-sells the risk) will need to manage the proceeds of voucher sales and the price at which it offers new vouchers in such a way as to prevent itself from running into crises of liquidity or solvency. The former could arise if too many consumers tried to redeem their vouchers at the same time and the organization had too much of its portfolio tied up in illiquid assets. The latter could arise due to the issuing organization misjudging the trend in the average price of a kilowatt hour of electricity or the geographical mix of electricity accounts against which vouchers were presented for redemption (for example, too many might come from remote areas with expensive electricity). There could also be losses due to poor investments. If it wished, the issuing organization could operate on eco-friendly principles and use its investment funds to finance, say, major solar panel arrays or wind turbine schemes that would be able to produce electricity more cheaply in the long term than carbon-burning electricity generation systems.
Monetary innovations based around kilowatt-hour vouchers may have a good chance of attracting the interest of the financial community, for there would be major new opportunities for speculative activity due to uncertainty about the future price of electricity. This possibility could be a cause for concern among those who take seriously the writing of Minsky or Kindleberger on financial instability. Yet, without the involvement of trusted financial institutions, such a system could be hard to launch due to consumers doubting whether the vouchers would actually be honoured when the time came to redeem them. Like many insurance schemes, the kilowatt-hour voucher proposal could founder due to problems of adverse selection unless the geographical coverage of any particular class of voucher were limited to areas with similar electricity prices. This somewhat limits the possibility of such vouchers coming into worldwide use as a kind of substitute for the sort of ‘international commodity reserve currency’ that Kaldor, Hart and Tinbergen proposed in 1964, or as something approaching a Sraffian ‘standard commodity’ that enters directly or indirectly into the production of everything. Such a scheme might also be confounded by the use of multiple tariffs for electricity according to the time of day it is being delivered: as well as needing to offer vouchers that were nation- or (for large counties with incomplete power grid) region-specific, the system might need to offer peak and off-peak vouchers in each region.
In theory, the ideas behind the kilowatt-hour voucher plans can be applied to all manner of standardized products that are widely used and against whose price increases consumers and producers might want to insure. Seen thus, things start tending somewhat in the direction of the wacky fictional world of an Arrow-Debreu general equilibrium economy with complete futures markets. However, there would be one crucial Keynesian difference: though consumers might hold vouchers for a variety of products and services, these vouchers would not have particular redemption dates. Thus even if all electricity were being paid for via kilowatt-hour vouchers, the electricity utilities would not know what the demand for electricity would be at any particular point in space or time. Like department store chains that issue gift cards but have no idea in which branches they will be redeemed or what they will be used for purchasing, business plans would still suffer from uncertainty about demand. Thought there would be less distortion of economic behaviour due to fears of inflation, there would still be room for failures in effective demand due to pessimism about future sales leading to restraint in the hiring of workers and orders for other inputs.
Given this problem, the obvious solution is not merely to foster the use of transferable product-specific vouchers as stores of value but to make them company-specific and include expiry dates on them. Businesses that issue them could then be confident about the level of sales they can achieve before the end of the expiry period. This is where we go, roughly speaking, if we follow the ingenious Digital Coin proposal of Paul Grignon, a Canadian film maker whose excellent animated documentary Money as Debt deserves to be screened to all students of economics.
Grignon’s plan is available in summary form in its own must-see animated video. It appears to be a way of simultaneously overcoming both Say’s Law and the problems of the Bartercard concept. From the standpoint of scholars of the evolution of Keynes’s General Theory of Employment, Interest and Money, Grignon’s proposal amounts to using modern technology to replace an ‘entrepreneur economy’ with a ‘co-operative economy’ (see Keynes’s Collected Works, Vol. XXIX, pp. 77-80). This is because workers and other suppliers of inputs used by a company accept payment for their inputs in the form of claims on the output to whose production they have contributed. Since they cannot be sure what they can exchange these claims for in terms of claims on outputs of other firms, they are sharing the risk of the business with the owners of the business. So long as substitution can be induced by relative price adjustments (and I do not believe it always can be), unemployed workers can price themselves into employment by offering to work for fewer credits that were previously being paid per hour. The employer issues the extra credits associated with making extra output and these credits will end up being used to relieve the firm of its output within the expiry period of the credits. In the world of Digital Coin, unlike Keynes’s vision of a conventional monetary/entrepreneur economy, wage cuts do not have adverse effects on aggregate demand and a fractional marginal propensity to consume on the part of workers cannot result in additional output having to be sold at a price that covers the costs of creating it.
In Grignon’s scenario, there are two kinds of coin: (i) a limited supply of ‘perpetual coins’ that serve, like ounces of gold, as the unit of account, and (ii) ‘credit coins’ that are issued by firms and can be exchanged within a specific expiry period for credit coins issued by other companies or output produced by the firm that issued them. The credit coins do not need to exist in physical terms and Grignon envisages them being exchanged and traded electronically with electronic records being kept of who is holding balances of particular credit coins being continually updated.
Imagine the case of a salaried worker who helps produce cars for Ford. The worker would be electronically credited with an agreed number of Ford credits each week. Component suppliers would be paid in Ford credits, too. Mostly they would not want to accumulate these credits to purchase Ford cars before the credit expiry date arrived. However, at any point in time, they would be able to get a price online for Ford credits, and credits for any other company’s products. To buy, say, an Apple computer, they could trade Ford credits for Apple credits at the payment terminal in the computer store. If Ford cars are not strongly in demand and demand for Apple computers is booming, Ford credits would tend to trade below their par value against perpetual coin, and Apple credits would command a premium.
It would also be possible to create a mixed portfolio of credits from a variety of companies by trading online. Because people may prefer to hold mixed portfolios, it is likely that financial institutions would offer the option of exchanging credits for any specific company, at the going price, for units of a bundle of credits comprising credits from a wide range of companies. These credit bundles would be rather like holdings of present-day unit trusts, except that they are claims on the flow of output rather than shares. We can imagine consumers simply keying in which kind of credit they wished to use to buy credits of the business at which they were buying something, much as we now selects from the ‘cheque’, ‘savings’ or ‘credit’ account menu on a payment terminal. Once a credit has made its way back to the company that issued it and been exchanged for goods, it is deleted — just as with an airline ticket that has been used and is then thrown away because it cannot be used again.
The companies that issue their respective credits to the expected value of their outputs expressed in terms of the perpetual coin unit of account do not have to worry about whether or not what they produce will be sold. This is because they have paid for production with these self-issued credits and the fact that the credits have expiry dates will ensure that their prices adjusted to a level low enough to ensure that the credits are redeemed against their output. Rather, what the firms’ shareholders, workers and input suppliers have to worry about is the exchange value of the credits in terms of which they are remunerated. Thus if workers bargain aggressively to be paid more units of their company’s credit per week, management will have to decide whether to pay fewer credits to shareholders or simply create more credits and impose on workers and shareholders the risk that their exchange value will fall if demand for the product does not expand in line with the increase in the supply of credits. If either strategy seems likely to involve unsatisfactory returns to shareholders, the managers may cut production and employment until workers moderate their claims.
Under Grignon’s Digital Coin system everyone who accepted payment in a firm’s self-issued credit becomes, in effect, a member of a cooperative. Keynes’s problem of effective demand falls away, the more so the shorter the expiry time on each new batch of credits. Supply creates its own demand but the crucial issue becomes what supply to create, so that one’s credit coins have a worthwhile exchange value. Aggregate-level coordination problems of a Keynesian monetary economy lose centre stage to the sectoral coordination problems emphasized by George Richardson in his 1960 book Information and Investment (Oxford University Press, 2nd edition 1990; see also his article in the 1959 Economic Journal). All manner of behind-the-scenes trading activities would be likely to spring up to enable risks to be traded between those who wanted to limit their exposure to risk and those who were keen to risk making incorrect guesses about the relative price trajectories taken by different companies’ credits. However, it appears that if credits had short-dated expiry periods the scope for destabilizing speculation would be relatively limited: credit coin markets would function more like short-term bond markets than more volatile long-term bond markets.
I find Grignon’s Digial Coin proposal especially well thought out. The time for this self-issued credit system to be implemented seems ripe both because of the failure of the existing bank-credit system and because we now have the technology to make it work. (If it were implemented, I presume that initially firms might offer a choice between payment in standard currency units or in credit coin.) However, I would like finally to mention a further possibility, one that takes us back to where we started, namely, the problem of real estate speculation. This final ideas is that we might be able to deter property speculation (and perhaps thus discourage people from living in bigger, more environmentally costly houses than they really need) by indexing mortgages on homes to the median prices in their suburbs whilst indexing to average residential property prices the deposits against which mortgages are funded. My colleague Bruce Littleboy suggested this idea to me and I have fleshed it out in some details in a separate post.
Anyone interested in the further development of these kinds of ideas may be interested in the 2012 Tesla Conference, 10-12th July, 2012 Split, Croatia, whose theme is energy currencies.