Why Fiat Money and Central Banking Will (Eventually) Fail

With regard to the potential success or failure of any economic, political or social institution one must ask two essential questions:

Does Natural Law exist?

If it does, then: Does the economic, political or social institution violate this law?

Central banking, fiat money and money and credit creation from thin air must be discussed in light of these questions.

ABCT is pretty clear about how and why the creation of money and credit from thin air, a central bank’s ultimate purpose, is likely to result in malinvestment or a system that generates failure. This is reason enough to question the existence of central banking.

But why is it that the tools of central banking, fiat money and money and credit creation from thin air, are doomed to create a system that fails?

The reason is simple; they violate natural law, the nature of man.

Let’s start with a premise: The creation of money and credit from thin air is theft.

When a central bank creates money from thin air they are stealing from all of the other holders of that currency. The existing holders of the currency will now have to compete with the holders of the newly created currency. Their currency now buys less.

Premise number two: Theft is a clear violation of natural law.

Premise number three: Political, social and economic institutions that are built on a foundation that violates natural law are doomed to failure as man will attempt to minimize the pain and loss that he experiences from the violation of his nature and the objective reality of the world.

Conclusion: Current central banking practices based on fiat currency and the unlimited creation of money and credit from thin air will, eventually, fail.

That is a pretty simple argument. Not surprisingly, C.S. Lewis devised a simple thought experiment that can help us understand why this should be.

This is an experiment where four objects need to be separated into two boxes. If I give you a baseball, a basketball, a baseball bat and a basketball net and asked you to put two items into two separate boxes based on things that those objects have in common, how would you proceed?

Some would put the baseball and basketball together in one box and the net and the bat in the other box. The things that are balls would be together and the things that are not balls would also be together.

Another approach would be one based on functionality. The baseball and bat would then go together and the net and the basketball would be in the other box.

Lewis used this model to examine the following items: Science, Natural Law, technology and magic.

Most people would place science and technology together and Natural Law and magic together. Science and technology are items that can be verified via empirical evidence while Natural Law and magic have more difficulty on that front.

Lewis offers a different way to categorize the items: He places science and Natural Law together and technology and magic together. Both science and Natural Law attempt to conform our minds to objective truths and realities of the world. Science teaches us about the physical aspects of nature that we need to respect and understand while natural law attempts to teach us about the nature of man, which also must be respected.

On the other hand, technology and magic have more in common than you might think as they both attempt to get the world to conform to the will of man. Of course, technology that is grounded in the physical sciences will work while magic will not.

Everyone understands that the violation of physical laws can end in disaster, imagine an engineer designing an airplane while neglecting the law of gravity or the tensile strength of the materials involved. These errors will be discovered promptly upon a test flight.

Likewise, political, economic and social institutions that do not conform to the nature of man will also fail because they do not conform to the objective realities and truths of the world. The difference is that it is difficult to estimate how long this will take and the exact form of the failure. In the physical world of aeronautics, if a wing does not create enough lift, the craft will never fly. Social dynamics, unfortunately, are a bit messier and those that violate Natural Law may take some time to be revealed, but there will be a revelation.

For example, until this moment in time, all fiat currencies that have ever been attempted have failed. Somehow, we expect the results to be different this time. They won’t be.

The 20^th Century saw a couple of massive efforts aimed at subsuming Natural Law to the will of a few men. One was the horrific Nietzchean experiment of Nazi Germany with their cult of the Superman. A world where might made right. Another saw Stalin and Mao attempt to build societies based on Marxist theory.

Not only did they all fail, they all failed despite the horrible violence that they were willing to inflict on those that did not toe the party line. Rome wasn’t any different.

There just isn’t any way, in the long run, to get man to go along with a political or economic system that violates his nature. I am willing to bet that our recent multi-decade experiment with fiat currencies and central banking will also end in failure as it violates Natural Law. Timing, of course, is the issue. The outcome is not in doubt, however.

ABCT tells us that if central banks artificially drive interest rates too low via the creation of money and credit from thin air, then the savings rate will fall and malinvestment will be created.

Empirically, this has all been happening now for decades.

 Given that I have defined money and credit creation from thin air as theft, we should assume that man would respond to this theft of his wealth in some rational way. He, of course, reduces his savings and the amount that may be stolen from him.

Reduced savings and increased malinvestment should also reduce the real growth rate over time.

It is no surprise then to the Austrian oriented investor that these are all happening in the economy of our time as a reaction to central bank orchestrated theft. What is surprising is that investors have chosen to ignore this, repeatedly, and pay absurdly high prices to participate in this deteriorating economic scenario.

Just as in 2000 and 2008, I expect this current foolishness to eventually reverse itself. As I watch stock and certain bond categories trade at extremely high valuations relative to what our society is willing to produce and save due to central bank money and credit creation from thin air, I am forced to constantly ask myself: Does natural law exist?

My answer is always, yes.

I know then that the outcome for fiat currency and central banking is not a healthy one.

Disclaimer: Nothing on this site should be construed as investment advice. It is all merely the opinion of the author.