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Jane D’Arista on gold and fiat money

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PAUL JAY, SENIOR EDITOR, TRNN: Welcome back to The Real News Network. We’re in Hadlyme, Connecticut, with Jane D’Arista. Thanks for joining us again.


JAY: We talked about the need to democratize the Fed—even better, get rid of the Fed and replace it with a public-interest central bank. The second piece of the Fed that people talk about is the whole question of fiat money. So just start from square one. What is fiat money? And is it the root of all evil?

D’ARISTA: Fiat money is the full faith and credit of a government without a gold backing, if you will, or without any particular backing other than the ability of that government to tax its citizens. So the concern is that we effectively got rid of gold in our system altogether in the 1940s.

JAY: So let’s just go back to something you said in the earlier segments. So before there’s the Fed, you have some big banks, and banks print money. And their bank has some legitimacy, ’cause in theory they have enough gold sitting in their vault, and they print money not more than the gold they have.

D’ARISTA: That’s correct. Yes.

JAY: And in theory that’s a system that gives you a trustable currency, as long as the government’s willing to take these notes when you’re paying the government taxes or something else. That breaks down. And so just remind us again why that broke down, ’cause a lot of people that are suggesting that fiat money is the root of the problem don’t deal with why we got to fiat money in the first place.

D’ARISTA: We got to fiat money in the first place because there’s not enough gold to keep economies growing. If you have population growth, your economy has to grow in order to provide jobs for the new entrants into the labor market. But with finite amounts of gold, how do you do that? One option—which was discussed at the time that we actually went off gold in the system, the global system, in the ’70s, when they closed the gold window, Nixon—was, well, why don’t we just value gold up? You’ve only got a finite amount of gold, and we don’t want to really give Russia a big deal. And then there’s South Africa, and we didn’t really like the politics there, either. So what do we do? Well, okay, so, you know, now gold is—changed the price. Well, that’s discretion, isn’t it? If you decide to change the price, what’s the difference there between changing the price of gold ’cause it’s too limiting and fiat money? Same difference.

JAY: So you might as well have fiat money.

D’ARISTA: Might as well have fiat money, and then have rules and regulations on how the growth should go about. Now, it’s all in the banking system or the financial sector. These are the people who help a central bank make money. They make money because they lend, and then they create economic activity, and then that enlarges the money supply. I mean, those things are very much linked together.

JAY: I mean, in theory, if paper money is going to have value and it’s not linked to gold, which, as you’re pointing out, doesn’t really tell us what the currency’s worth anyway, then what does—I would have thought that money has something to do with the real economy, that if the real economy produces this much wealth, then you can have that much currency. And if productivity goes up, then you can have more currency, and if productivity goes down, you should have less money in circulation. But that’s not going on, either, is it?

D’ARISTA: No, but for a while it could go on, or did to some extent when the Federal—let’s talk about the Federal Reserve had control over, as I mentioned in another segment, the supply of money, as well as the demand for money in terms of the interest rate. If I raise the interest rate too high, you’re not going to borrow. But if I also put a reserve requirement on the bank that rises, it’s not going to lend. So that’s two ways of controlling how much money is in the system. And we got rid of one of them, the reserve requirement. And so we’re not controlling what the banks do. And then you have this external market where there is no control. Now, we’re not the—you know, that was the way we did it. The Bank of England had what they called a corset. In other words, they told the banks how much they could lend every year. The Bank of France, for example, before we deregulated all the central banks, had a situation in which they said—this was very commonplace among central banks—banks, you can increase your lending by x percent this year, a little more if it’s for exports or some other preferred sector. The Swedes wanted a little more if you’ll build more housing, etc. So you have a certain amount of discretion there. And you then look at your central bank and say, “How well did you do for us? I mean, have you kept the supply under control?” We haven’t.

JAY: Well, there seems to be no mechanism now other than you can print as much money as you want until you think it’s going to be inflationary, and then, once it’s inflationary, you can raise interest rates and pull some of it out. And then, as soon as it starts getting depressionary again, you can start printing it again. And there seems to be no other rationale to it. They just pour it in, and then you can start taking it out and pour it back in again. But it seems to have nothing to do with what the real economy’s doing.

D’ARISTA: No, because the whole speculative thing has distorted it. But during the period before we got into sort of incredible inflation in the 1970s, the situation was much more reasonable, and the Congress would say, well, where’s the money supply? You know, we have these measures. What’s M1? M1 is, you know, the basic amount of money. M2, M3 get up to total credit. And finally there were people who were saying you’ve got to measure total credit. And that was something that the Fed never did.

JAY: Well, what would you like to see? What would be a rational monetary policy?

D’ARISTA: I would say we have to go back to reserve requirements. We have to give the central bank control once again over the supply of money. But since the banking sector is a very small part of our financial sector now, we have to impose reserve requirements on all financial institutions. And the only way that we can do that is by putting them on the liability side of the balance sheet. So we’re going to change the whole system. Now, people have said this is utopia. But it’s also very practical and rational. If you had a situation in which everybody—insurance companies, investment banks, hedge funds, etc.—had to have reserves with the Fed, the Fed creates these reserves, and it puts them, as it were, deposits from the Fed on the liabilities side of the balance sheet where capital is, where the customer funds come in. It does this by buying an asset from that institution under a repurchase agreement.

JAY: Okay, make that simple.

D’ARISTA: Okay. If it goes into, say—.

JAY: Describe an actual transaction.

D’ARISTA: I’m going to talk about a bank that is a regional bank, that is your neighborhood bank. So the Federal Reserve comes to your neighborhood bank and buys $100,000 worth of assets, and it gives you $100,000 of reserves, which sit, then, on your balance sheet on the side where the liabilities are, your capital, your customers fund. What has happened to you as a bank of this size is now you have more liabilities than assets. You’re not balanced. Your balance sheet is out of balance. So what do you do? Well, you’ve got these liabilities. You go buy another asset. And that’s how you spur the economy. Now the Fed says, “Okay, too much. I’m selling back that asset to you and I’m taking away your liability.” You’re out of balance again. You’ve got more assets than liabilities. You’ve got to sell an asset.

JAY: An assets would be what?

D’ARISTA: An asset would be a loan to somebody.

JAY: A mortgage or—

D’ARISTA: A mortgage.

JAY: —a car loan.

D’ARISTA: Car loan. Anything. So now you’ve got to strip down your balance sheet on the asset side. So you’re contracting credit that way. The first way, you were expanding credit; now you’re contracting. It’s much better than this interest-rate thing, where, you know, some people are going to pay the higher interest rates ’cause they need the money. It’s not consistent. It’s not reasonable. And as Greenspan admitted, you’ve got to go either higher or lower with the interest rates, create the volatility, which does not help your economy, certainly not your productive sector.

JAY: Some people have called for banks, some kind of bank that’s essentially a public utility, some way to facilitate credit that simply bypasses the private banks altogether. So let’s talk about that and other public options in the next segment of our interview with Jane D’Arista. Please join us.


Please note that TRNN transcripts are typed from a recording of the program; The Real News Network cannot guarantee their complete accuracy.

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Jane D'Arista is a research associate with the Political Economy Research Institute (PERI), University of Massachusetts, Amherst where she also co-founded an Economists' Committee for Financial Reform called SAFER (Stable, Accountable, Efficient & Fair Reform) and gave testimony to Congress on financial reform. Jane served as a staff economist for the Banking and Commerce Committees of the U.S. House of Representatives, as a principal analyst in the international division of the Congressional Budget Office. Representing Americans for Financial Reform, Jane has currently given Congressional testimony at financial services hearings. Jane has lectured at the Boston University School of Law, the University of Massachusetts at Amherst, the University of Utah and the New School University and writes and lectures internationally. Her publications include The Evolution of U.S. Finance, a two-volume history of U.S. monetary policy and financial regulation.