Financial Literacy

Do You Really Know What Money Is?

Mr Life CEO - Do You Really Know What Money Is

money/ˈmʌni/noun

a current medium of exchange in the form of coins and banknotes; coins and banknotes collectively.

-Google Dictionary

This is the meaning we have been made to believe. By this definition, you may think you have some in in your wallet and (hopefully) the rest, in your bank.

What if I told you those aren’t really money? 

Many people confuse money with currency. Who can blame them? Governments all around the world have adopted a flawed monetary system for the last 46 years or more – a lie that has been pulled over our eyes to blind us from the truth. The truth that a system that has been put in place to rob all us of the blood and sweat we put in to exchange for worthless currency that has been created out of thin air — so that the rich can get us to do whatever they want, whenever they need, without any restrictions.

Why money?

Before we go on this dark journey, let’s think about what will life be without money.

Imagine dragging around a cow, sheep and your grand piano out all day, to exchange them for something to eat, drink, or a ride to visit your friend. You wonder if the bus driver is willing to accept a payment of a grand piano for the ride — and if he has that Nintendo Switch you’ve been longing for the whole year, to offer as change for your piano. Cross your fingers he doesn’t offer you another cow, because dragging one more along with that sheep for bartering your way through the rest of the day will be such a bummer.

Thankfully, at some point in the past, people found gold and decided that if you broke them down to little coins and nuggets, was much more convenient to carry around for the exchange for goods and services. So our first viable candidate for a “medium of exchange” was born, saving us from the absolutely ridiculous scenario highlighted above.

Why gold then? In short, it is hard to find. Someone has to actually put in time and effort to locate a vein and extract it from the ground. If anyone could simply pick up a handful of dirt at the side of the road to exchange for that sheep you’ve been raising for the past 5 years, then why bother with the sheep?

You can also be sure that gold is going to be there, no matter how long you put it away for. It will not lose its luster by rotting or corroding away under normal conditions. Hence, crowning it the title of a good “store of value”.

Hence, we have the basic premise of money. A good “store of value” for use as a “medium of exchange”. 

The origin of currency

The origin of paper money dated back before the days where there was the “Gold Standard”. It was a period when physical gold was still used as a medium of exchange. However, somewhere along the way, I guess someone’s pants broke due to the weight of all that gold needed to purchase himself a carriage.

Then, some enterprising dude came up with the idea of setting up a business he calls a “bank”. He will help you safely store all your gold for a fee. In exchange, he will issue you promissory notes, each guaranteeing a value relative to the gold you have deposited with him. These conveniently fold-able pieces of “banknotes” can then be used in the exchange for goods and services with others who also recognize its value. Hence the birth of the modern currency and a revolution for trading!

To get more people to accept his currency, he promises that anyone can go to him to exchange for physical gold equivalent to the promised value on any of his banknotes. He has to make good his promise otherwise, no one will want his banknotes or dare deposit their gold with him!

Where does money come from?

The banker makes his money when the depositor agrees to pay a certain amount of his deposit as a fee for keeping it safe. The overall amount of gold remains the same, just that the owner agrees to receive less in return for the safekeeping of his remaining gold.

The banker lends out some of this gold to anyone who promises to repay the principal amount in the future, plus a little more as a fee for borrowing the gold today. This additional source of income for the banker is his interest income.

The borrower has to obtain the additional amount of gold from somewhere and sometime in the future to repay as interest. Only then, when the borrower has fully repaid the principle amount borrowed, plus interest in gold, is the loan settled. Additional gold from outside the system is earned by the banker and added into his vault, accounting for the gains created by interest.

Gold is the only true money. All other representations are just currency.

Ideally, the banker has to take into account the risk of someone not returning the borrowed gold when he issues a loan. For which he will have to compensate with the gold he has earned through his deposit fees and interest income. The banker cannot lend out more gold than the total sum of gold he has earned in order to keep his business legit. This makes for really slow earnings. Furthermore, when a loan is issued, it takes time to be repaid.

So as with all things worth anything to us, greed soon sets in.

With the desire to earn more, the banker makes a very dangerous assumption: There is unlikely to be a situation where everyone will be withdrawing all of their gold at the same time.

This means he doesn’t really need to have that much gold idling around. As long as Tom doesn’t know that the gold he is withdrawing actually belongs to Dick, because his own deposit has been loaned out to Harry, who has yet to repay it, the banker gets away with the additional interest earned by lending out more than he could cover for. As long as Dick doesn’t withdrawal his gold at the same time as Tom, no one will know. Should Harry default on his loan, the banker hopes to recover his losses through earnings from other loans before Dick makes his withdrawal.

This is a very risky assumption and in order to make it work, the banker needs to increase the amount of gold in his vault to cover withdrawals. Rather than ensuring that he has enough earnings to cover risks of bad loans, he now needs to only attract more deposits to give the illusion that anyone’s gold can be withdrawn at anytime. He starts offering to share part of the interest he earns with his depositors to attract their gold.

Then, something interesting happens.

One person’s spending is another person’s income.

-Ray Dalio

When a loan is issued to a borrower and the borrower spends it, the person who earns that money deposits that same gold back to the bank. The banker, unable to distinguish that the gold was actually the loan he had issued but yet repaid, proceeds to issue new banknotes for the deposit. This increases the amount of currency than the actual amount of money it represents in the system. He has therefore made an over-promise on that batch of gold. Thinking that he has a new supply of gold now, he proceeds to issue more loans, increasing the likelihood of the same gold being deposited before the new loan has been repaid. When a loan has yet to be repaid and new currency is issued, credit is created.

Over time, the banknotes are backed by lesser and lesser gold as more credit is created. Because currency (banknotes) and money (gold) spends exactly the same back in those days, the people in the town where the bank operates start feeling more affluent. They think they are earning more due to increased spending from borrowers.

At some point, someone realizes that most of the “money” spent around town are borrowed from the bank and the amount of banknotes in circulation seems to be backed up by an impossible amount of gold known to exist in the system. Worried folks start going to the bank to withdraw their gold as faith in the banker’s notes starts to be questioned.

The banker’s unlikely scenario starts to materialize. Most of the loans are still out there, and his currency are mostly backed up by credit — in other words, promises for loan repayment — instead of actual money. There just isn’t enough gold in his vault to cover all the withdrawals. News of this goes out and triggers a “run on the bank”, as everyone starts to prefer holding onto gold rather than the questionable banknotes. The bank collapses, people lose their money and plunges the town into chaos and depression.

At some point, the rich bankers who got away, manage to infiltrate the American government and decided to buy their way into positions of influence. Regulations were set up but they were not able to solve the problem. Those regulations were inefficient at best as they were created with the banks’ profits in mind — such as mandating that banks keep at least 15% of their gold as reserves instead of lending out everything. Common sense would know that lending out 85% of the bank’s gold wouldn’t lower the risks of bad loans, so banks continued to fail. In the end, instead of coming up with better regulations to solve the problem, they decided to exploit the problem to their advantage. Realizing that if money is directly tied to the total supply of gold, there is a theoretical limit to how much they can earn — to rid themselves of this limit, they had to get rid the people’s desire for gold.

Therefore, they setup the Federal Reserve, as its known today, a private non-government organisation that has the power to print banknotes. This currency is to be used by everyone by law, for the trading of goods and services. The Federal Reserve can provide loans to government and banks if needed. They call this “liquidity”, and it was meant to give the people a false sense of security with their faith in the government-issued currency to prevent a run on the banks.

The Federal Reserve is also exempted from tax and audit by law. It also managed to convince the rest of the world to use it as a “reserve currency” as it is pegged to the value of gold. To simplify international trade, all other currencies peg themselves to the US dollar as a standard of measurement instead of each representing their own value in gold. 

Knowing that it is difficult to distinguish money with the currency it produces, it starts printing lots of its paper currency. The US exports its currency all around the world, using it to buy goods or exchange them for gold used to fund the first and second world wars fought by Europe.

As it turned out, France eventually found out what the US was doing doing and demanded to have their gold returned. Everyone else soon followed. As more countries exchanged the US currencies with gold, the United States’ Federal reserves were soon going to run out of gold for redemption. They needed to do something before the cat is let out of the bag.

In 1971, United States President Nixon ended the gold standard which prevented the further exchange of the US currency with gold. The rest of the world soon followed.

To kill the last remaining faith of those still clinging onto gold-backed money, the government later outlawed the ownership of gold and demanded that everyone turn in their gold to the central bank in exchange of government-backed dollar notes. Gold is no longer a legal medium of exchange and everything has to be traded using the government-issued currency.

Now armed with the power to print money not backed by anything of value other than a promise, governments all around the world started their money-printing spree.

In summary, to answer the subject of this subsection:

Money has been replaced by currency with the abandonment of the gold standard. Currency comes from central banks of governments all around the world, created using nothing but paper, plastic, ink, various non-precious metals — backed by nothing but a promise.

Should you have faith in the current monetary system?

The currency today is being diluted everyday with more being introduced into the system. Does it make it a good store of value to be considered as money?

How different is this from the regular dirt just lying by the side of the road?

To be honest, if the government declares dirt as legal tender tomorrow, then it shall be. Hence the reason why its called “fiat” money.

The reason currency is widely used today, is due to the blind faith and ignorance of majority of the people using it. Like frogs being slowly boiled alive in a pot of water, our economic energy is being stolen by the dilution of the currency we earn. Banks get to create vast amounts of currency out of thin air — while our government borrows from them to pay our ministers insane salaries, and expects us to work and toil so that it can collect taxes from us to repay its debts with interests.

This is modern-day slavery.

The short story above is just a simplified illustration of how human nature lead to the creation of a system that is meant to exploit the masses, to benefit a few — but its not too far from the truth.

The following video (20 minutes) will shed some light on the real history of money, as well as what we’ve gotten ourselves into today. I seriously recommend taking sometime to go through them. It is entertaining just as much as it is informative. 

The “growth” of economies today is built upon increasing “promises to repay”. The average people are encouraged to use debt to live the life they are “entitled” to — to borrow what is essentially made out of thin air, and work hard to exchange their time, blood and sweat to repay their loans, with interest.

“Future value” and “compounding effect” of money, all point to the need to print new money to keep up with the promises for all the credit issued today. Credit that will hopefully be settled sometime in the future.

We’re typically made to believe that “work” is required to generate enough value to settle those debts. 

Unfortunately, with the low interest rates of the last decade, “value” has been diluted at an exponential rate by cheap loans that are only made available to the rich and large corporations. While the average Joe works hard to keep up his promises, the economy is flooded with more credit created out of thin air and passed on from one rich entity to another. While the rich convert their cheaply obtained credit into more currency, making them richer along the way, poor Joe is forced to work even harder to keep up his promises — as the value of his currency becomes diluted due to more currency flooding the system than actual value created.

Take a look at the following video (43 minutes).

As debt rolls on from one rich entity to another, will it eventually be repaid? Or will it all go up in a puff of smoke?

Greed has penetrated the highest echelons of our society. The financial industry has been deregulated for many years and ran by those who have no definition of “enough”.

Unless the world unanimously decides to switch to another monetary system tomorrow — whether it be gold or bitcoin — it will be nearly impossible to break away from the current monetary system that is already so deeply embedded in our lives. Not without incurring significantly catastrophic collateral damage.

The only thing we can do, is to be aware of the atrocities that is happening now and take the necessary steps to protect ourselves.

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