For us in Gwlad, independence is not a children’s game – we are serious about achieving it and serious about making it work. That means thinking through some of the hard questions that an independent Wales will be faced with, and finding solutions to them.
It’s no secret that how to finance an independent Wales is the single most important question in the independence debate. The deficit that has been built up over 20 years of inept Labour administration in Cardiff Bay is the most immediate challenge, though I’ve argued elsewhere that if Wales were only allowed to grow its economy like any normal country, it would quickly melt away.
Here, though, I want to address the longer term question of where a future government of an independent Wales might be able to borrow money from, and what currency it would use. It’s a big topic and I can’t do justice to it in a single post, so this is the first of four parts. In this post, I shall go through some background, explaining how money went from being based on gold and silver coins which had value in their own right, to being tokens issued by governments representing a share in the nation’s wealth. We’ll see how this led to governments being at the mercy of international banking cartels, dominated by a few fabulously wealthy families (one of which was Welsh).
In part II, I’ll look at the two principal strategies that governments have used, over the past few centuries, to escape the influence of these family banks: namely regulated central banks, and debt-free government-issued currencies (“sovereign currencies”) such as the US civil-war ‘greenbacks’ and the UK’s Bradbury Pounds. We’ll see why they didn’t work and were eventually phased out.
In part III I shall attempt to explain how the modern system of so-called “fiat currencies” works: how money is created from thin air when people borrow it, and ceases to exist when people pay their loans back, how the system is regulated by means of interest rates and how, though imperfect, it works better than anything that’s been tried before.
Finally in Part IV I’ll argue that Wales should have its own “fiat currency”, operated by a Welsh central bank, and explain the benefits of this relative to the other alternatives of retaining Sterling or adopting the Euro. I’ll also say what I think this currency should be called.
What is money anyway?
As a means-of-exchange, in principle money can be anything at all so long as both buyers and sellers agree on its value. You may think the car you’re trying to sell me is worth £1000; I may look at it and think it’s barely worth £500. Even so, as long as we both agree what “£1000” and “£500” are worth, then we have a basis for negotiation.
Early money was based on things that had intrinsic value, in and of themselves – the earliest coinage was made of valuable metals such as gold, silver, bronze or copper. By stamping coins with the image of a king or emperor, the government was merely giving its guarantee that the coin had the proper weight and purity. This still added some value, since traders then didn’t need to weigh and check the coins for themselves each time they were used; the amount of value added depended on the confidence that traders placed in the government, since the ‘debasement’ of coinage (reducing the weight and/or purity of precious metal in each coin) had been going on since Roman times.
In the post-Roman period, Romain coins continued to be used for a long time, but the Saxon king Offa of Mercia (he of the Dyke) was among the first to introduce newly-minted coinage. The system he introduced was based on coins made of 92.5% pure silver to 7.5% ‘base metal’ (mainly copper, an alloy ratio which maximised the hardness of the metal, and came to be known as ‘sterling silver’) each weighing 1/240th of a pound.
Some 150 years later Hywel Dda was the first Welsh king to issue coins bearing his name. It’s not known how many were made, or how widely they were circulated: only a single example currently exists, which is held at the British Museum.
It turns out that metal coinage, based on the coins’ intrinsic value, has numerous shortcomings. In any practical system where coins of low values as well as higher values are needed, more than one metal must be used (e.g. gold coins for high values and copper for low ones). Whenever the relative value of the metals themselves differed from the relative value of the coins, then the under-valued coins would tend to get melted down and sold for their commodity value, disappearing from circulation. Debasement was a constant problem, whether by counterfeiters, ‘coin clippers’ (people who’d file or clip metal away from the edges of coins, hoping people wouldn’t notice – the ‘fluting’ around the edges of modern coins was first designed to prevent this) or governments themselves: Henry VIII began a deliberate policy of reducing the silver content of English coins from 1544 onwards, and by 1551 under Edward VI it had decreased from 92.5% to barely 25% (the inevitable result being that foreign merchants refused to accept English coins in payment, and the silver content was eventually restored to 92.5% under Elizabeth I in 1560).
The Gold Standard
A consequence of this was that it became customary, rather than for a country’s precious metal to be circulating in the form of its coinage, for it instead to be securely stored in banks or by governments and for everyday money to take the form of tokens representing a share of this stored wealth. This is the origin of the words which are familiar to most people from the front of modern banknotes, “I promise to pay the bearer on demand the sum of…”. The idea would be that the bearer of, say, a £10 note could go into the bank that had issued the note and demand £10 in gold (which, at the time such notes were introduced, would have been a substantial quantity). Coins, likewise, though made of base metal, would represent an (albeit small) amount of gold from the vault. The concept of ‘convertibility’ – the idea that any ‘token currency’, whether coin or paper, could be freely converted into gold at any time at a predictable valuation, became known as the ‘gold standard’. It was the main monetary system in use in Europe, the United States and their colonies from the beginning of the 19th Century until the early 20th Century.
Pros and cons
On the face of it, there are many advantages to being ‘on the gold standard’. Money had a fixed value which was easy to understand and wasn’t subject to the whims of governments. For any two countries that were both on the gold standard, even if their currencies had different values relative to gold, the fact they were fixed relative to gold meant that they were also fixed relative to each other – so that in effect, to be on the gold standard was to belong to a monetary union, simplifying international trade and travel.
However there were also some huge disadvantages.
The first of these was that the amount of currency in circulation was irrevocably tied to the amount of gold that was available to back it. Since gold itself is a physical substance, subject to the vagaries of supply and demand, this could lead to many undesirable effects. If a country’s economy grew – meaning that there were more goods and services available for people to buy – but the government was unable to obtain enough gold to increase the money supply in tandem, then the value of gold increased relative to everything else and prices went down – deflation – which often led to economic recession or even depression (because of the psychological effect of people with money refusing to spend any more than necessary, until prices fall further still). This lay behind a cycle of ‘boom and bust’ which was far more dramatic than anything we’re used to in modern times.
The sudden arrival of a glut of gold could be even worse. Whenever the growth in the availability of money exceeded the growth in goods and services that were available to be paid for, the value of money was reduced and prices soared – inflation. This was nowhere worse than in 17th Century Spain, where a huge influx of gold from its South American colonies caused rampant inflation and damaged the economy’s productive capacity in ways that took literally centuries to recover from.
The family silver (and gold)
But perhaps the worst effect was that it was hard for governments to borrow money, and when they did so it put them into the hands of wealthy private bankers. These often formed family dynasties over many generations – the Medicis in Italy, the Rothschilds in Germany, France and the UK, or the Morgans in the US. It is during this period – roughly the late 16th to early 20th Centuries – that the huge fortunes and great influence of these banking families was built up.
The Morgans originated in Llandaff, from where the three brothers Miles, James and John left for Massachusetts in 1636. The family started out as farmers, but Miles’s great-grandson Joseph distinguished himself in the Revolution and became a substantial landowner. His son, also Joseph, went into banking and insurance and by the mid-19th Century was one of the most prominent businessmen in Connecticut. His son J.S. Morgan came to control a number of banks in Boston and New York, and his son J.P. Morgan built a banking an industrial empire which made him one of the richest Americans in history, with a fortune worth some $119 billion in today’s terms. For comparison, today the wealthiest member of the Rothschild family, Benjamin de Rothschild, has assets estimated at around £1.6 billion making him the 1,121st richest person in the world.
By the early 20th century few people thought it was acceptable for private individuals to achieve such wealth largely by controlling governments’ access to finance. In the next part we’ll see what strategies were adopted to combat it, what worked and what didn’t.