Both of them are very open places in terms of trade and immigration and have very low income taxes (I’ll forgive Singapore it’s 100% tax on cars) and a very favourable overall tax environment for investors. And their labour laws seem much saner than ours. It does not take long to figure out why these places have open economies. They are both city states and excluding imports would mean poverty and misery. Likewise for being unfriendly towards investors. Think how people in Sydney would fare if Sydney tried to restrict the importation of food. I doubt there is any particularily liberal mentality within the mindset of politicians in Singapore or Hong Kong, just political incentives that are different and run of the mill pragmatism. It does suggest to me that if you believe in liberty then smaller nation states are probably a really good idea. If Sydney ceceded from Australia I’m pretty sure it would be a better place.

I’ve also been thinking about federalism more lately. I’ve decided it isn’t such a great idea. In theory a federalist system with a minimalist central government providing freedom of movement and trade between the constituent states, and perhaps a common currency, is a nice ideal but in practice it is never sustainable. The incentives built into a federalist system are to move power to the centre. It happens in every federalist system in the world with Switzerland being perhaps the only example which would allow a credible counter argument. Certainly the USA and Australia have seen a steady march towards centralisation of power over their history. The EU is edging down that path but the centre of that federalist system is thankfully still nice and weak by comparison. Rather than this tendancy towards centralisation being a product of flawed political thinking I believe it is a somewhat inevitable consequence of federalism. The political incentives within a federalist system are to keep the size of state taxes low. So the cental government is where the statists do their work. And so it flows that tax powers will be centralised within a federalist system. About the only way I could see a federalist system being sustainable classical liberal model is if central government was constitutionally prohibited from levying taxes and the barrier to any constitutional amendement was very high. The EU comes very close to such a system, but as can be seen with the proposed debt bailout of Greece, governments are frequently happy to simply ignore constitutions (or in this case treaty agreements).  A more solid constitution arrangement would need some mechanism by which citizens could seek personal legal remedy if the government breaches the letter of the agreement. For instance if individual German taxpayers could sue their government for significant punitive damages in the event that Germay bails out Greece then perhaps the system of financial discipline could be defended. Likewise any constitutional attempt to limit central tax powers needs some legal remedy which individual citizens can deploy.

All this implies I can imagine a federalist system that works long term. However in practice even my imagined system is probably too optimistic. It is better to abolish federations and have smaller nations. Abolishing Australia seems like a good place to start. Unfortunately our constitution prohibits it.

Currency comes in a multitude of forms. Some alternate categorisations that we might apply to currencies are:-

- Privately issued or Government issued.
- Fiat or Promisory
- Tangible or Electronic
- Paper or metallic

Perhaps the most familiar form of currency is the national fiat currencies that we encounter daily such as the plastic Australian notes we find in our wallets or the green paper notes that we call US dollars. Both of these are examples of currencies issued by governments where the value is determined by government monetary policy and market demand rather than via any contractual promise. As such they are known as fiat currencies.

Not all government issued currencies are necessarily fiat currencies. In earlier times many governments routinely issued currencies that entailed an explicit promise and they were in essence a contract between the holder of the currency and the issuer (in this case the government). The following picture shows an early US dollar that was promisory in nature and carries words that outline an explicit commitment to redeem the currency for some specific article. In this example the note carries the words: “This Certifies that there is on deposit at the Treasury of The United States of America One Dollar in Silver Payable to the Bearer on Demand”. So long as the term “One Dollar in Silver” means a specific weight of Silver (as in US law it once did) then such a note is not a fiat currency but a promisory note.

So a government issued currency need not be a fiat currency, even though pretty much every government issued currency today is. Private institutions can in theory also issue such promisory notes. The next images shows an historical example of a promise issue by “The City Bank of Sydney”.

This note promises to pay the bearer 20 Pounds on demand. At the time “20 Pounds” legally meant a particular quantity of gold coin.

However such paper promises will only function as a medium of exchange if they are transferable. If the promise is explicitly made out to a particular person, rather than to the bearer (holder) in general, then the item can not serve as a medium of exchange. A promise that is to a particular named party does not have any redemtion value to a third party and so it won’t circulate. The following images shows a modern example of a paper promise that won’t circulate because it is specific to a named party only.

The images shows a gold certificate issued by the Perth Mint which promised to pay a given amount of gold on demand. These Perth Mint certificates come in two forms, allocated metal or unallocated metal. However the certificate is to a named party and as such the certificate is not transferable and can not circulate or act as a medium of exchange.

In 1910 the Australian Federal Government passed several monetary reforms and one of these was know as “The Bank Notes Act of 1910″. Whilst the act does not prohibit private currency in Australia it does impose a 10% tax on redemption for all private currencies. Such a tax is prohibitive in nature and it effectively brought to an end the existance of privately issued currencies in Australia.

The most simple freedom orientated monetary reform that we could have in Australia would be to abolish “The Bank Notes Act of 1910″. It would not bring to an end the dominance of the fiat Australian dollar, nor reform the basis of monetary policy, but it would pave the way for private alternatives. It would not open a flood gate but it would leave the door slightly ajar. It is hard to see any more ambitious reform towards privatising money having any effect without this first basic step. In the monetary arena even such a basic level of freedom is rare in the world today but it does exist. The best precedent for such freedom comes from Scotland where today private banks still issue private promisory notes, payable to the bearer on demand and circulating as a functional alternate currency. Given the political will Australia could very easily make this quite minor technical adjustment and become one more niche of freedom in the world and present at least a modest reminder of the way a less centrally controlled world once worked.

The coin shown has a legal tender value of A$200. The Royal Australian Mint retails this coin for A$650. And with 0.5 troy ounces of gold in the coin it has a market value of around A$403 at todays gold price. The relative orientation of these three numbers is most significant.

Setting the legal tender value.  

In order for the mint to avoid making a loss the retail price of the coin must be more than the gold value in the coin (ie the material cost of production). And in order for the mint to avoid being inundated with arbitrage driven demand then the legal tender value must be equal or less than the retail price. However with both these conditions met it is possible for the legal tender value to be more or less than the gold value in the coin and it is the orientation of these two values with respect to eachother that will determine if the coin circulates.

Non circulating coins:  Retail Price > Gold Value > Legal Tender

Circulating coins:  Retail Price > Legal Tender > Gold Value

So if the coin illustrated above was struck exactly as it is at the moment with the slight modification that the legal tender value was A$500 then the coin would stand a chance of circulating. And if the legal tender value was set closer to $650 then the coin would definitely circulate, although it would still be more tightly held relative to other forms of the currency (in keeping with Greshams law).

Monetary reform.

As a monetary reform I would propose that the mint be required to always have on issue a coin series with a legal tender value of A$1000 and a retail price of A$1000 (plus handling costs as per the normal coins issue to banks) and a gold content value of at least A$800. As the gold price changes over time they would be free to adjust the design and weight of the coin to stay within these parameters so long as each new series was distinguishable from the last. In practive this would mean most designs include A$900 worth of gold so that any shift up or down in the gold price did not mean that the issue had to be immediately replaced redesigned.

The effect of having such high value coins in circulation would be evident over time as inflation pushes up the price of gold. If the gold price went up such that the gold content of circulating coins was worth more than the legal tender value then these coins would ultimately disappear from circulation (and eventually be melted down, collected or sold abroad for their gold content) and the monterary base (M0) would in essence notionally contract. Of course Reserve Bank Policy and the notes issue would of course be the final determinent of inflation. Under such a reform the community would once again get a practical feel for how gold operates as a monetary entity. And it can hardly be argued that such a reform would cause any harm.

Observations, notes and comments:-

i) The gold standard years in the 1950s and 1960s are clearly shown by the flat gold price.
ii) During the gold standard years oil prices were extremely stable.
iii) The gold standard years were characterised by stable consumer prices (much like the last decade has been).
iv) The gold standard years were characterised by stable commodity and currency prices (unlike the last decade).
v) When the gold standard was terminated in 1971 it is clear that the rise in the gold price led the rise in the oil price.
vi) In terms of gold the price of oil closed at the same level that it started. They remain roughly on par with eachother.