Why did fiat win?
Onramp Fundamentals Series – Chapter III
In Why did gold win? we talked about how commodity money ledgers are governed by nature.
Credit money ledgers, like fiat, on the other hand, are governed by humans, and in our modern economy have become a big, complicated web of IOUs.
Think about the money in your checking account. It’s yours, right?
In a sense, yes. But what it really is an IOU from your bank; a promise that, should you demand it, the bank will provide you with your money. Your asset is the bank’s liability.
What if in the meantime, however, your bank decides to lend a portion of your money out to Alice, to buy a house from Bob, and Bob deposits the proceeds from the sale of his house into his checking account at the bank?
Now multiply that across the global economy. Hence the big, complicated web of IOUs.
Notice how in the above example we start with $100 in the economy (your deposit) but end with $150 in the economy (your deposit plus Bob’s deposit). $50 was created by the bank’s lending activity. In a credit money system, like our global fiat financial system, banks have the ability to effectively create new money by extending credit.
It might be easy to see why society’s ability to govern a flexible, credit-based ledger at scale over long periods of time does not have a good track record. It has a high degree of convenience and efficiency, but requires an immense amount of trust and is prone to long-term degradation (1).
In fact, when you think about it, on a long enough timescale fiat is the exception, not the rule, even though it’s likely all you or I have ever known.
Fiat has been around roughly 100 years; gold, over 2,000. (Hence gold’s top score on durability. It remains to be seen if fiat, or bitcoin, can last for thousands of years like gold.)
If fiat is so bad, then, why did it win?
Recall from the rai stone example that it is not uncommon for monetary goods to be discarded as technological advances render them obsolete.
The invention of the telegraph in the 1830s, in time, rendered gold obsolete.
Once information could travel across continents at the speed of light, transactions could take place across continents at the speed of light.
Which meant money had to travel at the speed of light.
Once global telecommunications networks were invented, only digital money could be suitable for society. Gold was no longer portable enough in a digitally enabled society. Perfect portability became table stakes to compete as global money.
For a time, this meant fiat was the only game in town. The sole monetary good with perfect portability, fiat only had to be just good enough on the other five attributes.
With the invention of Bitcoin, however, yet another technological advancement has shifted the playing field once again.
In bitcoin, fiat finds a new competitor that’s both perfectly portable and perfectly scarce.
Footnote 1: Lyn Alden, Broken Money, 57