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In considering possible financial systems for a future free nation, it seems to me that the most fundamental question to be asked is: what will the most basic financial system element, the monetary system, be like?

Even among libertarians, the idea that money must be issued by coercive government is often not questioned. It is an idea whose validity (or lack thereof) is rarely even looked at. It is assumed that a government monopoly of the money supply is necessary. That assumption has no logical basis. There is a history of free banking to back up this assertion. (See The Experience of Free Banking edited by Kevin Dowd, available at Amazon.com.)

Imagine, if you will, a monetary system that is 100% backed by gold. It is not necessary that money be backed by gold, but for several reasons it has been used throughout history as a monetary standard.

1. It is relatively scarce, but not excessively so.

2. It is nearly indestructible.

3. It is highly divisible.

4. It is fungible (which means that a certain quantity of a specified purity of gold is essentially the same as any other gold of the same quantity and specified purity).

5. It has historically held its value well, in relation to other things.

Let me point out that when the United States (oh, so many decades ago) was on the so-called "gold standard," the United States dollar was never 100% backed by gold. You could be fairly sure that if you wanted to walk into a bank and exchange dollars for gold, you would be able to—but this was because most people were not exchanging dollars for gold at the same time you were. Even though it was called the "gold standard," it was still a fractional reserve system. Perhaps 70% of dollars were backed by gold. Or maybe 50%. More likely 20% or 10%. I don't actually know.

But in our hypothetical monetary system, the currency is 100% backed by gold. Every single holder of the currency could exchange every bit of currency they held for physical gold, and the system would be able to accommodate the situation.

Now imagine that through the power of the Internet our hypothetical monetary system allowed instantaneous clearing of payments. After all, what is necessary for the clearing of funds is communication, and the Internet is the greatest communication system yet devised by mankind.

Suppose further that through the power of cryptography, our hypothetical monetary system allowed for security and privacy. Perhaps even a completely anonymous system of money could be developed, based on our hypothetical monetary system. Our base monetary system could not include anonymity, because there is something of an inverse relationship between absolute security and absolute anonymity.

Now one important aspect of a monetary system that is 100% backed (by gold or anything else) is that the payments system be separated from the lending/borrowing function. You see, when you deposit money in your checking account, that money is used by the bank to lend out to others. It is a demand deposit, which means you can demand that the money be taken from your account and given back to you. But they are banking (pun intended) on the fact that not everyone will demand their money at the same time. This is the nature of a fractional reserve system. It is part and parcel of the borrowing and lending institutions of today. The only way to have a monetary system that is 100% backed is to separate the transactions of borrowing and lending from the payments system. So our hypothetical monetary system is one in which the issuer of currency provides only a payment system, and allows other entities to handle the lending/borrowing function(s).

Also in our hypothetical monetary system, the issuer of the money is a private entity, with contracts and accounting audits and other mechanisms providing assurance that the issuer is kept honest and held accountable for its actions. For an example of another mechanism, suppose that some powerful communication system (such as the Internet) allowed a customer to instantaneously view the amount of currency outstanding and the amount of gold backing it. Wouldn't this provide significant assurance of the safety of the currency? It would.

Imagine that in some future free nation, such a monetary system were to be developed and put in place. Actually, it already has. It's called e-gold. You can learn about it at <http://www.e-gold.com/>.

Which brings me to the issue of transition plans—if the system has been designed and developed, then the transition has already begun. The transition plan question with respect to this issue is: how do we transition from a monetary system based on "the full faith and credit" of your favorite government (in other words nothing), to a monetary system that is 100% backed by some real, physical, valuable commodity?

The answer is: you set up a currency exchange which freely exchanges currency from either system to currency of the other system. By this I mean not that there is no transaction cost in making the exchange ("free"), but instead that the exchange is completely voluntary on the part of the customer and the exchange service operator.

Of course this means that the exchange service operator has a floating exchange fee schedule that depends on the relative supply and demand of the given currencies (and perhaps other things). Otherwise, why would the exchange service operator be willing to take exchange orders based on the desires of its customers? If it were not able to charge a transaction fee, it would not be so willing.

In the existing e-gold system, the first such exchange service is called the Gold & Silver Reserve, which you can learn about on the e-gold website mentioned earlier.

So what can a hypothetical future free nation base its financial system on? One possible answer is to simply use e-gold as its monetary base. D
 

Wayne Dawson wishes to thank Reid Jackson of e-gold for all his help in researching the e-gold system. Much of the fruits of that research would not fit in this article, though it may very well be discussed during the upcoming Forum on the subject of Financial Systems. Wayne Dawson has made it his lifetime goal to "make the world free." He lives in Virginia Beach, Virginia, and teaches classes in computer programming and other computer subjects. Wayne is LNF’s Webmaster and a member of the Board of Directors.
 

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