Thoughts, essays, and writings on Liberty. Written by the heirs of Patrick Henry.

“The American Republic will endure, until politicians realize they can bribe the people with their own money.”     Alexis de Tocqueville

November 13, 2007

Treatise on Property Tax Through Fiat Currencies

by Guest Poster

Below, please enjoy a guest article by Clayton Slade. Clayton is in the information technology field by trade, but has been an economics/finance buff for most of his life, as well as a believer in liberty and the free market.

Clayton’s article succinctly explains a rather complex concept rarely discussed, the effect of inflation as a tax on all those who hold dollars, both domestically and abroad.

As always, feel free to discuss in the comments. Clayton can be reached at clayton.slade@gmail.com.

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Treatise on Property Tax Through Fiat Currencies
By Clayton Slade

Property Tax
The United States has a property tax that applies to the entire world. In fact, all countries with fiat currencies do, but the extent to which they can tax is directly related to the distribution of currencies in circulation. This tax is called a fiat property tax. The tax rate varies between different currencies.

First, it must be understood that at any given moment, there is a finite total value of resources and services. Second, there is a total amount of currencies in the world, which can be manipulated. These two values form a ratio of Currency:Stuff. If more of a currency is created, such as new federal reserve notes, the total economic value of everything is not increased; this merely increases the currency side of the ratio, meaning that in the long run, it takes more currency to get the same amount of stuff. This amount of time is the response time or lag time of the market to realize the increased currency.

When more federal reserve notes (FRN) are created, the ratio of FRN:Stuff shifts accordingly, making it take more FRNs to get stuff. This means that each individual FRN is worth less than it was originally. The value of the “new” FRNs is derived from taking value away from the original FRNs. This is true for all fiat currencies when the quantity of a given currency in circulation increases.

The devaluing of each FRN is more than mere inflation. This is a property tax. It takes value away from assets, in this case currency owned by the holder, and redistributes it to the entity that creates the new notes (e.g., the Federal Reserve). Whomever has the power to create new currency inherently has the power to tax anyone and everyone who is holding that currency.

History
When the United States used the gold standard, people saw the US dollar as a sanctuary. The dollar was no more than a receipt (certificate) for a certain weight of gold, and the gold was protected in a safe location, which allowed the dollar to permeate throughout the world. When we moved off the gold standard domestically, we still met our obligations for foreigners who had gold certificates, and we also used relatively responsible monetary policies. This kept foreigners comfortable with using the US dollar.

At the same time, a very real economic boom after WW2 made the United States rich and a marketplace that other nations want to sell to. When the United States imports, it also exports federal reserve notes, which further serves to spread FRNs to all parts of the world. Some other consequences of WW1 and WW2 were that the borders in the Middle East were redrawn, and other political changes ensued that, for better or worse, involved making the US dollar the currency used in all major petroleum transactions. If anyone wanted to buy oil from Iran, Iraq, Saudi Arabia, etc, they first had to buy US dollars (now FRNs) on the foreign exchange market.

As a consequence. the world has been saturated with dollars, and then federal reserve notes, during the past century.

Real World
When the federal reserve creates new notes, it steals value from all existing notes. Since many existing notes reside outside of the United States, the property tax effect applies to anyone holding a FRN. This is a property tax on all notes that exist, and thus, the world.

When this newly taxed money is spent domestically, there is a net benefit to the United States. This has worked well for 30-50 years and is one reason why the trade deficit is not so bad. Money flows out of the country, but the value of it is then just taxed right back when new money is created. One must also consider that this is a tax on holdings, and not just cash flows. A country such as China that possesses a large quantity of federal reserve notes and treasury securities is taxed not only on the trade deficit, but also the notes from all previous trade deficits that are still held by the country.

Downfall
That sounds great, right? The United States gets to tax the whole world and spend it in ways that benefit itself! All moral issues aside, it would be wonderful if this could be done forever. However, other countries are not stupid and are wising up to this.

This most recent round of bail outs (paid for by fiat property tax) in the financial markets (sub prime, etc) is really waking people up. Take a look at the dollar against other competing currencies or even gold and silver. On it’s present course, the FRN will not be able to maintain reserve currency status much longer.

It seems like every year or two, another oil producing country moves away from the FRN in favor of other currencies that are destroying themselves slower. Most notably, Iran has been switching to Euro and Yen for oil transactions.

Effectively, all fiat money has a property tax rate associated with it. This system of fiat property tax only works when people are willing to accept a given currency. They have to either be naive to what is going on (general public), accepting it because it is the best option available (central banks, foreign governments, investors), or coerced (OPEC?). The Europeans are destroying (taxing) their currencies in order to help their exports, but they are doing it slower than the United States, making the Euro and £ the current better choice for maintaining value. This is why treasuries, central banks, regular banks, etc are shifting away from the federal reserve note to currencies such as the £, Euro, and gold – the fiat property tax rate is lower with those currencies.

It is a fragile system. Once the international community stops accepting federal reserve notes, the decline will be rapid. The decline may have already started. Depending on how widespread this rejection and decline is, the United States could experience massive inflation (WW2 Germany style).

Solutions
There are a only few ways to stave off a total rejection of the federal reserve note. One way is more conservative fiscal policies in congress that involve balanced budgets.

The other is to float some sort of commodity based currency that forces the value of individual currency units to be finite and relatively unchanging true value over time. If an option like this were adopted, it would be key for the new currency to be issued in a “natural” and non-obligatory manner in order to not shock financial markets. One such way would be to simply allow such currencies to float freely on the foreign exchange markets. If consumers of currencies wish to use that currency as a sanctuary, such as the dollars of old, they should be free to do so in a liquid manner.

The United States and some other super powers have had the luxury of a lifestyle that is subsidized through the taxation of the world with the practice of fiat property tax. One way or the other, those who currently are accustomed to the benefits of this system should begin to wean themselves off of it on their own terms as more and more people and organizations realize how this system works and refuse to participate.

Seigniorage is alive and well. Why should someone choose to hold federal reserve notes if there is an alternative that has a lower tax rate?

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Aside: There is probably only one candidate running for president who is concerned about this or even understands the situation. That person is Ron Paul. If someone does not understand how taxation through inflation works, they should not be president.

All conservatives, especially rich ones and those who would like to become rich, should be opposed to this system. It is a progressive tax that directly attacks savings, affecting those with more cash more than those with less. Such a property tax is contrary to conservative or libertarian principles. Anyone who wants to save money should be opposed to this.

This is a tax just like any other. The only difference is that congress does not have to pass a bill to raise or lower the tax rate and the general public does not even know what the rate is. It is meaningless to focus on marginal income tax rates, capital gains, dividend tax, etc while at the same time the government can tax all the money it needs regardless. And they do not even have to ask you for a dime. They simply confiscate it from your bank account.

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14 Comments

  1. Thank you, Clayton! Thank you TLP!

    Beautifully simple piece on such a crucial topic. I’m definitely going to pass this around.

    Comment by Jeff Molby — November 13, 2007 @ 7:11 am
  2. I don’t think the world economy can survive the meltdown of the US economy. Assuming that’s the case, I suspect those smart people recognize that there is a major dilemma confronting all of us. We can accept the inflation of the US Fed system’s fiat currency, but keep the world economy functioning. Or we can reject that, and watch the whole thing meltdown.

    I’d be interested in Clayton (or anyone else’s) thoughts on that.

    Comment by Eric — November 13, 2007 @ 9:38 am
  3. Great overview and I think a fresh way of looking at it, but I’m surprised that Clayton didn’t go into Federal Reserve policy. Congress certainly plays a large role, but the Fed is complicit.

    I don’t consider myself a “gold standard” person because I recognize there’s inherent problems in making a currency a derivative of the technical factors at play with whatever commodity you wish to select. I could write a similar article about the “silver tax” in 16th & 17th Spain or the “gold taxes” from gold strikes in the 19th and 20th centuries. Likewise, why does gold or any other commodity have value? Because we all believe it does which is precisely the reason that Dollars are a store of value. I suppose we could replace “gold” or “silver” as our proposed $ linked competition with a world currency (and it actually would work better than gold), but that seems pretty un-American.

    But to get back to the Fed…. I think the Fed’s mission should be tweaked a bit and we should take out this political tightrope they seem to walk between inflation and full employment. Now, the problem with a responsible Fed as part of the solution is what every Libertarian knows as the central issue of why gold is considered an option….it requires responsible govt. Maybe a technical or rules based process of governing the money supply is the solution.

    Comment by AT QB — November 13, 2007 @ 10:01 am
  4. Great post!

    I would add that in the USA inflation is a double tax. They devalue your property then charge you capatol gains!

    For thouse who want to learn more read “What Has Government Done to Our Money” by Murray N. Rothbard. Free PDF download at http://www.mises.org/money.asp

    Comment by Jackson — November 13, 2007 @ 10:42 am
  5. So, I agree with all of that. I would love to see us fix our current fiat currency mess. What I don’t necessarily agree with is the idea that the rest of the world is going to flee US dollars. If that happens, it seems to me that it will cause a major global economic meltdown.

    Comment by Eric — November 13, 2007 @ 10:45 am
  6. Eric,

    My one consolation is that it seems to be more damaging to other countries’ own situations to divest their dollar holdings than they are willing to stomach.

    But in a true dollar crisis, nations may believe it is rational to get out while they can, regardless of the consequences. The problem is that these panics occur unexpectedly, and the behavior that seems irrational before a panic seems rational once it starts.

    Either way, the state of the dollar is what I see as America’s biggest issue right now. Unfortunately I think our elected officials have painted us into a corner where they can’t muster the political will to fix the problem.

    Comment by Brad Warbiany — November 13, 2007 @ 11:30 am
  7. I also applaud this article. It’s a good summary that’s approachable and not mired in econospeak.

    In order to avoid inflation – and the tax it implies – currency must be based on a value that is as constant and reliable as possible. While gold and silver can fluctuate in value via sporadic supply increases and other uses, they have held value both intrinsically and psychologically for far longer than Federal Reserve Notes. The only reason FRNs are used anywhere is because the U.S. economy has been presumed to be nearly as constant and reliable as the values of gold and silver. As America descends into a Welfare/Warfare state that is perceived as increasingly unstable, so that perception taints American FRNs. It doesn’t surprise me at all that the so-called ”Dollar Hegemony” is in trouble at the moment. Ron Paul wrote a paper about it in 2006.

    Given the complete lack of understanding evidenced by a majority America’s currently elected officials – apparent by their continuing deficit spending in the face of such a colossal debt – I don’t find it that hard to imagine more nations considering reserves other than FRNs.

    Perhaps offering to legalize competing currencies based on commodities which fluctuate less than FRNs might give the U.S. (and the rest of the world) options for reserves that will lose value to government-created inflation proportionately less.

    Comment by Akston — November 13, 2007 @ 11:35 am
  8. There’s going to be a big inflation tax protest on December 16th, the 234th anniversary of the Boston Tea Party. Proceeds go to the Ron Paul campaign. Visit http://www.teaparty07.com to sign up.

    As for fiat dollars vs. gold:

    The gold has actual and perceived value. The fiat dollars have only perceived value.

    If more dollars are printed, the value of each dollar goes down. If more gold is found, the value of gold-back dollars goes down. Finding more gold is difficult and requires work, though, unlike cranking up the printing presses. There is a high incentive to find gold, so most of the easy gold has already been found. A little more gold can always be found, though, historically growing the supply fairly steadily (with a few spikes here and there.) Fiat money is unpredictable and can be printed on a whim.

    One other major difference: if a government eventually collapses, what happens to the value of the currency? It disappears. How much are those Confederate dollars worth? The value of gold remains, regardless of political changes.

    Comment by Craig — November 13, 2007 @ 3:55 pm
  9. Craig, gold only has value because we agree that it has value. Other than that, your points are well made.

    Comment by Eric — November 13, 2007 @ 4:51 pm
  10. Craig,

    Defined real value and define perceived value.

    Comment by AT QB — November 13, 2007 @ 5:01 pm
  11. Gold does have a real value, it is a physical instrument, it’s used as electronic contacts, jewelry, dentistry etc..

    Were there no market applications fof gold then i would agree with you.

    It is malleable and easily fashioned into bullion, or from bullion to any simple-use-case.

    It’s applications in real markets, as well as its physical properties are what make it a good candidate for hard money. Although it is true you could use silicon or some other non-perishable good, gold and silver’s physical properties and homogenity make for an easy decision.

    Rothbard lays the case out pretty well, and supports it with years of documentation.

    Comment by chrismatthews — November 14, 2007 @ 6:35 pm
  12. Well, as near as I can tell, gold has value because we think it’s pretty. That’s perception to me.

    “Electronic Contacts, Dentistry, Electronic Contracts”
    If we’re using the gold in the production of goods, it would be bad to link it to the money supply. Moreover, gold really doesn’t have traditional uses beyond jewerly or as a currency. IOW, it had no production value back in the day where its roots as a currency lie. Its use as a currency was based on the perception of its value and to facilitate exchange (the same as paper money.) The idea is that if we wanted to go back to a barter system, we could exchange all of our gold or money for goods or services of equal value.

    I look at my current house, and most of my money is backed by physical objects that I believe have value…a computer, a tv, some furniture, etc….and the exact same argument can be made as was made in the original post. As more money is printed, the value of these items goes up in our balance of payment world. But as I said above, I can point to the Spanish Silver tax or various gold taxes throughout the centuries if we want to talk about the inflation tax. (Moreover, we’d move to deflation if gold is so great in the production of goods.)

    To sum up, I still don’t see a great distinction between “real” and “perceived” value. I certainly recognize the value of a gold standard as a fundamental theory in maintaining the value of money, but I believe there are better ways to go about the stabilization of currency because of the technicals that affect gold. Changing the Fed’s mandate and potentially moving to a rules based mechanism would be my choice.

    If you could somehow implement a competing world currency that was as good as gold (except with greater stability of supply) then that could also work (but could you trust the world to do this?*)

    * – and it’s funny I say this because the $ is (arguably was) this great world currency (but we couldn’t trust ourselves).

    Comment by AT QB — November 14, 2007 @ 9:02 pm
  13. Delightfully clear exposition of fiat money.
    As for the value of gold – it has been money for thousands of years – because its difficult to mine in large quantities – therefore its value is stable over time. Precisely what you want to have for your money.

    Comment by Chris — November 14, 2007 @ 11:00 pm
  14. Gold and silver have real value not perceived value like the FRN simply because there is a world wide demand for precious metals that will not go away like the demand for the FRN that is dropping drastically and can be replaced with a more responsible currency. Most Arab nations are switching from the FRN to more stable currencies for the purchase of their oil. This should tell us that the demand for our cotton dollars is declining while gold and silver are not. Oh yeah and there is a document called the Constitution that states only gold and silver can be a standard for currency in our nation. This was done to make a standard for prosperity in our country and to keep our government from doing exactly what they have done to our country. Vote Ron Paul 2008!

    Comment by Huston Wolfe — November 15, 2007 @ 12:02 am

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