Creating Wealth
Page 26
Mixed media is of course ideal, because one can tailor the advantages of each form to whatever the specific application of the currency. But as a downside one should remember that, particularly from a security viewpoint, the weakest media will end up as the weakest link in the entire chain.
Functional Considerations
The three most important functions of money according to classical economics are standard of value, medium of exchange and store of value. In most of history these three functions were not played by the same currencies. For instance, many cultures have had standards of value different from the medium of exchange. One important unit of value in ancient Europe used to be cattle — Homer (8th century BC) would invariably express values in oxen. However, payments were often made in a more practical media such as standardized bronze ingots, gold or silver bars and later coins.
All currencies can therefore be classified in terms of the number and kinds of functions they are designed to fulfill: Standard of Value, Medium of Exchange, and Store of Value.
Standard of Value
The first classical function of money is as a standard of value that enables one to compare prices of the proverbial apples and oranges. The majority of complementary currencies actually don’t attempt to set standards of value at all; their unit of account is denominated in terms of conventional money, leaving the standard of value function entirely to conventional national currency. There are of course exceptions, examples of which will be listed below. Since the end of Bretton Woods system in 1971, there is no longer a single international standard of value.
All currencies can be classified as follows in terms of their function as a standard of value.
Reference to Conventional Money
Many local complementary currencies use as unit of account a conventional national currency. Most systems use logically the currency of their own country as reference, but in case of trouble with the national currency some other country’s can also be used. The former is the case for instance for most LETS-type systems (e.g., Green Dollars in Canada or Australia, or Bobbins in Manchester) and also for the majority of the systems where local businesses participate. Examples of the latter include the dollar being used in South America or the Euro in the former Yugoslavia.
Time Denomination
Currencies denominated in time (hours, minutes) are the second most popular unit of account. Its system is the one used by Time Bank systems and by the Japanese Fureai Kippu.
Physical Unit Denomination
Currencies can be denominated in some physical unit. In the best known commercial loyalty currency, the airline mile system, the unit of account is a flight of the distance of one mile. Among other contemporary examples let us mention some Japanese models: the WAT (whose unit is equivalent to the value of 1 kWh of electrical current generated by citizens’ cooperatives through renewable energies such as wind, water, sun), the gram of charcoal used as bio-regional unit in Osaka or the crop denominated currencies of the “leaf ” unit in Yokohama or Kobe. Historically, the Wara currency in Germany in the 1920s and early 1930s was similarly denominated in kg of coal.9
Comparative Advantages of Different Standards of Value
Currencies which refer to conventional national currencies have familiarity as their main advantage. They also avoid forcing shops and businesses to deal with multiple pricing systems — one in dollars, one in local units. Particularly when the national currency is a stable one, such a choice makes a lot of sense (e.g., the WIR currency in Switzerland equivalent to one Swiss Franc). The downside is of course that if the national currency gets into a major crisis (e.g., the Russian Ruble in 1998), the complementary currency risks going down with the national currency.
Currencies using time as unit of account make most sense when services are the most typical use of the complementary currency. Sometimes there is a misunderstanding that “everybody’s time is supposed to be of the same value” for such a unit to work well. This isn’t actually true: nothing impedes a dentist to ask customers for instance five hour units for one hour of work as her or his activity requires longer training and expensive equipment compared to one hour of “unskilled” labor.
Time currencies also automatically avoid being caught up in a crash of the national currency and can make it easier to make exchanges with other time-based systems. Their downside is that it may require multiple pricing (how many hours for a dozen eggs?), something that businesses in particular don’t like. One easy way to solve this problem is to ensure that the time unit is roughly equivalent to a round value in conventional money (that is why one Ithaca Hour is equivalent to US$10 or one WAT in Japan to 100 Yen).
Currencies using a physical unit of account such as miles, grams or kilos of something have advantages similar to the time currencies. Often such units provide a “real physical connection,” and if the product involved is widely used and produced in an area, it makes the currency logically bioregional. While physical unit currencies have the same issues with pricing as time currencies, the potential solution is also the same.
Medium of Exchange
For currencies that are not playing the role of standard of value (i.e., the majority of the complementary currency systems), the function of medium of exchange is the most important one. The ease and costs of their use as medium of exchange depends predominantly on the support medium used in the currency. Hence, this aspect has already been dealt with above, when we described different supports.
Store of Value
The last classical function of money is as store of value. As noted before, it may be desirable to have as complementary currency one that is not used as a store of value. Currency was indeed not the preferred store of value in most civilizations. For example, the word capital derives from the Latin capus which means head. This word referred to heads of cattle and is still used today in Texas or among the Watutsi in Africa: “He is worth 1,000 head.” In the Western world, from Egyptian times through the Middle Ages and until the late 18th century, wealth was stored mainly in land and improvements, that’s why it’s called Real Estate (irrigations, plantations).
Specifically, if one desires to encourage circulation of a currency, one good way to do so is to discourage the hoarding of that currency through various mechanisms such as demurrage or expiration deadlines. Therefore, classifying currencies in terms of their function of store of value is in fact the same as analyzing the way they relate to time.
Interest Bearing Currencies
One way to encourage people to save in the form of a currency is to pay interest. This is the typical situation with all conventional currencies because they are created by bank debt. Interest is a charge that is proportional to the length of time involved in the transaction. In this type of currency, one receives interest by making a deposit in that currency; and one can borrow money by paying interest.
Zero-Interest
The vast majority of complementary currencies simply operate without interest. For example, loyalty currencies or mutual credit systems don’t accrue interest, and for those systems where one can borrow complementary currency typically no interest is charged either.
Demurrage Charged Currencies
The opposite of an interest bearing currency is a demurrage-charged currency. Demurrage is a time related charge on outstanding balances of a currency. It operates exactly like a negative interest rate and is used as a disincentive to hoard the currency. John Maynard Keynes, Silvio Gesell, Irving Fisher and Dieter Suhr provided a strong theoretical foundation for this approach, and it was extensively implemented in the form of stamp scrip in the 1930s. Today, the most successful grassroots complementary currency in Japan, the Peanuts, charges a demurrage of 1% per month.
Currencies with Time-Related Step Function Valuations
There are also currencies that are characterized by step functions triggered by time, a crude form of demurrage. For instance, during the Central Middle Ages, the practice of renovatio monetae was widespread. It meant tha
t (for instance) every five years, the old currency would be withdrawn and three new pennies would be given in exchange for four old ones, implying a tax of 25% on the value of the currency. This process produced income for the local currency authority (typically a local lord, bishop or monastery) and gave an incentive not to hoard this type of currency. Stamp scrip systems — whereby a periodic stamp has to be purchased and applied on the currency for it to keep its value — are modern applications of this principle.
Currencies with Expiration Dates
The most radical step function is for a currency to have an expiration date. This process is equivalent to a 100% tax on the date of the expiration.
Trade-offs Available Between Functions
If one desires to encourage the circulation of a currency as medium of exchange, one can achieve this most effectively by charging a “parking fee” of demurrage, or the simpler forms of step functions or expiration dates.
The advantage of interest bearing currencies is that they provide an income to those who create the currency (called seigniorage). Its disadvantage is that it implies a systematic money transfer from people who don’t have money to those who do, so that it tends to concentrate wealth. It also gives an incentive to save in the form of currency as opposed to real assets. Finally, it provides a systematic incentive to think only short-term, as income generated in the distant future is discounted to irrelevance with positive interest-rate currencies.
In contrast, demurrage-charged currencies provide an incentive to circulate currency as opposed to accumulating it. It also motivates holders to be concerned about long-term implications, particularly for investments. The Terra currency is a currency proposal specifically designed with this latter objective in mind.10
The currencies with time-related step functions or expiration dates can be seen as cruder and more radical forms of demurrage-charged currencies.
General Purpose
General purpose currencies are designed to fulfill all three classical functions of money (standard of value, medium of exchange and store of value). Historically, many traditional currencies used locally would fall into this category.11 Today, conventional national currency is by far the most important general currency.
However, there exists an implicit contradiction between the function of store of value and medium of exchange: notionally when someone accumulates money he or she also deprives others from using it as a medium of exchange.12 This is why some currencies are actually designed purposely to separate those functions.
In general, complementary currencies are typically designed with a narrow and specific purpose in mind. Although a successful complementary currency system tends to gradually expand its applicability over time, today no complementary currency has reached the point where it can truly be considered a “general purpose” local or regional currency. But this could happen in the future.
Issuing Procedures
This is perhaps the least familiar of all four dimensions of this classification system, but is nevertheless also one of the most important. Errors in designing the issuing process are the most common reason for dramatic failures of complementary currency systems (consider the fate of the Argentinian creditos for instance). There are seven major ways of issuing a currency.
Backed Currencies
The strongest currencies are those that are fully backed by a good or service, and are directly and legally redeemable for them. Historically, many currencies were inventory receipts, with 100% backing secured by a physical inventory of a good (e.g., the wheat currency in Dynastic Egypt). Some contemporary complementary currencies use conventional money as backing, others some specific goods or services.
Borrowing with Legal Collateral
This is the way the bulk of the conventional currency is created: through bank loan backed by collateral such as a mortgage on a house or inventories for businesses. Loan-created currency can be considered as a form of a backed currency, but its redemption requires legal action (seizure of the collateral) which is normally an exception rather than the rule. Some complementary currencies, most notoriously the WIR in Switzerland, exactly reproduce the conventional banking model in this sense.
Purchased and Redeemable Vouchers
Vouchers that are purchased directly with national currency, and that are circulating as a medium of exchange, and are redeemable at some pre-determined conditions into national currency again. Current examples of this include Save Australia vouchers, Berkshares in Great Barrington, MA, Capital Cash in Montpelier, VT, the Swiss Chiemgauer and Toronto dollars.
Commercial Vouchers
These are similar to purchased vouchers, except that they are not redeemable back into conventional money. They may be given for free (for example as coupons in newspaper ads) or can be purchased at a discount. They are not redeemable for cash, but typically are redeemable into some good or service instead. They tend to be used only between the issuer and the customer, and rarely circulate as payment device among customers. A typical example is the supermarket discount token.
Loyalty Currencies
Loyalty currencies are commercial complementary currencies that are issued by businesses to customers in proportion to their purchases in conventional money. It is a form of corporate scrip typically redeemable for goods or services in the same corporation or in a consortium of participating businesses. Frequent flyer miles issued by airlines created the first large-scale system; Tesco’s loyalty currency in the UK is probably one of the most successful of such systems.
Mutual Credit
Money issued by a simultaneous debit and credit between participants in a transaction create mutual credit currency. Examples of Mutual Credit Systems include LETS and TimeBanks. For instance, in TimeBanking if Julia renders a service of one hour to James, she gets a credit for one hour, and James gets a debit for one hour. They have therefore created the currency necessary for their transaction by agreeing on the transaction itself. The main advantage of mutual credit systems is that they self-regulate to always have sufficient currency available.
Borrowing Without Collateral
A currency can be issued as a credit, but without formal collateral of any sort (other than perhaps an informal promise to provide a good or service in the future). In fact, mutual credit can be seen as a form of borrowing among the participants themselves without collateral. There are also systems which permit borrowing without collateral from a central office which plays a role similar to a complementary currency bank (e.g., Bia Kud Kum in Thailand).
Central Distribution
One of the simplest ways to issue a currency is to have a central office distributing it to everybody or to everybody who qualifies. This is the way major currency reforms are typically introduced when a radical departure is necessary (e.g., the German Währungsreform after World War II, the credito system in Argentina or the purchase coupon experiment used in Japan in 1999).
Mixed Processes
Some systems combine features of various issuing approaches described above. For example WIR is issued both as mutual credit and from a central office with legal collateral. Some social purpose complementary currencies are also accepted in partial payment by local businesses as a loyalty currency.
Advantages and Disadvantages of Issuing Procedures
Here again, one can identify some advantages and disadvantages for each system. There tends to be a systematic trade-off between the ease of creating a currency and the effort needed to gain and maintain its credibility. Finding an appropriate balance between these two objectives is key for a robust currency design. All things being equal, as one goes down the above list of the different ways to issue the currency (from backed currencies to central distribution), it becomes easier for participants to create the currency; but it simultaneously requires more discipline to maintain the currency’s credibility.
Currencies that have a legally enforceable collateral (as is supposed to be the case for the majority of the national currencies issued), curren
cies that are fully backed by a good or service that is in broad demand or that are purchased and backed with national currency logically have an easier time gaining credibility. But on the downside, often the very people who don’t have the necessary collateral or cash would benefit most from a complementary currency.
Loyalty currencies have the reputation of the businesses that issue them as their main backing. Mutual credit has as significant advantage: the quantity of money created by definition always perfectly matches need. There are also no risks of inflation in mutual credit systems. By contrast, overissuing is the biggest risk run by currencies that are created by borrowing without collateral or by central issue. It is important with these latter models to cautiously control the quantity of currency issued, otherwise its depreciation and loss of credibility is a predictable outcome.
Cost Recovery Mechanisms
All payment systems cost some human effort to be kept in operation; there are typically also infrastructure expenses. While some costs may be covered in the complementary currency itself (typically labor), there is often a hard currency component (computers, internet service or telephone expenses) that need to be covered one way or the other. When that aspect hasn’t been thought through, the operation and maintenance of the currency system tend to gradually deteriorate, service is provided in a haphazard way and users become more and more unhappy with the system. In short, unless some income is generated to pay for work performed, the complementary currency system is probably not going to be sustainable in the long run.
The first step is to clearly separate what costs need to be covered in conventional money from costs which can be covered with the complementary currency. There are two types of budgets to be made in each of these currencies: a start-up and an ongoing operational budget.