As
the world drifts into a global recession the US which dominated the global
economic scene in the post World War II era has begun to lose its post World
War II economic hegemony, i.e. the credibility of its chief export - the free
market is now being questioned. For many the crisis has brought to the
forefront the fact that the US may now be the new ‘sick man'.
America's
chief economic weapon in the post war era has been the US dollar. The US
emerged from World War II as the world's superpower. The war had exhausted the
post World War I powers Britain and France, so the US worked to replace the
influence they had established. The US worked to remove both nations from their
colonies and the US replaced the British pound with its dollar. It achieved
this through the marshal plan which provided Europe with the money necessary
for reconstruction and development after the war. This plan also ensured Europe
did not drift towards communism.
The
aim of this article is to analyze the role money plays within an economy and
the problems associated with the different standards used throughout history.
Money:
Past and present
Money
has existed since the times of Adam (as), from the earliest times shell beads
and pieces of iron were used as money. Bartering was the most common way
exchange took place between people, where goods where used to buy other goods.
However bartering had a number of problems. Prior to industrialisation society
was engaged in subsistence farming and agriculture drove most economies.
Because a farmer growing fruit and a wheat farmer needed what the other
produces a direct barter swap would be impossible due to seasonal fruit that
would spoil before the grain harvest. It was this problem that led to the development
of an ‘intermediate commodity' where ones wheat was exchanged for such a
commodity, and once the fruit is produced, such an intermediary commodity can
then be exchanged for the fruit. Such an intermediary commodity would need to
be something that didn't perish and is reliably available throughout the year.
Such commodities have been many throughout history such as copper, gold, wine,
silver and shells.
From
early times, metals, where available, have usually been favored for use as
money over such commodities as cattle, shells, or salt, because they are at
once durable, portable, and easily divisible. Gold as well as silver have
throughout history been accepted as a means of exchange for commodities and
services and to make this process easier, the concept of standard coinage was
introduced. Coins were pre-weighed and pre-alloyed. Coins were typically minted
by governments in a carefully protected process, and then stamped with an
emblem that guaranteed the weight and value of the metal. Hence the legitimacy
of such coins lay in the fact that they were of a specific weight of Gold or
Silver.
Islamic
society
The
Messenger (saw)
also made various types of gold and silver as money, regardless of whether
these were minted or not. He (saw) did not mint money with specific and fixed
features, rather the units of gold and silver were Roman and Persian coins. All
of these coins were in use widely during his lifetime. Such coins were not
considered by their number or whether they were engraved or not; they were only
considered according to their weight. The piece of gold could be the size of an
egg, and people would still deal with it. The rights of Allah (swt)
such as Zakat, the rights of the people such as debts, as well as the prices of
goods and services, were related to Dinars and Dirhams i.e. to gold and silver,
evaluated by weight.
This
State of affairs continued throughout the lifetime of the Messenger (saw),
that of the four Khulafaa Al-Rashideen, and the beginning of the era of the
Umayyads, until the arrival of Abdul-Malik ibn Marwan. He deemed it necessary
to transform all the gold and silver that was in use at the time, minted and
non-minted alike, into an Islamic coinage with an inscription, and gave it a
standard and invariable weight, thus doing away with the need to make reference
to their weight. He collected the largest and the smallest of coins and minted
them according to the weight of Mecca. Abdul-Malik minted the Dirhams in silver
and the Dinars in gold in the year 75 AH, and ever since that time, Islamic
minted Dirhams and Dinars were in circulation i.e. the currency of the Islamic
State became distinguished, having the same invariable feature. This is why the
basis of the monetary standard in Islam was gold and silver.
The
wide scale use of commodity money led directly to the development of
representative money. This occurred because initially blacksmiths and later
banks would issue paper receipts to their depositors, indicating that the
receipt was redeemable for whatever precious goods were being stored -usually
gold or silver money. It didn't take long before the receipts were traded as
money, because everyone knew they were "as good as gold."
Representative paper money made possible the practice of fractional reserve
banking which then led to the current system in the world - fiat money.
Modern
Era
Fiat
money refers to money that is not backed by any reserves of another commodity.
The money itself is given value by government fiat (Latin for ‘let it be
done'). Early bankers would collect the public's deposits and then use such
deposits as a basis to lend money. With 100 ounces of gold they would lend 500
ounces of gold. As long as all depositors did not withdraw their deposits on any
given day, bankers made a killing. Governments throughout history have often
switched to forms of fiat money in times of need such as war, sometimes by
suspending the service they provided of exchanging their money for gold, and
other times by simply printing the money that they needed. When governments
print money more rapidly than economic growth, the money supply overtakes
economic value. Therefore, the excess money eventually dilutes the market value
of all money issued - this situation is called inflation.
The
Gold standard alongside the Silver standard was the prevailing monetary system
in the world, and money in circulation throughout history has generally been
gold coins and paper money readily exchangeable for their equivalent value in
gold. The implementation of this standard led to the establishment of the most
productive economic relations. However, when the First World War was declared
in 1914, the warring countries undertook certain measures which led to disorder
in the gold standard. Some countries cancelled the liability of exchanging
their currencies to gold. Other countries imposed harsh restrictions on the
export of gold, while others put obstacles in the face of importing it. This
continued until 1971 when it was replaced by the floating irredeemable US
dollar, with the US using its position as the world's superpower and making its
currency the pillar of the international monetary system. The US held the
world's largest gold reserves and essentially defaulted on its gold-redeemable
obligations to foreigners. Since then, gold has had no relation with currency,
but rather has become like any other commodity. The gold standard ceased to be
operated throughout the world and this brought in the era of wild fluctuations
in exchange rates and inflation.
The
role of money
The
importance of money in any economy can be seen from the role it plays:
1.
Money acts as a medium of exchange. It
allows society to make unlimited exchanges and transactions so goods can move
around the economy. Money also allowed individuals and firms to generate wealth
and increase it. This is achieved when one can readily purchase produced items
and sell them for a higher value than they were purchased. The existence of
money allows goods and services to get to the people who need them.
2.
Money also acts as a store of value,
this is where one can sell a commodity, in return for money and be able to be
reliably saved, stored, and retrieved.
3.
The most important role money plays is
it acts as a unit of account. This is a common standard by which all the market
value of goods, services, and other transactions can be measured and compared.
Without this the value of an economy could not be calculated.
With gold completely
divorced from money, initially the British pound sterling was the world's
reserve currency after World War II. With Britain's demise on the international
scene the US and its dollar become the world's reserve currency. The US
receives its legitimacy not from any intrinsic value but due to the global
standing in the US and its ability to press the world to view global products
using the dollar. This means for any nation wanting to purchase oil or platinum
in the international markets they would need to convert their currency into
dollars and then take possession of such goods. This means nations around the
world face two variables, which since the end of the gold standard fluctuate
widely, ones exchange rate with the dollar and the actual price of
international goods - which are priced in dollars. It is here that the world is
being held to ransom by the US and is the fundamental reason why the world
needs to return back to the Gold standard.
Money
Debate
Since
gold ceased to be money the price of goods and services continues to fluctuate,
something that was not the case under the various metallic standards seen in
history. In the post war period the debate with regards to money has been
reduced to weather ones currency should be restricted to a fixed regime or
whether one should have a floating exchange rate. The reason for this is
because many consider all metallic standards outdated as there is not enough
gold in the world to back the US dollar, let alone all the other currencies in
the world, and because with a metallic standard stimulating the economy through
increasing the amount of money would not be possible.
The
total amount of gold that has ever been mined has been estimated at around
158,000 tons. Assuming a gold price of $1,000 per ounce, the total value of all
the gold ever mined would be around $4.5 trillion. This is less than the value
of circulating money in the US alone, where around $1.4 trillion is in
circulation and another $11 trillion through banking deposits. However the real
problem is not that there is too little gold but the fact that there are too
many dollars. How much dollars can purchase for you (purchasing power) is the
real issue for people around the world, because the US continues to freely
print the dollar, and each time it does so the dollar purchases less
(devalues). The US who has the dollar as its national currency, can continually
print money to meet its economic needs. For the rest of the world because
international financial markets and global commodities markets are all priced
in dollars they would need to exchange their domestic currency for dollars and
hope it retains its purchasing power. If it doesn't then they will need to give
up more of their domestic currency to buy dollars.
Money
and Inflation
In
the post war period the monetarist school of thought gained prominence and became
the dominant school with regards to influencing government economic policy.
They advocated using money as the primary tool to regulate and stimulate the
economy.
When
looking at money it needs to be viewed through the lens of prices. This is
because any increase or decrease in the amount of money in an economy has a
knock on affect on the price of goods and services. This is because every
person and company as well as government income originates from another person
or company. Taxes levied by the state are regarded as income for the state and
an expense to individuals. The monies spent on projects by government and
salaries paid would be income for the individuals and an expense to the state.
The money spent by employees on goods is an expense to them and income to
companies. Anything that gets in the way of such free circulation, such as
hoarding, would in fact take wealth out of circulation. This would lead to a
fall in spending, which would reduce production and result in the complete
halting of the economy.
Hence
from this perspective money plays a crucial role in the economy since
sufficient amounts of money need to exist in the economy for transactions to
take place. The more transactions that take place the more wealth that is
created. It is from this perspective that western governments have argued for
decades that fiat currency works best as governments are free to print money as
and when needed, and the metallic standard would actually result in the absence
of such ability. Hence monetary policy today is seen as fundamentally
manipulating the amount of money in an economy, which would mean more money is
available to make transactions.
However
this is where the problem lies. Without any metal representing money
governments always print more and more money and you have a situation where
increasing amounts of money chase a static set of goods in an economy and this
causes price rises (inflation). Hence more money in an economy leads to price
rises and how much your money can purchase for you (purchasing power) in a fiat
system is always falling. The ability to print money does not stimulate the
economy rather it leads to inflation.
As
a comparison the purchasing power of gold and silver has remained extremely
stable over not just the past century, but over most of history. The price of
100 barrels of oil measured in ounces of gold has remained fairly stable
between 5 and 10 ounces of gold for the last 100 years. From just 1973 to 2008,
the price of a barrel of oil in US Dollars increased by 3300%. Over the same
period the number of ounces of gold required to buy 100 barrels of oil rose by
only 18%.
Money
and the economy
Ones
currency is one aspect of economy. In the order of importance with regards the
economy, what monetary standard one uses whether one has the singular gold
standard, bimetallic standards or the multi-metallic standard, such a policy
comes well down the priority list. This is why nations do not have a currency
policy. Ones currency is viewed as a means to exchange; hence it does not fall
within the realm of policy making. Industrialisation, wealth circulation,
taxation, commerce etc are much more important with regards their effect on the
economy compared to what standard one should have for money. However this does
not negate the fact that money has a role in the economy.
Islam
and money
In
Islam when it comes to exchanging a commodity with a specific monetary unit,
Islam defined what monetary unit is used for exchange to take place. This
specific type of money is gold and silver which the Khilafah state will adopt.
The Islamic evidences have designated gold and silver as the primary measuring
unit for prices and labour. This is understood from a variety of evidences.
When
Islam prohibited the hoarding of wealth, it specifically prohibited the
hoarding of gold and silver despite the fact that wealth includes any property
that can be owned. However, hoarding is reflected in money, not in the goods
and services. Islam has linked gold and silver to a number of rules.
The
Messenger (saw)
was reported by An-Nisai on the authority of Amru Ibn Hazm to have said: "The blood money for one soul would be 100 camels...and for those
who deal in gold it would be 1000 dinars."
Bukhari
also reported on the authority of Aisha (ra) that the Messenger of Allah (saw)
also said: "The hand is cut for the theft of
one-quarter dinar and upward."
The
fixing of certain rules by the dinar, the dirham and the Mithqal, would make
the dinar with its weight in gold, and the dirham with its weight in silver, a
monetary unit by which the values of goods and services are measured.
When
Islam imposed the diyyah i.e. blood money, it specified a fixed amount of gold.
Also,
when it decreed the penalty for cutting the hand of the thief, it specified the
minimum value of gold that is stolen which would entail the cutting of the
hand.
The
fact that Islam has linked the Shari'ah rules to gold and silver by text, when
these rules are related to money, serves as evidence that gold and silver are
emphasised as money. This does not mean other items cannot be money. However
Islam requires gold to definitely be part of any legal tender for the Khilafah
in a multi-metallic standard.
Conclusion
§ Money
plays an important role in an economy as it's the means that allow transactions
to take place and it acts as a unit of account so goods can be priced and
compared.
§ The
British initially and then the Americans forced their legal tenders on the
world ensuring international markets were priced in their currencies. This gave
them an advantage over all other nations as their national currency was needed
by the world to purchase international commodities, whilst the US can print the
dollar and purchase the same goods.
§ The
meter, gram and second remain constant, however the dollar keeps changing.
Whilst the former units are measures of stable physical quantities, the latter
is a pseudo-measure, i.e. it is used as a measure that currently no stable
physical quantity can be correctly attributed to. For this reason the value of
the fiat currencies fluctuates wildly as traders across the world buy and sell
based upon what the value of the dollar should be.
§ Whilst
many consider gold to be an old relic, with no place in modern finance and
global financial markets, gold was money for over 5000 years, and hence people
have always viewed gold to have intrinsic value.
§ By
arbitrarily printing money western governments have caused inflation in
society. They continue to promote that money expansion is necessary to increase
the size of the economy and stimulate economic activity. Without anything to
measure against how much money to print, this is why there is always more and
more money chasing a static set of goods.
§ Having
a metallic standard would handcuff governments as they can only print money
relative to the amount of metal they can get hold of. This has the effect of
containing inflation since money supply increases will be more in line with
economic activity.
§ It
should also be understood that money, although important, does not form part of
the overall economic policy of a nation. Polices to do with wealth circulation,
taxation, trade etc are much more important and require much more thinking and
planning than a nation's currency regime.
Bibliography
§ Joseph
T. Salerno, ‘The Gold Standard: An Analysis of Some Recent Proposals,'
September 1982, Cato Institute, http://www.cato.org/pubs/pas/pa016.html
§ Bettina
Bien Greaves, How to Return to the Gold Standard, November 1995,
Foundation for Economic Education
§ Paul,
Ron; Lewis Lehrman (1982) ‘The case for gold: a minority report of the U. S. Gold
Commission,' Washington, DC, Cato Institute
§ Paul
Krugman, ‘The
Gold Bug Variations'
§ DeLong,
Brad (1996) ‘Why Not the Gold Standard?' University of California,
Berkeley
§ Nathan
Lewis, ‘The Gulf's currency solution,' May 2008, Asia Times Online, http://www.atimes.com/atimes/Middle_East/JE09Ak01.html
§ Nathan
Lewis, Gold: the Once and Future Money, 2007, Addison Wiggin: Books
§ Barry
J. Eichengreen and Marc Flandreau, ‘The Gold Standard in Theory and History,'
1997, Published by Routledge
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Tamim A.; Barry J. Eichengreen and Mark P. Taylor (1996), ‘Modern perspectives
on the gold standard,' Cambridge University Press
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Economic system in Islam,' Khilafah publications, English translation of the
original Arabic,
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in the Khilafah state,' English translation of the original Arabic,
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A, ‘The Global Credit Crunch and the crisis of Capitalism,' April 2008,
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