Rearview Mirror
Crypto and other Manias
As a historian with an. occasional sideline in economic and financial cycles, I watch the vertiginous ascent of crypto with fear and trembling, Granted, money is a Pirandellan invention: value it has when we think it has. Monetary theorists used to distinguish between money that was "backed" by something finite and of substance -- gold or silver, or in some cases specific commodities or land -- and fiat money that states or banks declared they'd accept or disburse in payment for goods, services, and taxes without a promise of redemption in precious metals. But of course, the value of a backing in gold or silver was itself a convention that seemed socially useful to men and women of property, just as measures of land, length, and weight were. Long distance traders often issued letters of credit of credit that served as monetary equivalents and in the late seventeenth century the Whig parliamentary majority gave its approval to a private "Bank of England" that granted wealthy subscribers the right to issue letters of credit and promissory notes that could be exchanged as a national currency. For the long-term story see Niall Ferguson's, The Ascent of Money (Penguin, 2008).
The fate of money often depends upon the results of war. The American "continental" issued by the Continental Congress depreciated rapidly during the American revolution and after, until the new federal government decided on a national Bank of the United States that could issue notes. Its charter was allowed to expire but a Second Bank was chartered in 1816 for 20 years. President Jackson vetoed renewal of its charter. What followed was a wild monetary scene as state and private banks issued notes, whose value rested ultimately on the prospects for cotton produced by Black slave labor in the deep South and responding to the appetite of Lancashire textile factories, a pattern reproduced in many sites worldwide as Sven Beckert has documented in Empire of Cotton (Penguin-Random House, 2014). Land prices on the southern frontier followed the demand for cotton and led to a a speculative bubble that collapsed in 1837 followed by a trans-Atlantic depression into the 1840s.
The collapse of the secessionist southern Confederacy in 1864-65 destroyed the value of its currency. The North also issued paper currency ("Greenbacks") that it offered to redeem with silver certificates in the late 1860s. Redemption meant contraction of the post-Civil War money supply, with spectacular bankruptcies in New York and Vienna in 1873 and radiating throughout western Europe. helping to trigger the panics of 1873. Deflation followed, so did the demand for protective tariffs to protect agricultural as well as industrial interests. Agriculture faced hard times; nonetheless, real industrial expansion and significant innovation, including electrical lighting and telephones and refrigeration, assembly lines and early motor cars, followed within a corset of tight money and protective tariffs until new gold reserves from South Africa and Alaska came on stream from 1896.
The interwar experience of tariff protection at the onset of the global contraction of 1929-31 is also less clear than usually presented. The Smoot-Hawley tariff may have accelerated a crisis of international trade, but whence the sources of the great interwar depression originated, and its inevitability or lack thereof, is a thorny question. The Johnson Act of 1924 that restricted immigration was probably an equal disaster. It bottled up excess agriculture labor in Eastern Europe and contributed to rising populist nationalism and facilitated Nazi Germany's constructing a preferential trade bloc. In this case Trump's hostility to immigration may prove as disastrous. It reverses the remarkable openness that prevailed from the Cellar Act of 1965 for over a half century and contributes to the coarse jingoism that may prove as destructive as its economic impact. It has been the achievement of the postwar liberal era, dating from the Bretton Woods institutions to help elevate the mass subaltern classes as participants in the world economy. Poverty was made visible at an unprecedented rate but migration within and between countries increased. The rich got richer quicker, but as Paul Collier conceded, the "bottom billion" in the world's poorest countries had doubled their daily pittances. Do we dance now on the edge of disaster? And if so, what factors will bring it about? The question is hardly reducible to be asking whether the Trump tariffs (erratic to date) will slow the demand for imports and/or contribute to inflation. The press sometimes seems disappointed that spectacular catastrophe has not yet occurred and tends to assure us that it is to follow imminently. Who will pay the costs -- whether American consumers or foreign producers --depends upon the elasticity of demand for the imports being taxed. As noted, American protectionism in the late 19th century did not deter vast economic expansion and product innovation.
Economic historians during the last generation have taken monetary factors more seriously. Whether the historical contributions of such monetarist economists such as Milton Friedman and Anna Schwartz's detailed Monetary history of the United States, 1867-1960 (Princeton University Press, 1963) with its discussion of flawed contractionary policies on the part of the interwar Federal Reserve, or Barry Eichengreen's splendid book, Golden Fetters (OUP, 1992) argues, the effort to keep currencies at fixed values in terms of gold was disastrous. But this is not Donald Trump's obsession. His policy would ease interest rates quickly and court inflation even if he inconsistently wants the dollar to remain strong. Most of all he wishes to confirm what has been an implicit policy guideline for a long time now: the Dow Jones or S&P standard. Lower interest rates to keep the equity markets strong; raise them when the bond markets falter.
Which brings me to the question of the current manic effort to make money from wagers on the monetary medium itself. The United States under the Trump administration has embarked on a momentous (and perhaps disastrous) economic experiment: the de facto monetization of memes -- what we used to call tokens -- and of Bitcoin, including a Stablecoin assigned a value in terms of the dollar. For Donald Trump they are not coming on stream vigorously enough; he wants to monetize all sorts of memes -- especially the ones his family is offering --and lower the interest rates that the Federal Reserve can control.
The craziness of Bitcoin is not that it is a fiat currency; fiat currency has been with us, and necessarily so, for a long time. The weirdness lies in the paranoid fear that a money dependent on a national Treasury or on bank intermediations was somehow inherently less safe and more intrusive into our personal lives than bitcoin, which requires every accumulation and exchange of bitcoin to be saved unalterably as a long sequence of code on multiple registers (the so-called "blockchain."). The idea was a sort of monetary version of Chairman Mao's disastrous idea of the 1950s that China should produce its steel in small backyard forges and bring their output to regional centers. The consequence is that huge installations of computers are humming away to generate ever more diffused sequences of digits -- making huge demands on electrical power generation -- and the environmental externalities it produces. It does so not to light cities or run transportation systems or smelt metals, but merely to produce numerical sequences that entitle the producer to a bit of exchange value. In theory there was to be a ceiling placed on bitcoins, but there is no reason whole new tranches of the numerical changes cannot be authorized. Now, since most of us cannot buy a bank of number generators, we can buy shares of bitcoin produced by others; and there will be a varying price, hence a speculation on the price of bitcoin as a monetary commodity. Its price should go up forever -- until it doesn't. Crypto capital awaits its Marx.
What constitutes a mania? Can we determine when investors and speculators are participating in one before the speculative bubble bursts and values collapse? I am a historian, not an economist, but the study of speculative behavior lies in the domain of both. Charles P. Kindleberger among others wrote a classic description: Manias, Panics, and Crashes: A History of Financial Crises (Basic Books, 1978). The criterion for a mania is that the bidding up of an asset price seems to be fed not by reasonable expectations of future inherent value, nor by a wager on real innovations in technology or productivity or organization, nor by impending scarcity. The market for derivatives -- assets comprised of secondary assets such as traded futures, or insurance policies that protect against adverse price movements of other securities -- such as played a role in the crisis of 2008-2009 -- also expands and rises. Price becomes based purely on the expectation that other investors will continue to bid up prices and one must join the rush to buy lest they lose out in an ebullient market. It is the phase of a rising market that rests primarily on expectations of how the crowd will behave. Finally, a mania, like a Ponzi scheme, requires other investors to jump in to sustain the market: According to the NYT of August 18, investors are becoming nervous about over-valuation of the stock market. Price-earnings ratios have jumped into the 40s.
How does a mania end? For the late-comers: at best with the ordinary losses that one takes in stride as during a visit to a casino. For those who have leveraged themselves to jump in the market, perhaps with disaster as has been the case with previous market crashes such as 1987, 2000-2, and 2008--9. But there is a further price that we all pay. Reducing capitalism to a casino undermines the social compact that makes the system bearable for the millions who live on short rations. Huge wins as well as pervasive losses can be as corrosive to capitalist legitimacy. I am reminded of the moment -- admittedly far from the world of crypto (or is it?) -- in Mozart's Cosí Fan Tutte, in which the cynical arranger Don Alfonso encourages the two heroes to disguise themselves and woo each other's girlfriends to test their fidelity. It seems a lark, but he comments: They laugh now, but tears will follow.