The experience of history is quite different, however, in the case of decentralized banking.
The industrial revolution was financed by decentralized banking. It enabled Japan and the U.S. to enjoy rapid growth at the turn of this century without reliance on foreign investment.
Credit was likewise once created in the same decentralized fashion, allowing labor, materials and other resources to be allocated efficiently to foster growth, diversity, choice, and specialization for competitive advantages.
Central Banks, by contrast, were created and developed for the sole purpose of funding governments.
The Bank of England, founded in 1694, obtained a Royal Charter on the condition that all the sterling silver invested as equity was lent to the Sovereign at interest. Against the security of the Sovereign's promise to pay back the silver, paper money was printed and lent out at interest. The shareholders earned double interest on their equity investment!
It quickly occurred to bankers that they could print many more notes than were backed by the worth of the silver or gold which they kept in their vaults or which someone had promised to repay. This duplicity is the basis for modern banking.
When the Sovereign wanted to borrow additional money from the Bank of England, it was granted a monopoly to issue paper money around London to shut out competing paper money. As the government wished to increase its borrowing, the monopoly was gradually extended throughout the land. This is why competing domestic currencies no longer exist and all national currencies have become monopoly money.
Over 20 years ago, all national currencies also became "funny money." This occurred with the decision by the United States to cease being the only remaining country in the world to allow its money to be redeemed into gold. Once the U.S. got into line, it was no longer possible to redeem any national currency into specified goods or services.
It needs to be understood that national currencies represent a kind of "message stick" which transmits prices to activate markets. However, prices encoded in a centrally controlled message stick can vary considerably from those carried by a regional currency. This is because the value of a local currency, like a national currency, is determined by the level of trade and investment with other economies. But the transactions which determine the exchange rate of a local currency in a regional economy can be quite different from those of a national economy. As a result, the prices of resources determined by a local currency can have different relative values when determined by a national currency.
The price distortions produced by a single national currency can be illustrated by considering an economy like, say, Australia's or Argentina's. In each instance, the national currency's exchange rate is largely determined by the export of the respective country's primary products.
Let us ignore investment transactions and assume that the imports of any region are proportional to the population of that region. It will also be assumed that manufacturing takes place only in the urban regions while agriculture and mining occur only in the rural regions.
Agricultural and mining industries in commodity-exporting countries such as Australia and Argentina may produce as much as 60 percent of a nation's export earnings but employ only 20 percent of the same nation's population. In other words, the rural region would earn three times the foreign exchange it required. On the other hand, the urban region, with 80 percent of the population, would earn just 40 percent of the country's total foreign exchange. This means that the urban region would be getting only half of the foreign exchange earnings it needed.
When there is a single currency, all foreign exchange earnings are pooled over the whole national economy. This hides the fact that the rural region is subsidizing the urban region with its foreign exchange earnings. However, if the rural and urban region both had their own independent currency, the rural dollar would be valued much higher than the urban dollar because of its ability to earn more foreign exchange. On the other hand, the lower value of the urban dollar would make its manufacturing industry more competitive internationally.
The situation is partly reversed for a single-currency country with a world-competitive manufacturing sector and a comparatively small commodity-exporting sector. In those cases, the rural region must be subsidized in order for production there to be maintained.
This is what occurs in the U.S., Japan and leading manufacturing countries in Europe. As a result, the wealth from manufacturing in the rich countries is used to shut out commodity exports from the poor countries of the world, thus keeping them poor.
Similarly, even the richer commodity-exporting countries like Australia, which do not subsidize their primary production, find it very difficult to establish world-competitive manufacturing industries.
This difficulty arises from the use a single type of message stick to determine prices in both rural and urban regions.
Another problem of a single national currency is that monetary policies established centrally may not suit any of the regions. The need for more or less money and credit in one region may be quite different from the need of another region.
Central banks-through their control over money, credit and interest rates-prevent market forces from efficiently allocating resources and activities among regions.
If central bankers really believed in market forces, they would encourage decentralized banking by permitting circulation of local currencies. Central banking could then be reinvented to carry out a new role of supervising the integrity of privately issued money.
Such a monitoring and enforcement role is really the sole plausible justification for the existence of central banks. As things stand today, however, central banks are part of the system which they are supposed to supervise. They exhibit a fundamental conflict of interest.
In relation to commercial banks, central banks are said to be needed in order to enforce rules for safeguarding the liquidity and value of bank assets. Central banks can also provide an additional source of funds if needed, qualifying them as "lenders of last resort."
This latter function is unnecessary, however, when competing currencies exist. Competition between local currencies would tend to keep them all honest, and if one did fail to perform properly, it would become redundant. And other currencies would be available to step in whenever needed.
The remaining roles of central banks-safeguarding the liquidity and value of commercial banks' assets-can be and should be carried out by market forces rather than by administrative fiat. In its re-invented form, a central bank would see to it that both bank deposits and bank loans are insured against loss by private sector institutions.
Another advantage of decentralized currencies is that they would promote competition in interest rates. They would dampen inflation by introducing diversity in what is used as money, thus giving a competitive edge to instruments that maintain their value.
Diversity in the operating characteristics of money could introduce profound changes. Money could be created which had a limited life and/or a negative interest rate.
In the 1930s, thousands of U.S. communities created their own negative-interest-rate/limited-life money. This move was modeled on similar and successful developments in Germany and Austria. So great was the popularity of negative-interest- rate money that it was seen as a threat to the hegemony of government-issued money and was therefore made illegal.
In the U.S., stamp scrip was issued by the local Chamber of Commerce, town council or even state government. It was given this name because a stamp costing two cents had to be affixed to each one-dollar note on each Wednesday if the note was not to lose all its value. The issuer of the note redeemed it after two years from the 104 cents raised by selling 52 stamps a year. The percent profit was used to cover administrative charges. The maximum cost to merchants was two percent for the scrip they held on Tuesday night. This is less than a credit card commission paid on every transaction.
Contrast this sensible system with today's Alice-in-Wonderland situation whereby money is used as the message stick to allocate goods and services yet is not defined in relation to goods or services. An alien, intelligent enough to visit our planet, would have great difficulty understanding why we use such an artificial and centralized message stick to govern our society.
As it is, however, technology will soon liberate both people and resources from being "allocated" by market forces based on government-created, monopoly funny money. Digital cash will introduce diversity in both the number of parties who issue money and the type of money issued. This will allow citizens of the world to bypass the need to use official money for most transactions. (See my article in World Citizen News, Oct./Nov. 1995.)
Governments will still be able to create a market for their own type of money by demanding that it be used to pay taxes. They may therefore continue to need their own banker. And a reinvented Central Bank might still be used to carry out the original role of financing governments.
However, without a national monopoly over money, governments would have to compete in the marketplace for foreign exchange rather than obtaining a free ride from the private sector. Market forces' control over money and credit would also encourage governments to balance their budgets.
Their invention of Central Banks would also be part of the process of reinventing the role of government. Instead of money and credit being created by a wealth-consuming public sector, money and credit would be created by a wealth-creating private sector. Market forces would be able to create money and credit of a type and in amounts and at places most suited for local conditions. In this way, local communities and regions could become politically independent by becoming financially independent.
As for the World Bank, its own re-invention would leave it with just one function: encouraging the reinvention of Central Banks in client countries.
Shann Turnbull is economic consultant to the World Government of World Citizens. He can be reached at P.O. Box 266, Woollahra, Sydney, NSW 2025, Australia.