General Counsel to NewPavilionArt.com; coauthor, Redefining the Future of the Economy
Alfred Owen Crozier 1912, on the "Aldrich Plan,"
public domain, courtesy of Wikimedia
By Sam Kazemian and Ralph Benko
Bank of England Governor Mark Carney, speaking at Jackson Hole in August, raised the possibility of the emergence of what he called a “Synthetic Hegemonic Currency” (SHC). That’s a new and distinguished descriptor for a cryptocurrency. His remarks left the door open for this currency to emerge from the private, rather than government, sector.
He stated that the:
most high profile of these has been Libra – a new payments infrastructure based on an international stablecoin fully backed by reserve assets in a basket of currencies including the US dollar, the euro, and sterling. It could be exchanged between users on messaging platforms and with participating retailers.
There are a host of fundamental issues that Libra must address, ranging from privacy to AML/CFT [Anti-Money Laundering and Countering Financing of Terrorism] and operational resilience. In addition,
depending on its design, it could have substantial implications for both
monetary and financial stability.
Gov. Carney’s points are well founded. We believe, as we have said elsewhere, that Libra has erred in tying to a basket of currencies rather than the dollar; in relying on full rather than fractional reserve and, with apologies to Alfred Owen Crozier, in adopting a centralized, and ungainly, system of governance.
Let’s drill down to granularity on the matter of centralization vs. decentralization. In some ways, this matter was at the heart of the Battle of the 20th Century. Now this battle moves into the 21st century upon, among other places, the battlefield of cryptocurrency.
The Backstory: Keynes vs. Hayek And The “Battle of the Century”
Libra’s designers do not appear privy to some rich monetary policy history. Hello Mark Zuckerberg, David Marcus, and Dante Disparte! Let us – among the cofounders of Libra’s rival cryptocurrency, Frax – give you a sporting chance by clueing you in. This story is historical but by no means academic.
The winner of the future of the international monetary and financial system -- the genesis block of the Synthetic Hegemonic Currency posited by Governor Carney -- depends upon getting this right.
Mark Twain, with Charles Dudley Warner, once wrote that “History never repeats itself, but the Kaleidoscopic combinations of the pictured present often seem to be constructed out of the broken fragments of antique legends.” Facebook’s Libra, and our own stablecoin, Frax, represent two such Kaleidoscopic combinations now extending well into a new century.
Much of modern economic history was a fight. It was a struggle between the philosophy of centralized economic planning and that of distributed economic dynamism. Communism represented the 200-proof central planning. Socialism was its 80 proof “Jack Daniels” version. Keynesianism is its Chablis. All versions are based on an elitist belief that some of us are smarter than all of us.
Friedrich Hayek is widely recognized as one of the greatest of champions of populist, or decentralized, planning. He courageously wrote the iconic indictment of socialism, The Road to Serfdom. In 1974 he received the Nobel Prize in Economics.
John Cassidy of The New Yorker stated that “it is hardly an exaggeration to refer to the twentieth century as the Hayek century.” Hayek is the white lightening of decentralization. All free market permutations are founded in the proposition that all of us are smarter than some of us. Cassidy:
In 1937, in the wake of the Great Depression and with capitalism and democracy under siege from Communism and Fascism, [Hayek] published an academic article entitled “Economics and Knowledge,” which pointed out that free markets were not just a political construct, as many critics claimed, but remained the best way of coordinating scattered information. Seven years later, when most of the world’s major economies were under unprecedented central control, Hayek published “The Road to Serfdom,” a damning indictment of socialism and state planning that once more, this time in plain English, laid out the fundamental advantage of the free market: by allowing millions of decision-makers to respond individually to freely determined prices, it allocates resources—labor, capital, and human ingenuity—in a manner that can’t be mimicked by a central plan, however brilliant the central planner....
Since the collapse of Communism, of course, Hayek’s arguments have become commonplace. From Mexico to China, the first move of reformist governments has been to privatize state-owned businesses and liberalize prices, usually with positive results. But the validity of Hayek’s analysis is by no means confined to the developing world. Here in the United States, we are currently witnessing a textbook case of price changes acting as signals for resources to be reallocated. The prices in question are the stock prices of firms like America Online, eBay, and Yahoo. During the last few years, soaring valuations for Internet companies have prompted investors to finance thousands of would-be imitators, and established firms of all kinds have responded by spending heavily on information technology and e-commerce.
Keynes vs. Hayek, Best Frenemies
Let’s begin by banishing all acrimony.
Keynes wrote to Hayek, about The Road to Serfdom, “In my opinion it is
a grand book. We all have the greatest reason to be grateful to you for saying so well what needs so much to be said. You will not expect me to accept quite all the economic dicta in it. But morally and philosophically I find myself in agreement with virtually the whole of it: and not only in agreement with it, but in deeply moved agreement.”
(-- To Hayek, June 28, 1944, reprinted in John Maynard Keynes, Activities 1940–1946. Shaping the Post-War World: Employment and Commodities, ed. Donald Moggridge, vol. 27 (1980) of The Collected
Writings of John Maynard Keynes)
Hayek, after Keynes’s death, wrote to Keynes's widow: “He was the one really great man I ever knew, and for whom I had unbounded admiration. The world will be a very much poorer place without him."
The dispute between these two great men was real. It was -- and remains --
an important one. Let us emulate them in prosecuting that dispute without rancor.
The Study of Monetary Questions as One of the Great Causes of
United States Senator Nelson Aldrich chaired the National Monetary Commission which ultimately gave rise to the Federal Reserve System. Sen. Aldrich gave a speech in 1909 to the Economic Club of New York, saying:
I think it was McLeod who said that the study of monetary questions is one of the great causes of insanity. We shall have to deal with men reasonably sane on other subjects, but whose insanity on this is apparent to all.
This was likely a sly swipe at William Jennings “You shall not crucify mankind upon a cross of gold” Bryan. That said, it is regrettably true. We admit to courting insanity in our heroic effort to spare you the peril of the study.
For the non-economists among us… before your eyes glaze over do note that economics doesn’t have to be the dismal science. (Apologies to Thomas Carlyle.) John Papola and Russ Roberts captured the relationship between Keynes and Hayek in a rap video, Fear the Boom and Bust, and its sequel, The Fight of the Century. Together these drew well over 10 million views.
Now an unresolved aspect of the Keynes-Hayek debate – on optimal money – has reincarnated on the dueling ground between the rival cryptocurrencies of Libra and Frax.
But what’s the problem to be solved?
The Problem With the International Financial and Monetary System
After World War II, America, courtesy of Treasury Department official (and Soviet spy) Harry Dexter White, architected a new monetary system for the world. This occurred at the town of Bretton Woods, New Hampshire, after which the post-war monetary system was then named. The Bretton Woods system, which worked as an expedient, was a grotesque caricature of the gold standard in which the dollar, along with gold, was imbued with the status of a central bank reserve asset.
The Reserve Currency Curse
The designation of the American dollar as the world’s official money is what the poet Virgil might have called “the snake in the grass” of the world’s monetary system. America’s merchandise trade deficit manifested in the mid-1970s. It is rooted in how the dollar, by virtue of the Nixon Shock, became the world’s reserve asset.
Both Keynes and Hayek, among others, recognized the system’s inherent flaw. They disagreed on the proper solution. First, let’s take a closer look at the problem.
As John Mueller, a follower of the great economist Jacques Rueff’s American protégé Lewis E. Lehrman, wrote in a speech delivered at the Kemp Forum on Growth, 30th Anniversary of the Gold Standard Act of 1984, U.S. Capitol, Washington, DC, 6 June 2014 entitled Triffin and Rueff, Where the Gold Standard Act of 1984 Came From--and Why It's Still Relevant:
Two economists – Jacques Rueff (1896-1978) and Robert Triffin (1911-1993) – had the distinction of correctly predicting, beginning around 1960, that the Bretton Woods system (then in its heyday) could not last. Under the Bretton Woods system, the United States alone maintained convertibility of the dollar into gold, while other nations kept their currencies convertible into dollar securities. Basing the international monetary system largely on the IOUs of one nation (the United States), Triffin and Rueff proved, was financing a gradual inflation despite a fixed gold price. The monetary IOUs of the United States to foreign central banks kept expanding, but the supply of new gold did not keep up; because rising prices meant rising gold-mining costs, while the output price for gold was constant.
To solve this "Triffin dilemma," Triffin and Rueff agreed, the international monetary system must be based, not on any single nation’s currency, like the dollar, but on a truly international money. But they disagreed about which.
Triffin argued in favor of a plan originally proposed in 1943 by John Maynard Keynes, which would have set up the International Monetary Fund as the world’s central bank. The IMF would issue its own world-wide paper currency, which all nations’ central banks, including the Federal Reserve, would be required to use to settle international accounts. All the central banks, in effect, would stand in the same subordinate relation to the new world central bank as a domestic commercial bank stands to its central bank. The original Keynes plan was rejected because of its inflationary potential, though Triffin suggested safeguards to reduce this danger.
Rueff, on the other hand, argued for a return to the international gold standard; the central banks of all nations would settle their accounts in gold, not the currency of any nation or of a world central bank. This, Rueff argued, was a viable system with a proven record of price stability. And such a reform, he pointed out, would remove the defect that had caused both the breakdown of Bretton Woods and had permitted the deflationary collapse of the similar monetary system based on the pound sterling in the 1920s and early 1930s. (And, I should add, triggered the Great Recession of 2007-09.)
Using the dollar as the world’s money is problematic for America. It forces America to run a current account deficit, which is, in turn, largely composed of a goods and services trade deficit, benefiting American consumers while prejudicing the competitiveness of American agriculture, manufacturing, and international trade service providers. It is problematic for the world as allowing Americans to consume without producing. Valéry Giscard d’Estaing, when France’s finance minister, called the use of the dollar as the world’s reserve currency an “exorbitant privilege.”
It is also a curse.
The healthy world economy requires a non-national reserve currency. Rueff conscientiously pushed the classical gold standard, to no avail. Rueff’s thinking dominated French policy. However, the dominant figures in this debate proved to be Keynes and Hayek.
Keynes called for an International Clearing Union. He denoted his proposed non-national paper currency as the “Bancor.” Keynes’s death shortly after the Bretton Woods conference sanctified his reputation. It also froze into doctrine the thinking of what his biographer, Sir Roy Harrod, called “a man of expedients.”
Hayek, however, was intensely skeptical about the good faith (or competence) of governments. He considered a radical denationalization of currencies optimal.
More on the International Clearing Union
The presenting problem and Keynes’s proposed solution were nicely summarized by The Week’s Ryan Cooper a few years ago:
Nations like Germany with a large export surplus often portray it as resulting from their superior virtue and technical skill. But the fundamental reality of such a surplus is that it requires someone to buy the exports. As Yanis Varoufakis points out in his new book, without some sort of permanent mechanism to recycle that surplus back into deficit countries, the result will be eventual disaster. It's precisely what caused the initial economic crisis in Greece that is still ongoing.
Bretton Woods addressed this problem with a set of rather ad hoc measures. The dollar would be pegged to a particular amount of gold, and semi-fixed exchange rates for other currencies were to be fixed around that. In keeping with White's more orthodox economic views, all trade imbalances were to be solved on the deficit side. There was no limit to the surplus nations could build up (importantly, at the time the U.S. was a huge exporter), and the IMF was tasked with shoring up countries having serious trade deficit problems by enforcing austerity and tight money. (This would lead to repeated disaster for developing countries.)
Keynes' idea, by contrast, was substantially more ambitious. He proposed an overarching "International Clearing Union" that potentially every country in the world could join. It would create a new reserve currency, the "bancor," that could only be used for settling international accounts, and member nations would pay a membership quota in proportion to their total trade. Countries in surplus would receive bancor credit, while those in deficit would have a negative account.
What Keynes and others missed was the development of large-scale international financial flows. Any balancing mechanism would today have to address both trade (goods and services) and financial flows, not just goods flows as envisioned by Keynes.
Enter Libra, a Keynesianesque System
Facebook introduces something that appears to us conceptually akin Keynes’s International Clearing Union scheme. Libra’s White Paper reads to us very like it is echoing the broken fragments of Keynes’s ICU:
The world truly needs a reliable digital currency and infrastructure that together can deliver on the promise of ‘the internet of money.’
Securing your financial assets on your mobile device should be simple and intuitive. Moving money around globally should be as easy and cost-effective as — and even more safe and secure than — sending a
text message or sharing a photo, no matter where you live, what you do, or how much you earn. New product innovation and additional entrants to the ecosystem will enable the lowering of barriers to access and cost of capital for everyone and facilitate frictionless payments for more people.
Now is the time to create a new kind of digital currency built on the foundation of blockchain technology. The mission for Libra is a simple global currency and financial infrastructure that empowers billions of people. Libra is made up of three parts that will work together to
create a more inclusive financial system:
1. It is built on a secure, scalable, and
2. It is backed by a reserve of assets designed
to give it intrinsic value;
3. It is governed by the independent Libra Association tasked with evolving the ecosystem.
The unit of currency is called “Libra.” Libra will need to be accepted in many places and easy to access for those who want to use it. In other words, people need to have confidence that they can use Libra and that its value will remain relatively stable over time. Unlike the majority of cryptocurrencies, Libra is fully backed by a reserve of real assets. A basket of bank deposits and short-term government securities will be held in the Libra Reserve for every Libra that is created, building trust in its intrinsic value. The Libra Reserve will be administered with the objective of preserving the value of Libra over time.
Libra’s basket of currencies closely resembles the IMF’s Special Drawing Rights. Shades of Lord Keynes!
Hayek’s Denationalization of Money
Hayek's charter document on this subject, The Denationalization of Money, published in 1977 in the teeth of an inflationary spiral, lays out his plan and purpose. An extract, with thanks to the Nakamoto Institute for reprinting it in full to the Web:
Free trade in money
The purpose of this scheme is to impose upon existing monetary and financial agencies a very much needed discipline by making it impossible for any of them, or for any length of time, to issue a kind of money substantially less reliable and useful than the money of any other. As soon as the public became familiar with the new possibilities, any deviations from the straight path of providing an honest money would at once
lead to the rapid displacement of the· offending currency by others. And the individual countries, being deprived of the various dodges by which they are now able temporarily to conceal the effects of their actions by 'protecting' their currency, would be constrained to keep the value of their currencies tolerably stable.
How could this be realized in practice? Hayek prophetically foresaw something eerily resembling the blockchain and smart contracts.
Perhaps I ought to spell out here in more detail how an issuing bank would have to proceed in order to keep the chosen value of
its currency constant. The basis of the daily decisions on its lending policy
(and its sales and purchases of currencies on the currency exchange) would have to be the result of a constant calculation provided by a computer into which the latest information about commodity prices and rates of exchange would be constantly fed as it arrived.
Enter Frax, a Hayekesque Solution
Frax, Libra’s key rival, realizes the Hayekian model. In particular, Hayek lays out the four parameters that a (crypto)currency must fulfill:
“There are four kinds of uses of money that would chiefly affect the .choice among available kinds of currency: its use,· first, for cash purchases of commodities and services, second, for holding reserves for future needs, third, in contracts for deferred payments, and, finally, as a unit of account, especially in keeping books. … They are also interdependent in such a way that, although at first different attributes of money may seem desirable for its different uses, money renders one service, namely that as a unit of account, which makes stability of value the most desirable of all. Although at first convenience in daily purchases might be thought decisive in the selection, I believe it would prove that suitability as a unit of account would rule the roost.
We have kept Hayek’s guidance firmly in mind in designing Frax.
Libra, instead, shows affinity for, and perhaps outright fidelity to, Keynes.
“Libra Fails the Hayek Test”
One scholar, Peter Fofinger, professor of economics at Wurzburg University and a former member of the German Council of Economic Experts, wrote in Social Europe, "Libra: Facebook’s new currency fails the Hayek test.” He observes:
Stability is crucial for a private currency, if it wants to succeed in competition with established national currencies and the euro. This was already made clear by Friedrich Hayek in his pioneering book Denationalisation of Money….
The Libra designers therefore compare their model with the institution of a ‘currency board’, as practised in Argentina between 1991 and 2002 and still adopted in Bulgaria. A currency board is a type of central bank where the liabilities (cash and reserves of commercial banks) are in principle fully covered by liquid foreign-currency investments.
The problem with the Libra, however, is that it is not designed as a national, but rather a supranational, currency. The stability
of the currency is therefore related to the basket and not to a specific
In this respect, the Libra can be compared to a basket currency such as the Special Drawing Right (SDR) created by the International Monetary Fund. …
Assuming that a basket structure comparable to the SDR is chosen for Libra, the pro[m]ise of value stability is not guaranteed from the point of view of national investors. If a German household were to buy 10,000 libra with 12,200 euro, it would de facto acquire foreign currencies for around 68 per cent of the amount (the residue after the 32 per cent euro share). With sometimes very strong fluctuations among the major reserve currencies, the household would take on a considerable exchange-rate risk.
Thus, investments in Libra are completely different form (sic) traditional bank deposits, denominated in the national currency. Libra is a highly speculative investment.
Prof. Fofinger then discourses upon Libra’s liquidity risk, redemption risk, and the asymmetry of the holders lacking an opportunity to profit from assuming these risks.
A Meta-Dollar as the Synthetic Hegemonic Currency?
The dollar is, in some ways, more dominant than ever. As David Beckworth recently observed at Mercatus.org in The Challenges of Dollar Dominance:
The dollar is now a truly hegemonic currency and, as a result, creates challenges not only for other countries but also for the United States.
The dollar’s dominance is evidenced by the 50 to 80 percent of international trade being invoiced in dollars, the $28 trillion of relatively liquid, dollar-denominated debt held outside the United States, and the 70 percent of the world economy’s currencies anchored in varying degrees to the dollar.
Or as Chen Gong, Anbound’s founder, recently writing in the Brussels Times observed of Gov. Carney's August speech at Jackson Hole:
As the oldest central bank in the world, the Bank of England’s statement on the U.S. dollar from the perspective of central bank governance is not only a theoretical discussion on the financial regulation and monetary policy, but an actual indication that the position of the U.S. dollar system in international trade and finance appears to have been shaken. This is undoubtedly an important signal affecting international trade, finance, and economic structure. Decision-making departments, investors and business practitioners, therefore, should pay heed to this signal. ... The large-scale quantitative easing after 2008 also made the inherent vulnerabilities and implicit systemic risks of the U.S. dollar-dominated international monetary system are gradually becoming clearer. ... The “excessive privileges” of the dollar are increasingly incompatible with the current needs of international trade and financial transactions. For this, the world has a real need and reason to get rid of the dollar. ... In this regard, ANBOUND, an independent think tank based in Beijing, has analyzed the development trend of the international monetary system through the study of the gold standard and super-sovereign currencies. Unlike other forms of “international currency” that are discussed by central banks as alternatives to the U.S. dollar, ANBOUND believes that the “super-sovereign currency” will prevail, or in other words, that the U.S. dollar will be replaced by a geo-currency in the development of the future international monetary system, not by digital currency. The status of the dollar might be in a slow decline, but its decline will be a very long process. In the short term, the world may not ever be able to move on from the dollar system.
Enter the “Meta-Dollar”
But the story begins yet does not end there. By harnessing, rather than replacing, the dollar and conjoining it on the blockchain with fractional reserve and Hayekian decentralization Frax aspires to become the Synthetic Hegemonic Currency. It is designed to add to the stability of the International Monetary and Financial System while rendering unnecessary some of the current intermediary transaction settlement layers.
Could be a big deal. Credit card companies made $163 billion in 2016. The blockchain will allow commercial profit margins to go up and consumer costs to go down, significantly.
Could the coming Synthetic Hegemonic Currency could be a refinement, rather than a replacement, of the dollar? Enter the Meta-Dollar, Frax.
Where It Goes From Here
Yes, per Mark Twain, “Kaleidoscopic combinations of the pictured present often seem to be constructed out of the broken fragments of antique legends.” The philosophies of Keynes – central planning – and Hayek – decentralization, the quintessence of “group intelligence” – can each be considered antique legends.
And here we are, virtual travelers to an antique land, where:
Two vast and
trunkless legs of stone
Stand in the desert.
. . . Near them, on the sand,
Half sunk a
shattered visage lies, whose frown,
And wrinkled lip,
and sneer of cold command,
Tell that its
sculptor well those passions read
Which yet survive….
Both economic philosophies have been, as it were,
reincarnated by, or at least upon, the blockchain.
May the best cryptocurrency win!
The authors are among the co-founders of Frax. Sam Kazemian is the chief executive officer of, and Ralph Benko is the general counsel to, Frax, a stablecoin now targeted for release in Q4 2019.
Kazemian is an Iranian-American software programmer and co-founder and president of Everipedia, a for-profit, wiki-based online encyclopedia founded with Theodor Forselius in 2014. Benko was the founder of the Prosperity Caucus, a former Reagan White House deputy general counsel, and former senior counselor to the Chamber of Digital Commerce, the largest trade association representing the blockchain ecosystem.
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