The Material World

by Byron King

I think that you could have written the following paragraphs from Volume II of “Democracy In America”, or something close to them, but Mr. de Tocqueville beat you to it by about 165 years.

When Mr. de Tocqueville discusses “prosperity,” he does not define the term. He is discussing a conclusion, and only describing the foundations of the premise in a roundabout way. Perhaps the foundations and constructs of the term “prosperity” in the 1830s were so obvious and self-evident, that they needed no description to readers in that age.

Everyone knew, back then, that prosperity came from work and saving, from transforming one’s local resources into saleable capital. As de Tocqueville observed, the treasures of North America were there for the digging, the planting, the harvesting, the mining, and the lifting. Once harvested or gathered, the primary goods were available to ship to the mill or the factory and then to sell into the broader stream of commerce, thence to flow to final consumption.

The financial accounting for the prosperity that de Tocqueville discussed occurred in a gold-standard world of hard money, in which a gold-dollar would, one day, be worth the same as a gold-dollar the next day. It was a fairly simple and predictable economic system that mirrored the world of nature, a system that the late Geologist M. King Hubbert called a “material-energy” system.

Today, however, the prosperity of the U.S. and the world is premised upon a “monetary system.” Monetary systems are based on fiat currencies issued by central banks, distributed to the public via a fractional reserve banking system. The current monetary and banking system is premised on the idea that economic activity is governed by interest rates. At root, this requires that quantities of, say, dollars “grow” via compound interest, and compound interest by definition creates an exponential pattern of growth. Fiat currencies, without the backing of any external control (at least, not since the developed world left the gold standard; certainly since Bretton Woods was abandoned in 1971), can be and are created in essentially unlimited amounts, via accounting entries, and as a rule, in response to political pressures.

Thus, despite its favorable reputation in many circles, “Monetarism” has been unsuccessful in regulating the long-term stability of fiat currencies. The political-fiscal pull is always towards increased government borrowing and spending, and hence towards the creation of excess fiat currency by the central bank. The modern history of what passes for money is a history of money’s decline in value.

For many decades, certainly since 1913 and the creation of the Fed, the U.S. “money supply” has grown faster than the available supply of goods and services within the national economy and its world-trade connections. Thus the U.S., and by extension the world, has lived with inflation for most of the past 90 years. Between 1914 and the present, the U.S. dollar has lost over 97% of its purchasing power. Governments and citizens, consumers all, have simply adapted to spending more and more funds each year to purchase the same basic quantities of goods.

However, as is becoming generally evident today in a crowded world of rising demand for basic commodities, the earth offers up its resources in a linear fashion, yard-by-yard, bushel-by-bushel, ton-by-ton and barrel-by-barrel.

The “restless prosperity” of de Tocqueville’s local observation in a material-energy world has become a “precarious prosperity” in a time of global demand in a monetary world. The most obvious example of a strategic commodity, a fruit of the earth that is now reaching its peak-point of world production, is oil (but this is another discussion for another time).

The point to make here is that exponentially growing numbers of “monetary” dollars, and, by extension, other world currencies, are now encountering limits to production of material-energy resources. As the supplies of available material-energy resources grow linearly and eventually peak in production, an expanding monetary base dictates that prices must climb and eventually skyrocket. Modern “prosperity” will be revealed as an accounting fiction when certain critical goods are no longer available at any price in monetary currencies.

Most of the non-Western world lived in relatively primitive conditions for most of the past 90 years. The West built its prosperity by using local and imported goods, and the so-called Third World existed at a much lower standard of living. This was the way of the world in the 20th Century. During this time, the two trends, of linear physical production of resources and exponential creation of fiat currency, did not confront each other in a way that Western societies could not accept or accomodate. In the West, inflation just became a way of life (although some nations experienced debilitating episodes, such as Weimar Germany or Argentina). But for most of the West, for most of the past century, inflation was a short-term economic nuisance, quickly fixed by government policies geared to raise incomes in a world of limited competition for apparently bountiful resources. As a long-term issue, inflation was mitigated by governments creating social safety nets for those who did not save, or for those whose savings were destroyed by inflation. This admittedly short summary is the modern paradigm of Western democratic governance.

But now China and India, with total populations over 2.6 billion, or nine times that of the U.S., and many other nations as well, have developed and are developing their economies. These new economies are demanding the same commodities from the material-energy world as the West has been consuming for decades. These new economies are, at the same time, wired into the Western monetary scheme. This means that they too are acquiring the quantities of Western currency they need to break into the world of mass consumption of material-energy resources. This new commodity-demand by developing nations, for basic energy and resource materials as well as for food and fresh water, is fueled by the West’s own credit-creation. And it is on a colliding trend with the strategic interests of the West.

The world is in the early stages of what some people call a “commodities boom.” In the short term, and because the monetary system of the West is rigged in favor of the West’s own self interest, the West will simply inflate its currencies to enable its purchasers to obtain what they need. But as aggregate world demand races past the peak points of material-energy production, and the developing countries and peoples accumulate Western currency reserves, the “boom” will accelerate into hyperinflation of prices as more and more dollars chase the same quantities of goods.

The U.S. dollar is fast approaching the point where, as a unit of currency, it can no longer be trusted to reflect a proper price signal as to the value of basic commodities. Eventually the dollar will take a dramatic fall from favor. Contrary to what de Tocqueville described in the U.S. of the 1830s, “happy men, restless in the midst of abundance,” general prosperity will vanish in a world of scarcity. One can only speculate as to what will emerge from the economic wreckage.

Byron King is a graduate of Harvard University and currently serves as an attorney in Pittsburgh, Pennsylvania.