Gresham’s Law (i.e., bad money drives out good money) is often and peculiarly cited by opponents of specie-backed currency. According to Gresham’s law, the existence of a competing yet inferior currency will ultimately result in widespread use of the inferior currency as people hoard the superior currency. The subtle point which is overlooked in this argument is the institutional framework of the economy under observation.

This is the framework they assume:

With the press of a button, a bolt of cloth (in the right hands) can become Federal Reserve Notes, which someone will then be able to use to buy things which already existed prior to the miraculous transmogrification. So long as you can get the new money before anyone else, you can spend it before prices rise, and expropriate real wealth from the rest of a productive society.

Turning simple cloth into greenbacks does not and cannot create wealth. This argument cannot be made about gold, since so long as people continue to desire it (for whatever purposes), the production of gold does constitute the production of real wealth, and the resources allocated towards its procurment are not malinvested.  On the contrary, paper money cannot conjure up the abundance of goods and services which indicate wealth, from nothingness.

Under a gold standard, the amount of credit that an economy can support is determined by the economy’s tangible assets, since every credit instrument is ultimately a claim on some tangible asset. But government bonds are not backed by tangible wealth, only by the government’s promise to pay out of future tax revenues…

Greenbacks are only accepted by people in exchange for real wealth (i.e., goods and services), because people are bound by the full force of the government, to accept them.

When a government, says that bad money = good money, and any refusal to accept this fiat will be met with violence, the results are predictable: bad money drives out good money.

Gresham’s law can only have its prophesied effect when governments distort the market for money, forbidding by one means or another, several currencies from being accurately valued in terms of one another.  In a free market, “bad money” would properly be discounted in proportion to its “badness,” so long as that quality could be reasonably ascertained (a risk that many people might not be willing to bear) and if allowed to trade at a discount relative to the good money, the “bad” money would not drive out the good money, because only an idiot would accept the bad money at face value.

A loan necessarily implies the temporary, conditional surrender of an asset (generally accumulated savings) to another person. There is always some risk that it will not be returned or that you will not be properly compensated per the agreement. But loans are granted on faith, and on the expectation that the lender will, in exchange for consumption in the present, be able to consume more in the future.

If your bartender or grocer extends some personal credit to you, since he doesn’t have any power to print money, he has effectively paid for your consumption out of his own pocket, on the assumption that you’ll pay him back in time.  This sort of credit is non-inflationary because in a simple case (i.e., the grocer isn’t using a line of credit to purchase wholesale, etc.) it is fully collateralized. If you default, the lender loses out on whatever he lent you. The equations balance.

However, a credit card is not a loan.  Sometimes they are characterized as unsecured loans, or unsecured lines of credit, but in truth they are not loans. When you buy a new plasma television on credit at Best Buy, nobody else in the world has loaned you his or her accumulated savings. Unbacked credit (i.e., unbacked by real assets) is purely a debt instrument, according to which the banker demands to be repaid (from your future productive capacity) for money that he literally created out of thin air.

Credit is merely the issue of new debt which must eventually be repaid.  Credit of this nature (not to be confused with actual savings, loaned honestly) is nothing but debt, and it is a fraud.  No one has surrendered an asset during the present, the use for which he anticipates a future income stream sufficient to satisfy his current and relative disutility. Because the interest charged on the debt is not contemporaneously created, debt can only ever be repaid with future indebtedness.  If at any time the banker puts the kibosh on the issue of new debt, the existing debts become harder (or impossible) to repay, and the banks then begin the collections process which, when successful, results in the forfeiture of assets in lieu of satisfaction of the debt; those who control the issue of new debt profit immensely in a manufactured zero-sum game.

When a credit card company facilitates my purchase of a $1,000 television from Best Buy, what it has really done is created $1,000 worth of debt, out of thin air. I have a new television, Best Buy transfers what is essentially an account receivable from its own books to the credit card company, and the credit card company digitally bestows upon Best Buy $1,000 which quite literally never existed until the moment that I swiped my card at checkout. Best Buy then uses this $1,000 in fiat money which must be accepted for all debts public and private, to purchase more televisions, to pay its employees wages or shareholder dividends or income taxes….

Wage earners (most of us) are principally the last people to receive this newly created money, and they receive it only after enough time has passed and the primary and noticeable effects of inflation have rippled through the economy. If you wonder why prices rise, it’s because somewhere, someone else got access to a boat-load of newly minted greenbacks which nobody else knew existed (because in fact they did not exist) and used them to place competing bids on the purchases of real resources.

Non-institutional individuals are always the losers.

I say that those who control the issue of new debt profit immensely, because  all wealth is embodied in real goods and services, not worthless paper and deposit slips.  Through foreclosure proceedings, judgment liens, arbitration and repossession, the lenders seize title to real goods, for which they put up nothing in the first place, except the likelihood that they could perpetuate the swindle for another generation or two.

The present state of the market is such that nearly everyone accepts these credit transactions because they are denominated in the common medium of exchange and are backed by the full force of government fiat.  People accept them, predominately because they have to accept them. Similarly, people are often reliant upon these instruments. Debt-based instruments like these cannot arise in a free market, since nobody will accept them in payment for real goods and services.

But without paper money, some argue, what would facilitate exchange?  We can’t have a barter economy.

Of course, we can’t have a barter economy and we don’t need a barter economy.  For millenia, the market has chosen above all other media of exchange, precious metals; and for good reasons.  Precious metals do not decompose or otherwise lose value over any appreciable time period.  Precious metals are nearly universally desired, thereby eliminating for all intents and purposes the “double-coincidence of wants” which plagues a barter economy.

It makes no differency why people have preferred metals, only that they continue to do so, and that this choice arises spontaneously, voluntarily, and without decree or violence.