What is this?
This is a piece intended to stretch our imagination around the nature of money. I encourage you to pursue it to the end despite whatever prior beliefs you may have.
Executive Summary: Ampleforth is Gold 3.0
It Starts With Bitcoin
Money hasn’t been improved. Money has rather become worse over the course of time.
— Friedrich Hayek
The invention of Bitcoin is one of the most important innovations in our lifetime and in human history.
Many people look to Bitcoin as “digital gold” or “gold 2.0” and these titles are fitting given the absolute scarcity of this new type of asset. In fact, it is even superior to gold in many respects. Bitcoin certainly possess many attributes of an ideal money: it is scarce, divisible, tradable, secure, and durable. It has an independent monetary policy and no single entity can easily influence the direction of the network.
Many proponents of Bitcoin believe this new type of money can replace fiat currency and improve the health and stability of our monetary system (which has just a few challenges at the moment). And, Bitcoin may in fact be able to do this. It really is a revolutionary new invention and monetary technology which has produced an entire new industry of innovation.
But is Bitcoin an ideal form of money? What is ideal money? Here, I want to try to stretch our imagination around the nature of money.
Imagination is more important than knowledge.
— Albert Einstein
Two Types of Money
Generally speaking, only two types of money technologies exist: commodity-based monies like gold and Bitcoin and fiat currencies like the US Dollar, Euro, etc. These divisions will serve to guide the content which follows.
- First, we will start by remembering the Gold Standard: what it was and why it failed.
- Second, we will inspect the Fiat Currency Standard which came after the Gold Standard: this will bring us to the present day.
- Finally, we will imagine what a new type of money might look like: here we will be introduced to Ampleforth, a new synthetic commodity money.
The Gold Standard
Why did the Gold Standard fail?
After World War II, the world’s nations came together in the Bretton Woods Conference and made various agreements which defined how the world would look after the war. Notably among these was that the United States, which had all the world’s gold at the time, would dictate the rules for the new global monetary system. The currency was the US Dollar and it was backed by gold at $35/oz.
This design was agreeable enough and it gave the US a lot of power. Over the next few decades after the war nations went to work rebuilding and in peacetime the world grew tremendously. We can see this by looking at 3 charts:
In particular, it is clear that 1950 was bit of turning point in each of these trends. After 1950 there were simply more people in the world and more economic activity. When you stop to consider this point you realize that it means something else must be true as well: the supply of money supporting the world economy must have also grown. But why is this?
Consider your own life, you have and use money in your day to day life. You are paid a salary and you generally buy things and make financial transactions in the economy. Some amount of money must exist to allow you to do this.
Now, if there are suddenly 100 more people like you it follows that there needs to be roughly 100 times more money supply to support a similar level of economic activity.
Not only that, but imagine that there are 100 more people AND they are trading and generating more economic activity and commerce than they were before. You would now require an even greater money supply to support these people and their economy activity.
So, in the post-war period after 1950s when the world experienced accelerating population and economic growth there needed to be a growth in the underlying global currency supply as well.
But the currency at the time, fundamentally, was pegged to a relatively fixed supply of gold. Of course, some new gold is introduced into the economy via mining every year, but this was insufficient at that time to keep up with the demands of the growing world economy. Moreover, new gold from mining is distributed into the system unevenly.
The result is that an imbalance began to develop: the money supply could not expand in line with the growth in the economy it was supporting. Practically, two things resulted:
- The emergence of the Eurodollar System, which probably accounted for a lot of the actual money supply expansion to facilitate global economic growth (also a complex and mysterious subject).
- The Gold Standard eventually failed.
The US was forced to abandon the Gold Standard before foreign countries made a run on all of the nation’s gold. Because “gold is money”, the US couldn’t let this happen. They suspended dollar convertibility into gold and that brought us to the present monetary era: one in which fiat currencies are the new standard.
One quick point before we get to fiat currencies. The most important takeaway from the Gold Standard era is that the United States was forced to break the gold peg. They didn’t choose to do it. The market forced them to. That is, gold itself was unable to accommodate the economy which was built on top of it.
Moreover, after the gold-dollar peg was broken, the gold price rose dramatically in the 1970s as the US battled with inflation. This highlights another problem of commodity-based currencies: as the price of gold rose, and as individuals feared inflation, people rationally bought and hoarded gold to protect their purchasing power.
If gold was truly the base money for the economy then exactly at a time when more money was desired by the system the rational actors in the system were incentivized to produce an undesirable result by hoarding gold in anticipation of the price rising further.
These observations highlight some of the unique disadvantages of fixed supply, commodity-based currencies like gold and Bitcoin.
Now, on to fiat currencies.
The Fiat Currency Standard
Since 1971 we have been living in a Fiat Currency Standard world. No currencies in the world today are backed by any hard assets like gold or silver. They are all free-floating and backed by faith in sovereign governments.
The emergence and subsequent domination of fiat currencies came because fiat currencies have exactly the advantage which gold lacks: they have a low cost of production but a high cost of duplication (i.e. counterfeiting).
That is to say, governments can easily create more if necessary or if they want to.
Looking back at those three charts of world population, trade, and GDP growth from the 1950s-1970s it is clear that that was just the beginning. The growth in the past decades was been absolutely tremendous. And, accordingly, money supplies globally have expanded to unprecedented levels which are now counted into the tens of trillions in order to support this economic growth.
A succinct representation of this is found in the growth in central bank balance sheets over the past 12 years:
This radical expansion in fiat currencies has encouraged record levels of debt expansion which has exacerbated the regular boom/bust economic cycle and created significant financial imbalances and dislocations globally which now have no easy or clear solutions.
Because fiat currencies tend to expand too generously, they are particularly vulnerable to runaway inflation. There are many well known cases illustrating this point throughout history, but an especially relevant case is to just observe the declining purchasing power of the US Dollar over the last century:
These observations serve to illustrate some of the major drawbacks of fiat currencies.
- First, fiat currencies have completely unlimited supply. In the best case this results in mild inflation which erodes purchasing power over time and in the worst case results in hyperinflation which destroys economies.
- Second, supply expansion in fiat currencies tends to be dilutive. That is to say, the new currency is not distributed equally throughout the economy (the Cantillon effect). This results in wealth inequality and in general is not efficient.
- Third, fiat currency monetary policy is discretionary. Despite how well-intentioned policy makers are, it is impossible that their decisions can always be optimal for the economy as a whole. In practice, they often prefer time-inconsistent monetary policy which has a positive impact in the near term despite creating problems in the longer term.
- Fourth, discretionary monetary policy in a purely fiat based monetary system tends to exacerbate the ordinary boom/bust cycle creating greater financial volatility for economies and societies.
All of these points really stand out in recent decades in which ever lower interest rates and quantitive easing have stimulated debt growth and asset price appreciation which has worsened wealth inequality and created economic distortions. Yet, these policies were chosen to mitigate near term financial crises. The downside is that they promote longer term financial imbalances.
Gold vs. Fiat
We now reach a point where we can compare these two types of currencies.
Gold, and other commodity-based currencies like Bitcoin, have the unique advantage of having a scarce supply. Bitcoin, unlike gold, has an absolutely scarce supply and a perfectly predictable monetary policy. However, this also means their supply is inelastic and incapable of expanding in any macroeconomic conditions where expansion might be preferable.
Fixed supply currencies, like gold and Bitcoin, also tend to be highly volatile in price. Bitcoin’s volatility is well known, but even gold has exhibited extreme price volatility throughout the past century. Of course, many would argue gold is in fact stable and it is the value of fiat currencies which is volatile (but the inflation adjusted price begs to differ). Highly volatile currencies cannot function as stable units of account.
Even if there is a world where the prices of commodity-based currencies could one day stabilize, they would still be vulnerable to the supply inelasticity problem which destabilized the Gold Standard in the first place.
Fiat currency, on the other hand, has elastic supply and can be easily expanded to support economic growth or cope with economic shocks. However, fiat currencies are guided by discretionary time-inconsistent monetary policies which are unable to produce optimal economic outcomes.
The resulting conclusion is that neither gold nor fiat are ideal money technologies, although both possess some desirable qualities.
I think the rule ought to be that whomever issues the money must adapt to quantities so that the price level would remain stable.
— Friedrich Hayek
What, then, would constitute an ideal money? What if there was a type of money which could combine the advantages of gold and the advantages of fiat currency but exclude the disadvantages of both? What would this money look like?
Let’s list out some desirable characteristics:
- The money should be able to serve as a reliable store of value and stable unit of account.
- The money should have a dynamic supply so it can adapt to adverse or changing macroeconomic circumstances.
- The money should be resistant to hyperinflation and hoarding.
And of course, this ideal money should include the other known desirable properties of money, e.g. durability, portability, divisibility, uniformity, limited supply, and acceptability.
This new type of money is embodied by Ampleforth, a supply elastic synthetic commodity money.
Ampleforth adjusts its supply on a daily basis depending on market demand using a transparent rules-based monetary policy enforced through smart contracts.
If demand for Amples is high, the system responds by increasing the supply of Amples in a non-dilutive way. If demand for Amples is low, the system contracts supply in the opposite direction. The system judges demand using the exchange rate price of Amples gathered from decentralized price oracles. The system adjusts supply such that the price is encouraged to move in the direction of an equilibrium range around the value of 1 2019 US Dollar.
Supply adjustments are perfectly fair. If you own 1% of the Ample supply, you will always own 1% of the supply regardless of what supply adjustments happen in the future.
As a result, Amples represent the first monetary technology built on sound economics: money reimagined. You can think of Ampleforth like a natural system which is dynamic and adaptive and constantly seeking an equilibrium state. Such a system should provide a strong foundation for building stable financial and economic systems.
Amples are elastic gold.
Right now, the unique economics of Ampleforth have produced a new type of monetary base asset which can serve as a tool for portfolio diversification or can be used as a DeFi primitive to construct more complex economies and financial applications in the emerging DeFi ecosystem.
In the future, Amples could evolve into a stable non-collateralized form of base money which can be used for denomination, saving, and exchange, all while being macro-economically friendly.
In the very distant future, Amples may be able to encourage a more fair and balanced economy which should benefit everyone.
Follow the White Rabbit
If you found this interesting, I would encourage the following next steps:
- First watch these three short videos: one, two, three.
- Read the Ampleforth white paper.
- Read the Ampleforth Red Book.
The credit for much of the thought process behind this post goes directly to the Ampleforth team and founders. I am not affiliated with the Ampleforth Foundation. I am just an independently curious person. You can follow me on Twitter, if you are also curious. This article appeared in an earlier form first on AMPL Talk.