China - Monday 26th June 2006
Imperial collapse from monetary crisis.
From 1260, when Genghis Khan's grandson Kublai was Chinese emperor (and after a few earlier false starts) paper money finally took root.
This 1 Kuan note is of one of the oldest banknotes
in the world. It was made in China in about 1380.
To begin with there was an extensive system known as the First Mongol Issue which was over-issued as soon as it was successful and then depreciated rapidly. It was replaced on a 5:1 ratio by the much longer lasting Second Mongol Issue.
Marco Polo explains
This ran from 1264 to 1290 and was famously described by the Italian adventurer Marco Polo - the first European to visit China and return to write about it :-
"The emperor's mint then is in this same city of Cambaluc, and the way it is wrought is such that you might say he has the secret of alchemy in perfection, and you would be right. For he makes his money after this fashion. He makes them take of the bark of a certain tree, in fact of the mulberry tree, the leaves of which are the food of the silkworms, these trees being so numerous that the whole districts are full of them. What they take is a certain fine white bast or skin which lies between the wood of the tree and the thick outer bark, and this they make into something resembling sheets of paper, but black. When these sheets have been prepared they are cut up into pieces of different sizes.
All these pieces of paper are issued with as much solemnity and authority as if they were of pure gold or silver; and on every piece a variety of officials, whose duty it is, have to write their names, and to put their seals. And when all is prepared duly, the chief officer deputed by the Khan smears the seal entrusted to him with vermilion, and impresses it on the paper, so that the form of the seal remains imprinted upon it in red; the money is then authentic. Anyone forging it would be punished with death. And the Khan causes every year to be made such a vast quantity of this money, which costs him nothing, that it must equal in amount all the treasure of the world.
Furthermore all merchants arriving from India or other countries, and bringing with them gold or silver or gems and pearls, are prohibited from selling to any one but the emperor. He has twelve experts chosen for this business, men of shrewdness and experience in such affairs; these appraise the articles, and the emperor then pays a liberal price for them in those pieces of paper. The merchants accept his price readily, for in the first place they would not get so good an one from anybody else, and secondly they are paid without any delay. And with this paper money they can buy what they like anywhere over the empire" The Travels
Inflation took hold in 1287. But even then life under this system remained extremely good. It was described by Alexander Del Mar, America's foremost monetary historian during the 19th century:-
"This was the most brilliant period in the history of China. Kublai Khan, after subduing and uniting the whole country and adding Burmah, Cochin-China, and Tonquin to the empire, entered upon a series of internal improvements and civil reforms, which raised the country he had conquered to the highest rank of civilization, power and progress. Tranquillity succeeded the commotions of the previous period; life and property were amply protected; justice was equally dispensed; and the effect of a gradual increase in the currency, which was jealously guarded from counterfeiting, was to stimulate industry and prevent the monopolization of capital. It was during this era that the Imperial canal, 1660 miles long, together with many other notable structures were built." History of Monetary Systems - 1886
The Second Mongol issue continued falling in value until in 1310 a third issue replaced the second, duplicating the 5 : 1 ratio with which the second had replaced the first. Then things changed markedly for the worse.
"Population and trade had greatly increased, but the emissions of paper notes were suffered to largely outrun both, and the inevitable consequence was depreciation. All the beneficial effects of a currency which is allowed to expand with a growth of population and trade were now turned into those evil effects that flow from a currency emitted in excess of such growth. These effects were not slow to develop themselves. Excessive and too rapid augmentation of the currency, resulted in the entire subversion of the old order of society. The best families in the empire were ruined, a new set of men came into the control of public affairs, and the country became the scene of internecine warfare and confusion." Del Mar
In the final phase of the Mongol dynasty in about 1350 huge efforts were made to correct the management of the currency but the situation was beyond repair, monetary paper having been issued in one form or another by all manner of private, provincial and government agencies in what amounted to an explosion of credit. The new Ming dynasty issued yet more paper currency with legislation stating "This paper money shall have currency, and be used in all respects as if it were copper money". There was no public confidence in this declaration and at the outset the paper traded at 17 : 13 against copper coinage. Before long the ratio fell to 300 : 1.
A modern comparison
No historical episode is directly comparable with modern circumstances, but ancient China had some similarities. Its borders were secure, it was enormously confident in its institutions of state, it had enjoyed a prolonged period of economic success, and built its civic and commercial infrastructure on what amounted to capital issued for nothing. State and corporate paper had been injected in quantities which had never previously been imagined.
It left labour and enterprise happy and confident, which can correctly be looked on as the beneficial result of good money management. Indeed the economic policies of the period were at the time widely thought to be exceptionally enlightened and probably permanent - a view which persisted for several decades during a period of steady currency inflation.
Yet this prosperous and confident period preceded rapid financial and political decline. When the confidence in the currency gave way there was wholesale destruction of the value of savings in almost all forms at once, and the dynamism required to sustain empire rapidly disappeared. As its once respected institutions imploded the state itself was overthrown from the inside within a few years. That was the end of the Mongols.
Gold at the junction of monetary systems
Ancient China helps to illustrate one of the monetary roles of gold.
Well managed artificial money can support a good economy, but it will eventually collapse under the excesses of its period of greatest success. Eventually a few debtors fail. It takes very few failures before creditors start to see risk in every promise to repay. Their faith in their institutions evaporates, and they become acutely aware of the dangers of anything intangible or corruptible.
This is why gold re-materialises as a preferred store of value in times of severe economic distress. Artificially rare money is corrupted by over-issue, which is a powerful temptation when productive economic expansion has become difficult to achieve.
Gold drifts back into the background during times of sound economic management. A truth - unpalatable to the true gold bug - is that gold underperforms artificial money in an environment capable of supporting healthy business growth. Well managed artificial money allows the capital supply to expand and support the need for it by businesses which have the prospect of succeeding. Gold - on the other hand - rations capital. It cannot expand its supply to satisfy all the phantom business opportunities apparently offered by an advanced but creaking economy.
When economic environments are mature, and when profitable business opportunities are few, gold becomes a good way of storing value. It allows its owners to avoid being caught up in a currency whose supply is repeatedly expanded in search of business growth which is not going to happen.