Probability of fiat collapse

I observe that people are still buying and selling long term corporate bonds at prices that indicate low inflationary expectations.

On the other hand, total value of world gold is about fifteen trillion dollars, which indicates a lot of people expecting partial or total collapse of fiat money

That people are buying and selling government bonds at prices that indicate low inflationary expectations is not necessarily indicative of anything, since there are a lot of funny goings on the government bond market, but the corporate bond market is probably not all that manipulated, hence a genuine indicator.

So there are a lot of rich, and therefore presumably competent, people who expect collapse of fiat money, and a lot of rich , and therefore presumably competent, people who think this extremely unlikely.

There is a black swan bias:  People tend to discount the probability of events that happen less than once in a lifetime, so under estimate the likelihood of fiat moneys vanishing.

There is a bubble bias.  People think that this time it is different, that trees grow to the sky, so over estimate the likelihood that gold will grow to the sky.

So much for the wisdom of crowds.  There is a crowd with great confidence in fiat money, and there is a plausible rationale to call that crowd crazy, and a crowd with great confidence in gold, and there is a plausible rationale to call that crowd crazy.

So, time to consider the underlying forces, the basic mechanisms at work.

Suppose that there was in the world one central bank, issuing one fiat currency, the base money for all other moneys, all other central banks, which are not so central.  Suppose this bank is ruled by a wise hereditary ruler, King Hamurrabi, immune to external pressures.  He has a sweet gig, so he does not want to spoil it by issuing too much money, by abusing his power.  Everything will work.  There is no way he will issue so much money that people stop using his money altogether.  The world will operate on fiat money for ever and ever, with no prospect of change, nor any problems ensuing that would make people much desire change.

Unfortunately, after a while King Hamurrabi’s royal guard tell him “Hey, Ham, you got a sweet gig running, we want some of it.”

So  now there are a hundred people who can issue fiat money in the name of the Bank of King Hamurrabi, instead of one.  Soon they are issuing too much, way too much, and after a while, people lose faith in King Hamurrabi’s fiat money altogether.   As long as King Hamurrabi bank was one man who could, and would, make decisions for his long term benefit, there as no way fiat money could possibly end.  When his bank was a hundred men, each one pursuing his own good without all that much concern for the good of the other ninety nine, there was no way fiat money could possibly continue.

In Europe, theoretically only the central bank can issue Euros.  In practice however, every European government, and every major European bank, can issue Euros.

And in America, every too big to fail institution can in effect issue dollars.

What happens is that on a Thursday, a European government sees it is not going to be able to make payroll on Friday. So it robs the banks.  And when the national government proceeds to rob the national banks to make payroll on Friday, rules or no rules, the European Central bank proceeds to bail the national banks out on Saturday with completely illegal money issue, rules or no rules, because it well knows that if it did not, the banks would be surrounded by screaming mobs on Monday.

Under Basel, banks, governments, and regulators have become so intimately connected that there is no market discipline on banks.  Banks seek political favor, not profit.  If they lose money it is not a problem, except  for the taxpayer.  Irresponsible political lending abounds, leaking money.  So every European government can effectively issue fiat money, and every major bank can effectively issue money.  Institutions guaranteed formally or informally by the taxpayer are allowed to take complicated risks, risks too complicated for the regulators to understand, even if the regulators were not bank employee shortly before they became government employees,  and due to become bank employees again in the near future.   From time to time these risks blow up, but the bankers concerned will usually be fine if they lent lots of money to pals of politicians, and to voting blocks that the politicians were wooing.

To save fiat money would require a restoration of discipline.  A restoration of discipline needs a central bank that allows irresponsible behavior to be punished by important people actually running out of money.  To restore discipline, the money issuers need to say no.  Pigs will fly first.