A freely traded digital currency backed by gold may be just around the corner. This week, at the MIT Technology Review’s Business of Blockchain conference, I heard Sandra Ro of CME Group (which operates the world’s largest futures and options exchange) discuss a partnership with the U.K.’s Royal Mint to offer a digital currency called RMG (Royal Mint Gold). According to Ro, “When you purchase RMGs you will effectively have real gold that is allocated from a direct ownership standpoint that is completely reserved — there is no re-hypothecation, there is no lending on that gold, there will be enough physical gold to represent all the RMGs that are issued.” This article provides more detail.
What would a world look like where RMGs compete freely with government fiat currencies? It’s wise to consider twin pillars of monetary economics, Gresham’s law and Theirs’ law. The more well-known Gresham’s law states that when two kinds of money are forced by law to have the same nominal or face value, bad money will drive out good. For example, if one type of money is backed by a more valuable commodity, people will prefer to hold this money while spending the money backed by less value. However, Thiers’ law states that when the market is allowed to determine an exchange rate, the reverse happens and good money drives out bad. Thiers’ law provides the possibility that given a choice between gold-backed and fiat money, businesses would only accept the money backed by gold, rendering fiat money without value.
There is certainly cause for skepticism that Theirs’ law would take hold in the short run. While RMGs might have intense support among informed people who support a gold standard and ultimately free banking, most people would at first continue to gravitate to the fiat currencies they know and basically trust. People’s beliefs about currency would have to change, either through a sudden event such as a collapse or hyperinflation, or gradually as RMGs took hold. Furthermore, the process of fiat money losing its value would likely by a slow one because as businesses began favoring RMBs, their exchange rate against fiat currencies would simply rise.
This is not to say that Thiers’ law wouldn’t ultimately take hold, just that it wouldn’t happen overnight. In fact, this process parallels economists’ standard view, pioneered by Zvi Griliches, that adoption of new technologies follows an “s-curve” through time. A technology is first picked up by a core group of enthusiasts and early adopters until it hits a tipping point and is adopted by a majority of people, followed by another period of slow adoption by late adopters.
Even if change comes slowly, the new world of blockchain-enabled cryptocurrencies should be exciting for those who favor less government involvement in monetary affairs. Political action by national governments may not be necessary to bring about such currencies. Legislation to go on the gold standard or allow the legal framework for free banking might not be essential. Instead, new digital currencies could be issued to the market, and the ultimate result could be determined by individual choice rather than decree. We’ll be closely following and discussing developments in RMGs and other digital currencies during this potentially exciting time.