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Correcting Gresham's Law (Correct)

In fact, in measuring the quality of ice we find that it is an illusory form of qualitative analysis. Ice has a freezing point: above that point all ice is "good ice." Below that point, we have only water. In the real world there is no such thing as "good ice" and "bad ice," merely ice and water.

The parallel between ice and money is nearly perfect. In the real world there is no such thing as "good money" and "bad money." There is only money and currency. To understand this distinction requires understanding the logical distinction between money and currency.

Sadly, such understanding is rare in the "profession" of economics. This both explains how Gresham's Law ever came into existence in the first place, and why this flawed doctrine has survived as a "law" this long.

Money has an objective, universal definition. While there has been some semantic quibbling about peripheral aspects of this definition, the central, defining quality of "money" is unequivocal: It is a "store of value." What does this mean?

When one labors at his or her daily employment, at the end of the day we have earned wealth that is the fruit of our labor. Money is the vessel we use to store that wealth (as savings) in anticipation of converting that wealth into goods and services through using that money as currency in commercial transactions.

This immediately brings us to the critical distinction between "money" and mere currency. Money is, and must be, a store of wealth. It is (as described in a previous commentary) a "bucket" we use in which to carry our wealth.

Obviously in the real world a "leaky bucket" is an item that cannot exist in conceptual terms. No one will use a bucket that leaks. Thus, in the real world we don't have "good buckets" and "bad buckets" (i.e. leaky buckets). We only have buckets (which people use) and former buckets -- which are now no longer "buckets" at all.

Real money is like a real bucket -- it doesn't leak. For thousands of years gold and silver have been "buckets" for our wealth, perfectly preserving the fruits of our labours. Then there is mere paper currency.

Paper currency is not a "bucket." In the more than 1,000 years in which we have used this pretend money it has a perfect record. It always loses its value, and then is permanently removed from circulation. Paper currency is not a tool to store wealth (i.e. money). Rather, it is a grossly inferior tool that has only the limited usefulness of being a medium for commerce.

As a "store of value," history tells us all we need to know about paper currencies. In the 100 years since the creation of the Federal Reserve the U.S dollar (paper currency) has lost 98% of its value. It's lost roughly 75% of that value in the past 40 years and roughly half of that lost value has occurred in a little more than a decade.

When the Federal Reserve first assumed its primary function of preserving the value of the dollar, the dollar only 'leaked' a little. The bankers were able to pretend that it was "bad money" rather than merely currency. However, as that leakage has increased exponentially, it is now patently obvious that this currency is not "money" at all.

If Gresham's Law (in its original form) is pure mythology, then what is a correct restatement of the dynamics involved here? To answer that question requires referring to the work of Hugo Salinas Price. With there being no Western examples of economies with "good money" and "bad money" there is only his theoretical model for any modern reference.

What would happen if silver ("good money") was introduced into any economy as a parallel currency? Gresham's Law tells us such money would "disappear." This is totally false. Instead, this is what would really happen.

People would use silver as a "store of wealth" (i.e. money), meaning they would save all their wealth in silver. The paper currency, on the other hand, would have only one remaining function: as an instrument of commerce. In any remotely healthy economy total wealth increases at least as fast as the rate of commerce (i.e. consumption).

This means that the demand for silver ("good money") would remain at least as high as the demand for paper currency ("bad money"). Perhaps more important, in any healthy economy only a small percentage of total wealth is required for current commerce; meaning that most of the "money" would be "good money" (i.e. silver).

In fact, this is what we see with historical, empirical evidence. It's not "bad money which drives out good money" but the opposite. Good money drives out bad money.

Over the span of several millennia, strong currencies have dominated and driven out weak currencies.The florins, ducats and sequins of the Italian city-states did not become the dollars of the Middle Ages because they were bad coins -- they were among the best coins ever made. The pound sterling in the 19th century and the dollar in the 20th century did not become the dominant currencies of their time because they were weak.

Gresham's Law is a lie. Rather, all we really see is that in any economy which has money and currency that money would be used to save wealth, and currency would be used to spend wealth. Nothing profound here at all.

It is a myth used to legitimize and justify a paper currency-only monetary system. In a false paradigm of "good money" and "bad money," one can argue that bad money is still "good enough." However, in a real paradigm of money versus currency, having no money at all is not acceptable.

The population of any society needs a "store of value" to protect their wealth. The proof of this is the greater-than-50% collapse in our standard of living since the gold standard was assassinated just over 40 years ago and we no longer had any "money" at all.

Economies can (and do) prosper with money but no currency. They have never survived a paradigm of currency but no money. Gresham's Law is a lie, and we need real money.

This article was written by an independent contributor, separate from TheStreet's regular news coverage.

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