What would the abolition of the Bank of Canada mean?


Paul Simon once wrote a song called 50 Ways To Leave Your Lover. I imagine there are at least 50 ways to abolish the Bank of Canada. Let’s start with the most unlikely method:

1. Monetary nihilism: The Bank of Canada (BoC) could suddenly announce that it is closing up shop, washing its hands of any role in the monetary system. It could tell Canadians that they are free to build whatever system they want. Counterfeiting would be legalized.

Legalizing counterfeiting would almost immediately reduce the value of Canadian currency and Canadian bonds to about zero. This option would be extremely unpopular and obviously will not happen. So let’s consider more measured approaches to getting the Canadian government out of the monetary system.

2. BoC Auction: The BoC could be auctioned off to the highest bidder. Counterfeiting would remain illegal. The banking sector would be deregulated so that competing entities could offer competing currencies.

I’m not entirely sure what would happen in this case, but here’s my best guess. The BoC would be taken over by a consortium of major Canadian banks. There might be a board that would determine the monetary policy of the Bank of Canada, and each commercial bank in the consortium might have a voting member. But many other options are possible. Maybe the BoC would be bought by a big US company or a big Chinese company. I do not know.

Due to network effects, I would expect the Canadian dollar to remain dominant in Canada. The biggest question mark is inflation. Many studies have been done to estimate the profit-maximizing rate of inflation (i.e., seigniorage), and all of the estimates are extremely high. (I can’t remember exact estimates, but it’s in the range of 100%/yr, not just high in the sense that our current 8% inflation is high.)

On the other hand, with full laissez-faire, the profit-maximizing inflation rate might be lower for the new BoC than for monopoly central banks. Nonetheless, I’m pretty sure that would be a relatively high number. Network effects on currency are extremely powerful, and it is difficult for competing currencies to gain traction until the dominant currency is very poorly managed, such as Zimbabwe or Venezuela. Perhaps the following thought experiment would make it easier to understand my point:

Consider a central bank choosing between two options:

A. Increase base money to 4%/year.

B. Increase base money to 20%/year.

Option B will provide more seigniorage unless it reduces basic demand by more than 80% as a percentage of GDP. That would be a huge reduction in base demand. Is the amount of money you typically carry in your wallet very sensitive to the rate of inflation? Probably not. Studies show that people carry less cash as a percentage of GDP at higher inflation rates, but not much less. This is why the profit-maximizing inflation rate is so high. (This is true for many products — the revenue-maximizing tax rate for cigarettes is also very high.)

Of course, the Canadian government could auction off the Bank of Canada with a legal restriction on how fast the monetary base could be increased. But if the government has such specific macroeconomic objectives, why auction the BoC in the first place?

3. A fresh start: Let’s say you accept my “network effects” argument and want a fresh start in Canada with a level playing field. You want to abolish the Canadian dollar and give every alternative system an equal chance of success. In this case, Canadian dollars could all be exchanged for assets of roughly equal value. This is how some European countries got rid of their national currencies. But instead of being paid with new money (euros), Canadians could be paid with an existing asset, such as silver bullion, bitcoin or shares in a global stock index fund.

In this case, I would expect the Canadian public to spontaneously adopt the US dollar. I can’t be sure—maybe they would go to the gold standard—I just think the US dollar is the most likely winner in a contest open to the Canadian public to choose a new currency regime. If this transition happened in Denmark or Sweden, their public would probably adopt the euro.

These are just 3 of 50 ways Canada could get rid of the Bank of Canada. I have no doubt there are at least 47 more. And note that these are not three outcomes that could occur spontaneously. The Canadian government should decide how it intends to pack up. I am annoyed by libertarians who seem to think it is possible to wave a magic wand and move from a government monopoly to a laissez-faire regime. Difficult decisions about what to do with the existing monetary base and the existing stock of Canadian dollar-denominated debt are inevitable.

Some reviewers tell me I’m wrong because free banking schemes have worked. They don’t seem to read my messages very carefully, as I have repeatedly said that I favor 100% free banking. Some commentators advocate a national the gold standard, and cite evidence that a international gold standard once worked. They seem to ignore that the success of an international gold standard has no bearing on whether a national gold standard would work. (Hint, that wouldn’t work very well.) Others seem to think a gold standard with an official gold price is laissez-faire. This is not the case, under the laissez-faire framework, the market would decide whether it prefers to use gold as a currency.

The fact that commentators seem unable or unwilling to describe in detail how the government will extricate itself from the existing monetary system makes me think that they are underestimating the complexity of what they are asking for. Taking government out of money is a lot more complex than taking government out of something like passenger rail. Amtrak could just be auctioned off – dozens of countries have done something similar. It is much less clear what it would mean to take the government out of the money. The United States is over $20 trillion in debt, which involves promises to pay a very specific type of money up to 30 years into the future. It is often said, “You may not be interested in war, but war is interested in you.” The same goes for the US dollar.

Some might argue that this message shows three ways that Canadians could achieve laissez-faire money. I see it as showing an implausible option and two others that are either quite similar to what they have now or even worse.

PS. You might think I’m being overly pessimistic about the outcomes moving us away from fiat currencies. And yet most libertarians who advise real-world governments — even those who consider me insufficiently libertarian — recommend fiat-currency-related reforms. This could recommend El Salvador to dollarize or Argentina to adopt a currency board. None of these options takes us out of the yoke of a government fiat money central bank.


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