What is Fiat Currency?

fiat currencyWhat is Fiat Currency?

By Peter Macfarlane

We’ve already mentioned this expression quite a few times, and I understand that many readers may not be familiar with it. You should be!

No, it has nothing to do with Italian motor cars. The only Italian connection is the Latin language, from which the word fiat – meaning command, decree or order – is derived. My Chambers dictionary defines fiat currency as follows:

“Money (paper or coin) made legal tender and assigned a value by government decree, with a commodity value lower than its face value, not convertible into any other specie of equivalent value, and generally with a lower purchasing power than nominally equivalent specie…”

In other words, it is a currency whose usefulness results not from any intrinsic value or guarantee that it can be converted into gold or another hard asset, but instead from a government’s order (fiat) that it should be accepted as a means of payment.

While the government has control of the financial system, fiat currency works. If people lose economic confidence in the government, fiat currency goes down the drain. It’s only value is a government order that it be accepted as ‘legal tender.’

In the case of the US dollar, the currency is not backed by gold, nor anything else for that matter – other than the world’s confidence in the US economy.

Now imagine if your business had a client – let’s call him Sam – who had always appeared wealthy and had been a reliable payer over time. So you always extended him all the credit he wanted. But little by little, you see he is getting further and further into debt, and you start hearing rumors elsewhere that things are not going to well for Sam, economically speaking. You will grow increasingly concerned, right?

At some point, you are going to start putting limits on Sam’s credit line. And that’s what is happening in the rest of the world these days to the ‘full faith and credit of the US government’ which is what backs the US dollar.

The US dollar is subject to the order of the US government, which in turn has delegated running the currency to the various Federal Reserve banks making up the Federal Reserve System (do you remember how on older dollar bills, you could see which of the Federal Reserve Banks emitted that specific bill – but newer bills just say ‘United States Federal Reserve System’?

The Federal Reserve Banks are private corporations owned by a secretive group of bankers. (Google can tell you more if you want to explore this – I won’t go into it more here, although it’s a fascinating topic…)

Around the world, fiat currency is owned by its creators, the Central Banks. The Federal Reserve, the Bank of England, the European Central Bank and so on. It may be encumbered by its creators. That means they may use it as security to borrow more money.

“Fiat money, in extremis, is accepted by nobody… Gold is always accepted”

Fiat Money is effectively a giant ponzi scheme

Just like any ponzi scheme, such as Madoff’s, you can make good money from them, provided you take your profits and pull out at the right time. If you have your money in dollars and pull out at the right time, you might make great real purchasing power gains. But you are doing so at the expense of others who get in after you.

The solution? Allocate a good portion of your portfolio to precious metals – like gold and silver – to protect your asset values, as a safe haven, as a hedge against the falling USD, and most of all as a purchasing power protection.

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