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Real Money? Islamic Money?

Based on my own reading and understanding of the works of Prof. Kameel Mydin Meera and Thomas H. Greco on this important topic.

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Real Money? Islamic Money?

  1. 1. Real Money? Islamic Money? Explanation Based on works of Prof. Kameel Mydin Meera And Thomas H. Greco
  2. 2. What is Money? Money Wealth Vs. The Question is: Can we put the sign of equality between these two things? The Answer: and Yes and No!
  3. 3. The Essential Nature of Money “An information system we use to deploy human efforts” (Michael Linton) …Think of the market economy as a game of put-and-take. Each player takes goods and services from the market, and each player puts goods and services into the market…
  4. 4. The Essential Nature of Money “An information system we use to deploy human efforts” (Michael Linton) $$$.$$ $,$$$.$$ $$,$$$.$$ $$$.$$ $$$.$$ Money is really just a way of keeping score… …an accounting system.
  5. 5. Let’s Look at One Very Simplistic Hypothetical Example
  6. 6. TRANSACTION RM 1 En Ali supplies vegetables to Hotel 1000 2 En Chong needs to pay his son’s tuition fee 1000 3 The School had organized a seminar in the Hotel 1000 4 En Chong renovated En Abu’s office 1000 5 En Abu repaired En Ali’s tractor 1000 En. Abu Mr. Chong En. Ali A small community of traders…
  7. 7. CLAIMS A = L + (Rev – Ex) + – – + – + 1,000 1,000 1,000 1,000 CLAIMS A = L + (Rev – Ex) + – – + – + 1,000 1,000 1,000 1,000 CLAIMS A = L + (Rev – Ex) + – – + – + 1,000 1,000 1,000 1,000 CLAIMS A = L + (Rev – Ex) + – – + – + 1,000 1,000 1,000 1,000 CLAIMS A = L + (Rev – Ex) + – – + – + 1,000 1,000 1,000 1,000
  8. 8. SOLD GOODS/SERVISES TO Total Cr.School Hotel Ali Abu Chong School 1,000 1,000 Hotel 1,000 1,000 Ali 1,000 1,000 Abu 1,000 1,000 Chong 1,000 1,000 Total Dr. 1,000 1,000 1,000 1,000 1,000 5,000 NETTING EQUITY/MUQASSAH Total Cr. Total Dr. Net School 1,000 1,000 0 Hotel 1,000 1,000 0 Ali 1,000 1,000 0 Abu 1,000 1,000 0 Chong 1,000 1,000 0 5,000 5,000 0 For each person all their debts are settled:
  9. 9. 9 CLAIMS A = L + (Rev – Ex) + – – + – + 3,000 3,000 1,000 1,000 500 500 1,000 1,000 1,500 1,500 CLAIMS A = L + (Rev – Ex) + – – + – + 1,000 1,000 1,000 1,000 600 600 200 200 800 800 CLAIMS A = L + (Rev – Ex) + – – + – + 500 500 1,000 1,000 500 500 3,000 3,000 300 300 CLAIMS A = L + (Rev – Ex) + – – + – + 500 500 500 500 300 300 600 600 CLAIMS A = L + (Rev – Ex) + – – + – + 500 500 1,000 1,000 200 200 1,500 1,500 800 800
  10. 10. SOLD GOODS/SERVISES TO Total Cr.School Hotel Ali Abu Chong School 500 1,000 500 2,000 Hotel 3,000 1,000 4,000 Ali 300 500 800 Abu 1,000 600 200 1,800 Chong 1,500 800 2,300 Total Dr. 3,300 3,000 1,100 1,800 1,700 10,900 NETTING EQUITY/MUQASSAH Total Cr. Total Dr. Net School 2,000 3,300 (1,300) Hotel 4,000 3,000 1,000 Ali 800 1,100 (300) Abu 1,800 1,800 0 Chong 2,300 1,700 600 10,900 10,900 0 In this kind of system total credit will be ALWAYS equal to total debit. So aggregate debt will be equal zero! Unlike in the system where bank creates money through fractional reserve and interest. There aggregate debt keeps on escalating and can never be settled in total.
  11. 11. 11 Yap Island…
  12. 12. 12 Gigantic stone donuts served as money. They were so huge that once they are brought to the island no one even moves them – the islanders will just remembered who owns which one. In fact, once, when a crew was trying to bring some stones to the island the storm hit the ship and it sunk together with the stones. The crew survived though and came back to island and told people what happened... and guess what? They said: “it is ok, we still can use them for the trade!”...
  13. 13. an information system we use to deploy human effort...“ “ So for centuries the stones remained under the sea and yet it belonged to someone and was kept being used for trade even no one ever saw it – the most advanced monetary system before the modern era 😂!
  14. 14. Money is simply the value bywhich goods are exchanged and not the value for which goods are exchanged… “ ”John Law’s “Essay on a Land Bank” (1704)
  15. 15. What’s the Problem with Our Current Monetary System?
  16. 16. 𝑴 × 𝑽 = 𝑷 × 𝒀Money stock Velocity Aggregate Price Real things (GDP) Everything is in this Simple Equation:
  17. 17. 𝑴 × 𝑽 = 𝑷 × 𝒀Money stock Velocity Aggregate Price Real things (GDP) ≠ This side of the equation is the real things/wealth And this is only information about this So they are not the same! But both side MUST grow step in step (in equal proportion) with each other!!!
  18. 18. 𝑴 × 𝑽 = 𝑷 × 𝒀 In our current monetary system… This element grows out of ANY proportion with anything real Money stock Velocity Aggregate Price Real things (GDP)
  19. 19. Amount of Existing Money Supply Created by Commercial Banks through Fractional Reserve Banking System Estimated using Broad Money (M3) less Currency in Circulation (M0) Source: Computed using data from Bank Negara Malaysia statistics 13,513,000,000 213,513,000,000 413,513,000,000 613,513,000,000 813,513,000,000 1,013,513,000,000 1,213,513,000,000 1,413,513,000,000 1975 1977 1979 1981 1983 1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 RinggitMalaysia M3 - M0 M0 Exponential Growth: A graph for any other country will look pretty much similar
  20. 20. 𝑴 × 𝑽 = 𝑷 × 𝒀 In our current monetary system… » Problem: If M grows out of proportion then on the other side of the equation two possibilities: 1. Y cannot keep pace with the growth (because Y, the GDP, indeed physically cannot grow fast) → P (prices) must absorb excess money stock 2. If we want P to be constant then we must constantly push for the GDP growth » In our current systems, we experiencing both of the above (1 and 2)! » And both, and 1 and 2, have devastating effects on our society… Money stock Velocity Aggregate Price Real things (GDP)
  21. 21. Importantly, the money primarily grow in form of debt…
  22. 22. Fiat Money Fractional Reserve Requirement Interest-based Financial System The Sources of Problem
  23. 23. $20/ oz $20/ oz » A fiat currency is money that has no intrinsic value of its own. It is not redeemable for gold, or anything of value for that matter. » It takes predominantly two forms — currency notes and coins (state-issued money) and accounting money such as cheques and electronic money (created by commercial banks through loans). Fiat Money
  24. 24. Fiat Money: Seigniorage » Fiat money has seigniorage, i.e. face value that is more than the intrinsic value. » For example assume that the cost of printing a one-ringgit note is 10 sen. Then the seigniorage of the note is 90 sen » The seigniorage is the benefit enjoyed by the first user of the note. It is also the advantage enjoyed by counterfeiters. » This seigniorage has numerous socio- economic-political and environmental implications as it is nothing but profound riba.
  25. 25. Abu Said al-Khudri reported Allah’s Messenger s.a.w. as saying: Gold is to be paid for by gold, silver by silver, wheat by wheat, barley by barley, dates by dates and salt by salt, like for like, payment being made on the spot. If anyone gives more or asks more he has dealt in riba. The receiver and giver are equally guilty. “ Sahih Muslim ”
  26. 26. Socio-Economic Implications
  27. 27. Interest requires endless economic growth even when actual standards of living remain constant 1 𝑴 × 𝑽 = 𝑷 × 𝒀 »The interest requirement itself does not exist in the form of money yet. Hence, total debt (principle plus interest) is not repayable in aggregate. »The current monetary system can therefore be sustained only in a dynamic fashion by creating more and more money. This is done primarily by creating new debt that gets into the economy as additional money. »Notice, if we want P = const, Y should continuously grow. Interest and Its Effects on Economy
  28. 28. Interest and Its Effects on Economy Interest encourages unhealthy competition among participants in the economy 2 Money = Debt Private Sector Debt Government Debt Due to interest charges, total debt is not repayable in aggregate because interest payable does not exist in money form. Default/Financial Distress therefore caused by the mere design of the system. Micro-level: Competition for money »Business world becomes increasingly competitive »Some are able to service debt, some are sure to default Rescheduling of Loan? Additional Money = Debt Indebtedness grows. Confiscation of Real Wealth Yes No There is a max limit to debt level that can be borne by firms/government. Further rescheduling of debt is not possible Debt Default Destruction of Money Banking Crises Economic Problems Political Turmoil
  29. 29. Interest and Its Effects on Economy Interest concentrates wealth in the hands of a small minority by taxing the majority. 3 » Banks are generally in the hands of a minority (who provide the “financial services”), while the rest of the nation work in the real sector producing goods and services. » Since the banks create most of the money for a nation in the form of debt even a small interest charge is a charge on almost the entire economic output. In dollar terms this is likely to be huge. » Being wealthy, this minority group is likely to have a low marginal propensity to consume. Therefore, money and wealth would tend to concentrate in their hands, without circulation in the economy.
  30. 30. 1. Amplified business cycles (continuous financial crises). 2. Disparity in income distribution and creation of poverty 3. Need to control prices of basic necessities 4. Drastic effects on housing sector 5. Prices of controlled goods grow gradually 6. Effects of price control on agriculture (agriculture is not attractive anymore) 7. Effects on society (women/children have to work) 8. Effects on environment 9. Threat to sovereignty 10. Provides fertile ground for speculation, manipulation and arbitrage A Whole Host of Socio-Economic Implications To list just few…
  31. 31. money 2.fractional reserve requirements 3.interest rates 𝑴 → 𝑷 × 𝒀 ↓ = ↓ = M × V = P × Y After full employment and the reach of potential GDP (when Y cannot grow any more), asset price bubbles develop in particularly the properties and stock market, i.e. sectors that enjoy easy bank credit. At a point in time, absurd price levels in those sectors, particularly the stock market would prompt investors, both individuals and corporations to reevaluate and adjust their portfolios. This portfolio adjustment brings about sharp drop in stock prices, property prices and ultimately the aggregate price level. Unemployment ↑ NPLs destroy the money supply through a multiplier effect Businesses may start retrenching workers to save cashflow for debt service. This transfers what was originally a problem in the financial sector to the real sector of the economy P↑ Unemployment < 3% _ Y P↑ Amplified Business Cycles (Continuous Financial Crises)
  32. 32. Amplified Business Cycles (Continuous Financial Crises) 𝑴 × 𝑽 = 𝑷 × 𝒀 In the aftermath of a financial crisis Y has a lot of slack capacity. This is because a lot of real wealth has been destroyed in the process – a lot of businesses slashed their workforce and reduced production… → slack capacity is available and Y can start absorbing growth of money stock again once it starts pumping in again. And the whole dynamic will repeat again and again and again! That is why we are having crises periodically and continuously. Money stock Velocity Aggregate Price Real things (GDP)
  33. 33. Disparity in Income Distribution and Auto-Creation of Poverty » Aggregate price level increase vs income level increase: low-income group would find the rise in aggregate price level burdensome, particularly if the prices of basic necessities also rise. Their income grows slower than the general inflation (aggregate price level). » Those with very low or no income growth would be seriously affected such that their purchasing power could fall below subsistence level, pushing them into absolute poverty levels. » Plus interest rate that concentrates wealth in the hands of minority by taxing the majority. » Therefore, in the present fiat money interest-based monetary system poverty is automatically and continuously created!
  34. 34. Need to Control Prices of Basic Necessities » Because there is constant prices growth (inflation) it is common for prices of staple items like rice, sugar, flour, meat and oil be controlled. If people (especially lower income group) find the price of their lunch increase on a frequent basis then chances are that they might picket on the streets. » Therefore, such controls may also be necessary for political reasons. » Hence, if the price in one sector of the economy were controlled, then the increasing money supply would find its way into other sectors, and cause price increases in these sectors at a rate higher than overall average rate of inflation. Properties and stock market are most conducive for this (people are generally happy when the price in these sectors increase since many hold these as investments). » A growth in the price of housing of higher than 6.73 per cent is likely to be burdensome on the lower income group. This is because a home is a basic necessity that takes a large chunk of people's income. » This would necessitate government intervention on the housing issue for the low- income group.
  35. 35. Drastic Effect on Housing Sector » While land is fixed in quantity, its price is likely to rise higher than the income growth of low income group (remember that the property sector is also among those designed to absorb the increasing money supply). » This means in due time, housing for low income group will not be landed, meaning that they are likely to be low-cost flats. Property developers would respond to this by building smaller and smaller-sized homes so as to make them "affordable". » In certain countries, for example, the situation has come to a state where people practically "rub shoulders" in their homes. These things suggest that in a money- creating system people will be gradually living in flats or condominiums. » At this juncture the banking sector comes to the "rescue"—by giving longer durations to settle housing loans. In the 1970s the average housing loan duration in Malaysia was about 10 to 15 years. In periods before that, loans for a period of even less than 10 years were common. But now most banks would even go for 35-year housing loans!
  36. 36. Prices of Controlled Food Items Grow Gradually » Government will be forced to increase prices even for necessities in a stepwise fashion – gradually over long period of time. » Otherwise the producers of those goods will feel a pinch – after all, their purchasing power is also gradually eroding with the ever- growing inflation.
  37. 37. Effect of Price Control on Agriculture » Since most of the price controls are on agricultural products, in our money-creating economy, agriculture would become less attractive compared to sectors that do not face such controls, like finance, manufacturing or construction. » Therefore people will find it less rewarding to participate or invest in agriculture. it would not be surprising if there is a high tendency for people to convert land allocated for agriculture into lands for other categories, for example, construction or industrial manufacturing. Governments are forced to subsidize to encourage agriculture.
  38. 38. Effects on Society » The system automatically creates poverty (#2 in the list) → » Working longer hours, few jobs, no time for family, social activities (do we ever talk to our neighbors these days? We all are busy chasing money) » Women and even children are forced to work too. » Those who are really in dire need and below the poverty line might become criminals. Etc.
  39. 39. Effects on Environment » Constant push for growth. » Just like agriculture, environment can be forsaken for the prospects of higher returns. » For example, if the interest rate is 10 per cent, it becomes a viable business venture to cut down trees, sell the wood and invest the money at the 10 per cent interest rate. This is because the trees themselves do not grow at 10 per cent per annum.
  40. 40. Threat to Sovereignty » The banking system, apart from creating money through loans, also evaluates loan applications and decides to whom the "created money" would be extended out as loans. » In such an economic system therefore, while it is the workers and businesses who produce the real output and services, it is the banking sector that decides who would have the purchasing power to buy those output. » The foreign banks would be creating the money of the country while the locals sweat to produce the real goods and services. » With the power vested in the banks to decide who would be given the created money in terms of loans (and hence the purchasing power), it would only be matter of time before the banks have politicians under their control and ultimately the country.
  41. 41. One of the Possible Solutions?
  42. 42. Electronic interest-free mutual credit-clearance system for all, that uses gold as measure of value
  43. 43. Remember again: money is just an information about real things Money Wealth Vs.
  44. 44. The crucial idea that we must embrace is that… Money must have beginning and the end – they are created and they must be extinguished…
  45. 45. Mr. CookMs. Drew ?Credits » When Mr. Cook creates credits to pay Ms. Drew, he obligates himself to accept credits from someone in the system at some future time in payment for his own goods or services (by making a sale in the future, he will “redeem”/extinguish the credits that he originally issued). » Ultimately, we each have only one currency with which to pay, and that is our own production.
  46. 46. Mr. CookMs. Drew ?Credits » Ultimately money is just an information about the real goods and services being EXCHANGED » Therefore, if Mr. Cook, later on, does not accept credit for his own goods/services from somebody in the system (maybe from Ms. Drew or from somebody else) than exchange effectively did not take place!
  47. 47. Goods/ ServicesMs. Drew Credit Mr. Cook Mr. Baker Mr. Young Ms. Zane Credit Credit Credit Credit CreditGoods/ Services Goods/ Services Goods/ Services Goods/ Services Goods/ Services » In a mutual credit system, the members empower themselves to do the same thing that banks have done for years, essentially creating their own money in the form of credit but saving the cost of interest, while distributing the money themselves according to their own needs. Mr. Cook ISSUER
  48. 48. Blockchain and AI solutions totally enable us to tally up this system to perfection and make it mass success
  49. 49. and until we do so, we better do not even talk about Islamic Finance… because
  50. 50. The truth is that if the strict legal position of Islamic law is adopted, all transactions in paper currency [fiat money] will become invalid. “ ”Nyazee (2008) The Concept of Riba and Islamic Banking Advanced Legal Studies Institute, p129