Economic Arguments for Local Currencies

By Ian M. Schmutte

One of the most ubiquitous features of any modern economy is its money system. Present in the majority of economic transactions, money plays a key role in the facilitation of exchange, and represents a common denomination of the value that individuals, and society, place on goods and services. Simultaneously, and somewhat paradoxically, monetary systems, and the institutional landscape in which they function have a certain invisibility. Each person takes it for granted that every other person will accept money at an understood value. For this reason, money, and the historical context in which it arose, fades into the background...

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However, for some critics, the origin of centralized national fiat money systems is not forgotten. Authors such as Vera Smith, Friedrich Hayek, and Milton Friedman1 have argued in various forms against government central banking. A common thread of these arguments is that government monopoly of the money supply does not provide any benefits to the public. Rather, a competitive market-based system of money issue can optimally generate a medium of exchange that is stable in value and in sufficient supply. Recently academics and community activists have issued different critiques of nationalized fiat money systems. On their view, the current monetary system contributes to underdevelopment of cities and regions, unnecessary unemployment, and environmental degradation. They envision a process of monetary decentralization in which a network of “local” or “community currencies” flourishes. Such systems would democratically issue a medium of exchange that reflects and reproduces a more “localized” economic system.

The primary goal of this paper is to scrutinize a subset of the arguments for local currency. Broadly speaking, there are two types of local currency literature. The first type, which I am labeling the “political” literature, advocates the adoption of local currencies based on a critique of the current political economic system. In this literature, the objective of local currency adoption is to facilitate fundamental change in social and economic relationships. The second type analyzes local currencies using the tools of conventional economic analysis, while taking the political economic environment as given. This literature tries to point to possible welfare gains from the establishment of local currency. It is this second “economic” literature that is the focus of this paper. Much of the economic literature on local currencies analyzes the function of specific systems. There are also two key papers more relevant to my project that try to argue more generally that local currencies are welfare improving. By demonstrating the flaws in these arguments, I hope to show that there is not much to recommend local currencies without appealing to the more general political economic critique offered in some of the political literature. While a thorough evaluation of the political literature is beyond the scope of this paper, the relationship between it and the economic literature is addressed in the conclusion.

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