An answer, in a thread, because others may gain something by it.
The first thing you must do, if you wish to understand the value of an irredeemable fiat money like today's USD, is to entirely expunge the word "backing" from your economics vocabulary. Trust me, it is good for nothing but mischief.
It's true that the dollars the Fed creates are, for accounting purposes, "liabilities." It's also true that, the market value of the liabilities of most financial firms, such as ordinary banks, depends on the value of the assets backing those liabilities.
Should the market value of an ordinary, bank's assets, plus its capital, fall below the nominal value of its liabilities, the bank would be insolvent, and its liabilities, if uninsured, will fall to a discount below their par value.
But this isn't so for a fiat-money issuing central bank like the Fed, because it's "liabilities" aren't actually IOUs, that is, redeemable claims to its assets. They are what former New York Fed President John Exter called "IOU Nothings."
The market value of the Fed's assets might therefore fall more than enough to wipe out its capital without at all affecting the value of the USD. (In fact, the Fed has precious little capital today, so this isn't as unlikely as it sounds.)
The Fed could even operate with negative capital forever, provided it earned enough to cover its operating expenses, or got a budget from Congress to cover them. It could even give money away and get away with it. Some have actually proposed this.
When Fed-created USDs were redeemable in gold, they were "IOU somethings"-the "something" being gold coin. Back then the backing, partly by gold, partly by other assets, of those USDs also mattered.
But the last remnants of gold redeemability ceased in 1968. Backing no longer matter after that. And "oil" never backed the USD and has never been among the Fed's asset holdings.
So, what determines the USD inflation rate today? Broadly: the supply or and demand for USD, and in particular the supply or and demand for the "basic" USD's directly created by the Federal Reserve banks.
You recognize half of this in speaking of the increase in the quantity of USD in the last year. And that increase has in fact been huge. But you overlook the demand side: the concurrent change in people's, and banks', willingness to accumulate USD instead of spending them.
The reason we haven't seen any hyperinflation-in fact the Fed has yet to see inflation achieve its 2% target-is simply that the huge increase in the supply of USD has been matched by an equally large increase in demand for USD.
Banks, for their part, have accumulated vast reserves of Fed-created dollars, holding on to them instead of using them as a basis for more aggressive lending: though they have in fact lend plenty since last February, they could lend more if doing so were more lucrative.
But with interest rates so low, and the Fed paying interest on banks' reserves (albeit at a rate that's also very low), banks just lack profitable lending opportunities.
The public, in turn, has done its own, extensive hoarding since the start of last year. Mainly this has been a consequence of COVID-based or inspired restrictions on economic activity, which have caused people who've kept their jobs-to save a lot more than they usually would.
None of this rules out the possibility that inflation will rise in the future. But there is no guarantee that it will, much less that hyperinflation will happen. That all depends on how the supply of and demand for USD evolve over time.
Here's a post of mine that say's a little more on this topic, inspired by some writings that also overlooked the demand-side of the value-of-money question:…
For "supply or" read "supply of." All thumbs here!

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More from @GeorgeSelgin

27 Jan
It's dandy that 100 DIs have agreed to take part in FedNow's pilot program. That's about as many as are now directly connected to RTP (w/ many others using it through correspondents). And some of the top 15 banks are conspicuously absent from the list. 1/n…
Absent are Bank of America, U.S. Bancorp, Truist, PNC, the TD Bank Group, State Street Corp., and Fifth Third Bank. All save State Street are connected to RTP. So even if FedNow started now and all banks on its list connected, RTP would the bigger network by a long chalk. 2/n
And of course FedNow won't actually be ready to launch for 3 more years: in the world of payments innovations, that's an eon! 3/n
Read 5 tweets
27 Jan
As this claim has met with some resistance, allow me to expand upon it with examples, both fictional.
Suppose, for the first, that I go into my district Federal Reserve bank, find one of its cash tellers (yes, the Fed has tellers), present her with a $20 Fed note, and say, Here is one your liabilities, for $20. I'd like those now."
Of course in reality the teller would call security--itself evidence that the $20 is no ordinary IOU! But suppose instead she doesn't. Instead, she says, "No problem." Then an awkward pause ensues.
Read 7 tweets
20 Jan
Thread: As many may be interested, I'm answering this with a new tweet.
The roots of the "Austrian" claim that fractional reserve banking (FRB) involves fraud or theft trace to the Austrian business cycle theory. According to some versions of that FRB inevitably leads to booms and busts.
In fact that believe is itself wrong, as I first tried to show in The Theory of Free Banking. See also here:…
Read 14 tweets
20 Jan
I have no idea who James Thomas Kesterton, Jr. is or was, but this is yet another bit of fractional-reserve banking mythology, for which there's not the slightest factual foundation. 1/n
From Collins and Walsh (…): "we can find little evidence of large and destabilizing asset bubbles in the Roman created by the fractional reserve banks...was not used generally for such speculative purposes." 2/n
As for financial crises, they occurred in 49-47BC and in 33AD. But had political triggers; sources say nothing about banks' involvement, though its probable that many suffered. The '33 crisis was deflationary rather than inflationary. 3/n
Read 4 tweets
17 Dec 20
Thread: This brief @PilkingtonPhil note on Gunnar Myrdal's _Monetary Equilibrium_ is indeed very good. That work (which helped earn Myrdal the Nobel he shared w/ Hayek) Some follow-up remarks here.
As Phil notes, Myrdal was a member of the Stockholm School, whose contributions to monetary theory built upon the work of Knut Wicksell, the school's founder. In By 1931, when _Monetary Equilibrium_ appeared, a (polite) rift had separated the school in two.
The rift began with a debate between Wicksell and David Davidson concerning the sort of price stability implied by a policy of keeping interest rates at their "natural" levels. Wicksell of course claimed that this would result in stable _output_ prices.
Read 14 tweets
9 Dec 20
"At the start of 2020, the dollar’s run had endured 100 years. That would have been reason to question how much longer it could continue." This crude instance of the gambler's fallacy is one of many reasons why I find Ruchir Sharma's FT piece unconvincing:…
Another is his suggestion that, although "When the pandemic hit, the US dollar was as mighty as ever," the pandemic has changed that. To paraphrase Mark Twain, rumors of the end of the dollar's "exorbitant privilege" are much exaggerated.
In fact the demand for dollars rose to exceptional levels early in the crisis; if it has declined somewhat since, it is only from that unusual peak:…
Read 14 tweets

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