For a real-world example of how a system of market-chosen monetary policy would work in the absence of a central bank, one need not look to the past, writes David Saied. An example exists in present-day Central America, in the Republic of Panama, a country that has lived without a central bank since its independence, with a very successful and stable macroeconomic environment. There is no deposit insurance and no lender of last resort, so banks have to act in a responsible manner. Any bad loans will be paid by the stockholders; no one will bail these banks out if they get into trouble. FULL ARTICLE
Source link: http://blog.mises.org/6559/panama-has-no-central-bank/
Panama Has No Central Bank
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… “Republic of Panama, a country that has lived without a central bank since its independence, with a very successful and stable macroeconomic environment.”
(1) “Panama’s market has also chosen the US dollar as its de facto currency.”
(2) “Panamanian inflation is usually between 1 and 3 points lower than US inflation”
Read: Panama is (1) “without currency” just like Arizona is without currency, except real prices in Panama are falling faster than Arizona (average US technically of course) (2) so the shelf prices aren’t inflating as fast.
In fact, you could probably calculate the inflation rate in our various states since regional economic activity will influence relevent reigonal prices like services and property/rent.
If the US Central bank went hog wild, odds are (in fact it’s basically certain that) Panama’s prices would go hog wild, so they’re importing their stability from our fiat system. Naturally this is done without the opportunity cost of storing a real asset like gold (essentially required in an unmanaged monetary system) because they’re using our stable and cetnrally managed fiat.
I like the Austrian school… but this is the kind of fallacious argument that creates so many critics among mainstreamers.
Try to find a country that has totally unregulated money without a regulated money peg (central bank) or a commodity peg (with opportunity cost of the material in storage).
Imposing the paper money of another government’s central bank as legal tender is a VERY LONG WAY from free banking or a free market in monetary matters.
Panama has no central bank the same way Scotland or Auckland doesn’t. Within any region where some central bank notes are legal tender any particular region or state or province where the central bank is not located is just like Panama.
Panama isn’t the only country where banks deposits aren’t protected, insured or guaranteed by the government. In Australia and New Zealand the banking system is highly competitive and no deposit insurance system. Needless to say the banking system is robust and resilient. In New Zealand there is no entry regulation into the business of banking — any company can accept deposits and provide banking services in the same way they can borrow money from the public by issuing bonds or debentures. The FATF etc. recently discovered this and have criticised it as being too liberal — we can’t just have anyone starting a bank without government permission can we? Thanks to their meddling now the government is considering legislation to require ‘fit and proper’ certification etc. required before you can start accepting deposits from the public in New Zealand.
A true free banking system requires freedom to issue bank notes as well as to accept deposits. Although entry regulation of banking isn’t good or consistent with free banking, more important is what banks can do: borrow and lend freely. Bank notes are a form of borrowing banks do if they are allowed, and monopolising this channel to a central bank (domestic or foreign) makes your claim Panama is a free banking haven ring hollow. Hong Kong, Scotland and Northern Ireland are closer to free banking since the commercial banks, or at least a few of them, can issue their own bank notes. Scotland has to be the freest on this measure as no bank notes are legal tender.
Also the period that you have illustrated for Panama’s inflation rate is not fair: the ’70s have not been included, and I’d guess that during that time inflation, as in the USA, would have been high.
The theory that Panama’s inflation rate is lower than in the USA is also quite strange. Are you trying to imply that within a currency zone there will be secular and systematic differences in inflation rates? Perhaps in a different period of time Panama’s prices will rise much faster than those in the USA.
great article!
however, i disagree in one point, inflation is an “strictly monetary phenomenon” therefore comparing “inflation rates ” or dollars purchasing power in panama, Miami, or Hawaii is basically inconsequential.
CPI numbers can be affected by all kind situations in an particular locality, everything from tax rates, tariffs, transportation prices or the very way CPI is measure by different government agencies , all this and more can account for the differences.
Panama is a case worthy of study, that is for sure.
olmedo
allla!!! David , felicidades!!!!
Perhaps Panama’s inflation rate will always tend to be lower than the USA because for the most part, it is a no-fly zone for Ben Bernanke’s helicopter. That is, fewer of the US government’s credit-bubble-inducing policies will be implemented in Panama. For example: Fannie Mae does not provide “financial products and services that increase the availability and affordability of housing for low-, moderate- and middle-income families” in Panama as it does in Arizona.
Some bubble effects will be seen however, such as more money flooding into Panama from US soldiers posted there in the “great war on terruh” and increased toll revenues from container ships bringing Chinese-made furniture and appliances to McMansions on the U.S. East Coast.
Not being able print more greenbacks, the Panamanian government is unable to induce significant bubbles all on its own. Now that it’s a democracy however, I’ll bet that it will start issuing currency and wrecking its own economy real soon now … just wait for the first Keynesian/demagogue to come along …
Panama has been considered similar to a US state in monetary manners, however there are many differences. First contracts can be established in any specie or currency by law (the commercial code allows for this freedom). You cannot do this in the US or in Scotaland, to the best of my knowledge. Second, to get dollars, the banks in Arizona, or to get pounds, the banks in Scotland, can receive them thru the regional fed reserve banks, at a subsidized, central bank rate. Panama’s banks cannot directly access this as banks in the US or Scotland can. Panama has to “sweat” and produce to get it’s dollars.
Regarding the comment on the 70′s inflation, indeed, the Fed created 70′s inflation had a huge effect on Panama’s CPI inflation, and it was high. However, it has always been consistently lower than the US.
The main difference between Panama and Arizona is that Panama doesn’t have a Federal Reserve Branch Bank to bail out their banks. Nor do they have any “federal waranties” when a bank goes belly up.
This means that every dollar comes in as private capital, and the banks can only take as many dollars as they think they can lend, if they have an excess there’s no federal gov to bail them out, they have to lower rates.
If the dollar goes belly up, the banks in Panama would be able to move to Euros, Yuans or Yens, and the people in Panama will not be forced to accept US dollars.
Very interesting article! Pablo makes some very good points. Panama does come very close to free banking, and as the author writes, it’s situation is very similar to that of being on a gold standard. Maybe the small countries will lead the way back to sane monetary policies.
Panama has the amount of money it needs for the amount of transactions it has, thus, consistently it has had the lowest recorded inflation rate in the hemisfere for the last 45 years. When there is excess money supply, the banks take the money out, and viceversa.
Interest rates move driven by market forces, which means that they might be even below libor, depending on the real economy situation.
I have to add that economic relations are, in general terms, free. Corporate laws, contract laws, real estate laws, are designed to be free and to guarantee debt payment. Freedom is also reflected in family matters. For example, this is probably one of the latest countries with full liberty to inherit (there are no legal provision providing part of the estate to a relative), and with no tax!
Does anyone know what the Panamanian banks’ reserve rates are?
Am I correct in saying if a small country manages its own monetary system well which consists of the inflationary dollar then managing commodity money such as gold and silver would be much simpler and easier?
A “Federal Reserve Note” is not a U.S.A. dollar. In 1973, Public Law 93-110 defined the U.S.A. dollar as consisting of 1/42.2222 fine troy ounces of gold.
David Said:
in Scotland and in Auckland and in fact in most of the developed world parties can freely make contracts and debts payable in foreign currencies, and normally silver or gold metal as well. Although there are no limits on doing this, and such contracts are enforceable according to their tenor, the statutes provide two types of favour to the local currency:
1. Amounts not specified in a foreign currency are presumed to have been specified in local currency.
2. Amounts payable in foreign currency may, in particular circumstances, be converted to the local currency at the market exchange rate.
1. is normally specified in the Currency Act or similar: e.g. ‘Every sale, payment, bill of exchange, promissory note, and security for money, and every contract, agreement, deed, instrument, transaction, dealing, matter, and thing whatsoever relating to money or involving the payment of or a liability to pay any money, that is made, executed, entered into, or done in New Zealand shall be made, executed, entered into, or done according to the currency of New Zealand provided for by this Act, unless it is made, executed, entered into, or done according to the currency of a country other than New Zealand’ (Decimal Currency Act 1964, section 6)
2. applies
a) in the case of a negotiable instrument that does not specify it is strictly to be paid in foreign currency: ‘Where a bill is drawn out of but is payable in New Zealand and the sum payable is not expressed in the currency of New Zealand, the amount shall, in the absence of some express stipulation, be calculated according to the rate of exchange for sight drafts at the place of payment on the day the bill is payable’ (Bills of Exchange Act 1908 (NZ), Section 72)
b) In the case of a company being liquidated: ‘The amount of a claim based on a debt or liability denominated in a currency other than New Zealand currency must be converted into New Zealand currency at the rate of exchange on the date of commencement of the liquidation, or, if there is more than one rate of exchange on that date, at the average of those rates.’ (Companies Act 1993 (NZ), section 306)
c) For foreign court orders enforceable in a country, denominated in foreign currency, the amounts are required to be converted to local currency (various statutes)
d) For payment of taxes and assessments for various regulatory purposes, taxes are generally payable strictly in the local currency, and foreign currency amounts are converted to local currency to determine if thresholds are exceeded etc. (various statutes)
Thus for most purposes and in most circumstances, contracts denominated in foreign currency, and stipulated for actual payment in foreign currency, are upheld and enforceable according to their tenor. This would apply as much in Scotland or the US as in New Zealand and most other developed common law countries.
Panama’s dollars, and America’s dollars are ‘produced’ in the same way: by way of an interest free loan to a federal reserve bank, i.e. by exchanging some valuable consideration for federal reserve notes, either directly with a federal reserve bank, or indirectly with another holder of a federal reserve note. It is the federal reserve banks who are advantaged by this, in the form of interest free credit that they invest in interest bearing assets.
The availability of fed funds to banks is not particularly significant: the funds are not free of charge (except for periods of less than one day), and banks can borrow on similar terms on the market. The important rate is not the rate or availability of loans from the fed, but the rate it pays on its deposits, which controls the price (opportunity cost) of its interest free loans. Panama banks have the same interest rate they can earn on cash balances as US banks, i.e. the market rate, or something close to it.
Carlos:
Panama’s general commercial business environment is not good. Panama’s ranking is 80, for ease of doing business according to the World Bank (see http://www.doingbusiness.org). All the easiest places to do business and best business environments are English common law countries: Singapore (1), New Zealand (2), United States (3), Canada (4), Hong Kong (5), United Kingdom (6). The Nordic countries are also good business environments: Denmark (7), Norway (9), Iceland (12), Sweden (13), Finland (14).
Enforcing a negotiable instrument in Panama requires 45 procedures and 686 days. In the United States it requires 17 procedures and takes 300 days. Completing company liquidation procedures also takes twice as long in Panama as in the United States. In both cases the cost estimates in Panama are twice or more higher, too.
About the tax situation in Panama, while it is all good if you’re using a Panama company solely for offshore business, if you actually do business in the country, the tax system is terrible: ranked 164th place, with 59 payments, 560 hours of paperwork and 52% of profits paid in taxes. New Zealand, although not for most purposes a tax haven, is ranked 10th, with 9 payments, 70 hours paperwork and 36.5% of profits paid in taxes.
Basically no common law countries have forced heirship provisions either. For example in New Zealand you can grant your estate to whomever you please and there is no estate tax or stamp duty.
I’m not great at economics, but I do know that the Panama government DID fall into bad money straights, in the 70′s, just like the rest of the continent. It was saved because we just gave it the Canal we worked so hard to build, so it could pay the banks. It also cannot monetize it’s own debt, but the Federal Reserve was authorized in 1980 to be able to monetize ANY foreign debt, so when push comes to shove, they have a way out. If they have been resisting, great, the country is obviously doing fairly well, but it is still not a country free of all banking woes.
Definitely Panama is not Utopia. Start up of a new business would takes 52 days. However, a bill (Law 5 – 2007) that came out of my office was approved in January and it repeals the Commercial License, the Liquour License, the Sanitary Permit, and all other permits, documents or licenses needed to operate most businesses. This will allow anyone to open up in less than 15 minutes trhu a system on the internet.
Henry: it’s hard for a Keynesian to destroy our system beacuse it’s in the constitution, no fiat currency can be forced upon the citizens.
Black: the reserve requirements are not fixed, they vary according to the banks credit risk exposure.
This system (of adopting a foreign currency as your own) seems to me to be fairly ill-conceived.
First of all, as has already been said, the system does not avoid inflation, it merely adopts the level of inflation of the foreign country. The only reason inflation is locally low is because economic growth is stagnant. No one is bothering to send any more dollars there.
A US dollar in Panama is still inflating at the same rate as a US dollar elsewhere. If your entire currency base consists of someone else’s currency, you’re basically bearing the brunt of their monetary inflation (ie, when the foreign country decides to expand its monetary base) without getting any of the benefits (ie, the US can simply print off a few more thousand dollars and spend them in your country, but you can’t do the same).
Obviously, while adopting someone’s currency encourages trade with them, it also discourages trading with anyone else. Of course, you could simply have Euros (or whatever) co-existing with dollars, but it would be complicated and inconvenient for people to keep up to date with the exchange rate. I suppose people from other countries are encouraged to simply trade using US dollars.
It would be preferable to simply limiting your local currency base to the amount of money you have in foreign reserves. You would get the same restraint on inflation without the inconvenience for your populace.
Mysti said:
[quote]This system (of adopting a foreign currency as your own) seems to me to be fairly ill-conceived.[/quote]
Obviously, things are not always what they “seem” in theory, especially in economics. Panama is living proof that the system works. In 100 years, the only real problem Panama’s currency system has had was when Reagan and Bush froze our assets in 1988-89. That was pure hell, but for the most part, I’d say it’s working pretty well.
Ask anybody who lives in Panama if they would want to do away with their Dollars. I never met someone who said yes, and I’ve lived here a very long time.
I think there is some misunderstanding here; There are two types of inflation: monetary inflation and price inflation.
Panama surely experiences monetary inflation, as they use a currency that is decreasing in value.
However, they only experience partial price inclation, as only SOME of the new dollars in circulation make it back to the Panamanian economy.
Since Price inflation is more dollars chasing the same amount of goods, a smaller increase in the number of dollars in panamanian circulation reduces their price inflation.
Let me just add a small thank you; this is the kind of article and comments I read mises.org for. (Let’s hve more David and less “Haliburton Sux”)
Bermuda too has no central bank, the closest institution being the Bermuda Monetary Authority which is more of a regulator. The US$ also circuates and is freely exchangeable for the Bermuda dollar which is on par with the US. Our per capita income is over $70,000, although that should be taken with a grain of salt. However, the standard of living is higher than that of US or Canada, and as a world traveller, I can say with confidence that it is the highest I have seen.
Has anyone studied Cambodia, which uses it’s own currency side by side with the US dollar?
I heartily recommend that everyone read “The End of National Currency” by Benn Steil, Director of International Economics at the Council on Foreign Relations:
http://www.foreignaffairs.org/20070501faessay86308/benn-steil/the-end-of-national-currency.html
Here’s the concluding sentence and a comment:
“If the [foreign central banks] balk and the dollar fails, the market may privatize money on its own.”
No, the banks will balk BECAUSE the dollar fails, as there is simply no way that the dollar can keep them “feeling wealthy and secure” when it can only do so (i.e., strengthen) at the expense of the US economy.
Thus is the dollar as doomed as the war in Iraq. For government assertions to the contrary (Cheney: “The insurgency is in its death throes”; Paulson: “The economy is as strong as I have seen it at any time in my 32 year business career”), the fact is that our grossly obese welfare-warfare state is financed by foreign banks that are stiffing their own people in order to stuff ours.
This can’t go on. And while all countries should prepare themselves accordingly, those like Panama, with no central bank to muck things up, stand to weather the transition to private, gold-backed currency — http://www.cipe.org/publications/ert/e32/e32_2.pdf — far better than the rest, even becoming havens for those looking for a safe place to store their (real, not paper) wealth.
Re: Mr. White’s post.
Let’s recall that the Federal Reserve is not a government institution. In this sense we already have a private currency.
See the excellent video at:
video.google.com/videoplay?docid=-9050474362583451279
Jim,
Any notion that the Fed isn’t an extension of the federal government is absurd. It has a government monopoly on the issuance of “legal tender” and in no way participates in the market production of money. Indeed, it produces no money at all, just non-asset-based credit and irredeemable curency.
And remember, Big Business and Big Government are but two sides of the same (increasingly worthless) coin:
http://www.cato.org/research/articles/cpr28n4-1.html
This article is far from original. It actually reproduces written material by others which I collected at a conference sponsored by the Libertad Foundation of Panama in November 2004. Some paragraphs are even reproduced almost verbatim.
I’m perfectly happy with a “non-original” article. I don’t read the Daily Articles in hopes of finding stuff that’s never seen the light of day elsewhere. I’m quite satisfied when it’s just something that *I* haven’t seen before.
And, hopelessly ignorant as this may make me seem (I haven’t been to Panama since 1963), I hadn’t seen this material before. So I’m very happy with it.
Panama may not create its money out of thin air but it realies on a country that does. As long as the US dollar maintains its status as world currency, Panama’s position will be safe. Because that status is being challenged and many central banks are gradually shifting their portfolios away from the US dollar into Euros. Many investors use gold sd a hedge to protect themselves against an ‘orderly’ devaluation of the dollar which is expected to continue for some time. Panamanian banks should also diversify their reserves in the event that the devaluation fails to be ‘orderly’.
I’m just an injineer; not one of them there highly educated highly compensated ekkynonnymists. BUT, it seems to me, that you are tying yourself to the USA Federal Reserve Bank Note and the rate that they choose for inflation. That “tying” can become a hangman’s noose when “helicopter ben” starts dropping FRBNies from the sky. ALSO, it would seem that shifting from the “US Dollar”, which is really the FRBN not a real Constitutional Dollar, to a gold / silver standard for a Panamanian currency could make you the darling of all the gold bugs in the world. A national currency redeemable in gold might well be a great growth industry. But then, I’m just an injineer.
As an American investor living in Panama, I think some of those assessments for the time and paperwork required to complete transactions are inaccurate. With a booming economy and more commercial banks per capita than any place in the world, it’s a very business-friendly environment.
As long as Panama uses the notes of the most competative economy in the world (what ever it be) Panama will benefit from very low inflation relative to any other country. Simple as that.
No, Onisem Gomez. Printing money is effectively a hidden tax, remember? Dollarised economies pay that tax to the USA, dollar pegged economies pay that tax to their own institutions, so at least it stays in the country, which is less harmful. Switching to another country’s currency just switches which outside recipient gets it – but even a low inflation outside currency still has a leak for the country that adopts it. The worst case of all is when the outsiders buy up local revenue yielding assets, land say. Then the slow leak is of capital, and it’s cumulative – the outbound rents and dividends and so on steadily increase.
I think P.M Lawrence is correct with his comment. This is an interesting discussion.
Problem is that now the motion is in full flight, it will be hard to stop those outsiders.
What are your thoughts on the OECD’s pressure to make Panama to make its banking system more “transparent?”
Hey, I’m wondering how about now?! The US currency is a clap trap! Are the panameños switching to euros? yen? even gold? I’m an Argentinean guy lookin for emmigrate but, I guess that Panama is more or less likely the same in escence of that others latin american countries. Characterized by highly corrupted goverment, and a lack of respect to individuals rights and private property.
I’m wondering if this tying to dollar isn’t some kind of “arrangement” with the US feds to benefits themselfs, instead of a genuine move toward a freer market.
(Sorry for my English)
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