Why Does Money Lose Value Over Time? (S1E5) Transcript  Listen on: Spotify YouTube Samantha [00:06]: Hi I’m Samantha Yap, and I help blockchain and cryptocurrency companies tell their stories. I’m really passionate about demystifying emerging technologies and making it easy to understand for everyone.  I’m embarking on this journey to discover the history of money, in order to better understand where money is heading today. In this series we’ll explore why Bitcoin, digital currencies and decentralised finance may play an important role in our future.  Come join me on The Story of Money, by YAP Cast. Samantha [00:43]: We've talked about how value is denominated in a currency, and how that is useful in the sense that how else are we going to trade things if we can't agree what to price them in? But we’ve also touched on how it's misleading to people. We tend to assume that because money is our unit of account and our unit of measure, it’s also a good thing to have. It is, but we've also learned that the value of the currency is designed by central banks to be based on what it can buy: a basket of goods, which, in the US, is the Consumer Price Index. So $1 is supposed to be able to buy you the same things over time. But as Sam Kazemian of Frax Finance has pointed out in an earlier episode, that value changes. And this is where we come to the scariest of money issues, inflation. What is it, and what can be done about it? Well, let's go back to the good people of Yap. Remember them? They thought they had it made, basing value on huge, round stones that they mined on an island hundreds of miles across the ocean. That meant that the stones retained their value, because they were hard to mine, carve and carry. But when David O'Keefe, the Irish adventurer known as the ‘King of Hard Currency’ arrived, he figured out how their economy worked and set up an industry of mining the stones. This undermined the system because the stones started to lose their value, requiring even bigger stones and creating a preference for the older stones. The result was, as economists from the University of Oregon described it, "a psychological loss of faith in expectations of future value have impaired numerous currencies through history, and the Rai stone is an ancient example”. So, is inflation a bad thing? Does it eventually undermine all currencies, stone or otherwise? And is it bad if it raises our salaries, or helps to increase the value of our investments? And what, if anything, can technology in the form of crypto do about it? To answer these questions, I welcome back Sam Kazemian, the founder of Frax Finance, a decentralised stablecoin protocol.  Samantha [03:00]: Welcome Sam.  Sam K [03:02]: Hey, good to be here Samantha, thanks for inviting me. Samantha [03:04]: Let's start with who decides what money is worth today.  Sam K [03:08]: Well, that's a very open ended and philosophical question. If you look at statistics, 80% of the world's trade is denominated in dollars, and one of the first things people either don't know about or don't realise is that the U.S. dollar is a floating currency. It's not actually hard pegged to something like gold, silver, or any commodity. The question is, who decides how much dollars are worth? Well, we know that the US Government tries, at least it’s intent or what it says, is that the dollar loosely tracks this CPI. Samantha [03:40]: What's CPI? What the CPI stands for and what is it?  Sam K [03:43]: So that's the Consumer Price Index, which is essentially a basket of goods that the US government upkeeps in calculating which is defined as people's standard of living. The things in the CPI are things like the average price of automobiles in the US, food items such as bread, milk, and eggs, and the average price of rent. There are a few other things like electronics, I forget off the top of my head. But there's obviously debate about what should go into this basket and what shouldn't. And one of the main things I feel like people gloss over is that the U.S. dollar does loosely track something, particularly this basket of goods. And the reason it’s some basket of goods versus another, and it's not gold or something, is because the idea behind it is that the dollar should always be able to buy that basket of goods. Because that's the definition of what it is to have some kind of standard of living, some base needs. And that’s by the definition of the government. The main thing that you have to keep in mind is that every single quarter and every single year, the Federal Reserve releases their CPI target which means how well the dollar is following the basket of goods that the Federal Government is trying to loosely peg the currency to. So it’s interesting that people just miss or gloss over it, but that's one of the most important things of the U.S. dollar - it's supposed to provide a somewhat stable and consistent standard of living for the average American citizen in their consumer life. That's actually the point. Samantha [05:26]: When my dad goes, "Oh, back in the day, this chicken rice bowl cost only $2. Now, because of inflation, it's worth more”. But then, with Bitcoin it's the opposite.  Sam K [05:37]: Yeah, in the 1950s, a hamburger was like 50 cents or $1. Now, a Big Mac is $6. There's two ways to look at it. One thing is that you could say there shouldn't be any inflation or there should be some, but this is too much. But first of all, the reason why the Federal Reserve even targets any amount of inflation is that the government doesn't want people to just hoard and hold cash, because that would slow down economic growth. They actually want cash to go somewhere that has productive use - either consume something with it, or invest it. Now, that idea alone isn't wrong, I actually agree with that to a certain extent. Then there's an argument about how much - is 2.5% percent inflation per year (which is the target), is that too much? Because if you take $1 and then you add 2.5% inflation to it for over 50 years, you actually get way more than $6. But recall that you actually track the Consumer Price Index. So then, even though it's going to be inflated by way more than 5X or 6X over 50 years, the price of meat processing and creating bread and all this stuff is getting cheaper over time as well because of technological improvements.  Sam K [06:59]: So, if you compound 2.5% over 50 years, then hamburgers should really be $80. However it's only 6X as expensive because the price of making a hamburger is actually also getting cheaper over time because of technology. Same thing with electronics - we all know that a computer that had one megabyte of RAM in 1995 was $1,000, it was the bleeding edge model of the day. But now, you have a $1,000 laptop that has 64 gigabytes of RAM or 32 gigabytes, and that's 10,000 times as powerful overall with a better CPU, graphics card, RAM, and everything, and it's the same price. That's what $1,000 will buy you - something that's 1000 times or more powerful than 20 years ago. People forget about that. The whole point is that the U.S dollar is supposed to be pegged to those things. It's interesting because, let's say you're a person that eats five hamburgers a week in 1950 and you make minimum wage so to speak, whatever it happens to be back then. If you also make minimum wage today in 2020, you should, in theory, be able to also eat five hamburgers per week without actually going into debt, or without cutting into savings. That's the goal. That's the point. They might not be doing a good job, they might be doing a great job, I don't know. But that's the actual intent. The intent isn't to make the U.S. dollar an investment asset. If you hold it across 1950 to 2020 you should be rich. For example, if you held Apple stock in the early 70s when Steve Jobs and Wozniack founded Apple, you would be insanely rich. But if you held U.S. dollars, your standard of living shouldn't change minus 2.5% inflation per year.  Samantha [08:53]: That is a really good illustration. Coming back to the point about stability, you're right- you hope that a person who works minimum wage could still afford their food and rent, and that's the whole point of it. I'm not so sure Bitcoin solves that part.  Sam K [09:08]: So, on the other side of the Bitcoiners' defence, the hard money people, like gold and all these things, their view is that the way that the dollar is being inflated is not actually to keep someone's standard of living the same. Obviously, this is a debate. People say that the Consumer Price Index is deliberately manipulated. For example, real estate and home prices are not in the Consumer Price Index, but rental prices are. There's a reasoning behind this: the Federal Government says that the consumptive asset of a home is to live in it (i.e. paying rent), and then they see real estate as an investment. But again, it's a political discussion. The counter argument is that the Consumer Price Index doesn't do a good job, it's outdated, it's politically manipulated, for example if the price of homes is going too high they'll exclude it just to make sure that it doesn't show the weakening of the U.S. dollar. There's some truth to that, but there's also some debate. Personally, for example, the thing that I find the most lacking in the CPI which I think there's no good reason for, and I would agree with Bitcoiners and the hard money people, is that the cost of college education in the United States is not in the CPI. But in order for you to even be able to get any kind of middle class job or income, a college education is essentially required, and the cost of college education is far outpacing the CPI. For example, people have to go into crushing debt these days just to get a college degree so that they can qualify for the average wage, and that's not accounted for. So the argument is that college degrees are not a consumptive good. Okay, sure, technically that's true. But then you completely miss a common fact of life in the United States, which is that you need a post-secondary education to actually be able to even earn enough dollars to do any of this stuff. That's something that I think there's a real debate. It's not very obvious that the CPI and how the dollar's monetary policy is being conducted is incredibly good and perfect.  Samantha [11:15]: So we've talked about Bitcoin and how there are people who have the view that we should head into a world where our items are denominated in Bitcoin. Then we've talked about how currency is meant to be stable. And before we touch on cryptocurrency, what is ‘currency’?  Sam K [11:32]: Oh, now it's even more open ended. The reason I always start with the CPI and what the U.S. dollar tracks is that we use U.S. dollars as a currency. So no one debates that the U.S. dollar is a currency. And what's actually interesting is, I always like to say that cryptocurrency as a complete umbrella term for all of these tokens and coins is the biggest misnomer that's confused a lot of people for a long time, because my definition of ‘currency’ that its meant to keep your standard of living stable. That's my personal definition, because that's what the U.S. dollar's intent is. We can debate about how good of a job it's doing or not, that's up for debate, and whether it's inflating too much or not or whatever. But the U.S. dollar is the most predominant currency in the world. It's intent, whether it's accomplishing or not, is to keep your standard of living the same, which follows the Consumer Price Index. One thing that's interesting is, notice how that's the exact opposite definition of an investment. If you make a good investment, the whole point is that your standard of living is supposed to go up. “You invest in something and you make a lot of money”, that's what is usually said, right? So the point is you allocate your currency to something that will hopefully change your standard of living. Then you exit that investment for money, currency, and that currency is the thing that is supposed to keep your standard of living constant. It's essentially the reference point for how we basically calculate and do our accounting into the future. For example, you can know that the average family vehicle in the US is this price and plus or minus 2.5% inflation (which is the target of the Federal Reserve). And so, one of the first things I always say when I'm talking about cryptocurrencies is that it shouldn't have been called ‘currency’, because it's a misnomer, and they're really good investments. Obviously not financial advice, I’m not saying go out and buy all the Dogecoin or anything. But the fact of the matter is that whenever someone tells you to go and buy some cryptocurrency, it's not to keep your standard of living the same, it’s because they're saying, “Do this and you're gonna hopefully get rich.”  Samantha [13:44]: I really like the point you make about currency, that it's meant to be stable. How do we know how much money there is? It seems like no number, and no end, or cap to how much money there is in the world.  Sam K [13:58]: It's a really difficult concept because there's a lot of views about this. It's like when you go and deposit $1,000 in a bank, and the bank tells you have $1000 and I can wire it to you. But you know that the bank is going and lending your $1,000 to someone else in a loan to buy a house or something else. Was there $1,000 created out of thin air? Is that money creation? And so those are important topics in economics that there's a lot of views about, where one of the views is that this is how the majority of money is created. The money supplied in this situation did, though. And then, the other view is that essentially there's only a hard supply of money and one stock that the sovereign government can print. Then they lend this out, and the actual amount of money is just the total circulating supply of dollars. It gets into it with cryptocurrency because these days, there's a lot of applications in crypto that allow you to lend and borrow, and it actually expands the actual credit supply of something. So, it's a really interesting topic to explore.  Samantha [15:06]: So to wrap up, what do you think it's going to take for the world, the average person on the street, or moms and dads to adopt stablecoins?  Sam K [15:16]: In a certain sense, you could probably say that people adopt and already use stablecoins as currency more than Bitcoin, because most of them are pegged to the U.S. dollar. Stablecoin usage has actually expanded year over year. So one topic that's really interesting that we're also doing research on at Frax, is the newest types of stablecoins (including what we’re doing at Frax), that we're going further than just pegging to the U.S. dollar and asking, “Well, if we peg Frax to the U.S. dollar, and the U.S. dollar is pegged to the CPI or some basket of consumptive goods, aren’t we basically transitively pegging Frax to the CPI?” What if we actually create our own or better version of a CPI? One thing we are doing research on, which is part of our long term goal, is to release this thing called the Frax Price Index, so the FPI. And the point of that is to eventually peg Frax directly to that. It's not happening soon, Frax will be still pegged to the dollar, but I think that it's really important research and it's where decentralised stablecoins are going. Because the goal is to create stability on the blockchain in a decentralised manner without having to rely on the US government or pay into the U.S. dollar. And so, other than the fact that everyone already uses it, what makes the dollar even more useful than gold or anything else is that it keeps your standard of living relatively equal, plus minus the 2.5% inflation rate. So I think that problem can be solved in a decentralised manner with stablecoins going forward, but we're still a few years out from that. But that is also one of the big, ultimate challenges that Frax and other leading stablecoin projects are looking to solve.  Samantha [17:04]: I think that's a great way to end the show for now. For those who are interested in Sam's work, do follow him on Twitter. We look forward to seeing what Frax is going to achieve in the coming months and years.  Sam K [17:17]: Thank you so much for having me on, Samantha. It's been a pleasure.  Samantha [17:20]: Thanks for joining us on YAP Cast.  Samantha [17:22]: Some interesting gems from Sam there, who's shown us that if we think differently about currency, we might think differently about inflation. And that stablecoins, though an excellent idea, don't really solve a problem, at least not the whole of the problem. Let's take a step back: We understand now that inflation is a normal process, an inbuilt mechanism, almost to prevent people from hoarding money. If everyone just hoarded their money, there would be no economic activity and therefore no growth. No one would produce anything because no one would invest anything. If I didn't buy a cow, I wouldn't be able to sell you milk and beef. So to make cash go somewhere productive, you have to make it attractive to spend, and unattractive to just stick in a hole in the ground. So the value of money is pegged in some way to the cost of things. But Sam has another argument. With cryptocurrencies we're trying to get away from the traditional way of doing money, which is great, but we're busy building bridges between the two to make things work better. Like stablecoins, but stable, how? Well, the most popular obvious version is to peg them to something - the U.S. dollar, in a lot of cases. But what is the U.S. dollar pegged to? Well, the CPI, the Consumer Price Index, the basket of goods. So why don't we just cut out the middleman and build our own CPI, perhaps one that is better? Well, Sam and his team are working to build one for the crypto industry. The point we’ve regularly reached during this series is that we’re in this process of redefining money, and in this instance, this means trying to wean ourselves off this idea that the value of everything crypto should be counted in U.S. dollars.  If you’d like to watch my full length conversation with Sam Kazemian, head to the YAP Cast Youtube channel. I’m Samantha Yap, and you’ve been listening to The Story Of Money, by YAP Cast.