The eternal dream of automatic money

The author is an FT editor

The white paper, which has launched the cryptocurrencies Terra and Luna, is written in the elegant font of a peer review journal, like all of these papers. It quotes the review of the financial studies and the magazine for finance . It's a very serious job.

"Terra Money: Stability and Adoption", published in 2019, shows two axioms of money. First, a stable currency is elastic - it can expand and contract to counteract demand fluctuations. Second, stability alone does not guarantee that someone uses a currency. For this, a currency needs a fiscal policy that she outputs for efficient projects that create growth.

good yes. Keeping a currency stable through offer control is the central challenge of monetary policy. Efficient expenses that create growth is the central challenge of fiscal policy. The two axioms in the Terra White Paper are undeniable true descriptions of old problems.

The paper offers a nice answer: two currencies, paired by design. The value of Terra would be linked to the dollar. What this bond would think would be a guaranteed exchange with Luna worth a dollar. And Luna would have a value, because every Luna would vote on how part of the seedniorage - the profit - should be output from the characteristics of Terra.

The project failed. Terra fell to 8 percent of its value in early May, and Luna is practically nothing worth nothing. However, nothing was naturally brain -tearing on Luna and Terra. Together they shared a governance structure that would decide which financial applications could use Terra and which should be funded with seigniorage revenues.

criteria would be "robust economic activity" and "efficient use of funds". This should seem familiar to you, because that is what legislators do in a democracy. One of these approved applications was Anchor with its own nominally independent governance structure that offered an interest rate for terra deposits. This is only the basic work of every central bank.

an attentive reader may have noticed the repetition of the word "governance". It is often difficult to describe how cryptocurrencies work because the people who create them have the habit of using new words to describe things that already exist.

Words such as "Protocol" and "Stakeholder" and "Governance" are only different types, words such as "institution" and "investor" and "decisions". The Terra White Paper describes a tax and monetary system with a remarkable resemblance to the one we already have. The only difference is that in the Terra protocol, governance should ensure that everyone would make good decisions.

Today we know that it didn't work. Governing is difficult. It fails all the time. In this case, the persons who were involved in Anchor to offer 20 percent interest on Terra inlays and use their share in the seedniorage income from the currency to finance the operation. This is an astonishing return in every environment and promoted the creation of more terra than could ever be useful for an actual economic activity. Such a sustainable growth is a classic reason for the collapse of a currency. In this case it undermined trust in Terra.

As a species, we have spent the last 4,000 years of trying out many different governance protocols for money, and none of them was particularly effective in preventing people from making the wrong choice.

The protocol, which emerged from this original white paper, called Terra as "algorithmic stable coin" because it and Luna balanced each other under a defined program. She suffered from an old hope: the dream of automatic money that cannot be corrupted by poor human decisions.

The philosopher David Hume suggested, for example, that the prices should adapt to the range of precious metals that would naturally flow across the borders where they are needed. This was the logic on which the classic gold standard was based, but as the economic historian Barry Eichengreen emphasized, governments exposed the standard to take war and recessions. The gold standard was a protocol with a lot of human ability to act.

Milton Friedman also wanted the human fallability as far as possible from money creation. In the 1960s, he suggested that the entire money supply grown with a constant rate. He preferred to be three to five percent, but consistency and inflexibility were more important to him than the rate. He admitted that this would lead to a slight inflation and deflation, but thought it was the best to completely take people out of money. In recent times, in the early 1990s, John Taylor suggested that rules for political decision -makers could prevent them from exercising discretion.

Without questioning the advantages of these arguments, they simply don't seem to be what people expect from money. Liberal democracies have repeatedly rejected Friedman and Taylor-like protocols. There are no chains that we can bind to. We inevitably grab them and ask those responsible for money to make decisions again. It is better to recognize this than to wave away everything with words like "governance".