Source: Digital Legal Currency Research Society
Introduction
This article is the preface written by Lu Lei, Deputy Governor of the People's Bank of China, to "Theory of Money".
The motivation for writing "The Theory of Money" came from a trip back home. As an economics teacher with a research instinct, I am unwilling to miss any theoretical thinking based on reality. One afternoon in late August 2020, I took my wife and daughter on the "Fuxing" train of the Beijing-Shanghai High-Speed Railway. While the children were listening to their favorite songs and doing quadratic function exercises, I opened the Handbook of Monetary Economics (Volume 3A) edited by Friedman and Woodford (2011), which I had brought with me before leaving, half for review and half for hypnosis. I was soon attracted by the chapter "New Monetarist Economics" by Williamson and Wright (2011). The reason for attracting me is that both authors have the dual identities of central bank staff and university teachers, and their resumes similar to mine resonated with my thoughts. However, my eyes were on the pages of the book, but my thoughts were whirling with the whistling train. The United States has been implementing an unprecedented unlimited quantitative easing monetary policy for several months. Why did the stock market experience several circuit breakers in March during the worsening of the global COVID-19 epidemic, and then hit a record high, but there was no obvious sign of improvement in the real economy during this period? The CME crude oil futures price in April was actually negative, but the prices of gold and digital currencies continued to rise. So, will the world monetary system change? Obviously, these are some seemingly simple practical problems. It seems that 15 minutes of thinking or even laughing at the irrationality of the market is enough to make me turn to more valuable reading. However, it is these simple questions that accompanied me through a full 5-hour drive. This is because these seemingly simple questions cannot find answers that can fully convince me from the thick manual.
In the sunset, when the three of us were on the platform of a small station in the south of the Yangtze River, dragging our long shadows towards the exit, I looked at the train whizzing and accelerating towards Shanghai, and said to my wife, "Maybe there are some basic bugs in the monetary economics I taught. The facts I observed, the work I did and the courses I taught are completely different."
My wife, who has always been willing to encourage me and has also been engaged in teaching finance for a long time, said to me expectantly: "Then you can rewrite monetary economics according to your own ideas."
"Okay, but my opinion may not be right." I nodded solemnly.
"That's not necessarily wrong. It's always a good idea to try!" My daughter heard our conversation and interrupted jokingly.
It's worth a try. However, I didn't seriously consider the feasibility of this matter at that time. Systematic work requires systematic time support. It seems that I can only use fragmented time to piece together my thoughts. Fortunately, I can exchange fragmented views with my student, Dr. Liu Xue, and then condense different (although not necessarily complete) perspectives from each other's sharpening, and extract truly valuable (although not necessarily correct) views.
At least in the field of economics - I don't know about other disciplines - intuition is very important based on systematic training. There is a very artistic movie - "A Beautiful Mind", which is based on the mathematician John Nash. From my non-artistic perspective, it illustrates the importance of intuition. In my 30-year career, I spent 15 years teaching theoretical courses such as "Monetary Finance" (using the versions of Huang Da, Zhou Shengye and Zeng Kanglin, Mishkin and Chen Xuebin), "Microeconomics" (using the versions of Ping Xinqiao, Varian and Mas-Colell, Whinston and Green for doctoral students), "Macroeconomics" (using the versions of Mankiw, Romer and selected chapters of Ljungqvist and Sargent), "Mathematical Economics" (using the Takayama version), "Monetary Economics" (using the Walsh version) and other practical courses such as "Commercial Bank Management" (using the handouts I compiled based on my work experience in commercial banks, with reference to the Zeng Kanglin version) and "Credit Risk Management" (using the Colquitt version) for undergraduates and postgraduates in colleges and universities. The other 15 years were spent in policy formulation and management work in central banks, foreign exchange management departments, commercial banks and capital market institutions. An indelible intuitive feeling is that there is always an insurmountable gap between the teaching of monetary economics and the practice of monetary and financial policies. Of course, when I teach, I teach students according to the textbook; when I conduct monetary policy and financial stability research and provide policy implementation advice, I make operational recommendations based on policy rules and experience. However, on that evening in August 2020, I decided to spend perhaps 10 years to bridge the gap between theory and reality.
It takes courage to make this decision. On the one hand, the opposition created by any theoretical research involving framework reconstruction is not one or two people, but several or even more than a dozen generations - such as all the respected scholars in the Handbook of Monetary Economics that I have been inseparable from almost every moment in my wanderings in Beijing, Shenzhen, Chengdu, and Guangzhou. This makes me doubt whether I really have the realistic conditions to find the truth of the monetary world. On the other hand, the most opportunistic approach in scientific thinking is to "cite a counterexample" to overturn an existing theorem, but it is much more difficult to create a new cognitive framework. This is why I have great respect for Modern Money Theory (MMT) written by Wray (2012). As Keynes (1936) said: "The ideas of economists or political philosophers, whether right or wrong, are more powerful than people usually believe." Therefore, the monetary economics criticism (critique) that I insist on should actually be the creation of a framework, rather than denying a framework in one sentence.
The question that follows is, if there is really a gap between theory and reality, then is the theory wrong, or is our understanding of reality wrong? This involves a discussion at the epistemological level. On the one hand, whether right or wrong, I have always believed that theory can only be a subjective understanding of reality. In other words, reality does not have a right or wrong problem, it is only an objective fact. Therefore, if the theory cannot reflect the facts, then the only thing that needs to be corrected is the theory. On the other hand, whether right or wrong, I have also always believed that the explanatory power of the theory is limited in time and space. For example, the study of seigniorage is only because in the era of metal currency, the production function of currency production is almost completely different from that of other national economic sectors. Therefore, in terms of property rights, any increase in currency issuance means that the government has increased purchasing power out of thin air, which has diluted the purchasing power of currency in circulation, thus forming a de facto "taxation". However, under the current "central bank-commercial bank" currency issuance system, currency issuance is actually a subsidy to financial institutions and borrowers. As long as the government is not a debtor, it will not obtain any tax revenue in this process. The reason I use this example is that as a teacher, I find that from currency, money demand, money supply, monetary policy to world currency, quite a few theoretical conclusions are actually still stuck in the metal currency era that we humans have experienced - including the familiar "Impossible Trinity" (The Impossible Trinity or Mundellian Trilemma) theory.
The monetary economy we live in is growing, and any rigid thinking that sticks to the old ways will run into a wall in the face of the rapidly changing reality. This is like my daughter, who is now in her prime. Compared with the emotional and obedient girl 10 years ago, she has undergone irreversible growth and subversive changes. Although she is still gentle and unrestrained, she has become more rational and independent since she started school. My regret is that I can no longer understand her and get along with her in the same way as before. Similarly, perhaps we can no longer use the same model to fully understand, participate in or influence the monetary economy at this time.
Although, in name, she is still the same person; in definition, currency is still the same currency.
Previous theories were not wrong in previous historical times. What we need is a way of thinking in which theories are constantly iterated as current events change.
Monetary Policy and Central Banking (Volume 2)
Generally speaking, the thinking process is from the outside to the inside; the presentation of thoughts is from the inside to the outside.
I think this is the usual method of all theoretical research. Specifically, we are often motivated to do research by some specific events, but when writing papers, we often describe the general theory first, and then use the specific events that triggered the research as empirical evidence. The research of my collaborator Dr. Liu Xue and I is no exception. In most cases, we always discuss and even argue around interesting facts rather than boring mathematical research. Of course, as a teacher, I can't help but end the debate with a high-pressure attitude. However, in the three volumes of "Monetary Theory", readers must see model derivation and a series of theorem systems. We apologize for this. Mathematics may not necessarily be the best form of expressing opinions, but at least for now, language and text still have a large space for free interpretation and even taking what they need. Mathematics is the best means to avoid ambiguity and maintain logical dynamic consistency.
The questions are all raised from the outside to the inside, such as the surface phenomenon is the famous apple, and the inner essence is gravity. According to my original research intention, the intuitive impact of the apple in August 2020 was just "there is room for a large amount of money to be issued, and in fact, countries are doing so. Moreover, the money release has caused a bull market, and all parties are happy." This is a frustrating thing for me: under the impact of the epidemic, trade, investment, and consumption have shrunk across the board. The only bright spot in the world is the issuance of money and the surge in asset prices! In any case, the above phenomenal impact is subverting the principles of monetary economics that I have believed in for many years. However, by studying the above phenomena at a rational level, I soon discovered that there are three extremely specific theoretical problems: First, if we want to determine that money will cause a bull market in the asset market, then we first need to clarify how money enters the asset market, or in other words, what is the basis for determining that money lacks the enthusiasm to enter the real economy. Second, if the increase in money can and can only drive up asset prices, then it must have nothing to do with output and inflation. How should such a monetary effect be defined? Are the existing monetary policy rules ineffective, and how should they be corrected? Third, if the central bank can have no bottom line and the currency issuance can have no upper limit, then the currency is likely to be replaced by other general equivalents - such as digital assets and stablecoins whose market value is currently fluctuating upward. Will this really happen? As a researcher who has been engaged in central bank research for a long time, the idea that comes to my mind is that the urgent problem facing major developed economies is to "save the central bank from the hands of central bankers." Although this idea is by no means the current central bank digital currency (CBDC), because I believe that CBDC has no institutional meaning of changing the increase in money, but is there a digital currency that can overcome the impact of various digital assets, achieve the stable currency effect, and maintain the existence of sovereign currency (solving the problem of monetary unification but fiscal decentralization of the euro)?
Therefore, the surface phenomena targeted by our three-volume "Theory of Money" and the fundamental practical problems explored by it are actually the three phenomenal shocks mentioned above. This is also the reason why we conduct parallel research in three volumes. The three volumes solve three basic problems respectively - the first volume "Money and Monetary Circulation" attempts to explain how money circulates; the second volume "Monetary Policy and Central Bank" attempts to explain how monetary policy works and how monetary policy rules should be revised; the third volume "World Currency in the Digital Age" attempts to give some ideas on how sovereign currencies can cope with the competition of non-sovereign digital assets and supranational currencies.
A Treatise on Money: Money and the Monetary Circulation (Volume 1)
The first question is: Where does money go? The explanation of this question determines how we truly understand money and money circulation. Our discussion found that this is where monetary theory is most out of touch with the real world.
The first appearance is the superposition state of decoupling from the real to the virtual. Almost all studies have been too hasty to define the service industry based on the financial market as "virtual" and the primary industry, manufacturing and other service industries as "real". In fact, any enterprise or individual may be a superposition of the real and the virtual. For example, the balance sheet and income statement of a certain enterprise may simultaneously contain its own productive capital formation and investment in other non-productive related assets and their income. For example, even if someone purchases a property for his own use, he does obtain floating profits or losses caused by the rise and fall of the real estate market value. For example, the added value of the financial services industry may come from both services and asset-liability matching, as well as arbitrage self-operation. Therefore, the essence of the problem does not lie in the dichotomy between the real and the virtual, but in whether there is an arbitrage incentive in the monetary cycle of an economy.
The second appearance is the superposition of monetary increments. As to whether monetary growth only causes inflation, or drives economic growth while causing inflation, that is, what the nominal and real effects of monetary growth are, almost all studies are in a state of debate. This is a problem that the classical school and actual policy operations continue to face - although all parties believe that monetary increments do not necessarily lead to output growth, in the real world, economic downturns are generally accompanied by exogenous monetary expansion. Therefore, the essence of the problem does not lie in the dichotomy of monetary neutrality and non-neutrality, but in the length of time that the monetary authorities measure the monetary effects and the length of time that the impact of monetary increments is discounted - the superposition of short-term non-neutrality and long-term neutrality.
The third phenomenon is the role of financial intermediaries in money supply and demand. Almost all macroeconomics and monetary economics textbooks only regard financial intermediaries as a bridge between savings and investment. The cutting-edge research is based on microeconomics, focusing on the information symmetry of financial intermediaries, inter-period pricing, and the game between borrowers and financial institutions. The implicit assumption of these studies is that financial intermediaries are insignificant in the macro sense - they are just a bridge and screening mechanism. The conclusion drawn from this must be that if the information asymmetry problem in the digital age is fundamentally solved, "savings-investment" can be automatically matched by big data (we can imagine it as a computer host with supercomputing capabilities), which can explain the rise of Internet finance around the world. The problem is that this judgment has a fundamental flaw in the assumption - financial intermediaries are not only backed by the public, but also by the central bank, and their asset pool can easily achieve inter-period and cross-asset category subsidies. Therefore, financial intermediaries are not a weighted average of the credit of social and economic entities (if it is, then financial intermediaries are insignificant and they are only engaged in technical work such as matching), but an independent industry with a higher credit level than social and economic entities. The groundbreaking conclusion drawn from this is that financial intermediaries are money demanders, the public are regular money suppliers, and the central bank is the reserve money supplier.
The fourth appearance is currency trading. Since Ricardo and Malthus, too many scholars have sought inspiration in the transactions between currency and commodities. Since currency is a special commodity, it should be written into the utility function, such as the model of Sidrauski (1967). This chaotic cognition was not broken until the genius Debreu and Arrow discovered that currency does not need to exist in an economy with a perfect futures trading market (see Chapter 1 of Volume 1 of the Handbook of Monetary Economics). During the discussion between my doctoral students (mainly from central banks, banking regulators and financial intermediaries), I made a bold inference - if we don't need to think about the problem so complicatedly, and just regard currency as an institutional reality, then can we define the truly meaningful currency transactions? In their confusion, I said, if we try to define currency transactions as transactions between currencies, what will happen? They were smart and understood immediately - currency transactions are inter-period transactions of the same currency and spot transactions of different currencies. All problems are solved, and monetary theory is bound to become consistent with the real world.
The second question is: What role does monetary policy play? This question is based on the policy review of Japan in the 1990s and the United States and the European Central Bank after 2008 by Dr. Liu Xue and I. The issues discussed include but are not limited to: whether the policy of increasing the rediscount rate implemented by Yasushi Mieno, who was known as the "Heisei Genius" at the time, was right in 1990; whether the decision of Bernanke and Paulson to rescue AIG instead of Lehman Brothers in 2008 was optimal; whether the actual effect of the Fed's average inflation target and unlimited quantitative easing policy on the economy in 2020 has been revealed, etc. Our discussion can be said to be full of gunpowder - as a teacher, it was difficult for me to convince my students as collaborators. This is because once you enter the field of subversive discussion, it is more of a conflict between the inherent "common sense" of monetary economics and a series of "phenomena" that do not conform to common sense than a debate between teachers and students. Many times, I can only use the majesty of a teacher to overwhelm my students. The result that makes people breathe a sigh of relief is that we have reached a consensus on many issues.
The first consensus is the monetary policy transmission mechanism. Our "common sense" believes that the monetary policy transmission mechanism is naturally in a "top-down" state. Therefore, when we think that the policy is correct, if the final effect deviates from the original intention of the policy, we often conclude that the monetary policy transmission mechanism is not smooth. In this regard, my question to students is: Is the central bank a deep and direct participant in the monetary economy, or a supervisor and corrector? Obviously, the main role played by the central bank is the latter. Then, the so-called monetary policy transmission mechanism must have a "bottom-up" nature, that is, the main functions of monetary transactions and money creation rely on the credit creation of financial intermediaries, and the central bank will only take action when and only when it finds that there are obstructions in monetary transactions (such as money shortages or asset shortages). Therefore, the monetary policy transmission mechanism is a combination of bottom-up in most cases and top-down in a few cases.
The second consensus is the super neutrality of monetary policy. All countries are paying attention to the money growth and debt ratio after the global financial crisis in 2008. If the main driving force of money growth is the issuance of base money by the central bank, then since the issuance of money by the central bank is exogenously determined, can it be logically considered that the central bank is the initiator of asset bubbles? Originally, our debate was about the neutrality and non-neutrality of monetary policy. When I repeatedly emphasized that "any model deduction must conform to the monetary operation of the real world", we reached a consensus that in addition to the superposition of monetary neutrality and non-neutrality, there is another form of monetary policy - the super neutrality of monetary increment, that is, if the real economy has achieved the optimal monetary allocation, then any monetary increment caused by monetary policy will neither cause output changes (that is, no real effect) nor price changes (that is, no nominal effect), but only asset price changes (due to lack of a better definition, we have to give the concept of "super neutrality").
The third consensus is that there are upper and lower limits on the central bank's balance sheet. After the 2008 financial crisis, the Federal Reserve and the European Central Bank successively implemented quantitative easing and unconventional monetary policies. In 2020, central banks of various countries once again expanded their balance sheets. Our debate is: Is there a possibility of perpetual expansion of the central bank's balance sheet? Mr. Nakamoto, who secretly mocked the central bank, seems to have grasped the weakness of expanding the balance sheet - one day, the excessive issuance of currency will lead the central bank to doomsday. It cannot be denied that this is a simple and consistent understanding of the law of supply and demand. My concern is whether there will be such a situation: on the one hand, currency promotes asset bubbles and bites back the existence value of currency itself; on the other hand, the increasing cost of specific assets (such as digital assets) makes it go to its opposite, lacking the liquidity required as a general equivalent (that is, being collected rather than circulated, which is the fate of precious metals to withdraw from currency). So, returning to the original question, can the central bank's balance sheet really expand indefinitely? Our answer is that there are upper and lower limits on the central bank's balance sheet. The lower limit is the change in capital stock required by the gap between potential economic growth and actual growth, that is, the difference between residents' deposit money and the credit increment required for capital formation. The upper limit is the amount determined by the central bank's lender of last resort rule, which should be equal to the difference between the bad debts of the financial intermediary system and the capital of the bank.
The fourth consensus is that macroprudential management cannot be independent of monetary policy. Since Borio (2003) systematically proposed the basic idea of macroprudential management, an important pillar of financial stability has been added in addition to monetary policy and microprudential supervision. Its basic meaning is that central banks and financial regulators should implement special management on systemically important financial institutions and procyclical behavior of financial resource allocation. Since I have been almost obsessed with macroprudential management research in the past seven or eight years, and because of my concern about the development of large banking industries in Japan and South Korea and their crises in the past 20 years, I have particularly believed that "too big to fail" regulation is imperative. Therefore, at least two of my doctoral students have used this as a thesis topic. However, in the discussion with Dr. Liu Xue, regarding the central bank's practice from 2008 to 2020, we quickly reached a consensus: in the 21st century, the main problem facing monetary authorities is no longer the "too big to fail" of institutions, but the deeper "too high to fall" of financial assets. The original concept of financial stability is based on the interactive asset-liability connection between financial peers, so the liquidity problems of large institutions often have a fatal impact on the stability of the overall financial system. However, with the "single" and "homogeneous" assets held by all financial institutions - such as bonds and real estate collateral, the impact of asset price fluctuations on all financial institutions is the same. Then, basic prices such as interest rates and exchange rates - or, most fundamentally, interest rates, if interest rates determine exchange rates to a large extent, then they have a decisive impact on systemic risks. Therefore, all macro-prudential management cannot exist independently without monetary policy in the end. In terms of macro-prudential management tools, the "loan to value" (LTV), which has been in the exploratory stage for many years, is likely to fall into the paradox of soft constraints, just like the capital adequacy ratio of micro-prudential supervision: if asset prices are constantly pushed up by money, loans can certainly be higher; if asset prices are artificially limited, it will lead to the dilemma of lack of basis for pricing. Similarly, financial institutions are likely to supplement capital rather than reduce assets during the asset expansion stage. Therefore, the two seemingly hard constraints may actually become boosters of bubbles and credit risks. In fact, the practices of various countries have fully proved that the above phenomenon is not a subjective conjecture, but a fact that is happening. When discussing this issue, Dr. Liu Xue and I looked at each other and smiled bitterly - human financial stability theory may still be groping in the dark. Then, the simple thinking of returning to the basics may only be that, at least in the foreseeable future, monetary policy (central bank issuing or withdrawing money) is still the only practical way to ensure financial stability.
The fifth consensus is that the fiscal and monetary authorities are each other's special purpose vehicles (SPVs). Since the birth of MMT, the old proposition of the relationship between fiscal and monetary policy has once again become a hot topic. In the discussion of this issue, Dr. Liu Xue and I found that although it is difficult to abandon the inherent ideas in our minds, we have to do one thing first - complete empirical rather than normative. Then, the question becomes - what is the relationship between the central bank and the fiscal authorities in the real world? The consensus we reached is that the two parties are each other's SPVs. On the one hand, fiscal policy uses the central bank as an SPV. Although the original purchasers of treasury bonds and municipal bonds are financial intermediaries, the central bank will repurchase and sell government bonds as high-grade bonds for liquidity management requirements. Therefore, looking through, the important partner or SPV of fiscal revenue and expenditure is the central bank. In the debate, we also reached a consensus that in the modern economic system, currency issuance no longer has the content of seigniorage. This is because the production function of currency issuance is completely different from the real production function in the traditional metal currency era. In the traditional metal currency era, currency is an asset, and once it is increased, it belongs to the government, thus forming a seigniorage that cuts purchasing power. In the modern sovereign currency era, currency issuance is likely to be a subsidy to asset holders, and therefore has a distinct transfer payment effect.
The sixth consensus is the monetary policy rule. If, as we have argued, monetary growth is both neutral and non-neutral, and under certain conditions is still super neutral, then the ultimate goal, intermediate goal and money supply rule of monetary policy need to be revised. From the perspective of the ultimate goal, monetary policy should focus on the value added minus the value added of the financial sector. From the perspective of the intermediate goal, monetary policy should focus on the stability of a basket of prices, including PPI (Producer Price Index), CPI (Consumer Price Index) and all asset prices with financial attributes. From the perspective of monetary policy rules, we really need to re-examine the effectiveness and limitations of Friedman's rule and Taylor's rule, and perhaps we need to set new simple and easy-to-use liquidity management rules - for example, the growth rate of broad money = the growth rate of value added minus the financial sector + friction coefficient; the growth amount of base money = the increase in commercial bank credit loans - the increase in residents' savings deposits. We will use model simulation to reproduce the monetary policy choices before and after the major crises in 1991, 1997 and 2008.
The third question: As countries enter the digital economy era, either radically or gradually, what is the stability of world currencies and their evolutionary direction? This question is much more difficult to handle than the first two. This is because, for the first two questions, the debate between Dr. Liu Xue and I was based on only one consensus - what are the facts and whether our explanations are consistent with the real world? However, on this issue, the elements of speculation and even "betting" have increased sharply, so we need to be particularly careful in the analysis method. Any deductive reasoning rather than factual induction is likely to become completely inconsistent with the real world of the future due to the omission of important independent variables. In the field of prediction and practice of monetary economics, there are two people who deserve high respect - Robert Mundell, who just passed away, and Satoshi Nakamoto, who is still unknown. The former insisted on the concept of redundant transaction costs throughout his life, and experienced the practice of the single currency area theory in the euro area, but there is no dollarization utopia and it is difficult to achieve it. The latter watched the bitcoin he created evolve into an extremely expensive digital asset. At present, the energy consumed by the world to mine the last 2 million coins each year is enough for hundreds of millions of people to use for more than a year. According to the marginal cost pricing method, the closer Bitcoin is to an asset, the further it is from a widely circulated currency. So, what might the world currency (or world monetary system) in the digital age look like? My students and I made the following conjectures.
Before forming a conjecture, we must emphasize a basic premise - the digital age. The digitalization process has systematically reduced or even reduced the transaction costs that were high in the non-digital era. Under this premise, many instantaneous transactions that were impossible to achieve with manual calculations in the bookkeeping era have become possible. This is how we can make our conjecture.
The first conjecture is the non-existence of the "trilemma" of sovereign currencies that serve as world currencies. Of course, the "spillover effect" will no longer exist. This is because there must be a return investment market for world currencies in the real world. In other words, all foreign exchange reserves and sovereign wealth fund holders' so-called foreign exchange book assets exist either in the form of such currency assets or in the form of currency assets in the offshore market. In either form, in a fully arbitrage market, it will affect the supply or interest rate of the currency. Therefore, the central bank of the country issuing the currency actually faces global currency demand, not domestic currency demand. Therefore, the so-called conflict between monetary policy autonomy and free capital flow does not exist.
The second conjecture is that the world currency is a treaty of sovereign monetary authorities, or a super-sovereign currency. The core of the Libra concept is "stable currency". Therefore, the experiment of my students and I is based on the free trade and investment agreement, and designs a digital stable currency based on floating shares and exchange rates based on artificial intelligence (AI) algorithms between contracting parties. Whether in the interbank market, in the balance sheet of the central bank, or in retail transactions between the household sector and the corporate sector, dual-currency settlement and clearing of sovereign currencies and super-sovereign stable currencies can be achieved. This is not a difficult problem in a technical sense. As early as 10 years ago, when I went on a business trip abroad, I could choose to purchase in RMB, US dollars or euros with a bank card. A basket of currencies has a smaller fluctuation range than a single currency, which is obviously advantageous for cross-border investment and trade. Of course, this stable currency mechanism is different from the euro. It does not cancel the sovereign currencies of various countries, and therefore does not affect the autonomy of monetary policy. However, our algorithm will automatically convert the weight of any participating country's currency issuance (theoretically, it can fluctuate between 0-100%, 0 means it is automatically eliminated; 100% means that the participating country has actually implemented a currency board system). Therefore, the weight of the currency basket is floating. This may also constitute a disciplinary constraint on the issuance of currencies by various countries. Judging from the current status of free trade agreements, it is very likely that one or more supranational currencies will emerge in the world, and new currency basket combinations can be formed on the basis of supranational currencies.
The third conjecture is the transformation of the financial market by supranational currencies. If there really is a supranational currency in the form of a treaty, with free coming and going, transparent algorithms, and exchange rate calculations, then the financial market across time zones can achieve unlimited continuous transactions for the same target in accordance with the same stable currency. At this time, a listed company or a bond issuer has complete equivalence in financing in different markets. By then, there will be no world currency competition between sovereign currencies, nor will there be erosion of the status of sovereign currencies by private digital currencies. The so-called foreign exchange reserves, in monetary terms, are a floating-weighted basket of sovereign currencies.
A conjecture is a conjecture after all. However, there are traceable examples of conjectures in the history of human currency being transformed into reality. The establishment of the Bretton Woods system and the International Monetary Fund originated from conjecture. When we conjecture, I always use the famous saying of Keynes (1936) to warn me and my students: "Some wild conjectures seem to be unrestrained and come from nature. However, the core of their ideas is nothing more than the ideas of an unknown economist hundreds of years ago." At present, digital assets are following the old path of the gold standard, and the concept of stablecoins is nothing more than a realistic formulation of the "soft version" of the optimal currency area theory. Our ideas are not necessarily better than the White Plan of 1945. It's just because in the digital age, old wine has a new label.
We have to admit that many things are no longer what we originally envisioned, and many jobs make us grow old. Our original intention was just to discuss the monetary policy of a certain period and its subsequent impact, but it turned into a three-volume "Theory of Money".
The understanding of monetary circulation, monetary policy and the evolution of world currencies deepens our understanding of the real world monetary economy. The monetary economy has never been "perfect", and the general equilibrium only remains in our imagination or expectation. Every institutional evolution for "imperfections" usually causes new problems when solving a problem, whether it is the collateral arrangement intended to improve the security of financial intermediaries, or the macro-prudential management intended to curb systemic risks, or the world monetary system intended to reduce exchange costs, from the perspective of time series, there is no exception. As optimists, my students and I have no intention of denying any existing monetary evolution path. Our efforts are aimed at showing that any monetary theory and optimization thinking are flawed, and our ideas are no exception, and may become outdated in the future.
Two thousand years ago, the historian Sima Qian's "Reply to Ren Shaoqing" gave the highest realm of thinkers - to study the relationship between heaven and man, to understand the changes of ancient and modern times, and to form a unique opinion. The efforts of my students and I are far from such a lofty ultimate ideal. We only hope that "Money Theory" can have the ability to interpret the operation of real money, and at the same time become a reference book for senior undergraduate students of economics and graduate students of monetary economics to observe, understand and analyze monetary economy. Therefore, the three volumes do not rely on a certain ready-made theory to explain the special monetary phenomena brought about by a certain country or a certain monetary tool, but give the external manifestations and internal logic that all economies that still have the economic phenomenon of "money" must face. In these three volumes, readers will not see the particularities of national conditions, indirect financing or direct financing dominance, developing countries or developed economies, etc. We only present general theories. Obviously, this analytical framework may not conform to the history of monetary evolution, may not meet all logical conditions, may not fit the monetary cycle of the future world, and may not be applicable to extremely special situations, but it should conform to the general state of real-world monetary operation in the past 30 years of my research and practical work on monetary theory.
The inadequacy of the theory prompts us to think. I borrowed the question of Kydland and Precott (1996) as the motivation for writing the whole volume: "The way to test a theory is to see whether the model economy constructed by the theory can simulate certain aspects of the real world. Perhaps the greatest test of a theory is whether its predictions can be proven by reality - that is, when a certain policy is chosen, will the real economy behave as predicted by the model economy?"
Economists who lack a historical perspective are not far-sighted, and theories that lack the ability to explain reality are not viable. That's all.
