Editing Talk:Stable coin governance

== NOTE ==
Click 'Add topic' to separate subjects.<br>
Please sign all comments by typing 4 tildes (~).<br>
:To answer, use colons (:) to indent
::Use two colons (::) to indent twice
:::Etc.<br>
[[User:Craig Calcaterra|Craig Calcaterra]] ([[User talk:Craig Calcaterra|talk]]) 04:26, 27 March 2023 (CDT)
<br>

== Resources ==

*Understanding monetary policy
**federal funds rate
::https://www.investopedia.com/terms/f/federalfundsrate.asp
*
[[User:Craig Calcaterra|Craig Calcaterra]] ([[User talk:Craig Calcaterra|talk]]) 11:36, 3 April 2023 (CDT)

== Interest rates & Inflation & Spoilage ==
Interest rates and inflation are crucial concepts for governing a stable coin. The peg of a stable coin has to be decided in terms of a CPI and a target for inflation.
<br>

I think of them as friction in the economy—[[Corruption|corruption]], what is lost due to spoilage.<br>

So the interest rates should go down in stable times when the world is correctly producing for the demand. Interest rates should be low when the economy is efficient. <br>

However, interest rates are not just a matter of how well industry gets our products to us. It is also a matter of how well governance is working. So if we are wasting our productive capacity on war, then the absolute meaning of money should be somewhat diminished as spoilage is greater.<br>

Spoilage includes all the non-productive aspects of the economy, including overhead such as policing, legislation, & judicial activity; news media reporting, entertainment, & education. 
Baldly saying, “education is spoilage” tends to be provocative and offensive in the wrong atmosphere. But from an abstract point of view, here is what I mean: When someone dies, their education is spoiled. Their life’s work in educating themselves is lost. Then society needs to re-educate a new person—a child—to replace the dead person. This is wasted effort compared with the case if people were immortal, which is one of the advantages of AI over humans. I put education in the economic category of spoilage with respect to the gross domestic product.<br>

The gauge for measuring spoilage is necessary to set. Spoilage is relative to some measure of equilibrium production. In general, energy is the best measure of spoilage. How much energy is wasted? To answer this we must decide what "wasted" means, since we live under the law of conservation of energy. Also we are given free energy every day when the sun shines. Ultimately, 100% of the energy we use is solar: our bodies and tools are heated by the sun each day, plants we grow for food and fuel are derived from sun energy. The wood, coal, gas and oil we burn were previously plants which derived their energy from the sun. Wind and hydro-electric energy derive their power from the motion of wind and water, which depend on the heat of the sun. Even nuclear energy was derived from previously dead stars. [Vaclav Smil Energy and Civilization: A History (The MIT Press) May 12, 2017] 
<br>
Spoilage is difficult to gauge, since we use this potential energy to exist. We have an arbitrary standard of energy usage, a temporary equilibrium which grows and shrinks as humanity develops and consumes resources and discovers new sources. 
<br>

Interest rates are closely correlated with inflation. From a course perspective, I believe inflation is the same thing as the interest rate, though inflation is more fundamental. Neither the true value of inflation nor the true interest rate are observable, neither is spoilage. They all converge in the right equilibrium.<br>
[[User:Craig Calcaterra|Craig Calcaterra]] ([[User talk:Craig Calcaterra|talk]]) 11:53, 3 April 2023 (CDT)

== How to mint USD and insert it into the economy vs minting crypto ==

When minting new cash tokens in response to demand, where should the new cash go? <br>

In our national economies there are two main ways the government pushes cash into the economy. We will restrict our consideration to the US since the USD is the world’s reserve currency. The US government, through the US Treasury mints USD cash and Treasury bonds (the four types of US Treasury debt instruments are bonds distinguished by their maturity periods, called T-bonds, T-notes, T-bills, and TIPS). The way the government mints new money is that the central bank (the Fed) signals the Treasury should mint currency by fiat, i.e., whenever they choose.  <br>

Where does the newly minted USD go? How does it enter the economy? <br>
# 	Government spending
#	Paying off the government debt (i.e., paying off government issued bonds)
#	Quantitative Easing (QE) <br>

Government spending tends to increase the energy in the national (and therefore the global) economy. More spending means more consumption means more jobs and more profits. This is the traditional Keynesian mechanism recommended for short-term improvement of a slumping economy. 
===Paying off the government debt rarely improves the economy===
Another recent method is Quantitative Easing. During the 2007 financial crisis QE was introduced in the US, where the government minted money and repurchased some of its debt (government bonds) back as well as some private debt such as Agency Mortgage Backed Securities. This flooded the market with new cash, countering the liquidity crisis. Though this temporarily prevented a more significant economic meltdown, giving the market time to stabilize, and in hindsight may be justified as it prevented some human suffering. This mechanism is a perverse action from a theoretical perspective that should not be part of basic monetary policy. It punishes those who save and rewards those who borrow. By printing more cash with no intent to balance the action in the future, the quantity theory of money There wasn’t a natural demand for more cash, it was the opposite. So QE further depressed the demand for cash in the long run. Though QE temporarily averted a short-term crisis that may have harmed the economy enormously due to loss of faith in the system, loss of energy in the market, and due to basic frictions that give natural inertia to the system it may have been a long time before the economy healed. But the underlying problems were minimally addressed with greater restrictions on banking reserve holdings, which were eliminated in response to the Covid-19 crisis.   <br>

Figure 1: Taken from https://fred.stlouisfed.org/series/TOTRESNS  <br>

We are now heading back to a situation worse than the 2007 crisis if that policy reversal, itself, is not reversed soon. <br>

The healthier way to introduce more cash into the economy is to do so only when there is natural demand for cash, in other words, when the price of cash rises relative to a CPI. 
In 2021, more than $2.10 trillion of U.S. currency was in circulation. Slightly more than half of this cash was in foreign hands, for reasons such as using it as currency reserves, the means of settling ForEx transactions, or to hold value through savings in countries with less stable economies. All this outstanding currency in circulation may be interpreted as US governmental debt, since all that cash can be used to purchase US bonds, which then obligates the US government to pay the owners in cash in the future. However, the $2.10 trillion in circulation can be thought of as merely tokens of account for the economy. As long as the world economy maintains or increases its velocity and inertia, and for other reasons the demand for USD does not decrease, then the outstanding debt represented by the $2.1 trillion in circulating currency will not be called on. Nor is there any interest to be paid on circulating currency. 
 <br>

In fact as long as there is inflation, the outstanding currency in circulation decreases in value and so decreases the government’s debt. However, this $2.10 trillion in debt is relatively insignificant compared with the larger $31 trillion in national debt due to outstanding government bonds that need to be serviced. So from this abstract point of view, the wiser long-term policy is to mint cash as long as there is demand, and use it to pay the debt in bonds instead of any wasteful government spending. But this, of course, should not be done to the detriment of the velocity and inertia of the economy, which is benefitted by some government spending. Diminishing returns should be especially carefully scrutinized. The logic of monetary policy at the national level is necessarily quite twisty, as each policy in a large, complicated system needs to be balanced by a countervailing policy. <br>

Theoretically, the US Fed could direct the Treasury to mint all the cash needed to cancel the US debt tomorrow. This would multiply the amount of cash circulating by a factor of 15, which would lead to wild inflation and collapse in value of all USD, destabilizing the world economy--and much moreso the American economy.  <br>

Instead, the Fed attempts to keep the price of USD relative to a CPI stable by only minting money when there is demand (meaning USD increases in value relative to the CPI) and selling bonds to reduce the circulating cash when there is less demand (when USD decreases in value). However, that protocol is not always followed, since the Fed’s mandate is only secondarily concerned with limiting debt. Instead it is primarily focused on short term goals. Through the Federal Reserve Act, the US Congress mandates that the Federal Reserve conduct monetary policy "so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates"  aiming at 2% inflation. (Though historical inflation has been closer to 4%.) <br>

So how does the Fed stabilize the price of USD with these tools? Well, in addition to minting new currency or issuing new bonds, the Fed has one more long-term blunt tool, using taxes from US citizens. The debt is increased by issuing more bonds and to a slightly lesser degree in the long run by minting new money (which ultimately can also create inflation). By issuing more bonds or printing new money or by using tax money, the Fed can pay off bonds or the interest on its outstanding bonds. If it issues new bonds or simply burns money collected in taxes, the circulating currency is reduced, which increases its demand, which raises the value of USD relative to other currencies or CPIs. If the Fed mints new money (to pay off bonds or spend on government programs or increase the reserve holdings of federal banks) then the circulating currency is increased, which reduces its demand, which lowers the value of USD relative to other currencies or CPIs. <br>

More practically, the Fed doesn’t need to employ any of these direct mechanisms. Usually it just changes the interest rates on the bonds it issues. The entire US financial system relies on the trading of USD and US bonds in order to lend and borrow money in the short and long term. So the second-order action of merely changing interest rates for bonds, increases or decreases demand for currency or bonds. In fact, the Fed usually needs only perform the third-order action of signaling that it will eventually raise or lower interest rates to move the economy. <br>

[???by the way, limiting inflation in this way by borrowing more and more in order to delay the collapse is creepy. It seems to be a shift in money from taxpayers to rich debt holders. The end result is that the debt they hold doesn’t decrease in value due to inflation. But I suppose they also make sure there is continual reinvestment in the economy through loans … therefore business and employment and consumption… ???] <br>

So what does all this mean for cryptocurrencies? Cryptocurrencies are at a disadvantage because there currently is not a large authentic market for these tools. The vast majority of the use of cryptocurrencies is on speculation that Web3 will eventually be valuable. Potatoes are not moving from farm to table because of cryptocurrency-backed business contracts. Until that happens, demand for crypto is almost all hot money. (FN: There is some money that is bootstrapped in as cold money: smart contracts encumber money in certain instruments, cooling it down. As a minor example, as of 2023/4/7 more than $32 billion worth of ETH is staked and locked into Ethereum’s Beacon Chain — around 15% of the ETH’s circulating supply—to run Ethereum’s PoS protocol. The Shapella upgrade releases some of that cold money, making it hot again. We say this is a minor example, because this temporarily locked money represented less than 5% of the small crypto market cap--small relative to the global economy. The traditional economy has a much greater percentage of its money locked in diverse contracts that make the money illiquid, giving it much greater inertia. <br>

However, the relative size of the crypto-economy give cryptocurrencies a temporary advantage in that the currency of exchange (USD) is external to the networks. So it does not need to rely on inertia/cold money to maintain value. A cryptocurrency can host an exchange and trade newly minted crypto for USD. When the demand for crypto is high, the network mints new crypto and builds a reserve of USD. Then when demand is low, the network buys back excess crypto and burns it until the demand is matched to the supply and the price returns to the higher peg. (A more complicated analysis of the reasons for the rate at which the price is affected is required for a sophisticated stable coin. In the current infancy of stable coins, we naively rely on the false assumption that the market immediately perceives and signals the demand. The mechanism that rounds off this imperfection is that the system implicitly pays ForEx traders, who take advantage of [https://en.wikipedia.org/wiki/Arbitrage arbitrage opportunities]. ForEx trading is quite efficient, as a timewise stabilizer, since traders anticipate changes in the market and gamble that their intuitions are correct--so they mostly juggle the profits between themselves.) Both actions make a profit for the cryptocurrency’s managers. <br>

This reserve mechanism is one approach to stabilizing a cryptocurrency. There are 4 primary stabilizing tools available:  <br>
# Reserves
# Bonds
# Excess network transaction fees (beyond the amount required to maintain operations)
# Inflation <br>
The amount of USD needed in reserve to guarantee stability, is determined by the amount of hot money in the system. The amount of hot money should match the reserves, plus the demand for bonds (the faith in the network to eventually pay back bonds), plus the amount of money that can be accumulated by taxing the system with excess fees and inflation, plus the ability of the system to account for black swan events, including Break the Bank attacks.