From gold to government IOUs—the quiet revolution in what money means
By Elias Sanchez
Ask someone what money is, and they’ll likely gesture to the coins in their pocket or the balance on their phone screen. Over a coffee with a fellow economist this week, that assumption was front and centre: one pound is always worth another. It’s a reassuring belief, and it reflects the foundational economic principle of fungibility—the idea that each unit of money is identical in value and function.
Fungibility keeps modern economies running. It allows prices to be set, contracts to be honoured, and savings to be stored. But look a little deeper, and the concept is not as sturdy as it seems.
In classical metallist theory, money emerged not from legislation, but from market practice. Gold and silver became money because they possessed physical characteristics—scarcity, durability, divisibility, and recognisability—that made them naturally exchangeable. Their fungibility was grounded in reality: one could weigh, test, and verify. It wasn’t granted; it was discovered.
Fiat money, by contrast, depends on political authority. It exists because the state declares it legal tender. Whether it takes the form of a polymer note or a bank’s digital ledger, it is treated as equivalent by law, not by nature. And yet, as inflation erodes purchasing power, its elusive equivalence becomes harder to justify. A pound today may not buy what it did yesterday—but it still counts the same on a balance sheet.
This legal fiction becomes problematic in regimes where central banks expand the money supply to fund deficits or stimulate demand. In such cases, money no longer reflects real value—it reflects political expedience. The unit remains “equal,” but what it can command in the market does not.
When money is rooted in decree rather than discovery, its fungibility becomes fragile. It stops being a neutral signal of value and becomes a tool of policy—manipulable, unstable, and ultimately distrusted. And when that trust erodes, so too does the foundation of the economy it underpins.
Classical Fungibility: A Market Property
In classical economic thought, fungibility functions like a mathematical identity: one unit equals another. This symmetry is what makes money a reliable medium of exchange. Though value remains subjective, prices broadly reflect coordinated preferences and production costs over time. These prices, in turn, are shaped by intertemporal preferences for a medium of exchange, which ultimately determine its value in the market—linking present demand for money to the value of goods and services produced.
Austrian economists caution against simplifying this relationship. As Jesús Huerta de Soto reminds us—echoing 17th-century scholastic Juan de Lugo—“only God can know the real value of money.” The value of money is not fixed or knowable in absolute terms; it emerges from countless subjective valuations across time and context.
In his Mengerian view, money is not a consumption good, but a third-order good: an instrument used to facilitate exchanges between higher- and lower-order goods. A baker does not consume money; they use it to acquire inputs—flour, fuel, labour. Its essence is not material but informational. It enables economic calculation by coordinating choices across time, uncertainty, and dispersed knowledge.
This coordinating role weakens when the state redefines money through legal decree. In public finance, money is often mischaracterised—treated either as a first-order good for immediate consumption or a second-order good for investment—reducing it to a mere instrument of spending rather than a measure of value. As one economist remarked on a podcast, referring to Bolivia’s inflation-ridden peso, it becomes “dinero basuriento”—trash money: worthless paper masquerading as capital. The comment reflects Bolivia’s recent monetary reality, where the peso has undergone its steepest devaluation in decades, eroding trust in the currency’s function as a store of value.
From a metallist perspective, money’s value emerges not from coercion, but from voluntary, spontaneous acceptance in the marketplace. Its credibility rests on both physical attributes and institutional frameworks—such as accounting standards—that anchor it to reality. In this tradition, money is not a political artefact but a decentralised market institution. When treated otherwise—shaped by decree rather than discovery—its capacity to signal value and guide action is fatally compromised.
From Market Discovery to Legal Imposition
The transformation of money from a market-based instrument to a state-issued decree has deep historical roots. In 1678, during wartime with France, Britain faced a severe shortage of metallic currency. In response, the Crown formed an alliance with the aristocracy, leading to the creation of the Bank of England. For the first time, fiduciary media—unbacked paper IOUs—were issued on a national scale.
This shift accelerated during the Napoleonic Wars in the early 19th century, as Britain resorted to paper money issuance to finance military campaigns. The result was inflation and monetary instability—early signs of the risks involved in detaching money from a material anchor. What began as a wartime innovation became institutionalised: central banks emerged as permanent “engines of the state,” as Adam Smith described them. As Nuno Palma and Patrick O’Brien argue, these institutions enabled state and imperial expansion, but at the cost of severing money from any objective, scarcity-based standard.
Chartalist economists, and more recently advocates of Modern Monetary Theory (MMT), argue that this detachment is not a flaw but a feature. In their view, money derives its value from the state’s power to tax, not from intrinsic scarcity. Central banks, under this logic, create and manage money through public spending, with reserves, bonds, and currency treated as functionally interchangeable. Fungibility, in this framework, is conferred by legal fiat rather than discovered in the market.
Critics argue that such legally imposed fungibility produces distortions. J.P. Koning warns of “perverse effects” when instruments with fundamentally different economic properties—such as reserves, bonds, and cash—are treated as equivalent. Fiat money, unlike commodity money, lacks inherent scarcity or durability; its equivalence is politically enforced, not economically earned.
Beyond its role as a medium of exchange, David Howden defines money as a sui generis financial asset—uniquely suited to settle obligations instantly and at face value. Its liquidity (“on demand”) and nominal stability (“at par”) are essential for enabling intertemporal economic coordination. As he notes, “One dollar of money will always settle an obligation of one dollar,” highlighting money’s fungibility and dependability—even in fiat regimes.
Crucially, money extinguishes debt; credit, by contrast, is a forward-looking claim subject to maturity, default risk, and price fluctuation. From an Austrian perspective, only assets redeemable on demand and accepted at par qualify as true money. Instruments such as promissory notes or government bonds, while liquid, are not money—they are credit.
While fiat currencies operate within credit-based systems, their monetary legitimacy depends on function, not form. Historically, gold—and today, arguably the U.S. dollar—have fulfilled this role. Whether decentralised financial instruments like cryptocurrencies can meet these criteria remains an open and pressing question for monetary theory.
From the Austrian viewpoint, however, metallic currencies such as gold have demonstrably met these standards due to their natural fungibility, scarcity, and market-based origin.
Inflation and the Breakdown of Equivalence
Inflation undermines fungibility not by changing the monetary unit itself, but by degrading its real value over time. While moderate price changes driven by innovation or productivity gains reflect healthy growth, price changes caused by monetary expansion distort economic coordination.
Central banks manage money supply not through market signals, but through models and discretionary policy. As Huerta de Soto and other Austrian economists argue, this disrupts intertemporal coordination. The interest rate—what Austrians call the natural rate—is meant to reflect genuine time preferences between saving and investment. When manipulated to serve fiscal or political objectives, it sends misleading signals.
Austrian Business Cycle Theory (ABCT) outlines the result: credit expansion under fractional-reserve banking pushes interest rates below (or occasionally above) their natural level, as outlined in my last article.
Legal fungibility masks these distortions. Two pounds may be equal by law, but not in value. Over time, inflation exposes this illusion, and the state’s effort to enforce equivalence collapses under the pressure of market correction.
The Central Bank’s Role
Modern monetary policy rests on the belief that central banks can fine-tune the economy by adjusting the money supply. As Argentine economist Alberto Benegas Lynch observes, central banks face three options: expand, contract, or maintain. Yet each option distorts relative prices—none achieves true neutrality.
In practice, contraction is rare, especially when governments rely on deficit spending. As public debt grows, central banks become fiscal enablers. The Financial Times has highlighted the West’s growing addiction to borrowing, while The Economist warned that “bit by bit, the world economy’s resilience is being worn away.” Rather than enforcing discipline, central banks prop up demand by purchasing government bonds and maintaining liquidity—even at the cost of monetary integrity.
This creates a regime where fungibility is not organic but engineered. The perceived equivalence between cash, reserves, and sovereign debt depends on institutional backing, not market fundamentals. When confidence falters—during inflationary shocks or financial crises—the system’s artificial stability unravels. What appears as seamless monetary coordination is, in reality, a fragile structure vulnerable to political pressures and cyclical dislocations. It is precisely in such moments that the illusion of fungibility gives way to the underlying instability of the modern monetary order.
Institutional Consequences and Systemic Fragility
The institutional implications of fiat money are profound and multifaceted. First, it fosters fiscal irresponsibility by enabling governments to treat money as a first-order good—an immediate consumable rather than a medium requiring preservation and prudent management. Second, fiat money undermines intertemporal economic coordination by reframing money as a second-order good, a resource to be deployed in large-scale investment projects, yet increasingly decoupled from genuine market signals. This monetary framework legitimises the rise of what Jesús Huerta de Soto terms “political entrepreneurs”—state actors who attempt to allocate capital through centralised planning. Such interventions, he argues, are analogous to forcing a square peg into a round hole: they disregard the dispersed knowledge embedded in market processes and invariably lead to systemic misallocation.
Most critically, fiat money embeds systemic dependence on central banks. Each round of stimulus or liquidity provision fosters new expectations, eroding the credibility of future restraint. From the Great Depression to Bretton Woods, the Nixon shock of 1971, the 2008 financial crisis, and beyond, each cycle has deepened the interventionist character of monetary regimes.
What emerges is a self-reinforcing loop: the state creates money to finance itself; central banks validate this issuance through interest rate manipulation and asset purchases; financial institutions transmit the funds throughout the economy. The illusion of fungibility is preserved—until confidence cracks, revealing the fragility at the heart of modern monetary systems.
Conclusion: A Fiction with Real Consequences
I sat down, coffee cup in hand, and began sharing my perspective on monetary theory. The economist I was speaking with—someone I deeply respected—listened attentively. After our exchange, he asked thoughtful questions, genuinely curious about how these ideas might apply to Bolivia’s deepening crisis. “The loop repeats,” I said. “The problem is the state—and its central bank.” He acknowledged the internal logic of the argument but insisted that central banks can be independent, pointing to Peru and Chile as a model. I replied, with some resignation: “This is Bolivia. Nothing is independent here.”
Fungibility, in the fiat regime, is ultimately a legal fiction. It functions smoothly in everyday transactions and digital balances, but the long-term consequences are profound: inflation, asset bubbles, fiscal dependency, and the erosion of purchasing power all stem from this artificially enforced equivalence.
Austrian economists remind us that money is not just a tool of the state, but an institution shaped by individual expectations and voluntary exchange. When those expectations are manipulated by legal decree rather than market interaction, monetary integrity erodes.
Perhaps money isn’t so fungible after all—not in any meaningful economic sense. The belief that it is, propped up by legal decree and central planning, may be one of the most costly illusions afflicting both the Global North and South. If this analysis holds, the path forward lies not in further monetary engineering, but in a return to sound, market-based money—anchored once again in metal currency. How such a transition might occur, however, remains a matter for serious and ongoing debate.
Elias Moises Sánchez Flores is a political economist and Master’s student in Global Political Economy at the University of Leeds. His research centres on Austrian Economics, monetary institutions, and the structural roots of inflation and neo-extractivism in Latin America. He writes critically on state intervention, fiscal imbalances, and the limits of rentier-led development, drawing on the theoretical foundations of Mises, Hayek, and Huerta de Soto.
