Friday, January 4, 2013

Yap stones and the myth of fiat money

At first glance, the large circular discs that circulated on the island of Yap in the South Pacific certainly seem quite odd. Too big to be easily transported, the stones are often seen in photos resting against their owner's houses. So much for velocity. Yap stones have been considered significant enough that they have become a recurring motif in monetary economics. Macroeconomics textbooks, including Baumol & Blinder, Miles & Scott (pdf), Stonecash/Gans/King/Mankiw, Williamson, and Taylor all have stories about Yap stone money.

Why this fascination? Part of it is probably due to the profession's obsession with the categorical divide between "money" and "non-money". In dividing the universe of goods into these two bins, only a few select goods end up in the money bin. That an object so odd and unwieldy as a three meter wide stone could join slim US dollar bills and easily portable silver coins in the category of money is pleasantly counterintuitive   and economists love the counterintuitive. I'll talk about this divide and on which side to place Yap stones later (see part 3 below).

Another reason that Yap stones attract attention is their seeming "fiat" nature. In serving no useful purpose other than money, Yap stones seem to be historic ancestors to our modern "fiat" central bank money. I'll be discussing this idea in the current post.

The discussion on Yap stones will be split into three parts:

1. Yap stones and the myth of fiat money
2. Yap stones and chartalism
3. Yap stones and moneyness

I recently finished reading The Stone Money of Yap: A Numismatic Survey (pdf) by Cora Lee Gillilland (1975), which provides a historical summarization of all appearances of Yap stone money in the accounts of travelers, administrators, and anthropologists over the centuries. Having little to do over Christmas, I also picked up The island of stone money: Uap of the Carolines (1910) by W.H. Furness. Furness spent a year living on Yap and recorded his observations.

Here are some interesting facts gleaned from Gillilland and Furness which will be useful for all three parts:

1. Yap is an Island in the South Pacific. Denizens of Yap, the Yapese, valued circular stones called rai, or fei. A certain type of mineral called aragonite was prized by the Yapese in making rai. Aragonite, a white limestone that glistens, was only found on the island of Palau some 250 miles away, necessitating a long and arduous journey by canoe with a heavy rock in tow (see map below). The stones were quarried in the mountains of Palau and shaped into discs with holes in the centre. The holes allowed the stones to be carried on long poles, facilitating transportation. The poles can be seen in the photo above.

2. One of the earliest European accounts of these stones (in Gillilland) refers to a trader named Andrew Cheyne, who in 1843 wrote this about his arrival at Yap from Palau with a delegation of Palua traders.
At 9 A.M., the premier and chiefs of Tomal [Yap] came on board to receive their present, sent by Abba Thule [one of the chiefs of Palau], for their king, which consisted of nothing more or less than a round stone, with a hole in the centre, similar to a small upper millstone. These stones are very rare, and consequently highly prized, being only found in the mountains of the Pallou Islands. 
This particular stone was sent to the king of Yap to secure permission for Palau traders to barter with the Yapese for bêche-de-mer, otherwise known as sea cucumber.

3. We know from Gillilland that Yap exchanged not only bêche-de-mer with Palau traders, but also turmeric root. Nor was this the only exchange good. Accounts in the late 1800s describe Yapese traders traveling to Palau and exchanging their labour for the right to quarry stones. They gathered firewood for the Palau, carried, water, and according to one account, constructed the paved streets of the island of Koror in Palau.

4. Early rai were small, usually no more than eight hand spans across according to Gillilland. They were also rare. The difficulty of transporting stones by raft from distant Palau was certainly a limiting factor. The appearance of European traders allowed the Yapese to transport larger stones back from Palau and in greater quantities. There are accounts of stones weighing a ton and spanning over three metres in diameter. The stereotypical Yap stone we are accustomed to seeing in photos like the above are probably post-European stones. Cheyne described the stones as "very rare" in the 1840s, but they numbered 13,281 in 1929 according to a Japanese survey.

5. Other forms of "money" were used on Yap, including pearl shells (yar), pearl shell bead necklaces (gau), ceremonial pestles (ma), and woven mats (mbul).

6. David Sean O'Keefe, an Irish American adventure, cornered the market in Yap stone transportation from 1872 to 1901. The Yapese were allowed to transport the stones they'd mined on Palau on O'Keefe's schooner. Upon arrival at Yap, they were required to pay O'Keepe in copra to have the stones released. Copra is the dried meat of coconuts, and it was useful in lamp oil. Because most Yapese didn't have a copra supply, they could also pay by working on O'Keefe's coconut plantations.

7. Rai had exchange value on Yap. Furness reports that a rai spanning a length of three hands and
of good whiteness and shape ought to purchase fifty 'baskets'; of food - a basket is about eighteen inches long and ten inches deep, and the food is taro roots, husked coconuts, yams, and bananas;- or, it is worth an eighty or a hundred pound pig, or a thousand coconuts, or a pearl shell measuring the length of the hand plus the width of three fingers up the wrist. I exchanged a small short handled axe for a good white rai, fifty centimeters in diameter. For another rai, a little larger, I gave a fifty pound bag of rise... I was told that a well-finished rai, about four feet in diameter, is the price usually paid either to the parents or to the headman of the village as a compensation of the theft of a mispil [a woman].
Gillilland lists rai as capable of purchasing fishing equipment, canoes, and housing materials. There is record of a dance group being paid in rai for their performance. War indemnities and funeral expenses of chiefs were paid in rai, as was the assistance in war of a neutral tribe. Normally a family was self-sufficient in food, but when necessary rai could be used to purchase fish, yams, or taro.

8. Rai needn't be exchanged directly, especially the larger variety. Rather, Yapese were often content to transfer mental ownership of a Yap stone, leaving the stone sitting in place. Wrote Furness:
it is not necessary for its owner to reduce it to possession. After concluding a bargain which involves the price of a rai too large to be conveniently moved, its new owner is quite content to accept the bare acknowledgment of ownership and without so much as a mark to indicate the exchange, the coin remains undisturbed on the former owner's premises.
9. An extreme example of this is provided by Furness. According to local legend, two or three generations before Furness's arrival a large stone in transit was lost at sea during a storm. The claim to this stone continued to have value, even though the stone itself was unrecoverable.

10. According to Furness, the Germans bought control of Yap from the Spanish in 1899. In order to motivate Yapese to work on improving the island's road system, the Germans marked a certain number of rai with black crosses, indicating that the government now claimed these stones. To regain control of their rai, people had to labour on the road system. It was in this way that Yap got its first roads. Gillilland confirms this account, noting only that the intials B.A. (Berzirks-Amt or District Office) was painted on the stones, not a cross.

There are many more facts and anecdotes worth reading about in Gillilland and Furness, as well as this shorter article from the Smithsonian. I'm going to turn away from the anthropological evidence and investigate how economists have used Yap money in their theorizing.

Yap stones used by economists as examples of fiat money

One of the earliest expositions of Yap stones is in Volume II of J.M. Keynes's Treatise on Money (1930). When he mentions the stones, Keynes is in the process of writing about the emergence of "representative" money from commodity money. According to Keynes, a representative money can be either fiat or "managed". Representative money has "relatively little or no intrinsic value apart from the law or practice of the State." As gold had ceased to be used privately in the west, it was increasingly concentrated in the vaults of central banks. Keynes noted that even central banks had ceased transferring gold to each other's vaults, preferring instead to have their gold "ear-marked" have its ownership changed without changing location. In this context, Keynes mused that money was on the verge of becoming fiat, which he felt was comparable to the status of Yap stones:
The earliest example of "ear-marking" is in the case of the stone money of Rossel Island, which, being too heavy to move without difficulty, could be conveniently dealt with in no other way. One of the largest and most valuable of these stones lay at the bottom of the sea, the boat which was importing it having capsized. But there being no doubt that the stone was there, these civilized islands saw no objection to including it as part of their stock of currency—its lawful owner at any time being, in fact, thereby established as the richest man in the island—or to changing its ownership by "ear-marking". (Pg 292, Vol II)
Note that Keynes's facts are wrong, since it was Yap Island, and not Rossel Island, thousands of miles to the southeast of Yap, that used stone money.

In an article called Money for the New Palgrave, James Tobin also provides an account of Yap Stones, closely mirroring Keynes by comparing the stones to gold:
On the island of Yap debts were settled by changing the ownership of large immovable stone wheels. The practice continued after the sea flooded their site and the stones were invisible at the bottom of a lagoon. (Similarly when gold was international money in the twentieth century title to it often changed while the gold itself, safe in underground vaults, never moved.) (Pg 3)
Tobin either makes an error or an embellishment, since neither Furness nor Gillilland mention the sea flooding the site where stones were held, only that one stone was lost at sea during a storm.

Milton Friedman also jumped into the Yap stone fray in the first two chapters of his book Money Mischief. Like Keynes and Tobin, Friedman compares the earmarking of gold among central banks to the use of transferable claim on the famous submerged Yap stone. In the second chapter of the same book, Friedman goes on to question whether the stones had any nonmonetary value whatsoever:
When most money consisted of silver or gold or some other item that had a nonmonetary use, or of an enforceable promise to pay a specified amount of such an item, the "metallist" fallacy arose that "it is logically essential for money to consist of, or be 'covered' by, some commodity so that the logical source of the exchange value or purchasing power of money is the exchange value or purchasing power of that commodity, considered independently of its monetary role" (Schumpeter 1954, p. 288). The examples of the stone money of Yap, of cigarettes in Germany after World War II, and of paper money currently make clear that this "metallist" view is a fallacy. The usefulness of items for consumption or other nonmonetary purposes may have played a role in their acquiring the status of money (though the example of the stone money of Yap indicates that this has not always been the case). [My emphasis]
Greg Mankiw invokes Keynes's line between commodity and representative money when he writes in his textbook Macroeconomics that "Yap, a small island in the Pacific, once had a type of money that was something between commodity and fiat money."  Yap therefore illustrated an economy with circulating paper redeemable in a commodity on the threshold of becoming an economy in which the circulating paper's claim to the original commodity has been lost. Mankiw also repeats the famous story of the lost Yap stone:
Eventually, it became common practice for the new owner of the fei not to bother to take physical possession of the stone. Instead, the new owner accepted a claim to the fei without moving it. In future bargains, he traded this claim for goods that he wanted. Having physical possession of the stone became less important than having legal claim to it. This practice was put to a test when a valuable stone was lost at sea during a storm. Because the owner lost his money by accident rather than through negligence, everyone agreed that his claim to the fei remained valid. Even generations later, when no one alive had ever seen this stone, the claim to this fei was still valued in exchange.
Gary Smith's textbook Money and Banking (1984) goes even further than Mankiw in attributing to Yap stones not merely intermediate status between fiat and commodity money, but status as a purely fiat money:
The stone money of Yap is superficially a commodity money. And yet is has no real value as a commodity. A Yap stone is eagerly accepted in exchange for useful goods and services solely because its recipients are confident that they will also be able to exchange the stone for goods and services. Its acceptance as a medium of exchange rests on simple faith, nothing more. This is an example of fiat money, something that has little value as a commodity but, because of law or tradition, is accepted as a medium of exchange.
We see modern use of the motif in Willem Buiter in Helicopter Money (2004, pdf). Like Smith, Buiter doesn't bother with the idea that Yap money might be somewhat intermediate between commodity and fiat money:
Some commodity monies have intrinsic, that is, non-monetary, value as a consumption, intermediate or capital good. Gold, salt, cattle and cigarettes are historical examples. I do not consider this kind of intrinsically valuable strong outside money. There is, however, a partial resemblance between the government-issued fiat base money considered in this paper and commodity money that does not have any intrinsic value. Pet rocks, the candy wrappers that are part of many first expositions of Samuelson’s pure consumption loans model (Samuelson (1958)), or the stone money used on the Micronesian island state of Yap are examples.
On the blogosphere, Nick Rowe had this to say about Yap stones a few years ago:
My point is that both Yap stones and cowrie shells (the Yap stones especially) look totally useless except as money. Even if they did have some value apart from their use as money, that "industrial value" would be a small proportion of their value as money.
So as you can see, there is a long line of economists who have attributed a pure fiat nature to Yap stones.

Yap stones not fiat - Dror Goldberg's response

Dror Goldberg penned an interesting paper in 2005 called Famous Myths of Fiat Money. I'm in debt to him for providing some clues to the whereabouts of the above references to Yap stones.

Goldberg defines fiat money as an object that has no intrinsic value and is not convertible into anything. It is neither legal tender, not is its use forced on anyone. Insofar as money can be thought of as having a kernel of fundamental value plus some extra marginal use as a medium of exchange, a fiat money is something without any fundamental value whatsoever. It is a purely speculative object valued only for its exchangeability.

Goldberg points out that most monetary economists believe that their concept of fiat money is not merely fictional but exists in reality. One justification for their belief is the supposed existence of fiat monies in primitive societies. However, in investigating the phenomenon of Yap stones, Goldberg finds that scholars have ignored laws, customs, and religion in according to rai the label "fiat". To begin with, the stones were valued for their aesthetic value:
For Pacific islanders who knew no metals or precious stones, it was reasonable to attach high value to semi-precious stones. Another proof for the high esthetic value is that the largest stones were “entirely beyond price” (Einzig 1966, p.40). Small specimens may have been used in jewelry, but the stones became more popular as big statues in the shape of a full moon (Gillilland 1975, pp.19-20). In fact, these stones were Yap’s version of gold. Just as gold could barely be used for any practical purpose (it is too soft), and one of the few things one could do with it was sit on a throne made of it, the Yap stones were also used as thrones (Gillilland 1975, p.3)
Goldberg also points out that Yap stones had religious value:
One local legend says that the bodies of the islanders’ ancestors, which were half-human and half-divine, have become the oldest stones (Gillilland 1975, p.19). Another legend says that the Fairy Godmother of Yap chose which stones would become money, and the stones’ shape was also approved by her (Christian 1899, p.300). Regardless of the latter legend, it is known that the full moon shape had a religious significance.
Thus to ascribe to Yap stones intrinsic uselessness is to ignore the very real value ascribed to them by the Yapese . While from the perspective of outsiders these stones may seem useless, within the context of the society in which they are used they have a very particular meaning and history.

As for the famous story of the lost stone that Keynes and Mankiw invoke in favor of fiat money, Goldberg points out that the stone in question remained in the possession of an ancestor of the family that had first brought it over from Palau. Thus Keynes, Tobin, and Mankiw are wrong to assume the claim to the lost stone continued to have exchange value, for there is no evidence that it was ever traded outside of the family who originally lost the stone. If the claim had been marked-to-market, would its so-called value have survived? We simply don't know. I suppose a graduate student could fly to Yap and try to locate the claim to the famous missing stone — after all, it should still be valuable if Keynes/Mankiw/Tobin are right. But until then, the story remains dubious.

This leads into the final question in this post.

So why is the existence of theoretical and/or actual fiat money so important to economists?

I suspect the answer to this is because fiat money makes theorizing easier. Goldberg, for instance, points out that the fiat money concept is "useful". He invokes Wallace and Zhu (2004), a quote worth providing in full:
The conception of money as fiat money, an intrinsically useless object, has been used in models for a long time. It was used in the classical-dichotomy model, even though that model was developed and used at a time when actual money was gold or silver. Ignoring the commodity aspect of money was convenient because it produced a simple and strong prediction: allocations are independent of the amount of money.
In other words, in assuming the existence of a fiat money, the analyst can neutralize the monetary sector and work purely with a real economy. This removes a number of thorny issues.

The great economist Alfred Marshall, for instance, noted in his example of an economy that used "shells of some certain extinct fish" as currency, that the simultaneous demand for those shells as useful ornaments would break the proportional relationship between the quantity of the shells and their value. This was the famous quantity theory of money. If it was the case that shells were desired as ornamentation, then an increase in demand for shells as ornaments would have monetary effects while an increase in demand for shells as money would have non-monetary effects. Gone is the useful dichotomy between the real and monetary economies.

Another reason that the myth continues to be sustained is the idea that fiat money saves resources. One of the oldest expressions of this idea comes from David Ricardo in The Principles of Political Economy and Taxation:
A currency is in its most perfect state when it consists wholly of paper money, but of paper money of an equal value with the gold which it professes to represent. The use of paper instead of gold substitutes the cheapest in place of the most expensive medium, and enables the country, without loss to any individual, to exchange all the gold which it before used for this purpose for raw materials, utensils, and food; by the use of which both its wealth and its enjoyments are increased.
This idea rings true in modern general equilibrium economics. Ostroy and Starr (1988) note that in a sequence economy (one which opens and closes, rather than an all-at-one-point-in-time Arrow Debreu economy)
goods are desired as objects of consumption and as carriers of value between trading opportunities. The second demand may interfere with the first. When it does so, the introduction of a fiduciary or fiat money with negligible transactions and storage costs can change the equilibrium allocation to one that is Pareto efficient... Since the opportunity cost of holding real goods in inventory will generally be non-negligible, there is an efficiency gain through the use of fiduciary (bank) or fiat money in place of commodity money. 
In other words, since intrinsically useful goods serving as money also have consumption value, the opportunity cost of using said goods as money is the lost consumption. Replacing these commodity monies with a non-real money good, something inherently valueless like a fiat token, will return a commodity money’s “lost consumption” to the economy, while ensuring that something still exists to perform the function of money. Fiat money is the most efficient solution. Given that in theory fiat money is the theoretically ideal money, it is no doubt tempting to assume the actual existence of such an object, even when the evidence is lacking. Otherwise we would be living in a world with a massive market failure.

Lastly, in observing the rise of central bank money, monetary economists going back to the days of David Ricardo have felt it their duty to create theories of fiat money. But central bank money is not necessarily fiat money. If there is no actual fiat money in the real world, why have economists spent so much time modeling a world as if it contained such an item? There needs to be fiat money to justify the effort.


  1. I'm glad to see you on the skeptical side about the existence of fiat money. It's amazing how easily economists accept the simple non-sequitur that "inconvertible"="unbacked".

    PS: Fiat money is not the only 'ideal' money. For example, if a bank issued currency units that were each a claim to a square foot of farm land, then society can have its money, while still growing crops on the land.

    PPS: I notice that John Quiggin's blog says that macroeconomics all went wrong in 1958, with the Phillips curve. Nope; it went wrong in 1810, when David Ricardo cemented the concept of unbacked fiat money (and the quanity theory) in the minds of economists.

    1. "Fiat money is not the only 'ideal' money. For example, if a bank issued currency units that were each a claim to a square foot of farm land, then society can have its money, while still growing crops on the land."

      I think fiat money is more 'ideal' in the sense that a landowner's ability to choose how to use land that is simultaneously being used to collateralize bank-issued currency is always constrained to some degree. Covenants and indentures impose such restrictions on debtors, for instance. If we have fiat money, than nothing need be held as collateral. This opens up a range of choices about what to do with assets formerly held as backing. In a GE world, any constraint on choice can lead to inefficient allocations.

  2. "Goldberg defines fiat money as an object that has no intrinsic value and is not convertible into anything."

    That's ambiguous. It's critical to distinguish between not convertible for an indefinite period of time, and permanently not convertible.

    Central bank money is of the first type. The value rests on the ability of the CBs to offer convertibility, not actual or anticipated convertibility. In other words, the CB considers money to be its debt and holds assets sufficient to redeem it. The value doesn't depend on medium of exchange demand, or on a coerced demand, or on legal status. All those things are irrelevant distractions.

    Bitcoins are of the second type. Bitcoins are permanently non convertible; they aren't anyone's debt.

    1. There's also the question of whether the bank will buy back its money with its gold, with its bonds, or by selling its used furniture. The dollar is currently not gold-convertible, but it is bond-convertible.

    2. Goldberg would probably define fiat money as being permanently inconvertible.

      I agree that central bank money is a version of the first type.

      I disagree that medium-of-exchange demand, ie liquidity, or legal tender are distractions. The ability to easily spend away one's credit and have that credit continue to widely circulate is a valuable asset. Legal tender is a government granted monopoly, a franchise, so to say, and is also a valuable asset. Destruction of either of these amounts to a destruction of assets, thereby reducing the ability of a central bank to redeem its liabilities.

  3. The in depth analysis of the Yap money was very interesting, however I have problems with the theoretical classification.

    The concept of "intrinsic value" has no place in the Austrian school, for example. Mises defines fiat money as money with a special legal status. Detlev Schlichter uses elasticity of supply to distinguish between fiat and commodity money. George Selgin sort of mixed those two together and defined quasi-commodity money as money with inelastic supply but no non-monetary uses.

    The concept of "no intrinsic value" is flawed even if you disregard the subjectivist Austrian approach, because different potential monies differ in their transaction costs and "softer" factors influencing transaction costs (e.g. resistance against manipulation by the state and banks), prominent example being Bitcoin. To invoke the "no intrinsic value" is to succumb to the fallacy that market actors are indifferent to various potential monies. Even some Austrians do not apply this consistently. Niels van der Linden (aka Nielsio), for example, argued that fiat money has value because you can use it to pay taxes while you can't pay taxes with Bitcoin. I retorted that then Bitcoin has value because you can use it to avoid paying taxes.

    I would present another alternative way of distinguishing between fiat and commodity money: how they gain liquidity. Commodity money gains liquidity through voluntary trade, while fiat money gains liquidity through Gresham's Law (price fixing by the state).

    1. Intrinsic is just a way of saying that something has non-monetary value. No intrinsic value is to say that something has only monetary value.

      Monetary economics isn't exactly economics, its more like economics twinned with psychology or sociology. In most cases economists aren't interested in the content of people's preferences. In the case of money, we are interested in the "why" of preferences. Thus the three motives for holding money: store of value, medium of exchange, unit of account... thus the difference between intrinsic value and intrinsically valueless.

    2. The distinction cannot hold up to praxeology. Fiat money, for example, can have numismatic value. That makes them into a consumer good. And if you add the category of immaterial goods, all hell breaks loose. Your own article about fiat money reference fiat money, and thus by definition is an example of a non-monetary use. Even if someone complains that Bitcoin has no non-monetary value, the very act of complaining refutes it, as they used Bitcoin in a debate (performative contradiction).

      The arguments of Menger about the specific reasons why people prefer one good over the other as a medium of exchange make much more sense to me.

    3. C'mon Peter. Just because I use something in a sentence doesn't mean I am demanding that thing.

    4. Immaterial goods behave counterintuitively.

  4. Replies
    1. Thanks Nick. I had a quiet Christmas in a small town with little to do but read about Yap stones.

  5. Nick Szabo, creator of BitGold, also made the bitcoin connection to Yap stones:

  6. "Berzirks-Amt" is not a german word.
    "Bezirks Amt" is the right one.

  7. I've been to Palau and seen the discarded (broken) Yap money stones. Very interesting.

  8. You might be interested in this:

    Apologies, I don't think I'd seen this blog post when I wrote it, or I likely would have referenced it.