Design and Strategy Principles for Local Currency

Posted on Jan 6, 2012
Design and Strategy Principles for Local Currency

Our society is fraught with a contradiction: on the one hand, we have vast needs that go unmet; on the other hand, we have vast amounts of labor, wasted resources, and productive capacity that could in principle meet those needs. Money is supposed to bring them together, but it is failing to do so. We can see a local complementary currency as a way to bridge the gap.

Unfortunately, with the notable exception of time banks, the practical results of local currency initiatives in the United States have been disappointing. A common pattern is that the currency is launched with much enthusiasm and continues to circulate as long as the founders promote it. But eventually they get burned out, the novelty factor wears off, and people stop using it. According to one study, as of 2005 some 80 percent of all local currencies launched since 1991 were defunct. Another common pattern is that local money accumulates in the hands of a few idealistic local retailers that are willing to accept it and who cannot find ways to spend it. Finally, even the most well-established currencies such as Ithica Hours and BerkShares account for a tiny proportion of economic activity in their regions.

While I haven’t identified one single culprit for the disappointing results of local currencies, I have noticed a number of contributing factors. One is that most local currencies are in effect US dollar proxy currencies. With BerkShares, for example, people buy the currency at 95 US cents to one BerkShare and spend it at a local merchant, who then exchanges it back for US dollars at the same ratio. Essentially, the system amounts to a general 5% coupon for local stores, almost a sales promotion. It doesn’t increase the money supply or put money in the hands of people who are left out. The BerkShares are backed fully by US dollars, and derive their value from their association with the dollar.

A second problem with all local currencies that I know of in North America is that they do not have the recognition or support of local government. Historically, it is rare for money to circulate widely if it cannot be used for the payment of taxes or other government services, or absent that, it must at least have the backing of a dominant economic entity (such as the coal mine that issued Germany’s wara). On the other hand, currencies that do have local government support, such as those issued by Argentinean provinces in 2001-2, are quickly accepted as a medium of exchange.

This is a problem in the U.S., because local and state governments do not have the constitutional authority to issue currency, nor are they likely to be bold enough to dabble in something as radical as alternative money even if this legal hurdle can be overcome.

These and other considerations lead me to propose an alternative model for local currency. Its design features include: a) Unlike US$ proxy currencies, it actually increases the local money supply; b) Its value is based on local production and can float in relation to the US dollar; c) It is issued in a way that gives access to people who are partially shut out of the dollar economy; d) It presents legal opportunities to bring in local government participation; e) It offers ways to circulate goods and services that are unsellable (for US dollars) and employ people who are otherwise unemployable (for US dollars); f)  It is framed in a way to be non-threatening to civic and financial powers-that-be.

Currency Issue and Mechanics

The basic principle is to back the currency with local goods and services. It originates with an issuing entity, which could be a non-profit organization, a community association, or (in a different legal context) a local government. For convenience (and humor’s) sake, let’s call the currency the loca. The issuer can create it in two ways: it can lend it into existence, or it can spend it into existence. The first corresponds to how central banks create money; the second to how governments create money.

To spend money into existence, the issuer simply buys coupons or gift certificates for local goods and services from a local merchant. For example, the issuer might approach a barbershop and buy 50 free haircut certificates for a total of 1,000 locas. This is the moment that money comes into existence. It is created electronical or as paper notes, and backed by the haircut certificates, which simply go into the issuer’s vault. Now the barber has 1,000 locas that he would like to spend. Meanwhile, the issuer has also bought certificates for ten bushels of apples from a local farmer (perhaps specifying October redeemability) for 600 locas, certificates of ten hours of plumbing service for 500 locas, and so on, ensuring that each issue corresponds to goods or services of rough equivalency. (In the above example, each loca is used to buy one dollar’s worth of goods, but this will change over time.)

The backing of the currency consists of these certificates. Anyone can redeem their locas for any of them at any time, giving users an assurance of the currency’s value. However, because it is this perception of value that makes something into money, in practice few of the certificates would actually be redeemed for loca. Just knowing you could redeem them is enough to make the currency valuable, to induce merchants to accept them as payment for goods and services. And the more widely accepted the currency is, the more compelling is the perception of value. The backing just gives this process a little boost. Merchants can accept locas in full confidence that even if they can’t use them to meet payroll, pay utilities, or hire contractors, that they are still redeemable for something of value. But because other people are subject to the same encouragement, they will be able to use locas to meet a portion of their concrete business expenses.

Once a merchant has been bought into the system, she will have another incentive to accept locas as payment: if she does not, people with locas who want those services can redeem them for the backing certificates and get the haircuts, or whatever it is, for “free”. Rather than have to redeem free haircut coupons that it cannot use as money, the barbershop would much rather receive locas that it can use as money. By the same token, the barber will want to sell haircuts for no more than 20 locas, otherwise, people would want to use the coupons instead. In practice, therefore, most of the certificates will never be redeemed unless for some reason the barber wants to exit the system, in which case she will likely end up having to make good on the 50 haircuts. The initial currency issue, then, operates as a zero-interest loan that need only be repaid if someone exits the system.

By backing the currency with the promise of future goods and services, the money supply (of dollars plus locas) can increase without the danger of increasing the money supply beyond the real economic base.

Backing with local goods and services rather than US dollars creates price stability. If the dollar experiences inflation and the dollar price of a haircut rises from $20 to $40, and the price of a bushel of apples rises from $60 to $120, their price in locas remains the same, because the currency is backed by these items and not by dollars. In this scenario, the exchange rate would rise to two dollars to the loca.

Over time, the relative value of the backing goods and services might change. The system allows for this in an elegant ways, which I will describe in another paper.

The issuer can also lend locas into existence by extending loans to institutional startups that are not secured by a pledge of goods and services – an after-school community center in a low-income neighborhood, for example. The organization or business could repay the loan by accepting locas for its services. Alternatively, the loan could take the form described above: the issuer could simply buy coupons for services to be rendered after such-and-such a date. As you can see, the boundary between a loan, a grant, and a claim on future goods or services is blurry.

Involving Local Government

Municipal governments can enjoy the benefits of this sort of currency without having to issue it themselves. The issuer could issue locas to the city government for public transport tokens, tax vouchers, parking vouchers, or various services provided by the city. Of course, it is unlikely that a city government in America will accept local currency for payment of taxes any time soon, but any endorsement at all from local government vastly enhances the perception of value that makes money money.

What would government spend the locas on? Well, today cities everywhere are cutting back on basic services because there is no money to pay for them. Parks, libraries, police and fire forces are being cut back. Some of these might be replaced by grass-roots managed institutions as part of an alternative economy. They could go to: a) Volunteers staffing semi-official “people’s libraries;”
b) Safety patrols composed of retired police officers, ex-gang members, and mediation specialists who act as a complementary police force in areas where cutbacks have left residents with insufficient police protection (or where the residents don’t trust police to begin with; c) Renovation of derelict properties; d) Volunteer-run day camps, big brother/big sister programs, and tutoring programs; e) Park maintenance and patrol volunteers; f) Homeless shelter and soup kitchen volunteers.

Initially at least, in most cases the locas would be given not in lieu of salaries, but as tokens of appreciation for volunteers, a way to get them involved in the local economy and meet some of their needs even if they lack the professional skills or opportunities to find paid work. It provides a way for city government to get things done in an era of vanishing budgets and to strengthen the fabric of civic society. It would also reinforce a positive image of locas – everyone would know that many of them come from people being of service to society.

Occupation for the Unemployable, Utilization of the Unsellable

Many of the above municipal government uses of locas do more than convert existing dollar transactions into a reliable local currency. That is a worthwhile goal in itself, but the system I describe also has the potential to deploy economic resources – labor, land, materials, and so forth – that would otherwise be idle.

Any idle resource is an opportunity to give value and utility to the loca currency. For example, vast amounts of food in our society go to waste (even as millions go hungry) because it is unsellable and lacks non-monetary avenues of distribution. Such food items include “seconds” from the farm, unsold supermarket food that goes into dumpsters or trash compactors, unsold restaurant food, and so on. Unsellable in ordinary markets, it still has value. A market could be arranged to make it available for locas, further contributing to the currency’s utility.

Another example of an idle resource is real estate. Most cities have thousands, even tens of thousands, of abandoned buildings and vacant lots. Unsellable for dollars, they could be incorporated in a local currency in various ways: sold by the city for locas, renovated through combined dollar/loca loans, used as shelters or halfway houses, rented out for locas, etc. Properties that would otherwise be uneconomic to renovate might be economic if part of the renovation cost could be replaced by loca-compensated labor and materials, the locas lent into existence backed by future rental vouchers.

How to Spin It

The considerations outlined herein distinguish the loca from normal currency and allow a narrative in which it does not compete with US dollars. I have called it a currency, but for political purposes it should probably be called something else: “community coupons” or “civic coupons”. The story line should be something like, “The loca civic coupon circulates as a token of appreciation to reward contributions to the community, to foster urban renewal, and to build loyalty to local businesses.” In presenting it to local authorities, there is no need to point out that it is actually a form of money. Rather than fearing the opposition of existing economic powers, we could aspire to their support, appealing on non-ideological grounds of “helping needy communities” and “giving opportunities to the disadvantaged.” Another point of appeal is that it allows the city to provide needed services without requiring new taxes or revenue. It is a lot to expect government officials to swallow to request their support for an alternative money system, so we should be careful in how we present the idea.

Associating the loca with contributions to society will also help create a positive image for those who use it. Unlike food stamps, which carry stigma, people will be proud to use currency that arises from local business and civic contribution.

Another advantage of not calling locas “currency” is that it might offer tax advantages. The IRS has ruled that transaction in complementary currencies – even barter – are subject to income tax. Presumably, they are subject to sales taxes as well. But what if the things being exchanged have no (dollar) economic value? In fact, the IRS has also ruled that non-professional services are not taxable. If I am a doctor and accept $100 worth of apples for my doctoring services, it is taxable, but if I help my neighbor mow her lawn in exchange for apples from her tree, it is not. Notice, now, that many of the example I have given of how locas might circulate involve things of no dollar economic value or reduced dollar economic value. My suggestion is to create a complementary system of circulation to go where dollars do not touch. Of course, there will be some overlap with the dollar economy – practically speaking, locas will end up having a value measurable in dollars. But by sticking to the language of community, voluntarism, and so forth, it will be possible to make a strong case that loca transactions should be tax-free. In the beginning it won’t be an issue – it can slide under the radar – but it might become important as the system scales up.

Someday, maybe not too far off, the dollar-based financial system will experience another crisis more severe than that of 2008. Cities could go bankrupt en masse and, as in the 1930s, will have a strong need for alternative means to provide services. When that happens, the loca will be there, waiting in the wings.

Some Variations

I have so far described a local currency system not pegged to the US dollar. There are also advantages to starting with a guaranteed dollar equivalency, as with BerkShares. In that case, the barber would back the currency not with 50 haircuts, but with $1000 worth of haircuts. Locas could be issued that way, or people could simply buy them for dollars from the issuer. Merchants could also redeem them for dollars, thus assuring them that they have nothing to lose by accepting locas.

This makes the loca similar to any proxy currency like BerkShares, except that the local money supply expands when new locas are issued in return for merchant coupons/certificates. Furthermore, the dollars accumulated when people buy into the system by purchasing locas could also be lent out within the community as microloans or to fund projects that require US dollars.

There are several disadvantages to this variation. For one, if too many people try to redeem their locas for dollars, there won’t be enough dollars. The issuer will have to redeem them for the barber’s certificates instead. This problem exists even if no US dollar loans are made, but worsens if they are.

Another disadvantage is that, pegged to the dollar, the loca would suffer from its inflation or deflation, providing no insulation from external economic fluctuation. Another variation to look into, then, might be to offer locas at a floating exchange rate determined by the market, similar to what banks do today. So for example, initially the issuer might sell locas for one dollar and buy them for 98 cents; after a few years of dollar inflation, it might sell at $1.50 and buy for $1.48. In this case, loca issue would still be backed by pledges of actual goods and services, and not dollar values of goods and services. It would behave much like a sovereign currency. The only disadvantage here would be the loss of the tax and image benefits of having it dissociated from the dollar.

We are entering a time of major flux in the world’s money system, a time when we need to experiment with alternatives and figure out what does and does not work. Nothing created out of whole cloth in front of someone’s computer (such as this proposal) is likely to work without going through a long process of trial-and-error, evolution, and the integration of real-life experience. What I have described must be adapted to conditions on the ground that are unique for each locality. In all likelihood, it will be a step toward something unimaginable today. At the very least, this and all the other local currencies circulating today puncture the belief-bubble that was oblivious to any alternative. The money system as we know it is not the only possibility. Let the experiments proceed!

1 Comment

  1. David Hall
    May 29, 2014

    I am a keen proponent for local currencies. Although the essay highlights disappointing results for local currencies, those of use who dream of them and those that live the dream would readily agree that they are ‘experimental’.
    Local economies are usually very small. They have few goods and services upon which to base their currencies. It makes sense to primarily back a currency with the national dollar, to make it work by earning interest which can then be ploughed back into the economy in local dollars. As the experiment proceeds, then start looking at moving some of the backing into local goods, and protecting the communities investment by turning some of the backing dollars into bullion.
    And to use Mr Eisenstein’s own words –
    ‘The money system as we know it is not the only possibility. Let the experiments proceed!’