## Monday, May 2, 2011

This Q&A session is an immediate follow up from the previous post. I wanted to put this in a separate article rather than attach it at the end of the last one so that it didn't get lost in the post on How to implement an electricity backed currency. In this Q&A discussion, I often reference Method#1, Method#2 and Method#3 from the earlier post today.

So now, I'd like to cover a few of the questions and critiques I've received since first writing about an electricity-backed currency (back in Nov 2010), and present my responses to these questions and critiques.

1) How do you transfer electricity long distances?

Typically, we use high voltage power lines of roughly 750 MegaVolts. This generates a transmission loss of between 6% and 12% per 1000 miles. However, with DC superconducting wires transmitting at the GW scale, this percentage can be decreased to nearly 0% per 1000 miles (including the loss of power required to keep the wires at the low temperatures required for superconductivity in today's materials.)  With DC transmission, though, there would be a 1% loss in power in the AC-DC conversion and another 1% loss in the DC-AC conversion.

2) Do we have to store huge amounts of electricity for this to work?

In Method#1, the answer is no.  In Method #2 or #3, the answer is yes if the government wants to avoid paying out money every time that the price of electricity goes above a set point. This means that the government would be in the business of preventing blackouts, and this could be a good thing. Though, to avoid a price of, lets say 20 cents per kW-hr, the government would have to store enough electricity to last at least an hour. One hour of storage is roughly 422 GW-hr of storage, and might cost the government an up front capital cost of on the order of \$30 billion dollars. (Not including the storage already on the electricity grid in the form of water stored behind hydroelectric dams.)  If the government thinks that it has to store more than an hour of electricity in order to keep electricity prices always below the set target, then the estimate of the capital costs would go up roughly \$30 billion for each hour of storage. (using a capital cost of \$75 per kW-hr of storage for advanced, large-scale batteries)

3) Isn't electricity-backed currency just as arbitrary as fiat money?

While it might seem arbitrary to make electricity the backing for currency, there's a scientific reason to make electricity the backing for a currency. Electricity represents the purest form of 'work' (in the force times distance sense of work) Electricity is the near instantaneous capability to do work (such as moving a vehicle, powering household appliances, or running a desalination plant to generate drinkable water.) Money is the capability to do work, and so an electricity-back currency is the least arbitrary form of currency.
The other point I want to make is that knowing that the Federal Reserve can't arbitrarily print money (and hence decrease the purchasing power of the money that you earn) is a positive effect of creating an electricity-backed currency. A gold or silver standard is arbitrary because, if the Federal Reserve wants to inflate the money supply to make up for reckless spending in Washington D.C., then it can go out and mine for some more gold or silver. And since gold or silver have almost no intrinsic value (except perhaps as catalysts or conducting wires), the Federal Reserve would have the capability of devaluing the purchasing power of the dollar. And with a fiat money supply, the Federal Reserve doesn't even need to go through the effort of mining for more gold/silver in order to reduce the purchasing power of your dollar, they can just enact Quantitative Easing 2.0 and take your purchasing power from you.

4) Do other countries have control of your currency? Do exporting countries have control over your currency?

In method#1, the other countries have the same amount of control as they do right now. They can buy and sell US dollars just the same. In Method#3, since there would be electricity lines between countries, it might be possible for a country to dump cheap electricity into your country if there aren't rules outlawing this. But if a country dumped cheap electricity onto the market, this would cause the average electricity price to go down, allowing the Federal Reserve to print money, which would allow the Congress to either: a) lower taxes, b) pay off the deficit or c) increase discretionary spending. (There would be a lot of other side-effects of dumping cheap electricity would be impossible for anybody to predict, so remember that predicting the future of any action on the economy is impossible. It's all educated guesses based off of our understanding of history.)

5) What if the economy is in recession? What happens? How and why would the Federal Reserve remove money from the economy during a recession?

If the price of electricity is increasing because it is getting more expensive to generate electricity, then in an electricity-backed currency, the Federal Reserve has to remove money from the money supply by either: (a) selling assets from its balance sheet and then destroying the cash they receive for the assets, (b) raising interests raises, or (c) increasing the percentage of funds that banks must hold as cash. Regardless of what the Federal Reserve does, the members of Congress and the President can then decide whether to continue spending the same amount of money per year (by increasing the deficit) or to decrease spending so as to balance the budget. The Federal Reserve's actions do not dictate what actions the Congress and President make with respect to deficit spending. However, if the economy is growing and the price of electricity is dropping due to technological innovations, the Federal Reserve can print money to buy US Treasuries, allowing the members of Congress to be more carefree in how they spend money.

6) Will enacting an electricity-backed currency cause us to waste electricity or, even worse, will it force us to build a lot of polluting fossil fuel power plants?

First Question: I think that an electricity-backed currency in Method#1 will have almost no effect how much electricity we waste. In Method#3, we might be able to sell electricity at night to countries like China. Since baseload power plants often sit idle at night, this would be a way to not waste fossil fuels that are used to idle a power plant. We could be generating and selling the electricity to reduce our debt (provided of course that we think that we can make more money selling the electricity than was spent in building the new infrastructure to allow electricity trading between countries.)

Second Question: An electricity-backed currency would hopefully force us to separate good environmental regulations on power plants from bad environmental regulations on power plants. If the public convinces their legislators to implement a new environmental regulation, then the laws get implemented. The only thing that changes is that if the environmental regulation causes a large increase in the average price of electricity, then this would force the Federal Reserve to print less money each year (or perhaps even force the Federal Reserve to pull dollars out of the economy.) Either way, this means less money for Congress to spend, and then they would have to weigh the advantages and disadvantages of the new environmental legislation. Would it be worthwhile to implement the environmental legislation knowing that we either have to increase deficit spending, cut money from the budget or increase taxes? In the past, the Congress could implement environmental legislation knowing that the Federal Reserve could print money without having to borrow money, cut spending or increase taxes.

If the environmental legislation was worthwhile, then what you would see would be the eventual decrease in the price of electricity (before the Federal Reserve changed policy to keep the average electricity price the same). For example, let's use mercury emissions as an example. Initially, the price of electricity might increase as fossil fuel power plants have to spend money to invest in mercury clean up equipment. But slowly over time, the amount of money spent at hospitals might eventually decrease (due to less side-effects of mercury...Note: I'm not an expert in mercury, I'm just using it as an example of a hypothetical environmental legislation doesn't necessarily raise the price electricity in the long run.) As the expense of dealing with mercury side effects decreases, the price of health insurance might decrease, allowing the power plant to pay less for health insurance for its workers. After enough time, as the health care costs go down through the economy, the demand and the price of electricity might go down, showing us that this legislation had a win-win effect on the economy. (So, while the Federal Reserve might initially have to take money out of the economy as electricity prices increased, they could print money once the electricity prices decreased due to lower health care costs and perhaps due to lower demand for electricity from hospitals that don't have to treat patients with mercury side-effects.)

7) Will implementing an electricity backed currency disincentivize investment in electricity generation because the government is effectively putting a ceiling on electricity prices?

In Method#1, there is no change in incentive to build a power plant. In Method#2, the government is incentivized to build either electricity generation or electricity storage in order to avoid having to pay every time electricity prices go over the set point. Note that in Method#1 or #2, there is no promise that the government will buy electricity at a certain price. In other forms of an electricity-backed currency that I haven't discussed or though about, there might be an agreement that the government would guarantee a set price for baseload electricity, but this is not a requirement for an electricity-backed currency, and setting the price of electricity might be a bad policy to follow because the day-to-day price of electricity should be allowed to fluctuate. In Method#1, #2 or #3, the Federal Reserve is there only to maintain an average of 0% inflation, and not a day-to-day or hour-to-hour 0% inflation.

8) Couldn't you just make money by selling electricity?
Yup, that's the point. You can do that right now if you wished. You can buy or build a power plant and then sell the electricity on the market. There'd be no difference in an electricity-backed currency. In either case, if the price of building or buying the power plant is too expensive, then you can never pay back your loan, and then your company goes bankrupt.

9) Does every country have to agree to this idea? And if so, it doesn't seem fair to make poor countries use an electricity backed currency.

Method#1 or Method#2 of implementing an electricity-backed currency has nothing to do with other countries. So these Methods could be implemented in one country or in every country. It doesn't matter how many countries implement it. For Method#3 to work, there has to be an agreement between countries to be able to pay back a loan either in electricity or in currency. Mostly, this would allow the US to repay its debt to Japan or China in the form of electricity. (And given Japan's electricity shortage after the recent horrible earthquake. I wish we had electricity transmission lines already built so that we could be paying back our significant debt to Japan in the form of electricity. This would be a win-win for both the US and Japan! ...provided of course that the US didn't go into even more debt to China by building the transmission lines.)

10) Does this incentivize companies to create black-outs?
No, in all cases, there is no incentive for electricity companies to create black-outs. Think about it. How would a company profit from the black out? They could stop generating electricity, and then purchase electricity from the US government at 20 cents / kW-hr, but then what do they do with the electricity? They can't sell it for more than 20 cents / kW-hr because people would always buy their electricity from the government at 20 cents / kW-h. Instead, the US government would have a huge incentive to prevent black-outs  (and this is a good thing!) The US government would be forced to invest in electricity storage and would want to avoid black-outs as much as possible.
During the Enron days, the company was able to profit from black-outs by first betting that the price of electricity would increase in California, and then convincing a power plant to go offline for maintenance. Wrong-doing like this is a hard thing to avoid in any economy (regulated or dereduglated, capitalist or socialist). Though, in the Method#2 case, because the price of electricity can't go over a certain price, there's no way for companies to make large profits by betting that the price of electricity will go up. (Because it can't go above a certain set point.)

11) How is an electricity-backed currency different from the Enron scandal? Doesn't deregulating an electricity market allow corrupt companies like Enron to flourish?

Having a Method#1 type electricity-backed currency has nothing to do with whether local electricity markets are regulated or deregulated. All the Federal Reserve does is change their policies in order to keep the average inflation rate of electricity at 0% per year. As well, Method#2 or Method#3 can be implemented regardless of whether the local electricity is regulated or deregulated. There has already been plenty written about the advantages and disadvantages of having a regulated electricity market, so I will not proceed further on this topic.

As mentioned above, in Method#2, there would be no way for a company to profit from black-outs. Regardless of the type of currency we have, there will be good companies and their will be bad companies. The point of the electricity backed currency is two fold:

1) Prevent the Federal Reserve from decreasing the purchasing power of our money
2) Ground our currency in something that has true, measurable value.

Please let me know if you have any other questions about the advantages or disadvantages of an electricity-backed currency and I would be happy to answer them in another post.

--Eddie D.

1. Kevin Masters - Boston MAMay 24, 2011 at 12:55 PM

I have been toying with this sort of concept for a few months now. One of the strong points to this type of backing is that we can see where economic strength and innovation are frequently tied to the availability and affordability of power... whether that was the labor of men, the steam engine, combustion engines or electricity.

I dont know if we need the Federal Reserve to be involved for this to work. I would like to see currency value and volume tied to both production capacity and market prices. Setting the initial numbers might present a small challenge, but figuring out how to do adjustments would likely be simple. The nice piece about using market prices is that it can level the playing field for all generation methods (fossil fuels, solar, wind, hydro, nuclear, dogs on treadmills...) assuming we also remove subsidies. Regionally or even on the municipal level industry can determine the most efficient and cost effective way to provide their base power and support their local economy. These ideas also would provide a lot of incentive for improvement of the national power infrastructure.

2. Kevin,
Thanks for your thoughts. I'd have to think more about how an electricity-backed currency would be implemented without a Federal Reserve.
Right now, the Federal Reserve has a fair amount of leeway to inflate the currency (and to hide the inflation by ignoring electricity and gasoline from the list of "Core inflation."

I've decided to write an entire post on inflation because of how angry I am with the Federal Reserve right now. Part of my goal with an electricity-backed currency is to take the Federal Reserve power away from them by forcing them to print or remove money from the market based off of what will likely becomes the dominant force of work in our society (electricity.) Once we have this, then it doesn't take a PhD economist to know what to do in order to maintain a 0% inflation rate on the price of electricity.

3. Kevin Masters - Boston MAMay 27, 2011 at 7:48 AM

Eddie,
Just to clarify, I dont think it can be implemented without the involvement of the Federal Reserve, I guess my thoughts are more centered around whether in a migration away from the current model, whether we should assume the Federal Reserve should even exist in the new model? Certainly some type of board would need to be in place or convened to review the currency exchange rate/volume at prescribed times or triggers... but this could be a new group.
As I also mentioned, I think electricity will be the primary unit of 'exchange', but in a fairly implemented system you are really looking at something like KWH equivalents. This way you can directly value goods that can be used for electricity generation and other uses (fossil fuels primarily). Because the vehicle transportation is such a large energy requirement, I think we need to be cautious that we dont skew the new model to favor electric cars, when staying with gas or moving to CNG might make more economic sense for instance.
A technology leap in storage of some sort would make this a no brainer... but I dont see this coming in the short term and actually like to move away from the 'store it under my mattress' ideology that has fueled the gold/silver crowd

keep up the good work!

4. Kevin,
Great points about not throwing the baby out with the bathwater by ignoring non-electrical work, such as piston-driven work from vehicles.
I don't always mention this, but it bears repeating that a pure electricity-backed currency should only be implemented once electricity is the dominant form of work (Perhaps not until electricity is over 80% of the total work.) Since electricity is roughly only 50% of the total work in our society (and mechanical is the other ~50%), a pure electricity-backed currency today would have problems because it's ignoring the mechanical work done by vehicles.
If we want to immediately back our currency with something of value, we would be forced to back it with both electricity and transportation fuels. But this gets complicated because transportation fuels get converted into kW-hr of work at different rates when using different engines. Due to this difficulty, I understand why we don't have a 'work-backed currency.'
Part of me is making educated guesses about the future and hoping that hybrid-electric vehicles start dominating the market so that we could eventually have an electricity-backed currency.

Any ideas on how to implement a 'work-backed currency' when 50% of the total work is due to electricity and 50% of the total work in society is due to piston-driven engines?

5. Kevin Masters - Boston MAMay 31, 2011 at 2:43 PM

I am not an economist by training, I just read a lot of Thomas Sowell and have some common sense, figuring out the details isnt my strong point.

Ultimately what we are really saying is that the currency should be backed... that is it should be based on something that has value. We also agree that a return to so-called 'precious' metals isnt a real solution both because they really arent that precious anymore and their scarcity has extended to the point where they are too inflexible to keep up with a growing world economy.

So my take is mostly philosophical and principle-based. Currency should be backed by something that has value and accurately reflects the ability of the issuer to 'make-good' on contracts expecting payment in that currency. As you have explained very well, productivity is the hallmark of a healthy economy and affordable and accessible power (in any form) is crucial to sustaining and growing that economy

How we measure and link the energy component to the currency component has some room discussion. But at the start you have to agree that they are tightly linked, and agree to limit factors that would alter their relationship (onerous regulation, subsidies to some sectors of the economy, reasonable infrastructure etc)

With regards to making a move in advance of electric power dominance... I think if we can agree that WORK should be the standard, we can develop a good model that accounts for the different generation options. If we dont hold fast to the actual trading of power, but focus on the ability of the economy to generate and deliver power at a reasonable price, then we can focus more on developing a reasonable valuation and how CHANGES should shift either value or exchange rate. For instance we could develop a formula that looks at both consumer USD/KWH and gasoline sold in USD/gal, then tabulate given what % of industry is choosing which power source.
In a more near true market economy (free of subsidy or over regulation), I think you would find the currency would be minimally affected because usage would always shift to best efficiency, which would be positive for the economy, which would add value to the currency.
You dont even need to capture all the power delivery mechanisms... my guess is given the large market share of electricity, gas and fuel oil as delivery products... you could develop a stable model with just those three.
The more difficult piece may be removing regulation and subsidy programs to an extent that allows true competition in power industry. Because there is substantial effort and monetary commitment required to bring new power online (turbines, oil refineries, etc), the more you can minimize the time lag the better for the consumer and for the health of the economy. Image for instance if the EPA and NRC didnt have so much red tape in bringing reactors online. Profitability would be much higher, and old reactors would be economical to take offline and new better (safer, more efficient) designs would be positive to install. We have a climate now where it is cheaper to retrofit old designs instead of starting over with new construction... mostly because of the regulatory overhead. The consumer, environment and economy all lose.

enough of my soap box for the day =P

6. Any new thoughts on this concept?

7. Thanks for the question.
I still think that currency should be printed or removed in order to maintain a near 0% inflation in the average price of electrical & mechanical work.
But my thoughts are shifting away from centralized Federal banks towards private currency.
I'm still waiting for Google to start its own currency. Google could pay people to fill out survey by giving them larger cloud storage drives. It could also print its own currency, but ultimately, I think that such a currency will fail or success based on whether it is actually linked/tied to the capability to do electrical or mechanical work.

1. I am all for decentralizing of the banking system, which I think is part of the problem. But also agree that printed or coined money should still exist. I believe this idea could solve a lot of social ills by putting the power of wealth generation in the hands of the people as oppose to having to get money through employment and the like. I admit, I am not expert on either the subject of money/monetary policy or electrical dynamics. So, when the idea came to me, I took to the internet to see if there was anything out there that could help me fully understand the idea. If you should happen to come upon any new information could please let it be known. I feel, that this idea of energy-backed currency could do a lot of good for the mankind, life on the planet and the planet itself. I have an account on gmail, so please feel free to send me any email relating to this information. Thank you for your time and thoughts on the subject.