Wednesday, October 12, 2011

Fractional reserve banking and channel theory

In channel theory we don't have time, we have smaller transactions that occur with higher probability than larger transactions. Time is an artificial construct to get a smooth measure of the rate of flow of goods. In the USA today we have an oil backed economy. Our currency is as good as our ability to trade for large tankers of oil regularly. If we were gold backed, our currency would be determined by our ability to buy gold on regular intervals.

Getting right down to the basics, the fractional reserve system is simply a Fourier transform, generating a smooth yield curve from samples of events. That transformation based on the infinite divisibility of goods can be a very bad approximation, but it is mostly reasonably accurate. Changing the central banker won't help, the computation of yields curves is too useful, and we will always bet on the artificial construct of future time. The best solution is free banking where the banker can focus on a domain and run with a very accurate model of the chosen domain.

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