In BFN (at p.213) I've suggested the following pathway for sound money in India:
the Reserve Bank would be made completely independent, tasked with focusing solely on inflation; in the longer term, the concept of central bank will be reviewed and most functions decentralized to the private banking system.
In this context I provided some more details on FB yesterday and today which I'm posting here (edited extract):
This discussion (on FB) started thus "is Central Banking also against classical liberalism?"
One way to think of it is that central banking was started mainly to fund the British parliament/king in 1694. Second, it was one of the 10 pillars of communism in Marx's Communist Manifesto. It is therefore a statist enterprise. While early classical liberals do not seem to have spent too much time discussing the problem of central banking, later thought moved towards the view that central banking is an undesirable enterprise. Many successful models of private banking exist across the world. Recently, George Selgin has explained these at some length.
I believe that the key to sound money is private banking (including note issue) that works under state regulation and prudential supervision. This issue, however, is not "do or die" issue in the first instance. There are 100s of policies that need to be implemented to improve things in India, and these can be done by having a far more independent central bank. Once these policies are settled and embedded (three years), the last step would be denationalisation of money.
The main thing in the first instance (in relation to money) would be significantly greater independence of Reserve Bank. We should avoid opening all reform fronts at the same time. There has to be a pathway to reform, and denationalisation of money (including appropriate gold standard backing) would sensibly be part of the second phase of reforms.
Theoretically, assuming a central bank is totally independent it can mimic the competitive market in money by issuing only the 'right' amount of money. That theory is, of course, flawed on many grounds, including the fact that there is no real market for note issue through this process, so the central bank will invariably get it wrong.
However, many countries (particularly Australia/NZ) have made their central banks over the past three decades truly independent and also totally floated their currency. This method yields a decent approximation of denationalised money.
I think, therefore, in the first instance this is the best way to create sound money as a transitional step (i.e. in the first three years). In the meanwhile the practicalities of empowering, say, three big banks to issue money backed by gold convertibility can be tested, and based on agreement on details these three allowed to issue in the first tranche. That will yield a real life test of four different moneys in India. If the experiment is well designed, and if it works well (the market will tell, not any of us), then any number of other banks can be allowed the capacity to issue money and let all moneys compete.
From a comment on an FTI internal conversation:
Theoretically you don't need gold backing to 'make' currency work. All you need is a counterfeit proof object that is limited in quantity. However, because there is no known way by which a central bank can limit quantity sensibly, and because markets (with billions of people) do this best through their own individual decisions), therefore private money is best – subject to dealing with the risks such money might create.
As indicated, a staged progression towards private money, with people deciding which currency to choose (private/ government), is best. Once they are happy with private money, the government should step out.
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