CHAPTER 8 Monetary Theory

‘Inflation is always and everywhere a monetary phenomenon.’

—Milton Friedman1

One of the chief worries of any monetary system is that one arm of the state ends up financing the other. When Robert Mugabe's government became involved in the second Congo War they resorted to the printing press to fund their spending. Endemic corruption and a lack of faith in the value of the currency led to one of the greatest hyperinflations of all time. At the peak, in November 2008, prices were doubling every day.2 And by 2010 Zimbabwean dollars were so worthless there were signs asking people not to use them as toilet paper.

By contrast, from 1991 to 2009 Somalia did not have a central bank, and since then efforts to launch one have been difficult. Whilst US dollars have been the currency of choice for large payments, the Somali shilling continues to circulate. The 1000 shilling note is worth about the same as the ink and paper required to make it, and therefore the incentives for forgery are minimal. It operates as a commodity currency, where the supply is determined by the costs of production, rather than government edict. Despite this – or perhaps even because of this – there was price stability.3 Indeed the payment system in Somalia is relatively advanced due to the emergence of private money transfer operators and other types of informal banking networks. In 2006 over half a billion dollars a year was being sent as remittances, with commission rates of just ...

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