The Five Stages of Counterfeiting

“If you planned to print up a batch of counterfeit money, you wouldn’t print triangular bills on orange paper with a picture of Bob Hope on the front.”

~ Donald Heath (1960)

The context of Mr. Heath’s observation was the strategy of American religious cults. Yet for over four decades, I have thought about his insight within its symbolic context: counterfeiting. The more I have thought about it, the more I am convinced that it needs a modifying clause: “in the first year of your counterfeiting operation.”

A truly serious counterfeiting operation would in fact plan to do something very similar to what Mr. Heath said a counterfeiter would not do — just not in a single step. The goal of a serious counterfeiting operation would be to persuade the public to use its money rather than the official bills it originally copied when it designed its original fake plates. Its goal would be the replacement of the original official bills with its own bills, making them official in the eyes of the public.

This has been the primary goal of central bankers ever since the creation of the Bank of England in 1694. They have achieved this goal nationally. Internationally, the transition is still incomplete.

In 1694, the primary currency of the British empire was comprised mostly of gold or silver coins. In the North American colonies, these were Spanish silver coins, the reales (“rayAWLays”). In Great Britain, there were also bank notes, issued by private, profit-seeking banks, which constituted the initial stage of the counterfeiting operation. This involved competition among counterfeiters.

The profit-seeking entrepreneurs who set up the Bank of England wanted a monopoly. So, they traded their promise to purchase government debt certificates with newly created counterfeit money in exchange for a monopoly grant from the government over the creation of counterfeit bills.

Then began the great substitution, from precious metal coins stamped with government imprints to small rectangular pieces of brightly colored plastic. So far, Bob Hope’s image is not on any of them, but one brand is promoted by Mick Jagger, singing about freedom. Frankly, I would feel more confident about a card with a picture of Mr. Hope.


Counterfeiting by private mints has been common throughout recorded history. The prophet Isaiah warned the residents of Judah, “Thy silver is become dross, thy wine mixed with water” (Isaiah 1:22).

Counterfeiting by governments has gone on for just as long.

Governments early invented a theory of monetary sovereignty. “Only the government possesses the God-given right to issue coins. All other coin producers inside the state’s boundaries are counterfeiters.”

The governments defended this with a promise: “You can trust your government not to mix cheap base metals into the gold or silver metals.” Sooner or later, this promise is broken. The only notable exception was the Byzantine Empire’s gold coinage. From 498 to about 1050, there was no debasing. Then, after half a century of debasing, there was a reform around 1100. From then until about 1350, there was no debasing. In monetary affairs, those were the good old days. There have been no others. The closest thing the West has ever had was the era of the international gold standard, from 1815 to 1914, the years separating two European wars: the end of the Napoleonic wars to the outbreak of World War I.

Governments issue coins with reduced gold content and call them full-value coins. It spends these coins at yesterday’s prices. The public is not fooled for long. Prices rise.

The scam is based on today’s memory of yesterday’s prices.

The coins initially look the same. They aren’t.

Fact: to get the scam to work, the coins must look the same. As their precious metal content is reduced, they don’t look the same. Call it the Bob Hope problem.


Here is how the system works initially. Private banks issue banknotes redeemable on demand in gold or silver coins. The bankers make a legal contract. “Deposit your coins with us. You can get them at any time. We will pay interest to you for your deposit.” It is a lie. To get the money to pay depositors interest, the banks must lend the money. Depositors therefore can’t get their money on demand all at once. The result is a bank run.

Banknotes with no gold behind them look the same as banknotes that do have gold behind them. The scam is based on today’s memory of yesterday’s prices.

The bank notes eventually depreciate. Depositors start bringing in banknotes to demand gold. The counterfeiting bank goes bankrupt.

This realization takes time. There is no Bob Hope problem with banknotes from the Bob Hope Bank. The late notes look just like the originals. This is also true of checks, which also serve as money.

Problem: the Bob Hope Bank faces competition from the Bing Crosby Bank and the Frank Sinatra Bank. That is its main problem

The first people who spot the scam are other bankers, who see that their depositors are depositing lots of banknotes issued by the inflating bank — too many, in fact. So, the bankers start demanding their gold from the inflating bank.

One solution: state-chartered banks. These have licenses. These are licenses to steal, i.e., commit fraud. To save their banks, state governments eventually place restrictions on note-redeemability. But they are promoted initially on a familiar basis: “You can trust a government-licensed bank not to issue more receipts for gold or silver than it has a prudent quantity of gold or silver in reserve.” Prudent quantity. Right.


A group of very rich investors then see that they may be able to put the private and state banks out of business, or else force them to deal with them on their terms. So, they petition the national government to license a national bank. This bank may be granted control over the issuing of bank notes. Or it may be granted a monopoly of reserving: other banks must deposit zero-interest reserves in accounts at the national bank.

Henceforth, the Bob Hope Bank, the Bing Crosby Bank, and the Frank Sinatra Bank must stay within note-issuing limits established by the nation’s central bank. Call it the Dead Presidents Bank.

They all have the same old problem. The scam is based on today’s memory of yesterday’s prices.

In 1914 in Europe and in 1933 in the United States, banknote redeemability in gold by banknote holders and bank depositors ended. On August 15, 1971, it ended for central banks.

That left silver coins. As fractional reserve money grew in response to T-bill holdings by the Federal Reserve System, people began demanding payment in silver coins. I was one of them. I bought $1,500 in silver coins at a local bank in the summer of 1963. Over the next two years, silver coins disappeared from circulation. The government started issuing copper coins with silver laminate. Call it strumpet money. The public did not care.


Beginning in the mid-1960’s, banks started mailing out credit cards. Cards went to just about anyone with a postal address. “Sign up now. Buy now, pay later.”

Market penetration was rapid. Tens of millions of people signed up. There were soon defaults by over-extended card users, but this loss had been factored in before the mailings. The cost of establishing a new mass market by direct mail was so low that the defaults were chump change for the banks. Within a decade, plastic money had replaced Dead Presidents and checks in most transactions. Strumpet money — token coinage — was used for soda pop sales and local sales taxes.

The Bob Hope problem is not completely over. For illegal drug sales, currency is still needed. But counterfeiters are hesitant to pass along fake bills to users — of drugs and currency — who will hand over the bills to drug dealers. Dealing with the Secret Service is one thing. Dealing with irate cousins of Columbian drug lords is another.

Most paper money is mailed to residents in foreign countries by illegal immigrants working in the United States. It does not circulate here.

So, for all intents and purposes, the Bob Hope problem has ended. The legal counterfeiters no longer face private counterfeiters.


On July 10, 2007, Federal Reserve Chairman Ben Bernanke delivered one of the most revealing speeches in the history of central banking: “Inflation Expectations and Inflation Forecasting.” He delivered it to the National Bureau of Economic Research (NBER), which is the original privately funded think tank devoted to gathering economic statistics. It is the government-recognized agency that reports retroactively when an American recession began and ended.

The speech admits a great deal. The main thing it admits is that the staff economists of the Bank have no precise formula or data set which they use to predict price inflation. They have reams of data, but no operational theory to interpret these data.

The Board staff employs a variety of formal models, both structural and purely statistical, in its forecasting efforts. However, the forecasts of inflation (and of other key macroeconomic variables) that are provided to the Federal Open Market Committee are developed through an eclectic process that combines model-based projections, anecdotal and other “extra-model” information, and professional judgment. In short, for all the advances that have been made in modeling and statistical analysis, practical forecasting continues to involve art as well as science.

If these guys were a rock band, they could call themselves “Doctor B and the Wing-Its.”

It was a long speech. He went into detail about the kinds of statistics they look at in order to make predictions. His main topic was the public’s ability to predict price inflation. This is a concern for the FED because what the public expects prices to do affects the selection of monetary policy by the FED.

We are no longer dealing with the Bob Hope problem. Digits do not have faces. The public cannot distinguish one digit from another. Neither can private bankers. There are no runs on banks these days because the only people using currency are illegal immigrants who do not deposit their money in banks. The senior counterfeiter has finally overcome the ancient problem of money recognition.

It has not overcome the problem of price recognition.

Repeat after me: “The scam is based on today’s memory of yesterday’s prices.”

It is also based on today’s forecast of tomorrow’s prices.

Bernanke is convinced that the public after 1983 has had ever-lower expectations of price inflation. This is good, he said.

More fundamentally, experience suggests that high and persistent inflation undermines public confidence in the economy and in the management of economic policy generally, with potentially adverse effects on risk-taking, investment, and other productive activities that are sensitive to the public’s assessments of the prospects for future economic stability. In the long term, low inflation promotes growth, efficiency, and stability — which, all else being equal, support maximum sustainable employment, the other leg of the mandate given to the Federal Reserve by the Congress.

Note what he thinks is a good thing: low inflation.

Why not zero inflation?

Why not price deflation? “What’s good for computer buyers is good for buyers of everything else!” Right?

That is not what Bernanke thinks. If he did, he would say so.

That is also not what any Ph.D.-holding economist quoted by the media or published in academic journals believes. I have heard only one academic economist come out publicly in favor of price deflation: Murray Rothbard. He favored a monetary standard selected by the public voluntarily in a world in which the fraud of fractional reserve banking is illegal. He believed that increasing productivity under capitalism in a 100% reserve ratio legal system would lead to slowly falling prices.

On this issue, Rothbard stood alone in the twentieth century.

So, the public wants low price inflation. Anyway, that is what the FED intends to provide. So, the FED’s policy-makers require reams of statistics, collected by government fiat. They also require computer models. And they require an undefined and therefore uncertain artistry to work consistently, contrary to uncertainty.

Bernanke politely said that pre-1980 Keynesian policies of inflation to combat unemployment are dead. This is surely good news — for now.

Still, I think we can agree that, at a minimum, the opposite proposition — that inflationary policies promote employment growth in the long run — has been entirely discredited and, indeed, that policies based on this proposition have led to very bad outcomes whenever they have been applied.

But we still have price inflation. We have had price inflation every year, except 1955, since 1938. Why? Because the FED keeps inflating the monetary base, and the commercial banks keep responding by inflating the money supply. Why does the FED do this? To keep the economy from falling into recession.

So, contrary to Dr. Bernanke, I think we can agree that, at a minimum, the opposite proposition — that inflationary policies promote employment growth in the long run — has been entirely accepted by the academic economics guild, despite the fact that policies based on this proposition have led to very bad outcomes whenever they have been applied. It has surely been the operating presumption of Federal Reserve policy-makers since 1933.

As you know, the control of inflation is central to good monetary policy. Price stability, which is one leg of the Federal Reserve’s dual mandate from the Congress, is a good thing in itself, for reasons that economists understand much better today than they did a few decades ago.

What I know is that price stability has been the fairy-tale dream of Federal Reserve chairman ever since 1938, which they promise to Congress, four times a year. They have been singing a variant of Snow White’s love song ever since its release in 1937: “Some day, price stability will come.” And Congress, doing its now-legendary imitation of Dopey, smiles contentedly.

Bernanke says that the public learns about price inflation over time. The public learns to forecast. He says the FED needs models and data to learn how well the public has learned. Why? To assess its own credibility.

A fuller understanding of the public’s learning rules would improve the central bank’s capacity to assess its own credibility, to evaluate the implications of its policy decisions and communications strategy, and perhaps to forecast inflation. Realistically calibrated models with learning would also inform our thinking about policy and the economy.

If the FED were really concerned about its credibility, it would do the following:

Post on its Website the minutes of any meeting of the Federal Open Market Committee no later than 24 hours after the meeting adjourned.Release to the general public the computer programs used by the FOMC to assess the economy.Release to the general public the data gathered at government expense and at FED expense as soon as this information is downloaded into FED data bases.

In short, we want transparency. And why shouldn’t we? Isn’t transparency a great thing? That’s what Bernanke told a Congressional committee on July 18.

Chairman Frank, Ranking Member Bachus, and members of the Committee, I am pleased to present the Federal Reserve’s Monetary Policy Report to the Congress. As you know, this occasion marks the thirtieth year of semiannual testimony on the economy and monetary policy by the Federal Reserve. In establishing these hearings, the Congress proved prescient in anticipating the worldwide trend toward greater transparency and accountability of central banks in the making of monetary policy.

So, let’s have even more transparency. Let’s end FED secrecy. No more 45-day delay in releasing FOMC minutes. Let investors have access to the tools used by the FED’s policy-makers.

Bernanke told the NBER, “the staff’s long-term track record in forecasting inflation is quite good by any reasonable benchmark.” So, let’s add another benchmark: public access to the tools used by the FED to make policy. Bernanke praised “a market in which investors back their views with real money.” Let’s expand that market. Right?



Oh. I see. Sorry I asked.


First, the public had the Bob Hope defense for coins: people could spot counterfeits. That defense was removed by banknotes.

Second, other bankers had the Bob Hope defense: they could count specific banks’ banknotes being deposited by their clients. That defense was removed by state-licensed banking.

Third, the public had the Bob Hope defense for coins: people could still make a run on the banks. That defense was removed by making gold coins illegal and silver coins counterfeits.

Fourth, the public had the ability to perceive and forecast price inflation. This ability remains. The FED does whatever it can to figure out what the public will expect next. Most important, it keeps its activities and plans secret. But, step by step, word is getting out. The dollar is falling. The government’s debt is rising. The Web is snooping.

Congress, however, is still Dopey.

July21, 2007

Gary North [send him mail] is the author of Mises on Money. Visit He is also the author of a free 19-volume series, An Economic Commentary on the Bible.

Copyright © 2007