Gold Dinar

EXECUTIVE SUMMARY

Gold dinar was gold coins used as a medium of exchange by Muslims through out the Islamic history. Today, the gold dinar, sometimes referred as Islamic Dinar is a bullion coin made from 4.25 grams of 22-carrat (k) gold. There were renewed interest in gold as a medium as exchange globally. More economists now prefer gold over money paper, to be precise fiat money. In a fiat money system, money is not backed by a physical commodity, for example gold. The only thing that gives money value is its relative scarcity and the confidence placed in it by the people that use it. Fiat money enables currency speculation and arbitrage to increase, for example the East Asian crisis 1997. The proposed gold dinar will not replace the domestic currencies. It will be used only for external trade among the participating countries. For the initial stage, gold dinar will be used for Bilateral Payment Agreements (BPAs) and will be converted to Multilateral Payments Agreements (MPAs) with the participation of as many countries as possible. Some of the most important implications of the gold dinar are stable money, excellent medium of exchange, it minimizes speculation, manipulation and arbitrage, minimizes business cycle effects, diversifies risk and promotes trade, and it promotes just monetary system. The gold dinars have excellent future prospects mainly because more people are aware of the shortcomings of the present monetary system. Besides that, it does not require substantial new regulations to implement the gold dinar. Gold also has a high prospect as a single global currency and it had played this role for centuries. Most Islamic countries have established Islamic financial system in their respective countries. Therefore, this is the perfect time to complete or complement the domestic system with an international system that will allow each Muslim country to strengthen the level of trade and reach out to one another.

WHAT IS GOLD DINAR?

The word dinar refers to gold coins used as a medium of exchange by Muslims through out the Islamic history until the fall of the Ottoman caliphate. Dirhams, which were silver coins, were also commonly circulated. However, the dinar and dirham were in circulation even before the beginning of Islam but continued to be used by the Prophet s.a.w. The dinar was the bezant gold coin whereas the dirham was the silver coin of the Sassan. Islam’s own dinar coinage was first issued in Damascus by Caliph Abdul Malik ibn Marwan in the year 77H. With the spread of Islam, the dinar was minted in large quantities and gradually displaced the bezant gold coin as the major international currency, circulating throughout the Muslim world and the Christian Europe as well.

The modern Islamic gold dinar sometimes referred as Islamic dinar or Gold dinar is a bullion gold coin made from 4.25 grams of 22-carat (k) gold that is a recent revitalization of the historical gold dinar which was a leading coin of early Islam. It is separate from the currencies of various states that use the dinar as a denomination.

A renewed interest in gold as a medium of exchange seems to have taken upon globally. Many scholars and economists have argued in preference for gold over paper money, to be precise fiat money to play the role of money. Everyone was generally contented with fiat money or at least the negative effects of fiat money went unnoticed or viewed as not threatening. After all, the implementation of a gold payment system would require significant changes in the financial infrastructure of a nation.

THE CURRENT MONETARY SYSTEM

In a fiat money system, money is not backed by a physical commodity, for example gold. Instead, the only thing that gives the money value is its relative scarcity and the confidence placed in it by the people that use it. In a fiat monetary system, there is no control on the amount of money that can be created. This allows unlimited credit creation. Initially, a rapid growth in the availability of credit is often mistaken for economic growth, as spending and business profits grow and frequently there is a rapid growth in equity prices. In the long run, however, the economy tends to suffer much more by the following contraction than it gained from the expansion in credit.

In most cases, a fiat monetary system comes into existence as a result of excessive public debt. When the government is unable to repay all its debt in gold or silver, the temptation to remove physical backing rather than to default becomes irresistible. This was the case in 18th century France during the Law scheme, as well as in the 70s in the US, when Nixon removed the last link between the dollar and gold which is still in effect today.

Fiat money enables currency speculation and arbitrage to increase. The East Asian crisis including the 1997 Malaysian currency crisis are examples of such activities. The Ringgit depreciated from an exchange rate of about RM2.47 to a US dollar before the crisis to a rate of RM4.80 at some point in time during the crisis. Malaysia being a highly open economy was therefore faced with a serious exchange rate risk. Currently there are no adequate financial instruments available to hedge the Ringgit exchange rate risk.

ROLE OF THE GOLD DINAR

The proposed Gold Dinar will not replace the domestic currencies. The domestic currencies (e.g. Ringgit) will continue to be used for domestic transactions in the respective countries. The Gold Dinar will be used only for external trade among the participating countries.

The Gold Dinar will not exist in physical form. It will merely be defined in terms of gold. For example, if one Islamic Dinar is equivalent to one ounce of gold, and the price of one ounce of gold is today at US $290, then the value of one Islamic Dinar will be US$290 or equivalent in other currencies, on the basis of the prevailing exchange rates.

The Gold Dinar will be used initially, for settlement of trade with countries with whom Malaysia has already signed bilateral payment arrangements (BPAs). Eventually the BPAs will be converted to a multilateral payments arrangement (MPA), with the participation of as many countries as possible. The following is an illustration of how these arrangements work:-

Bilateral Payment Arrangement (BPA)

• Two countries, for example Malaysia and Saudi Arabia, sign a bilateral payments arrangement, under which trade balances will be settled every 3 months.
• The trade will be denominated in Gold Dinar.
• The value of one Gold Dinar is defined, say, as one ounce of gold.
• The Malaysian exporters will be paid in Ringgit by Bank Negara Malaysia on the due dates of exports, based at the Ringgit/Gold Dinar exchange rate prevailing at the time of the export. Bank Negara will then debit the Saudi Central Bank’s account. Similarly, the importers will pay Bank Negara the Ringgit equivalent of their imports.
• The Saudi Central Bank will do the same for its exports and imports.
• Say, at the end of the 3 month’s cycle i.e. on March 31, the total exports from Malaysia to Saudi Arabia is 2 million Gold Dinar and the total exports of Saudi Arabia to Malaysia is 1.8 million Gold Dinar.
• Therefore, for that particular 3 months cycle ending on March 31, the Saudi Central Bank will pay Bank Negara 0.2 million Gold Dinar. The actual payment can be by way of the Saudi Central Bank transferring 0.2 million ounce of gold in its custodian’s account, say, in the Bank of England in London, to Bank Negara’s account with the same custodian or can be in US dollar, Euro, Yen or any other currency based on the exchange rate against Gold Dinar on March 31. The important point to note here is that, under this mechanism, a relatively small amount of 0.2 million Gold Dinar is able to support a total trade value of 3.8 million Gold Dinar. In other words, we optimise on the use of foreign exchange. Even countries that do not have a large amount of foreign exchange reserves can participate significantly in international trade under this mechanism.

IMPLICATIONS OF THE GOLD DINAR SYSTEM

Compared with interest-based fiat money, the implementation of the gold dinar has a number of implications. The following are some important ones:

i. Stable Money Since dinar is gold itself, the creation and destruction of money as in the present system is impossible. In the current system the creation of money by the banking sector is possible due to fiat money and not because of the fractional reserve system as is commonly thought to be the cause. Fractional reserves is a necessary condition for money creation but not sufficient. It is fiat money (money not backed by gold) that provides the sufficient condition. Money creation by the banking system would not be possible in a fully gold backed system even with fractional reserve requirement. The elimination of both money creation and money destruction is the biggest advantage of the dinar system. If gold coins were used, then counterfeiting would also be checked. In fact in the current electronic commerce era, counterfeiting should be largely eliminated. In the present paper-money system, such counterfeiting would bring about inflationary pressures.

Therefore, with dinar and the elimination of interest, we would have a stable currency and monetary system. The value of the currency in terms of its purchasing power could be expected to be stable over time. Hence the dinar could play its role as a store of value much better than the fiat money in an interest based economy. The dinar’s value comes from the value inherent in itself. With the introduction of the dinar and the elimination of interest from the economy, money supply growth (from new discoveries of gold) can be expected not to overshoot growth in the real sector, thus eliminating the inflationary pressure in the economy. It is almost like barter trade but with all the problems of barter trade, like double coincidence of wants are removed. The dinar is consistent with the current phenomenon where banks are being replaced by commodity based payment systems. Even if one thinks that it would be cumbersome to deal with gold currency, one could still initially introduce it in a dual system, i.e. paper money and gold standard. Large transactions like consignments, international trade and so forth could be done within the gold dinar system while small day-to-day retail transactions could be done using paper currency. This would still bring some stability into the economic system since the significant portion of exchange rate risk embedded in international trade transactions would now be eliminated.

ii. Excellent Medium of Exchange Since gold is priced and valued globally, it is something that is always valued by people of all nations and belief. With increasing population and economic activities but with limited gold supplies, the long run effect is a gradual increase in gold price. Only in the short run some fall in gold price may be observed. Owing to its intrinsic value and its easy divisibility, gold is an excellent medium of exchange. If a trader is given a choice today that he be paid for an item purchased using a thousand dollar paper note or a gold coin worth a thousand dollars, he would most probably go for the gold coin. Therefore people are not likely to behave indifferently between paper notes and gold coins. For this reason the dinar could easily play the role of a preferred global currency .Hence the dinar is also not a legal tender in the normal sense of word, unlike the case of paper money. Paper money is a legal tender since one needs to be forced by law to accept them for payments.

iii. Minimizes Speculation, Manipulation and Arbitrage Since the dinar is based on gold, it is like a single global currency. The speculative and arbitrage activities that take place in the current system and profits therein, are made possible due to the existence of different currencies and the cross exchange rates between them. These exchange rates constantly fluctuate, either due to forces of demand and supply for the currencies or even manipulative attacks. If all these exchange rates are eliminated by means of a single currency like the dinar, then speculation, arbitrage and manipulation will be very much removed if not eliminated. This would further strengthen and stabilize the economy.

iv. Business Cycle Effects Minimized With money supply growth restricted in the dinar system, growth in aggregate price level and debt will be much reduced. With money supply growth leveled, the business cycle and its effects would be very much reduced if not eliminated. A greater stability in economic and business activities would thus prevail. A stronger and stable match between labor and capital would take place, such that unemployment due to economic downturns and recessions would be minimized if not removed. In the dinar system, each transaction is an exchange within the real sector; unlike in the present system, transactions are between something that is real such as goods and services, and virtual such as binary bits of a computer. The dinar itself is real, something valued by society. Transactions are instantaneous and take place with actual funds. No intermediate credit is created like that with credit cards in the interest based monetary system. All the above would bring about a harmonious relationship between the monetary sector and the real sector.

v. Dinar Diversifies Risk and Promotes Trade When countries unify their currencies, just like the Euro, then unique risks inherent in the individual currencies will be diversified away. Only risks that are common to all the united currencies would remain. Hence exchange rate risk would be totally eliminated among those countries. However, the dinar is even better than Euro because gold is something that has intrinsic value and treasured by all nations. It thus acts as a unified global currency unlike Euro which is a unified regional currency. Therefore the use of dinar also negates the need for derivative markets like currency futures or options markets for exchange rate risk management, thereby promoting economic stability and efficiency.

A unified currency also significantly reduces transaction costs. When one imports or exports goods, one no longer needs to change currencies which involve transaction costs (which is income to money changers and banks).This in turn would promote international trade among the nations that adopt the common currency. While the Islamic Gold Dinar is held as Shari’ah currency, it is not a system alien to non-Muslims. As mentioned earlier, in fact dinar and dirham were in existence from pre-Islamic days but adopted by the Prophet (peace be upon him).Since dinar simply refers to a particular quantity of gold, the system could thus easily accommodate transactions with non-Muslims.

vi. Dinar Promotes a Just Monetary System Since the growth in money supply would be in harmony with the real sector in the dinar system, it thus promotes a just monetary system. Growth in aggregate price level will not be as that we see in a fiat money interest based monetary system. The harmonious growth between the real sector and the monetary sector would preserve the purchasing power of money and income. Therefore price controls of even basic necessities would not be necessary. In the dinar system therefore, all economic sectors including agriculture will get fair treatment. Dissatisfaction among producers of agricultural products, land conversions from agriculture-based to other categories would thus be minimized.

FUTURE PROSPECTS OF GOLD DINAR

The Islamic Gold Dinar or any gold payment system has excellent future prospects for a number of reasons. Some of these are:

i. Many people are aware of the shortcomings of the present system and advancements in IT technology are promising a way out. Hence the emergence of e-dinar, e-gold, GoldMoney etc. With the blessings of IT, political will is not necessary and a gradual introduction of the dinar is possible without adversely affecting the current system. Hence the dinar may be implemented as a complementary currency along with the national currencies.

ii. Does not require substantial new regulations. The system is as easy as where people invest in gold, but for some aspects of the system, like transfer of gold between nations, some regulations are necessary. In Malaysia for example the compliance of the system to Banking and Finance Industry Act (BAFIA) need to be looked into.

iii. With the advent and staggering growth in e-commerce, e-money is unavoidable.

iv. Gold has a high prospect as a single global currency. It had earlier played this role for centuries. Just consider the obsession humanity has had for this metal since historical times.

CONCLUSION

As a conclusion, Malaysia and most Islamic countries have spent a good part of the last two decades in establishing Islamic financial systems in their respective countries. This is the perfect time to complete or complement the domestic systems with an international system - a system that will allow each Muslim country to reach out to one another and strengthen the level of trade, a system that will also allow the ummah to use its collective surpluses to fund each other, and help each other grow.