I’m still working on the final part of ‘A way forward’, but before I post that I want to do an update on something I started a while ago here, namely what is money.

Going back to that imaginary town, how does the introduction of money change it?  Apart from the convenience of trading in a common format, there’s no fundamental reason it should change it at all, which suggests that the money materially manifests something that already existed, but was not previously manifest.  What would that be?

My suggestion is that it represents labour.  Specifically, the value placed on someones labour.  In the traditional barter exchange you might expect that the goods exchanged are equal, but that needn’t be the case.  What’s important is the value placed on them, and that can change from situation to situation.

Say I was offering you apples and wanted oranges.  How many oranges would you give me per apple?  Now what if I told you (truthfully of course 🙂 ) that the nearest apple orchard is 500 miles away and if you either had to give me oranges or go get the apples yourself.  What if the orchard was 100 miles away? 1 mile away? What if you could see the apple tree but I was offering apples I’d already picked?

And if I hadn’t actually picked any, would you give me any oranges if you had to pick the apples yourself with the tree right in front of you?  Clearly you wouldn’t unless I could somehow prevent you from exercising your own labour to get some apples (hence the importance of land control).  The point is that it is the labour that money represents.  It’s being able to physically separate goods from the labour that acquired it that enables us to do things like division of labour (you can’t exactly pay car factory workers with fractions of cars to trade for food).

Perhaps the most important aspect of this measure is that it is relative.  It’s not that important how much money exists as long as it is sufficiently divisible so that everybody has enough to represent their labour.

What prompted me to get on and write this was something I came across here that simply cannot stand unchallenged.  Have a read, I’ll still be here when you get back.

The author here makes a fundamental error, but it lies not in his logic of the subject he is addressing.  It is rather what he casually throws away.

These are the cards I exchange at meetings with business associates outside of the household.

This off-hand remark is actually the key to unravelling the theory, because in the real world, you can’t just ignore other entities with which your local government does business.  There is a reason currencies have exchange rates after all!  The example given assumes that the business cards given to the child never leave the household.  If that were true, then yes you could have the situation described.  The real world, however, doesn’t have such arbitrary boundaries.  In reality, the kid would be using some of his cards (once he has some extra), on buying things.  Those cards have a certain exchange value when the parent uses them, and so it is when the kid does.  Once those additional cards have left the garden, the parent had better hope that the work the child did the garden means he has more produce or his cards aren’t worth as much as before.  They will be devalued.

The other problem of course is that in this setup, the child is basically indentured.  He is charged an arbitrary amount by the parent as rent and is paid an equally arbitrary amount for his labour.  It’s entirely up to the parent whether there is any left over or not regardless of whether the child works any harder or even works at all.

What really inspired me to post this however comes in one of the comments, given by the author as a reply to another:

When the sovereign government net spends (runs a deficit) it is immediately creating wealth – initially in the form of bank deposits of those who are beneficiaries. The beneficiaries can then change the composition of this wealth and leverage it to their advantage.

WHAT?! What is wrong with these people?  There was me hoping that Tinkerbell economics was on it’s way out.

When a government runs a deficit, it immediately creates wealth?  The obvious question then is why don’t all sovereign governments just spend endlessly?  The answer to that is obvious, because it’s simply not true!  Let me get rid of this idiotic “Printing for victory” idea by one simple statement.  You’ve heard it already, it’s the title of the post after all:

Money is not wealth!

Let me say that again…

Money is not wealth!

Let’s think about this for a second.  Why do you work?  More importantly, what do you do with your wages?  Do you eat them?  Do you live in them?  Do you wear them?  Do you read them?  Do you speak to your friends through them?  Do you heat your homes with them (okay, maybe don’t answer that one – especially if you live in Zimbabwe)?

The short answer is no, because money cannot do any of those things.  In fact that’s precisely why we have money because it does nothing in and of itself, hence there’s little societal cost of storing arbitrary quantities of it.  It is a token, a signifier (as mentioned before, of the value others place on our labour), an abstract and general claim on other’s labour.

What then is wealth?  In essence, everything else.  Anything that would still exist if some cosmic glitch were to wipe out all bank accounts tomorrow.  Wealth is the real things which we acquire by our labour whether directly or through exchange.

The great irony is that the theory that the linked post is trying to espouse, namely Modern Monetary Theory (often called MMT), is actually quite sound for the most part.  The basic premise comes from the various purposes of money.

Thus saith wiki:

money functions as a medium of exchange, a unit of account, a standard of deferred payment, and a store of value

‘A unit of account’ is quite trivial.  It simply means that the measurement of money is standardised (anyone can put a definite number on a given amount of money), and implies that money is sufficiently divisible to represent everyday trade.

‘A medium of exchange’ is the most obvious purpose of money.  As this purpose is based on convenience and book-keeping, a money candidate is best suited when it easy to carry/trade and has limited to no intrinsic (rather than nominal) value.  Paper money currently works well because being paper it’s easy to make and carry.

‘A store of value’ is what makes money useful for bank accounts and savings.  In general you have a rough idea what a certain amount of a currency will get you .  A money candidate is best suited when its supply is constrained and the money itself has significant intrinsic value.  Gold has historically worked well as money because gold must be mined and refined and is generally always desirable.

‘A standard of deferred payment’ is a function that springs from the other three and simply relates to the denomination of debts.  It doesn’t exist independent of the other three so it tends to be ignored.

The problem with this definition of money is that being a medium of exchange conflicts with being a store of value.  In order to represent labour value, money supply needs to be flexible as the economy grows and contracts, but the requirement to be a store of value means that fluctuations in money supply have unpredictable redistributive effects (the most commonly understood of which is inflation).  The MMT answer is to neglect the ‘store of wealth’ purpose of money and simply expand and contract the money supply directly (expansion by government spending, contraction by taxation).  As far as it goes, I think separating the functions of money is a good idea if you can work out how to do it, but MMT doesn’t actually do so, it simply neglects one to boost the other.  This will simply result in inflation.

What MMT does demonstrate is why in current theory deflation is such a disastrous thing to happen.  Let’s go back to our imaginary town (with apologies to Nintendo, I’ll call it Flipside) and suppose that a miner in that town, in the course of his excavations, manages to ‘dig through to China’ and finds an identical town (called Flopside), with one difference wherein Flopside has never discovered money.

Upon seeing money in action Flopside decides that they should use money in their economy.  They make an error, however, in that they assume they must use the same money as Flipside, so they start exporting their goods to Flipside in order to attract their currency (called Flips 🙂 ).  In order for this to work they have to make their prices cheaper than Flipside’s manufacturers.  Now in this situation, the expected steady state would be for both wages and prices in Flipside to fall to half what they were as the economy is twice the size as it was with no change in the money supply, but this is a disaster for anyone in Flipside who had taken out a loan.  The amount owed by the Flipsider doesn’t change (as it’s contractual), but their income with which they repay the loan has halved.

As a result of Flopside’s dash for currency Flipside is made bankrupt, not by being out-competed by Flopside (as that can only last while Flopside lacks currency), but by contracts that didn’t allow for this contingency.  I wonder if there’s an element of this in our current imbalanced relationship with the emerging Asian economies.  One thing’s for sure: it would be less of a problem if our economy was based more on equity then on debt.