Everything You Know About Money Is Wrong


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We Can’t Fix What We Don’t Understand

Bloomberg notes this week that the conventional theory of why money was created is wrong:

There are, broadly speaking, two accounts of the origin and history of money. One is elegant, intuitive and taught in many introductory economics textbooks. The other is true.

The financial economist Charles Goodhart, a former member of the Bank of England’s Monetary Policy Committee, laid out the two views in a 1998 paper, “The Two Concepts of Money: Implications for the Analysis of Optimal Currency Areas.”

The first view, the “M View,” is named after the Austrian 19th century economist and historian Karl Menger, whose 1882 essay “On the Origins of Money” is the canonical statement of an argument that goes back to Aristotle:

As subsistence farming gives way to more complex economies, individuals want to trade. Simple barter (eight bushels of wheat for one barrel of wine) quickly becomes inefficient, because a buyer’s desires won’t always match up with a seller’s inventory. If a merchant comes through the village with wine and all a farmer has to offer is wheat, but the merchant wants nuts, there’s no trade and both parties walk away unfulfilled. Or the farmer has to incur the costs of finding another merchant who will exchange wheat for nuts and then hope that the first merchant hasn’t moved on to the next village.

But if the merchant and the farmer can exchange some other medium, then the trade can happen. This medium of exchange has to be what Menger calls “saleable,” meaning that it’s easily portable, doesn’t spoil over time and can be divided. Denominated coins work, shells and beads also fit the bill. So do cigarettes in POW camps and jails and Tide laundry detergent for drug dealers. This process, Menger argues, happens without the intervention of the state: “Money has not been generated by law. In its origin it is a social, and not a state institution.” [Menger’s view is the commonly-accepted theory of  money.]

Goodhart points out, however, that Menger is just wrong about the actual history of physical money, especially metal coins. Goodhart writes that coins don’t follow Menger’s account at all. Normal people, after all, can’t judge the quality of hunks of metal the same way they can count cigarettes or shells. They can, however, count coins. Coins need to be minted, and governments are the ideal body to do so. Precious metals that become coins are, well, precious, and stores of them need to be protected from theft. Also, a private mint will always have the incentive to say its coins contain more high-value stuff than they actually do. Governments can last a long time and make multi-generational commitments to their currencies that your local blacksmith can’t.

But why oversee money creation in the first place? This brings us to the second theory of money, which Goodhart calls the “C View,” standing for “cartalist” (chartalist is a more common spelling). To simplify radically, it starts with the idea that states minted money to pay soldiers, and then made that money the only acceptable currency for paying taxes. With a standard currency, tax assessment and collection became easier, and the state could make a small profit from seiginorage.

The state-coin connection has far more historical support than Menger’s organic account. As Goodheart points out, strong, state-building rulers (Charlemagne, Edward I of England) tend to be currency innovators, and he could have easily added Franklin D. Roosevelt’s taking the U.S. off the gold standard in 1933 or Abraham Lincoln financing the Civil War with newly issued greenbacks. The inverse is true too: When states collapse, they usually take their currencies with them. When Japan stopped minting coins in 958, the economy reverted to barter within 50 years.  When the Roman Empire collapsed in Western Europe, money creation splintered along new political borders.

If money came about independent of states, as according to the M View, one would think it would outlast transient political structures. Historically, however, this tends not to be the case, a strong argument in favor of the C View.

Anthropologist David Graeber – who has extensively studied the history of money and debt – agrees:

There’s a standard story we’re all taught, a ‘once upon a time’ — it’s a fairy tale.

***

Rather than the standard story – first there’s barter, then money, then finally credit comes out of that – if anything its precisely the other way around. Credit and debt comes first, then coinage emerges thousands of years later and then, when you do find “I’ll give you twenty chickens for that cow” type of barter systems, it’s usually when there used to be cash markets, but for some reason – as in Russia, for example, in 1998 – the currency collapses or disappears.

***

Taxes are also key to creating the first markets that operate on cash, since coinage seems to be invented or at least widely popularized to pay soldiers – more or less simultaneously in China, India, and the Mediterranean, where governments find the easiest way to provision the troops is to issue them standard-issue bits of gold or silver and then demand everyone else in the kingdom give them one of those coins back again. Thus we find that the language of debt and the language of morality start to merge.

***

How did this happen? Well, remember I said that the big question in the origins of money is how a sense of obligation – an ‘I owe you one’ – turns into something that can be precisely quantified? Well, the answer seems to be: when there is a potential for violence. If you give someone a pig and they give you a few chickens back you might think they’re a cheapskate, and mock them, but you’re unlikely to come up with a mathematical formula for exactly how cheap you think they are. If someone pokes out your eye in a fight, or kills your brother, that’s when you start saying, “traditional compensation is exactly twenty-seven heifers of the finest quality and if they’re not of the finest quality, this means war!”

Money, in the sense of exact equivalents, seems to emerge from situations like that, but also, war and plunder, the disposal of loot, slavery. In early Medieval Ireland, for example, slave-girls were the highest denomination of currency. And you could specify the exact value of everything in a typical house even though very few of those items were available for sale anywhere because they were used to pay fines or damages if someone broke them.

But once you understand that taxes and money largely begin with war it becomes easier to see what really happened.

Graeber provides an example:

We tend to forget that in, say, the Middle Ages, from France to China, … money was … whatever the king was willing to accept in taxes.

Graeber also notes that the first word for “freedom” in any language is the word for “debt-freedom”, and that much of the language of the great religious movements revolved around forgiveness of debts.  And the founders of the Christian and Jewish religions focused on the importance of debt jubilees.

In addition, most Americans don’t realize that our current money system does not serve the public good, but instead continuously sucks the prosperity and vitality out of our economy.  As Henry Ford noted:

It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.

Some claim that public banking is the answer. Others look to gold or Bitcoin as a saner alternative to fiat currencies.

As we noted in 2011, maybe we should get beyond all systems which keep track of exactly to the penny who owes what to whom … in the manner required for warfare and slavery:

Graeber hints at one possibility [for a way out of the money-debt trap]:

[French anthropologist Marcel Mauss] was one of the first anthropologists to ask: well, all right, if not barter, then what? What do people who don’t use money actually do when things change hands? Anthropologists had documented an endless variety of such economic systems, but hadn’t really worked out common principles. What Mauss noticed was that in almost all of them, everyone pretended as if they were just giving one another gifts and then they fervently denied they expected anything back. But in actual fact everyone understood there were implicit rules and recipients would feel compelled to make some sort of return.

What fascinated Mauss was that this seemed to be universally true, even today. If I take a free-market economist out to dinner he’ll feel like he should return the favor and take me out to dinner later. He might even think that he is something of chump if he doesn’t and this even if his theory tells him he just got something for nothing and should be happy about it. Why is that? What is this force that compels me to want to return a gift?

This is an important argument, and it shows there is always a certain morality underlying what we call economic life.

In other words, in communities or webs of human interaction which are small enough that people can remember who gave what, we might be able to set up alternative systems of money and credit so we can largely “opt out” of the status quo systems of money and debt measurement.

I’m not arguing for becoming Luddites and living in mud huts (but that is fine, if you wish to do so). Nor am I suggesting that we all have to become selfless saints who give away all of their possessions without any reasonable expectation of something in return.

I am arguing that it might be possible to empower ourselves – and create our own systems for keeping track on a local or people-centered basis, and create our own vibrant economies using the resources we have – by moving away from the national and global systems dominated by the biggest banks and oligarchs, and towards a system where we “spend” resources and goodwill into our local communities in a way in which trust is built from the ground-up, and the energy of trade and commerce can be re-started. [Trust is – after all – the basis for all prosperous economies.]

Postscript: Mainstream economists will argue that we need a universal, fungible type of money in order to trade on a global basis. But because currencies are now unpegged from anything in the real world and are traded on the currency markets, their values fluctuate wildly in the modern world. In other words, one of the essential characteristics for money – that they represent a universal, fixed yardstick – has disappeared. And fiat currencies have a very short lifespan. So how valuable are they, really, for anyone but forex speculators?

Until we learn what money, credit and debt really are, we will remain victims … getting poorer and poorer.

Postscript: The Bible says that the love of money is the root of all evil.  On the other hand, the father of modern economics (Adam Smith), Ronald Reagan, economist Milton Friedman, Wall Street titan Ivan Boesky and students who take economics classes all say that greed is good.

Both are naive.

Money and currency are good to the extent that they help create abundance for ourselves and our communities.  They are bad to the extent that they are used to promote warfare and slavery, and that they suck prosperity out of the system.

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  • Craig

    “All for ourselves, and nothing for other people, seems, in every age of the world, to have been the vile maxim of the masters of mankind.” Adam Smith

    This hardly sounds like someone who was a proponent of “greed is good”.

    I heard somebody say one time that Adam Smith is widely revered but rarely read. I would encourage you to read at least the first volume of An Inquiry into the Nature and Causes of the Wealth of Nations, commonly known by its shortened title The Wealth of Nations.

    • Honest Harry’s Used Cars

      Before anyone reads -The Wealth of Nations-, they should read Adam Smith’s -The Theory of Moral Sentiment-. This precursor work, in which Smith clearly find the basis for morality -as he knew it- to be wrapped up in religion and justice, should come as quite a shock to those who have spouted how good greed is.

      Adam Smith, unlike most of those who cite him as their economic prophet, knew there were far more important things -than the wealth of nations.

    • http://chimaeraimaginarium.wordpress.com/ Richard_William_Posner

      You’re quite correct.

      As Adam Smith conceived it, the invisible hand was to be an instrument of divine intervention. Sadly it has not quite worked out that way. Many of his assumptions were flawed in that they were based in a perfect world where the honesty and integrity of individuals involved in industry and
      commerce would be above reproach.

      Oddly enough, Mr. Smith was perfectly aware of such shortcomings as greed and dishonesty among merchants.

      “People of the same trade seldom meet together, even for merriment and diversion, but the
      conversation ends in a conspiracy against the publick, or in some contrivance to raise prices.”

      Adam Smith, An Inquiry into the Nature and Causes of the Wealth of Nations, Chapter X, Part
      II, Inequalities occasioned by the Policy of Europe, Pg. 145

      Nevertheless, he put forth his theory as if he expected god to intervene in bringing about the perfect world he envisioned. Were he alive today he would surely be deeply disappointed.

      “Smith was profoundly religious, and saw the “invisible hand” as the mechanism by which a
      benevolent God administered a universe in which human happiness was maximised.”

      (source)

      “Unfortunately, today’s conservatives have corrupted the meaning of Smith’s term. They use it to suggest that the pursuit of self-interest in the economy will always (or almost always) result in group benefit, and that individuals should feel free to pursue it.” (source)

      • Norman

        Your first link invites assumptions of Smith are just that. Assumptions. He wasn’t particularly religious and certainly had no supernatural basis for his “invisible hand”.

        And if you actually *read* Smith you will see that your second source has it exactly wrong. Smith DID expect the pursuit of self-interest to result in group benefit.

        Nor do I see where he envisioned a “perfect world”. Simply the “least worst” world possible for humans.

        Please stop spreading this Zeitgeist claptrap and actually read the source.

        • ColdWarBaby

          I’m sorry. I’ve only read a few of Smith’s works:

          The Theory of Moral Sentiments

          An Inquiry into the Nature and Causes of the Wealth of Nations

          Essays on Philosophical Subjects with Dugald Stewart’s Account of Adam Smith (Stewart was a Scottish Enlightenment philosopher and mathematician.)

          Lectures on Rhetoric and Belles Lettres

          Lectures on Jurisprudence

          THE GLASGOW EDITION OF THE WORKS AND CORRESPONDENCE OF ADAM SMITH Commissioned by the University of Glasgow

          So, I’ll be sure to avoid spreading any “claptrap” in the future. Instead, as the world goes to hell in a handbasket and the human race races headlong into extinction, I’ll spend my time trying to incite arguments about differences of opinion rather than trying to do something about it.

          Oh, and I’ll do my best to remember to close my comments with a snide and self-righteous innuendo.

  • Eric

    What we need is an objective system for assigning values to commodities that is independent of any currency. For instance, we could value things by the amount of work (joules, BTUs, etc) it takes to bring them to market. That doesn’t necessarily mean that we should replace money, but having a universal standard for exchange would open the door to local currencies that could avoid the spasms that occur with a nationwide currency.

    Until we can express the true relative values of all commodities, money is always going to wind up in the hands of a few people who know how to disguise value and make uneven trades.

  • http://profiles.google.com/joyrip.r Joyce R

    MMT gives all the details of the money system: http://neweconomicperspectives.org/p/modern-monetary-theory-primer.html

  • http://www.facebook.com/people/Ken-Brodeur/1819964077 Ken Brodeur

    Excellent article. Ultimately, value is at the heart of the matter. Too many people simply value the system we now have and can not untie themselves from it. I have tried to work in a personal system of debt and trade, which is limiting but sometimes useful. The best method for people to barter, is microfarming, using a large variety of farm products. Vegetables, chicken eggs and goats or cow milk would be optimum. Unfortunately, too many people live in small apartments and thus only your know-how and labor can be used along with growing a small amount of food.
    Still, find a community garden, work and eat out of it, your health will improve you will learn timeless knowledge and for the unemployed it will allow you to remain healthy and active. It is better than collecting a government dole, which is becoming, not only unsustainable but repressive with talk of drug testing and required work. It is slavery in a coercive manner. Gardening and microfarming may seem to make you a ‘Luddite’ but freedom from the government is ultimately worth it.

    • nveric

      I’ve been un-employed too long to remember that system. Let’s see, a penny is one cent, right?

      Cities came without disclaimers attached – Use at your own risk.

      Getting people off the farm, worked, but the rest will not work when greed rules over mutual benefit. They kept the same business model all of these years – ‘Extract all one can. Think not of the future at all.’ We were warned in the 60s that something like this was going to happen eventually, but NO, idiot Reagan paved the way for our destruction.

      • ColdWarBaby

        Actually, Wilson paved the way when he signed the federal reserve act in 1913, which turned the control of the monetary system over to a private, for-profit banking cartel.

        This meant the government could no longer issue debt-free money and spend it into circulation but had to borrow it with interest due. This is called usury. Just to keep things interesting, only the principal is created. No money is created to pay the interest.

        “Since only the principal was lent into the money supply, more money was eventually owed back in principal and interest than the townspeople as a whole possessed. They had to continually take out loans of new paper money to cover the shortfall, causing the wealth of the town and eventually of the country to be siphoned into the vaults of the goldsmiths-turned-bankers, while the people fell progressively into their debt.” (source)
        (This is exactly the situation that exists today but on a global scale. And not only individuals but governments and businesses are trapped in this quicksand of usury and debt.)

        “Once a nation parts with the control of its currency and credit, it matters not who makes the nations laws. Usury, once in control, will wreck any nation. Until the control of the issue of
        currency and credit is restored to government and recognized as its most sacred responsibility, all talk of the sovereignty of parliament and of democracy is idle and futile.”

        William Lyon Mackenzie King, the tenth Prime Minister of Canada

        • nveric

          “…this quicksand of usury and debt.)”

          That is if we all continue playing this game. And, it is a game, a child’s game.

          • ColdWarBaby

            I certainly agree that our system is based upon fraud. Nonetheless, you know as well as I what happens if you refuse to pay your “debts”.

            As a matter of fact, the use of debtors prisons is being revived. Although it’s not currently quite so blatant as it once was, the door is being opened for future escalation.

            In my opinion profit is indeed theft. The concept defies the laws of physics.

            Just my opinion.

          • nveric

            When more people act in unison for civil disobedience, it’s harder to contain. Until people start discussing this very realistic nonviolent method, there’s no hope.
            Rebellion is a right.
            Revolution is a right.

            Anyone with the slightest amount of defeatist talk must be ridiculed, shouted down, despised, verbally abused, and so on. Sanity requires we do this. The fence sitter, the non-voter, the party followers, all are grossly failing the system. It’s TREASON the way most Americans behave. Chicken-Shits are everywhere.

            No, I’m not saying these things to you, today, but in the future everyone must be a target if they fail to support the only proper way of proceeding concerning the economic and political spheres, which is open rebellion. Our futures demand we demand.

          • ColdWarBaby

            I don’t disagree, in principle. Back during the dubya years I frequently suggested that a general strike was needed. Shut down the entire country for a few days and see what happens.

            The simple fact is that this is simply another repetition of the cycle of history and empire and it will most likely come to the same conclusion as most of the previous cycles: violence. Only this time, for the first time, it will likely be on a truly global scale.

            The ruling class will ignore our protests as long as possible. When they can no longer do so, they will simply resort to brute force.

            “Those who make peaceful revolution impossible will make violent revolution inevitable.”
            President John F. Kennedy

          • nveric

            When I’m calm, seems no one notices.

            Only Nonviolent action is what I mean. Revolution is just a word, same with rebellion. Many of our words get skewed by one side or the other. Well, I’m not with either of our two ruling parties, as I’m Independent.

            Here’s a starter on how to without violence.
            http://www.aeinstein.org/selfLiberation.html

          • ColdWarBaby

            I’ve had the Albert Einstein Institution bookmarked for a long time and I am also apolitical.

            I agree that only nonviolent action should be used but I’ve been forced to the conclusion it won’t happen.

            I’d be pleased to be proved wrong but I don’t expect I will be. But, at 66, it’s very likely I won’t be around to find out.

          • nveric

            I admit 2 days ago my restraint loosened some.

            When I first saw “How to Start a Revolution” I knew instantly this was what I was missing, the means to lessen the drawbacks of confronting the enemy.

            Why it was kept a secret from me….. but more so, why the heck wasn’t the federal government using it instead of killing people — because the People will use it too. And, I’ve extrapolated this form of action where a stalemate could occur domestically. Even so, it must be implemented ASAP.

            While I’m slightly younger than you, it’s never too late to be called to action. There’s a place for all ages to be utilized. Preserving our lives comes first. What preserving means, is for each to decide.

        • nveric

          “…this quicksand of usury and debt.)”

          That is if we all continue playing this game. And, it is a game, a child’s game.

      • ColdWarBaby

        Actually, Wilson paved the way when he signed the federal reserve act in 1913, which turned the control of the monetary system over to a private, for-profit banking cartel.

        This meant the government could no longer issue debt-free money and spend it into circulation but had to borrow it with interest due. This is called usury. Just to keep things interesting, only the principal is created. No money is created to pay the interest.

        “Since only the principal was lent into the money supply, more money was eventually owed back in principal and interest than the townspeople as a whole possessed. They had to continually take out loans of new paper money to cover the shortfall, causing the wealth of the town and eventually of the country to be siphoned into the vaults of the goldsmiths-turned-bankers, while the people fell progressively into their debt.” (source)
        (This is exactly the situation that exists today but on a global scale. And not only individuals but governments and businesses are trapped in this quicksand of usury and debt.)

        “Once a nation parts with the control of its currency and credit, it matters not who makes the nations laws. Usury, once in control, will wreck any nation. Until the control of the issue of
        currency and credit is restored to government and recognized as its most sacred responsibility, all talk of the sovereignty of parliament and of democracy is idle and futile.”

        William Lyon Mackenzie King, the tenth Prime Minister of Canada

  • http://chimaeraimaginarium.wordpress.com/ Richard_William_Posner

    The creation of money goes back thousands of years.

    “Overvaluation did not depend on coinage. Banking is one form of such representative money. In
    the ancient empires of Egypt, Babylon, India and China, the temples and palaces represented important centers of production and they quickly became the centers of storage of grains and the precious metals, typically under the control of palace administrators and the priesthood.
    When commodities were thus accepted in the centralized warehouses, it would have been natural for the stewards of the palaces to issue some kind of certificate of deposit that would certify the evidence of debt. Probably these certificates from the temple-banks would be readily accepted in [generally payments] [sic] and could circulate as a form of (overvalued) money.”

    Columbia University, Department of Economics, Discussion Paper Series, The Birth of Coinage, Robert A. Mundell, Discussion Paper #:0102-08, Pages 12 & 13

    The evidence is clearer for the goldsmith bankers of seventeenth century England.

    Merchants of that time bartered with gold. They also found it necessary to travel a good deal to conduct their business. Gold in any significant quantity was too heavy and cumbersome to be carried everywhere
    about. More significantly it was too great a temptation to those who didn’t have any and knew that travelling merchants did.
    It became common practice for these merchants to store their precious metals with goldsmiths, who had the strongest, most secure safes and storage facilities available. The goldsmiths would issue paper receipts to their depositors, which were then used as a medium of exchange in place of the gold coins they represented. These receipts were also used by people who needed to borrow gold coins.
    “The mischief began when the goldsmiths noticed that only about 10 to 20 percent of their receipts came back to be redeemed in gold at any one time. They could safely “lend” the gold in their strongboxes at interest several times over, as long as they kept 10 to 20 percent of the value of their outstanding loans in gold to meet the demand. (so usury was part of the banking scam from the beginning)
    They thus created “paper money”* (receipts for loans of gold) worth several times the gold they actually held. They typically issued notes and made loans in amounts that were four to five times their actual supply of gold. At an interest rate of 20 percent, the same gold lent five times over produced a 100 percent return every year, on gold the goldsmiths did not actually own and could not legally lend at
    all. If they were careful not to overextend this “credit,” the goldsmiths could thus become quite wealthy without producing anything of value themselves.
    (as do today the pathological parasites of the spurious “financial industry”)
    Since only the principal was lent into the money supply, more money was eventually owed back in principal and interest than the townspeople as a whole possessed. They had to continually take out loans of new paper money to cover the shortfall, causing the wealth of the town and eventually of the country to be siphoned into the vaults of the goldsmiths-turned-bankers, while the people fell progressively into their debt.” (This is exactly the situation that exists today but on a global scale. And not only individuals but governments and businesses are trapped in this quicksand of usury and debt.)

    • nveric

      “This is exactly the situation that exists today but on a global scale.
      And not only individuals but governments and businesses are trapped in
      this quicksand of usury and debt.”

      But, the difference is there’s nothing backing this money. No one’s money is any more real than what it can buy. Take it to a bank or the US Treasury, and they will only give you the same money back. Our World Wide system is not of real substance. It’s slightly better than play money. Even gold was given a value, and is, and was, not real money, just something of limited and desired value – a commodity. Money, past and present is an abstraction of labor.

      And, it’s this profit thing which creates all of the inflation – I grab without looking, but instead hear the fox – or at least a good portion of it, because it is impossible to make money on money unless you make it up. I suppose the federal government’s debt does some inflating too. However, profit comes from a present loss, or an infinite future of growth. Any way we look at this system, it’s not going to work, it doesn’t work, it can’t work.

      What will save people is agreeing to prevent any plan which diminishes current ownership by way of any type of property going to banks or the government. We, the People, simply must never accept any losses from their criminally dishonest system. If we don’t fight FOR each other, then we will all die from each other.

      • http://chimaeraimaginarium.wordpress.com/ Richard_William_Posner

        What should money be backed by?

        Representative currency, which is nothing but a receipt exchangeable for the commodity it represents, is not money. It’s a convoluted form of barter.

        Fiat money isn’t the problem. It’s the private issue and control of fiat money, for profit, usury, that’s the problem.

        “So both Aristotle and Plato noted the paramount principle – that the nature of money is a fiat of the law, an invention or creation of mankind. This principle, part of a lost science of money, must now be relearned in the 3rd Millennium in order to achieve the monetary reforms needed to move back from the brink of nuclear disaster, to move away from a future dominated by fraud and ugliness, toward a world of justice and beauty.”
        Stephen Zarlenga, “The Lost Science of Money”

        • nveric

          Money is another thing people have no control over. Meaning along with all else, we are born into it being there. It’s a much longer term thing or concept being forced on people. As you point out it’s privately created and as a loan too. But it’s also increased and decreased by the same private parties who charge for it. This arraignment, besides being a “cost” service, seems to show the absolute haphazard solution to the absolute haphazard understanding of money, banking, and economic theory. The interests of private concerns is the only control – however so noble they are. This further illustrates the absurdity of the situation and reinforces my view of money being not much better than Monopoly money. More over, concluding further we arrive at mass delusion and mass insanity of our entire economic, social, and political systems World-Wide.

  • Mark

    This idea is not new, it is called the ‘gift economy’. Read Charles Eisenstein’s Sacred Economics.

  • http://www.facebook.com/scott.cundill Scott Colin Cundill

    What a phenomenal article.

  • Guest

    What Everyone Ought To Know About Money covers it all http://knowaboutmoney.com

  • RJG

    It is hard to believe the willful ignorance needed to sell this farce.

 

 

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