What is money? Back to the basics
- This page is part of an ERW course, Principles of economic restoration. By John Eagles, October 28, 2008
The world is in an economic crisis that has a lot to do with the misuse and misunderstanding of what money really is. I want to take you back to a simple situation to get some deeper grasp on this topic.
First, the question, what should money be? Should it be something of value itself, for example in the form of precious metals such as gold and silver?
Let us try to see what can happen when gold is used as money. Imagine that there is one small tribe living on an island. That island is the entire world. There are no other people in the world, no other treasures than those that are available on the island. Furthermore, on the island there are people cultivating grain and baking bread from that. Other inhabitants make simple tools. Let us say, for the sake of simplicity, that the gold is present in the form of nuggets, the bread in the form of loaves, and the pieces of tools and the loaves of bread and the nuggets of gold are having the same value.
Because barter can be complicated and it is easier to carry nuggets than breads or tools along with you, the people on the island begin to use the nuggets as money. When they want to buy a bread or a tool they pay for it with a nugget of gold. It is easy to see that eventually this is going to be a problem, because the amount of nuggets on the island is limited and people always bake new breads and produce new tools.
The same is in principle true for the situation on a world level. When we apply a gold standard for the use of money, eventually there will come a problem because there won’t be enough gold for all the money that is needed. Apparently something is wrong with this concept and when we think more of it, we realize that many more problems could be in the making. For example, when someone in the world finds a new source of gold and mines it, that will increase the supply of gold on the market. Because in this case the increase of gold is not necessarily related to the increase of overall production, there comes a surplus of money in circulation and those people who find the gold get relatively richer and all other people become poorer due to inflation of the gold value.
How can this problem be solved?
Let us go back to the island and see what can be done. Suppose there is a government on the island that issues paper money. All that has economical value, all valuable things on the island are weighed and measured. The total value of all this is counted and a equivalent value of paper money is issued for it.
What is the meaning of this money? This money itself is worthless, because it is only paper. The meaning however is that it is a token of ownership. The tokens legitimize that people have ownership of property. It is like the government is saying: ‘When you own these tokens, it means that you rightfully own this land and this house and these things.’
Now people can use the paper money, the tokens of ownership to exchange them in buying and selling.
People are creative and produce new things. If the total money available on the island would not be increased accordingly, money units would increase in value and the system would not work anymore. There would not be enough money anymore in circulation for people to buy things. The total amount of money on the island should always equal the total value of all the things. A government should have some kind of instrument for measuring this.
What about services done by people, for example, there might be a medicine person on the island who offers services of healing? Such services can be paid for with the tokens of money, with the paper money that is acquired by those who produce things. It is equivalent to when a cured patient gives to the healer some of the products of his land.
The more that the islanders are creative and productive, the more there comes room for people who earn their money by serving.
The government can take in taxes in the same way. Also government officials are servants and their services can be paid for with money raised from taxes. When the members of the tribe are very creative and industrious they can produce more than they need for survival and from this extra produced value of money, public roads and houses etc. can be built.
How should newly issued money be brought into circulation? Let me make this simple again. The newly issued money stands for the increased value of things produced on the island. But the newly issued money is in the hands of the government that issues the money and it is not in the hands of those who produced the added value. Such money should therefore be made available to the citizens and one righteous way to do it is by decreasing taxes. The productivity of all islanders results in the government having more money, but not causing a problem in this case because this new money does represent the increase of value of all things on the island and it is coming into circulation, for example, because the government pays its servants with such money.
I realize that it won’t be easy to translate this example into the complex monetary system of today’s world. But I do believe that the only way to get out from the present economic confusion is to understand the fundamental principles of what money really is and should be.
When we apply such basic principles as a standard, it is easy to see that many financial practices of today are simply corrupt. For example, if people earn money by speculating on the stock markets, they aren’t producing anything and in most cases are not offering any service, so strictly speaking they should not be rewarded for this.
Also governments or banks that make paper money out of thin air, if it is money that is not backed up by a real increase of value of things, are acting in a criminal way. Because they own that newly made money which is taking away from the value of all the money that is in the hands of people.
A main government’s task would be to guarantee the righteous control and circulation of money for the good of all.
I appreciate any thought of my readers to further develop or adapt these thoughts. I realize that the words I am using are not all accepted economic terms, but I am sure that there are people around who can do this better than i.
Summary
- A gold standard for money is possible but will eventually lead to problems
- Issuing and controlling of money should be in the hands of sovereign governments and private persons should not have any influence on this
- The total amount of money in circulation should be in accordance to the value of things that are available in the country
- If a population is creative and productive, this should result in issuing more money by the government and could lead to a decrease of taxes or extended government service
