Money – Its Origin& Its Importance

ECO 285 – Dr. Dennis Foster

Backstory – The “Austrian” School

Menger(Principles of Economics)

Böhm-Bawerk(Capital & Interest)

Mises(Theory of Money & Credit; Human Action)

Hayek(Individualism & Economic Order)

(The Road to Serfdom)

Rothbard(Man, Economy & State)(The Mystery of Banking)

The Origins of Money

Arises in a market setting …– Direct exchange (barter) gives way to …

– Indirect exchange• Goods serve as mediums of exchange.• When we settle down to one = money.

– Characteristics:• Portable, store of value, relatively scarce, divisible,

widely used, easily recognized.• If available, gold and silver.

Money solves problems …

• Double coincidence of wantsDouble coincidence of wants

– Allows for specialization of labor.

• IndivisibilitiesIndivisibilities

– Even with barter, discrete units may still be difficult.

• Calculation of profit and lossCalculation of profit and loss

– Business formation is possible.

– Division of labor Economic growth Rising living standards.

Is Money “Invented” by the State?

• No.No.– Even with the idea, it is difficult to image

how a king could create the institution of money.– Governments have long been involved w/money.

• Minting (income=seignorage) & debasing.• Issue unbacked claims to money – FR Notes.• Supplant the market money – FR Notes.

Note that money unit is some weight of …Note that money unit is some weight of …• Pound sterling – a pound of silver.• Dollar – an ounce of silver.• POW camp & cigarettes as money.

The main functions of moneyThe main functions of money

The functions money serves:The functions money serves:– medium of exchange.– unit of account.– store of value.– std. of deferred value.

Need money serve all these functions?To be money, the object must To be money, the object must

serve as a final means of serve as a final means of payment.payment.

What isn’t money?What isn’t money?

Wealth is not money.Wealth is not money. Income is not money.Income is not money. A credit card is not money.A credit card is not money.

What about . . .• Stored value cards?Stored value cards?• Electronic money?Electronic money?• ““Local” currencies?Local” currencies?

To be money, the To be money, the object must be object must be redeemable on redeemable on

demand at face value.demand at face value.

HistoryHistory

Favorable characteristics– portable, durable, recognizable, scarce, commodity– wheat, shells, precious metals– Yap stone wheels

How do we get to paper?– commodity, representative, fiat– U.S. and the “gold standard.”– Deciding on denominations and coins vs. paper.– Evolution to e-money.

The G-manThe G-man

Mint coins to create standards of purity.– Revenue source.

[Seignorage]– Beware of “debasing.”

Bank issued “notes” as money.

U.S. government - “greenbacks.”

Gold standard - 1879 to 1933/1971.

Created Federal Reserve in 1913.

The Continental StoryThe Continental Story June, 1775 – 2 million Spanish dollars in bills of credit authorized.

12 colonies pledged to redeem from 1779 to 1782.Total money supply est. at 12 million Spanish dollars.End of 1775 – 6 million Continentals issued.End of 1779 – 242 million issued!! [26C=$1]British added counterfeits.End of 1781, 168C = $1.

“A wagon load of money will scarcely purchase a wagon load of provisions”.

MeasurementMeasurement

How? - Liquidity of financial assets.

M1 = [Coins and] currency in circulation (C) + “transactions deposits” (D) + TC

M2 = M1 + (time deposits)S + MMMFIndividual

Liquidity – How fast, at full market value an asset can be converted into a means of

payment.Cash – perfectly liquid

Diamond ring – not liquidMoney – only interested in financial assets

The Monetary BaseThe Monetary Base

Monetary Base (MB) = C + bank reserves (R)

Federal Reserve has perfect control over MB:– Prints currency.

– All reserves are currency or deposits at the Fed.

The Federal Reserve has less control over M1, M2.

MB plays a role in the government’s budget: G = T + Bonds + MB

Monetary Data – M1 Monetary Data – M1

Feb. 16, 2015

$2.99 tr.

July 2, 2008

$1.4 tr.

Monetary Data – M2Monetary Data – M2

Sept. 1, 2008

$7.75 tr.

Feb. 16, 2015

$11.8 tr.

Monetary Data – Travelers Monetary Data – Travelers ChecksChecks

Monetary Data - CurrencyMonetary Data - Currency

Feb. 16, 2015

$1.27 tr.

Monetary Data - CheckingMonetary Data - Checking

Feb. 16, 2015

$1.71 tr.

Monetary Data - MBMonetary Data - MB

Feb. 18, 2015

$3.88 tr.

July 30, 2008

$877 b.

Money – Its Origin& Its Importance

ECO 285 – Dr. Dennis Foster

Yap Stone WheelsYap Stone Wheels