So What Is Money… Really
There is an aphorism that states “it’s not getting the right answer but asking the right question” that is crucial. Readers of this site are surely aware of blurbs like ‘real money’, ‘honest money’, ‘Fiat’ money, printed money, borrowed money… ad infinitum.
Indeed, Aristotle named the desirable qualities of money;
Money must be lasting
Money must be portable
Money must be divisible
Money must have inherent value
What question were Aristotle’s qualities the answer to? The question ‘what makes good vs not so good money’. This question is fundamentally different from ‘what is money’. If we ask what money is better/not so good, we assume that we already know what money is, and what money is not… a big assumption.
During recorded history, many things played the role of ‘money’ (mainly store of value and medium of exchange); cattle (pecus… Roman origin of pecuniary) salt (origin of salary) cowry shells, cacao beans, already cigarettes in POW camps during WWII… and of course Gold and Silver by the ages.
But before thinking about what is better money, we need to decide what is money… bad or good… and what is not money. One way to understand this division is to study history; the history of money… and the history of real vs. fake money.
Notice that cattle, salt, cowry shells, cacao beans, cigarettes, monetary metals etc. are all some kind of ‘stuff’… that is they are real items. Not a single ‘potential’ or ‘IOU’ in the bunch. however, paper ‘money’ (bank notes) is nothing but a potential… of something.
To make this clear, let’s simplify; consider a pound of sugar as the ‘stuff’… and an ‘IOU a pound of sugar’ as the potential. I borrow a pound of sugar from you, and give you an IOU for ‘one pound of sugar’; then the difference becomes obvious; the ‘stuff’ (pound of sugar)… and the potential… the paper IOU.
So what, you say? Well, you can certainly use the sugar to sweeten your coffee… but not so much the (paper) IOU. If you keep up the pound of sugar, great; you have ownership, and can put it to use; but the IOU, no way. Only if you redeem the IOU will you keep up any real value.
Notice that the pound of sugar is an asset… no matter who holds it. however, the IOU is an asset while it is in your hand; a claim on a pound of real sugar. Crucially, from my point of view the very same IOU is a liability; after all, it is a claim on me for a real item, a pound of sugar that I have to give back to you on being presented with the IOU.
The IOU is either an asset or a liability, depending on the point of view; the writer of the IOU vs. the holder. however, sugar is a ‘pure’ or ‘real’ asset; valuable no matter in whose hand it happens to reside.
This is what Aristotle considered ‘inherent value’… sugar has ‘inherent’ value, instead of the ‘derived’ value the IOU has. In simple words, the IOU has value only in so far as it is redeemed… and redeemable. This is often called ‘credit risk’ or ‘counter-party’ risk… the IOU is not very tough; it will become worthless if the IOU writer defaults. Real stuff has no counter-party risk.
The very same IOU that is an asset in your hand is my liability… after all, if you present me the IOU, I am obligated to return to you a pound of real sugar… and so extinguish the IOU. Indeed, once redeemed, the IOU becomes worthless; paid in complete… but the pound of sugar is nevertheless a pound of sugar… certainly not worthless.
consequently, money extinguishes debt; that is the hallmark of ‘real’ money. When (if!) I return your pound of sugar, the IOU is redeemed; the debt disappears, is extinguished by real ‘stuff’. We could already negotiate that instead of a pound of sugar, I give you ½ pound of salt; if you agree, then the IOU is also extinguished, again by real stuff. Substitute Silver and Gold for sugar and salt…
Suppose you decide to trade your IOU to Jane for the pound of sugar, instead of handing it back to me… if Jane agrees, you get your pound of sugar… but the debt is NOT extinguished; now Jane holds it, and I will have to give Jane the pound of sugar if she presents me with my IOU. The IOU served as medium of exchange; but NOT as extinguisher of debt. IOU plays (fake) monetary role, but is not money as it cannot extinguish debt.
Not only that; suppose I do not use the pound of sugar I borrowed, but instead lend it to Joe; in turn, Joe gives me an IOU for a pound of sugar… and magically, one pound of real sugar now has two IOU’s against it. Who would have thought! One pound of sugar, two IOU’s claiming the same pound of sugar. This course of action can grow in number with no end in sight; Joe could lend out the sugar again, etc… Endless IOU’s ‘backed’ by the same pound of sugar.
If you come to claim your pound of sugar, that I no longer keep up, I cannot give you your sugar. Joe now has it; all I have is another IOU. Would you exchange the IOU that I gave you for the IOU Joe gave me? insignificant exchange of debt notes… We start to see how real stuff is categorically different form IOU’s; debt notes masquerading as money cannot extinguish debt; they can only change the holder of the debt.
But it gets better, not just for silly debt like a pound of sugar IOU, but for debt in the real world. Let’s look at two companies; call them Co. ‘A’ and Co. ‘B’. Company ‘A’ makes grommets… and Company B buys grommets in order to incorporate them into its own product line of widgets. ‘A’ sells a hundred grommets to ‘B’; then on ‘A’s books, in Accounts Receivable, an entry is produced for ‘one hundred grommets sold to ‘B’ for 100 monetary units, payable in 30 days’.
Similarly, in ‘B’s books, in Accounts Payable, an entry is produced for ‘one hundred grommets bought from ‘A’ for 100 monetary units, payable in 30 days’. So far, nothing uncommon; in 30 days, ‘B’ pays ‘A’, and the accounts are settled… the IOU is redeemed. Notice the IOU (for 100 grommets) is an asset on ‘A’s books, but a liability on ‘B’s book… just like the IOU pound of sugar. These IOU’s are two faced, assets and limitations at the same time, depending on point of view.
Now suppose management of ‘A’ and ‘B’ decide to merge the two companies; ‘A’ and ‘B’ merge to become Company ‘Z’. So what happens? Well, the books of ‘A’ and ‘B’ are consolidated; the total assets and total limitations are additional, and appear in the books of the newly produced Company ‘Z’.
But wait; if ‘B’ owes ‘A’ (payable of ‘B’, receivable of ‘A’) and ‘A’ and ‘B’ no longer exist, will these numbers be transmitted to ‘Z’; that is, ‘Z’ owes 100 monetary units… to ‘Z’? Whoa. No way; the items cancel each other… any debts or payments due to other companies will stay… but the ‘A-B’ transactions cancel out. The IOU is consolidated out of existence by the merger of two before independent companies.
Meanwhile, what about the grommets that ‘B’ just bought? Clearly these are now in the inventory of ‘Z’; and ‘Z’ will incorporate them in its product line of widgets. The real stuff stays; the IOU’s disappear. Real stuff is potentially money; real money cannot just disappear. IOU’s are not money; they can and do disappear. It’s that simple. Now substitute Treasury and Federal save for ‘A’ and ‘B’, substitute treasury bills and Fed notes for grommets and widgets!
The bottom line; real stuff, ‘pure’ assets can be ‘real’ money… good or not so good. IOU’s that are assets/limitations cannot. Unfortunately, the information asset is misused, applied to both ‘pure’ assets and to promises that are assets in one hand but limitations in another. This is the chief reason why the fake money system we currently live under is dying… and only real money comprising real assets can save our economy… and our civilization.