WEBVTT NOTE The Genesis of Money 1 00:00:00.000 --> 00:00:03.000 The Genesis of Money 2 00:00:03.000 --> 00:00:09.000 It is impossible to understand money and how it functions and therefore how the Fed functions 3 00:00:09.000 --> 00:00:16.000 without looking at the logic of how money, banking and central banking developed. 4 00:00:16.000 --> 00:00:23.000 The reason is that money is unique in possessing a vital historical component. 5 00:00:23.000 --> 00:00:40.000 You can explain the needs and the demand for everything else, for bread, computers, concerts, airplanes, medical care, and so forth, solely by how these goods and services are valued now by consumers. 6 00:00:40.000 --> 00:00:45.000 For all of these goods are valued and purchased for their own sake. 7 00:00:45.000 --> 00:01:05.000 But money, dollars, francs, lira, and so forth is purchased and accepted in exchange not for any value the paper tickets have per se, but because everyone expects that everyone else will accept these tickets in exchange. 8 00:01:05.000 --> 00:01:14.000 And these expectations are pervasive because these tickets have indeed been accepted in the immediate and more remote past. 9 00:01:14.000 --> 00:01:20.000 An analysis of the history of money then is indispensable for insight into how the monetary 10 00:01:20.000 --> 00:01:23.000 system works today. 11 00:01:23.000 --> 00:01:29.480 Money did not and never could begin by some arbitrary social contract or by some government 12 00:01:29.480 --> 00:01:35.200 agency decreeing that everyone has to accept the tickets it issues. 13 00:01:35.200 --> 00:01:41.640 Even coercion could not force people and institutions to accept meaningless tickets that they had 14 00:01:41.640 --> 00:01:56.640 Money arises on the free market as individuals on the market try to facilitate the vital process of exchange. 15 00:01:56.640 --> 00:02:05.640 The market is a network, a lattice work of two people or institutions exchanging two different commodities. 16 00:02:05.640 --> 00:02:09.640 Individuals specialize in producing different goods or services 17 00:02:09.640 --> 00:02:14.640 and then exchanging these goods on terms they agree upon. 18 00:02:14.640 --> 00:02:17.640 Jones produces a barrel of fish 19 00:02:17.640 --> 00:02:21.640 and exchanges it for Smith's bushel of wheat. 20 00:02:21.640 --> 00:02:25.640 Both parties make the exchange because they expect to benefit 21 00:02:25.640 --> 00:02:29.640 and so the free market consists of a network of exchanges 22 00:02:29.640 --> 00:02:33.640 that are mutually beneficial at every step of the way. 23 00:02:33.640 --> 00:02:38.640 But this system of direct exchange of useful goods or barter 24 00:02:38.640 --> 00:02:42.640 has severe limitations which exchangers soon run up against. 25 00:02:42.640 --> 00:02:50.640 Suppose that Smith dislikes fish, but Jones, a fisherman, would like to buy his wheat. 26 00:02:50.640 --> 00:03:01.640 Jones then tries to find a product, say butter, not for his own use, but in order to resell to Smith. 27 00:03:01.640 --> 00:03:14.640 Jones is here engaging in indirect exchange where he purchases butter not for its own sake but for use as a medium or middle term in the exchange. 28 00:03:14.640 --> 00:03:23.640 In other cases, goods are indivisible and cannot be chopped up into small parts to be used in direct exchange. 29 00:03:23.640 --> 00:03:35.640 Suppose, for example, that Robbins would like to sell a tractor and then purchase a myriad of different goods, horses, wheat, rope, barrels, and so forth. 30 00:03:35.640 --> 00:03:43.640 Clearly, he can't chop the tractor into seven or eight parts and exchange each part for a good he desires. 31 00:03:43.640 --> 00:04:06.640 What he will have to do is to engage in indirect exchange, that is, to sell the tractor for a more divisible commodity, say, 100 pounds of butter, and then slice the butter into divisible parts and exchange each part for the good he desires. Robbins, again, would then be using butter as a medium of exchange. 32 00:04:06.640 --> 00:04:16.640 Once any particular commodity starts to be used as a medium, this very process has a spiraling or snowballing effect. 33 00:04:16.640 --> 00:04:30.640 If, for example, several people in the society begin to use butter as a medium, people will realize that in that particular region butter is becoming especially marketable or acceptable in exchange. 34 00:04:30.640 --> 00:04:38.680 and so they will demand more butter in exchange for use as a medium and so as its use as a 35 00:04:38.680 --> 00:04:45.160 medium becomes more widely known this use feeds upon itself until rapidly the commodity 36 00:04:45.160 --> 00:04:51.920 comes into general employment in the society as a medium of exchange. A commodity that 37 00:04:51.920 --> 00:04:59.040 is in general use as a medium is defined as a money. 38 00:04:59.040 --> 00:05:05.640 Once a good comes into use as a money, the market expands rapidly and the economy becomes 39 00:05:05.640 --> 00:05:08.920 remarkably more productive and prosperous. 40 00:05:08.920 --> 00:05:14.520 The reason is that the price system becomes enormously simplified. 41 00:05:14.520 --> 00:05:20.920 A price is simply the terms of exchange, the ratio of the quantities of the two goods being 42 00:05:20.920 --> 00:05:22.420 traded. 43 00:05:22.420 --> 00:05:28.880 In every exchange, X amount of one commodity is exchanged for Y amount of another. 44 00:05:28.880 --> 00:05:35.340 Like the Smith-Jones trade noted above, suppose that Jones exchanges two barrels of fish for 45 00:05:35.340 --> 00:05:43.040 Smith's one bushel of wheat. In that case, the price of wheat in terms of fish is two 46 00:05:43.040 --> 00:05:49.660 barrels of fish per bushel. Conversely, the price of fish in terms of wheat is one half 47 00:05:49.660 --> 00:05:56.480 a bushel per barrel. In a system of barter, knowing the relative price of anything would 48 00:05:56.480 --> 00:06:03.640 would quickly become impossibly complicated. Thus the price of a hat might be ten candy 49 00:06:03.640 --> 00:06:13.640 bars or six loaves of bread or one-tenth of a TV set, and on and on. But once a money 50 00:06:13.640 --> 00:06:19.700 is established on the market, then every single exchange includes the money commodity as one 51 00:06:19.700 --> 00:06:46.700 N. Smith will sell his wheat in the same manner. As a result, every price will be reckoned simply in terms of its money price, its price in terms of the common money commodity. 52 00:06:46.700 --> 00:06:59.700 Thus suppose that butter has become the society's money by this market process. In that case, all prices of goods or services are reckoned in their respective money prices. 53 00:06:59.700 --> 00:07:12.700 Thus a hat might exchange for 15 ounces of butter, a candy bar may be priced at 1.5 ounces of butter, a TV set at 150 ounces of butter, and so forth. 54 00:07:12.700 --> 00:07:20.700 If you want to know how the market price of a hat compares to other goods, you don't have to figure each relative price directly. 55 00:07:20.700 --> 00:07:32.700 All you have to know is that the money price of a hat is 15 ounces of butter, or 1 ounce of gold, or whatever the money commodity is. 56 00:07:32.700 --> 00:07:38.700 And then it will be easy to reckon the various goods in terms of their respective money prices. 57 00:07:38.700 --> 00:07:54.700 Another grave problem with the world of barter is that it is impossible for any business firm to calculate how it's doing, whether it's making profits or incurring losses, beyond a very primitive estimate. 58 00:07:54.700 --> 00:08:02.700 Suppose that you are a business firm and you're trying to calculate your income and your expenses for the previous month. 59 00:08:02.700 --> 00:08:14.700 And you list your income. Let's see, last month we took in 20 yards of string, 3 codfish, 4 cords of lumber, 3 bushels of wheat, and so forth. 60 00:08:14.700 --> 00:08:26.700 And we paid out 5 empty barrels, 8 pounds of cotton, 30 bricks, 5 pounds of beef. How in the world could you figure out how well you were doing? 61 00:08:26.700 --> 00:08:32.700 Once a money is established in an economy, however, business calculation becomes easy. 62 00:08:32.700 --> 00:08:43.700 Last month we took in 500 ounces of gold and paid out 450 ounces of gold. Net profit, 50 gold ounces. 63 00:08:43.700 --> 00:08:53.700 The development of a general medium of exchange, then, is a crucial requisite to the development of any sort of flourishing market economy. 64 00:08:53.700 --> 00:09:03.700 In the history of mankind, every society, including primitive tribes, rapidly developed money in the above manner, on the market. 65 00:09:03.700 --> 00:09:12.700 Many commodities have been used as money, iron hoes in Africa, salt in West Africa, sugar in the Caribbean, 66 00:09:12.700 --> 00:09:19.700 beaver skins in Canada, codfish in colonial New England, tobacco in colonial Maryland and Virginia. 67 00:09:19.700 --> 00:09:26.460 of Virginia. In German prisoner of war camps of British soldiers during World War II, the 68 00:09:26.460 --> 00:09:33.180 continuing trading of care packages soon resulted in a money in which all other goods were priced 69 00:09:33.180 --> 00:09:38.740 and reckoned. Cigarettes became the money in these camps, not because of any imposition 70 00:09:38.740 --> 00:09:45.460 by German or British officers or from any sudden agreement. It emerged organically from 71 00:09:45.460 --> 00:09:51.060 and barter trading in spontaneously developed markets within the camps. 72 00:09:51.060 --> 00:09:57.500 Throughout all these eras in society, however, two commodities, if the society had access 73 00:09:57.500 --> 00:10:03.660 to them, were easily able to out-compete the rest and to establish themselves on the market 74 00:10:03.660 --> 00:10:05.620 as the only monies. 75 00:10:05.620 --> 00:10:09.020 These were gold and silver. 76 00:10:09.020 --> 00:10:11.500 Why gold and silver? 77 00:10:11.500 --> 00:10:16.260 And to a lesser extent, copper, when the other two were unavailable. 78 00:10:16.260 --> 00:10:22.820 Because gold and silver are superior in various money-ish qualities, qualities that a good 79 00:10:22.820 --> 00:10:28.300 needs to have to be selected by the market as money. 80 00:10:28.300 --> 00:10:33.060 Gold and silver were highly valuable in themselves, for their beauty. 81 00:10:33.060 --> 00:10:38.780 Their supply was limited enough to have a roughly stable value, but not so scarce that 82 00:10:38.780 --> 00:10:45.560 they could not readily be parceled out for use. Platinum would fit into the latter category. 83 00:10:45.560 --> 00:10:51.620 They were in wide demand and were easily portable. They were highly divisible as they could be 84 00:10:51.620 --> 00:10:58.360 sliced into small pieces and keep a pro rata share of their value. They could be easily 85 00:10:58.360 --> 00:11:05.140 made homogeneous so that one ounce would look like another. And they were highly durable, 86 00:11:05.140 --> 00:11:11.180 Thus preserving a store of value into the indefinite future. Mixed with a small amount 87 00:11:11.180 --> 00:11:17.140 of alloy, gold coins have literally been able to last for thousands of years. Outside the 88 00:11:17.140 --> 00:11:23.300 hermetic prisoner of war camp environment, cigarettes would have done badly as money 89 00:11:23.300 --> 00:11:28.460 because they are too easily manufactured. In the outside world, the supply of cigarettes 90 00:11:28.460 --> 00:11:34.220 would have multiplied rapidly and its value diminished nearly to zero. Another problem 91 00:11:34.220 --> 00:11:41.220 Every good on the market exchanges in terms of relevant quantitative units. We trade in bushels of wheat, packs of 20 cigarettes, a pair of shoelaces, one TV set and so forth. These units boil down to number, weight or volume. Metals invariably trade and therefore are priced in terms of weight, tons, pounds, ounces and so on. 92 00:12:04.220 --> 00:12:12.220 and so forth, and so monies have generally been traded in units of weight, in whatever language used in that society. 93 00:12:12.220 --> 00:12:20.220 Accordingly, every modern currency unit originated as a unit of weight of gold or silver. 94 00:12:20.220 --> 00:12:25.220 Why is the British currency unit called the pound sterling? 95 00:12:25.220 --> 00:12:32.220 Because originally, in the Middle Ages, that's precisely what it was, a pound weight of silver. 96 00:12:32.220 --> 00:12:39.580 The dollar began in 16th century Bohemia as a well-liked and widely circulated one-ounce 97 00:12:39.580 --> 00:12:45.640 silver coin minted by the Count of Schlick, who lived in Joachimsthal. 98 00:12:45.640 --> 00:12:52.500 They became known as Joachimsthalers or Schlicktenthalers, and human nature being what it is, they were 99 00:12:52.500 --> 00:12:59.980 soon popularly abbreviated as thalers, later to become dollars in Spain. 100 00:12:59.980 --> 00:13:05.780 When the United States was founded, we shifted from the British pound currency to the dollar, 101 00:13:05.780 --> 00:13:13.820 defining the dollar as approximately one twentieth of a gold ounce or 0.8 silver ounces.