A. The Nature and Functions of Money In the earliest stages of culture commerce between individuals takes place exclusively by means of a direct exchange of commodities. A fish is traded for a fowl and a bow for a dozen arrows, in the same way that boys in a highly complex society often make a direct exchange of a top or a ball for a knife or a puzzle. It is in the inconvenience of this direct exchange of commodities, or barter, that we find the origin of the institution of money. The first commerce amongst men was undoubtedly carried on by 1 barter, or the exchange of one commodity for another. But as men and arts increased, a mere barter of commodities became inconvenient and insufficient in abundance of instances. For it must needs frequently happen that one man would want goods of another who had no present use for those goods which he had to give in exchange; and therefore to him these goods would be but of small value; and it might be a tedious and intricate course, before the goods of the first man could be so often bartered, till at length they became exchanged into that particular commodity which the second wanted. The same inconvenience would attend private bills, or promissory notes; for the note could not well be discharged till the man who gave it met with a customer that had goods which suited him. Added to this was the difficulty that contracts payable in goods were uncertain, for goods, even of the same kind, differ in value. One horse is worth more than another horse; wheat off one field is better than wheat off another; cows, horses, swine, etc., wheat, barley, oats, etc., might differ greatly in their value. A great disparity also would frequently happen between artificial things of the same sort, as one workman excelled another. So that in this state of barter there was no scale, or measure, by which the proportion of value which goods had to one another could be ascertained. In a state of barter there can be but little trade and few artisans. For want of a ready exchange for their goods people would look little farther than to get food and some coarse raiment: The landed men would till only so much land as sufficed their own families and to procure them those few rude necessaries which the country afforded. I Adapted from An Essay on Money and Coins (1757). Reprinted in Select Tracts on Currency, pp. 368-69. Hence, without some kind of money the arts can make no progress; and without the arts a country cannot grow populous or flourish. Ignorance and idleness will naturally beget trespasses, incroachments, wars, and contentions, ever destructive to the growth of a people. Does not this account for what we daily see, even amongst nations reckoned polite? And how important is it that the rulers of the earth should be more liberally educated? 2. A DEFINITION OF MONEY "Money is a medium of exchange." This is the common dictionary definition of the term, but, as we shall see, it is much too limited in scope and conveys but an imperfect idea of the nature and functions of money. Ask the ordinary man on the street, who knows no book definition, what money is, and he will tell you readily enough that money comprises coins of gold, silver, nickel, and copper; and paper money. He will usually not know the distinctions between greenbacks, silver or gold certificates, and bank notes; so far as he is concerned all these are merely "paper," as distinguished from "metallic" money. Such instruments as checks and drafts he would probably not consider money, though he would doubtless recognize that they perform a service very similar to that performed by money. He might add, if questioned further, that money is something specifically devoted to the work of making exchanges, and that it has been manufactured for that precise purpose. Finally, he would be sure to appreciate that the possession of money would give him purchasing power, regardless of whether he came by the money honestly or dishonestly, whether his own credit was good or bad. Bringing all this now into the semblance of a definition, we might say that money includes those instruments of exchange which pass freely from hand to hand, without reference to the personal credit of the parties concerned. Such a definition, while quite satisfactory in the ordinary world of affairs, and, indeed, while perhaps as good a cut-and-dried definition as could be given for any purpose, will require a number of qualifications and explanations for the purpose of economic analysis. We shall need to know the differences between real and representative money, and between standard and subsidiary and token money. We shall need to know, further, the functions which money serves other than as a means of exchanging commodities. 3. A COMMON DENOMINATOR OF VALUE1 It is necessary to ask, first, Why does a country need a common denominator or standard of value? Obviously, every article possessing value can be compared with other articles having value only by reference to some given standard which itself possesses value. The value of a commodity, it should be said, is the quantity of another commodity, or other commodities, for which it will exchange. To be obliged to go through an arduous comparison of one article with every other article created would be an insuperable difficulty. If a tailor had only coats, and wanted to buy bread or a horse, it would be very troublesome to ascertain how much bread he ought to obtain for a coat, or how many coats he should give for a horse. The calculation must be recommenced on different data every time he barters his coat for a different kind of article, and there could be no current price or regular quotations of value. As it is much easier to compare different lengths by expressing them in a common language of feet and inches, so it is much easier to compare values by means of a common language of dollars and cents. In short, a common denominator is as necessary in comparing the value of commodities as is a common language among many persons in any one city to enable them readily to compare ideas. Before property can be conveniently traded in, or exchanged, its value must be expressed in terms of a common denominator of value. There is, however, no absolute measure of value, as there is of length. A common denominator of value and a unit of length, like a yardstick, are wholly different in kind. A yardstick is an unvarying measure of length; but a metal, or any commodity, is not and never can be an unvarying measure of the relations of that metal or commodity to other commodities which are constantly changing relatively to each other. The very commodity chosen as a standard can be changed in value by causes affecting itself; and the other commodities (which are compared with the standard) can be changed by causes affecting them; so that the ratio of exchange with the chosen standard may be modified by causes affecting either or both terms of the ratio. It is inconceivable that any one article should alter exactly, and in a compensating direction, with innumerable other commodities. 1 Adapted from Report of the Monetary Commission of the Indianapolis Convention (1898), pp. 77-80. A wide difference is thus observable between the function of money as a common denominator of value and its function as a medium of exchange. A common denominator, whether it is a perfect one or not, is used to measure value; a medium of exchange is used to transfer value. The two processes are entirely distinct. The difference will be instantly seen by the analogy with weight: the machinery for weighing coal, the scales, does one duty; while that for transporting coal, the horses and wagon, does another duty. If, instead of coal, we think of all goods, and, instead of weight, we think of value, then money is used both as a measure of the value and also as a means of exchange although these two functions are quite distinct. In the case of value, an article, after being expressed in terms of a standard, is ready to be exchanged. But the one important idea to be kept firm hold of in all discussions of money is that when it comes to exchanging goods the metal chosen as the common denominator is not necessarily used as the medium of exchange. If gold, for instance, is chosen as the common denominator by a country, it does not at all follow that gold is used in all the transactions requiring a medium of exchange. Various forms of subsidiary currency may be and indeed usually are used instead of the standard money. The first historical fact which confronts us is that in a society which has passed beyond the stage of barter, but which has not yet developed the habits of a modern commercial nation, money is usually passed from hand to hand in buying and selling. The commodity selected as a common denominator is then, also, practically the sole medium of exchange. But as soon as commerce develops, expedients arise for saving the expense and risk of using actual money. THE FUNCTION OF A MEDIUM OF EXCHANGE1 An illustration which shows the precise nature of this function very clearly is furnished by the case of the farmer who comes to town with a load of wood, sells it for five dollars, and then spends the money buying groceries, dry goods, etc. What, now, are the characteristic features of this method of procedure? First, it is plain that the single transaction of barter has given place to two transactions, a sale of one commodity and a purchase of another. This, however, does not quite exhaust the matter. I Adapted from Some Chapters on Money, pp. 14-16. Published by the University of Michigan, 1906. Between the two transactions thus substituted for the one transaction there is necessarily an intermediate stage, an interval of waiting, long or short, which gives the farmer who has sold his wood for money a chance to get himself into relation with the men from whom he is going to buy groceries and dry goods. Further, if money exchange is going to be a really great improvement over barter, this interval of waiting must be capable of indefinite extension; for the farmer will not necessarily wish to spend the whole proceeds of his wood for groceries and dry goods or anything else on the same day that he sells that wood. It may easily be for his interest to separate sale and purchase by weeks or even months. For example, he will be selling wood every day during the good sleighing of midwinter; but he will want to do the buying part of the operation all along till summer crops begin to bring in something. It is thus evident that money exchange really breaks up barter into three parts; viz., (1) selling goods for money, (2) keeping the money till other goods are needed, and (3) using the money to buy other goods. It is further evident that in these three stages, as looked at from the standpoint of the man who starts out with goods to sell, money plays three different parts. In the first, its rôle is that of a thing which can be obtained with any goods whatsoever. In the third, its part is that of a thing which can obtain any goods whatsoever. In the second, its business is to keep-storethis power to obtain other goods. But just here we need to be a little careful. In trying to realize clearly that acting as a medium of exchange involves three stages, we must not fall into the mistake of supposing that money is to be thought of as a medium of exchange only when, and in so far as, it carries an exchange transaction completely through its three stages. Doubtless money has not entirely performed its part as a medium of exchange till the farmer who has sold his wood for money has also used the money to buy shoes or something else. Still, it is performing that part in each stage of the operation. It is serving as a medium of exchange, provided it is doing for anybody any one of the three things which are essential to a complete exchange operation. That is, money is serving as a medium of exchange either (1) when a man is getting it in exchange for goods, or (2) when a man is keeping it on hand with the intention of using it at the proper time in the purchase of goods, or (3) when he is actually using it to purchase goods. Or, to change the form of expression, money is a medium of exchange so long as it is being sought after, or being kept, or being used |