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How Much Money?
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| How Much Money? | | |||||||||||||
By: | | Bettina Bien Greaves | | ||||||||||||
Date: | | 03/01/1994 | | ||||||||||||
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How Much Money? by Bettina Bien Greaves Do we need more money as the population increases? Do we need more money as production expands? That would seem logical. But is it? What individuals really want is not more money, but more purchasing power. Money itself isn't wealth. Look at Germany in 1923. The Germans had plenty of paper money then--billions and billions of Marks. But with all that money, they had little or no purchasing power. A housewife considered herself lucky if she could find a baker willing to take a wheelbarrow full of paper money for one loaf of bread. It is the purchasing power of money, not the money itself, that counts. Money Has Two Basic Functions (1) as purchasing power. A money whose purchasing power can be relied on is the most efficient means for individuals to obtain the many varied goods and services they want. Each of us always wants to hold a certain amount of money for future purchases. (2) as a means for comparing the market values of various goods and services. Because billions of German Marks were being printed in 1923, the purchasing power of a single Mark dropped practically to zero. Germans no longer wanted to hold Marks. Rather, they used every ruse they could devise to exchange their useless Marks promptly for something tangible. Also, as the Mark declined in value, comparisons with various goods and services became increasingly unreliable. By the end of 1923, German Marks were completely useless for either of money's two basic functions. Money is the medium of exchange people offer in the expectation of obtaining various goods, services, and leisure time. All very well and good. But when there are more people and when more goods and services are being produced, won't more dollars be needed if the extra people are to buy the additional goods and services? Won't more dollars have to be created to cover all this additional spending and keep people producing and prosperous? No! The answer, as the German case shows, isn't more dollars. The answer is more purchasing power. And here the market provides the answer. Suppose the population has increased but the quantity of money or credit has not been artificially expanded. Then more would-be buyers will be competing to buy the goods and services available. The same amount of money will have to stretch farther. Would-be producer/sellers will have to sell at what would-be buyers can afford to pay--or else forgo sales. If would-be producer/sellers do not anticipate artificially induced increases in the quantity of money, they will not keep asking higher and higher prices, as sellers often do nowadays; they will be willing to drop their asking prices, especially if they feel confident that the cost of replenishing their stocks too will not go up, and may even go down. The tendency, therefore, will be for dollar prices to go down and the purchasing power of the dollar, and hence the purchasing power of individuals, to rise. Suppose production has been expanded, but the quantity of money or credit has not been artificially increased. As would-be sellers will be offering more goods and services than before, but there is no more money, the same amount of money will have to stretch farther. Would-be producer/sellers will have to sell at what would-be buyers can afford to pay--or else forgo sales. If would-be producer/sellers do not anticipate artificially induced increases in the quantity of money, they will not keep asking higher and higher prices, as producer/sellers often do nowadays. They will then be willing to drop their asking prices, especially if they feel confident that they can reproduce their stocks at, or below, their previous costs. The tendency, therefore, will be for dollar prices to go down and the purchasing power of the dollar, and hence the purchasing power of individuals, to rise. Because their dollars will buy more, both consumers and producer/sellers will tend to be better off. If the quantity of money is not artificially increased, every would-be buyer will take care to spend his or her hard-earned money only on what is most important. Of course, people will disagree as to what is "most important"--but that is another matter. And every would-be seller will take care to sell only when he expects the sale to prove worthwhile, under the circumstances. Goods, services, and money will then gravitate, as the market directs, toward those persons whose demands are the strongest and most intense. This will tend to produce the greatest possible satisfaction. Government Interference with Money Not only can the market cope with the demands of an increased population and the appearance on the market of increased stocks of goods and services, but also government interference with this process is disruptive. In the first place, creating new money itself does not assure economic well being. In the second place, artificial monetary expansion can lead, as it has many times in the past, to economic disaster. Governments have never been at a loss for excuses to inflate (increase the quantity of money) or to expand credit. They argue that: more people need more money; more money must be created to buy the increased quantities of goods and services produced; many people need help because they can't afford adequate food, clothing, shelter, and medical care; quarterly or year-end debt settlements create extraordinary demands for cash; exporters need to be subsidized to encourage exports and improve the balance of trade; businessmen need more money to finance transactions or to expand, and interest rates are higher than they are willing to pay; the government must counteract bank credit contraction to forestall a recession or depression, so the quantity of money to lend must be increased. And so on. However, government doesn't like to tax to pay for these programs; it much prefers to create new money and credit. And that paves the way to disaster. Some of the effects of monetary expansion are seen. But many are unseen. Monetary expansion helps some people, the first beneficiaries of the new money; these people are "seen." The monetary expansion hurts others, those who receive none of the new money, and those who receive it only later after they have been penalized by having to pay inflated prices for things they purchased; these people are "unseen." Monetary expansion also misdirects production. It subsidizes some producers who are "seen," while discouraging others, those who must pay for the subsidies or are hurt by the competition of subsidized competitors; these producers are "unseen." Moreover, production encouraged by artificial monetary increases is determined by politicians, and thus the wants of consumers are neglected. Artificial monetary expansion leads also to international complications and the disruption of the international market, international prices, and the balance of trade. How the Market Copes Over the centuries, both the population and production have multiplied many times over. The market has become worldwide. Individuals, operating in and through the market, have generally coped with these changes without direct government intervention. As the demand for money increased, prices were pushed down by competition, and the purchasing power of gold rose. When gold increased in value, opportunities for profit in gold mining appeared and adventurers all over the world searched for gold. The Spaniards stole gold from the Incas of Peru. Prospectors discovered rich gold fields in Australia, South Africa, and Alaska. And substantial gold fields were found in Russia also. The exploitation of these gold discoveries expanded the quantity of monetary gold without artificial government intervention. The market also found other ways to cope with the rising demand for money due to population and production increases. Prices fluctuated. When more people were asking for more goods and services, with essentially the same number of dollars to spend, each dollar became more valuable; as a result people had more purchasing power if not more dollars. A single dollar bought more than before; living costs went down, and living standards went up. People were better off even if they didn't have more dollars. If governments had not inflated in recent decades, price adjustments would undoubtedly have been made by using fractions of the monetary unit. After all, the dollar is infinitely divisible. For instance, if our government had not promoted inflation and credit expansion, we might be buying a daily paper with a 1/4 cent token (instead of 25 cents or 50 cents), a loaf of bread for pennies (instead of $1.00 or more), or an automobile for $500-$1,000 (instead of $10,000 or $20,000). In addition to allowing prices to fluctuate, the market coped with the rising demand of trade for money in other ways. Traders economized the use of the precious metals. They developed banking and started using various paper documents in transactions -- gold and silver certificates (receipts representing warehoused gold or silver), bonds, bills of lading, checks, checking accounts, and various forms of securities. These new techniques enabled businessmen to pay for purchases without actually shipping gold or silver. Bank clearing houses made inter-bank transfers of funds cheaper and faster. Electronic bank deposits and transfers, and credit cards continue this economizing trend. And no one can foresee what new market economies will be forthcoming. Fiat money (printing press money) and fractional reserve banking are not listed here because both owe their continued use to government protection of some kind. If government had not entered the field of money and banking, private banks would have had to fulfill their obligations as do all other private businesses. Without government protection, a bank that issued more promises to pay than it could fulfill would be forced to mend its ways or go into bankruptcy. A bank that issues more banknotes (promises to pay upon demand) than it can redeem is courting disaster. And no bank whose assets and reserves constitute only a fraction of its obligations can expect to survive for any extended period of time without some form of government protection. If government had not intervened, the market would have been able to cope with population and production increases through the pricing structure and various other techniques traders would have devised. The pressure of new buyers appearing on the market and the pressure of producers offering more goods and services, without any artificial increase in the number of dollars, would have enhanced the purchasing power of every dollar. Prices would have tended to go down and living standards would have risen, even though monetary incomes stayed essentially the same. Instead of expecting continual inflation and rising prices, people would have looked at their economic situation from a different perspective. They would have compared their present and past living standards and considered how much better off they were than in the past because their living costs had declined. It didn't cost as much to feed the family as it used to. A new automobile this year cost less than it did ten years ago. And so on. If prices are free to fluctuate, and if traders on the market are not prevented from economizing when it seems advisable, any amount of money will be sufficient to fulfill money's two basic functions--as purchasing power and as a means for comparing relative market values. As a matter of fact, when monetary inflation is resorted to in the attempt to compensate for changes, the monetary unit loses both its purchasing power and its use as a standard for comparing values. The consequences of a government-induced inflation--in the attempt to keep pace with changes in population and production--will always be much more disastrous than any short-run benefits it brings to its relatively few early beneficiaries. | | | ||||||||||||
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