The Story of Money

It’s been a while since my last post. Writing a blog is much more intensive than I had anticipated. I have a new appreciation for anyone that can put out content on a regular basis, while maintaining a full time job and other commitments. I am endeavouring to post more frequently.

I recently had an interview on community radio 3CR based in Melbourne. The topic was “The Story of Money” and dealt with how currency did not evolve out of barter but always was a ‘creature of the state’. We attempted to break down many myths about how a country with fiat currency operates. The radio interview went to air last Friday and a podcast is available here.

One of the interesting things I’ve learned through studying the history of currency is how it functioned. Michael Hudson discusses the origins of money and interest over the Neolithic and Bronze Age as a provision of credit and not that as a system of barter that is commonly told.

“As a means of payment, the early use of monetized grain and silver was mainly to settle such debts. This monetization was not physical; it was administrative and fiscal. The paradigmatic payments involved the palace or temples, which regulated the weights, measures and purity standards necessary for money to be accepted. Their accountants that developed money as an administrative tool for forward planning and resource allocation, and for transactions with the rest of the economy to collect land rent and assign values to trade consignments, which were paid in silver at the end of each seafaring or caravan cycle.”

Once you understand that all ‘money’ is a liability or a debt (the numbers you see in your bank account are a liability for the bank and the numbers in your bank’s account at the central bank are a liability of the currency issuer [whom can always make payment]) you can understand how money came to be.

The origins of these accounting practices can be found in the Kingdom of Sumer. Sumer was a kingdom in Mesopotamia settled by humans around 4500 to 4000 B.C. The area is where strides in agriculture, textiles, carpentry, pottery and fermentation happened. The Sumerians were in control of the area by 3000B.C and their society was compromised of city states. Hudson writes

The origins of monetary debts and means of payment are grounded in the accounting practices innovated by Sumerian temples and palaces c. 3000 BC to manage a primarily agrarian economy that required foreign trade to obtain metal, stone and other materials not domestically available.

This system of accounting was used to forward plan and ensure food, textiles, and housing for the population. It was large palatial institutions designed a system to keep track of the stocks and flows of production and trade.

…The first need was to assign standardized values to key commodities. This problem was solved by creating a grid of administered prices, set in round numbers for ease of computation and account-keeping. Grain was designated as a unit of account to calculate values and co-measure labor time and land yields for resource allocation involving the agricultural and handicraft sphere, as well as the means of payment. 

The second need of these large institutions was to organize means of payment for taxes and fees to their officials, and for financing trade ventures. Silver served as the money-of-account and also as the means of payment for trade and mercantile enterprise…

In my very first blog post I described the State Theory of Money where the work of Alfred-Mitchell Innes stated “Validity by proclamation is not bound to any material” That is a currency doesn’t have to be backed by any material but it derives it’s value because of the tax liability placed onto the communities in that society.

One way to understand taxes drive demand for a currency is to look at the experiences of European colonisation of African Nations that compelled Africans to provide goods and services to their European colonisers in exchange for the currencies the colonisers issued.

Prior to colonisation the Indigenous populations were non-monetary based societies engaged in substance living, largely could produce enough to provide for their communities and engaged in some internal trade. There was no reason to desire a European currency or any currency for that matter.

The excellent book by Sticher, Migrant Laborers (African Society Today) published in 1985 describes the imposition of a hut tax in Malawi being imposed by the British colonisers.

….imposition of a Sh.3 annual hut tax over the whole colony in 1896. This was a high figure for the northern areas. And undoubtedly stimulated further labor migration [to find work paying shillings]. In the south of Malawi, however, Africans preferred to meet the tax by [selling products]. Southern [European] planters therefore were short of labor and pressed for an even higher tax. As a result the tax was raised in 1901 to Sh.6, with a Sh.3 remission for those who could prove they had worked for a European for at least one month. This ‘labor tax’ had an immediate effect. The labor market in the south became flooded… Taxation, then, if it were high enough…could force men into wage earning

Taxation as a method of forcing out laborers but it did not distinguish between the various sources of the cash. Most Africans who could simply sold produce or livestock [to Europeans at administered prices] in order to pay the tax. But where Africans were poor in items to sell, or were distant from markets, taxation could produce laborers

Stichter, Sharon. Migrant Laborers. Cambridge U. Press, 1985. p26 – 28

The evidence is rather clear that from the Bronze age the early kingdoms devised a system of credits and debits to keep track of production and all the way to modern times it is the imposition of a tax liability that derives the value and demand of a currency.

Markets are then created post the tax liability and the spending. Polyani’s book ‘The Great Transformation: The Political and Economic Origins of our Times’ explains the market not as some natural state and economic rationality and market mechanisms for providing the basis of organisation, rather a market is based on communal patterns of organisation tied to our social structures.

The performance of all acts of exchange as free gifts that are expected to be reciprocated though not necessarily by the same individuals–a procedure minutely articulated and perfectly safeguarded by elaborate methods of publicity, by magic rites, and by the establishment of ‘dualities’ in which groups are linked in mutual obligations–should in itself explain the absence of the notion of gain or even of wealth other than that consisting of objects traditionally enhancing social prestige. . . . But how, then, is order in production and distribution ensured? . . . The answer is provided in the main by two principles of behavior not primarily associated with economics: reciprocity and redistribution. 

Polyani, K. The Great Transformation: The Political and Economic Origins of Our Time, Beacon Press 1957 (reprint 2nd Edition 2001)

Much of the orthodox text uses nonsense theories about human behaviour and rational expectations which attempt to ‘demonstrate’ that markets themselves find equilibrium and are self correcting. The empirical or anthropological evidence holds these theories to be nonsense. Exploring the concept that money evolved out of barter and ‘disrupted’ the market causing the system not to be able to correct itself is common amongst the orthodoxy that Government intervention should be kept to a minimum as it disturbs the ‘natural’ state of markets and the economy.

Thinking about a common problem, unemployment, the orthodox framework describes it as a problem of the individual and we have a framework of ‘full employability’ where we push the unemployed through ‘training’ because they aren’t skilled enough to have their labour demanded. The issue isn’t a lack of jobs per se but that the unemployed haven’t gained enough skill to have their labour in demand and have chosen leisure over employment.

The description above is of course complete bull. Anyone that views unemployment through a framework of an individual issue whereby the unemployed has chosen leisure over employment is clearly, in my mind, sociopathic.

Unemployment is always a result of insufficient spending. The imposition of a tax liability creates a demand for a currency, that spending sets the general price level and is used to purchase real goods and services created by the private sector into the public sector. Those that do not have the means to provision the government with a good or anyone else with the currency with a good need to sell their labour in order to obtain the currency and pay their taxes.

It is insufficient spending in aggregate that causes unemployment. Here it is important to realise taxation decreases someones income and thus the ability to spend is less causing further unemployment.

A view on what constituents aggregate demand is important. National Accounting statistics describe the sources of spending as; Government Spending, Consumption, Investment, Exports

The initial spend has to come from the currency issuer – this is Government Spending, the recipients of that income spend further and then those receiving income from that spending spend again – until such a state that a certain portion of the labour force is employed. Investment expenditure and Export expenditure is also income for someone or to some business and thus contributes to employment.

Within the cycle of spending there are what are called leakages – these are taxation, savings and imports. Taxes take away spending power, causing unemployment but allowing the Government to create the non-inflationary space to spend and acquire real goods and services. Savings and imports (which are a foreigners desire to save) is income not spent and thus can be thought of as contributing to unemployment. Keynes argued that Government Spending needs to equal full employment and the savings desires of the non-government sector.

Sectoral balances between the the Government and non-Government show that the Government deficit has to equal the Non-Government sector surplus. This is an accounting rule. If the Government spends 100 and taxes 30, we record that as a deficit of -70 but that +70 has to sit within the non government sector. It is income.

Unemployment is a result of insufficient aggregate demand (total spending) A currency issuer always chooses the unemployment rate. It is a political choice as the issuer of a currency can ALWAYS purchase whatever is for sale in the currency it issues. It uses the computer to mark up the size of a bank account and gives them a task to do!

Within an MMT framework a Job Guarantee is a superior automatic stabiliser (spending increasing/decreasing without a change in policy) that maintains ‘loose’ full employment and price stability. It is a superior inflation anchor than the current orthodox approach that uses unemployed to discipline the inflation rate. Spending at the bottom of the income spectrum can not be inflationary as inflation is excess spending beyond the productive capacity and the economies ability to absorb the additional spending. Purchasing the unemployed (those that have been rejected by the labour market, that is constructed from the Governments initial spend) can not be inflationary because there has been no competing bid for their labour. I’ll write in more detail on inflation at some future point.

The radio interview was a simplified explanation of the above. Many thanks to Anne for the edit making me sound coherent. It is an art form giving an interview.

It should be noted that the story of money is much much more complex. It involves different types of monetary regimes which you can divide into three types. A Gold Standard, Fixed Currency Exchange Rates and Fiat currency regimes. The latter is what we operate under today.

To further complicate things add a banking system to a monetary system and you have entities that are given license to issue credit and I dealt with this in my first blog post.

That is all from me for today!

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