4.2.1. Abstract Value as Value Relation
Walras’ price numeraire as a “symbolic representation of existing commodity values” [14
] (p. 18) and the subsequent orthodox conflation with a commodity that represents that symbolic representation presents a philosophical challenge. As Ingham notes, the exchange rate possibilities between even a small number of goods are insurmountable [14
] (p. 25). Walras sidestepped this shortcoming by introducing his numeraire. Since a numeraire is a comparison of commodities themselves, however, the money commodity that arises to represent their relation is at once a commodity itself and a special representor of commodities [71
] (pp. 15–16). This dual quality leads to considerable problems with the formulation of money’s value [ibid] (p. 16), including its ability to arise as a unit of account from a medium of exchange [14
] (p. 24), and its value as a relation to the community as a whole [72
] (p. 177). These difficulties go far in explaining why money in orthodox theory will not have value [73
] (p. 136) and must, accordingly, be treated as neutral.
Simmel escapes the logical trap that a direction comparison numeraire presents by arguing that measures need not, and most often do not, exhibit the same quality as the objects they measure [72
] (pp. 131–132). Thus, money, while acting as a “stable pole” [72
] (p. 121) of relative commodity values, does not represent the relation between those commodities, as a numeraire does, but rather, points to their relative relation to a third quantity [72
] (p. 146). This quantity is an abstract value that constitutes a social relation and is starkly different from a “direct comparison” [ibid] of two quantities. In other words, abstract value allows for comparison, but is not the comparison itself.
Michael Hudson argues that “the essence of money is not to be sought in the material form from which it was made, but in the fact that it provided a common denominator to co-measure prices” [74
] (p. 124). This co-measure is not a direct-relation numeraire, but a reference to an abstract value that allows for the orchestration of systems of debt and credit between and amongst trade merchants [75
], economic agents, and the public institutions [74
] (p. 117). This will be explored now.
4.2.2. Logical and Historical Inaccuracies of Barter, and Unit of Account
As shown above, mainstream economic theory rests on the assumption that individuals ultimately trade commodities for other commodities [76
] (p. 49) and that money as a commodity-based value relation solves barter’s double coincidence of wants problem. The problem is that there is “no evidence that [barter] ever happened, and an enormous amount of evidence that it did not” [30
] (p. 28). As Caroline Humphrey writes, “all available ethnography suggests that there has never been such a thing [as an economic system of barter] […] let alone the emergence from it of money” [12
] (p. 49).
Logically, the barter story is also inconsistent. The idea that merchants would specialize until they held a surplus of one good while lacking all other goods is not only inconvenient, it is impossible. Seasonality and production stages further complicate the barter story [75
] (p. 130). As Ingham writes: “money is logically anterior and historically prior to market exchange” [14
] (p. 25). Rather than emerging as a medium of exchange from bilateral barter transactions, the evidence argues that money exists as an abstract unit of account to denominate debt relationships between merchants on alternating production cycles and between those merchants and the State [75
A. Mitchell Innes argues that Adam Smith’s oft-cited account of barter was based on a mistaken understanding of the trade dynamics in Scottish and Newfoundland villages where nails and cod were used to purchase food and supplies, respectively. While nails and cod appeared to Smith as the commodity through which barter occurred, the transactions were in fact denominated “in pounds, shillings, and pence” and were exchanged for “a credit on [the customers’] books” [77
] (p. 378). What Smith believed to have been a “tangible currency” [77
] (p. 378), in each situation he had found credit denominated in a unit of account enforced and upheld by the State [78
] and [79
] (p. 87).
A rich body of literature explores this dual state/credit nature of money as a manifestation of a complex and evolving social contract between and amongst individuals and the State. Credit theory argues that the barter story lacks an account of debt’s role in establishing money [80
] (p. 57). While Aristotle argued that commodity money solved the temporal incongruence of sales and purchases, Innes removes the tangibility of the medium and argues that a creditor’s right to later payment solves the problem [78
] (p. 152). For thousands of years before metallic money forms, it was these debt/credit relationships between economic actors in commodity exchange and social actors in wergild relations that formed the basis of money’s nature [24
] (p. 61) [30
] (p. 40). While barter relations are ephemeral and asocial, Polanyi shows that economic exchanges are in fact embedded within social relations of owing and being owed [24
] (p. 50). Gardiner argues that systems of credit and debt are “the foundation of […] civilization” [75
] (p. 163) and come before economies themselves [75
] (pp. 130, 169). Aglietta writes “wherever anthropologists have been able to discern something that we could call an economy, money existed” [15
] (p. 81). Innes argued that “credit alone is money” [77
] (p. 393) and forms the basis of civilization in all places and times throughout history [77
] (p. 391). These views mirror the Vedic poems of the second millennia BC in which “a man, being born, is a debt” [30
] (p. 56) as well as the more recent primordial debt theorists who argue that debt is, and has always been, the essence of society itself [ibid].
State theory argues that the barter story lacks an account of the State’s role in establishing an abstract standard of account [80
] (p. 57) to denominate the above credit/debt relationships. Whereas Locke argued that the State’s role in money was to standardize weights and measures, Friedrich Knapp’s chartalist theory argued that legal ordinances, not materiality, regulate money’s use [81
] (pp. 1–2). In the chartalist view the State plays a dual role. On the one hand it designates a unit of account to act as money by purchasing goods and services in that unit [14
] (p. 12). On the other hand it drives money through its monopolization on the use of violence [82
] (p. 42)—in this case the ability to collect taxes in the unit of account it has designated [83
] and [84
] (p. 137). It is precisely this dual role as simultaneous supplier and demander [14
] (p. 12) [80
] (p. 62) that prompted Silvio Gesell to write: “Money requires the State, without a State money is not possible” [85
] (p. 81).
Together, the State and Credit Theories propose that money’s nature as a unit of account take primacy over money’s function as a medium of exchange. It is precisely here that orthodox economic models fail: they are built upon a medium of exchange and must, therefore, determine why one commodity would be chosen as a medium of exchange over all others [63
] (p. 294) [86
] (pp. 126–135), something they cannot do [14
] (pp. 21, 24). Innes pointed out that any solution to this predicament would be an “obvious absurdity” since the chosen commodity would be denominated in itself [77
] (p. 378). This is the logical circularity at the center of economic theory and why Hayek wrote “the identity of supply and demand […] ceases to exist as soon as money becomes the intermediary” [87
] (p. 130). Not only can a direct commodity relation not serve as an abstract unit of account [72
] (p. 132), an abstract unit of account cannot be chosen as a direct commodity relation. Drawing upon Aglietta, any privately appropriable commodity medium would undermine, by way of its very liquidity, the exogenous utility requirement at the center of equilibrium theory [15
] (p. 8). Since, as argued above, a unit of account is the primary characteristic of money, it cannot exist within a model that requires a direct-relation numeraire to equilibrate. Accordingly, the Arrow–Debreu theorem’s logic that money is extraneous since it can reach equilibrium without money only holds if money is understood as a medium of exchange. When money is understood as a credit-based unit of account, the model cannot reach equilibrium. Far from Schumpeter’s argument that money does not affect the economic process [5
] (p. 277), money itself is
the economic process [15
Pursuant to the prior two sections, this paper defines money as a unit of account in which credits and debts are denominated. This definition is important because it allows us to treat the myriad shifts between pre-economic money and modern money as major historical evolutions of a foundational social institution, rather than distinct and incomparable forms of exchange media.
4.2.3. Commercial Banks Create Money
Modern money is created when commercial banks issue loans to individuals and corporations at interest [54
]. This ‘horizontal’ money makes up approximately 97% of money in the UK [88
] and approximately 92% of money in the US (data from the Federal Reserve Bank of St. Louis).
While neoclassical theory assumes that banks use customer deposits when extending loans, in practice, commercial banks generate loans by increasing a borrower’s deposit account ex nihilo
equal to the amount of the loan [84
] (p. 84). The bank views the loan as an asset and that is offset by a deposit liability, while the borrower views the loan as a liability that is offset by a deposit asset. The process is that simple: there was no need for a savings deposit before extending the loan and banks will extend all the loans they deem profitable regardless of deposits.
This “fountain pen money” [70
] (p. 37) enters circulation when borrowers spend their credit in the economy [54
] (p. 61). If a borrower spends their credit with a customer of the same bank, a simple balance sheet operation between the customers will clear the payment. Otherwise, commercial banks use one of two kinds of Central Bank Money to clear their customers’ payments: Central Bank reserves or cash [58
] (p. 77).
If a borrower spends their credit with a customer of a different bank, the respective banks will exchange reserves to clear the payment. Reserves are created ex nihilo by the Central Bank in order to facilitate payments between intra-bank customers and can only be accessed by commercial banks. At the end of each day, commercial banks net their incoming and outgoing reserve positions and borrow any owed reserves from either the Central Bank or the interbank lending market.
If a borrower wishes to spend their credit without the use of a bank intermediary, they may withdraw cash. Commercial banks acquire cash from the Central Bank in exchange for reserves. While some of this cash can be retained by banks to satisfy their withdraw demands, all cash ultimately begins as a loan [58
] (p. 103) and can thus be seen as a “physical representation of commercial bank money” [54
] (p. 72).
This dynamic contradicts the neoclassical view of banking and explains why Mervyn King, former Governor of the Bank of England, argues that “money is endogenous […] [to] the banking system” [58
] (p. 78). Endogeneity challenges the three implications of neoclassical theory.