Sunday, April 26, 2009

Lesson III – Money

Let us first quickly review what we have learned in earlier lessons. We have seen how the whole of Society has come into being for the advantage of the individuals who compose it, because in Society, it becomes easier for each individual person to obtain the shelter and protection and other things necessary for existence.

We have seen how humans satisfy their needs by acquiring and making use of (or “consuming”) wealth – that is, natural resources which they or some other persons may have made more suitable for their purposes by working on them with hand and brain, and often with tools of some kind.

We have seen how people are able to place a value on the different items they want, and express this value in terms of a “price”, measured in units such as dollars and cents, according to the strength of their desires.

We have seen how wealth is most efficiently brought into being with the least sacrifice of human or natural resources when it is specialized – that is, when a single person or group of persons produces a quantity of articles all of the same type, greater than it can make use of for its own consumption.

We have also seen, however, that the most satisfactory form of consumption comes when each person has a small quantity only of a large variety of objects, because after a certain minimum quantity of any form of wealth, additional quantities are of less and less value to the consumer.

From all of the above facts, one most significant deduction can be made. This is, that for individuals to be able to best satisfy their own desires, and so best obtain the satisfaction of their wants, which was their original reason for taking part in Society, there must be within that Society an efficient means for the exchange of goods and services, from those who have too much of one variety, to those who have too much of another.

The Development of a Money System:
All primitive societies have felt this lack of a means of exchange, and an amazing number of expedients have been developed for the purpose of making this process of exchange more easy. Primarily, all of these revolve around the use in the process of exchange of an intermediate token, to which is assigned an arbitrary value, and which, no matter what may be its external appearance, is in fact a form of money.

In most primitive societies, exchange begins on the basis of barter – that is, a simple exchange of commodities or services. Barter, however, can be a frustrating and inefficient affair. Suppose, for instance, that you are a farmer heading to market on market day, with some chickens you wish to part with, worth in your reckoning $10.00 apiece, and you wish to bring home some vegetables to the same value. On meeting the man who has vegetables, chances are that he is not interested in chickens at all, although he might take a chicken from you for vegetables that are worth only $5.00 in your estimation. By sheer luck, you might find that the fishmonger has some fish that you think worth $12.00, which he will part with for in exchange for a chicken, and the seller of vegetables would take this in exchange for vegetables that he thinks are worth $12.00, but you would only think worth $10.00, and in this way, your mission will be successful. On the other hand, you might not be so lucky, and would be faced with taking a loss on your chicken, or going home with no exchange carried out at all.

To get over this situation, two alternative solutions could have been arrived at. In the first case, you might have sold your chicken, not by exchanging it for fish or vegetables, but for the greatest possible amount of some other commodity readily exchangeable on the market. Any commodity would do: in early Canadian days, beaver skins were used, at other times, wheat, but very often, because of their long lasting qualities and the easy way they could be divided, it would be the precious metals, silver or gold. Having obtained the biggest quantity of, say, silver coins that you could find offered you in exchange for your chicken – say $12.00 - you would then be in a position to approach the vegetable seller, and in exchange for the vegetables you wanted, you would part with silver to the value of $10.00, leaving you with $2.00 in silver, which you could either spend on something else you wanted, or save for the next market day.

As an alternative to this, you might do without silver or any intermediate commodity at all. You might go to the vegetable seller at the beginning of the day, and explain at the start of the proceedings that you had a chicken you wanted to get rid of in exchange for vegetables. Although he did not personally want the chicken, he would deliver the vegetables to you and take from you a promise in writing to hand over a chicken on demand. During the day, as he went to buy the things he needed, he would pay for them with your promise to deliver the chicken. This might pass through several hands, until it came into the hands of a person who was actually looking for a chicken, who would present your note to you, and so pick up your chicken. In this way, the exchange would be carried out to everyone's satisfaction.

These two alternative solutions are in fact prototypes of the two fundamentally different types of money that have been used throughout the world during history. The first is the “intrinsic value” type of money. In this, the intermediate object which passes from hand to hand is something of actual worth, and which has an actual market value. That makes it readily acceptable, and very efficient therefore in carrying out the business of exchange, so obtaining the best possible price for the seller, and the greatest value for the buyer. The drawback to this system, and it is a serious one, is that a shortage of gold or silver, or other valuable and acceptable intermediate product, may itself prevent exchange taking place. Even, however, if this is not the case, it is a characteristic of this system that a certain amount of actual wealth, wealth that could be at the service of human beings, is tied up in a manner that prevents it from being put to practical use. Thousands of ounces of gold, for instance, are at the present time deposited in the vaults of various banks, instead of adorning the nation's public buildings, or being used for jewelry, as was the case in more ancient times.

The second type of money is “token” money. Its great advantage, of course, is cheapness. No precious metals or other wealth is required – only such materials as are needed to record a promise to pay in permanent and transferable form. For this reason also there need never be any shortage of it – it can be provided in as abundant a supply as is needed to carry out the exchange needs of Society. It may, however, be less effective and more unreliable. For one thing, it is not based on the value of the token itself, it is based on my credit – belief in my promise to hand over something of value (in the previous illustration, the chicken ) on demand. Those who do not know me, may not trust me. Those who do trust me, may find themselves deceived – by the time the note is presented, I may have eaten all my chickens, or perhaps there never was a chicken when I made the note up in the first place. Finally, of course, no matter what I promise to give in exchange for my note, it is not likely to be as generally acceptable as something of built in real wealth, such as a gold or silver coin.

Modern Types of Money
The development of modern money has almost exclusively taken the form of different attempts to combine the virtues of these two basically different systems. There has been an attempt to produce a monetary unit that combined at the same time the efficiency, general acceptability and complete reliability of “intrinsic value” money, and the cheapness and ease in producing a sufficient quantity for the purposes of trade that is the characteristic of “token” money. This development has taken place under two different authorities. The smaller part of the development has been in the money tokens issued by the State, or other public authority. The larger part has been in the money tokens issued by private concerns – the goldsmiths of ancient times, and the commercial banks and credit unions of the present day.

As far as the State is concerned, the development has been a straightforward one, from the State's original prerogative of inspecting and approving the precious metals, stamping them so that they might be generally acceptable for trade, into the production of a recognized system of coinage. Before long, kings in need of funds found it unnecessary to maintain the full value of gold or silver in the coinage for the coins to retain their value and usefulness in commerce. The coinage was “debased” - that is, the face value of the coin was increased above the value that those coins would fetch as precious metal, if they were melted down and the metal sold on the market. Canada's coins are debased coins of this type at the present time – only the cent costs as much to produce as its face value, the $2.00 toonie costs only sixteen cents. A further step has been the printing of paper notes by, or under the authority of the government. These notes are money, because the law of the land makes them “legal tender” - that is a lawful means of settling debts of any description within the country.

Through both of these means – coins and notes – the State is able to provide a cheap and sufficient supply of money at a very low cost. Failures in such state money systems, however, have occurred. These have chiefly taken place when, for political or other reasons, the State has deliberately caused an excessive quantity of money to be put into circulation, as was the case with the notorious German inflation of the late 1920's, or that in Russia following the Russian revolution, or more recently, in Zimbabwe. That this need not be the case, however, is shown by the six hundred year history of the Bank of Venice (the “Giro”), or the spectacularly successful German currency reform of 1948 (in which a whole new currency was printed and distributed to citizens) and the history of the successful use of paper money in the American Colonies and in Canada (where signed playing cards were once used) over a period of one hundred and fifty years prior to the War of Independence.

The development in the private enterprise field has been rather different. Lacking the authority of the state to make a simple declaration of law that the notes it printed were legal tender for settlement of debts, and therefore money, private enterprise resorted to a system whereby its notes or other promises to pay (such as customers' deposits – their “money in the bank”) were only backed by gold or state money sufficient to meet normal demands from the public to exchange them into gold or legal tender, leaving a large amount of them backed by nothing at all except public confidence in the bank. Goldsmiths – ancestors of our modern commercial bankers – were the first to do this. Because it was their trade to look after stocks of gold for customers, and because the receipts they gave for the gold deposited with them started to pass from hand to hand as money (as in our earlier illustration of token money, concerning the chickens), and because in fact they were never called upon to exchange all these receipts for gold at one time, they found they could quite safely issue more receipts, or “promises to pay money on demand”, than the stock of gold they actually had in their keeping, and lend these out with precisely the same effect as if they were lending gold. Modern banking is an extension of this principle. Under current regulations, for every dollar that they promise to pay their customers, which in the customers' eyes, is “money in the bank”, they could, if all their customers asked to withdraw their money in legal tender all at once, only provide approximately six cents per depositor. Canada's banks, for instance, at the end of the year 2008, held notes, coins and deposits at the Bank of Canada in a total amount of $4,607 millions. This supported credit they had granted in various forms in a total of $624,488 millions (1).

In actual fact, this system of Banking can work smoothly and well most of the time, even though it looks perilously unstable on the surface. In any time of stress, however, it quickly shows its fundamental instability. Great Britain at the outset of World War I, for instance, was forced to suspend bank payments in gold sovereigns after a three day run on her banks. The gold sovereign was replaced by hastily printed Treasury notes, declared by the State to be legal tender. Banks themselves have found that in times of business depression, the choice has sometimes been between business failure and amalgamation - with the result that the commercial banking system in most countries has become more and more highly centralized. However, certain hidden defects in the operation of the system, certain long range effects that the system has in the workings of Society, require careful examination, and will be discussed in more detail in later chapters. Although generally sound in administration and convenient in operation, the banking system itself rests on such unstable foundations that its operations are a peril to any nation that relies on it for a sound and stable system of money.

Money and Debt
One difference exists between money created by the Banking system and money created from any other source that has extremely important consequences. This is, that the process of creating new money through the Banking system, in contrast to any other way of creating money, involves the creation of debt.

When the Mint stamps out a new coin, new money comes into existence, and no person is obliged to borrow anything for this to happen. If the Mint strikes, say, a thousand $2.00 coins costing sixteen cents apiece, the actual cost of the coins will be $160.00. Eighty of the new coins will pay for the manufacture of the whole thousand, and the remaining 920, with a face value of $1,840, are sheer profit, which can go into public revenue and lower taxes. When the Bank of Canada issues new Bank Notes, the process is a little more complicated, but the effect is the same. The new notes are used to pay for interest bearing Government Bonds – but since the interest paid swells the profits of the Bank, and the Government, which owns the Bank of Canada, puts the profits into general revenue, the whole difference between the face value of new bank of Canada notes, and the cost of issuing and administering them, is outright profit to the Canadian government – again, a saving to the pockets of the Canadian taxpayer.

When Banks create new money, however, they lend it out at interest. As in the case of all new money which is not backed 100% by “intrinsic value”, a profit goes to the issuer, of the difference between the face value of the money, and the actual cost of producing it, which does include, of course, the cost of any interest paid to depositors on their credits at the bank. This time, though, the profit from money creation does not go into the public treasury, but into the hands of private shareholders. The Canadian Western Bank, for instance, in its 2008 Annual Report, shows a shareholders' contributed capital of $221.9 millions, and a net income after taxes for the year of just over $102 millions, a 46% after tax return on capital. Not bad! (2)

All of this shows the vast scale of private exploitation of a public asset, in this case, the public credit. That is, the amount of value that the people of Canada are prepared at any time to surrender in exchange for money tokens that do not have in themselves more than a very nominal value. They do this because these tokens make exchange easy and exchange is a very profitable thing. But also, it brings about an entirely new situation. A bank's books would not balance unless at the same time that new money, or Bank Credit, was created, a debt from the person to whom this credit is lent was recorded on its books as one of the assets of the Bank. This debt is not, as in the case of the Bank of Canada, a matter of accounting of no real significance. It is a loan, secured by a pledge of real assets by the borrower, that can be foreclosed on in case of default, and otherwise will in due course be repaid by the borrower, with interest until that repayment takes place.

Over ninety per cent of the money circulating in Canada is money created by these loans of the commercial banking system. That money has been issued against a mortgage of their public and private assets to the tune of over six hundred billion dollars. It is a sober fact that this whole debt of $624 billion dollars, averaging approximately $19,000.00 per head, and costing approximately $250 per family per month, would have no reason to exist, and could disappear entirely, under a state issued money system.

It is essential to be able to exchange wealth between people, if people are to be able to share the advantages of association which first made them take part in Society.

In primitive times, exchange was by barter, but two systems of money have since developed, which make exchange of wealth more efficient. Both operate by allowing wealth to be disposed of in exchange for an intermediary token of a certain nominal value, known as “money”, and the money token is later exchanged for a different form of wealth. In the first case, the money token has “intrinsic” value: in the second, it is accepted because of a promise made by the issuer (his “credit”).

Modern money systems have developed by using “credit” money, which has the convenience added to it of intrinsic value money either (1) Because the tokens are state issued, and are declared by law to be legal tender for the settlement of debts, or (2) because the tokens are issued by private authorities (banks and credit unions), and in practice, these keep a sufficient reserve of legal tender money or precious metals, to make the credit money exchangeable for legal tender money any time this is required. Both types of system are capable of abuse and failure, however a State system, provided that it is responsibly operated, has proved effective over long periods of time.

The chief disadvantages of the commercial banking (credit) system are (1) that a bank is never completely proof against failure, and (2) that money so created can never be issued into circulation, but only lent. As a result, a heavy burden of indebtedness to the private banking system is the inevitable result of use of bank created credit money.

Because money can, in fact, be created at little cost, and can be spent into circulation by the State in accordance with the needs and opportunities of the community for the exchange of wealth, Social Credit has adopted as its fourth and final principle:

IV Whatever is physically possible and desirable and morally right, can and should be made financially possible.

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Articles on Banking and Money in any standard encyclopedia.
Nevin, Arian – National Economy
Sayers, R.S. - Modern Banking
Dwinell, Olive – The Story of our Money
Munson, Gorham - “Aladdin's Lamp”
Canada Year Book – Chapter on Currency and Banking.

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1. Is an effective way of exchanging different forms of wealth between its members an essential feature of Society? If so, why?
2. What are the disadvantages of a system of barter?
3. Name two basic types of primitive money. How does each operate in a typical transaction?
4. Why is it useful for money to have intrinsic value? Are there any disadvantages to this?
5. What substances having intrinsic value have been used at different periods of history?
6. What is the basis for the acceptability of “token” money issued by any person?
7. What types of money are Government issued in Canada at the present time. Do they have (1) Intrinsic or (2) Token value?
8. What other types of money are in use in Canada at the present time. Who issues them?
9. Give examples where State issued money systems have (a) failed, and (b) succeeded in the past. Is money issued by the state either evil or doomed to failure?
10. What defects are attached to the issue of money by commercial banks?

(1) Bank of Canada Weekly Financial Statistics.
(2) 2008 Annual Report, Canadian Western Bank.

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