Tuesday
I listened to a speaker a few days ago explain that Gold was money because it was ‘the most marketable good’ (the preferred trading good in the marketplace). He then explained that silver was what was actually used as most people didn’t own Gold and it was too valuable for marketplace trades.
If Menger’s theory that money is so by virtue of the fact that it is the most marketable good is true, then by that logic, silver would be money, not Gold. The conventional excuse for this anomaly is that silver is the money for small trades and Gold is the money for large trades. By that logic there are two ‘most marketable goods’. Is there another ‘most marketable good’ for medium trades? Menger’s theory of the most marketable good is clearly, at best, deficient.
My guess is that the error stems from the order that is generally given to money’s qualities. They are in the order of visibility – the usage that is most easily perceived:
1/ medium of exchange,
2/ measure of value, and
3/ store of stable value over time.
(There are some other qualities, but these will suffice for the purpose.)
This leads to the speculation that Menger, like most economists, looked at money’s most obvious use as a medium of exchange, and assumed that as a starting point for a theory on the origins of money.
Using the example above, it is #1 that leads to #2 that leads to #3.
The problem is that this order is the reverse of reality. From that reversal of reality comes, amongst other things, central banks and the idea that as long as the medium of exchange is controlled via quantity and interest rates, then all is well.
Gold is not money because it is the most marketable good. Gold is money* because of the stock-to-flow ratio; it is this which creates Gold’s stability of value. From this stability of value comes its utility as the measure of value. From this is derived its use as the medium of exchange. While a medium of exchange is money’s most visible function, it is also its least important. Many things can act successfully as a medium of exchange – from salt to eggs to cows to fish to bitcoin. Dollars do the job wonderfully, but they are a far cry from being money. How do we know that they are not money? Because they do not have stability of value over time. The correct order of money’s qualities in terms of importance of function is:
1/ store of stable value over time,
2/ measure of value, and
3/ medium of exchange.
The first leads to the second which leads to the third. Once the correct order is established, the logic is clear, simple and impeccable.
Gold has the highest stock-to-flow ratio and thus the greatest stability of value and that is why it is money. It’s stable value makes it the natural measure of the value of all goods. As it is the measure of value of all goods, so it can have use as a medium of exchange. Where silver comes back into the picture is that it can act as Gold’s surrogate in the marketplace for low value goods.
That does not mean that silver is money; it is not. It is a good, though an unusual one in that it also has a high stock-to-flow ratio – second only to Gold. While silver’s value, as measured by Gold, changes (for many reasons), its value is stable enough that it is acceptable in any market. Everyone would prefer Gold, but no one would decline silver in its absence.
Dollars are a great medium of exchange, but the worst money. Other trading goods, like bitcoin or goats, may go up or down in value, but the dollar is guaranteed by the Fed to go down in value by 2% a year. In the very short term, that falling value is of little consequence. Over the longer term it is verging on catastrophic in terms of whether a business is creating or destroying capital. Using a measure that is always changing – who is to know?
* To be precise, it is ‘a known weight and fineness of Gold’ that is the definition of money, not just Gold. Prior to being ‘a known weight and fineness’, Gold is just another good. The Gold refiners and bar/coin manufacturers are the transmuters of Gold to money. They perform that task not with alchemy, but by stamping the bars and coins with both weight and fineness.