The Quantity of Money

We understand the Quantity of Money as a “quantity” (trillion dollars, lump sum) but it is not quite the same as a “gallon,” actually. First, to get such a “quantity” it is necessary to add up your bank balance and my bank balance, and everyone else’s bank balances. This becomes absurd.

But the basic idea is that the sum total of all the “money” anyone might be able “to spend” is an important “quantity.”

Notice which labels, above, I have put into “scare quotes.” I want to emphasize in the comments below how those terms are not what you might have first believed the words mean.

In the Beginning, there was god and he created gold and silver. This is a good enough “creation myth,” and we don’t need to care about it. The central picture from this myth is the idea of a finite quantity in the universe for gold, or silver. The idea becomes fixed that somehow the fixed quantity of these metals is a critical economic detail, because Prices are quoted in the names and references of these metals, throughout history.

But the genuine innovation in the use of money among mankind was when somebody invented the Unit of Accounting. When the first cattle herding early man made a trade with his neighbor, perhaps trading half a bull for the other man’s daughter, the Unit of Accounting was invented, as also was the concept of “CREDIT” = Latin verb = “He trusts, he believes.”

Coinage came along much later, and it was always a free market coinage until the Roman Empire. The advanced Egyptians did not at first make coins. They had excellent scales and could weigh the gold dust and alloy the ore. No problem. No coins needed for payments of credit due in the markets of Egypt.

Coinage with government seals was a signal of the alloy or purity of the coinage, as in Lydia, which had a particular alloy of silver to offer in coined form. It made their mining product more exportable, because it was stamped for authenticity and purity: An early trademark.

The Roman victor in the civil war, Octavian Augustus Caesar, came to Rome and closed the mint at the temple of Juno Moneta, where Senators had always had their gold and silver ore hammered into recognizable Units, of relatively standardized sizes. This had been a private, not a government, activity. The Senator who minted his coins chose the face design. The family of Marcus Brutus celebrated his assassination of Julius Caesar by coining an image of that glorious republican deed. Augustus did not appreciate this, and closed the mint. Only coins with his face on them were permitted, which he used to buy votes in the Senate and among the Plebeians (he was an elected Tribune, with “veto power” also).

Ever since, a tradition of government monopoly of money has caused much mischief.

What Determines “the Quantity” of Money?

The “quantity of money is not a “monetary aggregate,” measured by statistics such as M-1, M-2, M-[et al]. You should think about this idea as if I asked you “What is the quantity of bond asset values in society?” Surely the total quantity of bonds is important, as an asset class. As a macroeconomic valuable, surely this must be important. It certainly represents a monetary quantity, as bonds are a relatively liquid form of financial wealth, easily traded for other assets (houses, factories, government deficit finances). Maybe the total aggregate of corporate Aaa bonds would be something like M-7 and who knows what government bonds are? (Perhaps M-0?)

What makes it possible to calculate the asset value of a bond is to look at its annual dividend payments (or notional future dividend payments) and the current market interest rate for its security class, based on risk, etc. What some buyer will pay for it, based on some valuation calculated on its return.

What makes it possible to calculate the Quantity of Money is to look at the interest rate the Federal Reserve pays on excess reserves, which are the commercial banks’ basis for financing loans and creating new M-1 deposits for borrowers. Reserves are most importantly used for interbank clearings. When the Fed offers an “opportunity cost” of 1.0%, no borrower will get a loan by bidding lower than 1.0% – and higher capital restrictions and regulations will further make the banker cautious about increasing his part of the M-1 aggregate supply.

This is a form of “dynamic control.” It helps the central bank to work toward balancing the aggregate supply of what it can offer (“dollars”) for what the borrowing-part of the world economy wants to have to make more liquidity in payments and trade. The ACH and SWIFT networks are very important, and need to be kept liquid for daily settlements. The “lubrication” of trade.

So, from an “Austrian Economics” perspective, how does the theory of Von Mises accommodate this new system of the quantity theory? Gold is not part of the “money supply,” nor is any form of specific commodity legal tender. It is all electronic today.

[ footnote:

    Public Law 99-185 (31USC5112) notwithstanding, although I wrote it; defining a bullion ounce of gold as $50 and thus a “dollar” = 2% of the current exchange rate XAU/USD.

It plays only a nugatory role in the payments system, but it is “legal tender.” ]

    This essay will be expanded.
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