NEXT to the weather, finance is now the most talked about subject in the world. But discussion remains difficult owing to the confusion which exists in many minds about the nature of money. In the following pages an attempt has been made to describe the money system so that its principles may be grasped easily by anyone above the age of sixteen years.
I wish to thank my friend C. Featherstone Hammond for the great help he has given me.
R. MCNAIR WILSON,
January 1st, 1934.
INTRODUCTION
IT is a crime in this country to coin money or to print banknotes. The reason is two-fold. If a man counterfeits money, and spends it, he has gotten goods without working for them and has taken by stealth a little of the riches of his neighbours.
The last crime is more heinous than the first as can be understood by consideration of a simple instance. Let us suppose that we have taken our places at an auction sale. There are few buyers and prices, in consequence, are low. Then a stranger enters the saleroom and begins to bid. The auctioneer immediately gets higher prices. The newcomer’s money has made everything in the sale room more valuable and has, correspondingly, reduced the value of all the money on offer.
By bringing his money to market and using it there to buy goods, the counterfeiter raises the price of goods, and so lowers the value of money. He enriches sellers at the expense of buyers by increasing demand ; for money is most valuable when it is least plentiful. If it was possible for a counterfeiter to double the number of £1 notes in use, each £1 note, of those existing before the counterfeiter began his operations, would buy only half the quantity of goods which it bought before. In other words each one pound note would soon be worth only 10s.
Counterfeiters, therefore, are thieves in the respect that they slip their hands into other men’s pockets and take away a part of the value of other men’s money. All have to pay for the goods which these rogues are getting. Like brigands, indeed, they force honest folk to give them tribute. The theft, so secret and hidden that none is aware of it, is not less real than the picking of a pocket or the emptying of a safe.
It follows that any creation of new money, no matter by whom made, diminishes the value of the money already in use. The owners of money already in use suffer loss, when new money is put into circulation, without knowing how this loss has occurred. All they are aware of is that the prices of goods have risen and that, in consequence, their money buys less. In fact they have been compelled, without their knowing it, to pay a kind of “invisible tax”.
Who gets the benefit of this invisible tax ? In the case of the issue of false money the benefit, obviously, goes to the counterfeiter. In the case of the issue of good money, the person or persons issuing the good money is enriched.
In former times new, good money was issued only by the King and his Government. It was used to pay for public works such as the upkeep of the army and navy and the service of public health and education. Thus, what the owners of money had lost, when the new money was created, came back to them, later, in the form of a reduction of taxation. The “ invisible tax ” took the place of the visible one. But since, in modern days, Governments have everywhere surrendered to private individuals the right to create what is in effect new money, the benefit gained by the creators of the new money is no longer returned to the public. The private creators of new money, like the counterfeiters, keep the benefits to themselves and thus profit at the expense of all their neighbours including the King and his Government.
Worse still, the surrender to private individuals of the power of creating new money has given these private individuals the power to change the prices of goods, or, in other words, to alter the price-level. The more new money they create, as has been seen, the dearer will goods become.
CHAPTER I
CONFIDENCE
FROM very early times people have taken their money to strong-rooms and vaults because of their fear of burglars. In most towns some citizen built such a strong-room and set up in business as the keeper of his neighbours’ gold and silver. He offered security and charged a small fee for it.
He used, further, to supply his clients with receipts for their money. If you put £100 in gold into his strong-room he gave you an IOU for £100. When you came back to take your money away the IOU was destroyed. The IOU in other words was a promise-to-pay signed by the owner of the strong-room.
The particular owner of a strong-room, with whom we are now concerned, happened to be an observant man. He noticed after a time, that very little of the gold and silver which had been entrusted to him was ever taken away again. People brought hundreds of pounds ; but they seldom wanted to remove more than a few pounds at a time. He noticed, further, that people whom he had not seen before came to his strong-room with IOU’s and demanded money for them. These people explained that they had taken the IOU’s in payment for goods supplied or in payment of debt.
“ But my IOU’s are not money,” he protested, “ Why should you take them instead of money ? ”
“ Because we know that you’ve got the money here in your strong-room.”
“ How can you know that ? ”
“ We trust you. Those who have taken your promises-to-pay have always got their money when they asked for it.”
“ So you are using my promises-to-pay instead of money ? Just as if they were money ? ”
“ Why not ? It’s much safer and more convenient to use a slip of paper than to carry round bags of gold or silver. We all know you in this town. Your name on a promise-to-pay is as good as gold. The shopkeepers take your IOU’s. One can buy food and clothes¾anything at all¾with them. Why bother to draw out gold or silver unless one is going on a journey into towns where your name is not known ? ”
The owner of the strong-room thought long and deeply about this conversation. It was true ; his promises-to-pay were being used instead of money by the whole town. Farmers took them in exchange for their beasts and crops at the markets ; shopkeepers took them ; the doctor and the lawyer and even the tax-collector took them. Very well then, they were money, seeing that money is anything for which people will give goods or services or which they will accept in payment of debt. The owner of the strong-room opened the door of his vault and looked at the bags of gold and silver on his shelves. Suppose that, by chance or ill-luck, half of that money got lost, nobody would be a penny the wiser or a penny the worse oft. There would still be enough, far more than enough, left to meet all the demands for gold or silver that were ever likely to be made. The promises-to-pay would go on circulating just the same ; people would take them just as eagerly as before.
The owner began to study his ledgers. He found that, on an average, only one-tenth part of the gold and silver held by him was ever asked for. If a client had put £100 in the strong-room, the odds were that, during any year, that client would not draw out more than £10. The other £90 would lie idle on the shelf from one year’s end to the other. That meant, as he saw, that if he lost even as much as nine-tenths of all the gold and silver entrusted to him, he would still be in a position to meet every claim for gold or silver that was ever likely to be made upon him. His promises-to-pay would be just as highly valued as before and just as readily accepted. For all those who wanted gold or silver could be supplied with it the moment they presented their IOU’s.
He had, at this time, some £10,000 in gold and silver in his strong-room and there were, therefore, promises-to-pay to the value of £10,000 in the hands of his clients. Why not increase the number of promises-to-pay to £100,000 ? The idea seemed so wild, so preposterous and so dangerous that, at first, he put it away from him. How could he sleep easily in his bed if he knew that people held his IOU’s for £100,000 while, in actual fact, there was only gold and silver to the amount of £10,000 in his strong-room ? Could he be sure that his promises-to-pay would go on circulating instead of real money ? Might not all his clients descend on him, one day, in a body, with their IOU’s in their hands, demanding gold and silver in exchange for them ?
But that mood of panic passed. Day followed day without bringing any change in the habits of his fellow townsmen. A few of them came to take away small sums of money ; these were people about to travel into regions where his name was not known and where, therefore, his IOU’s would not be accepted, or people in need of pocket-money or people obtaining coin with which to pay servants’ wages.
The great mass of the population never entered his door. They went on paying and receiving in the shops and markets his IOU’s exactly as they had always done. And still his ledger bore witness that, on an average, only one-tenth of the quantity of gold and silver in his strong-room was ever asked for.
Timidly, therefore, and with great caution, our owner of the strong-room went into the business of lending promises to pay what he did not possess. Having found a client who was short of cash he offered him £100 worth of IOU’s on condition that the loan was repaid by a certain day and that it carried, meanwhile, interest at 5 per cent. As a guarantee of good faith the borrower handed over the title-deeds of his house, saying that, if he failed to repay the IOU’s, the lender could sell the house and so recoup himself.
This guarantee given by the borrower caused the lender a pang of conscience. For he was well aware that he had lent no money at all but merely a promise to pay money. The fact that people would give goods for these IOU’s did not in the least alter the fact that they were IOU’s and nothing more—IOU’s, moreover, which lacked a backing of gold and silver.
He had created these IOU’s out of nothing ; why should he receive interest on them ? Again, since they were going to play the part and fulfil the functions of true money, was he not guilty of creating money in the manner of a counterfeiter ? Had his strong-room not become a kind of private mint ?
These uneasy questions troubled him for a time but when the loan was repaid, with interest, his scruples vanished. After all, he told himself, he had not created any new money. All that he had created were promises to pay money. What had really taken place was a fair exchange of debts. He had borrowed the title-deeds of his client’s house ; his client had borrowed the title-deeds of £100. As his client continued to live in the house, his client also was obtaining interest on what he had lent.
But conscience continued to prick the banker now and again. The house, as he knew, had cost his client hard work. It had been earned ; whereas the IOU’s for £100 had cost nothing. They had been created out of nothing, invented by a stroke of the pen. Worse still, they played the part of money, exactly like false coin or forged banknotes. They added, therefore, to the total quantity of buying-power and so, by raising prices, had made all the rest of the money in the town a little less valuable. Every other citizen had thus been forced to contribute his or her share of the newly-created “ money ”. He, the lender of the IOU’s, in other words, had stolen from all his fellow citizens, and had obtained interest upon the stolen “ money ”.
But the system had worked well and conferred benefits on others. Nobody so much as suspected that a robbery had taken place. On the contrary everybody was delighted. The borrower had been able to develop a new line of his business ; there was more trade in the town ; it had been possible to give employment to some idle hands. The lender noted all this and proceeded, quietly, to find new borrowers for his IOU’s until he had lent £100,000 worth of them and was, consequently, in receipt of an income from interest of £5,000 a year. As soon, moreover, as any loan was paid back he made haste to relend it.
The town, now, had IOU’s for £100,000 in its shops and markets. Prices began to rise sharply and everyone with anything to sell made a profit. As a consequence there was a boom in business and large quantities of goods were manufactured. The farmers cultivated new acres and more food came on the market. But this rise in prices went on only while the owner of the strong-room was engaged in making his loans of IOU’s. He noticed that each time he stopped lending prices stopped rising. And each time prices stopped rising business in the town fell away. The hope of making bigger and bigger profits on a rising market had been taken away.
He began to find himself, now, in a difficulty. Because he had lent the whole of the £100,000 (in the form of IOU’s) he had set out to lend. He visited his strong-room again. His shelves were no longer crowded with bags of gold and silver. On the contrary they were nearly empty. His ledger showed him that the amount of gold and silver which he took in each day only just equalled the amount of gold and silver which he had to pay out to the people who wanted to change his IOU’s for actual coin.
He gave the matter further careful consideration. Every one of his IOU’s, those he had lent as well as those he had given as receipts for gold and silver, were promises to pay gold and silver. Consequently any of the borrowers of his IOU’s could ask for gold and silver in exchange for them. All these borrowers, indeed, as he very well knew, supposed that it was gold and silver which they were borrowing. They had taken IOU’s simply for convenience sake because, like their fellow townsmen, they believed that the lender was good for the money. If the slightest suspicion got about that all the IOU’s could not, instantly, be transformed into gold and silver—but he put that terrible thought away from him. He had always had enough coin on his shelves to meet the demands made upon him. Everybody who had presented an IOU at his counter had instantly obtained gold or silver for it.
But if he went on lending IOU’s above the £100,000 worth things might be different. His original calculation had been proved in practice to be sound. It was true that people used IOU’s in preference to gold and silver and that the amount of gold and silver asked for was, roughly, about one-tenth of the amount of IOU’s asked for. He had started a banking business. People paid in his IOU’s mixed up with gold and silver coins—just as if the one was as good as the other. They carried away the same mixture, coins for payments outside of the town and IOU’s for payments to their fellow townsmen. Confidence in him was complete. But it depended on the apparent interchangeability of the metal and the paper.
That must, therefore, be maintained at all costs. In no circumstances could he dare to create IOU’s in excess of ten times his holding of gold and silver. He must, therefore, now that he had created the full amount which his holding of the precious metals allowed him to create, draw in his horns and refuse to lend more.
Instead, therefore, of welcoming new borrowers, as had been his custom while he was spreading out his IOU’s, he began to discourage them : he could not, he said, see his way to make further loans. He had already gone as far as he felt able to go. The buoyancy at once went out of the market. Those who had bought in the hope of selling at higher prices found themselves disappointed ; those who had produced goods to sell at higher prices began to grow uneasy.
The owner of the strong-room shared to some extent in this anxiety. For every loan of his IOU’s made by him he had taken some security, a mortgage on a house, or a herd of cattle or a stock of wine or jewellery or silver plate. The prices of all these things were weakening. Would the householder, the farmer, the wine merchant, the owner of the jewellery or plate be able to repay ? And if not, would he, the banker, be able to get back his IOU’s when he sold the securities ?
Another fear came to disturb his sleep. While he was lending and while, in consequence, prices were rising, money had been changing hands with great speed. Both coins and IOU’s had passed quickly from buyer to seller and from seller back to buyer again. The borrower had spent as fast as possible in opening a new factory and rushing new goods on to the rising markets. This spending had paid for buildings and materials. Thus IOU’s had been brought back at once to the bank by builders and tanners and smiths and other master-tradesmen, who, in their turn, had spent them on wages. They had poured swiftly through the bakers’ and butchers’ and greengrocers’ shops and these retailers had also fetched them back to the bank and then, later, drawn them to pay their bills to the millers and farmers and market gardeners and so on. Almost every day new accounts had been opened with the bank—each of them consisting of statements of the number of IOU’s held by the person owning the account.
The banker knew what these statements really represented. He knew, for example, that the £100 worth of IOU’s which he had lent to the glovemaker had been spent by that man in paying £80 to the tanner, £10 to the furrier and £5 each to the horner and the threadmaker. The tanner’s account stated that he, the tanner, possessed £80. The furrier’s account said that he, the furrier, possessed £10 and so on. But what these people actually possessed were his, the banker’s, IOU’s. Suppose that the fall in prices alarmed all these good people to the extent of making them wish to possess gold and silver. If that happened an army of clients would appear one morning at the door of the bank, each of them with his hands full of IOU’s and each of them demanding coin, hard cash, red gold. The banker, tossing on his bed, resolved that not only must he stop lending ; he must shorten sail. He was confirmed in this resolution when he saw that his IOU’s were no longer passing so quickly from hand to hand. The slowing down of business had caused a corresponding slowing down in the rate of circulation of money. People were not spending. On the contrary they were allowing their IOU’s to lie in the bank. Thus, the quantity of “ money ” in the markets was diminishing ; there were fewer and fewer bidders at the sales.
The banker, in these anxious circumstances, bethought him of his loan of £100 to the glovemaker. He called that man into his private office and sat down opposite to him “ I have no wish, of course,” he said, “ to embarrass you in the conduct of your business ; but I do feel that, in present circumstances, it might be well if you could see your way to pay off your loan.”
He spoke in the quiet, firm tones of a man who is asking regretfully for his own. The glovemaker flushed and wiped his brow.
“ You hold my house,” he said, “ as security for the loan. It’s worth £500 if it’s worth a penny.”
“ Oh, my dear sir, things in this world unhappily are worth only what they will fetch.”
“ What, do you suggest you haven’t got good cover ? ”
“ Not at all. But the loan has been outstanding for six months. Banking, you know, is not exactly money-lending. We are the handmaidens of industry . . .”
“ What can it matter to you if you have security ? ”
The banker shook his head.
“ It’s difficult to explain. Finance, I find, is a closed book to the majority of men. Well, each to his trade.” He paused.“ What about a mortgage on your house ? You could borrow enough to repay my loan.”
The glovemaker went away. But he did not take the banker’s advice. Instead he called on a shopkeeper who had bought a consignment of his gloves worth £100 and urged that he must be paid at once. The shopkeeper had now no option but to advise the tanner, the furrier, the horner and the threadmaker, all of whom had accounts with his shop, that they must immediately pay off their debts.
Next morning the banker found tanner, furrier, horner and threadmaker standing behind his counter. Each drew out his little stock of money—in the form of IOU’s—and closed his account. The sums withdrawn paid the shopkeeper, who paid the glovemaker, who repaid his loan to the banker, who wiped the promises-to-pay out of existence with a stroke of his pen.
The banker could now look at his ledger with less anxious eyes (because this process of calling-in loans had not, of course, been confined to one client only). He saw that he no longer owed anything to the tanner, or the furrier or the horner or the threadmaker ! And he was no longer in any danger, by reason of the possible failure and default of the glovemaker, of not getting back all the IOU’s he had lent to that man. In all he had called up, let us say, half his former loans of IOU’s ; there were now only £50,000 of these outstanding. In other words his holding of gold and silver amounted to one-fifth instead of one-tenth of his promises-to-pay.
He was glad that he had, thus, reduced his risk when, soon afterwards, some of the more timid among his clients began to change their IOU’s into coin. He ventured to ask one of these timid folk why he was taking such a course.
“ Because we feel that, with so many people losing their money, you cannot have escaped losses yourself.”
While this scene was in progress an old man entered the bank. The banker, with a start, recognized one of his original depositors—a man who had placed £4,000 in gold in his strong-room. The old man came to the counter and put down IOU’s to the value of £4,000 “ I want my money, please.”
The banker’s face became expressionless. He raised his hand as if to wipe his brow but immediately lowered it again.
“ Certainly.”
There were a number of people in the bank. They moved nearer, craning their necks. The banker signed to his clerk and they went down together into the vault. A few minutes later they came back carrying the bags of gold. They placed the bags on the counter. The old man opened one of the bags and poured some of its contents into his hand. The bright gold met his eyes genially. He sighed, bent down and then stood erect. He turned to the other people in the bank.
“ There you are,” he said. “ There’s my money. Who says now that our banker hasn’t got the gold and silver to meet his IOU’s ? ” He turned to the banker.
“ I heard a rumour that you’d had losses like the rest of us. I knew it wasn’t true, mind you ; but I thought I’d just put you to the test.”
He made a gesture with his long arms.
“ Take it back where it came from,” he cried. “ Your IOU’s are good enough for me.”