There is an aphorism that says “it is not about getting the right answer but about asking the right question” which is crucial. Readers of this site are surely familiar with advertisements such as ‘real money’, ‘honest money’, ‘Fiat’ money, printed money, borrowed money … ad infinitum.
In fact, Aristotle named the desirable qualities of money;
Money must be sustainable
Money must be portable
Money must be divisible
Money must have intrinsic value
What question did Aristotle’s qualities answer to? The question ‘what is good versus what is not so good for the money’. This question is fundamentally different from “what is money”. If we ask which money is better / not so good, we assume that we already know what money is and what is not … a big guess.
During recorded history, many things played the role of “money” (mainly store of value and medium of exchange); cattle (pecus … Roman origin of the pecuniary) salt (origin of the salary) cowrie shells, cocoa beans, even cigarettes in the POW camps during WWII … and, of course, Gold and Silver through the centuries.
But before thinking about what is better money, we must decide what is money … bad or good … and what is not money. One way to understand this dichotomy is to study history; the history of money … and the history of real vs. fake money.
Be aware that cattle, salt, cowrie shells, cocoa beans, cigarettes, monetary metals, etc. they are all some kind of “things” … that is, they are real elements. Not a single ‘promise’ or ‘I will pay’ in the group. On the other hand, ‘paper money’ (banknotes) is nothing more than a promise … of something.
To clarify this, let’s simplify; consider a pound of sugar as the “substance” … and a “I will pay a pound of sugar” as the promise. I borrow a pound of sugar from him and give him a promissory note for ‘a pound of sugar’; then the difference becomes obvious; the ‘things’ (pound of sugar) … and the promise … the paper promissory note.
And what do you say? Well, you can certainly use sugar to sweeten your coffee … but not so much the (paper) promissory note. If you hold the pound of sugar, great; you have ownership and can put it into practice; but the promissory note, no way. Only if you redeem the note will it have any real value.
Keep in mind that the pound of sugar is an asset … no matter who has it. On the other hand, the note is an asset while it is in your hand; a claim on a pound of real sugar. Fundamentally, from my point of view, the note itself is a liability; after all, it is a claim on me for an actual item, a pound of sugar that I have to return to you upon receipt of the promissory note.
The note is either an asset or a liability, depending on your point of view; the writer of the promissory note vs. the Porter. On the other hand, sugar is a “pure” or “real” asset; valuable no matter in whose hand it resides.
This is what Aristotle considered “intrinsic value” … sugar has an “intrinsic” value, rather than the “derivative” value that the note has. In simple words, the note has value only to the extent that it is redeemed … and can be redeemed. This is often called “credit risk” or “counterparty” risk … the note is not very robust; it will become useless if the promissory note writer does not. Real things have no counterparty risk.
The same promissory note that is an asset in your hand is my responsibility … after all, if you present the promissory note, I am obligated to return you a pound of real sugar … and thus extinguish the promissory note. In fact, once redeemed, the note becomes useless; paid in full … but the pound of sugar is still a pound of sugar … certainly not useless.
Thus, money extinguishes debt; that’s the hallmark of “real” money. When (yes!) I give you back your pound of sugar, the promissory note is redeemed; the debt disappears, it is extinguished with real “things”. We could even negotiate that instead of a pound of sugar, I give ½ pound of salt; if you agree, then the promissory note is also extinguished, again for real things. Substitute silver and gold for sugar and salt …
Suppose you decide to exchange your IOU to Jane for the pound of sugar, rather than pay it back … if Jane agrees, you get your pound of sugar … but the debt is NOT extinguished; now Jane is holding it, and I will have to give Jane the pound of sugar if she presents me with my promissory note. The promissory note served as a medium of exchange; but NOT as a debt extinguisher. The promissory note plays a (false) monetary role, but it is not money, since it cannot extinguish the debt.
Not only that; Suppose I don’t use the pound of sugar I borrowed, but loan it to Joe; in turn, Joe gives me a promissory note for a pound of sugar … and magically, a pound of real sugar now has two promissory notes against him. Who would have thought! One pound of sugar, two promissory notes for the same pound of sugar. This process can proliferate with no end in sight; Joe could lend the sugar again etc … An endless promissory note ‘backed’ by the same pound of sugar.
If you come to claim your pound of sugar, which I no longer have, I cannot give you your sugar. Joe now has it; all I have is another promissory note. Would you trade the promissory note I gave you for the promissory note Joe gave me? Mere exchanging debt notes … We begin to see how real things are categorically different from promissory notes; promissory notes disguised as money cannot extinguish the debt; they can only change the owner of the debt.
But it gets better, not just because of a silly debt like a pound of sugar note, but because of a debt in the real world. Let’s analyze two companies; call them Co. ‘A’ and Co. ‘B’. Company ‘A’ makes grommets … and Company B buys grommets to incorporate into their own widget product line. ‘A’ sells one hundred buttonholes to ‘B’; then, in the books of ‘A’, in Accounts receivable, an entry is created for ‘one hundred buttonholes sold to’ B ‘for 100 currency units, payable in 30 days’.
Similarly, in the books of ‘B’, under Accounts Payable, an entry is created for ‘one hundred buttonholes purchased from’ A ‘for 100 currency units, payable in 30 days’. So far nothing unusual; in 30 days, ‘B’ pays ‘A’, and the accounts are settled … the promissory note is redeemed. Notice that the promissory note (for 100 buttonholes) is an asset on ‘A’s books, but a liability on’ B’s book … just like the sugar pound promissory note. These notes are two-sided assets and liabilities at the same time, depending on the point of view.
Now suppose that the management of ‘A’ and ‘B’ decide to merge the two companies; ‘A’ and ‘B’ merge to become Company ‘Z’. So what happens? Well, the ‘A’ and ‘B’ books are consolidated; total assets and total liabilities are added together and appear on the books of the newly created company ‘Z’.
But wait; if ‘B’ owes ‘A’ (payable from ‘B’, receivable from ‘A’) and ‘A’ and ‘B’ no longer exist, these numbers will be transmitted to ‘Z’; that is, ‘Z’ owes 100 currency units … to ‘Z’? Wow! No way; items cancel each other … any debts or payments due to other companies will remain … but ‘AB’ transactions cancel. The promissory note is consolidated and ceased to exist through the merger of two previously independent companies.
Meanwhile, what about the buttonholes that ‘B’ just bought? Clearly, these are now in ‘Z’s inventory; and ‘Z’ will incorporate them into its widget product line. The real remains; the promissory notes disappear. Real things are potentially money; real money can’t just disappear. The notes are not money; they can and do disappear. It’s that easy. Now replace Treasury and Federal Reserve with ‘A’ and ‘B’, replace Treasury bills and Fed notes with eyelets and gadgets!
The bottom line; real stuff, ‘pure’ assets can be ‘real’ money … good or not so good. Notes that are assets / liabilities cannot. Unfortunately, the word asset is used incorrectly, it applies both to “pure” assets and to promises that are active on the one hand but passive on the other. This is the main reason why the fake money system we currently live under is dying … and only real money comprising real assets can save our economy … and our civilization.
