The Value of Money

by Benjamin M. Anderson

The common measure of values aids greatly in determining the prices, the terms, at which exchanges may be made; the medium of exchange makes possible exchanges which could not be made at all in its absence.

The measure of value function does not add to the value of money. The medium of exchange function is commonly a cause of additional value for money. The source of this extra value is the gains that come from exchange.

Exchange is an essential part of the productive process, where you have division of labor with private ownership of the instruments of production, and private enterprise. Values[476] may be created by changing the forms, the time, the place, or the ownership of goods. All these operations are necessary in an economic system like our own. Those who possess money are in a position to take toll, in values, from those who wish to get rid of the goods which they have produced, and to get hold of the goods which they wish to consume. The holders of money do this by means of the money, and under the laws of economic imputation, these gains are attributed to the money itself, first in the form of a rental value, and sometimes, under conditions later to be discussed, as increments to capital value.

Before giving full discussion to this topic, it will be well to consider certain other functions, which are, or may be, sources of value for money.

The reserve for credit instruments function cannot be fully discussed till we take up credit. Provisionally, it may be said that it is a source of absolute value for money, per se, even though the effect on prices may be that, owing to a rise in the values of goods, the prices rise. The fact of credit may even tend to lessen the absolute value of money itself, by lessening the value that comes to money from the medium of exchange function. On the other hand, credit increases exchanges, making possible a vast mass of transactions which without it would not occur at all. Of course, in our hypothetical case above, where the reserve for credit instruments is silver bullion, the reserve for credit instruments function does not add to the value of money at all.

The "bearer of options" function of money is also a source of value for money. It is a valuable service. The man who holds money, waiting his chance in a fluctuating market, anticipates a gain which justifies him in holding his capital without return upon it. Money is not alone in performing this service. High grade bonds also perform it. They bear a lower yield per annum to compensate. The service of bearing options is itself a part of the yield, and is itself capitalized, in their case. Two 5% bonds, each equally secure, but one of which has a wide market, while the other has a restricted market, will have a very unequal value.

This "bearer of options" function is often identified with the "store of value" function. The two are properly distinguished. If a man has in mind a definite contingency, at a definite future time, for which he wishes to hold a store of value, he may well find that a high yield bond, or a loan upon real estate, or many other productive investments, will serve him better than money or bonds with wide market. So far as money is concerned, the "bearer of options" function is much more important than the "store of value" function to-day. The reserve of value in liquid form, for undated emergencies (like the War Chest at Spandau, or the big reserve accumulated between 1900 and 1913 by the Banque de France), would, from the point of view of this distinction, come under the "bearer of option" function, rather than the "store of value" function. The important thing about the distinction is that for one purpose a high degree of saleability in the thing chosen is necessary, while in the other, such is not the case. The most common case of the "bearer of options" function arises when men hold money, liquid securities of low yield and stable value, short loans, call loans, or bank-deposits, waiting for special opportunities in the market.

The medium of exchange function would exist in a society where business goes always in accustomed grooves, where uncertainty is banished, and where most of the assumptions of static economic theory are realized. If we push static assumptions to the limit, and assume "friction" of all sort gone, assume that all goods can flow without trouble or expense to the places and persons where their values are highest, etc., even the medium of exchange function would disappear. But if we make our static assumptions a bit more realistic, leaving the "friction" of barter, but banishing the need for readjustment, and the uncertainties that grow out of dynamic changes (whether caused by growth of population, or changes in laws and morals, or in fashions and tastes, or in technical methods, or by accidents of various kinds), then the medium of exchange function will still remain. Given dynamic changes, we have need for a vast deal more of readjustment, and a vast deal more of speculation. I have shown in the chapter on "The Volume of Money and the Volume of Trade" that the great bulk of trading in the United States to-day is speculation, which increases or decreases with the amount of dynamic change, with its accompanying uncertainty and need for readjustment. The major part of the medium of exchange function arises from this. The whole of it arises from factors which purest static theory is accustomed to abstract from. The whole of the "bearer of options" functions arises from dynamic change. This is the dynamic function of money par excellence. It is commonly treated by economists as an unusual and unimportant function. Merged with the store of value function, it is frequently treated as of historical, rather than present, importance. In my own view, it is of high present importance.[477] I should count it as in considerable degree a function (using function in the mathematician's sense) of "business distrust"[478] waxing and waning in importance as business distrust increases and decreases. In past ages, this function was primarily concerned with consumption, money and other goods being held, at the loss of interest, as a safeguard against personal danger and as a means of subsistence in emergency. Increasingly to-day, it is concerned with acquisition of wealth in commercial transactions. When war and domestic violence were the main cause of social disturbance, the consumption aspect was most prominent. That aspect came strongly to the fore at the outbreak of the present war. The heavy selling of securities, which closed the bourses of the world, grew out of men's efforts to get money and bank-credit as a "bearer of options" for the old reasons. The old reasons explain in large measure the accumulation of gold by the Banque de France, and by the German Government, referred to above. But to-day, in general, the main purpose of those who use money, or other things, as a "bearer of options" is to make gains, or avoid losses, in industry and trade. The man who, in a given state of the market, is afraid to lend, or afraid to invest, foregoes the income which lending and investing promise, and holds his money. The man who sees uncertainty and fluctuation in the market, and expects them to give him bargains in time, foregoes income for a time, and holds his money. The man who has investments of whose future he is uncertain, and who fears to try any other investment for a time, sells what he has, foregoes income, and holds his money. It is not always possible, in discussing the money functions, to preserve the distinctions between money and credit, or money and "money" in the money-market sense. How much difference is made by these distinctions will best be discussed in our chapter on "Credit."

The significance of the "bearer of options" function is especially manifest, I think, in connection with call loans. The "call rate" is commonly well below the regular "discount rate," or rate for thirty-day, sixty-day, or ninety-day paper. The explanation is to be found, I think, in the fact that the lender of call money does not entirely dispense with its service. He reserves a part of the "bearer of options" function. To be sure, he will, in practice, have to wait an hour or two, or even more for it,[479] and this may well mean that he cannot take full advantage of an option. But the right to demand money on even twenty-four hours' notice is more available than a high-grade bond, as a means of meeting rapidly changing situations. This principle will explain, too, I think, why money-rates in general, including even ninety-day paper, are usually lower than the long-time interest rate on safe farm mortgages, or on real estate mortgages in a city. The thirty-day rate will commonly be lower than the sixty- or ninety-day rate—though exceptions can easily be found, if the thirty-day period is to cover a time of active business, which is expected to grow less active during the second or third month. The influence of the bearer of options functions is not the only influence at work on the rates. If it be objected that the long-time interest rate on high grade railroad bonds or government securities is sometimes lower than current money-rates, or just as low, the answer is that these bonds also share the "bearer of options" function, and that the interest rate on them is, like the money-rate, lower than the "pure rate" of interest. Writers[480] have been accustomed to look for the "pure rate" of interest, i. e., an interest unmixed with insurance for risk, in the highest grade of government securities. I think that this is a mistake. I think that the "pure rate" should be sought in long-time loans, of assured safety, which lack a general market. Such loans, at the time they are made, should represent the "pure rate" for that time.[481]

I shall recur to the question of the money-rates, and the question of the relation of the money-rates to the general rate of interest, in the chapter on "Credit."