Economics Volume II: Modern Economic Problems

by Frank A. Fetter

§ 3. #Money as a valuable tool.# Money is often, by a figure of speech, called a tool. A tool is a piece of material taken into the hand to apply force to other things, to shape them or move them. Figuratively, this is what money does. A man takes it not to get enjoyment out of it directly, but to apply force, to move something, and that which he moves is the other commodity. Money thus (as money) is always an indirect agent. Adam Smith aptly likened money to the roads and wagons that transport goods, thus gratifying desires by putting goods into more convenient places. The fundamental use that money serves is to apportion one's income conveniently as it accrues and as it is spent. The use of money increases the value of goods by increasing the ease with which trade takes place. Like any tool or agent, money is valued for what it does or helps to do. It enhances the value of the goods that it buys and sells by dividing them into quantities convenient for use and by making them available at the right times. In the light of the principles of diminishing gratification and of time-preference it is clear that the amounts in which, and the times at which, goods are available have an essential bearing on their values. Money is the most successful device ever discovered for distributing the supplies of a journey along its course, and the goods of daily need over a period of time. The use of money as a storehouse of value by hoarding it is merely a more extreme case of keeping income until a time when it will have a greater value to the owner than it has in the present.[1]

§ 4. #Relative importance of money.# Because money is the general expression of purchasing power, and comes to symbolize all other wealth, it often assumes undue and exaggerated importance in men's eyes. Money is but one of many forms of wealth. It constitutes but a small percentage of the total wealth of a country, and it is far from being the most indispensable to human welfare. Yet its importance, as a whole, in determining the form of industrial organization is enormous. In a society without money, industrial processes would be very different, and trade would be hampered in manifold ways.

A poor community has little money because it cannot afford more; it gets along with less money than is convenient just as it gets along with fewer agents of every other kind that it could use. Pioneers in a poor community where the average wealth is low cannot afford to keep a large number of wagons, plows, good roads, or schoolhouses. If the members of the community were wealthy enough each would have more of these and of other things, and the sum total of money would be greater. Great as is the convenience of money, poorer communities have to do with little of it. It is, therefore, a confusion of cause and effect when poor communities imagine that their poverty is due to lack of money.

§ 5. #Concept of the individual monetary demand.# Let us now seek to get in mind the idea of an individual monetary demand, as that amount of money which at any time is required by an individual to make his purchases in expending his income. Every man may be thought of as having an average monetary demand, or his average individual cash reserve, throughout a period. A man with a salary of $50 a month paid monthly has ordinarily a maximum monetary demand of $50. If his expenditures are made in two equal parts, the one on pay-day, the other thirty days later, his average monetary demand during the month is a little over $25. If most of his purchasing is done in the first week of the month, his average monetary demand may be perhaps $10. Many a workman purchases on credit, running accounts at the stores for a month. Then on pay day he spends his entire month's wages the day he receives it, and goes without money for the rest of the month. His average monetary demand throughout the month would then be about equal to one day's wages. Evidently any person's cash reserve may be expressed as that proportion of his income that is to him of more value retained in money form for any period than if at once expended.

In this conception of the individual monetary demand, must, however, be included not merely the demands of retail purchasers, made by themselves, but also those of all agencies such as merchants, bankers, and transportation companies, serving the needs of ultimate consumers of goods. The use of money may be necessary several times before a commodity completes its journey from producer to consumer.

Of two persons whose expenditures of money are of the same kind and made at the same rate, the one having the larger amount of purchases to make has the larger monetary demand. But the amount of purchases does not always vary directly with the amount of real income[2]; for example, a farmer and a village mechanic may have at their disposal incomes equal in the quantities of goods, such as food, fuel, clothing, and house-uses (worth, let us say, $1000 for each), but the farmer would be getting a larger part of his goods directly from his farm and by his own labor, while the mechanic would be getting first a money income to be expended afterward for food, clothing, and rent. The mechanic would in this case have an average monetary demand much larger than the farmer.

We see thus that a person's monetary demand at any time is that amount of money which rests in his possession as the necessary condition to making his purchases as he desires. Individual monetary demand varies in proportion directly to the delay, and inversely to the rapidity with which the individual passes the money on; and directly to the amount of the person's income that is received and expended in monetary form.

§ 6. #Concept of the community's monetary demand.# The monetary demand of a community at a given time is the sum of the monetary demands of the various individuals and enterprises. It is that stock of money which is necessarily present to effect the exchanges of the community in the prevailing manner at the existing price level. A single dollar as it circulates helps to supply the monetary demand of many individuals in turn: the more quickly each person spends the piece of money he receives, the greater its rapidity of circulation. Let us suppose that every piece of money passed from one person to another once each day. Then a dollar would, in the course of a business year (about 300 days), serve to buy (and at the same time to sell) $300 worth of goods. If the average purchases of each individual amounted to $1000 a year, the average monetary demand of each would be about 3-1/3 dollars.

But every moment beyond the average time that any one kept money would increase his monetary demand. If he delayed a day, a week, or a month in spending the money, waiting until he could buy in some other market, or until a better time to buy, he would thus increase insomuch the amount of money needed to make the trade (on that scale of prices). It requires more slow dollars than swift dollars to make a given volume of purchases.

Evidently the times of maximum monetary demand of the different individuals do not coincide; rather they alternate with each other, and the community's total monetary demand at a given time is a composite of the many individual variations. The amount of money that will remain in circulation in a community depends on several factors, the chief among them being the amount of goods to exchange, the methods of exchange, and the prevailing scale of prices. The amount of goods to be exchanged may change even when the amount produced is unaltered (e.g., a change from agricultural to industrial conditions). The methods of exchange may alter so as to require either more money (e.g., cash instead of credit business), or less money (e.g., use of bank checks displacing use of money by individuals). Or, apart from the other factors, the scale of prices may change as the conditions of gold and silver production are altered. The interrelations of gold and silver production, paper money issues, banking growth, and money-inflow and outflow in foreign exchanges give rise to the most interesting and important problems in the field of monetary theory.