Mill further says that such inconvertible paper money will act on prices. And if inconvertible paper money will act on prices, why will not convertible paper money, that is, paper money convertible into coin on demand, also act on prices? Token money, especially if a legal tender, and whether a legal tender or not, if accepted without objection in the payment of debt, or if received in full payment for commodities, discharges the money function, and is to all intents and purposes money. It is not absolutely necessary that to make a thing money it should be a legal tender in the payment of debt. Anything which is commonly accepted in exchange for labor or property and in payment of debt, whether so accepted by force of law (that is, its legal tender property) or by common consent, is money. From 1861 to 1873 we had no gold or silver money in the United States, or virtually none. The official reports of the Secretary of the Treasury show that the gold and silver coin, including the gold and silver bullion in the United States Treasury during that period, amounted to but $25,000,000, and even that was not in circulation, except to a very limited extent on the Pacific Coast. Yet during that period prices reached the highest level ever attained in this country. Certainly, the level of prices during that period was not fixed by the gold and silver money available for use. In view of the foregoing facts I think it must be apparent that any money which is received in full payment for commodities, whether so received on account of its legal tender property or by universal consent, and whether it is gold, silver, paper, or token money, acts on prices, and tends to fix the general level of prices.
It is claimed by a great many writers on political economy that credit has the same influence in fixing the general level of prices that money has, and that an expansion or contraction of credit would inflate or contract prices in the same manner and to the same extent as would result from a contraction or expansion of money; that if credit is extended, if more commodities are sold on credit than formerly, such extension of credit will tend to raise prices in the same manner and to the same extent as would so much additional money; and that if credits are contracted, if less credits are given than formerly, such contraction of credits will tend to depress prices in the same manner and to the same extent as a withdrawal of a like amount of money from the channels of trade would depress them. At the head of this school of political economists stands John Stuart Mill. He says:
I apprehend that bank notes, bills, or cheques, as such, do not act on prices at all. What does act on prices is credit, in whatever shape given, and whether it gives rise to any transferable instruments capable of passing into circulation or not. (See Book 3, Chapter 12.)
Is this contention true? If so, then it is not true that the general level of prices is determined by the amount of money available for use; but is determined, rather, by the amount of credits available for use. The debts of the world (and the credits, of course, are precisely equal to the debts, as there could be no debt without a corresponding credit) amount, in round numbers, to $200,000,000,000, and the money in the world amounts in round numbers to $10,000,000,000. That is, there are twenty dollars of credit to one dollar of money; and if credit exercises the same influence in fixing the general level of prices that money exercises, then it is absurd to say that the volume of money available for use fixes the general level of prices, and at the same time to contend that credit, dollar for dollar, is an equal factor in fixing prices. If credit affects the general level of prices in the same manner and to the same extent that money does, then credit exerts an influence on prices twenty times greater than that exerted by money, and we should say: The general level of prices is fixed by credit, modified, it may be, to some extent by the amount of money in circulation.
The difficulty seems to be in distinguishing between money and credit. If we keep in mind the fact that anything which closes the transaction between the parties to the transaction (barter excluded) is money, and anything which leaves something still to be done is credit, we shall have no difficulty in making the distinction.
Can credit affect the general level of prices? One of the most familiar and common illustrations given by those who contend that credit will raise the general level of prices, is that of a man entering the market to buy cotton.
They say: “Suppose a person with $5,000 in money enters the cotton market, and with his money purchases $5,000 worth of cotton. His demand for cotton and his purchase of $5,000 worth will tend to advance or stimulate the price of cotton.” “Now,” they say, “suppose he has a credit of $5,000 and with this credit he purchases an additional $5,000 worth of cotton. The second purchase, made on credit,” they contend, “will tend to still further advance the price of cotton in the same manner and to the same extent that the cash purchase did.” Is this true?
Let us suppose that he purchased the second bunch of cotton on ninety days’ time. At the end of the ninety days he must pay for this cotton. If he draws the $5,000 with which he pays this debt from money invested in the cotton trade, the withdrawal of that sum from money invested in that industry will tend to depress the price of cotton to the extent that it was stimulated by the credit. If he withdraws it from the grain trade or from some other industry, the withdrawal of that sum of money will tend to depress prices in the industry from which it is withdrawn to the same extent as the cotton industry was stimulated by the credit. Whether the money to pay the debt is taken from the cotton industry or from some other industry, the general level of prices has not been raised. The purchase in the first instance may have temporarily stimulated the price of cotton, but if the payment of the debt is made from money drawn from that industry, it will depress the price of cotton to where it was before the credit purchase was made; and if the payment is made from money drawn from some other industry, it will depress prices in that industry to the same extent that the price of cotton was stimulated. In either event the general level of prices remains the same. It is like robbing Peter to pay Paul. It may make Paul richer, but how about Peter? There is no more wealth in existence than before the robbery was committed.
Again, it is claimed that credit stimulates prices by causing commodities which are sold on credit to be sold for higher prices than commodities of the same value are sold for when sold for cash. It is true that sales on credit are, as a rule, at a higher price than sales for cash in hand. Why is this so? For two reasons:
1st. Business done on credit is always attended with considerable risk. Even when the utmost caution is exercised, bad debts will be made, and a greater margin on sales is necessary.