Tuesday, September 8, 2015

Banks and the Stock Market, III: Banking Principle Economics


Banking Principle economics is a little more straightforward than Currency Principle economics.  This may be because there is only one surviving school of Banking Principle economics: binary economics, what its principal developer, lawyer-economist Louis O. Kelso, called “the economics of reality.”

Louis O. Kelso
In binary economics, money is simply a means to measure value and facilitate exchange — it’s a contract, nothing more, nothing less, a symbol, not the thing itself.  As Kelso explained it,

“Money is not a part of the visible sector of the economy.  People do not consume money. Money is not a physical factor of production, but rather a yardstick for measuring economic input, economic outtake and the relative values of the real goods and services of the economic world.  Money provides a method of measuring obligations, rights, powers and privileges.  It provides a means whereby certain individuals can accumulate claims against others, or against the economy as a whole, or against many economies.  It is a system of symbols that many economists substitute for the visible sector and its productive enterprises, goods and services, thereby losing sight of the fact that a monetary system is a part only of the invisible sector of the economy, and that its adequacy can only be measured by its effect upon the visible sector.”  (Louis O. Kelso and Patricia Hetter, Two-Factor Theory: The Economics of Reality. New York: Random House, 1967, 54-55.)

In binary economics, all money is a contract, just as (in a sense) all contracts are money.  This is strictly in accordance with Say’s Law of Markets, which is based on Adam Smith’s first principle of economics from The Wealth of Nations (1776): “Consumption is the sole end and purpose of all production.”

Jean-Baptiste Say
That being the case (and all other things being equal), the only way to consume is to produce; you cannot consume what has not been produced.  You must, therefore, either produce goods and services for your own consumption, or to trade to others for what they have produced so that you can consume it.  The means by which we exchange goods and services we call by the general term “money.”  As Jean-Baptiste Say explained,

“All those who, since Adam Smith, have turned their attention to Political Economy, agree that in reality we do not buy articles of consumption with money, the circulating medium with which we pay for them. We must in the first instance have bought this money itself by the sale of our produce.

“To a proprietor of a mine, the silver money is a produce with which he buys what he has occasion for. To all those through whose hands this silver afterwards passes, it is only the price of the produce which they themselves have raised by means of their property in land, their capitals, or their industry. In selling them they in the first place exchange them for money, and afterwards they exchange the money for articles of consumption. It is therefore really and absolutely with their produce that they make their purchases: therefore it is impossible for them to purchase any articles whatever, to a greater amount than those they have produced, either by themselves or through the means of their capital or their land.

“From these premises I have drawn a conclusion which appears to me evident, but the consequences of which appear to have alarmed you. I had said — As no one can purchase the produce of another except with his own produce, as the amount for which we can buy is equal to that which we can produce, the more we can produce the more we can purchase. From whence proceeds this other conclusion, which you refuse to admit — That if certain commodities do not sell, it is because others are not produced, and that it is the raising produce alone which opens a market for the sale of produce.”  (Jean-Baptiste Say, Letters to Malthus.  London: Sherwood, Neely, and Jones, 1821, 2.)

John Conduitt
Nor is this some kind of wild and crazy innovation by Smith and Say.  Other political economists advanced the same theory before Smith.  For example, in a passage that clearly viewed coin and bullion as a substitute for marketable goods and services (not the other way around), John Conduitt, Member of Parliament and Master of the Mint (who married Sir Isaac Newton's neice), explained,

When we cannot pay in goods, what we owe abroad, on account of the balance of trade, or for the sale or interest of stocks belonging to foreigners, or for foreign national services, our debts must be paid in gold or silver, coined or uncoined; and when bullion is more scarce or more dear than English coin, English coin will be exported, either melted or in specie, in spite of any laws to the contrary.”  (John Conduitt, Observations Upon the Present State of our Gold and Silver Coins, 1730.  London, T. Becket, 1774, 1.) [Emphasis added.]

If any doubt remains, we can go to an authority familiar to readers of this blog, Dr. Harold G. Moulton, president of the Brookings Institution from 1928 to 1952:

Harold G. Moulton
“It is important to bear in mind that the thing loaned (on credit) may be either commodities or funds.  Goods sold on time involve credit; indeed, we usually say that they are sold ‘on credit.’  Such merchandise may be paid for by a return of goods in kind; though under modern conditions the obligation is usually settled by money payments.  Loans of money by a bank or other financial institution, or by one individual to another, similarly involve a future payment, the credit consisting in allowing the individual to have the use of funds which he is to return at a later time.”   (Moulton, Financial Organization and the Economic System.  New York: McGraw-Hill Book Company, Inc., 1938, 99.)

Thus, as Henry Dunning Macleod, another lawyer-economist, observed, “Money and Credit are essentially of the same nature; Money being only the highest and most general form of Credit.” (Henry Dunning Macleod, The Theory of Credit. Longmans, Green and Co., 1894, 82.)

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