The late Paul Samuelson once quoted the late Irving
Fisher regarding the monetary policies of the late John Maynard Keynes to the
effect that what developed into Keynesian “Modern Monetary Theory” is, in
reality, nothing more than “legal counterfeiting.” While it is unusual to find so many defunct
economists in agreement on this point, there is another that is even more
remarkable:
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| "Hi, I'm Irving Fisher, and I advocate legal counterfeiting." |
They all thought it was a good thing. Of course, it seems that all three had
somewhat interested motives for advocating “legal counterfeiting.” Fisher, for example, lost a ton of money in
the 1929 Crash, and had to be bailed out by Yale University. By “reflating” the currency, Fisher figured
the stock market would go up, and he would recoup all his losses, gaining back
all that lovely money.
Keynes realized that his monetary theories could not be
implemented without the government having total control of the economy, and
total control of the economy could not be achieved except by allowing the
government to control all economic life through the creation of money and
credit, thereby permanently attaching Academia and most of the people in the
world to the government spigot that was now the source of all that lovely
money for him and his academic buddies.
 |
| "Hi, I'm Paul Samuelson, and I advocate legal counterfeiting." |
Samuelson built his reputation and won a Nobel Prize for
supporting Keynesian economics. He wrote
what was the most widely used and bestselling economics textbook ever.
Had he not backed Keynesian monetary theory to the hilt, he would have
lost his Great Reputation and, worse, all that lovely money.
Fisher, Keynes, and Samuelson all have something else in
common, too, something they share with virtually every major economist since
David Ricardo. It’s acceptance of something called “the Currency
Principle.”
And what is “the Currency Principle” you ask?
Most simply put, the Currency Principle is that the money
supply determines the rate at which money is spent (the “velocity” of money, a
concept developed by Sir William Petty in the seventeenth century), the number
of transactions, and the price level. As
Irving Fisher expressed it when he put it into an equation,
M x V = P x Q
where M
is the quantity of money, V is the velocity of money, P is the price level, and
Q is the number of transactions (some people use “T” instead of “Q”).
 |
| "Hi, I'm John M. Keynes, and I invented legal counterfeiting!" |
In mathematical terms, the Currency Principle is that M
(construed ONLY as currency and, sometimes, "currency substitutes") is the independent variable in the equation, and V, P, and Q are the dependent
variables. That means that as you change
M (the amount of currency), the other variables, V, P, and Q, change in response.
There are two basic problems here. One, within the “Currency School,” M is limited to currency or
its substitutes (hence “the Currency Principle,” obviously). It does not take into consideration any other
form of money . . . and other forms of money in many economies far outweigh currency. This means that, within
the Currency Principle framework, the basic assumption is already wrong because it simply ignores the bulk of the money supply! “Money” is not a medium of exchange as the Currency Principle people would have it, it is the
medium of exchange.
 |
| "Adam Smith here. I'm opposed to counterfeiting, legal or otherwise." |
Two (and you math majors probably spotted this already), you
can’t have more than one dependent variable in an equation. Period.
As interpreted by Fisher and every other Currency Principle economist
who ever lived, the Quantity Theory of Money equation is utter nonsense. It doesn’t
work because it can’t work. All you get is mathematical gibberish.
To understand this, let’s contrast the Currency Principle
with the “Banking Principle.” The Banking
Principle uses exactly the same equation as the Currency Principle, but instead
of starting with the gyrations of David Ricardo, it goes back to the beginning
of time and the first principle of economics.
As Adam Smith (whom Ricardo claimed to be correcting) put
it, the first principle of economics is —
Consumption is the sole end and purpose of all
production.
 |
| Give the Romans a hand: they used real money. |
There are two ways to have something to consume, aside
from theft or gift. One, you produce
what you want to consume. Two, you
produce something to trade to someone else in exchange for something someone
else produced that you want to consume.
“Money” is what the medium of exchange is called, the
making and keeping of a contract, a promise.
“Money” is therefore anything that can be used to settle a debt; “All
things transferred in commerce.”
Most simply put, “money” is how I exchange what I produce
for what you produce. Money is therefore
not “A” medium of exchange, it is “THE” medium of exchange.
The key to understanding the Banking Principle is that,
just as there can be no exchanges without something having been produced, there can be
no money (at least, legitimate money) without something having been produced (take that, crypto currencies!). Thus, starting again with the Quantity Theory
of Money Equation,
M x V = P x Q
we see
that V, P, and Q do not depend on M as in the Currency Principle. Instead, M depends on V, P, and Q!
 |
| "Lobachevsky here. I approve of the Banking Principle." |
In mathematical terms, what we see is that there are now
three independent variables instead of one, and one dependent variable instead
of three. Our math majors can now relax,
because that makes sense! You don’t have to guess what is going to happen to V, P, and Q by changing M, you know what is going to happen to M by
changing V, P, or Q.
And how do you do that?
In a properly run economy (meaning one in which actual
people run things with the government limited to setting standards, enforcing
contracts, and keeping people from killing each other when contracts aren’t
kept), the amount of money will adjust automatically to the needs of the
economy. That is, it will do so as long
as everyone has the right to produce marketable goods and services and enter
into contracts with each other to exchange those goods and services . . . which
means, as long as everyone has the ability to, well, “create money.”
What happens, however, when not everyone can create
money? That’s what we’ll look at
tomorrow.
#30#
