What is Money? – Part II

10/22/2010 Portland, Oregon – Pop in your mints…

click here to see previous episodes in this series:
What is Money? - Part I

We left off yesterday leaving the comfortable place of thinking that we knew what money was to having to define something that we took for granted.  I do not blame you, dear reader, if you are content with the answer that you had slept comfortably at night knowing all of your life.  To grapple with this question is to question many things that we take for granted.  It can be an unsettling experience.

I was first unsettled by this same question in a class on Monetary Policy at the Universitat de Barcelona in the Spring of 2004.  The professor held up a small jar full of shredded green paper and asked us if we knew what it was?  The answer, it turns out, is that the jar was full of $50,000 worth of US Dollars that had been removed from circulation and destroyed.  Simple enough, right?  Dollar bills wear out, you have to replace them.  However, her (the professor’s) point was that what we use as money does not exist in a real, tangible sense.  It is an invention created to meet the policy demands of the fiscal and monetary authorities.  It is an invention that can be created and destroyed at whim.

Shredded Dollars!

I was taken aback, trying to catch my breath!  She went on to  explain that Corporations, businesses, etc. are simply “money machines” which strive to minimize money inputs and maximize money outputs.  The difference between the inputs and outputs is what we call profit.  This is obvious enough and it was logical that she would share this insight with our MBA class which was being trained to manage said Corporations.

Something in my mind short circuited in trying to reconcile the logic of a Corporations’ reason for existence being to create money and then seeing that same money end up shredded and destroyed in rather large quantities.  The motor of my mind was so seized up that I managed to miss nearly every question that day on a pop quiz that tested our knowledge on “What is the proper reaction, in terms of monetary policy, to various economic data points?  Should you move to increase or decrease the money supply?”  The questions I did answer correctly were likely due to my misunderstanding the question (I was still learning Spanish and Catalan) rather than any grasp of accepted policy remedies.

In retrospect this day was the day that completely changed the way in which I viewed US Dollars, Euros, and all other paper currencies of the world.  You see, I was answering all of the questions about monetary policy using the assumption that the monetary authorities wanted to maintain the value of the currency that they were managing.  I was dead wrong.  So if they are not trying to maintain the value of these currencies, what are they trying to do?  What does it all mean?  Why do I have to wait until next week to know what money is?  I can't believe you are leaving us hanging like this!

Relax and enjoy the weekend.  This is a long journey!

Stay Fresh!

David Mint

Key Indicators for Friday, October 22, 2010

Copper Price per Lb: $3.78
Oil Price per Barrel:  $81.77
10 Yr US Treasury Bond:  2.53%
FED Target Rate :  0.19%
Gold Price per Oz:  $1,327
Unemployment Rate:  9.6%
Inflation Rate (CPI):  0.1%
Dow Jones Industrial Average:  11,147
M1 Monetary Base:  $1,460,900,000,000
M2 Monetary Base:  $7,960,300,000,000