Prospect magazine’s April 14, 2018 edition ignited a debate between orthodox and heterodox economists. It also included a page titled: In my contribution I tried to explain the nature of money. Not sure I succeeded. Anyway, here it is: “Unlike the prices of bitcoins or gold, the price of money is not determined by the market forces of supply and demand. That’s because money is not a commodity, but a social construct: “a promise to pay” to quote Joseph Schumpeter. So money’s price—the rate of interest—is fixed not by the market, but by lenders and risk-assessors in the back offices of banks. These are in turn influenced by the decisions of men and women on central bank committees. Because money is a social construct, it can never, like gold, become scarce. In other words, commodities
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Prospect magazine’s April 14, 2018 edition ignited a debate between orthodox and heterodox economists. It also included a page titled:
In my contribution I tried to explain the nature of money. Not sure I succeeded. Anyway, here it is:
“Unlike the prices of bitcoins or gold, the price of money is not determined by the market forces of supply and demand. That’s because money is not a commodity, but a social construct: “a promise to pay” to quote Joseph Schumpeter. So money’s price—the rate of interest—is fixed not by the market, but by lenders and risk-assessors in the back offices of banks. These are in turn influenced by the decisions of men and women on central bank committees.
Because money is a social construct, it can never, like gold, become scarce. In other words, commodities may be subject to market forces, but “promises to pay” are not.
Crises occur when “promises to pay” are not regulated: when money is lent at high rates of interest to risky borrowers (think sub-primers) for speculative, not productive investments. These may fail to generate streams of income (for repayment), and so levels of debt and defaults rise.
That is why, as Keynes argued, the creation of the social construct that is money or credit should be carefully regulated, and not left to “the invisible hand.” “