Why Does Money Matter?

You may have noticed that I post a lot about money, particularly this "modern money" stuff and you may be wondering why I care so much about money. I have long been fascinated with money, particularly with what gives it its value. I remember way back in middle school wondering why green pieces of paper had value, or why gold was so valuable (a topic I wish to explore more in a follow up post). I never really got what I thought were adequate answers nor did I seek it further until my interest turned toward economics in college. Now after four years of undergrad and a couple years in grad school, I understand why money matters and I think you should too.

To be clear, I am not saying love of money (greed) is a good thing...it isn't, but rather understanding just what money is and how it affects our economy is crucial to achieving our economic, political, and social objectives.

So what is money? The most often told story is that money is a commodity that evolved out of a barter economy. For example, tradespeople in small villages started using seashells or gold or whatever to exchange for goods that each made so as to avoid the problem of barter economies. The butcher wants shoes, but the shoemaker doesn't want meat, so the butcher would have to trade meat to someone for something that the shoemaker wanted in order to obtain shoes. This problem is called the 'double coincidence of wants' and money is thought to have sprung up as a medium of exchange to eliminate this problem. All could exchange their goods for seashells or gold or whatever which could then be exchanged for any other commodity one wanted.

This story seemed plausible to me at first, it does seem logical, but as I learned more I quickly became unsatisfied with this explanation. This view hinges precariously on everyone accepting the commodity to be used as money. It also assumes barter economies existed and doesn't translate well to today's fiat money system because the commodity used as money is thought to be intrinsically valuable (gold) which also poses a problem for those who used seashells.

Another view believes that money is a social unit of account tracking credits and debts, just like an inch measures distance, or a gallon measures volume. One dollar is a unit of account, a measurement of credits/debts. Thus money is always a two-sided affair, it is an IOU, with a creditor and a debtor. Having money means that one has claims to another's goods/labor/cup of sugar/whatever that other gave in the IOU. From this view, one can see that anyone can create money, it is the matter of acceptance that is key. I can issue IOUs all I want, but in order for them to become 'money', someone must accept them. Which means they must accept that my word is good. If I don't my 'money' defaults.