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                            HARVARD COLLEGE
                                LIBRARY

                                FROM THE

                           QUARTERLY JOURNAL
                              OF ECONOMICS



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                                  THE
                             VALUE OF MONEY

                                   BY

                      B. M. ANDERSON, JR., PH. D.
          ASSISTANT PROFESSOR OF ECONOMICS, HARVARD UNIVERSITY
                        AUTHOR OF "SOCIAL VALUE"


                                New York
                         THE MACMILLAN COMPANY
                                  1917

                         _All rights reserved_



                            COPYRIGHT, 1917
                        BY THE MACMILLAN COMPANY
             Set up and electrotyped. Published May, 1917.



                                   To

                             B. M. A., III
                                  AND
                                J. C. A.

                     WHO OFTEN INTERRUPTED THE WORK
                     BUT NONE THE LESS INSPIRED IT




PREFACE


The following pages have as their central problem the value of money.
But the value of money cannot be studied successfully as an isolated
problem, and in order to reach conclusions upon this topic, it has been
necessary to consider virtually the whole range of economic theory; the
general theory of value; the rôle of money in economic theory and the
functions of money in economic life; the theory of the values of stocks
and bonds, of "good will," established trade connections, trade-marks,
and other "intangibles"; the theory of credit; the causes governing the
volume of trade, and particularly the place of speculation in the volume
of trade; the relation of "static" economic theory to "dynamic" economic
theory.

"Dynamic economics" is concerned with change and readjustment in
economic life. A distinctive doctrine of the present book is that the
great bulk of exchanging grows out of dynamic change, and that
speculation, in particular, constitutes by far the major part of all
trade. From this it follows that the main work of money and credit, as
instruments of exchange, is done in the process of dynamic readjustment,
and, consequently, that the theory of money and credit _must be a
dynamic theory_. It follows, further, that a theory like the "quantity
theory of money," which rests in the notions of "static equilibrium" and
"normal adjustment," abstracting from the "transitional process of
readjustment," touches the real problems of money and credit not at all.

This thesis has seemed to require statistical verification, and the
effort has been made to measure the elements in trade, to assign
proportions for retail trade and for wholesale trade, to obtain
_indicia_ of the extent and variation of speculation in securities,
grain, and other things on the organized exchanges, and to indicate
something of the extent of less organized speculation running through
the whole of business. The ratio of foreign to domestic trade has been
studied, for the years, 1890-1916.

The effort has also been made to determine the magnitudes of banking
transactions, and the relation of banking transactions to the volume of
trade. The conclusion has been reached that the overwhelming bulk of
banking transactions occur in connection with speculation. The effort
has been made to interpret bank clearings, both in New York and in the
country outside, with a view to determining quantitatively the major
factors that give rise to them.

In general, the inductive study would show that modern business and
banking centre about the stock market to a much greater degree than most
students have recognized. The analysis of banking assets would go to
show that the main function of modern bank credit is in the direct or
indirect financing of corporate and unincorporated _industry_.
"Commercial paper" is no longer the chief banking asset.

It is not concluded from this, however, that commerce in the ordinary
sense is being robbed by modern tendencies of its proper banking
accommodation, or that the banks are engaged in dangerous practices. On
the contrary it is maintained that the ability of the banks to aid
ordinary commerce is increased by the intimate connection of the banks
with the stock market. The thesis is advanced--though with a recognition
of the political difficulties involved--that the Federal Reserve Banks
should not be forbidden to rediscount loans on stock exchange
collateral, if they are to perform their best services for the country.

The quantity theory of money is examined in detail, in various
formulations, and the conclusion is reached that the quantity theory is
utterly invalid.

The theory of value set forth in Chapter I, and presupposed in the
positive argument of the book, is that first set forth in an earlier
book by the present writer, _Social Value_, published in 1911. That book
grew out of earlier studies in the theory of money, in the course of
which the writer reached the conclusion that the problem of money could
not be solved until an adequate general theory of value should be
developed. The present book thus represents investigations which run
through a good many years, and to which the major part of the past six
years has been given. On the basis of this general theory of value, and
a dynamic theory of money and exchange, our positive conclusions
regarding the value of money are reached. On the same basis, a
psychological theory of credit is developed, in which the laws of credit
are assimilated to the general laws of value.

In a final section, the constructive theory of the book is made the
basis for a "reconciliation" of "statics" and "dynamics" in economic
theory--an effort to bring together the abstract theory of price
(_i. e._, "statics") which has hitherto chiefly busied economists, and
the more realistic studies of economic change (_i. e._ "dynamics") to
which a smaller number of economists have given their attention. These
two bodies of doctrine have hitherto had little connection, and the
science of economics has suffered as a consequence.

This book was not written with the college student primarily in mind.
None the less, I incline to the view that the book, with the exception
of the chapter on "Marginal Utility," is suitable for use as a text with
juniors and seniors in money and banking, if supplemented by some
general descriptive and historical book on the subject, and that the
whole book may very well be used with such students in advanced courses
in economic theory. I think that bankers, brokers, and other business
men who are interested in the general problems of money, trade,
speculation and credit, will find the book of use. Naturally, however,
it is my hope that the special student of money and banking, and the
special student of economic theory will find the book of interest. The
book may interest also certain students of philosophy and sociology, who
are concerned with the applications of philosophy and social philosophy
to concrete problems.

My obligations to others, running through a good many years, are very
great. With Professor E. E. Agger, I talked over very many of the
problems here discussed, in the course of two years of close association
at Columbia University, and gained very much from his suggestions and
criticisms. Professor E. R. A. Seligman has read portions of the
manuscript, and given valuable advice. Professor H. J. Davenport has
given the first draft an exceedingly careful reading, and his criticisms
have been especially helpful. Professor Jesse E. Pope supervised my
investigations in the quantity theory of money in 1904-5, in his seminar
at the University of Missouri, and gave me invaluable guidance in the
general theory of money and credit then. More recently, his intimate
first hand knowledge of European and American conditions, both in
agricultural credit and in general banking, has been of great service to
me. Mr. N. J. Silberling, of the Department of Economics at Harvard
University, has been helpful in various ways, particularly by making
certain statistical investigations, to which reference will be made in
the text, at my request. Various bankers, brokers, and others closely in
touch with the subjects here discussed have been more than generous in
supplying needed information. Among these may be especially mentioned
Mr. Byron W. Holt, of New York, Mr. Osmund Phillips, Editor of the
_Annalist_ and Financial Editor of the _New York Times_, Messrs. L. H.
Parkhurst and W. B. Donham, of the Old Colony Trust Company in Boston,
various gentlemen in the offices of Charles Head & Co., and Pearmain and
Brooks, in Boston, Mr. B. F. Smith, of the Cambridge Trust Company, Mr.
W. H. Aborn, Coffee Broker, New York, Mr. Burton Thompson, Real Estate
Broker, New York, Mr. Jas. H. Taylor, Treasurer of the New York Coffee
Exchange, Mr. J. C. T. Merrill, Secretary of the Chicago Board of Trade,
DeCoppet and Doremus, New York, and Mr. F. I. Kent, Vice President of
the Bankers Trust Company, New York. My greatest obligations are to two
colleagues at Harvard University. Professor F. W. Taussig has given the
manuscript very careful consideration, from the standpoint of style as
well as of doctrine, and has discussed many problems with me in detail.
Professor O. M. W. Sprague has placed freely at my service his rich
store of practical knowledge of virtually every phase of modern money
and banking, and has read critically every page of the manuscript. None
of these gentlemen, of course, is to be held responsible for my
mistakes. I also make grateful acknowledgment of the aid and sympathy of
my wife.

In the course of the discussion, frequent criticisms are directed
against the doctrines of Professors E. W. Kemmerer and Irving Fisher,
particularly the latter, as the chief representatives of the present day
formulation of the quantity theory. Both their theories and their
statistics are fundamentally criticised. I find myself in radical
dissent on all the main theses of Professor Fisher's _Purchasing Power
of Money_, and at very many points of detail. To a less degree, I find
myself unable to concur with Professor Kemmerer. But I should be sorry
if the reader should feel that I fail to recognize the distinguished
services which both of these writers have performed for the scientific
study of money and banking, or should feel that dissent precludes
admiration. I acknowledge my own indebtedness to both, not alone for the
gain which comes from having an opposing view clearly defined and ably
presented, but also for much information and many new ideas. My general
doctrinal obligations in the theory of money and credit are far too
numerous to mention in a preface. My greatest debt in general economic
theory is to Professor J. B. Clark.

                                                 B. M. ANDERSON, JR.

  HARVARD UNIVERSITY, March 31, 1917.




ANALYTICAL TABLE OF CONTENTS


_PART I. THE VALUE OF MONEY AND THE GENERAL THEORY OF VALUE_


CHAPTER I

ECONOMIC VALUE
                                                                  PAGE
  Problem of value of money special case of general theory of
    value; present chapter concerned with general theory             1

  Formal and logical aspects of value: value as quality; value
    as quantity; value and wealth                                  5-6

  Absolute _vs._ relative conceptions of value: value of money
    _vs._ "reciprocal of price-level"; value prior to exchange;
    value and exchangeability; do prices correctly express
    values?                                                       6-12

  Doctrine so far in accord with main current of economic
    opinion                                                      12-14

  Causal theory of value new: marginal utility, labor theory,
    etc., rejected                                               14-16

  Social explanation required: "individual" a social product,
    both in history of individual and in history of race         16-19

  And above individual impersonal psychic forces, law, public
    opinion, morality, economic values                           19-20

  Three types of theory have dealt with these: theory of
    extra-human objective forces; extreme individualism;
    social value theory                                          20-21

  Illustrated in jurisprudence, ethics, and economic theory      21-26

  Law, morals, and economic values generically alike, but have
    _differentiæ_                                                26-28

  But not differentiated on basis of states of consciousness
    of individual immediately moved by them, because many
    minds in organic interplay involved                          28-33

  Economic social value (a) of consumers' goods and services:
    "utility" and scarcity; "marginal utility"; social
    explanation of marginal utility; marginal utilities the
    conscious _focus_ of economic values of consumers' goods;
    but only minor part of these values; individuals, classes
    and institutions heavily weighted by legal, moral, and
    other social values, in power over economic values of
    consumers' goods                                             33-38

  Economic social value (b) of labor, land, stocks, bonds,
    "good will," etc.; based only in part on values of
    consumers' goods; partially independent, directly
    influenced by contagion, and centers of power and
    prestige                                                     38-41

  Pragmatic character of theory                                  41-43

  Relation of social values to individual values                 43-45


CHAPTER II

SUPPLY AND DEMAND, AND THE VALUE OF MONEY

  _Hiatus_ between general theory of value and theory of value
    of money                                                     46-47

  Partly because former has been developed by different writers
    from those who have developed latter                         47-49

  But chiefly because supply and demand, cost of production,
    etc., _assume_ fixed value of money, and are theories of
    _price_, rather than _value_                                    49

  Supply and demand useful but superficial formula, common
    property of many value theories                              49-50

  Crude and unanalyzed in Smith and Ricardo; first made precise
    by J. S. Mill, who gives essentials of modern doctrine       49-51

  Böhm-Bawerk's pseudo-psychology spoils Mill's clean-cut
    doctrine                                                     51-52

  Supply and demand assumes fixed _value_ of money-unit, and
    hence inapplicable to money itself                           52-56

  But supply and demand does _not_ assume fixed _price-level_    56-57

  Cairnes _vs._ Mill                                             57-58

  Mill's unsuccessful effort to apply supply and demand to
    money                                                        59-62

  Walker's attempt                                                  62

  Supply and demand in the "money market"                        62-63


Chapter III

COST OF PRODUCTION AND THE VALUE OF MONEY

  Types of cost theory: modern cost doctrine is "money costs"
    doctrine, and inapplicable to value of money                    64

  Labor cost: Smith; Ricardo; Ricardo's confession of failure;
    "real costs" in Senior and Cairnes; Mill's "money-outlay"
    cost doctrine, and Cairnes' criticism; but "money-cost"
    has survived                                                 64-67

  Because "real cost" doctrine does not square with facts        67-69

  "Money-cost" of producing money-metal                          69-70

  Austrian cost doctrine runs still in money terms, assuming
    value, money, and fixed value of money                       70-71

  "Negative social values" as "real costs"                    note, 71


CHAPTER IV

THE CAPITALIZATION THEORY AND THE VALUE OF MONEY

  Money as "capital good," and "money-rates" as rentals          72-73

  Capitalization theory; formula; capital value passive
    resultant of annual income and rate of discount              73-74

  But in case of money, rental and rate of discount not
    independent variables                                        74-76

  And in case of money, capital value not passive shadow,
    but active cause of income                                      76

  Capitalization theory assumes money, and fixed value of
    money                                                        76-77

  Assumed fixed value of money absolute, and not relative        77-78

  Capitalization theory, in current formulation, inapplicable
    to value of money                                            78-79


CHAPTER V

MARGINAL UTILITY AND THE VALUE OF MONEY

  Marginal utility theory usually thinly disguised version of
    supply and demand, and hence inapplicable to money              80

  View that money is unique in having no utility _per se_        81-83

  Marginal utility and "commodity theory" of money-value         81-82

  Quantity theorists and marginal utility of money               81-82

  Money an instrumental good, and marginal utility no less
    applicable here than elsewhere; marginal utility invalid
    as general theory of value, hence invalid when applied to
    money                                                       82-120

  Wieser's theory of value of money                              83-88

  A circle in reasoning                                          88-90

  Schumpeter's similar circle                                      100

  But Schumpeter's general utility theory, though inapplicable
    to value of money, in form avoids a causal circle            90-98

  Schumpeter's _conspectus_; different from Böhm-Bawerk and
    most utility theorists                              90-92, 113-120

  Defects and limitations of Schumpeter's general theory         90-98

  Schumpeter's substitutes for social value concept              98-99

  Von Mises sees circle of Wieser and Schumpeter                   100

  Seeks to avoid it by construing utility theory as historical,
    instead of static, theory                                      101

  But this departs from fundamentals of utility theory; other
    difficulties                                               101-110

  Kinley's doctrine                                            110-111

  General criticism of utility theory                          111-115

  Davenport, Wicksteed, Fisher, Perry                          113-120


_PART II. THE QUANTITY THEORY_


CHAPTER VI

THE QUANTITY THEORY OF PRICES. INTRODUCTION

  Preliminary statement of quantity theory, and of critical
    theses to be developed in following chapters. Virtually
    every contention and every assumption of quantity theory
    to be challenged                                           123-129


CHAPTER VII

DODO-BONES

  Quantity theory doctrine that valueless objects can serve as
    money; Nicholson's assumption: money made of dodo-bones    130-131

  Fisher's view also                                               130

  And Ricardo's                                                131-132

  Will dodo-bones circulate? Dodo-bones and poker chips;
    circular reasoning                                             132

  Both medium of exchange and standard of value must be
    valuable                                                       133

  Is inconvertible paper an exception?                         133-134

  Doctrine that money gives legal claim to things in general       134

  Kemmerer's assumptions; money made of commodity, once
    valuable, now used only as money                               135

  Commodity theory requires present commodity value                135

  Historical _vs._ cross-section view: possibility that such
    money would circulate                                      135-136

  Value not tied up with marginal utility or commodities:
    social value theory; derived values often become
    independent of original presuppositions, in economic
    as well as legal and moral spheres                         136-139

  But this no basis for quantity theory: social psychology,
    not mechanics                                                  139

  "Banker's psychology" _vs._ psychology of blind habit:
    India, Austria, United States; monetary phenomena of war
    times; "credit theory" of Greenbacks                       139-142

  Question-begging definitions                                 142-143

  Assumptions of quantity theory: blind habit and fluid prices 143-144

  Extreme commodity theory denies that money-use adds to value
    of money; usually not true; analysis of money-functions    144-150

  Hypothetical case in which whole value of money comes from
    commodity value                                            150-152

  Money must have value apart from monetary employments, but,
    in general, gains additional value from employment as
    money                                                      152-153


CHAPTER VIII

THE "EQUATION OF EXCHANGE"

  Fisher leading, most consistent, most uncompromising
    quantity theorist: wide acceptance of his views                154

  Taussig _vs._ Fisher                                             155

  Fisher and dodo-bone doctrine: logical part of quantity
    theory; Fisher's value concept                             155-156

  "Equation of exchange": analysis of Fisher's version,
    typical of all                                             156-171

  In what sense equality between two sides of equation?
    Meaning of "T"                                             158-161

  No "goods side" to equation; both sides sums of money;
    equal because identical; equation meaningless              161-162

  All factors in equation highly abstract                      162-163

  "P" and "T" cannot both be given independent definitions:
    P defined as _weighted_ average, with T in denominator;
    and must be changed from year to year, as elements in T
    change, even though no prices change                       164-166

  This makes circular theory: _problem_ defined in terms of
    _explanation_                                              165-166

  Causal theory associated with equation of exchange               166

  Equation amplified to include credit; not acceptable to
    Nicholson or Walker, and caricature of conditions in
    Germany and France                                         166-170

  Book-credit, bills of exchange, etc., excluded               167-170

  Why a one-year period?                                       170-171


CHAPTER IX

THE VOLUME OF MONEY AND THE VOLUME OF CREDIT

  Mill thought credit acts on prices like money, and that
    this reduces quantity theory tendency to indeterminate
    degree; Fisher holds volume of money _in circulation_
    governs volume of credit, so that quantity theory stands       172

  Fisher's arguments for fixed ratio, _money_ to
    bank-deposits                                              172-173

  Argument a _non-sequitur_, even if contentions true          173-177

  Contentions untrue: no fixed ratio between _reserves_ and
    deposits, or reserves and demand liabilities, either in
    America or Europe                                          177-182

  Taussig's views; virtually surrender of quantity theory in
    modern conditions                                          182-185

  Bulk of quantity theorists in between Fisher and Taussig,
    but nearer to Fisher's view than to Taussig's                  185


CHAPTER X

"NORMAL" VS. "TRANSITIONAL" TENDENCIES

  Quantity theory qualified by distinction between "normal" and
    "transitional" effects of change in quantity of money, etc.    186

  Meaning of distinction, and extent of qualification hard
    to determine: is "normal period" real period in time?
    How long is "transitional period"? Is it realistic, or
    hypothetical? Is equation of exchange realistic?
    Concrete _vs._ hypothetical price-levels                   186-189

  Legitimate and illegitimate abstraction                      189-190

  Causation and temporal order                                 190-191

  Fisher admits very slight qualification of "normal theory"       192

  Mill's quantity theory "short run" theory; Taussig's "long
    run" theory; radically different logic in the two          192-193

  Fisher's theory sometimes "long run" and sometimes "short
    run"                                                       194-195


CHAPTER XI

BARTER

  Quantity theory spoiled if resort to barter possible and
    important                                                      196

  Extent of barter and other flexible substitutes for money and
    bank-credit; simple barter; different methods of corporate
    consolidations; flexibility, with state of money-market;
    clearing-house arrangements in speculative exchanges;
    offsetting book-credits                                    197-200

  Barter made easier under money economy, by measure of
    value function of money                                        201

  Bills of exchange; foreign trade                                 201


CHAPTER XII

VELOCITY OF CIRCULATION

  Velocity conceived by quantity theory as causal entity,
    independent of quantity of money and prices; necessary
    assumption for law of proportionality                          203

  "Coin-transfer" _vs._ "person-turnover" concepts             203-204

  Velocity really non-essential by-product, meaningless
    average                                                    204-205

  Doctrine that velocity independent of money; habit and
    convenience; hoarding; hoarding by banks                   205-209

  Velocity and volume of trade; vary together                  209-214

  Value of money causally governs velocity                     214-215


CHAPTER XIII.

THE VOLUME OF MONEY AND THE VOLUME OF TRADE--TRADE AND SPECULATION

  Quantity theory doctrine that volume of trade, and volume
    of money (and credit), are independent; trade governed
    by physical and technical conditions, not money            216-219

  View that quantity of money vitally affects production and
    trade                                                          219

  Walker, Sombart, Withers, Price, Holt                        219-222

  Increase of money increases trade, even on static theory:
    increase of money increase of capital; lowered margin
    in exchanges; money-rates and interest; money tool of
    exchange; elasticity of demand for money-service; in
    Arizona and New York City                                  222-225

  _Trade_ distinguished from _production_ and from _stock_     225-226

  Trade chiefly speculation; Fisher's $387,000,000,000 of
    trade in U. S. in 1909 analyzed; index of variation in
    trade; figure based on Kinley's returns from 12,000
    banks; double-counting                                     227-230

  Figure largely represents speculation; statistics of total
    wealth of U. S.; small rôle of wholesale and retail
    deposits; "all other deposits" bunched in speculative
    centers, especially New York; trifling "deposits" in
    country banks; evidence of bank-clearings: clearings
    and stock speculation; clearings and ordinary business     230-241

  Measurement of "ordinary trade"                              241-248

  Volume of stock speculation                                  248-251

  Commodity speculation                                        251-252

  Unorganized speculation                                      252-254

  Bill and note speculation                                        255

  Fisher's and Kemmerer's indicia of trade variation wholly
    misleading                                                 255-257

  Production waits on trade; selling costs _vs._ "cost of
    production"; "good will"; are banks useless?               257-262

  "Normal _vs._ transitional": statics _vs._ dynamics; money
    and credit make static assumptions possible; very little
    trade in "normal equilibrium" or static state; volume
    of trade depends on transitions and dynamic changes;
    functional theory of money and credit must be dynamic
    theory; abstraction from money by static theory; no
    static theory of money and credit possible; quantity
    theory misses whole point of money-functions               262-266


APPENDIX TO CHAPTER XIII

THE RELATION OF FOREIGN TO DOMESTIC TRADE IN THE UNITED STATES

  Ambiguity of "domestic trade": figures comparable with
    export and import figures cannot include turnovers; net
    income of United States, minus imports on retail basis,
    counted as domestic trade; exports on retail basis
    counted as foreign trade; net income for 1910; index of
    variation for other years; cautions and qualifications;
    ratio of foreign to domestic trade, 1890-1916              267-278


CHAPTER XIV

THE VOLUME OF TRADE AND THE VOLUME OF MONEY AND CREDIT

  Interdependence of trade, and money (and credit);
    increasing trade causes increase of money and credit       279-281

  Quantity theory doctrine: Fisher _vs._ Laughlin              281-282

  Quantity theory has no explanation of elastic bank credit:
    "Currency Theory" of deposits                              282-285

  Loans and deposits                                           285-288

  Bills of exchange                                            288-290

  Summary of quantity theory doctrine                          290-291


CHAPTER XV

THE QUANTITY THEORY: THE "PASSIVENESS OF PRICES"

  Heart of quantity theory: price-level cannot change without
    prior change in money, deposits, trade, or velocities:
    independently rising price-level, unable to alter trade
    or velocities, would drive money away, and so be unable to
    sustain itself; individual prices can rise independently,
    but other prices must fall to compensate                   292-295

  Criticism: argument impressive only because it assumes an
    _uncaused_ rise in general price-level; when causes
    assigned, prices can independently rise, compelling
    modification in other factors in "equation of exchange";
    "transitional" and "normal" effects: instances             295-299

  Quantity theory conflicts with supply and demand: supply
    and demand holds good: particular prices and price-level   299-300

  Generalization of conflict to include cost of production,
    capitalization theory, imputation theory                       300

  Capitalization theory _vs._ quantity theory; different
    psychological assumptions of the two theories              300-306

  Cost of production _vs._ quantity theory; money-_income_
    _vs._ quantity of money                                    306-308

  Quantity theory false, granting all its assumptions          308-310

  Doctrine that price-level independent of particular prices,
    and presupposed by them, false; absolute value of money,
    not price-level, presupposed; price-level may change
    with value of money constant, through changes in absolute
    values of goods                                            310-314


CHAPTER XVI

THE QUANTITY THEORY AND INTERNATIONAL GOLD MOVEMENTS

  Quantity theory holds that gold movements depend on
    price-_levels_; but price-level mere average, cause
    of nothing                                                 315-316

  Some prices, rising, tend to repel gold, but most prices
    have no such effect                                        316-317

  Some prices, rising, bring in gold                           317-319

  Gold movements and money-rates                               319-320


CHAPTER XVII

THE QUANTITY THEORY _vs._ GRESHAM'S LAW                        321-323


CHAPTER XVIII

THE QUANTITY THEORY AND "WORLD PRICES"

  Types of quantity theory: world's volume of _gold vs._
    quantity of _money_ in given country; standard _vs._
    token money; abandonment of dodo-bone theory and
    "equation of exchange"                                     324-326

  Credit does not rest on money: measure of values _vs._
    reserves; loans and wealth; value of money _vs._
    price-level                                                326-328

  Loose relation of reserves and credit in world as whole;
    no proportionality of quantity of gold to value of gold;
    no quantity theory needed to assert that value of gold
    related to its quantity                                    328-330


CHAPTER XIX

STATISTICAL DEMONSTRATIONS OF THE QUANTITY THEORY--THE REDISCOVERY
OF A BURIED CITY

  Criticism of quantity theory statistics yields constructive
    conclusions; Mitchell and Greenbacks; Kemmerer's and
    Fisher's statistics of "equation of exchange"; Kemmerer's
    criticism of earlier statistics                            331-335

  Kemmerer's and Fisher's figures all wrong except for volume
    of money and deposits, and prices in base year; if correct,
    would not prove quantity theory                            335-337

  Fisher's statistics, resting on Kemmerer's, chiefly studied:
    their relation to Kinley's "deposits" figures              337-338

  M´V´ calculated: errors in calculation; New York very
    incomplete in Kinley's figures; private banks and trust
    companies; clearings and "deposits," in New York and
    outside; "total transactions" and clearings; Fisher
    exaggerates country checks by at least 116 billions, for
    1909; major part of all "check deposits" in New York City  348-353

  New York as "clearing house" for United States: extent of,
    and influence of on New York clearings, much overestimated;
    bulk of New York clearings and New York "deposits" grow
    out of New York business                                   353-361

  Index of variation for M´V´ wrongly weighted; V´ wrongly
    calculated for all years; which upsets calculation of V    361-363

  Volume of trade: greatly exaggerated by bank transactions,
    which include vast deal of duplications in checks, loans
    and repayments, etc.                                       363-368

  Fisher's reply; _under_counting offsets _over_counting       368-369

  Main items of undercounting in clearing houses of speculative
    exchanges; measurement of, in New York Stock Exchange, and
    Chicago Board of Trade; swamped by call loan transactions,
    which exceed security sales                                369-381

  Price-indexes of Kemmerer and Fisher, dominated by wholesale
    prices, have no relevance to their "equations of exchange" 381-383

  In general, their figures bury speculation and New York City     383


PART III. THE VALUE OF MONEY


CHAPTER XX

RECAPITULATION OF POSITIVE DOCTRINE

  Recapitulation of constructive theses of Parts I and II,
    and program of Parts III and IV                            387-396


CHAPTER XXI

THE ORIGIN OF MONEY, AND THE VALUE OF GOLD

  Problem stated                                               397-401

  Value _vs. saleability_: degrees of saleability; theory
    of saleability; "buying price" _vs._ "selling price";
    indirect exchange in barter economy; development of
    commodity of superior saleability into money               401-406

  Money never unique                                           406-407

  Origin of gold money: ornament; store of value; social
    prestige of prodigality and of ornament; love of
    approbation, sex-impulse, and competitive display;
    elastic value-curve of gold; industrial employments
    of gold                                                    407-413

  Distribution of wealth and power, and value of gold          413-416


CHAPTER XXII

THE FUNCTIONS OF MONEY AND THE VALUE OF MONEY

  Classification                                               417-418

  Measure of values (standard of value) distinguished
    from medium of exchange; former does not add value
    to money metal, latter does                                418-424

  Reserve function                                                 424

  Money as "bearer of options"; distinguished from store of
    value; the _dynamic_ function of money _par excellence_;
    explanation of low rates on call loans, and short loans,
    and low yield of high grade bonds, which share "bearer of
    options" function; "pure rate" of interest _vs._ "money
    rates": Austria; the New York money market                 424-432

  Legal tender; the _Staatliche Theorie_                       432-436

  Standard of deferred payments; which functions add to
    value of money metal?                                          436

  Relation of money rates to capital value of money            436-442

  Agio when coinage is restricted: India _vs._ Western World   442-450

  Equilibrium of gold in arts and gold as money: difficulties
    of marginal analysis; the money-market phenomena           450-458


CHAPTER XXIII

CREDIT

  Analysis rather than definition: "futurity" not essence
    of credit; credit part of general value system; stocks
    as credit instruments; juridical and accounting phases     459-462

  Confidence; involved in general value phenomena as well
    as credit; social psychology of confidence; contagions;
    influence of centers of prestige; nothing unique in
    credit; selling _vs._ borrowing                            462-469

  Definition of credit; credit _vs._ credit transaction;
    credit and exchange; bulk of credit grows out of
    dynamic conditions                                         469-474

  Functions of credit; increasing saleability of
    non-pecuniary wealth; corporate organization;
    limits of credit expansion                                 475-478

  Consideration of objections: that personal loans do not
    rest on wealth; public loans; that value behind loan
    would not exist if loan were not made                      478-484

  Schumpeter's "heresies"; his view of the function of the
    banker: "dynamic credit"; America _vs._ Continental
    Europe                                                     484-488

  Peculiarities and functions of bank credit; technique of
    banking: capital; assets; reserves; "liquidity"; money
    market                                                     488-496


CHAPTER XXIV

CREDIT--BANK ASSETS AND BANK RESERVES

  Traditional view that liquid commercial loans normal and
    dominant type of bank asset disproved; cannot exceed
    11-1/2 per cent of assets of American banks; analysis of
    bank assets: "other loans and discounts"; stock collateral
    loans; loans on "other collateral security";
    stocks and bonds held by banks; classes of banks; various
    combinations; excluding real estate loans, more
    than half of credit extended by State and national
    banks and trust companies is to stock market; rapid
    development of stock collateral loans: New York;
    Europe                                                     498-512

  Activity of different types of loans: banking assets get
    liquidity chiefly from stock market, and from produce
    speculators                                                512-516

  Credit extended to Wall Street not at expense of ordinary
    commerce; country banks and Wall Street                    516-518

  Federal Reserve Banks should rediscount stock collateral
    loans; "Money Trust" a trust in financing corporations,
    not ordinary commerce; panics and Federal Reserve System       520

  Quantity theory, putting all exchanges on a par, grotesque:
    volume of trade and prices in the stock market             520-523

  Direct and indirect financing of corporations by banks;
    "margin dealer" as "banker"                                523-526

  Adam Smith's view of banker's functions, and of safe bank
    loans                                                          526

  Correct on basis of facts of his day, but corporate
    organization and organized stock market have made
    smelting house as liquid as consumers' goods                   527

  Division of labor in banking: America _vs._ Germany          527-528

  Agriculture in money market                                  528-529

  Reserve problem: special case of problem of liquid assets;
    many flexible substitutes for cash                         529-532

  Causal relation runs from deposits to reserves; gold
    production and reserve-ratio                               532-535

  No static law or "normal ratio" possible; reserve function
    entirely dynamic function; reserve not needed in "static
    state"; illustrated by London money market; "ideal
    credit economy"                                            536-544


_PART IV. THE RECONCILIATION OF STATICS AND DYNAMICS_


CHAPTER XXV

THE RECONCILIATION OF STATICS AND DYNAMICS

  Theory of money as focus of general economic theory,
    exhibiting interdependence of doctrines; basis of
    further unification of statics and dynamics in higher
    synthesis                                                  547-548

  Statics _vs._ dynamics, normal _vs._ transitional, and
    related contrasts; illustrations; divergent lines of
    doctrine: tariffs, wars, overproduction, extravagance,
    etc.                                                       548-552

  Statics quantitative; dynamics qualitative                   552-553

  Statics and dynamics both abstract                           553-554

  Dynamics and "friction"                                      554-555

  "Theory of prosperity" and dynamics                          555-556

  Statics and cross-section analysis; statics as
    price-theory; dynamics as value-theory                     556-560

  Generalization of statics: price-theory applied to
    dynamic phenomena: capitalization; costs; "taxonomy;"
    "discounting" dynamic changes; money the static
    measuring-rod: wide scope of money-measure;
    measurement of non-economic values                         560-569

  Generalization of dynamics: all values, whether of wheat
    or "good will," have social psychological explanation;
    technological and biological factors, and the static
    equilibrium; business cycles                               569-575

  Business man _vs._ economic theorist, and value-theory;
    manipulation of values and prices                          575-578

  Statics and time                                             578-580

  Immaterial capital                                           580-582

  Statics and dynamics have not different subject-matter       583-586

  Equilibrium of all social values: statics and dynamics
    of the law: social forces and social control               586-589

  Summary of Part IV                                           589-591




PART I. THE VALUE OF MONEY AND THE GENERAL THEORY OF VALUE




THE VALUE OF MONEY




CHAPTER I

ECONOMIC VALUE


The problem of the value of money is a special case of the general
problem of economic value. The present chapter is concerned with the
general theory of value, while the rest of the book will consider the
numerous peculiarities and complications which make money a special
case. The main proof of the theory here presented is to be found in a
previous book[1] by the present writer. A number of periodical articles
by several writers which have since appeared, in criticism or in further
development of the theory, have at various points led to shifting
emphasis and clearer understanding on the author's part, and the present
exposition, without seeking explicitly to meet many of these criticisms,
or to embody the new developments, will none the less be different
because of them. To one writer in particular, Professor C. H. Cooley,
the theory is indebted for restatement, amplification, and important
additions.[2] On the whole, however, the theory presented in this
chapter is substantially the theory presented in the earlier book. The
theory is set forth in the present chapter with sufficient fullness to
make the present volume independent of the earlier book.

Value has long been recognized as the fundamental economic concept.
There have been many and divergent definitions of value, and many
different theories as to its origin. It is the belief of the present
writer--not shared by all his critics!--that the definition of value
which follows, and the conception of the function of value in economic
theory involved in it, conform to the actual use of the term in the main
body of economic literature. The theory of the _causes_ of value here
advanced is new, but the definition of value, and the conception of the
relation of value to wealth, to price, to exchange, and to other
economic ideas, seem to the present writer to conform to what is
implied, and often expressed, in the general usage of economists.[3]

It is important to separate sharply two questions: one, the theory of
the causes of value, and the other, the definition of value, or the
question of the formal and logical aspects of the value concept. The two
questions cannot be wholly divorced, but clarity is promoted by
considering them separately. We shall take up the formal and logical
aspects of the matter first.

Value is the common quality of wealth. Wealth in most of its aspects is
highly heterogeneous: hay and milk, iron and corn-land, cows and calico,
human services and gold watches, dollars and doughnuts, pig-pens and
pearls--all these things, diverse though they be in their physical
attributes, have one quality in common: Economic Value.[4] By virtue of
this common or generic quality, it is possible to add wealth together to
get a sum, to compare items of wealth with one another, to see which is
greater, to get ratios of exchange between items of wealth, to speak of
one item of wealth, say a crop of wheat, as being a percentage of
another, say the land which produced it, etc. This common quality,
value, is also a _quantity_. It belongs to that class of qualities which
can be greater or less, can mount or descend a scale, without ceasing to
be the same quality,--like heat or weight or length. Such qualities are
_quantities_. There is nothing novel in the statement that a quality is
also a quantity. It is implied in every day speech. We say that a man is
tall, or heavy, or that the room is hot--qualitative statements; or we
may say exactly how tall, or how heavy, or how hot--quantitative
statements. The distinction between qualitative analysis and
quantitative analysis in chemistry implies the same idea. Thus we may
speak of a piece of wealth as having a definite quantity of value, or
say that the value of the piece of wealth is a definite quantity. We may
then work out mathematical relations among the different quantities of
value, sums, ratios, percentages, etc.

Ratios of Exchange are ratios between two quantities of value, the
values of the units of the two kinds of wealth exchanged.[5] A good many
economists, particularly in their chapters on definition, have defined
value as a ratio of exchange. This is inaccurate. The ratio of exchange
presupposes _two_ values, which are the terms of the ratio. The ratio is
not between milk and wheat in all their attributes. It is between milk
and wheat with respect to one particular attribute. Compare them on the
basis of weight, or cubic contents, and you would get ratios quite
different from the ratio which actually is the ratio of exchange. The
ratio is between their values.

  [Illustration:
                   Ratio of Exchange
          Milk ------------------------- Wheat
              \                         /
               \                       /
                \ Value         Value /
                 \                   /
                  \                 /
                   \               /
                    \             /
                      Social Mind
  ]

In the diagram above, something of what is to follow is anticipated,
since the cause of value is indicated. Wheat is shown to be exerting
an influence on milk, and milk exerts an influence on wheat. The
comparative strength of these two influences determines the ratio of
exchange between them. But these two influences are not ultimate. The
ratio of exchange is a relation, a _reciprocal_ relation. It works both
ways. But behind this relativity, this scheme of relations between
values, there lie two values which are absolute. These values rest in
the pull exerted on wheat and on milk by the human factor which is
fundamental, which in our diagram we have called the "social mind."
Values lie behind ratios of exchange, and causally determine them. The
important thing for present purposes is merely to note that value is
prior to exchange relations, that it is an absolute quantity, and not,
as many economists have put it, purely relative. The ratio of exchange
is relative, but there must be absolutes behind relations.

A _price_ is merely one particular kind of ratio of exchange, namely, a
ratio of exchange in which one of the terms is the value of the money
unit.[6] In modern life, prices are the chief form of ratio of exchange,
but it is important for some purposes to remember that they are not the
only form.

Values may simultaneously rise and fall. There may be an increase or
decrease in the sum total of values. Ratios of exchange cannot all rise
or fall. A rise in the ratio of the value of wheat to the value of milk
means a fall in the ratio of the value of milk to the value of wheat.
Both may have fallen in absolute value, but both cannot simultaneously
rise or fall with reference to one another. This is the truism regarding
ratios of exchange which many economists have inaccurately applied to
value itself in the doctrine that there cannot be a simultaneous rise or
fall of values. There can be a simultaneous rise or fall of values, but
not a simultaneous rise or fall of ratios of exchange.

There can be a general rise or fall of prices. Goods in general, other
than money, may rise in value, while money remains constant in value.
This would mean a rise in prices. Or, money may fall in value while
goods in general are stationary in value. This would also mean a rise in
prices. In either case, more money would be given for other goods, and
the ratio between the value of the money unit and the value of other
goods would have altered adversely to money. There are writers to whom
the term, value of money, means merely the average of prices (or the
reciprocal of the average of prices). For them, a rise in the average of
prices is, _ipso facto_, a fall in the value of money. This view will
receive repeated attention in later chapters. The view maintained in the
present book is that the value of money is a quality of money, that
quality which money shares with other forms of wealth, which lies
behind, and causally explains, the exchange relations into which money
enters. Every price implies _two_ values, the value of the money-unit
and the value of the unit of the good in question.

Value is prior to _exchange_. Value is not to be defined as "power in
exchange." Certain writers[7] who see the need of a quantitative value,
which can be attributed to goods as a quality, still cling to the notion
that value is relative, that two goods must exist before one value can
exist, and that value is "power in exchange," or "purchasing power." The
power is conceived of as something more than the fact of exchange, and
as a cause of the exchange relations, but is, none the less, defined in
terms of exchange. This position, however, does not really advance the
analysis. It is a verbal solution of difficulties merely. To say that
goods command a price because they have power in exchange is like saying
that opium puts men to sleep because it has a dormitive power.
Physicians now recognize that this is no solution of difficulties, that
it is merely a repetition of the problem in other words. If we wish to
explain exchange, we must seek the explanation in something anterior to
exchange. If value is to be distinguished from ratio of exchange at all,
it cannot be defined as "power in exchange."

To seek to confine value to exchange relations, moreover, makes it
impossible to speak of the value of such things as the Capitol at
Washington City, or the value of an entailed estate, or of values as
existing _between_ exchanges. Nor can we make the price which a good
would command at a given moment the test of its value, except in the
case of the highly organized, fluid market. Land, at forced sale,
notoriously often brings prices which do not correctly express its
value. Moreover, even for wheat in the grain pit, the exchange test is
valid only on the assumption that a comparatively small amount is to be
sold. If very much is put on the market, the situation is changed, and
the value falls. In other words, if "bulls" cease to be "bulls," and
shift to the other side of the market, the very elements which were
sustaining the value of the wheat have been weakened, and of course its
value falls. "Power in exchange" is a function of two factors, (1) value
and (2) saleability. A copper cent has high saleability, with little
value, while land has high value with little saleability.[8] Some things
have value with no saleability at all. In a socialistic community, where
all lands, houses, tools, machines, etc., are owned by the state, and
where such "prices" as exist are authoritatively prescribed, value and
exchange would have no necessary connection. Values would remain,
however, guiding the economic activity of the socialistic community,
directing labor now here, now there, determining the employment of lands
now in this sort of production, now in that. Exchange is only one of the
manifestations of value. More fundamental, and more general, including
"power in exchange," but not exhausted by it, is the power which objects
of value have over the economic activities of men. This is the
fundamental function of values. The entailed estate, which cannot be
sold, still has power over the actions of men. The care which is taken
of it, the amount of insurance which an insurance company will write on
it, etc., are manifestations and measures of its value. The same may be
said of the Capitol at Washington.[9]

In the fluid market, prices correctly express values. Assuming that the
money-unit is fixed in value, variations in prices in the fluid market
correctly indicate variations in values. The great bulk of our economic
theory, the laws of supply and demand, cost of production, the
capitalization theory, etc., do assume the fluid market, and a fixed
value of the dollar.[10] Our economic theory is static theory, in
general, and abstracts from the time factor and from "friction." In
fact, values change first, and then, more or less rapidly, and more or
less completely, prices respond. In the active wholesale and speculative
markets, where the overwhelming bulk of exchanging takes place, the
prices respond quickly. Static theory is thus adequate for the
explanation of these prices, for most practical purposes, so long as the
changes in prices are due to changing values of goods, rather than to
changing value of the money-unit. Moreover, the distinction between
value and price is, in a fluid market, where the value of money is
changing slowly, often not important. In the assumption of money, and of
a fixed value of money, the absolute value concept is already assumed.
No harm is done, however, if the economist does not explicitly refer to
this, but goes on merely talking about money-prices. Very many economic
problems indeed may be solved that way. This is why the inadequate
character of the conceptions of value as "ratio of exchange" or
"purchasing power" has not prevented these notions from being
serviceable tools in the hands of many writers. But there are many
problems for which these conceptions are not adequate, because the
implicit assumption of a fixed value of money cannot be made. Among
these problems is the problem of the value of money itself, which
constitutes the subject of this book. For that problem, an absolute
value concept is vital.

If, in our diagram above, we substitute for "social mind" the more
general expression, "human factor," we should find that our value
concept is the common property of many writers. We should find it
fitting in with the absolute value notion of Adam Smith and of
Ricardo.[11] The "human factor" which _explains_ the absolute value is,
for them, labor. We should find it fitting in with the "socially
necessary labor time" of Marx: the value of a bushel of wheat is the
amount of labor time which, on the _average_, is required to produce a
bushel of wheat. It is an absolute value. It is a causal coefficient
with the absolute value, similarly explained, of the bushel of corn, in
explaining the wheat-price of corn. Our concept will fit in exactly with
the "social use-value" of Carl Knies, according to whom the economic
value of a good in society is an _average_ of its varying use-values to
different individuals in the market. This average is an absolute
quantity. The absolute values of units of two goods, thus explained,
causally fix the exchange ratio between the goods. Knies' value-theory,
it may be noticed, is explicitly modeled on that of Marx, to whom he
refers, the difference being that Knies takes an average of individual
use-values, while Marx takes an average of individual labor-times, as
the causal explanation.[12] Our value concept will fit perfectly with
Professor J. B. Clark's "social marginal utility" theory of value.
Indeed, the present writer gratefully acknowledges that the concept is
Professor Clark's rather than his own, and that all that is necessary
for its explanation has been set forth by Professor Clark.[13]
Professor Clark's _causal_ theory of value, his explanation of this
absolute quantity of value as a _sum_ of individual marginal utilities,
we have elsewhere[14] criticised as involving circular reasoning, like
all marginal utility theories, in so far as they offer causal
explanations. But his statement of the logical character of value, of
the relation of value to wealth, of value to price, of value to
exchange, of the functions of the value concept in economic theory, and
of the functions of value in economic life,--Clark's doctrines on these
points we have accepted bodily, and in so far as the present writer has
added anything to them it has been by way of elaboration and defence.

The concept of value here developed is explicitly adopted by T. S.
Adams, David Kinley, W. A. Scott, W. G. L. Taylor, L. S. Merriam, and A.
S. Johnson, among American writers, to name no others. All of these
writers would concur in the formal and logical considerations[15] as to
the nature of value here presented, whatever differences might appear
among them as to the causal explanation of value.

The value concept here presented performs the same logical functions as
the "inner objective value" of Karl Menger, Ludwig von Mises, and Karl
Helfferich, discussed in our chapter on "Marginal Utility," below, and
is, in its formal and logical aspects, to be identified with that
notion. It is essentially like Wieser's "public economic value,"
discussed in the same chapter.[16] That there should remain critics[17]
who consider the present writer a daring innovator, who is thrusting a
personal idiosyncracy in terminology upon economic theory, is striking
evidence that men often talk about books which they have not read! The
reader who accepts, provisionally, the doctrine so far presented, as a
tool of thought which will aid us in the further progress of the
argument, may do so with the full assurance that he is accepting a tried
and tested concept, which has seemed necessary to very many indeed of
the great masters of the science.[18]

So far, the writer feels himself in accord with the main current of
economic thought. When we come to a causal explanation of the value
quantity, however, earlier theories appear unsatisfactory. The labor
theory of value has long since broken down, and has been generally
abandoned. The reasons for this will appear in the chapter on "Cost of
Production." The effort to explain value by marginal utility, by the
satisfactions which individuals derive from the last increment consumed
of a commodity, has likewise broken down, as will appear in the chapter
on "Marginal Utility." In general, it may be said that the effort to
pick out feeling magnitudes,[19] either of pleasure or pain, in the
minds of individuals, and combine them into a social quantity, leads to
circular reasoning. Thus, the utility theory: It is not alone the
intensity of a man's marginal desire for a good which determines his
influence on the market. If he has no money, he may desire a thing ever
so intensely without giving it value. If he is rich, a slight desire
counts for a great deal. In other words, utility, backed by _value_,
gives a commodity value. But this is to explain value by value, which is
circular. So with the theory of average labor _time_. How shall we
average labor time? The problem is easy if we confine ourselves, say, to
wheat. If one bushel of wheat is produced with ten hours' labor, a
second with eight hours' labor and a third with six hours' labor, the
average is eight hours, and we may fix the value of the bushel of wheat
according. But suppose we wish to compare the labor engaged in making
_hats_ with the labor engaged in raising wheat. How can such labor be
compared? Hats are, in their physical aspects, incommensurable with
wheat. The one quality which they have in common, relevant to the
present interest, is _value_. Given the value of the wheat and the value
of the hats, you may compare and average out the labor engaged in
producing them. But if value must be employed as a means of averaging
labor, it is clear that average labor can be no explanation of value.
This is not the only flaw in the labor-time theory, but it illustrates a
vice which it has in common with all those theories which start with
individual elements, and seek to combine them into a social quantity.
The whole method of approach is wrong. It makes two abstractions,
neither of which is legitimate: first, it abstracts the individual from
his vital and organic connections with his fellows, and then, second, it
takes from the individual, thus abstracted, only a small part, that part
immediately concerned with the consumption or production of wealth. In
this process of abstraction, very much of the explanation of value is
left out. The _whole_ man, in his _social_ relations, must be taken into
account before we can get an adequate theory of value. We turn, then, to
a brief discussion of society and the individual, and to a discussion of
those individual activities and social relations which are most
significant in the explanation of economic value.

       *       *       *       *       *

All mental processes are in the minds of individual men. There is no
social "oversoul" which transcends individual minds, and there is no
social "consciousness" which stands outside of and above the
consciousnesses of individuals. So much by way of emphatic concurrence
with those critics of the social value theory[20] who persist in
foisting upon the theory the notion that there is a social oversoul, or
that the "social organism" is some so far unclassified biological
specimen. To say that economic value is a social value, the product of
many minds in organic interplay, is not to say that economic value is
independent of processes in the minds of individual men, or that it
results from any mysterious behavior of a social oversoul.

The human animal is born with certain innate instincts and capacities.
Human animals of different races and different strains are in highly
important points different in their instincts and capacities. But the
human animal is not born with a _human mind_. Nor could the human
animal, apart from association with his fellows, ever develop a human
mind. "The human mind is what happens to the human animal in a social
situation."[21] Of course, without the care of adults, the infant would,
in general, promptly perish. But, more fundamental for our purposes, is
the fact that all the important stimuli which play upon the child during
his first two years, when the human mind is being developed, are social
stimuli. So true is this, that the child's commerce with physical things
runs in social terms. The child interprets the physical objects about
him _personally_, attributes life and human attributes to them, holds
conversation with them, praises and blames them, makes companions of
them. This _animism_ of the child, so puzzling to an old-fashioned
psychology, is readily explained by social psychology. It is a social
interpretation of the universe. It follows naturally from the principle
of apperception: the interpretation of the unknown in terms of the
known; the extension of accumulated experience to the interpretation of
new experiences. The first experiences of the human animal are social
experiences.

In the history of human society, a similar generalization is possible.
The human _individual_ is found, not in primitive life, but late in the
scale of social evolution. Individuality is a social product. The savage
is not a free, self-conscious person, who can set himself off against
the group, and feel himself an isolated centre of power. His life is
wrapped up in the group life. In the great barbarian states like Ancient
Egypt or China, the life of the individual was so controlled by social
tradition, and innovation was so ruthlessly crushed out that
individuality had little scope. Greece and Judea gave larger scope to
individual variation, but the individual still felt himself bound up
with his group, and was stoned, given hemlock, or crucified if he
challenged the existing social order too seriously. The break-up of the
Greek city states, as independent sovereignties, and their subjection to
the universal sway of Rome, made it possible for the cultured Greek to
set himself up in opposition to the State; the coming of Christianity,
substituting personal relations with deity, for the communal worship
which had preceded it, gave the individual a vital interest apart from
the life of the group about him, so that he could still further feel
independent of his immediate social environment. The development by the
Roman lawyers of the _Jus Gentium_, the law which is common to all
nations as distinguished from the particular law of a given group,
emphasized the doctrine of the Christian religion and of the Stoic
philosophy of a humanity which transcends the limits of a given
state,[22]--a notion which tended to free the individual from dependence
on his immediate associates. But note that in all this we have merely a
widening and multiplying of social relationships, and that the
individual gains freedom from one set of social relationships only by
coming into others. The Christian gains freedom from his immediate
surroundings because he feels himself in communion with "angels and
archangels and all the glorious company of Heaven." Francis Bacon could
survive his degradation in the England of his day because he could leave
his "name and memory ... to foreign nations and to the next age."

Bagehot, in his _Physics and Politics_, Tarde, and Baldwin, to name no
others,[23] have shown how tremendously responsive human beings are to
suggestion, how wide is the sway of imitation in human life, how
fashion, mode, custom, etc., make and mold the individual. Cooley,[24]
with an improved psychology, has amplified the analysis, tracing the
development of the individual mind in interaction with the minds of
those about him, making still clearer the sweep and pervasiveness of
social factors in framing the very self of the individual. In what
follows, I assume the results of these investigations. They constitute
the starting point from which we set out on the quest of a theory of
economic value.

So much for the individual. He is a social product. But what of society?
Objective, external, constraining and impelling forces, which are not
physical, which are seemingly not the products of the will of other
individuals with whom the individual holds converse, meet the individual
on every hand. There is the Moral Law, sacred and majestic, which stands
above him, demanding the sacrifice of many of his impulses and desires.
There is the Law, external to him and to his fellows, in seeming,
failure to obey which may ruin his life. There is Public Opinion, which
presents itself to him as an opaque, impersonal force, before which he
must bow, and which he feels quite powerless to change. There are
Economic Values ruling in the market place, directing industry in its
changing from one sort of production to another, bringing prosperity to
one individual and bankruptcy to another, not with the caprice of an
individual will, but with the remorseless impersonality of wind and
tide. He who conforms to them, who anticipates their mutations, gains
great wealth--but no business man dare set his personal values against
them. There are great Institutions, Church and State and Courts and
Professions and giant Corporations and Political Parties, and
multitudinous other less formal or smaller institutions, which go on in
continuous life, though the men who act within them pass and change.
Their Life seems an independent life, and the individual who tries to
change their course finds that his efforts mean little indeed, as a
rule. There is a realm of Social Objectivity, a realm of organization,
activity, purpose and power, not physical in character, not mechanical
in nature, which is set in opposition to individual will, purpose,
power, and activity. How is the individual related to this objective
social world?

Three main types of theory have sought to answer this question. On the
one hand, there is a type of theory, doubtless the oldest type, a type
which arises easily in a period when social changes are slow, which sees
in the objective social world something really separate and distinct
from individual life, having a non-human origin, and deriving its power
from something other than the human will. On the other hand, there is an
extreme individualism, which emphasizes individual separateness, which
posits as a _datum_ the individuality which we have seen to be a social
product, and thinks of the objective social realm as a mere mechanical,
mathematical summing up of individual factors, or as a something which
individuals have consciously made, by contract or agreement, or what
not. Finally, there is a type of theory, to which the present writer
would adhere, which finds a false antithesis in the contrast thus
sharply made between society and individual, which holds that the
individual is not, in his psychological activity, so much set off from
the activities of his fellows as the contrast would indicate, but rather
shares in the give and take of a larger mental life. This larger mental
life is completely accounted for when all the individuals are completely
accounted for, but it cannot be accounted for by considering the
individuals _separately_. No individual is completely, or primarily,
accounted for until his _relations_ to the rest of the group are
analyzed. Thinkers who start out with the individuals separately
conceived, and then seek to combine them in some arithmetical way,
abstract from those organic social relations which constitute the very
heart of the phenomenon we are seeking to explain. The parts are in the
whole, but the whole is not the _sum_ of the parts. The relationships
are not arithmetical, additive, mechanical, but are vital and organic.
Men's minds _function_ together, in an organic unity.[25]

The first two of these types of theory (perhaps because individuals are
_physically_ sharply marked off from one another, and go on in
_biological_ functioning in obvious separateness) have falsely
accentuated the self-dependence and separateness of individual _minds_.
The second type of theory, which has sought to work out the whole thing
on the basis of this false conception of the individual, has largely
failed to see the objective social realities, or has, with
methodological rigor, denied their existence. This second type of
thinking has especially characterized a good deal of economic theory,
which rests on the philosophy and psychology of David Hume.[26] We will
set our doctrine in clearer light if we contrast three parallel types of
theory which have appeared with reference to the nature of morality, of
law, and of economic value. For each of these phenomena, we have
theories which represent all three of the types of social thinking to
which we have referred.

In the theory of morals, we have, at one extreme, doctrines like those
of Kant and Fichte, according to whom morality is a matter of
obligation, independent of the human will, independent of consequences,
inherent in the nature of things. Man's mind can find out what the moral
law is, but man's mind has nothing to do with the making of the moral
law. The same notion is involved in the ideas of "natural rights,"
"justice though the heavens fall," and the like. The conception is
strikingly brought out in the question about which old theologians
sometimes debated: is Right right because God enjoins it, or does God
enjoin Right because it is Right? Whether or not Right is supreme over
God, these old theologians never questioned that Right is supreme over
all human wishes and desires, and in no sense an outcome of them. At the
other extreme, we have the moral doctrine of the Sophists, for whom each
man's _will_ was right for him--a doctrine which reappears in every
individualistic and anarchistic age. For this doctrine, there are no
valid social standards of right and wrong. There is nothing binding on
the moral agent but his own will. In between, is the moral doctrine of
such thinkers as Friedrich Paulsen, or John Dewey, who represent the
reigning type of moral theory to-day. For them, morality is a purely
human matter. It grows out of the needs and interests of men. What is
good at one time and place is not necessarily good at another time and
place. There are no immutable moral principles, valid throughout the
ages. None the less, morality is not a private matter, about which men
may do as they please. Morality is the product of an organic society,
the product of the interplay of many minds. To a given individual, the
moral law is, indeed, an external constraining and impelling force. It
is the will of the rest of the group. It may be his own will too, but if
it is not, it overrides his personal preference, He, on the other hand,
is part of the group which constrains and guides every other individual.
There are, in fact, many sets of moral values: on the one hand, the
social moral values _par excellence_, which the group will _enforce_ in
various ways; and then, for each individual, his own moral values, which
may correspond qualitatively more or less with the group values, or may
antagonize them. But the Moral Law is the will of the group. It is no
simple composite of the moral values of individuals. It has its organic
interrelations with all phases of social life. Economic changes modify
it, legal changes modify it, religious values modify it, all phases of
social life are expressed in it.

In legal theory, we find these three types of doctrine also. The first
type is clearly indicated in the general attitude of American and
English courts, especially toward the common law, though it influences
their interpretation of all law. The law is something which the mind of
man may find out, but may not make. If a new situation arises, the court
"finds" the law--in theory the principle "discovered" by the court was
in the common law at the beginning. Of course, we know that the judge
invents the rule he makes, to fit a novel case, but the judge himself
will not admit it. The theory of the law and the theory of morality have
developed in close connection, and the notion of "natural right" is a
juristic as well as a moral idea. At the other extreme, we have from
certain recent students of law the doctrine that "The Law" is a myth,
that there is nothing but the particular opinion of a particular judge
at a particular time. Individualism cannot go so far in legal theory as
to give every individual in society a chance to put his oar in, and have
a separate law for himself! The social and institutional character of
law is too obvious to permit that. But individualism has gone so far in
legal theory as to deny all objectivity to law except in a given
decision in a particular case. In between these two extreme views,
appear the views of writers like Savigny, or Professor Munroe Smith, for
whom the law is a changing product of social psychology, volitional[27]
rather than intellectual in character, objective enough to the
individual who violates it, or the judge who seeks to pervert it, but
none the less not outside the minds and interests of men. In Professor
Munroe Smith's phrase, law is "that part of the social order which by
virtue of the social will may be supported by physical force."[28] I
venture to describe this type of legal theory as the "social value"
theory of the law. In the chapter on "The Reconciliation of Statics and
Dynamics," _infra_, I have cited certain opinions of Mr. Justice Holmes
which apply it, and even bring into it the notions of the marginal
analysis.

There are, similarly, three types of economic theory. At the one extreme
we have theories of "intrinsic" value, which would place economic value
outside the wills of men. The mediæval discussions of "just price" often
illustrate this notion. It creeps not infrequently into judicial
opinions,--to which such notions are essentially congenial! The working
economist of our own day has found little use for it, but in periods
when economic change was slow it suggested itself not unnaturally to
men, as an explanation of the seeming impersonality of market phenomena,
and as a practical idea for combatting extortion and injustice.
Something of the idea is involved in a sentence of Shakspere's:[29]

  "But value dwells not in particular will;
  It holds his estimate and dignity
  As well wherein 'tis precious of itself
  As in the prizer."

At the opposite extreme would be those economists, as Professor
Davenport and Jevons, who find no value for a good except in the minds
of individual men, so that there may be as many different values as
there are different men. That something social and objective exists in
the market place can hardly be denied, but when pressed for an account
of it, these writers reduce it to a bare, abstract, mathematical
ratio.[30] Each individual mind is shut up within its own limits,
inscrutable to other minds, and there can be no psychological phenomena
which include activities in many minds, for this view. In between these
two extremes, is the social value theory of the present writer. Economic
value is not intrinsic in goods, independent of the minds of men. But it
is a fact which is in large degree independent of the mind of any given
man. To a given individual in the market, the economic value of a good
is a fact as external, as objective, as opaque and stubborn, as is the
weight of the object, or the law against murder. There are individual
values, marginal utilities, of goods which may differ in magnitude and
in quality from man to man, but there is, over and above these,
influenced by them in part, influencing them much more than they
influence it, a social value for each commodity, a product of a complex
social psychology, which includes the individual values, but includes
very much more as well. Our theory puts law, moral values, and economic
values in the same general class, _species_ of the _genus_, social
value, alike in their psychological "stuff" and character, to be
explained by the same general principles, even though differentiated in
their functions, and in the extent to which they depend on various
factors in the social situation. They are parts of a social system of
motivation and control. They are the _social forces_, which govern, in a
social scheme, the actions of men.

It may be well to suggest rough _differentiæ_ which mark off these
values from one another. Legal values are social values which will be
enforced, if need be, by the organized _physical_ force of the group,
through the government. Moral values are social values which the group
enforces by approbation and disapprobation, by cold shoulders and
ostracism or by honor and praise. Economic values are values which the
group enforces under a system of free enterprise, by means of profits
and losses, by riches or bankruptcy. The group may, under a communistic
or socialistic system, rely in whole or in part upon the machinery of
the law; in which case economic values appear not in their own form as
immediately guiding production, but as "presuppositions" of some of the
legal values.

The differentiation of these types of social value may also run in
terms of their _functions_,[31] though it is not so easy to mark them
off here, since their functions overlap. The function of economic values
is to guide and control the economic activities of men, to send labor
from one industry to another, to cause one sort of thing to be produced
or another, to supply the motive force which _impels_ industry. Legal
and moral values also directly affect industry, often working to check
the results which the economic values alone would lead to--as when the
law forbids the production and sale of liquor, or checks child labor,
etc. The law, on the other hand, does not, primarily, in its influence
on industry, seek _positively_ to determine its direction. The law
forbids the production of liquor, but does not decree the production of
bread. The law may seek to affect industry positively, by protective
tariffs, for example, which aim at the building up of certain
industries, but its effects are here indirect, reached through
modifications in the economic values. Economic values, on the other
hand, do not primarily aim at the regulation of the conduct of men
outside the market place, or the shop or the farm, etc. Economic values
are not primarily concerned with making men be good husbands or good
neighbors, or brave soldiers. Economic values may be used, in part, for
these purposes, as when a father-in-law uses his wealth as a lever to
make his son-in-law behave--or, indeed, as a bait to get a son-in-law!
It is hard to find a phase of social life which is not touched by all
types of social values, but it is possible, roughly, to mark off those
phases of social life which are subject to primary regulation by one or
the other sort of social value.

The differentiation is easier when we look at the social _institutions_
which have to do primarily with the one or the other sort of value.
Courts and legislatures are easily marked off from stock exchanges and
banking houses. There is not so clearly an institutional nucleus for
moral values, since the church has lost its control over the moral
situation.

When we view the matter from the standpoint of the _objects_ of value,
_differentiæ_ also appear. The main type of object of moral value is
modes of conduct; the "type object" of economic value is physical things
which men eat, wear, drink, etc., even though _quantitatively_ the major
part of the sum total of economic values attach to other things,
instrumental goods, lands, labor, and social relations, like franchise
rights, good will, which in the main reflect the values of consumers'
goods;[32] objects of legal value are in large degree the same as
objects of moral value, namely, modes of conduct, but moral values
attach to a wider group of objects, and legal values attach to certain
forms of conduct which are morally indifferent.

It is not so easy to make the differentiation when we view the thing
from the standpoint of the consciousness of men who are at the centre of
the situation, to whose consciousness the social values are presented.
We may put at the very forefront of the economic value of oranges the
gustatory feelings or desires of those who consume them; at the
forefront of the moral value of a heroic rescue by a fireman the thrill
that runs through the onlookers. Qualitatively, these psychological
states are different, as those who have experienced both will know. But
it is difficult indeed to put the difference into words. When it comes
to a legal value, say the legal value of a given contract right which a
man seeks to enforce in court, it is not easy to find any particular
emotion or state of consciousness which is peculiar or appropriate to
it. The value is so highly institutionalized and impersonal, that it
seems to the court and lawyers and even the litigants to be merely a
question of fact to be intellectually analyzed. Its roots are deep in
human emotions, but not in the emotions, primarily, of those who are
handling the transaction. Perhaps the jurist has states of consciousness
we know not of. There may be a distinctively legal emotion. It seems to
crop out at times when one questions, in conversation with a judge or
lawyer, the infallibility of the courts. But the law does not derive its
power therefrom! Rather, the law derives its power from the general
consent and acquiescence and support of the mass of men, who turn over
to experts the details of administering it, and who support The Law in
general, rather than the rule of the _corpus delicti_, with their
emotional sanction.

I think that we have here a clue to a vital point for our theory. We
need not expect to find the major part of the explanation of any of
these social values in the conscious emotions of those who are moved by
them. In the case of the orange or the heroic act, we are, indeed, close
to pretty simple human feelings and desires. In general, in the case of
moral values, the individual emotion and the social value are
_qualitatively_ comparable, since moral values rarely take on a highly
institutional character. They are more free from class or institutional
control than other social values. This need not be true. Thus, the
plantation negro need not feel any personal shame in the moral
delinquency which he none the less hides from the "white folks" whose
values he must more or less conform to. But, on the whole, moral values
are much more "participation values,"[33] shared by the whole group in
common, than are economic values or legal values. When we pass beyond
the simple case of a consumption good, and get into the realm of the
more institutional economic values, we lose all guidance from the clue
of satisfactions in consumption. Just what emotion, for example, is
appropriate in the presence of the four and a half per cent convertible
bond of the Chesapeake and Ohio Railway Co.? If it be answered that
ultimately that bond represents satisfactions in consumption, since the
owner of it may spend the income for consumers' goods, or since the
railroad in question carries coal which goes to Italy to be used in a
cruiser which will sink an Austrian warship, thereby giving consumers'
satisfactions to individuals in Italy, so that the value of the bond is
ultimately reducible to specific satisfactions of given individuals, we
may still hold that those satisfactions do not constitute the value of
the bond, as such. Moreover, the same is true of the legal values.
Ultimately, very specific human emotions are affected by the rule of the
_corpus delicti_, or the rule governing pleas in _estoppel_. Both in
legal and in economic values we have an elaborate and complex system of
social psychological character, which can by no means be reduced to
elementary desires or feelings of individuals, even though when the
whole story is told, no part of the system will be found outside the
minds of individual men. The point has been well put by Professor C. H.
Cooley: "It would be as reasonable to attempt to explain the theology of
St. Thomas Aquinas, or the _Institutes_ of Calvin, by the immediate
working of religious instinct as to explain the market values of the
present time by the immediate working of natural wants."[34] I think
that any attempt to differentiate the various kinds of social value on
the basis of the type of emotion in the minds of those who have most
immediately to do with them, or to explain them primarily by those
emotions, is foredoomed. The law does not get its power from the emotion
of the judge who gives a decision, nor does the value of a rare painting
rest chiefly in the intensity of desire of the few rich connoisseurs who
compete for it. Back of the judge, giving _validity_ to his decision,
stands the will of the group; back of the rich connoisseurs stand the
legal and other social values concerned with the distribution of wealth,
by virtue of which they are able to make their wants felt in the market.
Both judge and connoisseur are focal points, through which stream the
social forces affecting the values in question. Both are important. But
the emotions and ideas of neither exhaust the psychological causation
involved in the values.

This is very much more apparent when we consider the values that arise
in the great speculative markets, say in the wheat pit, or the stock
exchange. Those who buy and sell are primarily interpreters, students,
of impersonal, social forces, seeking to adjust themselves to them, to
forecast them, in such a way as to derive profit from them. Their
choices and decisions are also factors. Indeed, it is possible to view
the matter in such a way as to make their decisions the whole story. In
the same way, it is possible to make the mind of the judge the final
explanation of the legal value. But the speculators themselves are under
no such illusion. They know very well that if they run counter to the
facts they will lose money. And the judge knows very well that the range
of arbitrary choice which he can exercise without impeachment, or at
least without reversal by a higher court, is very limited. Nor is even
a Supreme Court of the United States free to do its arbitrary will. Just
because it is so conspicuous, and because its doings are so important,
it has manifested more respect for judicial tradition, and more
responsiveness to the tides of public sentiment, than any other court in
the Federal Judiciary.[35]

The head of a great banking house makes a decision regarding an
underwriting operation. On his decision depends the question of whether
or not the securities are issued. On the issue of the new securities
depends, in part, the values of the existing securities of the
corporation in question, and the nature of the future employment of
thousands of men and great quantities of land and capital. Tremendous
power is concentrated in the hands of this banker. But it is not _his_
power! He cannot exercise it in an arbitrary or capricious way. He
approaches his problem in much the same spirit that the judge approaches
a disputed question of law. He analyzes the factors involved. He
considers the condition of the money-market, the question of the
probable ease or difficulty of marketing the new securities to
investors, the prospects of the business of the corporation in question,
the probable future demand for its products, the stability of that
demand, the personnel of the management of the corporation, the attitude
of the government toward it, the nature of its other outstanding
securities, with special reference to the proportion of bonds to stocks,
and the amount of "fixed charges" against its earnings. He may also take
into account other enterprises of similar character which he has
connections with, and the question of whether or not building up the
corporation in question may injure other corporations to which he has
responsibilities. He looks far into the future, seeking to conserve his
prestige, and unwilling to assume responsibility for an issue which
investors will later lose faith in. Proximately, his decision is
tremendously important, and his thoughts and feelings are of immense
significance, but ultimately, _they_ are determined by all manner of
social considerations, and _always_, _the degree to which they count_ in
determining values depends on his weight in the economic situation,
which rests (1) on his _prestige_, _i. e._, the massing of beliefs and
hopes of many men, (2) on his _wealth_, which rests in the legal and
moral values governing distribution, and (3) on his institutional
relationships, which again are psychological facts, partly legal in
character. He is as much a social instrument as is the judge. Both may
abuse their power. Both do at times abuse their power. But the
significant point is that the power both have is social power, and is in
no sense proportional to the intensity of their own emotions. It arises
from the emotional power in the minds of many men.

It would be easy to elaborate the points in which morals, laws, and
economic values are alike, and to show in detail that the theory of
economic value is merely a special case of the general theory of social
value. For our present purposes, however, it is enough to have
illustrated the general doctrine, and to have set up the economic values
as true social forces. It may be noticed that the effort to
differentiate the different kinds of value is not altogether successful.
They are not in watertight compartments in social life. It is a
commonplace among students of ethics that moral values grow, in greater
or less degree, out of economic factors. Indeed, the "economic
interpretation of history" has as its central theme the doctrine that
morality, law, and ideal values in general are governed by the economic
situation. This is a one-sided view. Moral and legal values are
influenced and modified by economic forces. Legal and moral values do,
in part, derive their power from economic values. But on the other hand,
economic values likewise derive part of their power from legal and moral
values. The "social mind" is an organic whole, in which no factors exist
"pure," and in which there is constant give and take. The effort to
explain moral values by a single principle, as sympathy, legal values by
another simple principle, as fear, and economic values by a different
simple principle, as utility, is foredoomed. It has been given up by the
students of law and morals, and should be abandoned by the students of
economics.

Let us consider more narrowly the main factors affecting and explaining
economic social values. Let us take, first, the simplest case, that of
goods and services which minister directly to human wants, goods and
services "of the first order." Goods of this sort would be oranges,
bread, clothing, jewels. Services of this sort would be the services of
the barber, the valet, the physician, the preacher, the teacher, the
actor. I abstract, in discussing these values, from the complications
that grow out of the friction in retail trade, and the existence of many
customary prices, and prices fixed by other than economic values, in the
case of teachers, or preachers. I shall concentrate attention upon such
things as oranges, bread, clothing, and jewels. The _focus_ of the
values of these things, and an essential condition of their existence,
is their utility, that is to say, their power to satisfy human wants.
Utility as used in economics does not mean usefulness in any moral
sense. From the standpoint of the economist, whiskey and opium are as
useful as bread, if they satisfy wants equally intense. And the
economist is not concerned with the general utility of things considered
in their totality. Air is more useful than jewels, but a carat of air is
not as useful as a one-carat diamond. Air exists in such abundance that
it does not need to be economized. Scarcity with reference to the
extent of the wants involved is also essential to economic value. A
combination of the ideas of utility and scarcity gives us the simple
notion for which the formidable name of "marginal utility" has been
devised. The marginal utility of a good to a man is the power the last,
or "marginal," unit of the good which the man consumes has to give him
satisfaction, or, viewed from the standpoint of the man, is the
intensity of his desire[36] for, or of his satisfaction in, the final
unit consumed. So far, our account of the value of the orange will seem
perfectly acceptable to those accustomed to traditional discussions of
the problem in the text-books. The difference is that many text-books
stop at this point, leaving the impression that with the definition of
marginal utility the whole value problem has been solved. For the social
value theory, the conception of marginal utility is barely a starting
point. Indeed, it is not even a starting point. We shall have to look
both in front of it and _behind it_. Recognizing that marginal utilities
to individuals are essential to economic values of consumption goods, we
shall have to point out other things which are also essential, and we
shall have to explain the factors determining these marginal utilities
themselves.

The last point may be considered first. Men's desires are socially
determined. Even the simplest, most instinctive, wants of human nature
are, in their concrete manifestations, the product of social culture in
overwhelming degree. Consider sex and hunger. We do not enjoy our food
when our neighbors pick their teeth with their forks. This would not
trouble a chimpanzee, whose _instinctive_ equipment in the matter of
hunger is vastly more like that of a man than is the _actual_ hunger
impulse of a highly civilized man like that of a savage. Civilized men
will often starve rather than eat human flesh. Even when moral scruples
are overcome, actual physical revulsion may prevent it. Men of different
times and places wish food of special sorts, served in special ways.
They wish to eat in the company of their fellows, but only of those
fellows who can know and obey the ritual that is appropriate to the time
and place. This is true of humble folk as of those who "dress for
dinner." The ritual differs for the two sorts of people. But there is a
spirit, a type of conversation, a code of etiquette, which prevails at
the mealtime of virtually all men, and too serious digressions therefrom
will take away the appetites of all. About the mealtime and the festal
board have gathered a great host of traditions, ideals, and social
activities, till they have become in verity an institution, and not the
least important, by any means, of social institutions. Out of the simple
instinct of sex, we have evolved many of the most precious things of our
civilization, and between the sex impulse of the animal and the sex
impulse of the gentleman who is seeking to marry the one woman in all
the world, there is a difference so great that comparison between the
two is difficult.

Here we have wants which grow out of the most elementary things in human
nature, wants which are intense and universal, but which vary, in their
concrete manifestations, enormously from age to age and from place to
place. When we come to the wants which change more quickly, the fact
that social factors dominate needs no arguing. Fashion, mode, custom,
obviously account for the concrete wants that exist in clothing,
ornamentation, amusement, housing, etc. If we wish to know what women
will be wanting to wear six months hence, we do not go to women
individually and ask them. We could not find out that way. They would
not know. We go rather to the theatre, and study the stage and the
boxes, to the famous designers of women's dress, to the metropolitan
centres of various sorts, to the "radiant points of social control"[37]
from which emanate the suggestions which pass in imitative waves through
the women of the country in the next few months. The laws of imitation
have been elaborately developed by Bagehot, Tarde, Baldwin, Ross, LeBon,
Cooley, and others, and I content myself here with referring to their
writings. The wants of women--and men--are socially given, grow out of a
give and take, a social process. And in this social process, it is not
true that each man counts one! Rather, a few lead, and many follow.
There are centres of prestige which count overwhelmingly.

Certain wants are competitive.[38] Where social status depends on having
as good a house as one's neighbors, and where social leadership depends
on having a better house than one's neighbors, there is no limit to
men's desires for better houses. With each improvement which one
introduces, each feels the desire to improve, however contented he might
have been had the other not made the improvement. To this we shall recur
in our discussion of the origin of money, in explaining the value of
gold.

So much for the human wants which stand as the focus of economic values
in the case of articles of immediate consumption.

But, given these wants, and given their marginal intensities, we are
only at the beginning of our explanation of the economic values of the
consumption goods. It is again not a case of each want counting one, to
the extent of its intensity. There are again, by virtue of the legal and
moral values governing the distribution of wealth, _centres_ of power.
The wants of some men count for nothing, however intense they may be.
The pauper, the prisoner, the beggar--popular proverb about "beggars and
horses" understands them, however much the "marginal utilitarian" may
forget that their wants count for nothing.[39] The slightest whim, on
the other hand, of the man who has inherited millions may count heavily
in giving values to goods. For the explanation of the values of
consumption goods, then, we need both the socially determined marginal
utilities of individuals, and the socially determined _weight_ which
these individuals have in our economic system. This _weight_ would
involve a very elaborate explanation. Many factors affect it. We call
attention here, however, especially to the fact that it rests in large
part on the legal and moral values and institutions concerned with the
distribution of wealth. Changes in the distribution of wealth are as
important as changes in the wants themselves in giving the explanation
of changes in values. The economic social values of consumption goods
include not merely the values of those goods _to_ the individuals who
consume them, but also the values _of_ the individuals themselves in the
social scheme of things.

What of the values of instrumental goods, of goods of "higher orders,"
of labor, of stocks and bonds, of lands, of franchise rights and good
will?

It is the one great contribution of the Austrian economists to have
shown that the causation in value runs, primarily, from consumption
goods to the goods of higher "orders" which are concerned with their
production, and that these values of instrumental goods, etc., are
derived and secondary values. The value of wheat is based on the value
of bread, the value of land on the value of wheat. The value of the
stock of United States Steel rests in part on the value of iron lands,
which rests on the value of ore, which rests on the value of pig iron,
which rests on the value of steel rails, which rests on the value of the
service of transporting building materials, which rests on the value of
a building, which rests on the value of the services which a dentist
performs in an office in the building. This is the main line of
causation. This is the first approximation which gives us a clue,
without which we should find problems insoluble. But is it not clear
that this cannot be the whole story? At every step complications enter.
The whole thing cannot be got out of the value of the dentist's
services, and the other consumers' goods and services, which are
indirectly aided by the property to which title is given by ownership of
U.S. Steel stock; nor is the value of the stock to be fully explained by
the value of the property to which it gives title.

At every step, we meet the complication that men must estimate and
calculate, for one thing. And rarely indeed can men see all the steps,
the end from the beginning. Take first a very simple case, wheat land.
The value of the wheat land of to-day rests on the value of wheat, but
it is the wheat of to-morrow and for many years to come; the wheat of
to-morrow rests for its value on the value of the bread of the day after
to-morrow. Sometimes the differential between goods at two consecutive
steps in the productive process is pretty constant. Wheat and flour vary
pretty closely together. The differential is not strictly fixed even
there. But bread and wheat land have a much looser connection in their
variations. If land could produce no wheat or corn or other good that
would satisfy human wants, and if it could not itself satisfy human
wants, it would ordinarily have no value.[40] But the connection
between the value of the bread and the value of the land is loose and
uncertain, while the connection between the value of the land and the
intensity of the wants actually satisfied by the bread produced from it,
is absolutely _nil_. Whether the bread saves a starving man or feeds the
pet pigeons of a millionaire, is a matter of indifference so far as the
value of the land (or of the bread) is concerned.

We take the values of consumption goods, and break them up, attributing
part to the labor that immediately produced them, part to the raw
materials that entered into them, part to the machine that fashioned
them, and so on. We then break up the value attributed to the raw
material, attributing part to the labor that worked in producing it
immediately, part to the machine that fashioned it, part to the rawer
material of which it was made. And so with the values of the machines.
Ultimately we get back to the values of labor, or of land, or of
securities giving title to complexes of lands, machines, etc.--values
which we do not further break up. But at every step, we find additional
factors. We find these derived values becoming independent, substantial,
standing in their own right. Moral and legal values affect them
directly, as in the case of patriotic support of government securities,
moral antagonism to the securities of the Distillers' Securities
Corporation, or the influence of court decisions, legislation and
elections on security values. Such values rest, in large degree, on the
massing of _beliefs_ and hopes, not concerned with specific
satisfactions of wants, but with the existence of _future_ economic
values. These beliefs and hopes again have their social explanation. It
is not a case where each man counts one. There are centres of prestige
and power, bankers and financial magnates, whose opinions and decisions
count heavily, and waves of optimism and pessimism, which affect the
whole group. We shall discuss these matters more fully in connection
with the analysis of credit, at a later point of our study. For the
present, it is enough to point out that the whole thing cannot be
explained on the basis of the values of consumers' goods, and that the
values of consumers' goods are only in small part explained by the
intensities of the wants they serve.

In summary: Economic value is the common quality of wealth, by virtue of
which it is possible to compare divers kinds of wealth, and treat wealth
quantitatively, getting ratios of exchange, sums of wealth, etc. Value
is a quantity, _i. e._, a quality which has degrees of intensity. Ratios
of exchange are ratios between values. Price is a particular sort of
ratio of exchange, namely, a ratio in which one of the terms is the
value of the money-unit. Prices correctly express values on the
assumption of the fluid market, and on the assumption that the value of
the money-unit does not vary.

The value quality is psychological in character. It rests in human
minds. But not in the minds of individuals thought of separately.
It is a complex of many individual mental activities, highly
institutionalized, and including legal and moral values, hopes and
beliefs and expectations, as well as the immediate intensities of men's
wants for consumption goods.

The ultimate test of scientific theory must be practice. If a theory
aids in manipulating facts, if it leads to the discovery of ways of
doing things which are better than old ways, if it solves problems which
have hitherto remained unsolved, or carries the solution of problems
farther than has hitherto been the case, it is a good theory. It need
not be the best possible theory. It need not be a final theory. The
chief claim for the present theory of value is that it not only unlocks
all the doors that earlier theories have unlocked, but also others which
have resisted the old keys. The man who goes into the modern stock
market armed with marginal utility and the quantity theory is like the
man who would fight Hindenburg with bows and arrows. Bows and arrows are
effective in the hands of expert archers, and the great figures in the
history of economics have done wonderful things with marginal utility,
"real costs," and the quantity theory. But the social value theory is
offered as a better weapon.

The writer believes that the problem of the value of money has not been
solved by the older theories of value. He believes that the social value
theory will solve it. He proposes on the basis of the social value
theory to make clearer the nature of credit phenomena, and to assimilate
the laws of credit to the general laws of value. He proposes with the
social value theory to bring together in a higher synthesis two
divergent types of economic theory, the "static" and the "dynamic." He
thinks that a rigorous and consistent application of the absolute
concept of value will clarify confusions at various points in the
general body of price theory, as the laws of supply and demand, etc.

He offers the social value theory as the only way of giving a
_psychological_ explanation to the demand-curve, and a marginal _value_
explanation of marginal demand-_price_. Demand-curves are social value
curves, on the assumption of the fixed social value of the dollar. The
utility theory, as will appear in the chapter on "Marginal Utility," has
failed to give psychological magnitudes corresponding to _any_ point on
the demand-curve. In general, he offers the social value notion as the
justification for the assumption of a quantitative value which, as we
shall see, underlies the whole of our current price analysis.

The theory here outlined has been, as stated, developed and defended
more fully in a previous book. For the rest, the author would have it
judged by its usefulness or failure as a tool of thought in the
investigations which follow.

     NOTE. It has seemed best not to break the main course of the
     argument of this chapter for the elaboration of one point on
     which there has appeared to some critics to be vagueness in the
     exposition of the social value theory in my earlier volume,
     namely, the relation of social values to the individual values
     of those who are moved by the social values. Social values have
     as their function the guidance and control of the activities of
     men. But men are also moved by their own individual feelings,
     interests, and desires.

     What is the relation between these two sets of factors? In what
     has gone before, it has been made clear that social values
     present themselves to the individual as opaque, objective
     facts, largely beyond his control, to which he must adjust
     himself. They represent the minds of other men, acting in
     corporate and organic ways, putting pressure on him, or
     offering him lures. Now the individual reckons with these
     social values in the same way that he reckons with any other of
     the facts affecting the economy of his life. He must adjust
     himself to them in the same way that he must, if he is a
     blacksmith, adjust himself to the technical qualities of the
     iron he is manipulating. This does not mean that he is passive
     before them, any more than he is passive before the iron. He
     rather seeks to carry out his personal purposes and desires by
     actively adapting himself to objective facts, whatever they be.
     This means that different individuals will react in different
     ways to the same social value. The fear of the law will keep
     one man from burning dead leaves in the street where it will
     not keep another man from murder. A given degree of social
     pressure will make one man crease his trousers, while another
     man will not even know that the pressure to crease one's
     trousers exists! There are great individual variations in
     responsiveness and sensitiveness to social pressure. In part,
     these variations are due to inborn qualities. In larger part,
     they are due to social education, and to social status. Thus,
     the fact that one man will work all day in a ditch in response
     to the lure of a dollar and a half, while another will not
     work in the ditch for a hundred dollars a day, may rest in
     slight degree on the greater inborn sensitiveness of the latter
     to the physical pain of labor, but rests primarily on the fact
     that the latter doesn't need the money, and has a social
     standard, growing out of his class-associations and education,
     which would make him ashamed to be seen in the ditch. Indeed,
     we may think of the social standard in question as a social
     value acting _on_ him, rather than _in_ him. He fears ridicule.
     The same degree of social power, luring men toward the ditch,
     exists in the dollar in each case, but the response is very
     different in the two cases.

     Later formulations of the utility theory and the labor cost
     theory, as represented by the theory of Schumpeter, which we
     shall discuss in the chapter on "Marginal Utility," give us, in
     a scheme of purely static equilibrium, a picture of the
     adjustment of the individual values to the social values. As we
     shall see, they give us no account whatever of the social
     values. They do not explain causation at all. But they do show
     that there is a tendency for the individual marginal utilities
     of consumption to become proportional to the social values of
     the goods consumed by each individual; and for the individual
     marginal disutilities in production to become proportional to
     the social values of the rewards that come to producers. The
     scheme is highly unrealistic. It has been emphatically
     repudiated by Böhm-Bawerk, so far as the disutility equilibrium
     is concerned. ("Ultimate Standard of Value," _Annals of the
     American Academy_, Vol. V, pp. 149-209.) But it is worth
     something, not as explaining social values or market prices,
     but rather, as showing how individuals _conform_ to social
     values and market prices. _Cf. Social Value_, pp. 43-44, n. 2,
     and 148.

     The theory that individual marginal utilities and disutilities
     are proportional to market values is unrealistic enough, in the
     light of the analysis of individual utilities which we have
     given, even for the utilities. It is quite impossible to make
     anything of importance of it from the side of individual
     disutilities. The length of the working day is not fixed for
     each worker by a comparison of his own labor pain with the
     satisfactions he expects from his wages. It is fixed by
     conditions largely external to him, and the whole group works
     the same number of hours, with the machine. The law may limit
     the working day. Trades-union effort may do it. Opportunities
     for alternative employment may do it, for the labor force of a
     factory as a whole. But the theory, which really must rest in
     the notion that each individual has many options, and that the
     working period is flexible, cannot mean much. The prosperity of
     the laborer does more to limit the working day than does his
     suffering!

     The reactions of individuals as consumers or producers on the
     social values modify the social values. But, as we have shown,
     the primary explanation of the social values is not to be found
     in the individual utilities and disutilities of those who react
     to them. Utilities and labor pains are parts, but minor parts,
     in the explanation of social values.




CHAPTER II

SUPPLY AND DEMAND, AND THE VALUE OF MONEY


The theory of the value of money is a special case of the general theory
of economic value. To the layman, this would seem to go without saying.
To the student of the literature of the subject, however, who has
noticed the wide divergence between the method of approach to the
general problem of value and the method of approach to the problem of
the value of money, in most treatises which include both these topics,
the proposition will sound unusual if not heretical. Most text-books in
English to-day will offer the marginal utility theory as the general
theory of value. The same books commonly present the quantity theory of
the value of money. Whether or not the two theories are consistent may
wait for later discussion, but that the quantity theory of money is a
_deduction from_ the utility theory of value, and a _special case_ of
the utility theory of value, will not, I believe, be contended by
anyone. Certainly in its origin, the quantity theory is much the older
theory. The same is true for those writers who seek to explain value in
general on the basis of cost of production, and who at the same time
offer the quantity theory to explain the value of money. The two
theories may or may not be consistent, but in any case, they are
logically and historically independent, neither being a deduction from
the other. Older writers (as Walker and Mill), whose treatment of the
general theory of value runs in terms of "supply and demand," have
stated that the quantity theory is merely a special case of the law of
supply and demand, and the statement is occasionally met in present-day
writings, though one of the most recent and best known of the
expositions of the quantity theory, Professor Fisher's _Purchasing Power
of Money_, very explicitly repudiates this doctrine.[41] But it may be
easily shown, and will be shown later, that the quantity theory, and the
present-day formulation of the law of supply and demand, are in no way
logically dependent upon each other. This lack of connection between two
bodies of doctrine which should be in a most intimate and essential way
related to each other, may well throw suspicion on the current
treatments of both topics. In any case the lack of connection raises a
problem, and calls for explanation.

Part of the explanation may be sought in the fact that the writers who
have developed the general theory of value have not been, in general,
the writers who have most elaborated the theory of the value of money.
The theory of money has been for a long time a more or less isolated
discipline. In Ricardo, we have an elaboration of the labor theory of
value, and we also have the quantity theory of money. But it is not
clear that Ricardo added anything to the quantity theory. He found it,
in much the form in which he used it, in the writings of predecessors,
among them Locke and Hume. Ricardo makes large use of the quantity
theory as a premise, but apparently feels the theory to be so
self-evident that it needs little exposition or defence at his hands.
John Stuart Mill is a clear exception to the general statement. Cairnes,
likewise, did treat both topics in considerable detail, but while his
interest in the general theory of value was that of the theorist, his
treatment of money was primarily in the spirit of the publicist, and his
interest was less in the justification of the theory--which he again
seems to feel needs little defence--as in its application. A similar
statement may be made with reference to Jevons. He worked out his
general theory of value for its own sake; his utterances on the theory
of the value of money must be sought scattered through his practical
writings on money. Alfred Marshall's _Principles_ (Vol. I) says almost
nothing about the theory of money; his opinions on that subject are to
be found in some _ex cathedra_ replies to questions from a Parliamentary
Commission. The most important discussions in England of the value of
money are to be found in the long polemic between the Currency and the
Banking Schools, by writers who would not be listed among the makers of
the general theory of value. In the United States to-day, with the
exceptions of Professors Fisher and Taussig, the writers who have been
interested in the general field of economic theory have done
comparatively little with the value of money (_e. g._, Professors Clark
and Fetter), and the writers who have been most interested in the value
of money have usually not written largely on the general theory of value
(_e. g._, Professors Laughlin, Scott, Kinley). Professor Kemmerer might
well be included as an illustration of this last statement. His primary
interest is in money, rather than general theory, even though he does
precede his theory of the value of money with an exposition of the
utility theory of value. In German, a similar situation obtains.
Böhm-Bawerk has touched the theory of money scarcely at all. Menger has
written an important article on "Geld" in the _Handwörterbuch der
Staatswissenschaften_, but the important thing about this article is the
theory of the origin of money, and the reader will find little on the
problem of the value of money. Wieser has recently taken up the value of
money (in articles published in 1904 and 1909), but no trace of his
views has as yet manifested itself in the English literature on money,
and the writer may here express the opinion that Wieser's contributions
to the theory of money are not likely to be very influential, or to add
to his reputation.[42] Austrian writers on the value of money, as Wieser
and von Mises, have recognized more clearly than anyone in America or
England, the essential dependence of the theory of the value of money on
the general theory of value. The German writer on money who has
attracted most attention recently, however, G. F. Knapp, troubles
himself about the general theory of value not at all.

But the main explanation of the hiatus between the two bodies of
literature and doctrine is to be sought in something more fundamental.
Neither utility nor costs nor supply and demand furnishes an adequate
basis from which the quantity theory, or any other theory of the value
of money can be deduced. The cost theory, and the supply and demand
theory, in their present-day formulation, are really not theories of
value at all, but are theories of _prices_, theories which presuppose
_value_, and _money_, and a _fixed value of money_. And the utility
theory, as usually presented, is either a theory of barter relations, or
else (more commonly) speedily settles down into the grooves of supply
and demand, leaping by means of a confusion of utility curves and
demand-curves (or sometimes by a deliberate identification of them, _e.
g._, Flux and Taussig[43]) to the treatment of market prices. I shall
take up these points in order.

A historical summary of the development of the notions of supply and
demand will aid the exposition. It may be noticed, first of all, that
supply and demand is really a very superficial formula even though an
exceedingly useful one. By virtue of its superficial character, it
antagonizes few other theories, and it has been the common property of
almost all schools of value theory. Cost theories and utility theories,
labor theories, or social value theories, all find use for it, in one
form or another. It is really quite neutral and colorless, so far as the
ultimate questions of value-causation are concerned. The more
fundamental causal factors offered by one theory or another are commonly
supposed to operate _through_ supply or demand, in price-determination.
Adam Smith seems to see this more clearly than does Ricardo. Ricardo,
indeed, sometimes thought of demand and supply as forces antithetical to
the forces of labor-costs which he was considering. In ch. xxx of his
_Principles of Political Economy and Taxation_ (ed. McCulloch, pp.
232ff.) he holds that his natural value ultimately rules, except (p.
234) in the case of monopolized articles. Supply and demand govern the
prices of monopolized articles and of all articles in the short run. I
do not find in Ricardo any clear statement to the effect that cost of
production operates _through_ influence on supply. Neither Adam Smith
nor Ricardo felt the need of very much precision in the definition of
supply and demand. Smith does, indeed, distinguish "effectual" from
"absolute" demand, in a well-known passage (ed. Cannan, I, p. 58),
defining effectual demand as the demand of the effectual demanders,
_i. e._, these who are willing to pay the "natural price" of the
commodity. The term "supply" he does not use in this passage, but speaks
of the "quantity which is actually brought to market," and gives as the
law of market price that it is determined by the "proportion" between
this quantity and the effectual demand. That much is wanting in this
analysis will be sufficiently clear when the views of J. S. Mill and
Cairnes are considered. Ricardo offers even less than Smith in the way
of definition. The reader may compare the pages in _Ricardo's Works_
cited above, and the discussion of the demand for labor on p. 241 in the
same volume.

In J.S. Mill, a clean-cut notion first appears. The doctrine that price
is determined by a ratio between effectual demand (_i. e._, the wish to
possess combined with the power to purchase) and supply (_i. e._, the
quantity available in the market), is sharply criticised. How have a
ratio between two things not of the same denomination? "What ratio can
there be between a quantity and a desire, or even a desire combined with
a power?" To make supply and demand comparable, demand must be defined
as "quantity demanded," and then the difficulty arises that the quantity
demanded will vary with the price, which seems to present a case of
circular reasoning if demand is to be a determinant of price. The
solution which Mill develops for this difficulty really gives us our
modern conception, virtually complete except that Mill does not present
it in the useful diagrammatic form and does not whisper the magic word,
"margin." There is a demand-schedule, which, plotted, would give a
demand-curve. At such and such prices, such and such quantities are
demanded, or will be purchased. There is a supply schedule, presenting a
supply situation of similar character (though not so clearly indicated).
The price reached is that price which _equalizes_ amount demanded and
amount supplied. A higher price will lead to competition among sellers,
forcing down the price, a lower price will lead to competition among
buyers, forcing up the price. The notion of a _ratio_ between supply and
demand is replaced by the notion of an _equation_ between them. The
present writer wishes to remark, in this connection, that Böhm-Bawerk's
elaborate analysis, with his "marginal pairs," etc., has not advanced
one step beyond this conception of Mill's, that it is really less
satisfactory than Mill's analysis, because of the impedimenta of
pseudo-psychology it has to carry, and because of its confusion of
utility schedules with demand schedules.[44] In our present-day
expositions, as presented in the diagrams, we are accustomed to say that
price is fixed when marginal supply-price and marginal demand-price are
equal, putting the stress on the ordinate, rather than on the abscissa,
on the identity of the dollars paid or received, rather than on the
identity of the goods given or received. But this is merely another way
of stating the same equilibrium which Mill perceived--when marginal
demand and supply prices are equal, amount supplied and amount demanded
will be equal, and conversely.

One point is to be added, making explicit what is implicit in the modern
theory of supply and demand. Supply and demand doctrine assumes _money_,
and a _fixed value_ of money. That there should be a given schedule of
money-prices for varying quantities of a good, is possible only if there
be a given value of the money-unit.

That the modern doctrine of supply and demand necessarily involves the
assumptions of value, of money, and of a fixed value of money, may be
proved by the following considerations:

Supply-situation, represented by the supply-curve, and demand-situation,
represented by the demand-curve, are conceived of as antithetical and
independent causal forces, whose equilibrium determines both "supply and
demand" (in the sense of quantities supplied and demanded) and price.
Mill's doctrine that supply and demand determine price gets out of the
circle that demand (amount demanded) is itself dependent on price, only
by making both demand in this sense and price _results_, rather than
causes, and by putting the causation back into the more complex factors
which I call "supply-situation" and "demand-situation." The two
independent causes, then, are summed up in the supply-curve and the
demand-curve. But, first, these curves are expressed in money. And
second, a change in the value of money would affect _both_ of them
proportionately. But a theory which is concerned with supply and demand
as independent and antithetical must abstract from factors which give
them a _common_ movement, without modifying their _relation_ to each
other. A change in the value of money would lead the supply-curve to
move to the right, and the demand-curve to move to the left, the change
in each being proportionate, and the amount supplied, and amount
demanded, would remain unchanged. Changes in the value of money must,
therefore, be abstracted from.

Again, we must precise the notion of an _increase_ in demand, or of
supply. Increase in demand may mean mere increase in amount demanded,
consequent upon a lower price, consequent, _i. e._, upon a lowering of
the supply schedule. In this sense, increase in demand is a passive
fact, a result rather than a cause. On the other hand, if the increase
in demand is an increase in the amount demanded at the _same_ price, if
it means a change in the demand-situation, represented by the moving to
the right of the demand-curve, we have a causal factor in increase in
demand, a factor which raises the price and compels new supply to come
into the market. We may distinguish these two meanings as increase in
demand in the active and in the passive senses. _Mutatis mutandis_, we
may speak of increase of supply in the active and passive senses. These
distinctions have been made before, but it has not been clearly seen
that these distinctions, and the connected doctrines, involve the
assumption of a fixed value of money. But consider: it is the current
doctrine that increase in demand in the active sense, the demanding of
a greater amount at the same price, the moving of the demand-curve to
the right, not only raises the price, but also tends to _increase the
supply_. But this is true only if the _cause_ of the increase in demand
is not a cause which simultaneously works on supply, neutralizing that
tendency. If the increase in amount demanded at a given price be due to
a lowered value of money, then the same lowered value of money will
reduce the supply available at that price _pro tanto_, and the new
equilibrium, _cæteris paribus_, will be at a higher price, to be sure,
but with the same amount supplied and demanded. "Demand" is a term which
carries the connotation of motivating power in economic theory. Through
demand run the forces which regulate production and supply. The function
of increased demand is to induce increased supply. But the value
concept, and the assumption of a fixed value of money, are needed to
preserve this part of the doctrine. Without them we have no way of
distinguishing a _real_ increase in demand in the active sense, which
does modify the adjustments in production, and alter the proportions of
different supplies, from a _nominal_ increase in demand in the active
sense, which merely raises a money-price, without affecting supply.[45]

Another approach will lead to the same conclusion. Demand and
supply-curves are not to be understood merely in terms of brute,
physical quantities. They are rather curves expressing economic
_significances_, manifesting _psychological_ forces which lie behind
them. No considerations of mere physical quantity will explain why one
demand-curve should be "elastic" and another inelastic,--each curve has
its own peculiarities, which are not mechanical in their nature.
Demand-curves express the diminishing economic significance of goods as
their quantity is increased. How economic significance is to be
interpreted need not be argued here. I have elsewhere undertaken to show
that the utility theory of value does not explain the economic
significance which demand-curves express--that demand-curves are not
utility curves. My own theory is that demand-curves are to be explained
only in terms of a social psychology, that demand-curves are
social-value curves. But my argument at this point does not rest on the
particular type of causal theory of value one chooses. It is enough that
the demand-curve be recognized as expressing economic significance, and
diminishing economic significance.[46] But for the demand-curve to
express variation in economic significance of a good, there is need for
a unit in which to express that variation. That unit is the economic
significance of the dollar, itself assumed to be invariable--as all
measures must be assumed to be invariable if measurement is to mean
anything. If the unit chosen vary in the course of a given
investigation, the curve tells you nothing at all.

Another way of reaching the same conclusion is to say that an increase
in demand in the active sense will lead to an increase in supply only if
there be no corresponding increase in demand for the alternative
employments of the sources of that supply, that, _e. g._, an increased
demand for wheat will lead to increased production of wheat only if
there be not a corresponding increase in the demands for corn and other
crops which can be raised on land and with labor and capital that would
otherwise produce wheat. This is only another phase of the argument that
went before, that an increase in demand due to a falling value of money
would lead to a corresponding shift in the supply-curve. It is not quite
the same argument, however, because that was an argument concerned with
short run tendencies, resting on the assumption that the holders of
supply would immediately react to a change in the value of money,
whereas the argument just presented rests on the longer adjustments,
based on the law of costs, as worked out by the Austrians. This point
will be made clearer in the next chapter.

Yet another, and perhaps simpler, approach to the same conclusion is by
pointing out that an individual, deciding to buy, must take account of
the prices of other things in his budget--that individual
demand-schedules would be different if market prices of other
things--which depend on the value of money--were different.

The doctrine that supply and demand (and cost of production, the
capitalization theory, and other elements in the current price-analysis)
presuppose a fixed value of money, must be sharply distinguished from
the doctrine of Professor Fisher (_Purchasing Power of Money_, ch. 8),
and others, that a fixed _general price level_ is assumed by supply and
demand, etc. I should deny that a fixed general price level is assumed.
The point rests in the distinction between value as _absolute_ and value
as _relative_. For my theory, it is perfectly possible for the general
price level to rise, with the value of money constant, because of a rise
in the values of _goods_. In a later chapter, on "The Passiveness of
Prices," I shall examine the doctrine of Professor Fisher more closely,
and set these two views in clearer contrast. For the present, it is
enough to point out one vital difference between a rise in prices due to
a fall in the value of money and a rise in prices due to a rise in the
values of goods, with the absolute value of money unchanged: in the
latter case, there is an increase in the psychological stimulus to
industry, an increase in economic power in motivation, which energizes
and increases production. In the latter case, especially when the fall
in the value of money is rapid, and the rise in prices is clearly due to
that cause (as in the case of Confederate paper, or the French
_Assignats_), we find a reverse effect on industry. Intermediate cases,
where money is falling in value, but where goods are also rising, give
us intermediate results.

In what follows, I shall from time to time refer to this distinction. In
my own exposition, I shall always use "value of money" in the absolute
sense, as distinguished from the mere "reciprocal of the price
level,"--a practice which I have sought to justify in the chapter on
"Value," and in other places there referred to.[47]

The modern theory of supply and demand, then, assumes money, and a fixed
value of money. It is, therefore, obviously unfitted as an instrument to
solve the problem of the value of money. If supply and demand concepts
are to be applied to this problem, they must be of a different sort.
This was pointed out by Cairnes[48] who criticised Mill's formulation,
and pointed out that Mill departed from it in three capital doctrines:
in the theory of the value of money, in the theory of wages, and in the
theory of international values. By the demand for money, Mill means, not
the amount of _money_ demanded, but the quantity of goods offered
against money--a very different conception. (Mill, _Principles_, Bk.
III, ch. viii, par. 2.) In what sense a quantity of goods can equal a
quantity of money, or in what sense there can be a ratio between goods
and money, (to recur to Mill's former problem as to the ratio between
things not of the same denomination) Mill does not make clear, nor is it
defensible to speak of either a ratio or an equation on the basis of
Mill's system, since Mill had no absolute value concept. Cairnes seeks
to reconstruct the notion of supply and demand, in such fashion as to
make it possible to apply it universally, and takes up the question of
the comparability of supply conceived as a quantity of goods, and
demand, conceived, not as a quantity of goods, but as desire combined
with the ability to pay. He concludes that in both supply and demand
there is a physical, as well as a mental, element. Demand he defines as
the desire for a commodity backed by general purchasing power; supply as
the desire for general purchasing power, backed by the offer of a
commodity. Thus he thinks he has made the two of the same denomination,
so that comparison may be instituted between them, and the ideas of
equation, ratio, and proportion made legitimate. By "general purchasing
power," Cairnes seems to mean money and the representatives of money. It
is not an abstract power, since it is the "physical" element in demand,
comparable with, and of the same denomination with, the physical element
in supply, a commodity. Cairnes' solution of Mill's difficulty seems to
me to be merely verbal, however. First, in what way is the desire for
general purchasing power in the mind of one man comparable with the
desire for a commodity in the mind of another man? I pass over the
supposed difficulty that knowledge of other men's emotions is
impossible,[49] and emphasize simply the point that price offer, either
by demander or supplier, is no test of the intensity of desire where
there are inequalities in the distribution of wealth. But second: in
what sense is general purchasing power, money and money-funds, of the
same denomination as a commodity? Cairnes emphasizes the physical
character of both. But surely they are not comparable on the basis of
any physical attributes--weight, bulk, etc. Certainly if we look at the
concept of demand here given, the physical aspect is simply
irrelevant--gold money goes by weight, but what of paper money and
credit instruments? And in what sense is even gold money physically of
the same denomination with, say, wheat, or hay or base-ball tickets? Not
physical quantities, but economic quantities, are relevant here; not
weight or bulk, but _value_. By means of a concept of value, as the
homogeneous quality of wealth, present in each piece of wealth in
definite, quantitative degree, could Cairnes bring about comparability
between the "physical" elements in supply and demand. But not otherwise.
Only significances, values, are relevant here. Supply and demand
presuppose value.

It will be interesting to consider the effort to solve the problem of
the value of money by means of supply and demand on the lines employed
by Mill, where demand for money is defined as quantity of goods to be
exchanged, and supply of money as quantity of money times rapidity of
circulation, and where physical quantities are treated as the relevant
factor, no value concept of the sort here contended for being
presupposed. This is, essentially, Mill's method. There is, in this
conception, first the difficulty that "quantity of goods to be
exchanged" is not a true quantity at all, but is a mere collection of
things of different denominations, dozens of eggs, pounds of butter,
gallons of milk, etc., incapable of being funded into a quantity.[50]
There is, second, the difficulty that increasing the amount of any one
of the items in this heterogeneous composite need not increase the
"demand" for money, in the sense that it increases the "pull" on money,
or tends to increase the supply of money. Yet, under the general
doctrine of supply and demand, an increase in demand should be a
stimulus to increase in supply. Indeed, it is easy to construct a case
where an increase in the quantity of one of the items in this composite,
the others remaining unchanged, would actually tend to _repel_ money, to
reduce the _supply_ of money. Suppose that one item in America's stock
of goods, say cotton, is much increased in quantity, and suppose that
cotton has a highly inelastic demand-curve, so that the increased
quantity sells for less money than the original quantity.[51] Suppose,
too, that cotton is our chief article of export, and that the bulk of
our cotton is exported. Would not the "balance of trade" tend to turn
against us, so that gold would tend to leave the country, and the supply
of money be reduced? There is nothing in the situation assumed to raise
the prices of other goods,[52] so that they could exert a counteracting
"pull" on money. Europeans, to be sure, having less to pay for cotton,
could demand more of other things, and Americans paying less for cotton
could demand more of other things. But, on the other hand, American
producers of cotton, receiving less for their cotton--receiving
precisely as much less as the others had more--could then demand less of
other things, exactly as much less as the others are able to demand
more. The original tendency for gold to leave the country, and the
tendency for gold to leave the money-form and be used in the arts, would
remain unneutralized. An "increase of demand for money," in Mill's
sense, would in this case present the remarkable phenomenon of driving
money away. Physical quantities are irrelevant. Psychological
significances are what count.

It is interesting to note, in this connection, that some striking
contradictions in quantity theory reasoning on any formulation, whether
connected with the notions of supply and demand or not, are involved in
this hypothesis. The illustration above gives a case where a lowered
price level leads money to flow away from your country. But, on the
quantity theory explanation of foreign exchange, it is _rising_ price
levels which drive gold away, and _falling_ price levels which attract
gold![53]

Mill's effort to apply the notion of demand and supply to the value of
money is, then, (1) not an application of his formal doctrine of supply
and demand, and (2), is a failure, leads to results contradictory to the
general law of supply and demand, as soon as we take account of the
peculiarities of individual commodities, and cease to look at
commodities in one huge lump. Psychological forces, rather than
physical quantities, are what count. Whether or not the supply and
demand notion of Cairnes, reinterpreted by putting a quantitative value
concept into it, could serve as a means of approach to the value of
money, I shall not here argue. No one so far as I know has attempted to
do the thing that way, and my own theory is best developed by another
method. It is interesting to note, however, another somewhat different
effort to apply the supply and demand formula. General Walker does so,
including among the factors determining the demand for money, not only
the quantity of goods to be exchanged, but also the _prices_[54]
prevailing. Since by value of money Walker means merely the reciprocal
of the price-level, this is the clearest possible case of a vicious
circle. It would be a circle even if he were trying to explain the
absolute value of money, as distinguished from the reciprocal of the
price-level, since the former is one of the determinants of the latter.
Value of money and values of goods determine prices; prices and quantity
of goods determine demand for money; demand and supply of money
determine value of money,--a hopeless circle.

I know no sense in which the terms, demand and supply of money, can have
relevance to the problem of the value of money. There is one sense in
which the terms can be used which fits in with the modern supply and
demand-curves, and that is the sense in which they are used in the money
market. Demand for money comes from borrowers; supply of money from
lenders. The price paid is a money-price, the curves express the short
time money-rates, the rental of money, in terms of money, for stated
periods of time. There is a relation, later to be investigated, between
the rental of money, the money-rate, and the value of money, but the two
are in no sense the same. It should be noted, too, that we are here
concerned with "money-funds" rather than with money in the strict
sense,--distinctions and relations in this connection properly belong at
another stage of our inquiry. Whenever the terms, demand and supply of
money, appear in the following pages, they will be used in the sense
developed in this paragraph.

Demand and supply are superficial formulæ. They cannot touch a problem
so fundamental as that of the value of money.




CHAPTER III

COST OF PRODUCTION AND THE VALUE OF MONEY


When the cost theory was a labor theory, as with Ricardo, the
expression, cost of production of money, could have a definite meaning.
It meant the labor-cost of producing the money metal. Even in this form,
it is recognized that cost of production has a looser connection with
value in the case of money than in the case of most commodities, because
the supply of money metal is large and durable, and the annual
production affects it slowly. But cost of production theories, in the
form of labor theories, or labor-abstinence-risk theories, have little
standing in modern economic theory. Ricardo himself saw the break-down
of the pure labor theory; and Cairnes, Ultimus Romanorum, so limited and
modified the "real costs" doctrine as to leave little validity in it,
even on his own showing. The prevalent doctrine of cost of production
runs in terms of "money-costs"--and hence is of no use when the problem
of the value of money itself is to be solved.

A brief historical sketch of the cost theory will be helpful. Costs are
sometimes conceived as a cause of value, and sometimes as a measure of
value. Often these two aspects are mixed, and writers shift from one
notion to the other. This is particularly true of the labor theory. In
Adam Smith the contention sometimes is that labor is unvarying in value,
hence an admirable measure of values, and an excellent standard of
long-time deferred payments. Smith compares wheat and silver from the
standpoint of the constancy of their relation to labor, and concludes
that wheat is the better standard in the long run, because it remains
more nearly fixed with reference to labor than does silver. Sometimes
Smith thinks of labor as a cause of value, and thinks of the labor that
enters into the production of a good as the significant thing. At other
times, the labor that goods will command or purchase is the significant
thing--and here one is not clear whether he thinks of labor as a cause
or as a measure. Whether labor is to be funded as labor-pain, or as
labor-time, Smith does not state. Sometimes labor seems to be considered
as homogeneous in its efficiency. At other times, he makes comparison
between different kinds of labor as to their efficiency, and compares
the efficiency of labor in different occupations. One can find nearly
anything one pleases in Adam Smith on these points. At times he speaks
of "labor and expense," rather than labor alone, as governing prices.

Labor-cost to the laborer would take the form of labor-pain or
labor-time. To the employer, it would take the form of outlay in wages.
Adam Smith never makes any definite statement of point of view here, and
shifts back and forth from one to the other. He recognizes variations in
labor-pain, in danger, etc., in different kinds of labor when discussing
wages.

Ricardo elaborated the labor theory of value, and tried to think it
through. He was too keen a logician to shift view-points with Smith's
facility, and he tried to make a completed system.[55] There is some
shifting from the theory of labor as a cause of value to labor as a
measure of value, as in the following passage: "If the state charges a
seigniorage for coinage, the coined piece of money will generally exceed
the value of the uncoined piece of metal by the whole seigniorage
charged, because it will require a greater quantity of labour, or,
which is the same thing, the value of the produce of a greater quantity
of labour, to procure it." (_Works_, McCulloch ed., 213.) In general,
however, Ricardo developed a causal theory of value, quantity of labor
being the basis of the absolute values of goods, their _relative_ values
depending on the relative amounts of labor involved in the production of
each. I shall not go into the matter fully, but shall call attention to
the rock on which the system split, as Ricardo himself admits. A greater
or less proportion of capital works with labor in producing different
things, and the value of product, in that case, varies not merely with
the labor, but also with the amount of capital, and the length of time
the capital is employed. How say, then, that labor alone governs value?
How reduce labor-cost and capital-cost to homogeneous terms? James Mill
tried to do it for him by making capital merely stored up or petrified
labor, which gives up its value again in production. But this doesn't
meet the difficulty, because there is a _surplus_ value, over and above
that explained by all the labor, including the labor which produced the
machine, and the labor which produced the raw materials which entered
into the machine, etc. The case of wine is a particularly obstinate
case. Wine increases in value merely with the passage of time, at a rate
which corresponds to the profit on capital. Ricardo finally, in
correspondence with McCulloch, definitely abandons the case, stating
that there are many exceptions to the proportionality between exchange
value and labor-cost. "I sometimes think that if I were to write the
chapter on value again which is in my book, I should acknowledge that
the relative value of commodities was regulated by two causes instead of
one, namely, by the relative quantity of labor necessary to produce the
commodities in question, and by the rate of profit for the time that the
capital remained dormant." (Davenport, _Value and Distribution_, p.
41.) But this is a "dualistic" rather than a "monistic" explanation--one
element is a money-expense, or at all events a pecuniary item, while the
other is a "real cost" item. The two are incommensurate and
incommensurable.

Senior seeks to supply the unifying principle. "Abstinence" and labor
have pain as a common element, and so are commensurable. Costs, reduced
to labor and abstinence, become homogeneous again. Monism is restored.
Cairnes completes the doctrine by adding risk to the real cost elements:
a triune cost concept, sacrifice being the generic fact in the three
manifestations.

With John Stuart Mill, in general, we have an entrepreneur view-point.
Money-expenses of production, entrepreneur outlay, plus wages of
management, or including wages of management, are the factors with which
Mill reckons. He is no longer concerned with psychological ultimates, or
real costs. Cairnes criticised Mill sharply for this. No distinction is
more fundamental he holds, than that between costs or sacrifice on the
one hand, and rewards on the other. Labor, abstinence and risk are
sacrifices; wages, interest, profits are rewards. None the less, in cost
doctrine, as in supply and demand doctrine, it is Mill's view which has
prevailed. Cost as conceived by Mill is a superficial, pecuniary notion.
It tells little as to ultimate causation. But it is virtually only as a
pecuniary doctrine, costs from the entrepreneur view-point, that the
cost doctrine is met in modern theory.

Why is this? Well, first, the real-cost doctrine simply does not square
with the facts. The hardest labor does not produce the most valuable
goods. Value in fact does not vary either with labor-pain or labor-time.
In fact, whatever the explanation, it would seem to be truer that the
relation is an inverse relation. Nor does the abstinence that pinches
hardest produce the largest amount of capital. And while there is some
correlation between risks and profits, the correlation is at best low
and is not a correlation between psychological sacrifice and profits.
Even "marginal abstinence" for a Rothschild or a Rockefeller causes no
pain. It is absurd to seek to find a common element in the "abstinence"
of a rich man and the pain of a poor and aged laborer. I pass over the
supposed difficulty that abstinence is, in general, suffered by one set
of minds, and labor-pain by a different set of minds, and hence, since
men cannot compare their own emotions with the emotions of other men,
there is no comparability. This subjectivistic psychology would, of
course, make it equally impossible to fund labor-pains of different
laborers, or to get any common denominator at all.[56] It is enough to
point out that differences between rich and poor, between successful and
unsuccessful, between efficient and inefficient, (apart from acquired
differences which may be smoothed out by the "stored up
labor-of-training" principle) make labor-pain, and marginal labor-pain,
vary greatly from value, and make labor-pain, abstinence and risk quite
incommensurable, and quite without fixed relation to value. Cairnes saw
this in part, and developed his doctrine of non-competing groups to deal
with it. Labor-pain and value vary together only when we are comparing
goods produced by laborers within a competing group. Laborers in one
group do not compete with laborers in another group. There is perfect
competition in the capital market, however, and so capital costs
("abstinence") are perfectly correlated with value, to the extent that
capital enters. Cairnes seems to think that the whole difficulty with
his real cost doctrine comes from the failure of competition. In fact,
however, it comes also from the inequalities in wealth. And even in his
highly competitive capital market it is equally true that abstinence, or
even marginal abstinence (a term which Cairnes does not use) has no
constant relation to amount of capital accumulated, value produced, or
interest received. The cost theory breaks down at every point when it
runs in labor-abstinence-risk terms. So generally has this been
recognized, that the cost theory has generally given way to the utility
theory, and cost doctrine when it appears in modern economics is either
the very superficial money-outlay notion of Mill, or else the Austrian
cost doctrine, later to be discussed, which is still a pecuniary
concept. I have elsewhere undertaken to show (_Social Value_, chs. 3-7,
and the ch. on "Marginal Utility," _infra_) that these defects of the
"real-cost" theory, are just as much in evidence in the utility theory.
The failure of the real cost theory of value is by no means a
vindication of the utility theory. Both have the same vice--the effort
to combine into a homogeneous sum a lot of individual psychological
magnitudes measured in money, when the money-measure has a different
psychological significance for each individual, and so comparison and
addition are impossible. But in any case, the real cost doctrine of the
Classical School has failed, and so cannot serve as the basis of the
theory of the value of money.

Obviously the money-outlay cost theory of Mill cannot explain the value
of money itself. The marginal cost of producing twenty-three and
twenty-two hundredths grains of gold will always be a dollar, however
the dollar may vary in value. Indeed, in general, the assumption of a
constant value of the money-unit is implied in the monetary cost
concept. Cost curves are _supply_-curves and the reasoning already given
as to the need for assuming constant value for money in the supply and
demand concept will apply here. Costs function in value-determination
only by checking supply. Rising costs tend to mean a lessened supply.
But if the cost-curve is rising _because_ of a fall in the value of
money, then the demand-curve will be rising also, and production will
not be checked. The general law as to the relation of cost to demand and
supply assumes a fixed value of the unit of cost, the dollar.

To the Austrian economists we owe a rational theory of costs which gives
the money-outlay concept more than a merely empirical basis. First, they
see in costs not causes, but results. Value causation comes ultimately,
not from the side of supply, but from the side of demand. I shall not
now undertake a criticism of their explanation of demand. I have
elsewhere criticised their confusion of demand-curves and
utility-curves, and pointed out that marginal utility gives no
explanation of demand. I shall recur to the utility theory of value at a
later point. For the present, it is enough to point out that the
Austrian theory of costs is independent of their utility vagaries, and
rests best on the notion of supply and demand, as expressed in the
modern curves, with the assumption of a fixed value of the money-unit.
Costs consists of entrepreneur money outlay of various kinds, chiefly
wages, interest, and rent. Rent is, for the Austrians, as much a cost as
any other item of entrepreneur outlay. But these items of cost are not
ultimate data. They are rather reflections of the positive values of the
products. Value runs from finished product to agents of production,
labor, and instrumental goods, and land. Avoiding needless complications
from a discussion of interest as a factor in cost--a doctrine on which
the Austrians, say Wieser and Böhm-Bawerk, are not agreed,--it is enough
to point out that high wages or high rents, which limit production in
any given industry or establishment, are high _because_ the land and
labor in question have _alternative_ uses, because other industries, or
other competitors in the same industry, bid for them. Cost-curves,
then, are reflections of demand-curves. The cost-curve of wheat, _e.
g._, is what it is because of the demand-curve for corn, for cattle, and
for every other commodity that could be produced with the same labor and
land. Cost doctrine thus becomes part of the general doctrine of supply
and demand, and runs in pecuniary terms, assuming money, and a fixed
value of money, and hence is incapable of serving as a theory of the
value of money itself.

That some vaguer form of cost doctrine, where the unit of cost is, not
money, but some composite commodity of things used in the production of
the standard money metal, or a unit of abstract value, might be worked
out, is doubtless true. Gold production, like other industry, is part of
the general economic scheme, and there is some sort of equilibrium
reached which draws labor and capital now away from, and now back to,
the gold mine. To bring this equilibrium into the general scheme of the
modern theory of costs, however, in terms precise enough to make a
satisfactory theory of the value of money, is a thing which has not so
far been done, and I do not have high hopes of its early accomplishment.
In any case, such a theory must rest upon a positive theory of value.
Cost doctrine is negative, and can never be fundamental.[57]




CHAPTER IV

THE CAPITALIZATION THEORY AND THE VALUE OF MONEY


Money is capital. A dollar is a capital-good. Money is, moreover, a
durable form of capital, which gives forth its services bit by bit, and
indeed, in a community where the state bears the burden of wear and
tear, never ceases to give forth those services. In any case, from the
standpoint of a given individual, so long as there is a limit of
tolerance prescribed for legal tender, it is a matter of accident if he
ever incurs a loss from the wastage of the capital instrument, money,
through wear and tear. Moreover, the fact that money is "fungible," and
that its use is to be found in a process which commonly returns to the
owner, not the same coin, but a different coin, we may, in general,
abstract from the wear and tear of the dollar, and look upon the dollar
as a capital instrument which promises its owner, if he chooses to use
it as capital, a perpetual annuity. The nature of this money service
will be more fully described later. For the present it is sufficient to
say that exchange is a productive process, that exchange creates values,
in as true a sense as manufacturing does, and that money facilitates
exchange in as true a sense as coal facilitates manufacturing. There is,
at any given time, a demand-curve for this money service, manifesting
itself in the money market, a demand for the short time use of money as
a tool of exchange, and the "prices" which come out of the interaction
of demand and supply in the money market are the short time "money
rates" including the "call rates." These are properly to be conceived,
not as pure interest on abstract capital, but as rents[58] which are to
be attributed to money as a concrete tool.

Now, in general, when such rents appear, they may be capitalized. And
the price of the instrument of production that bears these rents, will
be the sum of the rents, discounted at the prevailing rate of interest,
with considerations of risk, etc., allowed for. The reasoning of the
capitalization theory is really quite simple. Take, for example, a piece
of urban site land, which is expected to bring a perpetual annuity of
one hundred dollars. The whole economic significance of the land is
contained in its services, present and prospective. The possession of
land under certain circumstances brings other services, as social
prestige, than the services which can be alienated to a lessee. But in
this case I am abstracting from considerations of that sort, and also
from the factor of risk. The whole value of the piece of land under
consideration comes from the value of the one hundred dollars a year.
But these annual incomes are not all equally valuable, even though all
expressed as one hundred dollars. The first one hundred dollars is due
one year hence, the tenth ten years hence, the thousandth, a thousand
years hence. The principle of perspective comes in--I abstain from any
detailed discussion of the theory of interest, simply stating that in a
general way I agree with the contention that _time_ constitutes the
essence of the phenomenon, or rather, the tendency to discount the
future. The capital price of the land is the sum of an infinite
convergent series of the "present worths" of the incomes. The formula
is as follows: capital price of land = $100/1.05 + $100/(1.05)^2 +
$100/(1.05)^3 ... + $100/(1.05)^n when the rate of interest is 5%. The
limit of this series, assuming the series to be infinite, is $2000, and
a simple formula for calculating it under the assumptions, is to divide
$100, the annual income, by .05, the rate of interest. Given the annual
income, given the prevailing rate of interest, the capital price is
determined. The relation may be illustrated, roughly, by the figure of a
candle, a disk, and the shadow of the disk on the wall. The disk
represents the annual income, the shadow on the wall the capital value,
and the distance between the flame and the disk the rate of interest.
Increase the distance between the flame and the disk, the rate of
interest, and the shadow becomes smaller; shorten the distance, and the
shadow is increased. Similarly, enlarge the disk, and the shadow is
enlarged. The capital value varies directly with the annual income, and
inversely with the rate of discount. Now my purpose here does not
involve a detailed examination of the validity or limitations of the
capitalization theory. For the present, the only question is, has this
theory any application at all to the problem of the value of money? It
offers itself as a general theory of the values of durable bearers of
income. Money is a durable bearer of income.

The capitalization theory, however, is of no use for the purpose in
hand. Money does not obey the general law in the relation which the
magnitude of the income bears to the rate of interest. In general, the
income and the rate of discount are independent variables. Their
influence, operating in opposite directions, fixes the capital value,
increasing income increasing the capital value, increasing discount rate
reducing it. In the case of money, however, the two factors are not
independent. The short time money rate is not, to be sure, identical
with the long time rate of interest, which is the rate of discount for
the purpose in hand. But the two tend to vary together in the long run
average in fact, and they are related in the _expectation_ of those who
are concerned in the capitalization process.

In our chapter on the "Functions of Money," in Part III, it will be
shown that normally there tends to be a difference between the money
rates and the long time interest rates, the long time rates tending to
be higher than the rates on short loans, the rate on very short loans
being lower than the rate on somewhat longer short time loans, and the
call loan rate being lowest of all. The explanation of this must be
deferred till we have analyzed the functions of money. But the important
thing, for present purposes, is that the money rates, though lower than
the "pure rate" of interest, tend to vary, in long time averages, with
that "pure rate,"[59] and that, consequently, the income from renting
money, and the discount rate to be applied in capitalizing that income,
are not independent magnitudes, but tend to vary together. They thus
tend to neutralize one another. If money rates go up, and if they are
expected to stay up long enough to justify (on the ordinary
capitalization theory) a rise in the capital value of money, we have a
counteracting influence in the long time interest rate, which also
rises, and tends to pull down the capital value of money. To recur to
our illustration of the candle and the disk, as the disk increases in
diameter, the distance between the candle and the disk grows greater,
and so the _shadow_ tends to remain the same.

There is a further difficulty, to which attention will be called more
fully in later chapters, particularly the chapter on "Dodo Bones," and
the chapter on the "Functions of Money." In other cases, in general, the
capital value is, as the capitalization theory requires it to be, a true
shadow, a passive function of the income and the discount, of the disk
and the distance between the candle and the disk. In the case of money,
however, the income is causally dependent, in part, upon the capital
value. Money can function as money only by virtue of having value. The
shadow becomes substance in the case of money. It is the _value of
money_ which makes possible the _money work_. The capitalization theory,
thus, if applicable at all, must be radically modified before being
applied. We shall subsequently, in the chapters above referred to, take
account of this fundamental complication. For the present, we can state
it merely as a problem: how can we construe the interaction of the
income value of money and the capital value of money in such a way as to
avoid a circular theory?

But further, the capitalization theory, as heretofore formulated, like
the doctrines of supply and demand and cost of production, assumes
_money_, and a _fixed absolute value_ of money. This assumption must be
made if we are to be able to predict, on the basis of the capitalization
theory, that a given annual income, at a given rate of discount, will
give a specified capital value. This may be shown by the following
considerations: If men anticipate that the value of the income, which is
a fixed sum of dollars, is to grow less in the future, then the present
worth of the bearer of that income will shrink to an extent greater than
the "pure rate" of interest would call for. The principle of
"appreciation and interest" comes in. The nominal interest, in times of
falling value of money, tends to exceed the pure rate by an amount which
compensates for the loss in value of future income as the dollar falls
in value. We have here, however, a principle different from the
principle of time discount. It is not the influence of time, which makes
a _given_ value appear smaller as it is further removed in time, but it
is an anticipated lessening in the value of the income itself, that
counts. In terms of our candle and disk illustration, it is a factor
affecting the size of the disk, rather than a factor affecting the
distance between the disk and the candle. For the purposes of
calculation, the two elements in the nominal rate of interest may be
lumped together, and the nominal rate, rather than the pure rate, may be
taken as the rate of discount for capitalization purposes. But for
theoretical purposes, the two must be kept distinct. The capitalization
theory rests on the assumption of a fixed value of the money unit.

That the fixed value of the money unit assumed is an absolute value, and
not a mere "reciprocal of the price level," may be proved by some
further considerations regarding relations among these same factors.
Assume a fall in the rate of interest. Then, on the capitalization
theory, prices of lands, stocks and bonds, houses, horses, and all items
of wealth which give forth their services through an appreciable period
of time, will rise, and with them the average of prices, or the general
price level, will rise.[60] If one hold the _relative_ conception of
value, according to which the value of money necessarily falls when
prices rise, because the two are merely obverse phases of the same
thing, then this rise in the price level is, _ipso facto_, a fall in the
value of money. But we have seen that a fall in the value of money
means, on the "principle of appreciation and interest," a rise in the
interest rate! Hence, we would have proved that a fall in the interest
rate causes a rise in the interest rate--which is absurd. If, however,
we recognize that prices can rise without a fall in the value of money,
if, _i. e._, we use the absolute conception of value, this difficulty
disappears. The capitalization theory and the theory of appreciation and
interest can be reconciled only on the basis of the absolute conception
of value.

The capitalization theory, then, in its present formulation, assumes
money, and a fixed absolute value of money. It is, therefore,
inapplicable to the problem of the value of money itself.

In general, none of the polished tools of the economic
analysis,--neither cost of production, the capitalization theory,[61]
nor the law of supply and demand,--is applicable to the problem of the
value of money. The reason is that they get their edge from money
itself. The razor does not easily cut the hone. It is to this fact, I
think, that we owe the widespread and long continued vogue of a theory
so crude and mechanical as the quantity theory. In the next chapter we
shall show that the utility theory of value--which we shall not
recognize as a polished tool!--has also failed to give us help in
explaining the value of money.




CHAPTER V

MARGINAL UTILITY AND THE VALUE OF MONEY


A good many writers have attempted to apply the marginal utility theory
to the value of money. Among these, I may particularly mention Friedrich
Wieser, Ludwig von Mises, Joseph Schumpeter, and, in America, David
Kinley, and H. J. Davenport.

The marginal utility theory is ordinarily merely a thinly disguised
version of supply and demand doctrine. As usually presented in the
text-books, we have an analysis of the phenomenon of diminishing utility
of a given commodity to a given individual, illustrated by a diagram, in
which the ordinates represent diminishing psychological intensities.
Often a money measure is given to these diminishing intensities, and the
curve is presented as the demand schedule of a given individual. Then,
with little further analysis, a leap is made to the market, and it is
assumed that the market demand-curve, of many individuals, differing in
wealth and character, is a utility-curve, and value in the market is
"explained" by means of marginal utility. I need not here repeat my
criticisms of this procedure.[62] It gives simply a confused statement
of the doctrine of supply and demand. The analysis of utility which
precedes the discussion of market demand is wholly irrelevant, and
merely mixes things up. That such a conception is of no use in solving
the problem of the value of money has been sufficiently indicated in the
chapter on supply and demand.

Sometimes the contention is made that money is unique among goods in
having "no power to satisfy human wants except a power _to purchase_
things which do have such power."[63] This contention, in Professor
Fisher's view, precludes the application of the marginal utility theory
to the problem of the value of money, and he makes no use of marginal
utility in his explanation. Indeed, in the passage from which this
quotation is taken, Professor Fisher says that the quantity theory of
money rests on just this peculiarity of money. Not all writers who
contend that money has no utility _per se_, however, have felt it
necessary to give up the marginal utility theory as a theory of money,
as we shall later see.

On the other hand, writers of the "commodity school" (or "metallist
school"), writers who see the source of the value of money in the metal
of which it is made, can apply the utility theory readily to the value
of money, making the value of money depend on the marginal utility of
gold, or the standard metal, whatever it is. To the writers of this
school, it is incredible that anything which has no utility should
become money. Money must be either valuable itself, or else a
representative of some valuable thing. The value of money comes from the
value of the standard of value, and that value may, so far as the logic
of the situation is concerned, be as well explained by marginal utility
as the value of anything else. Typical of this view is Professor W. A.
Scott's discussion in his _Money and Banking_[64], though the emphasis
there is not on marginal utility as the explanation of the value of the
standard, but on the value (conceived of as an absolute quantity) of the
standard as essential to the existence of money, and the performance of
the money functions. Professor Scott attacks vigorously and effectively
Nicholson's exposition of the quantity theory,[65] where the assumption
is made that money consists of dodo-bones (the most useless thing
Nicholson could think of). Most quantity theorists would share
Nicholson's view that dodo-bones would serve as well as anything else
for money--or, to put the thing less fantastically, that the substance
of which money is made is irrelevant, that the only question is as to
the quantity, rather than the quality, of the money-units, and the
quantity of the money-units, not in pounds or bushels or yards, but in
abstract number merely. For writers who seek the whole explanation of
the value of money in its monetary application, and who see that money,
_qua_ money, cannot administer directly to human wants, the view that
Professor Fisher expresses, namely, that money has no utility, and is
unique among goods in this respect, seems on the surface, to have
justification. On the surface merely, however. Money is not unique among
goods in being wanted only for what it can be traded for. Wheat and corn
and stocks and bonds and everything else that is speculated in is
wanted, by the speculators, only as a means of getting a
profit[66]--they are remoter from the wants of the man who purchases
them than the money profit he anticipates. Ginsing, in America, has
value, though consumed only in China. And there are people, particularly
jewelers, who often want money as a raw material for consumption goods.
The difference is at most a difference of degree--and of slight degree
indeed in the case of such things as bonds, which count on the "goods"
side of the quantity theory price equation, but which really are in all
cases remoter than money itself from human wants. Money really stands,
for the purpose in hand, on the same level as any other instrumental
good.[67] It does not give forth services directly, as a rule. Neither
does a machine, or an acre of wheat land, or goods in a wholesaler's
warehouse. Exchange is a productive process, an essential part of the
present process of production. Money is a tool which enormously
facilitates this process. It has its peculiarities, no doubt. One of
them is--and money is not unique in this as will later appear--that it
must have _value_ from non-monetary sources[68] before it can perform
its own special functions, from some of which it draws an increased
value. But there seems to me to be nothing in the contention quoted from
Professor Fisher, to justify setting money sharply off from all other
things, or to justify the view that marginal utility is inapplicable to
the value of money, if it be applicable to the value of anything at all
that is not destined for immediate consumption. I do not believe that
the marginal utility theory is valid for any class of goods, not even
those for immediate consumption. Where marginal utility theory is,--as
in the conventional text-book expositions--merely another name for
supply and demand theory, it is, as already shown, not applicable to the
value of money, and it is useful in the surface explanation of
market-prices of goods. But where marginal utility theory really seeks
to get at value fundamentals, it is precisely as valid for money as for
goods of other sorts--invalid, in my judgment, in both places, and for
the same reasons in both.

Among the writers who would apply the utility theory to money, while
still insisting that money, as such, has no utility, are Wieser,
Schumpeter--who accepts Wieser's theory in its main outlines--and von
Mises, who develops a notion very different from that of the other two.

Wieser's doctrines are set forth in two expositions, separated by five
years, the second representing a considerable development in his
thought, though resting in part on the first. The first is an address
upon the occasion of his accession to the professorship at the
University of Vienna, in 1904, and is published in the _Zeitschrift für
Volkswirtschaft, Sozialpolitik und Verwaltung_, vol. 13 entitled, "Der
Geldwert und seine geschichtlichen Veränderungen." The second is a
discussion, partly written and partly spoken, "Der Geldwert und seine
Veränderungen" (written), and "Ueber die Messung der Veränderungen des
Geldwertes" (spoken), in _Schriften des Vereins für Sozialpolitik,
Referate zur Tagung_, no. 132, 1909. For the purpose in hand, a brief
statement of one or two points would suffice to show the futility of
Wieser's effort to get an explanation of the value of money _via_
marginal utility, but I think that readers may be interested in a fuller
account of Wieser's doctrine, just because it is Wieser's, and so shall
undertake to give a more systematic account of it. For brevity, in the
exposition which follows, I shall refer to the first article as "I," and
to the second as "II."[69]

Wieser holds that it is possible to have money wholly apart from a
commodity basis (I, p. 45), citing the Austrian _Staatsnoten_ as a case
in point. The reason for giving them up is that they do not circulate in
foreign trade. Gold fulfills its international money-functions the more
easily because of its various employments, but, after it is thoroughly
historically introduced, as money, it could fulfill its money functions
even if all these employments be thought away (46). Wieser gives no
argument for this contention, and its validity will be examined
later.[70] There are, he says, two sources for the value of gold, the
money use and the arts use, interacting. Money is further removed from
wants, not only than consumption goods, but also than production goods,
which are but consumption goods in the seed. The latter are technically
destined for definite goods. But money may be used to procure whatever
good you please, in exchange. (The absoluteness of this distinction,
also, may be questioned. Pig iron is almost as unspecialized as money in
its relation to wants, since tools enter into the production of almost
every service that human wants require, from surgical operations,
through instrumental music, to wheat and horse-shoes. On the other hand,
money is not the only thing by means of which other things are
purchased. The extent of barter in modern life will wait for later
discussion.[71] I do not think that _any_ sharp distinction between
money and all other things is valid.) Wieser complains of the older
economics which treats money as a commodity. And he contends that as
money and commodities show a contrast in their essence (_Wesen_), they
should also manifest a contrast in the laws of their values, even though
the fundamental general theory of value applies to both (I, 47). He
finds in representatives of money (_Geldsurrogate_) and in velocity of
circulation of money, factors which are lacking in commodities. (Again a
question must be interjected by the writer. Are not corporation
securities essentially like _Geldsurrogate_ from this angle? And do not
goods vary greatly in the number of times they are exchanged? What of
the speculative markets, where more sales are made in an active market,
at times, than there are commodities or securities of the type dealt in
in existence?) The value of money is essentially bound up with the
money-service. Wieser indicates that he is not talking about the
subjective value of money, but its objective value, using the popular
meaning of the term, which, he says, is not strictly logical, but is
useful: the relation of money to all other goods which are exchanged,
the purchasing power of money. This depends on goods as well as on
money. In the second article, Wieser refines and elaborates his
conception of the objective value of money, seeking to get away from the
notion of relativity which is involved in the conception of purchasing
power, and to get an absolute conception, which shall be a causal factor
in the determination of general prices, rather than a mere reflection of
them. It is to be a coefficient with the objective values of goods in
determining prices. A change in general prices may be caused by a change
in the value of money, and may be caused by a change in the values of
goods (II, p. 511). In explaining this objective value concept (which,
in its formal and logical aspects, is in many ways similar to the
absolute social value concept maintained by the present writer, though,
in the present writer's judgment, inadequately accounted for by Wieser,
so far as a psychological causal theory is concerned) Wieser objects to
the term, "objective value" which he had used in the earlier article. He
prefers "volkswirtschaftlicher Wert." (This term is perhaps best
rendered "public economic value," for present purposes, to distinguish
it, on the one hand, from individual or personal value, and, on the
other, from the social economic value concept of the present writer. At
the same time, the connotation of a communistic or authoritive value
must not be read into the term. It is, in its formal and logical
aspects, really the most common of all the value notions, and may, best
of all perhaps, be translated simply "value," or "economic value," or
"absolute value." But for the present discussion, we shall call it
"public economic value.") This public economic value, in the case of
goods, is not a mere objective relation between a good and its
price-equivalent. It is a subjective (psychological) value, like
personal value. If one wishes to call it objective value, one is using
objective in the sense of the general subjective as distinguished from
the personal individual idiosyncracy (II, p. 502). The objective
exchange value of goods (here Wieser uses "objektiver Tauschwert" as the
equivalent of his "volkswirtschaftlicher Wert" above mentioned) is the
common subjective part of the individual valuations leaving out the
remainder of individual peculiarities ("der allgemein subjective Teil
der persönlichen Wertschätzungen mit Verschweigung des individual
eigenartig empfundenen Restes").[72] Wieser does not seem to me to think
out clearly the distinction between absolute and relative value in this
connection. He wishes to get something more fundamental than a mere
relation between goods and money; he wishes a psychological phenomenon.
He wishes to have a value of goods which can be set over against the
value of money, the two, in combination, determining prices. And yet, he
wishes somehow to get these out of the prices themselves. "We must seek
a concept of the public economic value of money which, to be sure,
proceeds from the general price-level (_Preisstand_), but which excludes
from its content everything that comes purely from the value of goods"
(II, 511). To the public economic value of money, however, Wieser gives
no independent definition. The definition runs in terms of the values of
the goods. "The value of money rises when the same inner values (_innere
Werte_) of commodities are expressed in lower prices; it falls, when
they are expressed in higher prices" (II, 511-12). "Inner value" of
goods is not defined, but I take it that Wieser uses it as meaning
essentially the same thing as the public economic value already
described--an absolute value. (_Cf._ the usage of Menger and von Mises,
_infra_, in this chapter, with respect to the terms, "inner" and "outer"
value.) The definition is not strictly circular, perhaps, but at least
it is pretty empty. Nothing appears to give the value of money, as
distinct from its purchasing power, an independent standing. The reason
for this will later appear. It should be noted, however, that the
definition is not in terms of prices or purchasing power. Prices might
remain unchanged, in Wieser's scheme, and yet the value of money sink,
if the inner values of goods should sink.

The value of money, thus defined, is to be explained by marginal
utility. But money has no marginal utility of its own, it has no
subjective use-value, but only a subjective exchange value,--derived
from the use-value (marginal utility) of the commodity purchased with
the marginal dollar (II, 507-8). This subjective-exchange value of money
is the personal value of money, as distinguished from its public
economic value, and is the cause of the public economic value. The
personal value of money changes (1) with the volume of one's personal
income, (2) with the intensity of one's need for money, and (3) with
market prices. The personal value of money is directly influenced and
measured only in exchanges for consumption goods. Expenditures of other
kinds affect it only indirectly by leaving less for consumption
expenditures. The laborer always reckons with the personal value of
money, but not the business man, in his business calculations. As in the
case of goods, we pass from personal to public economic value (II, 509).
The personal value of money depends on the relation between an
individual's money income, and his real income, in terms of goods. The
public economic value of money depends on the money income of the
community as a whole, and its real income. (II, 516-18). Money income
grows faster than real income, through the extension of the money
economy. Money income is not, like real income, dependent on quantity.
The mere extension of the money economy increases the volume of money
income, lowers the personal value of money, lowers its public economic
value, and raises prices. Witness the effect on a rural community of
bringing it into the great market, where all costs are reckoned in money
and rising costs compel rising prices. Hence, there is a tendency for
the public economic value of money to sink, and this has been the
historical fact (I, II, 519-520.)

Criticism of this theory is almost superfluous. There are elements in
Wieser's discussion, not here presented, which have very considerable
importance, and which will be presented in a later chapter when the
criticism of the quantity theory is taken up. Wieser deals some heavy
blows to the quantity theory. But his constructive doctrine presents the
clearest possible case of the Austrian circle. The value of money
depends, not on its subjective use-value, its own marginal utility--it
has none. The value of money depends on its subjective value in
exchange, the marginal utility of the goods which are exchanged for it.
But these depend on prices. And prices depend, in part, on the value of
money itself! This circle, present in every form of the Austrian theory
which seeks a causal explanation of value and prices by means of
marginal utility,[73] though often less obviously present, is here quite
glaring. The distinction between volume of money income and quantity of
money is, on the other hand, an important one, and will be emphasized
when the quantity theory is taken up.[74] One further point in Wieser's
doctrine calls for comment. It is strange indeed to find an Austrian
seeing in a rise in money costs a _cause_ of a general rise in prices.
The Austrian doctrine is rather that rising money costs are
_reflections_ of rising general prices. Wieser's doctrine that the
extension of the money economy to rural regions, compelling the farmer
to reckon all his costs in money and so to raise his prices, has been
adequately criticised by von Mises, who points out that Wieser sees only
half the phenomenon; that eggs and butter are, indeed, higher in price
in the rural region when it comes into contact with the city, but that
they are correspondingly lower in the city from the same cause. On the
other hand, the doctrine of costs is not the whole point in Wieser's
notion of the extension of the money economy as a cause of higher
prices, and we shall deal with the doctrine again, in a different
connection.

By devitalizing the marginal utility theory, by stating it in such a way
that it makes no causal assertions, and in such a way that it leaves the
real value problem untouched, it is possible to free it from the circle
just pointed out. Schumpeter does so state it.

Schumpeter's theory of value,[75] though he attributes it to
Böhm-Bawerk, seems to the present writer to be essentially different.
Böhm-Bawerk undertakes to explain the value (objective value in
exchange) of each good by its _own_ marginal utility to different
individuals, buyers and sellers of the good--indeed, by its marginal
utility to _four_ individuals, the two "marginal pairs."[76] He sees at
points that the prices of other goods are sometimes factors, making
marginal utility give way to "subjective value in exchange," as the
determinant of an individual's behavior toward a given good in the
market--as in his much discussed overcoat illustration.[77] But
Böhm-Bawerk never gets out of the circle which this reaction of the
market-prices on the individual subjective values involves. Schumpeter
seems to rise to a higher conspectus picture, which, in form, avoids the
circle. His picture is that of a vast equilibrium, in which, instead of
attributing the market value of each good to its own marginal utility,
you explain the exchange ratios[78] of every good to every other good,
all at once, by reference to a total situation: _given_ the number of
goods of each class, given the number of individuals in the market,
given the _distribution_ of each class of goods among the individuals,
given the utility-_curves_ (not marginal utilities) of each good to each
individual, an equilibrium will be reached, through trading, in which
ratios between marginal utilities of each kind of good to each
individual are inversely proportional to the abstract ratios (ratios of
exchange) between the same goods, each measured in its own unit. The
ratios are abstract ratios, between pure numbers, so far as the market
ratios are concerned; the ratios in the mind of each individual are
concrete ratios, between marginal utilities. The scheme, thus stated,
says nothing as to the _causal_ relation between marginal utility and
market ratios; it merely states certain _mathematical_ relations between
each individual system of marginal utilities on the one hand, and the
abstract market ratios on the other. By avoiding _assertions_ as to
causation, it avoids a causal circle. In such a situation, marginal
utilities and market ratios are, in reality, alike resultants,
_effects_, of the given quantities of goods, distribution of goods,
numbers of buyers and sellers, and individual utility-_curves_--not
_marginal_ utilities. To this picture, one may add--what Schumpeter does
not add--the curves showing time-preferences of each individual for each
sort of good, and (an element which Schumpeter does include) the curves
of _dis_-utility for the individuals who produce each kind of good. The
system, it may be noted, is as good a proof of _real cost_ doctrine as
it is of utility doctrine.

Such a picture, I submit, avoids the circle which is presented in all
other formulations of the Austrian theory of value. I wish, however, to
indicate its limitations as a theory of value, and the impossibility of
any application of it to the problem of the value of money. (1) Its data
are inaccessible: nobody could possibly know all the utility-curves and
all the time-preference curves (and disutility of labor-curves, etc.) of
all goods to all individuals in, say, the United States. To explain
market ratios by utility-curves is a case of _ignotum per ignotius_, so
far as practical application is concerned. Moreover, the scheme is so
difficult to visualize that it is useless as a tool of thought--as one
will find who tries to think it through, without the aid of higher
mathematics, for ten goods, and ten persons, with unequal distribution
of wealth, and different utility curves, time-preference curves, and
disutility-curves for each kind of good to each individual. (2) The
scheme must assume smooth curves and infinitesimal increments in
consumption, which is a fiction so far as the individual psychology is
concerned. Without this assumption, the point-for-point correspondence
between individual and market ratios does not exist. It is only in
social-value curves, or in demand-curves in the big market (which are
social-value curves, expressed in money),[79] that you have, as a matter
of fact, the right to smooth out your curves. (3) The theory must assume
the frictionless static state, in which marginal adjustments are
perfectly accomplished, and equilibrium really reached. Without this
assumption, again the point-for-point inverse correspondence of market
ratios and individual ratios fails. But this makes it quite impossible
to apply the doctrine to any functional theory of the value of money, or
to bring money in any realistic way into the scheme. As will be shown
more fully in later chapters, money functions in bringing about just
the absence of friction which static theory assumes. That is what money
is _for_. The functional theory of money, therefore, cannot abstract
from friction and dynamic change.[80] It is, of course, possible, on
this scheme to pick out any one of the goods in the system, say the
1-1000th part of a horse, call it the "money-unit," and determine a set
of money-prices. These "money-prices" are already given in the scheme in
the ratios between the abstract numbers of this unit and the abstract
numbers of the units of all other goods. But this is meaningless, so far
as a theory of money is concerned. It abstracts entirely from the
_differences_ in _salability_[81] of goods, on which the theory of money
must rest. It gives us no clue to that part of the value of the
money-article which comes from its money-functions.

(4) The theory has no bearing on the problems of supply and demand.
Demand-curves are curves, not of utility, but of money-prices. They are
concerned, not with a _system_ of ratios among goods in general, but
with the absolute money-prices of particular goods, one at a time. The
modern demand-curves and supply-curves, representing the demand and
supply doctrine first made precise by J. S. Mill,[82] are concerned with
the money-prices of particular goods, and the "equation of supply and
demand"--amount supplied and amount demanded--gives an equilibrium in
which only one price is determined. Austrian theory, in Böhm-Bawerk's
hands, and in the hands of practically all adherents of the Austrian
School, including Davenport,[83] has been offered as really bearing on
the explanation of demand, and as giving a psychological account and
explanation of the demand-curve. The scheme of Schumpeter has simply no
bearing at all on this vital point. The equilibrium picture in which
_all_ goods are involved supplies no data from which to construct any of
the magnitudes above or below the margin of the demand and supply-curves
of any given good. One reason why this is so will appear from the point
made with reference to "money-prices" in the preceding paragraph. For
Schumpeter's scheme, the significance of the article chosen as "money"
would be as much a problem as anything else, when the conditions are
laid down. It would vary in the process of reaching the equilibrium. Its
ratios with all other things would, thus, fluctuate until the
equilibrium was reached. But, as we have seen, in the chapter on "Supply
and Demand," curves of supply and demand must assume a fixed
significance of the money-unit. It may be further noticed, as marking
off Schumpeter's scheme from supply and demand analysis, that in
Schumpeter's scheme, the individual is the centre of interest, and his
reactions _toward all kinds of goods_ is emphasized; whereas in supply
and demand analysis, the _good_--one good--is the centre of interest,
and the price-offers streaming toward it from all kinds of individuals
is emphasized. The two bodies of doctrine are quite distinct.

(5) The theory has no bearing on the explanation of entrepreneur
cost--money-outlay, "opportunity cost," alternative positive values, or
what not. It finds no place for the modern cost doctrine. It does not in
any way open the path to the Austrian theory of costs. Costs, for
Austrian theory, as, in general, for modern theory, are reflections of
_demand_ for the employment of the agents of production in alternative
uses. Thus, it costs a great deal to raise wheat in Illinois, because of
the rival demand for the land to produce corn. Labor costs are high in
ordinary manufacturing, because of the rival demand for labor in the
munitions factories, etc. As Schumpeter's theory can give no account of
the _demand_ for labor in the munitions factories, it follows that it
can give no account of the _cost_ of labor in the other factories.
Instead, indeed, of giving us the modern cost doctrine, we see
Schumpeter's scheme reviving the old _real cost_ doctrine, running in
terms of sacrifices in production.[84]

(6) The foregoing paragraph gives emphasis to the point with which we
started, namely, that Schumpeter's theory is not a _causal_ theory, but
merely a theory which gives mathematical relations in a static picture.
For the general theory of the Austrians, this real cost doctrine is
anathema. Values are positive. The emphasis is put on positive wants, as
_causes_ which guide and motivate industry. The _clue_ to all values is
in the values of _consumption_ goods, which are in direct contact with
the utilities which are the source of value. From the values of
consumption goods, we _derive_ the values of production goods, labor,
etc., which are goods of "second, third and fourth _ranks_" and whose
values are merely reflected from the causal marginal utilities of the
consumption goods they are destined to create. None of this causation is
brought into Schumpeter's conspectus picture. On the contrary, with the
bringing in of disutility of production, we have the doctrine of the
earlier English School revived. The equilibrium picture is as good a
proof of the one theory as of the other. If we assume the utility-curves
constant, and allow the cost-curves to vary, then causation would be
initiated by the cost-curves.[85]

(7) Such an equilibrium picture leaves untouched the vital question
which any theory must answer which means to be of practical use in
concrete situations: what are the real _variables_ in the situation, and
what factors are constant? What causes are _likely_ to produce changes
in market prices? The individual-utility curves, which in Austrian
theory are commonly treated as the only variables, except quantities of
goods,--in the strict static picture there are no variables at all!--are
really, when conceived of as individual, as growing out of the mental
processes of each individual separately, the most _constant_ factor in
the situation. For, on the principle of the inertia of large numbers,
each unit of which is moved by its own peculiar causes, changes in the
utility-curves of one man will be offset by opposite changes in the
utility-curves of another, and so the general system will remain much
where it was. Of course, if a rich man changes his curve, a poor man's
change will not offset it in the market, but this is to emphasize the
_distribution of wealth_ rather than the utility-curves. It is only when
you get changes of a sort that the individualistic psychology, and the
"pure economic" explanation factors, of the Austrians find no place for,
that you can predict a change in the general price-system. It is only
changes in fashion or mode, in general business confidence,[86] in moral
attitude toward this or the other sort of consumption or production, in
the distribution of wealth, changes in taxes and other laws--causes of a
general social character--that you can count on to produce important
changes in values. Of course, changes in the adequacies of supplies
would be taken account of on either interpretation.

(8) The scheme under consideration gives no value concept which the
economist can make any particular use of. It gives only ratios between
marginal utilities in the mind of the same individual, and abstract
market ratios. It gives no _quantitative_ value, which can be attributed
to goods as a quality,[87] a homogeneous quality of wealth by means of
which diverse sorts of wealth may be compared, funded, etc. Such a
concept is, however, necessary for the economic analysis, and Schumpeter
is driven to creating substitutes for it of various sorts, notably
_Kaufkraft_ and _Kapital_. _Kaufkraft_, as Schumpeter uses the term, is
not derived from marginal utility, but is an abstraction from the idea
of money. It is not a quantity of money alone, nor even of money and
credit, but is a fund of "abstract power," which depends not alone on
the quantity of money and credit in which it is embodied, but also on
the prices of goods.[88] This _Kaufkraft_ is needed to give the causal
"steam," the "motivating power," which the social value concept
connotes, but which ratios in the market lack. Similarly, _Kapital_ is
conceived of as an agent, a dynamic force, distinguished from
accumulations of concrete productive instruments, by means of which the
entrepreneur gets control of land, labor and instrumental goods.[89]
Other functions of the quantitative value are shouldered on a
hard-worked and unusually defined concept, _Kredit_, which leads
Schumpeter into certain "heresies"[90] regarding credit, which are
mostly harmless in themselves, but which will arouse misunderstanding
and opposition. "_Præter necessitatem entia non multiplicanda sunt_,"
and the social value concept, which covers by inclusion the notion of
market ratio--market ratios being ratios between social values--and
which does all the work that Schumpeter attributes to _Kapital_ and
_Kaufkraft_, and most of the new work which he attributes to _Kredit_,
is to be preferred,[91] if only on grounds of intellectual economy.
"Capital" is then saved for more usual meanings, and economy in
terminology is also effected. Schumpeter also departs, as shown, from
the abstract market ratio notion in erecting a causal theory of value,
in which "marginal utility" is used as the equivalent of a quantitative
value, and is traced by the Austrian imputation process back to the
original factors of production. He even speaks of labor as having
"utility," whereas labor,[92] unless used in domestic service, has, not
utility, but only value.

In the marginal utility scheme above outlined there is no place
for money, on the assumptions laid down. It is a scheme of barter
relations. The utilities which come into equilibrium are not
subjective-exchange-values, which, as Schumpeter, with Wieser, contends,
are the only subjective values money has, but are real subjective use
values--marginal utilities. The scheme, assuming as it does, perfect
exchangeability of all goods, with infinitesimal increments in
consumption, has no place for money. There really is no money service to
be performed. Schumpeter, indeed, speaks of money as a mere "Schleier,"
which does not touch the essence of the phenomena, and such it is on his
assumptions. In a similar situation, Professor Irving Fisher gives up
the effort to find a psychological explanation of the value of
money,[93] and offers the quantity theory as a mechanical principle,
additional to the psychological barter scheme. Schumpeter, however, does
lip service still to the need for a psychological explanation. His
answer runs in Wieser's terms--indeed, he attributes it to Wieser. The
_Preis_ of money[94]--Schumpeter does not use Wieser's absolute value
concept, but lets his value of money run in purely relative terms--the
price of money in goods depends on the subjective value of money. This
subjective value of money rests on the experience of each individual in
making purchases--rests on the prices of consumption goods, determined
by the relation between real income and money income. The circle is as
clear as day.

Ludwig von Mises sees this circle, and tries to avoid it. In von Mises
there seem to me to be very noteworthy clarity and power. His _Theorie
des Geldes und der Umlaufsmittel_ is an exceptionally excellent book.
Von Mises has a very wide knowledge of the literature of the theory of
money. He has a keen insight into the difficulties involved. He
recognizes fully that, so far, the utility school has failed to solve
the problem (119-120). His theory is as follows: Individual valuations
(93) constitute the basis of the objective exchange value of money. But
while for other goods, subjective use-value and subjective
exchange-value are different concepts, for money the two coincide, and
both rest on the objective value of money (94). This seems to be our old
circle in unmistakable form, but Mises thinks he has an escape, as will
later appear. No function of money is thinkable which does not rest on
its objective exchange value. The subjective value of money rests on the
subjective use-values of the goods for which it can be exchanged (95).
Money, at the beginning of its money-functioning, must have objective
exchange value from other causes than its money-function, but it can
remain valuable, even though these causes fall away, exclusively through
its function as general instrument of exchange (111). He gives no
argument in support of this contention, but refers with approval to
Wieser (_loc. cit._), and to Simmel (_Philosophie des Geldes_, 115ff.).
Hence, the important consequence that in the value of money of to-day a
historical component is contained. Herein is to be found a fundamental
contrast between the value of money and the values of other goods
(119-120.). The individual valuation of money rests on the objective
exchange value of money of _yesterday_. This individual value of money
is the explanation, on the money side, of the objective value of money
of to-day. Going back, step by step, you come ultimately to the
subjective use-value of the money-stuff in its non-monetary
employment--a temporal _regressus_. This opens the way to a theory of
the value of money based on marginal utility. This avoids the circle of
explaining the objective value of money of to-day by the subjective
exchange value of money of to-day, which in turn rests on the
contemporary objective value of money.

I find this particularly interesting, since it employs a device which
had once suggested itself to me as a means of escape from the Austrian
circle, but which reflection led me to abandon. I have discussed the
whole matter in my _Social Value_, and therefore venture a quotation
from that book.[95]

"How are we to get out of our circle:[96] The value of a good, A,
depends, in part, upon the value embodied in the goods, B, C, and D,
possessed by the persons for whom good A has 'utility,' and whose
'effective demand' is a _sine qua non_ of A's value? The most convenient
point of departure seems to be the simple situation which Wieser has
assumed in his _Natural Value._[97] Here the 'artificial' complications
due to private property and to the difference between rich and poor are
gone, and only 'marginal utility' is left as a regulator of values. But
what about value in a situation where there are differences in
'purchasing power'? How assimilate the one situation to the other?

"A _temporal regressus_, back to the first piece of wealth, which, we
might assume, depended for its value solely upon the facts of utility
and scarcity, and the existence of which furnished the first 'purchasing
power' that upset the order of 'natural value,' might be interesting,
but certainly would not be convincing. In the first place, there is no
unbroken sequence of uninterrupted economic causation from that far away
hypothetical day to the present, in the course of which that original
quantity of value has exerted its influence. The present situation does
not differ from Wieser's situation simply in the fact that some, more
provident than others, have saved where others have consumed, have been
industrious where others have been idle, and so have accumulated a
surplus of value, which, used to back their desires, makes the wants of
the industrious and provident count for more than the wants of others.
And even if these were the only differences, it is to be noted that
private property has somehow crept in in the interval, for Wieser's was
a communistic society. And further, an emotion felt ten thousand years
ago could scarcely have any very direct or certain quantitative
connection with value in the market to-day. Even if there had been no
'disturbing factors' of a non-economic sort, the process of 'economic
causation' could not have carried a value so far. It is the living
emotion that counts! Values depend every moment upon the force of live
minds, and need to be constantly renewed. And there would have been, of
course, many 'non-economic' disturbances, wars and robberies, frauds and
benevolences, political and religious changes--a host of historical
occurrences affecting the weight of different elements in society in a
way that, by historical methods, it is impossible to treat
quantitatively.[98]

"What is called for is, not a temporal _regressus_, which, starting with
an hypothesis, picks up abstractions by the way, and tries to synthesize
them into a concrete reality of to-day, but rather, a _logical analysis_
of existing psychic forces, which shall abstract from the concrete
social situation the phases that are most significant. This method will
not give us the whole story either. Value will not be completely
explained by the phases we pick out. But then, we shall be aware of the
fact, and we shall know that the other phases are there, ready to be
picked out as they are needed for further refinement of the theory, as
new problems call for further refinement. And, indeed, we shall include
them in our theory, under a lump name, namely, the rest of the
'presuppositions' of value.

"Our reason for choosing a logical analysis of existing psychic forces
instead of a temporal _regressus_--instead, even, of an accurate
historical study of the past--is a two-fold one: first, we wish to
coördinate the new factors we are to emphasize with factors already
recognized, and to emerge with a value concept which shall serve the
economists in the accustomed way--it is illogical to mix a logical
analysis with a temporal _regressus_. But, more fundamental than this
logical point, is this: the forces which have historically _begot_ a
social situation are not, necessarily, the forces which _sustain_ it.
The rule doubtless is that new institutions have to win their way
against an opposition which grows simply out of the fact that we are,
through mental inertia, wedded to what is old and familiar. We resist
the new _as_ the new. Even those who are most disposed to innovate are
still conservative, with reference to propaganda that they themselves
are not concerned with. The great mass of activities of all men, even
the most progressive, are rooted in habit, and resist change. When,
however, a new value has won its way, has become familiar and
established, the very forces which once opposed it now become its surest
support. Or, waiving this unreflecting inertia of society, as things
become actualized they are seen in new relations. What, prior to
experiment, we thought might harm us, we find beneficial after it has
been tried, and so support it--or the reverse may be true. The psychic
forces maintaining and controlling a social situation, therefore, are
not necessarily the ones which historically brought it into being."[99]

Since the foregoing was written, I have found that another theorist,
Professor Alvin S. Johnson, had also given consideration to the same
idea, as a means of escape from the Austrian circle. Professor Johnson
refers to the notion briefly in his review of _Social Value_ (_Am. Econ.
Rev._, June, 1912, p. 322), holding that the doctrine is logically
tenable, though rejecting it on psychological grounds. "The value of a
thing newly created can be explained only with reference to values
antecedently existing." That there is a continuity in the value system,
as in the whole social-mental life of men, I should be the last to deny.
But it is not the antecedently existing values, _as_ antecedently
existing, that give value to the new piece of wealth. The antecedent
values function only as _persisting_, as _contemporary_ social forces.
We do not find the motivating power of existing values in the ashes of
burnt out desire! It seems to me very essential to distinguish the two
methods of approach to the problem. It is possible to state a historical
sequence--if you know it,--showing how values have historically come and
gone. But for an equilibrium picture, of the sort that our price theory
demands, where there is a mechanical balancing of contemporary factors
(as in Marshall's balls in the bowl illustration), such an account is of
no use. Existing social forces have their history. But, at a given
moment, they are what they are, and what they _were_ at a different time
adds no ounce of weight to the power they now exert. If a quantitative
account of value is called for--and price-theory is essentially
concerned with the measurement of values--we must bring measure and
measured into contemporary balance. The historical account is one
thing; the cross-section analysis is another. "Static theory" is a
mechanical abstraction from the organic cross-section picture, which, by
making it superficial, is able to make it exact.

It seems to me that this distinction must be kept clear if progress in
the science is to be made. At every point, divergent conclusions are
reached if the two view-points are merged. The distinction between
statics and dynamics is, in a general way, the same as the distinction
here made between the historical and the cross-section view. It is no
answer to the Ricardian theory of land-rent for Carey to point out that
historically, in new countries, the uplands are cultivated first, and
the more fertile river-valleys later. Ricardo is talking about statics,
and Carey about dynamics. Carey does not answer Ricardo, because he is
talking about a different problem. The utility theorist especially has
no right to leave the static view-point. All the elementary laws on
which the utility theory is based are static laws. The law of satiety,
of diminishing utility, is a static law, and the utility theorists are
careful to point out that it holds only for an individual at a given
time. It rests on nerve fatigue. Give the nerve time to rest, and
utility does not sink. On the contrary, the dynamic law of wants is that
wants expand. As old wants are satisfied, new wants arise, so that, in
the course of time, _marginal_ utilities do not sink--the competition of
new wants forces up the margins of the old wants. Moreover, with time,
tastes change, habits are formed, and the same wants may grow more
intense--as in the case of olives or whiskey. All this has been seen by
the creators of the utility theory. Thus, Wieser: "The want as a whole
of course retains its strength so long as a man retains his health;
satisfaction does not weaken but rather stimulates it, by constantly
contributing to its development, and, particularly, by giving rise to a
desire for variety. It is otherwise with the separate sensations of the
want. These are narrowly limited both in point of time and in point of
matter. Anyone who has just taken a certain quantity of food of a
certain kind will not immediately have the same strength of desire for a
similar quantity. Within any single period of want every additional act
of satisfaction will be estimated less highly than a preceding one
obtained from a quantity of goods equal in kind and amount." (_Natural
Value_, p. 9.) A similar statement is in Taussig's _Principles_ (I,
124), "In such cases, however, the tastes of the purchasers may be said
to have changed in the interval. At any given stage of taste and
popularity, the principle of diminishing utility will apply."
Illustrations could be multiplied.

It is true that _future_ marginal utilities come into the utility theory
scheme, but they come in, not as future utilities, but as "_present
worths_" of future utilities, or as "present anticipated feelings" in
Jevons' phrase[100] suffering a discount, usually, in the process. But I
am not aware of any writer among the founders of the utility school, who
has sought to bring past utilities into the scheme. The past is dead.
Its effects persist in the present only in present processes. A _memory_
is a _present_ psychological fact.

Consider further. Is it the prices of yesterday that determine the
subjective value of money to an individual, if the prices of yesterday
are different from the prices of to-day, _and the individual knows it_?
In so far as we have the clear, intelligent economic mind, seeking its
interests--and the marginal utility theory assumes this type of
mind--the tendency is to bring all the factors in the problem into the
present. If prices change slowly, so that the individual can count on
essentially the same situation to-day that he had yesterday, doubtless
he will not take the trouble to recast his value system. There is a
tremendous lot of trouble in bringing about, in the individual's mind,
the rational equilibration of values--trouble which the Austrian theory
commonly abstracts from, but which should be recognized in the analysis,
and accorded its own marginal significance in the scale. To throw the
emphasis on inertia, however, and to assume that men do not readjust
their margins to meet changed conditions, is to depart from the
fundamentals of the Austrian theory. If the price-situation is a rapidly
changing one, men do rapidly readjust their estimates of money. If money
is fluctuating rapidly in value--as, say, during a time when there is
depreciated paper money, whose future depends on military events, the
adjustments may be very rapid indeed. I quote the following from the
news columns of the _New York Times_, of April 4, 1914, p. 2: "Jaurez,
Mexico, Apr. 3.--After the hysterical outbursts last night that greeted
the news of the fall of Torreon, this city was preternaturally calm
to-day.... The silent gentleman with the dyed mustache who spins the
marble at the roulette wheel in the Jaurez Monte Carlo, conducted by
Villa's officers for the benefit of the rebel treasury, seemed the only
person who was not excited. When the crowd of players suddenly deserted
him on the sound of the bugle call of victory, he gave the marble
another whirl from sheer force of habit, but none returned.... In an
hour, however, play was faster and more furious than ever, for holders
of Constitutionalist money early realized that their currency had
suddenly increased in value, and that they were somewhat richer than
before." I do not question the fact, however, that men are slow in
making calculations, and that society is often unconscious of changed
conditions, and often readjusts less rapidly than occasion requires.
There is a vast deal of inertia, of blind habit, of custom, etc. But
emphasis on these factors is not marginal utility theory! Factors like
these are emphasized by a functional psychology, and by a social
psychology--not by an individualistic psychology which rests on the
assumption of rational calculation. It is not _past_ utilities that
explain present subjective values of money when these subjective values
are out of harmony with the present market facts, but rather _present_
habits, present customs, present disinclination to readjust, etc. There
is a big difference, psychologically, between the mental processes
through which one arrived at one's present state of mind, and the
present state of mind itself. The original "commodity utility" of the
money metal, in the far away time before the money use affected its
value, is surely no longer a factor. Certainly not on the basis of an
individualistic psychology of the Austrian type. All the individuals who
experienced that original utility are long since dead! Not even memories
of the original utilities persist.

When writing the passage in _Social Value_, quoted above, I did not
suppose that I was dealing with a notion that anyone else would ever
take seriously. My purpose in discussing it was chiefly to throw into
sharp relief the contrast between the historical and the cross-section
viewpoints, and to make clear that my own theory was based on analysis
of existing psychological forces. Since finding, however, that two
writers for whose views I have so much respect have independently
developed the same idea, and have taken it seriously, I have felt it
worth while to give it this extended consideration.

Von Mises, like Wieser, needs an absolute value of money in his
thinking. He does not call the concept by that name, but, following
Menger[101] speaks of the "inner objective value of money" and the
"outer objective value of money." (Mises, p. 132.) The latter is the
purchasing power of money, a relative concept, exactly expressed in the
price-level. The inner objective value of money is designed to cover the
causes of changes in prices which originate on the money-side of the
price relation alone.[102] This inner objective value of money performs
the same logical function in the theory of money that the absolute
social value concept of the present writer does, even though the
psychological explanation lying behind it is very different.

Von Mises considers the quantity theory at length, noting a number of
defects in it, chief of which is the fact that it has no psychological
theory of value behind it, that it does not account for the _existence_
of the value of money, and at most gives a law for _changes_ in a value
whose existence is taken for granted. The details of this criticism,
however, need not be here presented. The quantity theory is to be
treated in detail at a later point of our study.

The writer who has most definitely stated the relation of utility to the
functions of money, is David Kinley (_Money_, ch. viii). He would
explain the value of money, by (a) its utility as a commodity, and (b)
its utility in the money-employment, the employments reaching a marginal
equilibrium. The utility of the money metal in its commodity use calls
for no analysis. But what is meant by the utility of money as money?
Where the writers so far discussed have denied that money as money has
any utility, Dean Kinley finds a utility in the money-function itself:
money facilitates exchange, and exchange, by transferring goods from
those who do not need them to those who do need them, increases the
utility of those goods. Money, as money, thus produces utility.[103] The
utility of money is the extra utility which comes into being by virtue
of its use, as compared with what would exist in a state of barter. The
marginal utility of money is the utility of money in the marginal
exchange--the exchange which would be effected by means of barter if
money were any more difficult to procure. The marginal utility of money,
then, is not the whole of the marginal utility of the good for which it
is exchanged, but rather is the differential part of that utility which
is created by means of the use of money in exchange. The marginal
utility of money, thus, appears in separate services of money. Money is
a durable good, which gives forth its services bit by bit. The value of
money is based on these separate services, it is "the capitalized value
of the service rendered in the marginal exchange."

This conception is, it seems to me, much truer to the spirit of the
general marginal utility theory than the theories of Wieser, Schumpeter,
or von Mises. If the utility theory at large were valid, the application
here would be valid. To Dean Kinley's conception of a marginal utility
of the money service, I offer simply the objections which I offer to the
utility theory at large--objections indicated in what has gone before,
and in my _Social Value_. The application of the capitalization theory
to the value of money I have already discussed in a previous chapter,
and shall again consider in the chapter on "The Functions of Money."

I conclude that the marginal utility theory has not solved the problem
of the value of money. The reason, however, is simply that it has not
solved the general problem of value. The marginal utility theory, in so
far as it seeks to make marginal utility the _cause_ of value, is
circular. The effect of a given man's wants upon the value of the goods
he wants depends, not on the marginal intensity of those wants alone--a
penniless prisoner may desire a marble palace ever so intensely without
affecting its value--but also upon the value of the wealth possessed by
the individual who experiences the wants. But this is to explain value,
not by marginal utility alone, but by value as well--a circle. Or, if we
leave the standpoint of absolute values, and look at the matter in terms
of prices, the same situation presents itself. The price which an
individual is willing to pay for a good depends on his income,--which
commonly rests on prices--and on the prices he has to pay for other
goods which enter into his budget. His price-offer, expressive of the
marginal utility of a horse to him, is made with consideration of the
price of a buggy, of harness, of feed, of the wages of the servant who
cares for the horse, the price of a barn, and of the other things that
the possession of the horse involves. And not these alone: less
immediately, but still vitally, his whole budget enters. Higher prices
for theatre tickets or for food or for clothing will reduce his
price-offer for a horse. Further, his price-offer for the horse will be
tremendously influenced by his opinion as to the permanent market price
of horses. He will not be willing to pay a price for the horse which he
cannot expect to get back if he should decide later to sell the horse.
The direct influence of market price on individual demand-price is very
great indeed. Marginal utility (subjective use-value) very frequently
gives place to subjective value-in-exchange in the determination of an
individual's marginal demand-price--which means that the market controls
the individual instead of the individual controlling the market. With
sellers, it is _generally_ subjective-exchange-value, rather than
marginal utility, that determines supply-price-offer. The sellers, in so
far as they are producers, have little need for the great mass of their
stocks. They will sell them, rather than keep them, at almost any price.
The reason they ask high prices is simply that they think the market
will give them the high prices. The individual price-offers, in the
aggregate therefore, presuppose the whole market situation--presuppose a
general value and price system already fixed and determined. Each
individual price offer presupposes many other prices, though not, of
course, the whole market. Since, then, much of the market situation is
assumed in the determination of each particular price, by the Austrian
method, it is obviously circular reasoning to think that the
determination of each price separately by this method will supply data
for a summary of the market situation as a whole. In the one form in
which the utility theory avoids a circle,--that presented by Schumpeter,
and discussed in an earlier part of this chapter--it is not a causal
theory. Marginal utility is not a cause of market prices, but rather,
marginal utilities and market prices are alike resultants, effects, of
more fundamental factors. No writer[104] who has presented the utility
theory in this form has tried to apply it to the value of money, and
even if it could be so applied, it would not give a causal explanation
of the value of money in terms of marginal utility. In most of the
efforts to apply the utility theory to money, the circle becomes so
obvious that one marvels that able theorists should for a moment fail to
see it.





PART II. THE QUANTITY THEORY




CHAPTER VI

THE QUANTITY THEORY OF PRICES. INTRODUCTION


The quantity theory, in its usual formulations, is a theory, not of the
value of money, in the absolute sense of value, but of the general
price-level, the average price of goods exchanged for money. It is not a
psychological theory. It does not deal with psychological quantities, or
psychological forces. It is a mechanical theory, concerned simply with
quantities, and the relations between them. The essence of the quantity
theory comes out in the following brief statement: given a number of
units of money; given a number of units of goods to be exchanged; assume
these two numbers to be independent[105] of each other; assume all the
goods to be exchanged for all the money; then the average price will be
a simple function of the quantities of goods and of money respectively,
such that an increase in the amount of money will increase the average
price per unit of goods proportionately, if goods remain unchanged in
amount, or an increase in goods will lower the price per unit
proportionately, money being assumed to remain unchanged in amount. The
qualification is commonly added that if goods have to be exchanged more
than once, the effect is the same on prices as if there were an added
number of goods equal to the added number of exchanges, and that if
money is used more than once in exchanging a given number of goods, the
effect is the same as if there were proportionately more money. Both
quantity of goods and quantity of money are commonly defined as actual
quantity multiplied by "rapidity of circulation." Rapidity of
circulation, however, for both money and goods, is commonly thought of
as a constant, so that the original formula remains unaffected by the
qualification, so far as a prediction as to the effect of increase or
decrease of money or goods on prices is concerned. Involved in the
quantity theory, and explicitly stated by many writers, is the doctrine
that the substance of which money is made is irrelevant, that it is the
number, and not the quality or size of the money-units that counts. "In
short, the quantity theory asserts that (provided velocity of
circulation and volume of trade are unchanged) if we increase the
_number_ of dollars, whether by renaming coins, or by debasing coins, or
by increasing coinage, or by any other means, prices will be increased
in the same proportion. It is the number, and not the weight, that is
essential. This fact needs great emphasis. It is a fact which
differentiates money from all other goods and explains the peculiar
manner in which its purchasing power is related to other goods. Sugar,
for instance, has a specific desirability dependent on its quantity in
pounds. Money has no such quality. The value of sugar depends on its
_actual quantity_. If the quantity of sugar is changed from 1,000,000
pounds to 1,000,000 hundredweight, it does not follow that a
hundredweight will have the value previously possessed by a pound. But
if money in circulation is changed from 1,000,000 units of one weight to
1,000,000 units of another weight, the value of each unit will remain
unchanged." (Irving Fisher, _Purchasing Power of Money_, pp. 31-32.) To
the same effect is Nicholson's exposition, in which the money is assumed
to consist of dodo-bones, the most useless substance that Nicholson
could think of. For the quantity theory, prices are determined by the
_numbers_ of goods and dollars that are to be exchanged for one another,
and not by the _values_ of the goods and dollars;--indeed, for the
quantity theory, "value" commonly has no meaning apart from the prices
which are supposed to be adequately explained by the mechanical
relations of numbers.

In the critical study which follows, virtually every doctrine and every
assumption of this preliminary statement will be challenged. I shall
deny, first, that the quantity of goods to be exchanged and the quantity
of money to be exchanged for the goods, are independent quantities,
maintaining, rather, that an increase in either of them tends normally
to be accompanied by an increase in the other. Quantity of goods and
quantity of money _exchanged_ are not simple physical stocks, given
data. Rather, they are consequences of human choices and human
relationships, and vary from a large number of highly complex
psychological causes, many of which are common to both. I shall deny,
second, that "rapidity of circulation," either of goods or of money, is
a simple constant, independent of quantity of goods or of quantity of
money. I shall maintain, rather, that rapidity of circulation of money
is a phenomenon which calls for psychological explanation: that the
rapidity of money really means the _activities of men_; that these
activities are complex, and obey no simple law; that instead of being an
independent factor, constant, in the situation, the rapidity of
circulation of money is bound up with the quantity of money, the
quantity of goods to be exchanged, the rapidity of circulation of goods,
and the prices of the goods, and that the rapidity of circulation of
goods is likewise causally dependent on the factors named--or better, on
the causes which control them; that rapidity of circulation, whether of
money or of goods, is not a causal factor independent of prices, but
rather in part depends on prices. In the third place, I deny the
doctrine that the question as to _what_ the money-unit is made of is
irrelevant. On the contrary, I shall maintain that the _quality_ of
money, rather than its quantity, is the determining factor. I shall not
maintain that only money made of or redeemable in valuable bullion can
circulate, nor shall I maintain that the value of money depends wholly
on the value of its bullion content when money is made of valuable
metal. I recognize that value can come from other sources. But I shall
maintain that value from some source other than the monetary employment
is an essential precondition of the monetary employment, even though
recognizing that that monetary employment may, in a way later to be
analyzed, add to the original value of the money. The doctrine that only
physical quantities, or abstract numbers, of goods are relevant I shall
challenge especially, maintaining, on the contrary, that the
psychological significances, the values, of goods are the really
important thing, so that an increase in the number of one sort of goods
may have a very different effect on the average of prices from an
increase of the same number of units of some other good, and so that an
increase in the number of goods exchanged under one set of conditions
may have a very different effect on prices--or may be accompanied by a
very different movement in prices, for the question of causal relations
is a complicated one--from the change in prices that might accompany the
same increase in the amount exchanged of same goods under other
circumstances. Finally, the doctrine of the quantity theory that the
price-level is a passive result of the other factors named: quantities
of goods and money, and their respective velocities; that prices cannot
initiate a change in the situation, will also be challenged. I shall
undertake to show that the first change in the situation may appear in
prices themselves, and that the quantities of goods exchanged, and of
money, and their velocities, may then be altered to correspond with the
change in prices.

I shall further maintain, as against the whole spirit of the quantity
theory, that it does not seize hold of essentials in the causes lying
behind prices. I shall contend that the factors with which it deals,
instead of being independent _foci_ to which converge the causes
governing the price-level, and through which causation flows in one
direction, are really not true "factors" at all, but rather are blanket
names for highly complex and heterogeneous groups of facts concerning
which few general statements are possible. Quantity of goods exchanged,
for example, may be in some of its parts caused by rising prices, in
others of its parts may be causing falling prices and is chiefly caused
by _fluctuating_ prices. The net change in prices in this case is not
the result of any one movement from "quantity of goods" as a whole.
Changes in the price-level are not one result, but rather, are the
mathematician's average of many changes, due to a host of causes, in
many individual prices. The quantity theory is an effort to simplify
phenomena highly complex. Of course, the simplification of complex
phenomena in thought is a laudable scientific goal, but when the
simplification goes so far as to group things only superficially
related, and to leave out the really vital elements, it is worthless.
Value theory, with all the value left out, is like Hamlet with no actor
for the title rôle. Simplification in the explanation of general prices
has gone as far as we can legitimately take it when we seek to summarize
all the factors involved in the _foci_ of, on the one hand, the value of
money, and, on the other hand, the values of the particular goods. The
general price-level is an average of many concrete prices. Each of these
individual prices has a concrete causal explanation. The _general_
price-level has, not a few simple causes, but an infinite host of
causes. Indeed, the general price-level has no real existence. It is a
convenient mathematical concept, by means of which we may summarize the
multitude of concrete facts. It is useful as a device for measuring
changes in the value of money, on the assumption that changes in the
values of goods neutralize one another. This assumption is never
strictly true, and often is demonstrably false. The general price-level
is neither a cause nor a result. Particular prices, in general, are
results of two causes, namely, the value of money and the value of the
good in question, and particular prices may then become causes, changing
the quantity of money involved in a given set of exchanges. Neither
quantity of money, nor quantity of goods exchanged, nor rapidity of
circulation, nor general price-level is a simple, homogeneous quantity,
obeying definite laws.

I shall also undertake to show that in many important cases the quantity
theory leads to conclusions regarding the price-level which contradict
other laws of prices, notably the capitalization theory, the cost of
production doctrine, and the law of supply and demand. I have previously
pointed out that these three doctrines are inapplicable to the problem
of the value of money itself. On the assumption of a value of money,
however,--using value in the absolute sense--they are applicable to the
problem of prices, and, since the price-level is merely an average of
particular prices, they should be applicable to the problem of the
price-level also. It will be shown, in the course of the criticism which
follows, first that the quantity theory contradicts each of these
doctrines, in certain situations, and second, that in these cases, the
conclusions based on the cost theory, the supply and demand theory, and
the capitalization theory are right, and the conclusions based on the
quantity theory are wrong. It has been maintained by certain writers, as
Knut Wicksell[106] and Irving Fisher,[107] that cost of production and
supply and demand are inapplicable to the problem of the general
price-level. I shall maintain the contrary, holding that while these
doctrines are inapplicable to the problem of the _value_ of money, they
_are_ applicable to the problem of general prices, on the assumption of
a fixed value of money. By the value of money I mean its absolute[108]
value, and not--what the quantity theorists commonly mean--its
"purchasing power," or the "reciprocal of the price-level."

I shall undertake to show that no sound conclusion reached on the basis
of quantity theory reasoning is the peculiar property of the quantity
theory school; that every valid conclusion which may be based on the
quantity theory may also be deduced from the theory maintained in this
book, and, indeed, that most of them may be deduced from several other
theories of money, notably the commodity or bullionist theory. I shall
show a number of false and misleading doctrines which logically spring
from the quantity theory, and shall undertake to show that the quantity
theory fails to give an adequate basis for several important parts of
the theory of money, among them Gresham's Law, the theory of
international gold movements, and the theory of elastic bank-notes and
deposit-currency.

So much for the theses to be maintained. The detailed proof of these
contentions will best be given in connection with a critical account of
various versions of quantity theory doctrine. Attention will be given in
this summary to the expositions of Nicholson, Mill, Taussig, and
Kemmerer, and very special attention to I. Fisher, though some other
writers will also be taken into account.




CHAPTER VII

DODO-BONES


Must money have value from some source outside its money-functions? It
is a part of the quantity theory that this is unnecessary. I have cited,
in the preceding chapter, Irving Fisher and J. S. Nicholson to this
effect. Nicholson's statement is interesting and picturesque, exhibiting
the quantity theory in all the nakedness of its poverty, and I shall
present it at some length. "For simplicity," to isolate his phenomenon,
he assumes a hypothetical market, in which the following conditions
obtain: (1) No exchanges are to be made unless money (which he assumes
to consist of counters of a certain size made of dodo-bones) actually
passes from hand to hand. No credit or barter. (2) The money is to be
regarded as of no use whatever except to effect exchanges, so that it
will not be withheld for hoarding, _i. e._, will be actually in
circulation. (3) There are ten traders in the market, each with one kind
of commodity and no money, and one trader with all the money (one
hundred pieces), and no commodities. Further, let this moneyed man put
an equal estimation on all the commodities. Now let the market be opened
according to the rules laid down; then all the money will be offered
against all the goods, and, every article being assumed of equal value,
the price given for each article will be ten pieces, and the general
level of prices will be ten. It is perfectly clear that, under these
suppositions, if the amount of money had been one thousand pieces, the
price-level would have been one hundred per article, etc. Under these
very rigid assumptions, then, it is obvious that the value of money
varies exactly and inversely with the amount put into circulation.--The
rapidity of circulation he regards as coördinate, in fixing the
price-level, with the volume of money. To illustrate this, he assumes
again his hypothetical market, and "dodo-bones," assuming as before that
one merchant has all the money (one hundred pieces), and that ten have
commodities of equal value. Instead, however, of the merchant with the
money desiring all the commodities equally, he is made to desire only
the whole of that of trader one, who in turn desires the whole of number
two's stock; and so on to the ninth merchant, who wants the commodity of
number ten, _who wants the dodo-bones_. In this case, each article will
be exchanged only once, as formerly, but the money will change hands ten
times, and the price of each article will be one hundred instead of ten.
"We now see that, under these circumstances, with the same quantity of
money, and the same volume of transactions, the level of prices is ten
times as great as before, and the reason is that every piece of money is
used ten times instead of once." Whence he concludes: "The effect on
prices must be the same when, in effecting transactions, one piece of
money is used ten times as when ten pieces of money are used once."[109]

Ricardo, too, expresses the dodo-bone theory very explicitly. "If the
state charges a seigniorage for coinage, the coined piece will generally
exceed the value of the uncoined piece of metal by the whole
seigniorage, because it will require a greater quantity of labour, or,
which is the same thing, the value of the produce of a greater quantity
of labour, to procure it.

"While the state alone coins, there can be no limit to this charge of
seigniorage; for, by limiting the quantity of the coin, it can be raised
to any conceivable value. It is on this principle that paper money
circulates; the whole charge for paper money may be considered a
seigniorage. Though it has no intrinsic value, yet, by limiting its
quantity, its value is as great as an equal denomination of coin, or of
bullion in that coin."[110]

Would the dodo-bones circulate? Nicholson chose the illustration to
throw into the sharpest relief the absence of any value from a
non-monetary employment. Nobody has any use for them as dodo-bones. What
economic force is there, then, to make them circulate? Nicholson says
nothing about an _agreement_ among the traders, _assigning_ a
significance[111] to the dodo-bones, so that they might function in the
same way that poker chips do--indeed, any such notion would vitiate his
illustration, for he proposes to explain an adjustment of prices by
natural economic laws. Why then, will any of the traders give up his
valuable commodities for the worthless dodo-bones? Will you say that he
will take them, not because he wants them himself, but because he knows
that others will take them from him? But why would the others want them?
Because they in turn can unload them on still others? But this seems a
plain case of the vicious circle. It is, in effect, saying that the
dodo-bones will circulate because they will circulate. A will take them
because B will take them; B will take them because C will take them, C
because ... N will take them; N takes them because A will take
them.[112] I do not deny that if the traders used the dodo-bones as
counters, agreeing that such dodo-bones should represent some other
commodity chosen as a standard of values, that the dodo-bones would
circulate. But, in that case, they would be, not primary,
self-sustaining money, but merely representative, or token money. And
just here let me lay down two general propositions[113] respecting the
two main functions of money: to serve as a standard, or common measure,
of values, the article chosen must, as such, be valuable. The thing
measured must be either a fraction or a multiple of the unit of
measurement. But this quantitative relation can exist only between
_homogeneous_ things. The standard, or measure, of values, then, must be
like the commodities whose values it is to measure, at least to the
extent of having _value_.[114] The second proposition is respecting the
medium of exchange. The medium of exchange must also have value, or else
be a representative of something which has value. There can be no
exchange, in the economic sense--I abstract from disguised benevolences,
accidents, and frauds--without a _quid pro quo_, without value balancing
value, at least roughly, in the process. Now when it is remembered that
the intervention of the medium of exchange, taking the place of barter,
really breaks up a single exchange under the barter system into two or
more independent exchanges, and that the medium of exchange is actually
received in exchange for valuable commodities, it follows clearly that
the medium of exchange must either have value itself, or else represent
that which has value. These two propositions seem almost too obvious to
require the statement, but they contradict the quantity theory, and they
are not, on the surface, reconcilable with certain facts in the history
of inconvertible paper money. It is necessary, therefore, to state
them, and to examine further some of the phenomena which seem to
contradict them. If they are true, Nicholson's dodo-bones will perform
neither of the primary functions of money. They have no value,
_per se_--they cannot, then, measure values; they are neither valuable
nor titles to valuable things--they are not _quid pro quo_ in exchange,
and will not circulate.

I shall not pause long to discuss the doctrine that money needs no value
itself, because it is really a sort of title to, or claim on, or
representative of, goods in general. The notion, first, would not pass a
lawyer's scrutiny. There are no such indefinite legal rights. A system
of legally fixed prices, with a socialistic organization of society,
would be necessary to give it definiteness--and in such a situation
there would be no room for a quantity theory of prices! Economic goods,
as distinct from money, are not generally "fungible" to the extent that
would make them indifferent objects of legal rights. Besides, whether or
not the thing is logically thinkable, it is legally false. Legal factors
enter into the economic value of money, as will later be shown, but it
is economic, and not legal, value, which makes money circulate.
Helfferich has taken the trouble to give the notion of money as a mere
title to things in general a somewhat more fundamental analysis, and I
would refer the reader who is not satisfied by the foregoing on this
point to his discussion.[115]

I wish to make very clear precisely how much I mean by the foregoing
argument that circular reasoning is involved in saying that A will take
the dodo-bones because B will take them. The same question arises for B,
and for the others. The real question is as to the cause for any general
practice of the sort. Why should A _suppose_ that B will take them?
What could bring about such a system of social relations that a general
expectation of this sort could arise?

Kemmerer undertakes to give an answer in a hypothetical case by the
following ingenious assumption (_Money and Credit Instruments_, p. 11):
the money consists of an article which formerly had a high commodity
value, which has lately entirely disappeared, but the money continues to
circulate, through the influence of custom, and because of the demand
for a medium of exchange.

In this illustration Kemmerer recognizes the historical fact that money
has originated from some commodity which had value because of its
significance as a commodity. Historically, a great many different
commodities have served, and gold and silver finally emerged victors for
reasons which need not just now concern us. These historical facts,
coupled with the idea that value is, essentially, "something
physical,"[116] or coupled with the notion that value arises only from
marginal utility, or from labor, have been accepted by the Commodity or
Metallist School as sufficient proof that standard money is only
possible when made of some valuable commodity. Professor Laughlin seems
to think of the whole thing as depending on the value of gold bullion,
and to recognize the money-employment as a factor in affecting the value
of money only in so far as it draws gold away from the arts, and so
raises its value there by lessening the supply.[117] If money originated
in a commodity, how is it possible for the commodity value to be
withdrawn, and for money still to retain its value?

This brings us to a question I have raised before, namely, whether the
genetic, or historical account of a social situation, and the
cross-section analysis of the same situation, necessarily agree.[118] Is
it possible that when a commodity basis was necessary to start the
thing, and when even in the modern world gold bullion, interconvertible
with gold coin, remains the ultimate basis of the money-systems of all
great commercial peoples, that you could withdraw the commodity support
and keep money unchanged in value? Or could you even have any value left
at all? Now in answer, I propose to admit the possibility of so doing.
The forces which a cross-section analysis reveals are not necessarily
identical with those which a theory of origins sets forth. Once the
thing is set going, the forces of inertia favor it. A new theory, fixed
in the minds of the people, say the quantity theory itself, might give
them such confidence in their money that its value might be maintained.
A fiat of the government, making the money legal tender, supplemented by
the loyalty of the people, might keep up its value. I think there is
reason to believe that this is a source of no little importance of value
for the German paper money to-day, and, to a less extent, of the notes
of the _Banque de France_. All these possibilities I admit. Value is not
physical, but psychological. And the form of value with which we are
here concerned, economic value _par excellence_, is a phenomenon of
social, rather than individual psychology. Many and complex are the
psychical factors lying behind it. Belief, custom, law, patriotism,
particularly a network of legal relationships growing out of contracts
expressed in terms of the money in question, the policy of the state as
to receiving the money for public dues, the influence of a set of
customary or legally prescribed prices, which tie the value of money to
a certain extent to the values of goods--factors of this character can
add to the value of money, and can, conceivably, even sustain it when
the original source of value is gone. Social economic value does not
rest on marginal utility. In general, utility is essential, as one of
many conditions, before value can exist, even though the intensity of
the marginal want served by a good bears no definite relation to its
value. But in the case of the value of a money of the sort here
considered, marginal utility is in no sense a cause of the value.
Rather, the marginal utility[119] of such money to an individual is
wholly a reflection of its social value, and changes when that social
value changes. It is quite consistent with the general theory of
economic value which I have set forth in _Social Value_, for me to admit
possibilities of this kind. The value of money in such a case has become
divorced from its original presuppositions. The paper, originally
resting on a commodity basis, or the coins originally valued because
they could be transformed into non-monetary objects of value, have
become objects of value in themselves. Analogous phenomena are common
enough in the general field of values, and are less common in the field
of economic values proper than one might suppose. Thus, most moral
values tend to become independent of their presuppositions. Moral values
of modes of conduct have commonly arisen because those modes of conduct
were, or were supposed to be, advantageous in furthering other ends.
Morality, in its essence, is _teleogical_. Yet so far have the moral
ideals become ends in themselves that it is possible to have great
thinkers, like Kant and Fichte, setting them up as eternal and
unchangeable categorical imperatives, regardless of consequences. Thus
Fichte declares, "I would not tell a lie to save the universe from
destruction." Older still is the dictum, "_Fiat justitia, ruat coelum._"
Yet truth and justice, in the history of morals, and, in the view of
most moral thinkers to-day, are of value primarily because they tend to
preserve the universe from destruction, and would never have become
morally valuable had they had the other tendency! Legal values manifest
this tendency even more--one needs only to point to our vast body of
technical rules of procedure in criminal cases, which persist long after
their original function is gone, and after they have become highly
pernicious from the standpoint of the ends originally aimed at. In the
sphere of the individual psychology the phenomenon is very common. The
miser's love for money is a classical example. The housewife who so
exalts the cleanliness of her home that the home becomes an unhappy
place in which to live, is an often-described type. The man who retires
from business that he may enjoy the gains for the sake of which he
entered business often finds that the business has become a thing of
value in itself, and longs to be back in the harness, while many men,
long after economic activity is no longer necessary, continue the
struggle for its own sake. Activities arise to realize values. The value
of the activity is derived from the value aimed at. But consciousness is
economical, and memory is short. The activities become habits. The
habits gather about themselves new psychological reactions. The
interruption of habitual activities is distasteful. Life in all its
phases tends to go on of its own momentum. The activities tend to become
objects of value in themselves, whether or not their original _raison
d'être_ persist. In both the social and the individual sphere, apart
from blind inertia and mechanical habit, active interests tend to
perpetuate the old activities, whose _raison d'être_ is gone. The judge
who continues to apply the outgrown absurdities of adjective law may do
it from timidity or from being too lazy to think out the new problems
whose solution must precede readjustment to present social needs, but
the criminal lawyer who can free his guilty client by means of these
technicalities has an active interest in their perpetuation. The
individual who would readjust his conduct in the light of changed
interests finds that active opposition is met in the emotional
accompaniment of the old habits. The economic society may wish to be
free from a money whose original value is gone, but there is a powerful
debtor interest which approves of that money, and whose support tends to
maintain its value.

All these possibilities I admit. My own theory of value, which finds the
roots of economic value ramifying through the total social psychological
situation, rather than in utility or labor-pain alone, involves
possibilities like these. But--and this is a point I wish especially to
stress--we are out of the field of mechanics, and in the field of social
psychology, when we undertake to explain the value of money that way. No
longer is there any mathematical necessity about the matter. There is no
such _a priori_ simplicity as the quantity theory deals with. Factors
like these might maintain the value of money for a time, and then wane.
These factors might vary in intensity from day to day, with changing
political or other events, leading the value of money to change from day
to day, quite irrespective of changes in its quantity.[120] In so far as
you have a people ignorant of the nature of money and of monetary
problems, a people in the bonds of custom, with slightly developed
commercial life, whose economic activities run in familiar grooves
unreflectively, you will most nearly approximate a situation like that
which Professor Kemmerer assumes. But that means that what might be true
in India, or to a less degree in Austria--countries to which the
quantity theorists are accustomed to refer--need not at all be true in
the United States. Here everybody was talking about the theory of money
in 1896--not necessarily very intelligently!--and here, moreover, such
phrases as "good as gold," and propositions like that which came from
Mr. J. P. Morgan in his testimony before the Pujo Committee that "gold
is money, and nothing else," would seem to indicate that a very great
part of our people might utterly distrust such a money as Professor
Kemmerer describes. The banker's tendency to look behind for the
security, to test things out, to seek to get to bed-rock in business
affairs, holds with a great many people. An overemphasis on this is
responsible for the doctrine of Scott[121] and Laughlin[122] that the
sole source of the value of inconvertible paper money is the prospect of
redemption, and that inconvertible paper money differs from gold in
value by an amount which exactly equals the discount at the prevailing
rate of interest, with allowance for risk, for the period during which
people expect the paper money to remain unredeemed. We have not the
banker's psychology to any such extent as that. Apart from the fact that
the money function adds to the value of money, under certain
circumstances,--a point to be elaborated shortly--other, non-rational
factors, contagions of depression and enthusiasm, patriotic support,
"gold market" manipulations, etc., entered to break the working of the
credit theory of paper money as applied to the American Greenbacks. I
may here express the opinion that the credit theory is the fundamental
principle in the explanation of the value of the Greenbacks, however.
But we have not the banker's psychology to any such extent as the
extreme forms of that theory would assume. "Uncle Sam's money is good
enough for me," is a phrase I have heard from the Populists,--who, by
the way, were pretty good quantity theorists! "The government is behind
it." There are plenty of men for whom that assurance would be enough.
Indeed, the general notion that in some way, not specified, perhaps not
yet known to anybody, the government will do what is necessary to
maintain the value of its money is a ground which might well influence
even the most sophisticated banker. I think such a general confidence in
the English government has clearly been a factor in the price of
Sterling exchange since the balance of trade turned so overwhelmingly
against England in the present War.[123] Our monetary history, I may
add, has been in considerable measure a struggle between these two
opposing psychological reactions on that point. The utter breakdown of
the _fiat_ theory came in Rhode Island, and in connection with the
Continental Currency, in the days before the Constitution was adopted.
On the other hand, I do not believe that those who put a banker inside
every one of us can prove that their principle has been a complete
explanation at any stage of our monetary history. But clearly
considerations like these take away all mathematical certainty from the
matter.

The foregoing analysis makes clear, I trust, that the notion that the
money function alone can make an otherwise valueless money circulate is
untenable. There must be value from other sources as well. All that is
conceded is that there need not be a physical commodity as the basis of
the money. Value is not necessarily connected with a physical commodity.

There is a disposition on the part of many quantity theorists to beg the
question at the outset, to assume money as circulating, without
realizing how much this assumption involves. The assumption involves the
further assumption that there are _causes_ for the circulation of money.
But the same causes which make money circulate will also be factors in
the determination of the _terms_ on which it circulates, _i. e._, the
prices. To seek then, by a new principle, the quantity theory, to
explain these prices without reference to these causes, is a remarkable
procedure. There is sometimes a disposition to do the thing quite simply
indeed: define money as the circulating medium, and, _by definition_,
you have it circulating! A rather striking case of this, which is either
tautology or circular reasoning, appears in Fisher's _Purchasing Power
of Money_ (p. 129): "Take the case, for instance, of paper money. So
long as it has the _distinctive characteristic of money,--general
acceptability at its legal value_,--and is limited in quantity, its
value will ordinarily be equal to that of its legal equivalent in gold."
(Italics mine.)

It is not quite easy to construct, even ideally, a social psychology
which would perfectly fit the quantity theory. One would have to assume
that money circulates purely from habit, without any present _reason_ at
all. The assumption must be that the economic life runs in steady
grooves, so that quantity of goods exchanged will always be the same, or
at least, that it will always be the same proportion of the goods
produced--there must be no option of speculative holding out of the
market allowed the holder of exchangeable goods. The individuals must
have constant habits as to the _proportions_ of the money they receive
to be spent and to be held for emergencies. All the factors affecting
"velocity" of both money and goods must be constant--Professor Fisher
maintains very explicitly that velocities, both of money and of
bank-deposits are fixed by habit (_loc. cit._, p. 152),--and, in any
case, the assumption is necessary. A thoroughly mechanical situation
must be assumed, where there is the rule of blind habit. Given such a
mechanism, you pour in money at one end, and it grinds out prices at the
other end, automatically. But, strangely enough, in this social
situation where blind habit rules, prices are perfectly fluid! In India,
or in other countries where the assumptions of the quantity theorist
come most nearly to realization, so far as the general rule of habit is
concerned, one finds also many customary prices. In a country completely
under the rule of habit, the prices would, as a matter of
_psychological_ necessity, be also fixed. What might then be expected to
happen in such a country, if an economic experimenter should disturb
them in their habitual quantity of money? Which habits would give way,
those relating to prices, or those to velocities, or those relating to
quantities of goods exchanged?[124] I shall not trouble to solve this
problem, as it seems to me not the most useful way to approach the
problem of the value of money, but I submit it to the consideration of
advocates of the quantity theory. My present purpose is accomplished in
pointing out the psychological assumptions which the quantity theory
makes: a psychology of blind habit, in a situation where the price-level
is free from control by customary prices.

Now at another point I wish to mediate between the quantity theorists
and their extreme opponents. Representatives of the Metallist of
Commodity School--like Professor Laughlin, and Professor Scott in his
earlier writings--seem to deny that the money-employment has any direct
effect in increasing the value of money. The money-employment affects
the value of money only indirectly, by withdrawing the money metal from
the arts, so raising the value of the money metal, and consequently
raising the value of the coined metal. The quantity theory, on the other
hand, would utterly divorce the value of money from causal dependence on
the stuff of which the money is made. Both these views seem to me
extreme. Unless money has value from some source other than the money
employment, it cannot be used as money at all. Nobody will want it. On
the other hand, the money use is a valuable use. Exchange is a
productive process. Money, as a tool of exchange, enables men to create
values. And you can measure the value of the money service very easily
at a given time if you look at the short time "money-rates," _i. e._,
rates of discount on prime short term paper. These are properly to be
considered, not interest on abstract capital, but the rent of a
particular capital-good, namely, money. The money is hired for a
specific service, namely, to enable a man to get a specific profit in a
commercial transaction. Money is not the only good which can be thus
employed, and which is paid for for this purpose. Ordinarily a man will
pay for money for this purpose. Sometimes, however, one needs the
temporary use of something else more than one needs money, and the
holder of money pays a premium for the privilege of temporarily holding
the other thing. I refer especially here to the practice of "borrowing
and carrying" on the stock exchange. The "bear" sells stock which he
does not possess, and must deliver the stock before he is ready to close
his transaction by buying to "cover." He goes to a "bull" who has more
stock than he can easily "carry," and who is glad to "lend" the stock in
return for a "loan" of its equivalent in money. Ordinarily the bull is
glad to pay a price for the money, as it is of service to him.
Sometimes, however, the situation is reversed, and the service which the
temporary loan of the stock performs for the hard-pressed bears is
greater than the service which the money performs for the bulls, and the
payment is reversed. When the bull pays a premium to the bear, for the
use of the money, the amount paid is called "carrying charge," "interest
charge for carrying," "contango," (London) or (in Germany) "_Report_."
This is the usual case. But sometimes the bear pays the bull a premium
for the use of the stock, and the charge is then called "premium for
use," "backwardation," (London) or "_Deport_" (Germany).[125] Money is,
thus, not the only thing which has a "use" in addition to the ordinary
"uses" which are the primary source of its value.[126] In the case of
other things, however, this kind of "use" is unusual. In the case of
money it is the primary use. The essence of this use is to be found in
the employment of a quantum of _value_ in highly saleable form in
facilitating commercial transactions. Commercial transactions, in this
sense, are not limited to ordinary buying and selling. I think it best
to defer further analysis of the money service to a later chapter, on
the functions of money, which will best be preceded by a consideration
of the origin of money. For the present, it is enough to note that money
has certain characteristics which enable it to facilitate exchanges, and
to pay debts, better than anything else, and that this fact makes an
addition to its value. It is possible, I think, to measure this addition
to value rather precisely in certain cases. Thus, in the case of the
American Greenbacks, we find them at a discount, say from the beginning
of 1877 on, as compared with the gold dollar in which they were to be
redeemed in Jan. 1879. I think it safe to contend that the country was
practically free from doubt as to their redemption after the early part
of 1877. The discount steadily diminished as the time of redemption
approached. Laughlin's theory is thus far beautifully vindicated. The
central fact governing the value of the Greenbacks during this period
was the prospect of redemption. But, and here I think we see the
influence of the money-use, the discount was not as great as would have
been called for by the prevailing rate of interest, as measured by the
yield on other obligations of the Federal Government, at this time. And
the discount completely disappeared some little time before the actual
redemption. I see no cause for the absence of a discount in the later
months of 1878 except the additional value which came from the money
use. This additional value is, ordinarily, not very great. And money is
not alone in possessing it. In extraordinary circumstances it may become
quite large. Thus, in 1873, in the midst of the panic, the gold premium
fell sharply. At this time the significance of the Greenbacks as a legal
tender, a means of final payment of obligations (_Zahlungs_- or
_Solutions-mittel_), as distinguished from medium of exchange
(_Tauschmittel_), attained an unusual significance. In ordinary times,
the marginal value of this function of money sinks to zero, but in
emergencies it may become very great. In ordinary times, during the
Greenback period, uncoined gold bullion, or gold coin used, not as
money, but simply by weight in exchanges, played an important rôle,
competing with the Greenbacks in various employments, particularly as
bank reserves, and as secondary bank reserves, and so reducing the
marginal value of the money-employment of the Greenbacks themselves.
Gold bullion is not the only thing which can thus serve, however.
To-day, and generally, securities with a wide market, capable of being
turned quickly into cash, without loss, or capable of serving as the
basis of collateral loans, up to a high percentage of their value, have
a much higher value, for a given yield, than have other securities,
equally safe, but less well-known and less easily saleable. The
"one-house bond" (_i. e._, the bond for which only one banking house
offers a ready market) must yield a great deal more to sell at a given
price than the bond of equal security which is listed on the exchanges,
and has a wide market. Part of this is in illustration of another
function of money, the "bearer of options" function, which enables the
holder to preserve his wealth, and at the same time keep options for
increasing its amount when bargains appear in the market. Foreign
exchange performs many of these functions of money in European
countries, particularly Austria-Hungary.[127]

The notion that the whole value of gold coin rests on its bullion
content arises most easily in a situation where free coinage has long
been practiced, and where there are no legal obstacles to the melting
down of coin for other uses. Where free coinage is suspended, the
peculiar services which only money can perform--or rather, the services
which money has a differential advantage in performing--may easily lead
to an agio for coined over uncoined metal. The mere fact that coined
metal is of a definite fineness well known and attested is often of some
consequence, though the attestation of well-known jewelers may give this
advantage to metal bars as well, for large transactions. But for smaller
transactions, nothing can easily take the place of money. A high premium
on small coins, apart from redemption in standard money, may easily
arise from the money-use alone. And standard coin may well attain, in
greater or less degree, a premium. If it is scarce, as compared with the
amount of business to be done, this premium may well be greater than if
it is abundant. But that an indefinite premium is possible, or that this
premium varies exactly and inversely with the quantity, I see no reason
at all for supposing. If the premium be great enough, men, especially in
large transactions, will make use of the uncoined metal--just as they
did use gold in this country during the Greenback period. The advantages
of money are not absolute. Money is simply more convenient for many
purposes than other things. The possibility of a premium is limited by
the possibility of substitutes. It is further limited by the fact that a
high premium would awaken a distrust which would bring the premium to
destruction, by destroying trade, and so destroying the money-use on
which the premium is based.

A detailed discussion of the Indian Rupee since 1893 lies outside the
scope of this chapter. I think it may be well, however, to recognize at
this point that the limitation in the quantity of the rupee, through
abrogation of free coinage, was a factor in the subsequent rise in its
value. It was not the only factor, by any means. But it was a factor. It
may be also recognized as a factor in the value of Austrian paper money.

The doctrine just laid down, as to the influence of the money-use in
adding to the value of money, is in no sense the same as the quantity
theory. For one thing, it is easily demonstrated that the value-curve
for the uses of money is not described by the equation, _xy_ = _c_. This
curve expresses, in terms of value, the idea of proportionality which is
an essential part of the quantity theory. Put in terms of the money
market, we have a demand-curve for money, not for the long-time
possession of money, but for its temporary use--a rental, rather than a
capital value, is expressed in the price which this curve helps to
determine. This curve is highly elastic. When money-rates are low,
transactions will be undertaken which will not be undertaken when the
rate is a little higher. In the second place, the method of approach is
very different. It is not the whole volume of transactions which must
employ money, but only a flexible part. In the third place, the
money-use is here conceived of as a source, not of the whole value of
money, but only of a differential portion of that value. In the fourth
place, the argument runs in terms of the absolute value of money, and
not in terms of the level of prices.

It is not the legal peculiarity of money, as legal tender, which is
necessarily responsible for this agio when it appears. In the first
place, not all money is legal tender. In the second place, we find the
same phenomenon in connection with "bank-money" at times--I would refer
especially to the premium on the _marc banko_ of the Hamburg Girobank.
(_Cf._ Knapp, _Staatliche Theorie des Geldes_, p. 136.) The legal tender
peculiarity may, however, in special circumstances be a source of a very
considerable temporary agio.

It is possible, however, to frame a hypothetical case in which, barring
temporary emergencies, the money-use will add nothing to the value of
money, and in which the whole value of money will come from the value of
the commodity chosen as the standard of values. Assume that the standard
of value is defined as a dollar, which is further defined as 23.22
grains of pure gold. Assume, however, that no gold is coined. Let the
circulating money be made of paper. Let this paper be redeemable, not in
gold, but in silver, at the market ratio, on the day of redemption, of
silver to gold. This will mean that varying quantities of silver will be
given by the redeeming agencies for paper, but always just that amount
required to procure 23.22 grains of gold. Let us assume, further, that
the government issues paper money freely on receipt of the same amount
of silver. Assume, further, that the government bears the charges which
the friction of such a system would entail, by opening numerous centres
of issue and redemption, by providing insurance against fluctuations in
the ratio of silver to gold for a reasonable time before issue and after
redemption, meeting transportation charges, brokerage fees, etc. In such
a case, the standard of value would not be used as money at all. It
would have no greater value than it would if it were not the standard of
value--abstracting from the fact that in the one case it might be used
in its uncoined form as a substitute for money more freely than in the
other. In any case, it would form no part of the quantity of money. Its
whole value would come from its commodity significance. The value of the
paper money, however, would be tied absolutely to the value of gold. As
gold rose in value, the paper money would rise in value, and vice versa.
The quantity of money would be absolutely irrelevant as affecting its
value. The quantity of silver would be likewise irrelevant. The
causation as between quantity of money and value of money would be
exactly the reverse of that asserted by the quantity theory. A high
value of money would mean lower prices. With lower prices, less money
would be needed to carry on the business of the country. Paper would
then be superabundant. But in that case, paper would rapidly be sent in
for redemption, and the quantity of money would be reduced.[128] The
value of money would control the quantity of money. The standard of
value, which was not the medium of exchange, would control the value of
money, and so the level of prices, in so far as the level of prices is
controlled from the money side.

In this hypothetical illustration, we have the extreme case of what the
Commodity or Metallist School seems to assert. In this case, barring
temporary emergencies too acute to admit of increasing the money-supply
by the method described, their theory that the value of money comes
wholly from the commodity value of the standard, would offer a complete
explanation. I offer this illustration as the antithesis of the
dodo-bone illustration of Nicholson. That illustration sets forth the
extreme claims of the quantity theory, and purports to be a case in
which the quantity theory would work perfectly. The case illustrative of
the commodity theory clearly brings out the fact that that theory rests
on exclusive attention to the standard of value function of money. The
dodo-bone theory gives exclusive attention to, but very imperfect
analysis of, the medium of exchange function. But I submit that the
extreme case of the commodity theory, in the illustration I have given,
is a thinkable and consistent system. It would work--even though not
conveniently. Indeed, it resembles in essentials the plan actually
proposed by Aneurin Williams, and later by Professor Irving Fisher[129]
for stabilizing the value of money. Substitute a composite commodity for
gold, and gold for silver, in the illustration, and you have the
essentials of that plan. The dodo-bone hypothesis, however, as I have
been at elaborate pains to show in the foregoing, is unthinkable. It
would not work. It is, thus, possible to construct a system for which
the commodity theory would offer a complete explanation. It is not
possible to do this for the quantity theory.

But the limiting case for the commodity theory is not the actual case.
Standard money is also commonly a medium of exchange. Standard money is
particularly desirable in bank and government reserves. Its employment
in these and other ways is a valuable employment, and adds directly to
its value both as money and in the arts. There is a marginal equilibrium
between its values in the two employments. The notion that the only way
in which the money employment adds to the value of money is an indirect
one, by withdrawing gold from the arts, so lessening its supply and
raising its value there, may be proved erroneous by this consideration:
what, in that case, would determine the margin between the two
employments? What force would there be to withdraw gold from the arts at
all? Why should more rather than less be withdrawn? There must be
ascending curves on both sides of the margin. Gold money in small amount
has a high significance per unit in the money employment. A greater
amount has a smaller significance per unit. The marginal amount of gold
put to work as money has a comparatively low significance in that
employment--a significance just great enough to secure it from the
competing employments in the arts.

       *       *       *       *       *

We conclude, then, that money must have value to start with, from some
source other than the money function, and that there must always be some
source of value apart from the money function, if money is to circulate,
or to serve as money in other ways. But this is not to assert the
doctrine of the commodity school, that its value must arise from the
metal of which it is made, or in which it is expected to be redeemed.
Nor is it to deny that the money function may add to the original value.
On the contrary, the services which money performs are valuable
services, and add directly, under conditions which we shall analyze more
fully in a later chapter on the functions of money, to the value derived
from non-pecuniary sources. Value is not physical, but psychical. And
value is not bound up inseparably with labor-pain or marginal utility.




CHAPTER VIII

THE "EQUATION OF EXCHANGE"


In Professor Irving Fisher's _Purchasing Power of Money_[130] we have
the most uncompromising and rigorous statement of the quantity theory to
be found in modern economic literature. We have, too, a book which
follows the logic of the quantity theory more consistently than any
other work with which I am acquainted. The book deals with the theory
more elaborately and with more detail than any other single volume, and
sums up most of what other writers have had to say in defence of the
quantity theory. Professor Fisher's book has, moreover, received such
enthusiastic recognition from reviewers and others as to justify one in
treating it as the "official" exposition of the quantity theory. Thus,
Sir David Barbour cites Professor Fisher as the authority on whom he
relies for such justification of the theory as may be needed,[131] while
Professor A. C. Whitaker declares that he adopts "without qualification
the whole body of general monetary theory" for which Professor Fisher
stands.[132] Professor J. H. Hollander has recently referred to
Professor Fisher's work on money and prices as a model of that
combination of theory and inductive verification which constitutes real
science.[133] The _American Economic Review_ presents as an annual
feature Professor Fisher's "Equation of Exchange."

Not all, by any means, of those who would call themselves quantity
theorists would concur in Professor Fisher's version of the
doctrine--Professor Taussig, notably, introduces so many qualifications,
and admits so many exceptions, that his doctrine seems to the present
writer like Professor Fisher's chiefly in name. But there is no other
one book which could be chosen which would serve nearly as well for the
"platform" of present-day quantity theorists as _The Purchasing Power of
Money_. Partly for that reason, and partly because the book lends itself
well to critical analysis, I shall follow the outline of the book in my
further statement and criticism of the quantity theory, indicating
Professor Fisher's views, and indicating the points at which other
expositions of the quantity theory diverge from his, setting his views
in contrast with those of other writers. We shall find that this method
of discussion will furnish a convenient outline on which to present our
final criticisms of the quantity theory, and parts of the constructive
doctrine of the present book.

First, Professor Fisher presents in the baldest possible form the
dodo-bone doctrine. The quality of money is irrelevant. The sole
question of importance is as to its quantity--the number of
money-units.[134] I shall not here discuss this point, as a previous
chapter has given it extended analysis, except to repeat that it is in
fact an essential part of the quantity theory. If the _quality_ of money
is a factor, a necessary factor, to consider, then obviously we have
something which will disturb the mechanical certainty of the quantity
theory. Professor Fisher is thoroughly consistent with the spirit of his
general doctrine on this point.

Second, Professor Fisher has no absolute value in his scheme. By the
value of money he means merely its purchasing power, and by its
purchasing power he means nothing more than the fact that it does
purchase: the purchasing power of money is defined as the reciprocal of
the level of prices, "so that the study of the purchasing power of money
is identical with the study of price levels." (_Loc. cit._, p. 14.) In
this, again, Professor Fisher is absolutely true to the spirit and logic
of the quantity theory doctrine. The equilibration of numbers of goods,
and numbers of dollars, in a mechanical scheme, gives prices--an average
of prices, and nothing else. Any psychological values of goods or of
dollars would upset the mechanism, and mess things up. They are properly
left out, if one is to be happy with the quantity theory. Fisher, in
discussion of Kemmerer's _Money and Credit Instruments_, has criticised
the exposition of the utility theory of value with which Kemmerer
prefaces his exposition of the quantity theory, as "fifth wheel." I
agree thoroughly with Fisher's view in this, and would add that the only
reason that it has made Kemmerer little trouble in the development of
his quantity theory is that he has made virtually no use of it there!
The two bodies of doctrine, in Kemmerer's exposition, are kept, on the
whole, in separate chapters, well insulated. Coupled with this purely
relative conception of the value of money, however, there is, in
Fisher's scheme, an effort to get an absolute out of it: the general
price-level is declared to be independent of, and causally prior
to,[135] the particular prices of which it is an average. I mention this
remarkable doctrine here, reserving its discussion for a later
chapter.[136]

A further feature of Professor Fisher's system, to which especial
attention must be given, is the large rôle played in it by the "equation
of exchange." This device has been used by other writers before him,
notably by Newcomb, Hadley, and Kemmerer, receiving at the hands of the
last named an elaborate analysis. But Fisher, basing his work on
Kemmerer's, has made even more extensive use of the "equation of
exchange," and has given it a form which calls for special
consideration.[137] The "equation of exchange," on the face of it, makes
an exceedingly simple and obvious statement. Properly interpreted, it is
a perfectly harmless--and, in the present writer's opinion,
useless--statement. It gives rise to complications, however, as to the
meaning of the algebraic terms employed, which we shall have to study
with care. The starting point is a single exchange: a person buys 10
pounds of sugar at seven cents a pound. "This is an exchange transaction
in which 10 pounds of sugar have been regarded as equal to 70 cents, and
this fact may be expressed thus: 70 cents = 10 pounds of sugar
multiplied by 7 cents a pound. Every other sale and purchase may be
expressed similarly, and by adding them all together we get the equation
of exchange _for a certain period in a given community_."[138] The money
employed in these transactions usually serves several times, and hence
the money side of the equation is greater than the total amount of money
in circulation. In the preliminary statement of the equation of
exchange, foreign trade, and the use of anything but money in exchanges
are ignored, but later formulations of the equations are made to allow
for them. "The equation of exchange is simply the sum of the equations
involved in all individual exchanges in a year.... And in the grand
total of all exchanges for a year, the total money paid is equal in
value to the total value of the goods bought. The equation thus has a
money side and a goods side. The money side is the total money paid,
and may be considered as the product of the quantity of money multiplied
by its rapidity of circulation. The goods side is made up of the
products of quantities of goods exchanged multiplied by their respective
prices."

Letting M represent quantity of money, and V its velocity or rapidity
of circulation, p, p´, p´´, etc., the average prices for the period of
different kinds of goods, and Q, Q´, Q´´, etc., the quantities of
different kinds of goods, we get the following equation:

  MV = pQ + p´Q´ + p´´Q´´ + etc.[139]

"The right-hand side of this equation is the sum of terms of the form
pQ--a price multiplied by the quantity bought."[140] The equation may
then be written,

MV = [Greek: S] pQ (Sigma being the symbol of summation).

The equation is further simplified[141] by rewriting the right-hand
side as PT, where P is the weighted _average_ of all the
p's, and T is the _sum_ of all the Q's. "P then represents in
one magnitude the level of prices, and T represents in one
magnitude the volume of trade."

It may seem like captious triviality to raise questions and objections
thus early in the exposition of Professor Fisher's doctrine. And yet,
serious questions are to be raised. First, in what sense is there an
equality between the ten pounds of sugar and the seventy cents? Equality
exists only between _homogeneous_ things. In what sense are money and
sugar homogeneous? From my own standpoint, the answer is easy: money and
sugar are alike in that both are _valuable_, both possess the attribute
of economic social value, an absolute quality and quantity. The degree
in which each possesses this quality determines the exchange relation
between them. And the degree in which each other good possesses this
quality, taken in conjunction with the value of money, determines every
other particular price. Finally, an average of these particular prices,
each determined in this way, gives us the general price-level. The value
of the money, on the one hand, and the values of the goods on the other
hand, are both to be explained as complex social psychological forces.
But when this method of approach is used, when prices are conceived of
as the results of organic social psychological forces, there is no room
for, or occasion for, a further explanation in terms of the mechanical
equilibration of goods and money. Professor Fisher, as just shown, very
carefully excludes this and all other psychological approaches to his
problem of general prices, and has no place in his system for an
absolute value. In what sense, then, are the sugar and the money equal?
Professor Fisher says (p. 17), that the equation is an equation of
values. But what does he mean by values in this connection? Perhaps a
further question may show what he _must_ mean, if his equation is to be
intelligible. That question is regarding the meaning of T.

T, in Professor Fisher's equation, is defined as the sum of all the Q's.
But how does one sum up _pounds_ of _sugar_, _loaves_ of _bread_, _tons_
of _coal_, _yards_ of _cloth_, etc.? I find at only one place in
Professor Fisher's book an effort to answer that question, and there it
is not clear that he means to give a general answer. He needs units of Q
which shall be homogeneous when he undertakes to put concrete figures
into his equation for the purpose of comparing index numbers and
equations for successive years. "If we now add together these tons,
pounds, bushels, etc., and call this grand total so many 'units' of
commodity, we shall have a very arbitrary summation. It will make a
difference, for instance, whether we measure coal by tons or
hundred-weights. The system becomes less arbitrary if we use, as the
unit for measuring any goods, not the unit in which it is commonly sold,
but the amount which constitutes a 'dollar's worth' at some particular
year called the base year" (p. 196). If this be merely a device for the
purpose of handling index numbers, a convention to aid mensuration, we
need not, perhaps, challenge it. The unit chosen is, in that case, after
all a fixed physical quantity of goods, the amount bought with a dollar
in a given year, and remains fixed as the prices vary in subsequent
years. That it is more "philosophical" or less "arbitrary" than the more
common units is not clear, but, if it be an answer, designed merely for
the particular purpose, and not a general answer, it is aside from my
purpose to criticise it here. If, however, this is Professor Fisher's
_general_ answer to the question of the method of summing up T, if it is
to be employed in his equation when the question of _causation_, as
distinguished from _mensuration_, is involved, then it represents a
vicious circle. If T involves the price-level in its definition, then T
cannot be used as a causal factor to explain the price-level. I shall
not undertake to give an answer, where Professor Fisher himself fails to
give one, as to his meaning. I simply point out that he himself
recognizes that the summation of the Q's is arbitrary without a common
unit, and that the only common unit suggested in his book, if applied
generally, involves a vicious circle.

What, then, is T? Perhaps another question will aid us in answering
this. What does it mean to _multiply_ ten pounds of sugar by seven
cents? What sort of product results? Is the answer seventy pounds of
sugar, or seventy cents, or some new two-dimensional hybrid? One
multiplies feet by feet to get _square_ feet, and square feet by feet to
get cubic feet. But in general, the multiplication of _concrete_
quantities by _concrete_ quantities is meaningless.[142] One of the
generalizations of elementary arithmetic is that concrete quantities may
usually be multiplied, not by other concrete quantities, but rather by
_abstract_ quantities, pure numbers. Then the product has meaning: it is
a concrete quantity of the same denomination as the multiplicand. If the
Q's, then, are to be multiplied by their respective p's, the Q's must be
interpreted, not as bushels or pounds or yards of concrete goods, but
merely as abstract numbers. And T must be, not a sum of concrete goods,
but a sum of abstract numbers, and so itself an abstract number. Thus
interpreted, T is equally increased by adding a hundred papers of
pins,[143] a hundred diamonds, a hundred tons of copper, or a hundred
newspapers. This is not Professor Fisher's rendering of T, but it is the
only rendering which makes an intelligible equation.

We return, then, to the question with which we set out: in what sense is
there an equality between the two sides of Professor Fisher's equation?
The answer is as follows: on one side of the equation we have M, a
quantity of money, multiplied by V, an abstract number; on the other
side of the equation, we have P, a quantity of money, multiplied by T,
an abstract number. The product, on each side, is a _sum of money_.
These sums are equal. They are equal because they are _identical_. The
equation asserts merely that what is _paid_ is equal to what is
_received_. This proposition may require algebraic formulation, but to
the present writer it does not seem to require any formulation at all.
The contrast between the "money side" and the "goods side" of the
equation is a false one. There is no goods side. Both sides of the
equation are money sides. I repeat that this is not Professor Fisher's
interpretation of his equation. But it seems the only interpretation
which is defensible.

A further point must be made: Sigma pQ, where the Q's are interpreted as
abstract numbers, is a summary of concrete money payments, each of which
has a causal explanation, and each of which has effected a concrete
exchange. Mathematically, PT is equal to [Greek: S] pQ, just as 3 times
4 is equal to 2 times 6. But from the standpoint of the theory of
causation, a vast difference is made. Three children four feet high
equal in aggregate height two men six feet high. But the assertion of
equality between the three children and the two men represents a high
degree of abstraction, and need not be significant for any given
purpose. Similarly, the restatement of [Greek: S] pQ as PT. One might
restate [Greek: S] pQ as PT, defining P as the _sum_ (instead of the
average) of the p's, and T as the weighted average (instead of the sum)
of the Q's. Such a substitution would be equally legitimate,
mathematically, and the equation, MV = PT equally true. [Greek: S] pQ
might be factorized in an indefinite number of ways. But it is important
to note that in PT, as defined by Professor Fisher,[144] we are at three
removes from the concrete exchanges in which actual concrete causation
is focused: we have first taken, for each commodity, an average, for a
period, say a year, of the concrete prices paid for a unit of that
commodity, and multiplied that average by the abstract number of units
of that commodity sold in that year; we have then summed up all these
products into a giant aggregate, in which we have mingled hopelessly a
mass of concrete causes which actually affected the particular prices;
then, finally, we have factorized this giant composite into two numbers
which have no concrete reality, namely, an average of the averages of
the prices, and a sum of the abstract numbers of the sums of the goods
of each kind sold in a given year--a sum which exists only as a pure
number, and which, consequently, is unlikely to be a causal factor! It
may turn out that there is reason for all this, but if a _causal_ theory
is the object for which the equation of exchange is designed, a strong
presumption against its usefulness is raised. Both P and T are so highly
abstract that it is improbable that any significant statements can be
made of either of them. As concepts gain in generality and abstractness,
they lose in content; as they gain in "extension" they lose (as a rule)
in "intension." On the other side of the equation, we also look in vain
for a truly concrete factor. V, the average velocity of money for the
year, is highly abstract. It is a mathematical summary of a host of
complex activities of men. Professor Fisher thinks that V obeys fairly
simple laws, as we shall later see, but at least that point must be
demonstrated. Even M is not concrete. At a given moment, the money in
circulation is a concrete quantity, but the average for the year is
abstract, and cannot claim to be a direct causal factor, with one
uniform tendency. Of course Professor Fisher himself recognizes that his
central problem is, not to state and justify, mathematically, his
equation[145]--that is a work of supererogation, and the statistical
chapters devoted to it seem to me to be largely wasted labor. Professor
Fisher recognizes that his central problem is to establish _causal_
relations among the factors in his equation of exchange. It is from the
standpoint of its adaptability as a tool in a theory of causation that I
have been considering it. It should be noted that "volume of trade," as
frequently used, means not numbers of goods sold, but the money-price of
all the goods exchanged, or PT. It is in this sense of "trade" that
bank-clearings are supposed to be an index of volume of trade. The
sundering of the p's and Q's really is a big assumption of many of the
points at issue. Indeed, it is absolutely impossible to sunder PT. It is
always the p aspect of the thing that is significant, Fisher himself
finally interprets T, statistically, as billions of _dollars_.[146] As a
matter of mathematical necessity, either P must be defined in terms of T
or T defined in terms of P. The V's and M and M´ may be independently
defined, and arbitrary numbers may be assigned for them limited only by
the necessity that MV + M´V´ be a fixed sum.[147] But P and T cannot,
with respect to each other, be thus independently defined. The highly
artificial character of T has been pointed out by Professor E. B.
Wilson, of the Massachusetts Institute of Technology, in his review of
Fisher's _Purchasing Power of Money_ in the _Bulletin of the American
Mathematical Society_, April, 1914, pp. 377-381. "Various consequences
are readily obtained from the equation of exchange, but the
determination of the equation itself is not so easy as it might look to
a careless thinker. The difficulties lie in the fact that P and T
individually are quite indeterminate. An average price-level P means
nothing till the rules for obtaining the average are specified, and
independent rules for evaluating P and T may not satisfy [the equation.]
For instance, suppose sugar is 5c. a pound, bacon 20c. a pound, coffee
35c. a pound. The average price is 20c. If a person buys 10 lbs. of
sugar, 3 lbs. of bacon, and 1 lb. of coffee, the total trading is in 14
lbs. of goods. The total expenditure is $1.45; the product of the
average price by the total trade is $2.80; the equation is very far from
satisfied." Wilson thinks it necessary, to make the matter straight, to
define T, arbitrarily as (MV + M´V´)/P in which case, the equation is
true, but so obviously a truism that no one would see any point in
stating it. T no longer has any independent standing. Fisher has,
however, an escape from this status for T, but only by reducing P to the
same position. He defines P as the _weighted_ average of the p's (27),
and fails, I think, to see how completely this ties it up with T. The
only method of weighting the p's that will leave the equation straight
is to weight the different prices by the number of units of each kind of
good sold, namely, T. Thus, in Wilson's illustration, we would define P
as [(5c.×10) + (20c.×3) + (35c.×1)]/14 P is then 10-5/14 c., while T is
14. PT is, then, equal to $1.45, which is the total expenditure, or MV +
M´V´. Be it noted, here, that P is defined in terms of T, _i. e._, P is
defined as a fraction, the denominator of which is T. No other
definition of P will serve, if T is to be defined independently.

But notice the corollary. P must be differently defined each year, for
each new equation, as T changes in total magnitude, and as the elements
in T are changed. The equation cannot be kept straight otherwise.
Suppose that the prices remain unchanged in the next year, but that one
more pound of coffee, and two less pounds of sugar are sold. P, as
defined for the equation of the preceding year would no longer fit the
equation. P, as previously defined, would be unaltered, since none of
the prices in it had changed. P, defined as a weighted average with the
weights of the first year, would, then, still be 10-5/14 cents. The T in
the new equation is 13. The product of P and T is $1.34-9/14. But the
total expenditure, (MV + M´V´) is $1.70. The equation is not fulfilled.
To fulfill the equation, it is necessary to get a new set of weights for
P, in terms of the new T of the new equation. From the standpoint of a
_causal_ theory, this is delightful. P is the _problem_. But you are
not allowed to _define_ the problem until you know what the
_explanation_ is! Then you define the problem as that which the
explanation will explain!

Fisher, however, appears unaware of this. At all events, he does not
mention it. And he ignores it in filling out his equation statistically,
for he assigns one set of weights to the particular prices in his P
throughout.[148]

The causal theory with which the equation of exchange is associated is
as follows: P is passive. A change in the equation cannot be initiated
by P. If P should change without a prior change in one of the other
factors, forces would be set in operation which would force it back to
its original magnitude. M and T are independent magnitudes. A change in
one does not occasion a change in the other. An increase or decrease in
M will not cause a change in V. Therefore, an increase in M must lead to
a proportionate increase in P, and a decrease in M to a proportionate
decrease in P, if the equation is to be kept straight. Changes in T have
opposite proportional effects on P.

Before examining the validity of the causal theory, and the arguments by
which it is supported, it will be best to state the more complex formula
which Professor Fisher advances as expressing the facts of to-day. The
original formula ignored credit, and ignored the possibility of resort
to barter. It also failed to reckon with certain complications which
Fisher deals with as "transitional" rather than "normal."

The formula which includes credit is as follows:

  MV + M´V´ = PT

Here, MV and PT have the same significance as before. M´ is the average
amount of bank-deposits in the given region for the given period, and
V´ is the velocity of circulation of those deposits. M, money, consists
of all the media of exchange in circulation which are _generally_
acceptable, as distinguished from those which are acceptable under
particular conditions, as by endorsement. M excludes money in bank
reserves and government vaults. Money, specifically, includes gold and
silver coin, minor coins, government paper money, and bank-notes; M´
consists of deposits transferable by check. This version would not
satisfy such a writer as Nicholson,[149] who would limit money to gold
coin, and would include in M´ not only deposits, but also bank-notes,
and other credit instruments. I may suggest here, what I shall later
emphasize, that Fisher's "money," though he doubtless is using the most
common definition of money, is really a pretty heterogeneous group of
things, concerning which it is possible to make few general statements
safely. In economic essence, _e. g._, bank-notes are much more like
deposits than like gold, and if one wishes to separate money and credit,
bank-notes belong with M´ rather than with M. But we must take the
theory as we find it! Again, credit is by no means exhausted when
bank-deposits are named. Why should not book-credits, and bills of
exchange be included? Why not postal money-orders, why not deposits
subject to transfer by the giro-system? M´ is defined[150] as "the total
deposits subject to transfer by check," and would, thus, exclude the
giro-system of Germany. It is surely a very provincial equation of
exchange, with which Fisher and Kemmerer seek to set forth the universal
laws of money! Fisher's reason for excluding book-credits is that
book-credits merely postpone, and do not dispense with, the use of money
and checks.[151] Book-credits, unlike deposits, have no _direct_ effect
on prices (_Ibid._, 82, n.; 370), but only an indirect effect, by
increasing the velocity of money. (_Ibid._, 81-82; 370-371.)
Book-credit, indeed "time-credit" in general thus has no direct effect
on prices, and is properly excluded from the equation of exchange. These
distinctions seem to me highly artificial. In the first place, the use
of checks, in part, merely postpones the use of money: money is moved
back and forth from one part of the country to another, and from one
bank to another, to the extent that checks fail to offset one another,
and in the case of book-credit, while there is less of this offsetting,
there is a good deal of it, especially between stockbrokers in different
cities, and in small towns and at country stores, and particularly in
the South, where the country storekeeper and "factor" are also dealers
in cotton, etc., and where they advance provisions during the year to
the small farmers, receiving their pay, in considerable degree, not in
money, but in cotton, which they credit on the books in terms of money
to the customer--a point which Fisher mentions in an appendix. (_Ibid._,
p. 371.) The difference on this point is a difference in degree
merely.[152] Further, Fisher makes the same point with reference to
deposits subject to check that he makes with reference to book-credits,
namely, that their use increases the velocity of money. To say that one
has a _direct_ effect on prices, and the other only an indirect effect
is absolutely arbitrary. If buying and selling are what count, if prices
are forced up by the offer of money or credit for goods, and forced down
as the amount of money and credit offered for goods is reduced, then one
exchange must count for as much as any other of like magnitude in fixing
prices. The same is true of transactions in which bills of exchange or
other credit devices serve as media of exchange. Of course these
considerations do not render the equation of exchange, as presented by
Fisher, untrue. The equation simply states that the money and
bank-deposits used in paying for goods in a given period are equal to
the amount paid for those goods in a given period. It makes no assertion
concerning payments for other goods, and makes no assertion as to the
amount of other transactions which are paid for in other ways. General
Walker, presented with the problem of credit phenomena, simplifies the
thing even more.[153] He rules out all exchanges which are effected by
credit devices, counting only those performed by coin, bank-notes and
government paper money, and insists that the general price-level is
determined in those exchanges in which money alone (as thus defined) is
employed. His equation--if he had considered it worth while to use
one--would then have been simply

  MV = PT

where T would be merely the number of goods exchanged by means of money.
One could make a similar equation, equally true, by defining money as
gold coin, and reducing T correspondingly. Is there any reason for
limiting the equation at all?[154] Is there any reason for supposing
that any one set of exchanges is more significant for the determination
of the price-level than any other set of exchanges? Does not the logic
of the quantity theory require us to include all exchanges which run in
terms of money?--If one wishes a complete picture of the exchanges, some
such equation as this would be necessary:

  MV + M´V´ + BV´´ + EV´´´ + OV´´´´ = PT,

where B represents book-credit, V´´ the number of times a given average
amount of book-credit is used in the period, E bills of exchange, and
V´´´ their velocity of circulation, and O all other substitutes for
money, with V´´´´ as their velocity of circulation. Even then we have
not a complete picture, if direct barter or the equivalents of barter
can be shown to be important.

For the present, I waive a discussion of the comparative importance of
these different methods of conducting exchanges. The situation varies
greatly with different countries. Fisher's and Kemmerer's equations are
at best plausible when presented as describing American conditions, are
much less plausible when applied to Canada and England, and are
caricatures when applied to Germany and France.

So much for the statement of the equation of exchange, except that it is
important to add that the period of time chosen for the equation is one
year. Just why a year, rather than a month or two years or a decade
should be chosen, may await full discussion till later. I shall venture
here the opinion that the yearly period is not the period that should
have been chosen from the standpoint of Fisher's causal theory, and
that it probably was chosen, if for any conscious reason at all, because
of the fact that statistical data which Fisher wished to put into it are
commonly presented as annual averages. The question now is, however, as
to the use to be made of the equation in the development of a causal
theory.




CHAPTER IX

THE VOLUME OF MONEY AND THE VOLUME OF CREDIT


John Stuart Mill, who first among the great figures in economics gives a
realistic analysis of modern credit phenomena, thought that credit acts
on prices in the same way that money itself does[155] and that this
reduces the significance of the quantity theory tendency greatly, and to
an indeterminate degree. The quantity theory is largely whittled away in
Mill's exposition of the influence of credit. In Fisher we have a much
more rigorous doctrine. The quantity of money still governs the
price-level, because M governs M´. The volume of bank-deposits depends
on the volume of money, and bears a pretty definitely fixed ratio to it.
Just how close the relation is, Professor Fisher does not say, but the
greater part of his argument, especially in ch. 8,[156] rests on the
assumption that the ratio is very constant and definite indeed. At all
events, the importance of the theory, as an explanation of concrete
price-levels, will vary with the closeness of this connection, and the
invariability of this ratio. It is not too much to say _that the book
falls with this proposition_, to wit, that M controls M´, and that there
is a fixed ratio between them. We would expect, therefore, a very
careful and full demonstration of the proposition, a care and fullness
commensurate with its importance in the scheme. But the reader will
search in vain for any proof, and will find only two propositions which
purport to be proof. These are: (1) that bank reserves are kept in a
more or less definite ratio to bank deposits; (2) that individuals,
firms and corporations preserve more or less definite ratios between
their cash transactions and their check transactions, and between their
cash on hand and their deposit balances.[157]

If these be granted, what follows: the money in bank-_reserves_ is no
part of M! M is the money in circulation, being exchanged against goods,
not the money lying in bank-vaults![158] The money in bank-vaults does
not figure in the equation of exchange. As to the second part of the
argument, if it be granted, it proves nothing. The money in the hands of
individual and corporate depositors is by no means all of M. It is not
necessarily the greatest part. The money in circulation is largely used
in small retail trade, by those who have no bank-accounts. A good many
of the smallest merchants in a city like New York have no bank-accounts,
since banks require larger balances there than they can maintain.
Enormous quantities of money are carried in this country by laborers,
particularly foreign laborers. "The Chief of the Department of Mines of
a Western State points out that when an Italian, Hungarian, Slav or Pole
is injured, a large sum of money, ranging from fifty dollars to five
hundred or one thousand, is almost always to be found on his person. A
prominent Italian banker says that the average Italian workman saves two
hundred dollars a year, and that there are enough Italian workmen in
this country, without considering other nationalities, to account for
three hundred million dollars of hoarded money."[159] I do not wish to
attach too great importance to these figures, taken from a popular
article in a popular periodical. It is proper to point out, too, that
these figures relate to hoarded money, rather than to M, the money in
circulation. But in part these figures represent, not money absolutely
out of circulation, but rather, money with a sluggish circulation. And
they are figures of the money in the hands of poor and ignorant elements
of the population. Outside that portion of the population--larger in
this country than in any other by far[160]--which keeps checking
accounts, are a large body of people, the masses of the big cities, the
bulk of rural laborers, especially negroes, the majority of tenant
farmers, a large proportion of small farm owners, especially nominal
owners, and not a few small merchants in the largest cities, who have no
checking accounts at all. A very high percentage of their buying and
selling is by means of money. Kinley's results[161] show that 70% of the
wages in the United States are paid in cash, and, of course, the
laborers who receive cash pay cash for what they buy. (Not necessarily
at the _time_ they buy!) Money for payrolls is one of the serious
problems in times of financial panics.[162] To fix the proportion
between money in the hands of bank depositors and non-depositors is not
necessary for my purposes--_a priori_ I should anticipate that there is
no fixed proportion. But it is enough to point out that money in the
hands of depositors is not the whole of Fisher's M. Of what relevance is
it, then, to point out, even if it were true, that an unascertainable
portion of M tends to keep a definite ratio to M´, when the thing to be
proved is that the _whole_ of M tends to keep a definite ratio to M´?
Fisher's argument is a clear _non-sequitur_. If it proves anything, it
proves that a sum of money,[163] not part of M, and another sum of
money, an unknown fraction of M, each independently, for reasons
peculiar to each sum, tends to keep a constant ratio to M´. This gives
us _l'embarras des richesses_ from the standpoint of a theory of
causation! Two independent factors, bank-reserves and money in the hands
of depositors, each tending to hold bank-deposits in a fixed ratio, and
yet each moved by independent causes! By what happy coincidence will
these two tendencies work together? Or what is the causal relation
between them? And if, for some yet to be discovered reason, Professor
Fisher should prove to be right, and there should be a fixed ratio
between M as a whole and bank-deposits, would it not indeed be a miracle
if all three "fixed ratios" kept together? Bank-deposits, indissolubly
wedded to three independent variables[164] (independent, at least, so
far as anything Professor Fisher has said would show, and independent
in large degree, certainly, so far as any reason the present writer can
discover), must find their treble life extremely perplexing. May it not
be that Professor Fisher has pointed the way to the real fact, namely,
that bank-deposits are subjected to a multitude of influences, no one of
which is dominant, which prevent any fixed ratio between bank-deposits
and any other one thing? At a later point, I shall maintain that this
is, indeed, the case.

Be it noted further, however, that even if we grant a fixed ratio, on
the basis of Fisher's argument, between M and M´, Fisher has offered no
jot of proof that the causation runs from M to M´. He simply assumes
that point outright. "Any change in M, the quantity of money in
circulation, _requiring as it normally does a proportional change in
M´_, the volume of deposits subject to check." (_Ibid._, p. 52, Italics
mine.) For this, no argument at all is offered. A fixed ratio, so far as
causation is concerned, might mean any one of three things: (a) that M
controls M´; (b) that M´ controls M; (c) that a common cause controls
both. Fisher does not at all consider these alternative possibilities. I
shall myself avoid a sweeping statement as to the causal relations among
the factors in the equation, because I do not think that any of the
factors is homogenous enough, as an aggregate, to be either cause or
effect of anything. But if a generalization concerning these magnitudes
were required, I should be disposed to assert that the third alternative
is the most defensible, and that to the extent that M and M´ vary
together it is under the influence of a common cause, namely, PT! That
is to say, that the volume of bank-deposits and the volume of money tend
to increase or decrease in a given market--and Fisher's theory is a
theory of the market even of a single city[165]--_because of_ increases
or decreases in PT (considered as a unitary cause rather than as two
separate factors) in that market. But I shall not put my proposition in
quite that form, as I find the factors in the equation of exchange too
indefinite for satisfactory causal theory.

So much for the validity of Fisher's argument, assuming the facts to be
as he states them. Are the statements correct? Do banks tend to keep
fixed ratios between deposits and reserves? Do individuals, firms, and
corporations tend to keep fixed ratios between their cash on hand and
their balances in bank? Regarding this last tendency, Professor Fisher
says in a footnote on p. 50, "This fact is apparently overlooked by
Laughlin." I think it has been generally overlooked. I have found no one
who has discovered it except Professor Fisher. Certainly no depositor
whom I have consulted can find it in his own practice--and I have put
the question to "individuals, firms, and corporations." The further
statement which Professor Fisher adduces in its support does not prove
it, namely, that cash is used for small payments, and checks for large
payments.[166] It would be necessary to go further and prove that large
and small payments bear a constant ratio to one another, and further,
that velocities of money and of bank-deposits employed in these ways
bear a constant relation. If Fisher has any concrete data, of a
statistical nature, to support the doctrine of a constant ratio between
bank-balance and cash on hand in the case of individual depositors, he
has failed to put them into his book. Nor is there any statistical
evidence offered in the case of banks. It should be noted here that
finding a general average for a whole country or community would not
prove Fisher's point. General averages give no concrete causal
relations. Fisher's argument, moreover, starts with individual banks and
individual deposit-accounts (pp. 46 and 50) and generalizes the
individual practice into a community practice. He would have to offer
data as to individual cases.

While general averages could not _prove_ the contention of a constant
ratio between reserves and deposits for individual banks, general
averages can _disprove_ the contention. A constant general average would
be consistent with wide variation in individual practices, on the
principle of the "inertia of large numbers." But if the general average
is _inconstant_, it is impossible that the individual factors making it
up should be constant. This disproof is readily at hand, both for the
ratio of deposits to reserves in the United States, and for the ratio of
demand obligations to reserves among European banks (most of which do
not make large use of the check and deposit system).

For the United States, from 1890 to 1911, taking yearly averages, we
have a variation in the ratio of reserves to deposits of over 73% of the
minimum ratio. The ratio was 26% in 1894, and 15% in 1906. "The
juxtaposition of these extreme variations shows how inaccurate is the
assumption that the deposit currency may be treated as a substantially
constant multiple of the quantity of money in banks."[167] For New York
City, the annual average percentage of reserves of Clearing House banks
to net deposits varies from 24.89% in 1907 to 37.59% in 1894.[168] The
extreme variations[169] in weekly averages are (for the sixteen years,
1885-1900) 20.6% in August, 1893 and 45.2% in February, 1894. These
figures are extreme, since the number of occurrences is small for them,
but there are numerous occurrences of deviations from the mean as wide
apart as 24% and 42%.[170] The yearly fluctuation in all these ratios is
very great.

The ratio of money held by the banks and money held by the people also
shows wide variation, and considerable yearly fluctuation. There is a
further complication, for the United States, of varying proportions of
the total monetary stock held by the Federal Treasury. As between the
banks and the public, the banks held about a third in 1893 (average for
the year), and nearly half in 1911.[171] Whatever may be the relations
between money in the hands of the people, money in banks, and volume of
deposits, in "the static state," there is no statistical evidence
whatever to justify the notion of fixed relations among them in real
life.[172] We shall later show that there can be no static laws whatever
governing the relations of credit and reserves.[173]

For European banks, the case is equally clear. European bankers deny
any intention of keeping any definite reserve ratio. This appeared very
clearly in the "Interviews" obtained for the Monetary Commission with
leading European bankers.[174] The Banque de France increased its gold
reserves, between 1899 and 1910, by 75%, but increased its discounts and
advances during the same period by only 5%.[175] J. M. Keynes[176]
points out that the reserves of the great banks of the world, and of
Treasuries which act as central banks, have absorbed an enormous part of
the gold produced in the fifteen years before the War, increasing their
holdings from about five hundred million pounds sterling in 1900 to one
billion pounds sterling at the outbreak of the War. "The object of these
accumulations has been only dimly conceived by the owners of them. They
have been piled up partly as the result of blind fashion, partly as the
almost _automatic consequence_, in an era of abundant gold supply, of
the particular currency arrangements which it has been orthodox to
introduce.... The ratios of gold to liabilities vary very extremely from
one country to another, without always being explicable by reference to
the varying circumstances of those countries.... The contingencies,
against which a gold reserve is held, are necessarily so vague that the
problem of assessing the proper ratio must be, within wide limits,
indeterminate. It is natural, therefore, that bankers, who must act one
way or the other, should often fall back on mere usage or accept _that
amount of gold as sufficient_ which, _if they are chiefly passive, the
tides of gold bring them_. [Italics mine.] At any rate, the management
of gold reserves is not yet a science in most countries. There is no
ideal virtue in the present level of these reserves. Countries have got
on in the past with much less, and under force of circumstances could do
so again."

It will be noticed that Keynes, in the passage cited, is speaking of
_gold_ reserves, while Fisher's contention relates to all kinds of money
available for reserves, which in this country would include gold, silver
dollars, greenbacks, and, for many State banks, the notes of national
banks. He is also talking of the relation of reserves to demand
_liabilities_, which for most great European banks are primarily notes,
rather than of reserves to deposits. But as an exposition of the theory
of the ratio of reserves to deposits (the chief liability of American
banks), it is applicable to American conditions, and as a statement of
the facts, it of course gives a basis for testing Fisher's doctrine
generally. I do not think that Fisher's fixed ratio, as between reserves
and deposits, or even the ratio which more moderate quantity theorists
might seek to find between gold and demand liabilities, will find any
justification in the facts of banking history.[177]

A factor which has developed on a grand scale in recent years has tended
still further to weaken any tendency that may be supposed to exist
toward a fixed ratio between money-reserves and demand-liabilities. I
refer to the gold exchange-standard, in India, the Philippines, and
elsewhere, and to the practice of the great banks of the continental
countries of Europe, particularly the Bank of Austria-Hungary, of
holding foreign gold bills, rather than gold exclusively, as reserve to
cover note issue. In the case of the Austro-Hungarian Bank, which has
carried this practice to the extreme, all possibility of a fixed ratio
between gold reserves and demand-liabilities has vanished. The ratio is
highly flexible. When bills are cheap, _i. e._, when the exchange is "in
favor" of Austria-Hungary, the Bank buys bills with gold; when bills
are high, when the exchanges have turned "against" Austria-Hungary, the
Bank sells bills for gold. Commonly, the holder of a note of the
Austro-Hungarian Bank does not ask for it to be redeemed in gold, but in
foreign exchange. The reason for this practice on the part of the Bank
is primarily economy. A large holding of gold would represent idle
capital--a heavy burden for the Bank of a debt-ridden and poorly
developed country. Foreign bills, however, serve equally well for
maintaining the value of the bank-notes, and at the same time bear
interest.[178] A similar practice has been employed by the Reichsbank,
by the National Bank of Belgium,[179] by virtually all the debtor
countries of Europe, and the great trading countries of Asia.

Confidence in these conclusions is much increased by a study of the
views of Professor Taussig.[180] Professor Taussig is, in his initial
formulations of his doctrine, a quantity theorist. In a situation where
only money is used, credit being excluded, in effecting exchanges, he
would hold that the quantity theory correctly accounts for prices. He is
fond of the old formulation, as a first approximation, even in dealing
with the complex facts of modern banking. But he does not dodge the
complex facts, and his theory becomes, substantially, first, a general
formula, and second, an elaborate body of qualifications and exceptions,
the latter making up the major part of the theory. His doctrine
regarding the relation of money and credit is as follows: there is, in
the long run, a real _limitation_ on elastic credit instruments in the
quantity of _specie_. (This is very different from the assertion that
there is a _fixed_ ratio between _deposits_ and _money_ in circulation,
including paper, bank-notes, etc., in money. The present writer has no
quarrel with the doctrine that the gold supply of the _world_ imposes
_outside_ limitations on the _possible_ expansion of credit.) The
limitation, Taussig holds, comes in two ways: (1), in the connection
between prices in any one country, and prices in the world at large;
(2), in various links of connection between the volume of deposits (and
of notes elastic like deposits) and the quantity of specie. I shall
consider at a later point the relation between prices in different
countries.[181] I shall there maintain that the quantity theory, which
explains gold movements on the basis of price-_levels_ in different
countries, is inadequate; that not price-levels, but particular prices,
of goods most available for international trade, are of primary
importance, and that of these particular prices, one, namely the "price
of money," or the short time money-rate, is most significant of all. For
the present, I wish to analyze the linkages which Taussig finds between
elastic credit instruments and specie, and to see how far they would go,
not in proving Taussig's point (with which I have little quarrel) but in
proving Fisher's contentions. The points involved are: (a) _Direct
necessity_ constrains the bankers to keep _some_ cash on hand.[182] This
fixes a _minimum limit_ (Taussig's contention), but does not at all
suggest a "normal ratio" (Fisher's contention). (b) _Binding custom_, as
to the proper amount of reserve that banks should carry, particularly
important in connection with the Bank of England, but also in evidence
in the Banque de France and the Reichsbank. Here again, however,
minimal, rather than fixed, ratios are suggested. Limitations on the
_expansion_ of credit these customs may impose, but they by no means
determine a normal, or average amount of credit expansion--in England
least of all, since there is so large a flexible element in the deposits
of the Joint Stock Banks, whose reserves are largely secret. The
statement _supra_ quoted from Keynes, together with the testimony of
European bankers, may be considered in connection with this point, also,
as to the factors determining the reserve policies of the great European
banks. The extent to which custom really binds is doubtful. (c) _Direct
regulation by law_, peculiar to the United States. Here again, a
minimum, rather than a fixed ratio, is indicated. Some _limitation_ on
credit expansion by the banks is caused by this at times, but Fisher's
argument would require vastly more. (d) _The interaction in the use of
deposits, notes, and other constituents in the circulating medium._ The
point involved here is that different kinds of business call for
different kind of media. Small retail business is not done with hundred
dollar bills, nor are stocks and bonds bought with pennies. Limiting the
size of bank-notes to five pounds in England compels the use of a large
amount of gold for smaller transactions, and keeps a larger amount of
gold in use than would otherwise be the case. Expanding business draws
cash from the banks for circulation, trenching on reserves. That
Professor Taussig has a point here is not to be doubted, but how closely
it limits the expansion of credit will depend on the degree to which
different kinds of media of exchange really _are_ thus specialized. In a
country like the United States, where checks may be used for virtually
any transaction of over a dollar, and where small change for less than a
dollar will be increased by the Government to meet the demands of trade,
the point would not seem to involve a practically serious limitation.

Finally, Professor Taussig recognizes a coefficient with the quantity of
specie in the _temper of the business community_. Whether or not
deposits are to expand, depends not only on reserves, but also on the
attitude of borrowers.

Taussig concludes: "Thus there is only a rough and uncertain
correspondence of bank expansion with bank reserves; much play for ups
and downs which have no close relation to the amount of cash in bank
vaults, _and still less direct relation to the amount of money afloat in
the community at large_. Where bank media, whether in the form of
deposits or notes, are an important part of total purchasing power, the
connection between general prices and quantity of 'money' is irregular
and uncertain." (Italics mine.)

This conclusion would be of little service in supporting Fisher's
rigorous contentions! Our constructive theory concerning the relations
of reserves and deposits, or reserves and demand liabilities, must wait
for later discussion, in the chapter on "Bank Assets and Bank Reserves"
in Part III. It will there be maintained that there are no "normal" or
"static" laws governing the percentage of reserves to demand
liabilities, or to deposits, that the reserve function of money is a
_dynamic_ function, and that its whole explanation must be found in
dynamic considerations. For the present, I am content to have analyzed
two widely divergent views, one the extreme view of Professor Fisher,
representing the quantity theory in its utmost rigor, and the other, the
view of Professor Taussig, who virtually surrenders the quantity theory
in complex modern conditions.

In between these two writers, verging more toward Fisher than toward
Taussig, will be found, with great individual variation, the rest of the
quantity theorists. The quantity theory, as an instrument of prediction,
becomes important only to the extent that Fisher's view is maintained.




CHAPTER X

"NORMAL" VS. "TRANSITIONAL" TENDENCIES


The Quantity Theory, as a causal theory, is, then, little altered by the
passage from a hypothetical, creditless economy to the actual world,
where a vast deal of credit is used,--particularly in Professor Fisher's
hands. Of the different kinds of credit, only deposits subject to check
are recognized as directly influencing prices, and deposits subject to
check are controlled by the volume of money. The causal theory[183]
remains, then, as follows: if M be increased, it will increase M´
proportionately; it will not change the V's; it cannot increase T; to
keep the equation straight, therefore, P must rise in proportion to the
rise in M. A decrease of M, reducing M´ proportionately, leaving V's and
T unchanged, must proportionately reduce P. P is passive. A change in P
cannot sustain itself, unless it be due to a prior change in T, the V's,
M or M´.

This theory is set forth with the qualification that these effects are
the "normal" effects of the changes in question. The proportion between
quantity of money and price-level is not strictly maintained during
"transition periods." I now approach the most difficult question which I
shall have to answer as to the meaning of Fisher's terms. The same
problem arises for all quantity theorists. Precisely what is the
distinction between "transition periods" and "normal periods"? What
limitations and qualifications does he admit to the rigorous statement
of his theory so far given? I may first express the opinion that the
line shifts greatly in his own mind, or at least shifts greatly in the
exposition. I do not find an explicit statement in which definitions are
given. The matter is chiefly discussed by Fisher in ch. 4,[184] which is
called "Disturbance of Equation and of Purchasing Power during
Transition Periods." There we find, as I have stated, no definitions,
but the initial statements would suggest the following: a transition
period is the period following a change in any one of the factors in the
equation during which a readjustment among all the others is taking
place; the normal period is the period preceding such a change, or
following the transition after such a change, and is characterized by
the fact that all the factors are at rest, in stable equilibrium.
Equilibria during transition periods are unstable. During the
transition, the relations among the factors vary: M and M´ need not keep
their fixed ratio; P need not be wholly passive; M and P need not keep
the same proportion. But until M and M´ get back into the normal ratio,
until P becomes proportional to M (in the proportion prior to the
initial disturbance), there is no rest; the equilibrium is unstable. How
long is a transition period? How realistic is the notion of a transition
period? Is the transition period a theoretical device, to aid in
isolating causes, or is it supposed to be a real period in time? Is the
normal period a real period in time, or is it merely a theoretical
hypothesis? It is not easy to answer these questions. Thus (p. 72) the
seasonal fluctuations are declared to be "normal and expected," and, at
the same time, one gets the impression that Fisher considers them
illustrations of his "transitions," in which the normal theory does not
strictly hold (pp. 72, 169). What is described chiefly in the chapter on
transition periods is the business cycle--a theory of the business
cycle, based primarily on the notion that the failure of interest to
rise as fast as prices rise causes the "boom," and that the draining of
bank reserves precipitates the crisis. I shall not discuss this theory,
as a theory of business cycles, further than to say that Wesley
Mitchell's study would indicate that the interest rate is a minor
factor, and that, while as a theoretical possibility, the drains on bank
reserves may check prosperity if something else doesn't do it first,
practically something else always does come in ahead, so far as his
studies have gone.[185] My interest here is primarily in seeing the
limitations Fisher imposes on his theory, and the qualifications he
admits. If the business cycle is the typical transition period, during
which his normal theory doesn't hold, when does the normal theory hold?
When are the "normal periods"? There is no concrete period during which
prices are neither rising nor falling, during which no important changes
are taking place among the factors.[186] At times, Fisher seems to
indicate that the normal period is imaginary (pp. 56, 159). Is, then,
the contrast between a realistic "transition period" and a hypothetical
"normal period" or are both hypothetical? Is the equation of exchange,
too, a mere hypothesis? It should be, if it is to set forth a merely
hypothetical theory. But no, Fisher insists on putting concrete data
into it, and, indeed, gives an elaborate statistical "proof" of the
equation. It, at least, is realistic. I confess that my certainty as to
Fisher's meaning grows less, as I study his book with greater care. If
the typical transition period be the business cycle, then the normal
period could come only once, say, in ten years--or whatever period,
regular, or irregular, one chooses to assign to the business cycle. The
concrete price-levels for the greater part of the time are then
surrendered to other causes. And the one-year cycle described in the
equation of exchange is quite irrelevant. The equation of exchange
should cover the whole business cycle, to fit in with the theory.
Indeed, a realistic equation of exchange would then have no meaning at
all, as the average price-level during the business cycle, played upon
by a host of causes other than the factors described in the quantity
theory, would not be the same as the average price-level which _would
have_ obtained had only the "normal" causes been in operation.[187]

The distinction between "normal" and "transition" _periods_ suggests a
dangerous fallacy: namely, that during one period one sort of causation
is working, with the other in abeyance. In fact, whatever causes there
are are working all the time. The only legitimate thing is to abstract
from one set of causes, and see what the other set, if left to
themselves, will bring about. But this sort of abstraction has many
dangers, one of which is that the causes abstracted from are frequently
thought of as non-existent. The chemist, in his laboratory, can in
actual physical fact abstract impurities from his chemicals, and see
what they will do. He can even perform experiments in what is
practically a vacuum. But the economist has no right to _think in
vacuo_! All that he has a right to do is to assume the factors which he
does not wish to study _constant_. And even that he must not do if (1)
changes in the factors which he wishes to study do in fact lead to
changes in the factors abstracted from, or (2) if the factors which he
wishes to study can only change _because_ of prior or concomitant
changes in the factors from which he is abstracting. Is it, for example,
legitimate to assume an increase in M´ apart from its usual
accompaniment, an increase in PT?

The notion, too, that causation can be seen in a state of stable
equilibrium should be critically analyzed. Causation is only _revealed_
by a _course of events_, when mechanical causation is involved. The
relation of cause and effect may be a contemporaneous relation in fact,
and it is possible, where conscious, psychological phenomena are
involved, to discern causal relations among the elements in a mental
state by direct introspection. It is the not uncommon practice, also, in
the theory of mechanics, or in theoretical economics, where the method
of investigation is deductive rather than inductive, to abstract from
the temporal sequence, and to construe causal relations as timeless,
logical relations. But even here, the cause of a _change_ in the general
situation precedes the change in time, and it is only by abstraction
that the time element is left out. If there is no question as to the
causal relations, this abstraction is legitimate, but if all that one
knows about the situation be that in a stable equilibrium certain
constant ratios obtain, then the question as to which term in the ratio
is cause and which is effect remains unanswered. In Fisher's situation,
then, assuming that it be true--which I shall deny--that the only stable
equilibrium is that which the normal theory requires, it still remains
true that the causal relations among the factors can only be revealed by
a study of the transitions, by seeing the temporal sequence of changes
in the factors of the equation. Even if it be granted that M, M´ and P
tend to keep a constant relation to one another, the quantity theory
falls if, for instance, it can be shown that a change may first occur in
P, spread to M´, and finally reach M last of all, leading to a new
normal equilibrium which is stable. I shall later show cases of this
sort.[188]

The abstract formulation of Fisher's contrast will not, I believe, give
us an answer as to the extent to which he thinks his quantity theory
realistic. I find myself particularly in genuine uncertainty as to the
point mentioned above: would an actual equation of exchange for the
whole business cycle, made up of the averages of M, M´, V, V´, P and T
for the whole period, exhibit the "normal" relations among these
factors? Or would this "normal" relation only emerge concretely at some
moment of time in the course of the cycle when the abnormal causes
affecting the price-level happened to offset one another? Or is it true
that no actual figures which might be found, either for a moment of
time, or as averages for any given period, will exhibit the relations
required, and that only a hypothetical equation, based on the figures
for M, M´, V, V´, P and T that _would have been realized_ had there been
no "disturbing" causes, will show these "normal" relations? If, as
Fisher at times indicates--as in his reference to Boyle's Law (p.
296)--he is stating only an abstract tendency, which may be neutralized
by other tendencies in the situation, so far as concrete results are
concerned, then it is this last doctrine which we must take, and the
concrete equation of exchange has little if any relevance. If, moreover,
this last interpretation be given, then the whole of Fisher's elaborate
statistical "proof" is pointless. The only sort of statistical proof
which would be relevant would be of a much subtler sort, not a mere
filling out of the equation of exchange by means of annual figures, but
an effort to disentangle and measure the _importance_ of his tendency,
as compared with other tendencies. But we have the other tendencies
merely mentioned in qualitative terms, and we never find any definite
statement, of mathematical character, as to how important they are.

It seems pretty clear, however, that on the whole, despite occasional
suggestions that his theory is abstract, Fisher means his theory to be
the overwhelmingly important point in the explanation of actual
price-levels. He is particularly insistent on the high degree of the
generality of his contention that P is passive. Thus: "So far as I can
discover, _except to a_ LIMITED _extent during transition periods, or
during a passing season_, (_e. g._, _the fall_) (capitals mine, italics
Fisher's), there is no truth whatever in the idea that the price-level
is an independent cause of changes in any of the other magnitudes, M,
M´, V, V´, or the Q's."[189] On p. 182 he enumerates in a series of
propositions his general normal theory, and adds, as the first sentence
of proposition 9: "Some of the foregoing propositions _are subject to_
SLIGHT _modification during transition periods_." (Italics and capitals
mine.) And the general drift of the argument, particularly in chapter 8,
where the heart of Fisher's causal theory is presented, would indicate
that the concessions he is disposed to make are very slight, indeed.

The question as to how long a _time_ is required, in Fisher's view, for
a transition to occur, and for his normal tendencies to dominate, is
nowhere made clear. The quantity theory, in the hands of some writers,
is a very long run theory, for others, it is a short run theory. Thus,
Taussig would make the "run" exceedingly long.[190] Mill makes it a
short run theory. "It is not, however, with ultimate or average, but
with immediate and temporary prices, that we are now concerned. These,
as we have seen, may deviate widely from the standard of cost of
production. Among other causes of fluctuation, one we have found to be,
the quantity of money in circulation. Other things being the same, an
increase of the money in circulation raises prices, a diminution lowers
them. If more money is thrown into circulation than the quantity which
can circulate at a value conformable to its cost of production, the
value of money, so long as the excess lasts, will remain below the
standard of cost of production, and general prices will be sustained
above the natural rate."[191] I pause to note that it is really strange
that a single name should describe theories so different, resting on
such essentially different logic. Long run or short run theories, all
are "quantity theories," whether "money" be defined as gold, or as all
manner of media of exchange, or as only those media of exchange which
pass from hand to hand without endorsement. Fisher would doubtless call
his theory a long run theory. From the standpoint of the notion that
"prices ... lag behind their full adjustment and have to be pushed up,
so to speak, by increased purchases,"[192] however, we get a short run
quantity theory doctrine. The logic of these two is very different. The
short run doctrine seeks to explain the actual process of price-making
in the market. Money is offered against goods, and the actual quantities
on each side determine the momentary price-level, concretely. Or, when
credit is considered, money and credit offered against goods, at a given
time, or in a given short period, determine the actual price-level
reached. This is the logic of the equation of exchange--actual money
paid is necessarily equal to actual money received. The long run
doctrine is fundamentally based on a different notion. Surrendering the
actual or average of price-levels to other causes, in part, it still
asserts that, given time enough, and barring new disturbing tendencies,
a price-level will ultimately be reached which will bear it out. I find
no recognition, on Fisher's part, of the fact that these two doctrines
are different, and, in fact, I find them blended and confused in the
course of his argument. He would doubtless maintain that his is a long
run doctrine. But how long is the "run"? Sometimes it seems to be, as
already shown, a whole business cycle. Sometimes a passing season, as
the fall. When he undertakes to apply his theory to a practical proposal
for regulating the value of money, he relies on the quantity theory
tendency to bring about adjustments so quickly that it is worth while to
make _monthly_ adjustments in anticipation of it.[193] When discussing
the changes in gold premium on the Greenbacks during the exciting times
of the Civil War, he relies so thoroughly on his theory that he will not
allow even the rapid change of four per cent in a single day following
Chickamauga to occur except in conformity with the quantity theory. This
last statement is so remarkable that I must quote Fisher himself: "It
would be a grave mistake to reason, because the losses at Chickamauga
caused greenbacks to fall 4% in a single day, that their value had no
relation to their volume. This fall indicated a slight acceleration in
the velocity of circulation, and a slight retardation in the volume of
trade" (263). It would be indeed remarkable if the changes in the gold
market, which got war news before the newspapers got it, and where
changes in gold premium occurred before the rest of the country could
possibly react to the war news, should be controlled by V and T! I had
not supposed that the most rigorous of short run quantity theorists
would make any such demands on his theory as that. Indeed, I had not
supposed that the quantity theory would feel called on to explain the
gold premium, as such, except in so far as the gold premium is an index
of general prices.

Finding it impossible to limit Fisher to any single statement of the
quantitative importance of his normal theory as compared with the other
tendencies at work, but concluding that, on the whole, he considers it
of high importance, I shall now proceed to an analysis of the reasoning
by which he seeks to justify it as a _qualitative_ tendency. I shall
maintain that, however long or short the period required, however strong
or weak the tendency he defends, the reasoning by which he seeks to
justify it is unsound, and that even as a qualitative tendency, the
quantity theory is invalid. At a later part of the book, as in an
earlier part,[194] I shall undertake to find the modicum of truth which
the quantity theory contains, and shall show that no quantity theory is
needed to exhibit this modicum of truth.




CHAPTER XI

BARTER


In the statement of the quantity theory, the proviso is commonly made
that all exchanges must be made by means of money, or of money and
bank-credit. Barter is excluded by hypothesis. If resort to barter were
possible, then people might avert the fall in prices due to scarcity of
money, or increase in trade, by dispensing with money in part of their
transactions, and the proportional decrease in prices which the quantity
theory calls for would be lacking. Is this assumption true? Is barter
banished from the modern world, or does it remain reasonably possible,
and, to a considerable degree, actual?

Fisher maintains the thesis--the failure of which he admits would spoil
the quantity theory[195]--that barter is practically impossible, and
negligible in modern business life. "Practically, however, in the world
to-day, even such temporary resort to barter is trifling. The
convenience of exchange by money is so much greater than the convenience
of barter, that the price adjustment would be made almost at once. If
barter needs to be seriously considered as a relief from money
stringency, we shall be doing it full justice if we picture it as a
safety valve, working against a resistance so great as almost never to
come into operation, and then only for brief transition intervals. For
all practical purposes and all normal cases, we may assume that money
and checks are necessities for modern trade."[196]

This contention seems to me untenable. I think it can easily be shown
that barter remains an important factor in modern business life,
especially if one extends the term barter, a little, to cover various
flexible substitutes for the use of money and checks in effecting
exchanges. Clearly from the standpoint of the present issue, such an
extension of the meaning of barter is legitimate, as any such
substitutes would equally spoil the proportionality in the supposed
relation between prices and money, or prices and trade.

Where does one find barter? Well, not to be ignored would be the
advertisements which fill many columns of such a paper as the New York
_Telegram_ in the course of a week; "Wanted: to trade a well-trained
parrot for a violin"--a trade that might, or might not, be a wise one!
There is a good deal of such simple barter among the people. Then,
perhaps more important, is the regular practice of sewing machine,
piano, automobile, and other similar companies of taking part of the
payment for a new machine, piano,[197] or automobile in the similar
thing which the owner is discarding. The old machine, piano, etc., are
then repaired, repainted, and sold again. This is a very extensive
practice. Again, there are companies which combine the business of
wrecking old houses and building new ones, who regularly take the old
materials as part of their pay. This is a highly important feature of
the organized building trade in great cities, and is frequently done in
small towns. The building trade is no negligible matter. The
"horse-trade" still thrives in rural regions, and barter of various
kinds, of live stock, of grain and hay, of fresh and cured meat, and of
labor, is an important feature in rural life in many sections. Much of
agricultural rent in the South is still paid in kind, under the "share
system." Much labor, especially farm and domestic labor, is still paid
for partly in kind. Where payments for labor are made in orders on
company stores, we have again what is virtually barter, from the
standpoint of the point at issue. _Real estate_ transactions make large
use of barter. Farms are exchanged for one another, with some cash (or
more usually, a promissory note) "to boot." The writer has repeatedly
heard real estate men say to customers: "I can't sell it for you very
easily, but I can trade it off, and maybe you can sell what you trade it
for." This is perhaps more frequent in rural real estate transactions,
and in the smaller cities, than in large cities, but it is very
extensive in New York City.[198]

Again, when corporations are to be combined, various plans are possible.
There may be a merger; there may be a holding corporation; there may be
a lease. If the money market is easy, one of the former methods will be
used,--most frequently, for legal reasons, the holding corporation, if
there are any valuable franchises involved. But mergers and holding
corporations commonly involve buying out the interests which are to be
absorbed, and call for the use of checks. If the money market is tight,
therefore, the promoter of the combination may frequently find the lease
the more advantageous form of consolidation.[199] The great advantage of
the lease is that, when the money market is tight, it involves no
_financial plan_, no underwriting, no outlay of "cash." This is,
therefore, an equivalent of barter, so far as the point at issue is
concerned. Even where a holding corporation is formed, however, there
may be considerable barter: the stockholders of the corporation which is
absorbed may receive payment for their stocks, in whole or in part, in
the securities of the holding company, rather than in checks. An era of
financial consolidation, such as we have been passing through, and
through which we have not by any means gone, though the movement toward
_monopoly_ has been in great degree checked, presents a great deal of
this sort of barter, or equivalents of barter.[200] A striking thing to
notice here, moreover, is the flexible margin between use of bank-credit
and barter, a margin depending primarily upon the condition of the money
market, and particularly upon the money-rates.

Not yet has the most important element in modern barter been mentioned.
I refer to the "clearing-house" arrangements of the stock and produce
exchanges. Under these arrangements, brokers who have sold ten thousand
shares of Westinghouse El. and M. Common during the day, and bought
seven thousand shares, buying and selling being in smaller lots, with a
number of different houses, no longer are obliged to deliver ten
thousand shares, receiving therefor $700,000, and to receive seven
thousand shares, paying therefor $490,000. Instead, they deliver three
thousand shares only to the clearing house, and receive from the
clearing house only $210,000 when the transaction is, from the
standpoint of the particular broker involved, completed. This is a far
remove, in technical perfection, from primitive barter, but it is
barter, and it saves the using of a vast deal of bank-credit as between
brokers. How important it is, from the standpoint of the stock exchange,
may be judged from the following statement in Sprague's _Crises Under
the National Banking System_: "A much more fundamental change in the
organization in the New York money market came with the establishment of
the stock exchange clearing house in May, 1892. It led to a very
considerable reduction in the _clearing-house exchanges of the banks_
and also, and more important, in the volume of certified checks.
[Italics mine.] Overcertification of checks ceased to be a factor of the
first magnitude in the banking methods of the city. Had not this
arrangement for stock-exchange dealings been set up, it is probable that
it would have been necessary to close the stock exchange in 1893 and in
1907, and it is also probable that the volume of business transacted in
the years after 1897 could not have been handled." (P. 152.)

The same arrangements have been widely introduced in other stock
exchanges, and in the produce exchanges.[201]

In general, with reference to barter, this point is significant. The
money economy has made barter _easier_ rather than harder. It has made
possible a host of refinements in barter, which make it at many points
more convenient and cheaper than check or money exchanges. It is common
to find our present methods of conducting foreign trade described as a
"system of refined barter," which indeed, from the standpoint of the
present issue, it is: bills of exchange are neither money nor
bank-credit! Where bills of exchange are used in internal trade
extensively--as in Germany, where they pass from hand to hand in several
transactions before being discounted at banks[202]--we have a highly
important substitute for money and deposits, which functions as
barter,--flexibility of substitutes for money and deposits is strikingly
evident. The feature of the money economy which has thus refined and
improved barter is the _standard of value_ (_common measure of value_)
function of money.[203] This standard of value function, be it noted,
makes no call on money itself, necessarily. The _medium of exchange_ and
"_bearer of options_" functions of money are the chief sources of such
additions to the value of money as come from the money-use. But the fact
that goods have money-prices, which can be compared with one another
easily, in objective terms, makes barter, and barter-equivalents, a
highly convenient and very important feature of the most developed
commercial system. And so we reject another essential assumption of the
quantity theory.[204]





CHAPTER XII

VELOCITY OF CIRCULATION


For the quantity theory, it is important to treat velocity of
circulation of money and of deposits, as self-contained entities, really
independent factors. This is true of Fisher's theory. It is particularly
necessary that V and V´ should vary from causes unconnected with M and
M´. The V's are to be a sort of inflexible channel, through which M and
M´ run in their influence on the passive P, which is to rise or fall
proportionately with them. If an increase of M or M´ should lead to a
reduction in the V's, if people, having more money available, should be
less assiduous in using every bit of it in effecting exchanges, then P
would not rise in proportion to the increase in M. Complete
demonstration of Fisher's thesis, therefore, requires the proof of the
negative proposition that V does not change as a consequence of changes
in M or M´. This proof Fisher finds in the contention that the V's are
fixed by the habits and conveniences of individuals, whence they are not
influenced by such a cause as a change in the amount of money.[205]

V is defined,[206] not as the number of times a given dollar is
exchanged in a given year (the "coin-transfer" notion), but as a social
average based on the average number of coins which pass through _each
man's_ hands, divided by the average amount held by him (the
"person-turnover" concept of velocity.) V´ is similarly defined. Fisher
asserts that both concepts, if correctly employed, lead to the same
result. I would point out one important difference between them here:
if money is _short-circuited_, if, _i. e._, a part of the economic
community loses its incomes, or finds its incomes reduced, then the
"velocity of money," on the "coin-transfer" basis is reduced, provided
the "person-turnover" average remains the same, while on the
"person-turnover" basis the velocity will remain unchanged. It is
clearly the "coin-transfer" concept which is fundamental, from the
standpoint of the equation of exchange, and Fisher feels justified in
using the other method only because he considers it an equivalent of the
"coin-transfer" concept. I shall later show cases where the distinction
between the two concepts is all-important, particularly in the case
where T is reduced by the elimination of _middlemen_.[207]

The conception of velocity of circulation as a real, unitary entity, a
_cause_, in the process of price-determination, is, I suppose, almost as
old as the quantity theory itself. It is an essential part of the
quantity theory. To me "velocity of circulation" seems to be a mere
name, denoting, not any simple cause or small set of causes, which can
exert a specific influence, but rather a meaningless abstract number,
which is the non-essential by-product of a highly heterogeneous lot of
_activities of men_, some of which work one way, and others of which
work in another way, in affecting prices. It is at best a passive
_resultant_ of conflicting and divergent tendencies, and has, to my
mind, no more _causal_ significance than the average of the abstract
numbers of yards gained by both sides, heights and weights of players,
kick-offs, and minutes taken out for injuries, would have on the result
of the Yale-Harvard game. The real causes of changes in prices lie
deeper! I should expect V and V´ to be the most highly flexible factors
in the equation of exchange, and should expect to be able to keep the
equation straight, in a great variety of situations, by allowing the V's
to vary.

Before undertaking detailed analysis of the causes governing V, I shall
discuss Fisher's specific argument, typical of the quantity theory, that
an increase of money cannot change the V's. "As a matter of fact, the
velocities of circulation of money and deposits depend, as we have seen,
on technical conditions, and bear no discoverable relation to the
quantity of money in circulation. Velocity of circulation is the average
rate of 'turnover,' and depends on countless individual rates of
turnover. These, as we have seen, depend on individual _habits_. Each
person regulates his turnover to suit his individual _convenience_....
In the long run, and for a large number of people, the average rate of
turnover, or what amounts to the same thing, the average time money
remains in the same hands, will be closely determined. It will depend on
density of population, commercial _customs_, rapidity of transport, and
other technical conditions, but not on the quantity of money and
deposits nor on the price-level." (Italics mine.[208]) He proceeds to
assume that money is doubled with a _halving_ of the V's, instead of a
_doubling_ of P. Everybody now has on hand twice as much money _and
deposits_ as his convenience has taught him to keep on hand. He will
then try to get rid of this surplus, and he can only do it by buying
goods. But this will increase somebody else's surplus, and he will
likewise try to get rid of it. This will raise prices. "_Obviously_ this
tendency will continue until there if found another adjustment of
quantities to expenditures, and the _V's are the same as
originally_."[209] The foregoing argument rests in part, it will be
seen, on the assumption that a fixed ratio between M and M´ obtains,
else the increase of _money_ in everybody's hands would not mean a
corresponding increase in their _deposits_. I have already criticised
this doctrine. For the contention that the V's will finally be _just the
same_ as before, I find no specific argument at all--"_obviously_"
presumably making that unnecessary.

As the point immediately at issue is that V's will be _unchanged_ by the
increase in M (otherwise P would not increase _proportionately_--let us
see if considerations can be adduced which will make this a little less
"obvious." First, it will be noticed that Fisher, in the foregoing, in
one sentence speaks of the matter as resting on _habit_, and in the next
sentence, on _convenience_. He speaks, also, of business _custom_. Now
it is important to note that habit and custom, on the one hand, and
considerations of convenience on the other, do not necessarily coincide.
Many habits and customs are highly inconvenient. And it is not at all
likely that habit and custom should govern so highly complex a thing as
the ratio between cash on hand and the price-level. Rather, in so far as
custom and habit rule, one would expect them to relate to a simpler
matter, namely, the _amount of cash on hand_. If the amount of cash kept
on hand should remain controlled by habit, while the amount of money is
increased, then V, instead of remaining unchanged, would actually be
increased, unless the habits should be broken in on. I shall show in a
moment that considerations of convenience would probably lead to a
reduced V, in so far as individual turnover is concerned. But which
tendency will prevail? Well, that will depend on the degree to which
custom and habit rule as compared with considerations of
convenience--_i. e_., there would be no rule valid for all communities.
That convenience would lead to a larger amount of money on hand--and I
am following Fisher's temporary hypothesis that there has been no rise
in prices prior to the movement to restore the V's to their old
magnitudes--will appear from considerations like these. Few men have as
much on hand as they would like to have, including both their cash in
hand and their deposit balances. Most people have the tendency to hoard,
though it is usually held in check by necessity. If money on hand be
increased suddenly, without prices being increased, and without any
prospect of increased incomes in the future--and there is nothing in
Fisher's provisional hypothesis to call for increased incomes, as they
could, in fact, come only from an increase in prices--why might not
there be a considerable saving of money, with a corresponding reduction
in V? If it be objected that people, in saving their money, will in
considerable degree put it into the banks, and that the banks, with
larger reserves, will increase loans and deposits, I would urge, that it
is on the part of banks that this tendency to increase hoards in times
of abundant money is particularly marked, and for proof would point to
the figures quoted from Keynes[210] for the great banks and treasuries
of Europe in the last fifteen years. It is not necessary for my purpose
at this point to do more than show that there is reason to expect an
increase in money to _change_ the V's. Fisher's argument rests on the
contention that the V's will be neither increased or reduced--otherwise
an increase in money will not _proportionately_ raise prices. The appeal
to habit and custom in the matter is particularly unsatisfactory. Custom
and habit could not possibly regulate things so complex as velocities of
money and bank-deposits.

Whatever be the ultimate effect of an increase in money, the immediate
effect is commonly to reduce the money-rates. Banks have less inducement
to pay interest on deposits, and charge lower rates for loans. Now
merchants, especially small merchants, are often embarrassed in making
change for customers. The man who has tried to make payment with a ten
dollar bill in a country store has not infrequently put the storekeeper
to much inconvenience. To offer a ten dollar bill, or even a five dollar
bill, to a storekeeper on Amsterdam Avenue in New York City may well
mean that the one clerk in the establishment, or the proprietor's wife
will run out with the bill to three or four neighboring stores before
finding change with which to break it. If money is more abundant, if
money-rates are easier, for a time, it may easily happen that many small
merchants will experience the superior convenience of having a more
adequate amount of change in the till, and will, even after the
money-rates have risen--if they do rise again to the old figure--find a
new reason for keeping more cash on hand. There is a marginal
equilibrium between the interest on the capital invested in cash in the
till, and the wages of the clerk,[211] whose active legs assist the
velocity of money. Not only banks and small dealers, however, find it
advantageous to increase their supply of ready funds, held idle for
special occasions. The United States Steel Corporation has kept as much
as $50,000,000.00 to $75,000,000.00 in idle cash or idle deposits, as a
means of being independent of banks in times of emergency.[212] The
motive for accumulating reserves and hoards, either of cash or deposit
accounts, is at all times strong. In times of financial ease, it may
easily find the difficulties which ordinarily repress it give way, and,
by being gratified, grow stronger.

I conclude that there is positive reason for expecting an increase of
money to reduce the velocity of money.

Horace White, in his _Money and Banking_, in the earlier editions,
speaks of the velocity of money, "_alias_ the state of trade." Is not
this the truth? Is not money circulating rapidly, when business is
active, and slowly when business is dull? Is not the velocity of
circulation a highly flexible and variable average, a _cause_ of
nothing, and an index of business activity? Or, better, perhaps, are not
the V's and T both governed, in large degree, by more fundamental causes
which are largely the same for both? Fisher would admit something of
this for transition periods. Even for normal adjustments, he admits that
an increase in T, unaccompanied by an increase in M, leads to some
increase in the V's, though he doesn't say how much.[213] He denies,
however, that an increase in the V's will increase T.[214] In general,
it is clear that he regards the V's and T as governed by different
causes. The control of the V's by T is not the only or the chief control
of the V's. The V's can increase greatly without an increase of T, in
his scheme. That this is so, will appear from a comparison of the list
of causes which he gives as governing the V's and T respectively:

Causes governing V's:

  1. Habits of the individual.
    (a) As to thrift and hoarding.
    (b) As to book credit.
    (c) As to use of checks.

  2. Systems of payments in the community.
    (a) As to frequency of receipts and disbursements.
    (b) As to regularity of receipts and disbursements.
    (c) As to correspondence between times and amounts
         of receipts and disbursements.

  3. General causes.
    (a) Density of population.
    (b) Rapidity of transportation.

Compare this list with the causes governing T:[215]

  1. Conditions affecting producers:
      Geographical differences in Natural Resources; the
      division of labor; knowledge of technique of production;
      accumulation of capital.

  2. Conditions affecting consumers: the extent and
      variety of human wants.

  3. Conditions connecting consumers and producers:
    (a) Facilities for transportation.
    (b) Relative freedom of trade.
    (c) _Character_ of monetary and banking systems. (Not
         their _extent_.)
    (d) Business confidence.

These two lists are quite different, and indicate that in Fisher's mind
the magnitudes, T and the V's, in general obey different laws. The only
factor in both lists is facilities for transportation ("rapidity of
transportation," in the first list). Strangely enough, T, though later
recognized as having influence on the V's[216] is not included in these
lists in ch. 5. The "character of the monetary and banking systems" in
the second list is evidently not the same as "use of checks" in the
second list, though it will doubtless affect that factor, as also the
"habits as to thrift and hoarding," in some degree. "Business
confidence," which is, in the view I am maintaining, as in the view, I
should take it, of Horace White, the great variable affecting both T and
the V's, does not appear in the first list. Indeed, one wonders why
business confidence appears in either list, if only "normal," and not
merely "transitional" causes are to be considered, but it appears from
the fuller discussion on p. 78 that Fisher is not thinking of business
confidence as a _variable_ at all--his normal theory has nothing to do
with _variables_--but as a thing which either is or is not present, a
sort of Mendelian unit, not a thing of degrees.[217] It will be noted,
further, that most of the causes which Fisher lists as affecting T are
really causes affecting _production_--they would be just as important
under a socialistic as under an exchange economy.

Now I propose to show, on the basis of Fisher's own list of causes, that
most, if not all, of the factors affecting the V's, will also affect T,
_and in the same direction_. He admits this as to transportation
facilities. It is surely true of thrift and hoarding. The miser neither
circulates money nor buys goods. It is emphatically true--though
Fisher's theory, as will later appear, is obliged to deny it,--of both
book credit and banking facilities. Without the use of credit, much of
the business now done simply would not be done at all. For Fisher, and
the quantity theory in general, the contention would be simply that the
same business would be done _on a lower price-level_. I reserve a full
discussion of this fundamental point till later, noting here, in
passing, that the function of banks is to assist in effecting transfers,
that that is why, from the social standpoint, banks are encouraged, and
that the extension of banking would be folly if they did not, in fact,
do this. As to book credit, let us suppose that, for example, in the
great cotton section of the South the stores should cease to give
advances of supplies on credit to negroes and small white farmers,
pending the "making" of the crop. The outcome would be starvation for
many of them, and no cotton crop at all. Under a system of private
enterprise, the very division of labor itself, including the
specialization of the capitalist, involves credit, and it is difficult
to conceive a form of credit which does not either dispense with the use
of money, or increase its "velocity." Admittedly, the division of labor
increases trade.

The three factors listed under "Systems of payment in the community"
also affect trade. To the extent that receipts are frequent, regular,
and synchronous with outgo, we have a smoothly working economic system,
which facilitates commerce.

Finally, density of population enormously increases trade. The
concentration of men in cities is essential for modern factory
production, and the great cities have necessarily grown up about good
harbors, or at strategic points for connecting lines of railroads. It
seems almost trivial to insist on so obvious a point, but Fisher seems
totally to ignore it, for he says: "We conclude, then, that density of
population and rapidity of transportation have tended to increase prices
by raising velocities. _Historically this concentration of population in
cities has been an important factor in raising prices in the United
States._"[218] (P. 88. Italics mine.)

This is an astounding proposition. It is not merely that the
concentration of population in cities has _tended_ to raise prices
through raising velocities. It is a statement that this has been an
important historical cause of the actual increase in prices. For
Fisher's own theory, if the same cause had tended to increase T,[219]
that would have offset the rising V's on the other side of the equation,
and left prices little affected. But he sees in the V's an independent
cause here, divorces them from their connection with T, and follows his
logic fearlessly where it leads. I do not see how one could more
strikingly illustrate the essential vice of erecting the V's into causal
entities.

In concluding the discussion of the rôle of velocity of circulation, I
think it worth while to mention Fisher's own efforts to measure them. I
examine his statistics in a later chapter. I do not regard the points at
issue as points which can properly be handled by inductive methods,
primarily. I do not accept his conclusions with reference to the
magnitudes of V, the velocity of money, partly because I do not accept
his doctrine that "banks are the home of money" (p. 287).[220] He finds
for V a fairly constant magnitude during the thirteen years from 1896 to
1909, the range being from 19 to 22, the figures for all the years
except 1896 and 1909 being interpolations.[221] For V, however, which is
much the more important magnitude, from the standpoint of his equation
of exchange for the United States, since deposits do so much more
exchanging than does money, he finds a wide range of variation, from 36
to 54, and he states: "We note that the velocity of circulation has
increased 50% in thirteen years and that it has been subject to great
variation from year to year. In 1899 and 1906 it reached maxima,
immediately preceding crises" (285). I think Fisher's own statistical
results show that V´, at least, is a child of the "state of
trade."[222] Critical analysis of these statistics show that they
greatly underestimate the variability of the V's.[223]

In summary: V and V´ are not, as Fisher contends, independent of the
quantity of money. Instead of resting on "technical conditions," and
having large elements of constancy and rigidity, they are highly
flexible, and vary, on the whole, with the same highly complex and
divergent sets of causes which govern the volume of trade. The biggest
factor affecting the variations of the V's on the one hand, and volume
of trade on the other is business confidence--a factor which Fisher's
normal theory is not concerned with, so far as it is considered as a
variable, but which, more than anything else, does affect the concrete
figures which go into the equation of exchange, either for a single
year, or for an average of a good many years. The V's are not true
causal entities, but merely abstract summaries of a host of
heterogeneous facts. I have indicated before, and shall later
demonstrate more fully, that the same is true of T. Even the "normal"
causes governing the V's, however, are factors which likewise affect T,
and in the same direction.

Among the factors affecting both V and T, there is one which sometimes
makes them move in opposite directions, and that is the _value of money_
itself. This is so well stated in Wicksteed's interesting criticism of
the quantity theory that I content myself with a quotation:[224] "Again,
the history of paper money abounds in instances of sudden changes,
within the country itself, in the value of paper currency, caused by
reports unfavorable to the country's credit. The value of the currency
was lowered in these cases by a doubt as to whether the Government would
be permanently stable and would be in a position to honor its drafts,
that is to say, whether this day three months, the persons who have the
power to take my goods for public purposes will accept a draft of the
present Government in lieu of payment. It is not easy to see how, on the
theory of the quantity law, such a report could affect very rapidly the
magnitudes on which the value of the note is supposed to depend, viz.,
the quantity of business to be transacted, and the amount of the
currency. Nor is it easy to see why we should suppose that the frequency
with which the notes pass from hand to hand, is independently fixed. On
the other hand, the quantity of business done by the notes, as distinct
from the quantity of business done altogether, and the rapidity of the
circulation of the notes may obviously be affected by sinister rumors.
Two of the quantities, then, supposed to determine the value of the unit
of circulation, are themselves liable to be determined by it."




CHAPTER XIII

THE VOLUME OF MONEY AND THE VOLUME OF TRADE--TRADE AND SPECULATION


In proving that an increase of money must proportionately increase
prices, it is necessary to prove that the volume of trade is independent
of the quantity of money and credit instruments by means of which trade
is carried on. Money on the one hand, and quantity of goods to be
exchanged on the other, are the two great independent magnitudes, whose
equilibration mechanically fixes the average of prices. This notion, as
to the essence of the quantity theory, finds expression in Taussig,[225]
"The statement of a quantity theory in relation to prices assumes two
independent variables: total money or purchasing power on the one hand,
total supply of goods or volume of transactions on the other." Taussig,
though he would maintain that this independence holds, so far as money
and trade are concerned, admits that it breaks down so far as trade and
elastic bank credit, bank-notes and deposits, are concerned. Trade and
elastic bank-credit are largely _inter_dependent.[226] This concession
on Taussig's part means virtually giving up the quantity theory for
Western Europe and the United States and Canada, though Taussig still
sees something left of the quantity theory tendency in view of the
"irregular and uncertain" connection which he finds between money and
bank-credit.[227] Fisher, however, makes no such surrender. He is quite
as uncompromising as to the independence of _deposits_ and trade as he
is with reference to the independence of _money_ and trade. He does,
indeed, make the concession that increasing trade tends to increase
deposits _indirectly_, by increasing the ratio of M´ to M, by modifying
the habits of the people as to the use of checks as compared with cash
(p. 165),[228] but he denies stoutly that there is any _direct_ relation
between them. (P. 168.) Trade acts only _via_ a modification of the
ratio between M and M´, and M still remains controlled, not by trade,
but by quantity of money. As to any control over T by M´, he repudiates
it explicitly, (P. 163.) Increasing M´, either through an increase of M,
or through an increase in the normal ratio between M and M´, will have
no effect on T,--or, for that matter, on the V's. The introduction of
credit, therefore, leaves the quantity theory intact: an increase of M,
increasing M´ proportionately, leaving the V's unchanged, and having no
effect on T, must exhaust its influence on P, raising P proportionately,
if the equation of exchange is to remain valid.

The argument set forth to prove that T is not influenced by M or M´ is
as follows: "An inflation of the currency cannot increase the products
of farms or factories, nor the speed of freight trains or ships. The
stream of business depends on natural resources and technical
conditions, not on the quantity of money. The whole machinery of
production, transportation and sale is a matter of _physical capacities
and technique_, none of which depend on the quantity of money. The only
way in which quantities of trade appear to be affected by the quantity
of money is by influencing trades accessory to the creation of money and
to the money metal.... From a practical or statistical point of view
they amount to nothing, for they could not add to nor subtract one-tenth
of 1% from the general aggregate of trade." (_Loc. cit._ p. 155. Italics
mine.) Something similar is said on p. 62, where "transitional"
influences of M on T are being discussed: "But the amount of trade is
dependent, _almost entirely_, on other things than the quantity of
currency, so that an increase of currency cannot, _even temporarily_,
very greatly increase trade. In ordinarily good times practically the
whole community is engaged in labor, producing, transporting, and
exchanging goods. The increase of currency of a "boom" period cannot, of
itself, increase the population, extend invention, or increase the
efficiency of labor.[229] These factors pretty definitely limit the
amount of trade that can reasonably be carried on. So, although the
gains of the enterpriser-borrower may exert a psychological stimulus on
trade, though a few unemployed may be employed, and some others in a few
lines induced to work overtime, and although there may be some
additional buying and selling which is speculative, _yet almost the
entire effect_ of an increase in deposits must be seen in a change in
prices. Normally the _entire_ effect would so express itself, but
transitionally there will be also _some_ increase in the Q's." (Pp.
62-63. Italics mine.)

Fisher is here exceedingly uncompromising, even where transitional
periods are concerned, and it is not necessary, in order to do his
position full justice, to make much distinction between "normal" and
"transitional" effects in my counter-argument. I shall, however, take
account of the distinction as I proceed, in justice to other, more
moderate, quantity theorists.

It is a familiar doctrine that the quantity of money is irrelevant, that
things go on in much the same way whether money is abundant or scarce,
the only difference being that in the one case prices are high and in
the other, low; that, in particular, it is a gross fallacy to connect
the rate of interest with the amount of money, since (as many writers
would put it) the rate of interest depends on the amount of _capital_
rather than _money_. At the opposite extreme, we have writers like
Brooks Adams (_Law of Civilization and Decay_), who see the fate of
nations and the progress of civilization resting on the abundance or
scarcity of money. Fisher takes the first position in its extremest
form.[230]

The truth, I think, is intermediate. The effects of the New World
discoveries of gold and silver after the voyage of Columbus on trade and
industry were tremendous. Trade was enormously increased. Walker, in his
_Inter__national Bimetallism_,[231] asking, from the standpoint of a
quantity theorist, why prices only increased 200% while money increased
470%, admits that the chief reason was the increase in trade, due in
large part to the very increase in money itself. Sombart, in his _Der
Moderne Kapitalismus_,[232] finds in this influx of money a tremendous
source of capitalistic accumulations, (a) for the Conquistadores, (b)
for the handicraftsmen whose prices rose faster than their costs, (c)
for tenants whose rents were fixed in money, (d) for landowners, whose
rents were fixed in kind [a point not obviously true], and (e) for
bankers, as the Fugger. An increase of capital, savings that would
otherwise not have been made, must have profoundly modified the whole
industrial system, and greatly increased both industry and commerce. If
it be objected that effects of this sort are not usual, that they came
in a world which had been starved for money, and which, by means of the
enormous increase in money was able to pass from a "natural" to a money
economy, I reply that the difference between such a case and the usual
effects of an increase of money are in degree rather than in kind. The
world of Columbus' day was in part on a money economy, and the world
to-day, despite Professor Fisher's emphatic denial,[233] still employs a
great deal of barter, or equivalents of barter. I shall revert to this
point later. But even this consideration would not rob Sombart's points
of their significance for modern conditions. Further, we have an even
more striking case, on Walker's own showing, in the effects of the
Californian and Australian[234] gold discoveries in the 19th Century on
trade, industry, and speculation.[235]

Nor is the tremendous agitation over bimetallism, involving a literature
so great that no man could dream of reading it all, involving great
political movements, Presidential campaigns, great Congressional
debates, repeated legislation, international conferences, etc., for
twenty years, to be explained on any other ground than that the world
felt practical, important, and unpleasant effects on industry and trade
from the inadequacy of the money supply.

The view of Hartley Withers[236] is interesting here. He says: "any such
great addition to currency and credit would have a great effect in
stimulating production, and so would lead to a great addition to the
number of real goods which humanity desires and consumes when it can get
them.... Trade would be more active." On p. 23 he speaks of the enormous
expansion of trade made possible by paper representatives of gold. On p.
83 he speaks of the attitude of the money-market toward gold, which the
orthodox economist is apt to think of as a survival of Mercantilism.
Withers thinks that the money market is right in a large degree.

As illustrating Withers' statement about the views of "practical men" on
this point, the following extract from a recent address by Theodore
Price, quoted with approval in a "market letter," written by Byron W.
Holt,[237] is interesting: "The fact seems to be that the exigencies of
war in Europe are leading to an extension of credit such as would not
have been possible in peace, because the hesitant conservatism of
bankers would have then prevented it, and we are finding that instead of
working harm it is doing good, because huge masses of fixed capital are
thereby made productive, and are circulating with the increased velocity
that always quickens enterprise and accelerates the wheels of
industry.... All the precedents of history indicate that accelerated
activity will come with peace and continue until the exuberance of
success has led men to build faster than the world has grown and to
demand credit upon the basis of future rather than of present values."

What is the essential causation in the matter? Well, viewed merely as a
matter of mechanical equilibration, the quantity theory view is not
strictly true, by any means. For a given country--and Fisher's quantity
theory is always a theory for a given country, and, indeed, for any
separate market, even a single city[238]--an increase of banking credit
means an increase in non-monetary capital, because, to a greater or less
extent it dispenses with the use of gold, which goes abroad, bringing
back wealth in other forms in exchange. Adam Smith saw this clearly,
and phrased it strikingly, likening gold and silver coins to the
wagon-roads of Scotland, which are necessary for transportation, but
which none the less prevent the use of the roadways for raising grain;
whereas bank credit is like a wagon-road through the air, which restores
the roadbeds to cultivation. Increased non-monetary capital, other
things equal, should mean increased trade.

But, more fundamentally, an increase in gold itself within the country,
if not bought by the export of an equivalent amount of other goods, _is
an increase of capital_. Not all capital is money, but standard coin is
capital. Money is a tool of exchange, and exchange is part of the
productive process. More money means more exchanging. That is what money
is for. Part of the mechanism is in the money rates, which go down as
money becomes more abundant, making it profitable to effect exchanges
which would not have been profitable had the money rates been higher.
Granted that the money-rates and the general rate of interest tend, in
the long run, to keep--I will not say at the same figure[239]--a certain
fairly definite relation to one another, it still does not follow that
the new "normal" equilibrium will give us an interest rate which is the
same as the general rate of interest was before the influx of gold. On
the strictest static theory, this is not to be expected. Because the
total amount of capital in the country is increased, and this means a
lowered interest rate all around, in the marginal employment of capital.
The margin of the use of capital will be lowered everywhere, including
the margin for the use of money. This means permanently lowered money
rates in the country, even though the permanent level be higher than the
initial money rates immediately following the access of new gold. I
have put the argument in terms that suggest the productivity theory of
interest, because it is more simply stated that way. I do not accept the
productivity theory, as a fundamental explanation of interest, but for
many purposes, the results to be obtained by it coincide with the
psychological time theories,--which also, in their present form, seem to
me imperfectly developed. I need not try to construct a theory of
interest here, however, as the familiar theories lead to no trouble at
this point. It is enough to point out that the increased amount of
capital, meaning better provision for present wants--wants concerned
with gold in the arts and with money for productive exchanges, as well
as goods generally since part of the new gold will be exported for other
things--will lessen the pressure of present as compared with future
wants, and so lessen the rate of interest on the time-preference theory.
The final outcome will be an extension of the marginal use of money, and
a greater volume of exchanges. Of course, the increase in the supply of
any kind of capital good, apart from a prior increase in the demand for
its services, will, on the mechanical view of economic causation,
necessarily lead to some fall in its capital value. Gold money will be
no exception to this rule. As to how much the increase in its quantity
will lead its capital value to fall, however, we are unable to say. For
the quantity theory, the fall will be in proportion to the increase. For
the theory just outlined, the fall will depend on the elasticity of
demand for gold in the arts, and on the elasticity of "demand" for
money, meaning by demand for money simply the demand for the short-time
use of money as a tool of exchange, a demand which governs _directly_,
not the capital value of money, but rather the "money-rates." The
relation between the money rates and the capital value of money will
best be discussed at another point.[240] We have no reason at all to
suppose that either of these demands[241] exhibits the tendency to obey
the law of proportional variation which the quantity theory requires of
money.

It is further important to note that as a country gets more abundant
capital, there seems to be a tendency to extend the use of money rather
more than the use of many other capital goods. Where the interest rate
is 10 and 12%, as in Arizona and New Mexico, money, even when brought
in, tends to leave in large degree to bring in other forms of capital
which the situation calls for more imperatively. The early American
colonies, needing money pressingly, and making shift with a great
variety of substitutes for good metallic money, thoroughly acquainted
with the advantages of a money-economy from their European experience,
and having "habits" as to the carrying and using of money which they had
brought with them from Europe, still found it impossible to keep a great
deal of metallic money, in view of the still greater importance of other
forms of capital. It is in the most highly developed commercial
communities, commercial centres, and _par excellence_, in the
speculative centres, that the demand for the money-service is most
elastic.[242] A country where the rate of interest is low, loses other
forms of capital, and gains money, in the process of reëquilibration, as
compared with a new and undeveloped section, although the new section
also extends the margin of the money service, in effecting a greater
number of exchanges, when money is increased.

And this leads to a vital distinction, which quantity theorists almost
always lose: the distinction between the volume of _production_, and
the volume of _trade_. Even in the mechanical system of causation which
they describe, it is true only of production and transportation that
_technical_ and _physical_[243] factors are of primary significance, and
that money is of minor significance. For trade and commerce, money is
always highly important. To the extent that a region is primarily given
over to the primary productive activities, mining, and agriculture, such
trading as is necessary can be done by means of a small amount of money,
supplemented by barter and long-time book-credit. A region or a city
whose chief business is _commerce_, however, needs a large part of its
capital in the form of money, and of banking capital, which is largely
invested in money for banking reserves. _Trade_, as distinguished from
industry (and it is after all trade that is under discussion), is helped
or hindered as its tools are more or less abundant. These considerations
would suggest that the elasticity of the demand for the use of money is
greater than the elasticity of demand for the use of capital in almost
any other form. Production is, indeed, limited by labor supply and
natural resources, in considerable degree. _Trade_,[244] however, even
from the standpoint of mechanical causation, is limited chiefly by the
relation between the profits to be made in commercial transactions, and
the "price" that must be paid for the money and credit that are required
to put them through. There are enormous numbers of transfers that could
be made to advantage if there were no cost at all involved. They are not
made, because exchanging requires pecuniary capital. Let the pecuniary
capital increase, however, and sub-marginal exchanges become worth
while, the general margin is lowered. Commerce is the most highly
flexible and elastic portion of the whole productive process. The
elasticity of demand for commercial capital is, thus, greater than the
elasticity of demand for any other form of capital.

How widely the volume of trade differs from the volume of production,
and how great is the element of speculative transactions in trade, will
best appear, I think, from an analysis of the figures which Fisher
gives[245] for the volume of trade in the United States. His figure for
the volume of trade in the year 1909 is $387,000,000,000.00, three
hundred and eighty-seven billions of dollars! This figure is reached by
equating the figures he has reached for MV plus M´V´ to PT, and assuming
P to be one dollar, by making the "unit" of T, arbitrarily, a dollar's
worth of each sort of commodity, at the prices of 1909. I have already
commented on the legitimacy of this method of summarizing T,[246] and
need not say more here, beyond calling attention to the fact that
"volume of trade," as commonly used, does in fact mean, not T alone, but
PT. Fisher for years other than 1909, however, makes use of a different
method of getting at T: he takes certain indicia of _relative_ amounts
of trade, compares them with the same indicia for 1909, and estimates
the trade for other years as being such a percentage of the trade for
1909 as their indicia are of the indicia of 1909. The indicia chosen
are: (1) quantities of certain commodities, cotton, fruit, cattle, etc.,
_received at_ principal cities of the United States, taken as typical of
the variations of the internal _commerce_ of the United States; (2)
quantities of 23 articles of import and 25 articles of export, for each
year, taken as typical of variations in the foreign trade of the United
States; (3) sales of stocks. These three indicia, weighted in a manner
to be described in a moment, are then averaged. There is a second
element in the index, made up by taking the figures for railroad
_tonnage_, and the figures for _receipts on first class mail_, which are
averaged. The first average and the second average are then combined
into a third average, which is the final index. The relation between
this index for every year other than 1909 and the same index for the
year 1909 determines the amount of T for each year--the two indicia,
together with the figure, $387,000,000,000.00, giving the required
amount by the "rule of three." I shall not go into details with the
method of constructing these averages, but I wish to make clear the
comparative _weight_ given to each element in the final index: The first
three elements count _twice_ as heavily as the last two, and so
constitute the biggest factor. In the first average, based on the first
three elements, the item taken as typical of internal trade is _weighted
by 20_, the item taken as typical of foreign trade is _weighted by 3_,
and sale of stocks _by 1_. It appears from Fisher's figures (p. 479),
that the one really big _variable_ among all the indicia is the sale of
stocks, but the weight given it is so small that it makes virtually no
difference in the final result. Thus, as between 1898 and 1899, stock
sales increased over 50%, but total trade, as shown by Fisher, increased
only 5%. In the following year, stock sales _decreased_ over 21%, but
total trade, on Fisher's figures, _increased_. The following year, 1901,
stock sales virtually doubled, but Fisher's final figure shows only an
increase around 13%. Two years later, in 1903, stock sales fell off
about 40%, from the figures for 1901, but again, as compared with 1901,
total trade on Fisher's figures shows an appreciable gain. The influence
of stock sales on Fisher's index is, virtually, negligible. The
dominating factor is the _receipts_ of selected staples, cattle,
cotton, rice, pig iron, etc., in the principal cities of the United
States. There is not a _single year_ in which his final figure for T
does not move in harmony with this factor (p. 479). He gets, thus, for
the volume of trade through the fourteen years under consideration, a
surprising steadiness, and a pretty uniform progressive development.

In defence[247] of his method of weighting, Fisher says, simply: "These
weights are, of course, merely matters of opinion, but, as is well
known, _wide differences in systems of weighting make only slight
differences in the final averages_." (Italics mine.)[248]

Are these figures valid? Well, first one is struck with the absolute
magnitude assigned to T. The figures seem vastly greater than would have
been anticipated. The method of calculating it, for 1909, I shall
discuss in detail in the chapter on "Statistical Demonstrations of the
Quantity Theory." For the present, it is enough to note that the
absolute magnitude is derived from figures collected by Dean David
Kinley for the National Monetary Commission,[249] of deposits, exclusive
of deposits made by one bank in another, made in about 12,000 banks (out
of 25,000) on March 16, 1909. These deposits were classified as (1)
money (with subdivisions) and (2) checks and other credit instruments. A
cross-classification divided them into (1) retail deposits; (2)
wholesale deposits; (3) all other deposits. Kinley's object was to
determine the extent to which checks are used, as compared with money,
in payments, particularly in wholesale and retail business. Fisher's
total, briefly, was obtained as follows: Kinley's figures, for the one
day, were increased to make an allowance for the non-reporting banks;
they were further increased on the assumption that March 16 was below
the average for the year; the figure finally obtained for the day was
then multiplied by 303, assumed as the number of banking days in the
year, and the product, 399 billions, was taken as representing the total
circulation of money and checks in trade. For some reason not made
clear, this total was subsequently reduced to 387 billions. Counting the
average price, P, as $1, T was considered to be 387 billions.[250]

In the statistical chapter to follow, it will be shown that this
estimate is a very decided exaggeration. Deposits made in banks greatly
overcount trade. Very many payments represent duplications, loans and
repayments, taxes, etc., and are in no sense trade. This is true of all
classes of deposits, wholesale and retail, as well as "all other." But
for the present, I am concerned with the question, not of the absolute
magnitude of the volume of trade, but rather, the questions of its
character, of the elements that enter into it, and, above all, of the
extent to which it is physically determined by technical conditions of
production, and the extent to which it is flexible, a matter of
speculation, etc.

We may approach this question from the angle of several bodies of
statistical information. First, the question may be raised: what is
there in the country which could be bought and sold enough in the course
of a year to give us anything like so great a total? The subtractions
which we shall find it necessary to make will still leave us an enormous
total.

The United States Census Bureau[251] in 1904 reached the conclusion that
the _total wealth_ of the country was only $107,000,000,000. Of this,
over $62,000,000,000 was in real estate; $11,000,000,000 in railroads;
street railways, over $2,000,000,000; telephone, telegraph, water and
light, and similar enterprises total nearly $3,000,000,000 more. None of
these things enter into ordinary wholesale and retail trade. The items
that one would ordinarily think of are agricultural products,
$1,900,000,000; manufactured products, $7,400,000,000; mining products,
$400,000,000. Can these things be exchanged often enough in the course
of a year to account for $387,000,000,000!

These figures are for 1904,[252] whereas Fisher's figures are for 1909.
If the Census Bureau had taken an inventory in 1909, the figures would
doubtless be larger. The inventory for 1912 made by the Census Bureau
does show a very considerable increase, the largest item being due to a
rise in real estate values. The figures for agricultural, manufacturing,
and mining products are, also, figures for a given time rather than for
total production through the year. But, making all the allowance one
pleases, it is quite incredible that one should reach a figure of
$387,000,000,000 by taking only the exchanges necessary to bring raw
materials through the various stages of production to the consumer. The
greater part of the $387,000,000,000 is to be explained in another way!

A detailed analysis of Kinley's figures, on which the estimate of total
trade is based, leads clearly to the same conclusion. Kinley's figures
for the banks that reported on March 16, 1909, are as follows:

  Retail deposits              60 millions
  Wholesale deposits          124 millions
  "All other" deposits        502 millions

The "all other deposits" are vastly greater than retail and wholesale
deposits combined! Notice, too, with reference to the question as to how
often goods need to be turned over in getting to the consumer: wholesale
trade uses only about twice as much money and checks as does retail
trade. Goods are not, if these figures are in any way typical of actual
trade, turned over many times in the process of reaching the consumer.
The "necessary," or "physically determined" number of exchanges, in the
routine of trade, is small, per item.

Retail deposits of 60 millions make up less than one-eleventh of the
total. Retail and wholesale deposits together make up about
three-elevenths. What is the other eight-elevenths, represented by the
"all other deposits"? It will help if we see where these "all other"
deposits are located. If we find them scattered evenly throughout the
country, in rural regions as well as in cities, we might be at a loss.
If, however, we find them bunched in the big speculative centres, we may
conclude that speculation accounts for a large part of them. We do in
fact find this.

The following figures show the different classes of deposits (1) in the
South Atlantic States; (2) in reserve cities; (3) in New York City
alone:

      _South Atlantic States:_                    _Per Cent._

  Retail deposits                  $ 3,300,000        19.0
  Wholesale deposits                 4,900,000        29.0
  "All other" deposits               8,900,000        52.0

      _Reserve Cities (including New York City):_

  Retail deposits                 $ 24,000,000         5.6
  Wholesale deposits                78,000,000        18.2
  "All other" deposits             326,000,000        76.1

      _New York City:_

  Retail deposits                    9,000,000         3.7
  Wholesale deposits                34,000,000        14.0
  "All other" deposits             198,000,000        82.2

It is difficult, with Kinley's figures, to get figures which exclude
returns from cities of substantial size, except for a State like Nevada,
where the mining and divorce industries complicate the figures. As near
an approach as can be made, perhaps, is to take the State of Louisiana,
excluding New Orleans from the totals. Even here, however, we include
five cities of over ten thousand, among them Shrevesport, with 28,000
people. The following figures are for the State and national banks in
Louisiana, exclusive of New Orleans:

  Retail deposits                     $179,915        24.1
  Wholesale deposits                   246,647        33.1
  "All other" deposits                 318,915        42.8

We cannot tell, in these figures for Louisiana, how many banks are
represented, or what the average figures per bank are. For the whole
State of Arkansas, however, including five cities of over 10,000, with
two over 20,000, and one of 45,000, we can get an average for ninety
reporting banks. Even here we do not know where these banks are located
within the State; though it is probable that they are in the larger
places, and so exceed the average deposits for the banks in the State as
a whole, to say nothing of the average for the smaller places. The
ninety banks are almost wholly State and national banks.

      _Arkansas:_                                 _Per Cent._

  Retail deposits                     $232,017        25+
  Wholesale deposits                   231,614        25+
  "All other" deposits                 456,544        49+

The average for all deposits, per bank, in Arkansas is $10,224; the
average for all the 11,492 banks reporting for the whole country is,
approximately, $60,000; the average for the 659 banks reporting from New
York State is $502,136; the average for the banks in New York City alone
is doubtless much higher, but cannot be stated, as Kinley's figures do
not tell how many banks reported by cities.[253]

The "all other deposits" in Arkansas are 27.8% cash, and 72.2% checks;
the "all other" deposits in the country as a whole are only 4.1% cash,
with 95.9% checks; the "all other deposits" of New York City are only 1%
cash, with 98.9% checks.

Several facts are very clear from these comparisons: (1) the proportion
of "all other deposits" increases very rapidly as we get closer to the
great centres of speculation, and is lowest in rural regions; (2) the
great bulk of all the deposits is in the cities. The average for
Arkansas banks, for example, is only one-sixth the average of the whole
country, and is only one-fiftieth the average for the banks of New York
State. It is a much smaller fraction of the average for New York City,
but we cannot give an exact figure. The totals reported from the rural
regions are trifling, as compared with the totals reported from the big
cities. This, as will be made clear in the chapter on "Statistical
Demonstrations of the Quantity Theory," is not because the country
reports were less complete that the city reports. New York was probably
less complete than the country as a whole. It is simply because the
activity of country accounts is small, the amount of trading in the
country districts small, and (as shown) the _average_ for country banks
is small. (3) The character of the "all other" deposits in Arkansas
differs substantially from that of the "all other" deposits in New York
City, as indicated by the fact that the proportion of cash is high in
Arkansas--substantially higher, in fact, for the "all other" deposits in
Arkansas than for all deposits, or even for retail deposits, in the
country as a whole. The percentage of checks in total retail deposits in
the United States, in Kinley's figures, was 73.2; the percentage of
checks in the "all other" deposits in Arkansas was 72.2. We may count
these Arkansas "all other" deposits as, in considerable degree, deposits
made by farmers. What were the "all other deposits" made in New York
City?

Dean Kinley's list of the miscellaneous elements that enter into the
"all other deposits," given on p. 151, contains only two that might be
expected to bulk large in New York without appearing in Arkansas. These
are: _brokers_, _and stock and bond financial corporations_. Of course,
theatres, hotels, publishing houses, railroads, public funds, "those
who have no specific business," and rich churches, will all be
absolutely much larger in New York City than in Arkansas. But these
things may be found in many places, scattered throughout the cities of
the country, without making anything like such "all other" deposits as
New York shows. It is not New York's foreign commerce that does it,
because that is represented in New York's "wholesale deposits," which
make up only 14% of New York City's total deposits for the day. It
cannot be the supposed "clearing house" function of New York City,[254]
whereby banks in different parts of the country pay their balances due
one another in New York exchange, because such transactions would appear
in New York chiefly in the figures for deposits made by one bank in
another, and these figures are excluded from Kinley's totals. It cannot
be the deposits of the "idle rich" for current expenses that swell New
York's "all other deposits" so greatly--these could not equal the total
retail deposits of the city, which are only 3.7% of the total in New
York. Moreover, similar deposits are made in many other cities, without,
in proportion to population, making any such totals. Figures, moreover,
for the aggregate yearly income of the United States, and for the
distribution of that income between rich and poor, make it clear that
any such items must be bagatelles in comparison with these enormous
figures. The only explanation that will really explain is the
speculative and investment and financial transactions that centre in New
York, and, in less degree, in the other great financial cities of the
country.

This is Dean Kinley's opinion. In the "all other" deposits he makes a
50% allowance for speculative transactions. "A large proportion of
deposits in this 'all others' class undoubtedly represents speculative
transactions, all of which, or practically all of which, are settled
with credit paper."[255] It is also the opinion of General Francis A.
Walker, expressed concerning similar figures from earlier
inquiries.[256]

Various kinds of evidence converge toward this conclusion. Thus, the
evidence of clearings, total items presented by banks to the clearing
houses of the country. New York clearings are usually nearly twice as
great as total clearings for the rest of the country. New York clearings
fluctuate in general harmony with transactions on the New York Stock
Exchange. This has been commented on many times. The extent to which it
holds has recently been carefully measured by Mr. N. J. Silberling,
whose results appear in the _Annalist_ for August 14, 1916, under the
title, "The Mystery of Clearings." Mr. Silberling applies the
"coefficient of correlation" to the problem, getting in one significant
figure a measure of the extent to which two variables, as share sales on
the New York Stock Exchange and New York clearings, vary together. This
coefficient has been used enough by economists not to require detailed
explanation here. It is a figure always between +1 and -1. +1 indicates
that the two variables in question are perfectly correlated, whereas 0
indicates no correlation whatever. -1 indicates an inverse correlation,
such that two variables vary exactly and inversely with reference to one
another.[257]

Mr. Silberling's studies show the following correlations: New York share
sales (numbers of shares, not values) to New York clearings, using
weekly figures, for the years 1909-10, r = .628. This is a high
correlation. Limiting the observations to the middle weeks of the month
for the same period, he gets r = .731(46). The reason for taking only
middle weeks in the month is that thereby the disturbing factor of
monthly settlements is avoided. The monthly settlements may be for stock
transactions, or may be for other things, but as they are not dependent
on the stock transactions _of the week_ in which they occur, their
effect is to lessen the evident degree of connection between stock
sales and clearings. Thus the middle weeks show a closer correlation
between the two variables than do all the weeks taken as they come. If
figures for the month were taken, this complication would be smoothed
out, and a fairer result might be expected to appear. The middle weeks,
eliminating monthly settlements, probably eliminate more other things
than they do share sales (which are in large degree paid for in 24
hours[258]), and so exaggerate somewhat the relation between shares and
clearings. Monthly figures avoid both complications, though they lose
something of the concrete causation. An intermediate figure might be
expected for the monthly correlation, and this we find: r = .718(23).

A striking single fact in connection with these figures, giving them
point as less extreme variations could not do, is found in the behavior
of clearings when the Stock Exchange was closed, during the crisis of
1914. At that time, New York clearings, which had been about twice as
great as country clearings, fell suddenly _below_ country clearings.
When the Stock Exchange was opened, the old proportions suddenly
reappeared.

That speculation spreads far beyond New York, New York being the centre
for dealings in securities, etc., which involve the whole country, is,
of course, well known. The extent of this Mr. Silberling seeks to
measure by correlating clearings outside New York with New York share
sales. His weekly correlation for these two variables for 1909-10 gives
r = .368(103), and the correlation for the mid-weeks gives a higher
figure, r = .424(46). The monthly correlation shows r = .257(23), a
lower figure, "which is perhaps due in part to the fact that the bulk of
the outside monthly clearings show relatively moderate fluctuations,
because of their diverse composition, and are less sensitive than the
periods of shorter length."

Seeking an index of the variations of that trade which is, in Professor
Fisher's phrase, governed by "physical capacities and technique"--a law
which Professor Fisher,[259] as we have seen, would apply to the great
total of 387 billions which he has constructed--Mr. Silberling chooses
the gross earnings of the principal railways as the best available test.
Railways deal with all manner of other enterprises. He correlates this
with clearings outside New York. "The question might arise at once
whether changes in traffic are strictly concomitant with changes in
payments involved by it, and therefore with the clearings resulting. The
preliminary hypothesis that a 'lag' ensued between traffic and the bulk
of the payments was first tested by correlating the railway figures with
clearings of one month[260] and two months later, but no correlation was
obtained. The direct month-to-month correlation yielded, however, a
result r = .524(23)." This suggests that outside clearings are, in
substantial degree, an index of physical trade, but Mr. Silberling calls
attention to certain chance agreements between railway traffic and
speculation in cotton and produce and grain, speculation in the crops
which are in current movement, and regularly recurring concomitances
between traffic and speculation in March, when the railway traffic
revives after the February lull, and when there is a large mass of
dealing in Spring deliveries in Chicago. In view of the facts later to
be developed, with reference to the small actual value of the necessary
physical exchanges (partially covered already) as compared with
clearings, this query is well put. We may easily have here a "spurious"
correlation. Taking it at its face value, however, and taking the
correlation as indicating the influence of physical trade on bank
transactions, we get the following results, when _total clearings for
the country_ are compared with (a) New York share sales, and (b) with
railway gross earnings: (a) r = .607(23); (b) r = .356(23). "Physically
determined trade" is at best a minor factor in that total "trade"
represented by bank transactions!

Mr. Silberling has buttressed his results with a consideration of
various alternative possibilities which might give them a different
interpretation. I need not, for present purposes, go further into his
figures.[261] Taken in conjunction with the other data presented, and to
be presented, together with the theoretical discussion of the nature of
trade, and its relations to money and credit, which the present volume
contains, they give the present writer abundant confidence in the thesis
that the great bulk of trade in the United States is SPECULATION, rather
than that sort of trade which is determined "by physical capacities and
technique."

The figures given above, of the inventory of wealth at a given moment of
time, by the Bureau of the Census, show only trifling magnitudes, as
compared with the estimated 387 billions of deposits made in 1909, of
items which could enter into ordinary trade, as distinguished from
speculation and dynamic readjustments. An effort to calculate ordinary
trade on the basis of figures running through the year may throw further
light on the problem. Railway, gross receipts for the year ending June
30, 1909, were less than two and a half billions. This is six-tenths of
1% of the total. Receipts of the Western Union Telegraph Company were
$30,451,073--less than one-hundredth of 1%. The Post Office in the
fiscal year ending in 1909 took in $203,562,383. This is something over
one twentieth of 1%. These are gigantic sums. But they are insignificant
indeed in this computation. Millions of smaller items simply do not
count at all--ten million items of $387 each would give only 1%. The
total net income of the United States, as estimated by W. I. King for
1910, including all forms of income, dividends, interest, wages, rents,
profits, salaries, etc., is $30,500,000,000[262]--around 7% of the 387
billions.

Let us sum up the major items of ordinary trade. From Kinley's figures,
we may get some idea of the proportions of wholesale and retail trade to
the total for 1909, assuming that the deposit figures indicate that
total. Retail deposits make up less than one-eleventh of the total, and
wholesale deposits about two-elevenths. The figures were: retail, 60
millions, wholesale, 124 millions, and "all other," 502 millions. But
the "all other" deposits were lower than normal. New York City was, in
the first place, probably less complete than the rest of the country, in
the figures returned, and, in the second place, New York City, as shown
by the clearings of March 17 (the next day, when checks deposited in New
York would get into the clearings) was 28% below normal. The rest of the
country was within 3% of normal.[263] Not to refine matters too much, we
shall, on the assumption that the variable element in New York deposits
is connected with the Stock Exchange (as shown by Mr. Silberling's
correlations and other considerations), and on the assumption that
deposits connected with the stock market appear in the "all other"
deposits, add a little over 20% of New York's total of 198 millions, or
40 millions, to the "all other" deposits for the country, leaving the
wholesale and retail deposits unchanged. What error there is in this is
favorable to the wholesale and retail deposits. Our proportions, then,
are: retail, 60, wholesale, 124, "all other," 542, total, 726. If the
retail deposits correctly represented retail trade, we could then say
that retail trade was a little less than one-twelfth of the whole, and
wholesale trade about one-sixth. But there are many speculative
transactions engaged in by wholesalers, and a good many by retailers.
The writer knows a small delicatessen dealer on Amsterdam Avenue, in New
York, who frequently speculates in eggs and canned goods. A colleague in
the Harvard Graduate School of Business Administration is authority for
the statement that speculation in canned goods and some other things is
quite common among retailers, particularly "hedging" by the use of
"futures," in canned goods. Speculation among wholesalers is very
extensive. The same is true of manufacturers. The same authority cited
some cotton manufacturers whose profits from cotton speculation are
greater than their profits from manufacturing. We shall see reason to
suppose that a very substantial part of manufacturers' deposits were
included in the wholesale deposits. That the figures for retailers'
deposits exaggerate the retail trade may appear from several
considerations: (1) The proportion of checks to cash reported is too
high: 73.2%. Dean Kinley allows 5% of the checks deposited to be
"accommodation checks,"[264] cashed for customers, rather than taken in
in trade. (2) If retail deposits are taken as exactly representative of
retail trade, we should get a retail trade for the year of over 32
billions (1/12 of 387 billions), which would exceed the total income of
the country as calculated by King for 1910. Dean Kinley reached the
conclusion that the retail deposits reported in 1896 also exceeded the
probable retail expenditures.[265] Of course, not all of retail trade is
in consumption goods. Hardware stores, lumber stores, and some other
retail establishments sell, not only to householders for domestic use,
but also things which enter into further production, and so do not come
out of annual income. If we include in retail trade various items which
were not included there in Kinley's figures, such as hotels, theatres,
newspaper receipts from subscription and street sales, physicians' fees,
etc.--all those items which enter into the domestic budget, including
domestic service, we should still not be justified in reaching a total
as great as the total income of society, since there would then be no
allowance for savings, which we should not count in trade, or for life
insurance, which we shall count separately. The items sold at retail
which enter into further production cannot make a great total, since
large producers buy such things at wholesale. Total retail trade,
therefore, and, in addition all the other items in the domestic budget,
must be held below the figure for total national income. Suppose, to be
very liberal, we allow 29 billions[266] for all these items, under the
general head of "retail trade."

For wholesale trade, if we take the figures at face value, the estimate
would be 65-3/4 billions (124/726 of 387 billions, or 17% of 387
billions). But we have seen that there is a great deal of speculation
among wholesalers. Not all of their deposits, by any means, represent
receipts from ordinary business. Moreover, there is much overcounting
here, several checks being used for one transaction, especially where
wholesalers have branch houses, and checks connected with loans and
repayments, and transfers of funds from one bank to another. How much we
should subtract for this there is no way to tell. In the case of retail
figures, we have the additional check of the figures for total net
income, but there is no such check here. We shall, therefore, make no
subtraction, but shall content ourselves with pointing out that we are
allowing many billions[267] to "ordinary trade" to which it is not
entitled, which will much more than offset errors in the opposite
direction which the reader may find in our computations.

Do manufacturers' receipts from first sales belong in the wholesale
deposits, or must they be counted as a separate item? Dean Kinley does
not say. In his list of items, as reported by banks, that go in the "all
other" deposits,[268] he does not mention manufacturers, and the item is
far too important not to have been mentioned by so careful a writer had
he supposed that it belonged there. If manufacturers' first receipts
belong, not in the wholesale deposits, but in the "all other" deposits,
then we should expect manufacturing cities to show a high percentage of
"all other" deposits as compared with wholesale deposits. The city of
Pittsburg should be a good test case. The figures there, for State and
national banks and trust companies, are:

                                            _Per Cent._
  Retail deposits         $1,061,420            9.6
  Wholesale deposits       3,368,004           29.7
  "All other" deposits     6,672,378           60.6

For Pittsburg, the percentage of "all other" deposits is lower decidedly
than the percentage for the country as a whole (about 75%), much lower
than for cities where there is active speculation, as Chicago and St.
Louis, to say nothing of New York, and is closer to the percentage of
the South Atlantic States, 52%, than to the average for the country. The
wholesale deposits of Pittsburg, however, rise to 29.7%, as against an
average for the country of 17%. There is nothing in these figures to
suggest that manufacturers' first receipts are exclusively in the "all
other" deposits. I should think it safe to hold that a substantial part
of them were included in wholesale deposits, and so already accounted
for in our estimate. The total value of products manufactured in 1909
was $20,672,051,870. I shall allow $5,672,051,870 of this to have been
already accounted for in our estimate of wholesale trade, and count 15
billions of it as a separate item. If there is an error here, it is very
much more than offset by our failure to subtract anything from the
wholesale figures for speculation. I think it probable that much more of
the figures for manufactures should be assigned to the wholesale figures
than I have assigned.

To these figures, we may add a number of other items, absolutely great,
but insignificant, in comparison with the 387 billions not only, but
also with the figures for retail and wholesale trade already reached.
These are: total farm value of farm products (not nearly all of which is
sold off the farm) $8,760,000,000; total mineral products,
$1,886,772,843; total mill value of lumber, $684,479,859; total life
insurance premiums (much of which is savings, and in no proper sense
trade), $748,027,892; total fire, marine, casualty and miscellaneous
insurance, $362,555,850; total wages and salaries, $14,303,000,000;
total land rent, $2,673,000,000;[269] and the items for railway gross
receipts, post office, telegraph, already mentioned. The total of these
items, together with retail and wholesale trade and manufactures, is
$141,860,618,000. This is only 36.6% of the total of 387 billions. It
leaves over 245 billions unexplained. What can the 245 billions
represent? There is really no way in which ordinary trade can make up
more than a very few more billions, so far as I can see. There remain no
items as big as 1% of the total, and, as we have seen, small items, of
hundreds of dollars each, are like "infinitesimals of the second
order"--they simply do not count at all when such staggering figures are
involved.[270]

There remains, then, a total of 245 billions of check and money payments
which are for something other than the ordinary trade of the country.
What do these payments represent? Much of this total represents
overcounting and duplications of various kinds, which we shall consider
in a later chapter. Much of it also represents speculation and dealings
other than speculative in securities. When we seek to find actual
figures of transactions in any field, retail, wholesale, or speculative
markets, or anything else, it is exceedingly difficult to find anything
that approaches the amounts indicated by the banking transactions
connected. I do not think that a record of all sales would show retail
sales or wholesale sales anything like so great as the figures as we
have allowed for them on the basis of the retail and wholesale deposits.
When we look at the recorded figures of transactions on the speculative
exchanges (or at estimates which competent observers make when records
are not available), the figures, though very large, do not begin to
equal the banking figures with which we have to deal. The New York Stock
Exchange in 1909 showed sales, recorded on the ticker, of nearly 215
million shares of stock, with an approximate value of over 19
billions[271] of dollars. This was not an extraordinary year. In 1901
nearly 266 million shares were sold, in 1905, over 263 millions, in
1906, over 284 millions. A number of other years have approached the
figures for 1909. If stock sales be a good index of general speculation,
1909 is a very satisfactory year from which to have got figures, as
showing neither extreme speculation, nor extreme dullness--which latter
was the case in 1896 when Kinley's other big investigation was made. The
figures for shares sold, however, do not exhaust the business done at
the New York Stock Exchange. "Odd lots," _i. e._, sales of less than 100
shares, are not recorded on the ticker. Mr. Byron W. Holt estimates that
from 25 to 30% would be added if they were counted. DeCoppet and
Doremus, of New York, who handle at least as much of the "odd lot"
business as any other New York house, have given me the following
information about the "odd lot" business: (1) the volume of odd lot
sales is, roughly, from 20 to 25% of the volume of hundred share sales;
(2) the odd lot business fluctuates in conformity to the hundred share
market; (3) the odd lot speculator is just as likely to be a "bear" as
is the hundred share speculator, and, in general, odd lot business is
like the hundred share business. If we take the figure on which these
two estimates agree, 25%, we may add 53-3/4 million shares to our 215,
getting 268-3/4 million shares for 1909, with a value of about 24
billions. Bond sales recorded would add about 1 billion more. There are,
further, some unrecorded sales, indeterminate in amount, but sometimes
very substantial, when brokers have a number of "stop loss" orders. They
match these before the market opens, and, if the prices are reached in
the actual trading, these sales become effective automatically, without
getting on the ticker. How extensive this is cannot be stated. It may
sometimes add very substantially.[272] Thus, on the floor of the New
York Stock Exchange we have dealings in excess of 25 billions for 1909.
This is nearly as large as the figure we have assigned, on the basis of
the bank figures, to total retail trade of the country, and it may well
exceed the retail trade in fact. Recorded sales on other stock exchanges
do not, in the aggregate for the country, bulk very large. For 1910,
when New York shares reached 164 millions, the total for Boston,
Philadelphia, Chicago, and Baltimore was something over 21 million
shares.[273] The New York Curb has had "million share" days, but the
average value of shares is low. But the dealings on the floors on the
exchanges and "curbs" are far from all of the dealings in securities!
Only securities which have been admitted by the authorities are dealt in
on the exchanges. The volume of unlisted securities is enormous.
Moreover, not all, by any means, of the sales of listed securities take
place on the floors of the exchanges. The bond expert of a large banking
house in Boston informs me that the "over-the-counter" business in
Boston, both for stocks and for bonds, much exceeds the business in the
Boston Stock Exchange, and others among Boston brokers have expressed
the same opinion. The statement has been repeatedly made in the
financial press that of the bonds listed on the New York Stock Exchange,
ten are sold over the counter for one sold on the floor. Evidence on
this point is not to be had in definite figures, of course, but I have
found no one in Wall Street who regards it as extravagant. A single big
bank in New York sold $550,000,000 in bonds in 1911--more than half the
recorded bond sales on the Stock Exchange.[274] I should not know how
to estimate the volume of outside dealings within many billions of
"probable error." If ten billions of listed bonds are sold over the
counter in New York alone, we may well suppose that the volume of
over-the-counter sales of listed and unlisted securities at least is not
smaller than the recorded sales on the floors of the exchanges. But this
is all guess work. There are no definite data.

For produce, cotton, and grain speculation we have, in general,
estimates rather than records. For the Board of Trade, in Chicago, there
is one quite striking piece of information. That is that the Federal War
Tax of 1 cent per hundred dollars on grain and provision futures on the
exchanges produced $2,000,000 in Chicago alone in 1915.[275] For the
purposes of the tax, deliveries within thirty days were counted, not as
futures, but as "spot" transactions. The tax was collected almost wholly
on grain. If the above figure is correct, then it is clear that dealings
in these futures of over thirty days aggregated 20 billions of dollars
worth. This gives no estimate of spot transactions, which are, however,
very great. All this trading involved less than 400,000,000 bushels of
grain received at Chicago--a little over a billion bushels were received
at all primary markets. The grain received at Chicago was, thus, (at
80 c. per bushel), sold sixty-two times over in these futures, and an
unknown number of times in spot transactions. There are further enormous
spot transactions in provisions of various kinds at Chicago.

Chicago is the great centre, of course, for this kind of speculation in
the United States. It may well be the world's chief market, so far as
futures are concerned, though evidence to establish such a thesis is not
at hand. London and Liverpool are gigantic centres of commodity
speculation. But we have numerous cities in the United States where such
speculation is very great. St. Louis, Kansas City, Minneapolis, New
Orleans, and other cities are active speculative centres. New York,
while small in its volume of grain and produce speculation as compared
with Chicago, is the world's centre for cotton speculation, and the
world's centre for futures in coffee, though yielding precedence to
Havre, Santos and Hamburg,[276] ordinarily, in the volume of spot coffee
transactions, and though handling only a very small amount of spot
cotton. The volume of cotton sold in an ordinary year in New York is
50,000,000 bales,[277] though only about 160,000 bales are ordinarily
received there, in a year.[278] In the five years preceding 1909, the
sales on the New York Coffee Exchange averaged over 16 million bags of
250 pounds each.[279] In 1915, 32 million dollars were deposited as
margins in connection with this speculation in coffee, and in ordinary
years this runs from 25 to 30 millions, according to the Treasurer of
the Exchange. The relation between the margins put up and the total
pecuniary volume of trading is not indicated, but in most exchanges the
actual depositing of margins is a small fraction of the pecuniary
magnitude of the turnovers. Both the Cotton and the Coffee Exchanges are
international centres. The Coffee Exchange now handles large
transactions in sugar, also.

Contacts between the organized exchanges and ordinary business are very
numerous. Producers in every line who can do so protect themselves by
"hedging" in the exchanges which deal in their raw materials. This is a
commonplace, so far as millers are concerned. The writer has found
millers in a town off the main lines of the railroads in Missouri who
regularly sell short a bushel of wheat on the St. Louis Merchants'
Exchange for every bushel they buy to grind. The business man who does
not sometime take a "flier" in the market for other than hedging
purposes is rare! But, apart from the organized markets there is an
immense volume of speculation. If a wholesaler buys only what he can
sell to retailers, it is not speculation. But if he buys in excess of
the anticipated demands of his retailers, expecting to sell the excess
at an advance to other wholesalers, he is speculating. If a farmer buys
cattle to feed, he is not speculating, but if he buys them thinking to
sell them at an advance in a short time, and does so, the transactions
are speculative. The line is not easy to draw, in practice. Intention is
shifting and uncertain. There is chance in every industrial, commercial,
and agricultural operation. But for the point at hand, the test is
simple: do more exchanges take place than are necessary, under the
existing division of labor, to advance the materials of industry through
the stages of production, and get things finally to the consumer? If so,
the excess of exchanges is speculative. Trading between men in the same
stage of production is speculation. It represents trading to smooth out
dynamic changes, to bring about readjustments which would have been
unnecessary had conditions really been static, and had the initial plans
of enterprisers been adequate. Trading in anticipation of further
trading with men in the same stage of production is speculative. This
sort of thing, in the wholesale business, especially, is exceedingly
common. This has been noted by Professor Taussig, and made by him an
important point in the theory of crises. Dean Kinley[280] called
attention to it as a matter of importance in connection with his
investigation in 1896. The coming of cold storage, and the development
of the canning industry have, I am informed by a colleague in the
Harvard Business School, enormously increased this speculation among
both wholesalers and retailers, and it is very important in most
wholesale lines. There is short-selling in materials for construction
purposes, and in metals, apart from organized exchanges, and, where
possible, contractors in the building trade often protect themselves by
means of future contracts with speculators who are selling short.

Land speculation, in varying volume, is found in every part of the
country. There is speculation in leases, in options on real estate, and
in options on leases.[281] It may be noticed, too, that sales of
"rights," of puts and calls and straddles, and other contract rights,
are regular factors in the organized exchanges. Wherever profits are to
be made by leveling values as between different places or different
times, speculation arises, and, with dynamic change, this means
everywhere, in every business, and all the time! The shifting of labor
and capital from industry to industry, leveling returns to capital and
labor, involves an enormous amount of trading that would not occur in a
"normal equilibrium." Much of this the Stock Exchange does. That is what
it is for. But much of it has to do with unincorporated industry, and a
vast deal of speculative exchanging takes place to this end apart from
the organized exchanges.

Speculation in bills and notes, by note-brokers and particularly by
dealers in foreign exchange, occurs on a large scale, and accounts for a
great deal of the banking figures. This has nothing to do with
physically determined trade. From the standpoint of Professor Fisher's
"equation of exchange," it must be barred, if the contention that
"trade" is determined by "physical capacities and technique" is to be
adhered to. Speculation in demand finance bills is barred in any case,
since "money against checks," and "checks against checks," are excluded
by his definition.[282] But as an explanation of no small part of our
unexplained 245 billions of dollars, these items must be brought in.
They are "double counting" from the standpoint of Professor Fisher's
equation. They are, however, speculation. An official in a great New
York banking house, in charge of the foreign exchange department, writes
that in times when exchange rates are fluctuating, enormous quantities
of drafts on Europe will be bought and sold, during a period of a couple
of weeks or months, whereas under other conditions such transactions
might amount to little with the same volume of imports and exports. The
part of this which is between banks, a very big item, would not count in
the 245 billions, but to the extent that foreign exchange brokers
outside the banks participate, their activity helps to explain our 245
billions.

If it be true that speculation, including all manner of readjustment to
dynamic changes, makes up the overwhelming bulk of trade in the country,
then Fisher's _indicia_ of variation in trade, weighted as they are, are
totally misleading. The same is true of Kemmerer's _indicia_ of "growth
of business."[283] These are: population, tonnage entered and cleared,
exports and imports of merchandise, postal revenues, gross earnings of
railways, freights carried by railways, receipts of the Western Union
Co., consumption of pig iron, bituminous coal retained for consumption,
consumption of wheat, consumption of corn, consumption of cotton,
consumption of wool, consumption of wines and liquors, market values of
reported sales on the New York Stock Exchange. Only the last of these is
in any sense an index of speculation. It is swallowed up by being put on
a par with the other fourteen items. Its influence on the final index,
made by averaging the others is, as inspection shows, virtually _nil_.
Out of the twenty-six years his figures cover, the general index moves
counter to the share sales 14 times! Utterly random figures would have
come nearer to the facts in the case. It is particularly striking that
Professor Kemmerer, whose total figures, as Professor Fisher's, rest for
their absolute magnitude on Kinley's investigation,[284] should assign
89% of his estimated trade (183 billions in 1890) to wholesale
commodities,[285] (with 3% to wages, and 8% to securities), when
Kinley's figures show that wholesale deposits are a minor fraction of
the total!

The constancy in the figures of these two writers for trade from year to
year, a general steady, upward growth, does indeed suggest that trade is
determined "by physical capacities and technique," and that it does
stand as a great, independent, inflexible factor, independent of money
and deposits, constituting a real causal coefficient with them in
determining prices. If, however, speculation is as big a factor as our
analysis would indicate, then trade is a highly flexible thing, varying
enormously from year to year, moved by a multiplicity of causes, among
them _fluctuations_ in particular prices, and the ease and tightness in
the money market--the quantity of money and deposits.

But quite apart from speculation, it is not true that trade is a mere
matter of physical capacities and technique, a passive function of
production. Rather, one would almost have to reverse the relation.
Production waits on trade!

Production, as now carried on, is primarily conducted in the expectation
of _sale_, and of profitable sale. Trade does not go of itself,
automatically. Rather, it is a highly difficult matter, calling for the
highest order of ability, and the labor of innumerable men. In general,
I think it safe to say that in ordinary times, the manufacturer loses
vastly more sleep over the question of how he shall market his output,
than he does over the question of how he shall produce it. A clerk in
the Westinghouse Air Brake Company, engaged in the accounting
department, spoke recently to the writer of the "productive end" of the
business. On inquiry, it developed that he meant the selling department!
He stated that the manufacturing department also, in the language of the
employees, in that corporation, would also be termed "productive," but
that the selling department was _the_ productive department.

If one reflects a little as to the proportion of "costs" that go into
selling, as compared with technical "production," I think my point will
be clearer. Advertising has developed so enormously that it needs little
discussion. It has been stated that the "Sapolio" people once tried,
after their reputation seemed thoroughly established, to stop
advertising, with such disastrous results that very extraordinary
efforts were required to reëstablish the brand. Number 2 wheat is not
advertised, in the great magazines, but innumerable brands of flour get
newspaper and magazine advertising,--some of them in such a periodical
as the _Saturday Evening Post_, and even those which are locally
consumed are commonly advertised in the local press. Nor is it only
finished products, of the sort that must be sold to the fickle public,
that involve these heavy selling costs. The writer has in mind a
corporation producing a high-grade type of glazed retort, in the
production of which it has virtually a monopoly, since the clay with
which it is made does not coexist with the skill to make it in any other
place. The particular product is an indispensable part of many important
technical processes. Substitutes made of other clays, and by other
companies, are known by the trade to be unsatisfactory. The buyers are
all highly trained business men. Here, if anywhere, selling costs should
be slight. But the chief selling agent of the corporation has found it
necessary, in order to keep the business going, to incur huge expenses
for entertaining his customers, finds it necessary to incur great
travelling expenses, to use only the most expensive hotels, and,
incidentally, to drink a great deal more than his personal inclinations
would call for, in keeping the business for his house. I waive
discussion of the extraordinary fees which a trust promotor makes, in
effecting a consolidation of big business units,--a process of exchange.
I am speaking now of the ordinary costs involved in ordinary trade. The
army of travelling salesmen, the body of stenographers, who write
letters, with various "follow-ups," in the effort to get more business,
the growing complexities of such letter writing, in which all suspicion
of "circularizing" must be allayed, one-cent stamps being absolutely
taboo!--these things are the commonplaces of business. They are in the
primers in the "commercial colleges" and "schools of commerce." Only the
orthodox economist, with his doctrine of the impossibility of general
overproduction, is ignorant of them!

This feature of modern business has been much elaborated in a recent
book which has not received the attention it merits--though its strength
is rather in criticism than in constructive doctrine. I refer to
Dibblee, _The Laws of Supply and Demand_.[286] Dibblee makes an
interesting contrast between commercial and manufacturing cities,
maintaining that the former necessarily outgrow the latter--a contention
which London, New York, Chicago and other places strikingly illustrate.
He presents a truly remarkable fact about London:[287] a recent report
of the Commission on London Traffic states that there were in London 638
factories registered as coming under the Factory Acts, with an average
horse-power of 54. The total power employed within the London area under
the Factory Acts, chiefly used in newspaper printing, was 34,750
horse-power--just one-half of what is required for the steamship,
Mauretania! This is the greatest city in the world. What do its millions
do for a living?[288] The town of Oldham,[289] he asserts, with 100,000
inhabitants, has spindle capacity enough to supply more than the regular
needs of the whole of Europe in the common counts of yarn. To _market_
the output of Lancashire, "the merchants and warehousemen of Manchester
and Liverpool, not to mention the marketing organization contained in
other Lancashire towns, have a greater capital employed than that
required in all the manufacturing industries of the cotton trade."
Accurate estimates of the proportion of "selling costs" to costs of
technical production are doubtless impossible, for the general field of
trade, and precision is unnecessary for my purposes. Dibblee's
conclusion, after contrasting retail and wholesale prices, and analyzing
the expenses incurred in selling prior to the wholesale stage, is that
the cost of marketing is at least equal to "real cost of production,"
occasionally only slightly below it, and often far above it (62).[290]
If one considers how large the item of "good will" often bulks in the
value of "going concerns"[291]--good will being in large degree often
just a capitalization of prior costs of this nature--Dibblee's estimate
need not be exaggerated. Trade connections, trade-marks that have
reputation, etc., often represent enormous output in thought, work, and
expense. Selling costs may, like other costs, be divided into "prime"
and "overhead" costs. Some of the latter lead to long-time consequences,
pay for themselves only in the long run. These may be "capitalized" in
"good will."[292] Of course, not all good will is got at a cost. Much of
it is adventitious.

In the light of the doctrine that trade is independent of money and
credit, one wonders why it should be thought necessary to extend
branches of American banks to the South American markets which we are
now reaching out toward. And why have Americans, from the beginning,
been constantly increasing commercial banks?[293] It is easy to sneer at
the efforts of the successive frontiers in our history to provide
themselves with banks of issue as based on a delusion, the delusion that
bank-notes are "capital," and to say that their real need was, not more
bank-credit, but more real capital. They needed more tools and
live-stock, doubtless, but is that the whole story? And were their banks
of no assistance in getting the additional capital of various sorts? And
was it a matter of no consequence that they had an abundant medium of
exchange? It seems almost childish to put such questions, but the
quantity theory has as its logical corollary that to multiply banks is
quite useless and wasteful, since the only result is to raise prices. If
increasing bank-credit cannot increase trade or production, this
corollary is inevitable. Indeed, the case may be more strongly stated.
Quite apart from the wasted labor of bank-clerks and the waste of
banking capital, the effect of increasing bank-development, on quantity
theory reasoning, is harmful. If increasing bank-credit is to raise
prices without increasing trade, then, on quantity theory reasoning, it
must _depress_ business. The reason is that rising prices in a given
region make that region a bad place to buy in, and so curtail its
exports. This is, indeed, the quantity theory explanation of
international trade, to which attention is later to be given. The
country which is expanding its banking facilities most rapidly will
suffer most in competition in the world markets. This is why the United
States have so little foreign trade! It also explains the rapid strides
that China and Central Africa have recently made in capturing the
world's markets. I submit that there is no flaw in this argument, if the
premise of the independence of volume of trade and volume of bank-credit
be granted. It follows from the quantity theory. That it is no
caricature of Fisher's argument will appear, I think, from the following
quotation,[294] which very nearly states what I have just been saying,
though it does not draw the conclusion that banking is a bad thing: "The
invention of banking has made deposit currency possible, and its
adoption has undoubtedly led to a great increase in deposits and
consequent rise in prices. Even in the last decade the extension in the
United States of deposit banking has been an exceedingly powerful
influence in that direction. In Europe deposit banking is in its
infancy."[295] Happy Europe, troubled only by war! It is greatly to be
hoped, in the interests of American agriculture, that the efforts to
increase agricultural credit facilities will fail!

We are driven to one of the most fundamental contrasts in economic
theory, which appears under various guises and in different forms:
statics _vs._ dynamics; transition _vs._ equilibrium, theory of
prosperity _vs._ theory of goods; normal tendency _vs._ "friction."[296]
Perhaps Professor Fisher, and the quantity theorist in general, would
dismiss many of these considerations as not applicable to the general
principle, which is a "normal" or "static" or "long run" law, not
subject to considerations of this sort. It is scarcely open to Fisher to
defend himself this way, because of his exceedingly uncompromising
statement regarding even "transitional" relations between volume of
trade and money and credit. I shall not reply to anyone who offers such
an objection by a general tirade against "static economics." I believe
thoroughly in the method of economic abstraction, and in reaching
general principles by ignoring, provisionally, in thought the "friction"
and "disturbing tendencies" which often make the first approximations
look somewhat unreal. But I raise this question: to what feature of our
economic order do we chiefly owe it that we can make such abstractions?
By virtue of what does friction disappear? What is it that makes our
abstract picture of economic life, as a fluid equilibrium, with its nice
marginal adjustments, its timeless logical relations, correspond as
closely as it does to reality? The answer is: MONEY and CREDIT.[297]

It is the _business_, the _function_, of money and credit, as
instruments of exchange, to bring about the fluid market, to overcome
friction, to effect rapid readjustments, to give verisimilitude to the
static theory, to make the assumptions of the static theory come true.
Where exchange is easy and friction slight, there will not be two prices
for the same good in the same market. Speculators, seeking profits of
fractions of a point, will prevent that. By multiplying exchanges, they
will level off values and prices. Because money and credit have done
their work so thoroughly in the "great market," it is possible for men
to talk about static theory, and to work out economic laws in
abstraction from friction, transitions, and the like.

In the static state, all speculation is banished. There are no
price-fluctuations to be smoothed out, no new prospects to be
"discounted," no uncertainties to be guarded against by "hedging."
Seasonal goods will, of course, have to be carried over from one season
to the next, but this will involve merely warehousing and the use of
capital--"time speculation," involving many sales, does not come in. One
sale to the capitalist who carries the seasonal goods, with a sale by
him to the man who means to use them, will suffice. It has been shown
before that the great bulk of trade is speculation. But speculation is
banished from the static state. Speculation is a function of dynamic
change, waxing and waning with the degree of uncertainty that exists,
the new conditions to which readjustments have to be made, the
"transitions" that have to be effected. In other words, the laws
governing the volume of trade are dynamic laws, laws of "transition
periods," and so the whole notion which underlies the quantity theory,
of "normal periods," "static" relations, etc., is here irrelevant.
Volume of _trade_, as distinguished from volume of _production_, is
controlled by the number and extent of the "transitions" that have to be
made. The chief work of money and credit is done _in_, and _because of_,
"transition periods." Assume a normal equilibrium accomplished, and you
have little trading left to do. It will still be necessary, if you have
the division of labor, and private enterprise, for goods to pass through
as many different hands as there are different independent enterprisers
in the stages of production, and on, through merchants, to the consumer.
It will still be necessary to pay wages, rents, dividends and interest.
But there will be no selling of lands, of houses, of factories, of
railroads, or of securities representing these. By hypothesis these are
already in the hands best qualified to hold them. The "static
equilibrium" presents "mobility without motion, fluidity without
flow."[298] The static picture is a picture of completed adjustment,
where no one has an incentive to change his work, or his investments,
because he has already done the best that he can for himself. It is,
therefore, a picture of a situation where there is little incentive for
those exchanges which make up the great bulk of the volume of trade in
real life.

Hence the curious phenomenon that very much of static theory has been
developed in abstraction from _money_ and _credit_. Mill's theory of
international values, for example, abstracts from money. "Since all
trade is in reality barter, money being a mere instrument for exchanging
things against one another, we will, for simplicity, begin by supposing
the international trade to be in form, what it is in reality, an actual
trucking of one commodity against another. So far as we have hitherto
proceeded, we have found the laws of interchange to be essentially the
same, whether money is used or not; money never governing, but always
obeying, those general laws."[299] Other writers have similarly held
that money is a mere cloak, covering up the reality of the economic
process. Schumpeter, for example, holds that money is, in the static
analysis, merely a "Schleier," and that "man nichts Wesentliches
übersicht, wenn man davon abstrahiert."[300] _On the static
assumptions_, of the fluid market, with friction, etc., banished, money
is, indeed, anomalous and inexplicable. It is a cloak, a complication, a
vexatious "epi-phenomenon." There is nothing for it to do, and there can
be, consequently, no "functional theory" developed for it. Static theory
may be ungracious in ignoring its own foundation. But static theory is
grotesque when it seeks to support its own foundation! Static theory is
possible only on the assumption that the work of money and credit has
been done. What, then, shall we say of static theory which seeks to
explain the work of money and credit? Yet precisely this is what is
undertaken by the quantity theory, with its "normal" or "static" laws of
money and credit. A functional theory of money and credit must be a
dynamic theory. To talk about the laws of money, "after the transition
is completed" is to talk about the work money will do after it has
finished working. For a functional theory of money and credit, we must
study the obstacles that exist to prevent the fluid market. We must
study friction, transitions, dynamic phenomena.

To this problem we shall come in Part III. For the present, I am content
to have disproved the quantity theory contention that the volume of
trade is independent of the quantity of money and credit.




APPENDIX TO CHAPTER XIII

THE RELATION OF FOREIGN TO DOMESTIC TRADE IN THE UNITED STATES[301]


The word, "trade," as used in connection with statistics of foreign and
domestic trade has been irritatingly ambiguous. Few writers, in speaking
of domestic trade, have meant the same thing by trade that they have
meant by the word when speaking of foreign trade, and hence we have had
many pointless efforts to institute comparisons between the two, and
some very misleading statements about the matter. Thus, figures have
been offered which would show that the foreign trade of the United
States is only a fraction of 1% of the domestic trade. This conclusion
is reached by taking the figures for banking transactions discussed in
Chapters XIII and XIX as representative of domestic trade, and comparing
them with the annual figures for exports and imports. This procedure is
fallacious for several reasons:[302] the figures thus reached for
domestic trade exceed even the total trading within the country, as
shown in Chapter XIX. In the second place, as shown in Chapter XIII, the
bulk even of these deposits which do represent real trading grow chiefly
out of speculation. Even in ordinary trade, goods are counted several
times before reaching the final consumer. It is clear, therefore, that
even an accurate figure for total trading within the country would have
little relevance when we are seeking a figure to compare with exports
and imports. Nor, if a comparison of the actual trading in which
foreigners participate with the trading exclusively between Americans is
sought, can we take the export and import figures as representative of
the foreign trading--they do not include a multitude of highly important
transactions in which foreigners participate. Very much of the business
of the New York Cotton Exchange, the New York Stock Exchange, the
Chicago Board of Trade, and other speculative markets represents foreign
buying and selling, especially arbitraging transactions, and the other
"invisible items" of foreign trade need merely to be mentioned for the
economist to recognize the fallacy of a comparison which omits them.

What figures are relevant when we wish to compare foreign and domestic
trade? First we must make clear the purpose for which the comparison is
to be made. If we are concerned with the calls made by foreign and
domestic trade on the money market, we should make use of a different
method of comparison than that which will be here employed. The purpose
of the comparison here undertaken is to determine how much of our
American labor, land and capital is at work producing for the foreign
consumer, as compared with the land, labor and capital in America
producing for the American consumer. The comparison here undertaken is
concerned with the question which is usually uppermost in the minds of
those who undertake such a comparison, namely, _how important_ is our
foreign market to us? Obviously, for such a comparison as this, we
should not count a given case of eggs twelve times merely because it
changed ownership twelve times in getting from farm to breakfast table.
Items of export and import count only _once_ in the figures for export
and import. We must find a figure for domestic "trade" in which items
count only once, allowing no turnovers of the same goods to swell the
total, if we wish to make our figures comparable.

The method proposed for making this comparison, for a long series of
years, is a modification of the method used by the writer in an article
in the _Annalist_ of Feb. 7, 1916. A figure based on the bank deposits
of _retail merchants_ in Kinley's 1909 investigation was there taken as
properly comparable with the export and import figures. The final sale
to consumer by retailer is "the one far off divine event" toward which
the whole productive process moves. Everything else in production and
exchange looks forward to this. Ultimately, from the demand of the final
consumer comes all the demand that is directed toward the agencies of
production, even though the laborer sees his immediate market in the
person of the employer, and the capitalist or landlord sees his
immediate market in the person of the active business man. The figure
reached for retail trade by the method then employed was $34,500,000,000
for 1909. This figure was too high, as shown in Chapter XIII above, and
the figure reached now for retail _deposits_ by the same method is
$32,000,000,000. Even this figure is too high, however, as I there
concluded, to represent retail _trade_, and I shall use it only as a
check on King's figure for _the total income of the United States in
1910_, which I shall use as a base figure instead of my own. King's
figure for the total income of the United States in 1910 is
$30,500,000,000.[303] I take this figure as including all that the
American people spend for consumption, with retailers, physicians,
hotels, theatres, etc., and also their net savings for the year. Part of
this they spent for foreign products. The rest they spent at home. This
residue spent at home gives us a figure which we may properly compare
with the amount the foreigner spends in America, as indicating the ratio
of foreign to domestic trade for the purpose in hand. We subtract, in
other words, from the figure for total income the figure for _imports_.
Then we compare the residue with the figure for _exports_, and get our
ratio of foreign to domestic trade. The export and import figures must
first, however, be reduced to a _retail_ basis. That is, assuming that
wholesale prices are two-thirds of retail prices, we add 50% to the
figures for exports and imports (which are wholesale figures) before
making the subtraction and the comparison. The ultimate consumer, both
in Europe and America, pays for imports and exports on a _retail_
basis.[304] This method, applied to the figures for 1910, gives us a
ratio of about 10:1 for domestic to foreign trade--the lowest percentage
for foreign trade which we shall find for any year in the period
investigated, 1890-1916.

This comparison is still unfavorable to foreign trade. Domestic trade,
in our figures, includes savings and investments, including investments
made by Americans abroad. Import figures are marred by undervaluations,
exports are not all counted, and the figures for exports and imports do
not include foreign investments in America. American investments abroad
should not be counted as part of domestic trade. Moreover, our figures
take no account of travellers' expenditures, or of services performed by
professional men of one country for men in another, or of certain other
"invisible items." But while this makes our percentage for foreign trade
too low for all years, it probably does not greatly upset the results
for yearly variations in the ratio except for the year 1916, when the
figure for domestic trade is left decidedly too high, and the ratio for
foreign trade is too low, as compared with previous years.

For years other than 1910, indirect calculations must be resorted to for
domestic trade. I have substantial confidence in the rough accuracy of
the figure chosen for 1910 in view of the convergence of two widely
different sets of data. My figure for retail deposits in 1909 is
$32,000,000,000. King's figure for total income is $30,500,000,000 for
1910. King's figure seems to me a better figure to use for the purpose
in hand. I use my own merely as a rough check on his. For years other
than 1910, the figure for net income is calculated as a percentage of
King's figure for 1910, by means of an "index of variation." It is
assumed that the net income of 1905, for example, bears the same
relation to the index for 1905 that the absolute figure for net income
of 1910 bears to the index for 1910, and net income for 1905 is then
computed by "the rule of three." The index of variation chosen is
_railway gross receipts_ weighted by _wholesale prices_. I think that
railway gross receipts are, on the whole, the most dependable and easily
manageable index of physical volume of production that we have, though
recognizing difficulties, later to be discussed, in using them for the
purpose in hand. Railroads touch virtually every kind of business in the
country. Variations in the _pecuniary_ volume of production and
consumption, however, if due to rising or falling _prices_, rather than
to changing physical volume, would not be indicated by changes in
railway gross receipts. The same volume of transportation might
represent widely varying pecuniary values of goods transported. Railway
rates do not vary from year to year with prices of goods, even though
high-priced goods are normally charged higher rates than low-priced
goods. The index, therefore, must include _prices_ as well as physical
volume of transportation. For 1910, therefore, railway gross receipts
and an index of prices are multiplied together, and counted as 100%. The
same thing is done for railway gross receipts and prices for other
years, and the results reduced to percentages of the result for 1910.
The figure for net income in any other year is then readily computed as
a percentage of the figure for 1910. The results, for the years
1890-1916, appear in the tables below.[305]

It may be noticed that my figures for net income in 1900 and 1890 do
not correspond very closely with the figures for the same years as
independently estimated by King. My figure for 1900 is $12,900,000,000,
where his is $17,965,000,000; for 1890, my figure is $9,300,000,000,
where his is $12,082,000,000. I am inclined to the view that the figures
in my tables come closer to the facts for these years than do his
figures, assuming that _his figure_ for 1910 is correct. It will be
noticed that on his figures there was an increase of about 50% from 1890
to 1900, and an increase of only about 66% in the decade following. This
seems to be an unlikely relation. One would expect a much greater rate
of increase for the decade 1900-10, as compared with the preceding
decade, than King's figures show. The period from 1890 to 1900 included
the terrible panic of 1893 and the prolonged depression ensuing. The
panic in 1907 was trifling in comparison, and recovery, as shown by our
index numbers in the tables below, was very much quicker. Moreover,
falling prices characterized much of the earlier decade. The highest
prices of the whole ten years were in 1891. The period from 1900 to 1910
is a period of rapidly rising prices, on the whole. On the basis of our
general knowledge of the two periods, one would expect a greater
percentage gain by far for the second decade, and I therefore trust the
results of the index of variation here chosen, which show that. Similar
results are obtained by applying to the base figure for 1910 an index
of variation derived from Kemmerer's and Fisher's figures for trade[306]
and prices. My figure for 1890 may, moreover, be checked by comparison
with the figure given by C. B. Spahr in _The Present Distribution of
Wealth in the United States_ (p. 105) for the net income of the country
for that year: $10,800,000,000. It may be that my figure for 1890 is too
low, but I have not sought to "doctor" it by an arbitrary "correction
factor" to make it correspond more closely than it does with the other
estimates. It is striking enough that a figure derived from an index of
variation, twenty years away from its base, should come as close as this
to figures calculated from wholly different data.

One brief comment may be made on the significance of these figures. It
may be questioned if figures showing the proportions of our industry
devoted to supplying goods for the foreign market correctly indicate the
importance of the foreign market to us. It may be urged that if we
should lose our foreign market, we should merely turn to producing more
for the domestic market, and that the loss would not be the whole of our
receipts from foreign trade, but merely the cost of transition, and the
loss that comes from shifting to production to which we are less suited.
This is, doubtless, true. But the loss reckoned this way may well be
greater than the loss reckoned on the basis of my figures! It is equally
true, moreover, that our domestic trade is not important to the extent
indicated by my figures, since if we lose part of our domestic trade,
our producers will turn to supplying more for the foreign market. But
one must not regard the cost of transition as a negligible matter! The
cost may easily be prolonged depression. Certain parts of our foreign
trade are really vital to us, both on the import and (to a less degree)
on the export side. The most important practical use to which the
figures here given may be put are in connection with short-run problems.
Foreign trade is so important to us that any sudden alteration in its
amount may bring great adversity or great prosperity--as the course of
the present War abundantly testifies.[307]

An application of our method to the years 1850 and 1860 gives a
percentage for foreign trade of 12.7 in 1850, and 16.0 in 1860.[308]

Certain other cautions are needed in presenting these figures. For one
thing, variations in railway rates will make a given volume of gross
earnings mean different things in different years as to the physical
volume of traffic. In the writer's opinion, which is confirmed by
Professor W. Z. Ripley, there is no possible way of making allowance for
this, as the cross-currents affecting railway rates are altogether too
numerous and obscure. Nor has any effort been made to allow for
variations in the proportions of freight and passenger receipts, or of
different classes of freight traffic.

Again, the proportions of railway traffic connected with foreign trade
may vary greatly, and it may happen that a big increase in railway gross
receipts is due to increasing foreign trade, primarily. There is reason
to suppose that much of the increase of 1916 is to be explained that
way. This makes our comparison for 1916 particularly adverse to foreign
trade, since we count as domestic trade what is really foreign trade.
The figures, however, are presented as they stand. Moreover, for 1916,
the great increase in foreign trade is in _exports_. Merchandise imports
are not much greater than in previous years.[309] Our exports have been
chiefly paid for by "invisible items," gold and securities, and short
term credits. These do not appear anywhere in our figures. A substantial
source of error appears from this cause in our 1916 figure. I should
think it safe to put the ratio for foreign trade to domestic trade for
1916 at above 20%, instead of the 17.9% our table shows.

The reader will wish to know for a given year how much of the increase
or decrease is due to physical growth of business, as represented by
railway gross receipts, and how much is due to changes in prices. To
give this information, and to make it easy for a critic to check the
results, a table showing the index numbers from which the figures for
net income are computed is subjoined.[310]

  TABLE I[311]

                1                   2                    3         4
                                                                Ratio of
                        Domestic Trade of   Foreign Trade of    Foreign
 Calendar  Net Income   United States =     United States =     to
 Years     of the       Net Income minus    Exports at Retail   Domestic
           United       Imports at Retail   Prices              Trade
           States       Prices

  1890  $ 9,300,000,000  $ 8,100,000,000  $1,300,000,000       16.1%
  1891   10,400,000,000    9,200,000,000   1,400,000,000       15.2%
  1892   10,000,000,000    8,700,000,000   1,400,000,000       16.1%
  1893   10,100,000,000    8,900,000,000   1,300,000,000       14.6%
  1894    8,300,000,000    7,300,000,000   1,200,000,000       16.5%
  1895    8,400,000,000    7,200,000,000   1,200,000,000       16.7%
  1896    7,900,000,000    6,900,000,000   1,500,000,000       21.8%
  1897    8,000,000,000    6,900,000,000   1,600,000,000       23.2%
  1898    9,100,000,000    8,200,000,000   1,900,000,000       23.2%
  1899   10,900,000,000    9,700,000,000   1,900,000,000       19.6%
  1900   12,900,000,000   11,700,000,000   2,200,000,000       18.8%
  1901   14,600,000,000   13,300,000,000   2,200,000,000       16.5%
  1902   15,600,000,000   14,200,000,000   2,000,000,000       14.1%
  1903   17,700,000,000   16,200,000,000   2,200,000,000       13.6%
  1904   18,000,000,000   16,500,000,000   2,200,000,000       13.3%
  1905   19,600,000,000   17,800,000,000   2,400,000,000       13.5%
  1906   21,500,000,000   19,500,000,000   2,700,000,000       13.8%
  1907   26,600,000,000   24,500,000,000   2,900,000,000       11.8%
  1908   23,000,000,000   21,300,000,000   2,600,000,000       12.2%
  1909   27,600,000,000   25,400,000,060   2,600,000,000       10.2%
  1910   30,500,000,000   28,200,000,060   2,800,000,000        9.9%
  1911   29,600,000,000   27,300,000,000   3,100,000,000       11.4%
  1912   33,800,000,000   31,100,000,000   3,600,000,000       11.6%
  1913   34,800,000,000   32,100,000,000   3,700,000,000       11.5%
  1914   32,600,000,000   29,900,000,000   3,200,000,000       10.7%
  1915   35,400,000,000   32,700,000,000   5,300,000,000       16.4%
  1916   49,200,000,000   45,800,000,000   8,200,000,000       17.9%


  TABLE II. INDEX NUMBERS FROM WHICH THE FIGURES FOR
            NET INCOME ARE DERIVED

                  1           2               3            4
                                      Composite         Net Income[312]
           Dun's Prices  R. R. Gross  Index, R. R. Gr.  of the United
 Calendar  with base     Receipts,    Rcts. multiplied  States in
 Years     in 1910       reduced to   by Prices.        billions of
                         base of      (Column 1 ×       dollars:
                         1910          column 2.)       100:30.5::(3):$

  1890          76.5        39.8            30.8        $ 9.3 billions
  1891          81.5        42.0            34.2         10.4
  1892          75.6        43.5            32.8         10.0
  1893          77.3        42.9            33.2         10.1
  1894          71.5        38.1            27.2          8.3
  1895          68.0        40.7            27.8          8.4
  1896          63.8        40.6            25.9          7.9
  1897          62.2        42.4            26.4          8.0
  1898          66.4        45.1            29.9          9.1
  1899          72.3        49.6            35.8         10.9
  1900          78.1        54.0            42.1         12.9
  1901          80.6        59.4            47.8         14.6
  1902          84.0        62.6            51.3         15.6
  1903          83.1        70.1            58.2         17.7
  1904          84.0        70.3            59.0         18.0
  1905          84.0        76.4            64.2         19.6
  1906          88.1        85.0            70.5         21.5
  1907          94.0        92.9            86.3         26.6
  1908          92.4        81.8            75.6         23.0
  1909          99.0        91.7            91.0         27.6
  1910         100.0       100.0           100.0         30.5
  1911          98.1        99.0            97.0         29.6
  1912         104.1       106.9           111.0         33.8
  1913         101.7       112.5           114.0         34.8
  1914         102.5       104.5           107.0         32.6
  1915         106.0       110.0           116.0         35.4
  1916         125.0       129.0           161.2         49.2




CHAPTER XIV

THE VOLUME OF TRADE AND THE VOLUME OF MONEY AND CREDIT


In the argument so far I have said nothing of the reverse relationship,
the dependence of the volume of money and the volume of credit on trade.
The two are indeed _inter_dependent. Interdependence suggests circular
theory, and is often a phrase to cover circular reasoning.[313] In the
case of the relation under discussion, however, I have, I trust, already
abundantly protected myself against the charge of circular reasoning by
_denying_ that either volume of money and credit on the one hand, or
volume of trade on the other hand, is a true cause at all. Both are mere
abstract names, designating highly heterogeneous individual occurrences,
which, _individually_ are cause or effect. In general, both volume of
money and credit, on the one hand, and volume of trade on the other
hand, are results of common causes, which are the _veræ causæ_ of
economic phenomena--values, psychological phenomena. The whole thing is
to be explained immediately and primarily in terms of social
relationships and mental processes,--in terms of social values.

To show that increasing trade tends to increase money and credit is not
difficult. If one may venture a hypothetical illustration--and the sort
of hypothetical illustrations, like the dodo-bone case, of which
quantity theorists are fond make one hesitate to do so--let us assume a
communistic community, isolated from other markets, with a developed
system of production, including an extensive use of gold in the arts.
Let the communistic régime gradually pass over to an individualistic
régime. Assume that the inhabitants are acquainted with the use of gold
as money, and that their government is willing to coin it freely. As
individualism spreads, and trade grows, will not more and more gold be
taken to the mints? I am not here concerned with the principles
determining the apportionment of gold between the money employment and
the arts. It is enough to show that expanding trade tends to increase
the volume of money.

Assume that the money supply meets difficulties in its expansion. Is
there not at once an incentive to extend credit? The seller finds his
customers unwilling to buy for cash, in amounts as great as before. In
order to sell as much as before (assuming that the use of credit is
known, to avoid trouble with historical origins), he extends
credit,--which, when practiced generally, lightens the strain on the
money supply.

I have so far said nothing of the case where there are stocks of the
money metal to be got from outside markets. But if a country is
expanding its trade, does not money come in? The quantity theorists
would, indeed, admit this, in general, though their reason is a bad one,
namely: that expanding trade lowers prices, and lower prices make the
market attractive to foreign buyers, who then send in money for the
goods. I shall later discuss this aspect of the theory.[314] For the
present, I merely interject the question as to the probability of an
expansion of trade when prices are falling. Increasing _stocks_ of
particular goods may well mean lower prices for these goods and if they
be articles of export the lower prices may well increase the export
trade, and bring money in. But this increase in _stocks_ of articles of
_export_ is very different from total _trade_ within the country; and
lower prices in articles of export are very different from a generally
lower price-level.[315]

Will expanding trade in a country increase credit? I come here to one of
the striking features of Fisher's doctrine--a feature in which I think
he is fundamentally true to the quantity theory. He finds no way in
which expanding trade can directly increase credit. Expanding trade can
increase credit, (a) only by changing the habits of the people, so as to
alter the ratio, M to M´, or (b) by reducing the price-level, and so
bringing in money from abroad, whence, as M is now increased, M´ rises
proportionately. "An increase in the volume of trade in any one country,
say the United States, ultimately increases the money in circulation
(M). In no other way could there be avoided a depression in the
price-level in the United States as compared with foreign countries. [He
should say, from the standpoint of his theory, that increasing trade
will cause a fall in the price-level, and so bring in more money.] _The
increase in M brings about a proportionate increase in M´._[316] Besides
this effect, the increase in trade undoubtedly has some effect in
modifying the habits of the community with regard to the _proportion_ of
check and cash transactions, and so tends somewhat to increase M´
relatively to M; as a country grows more commercial the need for the use
of checks is more strikingly felt."[317] In a footnote to this
paragraph, he defines the issue still more sharply. "This is very far
from asserting as Laughlin does that 'The limit to the increase in
legitimate credit operations is always expansible with the increase in
the actual movement of goods'; see _Principles of Money_,[318] New York
(Scribner), 1903, p. 82. We have seen, in Chapter IV, that deposit
currency is proportional to the amount of money; a change in trade may
indirectly, _i. e._, by changing the _habits_ of the community,
influence the proportion, but, except for transition periods, it cannot
influence it directly."[319]

My own explanation of the causal sequence whereby expanding trade brings
money into a country would be radically different from that given by
Fisher in the first quotation. I should expect, first, that rising
_prices_ would encourage rising trade; I should then expect the rising
volume of trade, with higher prices, to lead borrowers to need, and
secure, larger loans from the banks, with, as loans and deposits rise in
proportion to reserves, some slight increase in "money-rates," just
enough to draw to the country the extra gold which bankers felt
desirable to add to their reserves. I should expect the causal sequence
to be the exact reverse of that which Fisher indicates. With falling
prices, or waning volume of trade--which would usually come
together,[320]--I should expect loans to be reduced, deposits to be
reduced, money-rates to fall, and gold then to leave the country again.
I should expect this sort of thing to happen normally, and not
infrequently, and I should expect gold to come in and go out many times
in the course of a business cycle. This would seem to be the sort of
explanation which our modern theory of _elastic_ bank-credit would give
in connection with this problem. I shall not here go into details with
the theory of elastic bank-credit. The theory has been too well
established in the debates between the "Currency School" and the
"Banking School"[321] in regard to bank-notes to need elaboration and
defence here, and the essential identity of deposits and elastic
bank-notes from this angle is one of the commonplaces of the literature
of banking. What I am here concerned with is the highly significant fact
that Fisher's "normal" theory finds no place for this highly important
phenomenon. The quantity theory has no explanation of elasticity to
give. On the basis of the quantity theory, and for all that the quantity
theory can say, the Currency School was right! Fisher offers us,
virtually, a "currency theory" of deposits. "Suppose, as has actually
been the case in recent years, that the ratio of M´ to M increases in
the United States. If the magnitudes in the equations of exchange in
other countries with which the United States is connected by trade are
constant, the ultimate effect on M is to make it less than what it would
otherwise have been, by increasing the exports of gold from the United
States or reducing the imports. In no other way can the price-level of
the United States be prevented from rising above that of other nations
in which we have assumed this level and the other magnitudes in the
equation of exchange to be quiescent." (P. 162.) If "bank-notes" be
substituted for "M´", in this quotation, we have here a perfect
statement of the position of the "Currency School" in that great debate.
Must this old issue be fought all over again? And yet, I defy any
consistent quantity theorist to find any flaw in Fisher's argument on
this point. There is no place for a theory of elastic bank-credit
within the confines of the quantity theory. Fisher's recognition of this
seems full and complete. He relegates all mention of elastic bank-credit
to "transitions." The footnote quoted above, in which Laughlin's
(somewhat extreme) doctrine based on the theory of elasticity is stated,
denies categorically that there is any validity in it, except for
transition periods. There is nowhere in the book any explanation of the
theory of elasticity.[322] The references to it are few and grudging,
and _always_ in connection with the notion of transitions. The most
important statement regarding elasticity (less than a page long) is on
page 161, where again transitional influences are under discussion. What
is a theory of money worth which can offer no explanation of so
fundamental, important, and notorious a feature of modern money and
banking?

There is a further, related, feature of banking for which the quantity
theory can find no explanation. Among the items in a bank's balance
sheet, the quantity theorist seizes upon reserves on the assets side,
and deposits on the liability side, and builds his theory on the
supposed close relation between them. We have seen that this close
relation does not, in fact, exist. The range of variation is
enormous.[323] But there is one close relation in the balance sheet of
the bank concerning which the quantity theory is silent, and that is the
relation between deposits and _loans_. For individual banks and for
banks in the aggregate, for long run periods and for short run periods,
for reasons that are clear and inevitable, these two magnitudes (or for
banks of issue on the Continent of Europe, _notes_ and loans), vary
closely together. The relationship between them is the only relationship
which does stand out as clearly beyond dispute, among all the items in
the banking balance sheet. No assumptions of a "static state" are needed
for its demonstration! The relation varies, of course. As banks increase
or reduce their capital, as their reserve-percentages rise or fall, as
they increase or decrease their holdings of bonds, we find reasons which
alter the proportion between deposits and loans. But, despite this, the
variation, as shown by figures for the United States, is slight. Assume,
for example, a statement showing "loans and discounts" of $1,000,000,
deposits, $1,000,000, cash reserve, $200,000. Reserves are then 20% of
deposits, and loans are 100% of deposits. If reserves be increased by
$100,000 and loans and discounts reduced, to compensate, by $100,000, we
have a 50% variation in the ratio of reserves to deposits, with only a
10% variation in the ratio of loans and discounts to deposits. Since
cash reserve is much the smaller item, almost always, the same absolute
variation in it will affect it, in percentage, vastly more than it will
affect loans and discounts. It is strange that a theory should seize on
this highly variable ratio of reserves to deposits, and ignore the much
more constant ratio[324] of loans and discounts to deposits.

That this close relation between deposits and loans should obtain
follows naturally from the theory of elastic bank-credit. The two are
built up together. When there are expanding business and rising prices,
men borrow more from the banks; as they borrow, they receive deposit
credits; the individual who receives the deposit credit may check
against it, but it is redeposited by another man, and so, while the
deposits of one bank need not grow out of its loans, still, for banks in
general, deposits are large because loans are large. For a given bank,
the relation holds closely, because the bank lends, in general, to
active business men, who will have income as well as outgo, and whose
income will, on the average, at least balance their outgo. Thus,
_through loans_, deposits are linked with volume of trade and prices.
Trade and deposits wax and wane together.[325] On the other hand, in the
absence of rising prices and increasing trade, reserves may increase
greatly without forcing an increase in deposits. Loans cannot increase
without an increase in deposits. The linkage between deposits and trade
is definite, causal, positive, statistically demonstrable. The linkage
between reserves and deposits is, at most, negative--if reserves get too
low, deposits and loans may be checked in their expansion. But this--to
the extent that it is true, which we leave, for detailed analysis, for
Part III--gives a very much looser relation indeed than the direct
relation between loans and deposits.

The quantity theory has offered no explanation of this relation between
loans and deposits. What explanation could a theory offer, which rests
in the notion that volume of trade on the one hand, and volume of money
and bank-credit on the other hand, are independent magnitudes?[326] I do
not mean that quantity _theorists_ are silent regarding the relation of
loans and deposits. I mean that they do not attempt, in any discussion I
have found, to apply the quantity _theory_ to the explanation of that
relation. What shall we say of a theory which, ignoring these easily
proved, easily explained, and vital facts regarding bank-credit, offers
as its sole explanation of volume of bank-credit a theory so untenable
as that of a fixed ratio between volume of bank-credit and volume of
money _in circulation_, with causation running from money to deposits?

Professor Fisher says little about bills of exchange. Here, surely, we
have a credit instrument which grows directly out of trade, in general,
and whose volume expands and contracts with trade. When banks discount
bills of exchange, and issue notes, or grant deposit credits, against
such discounted bills, the connection of bank-credit and volume of trade
is obvious. The same thing holds largely, however, when promissory notes
are discounted. Such notes are usually given by those who plan to use
the credits granted in commercial or speculative transactions. The bill
of exchange differs from the promissory note in practice, however, in
that it itself is often a medium of exchange, without going into the
bank's portfolio. "The bill of exchange, therefore, before it gets to
the bank _usually_[327] performs a series of monetary transfers, for the
small dealer naturally prefers to pass on the bill, if possible, in
making a payment, instead of handing it over to his bank, which would
either deduct a certain percentage in the way of discount, or else
accept the bill at its face value, crediting the customer with the
amount on the date of maturity, while business men (other than bankers)
are in the habit of taking bills of exchange as they would cash."[328]
This quotation describes conditions in Germany. The same authorities (p.
176) give figures showing a rapid development in the volume of bills of
exchange, rising from about 13 billions of marks in 1872 to about 31
billions in 1907. These figures show that bills of exchange are a big
factor in German business life,--a conclusion that is strengthened when
they are compared with the figures for giro-transfers on pp. 188-189 of
the same article, or with the figures for note issue on p. 209.[329] In
the United States, of course, the use of bills of exchange has become
comparatively unimportant in domestic commerce,[330] though there is a
movement to revive them, since the new Federal Reserve system has come
in. Their chief importance is in connection with foreign trade. Is it
possible that Professor Fisher's reason for wishing to minimize foreign
trade[331] is the unconscious desire to get rid of the annoying bills
of exchange, which so obviously tend to make bank-credit and volume of
trade interdependent, and which further spoil the quantity theory by
serving as a flexible substitute for both money and deposits?

I regret the necessity for this elementary exposition of familiar
things. But Fisher's theory has no place for these familiar things--and
Fisher has merely made very explicit the logic of the quantity theory!

As applied to modern conditions, the quantity theory is obliged to
assert--and Fisher does assert:

     (a) that there is a causal dependence of bank-credit on money,
     and "normally" a fixed ratio between them;

     (b) that velocity of circulation of money and credit
     instruments are independent of quantity of money and credit
     instruments;

     (c) that, in general, money and volume of credit (taken
     together), velocities, and trade, are independent magnitudes,
     each governed by separate laws, though Fisher concedes _some_
     reaction of trade on velocities;

     (d) in particular, that volume of money and credit has no
     influence on trade, and that trade has no direct influence on
     volume of credit.

     All these doctrines are necessary if the contention that an
     increase of money will proportionately raise prices is to be
     maintained, or if it is to be maintained that a decrease in
     trade will proportionately raise prices. I have analyzed each
     of these contentions, and I find justification for none of
     them.

Not yet, however, have we reached the least tenable aspect of the
quantity theory. There remains the contention that prices are passive,
that a change, _originating_ in prices, and involving a change in the
average price, or the general price-level, cannot maintain itself--that
P is a passive function of the other five magnitudes of the equation of
exchange. To this central fortress of the quantity theory we shall
devote the next chapter.




CHAPTER XV

THE QUANTITY THEORY: THE "PASSIVENESS OF PRICES"


Is the price-level passive? Is it true that while change may occur from
causes outside the equation of exchange in volume of money, volume of
trade, and velocities of circulation, a change in the price-level from
causes outside the equation is impossible? Must the average of prices be
a passive function of M, the V's, M´ and T? Such is the general
contention of the quantity theory, and such, very explicitly, is
Fisher's contention. The price-level is always effect, and never cause
(with slight modifications of the doctrine for transition periods) in
its relations to the other magnitudes in the equation of exchange.

Now in one sense, it is my own contention that the price-_level_ can
never be a _cause_ of anything. The price-level is an _average_.
Averages may be _indicia_ of causation, but they are not themselves
causes. They are not, in reality, anything _at all_. Causation is a
matter which pertains to the particulars of which the average is made.
But this is not the doctrine of the quantity theory. The quantity theory
does, in certain connections, assign causal influence to the level of
prices, particularly in the theory of foreign exchange, where the
explanation of international gold movements rests on the doctrine that a
price-level in one country, higher than the price-level of another
country, drives money away.[332] It will be seen, in a moment, that
Fisher relies on this principle to prove that the price-level of a
country cannot rise without an increase of money--if it did so rise, it
would drive out the money, and so be forced down again. The point at
issue may be stated in terms of particular prices. The quantity theory
is that, while particular prices may rise from causes affecting them, as
compared with other prices, without a change in money, velocities, etc.,
still there cannot be a rise in the general average, because other
prices will be obliged to go down to compensate. The issue is as to the
possibility of a rise in particular prices, uncompensated by a
corresponding fall in other particular prices, without a _prior_
increase in money, or velocities, or decrease in trade. I take up the
issue in this form. I shall maintain that particular prices can, and do,
rise, without a _prior_ increase in money or bank-deposits, or change in
the volume of trade, or in velocity of money or deposits and also
without compensating fall in other particular prices. Putting it in
terms of Fisher's equation, I shall maintain, as against Fisher, that P
can rise through the direct action of factors _outside_ the equation of
exchange, that as a _consequence of such rise_ the other factors
readjust themselves, and that a new equilibrium is reached which, in the
absence of new disturbances from causes outside the equation, tends to
be as permanent and stable as the old equilibrium was.

In the argument which follows, I shall respect thoroughly the
distinction between "normal" and "transitional" effects. I do not think
that this distinction is properly drawn by Fisher. In my discussion of
the relation between the volume of bank-credit and the volume of trade,
and in other connections, I have shown that Fisher leaves out of his
normal theory most of the concrete factors which do affect both the
concrete magnitudes, and the long run _averages_, of the factors in his
own equation. But for the present, I shall meet him on his own ground,
give his distinctions their fullest weight, and carry my argument
through the "transition" to a point where no further change among the
factors in the equation can be expected as a consequence of the initial
change assumed.

Fisher's argument to show the passiveness of prices takes the form of a
_reductio ad absurdum_. "To show the untenability of such an idea let us
grant for the sake of argument that--in some other way than as effect of
changes in M, M´, V, V´, and the Q's--the prices in (say) the United
States are changed to (say) double the original level, and let us see
what effect this will produce on the other magnitudes in the
equation."[333] Then, if the equation of exchange is to be maintained,
either M or M´ or their velocities must be increased, or trade must be
reduced. But he holds that none of these is possible. (1) Money will be
reduced. High prices drive money away to other countries. Nor can gold
come in via the mints. "No one will take bullion to the mints when he
thereby loses half its value."[334] On the contrary, men will melt down
coin. Nor will high prices stimulate mining. Rather, by raising the
expenses of mining, they will discourage mining. (2) Bank-deposits
cannot increase. Bank-deposits depend on the amount of money, and as
that is reduced, they must be reduced, to keep their normal ratio to the
volume of money. (3) The appeal to velocities is no more satisfactory.
These have been already adjusted to individual convenience.[335] (4) Nor
can trade be decreased. Since the average person will not only pay, but
also receive, high prices, there is no reason why he should reduce his
purchases. "_The price-level is normally the one absolutely passive
element in the equation of exchange._"[336]

"But though it is a fallacy to think that the price-level in one
community can, in the long run, affect the money in _that_ community, it
is true that the price-level in one community may affect the money in
_another_ community. This proposition has been repeatedly made use of in
our discussion, and should be clearly distinguished from the fallacy
above mentioned. The price-level in an outside community is an influence
outside the equation of exchange of that community, and operates by
affecting its money in circulation and not by directly affecting its
price-level. _The price-level outside New York City, for instance,
affects the price-level in New York City only_ via _changes in the money
in New York City_."[337]...

"Were it not for the fanatical refusal of some economists to admit that
the price-level is in ultimate analysis effect and not cause, we should
not be at so great pains to prove it beyond cavil." To explain this
"fanatical refusal," Fisher alludes to the "fallacious idea" that the
equation of exchange cannot determine the price-level, because the
price-level has already been determined by other causes, usually alluded
to as "supply and demand." He urges, however, that supply and demand,
cost of production, etc., relate, not to the price-level, but only to
particular prices: that the price-level is a factor prior to, and
independent of, the particular prices, and is presupposed by theories
like supply and demand, cost of production, etc.[338]

The _reductio ad absurdum_, at first blush, looks impressive. One
obvious criticism suggests itself, however, and it will be found to give
a clue to a much more fundamental criticism: is it reasonable to assume
a doubling of _all_ prices? Above all, must the assumption involve the
doubling of the price of gold bullion? Part of the argument to show that
gold bullion would not be minted rests on that assumption. But, more
fundamental, for such an all round doubling of prices, no _cause_ could
be assigned. Of course the hypothesis of an increase in prices without
any cause is absurd, and Fisher easily disposes of it. But suppose we
assign some _concrete causes_, outside the equation of exchange, which
might affect prices, and see how the thing works then!

Fisher states on p. 95 that "other elements in the equation of exchange
than money and commodities[339] cannot be transported from one place to
another." And in the passage quoted above he maintains that price-levels
in one country can influence price-levels in another country, or even
price-levels in one city can influence price-levels in another city,
only _via_ changes in money, in the second country or city. But other
elements in the equation are _directly_ transferable, in fact.
_Deposits_, _e. g._, in London, to the credit of New York bankers, may
be transferred to Paris, directly, by _cable_ or by _letter_, and
_prices_ are constantly being directly passed from one country or market
to another by the same media. Let us suppose a strong case, to put our
principle in relief. Assume an island, which produces a staple widely
used, whose chief centre of production is outside the island. Assume
that this staple, an agricultural product, rises greatly in price, owing
to a blight, which promises to be permanent, in the main producing
region. The blight does not affect the island, however. Let this product
be the main product of our island, which we shall assume to be small.
Let the island have communication with the outside world by boat only
once in three months. Let it be, however, in constant communication by
cable. Word comes by cable of the rise in the price in the staple. The
staple at once rises in the island. No new money has come in to cause
it. Will this be a rise in the price-level? Will there be compensating
reductions in the prices of other things to leave the price-level
unchanged? What prices can fall? Not the prices of goods that have been
imported to the island, surely. They will rather tend to rise, because
everybody on the island will feel richer than before, and will be
disposed to buy more freely. Meanwhile, merchants and bankers on the
island will be more ready to extend credit than before, so that they
will be able to buy more freely. What else can fall? Not the prices of
the land! Rather, the land will rise in price greatly, because the
increased price of the staple, expected to be permanent, will promise
bigger rents, and the price of the land, being a _capitalization_ of the
annual rental, will rise very much more than anything else--it will rise
to the extent of the capitalized price of the increase in the rents.
Wages, likewise, will rise, since the price of the product of labor has
risen. And the capital instruments in use in producing the staple will
also rise, though not so much as land and wages, inasmuch as they can be
brought in from outside at the end of three months. What is there that
can fall--except, perhaps, such goods as are exclusively designed for
the construction of poorhouses! A significant particular price
rises--that is the first step; then, from causes familiar to all
students of economics, other related prices rise; there is a general
_sympathetic_ rise in prices, the _price-level_ has risen independently,
from causes _outside the equation of exchange_. But now, can this rise
sustain itself? Well, what can bring it down? When the ship comes, at
the end of three months, it will bring in additional supplies of the
articles of import, and they will go down to their old level. Will they
go any lower than the old level? What is there to cause them to do so?
The outside price-level should be higher now, rather than lower, since
the _stock_ of the staple in question is reduced, and nothing else
increased to compensate. Nor can any reason be assigned why other prices
on the island: the staple in question, lands, wages, etc., should fall
at all from the level they reached when the news first came.

Incidentally, our ship may also bring in more gold. The bankers, finding
their deposits expanding, may feel it well to cable orders for more gold
to increase their reserves, especially as they have been subject to
somewhat unusual calls for cash for hand to hand circulation--though
this last need they might well have been meeting by expanding their note
issue.

Is there anything else to be said? Is not the new equilibrium stable?
And is not the causal sequence precisely the reverse of that assigned by
the quantity theory? _First_. a rise in prices; _second_, an expansion
of credit, book-credit, notes and deposits; _third_, money comes in. If
anyone is particularly anxious about the equation of exchange in this
process, he may add to my expansion of credit an increase in velocities
to keep it straight!

I may add that I see nothing in the "transition" I have described to
cause trade to be reduced. Rather, I should expect the rising prices to
make trade more active--or better, I should expect the rising _values_
of goods, etc., of which rising prices are the symptom, to make trade
more active, particularly as there would be an increase in speculation
to bring about readjustments, and to "discount" the prosperity. Nor can
I find any reason why trade should be reduced below the old level in the
new normal equilibrium. It would make no difference, however, if trade
were reduced either transitionally or normally, since the point at issue
is the possibility of a rise in prices originating from causes outside
the equation of exchange, and compelling a readjustment of a permanent
character in the other factors of the equation. The quantity theorist
is at liberty to make this readjustment in any way he pleases. My point
is made if he has to make the readjustment, and if the price-level stays
up!

I have put my illustration in an extreme form to throw the whole thing
in relief, and to make the demonstration free from a host of
complexities. But is not the causal process essentially the same if we
substitute, say, the Southern States for our island, and cotton for our
staple? So long as the telegraph bringing news of the ruin of cotton
production in India and Egypt, with the higher price of cotton, can come
in ahead of the money that the quantity theorist might imagine rushing
in a race with it on the train to be offered for the cotton, my point is
made. In point of fact, there would be a general rise in prices and
wages in the South, which, leading to an expansion of credit, would only
gradually and in no definite ratio lead to an increase in money drawn
from outside. Buyers outside would pay, not with money, but with checks
drawn on New York, and Southern bankers would use their discretion as to
how much actual cash they would bring in. With the elastic note issue of
our Federal Reserve system, I see no reason to anticipate that money
would be drawn to the South in an amount proportionate to the increase
in prices. Even if it were, the causation would not run from money to
prices, and that is the point at issue. If _rising_ prices can cause
increasing money, the whole quantity theory is upset, whatever the
proportions involved.

It will be noted that my illustration might be put partly in the form of
the supply and demand argument. Increasing demand for cotton in the
South leads to higher price of cotton; higher price of cotton makes
cotton-growers richer, and enables them to increase their demand for
imported goods, for land, and for labor. Supply and demand comes into
conflict with the quantity theory, and does not suffer in the conflict!
Supply and demand determine particular prices, and particular prices
determine the price-level!

Now I wish to generalize this point. I shall show that the quantity
theory conflicts with most of our doctrines of prices, as worked out in
our systems of economics. I shall show that, in important cases, the
quantity theory conflicts with the law of supply and demand, with the
doctrine of cost of production, with the capitalization theory, and with
the doctrine of imputation as worked out by the Austrians, whereby the
prices of labor, land, and other agents of production rise or fall with
the prices of the consumption goods which they produce. I shall show the
conflict in important cases, and shall show also, in those cases, that
it is not the quantity theory which can be sustained.

The general form of the conflict may be stated for all these theories.
They are theories of the _relations_ of particular prices, concerned
with showing that individual prices are so related that they tend to
_vary together_. A rise in one price, according to these theories, tends
to bring about _rises_ in others, and _vice versa_. The quantity theory,
on the other hand, asserts a relation among individual prices such that
a rise in one tends to bring about a _fall_ in others--it requires a
_compensatory_ fall at one point, if there has been a rise somewhere
else.

Let us take some cases. I shall take, first, the conflict between the
quantity theory and the capitalization theory, as I can use the
illustration just given in connection with it. I have, in a preceding
chapter, given a statement of the capitalization theory. It is a theory
concerned with the prices of long-time goods and income-bearers, as
lands, houses, capital goods of various sorts that give forth their
services through a series of years, stocks, bonds, etc. The prices of
things of this sort, according to the capitalization[340] theory, depend
on two factors: one, the money income expected from the income-bearer,
the other, the prevailing rate of interest. This money income, except in
the case of bonds, commonly depends on the prices of the products of the
income-bearer, or (in the case of stocks) of the products of the
concrete capital-goods to which the income-bearer gives title. If we may
follow the Austrian division of goods into higher and lower "orders," or
"ranks," we may say that the prices of the goods of higher ranks are the
capitalizations of the prices of the goods of lower ranks specifically
produced by them. Thus, concretely, if the price of wheat rises, we may
expect the prices of land to rise, if the rate of interest remains the
same. If the price of steel rises, we may expect the stocks of the U. S.
Steel corporation to rise, also. If the prices of smokeless powder, and
other war munitions soar, we may expect the prices of the stocks of the
corporations involved to do precisely what they have done in the recent
course of the stock market. All this, on the assumption that the rate of
interest does not change, and that the risk factor remains constant. If
these factors vary, the results will not present the mathematical
exactitude that the formula calls for, but the general tendency will
remain the same. On the other hand, if the incomes remain unchanged,
but the rate of interest rises, then we may expect the capitalized
prices to fall, and if the rate of interest falls, we may expect the
capitalized prices to rise. From the standpoint of the present
discussion, I suppose it might be fairest and best to state the
capitalization theory on this point as Fisher himself states it. In his
_Elementary Principles of Economics_ (ed. 1912) after giving a table
showing in figures the difference made in different capital prices by
different rates of interest (p. 125) he states (126): "If the value of
the benefits derivable from these various articles continues in each
case uniform, but the rate of interest is suddenly cut down from 5% to
2-1/2%, there will result a general increase in the capital values, but
a very different increase for the different articles. The more enduring
ones will be affected the most." And in his book, _The Rate of
Interest_: "The orchard whose yield of apples should increase from
$1,000 worth to $2,000 worth would itself correspondingly increase in
value from, say, $20,000 to something like $40,000 and the ratio of the
income to the capital value, would remain about as before, namely, 5%."
(P. 15.) On the next page, he generalizes his notion: "One cannot escape
this conclusion (as has sometimes been attempted) by supposing the
increasing productivity to be universal. It has been asserted, in
substance, that though an increase in the productivity of one orchard
would not affect the total productivity of capital, and hence would not
appreciably affect the rate of interest, yet, if the productivity of all
the capital in the world could be doubled, the rate of interest would be
doubled. It is true that doubling the productivity of the world's
capital would not be entirely without effect upon the rate of interest;
but this effect would not be in the simple direct ratio supposed.
Indeed, an increase of the productivity of capital would probably result
in a decrease, instead of an increase, of the rate of interest. _To
double the productivity of capital might more than double the value of
the capital._" (_Rate of Interest_, p. 16.)[341] Fisher reiterates this
doctrine in his reply to Seager, in the _American Economic Review_,
Sept. 1913, pp. 614-615.

Now my concern here is not with the points at issue as between Fisher
and Seager: the "impatience" vs. the "productivity" theories of
interest. For the present, I shall accept Fisher's doctrine on that
point as true.[342] I am here interested in Fisher's doctrine that a
doubling of the general productivity of capital would double, or more
than double, the prices of capital instruments, including land. How is
such a general rise in prices possible, if the quantity theory be true?
Is not this a rise in general prices from causes outside the equation of
exchange? That Fisher means the _money-prices_ of capital goods when he
speaks of capital-values is perfectly clear. In the second quotation, he
speaks of "capital-value of $40,000", and in general, his definition of
value runs in terms of _price_ (_e. g., Purchasing Power of Money,_ pp.
3-4, and _Elementary Principles_, p. 17). Fisher has no absolute value
concept in his system. We have in the passages cited two doctrines, both
of which contradict the quantity theory: (1) that a reduction in the
rate of interest will raise capital-prices (which are the largest factor
by far in the price-level), and (2) that an increase in the product of
capital goods means, not only more money paid for the products, but also
more money paid for the production-goods. Incidentally, the general
imputation theory would call for more money paid to laborers as well.
How can all this be, on the quantity theory? And what can the poor
equation of exchange do in such a case, if money does not increase, if
bank-credit is limited by money, if velocities of circulation are fixed
by individual habits and convenience, if trade _increases_ as a
consequence of the increased number of goods produced, and if prices
rise? It will not help much to assume that the productivity of gold
mines is doubled also. The quantity of money does not depend very much
on the annual production of gold. Besides, money need not, from the
standpoint of the quantity theory, be made of gold. It might be
irredeemable Greenbacks, fixed in quantity by law, or even dodo-bones!
Would not the capitalization theory apply in the Greenback Period? I
shall not try to solve the riddle. I am not responsible for it!

The conflict between the capitalization theory and the quantity theory
may be more simply stated. Assume that the prices of consumers' goods
and services rise, quantity of money and volume of exchanges remaining
unchanged. On the quantity theory, other prices, the prices of
producers' goods and services, lands, and securities, would have to come
down enough to compensate, in order that the price-level might remain
unchanged. For the capitalization theory, however, the prices of lands,
securities, and long time capital goods in general would have to rise,
since the incomes on which they are based have risen. Wages of labor
engaged in making consumers' goods would also have to rise, on the
general imputation theory.

The quantity theory conflicts with the capitalization theory. The
quantity theory as presented by Fisher conflicts with the capitalization
theory as presented by Fisher. Which theory is true? Would prices rise
thus, or would they be held down in some way by the limitations on the
quantity of money? I hold that I have already proved, in the reasoning
given in connection with my hypothetical island, and in the case of the
South with its cotton, that the capitalization theory tendency would
prevail. The prices of products rise, and then the prices of the labor,
land, and other capital goods which have produced them, rise, the rise
in the prices of the capital goods behaving in accordance with the laws
of the capitalization theory, and all of the rises after the initial
rise in products being in accordance with the imputation theory of the
Austrians.

This conflict suggests an interesting point. Various elements in our
economic theory, added from time to time by different writers, have
necessarily come from different philosophical and sociological
view-points, and have behind them different philosophical,
psychological, and sociological assumptions. The quantity theory,
developing, as shown in the chapter on "Supply and Demand and the Value
of Money," largely in isolation from the general body of economic
theory, has a background of psychological and sociological assumptions
quite different from that of many other doctrines. In the chapter on
"Dodo-Bones," I stated these assumptions. The quantity theory rests in a
psychology of blind habit. It assumes a rigidity in the social system
such that it might be likened to a machine, with a hopper into which
money is poured, which grinds out prices at the other end. I set this in
contrast with the psychological assumptions underlying the commodity
theory of money. That theory rests on the "banker's psychology." It
assumes a highly reflective and calculating attitude on the part of
economic men, with the disposition to look behind appearances for the
security, to test things out, to get to bedrock in business affairs. Now
the capitalization theory likewise assumes this banker's psychology. In
its refinements, as represented by the mathematical formulæ in the
appendices of Fisher's _Rate of Interest_, it assumes a degree of
precision in business calculation which few experts in bond departments
apply, and which the highly fluid and alert dealers in Wall Street
certainly have not time for, even if they had that degree of
mathematical knowledge! In practice, it need not be said, particularly
in the case of the prices of lands, the capitalization theory finds its
predictions very imperfectly realized! But the two theories, resting in
such divergent psychological assumptions, may be expected, _a priori_,
to conflict. That they do conflict is not remarkable.

I shall show a similar conflict between the quantity theory and the law
of costs. In general, the quantity theorist thinks that he has
reconciled his theory with cost theory by pointing out that reduced
costs manifest themselves in increasing production, which means
increasing trade, which should, on the quantity theory, mean lower
prices.[343] I need not, for my purposes, analyze this doctrine in
detail, though I am disposed to consider it an accident that the two
theories converge at this point. For the present, I shall analyze a case
where reducing costs actually come as a consequence of the _reduction_
in the volume of trade, and inquire whether such a case will lead, as
the cost theory would assert, to lowered general prices, or, as the
quantity theory would assert, to _higher_ general prices. The case is
that where by improved methods of handling goods, it is possible to
dispense with middlemen. Concretely, assume that retailers of milk get
in direct touch with dairymen, so that middlemen are eliminated, and
that as a consequence the price of milk is reduced two cents a quart.
What of the general price-level? T (trade) is reduced. There are less
exchanges. Volume of trade does not mean volume of goods _produced_, but
volume of _exchanges_. With a reduced trade, the quantity theory must
assert that prices of commodities other than milk must, on the average,
rise, not merely enough to compensate for the fall in milk, but more
than that, enough to compensate for the reduced trade as well. But how
can the other prices rise? Well, a point comes up obviously: the buyers
of milk save two cents a quart. They can spend it for something else.
This will raise the prices of other things. But, on the other hand, the
middlemen now have less to spend. They have _exactly as much less_ as
the others have _more_, the extra money that milk buyers have being, in
fact, the money that the middlemen would otherwise have had. The one
offsets the other. There is, then, no reason for the average of other
prices to rise. Suppose we carry the process one step further. After a
while, the middleman will find other work to do. Then they will have
incomes again to spend. But in going to work again, they will be engaged
in production, and so will, in general, be increasing the volume of
trade. The quantity theorist could not expect a rise in prices from
this!

And here we are given a clue to a fundamental confusion in the quantity
theory, a confusion which, accepted by the reader, gives the quantity
theory much of its plausibility. I refer to the confusion between
_volume of money_, and volume of _money-income_.[344] The two need not
be the same. The two generally are not the same. In the case I have
described, the one has changed without a change in the other. Now if one
wishes to view the process of price-causation from the standpoint of
money offered for goods,--an essentially superficial,[345] but
frequently useful, view-point--it is clearly money-_income_, rather
than mere quantity of money in the country that is important. Into the
determination of volume of money-income, however, come factors of a high
degree of complexity, among them, prices for which there is no possible
place within the confines of so simple and mechanical a doctrine as the
quantity theory.

In passing, I notice a point to which I called attention in discussing
Fisher's factors in the equation of exchange. I refer to his definition
of velocity of circulation as the average of "person-turnovers" of
money.[346] In the illustration given, there is no reason to suppose
that this average is changed. The middlemen simply drop out of the
average. They have no money to turn over! But velocity of circulation,
defined as "coin-transfer," (_cf._ _supra_, p. 204) has clearly changed.
The course of money has been short-circuited. It goes through fewer
hands in the course of a given period. This last concept of velocity of
circulation is clearly the one that must be used, if the equation of
exchange is to be kept straight. But this fact should make it clear that
velocity of circulation, instead of being the inflexible thing that
Fisher has described, resting in individual habits and practices, a true
causal factor in the price making process, is really a highly flexible
thing, in large degree a passive function of trade and prices.

With this distinction between volume of money and volume of
money-income[347] clearly held, we are prepared to go further in our
attack on the quantity theory, granting the quantity theorist all his
most rigorous assumptions, and still demonstrating that prices can vary
independently, without prior change in quantity of money, volume of
trade, or velocity of money. Let us assume the extreme case of the
quantity theory: a closed market; no credit; no barter; a fixed supply
of money; a fixed volume of trade; a fixed set of habits affecting
velocity, namely, that everyone spends, in the course of the month, all
that he has accumulated by the first of the month. The quantity theorist
could not ask a more iron-clad set of assumptions than this! If the
quantity theory is not valid here, if the price-level is not absolutely
fixed, helpless to change, with these assumptions, then the quantity
theory, even as a minor tendency, must be surrendered, and the quantity
theorist must admit that the whole line of thought has been fallacious.
But is the price-level passive? Suppose we assume a combination of
employers of maid-servants, which forces down the wages of maid-servants
from $20 to $10 per month. Assume further that there is no alternative
employment for the maid-servants, so that they all remain at work.[348]
So far, we have made a change in _one_ price, the price of domestic
service. What of the general average of prices, the price-_level_? Well,
so far, the price-level is down. If nothing else takes place, we have
reduced the price-level by reducing one price. What else can take place?
Two things: (1) the masters now have $10 per month each more to spend
for other things than before. That tends to raise prices in their other
channels of expenditure. (2) The maid-servants now have $10 each less to
spend,--the same ten dollars! That lessens prices in the lines of their
expenditure. These last two changes exactly neutralize one another. The
first change, in the price of domestic service, remains unneutralized.
The general price-level is, then, lowered--by a cause acting from
outside the equation of exchange, directly on prices. The first change
comes in one price. In the final adjustment, that change remains
unneutralized. How is this possible? Is the equation of exchange still
valid? As a mathematical formula, yes. As expressing a causal theory, in
which prices are effect, and money, trade, and velocity causes, no. The
equation is kept straight by a reduction in velocity. _Because_ the
wages of maid-servants are reduced, _less_ money goes through their
_hands_; $10 per month per maid are short-circuited. But the _cause_ is
with the _prices_. The price-level, even under these absolutely rigorous
assumptions, is not passive.

In general, I conclude that the price-level, under the laws governing
particular prices, supply and demand, cost of production, the
capitalization theory, the imputation theory, etc., can vary of its own
initiative, independently of prior changes in the quantity of money, or
of volume of trade, or other factors that the quantity theory stresses;
and that these changes in the price-level (or in the particular prices
which govern the price-level) can maintain themselves, and compel a
readjustment in trade, credit, money and velocities, to correspond. This
conclusion strikes at the very heart of the quantity theory, and, if
valid, leaves the quantity theory disproved. More fundamentally, I
should put it, prices can change because of changes in the psychological
values of goods. These values are _social_ values, and are to be
explained only by a social psychology. But for the present it has seemed
best to me, as a means of attracting sympathetic attention from a wider
circle of economists, to make use of the less debated doctrines of the
science in attacking the quantity theory. It is not necessary to rest
the case on my own special theory of value. Supply and demand, cost of
production, the capitalization theory, the imputation theory--the
general laws of the concatenations and interrelations of prices--are
quite adequate for the confutation of the quantity theory. They are laws
concerned with particular prices, and the price-level is nothing but the
average of particular prices. Whatever explains, really explains, the
particular prices, also explains the price-level.

Fisher, as we have seen, is not of this opinion. Although he has defined
the price-level as an average of particular prices[349] he none the less
exalts this average into a causal entity, prior to and master of the
particular prices out of which it is derived, of which it is a mere
average.[350] This average, he maintains, is presupposed in the
determination of all particular prices.[351] This seems to me a wholly
untenable position. _Ex nihilo nihil fit._ There cannot be _more_ in the
average than there is in the particulars from which it is derived. In
point of fact, there is necessarily vastly less. All the concrete
causation is lost. The average, in itself, is nothing but a _statement_,
a summary of _results_. I know nothing more metaphysical in the history
of economic theory than this hypostasis of an average.[352]

I reject Fisher's notion that the average of prices is an independent
entity. But I do not consider that the idea lying behind this untenable
doctrine is absurd. Cost of production, supply and demand, and the other
price theories _do_ presuppose something more fundamental. They do
presuppose _money_, and the _value_ of money, as has been shown at
length in Part I. The trouble with Fisher's notion comes in his
definition of the value of money in purely relative terms as the
_reciprocal of the price-level_, and his contention that the study of
the value of money is identical with the study of price-levels.[353]
Value is not a mere exchange relation.[354] Rather, every exchange
relation involves _two_ values, the values of the two objects exchanged.
These two values _causally_ determine that exchange relation. In the
case of particular prices, then, we must consider not only the value of
goods, but also the value of money. And the causes determining the
general price-level will therefore include not alone the values of
goods, but also the value of money. In the foregoing arguments by which
I have shown that the price-level can vary independently of the other
factors in the quantity theory scheme, I have been concerned only with
changes in the values of goods, measured by a constant unit of value. If
the value of money should also be varying, the concrete results on the
price-level would have been different. On the face of things, there was
nothing in the cases I discussed to require us to suppose that the value
of money would also vary. The argument ran on the assumption of a fixed
value of money. I have shown, in earlier chapters, that the assumption
of a fixed value of money is fundamental to the laws of supply and
demand, cost of production, and the capitalization theory. In point of
fact, this assumption is rarely true--never strictly true. For causes
which are in considerable degree independent of the causes governing the
values of goods (as the causes governing their values are in
considerable degree independent of one another), the value of money
varies, now in the same direction as the values of goods in general, now
in an opposite direction. Further, money itself does not escape the
general laws of concatenation of values. The value of money has causes
which are bound up with the values of other goods. Thus, when prices are
rising and trade expanding, there is a tendency--commonly a minor
tendency--for money also to rise in value, and so prices do not go
quite as high as they would have gone had money remained constant. This
tendency arises from the fact that there is more work for money to do in
a period of active trade and rising prices. Gold also tends to rise in
value in the arts, with prosperity. The reverse tendency manifests
itself when prices are falling: money tends, in some measure, to fall in
value with the goods,[355] and so prices do not fall as far as they
would fall if money remained constant. But in general, the causes
governing the values of goods, and the causes governing the value of
money, are sufficiently independent to justify us in studying each
separately, in abstraction, on the assumption that the other is
unchanged. Hence, supply and demand, cost of production, and the other
price theories, which assume a fixed value of money, are proper tools of
thought for the study of the prices of goods.




CHAPTER XVI

THE QUANTITY THEORY AND INTERNATIONAL GOLD MOVEMENTS


The quantity theory explanation of international gold movements is as
follows: if money comes into a country, it raises prices. If the
price-level of the country is raised more rapidly than the price-levels
of other countries are rising, then the country becomes a bad place in
which to buy and a good place in which to sell; its exports fall off,
its imports increase, and finally the inflow of money is checked, and,
perhaps, money flows out again. The equilibrium of the gold supplies of
different countries is thus dependent on the price-levels of the
countries involved. The quantity of gold in a country determines its
price-level, and no more gold can stay in a country, on this theory,
than that amount which keeps its price-level in proper relation to the
price-levels of other countries. It is not necessarily asserted that the
price-levels of all countries must be equal--the facts too obviously
contradict that. But when this precise statement is not made, the
substitute statement of some "normal" relation between the price-level
of one country and that of another becomes a very vague one, and the
theory becomes pretty indefinite.

I am here concerned chiefly with one contention: the price-_level_, the
average of prices, is not a _cause_ of anything--not of gold movements
or anything else. It is a mere summary of many concrete prices. Some of
these concrete prices have highly important influence on international
gold movements, tending, if they are low, to bring gold in, and if they
are high, to repel gold. Others work in the opposite direction, tending
if they are low to attract less gold than if they are high. Finally,
among all the prices affecting international gold movements, the one
which is most significant is commonly not included in the price-level at
all: I refer to the "price of money," the short-time interest rate.

Let me elaborate each point. First, it is true that high prices of
articles which enter easily into international trade tend to repel gold
from the country--meaning by "high prices" prices that are higher than
the prices of the same goods abroad. This relates, however, not to the
general price-level, but only to a comparatively small set of prices.
Most prices in a country are not prices of articles of international
trade. High wages may, indeed, draw in immigrants. But high land rents,
and high prices of land cannot bring in land. Nor do high land prices
send away much gold to other countries for the purchase of land there.
Indeed, within a single country, the differences in the relation between
land yield and capital value of land are enormous. The following figures
are taken from an article by J. E. Pope:[356] In Yazoo Co., Mississippi,
farm lands are sold at $10 to $25 per acre. The average gross income per
acre is $28. In Cass Co., Iowa, the land prices are from $100 to $125
per acre while the gross income amounts to only $11 per acre, if only
crops and dairy products are taken into account, and to $20 if the sales
of live stock are included. In Oglethorpe Co., Georgia, the average
price is from $10 to $25 per acre, and the average income $10. In
Paulding Co., Ohio, land is sold at from $75 to $100 per acre, and the
average income per acre, including returns from live stock sold, is $15.
Why should not landowners in Cass County, Iowa, sell their comparatively
unproductive land, at a high price, and go, with their money, to Yazoo
County, Mississippi? The answer is simply, that they would have to go
_with_ their money, and they prefer to stay at home! Absentee
landlordism is not generally popular with men who are seeking paying
investments. Land stands at one extreme. But then land is the very
biggest item in an inventory of wealth, and, while not _as land_,
actively bought and sold,[357] it is a big element in the values of many
active securities. The principle holds in less degree of many other
things, however. The securities of a local corporation, say a gas plant,
find their best market at home, as a rule, unless the city be large. If
they are held by foreign capitalists, they still find a very restricted
market in the foreign country. Only those who have investigated at first
hand will feel free in buying them--unless, indeed, they are guaranteed
in some way by a big and well-known house. Prices of personal and
professional services vary enormously in different sections of the same
country, to say nothing of variations between different countries, and
there is a very slow movement indeed toward bringing about higher
salaries for rural preachers in Kansas because the salaries of London
preachers have risen, or because of increased demand for preachers in
Germany. Great numbers of commodities are too bulky to move far. Their
prices vary with little relation to similar prices elsewhere. But the
principle needs no more elaboration. If the reasoning be simply that men
tend to buy where things are cheap, and to sell where things are dear,
it is clear that that establishes a very loose relation indeed between
the price-levels of different countries.

The second point is that some prices, by rising, actually bring in gold
from abroad, while by falling they tend to release gold. I am not here
referring to the case discussed in the chapter on "Supply and Demand,"
where a commodity, cotton, with an inelastic demand, is doubled, the
doubled quantity selling for a less aggregate price, and so bringing in
less money from abroad. That case would bear considerable
generalization. I am referring here to the case where _credit_ is built
on the value of long time goods, as lands, or railroads. Concretely, let
us suppose an increase in railroad rates allowed by the Public Service
Commission of Missouri. This is, in itself a rise in prices. It will,
further, on the capitalization theory, make the prices of stocks of the
roads operating in the State rise also, and give a margin of additional
security for bond-issues. This will make it possible for these roads to
float foreign loans (or would have done so before the War), and so will
tend to turn the exchanges in our favor. Gold will tend to come in, not
to go out. Similarly if the prices of dairy products, or truck gardens,
or orchards, or orange groves rise, leading to a rise in the prices of
the lands involved, foreign capital will tend to come in as loans--_i.
e._, the exchanges will turn more favorable to us, and the gold movement
tend to turn our way. I suppose, by the way, that something of a point
could be made against the Single Tax at this point: destroying land
values would lessen the security which a community could offer outside
lenders. The Single Tax would, thus, hamper the development of countries
which need capital from outside. Men who wish to use their own capital,
under their own management, might, as the Single Taxers claim, be
tempted to come in, if they could be free from taxation on the capital
they bring with them; but _lenders_, who wish a good margin of security,
would find less inducement to lend.[358] This is a digression, but one
feature of it is pertinent: though the foreigner does not care to
migrate from his high-priced land to _low_-priced land elsewhere, he is
often willing to trust a _loan_ to the owner of _high_-priced land
elsewhere. I will not venture the generalization that high-priced land
necessarily attracts loans, and tends to turn the gold movements in
favor of the country where prices are high. The point has been made that
if lands are being exchanged frequently, the new buyer tends to exhaust
his credit resources in paying for the land: _i. e._, puts so large a
mortgage on it that he has little margin of security to offer for
working capital.[359] I shall not here undertake to determine how far as
a matter of fact, in different places, the one tendency outweighs the
other. It is enough to point out that in many cases, where this factor
is absent (as in the case of the railroads cited), rising prices
attract, and do not repel, foreign gold, and that for none of these
cases is the consequence of rising prices for the gold movements to be
explained in the simple way that the quantity theory doctrine would
require.

Finally, the international movements of gold[360] are enormously moved
by the short-time rate of interest. The raising of the Bank Rate in
England, supplemented, when necessary, by "borrowing from the market" by
the Bank of England, as a means of making the Bank Rate effective,
quickly turns the course of the exchanges. This is, as has been pointed
out, a more effective device when used by the English money-market than
when used by borrowing countries, since the borrower, by offering higher
rates, is not always able to borrow more, whereas the lender, by
demanding higher rates, is usually able to reduce his loans. But the
difference is one of degree, and in point of fact a rise in the short
time rates in New York City is commonly an effective means of bringing
in gold from abroad. It is true that this is not the only factor. I have
been at pains to point out how other factors work. I am as far as
possible from denying the powerful influence of the "balance of trade"
as treated by the older economists on international gold movements, when
both visible and invisible items are included. But my point is, first,
that these invisible items are numerous and flexible, and that a big
factor in their determination is the short time rate of interest; and
second, that the balance of physical items, even, depends, not on the
price-level as a whole, but merely on the prices of those particular
goods which enter into foreign trade. It is perfectly possible, and,
indeed, is very common, for rising prices in a country to lead to
expanding trade and expanding bank-credit, which causes bankers to wish
to expand their reserves, which leads them to raise their rates on short
time loans, which leads gold to come in from abroad. More simply still,
the bankers may merely offer an attractive rate to the foreign bankers,
and establish credits abroad, against which they draw "finance bills,"
which influence the gold movements in the desired manner.




CHAPTER XVII

THE QUANTITY THEORY _vs._ GRESHAM'S LAW


There is a pretty obvious conflict between the quantity theory and
Gresham's Law. The latter is, essentially, a "_quality_" theory of
money. For the quantity theory, dodo-bones, or anything else will do.
"It is the number, and not the weight, that is essential"![361] For
Gresham's Law, the weight makes all the difference in the world, if it
is a question as between full weight and light weight coins, and, in
general, the _value_ of the thing of which money is made, considered in
its commodity aspect, is the starting point of that doctrine.

The quantity theorist seeks, indeed, to harmonize the two. His theory is
that Gresham's Law manifests itself only when there is a _redundancy_ of
the currency due to the issue of paper money, or overvalued metal. In
such a case, prices rise, he holds, and then the undervalued metal, or
the metallic currency, which count no more than the paper or the
overvalued metal in circulation, tend to leave the country, to another
country where prices are lower, or tend to leave the money use for the
arts. But the quantity theorist must maintain that it is only _via_
increased issue, with consequent rising prices, that Gresham's Law comes
into operation. If there are a million dollars of gold in circulation,
and a half million of irredeemable paper is added, then only half a
million of the gold (or rather a little less than half) will leave. If
more than that left, prices would fall, because of the scarcity of
money, and then the gold would come back, because it would be worth
more in concurrent circulation with the paper than it would be worth as
money abroad, or in the arts. On the quantity theory, there can be no
difference in the value of gold and paper, in such a case, after enough
gold has left to balance the paper that has been issued. Falling prices
would prevent it.

But Gresham's Law is not held by any such fetters! And the facts of
monetary history, in important cases, show Gresham's Law controlling,
despite the quantity theory. I will refer briefly to two such cases.

The first centres about the suspension of specie payments by the
Northern banks and the Federal Treasury on January 1, 1862. This
suspension was not accompanied by any increase of money. Rather, there
was a _decrease_,[362] shortly following, in the amount of paper money.
The banks in New York, and certain other States, were bound so strictly
by their charters, and by the State laws, that they dared not leave
their notes unredeemed. Speculators, buying notes at a discount--for
virtually all bank-notes fell to a discount--were able to present them
to the banks in these States and demand gold, which led to a very
profitable business. The banks protected their gold by ceasing to issue
notes, or by reducing the volume of note issue. Certified checks were
used to a considerable extent instead. There was certainly no increase,
and probably a reduction, a considerable reduction, in the volume of
bank-notes in circulation. The only other paper money in circulation was
the Demand Notes of the Federal Government, which were not increased
after the date of the suspension, and which were in any case small in
volume as compared with the total amount of money. On the quantity
theory version of Gresham's Law, there was nothing to drive gold out.
Gold was _not pushed out_ by redundant currency. Rather, it _left_,
leaving a monetary vacuum behind. Coincidently, strangely enough, prices
_rose_. The vacuum in the money supply was so serious, that the
subsequent first issue of the Greenbacks brought a welcome relief.
Throughout the whole of the first year of the suspension, the volume of
money was less than it had been in the preceding year. None the less,
the gold stayed out of general circulation. It did not come back from
abroad. And prices _rose_.[363]

A similar episode, the obverse of this, occurred when the Bank of
England _resumed_ specie payments in the early '20's. Then gold came
back, the currency was increased, and, coincidently, _prices fell_.[364]

I conclude that the conflict between Gresham's Law and the quantity
theory is real and fundamental, and that in cases where different
_qualities_ of money are in concurrent circulation, the undervalued
money will leave, regardless of the question of quantity.




CHAPTER XVII

THE QUANTITY THEORY AND "WORLD PRICES"


Some writers, who would call themselves quantity theorists, would
repudiate many of the doctrines for which Fisher stands, and which the
historical quantity theory involves. The recognition which Fisher's book
has received from quantity theorists generally, justifies me in treating
his book as the "official" exposition of the modern quantity theory,
and, indeed, it is easy to show that Fisher is fundamentally true to the
quantity theory tradition. With many writers, the disagreement with
Fisher would be a mere matter of degree; they would hold that Fisher has
set forth the central principle, that his qualitative reasoning is
correct, but that the relations among the factors in his equation are
less rigid than he maintains. As I reject even the qualitative reasoning
by which Fisher defends his doctrine, and reject even the qualitative
tendency which he maintains, my criticisms will apply as well to the
position of this group of writers, though I should have less practical
differences with them, to the extent that they admit qualifications and
exceptions to Fisher's doctrine.

There is, however, a group of writers who seem to feel that the quantity
theory remains sufficiently vindicated if it can be shown that an
increase in _gold production_ tends to raise prices throughout the
world, while a check on gold production tends to lower prices, and who
rest their case on the necessity which bankers find of keeping reserves
in some sort of relation to the expansions of bank-credit.

A view of this sort is presented by J. S. Nicholson, whose statement of
the application of the quantity theory to the modern world differs
almost _toto coelo_ from his original statement in the dodo-bone
illustration already discussed. Nicholson[365] declares that in our
modern society "the quantity of _standard_ money, other things remaining
the same, determines the general level of prices, whilst, on the other
hand, the quantity of _token_ money is determined by the general level
of prices." Nicholson's reasoning is, substantially, as follows:
Although the bulk of exchanging is carried on by means of credit
devices, there is still a certain part of exchanging, especially in the
matter of paying balances, for which standard money only can be used. He
regards the whole credit system as based on standard money, and says
that for any given level of prices there is a minimum amount of standard
money, absolutely demanded. If the volume of standard money falls below
this minimum, the price-level will fall to such a point that the volume
of standard money is again adequate. He takes, moreover, a world-wide
view, declaring that it is the relation between the volume of gold money
throughout the world and the demand for standard money throughout the
world which determines the relative values of money and commodities.
"The measure of values or the general level of prices throughout the
world will be so adjusted that the metals used as currency, or as the
basis of substitutes for currency, will be just sufficient for the
purpose. We see then, that the value of gold is determined in precisely
the same manner as that of any other commodity, according to the
equation between supply and demand."

In the consideration of this doctrine, let us note several points in
which it differs fundamentally from the quantity theory proper, and from
the situation assumed in the dodo-bone illustration. First, it is not a
quantity theory of _money_. Money is not regarded as a homogeneous
thing, each element having the same influence on prices. Rather, _token_
money is the child of prices. This doctrine would in no way fit in with
the logic of the equation of exchange, as presented by Fisher. Further,
the dodo-bone idea is entirely gone. _Gold_, a commodity with value in
non-monetary employments, is under discussion, and it is the quantity of
gold that is counted significant. This recognizes, if not the need, at
least the _existence_, of a commodity standard. Nicholson definitely
avows the necessity for the _redemption_ of representative money, even
going so far as to say that "all credit rests on a gold basis,"[366]
that all instruments of exchange derive their value from the volume of
standard money which supports them, and that if this basis were cut away
the whole structure would fall. Nicholson recognizes, further, that gold
has value independent of its use as money.[367]

In evaluating Nicholson's doctrine, I wish to point out, first, the
inaccuracy of the statement that all credit rests on a gold basis. It is
true that credit instruments are commonly drawn in terms of standard
money, which is commonly gold. International credit instruments may even
specify gold, and the same thing happens at times within a country. But
commonly, in this connection, gold functions, not as the value basis
lying behind the credit instrument, the existence of which justifies the
extension of the credit, but rather as the _standard of deferred
payments_, by means of which the credit instrument may be made definite.
The real basis of the value of a mortgage is not a particular sum of
gold, but rather the value of the farm, expressed in terms of gold. The
basis of a bill of exchange is not a particular sum of gold, but rather
is the value of the goods which changed hands when the bill of exchange
was drawn,[368] supplemented by the other possessions of drawer, drawee,
and the endorsers through whose hands it has gone. Even a note unsecured
by a mortgage, or not given in payment for a particular purchase, is
based, in general, on the value of the general property of the man who
gives it, and on the value of his anticipated income.[369] So
throughout. Credit transactions, for the most part, originate in
exchanges, and carry their own basis of security in the goods and
securities which change hands, not in that small fraction of the world's
wealth, the stock of gold, which could, Coin Harvey asserted in the
middle '90's, be put in the Chicago grain-pit! And now let me extend
this idea. Although coin made from the standard of value is a great
convenience, there is yet no vital need, in theory, for a single dollar,
pound or franc made from the standard of value. If gold should cease
entirely to be used as a medium of exchange, or in bank or government
reserves, if the gold dollar should become a mere formula, so many
grains of gold, without there being any coins made of it, still, so long
as that number of grains had a definite, ascertainable value,
commensurate with the value of some other commodity which could be used
as a means of paying balances and redeeming representative money, the
gold dollar could still serve as a measure and standard of values. In
the situation I have assumed, silver bullion, at the market ratio, could
perform all the exchange and reserve functions now performed by gold,
even though not so conveniently.[370] Nicholson's description of the use
of gold as a reserve, while calling attention to an important fact, has
led him into the error of supposing that what may be true of gold, the
_medium of exchange_, and _reserve for credit operations_ is necessarily
true of the _standard of value as such_.

Nicholson is correct, however, in looking to the standard of value for
part of the explanation of changes in prices. And, _since it so happens_
that a considerable part of the value of the standard of value comes
from its employment as medium of exchange and reserve, he is correct in
looking to its use as money as part of the explanation of its value. His
error comes, however, in failing to see that independent changes in the
values of goods may also change the price-level, and that variations in
the demand for gold as a commodity may also change the value of gold,
and so change the price-level.

Further, in so far as Nicholson clings to the notion of prices as
depending on a mechanical equilibration of physical quantities, he is
subject to the criticisms given before of the general quantity theory,
and in so far as he clings to the identity of the value of gold with the
reciprocal of the price-level,--the relative conception of value--he is
subject to the criticisms already urged.

Again, even for a single country, the connection between volume of
reserves and volume of credit is very loose and shifting. A thousand
factors besides volume of standard money in a country determine the
expansions and contractions of credit, and the long run average of
credit. For the whole world, this connection is even looser. To assume a
fixed ratio between them for the whole world, one would have to assume
that all the world was simultaneously, and normally, straining its
possibility of credit expansion to the utmost, so that the minimum
ratio--a notion which is far from precise[371]--should also be the
normal maximum, and so that no country, in expanding its credit, could
draw in new reserves from other countries which had more quiescent
business conditions.

Nicholson's notion of the world price-level, moreover, is subject to the
criticisms I have made in the chapter on "The Quantity Theory and
International Gold Movements." How can the world level have a close
connection with the volume of gold, if different elements in the world
price-level, the price-levels of different countries, can vary so widely
and divergently as compared with one another? Even granting--which I do
not grant, and which I maintain I have disproved--that the price-level
in one country has a close connection with its stock of gold, would it
not be true that the average price-level for the world would vary
greatly, with the same world stock of gold, depending on which countries
had the gold?

There is nothing in Nicholson's doctrine which seems to me to justify in
any degree the doctrine that prices, in a single country, or in the
world at large, show any tendency to _proportional_ variation with the
quantity of money, or with the world's stock of gold.

Is it not true, then, that there is _some_ sort of relation between gold
production and world prices? It is. Gold is like other commodities. Its
value tends to sink as its quantity is increased. As its value sinks,
prices tend to rise. As to the elasticity in the value-curve for gold, I
think it will be best to reserve discussion till a later chapter,[372]
in Part III. We shall there find reason for thinking that gold has much
greater elasticity in this respect than most other commodities. That its
value should fall _proportionately_ with an increase in its quantity, I
should not at all conclude. Even if its value did sink proportionately
with an increase, prices would rise proportionately only if the values
of goods remained unchanged.

But why do we need a _quantity theory_ of _money_, with all its
artificial assumptions, and its law of strict proportionality, to enable
us to assert the simple fact that gold, like other commodities, has a
value not independent of its quantity? What theory of money would deny
it? Surely not the commodity or bullionist theory. For that theory,
which seeks the explanation of the value of money in the value of gold
in the arts, it would go without saying that an increase in the supply
of gold for the arts would lower its value there and consequently, its
value as money. Surely the theory which I shall maintain in Part III of
this book will not deny that increased gold production tends to lower
the value of money, and consequently to raise prices. With the "quantity
theorist" who is content with this conclusion, I have no quarrel--unless
he claims this obvious truth as the unique possession of the quantity
theory!




CHAPTER XIX

STATISTICAL DEMONSTRATIONS OF THE QUANTITY THEORY--THE REDISCOVERY OF A
BURIED CITY


In the following chapter, as in most of the preceding chapters,
constructive doctrine is aimed at, even though the discussion takes, in
considerable part, the form of critical analysis of opposing views. We
shall seek to set forth the facts, as far as may be, regarding the
relations of banking transactions to trade, the relations of clearings
to amounts deposited in banks, the relation of New York City clearings
to country clearings, and of New York bank transactions to bank
transactions in the rest of the country. We shall seek to ascertain the
extent of variability in that highly elusive magnitude, "velocity of
circulation," particularly "V´." We shall indicate something of the
bearing of index numbers of prices on the theory of the value of money
as here presented. In reaching conclusions on these and related matters,
we shall build on the investigations of Dean Kinley, on the very
interesting statistical studies of Kemmerer and Fisher based on Kinley's
figures, on investigations more recently made by the American Bankers'
Association regarding the relation of bank transactions and bank
clearings, on figures from reports by the Comptroller of the Currency,
as well as on other sources. One purpose of the chapter is to criticise
the statistics which purport to prove the quantity theory. The bulk of
the chapter is given to this. But the work of Fisher and Kemmerer thus
criticised yields rich rewards for the study. The conclusions they have
drawn from their figures are, in the judgment of the writer, untenable,
but the figures themselves are of immense interest and importance.

The controversy over the quantity theory has been waged with many
weapons. Theory, history, and statistics--to say nothing of
invective!--have been freely employed. In large measure, the statistical
studies have been concerned with the direct comparison of quantity of
money and prices, in their variations from year to year. One of the best
of these studies, that of Professor Wesley C. Mitchell, in his _History
of the Greenbacks_ (followed by his _Gold, Prices and Wages under the
Greenback Standard_), has, to the minds of many students, including the
present writer, put it beyond the pale of controversy that the
fluctuations in the gold premium, and in the level of prices, in the
United States during the Greenback period, both for long periods and for
daily changes, were not occasioned by changes in the quantity of
money,[373] but rather, primarily, by military and political events, and
other things affecting the credit of the Federal Government, together
with changes affecting the values of gold and of goods. Professor
Mitchell's discussion is so detailed and thorough, that what controversy
remains relates, not to his facts, but rather to the possibility of
interpreting those facts in harmony with the quantity theory, by
repudiating the notion that the direct comparison of gold premiums or of
prices with quantity of money gives a valid test.[374]

Recent defenders of the quantity theory have undertaken the examination
of more complex statistics than those concerned with the simple
concomitance of quantity of money and prices. Two of these studies, the
first by Professor Kemmerer[375] and the second by Professor Fisher,
are so elaborate, have commanded such general attention, and have been
accepted by so many students as conclusive demonstrations, that I feel
it proper to give them detailed examination. I do this especially
because highly important facts for our construction argument emerge from
this critical examination. Kemmerer's and Fisher's studies reach
high-water mark in the effort to give statistical demonstrations of the
quantity theory. If they are invalid, then I know no other attempts
which many students would suppose to be possible substitutes. The theory
involved in both these studies is clearly stated by Professor Kemmerer:
"A study of this kind, to be of any value, must cover the monetary
demand as well as the monetary supply. Any test of the validity of the
quantity theory consisting merely of a comparison of the amount of money
in circulation with the general price-level is as worthless as would be
a test of the power of a locomotive by a simple reference to its speed
without taking into account the load it was carrying or the grade it was
moving over." This criticism of many previous studies is, in general, I
think, valid, though I should except from this list such detailed
studies as that of W. C. Mitchell, who takes account, as far as may be,
of all the variables involved, and who considers day by day and week by
week changes. I think the older studies of Tooke,[376] may also be
excepted. In point of fact, if one wishes to know how much reliance may
be placed in the quantity theory as a basis for prediction, when one
knows that money is increasing, the simple comparison of money and
prices is a fair test. If the "other things" which must be "equal" are
so numerous and complex that the quantity theory cannot manifest itself
in a direct comparison, much of its significance _as a basis of
prediction_ is gone.

It is perfectly true, however, that studies running through long
periods, which give simply figures for general prices and figures for
quantity of money, omitting volume of trade, are not very relevant
either for proof or disproof.[377] And the conception underlying the
studies of Kemmerer and Fisher, that not merely money and prices, but
also volume of bank-credit, volume of trade, velocity of monetary
circulation, and velocity of bank-credit, must be measured, undoubtedly
represents a big advance in the conception of the statistical problem
involved. The mere stating of the problem is an intellectual achievement
of no mean order, and the ingenuity and scholarship involved in seeking
data for concrete measurement of these highly elusive elements must
command the admiration of every student of monetary problems. Volume of
trade, velocity of money and velocity of bank-credit had been generally
supposed, until these studies were undertaken, to be beyond the reach of
the statistician. There can be no doubt at all that the efforts to
measure them, or to measure variations in them, by Kemmerer and Fisher,
have greatly advanced our general knowledge of the phenomena of money
and credit.

With great admiration for the magnificence of the problem undertaken,
and for the industry, ingenuity and scholarship which have been devoted
to its solution, I have nevertheless reached the conclusion that the
figures assigned by these writers to the magnitudes of their "equations
of exchange" are, with the exceptions of the figures for money and
deposits, widely at variance from the real facts in the case, and
second, that if they were correct, they could in no sense be said to
constitute proof of the quantity theory.

In the critical analysis which follows, chief attention will be devoted
to Fisher's statistics. His is the later study, and it follows, in main
outlines, the methods laid down by Kemmerer. He has employed Kemmerer's
statistics in considerable part, amplifying them for later years, using
some data not available when Kemmerer wrote, and undertaking a fuller
solution of certain problems than Kemmerer did. I shall, however, from
time to time make reference to Kemmerer's figures, and show points of
difference between the two studies.

Let me first briefly state the second point of my criticism of these
studies: namely, that even if the statistics are correct, they do not
constitute proof of the quantity theory. The statistics purport to be
concrete data filling out for different years the equation of
exchange.[378] But the equation of exchange, as we have seen, does not
prove the quantity theory. The quantity theory is a _causal_ theory, and
causation involves an order _in time_. The concrete figures for the
equation do not prove that. Even Kemmerer's concluding chart on p. 148,
showing a rough concomitance between "relative circulation" and general
prices does not show that changes in relative circulation are _causes_
of changes in general prices. The causation might be the reverse for
anything his figures tell us. Fisher himself recognizes this, in
considerable degree: "As previously remarked, to establish the equation
of exchange is not completely to establish the quantity theory of money,
for the equation does not reveal which factors are causes and which are
effects."[379] Again: "But, to a candid mind, the quantity theory, in
the sense in which we have taken it, ought to appear sufficiently
secure without such checking. Its best proof must be _a priori_."[380]

The main criticism here, however, relates to the figures themselves,
rather than to their meaning. The figures given by Professor Fisher are
concrete magnitudes to fill out his equation of exchange, MV + M´V´ =
PT[381] for the years since 1896. Thus, for 1909, the figures are: M =
1.61 billions; M´ = 6.68 billions; V = 21.1; V´ = 52.8; P = $1; T = 387
billions.[382]

Now in what follows, I shall challenge all these estimates except P for
1909, V for 1896 and 1909, and M and M´ for all years. The figures for M
and M´, being the results of fairly simple computations based on
Governmental statistics, need not be questioned. P for 1909 is
arbitrarily placed at $1.00. V for 1896 and 1909, for reasons which will
later appear, is better based than for other years, though Kemmerer and
Fisher have differed greatly in their estimates for V, the former
placing it at 47 and the latter at 18 or 20.[383] My criticisms with
reference to V, however, will relate to the years other than 1909 and
1896.

The sources from which these absolute magnitudes are drawn are,
primarily, two investigations by Dean David Kinley, one in 1896 and the
other in 1909, in coöperation with the Comptroller of the Currency.[384]
The purpose of these investigations was to ascertain the proportions of
checks and money in payments in the United States. Banks of all kinds,
national and State banks, trust companies, private banks, etc., were
requested by the Comptroller to supply data for a given day (March 16 in
1909) showing what their customers deposited on that day. They were
asked to classify these deposits as cash, on the one hand, and as
checks, drafts, etc. on the other. They were also asked to give a cross
classification of the same deposits, as "retail deposits," "wholesale
deposits," and "all other deposits." In 1909, over 12,000 banks of all
kinds, out of about 25,000 banks, replied, and of these replies 11,492
were in available form. These replies showed a total of deposits of over
688 millions of dollars. Of this total, 647 millions were in checks, so
that checks made up 94.1% of the whole. About 60 millions of this total
were retail deposits, about 125 millions were wholesale deposits, and
the rest, about 503 millions, were classed in the "all other" category.
Kinley's use of these figures, _for his purpose_, seems to me in every
way conclusive and safe. He was interested merely in the question of the
_proportions_ of checks and money in _payments_, retail, wholesale, and
"_all other_." The absolute magnitudes of the elements in the equation
of exchange he was not trying to measure. Professor Fisher's use of the
figures presents a different problem.[385]

Let us consider, first, Professor Fisher's estimate of M´V´, taken
together. M´V´ is considered to be equal to the total amount (in
dollars) of checks deposited during the year.[386] To get this, for
1909, Kinley's figure, above, for checks deposited in 11,492 banks on
March 16, 1909, is used. This figure is 647 millions. As half the banks
had not reported, an estimate for the non-reporting banks was obtained
from Professor Weston, who had aided Dean Kinley in the investigation,
and who had access to the original data. Professor Weston estimated the
total checks deposited during the day at 1.02 billions.[387] The
question then arose as to whether this day was typical for the year.
Professor Fisher found New York City bank clearings of March 17 (the day
after, on which these checks would get into the clearings) to be 28%
below the average for the year. He assumed the rest of the country to be
half as abnormal as New York City, and increased the 1.02 billions to
1.20 billions, getting what he conceived to be the daily average of
checks deposited in the United States in 1909. Multiplying this figure
by 303, the number of banking days in New York City (and so, presumably,
a fair average for the number of banking days in the country), he
obtained 364 billions for the checks deposited in 1909. This figure he
considered to be M´V´, the volume of bank deposits,[388] multiplied by
its velocity of circulation. To obtain V´, therefore, his problem was
simple: he divided the figure for M´V´ by the figure for M´ previously
obtained from government statistics, and obtained V´.

Now I wish to call attention to three important errors involved in this
calculation of M´V´ for 1909. (1) The assumption that the total check
circulation is the same as the volume of checks actually used in _trade_
is a violent one. _Payments_ may be tax payments, loans and repayments,
gifts, what not. Many checks may be used in a single transaction. Surely
not all of this is properly to be counted in the M´V´ of the equation of
exchange. But this topic is better discussed in connection with the
estimate for T, and I reserve its fuller discussion till then. (2) The
assumption that the rest of the country was abnormal in its clearings on
March 17, 1909, is a pure assumption, which investigation does not
verify. The rest of the country was, in fact, nearly normal! The error
that comes for the year from increasing the total on this assumption
amounts to at least 31 billions! The total for the year, on Professor
Fisher's method of computation, with the correction to make the
assumption regarding outside clearings correspond with the facts, is 333
billions, instead of 364 billions! As the figure for 1909 is a basic
figure, on which figures for other years are calculated, this error is
extremely significant.[389]

(3) A yet more serious error in this computation is the assumption that
New York City was complete in Kinley's figures, while the rest of the
country was incomplete. This error, as we shall see, largely neutralizes
the error above, so far as the "finally adjusted" figure for 1909 is
concerned, but it makes a vital difference in the figures for other
years, as will appear, since it affects the "weighting" of New York
clearings and outside clearings in the index of variation by means of
which M´V´ for years other than 1909 is determined. The assumption that
New York is complete, in Kinley's figures, and that all of the extra
hundreds of millions added by Professor Weston in his estimate for the
non-reporting banks belongs to the country outside New York, is made by
Professor Fisher both on pp. 444-445, in estimating M´V´ for 1909, and
on p. 446, in finding an index of variation for M´V´. The only reason
given, so far as I can find, is the following: "This figure, _being for
New York_, [Italics mine], is probably nearly complete." (_Loc. cit._,
p. 446.) With this as a basis, Professor Fisher proceeds in his
calculations to treat the figure for New York, 239 millions, as
absolutely complete, and gives the rest of Professor Weston's 1.02
billions for the day, or 786 millions, to the country outside. The error
above mentioned, of assuming the rest of the country to be abnormally
low on March 17 in its clearings, still further increases the amount
assigned to the rest of the country in the total figures for the
year.[390] The conclusion finally is that New York had deposits of 93
billions in checks for the year, while the rest of the country had
deposits of 271 billions in checks. As New York clearings for the year
were 104 billions, while clearings for the rest of the country were only
62 billions, Professor Fisher concludes that New York clearings
overcount New York check deposits, and outside clearings greatly
undercount outside check deposits, so that, in the index of variation of
check deposits, for years other than 1909 and 1896, New York clearings
should be given a weight of only 1, while outside clearings should be
weighted by 5. "That is, on the basis of 1909 figures, five times the
outside clearings plus once the New York clearings should be a good
barometer of check transactions." (P. 447.) All this rests on the
assumption that New York figures for March 16, 1909, were complete, and
the only reason assigned is, "being from New York!"

Now the figures from New York were not complete. And New York clearings
do not overcount New York check deposits. Outside clearings do not
undercount outside check deposits nearly to the extent that Professor
Fisher assumes. For each of these three statements I shall offer what
would seem to be conclusive evidence, and I shall attempt to get an
estimate of the real relation between New York check transactions and
check transactions for the rest of the country.

First, the figures for New York were far from complete. It may be noted
that Dean Kinley, in his volume for 1909,[391] is very careful to
repudiate the assumption that the cities were complete more than the
country: "Moreover, it is a mere assumption that the non-reporting banks
are mainly the small banks in the country districts. _A great many city
banks also did not report._" (Italics mine.) That this is true for New
York is abundantly evident from figures there given for the private
banks and the trust companies, not to consider at all the State and
national banks. New York shows only $1,751 in checks deposited in the
"all other deposits" in private banks! This is a city which includes
among its private bankers J. P. Morgan & Co., Kuhn, Loeb and Co., J. &
W. Seligman & Co., and others! Figures from these banks appear nowhere
in Kinley's totals, since deposits made _by_ these banks in other banks
are also excluded from Kinley's figures.[392] Of course, exact figures
cannot be given to show how much New York would be increased had the
private banks made full reports. We have no reports of any kind from
these institutions. Every feature of their business is kept from the
lime light, as far as possible--a practice which is much to be
regretted, since it arouses hostility and suspicion, where a statement
of the facts in the case would frequently entirely dispel them. We have,
however, some information regarding the magnitude of their deposits,
meaning by deposits, not what Kinley means in this investigation,
namely, checks, etc., _deposited_ on a given day, but rather, deposits
in the balance sheet sense of demand obligations to depositors. In Nov.
1912, J. P. Morgan and Co. held deposits of $114,000,000, exclusive of
49 millions on deposit with their Philadelphia branch of Drexel & Co.
About half of these were deposits of interstate corporations. Kuhn-Loeb
held, on the average, for the six years preceding 1913 over 17 millions
of deposits of interstate corporations. What their aggregate deposits
were, we do not know. These figures are obtained from the report of the
Pujo Committee.[393] Morgan's deposits were equalled by only three banks
and two trust companies in New York (as of April 3, 1915), and
Kuhn-Loeb's deposits for interstate corporations alone exceeded the
total deposits of any one of the great majority of the New York Clearing
House banks and trust companies. Of course, large deposits in the
balance sheet sense need not mean large deposits made on a given day.
Private bankers' deposits may be inactive. But we know, first, that half
of these figures for Morgan, and the whole of the figures given for
Kuhn-Loeb, represent the deposits of active business corporations,
engaged in interstate business. They are not mere trust funds lying
idle, or awaiting investment in securities. What the rest are we can
only conjecture. That they are deposits of men and firms connected with
the Stock Exchange in some way is highly probable. The whole drift of
the statistics presented in this book, and of the argument developed in
this book, would serve to show that such deposits are likely to be more
than ordinarily active.[394] I refrain from assigning any figures as to
the amount of checks deposited in private banks in New York on March
16, 1909. It must have run high into the millions.[395] It certainly
exceeded the two thousands, or less, reported to Kinley! The figures for
New York were, thus, incomplete.

But the trust companies were also incomplete. The national banks in New
York reported checks totaling 186.5 millions, for all three classes of
deposits; the State banks reported only 38.1 millions; the trust
companies only 14.2 millions. With aggregate deposits, as shown by their
balance sheets, exceeding the deposits of national banks[396] the New
York City trust companies reported, as deposited on March 16, 1909, less
than half as much as the State banks, less than a tenth as much as the
national banks, and only 6.8% of the two combined--5.9% of the total
from all three classes of institutions!

These figures are hard to reconcile with the assumption that the trust
companies in New York were complete on that date.

It is, of course, possible that the trust companies, though having large
deposits, have inactive deposits. This is sometimes held to be the case.
But that the difference is so great in activity of deposit accounts
between banks and trust companies is hardly credible. I have looked into
this matter with considerable care, and have secured information and
opinions from men intimately acquainted with the trust companies of New
York from the inside. The only available quantitative measure of the
activity of deposits would seem to be the volume of a bank's clearings.
This is not perfectly accurate, by any means, but it is the best
available test. Through the courtesy of a Vice President of one of the
largest New York trust companies, I have obtained figures from an
official of the Clearing House, which show that in New York trust
company clearings run from 20 to 25% of the whole. On this basis, the
trust company figures for 1909 were incomplete to the extent of from 33
millions to 46 millions, on the day in question. These clearings
figures, however, are for the year, 1915, and not for the period before
May, 1911, when the trust companies were admitted to the Clearing House.
Prior to that time they did not deal directly with the Clearing House,
but _through_ the member banks. Do these figures, therefore, represent
the situation as it existed in 1909? The possibility was entertained
that entering the Clearing House had made a difference in the reserve
policy of the trust companies, and so had made them change the character
of their business, in such a way as to bring about greater activity of
accounts. This question was put to the official of the trust company
before mentioned, and his reply is that the State law regarding reserves
(passed after the Panic of 1907) had already brought about this change
in reserve policy, and so no difference was made upon entering the
Clearing House.

The same gentleman, by the way, replying to a question regarding the
deposits in private banks in New York, and the influence of such
deposits on clearings, writes: "The actual figures could not be obtained
from the Clearing House..., consequently can only say that deposits made
with these houses add to the Clearing House totals very large sums."

There is one piece of evidence which would seem to negative these
conclusions regarding the trust companies. In the Report of the New York
State Superintendent of Banks, for Dec. 31, 1907, p. xxxv, is a
statement that during the two years, 1903-05, the trust companies of New
York cleared only 7% as much as the banks. The statement relates,
however, to a period during which the trust companies not only had no
Clearing House membership, which of course was true up to 1911, but also
had largely withdrawn from the privilege of clearing _through_ member
banks.[397] Under these circumstances, even 7% would seem quite high.
Inquiry was made of the Honorable Clark Williams, who was State
Superintendent of Banks at the time the report was made, as to the
source of the figures.[398] Mr. Williams, in reply, defends the figures
as correct for that period, but authorizes the writer to quote him as in
no way surprised at the percentages given above, 20 to 25% of the total
clearings, in view of developments and changes in trust company
business.

I conclude that the trust company figures for March 16, 1909, were
exceedingly incomplete. The national bank figures were probably more
nearly complete than any others, first because they are large, and
second, because national banks would feel more obligation than other
banks to reply to questions from the Comptroller. The State bank
figures, 38.1 millions, as against national bank figures of 186.5
millions, were probably incomplete also, to a considerable extent,
though State banks are not dominating factors in New York City. That
they should exceed the figures for trust companies is surely evidence of
the incompleteness of the trust company figures. The private banks are
incomplete, with absolute certainty, since they are virtually not
represented at all.

Further evidence that the New York figures were incomplete, however,
will appear in the data regarding our second thesis, namely, that New
York clearings do not overcount New York check deposits. The aggregate
check deposits reported from New York, on the date in question, is 239
millions. Clearings for that day were 268 millions,[399] substantially
exceeding the reported check deposits. Now do clearings exceed check
deposits in New York City?

Evidence with reference to outside clearings, in connection with bank
transactions, we now have in very definite and abundant form, and it
will be convenient to approach the question of New York clearings,
first, indirectly, _via_ country clearings. We shall, therefore, take up
first the thesis that clearings outside New York do not undercount bank
deposits outside New York nearly as much as Professor Fisher thinks.
According to his estimate, checks deposited during the year in banks
outside New York (exclusive of checks deposited by one bank in another)
were 271 billions. (_Loc. cit._, 446.) Outside clearings were only 62
billions, and his conclusion is that the ratio of deposits to clearings
is 4.4 to 1, or, in other words, that outside clearings amount to less
than 22.8% of outside check deposits.

Now an extensive investigation, covering the period from June, 1913, to
Oct. 1914, inclusive, has been made by the American Bankers'
Association, through Mr. O. Howard Wolfe, Secretary of the Clearing
House Section. This investigation covered cities of various sizes, in
various parts of the country. Its results are immensely more trustworthy
than any results based on a single day, as Professor Fisher's results
are, could be, even had Professor Fisher's method been otherwise
correct. An account of this investigation is to be found in the
_Annalist_ of Dec. 7, 1914.[400] This investigation involves, for the
period in question, a comparison of "total bank transactions" in each
city with the clearings of that city, together with a summary covering
all the cities. "Total bank transactions" consist of all debits against
deposit liabilities of each member of the Clearing House, whether they
come through the Clearing House or over the counter. They include
payrolls, for example, which, of course, never get into clearings. They
include drafts on deposits of one bank in another. In a letter to the
Editor of the _Annalist_, Mr. Wolfe states that "total bank transactions
include all debits against deposit liabilities, whether by check, draft
or charge ticket. The only exceptions are certified checks and certain
cashier's checks, both of which to an extent represent a duplication."
For the period in question, clearings amounted, on the average, for all
cities, to 40% of "total transactions." The cities did not include New
York City, as stated.

Now we cannot apply this 40% at once to the question in hand. Professor
Fisher's 22.8% relates to the relation between clearings and checks and
drafts _deposited_, _excluding_ items deposited by banks, and excluding,
of course, cash deposited. What is the relation between Kinley's
"deposits" and Wolfe's "total transactions"?

It is clear that "total transactions" must, in a period of time,
_exceed_ Kinley's "deposits" very considerably. In a general way, what
goes out of a bank, and what comes into a bank, must approximately equal
one another in a period of time. In a general way, a depositor finds his
income and his outgo balancing. Of course, some accumulate, paying in
more than they withdrew, but in general such accounts are made with
savings banks. The business man borrows from his bank, getting a
"deposit credit" (without "depositing" in Kinley's sense), then checks
against his "deposit," then receives checks in payments to himself,
"deposits" them, building up his deposit balance again, and then checks
against his deposit balance, in favor of the bank, to pay off his loan.
What comes in and what goes out--abstracting from the growth of a
rapidly expanding bank--balance. But notice, in the case cited above,
that "total transactions" include more items than Kinley's "deposits"
show. When the bank makes a loan, and gives a deposit credit, this does
not, usually, show in Kinley's deposits. When, however, the loan is paid
off by a check to the bank, it does show in "total transactions."
Moreover, when a man deposits cash in the bank, it does not show in
Kinley's figures for checks deposited. When, however, he withdraws cash
from the bank, or his check to another is "cashed," it does appear in
"total transactions." Further, checks deposited to the credit of one
bank in another do not appear in Kinley's figures. Checks drawn,
however, by one bank on another do appear in total transactions. How
great the difference is between "total transactions" and "deposits" in
the banks outside New York we cannot say precisely. The cash items
alone, on the basis of Kinley's figures, would make a difference of
about 9%.[401] To allow 11% excess to "total transactions" over
"deposits" for the other reasons listed, is surely not to make an
exaggerated allowance. We thus count "deposits" in Kinley's sense, for
the banks outside New York City, as 80% of "total transactions." Since,
then, clearings are 40% of "total transactions," they will be 50% of
"deposits." This figure is more than twice as great as Professor
Fisher's figure of 22.8%. Even if we counted deposits as equalling total
transactions, Professor Fisher's estimate would be clearly very much too
low.

How, then, do we stand? On Professor Fisher's showing, the overwhelming
bulk of checks deposited were in the country outside New York--271
billions for the year, outside, as against 93 billions in New York City.
If the ratio (50%) for outside clearings to deposits was the same for
1909 that it was in 1913-14 for the outside banks, we shall have to
revise this radically. We have 62 billions of country clearings in 1909;
we would have, then, 124 billions[402] of country check deposits! If
Fisher's total figure for the country is correct, 353 billions as
"finally adjusted," the balance, or 229 billions, would belong to New
York! New York clearings, 104 billions, would thus be less than half of
New York deposits! If we count outside clearings for 1909 as only 40% of
outside check deposits, outside deposits would be, for 1909, only 155
billions, as against Professor Fisher's 271 billions, _a difference of
116 billions_! I am sure that his error in estimating outside check
deposits is at least as great as that, and that we cannot assign to New
York City less than a major part of the total check deposits of the
whole country.

This result fits in with the figures actually reported to Dean Kinley,
corrected to fit the known facts about March 17 clearings, better than
Professor Fisher's estimate, by a good margin. According to Professor
Fisher's estimate, New York City checks deposited are only 25.5% of the
total. Kinley's actual figures give 239 millions to New York City, and
408 millions to the country outside. But New York clearings were 28%
below normal on March 17, while country clearings were only 2.45% below
normal. Adding 28% to the figure for New York checks, we get 306
millions. Adding 2.45% to the outside checks, we get 418 millions. Of
the total, 724 millions, New York checks would be, then, 42.3%. We have
shown reasons for considering New York deposits to be very incomplete
for March 16, particularly as regards the private banks and trust
companies. Comparison of the New York figures with the results indicated
by the ratio of country clearings to country deposits would thus
indicate that New York was much less complete than the country as a
whole. Even so, I need to add but 7.3% of the total to Kinley's actual
figures for New York, corrected in the light of next day clearings, to
give New York half of the check deposits. Professor Fisher must subtract
16.8% of the total from the actual figures for New York, as corrected in
the light of next day's clearings, in order to get his figure of 25.5%.
To vary as widely from the actually reported figures as Professor Fisher
does, I should have to assign 59.1% of total check deposits to New York
City. I refrain from making an exact estimate. I am content with the
conclusion that something more than half of the checks deposited in 1909
were in New York. This seems to be too clear for serious controversy.

The indirect approach to the relation between New York clearings and New
York deposits, _via_ the study of outside clearings in 1913 and 1914,
taken in conjunction with the figures for check deposits in 1909, would
seem to make it quite clear that New York clearings do not exceed New
York deposits, or, indeed, constitute a substantially higher percentage
of them than is the case with country clearings and deposits.[403]
Logically, assuming the correctness of the estimate for checks
deposited, the case is complete: we have a simple problem in arithmetic:
given country clearings for 1909, 62 billions; given the ratio of
country clearings to country deposits (and a minimum for this ratio is
clearly given, in the 40% which country clearings are of "total
transactions"), we can fix a maximum for country deposits, which is 155
billions. Then, given our estimate of 353 billions for total check
deposits, we subtract the maximum possible for country deposits from it,
and get a minimum possible for New York City of 198 billions of check
deposits. Comparing this with the known clearings of 104 billions in New
York, we find that New York clearings constitute, as a maximum possible,
52.5% of New York check deposits. If the reasons given for holding check
deposits in the country to be less than total transactions are accepted,
the ratio of clearings to deposits in New York City is lower.

Indirect calculations, however, even when logically complete, ought to
be checked up by other methods, when possible. We have some further
data, drawn from an earlier period, 1890-91-92, which suggest the same
conclusion.

The reason commonly offered for holding that New York clearings
exaggerate local New York transactions, as compared with country
clearings and country transactions, is that New York is the clearing
house for the country. Country banks send their idle cash there; country
banks pay other banks by drafts on their New York balances; country
banks send out of town checks to New York for collection; business men
in St. Louis pay business men in Chicago with New York exchange, etc.
These items are supposed greatly to swell New York clearings.

Now several of these reasons are not at all valid. Cash shipped back and
forth between New York and the interior does not get into clearings.
Secondly, New York, because of the charges made for collecting out of
town checks, has tended to lose much of the collection business. Chicago
probably does a great deal more of it than New York does.[404] However,
even if checks on out of town banks were sent largely to New York for
collection, they would not get into the clearings. New York banks send
checks on country banks directly to country correspondents. Checks on
out of town banks sent in for collection do swell clearings in Boston
and Kansas City, where arrangements have been made, to the advantage of
all concerned, to have the clearing houses handle this business. But New
York has not made provision for it.[405] The only checks that get into
New York clearings will be checks drawn on New York banks.[406]

These checks will be of two kinds: (1) checks drawn by individuals and
firms on New York banks. These checks will commonly be drawn by people
in New York, and, in so far as they come from out of town, will
represent business between New York and other places, hence, New York
business. (2) Drafts by banks on their New York balances. These will be
of three kinds: (a) drafts sold, especially by country banks, to their
customers who need to make payments in other cities. Many of these will
represent payments to New Yorkers for transactions between New York and
the country, hence New York business, and will appear in the check
deposits of individuals, firms, and corporations in New York, (b) There
will also be drafts from one country bank, on New York, to another
country bank, in which New York is truly being used as a clearing
house, New York exchange taking the place of an intercity shipment of
cash.[407] (c) Drafts by New York banks on New York banks, to avoid
deficits at the Clearing House, or--especially in the case of private
bankers, between whom and brokers the line is hard to draw,--for general
purposes.

Now, fortunately, we have some data, trustworthy, even though old, for
the volume of bank-drafts on New York, and, more important, for the
proportion of drafts on New York to drafts on banks in other cities.
These figures are, as stated, from the three years, 1890, 1891, and
1892. For the purpose in hand, however, they are relevant, since then,
as now, New York clearings were nearly twice as great, on the whole, as
country clearings, and if this excess of New York clearings is due to
that cause, it should have manifested itself in these figures. If the
proportion of these drafts on New York to the total of bank-drafts was
greater than the proportion of New York clearings of total clearings, we
might find reason for supposing that New York clearings were unduly
swelled by this fact. But in fact, drafts on New York are not out of
proportion. The figures are virtually complete for drafts drawn by all
the national banks on national and other banks for the years in
question. They will be found in the Comptroller's _Reports_ for the
three years, under the caption, "Domestic Exchanges." For 1890 the
figures are:

  Drafts on                      (000,000 omitted)
  New York                      $  7,284  (63.07%)
  Chicago                          1,084  ( 9.30%)
  St. Louis                          188  ( 1.64%)
  Other reserve cities             2,537  (21.88%)
  Other cities                       464  ( 4.02%)
  Total                           11,550  (  100%)

The Comptroller (_Report_ of 1890, p. 19) gives an estimate for drafts
drawn by State and private banks of an additional 6,089 millions. He
does not try to apportion these among New York and the other cities.
There is no reason to suppose that the percentage for these banks of
drafts drawn on New York would be higher than for national banks, and
there is some reason for supposing that they would be lower: namely,
that these institutions would lack the incentive supplied by the
National Bank Act for depositing reserves in a Central Reserve City. The
Comptroller's figures probably do not include the great private banks in
New York, which deposit in New York commercial banks, and draw huge
checks against their deposits. These checks, probably, however, chiefly
represent stock exchange collateral loans to brokers, and so appear in
brokers' deposits as well as in New York clearings--represent New York
deposits. I do not use this estimate in my computations. If I did, the
results, so far as proportions are concerned, would be the same, since I
could do nothing but assign the same proportions to them. It will be
seen that my argument rests on the proportions, chiefly.

Now what difference would be made if we wiped out all these draft
transactions, and reduced clearings to correspond? New York clearings in
1890 were 37,660 millions; country clearings were 21,184 millions. Let
us subtract the drafts on New York from New York clearings, and the
drafts on other places from the country clearings. The result is: New
York clearings, 30,376 millions; country clearings, 16,918 millions. New
York clearings still retain their former status! New York clearings are
still nearly twice as great as country clearings! It is not the bank
drafts used in making New York the "clearing house" for the country that
swell New York clearings as compared with the rest of the country! It is
something else! The main explanation, as we have in part seen, and shall
further see, is a mass of speculative transactions, chiefly Stock
Exchange transactions, and loan transactions connected therewith! New
York clearings grow out of New York business, primarily.

The figures for the other two years vary little from those of 1890. What
variation there is shows a growth of drafts on interior cities, and a
decline of drafts on New York. New York showed 63.07% of these drafts in
1890, 61% in 1891, and 60.77% in 1892.[408]

As we have seen, the only checks or drafts that get into New York
clearings are those drawn on New York banks. The checks on New York
banks probably almost all represent business in which one party is a New
York individual, firm, or corporation. The drafts by out-of-town banks
will contain all the items, virtually, that represent "clearings"
through New York. Not all of these, by any means, will represent such
clearings. A very substantial part of them will represent exchange sold
to customers to make payments in New York. We exaggerate the "clearing
through New York" when we subtract all these drafts from New York
clearings. Since, however, we treat country clearings in the same way,
no error results, so far as the proportions between them are concerned.

The two sets of data converge. Both from the figures of 1913-14, in
conjunction with estimated check circulation in 1909, and from the
figures of 1890-92, can we conclude that New York clearings do not
overcount New York transactions. The conclusion would seem to be
inevitable that New York is really as important in our volume of banking
transactions as its clearings would indicate. This may be qualified by a
recognition of the possibility that New York clearings are more
efficient in handling check deposits than are clearings in other cities.
Some scattering data from national banks for single days at a time
indicate that a higher percentage of checks is cleared in New York than
elsewhere in the country,[409] and one observation for five national
banks for a ten-day period shows 67% of checks deposited cleared.[410]
These checks include deposits made by other banks, as do the figures of
Kemmerer's observations. But there are no direct observations covering
New York for a long enough period, or for enough institutions, to
warrant any definite conclusions.[411]

The error of assuming clearings of March 17 in the country outside New
York to be abnormally low, swelled Professor Fisher's total figure for
check circulation by 31 billions, as we have seen. On the other hand,
the error of assuming New York City to be complete in Kinley's figures
tended to make the total smaller than it would have been, since New York
City was 28% below normal, and an increase of 28% applied to half of
Professor Weston's figure of 1.02 billions, gives about 70 millions more
for the day, or 21 billions more for the year, than when the 28%
increase is applied to only a quarter of Professor Weston's figure.
These two errors roughly neutralize one another, and we may accept
Professor Fisher's "finally adjusted" estimate of 353 billions[412] for
the year as roughly approximating the amount of checks deposited.[413]
How "rough" an estimate one gets by taking a single day as the basis for
a year need not be here discussed. I should be disposed to think that an
indirect calculation, _via_ clearings, in view of our more extensive
knowledge of the relation of clearings to "total transactions," might
well be worth more, so far as deposits outside New York are concerned.
Since, however, we lack any extended figures for the relation of
transactions and clearings in New York, and since even for the country
we are obliged to make guesses as to the relation of "checks deposited"
to "total transactions," I refrain from trying to improve further on
Professor Fisher's estimate for checks deposited in 1909--even though
questioning that "check deposits" and M´V´ are identical.

What, however, shall we say of M´V´ for other years? In the calculation
of this, Professor Fisher relies on the absolute figures for 1909 (and
1896, similarly calculated), together with an "index" based on New York
and country clearings. In this index he weights country clearings by
5,[414] and New York clearings by 1. The result is, of course, that
country clearings dominate the index. But New York clearings are much
more variable than country clearings. The range of variation in New York
clearings for the years 1897 to 1908, inclusive, is from 33.4 billions
in 1897, to 104.7 billions, in 1906; the latter figure being more than
three times as great as the former. The range in country clearings is
from 23.8 billions, in 1897, to 57.8 billions, in 1907, the latter
figure being 2-10/23 as great as the former. But more significant is the
degree of _year by year_ variability. The country clearings, with the
exception of 1908, always rise,--a steady, if not quite symmetrical,
increase. New York clearings, however, go up and down, 42 billions in
1898, 60.8 billions in 1899, 52.6 billions in 1900, 79.4 billions in
1901, 66.0 billions in 1903, 104.7 billions in 1906, 87.2 billions in
1907, 79.3 billions in 1908. New York clearings are highly variable in
both directions, while country clearings vary almost wholly in one
direction, with a maximum difference of 6.4 billions between any two
consecutive years, and with an average yearly variation of only 3.5
billions.[415] When country clearings are weighted by 5, almost all of
the high degree of variability of New York clearings is covered up, and
volume of checks deposited for years other than 1909 and 1896 is thrown
hopelessly away from the facts. It is too large by far in most years. In
1905, 1906 and probably 1901 it is too small. It does not vary nearly
enough. As V´ for years other than 1909 and 1896 is determined, for
Professor Fisher's equation, by dividing the M´V´ thus estimated by the
M´ for the year, it is clear that V´ as estimated by Professor Fisher is
very much less variable than it is in fact. It is pretty variable even
in his figures, but his figures do not nearly show how variable it
is.[416]

Again, this undue weighting of country clearings, swallowing up New
York, vitiates Professor Fisher's estimates for V, the velocity of
money, for years other than 1909 and 1896. One of the elements in the
calculation of V is the estimated V´.[417] Since V´ is wrong, V will
also be wrong. V is probably much more variable than Professor Fisher's
figures would indicate. With great admiration for the ingenuity of
Professor Fisher's speculations regarding V, I find too many elements of
conjecture, and too many arbitrary assumptions, to give me confidence in
the figure for any year. I refrain from going into any general criticism
of his method of calculating V, however, contenting myself with the one
clear point that, to the extent that the values of V for years other
than 1909 and 1896 depend on the estimated M´V´ for those years, they
are less variable than they ought to be.[418]

The same conclusion regarding Professor Fisher's estimates for V´ have
been reached, by a different method, by Professor Wesley C. Mitchell.
He, too, concludes that V´ is, in fact, more variable than Professor
Fisher would indicate.[419]

I conclude, therefore, that neither V´ nor V has been correctly
calculated, for years other than 1909 and 1896. I pass now to a
consideration of T, the volume of trade, after which I shall consider P,
the price-level, in the equation of exchange.

Let us first recall the point made in the chapter on "The Equation of
Exchange," that P and T, the price-level and the volume of trade, are
not independent even in idea. If one is given an independent definition,
the other cannot be given an independent definition. If the equation is
to be true, then P must be weighted by the numbers of each item (as
hats) exchanged. P is not a mere average, but is a _weighted_ average,
and T is always the denominator in the formula for P. In developing
statistics for P and T, therefore, this fact must be kept in mind, and
the elements entering into each must coincide, and vary together year by
year.

In our chapter on "The Volume of Money and the Volume of Trade," we
showed that the great bulk of trade is speculation. We showed that the
_indicia_ of variation which Fisher[420] and Kemmerer have constructed
for trade, dominated by inflexible physical items of consumption and
production, give wholly misleading results for every year except the
base year. They give a steadily growing, inflexible figure, with little
variation from its steady path. Trade, if chiefly speculation, is highly
flexible, varies enormously from year to year, waxes and wanes. This
point need not be further developed. At best Fisher's figure for trade
can be accepted only for one year, 1909.

Is, however, the figure for 1909, 387 billions, an acceptable figure? Is
it not decidedly too large? It is made up, it will be recalled, by
taking the figures for MV and M´V´, adding them together to get one side
of the equation, and declaring them equal to PT. P is then declared to
be $1, by the arbitrary device of taking as the unit of T one dollar's
worth of every sort of good at the prices of 1909. T is, then, 387
billions, since MV plus M´V´ equals 387 billions. The theory underlying
this is that deposits made in banks correctly represent trade.[421] Our
criticisms as to the absolute magnitude assigned to T (and hence to MV
plus M´V´) will rest in large measure in challenging this assumption. It
is our contention[422] that deposits made in banks very greatly
overcount trade.

Deposits made in banks include taxes and other public revenues; they
include loans and repayments, and interest-payments; they include gifts
and benevolences, money sent by parents to children away from home,
pensions, payments of insurance losses, annuities, dividends on stocks,
payments to and from savings and loan associations, fines, contributions
to churches, and other non-commercial organizations, etc., etc. None of
this represents trade.

But further, whether payments are in trade or not, many times indeed
does it happen that several checks are drawn in connection with the same
transaction. Professor Kemmerer, entertaining this possibility, thought
it might be neutralized by cases where the same check passes through
several hands, making payments in several different transactions. He
calls this, however, a "gratuitous assumption of unverifiable
accuracy,"[423] and makes no claim to have given the matter careful
study.

In general, I think it safe to hold that the case where a single check
passes through several hands is not important.[424] It will happen
chiefly with small checks in small places, or with small checks paid to
laborers. It is the pecuniary magnitude of checks, rather than their
number, that counts here. I am informed by several bankers that large
checks are almost universally deposited at once. This is for several
reasons: (1) The recipient of the check wishes to make sure that it is
good. (2) It is unlikely that the check is of the right size for another
transaction, unless the recipient is a mere agent for a third party, in
which case he should (but commonly does not) pass it on to his
principal, if double counting is to be avoided. (3) Every person who
handles sums of any size wishes a record of the transaction, and his own
canceled check is a receipt which he would not have if he passed on the
check of another.

This last point will go far toward explaining why bank transactions may
multiply without a corresponding multiplication of trade. The banks do
the bookkeeping for modern business in increasing degree. Checks are
records, of high legal value. A colleague recently told me that he, in
his own capacity, had just drawn a check to himself, as trustee,
transferring a sum from one account to another. Another colleague, with
eight different bank accounts, estimates that over 50% of the deposits
in three of them represent transfers from other accounts. This kind of
duplication, where trust relations are involved, is enormous.
Intercorporate relations and separate bank accounts within a corporation
complicate it still further.

A check is drawn by a subsidiary corporation to its dividend account,
and deposited; a check on this dividend account[425] is then deposited
in the general account of the parent corporation; a third deposit, of
the same funds, is then made in the dividend account of the parent
corporation; a fourth deposit of the same funds is made in a trust fund
which holds stock in the parent corporation; a fifth deposit in the
personal account of the beneficiary of the trust fund; a sixth deposit
may be made of a check on this fund in the personal account of the
beneficiary's wife. The first three of these deposits, at least, will be
made of the total dividend of the subsidiary corporation. _Not one_ of
these six deposits represents _trade_. Payments of wages and rents
should count as trade, but payments of interest and dividends stand on a
separate footing. When a man has bought a stock or a bond, he has
already bought all the income which is to come from them, and to count
the interest and dividends as separate items is double counting. They
are _payments_, but not _trade_. Even if the dividend payment be counted
as trade, however, it is counted _six_ times.

There is enormous overcounting as a consequence of the combinations of
corporations, each of which retains its own numerous bank accounts. The
Interstate Commerce Commission calls attention to great duplications
from this cause in connection with railway income accounts.[426] Even
within single corporations the duplications[427] are very great. Thus,
the local agent of a railroad deposits his receipts in a local bank. His
check, or, more usually, the draft of the bank, is subsequently
deposited in a bank at headquarters. Subsequent disbursements, in places
away from headquarters, particularly of wages, will frequently be
preceded by deposits in other local banks. This duplication will be true
of telegraph, telephone, insurance and other companies which have
scattered agencies, including the wholesale trade. Advertising agencies
will illustrate it. _All_ checks between agent and principal, customer
and broker, etc., will illustrate it. There is a great deal of double
counting in stock transactions from this source. Thus, a Boston broker
takes orders, with a check for margin, for execution in New York. The
order is executed by a New York broker, who deals with another New York
broker, who represents a Louisville broker, who represents a Louisville
client. Now to the extent that any checks at all pass between the Boston
broker and his client, the Boston broker and the New York broker, the
other New York broker and the Louisville broker, or the Louisville
broker and his client, we have overcounting. Only the check between the
two New York brokers is properly counted. It is, of course, well known
that a small percentage of the dealings of a customer of a brokerage
house is represented by checks between broker and customer. Professor
Fisher states this to be about 5%.[428] It is, however, 5% of
overcounting! Moreover, through keeping "open accounts," with irregular
settlements of "margins" only, the Boston broker and the New York broker
reduce markedly the checks passing between them. There is a back and
forth flow of items which in large degree cancel one another, since the
Boston broker sells in New York as well as buys there, and the New York
broker, to a less degree, both buys and sells Boston securities, through
his Boston correspondent. But not all by any means is canceled, and
_all_ the checks that pass in this way represent double counting. The
total is large.

_Public funds_ are included in the deposits reported to Kinley. Taxes
are not _trade_. Double, triple and multiple counting comes as revenues
are received by local authorities, transferred to State accounts,
subsequently redistributed to local accounts, or to the treasurers of
State institutions, transferred from one bank to another, etc. The State
of Massachusetts scatters its deposits in banks all over the State, and
makes transfers from one account to another. The City of Boston has many
bank accounts. The Federal Treasury deals largely with banks over the
country.

Whenever a retail store has branches, duplications are likely to occur.
"Chain stores" make great overcounting. "Kiting" swells bank deposits.

Replying to these contentions, Professor Fisher has urged that there is
large _undercounting_, also, and that the undercounting balances the
overcounting. I have myself called attention to a good deal of
undercounting in the chapter on "Barter." A substantial amount of
ordinary trade is carried on by means of partially offsetting
book-credit, time bills of exchange, simple barter, etc. The amount
might even run high, as compared with ordinary trade, when the clearing
arrangements in the stock and produce exchanges are taken into account.
But it is impossible to figure out anything at all in this line which is
to be compared with the great gap between the 141 billions of trade we
were able to find,[429] and the 387 billions Professor Fisher assigns to
trade. The gap of over 245 billions is much too great. Besides, in our
141 billions, we have counted barter items, book-credit items, time-bill
of exchange items, etc., already.

The main item of undercounting must be in connection with the clearing
arrangements in the speculative exchanges. This would seem to be
Professor Fisher's view, as well.[430] Data are at hand for the two
great exchanges of the country which enable us to measure, with some
precision, the amount of the undercounting--_i. e._, to tell the extent
to which checks are dispensed with in the trading of these two great
exchanges. The two exchanges are the Chicago Board of Trade and the New
York Stock Exchange.

For the New York Stock Exchange, figures are taken from Pratt's _Work of
Wall Street_, 1912 ed., pp. 166-167, 180, 273. The figures are for the
big year, 1901, when 266 million shares were sold, more than in 1909 by
51 millions of shares, and when the Stock Exchange Clearing House should
have done better, in the magnitude of the undercounting, than it did in
1909. Figures since 1901 are, Pratt states,[431] not available. Pratt
also gives figures for 1893, but does not give data as to the percentage
of stocks handled by the Clearing House, so that comparison with the
1901 figures cannot be made.

In 1901, 265,944,659 shares were sold. Of these, 15% were "X-Clearing
House," _i. e._, not on the list of stocks handled through the Stock
Exchange Clearing House. This 15% was paid for in full by check. The
bond sales are not cleared, and so another billion dollars of checks is
required for this item.[432] If we assume (on the basis of the estimates
given to the writer by DeCoppet & Doremus, and Mr. Byron W. Holt, for
recent years) that 25% of the 100 share sales would be added if "odd
lots" were counted, we have another large item that does not go to the
Clearing House. "Private clearings" reduce the number of checks in
connection with odd lots, but not so effectively as is the case with
hundred share sales put through the Clearing House. So far the Clearing
House has done nothing. What did it do with the 85% of the stocks in
hundred share lots offered for clearing?

The figures are perfectly definite. The 85% of the 266 million shares
sold was 226 million shares. The "share balance" remaining after the
Clearing House had done its best was 134 million shares.[433] The number
of shares sold, then, for which checks did not have to pass as a result
of the clearing process was 93 millions. In terms of dollars, we may put
the same figures. The estimated money-value of the 266 million shares
sold was 20.5 billions;[434] 85% of this is 17,425 millions. The
certifications required to pay for the 134 million share balance was
10,930 millions. The saving in checks was, thus, 6,495 millions of
dollars. This is the full extent to which the Stock Exchange Clearing
House undercounts recorded share sales. This is less than 1.7% of
Professor Fisher's 387 billions! To offset this, however, we have
_over_counting in the 5% of checks for all dealings on the Exchange
which pass between brokers and customers, as shown, and all the checks
between brokers and out-of-town brokers. We shall also find items of
_over_counting which vastly more than offset this undercounting, in
_loan_ transactions between brokers, and between banks and brokers, to
which we shall shortly give attention.

This six and a half billions in checks saved on account of sales of
stocks is no small matter, absolutely. But this, though measuring the
extent of undercounted _sales_, by no means measures the services of the
Clearing House to the Stock Exchange. Not merely stocks _sold_ have to
be cleared. Stocks _borrowed_ are also cleared. Borrowing of stocks is
not _trade_, but borrowing of stocks requires the passage of money and
checks. When stocks are borrowed, money is _loaned_. A bear sells short.
He has to deliver next day. He accomplishes this by having his broker
"borrow" the stock he needs from a broker representing a bull, who is
long on the stocks, and who needs money to "carry" them. The bull, who
lends the stock, receives dividends from the bear, as they accrue, and
pays the bear interest on the money lent. An enormous lot of this takes
place. Moreover, to some extent, these transactions are increased
artificially, in order that the broker may make his "clearing sheet"
misleading, and avoid revealing his position with reference to the
market.[435] Loans of stock and sales of stock appear alike in the
transactions of the Clearing House. Moreover, apart from the necessities
of the bears for stocks to deliver, we have the necessities of the
bulls for money to carry their stocks. If a broker who has borrowed
largely from the banks finds his customers turning to the bear side of
the market, he has an excess of funds. He may repay his loans, but they
may be, in part, time loans, and in any case, he may find it just as
well, if he can make a small fraction of 1% in interest, to lend to
another broker, among whose customers the bulls are increasing. A vast
deal of money is thus transferred, on collateral security, by means of
"loaning stocks." Brokers prefer to borrow money from one another in
this manner, since no margins are required, in general, whereas banks
would require margins. These various reasons make a vast deal of
"borrowing and carrying" transactions, and a regular place is set aside
for them on the Floor--Post 4, commonly called the "Money Post." At this
post, also, the banks, through brokers, lend on call, and the published
call rates are established there. Of this, however, we shall have more
to say later.

The extent to which this loaning of stocks takes place at the "Money
Post," as compared with the loaning done privately, varies. It makes no
difference, however, from the standpoint of the volume of these
transactions that go to the Clearing House whether they are put through
at the "Money Post" or outside. The loans made by the _banks_ at the
"Money Post" do not affect the Stock Exchange Clearing House
totals.[436] Formerly the "Money Post" was a place where the position of
the bears could be gauged in a given stock. If the demand for a stock
was great, the bulls could take heart, and increase the pressure. To
avoid giving away this information, however, borrowing is done on a
large scale privately, at present.[437] Of course, if the pressure gets
too strong, it will manifest itself at the money post anyhow, since
bears borrowing particular stocks will forego all or part of the
interest, or even pay a premium for the stock.[438]

Now it is possible, from the figures given for the total clearings of
the Stock Exchange Clearing House, in conjunction with the figures of
recorded sales, and the percentage of "X-Clearing House" sales, to get a
fairly accurate idea of the magnitude of these stock borrowing
operations between brokers. The total number of shares offered for
clearing by "both sides" in 1901 was 926,347,300! This is double the
actual amount, since both buyer and seller report the same transaction
to the Clearing House, the former with a "receive from" sheet, and the
latter with a "deliver to" sheet. Half this amount, or 463,173,650
shares, represents the actual number of shares to be handled. As we have
seen, 226 millions of this (85% of the recorded sales of 266 millions)
represents sales. The rest, or 237,173,650, represents borrowing of
stocks.[439] Borrowing exceeds actual sales, if the figures for 1901--a
year of enormous sales--are representative. We have, now, an
explanation of the prevailing opinion among brokers that the Stock
Exchange Clearing House dispenses with the major part of the checks that
would otherwise be required. _For their purposes_, it does make a vast
difference. Pratt's figures[440] show that, without the Clearing House,
certifications of $27,995,896,400 would have been required; that
certifications of $17,065,042,800 were obviated[441] by the Clearing
House, leaving the balance of $10,930,853,600 of certifications which
had to be used. This balance, as we have seen, is the major portion of
what would have had to be paid anyhow for the stocks actually sold and
offered for clearing. The saving on the actual sales is only 6.5
billions. But the saving to the brokers was, of course, much greater.
Even six and a half billions is no slight matter for any purpose except
the explanation of our 245 surplus billions! Pratt gives an estimate at
another place of the certifications required by the Stock Exchange
sales, reaching virtually the same conclusion that we have reached by a
somewhat different combination of his figures. He indicates that 14
billions of certifications were required, counting in the bonds, in
1901.[442] This compares with the 20.5 billions estimated value of
stocks sold, and approximately one billion of bonds. This leaves 7.5
billions of certifications obviated on sales. This takes no account of
the "odd lots." If they run to an additional 25%, we have five billions
more which are not put through the Clearing House. My information is,
however, that "private clearings" reduce the checks in connection with
these, though not so efficiently as is the case with the big Clearing
House.

Do the figures that get into the "all other" deposits from those
connected with the Stock Exchange undercount sales made there? Not yet
have we taken account of an item which swamps all that we have
considered. I refer to loan transactions by the banks, particularly call
loans. The volume of these is enormous. At the "Money Post" alone, the
figures average between 20 millions and 25 millions a day.[443] The
range is from 10 to 50 millions. The major part of these loans are not
made on the Floor of the Exchange, however, but privately, between banks
and brokers. Even on the Floor, no records of the loans are kept, and
only estimates are available. For the loans made privately, no figures
are attainable at all. The total must be enormous. One authority writes,
in a letter, "The total amount of money loaned at the post varies
considerably, depending upon the rate. For instance, when money is under
3%, loans are largely made directly between the banks and the brokers,
but when it gets over 3% and gets strong, more loans are made at the
post. Some national banks make all their loans there right along, so I
understand." My information from an officer of the National City Bank is
that it lends the major part of its demand money on the floor of the
Exchange. The other chief lenders, according to the Pujo Report,[444]
are the National Bank of Commerce, The Chase National, the Hanover
National, J. P. Morgan and Co., and Kuhn-Loeb. The same report states
that the bulk of such loans are made directly between banks and brokers,
and not at the "Money Post."

How do these transactions affect Kinley's figures for deposits, and so
Fisher's total of 387 billions? The small dealer deals, usually, with
one bank. When he borrows, he gets a "credit" on his deposit account,
but makes no "deposit" that would get into Kinley's figures. But
stockbrokers deal with many banks. They have one bank which "certifies"
for them, and with which they regularly keep a "balance." But for their
loans, they deal with whatever bank gives them the best rate, or has the
funds to spare. In time of tight money, they shift their loans with
great frequency. They borrow also from one another. "Money" is "worth
money" in New York, and idle funds will be lent by whomever has them for
whatever the market will pay, on collateral security on call. When a
broker deposits money in his bank borrowed from another bank or another
broker, he gets a deposit credit which does get into Kinley's
figures--he deposits a certified check, or a bank draft. The following
has been described as a typical transaction by the bond expert of a
Boston banking house, and has been amplified by several Wall Street men
with whom I have discussed it. A, whose home bank is Bank W, has
borrowed, on call, $500,000 from Bank X. Bank X calls the loan. A finds
Bank Y willing to lend him enough to pay it off. Before he can get the
new loan from Bank Y, however, he must get his collateral released by
Bank X. Before he can do that, he must pay off the loan at Bank X. His
recourse, then, is to Bank W, his regular bank, which certifies for him,
and with which he keeps his balance. Bank W gives him a certified check
(either an overcertification, or a "morning loan" transaction), for
$500,000, with which he pays off the loan at Bank X. He then takes the
collateral from Bank X to Bank Y, and makes a new loan. He gets a draft
from Bank Y, which he deposits with Bank W, and then draws another check
against his deposit with Bank W to pay off the "morning loan," in case
the transaction took that form. Here are three checks for this loan
transaction, two of which get into clearings, and one of which gets into
"all other deposits." But the checks may be multiplied. A, instead of
getting a new loan at Bank Y, may call a loan from broker B, who may
then call a loan from broker C, who may go to Bank Y to get the funds he
needs to pay B. Here are two new checks in the series, both of which get
into the "all other" deposits. Checks fly about recklessly in Wall
Street, and men will turn over money many times, if an eighth of 1%, or
less, can stick by the way, on a good sum, for a few days! This is
strikingly illustrated by a fact which caught my attention in the
monthly bank statement of a brokerage house which I was allowed to
examine. The deposits made during the month, and the checks drawn during
the month, balanced to within five hundred and fifty dollars out of
several millions. The broker said of this: "It would be true even for a
single day, and it would be true for a year. The bank requires us to
keep a minimum balance; it is to our interest not to keep more than
that. If we have more at the end of the day, we lend it out; if we have
less, we borrow to make up the deficiency. We try to have just that
balance, and no more, to our credit at the bank at the end of every
day." The handling of funds by a brokerage house is a fine art,
involving both technical skill and a philosophic grasp of the factors of
the "money market." Are rates going up? Then it is well to reduce call
loans, and borrow more on time. If lower rates are anticipated, more
call money will be employed--with the possibility of a "squeeze" if too
much is taken that way. Hidden dangers must be foreseen. The sums
borrowed are enormous, and brokers' profits depend in very substantial
degree on their skill in borrowing as cheaply as possible, and in
utilizing their funds to the utmost.

It is here, I think, in loan transactions between banks and brokers and
between brokers, that we have a major part of the explanation of the
huge deposit figures for New York City, and for the tremendous influence
of stock sales on clearings, which Mr. Silberling's[445] figures show.
This is the opinion of Professor O. M. W. Sprague, who first called my
attention to the volume of call loans, and rapid shifting of call loans,
in New York, and it is the opinion of every Wall Street man with whom I
have discussed the matter. The actual pecuniary magnitude of the share
sales and bond sales is not enough to do it. The mass of connected loan
transactions, however, substantially greater in volume than the actual
sales of securities, is, with the security sales, enough to do it.

When the call rate is high, which will particularly happen when bank
reserves are low, the shifting in loans will be much increased. One bank
will have money to lend one day, but the next day will have to call it,
to meet heavy demands at the Clearing House, while some other bank will
have the surplus funds to lend. The brokers, by bidding up the rate,
will tempt the temporary lending even of small surpluses, if their
necessities are great. The volume of "all other deposits" and of bank
clearings will be swelled by this much beyond ordinary. That this should
not be revealed to ordinary statistical tests is due to the fact that
speculation tends to fall off at such a time, so that the other factors
in the stock exchange operations tend to reduce daily deposits and bank
clearings. Mr. Silberling has applied to this problem the technique of
a refinement of the correlation method, the method of partial
correlation, with the result of confirming this view.[446]

I conclude, therefore, that stock exchange transactions, instead of
being undercounted in bank deposits, are very greatly overcounted.[447]
The big item that does it is loan transactions between brokers and
brokers and between brokers and banks.

The evidence from the Chicago Board of Trade, with reference to the
extent of clearings within the exchange there, comes in a letter from
the Secretary of the Board of Trade to Professor Taussig. The only
clearing house transactions are in connection with "futures." All
"spot" transactions are paid in full by check. All futures other than
those offset by clearing are paid in full by check. The total amount put
through the Clearing House in 1915 was 118 millions, of which the
balances paid were 41 millions (saving checks to the extent of 77
millions). This 77 millions is a trifle indeed as compared with the gap
of 245 billions we are trying to fill! It is a trifle also as compared
with the business done on the Board of Trade. The Secretary estimates
that commodities to the value of $375,000,000 actually arrived on the
exchange in 1915. On the average, the figure would be $350,000,000. For
the Stock Yards "it is approximately the same--last year was
$375,000,000. Of fruits, vegetables, poultry, butter, eggs, etc., sold
in South Water Street, it is claimed by their statisticians, the value
is $350,000,000, or a total of about eleven hundred millions _arriving_
[Italics mine] yearly at this great market place, all of which is paid
for by checks, and when the ownership changes, the change of ownership
is always paid by check." How many times the goods change hands, cannot
be stated on the basis of records of the Board of Trade. The Secretary
contents himself with saying that they are "sold and resold many times."
We have discussed this, on the basis of reputed figures of the Federal
tax on grain futures in 1915, in our chapter on "Volume of Money and
Volume of Trade." In any case, it is clear that the 77 millions of
checks economized, though absolutely great, is relatively a bagatelle.
It is, moreover, more than compensated for by loan transactions. The
Secretary estimates that for a sixty-day period, when grain is coming
in, from two to four millions will be lent by the banks daily on
_arriving_ grain. How great the loan transactions on subsequent sales
will be we can only conjecture.

While able to find, then, important cases of trade and speculation
which dispense with the use of checks, I cannot find anything of
magnitude sufficient to aid Professor Fisher's case, and I find, on the
other hand, enormous overcounting in every field where business and
banks meet, as well as in the relations of banks to non-commercial
depositors.

I conclude, therefore, with reference to the figures of Fisher and
Kemmerer[448] for volume of trade, that they are much exaggerated for
the base year, and that for every other year they are wholly wrong, both
because of their excessive magnitude, and because the index of variation
has been wrongly chosen.

The discussion of P, the price-level, in the statistics of Kemmerer and
Fisher need not be extended. P, for the equation of exchange, and for
the quantity theory, is a _weighted_ average, each price that goes into
it being weighted by the number of exchanges involving the commodity of
which it is the price. The weighting of P should correspond to the
elements in T, the volume of trade, and should vary from year to year,
as the elements in T change.[449] Now Kemmerer's P is weighted as
follows: wages, 3, security prices, 8, wholesale prices, 89.[450] If our
conclusions with reference to the composition of the volume of trade, as
developed in the chapter on "Volume of Money and Volume of Trade," are
valid, this weighting gives us a P which has no relevance to the
equation of exchange. The wholesale items should have a weight of not
more than one-sixth of the total for 1909. Certain commodities, as wheat
and cotton, in which there is heavy speculation, should be given great
weight, and securities should have, probably, the greatest weight of
all. If "trade" is to be extended to cover transactions in bills of
exchange and loan transactions (as it is by Kemmerer),[451] then P
should contain these things, weighted more than all else put together,
particularly if call loans are included. The weights should be radically
altered from year to year. We should then get a P which would fit the
"equation of exchange"--though what else it would be good for is hard to
say! The same criticism applies to Fisher's P. It is dominated by
wholesale prices.[452] It therefore has no relevance to an equation of
exchange in which only one-sixth at the very most of the items are
wholesale items. Neither Fisher nor Kemmerer alter their weights in P at
all, to correspond to yearly alterations in the composition of T.

As _indicia_ of changes in the _absolute value_ of money, Kemmerer's and
Fisher's index numbers, or other index numbers of numerous wholesale
prices, with a substantial weighting of wages, are probably better than
an index dominated by stocks. Stocks fluctuate more widely than
wholesale prices and wages, their values are more affected by variations
in business confidence, and by variations in the rate of interest. For
measuring _the value of money_, the index numbers here criticised are
very good. But for the purpose for which they are chosen, namely, to
fill the equation of exchange, and to measure variations in a
_price-level_ of the sort the quantity theory and the equation of
exchange are concerned with, they are simply irrelevant. If it were
really true that such an index number varied with the quantity of money,
then the quantity theory would be effectively disproved!

Now, in general summary of our criticisms of the figures of Kemmerer
and Fisher: they have systematically buried New York City, and
systematically covered up speculation. All the errors converge in this
direction. The _indicia_ of trade cover up speculation and the other
things that go on in New York, and other financial centers. The
_indicia_ of prices do likewise. Fisher weights New York clearings only
1, while weighting country clearings 5, in his index of variation of
check transactions. He also counts New York returns for March 16, 1909,
as complete, and gives all of his estimate for non-reporting banks to
the country. Kemmerer does not do this, but he does exaggerate the
importance of money, as compared with checks, and does not allow the
velocity of money to vary at all in his figures, thus getting a much
greater constancy in the figure for total circulation of money and
checks than is proper, and covering up the flexibility and variability
which New York gives to our system.[453] In general, our task in this
chapter has been an archæological excavation--we have rediscovered a
buried city.




PART III. THE VALUE OF MONEY




CHAPTER XX

RECAPITULATION OF POSITIVE DOCTRINE


The chapters which have gone before have been, in considerable degree,
concerned with the analysis of unsuccessful efforts to solve the problem
of the value of money, as the quantity theory, or the attempts to apply
the notions of supply and demand, marginal utility, and cost of
production, to the problem. Not all that has gone before has been, even
in form, primarily critical. The chapter on "Economic Value" lays the
foundation for the main constructive theory of the book, and in
virtually every chapter some portion of our positive doctrine has been
developed. In the doctrines criticised, elements of truth have been
noted, and in showing the errors of the doctrines considered,
constructive doctrine has been presented by way of contrast. The
theories criticised, moreover, even where they have gone astray in
solving problems, have at least the merit of _stating_ problems, and so
have aided in clearing the way for theories better based.

It is the task of the present chapter to present, in a series of theses,
the main constructive results so far attained. No effort will be made to
follow the order of the exposition which has preceded. A summary of that
will be found in the detailed analytical table of contents. Rather, we
shall seek to draw from what has preceded the positive doctrine which is
scattered through the preceding chapters, and to present it by itself,
as a basis for the more systematic formulation of constructive theory
which the following chapters are to contain.

1. The theory of the value of money is a special case of the general
theory of value.

2. Value is a phenomenon of psychological nature. Not physical
quantities, but psychological significances, are relevant when the
problem of value and price causation is involved.

3. Value is not a ratio of exchange, or "purchasing power," but is an
absolute quantity, prior to exchange. It is the fundamental and
essential attribute or quality of wealth, the common or homogeneous
element present amidst the diversities of the physical forms of wealth,
by virtue of which comparisons may be instituted among different kinds
of wealth, and different items of wealth may be added to make a sum, put
into ratios of exchange, and so on.

4. Economic value is a _species_ of the _genus_, _social value_,
coördinate with legal value, and moral value. It is part of a system of
social motivation and control.[454] Psychological in character, it none
the less presents itself to an individual as an objective, external
force, to which he must adapt himself.

5. Individual prices have two coöperating causes: (a) the social
economic value of the money-unit, and (b) the social economic value of
the unit of the good in question.

6. The average of prices, or the "price-level," is a mere mathematical
summary of the particular prices. The causation involved in the average
of prices is nothing more than the causation involved in the particular
prices.

7. The value of money is to be distinguished from the "reciprocal of the
price-level," or the "purchasing power of money." The value of money is
an absolute quantity, one of the factors, determining each particular
price. Particular prices and general prices may change because of
changes in the values of goods, with no change in the value of money.
Or, particular prices and general prices may change because of changes
in the value of money, with goods remaining constant in value.

8. The absolute value of money, assumed constant, is presupposed by the
great body of present day price theory, as supply and demand, cost of
production, and the capitalization theory. These theories are,
therefore, inapplicable to the problem of the value of money.

9. But supply and demand, cost of production, the capitalization theory,
and other laws concerned with the concatenation and interrelations of
prices, being applicable to the problem of particular prices, are also
applicable to the problem of general prices. (Chapter on "The
Passiveness of Prices.")

10. The general price-level, as a consequence of changes in particular
prices, growing out of changes in the values of goods, may rise or fall,
without antecedent changes in the value of money, or the quantity of
money, or the volume of credit, or the volume of trade, or in the
"velocities of circulation" of money or credit. (Chapter on "The
Passiveness of Prices.")

11. The general laws of prices, supply and demand, cost of production,
the capitalization doctrine, the imputation doctrine, etc., conflict
with the quantity theory. In the cases where they conflict, the first
named doctrines are correct, and the quantity theory is wrong. (Chapter
on "The Passiveness of Prices.")

12. The value of money, being a special case of economic value, is
subject to the same general laws. This means, from the standpoint of my
theory, that the theory of social value is applicable to the problem of
the value of money.

13. This is not the same as saying that the whole value of money is to
be explained by the social value of gold bullion, conceived of as a mere
commodity. A hypothetical case was constructed in the chapter on
"Dodo-Bones," in which gold is the standard of value, but is not
employed as a medium of exchange or in reserves, where the whole value
of money is to be explained by the value of gold bullion, conceived of
as a commodity.

14. But, in general, money gets part of its value from its monetary
employments. (Chapter on "Dodo-Bones.")

15. The additional value which comes to gold bullion as a consequence of
its employment as money, is itself to be explained on social value
principles. It grows out of the social value of the services which money
performs.

16. The functions of money remain to be examined in detail. And the
relation between the value of particular services of money and the
capital value of money, has not yet been analyzed. There is a relation
between the two--a relation which varies under different
conditions--even though it has been shown in the chapter on the
"Capitalization Theory" that the relation is not the simple one which
holds between the values of services and the capital value of ordinary
income-bearers. There must be an increment to the value of gold bullion
as a consequence of its being coined, however, since otherwise there
would be no force leading it to be coined.

17. This increment in value to bullion, as a consequence of coinage,
becomes evident when free coinage is suspended. An agio of coin over
uncoined bullion may easily appear.

18. But this is not to assert the doctrine of the quantity theory.
Because

19. The money service presupposes the existence of value for money from
some source other than the monetary employment (chapter on
"Dodo-Bones"); and

20. Hence the monetary employment can explain only a differential
portion of the value of money.

21. The proposition that money must have value from some source other
than the monetary employment does not mean, necessarily, that money must
be made of precious metals, or be convertible into precious metals. The
value of money is, indeed, most stable and best sustained when such is
the case. But it is possible for money made of paper to have value apart
from the prospect of redemption--though no clear case has been made, in
the writer's opinion, for the view that this has historically occurred.
But as a hypothetical possibility, my theory holds that paper money may
attain a value of its own, growing out of various factors which a social
psychology can explain, including law, patriotism, and custom. Social
values in every sphere are imperfectly rationalized. Values which in
their origin are secondary and derived may become substantial and
independent of their "presuppositions." This is true of legal and moral
values. It is true of the capital value of land. It may be true of paper
money. This matter has been discussed in the chapters on "Economic
Value" and on "Dodo-Bones." The social value theory has not the
limitations of the utility theory in dealing with such cases, nor is it
tied to a metallist or bullionist interpretation. Legal, moral, and
patriotic factors, and the influence of social custom, all fall readily
into the social value doctrine.

22. The "measure of values" function, and the "standard of deferred
payments" function, need not require the actual use of money, and need
not add to the value of money. The function of "medium of exchange," and
other functions to be analyzed in a later chapter on that topic, do
involve the actual employment of money, and are sources of value for
money.

23. The quantity of money and credit are matters of high importance in
economic life. They affect vitally the smooth functioning of production
and exchange. While not accepting the extreme view of those writers who
see in scarcity or abundance of money the primary cause of the ebb and
flow of civilization, I maintain that the quantity of money and credit
does make a vast difference, and that the quantity theory contention
that, after a transition is effected, the only consequence of a change
in the quantity of money is a proportional change in the price-level, is
wholly indefensible. (Chapter on "Volume of Money and Volume of Trade.")

24. Very much of economic theory has been developed in abstraction from
money. For economic statics, with its delicate marginal adjustments, on
the assumption that friction is banished, that the market is fluid, that
labor and capital and goods are mobile, etc., money does appear a
needless complication. But the static assumptions are only possible
because money and credit have smoothed the way. It is the business, the
function, of money and credit to overcome "friction," to effect
"transitions," to make it possible for "normal" tendencies to manifest
themselves. (Chapter on "Volume of Money and Volume of Trade.")

25. The main work of money and credit is in effecting "transitions,"
bringing about readjustments, enabling society, with little shock, to
adapt itself to dynamic change. The great bulk of the actual exchanging
that takes place is speculation, and would not occur if economic life
were in static equilibrium. This is true both as a matter of theory and
as a matter of statistics. More than half of the checks deposited in the
United States are deposited in New York City, where "wholesale" and
"retail" deposits are a small factor. Bank clearings fluctuate in close
conformity with stock exchange transactions. Great banks, and the bulk
of banking transactions, are everywhere found in the speculative
centres. (Chapters on "Volume of Money and Volume of Trade," and "The
Rediscovery of a Buried City.")

26. Hence a functional theory of money must be essentially a dynamic
theory: must rest in a study of "friction," "transitions," and the like.
And,

27. Hence a theory of money like the quantity theory, concerned with
"long run tendencies" and "normal equilibria" and "static adjustments"
touches the real problem of the value of money not at all.

28. An increase of money tends to increase trade. (Chapter on "Volume of
Money and Volume of Trade.")

29. An increase of credit tends to increase trade. (Same chapter.)

30. An increase of trade tends to increase the volume of credit, and,
where the money supply is flexible, tends to increase the money supply
also. (Chapter on the "Volume of Trade and the Volume of Money and
Credit.")

31. Production waits on trade. The problem of marketing in the modern
world is often more important than the problems of production in the
narrower sense. Selling costs are probably greater than strict "costs of
production." "Volume of trade," far from being dependent on "physical
capacities and technique," is almost indefinitely flexible, with
changing tone of the market, with changing values, and with other
changes, including changes in the volume of money and credit. (Chapter
on "Volume of Money and Volume of Trade.")

32. The relation between the volume of money and the volume of credit is
exceedingly flexible. The relation between the world's volume of credit
and the world's volume of gold is likewise exceedingly loose, uncertain,
and flexible. (Chapters on "Volume of Money and Volume of Credit," and
"The Quantity Theory and World Prices.")

33. "Velocity of circulation" is a blanket name for a complex and
heterogenous set of activities of men. It is a passive resultant of many
causes, and is itself a cause of nothing. The safest generalization
possible concerning it is that it varies with the volume of trade and
with prices.

34. Barter remains an important factor in modern economic life, and is a
flexible substitute for the use of checks and money, increasing when the
money market "tightens." It is greatly facilitated by the "common
measure of values" function of money.

35. The general criticism of the mechanistic scheme of causation
involved in the quantity theory has, as its positive corollary, the
doctrine that psychological explanations must be given--that the
phenomena are intricate and complex, as intricate and complex as the
play of human ideas and emotions, and the network of social
relationships.

36. This means that the theory of value, and of the value of money, as
here presented, cannot assume the simple form, or the mathematical
precision, which have made the quantity theory so alluring. It means,
further, that the present study, as in part pioneer work, will lack
finish and definiteness in many places, will contain errors and gaps,
and will leave many problems unsolved, and many distinctions undrawn. At
many points, the analysis is confessedly incomplete, and the problems
imperfectly thought through--often inadequately _stated_, if seen at
all.

In what follows, these theses, with doctrines yet to be developed, will
be woven together into a systematic theory of money and credit.

The study of the functions of money, in relation to its value, will best
be approached, I think, through a study of the origin of money. In this,
I shall base my conclusions chiefly on the work of Karl Menger and W. W.
Carlile, who seem to me to have done most in this field.

On the basis of the general theory of value developed in the first
chapter, and the results of the two chapters which are to follow on the
origin and functions of money, I shall reach my main conclusions as to
the laws of the value of money. On the basis of this theory of value,
and of the theory of the functions of money, I shall also try to develop
a psychological theory of credit, and to assimilate credit phenomena to
the general phenomena of value. The development which the theory of
credit has had, at the hands of men whose chief interest was that of the
jurist or accountant, is valuable and important. I do not wish to
discredit what has been done. Many important doctrines concerning credit
have been developed. The general theory of elastic bank-credit, worked
out in the controversy between the "Currency" and the "Banking" Schools,
is of the highest importance. This theory I have discussed in the
chapter on "The Volume of Trade and the Volume of Money and Credit." I
still feel, however, that there are gaps in the prevailing ideas on
credit which only a social psychology can fill. I shall undertake to
construe credit as a part of the social system of motivation and
control, and to differentiate it from other parts of that system by an
analysis of its functions. I think, too, that the theory of the relation
of credit and money is in especially unsatisfactory shape, particularly
with reference to the factors governing reserves.

A final chapter, in Part IV, will undertake to bring together the
various points in our discussion which deal with the theory of
prosperity, and will seek to bring the notions of "theory of prosperity
_vs._ theory of wealth," "statics _vs._ dynamics," "normal _vs._
transitional tendencies," and certain other similar contrasts, into a
higher synthesis, which will, to be sure, not rob these contrasts of
their significance, but will rather find certain generic principles
which they share, and so make it possible to measure considerations in
one sphere in terms of considerations in the other sphere. In very large
degree, students of dynamics and students of statics have been talking
at cross-purposes, missing the force of one another's arguments, and
have been quite unable, even when understanding one another, to come to
agreement, precisely because they have lacked principles by means of
which they could compare in any quantitative way the forces which each
studies. A higher synthesis, which would give static and dynamic
theories common ground, would seem to be a desideratum of high
importance. Such a synthesis would go far toward unifying the science of
economics. I believe that the theory of money and credit, approached
from the angle of the social value theory, will meet this need.




CHAPTER XXI

THE ORIGIN OF MONEY, AND THE VALUE OF GOLD


This chapter is not concerned with history or anthropology for their own
sake. The present writer has made no independent historical or
anthropological researches, in connection with the question of the
origin of money. The chapter is primarily concerned with giving an
exposition of the theories of two writers, Karl Menger and W. W.
Carlile.[455] It is not important, for my purposes, whether either
writer has presented a theory which anthropology will accept as a
correct account of actual origins. The theories do throw light on
present functioning, and seem to me to be correct as analytical
theories, whether historically adequate or not. There are two main
questions with which the chapter is concerned:

(1) How did money come to be?

(2) Why should gold and silver have passed all rival commodities in the
competition for employment as money?

Viewing these questions from the standpoint of present functioning,
rather than from the standpoint of historical origins, we may restate
them as follows:

(1) Why should men accept small disks of metal, or paper representatives
of these metal disks, for which, _as_ metal, they have no use, or at all
events far in excess of the amount which they can make use of as metal,
in return for economic commodities which they can use? The social
utility of a money economy may well be granted, without giving an answer
to this question. Granting that social economic life works better by
far when men do accept these disks of metal in payments, the question
still remains not merely as to why the practice started, but also as to
why it continues. Granted that it is to the individual, as well as to
the social advantage, that each individual should accept these metal
disks in excess of his personal need for the metal, _if he is assured
that he can pass them on to others at will_ in return for the goods he
wishes to consume, the question still remains as to why the individual
should have this assurance, as to why the general practice should
continue. Menger quotes Savigny as holding that the thing is downright
"mysterious," and the Aristotelian answer of social convention
(sometimes interpreted as "social contract") is, in effect, a confession
that the thing does baffle explanation on the ordinarily understood laws
of exchange. The convergence of individual and social advantage, which
English economic theory has done so much to emphasize, is less clear by
far in connection with money than with the case where A trades a sheep
(of which he has a surplus) to B for a quantity of grain (of which B has
a surplus), while A has not enough grain, and B has not enough sheep.
This exchange is clearly to the advantage of both A and B, and the
practice of making such exchanges is clearly to the general advantage.
But in the case of money, A trades sheep (of which he may not have an
excess, so far as his capacity to consume is concerned) for disks of
metal which he probably does not intend to consume at all. The social
advantage of a general practice of the sort is easily established, but
it is not clear that it is to A's advantage, _unless we assume the
practice general_. But there are many practices which could be shown to
be socially advantageous if all men practiced them, and, indeed,
individually advantageous, if generally practiced, which can, none the
less, not be made a general practice. If thieves would cease stealing,
we could dispense with a vast expense now incurred in police and safe
deposit vaults and heavy locks, etc., and with a small fraction of the
savings could give pensions to the thieves which would surpass by far
their present incomes! Individual and social advantage would converge.
But for many reasons the practice could not be instituted, and would
break down quickly if instituted. Very powerful social pressure indeed
is needed to make an advantageous social institution--like
morality--work, so long as individuals sometimes find advantage in
breaking the general practice, even though the general practice, _on the
part of other people_, is of advantage to every individual. Now it is
clear that the institution of money is to the social advantage. It is
clear that it is to the advantage of every individual who has money that
everyone else should be ready to accept it in unlimited amount, in
return for his goods and services. But it is not clear, on the surface,
why everyone should be ready to take metal disks in unlimited amount in
return for goods and services. People will not take coal or horses or
hay or land or white elephants in unlimited amount in return for goods
and services. Why should there be such a general practice regarding
metal disks or pieces of paper?

This question, to one who has always lived in a money economy, may seem
childish. Such questions regarding anything to which we have grown
accustomed seem childish to those who have not been used to raising
them. Why does the sun rise? Why does seed-corn sprout? But these also
are proper scientific questions, the answer to which is of high
practical importance! The answer to the question just raised regarding
money will go far toward explaining the functions of money, and the
theory of the functions of money, together with the general theory of
social value, will give an answer to the question as to _how the money
function adds to the value of money_. The answer which I shall give on
the first question will in large measure follow the lines laid down by
Menger.

(2) The second question needs little revision, when stated from the
standpoint of present functioning, rather than of historical origin. We
have more recent history to deal with in connection with this question,
and Carlile, in his answer, offers substantial historical and
anthropological proofs. It is still, however, present functioning that
is important, and the question may be restated thus:

Why are gold and silver, and particularly gold, the standard money of
the great part of the world to-day? The principles of social psychology
which Carlile employs in explaining the historical development, are also
important in explaining the present attitude of mankind toward gold and
silver, and will serve, together with the general theory of social
value, to answer the question as to the value which money receives from
the employment of the money metal _as a commodity_.

It is worthy of note that neither of these questions has been seriously
raised or discussed by most recent writers of the quantity theory type.
Professors Kemmerer[456] and Fisher give no attention to them at all.
Both assume money as circulating, as the starting point of the argument,
without noticing how much is involved in the assumption. Neither,
moreover, gives an _analysis_ of the functions of money. Considerations
drawn from the question as to the origin and functions of money are hard
to bring into the quantity theory scheme. If money circulates, there are
causes for it. Fully to understand those causes, would be to understand
also the _terms_ on which money circulates, that is to say, the
_prices_. But then a quantity theory would be superfluous! And if the
quantity theory answer should not be obviously in harmony with the
answer already given by the theory of origin and functions, then doubt
would be cast on the quantity theory explanation. The quantity theorists
do well to avoid mixing up with their discussion considerations drawn
from the general theory of value, and from the theory of the origin and
functions of money.

The answer to the first question rests primarily in the fact that there
are differences in the _saleability_ of goods. Value and saleability are
not the same thing. A copper cent has high saleability; a farm has low
saleability.[457] Some valuable things cannot be exchanged at all. The
Capitol at Washington cannot be exchanged, yet has value. Under a
communistic or socialistic régime, exchange, as we now know it, would
largely or wholly cease. An entailed estate cannot be sold, yet has
value. If society should really come to the stable equilibrium of the
"static state," most of the exchanges of lands,[458] securities, and
other long-time income-bearers would cease, but they would still be
valuable. I have developed these notions in my article on "Value" in
the _Quarterly Journal of Economics_, Aug. 1915, and have referred to
them again in the chapter on "Value" in the present book, and so need
not expand the discussion here. Exchangeability and value are different
characteristics of goods. Value is an essential precondition of
exchangeability, but can exist without it. Value is, however, commonly
increased by exchangeability. But the theory of exchangeability is a
separate matter, and cannot be deduced from the theory of value alone.

Menger points out the difference between "buying price" and "selling
price." You can buy a piano for $400. If you try the next minute to sell
it for $375 you will probably fail. You may pay ten thousand dollars for
a farm. The income of the farm may increase. The tax assessment may
increase. The capital value of the farm may increase. And yet, you may
have to wait for a long time before you find a buyer who will pay you
ten thousand dollars for it. One buys pianos or farms, as a rule, only
when one wishes to use them, or when one has such special knowledge of
the market that one knows pretty definitely where purchasers can be
found for a resale, at a profit. Even in such highly organized markets
as the stock and produce exchanges, one cannot usually buy in quantity
and sell immediately without some loss. "Buying price" and "selling
price" of such a stock as Industrial Alcohol Preferred are sometimes
five points apart, at a given time. The forced sale of land in
bankruptcies, or for taxes, notoriously often bring prices far below the
price which would correctly express the value of the land. It is only in
the ideal fluid market assumed by static theory, where adjustments are
instantaneous, where causal-temporal relations have become timeless
logical relations, that values are perfectly expressed in prices.[459]

All these difficulties were enormously greater in days of primitive
barter, before money and organized markets had been evolved. The
difficulties of barter have been much elaborated in the literature of
money. I shall recur to the topic in my chapter on the "Functions of
Money." Part of the trouble arises from the "want of coincidence" in
barter--the failure to find the man who has what you want, and who at
the same time wants what you have. Goods have high or low saleability,
depending, in considerable degree, on the _universality_ of the desire
for them. They may have high _value_ if only a few rich men desire them,
provided they be scarce. The paintings of old masters would be a case in
point. Incidentally, the difference between buying price and selling
price is often enormous in this case, and the making of a sale may well
involve long and expensive negotiations. The difficulties of exchange
here arise not alone from the limited market, however, but also from the
fact that each painting is a unique, and a unique of high value. A good
might have high saleability despite the fact that the ultimate demand
for it comes from only a few rich men, if it could be easily subdivided
and standardized.

Menger enumerates a number of circumstances connected with a good which
increase its saleability. Among them are the following:

1. Widespread and intense desire for the thing (to which should be
added, adequate wealth on the part of those who desire it).

2. Scarcity of the commodity in question.

3. Divisibility of the commodity.

4. Considerable development of the market.

5. That the demand for the article should be more than local.

6. That it be cheaply transportable.

7. That commerce between localities in the article be unrestricted.

8. That demand for the article be constant, not fluctuating, in time.

9. That the article be durable.

10. That it be uniform in quality, so that standardization is easy.

In general, Menger's list meets the requirements often laid down for a
good _medium of exchange_. In general, to the extent that any commodity
meets these tests, it will be _saleable_. Commodities will vary
indefinitely in the extent of their saleability.

Starting with the distinction between value and saleability, and with
the analysis of the circumstances affecting saleability, we may now
undertake to see how money tends to develop out of a barter economy.
Suppose that a man, in a barter economy, has a good of low saleability,
which he wishes to trade for some other specified commodity. He finds no
one who possesses the commodity he wants who is willing to trade with
him. But if he can trade his article of low saleability for some other
commodity of higher saleability, _still not the thing he wants_, he has
yet made progress, he has got _one step nearer_ the object which he does
want. It will be possible now, perhaps, to trade the new article, of
higher saleability, for the commodity he wants. If not, he can trade it
for some article of still higher saleability, which he can finally
trade for the article he wants. By several indirect exchanges, he
finally reaches his object. Incidentally, it is erroneous to distinguish
money and barter economies as economies based on direct and indirect
exchange. The barter economy may well involve much more indirection than
the money economy, in many cases.

If there be in the market some one commodity which has a conspicuously
higher degree of saleability than any other, the more sagacious men in
the market will make it a point to get hold of it and accumulate it in
excess of their anticipated consumption of it. They will do this,
because they will see that they can thereby get other things which they
do need more easily than in other ways. With the accumulation of a given
kind of highly saleable goods, in excess, by a few men in the group, in
the expectation that the surplus will subsequently be used to buy other
goods,--as yet perhaps not specifically determined--we have, not money,
but a big step toward money. At first only a few grasp the great idea.
They succeed and become wealthy. Then others see the advantage of the
thing, and imitate them. The prestige of the wealthy and successful men
would induce imitation even if the advantage were not clearly seen. Then
a tradition and a custom grows up. With the growth of tradition and
custom, picking out one or a small number of things as particularly
desirable objects to accumulate because of their saleability, with the
practice of accumulating these articles in excess of intended
consumption, money becomes an accomplished fact. There is no need for
agreement or legislation. Money is not, in its origin, certainly, a
matter of law or conscious public planning.

With the development of a highly saleable article into money, moreover,
we have further a great increase in that saleability itself. The
quality which made the practice possible becomes greatly enhanced by the
practice. Menger thinks that this leads to an absolute difference
between money and goods, the money article, which formerly was merely
superior to other goods in saleability, now becomes absolutely saleable.
The absoluteness of this distinction, which would make it a distinction
in kind, rather than in degree, seems to me not to be sound. I think
that the distinction remains a distinction of degree. For one thing, the
development of money, while it adds to the saleability of the
money-commodity, _also adds to the saleability of other goods_. _Two_
things must be exchanged, in order that _one_ may be! It is the business
of money to facilitate exchange, to overcome the difficulties of barter,
to bring about the fluid market. And it does this not merely by acting
as a medium of exchange. The fact that goods can be _priced_ in terms of
money, can have a common measure of value, makes barter itself easier,
as I have shown in my chapter on "Barter" in Part II. There are many
articles in trade at the present time whose saleability is not much less
than that of money, in ordinary times. Wheat in the grain pit is surely
highly saleable. Stocks and bonds are. If it be objected that in the
wheat market there is always some difference between buying price and
selling price, if considerable quantities are involved, it may be
answered that the same is true in the "money market" The man who has
just negotiated a three months' loan of five hundred thousand dollars at
3-1/2% may well have trouble in turning that loan over to someone else
immediately without shaving 1/4% from the money-rate! Besides, it is not
true that values remain unchanged when a big buyer shifts from the bull
to the bear side of the market. Buying price is higher than selling
price in that case partly because _his economic power_ has ceased to
sustain the value of the wheat, and the price would not correctly
express the value if it remained uninfluenced by that fact.

Further, as we shall see when we come to the analysis of credit, one
chief function of modern credit is to increase the _saleability of
goods_, and to enable men to use the value of their goods in effecting
exchanges without actually alienating their property in the goods. It
seems to me that the drift of modern systems of exchange is toward
closing up the gap between money and goods, in respect of saleability,
rather than to widen it.[460] But this is to anticipate later
discussion.

It is not necessary, in answering our second question, as to the reasons
why gold and silver have become the standard money of the world, to go
far in the study of primitive moneys. Wheat has almost never been money.
The value of wheat sinks rapidly with increase in supply, and is very
unstable. Wheat meets some other tests that fit it for money, as easy
divisibility, ease in standardization, and even has some degree of
durability, though subject to deterioration and waste with keeping, and
involving expense in keeping. Carlile and Ridgeway think that wheat was
used to some extent among the Greeks in Southern Italy as money, at one
time.[461] But this was possible because there was a regular export
trade in wheat--the same thing that made tobacco available as money in
Virginia. In general, however, commodities which minister to easily
satiable wants are ill-adapted for money. And that is especially true of
current stocks of goods currently consumed.

The accumulation of money, moreover, implies a stage of human
development where the accumulation of _capital_ is possible. It implies
foresight, the suppression of present wants in the interest of future
wants, and almost always money has been a commodity well suited to serve
as provision against future contingencies. Cattle, slaves, knives,
fish-hooks, cooking implements, and similar things have been money. The
"store of value" function manifests itself early.

But very early a different sort of commodity comes in. Articles of
_ornament_ early begin to take the place of articles that minister to
more animal wants. It seems strange that articles meeting wants which
are commonly counted frivolous and fanciful should distance those
obviously necessary in the race for a place as money. It seems strange
that the nations now at war should seem more concerned about their gold
supplies than about their wheat supplies.[462] But it is none the less a
fact that men in all ages have been enormously concerned about ornament.
In warm regions, ornament has commonly preceded clothing. Very early,
necklaces, bracelets, rings, earrings, nose-pendants, etc., became
objects of exceedingly great desire. And very early, gold and silver
were used for such purposes, and men made long expeditions for them and
fought wars for them in very early times, before the money economy was
developed far. Other ornaments than those made of gold and silver have
also become money. Wampum, polished shells, iron ornaments, etc., have
all been money. The Karoks of California were accustomed to use strings
of shell ornaments as money. When this was supplanted by American
silver, they used strings of silver coins as ornaments, dressing their
women lavishly with rows of silver dimes, quarters, and half-dollars!
Ornament and money are freely _inter_changeable in primitive life.
To-day, in the Western world, the thing is more specialized and
differentiated, and the interchange of money and ornament is largely
confined to jewelers, bankers, especially international bankers, gold
brokers, and the mints, _through_ whom the rest of society make the
interchange. In India, however, the peasant's hoard takes the form of
bracelets, bangles, and earrings for his wife and daughters, and the
peasant himself seems to regard them in the double light of provision
for future needs, and as conferring social distinction. They are both
ornament and savings bank, and are superior to a savings bank from the
standpoint of effective saving, since the natives would spend what they
put in the bank, but only famine can make them dispose of the ornaments
of their women.[463] Saving is a practice not easily started. There are
powerful motives in human life making for prodigality. Social prestige
comes to the man whose hospitality is lavish. Social expectation, which
is the most powerful steady motive power in human life, makes powerfully
for prodigality. Thrift is a virtue little esteemed among primitive men,
and none too highly esteemed among the masses in most countries. The
grudging person, the tightwad, the man who fails to do his share of the
treating, the woman who entertains her guests with inadequate fare--none
of these enjoy high social esteem. To offset this, a motive equally
powerful must manifest itself. It would be considered mean and
contemptible for the Hindu to put money away instead of spending it on
feasts at marriages and funerals, and in hospitality on other festive
occasions. But he gains, instead of losing, in social esteem and
prestige, if he decorates his women with gold and silver. Later, the
advantage of such a practice as a matter of provision against future
wants would get into men's minds, and would become an added incentive to
maintain and increase the practice. Thus the frivolous and fanciful side
of men's nature furnishes a powerful lever for the development of both
money and capital. In the store of value function we find one of the
earliest and most significant functions of money. Carlile offers a
wealth of evidence to show this interchangeability of money and ornament
among many peoples, at different stages of culture.

Three powerful elements of human nature work together in sustaining the
value of the metals which become widely used as ornament:

(1) love of approbation;

(2) the sex impulse;

(3) the spirit of rivalry, or competition.

In these three we have, perhaps, the firmest basis which it is possible
to construct for the value of anything! When religion is added, as has
often been the case with the precious metals, the basis becomes solid
indeed! Modern social psychology has increasingly made clear the power
of the first. Social expectation can take the raw stuff of human nature,
and mold it into almost any form it pleases. Original, hereditary
differences remain. Some raw stuff is so inferior that no high social
organization can be built out of it. Some stuff cannot respond very
effectively to the social stimuli. But _qualitatively_, the tendency is
for men to become what society expects. Individuals succeed more or less
in meeting social expectation. But the very elements of individual
aspiration and ambition, the very self of the individual, are molded to
the social pattern, and, with the same racial stock, vary almost
indefinitely from time to time and from place to place, with the
_mores_. If ornament confers distinction,--and almost everywhere it
does--men will seek to possess ornaments.

Commonly it is for the sake of the other sex that men seek ornaments.
Ornaments are an aid in wooing! Men gain wives by being able to give
them ornaments.--Not that this is the whole story!--And social
expectation, almost everywhere, requires that men decorate the wives
that they have won. Wives usually reinforce social expectation in this
matter.

Further, the desire for ornament is competitive. One's women must be
_better_ ornamented than the women of one's neighbors, if _distinction_
is to be gained thereby. But this sets a faster pace for the neighbors,
and the standard of social expectation is raised as to the necessary
amount of ornament. It is the same sort of competition that arises among
armed nations. A new battle-ship for one requires that all increase
their naval strength. New armies in Germany call for new armies in
France. A vicious circle is created. The desire for ornament, unlike the
desire for food, becomes insatiable. And hence, the value-curve for the
metal used as ornament sinks very slowly, being reduced, not by
satiation of want, but by limitation of economic resources. I need not
elaborate these notions further. They are of the same sort that Veblen
has developed in his _Theory of the Leisure Class_. They rest on
fundamentals in human nature, however much they differ from the
psychology of the "economic man." They give assurance, I think, that,
unless radical change in tastes and fashions come in, which displace
gold and silver from their position as ornaments and as means of
display, we may expect the value of gold to maintain itself at a high
level regardless of great increase in quantity. I do not share the view
which Carlile himself seems, at times, to express[464] that gold does
not sink in value with the increase in quantity. It seems to me easily
demonstrable that it has sunk, and does sink. But I should expect the
value of gold to survive the shock that might come if gold were entirely
displaced from monetary use vastly better than any commodity which
serves wants of a different character could stand a similar shock. The
demonetization of silver has, of course, not entirely displaced silver
from the monetary employment. It has, however, made it necessary for the
arts to absorb a greatly increased proportion of the new silver,[465]
and not a little of the old silver. The demonetization of silver,
moreover, was accompanied and followed by a great increase in silver
production. But silver has stood the shock amazingly well.[466]

It is, of course, thinkable that the attitude of mankind, under new
social conditions, and with new tastes and fashions, may change, with
reference to gold and silver. Love of approbation and distinction, the
sex impulse, and the spirit of rivalry, are eternal elements in human
nature. But their manifestations may change. There have been times when
love of distinction gratified itself in poverty and filth and
asceticism. Almost anything may be exalted into a social ideal. Society
may even reach ideals of such a sort that a man may gain social approval
and the love of woman in high competition with his fellows in the
service of mankind! But even here gold and silver may have a place. They
are beautiful, as we now see beauty, and beauty itself is good! The
world is better if it has beauty in it.

It is just as well to conclude at this point what I shall have to say
regarding the value of gold as a commodity.[467] The same quantity of
gold and silver may have widely varying values, depending on the
distribution of wealth and power. It is not alone intensity of
individual desire that controls values, but also the social weight of
those who manifest the desire. And this depends on the legal and other
institutional values concerned with social organization. The point is
strikingly illustrated by Walker's[468] account--designed for another
purpose--of the effect on the values of gold and silver of the conquests
of the great Eastern empires by Alexander the Great and the Romans. The
production of gold and silver, for the great Eastern empires, was like
the rearing of the pyramids in Egypt. All power was centered in the
hands of a few despots. Control of vast masses of laborers was in their
hands. The social values--it is difficult to classify them as legal,
economic and religious, since all three are blended--gave little weight
indeed to the desires of the masses, and tremendous weight to the
slightest whims of the despot. Thus, since the love of gold and silver
was intense in these despots, and since religious considerations also
called for the accumulation of great treasuries of gold and silver,
enormous numbers of laborers, living miserably, toiled in the mines to
produce them, and amazing stores of gold and silver were accumulated.
The precious metals had, in these Eastern empires, a high value per
unit, since so large a portion of the social energy of motivation
attached itself to them. With the conquests by Greeks and Romans,
however, a great change came. The old, gold-loving despots lost their
power. The conquerors had vastly less love for gold and silver for their
own sake. Moreover, the leaders among the conquerors had very much less
power in their own social systems than had the oriental despots. Their
soldiers were in considerable degree free mercenaries, who had a right
to a share in the spoils, and who cared much less for hoards of precious
metals than for many other things. In the new régime, the social centre
of gravity was changed. There remained few who loved great stores of
precious metals who had power enough to accumulate them. Mining on the
old basis was impossible. Though slavery persisted, more and more of
the labor of slaves went into the production of things that the masses
of men could consume. Gold and silver sank enormously in value.

Radical readjustments in the distribution of wealth in our own day,
might well make substantial changes in the value of gold, without any
change in its quantity. That a more equal distribution of wealth and
power, however, would lower the value of gold now, as in the case just
discussed, is not so clear. The masses in the Western countries are
already fed and clothed, as a rule, even in times of adversity, and
usually increasing income for them means increasing expenditure to
satisfy less pressing wants, and particularly to satisfy wants connected
with social esteem. The laborer's wife gets an expensive cab for her
baby when she can afford it. The negroes have gold fillings put in their
front teeth--sometimes when the teeth are sound! The practice of giving
wedding rings, and even engagement rings, is spreading among the poor.
Our American rural poor, of pioneer stock, have had less concern for
gold and silver ornament than the masses of the Asiatics and recent
European immigrants. But among the rural poor in America, as city
standards spread, the tendency to use gold and silver ornaments seems to
be increasing, while we may with considerable confidence expect, I
think, that the rise of the immigrant to better economic conditions will
mean a larger use of gold and silver on his part. Gold leaf on ceilings
and radiators would cease, doubtless, except for public buildings, if
great fortunes disappeared, and the use of gold, at least, for plate,
would be impossible in an economic democracy.[469] Silver might well
gain in value at the expense of gold if there were radical changes in
the distribution of wealth. It is notorious that prosperity among the
agricultural masses of India is promptly followed by absorption of gold
in that country. I venture no concrete conclusions on this point, beyond
the general conclusion that a redistribution of wealth, with no change
in the quantity of gold, might well be expected to alter the value of
gold.

It may be added that the general impoverishment of Europe, growing out
of the present World War, will probably lower the marginal value of gold
in the arts (and hence as money) in considerable degree. From this cause
alone, to say nothing of causes growing out of the money-employment of
gold, and growing out of the values of goods other than gold, we might
expect higher prices after the War than before the War, for articles of
consumption.[470]




CHAPTER XXII

THE FUNCTIONS OF MONEY AND THE VALUE OF MONEY


In preceding chapters, I have spoken of the "money-service" as a source
of additional value of money, under certain conditions. Before money can
function as money at all, it must have value from some non-monetary
source.[471] But, given this prior value, money performs valuable
services. These valuable services, in certain cases, add to the value of
money. Moreover, the fact that money, when made of a metal used in the
arts, lessens the amount available for use in the arts, raises the
marginal value of that metal there, and consequently raises its value in
monetary form as well. It is now necessary to analyze the money-service,
and to see in precisely what ways it does affect the value of money. And
first, we must notice that the money-service is not simple, but
compound; that in fact there are several services of money, in many ways
distinct from one another; that not all money can perform all of these
services; that most of them may be performed by things other than money,
that these services are not all equally important as sources of the
value of money, and that the same service varies, from time to time and
from place to place, in its significance from this angle; and finally,
that one of these services which is of the greatest social importance,
namely, the "common measure of values" function, does not add to the
value of money at all.

I shall not now undertake a history of theories of the functions of
money. Many of the points which follow are common property of many
writers.[472] The nature of some functions has been more clearly
explained than that of others. I have not found in the literature of the
subject any very clear statements, moreover, as to the relations of
different functions to the value of money. I shall try in what follows,
by a series of hypothetical cases, to isolate each function of money, as
far as may be, and shall try, by varying my hypotheses, to indicate
variations in the influence of the different functions on the value of
money.

The functions of money have been variously described and named. The
following list seems most satisfactory to me:

1. Common measure of values (standard of value).

2. Medium of exchange.

3. Legal tender for debts (_Zahlungs-_ or _Solutions-mittel_).

4. Standard of deferred payments.

5. Reserve for credit instruments, including reserve for government
paper money.

6. Store of value.

7. Bearer of options.

The common measure of value function rests in the intellectual needs of
man. It grows out of the necessity for calculation, for bookkeeping, for
understanding what is going on. Any object of value may be used to
measure the value of anything else, just as any object of weight--say
an irregular mass of iron--may be put in the balance against some other
object, and the relation between the absolute weights of the two objects
thus more or less definitely ascertained.[473] But it helps little, in
getting at the aggregate weight of a collection of objects, to know that
A among them is heavier than B, while D is lighter than F. To get a
knowledge of the situation adequate for quantitative manipulation, it is
best to compare all of the objects with some _one_ object, chosen as the
standard of weight, or common measure of weights. Thought is thus
immensely simplified. If we may imagine the calculations of a dealer in
a rural region, where no common measure of values is used, it will help
to make clear the nature of this function. Let us suppose that he deals
in nails, wire, cotton cloth, eggs, butter, hams, sugar, and moonshine
whiskey, and that his customers also make and use most of these things,
using him as a central clearing house in their rude division of labor.
Without a common measure of values, it is necessary for him to keep in
mind the price of every commodity in terms of every other commodity. If
there are twelve commodities, this means 66 ratios which he must
remember, according to the formula for permutations and combinations. In
general, in such a situation, there would be the following ratios: (n -
1) + (n - 2) + (n - 3) + ... (n - (n - 1)). Let him choose, however, one
of his commodities, say eggs, as the common measure of values, and he
needs to bear in mind only eleven prices, namely, the prices of each of
the other eleven articles in eggs. Thinking is immensely simplified. In
general, with a common measure of values, dealers need bear in mind only
(n - 1) prices. Suppose that at the end of the day, after considerable
trading, our dealer finds the following changes in his stock:

  _He has gained_            _He has lost_
  8 doz. eggs                12 lbs. nails
  3 gallons whiskey          8 lbs. wire
  4 hams                     13 lbs. butter
  5 yards cloth              10 lbs. sugar

Has his trading been profitable? How can he tell? Reduce all the items
in both columns to their equivalents in eggs, however, and the answer is
very easy. No complicated business is possible without this common
measure, and common language, of values.

Be it noted that this common measure of values does not necessarily
involve the use of a medium of exchange. The practice of _thinking_ in a
common measure is what is involved. If the article chosen be eggs, which
all are accustomed to use, the service of a common measure might easily
be performed without the practice of indirect exchange, assuming that
other physical difficulties of barter to which I shall shortly refer,
were absent. Indeed, as I have pointed out in the chapter on "Barter" in
Part II, a great deal of barter goes on in modern life, made very much
easier by the fact that we have a common language of values, a common
measure of values. For the easy working of the system, it is important
that the common measure of value be an article with whose value the
group is well acquainted. The frequent testing of this value in actual
exchanges vastly facilitates this. But actual exchange is not necessary
for the performance of the measure of value function. We have cases
where the measure of values and the medium of exchange are different.
Thus, in the Homeric poems, we find indications that cattle served as a
measure of values, even though payments were made in gold. The
Virginians commonly _thought_ in pounds, shillings and pence, even when
using tobacco as a medium of exchange. The need for a common measure of
values would manifest itself in any complex socialistic society, even
though exchange were largely dispensed with. No systematic plans for
utilizing the resources of such a society would be possible, no
bookkeeping would be possible, without some such device.

For this function, I prefer the term, "common measure of values," to the
term often used instead, "standard of values." The latter term, as used
in connection with the expression "standard money," sometimes carries
the connotation of "money of ultimate redemption," and its main function
is thought of as serving in reserves. The reserve function is a separate
function, however. It is common to have money made of the standard metal
in reserves. But this need not be the case. I would refer once more to
the hypothetical illustration developed in the chapter on "Dodo-Bones":
gold, not coined, as the "standard of value"; paper as the medium of
exchange; silver bullion, at the market ratio with gold, as the reserve
for redemption of the paper. This may suggest that a distinction may
properly be drawn between measure of values, and ultimate standard
money. The paper money, in this case, would be the thing of which the
masses would ordinarily _think_, so long as the system worked smoothly.
And the paper could serve as a measure of values. The case is not unlike
the case where a "standard yard," or "standard pound" is kept for
ultimate reference in a government bureau, while yardsticks or pound
weights in the shops and warehouses do the actual measuring. The cases
do not, indeed, run on all fours. The measurement of weights and lengths
involves physical manipulation; the measurement of values is an
intellectual operation, made by comparing two objects of value. The
comparison may be made in actual exchanges; it may be made by an
accountant's estimate; it may be made by comparing the results of
several exchanges, in sorites form, only one of which involves the
ultimate standard measure. The yardsticks actually used may vary more or
less, by accident or design, by variations of temperature, etc., from
the standard yard. The paper dollars, under a smooth working of the
system described, would be held closely to the ultimate standard, and
would, in any case, not vary as compared with one another at the same
time and place.

When the medium of exchange diverges in value from the ultimate
standard, as in the case of the American Greenbacks during the period
from 1862 to 1879, we have, sometimes, shifting relations among the
functions. The Greenbacks were the measure of value most commonly in
use. They were legal tender for debts, except where gold was specified
in the contract. They were commonly the standard of deferred payments.
To a considerable extent, however, gold was used in reserves, and even
as a medium of exchange. People _thought_ in both standards. And
finally, gold remained an ultimate standard to which the Greenbacks were
referred, and by which variations in their value were measured. The
terms, "primary standard" (gold) and "secondary standard" (Greenbacks),
have been employed to aid in straightening out this confusion.[474] I
think, on the whole, that the term, "common measure of values" describes
the function which I wish to emphasize more clearly than the term,
standard of values, and I shall, in general, employ it for that
purpose.[475]

The medium of exchange function grows out of the physical difficulties
of barter, rather than out of intellectual needs. The discussion in the
preceding chapter of the origin of money has emphasized the nature of
the difficulties which a medium of exchange meets. A has an ox, which he
wishes to trade for shoes, sugar, and a coat. Neither shoe-maker, tailor
nor grocer cares to take the ox, however, and, besides, no one of them
could supply A with all three of the things he wishes to get. Moreover,
even if A should meet a man who had all three things, he would not care
to give up the ox for them, since the ox is worth more than all three.
If there be a medium of exchange, however, A may sell his ox to the
butcher, and take his pay in that medium, which will be something easily
and minutely divisible, buy coat and sugar and shoes, and take the
surplus of his medium of exchange home, waiting for another occasion.
The medium of exchange function overcomes the difficulties arising from
low saleability of many goods, due to limited number of possible buyers,
lack of divisibility, etc., etc.

The common measure of values aids greatly in determining the prices, the
terms, at which exchanges may be made; the medium of exchange makes
possible exchanges which could not be made at all in its absence.

The measure of value function does not add to the value of money. The
medium of exchange function is commonly a cause of additional value for
money. The source of this extra value is the gains that come from
exchange.

Exchange is an essential part of the productive process, where you have
division of labor with private ownership of the instruments of
production, and private enterprise. Values[476] may be created by
changing the forms, the time, the place, or the ownership of goods. All
these operations are necessary in an economic system like our own. Those
who possess money are in a position to take toll, in values, from those
who wish to get rid of the goods which they have produced, and to get
hold of the goods which they wish to consume. The holders of money do
this by means of the money, and under the laws of economic imputation,
these gains are attributed to the money itself, first in the form of a
rental value, and sometimes, under conditions later to be discussed, as
increments to capital value.

Before giving full discussion to this topic, it will be well to consider
certain other functions, which are, or may be, sources of value for
money.

The reserve for credit instruments function cannot be fully discussed
till we take up credit. Provisionally, it may be said that it is a
source of absolute value for money, _per se_, even though the effect on
prices may be that, owing to a rise in the values of goods, the prices
rise. The fact of credit may even tend to lessen the absolute value of
money itself, by lessening the value that comes to money from the medium
of exchange function. On the other hand, credit increases exchanges,
making possible a vast mass of transactions which without it would not
occur at all. Of course, in our hypothetical case above, where the
reserve for credit instruments is silver bullion, the reserve for credit
instruments function does not add to the value of money at all.

The "bearer of options" function of money is also a source of value for
money. It is a valuable service. The man who holds money, waiting his
chance in a fluctuating market, anticipates a gain which justifies him
in holding his capital without return upon it. Money is not alone in
performing this service. High grade bonds also perform it. They bear a
lower yield per annum to compensate. The service of bearing options is
itself a part of the yield, and is itself capitalized, in their case.
Two 5% bonds, each equally secure, but one of which has a wide market,
while the other has a restricted market, will have a very unequal value.

This "bearer of options" function is often identified with the "store of
value" function. The two are properly distinguished. If a man has in
mind a definite contingency, at a definite future time, for which he
wishes to hold a store of value, he may well find that a high yield
bond, or a loan upon real estate, or many other productive investments,
will serve him better than money or bonds with wide market. So far as
money is concerned, the "bearer of options" function is much more
important than the "store of value" function to-day. The reserve of
value in liquid form, for undated emergencies (like the War Chest at
Spandau, or the big reserve accumulated between 1900 and 1913 by the
_Banque de France_), would, from the point of view of this distinction,
come under the "bearer of option" function, rather than the "store of
value" function. The important thing about the distinction is that for
one purpose a high degree of saleability in the thing chosen is
necessary, while in the other, such is not the case. The most common
case of the "bearer of options" function arises when men hold money,
liquid securities of low yield and stable value, short loans, call
loans, or bank-deposits, waiting for special opportunities in the
market.

The medium of exchange function would exist in a society where business
goes always in accustomed grooves, where uncertainty is banished, and
where most of the assumptions of static economic theory are realized.
If we push static assumptions to the limit, and assume "friction" of all
sort gone, assume that all goods can flow without trouble or expense to
the places and persons where their values are highest, etc., even the
medium of exchange function would disappear. But if we make our static
assumptions a bit more realistic, leaving the "friction" of barter, but
banishing the need for readjustment, and the uncertainties that grow out
of dynamic changes (whether caused by growth of population, or changes
in laws and morals, or in fashions and tastes, or in technical methods,
or by accidents of various kinds), then the medium of exchange function
will still remain. Given dynamic changes, we have need for a vast deal
more of readjustment, and a vast deal more of speculation. I have shown
in the chapter on "The Volume of Money and the Volume of Trade" that the
great bulk of trading in the United States to-day is speculation, which
increases or decreases with the amount of dynamic change, with its
accompanying uncertainty and need for readjustment. The major part of
the medium of exchange function arises from this. The whole of it arises
from factors which purest static theory is accustomed to abstract from.
The _whole_ of the "bearer of options" functions arises from dynamic
change. _This is the dynamic function_ of money _par excellence_. It is
commonly treated by economists as an unusual and unimportant function.
Merged with the store of value function, it is frequently treated as of
historical, rather than present, importance. In my own view, it is of
high present importance.[477] I should count it as in considerable
degree a _function_ (using function in the mathematician's sense) of
"business distrust"[478] waxing and waning in importance as business
distrust increases and decreases. In past ages, this function was
primarily concerned with consumption, money and other goods being held,
at the loss of interest, as a safeguard against personal danger and as a
means of subsistence in emergency. Increasingly to-day, it is concerned
with _acquisition_ of wealth in _commercial_ transactions. When war and
domestic violence were the main cause of social disturbance, the
consumption aspect was most prominent. That aspect came strongly to the
fore at the outbreak of the present war. The heavy selling of
securities, which closed the bourses of the world, grew out of men's
efforts to get money and bank-credit as a "bearer of options" for the
old reasons. The old reasons explain in large measure the accumulation
of gold by the _Banque de France_, and by the German Government,
referred to above. But to-day, in general, the main purpose of those who
use money, or other things, as a "bearer of options" is to make gains,
or avoid losses, in industry and trade. The man who, in a given state of
the market, is afraid to lend, or afraid to invest, foregoes the income
which lending and investing promise, and holds his money. The man who
sees uncertainty and fluctuation in the market, and expects them to give
him bargains in time, foregoes income for a time, and holds his money.
The man who has investments of whose future he is uncertain, and who
fears to try any other investment for a time, sells what he has,
foregoes income, and holds his money. It is not always possible, in
discussing the money functions, to preserve the distinctions between
money and credit, or money and "money" in the money-market sense. How
much difference is made by these distinctions will best be discussed in
our chapter on "Credit."

The significance of the "bearer of options" function is especially
manifest, I think, in connection with call loans. The "call rate" is
commonly well below the regular "discount rate," or rate for thirty-day,
sixty-day, or ninety-day paper. The explanation is to be found, I think,
in the fact that the lender of call money does not entirely dispense
with its service. He reserves a part of the "bearer of options"
function. To be sure, he will, in practice, have to wait an hour or two,
or even more for it,[479] and this may well mean that he cannot take
full advantage of an option. But the right to demand money on even
twenty-four hours' notice is more available than a high-grade bond, as a
means of meeting rapidly changing situations. This principle will
explain, too, I think, why money-rates in general, including even
ninety-day paper, are usually lower than the long-time interest rate on
safe farm mortgages, or on real estate mortgages in a city. The
thirty-day rate will commonly be lower than the sixty- or ninety-day
rate--though exceptions can easily be found, if the thirty-day period is
to cover a time of active business, which is expected to grow less
active during the second or third month. The influence of the bearer of
options functions is not the only influence at work on the rates. If it
be objected that the long-time interest rate on high grade railroad
bonds or government securities is sometimes lower than current
money-rates, or just as low, the answer is that these bonds also share
the "bearer of options" function, and that the interest rate on them is,
like the money-rate, lower than the "pure rate" of interest.
Writers[480] have been accustomed to look for the "pure rate" of
interest, _i. e._, an interest unmixed with insurance for risk, in the
highest grade of government securities. I think that this is a mistake.
I think that the "pure rate" should be sought in long-time loans, of
assured safety, which lack a general market. Such loans, _at the time
they are made_, should represent the "pure rate" _for that time_.[481]

I shall recur to the question of the money-rates, and the question of
the relation of the money-rates to the general rate of interest, in the
chapter on "Credit."

For the present I would call attention to the interesting case of
Austria, where the money-rates are normally very low, because the volume
of commerce and speculation is small, and the volume of banking capital,
politically fostered, is large; and where, on the other hand, the
general rate of interest on long-time loans is high, owing to the
scarcity of capital in industry and agriculture, as distinguished from
commerce.[482] This case may illustrate, incidentally, that even as a
"long run" or "normal" tendency, an excess of currency in a country may
lead, not, as the quantity theorists contend, to high prices, but rather
to low money-rates. Austria presents simply a striking case of what I
should regard as the general tendency. The money-rates and the
interest-rates tend to approach one another to the extent that paper
representatives of many different industries get into the "money
market"--to the extent that industrial investments in general become
saleable enough for it to be safe to finance them by means of short-time
banking credit. When banks lend on collateral security of corporation
stocks to the buyers of those stocks, they are, in effect, financing the
corporation itself.[483] Industries differ widely in the extent to which
they depend on the money market for their finances. The difference
depends often less on the nature of the industry than on the type of the
industrial organization. An individual farmer cannot get the bulk of his
credit that way! But there is no reason why a well-organized
corporation, assuming it successful in agriculture, might not draw on
the money market, even if not so freely as a manufacturing corporation
does.

For the contention that the money-rates for short periods are lower on
the average than the rates on longer loans, and that the call rates are,
on the average, well below all time rates, there is abundant statistical
evidence. From 1890 to 1899 in New York City, the average rate on 4- to
6-month paper was 5.99%; the average rate on 60- to 90-day paper was
4.58%; the average call rate was 3.29%. In the same city, for the period
from 1900 to 1909, the averages were: 4- to 6-month paper, 5.61%; 60- to
90-day paper, 4.78%; call rate, 4.05%.[484] This last figure for call
loans represents an average of quotations at the "Money Post" at the
Stock Exchange. While normally the call rates are well below this,
occasional high figures, like those in 1907, pull this average up. The
high rates at the "Money Post," however, are not always representative.
Banks frequently do not charge their regular customers as much as the
quoted rates.

Even more detailed evidence for our thesis is to be found in W. A.
Scott's investigation of New York money-rates, for the period,
1896-1906.[485] He studies _two_ sets of quotations for call loans,
those at the Stock Exchange "Money Post" and those at the banks and
trust companies; _seven_ sets of quotations (five of which appear
regularly) under the head of "time loans," namely, 30-, 60-, 90-day, and
4-, 5-, 6-, and 7-month; and _three_ under the head of "commercial
paper," namely, double name choice 60- to 90-days, and two varieties of
single name paper.

He finds a clear tendency for the rate to vary with the length of the
loan, although noting many exceptions. "The difference between these
quotations rarely exceeds one-half of one percent, and the general rule
seems to be that the influence of time in raising the rate grows less as
the length of the loan increases. For example, there is apt to be a
greater difference between the quotations of 60-and 90-day paper than
between 90-day and four months. Likewise there is a greater difference
between 90-day and four months than between 4-months and 5-months
paper."

The call rate, though much more variable than all time rates, and
sometimes high above them, is, on the average, well below them. For the
period, 1901-06, the averages are: call loans, 3.3%; time loans, 4.5%.

The declining influence of differences in time as the length of the
loans increases, is what our theory would require. If the "bearer of
options" functions of short loans is the explanation of the lower rate
on them, it is a factor which would count for less and less as the
length of the loan increases. A month's difference is all-important,
when the month involved is proximate, say the difference between 10 and
40 days. But it is of virtually no importance, from the standpoint of
the man who wishes to meet sudden and indeterminate emergencies,
whether the note he holds matures in eleven months or twelve months. The
difference between a one-year loan and a five-year loan might, on the
other hand, still be important from the angle of bearing options. The
factor should cease to have any meaning at all, or at least any
appreciable meaning, when the difference is between, say, twenty and
twenty-five years.

I have no statistical evidence that the one-year loan can normally
expect a lower rate than the five-year loan. At times, short time
financing may be even more expensive than long time financing. But such
study as I have given to quotations of short-term notes of corporations,
as compared with the longer term bonds of the same corporations, would
leave the distinct impression that short-term notes fare better in the
security market, and yield less return. A complication arises, here, of
course, that the short-term note may often lack the safety which a first
mortgage bond of the same corporation would have.

The legal tender for debts function calls for a brief discussion.
Whatever gives legal quittance from contract obligation, or from legal
obligation as for taxes, performs this function. "Legal tender" money,
in the strict sense, is not alone in performing this function. Usually a
government will by law or administrative practice with the force of law,
bind itself to accept forms of money which it will not compel other
creditors to accept. Thus, silver certificates, without being "legal
tender," are a means of legal quittance from obligations to the Federal
Government. Sometimes governments will receive only gold at the customs
house. This was true in the Greenback period, when Greenbacks were
"legal tender," but not good for payments of customs duties. The reader
who is interested in refinements of the legal distinctions among
different kinds of money will find the thing elaborately worked out by
G. F. Knapp, in his _Staatliche Theorie des Geldes_.[486] But "legal
tender" money is not always an adequate means of quittance. If the
contract calls for corn, or wheat, or Northern Pacific stock, the best
legal tender money is a poor substitute! Witness the "Corner" in
Northern Pacific in 1901. It is doubtless true, as Davenport[487] points
out, that all contracts, whatever they call for, may be ultimately met,
under the common law, by money damages, but that does not mean that a
man can maintain his solvency or position in business by offering money
when Northern Pacific is designated in his contract. Doubtless even
there money will free him, _at a price_, but Northern Pacific stock is
at least more convenient for the purpose! A man does not need money to
get free from debts, even when money is required by the contract. He can
turn in whatever he has in an assignment for the benefit of his
creditors, and get free _via_ the bankruptcy court. In other words, the
legal tender function of money, while it does distinguish money from
other goods as a matter of _degree_, does not erect an absolute
difference of _kind_.

Under a smoothly working monetary system, where all forms of money are
kept at a parity by constant and ready redemption, and where people have
no doubt that this redemption will occur, the legal tender quality which
attaches to part of the money is a matter of no consequence. It adds
nothing to the value of the money. In times of stress, the legal tender
quality may be a source of a considerable temporary value. This is
especially likely to be true of an inconvertible money. The legal tender
quality of the Greenbacks led to a very considerable fall in the gold
premium in the Panic of 1873. I have mentioned this point in the chapter
on "Dodo-Bones," where part of this discussion has been anticipated. In
general, the legal tender quality may be recognized as a factor in
sustaining the value of money, if as a consequence of this quality men
take the money when they would not otherwise take it, or take it on
terms which they would otherwise not agree to. Where, however, the money
is money which they are glad to get in any case, the legal tender
quality is a matter of supererogation.

The standard of deferred payments function, as distinguished from the
legal tender function and the medium of exchange function, does not add
to the value of money. Of course, if the standard of deferred payments
is actually used in making the deferred payment, then it finally becomes
assimilated to the other two functions. But it is quite possible to
divorce them completely. Suppose, for example, that the standard named
in a contract in the Greenback Period was gold, but that payment was
made in Greenbacks at the market ratio. Or, suppose that the standard of
deferred payments should be a composite of commodities, the tabular
standard, with the understanding that the index number on the day of
payment should determine the amount of money to be paid. In neither of
these cases does the standard of deferred payments function supply any
reason for an increase in the value of the thing which serves as the
standard.

In general, the standard of deferred payments and the measure of value
functions do not, _per se_, add to the value of money. The legal tender
function may or may not do so. The medium of exchange function, the
store of value function, the reserve for credit function, and the bearer
of options function, normally do occasion an added value which is to be
attributed to money, either as a capital increment, or as a rental.

The question remains, however, as to the relation of the rental value,
and the capital value, of money. This question is not easy to answer.
As I have already shown, in the chapter on "Capitalization" and
elsewhere, various complications present themselves in the case of
money. (1) In the case of money, the rental, and the prevailing rate of
interest at which rentals are discounted to make a capital value, are
not independent variables, but tend to vary together. Thus, whereas
increased rentals would in the case of most income-bearers tend to give
a higher capital value, this is offset, in the case of money, by the
fact that rentals are subject to a higher discount. (2) In the case of
income-bearers generally, the magnitude of the income, or rental, is
causally prior to the capital value. The capital value, in our
illustration of the candle, the disk and the shadow on the wall, is the
shadow, while the rental is the disk. This is the general relation
insisted upon by the Böhm-Bawerk-Fetter-Fisher line of capital and
interest theory. Productivity theories of capital have been criticised
on the ground that capital value is not productive, that only concrete
capital-instruments are productive, and that they produce, not value,
but goods, that these goods receive value from the market, which is
reflected back, but discounted, to the capital instruments which
produced them, so that, in value-causation the line of causation is
precisely the reverse of the line of technological causation. Capital
instruments produce consumption goods, but the value of the consumption
goods is the cause of the value of the capital instruments. In the case
of money, however, this is not true. It is the _value_ of the money, the
capital value, which does the work that makes a rental value. The value
of the money is a precondition of the money-function. So far as money is
concerned, both "productivity theories" and "use theories" seem
vindicated. There is a "use," an "enduring use" in addition to the
"uses."[488] (3) The capitalization theory, as hitherto formulated,
assumes money and a value of money. It is a part of the general body of
price theory for which this assumption has been shown to be needed.

With reference to the second, at least of these points, however, it has
been shown that money is not unique. Diamonds, and all other goods which
have as part of their function the conspicuous display of wealth,
likewise perform this function _because_ they have value. This gives
them an additional value. Diamonds are bought for this purpose, when
they would not otherwise be bought, or when they would not otherwise be
bought in such quantity. This additional value makes diamonds still more
effective as a means of displaying wealth, with a further increment in
their value, etc. We seem, here, to have an endless, and vicious, circle
in value causation, the value mounting indefinitely, building upon
itself, a sort of "pyramiding" process. But the limitation comes from
several angles. In the first place, _as_ diamonds rise in value, from
whatever cause, a smaller and smaller number of diamonds is required to
display a given amount of wealth! The increase in the value makes each
diamond so much more effective for the purpose in hand that it tends to
cut under the cause of the increase. These two tendencies come into some
sort of equilibrium. I suppose that by making strict enough assumptions,
and limiting the problem rigidly, it would be possible for the
mathematician to work out a formula for this equilibrium, letting the
increment in value grow feebler with each rebound, till at last it is
dissipated in infinitesimals. In the second place, diamonds are not
alone in performing this service. They must compete with other precious
stones, with the precious metals, with limousines and Turkish rugs,
with servants and livery, with houses and lots in restricted
neighborhoods, with opera boxes and memberships in clubs which confer
prestige, with a very wide range of goods, for the detailed discussion
of which I would refer again to Veblen's _Theory of the Leisure Class_.
The _differential_ advantage of diamonds, when it is borne in mind that
the conspicuous display of wealth is not the _only_ purpose, as a rule,
for which any of these things are bought, that the concrete diamond, or
other good bought, is a _bundle_ of valuable services,[489] of which the
displaying of wealth is only one, is not, necessarily very great. For
many people, other forms of wealth do better. And, as a rule, diamonds
would not perform that service satisfactorily alone. A large number of
diamonds, without proper "setting," in clothing, servants, house, opera
box, etc., would excite ridicule, and fail[490] in their purpose of
gaining social prestige. They must be part of a complex of goods of the
same sort, to accomplish their purpose.

Now it is the _differential_ advantage of diamonds which makes possible
the extra value, in this use. If all wealth were equally serviceable in
conspicuous display, if cattle and barns and shares in a coal mine or
slaughter-house or glue factory could display themselves as well as
diamonds can, and if possession of these things conferred prestige as
much as possession of diamonds does, this differential advantage of
diamonds would disappear, and with it all extra value from that cause.
Diamonds are members of a _class_ of goods, a restricted, but still
large class, which possess this advantage. We may apply the old
Ricardian rent analysis here, arranging goods in a series from the
standpoint of their capacity to perform this additional service. Bread
would, for the purpose in hand, be a "no-rent" good. Ford automobiles
are probably nearly no-rent goods now! That the differential factor is a
_cause_ of value in land, as the Ricardian doctrine seems to hold, is
not, I think, true. If all land were of equal quality, and of equal
accessibility to the market, all land would still bear a rent, if it
produced goods which had value, and if the land were sufficiently
restricted in quantity.[491] But here is a case where the differential
factor is an actual _cause_ of value. If all wealth were equally
effective in displaying itself, no form of wealth could gain in value as
a means of display.

This proposition calls for one important qualification. The fact that
wealth, in general, confers prestige is, undoubtedly, a source of
stimulus in wealth creation and acquisition, and a big source of the
value[492] of total wealth. It is probable, however, that it is so great
a stimulus to production that it defeats itself so far as the values of
_units_ of goods are concerned. It stimulates production, which reduces
the marginal values that arise from other causes. Thus, while a source
of additional value to the _aggregate_ of wealth, it probably reduces
the values of given items.

I have dwelt at length on the case of diamonds, because principles
applying there will give us important clues to the case of the value of
money.

Money, by being valuable, is so far equipped to perform the money
service. But its _differential_ advantage over other valuable things
comes from its superior _saleability_. Its original value comes from
non-monetary causes, and has been sufficiently explained in the chapter
on "Dodo-Bones" and in the chapter on the "Origin of Money." The extra
value which comes from the money functions rests chiefly in its superior
_saleability_. Saleability is itself a cause of additional value. But
here again we may arrange goods in a series, starting with the least
saleable, and ending in money. Money has an advantage, but its advantage
is not absolute. Under a system of free coinage, gold bullion is
virtually on a par with coin, and even without free coinage, bullion is
for many purposes as good, and for foreign exchange may be better.
Modern credit, moreover, as has been indicated before, tends to add to
the saleability of all goods, and so to lessen the differential
advantage of money.

Here, again we may see the principle that the extra value that comes
from the differential advantage tends to limit itself. As the money-use
adds to the value of money, a smaller amount of money is required to do
the money work, and hence the source of the increment of value is cut
under. This principle will partly explain why the rental of money cannot
be capitalized in the same way that the rental of land can be.
Increasing the capital value of land is not the same as increasing the
productive power of land. But increasing the capital value of money does
mean an addition to the power of a dollar to do money work. It tends,
moreover, to lessen the work that there is for money to do, both by
reducing the total amount of trading, and by increasing the incentive to
the use of substitutes for money. Only a part of the value of the
services of money, thus, can be added to the capital value of money.
There is a further point which is important, as differentiating money
from diamonds: much more of the value of the services resting on the
value of diamonds can be added to the capital value of the diamonds than
is the case with money. The reason is that diamonds may give forth a
continuous flow, _in the same hands_, of the service of conspicuous
display of wealth. Money, however, can perform most of its services for
a given owner _only once_. For a given owner, it can serve only once as
a medium of exchange. For one owner, it can serve only once as legal
tender for debts. It can serve indefinitely as a store of value, or as
"bearer of options." In these cases, however, the relation between value
of service and capital value does work out in accordance with the
capitalization theory. The money thus held brings in no money income. It
is held thus only if the services which it performs are equivalent to
the income which would come if it were alienated, and something which
would bring in a money income were purchased in its place. Money may
have added to its capital value the value that is created by _one_
marginal exchange, but the whole series of values which a dollar may
create in exchanges cannot be capitalized, if only because the same
owner cannot get them all. This holds strictly true only so long as no
credit arrangements exist. If loans of money can be made, then the
lender can take toll on successive exchanges, and get an income which
may be capitalized in part, subject to the limitation already discussed,
that increasing capital value of money cuts into the rental, and so, in
large measure, destroys its own source.

Where money is not freely coined, there may be an increment, growing out
of the capitalization of the money-services, in the value of the coin.
The coin may be worth more than the uncoined bullion. This need not be
true. If the amount of money work to be done is not increasing, it will
not be true, unless the value of the bullion declines, and need not be
true then. But an agio on coined over uncoined metal is quite possible,
and has frequently occurred. Such an agio has limits, however. In the
first place, the bullion may be used as a substitute for coin, so
lessening the amount of work there is for coin to do, and lessening the
source of the agio. Bullion would tend to rise in value from being thus
employed, and coined money would lose in value from a reduction in the
services it performed. Further, _anything_ which has more than ordinary
saleability may be used as a substitute, in one or another capacity.
Again, the agio, if it appeared in a country where men are accustomed to
thinking about money, might well arouse distrust, lessen the scope of
the coin still further, and so cut into its own source. But such agios
have appeared, and while a pure case, where the sole source of the agio
is the values created in the money-functioning, is hard to find, I think
it is not to be questioned that cases where this is part of the
explanation have arisen. I should be disposed to find part of the
explanation of the rise of the rupee in India after the closing of the
mints in 1893 in this factor. There seems to be evidence, however, that
Laughlin is right, in part, in ascribing the rise to an expectation of
the adoption of the gold standard.[493]

Modern money, in general, however, rests on a system of free, even
where not strictly gratuitous, coinage. Coined metal thus rarely gets,
save to a limited extent or temporarily, an agio over uncoined bullion.
Uncoined bullion is acceptable in a host of places where coin would
otherwise be used, particularly in reserves for credit instruments.
Bullion is even superior in international trade as a medium of exchange.
Credit paper (particularly bills of exchange), is superior to both in
international exchange, as a medium of exchange, because of various
reasons of economy. Such paper is even used in reserves in many places,
particularly by the Austro-Hungarian Bank.

The fact of free coinage means, substantially, that the state has made
the money form a free good. How much value is thereby destroyed we may
best see if we ask precisely how much the money form could mean _at the
limit_. Initially, the money form means simply the certification of
weight and fineness by a trusted authority. It saves, therefore, the
delay and expense of testing the weight and fineness by assay, etc. It
saves the trouble and delay of subdivision of a formless metal. It
averts many difficulties. For small retail transactions, indeed for
retail transactions in general, the conveniences of coined over uncoined
metal are very great. Small transactions do not justify the trouble and
expense of assaying and weighing and subdividing gold! In a country,
therefore, where the bulk of the money work is in effecting small
transactions, we might expect a considerable agio for coined over
uncoined metal. This would be especially true if that country had few
facilities for credit substitutes for the coin, particularly for small
transactions. In a country like the United States, however, where checks
are often drawn for amounts less than a dollar, and where the bulk of
the gold, or standard money, is to be found, not in circulation but in
reserves, one need not anticipate that the medium of exchange function
would give a big agio to gold coin, even if free coinage ceased. So long
as coinage means merely a certification of weight and fineness, this
conclusion will hold. For purposes of large transactions, the item of
weighing and assaying would not be serious. Indeed, American banks are
accustomed to weigh even gold coin, in quantity. It goes by weight,
rather than by tale, and if light-weight, it counts for less than its
nominal value. The writer knows a bank which has a considerable store of
light-weight gold coin that has been in its vaults for over twenty
years. Such coin may be counted at par in reports by the bank to the
Government.[494] It might be paid out through the window to customers,
who would not weigh it, in case of a "run" on the bank. But it cannot be
used in dealings with other banks without loss.

Does the legal tender aspect of coin count for more? Under a smoothly
working system of free coinage, where moreover, all forms of money are
kept at a parity by ready redemption, we have seen that the legal tender
feature makes no difference. Would it make a difference where coinage is
restricted? If we assume that the use of checks for small payments, and
the use of bullion in reserves, in a given case, prevents the existence
of an agio growing out of the other functions of money, I think it clear
that the legal tender feature alone will not create one. But suppose
that there is an agio from other causes, will not the legal tender
aspect of money tend to increase it? Will not men demand coin, which
bears an agio, rather than bullion, when they have the right to demand
either? And will not the agio then, in a way, grow out of itself, a
bigger agio appearing, because an agio has already appeared? It does not
seem to me that this need follow. If there be an agio, then creditors
will demand either coin, or bullion _on a different basis from coin_.
But so long as they get the benefit of the agio, either in the form of
coin, or of a larger amount of bullion, particular circumstances, rather
than a general rule, will determine which they will demand. The banker
might well prefer bullion. The international banker would prefer
bullion. The man who wishes money for retail transactions will take
coin. Men will use the legal tender quality of money as a means of
getting the benefit of what agio there is (though contract right, where
the contract calls for coin, would accomplish all that a legal tender
law would accomplish), but whether they take 23.22 grains of coined
gold, or 25.5 grains of gold bullion, will depend on which they prefer
in the circumstances. I do not see that the legal tender feature adds
anything to the case of restricted coinage that it does not add to the
case of free coinage.[495] In either case, there will be temporary
emergencies, when panics arise, when legal tender money gets an agio
over any possible substitute. Solvency may depend on it. This might
arise under free coinage, if the panic were acute, and if settlements
had to be made immediately. But as long as there is time for men to
work things out, I should not expect the legal tender feature, _per se_,
to add to the agio of coined metal even under restricted coinage.

In general, the possibility of an agio for coined metal, under
restricted coinage, rests on the extent to which coin has a unique
function. In so far as substitution is possible, there is no room for an
agio. For many purposes, bullion may be substituted. To the extent that
credit is developed, and is flexible, various other substitutes are
possible. To the extent that barter can be used, still other substitutes
are possible.

Among an ignorant people, little accustomed to developing new
expedients, having an economic life that is not flexible, having an
economy based on petty economic units, having little development of
credit, accustomed to the use of money in most transactions, money might
well be, in many connections, highly important if not indispensable. In
England, before the War, where no bank-notes under five pounds were in
circulation, and where small checks were little used, an agio on coin
might appear if coin got so scarce as to be inadequate for retail trade,
but for bank reserves bullion would have served virtually as well as
coin, and with the stock of coin she had at the time England could have
gone on for a long time indeed with no more agio than just enough to
prevent the melting down of the coin. In the United States, where checks
can be used for very small transactions, and where a high percentage
(very conservatively estimated by Kinley at from 50 to 60%) of retail
business is done with checks, the agio on coins of a dollar or over
growing out of retail trade might be expected to be very slight. On the
other hand, the legal requirements for reserves in specified types[496]
of money might, in time, lead to some agio. I do not think that the
reserve function in England would ever do so. If we could combine our
use of checks in retail trade with England's absence of legal reserve
requirements, I should think that the agio would have little chance
indeed of growing great! If to this could be added Canada's extensive
use of small elastic bank-notes, the chance would be still less. If
bank-notes of one dollar could be issued, the agio would be less still.

It is in the case of coins of very small denomination that the agio
might appear most readily. Such coins, if limited in amount, and if
given the usual restricted legal tender,[497] do not need redemption to
circulate at face value, even when made of baser metals. It is quite
thinkable that such coins should, even when redeemable, circulate at an
agio over the redemption money. In small retail transactions the need
for money to do business is most imperative. Even here, however, there
is large flexibility. The present writer, during the period of money
stringency in the Panic of 1907, made much larger use of checks in very
small payments than was his usual practice, and the same was true of
various of his acquaintances.

I think that the quantity theorist, with his doctrine of an unlimited
agio through the restriction of coinage proportionate to the
restriction, is best understood if we say that he has taken an
exaggerated estimate of the imperativeness of the need for formed money
in the smallest retail transactions as typical of the whole
situation.[498] I have elsewhere shown, however, that, in so far as
Kinley's figures for 1909 give us a clue,[499] the total retail trade of
the United States is less than one-eleventh of the total of all
transactions calling for the use of money and checks. Of that total
retail trade, the part in which money is actually used is, on Kinley's
high estimate, between 40 and 50%,[500] and the part in which money is
imperative is much lower still. Small retail transactions do not give
the type for the pecuniary transactions in the United States! They more
nearly do so in India, and the possibility of agio is, doubtless,
greater there. For our larger transactions, there is an almost
indefinite possibility of substitutes for coined money, if profits can
be made by making the substitutions. Beating the agio would be a source
of profits.

I repeat what was said in the chapter on "Dodo-Bones" differentiating
this doctrine of the agio from the quantity theory doctrine: (1) This
doctrine presupposes value for the money article from some non-monetary
source. It relates only to a differential portion of the value of money.
(2) This doctrine denies the law of proportionality even for this
differential portion. (3) This doctrine is concerned, not with the
general level of prices, but with the absolute value of money measured
in the ratio of coin to bullion.

Under the system of free and gratuitous coinage, no agio of coined over
uncoined bullion is possible. Where small brassage charges are made, as
in France (or as in England, where the interest lost during the period
of coinage is charged to the man who exchanges bullion for coin at the
Bank of England) there may be an agio of this amount, though it often
happens that this agio disappears, particularly in England. So perfectly
is bullion a substitute for coin in England, that the Bank of England
will often forego its privilege of taking the slight toll in interest,
and will credit men depositing bullion with as much as if they had
deposited coin. From what has gone before, as to the possibility of an
agio, I conclude that the United States, England, Canada, and possibly
France, would be unable to make large brassage charges. If the brassage
charge were much larger than the charges made by reputable and
well-known jewelers for assaying and weighing, etc., there would be a
large substitution of bars for coins, and the mints would have little to
do. However, it needs no arguing that with free coinage, and either very
low or no brassage charges, the value of bullion and of coin will,
quality for quality and weight for weight, be virtually identical,
within a narrow range of variation.

What, then, shall we say of the way in which the forces drawing gold
from the arts into money manifest themselves?

How describe the equilibrium between the value of gold as money and the
value of gold in the arts? How construct intersecting curves, presenting
a marginal equilibrium? The problem is baffling, and I frankly confess
that what I shall have to say does not satisfy me. I hope that some
critic may solve the problem better. I can point out the difficulties of
the situation, and can indicate reasons why the sort of solution which
the economist's training in marginal analysis leads him to desire are
not easily found. But I fear that I shall fail to satisfy the demand
for an application of curves to the problem!

The first difficulty is that we are barred from the use of our
yardstick. Money is the measure of all things in economic theory--except
money and gold bullion! Of course there are economic values other than
those of gold which do not actually come into the market, but even there
we can commonly, by the accountant's methods, make use of the money
measure. In very high degree, our conventional curves of all sorts run
in money terms, and assume a fixed value of money. Clearly the money
curve of diminishing value for gold would tell us nothing. The value of
gold might sink as its quantity increased, but then the value of the
money-unit would sink _pari passu_, and so the curve, with ordinates
expressed in numbers of dollars per ounce, would not sink. The
value-curve of gold, expressed in money, is a straight line, parallel to
the X axis. Possible substitutes in the form of abstract units of
value,[501] or of composite units of goods, of an assumed fixed value,
will have to be used if anything is used, but they are less satisfactory
in the application, and leave the analysis a good deal less realistic.

If this were all, the problem would be easy! But there is a second
difficulty. We find the factors requiring gold as money, if summed up in
a curve, presenting themselves as a call for the temporary rental of the
gold. The money functions are performed, in general, not by keeping
gold, and getting an endless series of uses from it, as in the arts, but
by passing it on, sooner or later. Even in the case of the reserve
function, the bearer of options function, and the store of value
functions, it is not expected to hold the gold indefinitely--always
there is the anticipation of some time when it will be passed on again.
A curve for gold in the monetary employments, therefore, would be a
curve showing the diminishing values of rents, or particular services
rather than a curve for capital values. The curve for gold in the arts,
however, would be a curve showing the diminishing _capital values_ of
units of gold, as the supply in the arts is increased. The two curves do
not run in common terms. But another and more fundamental difficulty. In
the case of wheat, we may construct our curve free from complications,
in idea, at least. On the base line, we lay out quantities of wheat. For
each quantity of wheat, we erect an ordinate, a sum of money, or a
number of abstract units of value, as the case may be. Connecting these
ordinates, we have a curve, showing how the value (or the money-price)
of wheat descends as the quantity of wheat increases. Given the shape of
the curve, and given the number of bushels of wheat, the marginal value
of the wheat is given. In idea, at least, it does not matter, for the
shape of the curve, whether the amount of the wheat is great or small,
whether the marginal value of the wheat is low or high. If there are ten
thousand bushels only in the market, wheat will be worth $5 per bushel.
With 100,000 bushels, it is worth 40c. The fact that there are 100,000
bushels does not lessen the magnitudes on the higher portions of the
curve. The nature of the services which wheat performs is not affected
by its value. This is _not true of gold_, either in the arts or as
money. In the arts, I have already shown that one function of gold is as
a means of conspicuously displaying wealth. Gold is like diamonds in
this. _Because gold is a valuable_, it gets an additional valuable
service. This additional valuable service enhances its value. The thing
is checked, however, before an endless circle is created, by the fact
that as gold rises in value a smaller amount of gold will display a
given amount of wealth. The value-curve for gold in the arts,
therefore, is not a simple thing like the curve for wheat. It turns upon
itself, in ways that I see no graphic device for presenting. This is
even truer for money. Men wish to have, when they seek money, a quantum
of _value_ in highly saleable form.[502] The curve for the value of the
services of money presupposes a fixed capital value of money. It is the
capital value of money which does the money work. Given a value of
money, and given the values of goods, we may see how much money is
required to effect a given exchange or perform some other money service.
Then, knowing how much value will be created by each exchange, or other
money service, we may arrange the services in a series, a scale of
descending importance, and get a curve. This curve is, in fact, the
curve which presents itself in the money market. There we find a curve,
running in terms of money itself, so much money for the use of money for
such a length of time. But this is a curve of demand for money funds,
rather than for gold as such. The "supply" that corresponds to this
"demand" is, not gold, but all manner of credit instruments, chiefly
bank-deposits, expressed in terms of gold. Such a curve is clearly not
to be put into equilibrium with the value-curve for gold in the arts,
(1) because it assumes a fixed value for money (2) because it is
concerned with temporary rentals, and not capital values, and (3)
because the demand it expresses is not for the use of gold alone.

We may get some aid in reducing these complexities to familiar terms if
we employ the device of assuming an equilibrium between gold in money
and gold in the arts, without trying to explain in quantitative terms
how that equilibrium is arrived at, and then see what causes will lead
that equilibrium to shift. In getting the laws of _change_, we may get
closer to the causes of the phenomenon itself. The effort to reduce the
thing to precise mathematical form requires a degree of simplification
which seems to me likely to rob an answer of much significance.

Assuming that the equilibrium is reached, we may see what factors would
tend to cause gold to go into the money-use, and what factors would tend
to draw gold into the arts use. We may also see how these changes from
one side or the other would modify the value of gold.

Assume that a manufacturing jeweler has extra demand for his products.
His products, of course, are composites of gold, labor, and other raw
materials, etc., but part of the extra value that comes to his products
attaches itself to the gold that is in them. He now has an incentive,
which was lacking before, to melt down full weight gold coin in his
possession, or to buy gold bars which might otherwise have been coined.
To buy the gold bars, however, probably means that he must have
accommodation at the bank. He borrows from the bank the amount he needs,
giving a short-time note, since he expects to make up his gold and
market it in a fairly short time. The paper of manufacturers of gold
will commonly stand well in the "money market," and this is especially
true of those in whose hands the gold is not worked up into such
specialized forms that the value of the bullion is a minor matter. (I
find it necessary to refer frequently to the money market, though a full
analysis of money-market phenomena cannot come till after our discussion
of credit.) If he must borrow to get the gold, _then the money-rates
will come into comparison with the profits he expects to make from
working up the gold_. This will usually be true even if he melts down
gold coin already in his possession. He might deposit that gold, and so
reduce his expenses at the bank, either buying back his own discounted
paper, or getting interest on daily checking account. If he has to
borrow to get the gold, he may get it either by drawing gold from the
bank directly, or by giving a check on the bank to a bullion dealer,
which may ultimately lead to a diminution in the bank's supply of gold.
However he gets the gold, there is bound to be some reaction, (1) on the
bank's supply of gold, (2) on the supply of loanable funds in the money
market, and hence (3) on the money-rates themselves. If he borrows from
the money market, he affects the money-rates directly (even though
probably, in a given case, not noticeably); if he melts down coin,
instead of depositing it (or paying it out to others who may ultimately
deposit it) there tends also to be less gold in the bank's vaults; if he
buys gold with his own funds in the bullion market, the supply of
current bullion for which the banks also compete is reduced. In any of
these cases, the banks have less gold than would otherwise be the case.
The relation between gold reserves and the supply of money-funds has
been partly discussed already. We have seen that there is no
proportional relation, as Fisher, and other quantity theorists contend.
Loanable funds, on a given gold reserve, are highly elastic. But the
elasticity calls for higher money-rates, and higher money-rates tend to
reduce the volume of trading, and check the demand. Borrowings from the
money market by workers in gold, therefore, are much more significant
than borrowings by other manufacturers or merchants, because the latter
are content with credit devices, for the most part, while the workers in
gold withdraw gold itself from the money market. It is, moreover, harder
for the money market to resist extra demand from the jewelers than from
many other interests. The assets of the jewelers, especially from those
who do not work the gold up in highly specialized forms, are exceedingly
liquid. Their paper, therefore, is exceptionally good in the discount
market. Usually, too, the larger jewelry houses have specially good
general credit and high reputation. There is, then, less disposition for
the market to look askance at an unusual supply of their paper than
would be the case with many other sorts of paper. They tend to get about
as low rates as anyone else in the market. A money market under
centralized control seeking to protect its gold, might tend to raise
discount rates on jewelers' paper, but a competitive money market is
very unlikely to do so.

An increase in the value of gold in the arts would, thus, reflect itself
pretty quickly in the money market, first in the form of added value for
the services of money, and then, secondly, in an increase in the capital
value of money. Indeed, an increase in the value of a single rental is
an increase in the capital value also, since the value of the single
rental is one portion of the capital value. Not only does it mean a
higher capital value for gold, but it consequently tends to mean a
higher "price." It does mean a higher "price" for present money as
compared with future money. It tends, also, to mean a higher "price" of
money in terms of other goods. Meeting higher money-rates, all borrowers
tend to borrow less, and to buy less, to offer less money for goods. It
need not follow, however, that the rising value of gold reduces prices.
The rise in the value of gold in the arts may well be a manifestation of
a general rise of values. General prosperity, rather than causes
affecting the value of gold in the arts alone, may have occasioned the
increasing demand for gold in the arts. This would mean rising values
for goods at large. It might well be, therefore, that the rise in the
values of goods would offset the rise in the value of money, and that
prices of goods would rise at the same time that gold is being withdrawn
from the money market to the arts.

Business in general, as well as the jewelers, may be making increased
demands on the money market. This would tend still further to raise the
money-rates. It would also, however, tend to increase the supply of
money-funds. Commercial and industrial paper, in a time of buoyancy and
expansion, is particularly acceptable to the banks, and they are likely
to expand their loans despite the failure of gold reserves to keep pace.
They simply get along with smaller reserves. Higher money-rates in such
a case tend to reduce the volume of business, but need not actually
reduce it, if there are bigger profits than before anticipated in
business transactions. Not absolute money-rates, but money-rates in
relation to anticipated profits from the use of money, are significant.
There is large room here for flexibility, elasticity, etc. There is much
slack to be taken up by the money-rates, much slack in the fluid
substitutes for money in various functions, and much slack to be taken
up by the volume of trade. But all this will best appear after our
discussion of the money market.

I have said enough to indicate the character of the factors immediately
determining the equilibrium between gold in the arts and gold in the
money employments. In the preceding discussion, also, I have discussed
the more fundamental factors governing the value of gold in both
employments. The problem of translating the fundamental theory of value
into money market terms, and of translating the phenomena of the money
market into terms of fundamental values is not easy. Most of our value
theory in the past has been concerned with individual psychology, Crusoe
economics, trading in small markets with a few buyers, barter
transactions, etc. It has been abstract and unrealistic. The practical
students of the money market, who are immersed in the facts of modern
money, have got little help from it, and have often been scornful of it.
I hope to be able to contribute something to bringing the two methods
of approach to common terms. They are correlative aspects of the same
problem. Each gives highly important clues to the understanding of the
other. Neither can be understood without some understanding of the
other. A theory of value which cannot be applied in the money market,
the stock exchange, and the great field of modern business generally,
has small _raison d'être_.

In the next chapter I shall take up the problems of credit, and the
money market.




CHAPTER XXIII

CREDIT


Analysis and description are much more important than definition.
Definition at the beginning of a study is frequently a fetter, rather
than an aid to thought. This is especially true in a field where
phenomena overlap and interlace, and where the "pure principle,"
"essence" or "_Wesen_" of the thing defined never presents itself, but
is only to be reached by violent abstraction. To pick out one
element--as "futurity"[503]--as marking off credit from other things
would be an illustration of this. Or to take the notion of _promise_, or
contract obligation, in connection with futurity, is likewise to limit
the field unduly, on the one hand, and to include things which do not
belong there on the other. Thus, a contract whereby A is to build a
house for B by the end of a year, receiving at that time, or in
instalments as the work proceeds, a sum of money, is not a credit
transaction. We have, however, promise, futurity, and a future payment
of money all called for in the contract. On the other hand, if A sends B
a telegraphic order for money, which B receives three minutes after the
money is entrusted by A to the telegraph company, we have a credit
transaction, with no element of futurity in it. Certainly there is less
of futurity there than in the case where a laborer, working all day, is
paid only at night for work done in the morning. Futurity enters into
the values of all goods which are not destined for immediate
consumption--capital values of long-time goods are discounted present
worths of _future_ values. Contracts, promises, and beliefs in promises
run through the whole range of economic life,--the domestic servant,
paid weekly, illustrates all three. Yet only a special class of these
economic activities are commonly counted as credit transactions. Credit
is really a part of the system of economic value relations not easily
marked off in economic nature from the rest. Its clearest _differentiæ_
are juridical rather than economic. It will be the purpose of the
present chapter, in part, to blur, rather than to make precise, the line
between credit and non-credit in economic phenomena, and to assimilate
the laws of credit to the general laws of value.

This will involve, however, a careful analysis and precisioning of
certain phenomena commonly counted as credit phenomena. Buying and
selling on the one hand; borrowing and lending on the other: the
distinction seems clear. It is in law. But what is it in economic
nature? When a merchant discounts his own note at the bank, it is
borrowing. When he discounts the note of another, his debtor, it is
selling. If he writes before his endorsement of the note, "without
recourse," (unusual at a bank, but common enough with real estate
mortgage-notes) he has made a perfect sale, and is entirely out of the
transaction. Is it, however, in economic nature a different transaction
from the original one in which he got the note from a borrower? Legally
bonds are credit instruments, and stocks are not. Stocks represent
_ownership_. But practically, as an economic matter, both represent the
alienation of control, on faith, to a small group of men, and
practically, too, the difference between preferred stocks and bonds is
often very slight. Whatever the legal rights of a bondholder, under the
terms of his contract, the legal fact itself often is, under the growing
practice of receiverships, that he cannot exercise his right to
foreclose without such difficulty that it doesn't pay to do it. Very
frequently indeed the junior bondholder will come out of a
reorganization as simply a preferred stockholder--which is what he
practically was all the time. He couldn't vote as a bondholder, but his
voting rights as a stockholder commonly mean little! As a bondholder, if
he held enough bonds, he might even have more influence on the affairs
of the corporation than as a stockholder. The market is moved by other
forces than the legal distinctions in corporate contracts! And market
facts are not necessarily correctly told by the accountant's categories
either. I shall trouble myself little, in what follows, with the
juridical and accountancy problems of credit, save in so far as these
bear directly on the more pertinent economic aspects of the matter. I am
interested in the question of credit as a part of the problem of value
and prices--and particularly from the standpoint of the problem of the
value of money.

What difference is made in values and prices by lending and borrowing?
What kinds of lending and borrowing are there? What shall we say of
bank-notes, of bank-deposits, of bills of exchange? What difference is
made by the money market? Behind the legal forms and the technical
methods, what are the psychological forces at work? How are these
psychological forces modified by the technical forms and methods? What
are the economic differences between long and short time loans? How
shall we draw the distinction between the "money-rates" and the long
time interest rate on "capital?" Why can some things serve as collateral
in the money market when others cannot? What sorts of credit are
appropriate to commerce, to manufacturing, to agriculture? Is credit
capital? Is an increase in credit an increase in values? The last two of
these questions imply that we have a definition of credit. Perhaps the
answers to some of the other questions may have given us such a
definition. But analysis and description will precede definition.

The etymology of "credit" has sometimes been taken as the clue to the
meaning of the word for economics, and the idea of confidence, or
belief, has been made the heart of the matter. A man has good credit
when others have confidence in his integrity, etc. Men lend to others
when they can trust them to repay. Doubtless something of this sort was
responsible for the original choice of the word. But when loans are made
on good mortgage security, or on collateral security, the personality of
the borrower may count for little or nothing. Confidence there is, but
not confidence in the intentions of the borrower. The confidence is in
the "goodness" (_i. e._, the value and marketability) of the collateral.
The same questions are raised by the lender here which he would raise if
he were going to buy the thing, instead of lending with it as security.
None the less, I think that in the etymology of the word we have an
important clue. We must generalize the notion, however, beyond the
limits of confidence in personal intentions. It involves confidence in
the general economic situation, in the future of business, in the
permanence of values, in the certainty of future incomes, etc. Thus
viewed, the element of confidence, though important in highest degree,
is not peculiar to the phenomena which we call credit phenomena in
economics. It appears wherever there are values which depend on future
events. One does not need much confidence in buying potatoes or apples
or meat--though in the case of meat quite a lot of confidence may be
involved--and misplaced! But whenever the future is involved, whenever
capital values of any kind are involved--lands, stocks, bonds, houses,
horses, manufacturing equipment, etc.--the element of belief,
confidence, hopeful attitude toward the future, is quite as much present
as in the case of a loan. Nor is the element of personal confidence
less present, often, in these things than in the case of a loan. Very
often the value of a horse may depend in considerable degree on the
integrity of the man who offers it for sale; the value of a piece of
land may be much enhanced if a trustworthy owner makes certain
statements as to the yields he has got from it; the values of stocks
(really credit instruments, from the angle of economic analysis) may
depend very much on the personality of the organizers and managers of a
corporation. Personal prestiges may count for much more in these cases
than in the case of a collateral loan.

Further, in connection with the element of belief, or confidence.
Borrowing is expensive, and men do not borrow for amusement. That
borrowing and lending may increase, it is not enough that lenders have
confidence in the ability of borrowers to repay. Borrowers must also
have confidence in the future of their businesses, in their ability to
make enough out of the loan to pay the expense involved, and have a
surplus left over. I abstract here from consumption loans. They play a
very minor rôle.[504] The analysis in an earlier chapter, based on
Kinley's figures, showing that retail trade is less than one-eleventh of
the total pecuniary transactions in 1909, and that the percentage of
credit instruments used in retail trade is much lower than in other
transactions, will justify us, when quantitative questions are involved,
in abstracting from consumption loans. Since such loans will be chiefly
employed in retail buying, and since we know that most retail buying
does not result from loans for consumption purposes, we may conclude
that modern credit is overwhelmingly of a different sort. Most of it
arises from business activities of one kind or another, and rests on
expectation of profit and loss.[505] Such loans are not made when
borrowers, as well as lenders, have not confidence in the transactions
they mean to put through.

So far the thing has run in terms of individual calculation of profit
and loss. But even the most sagacious business men do not play a lone
hand. No one is uninfluenced by the expectations and feelings of others.
In general, business confidence is in large degree a matter of social
psychology, resting on suggestion, contagion, etc., as well as on cool
calculation of profit and loss. Even where men are able in considerable
degree to free themselves from the prevailing optimism or pessimism,
they must take it into account. The man who extends his business when
nobody is in the mood to buy, when no one will make contracts with him,
runs a very fair chance of bankruptcy, even though there be, in the
technical facts of industry, no reason for the prevailing pessimism. A
man with large resources, which are not fully employed, seeing that the
prevailing "bad business" is "largely psychological" may, indeed, take
advantage of the fact, get his labor and raw materials cheaply, and
produce some staple in advance of his market. If he can afford to hold
his surplus, he may make large profits by so doing. But usually business
men will not, in such a situation, have the surplus resources to enable
them to put through such an undertaking, and hence, even though they may
recognize that the rest of the business world is irrational, they must,
perforce, conform to its irrationality, and their sober estimate of the
prospects of a given undertaking may be just as much adverse as if they
shared the feeling of gloom which all about them feel. They meet it
from the banker from whom they wish to borrow. Even if able to borrow,
they meet it from the dealers to whom they are accustomed to sell their
products. The prevailing gloom is as much a fact with which they must
reckon as is the price of their raw materials, or the technical
qualities of those raw materials.

Further, business confidence is not a matter in which each man counts
one! There are centers of prestige, men and institutions whose attitude
toward the future counts heavily indeed in determining the attitudes of
others. These prestiges may arise from various causes. Recognized wisdom
and probity may give a man great prestige in economic matters. There are
financial writers and students of the market, not necessarily men of
great wealth, whose opinions are exceedingly influential in making
business confidence. The wisdom without the probity is not enough. Some
men, known to be sagacious students of the market, have been known to
succeed in their plans by telling the truth, with the result that
everybody else did the wrong thing! They made business confidence, but
not the sort that was complimentary to them. Other men have prestige,
influence in making business confidence, by virtue of possession of
large wealth. They are, first, in position to lend largely. Their
decisions count directly for more than the decisions of thousands of
other men. The very fact that they have confidence in the future, apart
from anything else, means a tremendous increase in _effective_ business
confidence--which we are here concerned with. The optimism of a man who
can neither buy nor sell nor borrow nor lend, because he himself has no
economic resources, and no prestige, is like the desire of a penniless
beggar for an economic good--its effect on the market is not great! But
further, the fact that a rich man is lending makes possible activities
which would not otherwise be possible, and so justifies confidence on
the part of those who wish to deal with those to whom he lends. Such a
man may, on the other hand, borrow. His borrowing, for business
activity, justifies confidence on the part of those who would deal with
him. Quite apart, therefore, from any influence on the opinions of
others growing out of respect for his judgment, or less rational
reaction to him, he can do much to make or unmake business confidence.
But commonly, also, such a man is a center of prestige, as well as a
controller of economic power by virtue of his wealth. Men look to him
for their cue. If _he_ has confidence enough in the future to risk his
great wealth, surely smaller men with smaller interests need not be
afraid. Vitally important centres for the making and controlling of
business confidence are the banks. Having intimate knowledge of the
affairs of many business men, of business men in many different lines,
they are in a position to judge wisely of business prospects. Having
great power to make or refuse loans, they can encourage or chill the
enthusiasm which business men may independently develop. The whispered
word of a banker may well count for more than the half-page
advertisement of a promoter. But the banker is not all powerful. His
influence is much greater, often, in restraining than in evoking
business confidence. Bankers may during long periods be quite unable to
increase their loans, though they tempt borrowing by easy rates.

Business confidence is a fact of social psychology. It is an organic
phenomenon, with radiant points of control. It is a matter of
inter-mental activity, rather than a thing in which each man makes an
independent choice.

But this is to say nothing of credit phenomena that is not true of all
value phenomena. All economic values are social values. The values of
wheat or sugar or bicycles are social values. There are centers of power
and prestige, growing out of the distribution of wealth, or various
other social factors, which have a dominating influence on economic
values, as a rule. Credit phenomena are merely part and parcel of the
general system of economic motivation and control.

In _Social Value_ (pp. 102-103) I have denied the doctrine of Meinong
and Tarde that explicit belief, existential judgments, are essential to
the existence of values, taking value in the generic sense, which
includes æsthetic value, religious and patriotic value, legal, moral,
and other values. I have pointed out that we do, at times, value ideal
objects, the creatures of our imaginations. The dead sweetheart, or the
Beatrice that never was (or that never was what she was imagined to be)
may have tremendous value. Not merely things hoped for, but things
hopelessly gone, as "The Lost Cause" to the Southerner, may be objects
of value so high that other things, known to be real, may sink into
insignificance beside them. Even in these cases, however, there must be
a "reality-_feeling_" an unconscious presumption or assumption that the
object valued is real. Indeed, belief, as distinguished from mere
ideation, is an emotional "tang," an essentially emotional, rather than
intellectual, fact. If it be present, the ideation and explicit judgment
may be dispensed with.

It is, however, characteristic of economic values, particularly of the
values of instrumental goods and of the goods with which business men
make profits, that the tendency to raise the question of reality, to
require explicit judgment, is strong. The successful business man is
necessarily the man who does this, who does not too highly value the
creatures of his imagination, when he imagines a vain thing. One need
not, perhaps, seriously raise the question as to the reality of the loaf
of bread he buys. Explicit judgment there would be superfluous. But
very serious questionings come in whenever lands or houses or
securities or bills of exchange come in. One needs to know what the
facts are, and to make judgments based upon them. Hence, for all values
of capital goods and income-bearers, for the values which pass in
wholesale and speculative trading in general, the matter of _belief_ is
vitally important. Here, again, then, we have nothing in the
psychological principles underlying credit phenomena to mark them off
from the general field of value phenomena.

The general laws of value, then, apply in the case of credit phenomena.
We find nothing unique in essence in them. The juridical relations,
also, in so far as they have economic significance, shade into one
another. To buy a bond from a bondholder is purchase and sale. To pay a
borrower money for his personal note is lending. But from the standpoint
of the theory of value and prices this distinction may be ignored. We
may extend the idea of buying, selling, and price to cover all contracts
where values are balanced against values, and expressed in terms of each
other. Future money has its price in present money, just as much as
present wheat has its price in present money. Really it is not future
money against present money. It is a case of _rights_, which involve the
payment of money in the future, sold for money, and priced in money. In
general, it is _rights_, rather than _things_, which pass in economic
exchange. Physical delivery does not constitute selling. Delivering a
load of wheat to a railroad does not constitute sale of the wheat to the
railroad; selling a farm does not involve any physical moving of the
farm. Rights, _in personam_ or _in rem_, are objects of economic value,
and the exchange of these rights makes up the bulk, if not the whole, of
economic exchange. (Exchange may be limited to the transfers of juristic
rights, without value being so limited. I have discussed the relations
of value and exchange in the chapter on "Value," above.) Property rights
are commonly conceived of as the proper objects of buying and sale.
Contracts involving the future services of free men stand legally on a
different footing from contracts regarding physical goods. But economic
analysis is not greatly concerned with these distinctions, except in so
far as they affect the values of the things exchanged, and so the terms
of the exchanges. I do not believe that the legal distinctions can be
made to run on all fours with any significant economic distinctions, and
shall not undertake to make them do so. In the phenomena we have simply
cases of buying and selling (in a generalized sense of those terms) of
_rights_, at _prices_ (by a very slight extension of the term, price, to
which the market is well accustomed). The terms of these exchanges, the
prices, are governed by values, social economic values, in no wise
different from the values which govern the prices in exchanges which we
do not class as credit transactions. I say that credit phenomena are
exchanges of rights. This is true of all exchanges. We do not exchange
rights for money. We exchange rights to other things for rights to
money. The mere physical transfer, even of money, does not give rights
to the money. I may merely be giving you the money for safe keeping, or
for use for my purposes. While the law makes the rights to money that
has left the hands of its owner less lasting, as against innocent third
parties, than in the case of other objects, and while the right to money
is always, or almost always, met by returning other money of equal
amount, even in the case of money it is a right, and not a mere physical
transfer, that is significant.

Our problem regarding credit is, then, much simplified. We have simply
to pick out certain economic exchanges to which the name of credit
transactions has been applied,--a various and heterogeneous set of
exchanges, in many ways--and study them, to find their peculiarities.
These peculiarities will not make them exceptions to the general laws of
value. They will make them merely special cases. To find essential
principles marking off credit transactions, at large, from non-credit
transactions is an exceedingly difficult thing. There are more
differences among credit transactions themselves, than there are between
the genus, credit transactions, and the class of things not called by
that name.

Thus, monthly payments of rent, of wages, of college professors'
salaries, are not commonly called credit transactions. The monthly
payment of grocery bills, or of telephone bills, involves credit. Where
is a real difference to be found? On the other hand, between book credit
between grocer and patron on the one hand, and a bank-note or deposit
credit on the other, the difference is large, in many practically
important ways. Between a call loan and a ten year agricultural
mortgage-note, the differences are even greater.

One may be disposed to find the differences between credit transactions
and non-credit transactions in the fact that the former stipulate a
definite sum of money, due at definite times. This would partly
differentiate a bond, say, from a stock. The bond not merely calls for
stipulated yearly payments, but also calls for a definite payment at the
end. This would, however, exclude British Consols from the list of
credit instruments! British Consols differ from safe preferred stocks in
legal, rather than in economic, ways. Legally they are alike in that no
terminal payment is called for. Practically they are alike in that
annual regular sums may be expected. It may at least be said of credit
transactions that stipulated money payments, either at a different time
or a different _place_, are called for. This would include the
telegraphic transfers of funds, and would exclude the case where A, a
farmer, does a day's work for B, a neighbor, for the promise of a day's
work in return at a later season. The latter transaction involves many
of the elements that definitions of credit have included, but I think
that we may at least limit our conception of credit transactions to
transactions within a money economy, where money, as a measure of
values, functions in the calculations. Shall we, however, limit credit
transactions to cases where a stipulated _amount_ of money is named in
the contract, for a stipulated time?

Shall we exclude contracts where the payment of money is made contingent
on anything? By contingency here I mean legal contingency. This test
would exclude the highest grade preferred stock. It would include the
shakiest bonds that contained, in the terms of the contract, no
contingency. But where, then, would one place such an instrument as the
Seaboard Airline Adjustment 5% Bonds, which may default in a given year
half of the interest, if it is not earned,[506] and which yet call for
the payment of the principal at a stipulated time?

What shall we say of "borrowing and carrying" transactions on the stock
exchange? Is not the loan of stocks a real credit transaction?
Ordinarily, when stocks are put up as collateral, one thinks of the
money as being lent, and the stock merely as a pledge. But in the case
of borrowing stocks by a bear to deliver next day, the transaction is
definitely thought of as a loan of stock. It is sometimes paid for, the
bear paying the bull a premium, instead of receiving interest on the
money he has turned over to the bull as a "pledge." The more usual
thing, is, of course, for the bull to pay the bear interest. But in a
contract like this, there are many contingencies. As the stock rises in
value, the bear must lend more money to the bull; if the stock falls,
the bull must return part of the money to the bear. Both times and
amounts are here contingent, even though in the end the amounts lent and
repaid balance. Call loans, of course, do not call for payment at a
stipulated time, and the same is true of bank-deposits and bank-notes,
and of many other forms of credit. Interest on deposits in mutual
savings banks is contingent, legally, as to amount. Are insurance
policies credit instruments? What of endowment policies?

It is easy to draw legal distinctions in all these cases, but to show
that definite and uniform economic consequences flow from these legal
distinctions is quite impossible. Rather, it is easily possible to show
that uniform or certain economic consequences do not, in general, flow
from them.

I shall refrain from the effort to give a general, fundamental
definition of credit. I shall rather discuss certain of the more
important types of what have been called credit, with a view to seeing
what bearing they have on the problems with which this book is
concerned; the value of money, and prices. The general class of
transactions to which the name, credit transactions, has been applied
may be roughly designated as transactions in which the consideration on
one side, at least, is the assumption of a debt, running in terms of
money (though not necessarily to be paid in actual money), payable
either at a future time or at another place. Objections can be found to
this definition. It does not meet the fundamental test of a definition
that, for the purpose in hand, it should seize upon the essential and
unique characteristic of the things marked off. I am not sure that it
meets the tests of inclusiveness and exclusiveness even for those
transactions which we call credit transactions. Thus, if A and B go to
the bank together, and A there buys B's horse, standing in front of the
bank, giving B in return a check, which B immediately cashes in the same
room where the check is drawn, the idea of different time or different
place is not realized in any but a technical sense. A, in drawing the
check is, of course, assuming a debt. The check, if repudiated by the
bank, becomes a note, which A must pay. A, moreover, is paying B, not
with money, but with the transfer of a claim on the bank, and the fact
that his check, if unpaid, becomes a note is not the main fact about the
check. Understanding our definition of credit to cover this case also,
however, and attaching no fundamental importance to the definition save
as a means of marking off a class of more or less related phenomena
which we mean to discuss, the definition will serve.

Thus defined, we have in credit a concept susceptible to quantitative
treatment. Debts, in terms of money, can be summed up, and we may have
the concept of the "volume of credit" as the sum of such debts at a
given time, or through a given period of time, or as an average through
a period of time. We may distinguish credit transactions from credit,
defining credit as the volume of debts, and credit transactions as
transactions in which the debts are passed in exchange. This would be to
broaden the notion of credit transactions beyond the usual conception,
since it would include transactions in which A sells ("without
recourse") B's note to C. It would also include cases where bonds are
sold. It would exclude cases where stocks are sold, since they are not
legally debts. Some would prefer to limit the notion of credit
transaction to transactions in which there remains some contingent
responsibility on the part of the one who uses the credit instrument,
but this would be to deny the name, credit transaction, to cases where
bank-notes or government paper are used in payments, as well as to deny
it to the case where bonds are sold. It is not important, for my
purposes, to draw a sharp line about the concept, credit transaction,
however. And about the concept credit itself I have drawn a line resting
on a legal, rather than an economic, distinction.

Within the field of credit, thus defined, we may single out for especial
consideration certain forms of demand or short time credit, particularly
bills of exchange, bank-notes and bank-deposits, and merchants'
book-credit. We shall also have something to say regarding long-time
credit, including bonds, and mortgage-notes that have no general market.

All these debts in terms of money, to which, in the aggregate, we have
given the name, volume of credit, have grown out of _exchanges_.
Exchange is here used in a wide sense, and is not confined to the case
where goods or services are bought and sold. It is an exchange, if a man
gives his note to a banker in return for a deposit credit. But, on the
assumption that exchanges are made only when gains are to be realized,
it follows that all debts, and so all credit, have been created in view
of anticipated gains (or to avert anticipated losses). In a society
where everything is in equilibrium, a "static state," where there are no
"transitions" to be effected, where there is no occasion for
speculation, and where exchanges of lands, etc., are negligible, the
volume of all exchanges, including those where debts are passed in
exchange, would be small. The occasion for the creation of the debts
which make up the volume of credit would not be nearly so numerous as
under dynamic conditions. The _volume_ of credit, in other words, is
largely a function of dynamic conditions, even though credit would exist
in a static condition of economic life. The bulk of credit, as the bulk
of exchanging, grows out of dynamic conditions, transitional changes,
and the like.

This will be clearer when we raise the question as to _why_ debts are
created, as to what function debts perform in economic life. Why should
a man borrow? Let us suppose that a farmer has 600 acres of land. He
wishes to sell 100 acres, and use the proceeds in buying equipment for
his farm. But he finds it difficult to sell the 100 acres. There is no
ready market. He can sell it immediately only at a great sacrifice. By
waiting, and looking industriously for a customer, or by engaging a real
estate dealer to do so, he could finally find a buyer, but the thing is
slow and uncertain, and he wishes to get the equipment at once. He
borrows, therefore, giving his farm as security, or a part of the farm
as security. He exchanges a claim on the future income of the farm for
present money, and with this he can buy the equipment he needs. The net
result has been that the credit transaction has transformed his
unmarketable quantum of value into a marketable form of value. He has
been able, by an indirect step, to do what he could not do directly--to
trade a part of the farm (which in its economic essence is a prospect of
future income) for the equipment. In this illustration, _credit has
functioned as a means of increasing the marketability or saleability of
non-pecuniary forms of wealth_. Credit is primarily a device for
effecting exchanges that could not otherwise be effected, or for
effecting exchanges more easily than they could otherwise be effected.
This means that credit transactions are a part of the productive
process, and that they increase values. It is the function of credit to
universalize the characteristic of money, high saleability. It is the
function of credit to "coin," so to speak, rights to goods on shelves,
lands, etc., etc., into liquid rights, bearing the dollar mark, which
are much more highly saleable than the rights in their original form
were, and which often become as saleable as money itself, functioning
perfectly as money.

Credit thus tends to universalize that characteristic which Menger[507]
considers the unique characteristic of money. By means of credit
transactions, a man borrows up to 50% of the value of the farm, makes
his farm in effect, 50% saleable or fluid. The man who owns livestock
may not be able, on a given day, to market them without loss, but he can
use their value in the market, up, say, to 75%, by a loan. The man who
owns a hundred shares of United States Steel may not be able, at a given
time, to market them to his satisfaction--though in the case of articles
and stocks dealt in the speculative markets saleability is very high
indeed, and in the case of United States Steel, in particular, the
"spread" between "buying price" and "selling price" is very narrow--but
he can borrow, with the stock as security, up to 80% of its value. On a
bond of the United States government, he may borrow up to 100%.[508] The
process of creating credit is a process of transforming rights from
unsaleable to saleable form. Often this means the subdivision of rights,
preferential rights to a _portion_ of the value of a piece of wealth
being more saleable, because of greater certainty, than the total right
to the whole. Another reason why partial rights may be more saleable is
that the value represented by each partial right is smaller. It is
easier to market things worth a thousand dollars than things worth fifty
thousand, as a rule. In any case, a chief economic function of credit
is,--_the_ chief function for our purposes--to make fluid and saleable
articles of wealth other than money; to universalize the quality of
saleability.

This justifies us in our contention made before that _all_ corporate
securities, whether stocks or bonds,[509] are, in economic nature,
alike. Driven to a legal concept for a definition of credit, we were
obliged to exclude stocks from our rough definition. But corporate
organization does precisely what the various other transactions that we
have called credit transactions do. Lands and buildings and machinery,
or the roadbed and rolling stock of a railroad, are highly specialized,
often unfit for use in any form other than that in which they now
appear. As concrete instruments of production, they would be highly
unsaleable. In their totality, as a going concern, they are highly
unsaleable, because in the aggregate so very valuable. Grouped together,
however, but still subdivided, the objects of many thousands of partial
rights, represented by stocks and bonds, they become saleable in high
degree.

As objects other than money gain in saleability, they tend to gain in
value, also. This is not necessarily true, always. If wealth is already
in the best place, at the proper time, and in the proper hands, no point
is involved in further exchanges. Additional saleability--or an increase
in the qualities that make for saleability--could make no difference.
But when objects could be employed to greater advantage if in different
hands, if, in other words, there is occasion for exchange, then whatever
adds to the saleability of a good adds to its value. What would
otherwise have gone into the trouble and expense of marketing now is
saved. In general, items of wealth tend to gain in value as they gain in
saleability--though not in any definite proportion.

Further, as objects of value other than money gain in saleability, money
tends to lose its _differential advantage_ in this respect, and so
tends to lose that part of its value which comes from the money-uses. If
all things, including gold, were equally saleable, there would be no
_raison d'être_ for money, and gold would have only the value that comes
from its commodity functions. In so far as credit-arrangements give to
partial rights to wealth the capacity to serve as a medium of exchange
or for other money purposes--and this is true to a high degree of
bank-credit--this tends to cut under the sources of value of money.
Credit thus, from two angles, tends to raise prices; it raises the
values of goods; and it tends to lower the value of money. The limits on
this, however, are reached when gold ceases entirely to function as
money, and when all items of value are perfectly saleable. Then credit
has done its perfect work for prices, and can do no more. No incentive
remains for further borrowing, if all items of value that need to be
exchanged are perfectly saleable.

These theses will meet objection, particularly from those who are
accustomed to quantity theory reasoning, and who look upon the volume of
credit as something independent of the volume of trade. On the logic of
the quantity theory there is no reason why prices might not mount
indefinitely, if only credit could increase indefinitely. The causes
controlling the volume of credit are, on this view, quite independent of
the volume of trade. I have given this line of thought sufficient
criticism, perhaps, in Part II, but shall find occasion to recur to it
at a later point in this chapter. However, writers not bound by quantity
theory ideas, may still find reason to question these theses, and it is
necessary that I should take account of various complications, and make
what may well be called substantial qualifications and modifications,
before the theses are acceptable.

First, objection will be offered to the doctrine that all credit is
merely rights to wealth, that credit rests on wealth. It will be urged
that many loans are made without collateral, or mortgage security, that
the "personal credit" of the borrower is the only security, and the only
basis of the loan. This objection is not serious. There are, doubtless,
loans which are disguised benevolences, where the lender gets nothing
good in return for his loan. I abstract from such cases. Quantitatively
they are not important, and qualitatively they are not really commercial
transactions. In general, when a good merchant borrows at the bank on
his personal note, the bank knows very well what goods he has in stock,
what prospects he has for marketing them, what other debts he has, what
his "net worth" is. And the bank knows that it has legal claims, even
though not preferred claims, on his wealth. When a young business man
borrows capital from a neighbor, giving no security because he has no
marketable wealth which would serve as security, he is, none the less,
exchanging a valuable right for the loan. He is giving the lender a
right to a preferential share in his future income. The lender has
considered the young man's abilities as sources of income, in
conjunction with the capital lent. Incidentally, the lender retains
rights, preferential rights as against the young man himself, in the
quantum of value he has turned over to him. If a young man borrows the
resources with which he buys a farm, the lender takes a mortgage on the
farm itself. Transactions of this sort frequently have in them the
element of benevolence, and the considerations are not always strictly
commercial. In the case of a young man of unusual ability, however, who
insures his life for the benefit of the lender, such transactions may be
perfectly good commercial transactions, value balancing value in the
exchange. The thing traded is commonly present money (or its equivalent)
for rights to future money income.

Public loans present no exception to our rule. They represent the
transfer of present wealth for the future income which the government,
by virtue of its public domain, or, more commonly, its taxing power, may
expect to receive. With a strong government, this future income may be a
very substantial part of the total income of the people. Public loans
may often be for commercial purposes, as when municipalities borrow to
build or extend municipal enterprises. In cases of this sort, the market
frequently will consider the prospects of commercial success of the
enterprises in fixing the value of the municipal bonds. Where the
proceeds of the loan are for non-commercial purposes, as war, the
question of the future income of the government will still, ordinarily,
be a dominant factor in determining the value of the securities. Often,
however, there is the direct action of patriotic fervor, etc., enhancing
the values of government securities. We have seen this in the case of
government money. It is no part of our theory to maintain that men's
calculations are always rational, or that the whole of the value of a
long-time income-bearer rests on the anticipated income. But this is no
peculiarity of credit phenomena. The same thing is true of lands, for
example. Capital values often get independent in part of their
"presuppositions," as we have seen in the chapter, _supra_, on "Economic
Value." War security issues often represent the effort of the
government--as at the present time--to bring into the present every
possible bit of future values, as a means of increasing their power in a
desperate struggle. The high prices of goods in such a situation
represent the concentration of future values into the present, an
increase in the motivating power which stimulates the people to unwonted
exertions. In war time, moreover, many _ideal_ values,--those whose fate
is dependent on the outcome of the war--enter into and increase the
values of those goods which are needed for carrying on the war. This
leads to larger sacrifices of future income than would ordinarily be
tolerated. It is not so much a case of present goods rising because of
extra credit, as of extra credit because present goods are more
valuable.

A second objection would be raised that in many cases, the values
pledged by the borrower could not exist if the lender did not make the
loan. This would be particularly the case with credit granted for the
starting of a new or novel enterprise, which as yet exists only in idea.
The established merchant, with goods on his shelves, or with a bill of
lading for goods which he has sold, has a very tangible, concrete basis
for a loan, whose value is independent of the decision of any given
banker. If my doctrine is to be taken as holding that all credit rests
on concrete physical goods, very many exceptions indeed could be found.
But this is not my doctrine. It is that credit rests on valuable
_rights_. These rights may be rights to existing concrete goods; they
may be rights to future incomes. In any case, it is the values, rather
than the physical quantities, that are significant. Witness cotton
before and after the outbreak of the World War. Ultimately, in
general,[510] economic values come from the "primary values" or "first
order" values of consumption goods and services. These values are
reflected back, by the imputation processes, to the various "factors of
production" which have made the existence of the goods and services
possible, in accordance with well-known laws which need not be here
elaborated. But the category of "factors of production" is far from
exhausted when we have named land, labor, and produced instruments of
production! Some writers have rejected the notion of "factors of
production" largely or altogether, and prefer such a term as "agents of
acquisition."[511] I certainly have no intention to give to the term,
factor of production, any ethical connotation. Even though a factor of
production be, like land or labor, a _sine qua non_ of production, it
does not follow that the owner of that factor gets his proper, or
ethically just share, under the laws of economic imputation. Many of the
"factors of production," in the sense of factor which derives a value
from the economic laws of imputation, may well be parasitic from the
angle of ultimate social welfare. The only test is as to whether, under
existing social arrangements, a portion of the income _of a given
establishment_ would cease to exist if that factor should disappear, or
be reduced. From the angle of this test, monopoly power, trade-marks,
established trade connections, the big idea of an entrepreneur, a
dynamic personality, capacity for winning other men's confidence and
good will, and sometimes that brutal selfishness which makes other men
shrink from conflict, or the reputation of being a dangerous and
vindictive man, may be equally "factors of production" with land, labor,
and produced instruments of production. In Part IV of this book, "The
Reconciliation of Statics and Dynamics," we have discussed the
"intangible capital items" of this class, and have indicated that many
of them perform really important and necessary social functions. Others
are doubtless pernicious. Production involves leadership, organization,
the making and maintaining of "interstitial connections," as well as the
technology of muscle and machine. But credit is based on values, rather
than on concrete goods as such, and if these "intangibles" have value,
they may have credits based upon them.[512]

That some of these values exist only by virtue of the fact that credit
is granted is no marked peculiarity. The granting of credit is an
exchange of the rights of the creditor for rights to the future income
of the borrower. If the exchange were not made, in certain cases, the
borrower would have no future income to which he could give rights. The
entrepreneur with a big idea cannot actualize that big idea unless he
can bring it into conjunction with land, labor, capital, and a market
for the products. The exchange of rights to the value of the products
for the banker's deposit-currency, or the private lender's money is
merely one of many necessary exchanges required to bring about the
combination which will create the products. If there were no possibility
of marketing the products, he would be equally helpless, and his idea be
equally valueless. The general range of values, under our present system
of division of labor, private property, private enterprise, etc., depend
on the possibility of exchange. Men produce for the market, rather than
for their own consumption, or for the consumption of a communist
society. Without exchange, many values would persist, but most values
would at least be diminished. Exchange is part of the productive
process. The only peculiarity in the case under discussion is that the
man getting credit for the exploitation of a big new idea commonly has a
very limited market--is dependent on the decision of one bank or lender,
or at most of one out of a few possibilities. The narrower the market,
the more dependent are the values of things that must be exchanged upon
the decisions of a few men. Wheat is free, virtually, from individual
caprices, though even there a big operator may organize a pool and
temporarily affect the value very greatly. But the immediate power of a
few men on values is increasingly great as we get closer to those things
which are unique, which are capable of only specialized employment, and
which call for the coöperation of elaborate and expensive systems. And,
of course, the influence of individual caprice, or individual decisions,
on all values grows greater as wealth and power are concentrated.
Economic social value is an institutional value, specially weighted and
controlled by individuals, classes and institutions.[513]

Joseph Schumpeter, in his _Theorie der wirtschaftlichen Entwicklung_,
has made much of the rôle of the banker in economic evolution. He sees
in the banker a creator of "_Kaufkraft_," by means of which an
entrepreneur, a dynamic man who has a new idea which he wishes to
actualize, is able to wrest from the unwilling "static economic
subjects" their land, labor and instrumental goods for the purpose of
putting his new plan through. This new _Kaufkraft_ is the true _Kapital_
which the new enterprise requires. Capital, thus defined, is not an
accumulation of goods, is not embodied in goods. It is an _agent_, a
_power_, which the banker creates. It makes dynamic change possible.
Schumpeter is particularly anxious, in clearing the way for his new
theory of interest, to get rid of all the notions of saving,
accumulations of stocks of goods, etc., which have commonly been made
prominent in the discussion of capital and interest. We need not here
discuss his theory of interest.[514] He maintains that the new dynamic
credit, credit granted by a banker for a really new enterprise, as yet
not concretely in existence, represents something new in the world,
anomolous from the angle of static values, and static credit. Indeed, he
regards credit as unessential for the static analysis, and banishes it
from the "_Wesen_" of his static state. But this new credit is different
from such credit as there may be in the static state, because, he holds,
the new credit does not rest on goods, and has no _Deckung_. Schumpeter
himself calls these doctrines "heresies." They become less dangerous,
however, when we learn that by "saving" Schumpeter means mere trenching
upon accustomed expenditure, so that the entrepreneur who saves part of
unusual profits is really not saving at all, and when one discovers that
his contention that there need be no accumulation of goods prior to the
starting of a new enterprise means merely that there need be no special
accumulation of goods _ad hoc_. Of course if saving means trenching upon
accustomed expenditure, it is banished by hypothesis from the static
state, but there may still be plenty of capital (in the ordinary sense
of accumulated produced means of production) for Schumpeter's
entrepreneur to get hold of by means of his new _Kapital_. His
contentions that the new credit does not rest on goods, that it has no
_Deckung_, and that we have a new thing in the world since in dynamic
credit we have a case of temporal discrepancy between the making of
obligations and the ability to pay them, calls for further analysis.

It is true that there is a time during which the new credit has no basis
in concrete goods. Very speedily, however, the new credit is exchanged
for concrete goods, and the enterprise is started. Further, the banker
commonly insists on a margin at the start. Further, the claims of the
borrower on the banker are themselves, prior to their expenditure for
the things needed in the enterprise, assets to which the banker may look
as a basis for his confidence in the goodness of the entrepreneur's
promise to pay him. There is never a moment when the new credit does not
rest on _values_. The loan by the banker to the borrower is,
essentially, like the case of the purchase of any bearer of future
incomes, say a machine, or a factory. The machine is, after all, in
economic nature, merely a "promise" of future goods and future values,
as an Austrian economist should be quick to recognize, and machines are
almost as frequently poor performers as borrowers--indeed, most
commonly, the borrower's inability to repay comes from the failure in
the value of the goods which his physical equipment produces. The
_raison d'être_ of the new credit is the new values which have come into
existence: the new plan of the entrepreneur, _validated by the banker_,
attains a value equal to the present worth of the extra products which
it promises. I repeat that it is values which are significant as the
basis of loans, that values are not all embodied in physical goods, and
that value is essentially a psychological thing.

The banker's validation of the plan may be an essential factor in its
value. _Belief_ is often an essential factor in values. The new value,
and the new credit, have a large element of belief in them. The value of
the new plan rests proximately in the belief of the banker, manifested
by his granting of credit. But the value of the _bank-credit_ rests
ultimately in the _prestige_ of the banker, which is a fact of social
psychology, resting in a massing of belief on the part of the public in
him, in the validity of his bank-notes and deposit-currency, coupled
with support from legal and other institutions. But this is to
anticipate the discussion of the nature of bank-credit. The point
involved is sufficiently illustrated by the case where a man who is not
a banker lends his money to an entrepreneur of a new undertaking. Here
again the enterprise is impossible without the loan. Here the loan is
made on the basis of an anticipated income. Here again the anticipated
income is made possible only by the loan; one of the values that enters
into the exchange exists only because the exchange is possible. None the
less, the credit rests on value. It is a right to an anticipated income.
The man who has made the loan has his security in the value which he has
lent, plus the present worth of the extra income which the new idea is
expected to create.

Now a great practical difference is made in the course of economic life
by the decisions of lenders to lend to men who plan new things, instead
of to men who plan old things. It makes an enormous difference whether
or not new plans appeal to the imaginations of those who control the
economic resources of society. It makes a great difference whether
static values (the capital values of incomes to be created in familiar
ways) or dynamic values (capital values of incomes to be created in
novel ways) win out in the competition for loans from those who have
loans to make. But _as values_, the two are of the same psychological
stuff and substance: futurity and belief are essential elements in both
of them.

Stable belief, and strong belief, are easier to evoke in the case of the
established and the familiar. New ways of creating wealth must promise
larger returns, and make more dramatic appeals to the imagination, than
old ways. Schumpeter indicates that it is the essential function of the
banker to give preference to the new ways, that the mass of men are
"static" in their attitude, and that, for some reason which he does not
clearly indicate, the banker is not. This has not been our American
experience, on the whole. The contrast which Schumpeter makes between
the timid, static masses, and the few highly important dynamic
entrepreneurs, holds very much less true in America than in Continental
Europe. There it is doubtless true that new industrial enterprises have
had their main encouragement from bankers. Here, such enterprises have
appealed largely to the mass of men, to the investing and speculative
public. Our commercial banks have lent largely upon stock exchange
collateral, which means that, indirectly, bank-loans have gone to
finance industry. The extent of this is enormous, as will later appear.
However, the banks, as banks, have not been large _buyers_ of stocks.
They have guarded themselves by requiring "margins" from those to whom
they have lent on such collateral. Seasoned bonds have been bought in
great volume by our commercial banks, but few stocks. Even the
underwriters and investment bankers have been primarily intermediaries,
expecting to pass on to private buyers the securities they hold
temporarily. My point here is, merely, that there is nothing in the
distinction between static and dynamic credit, when by that is meant the
distinction between credit for new enterprises and credit for old
enterprises, to mark off a peculiar or essential province for
bank-credit. The need for bank-credit does arise out of dynamic
conditions, primarily, but it is not the need for credit to _start_
dynamic changes, even though bank-credit may do, and does do, that. The
chief reason for bank-credit is to enable economic society to readjust
itself quickly and readily to dynamic changes, by putting through
without friction the necessary exchanges that such readjustment
requires, and by holding in liquid form a fund of rights which can meet
the emergencies and unexpected occurrences which dynamic conditions
involve. To this we now turn.

Bank-credit is the debt of responsible institutions, payable on demand
in money. It may take the form of notes, or of the right to draw checks.
Long evolution has begot a system of legal relationships, and of banking
technique which makes these promises easily performed. The same process
of development has led to social reactions toward banks and bankers
which give them enormous prestige. Legal regulation, in the case of many
banks, requiring adequate capital, and, in this country, requiring
minimum cash reserves, have added to that prestige. The promise of the
bank is commonly so liquid and saleable that the banks are not called
upon to fulfill it by the actual payment of money--the promise alone is
an object of value which is perfectly saleable, which runs in terms of
money, and which functions as a perfect substitute for money in almost
every use except for very small retail transactions. Even there, it is
very much used.

Among the features of banking technique to which we must give especial
attention are the following: (1) the banker has substantial resources of
his own, his "capital," which constitutes the "margin" of protection
which he offers to those who give him valuable things in return for his
promises to pay money on demand; (2) the banker exchanges his promises
to pay on demand, as far as possible, for those things which have a high
degree of "liquidity," _i. e._, for those things which he can quickly
dispose of for cash, or for the promises of other bankers which are the
equivalent of cash. Farm mortgages are not good assets for a banker to
hold in large amount. They are long-term obligations, with a very
limited market, and they will not help him in emergencies to meet his
obligations to pay on demand. Agricultural loans, and other mortgage
loans are made in considerable volume by our State banks and trust
companies. All classes of commercial banks make many non-liquid loans,
as we shall later see. But all of them get as high a proportion of
liquid loans as they can. Bills of exchange, running ten, thirty, sixty
or ninety days, growing out of commercial transactions which
automatically terminate themselves in the payment of cash or the
promises of other bankers, constitute admirable assets. In return for
these, the banker may give his promises freely. This is especially true
where there is, in the banking practice, a wide "rediscount market," in
which he can sell these bills before maturity if he wishes to get even
more liquid assets. Promissory notes, for short periods, thirty, sixty,
or ninety days, growing again out of commercial transactions, which,
like those for which the bills of exchange were drawn, automatically
bring in cash or the promises of other banks, are in many respects like
the bills of exchange, even though the rediscount market for such notes
has not been so highly developed as the market for bills of exchange in
Europe. Whether such notes are as available for rediscount as bills of
exchange is a question of technical banking which we need not here
discuss in detail, though I venture the opinion that bills of exchange
are superior decidedly for this purpose, especially "documentary" bills.
The element of personal credit is commonly larger in the promissory
note, and that limits the market. Banking organization, and particularly
our new Federal Reserve System, may greatly reduce the disadvantages of
the promissory note from this angle, but it seems not unlikely that the
bill of exchange may be a factor of increasing importance in our
internal banking arrangements. The general test, however, of what is
available for a banker's assets depends on varying conditions, and is
not to be answered by a simple formula. A bank in a rural region which
loads up heavily with the safest local bonds is little better off than
with farm mortgages. For neither is there a quick market in an
emergency. A city bank, near the stock exchange, may very safely buy in
large amounts highly saleable as a profitable substitute for part of its
cash reserve. Even country banks may, and do, safely own such bonds.
Short loans on stock and bond security, constitute the most important
single type of bank-loan in the United States, as we shall later see.
(3) The third feature of banking technique to which attention must be
given is the reserve policy. The banker must keep some actual money on
hand (how much we have in part considered in Part II, and shall again
discuss).

I shall give attention to these points in what follows. The first point
needs little discussion. Large "capital" for a bank gives prestige and
security. Some capital is a _sine qua non_ for a bank which expects its
notes or deposit currency to have general acceptability.

It will be well to consider further the circumstances determining the
form which a bank's assets shall take. Though commercial banks own
enormous quantities of high grade bonds, it is rare for commercial banks
in America to buy stocks of corporations.[515] They will often lend to
owners of such stocks with the stocks as collateral, up to a high
percentage of the value of the stocks, but they will rarely trade their
demand obligations for the stocks directly. In general, a bank wishes
to have its assets in the form of obligations of other people, expressed
in terms of dollars, and having a definite term to run (or callable on
demand).

One reason for this is a bookkeeping reason. "Par value" of stocks has
little meaning any more. Market-prices of stocks, even the best stocks,
are not absolutely fixed. They fluctuate, even though within narrow
limits. This fact presents complications to the bookkeeper! Of course,
the bank's buildings and fixtures, listed among its assets, fluctuate
also, in value, and in the price that could be obtained on a given day,
but the bookkeeper can abstract from that, since the bank has no
intention of selling its buildings and fixtures. The notes and bills
held in the bank's portfolios also in fact fluctuate in value, and in
the price at which they might be sold on a given day, but they are
expressed in terms of dollars, and the bookkeeper commonly has no need
to look beyond the figures written on them. At irregular intervals, a
small percentage of them may be marked off the books as "bad," but
usually the minor fluctuations are abstracted from. The bank does not
like to have assets whose published prices fluctuate. But this is, I
suppose, not the main objection which banks have to stocks as assets
since it does not prevent their buying bonds. I abstract from the legal
restrictions that prevent many banks from buying stocks. The fundamental
reason is to be found elsewhere. The point is to be found here: the
transaction whereby property rights in roadbed, rolling stock, etc.,
were collected into property rights in a going, organic whole increased
the saleability of all these rights; the further subdivision of these
rights into many thousands of equal parts enormously increased the
saleability of these rights, especially when coupled with listing in an
organized market; the further transaction, by which a preferential claim
upon these subdivisions of rights is embodied in a collateral note
still further increases the saleability of the value of these rights.
The whole of the value embodied in a share of stock has not the
certainty and saleability which a banker wishes for his assets. It might
not be possible to market the stock on a given day without loss. But a
collateral note, embodying 80% of that value, with provision for
additional collateral in case the margin is reduced, is highly liquid
and the banker has no doubt that, with watchfulness, he can always
realize the full face value of such a note. It becomes saleable enough
for his purposes. The transaction by which this note is exchanged for
the banker's demand obligation gives the drawer of the collateral note a
perfectly saleable form of value with an almost universal market, which
he can convert without loss into practically anything that money can
buy. We have here a series, a scale, saleability of rights growing
steadily greater, through a series of transformations and exchanges,
till at last the virtually perfect saleability is reached. Again we are
reminded of Menger's analysis[516] of the methods of primitive barter,
whereby the man who possesses a good of low saleability, through
successive exchanges, gradually gets goods of higher and higher
saleability, until he finally reaches his goal. Bank-credit, this most
highly saleable of all forms of rights except the rights to actual money
in hand, and in general not inferior to money, cannot usually be had by
direct offer to the bank of crude property rights. These must be refined
and distilled, till a central core of highly saleable value emerges, and
then they may enter the bank's assets in return for bank-credit. The
best bonds likewise offer such a central core of highly saleable value.

A further point is to be noticed about this scale of saleabilities. At
each stage of the exchanges of less saleable for more saleable rights,
the holder of the less saleable rights must make concessions to the
holder of the more saleable rights. And the degree of his concession is,
in general, correlated with the lack of saleability of what he offers.
Commonly this takes the form of giving up a right which has a higher
yield for one which has a lower yield. Or, viewed more fundamentally,
from the angle of the capitalization theory, income-bearers of low
saleability are capitalized at a higher discount rate than
income-bearers of higher saleability, with the same yield. Farm lands
may be capitalized on a 10% basis. (There will be great differences
between regions in this, depending in considerable measure, often, on
the activity of farm sales. I would refer here to the facts mentioned in
my chapter on "The Quantity Theory and International Gold Movements,"
contrasting Cass Co., Iowa, with Yazoo Co., Mississippi. Of course, the
risks of agriculture count heavily, also, and the prestige of owning
land as compared with other forms of property.) The farmer's mortgage
note may bear 7%. A merchant who holds that note may use it as
collateral, with a margin, backing his own note, and get accommodation
for three months at 6%. The bank may rediscount the note of the
merchant, giving it its own endorsement, on a 4-1/2% basis. The coal
mine owned by a small company may yield 12%; sold to a large iron
company, which combines mining and smelting and manufacturing, that mine
may be represented by 7% stock; a collateral loan, for sixty days, based
on 80% of the value of the stock may be had for 4%; the demand liability
of the bank given in exchange for the collateral note will either yield
nothing at all, or else yield a low per cent, one, one and a half, or
2%, on large checking accounts. If the collateral note be a call note,
the rate will be lower, in general, than on a time note. I here refer to
what was said in the chapter on the functions of money with reference to
the relation of short loans, especially call loans, to the "bearer of
options" function of money. Part of the yields of these loans is in the
bearing of options. This function grows out of the uncertainties of a
dynamic market. It would disappear if uncertainties, "friction," and
dangers disappeared.

The importance of liquidity and saleability in the assets of a banker
needs little discussion. It has been reiterated by virtually every
writer on the subject. Its connection with the need for meeting demand
obligations is obvious. The point that I would here emphasize is,
however, that this, too, grows out of dynamic changes, uncertainties,
etc. An economic life in "normal equilibrium," in static balance, with
all things going smoothly, in anticipated ways, could dispense in large
measure, or wholly, with such liquidity. Obligations which matured at
the time that the holders of the obligations had maturing obligations,
would serve their purpose perfectly. Again I would emphasize the fact
that the theory of money and bank-credit is essentially a dynamic
theory, and that the notion of "normal equilibrium" which underlies the
quantity theory has no bearing whatever on these fundamental matters.

The market where fluid bank-credit is exchanged for less fluid rights
has been given the name, "the money market." The prices fixed in this
market are "money-rates," figured as percentages on the amounts of
bank-credit exchanged for the less fluid rights. It is, of course,
strictly speaking, not a money market. Money, as the term has been used
in this book, has been taken to mean gold coin, subsidiary coin,
government paper, and for the United States, bank-notes. In a country
where much bank-credit is elastic bank-notes, it is better to
distinguish money from bank-notes. The term, money, is not one easily
defined in a logical manner. A good logical definition should seize on
some essential characteristic of the object defined, should include all
the objects of that class, and should exclude all others. We can meet
the tests of inclusiveness and exclusiveness in a definition of money,
but we can hardly meet the first test. The differences between gold
money, for example, and gold bullion are less than the differences
between gold money and government paper. The differences between
bank-notes and bank-deposits are less than the differences between
bank-notes and government paper, or bank-notes and gold. The term,
money, covers a group of more or less miscellaneous things, concerning
all of which few general laws are possible. Gold, or other standard
money, in particular, may obey different laws from other forms of money.
I have been careful, in the foregoing, to avoid the danger of letting
the argument rest on any ambiguity in the meaning of the term, however,
and for the present shall not attempt further definition. For the
present, we shall use the term, "money market," in its familiar sense,
as meaning that market in which bank-credit is exchanged for less fluid
rights. An organized money market commonly appears only in larger
cities. In smaller places, relationships between banks and customers are
much more personal, and indeed, even in larger cities, regular business
houses have particularly intimate relations with special banks. A fluid,
impersonal market, to which men may repair without reference to anything
but the marketability of the collateral they have to offer, is a
distinctively metropolitan affair. Only large dealers commonly have
relations with more than one or two banks. Larger houses in the big
cities often do sell their "commercial paper" through brokers, and some
of the big New York mercantile houses have had their paper scattered a
good deal throughout the country. The lack of protection which houses
which sought such credit faced during the Panic of 1907 tended to check
the practice in some measure, but it has revived, and even
increased.[517] In the matter of a wide market for commercial paper,
however, an impersonal market, with great fluidity, we are well behind
not only England, but also Continental Europe. The London acceptance
house has especially contributed to an impersonal market. The American
money market is _par excellence_ a New York market, and the primary type
of paper discounted in the American money market is stock exchange
paper, and foreign bills of exchange. For commercial paper, however,
there are innumerable more personal, more restricted, markets, and
commercial paper constitutes a very considerable part of banking assets,
though much less than is often supposed. But this we shall discuss in
the next chapter.




CHAPTER XXIV

CREDIT--BANK ASSETS AND BANK RESERVES


In traditional discussions of banking, the impression is given that
commercial paper is the normal and dominant type of banking assets.[518]
To one accustomed to this view, the figures of the Comptroller of the
Currency for banking investments in the United States for 22,491 banks
of all kinds (State, national, private, and savings banks, and trust
companies) in 1909,[519] will occasion dismay:

                                          (000,000 omitted)
  Loans on real estate                              $ 2,505
  Loans on other collateral security                  3,975
  Other loans and discounts                           4,821
  Overdrafts                                             69
  United States bonds                                   792
  State, county and municipal bonds                   1,091
  Railroad bonds and stocks                           1,560
  Bonds of other public service corporations            466
  Other stocks, bonds, etc                              703
  Due from other banks and bankers                    2,562
  Real estate, furniture, etc                           544
  Checks and other cash items                           437
  Cash on hand                                        1,452
  Other resources                                       111
                                                   --------
      Total Resources                               $21,095

These figures, however, call for further analysis. They include figures
from institutions which should not be counted with commercial banks. The
percentage of real estate loans, especially, is too high to represent
the workings of commercial banks, a very high percentage of real estate
loans being held by stock and mutual savings banks. The other items,
however, are not much changed by the inclusion of savings banks and
private banks. It will be well to draw some conclusions from these
aggregate figures for all classes of institutions, before taking up a
more detailed analysis of State and national banks, and trust companies.

Where, among these items, does one find "commercial paper"? In the
reports of the metropolitan papers, giving daily variations in interest
rates, it is usual to find "commercial paper" listed as a separate
category, coördinate with "sixty day paper," "ninety day paper," etc.
Recent periodical discussion has gone elaborately into the question as
to what should be called "commercial paper," from the standpoint of the
policy of the Federal Reserve Banks. I think it safe to say that no two
markets, at present, in the United States will use the term in precisely
the same way, and that all would restrict the term to a small portion of
the "other loans and discounts" listed above. The most general
definition of "commercial paper" would be paper bought through
note-brokers. Despite the decided increase in loans and discounts which
our war prosperity has involved, there has been very frequent complaint
of the scarcity of "commercial paper." I shall use the term, "commercial
paper" in a much more liberal sense than the American money market does,
and shall mean by it all loans of a really liquid character, made by
banks to merchants and others to pay for the purchase of goods in
anticipation of a resale within the term of the loan which will enable
the loan to be repaid at maturity. From this should be excluded,
however, loans made to speculators. With this liberal, and not very
precise, definition of commercial paper, we raise again the question as
to where it may be found in the items above given.

Virtually all of it, I think, must be found in the item, "other loans
and discounts"--an item which, in all, is slightly less than 23% of
total banking assets.[520] But not all of this "other loans and
discounts" is commercial paper. Very much indeed represents loans of a
non-liquid character, regularly renewed, which manufacturers and others
have put, not into moveable goods, but into fixed forms of
capital-goods, as machinery, and even buildings. One case in New York,
which the writer is informed by a business man well acquainted with both
banking and business in many sections of the country is typical of many
cases, is as follows: a New York bank is at present lending to a small
manufacturer of automobile supplies about $30,000. Of this, about
$10,000 is liquid, periodically covered by "bills receivable," and if
the bills receivable should fail, in the period in question, to cover
the $10,000, the bank would insist on a reduction of the loan. The
remaining $20,000, however, is not liquid. It was spent for non-moveable
equipment; the bank expects to renew the notes for this loan
periodically, and is well aware that it could not force collection
without bringing the business to a close--or else forcing the factory to
get accommodation elsewhere. The $10,000 that is liquid is by no means
all spent for goods, but is spent, in part, for wages. _None_ of the
$10,000 is spent for goods which are to be resold without being
transformed by manufacture. None of the $30,000, therefore, is, in the
strict sense, "commercial paper." It is manufacturer's paper. Part of it
is virtually as liquid as commercial paper; two-thirds of it is not
liquid.

A very large part indeed of bank-loans are of this character. A large
part of the loans made to farmers are in no sense liquid: when the loan
is made, for, say, six months,[521] it is perfectly understood by both
bank and borrower that a renewal will be asked for and granted. It is
impossible to say what fraction of this $4,821,000,000 of "other loans
and discounts" is really liquid commercial paper, or liquid paper of any
kind, in the sense that it can be automatically paid off at maturity. I
venture the statement with entire confidence, however, that the
proportion of liquid paper is not one-half of the amount. I should
question if more than one-fourth of it is truly liquid, in the sense in
which that term is commonly used: meaning that the loan is made to put
through a transaction which will be completed during the term of the
loan, and permit the loan automatically to be paid off. I do not mean by
this merely that the banks could not reduce this item by one-fourth
suddenly. Even in a market made up wholly of highly liquid paper, an
arbitrary refusal to renew one-fourth of the loans, with the effort to
reduce loans and discounts by one-fourth, would occasion great
embarrassment and even disaster. The test of liquidity here applied
relates to the items separately, on the assumption that other things are
not radically changed. Even in this sense, however, viewing each loan
transaction separately, it may well be questioned if the banks in the
United States could find among their "other loans and discounts" items
exceeding a fourth of the total (in value) which they could refuse to
renew, at least in large part, without disappointing reasonable
expectations, and embarrassing good business men.[522]

Of this paper, not truly liquid, no doubt a good deal is advanced to
wholesale and retail merchants, and is, in this sense, commercial paper.
The terms, "liquid paper" and "commercial paper" by no means run on all
fours! As will later appear, the bulk of liquid banking assets are not
commercial paper at all. And only that part of a bank's loans to a
merchant may be called "liquid" which can be paid off by the merchant
without disappointing his reasonable expectations,--causing him to seek
other banking connections.

There is, however, another item in which we may find some commercial
paper, and this is the item, "loans on other collateral security." This
has commonly been supposed to be virtually all stock exchange loans.
Thus, Conant[523] cites the growth in this item in New York as evidence
of the growth of loans on stocks and bonds. For New York, loans on
stocks and bonds do make up the great bulk of this item. Even in New
York, however, there are other factors in it, absolutely, even though
not relatively, important, and in the country outside, the other
elements are not at all negligible, even though for the outside country
the part secured by stocks and bonds is the major part, and even though
the growth of this item in our total banking assets is, in general,
fairly indicative of the growth of loans secured by stocks and bonds.
Figures for the other items are not available for State banks, trust
companies or savings and private banks. They are not till very recently
available for national banks. In 1915,[524] however, the Comptroller
separates the item, "loans on other collateral security," for national
banks, into two parts, (1) loans "secured by stocks and bonds"
($1,750,597,273), and (2) loans "secured by other personal securities,
including merchandise, warehouse receipts, etc." ($882,749,812). Is
there any commercial paper in this last, not inconsiderable, item?

Let us locate the item, in the effort to find out. The percentage runs
highest in Chicago, where this class of collateral loan exceeds the
loans on stocks and bonds. The inference is strongly suggested,
therefore, that much of it, there, at least, represents advances to
live-stock, grain and produce traders and speculators on the Board of
Trade, at the stock yards, etc. The inference is strengthened by the
fact that St. Louis, where there is a good deal of grain and commodity
speculation, shows more than twice as much of this kind of paper as does
Boston, where this kind of speculation is unimportant--despite the fact
that Boston's aggregate collateral loans of all kinds greatly exceed
such loans in St. Louis. In New York, where there is a great deal of
coffee and cotton speculation, and some other commodity speculation, the
amount of this paper, though relatively small, is absolutely greater
than in any other city. No doubt, in New York, which is the country's
centre for foreign commerce, a fair amount of the paper secured by
"other personal securities, including merchandise, warehouse receipts,
etc.," is really commercial paper, representing advances to importers
and exporters--though the difficulties of giving this kind of security
where goods are in transit would prevent most of our foreign trade being
financed in this manner. The total of this kind of paper in New
York--all these figures are for national banks alone--was only 113
millions on June 23, 1915.[525] It may be doubted if very much of this
paper, in the great cities, represents goods in transit. With the
caution that the view here expressed is based on inference, and not on
actual knowledge of what the large city banks are doing, the writer
concludes that probably the bulk of this paper, in large cities,
represents loans to speculators rather than to merchants. It is liquid,
but it is not commercial paper.

What of such paper in the country districts? Nearly
one-half--$436,000,000 out of $882,000,000--of these national bank-loans
on "other personal security, including merchandise, warehouse receipts,
etc.," are in the country, outside the Reserve and Central Reserve
Cities. Much of it is in the South. Much of it in the grain and
live-stock producing regions. What do such loans mean?[526] Much of it
is loans to farmers and planters. In the South, much of it is on crop
liens. The loans on cotton warehouse receipts, at least in the country
parts of the South, are not as great as is commonly supposed. In the
North and West, there are a great mass of farmers' chattel mortgage
loans, including loans on horses, grain in cribs, hogs, sheep, cattle,
mules, etc. The use of this type of paper for financing the breeding and
feeding of live-stock, particularly hogs, cattle and sheep, is very
extensive. Virtually all loans to farmers and feeders for these purposes
are secured by such chattel mortgages. It seems improbable that a great
deal of this paper could represent ordinary commerce. Neither
wholesalers nor retailers can easily handle merchandise on which chattel
mortgages have been given. The usual method of granting credit to them
is to advance loans on one and two name paper, unsecured. Not many
loans to retailers and wholesalers will fall in the category under
discussion.

To what extent are the loans of this type to farmers liquid? Well, the
crop lien loans in the South have a natural term, and, though commonly
longer loans than bankers have in mind when speaking of liquid paper,
are liquid in the sense that they are automatically paid off at
maturity. Loans on work-animals need not have a natural term. Loans on
animals being fed for the market have such a natural term, and are truly
liquid. Loans, however, on breeding animals are not thus liquid, such
loans are commonly regularly renewed at maturity, and the banks do not
count on them in emergencies. It is the opinion of Dr. J. E. Pope that
fully two-thirds of the aggregate loans on live-stock chattel mortgage
security are to breeders rather than to feeders, and hence are not
liquid. Of course, none of these loans are commercial paper.

I conclude, therefore, that the thesis with which we started that the
overwhelming bulk of commercial paper is to be found in the item, "other
loans and discounts" is correct. I see no reason to suppose that an
analysis of the loans of State banks and trust companies would show a
different conclusion. We lack the figures for breaking up the collateral
loans of State banks and trust companies into the two classes, "secured
by stocks and bonds" and "secured by other personal securities,
including warehouse receipts, merchandise, etc." We have merely the
gross figures for collateral loans. As the State banks are in large
degree country banks, it is probable that the percentage of commodity
collateral as compared with stock exchange collateral for State banks
would be larger than for national banks. However, the total of
collateral loans for State banks is relatively small--559 millions, for
1909, as against "other loans and discounts" for State banks in that
year of 1,112 millions, and as against a total of collateral loans of
all banks reporting in that year of 3,975 millions. On the other hand,
the collateral loans of the trust companies are very large: 1,222
millions for 1909, as against "other loans and discounts" for the trust
companies in the same year of 460 millions. As the trust companies are
chiefly city institutions, and as the concentration of trust company
loans and capital in New York City is relatively very great, it would
seem pretty clear that taking both State banks and trust companies into
account would substantially lessen the percentage of loans "secured by
other personal security, including merchandise, warehouse receipts,
etc.," to total collateral loans. As the amount of commercial paper in
this class of loans for national banks is probably small, it may be
expected to be still smaller in the aggregate of collateral loans.

The following figures, for State and national banks, and trust
companies, only, will, in the light of the foregoing, give us basis for
some further conclusions regarding the character of banking assets in
the United States. As before, the year 1909 is chosen:

                               (000,000 omitted)[527]

                                   _State  _National  _Trust  _Aggre-
                  _Resources_      Banks_   Banks_  Companies_  gate_

  Real estate loans                 414        57      377      848
  Collateral loans                  559     1,939    1,222    3,720
  All other loans                 1,112     2,966      460    4,538
  U. S. bonds                         5       740        3      748
  State, county and municipal
    bonds                            65       156      155      376
  Railway stocks and bonds           75       351      362      788
  Bonds of other public service
    corporations                     50       148      168      366
  Other bonds, stocks, etc           95       208      769    1,072
  Total of items here listed      2,375     6,565    3,516   12,456
                                  -----     -----    -----   ------
      Total Resources             3,338     9,368    4,068   16,774

This table makes clear that the figures for real estate loans given in
the table for all banks, a few pages preceding, were much too high. It
leaves the relations among the other items, however, not greatly
changed. "All other loans" increase from slightly less than 23% of total
assets to 27%. If we concede that one-half of the "all other loans"
represents liquid "commercial paper"--a very liberal estimate, as we
have previously concluded--we get about 13-1/2% of the assets of these
institutions in the form of "commercial paper," an increase over the
11-1/2% to be assigned on the basis of the other table. The figure is
the roughest sort of approximation. I attach little importance to the
exact percentage, and the argument which follows is not dependent on any
exact figure here. The proportion of collateral loans to total resources
is changed also, and even more: collateral loans are 18% of total bank
resources when all kinds of banks are included, and are over 22% of
total bank resources when only State and national banks and trust
companies are counted. If the foregoing is correct within very wide
limits of error as to the amount of commercial paper, collateral loans
very substantially exceed commercial paper. If all the "all other loans"
should be counted as commercial paper, collateral loans are still not
far behind them--22% as against 27-1/2%.

What is the significance of this? We have seen that for national banks,
the great bulk (over 66%) of the collateral loans were secured by stocks
and bonds in June, 1915. We saw reasons for supposing that a higher
percentage of stock exchange collateral would be found when State banks
and trust companies are included. Suppose we assume that 75% of the
collateral loans of all three classes of institutions here in question
are based on stock exchange collateral.[528] This would mean 16-1/2% of
the total resources of these institutions in stock exchange loans--still
well above the 13-1/2% we have assigned to "commercial paper." In any
case, it is at least justifiable to contend that loans on stock exchange
collateral are as great in volume as commercial loans. I think that they
very substantially exceed them. But further, we have another large
percentage of bank resources invested in stock exchange securities
outright--chiefly in bonds. The aggregate for those investments in the
institutions under consideration is 3,250 millions. This is something
over 19% of the total assets of these institutions. Combining this with
the loans on stock exchange collateral, we get nearly 36% of bank and
trust company assets invested, directly or indirectly, in stock exchange
securities, as against an assumed 13-1/2% in commercial paper. Conceding
that all the "all other loans" are commercial loans, the stock exchange
assets still exceed them in the ratio of 36 to 27-1/2.

In our second table, we have listed items which aggregate only 12,456
millions of the total resources for these institutions of 16,774
millions. The items listed, however, represent virtually all the credit
extended by banks to industry, commerce, agriculture, the stock market,
other speculation, and the State. The excluded items of main importance
are: Due from other banks and bankers, 2,302 millions; checks and other
cash items, 432 millions; and cash on hand, 1,411 millions--the three
items aggregating 4,146 millions, which virtually closes the gap. These
three items are of immense importance as making for liquidity in
banking assets, and as making possible extensions of credit to the
business world, but it is not proper to count them when an estimate of
the extent of bank-credits is in question. Our second table contains,
for the three classes of institutions, all the items properly counted
there, except overdrafts (small in amount) and one other big item which
does not get into bank statements at all, namely, _overcertifications_
and "_morning loans_." Of this last item, more later. We may, then,
recalculate our percentages on the basis of the credit extended by the
three classes of institutions, instead of on the basis of total
resources. On this basis, the percentages are:

     Real estate loans, 7.4%;

     Collateral loans, 30%, of which we assign to stock exchange
     collateral, 22-1/2%, and to other collateral, 7-1/2%;

     All other loans, 36.4%, of which we assign to "Commercial
     paper" 18.2%;

     Total stocks and bonds, 26%.

Adding the percentages for stock exchange collateral loans and for
stocks and bonds owned, we get 48-1/2% of all extensions of bank-credit
for these three classes of institutions in the form of credits extended
to the security market. If everything else except the real estate loans
should be counted as "commercial loans" the stock exchange credit would
still exceed the commercial credit. If my estimate of 18.2% of
bank-credit based on commercial paper is high enough,[529] the banks and
trust companies have extended over two and a half times as much credit,
at a given time, to the security market as they have to commerce. This
on the face of the record. But there is, as above indicated, a further
item which does not get into the record, namely, overcertifications and
"morning loans." Every day in the great speculative centres, and very
especially in Wall Street, enormous advances are made to brokers, which
are canceled during the day, but which, during their short life, are a
real addition to bank-credit. To attempt to estimate this with any
accuracy is hopeless, but the total on any ordinary day is enormous, and
most of it is extended in connection with stock market transactions.

A final comparison,[530] which will conclude this perhaps too wearisome
analysis of these figures, will consider the loans alone, neglecting the
securities owned:

  Of total loans:

     Real estate loans, 9.3%;

     Collateral loans, 40.8%, of which we assign to stock exchange
     collateral, 30.6%, and to other collateral, 10.2%;

     All other loans, 49.6%, of which we assign to "Commercial
     paper," 24.8%.

The development of bank loans on stock exchange collateral is a
remarkable feature of the three or four decades preceding 1909. The
following figures, of national bank loans in New York City,[531]
illustrate the tendency:

                   (000,000 omitted)

                    _Loans on           _Advances on
  _Date_       Commercial Paper_[532]      Securities_

  1886                 146                   107
  1890                 151                   145
  1892                 160                   183
  1894                 168                   192
  1896                 151                   162
  1898                 181                   260
  1900                 185                   384
  1902                 210                   396
  1903                 239                   391
  1904                 268                   538

The tendency is not peculiar to America, however. The following table
gives a classification of the loans and discounts of all the great
European banks[533] in selected years from 1875 to 1903:

          (Figures in francs, 000,000 omitted)

               _Note        _Commercial   _Advances on
  _Date_    Circulation_      Loans_       Securities_
  1875          9,699          4,027            828
  1880         10,482          3,384          1,112
  1885         11,662          4,050          1,231
  1890         13,194          5,192          1,549
  1895         15,896          5,328          3,669
  1899         14,992          8,352          4,037
  1900         15,906          8,514          4,171
  1902         16,215          6,939          4,178
  1903         16,539          6,147          4,129

We conclude, therefore, that the great bulk of banking credit in the
United States, even of "commercial banks," is not commercial credit.
Much of it, in the smaller places, especially, represents in fact,
whatever the form, long time advances to agriculture and industry. Most
of it, in the great cities, and to a large extent in even the smaller
places, represents advances to the permanent financing of corporate
industry. Excluding real estate loans, more than half of bank-credit
represents either ownership of bonds (with some stocks) or else advances
on stocks and bonds. Another important part of bank-credit, which I
shall not even attempt to measure, is employed in financing commodity
speculation.

It is worth while to compare our figures concerning bank loans with
Kinley's figures, which we have previously considered, for deposits made
on March 16 of 1909, the year we have chosen for the bank loans figures.
It is important to remember that "deposits," as used by Kinley in this
investigation, does not mean what the term means in a bank balance
sheet. Kinley's figures relate to the actual items deposited on the day
in question, and not to the net balance after deposits and withdrawals
have been compared when the bank has closed for the day. A large deposit
in the balance sheet sense might show no "deposits" in Kinley's sense,
in a given day; while enormous "deposits" in Kinley's sense might be so
offset by incoming checks that virtually nothing is left on the balance
sheet at the end of the day, for a given depositor. Kinley's figures
thus give us a means of getting at the degree of _activity_ of different
classes of deposits in the balance sheet sense, and so, indirectly, of
different classes of _loans_.

Loans and deposits (in the balance sheet sense) are, as we know, closely
correlated. This is true for banks in the aggregate, and for banks
individually at a moment of time. It is not generally true of a given
individual deposit account at a moment of time, but through a period of
time, for business deposits, it tends to be true that the items
deposited offset the amounts borrowed.[534] If the items deposited are
numerous, if the depositor has an "active" deposit account, receiving a
large flow of banking funds, as compared with his net deposit balances,
we may infer that his loans are also active, that he pays off loans
frequently, that his paper, in the assets of the bank, is "liquid."

I need not give the details of Kinley's figures again, as they have been
elaborately analyzed in connection with the estimate of the "volume of
trade."[535] The figures show that retail and wholesale deposits between
them make up about 25% of the total deposits. This would serve to show
that "commercial paper," which we have allowed to be about 24.8 of total
loans, is slightly more active (and hence "liquid") than the average of
loans.[536] It will also suggest, however, that our figure for
"commercial paper," truly liquid, is too high, since we should expect
this kind of paper to be more active than the average--unless, indeed,
stock exchange collateral loans are so exceedingly active as to make a
tremendously high average. I refrain from trying to get a definite
answer on this point, since there are many indeterminate elements: among
others, uncertainty as to the extent to which wholesale deposits and
retail deposits _include_ all commercial deposits, and uncertainty as
to the extent to which they _exclude_ manufacturer's deposits. The great
bulk of Kinley's deposits, however, fall into the "all other" class, and
the great bulk of the "all other deposits" are located in the great
financial and speculative centres, particularly New York. We have
concluded that they represent chiefly (a) transactions in securities;
(b) other speculation; (c) loan and other financial transactions,
particularly the shifting of call loans on stock exchange collateral. It
is, then, the deposits of those connected with the great financial and
speculative markets, particularly the stock market, whose deposits are
most active, and whose loans are most liquid. Stock market collateral
loans thus constitute the most perfectly satisfactory sort of bank loan,
from the standpoint of liquidity. Though such loans do not make up the
bulk of bank loans (we have concluded that they constitute 30.6% of the
loans of State and national banks and trust companies in 1909), they do
account for the bulk of banking activity, and supply the greatest part
of the liquidity of total bank loans.

When we consider further the item of securities (chiefly bonds) in
banking assets, we find another highly important source of liquidity.
The sales of bonds in the great banking centres are enormous. The
figures of bond sales on the exchanges do not begin to tell the story.
One big bank in New York in 1911 sold more than half as many bonds as
were sold in that year on the floor of the Stock Exchange.[537] It has
been frequently stated that ten bonds, of those listed on the Exchange
are sold over the counter for one on the floor. This is truer of Boston
than New York. The "outside market" for unlisted bonds is a very
important matter. Dealings among banks in these items and in foreign
exchange are exceedingly important. This is especially true of the
business of the great private bankers, as Morgan, Kuhn-Loeb and others.
Much of this does not appear in Kinley's figures, since neither the
deposits of the great private banks in other banks, nor the deposits
made in the private banks themselves (so far as New York City is
concerned) figure in his totals.[538] Had they been included, the
percentage of the "all other deposits" would have grown, and we should
have had still more impressive evidence of the fact that modern banking
in the United States is largely bound up with the security market, and
that modern bank-credit gets its liquidity chiefly from that source.

The story is even more impressively told by the figures for bank
clearings, which include the transactions between banks, and the
transactions of the private bankers. In New York, in 1909, total
clearings for the year were 104 billions, as against 62 billions for the
whole country outside New York.[539] That bank clearings are closely
correlated with stock exchange transactions, has been demonstrated fully
by N. J. Silberling, who has shown the following correlations: New York
Stock Exchange share sales with New York clearings, r = .718; total
clearings for the country with New York share sales, r = .607; total
clearings for the country with railway gross receipts (as representative
of ordinary trade), r = .356.[540] The active deposits and the liquid
loans are chiefly connected with activities in finance and speculation.

Now two important practical conclusions are suggested by this analysis.
The first is that the complaint of many farmers, merchants, politicians,
and even scientific writers that too much money and bank-credit are at
the disposal of Wall Street and other speculators rests on a
misunderstanding of causal relations. Wall Street does not, by using a
large amount of bank-credit, take just that much away from ordinary
business. Rather, it increases the amount available for ordinary
business! Wall Street, and the other financial and speculative centres,
supply the _liquidity_ for bank assets, and so make possible loans on
non-liquid paper. Banks do not need to have all their assets liquid. If
they did, American banks would have long since gone under! The foregoing
discussion of loans to farmers, and manufacturers and even merchants
should have made that clear. But banks do need a substantial margin of
liquidity, to protect the rest. They get it from stock exchange
collateral loans, and from ownership of listed and easily marketable
bonds, primarily. They get part of it from true commercial paper. Thus,
the director of a country bank in Iowa told the writer that banks in his
section--where banks owned in large measure by farmers, and dealing
largely with farmers, are very numerous and important--make a regular
practice of buying, through brokers, a considerable amount of notes of
outside merchants. They do this to protect themselves. Their other
loans, to farmers, while good, are slow. If pressed themselves, they
cannot press their depositors. These notes bought through note-brokers,
however, are impersonal. They can refuse to renew them. They can sell
them again. They thus buttress the rest of their assets. They can thus
lend more, rather than less, to local customers. They can safely get
along with much smaller cash reserves. Similarly with the practice of
country banks of sending a large part of their cash to Wall Street banks
to be lent on call, for which the country banks get, say, 2% from the
Wall Street banks. Their country customers would pay 6% or more for
that money in some cases, but the banks dare not tie up more of their
assets in non-liquid local paper. They lend more, rather than less, at
home, because they send part away. Wall Street is not "draining our
commerce of its life blood"![541] Wall Street is rather preventing that
life blood from coagulating!

A second important practical conclusion relates to the provision in the
Federal Reserve Act which forbids Federal Reserve Banks to rediscount
stock exchange paper. This provision was intended to keep funds from
being diverted from commerce to stock speculation, and doubtless met the
approval of many very good students of the subject. If the foregoing be
true, however, that provision is a mistake. It is a mistake, first,
because it will lessen, rather than increase, the power of the Reserve
Banks to provide relief to commerce through aiding in making bank assets
liquid _via_ the stock market. It will limit the liquid assets of the
Federal Reserve Banks in too great a degree to gold. It is a mistake, in
the second place, because it prevents the Reserve Banks, particularly in
New York and Boston, from making satisfactory profits--which is one
important purpose of a bank! Even more important, however, is the third
objection: it prevents, in large degree, the Federal Reserve Banks from
being effective weapons against the "Money Trust." How far we have a
"Money Trust" need not be here argued. The Pujo Committee, relying in
considerable degree on admissions of prominent financiers that
"concentration had gone far enough," and on the inability of Mr. Baker
to find more than one issue of securities of over $10,000,000 within ten
years, without the coöperation or participation of one of the members of
a small group, concluded that we have a "Money Trust" in the sense that
there is "an established and well-defined identity and community of
interests between a few leaders of finance ... which has resulted in a
vast and growing concentration of control of money and credit in the
hands of a comparatively few men."[542] How far this conclusion is
justified is, of course, a matter that would require elaborate
discussion. There seems to be evidence that there is, since the death of
the elder Morgan, a decided loosening of ties. One feels the need,
moreover, of discounting very considerably many of the conclusions of
the Pujo Committee. The present writer feels that the case has been
made, however, that there has been, and probably continues, a much
greater concentration of such control than is desirable. Whether or not
there is at present such a "Money Trust," it seems pretty clear that
temporary, if not permanent, alignments, may give effective monopoly
control when the issue of very big blocks of securities is involved. For
present purposes, however, it is enough to note that _if_ there is, or
should come to be, a "Money Trust," it is a trust concerned with
_financing industry, through handling security issues_, and not a trust
_in the granting of ordinary commercial credit._[543] If, therefore, the
Federal Reserve Banks are to compete with it, and break its monopoly,
they must do it by entering the market with funds for the financing of
corporate industry. Power to rediscount commercial paper seems a feeble
and hardly relevant weapon against a combination concerned with
purchasing securities, and making collateral loans! No doubt, this power
is worth something. If an independent investment banker wishes to
compete with a "Money Trust" in financing a new enterprise, he can go to
his commercial banker, and offer collateral security for a loan; if the
commercial banker wishes to aid him, but is short of lending power, he
may, if he has plenty of commercial paper available for rediscount,
rediscount it with the Federal Reserve Bank, and so get the additional
funds. But a New York bank, or trust company, with the bulk of its
assets in stock exchange investments, may well not have enough
commercial paper eligible for rediscount, and the Federal Reserve Bank
could help very much more effectively if it could take collateral loans
directly. A fourth, and even more important objection to the restriction
on stock exchange collateral loans for Federal Reserve Banks relates to
the power of these banks to aid in a crisis. Crises first hit the stock
market. Financial panics are most acute there. The need for immediate
and drastic relief is greatest there. If stock exchange loans lose their
liquidity, what of the rest of bank loans? Power to lend on stock
exchange collateral, in the hands of the Federal Reserve Banks, may well
prove, in crises, an essential, if we wish to make our system definitely
"panic proof."[544]

And now for a vital theoretical conclusion from this lengthy analysis of
bank loans. For the quantity theory, and the "equation of exchange," all
exchanges stand on a par. If one exchange takes place, that lessens the
money and credit available for another exchange. The more exchanges
there are, the less money and credit there are per exchange, and the
lower prices must be, as a consequence. Nothing could be more false.
Exchanges are not on a par.[545] Some classes of exchanges increase,
rather than decrease the funds available for handling others. The
activity of the speculative markets, making loans fluid, enormously
increases the lending power of the banks for all purposes. Exchanges of
securities, especially, instead of lowering prices, make it easier for
prices to rise.[546] The years of extraordinary stock sales have always
been "bull" years. There have been big "bear" days,[547] but never big
bear years, in the record of New York Stock Exchange share sales. The
selling and reselling of speculative goods of securities, and of notes
and bills are especially important as making it easier for banks to
expand loans. To list all manner of items, as Professor Fisher
does,[548] "real estate, commodities, stocks, bonds, mortgages, private
notes, time bills of exchange, rented real estate, rented commodities,
hired workers," and count them all as "actual sales," all part of the
"goods"[549] which make up the "volume of trade," is to put the theory
utterly beyond the pale. Seasonal calls on an inelastic money supply for
actual cash to move crops and pay agricultural wages may make a real
difference in the value of money; scarcity of money of the right
denominations for retail trade may give an agio to such money,[550] but
the money and credit used by speculators, bill brokers, dealers in
foreign exchange, investment bankers, etc., increases, rather than
decreases, the funds available for ordinary industry and commerce.

I have made clear the distinction between the direct and indirect
financing of industry by banks. Great banks in Continental Europe often
_buy_ the stocks of new corporations, hold them permanently, put bank
officers on the boards of directors, and supervise closely the
operations of the companies. In America, while officers of
commercial[551] banks often are members of boards of directors of the
companies which borrow heavily from the banks, the practice is to make
short-time loans to such companies (in form, if not in fact), and to
lend on their securities, rather than to buy them. Our banks own
securities in enormous amount, but they are chiefly seasoned bonds,
rather than stocks of new or even well-proved, enterprises.

It is commonly supposed, too, that collateral loans are chiefly or
almost wholly made to speculators, who buy securities in the expectation
of holding them only till investors take them off their hands, and that
investors buy them, not with bank-credit derived from loans, but with
money or bank-credit which they accumulate by saving out of current
income. It is particularly true of the higher grade securities, which
savings banks and insurance companies can buy, that this is the case.
The bank-credit thus serves for temporary, rather than for permanent
financing, to the extent that this is true. I think, however, that the
extent to which bank-credit serves for permanently financing industry is
underrated. A good many investors have learned that the short-time
money-rates are, on the long time average, lower than the yield on
long-time securities.[552] They have learned, too, that high-yield
securities--securities high in yield as compared with the long-time
average of money-rates--can be obtained which can safely be carried on
margins of thirty, forty and fifty points, without danger that even such
catastrophes as the slump in security prices at the outbreak of the War
will wipe the margins out. The old distinction between investors and
speculators, the former those who buy for the yield, and the latter
those who buy for an anticipated rise in capital value, no longer
corresponds to the distinction between those who buy outright and those
who buy on a margin. The investor, buying a 6 or 7% preferred stock,
carrying it on a forty point margin, with money from his bank or broker
at 4 or 5%, is making 6 or 7% on his own forty dollars, and is making
the difference between 6 or 7% and 4 or 5% on the sixty dollars lent him
by his banker or broker. He substantially increases his yield thereby,
and his risks, if he chooses his stocks carefully, and scatters them
among a number of issues, are not great. For the banker or broker, such
a loan is perfectly satisfactory. The margin of security is wider than
that demanded on more speculative securities. Such a borrower will
receive consideration when more speculative loans are being called, or
not renewed. The investor of this type is, in effect, engaging in a form
of banking business. He is lending to the corporation funds which he has
borrowed from others; he has put up his own capital for the same purpose
that the bank uses its capital--to supply a margin of safety to those
who have taken his short-term promises to pay. Like the bank, too, he
converts rights to payments at a later date into rights to payment at an
earlier date. He is one of the links in the chain whereby the wealth of
low saleability employed in industry becomes distilled and refined till
it enters the money market. His profits come in the difference in the
yield as between more saleable and less saleable forms of rights.

The extent of this practice cannot be stated, so far as any data to
which the present writer has access are concerned. The writer has met
the practice in a good many cases. One brokerage house, with whose
operations the writer has considerable acquaintance, makes a practice of
advising its more conservative customers to do this. A good many
brokerage houses sell investment securities on the "instalment plan,"
which often means, in practice, that the initial margin put up by the
investor is his only payment, and that the security is gradually paid
for by letting the yield increase the margin. During the extremely easy
money of the present War period, occasional reference has been made in
the financial papers to the practice of buying even the highest grade
bonds on this basis--the yield of the bonds being very substantially
higher than the money-rates, giving a comfortable profit to those who
hold the bonds on a margin.

That the practice is not wider spread is due primarily, probably, to the
temperamental qualities required. The investor, proper, is commonly a
very conservative person, who has an unreasoning distrust of
speculation, and to whom the word, "margin," necessarily suggests
speculation. That buying a stock on a margin is the same sort of thing
as buying the equity in a mortgaged farm, does not occur to him. On the
other hand, the man who knows the market well enough to be willing to
deal on margins, frequently is not content with the slow process of
accumulation which comes from annual yields, and prefers to take larger
chances in speculation on capital values. But there is an intermediate
class, who buy investment securities, with narrow range of fluctuation
in capital values, for the sake of the yield, and who buy them on
margins, margins ample to enable them to sleep at night, and to neglect
the daily market reports. I think that there are indications that this
class is growing larger, and more important. Doubtless much more
important than individual "bankers" of this sort, however, is the
enormous number of houses dealing in securities, "wholesalers" and
"retailers," who find profit on their "wares" even while on their
"shelves," through the differential between the yield and the charge
made by commercial banks on collateral loans. A very large percentage of
collateral loans is made to institutions of this type. As this practice
becomes more important, the result must be to widen the money market, to
increase the proportion of banking capital that goes permanently into
financing industry, and to reduce the difference in yield between
short-time paper and long-time securities--in other words, to bring the
"money-rates" closer and closer to the long-time interest rates.

This would have seemed very strange and weird to Adam Smith. It means,
in effect, that the bulk of our banking credit is, directly or
indirectly, financing our industry rather than our commerce. Adam Smith
thought that a bank could safely lend to its customers only so much as
they would otherwise keep by them in the form of money. Perhaps this
notion, as growing out of some speculations regarding the general theory
of money, should not be taken as the statement of Smith's practical
attitude on the matter, but that practical attitude, as clearly
expressed in the paragraph[553] following, is that a bank can afford to
lend only for mercantile operations that are carried through in a very
moderate time, that the bank can afford to supply only the minor part of
the circulating capital, and no part of the fixed capital, of a
merchant, or manufacturer, no part of his forge and smelting house, etc.
Such loans lack the liquidity which the bank must insist upon. Only
those persons who have withdrawn from active business, and are content
with the income upon their capital, can afford to lend for such
purposes. The theory is sound, on the basis of the facts as Smith knew
them. But modern corporate organization and modern stock markets have
changed all that. Anything that is highly saleable can come into the
money market, and the modern corporation organization of business,
coupled with organized stock exchanges and a large and active body of
speculators, has made the forge and the smelting house as saleable as
the finished product.

This is not to accept Schumpeter's doctrine,[554] so far as the United
States are concerned, that it is primarily the bankers, the
manufacturers of bank-credit, who make the decisions that turn industry
from old to new lines. They do not, on the whole. In Continental Europe,
particularly Germany, they do to a much greater extent. Criticism has
been made of our American commercial bankers, as contrasted with German
bankers, that the former are parasites, who insist on sure things, and
refuse to take chances with other business men in the development of
industry. To the present writer, our banking system seems to be rather a
more developed system than that of Germany, in that the "division of
labor" has gone further with us, and risk-bearing and the manufacturing
of bank-credit have been more sharply differentiated. We have bankers
enough who are "risk-bearers." But they are, on the whole, "private
bankers," "investment bankers," and the like, who do not manufacture a
great deal of deposit credit, but rather borrow heavily from the
commercial banks, which are the great manufacturers of bank-credit.
Under our system, the decisions which divert industry from old to new
lines are more democratically made, by speculators and investors under
the leadership of private bankers, and sometimes without that
leadership. These constitute the important intermediary which transforms
stock exchange securities into the basis of bank-loans. The commercial
banker buys, in general, not the stocks, but the note of the private
banker, broker, speculator, or investor, with the stocks as collateral.
If investment bankers, speculators and investors decide to support old
ways of doing things, the banks lend on the securities of the old kinds
of businesses; if investment bankers, speculators and investors turn to
new things, the commercial banks follow suit. Commercial banks can and
do discourage certain types of enterprises by refusing loans with their
securities as collateral, or by requiring very heavy margins with such
loans, but even these may be developed, and are with us on a large scale
developed, on banking credit, advanced by the speculators and private
bankers who borrowed it from the commercial banks with other securities
as collateral. The commercial banks of the United States may to a very
considerable degree check dynamic tendencies, but in general, they do
not lead and direct them. Bank-credit, directed by others than
commercial bankers, does, however, enormously facilitate both the
starting of new enterprises and social readjustment to them.

How far can the total wealth of the country, agricultural as well as
industrial, be brought into the circle of the money market? The full
answer to the question would go far beyond the limits of this book. If
agriculture can be brought under the control of large corporations,
there is little reason for supposing that it, too, might not come in.
There are some peculiarities of agriculture, special dangers of drought
and flood, dangers of over-production and low prices, wide seasonal
fluctuations in conditions, which make it hard to standardize in any
case. But mining and even the manufacturing of such things as primary
steel products have wide variations in prosperity too. So long, however,
as agriculture remains a matter of families on a homestead--and for
social and political reasons, we may hope that this will always be the
case--it is difficult to bring it in. Bonds of agricultural associations
or of agricultural banks have had limited sale on the bourses of Europe.
The present writer, for example, found it impossible to find in four
great libraries in New York and Boston any quotation of the bonds of the
_Bayerische Landwirtschaftsbank_. Apparently, in general, such
securities have not high saleability. While this remains true,
agriculture may expect to remain under a handicap of higher interest
rates than industry and commerce.

If, however, all forms of wealth could be made equally saleable, we
should find interest rates rising for those loans and securities which
now have the highest saleability. They would lose the peculiarity which
now enables them to perform a service as bearer of options. Money-rates
and long-time rates of interest would tend to come together. Long-time
rates on formerly unsaleable loans would fall, and rates on highly
saleable loans would rise. The present low rates in the "money market"
grow out of _differential_ advantages.

We turn now to the third important aspect of the technique of banking,
namely, the matter of cash reserves. First I would point out that this
is merely a part of the more general problem of liquid assets. The
difference between cash and liquid paper is a matter of degree. There is
large possibility of substitution of the one for the other, as it
becomes more profitable to use one or the other. When money-rates are
low, it may well be worth while to carry large reserves; when
money-rates are higher, the gains to be made by substituting paper for
cash in the bank's assets are much greater. I have pointed out the use
which great European banks, notably the Austro-Hungarian Bank, make of
foreign bills of exchange as "reserve," selling bills when money is
"easy," and the yield on bills is small, buying bills when money is
"tight," and the yield on bills is large.[555] The great Joint Stock
Banks of England, the chief sources of bank-credit in the great banking
country of the world, also make use chiefly of deposits with the Bank of
England as their "reserves." Some cash they keep, but it is "till
money," rather than reserve. They carry, also, "secondary reserves" in
highly liquid paper, stock exchange loans and commercial bills. The
differences are differences in degree. The Bank of England does keep a
large reserve in cash (including notes of the Issue Department and gold
bullion) but it denies that it has any definite ratio in mind,[556] and
it protects its reserves, when they are low, not by ceasing to loan, but
by raising its discount-rate. The whole thing is highly flexible.

This is, in general, true throughout the world,[557] where banking is
highly developed. A country which has expanding business, based on
rising values of goods and rising capital values of anticipated incomes,
which in turn grow out of increasing business confidence, etc., and out
of the development of new enterprises which make readjustment necessary,
expands its bank-credit to meet the situation. Expanding bank-credits in
time grow so large that bankers feel larger cash reserves to be
desirable. Their reserves may be also, in some measure, drawn upon by
the growing retail trade and wage-payments, which call for more money
in circulation. They meet the situation by raising money-rates. This
tends to prevent the exportation of gold, and tends to encourage the
importation of gold, which finds its way into bank reserves. Banks may
even borrow directly from banks in other countries, to get the gold they
need, or to prevent the exportation of the gold they have. The higher
money-rates, also, tend to check marginal borrowing--the borrowing by
those who see only very small profits to be made by the use of the
bank-credit they borrow. If the rising values of goods, however, and the
profits to be made by effecting exchanges, speculative and other, are
large, the volume of bank-credit will, none the less, grow. If the tide
of rising business confidence is strong, the banks will be disposed to
accept securities and rights as collateral which they would distrust at
other times. A very big difference indeed may appear between bank
reserves in active times and bank reserves in dull times. The banks need
less reserves in proportion to deposits in active times, because the
very activity itself increases the liquidity, the saleability, of their
paper assets, and so makes actual cash less necessary. Even in this
country, the practice of counting deposits in other banks as reserve is
well developed. This is not only true of country banks, or banks outside
the reserve cities. It has been, in considerable degree, the practice of
the big trust companies in New York City. It is the practice of private
bankers connected with the stock exchanges, and the practice of brokers,
who are, for many purposes, bankers, especially those who allow their
customers to check on their accounts. Such houses may carry no cash at
all. One, with whose workings the writer is somewhat familiar, makes the
rule--"We pay by check and receive only checks." None the less, this
house allows its customers to check upon it, and checks drawn on it
perform all the functions of checks drawn on banks which keep a cash
reserve. Of course, our new Federal Reserve system is built, in part, on
the principle of collecting reserves in central reservoirs, and our
banks will doubtless increase the practice of counting deposits with
other banks as reserve.[558] They will feel the need for less reserves,
also, with a wider rediscount market.

_Within a given country_, I think that we may safely generalize the
doctrine that the causal relation between reserves and deposits is
exactly the reverse of that asserted by the quantity theory, within very
wide limits indeed. That is to say, increasing reserves are a _result_,
and not a _cause_, of increasing loans and deposits. We shall further
hold that the relation between them instead of being definite, is highly
flexible. This is not to assert that reserves may not increase without a
prior increase in loans and deposits. That has happened in the United
States during the present War. It does mean, however, that increasing
loans and deposits will pull gold into a country, and that increasing
reserves do not force increasing deposits and loans.[559] If a country's
business is growing, if that business is soundly based, so that
expectations are being met, obligations being paid out of the income
which arrives, on schedule time, to meet anticipations, there need be no
effective check to the amount of gold that will come into the country to
serve as reserves, within limits that are rarely reached. It is
miscalculation, maladjustment of costs and prices in particular
enterprises, failure of "interstitial adjustments," especially failure
of particular crucial links in the business chain, as the businesses
engaged in producing iron and steel, to respond to the needs of other
expanding businesses, that check movements of expansion in business, not
inadequacies of bank reserves.[560] As long as only wise plans are made,
as long as they meet no mishaps, as long as the carrying out of the new
plans does not itself so change the facts on which the calculations of
business men have been based as to cut under anticipated profits, so
long may business, within a given country, expand without danger from
inadequate reserves. Of course, if the whole world is simultaneously
expanding, the competition for gold in the international money markets
may be so severe that all may be hampered.

That reserves will increase, as expanding credit, due to increasing
business or rising prices, requires increased reserves, can hardly be
disputed, I think, if we look at a country of small size, or (what is
the same thing from the angle of economic analysis, so far as the
present problem is concerned) if we take a particular part of a country.
Seasonal movements of cash for reserves in this country have been
obviously determined by the movements of credit, rather than the
reverse. Expanding business at crop moving seasons, requiring advances
of credit by country banks, and an unusual drain on the cash resources
of the country banks, has regularly meant that the country banks draw
cash from the New York banks. When the need for such cash in the country
banks passes, when they can no longer employ it to advantage at home,
they send it back to New York. New York, to meet the emergency caused by
the withdrawal of cash, draws to a considerable extent on Europe for
gold. It is not as easy for New York to get gold quickly from Europe as
it is for France to get gold in an emergency from England. More time is
required. Inelasticity, too, in the forms of currency most needed for
small transactions, has made very real difficulties for us. But that,
within the country, the sections whose business and credit were
expanding take cash reserves from those sections where credit is less
urgently demanded, needs no debating. This is seasonal. But the same
thing is true in the long run. As business and bank-credit have
expanded, year by year, in Oklahoma, Oklahoma's cash reserves have
grown. Bank-credit in a country cannot go on indefinitely mounting, if
bankers are making unsound loans, if the values on which the loans rest
are based on vain imaginings, if anticipated profits are not realized.
But if a country have rich resources and intelligent entrepreneurs, with
sagacious bankers who can discriminate between sound and unsound
business, it may, within very wide limits indeed, expand its bank-credit
without check from inadequate reserves, as its business expands, and as
prices, particularly prices of lands and securities, rise.[561]

If the country in question be a very large country, however,--large in
the sense that its business and volume of bank-credit are very large,
and particularly in the sense that bankers' assets are of such character
that a large volume of reserves is desirable--restraints on the process
of expansion may come. Reserves will come in, but the resistance in
stiffer money-rates will be felt. Bankers in other countries will
compete with the bankers in the country in question for reserves. Rising
money-rates will put an end to many marginal exchanges. They will lessen
the saleability of many rights which might otherwise be available as
banking collateral. The extension of bank-credit will feel a drag. There
is large flexibility here. But, in a long run period of many years, the
volume of gold in the world will impose a maximum limit upon the
possibility of expansion of bank-credit in the world as a whole. This
limit is doubtless never reached. Within the limit, the variations in
the volume of the world's credit are primarily determined by the other
concrete factors we have been discussing. Proportionality between the
world's gold and the world's volume of credit does not at all obtain.
Under certain conditions, much higher proportions of reserves to
bank-credit will be found in a given country than at other times, and
the same will be true in the world at large.

I would refer again to the discussion by J. M. Keynes, quoted in Part
II.[562] Reserves have absorbed enormous quantities of gold, easily
obtained as a consequence of abundant gold production, in the past
fifteen years. Proportions of gold reserves to bank-credit have grown.
In the preceding period, when gold production went on less rapidly than
business development, percentages of reserves were lower. Most bankers
feel better with large reserves. When they can get gold, they prefer
gold to other substitutes. When they cannot easily get gold, they use
other substitutes, of the various kinds of paper, particularly, which
have been described. Gold differs from other things, in bankers' assets,
in degree, rather than in kind. Instead, therefore, of the law of the
proportionality of reserves to volume of bank-credit, I venture the
generalization[563] that, as gold production increases rapidly, the
tendency is for the proportion of gold reserves to volume of bank-credit
to rise; with diminished gold production, the tendency is for the
proportion of reserves to fall, assuming that the factors other than
volume of gold production which make for expansion of business maintain
themselves.

Increasing volume of gold tends to increase the volume of trade. But
there are other causes for the increase or decrease of trade as well.
These causes, working in harmony with rapidly expanding volume of gold,
lead to a very rapid growth of trade.[564] Working in the face of a drag
from less rapidly growing gold supply, they strain the possibilities of
bank-credit expansion. Various substitutes for gold in bank reserves are
employed. Substitutes in the form of other forms of credit are employed.
Barter is resorted to increasingly. Methods of employing other things
than gold in the retail trade of a country are resorted to.
"Gold-exchange" standards are devised. Countries "wait their turns " to
come on the gold standard. Coöperation, not only within countries, but
among countries, seeks to economize the scanty stock of the precious
metal. Very large slack is thus revealed. But the expansion of business
is checked, the volume of business confidence is reduced, the values of
future incomes in enterprises is lowered, production is checked, and
prices are reduced, (a) because the value of money rises; and (b)
because the values of goods and income-bearers is reduced. The exchange
side of production is hampered. Substitutes for gold, through increased
activities of bankers and other agents of exchange, are costly. Greater
tolls on values are taken by those who handle the mechanism of exchange.
It does make a difference whether or not the world's gold is abundant!
But the difference is not made solely, or even mainly, in the
price-level.[565]

The reserve function of money is essentially a _dynamic_ function. The
reserve function is merely a phase of the bearer of options
function.[566] It is the practice of quantity theorists to speak of
"normal" ratios between reserves and deposits (or reserves and demand
liabilities), and to speak of the "static" laws governing this relation.
This in true of Kemmerer, of Fisher, of A. P. Andrew, and, in general,
of contemporary quantity theorists. Kemmerer very explicitly puts it as
a matter of static theory, "If we divide the money of the country into
two parts; one, that used directly in daily cash transactions, and the
other, that kept in banks as reserves, it may be said that, _under
perfectly static conditions_ [italics mine], the proportion of the total
represented by each of these parts would be constant. Each banker would
find from experience what proportion of reserve to liabilities it was
advisable for him to maintain, and would order his business, as far as
possible, so that his reserve would neither exceed nor fall below that
most desirable proportion."[567] Kemmerer quotes the following passage
from A. P. Andrew: "In the long run, _as apart from cyclic
oscillations_, the quantity of bank-credit is governed by the quantity
of money."[568] Fisher's view we have considered at length in Part II.
It is essentially the same. He is working with the statics of the
problem of money and credit. These different writers differ greatly in
the extent to which they would insist on the validity of their static
tendency in real life. Professor Fisher, as we have seen, is exceedingly
uncompromising, holding tenaciously to his principle as subject only to
slight modification during transition periods. Professor Kemmerer, in
the chapter from which the quotation just given is taken, gives an
important realistic analysis of dynamic conditions and makes liberal
concessions to the view that the ratio is no constant in real life.[569]
Professor Taussig, whose view was summarized at length in chapter IX,
finds, in real life, so many exceptions to the doctrine of
proportionality of reserves and deposits that he virtually abandons that
doctrine. What I wish to insist on here, however, is that there are no
static laws _possible_ in this connection. The reserve function is a
dynamic function. The theory of reserves must rest in an analysis of
friction, of transitions, of dynamic uncertainty and dynamic change. It
is a part of the general theory of liquidity of bank assets, of
saleability of rights, and the like. If one can find a "normal" amount
of dynamic change, a "normal" amount of uncertainty, a norm for the
coming of technical inventions, a normal prospect of war, a normal rate
of gold production, a normal rate of growth for population, a normal
amount of Jew-baiting in Russia, with a norm for migration, and if one
can hold these norms, and a multitude of similar norms, in fixed
relation to one another, one might have justification for speaking of a
"normal ratio" of bank reserves to bank demand liabilities!

Apart from dynamic changes, from frictional elements which create
uncertainties, in general, apart from uncertainty and irregularity and
lack of "normality," there would be no occasion for bank reserves at
all! To the extent that static conditions are realized, bank cash
reserves may be, and _are_, dispensed with. It is well known that
England gets along with surprisingly little gold. The total stock in the
country has been smaller than the gold reserve of the Banque de France,
and much of the gold in England was in use among the people, since small
paper money (before the War) was not in use in England. The gold reserve
of the Bank of England has been usually only a fraction of that of the
Banque de France. Some years since, the distribution of gold as between
England and the United States, was, roughly, England six hundred million
dollars, the United States, one billion, six hundred million. A larger
proportion of gold was in reserves in the United States than in England.
Yet England was doing the banking business of the world, while we had
trouble in doing our own! The Bank of England carries virtually the only
reserve in the country. The Joint Stock Banks, with demand liabilities
vastly in excess of the demand liabilities of the Bank of England, carry
only "till money" in cash or Bank of England notes, and for the rest,
carry as their "reserve" their deposit credits with the Bank. A great
deal of criticism, from Bagehot down (to go no further back) has been
directed at the "inadequacy" of English banking reserves, and many dire
predictions have been made as to the dangers that impended unless the
reserves were increased. We shall probably hear less of this after the
War! The Bank of England still stands! It has never failed to pay out
gold over its counters, even though it has, with the aid of the
government, doubtless restricted and controlled foreign shipments of
gold. But it has met the unprecedented emergency better than any other
bank in Europe, and to-day (Sept. 1916) is in exceedingly good shape.
Sterling exchange at New York seems "pegged" at the "lower gold point,"
and apprehensions regarding the stability of the English financial
system seem definitely allayed. It is aside from our present purpose to
discuss war time conditions. I am rather interested in analyzing the
features of the English money market which have made it possible, in the
period preceding the War, for English bankers to get on with so little
gold. As will appear, it is because English business and financial
affairs have been more nearly "static," have come nearer to realizing
the assumptions of static economic theory, than is true of any other
country on earth.

The very fact, for one thing, that England is the great _international_
banker has meant a scattering of risks. Acute panics do not come in all
countries on the same date. Bad business in one country may be offset by
good business in another; drains of gold to one country may be met with
gold flowing in from others. The same considerations which tend to
stabilize the railroad business, as compared with, say, cotton-growing,
apply to the international banker as compared with the banks of a single
country or section. But further, the London market has developed
coöperating agencies for smoothing out friction and eliminating
uncertainties to a degree unknown anywhere else. An anonymous writer in
_The Americas_ for April, 1916,[570] has given an exceedingly
interesting account of this organization of the London market,--the
product of the development of generations. Let us enumerate some of the
points: There is nowhere in the world so much expert judgment in the
grading and evaluating of hundreds of commodities from all parts of the
world. There is, coupled with this, a worldwide reputation for the
experts of absolute integrity, so that producers in remote countries
regularly ship ("consign") to London cargoes without definite
arrangements, knowing that there are in London organized facilities by
which the commodities are warehoused, expertly and fairly judged, and
either sold at once or else made the basis of a collateral loan against
which they can draw immediately. The institutions which make this
possible are (a) the system of warehousing, with its certificates or
warrants which give absolute title to the goods, and which are easily
negotiable; (b) the organized arrangements in connection with the
warehouses by which commodities are received and either graded as they
are, or separated and mixed with others to form standard blends readily
marketable--this with rigid integrity and expertness which the whole
world trusts; (c) a speculative community which has unlimited banking
credit, ready to buy at a concession in price virtually any
commodity--honey in the comb, sealing wax, pianos, farm machinery, what
not; (d) the organized markets or periodical auctions which speculation
and final purchase together support; (e) the banks, which, relying on
the standardization of the commodities and the readiness of the
speculative community, can without hesitation lend the money on which
the distant shipper is relying to conduct his business.

What comes to London is fluid. Everything comes to London! The
multiplicity of items dealt in gives stability to that business which
deals with all--the banking business. The London Stock Exchange is no
provincial affair, easily demoralized by an adverse rate decision!
Securities of every country on earth are listed there, and speculated
in. It must be a world catastrophe which really demoralizes the London
stock market!

It will doubtless seem strange to many to say that New York cannot
displace London as the centre of world finance, that the dollar cannot
displace the pound sterling in financing international trade, because
New Yorkers do not speculate enough! They do speculate enormously, but
not in many things. A restricted list of stock exchange
securities--almost wholly American; cotton--in which New York is the
world centre; coffee, in which New York has the largest volume of
speculative futures, though yielding precedence, ordinarily, to Havre,
Hamburg and Santos[571] in spot transactions. There is extensive sugar
speculation at the New York Coffee Exchange, which has, indeed, recently
changed its name to indicate the fact. There is a produce exchange in
New York, but it is a very small affair as compared with the Chicago
Board of Trade, and its operations and scope are infinitesimal when
compared with the produce speculation in London. Of course, there is a
vast deal of _unorganized_ speculation in many things in New York, as in
business everywhere, particularly in America. But, while the pecuniary
magnitudes of organized speculation in New York are very great, the
range of items dealt in is restricted. New York banks cannot possibly
get such a variety of collateral, based on standardized and readily
marketable goods and securities, as can London. New York, consequently,
cannot finance international trade, save as an auxiliary to London--and
New York banks must have vastly more gold in their vaults than London
bankers need! As goods and securities become _more_ marketable,
gold--whose services are needed because of its _superior_
marketability--becomes _less_ necessary.

The whole story of London's organization would be a long one. London
financial institutions have a degree of expertness, growing out of
specialization, in large part, which makes all manner of paper fluid in
the London money market which would lack fluidity in New York. The
Acceptance Houses are a sort of international Bradstreet and Dun. They
know intimately the standing and business of houses all over the world.
They do not give out their information, but they do put their stamp on
the paper of business houses, thus standardizing it, lending, not money,
but "pure credit," while the other banks, relieved of the necessity of
investigating the paper, can buy it as a miller might buy No. 1 wheat.
There is the extraordinary extension of insurance, so that virtually any
kind of risk may be shifted to those well able to bear it. All this
makes for liquidity, for "static" conditions in the money market, and
dispenses with the need for gold.

As we approach static conditions, we need less and less gold reserve
behind bank demand liabilities. _The static law of bank reserves is that
none are needed!_ I think we have here the real reason why writers who
have sought to give us the law for a "normal" ratio have given us such
vague phrases as "shown by experience to be necessary," and the like.
When irregularity of income and outgo in a bank's business, non-liquid
assets, business cycles, uncertainties, legislative changes affecting
business, crop failures, changes in demand, new inventions, wars, are
abstracted from, no reason can be given why a banker should keep any
reserve at all! But these things are dynamic things. And it is
characteristic of irregularities that they are irregular. To get a
"normal" ratio out of them is not easy.

On the static assumptions, an "ideal credit economy" is perfectly
possible. If everything that needs to be marketed is perfectly
marketable, if the stream of business flows regularly and without
friction in the same channels, if all contingencies are foreseen and
dated in advance, a bank needs no cash reserve. All payments can be made
by bank-credit. Banks bookkeeping becomes merely a refinement of barter,
with _money_ remaining as a measure of values, a unit for reckoning, but
not being used as a medium of exchange, or as a bearer of options, or in
reserves. The measure of values function is the great static function of
money.

To the extent that static assumptions are not realized, we need money in
bank reserves. This extent is a thing that varies from time to time, and
from place to place. It is not the same for a given place from time to
time, nor is it the same at all places at a given time. It is not the
same for the whole world from time to time.

Since friction, preventing the free marketing of goods and securities
and services, exists, since there are dynamic changes which require
readjustments through exchanges, we need the work of the banker and he
needs cash. But there are other things than money which make for the
"statification" of the market. The speculator does it. And the other
agencies of the sort represented in the London market do it. They are
substitutes for gold. Gold has no monopoly. The services performed by
gold can be performed in many other ways, and by many other agencies.
There is enormous flexibility in the matter.




PART IV. THE RECONCILIATION OF STATICS AND DYNAMICS




CHAPTER XXV

THE RECONCILIATION OF STATICS AND DYNAMICS


In the foregoing discussion of the value of money it has appeared that
the value of money is not an isolated problem! Not only have we found it
necessary to consider it as part of the general theory of value, but it
has been advisable to bring it into relation with a large number of the
special theorems of economics, including the law of supply and demand,
cost of production, the capitalization theory, the doctrine of
appreciation and interest, the theory of international gold movements,
Gresham's Law, the theory of elastic bank-credit, and the general theory
of prosperity. The book has thus become a book on general economic
theory, viewed from the standpoint of the theory of money. It has been
as contributing to the problem of the value of money that these other
doctrines have been discussed, but I trust that they, too, have gained
something of clarification from being considered in this relation, and
that the emphasis on the rôle of money in general economic theory has
helped in bringing the various elements in our current theory into a
closer-knit interdependence.

The present chapter seeks to carry the conclusions so far reached toward
a further unification of economic doctrine, by finding for certain
contrasts, like that between statics and dynamics, a higher synthesis,
so that it may be possible for students of dynamics and students of
statics to speak a common language, to use common measures, to find that
their phenomena are not, after all, of essentially different nature, and
to come to agreement as to the relative importance of "static" and
"dynamic" tendencies. It will appear that the theory of money and
exchange plays an important rôle in effecting that higher synthesis, and
is itself clarified by it.

The "theory of goods vs. the theory of prosperity," "statics vs.
dynamics," "normal vs. transitional tendencies," "long run vs. short
run" laws, "market vs. normal price," "abstract theory vs. concrete
description," "historical or evolutionary study vs. cross-section
analysis," "temporal vs. logical priority," "causation as a temporal
sequence vs. causation as timeless logical relationships"--these, and
similar contrasts have appeared frequently in the history of social
thought, and have been especially refined and elaborated in the history
of economics. We have even compounding of the notions into more
complicated distinctions, as by Seligman,[572] in his two statements of
the law of costs: in the short run, normal price tends to be the maximum
cost of production; in the long run, normal price tends to be minimum
cost of production. Seligman has illustrated his notion by an adaptation
of the familiar figure of the sea-level and the waves: for short-run
purposes, we may contrast the surface waves, the market prices, with the
sea-level, the normal price; for longer run purposes we may see the
level of the sea itself changing, under the influence of the tide, and
may have a dynamic normal, which is still to be distinguished from the
fluctuations due to the play of winds on the surface.

We have further an increasing recognition of the up and down play of
forces accelerating and retarding the processes of industry and trade.
For earlier writers, panics and crises were anomalies; since Mill's
_Principles of Economics_, to go back no further, we have had increasing
recognition of such occurrences as more or less periodic and
inevitable, bound up in the very nature of economic life itself, and of
late there has been a fairly general acceptance of the notion of the
business cycle, of an alternating rhythm of prosperity and depression.
The explanation of this alternation has been attempted by numerous
theories, one of which, that of Joseph Schumpeter,[573] rests the whole
case definitely in the distinction between static and dynamic
tendencies, and in the conflict between the opposing sets of forces
which statics and dynamics undertake to describe.

We are told by the orthodox economist that war is wasteful, destroying
laborers and goods, and lessening the wealth and productive power of
society. We are told that it diverts labor from productive employments,
that it turns huge masses of capital and labor to the production of
goods which men cannot enjoy, that it burdens the people with taxes,
etc. Static theory can see nothing but evil in war, from the standpoint
of minimizing human sacrifices, and maximizing human enjoyments. None
the less we see many war periods--notably that of our Spanish-American
War, and the present World War, so far as the United States are
concerned--periods of marked prosperity, growing out of the new
expenditures which war itself involves. Mules and other farm products
rose in price with the Spanish-American War, as the Federal Government
bought them for the army; various factories concerned particularly with
war munitions increased their activity, the gains of factory owners and
farmers led them to increase their purchases, wages rose, and rose in
part because part of the labor force was in the army. The Civil War did
spell demoralization and economic ruin for the South, but for the North
it gave a great dynamic impetus to trade, transportation and
industry--an impetus, strangely enough, that was so great that the new
industries and enterprises which had grown up were able to absorb with
little shock the million men set free from the Northern armies when the
great struggle was over.[574]

For static theory, scarcity is an evil. A general overproduction is
impossible. For the practical business man, confronted with the
momentous problem of marketing his output, overproduction is a vital
reality, and there are few times indeed when much more could not be
produced if only a satisfactory market could be found for it. Static
theory would see the whole explanation of this in maladjustment, too
much of some things being produced, too little of others. This simple
statement does explain much of the phenomenon, but it is far from
telling the whole story, and even if it were a complete explanation, it
would by no means dispose of the reality of overproduction as a constant
menace, even when not a dire reality, facing almost every business man.
Static theory at best tells what a completed adjustment would be; it
does not touch the problem of how adjustment is brought about, and
maladjustment overcome. Yet just that problem is the vital concern of
the business man.

For static theory, high or low prices are matters of no concern. And
abundance or scarcity of money and credit make no real difference in the
economic process. Abundant money and credit exhaust themselves in
raising prices, and the rest of economic life goes on unchanged. This
doctrine of the quantity theory is, as I have undertaken to show in Part
II, bad even as a matter of static theory. But it is only as a matter of
static theory that it is even thinkable.

The economic theory of the 19th Century, following the lead of Adam
Smith and Ricardo, has been accustomed to dismiss as utter folly the
notions of the Mercantilists as to the balance of trade, and the
importance of an inflow of gold, and has conclusively proved that
protective tariffs tend to divert the labor, capital and land of a
country from those lines of production they are best adapted to to lines
for which they are less well suited. Critics have pointed out, as in the
"infant industries" argument, that we cannot treat the labor capacity
and technical knowledge of a country as constants, that the temporary
encouragement of one line of industry by a tariff may so modify the data
of the situation that the country may in time become better adapted to
the protected industry than to other lines. And I think that we may well
go further, and make substantial concessions to the doctrines of the
Mercantilists as they themselves stated them, seeing in a favorable
balance of trade, and in expanding exports and diminishing imports
sources of impetus which are not subsequently neutralized by the static
process of equilibration. I do not conclude from this that protective
tariffs are commendable, any more than I conclude that war is
commendable. Both may give dynamic impetus, and lead to economic
development. Both may lead to political corruption, to iniquities in the
distribution of wealth, to waste and suffering of various kinds, in
which honest and patriotic men suffer, and cunning and unworthy men
gain. The point here is simply that static theory does not tell the
whole story regarding either tariffs or wars. It may well be true--I
think it is true--that static theory offers the more important
principles for judging the results of wars and tariffs.[575] It is the
central problem which I have set myself at the outset of this discussion
to find a way to bring static and dynamic considerations _under a common
measure_, to reduce them to homogeneity so that comparisons may be
instituted, and so that the student of statics and the student of
dynamics need not talk merely at cross-purposes. But we do not achieve
this result by ignoring considerations in either sphere.

Bastiat, with a fine show of logic, has sought to rule out of court the
doctrines that extravagance and tariffs, etc., are sources of prosperity
by his emphasis on the "Unseen," as opposed to the "Seen." The
prosperity growing out of the extravagant expenditures of one brother is
open to all eyes. The consequences of the savings of the frugal brother
men do not see so easily, and do not attribute to his frugality.
Doubtless Bastiat is right in his main theses. But one point needs
emphasis: that which is "Seen" stirs the imagination of men. And
imagination energizes human activity. The motivation of economic life is
a psychological matter.

And so at a host of points the contrast may be drawn, in one or another
form. The pure, abstract, static theory gives one conclusion; the other
approach suggests one different.[576]

How is it possible to give proper weight to considerations drawn from
such divergent spheres of thought? Indeed, how shall we weigh the
dynamic considerations at all? Static theory presents itself in
quasi-mathematical form. At times, it parades itself in equations, and
it readily enough, without arousing a feeling of incongruity, expresses
itself in mathematical curves, with ordinates and abscissæ. One static
tendency finds itself in marginal equilibrium with another, and the
margin is expressed in quantitative units, commonly sums of money.
Static doctrine does, indeed, lay claim to precision and exactness, and
static tendencies may be weighed against one another. But how shall one
undertake to give quantitative measure to such a thing as the
educational influence of a tariff on silk manufacture? How measure the
dynamic impetus of a new chain of banks on the industry and trade of the
region affected? How gauge the importance of a new advertising scheme,
or a new invention? Dynamic considerations are commonly presented in
vaguer, looser form than static theories. Usually we have merely a
statement of a qualitative tendency, without effort to make the
importance of the tendency quantitative. Indeed, I think it safe to say
that one chief difference between statics and dynamics is that those
tendencies which can be most easily formulated have been recognized by
statics, while those which are less understood, and less precisely
formulated, are left to dynamics! A big part of the difference is
methodological, rather than inherent in the nature of the phenomena
themselves.

I think that it needs little argument to show that all the contrasts
listed at the beginning of this chapter do not run on all fours.
Compare, let us say, the contrast between "statics and dynamics" with
that between "historical and cross-section" study. Concrete, realistic
history is not dynamic theory. A realistic description of society viewed
at a given short period of time is not static theory. Both statics and
dynamics are _abstract_. _Laws_ are not the same thing as description
and narration. The assertions of both statics and dynamics are commonly
made on the assumption, "_cæteris paribus_." A new bank will stimulate
business in a western town if bank-robberies do not come into fashion! A
tariff on wool will tend to educate the farmers in sheep-raising if the
habit of relying on governmental assistance does not develop, and make
them more, rather than less, inert,--or sharpen their political rather
than their economic acumen. Concrete history need not always verify
dynamic laws![577] It is, above all, important to insist that the
distinction between statics and dynamics is not the same as the
distinction between theory and description, or between the abstract and
the concrete. Evolutionary study may result either in concrete history,
or generalized laws; cross-section study may be either concrete
description or abstract formulæ concerning forces in equilibrium. And
there may be varying degrees of abstractness in both cases.

The contrast between long-run and short-run tendencies is not
necessarily the same as that between statics and dynamics. This former
distinction does recognize one factor which is sometimes classed as
"dynamic," namely, "friction."--"Friction," by the way, is a blanket
term which covers a multitude of sins of imperfect analysis and lazy
thinking! It is far from a simple, unitary thing. Sometimes it seems to
mean the action of the whole social order, other than the economic
values!--But dynamic, as used by the two writers who have used the term
most precisely, J. B. Clark[578] and J. Schumpeter,[579] is reserved for
those factors in economic life which make for constructive _change_.
Neither writer would call mere habit and inertia, which make
readjustments slow, or the necessities of physical nature, which retard
readjustment, by the name, "dynamic." It may be noted, in passing, that
both writers limit the term quite strictly to changes _in_ economic life
growing _out of_[580] economic causes. Schumpeter narrows the dynamic
factors to one, namely, _enterprise_, while Clark gives five general
classes of dynamic factors, all of which are primarily economic in
character. Neither extends his study to cover forces which are not
primarily economic in character, but which none the less lead to
economic changes.

Again, the "theory of prosperity" is not identical with "economic
dynamics," though the two in large measure overlap. For one thing, while
some writers, as Schumpeter, find the business cycle to be a necessary
consequence of dynamic changes, and would maintain that no business
cycle, no up and down of tempo in production, no panics or crises, are
necessary if changed methods of industry, etc., did not come in, not all
writers would so explain the business cycle. Some writers would find the
explanation in the inherent instability of a money and credit economy,
some in the inherent weakness of a capitalistic system, quite apart from
necessary dynamic change. Irving Fisher makes no use of changed methods
of production in his explanation of business cycles, though he does
mention invention as one possible cause of a disturbance in normal
equilibrium.[581] But further, dynamics is largely concerned with
problems, like invention, changes in the economic habits of a people,
methods of organizing industry, etc., which, while they may well bear on
the problems of prosperity and depression, yet have interest for their
own sake, and would be studied if there were no business cycles.
Further, the notion of statics, the other term in the static-dynamic
contrast, is not identical with the "theory of wealth," or "theory of
goods," or "theory of the wealth of nations" which such a writer as
Veblen[582] would put in contrast with his "theory of prosperity." There
is a normative, or practical, and polemical coloring in the body of
doctrine growing out of Adam Smith, which Veblen would term, the "theory
of the wealth of nations," which is lacking in the more colorless
"statics" of to-day.

I do not find any of the contrasts thus far discussed quite
satisfactory. I have been using the terms, statics and dynamics, as
general terms to cover all these contrasts. I shall try to formulate a
general contrast which includes most of the ideas passed in review, from
a somewhat different angle, and then try to show that the contrast,
while useful, is not absolute, and that it is possible to measure
considerations drawn from one viewpoint in terms of considerations drawn
from the other.

Let us take as our starting point the notion of a cross-section picture
of society. I have set forth this notion in ch. 13 of my _Social Value_,
and have elaborated it in the discussion of von Mises' theory in the
chapter on "Marginal Utility" in this book. A cross-section picture may
be made more or less concrete and descriptive, or abstract and
analytical. If one looks at the picture of society in cross-section as
given by Giddings in his _Principles of Sociology_ (Bk. II, chapters on
"The Social Population," "The Social Mind," "The Social Composition,"
and "The Social Constitution"), one finds a picture in which
organization and system are made clear, but in which vivid description
of concrete social facts is the primary concern. The account given is
largely qualitative rather than quantitative. It is a picture of flesh
and blood, as well as an account of functioning. It is, perhaps, not
easy to realize that Giddings is doing the same general sort of thing
that the pure economic theorist is doing, with his picture of a static
equilibrium of economic values. But what economic theory is concerned
with is, after all, to be found in Giddings' scheme. The pure theorist
takes for granted the physiographic environment, whose influence
Giddings takes into account. The theorist abstracts from biological and
racial factors. He assumes a social population, a social order, a
political system. He has not taken into his purview the social mind as a
whole, in his static theory. Rather, he has been concerned with only one
part of the social mind, namely, the economic values. Economic values,
and the objects of economic value, have been the data of the static
theorist. Given scales of economic value, such that for one quantity of
goods of a given kind, a given value per unit will obtain, given all of
these value-scales, and given the quantities of goods and services whose
values are in question, and static theory will furnish an equilibrium
picture, in which the price relations of different kinds of goods are
made clear, and their values are measured. The value-scales, and the
absolute magnitudes of value at different points on the scale, are
assumed, are data. Further, in order that the notions may be made
mathematically precise, a unit of value is needed, and this is commonly
the value of the money-unit, which is assumed to be constant. The
picture then becomes systematic. There is a system of values, expressed
in prices, which is stable, so long as the data do not change. It is
mechanically conceived, and illustrated by various mechanical symbols,
as balls in a bowl, or connecting reservoirs, or, best of all, by
intersecting curves. It is an abstraction from the living, pulsing,
organic whole of the social mind--the inter-mental life of men in
society. It squeezes much of the life out of the phenomena it
describes. It makes them exact, only by making them mechanical. It thus
becomes exact by becoming, in considerable degree, superficial and
abstract.[583] This is not to condemn static theory. Static theory has
proved its usefulness by solving too many problems for such a statement
of its limitations to involve a condemnation. But the statement of its
limitations will aid us in seeing its relation to that vaguer body of
doctrine which we call dynamics, or the theory of prosperity, etc.

Now this means that static theory is not _value_ theory. It assumes a
theory of value. It assumes the value-scales as data. It assumes the
value of money as a datum. Static theories of supply and demand, cost of
production, capitalization, etc., assume the value of money, as has been
shown in Part I, and static theory, resting in the notion of
accomplished transition, normal equilibrium, abstracting from the
difficulties of readjustment, abstracting from friction, etc., misses
the whole point as to the functions of money, as shown in Part II.
Static theory proceeds by assuming a change in one of the elements of
its situation, say one of the value-scales, and then tells what the new
equilibrium will be after readjustment takes place, assuming that other
value-scales remain constant, and that quantities of the objects of
value do not change. Or, it assumes a change in the quantity of one of
the objects of value, and then predicts the new equilibrium. The new
equilibrium will often involve changed values and prices all around, and
will often involve altered quantities of other objects of value. But the
initial change comes from an alteration _from outside_ the system in one
or more of the data of the system.[584]

Now dynamics, theory of prosperity, etc., are concerned with the causes
of changes in the data with which statics works, in large measure. Among
the problems with which statics has not adequately dealt, and in large
measure cannot deal, are (1) the nature of value itself, and the laws
governing changes in the value-scales; (2) the problems of readjustment,
including the problems of money, credit and exchange; (3) the psychology
of invention, of enterprise, and the like. (4) The reactions of economic
values and economic organization on the non-economic phases of social
life. (5) The reaction of the non-economic factors, as law, morals, art,
religion, etc., on economic life. (6) The problem of prosperity and
depression. I say that statics has not dealt adequately with these
problems. Statics in its present narrow form cannot deal with them. But
in considerable degree, I am convinced, statics can be made to deal more
adequately with them, if its scope be broadened, and its limitations be
made less rigid. Schematically, at least, the central ideas of statics
can be applied to a large part of these problems. I may add that my list
of six classes of problems with which statics has not adequately dealt
is not meant as a system of categories. The list is incomplete, and the
classes are not mutually exclusive. Rather, they overlap in large
measure. In a large way, it might be said that statics is concerned with
the laws of the equilibration of values, and that dynamics, theory of
prosperity, etc., are concerned with the nature and causes of variations
in the values themselves. The contrast may be put, in general, as the
contrast between the _theory of value_, and the _theory of price_,
statics being price-theory, and dynamics being value-theory. But this is
a thesis which calls for much elaboration and qualification before its
significance is made clear, to say nothing of its justification being
established.

       *       *       *       *       *

We may approach the problem of bringing the two terms of the contrast
together from either of two angles: (1) we may show that dynamic factors
tend, in large degree, to submit themselves to measurement in terms of
money-prices, which obey the laws of static marginal equilibrium. (2) We
may show that all static prices presuppose values whose explanation is
in terms of the same phenomena with which dynamics, the theory of
prosperity, etc., have busied themselves, namely, considerations drawn
from the study of social psychology, including the psychology of
suggestion, imitation, mob-mind, the functional organization of minds
into a social mind, social beliefs, social values of other than economic
nature, and social institutions. (1) The evidence on the first point is
already in considerable measure worked out, particularly by Veblen, in
his _Theory of Business Enterprise_, and in his other writings on the
nature of capital, etc. Something more in this direction I have done in
my _Social Value_, and other writers have elaborated the notion. (2) The
case for the second contention has been made in detail in my _Social
Value_, and in what follows I shall rely chiefly on the discussion
presented there, and in the chapter on "Value" in this book.

I take up first the thesis that dynamic factors may come under the
static measure. Veblen has made much of the contention that modern
"capital" is not, as Smith thought, and as orthodox economists in
general have contended, a matter of physical accumulations of goods. The
volume of business capital is a pecuniary concept, and may wax and wane
with little variation in the physical stocks. "Under modern conditions
the magnitude of the business capital and its mutations from day to day
are in great measure a question of folk psychology rather than of
material fact." (_Theory of Business Enterprise_, p. 149.) And in large
measure Veblen's work is given to showing how factors of legal and
social psychological nature get a money-measure. The actual capital of a
business enterprise does not rest chiefly on the physical equipment,
stocks of raw materials, etc., etc., which it possesses. To be added is
"good will," and this includes (p. 139) established customary business
relations, reputation for fair dealing, franchises, privileges,
trade-marks, brands, patent rights, copyrights, exclusive use of
processes guarded by law or secrecy, exclusive control of particular
sources of materials, etc. Veblen contrasts things of this nature
sharply with the concrete equipment, saying that the former are
serviceable only to the owners, while the latter are serviceable to the
community at large as well. The physical, tangible, and ethically
commendable character of the physical equipment is everywhere stressed,
while the pathological, anomolous, and sinister character of the less
tangible and more recent "capital items" is always set before us--all
the more effectively because Veblen maintains a satirical attitude of
moral indifference, and presents the case with Olympian aloofness. I am
not here concerned with the social welfare aspect of the matter, though
I shall later speak of that. My present purpose is to make clear two
points in Veblen's doctrine: (1) that he does bring these intangible
things, which are the variables involved in his theory of prosperity,
under the price measure; and (2) that he considers these prices as
anomalies from the standpoint of the general laws governing the values
and prices of concrete goods. To this last point I shall later take
sharp exception. For the present, I wish to develop further the extent
to which such factors may be brought under the general static measure.

The feature of static theory which Veblen chiefly employs in giving a
money-measure to his "intangible capital" is the capitalization
theory.[585] The capital magnitude of the items of good will previously
mentioned is a capitalization of the _income_ which they are expected to
bring in. And it may be said that a large part of Veblen's doctrine of
the causes of the ups and downs of business rests on the complaint that
this capitalization process is not rationally carried through--that
incomes are overestimated, and that business men are tenacious of
capital magnitudes once built up, and refuse to mark them down properly
when the facts in the situation have changed. His theory of prosperity
thus rests on non-rational enthusiasm on the one hand, and a certain
kind of "friction" on the other hand, and apparently the difficulties in
the situation as he sees it would largely disappear if these two
elements could be rationalized, and the static theory work more
perfectly. The elements involved in the capitalization theory, as shown
in the chapter on that topic, are three: the anticipated income, the
prevailing rate of discount, and the capital value, the last named being
the child of the first two. The capital magnitude is a shadow, where the
income is the substance. Veblen seems to find the trouble arising in
that the capital magnitude takes on a substantial character, and refuses
to play the passive rôle of shadow. It is interesting, in passing, to
compare this theory of Veblen's with the theory of crises developed by
Irving Fisher, from the standpoint of a body of doctrine which is purely
static, and which Veblen has criticised as "taxonomic" in a high degree.
For Fisher[586] the trouble arises from friction in connection with
another element in the capitalization problem, namely, the interest
rate. Business men think that "a dollar's a dollar," and refuse
to let the interest rate be marked up in accordance with the
doctrine of "appreciation and interest." This, likewise, leads to
overcapitalization, leaves the passive shadow too big. I must confess
that it seems to me that one theory is about as "taxonomic" as the
other--that both rest on pointing out divergences from a static,
"taxonomic" norm. In general, Veblen's work in this field consists in
assimilating the "intangible" capital to the class of land, and other
long time concrete income-bearers, but that is after all classification,
systematization, "taxonomy." In saying all this, I am as far as possible
from questioning the value of Veblen's work. Rather I rate it as of
extreme significance. "Taxonomy" does not appear to me so dreadful a
word as it does to Veblen. I should rather say that some taxonomy is
good and some is bad, depending on whether or not it leads to fruitful
generalizations, and deeper insights.

It is, as I have said, chiefly the capitalization theory which Veblen
applies to these newly important intangible "capital-items." The
phenomena of the stock-market, where such things are most actively
bought and sold, and where they appear as differential portions of the
capital values of securities, doubtless first called attention to
them--though the item of "good will" as a business asset, for which a
money-price is paid when businesses change hands, is doubtless older and
wider than modern corporation finance. The capitalization theory applies
to them most readily and obviously, as compared with other elements in
the static theory of prices.

But as we become better used to the large rôle which these phenomena
play,--not that the phenomena are new, but that their present importance
is new, and hence our serious study of them is new--we are increasingly
able to see that other elements of static theory also apply. _Static
theory applies increasingly as understanding increases!_ The vaguely
discerned, the novel, the imperfectly analyzed, can be stated only in
qualitative terms. As things are better understood, the mind seeks
system, taxonomy, quantitative measurement. Business men to-day are well
accustomed to applying _cost_ concepts to many of these intangible
magnitudes. Advertising, for example, is being worked out with
increasing exactness, and business men are increasingly applying
accounting processes to the determination of the question of _how much_
advertising "pays." Well-known brands are capital items. Well-known
brands have cost money! Business men contemplating the marketing problem
may well balance the cost of creating a new brand against the cost of
buying an old one, and may balance the cost of creating a new brand
against the profit to be made from allowing an old one to deteriorate,
through cheapening its process of manufacture. Trade-connections are
capital items. They are also items which have been created by patient
thought and labor and expense. Franchises, since the days when the
public awoke to their value, have cost money to the corporations that
possess them, and figure in corporate bookkeeping often. Even in the old
days, they often had a cost, which commonly stayed _out_ of the
corporations' books, at least in that form,--bribes, entertainments to
legislators and members of councils, and so on. In Part II of this
book,[587] I have discussed "selling costs" as contrasted with costs of
production in the narrow sense, and have pointed out how high a
proportion of total costs these selling costs are. I have also indicated
how many of these costs tend to be "capitalized." These selling costs
are static measures of the elements of "friction" which interfere with
the smooth working of static laws! An extension of statics, however,
can in considerable degree take account of them. It is, of course, far
from true that cost doctrine will explain all of these intangible
capital magnitudes. But this is likewise true of the prices of many
tangible items. Cost doctrine does not hold universal sway even in the
confines of the strictest static theory.

I have said that dynamic factors tend to come under the rules of static
taxonomy to the extent that they become more accurately understood. The
understanding here referred to is not merely on the part of the
scientific theorist! The subject-matter of economic science is itself
psychological. It includes the psychology of the business man, as well
as the psychology of purchasers and laborers, and the general field of
social-mental life that bears on economic processes. It includes the
theories of the business men, as well as their aspirations and
"motives." It includes their methods of computation, and the accuracy or
inaccuracy of their prognostications. It has been pointed out recently
that at the current price of copper (22c. per pound in Jan. 1916) the
prices of copper stocks are very much lower than they were when copper
reached the same price some years ago. Calumet and Hecla stands some two
or three hundred points lower than it did then, and the same percentage
difference is manifest in the case of many other stocks. But the
explanation which the broker and market writer offer is that people have
awakened to the fact that mining stocks are stocks with wasting assets,
that the incomes from copper stocks cannot, therefore, be capitalized on
so high a basis as similar incomes from other securities; that people
to-day realize this fact as they did not some years ago; that the
earlier capital-prices of copper stocks were vastly exaggerated on the
basis of a careful estimate of probable total future income, etc. Japan,
little used to the great prosperity growing out of sudden great
increases of special kinds of business, found herself in such an orgy
of war stock speculation that it was necessary to close the stock
exchange in 1915. The United States, better familiar with the phenomena
of boom and depression, seasoned by many experiences of similar nature,
have found that on the whole,--at least in the opinion of many competent
judges in January of 1916,--war stock speculation has been kept in
reasonable bounds, thanks in large part to the conservatism and caution
of bankers and brokers, and that the general economic situation is in
fairly stable equilibrium, with most of the probable sources of disaster
foreseen and "discounted." To "discount" is to make "static"![588]
Whatever the business man can reduce to bookkeeping terms, and whatever
he can measure by money in the market, the economist should be able to
bring within the "orderly sequences of economic law."

In _Social Value_, I have pointed out how wide is the scope of the money
measure. Waves of public opinion, of waning or waxing hope and belief,
of patriotic fervor, of religious exaltation, of political movements of
one or another kind--all these find some sort of money measure in the
market. In the gold market in the early '60's in New York, the "bulls"
sang "Dixie," and the bears sang "John Brown's Body"! It was patriotic
to be a bear, and unpatriotic to be a bull. These considerations
affected the prices very appreciably, at times, especially at the
beginning of the speculation in Greenbacks. Waning and waxing belief in
the triumph of the Northern armies manifested itself very strikingly in
the prices in the gold market, as W. C. Mitchell has conclusively
proved, with a wealth of detailed evidence, in his _History of the
Greenbacks_. But in less systematic markets, in less organized and
regular ways, many things besides are given a money measure: "Against
what, indeed, shall wealth be measured? Where are the markets which
measure its fluctuations?

"But such markets exist, always have existed. Are there not streets
where woman's virtue is sold? Are there not commonwealths where there is
a ruling price for votes? Do not the comparative rewards of occupations
indicate what inducements will overcome the love of independence, of
safety, of good repute? We see men sacrificing health, or leisure, or
family life, or offspring, or friends, or liberty, or honor, or truth,
for gain. The volume of such spiritual goods Mammon can lure into the
market measures the power of money.... When gold cannot shake the
nobleman's pride of caste, the statesman's patriotism, the soldier's
honor, the wife's fidelity, the official's sense of duty, or the
artist's devotion to his ideal, wealth is cheap. But when maidens yield
themselves to senile moneybags, youths swarm about the unattractive
heiress, judges take bribes, experts sell their opinions to the highest
bidder, and genius champions the cause it does not believe in, wealth is
rated high." (Ross, _Foundations of Sociology_, pp. 171-172.) Ross is
here interested chiefly in the problem of measuring the varying
significance of wealth, symbolized by money, in terms of other and
non-economic, goods. But it is equally true that money measures these
goods. The range of the money measure is very wide. Nor is it confined
to the exchanging process. Gabriel Tarde[589] has pointed out that money
may function as a measure of non-material goods through gifts, public
subscriptions, etc.

It is surely no extravagant claim to make that the methods of static
economics may be extended at least as far as the money measure goes! We
shall later see reason for believing that fruitful results may come from
an even wider extension of the static notion, at least as a schematic
device.

In reducing static and dynamic considerations to common terms, we have
now gone far. We have shown that a wide range indeed of the phenomena
deemed dynamic, and largely ignored by current static theory, left to
the discussion of such innovating students of the "theory of prosperity"
as Veblen, are really in the actual practice of the business world
treated in the same way as are the "static" phenomena of the values of
physical goods and concrete services. And we have further shown how wide
indeed is the scope of the static yardstick, the dollar. But this is
only a part of the story. We have generalized statics. Can we similarly
generalize dynamics? Or has our generalization of statics merely
narrowed the field of dynamic considerations?

To this I reply that we may view the whole field likewise from the angle
of what we have called dynamics, or theory of prosperity, or similar
name. These terms are not satisfactory, in my view, and I have already
used terms that appear to me better. My exposition on this point will be
briefer than in the generalization of statics, since I may refer to what
I have said elsewhere. In stating Veblen's contrast between "business
capital" and "the wealth of nations," I quoted him as follows: "Under
modern conditions the magnitude of the business capital and its
mutations from day to day are in great measure a question of folk
psychology rather than of material fact." The capital, or the wealth in
general, of older and simpler days was a material matter, concrete goods
and services, in his view. The newer items of capital are anomalies,
presenting something strange and novel, and sinister. I should maintain
that, whether sinister or no, they are in principle at least not _novel_
or _anomalous_. _All economic values are matters of folk-psychology!_
All economic values are social values. All are to be explained on the
same general principles that explain the values of the most complicated
stock-market phenomena--except of course, that the application of the
principles involves less complication in the case of such values as that
of a loaf of bread. But value is always a matter of psychological
significance, and never a matter of mere material fact. And these
psychological significances are not explained by such simple individual
phenomena as labor-pain, or marginal utility, but always by reference to
the total social-mental system, including its laws, its mores, its
institutions, its centres of power and prestige, its modes and fashions,
etc. If Veblen has in mind the contrast between goods whose values rest
in labor-pain or marginal utility, on the one hand, and values which
rest in a folk-psychology on the other hand, the contrast is a false
one. The first class does not exist. I shall not elaborate this point. I
have developed it at length in _Social Value_, and in the chapter on
"Economic Value" in this book. I should make the contrast, then, which
seems to me to gather up the central significance of most of the
contrasts we have been discussing, as follows: on the one hand, we may
view the matter mechanically and abstractly, in terms of the
equilibration of values conceived of like physical forces, expressed in
prices; on the other hand, we may view the economic situation more
fundamentally and realistically, seeing the interplay of men's minds,
viewing economic values as parts of a social mind, a functional unity of
many minds. We may treat society as a mechanism, or we may treat it as a
living, pulsing, psychological organization. In short terms, our
contrast may be between the theory of value, and the theory of price.
And here we are back to our thesis set forth on p. 559 of this chapter.

The theory of value, as thus marked out, is still an abstraction from
the totality of our cross-section picture of social, or even of
economic, life. The essence of society is indeed psychological. But men
have bodies, and live in a material world, and have an elaborate
technology. Many of the factors which students of dynamics are concerned
with grow out of biological and technological relationships, and are
connected with physiographic influences. Can we bring all these into our
scheme? Giddings and Spencer would answer affirmatively. For Giddings
(_Principles of Sociology_, ed. 1905, p. 363): "All social energy is
transmuted physical energy." Giddings guards himself (pp. 365-366)
against a thoroughgoing monism, which would leave no distinction between
mind and matter, but in general he would hold to the scientific goal of
reducing the physical and psychical phenomena in society to a
parallelism, so that concomitant percentage variation could be
predicated of them, and so that considerations in one sphere could be
expressed by considerations in the other. In the hands of Giddings and
Spencer, such notions are handled with caution and discrimination, and
command respectful consideration. One feels, however, that the starting
point is a monistic metaphysics, and that the philosophical doctrine
does not justify itself in its scientific application. In the hands of
such a writer as Winiarski, however (_Rev. Philosophique_, vol. XLV, pp.
351-386; vol. XLIX, pp. 113-134; summarized by Ross, _Foundations of
Sociology_, pp. 156-157), who makes all mental states mere forms of
physical energy, and applies to mental processes the laws of mechanics,
the doctrine becomes merely bad poetry! From the standpoint of
the needs of social science, and from the standpoint of our present
knowledge of social facts--to say nothing of general philosophical
considerations--it seems clearly best to me to assume the common-sense
doctrine of dualism as a premise: mind and matter are two different
things; mind acts on matter, and matter acts on mind. We are then at
this position, when it comes to bringing technological and physiographic
factors into our scheme: on the one hand, the values control
technological applications, and control the course of industry. New
technological devices will be employed when the present worth of their
anticipated products is great enough to overcome the values that compete
with them. Land will be employed on that crop which gives the largest
rent, etc. Men's physical activities, and their employment of their
physical resources, are _motivated_ by values. That is the _function_ of
values. On the other hand, physiographic and technological factors
modify the lives and characters of men and peoples. _Values_ are in part
controlled by physiographic and technological conditions of life. But
these technological and physiographic factors, in order to influence
economic _conduct_, must first influence the value system. This they do,
(1) by affecting the quantities of _objects_ of value, and so modifying
the marginal relations among the value-scales and the marginal values;
(2) by affecting the lives of the people directly, and so modifying the
value-scales themselves. Similarly I see no way of bringing the vitally
important factor of heredity into our scheme in a direct manner, _in
propriore persona_, but only mediately, as it (1) affects the character
of the society, and so changes its value-system or its technological
activity and volume of products, or (2) as heredity becomes a matter of
concern to the society, and so an object of value, with its own place in
the value-system.

There remains, therefore, in the field of technological, biological, and
physiographic features affecting economic life a considerable residuum
of economic problems for which, so far as I can see, no extension of the
static method can be devised. I propose no scheme of static price
analysis for balancing the effects of poor land and good heredity on the
character of a society.[590] The problem must be approached by other
methods specially suited to it, which we need not here discuss. But,
given the values that rule in that society, we may be sure that our
static picture of that value system will sum up much of the influence of
the bad land and the good heredity, mingled with the other factors which
have determined that set of values.

Once a factor has been introduced into the value system, once it has
modified the value-scales, we may treat it by the methods of static
price theory. The analysis of the factors controlling the value-scales
is the problem of value theory. And here is, indeed, the central problem
of the "theory of prosperity." What are the causes controlling the
_mutations_ of values? What factors cause values to rise, intensifying
economic activity, stimulating trade, spreading prosperity? What brings
about the crash in economic values (and consequently in prices), in
panics and crises? Why the low values of the period of depression,
giving slight stimulus to industry and trade, leaving economic life
lethargic, inert? Increasingly it is recognized that the problems are
problems of values and prices. It is no part of my plan to give answers
in specific terms to these questions. That were the task of a large
book! And very much of it has already been done. It is my purpose here,
simply, to show that price theory, as developed on the basis of static
notions, may be extended, and has in considerable measure been extended,
to cover these problems, and that for the same reason that price theory
is unable to give really fundamental answers to them, often, it is
likewise unable to give fundamental answers to the value problem
anywhere--that the phenomena of value are of the same stuff and
substance as the phenomena treated by "dynamics" and "the theory of
prosperity," and that static theory has been busied chiefly with a
limited portion of the field only because the problems were easier
there. Much has been made, especially in such a book as W. C. Mitchell's
_Business Cycles_, of technological factors, and of factors in the
psychology of the business man and of the laborer in the ups and downs
of business, and particularly of certain elements of scarcity or
overabundance of productive resources at critical parts of the economic
system, which raise values and prices unduly at certain points,
compelling radical readjustments of values and prices elsewhere.
Virtually all of these considerations will fit into the scheme here
outlined. They work _through_ modifications of the system of values and
prices. H. L. Moore's recent _Economic Cycles_ lays heavy emphasis on
physiographic factors, particularly variations in rainfall. But these,
too, act on the economic situation through affecting the quantities of
objects of value, and so through modification of the marginal values of
goods. The psychological theory of economic value by no means excludes
any amount of influence one can find in physiographic or technological
factors.

One of the most important factors in the minds of many writers who would
treat business cycles, and a factor to which virtually all writers give
attention, is the waxing and waning of business confidence, and of the
volume of credit. I have given an extended analysis of the psychology of
confidence, and of the psychological nature of credit, in my chapters on
that topic. It is enough to say here that we have in credit phenomena
things which are of the very stuff of economic values in general.
Beliefs and hopes are factors in economic values, and values wax and
wane with them. There is little indeed in the psychological and
institutional aspects of the theory of prosperity which an adequate
theory of value would not contain.

The theory of _prices_, as an abstract formula of description, is of
primary interest to the scientist, who has nothing to do with the
manipulation of concrete values, and who has no interests at stake in
the behavior of particular values at a particular time. His purposes are
ultimately practical, no doubt, but the practical ends he has in view
are, after all, only to lay down general rules of public policy, of a
high degree of generality, and he consequently may abstract from a great
deal of the concrete causal process. The theory of _value_, in its
concrete fulness, is the special interest of the active business man,
and especially of the business man who wishes, not merely to _adapt
himself_ to changes in values, but also in part, to _control_ and
_manipulate_ those values. _He_ must study every factor which does, in
fact, bring about changes in the value system. We do not find the
market-letter of a brokerage house, or the calculations of a captain of
industry, or trust promoter, troubling themselves about marginal
utilities or labor-pains! Notions of supply and demand, and the
relations of the prevailing interest rate to the capital values of
securities, they do employ. Notions of money-costs of production they
make use of. But they also give very close attention to questions of
governmental policy, to court decisions, to movements in the field of
labor organization, to money-market phenomena, and particularly to gold
movements and the state of the exchanges, to political campaigns, to the
strength of the prohibition movement, to changing fashions and modes,
and, above all, to the general _tone_, the _consensus_, so far as it is
ascertainable, as to whether business is good or bad, whether men are
buoyant or depressed, to the ups and downs of business confidence. They
pay marked attention to the opinions expressed by certain men, great
bankers or industrial leaders, not merely because they think these men
good judges, but also, and in part primarily, because these men are
centres of power, "radiant points of social control," whose opinions
make the opinions of others, and whose statements that times are good
tend to make them good, and that times are bad tend to make them bad.
For static theory, nothing is more contemptible than the view which
"demagogues" often express in Congress that great men in Wall Street
make and unmake prosperity, bring about and check panics. For static
theory, the only way that big men can lower prices is by selling, and
the only way they can raise prices is by buying.[591] Their power to
raise and lower prices is thus limited by the amount of their wealth
which they are willing to employ in this way. As it is not likely to be
profitable to be a bull when the general condition of the "fundamentals"
calls for falling prices, and as bear operations, contrary to the
fundamentals, are likewise usually costly, the inference would be that
the big men will not, even if they could, alter the course of the
market. Their wealth is, after all, not so tremendous, as compared with
the aggregate wealth of the rest of the community. But the market takes
the big men more seriously! When they are selling heavily, other men are
often _afraid_ to buy, such is their prestige. When they give out
opinions, these opinions _become_ the opinions of a host of others,
almost automatically. When Morgan stepped into the breach in the Panic
of 1907 with $25,000,000, it was quite as much the fact that _Morgan_
had acted, as it was the millions themselves, which relieved the
situation. Indeed, it was in no small degree the prestige of Morgan
which relieved the _disorganization_, which restored the discipline, and
made it possible for the elements in the market to work in harmony and
coöperation again. Society is a functional unity, and the "tone of
business," the ups and downs of prosperity, depend in large measure
indeed on the degree to which the lines of communication between the
different parts are kept open, on the question of whether each part does
its expected task at the right time and in the right way, on the
all-together-functioning, the _integration_, of the elements. These are
phases of the matter from which static theory abstracts. They are
organic problems, not mechanistic problems. Of course, mechanisms get
out of order too. But tightening a bolt is a very different thing from
restoring confidence and discipline to a market!

Those who wish to control values have their own technology. There
is a technology of industry, a mechanical technology, running in
terms of pistons and levers and soil-fertility-equivalents, and
butter-fat-content, and ton-miles, which is governed by the values.
But there is also a technology of _controlling_ values which involves
advertising, making sentiment, keeping up social discipline, effecting
the equilibration of values by exchange, keeping "interstitial"
adjustments smooth, which involves a different kind of activity,
thought, and ability, and which employs different instrumentalities. Its
problems are problems of human nature and social relationships, its laws
are psychological laws, particularly the laws of suggestion, imitation,
and the like, its tools are the newspaper, the sign-board, the whispered
word, the cigar and the dinner with wine, sound logic, money and credit
instruments, the prestiges of men and institutions. For men whose work
lies in controlling and making values, rather than in making passive
technical adjustments to existing values, the theory of value, as I have
defined it, is of supreme importance.

This, I may say for the critic who may consider the social value theory
a highly speculative and theoretical notion, does not mean that the
active business man or the advertising writer, has formulated the social
value theory in terms of a social mind, conceived of, in the light of
modern functional psychology, as a functional unity of individual minds!
The advertising writer is a student of modern psychology, and reads
books on the psychology of advertising, which discuss the psychology of
suggestion, and the like. But long before such books were written for
him, he studied the phenomena involved in his own way. It is not his
business to construct a theoretical economics! It is his business to
make a market for his wares. He is interested in the scientific theories
of modern social psychology only in so far as they help him in that
task. He has no occasion to construct a vast conspectus, which shall
summarize the whole economic situation, in its social setting. But my
point is, simply, that the kind of phenomena which he does study are
indicated and stressed and brought into a system in the theory of social
value which I have tried to elaborate. As his purposes are different
from those of the economist, his method of approach, and his range of
investigation, will necessarily be different.

The notion of dynamics has been in a way connected with the idea of
evolution, of historical process in time, while the notion of statics
has been essentially connected with the notion of a cross-section, a
stage, an equilibrium of contemporary forces. How, then, bring the two
together? Of course, we may conceive the evolutionary process itself as
a series of stages, and the mind does tend almost inevitably to do that.
The fact is, of course, a perpetual flow, with unceasing change. The
mind grasps such a notion with difficulty, if at all. Logic is
mechanical and mathematical, and mathematics and mechanics are
static.[592] But further, we may in large measure bring the historical
considerations into a cross-section picture, when it is a value system
that is involved. _Past_ facts exert their influence through _present_
values; and _future_ facts, which may be expected to modify future
values, come into the present equilibrium as discounted _present_
worths.

When we view the situation realistically, moreover,--which means, when
we view it as a living organic, psychological process,--our
cross-section does not need to be narrowed to a moment of time. We may
see the values not yet in stable equilibrium, but in process of
equilibration, with marginal values and prices fluctuating, tending
toward a static goal, but hindered by various cross-currents, of
"friction," of uncertainty, of momentary values which rest on beliefs
regarding the process of transition itself--as when a "bull" on the
war-stocks turns bear temporarily, because he thinks that prices may
fall before recovering themselves, and going higher. We may see
obstacles in the way of readjustment whose importance is itself subject
to static measure--labor temporarily out of work, and labor-time lost,
at so much per day; uncertainties which give rise to speculation, which
calls for the employment of extra banking credit, at such and such per
cent; capital-instruments which have to be "scrapped," representing the
loss of so many dollars. We may see the process of building up new
trade connections, at such and such a cost, to replace others which
formerly functioned, but which no longer serve, which were once worth so
much, and which now are valueless. Watching the realistic process of
transition, through a period of time, we may still apply our static
yardstick to many of its features.

Above all, do we get in this connection a realization of the fact that
the "immaterial capital" of which Veblen speaks is true social
wealth.[593] Whatever is necessary for the carrying on of economic life,
whatever, if destroyed, must be replaced, before the economic process
can go on, and will be replaced by the expenditure of labor and thought
and money, is capital. The sales-force is as truly a part of the
labor-force of a corporation as are the mechanics. The trade connections
which the sales-force has built up is as truly a part of the capital of
the business as the machines which the mechanics have made. The static
theory which abstracts from this easily leads to dangerous conclusions.
Removing a tariff may well, _after the transition is completed_, give a
greater productive efficiency to a country. But what of the cost of
transition? May not the values destroyed, and to be recreated, in the
form of trade connections, social organization, accomplished
adjustments, and the like, be greater than the new values to be gained
by better adaptation of industry to the physical resources or the
capacities of the labor supply, of the country? In large measure, this
question, in a given case, is susceptible to a quantitative answer. The
statesman who reckons only the gains which the final static adjustment
will bring, and neglects the costs of reaching it, costs not alone in
"scrapped" machines, but also, in "scrapped" social organization, has
missed a substantial part of his problem.

The theory of prosperity, and the theory of value, are largely concerned
with just this system of social control, by means of which value scales
are altered, and by means of which altered values are brought into a new
equilibrium. It is a complicated fabric of psychological relationships,
partly institutionalized, partly non-institutional. The institutions--as
banks, big corporations, speculative exchanges, and the like, are the
nuclei, about which centre much that is temporary, shifting, and
flexible. Given time, the whole system is highly flexible--it is
organic, and not mechanical.

The serious injury of this system in a country may well be a greater
disaster than the destruction of physical items. Let unscrupulous
men--or misguided men--bring about a legal repudiation of debts, and the
disaster may be greater than the destruction of a city by an earthquake.
That creditors have been robbed is a minor matter, but that credit has
been shaken, so that men will fear to lend again or to sell except for
cash, may well mean industrial paralysis.

Considerations like these enable us, in substantial degree, to reduce
"transitional" considerations to common terms with "normal"
considerations. We can apply the static measure to the "transitional
considerations," and we find the values which come into equilibrium in
the "normal" period to be generically like those whose variations
interest us in the period of transition. Indeed, the "normal
equilibrium," if it were ever reached, would also contain these
intangible capital items, though many of them would be much reduced,
since the work that they have to do would be largely gone, if the normal
equilibrium were persistent.

It does not follow from the foregoing that many of the elements in
"modern business capital" are not, as Veblen's analysis suggests,
sinister and anti-social. To say that their values are true social
economic values, generically the same as the values of wheat or corn or
whiskey or opium or Sanatogen or milk or tickets to burlesque shows, or
silver sacramental sets, or Ford automobiles, is not necessarily to give
them a good moral character! Some of these intangible capital goods are
thoroughly anti-social, and should be destroyed. This is particularly
true of monopoly power, and of popular brands whose value rests in
popular delusion. But even here, caution is needed. Is it socially wise
to destroy a wine cellar, containing an hundred thousand dollars worth
of fine wines, even assuming that Demon Rum is as black as he is
painted, and that Veuve Cliquot is his favorite daughter? Will not the
economic values which have been destroyed in this moral fervor be
recreated? And will not this tend to divert labor and capital from the
creation of a corresponding amount of more wholesome economic goods?
Might it not be wiser from the standpoint of the temperance movement
itself, to sell the wine cellar--at private sale, of course!--and use
the proceeds in the campaign fund of the prohibition party? Of course,
there is more still to the story. The destruction of the wine cellar may
be done so dramatically, and may be so well advertised, that it will
arrest public attention, and tend to create new social values, of a
moral and legal sort, which will prevent the recreating of that wine, by
changing the direction of demand, and by lessening the sources of
supply. Similarly with trade connections, and other intangible capital
items. If destroying one means merely that labor and capital will be
employed in making others no better, the social gain is very doubtful.
And some sort of system of control of interstitial adjustment, of
overcoming friction, etc., there must be.

I wish to contrast the view I have been here presenting with that
developed by Schumpeter, in his _Theorie der Wirtschaftlichen
Entwicklung_. In Schumpeter's view, the division between statics and
dynamics is much more than methodological. The phenomena of statics and
dynamics are different phenomena. Statics is concerned with the
influence of individual utility-scales, or utility-scales and psychic
cost-scales, hedonistic phenomena. Dynamics is concerned with the
influence of "_energisch_" (as distinguished from "_hedonisch_")
factors. (_Loc. cit._, 128.) Most men are moved by hedonic
considerations. Their economic activity tends toward the equilibrium
described in static theory. Seeking to maximize satisfactions, and to
minimize pains, they tend to get into the "best-possible" situation
("best-possible" under the "given conditions") and stay there. The
"energetic" type of men, moved by motives like love of activity for its
own sake, love of creative activity, love of distinction, love of
victory over others, love of the game, etc., undertake activities which
tend to alter the "given conditions" themselves, to alter the structure
and technique of economic society, to introduce new ways of doing
things, and so to break the static equilibrium. This last type of men is
small in number, but tremendously important. Schumpeter's theory of
value rests solely in an analysis of the hedonic factors mentioned,
conceived of as individual psychological magnitudes. I have discussed
his theory of value in the chapter on "Marginal Utility" in this book,
and would refer to that discussion here. He makes virtually no use of
the value concept there developed in explaining the causation of dynamic
change, but instead, as I have pointed out in that chapter, invents new
concepts, which do the work of the value concept, which he calls
"_Kaufkraft_," "_Kapital_," and "_Kredit_," which do not rest on
marginal utility, but rather on the activities of certain centres of
economic power, particularly of banks.[594] His picture of economic
evolution is that of a conflict between these static and dynamic forces,
between "utility-curves" and the psychological factors of the
"energetic" type, the former represented in a set of static
price-ratios, the latter in a set of dynamic "powers," conceived of, not
as sums of money (even though expressed in money-terms), but as
"abstract power," which grows, not merely out of the individual
psychologies of the entrepreneurs, but also, and primarily, out of the
social influence centered in the banker. This power which the banker
to-day supplies was in earlier periods supplied by the political power
of the despot, and is distinctly a matter of social organization, and
social control, an over-individual, social phenomenon, analogous to the
"social value" which I have sought to put behind all prices, whether
"static" or "dynamic." The dynamic man needs "power," either political
or financial, to "force" the "static" men out of their accustomed ways
of activity. They fear and resist him. He must coerce them. The contrast
is thus sharply made between abstract price-ratios, resting on
individual feeling-scales, and quantitative "powers," measured in money,
resting on a social basis. Between the factors underlying static prices,
and those underlying dynamic prices there is, thus, nothing in common.
Statics and dynamics are concerned with fundamentally different
phenomena.[595]

If my criticisms of the utility theory of value are sound, and if what
has gone before in this chapter holds good, we must restate Schumpeter's
contrast.[596] The static tendencies do not rest on any peculiarities of
the psychological "stuff" from which static values are derived. They
rest rather in the universal tendencies of all values, whatever the
psychological factors behind them, to come to an equilibrium. The reason
that values, whether they be the values of new and novel things, or the
values of old and familiar things, tend to come to an equilibrium is
that gains come from equilibrating them. When some values are too low,
and some are too high, the opportunities for speculative gain are
evident. Arbitraging transactions, as between different places,
time-speculation, transferring labor and capital from one enterprise to
another, increasing the supplies of some goods and reducing the supplies
of other, changing land from wheat to corn, etc., etc.,--all these
things are sources of gain, and they will be done, whatever the origin
of the values involved. The new, dynamic enterprise, before it becomes
actualized in concrete machinery, factory building, etc., and long
before its income is actualized in money-receipts from the goods it is
destined to produce, becomes an _object of value_. The value is a
_future_ value. But it comes into the present as a discounted present
worth. As such it functions like any other value, tending to attract in
its own direction the land, labor and capital necessary for its
realization. It does not differ in its functioning from the present
worths of future goods of familiar sorts.[597] It tends, after a process
of reëquilibration--which Schumpeter, with his theory of crises, has
done much to elucidate--to come into equilibrium with the older,
"static" values, becomes itself a static value. Indeed, from its
inception, it comes under the static, money measure. It enters at once
into the scheme of static values and prices, even though it causes
readjustment there.

The preëxisting static values are themselves to be explained, not as
growing out of individual feeling-scales, but as growing out of a
complex social psychology, in which some men and groups of men have
vastly greater social "power" than others. The preëxisting static values
are of the same stuff as the dynamic values. But this has already been
made clear.

       *       *       *       *       *

The possibility of presenting an equilibrium picture of social forces,
to the extent that those social forces submit themselves to the money
measure, the possibility of applying the methods of static price-theory
wherever pecuniary concepts may be carried, does not exhaust the
possibilities of the static notion, at least as a schematic device.
There are many social values, particularly in the legal and moral
sphere, which do not readily come under the money measure, and where
such measurements as may be made in money terms seem obviously
inadequate. Of these values, as of all values, however, the law of
equilibration holds. _All_ tend to come into adjustment of a sort that
will allow the maximum of values to be realized. Something of the
exactness of the static method has recently appeared in a decision by a
famous jurist, confronted with the fact of the conflict of two legal
principles. Most judges would go on the legal theory that there can be
no conflict in the laws of a single sovereign. Of course, we have
courses in "Conflicts of Laws" in our law schools, but the subjects
treated in such courses relate to conflicts, say, between the laws of
New York and the laws of New Jersey. When a judge is presented with a
case of conflict between two laws of New York, he will commonly feel it
to be his duty to "remove" the conflict, by making distinctions, till
the conflict is whittled away. Not a little bad law has thus originated!
The law is "absolute." It knows no exceptions. It does not obey the law
of diminishing significance. Of course, "_de minimis non curat lex_,"
but that means, not that there is a delicate margin, where the law
ceases to apply, but merely that the law disregards trifles too
insignificant to attract its attention at all. They are, in mathematical
phrase, "infinitesimals of the second order," discontinuous with the
interests of magnitude great enough to attract the attention of the law.
There is little room in such a legal theory for notions of the sort
discussed in this chapter to find place! But a different theory of the
law is implied, and partly expressed, in a recent decision by Mr.
Justice Holmes: "All rights tend to declare themselves absolute to their
logical extreme. Yet all in fact are limited by the neighborhood of
principles of policy which are other than those on which the particular
right is founded, and which become strong enough to hold their own when
a certain point is reached. The limits set to property by other public
interests present themselves as a branch of what is called the police
power of the State. The boundary at which the conflicting interests
balance cannot be determined by any general formula in advance, but
points along the line, or helping to establish it, are fixed by
decisions that this or that concrete case falls on the nearer or farther
side.... It constantly is necessary to reconcile and adjust different
constitutional principles, each of which would be entitled to possession
of the disputed ground but for the presence of the others." (Hudson
County Water Co. vs. McCarter, 209 U. S., 349, 1908.) Here we have a
scheme very like that of static economic theory! "The boundary at which
the conflicting interests balance"--the _margin_ where the curves of
diminishing value of the two legal principles intersect! A plurality of
legal values, in marginal equilibrium! Lacking a tool of thought so
convenient as money has proved for the economist, the jurist finds
trouble in making his margins precise. He is dealing with quantities for
which he has found no common measure. There is no "standard or common
measure" of legal values. Hence, most lawyers content themselves with
qualitative reasoning, seeking to avoid the necessity of quantitative
weighing and comparison of the factors in their problem by making
distinctions of _kind_. Mr. Justice Holmes recognizes the necessity and
the existence of legal _quantities_, and of making quantitative
distinctions, _i. e._, distinctions of _degree_. He sees a generic
essence common to the whole body of laws, such that marginal equilibria
are possible and actual.

So far we have a static system of laws. But the same writer, in a later
decision, has said: "And yet again the extent to which legislation may
modify and restrict the uses of property consistently with the
constitution is not a question for pure abstract theory alone. Tradition
and the habits of a community count for more than logic." (Laurel Hill
Cemetery _vs._ San Francisco, 216 U. S. 358, 1910.) As these traditions
and habits of a community may change, so may the legal values change,
and new equilibria need to be reached in a process of readjustment.

But further, in this view, and in the view of the best students of
jurisprudence in general, the legal values are not an insulated,
self-contained system. In the sentence last quoted, Justice Holmes sees
their root in a total social situation. And it is easy to show that
economic values, in particular, are part of that social situation out of
which legal values derive their power. Legal values enter into economic
values. Economic values enter into legal values. And between legal
values and economic values are marginal equilibria. There is a vast
social system of values, legal, economic, moral, religious, etc., in
constant dynamic change, but tending also to static equilibrium. Changes
at any part of the system compel readjustments throughout. The process
of equilibration is often slow, but slow or rapid, smooth or violent, it
is in constant process. For the further elaboration of notions like
these, I refer again to my _Social Value_. Here, as in the narrower
economic sphere, we have men and institutions whose chief activity is
concerned with the manipulation and control of these values, with
effecting the readjustments, and bringing about the reëquilibrations.
They have their appropriate tools and technology. Money and credit are
merely part of a much wider system concerned with social control and
social adjustment!

       *       *       *       *       *

To summarize: The problem of this chapter has been to harmonize statics
and dynamics, the "theory of wealth" and the "theory of prosperity,"
"normal" and "transitional," and similar notions, commonly held to
belong to different spheres, and to be incapable of reduction to common
terms. A number of such contrasts have been passed in review, and
numerous illustrations of the various types of contrast have been given.
It is the contention of the present chapter that the most fundamental of
these contrasts, and the one which gathers up the meaning of most of
them, is that between the theory of value, and the theory of price. The
theory of value is dynamic, is concerned with the phenomena of
prosperity and depression, is realistic enough to deal with transitions
and readjustments; the theory of price is static, and rests in the
notion of accomplished equilibrium, abstracting from the problems of
friction and transition. The reconciliation comes from two angles: on
the one hand we have generalized price theory, showing that in large
measure the phenomena with which value theory, theory of prosperity,
dynamics, deal come under the money measure, are made "static" by
"discounting," and by the application of accounting principles; that
this tends to be more and more true as knowledge grows more accurate;
that "statics" means especially quantitative, as opposed to merely
qualitative, thinking. We have shown further that the static schema is
applicable even where the money measure is inapplicable, and even beyond
the economic sphere, as illustrated by a recent decision of Justice
Holmes. The other angle of approach was to universalize value theory,
dynamics, theory of prosperity, by showing that all prices, whether
"static" or "dynamic" have the same fundamental sort of explanation,
that value is always a matter of social psychology, and never a matter
of mere individual psychical magnitudes, or of "material fact." This is
not to deny that physical facts have their bearing in the scheme: (a)
they are among the objects of value, even though not the only objects,
and (b) material facts, technological, physiographic, and biological,
are the basis on which human nature rests, out of which it has
developed, even though human culture including social values has
increasingly emancipated itself from immediate dependence on them, and
has acquired a partially independent movement of its own. The effort was
not made to reduce mind and matter to common terms, but the case was
rested in an irreducible dualism, and the causal influence of
non-mental factors on the value-scales themselves cannot be measured by
the static scheme. The static scheme, assuming the value-scales, gives a
precise answer as to the influence of the quantities of physical objects
on the marginal values. The significant fact about the values with which
dynamics, theory of prosperity, etc., deal is that they are the values
of immaterial social relationships and institutions, in large part,
which are concerned with the problems of social adjustment and control,
with affecting equilibria in the economic sphere, with overcoming the
friction and effecting the transitions from which static theory
abstracts. This is a phase of production quite as important as the
physical activities of laborers or machines. It has its own technology,
appropriate to its problems. In particular, money and credit are part of
its tools. Since its problems are to control men's minds, it uses
psychological forces. Where the mechanic uses a storage battery, charged
with electricity, to move material things, the technologist of economic
readjustment employs a dollar, charged with social value, which is power
over the action of men. It is as a bearer of value, in form adapted to
the problem, that is in highly saleable form, that the dollar functions.
It is the psychological significance of the dollar, and not its physical
qualities _per se_, that enables it to do its work. The physical weight
in gold, which itself is an object of social value, is commonly the
immediate basis of the value of the dollar to-day, but money may get its
primary value from other sources than valuable bullion. Given this
primary value, the dollar may get an enhancement in that value from the
services which it performs in the social technology of adjustment.

       *       *       *       *       *




INDEX


A

  Aborn, W. H., 252, n.

  Absolute _vs._ relative conceptions of value.
    See VALUE, ABSOLUTE _vs._ RELATIVE.

  Abstinence, 67ff., 484-85.
    See COST OF PRODUCTION, INTEREST.

  Abstraction, legitimate and illegitimate, 189-90, 553-54.

  Acceptance house, 497, 542.

  Acquisition _vs._ production, 482.

  Adams, Brooks, 219.

  Adams, T. S., 13.

  "Adaptation," 573, n.

  Advertising, 257-58, 367, 565.

  Agger, E. E., 140, n.

  Agio, 148-50, 390, 442-50.
    See PREMIUM.

  Agricultural credit, 262, 318-19, 430, 492, 504-05, 528-29.

  "All other deposits," see "DEPOSITS" in KINLEY'S FIGURES.

  _Americas, The_, 540.

  Analytical _vs._ historical theories, 397-400.
    See also HISTORICAL _vs._ CROSS-SECTION VIEWPOINTS, STATICS,
          DYNAMICS, ETC.

  Andrew, A. P., 170, n., 179, n., 537.

  Animism, social explanation of, 16-17.

  Ansiaux, M., 4, n.

  "Appreciation and interest," 76ff., 333, n.
    See INTEREST.

  Aquinas, Thomas, 30.

  Arbitrage, 268, 585.

  Aristotle, 118, n.

  Ashley, W. J., 181, n.

  Assets of banks, 285, 489-97, Ch. XXIV;
    bonds in, 250, 488, 498, 506, 508, 523;
    stocks in, 491-93, 498, 506, 523;
    stock exchange items chief factor in, Ch. XXIV, especially 523ff.
    See Loans, "COMMERCIAL PAPER," COLLATERAL LOANS, RESERVES, ETC.

  Atwood, A. W., 173, n.

  Auspitz and Lieben, 91, n.

  Austrian School, 56, 70, 94, 300, 486, 562, n.

  Austria, paper money in, 140, 434, n.;
    foreign exchange policy of, 181-82, 434, n., 444, 530;
    money rates and interest rates in, 429.

  Averages, meaning of, 178, 292, 312-13, 315.
    See CAUSATION.
    Weighted. See WEIGHTING.


B

  Babson and May, 501, n.

  Backwardation, 146.

  Bagehot, W., 18, 37, 540, n., 580.

  Baker, G. F., 518, 519, n.

  Balances, required by banks, 173, 377.

  Balance of trade, 320, 551.

  Baldwin, J. M., 18, 37.

  Balkan Crisis, hoarding of bank-notes in Austria in, 140, n.

  Banks. See ENGLAND, BANK OF, STATE BANKS, PRIVATE BANKS, ETC.
    As book-keepers for business, 365;
    correspondent relations of, 355, n.;
    bank capital, 489, 491, 524;
    bank-credit, Ch. IX, 261, 484ff., 489-97, Ch. XXIV;
    elasticity of, 129, 183, 216, 281-88, 299, 320;
    relation of, to trade, 260ff., 281.
    See Trade. Functions of, 484-89, 492-95.
    See CREDIT, FUNCTIONS OF.
    Technique of, 489-97, Ch. XXIV;
    bank-drafts, 355-58, 367;
    on New York and other centers, 356-58;
    bank-notes, 129, 139, n., 289, 322-23, 447, 448, 472, 473, 487, 495,
          496, 511, 530, 539;
    as "capital," 261, 484-88;
    elasticity of, 129, 298, 448.

  Banking School, 283ff., 395.
    See CURRENCY SCHOOL.

  Banker as centre of power, 32, 466, 484ff., 577, 583.

  Banker's psychology, 141, 304.

  Barbour, David, 154, 218, n.

  Barnett, G. E., 347, n.

  Barter, 99, 100, 130, 133, Ch. XI, 220, 226, 265, 369, 394, 404-07,
          419-21, 493, 536;
    highly important in modern life, Ch. XI, 394;
    made easier by money as a measure of values, 201, 394, 421;
    intellectual difficulties of, 418-20;
    physical difficulties of, 423.

  Bastiat, F., 552.

  Bears. See BULLS AND BEARS.

  "Bearer of options" function of money, 148, 201, 314, n., 418, 424-32,
          436, 442, 451, 495, 536, 543;
    distinguished from store of value, 425;
    dynamic function of money _par excellence_, 426, 495, 536;
    reserve function a special case of, 426, n., 536ff.

  Belgium, National Bank of, 182.

  Belief, as element in values, 40, 136, 462-68, 486ff., 574-75;
    relation of, to credit, 262, n., 462-68, 486ff., 581.
    See CREDIT.

  Bendixen, F., 435, n.

  Bergson, H., 579, n.

  Bilgram, H., 3, n.

  Bills of exchange, 167, 181-82, 201, 254-55, 288-90, 369, 444, 490-91,
          530;
    speculation in, 254-55, 514, 515, n.;
    as reserves, 181-82, 444, 530.
    See also FOREIGN BILLS, AND GOLD MOVEMENTS, INTERNATIONAL.

  Bimetallism, 219, n., 221;
    not logically related to quantity theory, 219, n.

  Biological factors in social life, 571-73, 590.

  Böhm-Bawerk, E. von, 9, n., 44, 48, 51, 70, 78, n., 91, 94, 96, n.,
          113, n., 146, n., 301, n., 303, n., 437, 563, n.

  Bonds, as bearers of options, 147-48, 425, 428;
    listed, sold "over the counter," 250, 514;
    bonds sold on Stock Exchange, not "cleared," 370;
    held by banks.
    See ASSETS OF BANKS.
    "One house bond," 147.

  Book-credit See CREDIT.

  "Borrowing and carrying," See STOCKS.

  Bosanquet, B., 18, n.

  Boston, 289, n., 354, 368, 429 n., 503.

  Brassage, 450.

  Brokers, 168, 199, 235, 287, n., 367-68, 371, 372, 374-79, 409,
          496-97, 429, n., 521, n., 531, 575.

  Brown, H. G., 301, n.

  Business, speculation in, 252ff.

  "Business capital" vs. capital-goods, 482, 484ff., 560-61, 569,
          580-82.
    See also "GOOD WILL," STATICS, DYNAMICS, FRICTION, ETC.

  Business confidence, 40-41, 97, 118, 185, 210-11, 214, 463-68, 530-31,
          536, 574-75, 577.

  Business cycle, 187-89, 254, 548-49, 555, 573-75.

  "Business distrust," 426, 427, n.

  Business man _vs._ economist, as value theorist, 573-78.

  Bulls and bears, 145, 371-73, 406, 471-72, 522, 576, 579.

  "Buying price" _vs._ "selling price," 402-04, 406-07, 476.


C

  Cairnes, J. E., 47, 50, 55, n., 57-59, 62, 64, 67-69, 220, n., 428, n.

  Call loans, 73, n., 375-78, 382, 425, 428ff.;
    as "bearers of options," 425, 428ff.

  Call rates, why low, 428ff.
    See MONEY RATES, INTEREST.

  Canada, 216, 284, n., 448, 450.

  Cannon, J. G., 347, n.

  Capital, Ch. IV, 98-99, 220, 222-23, 408, 410, 425, 429, 461, 484ff.,
          526, 551, n, 560-62, 564-66, 569-70, 580-82;
    circulating _vs._ fixed, 526.

  Capital goods. See GOODS, INSTRUMENTAL.

  Capitalist, 264.

  Capitalization theory, Ch. IV, 260, 297, 300ff., 316, 318, 389,
          416, n., 436-42, 459-60, 494, 562-64, 575;
    assumes "banker's psychology," 305-06;
    assumes fixed absolute value of money, 76ff., 313-14, 389, 438;
    limitations of, 305-06,316-17, 481, n., 562, n.;
    applied to value of money, Ch. IV, 111, 424, 436-42, 456;
    conflicts with quantity theory, 300ff., 310-11, 389.
    See also INTEREST, CAPITAL, RENT.

  Capital value, Ch. IV, 149, 224, 318-19, 402, 424, 436ff., 452, 459.

  Carey, H. C., 106.

  Carlile, W. W., 37, n., 397, 400, 407, 411, n.

  Carver, T. N., 4, n., 419, n., 453, n., 573, n.

  Causation, 142-43, 190, 204, 224, 279, 292, 312, 315, 336, 403,
          433, n., 437, 438, 454, 548;
    exhibited by _change_, 190, 454-55.

  Causal theory of value, 14ff., 90ff., 96, 114, n., 163, 165-66,
          176-77, 186, 192, 204, 296, Ch. XV, 310, 336, 400-01,
          433, n, 437-38.

  Cause, a definition as, 143, 400-01.

  Checks, 167, 168, 184, 281, 339ff., 354ff., 364-81, 499;
    "accommodation checks," 243;
    certified, 200, 322, 349, 370, 376;
    cashier's, 349;
    collection of, 354ff.;
    proportions of checks and money in payments, 174, 338, 447, 449,
          463.

  Checking accounts, 173-74.
    See DEPOSITS.

  Chen-Huang-Chang, 407, n.

  Chicago, 246, 259, 289, n., 354, 379-80, 503, 542;
    chief centre for check collections, 354;
    Board of Trade, 252-52, 268, 327, 379-80, 503, 542;
    Board of Trade clearing house, 369, 379-80.

  Circular reasoning in value theory, 15, 88, 89, 92, 100-01, 105, 112,
          113, 115, 117, 132, 135, 143, 279, 438, 452.

  Clark, J. B., 12-13, 48, 96, n., 264, n., 439, n., 440, n., 554-55.

  Clark's Law, 439.

  Clark, J. M., 3, n., 11, n., 14, n., 98, n., 413, n.

  Classical School, 69.
    See COST OF PRODUCTION, CAIRNES, SENIOR, RICARDO, JAS. MILL,
          J. S. MILL, LABOR THEORY OF VALUE, ETC.

  Clearing houses in speculative exchanges.
    See STOCK EXCHANGE.

  Clearing houses, bank.
    See CLEARINGS.
    New York Clearing House, 346, 354;
    New York Clearing House banks, 179, 344.

  Clearings, 200, 237-41, 345-46, 378, 392;
    as index of "ordinary trade," 240-41, 516;
    as index of speculation, 237ff., 378, 392, 516;
    in New York City, 237-41, 339, 341-42, 345-47, 357-59, 360, 516;
    of New York City trust companies, 345-47;
    outside New York City, 239-41, 339, 340, 342, 348-53, 357-59,
          516, n.;
    ratio of, to "deposits," 341-42, 348-59, 516, n.;
    ratio of, to "total transactions," 348-51, 353, 359, n.

  Clow, F. R., 135, n., 144, n.

  Coin, 139, n., 167, 443-50;
    coinage, 443-50;
    statistics of, 412, n.

  Collateral loans, 461, 462, 463, 493, 494, 497, 502-06, 513, 523-26;
    percentages of, on stocks and bonds, and on "other collateral
          security," 502-09;
    on "other collateral security" analyzed, 502ff.

  Collection of out of town checks, 354-55.
    See CHECKS.

  Commerce. See TRADE.

  Commercial banks, 357, 488, 490, 498-99, 519-20, 523-29;
   financing commerce no longer the chief function of, Ch. XXIV,
          esp. 523ff.

  Commercial cities, outgrow manufacturing cities, 259.

  "Commercial paper," 431, 457, 490, 496-97, 498-520.

  _Commercial and Financial Chronicle_, 272.

  Commodity theory (Metallist theory, Bullionist theory), 81, 85, 129,
          135, 144, 151-53, 330, 390, 391, 435, n.;
    hypothetical case illustrating, 151-53, 327-28, 390, 421;
    contrasted with quantity theory, 151-53.

  Competitive display, relation of, to value, 410-11, 438-42, 452.

  Conant, C. A., 73, n., 182, n., 323, n., 347, n., 412, n., 418, n.,
          428, n., 502, 510, n., 511, n., 535, n.

  Conant, L. Jr., 252, n.

  Concatenation of values and prices.
    See VALUES, PRICES.

  Consols, 470.

  Contango, 145.

  Cooley, C. H., 3, 4, n., 19, 21, n., 30, 37, 484, n.

  Corporations. See STOCKS, BONDS, STOCK EXCHANGE.
    Consolidations of, 198-258, 366-67;
    lead to duplications of "deposits," 366-67;
    corporation finance, 198-99, 201, n. 3, 432, 460-61, 476-77;
    corporation securities as credit instruments, 460-61, 476-77,
          492-93, 527.

  Correlation, coefficient of, 237, 237, n.

  Cost of production, Ch. III, 193, 221, n., 257ff., 295, 300, 306-07,
          309, n., 389, 562, n., 565-66;
    inapplicable to value of money, Ch. III, 389, 451;
    relation of, to supply and demand, 50, Ch. III;
    not related to quantity theory, 46ff.;
    conflicts with quantity theory, 300, 306-07, 310-11, 389;
    assumes fixed absolute value of money, Ch. III, 313-14, 389, 451;
    "real costs," 44-45, 64ff., 96, 117, n. See LABOR THEORY OF VALUE.
    Money costs, Ch. III, 90, 95;
    Austrian cost theory, 56, Ch. III, 90, 95, 116, n.
    See also SELLING COSTS.

  Cotton speculation. See NEW YORK COTTON EXCHANGE, AND SPECULATION.

  Credit, 42, 98-99, 130, 143-44, 166ff., Ch. IX, Ch. XIII,
          Ch. XIV, 318, Ch. XVIII, 392-393, 395, 427, 441, 447,
          Ch. XXIII, Ch. XXIV, 581;
      not based on money, 326-27;
      based on values, 326-27, 478-86, 485-86, 528-29;
      part of general system of values, 40-41, 460, 462-68, 480, 486ff.,
          574-75;
      definition of, 459-60, 472-74, 489;
      distinguished from credit transaction, 473;
      juridical aspects of, 395, 460-61, 468-73; relation of, to belief.
          See BELIEF.
    Functions of, 263-66, 391-92, 395, 407, 441, 475-78, 484ff., 511-12,
          523-29;
    relation of, to money, Ch. IX, Ch. XVIII, 393, 395. See also
          RESERVES.
    Relation of, to trade, Ch. XIII, Ch. XIV, 391-92, 393;
    volume of, a function of dynamic change, 474;
    elastic. See BANK CREDIT.
    As "capital," 261, 461, 484ff.;
      in "equation of exchange," 166ff.;
      book-credit, 167ff., 226, 369; time-credit, 168.
      See LOANS, INTEREST.
    See also BANK-CREDIT, DEPOSITS, LOANS, COLLATERAL LOANS, CALL LOANS,
          ASSETS OF BANKS, BELIEF, BUSINESS CONFIDENCE, etc.

  _Crédit Lyonnais_, 530, n.

  Credit theory of paper money. See PAPER MONEY and GREENBACKS.

  Crises, 213, 254, 520, 548-49, 555.
    See PANICS, BUSINESS CYCLES, BUSINESS CONFIDENCE, THEORY OF
          PROSPERITY.

  Cross-section analysis. See HISTORICAL _vs._ CROSS-SECTION VIEWPOINTS.

  Curb, 250.

  Currency School, 283ff., 395;
    "currency theory of deposits," 283.

  Curves applied to money, 451-53.
    See MARGINAL ANALYSIS.

  Custom, 36, 109, 135, 136, 183-84, 205ff., 391, 405, 562, n., 589.
    See HABIT.


D

  Davenport, H. J., 12, n., 14, n., 21, n., 25, 65, n., 67, 78, n., 80,
          91, n., 94, 103, n., 113-15, n., 218, n., 314, 418, n.,
          419, n., 426, n., 429, n., 434, 447, n., 482, n.

  Davidson, T., 18, n.

  Dean, Rodney, 354, n.

  Debtor Class, 139.

  Debts, 433, n. ff., 472-75, 489;
    repudiation of, 581.

  DeCoppet and Doremus, 249, 370.

  Definition, a, as cause for the circulation of money, 143, 400-01.

  DeLaunay, L., 412, n., 415, n.

  Demand. See SUPPLY AND DEMAND.
    Increase of, 53;
      nominal increase of, 54;
      elasticity of, 55, 224-27, 411-13;
      for money, in what sense used, 62;
      elasticity of, 224-27;
      demand curves, 51;
      applied to gold, 451ff.;
      social value explanation of, 42, Ch. II, 93;
      distinguished from utility curves, 49, 52, 70, 80, 113, n.,
          115, n., 116.

  "Demand Notes," 322, 448, n.

  Deposits, 129, 143, Ch. IX, 186, 296, 344, 345-47, 453, 472, 487;
      by one bank in another, 358, n., 349, 355, n., 357, 365, n.,
          367, n., 500, n., 508, 515, n., 530-32;
      relations of, to "money in circulation," Ch. IX, 185, 294;
      relation of, to reserves, Ch. IX, 286-87, 298-99;
      activity of, 345-47, 512-16;
      in Europe 262.
      SEE GIRO-SYSTEM.
    Deposits as "bearers of options," 425;
      relation of, to loans, 285ff., 512;
      relation of, to trade and prices, Ch. XIII, Ch. XIV, 287;
      of private banks, 344;
      deposits distinguished from "deposits," 339, n., 343-44, 512;
      relation of, to "deposits," 512ff.

  "Deposits" in Kinley's studies of payments, 230, 232-36, 242-43,
          338ff., 392, 512-16;
    retail "deposits," 232, 243, 269, 338, 367, n., 368, 392, 513;
    wholesale "deposits," 232, 243, 338, 392, 513;
    "all other deposits," 232, 235-37, 243, 338, 514;
    relation of, to trade, 230, 243-45, 248, 339-40.
      See OVERCOUNTING AND UNDERCOUNTING.
    New York City, 233, 234, 242, 246, 340ff.;
      country, 246;
      in Pittsburg, 245-46;
      check "deposits," volume of, 339, 360-62, 392.

  _Deutsche Bank_, 530, n.

  Dewey, John, 17, n., 22, 579, n.

  Dibblee, G. B., 259-60.

  Differential principle, and theory of rent, 430-41;
   applied to money, 439-41, 529.

  Director of the Mint, statistics of gold consumption, 413, n.

  Discount. See TIME-DISCOUNT and CAPITALIZATION THEORY;
    rate of, see INTEREST;
    rate of, _vs._ money rates, see INTEREST;
    on Greenbacks, see GREENBACKS, PREMIUM, AGIO.

  "Discounting," 298, 597.

  Distribution of wealth, 15, 31, 33, 37, 38, 97, 102-03, 246, 247, n.,
          413-16, 465-67.
    See also INTEREST, CAPITAL, CAPITALIZATION THEORY, RENT, IMPUTATION
          THEORY.

  Division of labor in banking, America and Germany contrasted, 527;
    extent of in England, 530, 540-41, 542.

  Dodo-Bones, 82, CL VII, 155, 280, 304, 321, 325.

  "Dollar exchange," 541.

  "Domestic trade" _vs._ foreign trade, appendix to Ch. XIII.
    See TRADE.

  Double counting in estimating volume of trade. See OVERCOUNTING.

  Dualism, most useful metaphysics for social sciences, 571-72.

  _Dun's Review_, 272, n., 273, n.

  Dynamics, 42, 106, 178, n., Ch. X, 254, 262-66, 392-93, 395-96, 426,
          474, 484-89, 495, 527-28, Ch. XXV;
    dynamics and statics, reconciliation of, 42, 395-96, Ch. XXV;
    "dynamic credit," 484-89.
    See TRANSITION PERIODS, PROSPERITY, THEORY OF, STATICS, "NORMAL,"
          FRICTION, FLUIDITY, LIQUIDITY, SALEABILITY, EQUILIBRIUM,
          BUSINESS CAPITAL, INTANGIBLE CAPITAL, etc.


E

  Elasticity. See DEMAND, ELASTICITY OF, AND BANK-CREDIT, ELASTICITY OF.

  Ellwood, C. A., 4, n., 21, n.

  Emery, H. C, 146, n., 371, n., 576, n.

  England, 142, 184, 447-48, 450, 530, 534, 536-43.
      See LONDON, and LIVERPOOL.
    Bank of England, 183, 319, 323, 350, 538ff.;
    "Bank Restriction" in, 323, n.

  English School, 96.
    See CLASSICAL SCHOOL.

  Entrepreneur, 67, 485ff., 539, 583-85.

  "Epi-phenomenon," money as, 266.

  "Equation of Exchange," Ch. VIII, 186, 188, 191, 204, 283,
          Ch. XV, 326, 363, 520-22, 527, n., 528, n.;
      as equation of "values," 159;
      mathematical analysis of, 158-66;
      factors in, highly abstract, 162-63, 176-77;
      "equation of exchange" _vs._ causal theory, 163, 165-66, 186,
          189, n.
      See CAUSAL THEORY OF VALUE.
    Statistics of, Ch. XIX.
      See QUANTITY THEORY, DEPOSITS, VELOCITY, TRADE, VOLUME OF,
          PRICE-LEVEL, etc.

  Equation of supply and demand, 51.
    See SUPPLY AND DEMAND.

  Equilibrium, 91ff., 105, 115, n., 116, 117, 119, 156, 187, 190, 222,
          225, 254, 262-66, 293, 298-99, 328, 333, n., 392-93, 401,
          451-57, 557, 570-73, 583, 586-89.

  European Banking, 262, 497, 511, 523, 527, 530.
    See ENGLAND, GERMANY, FRANCE, AUSTRIA-HUNGARY, BELGIUM, etc.

  Exchange, 9-11, 133, 224ff., 398ff., 468-69, 520-23;
    creates _values_,
    not _utilities_, 111, n., 145, 423-24, 424, n.;
    in static state, 262-66, 401-02;
    relation of, to value, 9-11, 401ff., 468-69.
    See TRADE, GOLD MOVEMENTS, INTERNATIONAL, ETC.

  Exchangeability. See SALEABILITY.


F

  Fashion. See SUGGESTION.

  Federal Government, 147, 322, 332, 368, 432, 476, 549;
    Federal war tax as index of grain speculation, 251.

  Federal Reserve System, 299, 490, 499, 518-20;
    should rediscount stock collateral loans, 518-20;
    "money trust" and, 518-20.

  Fetter, F. A., 7, n., 48, 78, n., 301, n., 303, n., 437, 440, n.,
          562, n.

  Fiat theory, 136, 142.
    See also LEGAL THEORY, _Staatliche Theorie_.

  Fichte, J. G., 22, 137.

  Fisher, I., 47, 56, 81, 91, n., 99, 117, n., 124, 128, 130, 143, 152,
          154ff., 172ff., 186ff., 196, 200, n., 203ff., 209ff., 216ff.,
          222, 226-29, 231, 240, 247, 248, n., 254, 256, 261, 262, 274,
          281ff., 291ff., 301, n., 302-04, 306, 308, 311, 312, 324,
          326, 331, 333, n., 335ff., 348-49, 351-52, 360ff., 371, 376,
          381-83, 400, 437, 455, 522, 537, 555, 559, 563.

  Fite, W., 21, n.

  Fluidity, 143, 403, 456, 476, 542, 563, n.
    See also LIQUIDITY, SALEABILITY, STATIC THEORY, ETC.

  Flux, W. A., 49.

  Foreign bills of exchange, in reserves, 181-82.
    See BILLS OF EXCHANGE AND GOLD MOVEMENTS, INTERNATIONAL.

  Foreign trade, 261, 265, 503;
    ratio of, to "domestic trade," appendix to Ch. XIII.
    See TRADE, BILLS OF EXCHANGE, GOLD MOVEMENTS, INTERNATIONAL.

  France, 136, 139, n., 450, 530, n., 533;
    _Banque de_, 136, 183, 425, 538-39.

  Friction, 11, 94, 262-66, 392, 426, 543-44, 554-55, 563.
    See also STATICS, DYNAMICS, SALEABILITY.

  Functions of money, 76, 81, 83, 93-94, 110-11, 144-48, 151-53, 201,
          263-66, 313-14, 327-28, 390-91, 394, 399, Ch. XXII, 536ff.,
          543;
    in relation to value of money, 144ff., 390-91, 309-400, Ch. XXII.

  Functions of value. See VALUE, FUNCTIONS OF.

  "Futures," 243, 251.
    See STOCKS, "BORROWING AND CARRYING" OF.

  Future values, 40, 107, 459-60, 480, 486, 585.
    See CREDIT, PART OF GENERAL SYSTEM OF VALUES.

  Futurity, not peculiar to credit, 459-60, 475.


G

  George, Henry, 78, n., 301, n.

  Germany, 136, 139, n., 145-46, 167, 425, 433, n., 435, n., 527,
          530, n.;
    giro-system in, 150, 167, 289;
    great use of domestic bills of exchange in, 288-89;
    limited division of labor in banking in, 527;
    Reichsbank, 182, 183.

  Giddings, F. H., 87, n., 556-57, 571, 573, n.

  Giro-system. See GERMANY.

  Gold, 84, 143, Ch. XXI, 422, 432, 436, 441-43, 443-44, n., 530,
          535-56, 538-39, 567, 591;
    in arts, 84, 135, 151-53, 224, 314, 330, 390, 400, Ch. XXI, 451-57;
    as money, 84, 135, 141, 146, 224, 304, 322-23, 390, 408-16, 441-43,
          445, 451-57, 495-96, 530, 535-56, 538-39;
    value of, 84, Ch. XXI, esp. 408-16, 451-57;
    in reserves, 147, 180-81, 324-28.

  Gold mining camps, high prices in, 220, n.

  Gold movements, international, 60-61, 129, 142, 181-82, 183, 261,
          280, 292, Ch. XVI, 434, n., 531, 533-34.

  Gold production and prices, Ch. XVIII, 535-36;
    new world discoveries, 219ff.;
    Californian and Australian discoveries, 220-21, 221, n.

  Goods, consumers', 34ff., 82, 96, 481;
      ranks or orders of. See RANKS.
    Instrumental, 38, 81, 297, 482, 484, 500, 569, 579.

  "Goods side" of "equation of exchange," no, 159.

  "Good will," 260, 482-83, 561, 564.
    See BUSINESS CAPITAL, INTANGIBLE CAPITAL, SELLING COSTS, ETC.

  Grain speculation. See SPECULATION, COMMODITY.

  Greenbacks, 141, 146, 147, 194, 304, 322-23, 332-33, 422, 432, 435,
          436, 567-68.

  Gresham's Law, 129, 140, n., Ch. XVII;
    conflicts with quantity theory, Ch. XVII;
    quantity theory version of, 321-22.


H

  Habit, 104, 109, 138, 225, 554-55, 589.
    See also CUSTOM.

  Hadley, A. T., 157.

  Haig, R. M., 552, n.

  Hamburg, coffee speculation in, 252;
    Giro-Bank, 150.

  Haney, L. H., 3, n.

  Harvey, "Coin," 327.

  Havre, coffee speculation in, 252.

  "Hedging," 243, 253, 264.

  Hegel, G. W. F., 18, n.

  Helfferich, Karl, 14, 82, n., 110, n., 134, 418, n., 419, n.

  Heredity, 571-73.

  Hermann, F. B. W. von, 438, n.

  History, economic interpretation of, 33.

  Historical vs. cross-section viewpoints, 101ff., 119-20, 135-39,
          397-400, 548, 553-54, 578-81.
    See also STATICS, DYNAMICS.

  Hoarding, 140, n., 174, 207, 208, 211, 333, n.

  Hobson, J. A., 73, n., 308, n.

  Hollander, J. H., 154, 250, n.

  Holmes, Justice O. W., 24, 587-90.

  Holt, Byron W., 222, 249, 370.

  Hubbard, Guy C., 260, n.

  Hughes Commission, 252, n.

  Hume, David, 21, 47.


I

  Ideal credit economy, 543.

  Ideal values, 467, 480.

  Imitation. See SUGGESTION.

  Imputation theory, 28, 38-40, 99, 300, 389, 424, 481;
    conflicts with quantity theory, 300, 303-04, 310-11, 389.

  Income, money. See MONEY INCOME.

  Income, net, of the United States, appendix to Ch. XIII.

  Index numbers, of check circulation, 361-62, 383;
    of net income of the United States, 278;
    of prices, 278, 381-82, 383, 436;
    of railway gross receipts, 278;
    of trade, 227-29, 255-56, 278, 363, 381, 383.
    See STATISTICS.

  India, 140, 143, 149, 181, 443, 444, n., 449;
    a liability, rather than an asset, to quantity theory, 444, n.

  Individual interest and social advantage, 397-99.

  Individual values, 19, 43-45.
    See also VALUE, SUBJECTIVE, PERSONAL, SUBJECTIVE EXCHANGE.

  Individualistic theories, 14-16, 20, 21, 22ff.

  Individuality, a social product, 16-19.

  Industry, rather than commerce, chiefly financed by modern banks,
          Ch. XXIV, esp. 523-29.
    See ASSETS OF BANKS, BANK CREDIT, FUNCTIONS OF.

  Inertia. See HABIT, CUSTOM.

  Institutional values, 29-30, 413, 484.

  Institutions, 19, 27, 484, 487, 562, n., 570.

  Insurance policies as credit instruments, 472.

  Intangible "capital" _vs._ capital goods, 482-83, Ch. XXV.
    See also GOOD WILL, BUSINESS CAPITAL, ETC.

  Interest, 146, 219, 223-24, 225, 301ff., 333, n., 416, n., 428-32,
          437, 471, 472;
    "appreciation and," 76-78;
    productivity theory of, 224, 302-03, 437;
    "use" theory of, 437, 438, n.;
    "pure rate" of, 75, 76, 77, 428-29;
    _vs._  "money rates," Ch. IV, 224, 428-32, 461, 521, n., 523-24,
          526, 529.
    See also MONEY RATES, CALL RATES, CAPITALIZATION, TIME DISCOUNT.

  International banker, 409, 446, 539ff.
    See GOLD MOVEMENTS, INTERNATIONAL.

  International trade. See FOREIGN TRADE.

  Investment, 270, 523ff., 528;
    _vs._ speculation, 521, n., 523-26;
    banker, 489, 519, 523, n., 527-28.

  "Invisible items" in foreign trade, 268, 270, 320.


J

  James, William, 579, n.

  Jenks, J. W., 260, n.

  Jevons, W. S., 25, 48, 91, n., 107, 522, n.

  Jewelers, 409, 454-57;
    paper of, in the money market, 454-57.

  Johnson, A. S., 4, n., 13, 105, 115, n., 265, n., 403, n., 440, n.,
          563, n.

  Johnson, J. F., 73, n., 333, n., 418, n.

  Joint Stock Banks, 184, 530, 539.
    See LONDON, ENGLAND.

  Jurisprudence, 23-24, 588.
    See LAW, LEGAL VALUES.

  Juristic thinking, 24-25, 29, 433, n., 586-88;
    contrasted with economic thinking, 433, n.


K

  Kant, I., 22, 137.

  Kemmerer, E. W., 48, 129, 135, 140, 141, 156, 157, 167, 170, 175, n.,
          220, n., 226, 240, n., 254, 256, 274, 312, n., 321, 334-37,
          359, n., 361, n., 363-65, 381-83, 400, 426, n., 443, n.,
          444, n., 522, n., 537, 538, n.

  Keynes, J. M., 180, 181, 182, n., 184, 207, 443, n., 535.

  King, W. I., 242, 243, 246, n., 247, n., 248, n., 269, 271-72, 275, n.

  Kinley, D., 13, 48, 78, n., 80, 110-11, 174, 208, n., 230, 233-36,
          237, n., 242-45, 249, 254, 256, 269, 321, 337-45, 349,
          350-52, 360, 365, n., 368, 376, 383, n., 419, n., 447, 449,
          463, 498, n., 512-15.

  Kirkbride and Sterret, 347, n.

  "Kiting," 368.

  Knapp, G. F., 49, 150, 418, n., 433-5, n.

  Knies, Carl, 12, 133, 323, n., 418, n., 419, n.

  Kuhn, Loeb & Co., 343-44, 515, 515, n.


L

  Labor theory of value, 12, 44-45, 64ff., 139, 570.
    See VALUE, COST OF PRODUCTION, ADAM SMITH, RICARDO, MARX, CAIRNES.

  Land speculation, 254, 264, 317.
    See SPECULATION.

  Laughlin, J. L., 48, 135, 141, 144, 146, 177, 219, n., 281, 282, n.,
          283, n., 284, 312, n., 319, n., 327, n., 418, n., 419, n.,
          443, n., 444, n., 459.

  Law, theories of, 23ff., 586-89;
    statics and dynamics of, 586-88.

  LeBon, G., 37.

  Legal tender, 147, 418, 422, 432-36, 442, 445-47, 448, n.
    See FUNCTIONS OF MONEY.

  Legal theory of money, 134, 136, 405, 433n., ff.
    See _Staatliche Theorie_.

  Legal thinking. See JURISTIC THINKING.

  Legal values, 23-29, 40, 138-39, 413, 414, 435, n., 562, n., 586-89.

  Lewes, G. H., 87, n.

  Liabilities of banks, 285;
    relation of, to loans, 286.
    See DEPOSITS, BANK-NOTES, ETC.

  Liquid paper, 455, 489-91, 499ff., 513-18.

  Liquidity, 455, 475, 489, 495, 499ff., 508, 513-18, 526-27, 529-44.
    See SALEABILITY, STATICS, FRICTION.

  Liverpool, 252, 259.

  Loans, on call. See CALL LOANS.
    On cotton, 481, 504, 508, n.;
      on grain, 380, 503, 508, n.;
      to stock market, 375ff., 379, n., 430, 488, 502-03, 507-12,
           518-20, 523-28;
      to wholesalers and retailers, 504-05;
      consumption, 463;
      war, see WAR LOANS.
    Collateral, see COLLATERAL LOANS.
    Activity of, 512-14;
      relation of, to deposits, 285ff.;
      relation of to "deposits," 375-81, 512-14;
      relation of, to trade, 287, 287, n.;
      relation of, to international gold movements, 318-19;
      short loans as bearers of options, 425, 428-32.
    See also ASSETS OF BANKS, "COMMERCIAL PAPER," "MORNING LOANS,"
          "OVERCERTIFICATIONS."

  Locke, John, 47.

  London, 145, 251, 259, 259, n., 497, 522, n., 539ff.;
    stock exchange, 451;
    money market, illustrates assumptions of static theory, 539ff.


M

  "Manipulation," of values and prices, 575ff., 589.

  Manufacturers' "paper," 454, 457, 500, 513, n.

  "Margins," 372, 488, 489, 493, 521, n., 523-26, 528;
    "margin operator" as "banker," 524-26.

  Marginal analysis, 24, 51, 440, Ch. XXV;
    applied to law, 586-89;
    applied to money, 152-53, 199, 208, 225, 227, 451-57, 534.

  Marginal utility, 13, 14-15, 30, 34-35, 38, 40, 42, 44, 46, 49,
          Ch. V, 137, 440, n., 562, n., 570, 583-86;
    applied to value of money, Ch. V, 137;
    essentially static theory, 106ff.;
    Schumpeter's version of, 44, 90ff., 113, n., ff., 583-86;
    limitations of, 92ff.;
    "relative marginal utility," 113-114, n., 115, n., 440, n.;
    quantity theory and, 46.

  "Market letter," 222, 575.

  Marshall, A., 48, 105, 265, n.

  Marx, Karl, 12.

  Mathematical economics, 91, n., 117, 139, 142, Ch. VIII, 310, 438,
          553.

  McCulloch, J. R., 66.

  Mead, G. H., 4, n.

  Meade, E. S., 198, n., 202, n., 477, n.

  Measure of values, 133, 150-53, 201, 265, n., 325, 327-28, 391, 417,
          418-23, 436, 451, 543, 567-69, 538;
    must have value, 133, 326;
    relation of, to commodity theory, 151-53;
    applied to non-economic values, 567-69.
    See also FUNCTIONS OF MONEY.

  Medium of exchange, 133, 201, 327-28, 391, 404, 418, 420-24, 425-26,
          433, n., 434, n., 436, 442, 543;
    must have value, 133.
    See FUNCTIONS OF MONEY.

  Meinong, A., 467.

  Menger, Karl, 14, 48, 82, n., 88, 96, n., 110, 397, 398, 400, 401, n.,
          402-04, 406, 407, n., 418, 476, 493.

  Mercantilism, 225, 551.

  Merriam, L. S., 13, 419, n.

  Metallist theory. See COMMODITY THEORY.

  Middlemen, effect of eliminating, on price level, 306-07.

  Mill, James, 66.

  Mill, J. S., 46, 47, 50-52, 55, n., 58, 59, 61, 67, 69, 94, 129, 132,
          161, n., 172, 192, 193, n., 265, 285, n., 319, n., 333, n.,
          548.

  Minneapolis, bills of exchange in, 289, n.

  Mises, L. von, 14, 48, 49, 80, 83, 88, 100, 109-11, 120, n., 182, n.,
          418, n., 429, n., 434, n., 556.

  Mitchell, W. C., 91, n., 179, n., 188, 213, n., 265, n., 286, n.,
          323, n., 329, n., 332-34, 363, 412, n., 430, n., 448, n.,
          449, n., 522, n., 533, 536, 568, 574.

  Mode. See SUGGESTION.

  Money, abstracted from by static theory, 99, 265-66, 392;
    definitions of, 167, 169, 325-26, 495-96;
    functions of, see FUNCTIONS OF MONEY;
    must have value from non-pecuniary source, Ch. VII, 326, 390-91,
          417, 440, 449, 591;
    origin of, 394, Ch. XXI;
    money not unique, 82-83, 85, 137, 145, 147, 148, 325, 329-30, 389,
          406-07, 417, 425, 437-50, 477-78, 535, 542, 544;
    peculiarities of, 3, 57-58, 64, 69, 71, 74ff., 78-79, 81-83, 85,
          88, 91, 101, 124, Ch. VII, 132, n., 134, 144-45, 153, 392-93,
          Ch. XXI, Ch. XXII, 406, 437ff.;
    tool or instrumental good, Ch. IV, 82-83, 224, Ch. XXII, 591;
    theory of, developed in isolation, 46ff.;
    theory of, must be dynamic, 262-66, 393.
    See also STATICS, DYNAMICS.
    Value of, _vs._ "reciprocal of price-level," 8, 56-57, 77, 100,
          123, 128-29, 155-56, 312-13, 382, 388-89, 433, n., 449.
      See VALUE, ABSOLUTE _vs._ RELATIVE.
    Relation of, to credit. See CREDIT, RESERVES, RATIO, FIXED, M:M´.
    Relation of, to trade, Ch. XIII, Ch. XIV.
      See TRADE.
    See ANALYTICAL TABLE OF CONTENTS.

  "Money in circulation," Ch. VIII, 173, 175, n., 179, 185.

  Money economy, 90, 220, 225, 265, n., 397, 399, Ch. XXI,
          Ch. XXII, 555.

  "Money-funds," distinguished from money, 63, 427, 453, 495-96.

  Money income, distinguished from real income, 89;
    distinguished from quantity of money, 90, 307-310.

  Money market, 32, 62, 221, 222, 319, 406, 427, 430, 453-58, 461,
          495-97, 516-20, 522, n., 524, 529-44, 575-76.

  "Money Post," on New York Stock Exchange, 372, 375, 430-31.

  Money rates, Ch. V, 145, 149, 183, 223, 224-26, 316, 319-20, 378,
          406, 428-32, 453-57, 461, 495, 523-24, 526, 529-30, 534;
    _vs._ interest rates. See INTEREST.
    Relation of, to bank reserves, 378;
      to clearings, 378;
      to international gold movements, 316, 318-20;
      to dividend and interest payments, 522, n.;
      to plans for corporate consolidations, 198;
      to jewelers' profits, 454;
      to trade, 223, 224, 226;
      to volume of speculation, 378, 522, n.

  "Money Trust," 518-20.

  Monism, unsatisfactory metaphysics for social sciences, 571-72.

  Moore, H. L., 237, n., 238, n., 574.

  Morality, theories of, 22-23.

  Moral values, 22-29, 40, 137-38, 480, 562, n., 567-69, 582, 589.

  Morgan, J. P., 140, 519, n., 577;
    J. P. Morgan & Co., 343-44, 375, 515, n.

  "Morning loans," 376, 377, 509, 510.
    See "OVERCERTIFICATIONS."


N

  National banks, 234, 338, 342, n., 343, 345, 347, 355, n., 359, 375,
          498-99, 502-03.

  National City Bank, 375, 521, n., 540, n.

  Negative values, as "real costs," 71, n.

  New York City, 233-35, 259, 259, n., 340ff., 383, 392, 430-31,
          439, n., 502, 503, 506, 511, 514-16, 520, 541-42;
    as "clearing house" for country, 236, 353ff.;
    contrasted with London, 541-42;
    "deposits" in, 233, 340ff., 392, 515;
    "all other deposits" in, 235-37;
    Cotton Exchange, 252, 503, 541;
    Coffee Exchange, 252, 268, 503, 541;
    Stock Exchange. See STOCK EXCHANGE.
    Money market. See MONEY MARKET.
    Clearings. See CLEARINGS.

  Newcomb, Simon, 156.

  Nicholson, J. S., 81-82, 124, 129-32, 134, 151, 167, 325-29.

  "Nominalism" in monetary theory, 433, n., ff.
    See _Staatliche Theorie_.

  "Normal tendency," 176, 218, 254, 262-66, 293, 298-99, 315, 392-93,
          395, 536ff.;
    "normal _vs._ transitional."
    See "TRANSITION PERIODS," STATICS, DYNAMICS.

  Norton, J. P., 179, n., 287, n.

  Note-brokers, 496-97, 499.


O

  "Odd lot" dealings in securities, 249, 370.

  "One house bonds," 147.

  Origin of money, 394, Ch. XXI.

  Ornament, and origin of money, 408ff.

  Orthodox economist, 258, 549, 560.

  "Other collateral security," analyzed, 502ff.

  "Other loans and discounts," analyzed, 500ff.

  "Overcertification," 200, 376, 509, 510.
    See "MORNING LOANS."

  Overcounting in estimates of volume of trade, 168, n., 200, n.,
          230, 243-45, 247, n., 255, 339-40, 364-81.
    See UNDERCOUNTING.

  Overproduction, 258, 550.

  "Over the counter" dealings in securities, 249, 370.


P

  Panics, 174, 273, 435, 446, 448, 520, 548-49, 555.
    See CRISES, BUSINESS CYCLES.

  Paper money, 143, 150, 151, 418, 421, 473, 495, 496, 538;
    inconvertible, 57, 84, 108, 132, 134, 136, 140, n., 141, 321-23,
          391;
    credit theory of, 141, 146.
    See GREENBACKS, AUSTRIA.

  Parasitic occupations, 482;
    gold mining as, 262, n.;
    American banking as, 527.

  Patten, S. N., 558, n.

  Paulsen, F., 22.

  Payments, 177-78, 338, 367, n.;
    proportions of money and checks in, 174, 338, 383, 447, 449, 463;
    wage, 174, 531;
    relation of, to volume of trade.
    See OVERCOUNTING, UNDERCOUNTING, BARTER.

  Pay rolls, money for, 174, 349.

  Pearson, Karl, 237, n.

  Perry, R. B., 3, n., 16, n., 21, n., 25, n., 97, n., 117, n., 118, n.,
          119, n.

  Persons, W. M., 241, n., 276, n.

  Phillips, C. A., 174, n.

  Phillips, Osmund, 272, n., 353, n., 354, n.

  Physiographic factors in social life, 571-73, 574, 590.

  Pierson, N. G., 221, n.

  Pittsburg, "deposits" in, 245-46.

  "Platform" of quantity theorists, 155.

  Poker chips, 132.

  Pope, J. E., 316, 317, 319, n., 502, n., 504, n., 505.

  Populists, and quantity theory, 141.

  Positive doctrine, in Parts I and II, summarized, Ch. XX.

  "Power in exchange," 9-10, 388.

  Pragmatism in economic theory, 41-42, 93, 96-97, 98-99, 553, 571-72.

  Pratt, S. S., 248, n., 251, n., 252, n., 369, 370, 374, 476, n.

  Premium, 146, 194, 322, 332, 390, 442-50, 471.
      See AGIO.
    Gold, _vs._ general price level as index of value of money, 194.

  Prestige as economic power, 33, 37, 41, 405, 409, 411, 438-42, 463,
          465-66, 487, 489, 570;
    prestige values.
    See VALUES.

  Price, Theodore, 222.

  Price, 7ff., 388, 440, n.;
      and value, 8ff., 298.
        See VALUE.
    "Buying price" _vs._ "selling price," 402-04, 406-07, 476;
      "just price," 24.

  Price level, 56, 86, 87, Ch. VI, Ch. VIII, 188-89, Ch. XV, 315-17,
          328, 381-82, 388-89, 416, 416, n., 456, 520-23;
    relation of, to particular prices, 156, 183, 295, 311-12, 315-17,
          388-89;
    _weighted_ average, tied to T, 163ff., 363, 381-82;
    supposed "passiveness" of, 126, 186, 187, 192, 290, Ch. XV, 389;
    "reciprocal of," _vs._ value of money.
    See MONEY, VALUE OF.

  Price-theory _vs._ value-theory, 49, 78, 389, 558-59, 570-77, 589-90.
    See SUPPLY AND DEMAND, COST OF PRODUCTION, CAPITALIZATION THEORY,
          IMPUTATION THEORY.

  Prices, concatenations of, 112-13, 300, 310, 313-14;
    customary, 144;
    fluid, 143;
    world prices, and gold production, Ch. XVIII.

  Private banks, 338, 343-45, 348, 355, n., 357, 488, 498-99, 514-16,
          527-28, 531;
    deposits in, in New York City, 344, 515;
    "deposits" in, in New York City, 343-45, 515-16.

  Produce exchanges, 200, 251ff., 406, 541.
    See SPECULATION, COMMODITY, CHICAGO BOARD OF TRADE, LONDON MONEY
          MARKET, NEW YORK COTTON EXCHANGE, ETC.

  Production, confused with trade. See TRADE.
    Relation of, to trade, 257ff., 269, 393;
      exchange as.
      See EXCHANGE.
    Factors of, 268, 481-82; index of, 278;
      money as instrument of.
      See MONEY.

  "Productive," meaning of, 257, 591.

  Prosperity, theory of, 262, 395, 548, 555, 556, 569, 573ff.
    See STATICS, DYNAMICS.

  Protective tariffs, 550-52, 553, 580-81.

  Pujo Committee, 344, 373, n., 375, 491, n., 515, n., 518-19.

  "Purchasing power," 9-10, 88, 98-99, 484;
    of money, 86, 88, 155-56, 388, 583-86.


Q

  Qualitative _vs._ quantitative thinking, 191-92, 195, 324, 433, n.,
          553, 586-88, 590.
    See JURISTIC _vs._ ECONOMIC THINKING.

  Quantity theory, 42, 79, 81, 99, 110, Pt. II, esp. Ch. XV, 435, n.,
          444, n., 448-49, 478, 520-23, 537ff., 550, 558, n.;
      modicum of truth in, 195, 330, 448-49;
      as basis of prediction, 334-35;
      doctrine of, that quantity of money is of no importance, 219,
          219, n., Ch. XIII, _passim_, 265, 391-92;
      conflicts with other theories, see SUPPLY AND DEMAND, COST OF
          PRODUCTION, CAPITALIZATION THEORY,  IMPUTATION THEORY,
          GRESHAM'S LAW.
    "Long run" _vs._ "short run" versions of, 170-71, 188-89, 192ff.,
          262, 393;
      not a functional theory, 262-66, 400-401;
      not logically related to bimetallism, 219, n.;
      applied to international trade, 61, 129, 183, 280-81, 292,
          Ch. XVI;
      not related to general theory of value, 46ff., 305;
      psychological assumptions of, 143-44, 305, 444;
      relation to medium of exchange function, 152, 266;
      contrasted with commodity theory, Ch. VII, esp. 151-53;
      types of, Ch. VII, Ch. VIII, 172, 177, n., 182-85, 192-94,
          210, n., 216-17, 218, n., 219, n., 220, Ch. XVIII, 521, n.,
          522, n., 537, 538, n.
    See RICARDO, MILL, J. S., TAUSSIG, NICHOLSON, FISHER, WALKER,
          F. A., JOHNSON, J. F., JEVONS, BARBOUR, ANDREW,
          DAVENPORT (p. 218, n.), KEMMERER.


R

  Railway gross receipts, 240-41, 278, 516;
    relation of, to clearings, 240-41.

  "Ranks" or "orders" of goods, 34, 38, 96, 481, 562, n.
    See IMPUTATION THEORY, AUSTRIAN SCHOOL, CAPITALIZATION THEORY.

  Ratio of exchange, 6ff., 25, 92, 388, 584;
    abstract, as value, 25, 92.
    See VALUE, ABSOLUTE _vs._ RELATIVE, PRICE, "PURCHASING POWER."

  Ratio, fixed, M:M´, Ch. IX, 187, 206, 281, 288, 290, 294, 328-29,
          529-44.
    See RESERVES, DEPOSITS, "MONEY IN CIRCULATION."

  Real estate trade. See TRADE.

  Rediscounting, 490, 494, 518-20.

  _Reichsbank._ See GERMANY.

  Religious values, 414.

  Rent, 316, 439-41;
    as cost, 70;
    of money, as "money rates," Ch. IV, 145, 149, 424, 438-42, 451-57;
    capitalization of. See CAPITALIZATION.

  Reserve cities, 233, 343, n., 357, 359, n.

  Reserve function of money, Ch. XVIII, 418, 421, 424, 436, 536-44;
    special case of "bearer of options" function, 426, n., 536ff.
    See FUNCTIONS OF MONEY.

  Reserves, Ch. IX, Ch. XVIII, 393, 395, 447, 451, 491, 517, 529-44;
    bills of exchange as, 181-82, 444;
    legal reserve requirements, 175, n., 184, 447, 448, 449;
    ratio of, to deposits, 175, n., 179, 286-87, 298, 324ff., 529-44;
    ratio of, to "money in circulation," 175, n.;
    relation of, to money rates, 378;
    "secondary reserves," 530.

  Resumption of specie payments, 146, 323.

  Retail "deposits," see "DEPOSITS."

  Retail trade. See TRADE.

  Ricardo, David, 47, 50, 51, 64, 65, 66, 106, 131, 550.

  Ridgeway, W., 407, n.

  Ripley, W. Z., 275.

  Risk, 67, 527, 542-43.
    See DYNAMICS, "BEARER OF OPTIONS."

  Ross, E. A., 37, 568, 571.

  Royce, J., 18, n.

  Rupee. See INDIA.

  Rural banks, 232-35, 491, 517-18;
    "all other deposits" in, 233-35;
    loans by, in Wall Street, 517-18;
    small volume of transactions of, 235, 342, n.


S

  Saleability, 10, 94, 99, 401-07, 430, 440-41, 453, 475-78, 489,
          493ff., 524-25, 526-27, 529, 540ff., 591.

  Santos, coffee speculation in, 252.

  Savings banks, 342, n., 409, 472, 498-99, 523.

  Savigny, F. C., von, 24, 398.

  Schumpeter, J., 44, 49, n., 80, 83, 90-100, 111, 113, n., ff.,
          264, n., 265, 401, 429, n., 484-85, 488, 526, 549, 554-55,
          558, n., 583-86.

  Scott, DR, 78, n.

  Scott, W. A., 13, 48, 81, 132, 141, 144, 327, n., 418, n., 419, n.,
          422, n., 431, n., 498, n., 501, n.

  Seager, H. R., 301, n., 303.

  Sea Board Air Line Adjustment 5's, 471.

  Seasonal changes, 187, 192, 533.

  Seignorage, 131.

  Self, the, 19.

  Seligman, E. R. A., 73, n., 301, n., 418, n., 548.

  Selling costs, 257ff., 393, 565.

  "Selling price" _vs._ "buying price." See "BUYING PRICE."

  Senior, N. W., 14, n., 67.

  Sex, social transformation of, 35-36;
    rôle of, in origin of money, 409-13.

  Shakspere, 25.

  Share sales. See STOCK EXCHANGE, CLEARINGS.

  Shaw, A. W., 259, n.

  Silver, 139, n., 150, 151, 152, 219, 221, n., 327, 397, 412, 414,
          415, 421, 434;
    certificates, 432.

  Simmel, G., 101, 418, n.

  Single tax, 318-19, 552, n.

  Smith, Adam, 12, 50, 64, 65, 222, 526-27, 550, 556.

  Smith, B. F., 366, n.

  Smith, Munroe, 24.

  Social control, Ch. I, 395, 409, 435. n., 482, 584;
    technology of, 577ff., 589, 591;
    "radiant points of," 37, 576.

  Social psychology, 17, 36-37, 143-44, 560, 569-70, 577-78, 586.

  Social value theory, Ch. I, 87, n., 98-99, 137ff., 158, 279, 310-11,
          Ch. XX, 402, n., 408-16, 433, n., 435, n., 438-42, 464-67,
          469, 480, 560, 569-82, 586-89;
    pragmatic character of, 40-42;
    applied to law, 24, 586-89;
    applied to morals, 22-24, 589.

  Social advantage, relation of, to individual interest, 397-99.

  Social "consciousness," 16;
    social expectation, 409;
    social forces, 26;
    "social marginal utility," 12;
    social mind, 7, 12, 34, 87, n., 557, 560, 570, 578;
    social objectivity, theories of, 20ff.;
    social organism, 16, 577;
    social "oversoul," 16;
    "social use-value," 12;
    social _vs._ individual values, 43-45.

  "Socially necessary labor-time," 12, 15.

  Society and individual, 16-26, 118.

  Soetbeer, A., 413, n.

  Sombart, W., 220.

  South Atlantic States, "deposits" in, 233, 246.

  Spahr, C. B., 274.

  Specie, 182.

  Speculation, 60, n., 85, 143, Ch. XIII, 221, 225, 231, 233-41, 248ff.,
          267, 298, 363-64, 382, 392, 503, 514-28, 540ff., 566-67, 579,
          585;
    by manufacturers, wholesalers, and retailers, 243-44, 252-54;
    commodity, 251ff., 379-80, 406, 503, 540-42;
    influence of, on bank clearings, 237-41;
    land, 254;
    in London, 540ff.;
    "odd lot," 249, 370.

  Speculators, 31, 249, 263, 322, 488, 499, 523-27, 529, 544;
    _vs._ investors. See INVESTMENT.

  Spencer, Herbert, 571.

  "Spot" transactions, 251.

  Sprague, O. M. W., 174, n., 200, 354, n., 378, 502, n.

  _Staatliche Theorie_, 433, n., ff.

  Stabilizing the value of money, 152, 194.

  Standard, of deferred payments, 326, 391, 418, 436;
      of value, 133, 201, 390, 418-23.
      See MEASURE OF VALUES.
    Money, 135, 325-26, 421, 445;
      "primary" and "secondary," 422;
      tabular, 152, 436.

  State banks, 234, 322, 338, 342, n., 343, 345, 347, 498-99, 505-09;
    collateral loans in, 505-06, 507.

  Static theory, 11, 42, 93, 106ff., 176, n., 177, n., Ch. X, 219, n.,
          223, 254, 262-66, 292-93, 395-96, 403, 426, 433, n., 474,
          481, n., 485, 487, 488, 536-44, Ch. XXV;
    abstracts from money, 99, 265-66, 392;
    relation of, to speculation, 263ff., 392, 474;
    dynamics and, reconciliation of, Ch. XXV.
    See also, SALEABILITY, LIQUIDITY, FLUIDITY, "NORMAL TENDENCY,"
          EQUILIBRIUM, "WEALTH OF NATIONS, THEORY OF," DYNAMICS,
          TRANSITION PERIOD, PROSPERITY, THEORY OF, GOOD WILL,
          "BUSINESS CAPITAL," FRICTION, HISTORICAL _vs._ CROSS-SECTION
          VIEWPOINTS.

  Statistics, 237, n., 272, n., Ch. XIX;
    of banking assets, 498, 503-04, 506, 509-11;
    of bank-drafts on New York and other centres, 357;
    of "equation of exchange," 191, 213, Ch. XIX;
    of foreign and domestic trade, appendix to Ch. XIII;
    of gold consumption, 412, n.;
    of money in banks, _vs._ money in circulation, 179;
    of money-rates, 430-31;
    of net income of the United States, 246, 247, n., 278;
    of prices, 278;
    of quantity theory, 285, n., Ch. XIX;
    ratio, loans to deposits, 286-87, n.;
    reserves, 178-79, 286-87, n.;
    of speculation, 248ff.;
    of trade, 227ff., Ch. XIII, 363-81;
    "ordinary trade," 240-47;
    of velocity, 339, 361-63.
    See WEIGHTING IN STATISTICS.

  Stevens, W. S., 199, n.

  St. Louis, 246, 252, 289, n., 503; Merchants' Exchange, 253.

  Stock exchange, 31, 145, 254, 282, n., 369ff., 406, 458, 491, 520,
          521-23, 527, 541, 564;
    New York Stock Exchange, 242, 248ff., 268, 344, 430-31, 514, 521-23,
          541;
    clearing house in, 199-200, 369-75;
    share sales on, volume of, 248ff., 521, n., 522, n., 541;
    share sales on, correlated with bank clearings, 237ff., 516;
    bond sales on, 249, 370;
    "odd lot" dealings on, 249, 370, 374;
    security dealings outside, 250-51, 514;
    compared with other exchanges, 250, 541.

  Stocks and bonds, essential identity of, 460-61, 476-77;
    "borrowing" of, 145-46, 371-74, 471-72; value of.
    See VALUE.

  "Stop loss" orders, 249, 373, n.

  Store of value, 314, n., 408, 418, 424, 426, 451.
    Sec FUNCTIONS OF MONEY.

  Substitutes for money. See MONEY, NOT UNIQUE.

  Suess, Eduard, 413, n.

  Suggestion, 18, 36-37, 97, 118, 405, 410, 411, 464-66, 560, 570,
          577-78.

  Supply and demand, Ch. II, 80, 295, 299-300, 311, n., 389, 453;
    applicable to general price level, 299-300, 389;
    assumes fixed absolute value of money, 52ff., 313-14, 389;
    conflicts with quantity theory, 299-300, 310-11, 389;
    not related to quantity theory, 46-47, 59-61, 295;
    inapplicable to money, Ch. II, 389;
    applied to money, 59-62, 325, 453, n.;
    in "money market," 62-63, 224, 453;
    relation of, to cost of production, 50, 69-70;
    relation of, to marginal utility, Ch. II, Ch. V, esp. 94-95,
          and 114, n.


T

  Tabular standard, 152, 436, 451.

  Tarde, G., 18, 37, 466, 568.

  Tariff. See PROTECTIVE TARIFF.

  Taussig, F. W., 48, 49, 107, 123, n., 129, 151, n., 155, 182-85, 192,
          216, 254, 276, n., 379, 532, n., 537.

  "Taxonomy" in economic theory, 563-64, 565, 566.

  Taylor, Jas. H., 252, n.

  Taylor, W. G. L., 13.

  Technology, 571-74, 576, 590-91;
    "technology of social control." See SOCIAL CONTROL.

  Temporal _regressus_. See HISTORICAL _vs._ CROSS-SECTION VIEWPOINTS.

  Thompson, Burton, on barter in New York City real estate dealings,
          198, n.

  Ticker, 248-49, 373, n.

  "Till money," 183, 530, 539.

  Time credit. See CREDIT, FUTURITY, BOOK-CREDIT, BILLS OF EXCHANGE.

  Time discount, Ch. IV, 92, 93, 224.
    See INTEREST, CAPITALIZATION.

  Time, influence of, of money-rates, 428-32.

  Timeless-logical _vs._ causal-temporal, relationships, 403, 548.
    See CAUSATION, STATICS.

  Token money, 325, 326.

  Touzet, A., 412, n.

  Trade, various meanings of, 267ff.;
    "domestic" _vs._ foreign, appendix to Ch. XIII;
    "ordinary," volume of, 241-47, 369.

  Trade, volume of, 59-61, 117, Ch. VI, 144, 149, 159ff., 194, 215,
          Ch. XIII, 332, n., 339-40, 363-81, 521-23;
      an abstract number, distinguished from concrete goods, 161;
      a pecuniary magnitude, 16-64, 271, 277-78;
      confusions of, with production, or with stock, 225ff., 281,
          296, n., 306-07, 363, n., 521, n.;
      governed by dynamic causes, 262-66, 392, 474;
      quantity theory doctrine of causes governing, 217-18, 218, n.,
          240, 255, 256, 257, 294, 522, n.;
      real estate trade in, 198, 254, 264, 317;
      relation of, to money and credit, Ch. XII, Ch. XIV, 391-92,
          532-36;
      relation of, to price level, 160-66, 363, 381-82, 536;
      retail trade in, 173, 184, 232, 242-44, 369, n., 444-45, 447,
          448-49, 463, 489, 531;
      speculation chief factor in, Ch. XIII.
      See SPECULATION.
    Wholesale trade in, 232, 243, 244-46, 253-54, 369, n., 381.
      See also BARTER, TRANSACTIONS, PAYMENTS, OVERCOUNTING,
          UNDERCOUNTING.

  "Transactions, total," relation of, to bank clearings, 348-51, 353,
          359, n., 360;
    relation of, to "deposits," 349-51, 353.

  "Transition periods," Ch. X, 196, 218, 262-66, 293, 298-99, 392-93,
          537ff., 548, 578-81, 589.
    See "NORMAL TENDENCY," STATICS, DYNAMICS.

  Trosien, 319, n.

  Trust companies, 338, 342, n., 343, 345-48, 498-99, 505-09, 516, n.;
    New York City, "deposits" in, 345-48;
    clearings of, 345-47;
    deposits of, 345, 516, n.;
    collateral loans of, 505-07;
    reserves of, 346-47, 531

  Turgot, 78, n., 301, n.


U

  Undercounting in estimates of volume of trade, 168, n., 200, n.,
          231, n., 364-65, 369-81.
    See OVERCOUNTING, BARTER.

  Underwriters, 32, 488, 523, n.

  Urban, W. M., 29, n.

  "Use theory." See INTEREST.

  Utility. See MARGINAL UTILITY.


V

  Vacuum, monetary, 323.

  Value, Part I, 388-89 and _passim_;
      absolute _vs._ relative, 7ff., 56-57, 77-78, 81, 86ff., 109-110,
          123, 156, 158-59, 303, 312, 328, 388-89, 402, n., 440, n.,
          449;
      abstract units of, 451;
      exchange and, 9-11, 401ff., 483-84;
      wealth and, 5, 41, 388;
      as generic, 26, 288, 467;
      _differentiæ_ of species of, 26ff.;
      as quality, 5, 41, 97-98, 388;
      as quantity, 5, 41, 97, 98, 388;
      control over, 575ff.;
      causal theory of. See CAUSAL THEORY.
    Definition of, 5-7, 388;
      derived, becomes independent, 40, 137ff., 391, 480, 481, n.,
          562, n., 563, n.
      See also IMPUTATION THEORY, CAPITALIZATION THEORY, RANKS OR ORDERS
          OF GOODS.
    Formal and logical aspects of, 5ff., 41, 86, 98, 388-89, 401-02, n.;
      functions of, 10, 27, 43, 57, 87, n., 388, 440, 487, 552, 562, n.,
          572, 585-86;
      "human nature," 30, n.;
      "inner objective," 13, 88, 110, 402, n.;
      institutional. See INSTITUTIONAL VALUES.
    "Intrinsic," 24;
      "intrinsic causes of," 14, n.;
      objective, 85, 87, 100;
      of consumers' goods, 34ff., 300;
      of diamonds, 438-42;
      of gold. See GOLD.
    Of instrumental goods, 38ff., 297, 300ff., 304, 467;
      of money. See MONEY and ANALYTICAL TABLE OF CONTENTS.
    Of stocks and bonds, 30-31, 32, 36-41, 300ff., 462;
      "participation," 29, 30, n.;
      "personal," 19, 86, 88, 89;
      "prestige," 410-11, 438-42, 452-53;
      "public economic," 13, 86, 88, 89;
      "something physical," 135;
      subjective, 85, 86, 88, 99, 100, 401-02, n.;
      subjective, in exchange, 88, 89, 91, 99, 100, 101, 112-119,
          137, n.
      See MONEY, VALUE OF, SOCIAL VALUE, PRICE, RATIO OF EXCHANGE,
          "PURCHASING POWER," "POWER IN EXCHANGE," MARGINAL UTILITY,
          COST OF PRODUCTION, SUPPLY AND DEMAND, ETC.

  Value theory _vs._ price theory. See PRICE THEORY.

  Values, concatenation of, 313-14;
    simultaneous rise or fall of, 8.

  Van Antwerp, W. C., 372, n., 374, n.

  Van Hise, C. R., 208, n.

  Variables and constants, 97, 119, 143-44, 204-05, 256-57.

  Veblen, T. B., 37, n., 411, 439, 477, n., 556, 560-64, 569, 570, 580,
          582, 585.

  Velocity of circulation, 85, Ch. VI, 117, 131, 143, 194, Ch. XII, 290,
          292, 298, 309, 310, 333, n., 339, 361-63, 394;
    "coin transfer" _vs._ "person-turnover" concepts of, 203-04, 308;
    as causal entity, 204, 209, 213-13, 214;
    quantity theory analysis of causes governing, 143, 203, 205ff., 309;
    most highly flexible factor in "equation of exchange," 205;
    varies with trade, 209ff., 306-08, 394;
    varies with prices, 308-10, 394;
    varies with value of money, 215;
    meaningless abstract number, 204.


W

  Wagner, A., 25, n.

  Walker, Amasa, 401, n.

  Walker, F. A., 46, 62, 169, 170, n., 219, 220, n., 237, 414, n.,
          419, n., 521, n.

  Wall Street. See NEW YORK CITY, STOCK EXCHANGE, NEW YORK CITY CLEARING
          HOUSE, SPECULATION, MONEY MARKET, "MONEY TRUST," ETC.

  Walras, L., 91, n.

  Walsh, C. M., 188, n.

  Wants, social nature of, 35ff.;
    competitive. See COMPETITIVE DISPLAY.

  War, 108, 140, n., 194, 427, 549-51;
    World War, 136, 139, n., 142, 416, 427, 481, 521, 539, 550, n.;
    American securities returned during, 521, n.

  War loans, 463, n., 464, n., 480-81.

  Wealth, 440;
    definitions of, 5, n.;
    relation of, to value, 5;
    distribution of. See DISTRIBUTION OF WEALTH.

  "Wealth of nations," theory of, 262, 395, 556, 569.

  Weighting, in statistics, 163ff., 229, 229, n., 272, n., 341, 361,
          383.

  Weston, N. A., 339, 341, 342, n., 360.

  Wheat as money, 407.

  Whitaker, A. C., 65, 154, 319, n.

  White, Horace, 209, 211, 345, n., 401, n.

  Wholesale "deposits." See "DEPOSITS."
    Trade. See TRADE, VOLUME OF.

  Wicksell, Knut, 128.

  Wicksteed, P. A., 91, n., 115, n., 116, 117, 214.

  Wieser, F. von, 14, 48, 49, 70, 80, 83-90, 99, 100, 101, 102, 106,
          109, 111, 308, n.

  Williams, A., 152.

  Williams, Clark, 347.

  Willoughby, W. W., 18, n.

  Wilson, E. B., 164, 165.

  Withers, Hartley, 221, 222, 540, n.

  Wittner, Max, 289, n.

  Wolfe, O. Howard, 349, 353, n., 359, n.

  Wolff, S., 289, n.


X

  _xy = c_, 149.


Y

  Yule, G. U., 237, n.


Printed in the United States of America

       *       *       *       *       *




FOOTNOTES


[1] _Social Value_, Houghton Mifflin, Boston, 1911.

[2] Cooley, C. H., "Valuation as a Social Process," _Psych. Bull._, Dec.
15, 1912; "The Institutional Character of Pecuniary Valuation,"
_American Journal of Sociology_, Jan. 1913; "The Sphere of Pecuniary
Valuation," _Ibid._, Sept. 1913; "The Progress of Pecuniary Valuation,"
_Quart. Jour. of Econ._, Nov. 1915. Clark, J. M., "The Concept of
Value," and "A Rejoinder," _Quart. Jour. of Econ._, Aug. 1915. Anderson,
B. M., Jr., "The Concept of Value Further Considered," _Ibid._;
"Schumpeter's Dynamic Economics," _Pol. Sci. Quart._, Dec. 1915. Perry,
R. B., "Economic Value and Moral Value," _Quart. Jour. of Econ._, May,
1916. Bilgram, Hugo, "The Equivalent Concept of Value," _Ibid._, Nov.
1915. Haney, L. H., "The Social Point of View in Economics," _Ibid._,
Nov. 1913 and Feb. 1914. Johnson, A. S., in _American Economic Review_,
June, 1912, pp. 320 _et seq._ Carver, T. N., in _Jour. of Pol. Econ._,
June, 1912. Mead, G. H., in _Psych. Bull._, Dec. 1911. Ellwood, C. A.,
in _American Jour. of Sociology_, 1913. Ansiaux, M., in _Archives
Sociologiques, Bulletin de l'Institut de Sociologie Solvay_, May 25,
1912, pp. 949-55.

Professor Cooley's articles, which I have listed first in this note,
have in certain important particulars shifted the emphasis and changed
the method of approach. He is more interested in the general
sociological aspects of the value problem than in the technical economic
aspects. In considering economic value, he is more interested in its
general social functions than in its function as a tool of thought for
the economic theorist. He has, therefore, been less bound by schemata
than I have in the discussion. This different method of approach,
coupled with a singular charm in exposition which characterizes
everything Professor Cooley writes, makes it seem probable to me that
readers who may find the doctrine as I set it forth unconvincing, will
be convinced by Professor Cooley's exposition. I hope, too, that
Professor Cooley's articles, which have been scattered among three
periodicals, may soon appear together under one cover.

[3] Including many whose formal definitions are quite different, and who
would repudiate the contentions here advanced! _Cf._ my article, "The
Concept of Value Further Considered," _Quarterly Journal of Economics_,
Aug. 1915, and _Social Value_, chs. 2 and 11.

[4] Definitions of wealth differ, and there are few if any definitions
of wealth broad enough to make it true that only items of wealth have
value. All wealth has value, but not all value is embodied in wealth.
Thus, stocks and bonds, and "good will" have value. Few writers would
classify them as wealth. The distinction between wealth and property is
employed by many writers to meet the difficulty here presented, and it
is held that these intangibles have only the value of the wealth to
which they give title. In a logical schema, on the assumption of a
fluid, static equilibrium, this may serve. It is true in fact, however,
that many of these intangibles have value apart from the wealth to which
they give title. But these are complications which I reserve for a later
part of this chapter, for the chapter on "Statics and Dynamics," and (in
the case of irredeemable paper money) for the chapter on "Dodo Bones."

[5] The notion of ratio of exchange as a ratio between values is
strictly accurate only under static assumptions. Goods, in actual life,
are not always exchanged strictly in accordance with their values. _Cf._
my article, "The Concept of Value Further Considered," _Q. J. E._, Aug.
1915, pp. 698-702. In cases where prices, or exchange relations, are not
in accord with values, the term "ratio of exchange" is inapplicable,
since there are no quantities to be terms of the ratio--except the pure
abstract numbers of the commodities, each measured in its own unit,
exchanged.

[6] In chapter 17 of _Social Value_, I have followed the German usage in
broadening the term, price, to cover all exchange relations. This has
led to misunderstanding on the part of some readers, and it has seemed
best to me to return to what appears to be the more familiar usage. It
is purely a question of convenience. Practically, ratios of exchange
which are not money-prices rarely come in for discussion, outside the
preliminary chapter on definition! Professor Fetter, in his article on
the "Definition of Price," in the _American Economic Review_, Dec. 1912,
proposes to broaden the term price in the manner which I am here
abandoning, and his count of economists would seem to leave usage about
equally divided between the broader and narrower uses of the term. It
does not seem to me to be a point worth arguing about, however, and
since I am practically convinced that cause of misunderstanding will be
removed by using price to mean "money-price," I shall so use the term in
this book, using ratio of exchange, or exchange relation, to express the
broader concept.

[7] E. g., Böhm-Bawerk, _Grundzüge der Theorie des wirtschaftlichen
Güterwerts_, Conrad's _Jahrbücher_, 1886, p. 478, n.; Carver, "Concept
of an Economic Quantity," _Quarterly Journal of Economics_, 1907.

[8] This distinction is elaborated _infra_, in the chapter on the
"Origin of Money."

[9] It is a matter of high importance that the value notion should be
extended beyond exchange, if the economist is to be able to apply his
theory to such highly important economic problems as socialism. _Cf._
Schäffle, _Quintessence of Socialism_, and Clark, J. M., _Quart. Jour.
of Econ._, Aug. 1915, p. 710.

[10] As shown, _infra_, in the chapters on "Supply and Demand," "Cost of
Production," "Capitalization Theory," etc.

[11] _Vide Social Value_, p. 176, n. _Cf._ Davenport, _Value and
Distribution_, chapter on "Ricardo."

[12] Knies, _Das Geld_, vol. I of _Geld und Credit_, Berlin, 1873, pp.
113-125, esp. 124.

[13] Chapter on "Value" in the _Philosophy of Wealth_, and ch. 24 of the
_Distribution of Wealth_.

[14] _Social Value_, ch. 7.

[15] T. S. Adams, "Index Numbers and the Standard of Value," _Jour. of
Pol. Econ._, vol. x, 1901-02, pp. 11 and 18-19; Kinley, "Money", p. 62;
W. G. L. Taylor, "Values, Relative and Positive," _Annals of the Amer.
Acad._, vol. ix; Merriam, L. S., "The Theory of Final Utility in its
Relation to Money and the Standard of Deferred Payments," _Annals of the
American Acad._, vol. iii. and "Money as a Measure of Value," _Ibid._,
vol. iv; Scott, W. A., "Money and Banking", 1903 ed., ch. III. Professor
Scott, in a letter to the writer, expresses the opinion that a value
concept which makes the value of a good a quantity, socially valid,
regardless of the particular holder of the coin or commodity in
question, and regardless of the particular exchange ratio into which the
value quantity enters as a term, "is absolutely essential to the working
out of economic problems." Johnson, A. S., "Davenport's Economics and
the Present Problems of Theory," _Quarterly Journal of Economics_, May,
1914, and _American Econ. Rev._, June, 1912, p. 320.

[16] Cf. also Wieser's _Natural Value_, p. 53, n. Senior's "intrinsic
causes of value" comes to the same thing.

[17] Cf. _Quarterly Journal of Economics_, Aug. 1915, pp. 681-82, esp.
681, n.

[18] Among the leading figures in economics to whom this doctrine is
unacceptable, I would mention especially Professor H. J. Davenport,
_Value and Distribution_ and _The Economics of Enterprise_. A writer who
seeks to minimize the importance of the issue between the relative and
the absolute conceptions of value is Professor J. M. Clark, in
_Quarterly Journal of Economics_, Aug. 1915. Professor Clark seems to
agree with much of what has been said here, and the present writer would
agree with Professor Clark, as indicated above, that for many purposes
we do not need to look behind prices--entering a _caveat_ that this is
true only so long as we can assume a fixed absolute value of money.

[19] The psychology of this statement, which involves hedonism, needs
improvement, but the issue need not be discussed here. _Cf. Social
Value_, ch. 10.

[20] As Professor R. B. Perry, _Quart. Jour. of Econ._, May, 1916.

[21] In this I am following a line of thought developed by Professor
John Dewey in a lecture delivered before the Harvard Philosophical Club
in 1913-14.

[22] For the elaboration of these ideas, cf. Hegel, _Philosophy of
History_, _passim_; Willoughby, _The Nature of the State_, _passim;_
Davidson, T., _History of Education_, New York, 1900, _passim_;
Bosanquet, B., _Philosophical Theory of the State_; Royce, J., _The
World and the Individual_.

[23] Tarde, _Laws of Imitation_; Baldwin, _Social and Ethical
Interpretations_.

[24] _Human Nature and the Social Order._

[25] _Cf._ Ellwood, C. H., _Some Prolegomena to Social Psychology_,
Chicago, 1901, and Cooley, C. H., _Social Organization_, New York, 1909.
See also _Social Value_, ch. 9.

[26] _Cf. Social Value_, ch. 8. H. J. Davenport is the best modern
representative of this extreme individualism in economics. Individualism
is nearly dead in modern political, ethical, and sociological theory.
Revivals of it appear, however, in W. Fite, _Individualism_, and in a
recent article by R. B. Perry, "Economic Value and Moral Value," _Quart.
Journal of Economics_, May, 1916. (I have discussed Professor Fite's
views in the _Pol. Sci. Quart._ of June, 1912.) Professor Perry would
there appear to reduce ethical value to a purely individual phenomenon.
But he really brings in a "categorical imperative," not derived from the
values of the individual, by the "back door." "Now our general moral law
prescribes that an agent shall take account of all the interests which
his conduct affects, or shall judge his conduct by its consequences all
round." (_Loc. cit._, p. 481.) Just how this "general moral law" is to
be derived from individual values, is not made clear. That the wants of
every man should count equally with the wants of the agent is a
principle which one would expect from Kant or Fichte, but hardly one
which individualism can expect to maintain.

[27] I use "volition" here in that wide sense which makes it cover both
the motor and the affective phases of mind. Munroe Smith would emphasize
the motor aspect, where Savigny stresses feeling and sentiment.

[28] "Jurisprudence," a lecture delivered before the faculty of Columbia
University, Feb. 1908, New York, The Columbia University Press, 1909, p.
14.

[29] I ran across this in Wagner's _Grundlegung_. Wagner had found it in
Raul. It is from _Troilus and Cressida_, Act II, Scene II.

[30] Davenport, _Value and Distribution_, pp. 184, n., and 330-31, n.;
Jevons, _Theory of Political Economy_, pp. 14, 78-84, esp. 83. _Cf.
Social Value_, ch. 4. This seems to be the position of Professor R. B.
Perry, also, though he is not so extreme as Davenport. _Loc. cit._

[31] This term carries no connotation of teleology, as here used. I am
merely trying to state what the different kinds of value _do_, as a
matter of fact.

[32] The _extent_ to which the values of consumption goods and services
are reflected in other economic values will receive attention below, in
the present chapter.

[33] _Cf. Social Value_, p. 125, and Urban, _Valuation, passim_. Urban's
idea of "participation values" is better expressed by Cooley's phrase,
"human nature values," while Cooley's excellent phrase, "institutional
values" characterizes the more complex values in which classes and
institutions are specially _weighted_. _Cf._ Cooley's articles referred
to above, and _Social Value_, chs. 11-15, inclusive.

[34] "The Institutional Character of Pecuniary Valuation," _American
Journal of Sociology_, Jan. 1913, p. 546.

[35] This, unfortunately, is not high praise, as the Federal Judiciary
in general sets a lamentably low standard in these matters.

[36] Neither "desire" nor "satisfaction" is really accurate here, but I
do not wish to digress for a discussion of the psychology of value in
the individual mind. The present argument can be developed without it.
The matter is discussed in detail in ch. 10 of _Social Value_.

[37] Ross, E. A., _Social Psychology, passim_.

[38] _Cf._ Veblen, T. B., _Theory of the Leisure Class_, and Carlile, W.
W., _Evolution of Modern Money_.

[39] _Social Value_, chs. 3-7, esp. ch. 5.

[40] But land does often have value which it is impossible to explain on
the basis of any income which may reasonably be expected from it, even
in the remote future.

[41] P. 174.

[42] _Cf._ the discussion of Wieser, Schumpeter and von Mises in the
chapter on "Marginal Utility," _infra_.

[43] Flux, W. A., _Economic Principles_, London, 1904, pp. 4, 27, 29;
Taussig, F. W., _Principles of Economics_, New York, 1911, vol. I, pp.
141-143. _Cf._ my _Social Value_, ch. 5.

[44] _Cf._ the present writer's _Social Value_, chs. 3-6, inclusive.

[45] I am here abstracting from an important factor, namely, that not
all prices are affected equally by changes in the value of money. Some
prices are fixed by law and custom, and some incomes are tied by long
time contracts. Thus, it will happen, in many cases, that supply and
demand for a given good will be unequally affected by a change in the
value of money. This means that certain values are _tied_ to the value
of money, rising and falling with it, so that the amount of _power_
which some elements in the economic situation are able to exert through
supply-price-offer and demand-price-offer are at the mercy of changes in
the value of money. But this is an element which is incalculable, on the
basis of the supply and demand concepts, and must be abstracted from if
we are to make any definite assertions as to the effect of increase or
decrease of demand in the active sense on supply in the passive sense,
or vice versa. Unless we make this abstraction, and unless we assume a
fixed value of money, we might find increase of demand in the active
sense (nominal) leading sometimes to an increase, and sometimes to a
decrease of supply in the passive sense, or rather, being accompanied by
either increase or decrease of supply in the passive sense. No law would
be possible. In practice, both of these abstractions are more or less
consciously assumed.

[46] I think that it is a feeling that Mill has left out the
psychological factors in supply and demand which led Cairnes to the
effort to give definiteness to other and vaguer notions on the subject.

[47] _Cf. Social Value_, ch. 2; "The Concept of Value Further
Considered," _Quart. Jour. of Economics_, Aug. 1915. For the doctrine
that supply and demand, and other elements of current price theory,
assume a fixed absolute value of money, see _Social Value_, p. 166, n.,
and ch. 17.

[48] _Leading Principles_, ch. on "Supply and Demand."

[49] _Cf. Social Value_, pp. 29-30, and 64-71.

[50] _Cf._ the discussion, _infra_, of "T" in the "equation of
exchange."

[51] Cotton is chosen for this illustration because it has actually
happened, more than once, that a large crop has sold for a smaller
aggregate price than a smaller one. Thus, not to take an extreme
illustration, the crop of 1910-11 was 11,568,334 bales. That of 1911-12
was 15,553,073 bales. The average price of spot cotton at New York from
Oct. 1910 to June, 1911, inclusive, was almost 15c. per lb.; the average
price of spot cotton in New York during the same months in 1911-12 was
not quite 10 cents per lb. On this basis, the eleven million odd bales
of 1910-11 sold for substantially more than the fifteen million odd
bales of 1911-12.

[52] Nor is there anything in the hypothesis to reduce the number of
times any good needs to be exchanged against money. Rather there would
be an increase of exchanging, as speculation took place to bring about
the needed readjustments. For the present, I abstract from this. _Cf.
infra_, the chapter on "Volume of Money and Volume of Trade."

[53] I shall recur to this point in the chapter on "The Quantity Theory
and International Gold Movements."

[54] _Quart. Jour. of Economics_, 1894-95, p. 372.

[55] _Cf._ Davenport, _Value and Distribution_, and Whitaker, _Labor
Theory of Value_.

[56] _Cf. Social Value_, pp. 29-30; 64-71.

[57] I incline to the view that the explanation of costs by foregone
positive values needs supplementing by a recognition of the rôle of
_negative social values_, and that thus interpreted, "real costs" have a
minor part to play. But I have not thought the matter through
satisfactorily, and shall find no occasion to use the doctrine in the
present volume.

[58] This doctrine as applied to rates on call loans appears in
Seligman's _Principles of Economics_, 1912 ed., p. 395. The
peculiarities of call loans have also been discussed by C. A. Conant,
_Principles of Money and Banking_, I, p. 171. Conant there refers to a
discussion by Joseph F. Johnson, in _Pol. Sci. Quarterly_, Sept. 1900,
p. 500. There are some very interesting distinctions between the "hire
price" and the "purchase price" of money developed by J. A. Hobson, in
his _Gold, Prices and Wages_, pp. 153 _et. seq._

[59] One "pure rate" of interest, for loans of all periods over, say,
three years, is doubtless, a myth, or better, a methodological device
for simplifying thinking in connection with the theory of interest, and
the capitalization theory. It is not necessary for our purposes,
however, to give detailed analysis to the notion. We shall discuss the
capitalization theory as we find it, assuming that, as a matter of fact,
the difference between loans of 20 years and loans of 35 years, or in
perpetuity, of equal quality in other respects, may be abstracted from,
with safety.

[60] The price-level is a _weighted_ average. These elements dominate
it. _Cf._ our discussion, in the chapter on the "Volume of Money and the
Volume of Trade," _infra_, of the elements entering into trade. We shall
make use of the capitalization theory at various points in our
discussion of general prices. _Cf._ the chapter on "The Passiveness of
Prices," where it is shown that the capitalization theory and the
quantity theory are irreconcilable.

[61] There is an extensive body of controversial literature connected
with the capitalization theory, which it is unnecessary, for present
purposes, to consider. One interesting line of doctrine is that
developed by DR Scott (_Jour. of Pol. Econ._, Mar. 1910) and H. J.
Davenport (_Yale Review_, Aug. 1910), in which ordinary formulations are
criticised as assuming a "social rate" of interest, and in which the
effort is made to work the thing out on the basis of extreme
individualization, each man having a rate of discount of his own. I have
accepted the doctrine in the general form in which it has been developed
by Böhm-Bawerk (in criticism of Turgot and Henry George in his _Capital
and Interest_), by Fetter, in his _Principles of Economics_, and by
Fisher in his _Rate of Interest_, abstracting from points on which these
writers disagree. My criticism of their doctrines, were it necessary
here to develop it, would rest on the ground that their treatment of the
general interest problem is too individualistic, and I should side with
them as against Scott and Davenport. But these matters are aside from
our present problem.

In our chapter on "Marginal Utility" we shall meet the capitalization
theory again, as applied to the value of money by David Kinley. We shall
also take it up in the chapters on "Dodo Bones," and "The Functions of
Money."

[62] _Social Value_, chs. 3-7. The point is discussed _infra_ in the
present chapter.

[63] Fisher, I, _Purchasing Power of Money_, p. 32.

[64] Edition of 1903.

[65] _Cf._ the chapter on "Dodo Bones," _infra_.

[66] _Cf._ Menger's art. "Geld," Conrad's _Handwörterbuch_, 328, 3rd
ed., vol iv, p. 566.

[67] _Cf._ Helfferich, _Das Geld_, ed. 1903, p. 480.

[68] Discussed more fully _infra_, chapter on "Dodo Bones."

[69] I make virtually no reference to the "spoken" part, which is
chiefly concerned with index numbers.

[70] Chapter on "Dodo Bones."

[71] Chapter on "Barter."

[72] In its psychological explanation, this bears somewhat the same
relation to the social value concept of the present writer that the
social mind concept of Giddings and Lewes bears to the social mind
concept of the present writer. _Cf._ _Social Value_, ch. 9. Wieser's
concept excludes individual peculiarities. It is an abstraction from
individual values, a distillation of their common essence. The social
value concept of the present writer is a focal point in which are
summarized all the individual values, whether alike or divergent, and
not merely the individual marginal utilities of the goods in question
(Wieser's only factors) but also the individual emotions which affect
the distribution of wealth. Wieser's concept is based on a study of
individual marginal utilities considered as atomic elements; that of the
present writer looks on the social mind as an organic whole, in which
individual mental processes are phases, and does not try to synthesize a
social value out of elements, but rather, to analyze it into elements.
In the function in economic theory for which they are destined, however,
the two concepts have much in common. Both seek to be the fundamental
economic quantity. Both seek to be causal forces, lying behind prices,
even though expressed in prices; both oppose the conception of value as
merely relative.

[73] _Social Value_, chs. 5, 6, 7, and 13. _Infra_ in the present
chapter.

[74] See especially the chapter on "The Passiveness of Prices."

[75] _Cf._ the writer's "Schumpeter's Dynamic Economics," _Political
Science Quarterly_, Dec. 1915. Schumpeter's theory, as there presented,
is based on the brief discussion in his _Theorie der wirtschaftlichen
Entwicklung_ (Leipzig, 1912), pp. 61 et seq., 105, 166-667, 116, 464,
and on Schumpeter's verbal expositions of the theory during his American
trip. Since that account was published, Professor W. C. Mitchell has
given an account of Schumpeter's doctrine, based on the fuller
discussion in Schumpeter's _Wesen und Hauptinhalt der theoretischen
Nationalökonomie_, which is in accord with the account here given.
(Mitchell, in _Papers and Proceedings_, Supplement to March, 1916,
_American Econ. Rev._, p. 150.) Mitchell attributes the essential
elements of Schumpeter's theory to Walras. The first exposition in
English of the conception, so far as the present writer is aware, is in
Irving Fisher's _Mathematical Investigations in the Theory of Value and
Prices_, _Trans. Conn. Acad. of Arts and Sciences_, 1892. Professor
Fisher, in his preface, accords priority to Jevons, Auspitz and Lieben,
and to Walras. The conception is not to be found in Jevons, though many
of the ideas involved in it are. The first non-mathematical exposition
of the doctrine, so far as I know, is by Schumpeter. As will be made
clear in a footnote at the end of the present chapter, neither Wicksteed
nor Davenport has really forced the problem through, to the full
equilibrium picture, and neither has escaped the Austrian circle. I do
not concur with Professor Mitchell's interpretation of Wicksteed on this
point. It may well be that mathematical method, with a system of
simultaneous equations, was necessary for the development of the idea.
If so, it illustrates both the strength and the weakness of mathematical
economic theory: it clarifies thinking, but it gets no causal theory! At
all events, no causal theory emerges in this case.

[76] _Positive Theory of Capital_, Bk. IV, and _Grundzüge der Theorie
des wirtschaftlichen Güterwerts_, in Conrad's _Jahrbücher_, 1886. The
writer who would adhere to Schumpeter's doctrine must give up all notion
that any individual occupies a critical "marginal" position. All men are
equally marginal in Schumpeter's scheme.

[77] _Positive Theory of Capital_, p. 156.

[78] Schumpeter's scheme gives no money-prices. No form of this scheme
gives any quantitative values. Nothing but ratios can come from it.

[79] _Supra_, chs. on "Value" and "Supply and Demand."

[80] See, _infra_, the chapters on "Volume of Money and Volume of
Trade," and "The Functions of Money."

[81] _Infra_, chs. on "Origin of Money," "Functions of Money," and
"Credit."

[82] _Supra_, ch. on "Supply and Demand."

[83] See note at the end of this chapter.

[84] _Supra_, chapter on "Cost of Production."

[85] That this is wholly alien to Böhm-Bawerk's thought is sufficiently
indicated by Böhm-Bawerk's vigorous criticism of Professor J. B. Clark,
in "The Ultimate Standard of Value," _Annals of the American Academy_,
vol. v, pp. 149-209. It may be noticed that Schumpeter makes use of
Menger's and Böhm-Bawerk's general doctrine of imputation of the value
of goods of the first order to goods of higher orders, without seeing
that his equilibrium picture gives no basis for such a procedure.

[86] _Cf._ comments on Professor R. B. Perry's view, in the long note at
the end of this chapter.

[87] _Cf._ Böhm-Bawerk, _Grundzüge_, etc. (_loc. cit._), pp. 5, 478, n.;
_Social Value_, chs. 2 and 11; J. M. Clark and B. M. Anderson, Jr., in
_Quarterly Journal of Economics_, 1915--"The Concept of Value." I may
add that this equilibrium scheme is, in my judgment, equally useless as
the basis of a hedonistic theory of _welfare_, since it is _absolute_
amounts of utility that are significant there.

[88] _Theorie der wirtschaftlichen Entwicklung_, pp. 83-84.

[89] _Loc. cit._, ch. 3, part ii.

[90] _Ibid._, p. 199.

[91] For the assimilation of credit phenomena to the general phenomena
of value, by means of the social value doctrine, see _infra_ our section
on "Credit." The social value doctrine is still further generalized in
the chapter on "The Reconciliation of Statics and Dynamics."

[92] _Ibid._ p. 169.

[93] _Vide Mathematical Investigations_, _loc. cit._, p. 62, where
Fisher assumes _one_ price to be unity, "to determine a standard of
value." _Purchasing Power of Money_, pp. 174-175.

[94] _Loc. cit._, pp. 72 _et seq._

[95] Pp. 132-136.

[96] See _Social Value_, chs. vi and vii.

[97] Bk. ii, ch. vi.

[98] "_Cf._ Davenport, _Value and Distribution_, 560. 'For, in truth,
not merely the distribution of the landed and other instrumental,
income-commanding wealth in society, but also the distribution of
general purchasing power ... are, at any moment in society, to be
explained only by appeal to a _long and complex history_ [italics mine],
a distribution resting, no doubt, in part upon technological value
productivity, past or present, but in part also tracing back to bad
institutions of property rights and inheritance, to bad taxation, to
class privileges, to stock-exchange manipulation ... and, as well, to
every sort of vested right in iniquity.... _But there being no apparent
method of bringing this class of facts within the orderly sequences of
economic law, we shall--perhaps--do well to dismiss them from our
discussion_....' [Italics are mine.] It may be questioned if the
'orderly sequence' is worth very much if it ignore facts so decisive as
these! It is precisely this sort of abstractionism which has vitiated so
much of value theory. Most economists slur over the omissions; Professor
Davenport, seeing clearly and speaking frankly, makes the extent of the
abstraction clear. We venture to suggest that the reason he can find no
place for facts like these within the orderly sequence of his economic
theory is that he lacks an adequate sociological theory at the basis of
his economic theory. A historical _regressus_ will not, of course, fit
in in any logical manner with a synthetic theory which tries to
construct an existing situation out of existing elements. Our plan of a
_logical_ analysis of existing psychic forces makes it possible to treat
these facts which have come to us from the past, not as facts of
different nature from the 'utilities' with which the value theorists
have dealt, but rather as fluid psychic forces, of the same nature, and
in the same system, as those 'utilities.'"

[99] Of course, we do not mean to question the immense light which
history throws upon the nature of existing social forces.

[100] _Theory of Political Economy_, 4th ed., p. 34.

[101] Art. "Geld," in _Handwörterbuch der Staatswissenschaften_.

[102] _Cf._ Helfferich, _Das Geld_, Leipzig, 1903, for the same
terminology, pp. 485-486.

[103] Exchange creates _values_. It does not necessarily create
_utilities_. Wheat going from a famine-stricken part of India to a place
where it will sell for higher prices does not gain in utility thereby.

[104] A possible exception to this general statement might be made for
Professor H. J. Davenport, who would insist that his version of the
utility theory is based on "relative marginal utility," rather than on
marginal utility in Böhm-Bawerk's fashion. No critic has been more
merciless than he in the criticism of the Austrian confusions of
demand-curves with utility-curves, etc. But it is not clear to me that
Professor Davenport has freed himself from the general doctrine that he
criticises. I am not sure that he would accept Schumpeter's version of
the Austrian theory as correct. It may be possible to _read_
Schumpeter's doctrine _into_ chapter 7 of Davenport's admirable
_Economics of Enterprise_, but it is not clear that one could read it
_in_ the chapter! That individual price-offer depends on the marginal
utilities of alternative goods, in comparison with the marginal utility
of the good in question, Davenport does emphasize. But the complication
that not merely the utilities of alternative goods, but also their
_prices_, have to be taken into account, and that this involves circular
reasoning when an effort is made to give a summary of the whole system
of prices by means of individual utility calculations, he does not, so
far as I can see, grapple with. He summarizes the thing on p. 104: "The
steps, then, are from (1) utility to (2) marginal utility, thence to (3)
the comparison of marginal utilities, and finally to (4) price-offer."
He takes no account here of the complication that the third step is in
large degree a comparison, not of marginal utilities proper, but rather,
of "subjective values in exchange." Yet just in this lies a vital
difficulty of utility theory, in so far as it attempts to explain
causation. Moreover, Professor Davenport is seeking to explain the
_causal_ relation of utility to _demand_, the old Austrian problem. The
explanation of demand is, indeed, the problem with which all theories of
value must come to terms, if they are to be of any use. As we have seen,
Schumpeter's schema has no bearing whatever on the explanation of
demand, or on _causation_ of any sort. Schumpeter's scheme leaves money
out, and demand-curves run in money terms. Davenport's scheme assumes
money--and "purchasing power." (_Loc. cit._, 91.) We have seen in the
chapter on "Supply and Demand" that the notion of demand and supply
involves money and a fixed absolute value of money. Professor Davenport
is thus doubly assuming value, the thing to be explained! Laws of
"relative marginal utility" developed on the assumption of money, and in
abstraction from changes in the value of money, are not likely to be of
service when the problem of the value of money itself is taken up. On
pp. 95-96, Davenport comes closest to Schumpeter's doctrine, saying that
"the total situation is directive of each individual in it," and that
there are "mutual reactions," such that particular facts are both
effects and causes, illustrated by the last person who jumps on a
crowded raft--does he sink the others, or do they sink him? This
recognizes the complexity of the problem, but it is not clear that it
even purports to do more than that. What is called for is a _definition_
of the essential elements in that "total situation," with precise
statement as to what is assumed constant and what is allowed to vary,
and an analysis of the "mutual reactions," with a starting point and a
_terminus ad quem_,--an equilibrium in which "mutual reactions" cease to
trouble with their endless circle! Schumpeter's schema, though meeting
criticism on other scores, does meet this logical test, but Davenport's
does not appear to do so.

It is interesting to note that Professor Alvin S. Johnson, in his review
of the _Economics of Enterprise_, concludes that Professor Davenport,
instead of meaning by "relative marginal utility" anything of the sort
that Schumpeter has in mind in his equilibrium picture of all utilities
to all individuals, really has an absolute value in mind. (_Quarterly
Journal of Economics_, May, 1914, pp. 433-436.) There is much in
Professor Davenport's book to justify this interpretation.

Professor Davenport's application of "utility" to the problem of the
value of money will be found on pp. 267-275 of the _Economics of
Enterprise_. The general discussion of money and credit in the
_Economics of Enterprise_ has been exceedingly illuminating to me, and
my indebtedness to it will appear in the present book.

Much of what has been said of Davenport's "relative utility" theory may
also be said of Wicksteed's. (_Common Sense of Political Economy_,
London, 1910.) This is in many ways a remarkable book, characterized by
excellencies of many different sorts. But it fails to present the
utility theory in such a way as to avoid circular reasoning. Wicksteed
sees the confusion of utility-curves with demand-curves, and protests
vigorously and at length against it. (_E. g._, pp. 147-150.) He starts
out by assuming money and a set of market prices. His earlier chapters
are given to showing how the individual adjusts himself to the market,
bringing his "marginal utilities" of various goods into harmony with the
market prices. He recognizes that he has made these assumptions (pp.
130-131), and that he cannot use the results thus achieved as an
explanation of the market prices. They are "our goal, not our starting
point." But by pp. 161-162 he finds himself with the "suspicion" that
nothing special or peculiar is to be found in the laws of "market or
current prices--a phenomenon which it is obviously impossible to regard
as ultimate, which demands explanation, and which we have not yet
explained.... Much remains to be done, but we can already see that the
preferences of each individual help to determine the terms or conditions
under which the choice of other members of the community must be
exercised. If you take the individuals of the community two and two it
is clear that the marginal preferences of each determine the limits
within which direct exchanges with the other can be entertained, and we
must already have at least a presentiment that the collective scale is
the register of the final and precise 'resultant' of all these mutually
determining conditions and forces."

This seems to forecast Schumpeter's doctrine, but in the development
which follows, we do not find it. The heart of his analysis of the
causation of prices is in ch. vi, on "Markets." The "summary" which
precedes that chapter again suggests Schumpeter's analysis--the notion
of an all-embracing equilibrium. But when we get into the detailed
analyses of the chapter we find nothing more than an exceedingly good
account of the process by which supply and demand of particular goods,
considered separately, become equated, through two-sided competition,
and under conditions of monopoly. Instead of "relative marginal
utilities," we see customers coming into the market with various
money-prices in mind, and sellers trying out various money-prices--not
marginal utilities, nor yet two or more marginal utilities in comparison
with one another, but rather, money-prices, which, in the minds of the
buyers may be supposed to represent "subjective values in exchange,"
based on both marginal utilities _and_ objective prices of other things
that enter into the budget, and which, in the minds of sellers,
represent estimates of the prices which buyers may be induced to pay.
Wicksteed does not transcend the circle. Finally, despite his caution to
avoid the more glaring forms of the circle, and the confounding of
demand-curves with utility-curves, and of utility with value, he does
lapse into it in its completest form in expounding the Austrian doctrine
of cost of production. "The only sense, then, in which cost of
production can affect the value of one thing is the sense in which it is
itself the value of another thing. Thus what has been variously termed
utility, ophelemity, or desiredness, is the sole and ultimate
determinant of all exchange values." (P. 391.) Here is the illicit leap
from marginal demand price to marginal utility which all utility
theorists make, sooner or later! It is true that costs in one place are
reflections of _demand_ elsewhere. But it is not true that costs in one
place have any definite quantitative relation to _utilities_ in another
place!

When Wicksteed comes to discuss the value of money, he makes slight use
of the notion of abstract ratios among relative utilities, and employs a
concept which he has nowhere vindicated or explained: the _value_ of
money, as distinct from the reciprocal of the price-level, treating the
value of money as something which can be directly influenced by sinister
rumors affecting the credit of the Government, and which can be an
independent cause affecting velocity of circulation, and the amount of
trade done by means of money. _Loc. cit._, p. 623. See _infra_, our
chapter on "Velocity of Circulation."

The only writers I know at first hand who have really thought the thing
through, and avoided the circle in form, are Schumpeter and Irving
Fisher. (_Mathematical Investigations in the Theory of Value and
Prices_, _Trans. Conn. Acad. of Arts and Sciences_, 1892. See
bibliographical note, _supra_, in this chapter.) I have given an
exposition of Schumpeter, rather than Fisher, because the former has put
the doctrine in non-mathematical form. In the text I have indicated the
limitations of their doctrine. Fisher definitely avows the impossibility
of applying the doctrine to the problem of the value of money.
_Purchasing Power of Money_, p. 174. Schumpeter doesn't apply it to
money, and when he tries to work out a utility doctrine of money, he
lapses into the Austrian circle in a very obvious form. In later
writings, Fisher also seems to forget the limitations imposed on utility
theory in his earlier essay. In his _Elementary Principles_, ed. 1912,
Fisher lists (pp. 408-409) a great multitude of factors that might
affect the price of pig iron, and then says: "Back of these causes lie
other causes, multiplying endlessly as we proceed backward. But if we
trace back all these causes to their utmost limits, they will all
resolve themselves into changes in the marginal desirability or
undesirability of satisfactions and of efforts, respectively, at
different points of time, and in the marginal rate of impatience as
between any one year and the next." Here these marginal psychic
magnitudes, which in the earlier essay appeared merely as surface
phenomena, resultants of a total situation, proportional to prices,
causes of nothing, merely symptoms of a completed equilibrium, are
erected into atomic _veræ causæ_, the ultimate ultimates!

It is interesting to contrast this with a yet more recent statement by a
philosopher who has undertaken a defence of the utility theory of
economic value, Professor R. B. Perry, in the _Quarterly Journal of
Economics_, for May, 1916. Considering the contentions of the present
writer that many general social causes, in addition to the individual
utilities concerned with consumption, are needed to explain changes in
the values of goods, such as changes in fashion, mode, in general
business confidence, in moral attitude toward different sorts of
consumption, in the distribution of wealth, in taxes and other laws,
Professor Perry says: "If the Austrian School has neglected this, then
it needs to be corrected. But the essential contention of that school
remains, so far as I can see, unaltered; _in that these changes work
through individuals_ and have their _point of application_ in a more or
less rational _comparison of needs_ made by the _individual buyer or
seller_. Whatever affects these _individual schedules_ on a sufficiently
large scale will affect prices. But to ignore the individual channels
through which these forces pass, is elliptical." (Pp. 469-470. Italics
mine.) Now I call attention to several points in the foregoing. First, I
would contrast it with the doctrine quoted from Professor Fisher's
_Elementary Principles_. Where Fisher puts the utilities far back in the
realm of ultimate causation, making them the source from which spring
all the proximate social causes which might affect the price of pig iron
(such as "a trade war," "a change in fashion," a "change in incomes,"
"decreasing foresight," etc., _loc. cit._, p. 409), Professor Perry
would make individual utility schedules the final focal point, toward
which converge, and through which pass, all the causal forces, however
richly explained by antecedent social factors, which affect prices. The
utility theory of value means all things to all men!

But a second point with reference to Professor Perry's doctrine. It is
perfectly true that _all_ social activities are the work of
_individuals_. Society is nothing apart from the individuals who make it
up. To think of society and the individual as separate and antithetical
is a fallacy which I have criticised in detail in Part III of _Social
Value_. The social value theory does not mean that there are social
forces which do not run through individual channels. This is not to
accept the notion that individuals are really, in their psychical
nature, isolated monads, however. There is a functional unity of
individual minds, and no individual can be understood in abstraction
from society. But this view is as old as Aristotle. I have not contended
that prices can change apart from the mental activities of individual
men, working upon one another. So far there _may_ be no issue with
Professor Perry.

But there is a big issue when he contends that all the causation is
focussed in _individual utility schedules_, and in a more or less
rational comparison of needs made by the _individual buyer and seller_.
This is _demonstrably erroneous_. Let us assume, for example, that
utility schedules of every individual New Yorker remain unchanged, but
that, through a change in the law (the work of individual men, under the
influence of their own individual emotions and ideas, of, say, ethical
character), incomes in New York City are _equalized_. Hold rigidly to
the assumption that there are no changes in utility schedules. Will
there not be, none the less, a radical readjustment of prices? Will not
the prices of Riverside palaces and steam yachts sink and the prices of
things which the poor esteem rise? The utility-curves of the erstwhile
rich, assumed to remain unchanged, no longer count for so much as before
in the market. The rich cannot go so far down their curves in the
consumption process as before. The poor, or those who had been poorest,
now count for more in the market. They can lower their margins. In other
words, the forces affecting the distribution of wealth, in so far as
they are legal and moral in character, at least, may affect the
price-situation, _without_ altering _utility schedules_. Some social
factors, as changes in mode and fashion, will work _through_ the utility
schedules, but others will not. One big _variable_ affecting prices
which need not, in idea, at least, affect utility schedules at all, and
whose main influence is anyhow not directed through them, is the volume
of business confidence. This factor we shall analyze in our discussion
of credit, _infra_. Professor Perry thus escapes only part of the
criticism which we have made (_Social Value_, pp. 45 and 56) of the
Austrian theory: (1) that it abstracts the individual from his vital
contacts with other individuals, and (2) that, within the individual
mind thus abstracted, the Austrians make a further abstraction, taking
as relevant only the interests concerned with _consumption of economic
goods_, summed up in the utility schedules. The second criticism applies
to Professor Perry as well. Men's total interests are not summed up in
utility schedules, and do not affect prices exclusively _via_ utility
schedules.

It may be noticed, also, with reference to Professor Perry's discussion
that he has misconstrued the Austrian theory in conceiving it as an
analysis of an historical _process_, with a beginning and an end,
instead of a static picture, in which preëxisting individual factors
come into equilibrium. (_Loc. cit._, 475.) He seeks thus to avoid the
Austrian circle, but as we have shown in the discussion of von Mises in
the text, this way is not open to the Austrians.

Able and penetrating though Professor Perry's discussion is, on the
psychological side, it fails, I think, to take adequate account of the
complexities with which the economist and sociologist must deal.

In general, I find no version of the utility theory of value which is
defensible, and, above all, no effort to apply it to the value of money
which has met with success.

[105] _Vide_ Taussig, _Principles_, I, 432.

[106] "Der Bankzins als Regulator der Waarenpreise," Conrad's
_Jahrbücher_, 1897.

[107] _Loc. cit._, ch. 8.

[108] _Cf._ ch. on "Economic Value."

[109] Nicholson, J. S., _Money and Monetary Problems_, pp. 64-66; 71-73.

[110] _Works_, McCulloch ed. 1852, p. 213.

[111] _Cf._ the criticism of Nicholson by W. A. Scott, _Money and
Banking_, 1903 ed., ch. 4.

[112] _Cf._ Mill, _Principles_, Bk. III, ch. xiii, par. 1. "Nothing more
is needful to make a person accept anything as money, and even at any
arbitrary value, than the persuasion that it will be taken from him on
the same terms by others." It is not quite fair to identify Mill's
doctrine with the circle stated above, however, since Mill couples it
with a reference to convention, resting on the influence of
government--a mention, without analysis, of some of the factors to be
discussed shortly.

[113] _Cf._ Knies, _Das Geld_, I, p. 140.

[114] _Cf. Social Value_, ch. 2. _Infra_, our chapter on "The Functions
of Money."

[115] _Das Geld_, Leipzig, 1903, p. 477.

[116] Laughlin, rejoinder to Clow, "The Quantity Theory and its
Critics," in _Jour. of Pol. Econ._, 1902.

[117] _Principles of Money_, _passim_.

[118] _Cf. Social Value_, pp. 132-136, and _supra_, ch. on "Marginal
Utility and Value of Money."

[119] Strictly speaking, there is no marginal utility, but only a
"subjective value in exchange," for money of the sort here discussed.
See _supra_, the chapter on "Marginal Utility."

[120] The psychological reactions of the people in times of stress and
uncertainty toward different kinds of money cannot be predicted with any
certainty, and there seems to be absolutely no definite or universal law
governing the matter. The present writer collected a lot of newspaper
clippings at the outbreak of the present World War. From these it
appears that in both Paris and Berlin there was a very great distrust of
bank-notes, and an insistence by retailers, restaurants, landladies,
etc., on _coin_. But _silver_, which was not standard money, seems to
have been accepted without question. When hoarding is referred to in
these clippings, it is invariably gold that is mentioned. A similar
hoarding of gold took place during the Balkan crisis at the time of the
outbreak of the war between the Balkan Allies and Turkey. Professor E.
E. Agger informs me, however, that he has found some evidence that
bank-notes as well as gold were hoarded in Austria, at this time.

Sometimes we have a suspension of Gresham's law, and an acceptance of
all kinds of money at varying ratios. The following clipping from the
_Boston Herald_ of March 17, 1914, illustrates this: "Douglas, Ariz.,
March 16.--Four kinds of money are now circulating in the Mexican
territory controlled by the Constitutionalists. These are United States
currency, the first issues of the Constitutionalist government and of
Sonora state, and 'Villa money,' or that issued by Chihuahua at the
instance of the rebel military commander. United States takes
precedence. Merchants in Sonora, in order to protect themselves and at
the same time observe the laws requiring acceptance of the rebel
currency issues, have established a sliding scale of prices. This was
discovered when five merchants were arrested at Cananea by
Constitutionalist secret service men, who found that for American money
they could buy goods for less than half the amount exacted when payment
was offered in Mexican currency. The uncertainty of the rebel campaign
against Torreon is reflected in the money market. To-day
Constitutionalist sold for 22 and 28 cents American on the peso. Mexican
federal currency commanded from 30 to 32 cents." In the experience of
travellers who have discussed the matter with the writer, there was
little of this flexibility of relation between paper money and coin in
Berlin, or Paris at the outbreak of the present War. Where paper was
refused, it was absolutely refused, and where it was accepted, it seems
to have been accepted without discount. No doubt, a fuller investigation
would reveal all manner of variation in the behavior of different people
in different centres, and at the same centres, at the outbreak of the
War.

[121] _Money and Banking_, 1903 ed., pp. 58-60; 101-104.

[122] _Principles of Money_, p. 530.

[123] Written in December, 1914.

[124] _Cf._ Clow, F. R., "The Quantity Theory and its Critics," _Jour.
of Pol. Econ._, 1902, p. 602.

[125] _Cf._ Emery, _Speculation_, pp. 90-91.

[126] _Cf._ Böhm-Bawerk's criticisms of the "use" theory of interest.
(_Capital and Interest_, _passim_.) Both use theories and productivity
theories are probably suggested, in part, by peculiarities which money
possesses in pre-eminent degree. See _infra_, the chapter on the
"Functions of Money."

[127] A more precise analysis of all these points will be given in the
chapter on "The Functions of Money."

[128] _Cf._ Professor Taussig's account of expansions and contractions
of the silver currency in his _Silver Situation_, _passim_.

[129] For bibliography, see _Am. Econ. Rev._, Dec., 1914, pp. 838-839.

[130] New York, 1911. All references to this book in the present volume
are to the 1913 edition, which contains some new matter.

[131] _Standard of Value_, London, 1912, p. 48, n.

[132] _Papers and Proceedings_, Supplement to March, 1913, number of
_American Econ. Review_, p. 131.

[133] _American Econ. Rev._, Supplement to March, 1916, number, p. 138.

[134] _Loc. cit._, pp. 31-32.

[135] _Loc. cit._, pp. 175ff.

[136] "The Passiveness of Prices," _infra_.

[137] Particularly in view of the elaborate statistics, to be considered
below, with which it is sought to make the equation realistic.

[138] _Loc. cit._, p. 16ff.

[139] _Loc. cit._ p. 25.

[140] _Ibid._, p. 26.

[141] _Ibid._, p. 27.

[142] Where it is not meaningless, as at various points in the theory of
mechanics, the product is always of a different denomination from either
factor.

[143] _Vide_ our ch. on "Supply and Demand," _supra_, for a discussion
of Mill's doctrine as to the "demand" for money.

[144] What is here said of Fisher's equation of exchange applies, for
the most part, to all versions of it.

[145] _Loc. cit._, p. 298. _Cf._ our chapter, _infra_, on "Statistical
Demonstrations of the Quantity Theory."

[146] _Purchasing Power of Money_, p. 290.

[147] The amplified equation is MV + M´V´ = PT, which takes account of
bank-credit. This is explained, _infra_.

[148] _Loc. cit._, p. 487. I recur to this point in discussing the
statistics of the "equation of exchange" in ch. 19.

[149] _Infra_, ch. on "Quantity Theory and World Prices."

[150] _Loc. cit._, p. 48.

[151] _Loc. cit._, p. 370. The same position is taken by Kemmerer,
_Money and Credit Instruments_, pp. 68 _et seq._ Mill denies the
validity of these distinctions. See _Principles_, Bk. III, ch. 12, Par.
8.

[152] The above was written before the discussion in the _Annalist_
(Feb. 7, Feb. 21, March 6, March 13, March 20, 1916) in which the
present writer urged that Professor Fisher had greatly exaggerated the
volume of trade in the United States by taking banking transactions as
representative of trade. In reply (see especially the number for Feb.
21, pp. 245 _et seq._) Professor Fisher maintains that the overcounting
to which I call attention is offset by undercounting, and considers
offsetting book-credits, which actually dispense with the use of money
and checks, an important element in the undercounting. I am unable to
reconcile this position with the reasons given for excluding
book-credits from the "equation of exchange." A detailed discussion of
the points at issue appears in later chapters, particularly in the
chapter on "Statistical Demonstrations of the Quantity Theory."

[153] _Quarterly Journal of Economics_, vols. 8 and 9; _Political
Economy_, pp. 169-175; _Money_, chs. 3-8.

[154] In our analysis of bank-loans, _infra_, we shall find reason to
hold that Walker, though false to the logic of the quantity theory,
comes nearer to a tenable doctrine than do Kemmerer, Fisher, Andrew, and
most other quantity theorists.

[155] _Principles_, Bk. III, chs. 11 and 12.

[156] _Purchasing Power of Money._

[157] _Loc. cit._, pp. 50-51.

[158] _Loc. cit._, p. 280.

[159] A. W. Atwood, "Hoarded Gold," _Saturday Evening Post_, Dec. 12,
1914, p. 26.

[160] _Cf._ Kinley, D., _The Use of Credit Instruments_, Senate Document
399, 1910, pp. 192-194.

[161] _Ibid._, pp. 102-103. In the same volume, on p. 200, the figures
are given _incorrectly_, as 70% checks and 30% cash. C. A. Phillips,
_Readings in Money and Banking_, 1916, p. 151, repeats this erroneous
statement.

[162] _Cf._ Sprague, _Crises under the National Banking System_, Nat.
Monetary Commission Report, pp. 71-75; 200, 202.

[163] _Cf._ also p. 280 of Fisher's _Purchasing Power of Money_.

[164] Kemmerer (_Money and Credit Instruments_, p. 80) maintains that,
"under perfectly static conditions," money in circulation and money in
bank reserves will keep a fixed relation to one another. He offers no
argument to support this view. Of course, "under perfectly static
conditions," everything keeps in fixed relation to everything else. The
volume of credit will keep a fixed relation to the number of laborers
and to the supply of clocks. But this would hardly establish causal
connections! Fisher multiplies "fixed relations" of various kinds,
without, so far as very diligent search can tell, offering any argument
to support them. Thus, we have on p. 105 the statement, "We have seen
that normally the quantities of other currency are proportional to the
quantity of primary money, which we are supposing to be gold." Where
this thesis has been demonstrated, he does not indicate. In view of the
fact that gold has been the one really flexible element in our money
supply, the thesis is hardly credible. On pp. 146-147, facing this
difficulty, Fisher says: "Since, however, almost all the money can be
used as bank reserves, even national bank-notes being so used by state
banks and trust companies, the proportionate relations between money in
circulation, money in reserves, and bank-deposits will hold
approximately true as the normal condition of affairs. The legal
requirements as to reserves strengthen the tendency." Here is a very
substantial growth in the doctrine, with only one new argument, namely,
that concerning legal reserve requirements--which gives minimal ratios,
not _fixed_ ratios. In what way the fact that most kinds of money can
serve as legal reserves gives reason for the doctrine of fixed
proportions is not made clear. For Professor Fisher, however, it seems
quite enough, for on p. 162, in the heart of his causal theory, he
boldly announces: "There must be some relation between the amount of
money in circulation, the amount of reserves, and the amount of
deposits. Normally _we have seen_ that the three remain in given ratios
to each other." (Italics mine.) It is doubtless somewhat dangerous to
make a confident negative statement concerning a book which has no
index. But careful reading of all that has preceded this statement
reveals no references to this topic except those quoted above. "We have
seen" is not a legitimate premise when so important an issue is
involved. In our discussion of reserves in the section on credit, as
well as in the discussion of the volume of trade, it will appear that no
"normal" or "static" relations of this kind are possible.

[165] "The price-level outside of New York City, for instance, affects
the price-level in New York City only _via_ changes in the money in New
York City. Within New York City it is the money which influences the
price-level, and not the price-level which influences the money. The
price-level is effect and not cause." (_Loc. cit._, p. 172.)

[166] _Loc. cit._, p. 50.

[167] W. C. Mitchell, _Business Cycles_, p. 306.

[168] _Ibid._, p. 325.

[169] J. P. Norton, _Statistical Studies in the New York Money Market_,
p. 71, and chart opposite p. 72.

[170] _Ibid._, chart facing p. 72.

[171] _Cf._ Mitchell, _loc. cit._, chart, p. 298, and text, p. 295. As
the ratio of _reserves_ to _money in circulation_ was greater in 1911
than in 1894, and as the ratio of _deposits to reserves_ was also
higher, we have a still wider variation in the ratio of money in
_circulation to deposits_--M:M´.

[172] See the striking figures collected by A. P. Andrew for 1907.
_Quart. Jour. of Econ._, Feb. 1908, p. 297.

[173] _Infra_, our discussions of the relations of volume of money and
credit to volume of trade, and our discussion of credit in the
constructive part of the book. The theory of money and credit must be a
dynamic theory.

[174] Senate Document, No. 405, 1910. For the Bank of England, see p.
25; for the Crédit Lyonnais, pp. 224-226; for the Deutsche Bank, pp.
374-375.

[175] _Statist_, 1912, p. 577.

[176] "The Prospects of Money," British _Economic Journal_, Dec. 1914.

[177] _Cf._ Ashley, W. J., _Gold and Prices_, N. Y., 1912, pp. 21 _et
seq._

[178] _Cf._ von Mises, "The Foreign Exchange Policy of the
Austro-Hungarian Bank," British _Econ. Jour._, 1909, vol. 19. _Cf._
Keynes, _Indian Currency and Finance_.

[179] Conant, _Principles of Money and Banking_, vol. II, p. 50. In
1899, the reserve of the Bank of Belgium consisted of 107 millions
(francs) in specie, and 108 millions in foreign bills.

[180] _Principles of Economics_, vol. I, pp. 432 _et seq._

[181] In the chapter on "Quantity Theory and International Gold
Movements," _infra_.

[182] The Joint Stock Banks in England keep "till money" in cash, even
though their "reserves" are chiefly deposits at the Bank of England.

[183] Fisher, _loc. cit. passim_. _Vide_ especially ch. 8.

[184] _Purchasing Power of Money_.

[185] _Business Cycles_, pp. 580, 595-596.

[186] _Cf._ C. M. Walsh, _The Measurement of General Exchange Value_,
pp. 480-481.

[187] On pp. 314-315, and elsewhere, Fisher indicates that _all_ the
causes affecting prices operate _through_ the factors in the equation of
exchange. _Cf._ p. 74. This would require a concrete equation of
exchange throughout.

[188] Chapter on "Passiveness of Prices."

[189] _Loc. cit._, p. 169.

[190] _Cf._ his _Silver Situation_. 1878 to 1891 do not give time enough
for quantity of money to dominate volume of credit, in his exposition!

[191] Mill, _Principles_, Bk. III, ch. 12, par. 1.

[192] Fisher, _loc. cit._, p. 62.

[193] "A Compensated Dollar," _Quart. Jour. of Econ._, Feb. 1913.

[194] The chapter on "Dodo-Bones," _supra_, and the chapter on "The
Quantity Theory and World Prices," _infra_.

[195] _Loc. cit._, p. 156.

[196] _Ibid._, p. 160.

[197] Or organs for pianos, etc. A common practice--less common in the
North than formerly--is the payment of bills at country stores in
produce. There is not a little barter at secondhand stores in New York
City.

[198] Mr. Burton Thompson, of No. 7 Wall St., who knows the real estate
situation there intimately, states that while dealers do not like to
"swap" real estate, and do little of it when business is good, they are
forced to do it extensively when business is sluggish, "as has been the
case for the past four or five years."

[199] _Cf._ E. S. Meade, _Corporation Finance_, p. 376, and _passim_.

[200] The same thing often happens when a bond issue is paid
off--bond-holders may take their pay in new bonds. "Conversions" of
bonds into stocks, or of preferred into common stock, are also barter
transactions. $220,000,000 of the $420,000,000 which Mr. Carnegie and
his associates received from the Steel Trust for their plants, etc., was
paid, not with money and checks, but with bonds. _Vide_ Stevens,
_Industrial Combinations and Trusts_, p. 101.

[201] The foregoing had been written before the discussion in the
_Annalist_ of Feb. and March, 1916 (pp. 183-184, 245-272, 313-317, 344,
377), in which Professor Fisher and the present writer joined issue with
reference to Professor Fisher's estimate, 387 billions, for the volume
of trade in the United States in 1909. The present writer contended that
the banking transactions which Professor Fisher took as representative
of trade greatly overcounted trade, since they included loans and
repayments, taxes, several checks in one transaction, gifts, etc., etc.
Professor Fisher contended that the overcounting was offset by
undercounting, and instanced particularly the clearing-house
arrangements in the speculative exchanges, where checks are in part
dispensed with, and the offsetting in "running accounts" through
book-credit. This indicates a substantial change in Professor Fisher's
view as compared with that set forth in the _Purchasing Power of Money_,
where he maintains, as shown above, that barter is virtually
non-existent, that money and checks are "for all practical purposes and
all normal cases," "necessities of modern trade," (p. 160), and that
book-credit merely postpones, and does not dispense with, the use of
money and checks (p. 370).

The extent of the offsetting by barter, clearing-houses in the
exchanges, and book-credit, though very great, is quite small as
compared with Professor Fisher's 387 billions, and does not nearly
offset the overcounting. The writer has obtained some fairly definite
data on this point, which will be presented in the chapter on
"Statistical Demonstrations of the Quantity Theory," in discussing the
volume of trade.

[202] _Miscellaneous Articles on German Banking_, Report of National
Monetary Commission, p. 175. _Cf. infra_, pp. 288-290.

[203] _Cf._ our chapter on "The Functions of Money," _infra_.

[204] One familiar feature of corporation finance makes barter much
preferable to money transactions, in one connection, which involves very
many corporations indeed, at their inception. Stock, in order to be
marketable, must be "full-paid and non-assessable." If the corporation
sells its stock to the first stockholders, this means that money must be
paid for it to the full par value, dollar for dollar. This is usually
not easy. An especial difficulty would then present itself that the
promotor would have trouble in getting any pay for his work. (Meade,
_Corporation Finance_, _passim_; Sullivan, _American Corporations_,
_passim_.) If, however, the stocks are paid for in _goods and services_,
the courts are much less exacting in looking to see if full value has
been received. Barring obvious fraud, the courts will usually count the
stock full paid and non-assessable even though the value of the goods
and services received is not very great. The first sale of the stocks of
a new corporation, therefore (if it is important enough to wish to have
a public market for its stocks), is a _barter_ transaction, as a rule.

[205] _Purchasing Power of Money_, p. 152.

[206] _Ibid._, pp. 352 _et seq._

[207] _Infra_, ch. on "Passiveness of Prices." _Weighted_ averages of
"person-turnovers" will not save the situation here, if incomes stop
entirely, since the persons involved then drop out altogether. Moreover,
_weighted_ averages would clearly depend on _incomes_, and hence on
_prices_, and hence could not depend on _habits_ exclusively, or
_causally explain_ prices.

[208] _Loc. cit._, pp. 152-153.

[209] _Ibid._, p. 154. Italics mine.

[210] _Supra_, ch. on "Volume of Money and Volume of Credit." _Infra_,
ch. on "Bank Assets and Bank Reserves."

[211] _Cf._ Kinley, _Money_, pp. 145 and 205-206, for the discussion of
various moveable margins of this sort.

[212] Van Hise, _Concentration and Control_, p. 16. The tendency to
accumulate hoards when money is plentiful is notoriously strong in
countries like India.

[213] _Loc. cit._, pp. 167-168.

[214] _Ibid._, p. 164.

[215] _Cf._ Davenport's analysis of the causes governing volume of
trade, _Economics of Enterprise_, p. 272.

[216] _Loc. cit._, p. 110.

[217] Perhaps not quite correct, since he does recognize differences in
degree as between different places, though, perhaps properly, from the
standpoint of his normal theory, saying nothing about differences in
degree as between different times in the same place.

[218] _Cf._ also p. 315, _loc. cit._, where this is placed as one of
three main causes of the historical rise in prices.

[219] That the overwhelming bulk of trade is in the cities will appear
in our chapter, _infra_, on "Volume of Money and Volume of Trades."

[220] On the average, in the United States, the banks have less money
than the people have. _Vide_ Mitchell, _Business Cycles_, pp. 295 and
298.

[221] Based on arbitrary assumptions as to variability. _Cf._ his p.
477. _Cf._ our chapter, _infra_, on "Statistics of the Quantity Theory."

[222] Other passages might be cited to show that Fisher thinks that T
and the V's are fundamentally governed by different causes. For example,
he says "an increased trade in the Southern States, where the velocity
of circulation of money is presumably slow, would tend to lower the
average velocity in the United States, simply by giving more weight to
the velocity in the slower portions of the country." _Loc. cit._, p.
166.

[223] _Cf._, _infra_, our chapter on "Statistical Demonstrations of the
Quantity Theory."

[224] _Common Sense of Political Economy_, p. 623.

[225] _Principles_, I, 432.

[226] _Loc. cit._, pp. 432, 438-439.

[227] _Ibid._, p. 439. _Cf._ our chapter, _supra_, on "Volume of Money
and Volume of Credit," where Taussig's view as to the relation of money
and bank-credit is analyzed.

[228] _Loc. cit._

[229] Virtually the same expression is to be found in Barbour, David,
_The Standard of Value_, London, 1912, p. 43. Barbour denies vigorously
that more money can increase business, since it cannot increase the
number of laborers, or of machines, or the amount of food, etc. The
doctrine that volume of trade is fixed by (1) volume of products, and
(2) degree of specialization of production, and hence is independent of
volume of money, appears in Davenport, _Econ. of Enterprise_, 271-273.

[230] In this view, Fisher typifies the general position of the quantity
theory, and, indeed, in part even of those who do not agree with the
quantity theory, but who, with the quantity theorists, view the problems
of money and banking as matters of static theory. High or low prices,
once the transition is made, exhaust the effects of increasing or
decreasing the money supply. During the period of transition, certain
readjustments in relations between creditors and debtors arise, which
lead to either temporary prosperity or temporary distress, but after the
transition, it is a matter of indifference whether or not money is
abundant. Though the view is, logically, an essential part of quantity
theory reasoning, we find much of it vigorously maintained by Laughlin,
_Principles of Money_, ch. on "Amount of Money Needed by a Country."
Laughlin and Fisher would seem to be at one in maintaining that the
quantity of money in a country is a matter of indifference, and from the
views of both would follow a condemnation of the idea that any long run
consequences for volume of trade, efficiency of production, etc., could
follow from increasing or decreasing the volume of money.

It may be just as well here to indicate the conviction of the present
writer that the relation between the quantity theory and the bimetallic
movement is historical rather than logical. Indeed, in laying the stress
they did on the importance of an inadequate stock of money in accounting
for the depression of the latter part of the 19th Century, the
bimetallists were out of harmony with the quantity theory.

[231] P. 50.

[232] Pp. 358-372, vol. I.

[233] _Loc. cit._, p. 160. _Cf._ our chapter on "Barter."

[234] The fact that prices are often high in gold mining regions, as
compared with prices in the general world markets, has been taken by
many writers as proof of the quantity theory. _Cf._ Kemmerer, _Money and
Credit Instruments_, pp. 50-51, 58; Cairnes, J. E., _Essays in Political
Economy_, particularly the discussion of the Australian episode. It
seems to me that this is particularly inconclusive. High prices
characterize remote mining regions of all kinds, whether gold, silver,
copper, diamonds, tin or what not be the quest. Prices are not lower in
the tin and copper region in the northern part of the Seward Peninsula
in Alaska than they are in the gold region about Nome in the southern
part of that peninsula. They are high in both places, not because of the
abundance of gold or of money, but because of the great value of goods,
which have to be brought with great trouble and expense from the United
States. They are higher in the region of the Saw Tooth Mountains, in the
centre of this peninsula, where hydro-electric power for the use of the
gold miners about Nome, and for the copper and tin mines further north,
is being developed, than they are at Nome itself, on the coast, where
the gold is being mined. They were high in Australia because the
discovery of gold led everybody to abandon everything but gold mining,
and to bring in virtually everything from a distance. Wooden beams were
imported to Australia from Sweden! (Pierson, N. G., _Principles of
Economics_, I, p. 389.) One would expect prices in gold money to be
higher in a silver or copper mining region, which is prospering, than in
a gold mining region, equally remote, where a great deal of gold is
being mined, but at a cost too great to make the region prosperous.

[235] _Loc. cit._, p. 51.

[236] _Meaning of Money_, p. 18.

[237] Price's address before Western Econ. Asso'n, Nov. 26, 1915; Holt's
letter; Dec. 2.

[238] _Loc. cit._, p. 172.

[239] See our discussion of "money rates" and "interest rates," _supra_,
in the chapter on "Capitalization," and _infra_, in the chapters on "The
Functions of Money," and on "Credit."

[240] _Infra_, chapter on "Functions of Money," and _supra_, chapters on
"Capitalization" and "Dodo-Bones."

[241] _Cf._ our chapters on "Supply and Demand," and "The Origin of
Money."

[242] New York City can always use idle funds, "at a price."

[243] Kemmerer, as well as Fisher, allows physical production and
consumption to dominate his "index" of trade variation. _Loc. cit._, pp.
130-131; Fisher, _loc. cit._, p. 479. _Cf._ our discussion of their
statistics, _infra_.

[244] This confusion of volume of trade and volume of production is a
companion of the confusion discussed on p. 307, _infra_, of quantity of
money with volume of money-_income_. The two confusions, found in
virtually all expositions of the quantity theory, give it most of its
plausibility.

[245] _Loc. cit._, ch. 12, and appendix to ch. 12.

[246] _Supra_, ch. on "Equation of Exchange."

[247] In a letter to the writer, Professor Fisher states that the
figures for the physical receipts at the cities, which dominate his
index for T, have not been available for recent years, and that since
they were discontinued, he has relied chiefly on the indirect
calculation of T _via_ the other factors in the equation. These figures
were discontinued in 1912. In the _American Economic Review_ for June,
1916 (p. 457, n.) Professor Fisher states that the indirect calculation
of T has always had more weight in his figures than the direct
calculation. This would serve in some degree to lessen the errors of his
index of variation. The extent to which he has allowed his T as directly
calculated on the basis of the index to be modified by the indirect
calculation, is indicated on p. 302 of the _Purchasing Power of Money_,
as follows: "The alterations in T, as shown in Figure 16, though still
greater than the preceding, are nevertheless so small and uniform as to
preserve an almost perfect parallelism between the original and the
altered curve. The differences rarely exceed 10%." Even an indirect
calculation of T, however, would not avoid the criticisms here urged,
since the other factors, MV, M´V´, and P are all, as we shall see in the
chapter on "Statistical Demonstrations of the Quantity Theory,"
calculated by methods which give very excessive weight to trade outside
New York City and to non-speculative transactions.

[248] _Loc. cit._, p. 485.

[249] _The Use of Credit Instruments in Payments_, Senate Document No.
399, 61st Congress, 2nd Session.

[250] This brief account will be amplified for critical discussion in
the statistical chapter below. Fisher in fact calculated MV and M´V´
separately. The account above given is strictly accurate only for that
part of T, 353 billions, which is carried on by means of checks. The
calculation of MV, however, is also based on Kinley's figures. My
account here is adequate for the question at issue, which is, not as to
the absolute magnitude of trade, but rather, as to the _proportions_ of
speculation and other elements in trade.

[251] The substance of the argument here presented first appeared in
articles in the _Annalist_, to which I am indebted for permission to use
it here. See the numbers of Feb. 7, March 6, and March 20, 1916.
Professor Fisher's replies, directed wholly against the charge of double
counting, appeared in the _Annalist_ of Feb. 21 and March 13, 1916.
Professor Fisher does not question my contention that speculation makes
up the overwhelming bulk of trade, in these replies. He rather seeks to
meet the charge of overcounting by holding that bank-transactions do not
fully count speculation! This he thinks particularly true of stock
exchange transactions. _Cf._ his article of Feb. 21, 1916.

[252] The Census Bureau figures have been subject to a good deal of
criticism, and I therefore refrain from trying to draw precise
conclusions from them.

[253] The figures showing the number of banks reporting from each State,
together with the number of reports rejected, will be found on pp. 47-49
of his monograph. The figures above are combinations of figures from his
various tables. These tables are so carefully indexed in Dean Kinley's
monograph that detailed page references are unnecessary here.

[254] _Cf._ our discussion of this topic in the statistical chapter,
_infra_.

[255] _Loc. cit._, pp. 153-154.

[256] _Discussions in Economics and Statistics_, I, 204. Quoted by
Kinley, _loc. cit._, 152.

[257] The coefficient of correlation has been developed by the
biologists, chiefly Karl Pearson, but has been applied to problems in
many fields, especially economics, sociology, psychology, and education.
A good source is Yule's _Introduction to the Theory of Statistics_.
Professor H. L. Moore has made extensive use of the method in his _Laws
of Wages_, and his _Economic Cycles_.

Connected with the coefficient of correlation, usually, is a figure for
"probable error," which depends, primarily, on the square root of the
number of observations. When the probable error is low, and the
coefficient of correlation high (as .8), it is commonly supposed that a
very high degree of causal connection is established. I shall not go
into detail in discussion of the method. My personal judgment is that it
is overrated, that "spurious" correlations, leading to quite erroneous
conclusions, have frequently resulted from it, and that the labor
involved in calculating coefficients of correlation is frequently too
great for the results obtained. I should never be disposed to accept
conclusions based on a "correlation coefficient" unless there were other
converging evidence to support it. In effect we have, in the coefficient
of correlation, nothing more than a refinement of the method of
comparing two curves on a graph. The curves tell the story, in a general
way, whereas the coefficient of correlation sums up all the comcomitant
variations (and disagreements) in one figure. The eye does not readily
compare the degree of relation between two curves with the degree of
relation between two others. When it is desired to know which, of
several relationships, is closest, the graphic method, or the method of
comparing series of figures, burdens the attention. The coefficient of
correlation condenses the information to such a degree as to make
comparison easy. It is, then, merely a refinement of familiar
statistical methods. Used wisely, guided by sound theory, it aids in
presenting facts. It enables us to state quantitatively things we
already know qualitatively. But there is no magic in it! As I have
mentioned both Mr. Silberling and Professor Moore in this connection, it
is proper to say that both of them are fully alive to the dangers and
limitations of the method, and that Professor Moore emphasises strongly
the need for sound _a priori_ testing of hypotheses before submitting
them to the test of correlation. One danger, that of getting a high
correlation merely because both of the variables compared are _growing
rapidly_, has been avoided by Mr. Silberling by the use of successive
_percentage_ deviations, instead of absolute figures. For reasons
explained by Mr. Silberling in a footnote, he uses, instead of the
"probable error," a statement of the number of observations. Thus,
"r = .78 (46)" means that the coefficient of correlation is .78, and
that there are 46 observations for each of the two variables compared.

[258] They get into clearings, however, _two_ days after.

[259] Professor Kemmerer, also. See his index of variation of trade,
_op. cit._, pp. 130-131.

[260] It is unfortunate that weekly figures from railways do not exist
in such number, or for roads of sufficient importance, to justify
correlations of the weekly figures with clearings.

[261] Professor W. M. Persons informs me that Mr. Silberling's results
are in accord with calculations which he has made. _Vide_ his article in
the _Am. Econ. Rev._ of Dec. 1916.

[262] _The Wealth and Income of the People of the United States_, New
York, 1915.

[263] See our chapter, "Statistical Demonstrations of the Quantity
Theory."

[264] _Loc. cit._, pp. 78-79.

[265] _Jour. of Polit. Econ._, vol. v, p. 165.

[266] Even this is too high, for 1909, on the basis of our estimate for
net income in 1909, in the Appendix to this chapter.

[267] The extent of speculation in wholesale trade is discussed in this
chapter, _infra_. "Double counting" is discussed in the chapter on
"Statistical Demonstrations of the Quantity Theory."

[268] _The Use of Credit Instruments_, p. 151.

[269] The figures for rent and wages are from W. I. King, _op. cit._ The
other figures are from the _Statistical Abstract of the United States_,
unless otherwise stated. King's estimates are for 1910. The other
figures are for 1909. Compare this list with my discussion in the
_Annalist_, March 6, 1916, p. 317, where I made computations purposely
much too large. In that computation I clearly greatly exaggerated
salaries and professional incomes, and rent as well as retail and
wholesale trade. My figure there included the rent of houses as well as
the rent of land. King's figure is only for land rent. However, in view
of the fact that a high percentage of real estate is used by the owner,
with the result that no rent-payments are required, I think King's
figure high enough for the whole item.

[270] Professor Fisher has estimated total real estate exchanges in the
country at less than 1% of the total 387 billions (_op. cit._, p. 226),
and a colleague of the Harvard Business School has given me an estimate
of $1,300,000,000 for total advertising in the United States. Neither of
these items is properly counted part of the "static" trade that would
occur were things in "normal equilibrium." If, however, we counted them,
we should add only 1%, say, of the total. When it is seen how
insignificant, in comparison with the 387 billions indicated by
deposits, the figures for total manufactures, total farm products, and
total wages, are, there really is little need to argue the case. It is
impossible to find, in the "ordinary trade" we have not mentioned, items
whose total will equal the least of these three. Moreover, we have
allowed for a multitude of these items in permitting the figure for
retail trade to be as high as it is, and have left large leeway in
making no deduction for the speculation in wholesale trade, and in
counting farm products in full. Interest and dividends I have not
counted. They are not "trade." When we have counted stock sales, we have
already counted the exchanges in which dividends were sold. The man who
buys the stocks has already bought the dividends. To count the dividends
in addition would be a case of that double counting of capital and
income against which Professor Fisher has warned us in his _Nature of
Capital and Income_. Rents and wages represent payment for current
services, and are properly items of trade. Interest and dividends are
one-sided money payments, completing transactions for which money has
already passed, and in which a man is merely getting a delivery of
something he has already bought. In general, loans and repayments are
not properly counted as part of ordinary, or physical trade. If,
however, we counted total corporate dividends and interest we should get
only $4,781,000,000 (King's estimate, _loc. cit._, p. 262). This is a
little over 1%. What else is there? In his article of March 13, 1916, in
the _Annalist_, Professor Fisher failed to meet my suggestion that a
bill of particulars was called for!

[271] See the table of shares and approximate values in Pratt's _Work of
Wall Street_, 1912 ed., p. 187. This table covers the years, 1890-1911.

[272] Boston _Transcript_, "Tape Record of Sales Incomplete," May 6,
1916, Pt. I, p. 12. The _Transcript_ quotes as authority the New York
_Commercial_. Following the extraordinary market of Sept. 25, 1916, when
the ticker recorded 2,317,000 shares sold on the New York Stock
Exchange, the newspapers estimated that missed sales, odd lots, and
unrecorded sales on stop loss orders, would bring the total above
3,000,000 shares. There was an unusual number of stop orders caught that
day. There will be very few other sales of 100 shares missed by the
ticker, except in times of extraordinary pressure. See _Boston Herald_,
Sept. 26, 1916, p. 1.

[273] Hollander, J. H., _Bank Loans and Stock Exchange Speculation_,
Senate Document 589, 61st Congress, 2nd Session, p. 23.

[274] Pratt, _Work of Wall Street_, 1912 ed., p. 264.

[275] _Annalist_, Dec. 27, 1915, p. 719--"Selling Phantom Grain."

[276] My information regarding the Coffee Exchange in New York comes
from the Treasurer of the Exchange, Mr. Jas. H. Taylor, through the
courtesy of Mr. W. H. Aborn, of Aborn and Cushman, New York.

[277] Report of the Hughes Commission, in appendix to Pratt's _Work of
Wall Street_, Rev. ed., p. 417. This report gives information regarding
all the organized exchanges in New York.

[278] L. Conant, Jr., "The United States Cotton Futures Act," _American
Economic Review_, March, 1915, p. 1.

[279] Hughes Commission, _loc. cit._, p. 418.

[280] Taussig, _Principles of Economics_, I, p. 405; Kinley, _Report of
the Comptroller_ for 1896, p. 89.

[281] This is probably more extensive in London than in the United
States.

[282] _Loc. cit._, p. 47.

[283] _Loc. cit._, pp. 130-131. The very title, "_growth_ of business,"
suggests the fallacy to which we refer in the text, namely, that we have
a steady upward movement, with little variation. This is largely true of
production and consumption. It is in no sense true of "trade," as
distinguished from production.

[284] Kemmerer relied on the investigation of 1896, whereas Fisher used
more the figures of 1909. Kemmerer does not, in general, assign an
absolute magnitude for "trade," but for 1890 he gives a figure. _Loc.
cit._, p. 136. _d._

[285] _Loc. cit._, p. 136, _d._

[286] A recent discussion of these problems is to be found in Shaw, A.
W., _Some Problems in Market Distribution_, Harvard Univ. Press, 1915.

[287] _Op. cit._, pp. 51-52.

[288] London, Paris, and New York all do a great deal of manufacturing,
particularly of finer things, whose value is high, and which require a
high proportion of labor, as compared with machinery. _Cf._ our
discussion of the London "Money Market," _infra_, in Part III.

[289] _Ibid._, p. 47.

[290] _Cf._ Jenks, _The Trust Problem_, Rev. ed., p. 29. The doctrine
that these costs are net social loss is challenged by the present writer
in an article, "Competition _vs._ Monopoly," in the New York
_Independent_, of Oct., 1912.

[291] "Royal" has been estimated at $5,000,000; "Spearmint" at
$100,000,000. Mr. Guy C. Hubbard, of the _Dry Goods Economist_, New
York, has given the writer some exceedingly interesting data regarding
the value, as bankable collateral, of various trade-marks and firm
names.

[292] _Cf._ our discussion of "The Reconciliation of Statics and
Dynamics," _infra._

[293] Significant in this connection, is the contention of recent
students of American agriculture, that the great need is better
organization and credit, facilities for _marketing_.

[294] _Loc. cit._, p. 89. Though Fisher does not conclude that banking
is bad, he does conclude that gold mining is a parasitic and socially
injurious industry, like the making of burglars' "jimmies." See his
_Elementary Principles of Economics_, N. Y., 1912, pp. 499-500.

[295] Fisher does admit that the _character_ of the banking system, and
of the money system, will affect the volume of trade. "There have been
times in the history of the world when money was in so uncertain a state
that people hesitated to make many contracts because of the lack of
knowledge of what would be required of them when the contract should be
fulfilled. In the same way, when people cannot depend on the good faith
or stability of banks, they will hesitate to use deposits and checks"
(78). But there is nowhere an admission that the _amount_ of bank-credit
has any influence on the volume of trade, and there are repeated
assertions, as already instanced in the text, that the volume of trade
is quite independent of the volume of money and bank-credit.

[296] Part IV of this book gives a detailed analysis to the problems
involved in these contrasts.

[297] This thesis was set forth by the present writer at the 1915
meeting of the American Economic Association. See _Papers and
Proceedings_, Supplement to March, 1916, _Amer. Econ. Rev._, pp.
168-169.

[298] _Cf._ J. B. Clark, _Distribution of Wealth_, _passim_, and J.
Schumpeter, _Theorie der wirtschaftlichen Entwicklung_, pp. 1-101. See
also the present writer's "Schumpeter's Dynamic Economics," _Pol. Sci.
Quart._, Dec, 1915, and A. S. Johnson, in _Quart. Jour. of Econ._, May,
1914.

[299] _Principles_, Bk. III, ch. xviii, par. 1.

[300] _Theorie der wirtschaftlichen Entwicklung_, p. 77. Since the
foregoing was written, Professor W. C. Mitchell has presented an
admirable historical paper on "The Rôle of Money in Economic Theory," in
which he has multiplied instances, in the history of the science, of
this contempt for money, or abstraction from money, in economic theory.
He finds that Marshall, and some other later writers, have given much
fuller recognition to the rôle of money, which he conceives of primarily
as an institution which has rationalized economic behavior, by forcing
upon the individual bookkeeping habits of thought. This still leaves it
legitimate to abstract from money, however, for "pure theory." Highly
important as is the "measure of values" function, it does not explain
the main work which money, as money, actually _does_ in economic life,
nor need it be a source of value for money. _Cf._, _infra_, our chapter
on "The Functions of Money." Professor Mitchell's paper will be found in
"Papers and Proceedings," Supplement to the March, 1916, number of the
_Am. Econ. Rev._

[301] The materials in this appendix are taken from an article published
in the _Annalist_ of Jan. 8, 1917, pp. 39, 53-54, and the New York
_Times_ Annual Financial Review of Dec. 31, 1916, and are reprinted by
the courtesy of the New York Times Company.

[302] _Vide Annalist_, Feb. 7, 1916, pp. 183-184, and Feb. 21, 1916, p.
246.

[303] _Wealth and Income of the People of the United States_, p. 129.

[304] The justification of this procedure is argued more fully in my
article in the _Annalist_ of Feb. 7, 1916, above referred to.

[305] The figures for railway gross receipts are taken from the
_Commercial and Financial Chronicle_, rather than from Government
reports, in order to get figures for calendar rather than fiscal years,
and in order to get the latest possible figures. As the absolute figures
are not strictly comparable throughout, the method employed has been to
calculate _percentage_ gains or losses for the _same roads_ for
successive years. This would lead to a cumulative error, if large new
roads had been built during the period, and had retained their
independence. In point of fact, however, the curves for the absolute
figures and for the percentage changes run pretty closely parallel down
to 1909, at which time a large number of small roads, not previously
counted, are brought into the figures. As the number of roads reported
varies, the percentage changes on the same roads give us the more
accurate measure of year by year variation. It is, at the date of
writing (December, 1916), the only possible method for 1916, since the
_Chronicle_ figures which come to the end of November are based on only
37 roads, with a mileage of 84,452 out of over 240,000 miles usually
reported. For these roads, a gain of 19.63%, for the first eleven months
of 1916 over the same months in 1915, is reported, and our figures for
1916 rest on the assumption that the gain for the whole year over 1915
is 17.27%. (The greatest gains are for the earlier months, as the end of
1915 was a period of great activity.) Much fuller figures supplied me by
Mr. Osmund Phillips, of the _New York Times_, for the first _ten_ months
of 1915 and 1916 serve to justify this estimate for the gain of 1916
over 1915. For the _Chronicle_ data, see vol. 102, p. 930, vol. 103, p.
2112, and _passim_.

The index of prices chosen is Dun's. (See especially _Dun's Review_ of
May 11, 1907, Jan. 9, 1915, and later months, and the discussion of
Dun's index number in the _Bulletin of the United States Bureau of Labor
Statistics_, Whole Number 173, July, 1915, pp. 148 _et seq._) Dun's
index number is chosen partly because it is complete for 1916, and
partly because it is weighted in accordance with the consumption of
different classes of goods, and so particularly suited to this inquiry.
I venture to express strong preference for rationally weighted index
numbers, and for the use of different index numbers for different
purposes. (_Vide_ the discussion of index numbers in ch. 19.) Our price
index for each year is an average of the twelve monthly figures given by
Dun from 1894 to 1916. For the years 1890-94, our price index is an
average of the figures for January and July. This average is lower, in
most years, than the average for the whole year, and may well be lower
than the average for these years, but no attempt has been made to
rectify this possible source of error. The index is recalculated from
Dun's figures (where it is not a percentage, but a sum of prices), and
made a true percentage index, with a base in 1910.

The figures for exports and imports are for _calendar_ years. They were
obtained, for the years 1890-1909, from _Statistics of the United
States, 1867-1909_ (National Monetary Commission Report), and, for the
years since 1909 from the _Commercial and Financial Chronicle_. For
1916, November and December are estimated.

[306] Their indicia of variation for "trade," though failing to meet the
problems for which they were designed, as shown in chs. 13 and 19, are
good indicia of variation for physical production and consumption.

[307] That this should have been seriously denied during the recent
Presidential campaign, on the basis of the estimate that foreign trade
is minute as compared with domestic trade, gives special point to the
present discussion.

[308] King's figures, for which he estimates a margin of error of 25%
are used for these years. (_Loc. cit._, p. 129.) The export and import
figures used are for fiscal years.

[309] Probably the apparent moderate increase in imports is due wholly
to higher prices. The actual physical volume has possibly been reduced,
as compared with the period before the War.

[310] I am indebted to several colleagues for advice and criticism in
connection with these tables, particularly Professors Taussig and W. M.
Persons. Mr. N. J. Silberling has been particularly helpful, aiding in
the choice of the statistical sources, suggesting methods of handling
and interpreting them, and making virtually all the computations in the
tables.

[311] Retail prices of exports and imports are obtained by adding 50% to
the wholesale figures reported, on the assumption that wholesale prices
are two-thirds of retail prices. The percentages in the final column are
obtained by dividing the figures for foreign trade by the figures for
domestic trade. The percentage would reach 100 when foreign trade
becomes equal to domestic trade.

[312] The figures in column 4 are obtained for any year, say 1905, by
taking the index in column 3 for 1905, the index in column 3 for 1910,
and the absolute figure in column 4 for 1910, and solving by the "rule
of three."

[313] The notion of interdependence need not involve circular reasoning,
if the facts really justify it. The whole cosmos is, doubtless,
interdependent. Often certain systems within the cosmos manifest enough
_in_dependence of the rest of the universe to justify us, for some
purposes, in thinking only of _inter_relations within the systems. The
important thing is to make the circle in theory as big as the circle in
fact. _Cf. Social Value_, p. 152, n.

[314] In chapter XVI.

[315] _Cf._ our chapter, _infra_, on "The Quantity Theory and
International Gold Movements."

[316] Italics mine.

[317] _Loc. cit._, p. 165.

[318] The resemblance of the view here maintained to that of Professor
Laughlin is at many points close. I am indebted to his _Principles of
Money_ for many suggestions.

[319] _Loc. cit._, p. 165, n. The doctrine is reiterated on p. 168.

[320] This is strikingly true in the stock market--the place where more
trade takes place than in any other market. See the figures in the
preceding chapter with reference to stock transactions, and the chapter
on "Bank Assets and Bank Reserves."

[321] For a history of this debate, with bibliography, see Laughlin's
_Principles of Money_, ch. 7, on the "History and Literature of the
Quantity Theory," esp. pp. 260 and 263-264. Laughlin shows the
connection of the currency principle and the quantity theory.

[322] It may be that in the brief discussion of elastic bank-notes on p.
173 (_loc. cit._), Fisher means to given an explanation of the theory of
elasticity from a quantity theory standpoint. The statement there is
that money not only tends to flow away from _places_ where prices are
high, but also from _times_ when money is high. "If the price-level is
high in January as compared with the rest of the year, bank-notes will
not tend to be issued in large quantities then. On the contrary, people
will seek to avoid paying money at high prices and wait till prices are
lower. When that time comes they may need more currency; bank-notes and
deposits may then expand to meet the excessive demand for loans which
may ensue. Thus currency expands when prices are low and contracts when
prices are high, and such expansions and contractions tend to lower the
high prices and to raise the low prices, thus working toward mutual
equality."

If this be the quantity theory account of elasticity--and it would seem
to be about the only thing the quantity theory could say--it is about as
far from giving an account of the real facts as any theory could be!
Something of this sort is suggested, perhaps, by the behavior of
Canadian bank-notes, which do expand in the fall, when prices of wheat
are lowest, and contract in January, when wheat prices are higher. This
grows, however, out of the peculiarities of an agricultural country, and
does not at all illustrate the general doctrine maintained. First, wheat
prices in the fall are low because wheat is most abundant then. Wheat
prices in January, under the influence of speculation, commonly differ
from wheat prices in the fall by an amount about equal to the elevator
charges, rattage, insurance, interest, and other carrying charges
involved. Second, wheat prices are only one element in the general
price-level. Low wheat does not prove that the level is necessarily low.
A good wheat crop may mean increases in general prices, and often does.
Third, and more important, the real reason for an expansion in Canadian
notes at such a time is that the wheat _has to be moved_. The farmers do
not want to carry it; the speculators are ready to carry it; and it must
be sold. Expanding _trade_, at the season, is the cause of expanding
bank-notes. The influence of the _price_ of wheat is exactly the reverse
of that which Fisher assigns. If the price of wheat is low in the
crop-moving season, _less_ notes will be issued than if the price is
high. In other words, the greater the increase in PT, not P or T alone,
the greater will be the expansion of bank-notes. Decrease either P or T,
and less notes will be issued.

In general, the phenomenon of elastic bank-credit is the phenomenon of
an expanding bank-note or deposit issue accompanied by rising prices and
volume of trade, and a decrease when trade and prices decrease. This is
all commonplace, but I feel it best to refer to familiar sources to show
how old and well recognized my statement of the case is. The following
is from Mill's _Principles of Economics_, Bk. III, ch. 24, par. 1: "Not
only has this fixed idea of the currency as the prime agent in the
fluctuations of price made them shut their eyes to the multitude of
circumstances which, by influencing the expectations of supply, are the
true causes of almost all speculations and of almost all fluctuations of
price; but in order to bring about the chronological agreement required
by their theory, between the variations of bank issues and those of
prices, they have played such fantastic tricks with facts and dates as
would be thought incredible, if an eminent practical authority had not
taken the trouble of meeting them, on the ground of mere history, with
an elaborate exposure. I refer, as all conversant with the subject must
be aware, to Mr. Tooke's _History of Prices_. The result of Mr. Tooke's
investigations was thus stated by himself, in his examination before the
Commons Committee on the Bank Charter question in 1832; and the
evidences of it stand recorded in his book: 'In point of fact, and
historically, as far as my researches have gone, in every signal
instance of a rise or fall of prices, the rise or fall has preceded, and
therefore could not be the effect of, an enlargement or contraction of
the bank circulation.'"

I see nothing in Fisher's discussion of credit to differentiate it from
the position of the old Currency School. And the reason is a very simple
one: Fisher has followed the quantity theory to its logical conclusions!

[323] See our chapter on the "Volume of Money and the Volume of Credit."

[324] How close the relation between loans and deposits is may be seen
from Professor Mitchell's chart, _Business Cycles_, p. 344. The same
chart exhibits the variations in the reserve percentage, which is very
much greater. The New York Clearing House banks, which we have seen
(_supra_, "Volume of Money and Volume of Credit") have a spread of from
24.89% to 37.59% in the yearly average of percentage of reserves to
deposits--a spread of over 50%--show a variation in yearly average for
the percentage of loans to deposits of only 24.3%--the range being from
83% to 104%. _Ibid._, pp. 325 and 331. For a partially different series
of years, see the chart of J. P. Norton, _Statistical Studies in the New
York Money Market_, facing p. 104.

[325] Neither deposits nor loans vary _proportionately_ with trade. Very
active trade may merely increase the activity of loans and deposits,
causing both to be shifted more rapidly--larger outgo, larger income,
loans more frequently contracted and paid off, larger amounts
"deposited" on a given day, but balances, both of loans and deposits, at
the end of the day not increased proportionately with the activity. This
is strikingly illustrated in the business of the stockbroker.

[326] _Supra_, p. 47.

[327] Italics mine.

[328] "Miscellaneous Articles on German Banking," in _Report of Nat.
Mon. Commission_, p. 175. Art. by Max Wittner and Siegfried Wolff.

[329] The figures are not easily compared, as the figures for
giro-_transfers_ do not indicate the volume of giro-_accounts_, which is
doubtless much smaller. I know no estimates for the turnover either of
notes or of bills of exchange. To determine what _proportion_ of
business is done by each would, thus, not be easy. The volume of bills
of exchange for the year is three times as great, for 1907, as the
figures for note issue. The giro-system, as is well known, is relatively
unimportant as compared with notes. But I do not undertake to assign
figures showing proportions of business done.

[330] Inland bills of exchanges in connection with the grain trade are
still very important, especially at Chicago and Minneapolis. The writer
has met frequent reference to cotton bills at St. Louis. Wool bills are
frequent in Boston.

[331] _Vide_ my criticism of his statistical fallacy in this connection,
in the _Annalist_ of Feb. 7, 1916. He rules out foreign trade from his
"equation of exchange" by the device of assuming that imports and
exports cancel one another. This, however, to the extent that it is
true, makes the bill of exchange more, rather than less, important as a
substitute for money and deposits. Fisher, _loc. cit._, pp. 306, and
374-375. See appendix to chapter XIII of the present book.

[332] _Vide_ ch. 16 for a more precise statement of this part of
quantity theory doctrine.

[333] _Purchasing Power of Money_, pp. 169-170.

[334] _Ibid._, p. 170.

[335] _Ibid._, p. 171.

[336] _Ibid._, p. 172.

[337] _Ibid._, p. 172. Italics mine.

[338] _Ibid._, pp. 174-181.

[339] I call attention, in passing, to Fisher's confusion, in this
sentence, of "commodities" with "trade." This occurs frequently in his
argument. _Cf._ pp. 225-226, _supra_.

[340] The Capitalization theory is briefly outlined by Böhm-Bawerk, in
the critical and historical volume of his _Kapital und Kapitalzins_
(English title of the volume, _Capital and Interest_), in his criticisms
of the theories of Henry George and Turgot. It has subsequently been
elaborated, and much improved, by Fetter, in his _Principles of
Economics_, and, more recently, has been restated, with mathematical
formulæ, by Fisher, in his _Rate of Interest_. A good brief statement
will be found in Seligman, _Principles of Economics_, ch. on "The
Capitalization of Value." Extensive use has been made of it by Veblen.
More recently, it has been elaborated in the controversy over the theory
of interest participated in by Seager, Fisher, Brown and Fetter, in the
_American Economic Review_, 1912-13-14, and the _Quarterly Journal of
Economics_, 1913.

[341] Italics mine.

[342] The criticisms I should make of the present formulations of the
time-preference theory of interest, as presented by Böhm-Bawerk, Fetter
and Fisher, rest on the individualistic method of approach, and are at
many points analogous to the criticisms I have made of the utility
theory of value. These criticisms need not affect the points at issue
here. On the particular point involved, I agree with Fisher that the
productivity theory gives a wrong answer.

[343] _E. g._, Fisher, _Purchasing Power of Money_, p. 179.

[344] This confusion is a companion of the confusion between volume of
_goods in existence_, or volume of _production_, and volume of goods
_exchanged_. The errors growing out of this confusion have been dealt
with in ch. 13, especially pp. 225-226. Virtually all quantity theorists
make both these mistakes.

[345] The fundamental causation is psychological, and calls for a theory
of _value_, as distinguished from exchange-relations.

[346] _Supra_, chapter on "Velocity of Circulation."

[347] This distinction is clearly made and developed by von Wieser, in
the two articles referred to in our chapter on "Marginal Utility." It is
used by him in criticisms of the quantity theory. "Der Geldwert und
seine geschichtlichen Veränderungen," _Zeitsch. für Volkswirtschaft,
Sozialpolitik und Verwaltung_, XIII, 1904; discussions in _Schriften des
Vereins für Sozialpolitik_, 1009, no. 132. A similar distinction runs
through J. A. Hobson's _Gold, Prices and Wages_, London, 1913. The
present writer had worked out the line of argument here presented before
reading either of these discussions.

[348] I have chosen maid-servants, to avoid complications of costs of
production in the reasoning that might come if other labor, engaged in
producing goods for the market, were selected. To tighten the argument a
tittle further, I assume that the masters receive their monthly incomes
on the first day of the month; that they pay the maids on the same day;
that the rest of the expenditures, both of masters and maids, are strung
out through the rest of the month.

[349] _Op. cit._, p. 27.

[350] A possible alternative interpretation of Professor Fisher's
conception is suggested in two or three sentences in the passage of the
_Purchasing Power of Money_ I have been discussing. On p. 175 he makes a
distinction between individual prices _relatively to each other_ and the
price-level. But the distinction which he _discusses_ in the passage as
a whole is between the price-level and individual prices _not_
considered in relation to each other. Comparison, moreover, with his
original enunciation of the notion (Papers and Discussions, 23d Annual
Meeting of the American Economic Association, pp. 36-37), would serve to
justify the interpretation I give, as nothing at all is said there about
super-ratios between individual prices. But the internal evidence is
even more convincing. Demand and supply, and cost of production, find
their problem, not in the relation between the money price of aspirin
and the money price of caviar, but in the money-price of aspirin or the
money-price of caviar considered separately. Professor Fisher thus
conceives supply and demand in his _Elementary Principles_ (p. 260).
This interpretation is especially necessary, since Professor Fisher is
joining issue with writers who surely use demand and supply and cost of
production as means of explaining money-prices, and not super-ratios
between them. Further, the price-level is _not_, on Professor Fisher's
own scheme, a factor in determining the relations of the prices of sugar
and of wheat _inter se_. With a given price-level, wheat might be worth
a dollar and sugar nine cents, and the ratio of their money equivalents
would be 100:9; with a price-level twice as high, wheat would be worth
two dollars, and sugar eighteen cents, but the ratio between their money
equivalents would be still 100:9. The whole discussion is quite
meaningless unless the contrast be between concrete money-prices of
particular goods, and their average. On either interpretation, moreover,
my criticism of the exalting of the average into an entity would stand.

[351] _Purchasing Power of Money_, pp. 175-179.

[352] I am glad to find myself in agreement with Professors Laughlin and
Kemmerer in holding that this notion of Professor Fisher's is untenable.
"The distinction Professor Fisher draws between the prices of individual
commodities and the general price-level appears to me, as to Professor
Laughlin, to be untenable. It is, moreover, contradictory to his general
philosophy of money. His index numbers recognize no general price-level
distinct from individual prices.... Professor Fisher's illustration of
the ocean would be more apposite if he called it a lake whose level was
continually changing, and if he considered each particular wave as
extending to the bottom." Kemmerer, _Papers and Discussions_, 23d Annual
Meeting of the American Economic Association, p. 53. At the same time, I
agree with Professor Fisher that there must be something more
fundamental than the particular prices to make the scheme work. This
something I find in the absolute value of money.

[353] _Loc. cit._, p. 14.

[354] _Cf. Social Value_, chs. 2 and 11, and "The Concept of Value
Further Considered," _Quart. Jour. of Econ._, Aug., 1915. See also,
_supra_, the chs. on "Value," "Supply and Demand," "Cost of Production,"
and "Capitalization."

[355] This tendency may be more than offset by the increasing
significance of money as a "bearer of options" or "store of value" in
periods of panic and depression. See, _infra_, the chapter on "The
Functions of Money," and Davenport, _Economics of Enterprise_, pp.
301-03.

[356] "Agricultural Credit in the United States," _Quart. Jour. of
Econ._, Aug., 1914, p. 708, n.

[357] Iowa farm lands are exceedingly active, 18% of the farms being
sold annually. The Mississippi lands are much less active. I am indebted
to Dr. Pope for information regarding Iowa on this point.

[358] The Single Taxer could at least retort that this need not protect
landlords in countries, like England, which lend surplus capital abroad.

[359] _Cf._ Trosien, _Der landwirtschaftliche Kredit und seine
durchgreifende Verbesserung_, p. 29, cited by J. E. Pope, _loc. cit._,
p. 705, n.

[360] This was seen by Mill, (_Principles_, Bk. III, ch. viii, par. 4),
and has been especially emphasized by Laughlin, _Principles of Money_,
ch. 10. _Cf._ A. C. Whitaker's discussion in the _Quart. Jour. of
Econ._, Feb. 1904.

[361] _Supra_, p. 124, and ch. on "Dodo-Bones."

[362] Comptroller of the Currency estimates the State bank-notes in 1861
at 202 millions; in 1862, at 183 millions. _Report of the Comptroller of
the Currency_, 1915, vol. II, p. 37.

[363] W. C. Mitchell, _History of the Greenbacks_, ch. on "The
Circulating Medium," and _passim_.

[364] See Conant, _Modern Banks of Issue_, New York, 1896, p. 114. An
interesting analysis of the course of the gold premium and of prices
during the period of the Bank Restriction in England, and of the
controversies relating thereto, will be found in Knies, _Der Credit_
(vol. II of _Geld und Credit_), pp. 247 _et seq._ The same period is
studied in detail by Thos. Tooke in his _History of Prices_.

[365] _Money and Monetary Problems_, p. 105, and preceding.

[366] Nicholson, _loc. cit._, 84ff.

[367] _Ibid._, 76ff.

[368] _Cf._ Laughlin, J. L., _Principles of Money_, and Scott, W. A.,
_Money and Banking_.

[369] _Cf._ _infra_, our discussion of credit. It is not maintained that
credit needs to be based on _physical_ goods, but it is maintained that
credit is based on _values_, which are generally not the value of a sum
of gold.

[370] I have elaborated this notion in a hypothetical case in the
chapter on "Dodo-Bones," to which I would now refer. See also the
analysis of an "ideal credit economy" in the discussion of reserves in
the section on Credit, in Part III.

[371] _Infra_, the discussion of reserves in Part III.

[372] _Cf._ the chapter on "The Origin of Money," _infra_.

[373] See especially _History of the Greenbacks_, pp. 188ff.; 207-208;
275-279.

[374] Various efforts have been made by adherents of the quantity theory
to meet the facts developed by Mitchell with reference to the
Greenbacks. Thus, it has been suggested that the coming to par of the
Greenbacks shortly before the resumption of specie payments was an
accidental coincidence, due to the fact that the volume of trade in the
United States just happened to grow to the right amount to bring the
Greenbacks to par at that time. No statistical evidence has been offered
for this thesis, I believe. It is, indeed, the only logical thing which
a quantity theorist could say on the matter, except one alternative, (F.
R. Clow, _J. P. E._, vol. II, p. 597) namely, that if the Greenbacks
should exist in such quantity that, under the quantity theory, their
value ought to fall below the discounted future value of the gold in
which they were to be redeemed, speculators would take them out of
circulation, holding them for the interest, and so reduce their quantity
that the value would rise to that discounted future value. The first
thesis, that based on putative changes in the volume of trade, though
highly improbable in fact, is logically possible. The second thesis,
however (_Purchasing Power of Money_, p. 261) meets serious
difficulties. What motive would a speculator have for taking the
Greenbacks out of circulation, and hoarding them? The answer is, he gets
thereby the "interest," as the Greenbacks approach the date for
redemption in gold. If this were the only way in which he could get this
gain, the answer would be good. But there is another way in which he can
get it, and something more besides, namely, by _lending out_ his
Greenbacks. In that case, since the creditor gets the full benefit of an
appreciating standard of deferred payments, he would get all the
"interest" which he could get by hoarding, and, in addition, he would
get contract interest on his loan. Of course, if the principle of
"appreciation and interest" worked out with perfect smoothness, he would
find his contract interest reduced as the other rose, and one might even
expect, if the Greenbacks were very redundant, that contract interest
would disappear. There is no evidence that this did happen, however! And
so long as any contract interest existed, we have a thoroughly valid
reason why a holder of Greenbacks would lend them rather than hoard
them.

Another effort to harmonize the facts with the theory consists in the
contention that _anticipated_ future increases in the Greenbacks would
work in the same way as actual increases. But this is to shift the whole
basis of the quantity theory, which rests in the notion of a mechanical
and--in the mass--unconscious equilibration of quantity of money and
number of exchanges. The quantity of money is not increased until it is
increased! _Cf._ Mill, _Principles_, Bk. III, ch. 12, par. 2, and Jos.
F. Johnson, _Money and Currency_, Rev. ed., p. 235.

Professor Fisher has another way to meet the facts of the Greenback
régime, and that is by holding that they prove his case! I do not think
that anyone, however, who examines the figures he offers on p. 260
(_loc. cit._) will be impressed by the degree of concomitance between
money and prices which they exhibit, especially after Mitchell's careful
analysis of changes in detail.

At another point, Professor Fisher maintains (p. 263) that the rapid
changes in gold premium which came with news from the military
operations (_e. g._, the 4% drop in Greenbacks after Chickamauga), were
due to alterations in velocity of circulation and in volume of trade! As
the gold market usually got the news by wire, before the newspapers got
it, however, this thesis is not very convincing.

[375] Kemmerer, E. W., _Money and Credit Instruments in their Relation
to General Prices_, New York, 1907; Fisher, _Purchasing Power of Money_,
New York, 1911; subsequent yearly continuations of "The Equation of
Exchange" in the _American Economic Review_. The references here, as
throughout, are to the 1913 edition of Professor Fisher's book.

[376] _History of Prices._

[377] To this type would belong Professor Fisher's figures with
reference to the years, 1860-66 on p. 260 of his _Purchasing Power of
Money_.

[378] This relates particularly to Fisher's figures.

[379] _Loc. cit._, p. 298.

[380] _Ibid._, p. 297.

[381] _Cf._ our chapter, _supra_, on the "Equation of Exchange."

[382] These are the "finally adjusted" figures. _Loc. cit._, 304.

[383] _Ibid._, p. 277. Fisher's estimate for V, as corresponding more
closely to Kinley's figures for the proportions of money and checks in
trade, is to be preferred to Kemmerer's. _Cf._ our comments on this
point, _infra_, in this chapter. Even the figures for M´ are not
correct, since they do not include deposits growing out of "morning
loans," cancelled during the day. _Infra_, ch. 24.

[384] _Report of the Comptroller_, 1896; _The Use of Credit Instruments
in Payments in the United States_, National Monetary Commission Report,
Washington, 1910.

[385] I am indebted to the _Annalist_ for permission to use here
materials first published in the _Annalist_ in articles by the present
writer: "Home vs. Foreign Trade," Feb. 6, 1916; "Tests of Home Trade
Volume--a Rejoinder," March 6, 1916; "Home Trade Volume," March 20,
1916, p. 377. To these articles Professor Fisher replied: "A
Multi-Billion Dollar Nation," _Annalist_ Feb. 21, 1916; and "Over and
Under Counting," _Ibid._, March 13, 1916.

[386] Except checks deposited by one bank in another. Kinley's figures
exclude these in 1909, but not in 1896.

[387] The methods and data employed by Professor Fisher are described at
length in his _Purchasing Power of Money_, ch. XII, and Appendix to ch.
XII.

[388] M´ is the _average_ of bank deposits, as shown by the balance
sheets, for all banks in the country for the year. Throughout, the
reader must distinguish this from the "deposits" of Kinley's
figures--amounts "deposited" on March 16.

[389] It is easier, sometimes, to make an assumption regarding a set of
facts than to find out what they are! In this case, some work was
involved. Old newspapers had to be hunted up for various cities, and
letters had to be written, to find out, for various cities, (a)
clearings for March 17, 1909, and (b) the number of banking days in the
year 1909. This work was done by Mr. N. J. Silberling, who got figures
from 12 cities which had 69% of all clearings outside New York. These
cities are: Chicago, Philadelphia, Boston, St. Louis, Pittsburg, San
Francisco, Baltimore, New Orleans, Atlanta, Providence, St. Paul, and
Seattle. The daily average of clearings for these cities in 1909 was
$136,222,436; the actual clearings for March 17, 1909, was $132,961,273.
The ratio of average daily clearings to actual clearings on March 17 was
1.0245:1. The increase needed in the figure for deposits outside New
York, then, was only 2.45%. Mr. Silberling, wishing to be conservative
in view of the 31% of outside clearings not investigated, allows outside
clearings to be 3% below normal. On this basis, following Professor
Fisher's method of computation, he multiplies the deposits assigned by
Professor Fisher to New York by 1.28, and the deposits assigned to the
country outside by 1.03, getting total deposits for the day of 1.11
billions, as against Professor Fisher's figure of 1.20 billions, and a
total for the year of 333 billions, as against a total obtained by
Professor Fisher of 364 billions.

[390] To this 786 millions is added all that comes from the erroneous
assumption regarding outside clearings, when figures for the whole year
are obtained. Country deposits, for the year, are thus still further
exaggerated by 31 billions!

[391] _The Use of Credit Instruments_, etc., p. 152. There is abundant
evidence in Dean Kinley's figures that only a decidedly minor part of
the amount (373 millions) of checks allowed by Professor Weston for the
non-reporting banks could have been outside the larger cities. The
amount deposited in a day in a country bank is so small that a great
multitude of these banks would be required to show as much as a single
New York City institution. Thus, ninety banks (27 national banks, 58
State banks, 3 private banks, 1 stock savings bank, 1 trust company) in
Arkansas, report only $728,148 in checks, an average of $8,090 per bank.
If all the 13,000 non-reporting banks were country banks, and if this
ratio held, we should have 105 millions more for the day (instead of
Professor Weston's 373 millions), or 31 billions more for the year. This
average is based chiefly on State and national banks. The average is too
high for the private banks (whose daily average as reported is $4,010),
and for the mutual savings banks (whose daily average is $1,254). It is
well above the daily average of the stock savings banks, which are, in
many States, practically commercial banks ($6,405). In the non-reporting
banks there are comparatively few national banks, and about 5,000
private banks and savings banks, of these the great majority being
private banks. We cannot make up the 373 millions in the country
districts. Nor can we make up the 373 millions by taking in all the
reserve and central reserve cities, exclusive of New York. Chicago, in
the returns, shows 42.6 millions in checks; St. Louis, 14 millions;
Boston, 48.8 millions; Philadelphia, 28.6 millions; the other reserve
cities show 40.2 millions--a total of 174 millions. If we doubled the
returns for these cities, we should still be 200 millions short of the
373 millions added by Professor Weston to the total! Neither in the
country districts, nor in the major cities outside New York can we find
enough to make up that addition. Very much of the amount added for
non-reporting banks must be found in New York City itself.

[392] Dean Kinley's questionnaire asked the banks reporting their
deposits for the day to exclude deposits made by other banks. These
deposits were not excluded in the 1896 investigation.

[393] House Committee on "Money Trust." Feb. 28, 1913. Pp. 57, 78, 145.

[394] _Cf._ _supra_, and _infra_ our discussion of the volume of trade,
and _infra_, our discussion of credit, particularly the analysis of
bank-loans.

[395] _Vide_ the opinion expressed by an official of a New York trust
company, quoted below, on p. 346.

[396] _Cf._ Horace White, _Money and Banking_, 5th ed., p. 364.

[397] Kirkbride and Sterret, _The Modern Trust Co._, New York, 1905, pp.
59-60; Cannon, _Clearing Houses_, _Nat. Mon. Com. Report_, p. 178;
Conant, _Principles of Money and Banking_, II, p. 244.

[398] Inquiry was also made of Professor George E. Barnett, who had
cited the figures given by the New York Supt. of Banks at p. 133 of his
_State Banks and Trust Companies_. Professor Barnett writes, in part, as
follows: "I made no independent inquiry at the time, and accepted the
statement of the superintendent of banks without critical examination of
its basis. From what you say, it appears highly probable that he was
mistaken in his conclusions. The only question in which I was interested
was whether the reserves of the trust companies could be reasonably
lower than those of the national banks. I did not care so much about the
exact ratio of clearings and only quoted that incidentally." For the
purposes which both Professor Barnett and Mr. Williams had in view, the
exact ratio was unimportant. The higher figures which I have given above
would support the thesis in which both were interested, namely, that
trust company accounts are less active than bank accounts, and so lower
reserves may be safely held by trust companies than by national banks.

[399] Fisher, _loc. cit._, p. 444.

[400] P. 443. Other discussions of this investigation are in the
_Journal of the American Bankers' Association_, Jan. 1914, p. 487;
_Ibid._, Feb. 1915, p. 555; _National Banker_, March, 1915.

[401] None of the cities covered in the figures given in the _Annalist_
were in New York State. Kinley's figures show that the percentage of
checks received in deposits of March 16, 1909, in banks outside New York
State was 91%. _Loc. cit._, p. 180.

[402] Multiplying the 408 millions of checks deposited outside New York
on March 16, 1909 by 303, the assumed number of banking days, gives
123.6 billions. Probably, therefore, 124 billions is too small a figure.
But we should be slow in modifying a figure based on 17 months'
observations because of the figures from one day's observations.

[403] I have greater confidence in this conclusion, since seeing a
letter from Mr. Howard Wolfe, who made the investigation of outside
clearings and "total transactions" for the American Bankers'
Association, to Mr. Osmund Phillips, Editor of the _Annalist_. Mr. Wolfe
writes: "I do not believe that the experience of the New York banks
would differ from that of other institutions which now supply [these
figures]."

[404] My information on this point comes from Professor O. M. W.
Sprague. It is corroborated by an official of the Bankers Trust Company
in New York.

[405] _Vide_ Rodney Dean, of the Fifth Avenue Bank, New York, "The
Problem of Collecting Transit Items," _Journal of the American Bankers'
Association_, Jan. 1914, p. 537. Boston inaugurated the system in
1890-1900; Kansas City five years later. Since the above was written, I
have learned that New York, in recent months, has introduced the new
system. This does not affect our argument regarding the figures for
1909.

[406] Since the foregoing was written, my attention has been called by
Mr. Osmund Phillips, Financial Editor of the New York _Times_, and
Editor of the _Annalist_, to indirect ways in which items on out of town
banks sent to New York for collection will affect New York clearings.
Country correspondent banks to which New York banks send these items for
collection, may remit for them in four ways: (1) by sending cash; (2) by
sending items on out-of-town banks, which the New York bank will send on
to some other correspondent for collection; (3) by draft on the New York
bank which has sent the items to be collected; (4) by draft on some
other New York bank. In the last case, New York clearings are affected.
The first case is not, quantitatively, important. The second and third
cases would seem to be the normal types, assuming correspondent
relations between New York banks and country banks to be _reciprocal_,
since the New York bank would be disposed, as far as possible, to turn
over its collection business to its own depositors among the country
banks. Mr. Phillips says, however, that the fourth case is important. To
the extent that this is true, our conclusion that out of town collection
items do not affect New York clearings must be modified, and it becomes
a matter of importance whether these items are large or small. My
information, as stated above, is that Chicago exceeds New York City in
this.

If, however, the Kansas City and Boston arrangements held in New York,
these collection items would be represented _twice_ in New York
clearings. The fact that the items do not themselves get into the
clearings remains.

Direct information regarding New York clearings is very desirable. Our
indirect approach must be considered inconclusive until more detailed
figures for New York City are at hand. We need figures covering all
types of banks in New York, for a period of, say, a year (to allow for
seasonal changes), in which deposits made by one bank in another are
separated from other deposits. National banks alone would exaggerate the
item of deposits by one bank in another, especially as they are the
depositories of the great private banks.

[407] Or, in some cases, taking the place of cash dealings between banks
and a local clearing house. On the face of it, it is incredible that
_balances_ between cities, or _within_ cities, after the country
clearing houses have done their work, should be so great as to account
for a very great part of New York clearings. These balances between
cities other than New York, and balances within country clearing houses,
must be a minor fraction of _country_ clearings, and country clearings
are little more than half of New York clearings. Ordinary commerce, as
shown in chapter XIII, cannot give rise to great sums in the aggregate,
to say nothing of giving rise to great _balances_.

[408] The whole thing is summed up on p. 25 of the Comptroller's
_Report_ for 1892.

[409] _Cf._ Kemmerer, _Money and Credit Instruments_, p. 117.

[410] _Annalist_, July 6, 1914, p. 8. The editor of the _Annalist_ gives
me the following information: data for twenty banks, six in New York and
fourteen in Chicago, Philadelphia, Boston, and St. Louis, for the week,
Aug. 28-Sept. 2, 1916, show that clearings are 71% of "total
transactions" in New York, and about 40% in the other cities. These
figures are all for national banks, except for one bank in St. Louis.

[411] There is one further generalization developed in connection with
Mr. Wolfe's investigation of the ratio of clearings to "total
transactions" which seems to have relevance here, though I am not sure
how it should be interpreted. The average ratio, as stated, is about
40%. This varies, however, for different cities. "The rule seems to be
that the larger the proportion of bank deposits to individual deposits,
the smaller will be the figure representing this ratio. In Cincinnati,
for example, it is 31.4% while in Los Angeles it is 59.7%." (_Jour. of
American Bankers' Ass'n_, Jan. 1914, p. 487.) How safely based this
generalization is cannot be told from the context, as no further facts
are offered. Nor is its bearing on the question at issue, as to whether
or not New York clearings bear a higher ratio to New York deposits than
country clearings do to country deposits, entirely clear. It would seem
to indicate that deposits made by outside bankers in the banks of
reserve cities make smaller contributions to clearings than individual
deposits do, and this would fit in with the fact that checks on outside
banks, deposited for collection by one bank in another, do not get into
clearings. What further explanation or significance it has I leave to
the reader. It is possible that there are a number of important relevant
facts missing regarding New York clearings, and that the conclusions
here reached may require later revision.

[412] _Loc. cit._, p. 304.

[413] But not as a correct estimate of M´V´ for the equation of
exchange! We do not know what part of these checks were used in "trade."
_Cf._ our discussion of the estimate of T, _infra_.

[414] Kemmerer does not do this, but takes total clearings for the
country as his index of variation. _Loc. cit._, 118-120. His figures for
"check circulation" are, thus, more variable than Fisher's. In this,
Kemmerer's results are much to be preferred.

[415] I have taken the figures for clearings from Professor Fisher's
table, _loc. cit._, p. 448.

[416] _Loc. cit._, p. 304. _Cf._ our chapter on "Velocity of
Circulation," _supra_.

[417] _Loc. cit._, pp. 477-478.

[418] There is, of course, the further point, to be emphasized in the
discussion of T, _infra_, that MV (and hence V), assuming the
calculation otherwise correct, is too large, to the extent that it
includes tax payments, loans and repayments, dealings between agent and
principal, etc. But this criticism does not so clearly apply to MV as it
does to M´V´.

[419] _Business Cycles_, p. 308.

[420] That volume of trade and volume of physical goods are virtually
interchangeable in Fisher's thought is strikingly illustrated on p. 195
of the _Purchasing Power of Money_: "A doubling in the quantities of all
commodities _sold_, or (_what is almost the same thing_) a doubling of
the quantities _consumed_." Italics are mine.

[421] This is strictly true only of the part of T which comes from the
figure for M´V´, 353 billions. In calculating MV, Professor Fisher
introduces more complexities, into which we shall not enter, as the
absolute amount is small--only 34 billions!--and the possible error from
this source not great enough to affect a calculation where 20 billions
one way or the other is within the "margin of error."

[422] _Vide_ _Annalist_, Feb. 17, Feb. 21, March 6, March 13, and March
20, 1916, for a discussion of this point by Professor Fisher and the
present writer.

[423] _Op. cit._, pp. 112-113. It is interesting to note that Kemmerer's
argument takes the form of proving, not that bank transactions do not
overcount trade, but merely that they do not _undercount_ trade. With
this contention I am in hearty agreement! The overcounting is worse in
Kemmerer's figures for 1896 than for Fisher's in 1909, since the 1896
figures included deposits made by one bank in another, while the 1909
figures do not. _Cf._ Kemmerer, p. 105, and Kinley, in _Report of the
Comptroller_ for 1896 and in the 1909 monograph, _passim._

[424] _Vide_ the present writer's discussion in the _Annalist_, March 6,
1916, p. 313.

[425] I am informed by Mr. B. F. Smith, Treasurer of the Cambridge Trust
Company, that the practice of having separate dividend accounts is a
very widespread one, especially with the larger corporations.

[426] _Statistics of Railways_, 1909, p. 71.

[427] Professor Fisher, in his _Annalist_ article of Feb. 21, 1916,
quotes Dean Kinley (_The Use of Credit Instruments_, p. 151), as holding
that duplications have largely been eliminated from his 1909 figures.
Professor Fisher overlooks the fact that Dean Kinley is here referring,
not to money value of trade, but merely to volume of checks. Dean Kinley
merely indicates that by eliminating deposits made by one bank in
another, he has avoided having the same check counted in deposits made
in two or more banks on the same day. Even this is not wholly avoided.
(_Ibid._, pp. 158-159.) It was extensive in the 1896 figures. Dean
Kinley thinks, properly enough, that he has a sufficiently close
approximation to the volume of checks, for the reporting banks, but what
the checks were drawn for he does not undertake to say. His problem was
_payments_, not _trade_. From the angle of volume of trade, he finds
duplications even in the retail deposits (_Jour. of Polit. Econ._, vol.
5, p. 165).

[428] _Annalist_, March 13, 1916, p. 344.

[429] Chapter on "Volume of Money and Volume of Trade," pp. 241-248. We
really did not "find" nearly that much. The figures assigned to retail
and wholesale trade rest on figures for retail and wholesale bank
"deposits," and are, especially the wholesale figures, much too large.

[430] _Annalist_, Feb. 21 and March 13, 1916.

[431] _Loc. cit._, p. 180.

[432] _Ibid._, pp. 166-167; 187; 273.

[433] Pratt, _loc. cit._, p. 166.

[434] _Ibid._, p. 187.

[435] Emery, _Speculation on the Stock and Produce Exchanges_, pp. 89;
74-95. A Boston broker expresses the opinion that the magnitude of
artificial borrowing to make the clearance sheet misleading is not
great, so far as Boston is concerned. I have got no estimates for New
York.

[436] The banks, of course, are not borrowing stocks.

[437] Van Antwerp, _The Stock Exchange from Within_, New York, 1913, p.
290

[438] It recently happened that Alaska Gold was being "loaned flat" on
the Boston Stock Exchange, which was a prelude for a six point advance
in the next two or three days, as the bears were driven to cover.

[439] One factor complicates this. Are all the hundred share sales
recorded? In our chapter on "Volume of Money and Volume of Trade," we
called attention to a statement to the effect that brokers get together
before the market opens, and compare "stop loss" orders, matching these
with other orders, with the understanding that they automatically go
into effect if the "market" reaches the prices indicated. The statement
indicated that this substantially increases sales beyond the recorded
totals, as such sales do not get on the ticker. I think, however, that
this cannot throw our reckoning out greatly. The great majority of sales
are not on "stop loss" orders. None of the sales of "floor traders," who
average a third of the total trading (_Pujo Committee Report_, Feb. 28,
1913, p. 45), would be on "stop loss" orders. The bulk of the rest is
not. Moreover, not all stop loss orders, by any means, would be executed
in this manner. It is not easy to see how, under the rules and practices
of the Exchange, many other sales could go unrecorded, except on days of
greatest stress. On September 25, 1916, when over 2,300,000 shares were
sold, the daily paper spoke of sales missed by the ticker, which was
swamped with sales to be recorded, as an item of some magnitude. But the
Ticker is wonderfully efficient. It sometimes gets behind the market by
several minutes, but it rarely misses anything, under ordinary
conditions.

[440] _Ibid._, p. 166.

[441] This explains the estimates of Wall Street men that the Clearing
House reduces checks by two-thirds. For _their purposes_, the saving is
almost that much, of the items offered for clearings. _Cf._ Van Antwerp,
_The Stock Exchange from Within_, pp. 121-122.

[442] _Ibid._, p. 273. There is one billion difference between Pratt's
estimate and mine. I incline to the view that mine is correct, the more
as he puts his figure, 14 billions, as a safe lower limit. But a billion
one way or the other is trifling!

[443] An official of the Bankers Trust Company has secured for me from a
broker at the "Money Post" an estimate of 20 to 25 millions as an
average, with 50 millions as a maximum, for 1915. The Pujo Committee, in
its report in 1913, p. 34, gives a similar estimate.

[444] P. 34.

[445] _Annalist_, Aug. 14, 1916.

[446] N. J. Silberling, "The Mystery of Clearings," _Annalist_, Aug. 14,
1916, p. 223.

[447] There is one further piece of evidence which has been obtained
through the courtesy of a New York brokerage house. At the request of
the gentleman who has supplied the figures, I have altered them by a
constant percentage, to prevent possible identification, but the
proportions among them hold as they were given. The figures show the
business of the house for the month of March, 1916. The figures show:

  Market value of stocks and bonds bought,  1,644,630
  Total deposits made during month,         1,475,502
  Average borrowed from banks,                952,000

For this house, then, for this month, the deposits were less than the
value of securities sold, by 11.5%. The month, however, was unusual. It
was a month of reduced activity, following large activity. This is
strikingly shown by the figure for the _average_ bank loans for the
month--over two-thirds of the _total_ deposits for the month. The house
had a large bull _clientèle_, which was holding its stocks, and not
selling on a bear market. The turnover was very slow, as Wall Street
goes. It was a time of extraordinarily easy money when banks called few
if any loans. The broker, in explanation of his figures, says: "The most
of our checks were to other brokers. Checks to banks about equaled
checks to customers. Your assumption that we did not pay off many loans
in March is, I think, right." The same broker states in another letter
that he thinks that, in general, the bulk of checks to and from brokers
are in dealings with banks. In this month, then, with this factor
reduced to a minimum, we still have deposits undercounting sales by only
11.5%. The figures do not prove my thesis that brokers' deposits greatly
overcount their sales, but they at least show that they do not greatly
undercount them. In view of the peculiarities of the month chosen, with
transactions between banks and brokers cut to the minimum, they are
quite consistent with the contention that normally the brokers' deposits
will much exceed their sales.

[448] Kemmerer's main figures are merely _indicia_ of variation, rather
than absolute magnitudes, for trade. On p. 136, _d._ (_loc. cit._),
however, he indicates that his figures for "total monetary and check
circulation" is also a figure for "total business transactions"--and
counts 89% of it as wholesale trade.

[449] _Cf._ the discussion of the relation of P and T in the chapter on
"The Equation of Exchange."

[450] _Op. cit._, p. 136.

[451] _Ibid._, pp. 70-71.

[452] _Loc. cit._, p. 487.

[453] Kemmerer does not accept Kinley's estimate of 75% for checks as
compared with money in payments as a "sure minimum" for 1896, but rather
counts it as a "fair maximum." (_Loc. cit._, p. 106.) Using this as a
basis, he gets a monetary circulation for 1896 of 47.7 billions, and a
"velocity of money" (since the monetary stock in circulation in 1896 was
a little over 1 billion) of 47. (_Loc. cit._, p. 114.) Kinley's fuller
investigation in 1909 has made it clear that his 1896 conclusions
understated, rather than overstated, the proportion of checks to money.
His "sure minimum" was needlessly low. He concludes in 1909 that 80 to
85% for checks is safe. (_Op. cit._, p. 201.) _Cf._ Fisher's comments,
_loc. cit._, pp. 430; 460 _et seq._ Fisher's V is about half as great as
Kemmerer's, and varies to some extent. I think Fisher, since his results
are closer to Kinley's later figures, has made much the better estimate
here.

[454] Since I have already compressed the contents of a book of 200
pages into Chapter I of the present book, it seems undesirable to
attempt here a further compression of that chapter. These theses,
therefore, do not give the substance of the social value theory.

[455] Menger, "Geld," _Handwörterbuch der Staatswissenschaften_;
Carlile, _Evolution of Modern Money_.

[456] We should make a slight and unimportant qualification as to
Kemmerer. _Cf._ our chapter on "Dodo-Bones," _supra_.

[457] It seems necessary to point out this essential lack of correlation
between value and exchangeability, since Mr. Horace White, in his _Money
and Banking_ (5th ed., p. 135), identifies value and exchangeability:
"Value is an ideal thing in the same sense that weight is. The former
means exchangeability; the latter means force of gravity. A dollar is a
definite amount of exchangeability." _Cf._ also Amasa Walker's
contention that "exchangeable value" is tautology, equivalent to
"exchangeable exchangeability!" _Science of Wealth_, 5th ed., p. 9.
_Cf._ my article "The Concept of Value Further Considered," _Quart.
Jour. of Econ._, Aug. 1915, pp. 696 _et seq._

[458] This is stated by Schumpeter, so far as land is concerned. _Vide
Quarterly Journal of Economics_, Aug. 1915, p. 704. It is due Menger to
point out that he does not make the distinction between value and
exchangeability which I have just made. His theory rests in an analysis
of the saleability or exchangeability of goods. But Menger's conception
of value is essentially different from my own. He commonly means by
"_Wert_" merely subjective value, or marginal utility. He objects to the
notion that one good measures the value of another, or that goods, when
exchanged, are equivalent in value, on the ground that there must be a
surplus in value (subjective value) for each exchanger, or exchange
would not take place. He has, as a primary concept, no absolute social
value. "_Tauschwert_" is for him a relative value, though he is finally
driven to constructing what is virtually an absolute value notion, by
distinguishing "_äusserer Tauschwert_" from "_innerer Tauschwert_" in
the case of money, the latter being concerned exclusively with the
causes affecting prices _from the side_ of money, ignoring changes
in prices due to causes affecting goods. (_Cf._ art. "Geld," in
_Handwörterbuch der Staatswissenschaften_, 3d ed., pp. 592-593. He does
not make this distinction in developing the theory of saleability of
goods, however. _Cf._ the chapter, _supra_, on "Marginal Utility and the
Value of Money." It is absolute social value which I am here
distinguishing from exchangeability. It is equally true, however, that
subjective value and exchangeability have no necessary correlation.)

[459] _Cf._ A. S. Johnson, "Davenport's Competitive Economics," _Quart.
Jour. of Econ._, May, 1914, p. 431.

[460] The man who wishes to "break" a twenty dollar bill may well have
to go through Menger's process, getting two tens from one man, breaking
one of these into two fives with another, and so on. Or he may have to
buy something which he does not want to get "change."

[461] Ridgeway, _Origin of Metallic Currency_, p. 327; Carlile,
_Evolution of Modern Money_, p. 233. Grain is said to have been used in
ancient China as money,--not as a standard of value, but as a medium of
exchange. Chen Huan Chang, _Economic Principles of Confucius and his
School_, vol. II, p. 437.

[462] Written in 1914.

[463] The Hindu law of inheritance is a factor here. The Hindu woman may
retain, after the death of her husband, father or brother, the ornaments
he has given her during his lifetime. But all of the rest of the family
property must go to male heirs, even remote male heirs coming in before
the closest female relatives.

[464] _Cf._ Carlile, _Monetary Economics_, introductory chapter. The
whole question may hinge on terminology, so far as Carlile is concerned.
It is not clear what he means by "value of gold."

[465] _Cf._ Conant, _Principles of Money and Banking_, I, ch. 7, esp. p.
102.

[466] I do not believe that we have sufficient agreement among the best
students of the statistics of the precious metals to justify any
statistical conclusions regarding the laws governing the industrial
consumption of gold and silver. Even the facts as to the proportions of
annual production of gold in recent years going to money and to the arts
are in dispute. Thus, DeLaunay (_The World's Gold_, New York, 1908, p.
176), divides the annual output as follows: Exportation to the East, and
loss, 16%; coinage, 44%; industry, 40%. The industrial employments are
divided as follows: jewelry, 24% (of total annual gold production);
watch cases, 10%; gold leaf, 2.25%; watch chains, 1.75%; plate, 0.75%;
various uses, as pens, dentistry, chemical works, etc., 1.25%.
DeLaunay's competence as an authority is attested by various writers,
among them W. C. Mitchell (_Business Cycles_, p. 281). Mitchell,
comparing DeLaunay's estimates with divergent estimates of other
authorities, concludes that there is not sufficient evidence to justify
definite conclusions. I do not think that anyone who has read the
criticisms which Touzet has brought together (_Emplois Industriels des
Métaux Précieux_, Paris, 1911, pp. 49-52) of the methods employed in the
investigations by the Director of the United States Mint in 1879, 1881,
1884, 1886, and 1900, will have large confidence in the exactness of the
results reached in those investigations. (See annual reports of the
Director of the Mint for the years in question.) Touzet's careful and
elaborate study employs the figures of these investigations as the best
available, but with substantial misgivings. There are many indeterminate
elements in the problem, as shown by both Touzet and DeLaunay, among
them, the extent to which coin is melted down for industrial purposes.

The Director of the Mint would assign a much higher proportion of the
annual output to coinage than would DeLaunay.

Earlier studies, by Soetbeer and Suess, seem quite out of harmony with
these conclusions. (Suess, Eduard, _The Future of Silver_, Washington,
Government Printing Office, 1893, pp. 51-53.) Suess thinks that
virtually as much gold was going into the arts uses as was being
produced, in 1892, and quotes Soetbeer (_Litteraturnachweis_, p. 285) as
admitting that such a contention may not be demonstrable, but at the
same time holding that it cannot be disproved.

In the face of what seems to be a really indeterminate statistical
problem, I content myself with the theoretical conclusions in the text.
Because I cannot find adequate grounds for confidence in the main source
from which he has drawn his statistics, I refrain from a criticism of
the theory and method underlying Professor J. M. Clark's ingenious
effort to derive statistical laws for the elasticity of the arts demand
for gold. (_American Economic Review_, Sept. 1913.)

[467] _Cf._ our chapter on "Economic Value," _supra_, and "Social
Value," _passim_.

[468] F. A. Walker, _International Bimet_.

[469] See DeLaunay, _The World's Gold_, New York, 1908, p. 176.
DeLaunay's figures indicate that the use of gold for gold leaf and plate
is quantitatively a minor factor in the industrial consumption of gold.
Jewelry and watch cases are the most important items.

[470] Capital prices of lands and securities might well be lower, if
interest rates are markedly higher, and if land rents and "quasi-rents"
suffer from higher wages and higher interest.

[471] _Cf._ chapter on "Dodo-Bones," _supra_.

[472] Among the writers who have treated this topic, I would mention
especially Menger, "Geld," in _Handwörterbuch der Staatswissenschaften_;
Laughlin, _Principles of Money_; Scott, W. A., _Money and Banking_;
Knies, _Das Geld_; Walker, F. A., _Money and Political Economy_; Conant,
_Principles of Money and Banking_; Seligman, _Principles of Economics_;
Johnson, J. F., _Money and Currency_; von Mises, L., _Theorie des Geldes
und der Umlaufsmittel_; Helfferich, K., _Das Geld_; Simmel, _Philosophie
des Geldes_; Davenport, H. J., _Economics of Enterprise_. The difference
between the standard of value (common measure of values) function, and
the medium of exchange function is particularly well illustrated by
Scott, _loc. cit._, ch. 1. The legal functions of money are especially
treated by Knapp, _Staatliche Theorie des Geldes_.

[473] For discussions of the idea of measuring values, and the
dependence of this on the conception of value as an absolute quantity, a
common or generic quality of wealth, see Knies, _Das Geld_, I, 113ff.;
Kinley, _Money_, 61-62; Merriam, L. S., "Money as a Measure of Value,"
_Annals of the American Academy_, vol. IV; Carver, "The Concept of an
Economic Quantity," _Quart. Jour. of Econ._, 1907; Laughlin, _Principles
of Money_, 1903, pp. 14-16; Davenport, _Value and Distribution_, p. 181,
n.; Anderson, _Social Value_, chs. 2 and 11, and "The Concept of Value
Further Considered," _Quart. Journal of Econ._, 1915; Helfferich, _Das
Geld_, 1903 ed., pp. 470-478; Scott, _Money and Banking_, ch. 1.

[474] See Scott, _Money and Banking_, ch. 3.

[475] A further reason for preferring "common measure of values" is that
expression carries dearly the connotation of absolute values. "Relative
values" cannot be "measured," _Social Value_, pp. 26-27.

[476] Current text-books, following the Austrian doctrine, define
production as the creation of "utilities." This is incorrect. Production
is the creation of _values_. _Cf. Social Value_, pp. 119 and 189.

[477] This is the view of H. J. Davenport (_Economics of Enterprise_,
pp. 301-302).

[478] Kemmerer has shown this to be true of bank reserves. As we shall
see, the reserve function is merely a special case of the "bearer of
options" function. For Kemmerer's discussion of business distrust, see
_Money and Credit Instruments_, pp. 124-126, and 144.

[479] "In New York, for instance, loans by banks 'on call' are subject
to repayment within an hour or two after notice is given that repayment
is desired." Conant, _Principles of Money and Banking_, vol. II, p. 56.
In general, the banks are content if the loan is repaid by 3 o'clock on
the day it is called.

[480] _E. g._, Cairnes, J. E., _Leading Principles of Political
Economy_.

[481] _One_ "pure rate" is a myth, but the notion has some significance,
as setting off a body of causes distinct from the money-market factors
under consideration. _Cf. supra_, the ch. on "The Capitalization
Theory."

[482] See von Mises, "The Foreign Exchange Policy of the
Austro-Hungarian Bank," British _Economic Journal_, 1909, pp. 208-209.
An able Boston broker, in Feb. 1917, calls attention to the growing
difficulty of placing long-time bonds, without very high yield, in view
of the scarcity of real capital, despite the exceedingly low
"money-rates." I venture to predict an increasing "spread" between
"money-rates" and the yield on long-time investments, the longer the War
lasts. The view of Davenport and Schumpeter (_Annalist_, Feb. 28, 1916,
and _Theorie der wirtschaftlichen Entwicklung_), which would deny the
validity of the distinction between money-rates and interest rates, and
would make the money-market phenomena the primary cause of all interest
phenomena, seems to me indefensible, alike in theory and in fact.

[483] _Cf._ the analysis of bank-loans in the United States, _infra_.

[484] Mitchell, _Business Cycles_, p. 146.

[485] _Journal of Political Economy_, XVI, May, 1908, pp. 273-298.

[486] Leipzig, 1905. This book has had wide influence on German thinking
on money. It is typical of the tendency in German thought to make the
State the centre of everything. Recognizing the historical fact that
money has originated in a commodity, it holds that the commodity basis
is a phenomenon of historical significance only, that modern money is a
creature of the State. The money-unit is not definable as a quantity of
metal, of given fineness, but rather is a "nominal" thing, present
monetary standards being defined by legal proclamation in terms of past
standards. The necessity for this reference to past standards grows out
of the existence of past _debts_. The State must preserve the continuity
of juristic relations, between debtors and creditors as elsewhere. Knapp
holds that the _Zahlungsmittel_ (legal means of quittance, legal tender)
function is the primary function of money, and that it is not a concept
subordinate to _Tauschmittel_ (medium of exchange). It is not necessary
for our purposes to take account of Knapp's theory in detail. He really
has little to say about the value of money. Indeed, he confesses, in a
later discussion, that his theory is not concerned with that subject!
(_Schriften des Vereins für Sozialpolitik_, No. 132, 1909, pp. 559-563.)
The amount of economic analysis in the book is not great. It is a
striking illustration of the fact that legal thinking is largely
concerned with _qualitative distinctions_, rather than with quantitative
causal conceptions. (_Cf._ my discussion in the chapter on "The
Reconciliation of Statics and Dynamics," _infra_, of the "statics" of
the law.) Knapp's book has a forbidding appearance, because of the large
number of new terms, based on Greek roots, which he has coined. The
German language is inadequate to express his ideas! The Germans
themselves have complained much of this. Careful reading of the book
discloses, however, that the new terms are admirably adapted to express
the distinctions he draws. I think, too, that English readers of the
book, who remember enough of their Greek to recognize an occasional
Greek root as vaguely familiar, will find less difficulty in giving
fixed meanings to his new terms than would be the case with new German
compounds. One who takes the trouble to master Knapp's vocabulary will
find the effort worth while. Knapp has a high order of dialectical
acumen. But the main part of the book has little direct bearing on the
problem of the value of money, whether one understand by "value of
money" the absolute social value of money, or the reciprocal of the
price-level. The main points to be drawn from his discussion are (1) the
fact that past debts may tend to sustain the value of an otherwise
worthless money; and (2) that the State's willingness to accept money
for taxes, etc., may also contribute to its value. Knapp lays heaviest
stress on this last point. He seems to concede, however, that the rôle
of the State here is not different from that of any other big factor in
the market, and that the State's power in this particular is a function
of the magnitude of its fiscal operations. Both of these doctrines fit
readily into my social value theory. Knapp's discussion of methods of
regulating the international exchanges by methods other than gold
shipments is interesting, and might well be studied by those who are
concerned with the exchange situation in the present war. His thesis
that the value of silver depended on the course of the exchanges between
gold and silver countries, instead of the course of the exchanges
depending on the values of gold and silver, seems to me an absurd
exaggeration of a minor qualification into a main theory. His doctrine
that international relations alone make the purely legal money, without
commodity basis, unsatisfactory, I do not accept. I have discussed this
general topic in my chapter on "Dodo-Bones," however, and may content
myself with now referring to that chapter. It is not true, as a matter
of fact, moreover, that the money-unit is no longer defined as a
quantity of metal. Our own American practice is sufficient evidence on
this point. Knapp has sought to generalize his own interpretation of the
history of Austrian paper into universal laws of money! That his
interpretations meet authoritative dissent in Austria is sufficiently
evidenced by von Mises' discussion, in his _Theorie des Geldes_ (ch. on
"Das Geld und der Staat"), and in his English article on "The Foreign
Exchange Policy of the Austro-Hungarian Bank," British _Economic
Journal_, 1909. The notion that the legal tender function is prior to
the medium of exchange function I regard as quite indefensible. It is
doubtless true, in certain cases, that a government may debase its
money, defining the new debased money in terms of the old, and that
people who have debts to pay may, for a time, accept the debased money
as a medium of exchange. But the limit of this is reached when the old
debts have been paid. Unless other factors (not necessarily redemption),
then come in to sustain the value, the value will sink, to a level
commensurate with the debasement. The value would generally sink to a
considerable degree, in any case, if only the legal factors worked to
sustain it. I have gone over this in the chapter on "Dodo-Bones,"
_supra_. It was only by being a valuable object, and commonly only by
being a medium of exchange, that the money could have become a means of
legal quittance in the first place. Men would not have made contracts in
terms of it, otherwise. And men would cease making contracts in it as
soon as it (or other things tied to it in value) ceased to be an
acceptable medium of exchange.

Knapp finds a good many phenomena in the history of money for which the
quantity theory, and the metallist theory, can give no explanation. He
has an exceedingly poor opinion of both theories, and makes many telling
points against both. In so far as his doctrine asserts that the
phenomena of money are matters of social organization, psychological in
nature, I find myself in harmony with it. My dissent comes when he seeks
to erect the abstractions of the jurist into a complete social
philosophy! Law is only a part of the system of social control, and
economic values, while influenced by legal values, are far from being
explained when legal factors only are taken into account. Legal factors
often play a more direct part in connection with the value of money than
in connection with other values, but they do not dominate the value of
money.

Recent German literature on money (_e. g._, Fr. Bendixsen, _Geld und
Kapital_, Leipzig, 1912) has been a good deal influenced by Knapp, and
there is a fair chance that American students may have to read his book
if they wish to understand the next decade of German monetary history.
It will be well for Germany if this is not the case!

[487] _Economics of Enterprise_, p. 257.

[488] _Cf._ Böhm-Bawerk's _Capital and Interest_, _passim_, particularly
his discussion of Hermann, for an exposition and criticism of the "use"
theory of interest.

[489] _Cf._ Clark, J. B., _The Distribution of Wealth_, pp. 210-245.

[490] This is not necessarily true among Asiatics, or on the East Side
in New York City.

[491] The adherent of the Ricardian analysis who would deny this may
fight it out with Clark, Fetter, and A. S. Johnson!

[492] A friendly critic--with a radically different theoretical point of
view--feels that I am here playing fast and loose with the word,
"value," meaning sometimes "total utility," sometimes "marginal
utility," sometimes "relative marginal utility," and sometimes "price."
I _never_ mean any of these things by "value," when used without
qualification, in this book. I mean always _social economic value_,
conceived of as _absolute_.

[493] I have been unable to satisfy myself that anyone has made a
sufficiently thorough study of the course of the gold premium on the
Rupee, the agio of the Rupee over its bullion content, or the course of
prices in India, during the period from 1893 to 1898, to justify
confident statements as to the comparative strength of different
elements in the explanation of that history. Kemmerer states (_Money and
Credit Instruments_, p. 38) that he can find no evidence at all to
support Laughlin's view of the matter. (See Laughlin, _Principles of
Money_, pp. 524 et seq.) J. M. Keynes, however, in his _Indian Currency
and Finance_, p. 5, says: "The Committee of 1892 did not commit
themselves; but the system which their recommendations established was
_generally supposed_ [Italics mine.] to be transitional and a first step
toward the _introduction of gold_ [italics mine.]." In the arrangements
of 1893, moreover, a ratio between English gold and the Rupee was
established, of 16d. to the Rupee, even though provisions for holding
the Rupee to this ratio were left till the establishment of the "gold
exchange standard," several years later. Keynes, on p. 3, discusses the
arguments of the silver party against the introduction of gold, which is
further evidence that the action of the Committee was understood as
looking toward a gold standard. There is _some_ evidence at least for
Laughlin's view. That his view offers a complete explanation, I think
unlikely.

Kemmerer's admirable _Modern Currency Reforms_ (Macmillan, 1916), is at
hand while the proof sheets are being revised. It is interesting to note
that he finds the statistical evidence regarding Indian prices, trade,
etc., far too scanty to justify positive conclusions as to the causes
governing the course of the rupee. He prefers, rather, to rest the case
for the quantity theory on _a priori_ reasoning and statistics for the
United States. _Loc. cit._, pp. 70-71. In the chapter on "Dodo-Bones," I
have suggested that India might come nearer than other countries to
actualizing the assumptions of the quantity theory. On Kemmerer's
showing, however, it appears to be a liability, rather than an asset!

[494] This is a national bank. In the same community, the writer asked
the president of a State bank about his gold reserve, and was told that
light-weight gold coin could not be used, since the State bank examiner
made a practice of _weighing_ the gold of State banks.

[495] Legal tender can add to value of money only when it confers an
option on the _debtor_. In the case discussed, it is the _creditor_ who
has the option. But options are not necessarily valuable.

[496] As Davenport has pointed out, money is really moneys--there is a
hierarchy. _Cf. Economics of Enterprise_, pp. 256-259.

[497] The restricted legal tender of small coins, where the coins are
limited in amount to the needs of retail trade, is virtually an
unrestricted legal tender, in practice, and amounts, in fact, to
redemption. The coins are capable of being used where large coins, of
standard metal, would otherwise be used, or where checks, redeemable in
standard coin, would be used. Legal tender is vastly more effective with
reference to a small part of the money system than it would be with the
whole of the money supply. The same is true of the privilege of using a
particular form of money in paying taxes. _Cf._ W. C. Mitchell's
discussion of the "Demand Notes," _History of Greenbacks_, _passim_.

[498] _Cf._ Mitchell's account, (_Ibid._, pp. 166-173), of the premium
on minor currency, during the Civil War. Pennies were used in rolls of
25 as a substitute for silver quarters, which had left the country under
Gresham's Law. The premium was due primarily to the need for small
change, rather than to bullion content, though the latter was a factor
even for coins made of baser metals, in 1864.

[499] _Cf._ my article in the _Annalist_, Feb. 7, 1916, "The Ratio of
Foreign to Domestic Trade," and the chapter, _supra_, on "The Quantity
of Money and the Volume of Trade."

[500] Kinley's figures show a much lower percentage of money than this.
He is anxious not to overestimate the extent to which checks are used,
however, and so gives the figures of 50 to 60% of checks as a safe lower
limit.

[501] _Cf. Social Value_, 183-184.

[502] _Cf._ Carver's contention that "the demand for money is a demand
for value." "Concept of an Economic Quantity," _Quart. Jour. of Econ._,
1907.

[503] _Cf._ Laughlin's _Principles of Money_, p. 73.

[504] The main modern type of loan for non-business purposes is the
public loan for war purposes, or to meet fiscal deficits. In the case of
war loans, the emergencies are often so great that the rate of interest
makes little difference.

[505] No longer true of Europe, probably, since the huge war debts have
been incurred.

[506] The interest so defaulted is cumulative, like a preferred
dividend, for years after 1909. Wall Street speaks of this issue as a
"half-bond."

[507] _Supra_, chapter on "Origin of Money."

[508] "It is needless to say that Government bonds always rank as the
very highest class of collateral, and the banks require no margin on
such security." Pratt, _Work of Wall Street_, 1912 ed., p. 287. This, it
need not be said, is not always true!

[509] Veblen has elaborated the doctrine that stocks and bonds are much
the same. _Cf._ the discussion in Meade's _Corporation Finance_ of the
relation of junior bonds and preferred stocks in reorganizations.

[510] I do not accept the imputation theory, or the capitalization
theory, without qualification, except as static first approximations.
Values of "factors of production" may easily become, and do become, in
large part independent of their "presuppositions," _Cf._ the chapter on
"Dodo-Bones", _supra_, and the chapter on "Economic Value."

[511] This would seem to be Davenport's view. See his article in the
_Quarterly Journal of Economics_, Nov. 1910.

[512] To a high degree, "good will," trade-marks, etc., are bankable
assets.

[513] _Social Value_, 1911, _passim_, especially ch. XIII. Cooley, C.
H., "Institutional Character of Pecuniary Valuation," _Am. Jour. of
Sociology_, Jan. 1913.

[514] _Cf._ my article, "Schumpeter's Dynamic Economics," _Political
Science Quarterly_, Dec. 1915, and the chapter on "Marginal Utility,"
_supra_. That the new bank-credit, without the painful _preliminary_
"abstinence" which the classical economics has stressed, is enough to
provide capital for a new enterprise is, as Schumpeter insists, true.
Schumpeter has made an important contribution in his emphasis on this
too much neglected point. But it should be noted that this does not
dispense with curtailing of consumption, and "abstinence." It merely
shifts the necessity for curtailing consumption to some one else. The
new plan of the dynamic entrepreneur, by means of bank credit, draws
labor and capital away from the existing static enterprises. That
curtails their output. That leaves less goods of the old kinds for
people to consume. That means higher prices for consumption goods, in
the interval between the starting of the new enterprise and the time
when its finished products are added to the "real income" of the
community. Extensions of bank credit, there, shift the burden of
"abstinence" to the consumer, and to the static producer. "Saving" is
still the source of capital, but it is involuntary saving.

[515] In 1912, the First National Bank of New York owned 43 millions of
bonds, but no stocks. Report of Pujo Committee, Feb. 28, 1913, p. 66.
The National City Bank had 33 millions in bonds, but no stocks. _Ibid._,
p. 72. State banks own few stocks; trust companies own a good many.

[516] _Cf._ the chapter on "The Origin of Money," _supra_.

[517] In March, 1916, one of the largest banking houses in Boston
informed the writer that over one-fourth of its notes and discounts
(including all forms of loans) had been bought through note-brokers.

[518] _Cf._, _e. g._, pp. 135ff. of Scott's excellent _Money and
Banking_, Rev. ed., New York, 1910.

[519] The year 1909 is chosen, in order that comparison may be more
readily made with the figures of Dean Kinley's investigations based on
reported deposits made on March 16 of that year. The figures quoted are
taken from p. 39 of the Report of the Comptroller for 1913.

[520] Even excluding the item "due from other banks and bankers," as
representing duplications, the item "other loans and discounts" remains
approximately only one-fourth of total banking assets.

[521] Almost all agricultural processes require more than six months
from their inception to the marketing of the product.

[522] This view would seem to correspond with the view of Babson and May
(_Commercial Paper_, 1912), and of W. A. Scott ("Investment vs.
Commercial Banking," _Proceedings of Investment Bankers' Association of
America_, 1913, pp. 81-84). Both of these discussions appear in Moulton,
_Money and Banking_, Pt. II, pp. 70 and 75-77. Dr. J. E. Pope considers
the view correct. On the other hand, Professor O. M. W. Sprague thinks
the "other loans and discounts" of large city banks are more liquid than
my statement would indicate.

[523] _Principles of Money and Banking_, II, p. 52.

[524] _Report of the Comptroller of the Currency_, vol. II, pp. 145 _et
seq._

[525] Total collateral loans in New York City on that date were
$719,327,596. This is for national banks alone. _Report of Comptroller_,
1915, II, 144. There is every reason to suppose that if trust companies
and private banks were included, the _proportion_ of stock exchange
collateral loans would be very much higher.

[526] I am very fortunate in having the views of Dr. J. E. Pope on this
question. I know no one whose knowledge of agricultural credit, whether
of American or of European conditions, is so thorough and extensive.

[527] This table is constructed on the basis of data in the _Report of
the Comptroller_ for 1913, pp. 774-78.

[528] A single observation does not justify very confident conclusions,
and figures for subsequent years may alter this. There is reason for
supposing that commodity collateral was unusually large in proportion in
the Comptroller's figures for national banks in June, 1915, (1) because
the banks had been trying to reduce stock collateral loans, following
the collapse of the outbreak of the War, (2) because they were aiding
cotton owners to tide over a period of stress, and (3) because of great
grain speculation. Later: 1916 figures show this. Comptroller's
_Report_, I, p. 30. Stock loans increase from 66% to 71.2%, of
collateral loans.

[529] The preceding argument would indicate that it is much too high.

[530] The figures for 1909 are fairly typical of the proportions of
these items in the assets of the three classes of institutions for the
ten years from 1904 to 1914. Since 1900, there has been some increase in
the percentages of real estate loans and "all other loans," at the
expense of the percentage of securities owned, and collateral loans, as
these years have been years of reduced activity on the Stock Exchange.
The changes are not important enough, however, to modify any conclusions
which we shall base on the figures here given. All classes of loans have
grown, and investments in securities have grown, but real estate loans
and "all other loans," particularly the latter, have grown somewhat more
rapidly.

[531] These figures are taken from Conant, _Principles of Money and
Banking_, vol. II, p. 52.

[532] The term "commercial paper," as here used by Conant (whose source
is the _Comptroller's Report_ for 1904 and preceding years), doubtless
includes a good many items which we have decided not to count as
commercial paper. The item, "advances on securities," also includes some
items other than stock exchange loans, but not a high percentage in New
York City. In 1913 the figures for all reporting banks in New York City
were: collateral loans, 1,070; "other loans," 658. _Report of
Comptroller_, 1913, p. 779.

[533] Taken by Conant (_Ibid._, p. 51) from the _Économiste Européen_
(April 29, 1904), XXV, p. 546.

[534] For the depositor who borrows from several banks, but deposits
only in one,--as a stockbroker--the items deposited will, of course,
substantially exceed the amounts borrowed at the bank where the deposits
are made. But this will not affect our argument for _classes_ of
depositors from _representative_ banks in the community as a whole.

[535] _Supra_, chapters on "Volume of Money and Volume of Trade," and
"Statistical Demonstrations of the Quantity Theory."

[536] The relevance of comparing wholesale and retail figures with
figures for "commercial paper" may well be questioned, since our
conception of commercial liquid loans would include manufacturers' paper
which represents raw materials, work in process, and bills receivable.
However, we have found reason to conclude that Kinley's wholesale
deposits include a large percentage of manufacturers' deposits.
(_Supra_, p. 245.) The comparison here is in any case rough. We do not
need precise figures for the argument.

[537] Pratt, _Work of Wall Street_, 1912 ed., p. 264.

[538] Returns from private banks in Kinley's investigation of 1909 are
virtually negligible, so far as absolute amounts are concerned, for the
whole country. For New York City, they are absolutely negligible. The
"all other deposits" reported by private banks in New York City for
March 16, 1909, are one thousand, nine hundred and eighty-four dollars,
in all! The grand total, "all other deposits" for all classes of banks
reporting in New York, is over a hundred and ninety-eight millions. The
great private banks are, thus, clearly not represented. They are not
represented in any form, since Kinley's figures exclude deposits made by
such banks in other banks. How important they would be, if included, one
cannot be sure, since they keep their affairs pretty secret. Some
information, however, is available. Thus, the Pujo Committee reports
(_Report_, Feb. 28, 1913, p. 145) that on Nov. 1, 1912, there was
$114,000,000 on deposit with J. P. Morgan and Company, exclusive of
$49,000,000 on deposit with their Philadelphia branch of Drexel and Co.
It is understood to be the practice of J. P. Morgan and Co. to keep no
cash on hand, and to deposit with other banks all their cash and checks.
On this date, they had on deposit with other banks $12,094,000, "which
presumably included all their own funds." It may be assumed, therefore,
that the remaining 102 millions was loaned out. There can be no doubt at
all, I suppose, that practically all they had lent out was on stock and
bond collateral. They are known to be one of the biggest lenders at the
"money post" on the Stock Exchange. They are not supposed to do much
business with ordinary merchants in the usual discount and deposit way.

I have found no figures for Kuhn-Loeb & Co., for total deposits made
with them, nor for their deposits in other banks. The Pujo Committee
(_Ibid._, p. 73) states that for the six years preceding 1913 this firm
held, on the average, deposits from interstate corporations amounting to
over 17 millions. For J. P. Morgan & Co., this class of deposits
amounted to about half of total deposits. (_Ibid._, p. 57.) There is, of
course, no assurance that this proportion holds with Kuhn-Loeb's
deposits.

These figures are very great, however. For the week ending April 3,
1915, for example, only three banks (the National City Bank, the
National Bank of Commerce, and the Chase National Bank), and only two
trust companies (the Bankers Trust Company and the Guarantee Trust
Company), held deposits exceeding those credited to J. P. Morgan and
Co., and only one of these, the National City Bank, very markedly
exceeded the Morgan deposits. The majority of the New York Clearing
House banks had less than the deposits of interstate corporations with
Kuhn-Loeb.

As all the big private bankers deal chiefly in stock exchange loans and
securities, and foreign exchange, and as this kind of business has been
shown to be exceedingly active and to call for large checks and
clearings, we may assume that Kinley's figures would be greatly
increased if they were included.

The trust company reports for New York in Kinley's figures are also very
incomplete. New York trust companies report less than twice as much as
Boston trust companies, and an absurdly small amount as compared with
banks. _Cf._, _supra_, the chapter on "Statistical Demonstrations of the
Quantity Theory."

[539] It has been supposed by many writers that New York clearings
exaggerate New York transactions as compared with the extent to which
outside clearings represent transactions. Such evidence as we have would
show that this is not true to a sufficient degree to modify the present
argument. Clearings are less than deposits in both New York and the
country outside, _Supra_, chapter on "Statistical Demonstrations of
Quantity Theory."

[540] "The Mystery of Clearings," _Annalist_, Aug. 14, 1916, p. 198.
_Supra_, chapter on "Volume of Money and Volume of Trade."

[541] See any Congressional debate on "the Money Trust."

[542] _Pujo Committee Report_, Feb. 28, 1913, p. 130. _Cf._ also p. 138
(statements of Messrs. Baker, Reynolds, Schiff, and Perkins), and p. 160
for Statements regarding the testimony of Messrs. Morgan and Baker.

[543] I know no responsible writer who has charged that there is a
monopoly, or a tendency toward monopoly, in this matter.

[544] I am not naïve enough to suppose that this suggestion can be much
more than an illustration of the bearing of my theory! I should even
agree that the political difficulties are so great that we would do well
to try out our system in times of stress before seriously raising the
question of giving the Federal Reserve Banks the power to rediscount
loans on stock exchange collateral.

[545] Walker's version of the quantity theory, excluding credit
transactions, escapes much of this criticism. _Supra_, chapter on
"Equation of Exchange."

[546] It is nothing for Wall Street to "turn over" many times two
billion dollars worth of securities. In a big bull year, this will be
accomplished twelve or more times without effort--prices rising merrily,
so long as no new supply of stocks and bonds comes in to make trouble.
(See our estimate of New York security transactions, _supra_, chapter on
"Volume of Money and Volume of Trade.") But let there be a liquidation
by investors of anything like two billions, sold once, and the market
feels a tremendous drag. It seems universally agreed that foreign
selling of securities during the present War has been a great factor in
checking advances in security prices in New York. The actual amount of
liquidating by foreign investors, however, has been trifling as compared
with the volume of sales since the War began. The best estimate of
foreign liquidation is probably that of the National City Bank, which
has taken careful account of previous estimates, and which has unrivaled
sources of "inside information." The estimate of this institution is
that from a billion and a half to a billion six hundred million dollars
worth of foreign held securities have been liquidated in America since
the beginning of the War. (This does not include foreign loans placed
here.) This estimate is given in October of 1916. (Monthly circular of
the National City Bank on "Economic Conditions, etc.," Oct., 1916, p.
3.) It is safe to say that no amount of "churning" of securities already
in the market could have anything like the depressing effect on security
prices that an unusual amount of liquidation by investors has. It is not
increase in number of _exchanges_ that depresses prices. It is increase
in the floating _supply_. Activity in the floating supply makes it
easier, rather than harder, for speculators to get banking
accommodations which enable them to "hold" and "carry" securities, and
activity in sales therefore positively tends to _increase_ rather than
to decrease, security prices. The broadening of the range of securities
dealt in, moreover, instead of depressing the prices of those already
active, helps to sustain them. Thus, brokers and bankers welcomed the
recent revival of activity in the rails, following the bull market in
war stocks. It gave a broader basis for loans. Banks would lend more
liberally, and on narrower margins, if railroad stocks could be mixed
with the brokers' war stock collateral.

Here again we see the significance of the distinction between long-time
interest rates, connected with the volume of real capital, and the
"money-rates."

Again, periodic payments of interest and dividends, temporarily locking
up considerable sums of bank deposits which have to be built up in
anticipation of such payments, have a very much more serious effect on
the money market than do payments many times greater in connection with
stock sales. The tension in the London money market growing out of
periodic accumulations and disbursements of the British Government is
well known. The summer of 1916 witnessed a temporary tightening in Wall
Street (in what was, generally, the period of easiest money the Street
has ever known), from a similar cause--a bunching of dividend and
interest payments, with some other large financial transactions. Money
rates in New York regularly show the influence of such payments,
temporarily. Money rates also show the influence of active speculation,
as a rule, as shown by Mr. Silberling's investigations ("The Mystery of
Clearings," _Annalist_, Aug. 14, 1916), but it takes a very much greater
volume of stock sales than of dividend and interest payments to produce
a given effect on money rates.

[547] As May 9, 1901, when 3,336,695 shares were sold. Compare
Mitchell's stock barometer, 1890-1911, _Business Cycles_, p. 175, with
records of share sales for those years.

[548] _Purchasing Power of Money_, 1913 ed., p. 186. The same criticism
applies to Kemmerer, and Jevons. _Cf._ Kemmerer, _Money and Credit
Instruments_, pp. 70-71. It is applicable to most quantity theorists.

[549] _Ibid._, p. 185. It will be noted that at this point, Fisher
lapses from the doctrine that volume of trade is determined by "physical
capacities and technique." _Ibid._, p. 155.

[550] _Cf._ our discussion, _supra_, in the chapter on the "Functions of
Money," of money in retail trade.

[551] Our great private banks, bond houses, and investment bankers,
etc., of course do buy stocks of new enterprises on a huge scale. Many
of our big commercial banks have taken part in underwriting operations.

[552] See pp. 428-432, _supra_.

[553] _Wealth of Nations_, Bk. II, ch. 2, ed. Cannan, I, pp. 187 and
290-291.

[554] _Theorie der wirtschaftlichen Entwicklung_, chs. 2 and 3.

[555] _Supra_, chapter on "Volume of Money and Volume of Credit."

[556] _Interviews on the Banking and Currency Systems of England,
Scotland, etc._, Senate Document No. 405, 1910 (National Monetary
Commission Report), p. 25.

[557] This is clearly the opinion of European bankers, as indicated in
their statements to interviewers for the Monetary Commission. See, _e.
g._, statements by the _Deutsche Bank_, _Ibid._, pp. 374-375, and the
_Crédit Lyonnais_, _Ibid._, pp. 224-226.

[558] The item, "Due from other banks and bankers" in our table of total
bank resources for 1909, is 2,563 millions--about 12% of the whole and
slightly more than the amount we assigned to "commercial paper." It is a
highly important factor making for liquidity. For State, and National
banks and trust companies it is almost as great--2,302 millions. The
first figure does not include many great private banks.

[559] _Vide_ Professor Taussig's history of the years, 1878-1890, in his
_Silver Situation_.

[560] _Cf._ Mitchell's _Business Cycles_, pp. 495-496; and _passim_.

[561] _Cf._ the chapter, _supra_, on "The Quantity Theory and
International Gold Movements."

[562] "The Prospects of Money," British _Economic Journal_, Dec. 1914.

[563] _Cf._ Conant's discussion, _Principles of Money and Banking_, I,
ch. 7.

[564] This would seem to be Mitchell's view. _Cf. Business Cycles_, p.
494.

[565] _Cf._ chapter XIII.

[566] _Cf._ the chapter on "The Functions of Money," _supra_.

[567] _Money and Credit Instruments_, p. 80.

[568] _Ibid._, p. 82. Italics mine.

[569] Kemmerer, in general, is less concerned, apparently, with
defending a causal quantity theory than with defending the "equation of
exchange." To the extent that this is true, I have little quarrel with
his doctrines. To "prove" the "equation of exchange," however, is,
first, a work of supererogation, and, second, in no sense a proof of the
quantity theory. _Vide_ the chapters, _supra_, on the equation of
exchange and on statistics of the quantity theory.

[570] Published by the National City Bank of New York. _Vide_ also
Bagehot. _Lombard Street_, introductory chapter, and Withers, _The
Meaning of Money_.

[571] This information is supplied me by an official of the New York
Coffee Exchange, through the courtesy of Mr. W. H. Aborn, of Aborn and
Cushman, Coffee Brokers, 77 Front St., New York.

[572] _Principles of Economics_, _passim_.

[573] _Theorie der wirtschaftlichen Entwicklung._

[574] The writer has ventured some tentative predictions as to
conditions following the present War in the New York _Times_ Sunday
magazine of Dec. 10, 1916, pp. 10-11.

[575] There are important dynamic and "frictional" considerations
opposed to protective tariffs, as well as static considerations. Very
many of the "intangibles" later to be discussed depend on free trade. A
high percentage of England's "capital" would be destroyed by protective
tariffs and trade restrictions, and to a less degree this is true of all
countries. _Vide_ N. Y. _Times_ Sunday magazine, Dec. 10, 1916, pp.
10-11.

[576] A case in point is the discussion of the effects of increment
taxes on the building trade, participated in by Professor R. M. Haig and
the present writer in the _Quarterly Journal of Economics_, Aug. 1914,
and Aug. 1915. The doctrines criticised in my article were static
theories, and my criticisms made the static assumptions. Professor Haig,
accepting the validity of my criticisms on the assumptions laid down,
for the most part, seeks to recast the argument on a dynamic basis,
emphasizing dynamic and "frictional" considerations from which my
argument had abstracted. I think that what difference of opinion remains
between us would probably be removed if the distinction between static
and dynamic were clearly drawn and rigidly adhered to.

[577] _Cf._ my review-article, "Schumpeter's Dynamic Economics," _Pol.
Sci. Quart._, Dec. 1915, p. 645.

[578] _Distribution of Wealth_; _Essentials of Economic Theory_.

[579] _Theorie der wirtschaftlichen Entwicklung_.

[580] _Cf._ my _Social Value_, pp. 139-140, n.

[581] _Purchasing Power of Money_, ch. 4.

[582] _Theory of Business Enterprise._

[583] _Vide_ my discussion of Professor Patten's _Reconstruction of
Economic Theory_ in the _Political Science Quarterly_ of March, 1913,
and the _American Economic Review_, Supplement to the March number,
1913, pp. 90-93.

[584] _Cf._ Schumpeter, _loc. cit._, pp. 1-101, and _passim_. That the
quantity theory is essentially "static" will appear strikingly if the
statements in the text be compared with Fisher's discussion in chs. 5-7
of _The Purchasing Power of Money_.

[585] It is only as a matter of highly abstract statics that the
capitalization theory (as presented in earlier chapters) can be
maintained with any strictness. In fact, capital values are not always
passive shadows, yielding freely to changes in anticipated income, and
to changes in the rate of discount. Very often capital values become
themselves substantial, become divorced from their presuppositions, can
no longer be explained by any imputation process. This is particularly
likely to be the case with lands in inactive markets. The income-bearer
is as much an object of value as is the income; is often _immediately_,
for its own sake, an object of value. The long-run tendency to
assimilate this value to a capitalization of prospective incomes may be
exceedingly slow in working out, if it ever works out. Indeed, a high
capital value may sometimes be a means of increasing the income, since
in the minds both of lessor and lessee the usual percentage return on
capital will be a factor in determining what is a "proper" rental. If a
capital value, no longer justified by prospective income, has behind it
the sanction of actual cost-outlay, there may easily be a reflex from it
on the size of the income itself. Such a capital value, unjustified by
prospective income, but still believed in by the market, may function
just as effectively as any other capital value. Book-values, not marked
down to correspond with changed income-prospects, even when they cannot
command purchasers, may still serve as a basis for _loans_--Veblen's
theory of crises rests, as we shall see, in part on this fact.

Considerations of this sort strengthen still further the case against
the marginal utility theory of value. To pass,--as Fetter and the
Austrians in general seek to do--from marginal individual consumption
values to market prices of consumption goods, then to prices of
production goods, or to magnitudes of distributive shares, then, simply,
by the capitalization theory, to capital values, with the notion that
the original marginal utilities supply the psychological explanation at
every stage of the process, the remoter values being merely built up of
the original marginal utilities, is quite invalid. At every stage there
is a hitch: the marginal utilities do not explain the prices or values
of the consumption goods, as has already been elaborately pointed out;
and the relation between the values of consumption goods and the capital
values is very much looser and less direct than the static theory
requires. Institutional, legal, and moral forces come in, not alone at
the first step, in giving social weight to the wants of special classes
and individuals, but also at the second, giving prestige to certain
enterprises, and so higher values to their securities, giving banking
support here and refusing it there, giving popular and patriotic support
here, and not there, giving direct action of law, custom and tradition
on certain _prices_ (whence, indirectly on values), and leaving prices
free to change readily in other cases. (_Cf._ my discussion in _Quart.
Jour, of Economics_, Aug. 1915, pp. 699-701.) The static theory of
capitalization describes an ideal logical relation, while capital values
are, in fact, built up by a psychological process which is logical only
in part. In large degree, especially when the market lacks perfect
fluidity, capital values are _immediate_, and not merely _derived_,
values. In this, I think, I am in accord with the view briefly stated by
A. S. Johnson in his recent review of Böhm-Bawerk (_Am. Econ. Rev._,
March, 1914, pp. 115-116).

[586] _Loc. cit._, ch. IV. _Vide_ Veblen's discussion of Fisher in the
_Pol. Sci. Quart._ of 1908, and his discussion of Clark in the _Quart.
Jour. of Econ._, Feb. 1908.

[587] Chapter on "Volume of Money and Volume of Trade."

[588] On Oct. 9 of 1916, I still venture the opinion that the stock
market has shown wonderful conservatism in the face of extraordinary
temptations. From Oct. 1915, to Aug. 1916, the "bears" dominated the
market, and prices fell pretty steadily. The "bull" movement of Sept.
1916, seems to have reached its crest without passing the level of a
year ago. The market may "run away," but it has not yet done so.

[589] _Psychologie Économique_, vol. I, pp. 77-78.

[590] Nor do I see any method for bringing into our equilibrium picture
the control which the environment retains over values by its power to
_eliminate_ those groups whose choices vary too widely from the norms of
"survival-necessities." Vide Giddings, _Principles of Sociology_, ed.
1905, p. 20; Carver, _Essays in Social Justice_, _passim_. I think that
the range of choices compatible with survival is very wide. Moreover,
"adaptation" is not a simple matter of adjustment to the physiographic
environment. It includes adjustment to the _social values_, both of the
group in question and of other groups.

[591] _Cf._ H. C. Emery's discussion of "manipulation" in his
_Speculation in the Stock and Produce Exchanges_, pp. 171ff.

[592] _Cf._ Dewey, _Essays in Logical Theory_; Bergson, _Time and Free
Will_, _passim_, and _Creative Evolution_; James, _Problems of
Philosophy_.

[593] _Cf._ Bagehot's discussion in _Lombard Street_ of the features of
English organization which prevented supremacy in the Eastern trade from
passing to Greece and Italy with the opening of the Suez Canal.
(Introductory chapter.) See also the discussion of the English money
market in ch. XXIV, _supra_.

[594] _Cf._ my article on "Schumpeter's Dynamic Economics" in _Political
Science Quarterly_, Dec. 1915, and ch. XXIII, _supra_.

[595] In my article on Schumpeter's theory above mentioned, I have
pointed out that his contrast between statics and dynamics is not by any
means a fixed one, and that in particular he shifts back and forth
between a hypothetical static state, primarily a methodological device,
which assumes perfect fluidity and mobility of the objects of exchange,
on the one hand, and a realistic static state, immobile, held in the
bonds of custom and tradition, illustrated by India and China, on the
other hand. The version of the distinction between statics and dynamics
here discussed is only one of several which he gives. It is, however,
the one which at present I wish to contrast with my own view. With many
of Schumpeter's doctrines I am in hearty accord, and I have learned much
from his book. I think that his book affords abundant evidence of the
usefulness of the static-dynamic contrast.

[596] Schumpeter's contrast between statics and dynamics is in most
essentials closely parallel to Veblen's contrast between the theory of
wealth and the theory of prosperity, and his main conclusions resemble
Veblen's, despite Schumpeter's optimism and Veblen's pessimism, and
despite temperamental and methodological differences. Most of my
criticisms of Veblen apply also to Schumpeter.

[597] _Cf._ our discussion, _supra_, of the relation of credit to
futurity.

       *       *       *       *       *




TRANSCRIBER'S NOTES


1. Passages in italics are surrounded by _underscores_.

2. Footnotes have been moved from the middle of a paragraph to the end
of the e-text.

3. The original text includes Greek sigma character. For this e-text
version it has been replaced with its transliteration [Greek: S].

4. Fractions are indicated as in the example below:
     6-1/4 indicates whole number 6 with fractional part of one-fourth.

5. The following misprints have been corrected:
     "thing" corrected to "think" (page 124)
     "theorrists" corrected to "theorists" (page 155)
     "$75,00,000.00" corrected to "$75,000,000.00" (page 208)
     "theory theory" corrected to "theory" (page 330)
     "practive" corrected to "practice" (page 428)
     "this held" corrected to "thus held" (page 442)
     "in in" corrected to "in" (page 476)
     "clasess" corrected to "classes" (page 509)
     "legarthic" corrected to "lethargic" (page 573)
     "enchancement" corrected to "enhancement" (page 591)
     "74-71" corrected to "64-71" (ftn. 55)
     "equilibbrium" corrected to "equilibrium" (ftn. 86)
     "Instrnmeuts" corrected to "Instruments" (ftn. 163)
     "reguularly" corrected to "regularly" (ftn. 545)
     Missing text added in footnotes 412, 468, 595.

6. Some of the page references in the index have been corrected.

7. Other than the corrections listed above, printer's inconsistencies
in spelling and hyphenation have been retained.





End of Project Gutenberg's The Value of Money, by Benjamin M. Anderson, Jr.