Issues in Money and Banking
Book by Praeger Publishers, 2000
The purpose of this book is to cast into perspective the ongoing changes in money and banking. In order to draw on a wider audience, the study restricts itself as much as possible to nontechnical language, although on a number of issues such language is difficult to avoid. It is important, after all, that people, other than specialists, have more than a nodding acquaintance with issues that have profound implications for both the domestic and world economy. The issues discussed in this study are long-standing. Some have their antecedents in distant history and others are more recent. They are all tied by society's use of money. There is, moreover, no guarantee that these issues in money and banking will follow a given script. For instance, financial institutions are rushing to meet the challenges of Europe's new "euro" currency. The world's big banks are confident that they can greet the euro without undue strains on their activities. More worried are small- and middle-sized banks, which are generally less prepared to deal with new developments on the world's financial scene.
Most American banks' profits continue to come from lending. Many banks have also become exposed to lesser borrowers; as a result they are likely to suffer bad credit losses. Another likely source of trouble for banks is that some of the businesses they entered, such as asset management and trading, may well become much less attractive. In Europe and Asia too banks are at risk. The pressures on banks to earn more profits and the extra risk they have taken to achieve them merit a review of the key issues raised in this study. Indeed, the world's banking systems, from the prosperous American economy to muddled Europe to wobbly Japan, may well be in worse shape than is usually assumed.
WHAT IS MONEY?
Money is a medium of exchange as well as a store of value. It solves the critical problem of the "dual coincidence of barter." That is, X must have to exchange for what the other person "Y" has and Y must have what X wants. Since both X and Y widely accept M; the problem is solved. Money, M, in whatever form or shape it takes in a given period in history, must foremost possess the characteristic that it is acceptable to the public at large for the exchange of goods and services. Historically, various commodities and items have served, and indeed some still serve, as money. The better known are gold, copper, and silver. Others, though lesser known, are iron, cattle, beads, tobacco, and stone. 1 Today money includes currency, bank deposits payable on demand and transferable by check, as well as other liquid assets that are regularly compiled by a country's monetary authorities and serve as the empirical counterpart of money. 2
Clearly, it is difficult to say how a commodity or something else becomes generally accepted by the public as money. Certainly habit in the use of a given item or commodity as money is important. It is thus more than likely that a generally accepted commodity achieves the status of money through evolution rather than imposition. As such, it serves the important functions of money, such as general acceptance for exchange of goods and services and as a temporary abode of purchasing powers. Considerable confusion arose over the value of money when it consisted primarily of gold and silver. It was regularly insisted that money must have the support of gold and silver if indeed it was to be taken seriously as money. This suggests, in effect, that gold or silver cover of money is the source of the exchange value or purchasing power of money and so quite independent of its monetary role. This is the so-called metallist fallacy. 3 Once gold and silver, for instance, acquired the status of money, other factors influenced their exchange value. The (nonmonetary) value of a commodity is never a fixed magnitude. It depends on tastes and preferences and on relative quantities. 4 Indeed Friedman discusses one such episode in American history in 1873 and the effect of the demonetization of silver. 5 The episode illustrates how the nonmonetary demand for an item used as money has an important effect on its monetary value while at the same time the monetary demand affects its nonmonetary value.