Re: The Evolution of Money

#1

WHAT IS THIS ABOUT?

As an economist, I'm painfully familiar that people in my field can be downright horrible at explaining concepts and ideas. Often, we're too caught up in the abstract and not focused enough on practicality, assuming a level of knowledge in our audience that ... probably isn't correct for the layman? As a writer, I'm painfully familiar with bad economics in stories.

This guide is meant to give you a quick and dirty breakdown on why we have money today, how we got here, the different systems we used before we got here, and the reasons we got here. It is by no means exhaustive, but I think a useful starting point for people interested in the study, or at least for an author who doesn't want to spend several hours and bottles of vodka trying to figure it out.

Why Barter?

Barter is, in essence, trading. Trade is like a magic wand. It turns what you have, into what you want (when it works).

Barter comes up intuitively whenever people need to cooperate, and cooperation is essential to the formation of the most basic of societies.

I have a cow, you make spears. I want a spear and you want a cow, so we make a trade.

This is essentially the basis of all economics, the conversion of what I have to what I want. Everything else? It’s just making this trade easier.

Why Money (Coinage)?

Barter has problems.

What if I feel my cow is worth ten spears, but you only have nine?
What if I only want one spear?
What if you don’t want a cow, but that’s all I have to trade with?

We, as a society, might decide to set up a system where we have a bunch of IOUs to solve all these problems. Wouldn’t that be neat? But then, it’d be a pain in the ass to record all of these transactions and we may or may not be literate… So what if we had a “token” of some sort to represent the IOU instead?

And we could exchange those IOUs for goods and services with anyone in our society who recognizes it?

Congratulations, you have invented money! The most common form of this is coinage, but people have also used seashells, shiny rocks, and other less valuable materials in more primitive societies.

Money makes barter easier, letting me turn what I have into what I want. How does it do this?
  • Divisibility - Money can be divided (not perfectly, but better than cows!). Cows can’t be without killing them, which may very well reduce their value if you want the cow for milking!
  • Store of Value - Even if you don’t have something I want now, I will eventually want something from someone later. I can keep the money now and use it next time.
  • Medium of Exchange - Let’s you turn what you have into what you want (assuming you have enough)
  • Transport - It is easier to carry around money than spears
  • Why Gold (and Silver)?

    Most societies use gold (and silver) as currency, nearly independently of each other.
    The answer is chemistry.

    Essentially, you need a material that
    • Isn’t too rare (you’d never find enough of it)
    • Isn’t too common (if you can just find it anywhere, it isn’t going to be valuable)
    • Isn’t toxic (what worth is money to a dead man?)
    • Is naturally occurring
    • Doesn’t take too much effort to melt down and shape into more convenient forms (AKA why we don’t use platinum)
    • Remains solid (Gases and liquids dissipate fast, and losing money would suck)
    • Won’t suddenly burn (Being on fire sucks)
    Once you eliminate all the elements which don’t fit these criteria, gold remains supreme. (Silver technically corrodes, but not at a fast enough rate that it's no longer useful, just not as ideal as gold).

    Why Paper Money?

    Gold is still pretty heavy if you have to carry a lot of over long distances. Plus, what if I get robbed on the way there?

    This is especially problematic if I am a merchant and not the army or the government.

    People began entrusting goldsmiths and guilds by depositing their gold with them in exchange for a gold certificate (a piece of paper entitling them to redeem said gold). These were basically proto-cheques.

    But let’s take that a step further. If you know that the gold certificate entitles one to redeeming gold, and I know it, instead of going to the goldsmith, getting the gold, and exchanging the gold for the goods I want to buy, why don’t we save ourselves both the trouble and I just give you my gold certificate so you can go redeem the gold?

    And to make it easier, let’s turn those gold certificates into more standardized amounts to make trade this way easier!

    Thus, the gold-backed paper money is born (you may know this as the gold standard).

    Why Not the Gold Standard (AKA Why Fiat)?

    A short economics lesson is needed on the dangers of too much inflation (hyperinflation) and deflation.

    Inflation and deflation are basically the laws of supply and demand at work on your money. The more money there is, the less each individual unit is worth, same as any other good.

    Now, making your money worth a lot less tomorrow compared to today is very problematic, because humans are smart enough to realize what will happen tomorrow, today! When the money’s value keeps going down, no one will want to keep it and everyone will exchange it for something whose value doesn’t go down tomorrow, like say a cow.

    Thus, society reverts back to barter.

    But what about deflation? Surely my money becoming worth more tomorrow means I’ll be better off?

    Yes, and everyone else will realize that too. If money becomes more valuable over time instead of less, you will decide not to spend as much to take advantage of this. After all, you can now afford two cows instead of one if you just wait.

    But then, everyone else is making this exact same calculation. People stop spending, businesses collapse, the economy shrinks. No one is having a good time. The trick is to have just enough inflation to encourage spending, but not enough that people don't trust money. (2-4% yearly is the modern accepted rate among economists for a stable inflation rate).

    Now, gold and silver are obviously limited resources. Extracting it costs effort and money, and it’s running out.
    • There wasn’t enough gold to back all of the currencies, so a smaller and smaller amount of gold was used to back the ever increasing number of fiat currency.
    • Eventually, gold will run out, making this problem even worse.
    • Even if it doesn’t run out, we aren’t extracting enough of it to back all the fiat currency, so that means deflation (which is bad) or we use even smaller amounts of gold to back each unit of fiat currency. Neither outcome is sustainable.
    • Most problematically, when governments needed to print money in cases of economic downturn to help the economy recover: they couldn’t. The gold standard wouldn’t let them.
    Thus the gold standard died. Paper money became backed by ... trust and happy feelings? So, yeah, that paper on your hand is theoretially worthless now, but for a very good reason.

    Why Digital Currency?

    The shift to non-physical money was the next logical step in a theme we’ve been seeing throughout the evolution of money: It’s about making it easier for people to buy what they want.

    Digital currency (by which we mean online banking, credit and debit cards, online payment platforms, bank-to-bank transfers, etc.) make it even easier for people to pay, to prevent physical theft, to make it easier to track payments (which has implications on money laundering, but that’s another topic), and also, you never have to worry about paying in exact amounts or not getting the right amount of change.
    Parts of the world are already digital, like China has people paying via their phones regularly and paying with money is rarer and rarer.

    Of course, this requires having a technological base to support this. If your poor rural farmers don't even have smartphones, this ain't gonna work for them, which is why adoption in poorer countries is slower

    Why didn't I cover Cryptocurrencies?

    This isn't related, but I'm pretty sure someone is going to ask.

    Essentially, Cryptocurrencies aren’t treated as money at the moment, but instead as a high risk stock / speculative investment vehicle.

    The majority of cryptocurrency transactions at the moment aren’t used to buy a cup of coffee at Starbucks, but are bought and sold on cryptocurrency platforms like one would a stock. The value of it changes too fast to be useful as money for most people (where if you think the value will go up quickly, you will hold it, and if you think the value will go down, you will get rid of it).

    There are other economic reasons why it will likely never truly replace fiat currencies, namely:
    • It has no solution to the deflationary problem. There are only a set number of bitcoins for example, and once it’s all mined up, that’s it.
    • The electricity necessary to mine cryptocurrencies is astoundingly high
    • It is beyond government control, which makes it unlikely they will ever accept wide-scale adoption that replaces fiat currency (and you need to pay taxes in the currency they demand, after all).
    • It is not used as money, but as a speculative investment

    Re: The Evolution of Money

    #3
    Cool thread. A few small quibbles - calling paper money backed by gold "fiat" is technically incorrect, since it has an intrinsic value. For most of the US gold standard's history, you could take your paper money and exchange it for valuable gold, whereas under a fiat system there is no expectation that the money is worth anything beyond what the government says it is. Of course the history and definition of money can get kind of messy since there were lots of periods when the convertibility of money for gold was suspended in a gold standard system, like in Britain during the Napoleonic wars (which created an interesting "Bullionist controversy" you can read about on the History of Economic Thought website).

    Another interesting detail that you may not know about is that many poor countries actually do have fairly high adoption rates of mobile payment technologies. M-Pesa is huge in Kenya and a lot of sub-Saharan African countries with poor landline infrastructure have surprisingly high mobile phone ownership rates.

    On the writing end, I think two good examples of fictional money and economics done well in fantasy settings are the first arc of Spice and Wolf and a long section in The Traitor Baru Cormorant, both of which involve debasing the value of money and are worth a read just to see how other authors handle that type of plotline. I'd be curious if you know of any other good examples in fiction.

    Re: The Evolution of Money

    #4

    dsling Wrote: Cool thread. A few small quibbles - calling paper money backed by gold "fiat" is technically incorrect, since it has an intrinsic value. For most of the US gold standard's history, you could take your paper money and exchange it for valuable gold, whereas under a fiat system there is no expectation that the money is worth anything beyond what the government says it is. Of course the history and definition of money can get kind of messy since there were lots of periods when the convertibility of money for gold was suspended in a gold standard system, like in Britain during the Napoleonic wars (which created an interesting "Bullionist controversy" you can read about on the History of Economic Thought website).

    Another interesting detail that you may not know about is that many poor countries actually do have fairly high adoption rates of mobile payment technologies. M-Pesa is huge in Kenya and a lot of sub-Saharan African countries with poor landline infrastructure have surprisingly high mobile phone ownership rates.

    On the writing end, I think two good examples of fictional money and economics done well in fantasy settings are the first arc of Spice and Wolf and a long section in The Traitor Baru Cormorant, both of which involve debasing the value of money and are worth a read just to see how other authors handle that type of plotline. I'd be curious if you know of any other good examples in fiction.

    Great catch re: fiat. I've edited to make it clearer. And yeah, it's been interesting to see how developing countries in receent times have tried to increase bankability through phones.