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MACROECONOMICS

Economy of No Nation

Economy, No Nation, Macroeconomics, Mnemosyne, Revenge, fx trader, forex

Part I: Mnemosyne’s Revenge

It is human nature to take things for granted. Our ancient ancestors created fantastical myths to explain the rising of the sun, but could there have been any doubt that the sun would always rise the next day? The reigns of ancient pharaohs were considered as much a part of life as life itself. Advances in technology, too, are taken for granted. For the most part we’re addicted to our mobile devices but have little knowledge of how or why they function. It works and that’s all that matters. The same may be said of money. There’s product, a want and a price. Pay up and it’s yours. What more is there to know?

Stop for a moment and think about what has occurred in a purchase. An exchange has taken place; a trade. In the case of cash, the product has been traded for paper, which doesn’t make a whole lot of sense. It’s even more absurd if you had used a plastic card. Although totally cool but no less irrational would be if you had used your mobile device.  

The word money is said to have originate from Moneta, an ancient name associated with two different goddesses. Etymologists attribute the derivation of the word money to Juno Moneta, wife of the all-powerful Jupiter. Equating money and mythical power would make sense for an etymologist. However, the other goddess’ name for whom credit is sometimes given is Mnemosyne, goddess of memory. This should make more sense to an economist. The term currency also has ancient origins having descended from the Latin ‘currere’, to run, as does a river. It’s too bad there’s no single term to express both ancient meanings of currency and money together: flowing-memory. For this is precisely what gives currency-money its value.

Currency-money is the means to extend barter1 over time and distance. A barter transaction requires two parties at the same time in the same place. However, there are many transactions for which that’s not possible. If a laborer helps sow a field in exchange for a share of the crop, the work is provided first and the counterparty makes good at harvest time. In other words, the barter remains incomplete. A written agreement preserves the memory of the barter agreement; a written agreement spans time. While waiting for the harvest, the laborer who has since gone on to another job could conceivably exchange the written note for something else2; a written agreement spans distance. The new bearer of the note may now claim the original counterparty’s promise. The memory of the transaction is preserved and its value circulates through the successive transactions. The written note is currency.

Expansion of global trade demanded an increased use of paper notes. In medieval Europe merchants routinely carried written notes3 promising redemption in gold or silver. Gold and silver standards for written paper currency were common by the 19th century. Notes were usually issued by private banks in the form of banknotes. Governments were also beginning to issue gold or silver backed notes. The increased use of paper notes may have led to the first asset liquidity problems. Shortages of gold and silver created by war funding or trade deficits required improvisation. Governments issued base metal tokens or promises to pay. The result was a chaotic system of many different circulating and competing banknotes. As chaotic as it was, this was a major evolution of currency. Paper money now had relative and variable value.

The basic premise, even under an imperfect precious metal standard regime remained essentially unchanged. Governments and banks provided a service similar to a clearing house: executing the opening and closing transactions of an asset backed contract. Once done, the note, i.e., the memory of the opening transaction could now circulate. The issuer had nothing more to do with it until a bearer showed up at the window demanding the redemption value. This was also a sea change in the evolution of currency. The value of the paper note had migrated from the underlying asset to the issuer’s ability to redeem the stated value. Notes now circulated the value of the issuer and not the asset itself.  

If word got around that a particular issuer was short, that issuer’s note lost value no matter what the stated redemption value4. This is fundamentally the same as the farmer’s written promise to the laborer. If there is a drought, the farmer’s ability to make good becomes suspect, circulation declines, the note loses value.

The concept of a printed note representing the value of the issuer gives rise to the evolution of central banks. Modern central banks are specialized asset holding banks. They also have the advantage of a legal monopoly over currency5. The assets on deposit include, in large part, sovereign bonds issued by the bank’s government, other high quality bonds, currency reserves and short term notes.  

It isn’t quite accurate to say that a modern currency has no redemption value. Ideally, sum total of issued paper notes is matched by the sum total of the assets the issuing central bank holds. Central bank issued notes have a value which cannot be accessed, only traded. This may sound paradoxical, but it would be no different than having a gold or silver based system using non-redeemable gold or silver backed notes: the sum total of gold or silver backed notes issued by the central bank is matched by the sum total of the gold or silver it holds. So does gold or silver make a paper currency any more or less valuable? Or is it simply the certainty of the existence of the stored asset?

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