20.1 – Introduction to Money and the Theory of the Firm

This chapter turns to money. What is money? How do you define money? When and how was money invented? These questions, unfortunately, do not have single straightforward answers. Why? Well, again we return to our questions about reality, knowledge, and values. By applying our previously constructed (Chapter “Philosophy of Science”) meta-theoretical lens, this chapter delivers a comparative analysis of money from the orthodox and heterodox perspectives.

This comparison is framed by a familiar economic concept, the firm. From money’s origin stories to how governments, banks, and even communities create monetary instruments, we apply the logic of firm structures and decision-making to differentiate how money functions or malfunctions.

The standard approach in orthodox textbooks is to describe the firm as a coordinator of resources. The firm organizes labor and capital, and production or output results.   This functional interpretation (see the equation below) of the firm allows the orthodox economist to maintain the same level of simplicity, or abstraction, achieved in consumer theory. This approach limits the scope of value determination to commodity market exchanges, as seen in section “An Introduction to Axiology“.  In this chapter, we investigate how this abstract methodology of modeling the economy influences our understanding of money.

[latex]q = f(k, l)[/latex]

where

q is output,

k is capital,

l is labor,

f provides the functional description of technology.

This will be achieved in three steps.  First, the origin story of money will be told from the orthodox perspective. This, unfortunately, will not be as exciting as Bruce Wayne’s Batman or Peter Parker’s spider bite, but it is similar to these origin stories as it too is fictional and might even be familiar.  In telling this story, we discover that the orthodox economist relegates money to a secondary role in economic activity.  For this school of thought, money is simply a commodity that facilitates the exchange of other commodities.  This secondary and neutral role of money in orthodox economic models is a central feature of what is defined below as real analysis.

After the orthodox story is completed, a second origin story of money will be told using what we define as monetary analysis. This story is guided, not by theory or a model, but by history, accounting, and law. This heterodox approach opens an inquiry into money’s social, legal, cultural, and historical origins. By applying an institutional methodology, heterodox economics demonstrates that money is much more critical to economic activity than orthodox economists acknowledge in their models of monetary neutrality.  Money is special, because of how it can be used, and who is able to create it. From this perspective, those with the power of money creation take on the coordination role of labor and capital in the economy, rather than starting at the level of the firm.

In the following section, “Money’s Origin Stories,” we analyze the state or government as the monopoly issuer of the currency. The privilege of monopoly issuance or currency sovereignty is limited to a select number of countries. The United States, England, Japan, China, and Australia are all the sole issuers (creators) of their currencies, as are many others. Accordingly, no one other than the United States Congress can create new dollars. This privilege, like being a monopoly, comes with great power, and as we learn from Uncle Ben in Spiderman, “With great power comes great responsibility”. Such responsibilities and how modern states coordinate resources are introduced in this section.

Given a historical understanding of money not as a commodity, but as a social relation challenges conventional interpretations of the relationship between the state and the market. One such interpretation is that they are duals. As such, the state “intervenes” in markets. This position creates a villain in the orthodox story. The state disrupts the efficient allocation of resources and fights against market forces. While compelling, the orthodox telling relies on real analysis and omits important legal arrangements, such as property rights, money issuance, and bank charters. Each of these state level institutional arrangements does not intervene from outside but creates and makes markets possible in the first place. In other words, the state is a market maker.

One space that is particularly relevant to understanding monetary coordination, and this is inside our endogenous understanding of money creation, is the financial sector. Therefore, the next section ends with an examination of the orthodox and heterodox descriptions of the banking sector. This comparative analysis summarizes and outlines many of the differences that emerge from the two school’s origin stories of money.

Section “Micro Monetary Systems,” concludes the chapter by examining core design features of monetary systems. This exploration is chronological and starts with Settler Colonial American monies. Why and how did the colonies create paper notes? How did they ensure they circulated and had value? Did the newly independent United States use similar strategies to create a new monetary system? Why did banks become a more significant part of the U.S. economy after the revolution? Next, we explore the Greenbacks. This currency system was implemented by the Lincoln Administration to finance the North’s war effort. From this historical analysis, we will observe patterns in monetary design that extend to the modern-day dollar system and how those design patterns continue to influence today’s political debates.

These debates and design considerations influence national politics, but also localized efforts to mobilize resources. To explore these local initiatives, we take a moment to examine local currency systems from a global perspective. This examination describes how scholars are categorizing various local currency systems and how activists are designing money to achieve various outcomes in their communities.

One outcome or goal that has made significant waves is Bitcoin’s objective to topple the global financial hierarchy, so we take a close look at Bitcoin’s design principles to help understand its volatile dynamics. Again, like the firm, we observe that these systems mobilize resources and that the structure of money’s creation and how and what drives its circulation are central design features that limit or expand a monetary system’s ability to coordinate production.

To summarize our design features and give you all an opportunity to experiment as monetary designers, we conclude with a classroom currency experiment. This experiment is developed to test the core principles outlined in this chapter and to mobilize your own effort towards goals and objectives you determine.

Let the story of money begin. Once upon a time…