The myth of money

Until debt tear us apart — Image via Unsplash

In our growth obsessed modern world everything revolves around money. GDP. Stock markets. Prices. Budgets. Profit. Personal wealth. Money made these rather arbitrary factors measurable and created an object so desirable on its own, that people are willing to sacrifice a good portion of their one and only life chasing it. Everybody wants more of it, yet no one can’t get enough.

But what is it really? A medium of exchange? A store of wealth? Can we devise ways out of our current energy crisis by the use of it? Modern understanding of money tells us, that we can, and we shouldn’t worry about debt at all — as usual though, I beg to differ. Let me explain.

Most of us, everyday people, think of money as coins, banknotes and plastic cards. Well, look at this great visualization and try not to be shocked. Large governments like to throw words like billions and trillions around, while in fact these orbital sums never see the light of the day. These large numbers are just 0-s and 1-s in a computer system: only a tiny-tiny fraction gets printed into notes, or minted into coins. The rest is summoned into existence by banks entitled to issue loans. You want to buy a house? Sure, how about a loan of $500.000? And voila, half a million gets conjured into existence and credited to your bank account, and thanks to fractional reserve banking, only a tiny fraction of that needs to be on hand in the bank.

How does this not lead to hyperinflation? Well, in a normal case this amount gets deleted when you pay back the loan. OK, but how do you pay back interest then, which is an additional claim on top of the money conjured then deleted? Where does that extra few percent of currency come from? Presuming that no one is printing money at home, there are no other ways to pay back interest than by someone, somewhere else getting a new loan. Mind boggling it may sound, the only option to keep this monetary system going, and making interest payment possible is by issuing new loans all the time. When financial systems crashed in 2008 governments took over the task of money creation (partially) by issuing bonds then allowing their central banks to buy these bonds on money freshly summoned into existence. Ever wondered how global debt levels spiraled out of control? This is how.

Why didn’t this large amount of money cause inflation before COVID then? In order to answer this question let’s first differentiate between inflation and a price increase. Classic economic theory holds, that prices rise when demand outstrips supply — that is true — but the existence of extra money in the system doesn’t raise prices on its own. It only causes inflation: the growth of the money supply, but if this extra currency is spent on stocks and bonds only, or sits in banks as excess reserves, the only place it can cause price hikes is the stock exchange. And this is what has happened so far, making the top .1% richer than ever. It is worth noting however, that this is pure phantom wealth: if any of the billionaires would decide to sell all his shares, the given share price would plummet, and most of this wealth would evaporate immediately. Easy come, easy go.

On the other hand, if this money were to be poured out onto the streets (instead of using it to buy shares and other assets), and people started to use it to buy goods and services, it would definitely cause prices to rise (by raising demand). According to classic economic theory though this heightened demand should bring extra supply online, thus making price increases “transitory” only. This very last step has failed to happen so far — and as I argued before — will most probably fail to materialize on the long term too. Don’t expect the supply fairy to wave her magic wand anytime soon, and make this very real price increase disappear.

Wealth is the real basis of the world economy and the source of its growth potential — not money. It is something that can be turned into profit, something what can be extracted, modified, surrounded with a fence etc. and sold for money. Wealth is basically what we pull out from the ground: harvests from plants, minerals and energy resources. While governments can print money, they cannot print resources — nor stop their depletion.

Some would argue that human knowledge is our biggest wealth. Well, imagine very smart people living on a barren rock in the middle of the Pacific. No soil to grow to food, no potable water, no minerals, no fish… They would be totally dependent on a world capable of delivering these goodies to them — if these resources were nowhere to be found, or could be no longer delivered to them, they would die in a matter of days. In other words: they live on the surpluses others have pulled out from the ground (or sea) in exchange for their services.

If the economy fails to increase wealth extraction from Earth, then the increase in money supply can’t help but outpace real (material) growth. Since energy is the economy, and fossil fuels still provide 85% of our energy, a halt in coal, oil, and now gas supply growth would cause the economy to stop growing. If peak “production” of these resources are indeed in the rear view mirror, then growth will inevitably turn into de-growth. This would make our ever growing debts effectively impossible to service: there wouldn’t be enough goods and services to sell in order to cover monthly installments or interest payments… (Evergrande bonds, someone?) In fact material production and services could only go down from this point on, and no amount of money printing would be able to stop that. The reason is simple: we cannot increase extraction of wealth from Earth into infinity and maintain a functioning economy, let alone a living planet during the process. The world doesn’t lack liquidity — it lacks easily accessible, dense and cheap resources — while the rest of the ecosystem struggles to handle our immense waste.

There are two ways out of here: a) delete the extra money making billionaires look “poor” instantly (well, this never gonna happen), or b) let inflation do its devastating job in the economy by shooting prices up in the sky — so the balance between money and production would be restored, at least for a day. Notice however, that if we would keep conjuring money after this “reset”, the whole problem would regenerate itself in a blink of an eye.

There is a major implication to this: after the end of real growth, and the coming of de-growth, the banking system as we know it will have to go, and today’s currencies would have to be replaced with a new form of money. All your savings, stocks, bonds would worth next to nothing. Housing prices would have to shrink back to affordable levels — lacking an ever increasing money supply it would be impossible to uphold current price levels.

Wait, I have gold! Well, I have bad news for you. Even if the amount of your precious metals would stop increasing from now on, the shrinking economy would make your investment worth less and less every day. Imagine this: if the economy is capable of producing half the amount of goods you buy year over year, then you would have to shell out twice the amount of gold every year to buy the same amount of goods and services to remain in competition for ever scarcer resources. This is what I call a fast way to bankruptcy.

The only solution I see at this point is to learn a useful skill and start practicing it. Like it or not, you will have to work to make or get the products and services you need. In a de-growth economy money will be loosing its value with every passing day, and people will have to return to the old way of doing business: the favor economy. I do you a favor (cut your hair), so next time you bake bread you make one for me as well. An economy lacking liquid fuels will be localized anyway, giving an additional boost to this process. This might happen sooner than you might expect, acting as a real incentive to return to a more simpler, and perhaps more joyful and richer way of life.

Until next time,

B

A critique of modern times - offering ideas for honest contemplation.