CHAPTER II

WHAT IS MONEY?

22. What is money?
Money is anything that people will accept in exchange for goods or services, in the belief that they may, in turn, exchange it., now or later, for other goods or services. Any number of different materials—including paper I 0 U’s—may serve as money. How money functions and what money represents are its important aspects and not simply what it is made of. Today, the American people use coins, currency (paper money) and bank deposits (checkbook money) as money.

23. What did Americans use for money in earlier times?
In the beginning, they used wampum more than anything else. Surprising as it may seem, a bunch of clamshells strung like beads were valuable as money in settler days. But the Indians used wampum as money, and when the settlers wanted to trade with the Indians—as they frequently did—wampum had to be used. So the settlers themselves began to use wampum as money.

24. Did the colonists use coins at all?
Yes. Since the colonists traded with Europe as well as the Indians, they used coins, too. Naturally, there was a rate of exchange between wampum and coins since both were used. In 1641, the New Amsterdam Council fixed the rate of exchange between wampum and Dutch money. As time passed the colonies started minting their own coins and the general use of wampum died out.

25. What was “tobacco money”?
When coin money became short—and this happened—the colonies devised all sorts of money. One—prevalent in Virginia, Maryland, and North Carolina—was the use of tobacco warehouse receipts as money. These receipts were originally issued to tobacco growers when they placed their crop in storage awaiting sale. The owners simply made these receipts transferable much as endorsing a check today. Of course, as tobacco prices fluctuated from year to year, the value of the tobacco receipt also fluctuated, making it an imperfect medium to hold as savings or by which to designate long-term debt. This illustrates the difficulty of making any commodity—tobacco or gold—the basis of money.

26. What is legal tender?
Legal tender is any form of money which the U.S. Government declares good for payment of taxes and both public and private debts.

27. What is the most important form of money in the United States today?
"Checkbook money" that is, demand deposits in commercial banks. They account, for 80 percent of all the money circulating in the country.

28. Who issues money?
Since the Revolutionary War, the U.S. Government. has minted coins and printed paper money, currency. Other goods, including tobacco receipts, have circulated as “money” although they were not legal tender. But, in the 19th century, the Government delegated its right to print legal tender money first to State banks, then to national banks.

29. Today, who issues coins?
Only the U.S. Treasury has the right to mint pennies, nickels dimes, quarters, half dollars and silver dollars. Then they are issued through the Federal Reserve Banks. The pennies are made of copper; the rest of alloys. Since 1934, the Treasury has minted no gold coins.

30. What is currency?
Currency is paper money, or folding money. Americans use several forms of currency: National Bank Notes, Federal Reserve Notes, Silver Certificates, Treasury Notes of 1890, U.S. Notes and Federal Reserve bank notes. About 94 percent of the currency in circulation today consists of Federal Reserve Notes, issued by the Federal Reserve banks.

32. Why was the National Bank Act passed?
The Government wanted a reliable money with uniform value issued by reliable institutions in every section of the country, to finance the growing production and trade. National banks only lost the privilege of issuing bank notes in 1913, when the Federal Reserve System was established.

33. Do private banks issue money today?
Yes. Although banks no longer have the right to issue bank notes, they can create money in the form of bank deposits when they lend money to businesses, or buy securities. (The next chapter will explain how banks create money.) The important thing to remember is that when banks lend money they don’t necessarily take it from anyone else to lend. Thus they “create” it.

34. What backs U.S. currency?
Federal Reserve Notes are backed by the credit of the U.S. Government. American citizens, holding Federal Reserve Notes, cannot demand anything for them except (a) that they be exchanged for other Federal Reserve Notes, or (b) that they be accepted in payment for taxes and all debts, public and private. But, since certain foreign banks may exchange dollars for gold, gold does, in the last analysis, back U.S. dollars. Presently there is a 25-percent gold “backing” for Federal Reserve Notes.

35. Has the United States gone off the gold standard?
Yes, except in its international transactions.

36. Does this change the basis of our money?
In reality, no. The action, which Con took in 1934, merely formalized what had been true all along, which is this: since the 19th century checkbook money, now 80 percent of our money supply, has replaced notes as the most important form of money. And check-book money is created on the basis of all kinds of valuable assets. When a bank makes a loan to a business firm, secured by inventories of machinery, or to a farmer, secured by farm assets, it has, in effect, created a dollar “backed” by inventories, machinery, or farm goods.

37. So, what kind of dollar do we have?
We have a “managed paper currency”—managed because an agency of the Federal Government, the Federal Reserve System, consciously determines and controls the maximum amount of money which can be created by bank lending.

38. To whom does the Constitution give the power over money?
The Congress. The Constitution provides “the Congress shall have power to coin money, regulate the value thereof.” The Supreme Court interpreted this clause, again and again over a period of 150 years, to mean that “whatever power there is over the currency is vested in the Congress.”

39. Why must money he managed?
“Money does not manage itself” is a famous saying of British bankers. It is a saying which Chairman Martin, of the Federal Reserve Board, likes to quote and it sums up the matter quite well. Since the purpose of money is to make it easier for a nation to produce real goods and services, easier to divide the income from this production, and easier to save and invest for the future, the money system should be designed and controlled in ways which serve these purposes best. For example, it is very important to have the right amount of money available at all times. Too little money and too much money are both bad.

40. Why is the right amount of money so important?
The right amount of money is as important to the economic system as the right number of tickets is to the financial success of a theatrical performance. The theater has only a certain number of seats and distributing too many tickets will cause a scramble for seats when the patrons arrive. Selling too few tickets will leave empty seats. The same holds for money. When the Federal Reserve does not allow enough money to be created, there will be in effect, empty seats in our economy. The economy’s growth will be stunted by monetary deficiency—high interest rates with accompanying unemployment and underutilization of plant capacity. Real wealth which might have been created is not created. On the other hand, an economy can suffer from too much money relative to its needs. An overabundance of money, by spurring demand, pressures the economy to produce beyond its capacity. When this occurs, inflation erupts.