I wish Roger Sandilands had paid a more careful attention to what I was 
saying and the context in which I cited Francis Walker's objection to 
the inclusions of the means of payment in the definition of money before 
offering his intervention.  Alas, he merely confused issues.

I have collected the definition of money as the unit of account by the 
classics, from David Hume, Adam Smith, Henry Thornton, David Ricardo, 
and J.S. Mill, in chapter 3 of /Classical Macroeconomics/. They were 
careful to separate money from other means of payment or instruments of 
credit.  Indeed, Hume called paper money or notes, "counterfeit money," 
Smith referred to them as "promissory notes," while Thornton called them 
"paper credit."  In general, bank notes were money substitutes, rather 
than money.  Smith's explanation here regarding substitutes for money as 
a means of payment may be helpful:  "if money is wanted, barter will 
supply its place, though with a good deal of inconveniency. Buying and 
selling upon credit, and the different dealers compensating their 
credits with one another, once a month or once a year, will supply it 
with less inconveniency. A well regulated paper money will supply it, 
not only without any inconveniency, but, in some cases, with some 
advantages" (Smith /WN/, 1: 458)

I don't know whom Roger would accept as the final arbiter on the 
definition of money.  But to show how far the modern definition differs 
from that of even Alfred Marshall's, who nevertheless accepted the 
medium of exchange function as the first identifier of money, here's his 
definition: "There is ... a general, though not universal agreement 
that, when nothing is implied to the contrary, 'money' is taken to be 
convertible with 'currency,' and therefore to consist of all those 
things which are (at any time and place) generally 'current,' without 
doubt or special inquiry, as means of purchasing commodities and 
services, and of defraying commercial obligations. Thus, in an advanced 
modern society, it includes all the coin and notes issued by Government" 
(Marshall 1923: 13). Money doesn't include checks; these don't pass from 
hand to hand without any special inquiry.  Also, even as Irving Fisher 
(1912) deviated from the strict classical definition of money, he 
nevertheless argues “while a bank note is /generally/ acceptable in 
exchange, a check is acceptable only by a special consent of the payee. 
Real money is what a payee accepts without question, because he is 
induced to do so by ‘legal tender’ laws or by well-established custom” 
(149; italics original).

As Smith (/WN/, 1:306), points out, it is from the "ambiguity of 
language" that people use the word money to refer to three things, 
namely, (a) cash or money proper, (b) income, and (c) wealth.  Friedman 
(1972) makes the same point, although he himself is a grave offender of 
commingling money and wealth (bank deposits) with his preference for M2 
as the appropriate definition of money.  So, to avoid the confusion in 
modern monetary and macroeconomic analysis, we should recognize money as 
being different from income and wealth.   Bank deposits are people's 
savings or wealth.  A bank check is an order to pay money; it is not 
money itself.  It is also an instrument of credit because until the 
recipient's account is credited with the money the transaction is not 
complete.  (That's why we have such a thing as the "float" -- funds 
credited to a check recipient's account but yet to be debited to the 
check writer's account.)  Meanwhile, the issuer of the check has been 
enabled to acquire a good or service without the use of income.  That 
is, credit is a facility to make a purchase without the use of one's 
income.  When one pays with cash, one would have had to turn one's 
income first into cash before surrendering it to a vendor.

Roger thus misses the above understanding of the difference between a 
check and money with his claim that "the deposit being transferred by 
check is money. It is the means of payment and medium of exchange. No 
cash is being used. And only as and when savings and time deposits (or 
other financial assets) are actually drawn down and transferred into 
chequable deposits or cash can purchases be settled."  Through the 
clearing system with a central bank, a bank that is in deficit with 
others has to transfer reserves (cash) to make them whole.  That is, 
checks entail the payment of cash. Besides, checks are not a unit of 
account. Rather, they are orders to pay the unit of account.

By the time Currie came on the scene, the modern definition of money to 
include savings or wealth (bank deposit) had become well established.  
We need to go back to the classics to recover our ability to do good 
monetary analysis.  For example, Friedman blames the Fed for having 
caused or made worse the Great Depression by their having cut the money 
supply by a third.  Not so, according to the classical (and more 
meaningful) definition of money.  The Fed increased its liabilities 
(high-powered money or monetary base) by 25%, from $4 to $5 billion (see 
Fisher, 1935) . It was the contraction in demand deposits by $8 billion 
that made the difference.  The public were reducing their savings, 
trying to turn their deposits into cash.  Meanwhile, the Fed's 
limitation to backing dollars by 40% of gold reserves prevented them 
from expanding the quantity of money (proper) enough to meet its 
demand.  The logic of the quantity theory explains that, with an excess 
demand for money, the value of money should rise (prices should fall).  
And so did prices (deflation) by an average of 6% between 1930 and 
1933.  Friedman was able to confound the Keynesians by employing the 
Keynesian broad definition of money to show how money matters: cut money 
and an economy suffers.  But in the end he did classical economics a 
great disservice by enshrining the fusion of money and wealth or credit 
into the definition of money.

James Ahiakpor

Roger Sandilands wrote:
> James Akiakpor writes:
>
>
>
> < Somewhere along the line in the late nineteenth century economists began to cite the medium of exchange function as the first identifier of what money is.  They thus started to include instruments of credit, like checks or checkable deposits, in their definition of money.  As Francis A. Walker (1878) writes in objection to that practice, "Money is that which passes from hand to hand in final discharge of debts and full payment for goods... [D]eposits, like every other form of credit, save the use of money; they do not perform the functions of money. Money is what money does." >
>
>
>
> James concludes that "A pure credit system thus does not have money, properly so called."
>
>
>
> But Francis Walker can hardly be held up as the ultimate arbiter of the definition of money as that which is used in hand-to-hand settlement of debts. In a pure credit economy (i.e., one in which debts are settled through transfers of chequable deposit accounts, as in Wicksell's definition of "credit") this "credit" is money just as much as cash would be. (Many "time" deposits are highly liquid, but are not strictly "money" in this sense if they must first be converted into demand deposits before the actual settlement of debts can be made.)
>
> Demand deposits are book-keeping entries expressed in terms of the unit of account such as the dollar. So, as Tom Humphrey rightly implies, they comprise a unit of account every bit as easily and logically as James's hand-to-hand cash money. And they can equally be the means of exchange and aggregated to give us a measure of the money supply.
>
> If the banks extend credit - by making a book-keeping entry in the name of a borrower - unconstrained by any reserve requirement and in excess of any increase in the demand for money (in chequing accounts) as a proportion of real GDP, there will - as in Tom's logic - be inflation. The central bank can then either increase the discount rate or can insist on a positive reserve ratio that would act as a constraint on inflationary credit (money). However, maybe this violates the assumption of a _pure_ credit economy. In reality, however, a bank would presumably be constrained by its capital even if not by mandatory reserve ratios.
>
>
>
> James is correct that a check is an _instrument_ rather than money itself. We know that. But the deposit being transferred by check is money. It is the means of payment and medium of exchange. No cash is being used. And only as and when savings and time deposits (or other financial assets) are actually drawn down and transferred into chequable deposits or cash can purchases be settled. It is in this sense that the quantity theory makes sense. To claim otherwise is to say that an increase in the savings rate is inflationary. An increase in the money supply (cash plus bank deposits actually used to make payments) relative to the demand for money is inflationary. An increase in savings with no increase in the money supply is not.
>
>
>
> This is why there has been so much confusion over whether the central bank should control the supply of money or control "credit" - when "credit" is taken to mean the supply of loans regardless whether this is via newly created money or via an increase in the savings rate [whereby one person refrains from spending as much as before in order to allow someone else potentially to spend her income instead].
>
>
>
> I haven't read Leland Yeager (SEJ 1978) to which James refers re the confusion of money and credit. But if memory serves, Yeager (Atlantic Economic Journal, Dec 1978) on "What are Banks?" insisted that cash plus demand deposits are money and that banks can create a "momentous roundabout process" whereby the quantity theory works through to prices.
>
>
>
> Tom reminds us that Wicksell defined "credit" as chequable demand deposits. Lauchlin Currie, in "The Treatment of Credit in Contemporary Monetary Theory" (JPE 1933) urged that we abandon the word "credit" because it has been defined and used in so many different ways, with sometimes catastrophic policy implications. He showed why the Fed's focus on the control of "credit" in the form of loans (following the real bills doctrine) led it to ignore what was happening to the money supply (cash plus demand deposits), bringing on and then exacerbating the Great Depression. James's posts show why we need to revisit Currie's injunctions and insights - as well as those of Wicksell (whom Currie admired).
>
>
>
> - Roger Sandilands


-- 
James C.W. Ahiakpor, Ph.D.
Professor
Department of Economics
California State University, East Bay
Hayward, CA 94542

(510) 885-3137 Work
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