MONEY AS A MEANS OF PAYMENT

MONEY AS A MEANS OF PAYMENT

1. Introduction: Money is an important issue of Economics, whole economy is dependent on it. But from the classics to NCM gave fallacious theory of money. They thought money as store of value, as a unit of value or neutrality of money. But in Foundation of Economic science have the accurate theory of money. Author of this book Professor Mohammad Osman Gani proves money as a means of payment. He said, in spite of demand and supply of goods are equal in market , goods can be unsold and rises involuntary unemployment if there is no means of payment to materialized the indirect trade. His theory of money as a means of payment inspires me, to know more about that and write few words.

2. Theoretical importance: In the world economy almost cent percent transaction are indirectly traded. Here money plays as a role of means of payment. Without money no indirect trade is possible. So it very important concern of macroeconomics consider money as a MOP.

3. Practical Importance: Practically, theory of payment may resolve the unresolved issues of involuntary unemployment, undue instability and unintended debt. It changes macroeconomics at its roots.

4. Literature regarding theory of money:

4.1 Classics: Classics did not consider indirect trade and hence didnt see money as a necessary means of payment. They confused money with a mere imaginary unit of value or numeraire. It is as if people did not pay with money but paid with real goods, but only proclaimed the value in units of imaginary value. The crux of the problem is that buyers cannot arbitrarily give more money unless they have it. As classics thought of money as a mere Numeraire, they simply confused the actual supply of good to be equal to the required money, because money is simply an imaginary entity that reflects the nominal values of real goods.

4.2 Keynesian : Keynes was the most influential economist of the twentieth century, he gave birth to modern macroeconomics. But Keynes confused bond (store of value) with money (vehicle of transfer of value, Means of Payment). It is now possible to clear up the distinction between ability to buy and ability to pay. Money as means of payment must affect the volume of trade. He supposed that people hold onto money because money is a store of value. One can hoard money now and spend it in future when he need it. This intuitive explanation is fundamentally weak. The problem is that people hoard interest-free cash rather than interest-bearing bonds under perverse circulation of money. In future if people face liquidity crisis , its difficult to get cash fast and hence people prefer cash

4.3 Monetarist:
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Monetarists did not see how money circulates. Monetarist version of quantity theory pretends that suppliers just drop money from a helicopter, thus turning it into mere unit of account. The short run effect of money on output due to money illusion or mistake of workers is not a tenable proposition. It would help if one took a payment circuit to explain how the recipient of new money agreed to borrow it and decided to spend it. It would help explain why one would pay a higher nominal price for a good.

4.4 New Classical Macro-economists (NCM ) NCM says money does not affect real output in the long run is called neutrality of money. The idea that it does not affect output even in short run is called super-neutrality. The fact is money as means of payment or MOP has a effect in the level of output and employment in short and long runs. NCM did not understand it because they lack any theory MOP so they gave factually false and logically absurd ideas.

5. Analysis on Money as a means of payment (MOP) 5.1 New theory of MOP: In Foundation of Economics Science Professor Gani described his theory of means of payment.

5.1.1 Money is not a store of Value: The main theoretical problem of regarding money as a store of value carrying a debt of the issuer is that it misses the function of money as MOP. It inevitably worries about issues of capital and credit and hence cannot deal with the issues of payment. Instead it, it creates myths. While the real world suffers from severe shortage of liquid means of payment and hence is stagnant and unemployed, the notion of a store of value worries about the general acceptability of money as a debt of the issuer. It puts the reality on its head. The trouble is that the creators of
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fiat refuse to issue enough fiat because the borrowers are risky. The problem is availability, not acceptivility. This reversal of the function of money needs more clarification.

5.1.2 Money as a Numeraire: One does not have a formal model to see money as a medium of exchange ,when double coincidence is overlooked. Then the digression is to think of money as a unit of account or numeraire. It is true that prices in a monetized economy are quoted in money. Theory of money ought to be a part of theory of payment because money is a means of settling payments, but it becomes a part of theory of price. The quantity theory of money is not really a theory of money at all, but it is a theory of price. It is concerned with explaining the general price level. Had there been a formal model of payment, one would have defined price as the quantity of payment. Now, if the payment is in money and its supply increases without any increase in the supply of real goods, then the price counted in money of course goes up by definition. The core of the problem is to find out how money supply could have increased or decreased without a change in the supply of real output, but the quantity theory tradition did not consider the supply of money as a means of payment at all. Supply without a supplier has no useful meaning.

5.1.3Money is not a factor of production: We must not forget that money is just a means of payment. Money is an instrument to transfer claims and obligations on real output. To affect output in the sense of increasing output, the actual factors of production must exist. Indeed, one must recognize that money is neither produced nor consumed by anybody who produces or consumes real goods. It is actually a management tool to manage claims.

5.1.4 Money is a means of payment(MOP): The task of the theory of payment is to explain how the kind of the object exchange is determined. This task is supremely important, because it identifies what may or may not serve as
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an acceptable means of payment. The lack of a MOP prevents trade. In indirect exchange, a real good fails to be a means of payment. Balance of payment and means of payment is not same. Balance of payment means that buyer must offer to the seller a certain quantity of payment, which must be equal value of the object bought with it. The term balance of payment is somewhat of a misnomer. More descriptively it would be balance of values. In contrary , a MOP refers to the kind of object which the seller is willing to accept.

5.2 New practice : Economics analysis of money as a means of payment and its affect on unemployment, indirect trade, inflation etc discussed here. 5.2.1Need for MOP in indirect trade Indirect trade cant be happen without the existence of money. The Wicksell Matrix shows the value of output which must be traded against money and which certainly cannot be traded by barter.

Prevailing monetary theory cannot even agree if money is needed, and hence does not bother to figure out a measure of the need. There are several measures of money called M1, M2, M3 and
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so on, because it is very unclear what money is. The new model leaves no ambiguity in this respect. The transpose of the Wicksell Matrix shows exactly how much money is needed where. 0 0 1 1 0 0 0 1 0 0 1 0 0 0 1 1 0 0

The total need for money is exactly equal to the value of the indirectly traded output as shown by the Wicksell Matrix. And of course there is no room for doubt that output in the Wicksell Matrix is absolutely dependent on money.

5.2.2 Theorem of means of payment: The volume of output depends on the MOP. The decomposition of output according to means of payment leaves no room for doubt that the output depends on the means of payment. There are several new insights. First, the minimum output in an economy is given by subsistence matrix. The economy cannot produce any smaller output. There is nothing to prevent the producers to produce what they themselves consume from their own production. Secondly, trade enlarges the output much beyond subsistence, but not without the proper means of payment. Barter is severely restrictive, but nevertheless enhances the size of output so far as barter is possible. The key insight of theory of payment is that real goods fail to serve as MOP. In this case, artificial means of payment are required to allow indirect exchange. Without this MOP , output cant be sustained. So the output in the Wicksell Matrix cannot be sustained without using money. Again, the bond must be used to finance the output whose demand depends on borrowing. 5.2.2Theorem on Involuntary Unemployment: There is no symmetry in Wicksell matrix. The Wicksell matrix clearly shows that the real goods for each of which demand is equal to supply and at the market clearing prices. If there is money,
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there is nothing to prevent the trades and hence the employment. If there is no money, the goods cannot be exchanged, and hence the factors are involuntarily unemployed

Wicksells real good (No money, no jobs) 0 0 1 1 0 0 0 1 0

Keynes money

full employment (Yes to money, yes to jobs)

0 1 0

0 0 1

1 0 0

0 1 1

1 0 1

1 1 0

5.2.3 Theorem on Unintended debt: Fiat money must be borrowed by one agent in each payment circuit without any real need to borrow. The borrower is compelled to incur the transaction cost of seigniorage fee for the use of fiat money. Fiat money can be issued as and only as a loan. The issuer cannot sell the money against real output, because in that case, the payment circuit will have one buyer of real output who does not offer any real output. That will break the circuit. The issuer can also not give it out
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for free, because the only goal of money is to manage the claims on real output, and that goal cannot be met unless the user of money delivers some real output to earn the money to settle the debt, essentially by returning the money to the issuer. The Wicksell Matrix and the underlying multiple coincidence imply that ordinary producer of real output must borrow money precisely when their budgets in real terms are balanced. The debt in fiat money is not a real debt, but an obligation to the issuer to fulfill the claims on output. This debt is excess debt, because it is incurred even as the budget is precisely balanced. The true burden of excess debt is the extremely high fee for the use of fiat money. Bankers treat it as real capital and charge a heavy interest rate. The true cause beneath the accumulation of debts of the developing nations is the extremely high interest. We propose that the fee for using fiat money should be rationalized to the level of cost incurred to manage the money. Our guess is that this cost cannot be any higher than 1/5 of one percent for large national economies.

5.2.4Theorem on Stagnation: Long circulation of fiat money imposes unnecessary idle waiting on the producers and thereby aborts the potential real capital that could be produced during the idle waiting period. The basic theme is rather simple. First, society can create fiat money virtually costless, especially with the use of modern electronic Transfer technology. Yet this fiat is a necessary device to permit indirect trade, which covers almost all actual trades. Hence there is no good reason to economize on the use of this fiat. Secondly. Waiting for the fiat to arrive imposes a real cost. The true source of capital is waiting. The forced waiting period during which producers are disabled from production aborts the formation of real short circulation money to avoid the costly abortion of real output. This will stop the permanent stagnation.

B A C

G F

Figure: payment circuit with Short circulation. It requires a new perspective to see money as a tool to transfer claims on real output. This tool can work if and only if there is someone responsible to manage the transfer of value. Unless people acknowledge the institutional character of the market share somebody must be able to enforce the three market lawsa, one can hardly hope to see why money is a management tool. Parheps the best way to see this to imagine what happens if there are no bankers and no government agencies to accept coins in payment of taxs and no lawa about legal lender. One can then imagine how the MOP will work.

5.2.5Theorem on undue instability: Instability of output is undue when it occurs without any change in tastes or technologies or endowments. It can occur because the bankers can arbitrarily change the supply of money without any regard for the need for money. Only money has a Propagation mechanism associated with the payment circuit. Instability cannot spread unless the output is monetized. The arbitrary power of the bankers to change the money supply must be institutionally regulated to make sure that the supply of money stays continuously equal to precisely what is needed, as measured by the Wicksell Matrix The biggest perversion of money is that it may be degraded into bonds. Fed
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up with the perennial liquidity crisis under the long circulation regime, most producers are compelled to build up cash reserves instead of interest-bearing bonds. This impedes the flow of money and aborts output through the lengthening of the period of wasteful waiting. But the greater danger is that bankers may issue money to finance the purchase of existing assets such as stocks and bonds, futures and options, and other financial instruments that have no relation to the current output. Without any change in the fundamentals, the stock prices may be pushed up and down by the bankers, as they finance speculators to play gambles with the stocks. Instability cannot be propagated under subsistence or barter. It can occur only under money. And that can occur only if the issuers mismanage its supply.

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