“How can anybody answer that question?”
“Apparently nobody tried to before the present economic regime. Money was expanded and contracted in a most senseless fashion. The panic of 1907 for example was produced by a deliberate contraction of money. But the answer to the question is simple, and arises from the nature or purpose of money as we defined it. A country needs enough money to enable its citizens to perform all desired exchanges of goods and services. Your 1939 system did not accomplish this; our 2086 system does.”
“But look—there was plenty of money in 1939. That doesn’t make sense.”
“Haven’t you just told me that in 1939 there were millions of people who needed things they couldn’t buy? And weren’t there merchants who had all these things and wanted to sell them very badly, yet couldn’t sell them? Wouldn’t all this have been very different and vastly improved if the people in dire want had had that money in their pockets to buy from the merchants who had to sell or go bankrupt? Isn’t that a shortage of money?”
“Yes, of course. But where are you leading me?”
“Patience. In 2086 the government gives money to the people to do that necessary buying.”
“Yes, I know. Master Cathcart told me that the government got this money off the printing press or out of the inkwell—in other words fiat money. How can it be worth anything?”
“We decided that money was anything which always could be swapped for goods and services. That implies that the person who accepts it believes that he can do likewise. Therefore money is money as long as everybody believes it is money. There is a touchstone which will enable you to determine whether or not people will believe in money: Can you use it to pay taxes? Will the government give you something for it of value, postal service for example? If the people collectively as a state will accept it, then so will the individuals. Our ‘fiat’ money qualifies. The United States will accept it in exchange for things of value. That is no longer true of your gold. It can’t be used for taxes. You may or may not be able to swap it off, it isn’t money, and you may be stuck with it. As a matter of fact all United States currency has been ‘fiat’ currency ever since the United States suspended gold payments in 1933. Since that time the gold standard has been simply a fiction convenient in party politics. However I believe that your principle difficulty is in understanding why it is necessary for the government to create new money and give it away to the consuming public. In order to understand that, it is first necessary to understand the mathematics of the relationship between prices and purchasing power.
“Before we go into the mathematical theory, let me state the fact which we are to explain: In1939, and before, the sum total of the purchasing power of the public was always less than the total price of the goods offered for sale. This is just another way of saying that ‘overproduction’, with its attendant unemployment, poverty, labor warfare, and so forth, was a chronic condition. As a matter of fact it is not necessary to understand the mathematics behind it as long as you observe the fact, just as it isn’t necessary to know how a house caught fire in order to see that a house is on fire and to realize that something must be done about it. I stated that ‘over-production’ was chronic and that it is identically the same thing as saying that the public as a whole didn’t have the money with which to buy the goods offered for sale. You will certainly agree that such was the condition from 1929 to 1939. It was generally recognized and the government even went so far as to partially make up the spread between prices and income by direct relief—giving money away—and wages for made work—giving money away with a moralistic sugar coating. This would have been sensible had the government created the money by fiat. Instead they borrowed it from the banks who created it by fiat. This was silly as it piled up a national debt to be reckoned with in the future and the money wasn’t one whit sounder under the fiat of the banks than it would have been by government fiat. For please understand that the money lent the government by the banks to provide relief did not come into existence until it was borrowed. The bankers took it out of an empty vault—they fished it out of the inkwell. This may be hard to believe but it is the literal truth. Every time a bank loaned money in those days it created it. Of course President Holmes would successfully reclaim this practice for the government decades later, but at this time it was entirely imprudent.