Wednesday, July 6, 2016

Money series: what is money?

This post is part of the Money Series.
In a recent post, we have started to grasp the deep reasons of raising inequality in the western countries: in a nut shell, due to globalization and fiat money system, the western countries have undergone deindustrialisation, which has caused salaries to stagnate and debt to raise exponentially. At the same time, due to the huge mass of money created by commercial and central banks, the guys of Wall Street and of the financial City of London have seen their wages and benefits skyrocket.

In another post, we have discovered that amongst the many trends coming from the USA, there is the burden of debt taken by students who desire to get a degree: quite often, instead of finding a good job, they simply jump from one degree to another and remain unemployed or become waiters, bartenders or receptionists in call centers.

And, in another post, we have seen why countries like Italy, Spain or Greece have been suffering a lot since the crisis in 2008. Due to the stiffness of the euro system, creditor countries have literally "sucked" away wealthy from the peripheral countries. In other terms, not only the western countries have been struggling to escape from the grip of debt, but the euro zone countries in the Mediterranean belt have had to face extra problems coming from the adoption of a common currency. Italy, for example, has been experiencing the worst crisis since the unification, in 1861 (if we exclude two World Wars, but the TV news tell us we are in peace time).

From the examples aforementioned, we have started to catch a concept: money is not a trivial thing to understand.
If somebody is able to control how much money a country can dispose of, actually this somebody is able to make a country thrive or fail.

First of all, we need to understand what money is.
In essence, money is the means you have at your disposal be exchanged for goods and services, and be used as a store of value

In other terms, money is whatever is accepted between a large community of buyers and a sellers as a means of payment for goods or services: the place of exchange is commonly referred to as market. Therefore it is portable and it can be used as a store of value. And, due to the fact that you can use it for transactions of different quantities of the same stuff, it has to be divisible according to some metrics.

We are talking about large communities because an exchange between two persons may be a barter: there must be something that can be exchanged and exchanged several times, always being accepted and without losing purchasing power over the transitions.

Now let's clear up an important concept. According to my opinion, and I will keep this point in all my future posts in my blog, there are only three kinds of REAL money at present:

1. cash
2. gold
3. bitcoin

Let's discuss them one by one:

Cash, like banknotes and coins, is de facto the simplest form of money in circulation. It is used as a means of payment for transactions. It is portable. It is a store of value. Banknotes and coins are issued by the Treasury of a Country, in very limited quantity because nowadays most of the payments (over 97% of the total payments) are executed cashless, ie electronically.
The value of cash is based on the trust you rely on the government and economic situation of your country. If your country collapses, and you discover that to buy the same stuff you used to buy the day before you need the double of the notes in your wallet, well, cash become useless.
This is an extreme case, of course. But you need to understand the concept behind. Cash has a value because the government grants for its value.

Now there is an important point to catch here: cash does not return an interest. We will come back to this point in the future.

The most ancient form of means of payment and store of value, universally accepted. It is considered the definite money. Something that has "intrinsic value". This is not formally correct: whatever value is subjective but, since gold is universally accepted, both in time (present and past) and in space (different countries and states) then it is considered to have "intrinsic value". Of course if you are dying for lack of water in the middle of the desert, you don't give a thing of a gold bullion: you only want a bottle of water. But this is an example for academic purposes: when a grandmother gives her niece a present, it is generally a gold ring or a gold necklace , not a bottle of Perrier.
Like cash, gold does not return an interest.

It is an example of criptocurrency, at present the most diffused and used amongst the criptocurrencies.
Differently from cash (a promise to pay granted by the government) and gold (sound money), it is completely digital. It is a complex matter. For now, suffice it to say that there is no central bank that keeps control of the amount of bitcoins. The control of the payments is done via a decentralised set of servers. It has several pro's and some con's. The main drawback is that nowadays its market is tiny, very speculative, extremely volatile. Nevertheless you can purchase some things (both goods and service, like the subscription to an antivirus program for your pc) and it is especially suitable to grant anonymity (like cash) and for micro-payments (like cash) without paying fees to your banks. As far as I know, you cannot yet buy a car or a house in bitcoins.
Is it portable? well, not its classical meaning. You have a sort of "wallet"that is digital, and that is linked to your identity by means of a private and a public key. In any case, you can use it wherever you have a wireless connection with a smartphone. So, yes, it is portable, and thanks to your wallet, it is also a store of value. Bitcoin is, as a matter or fact, digital cash.

And, like cash, Bitcoin does not return an interest.

Today, cash is being banned. They say it is to contrast the criminal activities of drug dealers, tax evaders,  pimps and so on. Indeed, cash is such a small portion of the overall payments worldwide that this thing is ridiculous. There are many sophisticated and legal systems for eluding taxes; therefore the war on cash has another purpose, in my opinion. Cash grants for anonymity. Cash is not under direct control of banks. If there is a bank run, and the ATM's are closed (like in Greece in 2015), those who have cash are in a very strong positions with respect to all the others that have to queue in front of an ATM at five in the morning. By banning cash, if banks overnight shut down, you are shut down with them. So, in case of a bail-in, your savings can be sucked up to recapitalize the banks.
The simple idea of a bank-run would simply cease to exist. If cash is banned everywhere, which bank can you run to in order to take your money back if your bank is going bankrupt? Or if the government needs to raise funds from private citizens without formally raising taxes?
This is already happening: if you try to withdraw an important sum of money from your bank, this is seen as a very suspicious activity, even if you have worked hard for that money, for which you have paid all the taxes to the government, the town hall, the region, plus contributions to welfare, retirement funds etc. Just remember: when you deposit your money in a bank, that is not your money any more. It is a liability of the bank towards you. You become a creditor for the bank.

The main problem for a lover of civil freedom is that the control over the issuing of paper money (notes and coins) is centralized. This gives bankers and the government a huge control over your life. Bitcoin seems to overcome this problem: it is anonymous, it is decentralized. Plus, you cannot create bitcoin at will as you can do with paper money. This is important: the maximum number of bitcoins is mathematically fixed, so for sure the bitcoins in you digital wallet cannot lose value overnight once the bitcoins are sufficiently diffused and used by the people.

There are many other implication behind the ban of cash, but it is out of the scope of this post.
One point that I want to highlight is that the recent surge of gold is mainly due to the lack of confidence of major investors in the banking system. That is, lack of trust in the present credit system. This has driven also to a raise in bitcoin. Differently from bitcoin, gold is real, it is made of atoms, atomic numeric 79. Bitcoin is not electrons, it is even less than electrons: it is complex coded information. I do not fins in any books I have read about bitcoin this concept, ie that bitcoin is coded information. Ans, as information, it can be potentially hacked and needs hardware to be stored and used.

In one of the next posts, we will discuss what credit is, why it is different from money, even if we use the words credit and money interchangeably. Indeed, doing so, we are confusing the average street guy. And we will also talk of the other side of credit: the debt.

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