The Financial Problem; Supplying the Money Needed for Transactions

Money is to buy goods and services.   Goods are produced, services are offered, and both are paid for with money. Goods and services flow, and money flows in a congruence with the exchange of goods and services

real analysis (is) identifying money with what money buys. … And that is the source of the problem in real analysis.  If you want to treat money that doesn’t make a difference, you can have a beautiful liberal monetary theory.  But it doesn’t say the way the thing works. [CWL 21, Editors’ Introduction, xxviii  quoting Lonergan]

A change in the rapidity with which money changes hands is in itself impotent to effect a circuit acceleration; what is needed is a change in the circuit velocity of money, in the rapidity with which money performs a circuit of work moving, say, from expenditure through receipts, outlay, income back to expenditure.  This difference is important.  For, while the rapidity with which money changes hands is a highly indeterminate concept, the rapidity with which it performs a circuit of work may be correlated exactly with the turnover frequency of commerce and industry.  [CWL 15, 56]

the work for money to do is to move, say, wheat from the western plains to the householder’s table, and increasing the number of owners that intervene in the process gives no more than a phenomenal increase in the velocity of money. … the velocity of money in the main circuits is tied to the velocity with which goods are produced and sold. …the velocity of money in the main circuits coincides with the velocity, the time interval, between the initiation of production and the moment of final sale. [CWL 21, 61-62]

Thus we define the financial problem as the problem of working out and applying the view that money is public bookkeeping.  The grounds for this position may be summarized as follows. … Money is an instrument invented by man to make possible a large and intricate exchange process.  While there is no simple and even perhaps no ascertainable correlation between the quantity of money and the volume of exchange activity, it remains true that variations in the volume, if not to result in inflation or deflation, postulate some variations in the quantity.  Now in the long run these variations in quantity can be had only by the introduction of a money of account, but if the money of account – its title to be called money was indicated in Section 18 (pp. 37-41) – stands side by side with a commodity money (e.g. in a fixed price of exchange for an ounce of gold), then not only are there the undue perturbances of the exchange process from international movements of capital and from financial crises and crashes, but the whole economy comes to be regulated, not by the social good, not by the exigencies of the economy itself, but by the money invented to serve the objective process and the social good. [CWL 21, 104]

Real analysis (is) identifying money with what money buys.

operative payments have been defined as standing in a network congruent with the network of the productive process; it follows that we have to deal with quantities of money congruent with the values emerging in the productive process (turnover dollar magnitudes), and with the velocities (turnover frequencies) of money congruent with the velocities of the productive process. [CWL 21, 135]

In Functional Macroeconomic Dynamics, the structural relations of the productive process are analyzed first.  Then the analysis turns to the analysis of the circulation of money.  Though the spectacular invention of money enables the spectacular transition from a plodding barter economy to a vast and intricate exchange economy, money must be viewed in the proper perspective; it remains only as an enabler and handmaid of the primary process of production and sale.

These differences and correlations (within the productive process) have now to be projected into their monetary correlates to set up classes of payments… The productive process (occurs) in an exchange economy.  It will be supposed to be an economy of notable size, complexity, and development, with property, exchange, prices, supply and demand, money.  [CWL 15, 39]

Money functions on a basis of promise and trust between people.  (See Notes on the Nature and Purpose of Money)

… the dummy (money) must be constant in exchange value, so that equal quantities continue to exchange, in the general case, for equal quantities of goods and services. The alternative to constant value in the dummy is the alternative of inflation and deflation.  Of these famous twins, inflation swindles those with cash to enrich those with property or debts, while deflation swindles those with property or debts to enrich those with cash; in addition to the swindle each of these twins has his own way of torturing the dynamic flows; deflation gives producers a steady stream of losses; inflation yields a steady stream of gains to give production a drug-like stimulus. [CWL 21, 37-38]

Real analysis(is) identifying money with what money buys.

We are interested in how the money functions, and that has already been given sufficient meaning by our reflections on classes of payments.  The money will function in meeting the flow of basic production or in meeting the flow of surplus production.  [McShane, 1995, 58]

Easy for us and others to sit here and encourage the Fed to use operations in the money market only for injecting the right amount of money needed for transactions.  How much is the right amount? How fast will new money perform circuits of work?  In the vast and intricate production-and-sale network how expeditiously will the money-using firms coordinate with the other firms with whom they deal in the rectilinear series from the initiation of work on a particular product to the completion of the product by final sale?  What will be the turnover quantities and turnover frequencies along the way; and what will be the monetary magnitudes and frequencies of the turnovers; i.e. with what velocity will money do its work?

the work for money to do is to move, say, wheat from the western plains to the householder’s table, and increasing the number of owners that intervene in the process gives no more than a phenomenal increase in the velocity of money. … the velocity of money in the main circuits is tied to the velocity with which goods are produced and sold. …the velocity of money in the main circuits coincides with the velocity, the time interval, between the initiation of production and the moment of final sale. [CWL 21, 61-62]

Again,

A change in the rapidity with which money changes hands is in itself impotent to effect a circuit acceleration; what is needed is a change in the circuit velocity of money, in the rapidity with which money performs a circuit of work moving, say, from expenditure through receipts, outlay, income back to expenditure.  This difference is important.  For, while the rapidity with which money changes hands is a highly indeterminate concept, the rapidity with which it performs a circuit of work may be correlated exactly with the turnover frequency of commerce and industry.  [CWL 15, 56]

Functional Macroeconomic Dynamics develops a new magnitude-and-frequency theory of money to replace the textbook theory PY = MV.  We have a new magnitude-frequency-congruence theory of money.  We advance from the highly indeterminate concept of the rapidity with which money changes hands to the highly indeterminate concept of the rapidity with which it performs a circuit of work.  We advance tothe more precise ideas of turnover size and turnover frequency instead of ill-defined ideas of quantity and velocity of money.

We have to deal not with the quantity and velocity of money in all and any payments but only with the quantity and velocity in operative payments.  But operative payments have been defined as standing in a network congruent with the network of the productive process; it follows that we have to deal with quantities of money congruent with the values emerging in the productive process, and with the velocities of money congruent with the velocities of the productive process.  In fact, we shall be able to deal with the more precise ideas of turnover size and turnover frequency instead of ill-defined ideas of quantity and velocity of money. [CWL 21, 135]

Unless all the units (of enterprise) in the series simultaneously increase frequency from reduced turnover periods, there cannot be a general acceleration due exclusively to increased frequency; the units with increased frequency have to reduce their turnover magnitudes to allow other units in the series without increased frequency to accelerate by increased turnover magnitudes.  [CWL 15, 59]

The introduction of more, or more efficient units of production is not to be expected to take place in random fashion: the supply of a single product depends upon the activities of many units …; on the other hand, increased demand does not concentrate upon some one product but divides over several products, so that if there is increased demand for one, there will be an increased demand for many; and as the increased demand for one justifies development in a series of productive units, so the increased demand for many justifies development in a series of series of units. [CWL 15, 35-6]

The emergence both of new ideas and of the concrete conditions necessary for their practical implementation forms matrices of interdependence: any objective change gives rise to series of new possibilities, and the realization of  any of these possibilities has similar consequences; but not all changes are equally pregnant, so that economic history is a succession of time periods in which alternatively the conditions for great change are being slowly accumulated and, later, the great changes themselves are brought to birth. [CWL 15, 36]

So, easy for us and others to sit here and encourage the Fed to use operations in the money market only for injecting the right amount of money needed for transactions.  How much is the right amount?  What new ideas and inventions are emerging?  What are the conditions necessary for their realization?  What are the new matrices of interdependence in the productive process?

Despite the probabilities and uncertainties, it remains true that variations in the volume of exchange activity, if not to result in inflation or deflation, postulate some variations in the quantity.

While there is no simple and even perhaps no ascertainable correlation between the quantity of money and the volume of exchange activity, it remains true that variations in the volume, if not to result in inflation or deflation, postulate some variations in the quantity.  Now in the long run these variations in quantity can be had only by the introduction of a money of account, … [CWL 21, 104]

Finally we note here that the gold standard is inappropriate.

if the money of account – its title to be called money was indicated in Section 18 (pp. 37-41) – stands side by side with a commodity money (i.e. money of account is given a fixed conversion rate with a commodity such as gold), then not only are there the undue perturbances of the exchange process from international movements of capital and from financial crises and crashes, but the whole economy comes to be regulated, not by the social good, not by the exigencies of the economy itself, but by the money invented to serve the objective process and the social good. [CWL 21, 104]

So, the Fed is charged with supplying the system with enough money for transactions.  But how much is enough?  The Fed must work with the banks and their clients so as to identify a reasonable range and adjust the money supply accordingly.

Plus, while elsewhere we explicitly and confidently criticize the Fed for artificially adjusting interest rates and flooding the secondary markets with money that only inflates values in the secondary markets and bifurcates purchasing power in the economy as a whole, we sit here chastened regarding how much money is precisely enough; for now we are trying to provide sound advice but not take cheap shots from the nickel seats.  For we do understand that the Fed is wrongly charged with a responsibility that belongs instead with the government and the private sector.  It is they – the government and the private sector – who have to adjust flows so that the economy runs smoothly.