This refers also to monopoly prices. It is reasonable to abstain from all policies which could result in the emergence of monopoly prices. But whether monopoly prices are brought about by such promonopoly government policies or in spite of the absence of such policies, no alleged “fact finding” and no armchair speculation can discover another price at which demand and supply would become equal. The failure of all experiments to find a satisfactory solution for the limitedspace monopoly of public utilities clearly proves this truth.
It is the very essence of prices that they are the offshoot of the actions of individuals and groups of individuals acting on their own behalf. The catallactic concept of exchange ratios and prices precludes anything that is the effect of actions of a central authority, of people resorting to violence and threats in the name of society or the state or of an armed pressure group. In declaring that it is not the business of the government to determine prices, we do not step beyond the borders of logical thinking. A government can no more determine prices than a goose can lay hen’s eggs.
We can think of a social system in which there are no prices at all, and we can think of government decrees which aim at fixing prices at a height different from that which the market would determine. It is one of the tasks of economics to study the problems implied. However, precisely because we want to examine these problems it is necessary clearly to distinguish between prices and government decrees. Prices are by definition determined by peoples’ buying and selling or abstention from buying and selling. They must not be confused with fiats issued by governments or other agencies enforcing their orders by an apparatus of coercion and compulsion.25
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1. Sometimes the difference in price as established by price statistics is apparent only. The price quotations may refer to various qualities of the article concerned. Or they may, complying with the local usages of commerce, mean different things. They may, for instance, include or not include packing charges; they may refer to cash payment or to payment at a later date; and so on.
2. It is different with regard to the mutual exchange ratios between money and the vendible commodities and services. Cf. below, pp. 407–408.
3. The problem of the nonconvertible capital goods is dealt with below, pp. 490–505.
4. Reasonable means in this connection that the anticipated returns on the convertible capital used for the continuation of production are at least not lower than the anticipated returns on its use for other projects.
5. Cf. above, p. 130.
6. For a thoroughgoing treatment of the conservatism enjoined upon men by the limited convertibility of many capital goods, the historically determined element in production, see below, pp. 499–510.
7. Cf. above, pp. 31, 55–56.
8. Cf. Paul H. Douglas in Econometrica, VII, 105.
9. Cf. Henry Schultz, The Theory and Measurement of Demand (University of Chicago Press, 1938), pp. 405–427.
10. Cf. below, P. 396.
11. Cf. Joseph A. Schumpeter, Capitalism, Socialism and Democracy (New York, 1942), P. 175. For a critique of this statement, cf. Hayek, “The Use of Knowledge in Society,” American Economic Review, XXXV, 529–530.
12. Price discrimination is dealt with below, PP. 385–388.
13. Cf. the refutation of the misleading extension of the concept of monopoly by Richard T. Ely, Monopolies and Trusts (New York, 1906), pp. 1–36.
14. It is obvious that an incomplete monopoly scheme is bound to collapse if the outsiders come into a position to expand their sales.
15. Cf. below, pp. 376–380, on good will.
16. The use of this term “margin monopoly” is, like that of any other, quite optional. It would be vain to object that every other monopoly which results in monopoly prices could also be called a margin monopoly.
17. A collection of these agreements was published in 1943 by the International Labor Office under the title Intergovernmental Commodity Control Agreements.
18. About the significance of this fact see below, pp. 676–678.
19. See below, pp. 851–853.
20. Expenditure for additional advertising also means additional input of capital.
21. Cash holding, even if it exceeds the customary amount and is called “hoarding,” is a variety of employing funds available. Under the prevailing state of the market the actor considers cash holding the most appropriate employment of a part of his assets.
22. See below, pp. 676–677.
23. Cf. A. Marshall, Principles of Economics (8th ed. London, 1930), pp. 124127.
24. Cf. above, pp. 133–135.
25. In order not to confuse the reader by the introduction of too many new terms, we shall keep to the widespread usage of calling such fiats prices, interest rates, wage rates decreed and enforced by governments or other agencies of compulsion {e.g., labor unions). But one must never lose sight of the fundamental difference between the market phenomena of prices, wages, and interest rates on the one hand, and the legal phenomena of maximum or minimum prices, wages, and interest rates, designed to nullify these market phenomena, on the other hand.
XVII. INDIRECT EXCHANGE
1. Media of Exchange and Money
INTERPERSONAL exchange is called indirect exchange if, between the commodities and services the reciprocal exchange of which is the ultimate end of exchanging, one or several media of exchange are interposed. The subject matter of the theory of indirect exchange is the study of the ratios of exchange between the media of exchange on the one hand and the goods and services of all orders on the other hand. The statements of the theory of indirect exchange refer to all instances of indirect exchange and to all things which are employed as media of exchange.
A medium of exchange which is commonly used as such is called money. The notion of money is vague, as its definition refers to the vague term “commonly used.” There are borderline cases in which it cannot be decided whether a medium of exchange is or is not “commonly” used and should be called money. But this vagueness in the denotation of money in no way affects the exactitude and precision required by praxeological theory. For all that is to be predicated of money is valid for every medium of exchange. It is therefore immaterial whether one preserves the traditional term theory of money or substitutes for it another term. The theory of money was and is always the theory of indirect exchange and of the media of exchange.1
2. Observations on Some Widespread Errors
The fateful errors of popular monetary doctrines which have led astray the monetary policies of almost all governments would hardly have come into existence if many economists had not themselves committed blunders in dealing with monetary issues and did not stubbornly cling to them.
There is first of all the spurious idea of the supposed neutrality of money.2 An outgrowth of this doctrine was the notion of the “level” of prices that rises or falls proportionately with the increase or decrease in the quantity of money in circulation. It was not realized that changes in the quantity of money can never effect the prices of all goods and services at the same time and to the same extent. Nor was it realized that changes in the purchasing power of the monetary unit are necessarily linked with changes in the mutual relations between those buying and selling. In order to prove the doctrine that the quantity of money and prices rise and fall proportionately, recourse was had in dealing with the theory of money to a procedure entirely different from that modern economics applies in dealing with all its other problems. Instead of starting from the actions of individuals, as catallactics must do without exception, formulas were constructed designed to comprehend the whole of the market economy. Elements of these formulas were: the total supply of money available in the Volkswirtschaft; the volume of trade—i.e., the money equivalent of all transfers of commodities and services as effected in the Volkswirtschaft; the average velocity of circulation of the monetary units; the level of prices. These formulas seemingly provided evidence of the correctness of the price level doct
rine. In fact, however, this whole mode of reasoning is a typical case of arguing in a circle. For the equation of exchange already involves the level doctrines which it tries to prove. It is essentially nothing but a mathematical expression of the—untenable—doctrine that there is proportionality in the movements of the quantity of money and of prices.
In analyzing the equation of exchange one assumes that one of its elements—total supply of money, volume of trade, velocity of circulation—changes, without asking how such changes occur. It is not recognized that changes in these magnitudes do not emerge in the Volkswirtschaft as such, but in the individual actors’ conditions, and that it is the interplay of the reactions of these actors that results in alterations of the price structure. The mathematical economists refuse to start from the various individuals’ demand for and supply of money. They introduce instead the spurious notion of velocity of circulation fashioned according to the patterns of mechanics.
There is at this point of our reasoning no need to deal with the question of whether or not the mathematical economists are right in assuming that the services rendered by money consist wholly or essentially in its turnover, in its circulation. Even if this were true, it would still be faulty to explain the purchasing power—the price— of the monetary unit on the basis of its services. The services rendered by water, whisky, and coffee do not explain the prices paid for these things. What they explain is only why people, as far as they recognize these services, under certain further conditions demand definite quantities of these things. It is always demand that influences the price structure, not the objective value in use.
It is true that with regard to money the task of catallactics is broader than with regard to vendible goods. It is not the task of catallactics, but of psychology and physiology, to explain why people are intent on securing the services which the various vendible commodities can render. It is a task of catallactics, however, to deal with this question with regard to money. Catallactics alone can tell us what advantages a man expects from holding money. But it is not these expected advantages which determine the purchasing power of money. The eagerness to secure these advantages is only one of the factors in bringing about the demand for money. It is demand, a subjective element whose intensity is entirely determined by value judgments, and not any objective fact, any power to bring about a certain effect, that plays a role in the formation of the market’s exchange ratios.
The deficiency of the equation of exchange and its basic elements is that they look at market phenomena from a holistic point of view. They are deluded by their prepossession with the Volkswirtschaft notion. But where there is, in the strict sense of the term, a Volkswirtschaft, there is neither a market nor prices and money. On a market there are only individuals or groups of individuals acting in concert. What motivates these actors is their own concerns, not those of the whole market economy. If there is any sense in such notions as volume of trade and velocity of circulation, then they refer to the resultant of the individuals’ actions. It is not permissible to resort to these notions in order to explain the actions of the individuals. The first question that catallactics must raise with regard to changes in the total quantity of money available in the market system is how such changes affect the various individuals’ conduct. Modern economics does not ask what “iron” or “bread” is worth, but what a definite piece of iron or of bread is worth to an acting individual at a definite date and a definite place. It cannot help proceeding in the same way with regard to money. The equation of exchange is incompatible with the fundamental principles of economic thought, It is a relapse to the thinking of ages in which people failed to comprehend praxeological phenomena because they were committed to holistic notions. It is sterile, as were the speculations of earlier ages concerning the value of “iron” and “bread” in general.
The theory of money is an essential part of the catallactic theory. It must be dealt with in the same manner which is applied to all other catallactic problems.
3. Demand for Money and Supply of Money
In the marketability of the various commodities and services there prevail considerable differences. There are goods for which it is not difficult to find applicants ready to disburse the highest recompense which, under the given state of affairs, can possibly be obtained, or a recompense only slightly smaller. There are other goods for which it is very hard to find a customer quickly, even if the vendor is ready to be content with a compensation much smaller than he could reap if he could find another aspirant whose demand is more intense. It is these differences in the marketability of the various commodities and services which created indirect exchange. A man who at the instant cannot acquire what he wants to get for the conduct of his own household or business, or who does not yet know what kind of goods he will need in the uncertain future, comes nearer to his ultimate goal if he exchanges a less marketable good he wants to trade against a more marketable one. It may also happen that the physical properties of the merchandise he wants to give away (as, for instance, its perishability or the costs incurred by its storage or similar circumstances) impel him not to wait longer. Sometimes he may be prompted to hurry in giving away the good concerned because he is afraid of a deterioration of its market value. In all such cases he improves his own situation in acquiring a more marketable good, even if this good is not suitable to satisfy directly any of his own needs.
A medium of exchange is a good which people acquire neither for their own consumption nor for employment in their own production activities, but with the intention of exchanging it at a later date against those goods which they want to use either for consumption or for production.
Money is a medium of exchange. It is the most marketable good which people acquire because they want to offer it in later acts of interpersonal exchange. Money is the thing which serves as the generally accepted and commonly used medium of exchange. This is its only function. All the other functions which people ascribe to money are merely particular aspects of its primary and sole function, that of a medium of exchange.3
Media of exchange are economic goods. They are scarce; there is a demand for them. There are on the market people who desire to acquire them and are ready to exchange goods and services against them. Media of exchange have value in exchange. People make sacrifices for their acquisition; they pay “prices” for them. The peculiarity of these prices lies merely in the fact that they cannot be expressed in terms of money. In reference to the vendible goods and services we speak of prices or of money prices. In reference to money we speak of its purchasing power with regard to various vendible goods.
There exists a demand for media of exchange because people want to keep a store of them. Every member of a market society wants to have a definite amount of money in his pocket or box, a cash holding or cash balance of a definite height. Sometimes he wants to keep a larger cash holding, sometimes a smaller; in exceptional cases he may even renounce any cash holding. At any rate, the immense majority of people aim not only to own various vendible goods; they want no less to hold money. Their cash holding is not merely a residuum, an unspent margin of their wealth. It is not an unintentional remainder left over after all intentional acts of buying and selling have been consummated. Its amount is determined by a deliberate demand for cash. And as with all other goods it is the changes in the relation between demand for and supply of money that bring about changes in the exchange ratio between money and the vendible goods.
Every piece of money is owned by one of the members of the market economy. The transfer of money from the control of one actor into that of another is temporally immediate and continuous. There is no fraction of time in between in which the money is not a part of an individual’s or a firm’s cash holding, but just in “circulation.” 4 It is unsound to distinguish between circulating and idle money. It is no less faulty to distinguish between circulating money and hoarded money. What is called hoarding is a height of cash holding which—according to the personal opinion of an observer— exce
eds what is deemed normal and adequate. However, hoarding is cash holding. Hoarded money is still money and it serves in the hoards the same purposes which it serves in cash holdings called normal. He who hoards money believes that some special conditions make it expedient to accumulate a cash holding which exceeds the amount he himself would keep under different conditions, or other people keep, or an economist censuring his action considers appropriate. That he acts in this way influences the configuration of the demand for money in the same way in which every “normal” demand influences it.
Many economists avoid applying the terms demand and supply in the sense of demand for and supply of money for cash holding because they fear a confusion with the current terminology as used by the bankers. It is, in fact, customary to call demand for money the demand for short-term loans and supply of money the supply of such loans. Accordingly one calls the market for short-term loans the money market. One says money is scarce if there prevails a tendency toward a rise in the rate of interest for short-term loans, and one says money is plentiful if the rate of interest for such loans is decreasing. These modes of speech are so firmly entrenched that it is out of the question to venture to discard them. But they have favored the spread of fateful errors. They made people confound the notions of money and of capital and believe that increasing the quantity of money could lower the rate of interest lastingly. But it is precisely the crassness of these errors which makes it unlikely that the terminology suggested could create any misunderstanding. It is hard to assume that economists could err with regard to such fundamental issues.
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