“Velocity of Money” and “the 1%”

So there was this on the Book of Faces:

Oh, Lordy. Where to begin? Idiots R Us.

First, the “economic value” was not produced by the money. The money was just a piece of paper with printing on it. It’s only value is as a medium of exchange. It’s the folk producing the goods and services for which the money is exchanged that produce economic value. (Economists call the sum total of goods and services produced in a society the economic output of that society–not the money, but the goods and services.) The first person traded skills and labor for that $10. The skills and labor were the economic value, not the $10. The $10 was just a “scorekeeping” method to assign a value to the skills and labor provided. He then used that $10 to buy lunch. The production of that lunch was the economic value, not the $10 used to buy it. It’s just a scorekeeping instead. The taxi ride, saving the lunch vendor the time and effort of walking home (and thus freeing up time and effort for other things, which could range from playing with his cat when he gets home to preparing for the next day’s lunch sales to working later to make more sales before having to head for home) was the economic value, not the $10 used to pay the taxi. Scorekeeping again. The babysitter, watching the children so that the taxi driver can actually be out hustling fares is the economic value there, not the $10. (Once again, it’s simply scorekeeping.) And providing the groceries the babysitter buys are the economic value there, not the $10 used to buy them.

That $10 is of no value itself. It’s simply a way to keep track of how much of the economic value each individual is exchanging for something else of economic value to them. The common medium of exchange makes those transactions easier–and that has a value–but it’s the transactions, the goods and services exchanged, that provide the real economic value, not the particular piece of paper or plastic that facilitates those exchanges.

Okay, next that “hoarding” thing. What? Do you think that Bill Gates (Net worth right around $128 billion) has an Olympic sized swimming pool filled with Hundred dollar bills? Because, economically speaking, that’s what “hording” would mean.

This would be the “Scrooge McDuck” school of economics. (Actually not: The Disney comic is more economically literate than this concept.)

The reality, though, is that Gates has no such pool (nor does Bezos, nor Musk, or Trump, nor any rich “one percenter”). Instead what they have is the value of various businesses and investments that they own. Their wealth is in terms of ownership of businesses that employ people, that provide goods and services, and, thus, are part of that “Velocity of money”.

Oh, sure, some of that wealth (although a smaller fraction than you might recognize) in also in “stuff” they own: that vacation home that people were paid to build, that other people are paid to maintain, on lawns that people are paid to take care of, using utilities that people are paid to provide and so on. And those people invest that money or spend it on other things, so again, continue the “velocity of money” described in the graphic.

You see, in that “someone spends $10” thing, the person who spent the $10, now has $10 worth of “stuff” that he bought with that $10. The principle doesn’t change if it’s a $10 package of socks or a $10 million private jet.
“But what about those cash reserves they keep?” You might ask. Well, where do they keep that cash reserve? Do they keep it in a bank? What do you think happens to money in a bank? Keeping that money, providing facilities for customers to use and security to keep folk from just walking off with the money is not free. Where do you think that comes from? And since banks don’t provide that out of the goodness of their hearts, they’ve got to be making their own money somehow. So how do they do so?

I won’t keep you in suspense. They make their money by loaning out a significant portion of the money deposited within them at interest. The interest on those loans is how they make their profit. They want to loan money. The more money they loan–provided they can charge an interest rate that covers both their own costs, the risk of defaults, and the difference between future value and present value–the more money they make. Billionaire drops a hundred thousand into an account? That’s something like $90 thousand available to loan to others (they have to keep a fraction as a reserve to be able to cover withdrawals). That’s money back in circulation, part of that “velocity of money.”

So, no, the buck doesn’t “stop with the 1%”. That’s nonsense invented by people like Michael Moore who actually know better (because they are among the “1%” and know what they do with their money). They just sell the idea to folk who do not understand economics for their own purposes–and their purposes aren’t about making your life better.

But, suppose Bill Gates lost his mind and decided to liquidate all his holdings and fill up that swimming pool with cash ($50 bills, instead of $100’s because if he doesn’t lose at least half the value in a quick liquidation, it will be most surprising) that would make the rest of us poorer right? Hording all that cash that way?

Wrong.

You see, that’s where supply and demand and competition come into play. People are out there providing goods and services. They are competing for your dollars (and my dollars and everyone else’s dollars). If Bill Gates takes his billions out of circulation that means there’s less money out there. Those goods and services are competing over fewer dollars. The result is that the price of goods and services has to come down.

Now, there’ll be some disruption because some will come down more than others, some faster than others. Some folk will not recognize the changed economic situation and try to keep their prices at the “pre-Gates-Decided-to-Hoard-Cash” level and so their goods and services will not sell because the money is being used to buy other things. But the end result is that the prices of things come down to match the reduced money supply. Even the ones who try to maintain pre-Gates-Decided-to-Hoard-Cash prices can’t do that forever. Not making sales means their own income is down and they end up eventually going out of business and their goods sold at auction.

The end result is that the money that people retain becomes more valuable in terms of the goods and services it will buy.

This, BTW, is why complaints about foreign businesses and governments “taking money out of circulation in the US” is not the problem people think it is: it simply means that the money remaining in circulation is more valuable in the local economy.

Now, this kind of deflation has its own problems, and I talk about that elsewhere, but it’s not the kind of problems being presumed by the economic illiterates in that graphic.

But it’s so much easier for entirely too many to mindlessly follow the Gospel of Marx which can be summed up as “hate the one who has more than you do.”

2 thoughts on ““Velocity of Money” and “the 1%””

  1. Good very few people mention hoarding money, and Effects on money supply. My classic example is gold rush towns, and how costs rose with the money/gold supply. Lots of gold meant a single egg would cost 1 to even 5 dollars in the mid 1800’s. Which would be the equivalent of several thousand today. Lots of gold chasing very few eggs.

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