Confusion between Money and Credit

One of the more serious problems that current economic theories have is the inability to clearly differentiate between currency, money and credit. Most theories claim that Money is the general accepted means of exchange, and in plain language it seems just a semantic issue. We usually exchange the words currency and money the same way we use to ask “How much do you weight?” instead of “What is your mass?”. And that’s more than ok for day to day unformal communication.

However, if we want to be scientifically rigorous, physics provides us with the appropriate concepts and one thing is mass, and another very different thing is weight. Without this differentiation, launching a satellite would be a bad nightmare, probably impossible.

Akin to what will happen if we fuse the concepts mass and weight in physics, fusing the concepts money and credit in scientific economics is an extremely grave error.

In order to have a sound theoric framework, no matter if it is natural or social sciences, we need to properly categorize the concepts we use. It is not just about their names but about the relationships amongst concepts so they are useful to clearly explain the reality wihtout ambiguity. In my opinion, the most rigorous contributions in this respect are those from Carl Menger on his Principles of Economics and Carlos Bondone in his book Currency Theory.

Fully based on Menger, Bondone proposes the definition of currency as the most liquid means of indirect exchange. Then, he restricts the concept of Money to present economic goods used as currency. It is reasonable to choose the word Money for this restriction because the first currency mankind used was based on present economic goods like salt, cattle, beads, silver or gold.

Given that credit is a right to receive present goods at some point in the future. If it is specified the quality, quantity and due date of the good to be received, we will call it regular credit. If one of those requisites is not specified, then we will call it irregular credit.

To finalize this simple but powerful taxonomy, any currency that is not Money (i.e. a present good), it can only be credit. Let´s summarize this structure:

Currency: Generally accepted means of exchange. Currency types:

  • Money: Present economic good used as currency.
  • Credit: If the currency is not money, it can only be credit. Which it could be regular (redeemable gold bills) or irregular (today’s fiat currencies).

Using credit as currency was a great advance, similar to the transition from barter to money. However, while regular credit is not problematic, irregular credit is really problematic, specially when added up with the confusion between money and credit by which irregular credit is assigned the category of money.

Considering that in order to grant credit it is always necessary a present good to lend out, and at the same time we assign Euros the category of present good when Euros are not present goods but credit (a liability from the banking system), then we concede that is is scientifically possible the instantaneous and infinite creation of present goods!! That would be like conceding that it is the same to build a skyscrapper on soil than to build it on top of the 98th floor of another skyscrapper just because we might use soil and the 98th floor for similar purposes (walking on it, etc). Is it acceptable that because they have similar uses we can claim that they share the same scientific nature?

If we conceed that is scientifically correct to claim that soil and floor are equally suitable to build a skyscraper, it would be extremely hard to rebut that a building can have infinite floors, despite our common sense telling us that is clearly impossible. Credit (building) can only arise from Money (soil), but if we concede that “credit=money”, then we concede that is possible to generate credit on top of credit until infinite, and then we are compelled to assemble a thousand of convoluted arguments on why that’s not possible nor desirable.

At the end of the day, anyone missusing the concept of Money by for example claiming “banks print Money out of thin air!” will be ignored, specially if the one making such claim defends a theory that states that such a thing is possible. The reality is that anyone claiming that, is correctly perceiving something is very wrong, but he is incorrectly raising the issue.