Observe well these rules: It is a very common mistake to say that money is a commodity…Bullion is valued by its weight…money is valued by its stamp.
– John Locke, An Essay on Money & Bullion, 17181
Commodity money is defined by the physical nature of the token. The physical token is only one aspect, sometimes minor, of a money system, so this is a bit like classifying quilts by the binding, or cars by their tires – not particularly useful. But, because the nature of the token is of overriding concern to many authorities, let’s review the concept of commodity money.
People have used an astounding list of commodities for money – seashells, tobacco, salt, spices, grains, precious metals. However, gold and silver are what most people think of when they think commodity money. For simplicity, I’ll use gold as my example. The principles that apply to gold commodity money, apply to all commodity money.
Commodity money refers to a money system in which the token is a commodity with a value of its own in the marketplace. This is its physical and conceptual defining characteristic, and this simplicity may be part of its appeal. However, commodity money is not pure and simple money; a commodity money does double duty. It has a value as a currency and a value in the commodity market. This has advantages for some people and disadvantages for others.
This double duty adds a gaming layer to the marketplace. A marketplace decision is not only about the producer and the consumer; it is about who can juggle the changing value of the money to their advantage. Commodity money gives advantage and privilege to some and distorts the marketplace. Potential power and glory in gaming the market may be part of its appeal.
There have been no 100% commodity money systems in widespread primary use for at least 700 years – if ever. If primary use by everyone in a society means for all their buying and selling exchanges, then a 100% commodity money system has rarely existed.
It is most likely when gold coins were in service, they functioned as cash does today – for everyday expenditures, as a measure of value on accounts, and for settling accounts by paying the difference of positive and negative transfers. Money in use, reflected by the give and take on account, was probably much more than the quantity of cash coins. The cash coins served as a standard measure of value though, even when not in use.
Historically, the premium metal moneys – gold and silver – have primarily been a medium of exchange amongst the wealthy who used them to settle accounts they kept with purveyors of goods and services or to make significant purchases. Ordinary people generally used lesser metals, primarily of value by fiat of the ruler, or maintained accounts of trade that may have been settled with a cash payment or with a payment in kind.
Money and not money
Once long, long ago, gold only had value as a commodity used for jewelry and luxury goods. This value would have gone up and down with the supply and demand for gold in the marketplace – and goldsmiths probably paid for it with IOU chits for grains and cattle. Or, there was no marketplace for gold and it was entirely controlled by the rulers.
Once gold became a commodity chosen to be used as money, it now had two values: its value based on the supply and demand of the commodity, and the value based on the supply and demand for gold coin. Gold money had to serve two masters: the marketplace for gold, and the need for money itself. In the commodity marketplace, its value was determined by the available supply, the cost of production, and by how much was needed for industry, medicine, adornment, etc. However, the value of gold money also changed according to how much was available for use as money, and how much was needed — which can be manipulated by those who have great sums of it or those who own the mines.
Using gold as money has nearly vanished, though there is a movement to bring it back (Chapter 7.78). Gold coins are produced primarily as commemoratives by public and private entities, and used as a store of wealth. Commemorative coins today are like any asset in the market: the gold miners and the coin producers pay their expenses and mark up the coins to make a profit. And the speculators trade and trade again, running up the price. That becomes the market value of the coins. As such, they are the same as any tangible asset purchased as a means of storing value. One person might buy a quilt, another might buy a stash of gold coins or bullion, another might buy cases of Scotch or barrels of oil.
There are vast stores of gold bullion – mostly in national ownership and storage – considered part of the common wealth of assets that back up national currencies and that may be used to settle accounts as a transfer of wealth. None of these forms of stashed wealth are being used as money.
There have been systems that used receipts for gold or other commodities as money, but remember, using a receipt is different from using the commodity itself. As we have moved into a global web-entrenched economy, where transactions happen at the speed of light, it seems unlikely we will revert to carrying around pockets of any kind of coin – although the doomsayers think it will come in handy when we run ourselves over the cliff into dissolution and chaos. I read once though, you will have better fortune with a store of good whiskey or seeds than with gold. Remember the story of Midas – we can’t eat gold.
When gold is used, those who are the closest to its transformation into new money (mine owners, merchants and rulers), and those with great wealth have a decided advantage in manipulating an exchange to their benefit. Gold and other commodities cannot be a neutral medium of exchange. In a commodity money system, there is justification for the corrupted Golden Rule: he who has the gold rules.
A gold, 100% commodity money
Remember, if it is only individuals exchanging gold in some form, then it is not money: it is barter or indirect barter. Community-wide agreement to use gold as money, and transferable use would make gold a commodity money.
HOW IS COMMUNITY-WIDE AGREEMENT ACHIEVED?
Any kind of government, from dictator to democracy, can choose to use commodity money.
Throughout history many commodities have been used for money, from shells to tobacco and metals. Out of this wide variety of commodities, gold, silver and copper have been the commodities that have risen to the top of the useful and used list, and they have always had a strong commodity value in the marketplace. Coins are the preferred form of precious metal money tokens. Because metal coins are durable, whereas account ledgers are not, the abundance of coins has resulted in a lopsided view of their historical importance.
Curiously, the first metal coins were not valued as commodities in their own right; they were a more durable and convenient form of IOU or receipt for other consumable commodities, like cattle or grains.
Authentic & Trustworthy
Commodity money has two layers of authenticity and trustworthiness: as the coin of the realm and as a commodity.
As the coin of the realm or legal tender, the agreement to use a commodity across a wide community was guaranteed by whoever was in political power and issued the coins – individuals of great wealth and standing, merchants, banks, churches, temples, or governments. Coins often bore a stamp of the person guaranteeing their value. These coins could be used to pay tribute or taxes to the ruler or could be used to make purchases, their value guaranteed by the issuer of the coin.
A commodity token has a secondary guarantee of trustworthiness and continuing value – its commodity value in the marketplace. This backup value is one of its chief attractions. Some believe gold is the best or natural money, because it has this tangible commodity backup value.
A gold coin is valuable in the present in a tangible form: it represents equity. With a small investment in equipment anyone can determine the quality and weight of gold. Anyone can create a coin from gold, and with the weight of their reputation for trustworthiness, guarantee it is of a certified purity and weight. And, whatever the value as coin, in a pinch one could melt down the coin into bullion and sell it at market value for the metal. My ancestor, John Higley of Granby Connecticut, owned a copper mine and issued his own coins for spending in his community (1737–1739). Higley Coppers, as the coins are called, are rare today and a collector’s item. They varied considerably in mass, from 122 to 170 grains of copper, probably not an uncommon characteristic of privately struck coinage.2
Measure of Value
When gold and precious metal commodity money systems were in use, they played an important role in developing money as a measure of value in the marketplace.
For millennia, gold was a standard measure of value against which the value of money was set. This provided a basis for exchanges of international currencies. This did not necessarily mean the money itself was commodity money.
Most of us have weaned ourselves from using gold as a comparable measure; it is not something we buy and sell enough for it to have a value as such. But, in the early development of money systems, gold played an important role as a yardstick for establishing a measure of value.
AN ELASTIC MEASURE
Gold and silver are elements of limited availability with multiple uses in the marketplace. This means the value grows as the supply dwindles in proportion to the demand. Current estimates are that from the beginning of history we have extracted about 170,000 tons of gold, and there are perhaps another 50,000 tons still to be mined. It is hard to really know, but we know there is a limit to the supply and we know demand is growing.3
This means a golden measuring stick will shrink – a smaller and smaller bit of gold will have greater and greater value. A gold money system is intrinsically an elastic value system that steadily increases the value of the coin, or shrinks the amount of gold in it.
A gold money supply is vulnerable to market supply and demand, which makes its value go up and down for non-monetary reasons. During certain periods of conquest and exploitation, the supply of gold increased dramatically, significantly altering the available money supply and the value of money – and consequently, all activity in national and global economies. At other times, people of great wealth hoarded gold, or sent it off as bullion to a place where it had a higher market value.
These changes in supply altered gold’s value as money and destabilized economies. During periods when gold coins were in use, central powers tried to control the mining and supply of gold to keep the supply and value stable. Governments sought to lessen the impact of hoarding or melting coins into bullion by setting a legal value for the coinage slightly higher than the commodity value.
However, the historical evidence says these government imposed remedies haven’t worked very well; whatever the controls, they could be gamed to the advantage of the wealthy few.
Store of Wealth
Increasing value, easy portability, and ready convertibility to currency or goods, are great attributes of an asset that can be stored over time or distance. These same attributes make gold an excellent and appreciating store of wealth, which is one of the functions of money. Those who can afford to store gold will have the advantage of a long- term guaranteed increase in value for their gold holdings. As a high value asset, gold bullion has been used to settle international trade imbalances and to provide a readily convertible guarantee for the trustworthiness of a sovereign currency.
When we compare the increasing value of 100% gold money to a money system that deliberately decreases the value of its currency, gold money looks like a superior system. Just keep in mind storing value is only one of the functions of money – and not its most important function. Real assets can store value just as well, leaving money available for exchanges. What is good about an asset held for long term wealth storage or for speculation is not necessarily the best choice for a medium of exchange.
Creation & Destruction
Gold money gives this power of creation to those who own or control the mines and those with stores of gold. Making gold coins requires production costs, so those who create and issue the coins take the seignorage – the difference between the cost of production and the value of the coins. To reduce the power of mine owners and those with great wealth over the supply of money when gold is used as part of a money system, governments have often restricted the ownership of mines, or constrained the ownership of gold in some way. However, new gold supplies are dwarfed by existing supplies, which mostly rest in the hands of world powers and the wealthy few.
Historically, nearly all new gold came into being through conquest, genocide, and the power of great wealth and armies. A tantalizing smattering of individuals striking it rich by panning or mining for gold adds a false luster to the historical realities. If we switched to a 100% gold money system, these wealthy individuals and governments that own the mines, and own the world’s stocks of gold bullion, would control the supply available for currency, hence the value of the coins, and consequently the cost of everything in the marketplace.
WHO DESTROYS MONEY OR REMOVES IT FROM CIRCULATION AND HOW IS THAT DONE?
Gold coins can be removed by melting them into bullion and using it for one of gold’s many commercial or industrial purposes. It can be hoarded by those with great wealth, removing it from the circulating supply.
Demonstrating the difficulty of a commodity based money, Colonial Virginia and Maryland made tobacco a legal tender in 1633. But in 1639 there was a bumper crop and the colonial assemblies ordered half of the crop to be burned – a good example of how a money’s commodity basis can interfere with its function as money.4
Ultimately, who rules?
Wealth and power rule. Historically, the broader market value of gold (and all commodity monies) has been established, manipulated and exploited by those who have the greatest wealth, which gives them the power to rule.
Commodity money is not a neutral medium of exchange. There cannot be a free market when a small, privileged group can control the value of the medium of exchange, taking what profits they deem reasonable, and controlling the supply.
In practice, this double duty as commodity and as money makes it first-rate money if you believe people with power and wealth should have privileges and advantages others do not have. It is second- rate money if you believe a level (equal opportunity) playing field promotes the best play.