Wealth and money have a bearing on practically everything we do. They are constantly on our minds; they are the source of many if not most of our worries, and feature heavily in our hopes for our own and our families' futures.
Although their importance to all of us cannot be overstated they embody many aspects that remain shrouded in mystery. What are they? What is the relationship between them? Where do they come from? These questions have absorbed many minds and many answers have been offered, but there is no universal agreement. A particular difficulty is that they are at the same time both concrete and abstract. In our day-to-day lives we deal with tangible and manageable elements, yet these represent very limited aspects of the wider concepts that wealth and money embody.
Given this background and in order to provide a basis on which to build an understanding I set out here my very much preferred definitions. They are presented early in the discussion so they are clear from the outset, because the rest of the book is built on them. I arrived at them only after a long and difficult struggle to understand how the economic system works, and I believe that these definitions allow a clarity that is not available with other definitions. In particular:
Wealth and money are fundamentally different.
Most definitions of wealth include money because money and wealth are interchangeable at the level of the individual - individual people, households and businesses. Although money and wealth are fundamentally different there is no harm in regarding them as the same for individuals, where adding money to owned wealth gives a measure of total worth, but there is great harm in regarding them as the same for a whole economy, where money can be created at will and doesn't add to the worth of a country. Thinking that money is wealth at the national level leads us badly astray in economics, and therefore in politics, and therefore in how people are treated. In my attempts to understand why things are the way they are I have found that including money with wealth at the national level causes nothing but confusion, confusion that is compounded further by taking the next logical step of believing that what is good for the individual is good for the economy - a very dangerous error that leads to tragic misjudgements. Separating wealth and money has helped me considerably in making sense of the economic world. It is my belief that a great many misunderstandings and misleading conclusions arise from regarding money as wealth.
This is how wealth is defined throughout this book:
Wealth is that which has inherent value and can be traded, and generally takes time and effort to produce or to make available. It consists of goods and services.
Wealth is created, consumed (used up or degraded over a period of time), lent, borrowed, given and exchanged either for money or for other forms of wealth. Goods are generally physical, tangible things whereas services are generally intangible things. Some forms of wealth such as food are generally consumed quickly, whereas others such as buildings are consumed over many years.
Now let's consider money. Historically money used to take the form of coins made from precious metals, where their value was taken to be the value of the metal they contained. That form of money is no longer used. Modern money does not consist of anything precious; it has value only because notes and coins are guaranteed by the state and bank money is guaranteed by banks. In this book, unless otherwise stated, 'money' relates to modern, non-precious forms of money, because precious forms of money have different characteristics.
This is how money is defined throughout this book:
Money has practically no inherent value, consisting simply of tokens that take almost no time or effort to produce. It represents entitlement to wealth and its purpose is to be exchanged for wealth. Money is NOT wealth.
Money is created, destroyed (money isn't consumed although it often seems that way), lent, borrowed, given, exchanged for wealth, exchanged for other forms of money (foreign exchange) to allow access to wealth that can't be obtained directly, or exchanged for contracts that give rights or obligations to specific forms of wealth or money or to carry out other specified activities. Money facilitates trade and provides a store of value - it allows postponement of the exchange. It is essential to the smooth running of all but very simple economies.
Wealth is valuable for what it is; money is valuable for what it represents.
I doubt that the money definition and the above statement will come as a surprise to most people, but please bear with me. The difference between entitlement to wealth and wealth itself is a subtle one, and when overlooked it leads to many misunderstandings and to misdirected economic policy, as will be seen.
An example illustrates one form of confusion. We focus our efforts on activities that 'make money' because we all need money in order to buy the wealth that keeps us alive and comfortable. But there are many ways of making money without creating wealth, yet all activities, whether they create wealth or not, use up wealth in the form of resources, usually human labour. Although the accounts of a business might show that money received is more than money spent, and if it is the business is considered to be successful, they don't show that wealth created is more than wealth consumed, and that is a very important but overlooked factor. Any money-making activity that uses more wealth than it creates is wasteful, and there are many such activities; for example those devoted to exploitation (see part 2), to extracting payments from the public purse (see chapters 29, 91 and 92), and to avoiding tax or payments due to others. This is a significant element in the problem alluded to in the Introduction where more and more resources are devoted to private gain, because private investors are only interested in things that make money, regardless of whether or not they create wealth, which leaves fewer and fewer resources available for social benefit. Governments, with unwavering belief in the trickle-down deception (see chapter 20), encourage this process by creating a 'business friendly' environment that allows private interests to keep an increasing share of national wealth.
The things that really matter are forms of wealth, the means for creating wealth which I shall refer to as wealth-creating capacity, and the resources that are required. Yet all we focus on is money.
As well as money there are other forms of entitlement to both wealth and money known collectively as financial assets, which are legally binding contracts that set out ownership and obligation terms and conditions. A financial asset based on money (another person's debt obligation of some sort) gives an entitlement to an entitlement to wealth - finance becomes very complex very quickly! Contracts are discussed later in this chapter.
I hope that the above definitions and clarifications make the difference between wealth and money evident, and it is important for subsequent discussion that they are evident. In the hope of making it still clearer let me draw an analogy: money is to wealth as a railway ticket is to a train journey. No-one confuses a ticket with a journey; the differences are too obvious to warrant any debate. Yet everyone confuses money with wealth, the differences are too subtle to notice. But just as the ticket has no value without taking the journey either now or in the future, money has no value without exchange for wealth either now or in the future.
In stark contrast to wealth, money, at least in its modern form, takes almost no time or effort to produce - a lot less time and effort than it would take to harvest if it grew on trees, however abundantly. Most banking and financial trading services are concerned with the creation, manipulation, allocation and distribution of money and associated financial assets. Practitioners claim that their businesses create wealth, but a much greater proportion of what they create is money and tradable assets, by which means they become entitled to wealth created by others. Keeping the concepts of wealth and money separate helps to clarify how these things happen. These matters will be explored in some detail in Part 2.
People and governments either forget or overlook the fact that money is merely symbolic; treating it as though it had real substance in its own right. People can be forgiven because for them it behaves as though it does have substance; the statement 'we can't do such and such because we don't have the money' makes perfect sense, but that statement by a government in control of its own economy (having an independent currency guaranteed by the state) makes no sense at all, yet we hear it all the time. The correct question is 'do we have the resources - raw materials, manpower, technology and skills?' Those are rarely in short supply but nevertheless that question is hardly ever asked. It will hopefully become clear later why this is a much more important question - see chapter 10.
Money has some truly wonderful qualities. It allows wealth (e.g. labour) to be sold to one person at one time and other wealth (e.g. food) to be bought from a different person at a different time. It allows painting and decorating services to be exchanged for a holiday, legal advice to be exchanged for a suit, and journalism to be exchanged for street lighting. More than that it allows exact monetary value exchanges - money provides a means of measuring value. Provided that we know what we are buying and selling and both sides are free from exploitation (these factors are of vital importance as will be seen later), we receive the same monetary value for what we buy as for what we sell. In short money makes modern civilised life possible.
At the same time it also has some dangerous and unexpected qualities. It is unfortunately able to act as a store of value, and people store it because it is much more convenient than storing wealth, but for the economy as a whole it can be disastrous. The attraction of money as a store of value comes from its value being guaranteed, either by the state or a bank, but these guarantees depend on the continuing prosperity of the country or the bank, which depend in turn on money continuing to circulate. Storing it prevents circulation and thereby damages prosperity - see chapters 13 and 15. Money and other entitlements to wealth are also easily manipulated and their values exaggerated by people who give the impression (and often sincerely believe) that they are creating wealth by selling valuable services when in reality they are extracting wealth from others - see Part 2.
In a complex economy there are vast numbers of things of all kinds available for sale. Investments in particular contain some very exotic creations claiming to benefit the buyer in a wide variety of ways, but everything that is for sale is wealth itself or entitlement - in one form or another and often conditional - to wealth.
Nothing highlights the confusion between money and wealth better than the fact that the UK has allowed its manufacturing (wealth creation[37]) industries to decline in favour of its banking (money creation and allocation) and financial trading (asset creation, sale and transfer) sectors.[38]
How can creating tokens and trading entitlements possibly result in more overall wealth than creating wealth itself?
Clearly it can't, but it can be made to appear so if we measure wealth creation by double counting the initial creation of wealth and the subsequent transfer of entitlement to it to bankers and financial traders - see chapter 27. As Michael Meacher observed:
The deliberate abandonment of industrial strategy during the neoliberal era on the grounds that the market automatically knows best must rank as the biggest economic blunder in post-war history. (Meacher 2013 p180)
With respect to manufacturing Britain compares very badly with Germany, which has maintained and developed its manufacturing sector. Peter Hain sets out the case very clearly:
Manufacturing accounts for 21 per cent of German GDP but only 11 per cent of the UK's. Germany is the world's third biggest exporter after China and the US, selling three times as much abroad as Britain, which comes tenth in the exporting league table. German industry benefits from a business-supportive banking system, whereas Britain has a business-averse banking system. Where Germany has vocational skills in abundance, Britain has a long-term deficiency. Germany has a government culture that believes in backing business, not a UK Treasury one of leaving business to survive or sink on its own. (Hain 2015 Chapter 11)
Contracts are legally binding agreements between one party and another. Their essential elements are 'agreement' and 'legally enforceable obligations'. There are many different types of contract but the type we are interested in - financial contracts - have some of the characteristics of wealth but they are not in themselves wealth as they don't consist of goods or services, though they often confer entitlements or impose obligations to give or receive wealth.
One side usually enjoys a privilege, and the other side usually suffers an obligation, the privilege normally being bought and the obligation sold. Each side refers to the other side as the counterparty. Counterparty risk is an important factor in finance, and is the risk that the side with the obligation will be unable to fulfil it. Consider a debt: if you lend me £1,000 then I am your counterparty, and the risk you take is that I shall be unable to repay it, that is the counterparty risk that you take. Counterparty risks that turn sour are at the heart of all banking crises.
Modern money is a form of financial contract. Physical money (notes and coins) represents a contract between the holder and the state, which makes it legal tender for the settlement of debts. Bank money represents a contract between the holder and the bank, which promises to redeem the value in cash either on demand or after a time delay depending on the type of account that it is held in, or to transfer the value to another person.
Types of financial contract other than money include financial assets - debts, company shares and derivatives[39]; tenancies; insurance; employment remuneration terms; and many other things. Contracts represent formal relationships between people and businesses in a society and are vitally important to a modern economy.