The Austrian School – What is money actually?

Human interaction and forms of commerce

Fundamental understanding of “money”, why it exists, which properties it usually possesses and what it enables society, helps us a simple thought experiment:

Direct economy exchange

Imagine Crusoe and Freitag are isolated on an island. Crusoe catches fish and Freitag collects berries. At the end of the day they exchange with each other. No money is needed here; Crusoe gives fish, Freitag gives berries – the exchange ratio (the price) is established by bilateral negotiation. The (subjective) value is invisible. Obviously, both of them experience a subjective gain because they are acting voluntarily . If one of them appreciates his own good more valuable, no exchange is taking place. Crusoe and Freitag exchange their goods directly against each other; it is therefore a direct barter economy .

The problem of direct economy exchange

Society is becoming more complex now: Jones, who produces bicycles, is added. Immediately present two complications of the direct exchange economy . First, Jones can not share his bikes , so if he wants to buy just one fish, he would have to give up a whole bike for it. Second, Jones relies on Crusoe accidentally wanting a bike to get at fish. In the abstract, the direct exchange economy suffers from indivisible goods and a lack of coincidentally compatible needs . It becomes clear that a complex, civilized society can not be based on direct bartering.

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Indirect economy exchange

But the dilemma is not hopeless: a medium for exchange makes indirect bartering possible . Instead of trading the fish for berries, Crusoe sells his fish for the medium and then sells the berry. With this extra step, with the medium for exchange, “the money” was born. So money is the lubricating oil for an economy. It allows everyone to trade with everyone. The medium fulfills an important role in the economy and therefore generates its own demand. The more established a medium is in an economy, the more marketable it becomes and the more marketable the money is, the more established it becomes .

Money is a good . Historically, various goods have served as money: tobacco, sugar, salt, tea, shells, grain, silver, and gold. Above all, gold and silver were used by the market as a medium over the centuries. Gold is very suitable as a medium. In contrast to bicycles, it is  easy to divide, rarely, does not spoil and is relatively easy to transport . The value of a money is determined by the absolute money supply and the absolute demand of buyers and hodlers .

Benefits of money

Money is a blessing for our society. Without money there would be no division of labor, no specialization and no social progress . Jones can now sell his bikes for money and buy berries with this money. Money is divisible and generally accepted. All goods have an exchange ratio in money and can be compared with each other. Money enables prices and economic calculation . The entrepreneur can now create a profit and loss account and better use resources to meet the needs of consumers. In addition to its fundamental function as a medium for exchange, money also serves as money invoice unit and value measurement . Since money is generally accepted and can be stored or be spent in the future, it also serves as a store of value . Money is  primarily  a medium of exchange and functions as a unit of account. Measure of value and value memory is  consequence of the medium.

Conclusion

Money is a good in the economy, which is used as a medium for the indirect action of goods. Important properties are durability, divisibility and rarity. Money allows division of labor, specialization, a higher standard of living, economic planning, measure of comparing goods and a store of value. It is responsible for our world today and it is indispensable.

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