A Contribution To The Critique of Political Economy, Chapter 2.C Theories of The Medium of Circulation and of Money - Part 5 of 20

One obvious flaw in Hume's method was that he only examined periods in which there were revolutionary changes in the value of gold and silver, and, consequently, the measure of value. The result of this can be seen in the fact that there is only an increase in the prices of those exported commodities, exchanged for gold and silver with countries producing them.

“The price of those commodities, which are measured in gold and silver of reduced value, thus rises in relation to all other commodities whose exchange-value continues to be measured in gold and silver in accordance with the scale of their former costs of production. Such a dual evaluation of exchange-values of commodities in a given country can of course occur only temporarily; gold and silver prices must be adjusted to correspond with the exchange-values themselves, so that finally the exchange-values of all commodities are assessed in accordance with the new value of monetary material.” (p 161)

These changes in prices, according to the new standard of prices takes time to work their way through the economy, Marx says. According to Friedman, it takes around two years for changes in currency supply to work its way through into changes in prices, and, as Marx says, such changes are obscured by fluctuations in market prices, as by changes in commodity values themselves.  This same process in relation to prices measured in gold from gold exporting countries, applies to paper money tokens and credit too.  Those closest to the source of the increased currency supply are able to exchange it, initially, on the basis of its old value, but as its spreads into general circulation, so this adjustment of all prices unfolds.

Moreover, in considering changes in the supply of money, i.e. gold and silver, it is necessary to consider its value. The cause of higher prices is not an increased supply of gold, but a reduced value of gold. A reduced value of gold is manifest in a greater supply, i.e. for the same expenditure of labour, a greater quantity is produced, but a greater supply, of itself, does not imply a lower value, it may simply be a consequence of employing more labour.

“Because a change in the value of the standard of value, i.e. in the precious metals which function as money of account, causes a rise or fall in commodity-prices, and hence, provided the velocity of money remains unchanged, an increase or decrease in the volume of money in circulation, Hume infers that increases or decreases of commodity-prices are determined by the quantity of money in circulation.” (p 163)

For Hume, money and money tokens are the same, as he regards both as coin. He forgets, therefore, that money, as measure of value, need not be physically present to perform its function, and that large amounts of money is in the form of hoards, rather than in circulation. This leads him to the conclusion that commodity prices are a function of the quantity of gold and silver in a country. In short, this conclusion can be seen as flowing from his polemic against the Mercantilists, but this strange notion was also taken up by Ricardo in his monetary theories, and formed the basis of the 1844 Bank Act.

In fact, its impossible for all the gold in a country to take part in circulation. If the total value of commodities to be circulated is 1 million hours of labour, and the value of a gram of gold is 100 hours labour, the money equivalent of commodities is 10,000 grams of gold. If a gram of old, as currency, has a velocity of circulation of 10, then only 1,000 grams of gold can take part in circulation, irrespective of how much gold, in total, is in the country. The theories, therefore, like that behind the Bank Act, which sought to tie the currency issue to changes in the movement of gold, into and out of the country, were inherently irrational.

When, in 1847, there were crop failures, the value of agricultural commodities rose sharply. Britain imported food from the continent, and paid for it in gold. The higher total value of commodities being circulated, meant its money equivalent rose too, and required an increase in currency circulation, but, on the back of the outflow of gold, the Bank of England was forced, by the Bank Act, to reduce the currency supply. The consequence was that cash was in short supply, causing firms to hoard it, and demand payment in cash rather than extending commercial credit. A credit crunch resulted, which pushed interest rates up, which, in the middle of a stock market bubble, then led to a financial market crash. Yet, at the time, the British and global economy was in the early stage of a long wave boom that began in 1843. As Marx says, bank legislation cannot prevent crises, but it can certainly cause them. The evidence of that is that as soon as the Bank Act was suspended, the credit crunch ceased, and the economy continued to boom.

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