The Value of Money

0:00This is the fourth lecture of Mises on Money and Banking. For those who are getting this from a time capsule, this is February 22, 2012. And tonight we're talking about the value of money. And this is some really interesting stuff. And it's sort of funny going through this. I don't know about you guys, but I was a little bit hesitant or nervous about, you know, gee, should we teach a class on the theory of money and credit? And I was nervous, because for one thing, we thought we'd get 20 people to sign up for it, because it's kind of an intimidating book. But going through this, I mean, I'm really just thrilled that the Mises Institute issued the new version of it and commissioned me to do the study guide and all that, because This really is, there's a lot of stuff in here that you wouldn't get just reading Human Action or even Man Economy and State.

0:58And this chapter in particular really goes over some of the mechanics of it. Everything is consistent with what Mises later says in Human Action and what Rothbard says in his exposition in Man Economy and State. But there's a level of detail here that Mises gets into. and also the other thing is you'll see, if you haven't read this selection yet, going through it, you see, for one thing, just what a scholar Mises was, what a command of the literature he had, especially the German literature, which I daresay most of us aren't familiar with, and also he just cites a lot of people in particular, Friedrich von Miser, who I confess I have never read much of. I don't know that I've ever really read much from an original work of Wieser.

1:50I've read stuff by him that was quoted in another kind of like a history of economic thought, paper or book, quoting Wieser, talking about some controversy or something like that to give his perspective on it, but I certainly have not gotten hip deep in Wieser the way I've gotten hit deep into Boehm-Bawerk or Menger or Richard von Striegel or something. So this is, I think, interesting just to read Theory of Money and Credit because you are going to see a perspective on the early development of the Austrian School that you're going to miss if you just read the so-called modern classics, which I think is true of 99% of the people who are fans of the modern Austrian School right now. I don't think there's too many people who have really read the debates over the development of subjective value theory, the way Mises sort of is the referee and the reporter on those debates in these early chapters of this book.

2:45Okay, so now that I've given you a commercial for a class you already signed up for, let me go ahead and keep going. All right, so let me, having given that, oh you know what, there's a housekeeping announcement before I get lost and giddy talking about subjective value theory, let me just announce here, and I'll send an email too, you don't have to go write this down or anything, but just to give you a heads up, I'm going to be at a conference one week from today, so February 29th is when we normally would have lecture five, but I'm not going to have internet access at that time, so we're going to push it two days later. All right, so again, I'll send an email, but your lecture five is not going to be on February 29th. It's going to be on Friday, March 2nd.

3:31And I'll send the email last, but just want to give you a heads up on that. Okay, so now back to the fun stuff. So let me, Mises in this chapter, he gets into objective exchange value, subjective exchange value, objective use value, subjective use value. And he's relating that to, or he's placing the theory of the value of money within that broader framework. But the problem is, from our point of view, we don't even know that broader framework. Mises is acting like, yeah, everyone knows that. In other words, Mises is assuming the reader is well acquainted with what he's going to consider to be the modern theory of value, of Value, subjective marginal utility theory, as developed by Menger and elaborated upon by Bieser and Boehm-Bawerk, and then Mises' specific contribution is to just sort of refine the treatment of money within that framework.

4:29But the problem from our point of view is that stuff seems kind of quaint. So it's not that it's wrong. I think, like if you ask Guido Holzman or Joe Salerno, do Austrians still believe in that treatment, I don't think there's anything wrong with it. I think they might just say, well, we don't really feel the need to get into those fine details because you can handle everything just the way Rothbard does in Man Economy and State. So in Man Economy and State, there certainly was not an emphasis on those four different types of values, right, objective use values, subjective use values, and so forth. So I'm going to, in order for you to make sense of the theory of money and credit, I have to sort of pause and just give a big overview of that, of what Mises had in mind when he said subjective value theory.

5:19And what's interesting is even Mises writing, who knows when he was working on the drafts of this, but I mean the thing came out in 1912, even at that early date he says, I don't remember the exact quote, And he says something along the lines of, you know, nowadays we don't really argue about this stuff too much, but during the development of the theory of value, these were important issues. And so he's, so even Mises is sort of being old school back in 1912, which is kind of funny. So what's happening here, just to remind you, is in the early 1870s was the beginning of the so-called marginal revolution, which might more appropriately be called the subjectivist revolution.

6:05And so there was Menger, Jevons and, well, Ross writing their somewhat independent treatments, overturning the classical approach to the explanation of value. And so whenever there's a revolution like that, obviously it's not just on a dime, but all of a sudden every economist in December of 1870 thought one way. and then in January of 1871, oop, they all thought it differently, obviously that's not what happened. You could see all sorts of antecedents to what Menger and well Ross and Jevons did before their works and then afterwards there were people who still kind of thought the old way and you know, so all the point is that a lot of that stuff had to be fleshed out and I think where you can see it done the most is in this book I have on this slide right here Basic Principles of Economic Value by Boehm-Bawerk.

7:03So that is something that the Mises Institute within the last, I don't know, eight years put out. Hang on a second. I know I was a professor at Hillsdale when the Institute first reissued it because I remember Jeff Tucker wanted me to write a review for it for Mises.org and I said sure. So he sent it to me. So I'm just trying to think what year that would be. That would be like 2004, 2005. And so, and I get this thing, Basic Principles of Economic Value, and I thought I was just going to, you know, read that on the couch one day and just write up a quick review and knock it out of the park. And I started getting into it, and I realized von Boehm-Bawerk's talking about stuff in his book that I had never heard of. and because what he's doing there is he's trying to teach and refine this new-fangled subjective marginal utility theory in light of the classical tradition that it was overturning.

7:59So if you really are intrigued by subjective value theory and you really want to get hit deep in it and see someone just defend it from various attacks and so on, This book is probably more interesting to you than Man Economy and State or Human Action because in those books, the enemies that the Austrian authors in those classic works are taking on are not opponents of marginal utility theory, rather they're Marxists or they're historicists who don't believe in economic law, but if not people who subscribe, they're We're not attacking Ricardians, which is what Boehm-Bawerk is attacking with this book, or I should say, defending subjective marginal utility theory from a Ricardian assault.

8:50If you want to see that sort of exposition, and you just want to read one book, it would be this one, Basic Principles of Economic Value. This was in the study guide. If you read that, my study guide for theory of money and credit, this example I used. So, I'm just going to go through a pig versus a tomato seed, right? So those are different goods, a pig is a good and a tomato seed is a good, right? So let's, in terms of subjective value theory, the way Mises conceives of it when he's writing theory of money and credit, this is what I think he has in mind. So there's a four-fold classification. There's a distinction to be made between use value and exchange value, and also a distinction between the subjective versus the objective.

9:40So an easy one, let's start with the top right quadrant here. So objective use value, what does that mean? that is saying, what can you use these things for objectively, to put it bluntly? So the pig, what can you do with it? I mean, in principle, you can do all sorts of things. You could dress it up and have it be a star of a play. But in terms of what's relevant for the typical person's value scales, we'll assume it's because you can use the pig to make bacon. So there, I mean, there's quantitative things involved that the person has beliefs about, or expectations, if you will, about physically what can I do with this pig that's of interest to me given my preferences.

10:36And oh, since I like bacon, it's interesting to note that objectively this pig can be physically turned into this many pounds of bacon using these technological procedures. The seeds, a similar thing. What can you do with them? Well, in principle, you could use them as a paperweight, but that would be kind of stupid. Right? Really, for practical purposes, why is it relevant? Because, oh, if you plant seeds and water them and blah, blah, blah, they turn into ripe tomatoes. And that's of interest to me because tomatoes are good too. So, notice, and Mises talks about this explicitly in The Theory of Money and Credit, even when we're talking about objective things, you know, this right-hand column here, it still involves the person's mind.

11:24The Theory of Money and Credit

11:54The fact that I'm talking about pigs being turned into bacon already, I'm smuggling in subjective preferences, right? Because I'm assuming that what would possibly interest the regular person about that pig is the fact that it could be turned into bacon. So just make sure you're with me there, or some other food, you get the idea. But that right there, yes, that's an objective fact, but the reason we're focusing on that has to do with subjectivism. So that's one aspect of where even in this right-hand column that's supposed to be about objective things, it's still subjective. And then the other reason is what matters ultimately is what people believe these goods are objectively capable of doing for them.

12:44Okay, so, strictly speaking, let's say you had a pig that, I can't even, I can't think of something more plausible, but just something stupid. Let's say there's a pig that's real cunning and quick, and you're going to get the thing and take it home, and you go to slaughter it and turn it into bacon, and it outwits you and escapes. And still, for us as economists to explain your behavior or your action in the marketplace when you acquired that pig, the only way to make sense of it is to say, oh, for you it had an objective use value because you thought you were going to turn it into bacon physically. It turned out you were wrong. You misjudged that pig. You know, that was some pig, as Charlotte the Spider might say. But the point is to explain your behavior, your action in the marketplace to when you acquired that pig.

13:33The Economist, we have to say, well, it had an objective use value that he thought he could turn into bacon. So even there, it's really subjective. It's not really so much objectively what can it do. Rather, it's the actor who is appraising that commodity or that good, what does that person believe objectively it can do. It doesn't even matter if the belief is correct or not. OK, so anyway, but now with those caveats in mind, this top right quadrant here, objective use values, the pig can turn into bacon, the seeds can turn into tomatoes, and those relationships are true even if we're talking about vegetarians or meat lovers, right, that even a vegetarian would agree, oh yeah, the objective use value with that pig, what could I do, I could slaughter it and turn it into bacon, yeah, I could do that, and somebody, you know, the meat lover I think a lot of people who can't stand fruits and vegetables might be considering should I acquire those tomato seeds and he's going to say, well, what can I do with them?

14:37Could I use them to directly satisfy my hunger? Well, no, because eating seeds isn't really a good idea. I could plant them and they would turn into tomatoes, so that's something I could objectively do with them. You see what I'm saying? So that's why that's considered objective. Use value means what it sounds like. You're going to directly use it, either in consumption or for production. The point is you're using it directly. Now let's stick in this right hand column, the objective, but now objective exchange value. So here I'm saying for both people, the pig probably has, I'm sorry, So the pig has a higher, much higher objective exchange value than the seed and I'd say probably just meaning because technically we can imagine a society where for some reason the market value of a tomato seed is higher than the market value of a pig.

15:34But I'm just saying generally speaking for most the size we can imagine, chances are in the marketplace the exchange value of a pig is going to be much higher than a single tomato seed. And so the idea here is, so we're still objective though. So here, the vegetarian and the meat lover would agree in most societies that, oh yeah, a pig has a far higher value. They might say, oh yeah, the pig is far more valuable than the seed. And what they would mean is it has a much higher market value, meaning objectively, what can I turn it into if I use trade? OK, so do you see that distinction between use value and exchange value? With use value, you're saying in a sense, what can I turn this thing into through either consuming it or using it in production?

16:24So I'm turning it into either want satisfaction, if I'm consuming it, or I'm turning it into some other goods or services, if I'm using it in production. But that's an objective fact about the thing. We're not talking about how do you evaluate those things in terms of your value scale. We're just saying your understanding of how the world works. What can you use that for if you're going to use it yourself? Exchange value means what can you turn it into via exchange? So with all this stuff, you're ultimately taking something and transforming it into something else, or you're using it as a means to an end. But with use value, you use it directly. With exchange value, it's a means because you're trading in a way for something else.

17:14So that's the objective column. Now the subjective column. Let's start with use value. I think that's more intuitive. So here it just means, given what you think you can do with it yourself, how do you value that outcome? And so here's why I'm saying probably the vegetarians are going to, say, have a higher subjective use value for the tomato seeds than for a pig. Whereas for the meat lover, probably they'll have a higher subjective use value for the pig than for the tomato seed. And with all this stuff, I'm talking about normal ranges. I mean, obviously we can imagine a vegetarian who has 16 million tomato seeds and zero pigs.

18:00And maybe on the margin he would prefer, you know, if you gave him a choice and say, hey, do you want one more pig or one more tomato seed? He would say, I'll give me the pig and I'm going to keep it as a pet. I'm not going to eat this thing, that's gross, but I'll keep it as a pet. My toddler will play with the little cute pig. All right, so with all this stuff, you get what I mean. I'm talking about normal ranges and so forth. I'm just trying to motivate the discussion here. But the point is subjective use value is saying you're going to use it yourself. yourself. You can't trade it away. When I'm asking you to evaluate the marginal utility of this thing, don't think you have the option of trading it for something. I'm talking about you use it yourself, how do you feel about it? That's what subjective use value is. So in order to even think about what its subjective use value is, you have to first realize what

18:50its objective use value is. That's the only way to sensibly answer the question. You have So you have to know physically what can this thing do before you then evaluate how do I rank that outcome in light of my ordinal preference relations or rankings. See what I'm saying? So you have to know objectively what the thing can do before you then think about how do I rank that outcome in terms of my subjective preferences. And then the last thing is subjective exchange value, which might sound a little weird to you. What that means is, think about what you can physically exchange this for. So that's an objective fact of the world. The state of the market to you as an individual trader is basically a given.

19:40And then think about the various things you could go and exchange this for. Now, how highly do you rank the best thing according to your preferences that you could get for this? And then that's what its subjective exchange value is to you. And so I say again here, assuming that the pig has a much higher market value than the seeds, then for both the vegetarian and the meat lover, the pig is going to have a higher Subjective exchange value, because the meat lover might exchange the pig for a bunch of hamburgers, right, it's not that the pig physically turns into hamburgers, it's that he sells the pig either for money, if there's a money good in this commodity, in this acute economy, or he exchanges it for a medium of exchange, or he just exchanges it directly for hamburgers, whatever, but the point is he can exchange that pig for more hamburgers than he can get with the tomato seed, not because of their physical properties, but just because the

20:46pig has a higher market value, and that's why I have the probably in parentheses. So notice, incidentally, don't get confused, the three probabilities in this table are not being generated by the same uncertainty. The probably in the top left is coming from the fact that we can imagine a weird situation where even the meat lover might want a tomato seed instead of getting one more pig. If he's got a ton of pig and he's sick of bacon or something, you know, maybe he wants the tomato just to do a science project with his kid and say, watch it, I'm going to plant this tomato seed and watch it's going to grow, you know, put it in a glass and leave it in the kitchen. You can see the cross section of the roots and whatever, you know, and not because he's going to eat it, you're going to go, that's disgusting, I hate eating tomatoes. But still, you can imagine he might get a higher

21:37He might value more highly the use he personally gets out at tomato seed, even if he's a meat lover. So that's why I say probably there. But the probably on the bottom row here, in both the subjective and objective columns, is coming from the fact that I'm saying we could imagine a society where a pig has a lower market value than the seed. But I'm saying probably that's not the case. Alright, so just keep that in mind, that these three probabilities, the top probability is being driven by one consideration, the bottom two probabilities are being driven by the same consideration, namely that it's probably true the pig has a higher market value, but it's not necessarily true. Okay, but given that it's probably true the pig has a higher market value than the seed, Well, then that's why both the vegetarian and the meat lover presumably should have a higher subjective exchange value for one pig as opposed to one tomato seed, because they know whatever it is they want to do with it, or yeah, whatever value scales they have, they're going to be able to satisfy them better with the thing that has higher market value.

22:45and Value. So the meat lover, like I said, maybe he traded the pig away. So if there's money, it's real simple. The pig sells for more units of money than the seed does. So if the meat lover wants to buy burgers, and burgers cost a certain amount of money, well how does he get the most burgers? Well duh, he would rather have the pig to sell the pig to get more money to buy more burgers. And the same analysis is true for the vegetarian. the Vegetarian, even if the vegetarian wants to eat tomatoes, it doesn't follow that if you give him a choice between a pig and a single tomato seed, he would be stupid to pick the tomato seed. Rather, he would pick the pig, sell it for money, and then go into the marketplace and buy a lot more tomatoes than he can get from a single tomato seed, especially if we worry about the time factor.

23:39Alright, so that's sort of a silly example, but that's the way to think about this four-fold classification. And again, if you're interested in that kind of stuff and you want to see somebody spell it out, the single best place is this book by Boehm-Bawerk, Basic Principles of Economic Value, because we no longer dwell on that stuff. If you go to Mises University, I don't even know if they talk about that stuff. I certainly got this far in my life about ever having someone really teach that to me, so I'm just saying, chances are you haven't heard that before, and that's largely because, as even Mises mentions in 1912, people aren't stressing that as much because, there's a point, nobody's arguing about it anymore, everybody believes that by the time Mises writes The Theory of Money and Credit, that's not going to happen.

24:36and now the accepted theory of value, when it comes to barter at least, or I should say direct exchange to be more precise. So most economists are talking about Mises as just a matter of fact, we call that the modern theory of value. So that's why you don't need to go through that exposition anymore because everyone kind of accepts that. Okay, so now, given that framework, that four-fold classification scheme, and how we, let me just, I'm sort of backtracking again, but remember, what, even in, even without money, even if we're just talking about direct exchange, it's interesting, and what we have to do, and what Menger started and Boehm-Bawerk sort of perfected in the context of direct exchange, is how do you go from from subjective use values to building up an explanation for the determination of objective exchange values, because that's really what you're doing when you're giving a theory of market price formation.

25:42So I don't know if I've touted it explicitly in this class yet, but Danny Sanchez recently had a Mises.org article, a Mises Daily, called The Mystery of the Marginal Pairs. So I don't know if the people who are the TAs or maybe Danny himself is tuned in right now. If you want to post a link on that in the chat box, that would be appropriate. But anyway, Danny goes through and I think relying on an exposition from Boehm-Bawerk just talks about how you come up with, as an economist, how do you explain the equilibrium and Market Price in a barter situation or direct exchange situation. And so there, it's interesting because you have that interaction. You start out with the fundamental thing.

26:29What you come to the table with as the economist is everybody's subjective, ordinal preference for rankings. And then you can explain in various situations what the objective market price would be. So in the language of that fourfold scheme, people, you assume that people have ideas about objective use value from that they determine subjectively, each person in his own mind, its subjective use values for various units of various goods and then you as the economist can then explain, give me the combination of these people with their own subjective use values, you know, by unit.

27:14And then I can explain to you what the equilibrium objective exchange value is going to be. And there's an interesting feedback mechanism in there where the ultimate marginal utility you attribute to something could change. So let me just back up a slide here. So here, just keep in mind, the vegetarian has a very low subjective use value for the pig. But now, all of a sudden, when we open it up to trade, the pig's objective exchange value now trumps the subjective use value of the seed, and that's why the person now has a higher subjective exchange value attributed to the pig than to the seed.

28:02And so that's why if you offered, so ultimately with all this stuff, what matters is what's the marginal utility. And so that's why when you're trying to understand the person's actions in the marketplace, you need to know this stuff. So given that there's trade and given the respective equilibrium prices, even a vegetarian, if I'm trying to hire a vegetarian to come mow my lawn, The Theory of Money and Credit

28:58Subjective exchange value, but why? Oh, because people have subjective use values, but why? Oh, because people have objective use values. You see how I just had to walk that back through every single one of these categories? So, but the point is, there's nothing, what I just said was perfectly coherent, assuming I didn't get mixed up. I think I said that right. Hopefully you guys saw the pattern at least. The economist who's using subjective marginal utility theory can sort of unravel the different layers of the explanation. So, on the spot, why is it that that guy, you know, there's two employers. One said, hey, if you cut my lawn, I'll give you a pig. And the other employer said, hey, if you cut my lawn, I'll give you a single tomato seed.

29:46Why is it that the worker went to work for the first guy? And it's a perfectly true and accurate and useful statement to say, oh, because he valued on the margin one more pig more than he valued on the margin one more tomato seed. We could stop there. That would be fine. Okay, that's a good insight. But then you say, well, why? And you start pushing it, and the economist can go through and explain that stuff. But notice, ultimately, where do we stop? We stop with subjective use value. Well, we actually stop with objective use value in the sense that you need to know that in order to derive subjective use value. But the subjective use value is kind of the starting point. All right. And so that whole process is spelled out, like I say, in Bambava to work there when we kind of just gloss over it in more modern treatments.

30:38We don't really dwell on how cool that kind of is. But the point is, your evaluation of something can change based on its market value. And so the subjective value you attribute to something can change because of your understanding of its price, its market value. And so all the basic statements about marginal utility theory are still correct, but what I'm saying is it's actually pretty nuanced The Subjective Margin of Utility you attribute to one more unit of a certain item is itself partly dependent on what's the utility you directly get from doing something with it yourself, versus what's the utility you get from selling it, and in order for you to even know that, you have to know what is its objective exchange value.

31:33And then, but what you're trying to explain is its objective exchange value. So it almost sounds like you're already in a circle, but you're not. And then let's just walk through it because we can start with the bedrock things and build our way up. And just make sure that we allow people to update based on the new information about its exchange value. OK? So now we're going to apply subjective value theory to money. In case you don't know, this guy on the left is Beezer. And so I mentioned this before. He's, he actually is pretty instrumental in the development in this regard. And so you, in the way you can tell, is look at Mises' footnotes. Yes, he, he footnote, we, whom, whom Mises doesn't footnote much is Menger. So that's kind of interesting.

32:19In these chapters, Mises footnotes the Hecada, Boehm-Bawerk and Wieser. And a lot of this stuff you can see, a lot of places Mises is actually disagreeing with Boehm-Bawerk. We already saw that last time, and he does it in this stuff too. We'll see in a couple of minutes, there's two alternate ways of stating this sort of, not paradox, but this peculiarity of money. And von Boehm-Bawerk describes it one way, and you can kind of tell that Mises doesn't actually think that's the best way to do it. So anyway, the point is just, we don't really talk about these are too much, but in terms of the applying subjective value theory to the specific commodity we call money, he actually did a lot of the heavy lifting and Mises just kind of came in after the fact to clean it up and weed out the little inconsistencies and present a more coherent version of it.

33:13So obviously, if you're going to say, well gee, what's the one book I've got to read, if I'm interested in this, well fortunately, you don't have to go read another book, it's the one we're doing right now. That's what Mises really does in this book, in my opinion. It's funny, because I think most, well not most, but I think many people, if you grab the random Austrian and say, hey, what is it that Mises does in The Theory of Money and Credit, you'd say, oh, that was the book where Mises developed Austrian business cycle theory, what a great achievement. And that is true, but really, in terms of how much length does he devote to it and so on, I think it's more what Mises does is he shows how do you apply subjective value theory to money. And I think that's really the achievement in the book. And then it's almost like an afterthought. Like, oh, now that we've got the editor in our belt, by the way, this is what causes the boom bust cycle. There you go.

34:01My name's Mises. Give me my degree. I'm out of here. OK. Now, as you saw a minute ago, a couple minutes ago when I was just trying to walk you guys through the complexity and the subtleties and nuances in deploying subjective value theory, even in a bar or direct exchange economy, it looked like for a few minutes there, oh, are we arguing in a circle? And it turns out we're not. But we're going to see in a couple minutes, with money it looks even more like we're arguing in a circle. But before we quite get to there, let me go over some preliminaries. So in this particular slide called Two Formulations, Mises says, now with money, quote, in the case of money, subjective use value and subjective exchange value coincide.

34:58And that's on page 97. So just think about what that means. So we go back to the pig in the tomato seed example there, consider the vegetarian who's thinking about the pig. So for him, the subjective use value would be something like, how much utility do I get from, you know, it actually might make more sense. Think of the meat lover. That'll cue up Mises' comment here about money better. All right, so consider the meat lover looking at a pig. So there we're going to say the subjective use value is he's thinking, okay, I could physically turn it into a bunch of bacon, bacon. That, you know, how do I place additional strips of bacon in my rankings right now?

35:45Or I could sell it for money and then use the money to go buy some hamburgers, hamburgers. And so he's kind of weighing off bacon or hamburgers? And then whatever has more, you know, has a higher marginal utility for him at that moment will say whether the subjective use value trumps the subjective exchange value or vice versa. And then whatever is more is what he will then attribute to the pig and that will influence how he acts concerning the pig, right? Because you always make the best use of your resources. So what Mises is saying in this first quote is with money, this distinction is spurious, that there is nothing you're going to use money for directly.

36:33The only thing you're going to use money for when you're trying to evaluate, what would I be willing to do to acquire this extra unit of money that's out there? I have a certain amount of money already in my possession, and now someone is giving me the opportunity to gain one more unit. How do I evaluate this opportunity? So in principle, you do the same thing. You say, okay, well, what's the subjective use value? So you've got to say, okay, what's the objective use value? Physically, if I use that money directly, what could it do for me? And here again, qua money, nothing. So again, remember, in all of these statements, we are abstracting away from the non-monetary uses. So if it's gold, you might say, well, doesn't the subjective use value include my subjective preferences over having more jewelry or something?

37:28And yeah, it does, but then we're not treating the gold as money anymore. Now you're looking at the gold as a hunk of yellow metal. Elemental. Okay, so with all this stuff, again, we are talking about this thing as money. And maybe in this discussion, it might help you if you think of fiat money, just because their fiat money clearly has just about no non-monetary use. Okay, so going back to this first quote again, Mises is saying when you're evaluating the opportunity of acquiring one more unit of the money commodity, The subjective use value, you know, there is no other subjective use value. It's really just, you're thinking, what is its purchasing power? What is the value in the marketplace of this thing? What other goods or services could I trade it for? That's the only thing I can use this for.

38:20And then, what is my subjective evaluation of those other things I can get with this? So I'm not going to be worried about directly consuming it or what I can physically produce with it. All I'm going to care about is how do I rank the things subjectively that I could acquire with it through exchange. Now, another way of formulating that same insight is this bottom quote where Mises says, as far as the individual is concerned, money has no use value at all, but only subjective exchange value. So that's kind of the same thing. We're just saying with money, remember with the pig, and you're the meat lover, you're thinking, I could have directly turned into bacon, and so how much do I feel like I have bacon right now? Or I could sell it for money and then use the money to buy burgers, and how much do I feel like I have burgers right now?

39:09But with money there is no such, you know, that distinction falls away. There's nothing you can do with it directly. It's just a matter of what can I exchange it for and then how do I subjectively evaluate the things that can get me in the market? So those are, technically if you look at those two statements, those are different statements, right? If money has no use value, and then you use the first sentence to say subjective use value and subjective exchange value coincide, then you would conclude money has no subjective exchange value, right? So those are actually contradictory statements, and Mises just says these are different formulations of getting at the peculiarity of money when we try to apply that fourfold classification scheme.

39:54So some writers prefer to express this insight the first way, other writers like von Boehm-Bawerk and John Ray prefer to express it the second way, that's on page 98. And Mises doesn't actually take a stand. In the context, it kind of looks like he thinks the first way makes more sense. I actually think the second way makes more sense, but that's just me. But anyway, this is what I mean where Mises, you know, he, with all this stuff, he's kind I'm saying, it's not that there's any absolute truth to the matter, it's just what's convenient in terms of economic theory, and he's saying, I'm not going to take a side, I don't care. You can think of it the first way, think of it the second way, but just make sure you understand, unlike with every other commodity, money as money has this peculiarity, and that's going to be weird down the road.

40:44So now we're still building up to why is applying subjective value theory to money particularly difficult or why do you have to be careful to make sure you don't argue in a circle. So here's a quote from page 98 on the task of an economist. Mises says, It is not the task of the economist but of the natural scientist to explain why corn is useful to man and valued by him. Consideration of the Subjective Value of Money without Discussion of its Objective Exchange Value is Impossible

41:40was offered a choice to do, you know, a job for an employer offering a pig and an employer offering a tomato seed, and I just, I felt the guy hated meat, so why the heck did he pick the pig? And he had this, oh, because the pig has a higher market value, and then he said, well, why? I mean, if everyone were like the vegetarian, the pig would be, would have no market value. I don't understand. He said, oh, because there's other people who actually do like bacon, and so that's The fundamental building blocks of the explanation are the fact that there are a lot of people out there who like to eat bacon. And so we as the economists can just start with that. We don't have to delve into why do they like bacon.

42:25That's not our job as economists. We are allowed to just start with a primitive, stipulated fact that there are a lot of people out there who really like to eat bacon and then from that we can generate up, you know, the objective exchange value of bacon and then from that we can fill in, oh and so that's why even vegetarians would attribute a high marginal utility to an extra unit of pigs because of the objective exchange value of the pig, which is ultimately traced back to the subjective use value in the minds of many people in that community, right? So Mises points here, as economists, we don't have to explain the subjective use value of the pig. But he's saying with money, we can't do the same thing, or rather, it's not enough to do the same thing.

43:16So be clear with all this stuff. Mises is not developing an alternate theory of value to then apply to money. It is all the same theory, but what he's saying is we can't stop in our explanation when we're talking about money as early as we stop when we're explaining anything else. Because again, with the PIG, it's enough. Once we reach the partner explanation where we say a lot of people just directly enjoy utility from eating bacon, we can stop. The Theory of Money and Credit

44:19The guy with the gold bar, why did he do that? And then you say, oh, well, it's because, you know what, say a $100 bill. Sorry, let me change it. But the gold, that's going to screw you up because you can use gold for something. So one employer says, I'll give you a pig. The other employer says, I'll give you this $100 fee Federal Reserve note. And the guy chose to cut the loan for a $100 bill instead of the pig. Why do you do that? You say, oh, you know why? You know why? Because the subjective exchange value of the $100 bill is higher than the pig, because he knows, looking at the marketplace, that $100 bill trades for more stuff than the pig does. Maybe he ultimately wants to go get cans of paint to paint his house, and he can get more cans of paint trading with the $100 bill than he can with the one pig.

45:07Which, actually, now that I'm saying it, I don't even know how much a pig costs, maybe a kid pig costs more than a pig. They have a real little piglet and it's sickly. Or say it's $10,000, whatever, whatever way you want to get out of the corner into which I just painted myself. So he's getting more fiat money than the market value of the pig. So why is he doing that? So we're still doing the same explanation. Oh, it's because the exchange value of the $10,000 fiat money is more than of that one pig. Okay, but then you keep pushing it and say, but okay, but why? And so Mises' point is we can't just push it back until we get to the point where, oh, and so, oh, because, you know, why does it, we can't just say, oh, the reason he can get more with that $10,000 in fiat money than with the one pig is because people in the community subjectively value on the margin $10,000 more than they value one pig, so that's

46:05That's why they'd be willing to give him more. That's a true statement, and that is the next step in the argument when we ask, why is it that he can get more in the marketplace with his $10,000 in U.S. currency versus the one peg? The answer is because people in the community, the vast, vast majority of them, place a higher subjective value on his $10,000 than on his one peg. That's a true statement and we do need to say that, but Mises' point is we can't stop there, whereas ultimately we can stop there or maybe like at the next step when it comes to the pay versus the tomato seed. And why? Because again, with money, and it's particularly clear in the case of fiat money, the only reason people value it at all is that it has an objective exchange value.

46:57And so we're not really doing enough as economists if we just stop and say, oh, people value money because people value money, which is basically what we would be saying in that situation. Whereas it is fine to say, oh, people value bacon, or sorry, people value pigs because people really value eating bacon. That's perfectly fine. We're allowed to say that. There's nothing weird about that. Okay, one quick note here on terminology. Mises says the objective exchange value of money, which I believe he says can be described as its purchasing power, is not quite the same thing as the concept of the price of money.

47:42So I highlight this in the study guide if you want to make sure you don't lose the point here, if I'm making a distinction that's over your head at this point. But specifically what he says, I don't remember the exact words, but something like the objective exchange value of money is its power to command a certain amount of goods in the marketplace. The price of money is that collection of goods that it can command. So they're very similar, but Mises does make a point to say technically they're not the same thing. So for our purposes, you don't need to worry so much about this, but I'm more explaining it because Mises talks about it and in case that threw you. I guess what I'm doing is I want you to see the difference he's drawing between those two concepts is extremely narrow.

48:32So in case you thought, in case all your life up till now you've been walking around thinking objective exchange value and purchasing power are the same thing as the price of money, which I probably said to you guys if you took me for the Man Economy and State class, and now you read Mises saying they're different, and you might be, oh my gosh, my world just blew up. I'm telling you, the difference is the difference between its capacity to do something and that which it just did. So you see that's a very subtle difference, so don't worry. I probably will flip and use those terms interchangeably. Okay, there's more about the problems involved here. And why, in case you're wondering why am I beating this horse that's clearly dead by now, it's because this really is what I think.

49:19There are basically two major theoretical contributions of Mises in this book, and this is the first one. So as you can imagine, we're going to spend a lot of time going over what is Austrian business cycle theory when the time comes, and how do we build up to that, talking about fiduciary media and all that stuff. But this stuff right here is also, I think, the other half of what Mises does in this book, and so that's why I'm walking you guys through this very slowly. In the theory of the value of commodities, it is not necessary at first to pay any attention to objective exchange value.

50:04Yet, since money, in contrast to other goods, can fulfill its economic function only if it possesses objective exchange value, An investigation into its subjective value demands an investigation first into this objective exchange value. In other words, the theory of the value of money leads us back through subjective exchange value to objective exchange value. So this is just Henry stating what this stumbling block is when we try to apply modern subjective value theory that works so well in a direct exchange setting, when we try to apply it to money, it gets tricky. Again, it's not that we're going to have to alter the theory of value to handle money, so there's not a bifurcated explanation here.

50:57And that's – I should probably stress that because that is one of the ways I think of what Mises did in this book. that before Mises really drove this point home, there were two approaches to explaining market prices. On the one hand, you had a subjective marginal utility theory that the Austrians had helped pioneer, but in other schools of thought too, or other traditions, I should say, and all mainstream orthodox economists by the early 1900s generally agreed, I mean, maybe there were some Marxists or something who didn't, I don't know, But, you know, mainstream professional economists, the top hosts and whatever, they all basically agreed, okay, this is using subjective marginal utility. That's how, in a barter economy, you explain the equilibrium exchange ratio between oranges and apples, or between an hour of labor and loaves of bread.

51:56Okay? If you're like modeling it where people just trade against things directly and there's not media of exchange, let alone money. But then, and so that's how you pin down the real exchange ratio between all the goods. So that's how you would pin down, okay, in this model, these parameters, with these preference rankings of everybody, in equilibrium, it's got to be the case that one hour of unskilled labor trades for ten loaves of bread. So in other words, a worker has to work one hour to get ten loaves of bread, or look at A worker has to work six minutes to get a loaf of bread to bring home to his family. That's the real wages and the real standard of living in that community. But then when you say, but wait a minute, in the real world, workers don't get paid in bread.

52:45They get paid in money and then they go down to the store and they use the money to buy the bread. And so let's say it's France and they use francs. So that approach of thinking of it as a barter economy doesn't actually tell me what the absolute money prices are. It just tells me in equilibrium it's got to be the case that the money price on one hour of unskilled labor has to be six times or ten times the money price of a loaf of bread, right? Because I said you get, I think I did that right, you get ten loaves of bread for an hour of labor. All right, so that's, but we don't know, it could be an hour of labor gets paid 10 francs and a loaf of bread has a price of 1 franc, or it could be an hour of labor gets paid 1,000 francs and a loaf of bread has a price of 100 francs.

53:43See what I'm saying? So we, just by using the direct exchange analysis and using the insights of the subjective marginal utility approach, we don't know the actual numbers on the price tags in the store. All we know are the ratios among those prices. And so economists had a two-fold approach. So they used the one, they used subjective marginal utility theory, Theory, what Mises considers to be the theory of value to explain in equilibrium what the ratio of any of the prices of any two goods has to be in equilibrium. And again, like using Danny Sanchez's discussion of the theory of the marginal pairs, that sort of analysis pins on that thing. So if you're imagining that there isn't money and everyone's just trading directly goods against goods or goods against services, you can come up with those ratios.

54:35When you say, oh, but in the real world they actually use money as a sort of convenience, so how do we deal with that? Then they would say, oh, well, we'll bring in these sort of holistic macro approach, and there's various ways of implementing it, maybe like MV equals PQ or maybe some version of what you'd call the quantity theory, but the idea is you say, well, we've got two billion francs in circulation, and so here's and if people have a certain demand to hold francs then here's the price and now you know we get those ratios down and if for some reason the Bank of France made more francs then the prices would all go up you know proportionally if the underlying preferences stay the same on the margin and if they cut the amount of francs in half then maybe the prices would all go down but you see what I'm saying but it's they're using two different approaches so what Mises is doing in this book

55:31is showing, no, it's the same approach. The very same tools we use to explain the formation of objective exchange value in a hypothetical barter economy, we use literally the same approach when it comes to people in an economy where one of the goods happens to be accepted on one side of virtually every trade. We call that money. It's just we have to push the explanation and get a little bit more specific, or a little bit deeper, is the idea. But it's the same explanation, we just push it further. So maybe that's a different way of putting it. It's the same approach, it's just you have to get more specific if one of the goods involved is the money good. But it's not that you're contradicting anything in the original theory of value.

56:17And so what you're doing is, in a sense, unifying micro and macro, theoretically, in terms of value theory. Okay, so before we talk about what is Mises' solution to this conundrum or this difficulty, this stumbling block, let's go over why or the suggestion of some other economists as to how to solve this problem and to see why it's a bad solution. To assert that the value of money is based on the non-monetary employment of its material is to eliminate the real problem altogether. Not only have we to explain the possibility of fiat money, we must also answer the question whether the possibility of a monetary employment of the commodity money material affects its as utility and consequently as value.

57:15So just so you know, reading stuff like this gets me mad, to the extent that reading stuff from the history of economics does get me mad, because some people nowadays, especially the people in the modern monetary theory, the MMT school and all that, the stuff they say about gold bugs in general and about even Mises in particular, For example, go to Econ, don't do it right now, you want to listen to my brilliant lecture, but on Econ log today, so what's today's date in case someone's looking to disaster the fact, so it's February 22, 2012, Arnold Kling, literally today has a post-up where he pokes fun at gold bugs, and I don't remember the exact words, but basically, like they think gold is intrinsically valuable or something like that, and like gold is an absolute yardstick, of Value, but Cling knows better, and so that's why gold bugs, he calls them cranks.

58:15So I mean, that should make you vomit in your mouth or something if you've been reading Mises all along, that Mises goes out of his way to say gold is not an objective measurement of value, there is no such thing, right, and so here, this quote, so there are a lot of other critics of the Austrian School and of the gold standard and people who like Mises

59:09At this point, Mises did not at all think that you explained the purchasing power of money, which he wanted to be a commodity, by reference to its non-monetary uses. He's going out of his way to saying, if that's what you're thinking, it's not even that you're wrong, you are, but he's saying it eliminates the problem altogether. And remember, too, in all these things, I'm having to remind you guys that, oh, when Mises makes these sweeping statements about money, he means money qua money. Just this lecture before, when you're saying, oh, the money commodity has no subjective use value, and I had to remind you, don't think, well, gee, if it's gold, couldn't I directly use the gold for something? Because Mises is abstracting away from that. He's saying, no, as money, all you can use this thing for is through exchange.

59:57And so that's where we have to start in a theory of the value of money. All right. I'm getting all worked up just because it's – maybe Mises is wrong, but to attribute views to him that he goes out of his way to refuse is just – he's getting very angry. All right. So now let's consider this, though. So what is Mises talking about in this quote? He is saying, again, there were economists, and you could understand why they would think this. It kind of makes sense. So back when Mises is writing, the things that were money had been commodities, or they were commodities, even in practice, right? It's not just that historically they were, even at that moment, the things that were serving as money were commodities in the marketplace that actually had other uses besides being the thing that was being used as money.

1:00:48And so there were some economists who tried to explain the value of money by saying ultimately, oh, well, it's derived from these other uses. Let's be careful because that sounds close to what we're going to later call the regression theorem, but it's not the same thing. So probably that's why some of the modern critics of Mises erroneously thought he believed that money gets its purchasing power from its use as a commodity. The point is, no, he doesn't think that, and this theory is not what we're later in a few minutes going to call the regression theorem, it's something else. So in particular, these people advancing this theory, whether they said it explicitly or whether Mises is just reading between the lines and saying this is an implication of their view, 2.

1:01:36If that's what you thought, if you thought ultimately the way we as economists right now explain today's purchasing power of money is by the fact that today people still have uses for the money good, that have nothing to do with the fact that it's money, as economists right now today we're trying to explain why is it that that pig has a market value, ultimately it's going to be because today there are a lot of people that like to eat bacon. It's not enough. The pig right now doesn't have market value because 100 years ago people liked bacon. The only reason that would make sense is if the pig right now is a medium of exchange. But if the pig is not a medium of exchange and right now we as economists are trying to explain its market value, it better be the case that right now people get subjective use value out of that thing.

1:02:25And Mises is saying with money that's not the case. To explain right now the value of money, its exchange value, the marketplace, Martin Blase, we do not need to rely on the fact that right now some people in the community have a subjective use value for that commodity. It's true that they do and to give the most coherent explanation we need to keep that in consideration. So it is true if gold is money and all of a sudden there's a new use discovered for money or for gold, a new industrial application that they realize, oh my gosh, we can make Supercomputers that go ten times as fast as the way we're currently doing but we have to use a lot of gold to do it. That's going to have implications. That's going to increase the demand for money. That's going to make prices quoted in money for other things go down and so on because now more gold is getting channeled into the making supercomputers and so on.

1:03:23So that has implications but the point is if people are using gold as money in this community As economists, when we start from square one and we try to explain the purchasing power of the gold and why is it that one ounce of gold trades for so many hours of labor and so many stage coaches and whatever, it's not... we're wrong if we say, oh, it's ultimately because right now there are industrial uses of gold and people like to fashion it into earrings and stuff and wear it and they just directly get utility. Mises is saying, no, no, you're totally missing the problem there. You are dodging the need to explain the purchasing power of money as money. What you're doing there is you're explaining to me why gold has exchange value. What you just told me would be true whether or not we use gold as money.

1:04:10So you're dodging the question. And then also the driver of the point Mises says, what you just said ruled out the possibility of fiat money, but I know, as Ludwig von Mises, that fiat money is at least conceptually possible. It gives me nightmares. I wouldn't want to live in a world of fiat money, but I know it's theoretically possible. So again, just to see what an amazing theorist he is, the fact that he recognizes that even though he directly didn't have any experience of it, at that point to him it was still an open question whether fiat money would ever plague the earth. And by the way, people might get mad in the chat room, but I'm saying fiat money, I mean government-imposed fiat money. I'm not here taking a stand on Hayek's idea of private fiat money. So, don't flip out on me.

1:04:57Okay. Let me elaborate. Now, this is a real subtle point, but I want you to get this. Okay, because this ties in with something else that Mises said earlier. Somewhat of a long quote, but let me go ahead and go over it. So, this is an example of it. So, remember, don't get lost here. The bad solution that I'm not giving an example of, What I'm meaning is, Mises has already said the bad solution being, oh, what if we just punt and we try to explain the purchasing power of money by reference to its subjective or its non-monetary applications? And Mises says, well, one problem with that is you can't explain fiat money. Now he's going to do something even more subtle. He's going to say, with credit money, your approach leads to problems, because with a credit money, you have no ability to explain the portion of its value due to the fact that it is money.

1:05:56So remember what credit money is. Credit money is something that it's a claim, technically it's a claim on anything, the way he defines it, but I think in practice it's a claim on money, so that's why it's credit. It's not money itself, but it's not a money substitute, so it's not an immediate and perfectly certain claim on money, because if it were, then it would be a money substitute. So it's credit and money, but it's not merely a claim on money, because that would just make it a bond. It is a claim on money that is circulating itself as a commonly accepted medium of exchange, so it's kind of freaky, if you think about it. So there's money that we think of as regular money, the money commodity, whatever.

1:06:41Now there's these other things that are claimed on that money, and yet people accept the claim on the money itself as a medium of exchange. And just about everybody in the community does it, so it's money too. So that's kind of weird. But again, it's not a money substitute. It's not a perfectly – you don't get it right away. So what the heck would that be in practice? What it is, is if you had things issued, you know, bank notes or notes issued by the government that used to be money substitutes and then they temporarily suspend redemption. So people still think, oh, probably at some point they're going to resume paying on this stuff, but there is not right now and I'm not sure when.

1:07:26I'm not sure when. So let's go ahead and read this. So partly why I'm going over this thing is just in case you never really got the issue of credit money and that seemed kind of a weird thing to you, this really drives home what it is and what Mises' point is about your dodging the question if you just try to explain it in terms of industrial application. Okay, so here's the quote. In the case of credit money, the claims used as money have similarly a different exchange value from other claims of the same kind that are not used as money. The 100 GOLDEN notes which circulated as money in Austria-Hungary before the reform of the currency had a higher exchange value than, say, a government security with a nominal value of 100 GOLDEN, notwithstanding the fact that the latter bore interest and the former did not.

1:08:24All right? So, first of all, again, see what he's saying there in that opening sentence. The case of credit money, the claims used as money. So that's driving home the point of what does Mises mean by this strange term credit money. It is a claim. So legally, you know, what the heck is this thing? You know, gold, what is it? Oh, it's a metal. It's a commodity. It's just a good in and of itself. Oh, and by the way, we happen to use it as a medium of exchange. Oh, lots of people happen to use it, therefore its money. But what is it? Oh, it's a commodity. Credit money, when you say what the heck is this thing, first of all, it is a claim. And in the example of Mises using their claims on money, their claims on commodity money, I should be more specific there, their claims on commodity money, but they're used as money themselves.

1:09:13All right, and so Mises is saying there, if you try to explain the market value of a claim on commodity money, ultimately by the fact that, oh, well, it's a claim on the commodity money, so that's where it comes from, you're going to run into trouble. And so here what he's saying is, what was happening in Austria-Hungary before the reform of the currency, and I don't know what years that means, because obviously I'm not a historian. Ivo Holtzman would know. He said there was a period during which the Austro-Hungarian, I don't know if it was the government directly or if they had a central bank, but the point is the government was issuing just regular bonds, just like right now there's treasury bonds, the U.S. government issues or there's bonds, the Greek government issues, the French government, whatever.

1:10:03In our society right now today, those are not money. You don't go to the store and buy or pay things with treasury bonds. Now, you might push it and some people, you know, Bob Wenzel has talked about in his blog that actually certain things get closer to being money. But strictly speaking, treasury bonds are not, they're very liquid, but they're not really media of exchange. It's not really the case too much that someone will sell something for treasury bonds because you intend to buy something else with treasury bonds. Usually, you're ultimately going to sell the thing for actual dollars, because a bond is not a dollar, right? But what is a bond, if we're thinking about the U.S. for a minute, a bond is a legal claim that the U.S. government gives saying, If you hang on to this thing, a certain time in the future, I'm going to pay you a certain amount of dollars.

1:10:59And so that's what was going on here. The Austrian-Hungarian government, yeah, had regular old bonds saying, if you hang on to this thing, right now it has a market value, we're going to pay you some golden. And with the rate of interest and whatever implicit in the thing, right now the thing had a market value of 100 golden. And if you hang on to it, actually it's going to mature and maybe you'll get 105. Okay, so that was a claim from the Austrian-Hungarian government that if you hold on to this piece of paper, down the road we're going to pay you 105 gulden and right now, you know, it's got a certain exchange value. And Mises is saying there were also notes that used to be a claim, like the central bank or something, it was an immediately convertible note, I don't know, it must have been an issue by the central bank, where you walked in and said, this is a 100-golden note, so that's not a bond, it's a note saying, present this to us and on the spot you will get 100 goldens of the precious metal.

1:12:00And so Mises' point is saying, if you observe in the marketplace right now, the 100-golden note, the thing that used to be a money substitute but right now is not, it's just merely credit money because they've suspended redemption of it, The Theory of Money and Credit

1:12:43buys more stuff than the exchange value of an actual, the quantity of metal that it would exchange for, right? And remember a couple lectures ago, maybe the last lecture, I walked you through that, why that actually makes sense. That even in a Rothbardian world, it would make perfect sense that if you have a coin from a reputable mint That's a one ounce gold coin that literally has one ounce of gold in it. You could actually get more goods at the store with that thing than if you had a hunk of one ounce of actual gold that wasn't, you know, hammered into a coin.

1:13:30So if you're getting screwed up there looking at this quote saying, wait a minute, how can it be that a hundred gold a note gets you more than a bond that he's saying is worth a hundred gold in the marketplaces? No, he's not, because 100 gold a note actually has a higher exchange value than just the raw weight of gold that they would call at the time 100 gold of gold. And so that, when you're trying to understand what the heck, and Mises, the way he's explaining it is because people were valuing those notes because they were media of exchange, that you would be more... Other things equal if you had to sell something and one guy offered you a 100-golden note and another guy offered you a bond that right now had a market price of 100 gold and you would actually take the note.

1:14:18Mises is saying it's not merely that they should be equivalent if you're ultimately trying to explain the value of the 100-golden note by reference to what it can do for you. The 100 Golden Bond should clearly be preferred, because if you hold the two things, the bond is going to earn interest, whereas the note is just going to sit there. It's just a claim of an uncertain redemption time. It's not that it earns interest, whereas the bond does. So if you're still having trouble seeing it right now, you do a job for somebody, and he told you he was going to pay you $1,000.

1:15:24The Theory of Money and Credit

1:15:54I have been answering those things online in case you guys are wondering, but I apologize, it's the timing here, I'm not going to have time. Okay, I will try in future lectures to be more cognizant of that. But you start talking about credit money, it's hard to stop. All right, circular argument. I've already alluded to this. So the deal is, you know, I want you to see what's the problem, so why are we so happy that Mises solved it? It's because it looks like what we're doing, if we try to explain or if we try to apply subjective value theory to money the way we apply it to regular commodities in a direct exchange setting, it looks like what we're doing is we're explaining the purchasing power of money by reference to the purchasing power of money. Likely you say, gee, why is it that that guy toils all day in the factory in exchange for green pieces of paper, if you're thinking about fiat money, just to keep it simple.

1:16:50And then the answer that Mises wants to give is, oh, because he values, he has a higher utility on the margin from those green pieces of paper than his leisure, so that's why he did it. And so you're saying, oh, so that's why the employer with those green pieces of paper was able to buy eight hours of labor. OK, so that's why the green pieces of paper had purchasing power was because the worker valued those pieces of paper more than he valued his leisure. OK, wait a minute, one more question. Why did the worker value those pieces of paper more than his leisure? Because it doesn't look to me like he's, you know, using them to make a pillow or something. Oh, because they have purchasing power in the marketplace. He can go buy stuff with it. To see what I did there, I said the reason the employer can buy stuff with money is because the worker can buy stuff with money.

1:17:41And so it looks like we're just saying money has purchasing power because money has purchasing power. So that's a true statement and that's the first step to understanding it. But the point is, if that's all you said, it looks like it's not really an explanation. That's why a lot of economists thought, before Mises showed them how to do it, that nah, the subjective value theory is great in a barter setting, but if we're going to do money prices, we have to bring in this whole other apparatus. Okay, so what we've been finally building up through this lecture, the so-called regression theorem. So that's what we call it today. Did anybody notice, this is silly, that I not only read this stuff and I wrote a study guide, I don't know off the top of my head, does Mises actually use the term regression in this book?

1:18:28I don't know off the top of my head, I certainly wouldn't bet on it, one way or the other. But anyway, this is what we call it nowadays. So when people refer to Mises' famous regression theorem that he developed in The Theory of Money and Credit, this, what I'm about to tell you in the next five minutes, is what they're talking about. Okay, so I give a shout out in the beginning here to my study guide. I don't know what your schedule is like and how much time you have, but if you haven't been reading my study guide, go along with these chapters, but you have time to squeeze it in for one chapter, this one might be a good one where I really walk through this stuff carefully and so you don't get mixed up. Okay, I am taking a little bit of liberty with it. I'm pretty sure this is right, but I think I'm elaborating a little bit on the timing element of it.

1:19:18This is not the way Mises and Rothbard say it. I think this is more accurate. It's not that what they say is wrong, it's that I think they skip a step, so I'm trying to spell it out, which I think is more coherent for someone who doesn't know what they're talking about. Okay, what are we trying to do in the comments? We're trying to explain what's the purchasing power of money. We mean today. What's the purchasing power of money right now? How do we explain it as economists? We say, what does it mean for money to have purchasing power today? It means right now, if someone goes in the marketplace with money, he can objectively turn it over and get things for it. So that's what we're trying to explain. How is that possible? Well, it's because the people who are giving up other goods and services for the money think that in the future that's going to have purchasing power.

1:20:07The reason anybody right now in a particular transaction at this moment would give up either his leisure or some other valuable good for money has to be because he plans on trading it away again in the future. And so why would that be useful to him? Because he anticipates in the future that it will have purchasing power. And so that's step one of the argument. We're basically saying the purchasing power of money today, right now, we first explain by saying right now people have expectations that that money will have purchasing power in the future, which I'm just calling tomorrow as a placeholder. Alright, and then you say, okay, but where do they get those expectations from? You say, oh, the reason people right now have some idea of how to form expectations about what that money is likely to be able to buy in the marketplace with them in the future is because they just observed what it was able to buy in the marketplace in the recent past, let's just call it yesterday, to have something specific in mind.

1:21:08So, notice already, Mises has broken out of the circular argument. Before, in the previous slide, it looked like we were saying, money has purchasing power because money has purchasing power. Now, and that's clearly a circular argument. But now, we're bringing the time element, we're breaking up the circle. We're saying, no, no, actually, more specifically, money has purchasing power today because today people expected to have purchasing power tomorrow. And why do they expect it to have purchasing power tomorrow? Because they saw that in fact it had purchasing power yesterday. There's nothing circular about what I just said when I put the timestamps on it, if you will. Now there's three different purchasing powers with little time subscripts. So it's not just, I've explained purchasing power by reference to its purchasing power.

1:21:55No, I've explained its purchasing power at T0, if you will, by reference to the expected T1, which in turn was derived from observed T minus one. If that helps you get what's going on there. So I didn't explain purchasing power T by referencing purchasing power T. Okay, they said, whoa, whoa, whoa, wait a minute. Okay, there's not a circular argument, but now you just have an infinite regress. You're basically explaining the purchasing power of money today by reference to its purchasing power that they observed yesterday. Okay, fine, you're right, you didn't just go on a circle, you just pushed it back a step. And now if I ask you, how did people yesterday, where did that purchasing power come from? Let me guess, Mises, you're going to say, because yesterday they looked forward and anticipated this purchasing power today, and how did they get a foundation for that expectation? Well, they saw it two days ago.

1:22:46And then we just have to keep going back forever. So Mises, you didn't really solve the problem we told you. You can't use subjective marginal utility theory to explain money. So you're barking up the wrong tree. and then Mises says, no, no, no, I'm not. It's not an infinite regress. It's a regress. I'll give you that much. But it's not infinite. It's finite. Because I keep going back using the previously observed purchasing power component in the valuation of this commodity that happens to be money to explain then the derived expectations of it. And I keep walking it back day after day after day until the point at which this thing was just a widely accepted medium of exchange and I still have that element in there. And I keep pushing it back until the point at which the first person accepted it as a medium of exchange and so even there it was more acceptable because it was a medium.

1:23:38But in all transactions prior to that, the reason this particular commodity was valued was for its use in direct exchange. And we already know how to explain that. So that is what the regression theorem has to do. And Mises talks about something like the historical continuity in the theory of the value of money or something like that. And that's what he means. So it's an odd thing. It's not that as economists we have to know that history in order to talk about the purchasing power today of money. Rather, what we're saying is to prove to ourselves that this is a logically coherent explanation, we have to, or it helps that we can give a story that no, we're not just pushing it back a day, and then we have to throw up our hands.

1:24:29We ultimately can keep pushing it back until we reach something that we all agree as economists is not a problem to explain. So that's what's going on with the regression theorem. And so that's why Mises or modern Austrians, for example, have their suspicions about Bitcoin because they're thinking, whoa, we could never trace Bitcoin back to when it was either legally redeemable for or in some way redeemable for the other monies, which could be traced back to commodities. And so that's why some Austrians think that Bitcoin could never actually be money. They think, oh, that would violate the regression theorem. I'm not taking a stand on that question. I'm just saying that's where they're coming from when they say that. Okay, well I have to end it here. Like I say, sorry, I didn't have time for questions.

1:25:16I will try to do that in the future. Remember, next week's lecture is going to be pushed back two days, meaning two days later. It's going to be on Friday instead of Wednesday. I'll send out an email and do your readings. This is really good stuff and don't get intimidated. All right, everybody, we'll see you next time. And I'll send out an email with the office hours.