The Theory of Money and Credit

We have not undertaken this investigation into the relationship between money and production goods merely for its terminological interest. What is of importance for its own sake is not our ultimate conclusion, but the incidental light shed by our argument upon those peculiarities of money that distinguish it from other economic goods. These special characteristics of the common medium of exchange will receive closer attention when we turn to consider the laws that regulate the value of money and its variations.

But the result of our reasoning, too, the conclusion that money is not a production good, is not entirely without significance. It will help us to answer the question whether money is capital or not. This question in its turn is not an end in itself, but it provides a check upon the answer to a further problem concerning the relations between the equilibrium rate of interest and the money rate of interest, which will be dealt with in the third part of this book. If each conclusion confirms the other, then we may assume with a considerable degree of assurance that our arguments have not led us into error.

The first grave difficulty in the way of any investigation into the relation between money and capital arises from the difference of opinion that exists about the definition of the concept of capital. The views of scholars on the definition of capital are more divergent than their views on any other point of economics. None of the many definitions that have been suggested has secured general recognition; nowadays, in fact, the controversy about the theory of capital rages more fiercely than ever. If from among the large number of conflicting concepts we select that of Böhm-Bawerk to guide us in our investigation into the relation of money to capital, we could justify our procedure merely by reference to the fact that Böhm-Bawerk is the best guide for any serious attempt to study the problem of interest, even if such a study leads eventually (and by no means entirely without indebtedness to the labor that Böhm-Bawerk bestowed on this problem) to conclusions that differ widely from those which he himself arrived at. Furthermore, all those weighty arguments with which Böhm-Bawerk established his concept and defended it against his critics support such a choice. But quite apart from these, a reason that appears to be quite decisive is provided by the fact that no other concept of capital has been developed with equal clarity.15  This last point is particularly important. It is not the object of the present discussion to arrive at any kind of conclusion respecting terminology or to provide any criticism of concepts, but merely to shed some light on one or two points that are of importance for the problem of the relations between the equilibrium and the money rates of interest. Hence it is less important for us to classify things correctly than to avoid vague ideas about their nature. Various opinions may be held as to whether money should be included in the concept of capital or not. The delimitation of concepts of this nature is merely a question of expediency, in connection with which it is quite easy for differences of opinion to arise. But the economic function of money is a matter about which it should be possible to arrive at perfect agreement.

Of the two concepts of capital that Böhm-Bawerk distinguishes, following the traditional economic terminology, that of what is called private or acquisitive capital is both the older and the wider. This was the original root idea from which the narrower concept of social or productive capital was afterward separated. It is therefore logical to begin our investigation by inquiring into the connection between private capital and money.

Böhm-Bawerk defines private capital as the aggregate of the products that serve as a means to the acquisition of goods.16  It has never been questioned that money must be included in this category. In fact, the development of the scientific concept of capital starts from the notion of an interest-bearing sum of money. This concept of capital has been broadened little by little until at last it has taken the form which it bears in modern scientific discussion, on the whole in approximate coincidence with popular usage.

The gradual evolution of the concept of capital has meant at the same time an increasing understanding of the function of money as capital. Early in history the lay mind discovered an explanation of the fact that money on loan bears interest—that money, in fact, “works.” But such an explanation as this could not long satisfy scientific requirements. Science therefore countered it with the fact that money itself is barren. Even in ancient times general recognition must have been accorded to the view which later in the shape of the maxim pecunia pecuniam parere non potest was to be the basis of all discussion of the problem of interest for hundreds and even thousands of years, and Aristotle undoubtedly did not state it in the famous passage in his Politics as a new doctrine but as a generally accepted commonplace.17  Despite its obviousness, this perception of the physical unfruitfulness of money was a necessary step on the way to full realization of the problem of capital and interest. If sums of money on loan do bear “fruit,” and it is not possible to explain this phenomenon by the physical productivity of the money, then other explanations must be sought.

The next step toward an explanation was provided by the observation that after a loan is made the borrower as a rule exchanges the money for other economic goods, and that those owners of money who wish to obtain a profit from their money without lending it do the same. This was the starting point for the extension of the concept of capital referred to above, and for the development of the problem of the money rate of interest into the problem of the “natural” rate of interest.

It is true that centuries passed before these further steps were accomplished. At first there was a complete halt in the development of the theory of capital. Further progress was in fact not desired; what was already attained sufficed perfectly; for the aim of science then was not to explain reality but to vindicate ideals. And public opinion disapproved of the taking of interest. Even later, when the taking of interest was recognized in Greek and Roman law, it was still not considered respectable, and all the writers of classical times strove to outdo one another in condemning it. When the church adopted this proscription of interest, and attempted to support its attitude by quotations from the Bible, it cut the ground away from beneath all unauthorized attempts to deal with the matter. Every theorist who turned his attention to the problem was already convinced that the taking of interest was harmful, unnatural, and uncharitable, and found his principal task in the search for new objections to it. It was not for him to explain how interest came to exist, but to sustain the thesis that it was reprehensible. In such circumstances it was easy for the doctrine of the sterility of money to be taken over uncritically by one writer from another as an extraordinarily powerful argument against the payment of interest, and thus, not for the sake of its content but for the sake of the conclusion it supported, to become an obstacle in the way of the development of interest theory. It became a help and no longer a hindrance to this development, when a move was made toward the construction of a new theory of capital after the downfall of the old canonist theory of interest. Its first effect, then, was to necessitate an extension of the concept of capital, and consequently of the problem of interest. In popular usage and in the terminology of scholars, capital was no longer “sums of money on loan” but “accumulated stocks of goods.”18

The doctrine of the unfruitfulness of money has another significance for our problem. It sheds light on the position of money within the class of things constituting private capital. Why do we include money in capital? Why is interest paid for sums of money on loan? How is it possible to use sums of money, even without lending them, so that they yield an income? There can be no doubt about the answers to these questions. Money is an acquisitive instrument only when it is exchanged for some other economic good. In this respect money may be compared with those consumption goods that form part of private capital only because they are not consumed by their owners themselves but are used for the acquisition of other goods or services by means of exchange. Money is no more acquisitive capital than these consumption goods are; the real acquisitive capital consists in the goods for which the money or the consumption goods are exchanged. Money that is lying “idle,” that is, money that is not exchanged for other goods, is not a part of capital; it produces no fruit. Money is part of the private capital of an individual only if and so far as it constitutes a means by which the individual in question can obtain other capital goods.

• 15This is true even bearing in mind the discussions of Menger and Clark. But in any case, an investigation, both of this matter and of the problems dealt with in part 3, chap. 19, which started from Menger’s or Clark’s capital concept would lead eventually to the same result as one based on Böhm-Bawerk’s definition.
• 16See Böhm-Bawerk, Kapital und Kapitalzins, pp. 54 f.
• 17I, 3, 23.
• 18See Böhm-Bawerk, Kapital und Kapitalzins, Part I, pp. 16 ff., Part II, pp. 23 ff.