I. Money and credit

• • Preface
  • I. Money and credit
  • II. The mobilization of capital. Fictitious capital
  • III. Finance capital and the restriction of free competition
  • IV. Finance capital and crises
  • V. The economic policy of finance capital

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1. The necessity of money

In principle the human productive community may be constituted in either of two ways. First, it may be consciously regulated. Whether its scale is that of a self-sufficient patriarchal family, a communistic tribe, or a socialist society, it creates the organs which, acting as the agents of social consciousness, fix the extent and methods of production and distribute the social product thus obtained among the members. Given the material and man-made conditions of production, all decisions as to method, place, quantity and available tools involved in the production of new goods are made by the pater familias, or by the local regional or national commissars of the socialist society. The personal experience of the former gives him a knowledge of the needs and productive resources of his family; the latter can acquire a like knowledge of the requirements of their society by means of comprehensively organized statistics of production and consumption. They can thus shape, with conscious foresight, the whole economic life of the communities of which they are the appointed representatives and leaders in accordance with the needs of the members. The individual members of such a community consciously regulate their productive activity as members of a productive community. Their labour process and the distribution of their products are subject to central control. Their relations of production are directly manifest as social relations, and the economic relations between individuals can be seen as being determined by the social order, by social arrangements rather than by private inclination. Relations of production are accepted as those which are established and desired by the whole community.

Matters are different in a society which lacks this conscious organization. Such a society is dissolved into a large number of mutually independent individuals for whom production is a private matter rather than a social concern. In other words, its members are individual proprietors who are compelled by the development of the division of labour to do business with one another. The act by which this is accomplished is the exchange of commodities. It is only this act which establishes connections in a society otherwise dismembered into disparate units by private property and the division of labour. Exchange is the subject matter of theoretical economics only because, and to the extent that, it performs this mediating function in the social structure. It is of course true that exchange may also take place in a socialist society, but that would be a type of exchange occurring only after the product had already been distributed according to a socially desired norm. It would therefore be merely an individual adaptation of the distributive norm of society, a personal transaction influenced by subjective moods and considerations. It would not be an object for economic analysis. It would have no more importance for theoretical analysis than does the exchange of toys between two children in the nursery, an exchange which is fundamentally different in character from the purchases made by their fathers at the toy shop. For the latter is only one element in the sum of exchanges by which society realizes itself as the productive community which it really is. A productive community must express itself in such acts of exchange because only in this way can the unity of society, dissolved by private property and the division of labour, be restored.

Just as Marx said that a coat is worth more within the exchange relationship than outside it, so we may say that exchange has far greater significance in one social context than in another. It becomes a distinctive social force when it supplies the integrating factor in a society in which private property and the division of labour have dissociated individuals and yet made them interdependent. Only in a society of this type does it acquire the function of assuring the social life process. The outcome of completing all possible acts of exchange in such a society is what would have been accomplished in a communist, consciously planned, society by the central authorities; namely, what is produced, how much, where, and by whom. In short, exchange must allocate among the producers of commodities what would be allocated to the members of a socialist society by the authorities who consciously regulate production, plan the labour process, and so on. The task of theoretical economics is to discover the law which governs this type of exchange and regulates the course of production in a commodity producing society, just as the laws, decrees and directives of the authorities regulate production in a socialist society. The difference between the two systems is that in a commodity producing society economic law is not directly imposed on production by the deliberations of human intelligence, but operates in the manner of a natural law, having the force of a `natural social necessity'.

In addition, exchange must also provide the answer to another question : whether production is to be undertaken by the independent artisan or by the capitalist entrepreneur? The answer to this question is to be found in the change in the exchange relationship with the development from simple commodity production to capitalist production. The act of exchange itself differs qualitatively only as between different social systems; for instance, between the socialist and the commodity producing society. In a commodity producing society the act of exchange is qualitatively uniform, however much the quantitative ratios at which goods exchange may vary. In such a society, an objective social factor constitutes the basis of exchange relations: the socially necessary labour time embodied in the things exchanged. In communist society, on the other hand, the only basis of exchange is a subjective equalization, an equal desire. Under such conditions, exchange is purely accidental and is not therefore a possible object of investigation for theoretical economics. Not being susceptible to theoretical analysis, it can be grasped only in psychological terms. But since exchange always appears as a quantitative ratio between two things, people do not notice the difference.

The act of exchange becomes the necessary mediator in the circulation of social goods because their circulation is itself a social necessity. A single or isolated exchange may be purely fortuitous, but exchange becomes a general and established practice if it makes possible the social circulation of goods and ensures the productive and reproductive processes of society. Social production is thus a condition of exchange among individuals, and only in this way are they integrated into society and enabled to share in the aggregate social product which has to be distributed among them. This situation removes an act of exchange from the sphere of the accidental, the arbitrary and the subjective, and raises it to the level of the uniform, the necessary and the objective. And as a condition of the social circulation of goods, it is also a vital necessity to every individual. A society based upon private property and the division of labour is only possible by virtue of this exchange relationship among its members; it becomes a society through exchange, which is the only social process it recognizes from an economic standpoint. Only in this society does the exchange act become the object of a specific analysis, which asks how the exchange act, as a means of circulating social goods, arises.

Exchange converts a good into a commodity, an object no longer intended for the satisfaction of an individual need or brought into existence and vanishing with that need. On the contrary, it is intended for society, and its fate, now dependent on the laws which govern the social circulation of goods, can be far more capricious than that of Odysseus; for what is one-eyed Polyphemus compared with the argus-eyed customs officials of Newport, or the fair Circe compared with the German meat inspectors? It has become a commodity because its producers participate in a specific social relationship in which they have to confront each other as independent producers. Originally a natural, quite unproblematic thing, a good comes to express a social relation, acquires a social aspect. It is a product of labour, no longer merely a natural quality but a social phenomenon. We must therefore discover the law which governs this society as a producing and working community. Individual labour now appears in a new aspect, as part of the total labour force over which society disposes, and only from this point of view does it appear as value-creating labour.

Exchange is thus accessible to analysis because it not only satisfies individual needs, but is also a social necessity which makes individual need its instrument while at the same time limiting its satisfaction. For a need can be satisfied only to the extent that social necessity will permit. It is of course a presupposition, for human society is inconceivable without the satisfaction of individual needs. This does not mean, however, that exchange is simply a function of individual need, as indeed it would be in a collectivist economy, but that individual needs are satisfied only to the extent that exchange allows them to participate in the product of society. It is this participation which determines exchange. The latter appears to be simply a quantitative ratio between two things, which is determined when this quantity is determined. The quantity which is turned over in exchange, however, counts only as a part of social production, which itself is quantitatively determined by the labour time that society assigns to it. Society is here conceived as an entity which employs its collective labour power to produce the total output, while the individual and his labour power count only as organs of that society. In that role, the individual shares in the product to the extent that his own labour power participates, on average, in the total labour power (assuming the intensity and productivity of labour to be fixed). If he works too slowly or if his work produces something useless (an otherwise useful article would be considered useless if it constituted an excess of goods in circulation), his labour power is scaled down to average labour time, i.e. socially necessary labour time. The aggregate labour time for the total product, once given, must therefore find expression in exchange. In its simplest form, this happens when the quantitative ratios between goods exchanged correspond to the quantitative ratios of the socially necessary labour time expended in their production. Commodities would in that case exchange at their values.

In fact, this can happen only when the conditions for commodity production and exchange are equal for all members of society; that is to say, when they are all independent owners of their means of production who use these means to fabricate the product and exchange it on the market. This is the most elementary relationship, and constitutes the starting point for a theoretical analysis. Only on this basis can later modifications be understood; but they must always satisfy the condition that, whatever the nature of an individual exchange may be, the sum of exchange acts must clear the market of the total product. Any modification can be induced only by a change in the position of the members of society within production. In fact, the modification must take place in this manner because production and the producers can only be integrated as a social unit through the operation of the exchange process. Thus the expropriation of one section of society and the monopolization of the means of production by another modify the exchange process, because only there can the fact of social inequality appear. However, since the exchange relationship is one of equality, social inequality must assume the form of a parity of prices of production rather than an equality of value. In other words, the inequality in the expenditure of labour (which is a matter of indifference to capitalists since it is the labour expenditure of others) is concealed behind an equalization of the rate of profit. This kind of equality simply underlines the fact that capital is the decisive factor in a capitalist society. The individual act of exchange no longer has to satisfy the requirement that units of labour in exchange shall be equal, and instead the principle now prevails that equal profits shall accrue to equal capitals. The equalization of labour is replaced by the equalization of profit, and products are sold not at their values, but at their prices of production.

If the exchange act may thus be regarded as a creation of society, it is no less true to say that both society and the individual become aware of this only after exchanges have been completed. The work of an individual is, first and foremost, his own individual endeavour, motivated by his own self-interest. It is his personal labour, not the labour of society. But whether or not it conforms with the requirements of the total circulation of goods, of which his labour is necessarily a component part, can be determined only when all the component elements have been compared and the aggregate requirements of that circulation have been completely satisfied.

Commodities are the embodiment of socially necessary labour time. But labour time as such is not expressed directly, as it is in the society envisaged by Rodbertus, in which the central authority establishes the unit of labour time which it will accept as valid for each commodity. Labour time is expressed only in the exchange commensurability of two articles. Thus the value of an article, i.e., its average time of production, is not expressed directly as eight, ten or twelve hours, but as a specific quantity of another article. In other words, a natural object with all its material attributes expresses the equivalent value of another thing. For example, in the equation, one coat equals twenty metres of linen, the twenty metres of linen are the equivalent of one coat simply because both are embodiments of socially necessary labour time. It is in this sense that all commodities are commensurable.

The value of an article is a social relationship and is always represented in terms of another article regardless of the differences in their respective use values. Such a definition of value is implicit in, and inseparable from, the nature of commodity production. A use value belonging to one person becomes a commodity and then a use value to another person, thereby giving rise to the social relationship peculiar to members of a commodity producing society in which all are under the same compulsion to exchange their goods. The producer does not learn whether his commodity really satisfies a social need or whether he has made the correct use of his labour time until after the completion of the exchange. The confirmation that he is a fully-fledged member of a commodity producing society does not come to him from some person authorized to speak in its name, and able to criticize, approve or reject his work, as the merchant might do with his weavers. The only proof he has of his usefulness as a member of society is another article which he obtains in exchange for his own. Society entrusts its destiny to things, rather than to people and its own collective consciousness; and notwithstanding Stirner's views to the contrary this is the root of its anarchy. The thing which can give the producer this assurance must therefore have the necessary authorization to speak in the name of society. It obtains this authorization in precisely the same way as other agents receive their authorization, by the common action of those who confer it. Just as people meet and authorize someone from among their own number to take specific action on their behalf, so commodities must meet to authorize a single commodity to confer full or partial citizenship in the world of commodities. The act of exchange is the occasion for such a meeting of commodities. The social activity of commodities on the market is to capitalist society what collective intelligence is to a socialist society. The consciousness of the bourgeois world is concentrated in the market report. It is only after the successful completion of the exchange that the individual can have any insight into the process as a whole, or any guarantee that his product has satisfied a social need, as well as the incentive to begin his production anew. The object which is thus authorized by the common action of commodities to express the value of all other commodities is – money. The authority of this particular commodity develops along with the development of the exchange of commodities.

A and B, as owners of commodities, may begin a social relationship merely by exchanging their products, say a coat for twenty metres of linen. As the production of commodities becomes the general rule, the tailor must perforce satisfy all his needs by exchange. Instead of limiting this relationship to the maker of linen, he now develops similar arrangements with many other people. One coat may be worth twenty metres of linen ; but it is also worth five pounds of sugar, ten pounds of bread etc. As all commodity producers engage in transactions of this type, there emerges a pattern of numerous exchange equations by which commodities are paired off and their value measured against one another. In the development of this process, commodities gradually come to measure their respective values, with increasing frequency, by a single commodity, thus making that commodity a general standard of value.

A simple expression of value, e.g., one coat equals twenty metres of linen, already expresses a social relationship, but one which may he quite accidental or isolated. In order to be a genuine expression of a social reality, it must first lose its isolated character. When the production of commodities becomes the universal form of' production, the social circulation of goods, and hence the social interdependence among workers asserts itself in innumerable acts of exchange and value equations. The concerted action of commodities in exchange transforms private, individual and concrete labour time into the general, socially necessary and abstract labour time which is the essence of value. As the value of commodities comes to be measured in multifarious exchanges, so it comes to be measured increasingly in terms of a single commodity, and this needs only to become established as the standard of value in order to become money.

The exchange of values is essential to production and reproduction in a commodity producing society. Only in this way is private labour socially recognized, and a relationship between things turned into a relationship between producers. However exchange takes place, whether directly or through the medium of money, it is necessarily an exchange of equivalent values. As a value, therefore, money is like any other commodity, and the necessity for it to have value arises directly out of the nature of the commodity producing society.

Money is a commodity like all other commodities and thus embodies value, but it is differentiated from all other commodities by being the equivalent of all of them and thus expressing their value. It acquires that status as a result of the whole process of exchange. It becomes the legitimate standard of value. The money commodity, a substance with all its natural characteristics, is now the direct expression of value, of this quality which only arises from the social relations of commodity production and their embodiment in objects. It can now be seen how the necessity for a common measure of value – in which the value of every other commodity is directly expressed, and with which every commodity can consequently he directly exchanged -- arises from the process of exchange, from the need continually to equate commodities with each other. Money is, therefore, on the one hand a commodity, but on the other hand it is always forced into the unique position of acting as a general equivalent for all the others. This has happened through the action of all other commodities, which have legitimated it as their sole and universal equivalent.

The exchange value of all commodities is thus expressed in a socially valid form, in the money commodity, in a definite quantity of its use value. Through the reciprocal action of all other commodities, which are measured by it, the money commodity appears as the direct embodiment of socially necessary labour time. Money is thus `the exchange value of commodities as a particular, exclusive commodity'. All commodities thus acquire a standardized social position through their transformation into money.

Just as, according to Ernst Mach, the ego is merely a focal point for an infinite variety of sensations, from the interplay of which it forms a picture of the world, so money is a knot in the skein of social relationships in a commodity producing society, a skein woven from the innumerable threads of individual exchanges. In money, the social relationships among human beings have been reduced to a thing, a mysterious, glittering thing the dazzling radiance of which has blinded the vision of so many economists when they have not taken the precaution of shielding their eyes against it.

In so far as commodities come into relation with each other in the exchange process they are reduced to products of socially necessary labour time and, as such, are equal. The bond which ties a commodity, as a use value, to some particular individual need is severed while it is in circulation, where it counts only as an exchange value. It resumes its role as a use value and re-establishes its relevance to another individual need only after the process of exchange has been completed. As an exchange value, however, a commodity finds its immediate expression in money, the use value of which is nothing but the embodiment of socially necessary labour time, that is, exchange value. Money, therefore, makes the exchange value of a commodity independent of its use value. Only the transformation of money into a good realizes the use value of the good. As a use value it then leaves the sphere of circulation and enters that of consumption.

Money can serve as a general equivalent for all commodities only because it is itself a commodity, that is, exchange value. But as an exchange value, any commodity can serve as a standard of value for all other commodities. Hence, it is only when commodities, by common action, align themselves with one special commodity that it can become an adequate expression of exchange value, or universal equivalent. The fact that all commodities are exchange values means that the producers in this society atomized by the division of labour and private property – which nevertheless forms a production community despite the fact that it does not possess a common consciousness – have a relationship to each other only through the medium of their material products. This becomes evident in the fact that the products of their labour, as exchange values, merely represent different fractions of the same object -- money. General labour time, the economic expression of the productive community, and indeed its essential feature, thus appears as a unique object, a commodity alongside, and yet distinct from, all other commodities.

A commodity enters the process of exchange as a use value, having proved that it can satisfy a need to the extent required by society. It then becomes an exchange value for all other commodities which fulfil the same condition. This symbolizes its conversion into money, as the expression of exchange value in general. In becoming money, it has become the exchange value for all other commodities. The commodity must therefore become money, because only then can it be expressed socially, as both use value and exchange value; as the unity of both which it really is. However, since all commodities transform themselves into money by divesting themselves of their use values, money becomes the transformed existence of all other commodities. Only as a result of this transformation of all other commodities into money does money become the objectification of general labour time, that is, the product of the universal alienation and suppression (Aufhebung) of individual labours.

The necessity of money thus arises from the nature of commodity producing society, which derives its law from the exchange of commodities as products of socially necessary labour time. It arises from the fact that the social relationship of the producers is expressed as the price of their products, which prescribes their share in the production and distribution of the product. The law of price is the regulative principle of this society, the distinctive feature of which is that it requires a commodity as a means of exchanging commodities, since only a commodity embodies socially necessary labour time. The need for the means of exchange to have value follows directly from the character of a society in which goods have become commodities and must be exchanged as such. 'The very same process which makes commodities out of goods, turns the commodity into money.' Social association is thus brought about unconsciously through the exchange of commodities, and the confirmation that this has taken place in an appropriate way is provided by the same process of exchange. But the confirmation comes only after the process of production, which had already established this social association, is finished and unalterable. The anarchy of the capitalist mode of production consists in the fact that there is no conscious organization of production in advance to accomplish its goal. For the individual members, conscious only of themselves and not of society as a whole, social association appears to be a natural law, functioning independently of the will of the participants, although it exists only because of their own unconscious social action. Their action indeed is never conscious and purposive with respect to social association, but only with respect to the satisfaction of individual needs. In this sense it may be said therefore that the necessity to mediate exchange through money, that is, through a substance which is valuable in itself, arises from the anarchy of commodity producing society.

While money is thus, on the one hand, a necessary product of commodity exchange, it is, on the other hand, the condition for generalizing the exchange of products as commodities. It renders commodities directly commensurable by becoming their standard of value. This is because, as value, it is the same as the commodities, and within the value form their opposite; an equivalent which has the form of a use value in which [exchange] value is expressed.

Money thus originates spontaneously in the exchange process and requires no other precondition. The exchange process makes that commodity into money which is best qualified for the role by its natural attributes. The use value of this commodity, of gold for example, makes it money material. Gold is not money by nature (but only due to a definite structure of society); but money is by nature gold. Neither the state nor the legal system determines arbitrarily what the nature or medium of money shall be. Their primary function is to coin money. The state changes nothing except the units into which gold is divided. While at first these were distinguished or measured according to weight, they are now classified according to another arbitrary standard, necessarily based upon conscious agreement. Since the supreme conscious organization in a commodity producing society is the state, it falls to the state to sanction this agreement, so that it shall be generally accepted throughout society. Its procedure in this instance is the same as in establishing any other standard, for example, a measure of length. Only in this case, since it is a standard of value that is involved, and value always inheres in a particular thing, and in every such thing according to the time devoted to its production, the state must also declare what the thing, the money substance, shall be. The standard is valid only within the area covered by the agreement, for example, within the boundaries of the state, outside of which it becomes unacceptable. On the world market gold and silver are accepted as money, but they are measured in terms of their weight.

In the absence of state intervention an agreement with respect to a specific money can also be worked out by private persons — for example, by the merchants of a city — in which case, of course, it is valid only within the jurisdiction of the group.

Gold is therefore divided up in some way by the state, and every piece is stamped with the government seal. All prices are then expressed in terms of this standard. The state, then, has established the unit of price. As a standard of value, the value of gold, because it is a commodity and hence value, embodying socially necessary labour time, varies with any alteration in its time of production. As a measure of price, however, it is divided into pieces of equal weight, and this division is by definition invariable. The state coinage is simply a guarantee that a piece of coined money contains a specified weight of the money material; for example, gold. It is also an important technical simplification, since money need no longer be weighed, but only counted. Any quantity of value required in exchange can then be conveniently supplied.

2. Money in the circulation process

The circulation process takes the form: Commodity–Money–Commodity, or C–M–C. In this process the social exchange of goods is completed. A sells a commodity which does not have use value for him, and then buys another which does. In this process, money simply furnishes the evidence that the individual conditions of production for any single commodity coincide with the general conditions of social production. The essential purpose of the process, however, is the satisfaction of individual wants through general exchange of commodities. A commodity is exchanged for another of equal value. The latter is then consumed and disappears from circulation.

While commodities are continuously disappearing from circulation, money continues to circulate without interruption. The place formerly occupied by a commodity is merely taken by a unit of money of equal value. The circulation of money, therefore, really consists of a rotation of commodities. The question then arises as to the quantity of money required in circulation. This involves asking what is the real relation between money and commodities. The quantity of circulating media is determined primarily by the aggregate price of commodities. Given the quantity of commodities, changes in the quantity of money in circulation follow the fluctuations of commodity prices, regardless of whether such price changes arise from real changes in value or only from fluctuations of market prices. Such is the rule when sales and purchases take place in the same locale. If, on the other hand, they constitute a sequential series, the following equation holds good : the sum of commodity prices, divided by the velocity of circulation of a unit of money, equals the total quantity of money serving as a medium of exchange. The law that the quantity of the medium of exchange is determined by the sum of the prices of commodities in circulation and the average velocity of circulation of money can also be expressed by saying that "given the sum of the values of commodities and the average rapidity of their metamorphosis, the quantity of precious metal current as money depends on the value of that precious metal".

We have seen that money is a social relationship expressed in the form of an object. This object serves as a direct expression of value. In the sequence C–M–C, however, the value of a commodity is always exchanged for the value of another commodity, and money is a transitory form or a mere technical aid, the use of which causes expense which should be avoided as far as possible. Simultaneously with money itself arises the effort to dispense with money. Money provides circulation with a value-crystal into which a commodity can be converted, only to be subsequently dissolved into the equivalent value of another commodity.

Money can be dispensed with as an expression of equivalence. But it is indispensable as a symbol of value because it is a necessary means of giving society's sanction to the value of a commodity. Thanks to money, it is possible for value to be reconverted from its monetary form into any other commodity. However, since the monetary expression of value is ephemeral, and unimportant in itself (except when the process C–M–C is interrupted and the money itself has to be stored for a longer or shorter time in order to make possible the completion of the M–C sequence at a later date), what is important for our purpose is the social aspect of money – its quality of being the value equivalent of a commodity. This social aspect of money finds its palpable expression in the substance used as money: for example, gold. But it can also be expressed directly through conscious social regulation or, since the state is the conscious organ of commodity producing society, by state regulation. Hence the state can designate any token – for example, a piece of paper appropriately labelled– as a representative of money, a money token.

It is clear that tokens of this type can only function as a medium-of circulation between two commodities ; they are useless for other purposes. Their entire work is done in circulation where money, as a form of value, is always a temporary transition stage to the value of a commodity. The volume of circulation is extremely variable because, given the velocity of circulation of money, it depends, as we know, upon the sum total of prices. This sum changes constantly, and is affected particularly by the periodic fluctuations within the annual cycle (as when farm products enter the market at harvest time, increasing the sum of prices), and by the cyclical fluctuations of prosperity and depression. Hence, the volume of paper money must always be kept down to the minimum amount of money required for circulation. This minimum can, however, be replaced by paper, and since this amount of money is always necessary for circulation there is no need for gold to appear in its place. The state can therefore make paper money legal tender. In other words, within the limits set by the minimum required for circulation, a consciously regulated social relationship can take the place of a relationship which is expressed through an object. All this is possible because metallic money, although concealed in a material garb, is itself a social relation. Unless this is understood, we cannot hope to understand the nature of paper money. We have already seen how the anarchy of the commodity producing society generates the need for money. The anarchy is more or less eliminated with respect to the minimum required for circulation. A certain minimum of commodities with a given value must be bought and sold whatever the circumstances. The exclusion of the effects of anarchic production manifests itself in the possibility of replacing gold by mere value tokens.

Nevertheless, the minimum of circulation places a definite limit on this kind of conscious control. The money token can serve as a full-fledged substitute for money, and paper can serve as a token for gold, only within the limits thus set. Since the volume of circulation fluctuates constantly, the use of paper money must be accompanied by a perpetual ebb and flow of gold in circulation. Where this is not possible a discrepancy arises between the nominal value of paper money and its actual value, or in other words, depreciation of the paper money.

In order to understand this process let us first envisage a system of pure paper currency (as legal tender). Let us assume that, at a given time, circulation requires 5,000,000 marks for which 36.56 pounds of gold would be needed. We should then have a total circulation as follows; 5,000,000 marks in C –5,000,000 marks in M –5,000,000 marks in C. If paper tokens were substituted for gold, their sum would have to represent the total value of commodities (5,000,000 marks in this case) whatever their nominal value. In other words, if 5,000 notes of equal value were printed, each note would be worth 1,000 marks ; if 100,000 notes were printed, each would be worth 50 marks. If the velocity of circulation remained constant and the sum of prices were to double without any corresponding change in the quantity of paper money, the value of the paper would rise to 10,000,000 marks; per contra, if the sum of prices were to decline by one half, the value of the paper would fall to 2,500,000 marks. In other words, under a system of pure legal-tender paper currency, given a constant velocity of circulation, the value of paper money is determined by the total price of all the commodities in circulation. The value of paper money in such circumstances is completely independent of the value of gold and reflects directly the value of commodities, in accordance with the law that its total amount represents value equal to the sum of commodity prices divided by the number of monetary units of equal denomination in circulation. It is obvious that paper money can appreciate as well as depreciate in relation to its original value.

Naturally, not only paper but a more valuable material, say silver, can also function as a money token. If a depreciation of silver results from a fall in its cost of production, the silver price of commodities will rise, but their price in terms of gold, other things being equal, will remain unchanged. The depreciation of silver would be reflected in its exchange rate with gold, and the degree of depreciation could be measured by the exchange rate obtaining between a silver currency country and a gold currency country. Under a system of free coinage, the depreciation of the legal-tender silver would be equal to the depreciation of the uncoined bullion. But this would not be the case if free coinage were suspended. If, in the latter circumstances, there were an increase in the aggregate price of commodities in circulation, say from 5,000,000 marks to 6,000,000 marks, and if the silver used in circulation had a value of only 5,500,000 marks, the value of silver coins in circulation would appreciate until their sum was equal to 6,000,000 marks. In other words, their value as currency would exceed their bullion value. If we accept the foregoing explanation, phenomena which seemed inexplicable to such eminent monetary theorists as Lexis and Lotz – namely, the appreciation of the Dutch and Austrian silver guilder, and later of the Indian rupee, above their bullion value – cease to be a mystery.

The proof that value is a purely social category is thus supplied by the fact that the value of paper money is determined by the value of the total quantity of commodities in circulation. A mere slip of paper, worthless in itself, but discharging the social task of circulating commodities, thereby acquires a value which is out of all proportion to its negligible value as paper. Just as the moon, long since extinguished, is able to shine only because it receives light from the blazing sun, so paper has a value only because commodities are impregnated with value by social labour. It is therefore a reflection of labour value which converts paper into money just as it is reflected sunlight which enables the moon to shine. The lustre of commodity value is to paper currency what the rays of the sun are to moonlight.

Austria had an inconvertible paper currency from 1859. Silver guilders were at a premium in relation to paper. More paper was issued than was required in circulation. A condition was thus brought about similar to the one described above. The purchasing power of a guilder no longer depended on the value of silver, but on the value of commodities in circulation. If the value of the quantity of commodities in circulation equalled 500,000,000 guilders but 600,000,000 paper guilders were printed, the paper guilders would then purchase the same volume of commodities as were formerly purchased by 5/6ths of that quantity of paper money. As a result silver guilders became, in effect, commodities. Paper guilders were used for most purchases while silver guilders were sold abroad; the latter fetched 6/5ths of a paper guilder and with the proceeds one could then repay debts previously contracted in silver. As a result silver disappeared from circulation.

A change in the ratio of silver to paper guilders may take place in two ways. If the value of silver guilders remains fixed, the ratio could change if the turnover of commodities were to increase as a result of the development of commodity circulation. If there were no new issue of paper money to meet the increased demand, the paper guilder could regain its former value as soon as the volume of commodities in circulation required 600,000,000 guilders for its disposal. The paper guilder could also appreciate above its former value if there were a continued increase in the volume of commodities. Thus, if they required 700,000,000 guilders and only 600,000,000 paper guilders were available in circulation, the paper guilder would appreciate to 7/6ths of the value of the silver guilder. If free coinage were in force, people would continue to coin silver until a quantity of silver guilders would enter circulation which, together -with the paper guilders, would amount to 700,000,000. If that happened, there would be a restoration of parity as between paper and silver guilders, and with a continuation of free coinage, paper guilders would no longer be governed by the value of commodities, but by the value of silver. In a word, they would resume their function as silver tokens.

The same result, however, can come about in another way. Let us assume that the circulation of commodities does not change. In that case, the paper guilder would be rated at 5/6ths of the silver guilder. Now let us imagine that there is a decline in the value of silver, say by 1/6th. Silver guilders would then have the same purchasing power as paper guilders. The silver premium having disappeared, the silver would now remain in circulation. If silver continued to decline, say by 2/6ths of its former value, it would be profitable to purchase silver and coin it in Austria. This would continue until the sum of both paper and silver had grown large enough for the requirements of circulation, in spite of the 2/6ths reduction in the purchasing power of silver. We assumed an original value of 500,000,000 guilders in commodities, and 600,000,000 paper guilders in circulation. The latter therefore had 5/6ths of the value of the original guilders. Silver guilders, rated at 4/6ths of their former purchasing power, then enter the process. To circulate commodities, we therefore need 6/4 times 500,000,000 guilders or 750,000,000 guilders. This would consist of 600,000,000 paper guilders and 150,000,000 newly minted silver guilders. If the state wishes to prevent any further depreciation of its currency it need only suspend the free coinage of silver. Guilders would then become independent of the price of silver. Their value would be pegged at the previous level, 5/6ths of the value of the original guilder. The decline in the value of silver would not be expressed in the silver currency.

This analysis contradicts the traditional theory according to which a silver guilder is only a piece of silver, weighing 1/45th of a pound, which must therefore have the same value under all circumstances. But this is easily explained by bearing in mind that, when coinage is suspended, the value of money simply reflects the total value of commodities in circulation. According to our assumption, silver declined by 2/6ths, but the Austrian guilder fell by only 1/6th as assumed at the beginning of our inquiry. Hence, the Austrian silver guilder still in circulation will stand 1/6th higher than the price of an equal quantity of silver bullion. In other words, it will be over-valued. Such a state of affairs actually occurred in Austria in the middle of 1878. It was caused, on the one hand, by the fact that the value of paper guilders was forced up by the expansion of circulation without any corresponding increase in the quantity of paper money: and, on the other hand, by the decline in the value of silver, evidenced in the fall of the price of silver in London.

Schematic though this analysis may be, it does full justice to the realities of the problem. Free coinage of silver was introduced in the Netherlands in May 1873. The coined silver money increased appreciably in value at the same time as silver bullion depreciated in relation to gold.

Whilst at the beginning in 1875 the price of silver in London fell to about 571 pence, the rate of exchange for Dutch money stood at only 11.6 guilder for one pound sterling instead of 12 guilder as heretofore. This showed that the value of the Dutch guilder had risen by about 10 per cent above the value of the silver it contained.

The 10-guilder coin was first introduced as legal tender in 1875.

Already in 1879, the value of the silver in the guilder was only 95.85 kreuzer, and this figure fell further in 1886 to 91.95 kreuzer, and to 84.69 kreuzer in 1891.

The development of the Austrian currency system is briefly described in the following passage:

The currency of the Monarchy was established by the patents of 19 September 1857 and 27 September 1858. From 1 November 1858 there existed legally, and at first also in practice, a silver currency based on a standard unit of 45 guilders per metric pound of fine silver (90 guilders or florins per kilogram). Conversion into silver through the bank of issue persisted only for a short while, until the end of 1858. Moreover, in consequence of the prolonged critical political and financial situation [Which had as a consequence an over-issue of notes–R. H.] prevailing until 1878, silver was at a premium against paper money, and silver coins were progressively driven out of circulation. In 1871, this silver premium exceeded 20 per cent but it diminished during the 1870s as a consequence of the extraordinary slump in silver prices on the world market. After 1875 the price of silver was so low that it frequently approached its legal price (45 florins per pound) and actually reached it in 1878. At times, in view of the London exchange rate on the Vienna exchange, it became quite profitable to deliver silver to the mints of Vienna and Kremnitz for coinage into Austrian currency. Indeed, the influx of silver into the Austro-Hungarian Customs Union reached extraordinary heights in 1878, and the coinage that year as well as in the ensuing one attained a volume never previously reached (on the basis of reports available up to this point).

In order to prevent depreciation of the currency, free coinage of silver was suspended at the beginning of 1879. This suspension of silver coinage

had the effect of relieving the purchasing power of the Austrian guilder from the almost mechanical pressure of silver prices, and allowing it to develop almost entirely independently of the value of the quantity of silver contained in the Austrian silver guilder. On the basis of the prices of silver in London, and of London exchange quotations, the average value of pure silver contained in 100 silver guilders was as follows :

1883	97 fl.	64 kr.
1887	91 fl.	— kr.
1888	86 fl.	68 kr.
1889	82 fl.	12 kr.
1891	84 fl.	70 kr.

On these assumptions the value of 100 florins of Austrian currency in gold guilders should have been as follows:

1883	82 fl.	38 kr.
1887	72 fl.	42 kr.
1888	69 fl.	34 kr.
1889	69 fl.	38 kr.
1891	73 fl.	15 kr.

But the actual quoted value of 100 such florins in terms of gold guilders for the respective years was, on the average, 84.08, 79.85, 81.39, 84.33, 86.33.

In other words, Austrian silver guilders were overvalued in those years; that is to say, their purchasing power exceeded that of the silver they contained. The difference for every 100 florins of Austrian money was:

	1883.	1 fl.	70 kr.
	1887.	7 fl.	43 kr.
	1888.	12 fl.	05 kr.	(in gold guilders)
	1889.	14 fl.	90 kr.
	1891.	13 fl.	18 kr.

It will be seen from this table that the price of silver guilders was not only nearly (as Spitzmuller suggests) but completely independent of the silver price in its fluctuations.

Spitzmuller calls this currency "credit currency", but he is unable to account for the manner in which its, price is determined. He says :

The purchasing and exchange power of the Austrian silver guilder, as well as the paper guilder, in the period 1879-1891, therefore, were not primarily determined by the value of bullion. Indeed, to go further, the Austrian guilder of the period; as Karl Menger has so cogently demonstrated (in the Neue Freie Presse, 12 December 1889) showed that the exchange value was not determined by the intrinsic value of any coin in circulation.

Actually, the Austrian currency was no longer a silver currency. Realistically considered, it could not even be called an emasculated silver currency. It could more aptly be called a credit currency, the international value of which depended on the Austro-Hungarian balance of payments, and the domestic value of which, in addition to this, was determined by other price-determining factors [sic!] within the Customs Union.

His uncertainty is clearly shown in the following passage:

In spite of everything, it would be misleading to assume that the credit character of the Austrian currency was completely [!] independent of the price structure of the silver market. On the contrary, during the transition period from 1879 to 1891, the high valuation of silver was ascribable, in part, to the suspension of coinage of silver for private persons by an administrative decree which could be abrogated at any time, while coinage for government purposes continued. The aforementioned factors were thus responsible for the completely uncertain future of our currency. In particular, it was certainly no accident that the recent fall of silver prices, 1885 to 1888, paralleled the sharp rise in foreign exchange rates.

It would be interesting indeed if it could be shown how purely conjectural opinions concerning the future of a currency could at any time be translated into a mathematically exact rise or fall in exchange rates. As a matter of fact, however, these subjective influences were of no importance, and the decisive factor was the objective configuration of the social requirements of circulation.

Helfferich comes much closer to the correct explanation when he says:

The premium on coin in currencies with restricted coinage is created by the fact that . . . only coined, and not the uncoined metal, can function as money; and that the state refuses to convert metal into coins on demand.

In the case of inconvertible paper money also, value attaches to the currency exclusively by reason of the state having declared it legal tender for the payment of all debts and taxes. The state thus, in fact, confers upon it the privilege of fulfilling all the economically indispensable functions of money.

Both these types of currency, therefore, derive their value not from that of their substance, nor again from any implied promise to pay, but solely from their acquired character as a statutory medium of payment.

The suspension of free coinage in a silver currency system is a condition of, and an explanation for, the emancipation of coined silver from the value of bullion, as Helfferich correctly indicates. But this does not tell us anything about the crucial issue; namely, the amount of value that the coin retains. That value is determined, of course, by the quantity of circulating media required by society which, in turn, is determined in the final analysis by the value of the sum of commodities. Helfferich's subjective theory of value prevents him from recognizing this fact.

On the other hand, he is entirely correct in his criticism of Spitzmfiller's credit hypothesis :

In free currencies, with suspended coinage of the standard metal, in which the intrinsic value of all types of money is less than the actual value as money, the higher value cannot be ascribed to 'credit', if only because no standard coins exist into which the other coins are exchangeable and from which they derive their value by way of credit. In the Dutch monetary system between 1873 and 1875, in the Austrian between 1879 and 1892, and in the Indian from 1893 to 1899, there actually existed no money of full standard value. The money value of Dutch and Austrian silver guilden, and of the Indian rupee, a value which was in excess of the intrinsic value of these coins, was an absolutely independent thing, not based upon any other object of value. It was not even based on any rating in terms of standard money, and certainly not upon any claim to standard money, but sprang solely from the legal-tender power assigned to these coins and from the restriction of coinage.

How little, up to that time, monetary theory managed to free itself from the erroneous conception that overrated money must be credit money and must at least derive its value from that of some standard money is shown by the confused views widely held concerning the position of the Austrian currency from the year 1879 onwards. The phenomenon of the rise in the value of the coined Austrian silver guilden, after the suspension of the free coinage of silver, above the value of its silver content, puzzled people mainly because it was not apparent from which type of money of higher intrinsic value, the silver guilden derived a value exceeding that of its silver content. Recourse was had, therefore, to the extraordinary explanation that the value of the silver guilden had been raised above its metallic value only because of its connection with paper guilden ; but it was not explained by what kind of connection the paper guilden should have been kept at a higher value than its paper value.

Similar phenomena were observable in India. In 1893 the free coinage of silver was discontinued. The object was to raise the rupee exchange to 16 pence. Under free coinage this rate corresponded to a silver price of about 43.05 pence. In other words, at that price, the silver content of the rupee, if melted down and sold, would have fetched a price of 16 pence on the London (world) market. The suspension of free coinage had the following effect: the price of the rupee rose to 16 pence after having previously stood at 14.87 pence. But a few days later the price of silver fell from 38 pence before the closing of the silver mints to 30 pence on 1 July. After that date the price of the rupee declined while the price of silver rose to 34.75 pence and remained around that price until the suspension of American silver purchases on 1 November 1893 (the monthly amount was 4,500,000 ounces fine). The price of silver then fell and reached the low point of 23.75 pence on 26 August 1897. On the other hand, the value of the Indian currency reached the desired level of 16 pence at the beginning of September 1897, when the bullion in the rupee was quoted at about 8.87 pence.

From the very beginning it was possible to observe the gratifying result that once the Indian mints were closed to private coinage, the price of the rupee always remained higher than the value of its metal content by an amount far in excess of the costs of coinage. From the middle of 1896 onward, there was also a severance of the last link between the price of silver and the price of the rupee. Any parallelism in their movements, however weak it may have been recently, has now completely disappeared.

Monetary theorists are still plagued by the question: What constitutes the standard of value when coinage is suspended? Obviously it is not silver (nor gold, when gold coinage is suspended). The value of money and the price of bullion follow completely divergent courses. Further, ever since Tooke's demonstration, the quantity theory of money has been rightly regarded as untenable. Finally, it is impossible to establish a relation between a mass of bullion on one side and a mass of commodities on the other. What relation is supposed to exist between 7 kilograms of gold or silver, or even paper, and A million boots, B million cases of shoe polish, C bushels of wheat, D hectolitres of beer, etc? A reciprocal relation between money and commodities presupposes that they have something in common; in other words; it presupposes the value relation, which is precisely what has to be explained.

It is equally useless to invoke the power of the state as an answer to the question. In the first place, it remains a complete mystery how the state can possibly confer a purchasing power on a piece of paper or a gram of silver which wine, boots, shoe polish, etc., do not have. Furthermore, such attempts by the state have always come to grief. The mere desire of the Indian government to raise the price of the rupee to 16 pence did not avail it to the slightest degree. The rupee showed no regard for the government's desire in this matter, and the closest the government ever came to success in its undertaking was the complete unpredictability of the price of the rupee after it ceased to bear any relation to the price of silver. Again, the appreciation of silver guilders relative to their metallic content came as a complete surprise to the Austrian government. It came without warning, almost overnight as it were, without any previously prepared plan of intervention on the part of the government. What confounds the theorists is the circumstance that money has apparently retained its quality of being a standard of value. Naturally, commodities are still expressed in money terms or 'measured' in money, as they were before the suspension of coinage. And as before, money continues to serve as a 'measure of value. But the magnitude of its value is no longer determined by the value of the constituent commodity, gold, or silver, or paper. Instead, its 'value' is really determined by the total value of commodities in circulation, assuming the velocity of circulation to be constant. The real measure of value is not money. On the contrary, the 'value' of money is determined by what I would call the socially necessary value in circulation. If we also take account of the fact that money is a medium of circulation, which I have so far ignored for the sake of simplicity, and shall deal with more thoroughly below, this socially necessary value in circulation can be expressed in the formula:

[math]\displaystyle{ \frac{\text{total value of commodities}}{\text{velocity of circulation of money}} \text{ plus the sum of} }[/math]

payments falling due minus the payments which cancel each other out, minus finally the number of turnovers in which the same piece of money functions alternately as a means of circulation and as a means of payment. This is, of course, a standard the magnitude of which cannot be calculated in advance. Society itself is the only mathematician capable of solving the problem. It is a fluctuating magnitude and the value of the currency rises and falls in consonance with its movements. The changes in the value of the Indian rupee from 1893 to 1897, and the fluctuations of the Austrian currency, offer clear evidence in favour of this proposition. These fluctuations are eliminated as soon as a commodity of full-fledged value (gold, silver) resumes the role of money. As we have already seen, it is not at all necessary for this purpose that paper money or depreciated money disappear from circulation ; all that is required is that it be reduced to the minimum of circulation and that any fluctuations over and above that minimum be eliminated by the introduction of money of full value.

The remarkable history of currencies based on suspended coinage – the "silver currencies with golden borders" or the "gold margin system", as the Indian and similar currencies have been called – loses its mystery when it is examined in the light of the Marxist theory of money, while in terms of the 'metallistic' theory, it remains completely unintelligible. Knapp, although he exposed many of the latter's inadequacies with great acuteness (he takes no account of the Marxist theory and apparently confuses it with the `metallistic' theory) offers no economic explanation of his own for these phenomena and contents himself with a highly ingenious system of classification of the types of money, which neglects both their origin and their development. It is a specifically juridical analysis, characterized by an excessive attention to terminology, while the fundamental economic problem of the value and purchasing power of money is completely excluded from consideration. Knapp is, as it were, the Linnaeus of monetary theory, while Marx is its Darwin; but in this case Linnaeus comes long after Darwin !

Knapp is the most consistent follower of the theory which, because it cannot explain the phenomenon of a paper currency, and especially the obvious phenomenon of the influence of the quantity of paper issued in the case of legal tender paper money, treats it as an aspect of metallic money and of general circulation (including bullion, bank notes and government paper money). The theory takes account only of quantitative ratios and overlooks the factor which determines the value of both money and commodities. Its error originates in the experience with paper money economies, especially that of England following the suspension of specie payments in 1797.

The historical background for the controversy was furnished by the history of paper money during the eighteenth century: the fiasco of Law's bank; the depreciation of the provincial bank notes of the English colonies in North America from the beginning till the middle of the eighteenth century which went hand in hand with the increase of the number of tokens of value; further, the Continental bills issued as legal tender by the American government during the War of Independence; and finally, the experiment with the French assignats, carried out on a still larger scale.

Even the penetrating mind of Ricardo could not escape this erroneous conclusion, and this furnishes an interesting example of the powerful psychological effect which empirical impressions can exert on abstract thought. For it is precisely Ricardo who, in other cases, always abstracts from the quantitative ratios which influence prices (supply and demand) in an attempt to discover the fundamental factors which underlie and dominate these quantitative ratios, namely value. Yet when he comes to a consideration of the money problem, he puts aside the very value concept he had previously formulated. He says :

If a mine of gold were discovered in either of these countries, the currency of that country would be lowered in value in consequence of the increased quantity of the precious metals brought into circulation and would, therefore, no longer be of the same value as that of other countries.

Here it is quantity alone that reduces the value of gold, and gold is regarded exclusively as a medium of circulation, from which it follows quite naturally that the entire quantity of gold immediately enters into circulation. And since quantity is the only factor considered, gold can without further ado be equated with bank notes. It is true that Ricardo says expressly at the very outset that he is presupposing convertible bank notes, but later he gives the impression that convertible bank notes are similar to legal tender paper money under the conditions of the English currency system at that time. He can therefore say:

If instead of a mine being discovered in any country, a bank were established, such as the Bank of England, with the power of issuing its notes as circulating medium; after a large amount had been issued, . . . thereby adding considerably to the sum of currency the same effect would follow as in the case of the mine.

The influence of the Bank of England is thus placed on a par with that of the discovery of a gold mine; both increase the medium of circulation.

This identification prevented any proper understanding of the laws of metallic money and bank note circulation alike. Knapp, for his part, was greatly impressed by the more recent developments described above: the stable 'paper currencies' and the divergence of silver money from its bullion value. The divergence is, of course, characteristic of silver money (or any metallic money) as well as of paper money. But the value of paper money nevertheless appears to be determined by the state which issues it; and since, in this sense, silver seems to approximate the position of paper money when free coinage is suspended, the illusion is created that paper money, like metallic money and money in general, is a creature of the state. A state theory of money, having nothing to do with economic theory, is then formulated. Marx criticized the illusion on which it is based as follows:

The interference of the state which issues paper money as legal tender . . . seems to do away with the economic law. The state which in its mint price gave a certain name to a piece of gold of a certain weight, and in the act of coinage only impressed its stamp on gold, seems now to turn paper into gold by the magic of its stamp. Since paper bills are legal tender, no one can prevent the state from forcing as large, a quantity of them as it desires into circulation and from impressing upon it any coin denominations such as £1, £5, £20. The bills having once entered circulation, cannot be removed since, on the one hand, their course is hemmed in by the frontier posts of the country, and on the other hand, they lose all value, use value as well as exchange value, outside of circulation. Take away from them their function and they become worthless rags of paper. Yet this power of the state is a mere fiction. It may throw into circulation any desired quantity of paper bills of whatever denomination, but with this mechanical act its control ceases. [And therefore Knapp's theory ceases to be useful precisely at the point where the economic problem begins – R.H.] Once in the grip of circulation, and the token of value or paper money becomes subject to its intrinsic law.

The difficulty in understanding the matter comes from confusing the different functions of money with the different types of money (government paper money and credit, of which more later). It' was a defect of the quantity theory, from which not even Ricardo was free, that it confounded the laws of government paper money with those of circulation in general and the circulation of bank notes in particular. Today the opposite error is just as common. The quantity theory being rightly regarded as refuted, there is a reluctance to give due recognition to the influence of quantity on the value of money even where it really is the determining factor, as in the case of paper money and depreciated currency. All sorts of explanations are resorted to, and because no account is taken of the causal role of the social factor subjective explanations seek to ascribe the value of government paper to this or that credit evaluation. Since on the other hand, however, the intrinsic value of metallic money has to be vindicated, one cannot follow Knapp, because his theory would involve a general abandonment of all economic explanation. The result is that no satisfactory explanation has been advanced for overvalued money. Ricardo explained all changes in the value of money as a consequence of a change in its quantity. According to his theory such changes in the value of money occur very frequently, the value rising or falling inversely with the increase or decrease in its quantity. Every currency is therefore subject to depreciation or overvaluation; and overvaluation, as such, is not a problem for him. He says:

Though it [paper money] has no intrinsic value, yet by limiting its quantity, its value in exchange is as great as an equal denomination of coin, or of bullion in that coin. On the same principle, too, namely, by a limitation of its quantity, a debased coin would circulate at the value it should bear if it were of the legal weight and fineness, and not at the value of the quantity of metal which it actually contained. In the history of British coinage, we find, accordingly, that the currency was never depreciated in the same proportion that it was debased; the reason of which was that it never was increased in quantity in proportion to its diminished intrinsic value.

Ricardo's mistake consists in applying without modification the laws which regulate currency in a system of suspended coinage to a currency based on a system of free coinage. The majority of German monetary theorists are also guilty of confounding the two types of currency, but in an opposite sense; hence they have a bad conscience with regard to the quantity theory and continually fall back upon the old notions of the quantity theory whenever they deal with the circulation of bank notes, while rejecting any quantitative explanation when they deal with problems arising in a system of suspended coinage.

In contrast, Fullarton offers an interesting and essentially correct formulation of the problem in a system of restricted coinage. He presupposes :

the case of a nation having no commercial intercourse with its neighbours, maintaining no mint establishment for the renewal of its coin, but transacting its interior exchanges by means of an old and debased metallic circulation, which preserves a high rate of exchangeable value merely by limitation of its amount – of a nation making use, nevertheless, of the precious metals on a large scale for the purposes of ornament and luxury, and exporting yearly the products of its industry, to the value, say, of half a million sterling, to some distant mining country, for the purchase of an equivalent in gold and silver, to replace the annual tear and wear of its stock, and to meet an increasing demand for consumption. Under these circumstances, let it be imagined, that by some extraordinary improvement in the method of working the mines, or by the discovery of some new and richer veins of ore, the cost of procuring the gold and silver in the mining country were reduced to one half of what it had been before; that, in consequence of this discovery, the annual production were doubled, and the price of the metals on the spot lowered in a corresponding proportion, and that, in consequence of this change in circumstances, the merchants of the country first mentioned were, in return for the same quantity of exported goods which had hitherto been merely sufficient for the purchase of gold and silver to the amount of the required half-million, enabled to procure and bring home a million of those metals – what would be the effect? I certainly am not aware that any effect would be produced, under such circumstances, differing materially from the effect of an oversupply of any other equally durable commodity. The previous annual consumption of gold and silver in the country, for plate, gilding, and trinkets having been fully supplied by an importation to the value of half a million, there would be no purchase for more until a new demand should be created by a reduction of price; the prices, accordingly, of the newly imported stock of metals, as estimated in the base currency, would decline with more or less rapidity, as the merchants might be more or less eager to realize their returns . . . . But, all this time, the price of every other commodity but gold and silver, as measured in the local currency of the country, would remain unmoved; and, unless some of the surplus stock of the metals thus acquired could be turned to account in commercial exchange with some third country less favorably circumstanced for procuring its supplies of gold and silver direct from the mines, the importing country would derive no advantage from these periodical accessions of metallic wealth, beyond such gratification as can be derived from the more generally diffused application of gold and silver to domestic uses.

This, in theoretical form, is the case of overvaluation as found in the Austrian silver guilder. But Fullarton fails to show that the quantitative ratios are determined by the social minimum of circulation.

He then proceeds to investigate the fundamentally different conditions which would prevail under what we today would call a system of free coinage:

But let us next picture to ourselves the effect which a similar succession of incidents would produce in a country more advanced in its commercial relations, and with its monetary system on a more improved footing, possessing already a full metallic circulation of standard weight and fineness, an unrestrained traffic in metals, and a mint open for coinage of all the standard bullion which might be brought to it. Under such circumstances, the effect of a sudden duplication of the annual supply from the mines would be very different. There would, in that case, be no rise of the market price of bullion, for the price of gold, measured in coin of the same metal, of equal fineness, can never vary; they may both rise or fall together, as compared with commodities, but there can be no divergence. Neither would there be any unusual pressure on the bullion market in consequence of the increased importation, nor, at least in the first instance, any inducement to a larger consumption of the imported metals in the arts. The market would take off at par nearly such proportion of the importation as had hitherto sufficed for the purposes of consumption, and the rest would all be sent to the mint for coinage, yielding an enormous accession of wealth to importers, who, to the extent of the means thus placed in their hands, would immediately become competitors for every description of productive investment in the market as well as for all material objects which contribute to human enjoyment. But as the supply of such objects is always limited, and would in no way be augmented by this great inundation of circulating coin, the inevitable results would be first, a decline of the market rate of interest; next, a rise in the value of land and of all interest-bearing securities; and lastly, a progressive increase in the prices of commodities generally, until such prices should have attained a level corresponding with the reduced cost of procuring the coin, when the action on interest would cease, the new stock of coin would be absorbed in the old, and the visions of sudden riches and prosperity would pass away, leaving no trace behind them but in the greater number and weight of coin to be counted over on every occasion of purchase and sale.

Still another characteristic type of overvaluation of money remains to be mentioned: characteristic because it occurs automatically, without any state intervention. During the last credit crisis in the United States, in the autumn of 1907, there suddenly appeared a premium on money; not merely on gold money, but on all types of legal tender (gold and silver coins, government paper greenbacks, and bank notes). Initially the premium amounted to more than 5 per cent. The facts are set forth in the following dispatch from New York to the Frankfurter Zeitung, 21 November 1907.

In a good many American commercial centres, cash payments have ceased completely and private money certificates are used there instead. In a few instances, payments are made partly in cash and partly in these certificates. In many places cash circulates only as small change. In 77 American cities, emergency money has been issued; either in the form of clearing house certificates or bank cheques specially issued for the occasion, mostly however, the former type. Before the crisis, perhaps only a dozen American cities had clearing house institutions, but they have now been established in some hundred places. As soon as the crisis broke out in New York, the money institutions in these places combined for common protection against the impending danger. Departing from the practice of New York, where clearing house certificates were issued only for large sums, these clearing institutions created emergency money intended for general use, in denominations of 1,2,5 and 10 dollars, suitable for use in small transactions. These money tokens circulate unhindered in the vicinity of the clearing houses. Workers accept them as wages, merchants in payment for goods, and so forth. They pass from hand to hand and usually there is only a small discount on them as compared with cash. How great the dearth of cash was even in New York, is shown, for example, by the fact that even the powerful Standard Oil Company has had to pay its workers in certified cheques. Only in transactions with government agencies is emergency money not used. Public agencies insist on legal tender payments, so that cash money has to be obtained. This is the main reason for the premium on cash money. During the last few days, when the American Sugar Refining company could not muster sufficient cash to clear a shipment of sugar through the customs, it had to close down several establishments for a day or two.

What is unique in this occurrence is that the quantity of means of circulation available became inadequate for the needs of commerce. The credit crisis provoked a strong demand for cash payments because there was a disturbance in the settlement of balances by credit money (bank drafts, etc.), and a passion for cash money ensued. At the very moment when circulation required more cash, it disappeared from circulation, to be hoarded as a reserve. In place of the vanished money, an effort was made to create new money in the form of clearing house certificates which were actually notes issued under a common guarantee by the banks belonging to the clearing house. The legal restriction on the issue of notes was simply ignored contra, or at least praeter legem, just as, in a similar case in England, the Peel Act [The Cash Payments Act of 1819.Ed.] was suspended. But this credit money was not legal tender, and cash money was insufficient. Hence, the latter was soon overvalued and remained overvalued (it commanded a premium) until gold imports from Europe, the reestablishment of normal credit conditions, and the enormous contraction of circulation immediately after the crisis, eliminated the 'money famine' and transformed it into a condition of great cash liquidity. The amount of the premium varied, depending upon the social value in circulation. It is characteristic that the premium was the same both for paper and metal ; the best evidence that it had nothing to do with an increase in the value of gold.

The issue of legal tender paper money is a well-known and frequently used means for the state to meet its debts when no other means are available. Above all, paper money drove full value metallic money out of circulation, the latter being sent abroad to meet, for example, war expenditures. Continued issues of paper money then led to its depreciation. The quantity theory, then, holds good for a currency with suspended coinage. After all, the theory was formulated as a generalization of the experience with unsettled currencies at the end of the eighteenth century in America, France and England. In such cases, one may also speak of inflation, of a circulation glut, and (in specific cases) of a shortage of the means of circulation. In contrast to this, under a system of free coinage inflation is impossible even when the minimum of circulation is amply covered by legal tender paper money. Convertible credit money, when present in surplus amounts, reverts back to the point of issue ; and the same happens to gold itself, which is accumulated in the coffers of the banks as a gold reserve. As a universal equivalent, gold is both a universally valid and always coveted form of value and wealth accumulation. It would be senseless to accumulate legal tender paper money, since it appears as value only in the domestic circulation of a country. Gold, on the other hand, is an international money and constitutes a reserve for all expenditures. Hence its accumulation is always a rational act. Gold is an independent bearer of value even when it is not in circulation. Paper money, on the other hand, acquires a 'rate of exchange' only in circulation.

An over-issue of paper money is indicated whenever there is a diminution of its value in terms of the metal it represents. At any given moment, however, the volume of paper money is neither larger nor smaller than is required in circulation. Let us assume that circulation requires 1,000,000 guilders but that state expenditures have put 2,000,000 guilders into circulation. This would cause a 100 per cent rise in nominal prices which would absorb the 2,000,000 guilders. They would, of course, constitute a depreciated paper currency because they have been issued in excess quantities; but once issued they are absorbed into circulation. Hence, they cannot automatically drop out of circulation. Given a constant volume of commodities, the quantity of such paper money can be reduced only if the state destroys part of it, thus increasing the relative value of the balance which continues to circulate. For the state this would naturally mean a loss, just as the previous issue of paper had yielded a profit The essential thing to bear in mind in this case, is that under a system of suspended coinage and a depreciated or worthless medium of circulation, the entire sum of money must remain in circulation because, regardless of the volume issued, it derives its value from the commodities in circulation. The case is entirely different with free coinage. Money, in this case, enters or leaves circulation according to the prevailing demand for it, and if an excess occurs it is accumulated in the banks as a store of value. The assumption of the quantity theory that changes in value are caused by either an excess or deficiency of money in circulation must therefore be ruled out at once.

Under a system of pure paper currency, then, given a constant velocity of circulation, the sum of prices denoted by the paper money varies directly with the sum of commodity prices and inversely with the quantity of paper money issued. The same is true in a system of suspended coinage when the metal in circulation is depreciated. In the latter case, however, the proviso should be added that the price of the metal on the world market constitutes the lowest limit to its depreciation, so that even if there were an increased issue of the coin, its value would not fall below that limit. Furthermore, even under a system of gold currency in which free coinage (that is, the right of individuals to have their gold coined at any time) has been discontinued, the value of coin can increase in terms of uncoined bullion. In all such cases, the media of circulation are value tokens, rather than money or gold certificates. They do not acquire their value from a single commodity, as is the case in a system of mixed currency where paper is simply a gold certificate which acquires its value from gold, but instead the total quantity of paper money has the same value as the sum of commodities in circulation, given a constant velocity of circulation of money. Its value simply reflects the whole social process of circulation. At any given moment, all the commodities intended for exchange function as a single sum of value, as an entity to which the social process of exchange counterposes the entire sum of paper money as an equivalent entity.

From what has been said thus far, it also follows that a pure paper currency of this kind cannot meet the demands imposed on a medium of circulation for any extended period of time. Since its value is determined by the value of the circulating commodities, constantly subject to fluctuations, the value of money would also fluctuate constantly, Money would not be a measure of the value of commodities ; on the contrary, its own value would be measured by the current requirements of circulation, that is to say, by the value of commodities, assuming a constant velocity of circulation. A pure paper currency is, therefore, impossible as a permanent institution, because it would subject circulation to constant disturbances.

A system of pure paper currency might be envisaged in the abstract along the following lines. Imagine a closed trading nation which issues legal tender state paper money in a quantity sufficient for the average requirements of circulation, and further, that this quantity cannot be increased. The needs of circulation would be met, aside from this paper money, by bank notes etc., exactly as in the case of a metallic currency. By analogy with most modern legislation governing banks of issue, the paper money would serve as cover for these bank notes, which would also be covered by the resources of the banks. The impossibility of increasing the supply of paper money would protect it against depreciation. Under such circumstances, paper money would behave as gold does today; it would flow into the banks or be hoarded by individuals when circulation contracts, and would return to circulation when that expands. The minimum of circulating media required at any time would remain in circulation, while the fluctuations in circulation would be covered by an expansion or contraction of bank notes. The value of the state paper money would therefore remain stable. Only in the event of a collapse of the credit structure, and a monetary crisis, would there be any likelihood of an insufficiency in the amount of paper money. It would then command a premium, as was the case with gold and greenbacks during the recent monetary crisis in the United States.

In reality, however, such a system of paper currency is impossible. In the first place, this paper money would be valid only within the boundaries of a single state. For the settlement of international balances, metallic money with an intrinsic value would be required; and if this requirement is to be satisfied, the value of the money in domestic circulation must be kept on a par with the medium of international payments to avoid the disruption of commercial relations. This condition, incidentally, was fulfilled by the Austrian currency system and policy; and we may note that it is not necessary for this purpose to put metal into domestic circulation. Marx virtually foresaw this recent experience with currencies when he wrote:

All history of modern industry shows that metal would indeed be required only for the balancing of international commerce, whenever its equilibrium is disturbed momentarily, if only national production were properly organized. That the inland market does not need any metal even now is shown by the suspension of cash payments of the so-called national banks that resort to this expedient whenever extreme cases require it as a sole relief.

But this type of currency can never succeed in practice for the simple reason that there is no possible guarantee that the state will not increase the issue of paper money. Finally, money with an intrinsic value – such as gold – is always needed as a means of storing wealth in a form in which it is always available for use.

For this reason money and precious bullion, such as gold, can never be replaced completely by mere money tokens without introducing disturbances into the process of circulation. Hence, in practice, even under a system of exclusive paper currency, full value money is always available in circulation, if only for the purpose of making payments abroad. The paper currency can replace only the minimum quantity below which experience has shown that circulation does not fall. This is proof afresh, however, that the value of both money and commodities, far from being imaginary, is an objective magnitude. The impossibility of an absolute paper currency is a rigorous experimental confirmation of the objective theory of value, and only this theory can explain the peculiar features of pure paper currencies, and more particularly, of currencies with suspended coinage.

On the other hand, it is perfectly rational to substitute relatively worthless tokens for money of full value (gold) so long as it is done within the limits set by the minimum of circulation. For in the process C–M–C money is superfluous from the standpoint of its essential content, the social exchange of goods, and is only an unnecessary expense.

If paper money circulates in this volume, it does not represent the value of commodities but the value of gold, it is not a commodity token but a gold token. Within these limits, Marx's conclusions remain valid:

In the process C–M–C, in so far as it represents the dynamic unity or direct alternations of the two metamorphoses – and that is the aspect it assumes in the sphere of circulation in which the token of value discharges its function – the exchange value of commodities acquires in price only an ideal expression and in money only an imaginary symbolic existence. Exchange value thus acquires only an imaginary though material expression, but it has no real existence except in the commodities themselves, in so far as a certain quantity of labor time is embodied in them. It appears, therefore, that the token of value represents directly the value of commodities, by figuring not as a token of gold, but as a token of the value which exists in the commodity alone and is only expressed in its price. But it is a false appearance. The token of value is directly only a token of price,

i.e., a token of gold, and only indirectly a token of value of a commodity. Unlike Peter Schlemihl, gold has not sold its shadow but buys with its shadow. The token of value operates only in so far as it represents the price of one commodity as against that of another within the sphere of circulation, or in so far as it represents gold to every owner of commodities. A certain comparatively worthless object such as leather, a slip of paper, etc., becomes by force of custom, a token of money material, but maintains its existence in that capacity only so long as its character as a symbol of money is guaranteed by the general acquiescence of the owners of commodities, i.e. so long as it enjoys a legally established conventional and compulsory circulation. Paper money issued by the state and circulating as legal tender is the perfected form of the token of value, and the only form of paper money which has its immediate origin in metallic circulation, or even in the simple circulation of commodities.

Thus our hypothesis of a pure paper currency which exists without a gold complement has merely demonstrated once again that it is impossible for commodities to act as direct expressions of each other's value. On the contrary, it serves to demonstrate the need for advancing to a universal equivalent which itself is a commodity and therefore a value.

Obviously, if concerted action by producers is required to guarantee the validity of coined money, this is all the more true of paper money. The natural agency for this purpose is the state, for it is the only conscious organization known to capitalist society, which possesses coercive power. The social character of money then appears directly in the regulation of society by the state. At the same time, the limits of circulation for coins and paper money are set by the frontiers of the state. As international money, gold and silver function in terms of their weight.

3. Money as a means of payment. Credit money

Up to this point we have considered money only as a medium of circulation. We have shown that it is necessary for it to have objective value, that this necessity has limits, and that it can be replaced by money tokens. In the process of circulation, C — M — C, value appears in a double guise: as money and as a commodity. Now a commodity can be sold and paid for later. It can be transferred to another owner before its value is converted into money. The seller thereby becomes a creditor, and the buyer a debtor. As a result of this hiatus between sale and payment money acquires still another function; it becomes a means of payment. When this happens commodity and money do not necessarily have to appear simultaneously as the two parties to a sales transaction. In fact, the means of payment first begins to circulate when the commodity itself drops out of circulation. Money ceases to be an intermediary in the process but concludes it independently. If the debtor (buyer) has no money he must sell commodities to pay his debt, and if he cannot do this his property can be compulsorily sold. The value form of the commodity, money, thus becomes the essential purpose of the sale, through a necessity which itself arises from the relations of the circulation process. When money is used as a medium of circulation it facilitates the dealings between buyer and seller, and mediates their interdependence as members of society. But when it is used as a means of payment it expresses a social relationship which arose before it began to be used. The commodity is handed over and perhaps even consumed long before its value is realized in the form of money. The contraction of a debt and its repayment are separated by a period of time. This means that the money which is turned over in payment can no longer be regarded as a mere link in the chain of commodity exchanges or as a transitory economic form for which something else may be substituted. On the contrary, when money is used as a means of payment it is an essential part of the process. Thus, when M becomes a debt in the process C — M — C the seller of the first commodity can proceed with the second part of the cycle M — C only after debt M has been repaid. What was previously a simple transaction is now divided into two component parts, separated in time.

Needless to say, the seller has an alternative course. He can proceed with the purchase M — C by contracting, in turn, a debt for the M in anticipation of repayment for the original sale of his commodity. Should this payment fail to materialize, however, he may be forced into bankruptcy and drive his creditors into bankruptcy too. When money is used as a means of payment, therefore, it must continue to flow back to prevent the cancellation of the entire series of exchanges which has already been completed. The creditor has parted with a commodity even if the debtor does not pay the money. The social relationship, once brought into being by this transaction, cannot be undone. Nevertheless, it is rendered null and void for the individual owner of the commodity. He does not recover the value which he previously advanced, and in consequence he cannot acquire any new values, nor pay for those already acquired.

The function of money as a means of payment, therefore, presupposes a mutual agreement between buyer and seller to defer payment. The economic relation arises in this case from a private act. Purchase and sale have their counterpart in a second relationship between creditor and debtor, an obligation between two private individuals.

From another aspect, money used as a means of payment represents only a completed purchase and sale. In that case money functions only nominally as a measure of value, and payment is made later. When purchases and sales take place among the same people they can be cancelled out, and only the balance need be paid in money. When this happens money is only a symbol of value and can be replaced. But as a medium of circulation money simply mediated the exchange of commodities; the value of one was replaced by the value of the other. With this, the whole process was completed. This was a social process, an act by which the social exchange of objects is completed, and therefore unconditionally necessary in a particular context. Since gold money only mediated in this process it could be replaced by tokens which have the sanction of society (the state). When money functions as a means of payment, the direct substitution of one value for another is abolished. The seller has parted with his commodity without acquiring the socially valid equivalent, money, or another commodity of equal value which would have made the use of money in this act of exchange superfluous. All he has received is a promise to pay from the buyer, which is not backed by a social guarantee but only by the private guarantee of the purchaser. That he delivers a commodity against a promise is a private matter. What such a-promise is really worth can only be determined when it falls due and must be translated into cash. In the meantime, however, he has parted with a commodity in return for a promise of payment, that is a 'promissory note'. If others, in turn, are sure that the note will be redeemed, they may accept it in exchange for commodities. The note therefore serves as a medium of circulation, or means of payment, within the circle of those who accept such promises of payment at their face value, and who are bound together only by their personal, though for the most part well-founded, judgments. In short it functions as money, credit money. All these acts of exchange are finally and definitively concluded, in this circle, only when credit money is converted into real money.

In contrast to legal tender paper money which emerges from circulation as a social product, credit money is a private affair, not guaranteed by society; consequently, it must always be convertible into money. If its convertibility becomes doubtful it loses all its value as a substitute for the means of payment. Money, as a means of payment, can be replaced only by promises to pay, and these have to be redeemed to the extent that they do not balance out.

This accounts for the difference between the circulation of promissory notes and that of legal tender paper money. The latter is based upon the minimum social requirements of circulation. All requirements over and above this minimum are served by the circulation of notes which, since they depend on the sale of commodities at definite prices, are simply personal instruments of indebtedness, either cancelled against other notes or redeemed in money. The note is a private obligation which becomes transformed into a socially recognized valid equivalent. It has arisen from the use of money as a means of payment, replaces money by credit, by a private relation between contracting parties based upon a mutual confidence in each other's social standing and ability to pay. Such business transactions among individuals are not a prerequisite for state paper money. In fact, the opposite is true: where paper money is in use, an exchange is possible only with its help. When notes do not cancel each other out, the balance must be paid in cash if the exchange is to be socially valid, but there is no such requirement when an exchange is made with the use of state paper money. It is completely misleading to characterize paper money as a state debt, or as credit money, because it is not based upon a credit relationship.

If notes and state paper money are not subject to the same type of depreciation, it is because notes rest upon private obligation while paper money rests upon a social obligation. The sum total of state paper is an entity in which each element is, as it were, equally and uniformly responsible for the other. It can depreciate or appreciate only as a whole, with the same effect on all members of society. The endorsement of society stands behind the entire sum and is therefore uniform for all its component parts. Society, acting through its conscious organ, the state, establishes money as a medium of circulation. Credit money, on the other hand, is created by individuals in their business transactions, and functions as money only so long as it is convertible into money at all times. It is therefore possible for a single note to depreciate (notes do not appreciate) when such private transactions are not concluded in a socially valid manner and the note is not redeemed on the due date. Indeed, in that event, it may become entirely worthless, but only the individual note becomes worthless, and the depreciation affects only one other person, whose own obligations, moreover, remain unaffected.

Inconvertible paper money cannot be issued in excess of the minimum of circulation. The quantity of credit money depends only on the aggregate price of those commodities for which money functions as a means of payment. At given prices, its magnitude depends upon the volume of credit transactions, which is extremely variable. Since it must always be convertible, however, it can never depreciate in or through its relations with commodities. Convertible credit money (unlike inconvertible paper money) can never be depreciated merely because a large volume of it has been put into circulation, but only when it cannot be redeemed in money. The crucial test, therefore, is its convertibility. When that test comes, the owners of commodities, who had forgotten all about gold amidst their delightful `pieces of paper' now, as one man, make a mad rush for gold. 'On revient toujours a ses premiers amours!'

The number of promissory notes due for payment at any given time represents the total price of the commodities for which they were issued. The quantity of money necessary to pay this sum depends upon the velocity of circulation of the means of payment, and this is affected by two factors : (a) the chain of obligations between creditors and debtors, in which a payment to A from B will enable him to pay C and so on; and (b) the length of time between the dates when the various notes fall due. The closer together these dates are, the more often can the same piece of gold be used to make the various payments.

If the process C – M – C takes place in such a way that sales occur simultaneously and in the same place, the effect is to curtail the rate of turnover of the means of circulation, and thus to limit the possibility of substituting velocity for quantity. On the other hand, when payments are made simultaneously and in the same place they can offset one another, so that the quantity of money required as a means of payment is reduced. When these, payments are concentrated in one place, specialized institutions and methods for settling them come into existence spontaneously. The virements of medieval Lyons were one example of this. All that is required is that the various claims to payment be collated, in order to cancel each other out, up to a certain point, leaving only a residue to be settled in cash. The larger the volume of payments which are thus concentrated the smaller, relatively speaking, is the balance which must be paid in cash and the smaller too, therefore, is the required quantity of means of payment in circulation.

We have found that the volume of money in circulation, in the process C – M – C (including the gold which covers the minimum of circulation and which can be replaced by gold certificates), is equal to the sum of commodity prices divided by the average number of turnovers of a unit of money. Similarly, the volume of means of payment is equal to the sum of obligations incurred (which in turn is equal to the aggregate price of all the commodities from the sale of which the promissory notes arose) divided by the average number of turnovers of a unit of money used as a means of payment, minus the sum of payments which are offset against each other. Assuming the velocity of circulation at a certain time to be given, say 1, then the quantity of money to be used for all purposes is equal to the aggregate price of commodities entering into circulation, plus the sum of payments falling due, minus the payments which cancel out, and finally, minus the units of money which functioned first as a means of payment and then as a medium of circulation. If the volume of commodities turned over amounts to 1,000 million marks altogether, and payments due are the same; if 200 million marks serve first for payments and then for circulation; and if 500 million marks cancel out, then 1,300 million marks represent the necessary money which is required at that particular time. This is the amount which I call the socially necessary value in circulation.

The greater part of all purchases and sales takes place through this private credit money, through debit notes and promises to pay which cancel each other out. The reason why means of payment outweigh in importance the media of circulation is that the development of capitalist production has vastly complicated the circulation process, separated purchases and sales, and generally dissolved the old connection which used to tie purchases closely to sales.

Credit money originates in circulation, that is, in purchases and sales by capitalists. Its importance consists in making the circulation of commodities independent of the amount of gold available. In other words, credit money makes gold unnecessary as a medium of circulation for commodities which has to be physically present, and limits its function to that of settling the final balances.. These balances are immense in comparison with the amount of gold, and their final settlement is a function of special institutions. But as we have already noted, circulation is both a precondition and an outcome of capitalist production, which can be undertaken only after the capitalist has acquired the elements of production through an act of circulation. To the extent that circulation is independent of real money, it is also independent of the quantity of gold. Finally, since this gold costs labour and represents a large item of faux frais, it follows that the replacement of money constitutes a direct saving of unnecessary costs in the circulation process.

Because of its origin, the quantity of credit money is limited by the level of production and circulation. Its purpose is to turn over commodities, and in the final analysis, it is covered by the value of the commodities the purchase and sale of which it has made possible. But unlike state paper money, credit money has no inflexible minimum which cannot be increased. On the contrary, it grows along with the quantity of commodities and their prices. But credit money is nothing but a promise to pay. When a commodity is sold for gold, the payment of gold is the end of the transaction, value is exchanged against value, and further disturbances are excluded ; but in the case of credit money, the settlement is only a promise to pay. Whether promises of this kind can be honoured depends on whether or not debtors who have purchased commodities can resell them or sell other commodities of equal value. If an exchange act does not correspond to social conditions, or if these conditions have undergone a change in the interim, the debtor cannot meet his obligation and the promise to pay becomes worthless. Real money must now take its place.

It follows, therefore, that during a crisis the decline in commodity prices is always accompanied by a contraction in the volume of credit money. Since credit money consists of obligations assumed during a period of higher prices, this contraction is tantamount to a depreciation of credit money. As prices fall sales become increasingly difficult, and the obligations fall due at a time when the commodities remain unsold. Their payment becomes doubtful. The decline in prices and the stagnation of the market mean a reduction in the value of the credit money drawn against these commodities. This depreciation of credit instruments is always the essential element of the credit crisis which accompanies every business crisis.

The function of money as the means of payment implies a contradiction without a terminus medius. In so far as the payments balance one another, money functions only ideally as money of account, as a measure of value. In so far as actual payments have to be made, money does not serve as a circulating medium, as a mere transient agent in the interchange of products, but as the individual incarnation of social labour, as the independent form of existence of exchange value, as the universal commodity. This contradiction comes to a head in those phases of industrial and commercial crises which are known as monetary crises. Such a crisis occurs only where the ever-lengthening chain of payments, and an artificial system of settling them, has been fully developed. Whenever there is a general and extensive disturbance of this mechanism, no matter what its cause, money becomes suddenly and immediately transformed from its merely ideal shape of money of account into hard cash.

Legal tender paper money registers its greatest success when this devaluation of credit money has run its full course. Like gold coin, it is a legally established means of payment. The failure of credit money creates a gap in circulation, and the horror vacui requires that it be filled at all costs. When this happens it is a perfectly rational policy to expand the circulation of state paper money or the bank notes of the central bank, the credit of which has not been impaired. As we shall see in due course, these bank notes, thanks to legal regulation, enjoy an intermediate position between state paper money and credit money. In the event that such a policy is not followed, money (bullion or paper money) acquires a premium, as gold and greenbacks did in the recent American crisis.

In order to perform its task properly credit money requires special institutions where obligations can be cancelled out and the residual balances settled ; and as such institutions develop so is a greater economy achieved in the use of cash. This work becomes one of the important functions of any developed banking system.

In the course of capitalist development there has been a rapid increase in the total volume of commodities in circulation, and consequently of the socially necessary value in circulation. Along with this, the importance of the place occupied by legal tender state paper money has increased. Further, the expansion of production, the conversion of all obligations into monetary obligations, and especially the growth of fictitious capital, have been accompanied by an increase in the extent to which transactions are concluded with credit money. State paper money and credit money together bring about a great reduction in the use of metallic money in relation to the volume of circulation and payments.

4. Money in the circulation of industrial capital

We turn now to the role which money plays in the circulation of industrial capital. Our path does not lead to the capitalist factory, with its marvels of technology, but to the monotony of the recurrent market process, in which money changes into commodity and commodity into money, in the same endlessly repeated way. Only the hope that by this means we can discover the secret of how the processes of circulation themselves endow capitalist credit with the power eventually to dominate the whole social process, can give the reader courage to traverse patiently the 'stations of the cross' in the present chapter.

Money would be superfluous in circulation if aggregate prices were always constant; that is to say, if the volume and prices of commodities never changed and all commodities exchanged at their respective values. But this is an unattainable condition in an unregulated, anarchic method of production. On the other hand, consciously directed social production would make impossible the appearance of value as exchange value, as a social relationship between two things, and the use of money. Claims to the social product issued by society are no more money than is a theatre ticket which is a claim to a reserved seat. It is the nature of commodity production which makes money necessary as a measure of value and a medium of circulation.

Once money is used as a means of payment a complete mutual cancellation of payments at any given time must be seen as a sheer accident, which will never occur in reality. Money concludes independently the process of moving commodities from place to place. It is entirely arbitrary when the money received in payment for a commodity is itself transformed into a commodity, and the value of the first commodity is replaced by another. The link in the sequence C — M — C is broken. Money must necessarily intervene in the process in order to satisfy the requirements of the seller who does not necessarily intend to buy another commodity.

This disruption of the circulation process, which would seem to us arbitrary and accidental in a system of simple commodity circulation, becomes absolutely necessary in the sphere of capitalist commodity circulation. An analysis of the circulation of capital will demonstrate this.

Value becomes capital when it is used to produce surplus value. This is what takes place in the process of capitalist production based on the monopolization of the means of production by the capitalists and the existence of a free wage-earning class. The wage-labourers sell to the capitalist their labour power whose value equals the value of the means necessary for the subsistence and reproduction of the working class. Their labour creates new value, one part of which replaces the capital advanced by the capitalist for the purchase of labour power (Marx calls it variable capital) and the other accrues to the capitalist in the form of surplus value. Since the value of the means of production (constant capital) is simply transferred to the product in the course of the labour process, the value which the capitalist advanced for production has increased, has become value-breeding value, has confirmed itself as capital.

All industrial capital goes through a circular flow, but the only thing which is of interest to us in the present context is the change in form which it undergoes. The creation of surplus value, the valorization of capital, is of course the rationale of the process. This is accomplished in the process of production, which has a double function in capitalist society: (1) as in every form of society, it is a labour process which produces use values; (2) but at the same time it is a value-creating process, characteristic of capitalist society, in which the means of production are employed as capital to produce surplus value. Marx has given us an exhaustive analysis of this process in the first volume of Capital. Our present inquiry, however, need concern itself only with the transformation of the form of value rather than with its origin. This transformation does not affect the magnitude of value, the increase of which occurs in production, but concerns the sphere of circulation. There are only two forms which value can assume in a commodity-producing society: the commodity form and the money form.

If we examine the cycle of the capitalist process we find that every capital makes its debut as money capital. Money intended for use as capital is converted into commodities of various kinds (C), comprising means of production (Mp) and labour power (L). These are then put to use in production (P) which, as such, does not involve any transformation in the form of value. The value remains a commodity. But in the production process, first, the use value of the commodity is changed (which does not affect value at all), and second, the value is increased by the expenditure of labour. The original value of the commodity is increased by the addition of surplus value, and it is in this expanded form (C₁) that it emerges from the place of production to experience its second and last change of form, when it is converted into money (M₁).

The cycle of capital, then, consists of two phases of circulation, M–C and C₁–M₁, and one phase of production. In circulation, it appears as money capital and commodity capital; in production, as productive capital. The capital which passes through all these metamorphoses is industrial capital.

Money capital, commodity capital, and productive capital are not distinct types of capital, but merely particular functional forms of industrial capital. Thus we get the following schema: M–C–P . . . . C₁–M₁.

The original form of every new capital is money capital. Money does not bear a label announcing it as capital. What makes it capital is the fact that it is intended for conversion into the elements of productive capital. Otherwise it is only money and can only fulfil money functions, as a means of circulation or payment.

We have already seen that the function of money as a means of payment may also include credit relationships. M–C, the first stage of the circulation process of capital is divided into two parts : M–Mp and M–L. Since the wage-labourer lives only by the sale of his labour power, the maintenance of which requires daily consumption, he must be paid at relatively short intervals, so that he can make the purchases necessary for his sustenance. Consequently, in dealing with him the capitalist must be in the position of a money capitalist and his capital must consist of money. Credit plays no role here.

The same is not true, however, of the process M–Mp ; in this case, credit can play a greater part. Means of production are purchased in order to realize value. The money spent for them has only been advanced by the capitalist. It is intended to return to him at the end of the period of circulation, and in the normal course of events it will return increased in amount. Since money, therefore, is only advanced by the capitalist, and returns to him, it can also be advanced to him, i.e. lent. This, in general, is the basis of production credit : money is loaned only on condition that it is used by the borrower in such a way that in normal circumstances it will return to him. The security for the loan consists of the commodities for the purchase of which the money has been advanced.

We are concerned at this point only with credit which arises from commodity circulation itself, from the change in the function of money, and its transformation into a means of payment after being a medium of circulation. For the present, therefore, I shall not consider the type of credit which arises from the division of the functions of the capitalist between the pure money owner and the entrepreneur. When money is advanced by the money capitalist to the entrepreneur, the advance is only a transfer; there is no change in its amount. Such a change may well take place, however, in the case which concerns us at the moment. The seller of the means of production credits the customer with commodities, and in return receives a promise to pay in the form of a note. When the note falls due, the capitalist may perhaps be able to repay the capital advanced to him from the proceeds of its circulation. Under these circumstances, his total capital can be smaller than it would have to be if credit were not available. Credit, then, has increased the power of his own capital.

But the existence of credit in no way changes the fact that capital must have the form of money in order to be able to buy commodities. It merely reduces the quantity of metallic money that would otherwise be required for exchange, in so far as payments cancel each other out. But this quantity does not depend at all upon the fact that money is being used as capital in this transaction; it is determined by the laws of commodity circulation. Other things being equal, the quantity of money advanced is determined by the aggregate price of the commodities which have to be bought. Thus, an increase in the quantity of capital advanced simply denotes an increase in the purchase of commodities intended for use as productive capital (Mp + L) ; that is, an increased volume of media of circulation and payment.

Two opposed tendencies are at work in the case of an increase of this kind. During a period of prosperity, a rapid accumulation of capital is accompanied by an increased demand for certain commodities and consequently by an increase in their prices, which makes necessary an increase in the quantity of money. On the other hand, credit also grows in such a period, since regular returns seem to assure the valorization of capital, and there is a greater readiness and opportunity to make credit available. The expansion of credit makes possible a rapid growth of circulation beyond what would be possible on the basis of metallic money.

This is true, naturally, only of the process M–Mp ; not of the process M–L. With the growth of variable capital there is a corresponding increase in the amount of extra money which serves consumers' purchases and flows into circulation. It is evident that as capitalist production develops there constantly takes place an absolute, and even more a relative, increase in the use of credit. The latter is accounted for by the progress toward a higher organic composition of capital, in which the growth of M–Mp outpaces the growth of M–L, with the resulting more rapid increase in the use of credit as compared with the use of cash.

Thus far, in our examination of the cycle, we have not observed credit performing any new function. This changes, however, when we consider the influence of the rate of turnover upon the magnitude of money capital. For we shall soon see that sums of money are periodically set free during the cycle. Since idle money can yield no profit, the attempt is constantly being made to prevent such idleness; and this task can be accomplished only by credit, which thereby acquires a new function. It is to this new function of credit that we must now direct our inquiry.

The periodic release and idleness of money capital

The movement of capital through the sphere of production and the two phases of circulation takes place in a sequence of time. The duration of its sojourn in the sphere of production constitutes its production time, that of its stay in the sphere of circulation its time of circulation. The entire time of rotation is therefore equal to the time of production plus time of circulation.

The rotation of capital, considered as a periodical process, not as an individual event, constitutes its turnover. The duration of this turnover is determined by the sum of its time of production plus its time of circulation. This sum constitutes its time of turnover.

In our schema, the time necessary to complete the process M–M, therefore, constitutes the turnover time, which is equal to the time required by the transactions M–L and M–Mp plus the time required by C₁–M₁; while production time proper is equal to the time in which capital as productive capital (P) engages in the process of generating value.

Let us assume that the turnover time of a given capital is nine weeks, of which production takes six weeks, and circulation three weeks, and that 1,000 marks are required for production each week. If production is not to be interrupted for three weeks (the period of circulation) at the end of the period of production, the capitalist must advance a new capital of 3,000 marks (capital II), for during the three weeks in which the capital is in circulation it does not exist at all so far as production is concerned.

The period of circulation therefore calls for additional capital, and this additional capital stands in the same ratio to the total capital as the circulation time stands to the turnover time; in our example, a ratio of 3 :9. The additional capital would therefore amount to one-third of the total capital.

The capitalist, then, must have at his disposal 9,000 marks, rather than 6,000, in order to avoid the suspension of production for three weeks. But the additional 3,000 marks first begins to function at the beginning of the circulation time, in the seventh week, and hence must lie idle for the first six weeks. This periodic release and idleness of 3,000 marks goes on unceasingly. The 6,000 marks which were transformed into commodity capital in the first working period are sold at the end of the ninth week. The capitalist now has 6,000 marks in hand. By this time, however, the second working period, which began in the seventh week, is half completed. During this time the additional capital of 3,000 marks has gone to work, and to complete this second period, only 3,000 marks are required, and this sum is provided by releasing again half of the original 6,000 marks. The process now repeats itself again and again.

Additional capital, money capital used to purchase means of production and labour power, has become necessary in order to maintain the continuity of production, and to prevent its interruption by the circulation of capital. The additional capital itself does not generate surplus value continuously and to that extent does not really function as capital. The mechanism of rotation has simply set it free for a time so that it can function during the rest of the time.

Looking at it from the point of view of the aggregate social capital, there will always be a more or less considerable part of this additional capital for a prolonged time in the form of money capital.

And this released capital is equal to that portion of capital which has to fill out the excess of the circulating period over the working period or over a multiple of working periods.

The advent of the additional capital [3,000 marks] required for the transformation of the circulation time of capital I [6,000 marks] into a time of production increases not only the magnitude of the advanced capital and the length of time for which the aggregate capital must necessarily be advanced, but it also increases specifically that portion of the advanced capital which exists in the form of a money supply, which persists in the condition of money capital, and has the form of potential capital.

These 3000 marks are not necessarily the entire amount of money capital lying idle at any given moment. Assume that our capitalist divides the 6,000 marks required at the beginning of the period of production into 3,000 marks for the purchase of means of production and 3,000 marks for wages. He pays his workers weekly, which means that once a week, until the end of the sixth week, the sum is reduced by 500 marks, the balance remaining idle during the interim. Similarly, it is possible that he will not pin-chase some of the means of production (say, coal) in bulk at the beginning of the period of production, but will buy it in successive instalments during production. Conversely, it may happen that market conditions or delivery practices dictate purchases in excess of the requirements of a single period of production, in which case it would be necessary to convert a larger part of money capital into commodity capital.

In so far as process does not require that money be immediately transformed into labour power and means of production, idle money capital comes into existence, quite apart from the additional capital II. One part of this money concludes that act M–C, while another part remains in monetary form in order to be used for simultaneous or successive acts of M–C when conditions require it. This second part is only temporarily withdrawn from circulation, in order to become active at an appropriate time. This hoarding is, therefore, a state in which money continues to exercise one of its functions as money capital. Although it is temporarily inactive it still forms part of the money capital (M) which is equal to the value of the productive capital from which the cycle began. On the other hand, all the money which has been withdrawn from circulation exists in the form of a hoard.

In the form of a hoard, money is thus likewise a function of money capital, just as the function of money in M–C as a medium of purchase or payment becomes a function of money capital. For capital value here exists in the form of money, and the money form is a condition of industrial capital in one of its stages, prescribed by the interrelations of processes within the cycle. At the same time, it is here once more obvious that money capital performs no other functions than those of money within the cycle of industrial capital, and that these functions assume the significance of capital functions only by virtue of their interrelations with the other stages of this cycle.

A third very important reason for money capital lying idle arises from the manner in which capital flows back from the process of realization. Here two principal causes should be distinguished. Looked at from the point of view of its turnover, industrial capital may be divided into two parts.. One is completely consumed during a single turnover period and its value is transferred in toto to the product. In a spinning mill, for example, in which 10,000 pounds of yarn are produced monthly and sold at the end of the month, a corresponding value of cotton, lubricants, lighting gas, coal, and labour power is consumed during the month and their value returns to the capitalist when the yarn is sold. This portion of capital which is replaced during a single turnover period is circulating capital. On the other hand, installations, machinery, etc., are also needed for production, and these continue their productive service over many periods of turnover. Hence, only a part of their value, equal to _the average depreciation for a single turnover period, is transferred to the product. If their value is, say, 100,000 marks, and their functional life 100 months, then 1,000 marks will be taken from the sale of the yarn for replacement of installations and machinery. The part of the total capital which thus functions over a series of turnover periods is fixed capital.

The owner of the spinning mill therefore, receives a steady flow of money from circulation which he uses for the replacement of his fixed capital. He must hold it in the form of money until 100 months have elapsed, at which time it will amount to the 100,000 marks required for the purchase of new machinery, etc. The process, therefore, constitutes still another occasion for the formation of a hoard, which is itself

a factor in the capitalist process of reproduction; it is the reproduction and storage, in the form of money, of the value of its fixed capital, or its individual elements, until such time as the fixed capital, shall be worn out, until it shall have transferred its entire value to the commodities produced, and must be reproduced in its natural form.

Obviously, then, some capitalists are always withdrawing money from circulation as replacement for the consumed value of the fixed capital. The essential thing here is the money form. The value of the fixed capital can be replaced in money form only because the fixed capital itself can continue to function in production without having to be replaced in kind. It is thus the particular form of the reproduction of fixed capital which makes money necessary in this connection. In the absence of money, it would not be possible to separate the circulation of the value of fixed capital from its technical continuity in production. The manner in which fixed capital is renewed thus requires periodic hoarding, and hence also the periodic idleness of money capital.

The capitalist mode of accumulation supplies the final cause of the release of money capital which is of interest to us here. Surplus value must attain a certain volume, depending upon the prevailing technical and economic conditions of an enterprise, before it can begin to function as capital, either in the expansion of existing enterprises or the formation of new ones. Every cycle ends with surplus value in money form. As a rule, a whole series of cycles is required before the realized surplus value is large enough to be converted into productive capital. The result is idle money capital which originates in production and must remain in money form until such time as it can be put to productive use.

Hoarding can occur even in simple commodity circulation. All that is required is that in the sequence C – M – C, the second part, M – C, should fail to take place; that the seller of the commodity refrains from buying other commodities and hoards his money instead. But this kind of action seems quite accidental and arbitrary, whereas in the circulation of capital such hoarding is essential and ensues from the nature of the process itself. Another difference between the two types of circulation is that in the circulation of capital not only are means of circulation set free and hoarded, but also money capital which was a stage in the valorization process and a potential starting point for a new cycle of production. In this way pressure is exerted on the money market.

Thus there arises from the very mechanism of capital circulation the necessity for a larger or smaller amount of money capital to remain idle for longer or shorter periods. During these periods of inactivity, of course, it can earn no profit – a mortal sin from the standpoint of capitalists. As inmost cases of sinning, however, the extent to which capital commits this sin depends upon objective factors, which we must now consider.

The changing volume of idle capital and its causes

As we already know, additional money capital which periodically lies idle is required in order to continue production during the turnover period. In our first example, if the period of turnover were reduced from three to two weeks, 1,000 marks would become superfluous and would therefore be withdrawn in the form of money capital. It would then enter the money market as an addition to the capital already there. Prior to its release, only part of the 1,000 marks was in money form, namely the 500 marks which served to purchase labour power. The balance of 500 marks had been used to purchase means of production and therefore existed in commodity form. The entire sum, in the form of money, is now disengaged from this cycle.

The 1,000 marks thus withdrawn in money now form a new money capital seeking investment, a new constituent part of the money market. True, they were previously periodically in the form of released money capital, and of additional productive capital, but these latent forms were the conditions for the promotion and continuity of the process of production. Now they are no longer needed for this purpose, and for this reason they form a new money capital and a constituent part of the money market, although they are neither an additional element of the existing social money supply (for they existed at the beginning of the business and were thrown by it into circulation) nor a newly accumulated hoard.

This shows how, given a constant money reserve, any increase in the supply of money capital must be the result of an abbreviation of the turnover period. Money, having once served as capital, is fated to return to that role.

Conversely, if the turnover period were prolonged, say for another two weeks, an additional capital of 2,000 marks would be required. This sum would have to be obtained from the money market in order to re-enter the cycle of productive capital (including its circulation). Of this sum, half would be gradually converted into labour power,- and the other half, perhaps all at once, would be invested in means of production. Any prolongation of the turnover period therefore produces an increased demand in the money market.

The most important factors which affect the turnover period itself are the following :

To the extent that the greater or smaller length of the period of turnover depends on the working period, strictly so called, that is to say, on the period which is required to get the product ready for the market, it rests on the existing material conditions of production of the various investments of capital. In agriculture, they partake more of the character of natural conditions of production; in manufacture and in the greater part of extractive industry they vary with the social development of the process of production itself.

Two tendencies are at work here. The development of technology shortens the working period and makes it possible to finish a product and bring it to the market with greater speed. In the case of particular products, the scale of production is enlarged and a larger capital is turned over more rapidly. Technological progress thus shortens the working period and accelerates the turnover of circulating capital and of surplus value. At the same time, however, this progress also means an increase of fixed capital, which has a longer turnover period, spanning many turnover periods of circulating capital. Since fixed capital tends to increase more rapidly than circulating capital, the result is that a growing proportion of the total capital has a slower rate of turnover. Leaving aside credit, this slowing down of the rate of turnover provides another reason – in addition to the expansion of the scale of production itself – for an increased advance of money capital, of which a larger proportion, however, would remain unoccupied and available.

To the extent that the length of the working period is conditioned on the size of the orders (the quantitative volume in which the product is generally thrown upon the market), this point depends on conventions. But convention itself depends for its material basis on the scale of production, and it is accidental only when considered individually.

In this connection, too, the quantity produced generally increases and with it the requirements for money capital. Nevertheless, it should be observed that technological progress makes it possible to produce a larger volume of commodities at lower prices, and this may reduce the capital outlay required.

Finally, so far as the length of the period of turnover depends on that of the period of circulation, the latter is indeed conditioned on the incessant change of market conditions, the greater or lesser ease of selling, and the resulting necessity to throw a part of the product on to more or less remote markets. Apart from the volume of general demand, the movement of prices plays here a principal role, since sales are deliberately restricted when prices are falling, while production continues; and conversely, production and sales keep in step when prices are rising, or sales may even be made in advance. But we must consider the actual distance of the place of production from the market as the real material basis.

Since profit originates in production and is only realized in circulation, there is a never-ending search for ways and means of converting the greatest possible amount of capital into production capital. This accounts for the tendency to reduce the costs of circulation to a minimum, first by substituting credit money for metallic money, and second by reducing the circulation time itself, by improving commercial methods and selling products as quickly as possible. There is also a counter-tendency resulting from the expansion of markets and the development of the international division of labour, but the effect of these factors is moderated in turn by the development of transport facilities.

Finally, it should be emphasized that the length of the period of capital turnover is the decisive factor which determines the rapidity with which surplus value is reconverted into capital and accumulated. The shorter the turnover period the more rapidly can surplus value be realized in the form of money and converted into capital.

The factors mentioned above – the organic composition of capital (especially the ratio of fixed to circulating capital), the development of commercial methods which reduce the turnover time, the improvement of means of transportation which achieves the same result (though it also has the opposite effect when it opens up distant markets), periodic business fluctuations which change the rate at which money flows back, and finally, changes in the speed of productive accumulation – all play some part in determining the quantity of idle capital and the period of its inactivity.

Still another important factor is the influence exerted by changes in commodity prices. If the price of raw materials falls, the capitalist (in our example) need not advance the weekly sum of 1,000 marks, but only, say, 900 marks, in order to continue production on the same scale. His capital for the whole turnover period would then be 8,100 marks rather than 9,000 marks, leaving 900 marks free.

This eliminated, and now unemployed, capital which seeks investment in the money market, is nothing but a portion of the originally advanced capital [of 9,000 marks]. This portion has become superfluous by the fall in the price of the materials of production so long as the business is carried along on the same scale and not expanded. If this fall in prices is not due to accidental circumstances such as a rich harvest, oversupply, etc., but to an increase of productive power in the line which supplies the raw materials, then this money capital is an absolute addition to the money market, or in general to the capital available in the form of money capital because it no longer constitutes an integral portion of the capital already invested.

Conversely, a rise in the price of raw materials would necessitate additional money capital and would increase the demand on the money market.

It is evident that the factors we have just considered are of great importance for the development of the money market during the periodic fluctuations caused by the business cycle. At the beginning of a period of prosperity, prices are low, the turnover of capital is very rapid and the time of circulation is short. As the upswing approaches its peak, prices rise and the circulation time is extended. There is a stronger demand for credit in circulation, while at the same time the demand for capital credit has increased as a result of the expansion of production. The extended circulation time and the rise in prices make additional capital necessary, and this must be obtained from the money market, thus reducing the amount of loan capital available.

Along with its progress toward a higher organic composition, the general turnover time of the capital generally increases. Both the quantity of capital and the period of time during which it is engaged in production increase. A longer time elapses before the capital which has been advanced returns to its starting point again. For example, if the turnover time is ten weeks, the capitalist must advance 10,000 marks. If he introduces a new method of production which requires an advance of 60,000 marks and has a turnover time of thirty weeks, he would need to draw 60,000 marks from the money market. The capital, increased sixfold, would have to be advanced for thrice the length of time.

The longer the turnover time of the capital the longer it takes for the equivalent value of the commodities (means of production and means of subsistence for the workers) withdrawn from the market, to return to the market in the form of commodities. Thus commodities are withdrawn from the market and money takes their place. Money is now not an ephemeral but an enduring value form for the commodities withdrawn from the market. Its value has become independent of the commodity. The commodity value must now be replaced absolutely by money, since its replacement by another commodity can only follow at an entirely different point of time.

If we assume that society were not capitalist but communist, then money capital would be entirely eliminated, and with it, the disguises which it carries into the transactions. The question is then simply reduced to the problem that society must calculate beforehand how much labour, means of production, and means of subsistence it can utilize without injury for such lines of activity as, for instance, the building of railways, which do not furnish any means of production or subsistence, or any useful thing, for a long time, a year or more, while they require labour and means of production or subsistence out of the annual social production. But in capitalist society, where social intelligence does not act until after the fact, great disturbances will and must occur under these circumstances. On the one hand there is pressure on the money market, while on the other an easy money market creates just such enterprises in mass that bring about the very circumstances by which a pressure is subsequently exerted on the market. A pressure is exerted on the money market, since an advance of money for long terms is always required on a large scale. And this is so quite apart from the fact that industrialists and merchants invest the money capital needed for carrying on their business in railway speculation, etc., and reimburse themselves by borrowing on the money market. On the other hand, there is a pressure on the available productive capital of society. Since elements of productive capital are continually withdrawn from the market and only an equivalent in money is thrown on the market in their place, the demand of cash payers for products increases without providing any elements of supply. Hence a rise in prices of means of production and of subsistence: To make matters worse, swindling operations are always carried on at this time, involving the transfer of large sums of capital.. . .

In such circumstances, variations in the rate of turnover constitute a disturbing factor in the proportionality of reproduction, and thereby, as will be shown later, an element in crises.

Our investigation so far has therefore yielded the following conclusions : (1) a portion of the total social capital devoted to production is always lying idle in the form of money capital; (2) the magnitude of this idle money capital is subject to great variations which exert an immediate influence on the demand for and supply of money capital in the money market. But the existence of idle money is in contradiction with the very function of capital, which is to produce profit. Hence every effort is made to reduce this idleness to a minimum, and this task constitutes yet another function of credit.

The transformation of idle money into active money capital by means of credit

It is easy to see how credit can perform this function. We have seen already that money capital is periodically released in the cycle of capital. Once released from the cycle of any one individual capital, it can function as money in the cycle of another capital if it is made available to other capitalists in the form of credit. In other words, this periodic release of capital is an important basis for the development of the credit system. All the factors, therefore, which have led to the idleness of capital now become so many causes for the emergence of credit relations, and all the factors which affect the quantity of idle capital also determine the expansion and contraction of credit.

If, for example, there are interruptions in the cycle of any capital which cause it to remain in the form of money capital, a potential supply of money capital comes into existence and can be made available to other capitalists through the medium of credit. Such is the case in discontinuous processes of production, like those which prevail in the seasonal industries, whether as a result of natural causes (in agriculture, the herring catch, sugar production, etc.) or of conventional arrangements (where there is, for example, so-called seasonal work). Every release of money capital involves the possibility of applying this capital, by means of credit, to other productive purposes beyond those of the individual capital which released it.

If, on the contrary, the interruption occurs at a point in the cycle where no money capital is released, then the reverse holds true. The continuity of the process can only be maintained if recourse can be had to liquid reserves, or, where a developed credit system exists, to credit.

On the one hand, the nature of the cycle creates the possibility of granting loans for use as capital. But since money is always needed to defray the cost of circulation, and capitalist production has a tendency to expand more rapidly than the supply of money capital, the resort to credit becomes a necessity. On the other hand, every disturbance in the process of circulation, every prolongation of the process C–M or M–C, makes an additional reserve capital essential to maintain the continuity of the production process.

I have already noted that the quantity of money depends, ceteris paribus, on the aggregate price of commodities in circulation. Any changes in value which occur while capital is going through its cycle will therefore affect the quantity of money capital. If prices rise, the additional money capital is tied up; if they fall, money capital is released.

But to the extent that these disturbances increase in volume, the industrial capitalist must have at his disposal a greater money capital in order to tide himself over the period of compensation ; and as the scale of each individual process of production, and thus the minimum size of the capital to be advanced, increase in the process of capitalist production, we have here another circumstance in addition to those others which transform the functions of the industrial capitalist more and more into a monopoly of great money capitalists, who may be individuals or associations.

Credit which is thus based upon the release of money capital is radically different from the commercial credit which originates only from the changed function of money in simple commodity circulation. This subject requires a closer examination.

5. The banks and industrial credit

Credit first appears as a consequence of the changed function of money as a means of payment. When payment is made some time after the sale has taken place, the money due is credited for the intervening period. Naturally, this form of credit presupposes commodity owners and, in a developed capitalist society, productive capitalists. Assuming that we are dealing with a single isolated example of this practice this simply means that capitalist A has enough reserve capital to wait for payment from B who did not have the necessary cash at the time of the purchase. In this kind of unilateral advance of credit, A must have available the sum of money which B will have to pay when the debt falls due. Money is not economized thereby; it is merely transferred. Things are different if the promissory note itself functions as a means of payment. To take an example; if A not only advances credit to B, but also receives credit from C by giving him B's note, C can use that note to make any payments he owes to B. Sales and purchases between A and B, A and C, C and B have taken place without the intervention of money. Money is therefore saved, and since this money must have been in the possession of productive capitalists as money capital for the circulation of their commodity capital, it follows that for them money capital has been saved, The promissory note, in other words, has replaced money by performing the work of money, by functioning as credit money. A large part of the circulation processes, including the largest and most concentrated operations, take place among the productive capitalists, and all these transactions can, in principle, be accomplished by promissory notes or bills of exchange. The majority of such bills cancel out and hence only a small amount of cash is required to settle the balances. In this case productive capitalists are mutually providing each other with credit. What the capitalists lend each other is commodities, which constitute for them commodity capital. At the same time, however, these commodities are looked upon as mere bearers of a given amount of value, which is assumed to have been realized in its socially valid form at the time of sale. In other words, they are regarded as the bearers of a specific sum of money represented by the bill. The circulation of bills, therefore, is based upon the circulation of commodities, but of commodities which have been sold and converted into money, even if the conversion is one which society has not yet accepted as valid, but which only exists as a private act in the buyers' promises to pay.

This type of credit, advanced by productive capitalists to one another, I shall call circulation credit. I have already noted that it is used as a substitute for money and that, by facilitating the transfer of commodities without the use of money, it helps to conserve precious bullion. The expansion of this type of credit is based on the increased use of this method , of transferring commodities, and since commodity capital is involved here - transactions between productive capitalists - it depends also upon the expansion of the reproduction process. Whenever the scale of reproduction increases, there is also an increased demand for productive capital (machinery, raw materials, labour power).

An increase in production means a simultaneous increase in circulation; and the enlarged circulation process is made possible through an increase in the quantity of credit money. The circulation of bills expands, and can expand, because the quantity of commodities entering circulation is larger. This growth of circulation can proceed without any rise in the demand for gold money. Equally, the relation between the supply of and demand for money capital need not change, because the greater need for means of payment can be met simultaneously, and in the same proportion, by a larger supply of credit money based upon the increased volume of commodities.

What increases in this case is the circulation of bills of exchange. This increased credit need not in any way affect the relation between the demand for and supply of the elements of real productive capital. Rather, both are likely to increase at the same rate. The process of production is expanded, and commodities are thus produced which are required to carry on production on an enlarged scale. We therefore have an increase in credit as well as an increase in productive capital, both of which are reflected in an increased circulation of commercial bills. But this does not entail any variation in the relation of the supply to the demand for capital in money form. Yet it is only this demand which affects the rate of interest. It is therefore possible for the supply of credit to increase without any change in the rate of interest, provided that the additional credit consists exclusively of circulation credit.

The circulation of bills is limited only by the number of business transactions actually concluded. An over issue of state paper money will depress the value of each individual money unit without changing the value of the total supply of paper money, but commercial bills can in principle only be issued when a business transaction has been concluded, and for this reason bills cannot be over issued. If a particular transaction is fraudulent, the bill of course will become worthless. But the worthlessness of one bill has no effect on all the others.

The impossibility of an over issue of bills does not, however, preclude the possibility that capitalists may assume excessive monetary obligations in the form of credit instruments of this type. During a crisis, for instance, the prices of commodities fall and obligations cannot be redeemed in Market stagnation makes the conversion of commodities into money impossible. The manufacturer of machines who issued bills in payment for coal and iron, hoping to redeem them through the sale of his product, now finds himself unable to liquidate his obligation or to satisfy his creditor by giving him a bill drawn on a purchaser of his own machines. If he has no reserves his bills become worthless, notwithstanding the fact that they represented commodity capital at the date of issue (coal and iron converted into machines).

In providing credit for the period of circulation bills are a substitute for the additional capital that would otherwise have been required to bridge over that period. These bills are normally issued by productive capitalists to one another. But if returns fail to materialize the money has to be obtained from a third party, the banks. The banks are also involved whenever the normal conditions of bill circulation are disturbed ; for instance, when commodities become temporarily unsaleable or are withheld for speculative or other purposes. In this case the banks merely extend and supplement the credit provided by bills.

Circulation credit thus extends the scale of production far beyond the capacity of the money capital in the hands of the capitalists. Their own capital simply serves as the basis for a credit superstructure and provides a fund for the settlement of balances, as well as a reserve against losses when bills depreciate.

The saving in cash money tends to increase to the extent that bills cancel each other out. Special institutions are required for this purpose. The collection and clearance of credit instruments is a task performed by the banks. At the same time, more money can be saved the more frequently a single bill can be used as a means of payment. Bills will circulate in this more extensive way only if there is certainty that they will be' redeemed ; that is, if their security as a medium of circulation and means of payment is publicly recognized. This, too, is one of the tasks of the banks. Banks perform both functions by buying bills. In so doing, the banker becomes a guarantor of credit and substitutes his own bank credit for commercial craft in so far as he issues a bank note in place of industrial and commercial bills. The bank note is simply a draft on the banker which is more readily acceptable than the notes of the industrialist or Thus the bank note rests upon the circulation of bills. The state note is backed by the socially necessary minimum of commodity transactions, and the bill of exchange by the completed commodity transaction as a private act of the capitalist. The bank note, on the other hand, is secured by the bill, or promissory note, which is backed by the total assets of all the drawers who were parties to the exchange. At the same time, the issue of bank notes is limited by the volume of discounted bills and hence by the number of completed acts of exchange.

Originally, therefore, the bank note was simply a bank draft which replaced bills issued by productive capitalists. Prior to the use of bank notes bills often circulated with a hundred or more signatures before they fell due. On the other hand, the first bank notes resembled ordinary commercial bills in being issued for the most varied amounts rather than in round sums. Nor were they always payable on demand.

In past times, it was not uncommon for banks to issue notes, payable on demand, or at a distant day from that of presentation, at the option of the issuer, but in such case, the notes bearing interest till the day of payment.

A change (which, however, does not affect the economic laws involved)was first introduced when the state intervened. The purpose of its legislation was to guarantee the convertibility of the bank note by limiting,directly or indirectly, the quantity that might be issued, and by making the issue of bank notes a monopoly of a bank operating under state control. In countries where there is no state paper money, or where its volume is far below the socially required minimum, the bank note takes its place. Where such notes are made legal tender during certain periods of crisis they become in effect state paper money.

The artificial regulation of the issue of bank notes fails as soon as circumstances require an increased issue. For instance, when the credit structure collapses during a crisis, the credit money (bills) of many individual capitalists is impaired, and the place it occupied in circulation has to be filled by additional means of circulation. The law becomes impotent and is either disregarded (as recently occurred in the United States) or suspended (as in the case of the Peel Act in England). People will accept bank notes while they reject many other bills simply because the credit of the bank has not been impaired. If it were impaired the notes would have to be made legal tender, or state paper money would have to be issued. If this were not done, purely private means of circulation would be contrived, as they were in the recent American crisis. But this is a much less effective method of combating a money crisis, especially when such a crisis is aggravated by unsound legislation with respect to the issue of banknotes.

Like the bill of exchange the convertible note cannot be issued in excess quantities. (The inconvertible note is really identical with legal tender state paper money.)A bank note which is not required in circulation is returned to the bank. Since it can be used in lieu of the bill of exchange,the issue of notes is subject to the same laws as is the circulation of bills, and expands along with the latter so long as credit remains undisturbed. The credit behind a bank note can hold its own even during a crisis and consequently, when the circulation of bills contracts during a crisis, bank notes and cash are used in their place.

With the development of the banking system, as unemployed money flows into the banks, bank credit is substituted for commercial credit, so that increasingly all bills serve as means of payment not in the original form in which they circulate among productive capitalists, but in their converted form as bank notes. Banks become the institutions for clearing and settling balances, a technical improvement which extends the range of possible mutual cancellation and reduces the amount of cash required for settling balances. The money which productive capitalists had previously been obliged to keep on hand for settling the bills they had drawn now becomes superfluous, and flows as deposits to the banks who can use it to settle the balances.

Since the banker substitutes his own credit for the commercial bills, he requires credit, but only a relatively small money capital of his own, in order to guarantee his ability to pay. What the banks do is to replace unknown credit by their own better known credit. thus enhancing the capacity of credit money to circulate. In this way they make possible the extension of local balances of payment to a far wider region, and also spread them over a longer time period as a consequence, thus developing the credit superstructure to a much higher degree than was attainable through the circulation of bills limited to the productive capitalists.

Nevertheless, we should be on guard against the error of double counting with regard to the capital which banks supply to producers by discounting their bills. The greater part of bank deposits belong to the productive capitalists who, as the banking system evolves, keep the whole of their liquid money capital in the banks. This money capital, as we have seen, is the basis for the circulation of bills. But it is that class's own capital, and the class does not receive any new capital through the discounting of bills. All that has happened is that capital in one money form (as a private promise to pay) has been replaced by capital in another money form (as a promise to pay by the bank, ultimately in cash). Money capital is involved only to the extent that it replaces the realized commodity capital. In other words, money is regarded here from a generic point of view. In a functional sense,however, money is always involved, either as a means of payment or of purchase.

The substitution of bank credit for the credit of the productive capitalist can, of course, take place in other forms than the issue of bank notes. For instance, in countries where the note issue is a monopoly, private banks may supply bank credit to producers by 'accepting' their bills; that is by endorsing them, and thus guaranteeing their redemption. By this means,the bill benefits from the credit of the bank, and its ability to circulate is increased as if it had been replaced by a note of that particular bank. It is well known that a large part of international commercial transactions,in particular, are carried on by means of such bills. In principle, there is no difference between such 'acceptances' and the notes of private banks.

Circulation credit, in the sense in which I have used the term, simply consists in the creation of credit money. Thanks to the service it performs,production is not limited by the volume of available cash which is part of the socially necessary minimum of circulation (full value metallic money,standard currency, gold and silver coins, plus legal tender state paper money and small change).

But circulation credit as such does not transfer money capital from one productive capitalist to another; nor does it transfer money from other(unproductive) classes to the capitalist class, for transformation into capital by the latter. If circulation credit is merely a substitute for cash, that credit which converts idle money of whatever kind (whether cash or credit money) into active money capital is called capital (or investment) credit,because it is always a transfer of money to those who use it, through the purchase of the various elements of productive capital, as money capital.

We saw in the last chapter how hoards of idle money accumulate in the course of capitalist production which can be used as money capital. It is these sums, which are sometimes involved in the circulation process and are sometimes idle, which are hoarded either for the replacement of fixed capital or as saved-up surplus value until they are large enough for accumulation. Three aspects need to be distinguished here: (1) the individual sums must be collected until, through centralization, they are sufficiently large to be used in production ; (2) they must be made available to the right people ; and (3) they must be available for use at the right time.

We have seen earlier how credit money originates in circulation. We are now dealing with money which lies idle. But money can only perform the functions of money, and can do so only in circulation. Credit, therefore,can do no more than put non-circulating money into circulation. As capitalist credit, however, it puts money into circulation only in order to withdraw more money. It puts money into circulation as money capital in order to convert it into productive capital. Thus it expands the scale of production, and this expansion presupposes the expansion of circulation. The scale of circulation is enlarged not by the injection of new money, but simply by the utilization of old, previously idle money for the purposes of circulation.

There is thus a need for an economic function which consists of collecting idle money capital and then distributing it. But credit assumes here an entirely different character from ordinary circulation credit. Circulation credit merely makes it possible for money to serve as a means of payment. Payment for a commodity which has been sold is credited, and the money which would otherwise have had to enter circulation is saved because it is replaced by credit money. Actual money which might otherwise be required thus becomes superfluous. On the other hand, no new capital is made available to the capitalist. Circulation credit merely gives his commodity capital the form of money capital.

Capital (investment) credit, however, involves the transfer of a sum of money from the owner, who cannot employ it as capital, to another person who intends to use it for that purpose. This is the purpose of the money. For if it were not employed as capital, its value would not be maintained or recovered. From the standpoint of society as a whole, however, the borrower must always repay his debt if lending is to take place with any degree of security. In this case, therefore, there is a transfer of money which already exists, and no money is economized. Investment credit thus transfers money and converts it from idle into active money capital. Unlike ordinary commercial credit, it does not reduce the costs of circulation. Its primary purpose is to enable production to expand on the basis of a given supply of money. The possibility of investment credit arises from the conditions of circulation of money capital, from the fact that in the cycle of capital money periodically falls idle. Some capitalists are always paying such funds into the banks which, in turn, make them available to others.

If, therefore, we view the matter from the standpoint of the capitalist class as a whole, the money is not idle. No sooner is it hoarded at any point in circulation, than it is immediately converted by the use of credit into an active money capital in another process of circulation. The class as a whole can economize in its advances of money capital, because the transferability of money available during intervals of circulation obviates the formation of idle money hoards. The relatively small part of the money supply which the capitalist class needs to lay by as a hoard, is required only to cope with irregularities and interruptions in circulation.

Previously we were dealing with productive capitalists (producers and merchants) who conducted their business (for instance, the purchase of means of production) by means of credit money. Now the productive capitalist has become a money capitalist or a loan capitalist. This new guise,however, is temporary, lasting only for the period during which his money capital lies idle, anxious to be turned into productive capital. And just as he is a lender at one moment, so he is a borrower from some other productive capitalist at another. The character of loan capitalist is at first only transitory, but with the development of the banking system it becomes the specialized function of the banks.

Credit causes the available supply of money capital to do a larger volume of work than would be possible in the absence of Credit. It reduces idle capital to the minimum which is necessary to avoid interruptions and unforeseen changes in the capitalist cycle. It thus tries to eliminate, for the benefit of the whole social capital, the idleness of money capital which an individual capital experiences for a certain period of time in the course of the cycle.

It follows that deposits and withdrawals by productive capitalists take place in accordance with definite laws, which can be inferred from the nature of the circulation process of productive capital and the length of its cycle. Experience has familiarized the banks with these regularities, which indicate the minimum amount of deposits under normal conditions, and hence the amount which they can make available to productive capitalists.

The cheque is a direct order upon a deposit, while the commercial bill draws upon it only indirectly. The cheque draws upon an individual deposit, while the bill is based upon the aggregate deposit of the whole class. For it is essentially their own deposits which are made available to the capitalist class for discounting bills, and when the bills which fall due are paid the money, which has accrued in fact from the sale of commodities,returns to the banks as deposits. Should this reflux of money diminish, and the repayment of these bills be reduced, capitalists would have to secure additional capital. They would then draw upon their deposits, and thus reduce the fund which is available for discounting their bills. The bank now has to intervene and discount bills with its own credit, but since the deposits which provide the basis for the circulation of bills have been reduced, and the bank's liquidity has declined, it is dangerous for the bank to expand it sown credit. The retarded reflux of money, in this case, has increased the demand for bank credit and thus - since credit cannot be expanded - for bank (i.e. loan) capital. This is expressed by a rise in the rate of interest. The functioning of the bill as credit money has declined in importance, and actual money obtained from the bank has had to take its place, as is revealed by the increased demand for money capital. Thus we see a reduction of deposits, while the circulation of commercial bills remains constant or even increases, and the interest rate rises.

It is obvious that the total volume of deposits is many times greater than the available supply of cash. Metallic money circulates rapidly and is also the basis for the circulation of credit money. Any transfer of either metallic money or credit money may result in a deposit with the banker, and the fact that the volume of deposits can thus greatly exceed the stock of cash is shown by the rate of circulation (including credit money).

A deposits 1,000 marks in a bank. The bank lends these 1000 marks to B who, in turn, uses them to pay his debt to C. C then again deposits the 1,000marks in the bank. The bank lends them out again and receives them once again as a deposit, and so on.

The deposits . . . play a double role. On the one hand . . . they are loaned out as interest-bearing capital, and are not found in the cash boxes of the banks, but figure merely in their books as credits of the depositors. On the other hand, they figure as such book entries to the extent that the mutual credits of the depositors in the shape of cheques on their deposits are balanced against one another and so recorded. In this procedure, it is immaterial whether these deposits are entrusted to the same banker who can thus balance the various credits against each other, or whether this is done in different banks,which mutually exchange cheques and pay only the balances to one another.

In terms of the preceding account the bank has performed two functions(1) it has facilitated the process of making payments, and by concentrating them and eliminating regional disparities, it has enlarged the scale of this process ; (2) it has taken charge of the conversion of idle capital into active money capital by assembling, concentrating and distributing it, and in this way has reduced to a minimum the amount of idle capital which is required at any given time in order to rotate the social capital. The bank assumes a third function when it collects the money income of all other classes and makes it available to the capitalist class as money capital. Capitalists thus receive not only their own money capital, which is managed by the banks,but also the idle money of all other classes, for use in production.

In order to perform this function the banks must be able to assemble,concentrate, and lend out as much of the available idle money as possible. Their principal means of doing so are the payment of interest on deposits and the establishment of branch banks where such deposits can be made. This 'decentralization' - a misnomer perhaps, because the decentralization is purely geographical rather than economic - is essential to the bank's job of transferring idle money to productive capitalists.

The money capital which is thus supplied by the banks to industrial capitalists can be used to expand production in two different ways : by increasing either fixed capital or circulating capital. The distinction is a very important one because it determines the way in which the money capital flows back. Money capital which is advanced for the purchase of circulating capital flows back in the same manner; that is, its value is fully reproduced during a single turnover period and reconverted to the money form. This is not the case, however, when the advance is made for investment in fixed capital. Invested in this way, the money returns in piecemeal fashion, in the course of a long series of turnovers, during which time it remains tied up. This difference in the reflux of money is responsible for a difference in the way in which the bank invests its money. When it invests its capital in a capitalist enterprise the bank becomes a participant in the fortunes of the enterprise; and this participation is all the more intimate the more the bank capital is used as fixed capital. The bank enjoys far more freedom of action in its dealings with a merchant than with an industrial entrepreneur. In the case of merchant capital, only credit for payments is involved, and as we shall see, this explains why bank capital stands in an altogether different relationship to merchant capital than it does to industrial capital.

Bank capital (including other funds, as mentioned above) is supplied to industrial capitalists in a number of ways; by allowing them to overdraw their own deposit accounts, by establishing open credit accounts, or by current account operations. There is no difference in principle between these three methods. What really counts is the purpose for which the funds are applied, that is, whether they are used as fixed or circulating capital.

To the extent that banks tie up their funds, they are obliged to keep a comparatively large capital of their own, as a reserve fund, and as security for the uninterrupted convertibility of deposits. Thus banks which are engaged in supplying long-term credit, in contrast to pure deposit banks,must have at their disposal a substantial capital. In England the ratio of paid-up share capital to liabilities is extraordinarily small : 'In the excellently managed London and County Bank, the ratio in 1900 was 4.38to 100.' On the other hand, this ratio also explains why the dividends of the English deposit banks are so high.

Originally, the principal credit instrument was the bill of exchange used as payment credit by productive capitalists - industrial and commercial - in their dealings with one another; its outcome is credit money. When credit is concentrated in the hands of the banks, investment credit becomes increasingly important in comparison with payment credit. At the same time the credit which industrialists extend to one another may change its form. Since all their money capital is held in liquid form in the banks, it becomes a matter of indifference to them whether they extend credit to one another by means of commercial bills or by claims upon their bank credit. Bank credit can therefore be substituted for bills, and the circulation of the latter begins to diminish. Industrial and commercial bills are replaced by bank drafts, which are based upon an obligation of the industrialist to the bank.

The transition from commercial to investment credit is also apparent in international markets. In the early stages of development England (and Dutch policy was similar in the early period of capitalism) extended commercial credit to countries which bought English products, while paying for a larger proportion of her own imports in cash. The situation is different today: credit is not provided exclusively or mainly in the form of commercial credit, but for capital investment, the object of which is to gain control of foreign production. The principal international bankers today are not so much the industrial countries like the United States and Germany; it is primarily France, and then Holland and Belgium, which were already financing English capitalism in the seventeenth and eighteenth centuries, which are the main providers of investment credit. England, in this regard, occupies an intermediate position. This accounts for the differences in the gold movements in and out of the central banks of these countries. For a long time London has been the only genuinely free market for gold and hence the centre of the trade in gold, so that the movement of gold through the Bank of England has served as an index of international credit relations. The free movement of gold has been impeded in France by the gold premium policy, and in Germany by various policies of the Reichsbank management. Since the credit extended by England to this very day is still largely commercial credit, the fluctuations of England's gold reserve depend, in the main, on the state of industry and trade, and the balance of payments. The Bank of France, on the other hand, enjoys a far greater degree of freedom in making its dispositions, thanks to its enormous gold reserve and relatively small commercial obligations. Whenever there is any disturbance in the market for commercial credit, it is the Bank of France which comes to the assistance of the Bank of England.

The important thing about this relative independence of bank credit from ordinary commercial credit is that it gives the banker certain advantages. Every merchant and industrialist has commitments which must be honoured on a specified date, but his ability to meet these obligations now depends upon the decisions of his banker, who can make it impossible for him to meet them by restricting credit. This was not the case when the bulk of credit was commercial credit and banks were only dealers in bills. In such circumstances, the banker himself was dependent upon the state of business and the payment of bills, and had to avoid so far as possible any restrictions of the credit required by business, since otherwise he might destroy the whole commercial credit structure. Hence the expansion of his own credit to the full, even to the point of overextending himself and inviting bankruptcy. Today, when commercial credit is far less important than investment credit, the bank is able to dominate and control the situation much more effectively.

Once the credit system has attained a certain degree of development, the utilization of credit by the capitalist enterprise becomes a necessity,imposed upon it by the competitive struggle. The use of credit by an individual capitalist means an increase in his rate of profit. If the average rate of profit is 30 per cent and the rate of interest 5 per cent, a capital of 1,000,000 marks will produce a profit of 300,000 marks. (This will appear in the accounts of the capitalist as 250,000 marks entrepreneurial profit and 50,000 marks interest on capital.) If the capitalist succeeds in obtaining a loan of another 1,000,000 marks, he will make a profit of 600,000 marks, less 50,000 marks interest on his loan, leaving him a net profit of 550,000marks. If this is calculated on his own capital of 1,000,000 marks it amounts to an entrepreneurial rate of profit of 50 per cent as compared with the original 25 per cent. And if the larger capital also makes it possible for him to increase his output, and so produce more cheaply, his profit might well be even larger. If other capitalists do not have access to credit on the same scale, or on equal terms, the favoured capitalist can make an extra profit.

Under unfavourable market conditions the use of credit has other advantages. A capitalist who uses borrowed capital under these circumstances can reduce his prices, for that proportion of his output produced with borrowed capital, below production prices (cost price plus average profit) to the point where they equal cost price plus interest, and can therefore sell his whole output below the production price without diminishing the profit on his own capital. All that he sacrifices is the entrepreneurial profit on the borrowed capital, not the profit on his own capital. In periods of economic depression, therefore, the use of credit bestows an advantage in price competition, which is all the greater the larger the amount of credit. For productive capitalists, therefore, their own productive capital becomes only the basis of an enterprise which is expanded far beyond the limits of the original capital with the aid of borrowed capital.

The increase of entrepreneurial profit through the use of credit accrues to the individual capitalist and to his own capital. It leaves unchanged, at first,the average social rate of profit, but it does, of course, increase the total sum of profit and accelerate the pace of accumulation. Those capitalists who use credit before others do so, or more extensively, are able to enlarge their scale of production, increase the productivity of labour, and thus gain initially an extra profit; but as this process continues the rate of profit tends to fall, because the expansion of production is usually associated with a tendency toward a higher organic composition of capital. The increase in the entrepreneurial profit of individual capitalists stimulates their demand for further credit, and the supply of such credit is made possible by the increasing concentration of money capital from all sources in the banks. This tendency arising in industry is bound to react upon the banks' methods of providing credit.

One of the first results of this intensified demand is that credit is sought for use as circulating capital. An increasing proportion of the entrepreneur's own capital is transformed into fixed capital while the bulk of circulating capital comes from the borrowed funds. But as the scale of production expands, and fixed capital becomes much more important, so this limitation of credit to circulating capital is felt to be too restrictive. If credit is then required for fixed capital, however, the terms on which credit is made available undergo a fundamental change. Circulating capital is reconverted into money at the end of a period of turnover, whereas fixed capital is converted into money very gradually, over a long period of time, as it is slowly used up. Consequently, money capital which is turned into fixed capital must be advanced on a long-term basis because it will remain tied up in production for a long time. The loan capital available to the bank, however, is usually repayable at short notice to its owners. For this reason the bank can only lend for fixed capital investment that amount which remains in its own possession for a sufficiently long time. This does not apply, of course, to any particular unit of loan capital but there always remains in the hands of the bank a large proportion of the total loan capital, the composition of which will naturally change, while a certain minimum amount will always be available, and can therefore be lent for fixed capital investment. While individual capital is not suitable for fixed investment in the form of loan capital - for it ceases then to be loan capital and becomes industrial capital, and the loan capitalist is turned into an industrial capitalist - the minimum which the banks always have available is appropriate for fixed investment. The larger the aggregate capital at the disposal of the bank, the larger and more constant will be the portion which it can lend in this way. Hence a bank cannot lend funds for investment in fixed capital until it has attained a certain size ; and it must expand as rapidly, or more rapidly, than industrial enterprises themselves. Moreover,a bank cannot limit its participation to a single enterprise, but must distribute the risks by participating in many different enterprises. This policy will in any case be adopted to ensure a regular flow of repayments on its loans.

This way of providing credit has changed the relation of the banks to industry. So long as the banks merely serve as intermediaries in payment transactions, their only interest is the condition of an enterprise, its solvency, at a particular time. They accept bills in which they have confidence, advance money on commodities, and accept as collateral shares which can be sold in the market at prevailing prices. Their particular sphere of action is not that of industrial capital, but rather that of commercial capital, and additionally that of meeting the needs of the stock exchange. Their relation to industry too is concerned less with the production process than with the sales made by industrialists to wholesalers. This changes when the bank begins to provide the industrialist with capital for production. When it does this, it can no longer limit its interest to the condition of the enterprise and the market at a specific time, but must necessarily concern itself with the long-range prospects of the enterprise and the future state of the market. What had once been a momentary interest becomes an enduring one; and the larger the amount of credit supplied and, above all, the larger the proportion of the loan capital turned into fixed capital, the stronger and more abiding will that interest be.

At the same time the bank's influence over the enterprise increases. So long as credit was granted only for a short time, and only as circulating capital, it was relatively easy to terminate the relationship. The enterprise could repay the loan at the end of the turnover period, and then look for another source of credit. This ceases to be the case when a part of the fixed capital is also obtained through a loan. The obligation can now only be liquidated over a long period of time, and in consequence the enterprise becomes tied to the bank. In this relationship the bank is the more powerful party. The bank always disposes over capital in its liquid,readily available, form : money capital. The enterprise, on the other hand,has to depend upon reconverting commodities into money. Should the circulation process come to a halt, or prices fall, the enterprise will require additional capital which can only be obtained in the form of credit. Under a developed credit system, an enterprise maintains its own capital at a minimum; any sudden need for additional liquid funds involves obtaining credit, and failure to do so may lead to bankruptcy. It is the bank's control of money capital which gives it a dominant position in its dealings with enterprises whose capital is tied up in production or in commodities. The bank enjoys an additional advantage by virtue of the fact that its capital is relatively independent of the outcome of any single transaction, whereas the fate of the entire enterprise may depend entirely upon a single transaction. There may, of course, be cases in which a bank is so deeply committed to one particular enterprise that its own success or failure is synonymous with that of the enterprise, and it must then meet all the latter's requirements. In general, however, it is always the superiority of capital resources, and particularly disposal over freely available money capital, which determines economic dependency within a credit relationship.

The changed relationship of the banks to industry intensifies all the tendencies toward concentration which are already implicit in the technical conditions of the banking system. A consideration of these tendencies must again distinguish the three main functions of the banks : the supply of commercial credit (circulation of bills), the supply of capital credit, and, anticipating somewhat, investment banking.

As regards commercial credit, the paramount factor is the development of international connections, which requires an elaborate network of relations. Foreign bills take longer to circulate and therefore immobilize a larger volume of resources. Furthermore, the balancing of payments through the mutual cancellation of bills is seldom so complete. Dealings in foreign exchange thus require a large and efficient organization.

The important thing is that the banks tend to concentrate because of certain technical banking operations which are extremely important to growing industries. Foreign and domestic bills which industrial producers use to pay for raw materials and finished goods require an organization of the banking system sufficiently ramified to enable it to handle all transactions - especially foreign exchange operations -on a large scale, and also to guarantee their collateral. It requires, in other words, large banks with numerous foreign and domestic branches. It is true, of course, that industries use bills as a means of payment or to secure commercial credit. Institutions which furnish the credit do not thereby get a chance to intervene deliberately in the affairs of their debtor enterprises. In such a relationship between the bank and the enterprise, the bank's jurisdiction is limited to the reliability of the borrower and the discount return.

In order to be profitable foreign exchange transactions must be closely linked with arbitrage operations. This requires extensive connections, and a large volume of liquid resources, because arbitrage must be carried out quickly and on a large scale to be profitable at all. Arbitrage transactions in bills are based on the fact that whenever, say, the London demand for Paris bills exceeds their supply and their price rises accordingly, firms which have deposits or credits in Paris will take advantage of the situation by drawing bills on Paris. The Paris firm, on the other hand, on which the bills have been drawn, waits for a similar favourable opportunity in that market to transfer the sums again to England.

The fostering of capital credit can best be seen in the growing importance of current account operations.

These transactions play a significant part in the relationship of the banks to industry for three reasons : (1) Since they are so indispensable to the smooth expansion of an enterprise, they make it dependent on the creditor. (2) The technical complexities of bank credit

for industry have a far greater influence on the organization of the banking system than any of the credit operations we have discussed previously. They create a tendency toward concentration in banking. . . . The unique relation (of the banks) to industry . . . requires new principles and an entirely new knowledge of industry on the part of bankers. (3) Finally, current account transactions for industry are the keystone for all other banking activities in industry, such as promotion and the flotation of shares, direct participation in industrial enterprises, participation in management through membership of the board of directors. In a large number of cases such activities are related to bank credit as effect to cause. [At the same time current account work] is an excellent means of judging the soundness of an industrial enterprise and of obtaining control over it; regularity of turnover means that the business is going well.

The exact knowledge which a bank obtains as a result of this continuous relationship can also serve it in good stead in many other ways ; for example, in its business on the stock exchange. On the other hand, the danger of over-extending credit makes it necessary for the bank to exercise a high degree of control over the industrial enterprise, and this presupposes that the enterprise works in association with a single bank.

If the concentration of bank capital tends to increase along with the expansion of industry when the banks simply provide credit, it reaches its zenith when they take over the job of floating shares. The large bank enjoys an unmistakable superiority in this activity because it can undertake the most profitable operations. Its transactions are more numerous, on a larger scale, and more efficient. Its flotations are more secure, and it can sell a large part of the issue to its own customers. On the other hand, the large bank must be able to provide the even greater sums of capital which may be required; and for this purpose, it needs a large capital of its own and a great deal of influence on the market.

The large bank is able to choose the appropriate time for issuing shares, to prepare the stock market, thanks to the large capital at its command, and to control the price of shares after they have been issued, thus protecting the credit position of the enterprise. As industry develops, it makes increasing demands on the flotation services of the banks. Once the mobilization of capital is assured, only one condition governs the expansion of industry; namely, the technical possibilities. The expansion of enterprises also ceases to depend upon their own surpluses resulting from production, and indeed during periods of prosperity an industry may grow rapidly, often by leaps and bounds. The sudden increase in the demand for capital which such expansion involves can only be satisfied by the large, concentrated funds of the banks. The banks alone can obtain the capital without disrupting the money market. This operation can be carried out only if the capital which the bank provides is recovered quickly, or if the issue is performed as a simple book-keeping transaction,which will more probably be the case if the bank sells the issue to its own customers and receives the proceeds of the sale by deducting them from deposits, thus reducing its liabilities.

The technique of banking itself generates tendencies which affect the concentration of the banks and of industry alike, but the concentration of industry is the ultimate cause of concentration in the banking system.