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Value of Money
Let us examine some of those forces that exert pressure on the perceived value of money. First of all, different, and in some cases similar forces are generated domestically as well as internationally on the value of money or a particular " currency." So let us examine the domestic forces. The first word that comes to mind is the word "inflation.” The domestic influence is enormous, as it covers a number of underlying reasons for the possible loss in value of a domestic currency. Wage and salary costs are one. Material costs another. Service costs have to be included, as do "profit mark - up " all along the chain from either the mining and / or purchase costs of raw material, to the chain of events that leads from "manufacturing" through to possibly distributor to wholesaler to retailer. Competition has a bearing as does interest rates and taxation. The wonder is, that with all this, the purchasing power of many currencies does remain fairly stable. This is especially so when one adds into all this the pressures that stem from both imported inflation and currency manipulation stemming from what is termed "market forces" which is basically currency speculation. The buying and selling of currencies purely in order to make a profit. In other words, not related to or for "trade purposes." The payment for goods or services. If one were to look for a "short - cut" in order to maintain the value of money, price stability seems to be the obvious choice. Yet economists tell us that instituting "price control" is merely placing a cork into a bottle, which in the end explodes through the pent - up forces building up within. Those inflationary forces eventually dictate that prices have to change in order to compensate for inflation. In a sense this is admitting defeat without putting up any battle of containment. Perhaps it would pay to look at the problem at a tangent. To examine the forces that constitute "inflation" and see which of these can be slowed, altered or obliterated. Anything that helps to maintain the " worth or value" of the currency. So let us make a start. Competition: How often do we hear this word when we see prices coming down? It is so obvious to us that competition keeps prices down, so in order to maintain the value of money; it is necessary to have competition. Yet having said that, too much competition is on the other hand bad for both the value of money and the economy and consequent job loss. So let us examine this phenomenon first. Too much competition creates an ever - decrease or sustained decrease in prices. The three major elements of "price" are (for manufacturing), "base cost, --- "overhead costs", --- and "mark- up. So when there is either competition, or too much competition, the first factor affected is " mark - up." So one either starts with decreasing " mark - up " and / or additionally searching for any savings that can be made to overhead costs. However, eventually where an over - competitive market exists, the end result is the hiving off of staff until such time as some companies go into liquidation, resulting in an additional loss of jobs. The term used is "the survival of the fittest.” So while it may not be possible to regulate " over - competition,” it does result in creating job loss, capital loss and consequent disruption to the economy. To this we may want to add a term called "market share” where prices are unrealistically lowered in order to maintain either the existing or a greater share of the market for one's goods or services. This ultimately leads to deflation if pursued while an economy is in recession. Another anomaly is interest rates. We should examine interest rates within two parameters, the one being in order to retain equilibrium and the value of the currency within a stable and strong economy, and the other when the economy starts to weaken towards a possible state of recession. Money must have a value, which relates directly to its PURCHASING POWER. Surely this must be so; otherwise it would not be coveted and borrowed. So the "penalty" or "price" one pays when borrowing money is the interest charged thereon. Thus theoretically, the greater the purchasing power, the greater the borrowing costs should be. The only limiting factor to this should surely be "supply and demand." In other words interest rates should not be artificially set, but be subject to supply and demand within the parameters of its value and purchasing power. Said another way; a strong currency would in normal circumstances elicit a greater interest cost factor than would a weaker currency. At least one would have thought so. To confound this issue, one finds that the converse often takes place, where the weaker the purchasing power of a currency, the greater the borrowing cost. If inflation is the cause for this loss in purchasing power, then this may very well be the reason for a higher interest rate charge, to compensate for any additional loss in value while the loan is being repaid. Additionally, because more funds are required to make the same purchases, the additional demand would in all probability drive up interest rates. However, in the case of a strong currency, one would expect "respectable" interest rate charges specifically because of it being desired; and the only factor regulating its charge, would be that of "supply and demand." With one proviso; that being "manipulated interest rates." It has become common practice for Central Banks (or Reserve Banks) to artificially manipulate interest rates to either dampen or stimulate demand for currency borrowing. Were this to be in isolation, one or a few Central Banks doing this to cope for a particular economic situation, it could be understandable. But where they practice this on a "follow my leader" basis, is to be regretted Let us examine this phenomenon for a moment. A over-heated economy where too much money is chasing too few goods, leads to the expectation that prices will rise, NOT BECAUSE THERE IS INFLATION, but to stop or slow down THE POSSIBILITY of rising prices causing inflation. In other words, when this is happening, companies and people are merely taking advantage of a situation in order to increase profitability and resultant profits. It has nothing to do with the value of ---- and purchasing power of the currency. This is an important statement of fact. However, the mere increase in cost for goods and services, by itself diminishes the value of the currency, thus driving up inflation. So here two factors come into play. The first being the greed for excess profit, followed by the second, being the increase in borrowing costs, each in turn adding to the inflationary spiral. While it may in the end have the desired effect, it never the less becomes the prelude to the opposite effect, which is a slowing down of the whole economy. At any given time, there is a given volume of money in circulation Putting aside the natural increase requirement to print and put money into circulation to cover the requirements of an expanding economy, where new jobs are constantly being created, goods made and purchased and "normal" inflation to be accounted for, there is a given amount of currency circulating within the economy in order to keep it ticking along. However when job loss occurs, although the money required to maintain the wage demand no longer exists, the money still remains in circulation. Thus for a time there is sufficient money in circulation to provide for new job creation or revitalization, until such time as equilibrium is once again reached. When one examines the utilization of the money in circulation, it may be a good idea to examine how or where it stimulates an economy, becomes sterile, or even perhaps has a detrimental effect. So let us examine the detrimental effects first. Spending or investing the money outside of the country must have an effect. In the case of the currency being returned to the country in order to be converted into the currency of that country wherein which that purchase was made, it effectively diminishes the foreign reserves which effectively acts as "cover" to the value of the currency. However, where it is in turn used to pay for imports instead of demanding direct conversion, no harm is done to the currency or the economy. So exports and imports play a role in either keeping the currency value in equilibrium, or can diminish or enhance its value. However, a constant outflow of funds has to be eventually replaced by the printing of additional currency. It seems to become apparent that a strong economy is in reality a strong currency. Or said another way, a strong currency denotes a strong economy. This is axiomatic, whatever the "size" of the economy. So size in itself does not denote strength. If we take this thought a stage further, the greater the percentage of people old enough and capable enough to be part of the workforce, the stronger the economy becomes, purely from the perspective of its purchasing power. In other words, the more there is currency in circulation in order to create the consumption of goods and services. An expanding economy. Within this scenario, no mention has been made as to wage payment or taxation. In other words, irrespective of how little one is paid for one's services, it becomes only relevant when it relates to the services that the STATE is expected to provide. In other words, were the low paid worker not to contribute towards taxes, yet at the same time require no services from the State, the wages paid do not become relevant, except for one factor. THE INDIVIDUAL PURCHASING POWER OF THE CURRENCY. In other words, the more the worker earns, the greater is the individual purchasing power. Yet the sheer payment of an increase in wages, which does not result in either an additional output of goods or services inflates the costs of producing the goods or services, and is thus counter-productive. When does the utilization of a currency become sterile. Perhaps when it serves no purpose. When it no longer provides additional wealth. When it is neither exchanged for some other form of wealth such as goods that can be re-sold or exchanged, or invested into some form of instrument that generates either income or additional wealth. “Hiding it under the mattress” is an age-old expression of sterile money. In other words money has to circulate, and the greater the velocity of circulation, the greater the “good” to the economy. Within the realm of “governance” wasteful taxation, or its frivolous expenditures can or does constitute at times a “sterility of purpose”, but this in itself has little bearing on either enhancing or diminishing the value of the currency, but rather has the effect of weakening the economy as a whole. Perhaps a better description to cover this would be to term it as “taking the money out of circulation.” Having examined all these factors; what can we determine from it, ---- if anything at all ? One thinks that it can be best said, “ that a vibrant economy is the best determinant of the value of its currency in circulation.” It may not be quite that, but it does go a long way in perhaps safeguarding the “value” or “purchasing power “ of the currency. If this is to be a valid statement, then one has to determine what constitutes a vibrant economy. Whatever its elements are, it follows that these be both stable, long-lasting and more or less permanently in evidence in order to be effective. The essential elements are possibly as follows: INTEREST RATES : The more stable that interest rates remain, the more stable is the value or purchasing power of a currency. This has to be taken a stage further, in that this has to be a stable “base-rate” applied by a country’s Central Bank. From that stage the upward or downward interest rate charges made by financial institutions should be left to “market forces.” The law of supply and demand. However there is a corollary attached to this statement, which is that the market forces referred to has to be of a domestic nature. In other words bond rates would be determined by the quality and length of the investment, and borrowing rates would be determined by the security of the borrower, and the competitive rates offered by other institutions. To start with, the Central Bank’s rate should be set within a range of 5% to 6%. Say approximately 3% above the expected rate of inflation. Seldom ---- if ever should it vary much above or below those parameters, except when faced with a calamitous economic situation. Economic “slowdowns” (mild economic contractions) are best ignored, allowing business tempo to adjust itself to a slower sustainable growth. Manipulation of interest rates should only be used in isolated cases by very slight interest increases to slow an inflationary trend, and downward slightly in order to cushion an economic slowdown. Dramatic or sustained interest rate adjustments upwards or downwards should be avoided at all costs. Not only does it send the wrong signal, it ends up exacerbating the situation and is self-defeating in the end. INFLATION : This can be categorized as being of two types, local or imported inflation. The local variety can be contained and controlled to a large extent by either circumstance, choice or Central Bank and / or Government action. Circumstance is where there is sufficient competition in order to keep prices fluctuating within a narrow band . The more stable that prices remain, the more stable the purchasing value of the currency. Choice plays an important role, where consumers either purchase similar products at a lower price, deal with other suppliers or consume less of the product or service, or do without that product or service until such time as prices either stabilize or return to previous levels. Thus circumstance and choice should be given sufficient time to combat inflation derived from internal sources, before Central Bank or government intervention. As an example, where flood, drought or pestilence is regarded as the source or reason for price increases, it should be expected that these are intermittent in nature and that given time for supply and demand to once again reach equilibrium, the situation is best left alone. One either does with less or without, or as usually happens, the prevailing shortfall is replaced by an imported product, be it even at a higher price, where choice once again kicks in as to whether to do with less or without until availability and demand sets prices back to acceptable levels. Wage restraint is one of the prime factors affecting the stability of the purchasing value of a currency. This is not to say that people have to work “for peanuts,” but that wages and salaries have to have relevance to skills, performance or the law of “supply and demand.” One of the biggest weaknesses of labour action or labour law is the loss of determining the differential in skills to determine the differential in wage or salary compensation or payment. Here again one should be cognizant of the fact that the least line of resistance to inflation in merely increasing wages to directly compensate for inflation without requiring a counterbalancing increase in output or performance (productivity), is in the end not only self-defeating, but it in actual fact becomes a constant incremental factor in fuelling inflation. We are then left with either Central Bank and / or government intervention to control domestic inflation. When this occurs the impact upon the “value” of the currency can be profound. This is so for many reasons, the primary one being --- for want of a descriptive word or phrase, “predictability.” In other words setting something in motion and either predicting a desired result, or being “hopeful” of a desired result. Said another way it can be described as either artificial stimulation, or artificial degradation of the economy. While lowering interest rates stimulates borrowing, and consequent expenditure of borrowed funds, it has several undesirable resultant effects. First of all it becomes inflationary in nature as “cheap money” drives up prices. There are other effects as well. Income derived from investments directly related to interest rate charges are considerably lowered, thus stifling consumer expenditures. The added debt load incurred by borrowing cheap money has to be repaid, thus while consumer expenditure rises for a while, it eventually has to be repaid, with the resultant slowing down of consumer expenditures while this is taking place. While it may be expected that repaid debt is immediately “recycled” to others or re-borrowed by the original borrowers, there are no guarantees that this takes place. Apart from this, there is no control in steering these borrowed funds in the right direction in order to have the desired effect on the economy. Government intervention is often disastrous. Lowering taxes in order to stimulate the economy generates its own problems. If taxes had been wisely previously used, then the resultant shortfall in tax income has to be compensated for. In other words, there is less available to the government to cover its commitments to its citizens. And services will have to be curtailed with consequent job loss in those areas. Inevitably the government runs deficits, resulting in the issue of debt paper, which has to be financed and repaid via incoming taxation, with the eventual result of increases in taxation to cover this situation. A case of setting in motion “perpetual motion.” Again there is no control as to where and how this extra consumer money will be spent. Having said all this, how do we attempt to maintain the “value” or purchasing power of the currency. Let us examine some other factors, which one can term as exerting intermittent or temporary pressure on the buying power of money. Commodity prices are controlled by supply and demand and thus there are continual changes to prices. Broadly speaking, they are best ignored in attempting to artificially compensate for this situation by interfering in monetary terms. If one is an exporter of either minerals or commodities, and there is a rise in international prices for these, then the consequence is added export values and the strengthening of both the value of the currency and possibly as well the balance of payments situation. Were the economy reliant on the import of these products, then the obverse would take place. Unless prices for these have changed dramatically and subsist for an extended period of time, they should be well left alone in order that domestic demand retreat to its own desired level to compensate for the increase in costs. In other words ignored when determining any rise in domestic inflation, on the supposition that it will correct itself if left alone, otherwise labour will demand a rise in wages or salary in compensation, driving up prices even further and adding to a problem that in the end may have corrected itself. Thus Central Bank or government intervention are best left to be used only if and when a fully fledged recession is in progress and when these signs are evident, changes should be only very gradually applied and limited to as minor a nature as it is possible to implement. The longer and slower the process, the less damage to the economy and consequent purchasing power of the currency. What is thus envisioned is that the economy would gradually adjust itself to a slower tempo, a measure of stability, and finally a slow but steady growth to the economy. Interest rates are a primary factor, whether used to re–establish growth to the economy, or to protect the purchasing power of the currency. Set too high, it invites a rapid inflow of investment capital looking for a strong stable currency offering high interest rate returns. While investment capital may be desirable, too much capital looking for investment drives up prices to the inevitable state of fuelling inflation and eventual loss in purchasing power and the possibility of eventual price collapse and capital loss. Perhaps there is one further point to be raised when dealing with either Central Bank or government intervention, which may relate to both stimulating the economy and at the same time protecting the purchasing power of the currency. This may have to be a recognition of the role that money supply exerts on the well being of the economy. This is either ignored or forgotten about. Playing with interest rates and lowering taxes seems to be the basic application always applied, yet if the tenet that “supply and demand” is to hold true, then it is the money supply that should be attended to, and the other two remedies left alone. That old adage that “ inflation is caused by too much money chasing too few goods” and deflation by a “lack of money within the economy” has to be recognized. If a sound economy is reliant upon consumer demand, then surely the money supply is the obvious solution, used in a manner unrelated to taxation or interest rates. Taking this thought a stage further, where too much money is in circulation, surely it would be logical to “suck” this excess supply out of the economy. Government could create a “tax surcharge” of any figure of say from a low of 5% to as high as 10% onto all taxable incomes, both for individual as well as to company taxed profits. Repayable 4 / 5 / 6 years “down the line. A tax-free interest to be paid on this surcharge amount, and subject to it being an ongoing phenomena for as long as it be deemed warranted until signs appear that economic and price stability has been achieved. This exercise requires that two factors be assumed. The first being that government employ these funds in a non inflationary manner, and the second that it not be repaid to its citizens and companies by means of either additional taxation or the issue of debt paper at the specified “due date.” If one examines a period of say four annual years in which this is done, and the economy expanding at say 2.5% per year, the economy will have grown in excess of 10% during this period, and an additional 2.5% in the 5th year when the first capital repayment is made of the first year’s surcharge. Expected growth through years 6 -7 and 8 should be sufficient to meet repayments of the balance of the three years of surcharges made. However if the obverse exists where there is a shortage of “consumer funds” in the economy, do we “print money” to overcome this situation, or revert to lowering taxes and / or interest rates. The answer relies on whether the economy was allowed to “go into recession” before anything is done, or whether action is taken before that stage is reached. As we have previously recommended that little if anything be done for mild contractions to the economy, the reply is based on a recession being fully in place. In this case we would look to all taxes that are exacted on consumer spending before doing anything else. All “sales taxes” and taxes on services to be done away with, except for the “sin taxes” or that placed on luxury goods or services. Anything that inhibits consumer spending is the first ---and it may be the only thing required to kick-start an economy. All other taxation should be left alone. If needs be, a slightly lower interest rate added to the conundrum to see how effective it may be. NOTHING ELSE ! Even “a dash” of a one time “print of money” may be more desirable than a continual lowering of interest rates and the creation of debt instruments and the wholesale lowering of taxes. There is a difference to the terms “purchasing power” and “purchasing power parity.” The first deals with domestic value to the currency, whereas the second deals with comparisons in purchasing power to other currencies. In other words, exchange rates. We are not going to deal with exchange rates here other than to make a few remarks where exchange rates impact on the domestic value of a currency. The difficulty we have in this regard is both in keeping our comments brief and to the point, yet at the same time getting the viewpoint across. The crux of the matter in being able to have the most success in protecting the purchasing power of any currency is to take it out of the realm of currency speculation. To never be subject to what is euphemistically termed “market forces.” In order for this to be successfully achieved any domestic currency has to have a fixed rate of exchange. This is paramount to the exercise. Many economists say otherwise, and as well point out that at times this has not been successful. In reply we put forward that where this has been unsuccessful, it was primarily due to two very important factors. The first being that the original peg rate was unrealistic in value to the purchasing power of its main trading partners, and the second was that the peg rate was inflexible instead of being varied from time-to-time as circumstances or prudence decreed that this be done. Ideally the peg rate should be based on a purchasing power comparison with that of a maximum of its three main trading partners. As an example, were these to vary in the proportions of 50% to 30% to 20% then their purchasing power values would be weighted to one’s currency in the same proportions. This peg would hold and only be adjusted when these differentials start to alter to a major extent. If 80% or more of one’s imports and exports are derived from these trading partners, it matters little to the balance spread among perhaps 10 or more other trading nations. A final comment on exchange rates is the reliance of “market forces “ being allowed to destabilize international exchange rates. While this is allowed to operate, the concept of globalization in trade will never be satisfactorily accomplished. On the domestic scene, one major problem may require attention. This would be the assessment of inflation on a monthly basis. There are too many variables and constant changes to prices for any cognizance of monthly figures to be of any value. This applies as well to quarterly figures. The most desirable comparison should be annually, and best done midway between the peak and valley economic activity periods such as the month of June which is midway to the peak Christmas shopping. If semi-annual figures are preferred, then March and September are possibilities. Paramount to the exercise is that it be an annual comparison of the same time frame. The underlying reasoning for this is that inflation under a 2% annual figure not be adjusted for in wage or salary adjustment but left to the second year in order to derive a mid two year average. If the following year should show say an inflationary factor of 1.5% then the two year average will have shown an increase of just 1.75% which in itself is too low a factor requiring wage or salary adjustment. By the third year one can well determine what if any wage and salary adjustments need be attended to. This system is as well effective in determining whether interest rates need to be adjusted. This whole exercise is to protect the purchasing power of the currency. While critics may argue that there may be many other factors to be considered in maintaining the purchasing power of a currency, we feel that sufficient factors have been considered here in order to have the desired effect, or at worst have gone a long way towards that desired goal. AT LEAST THAT IS OUR HOPE.
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How
do we evaluate the " value " of