Everybody has been talking about this “is money a bubble?” controversy. (Nick Rowe, in addition to being awesome on OLG apple models, is also good at linking everybody in this debate.) I want to make two main points:
(1) This isn’t even about fiat money per se. Even if we’re talking about gold, once it becomes used as a medium of exchange, it achieves an exchange value higher than what it had in direct exchange, precisely because of its new role. In other words, the demand to hold gold goes up, once it acquires a monetary demand in addition to its industrial/consumption demand. So I would caution Austrians not to say something like, “Krugman you idiot! Fiat money is too a bubble because of its very nature it’s worth zero, and eventually that’s where it’s headed!” To be clear, these are all defensible and plausibly true claims, but my point is, the mere fact that fiat money currently has a positive market value, by itself doesn’t guarantee that it must eventually pop. If you think that, then you would have to tell Mises that when he says gold acquires a value because of its use as money, then eventually the gold bubble must pop and gold’s value returns to the floor determined by its industrial/consumption uses. I don’t think most Austrians believe that. If you want to thread the needle you can argue something like, “The ‘bubble’ equilibrium for gold is more stable than for fiat money, because people know gold has a positive backstop value, whereas Benjamins have nowhere to go but doooooown.” So I’m just saying, be careful when attacking Krugman on this, that you don’t throw out gold with the bathwater.
(2) I really really don’t like the Samuelson idea of calling money a “social contrivance.” Here’s Krugman’s take on this, which epitomizes what I dislike:
So what is fiat money? It is, as Paul Samuelson put it in his original overlapping-generations model (pdf), a “social contrivance”. It’s a convention, which works as long as the future is like the past. Obviously, such conventions can break down — but then so can things like property rights. In fact, you could argue that almost every asset in a modern economy owes its value to social convention; green pieces of paper could become worthless, but then so could any paper claim, which is, after all, worth something only because laws say it is — and laws can be repealed.
Here, Krugman is making it sound as if fiat money has its value via the same mechanism that we decide when to hold Election Day. Or, to be more accurate, Krugman is making it sound like fiat money has its value for the same reason that people generally hold doors for each other, or help each other to move.
But this really misses what’s special about money, and other spontaneous orders, that are the “result of human action but not of human design.” (Ironically, I would say property rights are also an example of institution that wasn’t consciously designed, but Krugman is thinking of legislated property rights in government courts.)
The worst offender in this category was an op ed columnist (can’t remember who) who once stated something like, “Fundamentally, money is just a social convention. I agree to give you my stuff in exchange for your intrinsically useless money, but only because you agree to do the reverse in the future.” And that is not at all the way you should be thinking about money.
The single most important work on monetary theory is Ludwig von Mises’ classic, The Theory of Money and Credit. When the Mises Institute commissioned me to write a study guide for it, I confess I was thinking it would be a real chore, because I remembered working my way through it as a kid (either in high school or maybe freshman year in college, can’t remember) and finding it really difficult. But this time through, it wasn’t hard at all. I kept waiting for it to get tough, and it never did. (I’m not just saying I “got it” because I had a PhD in economics. I’m saying even for the lay adult reader, it’s not that hard.) It’s not a Dan Brown novel, to be sure, but it is still good ol’ Mises. And with my trusty study guide beside you, what’s stopping you from absorbing a proper understanding of money?