In classical Marxian economics, money is a universal commodity with a value equal to the cost of labor socially necessary to produce it. Gold has value because it is inherently valuable, as it requires immense amount of labor to mine and refine it. At some point, paper money came to replace gold, but it still represented gold.
The rise of fiat money is a relatively recent phenomenon. In 1971, former US President Nixon announced that the US dollar would no longer be backed by gold. Paper money is simply a banknote which, at any time, could be taken back to the central bank and exchanged for gold. No longer, Nixon announced, would US dollars be exchangeable for gold.
Yet, oddly enough, the US dollar did not collapse. Clearly it takes little labor to produce a dollar bill, it is just a piece of paper. The value it represents is undeniably far higher than the labor content contained within it.
Does this contradict the labor theory of value? No. And to explain why, I do not even need to go to Marx. Even from a simple reading of Adam Smith, there is quite a simple explanation.
It’s important to note that value and price are two separate things. Value is a sort of gravitational center which prices hover around. When the price exceeds its value, market forces pull it back down. When prices fall below their value, market forces push it back up.
This only applies, however, to commodities that exist within a highly competitive marketplace. Competition drives prices down, but they cannot be driven below the amount of money required to pay for the laborers at every step of the process, not just your own employees but by purchasing goods to use for your business, you are also paying the employees who produced those goods indirectly. It is impossible, therefore, to continue to run the business without covering this total labor cost all the way down the supply chain. You must at least cover your cost of production.
If prices are driven below the cost of production, then businesses will go bankrupt, causing supply to decrease, and thus price increase, and the market will balance itself as this will continue on until the price increases back up to its cost of production. If demand increases above supply, prices will go up, then that industry will be extra profitable so many capitalists will invest into it, so supply will expand, and prices will be driven back down to cost of production.
Hence, the price, in a competitive marketplace, tends to stabilize around the cost of production. This is, in very brief terms, the labor theory of value. It’s important to point out that for these commodities, it’s not the labor time of the particular industry that translates into its price. It is a market average.
The cattle bred upon the most uncultivated moors, when brought to the same market, are, in proportion to their weight or goodness, sold at the same price as those which are reared upon the most improved land.
— Adam Smith, Wealth of Nations
All similar commodities that are brought to the same market sell for the same price. A potato from one company is the same as a potato from another, so the prices average out.
This is important because it gets us to our first inconsistency from labor time and price. Even though market prices are averages, individual costs of production are still individual. Meaning, for some businesses, cost of production will be below market price, and so they can extract extraordinarily high profits.
This happens a lot with land. Some land is inherently more profitable than others. Maybe it’s more fertile, for example, or it’s closer to the market. Thus, cost of production is cheaper, less labor time to produce with it, but this does not change the market average, so I can sell above cost of production.
If this good land is not owned by the owner of the business but by a landlord, that landlord can charge a rent where the rent is the difference between the market price and their cost of production. This would not cut into the profits of the business, only these extraordinary profits, so the business could still run at normal profit rates.
Hence, rent is a phenomenon created when, forsome reason or another, the labor time it takes to produce a commodity, its value, falls below its price. It is important to note that rent may exist even if there is no landlord. If a subgke person both owns the business and this good land, then he is both the landlord and the capitalist. He produces both profits and rent. Sometimes these two may be confused for one another when the person collecting both is the same, but from an LTV perspective, rent still exists even without a landlord, and the rent would falsely appear as to be extraordinary profits.
When those three different sorts of revenue belong to different persons, they are readily distinguished; but when they belong to the same they are sometimes confounded with one another, at least in common language…A gentleman who farms a part of his own estate, after paying the expense of cultivation, should gain both the rent of the landlord and the profit of the farmer. He is apt to denominate, however, his whole gain, profit, and thus confounds rent with profit, at least in common language.
— Adam Smith, Wealth of Nations
This is an important point, which we will get back to later. Let’s now take a look at a different type of rent that arises from altogether different circumstances.
The vine is more affected by the difference of soils than any other fruit tree. From some it derives a flavour which no culture or management can equal, it is supposed, upon any other. This flavour, real or imaginary, is sometimes peculiar to the produce of a few vineyards; sometimes it extends through the greater part of a small district, and sometimes through a considerable part of a large province. The whole quantity of such wines that is brought to market falls short of the effectual demand, or the demand of those who would be willing to pay the whole rent, profit, and wages, necessary for preparing and bringing them thither, according to the ordinary rate, or according to the rate at which they are paid in common vineyards. The whole quantity, therefore, can be disposed of to those who are willing to pay more, which necessarily raises the price above that of common wine. The difference is greater or less according as the fashionableness and scarcity of the wine render the competition of the buyers more or less eager. Whatever it be, the greater part of it goes to the rent of the landlord.
— Adam Smith, Wealth of Nations
Here in the case of the wine, it can’t actually sell at cost of production. This is because the wine can only be produced by very special soils. The supply is far below the demand and the price is far above the value.
In normal circumstances, natural market forces would try to expand production in this area, more and more businesses would invest to try and get ahold of these profits, which, in normal circumstances, would increase the supply, and thus drive the price down to the cost of production, to its value.
However, only special soil can be used to produce this wine, and there is very little of this soil. Thus, it is simply not possible to expand production of the wine. It is inherently limited. The supply can never meet its demand.
In fact, as other industry expands around it, the demand would likely to only increase. There would be more and more wealth to go around, and more and more people who may desire the wine, but its supply is fixed. Thus, its price would only continue to go up as the economy developed, not down.
Since the wine sells for much higher than its value, this difference can be extracted as a rent. Whatever landlord has a monopoly on this land could rent out this special land to a wine business. The business could collect its ordinary profits, and the landlord could extract this extra revenue for himself.
On the other hand, the landlord could also run the business. If this was the case, he would collect both the rent and the profits for himself. He would sell wine that was fairly cheap to produce, yet would bring in extraordinarily greater revenue than what it cost to produce it.
Why do I explain all this?
Because we see here an example of something that has a supply that cannot be increased by the market and has a price much higher than the actual labor time needed to produce it. This is fiat money.
A lot of effort is put into preventing people from being able to produce money. Forging money is a serious crime and doing so is difficult in the first place. Everyone wants money, but the market can’t simply produce it, it’s illegal. There is always a demand for it as well, since it is required to pay taxes. The state collects money, and it collects it in its own currency.
Fiat money has both a use-value and an exchange-value. Its use-value is that it operates as the wheel for commodity circulation. In order to buy and sell commodities, one must operate in money. It also has an exchange-value since the paper itself requires a certain amount of labor time to produce it. Albeit, this exchange-value is very small.
The state here, however, is a monopolist, like the monopolist who owns the special wine vineyard. The price is always far and away above its exchange-value. Why? Because the demand is very extensive, especially for the US dollar. The US dollar is a global currency and people are trying to exchange commodities with it from every corner of the globe. Yet, the US government holds a monopoly on its production, so supply can never reach demand. It is always far below demand, and thus its price is always far above its value.
If the US Federal Reserve is akin to the monopolist of the special wine vineyard, does that mean they collect a rent? Yes, actually, they do. This can be shown, for example, if the Federal Reserve prints off 5 dollars, it can then spend it to buy something worth 5 dollars, even though it likely took way less than 5 dollars worth of labor time to produce the 5 dollar bill. The difference is a rent that they’d collect.
This is how the Federal Reserve is able to print off ridiculous amounts of money to bail companies out. Yes, increasing the supply will drop its price, but you’d have to print so much money that it becomes worth just as much as the paper within it for it to ever stop producing a rent. The Federal Reserve can easily print trillions and still not hit this amount since the US dollar is so widely in demand from an entire world market. So it collects enormous rents from this.
The US’s ability to print off large amount of money to bail out its own economy is tied directly to the fact that the US dollar is a global reserve currency. This sort of mass printing is not something countries with their own unique currency can do. It is possible, as has occurred many times in history, to print enough money so that the supply does become equal to its demand, and the price of the money will become equal to the cost of producing the paper itself.
The cost of production of money here incorporates not just its labor time but this rent. This is why fiat money has a price far above what it costs to produce, and also explains why the government can just print money to pay for things and yet it doesn’t seem to significantly impact the economy.
It is also important to establish that money never had ceased to represent gold long before the gold standard was removed. Money only initially represents gold, but then once it enters into the public arena, even before the gold standard was abolished, it ceased to represent gold and its price deviated from gold.
“‘As with the establishment of price standards, casting coins is a matter of the state. Gold and silver, as coined money, wear the uniforms of different states, but they take off these uniforms on the world market, revealing that the domestic or national sphere of commodity circulation is separate from their general world market sphere.’ The abrasion of coinage in circulation leads to the separation of the actual and nominal value of money. ‘Gold as a means of circulation deviates from gold as a standard of price. Therefore, gold is no longer the real equivalent of the commodity when realizing the price of this commodity…The natural tendency of circulation process is to change gold of coins into illusion of gold, or to change the coin into a symbol of its legal metal content.’…the separation of the existence of metal and the function of coinage accelerates the birth of paper money…he reason why paper money, which has little real value, can function as a means of circulation is because ‘in the process of continuous exchanges of money, it is enough to have the symbolic existence of money…Money, as a transient objective reflection of commodity price, performs its functions only as its own symbol, and can therefore be replaced by symbols.’”
— “Marx’s monetary theory and its practical value”, China Political Economy
Money is just a wheel for exchanging commodities. It does not inherently have to represent anything, but in earlier times, having it tied to gold made it easier to ensure fair trade. Once it becomes national, regular prices become established. Once it becomes global, it ceases to represent gold, anyways. Removing the gold backing while maintaining the state monopoly over the production of money in order to prevent its price from collapsing, therefore, becomes possible. Fiat money should be viewed as a stage of development of money. It could not have come into existence without a standard first being established.
