One of the keys to understanding Monetary Realism and the modern monetary system (see full explanation here) is understanding the various forms of money that exist within the system.  For this piece I am going to focus on the system as it’s designed in the USA to describe the various forms of money and their relationship to one another.

Money, as it exists in a modern monetary system, is a social construct that serves primarily as a medium of exchange.  Money also serves other purposes, but for this piece we will focus primarily on its most basic function.  As a social species we exchange goods and services via the use of this tool.  Throughout history many things have served as money and still do serve as money.  The most prominent form of modern money is fiat money.  Fiat money is a specific legally mandated unit of account.  These forms of money have no inherent value.  That is, this money is not a physical “thing”.  Instead, it serves as a specified unit of account by virtue of law.  In the USA, the US Dollar is the legally mandated form of money that we use as a medium of exchange and unit of account.

To understand the structure of the US monetary system it helps to understand why we have the system we have today.  The USA was founded on the idea of a market based economy with deep skepticism towards centralized government powers.  Thus, the design of the system in the USA has always remained consistent with keeping the power of money creation from being controlled entirely by the government.  Money creation in the USA is dominated by a private oligopoly that competes for business.   But this system designed around private money issuance has proven terribly unstable at times and in need of a stabilizing force.  What has evolved over the course of hundreds of years is a complex private/public hybrid system.

Money is primarily distributed through the private competitive banking process.  Banks compete for the demand of loans in a market based system.  The primary form of money in existence today resides in bank accounts as bank deposits.  These deposits exist as a result of loans.  Loans create deposits and banks can create these new loans independent of their reserve position.  It’s crucial to understand that the money multiplier is false.  Banks do not multiply their reserve balances.  Instead, banks lend first and find reserves later if necessary.  This mechanism to distribute money is essentially a privatization of the money supply to an oligopoly of private banks.  That is, the form of money we all utilize on a daily basis is controlled almost entirely by private banks (though it’s growth is largely contingent upon demand).

This form of bank money is called “inside money”.  Inside money is created inside the private sector.  Inside money includes bank deposits that exist as a result of the loan creation process.  It is the dominant form of money in the modern economy and as the economy has become increasingly electronic it has taken on an increasingly prominent role in the modern economy.  Money is no longer a physical thing, a cash note or a gold bar.  Its most common form is now numbers in a computer system.  Read more