A Definition of Money Is Not Sufficient, But it Is Necessary to Understand Economies

September 3rd, 2014

Paul Krugman takes aim today at me (though he doesn’t know me from shinola), and others of my ilk who are at least somewhat obsessed with coming to a coherent definition of “money.”

…people who spend too much time thinking about money in general — specifically, on trying to decode money’s true meaning and find the real, true measure of the money supply; they end up starting to believe that everything in economics hinges on getting that measure right, when in fact almost nothing does.

He’s certainly — obviously — right that defining “money” coherently would not be sufficient to give economists an understanding of how economies work. But I’m here to suggest that it is a necessary condition — that absent such a definition, economists are inevitably fated to wrestle endlessly with incoherent understandings of how economies work.

Economists are like physicists trying to ply their trade without a coherent, agreed-upon definition of “energy.” (That definition is not conceptually simple, but it is coherent and agreed-upon.) Absent that definition, physicists’ discussions would devolve into exactly the kind of unending, unresolvable mare’s nests that are the ubiquitous norm in economics. Cue Truman’s “one-handed economist.”

Without a coherent definition of “money,” it’s impossible to have a coherent discussion — or arguably, even a coherent understanding — of how economies (inevitably, monetary economies) work.

I’ve written repeatedly (you could start here or here) about what I consider to be economists’ central, crippling confusion: even some of the most careful money-thinkers out there (e.g. Isabella Kaminska, J. P. Koenig Koning) frequently confute “money” with “currency-like things.” It’s understandable — we’ve always considered Roman coins to be “money” — but it’s a vernacular understanding that considered carefully, is conceptually incoherent.

I’ll end by again bruiting my preferred definitions of “money,” “financial assets,” and “currency,” and pointing to my many previous posts explaining those definitions’ undeniable virtue (and difficulties):

Money is the exchange value embodied in financial assets.

Financial assets are legal constructs defining claims. The exchange value of those claims is “money.”

Physical currency consists of physical tokens representing balance-sheet credits (claims), so it is actually an extra step removed from being “money.”

So financial assets (even dollar bills), which embody money, cannot “be” money.

These definitions cannot be “true.” I only suggest that they are the most useful, coherent definitions for thinking about economies that I’ve been able to come up with.

To return to Krugman: by this definition, the most useful measure of the money stock (in understanding and exploring how economies work) is not any measure of currency-like things (M1, M2, MB, even divisia measures), but household net worth.

In the big picture, the money stock = household wealth: households’/people’s net stock of claims on all our real stuff (tangible and intangible). Or to be conceptually precise: the money stock = the exchange value of those claims.

Cross-posted at Angry Bear.

  1. The Arthurian
    September 3rd, 2014 at 16:26 | #1

    I disagree.

    • September 5th, 2014 at 08:53 | #2

      Arthur: I know you disagree with my definition. But do you disagree that economists need one that’s coherent, and that they agree on?

  2. JKH
    September 6th, 2014 at 20:11 | #3

    Better to be vaguely right than precisely wrong.


  3. Asymptosis
    September 7th, 2014 at 09:20 | #4


    The (non-)relationship between monetary aggregates and inflation since IOR began suggests that those aggregates — and the so-called definitions of “money” that lie behind them — are not even vaguely right.

    Or — note my note that these definitions cannot be true/right, only useful — not even vaguely useful.

    Do you agree that confuting money and currency-like financial assets is problematic? Conceptual solution?

  4. JKH
    September 7th, 2014 at 16:46 | #5


    I see no problem referring to bank reserve balances and banknotes issued by the central bank – as well as demand deposits issued by the commercial banks – as different types of money.

    That seems like a reasonable starting point. And I see no usefulness at in complicating the subject too much beyond that. I think there is far too much teeth-gnashing around this subject in general – when broaching the uncontroversial issue of the liquidity of various types of non money assets. It just isn’t useful. So “vagueness” in this context only refers to the allowance for the classification of various types of money in a practical context – as opposed to some forced straight jacket definition of what money is.

    There is far too much time wasted in general on this fixation for defining money. There is no there there in terms of the ultimate usefulness of it.

    • September 11th, 2014 at 06:14 | #6

      I see no problem referring to cans of gasoline and electricity produced by power plants – as well as waves propagating through space – as different types of energy.

      But do you think physicists would be able to discuss energy coherently if they left it at that?

  5. September 7th, 2014 at 18:52 | #7

    Right, it’s a symptom of essentialism in which definitions aim at capturing the essence of things. Logicians and philosophers realized the error in this some time ago. Operational definition avoids this type of error while being sufficiently precise.

    “Money” is a metonym for a range of uses that could be reduced to an operationalized definition like that which appears in accounting records. This also differentiates the concept of money in general from money things or forms of money.

  6. JKH
    September 8th, 2014 at 03:46 | #8

    @Tom Hickey

    interesting and helpful context – thanks

    the sort of thing I’ve struggled to identity in trying to nail down this issue of definitional obsession

  7. September 8th, 2014 at 08:35 | #9


    “Philosophy is a battle against the bewitchment of our intelligence by means of language.”
    — Ludwig Wittgenstein, Philosophical Investigations, #109

    The foundations of every subject are philosophical in the sense of being built on assumptions, methodological choices, key vocabulary, and conclusions. Foundational inquiry examines these foundations in order to clarify them and expose bias, e.g., arising from the tendency is to argue from ideology and to ideology, masking rhetorical persuasion under the guise of objective rationality. Sometimes this is chiefly oriented to persuading others (sophistry) but much is due to creating a rationale justifying for oneself a viewpoint that one has accepted uncritically.

    The philosophy of …. is the logical examination of these foundations, using “logical” in the broad sense of C. S. Peirce, that is, inclusive of syntactics, semantics and pragmatics. Much has been written on the philosophy of science, for instance, but very little on the philosophy of economics, so much of the foundations in economics is posited uncritically and never carefully examined by economists as a whole. For example, conventional aka “orthodox” economists generally consider methodological issues closed in their favor and don’t bother with “heterodox” critics.

    Wittgenstein’s later works was addressed to how the use of language is booby trapped, so to speak, owing to its complexity and human biases. One of the chief biases is the tendency to oversimplify complexity in the quest for precision that doesn’t exist.

    Essentialism arise from this, for example, and ideological partisans argue over definitions based on intuitive self-evidence of essences and “first principles.”

    In Human Action, Ludwig von Mises was upfront about stating his views on praxeology as a synthetic a priori proposition in the Kantian sense of giving knowledge about the world and being necessarily true. However, from what I’be been able to gather, very few economists are aware of their own ideological presumptions and hidden assumptions, and cognitive biases.

    One of the problems is that getting clear on the fundamentals often exposes the biases of a view, and, of course, proponents of that view mightily resist going there. It’s actually rather funny to see otherwise smart people tying themselves up in knots by this refusal to get clear on the fundamentals of their field, or to look outside their field.

  8. JKH
    September 8th, 2014 at 11:59 | #10

    @Tom Hickey

    Out of respect for Steve in particular (and a number of others I can think of), I shouldn’t have used the word “obsession”, which is too pejorative.

    But I do think a number of smart people in the blogosphere are undertaking a definitional quest that is a misguided misdirection of energy which might be put to better use.

    Just my view of course.

    I would liken it to seeking a pristine definition of a hammer or a nail.

    I think I know a hammer or a nail when I see it.

    By analogy, central bank reserve balances, bank notes, and commercial bank deposits are all different types of hammers.

    The philosophy of language and linguistics is pretty fascinating. It becomes very mathematical at one level. I’ve had a wee bit of exposure to it at that level. I think I’ve mentioned this to you before.

  9. September 11th, 2014 at 09:00 | #11


    The definition of energy in physics is the ability to do work, or to effect change.

    That doesn’t say what energy is, and physics is comfortable in leaving the term “energy” as a metonym that is loosely defined operationally, that is, in terms of what it does, and then go on to distinguish the different forms of energy operationally.

    Economists also use money as a metonym that is defined operationally in terms of chief functions, unit of account, medium of exchange, store of value, and means of deferred payment. A more general definition is any financial instrument that serves as a method of payment. Money is also defined in terms of categories in the various Ms of the money supply.

    A general, indefinite term for the measure and representative of value; currency; the circulating medium ; cash. “Money” is a generic term, and embraces every description of coin or bank-notes recognized by common consent as a representative of value in effecting exchanges of property or payment of debts. Hopson v. Fountain. 5 Humph. (Tenn.) 140. Money is used in a specific and also in a general and more comprehensive sense. In its specific sense, it means what is coined or stamped by public authority, and has its determinate value fixed by governments. In its more comprehensive and general sense, it means wealth.

    Law Dictionary: What is MONEY? definition of MONEY (Black’s Law Dictionary)

    Are these definitions so insufficient that a new definition is needed for clarification. I would say instead that money, being a metonym, is an ambiguous term by design and it use needs to be specified in context. Certainly physicists do this in practice with energy. From this angle it is pretty simple to see why the QTM is wrong if M is taken to be the monetary base and the money multiplier is assumed.

  10. JKH
    September 11th, 2014 at 22:42 | #12


    I see no value in the quest for a “pure” definition that holds without any reference to actual real world context. What purpose is there in seeking a definition that applies to notes and coins, bank reserve balances, and bank deposit liabilities – yet must pass the test of being perfectly true and complete without allowing specific reference to any of those things? The actual real world institutional complexity is simply too deep for that sort of separation to be useful. Such a definition is useless without application to a specified context, why worry about it?

  11. JKH
    September 11th, 2014 at 22:50 | #13


    “something you use to buy stuff” is useful enough for me

    where “stuff” requires further description in context

  12. September 14th, 2014 at 19:23 | #14

    Hey Roth, it’s Koning, not Koenig 😉

    I agree that we really need to work on determining the proper set of words to use when we talk about monetary topics, ensuring that we have sound definitions for those words. Money as a triumvarate of means of exchange, medium of account, and store of value has got to go.

    I am still a bit confused about your money-financial assets-currency triumvirate. What about the cigarettes that were popular as media of exchange in WWII prison camps? Cigarettes aren’t financial assets, so how do they fit?

  13. September 15th, 2014 at 07:48 | #15

    @JP: “What about the cigarettes that were popular as media of exchange in WWII prison camps? Cigarettes aren’t financial assets, so how do they fit?”

    Perfect question, been meaning to post on that. Cuts to the money versus currency distinction.

    I would suggest that cigarettes did in fact serve as currency, hence as financial assets (embodying money/exchange value).

    As I said here:

    All Currency is “Fiat” Currency

    Think of gold coins. If their exchange/consensus value is (enough) less than the (commodity) value of their metal content, people will melt them down and sell the metal. Arbitrage happens. Their consensus exchange value must be higher than the exchange value of their constituent metal, or they’re simply not currency any more; they’re chunks of commodity.

    So cigarettes came to embody consensus exchange value exceeding the consumption value of the cigarettes (for at least enough prisoners). They embodied money. Like dollar bills, they served as physical tokens representing exchangeable credit entries on some great balance sheet in the sky. Their consumption value what different, and lesser.

    That extra exchange value could not be smoked. (This is similar to traders in my post above who found it worthwhile to sacrifice the extra consensus/fiat value of local gold coins to trade outside the coins’ fiat zones.) Though some/many prisoners thought it worthwhile to send that extra value up in smoke, enough others refrained that a stock of “hoarded” money cigarettes-cum-financial-assets emerged and circulated.

    I think significantly, cigarettes were provided free. A key and perhaps defining characteristic of financial assets in my thinking is that they have essentially no costs of/inputs to production. Result, even though many got smoked by different-preferencers, they could maintain their status as currency and a stock of money.

    This ongoing (and predictable) free provision probably also explains how cigarettes could serve as both consumption goods and currency.

    Michael Berg went at this nicely on New Economic Perspectives, reaching many of the same conclusions:

    Was “Cigarette-Money” in World War II POW Camps a Case of Commodity Money Origination?

    Also-tricky related question: what about collectibles such as art? Are they financial assets, hence embodiments of money? I would suggest that the legal ownership of those works — the deeds, so to speak — do in fact serve as financial assets. And that the value of those deeds is part of the money stock.

    This cuts to another crucial distinction I make: between a real asset, and the claim on that asset. The claim on a drill press (“ownership,” legally-inscribed right of exclusion) is a financial asset embodying money. The drill press is just a drill press.

    That may seem a pettifogging distinction, but it’s the only way to I’ve found to think about these usages in a way that doesn’t break down into conceptual incoherence. IOW, it’s really working for me…

    Where this gets tricky: is you claim on the apple sitting on your kitchen counter a “financial asset”? I’d say yes, technically. A claim need not be inscribed in a formal legal document; they can rely on standing law. But almost all the big important claims — the ones that constitute almost all of the money stock — are.

    So: “currency-ness.” I think we need an anthropology-like taxonomy of financial assets. Categorized on various criteria. (I don’t think a biology-style hierarchical taxonomy would work well, and I don’t think spectrum-like axes such as currencyness work well.) Currencyness does point towards one such criterion: Different financial assets have different currencies relative to various other financial assets and real goods. You can’t buy a house or a car with quarters, and unless you’re a Fed account-holder, you can’t buy reserves with them either.

    This all isn’t fully fleshed out, but it’s starting to get pretty coherent for me, I think allowing me to think clearly about a lot of things…

  14. September 15th, 2014 at 09:38 | #16

    @JP Koning

    Oh and sorry about getting your name wrong. Fixed.

  15. September 15th, 2014 at 20:05 | #17


    I think that made things a bit clearer.

    Incidentally, the idea of exchange value (in Adam Smith, for instance) really helped me to get to the moneyness idea. Originally people value a thing purely for its use value, but as a portion of the population starts to value that same thing for its exchange value as well, its price rises. The amount by which it rises is its ‘moneyness’, or liquidity premium.

  16. September 16th, 2014 at 07:01 | #18

    @JP Koning

    Yeah, our two thinkings do coincide to a great extent. “Liquidity premium” is a very good concept as a way to describe the extra exchange value that comes to be ascribed to a thing when it goes from being a pure real good to being generally used as a currency-like financial asset. Might also describe it as “exchange good-ness,” as compared to “consumption good-ness.” Don’t know that that would give widespread help to other people’s comprehension, but I’m liking it…

    Key thing I’m still struggling with, which you’ve written about: how to quantify a thing’s liquidity premium (extra exchange value), when that liquidity is relative to many other things. If multiple exchanges are required to get from X-thing to buying a pack of gum or a house or whatever (because its liquidity relative to gum is zero, for instance), and each of those exchanges has various and changing liquidity constraints…

  17. September 16th, 2014 at 11:24 | #19


    Did you ever read the post I wrote for you?

    In short, you’re right that each thing is ‘differently liquid’. But we can still quantify the liquidity premium by polling people how much they need to be compensated if they are to be simultaneously deprived of all of a given good’s various liquidities. That way we can back out a dollar value for that good’s total liquidity, and since dollars are standard units, we can compare this value across all goods in an economy.

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