Money and Markets: Essays in Honor of Leland B. Yeager

The macroeconomics of money, saving, and investment 145The newcomers’ demand for money holdings, then, is actually a supply of real capital. Byholding money, they relinquish the chairs that they could have bought with thatmoney. Thanks to the newcomers’ thriftiness, those chairs sit poised, ready to becomepart of the economy’s capital stock.Now, at the very moment that our population doubles, you come up with ascheme for transforming an ordinary chair into something better, a chair that willlast two years. To transform ordinary chairs into new, improved chairs, however,you need ordinary chairs to work with – you need capital. Not wanting to devoteyour own chairs to the project or to borrow chairs from someone else directly, yougo to the bank. You ask for a $1,000 loan. The bank consents and credits yourchecking account $1,000. With the newly created money, you buy ten chairs, pluggingthe hole in the spending stream that the five newcomers create by demandingchecking account balances of their own. By demanding money holdings of theirown, then, the newcomers are actually committing ten chairs to the bank’s care,and the bank, by creating new money on loan, transfers the ten chairs to you. Yourintended investment in chairs equals the newcomers’ intended saving of chairs, or,what is the same thing, the total quantity of checking account money just satisfiesthe now enlarged community’s total demand for holdings of checking accountmoney.Forced savingThere is nothing to guarantee, however, that the plans of chair investors and theplans of chair savers will mesh as nicely as they did in this case. After all, the bankerdoesn’t know what portion of their first year’s production the newcomers arewilling to give up as a means of acquiring checking account balances of their own.How could the banker know anything about the demand for holdings of checkingaccount money? How could the banker know how many checks people plan towrite or in what amounts they plan to write them? On a face-to-face basis, thebanker deals with you, the borrower, but never actually speaks with the people whowind up holding the newly created money.Nor would the banker have any reason to speak with them; their not wanting tohold new money can’t block the bank’s creating it on loan for people who areseeking chair capital. Hoping to work on 20 chairs, for example, you might ask forand actually get a $2,000 loan. Now, the community doesn’t want to add $2,000 toits money holdings: the new total quantity of money, $3,000, is the equivalent ofthree months’ income [($3,000/$12,000) × 12 months], not two months’ income.We have no choice, however, other than to accept the new money when it comesour way; refusing the money would mean refusing to make ordinary sales. We’llgladly accept the new money, planning to spend it away ourselves. Next day, whenwe go to the store, however, looking for chairs to buy, what will we find? We’ll findten fewer chairs than we want to buy, 100 chairs instead of 110. The bank, in effect,gives you, its borrower, keys to the chair stores, and with those keys in hand, youbeat the rest of us to the chairs. Instead of those 10 chairs, then, we 9 people getmoney.