Chapter III: Part I: The Elements (2)

When the conditions are such that the capital and labour applied to them _just_ get their worth while and no more, those conditions are said to be “_on the margin of production_,” which means that they are the worst conditions under which men in a particular society will consent to produce wealth at all. Put them on conditions still worse, and they will not produce.

Now the existence of this Margin of Production creates the third division in Wealth, which is called =RENT=.

_Rent is the surplus over and above the minimum required by labour and capital out of the total produce._ (We must be careful, as we saw in the case of “Interest” not to confuse true economic Rent with “Rent” in the conversational sense. Thus what is called “the rent” of a house is part of it true economic rent, but part of it interest on the accumulated or saved wealth, the _Capital_ of its bricks and mortar and building.)

Take the case of a seam of coal, which at one end of its run crops out on the surface, a couple of miles on is only 1,000 feet below the surface, but dips down gradually until, within twenty miles, it is 10,000 feet below the surface.

Under the conditions of the society in which the coal is being mined, and in the state which the science of mining has reached, it is found that, at a depth of 5,000 feet, this seam is _just_ worth while mining: that is, the capital which has to be accumulated for sinking the shafts and bringing the miners up and down from their work, and raising the coal to the surface, and providing subsistence for the miners at their work, _just barely_ gets the profit below which it would not be worth while to use it.

A shaft sunk at this depth, for instance, and the machinery and stores cost £10,000, and when you get the coal to the surface that coal will pay the standard of subsistence of the labourers and leave £500 profit for capital; that is, 5 per cent. Capital will not accumulate if it gets less than 5 per cent. Labour will not be exercised if it gets less than its standard subsistence; therefore, the coal which lies farther along the seam, deeper than 5,000 feet, will be left untouched. It is not “worth while” to sink a shaft to try and get it. It is “below the Margin of Production.”

What happens to the coal in the places where it gets nearer and nearer to the surface? Obviously, it is better worth while to sink shafts there than it is at 5,000 feet. You only want the same amount of labour for cutting the coal out, whether it is 5,000 feet below the surface or 2,000, and you want much less capital and labour in sinking the shafts and bringing the coal to the surface and getting the miners up and down. There is, therefore, a surplus. Thus with a shaft only 2,000 feet deep you need, say, only £5,000 worth of capital to get £500 worth of coal over and above the subsistence of the labourers. 5 per cent. on £5,000 is £250--so in that case there is a benefit of an extra £250 _after_ the “worth while” of Capital and Labour are satisfied. Over and above what is just the “worth while” of capital and labour for getting the coal you have in the shallower mines extra value, and that extra value gets larger and larger as the distance of the coal from the surface gets less and less. The deepest mine is on what we call “the margin of production.” It is just worth while to work it. The surplus values in all the shallower mines are called RENT. If a landlord owned the coal in quite a shallow part where it was within a thousand feet of the surface, he could say to the labourers and the owners of capital who were coming to dig it out: “The mine which is working at 5,000 feet is just worth your while. If you work here at 1,000 feet you will have a great deal more than 5 per cent. on your capital, and the subsistence of labour is just the same. All this extra amount of values, however, I must have, otherwise you shall not work my coal.”

Since the Capitalists are content to accumulate capital for a return of 5 per cent. and the labourers to work for their subsistence, the extra amount is paid to the landlord. If one set of people refuse to pay it, there will always be another set of people who will be content to pay it and this extra amount or surplus is called “Economic _Rent_,” which is something, of course, much more strictly defined than, and different from, what we call Rent in ordinary conversation.

Or again, take three farms of equal area but varying fertility. Each requires £1,000 capital to stock it and five labourers to work it. The £1,000 capital demands £50 a year profit. The five labourers need £500 in a year to meet their standard of subsistence. The poorest farm raises just £550 worth of produce a year. The next best raises £750, and the best one £950 worth. Then there is _no_ economic rent on the first; it lies on the “margin of production.” There is £200 economic rent a year on the second, and £400 on the third.

* * * * *

We can sum the whole thing up and say that on the mass of all production there are three charges:

1. =First, the charge for the subsistence of labour.=

2. =Next, the charge of profits, or interest, for the reward of capital, that is, of saving, and lastly=

3. =In varying amounts, rising from nothing at the margin of production, to larger and larger amounts under more favourable circumstances, the surplus value called Economic Rent.=

These three divisions are always present whenever wealth is produced. The same man may get all three at once, as happens when a farmer works good land which is his own. Or again, when one man owns the fertile land and another man provides the capital, and yet another man provides the labour, the three divisions appear as three incomes of Labourer, Farmer and Landlord receiving separately Wages, Profit and Rent. Whether these divisions appear openly, paid to different classes of men, or whether they are concealed by all coming into the same hands, they are present everywhere and always. That is a fixed economic law from which there is no getting away.

Always remember that these economic laws are in no way binding in a social sense. They are not laws like moral laws, which men are bound to obey. They are certain mathematical consequences of the very nature of wealth and its production, which men must take into account when they make their social arrangements. It does not follow because Rent or Interest are present that such and such rich men, or the State, or the labourers, have a right to them. That is for the moralist to decide; and men can in such matters make what arrangements they will. All economic science can tell us is how to distinguish between the three divisions, and to remember that they are inevitable and necessary. But we must wait until a little later on to discuss social rights and wrongs under Applied Economics and continue here for the present to confine ourselves to the Elements of economic law alone.

V

EXCHANGE

=EXCHANGE= is really only a form of production, as we saw in the illustration of the island with salt and the main-land with meat. When the exchange of the things is of advantage to both parties it creates wealth for both, and profitable exchange is, therefore, when it takes place, only the last step in a general chain of production.

But Exchange is so separate an action that students of Economics have agreed to treat it as a sort of chapter by itself, and we will do so here.

The characteristic of Exchange is that you take a thing from a place where it has less value to a place where it has more value, thus adding an economic value to the thing moved and so creating wealth. In the same transaction you bring back something else against it, which has more value in your own place than it had in the place from which you took it, that is again adding an economic value and therefore creating wealth. We saw how this was in the case of the salt and the meat, and so it is with thousands upon thousands of exchanges going on all over the world.

For instance, we in England have grown fond of drinking tea in the last 200 years. But our climate will not allow us to grow tea. Tea can only grow in a very hot country.

Now in very hot countries specially heavy labour upon metal work is not to be expected. Men are not fit for it. But in this cool climate men are fit for it, and also men here have through long practice become very skilful at working metal: smelting iron, for instance, and making it up into machines.

Therefore, there is a double advantage to us and to the people who live in the hot countries where tea is grown if we _exchange_. We send them metal things that we have made and which are useful to them, and which they could hardly make themselves, or only with very great difficulty (and, therefore, at a great expense of energy), and we get from them tea, which we could not grow here except in hot houses: that is, at much more expense of energy than is needed in the countries where tea grows naturally out of doors.

When there are present two or more objects of this kind, such that the exchange of them between two places will benefit both parties, we may speak of “_a potential of exchange_,” stronger or weaker according to the amount of mutual advantage derived.

This word “potential” you will not find yet in many books, but it is coming in, for it is a very useful word. It is taken by way of metaphor from Physical Science. When there is a head of water over a dam, or a current of electricity of such and such an intensity, we talk of the “_potential_” and measure it. For instance, we say this electrical current is double the potential of that, or the head of water working such and such turbines is at double the potential of another head of water in the neighbourhood. In the same way we talk of a “potential” of exchange, meaning a tendency for exchange to arise between two places or people because it is of mutual benefit to both.

Potentials of exchange come into existence not only through difference of climate or differences of habit, but also through what is called the _Differentiation of Employment_, which is also called Division of Labour.

Thus two countries may be both equally able to produce, say, metal work and silk fabrics, and yet if one of them concentrates on getting better and better at metal work and the other on getting better and better at silk fabrics, it may well be that both will benefit by separating their jobs and exchanging the results. And this is true not only of two countries, but of individuals and groups.

The cobbler does not make his own clothes. He makes boots, and by learning his trade and getting used to it makes them much better and in a much shorter time than other men could, and therefore makes a pair of boots with less expense of energy, that is, _cheaper_, than another man would. The tailor can say the same thing about making clothes. So it is to the advantage of the cobbler to exchange his extra boots against the extra clothes the tailor has made.

In general: intelligent societies always tend to build up a very wide-spread system of exchange, because intelligent people tend to concentrate each on the job that suits him best, and also because intelligent people discover differences of climate and soil and the rest which may make exchange between two places a mutual advantage for both.

It is indeed a great mistake to do as some modern people do, and put Exchange in front of Production. Thus you hear people talking as though the trade a country does, the total amount of its exports and imports, were the test of its prosperity, whereas the real test of its prosperity is what it has the power to consume, not what it manages to exchange.

But still, though it comes at the end of Production and must never be made more important than the whole process of Production, Exchange is present universally wherever there is active production of Wealth. Thus the group of people who build ships are really exchanging what they make against the produce of other people who make clothes and grow food and build houses, and the rest of it; and in a highly-civilised country like ours much the greater part of the wealth you see consumed around you has gone through many processes of exchange.

There are a few elementary Formulæ concerning Exchange which it is important to remember.

1. =There is a Potential of Exchange, that is, exchange tends to take place, when of two objects the proportionate values are different in two different communities.=

It is not very easy to understand the meaning of this until one is given an example. Supposing a ton of coal from England to be worth £2 by the time it is delivered in Cadiz, and supposing that making a dozen bottles of wine in England, with all the apparatus of hot-house grapes and the rest of it, came to £5 of expense. Supposing that in Cadiz, from the small coal mines near by, they can produce coal at only £1 a ton, but on account of their climate they can produce a dozen of wine for a shilling. Then you get this curious situation:

It pays the exporting country, England, to sell coal in Cadiz _at less than its English economic value_, and to import the wine from Cadiz. It pays your English owner of coal, although the values attaching to it by the time it has got to Cadiz are £2 a ton, to sell a ton of coal there for only £1, and to exchange that against the wine of Cadiz, and bring that back to England. At first sight it sounds absurd to say that selling thus at a lower value than the cost of production and transport can possibly be profitable. But if you will look at it closely you will see that it is so.

If the Englishman had tried to make his wine at home it would have cost him £100 to make twenty dozen bottles, but when he has sold his coal at Cadiz for £1 he can with that £1 buy twenty dozen of wine and bring it back to England. He is much the wealthier by the transaction, and so is the man at Cadiz. The Cadiz man could have spent his energies in digging out a ton of coal near Cadiz instead of importing it, but the same energies used in making wine produce enough wine to get him rather more coal from England.

2. The second Formula to remember about Exchange is this: =Goods do not directly exchange always one against the other, but usually in a much more complicated way, by what may be called= _Multiple Exchange_.

Of course, the vehicle by which this is done is a currency, or _money_, which I will explain in a moment; but the point to seize here is that exchange is just as truly taking place when there is no direct barter of two things but a much longer and complicated process.

For instance, a group of people called a Railway Company in the Argentine want a locomotive. A locomotive can be produced cheaper and better, that is, with less expenditure of energy for the result, in England than in the Argentine. But on the other hand, England wants to import tea. Now the Argentine grows no tea. What happens? How does England get the tea? That locomotive goes out to the Argentine. An amount of wheat sufficient to exchange against the locomotive goes against it, _not_ to England, but to Holland, a country which, like us, has to import a lot of wheat. As against the wheat sent to Holland, the people in Holland send, say, the cheeses which they make so well, on account of their special conditions, and the consignment goes to Germany. The Germans send out a number of rails equivalent to the number of cheeses and of the wheat and of the locomotive, as they are very good at making rails, and have specialised on it. But they do not send the rails to Holland. They send them to some Railway Company which has asked for them in Egypt. The Egyptian people send out an equivalent amount of cotton, which they can grow easily in their climate, and this cotton goes to mills in India, and against it there comes an equivalent amount of tea, but the tea does not go back to Egypt. It goes to England.

There you have a circle of Multiple Exchange in which everybody profits by the exchange going on, although it is indirect. In the same way, of course, it is true that all of our domestic exchanges at home are multiple. If I write a book which people want to read, whereas I want not books but several other things, boots and fuel and furniture, I do not take my books round to the man who provides boots and to the one who provides fuel and to the one who provides furniture. I go through the process of selling my book to a publisher, and through an instrument he gives me, called a cheque (I will explain this when we come to the point of money), I can obtain boots and fuel and furniture to the amount of the value of the books of mine which my publisher will sell. Yet when exchange is thus highly indirect and multiple it is just as much exchange as though I went and bartered one book for one pair of boots with the cobbler.

3. The third thing to remember about Exchange is of the utmost importance, because it has given rise to one of the biggest discussions of our English politics. The Formula runs thus:--

=Other things being equal, the greatest freedom of exchange in any given area makes for the greatest amount of wealth in that area.=

It ought to be self evident, but it is astonishing how muddled people get about it, when they become confused over details and cannot see the wood for the trees. It ought, I say, to be self-evident that if you leave Exchange quite free, anybody being at liberty to produce what he can produce best, and exchange it for things which other men can produce better than he, both parties will tend to be the richer by such freedom and the wealth of the whole country will be greatest when all exchanges in it are thus left free to be worked by the sense of advantage.

If there were a law, for instance, preventing me from buying etchings, or preventing Jones, the etcher, from buying books, Jones would have to write his own books (or do without them, which is what he would do), and I should have to etch my own etchings, which would be exceedingly poor compared with the wonderful etchings of Jones. We are obviously both of us better off if we are left free to exchange what we can each make best. And so it is with all the countless things made in a State.

This principle applies not only to a particular nation but to the whole world. If you left the whole world free to exchange the whole world would be the richer for it. And any interference with exchange between one nation and another lessens the total possible amount of wealth there might be in the world.

So far so good; and, as I have said, such a truth ought to be self-evident. But here there comes in a misunderstanding of its application, and that misunderstanding has made any amount of trouble. It is so important that I must give it a separate division to itself.

VI

FREE TRADE AND PROTECTION

Nations, as we know, put up tariffs against goods which come from abroad: That is, their Governments tax imports of certain goods and thereby interfere with the freedom of exchange. For instance, the French have a tax of this kind upon wheat. Wheat grown in France will cost, let us say, £1 a sack, but the Argentine can send wheat to France at an expense of only 10s. a sack, because the land there is new, and for various other causes. If the wheat from the Argentine were allowed to come in freely, and the French to export against it things which they can make more easily than wheat they would have more wheat at a less total expense; but they prefer to put a tax of ten shillings upon every sack, that is, to put up a barrier against the import of wheat from abroad, and so keep up the price artificially at home.

When a nation does this with regard to any object that may be imported, if the object can also be produced within the nation (which it nearly always can) it is said to _protect_ that object, and the system of so doing is called =Protection=. The word arose from the demand of certain trades to be “protected” by their Governments without considering whether it was for the good of the whole nation or not. It obviously would be a very nice thing for people who breed sheep, for instance, in this country, if all mutton coming from the Colonies were taxed at the Ports, while the mutton grown inside the country were not taxed; for in this way the value of the mutton would rise in England, and the rise would benefit the sheep owners. But it would be at the expense of all the other people who did not grow sheep, and who would have to pay more for their mutton.

As opposed to this system of _Protection_, and interfering with international exchange by a tariff, intelligent people a long lifetime ago began to agitate for what they called “=FREE TRADE=,” that is the putting of no tariff on to an import, or at least no tariff high enough to give an artificial price to the producer of the same thing at home. Thus, when England was completely Free Trading (which it was until the war) there was a tariff on tea; but that was not Protection, for those who would try to grow tea here would have to grow it in hot houses and at an enormous expense, and the tax on tea, though heavy, did not make it anything like so dear as to make it worth while to produce tea here.

Another principle of Free Trade was that if it was thought advisable to put a tariff on to anything coming into the country which could be produced in the country, then you would have to put what was called “_an equivalent excise_” on the thing produced at home. For instance, in order to get revenue, one might put a tax of a 1d. on the pound on sugar coming from Germany, but, according to the doctrine of Free Trade, you must put a similar excise (that is, a home tax of 1d. on the pound) upon any sugar produced in England. If you did not do that you would be benefiting the sugar manufacturer in England at the expense of all other Englishmen, which would be unjust and also make England less wealthy because it would be inducing Englishmen to make sugar by offering them a reward and so take them away from some production for which they were better fitted.

This idea, that Free Trade must necessarily be of advantage to everybody, and that it was only stupidity or private avarice which supported Protection, was very strong in England, and, in the form you have just read, it seems beyond contradiction.

But if you will look closely at Formula No. 3 written in the last division on page 59 you will see that there is a fallacy hidden in this universal Free Trade theory. It is perfectly true that free exchange over any area tends to make the wealth of all that area greater, and if the area include the whole world, then free exchange all over the whole world, that is, complete Free Trade, would make the world as a whole richer.

_But it does not follow that_ EACH PART _of the area thus made richer is itself enriched_. That is the important point which the Free Trade people missed, and it is this which supports, in some cases, the argument for Protection.

If we allow free exchange everywhere throughout England, England as a whole will, of course, be the richer for it; but it is quite possible that Essex will be the poorer. If we allow Free Trade throughout all Europe, Europe will be the richer for it; but it is quite possible that some particular part of Europe, Italy or Spain, may be made poorer by the general process, and as they don’t want to be poorer they will by Protection and tariffs cut themselves off from the area of free exchange.

=There are conditions where an interference with free exchange over the boundaries of a particular area make that area richer: when those conditions exist, there is what is called an Economic Reason for Protection.=

So we may sum up and say that the theory of universal Free Trade being of benefit to the world as a whole is perfectly true. If we are only considering the world, and do not mind what happens to some particular area of the world, then the case for Free Trade is absolute. But if we mind a hurt being done to some particular area, such as our own country, more than we mind the hurt done to the world as a whole, then we should look at our particular conditions and see whether our country may not be one of those parts which will be drained of wealth by Free Trade and will be benefited by artificially fostering internal exchanges.

In the second part of this book I will go into this again, and show how the discussion arose in England and what the arguments are for and against Universal Free Trade, and how true it is that a sound economic argument for Protection exists.

VII

MONEY

When people begin exchanging by bartering goods one against another they at once find that there is an awkward obstruction to this kind of commerce; at least, they find it the moment there are more than two of them. It is this: That the person they are nearest to for the striking of a bargain may not want, at the moment, the particular thing they have to offer, but something else which a third party has who is _not_ present.

For instance: John is a hunter who has a surplus of skins to offer. He can get skins easier than other people. William, farming good soil, has surplus wheat to offer, and Robert, living near a wood and skilled as a woodman, has extra wood to offer. John wants wood. He takes one of his furs to Robert and says: “I will give you this fur for a cartload of wood.” But Robert may answer, “I don’t happen to want a fur just now. What I do want is a sack of wheat.”

Either no transaction will take place on account of this hitch, or one of these two things will happen: Robert will take the fur from John and give him his cartload of wood, and will then take the fur over to William, and see whether William wants a fur in exchange for some wheat. Or John, very much wanting the wood, will go to William, and if William wants a fur, will exchange it for wheat; then John will take the wheat back to Robert, and exchange it for the wood that he wants.

That is the sort of complicated and clumsy come-and-go that will be continually happening even with quite a few exchangers, and with quite a small number of articles. When it came to a great number of exchangers and a great number of articles the trouble would grow impossible and exchange would break down.

But things arrange themselves thus: It is soon found that one of the things which are being exchanged is easier to carry than the rest, and perhaps lasts longer and also can be easily used in small or large amounts. For instance, in the case of our three producers, John, William and Robert, _wheat_ might easily appear in this character. People always want wheat sooner or later. It keeps well. It is not very difficult to transport, and you can divide it into quite small amounts, or lump it up in large amounts.

So the chances are that when any of the three wanted to benefit by getting rid of some of his surplus produce he would get into the habit of taking _wheat_ in exchange, even if he did not want it for the moment. For he would say to himself: “I can always keep it by me and then exchange it against somebody else’s produce when that somebody else happens to want wheat”. Soon you would find each one of the three would be keeping a little wheat by him for the purpose of saving tiresome journeys to effect complicated double exchanges, and the wheat so used by all three of them would be in effect =MONEY=. It would be used as a common medium of exchange to facilitate the disposal of goods one against the other, without the elaborate business of making special barters, after long search.

Mankind has found, in most cases, that where a very large number of articles were being exchanged _two_ in particular naturally lent themselves to this particular use, and those two were GOLD and SILVER. They have also used bronze, and even iron and in some places rare shells, and all sorts of other things. But gold and silver came to be for nearly all mankind, and are now for all civilised mankind, the objects which most naturally are used as money.

The reason for this is as follows:

The thing which naturally becomes money out of all the things that are exchanged will be that which best combines a certain number of qualities, some of which we have already mentioned, and of which here is a list.

1. It must be portable, that is, a large weight of it must take up little room, so that quite considerable values can be taken easily from place to place--for money has to be always moving from one to another to effect purchases and sales.

2. It must be easily divisible, for one is always wanting to use it in all sorts of amounts, very little and very large.

3. It must keep. That is, it must not deteriorate quickly, or it would have very little use as Money.

4. It must be of an even quality, so that, wherever you come across it, you may count on its being pretty well always the same, and therefore weight for weight of the same value.

5. It must be more or less stable in value. It would be difficult to use as money some object which was very plentiful at one moment and suddenly scarce at another; very cheap this year, and very dear next year--such as are, for instance, agricultural products depending upon the season.

Now of all objects Gold and Silver best fulfil all these requirements. Precious stones are more portable, value for value. A £1,000 worth of diamonds takes up less space and is less heavy than a £1,000 worth of gold. And precious stones are fairly stable in value and also keep very well; but they are not easily divisible. Again, they are not of the same standard value in all cases. They vary in purity. But gold and silver have all the qualities required. Gold hardly decays at all through the passage of time, and silver very little; and each, but especially gold, is valuable for its bulk, and its value is fairly stable, and each is easily divisible and can therefore be presented in any amount, from a tenth of an ounce to a hundred pounds weight.

So, by the mere force of things, Gold and Silver became the Money of mankind. People kept gold and silver by them in order to effect their exchanges, and very soon a producer did not feel himself to be exchanging at all (in the sense of exchanging goods against goods), but thought of the affair as _Buying and Selling_. That is, of exchanging his produce, not against other produce, but against gold and silver, with the object of _later_ re-exchanging that gold and silver for other things that he needed.

Money, once thus established, is called =A MEDIUM OF EXCHANGE= and also =CURRENCY= or =THE CIRCULATING MEDIUM=. It is called “currency” and “circulating” because it goes its round through society, effecting the exchanges, and this running around or circulating gives it its name: “That which is current” from the Latin for “running.” That which “circulates” from the late Latin word for “going the rounds.”

When gold and silver become the money of mankind it is important to be able to tell at once the exact amounts you are dealing with. This, under simple conditions, is done by weighing; but it is more convenient to stamp on separate bits of metal what weight there is in each, and that is called “coining the metal.” All that a Government does when it makes a sovereign is to guarantee that there is so much weight of gold in the round disc of metal which it stamps.

Money does not only fill this main function of being a medium of exchange, that is, of making a vast quantity of complicated exchanges possible, it also has great social value as a measurer or standard, and soon after money comes into use men begin to think of the economic values of things in terms of money: that is, in what we call “=Prices=.”

All things which men produce are fluctuating the whole time in value. There is now rather more of one article, and now rather less. A sack of barley at one moment will exchange exactly against a sack of wheat, and then in a few weeks against rather less than a sack of wheat. Meanwhile, where it used to fetch a lamb in exchange it may, in a few months, need two sacks for a lamb; and so with all the hundreds and thousands of other objects. When we have money the whole mass of transactions is referred to the current medium, and that is of immense social value. For no one could keep in his head all the changing exchange values of a multitude of articles one against the other, but it is easy to remember the exchange values against one standard commodity, such as gold. And whatever the exchange value is in gold we call the =price= of the article.

For instance, when you say that a house is worth £500, that that is the “_price_” of the house, you mean that the amount of gold you would have to exchange to get it is about Ten Pounds weight of the metal. And when you say that the price of a ticket to Edinburgh is £4, you mean that the service of taking you to Edinburgh in the train will be exchanged against about an ounce of the metal gold.

* * * * *

I now come to a most difficult point about money and prices which is rather beyond the elements of Economics, but which it is important to have some idea of, though it is very difficult.

There is a very interesting study in Economics called “_The Theory of Prices_,” showing why _all prices on the average_ (what is called “General Prices,” that is the value of all goods _in general_ as measured against gold) sometimes begin to go up and at other times go down: Why goods as a whole begin to get dearer and dearer in gold money, or cheaper and cheaper. It is a complicated piece of study, and people dispute about it. But the general rules would seem to be something like this: The exchange value of things against gold, or the value of gold, against the things for which it exchanges (that is prices) is made up of two things: _First_, the amount of gold present to do the work of exchange; _Secondly_, the amount of work you can make it do in exchange: The pace at which you can get it to circulate. It is obvious that one piece of gold moving rapidly from hand to hand will do as much work in helping exchanges to be carried out as ten pieces moving ten times more slowly.

If, for any reason, the total amount of gold becomes suddenly smaller or suddenly larger, or if the pace at which it is used changes very quickly, then prices fluctuate violently.

Supposing you could, in a night, take away half the gold in circulation. Then, of course, the remaining gold would become much more valuable. In other words, prices would fall. For if an ounce of gold is rarer and more difficult to get than it was, it will exchange against, that is, “buy” more than it did; this means that “the price of things has fallen.” We used to say, for instance, that a quarter of wheat was worth an ounce of gold. But if we suddenly change the amount of gold so that gold becomes much rarer and more valuable, perhaps an ounce of gold will buy not one quarter but two. The price of one quarter used to be an ounce of gold. Now the price is only half an ounce of gold. Wheat has become cheaper in proportion to gold, and “prices,” that is, values measured in gold, in money, have fallen.

The same thing would happen if you did not lessen the amount of gold in circulation but made the circulation much more sluggish. The amount of gold in circulation would be the same, but as it went its rounds more slowly it would be more difficult to get a certain amount of gold in any one place at any one time.

Prices, then, depend upon the actual amount of money that is present to do the work, _and_ the pace at which it is made to go the rounds: or (to put it in technical terms), on the amount of the currency _and_ its “_efficiency in circulation_.”

Now, there is in the human mind a very strong tendency to keep prices stable. We think of them by a sort of natural illusion as though they were absolute fixed things. We think of a pound, and a shilling, and five pounds as real, permanent, unchanging values. If we find that quite suddenly five pounds will buy a great deal more than it used to, or quite suddenly a great deal less, if we are met by a sudden and violent fluctuation in prices of this kind, our minds tend, unconsciously, to bring things back, as much as possible, to the old position; and I will show you how this tendency works in practice.

Supposing a very great deal of gold, for some cause, were to disappear. People suddenly find prices falling very rapidly. A man with a £1,000 a year can buy twice as many things, perhaps, as he used to buy. On the other hand, a man with anything to sell can only get half the amount he used to get. For gold has become rarer, and therefore more valuable as against other things.

What is the result? _The result is a very rapid increase in the pace at which the gold circulates._ Every purchaser feels himself richer. The gold is tendered for a much larger number of bargains, and though the mind, by this illusion it has of gold value as a fixed thing, cannot bring the actual gold back, what it can do is so to increase the second factor, =Efficiency in Circulation=, as largely as to make up for the lack of gold; and under the effect of this prices will gradually rise again. In the same way, if the mass of current medium by some accident becomes suddenly increased that should lead to an equally sudden rise in prices; but the unconscious tendency of the human mind to keep prices stable sets to work at once. Efficiency in Circulation slows down, the new large amount of currency works more sluggishly, and, though prices rise, they do not rise nearly as much as the influx of money might warrant.

We see, therefore, that the factor in the making of prices called “Efficiency in Circulation” works like a sort of automatic governor, tending to keep prices fairly stable; but of course it cannot prevent the gradual changes, and sometimes it cannot prevent quite sharp changes, as we shall see a little later on. For the moment, the interesting thing to note about Efficiency in Circulation is that we owe to this factor in prices the creation of _paper money_.

If, with only a certain stock of gold to work on, business rapidly and largely increases, if a great many more things are made and exchanged, then, as the gold will have a lot more work to do--and so become more difficult to obtain in any one time or place--that should have the effect, of course, of making it more valuable, that is, of lowering prices.

Now with the beginnings of modern industry, about a hundred and fifty years ago, a vastly greater number of things began to be made than had ever been made before, and the number of exchanges effected multiplied ten, twenty and a hundredfold. The stock of gold, though it was increased in the nineteenth century by discoveries in Australia and California, and later in South Africa, would have been quite unable to cope with this flood of new work, and prices would have fallen very much indeed, had it not been for the creation of _Paper Money_. Paper money was a method of immensely increasing Efficiency in Circulation.

This is how it worked.

A Bank or a Government (but especially the Bank of England, with the guarantee of the Government) would print pieces of paper with the words: “I promise to pay to the bearer of this Five Pounds.” Anyone who took one of these pieces of paper to the Bank of England could get Five Golden Sovereigns. But since this was publicly known, people were willing to take the piece of paper _instead of_ the five sovereigns.

If you sold a man a horse for fifty pounds, you were just as willing to take ten five pound notes for him as fifty sovereigns. They were more convenient to carry, and you knew that whenever you wanted the actual gold you had only to go to the bank and get it.

Because people were thus willing to be paid in paper instead of in the actual gold, a large number of notes could be kept in circulation at any one time, and only a small amount of gold had to be kept in readiness at the Bank to redeem them. In practice it was found that very much less gold than the notes stood for was quite enough to meet the notes as they were brought in for payment. Much the most of the note circulation went on going the rounds, and in normal times it took a long time for a note on the average to be brought back to the Bank.

You can see that this dodge of paper money had the effect of increasing the total _amount_ of the current medium in practice, and of greatly increasing its Efficiency in Circulation. Moreover, it made the Efficiency in Circulation very elastic, because in times of quiet business, more notes would go out of circulation and be paid into the bank, while in time of active business more notes would go on circulating.

_So long as every note was redeemed in gold every time it was brought to the bank, so long as the promise to pay was promptly kept, the money still remained good; the paper currency did not interfere with the reality of the gold values, there was no upsetting of prices, and all went well._

Unfortunately, Governments are under a great temptation, when they have exceptionally heavy expenses, to falsify the Currency. People get so much in the habit of trusting the Government stamp on paper or metal that they take it as part of nature. What the Government is really doing when it coins a sovereign is giving a guarantee that this little disc of yellow metal contains 123 grains of gold with a certain known (and small) amount of alloy to make the gold hard. When the Government has to pay a large amount in wages, or for its Army and Navy, or what not, it is tempted to put in less gold and more alloy and keep the old stamp unchanged, and that is called “Debasing the Currency.”

For instance, the Government wants a hundred tons of wheat to feed soldiers with, and the price of wheat in gold at that moment is Ten Sovereigns a ton. It says to a merchant, “If you will give me a hundred tons of wheat, I will give you a thousand sovereigns.” But when it comes to paying the thousand sovereigns, instead of giving a thousand coins with 123 grains of gold in each, it strikes a baser coin with only a hundred or less than a hundred grains in each, and pays the merchant with these. It is a simple form of cheating and always effective, because the merchant thinks the sovereign is genuine. Only when these bad sovereigns get into circulation they naturally find their level in gold; for people begin to test them, and find that they have not got as much gold in them as they pretend to have. Then, of course, prices as measured in this new base coin rise. If the Government wants to buy another hundred tons of wheat it must offer more than a thousand of the base coins; it must offer, say, thirteen hundred of them. But again it is tempted to put even less gold into the coins with which it pays for the second lot of wheat, and so the coin gets baser and baser, until at last, perhaps, a sovereign will not really be worth half what it pretends to be. Governments in the past have done this over and over again, but it was not until our time that the worst form of debasing the coinage came in.

It came in as a result of the Great War, and we are all suffering from it to-day. This last and worst form of debasing coinage worked, not through cheating about the metal, but through a trick played with paper money.

Before the war, if you got a Five Pound note saying “I promise to pay Five Pounds” the promise was kept and the five golden sovereigns were there for you whenever you went with your note to the bank and asked for them; but when the Government had these very heavy expenses to meet on account of the war, they first began making difficulties about paying when people brought their paper to the bank, and at last stopped paying altogether. At the same time, they did everything they could to get the gold out of private people’s hands and to make them use paper money instead. The consequence was that, people being so accustomed to think of a paper guarantee of the Government exactly as though it were real money, readily took to the new notes and used them as money, thinking of these wretched bits of paper exactly as though they were so many golden sovereigns. The Government could go on printing as many bits of paper as it liked, and they would still be used as though they were real money. So long as the amount of paper printed was not more than _would have been printed_ when the notes were redeemable, and when the currency was on a true “_Gold Basis_,” no harm was done; but of course it paid the Government to go on printing a great many more notes than that, because, when it could make money thus cheaply, it could pay for anything, however great the expense; but at the cost, of course, of debasing the currency more and more.

This kind of money, forced upon people, pretending to be the same as real money but actually without a Gold Basis, is called _Fiat_[1] money, and that is the kind of money the whole world has to-day, except those countries which did not take part in the Great War, and the United States which did not ever give up its gold basis.

Of the different European fighting countries, however, ours did best in this matter. We are still living on Fiat money, and we have much more of it than we ought to have. But the French have more in proportion, so that prices measured in _their_ money are now (1923) more than three times what they would be in gold. The Italians are worse off still. With them it is four times. With the Germans it is millions of times, and their currency has quite gone to pieces; a paper coin in Germany is worth (at the time I write, October, 1923) _ten million_ times less than the real metal coin which it is supposed to represent.

This is one of the very worst things that has happened on account of the war, for as the money now being used all over Europe is not real money, no one feels certain whether he can get his debts really paid, or whether his savings are safe, or whether a contract made for a certain payment a few months hence will be really fulfilled or not. A man may lend a thousand francs or marks or pounds for a year, and then at the end of the year, when he is to be paid back, he may be paid in coin which has got so much worse that he is really receiving only half or a tenth or a thousandth of the real value he lent. A man in Germany sells a hundred sheep for so many marks, to be paid for in a month; and at the end of the month the marks will only buy ten sheep!

This piece of swindling, which has been the note of the last five years, is the first point we have touched on so far where a problem in Economics and the study of economic law brings one up against questions of right and wrong.

It is morally wrong for the Government to swindle people out of their property by making false money. What is the way out, allowing for Economic Law? It is morally wrong that some men should starve while other men have too much: allowing for Economic Law, what is the way out of such evils?

As you go on in the study of Economics you find quantities of questions where you have to decide whether economic laws render possible political actions which you would very much like to undertake, and which seem right and just. Many such actions, though one would like to undertake them, cannot be undertaken because our study of Economics has shown us that the consequences will be very different from what we hoped.

On the other hand, a great many people try to get out of what it is their duty to do politically by pleading that Economic Law prevents it.

Before ending these notes, then, we must go into the main questions of this kind, and see what there is to be said, in the light of economic knowledge, for our present system of society, which is called =Capitalism=; for other systems in the past such as =Slavery=; for =Private Property=; for the various theories of =Socialism=; for and against =Usury=, and so on.

It is necessary to go into these points even in the most elementary book on Economics, because the moment one begins the practical application of one’s economic science these questions at once arise; to answer them rightly is the most important use we can make of economic knowledge.