Chapter Five.qxp
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The Mystery of Banking
so that a total cash balance of $300 will be demanded by the class in order to pay their various debts. But now, my teacher pointed out, suppose that each of you still owes $10 due on the first day of next month. But each of you owes $10 to the boy or girl on your left. More precisely: The teacher owes $10 to the first kid in the front of the class, then each kid in turn owes $10 to the kid on his left, until finally the last person at the end of the line, in turn, owes $10 to the teacher. Each of these debts is due on the first of the month. But in that case, each of us can wipe out his or her debt all at once, at a single blow, without using any cash balance at all. Presto chango! The class’s demand for cash balance for repaying debt has been reduced as if by magic, from $300 to zero. If there were an institutional mechanism for finding and clearing these debts, we could dramatically and drastically reduce our need for accumulating and keeping cash balances, at least for the payment of debt. Any devices for economizing cash balances will do as well as clearing systems in reducing the public’s demand for money. Credit cards are an excellent current example. Contrary to some views, credit cards are not in themselves money and therefore do not add to the money supply. Suppose, for example, that I eat dinner in a restaurant, run up a $20 bill, and pay by American Express card rather than by cash. The American Express card is not money. One way to see that is to note whether using the card constitutes final payment for the dinner. One crucial feature of money is that using it constitutes final payment; there is no need for any more. If I pay for the dinner with a $20 bill, for example, that’s it; my debt has been canceled finally and completely. Hence the $20 was truly money. But handing the restaurant my American Express card hardly completes the matter; on the contrary, I then have to pay American Express $20, plus interest at some later date. In fact, when a credit card is used, two credit transactions are taking place at once. In the above example, American Express lends me the money by paying the restaurant on my behalf; at the same time, I pledge to pay American Express $20 plus interest. In other words, American Express picks up my tab and then I owe it money.