Commentary: What is Money?

Updated: Oct 13

A major catalyst for difficulty in keeping our spirits elevated during periods of stock market calamity is a mistaken perception that stocks and bonds are money. Expecting securities representing claims on future income to act as stores of value in a system characterized by fluctuating interest rates is a recipe for disaster.

Fish in a bowl wondering what money is
“… There are these two young fish swimming along and they happen to meet an older fish swimming the other way, who nods at them and says ‘Morning, boys. How’s the water?’ And the two young fish swim on for a bit, and then eventually one of them looks over at the other and goes ‘What the hell is water’? …but if you’re worried that I plan to present myself here as the wise, older fish explaining what water is to you younger fish, please don’t be. I am not the wise old fish. The point of the fish story is merely that the most obvious, important realities are often the ones that are hardest to see and talk about.” - David Foster Wallace, Commencement Address, Kenyon College, May 21, 2005

Dear Family, Friends, and Clients,

What exactly is money? It seems obvious at first glance. Our intuition tells us that we clearly understand the concept; but when we sit down to formulate a proper response, the ability to grasp seems just out of reach.


noun, plural mon·eys, mon·ies.

  1. any circulating medium of exchange, including coins, paper money, and demand deposits.

  2. paper money.

  3. gold, silver, or other metal in pieces of convenient form stamped by public authority and issued as a medium of exchange and measure of value.

  4. any article or substance used as a medium of exchange, measure of wealth, or means of payment, as checks on demand deposit or cowrie.

SOURCE: Random House Webster’s Unabridged Dictionary

That definition does not seem to clear it up at all. It inspires more questions than answers; and if you are wondering what “cowrie” is, it is a type of shell. Money is ubiquitous. We use it almost every day. Whether we pull out our credit card to buy lunch or have folded dollar bills in our wallet to tip the waitress, every transaction that we complete involves money to some degree. With this in mind, it is very important that we have a firm grasp on what makes a given substance money, which characteristics are necessities, and what the implications are for converting money into goods and investments, and goods and investments into money.

We also need to understand what is not money. A major catalyst for difficulty in keeping our spirits elevated during periods of stock market calamity is a mistaken perception that stocks and bonds are money. Expecting securities representing claims on future income to act as stores of value in a system characterized by fluctuating interest rates is a recipe for disaster. Warren Buffet has said that interest rates act like gravity on the prices of assets, especially assets encompassing payments to be received years or decades in the future. Realizing that the future income is still due, but the lens through which we see it- interest rates- has changed, can allow us to focus more clearly on the big picture. It is scarcely sufficient to focus on the big picture when importantly, that picture is in motion. Hopefully, a careful and reasoned examination of the facts will help to add color to the portrait.

“The thing that differentiates man from animals is money” -Gertrude Stein

I like to imagine that ever since the first caveman realized that he hated touching live fish with his bare hands, he looked to outsource tasks he disliked or was not particularly good at to others who were better suited to accomplish certain goals. For many thousands of years populations of nomadic hominids would encounter each other and trade various items that were rare to their clan, but perhaps plentiful to others. Over time it became clear that trading was easier if some common factor could be used to better equalize value, or to facilitate trade in situations where both tribes did not necessarily have something the other wanted. In this environment, having money was a great advantage. You always had something that would be in demand in chance encounters with other people, and willingly trading was safer for both sides than using the club to get what you needed.

Countless objects have functioned as a crude form of money over the vast expanse of time. In recorded history dozens of various commodities have facilitated commerce by being readily exchangeable for goods, services, and time. The ancient Aztecs used cocoa beans to facilitate exchange, but as proof that value is in the eye of the beholder to a similar extent as beauty, European pirates dumped a shipload of valuable beans overboard, mistaking them for a cache of rabbit droppings; to what they may have ascribed the intended purpose of such a collection is lost to history.

Many cultures, including isolated island societies, have used various shells as currency. While they worked well to move goods on a local scale, visiting merchants found very little value in cowrie that may have been rare on a particular island, but extremely common on the scale of the ocean, and served no useful purpose. Imagine being the richest family on the island, with a storehouse full of valuable shells, only to be told to “go pound sand” by visiting merchants because your money holds no real value in international trade. Many times, even tribes in close proximity would find their neighbor’s shell currency devoid of value.

Societies have used livestock, grain, vegetables, tobacco, cotton, and salt as forms of money; unfortunately, these goods eventually are consumed, rot, or lose their freshness, so their ability to store value is lacking. In addition, livestock like cattle are not very effective for small transactions, because you cannot very well just use a hoof to pay for a hotel room and keep the integrity of the rest of the animal intact for future spending.

Eventually, many civilizations that develop the appropriate technological capabilities evolve to using various forms of metal as money. Metal is durable, interchangeable, and homogenous. It can be used to make useful tools and be readily converted back into a standardized form. Gold has historically been valued by most cultures because it is beautiful, it is easily divisible into smaller uniform quantities, it does not rust or corrode, it is rare, it holds value in inter-society transactions, and it is virtually indestructible. Using gold as currency allowed merchants to convert entire shiploads or warehouses of goods into a compact, easily transported commodity.

In order to be considered a reliable source of money, several characteristics need to be present:

  • Medium of Exchange: A medium of exchange is an object or substance that facilitates transactions between buyers and sellers. All the various commodities listed above could function as Mediums of Exchange. The most important consideration is that both buyer and seller can readily determine the value of the money in relation to the goods. This is much harder to do in a barter system. If you wanted to exchange shoes for chickens, it may be difficult to tell how many chickens are fair value for a pair of shoes. In addition, if you wanted to trade milk for apples, but the dairy farmer does not eat apples, you may need to go to the bakery and convert apples into bread first. Having a common medium of exchange simplifies the process of converting goods into comparable values.

  • Store of Value: A store of value is easily accumulated, set aside, retrieved and still useful as a Medium of Exchange in the future. Cattle are a poor store of value because they require constant food, water, and protection, and even with utmost care they still eventually die; tobacco loses its flavor over time; grain eventually spoils. Paper money is typically flouted as an effective store of value; however, if you look at a chart of inflation since 1913 (see below), you may take pause in considering this to be true. One of the greatest dangers of putting too much faith in paper currency, is the potential for inflation to eat away at purchasing power over time.

  • Unit of Account: To be an effective form of money, a currency must be easily divisible and countable. This is most easily illustrated in our current paper money. We have bills of various denominations printed and coins of smaller units minted so that any positive numerical figure is easily reached. This is much more difficult in cattle and shells. In salt and grain, a standard measure needs to be agreed upon, whether it be pounds, kilograms, bags, or some physical dimension. Imagine trying to negotiate the sale of a house for an indiscriminate amount of chocolate! We find in certain situations like prisons and post-communist societies in Eastern Europe that cigarettes form a reliable Unit of Account because cartons can be broken into 10 packs, which can be broken further into 20 cigarettes. While we do not recommend smoking, the currency itself is much more valuable in the hands of a non-smoker.

KINGS of LYDIA. temp. Sadyattes. Circa 630-620 BCE. EL Trite – Third Stater (13mm, 4.70 g). Sardes mint.
KINGS of LYDIA. temp. Sadyattes. Circa 630-620 BCE. EL Trite – Third Stater (13mm, 4.70 g). Sardes mint.

The first recorded society to stamp coins into a standard form with a recognizable picture (a lion) was the Lydians, a close neighbor to the Ionian Greeks, around 650 B.C. The coins were made from a naturally occurring alloy of gold and silver called electrum. It is said that the Lydian river Pactolus, near the capital city of Sardis, was rich with gold remaining from the baths of King Midas, who washed away the embarrassing gold dust that emanated from his famous touch. The history of the Lydians was cut short by an errantly optimistic interpretation of a fortune teller’s prognostication that “War with Persia will lead to the collapse of a great nation”, apparently confirmation was not sought in regards to which great nation would fall. The ruler who lead them to their demise was Croesus, of the saying “Rich as Croesus”, who upon capture became a wise and loyal counsel to Cyrus the Great.

The Ionian Greeks had learned of the value of commerce from their rich neighbors, which spread through the islands and to the Greek mainland. Having standardized money that was trusted by buyers and sellers facilitated transactions on a much greater scale than both barter and systems of weighing raw gold or silver, which was subject to fraudulent scales. The ability to convert labor into a standard unit of money also helped the common people enter the world of commerce and forced them to begin utilizing simple counting and arithmetic, which expanded the intellectual capacity of the nation. Having a reliable store of value allowed the wealthy to use their time to write, paint, sculpt and philosophize without need to tend to perishable commodities. Temples and priests found that this new form of tribute was much easier to convert into anything they wanted. Most importantly, the governments that minted the coins found this new form of money much easier to collect in taxes than grain and cattle.

There are three major classifications of Money:

  • Commodity Money: Commod