Money as an Institution Sanctioned by Political Authority

Money as an Institution Sanctioned by Political Authority

by Georgios Papadopoulos, Erasmus Institute for Philosophy and Economics


The aim of this paper is to provide an alternative to the commodity theory of money, based on the state theory of money and original institutional economics. These theoretical traditions have a lot in common and this paper is a further attempt to clarify the connections and the benefits of their relations. Recent developments in social ontology and particularly on the ontology of institutions have provided new models and new of arguments in support of an institutionalist account of money. An institutionalist account of the state theory of money is consistent with the anthropological and historical findings about money and its emergence at the same time as it can provide a frmaework for the analysis of the evolution of money. At the same time the proposed institutionalist state theory of money is avoids the logical inconsistencies of the commodity theory of money, and enjoys sounder ontological foundations.

JEL classification codes: B25, B52, E40.
Keywords: Institutions, state theory of money, collective intentionality, definition of money.

1 In progress. This Version April 2011. For comments & suggestions welcome. Please contact me at



1. Introduction

In textbooks money is defined as a commodity which is selected for its higher sale-ability or marketability to function as a means of exchange. The other functions of money, e.g. store and standard of value are dependent on and derived from the function of money as a means of exchange and depend on its commodity nature. The underlying theory of money as a means of exchange was elaborated by Stanley Jevons and especially by Carl Menger (Menger 1892) during the marginalist revolution2. Menger essentially proposed an equilibrium explanation of money3, arguing that the emergence of money is the unintended consequence of the exchanges among maximizing individuals. This rational reconstruction of the emergence of money and its definition as means of exchange is referred to in the literature as the commodity theory of money, as metallism (indicating that the source of the value of coins is their intrinsic commodity nature), and as the realist school on money.

The commodity theory of money aims at providing the logical structure of the emergence of money and not necessarily a historically accurate account of its origin. Still, the focus of the analysis on commodity money and the reluctance to reflect on the consequences of passage from commodity to fiat money4 is not just a problem of empirical relevance5 but

2 “The commodity ‘realist’ theory, or metallist in its earlier formulations, asserts that money gets its value from its guarantee, which may be the intrinsic value of the metal or the value of saleable output as a whole. This current of thought cares nought for history, preferring to tell a tale in the form of a fable: in the beginning was barter; money came about on the initiative of the private sector in order to surmount the transaction costs of barter. Among economists, the commodity theory predominates. … From Locke to Jevons to Patinkin via the Austrians Menger and Von Mises, it continues into the more recent approaches to monetary theory taken by Ostroy and Starr, Kiyotaki and Wright.” (Aglietta 2002, 32)

3 Equilibrium is a combination in which each agent has fared best given the actions all other agents.
4 Fiat money is by defnition something without intrinsic value, “an object which taken in exchange not for its own account, i.e. not to be consumed by the receiver or to be employed in technical production, but to be exchanged for something else within a shorter or longer period of time” (Wicksell [1908] 2002, p. 15)

“Evidence for the historical origin of money of account in the scales of value used to assess social and political obligations (debts) in early preliterate society, as expressed in wertgeld, is sparse as [opponents of the state theory] point out. But, the grounds for this hypothesis are far stronger than those for the economic exchange conjecture favoured by orthodox economists. In fact, there is absolutely no evidence for the origins of money in exchange.” (Ingham 2006, 267) emphasis added.

also of analytic consistency. Fiat money is the most common type of money throughout history; it both preceded and outlived commodity money. More importantly there is a promissory element both to commodity and to fiat money6, since money is accepted in transactions as a medium of exchange and not for immediate consumption. The promissory element of money is matter of expectations of the individual users. Explaining that the expectations of the individual users of money can not be explained at the level of the individual agent and are not sufficiently supported by the commodity nature of money will be the focus of my criticism against the rational reconstructions offered by Carl Menger and his epigones. The most highly regarded and most commonly cited reconstruction of the Mengerian account of the spontaneous emergence of money in (Kiyotaki and Wright 1989, 1991 & 1993) recognize that their starting point of commodity money, yet they, and the commodity theory in general, fail to address the passage from commodity to fiat money. Commodity theorists tend to treat fiat money as if it were equivalent to a commodity (or a symbol thereof) in their analysis of the source of its utility and its value. As I will argue later in this chapter, the commodity theory fails to provide a satisfactory account of the value of fiat money, and consequently lacks an explanation regarding the motives of individuals exchanging valuable goods for ‘valueless’ money. The insufficient explanations about the source of the value of money and the reasons for its existence are due to the commitment to individualism, both ontological and methodological that can not capture the social and political aspects of money. Commodity theory also fails to provide a coherent theory of price and underplays the significance of money as a standard of value. These criticisms are well known, of course, and have already been rehearsed within the paradigm of neoclassicism (Hahn 1965), yet no alternative conception of money has been forthcoming in neoclassical economics.There is an important distinction that should be kept in mind between the ‘value’ of the commodity or the token that is being used as a medium of exchange, and the purchasing power of money initially introduced in Knapp (1924). It is only because of the later that money (both commodity and fat) is accepted in transactions. Since the two can diverge substantially, and because the value of the token is only a guarantee of the last resort, that all the value of money depends on the expectation that it will be accepted at par in the future. “In other words, all money is, in a very important sense, “fiat” money.” Aglietta (2002, 128), italics in the original.

The competing paradigm, which is often referred to as the state theory of money, as chartalism, as claim theory and as the nominalist school on money has been developed in the turn of the nineteenth century, especially by Knapp, and has been embraced by Keynes (Keynes 1930) as well as in the original institutional economics and in sociology (Ingham 1996, 2004, 2006; Wray 1998). In this research program, money is the creature of the state and the source of its value stems from taxation and trust inspired by political authority rather than from the intrinsic value of currency. My contribution in this chapter is to suggest the advantages of the state theory of money, and to point to the drawbacks of the commodity theory. I will also try to offer an alternative ontological framework based on economic institutions and collective intentionality to supports the state theory of money, if only because the debate between the two competing paradigms on money was argued and ultimately decided on ontological grounds during the Methodenstreit.

The development of various types of institutionalism in the recent years has enhanced the confidence in the importance of institutions in economic analysis, and has provided new and more consistent theoretical frameworks for institutional analysis. Original institutional economics especially can provide the ontological framework for the state theory of money resulting into an analysis that is more consistent with the nature of money and more productive in explaining its dynamics and its future. In addition, new developments in the ontological and methodological debates between individualism and institutionalism provided by collective intentionality offer firmer ontological foundations for the analysis of economic institutions (Searle 1995, 2005, 2010), foundations that were denied by the dominance of methodological individualism in economics.

In this paper I am constructing a framework for the study of money as an institution integrating original institutional economics and the state theory of money. I begin my study by detailing the forms of argumentation that underlie the competing definitions of money. These arguments are quasi-evolutionary: they provide rational reconstructions of

7 Methodenstreit is a German term (meaning ‘debate over methods’) referring to an intellectual controversy or debate over epistemology, research methodology, or the way in which academic inquiry is framed or pursued. More specifcally, it also refers to a particular controversy over the method and epistemological character of economics carried on in the late 1880s and early 1890s between the supporters of the Austrian School of Economics, led by Carl Menger, and the proponents of the (German) Historical School, led by Gustav von Schmoller.

the emergence of money, suggesting that money was selected for the fulfillment of a specific function; consequently, the definition denotes money in terms of the function that money is called to fulfill. Section three of this chapter analyzes money as a medium of exchange, and points to the shortcomings of commodity theory. Section four examines the relation between money and authority in the tradition of the state theory, and reflects on its definition as a abstract standard of value in the tradition of the state theory of money. Section five details the ontological framework for money, and analyzes money as an institution, and more specifically as a structure of rules that is supported by collective intentionality. It also provides an ontological account of the political authority that creates money. Section six concludes.

Defining Money

The ongoing debate on the definition of money customarily begins with its functions8, usually three (i.e. means of exchange, unit of account and store of value). This reigning definition has become a consistent platitude in textbook treatments of money, but it masks some important differences and debates organized around more sophisticated approaches on how money should be defined. These subtleties regarding the definition of money are developed in this paper in order to motivate the importance of an institutional definition of money.

A definition of money is founded on the assumption of an unchanging identity which supports the long history of money, its historical particularities, diverse rules of operation and multiple materializations. It presupposes an unchanging core of meaning and a common intension behind the diverse instantiations9 of money. A definition of money aims at capturing this core of meaning and expressing it in a formulation that is readily applicable in the analysis of concrete problems. Ideally this definition of money should

“The standard answer to the question “what is money?” derives from the late nineteenth- century functionalist account: money is what money does.” (Ingham 1996, 507 – 508).
The notion of instantiation (along with the equivalent term realization) originates in the philosophical debate around semantics and ontology. Simply put instantiation happens when a general kind, a universal or a concept assumes a concrete existence in a particular, a token and an object. In my account instantiation refers to the investment of an object or a practice with a specifc social meaning through social constitution.

also draw a demarcating line between money and other media that complement or substitute money, but are not money per se. The definition of money refers to a core set of properties that connect money to the social facts possessing the properties defined by the concept ‘money’. This common core of meaning is conveyed by a set of identity- constituting properties that define what money is (Mäki 2005). Indeed, every object that shares these identity-constituting properties, is legitimately described as money. Yet, I submit that the identity-constituting properties and the objects that bear them—the concept and the token that instantiates it (money and the money-stuff)—must be kept separate.

Looking at the various attempts to define money, we can deduce a general agreement in economics that these identity-constituting properties should be sought in the functions of money10. Still, the instantiations of the concept money are not exhaustively described by these identity-constituting functions of money. Monetary phenomena may be the manifestation of a common core of identity-constituting properties, but are also characterized by other properties that explain the variations in the instantiations of money; secondary properties that typically support the identity-constituting function of money. Yet, secondary properties are not connected with what money is in a definitive or necessary relation, and therefore are liable to change. In fact, the evolution of money is a process of transformation of these secondary properties of money while the core of identity-constituting properties remains unchanged. The standardization of the shape, the weight and the fineness of coins, for example, was selected in order to facilitate the function of money as a standard of value. The configuration of coinage was abandoned in favor of convertible paper money, which at a specific point in the evolution of money better served the same function. The passage from metallic to paper money can easily be read as a transformation of the secondary properties of money, while its primary function remains unchanged. This transformation is a further example of the relation between the secondary and the identity-constituting property as well an indication of why the identity- constituting properties and the objects that bear them are, and should be kept separate.

For example Hicks (1967), p. 8, claims that: “Money is defned by its functions . . . ‘money is what money does’”.

I already argued that the definition of money is contested and that two competing paradigms try to dominate the debate on the identity of money proposing different theories about its emergence and its definition. Behind the disagreement for the identity of money lies a methodological divide within economics that surfaces in the conversation around the definition of money; a divide between individualism and collectivism, as well as between an abstract and a priori reasoning and a historically specific analysis. As a result of this divide, the two aforementioned research traditions have emerged espousing different ontological and semantic analyses of money; the commodity theory that insists on a definition as means of exchange and the state theory that points to a conception of money as a abstract standard of value11.

The argumentation for the choice of functions employed to define money in these competing paradigms discloses an attempt to forge a link between identity and emergence as the primary rationale behind the various existing conceptualizations of money. Both the commodity and the claim theories strive to offer a rational reconstruction of the origin of money that is consistent with their definition of money. The definitions of money are supported by a natural selection argument in which money is selected to fulfill specific economic functions. These functions, in turn, define money and are considered to be the reason for its existence. If the function of money simultaneously provides the identity and the reason for its existence, this function defines money through a necessary relation that becomes integral for its identity and underlies its existence. Ultimately, meaning and emergence become intertwined in the debate on the definition of money. I will closely examine these arguments, and connect the different definitions of money offered by the commodity theory and by chartalism with the accounts of monetary origins that support them.

Money as a means of exchange; an efficiency explanation

“A general distinction can be drawn between the commodity and the state theory of money. This divide can be traced in the eschewing debates in monetary policy, between ‘metalists’ and ‘anti-metalists’ in the 16th and 17th centuries (Schumpeter 1994 [1954]); the ‘Currency’ and ‘Banking’ schools and more generally between ‘materialists’ and ‘nominalists’ in the frst half of the nineteenth century; and the seesaw battle between ‘monetarism’ and various forms of Keynesian economics in the middle of the twentieth.” (Ingham 1996, 509).

In 1892, Carl Menger suggested that money is constituted through exchange, and that it is primarily a means thereof. His analysis paved the way for what was later recognized as the commodity theory of money; an equilibrium explanation of the emergence of money in a context of market exchange. Menger argued that the absence of a double coincidence of wants, which intensifies as the division of labor expands, is the primary reason for the emergence of money. Individual producers specialize in order to increase productivity, but at the same time they need a series of other commodities and services other than what they produce, which they are trying to exchange with the surplus of their own production. Direct exchange of surplus production is not always possible, or at least not without high costs in searching for the appropriate exchange partner, who desires their surplus and is able to exchanged for the desired goods (double coincidence of wants). Indirect exchange emerges in order to minimize the transaction costs arising from the lack of the double coincidence of wants, and money emerges as the medium for this indirect exchange. Agents quickly realize that they can save on time and economize on other transaction costs by opting for commodities with higher saleableness (or marketability) that could in turn be exchanged for the desired goods. Such commodities tend to become increasingly popular media of exchange and to evolve into money. In this analysis, money is no different than other commodities and its value depends entirely on its commodity nature. Exchange is comprised of two parts; the exchange of commodities for money and the subsequent exchange of money for further commodities (Commodities exchanged for Money which is exchanged for Commodities or C–M–C for short). Goods are always exchanged for other goods, while money intervenes temporarily between sale and purchase as the medium of their indirect exchange12. Money is simply a ‘contrivance for sparing time and labor’, as well as an object that ‘temporarily intervenes between sale and purchase’ thereby becoming ‘a veil over the real exchange relations of commodities’.

In the Mengerian account, the use of money and the (indirect) exchanges of goods are strictly voluntary. Yet, there are two implicit rules in this analysis that constrain individual behavior: justice in the acquisition of goods, and justice in their transfer13. The Commoditity Money Commodity abbreviated in the literature as C-M-C in opposition with Money Commodity Money or M-C-M. The principles of justice in acquisition and justice in transfer create a system of minimal justice, which is deemed sufficient for the operating of the market and of society Nozick (1974).

constitution and the persistence of money within this economic order is the unintended outcome of the rational behavior of individuals in the market. The conception of money as a medium which increases the efficiency of the division of labor and market exchange in a context of minimal justice is the central contribution of Menger’s commodity theory. As I will argue, this contribution is extremely important, but is insufficient for understanding the meaning, the emergence, the operation and the persistence of money.

The rational reconstruction of the emergence of money offered by Menger, along with the expansion of his model in neoclassical economics, have provided a convincing account of a possible mechanism for the constitution of commodity money as the unintended outcome of maximizing individual behaviour. This equilibrium explanation of the emergence of commodity money has been developed further by (Kiyotaki and Wright 1989, 1991 & 1993). Alas, both in (Menger 1892) and in (Kiyotaki and Wright 1989, 1991 & 1993), there is no account of how a fiat standard can emerge through uncoordinated individual action, or why individuals will accept valueless script-money in exchange of valuable commodities.

The sole claim Kiyotaki and Wright make concerning fiat money is that in order for a fiat money equilibrium to persist it is sufficient that each agent believes that all other agents will continue to accept fiat money as a means of exchange for the commodities they want to exchange. The value, the purchasing power, and consequently the persistence of fiat money, depend upon the collective acceptance of fiat money as the dominant medium of exchange (since the commodity guarantee that supports the value and the . Kiyotaki and Wright take this postulate as an a priori assumption, and consequently assume the emergence and the value of fiat money14. I will try to argue that the fiat monetary standard can not emerge spontaneously nor persist as an outcome of uncoordinated individual (rational) action and that fiat money can not be reconciled with the commitment to methodological individualism.

“To this end, we now suppose that everyone believes that others will accept fat money and ask if this could be an equilibrium.” (Kiyotaki and Wright 1989, p. 493) emphasis in the original. This is not an unfamiliar strategy in overcoming the problem of explaining the value of fat money by assuming it. Sidrauski offers one of the frst attempts to incorporate money in general equilibrium modelling, assumed that real cash balances yield positive utility. (Sidrauski 1967, 535).

The assumption of a pre-existing collective acceptance of money (even if we forget its inconsistency with methodological individualism) does not actually solve all the problems that the commodity theory faces, since the persistence of money is challenged by a free-rider problem. In other words, since fiat money is intrinsically valueless, individuals will be better of if others exchange their goods for fiat money with them, while they barter their goods only with goods15. The possibility of free-riding in a system of fiat exchange is intrinsically destabilizing of the fiat money equilibrium (if one is ever reached)—in other words, money can not persist as a coordination game. This is not always the case with institutions; positive feedback can support the persistence of conventions and bolster the constitution of shared practices, even without external enforcement. Still, the fact that fiat money is inherently worthless creates free riding problems and suggests that a fiat standard can not arise spontaneously, and even if there were a case in which a fiat monetary standard did emerge (or is assumed as by Kiyotaki and Wright) the problem of its persistence remains unresolved.

The acceptability of fiat money can not be analysed and explained solely in terms of individual beliefs as in the case of commodity money, because of the above mentioned free-rider problem. Individual beliefs can not lead to a collective acceptance of money, exactly because fiat exchange in not the optimal individual strategy in that setting. Indeed, Kiyotaki and Wright, and commodity theorists in general, need to assume an already existing collective acceptance of fiat money, from which the individual acceptance of money derives. The individual belief about the collective belief is

There are two ways to facilitate fat exchange in such a setting. Either “(1) by imposing a boundary condition, or (2) avoiding the boundary condition by pushing it away to infnity. Both are devices to circumvent the unravelling of the monetary equilibrium through backward induction.” (Kovenock and De Vries 2002, 147). The boundary condition can be a policing authority or the assumption that individuals will continue to accept money, come what may.

16“Economic theory must be able to demonstrate the rationality of holding money. His failure is instructive as it serves to illustrate the theoretical impasse and slightly absurd circularities that neo-classical economic methodology inevitably produces. Apart from being unable to distinguish a money economy from barter exchange by this method, Hahn could also only conclude that it is ‘advantageous for any given agent to mediate his transactions by money provided that all other agents do likewise’ (Hahn 1987: 26). However, it is not so much a question of whether it is advantageous to use money if others do, but rather that agents cannot use money unless others do likewise. To state the sociologically obvious: the advantage of money presupposes monetary institutions. Modern neo-classical economics has been entirely unsuccessful in its attempt to explain these from their spare ‘micro’ assumptions.” Ingham (2001, 308). necessary predicated on and conditioned by the collective belief (“I believe that everybody believes that money is and will remain acceptable”). Hence, the problem of the emergence of fiat money is not merely unsolved; it reiterates the question of how such collective beliefs regarding the general acceptability of money can arise and persist. The solution of money cannot emerge on the individual level, since the individual belief of each and every user of money presupposes a collective belief about the acceptance of money by all other users17. To put it more clearly, the construction of the collective acceptance of money as the aggregation of individual beliefs of acceptance is not possible because these individual beliefs presuppose the collective acceptance they need to constitute (Schmid 2003, 202). This problem can only be circumvented with the postulation of a pre-existing collective acceptance of money by all individual agents—an acceptance that is not the aggregate of their beliefs, but instead constitutes them18.

Apart from the explanatory deficits of this account, there are also serious semantic problems in the definition of money as a medium of exchange. This conception of money portrays monetary exchange as divided into two interconnected parts, the exchange of goods for money, and the subsequent exchange of money for more goods. Money is never hoarded by the agents and their transactions are only completed, when they have acquired the commodity that they have desired; the circulation of money is considered only as an intermediate step. The further that the division of labor is developed, the more unrealistic this description of transactions becomes. Selling and buying, in reality, are not two interconnected acts. Agents customarily exchange their surplus for money, without anticipating the exact use of their receipts in money. Individuals are not as farsighted as the neoclassical economic models tend to describe them, and do not coordinate their sales

“There is a deep reason why collective intentionality cannot be reduced to individual intentionality. The problem with believing that you believe that I believe, etc., and you believing that I believe that you believe, etc., is that it does not add up to a sense of collectivity. No sense of “I Consciousness”, even supplemented with beliefs adds up to a “We Consciousness”. The crucial element in collective intentionality is a sense of doing (wanting, believing, etc.) something together, and the individual intentionality that each person has is derived from the collective intentionality they share”. (Searle 1995, 24-25), italics in the original.
18 The literature on this issue is extensive and there are different attempts to provide an explanation of the emergence of collective acceptance in individualist terms. I will expand on this issue as well as on the development of my collectivistic ontology in the next chapter. For a more comprehensive defence of my claim that the collective acceptance of money is irreducible I can refer you to Meijers (2003), Searle (1990) and Schmid (2003).

and purchases within the patterns typically assumed by the commodity theory of money. In reality agents do not (and can not) posses enough information (or the ability to analyze it) in order to match up all sales and purchases ex ante. A more realistic picture of collective decision setting is supported by the notion of budget constraints and the indifference curves that individuals face when they make purchases, but this idealization points to a description of money as a means of payment.

Before drawing any conclusions on the exposition of the commodity theory of money and the definition of money as a means of exchange, it may be illuminating to suggest a further contradiction regarding the adoption of the account of the spontaneous emergence of money and its definition as a means of exchange by the neoclassical mainstream. Although the great majority of economists in this research tradition will readily defend the commodity theory and the equilibrium explanation of the emergence of money, they will be unwilling to go all the way and support the denationalization of money and its subjection to the market as in (Hayek 1999) or (Selgin and White 1994), which seems consequent with the analysis of the spontaneous emergence of money a la Menger or Kiyotaki and Wright. Most of them will be quick to point out the externalities in terms of taxation, information and confidence that characterize money, and will be quite critical of the possibility of a market operated monetary system. Yet, all of these externalities are related to the value of fiat money and the problem of its collective acceptance.

The problems regarding the definition of money as a means of exchange—and more generally the limits of the analysis of money just in terms of efficiency—should be apparent by now. The understanding of money as a transaction-cost economizing device can be illuminating, but cannot address the questions about its emergence and its persistence. The definition of money as a means of exchange is a relic of the Mengerian analysis of money. The principal reason for its persistence in the economics literature, apart from habitual use, is its allegiance with the equilibrium explanation of money. The story of the spontaneous evolution of money through barter exchange, even though inapplicable when it comes to the eventuality of fiat money, is methodologically appealing to the neoclassical mainstream. As a consequence the Mengerian definition of money as a medium of exchange survives as an integral part of the neoclassical account of monetary economics.

Sovereign money; studying money in terms of a state authority

The state theory studies money in relation to authority, rather than explaining the advent of money as a market phenomenon. According to the state theory, money is defined as a abstract standard of value, suggesting that the source of monetary value lies in its support by a sovereign authority. Herein, we find the chief difference between the state theory and the commodity theory: in commodity theory money has a value due to its commodity or ‘hylic’ nature, while in state theory monetary value has a nominal or conventional nature. Max Weber defined fiat or sovereign money as that “which derives its character as means of payment from the marking of the pieces rather than from their substantive content” (Weber 1978, 79). The state support makes ‘chartal’ or ‘fiat’ money valuable and guarantees its acceptability based on the rule of law, on political sovereignty and on the ability to levy taxes19. In other words, money is a creature of the state and is constituted as legal tender by the law that legislates it. As a legal tender, money is the standard against which the obligations of the government and its citizens are enumerated (Knapp [1905] 1924; Wray 1990). Authority is necessary but not sufficient for constituting or empowering money—and the use of force is not the only guarantee of its value. The privilege of the state to impose taxes is a further condition for the acceptability of fiat money, which becomes valuable because it is necessary for the payment of taxes. Money is constituted on the basis of a credit relation between the issuing authorities and the users of money; its issue creates a liability to the state that will be neutralized through the payment of taxes.

In the framework of the state theory, the emergence of money is explained as an intervention of the state’s sovereign power (or that of the king or church, depending on the historical and cultural context) and not as an unintended outcome of the rational

Both chartal and fat are use in opposition to commodity or hylic money. But while chartal suggest a specifc relation to the law, the imposition of money by decree, fat money does not have necessary this connotation and for that reason it is preferred in neoclassical economics. In this paper the two term are used interchangeably.



behavior of maximizing individuals. Currency is issued by the political authority through the inscription of its insignia of sovereignty. Following its constitution, currency can be used for payment of taxes, and is introduced to unify different aspects of social life and redistribute commodities from their producers to the ruling but non-productive classes (Innes 1913 & 1914; Malinowski 1921; Mauss 1990). When taxation becomes organized and normalized money is constituted as the standardized means of paying taxes (e.g. the shekel, the pound, etc.). As a result, money materializes as the imposed standard of value, and only then becomes the dominant means of payment. In most instances, this authority is the state, but there are certain cases wherein non-state agents, such as guilds or confederacies of states, or even the church, have sponsored the issue of currencies. Each of these non-state actors maintained political leverage over their members, who were expected to use their currency—and were thereby able to levy some form of taxes on them. Yet, such examples of currency sponsored by authorities other than the state are few and short-lived20.

I return to this fact: in comparison to commodity theory, the state theory of money can better explain the emergence and the persistence of fiat money. Firstly, all money is considered as fiat money, since the source of the value of money is the authority of the issuer that inspires and at the same time enforces the collective acceptance of money. Secondly, the vulnerability of fiat money to free riding is reduced by coercion. Thirdly, sovereign money becomes more resilient, inasmuch as all the economic agents are justified in believing that all other agents will continue to use sovereign money as long as the authority is able to enforce the law and impose taxes. Hence, the expectations of the users of money are aligned behind the support of money by the state and the ‘receivability’ of money is supported by its use for taxation. Certainly, there are limits to what the government can do to enforce the sovereignty of money, but in this context fiat money appears more stable (and realistic) than it does within the framework suggested by the neoclassical analysis.

“Indeed, historical evidence demonstrates how networks of traders formed associations through which they constructed and imposed, by authority, their own money of account for transactions, often in opposition to a monarch’s claim to absolute sovereignty. But they were chronically unstable. Historically, states have been most successful authorities for establishing and maintaining a stable money of account, but they vary in their ability to enforce it, as they also do in their claims for legitimacy and monopolization of coercion.” (Ingham 2006, 271).


These descriptions of the emergence and the persistence of money seem to be consistent with the historical evidence and anthropological findings (Goodhart 1998, 408). To wit, taxation preceded market exchange, and thus it is reasonable to suggest that money was first introduced by a sovereign authority as a way to calculate and receive taxes. Pryor suggests a relatively strong consensus on the origin of money in non-commercial uses, in a comprehensive overview of anthropological studies on money, using data from a worldwide sample of sixty communities and more than 1,200 ethnographic sources (Pryor 1977, 391 & 408). Keynes,during the time of his ‘Babylonian madness’, which found its expression in his Treatise on Money, claimed that money was a creature of the sovereigns. A line of economists from (Knapp [1905] 1924), to (Innes 1913 & 1914), (Wray 1990), (Goodhart 1998) and (Ingham 2004 & 2006) provides strong historical and anthropological evidence for the primacy of money an abstract standard of value. Such evidence, although inconclusive, is more supportive of the explanation of the emergence of money in terms of taxation and authority, as opposed to an outcome of exchange and efficiency.

The definition of money as an abstract standard of value indicates the value of money is conventional and independent of the intrinsic properties of currency or the commodity nature of money. The adjective ‘abstract’ is what distances state theory from the commodity standard of value. In other words, the source of the value of money is, in fact, the insignia of the issuing authority—and in that sense, all money is fiat to a greater or lesser extent. The instantiation of money in terms of particular objects or commodities is just a secondary property that supports its identity constituting functions of the abstract standard of value and of means of payment. This picture departs from the conception of the market as the mechanism that sets the system of prices with money as the unit of account which neutrally expresses them. Prices primarily express relations between money and commodities as defined by money, rather than relations of exchange between commodities. The function of money as a standard of value is additionally connected with payment; both functions should be served by the same medium if transaction costs are to be minimized. Their relation entails the existence of a unique identity for money, an identity that is comprised by both of these functions.

For the state theory, money is a medium of payment and not a means of exchange. Consequently selling and purchasing commodities are separated into two distinct acts brought to their conclusion through the use of money. Money is exchanged for commodities, and commodities are then exchanged again for money (or M-C-M for short). Payment is to be understood as a discharge of an obligation and not as an intermediate step in the exchange of commodities. This notion of payment sits more comfortably than the notion of exchange within numerous economic transactions such as taxation, fees, royalties, penalties, dividends, premiums, and options. These transactions are not exchanges per se, there are unilateral transfers of money. Describing money as a means of payment rather than as a means of exchange, accounts also for these type of transactions. Moreover, there is an additional advantage in suggesting that money is the state sponsored means of payment has: as legal tender, money becomes the dominant means of payment in the market. This fact can indeed be used as a demarcating line between money and other assets, as has been suggested in (Goodhart 1989, 26-27). Such a demarcation might help us to position the ever increasing series of transaction media (near monies) vis-a-vis money.

The state theory is more relevant regarding the analysis of fiat money and the link between the state and the persistence of official currency is the rule in the contemporary monetary reality. In addition the state theory can better explain the emergence of fiat money and why individuals are predisposed to use fiat money in their transactions— questions that, as I have demonstrated, were not satisfactorily addressed by the commodity theory. For individuals need money to pay their taxes. Moreover, individuals are often required by law to accept and utilize the state sponsored currency in their transactions, and the collective belief regarding the persistence of money is created and sustained by all of these factors. Within this context, fiat money becomes resilient against free riding, and the introduction of an external constraint in the form of the state harmonizes expectations and aligns action around the acceptability of fiat money.

The consistency and the explanatory relevance of the stated theory, favored also by the historical evidence of the temporal priority of the non-commercial use of money, suggest that the definition of money primarily as a standard of value is more coherent than the one as a means of exchange. Still, if we define money primarily as a standard of value and include its function as a means of payment as one of its secondary properties we do justice to the intuitions behind both the state and the commodity theories of money. The authority explanation is incorporated in the definition of money as a standard of value while the efficiency dimension is incorporated in the function of money as a means of payment. Money is not merely relegated as the standard of value and the means of payment; it is also becomes the dominant medium in the support of these functions. The definition of money as a standard of value and a means of payment is a synthesis of the identity-constituting function that denotes the concept of money with an important derived property of money. The description of money can include both these functions, whose combination provides the unique identity of money.

Thus far, I defined money primarily as the sovereign and abstract standard of value and consequently as the generally accepted means of payment. This definition outlines the concept of money, but for money to be constituted this concept must be socially instantiated in terms of specific tokens or practices that actualize the identity constituting properties of currency. In the next section, I will analyze the study of money in ontological terms, so as to complete my institutionalist reconstruction of the state theory of money.

Ontological considerations on the instantiation of money

In this section, I discuss the conditions that allow for the existence of money and the way money is instantiated in specific tokens (e.g. currency) and practices. To my way of thinking, neoclassical economics does not investigate the ontological foundations of money; it merely describes money as a durable commodity, or as a symbol thereof. Still, the analysis of money as an institution can provide an account of how money comes to exist, and how it relates to the action and the attitudes of the individuals it regulates. My aim here is to outline a general ontological framework for the proposed definition of money. In the next chapters I will try to develop further on the social ontology of money and to address some of the main questions related to its institutional character separately, focusing on the identity of institutions, the role of intentionality, the shortcomings of individualism and the ontology of authority.

The ontology of money will be built upon the notion of collective intentionality, which in my account provides the foundation of social existence. Intentionality is a broad philosophical notion that refers to the relation of the mind to the external world, and denotes more than just intending21. Collective intentional states express a ‘we-mode’ rather than the ‘I-mode’ that characterizes individual intentionality and employ the first plural form (Searle 2010, 47), collective intentionality is shared intentionality (Schmid 2003).

Next to collective intentionality, institutions are a necessary element in the ontological analysis of money. Institutions are “systems of established and prevalent social rules that structure social interactions” (Hodgson 2006, 2). In my analysis, the rules that define institutions are of two different kinds, regulative and constitutive rules. Regulative (or normative) rules direct individual behavior and create stability and intelligibility in social interaction. They usually have the format of “do X in context C” and are regulating individual behavior. Constitutive rules, instead of regulating already existing types of behavior they create new possibilities for social action and for the fulfillment of social functions. The form is “X counts as Y in the context C”The combination between

“It is important to emphasize that intentionality does not imply any special connection with intending, in the ordinary sense in which I intend to go to the movies tonight. Rather, intentionality is a very general notion having to do with the directedness of the mind. Intending in the ordinary sense is simply a special case of intentionality in this technical sense, along with belief, desire, hope, fear, love, hate, pride, shame, perception, disgust, and many others.” (Searle 2005, 6).

“I want to clarify a distinction between two different sort of rules, which I call regulative and constitutive rules. I am fairly confident about the distinction, but do not find it easy to clarify. As a start, we might say that regulative rules regulate antecedently or independently existing forms of behavior; for example we might say that regulative rules regulate inter-personal relationships which exist independently of rules. But constitutive rules do not merely regulate, they create or define new forms of behavior.” Searle (1969, 33). regulative and constitutive rules provides the institutional structure for the fulfillment of social functions,

Searle uses money as the primary example in his elaboration of constitutive rules: X [a specific kind of object or practice] counts as Y [money] in the context C [a specific state/ market]. In the ‘invisible hand’ explanation of the emergence of money by (Menger 1892), certain commodities (tokens) assume the status of a money (instantiate the concept money) because they are we-accepted as media of exchange (bearers of the functions of money). A similar translation can be offered for the state theory, for example (Innes 1914); receipts of credit issued by the sovereign political authority are money because they are legislated and in consequence when they are we-accepted as instantiations of the general standard of value that can be used for payment. These monetary tokens (e.g. commodities, pre-weighted pieces of metal, bills of exchange, coins, bank notes) are we- accepted as media of payment and standards of value. It is through the collective intentionality of the users that they assume the identity-constituting functions of money when the individual users we-accept them as bearing these identity constituting functions of money. Only if the users of money share the same collective intention can money emerge. Individual users of money perceive themselves as part of a market and see their exchange as part of this common enterprise, which includes the rules of this exchange, the medium of this exchange and the division of labour that makes this exchange possible and necessary.

The social constitution of status imposed by constitutive rules also creates new regulative rules. The fact that money is socially recognized creates obligations as well as expectations for the people who we-accept the institutional status of money. When money is constituted, the individuals who acknowledge it accept it for payments and account their obligations in terms of this standard of value. Moreover, they are expected to follow a specific code of conduct concerning the use of currency. This code of conduct creates a sense of familiarity regarding what money is, as well as how and for what purposes money should be used. This combination of constitutive rules and regulative rules creates the institutional structure that socially constitutes money; it gives rise to specific patterns of behavior and habits of thought concerning money. Money is an institution because of its dependence to these constitutive and regulative rules; in virtue of this institutional structure of rules currency can be issued and the fulfillment of the functions of money can be achieved.

There is a relation between the functions of money, which constitute its identity, and the rules that instantiate it. These functions are only fulfilled because of the social status ascribed to money through a constitutive rule. Furthermore, this new social status gives rise to the regulative rules that regulate the use of money—in other words, to the rules that define how the functions of money can actually be fulfilled. The functions of money and the social meaning in the particular context are constituted socially in terms of these rules. Conversely, the rules that create the necessary institutional structure are selected mainly for their ability to facilitate the functions of money and in consequence to instantiate its status. What I am pursuing here is the interdependence between the functions of money and the rules that give rise to its status, its instantiation, and, in final analysis, the behavior that fulfills them. It may be that the identity-constituting functions of money remain unchanged and define money, but the meaning and the fulfillment of the function money of within the specific social context of its constitution depend upon the institutional structure of constitutive and regulative rules that instantiate money. Yet, the persistence of these rules also depends on their ability to support the fulfillment of the functions of money in the same context. As the social and technological environment evolves, the rules that constitute money change, and so is the institution of money, in response to the new challenges of the novel situation. Any set of rules can prove ultimately inefficient in a new social setting. When a new problem concerning the use of money emerges (e.g. e-commerce), a different set of rules for the solution of this problem may be organized (e.g. rules that constitute e-money and define its use) for regulating the more efficient fulfillment of the functions of money. The interplay between the constitutive and regulative rules that constitute money and the fulfillment of its identity- constituting functions that is the driving mechanism behind the evolution of money23. The mechanism that regulates the institutional adjustment of money will be the subject of a

This mechanism will be the subject of a separate chapter addressing the mechanism for the institutional adjustment of money.


further chapter of this book, where the relation between rules and functions will be developed extensively.

Money can be indeed analyzed as an institutional fact and be analyzed in terms of collective intentionality. By modeling a money economy as a strategic equilibrium, Hahn shows that it is “advantageous for any given agent to mediate his transactions by money provided that all other agents do likewise” (Hahn 1987, 26). Hahn’s conclusion is suggestive of the relational character of the expectations that underlie the existence of money. The relationality can be captured by collective intentionality, in a form which we can reformulate the conclusion suggested by Hahn, i.e. “ it is advantageous for any given agent to mediate his transactions by money, given that all agents we-accept money as the medium in their transactions”24. In the next chapter I will argue further why the acceptance of money is a species of collective intentionality, and why this collective intentionality that supports money can not be reduced to individual intentionality or individual intentionality in conjunction with other individual attitudes.

Conceptualizing money as an institution and analyzing its functions in terms of constitutive and regulative rules provides the appropriate framework for explaining the emergence, the persistence and the evolution of money as an abstract standard of value. The constitutive and the regulative rules giving rise to the institutional structure of money, ascribe the specific social meaning and status-function to money, and dictate the way that the functions of money are to be fulfilled. The notion of collective intentionality can provide a solid ontological foundation for this framework, while explaining the relation between authority, money and individual intentionality.


A similar conclusions follows from the analysis of money as medium of exchange by Kiyotaki and Wright (1989, 1991 & 1993). They claim that in order for an equilibrium of fat money to persist it is suffcient that each agent believes all other agents will continue to accept fat money for the commodities they want to exchange, or to share the belief ‘I believe that everybody believes that money is and will remain acceptable’.


In this paper I tried to describe the ontological structure that underlies the emergence and the existence of money based on collective intentionality. I hope that by now it is clear that the proposed ontological framework is different in many ways from the dominant reading of money in collective intentionality. First, the underlying theory of money that I use is at odds with the understanding of money as a means of exchange. In my analysis it is the visible iron hand of authority that constitutes money through legislation, an act that is inscribed in the money-tokens in the guise of the insignia of this authority. Consequently, I argued that individualism is incompatible with such an understanding of intentionality or with the explanation of the emergence and the persistence of fiat money. Finally I tried to bridge some of the distance between the ontological and the economic perception of institutions, focusing on the relations between social and institutional facts on the one side and institutions as rules that structure interaction on the other side. I think that the resulting ontology of money is quite fruitful. It supports the state theory of money, which is both more relevant and more empirically adequate, than the textbook definition of money as a means of exchange.

There are a few important verdicts that can be drawn from this chapter. A equilibrium analysis of fiat money as a medium of exchange, where money spontaneously arises through barter is difficult to defend, particularly if one subscribes in the narrow methodological individualism of the neoclassical research paradigm. The existence of an external authority that aligns expectations and makes fiat money valuable through taxation is necessary for the emergence and the persistence of fiat money. The postulation of a political authority and its contribution in the constitution of money can be defended ontologically against methodological individualists by using the notion of collective intentionality and the respective analysis of the ascription of social status through constitutive rules. The fulfillment of the function of money is founded on a structure of regulative and constitutive rules that support currency and regulate the behavior of its users. Political authority constitutes and enforces these rules, safeguarding at the same time the collective intentionality of its subjects. The identity of money should be understood in terms of these rules and consequently money should be defined as an institution. The interplay between the social context, shaped by the level of social and technological progress, and the institutional structure that underlies money is the engine behind its development. Only the understanding of money as an institution can enable us to capture these dynamics behind the historical development and the variability of monetary phenomena. In the next chapter I will try to elaborate further on the overall ontological framework that supports my analysis of money, developing upon the notion of collective intentionality, elaborating upon the ontological foundations of authority and the shortcomings of individualism. Later on, I will also investigate the dynamics of the development of money capitalizing on the institutional framework that I developed and applying it in the ongoing reconfiguration of money in the information and communication technologies revolution.


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