What money is: a ledger of promises
This blog is usually about taking binaries apart. This post takes apart something older and more widely used than any file format: money. The method is the same. Ignore the marketing, look at the structure, and ask who can write to it.
.--------------------------------------------------.
| $ | THE UNITED LEDGER OF EVERYTHING | $ |
|-----' '-----|
| .-------. PAY TO THE BEARER ON |
| / .-. \ DEMAND: ONE (1) UNIT OF |
| | ( o ) | "SOMEONE WILL ACCEPT THIS" |
| \ '-' / |
| '-----' signed: everybody else |
|-----. .-----|
| $ | 00000001 // backed by: belief | $ |
'--------------------------------------------------'Three jobs, one tool
Economics textbooks give money three jobs. They are worth memorising because almost every argument about money is really an argument about which job matters most.
- Medium of exchange: you can trade it for things without finding someone who wants exactly what you have.
- Unit of account: prices, debts and salaries are written in it. It is the "type" the whole economy is declared in.
- Store of value: you can keep it and spend it later.
Anything can try to do these jobs: shells, salt, cigarettes in a prison, gold, paper, numbers in a database. What makes one of them money is that people expect others to accept it tomorrow. That expectation is the real backing of every money that has ever existed. Gold only adds a second reason to expect it.
Barter, debt and the order of things
The classic story says people bartered, found it awkward, and invented coins. Many anthropologists disagree: they find few societies that ran on barter, and many that ran on credit: "you owe me a goat" written on a tally stick or remembered by the village. In that view coins came later, often to pay soldiers, and money was a record of debt long before it was a lump of metal.
You do not need to settle that argument to see the useful idea in it: money behaves like a ledger. Every unit is an entry that says "the holder is owed something by the rest of us".
barter credit / tally coins
------ -------------- -----
[goat] <---> [grain] |||| ||| <- notched stick (o) (o) (o)
needs a double "you owe me 7" a debt you can
coincidence of wants split in two, each side hand to a stranger
keeps halfCommodity money and fiat money
For most of recorded history money was tied to a commodity. A coin contained metal, or a paper note promised to exchange for metal on demand. This has one big strength: nobody can create more gold by decree. It also has a big weakness: the supply of money grows only as fast as mining does, not as fast as the economy. When trade grows faster than gold, prices must fall, and falling prices make debts heavier.
Today almost every currency is fiat money ("let it be done", from Latin). A euro or a dollar is not a claim on any metal. It is valuable because:
- The state accepts it, and only it, for taxes. Everyone with a tax bill needs some.
- Courts treat it as legal tender for settling debts.
- A central bank manages how much of it there is, aiming to keep its value fairly stable.
- Habit: everyone around you prices things in it.
+---------------------+
| COMMODITY MONEY | value = the metal (+ trust in the mint)
| [ Au ] [ Ag ] | supply = mines
+----------+----------+ risk = deflation
| 1971: the last official link to gold is cut
v
+---------------------+
| FIAT MONEY | value = taxes + law + trusted institutions
| [ 01011001 ... ] | supply = central bank + commercial banks
+---------------------+ risk = inflation, misuse of the printerMost money is not cash
If you think of money as banknotes, you are looking at the smallest part of it. Economists count money in layers, roughly:
+------------------------------------------------------------------+
| broad money (M2/M3): savings, deposits, money-market funds |
| +----------------------------------------------------------+ |
| | narrow money (M1): cash + current-account deposits | |
| | +--------------------------------------------------+ | |
| | | base money (M0): cash + bank reserves | | |
| | | +------------------------------------------+ | | |
| | | | physical notes and coins | | | |
| | | +------------------------------------------+ | | |
| | +--------------------------------------------------+ | |
| +----------------------------------------------------------+ |
+------------------------------------------------------------------+
the inner box is a small slice; most money is bank depositsThe exact definitions differ by country, but the shape is the same everywhere: most money is a number in a bank's database. Who gets to write those numbers is the subject of the next post, How banks create money.
Inflation: the ledger gets diluted
If the amount of money grows much faster than the goods and services it can buy, each unit buys less. That is inflation. A little of it (central banks often target about 2% a year) is seen as harmless or even useful: it nudges people to spend and invest instead of hoarding, and gives room to cut real wages without cutting nominal ones. A lot of it destroys savings and makes planning impossible. Germany in 1923 and Zimbabwe in 2008 are the textbook hyperinflations.
Inflation is not only about the money printer. Supply shocks matter too: an oil embargo, a war, a pandemic that closes factories. Arguments about any given inflation are usually arguments about how much each cause contributed.
Who wins, who loses
Every way of running money moves wealth between groups, and that is why the topic is political:
| If prices rise faster than expected | If prices fall |
|---|---|
| Borrowers win (debts shrink in real terms) | Lenders and savers win |
| Savers in cash lose | Borrowers lose, defaults rise |
| People with fixed incomes lose | Businesses delay investment |
Schools of thought weigh these trade-offs differently:
- Keynesians accept active money and fiscal policy to fight unemployment.
- Monetarists (Milton Friedman) want steady, predictable money growth.
- Austrian-school economists distrust central banks and prefer hard money such as gold.
- Modern Monetary Theory argues that a state borrowing in its own currency is limited by inflation, not by running out of money.
- Bitcoin advocates want a supply fixed by code instead of by people.
Each camp has real evidence on its side and real failures to explain.
The reverse engineer's summary
struct money {
u64 amount; // the entry in the ledger
char issuer[]; // central bank, commercial bank, or a protocol
u8 trust; // the only field that cannot be written directly
};Money is a shared ledger of promises. Its value rests on the expectation that others will honour it, backed by taxes, law and institutions. The interesting questions are always: who can add entries, who audits them, and what happens when people stop believing.
Next: How banks create money.