ABSTRACT
The chapter begins by setting out a framework of production and distribution enabling the economy to be maintained and supported; then goes on to show how that framework can be “monetized”, i.e. showing that a unique definite sum of money can “circulate”, so that all transactions are carried out by means of money, ending up ready to circulate again in the next round. Two different kinds of money can be identified, “real” money and “credit” money, issued by banks and government, but ultimately resting on government fiat. Bank money circulates along the same path as real money. But government money has a separate circuit, which normally will not cover the whole economy; so government money must be supplemented or extended. Money enters circulation through spending or lending. Two different patterns of demand and response to demand can be identified: demand can primarily affect prices, or it can primarily impact quantities. In the first case we have flexible-price adjustments, in the second fix-price multiplier adjustments; the different responses are based on different production technologies and cost structures. Government and real money will function differently in relation to these two patterns of adjustment. It will be shown that real money supports the flex-price system, whereas fiat money would destabilize it, tending to inflation, while real money would lead to recession in fix-price systems, where fiat money is more appropriate.
