Why Can’t We Just Print The Money We Need?

Have you ever wondered why countries can’t simply print more money to pay off their national debts, feed every homeless citizen or to reduce unemployment? The short and accurate answer to this question is a very fancy term in the financial glossary - ‘inflation’. Modern economies have intensified monetary transactions such that sometimes we’ve forgotten what money really is and in order to understand inflation, we need to go back to understanding the reason for the invention of money.

Initially, commodity money was used in the form of salt, spices, horses, weaponry, gold or silver. This system was termed as the ‘barter system of trade’. It proved to be highly inefficient because besides you having to find someone who has a commodity that you’d want, the person should have a demand for the commodity that you were willing to give. According to the science of economics, the term for this problem is ‘double incidence of wants’.

In addition to that, it was difficult to save the commodity for a long time. Let us consider that we were using the barter system even today. As a 20-year-old man, I build a financial plan to be able to afford a house by the time I’m 30. I start a trading business and sell spices in return for chickens. I would be needing thousands of chicken to be able to buy a house. As the chicken hatch, I start putting them in my pen. However, as I add more and more chickens, the first chicken grows old and dies. This phenomenon is termed as ‘retention of value’. I would try using other commodities like salt which would also be perishable and practically impossible to store. There is no way gold could be used because there is no other commodity that can be exchanged with a lump of gold.

Then came the concept of representative money. You would give a certain commodity to the bank and in return, would receive a paper that specified the value of your commodity. You used the paper in exchange for things that you wanted to buy. The seller would again go to your bank and take any commodity that he wanted. This system proved to be flawed and inefficient too.

We finally moved to the system of Fiat money. This system is highly dependent on the government. The money that we get today has no intrinsic value, which means that it is considered valuable only because it is a medium that is used to buy things. This is called the ‘Tinkerbell effect’ where something exists only because we believe that it exists. If people started believing that money has no value, then it wouldn’t have any value.

Basic economics tells us that an increase in supply results in a fall in demand. Therefore, more money in the economy will result in less value for each penny. Let us imagine that natural resources have miraculously been found in Singapore in a very large quantity. This increases the quantity of that natural resource in the world. Thus, the world will experience a fall in the price of that resource, the intensity of which will depend on its rarity and exhaustibility. On the other hand, if there is a lot of demand and less supply, then the costs will increase. This will happen because the supply remains limited. For instance, if the government of the United States gives each citizen 1 million dollars to buy an apartment in Manhattan, New York, the prices of houses in Manhattan will increase exponentially because there are very limited apartments in Manhattan. This phenomenon is exactly what I have been trying to explain – inflation.

To support this theory, we have numerous historic situations where inflation was caused due to printing money. Zimbabwe experienced massive inflation in 2008 due to printing money. The optimum level for inflation is said to be 1-3%. With an annual inflation of 3%, prices double every 23.4 years. Zimbabwe’s inflation at its peak was 6.5 sextillion %. Prices doubled every 24 hours. Later, inflation was made illegal in Zimbabwe. Even today, Zimbabwe doesn’t have its own currency. However, this is said to be the world’s second-worst inflation. A hyperinflation of 4.9 quadrillion % took place in Hungary where prices doubled every 15 hours which is the worst case of inflation ever. Hungary also holds the record for the highest denomination note ever issued, which is of 100 quintillion pengo.

We also need to understand that the money in a modern economy is not printed. Notes and coins are a relatively small part of the total money supply. Most of the money supply comprises of the demand deposits that people or organisations hold in the banking system. This is because transactions usually take place by simply transferring non-physical money from one bank account to the other. So instead of money getting ‘printed’, it is ‘created’ today.

Central banks of nations are responsible for controlling the amount of money that can be created across the whole economy by rules and regulations that limit the ability of each and every individual bank to create deposits in that bank to some multiple of the reserves that the bank holds as deposits with the central bank itself. To understand this concept better, let us consider that a bank holds 100 dollars deposited by you. The bank is then allowed to create an incremental money supply of another 900 dollars. This means that the bank can give loans worth 1000 dollars. This is possible because the transactions taking place are mere numbers. No physical money is involved in these transactions. If ten people deposit 100 dollars in the bank, then the bank can give loans worth 10,000 dollars. The problem arises when all the ten Account holders would want to withdraw all their money from the bank. This was the cause of the Great Recession of 2008. The banks started giving loans incessantly, many turned out to be non-performing assets. In order to create more liquidity and bring back the purchasing power, the government started printing and pumping more and more cash in the economy. This led to excessive inflation.

Another factor that needs to be considered is that national debts are often taken from the citizens, federal reserves or the government itself. This means that printing more money and repaying foreign lenders using that money would not have a significant impact either.

In conclusion, I’d like to state that if money grew on trees, it would be as valuable as leaves.