I am a video game junkie. Going all the way back to my first console as a kid, an Atari 2600, I’ve played hundreds of video games and video game franchises over the years. One of my all time favorites is the Fallout series, particularly Fallout 4 (let’s be honest, Fallout 76 was a disappointment). If you’ve played the games than you know that money in the post-apocalyptic world of Fallout is in the form of bottle caps, specifically Nuka-Cola bottle caps, and when you do run across stashes of the dollar bills we currently use as cash (usually referred to as pre-war currency), they are nothing more than scrap paper or kindling for fire. The dollar bill is worthless in the video game. What’s interesting about it, is that at a very fundamental level, players understand and accept that the bottle caps of the Fallout world work perfectly well as a form of money. If you understand why bottle caps work in the game, you’ll understand the basics of what money is and how it works, so let’s begin by working out a definition of money.
At it it’s most basic level this is how I define money: money is a mutually agreed upon medium of exchange for goods and services that holds value over time and can be used to facilitate transactions between entities. It’s a bit of a long definition, but it comes from my many years of studying finance and economic theory and covers the raison d’etre of money. Before we begin though, I want to quickly mention a couple of caveats that I think are very important to the discussion. First, do not confuse money with currency. Currency is the form that money takes in your locale. For example, here in the United States, money is measured in dollars, that is, our currency is the dollar bill. In the UK, it the British Pound Sterling (usually just referred to as pounds or sterling). In Japan they use the Yen as their currency or in Iceland the króna. All of these are currencies used in their respective countries to represent the exact same thing: money. They are all measured differently, hence the differences in converting one form of currency to another, but the underlying concept of money is exactly the same.
My second caveat is that we should never confuse money with wealth, they are not the same thing. One can have money but not be wealthy. One can be very wealthy, but have limited amounts of money. This should make more sense a bit later, but for now it’s important to understand that wealth is a measure of the assets that you own whose value grows over time. Basically, you could own ten cars, but if they are all Honda Civics, they are not a measure of wealth because a Civic (while a great and reliable car) is not something that will accumulate value over time. But if those ten cars are all collectable (maybe 10 Aston Martin DBR1’s) , they would be counted toward your wealth as they become more valuable over time. Owning a business that is growing more valuable is wealth accumulation. Owning land is another example of wealth. However, in all of these examples, it is not necessary to have a lot of money in the bank to be wealthy if your assets are growing. On the flip side, if you have a million dollars in the bank, most people would think you are wealthy, but if you have debts that come close to, or exceed that bank amount (even if they are long-term debts), if you only have cash and no long-term assets, you are not wealthy, you’re cash-rich. Meaning you are rich in liquid assets at the moment, but lack long-term value. If you took that million dollars and paid off all your debt, you could be broke. This confusion over real wealth vs the appearance of wealth, of confusing money with equity, is a huge problem in our society today, something for a later article perhaps, but suffice it to say that money should never be confused with wealth.
So with that out of the way, let’s get back to my definition: money is a mutually agreed upon medium of exchange for goods and services that holds value over time and can be used to facilitate transactions between entities. My definition of money breaks down into four different parts and we will look at each in turn.
Mutual Agreement
To begin with, money must be if a form that is mutually agreed upon between the parties involved. If I take a trip to Italy with a pocket full of hundred dollar bills and decide to eat pizza at Gustarium in Florence, I’m going to have a problem. Dollar bills (even hundreds) are not a recognized form of currency in most places throughout Italy. When I pull out a hundred dollar bill to pay for the pizza and wine my wife and I just consumed, the waiter is going to look at me like I’m an idiot and won’t take the hundred. Why? Because it is not a form of money that works in Italy. What I have is simply a fancy piece of paper that is basically worthless. Because the restaurant and I do not agree upon a medium of exchange, I have no money to pay for my pizza.
Taking a step back to this side of the Atlantic, the dollar bill became the official currency of the United States in 1792 when Congress passed the Coinage Act. Because it is part of our legal system, everyone in the United States uses the dollar as our form of money. If that Italian waiter from above came to the United States and tried to buy a hot dog with a hand full of lira or euros at Yankee Stadium in New York, he’s going to go hungry, because he has no money The currency he is carrying has no value in the US until it is exchanged for dollars. Even if the waiter is quite wealthy, perhaps he owns the pizza restaurant in Florence, he lacks money here in the United States. So for money to have value, to be used, its form must be agreed upon by everyone who is party to that use.
Medium of Exchange
Money is a medium of exchange for goods and services. This part of my definition really brings us to why we need money. So let’s examine that for a moment. Imagine you woke up this morning and went out to your backyard and gathered up all the eggs from your chicken coop. Maybe you have a dozen eggs but you don’t want eggs for breakfast, you want strawberry french toast. Looking in the refrigerator and the panty, you realize you don’t have strawberries or bread. So you go to your neighbor who you know grows wonderful strawberries and to another neighbor who also bakes an amazing bread loaf. You offer to trade some eggs to each of them in exchange for some strawberries and bread. Unfortunately, neither of them wants eggs; perhaps they simply have to many and won’t be able to use all of theirs before they spoil. So you return home without strawberries or bread and have to eat scrambled eggs for breakfast since you can’t make the french toast. If you’re anything like me, the rest of the day is going to be just terrible since it started out with no french toast.
But, what if each of your neighbors knew of someone else who wanted eggs. Your neighbor who bakes bread needs some new yeast from someone across town, and that person with the yeast wants some eggs. Potentially, you could trade them the eggs in the hope that they could, in turn, trade the eggs for the yeast they wanted later that day or perhaps later in the week. Or you could walk across town and trade the eggs for the yeast and then the yeast for the bread. But by the time you get home, you no longer want french toast, you’re tired and just want to go to bed. Furthermore, what if there are three or four parties in the middle of you and person who has the bread. How far are you willing to go to get that loaf? This would have been a very common scenario in the distant and very foggy past. Until some brilliant individual in ancient Mesopotamia came up with the idea of creating a medium of exchange called the shekel and voila! we have money.
Now, with money I can go to the neighbor and buy bread and then to the other neighbor and buy strawberries, go home, have a nice breakfast and get my day off to a good start. I’m no longer miserable and taking out my lack of strawberry french toast on the world. Later on, that person across on the far side of the town can now come and purchase eggs from me at their convenience. And while they are in the neighborhood they can also sell their yeast to the bread maker, all with the use of money.
So money is a way of facilitating trade between multiple people or entities without having to go through the convoluted process of each person trading one item for something they don’t need in order to then exchange that item for something they do need. It’s a way to exchange goods and services without having to handle all the different goods and services that might be involved. At this point I’d like to point out, and it should be fairly obvious, that money in and of itself has no value. It is what the money represents that has value, which brings us to our next part of the definition.
Holds Value
In the third part of our definition we read that money holds value over time. Which means what? Especially after I just said that money has no value in and of itself. Well, this brings us back to understanding the difference between money and currency. If I have a stack of hundred dollar bills, but am stuck on a deserted island, how much are those hundred dollar bills worth? What if someone sailed by and offered to take you home for all of your hundred dollar bills? Or, what if those dollar bills were the only thing you had to burn at night to keep from freezing to death? Now, if you had that same stack of dollar bills but are sitting in the comfort of your home, where you pay a monthly gas bill to heat the house or can call an Uber to get somewhere, then the value of those exact same bills is quite different. The value of those pieces of paper are quite dependent on the idea that you assign to them. In other words, they only hold value if you give it to them.
A United States one dollar bill, by itself, is worth about 7-8 cents, that’s the cost of physically printing the bill. It’s basically worthless. It’s a fancy piece of paper. It has no value. It’s what that dollar bill represents that has value. We assign it a dollar value and becomes worth that because we agree on it. And because we agree on a mutual value we can then trade those dollar bills for the things that we want, like a new toolbox or laptop or car. So it isn’t the bill itself that is valuable, it’s what the bill represents, the potential good or service, that is of value to us. But what does it mean to hold value over time.
If that dollar bill was worth ten strawberries on Monday and the following week we changed to a different currency, that bill is no longer of value. If we know in advance that money will loose value we won’t want to use it. And if it looses value after we do acquire it, we loose faith in its future usefulness meaning we are less likely to rely on it and more likely to either find other forms of money or simply exchange goods directly. Money only has value when we can rely on it over a given length of time to return a certain amount of exchange, an amount approximately equal to when we first acquired the money. So we say that money holds value because it represents long-term purchasing power; not because having stacks of physical money gives us anything directly and in the moment, but because having money can allow us to get something of value when we choose.
Facilitates Transactions
The fourth and final portion of my definition is that money facilitates transactions between entities. I’ve spent a lot of time here writing about the value of money to allow us to purchase something. It’s fairly obvious that money is used to allow for the exchange of goods and services. So what do I mean when I say that money must facilitate transactions? A transaction is an exchange of one good or service for another good or service. It is a business event or a completed agreement that ends with each involved entity receiving something it did not have before in exchange for something that it did have. To facilitate such a transaction, money has to be usable. For a super exaggerated example let’s say an island of giants uses huge coins the size of cars as a medium of exchange. Then in moves a family of smaller proportions who are unable to lift, let alone move, the huge coins. For them, the coins cannot be money because they are unable to use it. In order to facilitate transactions between the giants and their smaller neighbors, money must be usable by both sides. It must be capable of facilitating an actual transaction or exchange of goods and services.
Another example might be made of bitcoin. If I own two bitcoin, which is about twenty-one thousand dollars at the market exchange rate the day I write this, but have lost the key to decrypt the wallet the bitcoin is in, I cannot use that bitcoin as money. In fact, I can’t use it at all. The bitcoin can only be used as money if I am capable of accessing the wallet it is in and then exchanging it with someone else for something of equal value, whether that be goods and services or a different form of currency. So money, to be of value, must be in a form that I can actually use and that works for everyone involved. Bitcoin won’t work as a form of exchange if I’m dealing with a primitive tribe in the Amazon without computers even if they recognize its value and so it is not money in that situation.
Pulling It All Together
So let’s put all of this into a nutshell. Money is a tool that allows for easier trading of goods and services. Simple right? That’s all it really is. Money lets us buy and sell at our own convenience. It lets us create businesses like grocery stores and hardware stores. Without money there would be no way to do the countless things we do every day. Money allows us to work today and wait to buy what we need at a future date. It allows us to sell something we don’t need and not have to work through a laborious process of trade and barter to get something we want. All of which brings us back around to Nuka-Cola bottle caps.
In the Fallout video games Nuka-Cola bottle caps work as money because: 1) they are agreed upon by the denizens of the apocalyptic world that the game takes place in, 2) they can be used to trade for goods and services (like new bullets or better guns to take on Super Mutants and Deathclaws), 3) Because they hold value over time, and 4) because you can carry them everywhere and use them anywhere to purchase what you want. Bottle caps in Fallout and dollars in the United States both represent money for the exact same reasons and both work for the same reasons.
Finally let me say that money is not evil. Money is not some capitalist tool to hold down the masses or otherwise repress the poor. Money is perhaps, the single greatest invention of all time. Money allows us to live better lives. Without money there can be no specialization in goods and services. There would be no printing presses, hospitals, or video game consoles. Without money our economy becomes vastly inefficient. Money is the tool that allows our societies to grow and flourish. Its misuse can lead to ruin of course, but that is a human choice and not a result of money simply being what it is. I love money, but I love what money can do for us even more.