MyCHIPs Digital Money
Understanding Value
Before we can hope to design a better kind of money, it is first important to more fully understand the money we already have. For example, why are some kinds of money so much more stable and reliable than others? Is it only a matter of acceptance and confidence? Or is there something more, at the heart of how the money is implemented, that makes all the difference?
Money works well only when it has actual value for the people who use it. And ideally, that value will remain constant over time. This will encourage people to accept it with confidence, knowing it will still hold a predictable value later on when it is needed.
This leads to the question: what do we really mean by the word: value?
Sometimes, even on this site, we may use such terms as “cost” “value,” and “price” casually, or possibly even interchangeably. But in reality, they can represent very distinct concepts.
For example, we have referenced the labor theory of value. This posits that things of value typically derive their worth according to the amount of human work put into making them usable for our needs.
Some critics of the theory note that there are many more factors in play besides just human labor. Chief among them are the forces of supply and demand, which we know can cause the prices of various items to fluctuate dramatically, and without regard to any human labor that may or may not have been expended in the production of the commodity.
As with many disagreements, this one can be minimized by using more precise terminology. So we will attempt to provide some of that precision here:
The term “value,” can be used in several different ways. Of course, in the most generic sense, it may just imply the quantification of a particular number, such as a price, a cost, or even something else. For example, we might say: “What value is obtained by adding the first three prime numbers?”
But the word is often used more formally to indicate how important or desirable a certain thing is to potential consumers of that item. Specifically, an item‘s value is defined by the highest price that can be commanded of that particular consumer who wants or needs the thing more than any other potential consumer.
This leads to the next obvious question: what is price? By “price” we mean the amount of money a willing buyer pays to a willing seller in exchange for the subject goods or services. For our purposes, we will quantify such trades using CHIPs which represent a hypothetical, standardized unit of human labor applied for a period of one hour.
We use the CHIP for several reasons. First, this is a site about CHIPs, so what else would we use? More importantly, CHIPs are different from the usual kinds of money we are all accustomed to, so it will help us think about value from a fresh perspective. Specifically, using a time-based measurement for value helps us better understand what money really is, where it comes from, and how we should treat it.
The next important term to define is “cost.” The cost of a thing is certainly related to its value, but the two are not often the same. In fact, if they were, commerce and trade would be practially impossible.
By “cost,” we usually mean the amount of money expended to obtain a thing. Measured in CHIPs, this means the number of hours of standardized human labor, or its equivalent, that has been expended in the collection, preparation and delivery of a given commodity.
For example, a cob of corn will require a certain amount of work to produce. This would typically include the collection and preparation of seeds, planting and watering, and then the eventual work of harvesting. In most cases, the corn will also have to be transported to a place where the consumer can effectively buy and take possession of it for his own use.
All these activities are included in the cost. And when using time-based money, the cost is pretty straightforward to compute. Just add up the number of CHIPs expended at each stage of the production process and you have the total cost, quantified in standardized hours, or CHIPs.
The cost of a thing is the amount of what I call life which is required to be exchanged for it, immediately or in the long run. Henry David Thoreau (1817-1862)
Those who are paying close attention will notice we have just proven the labor theory of value by fiat—at least as long as we are willing to rename it to the more precise: “labor theory of cost.” We accomplished this by defining cost in just the way we need to make it true.
That may be seem like a bit of cheating, so let’s now dive into a few examples to show why the labor theory of cost really is true:
Imagine a few castaways living together on an island. Their primary source of food is coconuts, so there is a fair amount of concern about where their next coconut might be coming from.
First, let’s assume there are plenty of coconut trees along the beach where most of the people like to spend the bulk of their time. In fact, as the coconuts ripen and the wind blows, just the right amount of food tends to fall from the trees at about the same rate it is needed to keep everyone fed and happy.
In this scenario, both the cost and the value of coconuts are quite low. In one sense, they are valuable, because they are a necessity to preserve life. But under our more formal definition, their value, or potential “price”, is probably close to zero.
Imagine one castaway proposing to his friend: “I will give you a coconut if you will massage my feet for an hour.” Why would the friend want to do this? After all, he can just reach out and pick up his own coconut any time he needs one. There would be no need to expend more energy than is normally required.
But now let us modify our scenario to make it more interesting: Imagine the coconuts only grow on the beach, but everyone prefers to spend their time several miles away where there is better access to other critical resources like clean water, shelter, and firewood. Furthermore, let’s assume any coconuts that fall to the ground are quickly collected by animals before any people can get them.
Now it is going to take a lot more work to collect the food our castaways will need to survive. Specifically, people will have to walk all the way to the beach. And they will have to climb enough trees to get the coconuts they need. Then they will have to haul everything back to the camp where the people are.
Since we are measuring everything in CHIPs, it should be pretty easy to figure out the total cost of a coconut. First, we will count the time it takes to travel to and from the beach. Let’s say: 2 hours.
It doesn’t require any special skills for this part, so that is 2 CHIPs so far per trip. But one person can reasonably carry only about 4 coconuts at a time on the return trip. So we will add a half CHIP per coconut due to travel and transportation.
Harvesting is a little more tricky. Climbing the coconut trees is pretty difficult—not something everyone can do, or may want to do. It turns out a few people can do it pretty well, but it is such hard work, they charge a premium for their work: 5 CHIPs per hour.
Let‘s assume it takes about an hour of climbing to collect 20 coconuts. This boils down to about 1/4 of a CHIP, or 250 milliCHIPs per coconut. So in terms of cost, each coconut returned to the camp adds up to about 750 milliCHIPs of effort or, in other words, about 45 minutes of standardized human labor.
The question is: if someone makes a few trips to the beach to collect coconuts, what will the others, who don’t go, be willing to trade for some of the harvested coconuts?
Logic would tell us, they should be willing to spend at least 45 minutes of their own time doing something else of value for the coconut gatherers. After all, they would otherwise have to spend a similar amount of time gathering their own coconuts. Why not instead do something else they are better at or might enjoy more?
For example, someone who is a lousy tree climber, but a great foot massager might well be willing to massage for a whole hour for just one coconut. It would take that long to get to the beach, and once there, how would he get his own coconuts anyway?
This increased amount constitutes the price, and hence the value of a coconut at the camp. And because it is higher than the cost, it enables the coconut gatherers to make a profit. In other words, it provides the incentive necessary for everyone to cooperate and engage in commerce with each other. Without this incentive, there would not be much reason to work together. People would just have to take care of all their individual needs, on their own and that would not be nearly as productive.
This simple example also provides the opportunity to better understand the principles of supply and demand.
For example, imagine a guy who has spent the last two weeks hauling four coconuts at a time back from the beach. Exhausted, he takes a day off and instead weaves a basket out of palm leaves. He then takes his new basket along the next day to carry his coconuts in.
To his delight, he finds he can haul 8 coconuts on each trip instead of the usual 4. This lowers his travel and transportation cost to one quarter CHIP, with the resulting total cost being only 500 milliCHIPs per coconut.
The question is: Does the value of coconuts in camp immediately change? And what about the price?
Right off the bat, nothing much changes, except our budding new entrepreneur’s profits. Suddenly he can make a half CHIP profit per coconut instead of the usual quarter CHIP. He can make half as many trips to the beach so he can spend more time at leisure. He will also have a little more time available for making new baskets as his old ones wear out.
Unfortunately, and fortunately, the invisible hand of the market will not allow this to go on for very long. Invariably, there are bound to be other people also involved in the work of coconut transportation. And once they see the improved productivity that comes from carrying coconuts in baskets, they are likely to follow suit.
As they do, several things will begin to happen: First, a lot more coconuts are going to start showing up in camp. Second, the price of coconuts will start coming down. Finally, any coconut gatherer who fails to adopt the new basket technology is likely to find himself at a competitive disadvantage.
Because there are now more coconuts in camp than are needed, those who supply them may have to make adjustments to be able to sell their swelling inventory. Since coconuts are a commodity, the sellers really only have one choice: lower the price to attract more buyers.
There are so many more coconuts available, buyers can now afford to be more choosey. They will sense their increased purchasing power and will provide the necessary pressure to bring down the prices and/or improve quality.
With the new, lower prices, something else has to change too. Gradually, fewer people will participate in the work of supplying coconuts. For example, maybe our original entrepreneur will quit the business altogether and just work full time making and repairing baskets!
The basket is an example of innovative capital that improves productivity. The short-term result is an adjustment in the market that may initially be painful for some. But in the end, everyone will spend less time and money on coconuts so they will have more time available for other things they may want to do. The quality of life will generally improve for everyone.
OK, so that’s a great story and it does tell us a few things about cost, value and prices. We can also see the forces of supply and demand at work. But what about this labor theory of cost? Don’t the coconuts have some inherent value? How can we say their only value is attributable to labor?
First, remember the theory is really not specifically about value, but rather cost. So yes, coconuts have some inherent value—at least in the common sense of the word. But in this case, we are talking about value and cost in the strict accounting sense. And under that interpretation, all coconuts are not created equal.
Imagine, for example, a coconut tree precariously perched on a cliff above shark infested waters. In order to even get to the tree, a harvester might have to spend hours scaling the rocks. Then, he would have to climb the tree which might topple down at any time. Finally, he would have to figure out how to get his harvest back to safety without losing it, or his life.
The coconuts on this tree are identical in every way to the ones growing on the beach, with one exception: their availability. So what we learn is: value and price are very relative notions. They only exist within the context of a potential consumer.
Coconuts on the beach have one value. Coconuts in the camp may have an entirely different value. In fact, the coconuts on the tree overhanging the cliff may be completely worthess—not of value at all. And this is simply because the cost to harvest them would exceed the price, or value they could be sold for in the camp.
If this example doesn’t seem realistic enough, think instead about the value of gold. How much is an ounce of gold really worth? How much is an ounce of gold worth if it is situated 3000 feet underground? How much is it worth if it is on another planet?
So if you owned a ton of gold, but it was situated completely out of reach of your consumers, and way too expensive to transport it back to them, how much could you sell it for in its present situation? Likely nothing. Who would want to own such gold?
So we see, the value of a thing is not an absolute notion. Rather, it has everything to do with the cost, ultimately measured in human labor, to prepare and deliver the thing where it can be used for the sustaining and enjoyment of human life.
Over time, the cost of a thing will usually evolve to be less than its value, or its price. Otherwise, why would someone go to the effort to produce it? So prices tend to float just above costs—at a comfortable level where efficient suppliers can make a profit, but not so high that too many people will be drawn into the business.
Prices can soar when demand spikes, or when supplies are interrupted. This is neither cruel nor immoral. It is simply a fact of market economics. It is the natural market’s way of assuring that scarce resources find their way to the places where they are valued the very most.
Where costs begin to outweigh value, production slows down or stops. Eventually, prices will rise enough to resume production. Or, more often than not, technology will be developed which brings the costs down to a level the market finds more acceptable.
Value and Money
With a stronger understanding of cost and value we can now get on with the original goal of understanding money better.
Specifically, the question is: how does money get its value? Why will we give up tangible items such as food and clothing in exchange for a token—a little slip of paper, or even bits and bytes in a computer, that would be largely worthless in any other context?
Some people adhere to the theory that money has value simply because of common agreement. We all just start trading these little slips of paper and suddenly they have value. In other words, we accept them merely because others accept them.
This theory describes what we might call “speculative value” or value, based on speculation. It is the idea that a thing is valuable simply because it is of value to others. And it is only of value to those others because of the value it has still to others.
And while it is true, some items can become extremely valuable simply on this mechanism alone, such values tend to be very volatile, rapidly rising and falling in relation to other, more stable methods of valuation. Ultimately speculative value is like perpetual motion. It isn’t perpetual after all. A free market will eventually bring the price of anything in line with its actual cost and its utility in sustaining and improving the lives of its consumers.
Some say that money can not have a stable value unless it is explicitly backed by gold, or some other precious and rare commodity. But many kinds of money, even some considered to be fiat currencies, have remained fairly stable.
It is true, centralized currencies gradually lose value over long periods of time. But most do not fluctuate dramatically up and down like we see in a speculative market atmosphere.
So what makes some money, even fiat money, hold a value if it is just a piece of paper or worse, a number in a computer?
The answer is pretty simple: Things are valuable when they actually contain or represent value. Value is contextual, and our ultimate context is the human need for comfort and survival.
So things that are useful in living have value. That means food, clothing, shelter, transportation and so forth. We need to eat, drink, sleep and reproduce. And we like to do these things in relative comfort and security with the people we know and love.
Most of the things we require in order to fulfill these needs are not like coconuts falling from the trees as we need them. Rather, they require work to obtain, prepare and transport. That work is provided by other people who also have a limited amount of time to spend on such things. We might say their work is composed of little bits of their lives—value one might justifiably measure in heartbeats.
So there is a human cost to everything.
And if we are not resigned to violence, theft or fraud to get what we want, we will have to cooperate with others to obtain the things we need.
This begins to answer our question about how sound money holds its value. It needs to be linked to, or backed by something of value—something derived from the ultimate commodity—human labor.
Paper currency in the United States used to be backed by gold until 1971. So why didn’t the money fall into hyperinflation when it went off that standard? Because the link to gold was not entirely true in the first place. That is not where the real value was coming from.
Theoretically, there was enough gold somewhere to back up the paper money in circulation. But there was much more money in the economy than just paper money. In fact most money exists as the result of borrowing—not the printing of paper bills.
In a phenomenon known as “fractional reserve banking,” banks can lend money they don’t actually have up until the moment a loan is executed. It’s really not as fraudulent as it sounds. Just try not to think of it as lending. Instead, think of it this way:
A borrower gives a private note, or promise to pay, to the bank. In return, the bank issues notes, as bills, or bits and bytes, which are also a promise to pay.
Just as any valid accounting transaction, the credits and debits are equal—a trade of equal value. It’s just that the official bank notes you get in return are much easier to spend in the market place than the private obligation you made to the bank.
So the answer is: even after going off the gold standard, our money was still backed. The paper money was no longer backed by gold, but the money supply, in whole, was still backed by debt. The money is as solid as the people and corporations working hard every day to produce the value necessary to pay their loans back to the bank, eventually redeeming the notes they issued in the first place.
So all sound money is backed by a commodity of some kind. Money backed by gold derives its value from human work expended in the past. Money backed by debt derives its value from human work pledged to occur in the future, and likely also secured by collateral, or some other asset produced by human labor in the past.
Conclusions
Sometimes we make the notion of money and value a lot more complicated than it really needs to be. Part of the problem is, we have all been raised thinking of money itself as a thing of value. It is not. It is merely an abstract representation of other things, which actually do have value.
In other words, money gets its value from the real services and commodities it represents. And ultimately those commodities boil down to human sweat and toil. The things we value are a result of our time, our hours of work—our living human heart beats. Each dollar, euro, or yen is quite literally a small piece of someone’s life, somewhere.
Perhaps when we come to more fully understand this important principle, we will begin to make better decisions about how we use, rather than mis-use, our own money, and the money of others!