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History of Money - Credit

Posted:August 29, 2024

Categories: Credit, Money

Historians widely believe that the earliest forms of money date back to 3000 BC. The medium of exchange was not in the form of metal coins or paper money, but rather loans that carried interest. The lands of Mesopotamia and Sumer were home to the world’s first great civilizations. We also know from Genesis 11 that Abraham hailed from “Ur of Chaldeans” which too was located in this same area.

“The location of the earliest civilizations was Mesopotamia (from the ancient Greek for “between the rivers”), which was located between the Tigris and Euphrates rivers. Because the rivers produced lush greenery and plentiful crops, the area is sometimes called the Fertile Crescent.” (Classical Conversations, 2012)

Figure 1: Map of the Fertile Crescent

Source: worldhistory.org

 

Money is a medium of exchange removing the need to barter; a unit of account, allowing for accurate pricing and calculations; and a store of value, facilitating the ability to transact across time and space.

While it’s probable that these early civilizations used barter as a medium of exchange, historical records indicate that credit was used extensively in their economy. Loans were recorded on clay tablets (see Figure 2). Presumably, people needed credit for reasons similar to what we do today. Loans were made for livestock, barley, real estate, tin, copper, silver, gold, and other commodities. 

“As with contemporary loan documents, these tablets record the names of creditor and debtor, the loan amount, the date of the loan and when repayment is due, and, in most cases, the amount of interest to be charged” (Chancellor, 2022)

Loans were also extended to merchants who needed natural resources unavailable in their lands. This required capital for travel, which was a risky business during this period. The rate of interest was high for these early loans. Records indicate rates of 33% for barley loans and 20% for silver loans. The clay tablets were known to be destroyed to represent a full repayment of the loan. The risk of default was also high as the clay tablets that remained represented defaulted loans. 

Interest, as Chancellor so eloquently put it, is “the price of time”. Without credit and interest, humans would be prone to hoard resources rather than to freely lend to others. 

Figure 2: Clay Tablet Barley/Flour Loan

Source: Bank of Italy

 

Debt Jubilees

The Mesopotamians also helped birth the idea of compound interest which due to their high rates, caused many debt crises. Edward Chancellor further notes in his book The Price of Time this caused “debt jubilees” as compound interest crushed those who fell behind. A common time frame for a debt jubilee was fifty years. We also see this in the book of Leviticus, 

“And you shall consecrate the fiftieth year, and proclaim liberty throughout all the land to all its inhabitants. It shall be a Jubilee for you; hand each of you shall return to his possession, and each of you shall return to his family.” (English Standard Version Bible, 2001, Lev. 25:8-10).

As time went on, interest rates fell arguably lowering the risk of default and the need for debt jubilees. Nevertheless, we continue to have increasing amounts of debt crises. I would argue this is the case precisely because interest rates are too low and liquidy so prevalent. Speculation runs rampant when interest rates are too low. Modern-day fiat currencies enable governments to control the level of interest rates as well as the supply of money. So while debt jubilees appear to be like a thing of the past, the modern “jubilee” comes in the form of inflation, price controls, and currency manipulation.

The level of interest rates and how they were calculated varied during this period. We know that when rules of law prevailed to govern commerce, peace, and property ensued. For example, Hammurabi’s Code was created around 1750 BC helped usher in a period of stability, and spoke to the level of interest rates.

At the basic level, debt can be seen as a promise or an obligation from one person to another. In a family, a brother can do his brother’s chores with the understanding to be repaid when he needs his chores accomplished. The old “you scratch my back, I’ll scratch yours.” This can work well in small groups of people such as a family or a tribe. However, once an economy evolves, transactions and commerce become much more complicated.

Credit Theory of Money

Born in Scotland in 1864, Alfred Mitchell Innes is famous for his work on the credit theory of money. He was a financial advisor to a King in Cairo and was appointed Under-Secretary for Finance in Egypt in 1899. He later worked as a Counselor at the British Embassy in Washington, D.C. from 1908 to 1913. 

In his paper The Credit Theory of Money, Innes argues that credit is money, not gold, silver, or any other commodity. He argues:

“a sale and purchase is the exchange of a commodity for credit. We are all debtors and creditors. Precious metals are not a standard of value. There is no such thing as a medium of exchange. Credit and credit alone is money” (Innes, 1914). 

It’s worthwhile to ponder the context of when this article was written. Right before Innes's work in Washington, the United States endured a large-scale banking crisis in 1907 which eventually led to the creation of the Federal Reserve System in December of 1913. There was a large push at this time in history to centralize money and move away from the gold standard which required discipline in the government’s ability to create credit. Innes argues:

“We imagine that, by maintaining gold at a fixed price, we are keeping up the value of our monetary unit, while, in fact, we are doing just the contrary. The longer we maintain gold at its present price, while the metal continues to be as plentiful as it now is, the more we depreciate our money” (Innes, 1914).

As Lyn Alden points out in her book Broken Money, quite the opposite occurred. As shown in figure 3 below, the British Pound Sterling and the US Dollar have lost 99% of their value vs gold since the early 1950s. During the 20th century, all major currencies slowly de-coupled from its anchor in gold. Instead, credit found its anchor in fiat currency. This golden de-coupling has been a boon for speculation, creating and destroying its share of wealth. Even still, the rise of credit and debt has been a remarkably important technological advancement in the history of civilization. Without credit and later without banks and fractional reserve banking, economic growth, without a doubt, would have been much lower. Innes is correct on this last point.

In the 21st century, credit abounds so much that many forget the role commodities played as a medium of exchange. It’s clear that through historical records, we find that credit precedes commodity money and paper money. In my next article, I will focus on how commodities rose to become a stable store of value and medium of exchange.

Figure 3: USD/XAU & GBP/XAU 1953 - 2024

Source: fxtop.com

 

References

  • Classical Conversations. (2012). Mesopotamia and Sumer C. 3500 BC, C. 2800 BC [Dataset].
  • English Standard Version Bible. (2001). ESV Online. https://esv.literalword.com/
  • Chancellor, E. (2022). The Price of Time: The Real Story of Interest. Atlantic Monthly Press.
  • Alden, L. (2023). Broken Money: Why Our Financial System Is Failing Us and How We Can Make It Better. Timestamp Press.
  • Alfred Mitchell-Innes. (n.d.). Wikipedia. https://en.wikipedia.org/wiki/Alfred_Mitchell-Innes
  • Innes, M. (1914). The Credit Theory of Money. The Banking Law Journal, 31.
  • Macleod, A. (2023). Why credit needs a golden anchor. Goldmoney. https://www.goldmoney.com/research/why-credit-needs-a-golden-anchor
  • NormanEinstein, & NormanEinstein. (2024, August 24). Map of the fertile crescent. World History Encyclopedia. https://www.worldhistory.org/image/169/map-of-the-fertile-crescent/https://www.worldhistory.org/image/169/map-of-the-fertile-crescent/
  • D’Italia, B. (n.d.). Bank of Italy - Mesopotamian clay tablets. (C) Banca D’Italia. https://www.bancaditalia.it/servizi-cittadino/musei-collezioni/museo-moneta/tavolette-mesopotamiche/index.html?com.dotmarketing.htmlpage.language=1&dotcache=refresh

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