A commenter brought up this quote
, which I think illustrates the mechanics of how vertical money works rather nicely:
No, money is neither of neither of these.... In an economy without capital (a technology that transfers forgone consumption today into increased POTENTIAL output tomorrow) there simply is no saving.
Take... an economy that produces only back scratching services where nobody can scratch their own back. Suppose there are 100 people in the economy and suppose that everyone only has the strength to provide one back scratch per day. Thus, daily potential output is 100 backscratches, the money supply is $100 distributed uniformly in the population so each backscratch costs a dollar.
Now, suppose one person (only one) decides he'd like to save. He wants to forgoe todays scratch but get two tomorrow. Thus, he provides a backscratch and gets paid a dollar for it which is added to the dollar he already had. However, someone else was unable to sell a backscratch but still consumed his and now has no money. Today output fell to 99 backscratches.
Now, tomorrow the guy with the extra money gets 2 backscratches and still provides one, the guy with no money gets none but still provides a backscratch. Output is back to 100 and the money is back to its uniform distribution. Furthermore, because potential output is capped at 100 total backscratches printing an extra dollar and giving it to the guy who was unemployed on day 1 just causes inflation, no increase in aggregate output. (Although it does have a welfare effect by allowing the unlucky guy to get a fraction of a backscratch.)
So, no net savings, just forgone ouput. Without capital, a way that forgone consumption today is transformed into increased potential outupt tomorrow there will always be zero net savings and any attempt on the part of agents to save in real terms will only result in an output loss. Money in no sense represents past savings here, only productive capital can do that.
I think the comment was meant to refute MMT, but instead it just illustrates the critical role the Government uniquely plays, as currency issuer, to create net financial assets (equity) for the private sector to store.
In the toy economy setup in the quote, there is no source of net financial assets. The economy is endowed with $100 net financial assets at the start. Somewhere, therefore, there must be an entity that has -$100 net financial assets, but stands outside the economy. In our world, the currency issuer (ie. US Fed for the US $) carries a negative net equity balance, and currency users (ie. everyone else) carry, overall, a positive financial asset (equity) balance.
In the example, when one backscratcher wants to save, he just reduces the real output (backscratches) and deprives someone else of income. This is exactly what can happen in the real world in paradox of thrift conditions. There is no way for the economy to increase its net financial assets (equity), all it can do is shuffle around the allocation. This shuffling may or may not result in full output.
In the example, the next period, the backscratcher who had hoarded the extra dollar got an extra backscratch, and everyone was fully employed again. Great! But suppose that the other backscratchers saw that one of their own was idle, and decided they might need some extra money stashed away as well to carry them through lean periods. Well, some of them might try to hoard a dollar too, and now real output is depressed further.
The simple solution to this is for the endogenous currency issuer to simply issue more currency that the backscratchers can happily hoard. This way, you maintain full employment, everyone has their nest egg, and all is well. If the currency issuer over does it, then it can simply tax away some of that extra money so the price of back-scratches remains $1.