Summarise John Locke’s views on money and discuss them in relation to the context in which they arose - Assignment Example

John Locke is seen as a major figure in the history and development of political thought. He is also portrayed as one of the major economic thinkers of the so-called Mercantilist paradigm of thought, the prevailing economic ideology throughout the Fifteenth to Eighteenth Centuries.

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This has come primarily through two sources; initially, his Two Treatises on Government (1690) which later provided Adam Smith with the basic understanding of the Labour Theory of Value, and secondly, his pamphlets on Some Considerations of the Consequences of the Lowering of Interest (1691) and Further Considerations (1695) developed the quantity theory of money to an extent no economist had previously done before him. To establish Locke’s theory of money, we must first establish what had occurred beforehand, both economically and politically.

Scholasticism, the school of thought coming before Mercantilism, had very deep roots in religion, and sociology. Trade and most economic policies followed Biblical law in so far as the ‘Virtue of Trade’, the just price and usury. Usury was the forgoing of any interest available on money lent out, as instructed in the Sermon on the Mount. It was tantamount to robbery as any money lent out meant its ownership fell to the borrower, who could use it as they wished; in this context, it was seen the lender had no claim for any compensation for lending out this money.

Governments at this time often did not have the trust of the people. When short of money, they simply manipulated the currency through changing the face value of the coins or changing their gold content. The debasement of the currency in the fourteenth century led to a lack of faith- it was thought prices of gold and silver should reflect their relative scarcities; money originates in trade and as such, should be a stable commodity.

Price levels before 1500, while experiencing short-term variability, had in the long run been fairly stable. Over the next century, there was a fourfold increase in prices, and as this was unaccompanied by scarcity of raw materials, it was seen as an unexplained problem of the economy. One explanation of this sustained inflation was the increase in money supply coming from an influx of South American Silver into Spain, which fed into mainland Europe, coupled with discoveries of silver deposits in Eastern Europe.

Another was seen as the Great Debasement of 1554-51 which saw more coins being minted from the same given gold and silver quantities in the economy; Sir Thomas Smith argued it was this which created an outflow of silver from the English economy and created inflation. Each coin contained less silver and as such, foreigners required more of each coin to pay for their goods. He was proposing that while the government may place a certain face value on their currency, it did not hold with foreign traders, who were solely interested in the amount of silver.

Martin Navarro was one of first economists to establish a link between money supply and inflation, with both he and Smith basing their theories on scarcity controlling prices. The inflation was due to money quantities rising relative to quantities of goods in the economy; “All merchandise becomes dearer when in great demand and short supply. Money, in so far as it may be sold, bartered or exchanged, is merchandise which becomes dearer when in greater demand and shorter supply. ”

It was during the early seventeenth century that the English economy faced a difficult time; a vastly efficient Dutch economy, high domestic corn prices and a fall in the international competitiveness of the main English export industry of textiles created the Commercial Crisis of 1620-1, which brought recession and high unemployment, caused to some extent through shortage of money. This crisis led to the formation of the Balance of Trade doctrine. Gerald Malynes argued that the currency was undervalued giving scarcity as coins were being exported because their value as a commodity was more than their face value.

Malynes, like Locke later on, placed an intrinsic value on coins due to their gold and silver contents. Opposing arguments came from economists such as Thomas Mun, who rallied for a lower exchange rate to make English exports more competitive as he believed good flows governed exchange and coinage flows. Balance of Trade theorists argued money was working capital, not accumulated wealth, while opponents such as Mun argued money drove trade and as such, was a believer of the idea of ‘speculate to accumulate’- using treasure for trade at a favourable exchange rate would lead to its accumulation.

Increasing usage of military force internationally after the Civil War secured markets through colonialism. This boosted English trade but over time, the French and Dutch economies produced competitive markets against English traders, while the huge increase in imports of cheap Indian textiles increased calls for protectionist policies. One major worry for the English economy was how efficiently the Dutch economy was performing, and one explanation of their economy came from Josiah Child in 1668.

He believed that while there were other factors involved, the most important reason for Dutch wealth was their comparatively low interest rate. The question was whether their prosperity was caused through low interest rates, or if the rates were low due to this performance. He stated previous Dutch reductions had increased wealth, while showed that the low rates in Italy were giving a well performing economy, and the sluggish Spanish economy could be explained primarily due to their high interest rate of 12%.

At the time, the English economy was still in the throes in Scholastic thought, and had usury laws. Child believed that as the Dutch had no usury laws, it followed that the economy performed well, with a secure financial sector and low public spending. John Locke argued against Childs’ theory, believing a forced reduction in interest rates would indeed increase the demand for loans, but would also decrease the supply of lenders. A natural rate of interest was determined through quantity of money relative to trade, with scarcity of money also being a factor.

He published “Some Consequences that are likely to follow upon lessening of Interest to 4%”(1668), in light of arguments for the government to reduce interest rates to a level comparative to the Dutch economy, cutting from 6% to 4% through an Act of Parliament. He believes interest rates are high when money- both metallic coins and financial demand and supply for borrowing- is scarce, and a government act aimed at suddenly increasing its quantity will only be harmful to the economy.

As Locke purported the theory of coins having an intrinsic value, he recognised the need to have an adequate metal currency in trading countries proportional not only to trade quantities, but also to the ‘quickness of circulation’; “It can not be imagined that less than a hundredth part of a labourer’s yearly wages, one eighth of the landlord’s yearly revenues, and one fortieth of the brokers yearly returns in ready money, can be enough to move the several wheels of trade, and, so much must the trade be impaired and hindered for want of money. He states money will go further with many small payments made in a short space of time, rather than large ones spread over time. Trade will not be affected assuming price increases proportionately with money supplies. He agrees with Smith in so far as he proposes the value of money is determined much in the same way as normal consumer goods. “’tis fit the kingdom should make use of the treasure it has… gold should be coined to secure men that there is so much gold in each piece.

But it is not necessary that it should have a fixed value and price set on it by public authority. Let gold, as other commodities find its own rate. ” He argues money supply and demand issues determine interest rates, he believed a gain in money supply would reduce interest rates and stimulate the economy, and a rise relative to money supply of the value of transactions would raise interest rates, reducing economic activity. At his time of writing, paper money was a rarity, except for large transaction amounts, and the banking system was still in its early stages of development.

Stimulating economic activity needed the government to reduce interest rates through indirect measures, not direct forced movements- it required increasing the supply of precious metals used as money. This increase could occur in one of two ways; either this could happen through mining, or through foreign acquisition- seizing, borrowing or through payments for English exports. A balance of trade surplus was seen as necessary for mercantilists such as Locke. We now come onto the Recoinage crisis of the 1690’s.

The coins in circulation varied greatly as their shape had been lost through general usage and through clipping. The coins value was how mush silver was in each coin, but each was different; the need for recoinage in the economy, with a set amount of metal in each coin, was very real. The crisis bore great problems for the economy and the government. There were two options available; either they were to bring out coins with the same original silver content, or they simply reduced the size of the coins or added other metals to the coin, giving the reduced amount of silver in the same number of coins.

Each had varying effects on the money supply; if clipping had reduced the silver content of each coin in circulation by 20%, then if the former plan is implemented, there would be a fall in money supply of 20% as each coin would now have to have the correct original amount of silver inside. The latter would mean the quantity of money stays constant; however, each coin now holds only 80% of its supposed value. Locke promoted the idea of coins having an intrinsic value, and trade occurs with the amount of silver in each coin in mind. Opposing theorists, such as Nicolas Barbon, insisted the coin was just a token, accepted at face value.

Locke believed if coins were minted with a lower silver content, it would be equal to fraud, forcing consumers to accept coins less than the value entitled to them. Locke had close proximity to politicians in London, and on his return from exile to Holland, he was already seen as a major political thinker, although his expertise was called upon for economic issues, especially his theories on interest, and his input as to how to solve the recoinage crisis which resulted in the government minting new coins with the original silver value in them.

Due to this, there was large-scale deflation, recession and unemployment for the following years, as bad clipped coins were still used and good full value coins were either hoarded or sold abroad as they held a full silver content. As he was not first and foremost an economist, his ideas inevitably fell foul of future economists, such as Adam Smith, who criticised his theories on money and its effects in the economy.

Money is certainly not now as important as real factors in wealth creation, but changes in money supply can have a beneficial effect on economic activity levels, as money now is no longer confined to definitions of gold and silver deposits. John Locke had major political connections, and it was through these that his economic theories were implemented into the system. His ideas on interest rates gave rise to his theories on money, which even today echo in present day monetary policy determination for trade and currency manipulations.