‘Medium of Exchange’ Doesn’t Mean What You Think it Does.
A critique and revision of the traditional barter theorists’ definition of ‘medium of exchange.’
For those who are militant barter theorists, we need to have a talk. If you’ve been reading my series on money, you would have seen that my definition of ‘medium of exchange’ is different to yours, and I want to explain why.
In barter theories, ‘medium of exchange’ is used in reference to a specific scenario called indirect exchange. In indirect exchange, A wants something from B, but doesn’t have anything that B wants, so trades with C to get something that they can then use in exchange with B to get what they want. That’s how indirect exchange — or ‘roundabout exchange’ — is defined. It is contrasted with ‘direct exchange’, which is just the exchange of one good for another between two people “without a medium involved”.
Here’s the problem. The definition of direct exchange is ‘exchange without a medium’, and the definition of indirect exchange is ‘exchange with a medium’. But what is a ‘medium of exchange’ defined as? A medium of exchange is defined as “whatever the thing in indirect exchange is that A acquired from person C to trade with person B”. But there’s a problem with this imprecise definition.
Let’s say I want bread from the baker, and the baker is only accepting milk for bread. I don’t have milk, but I have eggs, so I go and trade some eggs with the farmer for milk. I then exchange the milk for the bread from the baker. You say: it’s simple, milk is the medium of exchange. Ok. Why was it the medium of exchange?
- Is it because I ACQUIRED it purely for the purpose of exchanging? (1)
- That I USED it purely for the purpose of exchanging? (2)
- Or that I ACQUIRED & USED it only for exchanging? (3)
Well, if what makes something a medium of exchange is that it is bought solely for the purpose of exchanging (1), then that means that if you acquire something for exchanging but never actually exchange it, it would still be a medium of exchange. This is not a viable definition. For something to be a medium of exchange, it must actually be exchanged. Otherwise we’ll run into all sorts of problems.
Ok, so what if milk was a medium of exchange not because I acquired it purely for the purpose of exchanging, but because I USED it purely for the purpose of exchanging (2). Well, this definition would make milk a medium of exchange in our example — but it would also make everything that is ever exchanged a medium of exchange, giving no special treatment to items used to complete roundabout exchange. If using something for exchanging makes it a medium of exchange, then the distinction between direct and indirect exchange disappears — because direct exchange would also make use of a medium of exchange.
Ok, so let’s try the third definition: what if something is a medium of exchange when it is ACQUIRED AND USED only for the purpose of exchanging (3). This would definitely make milk a medium of exchange in our example, but there’s one problem with this definition. If for something to be a medium of exchange it needs to be acquired with the intention of being used in exchange, and then actually USED for exchange, then that means the only relevant factor of something used in exchange being a medium of exchange is the intention of the person when they acquired it.
In our example — if I exchanged milk to the baker for bread, under this definition (3) milk would be a medium of exchange if I intended for it to be used in exchange when acquiring it — but would not be a medium of exchange if I didn’t have that intention when acquiring it, despite the fact that the exact same situation (me acquiring the milk and then trading it for bread) takes place. Under this definition, whether something is a medium of exchange is a purely mental phenomenon. There is nothing about the thing itself that makes it a medium of exchange or not a medium of exchange.
Now, you might be okay with this definition of a medium of exchange, but I’m not. For me, it leads to a whole breakdown of the concept of indirect exchange. What is indirect exchange? “Exchange with a medium.” Meaning, exchange when the thing being used in exchange was acquired with the intention of being exchanged. If someone acquired something and didn’t intend to exchange it, but then later decided to exchange it — it would not be a medium of exchange, because when it was acquired that wasn’t the intention. Despite the fact that the item is used in the exact same way and ultimately fulfils the exact same function as its ‘medium of exchange’ counterpart.
Using this definition of ‘medium of exchange’ (3) in tandem with the standard definition of money (‘the common medium of exchange in an economy’) means that if there were some hundred dollar bills blowing in the wind — we could not consider them money unless the intention of their previous owner upon acquiring them was verified! Or unless we ourselves grabbed them with the intention of later exchanging them. But if we grabbed them and didn’t intend to exchange them? Then they would not be money, under definition (3).
Under a definition of money requiring that intention determines whether something is money, the hundred dollar bills acquired without the intention of being exchanged would not be included in money supply metrics, and other people would be technically incorrect to call them money. Despite the fact that they would be a universally accepted means of payment in the economy. Obviously, from the baker’s perspective, whatever good I give her in exchange for the bread would never be viewed as a ‘medium of exchange’ because she doesn’t know what the prior ownership history of that object was — she just accepts the milk and gives the bread.
Because I see the definition which makes ‘medium of exchange’ and ‘indirect exchange’ a mental phenomenon as leading to absurdities, I decided to use the second definition of ‘medium of exchange’ in my money series: something that is used for exchanging, rather than consumed itself. This seems to me the most useful way to define medium of exchange.
Furthermore, instead of defining indirect exchange as ‘exchange without a medium’, we can revise the definition to be: “exchange which required prior intentional direct exchanges to occur” so that we still have a way of describing the phenomenon. This is consistent with the following definition:
“Interpersonal exchange is called indirect exchange if, between the commodities and services the reciprocal exchange of which is the ultimate end of exchanging, one or several media of exchange are interposed.”
Ludwig Von Mises (Human Action, XVII)
It’s worth noting that indirect exchange is simply just a series of consecutive direct exchanges chained together. The core concept of ‘indirect’ or ‘roundabout’ exchange is that it is the only means of resolving the lack of double coincidence of wants problem without money. It is a useful concept, and important in understanding the role money plays in co-ordinating exchange.
If you really want to protect the traditional definition of ‘medium of exchange’, then I’m happy to just say that what I have defined medium of exchange to mean is essentially the same as “means of payment” — and one can proceed reading articles in my money series with that in mind. It certainly shouldn’t get in the way of establishing economic facts. Hopefully this clears things up.
- The Definition of Money
- The Definition of Money — Advanced
- The Origin of Money — Part 1: Credit Money
- The Origin of Money — Part 2: Chartalism
- The Origin of Money — Part 3: Barter and the Evolution of Money
- The Origin of Money — Part 4: Framing the Debate
