There was a brief but interesting conversation on my post on the neutrality of money, between me and commenters Blue Aurora and Dinero, centering around the Real Bills Doctrine (RBD). I had not really looked into the RBD in too much depth before, but it seems like a natural ally of endogenous money (and MMT) theory, and it adds a lot of insights that, in my opinion, the Quantity Theory of Money (QToM) lacks.
The RBD comes in different flavours, but my reading of the modern version, popularised by Mike Sproul, is that RBD states the value of money is determined not by the amount of it in circulation (as in the QToM), but by the value of the asset the money is backed by. If a currency is tied to a gold standard, its value is determined by the convertibility rate of said currency to gold. If a currency is fiat, its value is determined by the assets of the bank that issued it. The value of a newly created loan is determined by the future goods and services generated by the borrower using said loan. Furthermore, RBD implies there is no real distinction to be made between various financial assets and money, as they are all claims on some real asset: the value of stocks, for example, changes with the value of a company, not when new stock is issued (though speculation obviously plays a role here).
Discerning which theory is ‘true’ can be difficult, as there is in some senses a large overlap between the RBD and QToM: in both cases, if the money supply expands without a corresponding increase in value/ wealth, money loses its value through inflation. Despite this “observation equivalence” between the two theories, Thomas Cullingham has tried to test which one is true by seeing whether it is the ‘backing’ of money or its quantity that have the biggest impact on the price level, and he found that it was the former. Furthermore, the RBD implies central banks should passively provide money based on the economy’s needs, which is consistent with endogenous money theory and the failure of monetarism. Finally, the RBD is consistent with the idea that hyperinflation is not a monetary phenomenon, but is instead determined by loss of confidence in a nation’s assets and economy due to political instability.
Oddly, the RBD is consistent with a fairly mainstream economist’s story of monetary policy: Paul Krugman’s babysitting coop. The members of the coop exchanged vouchers worth one night’s babysitting, but found themselves in a quasi-recession as nobody was willing to part with their vouchers. The solution was to increase the money supply, but this didn’t result in any change in the ‘worth’ of the vouchers. Those who object that this story is an exception because the value of a voucher was ‘fixed’ should answer the question: by what, exactly? Social conventions, confidence? Because these things are true of large amount of wealth in the real economy, too.
The RBD implies that many financial assets are speculative in nature, as their value depends on future flows of goods and services. Hence, if loans are issued for ‘speculation’, but with no expansion of goods or services, it will cause asset inflation. This wouldn’t have the ‘even’ impact of Friedman’s helicopter analogy, but would primarily take place through inflation of whatever was speculated on, such as houses. Hence, the RBD implies that the primary way of regulating inflation is not through monetary policy but through regulation and management of credit and the financial sector.