Why can’t the government/bank of a country just print more money?

Answer by Palkesh Asawa:

In India, shoes are not allowed inside a temple. Therefore, most people simply put them in a shoe stand and are given a token instead of it. They can show that token on their way back, and the shoe keeper will give them back their shoes.

Now, just imagine – suppose you met your friend inside the temple and you want to sell your shoes, you can simply give him that token; he can show that token to the shoe keeper and can take his shoes back! As simple as that.

But what if you don't really have shoes and simply produce a fake token, will you really be able to sell it? Merely creating a token does not magically create extra shoes! The token is of value only if there are actual shoes.

To understand this better, assume there were 100 shoes in the shoe stand, and 100 tokens. Now, the shoe-keeper simply generated 100 extra tokens (without shoes). So we have 200 tokens and 100 pairs of shoes. Earlier, one token was worth a pair of shoes. But now, one token can only give you a single shoe (no pair).

The point being: printing extra tokens will reduce the value of the token. It is not all that interesting to have a token any more, since it cannot give you what it used to give you earlier!

In the same manner, printing extra currency notes will only reduce the value of those currency notes. This is because of inflation. When you print extra money, there are more number of people wanting to buy food; but the quantity of food hasn't increased. Therefore, prices will rise.

As simple as that may sound, it is the truth. Governments should not resort to printing more money because it creates inflationary impact.

To understand this better, read on to get a grasp of the concepts –

What is a wealthy country?

When we say that a country is a "wealthy" country, what do we really mean? Do we mean that it has more number of currency notes? Surely not. If it were as simple as that, all countries would simply print more money. A country is wealthy if it has better resources.

Better resources will help a country provide for its citizens, by making more useful products. A country that has good water for its people and food to fill their bellies. Such a country is a wealthy country.

So what is real wealth?

In our example, we understood that generating fake tokens will not give you the shoes. The real wealth will be if you have shoes. What are those shoes, in the context of a nation? The real wealth comprises of four factors:

  1. Land – This includes all the natural resources that a country has; including water reservoirs, mines, mineral resources, oil etc. Without these resources, the economy cannot produce anything. 
  2. Labour – This includes the people of a country, who can create something useful out of those resources. If someone can drive a car, he is a resource for the country, because the car would be useless without him.
  3. Capital – Just like "land" represents natural resources, capital represents all the man made resources that can further create resources. A trolley is a 'capital', since it helps to transport goods to people. It adds value
  4. Enterprise – This consists of all entrepreneurs, people who take the risk to use all the above factors and create something meaningful for the people of the country. Businesses, governments et al.

We would say that a country has become wealthy if it creates any of these. For example, if it can create more defence equipment (capital), better roads (land), better education (labour), a country has really progressed and elevated it's people from poverty.

Can we exchange resources?

In the previous question, we concluded that real resources are of four types. In an economy there are many kinds of people who need different resources. Suppose there is a person who can offer "labour", but he wants "capital" in return. For instance,

  • I can drive a car for you, if you promise to pay me an electric press instead
  • Anyone who wants to sell coal; I have some food I can use to pay for it?
  • I need some food, and I can pay for it using this artistic paintings I made

You see, in an economy the real wealth is in these resources. And actually they can be exchanged with each other. However, that can happen only if you can sell something that another person wants to buy, and in return wants to sell exactly what you wanted to buy. This is called barter system.

Many economies actually started with a barter system. All was well, until some difficulties started to surface.

What are the difficulties in barter system?

Barter system sounds interesting really. But the real difficulty is in valuing the resources. Consider the following barter exchange –

One man wants to sell apples and buy a chicken. The other person feels that he should have more apples for the price of a chicken. But who can tell what is the right exchange ratio? How many apples should you sell to be able to buy a chicken? Suppose you don't have apples at all, but have oranges instead. How many oranges are worth the price of a chicken?

You get the idea now: in barter system, you had to value your resources against all the resources. Isn't that simply unrealistic. I would say its unimaginably painful. Hence, we created something interesting. We created "money"

What is money?

Money is simply a standard which helps us to measure the real wealth. Now, you do not have to have a price of everything against everything. You simply need to value everything against money. Therefore, you could say that ten apples buy 100 dollars; and 100 dollars buy one chicken!

Therefore, money was introduced to standardise the trade and commerce. In other words, money only represents the wealth; money is not wealth in itself. Just like how those temple stand tokens only represent shoes, they are not shoes in themselves.

Therefore, just like how printing more tokens will not give you more shoes; merely printing more money will not give you real wealth.

Who prints money?

In our temple example, who really created those tokens? It was the shoe keeper, who kept all the real wealth in reserve, and issued tokens in its stead. This is because it is easier to trade using tokens. In real world, that shoe keeper is the Central Bank of any country. In my country, India, for instance, the Central Bank is called "Reserve Bank of India"

You see, when we realise that money is a symbol of whatever wealth is there in the system, we should understand that the only way we could create more money is if we create more wealth. The only way we can introduce more tokens in the temple is if the number of shoes rises! But then, how can we create more wealth? That's a million dollar question now, isn't it?

How is wealth created and destroyed?

Now we're talking. More wealth can be created by production. This could be something very simple – a hen lays eggs inside a poultry farm, and once they hatch, there is more wealth for the farm owner! Let's take another example. Assume ten workers (labour) come together and build a ship (capital). This ship would then help transfer more goods to port, which in turn would create more wealth. We'are all set!

Wealth can be destroyed or eroded. A machine will wear out with time; food will rot when not stored properly. Wealth may also, simply, be consumed. I mean, food may not rot; but it will be eaten by someone, therefore taking it out from the system. In other example, the chicken may die. The factory will stop producing etc. Therefore, all wealth is not permanent. Sad thing, isn't it?

So how can we print more money without creating wealth?

This question is rhetorical, really. It is merely stating the obvious. You cannot print more money without creating wealth. However, if the old notes are torn and destroyed, new notes would be required to replace them. Essentially speaking, this shouldn't be a problem; since you are not making new notes without wealth to back it up.

But, the question is: can we print money without creating wealth?
Theoretically, yes. Well even practically this happens. So yes we can print that. The real issue here is not whether we can do it, the real issue is: should we?

What are the issues with printing more money?

You see, when you print more money without any actual economic value addition, there are essentially more people buying the same number of products. Therefore the prices of those products will rise.

Alas, we were thinking that giving more money will make poor people eligible to buy the products? What a shame that now the products have become costly, and we are back to square one. We didn't really help them, did we?

Hence, printing more money is not the solution.

Then what is the solution?

It's not rocket science. We already discussed that any economy's real wealth is in its resources. Printing money is not the solution; the only solution is to provide resources. What are these resources?

  1. Education
  2. Employment
  3. Skill development
  4. Investments
  5. Governance (law & order)

And all the other resources that we talked about.

This is what will alleviate poverty. Nothing else will.

Why can't the government/bank of a country just print more money?

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