I don’t know about you, but I’ve always found money very puzzling for various reasons. Especially when it comes to what the banks do with it. I’ve never been quite convinced that money actually exists: it’s a number that we do things with. If you pay me for something, your number goes down and my number goes up. If my number goes down to zero and my bank won’t let it keep going then I’m in big trouble, because people won’t hand things over to me in shops and so on. To do that, they want me to make their number go up.
And I’ve never really understood how “the money supply” can be increased. Coins and notes can be printed, sure, but whose are they and how do they get into circulation without somebody in effect “stealing” them? Is it actually valid to create it out of nowhere? All very strange.
She didn’t get the answer to her question, some discussion ensued about the nature of money, the value of a company’s stocks, and the like. (The more I think about these things, the more convinced I become that money is really just a mental trick.)
As it happens, I had to study quite a lot of quantum physics at university, for my electronics degree. (This isn’t surprising, since quantum physics is the physics of the extremely small, electrons are extremely small, and electronics is based on their behaviour.) And in studying that, I had the same sense of things only just existing, or not quite existing. (I mean, an electron exists but doesn’t properly know where it is or how fast it’s going, or if it knows one it doesn’t know the other; that’s roughly what the Uncertainty Principle says.) It seemed very much like a game played with certain rules and numbers. A game which happened to predict very well what measurement you’d get if you did a particular experiment, but a game nevertheless, which simply dealt with the numbers and rules and was silent about the actual nature of the physical objects playing the game. All it said was that they obeyed the rules. (Scientifically, all that can be studied is the rules and numbers, since they can be observed; all we can say about any underlying reality is that if there is one, it’s one which fits them.)
And it also so happens that I find the ideas of quantum physics easier to “grasp”  than the ideas of finance, so the analogy that follows was a bit of a breakthrough for me. Here are some shortened extracts from the later part of the conversation:
In some senses ‘money doesn’t really exist’ – which was people’s complaint when the West went off the gold standard in the 1970s. (Previously, all money printed had to have a certain value with respect to an ounce of gold.)
And markets are driven by psychology. Fear and greed. A very simple explanation: financial instruments are priced according what people will think that they will be worth in the future. So, if a particular company is expected to grow by 5% per annum over the next two years, and its assets are now £100, its stock price would be £110.25. (This is hugely simplistic for illustrative purposes.)
The problem, of course, is that you have to guess how much everything is going to grow [. . .]
[. . .] I heard on a radio programme that the first time there was a real banking crisis after the Bank of England formed, people were very unhappy about paper money, complaining that it wasn’t actually money.
It’s interesting: atheists accuse us of basing our lives on something that doesn’t exist, namely God, but arguably modern society runs on something that doesn’t exist, namelly money! (I’m only half joking.)
ISTM you’re saying that the value of a piece of paper simply exists in the mind of the buyer and seller.
Yes, I think it probably is. It’s a corollary of ‘something is only worth what a buyer is willing to pay for it’ [. . .]
Bizarrely, there’s a parallel with quantum physics, too [. . .]
In quantum physics—the physics of the ultra-small—a quantity generally exists in an “indeterminate” state until it is measured. The act of measurement forces it to stop being indeterminate and have a definite value.
Similarly it seems to me that a house, say, doesn’t have a definite value until you measure the price by letting somebody pay for it.
So in a way, the financial value of something is always in the future and hovering on the brink of existence.
Tim – Not only does that seem quite correct to me with respect to money and financial markets, but you’ve just helped me to better understand that principle in quantum physics.
And maybe that’s why money is so confusing. In quantum physics, you mostly don’t know things like the position or momentum of a particle; you only know the probability of it being within a particular range. And, according to the most widely accepted interpretation, the particle doesn’t “know” either. It really doesn’t have a precise position or momentum until it’s “observed” in some way.
Similarly with money: your house doesn’t have a precise value except at the moment of sale. All it has is a particular probability of lying in a particular price range. And the same is true of the the things in which your money in the bank is invested.
And it seems to me that this might be why the economy gives us so much grief: we’re dealing with things which have at best a shadowy existence, but much of the time we treat them like the most concrete reality there is.
 I think it was either Heisenberg or Schrödinger who said that if you weren’t confused by quantum mechanics you hadn’t understood it; hence “grasp” in quotes. Back