There once was a village long ago named Goldville. It was a simple place, a farming community with a small town and shops that sold supplies and clothes and other basic essentials. The villagers mostly bought and sold their goods through a barter system, the shopkeepers and farmers simply negotiating a value and exchanging their wares. The only other store of value in the town was gold, an ounce being worth so many bushels of corn or wheat and so many yarns of cloth. There was only a small, finite amount of gold, so it was very valuable. Over time the prices of things became very stable: three bushels of wheat for two pairs of slacks, three carats of gold for one watch, and so on.
Life went on simply for many years, people producing just enough to get by. The people for the most part were happy and kind; the focus of most was to help their neighbor, especially if they were in need. But there seemed to be a lack of luxuries or the ability or ambition to produce them. The standard of living was stagnant, although no one really complained because they did not know differently. Fortunately, no one really thought of hoarding what little wealth there was: the health of the community was the health of the individual. Almost all of people's spare time was spent talking and walking with friends and family, courting a new love, or going to Church or some community festival.
But as the population grew (almost exclusively through childbirth as the village was very remote), more and more people, especially the young, became somewhat disenchanted with the mundane life afforded in Goldville. The town began to experience some problems: it seemed that there were never enough resources to build anything but the barest of necessities. As children grew up and married, they built houses of their own; their parents helping them build it with materials bartered. But the people found that there was little more "expansion" than that. No one could consciously define the problem, much less the solution. The town was lucky that all, or most, were kind and generous, willing to help out a neighbor in an emergency, for there certainly weren't any resources available for such a thing.
In other words, there were no savings (because everything was used up in consumption) and no investment in creative endeavors (because there was no extra resources). As the young began to reach working age, the eldest naturally took over from their parents their small businesses or farms, but younger siblings were often relegated to servitude.
About this time along came a newcomer, an older and seemingly shrewd gentleman from far away. His name was Elmer. When Elmer arrived he immediately rented a room from a family whose eldest son had just married, and began to study the town. He paid the rent with gold. About a week later he purchased a large parcel of land on the outskirts of town and went about hiring young men to build a house. He paid for everything with gold.
Over the next few months things in Goldville slowly changed as the new extraneous injection of gold from Elmer began to take effect. Those who were earning "money" from the building of Elmer's house and the property owner who sold Elmer his land at first did not know what to do with their new gold. Some buried it in the backyard, others hid it under their mattress, but a few began spending it. At first there was not much to spend the money on, for production in the town was geared to essentials only. But one day a young man named Brian went to a clothes maker and said, "Well sir, I need a new pair of pants, but I don't want the same old patchwork pants. I want you to make me a pair that is handsome, one that will impress my lady for I am going to ask her to marry me."
Soon after seeing the young man wearing his stylish new clothes, some of the other men dug up their gold and also went to the clothes maker, wanting handsome clothes as well (for we all know men are vain), but different, one where the style was more personal. The clothes maker began charging more for the various styles he was producing. He began to accumulate gold.
Then something happened that really changed Goldville. Two of the men that originally buried their gold saw the clothes maker's booming business and surmising his new "wealth", decided to start a business of their own. Creativity and ambition slowly began to blossom in Goldville; everyone wanted in on the action. People no longer only thought of the essentials, but thought more about style and improving the quality of their lives. Goldville was experiencing for the first time expansion and growth, especially into areas not even thought of before.
The original infusion of income created a chain reaction of spending, but something was missing and the chain reaction was burning out fast: everyone spent their new gold, some through consumption and some through investing in a new business, for there was no reason to save (bury) it, but the process was for some reason slowing down.
Then one day an enterprising young man named Todd, who had not been hired by Elmer and had very little wealth of his own at the time, went to Elmer with a proposal. "Elmer, sir, I have an idea. I would like to open a saloon, a place where people can talk and drink and be merry. I think with all the new work and money in town, people would surely spend some to relax and talk about things. I would like to borrow some of your gold to build it. If you do lend me the gold I think I can pay it back in one year."
After going over some numbers Elmer agreed that the gold could be paid back in a year if all went well. Elmer, understanding finances more than anyone realized, said, "All is well my new friend, but to be compensated for the risk of lending you five ounces of gold for one year, I ask in return six ounces at the end of the period. In addition, if you do not pay me the full six ounces as agreed, I will take and be owner of your business." Todd and Elmer finalized the agreement, but instead of giving Todd the actual gold, Elmer instead wrote out a piece of paper stating the amount of gold that he was lending or "credit" and directed Todd to go to the various suppliers and such saying, "tell the vendors that this note documents that I will honor the payment of up to five ounces of gold in your name in one month's time however you wish to allocate it."
So Todd went and did as planned. The various vendors were paid on time and Goldville experienced a spurt of new growth. Soon other young men and women were coming to Elmer for "loans" of gold. Planned or unplanned, Elmer made a business of these loans, issuing his "notes", picking and choosing who to lend to based on the amount the borrower had to give Elmer if things went wrong (collateral offered) and the value of the proposed business.
One day a vendor named Greg was on his way to Elmer's to tender several Elmer notes for gold when he stopped into Todd's saloon for a drink. After one drink turned into several, he got an idea (Greg often got his best ideas after a few drinks) that would save himself a trip across town to Elmer's house. Upon being given the bar tab he approached Todd and said, "My friend, why don't you just take three of my Elmer notes instead of gold for my bill and you can exchange them for gold on your next trip to Elmer's?" Todd, having learned a thing or two from Elmer agreed instead to take four notes. Greg, being a bit lazy, agreed to the terms. This started a new trend: Elmer notes were as good as, maybe even better than, gold.
Soon Elmer's notes were floating around Goldville in great numbers and the town was growing like never before. People were happy and ambitious, looking for the next good idea. To show their gratitude to Elmer, the people decided to rename the town Elmerville.
One day one of the town's most successful vendors Steve went to Elmer to exchange his Elmer notes for gold. Now unbeknownst to anyone in the town, Elmer had actually written more notes than he had gold. This of course was not a problem as long as most people paid back their loans, but there was a timing issue. So Elmer (without telling Steve the details) then made him a proposition: return these Elmer notes to me now worth twenty ounces of gold and in one year I will give you Elmer notes worth twenty-two ounces of gold. Well, this sounded like a fine deal to the vendor, getting more Elmer notes for no work at all! He agreed.
Once the townspeople heard of this they began to think and do in kind. Others who had accumulated Elmer notes began to "save" Elmer notes in order to "deposit" them back with Elmer to earn "interest". Interestingly Elmer notes began to increase in value, becoming even more valuable than the gold promised. Elmer, liking profit, issued more and more notes (several times over and above the value of gold that he had in possession) to satisfy the demand. Soon there were more and more Elmer notes in circulation and less and less actual gold; the gold was winding up in Elmer's vault.
And so things went on happily in Elmerville for many years. But this is not the end of the story, by any means.
Click here for part 2.
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