Simon Carr: A thought experiment called money

Money has been getting more and more peculiar for some years now. I'm not sure we know what it is any more. The credit crunch is lifting the lid of the magic box so we can see inside. It's terrifying what's in there; we probably shouldn't look. It seems that the system of global credit became one large Ponzi scheme.

Bernard Madoff's $50bn scam worked as long as new believers joined in. The money came out of the top as long as there were enough new entrants going in at the bottom. As in Madoff's fraud, the world's credit system eventually ran out of people who wanted a new mortgage and the thing collapsed.

In the wreckage, certain questions are more obvious than they usually are. For instance, what does that legend on the currency mean? "I promise to pay the bearer on demand the sum of £20." What exactly will we be given at the Bank of England if we all go in and ask for our £20?

Banks are the central institution of the world economy. But they are insolvent. All banks are insolvent all of the time. Their liabilities exceed their assets. No bank can withstand its customers wanting their money back. If all banks are all trading insolvently then the world economy is based on a hallucination, a mass deception, a general agreement to ignore reality.

And that goes back the other way. If banks want their mortgage capital back, none of us home owners would be able to pay. House prices would fall to a tenth of their present value. So both sides collaborate in the illusion of value.

Money was always an abstraction but now it has been spun so fine its very existence is a thought experiment. It has broken free from its earthly bonds and escaped into the conceptual world. Thus – no one understands credit derivatives. They are a secret system of monetary transactions operating in private. The data doesn't exist to know what their effect is.

Few companies know what the risk is that their mortgage-based securities are worth what they think they're worth. Their company books are a work of fiction. Many financial houses have no idea how many or how much of their assets are toxic, or whether their own company is worth anything.

None of us with any exposure to these questions (those of us with savings, a pension or a job are exposed) know if we are solvent. If we did know, there'd be mass panic, economic chaos and the breakdown of civil society. Of course we have to ignore reality.

Here we come to the mystery of money. Money turns out to be whatever we agree it to be. It is a collective work of the imagination. This can get out of hand (as we see in Zimbabwe). And it may be on the point getting out of hand for the rest of us, albeit in the other direction.

So our leaders pump unimaginable trillions of pounds into the economy. They won't be borrowing the money from each other, they'll be printing it. They'll say it has value and if we agree to believe them, so it will be. That's the infrastructure of Roosevelt's claim in 1933 that all we have to fear is fear itself.

I've always said Gordon Brown was delusional; now I find that it's my civic and patriotic and human duty to collaborate in his delusion. Infuriating it may be but in the long run, we'll almost certainly be better off. The quiet expansion of credit and a gentle rise in prices has been going on for centuries. And no doubt will resume, after this nasty glitch in the matrix.