In the late 70s, it seems that the Journal of Money, Credit and Banking gets swept up in whimsy, and published this article: Monetary Theory and the Great Capitol Hill Baby Sitting Co-op Crisis. It’s a story that’s much-loved and much-mentioned by Paul Krugman, and it’s regularly used as a justification for all that quantitative easing. It’s also used by libertarians to show how quantitative easing leads to inflation. And how can you not love a story that gets used by both sides of the politico-economic divide?

Welcome To The World Of Toy Economies

Although it’s not really a term that you find in the textbooks, “toy economies” reference those economies that are not created by political boundaries. Generally, we tend to assume that “economies” are things that happen to countries, regions, and cities. But an economy is any situation that has an inner circle of economic agents engaging in transactions amongst themselves. National economies have that inner circle created for them by national borders – but there are other forms that are less rigid.

And these toys economies can also experience recessions, depressions and flights of inflation. Meaning that they’re sometimes taken as indicators of what direction policy should take.

The Capitol Hill Baby Sitting Co-op

Joan and Richard Sweeney, the authors of the paper, worked in Washington. Or, to quote the article:

Joan Sweeney is Mrs. Richard James Sweeney. Richard James Sweeney is deputy director, Office of International Monetary Research, United States Treasury.

While Joan and Richard lived in Washington, they joined a baby sitting co-operative. There were roughly 250 families that were members, and the arrangement was relatively simple: “You take care of my kids when we need to go out, and I’ll return the favour when you need to go out. This saves both of us money, because neither of us needs to pay a teenager to do it for us”.

Despite the simple concept, there is almost immediately a problem of keeping track. Because how do you prevent free-loading, and how do you make sure that the baby-sitting hours are split fairly? The solution that the co-op came up with involved the issue of baby-sitting coupons, or “scrip”.

How It Worked

1. On joining the co-op, the co-op would lend you 40 units of scrip entitling you to 20 hours of baby-sitting for your children. And on leaving, you would have to pay the 20 units back.
2. Each unit of scrip was worth a half-hour of baby-sitting.
3. If you needed your children to be watched, the co-op would find out who was available to baby-sit, and at the end of the night, you’d hand over the appropriate amount of scrip.
4. And when you were available, you’d get to earn some.

At first, this system seemed remarkably fair. Each hour of baby-sitting undertaken earned an hour of baby-sitting scrip – so there should have been some equilibrium.

However

There was a small problem of administration – because you’d need someone to organise the whole baby-sitting arrangement, and someone to administer the whole scrip issues and collections for incoming and outgoing members.

The solution was for members of the co-op to pay annual dues of roughly 14 baby-sitting hours, and the administrators were then paid a scrip “salary” to compensate them for their time. So far, so good – because the administrators could then spend their baby-sitting scrip on baby-sitting, and everything should work.

Practically speaking though, the co-op would almost always end up with a small profit in scrip. Administrator “salaries” would be set conservatively, so that the co-op could be sure of having enough scrip to pay for it. And by the end of the year, the co-op would have withdrawn that profit from circulation (after all, it’s not like the co-op as an organised body had its own children that needed sitting). So they ended up with this:

A decreasing supply of scrip…

What This Meant In Practice

The members in the co-op somehow became aware of this shortage of scrip. Perhaps all it took were a few members attempting to save up scrip for a rainy day, and began volunteering for more baby-sitting.

Then:

“There was so little scrip to go around that holders were reluctant to squander it by going out. Those who wanted to go out but didn’t have scrip were desperate to get sitting jobs. The scrip-price of baby sitting couldn’t adjust, and the shortage worsened. The co-op even passed a rule that everyone must go out at least once every six months. The thinking was that some members were shirking, not going out enough, displaying the antisocial ways and bad morals that were destroying the co-op. Hence the by-law to correct morals.”

How familiar does that sound? The problem is never monetary – it’s always the pernicious hoarders, or the colonial influencers, or whatever…

The hunt for solutions

One possible solution here would have been to relax the price controls. Because then the scrip might have devalued. If people were so desperate to baby-sit, maybe they would have been willing to sacrifice an hour of their time now in exchange for that half-hour scrip at some future point. Only, prices didn’t adjust – they stayed rigid.

Instead, the co-op went with that mandatory consumption rule, which worked out almost as well as the price control. In that it didn’t. People still didn’t use their baby-sitting coupons.

Eventually:

“In the end, despair forced a resort to monetary policy – each current member was given ten more hours of scrip. New members had been given twenty hours and required to pay back twenty when leaving – now they were given thirty and required to pay back only twenty. And behold, just as even our monetary authorities might predict, were they given to accurate predictions, the problem went away. There shortly arrived a balance between those who wanted to go out and those who wanted to sit. A golden age, on a minor scale. Those people who previously hadn’t wanted to go out must have changed their morals – or maybe it was the ten hours all round.”

So there we are: proof that a little quantitative easing can bring an economy out of recession.

And of course, that’s where Paul Krugman has taken to ending the story.

The Epilogue

Naturally, there were some consequences to that quantitative easing. After about two years of this “golden age”, there were suddenly not enough sitters. Everyone wanted to go out and no one wanted to stay in. Typically:

“…some members want to remedy the situation with rules to force sitting by those members who are shirking their duty. Indeed, a truth squad is envisaged to find out why individuals aren’t sitting enough.”

Unfortunately, that’s what happens when you have more scrip chasing the same number of sitters – alongside a price control established over the value of the scrip. You get shortages.

What does it tell us? That nothing is as simple as we think.

And if you ease here and temper there, you’ll get short-lived golden ages hedged in by recessions and inflations.

Rolling Alpha posts opinions on finance, economics, and sometimes things that are only loosely related. Follow me on Twitter @RollingAlpha, and like the Rolling Alpha page on Facebook at www.facebook.com/rollingalpha.