I think this topic has likely been debated before on this forum in some way, but I came across an interesting little essay on fictionalley.org (link is here).

I'm not a finance or economics student, and I'm not entirely certain that I agree with some of the writer's proposals, but there were a few interesting questions raised: can the Potterverse ever have a 'credit crisis'? What is the role of Gringotts in the wizarding economy, and where does the Ministry of Magic come in? How did the old pureblood families get their money?

I've pushed serious elements of a financial/legal angle in WbA Renegade Cause, and the way I wrote it, there is a section of the Ministry (Department of Magical Finance) which works closely with the Wizengamot and the Department of Magical Law Enforcement and deals with taxes, some wizarding investments, and auditing (which makes sense, to some degree, as wizards would not want goblins collecting - and likely skimming - tax money, or in charge of auditing wizarding business). This also implies that there are indeed wizard accountants working at Gringotts with goblin bankers (hell, one of my favourite scenes in my story so far is when Harry 'meets' with one of those accountants during a 'visit' to Gringotts).

So, as an open question, does anybody have an opinion on how wizarding economics work? Does the author of the article linked have any idea what he's talking about? Are there taxes in the wizarding world? And how exactly did those old familes get and maintain their fortunes, anyways? Any finance or economics students want to take a stab at this?

 

Oz: Don't worry, you're not insane. I remember it too.

 

They can't really have a credit crisis because they have full reserve banking.

Actually, they don't seem to even have anything resembling Certificates of Deposit, so I have to wonder why people leave all that money rotting away in Gringott's instead of saving some for emergencies and invest the rest, though I suppose that the rate of money supply growth is smaller than that of the economy, despite how lackluster the latter seems to be in the books, so the money would probably increase in value just through deflation.

The problem with the wizard economy is that the lack of credit availability means that practically no one can start a new business and existing ones thus gain a huge amount of market power. This is mostly because of the Gringott's monopoly on banking.

Not to mention, the very fact that the Ministry of Magic makes law to actually increases scarcity--like forbidding the conjuration of certain items--is so mindnumbingly dumb that it looks like someone at the MoM read Bastiat's Candlemaker's Petition and thought it was serious.

 

The problem stems from the fact that a very serious, deep and complex aspect of a real society is glossed over at best and utterly butchered at worst. While I despise plot holes, I don't hold this against Rowling - her goal was to create a fantasy of magic, not write an treatise on economics.

Barring the fact that we are limited to Harry's rather narrow perspective, it nonetheless seems fair that the magical world is running a very simple market economy. No stocks, no real source of centralized credit, nada. Even Gringotts seems less of a modern bank and more a very safe (rofl) box to keep your money. They show no indiciation that that money is being invested.

So for the fanfic writer, you are basically left to come up with a system of your own. This is complicated by the fact that magic can perform many of the tasks we even bother using money for. Furthermore, Rowling muddys the waters with what little she does tell us about the money system of her world. A wand with a phoenix feather (one of only two given by this particular bird, of what are not exactly a common species, even in the magical realm) costs seven galleons, whereas a mass marketed doll of a quiddich player costs ten. 1000 galleons is enough to steal a top quiddich star, yet Rowling I recall stated the exchange rate was 5:1 - enough then for even a fairly poor muggle-born to absolutely crush in the wizarding world, without bans on exchange (which clearly, exchanges happen as the Grangers do this, and if it is very limited, then this points yet again to a very primative system.)

My advice to you is to come up with a plausible model using the minimum of canon restraints (ie, keep it simple and keep the currency) but otherwise ignore canon. Then, make sure you keep wages in proportion with costs, and anything beyond that is up to you.

Don't have a stock market. Don't intermingle wizarding and muggle economies, and don't give Harry a bajillion galleons. Avoid that and you'll do fine.

 

Oz: there was a long thread about wizarding economics a while back, but it wasn't started by me. It should be around somewhere.

Anyway, wizarding "economics" needs serious a serious retcon if you want to make it work with any kind of sophistication (i.e. like the Muggle economy). From what we see in canon, there is no financial system.

The key problem is that Gringotts does not work like a modern bank. They keep peoples' money in their individual vaults and that's it. If they don't pool all the capital they have and loan out a portion of it, while maintaining a certain level of liquidity for withdrawals, they won't make a profit. The idea of interest rates is made redundant right there. Moreover there doesn't appear to be any stock market, futures market, commodities market, bonds, gilts, or securities of any kind.

The entire Muggle financial system, which revolves around shifting around long and short term debts in order to maintain a certain minimum level of liquidity while lending the maximum possible amount, just doesn't happen.

This pretty much discounts any kind of monetary policy on the part of the government.

So all you're left with is fiscal policy (e.g. taxes, subsidies, that sort of thing) which is a much blunter tool.

The wizarding economy as a whole seems to be barely post-barter with no banking system (Gringotts is a glorified security firm) and a coinage that is directly dependent on gold (though the numbers for this are messed up).

That further limits what you can do with it. The value of gold is pretty stable, and so the currency of the wizarding world is also going to be pretty robust in the face of potential economic change/crisis.

Someone going crazy with the philosopher's stone, or the discovery of how to transfigure things into gold, would be two ways to make things go south. Basically anything that massively changes the supply of gold. Gringotts stealing everyone's gold would also do this.

The rest of the economy most likely follows typical demand and supply models, probably pretty close to perfect competition or monopolistic competition. There doesn't seem to be any kind of oligopoly or monopoly, with markets not having any real barriers to entry. The closest thing to oligopoly might have been the broom market, but we see how easy it is for the major company in this area to be beaten by a new brand with the emergence of the Firebolt.

The Ministry seems to be pretty laissez-faire in their approach, but when they do interfere they're pretty blunt, using legislation (e.g. legislation to standardise cauldron thickness). There doesn't appear to be any kind of open-market operations, though admittedly even if there were we wouldn't really see much of it. That said, in the list of Departments of the Ministry we don't see any kind of regulatory body for the economy.

So yeah, serious changes are needed, and it's going to be difficult if you want to both make it in line with canon and also make it not seem like a rather ad hoc solution.

An example of an ad hoc solution would be saying something like "The fact that Gringotts' customers money is all in personal vaults is an illusion to keep the wizards happy and feeling secure about their money, and in reality the bank works like a Muggle one."

That's crap.

Possible ways out include:

#Something to do with treasure-hunting, which appears to be Gringotts' primary way of making money: finding/stelaing gold and jewels.

#Non-Gringotts human businesses offering loans, though where they would get the capital for this I don't know. Possibly the old/rich Pureblood families. If the old/rich Pureblood families were the wizarding world's only real source of any kind of financial sophistication (as outlined above) then this would really go much further to explain their hold on wizarding society. Just think how important banks are to Muggle society. I guess this would make the rich Purebloods part bank, part gangster, and part pawnbroker.

#Creating a Ministry department to deal with the economy.

#Some sort of wizarding-Muggle interaction, by which Gringotts/the Ministry fucks with the Muggle world to make loads of money out of nothing (just think about the galleon-pound exchange rate).

Basically, if you want to create a financial system, you have to find some other source of capital for it, given that it isn't deposits in banks as in the Muggle world.