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The Iinflationist View Of History

This chapter from Human Action is spot on for today:


Part 4, Chapter XVII. INDIRECT EXCHANGE

18. The Inflationist View of History

A very popular doctrine maintains that progressive lowering of the monetary unit’s purchasing power played a decisive role in historical evolution. It is asserted that mankind would not have reached its present state of well-being if the supply of money had not increased to a greater extent than the demand for money. The resulting fall in purchasing power, it is said, was a necessary condition of economic progress. The intensification of the division of labor and the continuous growth of capital accumulation, which have centupled the productivity of labor, could ensue only in a world of progressive price rises. Inflation creates prosperity and wealth; deflation distress and economic decay.[25] A survey of political literature and of the ideas that guided for centuries the monetary and credit policies of the nations reveals that this opinion is almost generally accepted. In spite of all warnings on the part of economists it is still today the core of the layman’s economic philosophy. It is no less the essence of the teachings of Lord Keynes and his disciples in both hemispheres. The popularity of inflationism is in great part due to deep-rooted hatred of creditors. Inflation is considered just because it favors debtors at the expense of creditors. However, the inflationist view of history which we have to deal with in this section is only loosely related to this anticreditor argument. Its assertion that “expansionism” is the driving force of economic progress and that “restrictionism” is the worst of all evils is mainly based on other arguments. It is obvious that the problems raised by the inflationist doctrine cannot be solved by a recourse to the teachings of historical experience. It is beyond doubt that the history or prices shows, by and large, a continuous, although sometimes for short periods interrupted, upward trend. It is of course impossible to establish this fact otherwise than by historical understanding. Catallactic precision cannot be applied to historical problems. The endeavors of some historians and statisticians to trace back the changes in the purchasing power of the precious metals for centuries, and to measure them, are futile. It has been shown already that all attempts to measure economic magnitudes are based on entirely fallacious assumptions and display ignorance of the fundamental principles both of economics and of history. But what history by means of its specific methods can tell us in this field is enough to justify the assertion that the purchasing power of money has for centuries shown a tendency to fall. With regard to this point all people agree. But this is not the problem to be elucidated. The question is whether the fall in purchasing power was or was not an indispensable factor in the evolution which led from the poverty of ages gone by to the more satisfactory conditions of modern Western capitalism. This question must be answered without reference to the historical experience, which can be and always is interpreted in different ways, and to which supporters and adversaries of every theory and of every explanation of history refer as a proof of their mutually contradictory and incompatible statements. What is needed is a clarification of the effects of changes in purchasing power on the division of labor, the accumulation of capital, and technological improvement. In dealing with this problem one cannot satisfy oneself with the refutation of the arguments advanced by the inflationists in support of their thesis. The absurdity of these arguments is so manifest that their refutation and exposure is easy indeed. From its very beginnings economics has shown again and again that assertions concerning the alleged blessings of an abundance of money and the alleged disasters of a scarcity of money are the outcome of crass errors in reasoning. The endeavors of the apostles of inflationism and expansionism to refute the correctness of the economists’ teachings have failed utterly. The only relevant question is this: Is it possible or not to lower the rate of interest lastingly by means of credit expansion? This problem will tb treated exhaustively in the chapter dealing with the interconnection between the money relation and the rate of interest. There it will be shown what the consequences of booms created by credit expansion must be. But we must ask ourselves at this point of our inquiries whether it is not possible that there are other reasons which could be advanced in favor of the inflationary interpretation of history. Is it not possible that the champions of inflation have neglected to resort to some valid arguments which could support their stand? It is certainly necessary to approach the issue from every possible avenue. Let us think of a world in which the quantity of money is rigid. At an early stage of history the inhabitants of this world have produced the whole quantity of the commodity employed for the monetary service which can possibly be produced. A further increase in the quantity of money is out of the question. Fiduciary media are unknown. All money-substitutes–the subsidiary coins included–are money-certificates. On these assumptions the intensification of the division of labor, the evolution from the economic self-sufficiency of households, villages, districts, and countries to the world-embracing market system of the nineteenth century, the progressive accumulation of capital, and the improvement of technological methods of production would have resulted in a continuous trend toward falling prices. Would such a rise in the purchasing power of the monetary unit have stopped the evolution of capitalism? The average businessman will answer this question in the affirmative. Living and acting in an environment in which a slow but continuous fall in the monetary unit’s purchasing power is deemed normal, necessary, and beneficial, he simply cannot comprehend a different state of affairs. He associates the notions of rising prices and profits on the one hand and of falling prices and losses on the other. The fact that there are bear operations too and that great fortunes have been made by bears does not shake his dogmatism. These are, he says, merely speculative transactions of people eager to profit from the fall in the prices of goods already produced and available. Creative innovations, new investments, and the application of improved technological methods require the inducement brought about by the expectation of price rises. Economic progress is possible only in a world of rising prices. This opinion is untenable. In a world of a rising purchasing power of the monetary unit everybody’s mode of thinking would have adjusted itself to this state of affairs, just as in our actual world it has adjusted itself to a falling purchasing power of the monetary unit. Today everybody is prepared to consider a rise in his nominal or monetary income as an improvement of his material well-being. People’s attention is directed more toward the rise in nominal wage rates and the money equivalent of wealth than to the increase in the supply of commodities. In a world of rising purchasing power for the monetary unit they would concern themselves more with the fall in living costs. This would bring into clearer relief the fact that economic progress consists primarily in making the amenities of life more easily accessible. In the conduct of business, reflections concerning the secular trend of prices do not bother any role whatever. Entrepreneurs and investors do not bother about secular trends. What guides their actions is their opinion about the movement of prices in the coming weeks, months. or at most years. They do not heed the general movement of all prices. What matters for them is the existence of discrepancies between the prices of the complementary factors of production and the anticipated prices of the products. No businessman embarks upon a definite production project because he believes that the prices, i.e., the prices of all goods and services, will rise. He engages himself if he believes that he can profit from a difference between the prices of goods of various orders. In a world with a secular tendency toward falling prices, such opportunities for earning profit will appear in the same way in which they appear in a world with a secular trend toward rising prices. The expectation of a general progressive upward movement of all prices does not bring about intensified production and improvement in well-being. It results in the “flight to real values,” in the crack-up boom and the complete breakdown of the monetary system. If the opinion that the prices of all commodities will drop becomes general, the short-term market rate of interest is lowered by the amount of the negative price premium.[26] Thus the entrepreneur employing borrowed funds is secured against the consequences of such a drop in prices to the same extent to which, under conditions of rising prices, the lender is secured through the price premium against the consequences of falling purchasing power. A secular tendency toward a rise in the monetary unit’s purchasing power would require rules of thumb on the part of businessmen and investors other than those developed under the secular tendency toward a fall in its purchasing power. But it would certainly not influence substantially the course of economic affairs. It would not remove the urge of people to improve their material well-being as far as possible by an appropriate arrangement of production. It would not deprive the economic system of the factors making for material improvement, namely, the striving of enterprising promoters after profit and the readiness of the public to buy those commodities which are apt to provide them the greatest satisfaction at the lowest costs. Such observations are certainly not a plea for a policy of deflation. They imply merely a refutation of the ineradicable inflationist fables. They unmask the illusiveness of Lord Keynes’s doctrine that the source of poverty and distress, of depression of trade, and of unemployment is to be seen in a “contractionist pressure.” It is not true that “a deflationary pressure … would have … prevented the development of modern industry.” It is not true that credit expansion brings about the “miracle … of turning a stone into bread.”[27] Economics recommends neither inflationary not deflationary policy. It does not urge the governments to tamper with the market’s choice of a medium of exchange. It establishes only the following truths: 1. By committing itself to an inflationary or deflationary policy a government does not promote the public welfare, the commonweal, or the interests of the whole nation. It merely favors one or several groups of the population at the expense of other groups. 2. It is impossible to know in advance which group will be favored by a definite inflationary or deflationary measure and to what extent. These effects depend on the whole complex of the market data involved. They also depend largely on the speed of the inflationary or deflationary movements and may be completely reversed with the progress of these movements. 3. At any rate, a monetary expansion results in misinvestment of capital and overconsumption. It leaves the nation as a whole poorer, not richer. These problems are dealt with in Chapter XX. 4. Continued inflation must finally end in the crack-up boom, the complete breakdown of the currency system. 5. Deflationary policy is costly for the treasury and unpopular with the masses. But inflationary policy is a boon for the treasury and very popular with the ignorant. Practically, the danger of deflation is but slight and the danger of inflation tremendous.


[25]. Cf. the critical study of Marianne von Herzfeld, “Die Geschichte als Funktion der Geldbewegung,” Archiv fuer Sozialwissenschaft, LVI, 654-686, and the writings quoted in this study. [26]. Cf. below, pp. 541-545. [27]. Quoted from: International Clearing Union, Text of a Paper Containing Proposals by British Experts for an International Clearing Union, April 8, 1943 (published by British Information Services, an Agency of the British Government), p. 12.

Is Inflationism Part of our Mindset? The Paper Pound & The Bullion Report

Most people have one principle “asset”: the house they live in. Long gone are the days when your physical house was simply your home and nothing to do with your financial assets. Indeed, as the last boom was manufactured by the low interest rate policies of most of the central banks in the Western World, cheap credit pushed up asset prices, notably houses, which you could then cash in, spending this newly minted credit, drawn down as money to buy the goods and services you desired. House prices, perversely, are one of the few key costs of living to be celebrated when they rise. If a man from Mars came down to earth, he should surely conclude that this trend was mad and that people supporting a cost of living increase, on such a stupendous scale, were surely punch drunk on inflationist ideology. Now governments around the world are fully committed to a policy of inflationism. This is when a policy of more cheap money, via exceptionally low interest rates and blatantly “printing” electronic money, is used to create a “recovery.” Please note: like some doctor of old prescribing a leech to suck out your blood if you had a disease and then doing so again when you started to faint as a result of blood loss, we have the cure of easy money being advocated as the cure for a past easy money policy blunder on a spectacular scale. This policy of inflationism ensures that the creditors of the world will eventually get their debts paid back in nominal terms, but with money of lower purchasing power. This fleecing of the thrifty, sensible and prudent is thoroughly dishonest. I would prefer to meet a highway robber who at leasts offers me a choice – “Your money or your life?” – rather than the theft of my purchasing power that is taking place now.

Is honest money a lost cause?

I recently read the Bullion Report of 1810, which has a fantastic introduction from the great economist and holder of the Economics Chair at the London School of Economics from 1895 to 1924, Edwin Cannan, prior to Lionel Robbins. He wrote his introduction to this most famous of House of Commons reports in 1919, after the end of the First World War. Then, our money was debased and the policy solutions were inflationism: dishonestly paying off debt by trying to pass it to the next few generations, covering the misdeeds of the current generation. This was a time in history very similar to the end of the Napoleonic Wars when our money, hitherto being indestructible gold, was replaced by inconvertible paper money and then switched back into convertibility at a lower rate after the conclusion of the peace. I will leave you with some quotes from Cannan in his Introduction,

But no government involved in a great war is willing to give up so potent an engine for surreptitiously fleecing it’s subjects as an inconvertible currency , whether in it’s own hands or in that of a bank it influences.

Joined with the determination of the public to accept notes, the Act placed in the hands of the Bank the power of creating money without limit for the benefit of it’s shareholders , or Proprietors , as they were called……the Directors had long managed the Bank with one eye indeed on the interest of the proprietors but with the other on that of the “monied interest” generally.

But the bank had found itself comfortable under the Suspension, and felt no enthusiasm for a return to a system which did not guarantee it against being asked to pay it’s debts at a possibly inconvenient moment.

Much as this was written 90 years ago, referring to events of 200 years ago, we should not become despondent that the cause of honest money is doomed: we certainly have sound economic reasoning on our side. We must find better and more persuasive ways to stick up for hard work, thirty management of your affairs and in general for liberty. This is a core part of the Cobden Centre’s mission and indeed why we set it up.

The War On The Poor

The gigantic sums of credit created out of nothing, causing a doubling and in some cases tripling of the money supplies of Western Governments, over the two-decade boom that we have just experienced, have consequences. Unless you were living at the bottom of the ocean, or on planet Zog for the last three years, the most obvious consequence is that this boom was unsustainable, as they all are. The bust has wreaked havoc across the developed world. The poorest members of society will be forced to pay for the errors of their political masters, and the richest members of society will benefit. During the boom, our nominal prices were pretty stable, i.e. general price inflation was viewed by mainstream economists and the press to be under control. The reality was quite different. Great productivity gains in all sectors of the economy during this period should have been delivering up much more purchasing power for a given amount of money, i.e. lower prices. We saw this in the Industrial Revolution, and the Technological Revolution we are living through should be no different. Entrepreneurs have been mixing up the factors of production in better combinations to deliver up more goods and services with those same factors of production. These productivity gains have been squandered by an inflating money supply. What some of us have known to be happening in the last two decades is now evident even to those with room temperature IQ. The productivity gains have slowed as the bust bites, and money inflation is now picking up a big head of steam. We are told by our political masters that “a dose of rapid inflation will clear out the system in the least painful way.” How many times have you heard that said? Even members of the Fed question this reasoning (albeit a minority). Take a look at this speechby Richard Fisher, the following section in particular:

As to the proposition that higher prices of financial assets will liberate those most in need, I wondered aloud if that were indeed true. We are already seeing the beginnings of speculative activity in stocks, bonds, buyouts and commodity markets. The rich and the quick are certainly able to exploit these circumstances to get richer. I have no problem with market operators making money; I did so myself in my previous life as a funds manager (before I took the vow of financial chastity and joined the Fed!). But I take no comfort, and see considerable risk, in conducting monetary policy that has the consequence of transferring income from the poor and the worker and the saver to the rich. Senior citizens and others who saved and played by the rules are earning nothing on their savings, while big debtors and too-big-to-fail oligopoly banks benefit from their subsidy. I know of no presidential administration or Congress, Republican or Democrat, that will tolerate, let alone advocate for, that dynamic for long, and I expressed my worry that this could come back to bite us and possibly threaten our independence.

I concur fully with these sentiments. Make no mistake here, policies of inflationism allow the governments of the world to unleash a vile pestilence on the poorest members of society, and the rich and nimble will profit from this. Like the man from the Fed, I blame no one for seeking to take opportunities to protect his or her savings and deploy them to take advantage of this situation, and I will do my best to make sure as little of my purchasing power is robbed from me as possible. We must remember that this policy destroys the purchasing power of people who need to live off their savings and who are on fixed or low incomes, largely pensioners and the poor. The War on the Poor was not unleashed by the current crop of governments around the world, but by their predecessors. I suspect there are no politicians who will point out that what they are actually doing is a soft default. We must remember that the levels of inflation we are experiencing, and will continue to experience, constitute a sovereign default in all but name. It is an acknowledgement that we will never pay back the debt owed in the public and the private sector at real purchasing power terms, but we will do it in nominal terms by letting inflation extract wealth from the population at large. A hard default would cause turmoil, no doubt, as it has in Iceland, but the War on the Poor would stop and a reallocation of resources from the profligate and imprudent to the more prudent and wiser users of capital would take place. Iceland is well down this road, and they will prosper quicker as a result. Our experiment with inflation could be two decades long, just as long as the boom! We may well rue the day we did not opt to let our banks go bust. Our politicians will tell us that there is no policy of inflation. They will say inflation results from the rise in foreign prices of commodities, the massive costs of imports, and trade unions pushing up wages. Inflation is always a monetary phenomenon, and the root of all control of the money supply goes right back to the government. They have a monopoly on the issue of currency, and power over the issue of credit via their control of the reserve ratio, and control of interest rates (the price of loanable funds). A simple example will show why the government’s role is essential. If a Russian or Arab puts up the price of oil, as there is more demand and or they have constrained supply, the Englishman buying will pay more to the Russian and the Arab. Thus a wealth transfer is achieved from the Englishman, who now has less to spend on other things. His reduced demand for other goods means that no overall price inflation can occur. Inflation can only happen with regard to commodity price rises if the person buying the commodity is determined to continue spending on other goods at his previous rate, and is able to get more credit from his bank (i.e. more money). Governments committed to inflationism are dishonest in what they do. I accept that a level of economic ignorance may well dominate the upper echelons of the governments of the world, and most politicians seem to be blissfully ignorant that what they are promoting is the mass extraction of wealth from the largest part of the voting population, to give to a minority. Even more baffling is that left wingers seem as happy with this as right wingers. Our job on this site is to try to make all aware that their policies will impoverish the weakest and most vulnerable, and weaken a recovery. If the War on the Poor is waged unwittingly, that will be small comfort to those affected.

Halligan: QE Now Seen As An Aggressive Depreciation Tool

Another superb article from Liam Halligan:

While the US has doubled its monetary base over the last 18 months, the UK’s base money supply has tripled. That’s right – UK base money is now three times bigger as a percentage of GDP than it was at the start of 2009. Given all that money-printing – sorry, QE – the danger is that inflation expectations take hold, and price pressures spin out of control. For now, a lot of the UK’s QE money remains “inert”, and therefore not yet inflationary, seeing as the banking sector has so far refused to lend it on to firms and households – one reason the UK economy remains so weak. That will continue to be the case, in my view, until the banks have black-mailed the British government into following America’s “lead”, and expanded QE to include the purchase of toxic corporate “assets”  as well as government bonds. Eventually, though – and it may not take long – the huge expansion of the UK’s base money supply will cause broader monetary aggregates to balloon as well, even if credit creation multiples remain relatively subdued. The QE money is out there and is almost impossible to withdraw. Once that money gets into circulation, and is leant against many times over, the UK could face “stagflation” – when high and rising inflation combines with an economic slump.

I recommend the whole article.