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Source link: http://archive.mises.org/10049/can-more-inflation-revive-the-us-economy/

Can More Inflation Revive the US Economy?

June 1, 2009 by

The whole idea that there is the need for more inflation in order to revive the economy seems preposterous given the fact that the Fed has been aggressively inflating since the end of last year. The yearly rate of growth of monetary pumping as depicted by the Fed’s balance sheet jumped from 3.8% in August last year to 152.8% by December 2008. At the end of April, the yearly rate of growth stood at 138.6%. FULL ARTICLE


Jonathan June 1, 2009 at 8:30 am

On the notion that monetary inflation benefits earlier recipients see http://www.freemensch.com/2009/06/bab.html
for this in action today.

flix June 1, 2009 at 8:42 am

Classic Mises lesson: only ever increasing inflation can keep the unsustainable boom going….


nick June 1, 2009 at 8:55 am

It would have been good if Shostak were to address the issue of monetary contraction, and the pros and cons of a reflationist policy.

ray June 1, 2009 at 9:06 am

Huerta de Soto: “Money, Bank Credit, and Economic Cycles”

fundamentalist June 1, 2009 at 9:07 am

Excellent article, as usual. Mainstream econs will probably be frustrated for a while in attempts to cause price increases and will find the Feds pushing on a string. Money creation requires people willing to borrow and the Fed will find those people scarce for a while. The mainstream attitude highlights their mechanical view of the economy. They think that if the Feds pull the interest rate lever hard enough then prices will mechanically respond. They’re frustrated because they are dealing with humans and not hydraulics.

Eventually, the Feds will succeed in causing price inflation, but not necessarily in the CPI. Currently, excess money is going into commodities. Much of it will go into other assets, such as the stock market.

In addition to their economic ignorance, the attitude of mainstream economists to the ethics of money creation is astounding. Contract and the rule of law mean nothing to them. If a guy borrows money that he can’t repay, instead of letting him suffer the consequences of his action mainstream econs want to void the contract via inflation, thereby rewarding the promiscuous debtors and punishing savers.

greg June 1, 2009 at 10:01 am

About 5 years ago inflation took off as speculation pushed up prices of commodities. Oil headed to $150, housing was at record levels, agricultural commodities jumped – all driven my an increase on the buy side of commodity speculation.

True to any over speculation, what goes up fast, it will fall faster. So this deflation we are seeing is more an effect of speculation activity than it is about money supply or interest rates.

But what this deflation does is give the government a free ticket to increase the money supply because the consumer had paid those high prices. I was paying $8.60 for a 2 pound brick of cheese and last weekend I paid $6.20.

So the government can increase the money supply to the point that cheese is $8,60 and use that money for their social programs. And they can say they are controling inflation. But the truth it is just a tax that is hidden by the events that over speculation caused.

We are seeing another speculation move in oil today. I hope it will be much more controlled, but it won’t. This market is about to take off.

Harry Valentine June 1, 2009 at 10:31 am

Its critically important for free market economists like Dr Shostak to continue publishing articles that expose the folly of mainstream pro-statist economists. Most elected officials have little background in any kind of economics. They are easily misled by dubious economic theories from seemingly eminent people who ultimately advocate the printing of more paper money.

Jonathan Finegold Catalán June 1, 2009 at 10:45 am

Greg says,

So this deflation we are seeing is more an effect of speculation activity than it is about money supply or interest rates.

I think you are ignoring what drives this speculation, and that is the inflation of the money supply. Jesús Huerta de Soto covers this in his book, Money, Bank Credit and Economic Cycles. Businesses will increase prices based on their speculation on how much people will be able to afford it at, which is completely dependent on the volume of the money supply. That is, what drives an increase in the price level is the greater availability of greenbacks.

On the other hand, you make it seem a completely arbitrary phenomenon, which is false.

Magnus June 1, 2009 at 11:22 am

Hatred of “speculators” must go back 2500 years. Seriously.

Complaints about “speculation” (as though it could ever be some kind of SOURCE of economic problems) always sound to me like a kind of witch-hunt hysteria.

Dick Fox June 1, 2009 at 11:50 am

Shostak is back with his monetarist fallacy. While Mankiw and Rogoff are totally wrong about inflation being a cure for low prices and our current economic problems, Shostak’s mistake in monetary policy is just as bad and in some circumstance worse.

When Shostak writes, “We suggest that inflation is not rises in prices as such but the debasement of money” he is exactly correct, but he simply can’t stop while he is ahead. Four paragraphs later he states this fallacy, “What we are saying is that inflation is the increase in the money supply.” I am sure that as he wrote this Mises turned over in his grave.

Mises understood that a fixed money supply is deflationary and he warned against it. In The Theory of Money and Credit, CHAPTER 23
The Return to Sound Money Mises writes: From the point of view of monetary technique the stabilization of a national currency’s exchange ratio as against foreign, less-inflated currencies or against gold is a simple matter. The preliminary step is to abstain from any further increase in the quantity of domestic currency. This will at the outset stop the further rise in foreign-exchange rates and the price of gold. After some oscillations a somewhat stable exchange rate will appear, the height of which depends on the purchasing-power parity. At this rate it no longer makes any difference whether one buys or sells against currency A or currency B.

Now up to here Mises is not disagreeing with Shostak but he continues: “But this stability cannot last indefinitely. While an increase in the production of gold or an increase in the issuance of dollars continues abroad, Ruritania now has a currency the quantity of which is rigidly limited. Under these conditions there can no longer prevail full correspondence between the movements of commodity prices on the Ruritanian markets and those on foreign markets. If prices in terms of gold or dollars are rising, those in terms of rurs will lag behind them or even drop. This means that the purchasing-power parity is changing. A tendency will emerge toward an enhancement of the price of the rur as expressed in gold or dollars. When this trend becomes manifest, the propitious moment for the completion of the monetary reform has arrived. The exchange rate that prevails on the market at this juncture is to be promulgated as the new legal parity between the rur and either gold or the dollar. Unconditional convertibility at this legal rate of every paper rur against gold or dollars and vice versa is henceforward to be the fundamental principle.

The reform thus consists of two measures. The first is to end inflation by setting an insurmountable barrier to any further increase in the supply of domestic money. The second is to prevent the relative deflation that the first measure will, after a certain time, bring about in terms of other currencies the supply of which is not rigidly limited in the same way.

I keep hoping that Shostak will end his love affair with Milton Friedman and develop an affection for Ludwig von Mises.

Don Lloyd June 1, 2009 at 12:21 pm

“Under the gold standard, the technique of abusing the medium of the exchange became much more advanced through the issuance of paper money unbacked by gold. Inflation therefore means here an increase in the amount of paper receipts that are not backed by gold yet masquerade as true representatives of money proper, gold. Again, the holder of unbacked money engages in an exchange of nothing for something.”

A superficial reading of this paragraph would suggest that an increase in the quantity of gold which IS accompanied by fully backed paper would NOT be inflation.

This, of course, is wrong. More gold IS inflation. The explanation is in the context. The above paragraph is really talking about bank-induced inflation. If the bank issues more fully backed paper it would be inflation except for the fact that the increased gold deposits that support the paper have to come from somewhere. They come from depositers who no longer hold the gold. Thus, counting both the bank and the outsiders, there has been no increase in gold, and thus no inflation from an increase in bank gold and fully backed paper. If an outsider mines gold, this would be inflation, but a secondary inflation does not occur if he deposits it in a bank in exchange for a fully backed paper receipt.

Regards, Don

Nate Jillson June 1, 2009 at 12:33 pm

If the government keeps bailing out these buisnesses it is only going to lead to a ton of inflation…Barrack Obama is going to be the start of another depression in America. He is by far the worst president yet. The stuff that he does is socialist bourderline communist! Barrack Hussein Obama is a communist! If Obama stays in office it will be the end of America due to government spending!

DJF June 1, 2009 at 2:11 pm

Hatred of “speculators” must go back 2500 years. Seriously.
Complaints about “speculation” (as though it could ever be some kind of SOURCE of economic problems) always sound to me like a kind of witch-hunt hysteria. “”””

It depends on the speculators. If its truly free market then it a inaccurate complaint. But what about speculators who use their special access to government created dollars or who use their government provided contracts or insider knowledge. When Citi Bank or Goldman Sachs speculate using TARP money or using their special connections with the FED is that not speculation that does deserve hatred?

fundamentalist June 1, 2009 at 2:30 pm

Here’s some great quotes about our country in Russia’s Pravda:

“It must be said, that like the breaking of a great dam, the American decent into Marxism is happening with breath taking speed, against the back drop of a passive, hapless sheeple, excuse me dear reader, I meant people…”

“First, the population was dumbed down through a politicized and substandard education system based on pop culture, rather then the classics. …Then they turn around and lecture us about our rights and about our “democracy”. Pride blind the foolish.”

“Then their faith in God was destroyed, until their churches, all tens of thousands of different “branches and denominations” were for the most part little more then Sunday circuses and their televangelists and top protestant mega preachers were more then happy to sell out their souls and flocks to be on the “winning” side of one pseudo Marxist politician or another. Their flocks may complain, but when explained that they would be on the “winning” side, their flocks were ever so quick to reject Christ in hopes for earthly power. Even our Holy Orthodox churches are scandalously liberalized in America.”

“The final collapse has come with the election of Barack Obama. His speed in the past three months has been truly impressive. His spending and money printing has been a record setting, not just in America’s short history but in the world. If this keeps up for more then another year, and there is no sign that it will not, America at best will resemble the Wiemar Republic and at worst Zimbabwe.”

2nd Amendment June 1, 2009 at 3:03 pm

No, only more production of goods and services.

We don’t need more money, we need more products and services. We need increased productivity.

What inflation will die is kill the US economy and dwindle it down to third-world status.

New record high skyscrapers are being built in China, India and middle-east while tent cities are spreading like mushroom in the USA

Magnus June 1, 2009 at 3:46 pm

It depends on the speculators. If its truly free market then it a inaccurate complaint. But what about speculators who use their special access to government created dollars or who use their government provided contracts or insider knowledge. When Citi Bank or Goldman Sachs speculate using TARP money or using their special connections with the FED is that not speculation that does deserve hatred?

Not really, no. It’s important to identify the particular actions that are harmful.

The FED and the TARP programs deserve our hatred. Nothing they do is beneficial. They are indefensible.

But the speculation that follows the actions of the FED and the TARP bonanza is merely the effect, not the cause of those harms. That speculation is simply a situation where easy money is looking for an advantageous place to go.

I expect (and want) everyone to move their money to investments that are maximally advantageous. That pursuit of profit, when done on the basis of voluntarily trade, is beneficial to everyone in the economy.

The speculative investments that follow these geysers of credit is all voluntary. The people engaged in it are looking for the most advantageous place to put their investments, and they have shareholders and customers to answer to, and a fair amount of competition.

Therefore, the act of making speculative investments per se is not, in itself, wrongful. I do not object to the speculative investments themselves.

The wrongful behavior is (a) when these firms encourage and solicit the flow of easy credit, and (b) when the US government doles it out to them.

DJF June 1, 2009 at 4:41 pm

But the speculation that follows the actions of the FED and the TARP bonanza is merely the effect, not the cause of those harms. “””””””

But you forget who was in charge. Paulson was former CEO of Goldman Sachs and has spent his entire time at the Treasury funneling money and privilege to his company. GS had their man at the helm.

While the FED itself is nothing but a government sanctioned cartel owned and controlled by the very bankers who are supposedly being regulated. Timothy Geithner became President of the New York Federal Reserve Bank because the bankers voted him into that position and he delivered the TARP and other programs which has bailed them out and now is fueling their speculation..

So you can’t pretend that these “speculators” at Citi, GS and others simply had money dropped into their laps, they put their people into the positions of power and they arranged for the money to be delivered to them.

And if you don’t “object to the speculative investments themselves” with the money stolen from you by the government and given to the bankers to speculate do you also not object to the money stolen from you by the mugger and given to his brother to speculate on the next horse race? You have no problem with the brother knowingly using your money?

Magnus June 1, 2009 at 4:52 pm

But you forget who was in charge. Paulson was former CEO of Goldman Sachs and has spent his entire time at the Treasury funneling money and privilege to his company. GS had their man at the helm.

I have forgotten nothing.

I specifically said that the act of encouraging and soliciting “government” money and credit is wrongful and economically harmful, and that the government’s providing of that money and credit is wrongful and harmful.

However, the use of that money — the specific act of investment in things labeled as “speculation” — is not wrongful. In a realm of fiat credit, such investment is distorted and harmful, but the act of buying things with easy credit is not wrongful, even though the solicitation and issuance that easy credit is.

I draw this sharp distinction because there are people in this world who have a blood-lust for “speculators” and accuse them of the same kind of heinous (albeit vaguely defined) crimes as you might find in a witch-hunt or anti-Semitic pogrom.

I don’t have a problem with spending money so much as I object to the stealing of the money.

I fully realize that the issuance of FED and TARP money was engineered from the beginning for the express purpose of turning around and using it to artificially inflate the stock market. It’s a dirty, cynical conspiracy, right out in the open. But speculation, by itself, is not the problem. In fact, speculators perform several highly valuable economic functions that benefit us all, including those times when they profit as well as when they lose their shirts.

Anonymous June 1, 2009 at 7:46 pm

Dick Fox,

Shostak and Mises have the same definition of inflation. Mises:

“What people today call inflation is not inflation, i.e., the increase in the quantity of money and money substitutes, but the general rise in commodity prices and wage rates which is the inevitable consequence of inflation” (Planning For Freedom, pg. 79).

How is this any different from Shostak’s definition? Moreover, Rothbard defined inflation the same way:

“Inflation may be defined as any increase in the economy’s supply of money not consisting of an increase in the stock of the money metal” (What Has Government Done to Our Money, pg. 55).

Shostak isn’t a monetarist. He is a first class Misesian.

newson June 1, 2009 at 9:11 pm

dick fox is a closet reflationist. mises sums up favorably the deflationary frb bust (“on the manipulation of money and credit” (p149) -

“7. Intervention No Remedy
It may well be asked whether the damage inflicted by misguiding entrepreneurial activity by artificially lowering the loan rate would be greater if the crisis were permitted to run its course. Certainly many saved by the intervention would be sacrificed in the panic, but if such enterprises were permitted to fail, others would prosper. Still the total loss brought about by the “boom” (which the crisis did not produce, but only made evident) is largely due to the fact that factors of production were expended for fixed investments which, in the light of economic conditions, were not the most urgent. As a result, these factors of production are now lacking for more urgent uses. If intervention prevents the transfer of goods from the hands of imprudent entrepreneurs to those who would now take over because they have evidenced better foresight, this imbalance becomes neither less significant nor less perceptibleIn any event, the practice of intervening for the benefit of banks, rendered insolvent by the crisis, and of the customers of these banks, has resulted in suspending the market forces which could serve to prevent a return of the expansion, in the form of a new boom, and the crisis which inevitably follows. If the banks emerge from the crisis unscathed, or only slightly weakened, what remains to restrain them from embarking once more on an attempt to reduce artificially the interest rate on loans and expand circulation credit? If the crisis were ruthlessly permitted to run its course, bringing about the destruction of enterprises which were unable to meet their obligations, then all entrepreneurs-not only banks but also other businessmen-would exhibit more caution in granting and using credit in the future. Instead, public opinion approves of giving assistance in the crisis. Then, no sooner is the worst over, than the banks are spurred on to a new expansion of circulation credit.”

newson June 1, 2009 at 9:15 pm

“Inflation, as the term was always used everywhere and especially in this country, means increasing the quantity of money and bank notes in circulation and the quantity of bank deposits subject to check…But people today use the term ‘inflation’ to refer to the phenomenon that is an inevitable consequence of inflation, that is the tendency of all prices and wage rates to rise.”

(Economic Freedom and Intervention: An Anthology of Articles and Essays by Ludwig von Mises, 1990, p 99.)

mises is not just TMC!

Don Lloyd June 1, 2009 at 9:45 pm

“Inflation may be defined as any increase in the economy’s supply of money not consisting of an increase in the stock of the money metal” (What Has Government Done to Our Money, pg. 55).

Again, this definition of inflation is not quite compatible with Mises or ‘any increase in the supply of money’, period. It is accurate for bank-induced deflation, but does not properly include an increase in mined gold, for example.

Regards, Don

george smith June 1, 2009 at 10:27 pm

Classic Mises lesson: only ever increasing inflation can keep the unsustainable boom going….

I don’t see how ever increasing inflation can keep the boom going. People are going to be making long term decisions based on incorrect information (“there will be enough xxx for my plans”) and will later find out that there isn’t.

No matter how much money is printed there won’t be more real resources..

Actually printing more should make the boom end sooner, as more incorrect decisions based on non-existant resources will be made…

Jonathan Finegold Catalán June 2, 2009 at 12:35 am

George Smith,

The recession can be postponed if credit is expanded at unanticipated rates, and therefore must be expanded at ever increasing rates. This, however, cannot be infinite. Mises doesn’t suggest the boom can be going indefinitely; only that it can be postponed for an arbitrary amount of time.

This inflation brings about three possibilities:

1. Credit expansion either stops or slows, due to fears of inflation.

2. Credit expansion is maintained at the same rate of growth (it has to be continuously growing, otherwise).

3. Hyperinflation

However, it will not make the boom end sooner. It will make it last longer, and will inevitably also make the recession much worse (due to, as you mentioned, the increased amount of errors made collectively). You can think of it as subsidizing the poor investments, to postpone their liquidation.

Dick Fox June 2, 2009 at 8:17 am

Rothbard did Austrian economics serious harm by shifting away from the Misean supply and demand formulation of the quality of money to a Fisher-Friedman quantity theory of money. Mises states clearly that he does not agree with a strict quantity theory of money. Shostak perpetuates the QTM error.

When you ignore the demand for money by defining inflation only as an increase in the money supply you fall into making bad policy recommendations, such as reducing the money supply under the assumption that deflation corrects inflation (once again refer to Mises on this fallacy).

Shostak is correct when he points out the failure of Mankiw and Rogoff to recognize that you can have inflation even if prices are constant, but he makes a similar mistake by not recognizing that you can also have inflation when the money supply is constant.

Both Rothbard and Shostak ignore the problems of deflation, an issue Mises addresses directly. When we were on a gold standard, deflation was never a concern because reductions in the gold supply virtually never happened. With floating currencies we are in a different world. Deflation can have a real and serious impact on production. This is a world Shostak does not understand because he is locked into the QTM.

Many here jump on me accusing me of being an inflationist but you are thick-headed and wrong if you do not ponder what I am writing. It is wrong – totally wrong – to define inflation and deflation by the quantity of money. Inflation and deflation can only be defined by the quality of money. This is the mistake both Rothbard and Shostak make. If you do not grasp that difference you are living in a pre-Misean QTM world.

Another problem that I have not mentioned is that Shostak also runs into problems both defining money and measuring it. He wrote an 8 page paper attempting to define money and it totally came down on personal opinion with no real praxeological case made. But even if he could define money he could not with any precision determine its supply from moment to moment and without being able to determine the supply a QTM model is useless. Shostak in the final analysis uses government statistics to come up with his educated guess of money supply.

Bottom line is that the Rothbard-Shostak approach to monetary policy leads Austrians down the wrong path. Dig deeper into Mises and you will begin to understand inflation/deflation in a floating currency world.

J.R. June 2, 2009 at 8:44 am

Hi Dick Fox,

Perhaps it might be worthwhile to recognize that Mises, Rothbard, Senholtz, de Soto, Reisman and Hayek all had varying definitions of deflation, and varying perspectives on the consequences of it.

Here is a QJAE article by Phillip Bagus that explores these perspectives and concludes Rothbard’s take on defaltion is the gold standard by which other Austrians are viewed. Perhaps to your surprise, Mises’ deflationary theories were not well developed, and TMC was first written


Here is Dr. Hulsmann’s short book “Deflation and Liberty,” in which Dr. Hulsmann adopts the definition of inflation set our in MES on page 851 by Rothbard but more importantly develops a well thought out Austrian analysis of deflation.



It may be worthwhile to re-read Chapter 23 of The Theory of Money and Credit to understand Mises point, which is that to convert from a fiat currency, one must 1) stop printing more money and and then 2) create and maintain unconditional convertibility for the currency, i.e. back it up with more than paper and promises.


In your selected excerpt from Chapter 23 TMC, Mises is talking about how to set the exchange rate when Ruritania moves from FIAT money to a stable, non-inflating currency while other countries still inflate – you can’t exchange currency to currency with a float, because one is fixed and the others are growing. You need to back the new currency with convertibility into something else, like gold.


Finally, on page 219 of TMC in this version (http://mises.org/books/tmc.pdf), Mises wrote in German in 1912 that:

“Inflationism is that monetary policy that seeks to increase the quantity of money.”

Looks a whole lot like Shostak’s:

“What we are saying is that inflation is the increase in the money supply.”

Dick Fox June 2, 2009 at 10:20 am


Thanks for a rational response.

I do realize that many Austrians have different views of monetary policy. That is why I posted what I did. Most in the Rothbard wing, Shostak and Hulsmann especially (Hulsmann going so far in his book as to praise deflation!!) follow a QTM model.

I also understand that Mises did not have a fully developed theory of deflation in the Theory of Money and Credit, but his principles are sound because he does understand the relationship between the demand and supply of money.

You seem to assume that I support a fiat monetary system, but I do not. I support a gold price stability system. What this means is that either the currency is defined as a specific quantity of gold or gold is held to a specific price in terms of the currency. This will hold the quality of money stable while allowing relative prices to adjust to one another around this anchor. Such a system takes into account both the supply and demand for money because the supply of money and money substitutes will expand or contract as monetary demand is reflected in gold.

Mises’ statement, “Inflationism is that monetary policy that seeks to increase the quantity of money” is speaking of a philosophy, inflationism and inflationist (money cranks). Later he speaks of deflationism and deflationists. I totally agree with Mises that the objective exchange value of money is what is critical. Both inflationism (Krugman) and deflationism (Hulsmann) alter the objective exchange value of money and so reduce its use value. What is critical is the objective exchange value of money, its quality.

Note this statement by Mises in The Theory of Money and Credit Chapter 13 Section 5

Thus, endeavors to increase or decrease the objective exchange value of money prove impracticable. A rise in the value of money leads to consequences which as a rule seem to be desired by only a small section of the community; a policy with this aim is contrary to interests which are too great for it to be able to hold its own against them in the long run. The kinds of intervention which aim at decreasing the value of money seem more popular; but their goal can be more easily and more satisfactorily reached in other ways, while their execution meets with quite insuperable difficulties.

Thus nothing remains but to reject both the augmentation and the diminution of the objective exchange value of money. This suggests the ideal of a money with an invariable exchange value, so far as the monetary influences on its value are concerned. But, this is the ideal money of enlightened statesmen and economists, not that of the multitude. The latter thinks in far too confused a manner to be able to grasp the problems here involved. (It must be confessed that they are the most difficult in economics.) For most people (so far as they do not incline to inflationistic ideas), that money seems to be the best whose objective exchange value is not subject to any variation at all, whether originating on the monetary side or on the commodity side.

Shostak’s statement, “What we are saying is that inflation is the increase in the money supply” actually refers to the quality of money being dependent on only the money supply. He even puts IS in italics. This is directly from the Fisher-Friedman school of monetary policy. You seem to be very familiar with The Theory of Money and Credit so you know that Mises wrote much on the interaction of both the supply and demand for money never claiming the objective exchange value of money was determined by supply alone.

newson June 2, 2009 at 10:56 am

dick fox says:
“I totally agree with Mises that the objective exchange value of money is what is critical.

…and yet your very scheme fails by this same measure. your currency, tied to a fixed quantity of gold, is still going to be a matter of subjective valuation, ie the summation of the individual demand for non-monetary uses for gold will be weighed against the summation of demands for monetary gold. this is not to mention the variations in gold supply.

nobody except you seems to doubt that demand for money also plays a role in masking or unmasking the latent effects of a growth in money supply, but it is a completely unknown and unknowable factor. supply, notwithstanding definitional disagreements and government statistics, is a more tractable entity, hence the attention given to it by shostak.

in any case, these days supply effects swamp the demand effects by virtue of the very ease of printing up new dollar bills.

your deflation-phobia leads you down a very interventionist route. if the inflation has already occurred, then deflation is purely an unwinding of the unsustainable. if you’re against a market-driven deflation following a boom, then you’re implicitly for reflationism, or prolongation ot the bubble.

Dick Fox June 2, 2009 at 1:25 pm


You are confused.

When you establish a parity between gold and the currency you actually have something that can be seen precisely. For example if the parity is established such that 1 oz of gold = $500 you can see this relationship precisely on the gold exchange markets. If you think you can determine the money supply with this precision you are seriously deluding yourself.

If you are using the price of gold as your indicator you do not need to determine either a measure of supply or a measure of demand. They are both reflected in a change in the price of gold and you can use various methods such as increasing or decreasing the supply of money to maintain the quality of the monetary unit. This system was used by Great Britain for almost 200 years with no significant fluctuation in the quality of the pound, before they shifted to attempting to manage the economy by the money supply after WWI.

By suggesting deflation as a necessary condition, or cure, after an inflation you would compound the monetary problems by heaping on deflationary errors. Once again let me quote Mises.

When the value of money is increased, then those are enriched who at the time possess credit money or claims to credit money. Their enrichment must be paid for by debtors, among them the state (that is, the taxpayers). Yet those who are enriched by the increase in the value of money are not the same as those who were injured by the depreciation of money in the course of the inflation; and those who must bear the cost of the policy of raising the value of money are not the same as those who benefited by its depreciation. To carry out a deflationary policy is not to do away with the consequences of inflation. You cannot make good an old breach of the law by committing a new one. And as far as debtors are concerned, restriction is a breach of the law.

I have a deflation phobia to the same extent as I have an inflation phobia because both create economic problems; either poisons the exchange between traders giving a windfall profit to either the debtor or the creditor. Hopefully you are seeing that both inflation and deflation are a problem and to wish for either is an economic mistake.

My call is for a free market in money because for 3,000 years the monetary market has chosen a commodity price model primarily gold, not a money supply model or an interest rate model.

newson June 2, 2009 at 11:17 pm

to dick fox:
now let me pick out your errors sistematically. first, my words were “market-driven deflation”, so mises’ “deflationary policy” don’t apply. fractional reserve banking always gives rise to inflation (bad), and clusters of errors. when these system-wide errors are discovered, deflation results (a shrinkage of the money supply as bank balance sheets collapse under the weight of sinking asset prices). this deflationary phase is not a programmed policy outcome, but the necessary reversion to monetary order. (only in cases like russia, post-ussr and in argentina, post peso-crisis, were deliberate, state-sponsored deflationary policies adopted, and we’re all against government stealing money in this manner).

second, turning to your example of a currency defined by a certain weight of gold (which i support, though i believe your logic to be confused) – the desire for some objective measure of value is a chimera. sure we can make one dollar equivalent to $500 (this is just a definition) but the value (in terms of purchasing power) will be a function of the sum of monetary demand and non-monetary demand for gold, against the supply of new gold from mining and transformation of industrial gold back into monetary gold (ie. jewelry remelted for bullion,etc.)

now in your ideal pure gold currency world, there will still be a demand for money supply information, as new mining implies a small annual growth in money supply. industrial consumption of gold is also obtainable and would also be useful in gauging purchasing power. businessmen will attempt to estimate this information from mining companies and gold refiners (it’s already available), as inflation (even moderate) will affect their pricing schedules.

so you see, even in a pure specie model, money supply will still be calculated, even though the changes are going to be incremental. in the specie monetary regime, deflation could only result (as salerno pointed out in the horwitz and white blog) if there were a sudden increase in non-monetary demand for gold (maybe gold cures cancer?). this would have a one-off deflationary impact, after which a new equilibrium would be restored.

finally, mises’ states the obvious that when the cycle flips from inflation to deflation, one party benefits to the other’s expense, but that could just as correctly be the case for oil going from $28 to $155 and back to $28.

scott t June 3, 2009 at 1:36 am

would market driven deflation be when a bank would say that whatever ‘fiduciary media’ portion of a depositors balance is erased….so in the case of a 10 percent reserve ratio….all a depositor would have would truly be ten percent of the money they deposited?

when a cluster of errors occurs what deflates? do dollar bills disappear?

“…the desire for some objective measure of value is a chimera. ”

a fifth of bourbon ( or what have you) has value (for drinkers)….the fifth is an objective measure, right?

with the word fifth or 750ml being a definition.

newson June 3, 2009 at 2:51 am

to scott t,
in a crisis, loans are repaid and not renewed. every time this occurs the money supply shrinks. this has nothing to do with paper bills, which represent but a small proportion of money (the vast bulk consists of current accounts).

as for your bourbon, yes, the measure (750ml) is objective, but the value is subjective. you value bourbon highly, i don’t, who’s right?

Dick Fox June 3, 2009 at 8:00 am


I am happy that you are actually thinking but you are still parroting Rothbardian Austrian ideas, and amusingly arguing against Mises.

This is another discussion but contrary to claims by many modern Austrians fractional reserve banking DOES NOT “always gives rise to inflation.” Two points, First, FRB does not require the issue of currency greater than reserves, it only allows it. Second, FRB reaches a point where additional issues of currency will bring down the bank. For the record I favor free banking that by definition would include FRB as long as there is full disclosure and no liability to anyone other than depositors. The decision to invest in FRB should be up to the depositor not some regulator.

Mises does address your “market-driven deflation” idea. His example of Ruratania talks first about ending the printing of currency allowing the currency to settle into a value range depending on the current supply. Then he would set the parity of the currency to gold at that level. The Rothbardian concept assumes that the currency must deflate, to return to its original supply. This actually forces deflation on the economy and compounds the inflationary errors with deflationary errors.

The rest of your post still talks about money valued by supply. You are attempting to force a price model into a supply regime. You still appeal to government statistics and measurements of money supply that are simply best guesses with a political bias. The price model does not at all worry about the money supply. The money supply will take care of itself. Similarly the price model does not worry about money demand because demand will take care of itself. The price model simply holds the price of a currency stable against gold. You could use another commodity if you wanted but for over 3,000 years gold has proven to be the best so I will stick with it.

For example let’s say that the parity established by Mises method is $900 per oz gold. Under a system with a central bank, when the market price begins to increase we know that either the supply or the demand for money has changed, we don’t care which is causing the value of the currency to change we simply note the change in the market price which we can know precisely. The CB would use open market transactions to decrease the money supply to return the POG to our parity (see Mises). Likewise, if the POG began to decline we would know precisely that the money supply or the demand has caused a change in the other direction and we would add to the money supply to return the POG to parity. The prices of all goods and services would be allowed to fluctuate around this parity so that relative prices would be allowed to change as goods supply and demand changes.

The system would be even better under a free banking system. Once again the monetary authorities would transition by using the Mises method to determine parity, let us say one dollar would equal 1/900 of an ounce of gold. Banks would then be allowed to issue their own currency based on this definition of the dollar. The banks would be required to redeem dollars for gold on demand. If they can not service their customers they go out of business just like any business that fails and the investors (depositors) take the loss. At this point the monetary authorities would have no function in the system.

But we are far from our discussion of inflation and deflation. I simply encourage you to not accept even ideas that claim to be Austrian at face value. Be a skeptic. But I would approach questioning Mises with fear and trembling. He was brilliant.

Hal June 3, 2009 at 9:48 am

The short term I think will see some boost and happiness from these attempts. It’s like giving a shot of morphine to mortally wounded patient. The problem is the patient is mortally wounded.

newson June 4, 2009 at 3:13 am

to dick fox:
first, i’m not into blindly accepting anyone’s theorizing unless it first makes sense to me. so whilst i’m respectful of both mises and rothbard, i’m not a disciple, i have to be able to accept their reasoning on merit.

second, you seem to have missed my point on gold. you’ve only retreated to the “gold has worked for 3000 years, therefore that’s all we need to know” position. gold (and silver) has indeed worked well, but you seem to be at a loss at to why that may be. it was chosen, apart from the usual physical criteria of divisability, durability, and aesthetic appeal, precisely because it’s annual supply was small relative to stocks. aluminium used to be prized because of its rareness, and was used in coins, but the change in supply dynamics saw it lose all monetary appeal. gold is no less immune from supply-side analysis, and this is indeed what happened after the spanish discovered the new world, and new gold flooded back to spain. the inflation was taken into account by merchants, and there’s no reason why the same wouldn’t happen today, were we in a gold specie monetary regime. i don’t know why you’re introducing the central bank into the scenario, in a pure gold monetary regime there could be no possible need for one.

mises formal theorizing on deflation was quite brief, and in my opinion, flawed. i’m not a fan of his free-banking proposal either, both on utilitarian and ethical grounds. the statement that frb doesn’t necessarily imply inflation (if frb banks choose to be 100% reserve banks) is true but inconsequential. the only point of free-banking is to be able to lend out some of depositors’ money in order to bolster earnings. an frb bank that didn’t compete with its competitors (ie by lending in similar proportions to them) would soon be out of business.

finally, you may care to note that several errors present in tmc were tacitly acknowledged by mises (not featuring in ha). please have a read of gertchev’s paper evidencing ha as the more mature and sound work. you will also observe how mises’ attitude towards frb hardened from tmc to ha.

Dick Fox June 4, 2009 at 1:47 pm


You don’t understand. You could use any commodity to establish a standard for money, this has been done throughout history. But each would have a different level of validity because of the qualities of the commodity. For this reason gold is the best commodity.

You have to understand that the supply of the commodity doesn’t matter because you are using a price rule to maintain money quality. You are so locked into the QTM that you confuse the price model.

Certainly if the commodity chosen were as common as water it would be much less useful in a price model and your assertion that gold might at some time in the future be invalid because of this. This is the same argument Keynes used when he said, “In the long run we are all dead.” Of course if gold was something other than what it is it would not function as well as a monetary commodity, but it is what it is and that is why it is the best monetary commodity.

If you believe that Mises theorizing on deflation was flawed I can understand better why you miss his points.

Finally, I do not see any variance between The Theory of Money and Credit with Human Action. The link you provided was an interesting opinion piece but does not at all support the position that the two are different.

As an aside, I responded to FRB because you mentioned it.

newson June 4, 2009 at 11:30 pm

dick fox:
what can i say, the mises i read says something different to me than to you, evidently:

“But the older critics failed in their attempts to explode the errors inherent in the
quantity theory and to substitute a more satisfactory theory for it. They did
not fight what was wrong in the quantity theory; they attacked, on the
contrary, its nucleus of truth. They were intent upon denying that there is a
causal relation between the movements of prices and those of the quantity
of money.”

mises, human action p,405; the bold-face is mine.

keynes’ pithy line was to justify interventionism over laissez-faire; it has no relevance to my imaginary scenario of what would happen if gold’s supply were to change dramatically in a pure specie regime.

“quality” (?) of money can be no more than your opinion versus someone else’s. that gold has been chosen in the past eras as a money (acknowledged) still begs a theoretical explanation, not just a description.

finally, did you actually read the gertchev article? it makes some fairly robust criticisms of tmc, and shows how human action avoided the same pitfalls.

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