While (re-)reading one of the chapters of Mises’s Theory of Money and Credit, I noted my underlining of the very clearly formulated definitions on page 240. Mises defines inflation as:
an increase in the quantity of money (in the broader sense of the term, so as to include fiduciary media as well), that is not offset by a corresponding increase in the need for money (again in the broader sense of the term), so that a fall in the objective exchange-value of money must occur.
Austrians commonly refer to only the first part of this definition – the increase in the quantity of money – without the specifying statement that inflation is only that part which is not offset by an increased demand for money (which, indirectly, seems to suggest a “soft dismissal” of monetarism rather than the hard line that would otherwise follow).
The same seems to be true for Mises’s definition of deflation:
a diminution of the quantity of money (in the broader sense) which is not offset by a corresponding diminution of the demand for money (in the broader sense), so that an increase in the objective exchange-value of money must occur.
Now, it would not be fair to say that these definitions as formulated by Mises back in 1912 in any sense were final. And it is far from impossible that Austrian thinkers before and since then have used idiosyncratic and different variations of these definitions, but presumably with a common core of their meaning.
But what definitions are there? I am interested in finding out what other definitions of inflation and deflation are available in Austrian works. Please post the definitions you are aware of in the comments section (direct quotes with page references, please).
{ 46 comments }
Rothbard in Man, Economy, and State (p 990):
“The process of issuing money beyond any increase in the stock of specie, may be called inflation. A contraction in the money supply outstanding over any period (aside from a possible net decrease in specie) may be called deflation.”
Rothbard also says that inflation is not offset by an increase in the social demand for money; even in such an environment he says that inflation — increased money supply — leads to business cycles. See pages 1021-22.
Rothbard’s definition:
From p. 990 Man, Economy, and State with Power and Market
The process of issuing pseudo issuing
warehouse receipts or, more exactly, the process of issuing money
beyond any increase in the stock of specie, may be called inflation.106
A contraction in the money supply outstanding over any period
(aside from a possible net decrease in specie) may be called
deflation. Clearly, inflation is the primary event and the primary
purpose of monetary intervention. There can be no deflation
without an inflation having occurred in some previous period of
time. A priori, almost all intervention will be inflationary. For
not only must all monetary intervention begin with inflation; the
great gain to be derived from inflation comes from the issuer’s
putting new money into circulation. The profit is practically
costless, because, while all other people must either sell goods
and services and buy or mine gold, the government or the
commercial banks are literally creating money out of thin air.
They do not have to buy it. Any profit from the use of this magical
money is clear gain to the issuers.
As happens when new specie enters the market, the issue of
“uncovered” money-substitutes also has a diffusion effect: the
first receivers of the new money gain the most, the next gain
slightly less, etc., until the midpoint is reached, and then each
receiver loses more and more as he waits for the new money.
For the first individuals’ selling prices soar while buying prices
remain almost the same; but later, buying prices have risen
while selling prices remain unchanged. A crucial circumstance,
Note:
106Inflation, in this work, is explicitly defined to exclude increases in
the stock of specie. While these increases have such similar effects as raising
the prices of goods, they also differ sharply in other effects: (a) simple
increases in specie do not constitute an intervention in the free market,
penalizing one group and subsidizing another; and (b) they do not
lead to the processes of the business cycle.
Does anyone know what happened to Robert Murphy’s blog?
A terrorist attack by Al – Krugmaneda
He tried to pay for the hosting with gold.
ROFL
It’s in the chowder.
I still want to know what happened to Jeff Tucker and SM Olivia. Apologies to Per Bylund for the little threadjack here…
Jeff Tucker is working over at http://www.whiskeyandgunpowder.com He as three or four articles up over there right now.
Mises’ definition of inflation assumes the correctness of the quantity theory, so if you believe that a 10% increase in the money supply will cause a (roughly) 10% rise in the price level, then his definition makes sense. But if you believe that when a bank issues 10% more money, the bank normally gets 10% more assets in exchange, then you would see that the rise in the money supply leaves the price level unaffected, and Mises’ definition makes no sense.
“But if you believe that when a bank issues 10% more money, the bank normally gets 10% more assets in exchange”
When a counterfeiter issues 10% more counterfeit notes I bet they can also “normally” get 10% more assets in exchange. So what?
Don’t feed the trolls.
Mike,
You are misreading Mises. He specifically spends time refuting the Quantity Theory of Money in The Theory of Money and Credit. Mises is absolutely correct in his definitions though he rejected the use of inflation and deflation because the definitions of the words had/has become so corrupted.
You will not find anywhere that Mises says that a 10% increase in money will cause a 10% increase in prices. An honest reading of what he wrote states something totally different exactly what Per Bylund wrote. If you do not take into account both the supply and demand for money you cannot understand monetary policy. This is what Mises is saying.
Dick,
Would it also be correct to take Hayekian triangles into account? I should imagine that a 10% increase in the money supply isn’t going to result in an immediate 10% rise in prices (or even an immediate whatever-percent) since the money isn’t distributed evenly.
Dick,
Mises does not refute the quantity theory of money. What he refutes is the mechanistic quantity theory of money that fails to take into account the fact that money is not neutral and affects different aspects of the economy at different times.
Thanks Jonathan. My response was lazy to make my point about 10% for 10%. You are correct.
Misunderstanding of money starts with failing to account for assets and liabilities. When paper money is issued, it is the issuer’s liability, and is backed by the issuer’s assets.
A counterfeiter does not put his name on the money he issues, and so does not stand ready to use his assets to back his money.
And which bank currently does so?
Any bank that has ever conducted an open market sale of any of its assets in exchange for its own currency has done so. And any bank that has ever accepted a loan repayment .
So any bank that has ever sold its assets for money magically made up by the Treasury/other central banks has asset-backed currency. OK.
I am talking about banks that use their assets to buy back THEIR OWN money. So when the treasury or central bank use THEIR ASSETS to buy back money that THEY ISSUED, they are using their assets to back their money. (Nothing magical about central bank/treasury money either, by the way.)
Mike: When the bank issues a loan, the proceeds enter circulation as money that did not exist before. This new money competes with previously-existing money for scarce goods driving the price up — despite the bank’s balance sheet.
Now, some people like to claim that since loans are “self-extinguishing”, the money eventually disappears and, ipso facto, no harm has been done to the money supply. But the money was spent and the damage is done. That the loan has now disappeared means nothing to the price level which has been forced up.
The assets you speak of have not been removed from production, the bank merely has a claim on them should the loan fail.
Craig:
Suppose a bank receives 100 oz of silver on deposit, for which it issues 100 paper receipts that it calls dollars. Then a farmer asks for a loan of $200, and offers his farm as collateral. The farmer’s IOU must be worth at least 200 oz, or the banker would not lend to him. The loan created $200 that did not exist before. It might have tripled the money supply.
Before the loan, 1 loaf of bread could be bought for 1 oz., or for $1. After the loan has been made, your logic implies that the loaf would cost $3, although if bought with silver, the loaf would cost just 1 oz. This implies that out in the market, 1 oz trades for $3. But this can’t be. Down at the bank, each dollar can be redeemed for 1 oz. So if the dollar traded for less than 1 oz in the market, everyone would bring their dollars back to the bank to be redeemed for 1 oz.
One might think that the bank is unable to buy back all $300 at 1 oz. each, but remember that the IOU is worth 200 oz, and can be sold for 200 oz. The bank would then have 300 oz. backing $300, so each dollar must remain at 1 oz. each. Even if the banker could not get 200 oz of silver on short notice, the banker could still take his 200 oz. IOU out on the sidewalk and offer it for sale in exchange for 200 of his own dollars. After this sale, the bank would have 100 oz. of silver backing $100 in circulation, and each dollar must be worth 1 oz.
We have to ask why the $200 was issued in the first place. It would only be because the town needed more money in circulation. So the issuance of new money, adequately backed by new bank assets, does not lead to depreciation of existing money.
Mike,
You are correct. I am surprised you wrote what you did about Mises and the QTM.
But we must not confuse assets with raw materials. Human inventiveness can increase the value of assets and therefore demand for money can increase. It is not as simple as a balance sheet analysis of assets and liabilities (or gaining value).
But I understand the principle that you are relating. In principle the money supply, the asset, must equal the demand, liabilities, or money is degraded losing value.
Dick:
The money is the issuing bank’s liability, and it is backed by the bank’s assets. As you pointed out, a change in the value of the bank’s assets can lead to a change in the value of the money isued by that bank.
I don’t know what surprised you about what I said about Mises and the QT.
One of Rothbard’s most serious errors was that he did not take the demand for money into account in his definition of inflation/deflation.
Neither Rothbard nor Mises adequately addressed time dimension of the demand for money, though that’s not what’s being discussed here. Hülsmann fills this lacuna Property, Freedom, and Society: Essays in Honor of Hans-Hermann Hoppe, Chapter 31.
It should be remembered that Mises qualified his 1912 definition of inflation by warning that it was imprecise. He subsequently made an important refinement to his definition of inflation in Human Action (chapter 17, section 6). Precisely because Monetarist ideas concerning monetary neutrality and price stability are spurious, Mises concluded that the more traditional usage of the term “inflation” does not involve a praxeological category at all, but rather expresses a political value judgment that would be of more interest to a historian than to an economic theorist. Accordingly, he redefined “inflation” in Human Action to mean a cash-induced decrease in purchasing power that is too big according to someone’s personal evaluation. Another person may well consider the identical historical situation as being stable or even as being deflationary.
Mises also observed in this section of Human Action that a semantic shift was taking place, where this definition of inflation was being replaced in common usage by a yet broader definition that allowed for any decrease in purchasing power, whether cash-induced or not. Mises finds this semantic change highly objectionable because it shifts attention from the process of money creation (the actual source of a great many ills) to the manipulation of price levels (reflecting the stabilizationist concerns of Monetarist theory). It is important to realize though that this particular criticism of the newer usage is not an affirmation of the praxeological character of the older usage.
Still later, after the publication of Human Action, Mises began to use the word “inflation” to mean simply any increase in the total stock of money and money substitutes irrespective of its impact on the array of prices, which neatly sidesteps the problem of the subjectivity of money’s purchasing power and keeps the focus squarely on the money creation process. You can find an example of this definition in a collection of his essays, Economic Freedom and Intervention:
“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.”
Perhaps Rothbard, not being as careful as Mises, felt ceteris paribus was understood.
“Inflation is an extension of the nominal quantity of any
medium of exchange beyond the quantity that would have
been produced on the free market. Since the expression “free
market” is shorthand for the somewhat long-winded “social
cooperation conditioned by the respect of private property
rights,” the meaning of inflation is that it extends the nominal
money supply through a violation of property rights. In this
sense, inflation can also be called a forcible way of increasing
the money supply, as distinct from the “natural” production of
money through mining and minting.”
Hülsmann, The Ethics of Money Production, p. 86.
This one is good.
Hey all, over at the Real World Economics Review blog, a left-wing economist has recently taken up von Mises’ writing on inflation. He does not have many good things to say in this regard. Any thoughts from the von Mises camp?
I responded over there for fun, but it seems like he’s just making a strawman of Mises argument, not understanding that Mises agrees with him on the artificial stimulation, but not understanding that there is an indefinite time component to when crisis will occur, and also that crisis are not necessarily detectable.
I’m sure someone else could write a better reply, but his argument is poor. I wouldn’t be half-surprised to see him declare my post as an example of “ideological purity” due to the fact I am trying to “give Mises a way out” with the indefinite time component.
But this is not because we are “giving ourselves a way out” so much as Austrians don’t believe the economy is predictable to the degree necessary to predict timing. It’s also not as though all of the increases in the base money supply have gone into the broader economy, although that has picked up a bit over the past few months. If I recall correctly Bob Murphy has some charts on his blog showing this.
I think the main confusion results from the fact that there is more than one type of inflation:
Monetary Inflation
1. Base Inflation – An increase in the monetary base
2. Fiduciary Inflation – An increase in fiduciary media
Price Inflation
1. Supply-Driven Price Inflation – A decrease in the objective exchange-value of money as a result of an increase in the money supply (i.e. base and/or fiduciary inflation)
2. Demand-Driven Price Inflation – A decrease in the objective exchange-value of money as a result of a decrease in the demand for money
Attempts to crown one of the above types as the “official” definition of inflation while ignoring the other three will only prolong the controversy.
Austrians would agree with that. Individuals who do not want to admit money supply increases can cause prices to rise will not.
I’ve heard some Austrians complain that the MSM incorrectly characterizes inflation as a price phenomenon. These Austrians claim that “real” inflation is in fact a monetary phenomenon, but I think that is the wrong argument to make. They should criticize the MSM, not for peddling a false definition of inflation, but for focusing on one type of inflation while ignoring the other.
It’s the wrong definition in that it focuses on the wrong problem. Price rises are symptomatic of an underlying issue. But it’s useful shorthand. The thing that Austrians need to combat is the re-definition of inflation to solely mean price inflation, i.e. the symptom.
“The thing that Austrians need to combat is the re-definition of inflation to solely mean price inflation, i.e. the symptom.”
Agreed, and I think the best way to do so is to consistently emphasize that there are two main types of inflation – monetary and price – with monetary inflation being the primary cause of price inflation.
This would keep things conceptually clear in people’s minds and avoid the confusion that results from the “your definition of inflation is wrong” debate. Honestly, if Austrians can’t figure out exactly what inflation is, then how do they expect the general public to?
“The importance of this report is simply that it debunks, or helps to at any rate, the notion that expansionary monetary policy deployed to get the economy going will inevitably feed into inflation. ”
Is he stupid? He takes a short term report as indicative that inflation is not a problem? How is it even measuring price increases against consistent rises in the price level hitherto? Regarding energy prices, if they are decreasing it is very possible it is because countries like China are big energy consumers and are putting the break on their own inflationary policies. Historically speaking, the CPI is still pretty high and above the target of 2%.
“This is a view held by many right wing analysts, and has no substance or foundation, but exerts a tenacious hold on their thinking.”
Pure ipse dixit. Why should increases in the money supply, ceteris paribus, NOT increase the price level, with more money chasing an equal amount of goods? The fact that there is not yet sufficient monetary expansion (as most bank reserves have not yet seeped into the economy) to lead to a sustained US rise in price inflation does nothing to disprove the view that more money chasing the same/fewer goods will lead to an increase in their price across the board.
” It has it modern roots in the writings of von Mises, and still occupies a leading role in right wing economic policy thinking even though such right leaning luminaries as Milton Friedman considered the idea daft.”
Appeal to authority. Not an argument.
” If you recall we were treated to an outburst of terrifying warnings of imminent hyperinflation this summer when commodity prices drove the CPI up temporarily.”
Based on the fact that base money has expanded beyond all proportions historically to insane degrees. Some Austrians like Schiff might exaggerate but it doesn’t mean that in the longer term inflation of credit will not pose a problem. I mean the banks have trillions that they are ready to lend. How will this not lead to severe price inflation? Is this guy living in some la-la-land?
” The cause of those warnings was the right winger’s view that recent Fed actions such as QE1 and QE2 could only create inflation and not help the economy.”
” In von Mises words:
“Attempts to carry out economic reforms from the monetary side can never amount to anything but an artificial stimulation of economic activity by an expansion of the circulation, and this, as must constantly be emphasized, must necessarily lead to crisis and depression” ”
I don’t see Mises giving a precise date. I don’t see him saying one off credit expansions will lead to a crisis. What was 2007 – 8 if not a crisis, by the way? Mises argued that governments can continue papering over crises pushing it further back, up to the point where they have no one else to peddle their debt to. He did argue that credit expansion will distort the economy by fostering malinvestments. This will lead to a correction, or if governments continue pushing it back by papering over it, eventual hyperinflation. The issue is because thus far the monetary unit is debt-based, a ready supply of useful idiots to buy the US’s debt has kept it relatively cheap. This is not so anymore, however.
“There’s not much wiggle room in those words. The analysis is definitive: tinkering with the money supply necessarily leads to crisis and depression.”
Crisis? Certainly. We -are- in one. He is switching concepts here. He is arguing that monetary expansion does not lead to inflation (probably price inflation.) That depends on whether the money supply actually is or has increased, e.g. if banks actually are putting to use the vast reserves of credit they have so far. It’s easy for him to focus on isolated reports like these and ignore the fact that price inflation is posing an issue elsewhere globally, like China, the UK, several Eurozone countries etc. Both deflationists and inflationists are agreed that in the long-term there will be hyper-inflation. Not unless those reserves the banks are sitting on are extinguished. Murphy has written an article on Bernanke’s trilemma which leaves him little exit room between a forced realisation that the economy is in a zombie, fake growth mode and shrinking it or continuing to pretend money will fix it and “printing” like crazy and it is perfect in response to this silly blog.
https://www.mises.org/media/5240/The-Austrian-Response-to-Recent-Critics/3 too
“That it hasn’t, ought, in a scientific world, permanently disprove von Mises’ view.”
Nope. This is simplistic at best and ignores the complexity of the economy and is based on a five year old’s understanding of science. I mean Keynesians have not given up their irrational, economy-destroying childsbook scribblings yet and yet they have been shown to be destructive/useless/deleterious time and time again. More appositely, HAS the money supply increased, yes or no? Not really. Not until the banks find an incentive to lend, i.e. they earn profits in excess of what the gov’t is offering them to sit on cash.
” But it isn’t science.”
Says you.
“But we could say that about a lot of economics.”
Probably the author’s own.
His response is pretty horrid. He doesn’t understand Mises very well, he does not understand economics as a science and he does not understand the data he is cherry-picking. He neglects the possibility that the Fed’s stimulus plans may simply not work, that the money can be sat on rather than seep into the economy and that, alongside tepid growth due to regulation, that combined with high unemployment the economy can simply slip into stagflation, which it probably has. I agree with Matthew’s response.
Folks who think Mises changed his mind about the 1912 definition might recall this blog post of mine from Sept. 2009:
On this blog and on various discussion fora over at Mises.org and this summer at FEE, the battle has raged over how Austrians might define inflation, with folks like me and our “monetary equilibrium” view of inflation as a supply of money greater than the demand to hold it on one hand and the Rothbardians with their “any increase in the money supply not backed by an increase in gold” view on the other. Often part of this battle are claims about what Mises had to say, especially by the Rothbardians who want to claim Mises exclusively as their own.
One of the commonly heard positions, on both sides, is that Mises adopted the monetary equilibrium perspective in his earlier writings, such as The Theory of Money and Credit, but by the time Human Action rolled around, he was more clearly of the Rothbardian view.
I had the chance this morning to skim through a FEE volume that collected lectures Mises gave at the Foundation in the summer of 1951. Note that date: it is AFTER the publication of Human Action. In the lecture on “Money and Inflation,” Mises defined inflation the following way:
Inflation is an increase in the quantity of money without a corresponding increase in the demand for money, i.e., for cash holdings.
This is exactly the same definition of inflation that Mises gives in TTOMAC (p. 272, 1980 Liberty Press edition). The 1951 lectures are available from FEE as The Free Market and its Enemies (2004) or online here. Check page 44. [UPDATE: to be clear, this means that Mises would agree that an increase in the quantity of money that brings the supply up to match the demand for cash balances is NOT inflationary.]
http://austrianeconomists.typepad.com/weblog/2009/09/mises-defining-inflation-the-monetary-equilibrium-way-in-1951.html
“…the battle has raged over how Austrians might define inflation, with folks like me and our ‘monetary equilibrium’ view of inflation as a supply of money greater than the demand to hold it on one hand and the Rothbardians with their ‘any increase in the money supply not backed by an increase in gold’ view on the other.”
This appears to me like an argument over whether only alligators exist or only crocodiles exist. What if both sides to the dispute acknowledged that there are two legitimate types of inflation?
I always just separate everything for clarity:
- “monetary inflation” to represent an increase in the quantity of money
- “monetary deflation” to represent a decrease in the quantity of money
- “price inflation” to represent a general increase in overall prices
- “price deflation” to represent a general decrease in overall prices
I know the first two aren’t exactly as Mises or Rothbard’s, but for fiat currency, it works well.
Rothbard explains this more clearly in “The Mystery of Banking,” where he includes demand for money in the explanation of general price rises and falls:
“So prices, overall, can change for only two reasons: If the supply of money increases, prices will rise; if the supply falls, prices will fall. If the demand for money increases, prices will fall (PPM rises); if the demand for money declines, prices will rise (PPM falls). The purchasing power of the dollar varies inversely with the supply of dollars, and directly with the demand. Overall prices are determined by the same supply-and-demand forces we are all familiar with in individual prices.” (p. 41)
So, basically, Rothbard concurs with the definition of inflation and deflation that I thought was mainstream economics: Inflation is an increase in the supply of money over the demand for money; deflation is a decrease of the supply of money under the demand for money. Widespread changes in the demand for money have similar (but inverse) relationship: An increase in the desire to hold money reserves (increased demand) is deflationary; a decrease in same is inflationary.
And the working, together, of supply and demand forces helps explain how, after a crash, vast monetary infusions don’t immediately yield hyperinflation: An increase in the demand for money (for holding money) offsets increased supplies. When people begin to anticipate further increases in money and credit, they shift their desire to hold money to the negative, and inflation then spirals out of control.
Fear of uncontrolled deflation is the main fear of mainstream monetary economists after a crash, hence their desire to “reflate” the economy with Quantitate Easing and other methods of money stock restoration. This fear may be overblown, but it is right there as a possibility in the basic definitions of inflation and deflation that both Mises and Rothbard used.
I agree with you, but please look at yonex badminton rackets.
Salerno bites back:
Mises: Inflation and Deflation Are Meaningless Concepts
Comments on this entry are closed.