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Source link: http://archive.mises.org/4071/real-bills-raises-its-ugly-head-again-and-again/

Real Bills Raises its Ugly Head, Again and Again

September 8, 2005 by

“I know no time which is lost more thoroughly than that devoted to arguing on matters of fact with a disputant who has no facts, but only very strong convictions.” So said, James E. Thorold Rogers, Six Centuries of Work and Wages, London 1901.

In line with the above definition of futility, I shall not spend time re-refuting all the false lines of argument and logical errors in the latest blast from the Feketians, but there are one or two points worth making, nonetheless.

Ever sensitive to the “unscholarly” tactics of the Unbelievers and ever wailing about ‘ad hominems’, while peppering their own bromides generously with the same, one might take the Devotees’ complaints a little more seriously were they themselves not steeped in the sophistic techniques of the high school debating society.

For example, consider the following paragraph:

“The first mistake made by Corrigan and Blumen is their Rothbardian conception of what inflation is. They rigidly define inflation as any excess of money and credit over gold and silver reserves. They believe that all such monetary inflation is dangerous because it will always bring about price inflation. This, of course, is not true as all credible economists understand….”

Firstly, Mr Hultberg should not presume so much when he puts words in my mouth. I cannot speak for Mr. Blumen, but I do not now, nor ever never have, defined inflation in this way, nor have any of the Austrian masters, to my knowledge. (As an aside, I’m not sure I’ve ever been known to pay much attention to silver, either).

“Inflation” – i.e. unwarranted credit expansion – comes about when new monetary substitutes (“fiduciary media” to use Mises’ phrase, as well as outright fiat money) are brought into existence and so disturb a prevailing state of adjustment between the ‘real’ economy and the prior total of (A) genuine commodity money (including 100%-backed money certificates) and (B) any already-issued fiduciary (and fiat) money.

Here, then, it is not the presence or absence of unbacked money which matters, but rather a question of whether that which was previously conjured up has been allowed to work out all its effects, and of how easily and to what extent it can be further increased and so occasion future disruptions.

Accordingly, to advocate the adoption of a 100% gold-standard is a step not aimed at indirectly defining “inflation” as being a stock of money equal to, rather than in excess of, the amount of specie, but at taking a practical, institutional stance on how best to limit the further progress of the disease

Additionally, we must recognise that a given credit expansion’s effects can never be predetermined, for it just may be that much of this new money simply finds an outlet in voluntarily-increased, post hoc saving (as is the case in China today, for example) and that this precludes, or mitigates, any wholesale change in prices. Even so, it still cannot fail to alter economic data, by changing the relative prices between the increased amount of goods being sought by the newly-empowered spender-borrowers and those wares whose incremental uptake is abstained from by the spenders’ counterparts, the new savers, in their turn.

Indeed, Austrians have spent a good deal of time debunking the mechanistic quantity theory of money implied by Mr. Hultberg’s words, which leads us to wonder whether he has actually read – or having read, truly understood – the work of those whom he is deriding.
No! Not for us an invariable mathematical relationship between that aggregative fiction known as the price level and the quantity of money. Like all other economic goods, we hold that the value of money is set subjectively, and at the margin, by the actions of millions upon millions of individuals going about their daily lives and entering into free exchange with one another.

Therefore, only convince people that extra money will not necessarily mean higher prices and they may just hold onto enough of the additional medium to make your weasel words hold true for a while: why else do central banks expend so much hot air on boasts about their “credibility”, and why do they also fret so much about the temperature of their precious “inflationary expectations”?

Conversely, let the populace come to doubt its money’s ability to retain its value (or, more realistically, let people fear it will lose its value at an even faster pace than at present) and then, in the self-defeating rush to be rid of it ahead of this expected calamity, prices can still rise for a time, even if the volume of money is held constant, or is even falling.

Anyone who doubts these contentions, has never read anything of the course of events during the great European hyperinflations of the last century

To set Mr Hultberg straight, then, we should inform him that “inflation” is an increase in the quantity of money above and beyond people’s desire to hold it, rather than spend it: gold and silver do not enter into the discussion, save as a functional means to make inflation as difficult as possible to promote, to the benefit of all.

With that hopefully cleared up, it is perhaps now the time to deal with one other insidious tactic which the Feketian camp regularly employs in its assault on reason and to state categorically that, for all the sound and fury surrounding it, the monotonously invoked concept of “clearing” is nothing more than a side issue in all this, for clearing is only a contractual arrangement which economises on money use and is thus wholly unobjectionable of and in itself.

Indeed, we could almost be cheeky and say that the appearance of private clearing systems undercuts one of the fundamental premises upon which Real Bills and other inflationary doctrines are built; namely that, under a 100% gold specie standard, money would somehow become too “scarce” as the economy grew and hence that some form of phantom substitute must be introduced to allow economic progress without living in peril of a “deflation” occurring (another phenomenon also wholly misdefined by our opponents).

But, even if we exchange ever more IOUs among one another – in the form of bills, as but one example – the only important thing is that these must NOT be allowed to form a “money” themselves: a transformation which they are only likely to achieve if we accord property-infringing privileges on bankers, whether or not backed up functionally, as well as legally, by the State.

Contrary to Mr. Hultberg’s strictures, there is nothing in here which violates any libertarian code. Quite the converse: to continue to allow banks and the state this pernicious opt-out is to throw all private property into jeopardy, as well as to threaten liberty and to hamper the smooth course of material progress.

But this point somehow evades our protagonist and so he waxes sarcastic, at this juncture:

“If Rothbardians wish to prohibit the issuance of real bills by producers, distributors and retailers, and their subsequent discounting by banks, then they will have to circumvent the very FREE market they profess to espouse.”

Again, here, our author either perpetrates a calumny or falls prey to a grave misapprehension, for Rothbardians (and others) don’t wish to prohibit the issue of bills, at all. What they do wholeheartedly demand is that the ordinary laws of contract apply both to banks and to Leviathan, as to every other private entity.

If this were granted, any statues of intervention would be as unnecessary as they are unconscionable, for then banks, subject to the automatic restraints of a true gold standard, would not reckon it in their interest to run the embezzler’s actuarial risk of committing what is today a wholly legal fraud; namely, that of issuing more claims on final goods, payable at par on demand, than they possess in their vaults.

Of course we don’t want to ‘prohibit’ bills, bonds, mortgages, debentures, letters of credit, asset-backed loans, pawn tickets, IOUs, accounts receivable, or any other of any of the vast fauna of such voluntary contractual arrangements, at all.

All we want to ensure is that these arrangements, once undertaken, cannot be stamped by a legally-privileged bank and given to its favourite customer in place of a cloakroom ticket, so that she can go home early, wearing the fur coast which really belongs to some other, poor soul who still sits, unsuspectingly, in the theatre, believing her property to be safe.

So long as we do preserve this distinction between that ultimate final good – money – and those promises of future goods – credit – the trumped-up conflict of clearing and the use of credit instruments with a Rothbardian, gold-based system disappears.

This is because, under a gold standard as opposed to a Real Bills fiddle, the bill I choose to accept in return for the sale of my non-final goods automatically represents a saving I have made, for I can only now liquidate this bill ahead of time (and so consume exhaustively before my work has added to the supply of such consumables) by persuading another – a holder of genuine, cash money – to swap his currency for my claim: i.e. I must get him to save in my place.

Of course, I may instead want to consume productively, once more (i.e. to buy in some extra materials or components to my factory), ahead of my last batch of goods being transformed into final goods and settled for the cash which will partly redeem my bill.

But, even here, it makes no difference whether I assign the existing bill (first drawn upon my own customer) to my supplier, or whether I allow him to draw a new bill upon me directly. In either case, he is also temporarily forgoing payment in cash, and thus the ability to buy consumer goods on demand: hence, he is now saving alongside me and so funding (as opposed merely to financing) our increased productive efforts.

Indeed, to root out another misperception, an increase in credit is always likely to accompany an increase in the vertical scope of the Cone of Production since this implies more specialists are setting up to add extra, more roundabout stages to the industrial process and that these higher-order goods makers will need more funding and – mirabile dictu – possibly even the issue of more bills!

(Incidentally, this is something which again bewilders the not just RBD dogmatists, but quantity theorists everywhere, for the latter routinely confuse the flawed concept of the final consumption-heavy GDP measure with the true sum of productive activity and so generate much spurious variation in their measures of monetary “velocity” when they divide increased credit into a more slowly rising “output”).

What only counts here is not the increase in credit per se, but the extent to which this increase is funded with new saving and that to which it is financed through means of inflationary credit expansion, Real Bills included.

The crux here is that it is not the sum of gold which ultimately signifies, but the amount of saving – the available stock of set-aside consumable goods which is needed to see a productive process through to its consummation in the replenishment (and, one hopes, the augmentation) of that same stock.

However, gold is not the thing itself: we have succumbed to no fetish in our insistence upon its playing a primary role in our particular vision of a reformed world. Gold is only the least bad proxy we can devise to keep track of that consumable mass from which we can draw this critical stock of saving.

Gold thus furnishes the basis for the least bad accounting method for entrepreneurial calculation; for the generation of those genuine profits which arise from a tangible economic advance and which give rise to both the preservation and the proliferation of capital and so to the material advance of Man.

To sum up, then: ‘clearing’ itself cannot give rise to a business cycle – except, perhaps, under the extreme condition where it is suddenly implemented for the first time on a grand enough scale to disrupt the pre-existing patterns of exchange, such as historically happened in the Tulipomania, for example; or in the manner that recent such innovations have come to play so a significant role in the governmentally-underwritten, financial asset insanities of the modern era.

Nor can the issue of bills, or any other credit instruments, be detrimental, or antithetical to a free market – as long as these cannot be turned into money substitutes at whim via fractional reserve banking practices such as those countenanced by the cult of Real Bills (or through inflationary discounting and note issue at the central bank itself).

In conclusion, one cannot help but entertain the suspicion that the Feketians have either deliberately set up a straw man in order to confuse ordinary businessmen and women – who can’t see why we Austrians seem to be objecting to every financial innovation of the past half-millennium (we are not!) – or they are themselves hopelessly lost as to the underlying economics of what is at work, or even both.

In any case, they are not to be given any credence, whatsoever.


Yancey Ward September 8, 2005 at 1:44 pm

“The reason for the superiority of the Hazlitt definition is that it concerns what brings about PRICE inflation, which is the only form of inflation that matters.”

The above statement from Hultberg is the essence of the dispute, isn’t it? With this statement, doesn’t Hultberg explicitly buy into the statist’s claim of what inflation really is? The way I look at, any increase in the monetary base benefits those first receivers of the new money (government and the banking cartel) at the expense of everyone else, and it does not matter whether or not the price level for goods and services remains stable. Am I wrong?

Paul Edwards September 8, 2005 at 6:27 pm

I agree Yancey. Also, the entire confusion of inflation versus price stability and its connection, for example, to the great depression of the thirties was elaborated by Rothbard. His point was that devastating inflation can be taking place during a time of high productivity, such as during the twenties, rendering prices stable, yet inducing malinvestments of calamitous proportions requiring painful readjustments later.

On another note, I wonder at the correctness of the point made in this article that “…voluntarily-increased, post hoc saving…” could mitigate “…any wholesale change in prices.”, or should it be put rather that an increase in hoarding or holding of money could mitigate such changes in prices. It strikes me that changes in savings versus consumption will have an equal effect on the demand for money (i.e. none). Only an increase in a demand to hold money, or an increase in productivity can oppose the price affects of an inflation.

Adam smith September 8, 2005 at 9:40 pm


gene berman September 9, 2005 at 8:23 am

Mr. Corrigan:

I’m not very knowledgeable in the area of banking practices, etc. but, upon reflection, it seems to me that the “real bills” institution already ACTUALLY EXISTS.

If I follow Fekete aright, the real bills market merely seems one characterized by the seasonal nature of the demand (and of the products being produced) and by the proviso that such borrowing be restricted to goods for which there is a well-established market (and, presumably, price level).
RBD seems not to recognize that demand can and does change even within a season (as witness the garment industry)and that the price levels necessary to assure repayment are themselves subject to the slings and arrows of routinely outrageous fortune.

But my main point is that mechanisms catering to the market Fekete sees already exist (and may even have evolved from and replaced the real bills of yore–I simply am not knowledeable enough here to know what I’m talking about). I refer to two financial practices. First of these is the special case of “factoring,” wherein the lender takes the primary entrepreneurial risk upon himself, whether “he” be individual or banking institution. This is the lesser example.

The other is that referred to (at least it was 50 years or so ago) as the “money market,” which, insofar as I was aware, was that for unsecured notes to industrial and commercial firms characterized by, typically, 90-day duration. This market was typified (owing to its less-formal credit-granting requirements) by interest rates somewhat higher than those for which the same entity would qualify for longer-term (or larger or more specifically secured) loan funds. It is further my impression that defaults in that market were extremely rare, not because the business markets of the borrowers were solid (in the sense implied by the Feketians) but because the loans themselves were relatively small compared to the size of the entities concerned and also to their other, more highly-structured obligations (creating great emphasis on repayment of the 90-day paper lest default affect credit rating and terms of other indebtedness). It almost seems to me that this “money market” is the modern-banking-and-financial-world equivalent of the “real bills” of simpler times and may comprehend production cycles both more complex and of more variable duration than quarterly.

As an afterthought, I would also add that the insistence of Fekete that the “discount” taken at various stages by various holders is something apart from and different than interest (incorporating agio, risk premium, and change-in-value-of-money offset) seems specious. For some reason (I shall investigate when more time is available), I seem to get the feeling that something like a “productivity theory” of interest (which, Mises explained, Bohm-Bawerk criticized but did not relinquish entirely himself) may be related to such error.

billwald September 9, 2005 at 10:57 am

The error is the perverted notion that defines inflation in terms of money. That’s like defining poker in terms of chips.

Inflation is better discussed in terms of man hours required to obtain necessities. 100 years ago the working class spent 50% of their life’s energy obtaining enough calories to stay alive. These days much less than 10% is spent on food and half the working people are over weight.

100 years ago the working people were lucky to have two changes of working clothes and a Sunday suit. Now we have clothes closets that are larger than bedrooms were 100 years ago. The only inflation is in personal consumption.

Yancey Ward September 9, 2005 at 12:33 pm


I asked you on a separate thread what point it is that you are trying to make. What you wrote is no doubt true, but is it your contention that the obvious productivity growth of the last 92 years justifies the inflationary tactics, or that inflation has not occurred?

gene berman September 9, 2005 at 3:58 pm

Yancey: It’s a bit rigid of you–requiring that incoherence follow an either/or pattern; I’d have thought you’d have caught on by now.

Yancey Ward September 10, 2005 at 8:54 am


My friends are always telling me that I am as sharp as a bowling ball.

billwald September 12, 2005 at 7:49 pm

My point was that the typical worker was worse off under “sound” money. One of the problems of a metallic money system IS that it limits the money in circulation.

90% of the “money in circulation is electronic transfer. If the USofA was to return to 100% gold backed money what would be the price per oz in ’05 equivalents? $50,000/oz?

Yancey Ward September 13, 2005 at 9:09 am


The typical worker was worse off pretty much the whole continuum from the middle ages until the present day, and the improvement came from technological progress, not inflationary money. The entire idea behind gold-backed money is to keep the government and the banks from stealing your wealth without you knowing it, and it is irrelevant what the price per ounce of gold would be since it is easily subdivided. If increasing the amount of money in circulation is such a good thing, why does the government prosecute counterfeiters?

Dennis Sperduto September 13, 2005 at 11:27 am

A number of scholars associated with the Mises Institute have written that under a commodity monetary standard, i.e., a gold standard, as opposed to the current fiat dollar standard, a modest decline in prices would likely occur. This in fact was the case for most of the 19th century in the U.S. Under this scenario of modestly declining prices, the benefits of productivity improvements/technological advancements would be passed on to the general public. Under the current fiat monetary standard, price increases generally are the rule, and those who benefit from this framework are the government and the politically powerful early recipients of the newly created money. In addition, as Mises first demonstrated, the current monetary and banking system and its ability to create credit that is not the result of previous savings and, thus, lower the market rate of interest, is the root cause of the business cycle.

billwald September 14, 2005 at 1:31 pm

“If increasing the amount of money in circulation is such a good thing, why does the government prosecute counterfeiters?”

Same reason the Mafia has turf wars. Greed and power.

Paul Edwards September 14, 2005 at 2:05 pm

The prosecution of counterfeiters is like a mafia turf war, except the prosecutors have the veil of legitimacy in its favour. The mafia should be green with envy.

Mike Sproul September 14, 2005 at 6:59 pm

A bank that issues money in exchange for assets is different from a counterfeiter. The bank puts its name on the money and maintains sufficient assets to back the money. The counterfeiter does not. Real bills adherents (Bosanquet(1810), Fullarton (1845)) etc. have pointed this out. The counterfeiter clearly causes inflation. The same can’t be said for the bank. Economists all agree that if Merrill Lynch issues call options on GM stock, then the value of GM is not affected. By analogy, a checking account dollar is a call option on a green paper dollar, and the real bills view is that the issue of checking account dollars does not affect the value of green paper dollars.

Take it a step farther: Economists also agree that if GM stock currently sells for $60/share, then GM can print one new share, sell it for $60, and the price of GM stock will be unaffected, since GM’s assets increased in step with its liabilities. By analogy, when the Fed prints one new paper dollar and sells it for a dollar’s worth of bonds, the Fed’s assets rise in step with its liabilities, and (on the RBD view) the value of the dollar is unchanged.

Paul Edwards September 14, 2005 at 7:48 pm

Hi Mike:

I’m going to extend your analogy which starts like this:

“By analogy, when the Fed prints one new paper dollar and sells it for a dollar’s worth of bonds, the Fed’s assets rise in step with its liabilities, and (on the RBD view) the value of the dollar is unchanged.”

My logical extension is to repeat the analogy except by adding one new word and one extra ‘s’ as follows:

“By analogy, when the Fed prints one [trillion] new paper dollar[s] and sells it for a [trillion] dollar’s worth of bonds, the Fed’s assets rise in step with its liabilities, and (on the RBD view) the value of the dollar is unchanged.”

This new analogy seems to put the RBD view in clearer perspective. Does it now seem flawed to you? The fed is creeping up on adding its very first trillion of additional reserves to the banking system on which the banks have been pyramiding credit expansion. I wonder if anyone at the fed will sit down and pour a glass of Champaign to mark the event.

Vince Daliessio September 14, 2005 at 9:22 pm

Billwald sez;
“The only inflation is in personal consumption.”

And the biggest reason for this is?

Exactly. People are consuming like crazy because each dollar grows less valuable every day. Holding onto those dollars, which prudence suggests we do, is a sucker bet.

Mike Sproul September 14, 2005 at 11:11 pm

Hi Paul:
“By analogy, when the Fed prints one [trillion] new paper dollar[s] and sells it for a [trillion] dollar’s worth of bonds, the Fed’s assets rise in step with its liabilities, and (on the RBD view) the value of the dollar is unchanged.”

For that matter, GM could, in principle, issue a trillion new shares for $60 each, deposit the $60 trillion in a bank account, and its assets would still rise in step with its liabilities, and the stock price would not change. I say “in principle”, because GM would only issue the new shares if it had some good use for the money, and the public would only want the shares if they believed GM could put the money to good use. This is the limit of how much GM stock will be issued. The limit to the issue of money (always understanding that equal assets are received as money is issued) is the degree to which the public wants $1 of green paper instead of $1 of bonds.
Most people are used to thinking that the RBD is a recipe for making the supply of money move in step with output of goods. That is an incoherent view that has been justly criticized. The correct view is that the RBD is a recipe for making the money supply move in step with the assets backing it.

Yancey Ward September 15, 2005 at 9:36 am

Mike Sproul,

I must admit that you have completely confused me; are you playing Devil’s Advocate for the RBDers? I agree with your analogy about GM, but not with the one about the Fed. Is there not an inflationary problem with your Fed analogy? If the Fed issues $200 billion in new money and exchanges them with the Treasury for the bonds, and the Treasury simply consumes using the money as payment to society, exactly what real assets are we talking about? Sure, the Fed could redeem the bonds with the Treasury, thus removing the currency from the market (inflation, then deflation), but, on balance, has it ever really done this?

This whole debate gives me a splitting headache every time, even though it is fascinating to follow.

billwald September 15, 2005 at 7:08 pm

“People are consuming like crazy because each dollar grows less valuable every day.”

Except for fuel, which underpriced, housing, which is caused by zoning and govt regs, and taxes, the price of most everything else has stayed about the same or dropped in work hours per consumer product. In a century, food dropped from 50% to less than 10% of a person’s life energy. Since WW2, a new low end car has cost about a half year’s pay and the quality of design has improved exponentially.

People are buying like crazy because almost no American under 40 years old has seen a week of hard times or unintentially missed a meal. They don’t believe that the ride can stop.

Mike Sproul September 15, 2005 at 10:27 pm

Yancey Ward:

I’m not playing devil’s advocate. I believe that the real bills doctrine gives the only coherent explanation of money. I have a few papers on the subject on my website, which you can find easily by doing a google search for “real bills doctrine”. (As if your head didn’t hurt enough already!)
The real bills view is that if the Fed issued $200 billion in paper, and bought $200B in bonds, then Fed assets would have risen in step with Fed liabilities, and there would be no change in the value of the dollar. Since you accept this argument for GM stock, you should notice that if GM issued new stock for new assets, there would be “more GM stock chasing the same amount of goods” out in the economy. And yet no serious economist would claim that this would reduce the value of GM stock, because GM’s value is not determined by how much GM stock is “chasing” how many goods. The real bills view says the same thing is true of money. Its value is not determined by how many paper dollars are “chasing” how many goods. The value of paper dollars is determined by how many assets are backing how many dollars.

Vince Daliessio September 16, 2005 at 2:05 pm

BillWald sez;

“Except for fuel, which underpriced, housing, which is caused by zoning and govt regs, and taxes, the price of most everything else has stayed about the same or dropped in work hours per consumer product. In a century, food dropped from 50% to less than 10% of a person’s life energy. Since WW2, a new low end car has cost about a half year’s pay and the quality of design has improved exponentially.”

Bill, the insane increase in the price of housing is solely caused by monetary inflation – too many dollars chasing too few goods. The price goes up because the supply of desirable existing houses and land for building more is naturally restricted.

The opposite is true for cars – until the last ton of iron ore is smelted or oil converted into vinyl upholstery, even though there are too many dollars chasing autos, the price of autos should be declining while quality and performance should be increasing – they are not.

Arguing that certain goods cost the same in terms of labor hours that they did before the advent of the unbacked dollar in 1913 is begging the question. A car should cost much less than it does now, go faster, steer better, use less gas, and be much safer than it is currently.

But you didn’t refute my core statement – inflation makes each dollar worth less every single day it is held. Bank interest and the stock market return available to most dollars is negative after inflation and taxes, so I repeat – why would anyone save even one dollar, traditions of prudence aside?

I understand it is traumatic to have your illusions smashed, and much easier to impute wickedness to the public at large rather than change your views, but come on – who is likely to be “correct” (remember, this is MISES.org we are on here)one monetary liberal(you), or the independent economic decisions of millions of free people?

Yancey Ward September 19, 2005 at 1:01 pm

For the purposes of furthering debate on this topic, I am linking to Fekete’s and Hultberg’s responses.

Is there some particular reason that Fekete has not been allowed to reply on this site directly?

Vince Daliessio September 20, 2005 at 11:10 am

As far as I can tell, Fekete, Hultberg, and the rest of the “Real Bills” people have a point about “Bills”, “Receivables”, “Letters Of Credit” and “Fractional Reserve Banking” representing various permissible interbusiness forms of contract that may indeed have a salutary effect on business-to-business transactions and, by transitive property, the economy at large. It is when consumers are forced to involuntarily accept debased currency that the freedom of contract these various instruments embodies becomes “fraud”. Both Fekete and Hultzberg do themselves no favors when they deliberately misinterpret Rothbard and Mises’ opposition to this process of defrauding the public as an opposition to business’ exercise of property rights, nor do they do us the living any favors in advocating another untenable fiat currency, differing from the current one only in which set of corporate interest will be allowed to profit from it at our expense.

Paul Edwards September 20, 2005 at 3:05 pm

Hi Vince:

I think i agree with the latter part of what you say, but i’m unclear on what you mean in this part in particular:

“Fekete, Hultberg, and the rest of the “Real Bills” people have a point about … “Fractional Reserve Banking” representing various permissible interbusiness forms of contract that may indeed have a salutary effect on business-to-business transactions and, by transitive property, the economy at large.”

The reason the above statement confuses me is that at the core of the debate, I believe at any rate, is that the Austrians are completely opposed to fractional reserve banking usually both for reasons of ethical and economic considerations, and it is this concept, which is ingrained in the RBD, that makes the RBD unacceptable from an Austrian perspective.

Vince Daliessio September 21, 2005 at 9:07 am

I agree with you Paul, and with Rothbard, et al, that Fractional Reserve Banking is inherently a kind of fraud. But if the bank discloses the extent to which its reserves and its other “good” debts support its deposits, then I would have to suffer the bank to live. Keep in mind though, that if such a bank subsequently had a “run” on its deposits and failed, the depositors would still have a claim on the bank’s assets, as well as possible criminal fraud charges if it had overstated its reserves to a significant degree.

gene berman September 21, 2005 at 2:55 pm

Vince (and others who may be interested:

There can be no question but that fractional reserve banking is a fraudulent activity; its benefits consist entirely in achieving a lower rate of interest than would otherwise prevail on the market so affected. Its baleful effects are not limited, however, merely to those unlucky enough not to be among the first to receive the new and increasing amounts in the form of loans, wages, or business profits. “Right from git” the increases in the supply of money are rearranging EVERYTHING economic, that is, the priorities and plans of everyone. Ultimately, the effect of such increase (and lowered interest rates)is to persuade some among the very beneficiaries of the largesse to expand their stocks of “higher orders” of production goods–to invest in plant capacity which would have been obviously inadvisable under the previous, higher-interest regime and which will later prove incompletely covertible when the money supply must be reduced to avoid hyperinflation. The entire arrangement of production for the market will have been rearranged away from the actual preferences (as revealed by the interest rate)but with the added loss of equipment specialized for a market which no longer exists. The result is a depression; or, if not quite as bad, a recession.

Nothing about Dr. Fekete’s RBD is persuasive to me (and I think I’ve given his website a fair shot) and, in particular, his argument that the financial transaction involved is different than an ordinary commercial loan and involves not interest but “discounting” of the various paper obligations. At the very outset of this thread–about the third or fourth post or so–I tried to make this point and, additionally, to liken the loan activity to what used to be called (and might still be, for all I know) the “money market.” I was hoping to induce a comment from the author (Corrigan) on the matter.

Yancey Ward September 22, 2005 at 10:01 am

I, personally, have gone back and forth on this issue. In one of Hultberg’s previous responses to Blumen, he wrote of an analogy to merchant’s fair in which the transactions are all conducted in fair script, and, at the end, all script are settled in gold coin, thus extinguishing the script. Now assuming all participants are able to actually settle, not default by either accident or intention, then where is the inflation? Or was this an improper analogy for RBD? It seemed quite proper to me, but am I missing something? If the bills have a termination date at which they must be settled in gold coin, then they no longer circulate as either money, and the money issued by the bank to purchase the bill becomes backed by that gold coin.

Like I wrote earlier, this gives me a headache thinking about it.

Paul Edwards September 22, 2005 at 12:14 pm

Hi Yancey:

I hope i don’t add to your headache with my answer.

Let’s dissect the analogy (a little) and the seemingly reasonable statement “If the bills have a termination date at which they must be settled in gold coin, then they no longer circulate as either money, and the money issued by the bank to purchase the bill becomes backed by that gold coin” then “where is the inflation?”

The problem is that when you submit your real bill to the bank for cash, it issues you new money, (not its own money) at that moment, the same way it expands credit when it creates a loan. Therefore, your statement and question applies as well to credit expansion arising out of any fractional reserve bank loan. The loan must eventually be redeemed in gold. However, while that loan exists, the money supply has been increased. Loans are paid back, true, but more loans are made, the cycle continues and the money supply remains inflated. This is the inherent feature of the RBD as well. The fact that a real bill must one day be fully redeemed is similar to the fact that a bank loan created via credit expansion must also be paid back. It doesn’t change the fact that they are both inflationary and contribute to business cycles.

Now take two aspirins.

Mike Sproul September 23, 2005 at 9:26 pm

Yancey, Paul, Gene, and Vince:

You’re looking at the RBD as a recipe for making the quantity of money move in step with the quantity of goods. The other way to look at it is that the RBD is a recipe for making the supply of money move in step with its backing. Viewed in this way, every bank that issues a new dollar in exchange for a dollar’s worth of assets is necessarily causing money to move in step with backing, and would not cause inflation. Hence fractional reserve banking is not a fraud. It makes no difference if a dollar is issued for a dollar’s worth of gold or a dollar’s worth of bonds–either way the new money is adequately backed.

Bill Koures September 25, 2005 at 12:52 am


A detailed refutation of Sean Corrigan’s working paper on real bills has been posted by me.

Click here.

Paul Edwards September 29, 2005 at 10:42 pm

Holy Mackerel:

Did you get a chance to read Corrigan’s “Robinson Crusoe and the Curse of ‘Real Bills’” on lewrockwell.com? I think it’s worth a read and then after that a good study.

In this article, he evaluates the use of bills as private credit instruments in the Crusoean economy and then the effects of introducing a real bills doctrine on such credit transactions. He is able to do this without an “appeal to arcane arguments about inflation; nor to the intricacies of the entrepreneurial effects of disrupted price signals…”

Corrigan lays out “what happens when temporally-extended credit is diabolically transmuted into instantly-expendable money – which is, after all, the very purpose of a system of ‘real bills’ wedded to fractional reserve banking…” and emphasizes the “primary need for capital and hence of its irreplaceable role as a temporal bridge between the present – when ‘roundabout’ methods of work are begun – and the future – when their consummation will hopefully result in an array of useful final consumer goods.”

There are some funny lines in there also.


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