It is not money, as is sometimes said, but the
depreciation of money - the cruel and crafty destruction of money - that
is the root of many evils. For it destroys individual thrift and
self-reliance as it gradually erodes personal savings. It benefits
debtors at the expense of creditors as it silently transfers wealth and
income from the latter to the former. It generates the business cycles,
the stop-and-go boom-and-bust movements of business that inflict
incalculable harm on millions of people. For money is not only the
medium for all economic exchanges, but as such also the lifeblood of the
economy. When money suffers depreciations and devaluations it invites
government price and wage controls, compulsory distribution through
official allocation and rationing, restrictive quotas on imports, rising
tariffs and surcharges, prohibition of foreign travel and investment,
and many other government restrictions on individual activities.
Monetary destruction breeds not only poverty and chaos, but also
government tyranny. Few policies are more calculated to destroy the
existing basis of a free society than the debauching of its currency.
And few tools, if any, are more important to the champion of freedom
than a sound monetary system.
Inflation is defined here as the creation of new money
by monetary authorities. In more traditional usage, it is that creation
of money that visibly raises goods prices and lowers the purchasing
power of money. It may be creeping, trotting or galloping, depending on
the rate of money creation by the authorities. It may take the form of
"simple inflation," in which case the proceeds of the new money issues
accrue to the government for deficit spending. Or it may appear as
"credit expansion," in which case the authorities channel the newly
created money into the loan market. The government may balance its
budget, but in order to stimulate business and promote full employment
it may inject new credits into the banking system. Both forms are
inflation in the broader sense and as such are willful and deliberate
policies conducted by government.
Ours is the age of inflation.1 All national
currencies have suffered serious depreciations in our lifetime. The
British pound sterling, the shining example of hard money for one
hundred years, has lost almost 90 per cent of its purchasing power and
suffered four devaluations since 1931. The powerful U.S. dollar of
yesteryear has lost at least two-thirds of its purchasing power and
continues to shrink at accelerating rates. In the world of national
currencies there have been nearly 400 full or partial devaluations since
World War II. Many currencies have suffered total destruction and their
replacements are eroding again.
Ideas Shape Policies
To inquire into the causes that induce governments the
world over to embark upon such monetary policies is to search for the
monetary theories and doctrines that guide their policy makers. Ideas
control the world, and monetary ideas shape monetary policies. Several
distinct economic and monetary doctrines have combined their forces to
make our age one of inflation. One doctrine in particular enjoys nearly
universal acceptance: the doctrine that government needs to control the
money.
Even many of the champions of private property and
individual freedom stop short at money. They are convinced that money
cannot be left to the vagaries of the market order, but must be
controlled by government. Money must be supplied and regulated by
government or its central bank. That money should be free is
inconceivable to typical twentieth-century man. He depends on government
to mint his coins, issue his notes, define "legal tender," establish
central banks, conduct monetary policy, and then stabilize the price
level. In short, he wholly relies on government regulation of money. But
this trust in monopolistic monetary authority operating through
political processes inevitably gives rise to monetary destruction. In
fact, money is inflated, depreciated, and ultimately destroyed wherever
government holds monopolistic power over it.
Government Control of Money
Throughout the history of civilization, governments
have been the chief cause of monetary depreciation. It is true,
variations in the supply of metallic money, due to new gold and silver
discoveries, occasionally affected the value of money. But these changes
were rather moderate when compared with those caused by government coin
debasements or note inflations. Especially since the rise of statism and
the "redistributive society," governments all over the world have
embarked upon unprecedented inflations the disastrous effects of which
can only be surmised. To entrust our money to government is like leaving
our canary in trust with a hungry cat.
From the Roman caesars and the Medieval princes to
contemporary presidents and prime ministers, their governments have this
in common: the urgent need for more revenue. The large number of
spending programs such as war or preparation for war, care of veterans
and civil servants, health, education, welfare, urban renewal, and the
like, places a heavy burden on the public treasury, which is finally
tempted to provide the necessary funds through currency expansion. True,
government at first may merely endeavor to tax wealth and income - tax
Peter to pay Paul. But this convenient and popular source of government
support is practically exhausted when Peter's income tax reaches one
hundred per cent. At this point, for additional revenue, the government
must either raise everyone's taxes or turn to currency expansion, But
the former is rather unpopular and therefore inexpedient politically. To
win elections, the taxes may even be lowered and the inevitable deficits
covered through currency creation, i.e., inflation.
The Steps Toward Monopoly
The first step toward full development of this source
of revenue was the creation of a government monopoly of the mint. To
secure possession of the precious metals that circulated as coins, the
sovereign prohibited all private issues and established his own
monopoly. Minting became a special prerogative of the sovereign power.
Coins either carried the sovereign's picture or were stamped with his
favorite emblems. But above all, his mint could now charge any price for
the coins it manufactured. Or it could reduce the precious metal content
of the coins and thus obtain princely revenues through coin debasement,
Once this prerogative of sovereignty was safely established, the right
to clip, degrade, or debase the coinage was no longer questioned. It
became a "crown right" that was one of the chief sources of
revenue.2
An essential step toward gradual debasement of the
coinage was the separation of the name of the monetary unit from its
weight. While the original names of the coins designated a certain
weight and thus afforded a ready conception of their gold or silver
contents -pound, libra or livre, shilling, mark, and so on - the new
names were void of any reference to weight. The pound sterling was no
longer a pound of fine silver, but anything the sovereign might
designate as the national monetary unit. This change in terminology
widely opened the door to coin debasement.
The next step toward full government control over money
was the passage of legal tender laws, which dictates to people what
their legal money can be. Such laws are obviously meaningless and
superfluous wherever the ordinary law of contract is respected. But
where government wants to issue inferior coins or depreciated paper
notes, it must use coercion in the form of legal tender legislation.
Then it can circulate worn or debased coins side-by-side with the
original coins, falsify the exchange ratios between gold and silver
coins, and discharge its debt with the over-valued coins, or make
payments in greatly depreciated flat money. In fact, once legal tender
laws were safely established, debt repudiation through monetary
depreciation could become one of the great injustices of our time.
Contemporary jurisprudence and jurisdiction were utterly paralyzed in
their defense and administration of justice once they accepted legal
tender laws. A debt of a million gold marks thus could be legally
discharged with one million paper marks that bought less than one U.S.
penny. And a government debt of fifty billion 1940 dollars can now be
paid or refunded with a 1971 dollar issue that is worth less than
one-third of the original amount. With the blessings of the courts,
millions of creditors can now be swindled out of their rightful claims,
their property legally confiscated.3
But absolute government control over money was only
established when money substitutes in the form of paper notes and demand
deposits came into prominence. As long as governments had to make
payments in commodity money, inflationary policies were limited to the
primitive methods of coin debasement. With the advent of paper money and
demand deposits, however, the power of government was greatly
strengthened, and the scope of inflation vastly extended. At first,
people were made familiar with paper money as mere substitutes for money
proper, which was gold or silver. Government then proceeded to withdraw
the precious coins from individual cashholdings and concentrate them in
its treasury or central bank, thus replacing the classical gold-coin
standard with a gold-bullion standard. And finally, when the people had
grown accustomed to paper issues, government could deny all claims for
redemption and establish its own fiat standard. All checks on inflation
had finally been removed.
The Rate of the Central Bank
The executive arm of government that conducts the
inflation usually is the central bank. It does not matter who legally
owns this bank, whether private investors or the government itself.
Legal ownership always becomes empty and meaningless when government
assumes total control. The Federal Reserve System which is legally owned
by the member banks is the monetary arm of the U.S. Government and its
engine of inflation. It enjoys a monopoly of the note issue which alone
is endowed with legal tender characteristics. Commercial banks are
forced to hold their reserves as deposits with the central bank, which
becomes the "banker's bank" with all the reserves of the country. The
central bank then conducts its own inflation by expanding its notes and
deposits while maintaining a declining reserve ratio of gold to its own
liabilities, and directs the bank credit expansion by regulating the
legal reserve requirements the commercial banks must maintain with the
central bank. Endowed with such powers, the central bank now can finance
any government deficit, either through a direct purchase of treasury
obligations or through open-market purchase of such obligations, which
creates the needed reserves for commercial banks to buy the new treasury
issues.
The final step toward absolute government control over
money, and its ultimate destruction, is the suspension of international
gold payments, which is the step President Nixon took on August 15,
1971. When a central bank is hopelessly overextended at home and abroad,
its currency may be devalued, which is a partial default in its
international obligations to make payment in gold; or, in an outburst of
abuse against foreigners and speculators, the government may cease to
honor any payment obligations, as in the case of the U.S. default. All
over the world, government paper now forms 120 national fiat standards
that are managed and depreciated at will.
The decline of monetary freedom and the concomitant
rise of government power over money gave birth to our age of inflation.
Step by step, government assumed control over money, not only as an
important source of government revenue but also as a vital command post
over our economy. The result is continuing inflation. Only monetary
freedom can impart stability.4
Welfarism and Inflation
Even the noblest politicians and civil servants can no
longer be expected to resist the public clamor for social benefits and
welfare. The political pressure that is brought to bear on democratic
governments is rooted in the popular ideology of government welfare and
economic redistribution. It inevitably leads to a large number of
spending programs that place heavy burdens on the public treasury. By
popular demand, weak administrations seeking to prolong their power
embark upon massive spending and inflating in order to build a "new
society" or provide a "better deal." The people are convinced that
government spending can give them full employment, prosperity, and
economic growth. When the results fall far short of expectations, new
programs are demanded and more government spending is initiated. When
social and economic conditions grow even worse, the disappointments
breed more radicalism, cynicism, nihilism, and above all, bitter social
and economic conflict. And all along, the enormous increase in
government spending causes an enormous increase of taxes, chronic budget
deficits and rampant inflation.5
The "redistributive" aspirations of the voting public
often induce their political representatives in Congress to authorize
and appropriate even more money than the President requests. Such
programs as social security, medicare, antipoverty, housing, economic
development, aid to education, environmental improvement, and pay
increases for civil servants are so popular that few politicians dare to
oppose them.
The government influences personal incomes by virtually
every budget decision that is made. Certainly its grants, subsidies, and
contributions to private individuals and organizations aim to improve
the material incomes of the beneficiaries. The loans and advances to
private individuals and organizations have the same objective. Our
foreign aid program is redistributive in character as it reduces
American incomes in order to improve the material condition of foreign
recipients. The agricultural programs, veteran's benefits, health, labor
and welfare expenditures, housing and community development, Federal
expenditures on education, and last, but not least, the social insurance
and medicare programs directly affect the incomes of both beneficiaries
and taxpayers. As the benefits generally are not based on tax payment,
but rather on considerations of social welfare, these programs
constitute redistribution on a nationwide scale. Foreign aid programs
have extended the principle of redistribution to many parts of the
world.
Whenever government expenditures exceed tax collections
and the government deficit is covered by currency and credit expansion,
we suffer inflation and its effects. The monetary unit is bound to
depreciate and goods prices m4st rise. Large increases in the quantity
of money also induce people to reduce their savings and cashholdings
which, in the terminology of mathematical economists, increases money
"velocity" and reduces money value even further. It is futile to call
these people "irresponsible" as long as the government continues to
increase the money stock.
Labor Union Pressures
A very potent cause of inflation is the unrelenting
wage pressure exerted by labor unions. It is true, labor unions do not
directly enhance the quantity of money and credit and thus cause the
depreciation. But their policy of raising production costs inevitably
causes stagnation and unemployment. This is why the union strongholds
are the centers of unemployment. Faced with serious stagnation, the
labor leaders are likely to become spokesmen for all schemes of easy
money and credit that promise to alleviate the unemployment plight. The
democratic government in turn does not dare to oppose the unions for
political reasons. On the contrary, it does everything in its power to
reduce the pressure which mass unemployment exerts on the union wage
rates. It grants ever larger unemployment benefits and embarks upon
public works in the depressed unionized areas. At the same time it
expands credit, which tends to reduce real wages and to encourage
employment.
The demand for labor is determined by labor costs.
Rising costs reduce the demand, falling costs raise it. Inasmuch as
inflation reduces the real costs of labor, it actually creates
employment. When goods prices rise while wages stay the same, or prices
rise faster than wages, labor becomes more profitable to employers. Many
workers, whose employment costs heretofore had exceeded the value of
their productivity so that they were unemployable, now can be profitably
re-employed. Of course, this employment-creating policy is then
counteracted by such unemployment factors as rising minimum wage rates,
higher unemployment benefits and welfare doles, and rising union wage
scales and fringe-benefit costs. In many industries, the labor unions
have introduced "cost-of-living clauses" that aim to prevent the decline
of real wages through monetary depreciation. Or their wage demands take
into consideration the rising rates of monetary depreciation.
Their demands may become "exorbitant," their strikes
longer and uglier, and the economic losses inflicted on business and the
public ever more damaging until businessmen clamor for government wage
controls. With wage controls come price controls and the whole
paraphernalia of the command system.
The "New Economics"
To give "scientific" justification to the policy of
inflation, a host of contemporary economists have developed intricate
theories, commonly known as the new economics. Basically, they all
ascribe to government the magic power of creating real wealth out of
nothing, of raising the "national income" through minute efforts of the
central bank and its printing presses. They are unanimous in their
condemnation of the gold standard, which to them means domination by
"external forces" and denial of national independence in economic
policies. Of course, the "independence" they so jealously uphold is
tantamount to government control over money matters. They want "fiat
money," i.e., government money without restraint by a commodity such as
gold. Though some would allow us the freedom to buy and hold gold coins
or bullion, they know very well that the legal tender laws that support
the fiat standard deny us the right to use gold in economic exchanges,
which relegates all coins to hoards and coin collections.
Only free money is sound money. This is why one should
be suspicious of any and all proposals that would enhance the power of
government over money. A currency reform, whether domestic or
international, that does not endeavor to dismantle this power, cannot
provide monetary stability. It is destined to lead to more inflation and
depreciation, to economic upheaval and decline. Sound money means the
gold-coin standard; it makes the value of money independent of
government, as the quantity of gold is independent of the wishes and
manipulations of government officials and politicians. It needs no
"rules of the game," no arbitrary rules people must learn or government
must observe. It is born in freedom and follows inexorable economic
law.6
At the time of the original publication, Dr. Sennholz
headed the Department of Economics at Grove City College and is a
noted writer and lecturer on monetary and economic principles and
practices.
1Cf. Jacques Rueff, The Age of Inflation (Gateway
Editions, Henry Regnery Company, Chicago, Ill., 1964).
2 Cf. Elgin Groseclose, Money and Man (Frederick Unger
Publishing Co., New York, 1961), p. 55 et seq.
3 Ludwig von Mises, Human Action (Yale University
Press, New Haven, 1949), pp. 432, 444.
4 Cf. Ludwig von Mises. The Theory of Money and Credit
(FEE, Irvington, N. Y., 1971), pp. 413 et seq.; Murray N. Rothbard, Man,
Economy, and State (D. Von Nostrand Co., Princeton, 1962), p. 661 et
seq.; also his concise What Has Government Done to Our Money? (PineTree
Press, 1963).
5 Henry Hazlitt, Man vs. The Welfare State (Arlington
House, New Rochelle, N. Y., 1969), p. 57 et seq.
6 Hans F. Sennholz, Inflation or Gold Standard,
Constitutional Alliance, Inc.,Lansing, Michigan
Reprinted with permission from The
Freeman, a publication of The Foundation for Economic Education, Inc.,
May, 1972, Vol. 22, No. 5.
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