PART FOUR: MONETARY RECONSTRUCTION
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CHAPTER 23
The Return to Sound Money
1 Monetary Policy and the Present Trend Toward All-round Planning
The people of all countries agree that the present state of monetary affairs is
unsatisfactory and that a change is highly desirable. However, ideas about the
kind of reform needed and about the goal to be aimed at differ widely. There is
some confused talk about stability and about a standard which is neither
inflationary nor deflationary. The vagueness of the terms employed obscures the
fact that people are still committed to the spurious and self-contradictory
doctrines whose very application has created the present monetary
chaos.
The destruction of the monetary order was the result of deliberate
actions on the part of various governments. The government-controlled central
banks and, in the United States, the government-controlled Federal Reserve
System were the instruments applied in this process of disorganization and
demolition. Yet without exception all drafts for an improvement of currency
systems assign to the governments unrestricted supremacy in matters of currency
and design fantastic images of superprivileged superbanks. Even the manifest
futility of the International Monetary Fund does not deter authors from
indulging in dreams about a world bank fertilizing mankind with floods of cheap
credit.
The inanity of all these plans is not accidental. It is the
logical outcome of the social philosophy of their authors.
Money is the
commonly used medium of exchange. It is a market phenomenon. Its sphere is that
of business transacted by individuals or groups of individuals within a society
based on private ownership of the means of production and the division of labor.
This mode of economic organization—the market economy or capitalism—is at
present unanimously condemned by governments and political parties. Educational
institutions, from universities down to kindergartens, the press, the radio, the
legitimate theater as well as the screen, and publishing firms are almost
completely dominated by people in whose opinion capitalism appears as the most
ghastly of all evils. The goal of their policies is to substitute "planning" for
the alleged planlessness of the market economy. The term planning as they use it
means, of course, central planning by the authorities, enforced by the police
power. It implies the nullification of each citizen's right to plan his own
life. It converts the individual citizens into mere pawns in the schemes of the
planning board, whether it is called Politburo, Reichswirtschaftsministerium, or
some other name. Planning does not differ from the social system that Marx
advocated under the names of socialism and communism. It transfers control of
all production activities to the government and thus eliminates the market
altogether. Where there is no market, there is no money either.
Although
the present trend of economic policies leads toward socialism, the United States
and some other countries have still preserved the characteristic features of the
market economy. Up to now the champions of government control of business have
not yet succeeded in attaining their ultimate goal.
The Fair Deal party
has maintained that it is the duty of the government to determine what prices,
wage rates, and profits are fair and what not, and then to enforce its rulings
by the police power and the courts. It further maintains that it is a function
of the government to keep the rate of interest at a fair level by means of
credit expansion. Finally, it urges a system of taxation that aims at the
equalization of incomes and wealth. Full application of either the first or the
last of these principles would by itself consummate the establishment of
socialism. But things have not yet moved so far in this country. The resistance
of the advocates of economic freedom has not yet been broken entirely. There is
still an opposition that has prevented the permanent establishment of direct
control of all prices and wages and the total confiscation of all incomes above
a height deemed fair by those whose income is lower. In the countries on this
side of the Iron Curtain the battle between the friends and the foes of
totalitarian all-round planning is still undecided.
In this great conflict
the advocates of public control cannot do without inflation. They need it in
order to finance their policy of reckless spending and of lavishly subsidizing
and bribing the voters. The undesirable but inevitable consequence of inflation,
the rise in prices, provides them with a welcome pretext to establish price
control and thus step by step to realize their scheme of all-round planning. The
illusory profits which the inflationary falsification of economic calculation
makes appear are dealt with as if they were real profits; in taxing them away
under the misleading label of excess profits, parts of the capital invested are
confiscated. In spreading discontent and social unrest, inflation generates
favorable conditions for the subversive propaganda of the self-styled champions
of welfare and progress. The spectacle that the political scene of the last two
decades has offered has been really amazing. Governments without any hesitation
have embarked upon vast inflation and government economists have proclaimed
deficit spending and "expansionist" monetary and credit management as the surest
way toward prosperity, steady progress, and economic improvement. But the same
governments and their henchmen have indicted business for the inevitable
consequences of inflation. While advocating high prices and wage rates as a
panacea and praising the administration for having raised the "national income"
(of course, expressed in terms of a depreciating currency) to an unprecedented
height, they blamed private enterprise for charging outrageous prices and
profiteering. While deliberately restricting the output of agricultural products
in order to raise prices, statesmen have had the audacity to contend that
capitalism creates scarcity and that but for the sinister machinations of big
business there would be plenty of everything. And millions of voters have
swallowed all this.
There is need to realize that the economic policies of
self-styled progressives cannot do without inflation. They cannot and never will
accept a policy of sound money. They can abandon neither their policies of
deficit spending nor the help their anticapitalist propaganda receives from the
inevitable consequences of inflation. It is true they talk about the necessity
of doing away with inflation. But what they mean is not to end the policy of
increasing the quantity of money in circulation but to establish price control,
that is, futile schemes to escape the emergency arising inevitably from their
policies.
Monetary reconstruction, including the abandonment of inflation
and the return to sound money, is not merely a problem of financial technique
that can be solved without change in the structure of general economic policies.
There cannot be stable money within an environment dominated by ideologies
hostile to the preservation of economic freedom. Bent on disintegrating the
market economy, the ruling parties will certainly not consent to reforms that
would deprive them of their most formidable weapon, inflation. Monetary
reconstruction presupposes first of all total and unconditional rejection of
those allegedly progressive policies which in the United States are designated
by the slogans New Deal and Fair Deal.
2 The Integral Gold Standard
Sound money still means today what it meant in the nineteenth
century: the gold standard.
The eminence of the gold standard consists in
the fact that it makes the determination of the monetary unit's purchasing power
independent of the measures of governments. It wrests from the hands of the
"economic tsars" their most redoubtable instrument. It makes it impossible for
them to inflate. This is why the gold standard is furiously attacked by all
those who expect that they will be benefited by bounties from the seemingly
inexhaustible government purse.
What is needed first of all is to force
the rulers to spend only what, by virtue of duly promulgated laws, they have
collected as taxes. Whether governments should borrow from the public at all
and, if so, to what extent are questions that are irrelevant to the treatment of
monetary problems. The main thing is that the government should no longer be in
a position to increase the quantity of money in circulation and the amount of
checkbook money not fully—that is, 100 percent—covered by deposits paid in by
the public. No backdoor must be left open where inflation can slip in. No
emergency can justify a return to inflation. Inflation can provide neither the
weapons a nation needs to defend its independence nor the capital goods required
for any project. It does not cure unsatisfactory conditions. It merely helps the
rulers whose policies brought about the catastrophe to exculpate
themselves.
One of the goals of the reform suggested is to explode and to
kill forever the superstitious belief that governments and banks have the power
to make the nation or individual citizens richer, out of nothing and without
making anybody poorer. The shortsighted observer sees only the things the
government has accomplished by spending the newly created money. He does not see
the things the nonperformance of which provided the means for the government's
success. He fails to realize that inflation does not create additional goods but
merely shifts wealth and income from some groups of people to others. He
neglects, moreover, to take notice of the secondary effects of inflation:
malinvestment and decumulation of capital.
Notwithstanding the passionate
propaganda of the inflationists of all shades, the number of people who
comprehend the necessity of entirely stopping inflation for the benefit of the
public treasury is increasing. Keynesianism is losing face even at the
universities. A few years ago governments proudly boasted of the "unorthodox"
methods of deficit spending, pump-priming, and raising the "national income."
They have not discarded these methods but they no longer brag about them. They
even occasionally admit that it would not be such a bad thing to have balanced
budgets and mon etary stability. The political chances for a return to sound
money are still slim, but they are certainly better than they have been in any
other period since 1914.
Yet most of the supporters of sound money do not
want to go beyond the elimination of inflation for fiscal purposes. They want to
prevent any kind of government borrowing from banks issuing banknotes or
crediting the borrower on an account subject to check. But they do not want to
prevent in the same way credit expansion for the sake of lending to business.
The reform they have in mind is by and large bringing back the state of affairs
prevailing before the inflations of World War I. Their idea of sound money is
that of the nineteenth-century economists with all the errors of the British
Banking School that disfigured it. They still cling to the schemes whose
application brought about the collapse of the European banking systems and
currencies and discredited the market economy by generating the almost regular
recurrence of periods of economic depression.
There is no need to add
anything to the treatment of these problems as provided in part three of this
volume and also in my book Human Action. If one wants to avoid the recurrence of
economic crises, one must avoid the expansion of credit that creates the boom
and inevitably leads into the slump.
Even if for the sake of argument we
neglect to refer to these issues, one must realize that conditions are no longer
such as the nineteenth-century champions of bank-credit expansion had in
mind.
These statesmen and authors regarded the government's financial
needs as the main and practically the only threat to the privileged bank's or
banks' solvency. Ample historical experience had proved that the government
could and did force the banks to lend to them. Suspension of the banknotes'
convertibility and legal-tender provisions had transformed the "hard" currencies
of many countries into questionable paper money. The logical conclusion to be
drawn from these facts would have been to do away with privileged banks
altogether and to subject all banks to the rule of common law and the commercial
codes that oblige everybody to perform contracts in full faithfulness to the
pledged word. Free banking would have spared the world many crises and
catastrophes. But the tragic error of nineteenth-century bank doctrine was the
belief that lowering the rate of interest below the height it would have on an
unhampered market is a blessing for a nation and that credit expansion is the
right means for the attainment of this end. Thus arose the characteristic
duplicity of the bank policy. The central bank or banks must not lend to the
government but should be free, within certain limits, to expand credit to
business. The idea was that in this way one could make the central banking
function independent of the government.
Such an arrangement presupposes
that government and business are two distinct realms of the conduct of affairs.
The government levies taxes but it does not interfere with the way the various
enterprises operate. If the government meddles with central-bank affairs, its
objective is to borrow for the treasury and not to induce the banks to lend more
to business. In making bank loans to the government illegal, the bank's
management is enabled to gauge its credit transactions in accordance with the
needs of business only.
Whatever the merits or demerits of this point of
view may have been in older days,[1] it is obvious that it is no longer of any
consequence. The main inflationary motive of our day is the so-called
full-employment policy, not the treasury's incapacity to fill its empty vaults
from sources other than bank loans. Monetary policy is regarded—wrongly, of
course—as an instrument for keeping wage rates above the height they would have
reached on an unhampered labor market. Credit expansion is subservient to the
unions. If a hundred or seventy years ago the government of a Western nation had
ventured to extort a loan from the central bank, the public would unanimously
have sided with the bank and thwarted the plot. But for many years there has
been little opposition to credit expansion for the sake of "creating jobs," that
is, for providing business with the money needed for the payment of the wage
rates which the unions, strongly aided by the government, force business to
grant. Nobody took notice of warning voices when England in 1931 and the United
States in 1933 entered upon the policy for which Lord Keynes, a few years later
in his General Theory, tried to concoct a justification, and when in 1936 Blum,
in imposing upon the French employers the so-called Matignon agreements, ordered
the Bank of France to lend freely the sums business needed for complying with
the dictates of the unions.
Inflation and credit expansion are the means
to obfuscate the fact that there prevails a nature-given scarcity of the
material things on which the satisfaction of human wants depends. The main
concern of capitalist private enterprise is to remove this scarcity as much as
possible and to provide a continuously improving standard of living for an
increasing population. The historian cannot help noting that laissez-faire and
rugged individualism have to an unprecedented extent succeeded in their
endeavors to supply the common man more and more amply with food, shelter, and
many other amenities. But however remarkable these improvements may be, there
will always be a strict limit to the amount that can be consumed without
reducing the capital available for the continuation and, even more, the
expansion of production.
In older ages social reformers believed that all
that was needed to improve the material conditions of the poorer strata of
society was to confiscate the surplus of the rich and to distribute it among
those having less. The falsehood of this formula, despite the fact that it is
still the ideological principle guiding present-day taxation, is no longer
contested by any reasonable man. One may neglect stressing the point that such a
distribution can add only a negligible amount to the income of the immense
majority. The main thing is that the total amount produced in a nation or in the
whole world over a definite period of time is not a magnitude independent of the
mode of society's economic organization. The threat of being deprived by
confiscation of a considerable or even the greater part of the yield of one's
own activities slackens the individual's pursuit of wealth and thus results in a
diminution of the national product. The Marxian socialists once indulged in
reveries concerning a fabulous increase in riches to be expected from the
socialist mode of production. The truth is that every infringement of property
rights and every restriction of free enterprise impairs the productivity of
labor. One of the foremost concerns of all parties hostile to economic freedom
is to withhold this knowledge from the voters. The various brands of socialism
and interventionism could not retain their popularity if people were to discover
that the measures whose adoption is hailed as social progress curtail production
and tend to bring about capital decumulation. To conceal these facts from the
public is one of the services inflation renders to the so-called progressive
policies. Inflation is the true opium of the people and it is administered to
them by anticapitalist governments and parties.
3 Currency Reform in Ruritania
When compared with conditions in the United States or in
Switzerland, Ruritania appears a poor country. The average income of a
Ruritanian is below the average income of an American or a Swiss.
Once, in
the past, Ruritania was on the gold standard. But the government issued little
sheets of printed paper to which it assigned legal-tender power in the ratio of
one paper rur to one gold rur. All residents of Ruritania were made to accept
any amount of paper rurs as the equivalent of the same nominal amount of gold
rurs. The government alone did not comply with the rule it had decreed. It did
not convert paper rurs into gold rurs in accordance with the ratio 1 : 1. As it
went on increasing the quantity of paper rurs, the effects resulted which
Gresham's law describes. The gold rurs disappeared from the market. They were
either hoarded by Ruritanians or sold abroad.
Almost all the nations of
the earth have behaved in the way the Ruritanian government did. But the rates
of the inflationary increase of the quantities of their national fiat money have
been different. Some nations were more moderate in issuing additional
quantities, some less. The result is that the exchange ratios between the
various nations' local fiat-money currencies are no longer the same ratios that
prevailed between their currencies in the period before they went off the gold
standard. In those old days five gold rurs were equal to one gold dollar.
Although today's dollar is no longer the equivalent of the weight of gold it
represented under the gold standard, that is, before 1933, 100 paper rurs are
needed to buy one of these depreciated dollars. A short time ago eighty paper
rurs could buy one dollar. If the present rates of inflation both in the United
States and in Ruritania do not change, the paper rur will drop more and more in
terms of dollars.
The Ruritanian government knows very well that all it
has to do in order to prevent a further depreciation of the paper rur as against
the dollar is to slow down the deficit spending it finances by continued
inflation. In fact, in order to maintain a stable exchange rate against the
dollar, it would not be forced to abandon inflation altogether. It would only
have to reduce it to a rate in due proportion to the extent of American
inflation. But, government officials say, it is impossible for Ruritania, being
a poor country, to balance its budget with a smaller amount of inflation than
the present one. For such a reduction would enjoin upon it the necessity of
undoing some of the results of social progress and of relapsing into the
conditions of "social backwardness" of the United States. The government has
nationalized railroads, telegraphs, and telephones and operates various plants,
mines, and branches of industry as national enterprises. Every year the conduct
of affairs of almost all the public undertakings produces a deficit that must be
covered by taxes collected from the shrinking group of nonnationalized and
nonmunicipalized businesses. Private business is a source of the treasury's
revenue. Nationalized industry is a drain upon the government's funds. But these
funds would be insufficient in Ruritania if not swelled by more and more
inflation.
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.
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. As soon
as the second step has been taken, any amount of rurs can be converted into gold
or dollars without any delay and any amount of gold or dollars into rurs. The
agency, whatever its appellation may be, that the reform law entrusts with the
performance of these exchange operations needs for technical reasons a certain
small reserve of gold or dollars. But its main concern is, at least in the
initial stage of its functioning, how to provide the rurs necessary for the
exchange of gold or foreign currency against rurs. To enable the agency to
perform this task, it has to be entitled to issue additional rurs against a
full—100 percent—coverage by gold or foreign exchange bought from the
public.
It is politically expedient not to charge this agency with any
responsibilities and duties other than those of buying and selling gold or
foreign exchange according to the legal parity. Its task is to make this legal
parity an effective real market rate, preventing, by unconditional redemption of
rurs, a drop of their market price against legal parity, and, by unconditional
buying of gold or foreign exchange, an enhancement of the price of rurs as
against legal parity.
At the very start of its operations the agency
needs, as has been mentioned, a certain reserve of gold or foreign exchange.
This reserve has to be lent to it either by the government or by the central
bank, free of interest and never to be recalled. No business other than this
preliminary loan must be negotiated between the govern ment and any bank or
institution dependent on the government on the one hand and the agency on the
other hand. [2] The total amount of rurs issued before the start of the new
monetary regime must not be increased by any operations on the part of the
government; only the agency is free to issue additional new rurs, rigidly
complying in such issuance with the rule that each of these new rurs must be
fully covered by gold or foreign exchange paid in by the public in exchange for
them.
The government's mint may go on to coin and to issue as many
fractional or subsidiary coins as seem to be needed by the public. In order to
prevent the government from misusing its monopoly of mintage for inflationary
ventures and flooding the market, under the pretext of catering to peoples'
demand for "change," with huge quantities of such tokens, two provisions are
imperative. To these fractional coins only a strictly limited legal-tender power
should be given for payments to any payee but the government. Against the
government alone they should have unlimited legal-tender power, and the
government, moreover, must be obliged to redeem in rurs, without any delay and
without any cost to the bearer, any amount presented, either by any private
individual, firm, or corporation or by the agency. Unlimited legal-tender power
must be reserved to the various denominations of banknotes of one rur and
upward, issued either before the reform or, if after the reform, against full
coverage in gold or foreign exchange.
Apart from this exchange of
fractional coins against legal-tender rurs the agency deals exclusively with the
public and not with the government or any of the institutions dependent on it,
especially not with the central bank. The agency serves the public and deals
exclusively with that part of the public that wants to avail itself, of its own
free accord, of the agency's services. But no privileges are accorded to the
agency. It does not get a monopoly for dealing in gold or foreign exchange. The
market is perfectly free from any restriction. Everybody is free to buy or sell
gold or foreign exchange. There is no centralization of such transactions.
Nobody is forced to sell gold or foreign exchange to the agency or to buy gold
or foreign exchange from it.
When these measures are once achieved,
Ruritania is either on the gold-exchange standard or on the dollar-exchange
standard. It has stabilized its currency as against gold or the dollar. This is
enough for the beginning. There is no need for the moment to go further. No
longer threatened by a breakdown of its currency, the nation can calmly wait to
see how monetary affairs in other countries will develop.
The reform
suggested would deprive the government of Ruritania of the power to spend any
rur above the sums collected by taxing the citizens or by borrowing from the
public, whether domestic or foreign. Once this is achieved, the specter of an
unfavorable balance of payment fades away. If Ruritanians want to buy foreign
products, they must export domestic products. If they do not export, they cannot
import.
But, says the inflationist, what about the flight of capital? Will
not unpatriotic citizens of Ruritania and foreigners who have invested capital
within the country try to transfer their capital to other countries offering
better prospects for business?
John Badman, a Ruritanian, and Paul Yank,
an American, have invested in Ruritania in the past. Badman owns a mine, Yank a
factory. Now they realize that their investments are unsafe. The Ruritanian
government is committed to a policy that confiscates not only all the yields of
their investments but step by step the substance too. Badman and Yank want to
salvage what still can be salvaged; they want to sell against rurs and to
transfer the proceeds by buying dollars and exporting them. But their problem is
to find a buyer. If all those who have the funds needed for such a purchase
think like them, it will be absolutely impossible to sell even at the lowest
price. Badman and Yank have missed the right moment. Now it is too
late.
But perhaps there are buyers. Bill Sucker, an American, and Peter
Simple, a Ruritanian, believe that the prospects of the investments concerned
are more propitious than Badman and Yank assume. Sucker has dollars ready; he
buys rurs and against these rurs Yank's factory. Yank buys the dollars Sucker
has sold to the agency. Simple has saved rurs and invests his savings in
purchasing Badman's mine. It would have been possible for him to employ his
savings in a different way, to buy producers' or consumers' goods in Ruritania.
The fact that he does not buy these goods brings about a drop in their prices or
prevents a rise which would have occurred if he had bought them. It disarranges
the price structure on the domestic market in such a way as to make exports
possible that could not be effected before or to prevent imports which were
effected before. Thus it produces the amount of dollars which Badman buys and
sends abroad.
A specter that worries many advocates of foreign-exchange
control is the assumption that the Ruritanians engaged in export trade could
leave the foreign-exchange proceeds of their business abroad and thus deprive
their country of a part of its foreign exchange.
Miller is such an
exporter He buys commodity A in Ruritania and sells it abroad. Now he chooses to
go out of business and to transfer all his assets to a foreign country. But this
does not stop Ruritania's exporting A. As according to our assumption there can
be profits earned by buying A in Ruritania and selling it abroad, the trade will
go on. If no Ruritanian has the funds needed for engaging in it, foreigners will
fill the gap. For there are always people in markets not entirely destroyed by
government sabotage who are eager to take advantage of any opportunity to earn
profits.
Let us emphasize this point again: If people want to consume what
other people have produced, they must pay for it by giving the sellers something
they themselves have produced or by rendering them some services. This is true
in the relation between the people of the state of New York and those of Iowa no
less than in the relation between the people of Ruritania and those of
Laputania. The balance of payments always balances. For if the Ruritanians (or
New Yorkers) do not pay, the Laputanians (or Iowans) will not sell.
4 The United States' Return to a Sound Currency
With Washington politicians and
Wall Street pundits the problem of a return to the gold standard is taboo. Only
imbecile or ignorant people, say the professorial and journalistic apologists of
inflation, can nurture such an absurd idea.
These gentlemen would be
perfectly right if they were merely to assert that the gold standard is
incompatible with the methods of deficit spending. One of the main aims of a
return to gold is precisely to do away with this system of waste, corruption,
and arbitrary government. But they are mistaken if they would have us believe
that the reestablishment and preservation of the gold standard is Economically
and technically impossible.
The first step must be a radical and
unconditional abandonment of any further inflation. The total amount of dollar
bills, whatever their name or legal characteristic may be, must not be increased
by further issuance. No bank must be permitted to expand the total amount of its
deposits subject to check or the balance of such deposits of any individual
customer, be he a private citizen or the U.S. Treasury, otherwise than by
receiving cash deposits in legal-tender banknotes from the public or by
receiving a check payable by another domestic bank subject to the same
limitations. This means a rigid 100 percent reserve for all future deposits;
that is, all deposits not already in existence on the first day of the
reform.
At the same time all restrictions on trading and holding gold must
be repealed. The free market for gold is to be reestablished. Everybody, whether
a resident of the United States or of any foreign country, will be free to buy
and to sell, to lend and to borrow, to import and to export, and, of course, to
hold any amount of gold, whether minted or not minted, in any part of the
nation's territory as well as in foreign countries.
It is to be expected
that this freedom of the gold market will result in the inflow of a considerable
quantity of gold from abroad. Private citizens will probably invest a part of
their cash holdings in gold. In some foreign countries the sellers of this gold
exported to the United States may hoard the dollar bills received and leave the
balances with American banks untouched. But many or most of these sellers of
gold will probably buy American products.
In this first period of the
reform it is imperative that the American government and all institutions
dependent upon it, including the Federal Reserve System, keep entirely out of
the gold market. A free gold market could not come into existence if the
administration were to try to manipulate the price by underselling. The new
monetary regime must be protected against malicious acts by officials of the
Treasury and the Federal Reserve System. There cannot be any doubt that
officialdom will be eager to sabotage a reform whose main purpose is to curb the
power of the bureaucracy in monetary matters.
The unconditional
prohibition of the further issuance of any piece of paper to which legal-tender
power is granted refers also to the issuance of the type of bills called silver
certificates. The constitutional prerogative of Congress to decree that the
United States is bound to buy definite quantities of a definite commodity,
whether silver or potatoes or something else, at a definite price exceeding the
market price and to store or to dump the quantities purchased must not be
infringed. But such purchases are henceforth to be paid out of funds collected
by taxing the people or by borrowing from the public.
It is probable that
the price of gold established after some oscillations on the American market
will be higher than $35 per ounce, the rate of the Gold Reserve Act of 1934. It
may be somewhere between $36 and $38, perhaps even somewhat higher. Once the
market price has attained some stability, the time will have come to decree this
market rate as the new legal parity of the dollar and to secure its
unconditional convertibility at this parity.
A new agency is to be
established, the Conversion Agency. The United States government lends to it a
certain amount, let us say one billion dollars, in gold bullion (computed at the
new parity), free of interest and never to be recalled. The Conversion Agency
has two functions only: First, to sell gold bullion at the parity price to the
public against dollars without any restriction. After a short time, when the
mint will have coined a sufficient quantity of new American gold coins, the
Conversion Agency will be obliged to hand out such gold pieces against paper
dollars and checks drawn upon a solvent American bank. Second, to buy, against
dollar bills at the legal parity, any amount of gold offered to it. To enable
the Conversion Agency to execute this second task it is to be entitled to issue
dollar bills against a 100 percent reserve in gold.
The Treasury is bound
to sell gold—bullion or new American coins—to the Conversion Agency at legal
parity against any kind of American legal-tender bills issued before the start
of the reform, against American token coins, or against checks drawn upon a
member bank. To the extent that such sales reduce the government's gold
holdings, the total amount of all varieties of legal-tender paper sheets, issued
before the start of the reform, and of member-bank deposits subject to check is
to be reduced. How this reduction is to be distributed among the various classes
of these types of currency can be left, apart from the problem of the banknotes
of small denominations, to be dealt with later,[3] to the discretion of the
Treasury and the Federal Reserve Board.
It is essential for the reform
suggested that the Federal Reserve System should be kept out of its way.
Whatever one may think about the merits or demerits of the Federal Reserve
legislation of 1913, the fact remains that the system has been abused by the
most reckless inflationary policy. No institution and no man connected in any
way with the blunders and sins of the past decades must be permitted to
influence future monetary conditions.
The Federal Reserve System is
saddled with an awkward problem, namely, the huge amount of government bonds
held by the member banks. Whatever solution may be adopted for this question, it
must not affect the purchasing power of the dollar Government finance and the
nation's medium of exchange have in the future to be two entirely separate
things.
The banknotes issued by the Federal Reserve System as well as the
silver certificates may remain in circulation. Unconditional convertibility and
the strict prohibition of any further increase of their amount will have
radically changed their catallactic character It is this alone that
counts.
However, a very important change concerning the denomination of
these notes is indispensable. What the United States needs is not the
gold-exchange standard but the classical old gold standard, decried by the
inflationists as orthodox. Gold must be in the cash holdings of everybody.
Everybody must see gold coins changing hands, must be used to having gold coins
in his pockets, to receiving gold coins when he cashes his paycheck, and to
spending gold coins when he buys in a store.
This state of affairs can be
easily achieved by withdrawing all bills of the denominations of five, ten, and
perhaps also twenty dollars from circulation. There will be under the suggested
new monetary regime two classes of legal-tender paper bills: the old stock and
the new stock. The old stock consists of all those paper sheets that at the
start of the reform were in circulation as legal-tender paper, without regard to
their appellation and legal quality other than legal-tender power. It is
strictly forbidden to increase this stock by the further issuance of any
additional notes of this class. On the other hand, it will decrease to the
extent that the Treasury and the Federal Reserve Board decree that the reduction
in the total amount of legal-tender notes of this old stock plus bank deposits
subject to check, existing at the start of the reform, has to be effected by the
final withdrawal and destruction of definite quantities of such old-stock
legal-tender notes. Moreover, the Treasury is bound to withdraw from
circulation, against the new gold coins, and to destroy, within a period of one
year after the promulgation of the new legal gold parity of the dollar, all
notes of five, ten, and perhaps also twenty dollars.
It does not require
any special mention that the new-stock legal-tender notes to be issued by the
Conversion Agency must be issued only in denominations of one dollar or fifty
dollars and upward.
Old British banking doctrine banned small banknotes
(in their opinion, notes smaller than £5) because it wanted to protect the
poorer strata of the population, supposed to be less familiar with the
conditions of the banking business and therefore more liable to be cheated by
wicked bankers. Today the main concern is to protect the nation against a
repetition of the inflationary practices of governments. The gold-exchange
standard, whatever argument may be advanced in its favor, is vitiated by an
incurable defect. It offers to governments an easy opportunity to embark upon
inflation unbeknown to the nation. With the exception of a few specialists,
nobody becomes aware in time of the fact that a radical change in monetary
matters has occurred. Laymen, that is 9,999 out of 10,000 citizens, do not
realize that it is not commodities that are becoming dearer but their tender
that is becoming cheaper.
What is needed is to alarm the masses in time.
The workingman in cashing his paycheck should learn that some foul trick has
been played upon him. The President, Congress, and the Supreme Court have
clearly proved their inability or unwillingness to protect the common man, the
voter, from being victimized by inflationary machinations. The function of
securing a sound currency must pass into new hands, into those of the whole
nation. As soon as Gres ham's law begins to come into play and bad paper drives
good gold out of the pockets of the common man, there should be a stir.
Perpetual vigilance on the part of the citizens can achieve what a thousand laws
and dozens of alphabetical bureaus with hordes of employees never have and never
will achieve: the preservation of a sound currency.
The classical or
orthodox gold standard alone is a truly effective check on the power of the
government to inflate the currency. Without such a check all other
constitutional safeguards can be rendered vain.
5 The Controversy Concerning the Choice of the New Gold Parity
Some advocates of a return to
the gold standard disagree on an important point with the scheme designed in the
preceding section. In the opinion of these dissenters there is no reason to
deviate from the gold price of $35 per ounce as decreed in 1934. This rate, they
assert, is the legal parity, and it would be iniquitous to devalue the dollar in
relation to it.
The controversy between the two groups, those advocating
the return to gold at the previous parity (whom we may call the restorers) and
those recommending the adoption of a new parity consonant with the present
market value of the currency that is to be put upon a gold basis (we may call
them the stabilizers), is not new. It has flared up whenever a currency
depreciated by inflation has had to be returned to a sound basis.
The
restorers look upon money primarily as the standard of deferred payments. A
consistent restorer would have to argue in this way: People have in the past,
that is, before 1933, made contracts in virtue of which they promised to pay a
definite amount of dollars which at that time meant standard dollars, containing
25.8 grains of gold, nine-tenths fine. It would be manifestly unfair to the
creditors to give the debtors the right to fulfill such contracts by the payment
of the same nominal number of dollars containing a smaller weight of
gold.
However, the reasoning of such consistent restorers would be correct
only if all existing claims to deferred payments had been contracted before 1933
and if the present creditors of such contracts were the same people (or their
heirs) who had originally made the contracts. Both these assumptions are
contrary to fact. Most of the pre-1933 contracts have already been settled in
the two decades that have elapsed. There are, of course, also government bonds,
corporate bonds, and mortgages of pre-1933 origin. But in many or even in most
cases these claims are no longer held by the same people who held them before
1933. Why should a man who in 1951 bought a corporate bond issued in 1928 be
indemnified for losses which not he himself but one of the preceding owners of
this bond suffered? And why should a municipality or a corporation that borrowed
depreciated dollars in 1945 be liable to pay back dollars of greater gold weight
and purchasing power?
In fact there are in present-day America hardly any
consistent restorers who would recommend a return to the old pre-Roosevelt
dollar. There are only inconsistent restorers who advocate a return to the
Roosevelt dollar of 1934, the dollar of 15 5/21 grains of gold, nine-tenths
fine. But this gold content of the dollar, fixed by the President in virtue of
the Gold Reserve Act of January 30, 1934, was never a legal parity. It was, as
far as the domestic affairs of the United States are concerned, merely of
academic value. It was without any legal-tender validity. Legal tender under the
Roosevelt legislation was only various sheets of printed paper. These sheets of
paper could not be converted into gold. There was no longer any gold parity of
the dollar. To hold gold was a criminal offense for the residents of the United
States. The Roosevelt gold price of $35 per ounce (instead of the old price of
$20.67 per ounce) had validity only for the government's purchases of gold and
for certain transactions between the American Federal Reserve and foreign
governments and central banks. Those juridical considerations that the
consistent restorers could possibly advance in favor of a return to the
pre-Roosevelt dollar parity are of no avail when advanced in favor of the rate
of 1934 that was not a parity.
It is paradoxical indeed that the
inconsistent restorers try to justify their proposal by referring to honesty.
For the role the gold content of the dollar they want to restore played in
American monetary history was certainly not honest in the sense in which they
employ this term. It was a makeshift in a scheme which these very restorers
themselves condemn as dishonest.
However, the main deficiency of any form
of the restorers' arguments, whether they consistently advocate the McKinley
dollar or inconsistently the Roosevelt dollar, is to be seen in the fact that
they look upon money exclusively from the point of view of its function as the
standard of deferred payments. As they see it, the main fault or even the only
fault of an inflationary policy is that it favors the debtors at the expense of
the creditors. They neglect the other more general and more serious effects of
inflation.
Inflation does not affect the prices of the various commodities
and services at the same time and to the same extent. Some prices rise sooner,
some lag behind. While inflation takes its course and has not yet exhausted all
its price-affecting potentialities, there are in the nation winners and losers.
Winners—popularly called profiteers if they are entrepreneurs—are people who are
in the fortunate position of selling commodities and services the prices of
which are already adjusted to the changed relation of the supply of and the
demand for money while the prices of commodities and services they are buying
still correspond to a previous state of this relation. Losers are those who are
forced to pay the new higher prices for the things they buy while the things
they are selling have not yet risen at all or not sufficiently. The serious
social conflicts which inflation kindles, all the grievances of consumers, wage
earners, and salaried people it originates, are caused by the fact that its
effects appear neither synchronously nor to the same extent. If an increase in
the quantity of money in circulation were to produce at one blow proportionally
the same rise in the prices of every kind of commodities and services, changes
in the monetary unit's purchasing power would, apart from affecting deferred
payments, be of no social consequence; they would neither benefit nor hurt
anybody and would not arouse political unrest. But such an evenness in the
effects of inflation—or, for that matter, of deflation—can never
happen.
The great Roosevelt-Truman inflation has, apart from depriving all
creditors of a considerable part of principal and interest, gravely hurt the
material concerns of a great number of Americans. But one cannot repair the evil
done by bringing about a deflation. Those favored by the uneven course of the
deflation will only in rare cases be the same people who were hurt by the uneven
course of the inflation. Those losing on account of the uneven course of the
deflation will only in rare cases be the same people whom the inflation has
benefited. The effects of a deflation produced by the choice of the new gold
parity at $35 per ounce would not heal the wounds inflicted by the inflation of
the two last decades. They would merely open new sores.
Today people
complain about inflation. If the schemes of the restorers are executed, they
will complain about deflation. As for psychological reasons, the effects of
deflation are much more unpopular than those of inflation; a powerful
proinflation movement would spring up under the disguise of an antideflation
program and would seriously jeopardize all attempts to reestablish a sound-money
policy.
Those questioning the conclusiveness of these statements should
study the monetary history of the United States. There they will find ample
corroborating material. Still more instructive is the monetary history of Great
Britain.
When, after the Napoleonic wars, the United Kingdom had to face
the problem of reforming its currency it chose the return to the prewar gold
parity of the pound and gave no thought to the idea of stabilizing the exchange
ratio between the paper pound and gold as it had developed on the market under
the impact of the inflation. It preferred deflation to stabilization and to the
adoption of a new parity consonant with the state of the market. Calamitous
economic hardships resulted from this deflation; they stirred social unrest and
begot the rise of an inflationist movement as well as the anticapitalistic
agitation from which after a while Engels and Marx drew their
inspiration.
After the end of World War I England repeated the error
committed after Waterloo. It did not stabilize the actual gold value of the
pound. It returned in 1925 to the old prewar and preinflation parity of the
pound. As the labor unions would not tolerate an adjustment of wage rates to the
increased gold value and purchasing power of the pound, a crisis of British
foreign trade resulted. The government and the journalists, both terrorized by
the union leaders, timidly refrained from making any allusion to the height of
wage rates and the disastrous effects of the union tactics. They blamed a
mysterious overvaluation of the pound for the decline in British exports and the
resulting spread of unemployment. They knew only one remedy, inflation. In 1931
the British government adopted it.
There cannot be any doubt that British
inflationism got its strength from the conditions that had developed out of the
deflationary currency reform of 1925. It is true that but for the stubborn
policy of the unions the effects of the deflation would have been absorbed long
before 1931. Yet the fact remains that in the opinion of the masses, conditions
gave an apparent justification to the Keynesian fallacies. There is a close
connection between the 1925 reform and the popularity that inflationism enjoyed
in Great Britain in the thirties and forties.
The inconsistent restorers
advance in favor of their plans the fact that the deflation they would bring
about would be small, since the difference between a gold price of $35 and a
gold price of $37 or $38 is rather slight. Now whether this difference is to be
regarded as slight or not is a matter of an arbitrary judgment. Let us for the
sake of argument accept its qualification as slight. It is certainly true that a
smaller deflation has less undesirable effects than a bigger one. But this
truism is no valid argument in favor of a deflationary policy the inexpediency
of which is undeniable.
6 Concluding Remarks
The present
unsatisfactory state of monetary affairs is an outcome of the social ideology to
which our contemporaries are committed and of the economic policies which this
ideology begets. People lament over inflation, but they enthusiastically support
policies that could not go on without inflation. While they grumble about the
inevitable consequences of inflation, they stubbornly oppose any attempt to stop
or to restrict deficit spending.
The suggested reform of the currency
system and the return to sound monetary conditions presuppose a radical change
in economic philosophies. There cannot be any question of the gold standard as
long as waste, capital decumulation, and corruption are the foremost
characteristics of the conduct of public affairs.
Cynics dispose of the
advocacy of a restitution of the gold standard by calling it utopian. Yet we
have only the choice between two utopias: the utopia of a market economy, not
paralyzed by government sabotage on the one hand, and the utopia of totalitarian
all-round planning on the other hand. The choice of the first alternative
implies the decision in favor of the gold standard.
[1] About the fundamental error of this
point of view, see pp. 339-366 above.
[2] For the only exception to this rule,
see next paragraph below.
[3] See p. 451 below.
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