The Inflation Crisis, and How to Resolve It

24

Free Choice of Currencies

The preceding chapter originally appeared, in slightly different form, in the Freeman of November 1975 (Foundation for Economic Education, Irvington-on-Hudson, N.Y.). Since then, Professor F. A. Hayek, the Nobel laureate, has published two remarkable pamphlets embodying similar proposals, but carrying them in some important respects further.

The first of these is Choice in Currency.1 I find this wholly admirable. Hayek begins by pointing out that the chief root of our recent monetary troubles is the scientific authority which the Keynesians seemed to give to the superstition that increasing the quantity of money can ensure prosperity and full employment. He then proceeds to point out the fallacies in this view. Inflation, however, he concedes, even before explicit Keynesianism, largely dominated monetary history until the emergence of the gold standard. The gold standard brought two centuries of relatively stable prices and made possible the development of modern industrialism: “It was the main function of the gold standard, of balanced budgets, of the necessity for deficit countries to contract their circulation, and of the limitation of the supply of ‘international liquidity,’ “ he points out, “to make it impossible for the monetary authorities to capitulate to the pressure for more money.”2

But under present world political conditions he does not believe that we can now remedy the situation by

constructing some new international monetary order, whether a new international monetary authority or institution, or even an international agreement to adopt a particular mechanism or system of policy, such as the classical gold standard. I am fairly convinced that any attempt now to re-instate the gold standard by international agreement would break down within a short time and merely discredit the ideal of an international gold standard for even longer. Without the conviction of the public at large that certain immediately painful measures are occasionally necessary to preserve reasonable stability, we cannot hope that any authority which has the power to determine the quantity of money will long resist the pressure for, or the seduction of, cheap money.3

What, then, is the remedy? What is so dangerous and ought to be done away with, Hayek insists, is not the right of governments to issue money but their exclusive right to do so and their power to force people to use it and to accept it at a particular price. The legal tender laws should be repealed.

A great deal of confusion has existed about this. It is necessary, of course, for the government to decide what kind of money it will accept in payment of taxes, and it is necessary for the courts to be able to decide, in case of dispute, in what kind of money private debts should be paid. No doubt, in the absence of specification, courts would continue to decide that debts can be paid off in the official money of the country, no matter how much it may have depreciated. But if the debtor and creditor have expressly contracted for a payment to be made in gold, or in Swiss francs, or in German marks, then the courts should hold that contract valid. The common law of enforcement of contracts should apply.

The immediate advantages of this should be obvious. A government would no longer be able to protect its money against competition. If it continued to inflate, its citizens would forsake its money for other currencies. Inflation would no longer pay.

There is, in a sense, nothing novel about Hayek’s proposal. Toward the end of the German hyperinflation of 1919–23, people refused to accept the old paper marks on any terms, and began to do business with each other in gold, dollars, Swiss francs, and even in a multitude of private currencies. But in any country in which the legal tender laws did not exist, inflation would never again go to such tragic lengths, if, indeed, it could be continued to any substantial extent at all.

If the present writer were to venture a prediction, it would be that when the gold standard is restored—as I believe it eventually will be—it is far more likely to be restored first, not in countries that have been suffering the least, but in those that have been suffering the most inflation. It will first happen, not by deliberate governmental policy, but by breakdown and default. No matter what the nominal legal penalties, people will cease doing business in the national paper money. (They did so not only in Germany in 1923, but in the assignat period in France, and in Soviet Russia in 1923.)

De-Monopolization of Money

I should like to turn now to the second Hayek pamphlet that I referred to a few pages back. This is called Denationalization of Money.4

It followed eights months after Choice in Currency, and it continues the argument put forward in the latter. That argument is summarized in ten numbered points printed on the pamphlet’s back cover. I quote the first five:

1. The government monopoly of money must be abolished to stop the recurring bouts of acute inflation and deflation that have become accentuated during the last 60 years.

2. Abolition is also the cure for the more deep-seated disease of the recurring waves of depression and unemployment attributed to “capitalism.”

3. The monopoly of money by government has relieved it of the need to keep its expenditure within its revenue and has thus precipitated the spectacular increase in government expenditure over the last thirty years.

4. Abolition of the monopoly of money would make it increasingly impossible for governments to restrict the international movement of men, money and capital that safeguard the ability of dissidents to escape oppression.

5. These four defects—inflation, instability, undisciplined state expenditure, economic nationalization—have a common origin and a common cure: the replacement of the governmert monopoly of money by competition in currency supplied by private issuers who, to preserve public confidence, will limit the quantity of their paper issue and thus maintain its value. This is the “denationalization” of money.

Most libertarians can endorse the first four of these points unreservedly. About the fifth and those following I personally harbor grave doubts.

“Free” private currencies have been tried. In our early American history they were tried repeatedly in nearly all the existing states. Some of the states issued their own “legal-tender” money, usually with disastrous results; and most of the private currencies that they licensed met with little better fate. Panics and financial collapses became a matter of course. To take one state at random, in Michigan, after 1836:

Fraudulent overissues were frequent and in many cases not even recorded. Before long a million dollars in worthless bank notes were in circulation, a bewildering variety of issues each circulating at its own rate of discount with a confusion that required corps of bookkeepers to keep the accounts of a firm straight. Merchants kept couriers by whom they hurried off to the banks the notes they were compelled to take, in order to exchange them—if possible—for something which had more value. Misery and bankruptcy spread over the state.... The climax came in 1844 when, nearly all the “free banks” being in the hands of receivers, the state supreme court held that the general banking law had been passed in violation of the constitution and hence that even the receiverships had no legal existence!5

Other states made other provisions and other reserve requirements for note issues by private banks, but the history of laxly controlled private-note issue in all the states is depressingly similar. The interested reader can find a short but excellent account in Groseclose’s Money and Man (pp. 180–93).

In the light of this history, I can only regard with astonishment the extraordinary optimism of Hayek regarding the outcome of unrestricted private-note issue. He assures us that private competition in issuing money will lead us to a far sounder money than the classical gold standard was ever able to provide. The private issuers, he seems to assume, will in all cases be scrupulously honest, and will have in mind only their long-run self-interest; and there-fore “money is the one thing competition would not make cheap, because its attractiveness rests on its preserving its ‘dearness’” (italics in original).6

Hayek does not seem to think that it is either necessary or desirable for the private issuers of currency to keep it convertible into gold. He suggests that their money could consist of “different abstract units.”7 How a currency could consist of a merely “abstract” unit, and how a private issuer could get it launched and accepted at a “precisely defined”8 purchasing power, he does not explain.

If he were in charge of one of the major Swiss joint-stock banks, he tells us, he would issue a unit called, say, a “ducat.” “And I would announce that I proposed from time to time to state the precise commodity equivalent in terms of which I intended to keep the value of the ducat constant, but that I reserved the right, after announcement, to alter the composition of the commodity standard as experience and the revealed preferences of the public suggested.”9

It is clear that Hayek has in mind that private issuers could and should adopt a “commodity reserve,” or “market basket,” standard. (He has advocated such a standard for a long time. For example, in The Constitution of Liberty, he tells us: “A commodity reserve standard which has been worked out in some detail appears to me still the best plan for achieving all the advantages attributed to the gold standard without its defects.”10 And he refers there to an essay advocating such a currency that he published as early as 1943.)

But Hayek is bafflingly vague concerning how a private issuer would maintain the value or purchasing power of such a currency. He says that “the issuing institution could achieve this result by regulating the quantity of its issue” (p. 43) and by keeping it “scarce” (p. 85). But quantity and scarcity mean nothing in this context except in relation to the liquid assets of the particular issuer and his demonstrated ability and readiness to keep his currency unit convertible on demand into the precise weight of the concrete commodity that his unit is supposed to be worth. He can make it convertible into a gram of gold or an ounce of silver or a pound of tobacco or a bushel of wheat. But there is no feasible way in which he could make it convertible into, say, a specified amount of each of the 400 or so commodities and services that enter into the official consumer price index, not to speak of the 2,700 commodities in the official wholesale price index. And no holder of his currency would in any case want to load himself down with these and give himself the problem of disposing of them.11

I confess myself unable to follow the assumptions behind Hayek’s currency proposal. A long-established government money has an established purchasing power, even though additional paper-money issues reduce it. But how does a private issuer establish the value of his money unit in the first place? Why would anybody take it? Who would accept his certificates for their own goods or services? And at what rate? Against what would the private banker issue his money? With what would the would-be user buy it from him? Into what would the issuer keep it constantly convertible? These are the essential questions.

To assure a dependable, definite, and precise value for anything in terms of anything else, the first must be constantly convertible into the second. Under a gold standard each currency unit is constantly convertible, on demand, into a precise weight of gold. This not only assures a precise value for the pound, for example, and a precise value for the dollar; it also assures a precise “parity” ratio between the pound and the dollar, or any other two currencies. Of course it is possible to suspend gold convertibility and continue to maintain a fixed parity rate between the pound and the dollar by making them freely convertible into each other at that rate. For a time this was actually done (sometimes by government-pegging operations, which amounted to nearly the same thing).

But you cannot make a currency convertible into an abstraction. You cannot make a currency convertible into an index number. A true “commodity” dollar or ducat would have to be convertible into a precise quantity of each of a thousand different commodities. A private issuer cannot assure any specific or definite value for his money unit by limiting the volume of its issuance. There is no fixed and dependable relationship or ratio between the two. The crucial question in the mind of the holder, or the accepter, will always be: What can I be confident of getting in exchange for this?

Others before Hayek have had a similar yearning for a commodity standard, but have been aware of this practical problem. The most prominent is Irving Fisher, who in the 1920s proposed his “compensated dollar.” This is a dollar that would have been convertible into a constantly changing quantity of gold, to keep it fixed in value in relation to an average price of commodities as determined by an official index.

Fisher’s compensated gold dollar would have solved the problem of the utter impracticability of any direct conversion of a currency unit into a trainload or shipload of assorted commodities, but it would have solved it at a prohibitive cost. As Benjamin M. Anderson12 and others pointed out, it would have enabled international speculators to speculate with impunity against the dollar and the American gold reserve, and would have had other self-defeating and confidence-undermining effects.

What is strangest about the fascination that a commodity, or “fixed-purchasing-power,” standard has exercized over some otherwise brilliant minds is that such a standard is quite unnecessary. As Murray N. Rothbard has put it: “If creditors and debtors want to hedge against future changes in purchasing power, they can do so easily on the free market. When they make their contracts, they can agree that repayment will be made in a sum of money adjusted by some agreed-upon index number of changes in the value of money.”13

Since the foregoing criticism of Hayek’s proposal was written, a new and enlarged edition of Hayek’s pamphlet has appeared.14 It contains many additional true and penetrating observations, but nothing to answer the objections to the particular kind of private currencies he envisions. He rejects a sound, historically tested basis of money to embrace a visionary one. Some of his arguments take one’s breath away. For example: “The value of a currency redeemable in gold is not derived [his italics] from the value of that gold, but merely kept at the same value through the automatic regulation of its quantity” (p. 105). This is something like saying that the value of a warehouse receipt is not determined by the value of the goods to which it acknowledges legal title, but simply by the total number of warehouse receipts.

Hayek recognizes that the type of private paper money he recommends would be “a mere token money” (p. 108), redeemable in nothing and convertible into nothing—not even into the huge miscellany of commodities in terms of which its value is supposedly stablized. But he still expects people to accept it in exchange for their own labor or goods, and at the value that the issuer says it has. There is no reason to suppose that anybody would so accept it. This “commodity reserve” money is a dream-world currency. It would consist of private non-interest-bearing perpetually outstanding promissory notes saying, in effect, “I owe you nothing.”

For a Private Gold Standard

This whole discussion of a private commodity-reserve currency may seem like a diversion which I could have avoided. I have made it chiefly because Hayek’s deservedly great authority might otherwise lead some persons to advocate a false remedy and others to reject the whole idea of a private currency as chimerical.

But we can safely return to the recommendations of Hayek’s earlier pamphlet of 1976, Choice in Currency, and to my own suggestion of a private gold standard in 1975. Both are entirely valid.

Let us not reject the gold standard because governments once embraced it. After all, it was the end-product of centuries of experience. It was the survival of the fittest against the early competition of oxen, sheep, hides, wampum, tobacco, iron, copper, bronze, and finally of silver. It was the outcome of competition in the market place, as I am confident it would be again. It was only after its victory in private use that governments took it over, exploited it for their own purposes, diluted it, perverted it, and finally destroyed it.

Let us see where this leads us: Governments should be deprived of their monopoly of the currency-issuing power. The private citizens of every country should be allowed, by mutual agreement, to do business with each other in the currency of any other country. In addition, they should be allowed to mint privately gold or silver coins and to do business with each other in such coins. (Each coin should bear the stamp, trademark, or emblem of its coiner and specify its exact round weight—one gram, ten grams, or whatever. It would be preferably referred to by that weight—a “goldgram,” say, and not bear any more abstract name like dollar or ducat.) Still further, private institutions should be allowed to issue notes payable in such metals. But these should be only gold or silver certificates, redeemable on demand in the respective quantities of the metals specified. The issuers should be required to hold at all times the full amount in metal of the notes they have issued, as a ware-house owner is required to hold at all times everything against which he has issued an outstanding warehouse receipt, on penalty of being prosecuted for fraud. And the courts should enforce all contracts made in good faith in such private currencies.

At first glance this proposal would seem to be much more restrictive and hampering than the Hayek scheme. But any law permitting private currencies, it seems to me, should provide safeguards to minimize loss to holders, and a definitely ascertainable liability of the issuer for misrepresentation, fraud, breach of contract, or default. This is what my suggested limitations are designed to make possible.

My proposal would, in fact—if it could be achieved—lead to an almost revolutionary monetary reform. The competition of foreign currencies and of private coins and certificates would bring almost immediate improvement in most national currencies. The governments would have to slow down or halt their inflations to get their own citizens to continue to use their government’s money in preference to the most attractive foreign currencies, or to private gold or silver certificates.

But something far more important would happen. As the use of the private currencies expanded, a private gold standard would develop. And because of the restrictions placed on it, it would be a pure, a 100 percent, gold standard. The government fractional-reserve gold standard—which was the classical gold standard—was finally strectched and abused to the point where, in my opinion, it can never be restored by any single nation or even by a “world authority.”

But this, when one comes to think of it, will be ultimately a tremendous boon. For though people will probably again never trust a fractional-reserve gold standard, they will trust a full gold standard. And they will trust it the more if it is no longer in the exclusive custody of governments, consisting of vote-seeking politicians and bureaucrats, but in private custody. The gold reserves will no longer be held solely in huge national piles subject often to the overnight whim or ukase of a single man (a Franklin Roosevelt or a Richard Nixon). Gold coins will circulate, and be held by millions, and the gold reserves will be distributed among thousands of private vaults. The private certificate-issuers would not be allowed to treat this gold held in trust—as governments have—as if it had somehow become their own property. (Central banks, and in the U.S. that engine of inflation known as the Federal Reserve System, would of course be abolished.)

I should like to point out here that my proposal of private gold coinage is not, like Dr. Hayek’s price-index money, untried or utopian, but merely suggests the restoration of a right previously exercised in American history. Our Constitution provides, in Article I, Section 8, that: “The Congress shall have the power to ... coin money” and “regulate the value thereof.” In Section 10 of the same article it provides that: “No State shall ... coin money.” But it does not prohibit individuals from doing so.

As early as 1840 the director of the mint, in his report to Congress, referred to one C. Bechtler, who operated a private mint in Rutherfordton, North Carolina, in competition with the U.S. mint at Charlotte. The mint director complained that he could take no legal action against Bechtler: “It seems strange that the privilege of coinage should be carefully confined by law to the General Government, while that of coining gold and silver, though withheld from the States, is freely permitted to individuals, with the single restriction that they must not imitate the coinage established by law.”15

Gold was discovered in California in January 1848, more than two years before California was accepted as a state. Private issues of gold coins and ingots were the dominant media of exchange in the scate until at least 1855. Bank notes did not circulate there until quite late. During the federal issuance of greenbacks during the Civil War, the California state legislature passed, and the state courts enforced, the Specific Performance Act, or Specific Contract Law (April 27, 1863). This provided that if a contract specifically provided that a debt was to be repaid in gold coin, it must be paid in gold coin, not in paper. Between 1860 and 1862, private gold coins continued to be minted in Denver. The federal government had to buy the mint out in 1863. It was not until an act of Congress on June 8, 1864, that private coinage was prohibited.16

I should perhaps make one point clear. I do not expect that allowing citizens to do business in the currencies of foreign nations or in private gold coins will in the long run in most countries mean that these citizens will do most of their business in these foreign or private currencies. I am assuming that practically all governments will continue to issue an official currency and that, when they have ceased inflating, they will issue their own gold coins and certificates. And I assume that most of their citizens will then use their own governments’ money and coins. But this is because I expect that once freedom of choice in currencies is permitted, each government will begin to reform its own monetary practices. What will count is not only the actual competition of foreign money or private coins, but the ever-present possibility of the competition of foreign or private money. What is chiefly necessary, in brief, is to break the government monopoly of money issuance. When that is done, reform will follow.

Permitting private gold coinage and private gold-certificate issues will allow us to bring the world back to a pure gold standard. This has hitherto been considered an utterly hopeless project. As long as we were operating on a fractional-reserve gold standard, any attempt to return to a pure, or 100 percent, gold standard would have involved a devastating deflation, a ruinous fall of prices. But now that not only the United States, but every other nation, has abandoned a gold standard completely, the former problem no longer exists. The beginning of the new reform would bring a dual or parallel system of prices—prices in gold, and prices in the outstanding government paper money. In the transition period, prices would be stated in both currencies, until the government paper money either became worthless, or the issuing government itself returned to a gold standard and accepted its outstanding paper issues at a fixed conversion rate. (An example of this was the German government’s acceptance of a trillion old paper marks for a new rentenmark—and finally a gold mark—after 1923.)

Government-issued money did supply a uniform subsidiary coinage. It is hard (though not impossible) to see how a private currency could solve this problem satisfactorily. Perhaps governments could be trusted to continue to mint a uniform subsidiary coinage and keep a 100 percent gold reserve at least against this.

But apart from such comparatively minor problems, I can see no great difficulties in the way of a private money. The main problem is not economic; it is political. It is how to get governments voluntarily to repeal their legal tender laws and to surrender their monopoly of money issue. I confess I cannot see precisely how this political problem is going to be solved. But it is the urgent and immediate goal to which every citizen who can recognize the great jeopardy in which we all stand should now direct his efforts.

17 London: The Institute of Economic Affairs, 1976.

18 Choice in Currency, p. 15.

19 Ibid.

20 London: The Institute of Economic Affairs, 1976.

21 Elgin Groseclose, Money and Man, 4th ed. (Norman, Okla.: University of Oklahoma Press, 1976), p. 188.

22 Denationalization of Money, p. 74

23 Ibid., p. 25.

24 Ibid., p. 39.

25 Ibid.

26 Chicago: University of Chicago Press, 1960, p. 335.

27 In the 1943 essay by Hayek that I previously mentioned, “A Commodity Reserve Currency,” included in his Individualism and Economic Order (Chicago: University of Chicago Press, 1948), he endorses a scheme by Benjamin Graham involving only twenty-four different commodities. I need not discuss that plan in detail here, and will say only that I regard it as incredibly clumsy, complicated, costly, wasteful, unsettling, and altogether impracticable. It was in any case proposed as a government scheme, and would inevitably have become a political football.

28 See his Economics and the Public Welfare (New York: Van Nostrand, 1949), ch. 51.

29 Murray N. Rothbard, What Has Government Done to Our Money?, 2nd ed. (Santa Ana, Calif.: Rampart College 1974), p. 17.

30 Denationalization of Money, 2nd ed. (London: The Institute of Economic Affairs, 1978).

31 E. H. Adams, Private Gold Coinage of California, 1849–1855, 1975, p. xi.

32 For a more detailed account, see Carl Watner, “California Gold, 1849–65,” Reason, January 1976.

• 17*
• 2Karl Helfferich, Das Geld (sixth edition, Leipzig, 1923).
• 3Economics of Inflation, p. 197.
• 4Lecture, 1942; published in Encounter, 1975.
• 5The figures do not include part-rime workers or employees in public emergency projects, but only unemployed workers eligible for unemployment compensation. I am indebted to Prof. Günther Schmölders for supplying them.
• 6I have treated this subject at greater length in an essay, “Velocity of Circulation,” in Money, the Market and the State: Economic Essays in Honor of James Muir Waller, N. A. Beadles and L. A. Drewry, eds. (Athens, Ga.: University of Georgia Press, 1968).
• 7Reprinted in Dollars and Deficits, Milton Friedman, ed. (Englewood Cliffs, N.J.: Prentice-Hall, 1968), p. 152.
• 8Milton Friedman, The Optimum Quantity of Money (Chicago: Aldine Publishing Co., 1969), pp. 46–48.
• 9Ibid.
• 10Chicago: University of Chicago Press, 1960, p. 335.
• 11In the 1943 essay by Hayek that I previously mentioned, “A Commodity Reserve Currency,” included in his Individualism and Economic Order (Chicago: University of Chicago Press, 1948), he endorses a scheme by Benjamin Graham involving only twenty-four different commodities. I need not discuss that plan in detail here, and will say only that I regard it as incredibly clumsy, complicated, costly, wasteful, unsettling, and altogether impracticable. It was in any case proposed as a government scheme, and would inevitably have become a political football.
• 12See his Economics and the Public Welfare (New York: Van Nostrand, 1949), ch. 51.
• 13Murray N. Rothbard, What Has Government Done to Our Money?, 2nd ed. (Santa Ana, Calif.: Rampart College 1974), p. 17.
• 14Denationalization of Money, 2nd ed. (London: The Institute of Economic Affairs, 1978).
• 15E. H. Adams, Private Gold Coinage of California, 1849–1855, 1975, p. xi.
• 16For a more detailed account, see Carl Watner, “California Gold, 1849–65,” Reason, January 1976.
• 17* Estimated from data through June.
• 18The increase of the circulation has not preceded the rise of prices and the depreciation of the exchange, but it followed slowly and at great distance. The circulation increased from May 1921 to the end of January 1923 by 23 times; it is not possible that this increase had caused the rise in the prices of imported goods and of the dollar, which in that period increased by 344 times.
• 19There was a great decline in labor efficiency. Part of this was the result of malnutrition brought about by high food prices. Bresciani-Turroni tells us: “In the acutest phase of the inflation Germany offered the grotesque, and at the same time tragic, spectacle of a people which, rather than produce food, clothes, shoes, and milk for its own babies, was exhausting its energies in the manufacture of machines or the building of factories.”
• 20For instance, you might drop in at the tobacconist’s for a cigar. Alarmed by the price, you’d rush to a competitor, find that his price was still higher, and race back to the first shop, which may have doubled or tripled its price in the meantime. There was no help for it, you had to dig into your pocketbook and take out a huge bundle of millions, or even billions, depending on the date.
• 21Bresciani-Turroni and other writers refer to the “stabilization crisis” that follows an inflation which has been brought to a halt. But after a hyperinflation has passed beyond a certain point, any so-called stabilization crisis is comparatively mild. This is because the inflation itself has brought so much economic disorganization. When it is said that unemployment rose after the mark stabilization, the statement is true at best only as applied to a few months. Bresciani-Turroni’s month-by-month tables of unemployment end in December 1923. Here is what happened in the nine months from October 1923 through June 1924:
• 22The value of a commodity, a stock, or a house does not change in any predictable relationship to the number of times it changes hands. Nor does the value of a dollar. When 100 shares of a stock are sold, their value is not thereby necessarily depressed, because the shares are also bought. Every sale implies a purchase, and every purchase a sale. When a man buys a commodity, he “sells” money; but the seller of the commodity “buys” money. There is no necessary connection whatever between changes in the velocity of circulation of money and changes in the “level” of commodity prices. Velocity of money is merely a resultant of a complex of other factors, and not itself a cause of any important change whatever.
• 23Let us return to the prescriptions of the acknowledged leader of the school, Milton Friedman. We have seen that, in 1962, in his Capitalism and Freedom, he recommended that the Federal Reserve authorities be instructed to increase the total stock of money (including “all deposits of commercial banks”) at an annual rate of somewhere between 3 and 5 percent. But three years later, in a memorandum prepared for a consultant’s meeting with the Board of Governors of the Federal Reserve Board on October 7, 1965, we find him recommending “as the new target a rate close to the top of the desirable range of 4 to 6 per cent for M-2” (currency plus demand and time deposits).
• 24Either a 5 per cent rule or a 2 per cent rule would be far superior to the monetary policy we have actually followed. The gain from shifting to the 5 per cent rule would, I believe, dwarf the further gain from going to the 2 per cent rule, even though that gain may well be substantial enough to be worth pursuing. Hence I shall continue to support the 5 per cent rule as an intermediate objective greatly superior to the present practice.
• 25If he were in charge of one of the major Swiss joint-stock banks, he tells us, he would issue a unit called, say, a “ducat.” “And I would announce that I proposed from time to time to state the precise commodity equivalent in terms of which I intended to keep the value of the ducat constant, but that I reserved the right, after announcement, to alter the composition of the commodity standard as experience and the revealed preferences of the public suggested.”
• 26It is clear that Hayek has in mind that private issuers could and should adopt a “commodity reserve,” or “market basket,” standard. (He has advocated such a standard for a long time. For example, in The Constitution of Liberty, he tells us: “A commodity reserve standard which has been worked out in some detail appears to me still the best plan for achieving all the advantages attributed to the gold standard without its defects.” And he refers there to an essay advocating such a currency that he published as early as 1943.)
• 27But Hayek is bafflingly vague concerning how a private issuer would maintain the value or purchasing power of such a currency. He says that “the issuing institution could achieve this result by regulating the quantity of its issue” (p. 43) and by keeping it “scarce” (p. 85). But quantity and scarcity mean nothing in this context except in relation to the liquid assets of the particular issuer and his demonstrated ability and readiness to keep his currency unit convertible on demand into the precise weight of the concrete commodity that his unit is supposed to be worth. He can make it convertible into a gram of gold or an ounce of silver or a pound of tobacco or a bushel of wheat. But there is no feasible way in which he could make it convertible into, say, a specified amount of each of the 400 or so commodities and services that enter into the official consumer price index, not to speak of the 2,700 commodities in the official wholesale price index. And no holder of his currency would in any case want to load himself down with these and give himself the problem of disposing of them.
• 28Fisher’s compensated gold dollar would have solved the problem of the utter impracticability of any direct conversion of a currency unit into a trainload or shipload of assorted commodities, but it would have solved it at a prohibitive cost. As Benjamin M. Anderson and others pointed out, it would have enabled international speculators to speculate with impunity against the dollar and the American gold reserve, and would have had other self-defeating and confidence-undermining effects.
• 29What is strangest about the fascination that a commodity, or “fixed-purchasing-power,” standard has exercized over some otherwise brilliant minds is that such a standard is quite unnecessary. As Murray N. Rothbard has put it: “If creditors and debtors want to hedge against future changes in purchasing power, they can do so easily on the free market. When they make their contracts, they can agree that repayment will be made in a sum of money adjusted by some agreed-upon index number of changes in the value of money.”
• 30Since the foregoing criticism of Hayek’s proposal was written, a new and enlarged edition of Hayek’s pamphlet has appeared. It contains many additional true and penetrating observations, but nothing to answer the objections to the particular kind of private currencies he envisions. He rejects a sound, historically tested basis of money to embrace a visionary one. Some of his arguments take one’s breath away. For example: “The value of a currency redeemable in gold is not derived [his italics] from the value of that gold, but merely kept at the same value through the automatic regulation of its quantity” (p. 105). This is something like saying that the value of a warehouse receipt is not determined by the value of the goods to which it acknowledges legal title, but simply by the total number of warehouse receipts.
• 31As early as 1840 the director of the mint, in his report to Congress, referred to one C. Bechtler, who operated a private mint in Rutherfordton, North Carolina, in competition with the U.S. mint at Charlotte. The mint director complained that he could take no legal action against Bechtler: “It seems strange that the privilege of coinage should be carefully confined by law to the General Government, while that of coining gold and silver, though withheld from the States, is freely permitted to individuals, with the single restriction that they must not imitate the coinage established by law.”
• 32Gold was discovered in California in January 1848, more than two years before California was accepted as a state. Private issues of gold coins and ingots were the dominant media of exchange in the scate until at least 1855. Bank notes did not circulate there until quite late. During the federal issuance of greenbacks during the Civil War, the California state legislature passed, and the state courts enforced, the Specific Performance Act, or Specific Contract Law (April 27, 1863). This provided that if a contract specifically provided that a debt was to be repaid in gold coin, it must be paid in gold coin, not in paper. Between 1860 and 1862, private gold coins continued to be minted in Denver. The federal government had to buy the mint out in 1863. It was not until an act of Congress on June 8, 1864, that private coinage was prohibited.