November 19, 2008
In regards to Doug French’s article “We Worry About Deflation?”:
Dr. French seems to have lost the entire point of the Austrian theory of
the trade cycle. Under this theory, deflation in the proper sense of an
arbitrary reduction in the money supply at a rate greater than the demand
for money is just as bad (and in some ways worse) than inflation: an
arbitrary increase in the money supply greater than the demand for money.
Both actions have at their root the notions that:
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There is an ideal quantity of money in the market independent of the
market. -
There is an ideal market rate of interest independent of the market
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There is an ideal market supply of all goods independent of the market.
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There is an ideal market demand for all goods independent of the market.
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There is an ideal market price structure independent of the market.
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Central bankers know what these are.
The whole conception is fundamentally self-contradictory. It is the notion
of ideal market prices, ideal market supply, and ideal market demand
independent of the market. In other words of a market without a market.
Not even God can know what the Central Bankers propose to know because not
even God can know a contradiction as Sister Miriam Joseph points out in The
Triuvium, The Liberal Arts of Logic, Grammar, and Rhetoric.
Every market price is contextual. It is made in the context of the general
and time and place specific knowledge of the persons engaged in the
exchange. No price is made in a vacuum. When government officials claim
to know the IDEAL price of anything, whether it is a stick of chewing gum
or all the goods and services exchanged by all the 300 million people in
the country in any time frame, they are claiming to know a contradiction.
That is why all such programs of government price and quantity regulation
fail to achieve the results intended. They consist of market prices
without the market; viz. without any consideration of the contexts in which
people agree to the price in any given exchange.
Deflation in the strict sense of an arbitrary decrease in the money supply
is going to set in motion. similar economic maladjustments and
redistributions as inflation.
For an historic example. The Grant administration and its immediate
successors wanted to do something we both would agree was a very good
thing: a return to the gold standard after years of greenback and railroad
security inflation which culminated in the failure of Jay Cooke & Co., and
the Panic of 1873. But they foolishly wanted to do so at the pre-inflation
parity of $27 an ounce. With the amount of greenbacks and accounting money
out there, there were only two ways to do that:
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Repeal the law of supply and demand.
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Massive deflation.
They then went into a deliberate policy of deflation by soaking up
greenbacks by selling government bonds which would be redeemable in gold
after January 1, 1879. They pretty well succeeded. There were only, if I
recall correctly, about $3 million in “United States Notes” left in
circulation by January 1, 1879 at which level they were still when I did my
researches in 1972 and at which I believe they remain today. If you watch
your money closely, maybe once in your life you will get a reissued “United
States Note.” That is a Civil War greenback that has been reissued and
reissued over and over. It looks just like a “Federal Reserve Note” but
will say “United States Note” at the top.
As it happened I got one (a $5 bill) while working on my paper on the
period of inflationist agitation.
In one respects the government succeeded: when the “gold window” reopened
on January 2, 1879, only one person showed up demanding to redeem his
dollar bills in gold which was done smoothly. In another sense, though,
they failed having made the unavoidable recession following the Panic of
1873 much worse than it should have been and delayed recovery. They
provided a textbook example of the wrong way to go back on the gold
standard. They should have, as was suggested in another recent Mises
institute article, repegged the dollar at whatever the market price in
terms of gold was on a particular date.
That there is “price deflation” after the bursting of a bubble is, of
course, an unquestionable and common result of inflation. The bubble was
unsustainable from the start. Once inflation is embarked upon, there is no
good way out. You get either:
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The classic boom and bust cycle as has happened repeatedly since John
Law’s Mississippi scheme. And during such a cycle, some sector of the
economy always bubbles. -
Stagflation as happened in the 1970s.
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A complete destruction of the monetary system as happened in the Great
German Hyperinflation of 1922. (Which seems to be where Bernanke, Paulson,
et. al. are headed.)
And, of course, the people who suffer the most are the ones who can afford
it the least.
But let’s get straight what the real problem is. It is coercive tinkering
with the economy by government officials who think they know more than God.
Deflation in the strict sense has to be at least as bad as inflation for
the same reason. It is based on the notion that government officials can
obtain knowledge of an ideal state of the market independent of the market
and, therefore, have the right to use the force and terror of the state to
impose it. The fundamental fact they ignore is that the market and market
prices embodies contextual knowledge which is scattered all over the entire
economy: i.e. amongst all acting people, and which cannot be concentrated
in one place. It is simply hubris gone wild. An out-of-control God
complex.
The great advantage of the gold standard is that the quantity and price of
money is determined by the market according to the real contexts in which
real people are acting.
Best wishes.
Sincerely,
Gary J. Mallast