von Mises (1881-1973) made a major contribution to the theory
of money with the publication of his book, The
Theory of Money and Credit (1912). He was 31 years old.
It was translated into English in 1924. It was updated in 1934.
The 1934 edition was reprinted, without changes except for an
appendix, in 1953 by Yale University Press. It had previously
been published in England.
this path-breaking book with what has proven to be one of the
most important essays in the history of economic theory: “Economic
Calculation in the Socialist Commonwealth” (1920). In it,
he argued that without capital markets based on private ownership,
socialist central planners are economically blind. They cannot
know either the economic value or the price of capital goods.
Therefore, they cannot know which resources should be allocated
to meet the desires of consumers, including the State itself.
He expanded this essay into a book, Socialism:
An Economic and Sociological Analysis (1922). A second
German edition appeared in 1932, the year before Hitler became
Chancellor of Germany. This was the edition used to translate
the English-language edition, published in 1951 by Yale University
Press. Mises added an Epilogue, which began with these words:
“Nothing is more unpopular today than the free market economy,
i.e., capitalism.” It ended with these words: “Not mythical ‘material
forces’, but reason and ideas determine the course of human affairs.
What is needed to stop the trend towards socialism and despotism
is common sense and moral courage.”
any other economist, it was Mises who offered the most detailed
theoretical critique of socialism. But, as it turned out, it was
not sound ideas, but the economic irrationality of socialist economic
planning that finally undermined the envy-driven, power-loving,
statist religion of socialism. Socialism by 1989 had bankrupted
its most powerful incarnation, the Soviet Union. When it fell,
socialist economists found themselves with few followers. Overnight,
socialism had become a joke. Books on “what Marx really meant”
filled the “books for a buck” bins in college-town bookstores.
Socialist professors never had a plausible economic theory; they
had only tenure. As the pro-socialist and millionaire economics
textbook author Robert Heilbroner finally admitted in The New
Yorker in 1990, “Mises was right.” Heilbroner’s ideological
academic peers have not been equally honest.
last major book was Human
Action: A Treatise on Economics (Yale University Press,
1949; 3rd edition, Regnery, 1966: the edition I used for this
study). Human Action presented a comprehensive theory of
the free market on the one hand and economic interventionism by
civil government on the other.
many books and articles. His main writings have been in English
since 1949, when Human Action appeared, but hardly anyone
has read all of them, including members of the comparatively small
band of disciples who call themselves Misesians. The timing of
the publication of Human Action could not have been worse.
It was the year after the publication of Paul Samuelson’s textbook,
which went on to sell three million copies and shape economics
students’ thinking without significant opposition for almost two
decades. It is still in print. By 1949, the Keynesian revolution
was in full operation in American classrooms outside of Chicago.
In contrast, Mises was a little-known Austrian immigrant whose
major theoretical contributions to economics were long forgotten,
relics of an ante-bellum, pre-Keynesian world. He was teaching
in an academically peripheral university that did not even bother
to pay him out of its own funds. His salary was paid by a handful
of supporters, most notably Lawrence Fertig. There Mises taught
his graduate seminars until 1966, when he retired at age 85. He
died in 1973, making him ineligible for the Nobel Prize in economic
science. The next year, his former disciple, F. A. Hayek, shared
the Nobel Prize with socialist Gunnar Myrdal. (It was said at
the time that Hayek never expected to win it, and Myrdal never
expected to share it.) Hayek won on the basis of his theory of
the business cycle, developed in the 1930’s, which was based almost
entirely on Mises’s Theory of Money and Credit, and also
for his theory of the free market as a transmitter of accurate
information, a theory developed originally by Mises in Socialism,
which had converted Hayek from his youthful socialist leanings,
as he later said publicly. But Hayek had used a few charts in
the 1930’s. Mises never did. Hayek was clearly scientific; Mises
clearly wasn’t. Thus is academic performance rewarded by the economics
In the war
of ideas against monetary debasement and then socialism, Mises
served as the lone Marine who led the initial assaults against
the statists’ machine gun nests in academia. He did it from outside
academia’s walls. The University of Vienna never hired its most
distinguished economics graduate. Hayek was part of the second
wave: Mises’s early disciples, who began volunteering for duty
in the early 1920’s. These included Lionel Robbins, Wilhelm Röpke,
and several world-famous economists who by 1940 had left “military
service” to become part of the “diplomatic corps,” seeking a cease-fire
with the enemy. For this, they were rewarded well by the enemy:
major publishing houses, academic tenure, and the honorary presidency
of at least one regional economics association. Yet at age 85,
Mises was still tossing grenades at the enemy’s bunkers. (Hayek
also remained on duty in the field, but he was always more of
Mises’s theory of money, I draw heavily on his two major works
that dealt with monetary theory, The Theory of Money and Credit
and Human Action, plus a few minor books. I cover five
themes: the definition of money; the optimum quantity of money,
and how to achieve it; the myth of neutral money and its corollary,
stable prices; fractional reserve banking, and how to inhibit
it; and the monetary theory of the business cycle. They are closely
interrelated. Mises’s system was a system.
repeatedly to the Web site of the Liberty Fund, which has posted
all of The Theory of Money and Credit. Warning: anyone
who can actually read the Table of Contents on this site is doing
better than I.
pages are not numbered on the Web edition. Usually, several chapters
are included in each bloc of text from the book. If you want to
locate any word or phrase in the text, I suggest that you read
the text on-screen. Then use the Google Toolbar. This is
a highly useful tool that I use daily. It highlights any word
or phrase in HTML, allowing you to locate any word in a few seconds:
a rapid scrolling until you see the yellow highlighted word. Download
the program at www.google.com/about.html.
It is on the left-hand side of the screen. (It works only with
do not surrender to the temptation to skip over block quotations
from Mises. To understand what Mises believed, you must read Mises
carefully. Do not rely on my comments, which are there only to
help you identify and better understand the most important themes
in Mises’s exposition on money.
you may think you know what Mises taught about money and banking.
Unless you have read the relevant material more than once, you
probably have confused Mises’s ideas with something you read in
a hard-money newsletter, now defunct, back in 1981.
A MARKET-GENERATED PHENOMENON
his presentation in Part I, Chapter I of The Theory of Money
and Credit with a discussion of voluntary exchange. In a society
without exchange, money is unnecessary. Mises said specifically
in the book’s first paragraph that money is also not needed in
theory in a pure socialist commonwealth (p. 29). By contrast,
in a private property order, “The function of money is to facilitate
the business of the market by acting as a common medium of exchange”
is barter. Barter is associated with a low division of labor.
Participants expect to consume whatever it is that they receive
in exchange. But in a more developed system of indirect exchange,
participants exchange their goods and services for goods that
can be exchanged for additional goods and services. Mises then
explained why certain commodities become the widely accepted means
of exchange, i.e., money. He distinguished between two kinds of
goods. This conceptual distinction is fundamental to his theory
all goods are not equally marketable. While there is only a limited
and occasional demand for certain goods, that for others is more
general and constant. Consequently, those who bring goods of the
first kind to market in order to exchange them for goods that
they need themselves have as a rule a smaller prospect of success
than those who offer goods of the second kind. If, however, they
exchange their relatively unmarketable goods for such as are more
marketable, they will get a step nearer to their goal and may
hope to reach it more surely and economically than if they had
restricted themselves to direct exchange. It was in this way that
those goods that were originally the most marketable became common
media of exchange; that is, goods into which all sellers of other
goods first converted their wares and which it paid every would-be
buyer of any other commodity to acquire first. And as soon as
those commodities that were relatively most marketable had become
common media of exchange, there was an increase in the difference
between their marketability and that of all other commodities,
and this in its turn further strengthened and broadened their
position as media of exchange (p. 32). . . . This stage of development
in the use of media of exchange, the exclusive employment of a
single economic good, is not yet completely attained. In quite
early times, sooner in some places than in others, the extension
of indirect exchange led to the employment of the two precious
metals gold and silver as common media of exchange. But then there
was a long interruption in the steady contraction of the group
of goods employed for that purpose. For hundreds, even thousands,
of years the choice of mankind has wavered undecided between gold
and silver (p. 33).
his point unmistakably clear: “It was in this way that those goods
that were originally the most marketable became common media of
exchange.” Mises therefore defined money as the most marketable
commodity. “It is the most marketable good which people accept
because they want to offer it in later acts of impersonal exchange”
(Human Action, p. 401.).
credit transactions. What are credit transactions? “Credit transactions
are in fact nothing but the exchange of present goods against
future goods” (TM&C, p. 35).
We now have
Mises’s definitions of money (the most marketable commodity) and
credit (the exchange of present goods for hoped-for future goods).
as a transmitter of value through time because certain goods serve
as media of exchange. Why do they so serve? Because of “the special
suitability of goods for hoarding” (p. 35). This economic function
of money also involves the transport of value through space. It
is not that money circulates that makes it money. Lots of goods
circulate. It is that money is hoarded — is in someone’s
possession as a cash balance — that is crucial for its service
as a medium of exchange. He wrote that “it must be recognized
that from the economic point of view there is no such thing as
money lying idle” (p. 147). In other words, “all money must be
regarded at rest in the cash reserve of some individual or other.”
is called storing money is a way of using wealth. The uncertainty
of the future makes it seem advisable to hold a larger or smaller
part of one’s possessions in a form that will facilitate a change
from one way of using wealth to another, or transition from the
ownership of one good to that of another, in order to preserve
the opportunity of being able without difficulty to satisfy urgent
demands that may possibly arise in the future for goods that will
have to be obtained by exchange (p. 147).
we live in ignorance about an uncertain future, we hold money:
the most marketable commodity. Because it is highly marketable,
it provides us with the most options, no matter what happens.
If we had better knowledge of the future, we would hold whatever
good is most likely to be most in demand in the new conditions,
in order to maximize our profits. But we do not know, so we settle
for holding money. We gain a lower rate of profit, but we gain
much greater security in preserving exchange value.
MONEY IS NOT A MEASURE OF VALUE
value, Mises taught, but money does not measure value. This distinction
is fundamental in Mises’s theory of money. “Money is neither an
abstract numraire nor a standard of value or prices. It
is necessarily an economic good and as such it is valued and appraised
on its own merits, i.e., the services which a man expects from
holding cash. On the market there is [sic] always change and movement.
Only because there are fluctuations is there money” (Human
Action, p. 418).
theory that teaches that money measures economic value, or that
any civil government should establish policies that preserve the
value of money because money is a measure of value, is anti-Misesian.
You must understand this conclusion if the remainder of this study
is to make any sense at all. The call for government-induced
stable purchasing power, with or without a government-licensed
monopolistic central bank, is an anti-Misesian call for government
intervention into the economy. Mises was opposed to government
intervention into the economy, including the monetary system.
adamant: there is no measure of economic value. He was
a disciple of Carl Menger. Menger was a proponent of a strictly
subjective theory of economic value. Mises insisted that there
is no objective way to measure subjective value. He began Chapter
2, “On the Measurement of Value,” with these words: “Although
it is usual to speak of money as a measure of value and prices,
the notion is entirely fallacious. So long as the subjective theory
of value is accepted, this question of measurement cannot arise”
(TM&C, p. 38). Subjective valuation “arranges commodities
in order of their significance; it does not measure its significance”
(p. 39). It ranks significance; it does not measure it. This is
the theme of Chapter 2.
it is impossible to measure subjective use-value, it follows directly
that it is impracticable to ascribe ‘quantity’ to it. We may say,
the value of this commodity is greater than the value of that;
but it is not permissible for us to assert, this commodity is
worth so much. Such a way of speaking necessarily implies
a definite unit. It really amounts to stating how many times a
given unit is contained in the quantity to be defined. But this
kind of calculation is quite inapplicable to processes of valuation
that money does not measure value is a crucially important aspect
of Mises’s theory of money. Perhaps this analogy will help clarify
YOU LOVE ME?
A wife asks:
“Do you love me?” Her husband dutifully answers: “Of course I
do.” She presses the issue: “How much do you love me?” He answers:
“A lot.” She continues: “Do you love me more than you used to
love your ex-girlfriend?” He replies: “Yes, I do.” So far, we
are still in the realm of subjective value.
the issue. “You used to be wild about her. I remember. You don’t
act very wild about me. Do you love me more now than you loved
her back then?” This raises the question of the permanence of
value scales over time. The problem is, these scales of value
change. Also, we forget what they were, and how intensely they
registered with us. A truth-telling husband may reply: “I just
don’t remember.” Or he may say, “I love you more now than I loved
her back then,” mentally defining “love” to make the statement
true. But how can he be sure what he felt back then? His memory
has faded, along with his passion. This is the philosophical problem
of subjective valuation through time. No one on earth possesses
a permanent subjective value scale that measures changes in one’s
temporal subjective value scale.
moves to objective value. “Exactly how much more do you love me
than you used to love her?” Now he faces a dilemma, both personal
and epistemological. She has moved from a consideration of his
subjective scale of values to an objective measure of subjective
value. Here is his epistemological dilemma: there is no objective
measure of subjective value. A subjective value scale is ordinal
— first, second, third — rather than cardinal,
i.e., “exactly this much more.” Subjective values are ranked,
A wise husband
with a knowledge of the Bible might try to end the discussion
by saying, “I love you more than rubies.” Solomon said something
like this. “Who can find a virtuous woman for her price is far
above rubies?” (Proverbs 31:10). But even Solomon did not say
exactly how much above rubies her price is.
no objective measure of subjective values. A diamond may be forever;
it does not measure subjective value. Nothing on earth does.
YES; MEASURE, NO
that every economic act involves a comparison of values (TM&C,
p. 38). A person chooses among several commodities (p. 38). He
exchanges one commodity for another. “For this reason it has been
said that every economic act may be regarded as a kind of exchange”
(p. 39). Mises in Human Action made central this idea of
human action as exchange: an exchange of conditions. “Action is
an attempt to substitute a more satisfactory state of affairs
for a less satisfactory one. We call such a wilfully induced alteration
an exchange. A less desirable condition is bartered for a more
desirable.” (Human Action, Chapter IV, Sect. 4: “Action
as an Exchange.”)
the exchange is not based on someone’s measure of value,
merely his comparison of value: more vs. less. As he says,
“The judgement, ‘Commodity a is worth more to me than commodity
b’ no more presupposes a measure of economic value than
the judgement ‘A is dearer to me — more highly esteemed
— than B’ presupposes a measure of friendship” (TM&C,
pp. 44-45). This means that “There is no such thing as abstract
value” (p. 47). There are only specific acts of valuation. Money
does measure objective prices (ratios of exchange). “If in this
sense we wish to attribute to money the function of being a measure
of prices, there is no reason why we should not do so” (p. 49).
Admitting that money measures objective prices is not the same
as saying that money is a measure of value, which is subjective.
Money does not measure value. Mises was quite clear: “What has
been said should have made sufficiently plain the unscientific
nature of the practice of attributing to money the function of
acting as a measure of price or even of value. Subjective value
is not measured, but graded. The problem of the measurement of
objective use-value is not an economic problem at all” (p. 47).
this because we hear, over and over, such phrases as this:
is nothing more important that the government can provide individual
producers than a reliable standard of value, a unit of account
that retains its constancy as a measuring device.”
is completely contrary to Mises’s theory of subjective economic
value, on which his theory of money rests. It is contrary
to Mises’s theory of civil government. It is contrary to
the concept of free market money, as Mises described it.
In short, it is contrary to Misesian economics. Forewarned is
KINDS OF MONEY
that there are four kinds of money: token (base metal) coins,
commodity money, credit money, and fiat money (pp. 59-62). Commodity
money is what the free market has determined is the most marketable
commodity, and therefore the medium of exchange. It is “a commercial
may give the name commodity money to that sort of money that is
at the same time a commercial commodity; and the name fiat money
to money that comprises things with a special legal qualification.
A third category may be called credit money, this being that sort
of money which constitutes a claim against any physical or legal
person. But these claims must not be both payable on demand and
absolutely secure; if they were, there could be no difference
between their value and that of the sum of money to which they
referred, and they could not be subjected to an independent process
of valuation on the part of those who dealt with them. In some
way or other the maturity of these claims must be postponed to
some future time (p. 61).
definition of credit money distinguishes credit money from a receipt
for money. Credit money is not “both payable on demand and absolutely
secure.” It is not the same as that which we can call warehouse
receipts for commodity money, in which case “there could be no
difference between their value and that of the sum of money to
which they referred.” In Human Action, he defined a warehouse
receipt for money metal coins a money-certificate. “If the debtor
— the government or a bank — keeps against the whole
amount of money-substitutes a 100% reserve of money proper, we
call the money-substitute a money-certificate” (p. 433).
A money-certificate is both payable on demand and secure. It is
not a promise to pay at some date in the future. It is a promise
to pay immediately on demand, a promise that can be fulfilled
in all cases because there is money metal on reserve to meet all
of the receipts even if they were presented for redemption on
the same day. Money-certificates function as money because they
are the equivalent of the commodity money that they represent.
For each money-certificate issued, the equivalent weight of coins
is withdrawn from circulation. “Changes in the quantity of money-certificates
therefore do not alter the supply of money and the money relation.
They do not play a role in the determination of the purchasing
power of money” (p. 433).
is money that has less than a 100% reserve in coins. “If the money
reserve kept by the debtor against the money-substitute issued
is less than the total amount of such substitutes, we call the
amount of substitutes which exceeds the reserve fiduciary media.
As a rule it is not possible to ascertain whether a concrete specimen
of money-substitutes is a money-certificate or a fiduciary medium.”
Fiduciary media increase the amount of money in circulation. “The
issue of fiduciary media enlarges the bank’s funds available for
lending beyond these limits” (p. 433).
a commodity, Mises insisted. It is not a promise to pay. Fiduciary
media is a promise to pay. It is a promise that cannot be fulfilled
at the same time to everyone who has been issued fiduciary media.
of a coin is based on the weight and fineness of its metal.
in defiance of all official regulations and prohibitions and fixing
of prices and threats of punishment, commercial practice has always
insisted that what has to be considered in valuing coins is not
their face value but their value as metal. The value of a coin
has always been determined, not by the image and superscription
it bears nor by the proclamation of the mint and market authorities,
but by its metal content (TM&C, p. 65).
COINAGE, NOT STATE MONOPOLY
in the past have issued coins or ingots with a stamp on them that
certifies their weight and fineness. In the short run, at least,
this was a benefit to market participants: it reduced their search
costs for reliable coinage. “But in the hands of liberal governments
the character of this state monopoly was completely altered. The
ideas which considered it an instrument of interventionist policies
were discarded. No longer was it used for fiscal purposes or for
favoring some groups of the people at the expense of other groups”
(Human Action, p. 782). But, he goes on to say, “On the
other hand, individuals were entitled to bring bullion to the
mint and to have it transformed into standard coins either free
of charge or against payments of a seigniorage [fee] generally
not surpassing the actual expenses of the process.”
coins is not part of the provision of civil justice, which alone
justifies a State monopoly, according to his utilitarian democratic
political theory (pp. 149-50). This is the only case I know in
all of Mises’s writings where he identified as beneficial to society
a zero-fee, monopolistic service offered by civil government to
citizens, despite the fact that stamping coins is not part of
what he regarded as civil government’s legitimate monopoly of
law enforcement by violence. He did not say that he recommended
this practice. He said only that liberal governments for a time
did not abuse their declared monopoly over coin stamping.
theory of money, money is not what the State says it is —
what he calls the “nominalist” theory of money. Money is what
the free market says it is: the most marketable commodity. He
ended Chapter 3 of Theory of Money and Credit with a call
for free coinage: a denial of the State’s monopoly over money.
He rejected nominalism and affirmed free coinage. Nominalism leads
to the State’s establishment of its own monopolistic money substitutes,
which State officials insist are money, but which are of less
value, according to the free market’s assessment.
nominalists assert that the monetary unit, in modern countries
at any rate, is not a concrete commodity unit that can be defined
in suitable technical terms, but a nominal quantity of value about
which nothing can be said except that it is created by law. Without
touching upon the vague and nebulous nature of this phraseology,
which will not sustain a moment’s criticism from the point of
view of the theory of value, let us simply ask: What, then,
were the mark, the franc, and the pound before 1914? Obviously,
they were nothing but certain weights of gold. Is it not mere
quibbling to assert that Germany had not a gold standard but a
mark standard? According to the letter of the law, Germany was
on a gold standard, and the mark was simply the unit of account,
the designation of 1/2790 kg. of refined gold. This is in no way
affected by the fact that nobody was bound in private dealings
to accept gold ingots or foreign gold coins, for the whole aim
and intent of state intervention in the monetary sphere is simply
to release individuals from the necessity of testing the weight
and fineness of the gold they receive, a task which can only be
undertaken by experts and which involves very elaborate precautionary
measures. The narrowness of the limits within which the weight
and fineness of the coins are legally allowed to vary at the time
of minting, and the establishment of a further limit to the permissible
loss by wear of those in circulation, are much better means of
securing the integrity of the coinage than the use of scales and
nitric acid on the part of all who have commercial dealings. Again,
the right of free coinage, one of the basic principles of modern
monetary law, is a protection in the opposite direction against
the emergence of a difference in value between the coined and
uncoined metal (pp. 66-67). . . . The role played by ingots in
the gold reserves of the banks is a proof that the monetary standard
consists in the precious metal, and not in the proclamation of
the authorities (p. 67).
In Chapter 4,
“Money and the State,” Mises made clear that the State does not
establish economic laws of exchange. It is subordinate to these
laws. Mises even capitalized this phrase: Laws of Price. (The editor
of the Web-based edition removed these capitals. He also removed
the capital S from State.)
position of the state in the market differs in no way from that
of any other parties to commercial transactions. Like these others,
the state exchanges commodities and money on terms which are governed
by the laws of price. It exercises its sovereign rights over its
subjects to levy compulsory contributions from them; but in all
other respects it adapts itself like everybody else to the commercial
organization of society. As a buyer or seller the state has to
conform to the conditions of the market. If it wishes to alter
any of the exchange ratios established in the market, it can only
do this through the market’s own mechanism. As a rule it will
be able to act more effectively than anyone else, thanks to the
resources at its command outside the market (p. 68). . . .
of money as a creature of law and the state is clearly untenable.
It is not justified by a single phenomenon of the market. To
ascribe to the state the power of dictating the laws of exchange,
is to ignore the fundamental principles of money-using society
passes laws and enforces them, but this does not change the laws
of value. It merely produces results that are in conformity to
the laws of value. For example, consider the free market’s establishment
of two forms of money, gold and silver coins. The State stamps
metal coins as being of a particular weight and fineness. The
specified weight and fineness are not specified on each coin,
but by law, the coins must meet a specified standard. Mises called
this coinage system a “parallel standard.” The free market establishes
their value based on the value of their metals. “This stage was
reached without further State influence” (p. 72).
point, the State intervenes by establishing a legal exchange rate
between the parallel systems of coinage, despite the fact that
for thousands of years the systems have flourished in the free
market (p. 75). As soon as the free market’s price for each metal
deviates from the State’s legal parity — a system of price
controls — Gresham’s law takes over. This was the observation
by Queen Elizabeth’s royal factor in Antwerp, Sir Thomas Gresham,
that “bad money drives out good money.” Mises clarified Gresham’s
law in Human Action. “It would be more correct to say that
the money which the government’s decree has undervalued disappears
from the market and the money which the decree has overvalued
remains” (p. 450). Consumers hoard the undervalued coins, or use
them in illegal black market exchanges at ratios that deviate
from the law’s fixed ratios, or send them abroad, where the coins
purchase goods of equal market value. People then spend the overvalued
coins in public.
of this government price-setting is always a monometallic standard
in the legal markets of the nation: either gold or silver. This
is the free market’s response to price controls on the two metals.
This result may not have been the policy-makers’ intention.
result of this was a decision, for a little while at least,
between the two precious metals. Not that this was what the
state had intended. On the contrary, the state had no thought
whatever of deciding in favor of the use of one or the other
metal; it had hoped to secure the circulation of both. But the
official regulation, which in declaring the reciprocal substitutability
of gold and silver money overestimated the market ratio of the
one in terms of the other, merely succeeded in differentiating
the utility of the two for monetary purposes. The consequence
was the increased employment of one of the metals and the disappearance
of the other. The legislative and judicial intervention of the
state had completely failed. It had been demonstrated, in striking
fashion, that the state alone could not make a commodity into
a common medium of exchange, that is, into money, but that this
could be done only by the common action of all the individuals
engaged in business (pp. 75-76).
the state fails to achieve through legislative means may be
to a certain degree within its power as controller of the mint.
It was in the latter capacity that the state intervened when
the alternative standard was replaced by permanent monometallism.
This happened in various ways. The transition was quite simple
and easy when the action of the state consisted in preventing
a return to the temporarily undervalued metal in one of the
alternating monometallic periods by rescinding the fight of
free coinage. The matter was even simpler in those countries
where one or the other metal had gained the upper hand before
the state had reached the stage necessary for the modern type
of regulation, so that all that remained for the law to do was
to sanction a situation that was already established (p. 76).
cases, the transition was deliberate. But the free market’s laws
of price always governed the transition. This was especially true
of the State’s attempted establishment of economic parity between
credit money and money metal coinage. Gresham’s law still rules.
exaggeration of the importance in monetary policy of the power
at the disposal of the state in its legislative capacity can only
be attributed to superficial observation of the processes involved
in the transition from commodity money to credit money. This transition
has normally been achieved by means of a state declaration that
inconvertible claims to money were as good means of payment as
money itself. As a rule, it has not been the object of such a
declaration to carry out a change of standard and substitute credit
money for commodity money. In the great majority of cases, the
state has taken such measures merely with certain fiscal ends
in view. It has aimed to increase its own resources by the creation
of credit money. In the pursuit of such a plan as this, the diminution
of the money’s purchasing power could hardly seem desirable. And
yet it has always been this depreciation in value which, through
the coming into play of Gresham’s law, has caused the change of
monetary standard. It would be quite out of harmony with the facts
to assert that cash payments had ever been stopped; that is, that
the permanent convertability of the notes had been suspended,
with the intention of effecting a transition to a credit standard.
This result has always come to pass against the will of the state,
not in accordance with it (p. 77).
to effect the acceptance of fiat money or credit money, the State
adopts a policy of the abolition of its previous contractual obligations.
What was previously a legal right of full convertability into
either gold or silver coins is abolished by a new law. The State
removes the individual’s legal right to exchange the State’s paper
notes for gold or silver coins. It then declares that the new,
inconvertible fiat paper money or bank credit money is equal in
value to the older redeemable notes, meaning equal to the value
of the actual coins previously obtainable through redemption.
But the free market determines otherwise. The two forms of money
are not equal in value in the judgment of the market’s individual
participants. Gresham’s law is still obeyed.
usage alone can transform a commodity into a common medium of
exchange. It is not the state, but the common practice of all
those who have dealings in the market, that creates money. It
follows that state regulation attributing general power of debt
liquidation to a commodity is unable of itself to make that commodity
into money. If the state creates credit money — and this
is naturally true in a still greater degree of fiat money —
it can do so only by taking things that are already in circulation
as money substitutes (that is, as perfectly secure and immediately
convertible claims to money) and isolating them for purposes of
valuation by depriving them of their essential characteristic
of permanent convertability. Commerce would always protect itself
against any other method of introducing a government credit currency.
The attempt to put credit money into circulation has never been
successful, except when the coins or notes in question have already
been in circulation as money substitutes (pp. 77-78).
to Mises, money is the most marketable commodity. Historically,
money has been gold and silver. Money-certificates are receipts
for money metals that are backed 100% by these metals. They function
as money because they are exchangeable for specified quantities
of money metal at any time without restriction. There are three
other kinds of money: credit money (money-certificates that are
not 100% backed by money metals), low-denomination token coins
made of base metals, and fiat money (certificates designated by
the State as money, but not backed by anything — no promise
to pay anything).
can set legal prices, meaning exchange ratios, between the various
kinds of money. The effects of such fixed exchange rates are identical
to the effects of any other kind of price control: gluts and shortages.
The artificially overvalued money (glut) replaces the artificially
undervalued money (shortage). This cause-and-effect relationship
is called Gresham’s law.
market establishes free coinage. The State in the past has stamped
certain coins or ingots with its identifying mark, as a means
of validating the weight and fineness of these money metal objects.
But when the State establishes a monopoly over money, it has violated
the free market’s principle of private ownership and exchange.
market establishes the quantity of money in circulation, just
as it supplies the quantity of consumer goods and capital goods.
This raises an important question. Is money a consumer good or
a capital good? Or is it neither? I cover this in the Part
II: “The Optimum Quantity of Money.”
on Money: Part 2
on Money: Part 3
on Money: Part 4
on Money: Part 5
on Money: Conclusion
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