Why Most Voters Accept Inflation

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There are a
few economists (very few) and a small percentage of voters (very
small) worldwide who are convinced that central banks inflate their
domestic currencies as a deliberate policy. We skeptics monitor
the various money supply statistics and find that there is rarely
a period longer than a few months in which any nation’s money supply
is either stable or falling. We also monitor various price index
statistics and find the same thing, with the exception of Japan.
Japan did have a few years — 1995 and 2001—3 — in which its official
price level fell for over a year by about one or two percent. On
Japan, see
the chart on "Inflation."

In testifying
before the Congress, every Chairman of the Federal Reserve System
invariably warns against inflation, meaning price inflation. He
tells Congress that inflation has not been fully overcome, that
it lurks in the background, and that recent successes in the war
on inflation — price increases of less than 3% — must regarded only
as good progress, not a victory. This song and dance has been going
on ever since the end of the Korean War.

If you go to
the Inflation Calculator
of the Bureau of Labor Statistics
and search for what you would
pay in dollars today compared with $1,000 spent in any previous
year, you will find that inflation has been with us, year by year,
with the exception of 1955, for over six decades. A $1,000 purchase
in 1914, the first full year of operations by the Federal Reserve
System, would cost you more than $20,000 today. That is a depreciation
of over 95%. This performance should be evaluated in terms of the
officially stated purpose of the FED. A
good example of this official policy
appears on the website
of the Federal Reserve Bank of Richmond.

The Fed’s
task is to supply enough reserves to support an adequate amount
of money and credit, avoiding the excesses that result in inflation
and the shortages that stifle economic growth.

The depreciation
of the dollar by 95% is not an indication of success regarding the
first criterion. The Great Depression, 1929—40, is not an indication
of success regarding the second. Neither are the recurring years
of recession ever since 1949.

How is it that
a government-appointed organization whose criterion of success is
stable prices has failed — except for 1930—40 — in its anti-inflation
goal, and was successful only during the worst depression in American
history? In other words, how is it that success somehow eludes this
organization? More important, how is it that it never comes under
attack in Congress for its nine consecutive decades of failure?

I suggest two
answers: (1) the Federal Reserve is the source of price inflation,
not its dedicated opponent; (2) the voting public prefers price
inflation to the alternatives: stable prices or falling prices.
In short, the Federal Reserve has faithfully delivered what the
voters have wanted.


Imagine an
auction. You have arrived early. You have looked over the inventory
of the items to be auctioned off. You have spotted some items that
interest you. You have made a few notes. You have jotted down limits
on what you are willing to pay for each item, so that you will not
be caught up in the heat of the bidding competition. In other words,
you have treated the auction as a business.

A few minutes
before the auction begins, you look around the hall. The other bidders
have assembled. It is a large crowd. This will tend to drive prices

You then notice
something odd. There are several men in three-piece dark blue suits
who have entered the hall. Each of them is carrying a bucket. Each
of them approaches a member of the audience. Each of them engages
in whispered conversation. The person in the suit hands the other
person a document and a pen, who signs the document and hands it
back and the pen. The person in the suit hands a bucket to the person.
The person then takes his seat, with a bucket in front of him.

The auction
begins before everyone is approached by someone carrying a bucket.
You notice that the bidding is lively. Prices are higher than usual.
You also notice that the people sitting next to a bucket are among
the most aggressive bidders. They seem to be about to outbid the
people without the buckets.

After each
item is sold, anyone with a bucket walks forward, sets the bucket
down, reaches into it, grabs a handful of what appears to be currency,
counts out pieces of paper, hands the wad to the auctioneer, picks
up the item he has just purchased, picks up his bucket with his
other hand, and walks back to his seat in the hall.

This goes on
all day long. The people with the buckets are buying up most of
the prime items. The law of the auction remains intact: "High
bid wins."

You attend
three more auctions in the next three weeks. You see the same scenario

Then, in auction
number five, someone with a bucket and a pen approaches you. He
whispers his offer. You can borrow cash to participate in the auction.
You see what this involves: an increase in debt. You hesitate.

He says: "Have
you noticed that prices have begun to rise at the auctions you have
attended?" You admit that you have.

He continues:
"If you don’t add to your holdings of cash, do you think you
will be able to buy any of the items you want?" You admit that
you have been forced to drop out of the bidding in the last two

He comments:
"With prices rising as they have, what do you think the items
you won’t buy today will be worth in a year?" A lot more, you

about five years from now?" It will be even worse.

"Why not
borrow the money on a five-year contract? You can get a good rate."
But you decide not to do it. You were warned by your grandparents
about consumer debt.

You lose every
bid that day.

You then miss
every bid for the next month.

You are becoming
frantic. At the next auction, another man with a bucket approaches
you. He presents the same arguments. Then he adds this. "You
may have noticed that interest rates on longer-term loans have been
rising. You can lock in today’s rate for as many years as you want.
But if you don’t act now, you may be forced to pay more next time."
You sign.

Today, you
bid successfully on several of the items you want. Prices do continue
to rise. Interest rates also continue to rise. At the next auctions,
you start signing more contracts. You start buying items you would
not have been interested in two months ago. In the heat of the bidding,
you find that you don’t abide by your pre-auction limits on the
prices you are willing to pay. You are accumulating a portfolio
of items whose prices keep rising.

Then, one evening,
you are watching the evening news. There is a photo of a man wearing
a three-piece suit that looks like the suits worn by the men with
the buckets. The anchorman reports that the Chairman of the Federal
Reserve System testified before Congress that day that the recent
rise of prices at the nation’s auctions reveals that the specter
of inflation has arisen again.

questioned him on rising long-term interest rates. This is hurting
the middle class, several Congressmen complained to the Chairman.
The Chairman replied that the problem is irrational exuberance.
Buyers are being caught up in the emotion of the auctions. It is
time for people to understand that no tree grows to the sky forever,
that people should save for a rainy day, and that a penny saved
is a penny earned.

Then the news
switches to the latest antics of a 23-year-old blonde celebrity
who has been arrested again.

Later that
night, you watch C-Span, which you began doing when you quit using
Lunesta. You see the entire 90-minute hearing. You also see something
that was not mentioned by the newscaster. A Congressman from Texas
asked the man in the suit to explain any connection between rising
prices at auctions and reports that men with buckets full of currency
have been attending auctions. The man in the suit replied that there
was no connection whatsoever. The men with buckets attend auctions
only to maintain price stability, while seeing to it that the auctions
do not suffer a meltdown due to unpredictable tight monetary conditions.

You drift off
to sleep. You wake up at 3 a.m. to find that C-span is covering
hearings on native American-owned casinos. You turn off the set
and go to bed. You dream about Sioux warriors on horseback attacking
men in three-piece dark blue suits. You find yourself cheering for
the Indians.


"Buy now,
pay later." There are few slogans that better summarize the
dominant philosophy of the modern consumer-driven economy.

The popularity
of this appeal is inherent in man. He discounts the future. He values
whatever he owns now more than the same item owned in the future
but postponed for now. What he wants is a way to buy now and pay
later . . . or not pay at all.

The wicked
borroweth, and payeth not again: but the righteous sheweth mercy,
and giveth (Psalm 37:21).

The more present-oriented
he is, the more ready he is to buy now and pay later. He starts
looking for a way to buy now without having to forfeit ownership
of something worth as much or more as the item offered for sale.

Before the
money economy, a man might take possession of a sheep today in exchange
for his promise of delivering a sheep to the lender next year, and
a second sheep the year after. What he hopes for is the birth of
two black sheep, which don’t have a good resale market because of
what later became known as the Henry Ford promise: "You can
get it in any color you want, so long as it’s black." White
wool can be dyed a different color. Black wool can’t. Its market
is smaller. Fewer people bid for black sheep. He will repay his
debt with black sheep.

Smart lenders
of course wrote into their contracts that the sheep to be delivered
had to be the same type as the sheep originally loaned. This made
it tough on borrowers.

The modern
fractional reserve banking system lets borrowers get back into the
black sheep scam. Anyway, they think they can. They think they can
get something for nothing.

So, they take
loans at 5% per annum so they can buy whatever they want at today’s
low prices. They are not concerned about a 4% depreciation of the
dollar over the following year. They can use depreciated dollars
to pay off lenders.

So, when the
men with the buckets come around, they find takers. People sign
the contracts.

Why would anyone
lend money at 5% when the money returned will be worth 4% less?
Answer: Because they have a government license to print the money
they loan. Paper and ink are cheap. Better a 5% return with 4% inflation
than having your license revoked.

Digits are
cheaper than paper and ink.

are mostly Keynesians, monetarists, or supply-siders. All three
positions assert that a nation needs a central bank to increase
the money supply. All three deny that a gold-coin standard without
fractional reserve banking is a legitimate ideal. They assure us
that the economy needs fiat money to sustain economic growth. Of
course, it does not need too much money. Too much money is bad for
the economy. It needs a just-right quantity of fiat money.

These people
are promoters of gray sheep economics.

Borrowers get
to dream of paying off loans with depreciating money. Lenders (bankers)
get to lend more money than they otherwise would have: more fiat
money to lend. Private creditors get to believe that the central
bank will get inflation under control. Economists get jobs promoting
the system.

Who are the
big winners? Auctioneers. Sotheby’s began in 1804. Christie’s was
founded in 1744.

There is one
other big winner in the United States: Crane & Company. Privately
held, it reports to no one outside its offices. It alone provides
the paper for the U.S. currency. It has ever since 1879. Arizona’s
Congressman Jim Kolbe has introduced legislation every year for
a decade to open up this market to competing bids. So far, no law.
Treasury has refused to tell Congress if any other companies have
been allowed to bid.
After all, what does Congress think it
is? The voice of the People? Well then, who do the People think
they are?


The fellows
with the buckets full of money have a sweet deal. But there is a
risk: they may not get repaid in an economic downturn. Also, there
is the problem of competition: new counterfeiters. So, bankers need
just enough money to hand out, but no more. But some bankers cheat.
They print too much money. This can lead to too much inflation.
Congress might get involved. That would be very bad. Congress might
revoke some banks’ license to print money. This is terrifying to

Bankers therefore
need a cartel to keep the members in line.

This is the
primary function of every central bank: the cartelization of fractional
reserve banking. Everything else is subordinate.

There is a
continuing complaint among the FED’s critics that the FED gets rich
by creating the money it lends to the government. It then gets paid
interest by the government.

This is true.
It does get paid. What
the critics apparently do not know is that the FED returns two-thirds
of this money to the Treasury every year.
In 2005, it took in
a little over $30 billion and returned $21.5 billion.

The FED is
the lender of first choice for the government.

The FED alone
returns two-thirds of the interest paid. Basically, the FED pays
Congress $20 billion a year to sit there and be quiet, rather like
schoolchildren in a tax-funded school. When a Congressman cross-examines
a FED chairman, he does so with the same authority that a fourth
grader raises his hand and asks Miss Snook a question about long
division, and with about the same knowledge of the subject. The
only time a FED chairman gets asked serious questions is during
a recession, and the questions are some variation of the schoolchild’s
"Can I go to the bathroom?" The FED Chairman answers:
"Yes, you MAY go to the bathroom." The Congressman looks

There is a
lot of fuss about who owns the FED. This implies that the key to
understanding the FED is to follow the money. It does, indeed, but
the critics do not understand that the flow of funds begins with
the FED. It does not end with the FED.

Member banks
own the FED’s shares. Yes, Congress should be told which banks own
the shares of the FED and in what percentage. But that would not
prove anything except this: the owners are private banks.

The key to
understanding the FED is understanding that its goal is not merely
to expand the money supply. It is to control the rate of expansion
by controlling the banking system as a whole — not too fast, not
too slow, but just right.

The FED is
owned by private banks to provide a service to the owners of private
banks: cartelization. This keeps bankers from "cheating"
other bankers by producing too much money, thereby endangering the
entire fractional reserve banking system by exposing it to bankrupting
bank runs by depositors.

Think of the
FED as OPEC. OPEC wants people to buy and use oil. The FED wants
people to borrow and spend money. OPEC wants to control the rate
of production of oil by legally independent producers. The FED wants
to control the rate of production of fiat money by legally independent
producers. OPEC protects the market for its product from secret
discounts by its members. So does the FED.


Price inflation
persists because (1) the FED creates money to buy assets, spending
it into circulation; (2) the public wants a little inflation. There
is no politically organized constituency for stable money.

The public
gets what it wants: depreciating money for repaying debts. The bankers
get what they want: constant income from ever-expanding debt. The
Congress gets what it wants: placated voters. The FED gets what
it wants: a cartel.

is a price for all this: the absence of 100% market-created, market-allocated
money. Instead, the world gets a money system based on the decisions
of competing bureaucrats, who do not own the money their central
banks create. Power without ownership; authority without full responsibility:
here is a formula for disaster.

20, 2007

North [send him mail] is the
author of Mises
on Money
. Visit http://www.garynorth.com.
He is also the author of a free 19-volume series, An
Economic Commentary on the Bible

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