What Is Money? Part 12: Why Central Banking Persists

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I have presented the basics of monetary theory, as developed by Austrian School economists. A distinct Austrian School theory of money goes back to Ludwig von Mises’ book, The Theory of Money and Credit (1912). Mises amplified this theory over the years until its culmination in Human Action (1949). His disciple, Murray Rothbard, extended Mises’ analysis in a series of books, most notably chapter 11 of Man, Economy, and State (1962), America’s Great Depression (1963), What Has Government Done to Our Money? (1964), and The Mystery of Banking (1983).

What is remarkable about these expositions, especially Rothbard’s, is how comprehensible they are. They are not written using technical jargon, algebraic formulas, or complex graphs. They are presented in a verbal format, argument upon argument, with relevant references to historical examples. The least accessible of these studies is The Mystery of Banking, in which Rothbard presented the material in a format comparable to other upper-division college textbooks in money and banking. Compared to the competition, the book is a model of clarity. Compared to his earlier writings, it isn’t.

This is a testimony to the opaque nature of the standard economics textbooks of the academic world. The monographs are worse. The journal articles are worst of all. I recall the question posed at a Philadelphia Society meeting by George Stigler, in 1974 or 1975. “Why is it that there was not a single article worth reading in any scholarly economic journal last year?” Stigler won the Nobel Prize in 1982.


I covered five correct premises in Part 1 of this series. It does not hurt to review them, and then identify their opposites.

1. SOVEREIGNTY. Sovereignty in the field of economic theory must begin with a theory of property rights. Mises began here: private property. All other schools of opinion prefer not to raise the question of sovereignty openly, and especially not early in their expositions. As the reader learns, they view sovereignty over money as based on the sovereignty of the state.

2. AUTHORITY. Mises argued that authority over money is derived from the right of individuals to exchange their property. There is a hierarchy of economic control that is based on individual ownership of the most marketable commodity: money. Buyers (sellers of money) are dominant. The logic of economics leads to this conclusion. In contrast, the other schools of economic opinion assume that the state inherently possesses lawful authority over money. They do not explain why this authority is a conclusion of their economic theory of human action. They merely assert that politicians or central bankers must retain control over money.

3. LAW. Mises argued that money evolves within the legal framework of a private property order. Money evolves out of the right of private exchange and contract. Pricing is in terms of supply and demand. The monetary order is the result of human action, but not human design. In contrast, the other schools of economic opinion see money as evolving within a framework of state control over money. Supply and demand occur within a legal framework in which the state is allowed to expand the money supply. They see the monetary order as the product of human action, especially political design.

4. SANCTIONS. Mises argued that the same sanctions that govern all entrepreneurship should govern the monetary order: profit and loss. All other schools believe that the national government should license banking and stand ready to protect the banking system from bankruptcy. This protection rests on the state’s authority to create money.

5. CONTINUITY. Mises argued that continuity is preserved through habit, opinion, and the inability of gold miners to mine copious quantities of gold cheaply. The other schools are all, to one degree or other, hostile to a monetary order based on a metallic standard. They hold that continuity is best provided by the state.

Mises and the Austrian School economists present their monetary policy in terms of the general laws of the free market. In contrast their opponents — whose name is legion — argue that monetary policy must be consciously developed and enforced by national governments and government-owned or protected central banks.

This is why non-Austrian theories of money are convoluted. The theories are in contradiction to the general economic theories offered by the rival schools. The more convoluted the theory — Keynesian is the example here — the less likely that the public will understand the nature of the shell game going on. The more these theories are wrapped in the clothing of jargon, equations, and graphs, the less likely that some child will yell from the sidelines: “The emperor has no clothes!”

Why is this the case? Because children are not allowed to attend the monetary parade until they have been certified by the state as having completed a state-authorized curriculum. This curriculum is not grounded in Austrian School economics. It is grounded in a theory of economic cause and effect that rests on the right of the state to authorize and make mandatory specific curriculum materials.

Over three decades ago, the state superintendent of public instruction of Arizona called his friend and mentor Leonard Read to inform him that he had persuaded the state curriculum committee to mandate a course in free market economics. Leonard instantly replied, “I see. It’s a compulsory course in freedom.” The educational venture was doomed before it got started. Read knew this instantly.


The average man in the street has no theory of money, other than this: he wants more of it. He is easily tempted to make the mistake that all economists other than the Austrians make: a little more money nationally is a good thing.

The man in the street does not need more money. He needs more of the things money can buy. This means that he needs greater output. He says, “I need more money,” but he means, “I need greater output with which to buy scarce consumer goods.” The economists say, “The economy needs more money,” because they believe that people’s output can increase only when there is an increase in the money supply. The state or the state-sanctioned banking system must supply this extra money.

Ask the man in the street if he would be satisfied with the same wage this year if you could show him how to cut his expenses by (say) three percent. If he has any doubts, you could say: “Remember, you won’t get bumped into a higher tax bracket. You won’t pay any income tax on your savings.” That would do it. He would rather have a universal discount coupon than a raise.

Ask a trained economist if he would be satisfied with a flat wage index if you could show him how the country could cut expenses by (say) three percent. He would reject this. “Price deflation is bad for the economy.” You could add: “Remember, people won’t get bumped into a higher tax bracket.” The Keynesian would say, “That’s another reason against price deflation.” The monetarist would say that price deflation is always bad, so the central bank should increase the money supply by three percent. “No, wait, maybe four percent. Anyway, no more than five percent.” The supply-side economist would recommend monetary inflation, and then tell you that price inflation can be offset by cutting top marginal tax rates. “Inflate, cut top bracket taxes, and grow.”

The graduates of our high schools are confused about money. They are usually humble. “It’s the government’s responsibility to protect the public.” They have never heard of central banking. College graduates in business or economics are equally confused, and they are equally trusting of government monetary policy. The Ph.D. in economics trusts the central bank, not the government. The central bank employs trained scholars like himself. He prefers to trust them rather than the gold coin standard.

The entire world is confused about (1) property rights to gold and silver, (2) the customer’s authority over money, (3) supply and demand, (4) profit and loss, and (5) the continuity of money’s value. It is not surprising that central banks never get shut down or disestablished, not even after they create nightmare hyperinflations. The victims do not recognize the perpetrator: fractional reserve banking.

The victims of inflation and the boom-bust cycle do not recognize the cause, any more than the victims of the Black Death in 1348 recognized the cause as fleas on black rats, or victims of yellow fever in Philadelphia in 1798 or Memphis in 1878 recognized mosquitos as the killers. If the physicians did not know, how could the masses have known?

But economists are not like physicians. What should we say of economists, who can follow a train of logic? Why can’t they follow the Austrian School’s train of logic? Because it begins with a supposedly false premise: the principle of the productivity of private property in monetary affairs.

Defenders of central banking reject this principle. So, they reject Mises’ Theory of Money and Credit. Before 1991 brought the collapse of the Soviet Union, defenders of central planning rejected Mises’ essay, Economic Calculation in the Socialist Commonwealth (1920). The basis of the rejection in both cases was the same: their hostility to the principle of the productivity of private property.

The collapse of the Soviet Union brought derisive laughter from academia, worldwide. The Marxists have never recovered, nor is it likely that they will. The emperor had no clothes. No similar derisive laughter has greeted central bankers after their centrally planned disasters have brought economic devastation to tens of millions. On the contrary, politicians call for more of the same. The voters are somewhat skeptical, more ready to cry out, “The emperor has no clothes!” Politicians are not. They know where their bread is buttered, and with what: fiat money for their political action committees.


The complexity of fractional reserve banking is enormous. Its processes are deliberately shrouded in mystery. This is why the Federal Reserve resists an audit by an independent government agency — independent of the FED. This would be the equivalent of having non-priests enter the holy of holies in ancient Israel.

To reform central banking is to perpetuate it. To perpetuate it is to accept the fundamental premise of modern economics: money is different. Money is not governed by the same laws of supply and demand that govern the rest of the economy. Money requires experts to administer it. Private contracts are not sufficient.

When we hear that “monetary policy is too important to be left under the control of Congress,” why don’t we hear Congress respond, “This is a violation of democracy”? Because Congress thinks that monetary policy is too important to be left to citizens who own gold coins. Congress does not want to have its central bank—funded programs vetoed by gold coin owners who can walk into a bank with digital money and demand payment in gold coins. Congress tolerates central banking because Congress suspects that citizens would not tolerate Congress if they could veto central bank purchases of government debt.

Members of Congress are confident that they can buy votes by spending newly created money. They are not confident that this could continue if the public could redeem digital money for gold. Congress buys votes with fiat money. It would find it far more expensive to buy votes with gold coins.

What is true of Congress is true of every legislature on earth. This is why we never see a significant reform of central banking. Such a reform is not in the self-interest of the elites that have built the modern political order on fiat money.


Here is an old joke. A lecturer tells an audience that two things threaten the existence of democracy: widespread public ignorance and widespread apathy. When his speech ends, one listener turns to the person on his right and asks: “Do you think he’s right?” The answer: “I don’t know, and I don’t care.”

This joke gets to the heart of the matter about as well as anything. This joke is at the heart of democracy. Those who benefit directly from government largesse have an incentive to learn how the system works. They care deeply, so they find out.

In contrast are the masses who will pay just a little per capita for each boondoggle. They are ignorant of each proposed boondoggle. They have no cost-effective way to organize against it. The more anyone knows, the more frustrated he becomes over the ignorance and apathy of the voters. The cost of organizing masses of voters against a proposed boondoggle is very high. In contrast, the cost to the special-interest group of paying off Congress through PAC money is low, compared to the potential benefits.

Central banking over the last century has hidden in the shadows of the public’s perception. The public knows nothing about how these engines of inflation work. The voters do not understand what a cartel is. They do not understand that a central bank is the enforcement agency of a vast cartel of profit-seeking bankers. The few who took a course in economics were not told by the instructor or the textbook that the economic analysis of cartels applies to every central bank.

This has given modern banking a nearly impervious shield against criticism of the very concept of central banking. There are critics who oppose this or that central bank policy. These critics talk to each other, not to the voters.


To call for the abolition of central banking in the name of economic theory is to call for the abandonment of economic theory. It means calling for expensive political mobilization against an unknown institution. It means imagining that someone will put up the money to change millions of voters’ minds. Who will do this? Why? What results can he legitimately expect?

A free market built on private property would not allow extensive fractional reserve banking. It would not allow a central bank. Bank runs would take their toll.

This is why commercial bankers support central banking. It is their port in the storm — a storm created by central bank policy. They think the central bank will protect them from new competition. It will build a barrier to entry to new banks, the existing bankers believe. That is exactly what it does. Then it implements policies that benefit the largest banks.

Such has it been since 1694. Such will it be until people voluntarily abandon digital money that is unbacked by precious metals.

The voters don’t know and don’t care. Neither do the depositors. For as long as the government-funded deposit insurance exists, depositors will not care.

Someday, the system will come unglued, all by itself. We will then see whether people go to a gold coin standard on their own. They did not do so after the 1921—23 German inflation and the 1933—48 price-controlled “repressed” inflation.

What will it take? I don’t know. But I do care.

Gary North [send him mail] is the author of Mises on Money. Visit http://www.garynorth.com. He is also the author of a free 20-volume series, An Economic Commentary on the Bible.

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