Academia's War Against Free Market Money

In a confrontational and much-needed article, Prof. William Anderson launched a counter-attack against mainstream academic economists’ refusal to consider seriously the Austrian School’s theory of money. Despite the fact that Ludwig von Mises’ 1912 theory of money explains booms and busts better than rival theories, and despite the fact that Austrian School disciples predicted the most recent bust when academic economists denied that such a bust was imminent, Austrian School economists get no respect. I could almost hear Aretha Franklin as I read Anderson’s essay.

I would put it somewhat differently. I would say that the nine-decade blackout on Mises’ theory of money has fared better than the seven-decade blackout on his theory of why socialist economic calculation is impossible (no capital markets), and therefore socialism as a system will fail.

What rescued Mises’ theory of socialism was the bankruptcy of the Soviet Union in 1988, the fall of the Berlin Wall in 1989, and the suicide of the Soviet Union in 1991. Reality had undeniably triumphed. So, grudgingly, there was a new willingness by a few mainstream economists to give Mises’ 1920 essay, “Economic Calculation in the Socialist Commonwealth,” at least a footnote. One old-line socialist even admitted in print that Mises had been right. Robert Heilbroner, who became a multimillionaire from royalties on his undergraduate textbook on the history of modern economic thought, The Worldly Philosophers, which did not mention Mises, said so in print. He made his admission in a non-economics setting: The New Yorker (Sept. 10, 1990).

So far, there has not been a breakdown of the monetary system comparable to the breakdown of the Soviet Union. The Soviet Union always was, in Richard Grenier’s magnificent phrase, Bangladesh with missiles. Because it had power, Western intellectuals gave its system credence. But it had always been blood and mirrors from 1917. When it went belly-up, Western economists at last abandoned ship. They had not even made it in time to the lifeboats. They had only their lifesavers to let them float away.

What we need — and what we are going to get — is a monetary crisis comparable in scope to the crisis of the Soviet Union. Mises called this event the crack-up boom: mass inflation. It will undermine the capital markets. Thus, Western state capitalism, funded by fiat money through fractional reserve banks, will at long last achieve what socialist economies achieved first: economic blindness.

Meanwhile, Austrian School economists suffer from Aretha Syndrome. Anderson writes:

Austrian economists and the intellectual tools they bring to the table are needed more than ever, yet the response of the economics profession has been to be even more aggressive in denouncing Austrians as “quacks” and “charlatans” and making sure that they are excluded from any academic and political discussions about this crisis. However, if one wishes to see just how superior the Austrian position has been, the best proof is to watch clips of Peter Schiff (Irwin’s son), who is a well-known investor and fund manager, debate mainstream economists and other “financial experts” by using the Austrian analysis against their viewpoints. Schiff clearly understands the nature of the crisis and how to stop the bleeding and cure the “patient”; the others blindly stumble about, citing the “expertise” of economic theories that lead to nowhere.

For years, economists from the University of Chicago and others influenced by them have claimed that Austrian Economics is rejected by the mainstream because it “fails the market test.” Their logic goes like this: (a) Mainstream economists accept good theory and reject bad theory; (b) Austrian Economics is rejected by the mainstream; (c) Therefore, Austrian Economics is bad economics.

The real market test is not what a guild of self-accredited academic economists write in the tenured safety of their tax-funded ivory towers. It is not what a committee of equally subsidized peers determines is fit for publication in the guild’s unread and unreadable academic journals. It is the market outside the insulated halls of ivy that determines what survives and what does not.


We have seen a similar test before. The real world imposed a vote of “no confidence” on an earlier critic of Mises: Irving Fisher.

Fisher was the dean of American economists in 1929. For two decades, his theory of money was dominant. He did not accept Mises’ theory of the effects of central bank fiat money: to destroy capital investment by lowering the interest rate below what it would otherwise had been.

Fisher believed in monetary aggregates, not monetary distortion. The entire academic profession agreed with Fisher. It still does.

The debate has not changed fundamentally in over nine decades. Each side refines its arguments, but the basics do not change.

Mises used his monetary theory to predict the Great Depression of the 1930’s. In 1929, he turned down a lucrative job offer from Austria’s Credit Anstalt Bank. He was convinced that the bank was vulnerable to the panic that was coming. He did not want his name associated with the bank. In 1931, its collapse triggered a wave of bank defaults in Europe.

Mises wrote a critique of Fisher in 1928, which is available free on-line here. It is found in the section on “Monetary Stabilization and Cyclical Policy.”

Fisher’s conceptual error, Mises argued in 1928, was that he did not recognize the distorting effects of monetary inflation, caused by expansionary central bank policies. The price level — always a statistical tool of special interests — may remain stable, but this does not overcome the boom-bust effects of monetary inflation on the structure of production (pp. 85—88).

Fisher’s theory of money defined inflation as a rise in prices, not an increase in money. His theory produced blindness to the effects of central bank inflation on relative prices, especially of capital goods. Fisher did not see the depression coming. Mises did.

On September 15, 1929, on the basis of his theory of money, Fisher issued this now legendary prediction: “Stock prices have reached what looks like a permanently high plateau.” He repeated this for months thereafter.

Fisher had invented the Rolodex card file. He was a rich man in 1929. He lost his entire fortune, valued in the millions, plus the fortune of his wife’s sister, in the ensuing depression.

It is amusing to learn that two staff economists at the Federal Reserve Bank of Minneapolis have used modern (non-Austrian) economic theory to conclude: “Fisher Was Right!” They published this in the Bank’s in-house academic journal.

Many stock market analysts think that in 1929, at the time of the crash, stocks were overvalued. Irving Fisher argued just before the crash that fundamentals were strong and the stock market was undervalued. In this paper, we use growth theory to estimate the fundamental value of corporate equity and compare it to actual stock valuations. Our estimate is based on values of productive corporate capital, both tangible and intangible, and tax rates on corporate income and distributions. The evidence strongly suggests that Fisher was right. Even at the 1929 peak, stocks were undervalued relative to the prediction of theory.

It was a great theory, they say. It was the theory that counted, not his forecast. He was right in theory. He was wrong in his prediction.

He was wrong in both.

The modern economics profession is so hostile to Mises, who argued that central bank inflation in the 1920’s caused the Great Depression, that they are still ready to swallow Fisher — hook, line, and sinker.


The debate goes on. This time, however, it is between two real-world economists. One has a Ph.D. from the University of Chicago. The other has no Ph.D. Neither is in academia. They both sell their services as forecasters. Schiff saw this bust coming and said so on national television in 2006. Laffer responded on-screen, dismissing this prediction as nonsense. The video is here.

Schiff said that America would enter a major recession in 2007 or 2008, and that it would be long and deep. Laffer was contemptuous of Schiff’s forecast. “I don’t know where he is getting this,” he said.

He was getting it from Mises. He was getting it from Murray Rothbard. In short, he was getting it from Austrian School economics.

Dr. Laffer has little use for Austrian economics. He shares this opinion with 99% of academic economists and stockbrokers.

He insisted that American tax policy was great, monetary policy was great, and there was no crisis facing the American economy. Everything was just fine, Dr. Laffer insisted. That was then. This is now. Now he says we are facing the end of prosperity. He has now written an article in the Wall Street Journal, titled provocatively, “The Age of Prosperity Is Over.” He had written this:

Financial panics, if left alone, rarely cause much damage to the real economy, output, employment or production. Asset values fall sharply and wipe out those who borrowed and lent too much, thereby redistributing wealth from the foolish to the prudent.

Quite correct. This is exactly what financial panics do. Peter Schiff had predicted this financial panic. Dr. Laffer had denied it was coming.

Good decisions should be rewarded and bad decisions should be punished. The market does just that with its profits and losses.

He can say that again! That is why I am pointing attention to a very good decision: Peter Schiff’s decision in 2006 to go on national television and warn viewers about the financial panic that has now hit with devastating force. Dr. Laffer made a bad decision: to tell viewers everything was A-OK. Now, he says this: Twenty-five years down the line, what this administration and Congress have done will be viewed in much the same light as what Herbert Hoover did in the years 1929 through 1932. Whenever people make decisions when they are panicked, the consequences are rarely pretty. We are now witnessing the end of prosperity.

This is exactly what Peter Schiff was saying in 2006. He has not changed his views. Dr. Laffer has changed his.

Dr. Laffer is not a fast learner, but he is not a suicidally slow learner, either. He changed horses mid-stream — not in terms of economic theory but in terms of the terrible reality of the effects of the economic policies of Mr. Bush, Mr. Greenspan, and now Dr. Bernanke.

Dr. Laffer remains a non-learner with respect to Austrian School economic theory, but at least he can see what is in front of his nose: a major recession, a collapsing stock market, and a catastrophic economic policy. He is therefore a lot faster learner than the non-learners on Tout TV who keep telling viewers that “the bottom is near: so here’s a stock to buy today to make money.”

So, we find Dr. Laffer blaming the Federal Reserve System for the present crisis — not the FED under Greenspan, which he publicly praised in his debate with Schiff, but Bernanke’s tight money policy, which ended in August 2008. As reported in the financial press,

“The Fed did not allow the money base to expand, and we had a panic in the liquid markets,” Laffer said. “What caused this was financial panic, pure and simple.”

Chicago School economists hate stable money — the kind of money provided by (1) the gold standard and (2) 100% reserve banking. They like “mild” money manipulation by the Federal Reserve System. That was Friedman’s argument in A Monetary History of the United States (1963). The FED did not inflate enough in the early 1930’s. It was opposed by Murray Rothbard in America’s Great Depression (1963). The FED inflated too much in the late 1920’s. Both books were published in Princeton, New Jersey: one by Princeton University Press and the other by Van Nostrand. Which book won Nobel Prize for its author? Which book did academia accept? Which one was ignored for 20 years until Paul Johnson discovered it and used it as the basis for his chapter on the Great Depression in Modern Times (1983)? Need I ask?


Friedman, a disciple of Fisher’s monetary economics, wrote in a famous essay in 1953 that the sole test for an economic theory is its ability to produce accurate forecasts. Mises opposed this interpretation. He argued for the sole test as internal consistency and the self-evident accuracy of a few axioms.

The great irony here is that Mises and those who use his theories have predicted recessions better than Fisher and his disciples.

Rothbard, who was in agreement with Mises on methodology, provided a summary of Fisher’s forecasting abilities.

During the 1920s Fisher was the leading prophet of that so-called New Era in economics and in society. He wrote three books during the 1920s praising the noble experiment of prohibition, and he lauded Governor Benjamin Strong and the Federal Reserve System for following his advice and expanding money and credit so as to keep the wholesale price level virtually constant. Because of the Fed’s success in imposing Fisherine price stabilization, Fisher was so sure that there could be no depression that as late as 1930 he wrote a book claiming that there was and could be no stock crash and that stock prices would quickly rebound. Throughout the 1920s Fisher insisted that since wholesale prices remained constant, there was nothing amiss about the wild boom in stocks. Meanwhile he put his theories into practice by heavily investing his heiress wife’s considerable fortune in the stock market. After the crash he frittered away his sister-in-law’s money when his wife’s fortune was depleted, at the same time calling frantically on the federal government to inflate money and credit and to re-inflate stock prices to their 1929 levels. Despite his dissipation of two family fortunes, Fisher managed to blame almost everyone except himself for the debacle.

But what of Fisher’s disciples? The head of the Federal Reserve Bank of Dallas, also named Fisher, remains in awe of him. He writes:

During the first quarter of the 20th century, Irving Fisher was one of America’s most celebrated economists. But sadly, most Americans today have not heard of him. Even as his reputation among the public faded with the years, his reputation within the economics profession has steadily risen. Fisher (no relation to the undersigned, though I would like to claim access to his gene pool) was a pioneer in many theoretical and technical areas of economics that today are the foundation of central bank policy. One such achievement was the creation of indexes to measure average prices, the bedrock for all current monetary policy. His was a storied and successful career even if, by the time of his death, Fisher’s own finances and reputation as an economic prognosticator lay in ruins. We hope readers will find his life story interesting as they learn more about this pioneer of monetary economics.

The debate goes on because the strict free market views of Mises are anathema to academic economists, who are hired by the Federal Reserve System to continue the cheerleading. The graduate schools without exception favor the FED. Without exception, the textbooks do not treat the FED as a cartel, which it is, according to the definitions in the textbooks’ chapters on cartels and oligopolies. The one book that blows the whistle is Murray Rothbard’s The Mystery of Banking, which was not aimed at a collegiate market and has never been assigned there. You can get it free here.


The debate between Mises and Fisher, Mises and the Chicago School, and Schiff vs. mainstream economists in 2006 boil down to this: Can we trust the Federal Reserve System? The Austrian School’s answer: no. Why not? Because the Federal Reserve System substitutes the judgment of monopolistic central planners for consumers and investors. It substitutes the decisions of people with job tenure and little accountability for the decisions of people who put their own wealth at risk. It substitutes the judgments of non-owners for owners. We find that academic economists, either tenured or seeking tenure, side with Fisher. The textbooks side with the academic economists.

You would be wise to side with Mises.

December 1, 2008

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

Copyright © 2008