Deflation and Liberty


It is my great pleasure to see this little essay in print. Written and presented more than five years ago, it was welcomed at the time by scholars with a background in Austrian economics. However, it was not understood and was rejected by those who did not have this background. In order to reach a broader audience, a short essay would simply not do. I therefore decided not to publish Deflation and Liberty and started to work on The Ethics of Money Production, a book-length presentation of the argument, which has just become available from the Mises Institute.

In the present crisis, the citizens of the United States have to make an important choice. They can support a policy designed to perpetuate our current fiat-money system and the sorry state of banking and of financial markets that it logically entails. Or they can support a policy designed to reintroduce a free market in money and finance. This latter policy requires the government to keep its hands off. It should not produce money, nor should it appoint a special agency to produce money. It should not force the citizens to use fiat money by imposing legal-tender laws. It should not regulate banking and should not regulate the financial markets. It should not try to fix the interest rate, the prices of financial titles, or commodity prices.

Clearly, these measures are radical by present-day standards, and they are not likely to find sufficient support. But they lack support out of ignorance and fear.

We are told by virtually all the experts on money and finance – the central bankers and most university professors – that the crisis hits us despite the best efforts of the Fed; that money, banking, and financial markets are not meant to be free, because they end up in disarray despite the massive presence of the government as a financial agent, as a regulator, and as money producer; that our monetary system provides us with great benefits that we would be foolish not to preserve. Those same experts therefore urge us to give the government an even greater presence in the financial markets, to increase its regulatory powers, and to encourage even more money production to be used for bailouts.

However, all of these contentions are wrong, as economists have demonstrated again and again since the times of Adam Smith and David Ricardo. A paper-money system is not beneficial from an overall point of view. It does not create real resources on which our welfare depends. It merely distributes the existing resources in a different manner; some people gain, others lose. It is a system that makes banks and financial markets vulnerable, because it induces them to economize on the essential safety valves of business: cash and equity. Why hold any substantial cash balances if the central bank stands ready to lend you any amount that might be needed, at a moment’s notice? Why use your own money if you can finance your investments with cheap credit from the printing press?

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December 15, 2008