Pro-Government Emergencies

Mises was one of the few men who understood that the inflation itself and the inflationary mentality it had produced were the greatest political burdens the war economy had bequeathed to the new republic. But in the socialists' eyes, he was merely a competent technician who knew the money machine well. And during the first months of his involvement with the new administration, Mises did in fact play this role faithfully, preventing on several occasions Austria's fall into lawlessness.

Mises knew that funding the government by printing money contradicted all established principles of public finance. As he had explained in Theory of Money and Credit, it was a risky and temporary expedient. If kept up, it had to lead to hyperinflation. Still, as things stood, he believed it was the only way to maintain law and order in Vienna.

[G]overnment expenditure is today considerably higher than government revenue, and all effort to limit expenditure and to increase revenue until the budget is equilibrated encounter almost irresistible political difficulties. Under such conditions, there is hardly any other solution but to put the printing press directly or indirectly to the financial service of the state and to provide, by the issue of banknotes, those means that cannot otherwise be provided.²⁹

It was not the only time Mises would justify and implement emergency monetary policies that are difficult to reconcile with classical-liberal principles. In accord with F.A. Hayek, one could call such positions desperado policy: it is “essentially the policy of the desperado who has nothing to lose and everything to gain from a short breathing space.”³⁰ But keep in mind that Mises approached policy matters from a utilitarian point of view. Strictly speaking, there is no such thing as scientific “classical-liberal principle” from his perspective. There are only effective and ineffective policies. Using the monetary printing press in the winter of 1918–1919 was the only suitable way to keep the government going, he thought.

There was also a different sort of emergency that seemed to require a greater use of the printing press. A few months after the political disintegration of the Habsburg empire, the monetary and financial disintegration followed suit. The war bonds had in fact been underwritten mainly by ethnic Germans, who tended to represent the wealthier, urban population of the country. At the end of the war, cash holdings were largely concentrated in predominantly non-German rural areas. The black market had moved food into the cities and cash out into the agricultural countryside. It is not surprising that one of the first measures of the new national governments was to deny responsibility for the war debts incurred by the empire. It was a simple political decision that seemed to entail only advantages for their main constituencies, which were the anti-German movements of the seceded territories. The burden of the repayment would fall exclusively on the Germans. As things stood, this was easy enough to justify to both the new nations and the Western powers.³¹

The bondholders soon realized that the small Republic of Austria could not bear the burden of all the war debt on its own. They turned to redeeming their bonds at a discount for cash at the Austro-Hungarian Bank, and the bank granted these requests without fail, printing any quantity of additional banknotes to accommodate the wishes of the bondholders. Thus the urban bondholders had saved at least some fraction of their investment, whereas the rural cash owners saw the purchasing power of their money holdings shrinking under the relentless influx of new money.

Whether or not the Yugoslav, Czechoslovak, and Hungarian leaders had considered the possibility that the central bank could use its control of the production of krone banknotes to counteract their scheme, there was now only one way out for them. They had to abandon the Austro-Hungarian Bank's currency and establish their own. Technically, this involved “stamping” the krone notes circulating in their territories, thus making them identifiably separate currencies. Yugoslavia was the first country to put this into practice in early January 1919 and Mises at once commented on the event in an anonymous piece for Neue Freie Presse.³² He anticipated what the next move would be: Yugoslavia, for example, would use a part of its cash surplus to buy financial and other assets in the countries that still used Austrian kronen. This would (1) increase Yugoslavian wealth—trading bad paper for real goods—and (2) provoke a price increase in Austria from which the Yugoslav economy would be protected because of its separate currency.

Such a postwar inflationary reflux of krone notes had been a constant fear during the wartime expansion of the krone currency area. Now it was a reality. Mises started campaigning for immediate countermeasures. The only effective strategy for Austria was to do the same thing—stamping the krone notes circulating in its territory and thus creating a separate Austrian currency. In a truly grotesque episode from mid-January 1919, the champion of sound money provided hands-on support for banknote production.³³ Mises unofficially approached his friend Victor Graetz, who ran a large printing company. His inquiry concerned additional printing facilities for the Austro-Hungarian Bank, whose printing press was unable to handle a rapid replacement of the krone circulation. Graetz responded:

Coming back to the discussion we had on Tuesday, I venture to inform you that I have made inquires about the question of banknote production, and that very probably it is possible to assure the production in private printing houses within the necessarily short delay. The Steyrermühl [Graetz's company] would be in the position to provide 10 flat-pressing machines which, considering the urgency of the case, could be operated 24 hours in three work shifts, so that the performance would be equal to that of 30 fast-pressing machines.³⁴

Because quick action was an imperative, the first step was to stamp the Austrian krone notes. In early February, Mises made the case for this measure in an anonymous piece for Neue Freie Presse, urging quick action.³⁵ The next day, the government issued a decree ordering the stamping of the krone notes circulating in Austria, a process that was completed by June.

When the Czechoslovak government started stamping its notes in late February, it was clear that the Austrians had not acted precipitously.³⁶ Mises explained the matter in detail in an article he prepared for the Verein für Socialpolitik on the question of currency union between Germany and Austria.³⁷ In the final version of this piece, which he completed in early July, we read:

Now German-Austria had to act too. She could not wait until all other states had shifted from the Austro-Hungarian krone to a national krone. She had to separate herself from the Austro-Hungarian krone to prevent those banknotes, which for whatever reasons would not be stamped in the other state territories, from flying back to German-Austria and increasing inflation here. She had to prevent the Czechoslovakian Ministry of Finance, which after the stamping had held back half of the banknotes of its citizens, from using this half to buy stocks and bonds in German-Austria. She had to prevent those krone banknotes circulating in the billions in the Ukraine and in neutral foreign countries from being considered money of German-Austria alone.³⁸

He did not mention of course that he himself had already taken the steps he advocated. The government only ratified the status quo Mises had already brought into being. On March 15, 1919, Schumpeter was appointed Minister of Finance in Karl Renner's second government, a coalition between Renner's social democrats and the Christian Social Party. Schumpeter immediately put the reform of the currency on his agenda. The matter was apparently settled in a single day of intense discussions with representatives of the Austro-Hungarian Bank and external experts such as Landesberger, Hammerschlag, Wilhelm König, Walther Federn, and Mises.³⁹ An executive order of March 25, 1919 conferred the status of legal tender on the stamped krone notes and denied this status to unstamped ones.

This seems to have been one of Schumpeter's few successes as finance minister. He had no power base within either party of the new government. The social democrats trusted him because he had used his academic authority to support the socialization of big industry. The Christian Socialists liked him because of his long-standing opposition to union with Germany. But his only real political asset was the international reputation he enjoyed. He was a recognized authority in economics, and his chancellor correctly anticipated that this could be helpful in negotiations with international creditors. This reputation was no help, however, in his efforts to put government finance back on track. Not a single major point of his program was put into practice: he could not impose a one-time capital levy to pay off the war debt, he could not stabilize the currency, and he failed to create an independent central bank. After the other cabinet members denied support for his financial program, the luckless Schumpeter threw in the towel and quit the government on October 17, 1919.