Inflation; B. B. Greaves

1978 ONE CURRENCY FOR THE WORLD? 455 Because of the dismal recent rec ord of practically all countries in swindling their own citizens, the re turn to an honest convertible cur rency may now be difficult and re mote. Individual nations can begin by strictly limiting any further ex pansion of their credit and currency issue. Meanwhile they can grant the right to their own citizens to coin gold privately and even to issue gold certificates against their coins. When governments are ready themselves to return to a gold stan dard, it would be well if this time they kept a 100 per cent gold reserve behind their paper currency and so removed the expansionary tempta tions of a fractional-reserve system. And it would be an excellent thing, also, if their new currency unit were fixed as a definite round weight of gold, say a gram, and were called simply a goldgram-instead of a dol lar, franc, mark, peso or what not and if at least the leading countries could agree on the same gold weight for their unit. Then the world would really have, for all practical pur poses, the ((single" and common cur rency that Mr. Matsushita would so much like to see. @ Bettina Bien Greaves Inflation What It Is and What It Does WHENEVER we act, we want our ac tions to be successful. It always helps to take stock of the past and to try to foresee the future. As all of us are buyers of some things and sellMrs. Greaves Is a member of the senior staff of The Foundation for Economic Education, author of the two-volume Free Market Economics published by the Foundation in 1975, and translator of LUdWigvon Mlses' On the Manipulation of Money and Credit, Percy LGreaves, Jr., editor (Dobbs Ferry, N.Y.: Free Market Books, 1978).

ers of others, the more we can know about what is likely to happen to prices the better. Nowadays, more and more people complain of the higher and higher prices· asked for practically all the things they want to buy and they expect prices to keep on rising further. Many· say these higher prices are (~inflation." Then, because most producers and sellers of goods and services raise their prices· fre456 THE FREEMAN August quently, people blame them for uin flation." They blame businessmen who are asking higher prices, labor unions who obtain higher wages for their members, the international oil cartel (OPEC) when it raises the price of petroleum, farmers who ask more for beef, manufacturers who raise steel prices which add to the costs of producing many other items. Then, when the higher prices of U.S. manufactured goods discourage for eigners from buying, they blame the declining ubalance of payments" due to fewer sales abroad. The list of culprits blamed for Hinflation" is almost as long as the number of persons offering goods on the mar ket.

Usually ignored in these discus sions is the one thing all prices have in common-the fact that they are expressed in dollars. Because prices are dollar prices, it would seem ob vious that the number of dollars must have something to do with higher prices and ~~inflation." Certainly people with more money will be able to spend more than those with less. They will gen erally be willing-and able-to offer higher prices for any particular item they want. Thus, when higher prices are not only being asked, but are actually being paid, for many or most goods and services on the mar ket, it must mean that many people have more dollars to spend. There fore, an increase in the number of dollars may be the real culprit to blame for higher prices. Perhaps the increase in the quantity of money itself is the real ~~inflation." Let us look at the situation. Do People Have More Dollars? In this country, only the national government, the Federal Reserve, and the banking system are now legally permitted to create U.S. dol lars. If you and I were to manufac ture dollar bills, this would be ucounterfeiting." But the U.S. gov ernment and the banks may add to the money stock without fear of penalty. And they do just that. This expansion is carried out primarily by monetizing Federal debt, by Fed eral Reserve ~~open market opera tions" and by credit expansion through commercial bank loans to private borrowers. In other words, the Federal Reserve System, with the aid and support of the U.S. gov ernment, is responsible for the number of dollars in existence.

The official estimate of U.S. dollars is reported regularly by the Federal Reserve. Their figures show that the stock of money has been increased tremendously in recent decades, especially since World War II. It was almost doubled during the War from about $64.5 billion at the end of 1941 to $132.5 billion by the end of 1945. Since then the number of U.S. dollars has mushroomed during Republican and Democratic 1978 INFLATION-WHAT IT IS AND WHAT IT DOES 457 administrations alike. From a figure of $620 billion in January 1975, the money stock (currency plus private checking deposits plus commercial time and savings deposits) rose to $806 billion at the end of 1977. With so many new dollars being created is it any wonder that many people are spending more than ever before? As a matter of fact, the increase in the number of dollars is inflation. It is this increase that accounts for the higher prices we all must pay for most of the things we buy.

Who Spends the Newly Created Dollars? Who spends the newly created dol lars? And for what? That depends on the choices and actions of those who receive them-(a) the U.S. govern ment, (b) the banks expanding cred it to make loans and (c) those who receive the funds created. When the U.S. government is the beneficiary, the newly created dollars go into the general ((pot" and are drawn on for various expenses. When the new dollars are issued by the banks in the form of increased loans, the banks determine to whom they are lent and each borrower decides how to use his borrowed money. From October 1, 1976, through September 30, 1977, the federal government spent $406.4 billion, only $358.3 billion of which were covered by its receipts from various sources-taxes, bonds sold to private persons, revenues paid for services rendered, and the like . Newly created money and/or credit made up the difference of $48.1 billion.

When the government spends these newly created dollars, they go for its various programs. No one knows who is getting old dollars earned in production and paid to the govern ment in taxes and who is getting new ones. The tax funds and the newly created money all look alike and all go into the same U.S. gov ernment ~~pot" from which it pays its expenses. However, we can be sure that these additional dollars enable the federal government to spend more freely and to support more non producers than it otherwise could. And such federal programs, trans ferring wealth from producers and taxpayers to others who earn little or nothing themselves, have been growing fast. In 1975, Roy L. Ash, formerly director of the federal gov ernment's Office of Management and Budget, estimated that the U.S. government's ~~transfer payments" such as Social Security, payments to retired railroad and government employees, for Medicare and Medicaid, for welfare and social ser vices, for food stamps, for veterans benefits and for the unemployed then comprised one-half of federal expenditures-up from only 20 per cent in 1950 (Wall Street Journal, July 28, 1975).

458 THE FREEMAN August Multiplying Effects Not surprisingly, those who bene fit under these government ~~trans fer" programs are more willing and better able to pay higher dollar prices for the things they want than if they had to rely on their own resources. Their greater willingness to spend enables those who sell to them to ask for, and to receive, higher prices for these particular items. And these sellers must ask for more, if they want to stretch out their available supplies to meet the new demand from ~~transfer pay ment" recipients. Thus, the pressure toward higher prices increases. Then step by step, as the newly created money travels from one sell er to another, it begins to affect other prices also. When the new dollars come on the market in the form of bank loans to private consumers and business firms, the new borrowers are in a position to offer higher prices than before for whatever they want.

Whether they spend their borrowed funds for consumers' goods, to hire workers, to purchase raw materials, to build factories, to expand or to start new production, those offering these particular goods or services on the market soon learn that these new borrowers will pay more than most. previous customers had been ready to pay. Then they too begin to raise their asking prices in response to this newly stimulated demand. This helps to stretch out the avail able supplies to meet the increased demand. It also serves to spur pro ducers to expand production or to embark on new projects to satisfy their new customers. Then again, step by step over time, as the newly created money is traded from person to person the higher prices paid by beneficiaries of this credit expansion influence other prices also. Certain Consequences What are the effects of creating new dollars? One effect of creating additional dollars, i.e., of inflation, as we have seen, is generally higher prices. However, they are only one effect. And they are not the most serious effect of inflation at that.

Increasing the number of dollars leads to shifts in wealth and income. As prices rise, more dollars are needed to buy things. The dollar's purchasing power goes down. As a result also the value of the dollar declines in the minds of people. Anyone who has been holding dol lars and/or somebody's promise to pay dollars, suffers the loss of a part of their value. After a time when he spends his dollar savings, he en counters higher prices then pre vailed when he was' working and saving. Without going near his wal let, ((piggy bank" or savings deposit, the inflaters have deprived him of a part of his wealth. The beneficiaries of the inflation and those who re1978 INFLATION-WHAT IT IS AND WHAT IT DOES 459 ceive unexpectedly higher prices for their goods and services gain ttwindfall profits" at the expense of the previous owners of dollars and assets fixed in dollars. Increasing the number of dollars discourages saving. Certainly if new dollars are being created in large quantities, holding dollars offers no real assurance of having anything like the same purchasing power ia ter. Why work hard and save if the purchasing power of any dollar saved is expected to fall? Better spend one's entire pay check, enjoy life today and hope for the best to morrow.

Increasing dollars spent on rrtrans fer payments" helps to keep non producers dependent on government handouts. With respect to one form of Htransfer payment," the great free market economist Ludwig von Mises (1881 .. 1973) described unemploy ment relief in 1931 as ((one link in the chain of causes which actually makes unemployment a long-term mass phenomenon." By paying peo ple not to work, tttransfer payments" help keep non-producers idle. Thus they tend to weaken self-respect and individual responsibility. At the same time, the cost of paying more and more non-producers becomes an increasingly heavy burden on those who continue working and produc ing. If the programs are not discon tinued taxes must be increased again and again. Or government of ficials, who believe sincerely in the nneed" for continuing Htransfer payments," are likely to resort to further inflation. Higher taxes and more inflation are serious drags on production.

They distort prices, alter the pattern of production, shift wealth from sav ers to spenders, discourage savings and investment and hamper indi vidual effort, initiative and in genuity. Destroys Hope for Security and Independence Perhaps the most demoralizing ef fect of inflation, however, is that it discourages the desire and the hope of people for financial security and economic independence. It first de stroys the value of the dollar so as to weaken the incentive to save. Then by holding out the hope of governmen t-guaran teed sec uri ty from retirement to the grave, gov ernment undermines one of the most powerful reasons to strive for finan cial independence. Self-respect, in dividual responsibility and family ties are bound to suffer. Thus, the end result of inflation is to dampen ambition, industry, the desire to save and invest, and pride in per sonal accomplishment and indepen dence-all traits on which the fu ture freedom and welfare of this country must rest. , Ralph Bradford WHEN Jonah sat in the shade of his heaven-sent vine he was no doubt unaware (as he was of some other important things) that a time would come when the fruit of his shade vine would play an important, if transitory, role in the field of high finance.