It is frequently claimed that if the causes of cyclical changes were understood, economic programs suitable for smoothing out cyclical “waves” would be adopted.* The upswing would then be throttled down in time to soften the decline that inevitably follows in its wake. As a result, economic development would proceed at a more even pace. The boom’s accompanying side effects, considered by many to be undesirable, would then be substantially, perhaps entirely, eliminated. Most significantly, however, the losses inflicted by the crisis and by the decline, which almost everyone deplores, would be considerably reduced, or even completely avoided.

For many people, this prospect has little appeal. In their opinion, the disadvantages of the depression are not too high a price to pay for the prosperity of the upswing. They say that not everything produced during the boom period is malinvestment, which must be liquidated by the crisis. In their opinion, some of the fruits of the boom remain and the progressing economy cannot do without them. However, most economists have looked on the elimination of cyclical changes as both desirable and necessary. Some came to this position because they thought that, if the economy were spared the shock of recurring crises every few years, it would help to preserve the capitalistic system of which they approved. Others have welcomed the prospect of an age without crises precisely because they saw—in an economy that was not disturbed by business fluctuations—no difficulties in the elimination of the entrepreneurs who, in their view, were merely the superfluous beneficiaries of the efforts of others.

Whether these authors looked on the prospect of smoothing out cyclical waves as favorable or unfavorable, all were of the opinion that a more thorough examination of the cause of periodic economic changes would help produce an age of less severe fluctuations. Were they right?

Economic theory cannot answer this question—it is not a theoretical problem. It is a problem of economic policy or, more precisely, of economic history. Although their measures may produce badly muddled results, the persons responsible for directing the course of economic policy are better informed today concerning the consequences of an expansion of circulation credit than were their earlier counterparts, especially those on the European continent. Yet, the question remains. Will measures be introduced again in the future which must lead via a boom to a bust?

The Circulation Credit (Monetary) Theory of the Trade Cycle must be considered the currently prevailing doctrine of cyclical change. Even persons, who hold another theory, find it necessary to make concessions to the Circulation Credit Theory. Every suggestion made for counteracting the present economic crisis uses reasoning developed by the Circulation Credit Theory. Some insist on rescuing every price from momentary distress, even if such distress comes in the upswing following a new crisis. To do this, they would “prime the pump” by further expanding the quantity of fiduciary media. Others oppose such artificial stimulation, because they want to avoid the illusory credit expansion induced prosperity and the crisis that will inevitably follow.

However, even those who advocate programs to spark and stimulate a boom recognize, if they are not completely hopeless dilettantes and ignoramuses, the conclusiveness of the Circulation Credit Theory’s reasoning. They do not contest the truth of the Circulation Credit Theory’s objections to their position. Instead, they try to ward them off by pointing out that they propose only a “moderate,” a carefully prescribed “dosage” of credit expansion or “monetary creation” which, they say, would merely soften, or bring to a halt, the further decline of prices. Even the term “re-deflation,”1 newly introduced in this connection with such enthusiasm, implies recognition of the Circulation Credit Theory. However, there are also fallacies implied in the use of this term.

• *[Mises’s contribution to a Festschrift for Arthur Spiethoff, Die Stellung und der nächste Zukunft der Konjunkturforschung, pp. 175–80 (Munich: Duncker and Humblot, 1933). All the contributors were asked to address themselves to the same topic. Another translation of this article, by Joseph R. Stromberg, then a doctoral candidate in history at the University of Florida, appeared in The Libertarian Forum (June 1975). This is a completely different translation, made by Bettina Bien Greaves and edited by Percy L. Greaves.—Ed.]
• 1[The more modern term for what Mises apparently meant by “re-deflation” is undoubtedly “reflation.”—Ed.]

The credit expansion which evokes the upswing always originates from the idea that business stagnation must be overcome by “easy money.” Attempts to demonstrate that this is not the case have been in vain. If anyone argues that lower interest rates have not been constantly portrayed as the ideal goal for economic policy, it can only be due to lack of knowledge concerning economic history and recent economic literature. Practically no one has dared to maintain that it would be desirable to have higher interest rates sooner.2 People, who sought cheap credit, clamored for the establishment of credit-issuing banks and for these banks to reduce interest rates. Every measure seized upon to avoid “raising the discount rate” has had its roots in the concept that credit must be made “easy.” The fact that reducing interest rates through credit expansion must lead to price increases has generally been ignored. However, the cheap money policy would not have been abandoned even if this had been recognized.

Public opinion is not committed to one single view with respect to the height of prices as it is in the case of interest rates. Concerning prices, there have always been two different views: On the one side, the demand of producers for higher prices and, on the other side, the demand of consumers for lower prices. Governments and political parties have championed both demands, if not at the same time, then shifting from time to time according to the groups of voters whose favors they court at the moment. First one slogan, then another is inscribed on their banners, depending on the temporary shift of prices desired. If prices are going up, they crusade against the rising cost of living. If prices are falling, they profess their desire to do everything possible to assure “reasonable” prices for producers. Still, when it comes to trying to reduce prices, they generally sponsor programs which cannot attain that goal. No one wants to adopt the only effective means—the limitation of circulation credit—because they do not want to drive interest rates up.3 In times of declining prices, however, they have been more than ready to adopt credit expansion measures, as this goal is attainable by the means already desired, i.e., by reducing interest rates.

Today, those who would seek to expand circulation credit counter objections by explaining that they only want to adjust for the decline in prices that has already taken place in recent years, or at least to prevent a further decline in prices. Thus, it is claimed, such expansion introduces nothing new. Similar arguments were also heard [during the nineteenth century] at the time of the drive for bimetallism.

• 2That has always been so; public opinion has always sided with the debtors. (See Jeremy Bentham, Defence of Usury, 2nd ed. [London, 1790], pp. 102ff.). The idea that the creditors are the idle rich, hardhearted exploiters of workers, and that the debtors are the unfortunate poor, has not been abandoned even in this age of bonds, bank deposits and savings accounts.
• 3An extreme example: the discount policy of the German Reichsbank in the time of inflation. See Frank Graham, Exchange, Prices and Production in Hyper-Inflation Germany, 1920–1923 (Princeton, N.J., 1930), pp. 65ff.

It is generally recognized that the social consequences of changes in the value of money—apart from the effect such changes have on the value of monetary obligations—may be attributed solely to the fact that these changes are not effected equally and simultaneously with respect to all goods and services. That is, not all prices rise to the same extent and at the same time. Hardly anyone disputes this today. Moreover, it is no longer denied, as it generally was a few years ago, that the duration of the present crisis is caused primarily by the fact that wage rates and certain prices have become inflexible, as a result of union wage policy and various price support activities. Thus, the rigid wage rates and prices do not fully participate in the downward movement of most prices, or do so only after a protracted delay. In spite of all contradictory political interventions, it is also admitted that the continuing mass unemployment is a necessary consequence of the attempts to maintain wage rates above those that would prevail on the unhampered market. However, in forming economic policy, the correct inference from this is not drawn.

Almost all who propose priming the pump through credit expansion consider it self-evident that money wage rates will not follow the upward movement of prices until their relative excess [over the earlier market prices] has disappeared. Inflationary projects of all kinds are agreed to because no one openly dares to attack the union wage policy, which is approved by public opinion and promoted by government. Therefore, so long as today’s prevailing view, concerning the maintenance of higher than unhampered market wage rates and the interventionist measures supporting them, exists, there is no reason to assume that money wage rates can be held steady in a period of rising prices.

The causal connection [between credit expansion and rising prices] is denied still more intensely if the proposal for limiting credit expansion is tied in with certain anticipations. If the entrepreneurs expect low interest rates to continue, they will use the low interest rates as a basis for their computations. Only then will entrepreneurs allow themselves to be tempted, by the offer of more ample and cheaper credit, to consider business enterprises which would not appear profitable at the higher interest rates that would prevail on the unaltered loan market.

If it is publicly proclaimed that care will be taken to stop the creation of additional credit in time, then the hoped-for gains must fail to appear. No entrepreneur will want to embark on a new business if it is clear to him in advance that the business cannot be carried through to completion successfully. The failure of recent pump-priming attempts and statements of the authorities responsible for banking policy make it evident that the time of cheap money will very soon come to an end. If there is talk of restriction in the future, one cannot continue to “prime the pump” with credit expansion.

Economists have long known that every expansion of credit must someday come to an end and that, when the creation of additional credit stops, this stoppage must cause a sudden change in business conditions. A glance at the daily and weekly press in the “boom” years since the middle of the last century shows that this understanding was by no means limited to a few persons. Still the speculators, averse to theory as such, did not know it, and they continued to engage in new enterprises. However, if the governments were to let it be known that the credit expansion would continue only a little longer, then its intention to stop expanding would not be concealed from anyone.

People today are inclined to overvalue the significance of recent accomplishments in clarifying the business cycle problem and to undervalue the Currency School’s tremendous contribution. The benefit which practical cyclical policy could derive from the old Currency School theoreticians has still not been fully exploited. Modern cyclical theory has contributed little to practical policy that could not have been learned from the Currency Theory.

Unfortunately, economic theory is weakest precisely where help is most needed—in analyzing the effects of declining prices. A general decline in prices has always been considered unfortunate. Yet today, even more than ever before, the rigidity of wage rates and the costs of many other factors of production hamper an unbiased consideration of the problem. Therefore, it would certainly be timely now to investigate thoroughly the effects of declining money prices and to analyze the widely held idea that declining prices are incompatible with the increased production of goods and services and an improvement in general welfare. The investigation should include a discussion of whether it is true that only inflationistic steps permit the progressive accumulation of capital and productive facilities. So long as this naïve inflationist theory of development is firmly held, proposals for using credit expansion to produce a boom will continue to be successful.

The Currency Theory described some time ago the necessary connection between credit expansion and the cycle of economic changes. Its chain of reasoning was only concerned with a credit expansion limited to one nation. It did not do justice to the situation, of special importance in our age of attempted cooperation among the banks of issue, in which all countries expanded equally. In spite of the Currency Theory’s explanation, the banks of issue have persistently advised further expansion of credit.

This strong drive on the part of the banks of issue may be traced back to the prevailing idea that rising prices are useful and absolutely necessary for “progress” and to the belief that credit expansion was a suitable method for keeping interest rates low. The relationship between the issue of fiduciary media and the formation of interest rates is sufficiently explained today, at least for the immediate requirements of determining economic policy. However, what still remains to be explained satisfactorily is the problem of generally declining prices.