The Theory of Money and Credit

Some advocates of a return to the gold standard disagree on an important point with the scheme designed in the preceding section. In the opinion of these dissenters there is no reason to deviate from the gold price of $35 per ounce as decreed in 1934. This rate, they assert, is the legal parity, and it would be iniquitous to devalue the dollar in relation to it.

The controversy between the two groups, those advocating the return to gold at the previous parity (whom we may call the restorers) and those recommending the adoption of a new parity consonant with the present market value of the currency that is to be put upon a gold basis (we may call them the stabilizers), is not new. It has flared up whenever a currency depreciated by inflation has had to be returned to a sound basis.

The restorers look upon money primarily as the standard of deferred payments. A consistent restorer would have to argue in this way: People have in the past, that is, before 1933, made contracts in virtue of which they promised to pay a definite amount of dollars which at that time meant standard dollars, containing 25.8 grains of gold, nine-tenths fine. It would be manifestly unfair to the creditors to give the debtors the right to fulfill such contracts by the payment of the same nominal number of dollars containing a smaller weight of gold.

However, the reasoning of such consistent restorers would be correct only if all existing claims to deferred payments had been contracted before 1933 and if the present creditors of such contracts were the same people (or their heirs) who had originally made the contracts. Both these assumptions are contrary to fact. Most of the pre-1933 contracts have already been settled in the two decades that have elapsed. There are, of course, also government bonds, corporate bonds, and mortgages of pre-1933 origin. But in many or even in most cases these claims are no longer held by the same people who held them before 1933. Why should a man who in 1951 bought a corporate bond issued in 1928 be indemnified for losses which not he himself but one of the preceding owners of this bond suffered? And why should a municipality or a corporation that borrowed depreciated dollars in 1945 be liable to pay back dollars of greater gold weight and purchasing power?

In fact there are in present-day America hardly any consistent restorers who would recommend a return to the old pre-Roosevelt dollar. There are only inconsistent restorers who advocate a return to the Roosevelt dollar of 1934, the dollar of 15 5/21 grains of gold, nine-tenths fine. But this gold content of the dollar, fixed by the President in virtue of the Gold Reserve Act of January 30, 1934, was never a legal parity. It was, as far as the domestic affairs of the United States are concerned, merely of academic value. It was without any legal-tender validity. Legal tender under the Roosevelt legislation was only various sheets of printed paper. These sheets of paper could not be converted into gold. There was no longer any gold parity of the dollar. To hold gold was a criminal offense for the residents of the United States. The Roosevelt gold price of $35 per ounce (instead of the old price of $20.67 per ounce) had validity only for the government’s purchases of gold and for certain transactions between the American Federal Reserve and foreign governments and central banks. Those juridical considerations that the consistent restorers could possibly advance in favor of a return to the pre-Roosevelt dollar parity are of no avail when advanced in favor of the rate of 1934 that was not a parity.

It is paradoxical indeed that the inconsistent restorers try to justify their proposal by referring to honesty. For the role the gold content of the dollar they want to restore played in American monetary history was certainly not honest in the sense in which they employ this term. It was a makeshift in a scheme which these very restorers themselves condemn as dishonest.

However, the main deficiency of any form of the restorers’ arguments, whether they consistently advocate the McKinley dollar or inconsistently the Roosevelt dollar, is to be seen in the fact that they look upon money exclusively from the point of view of its function as the standard of deferred payments. As they see it, the main fault or even the only fault of an inflationary policy is that it favors the debtors at the expense of the creditors. They neglect the other more general and more serious effects of inflation.

Inflation does not affect the prices of the various commodities and services at the same time and to the same extent. Some prices rise sooner, some lag behind. While inflation takes its course and has not yet exhausted all its price-affecting potentialities, there are in the nation winners and losers. Winners—popularly called profiteers if they are entrepreneurs—are people who are in the fortunate position of selling commodities and services the prices of which are already adjusted to the changed relation of the supply of and the demand for money while the prices of commodities and services they are buying still correspond to a previous state of this relation. Losers are those who are forced to pay the new higher prices for the things they buy while the things they are selling have not yet risen at all or not sufficiently. The serious social conflicts which inflation kindles, all the grievances of consumers, wage earners, and salaried people it originates, are caused by the fact that its effects appear neither synchronously nor to the same extent. If an increase in the quantity of money in circulation were to produce at one blow proportionally the same rise in the prices of every kind of commodities and services, changes in the monetary unit’s purchasing power would, apart from affecting deferred payments, be of no social consequence; they would neither benefit nor hurt anybody and would not arouse political unrest. But such an evenness in the effects of inflation—or, for that matter, of deflation—can never happen.

The great Roosevelt-Truman inflation has, apart from depriving all creditors of a considerable part of principal and interest, gravely hurt the material concerns of a great number of Americans. But one cannot repair the evil done by bringing about a deflation. Those favored by the uneven course of the deflation will only in rare cases be the same people who were hurt by the uneven course of the inflation. Those losing on account of the uneven course of the deflation will only in rare cases be the same people whom the inflation has benefited. The effects of a deflation produced by the choice of the new gold parity at $35 per ounce would not heal the wounds inflicted by the inflation of the two last decades. They would merely open new sores.

Today people complain about inflation. If the schemes of the restorers are executed, they will complain about deflation. As for psychological reasons, the effects of deflation are much more unpopular than those of inflation; a powerful proinflation movement would spring up under the disguise of an antideflation program and would seriously jeopardize all attempts to reestablish a sound-money policy.

Those questioning the conclusiveness of these statements should study the monetary history of the United States. There they will find ample corroborating material. Still more instructive is the monetary history of Great Britain.

When, after the Napoleonic wars, the United Kingdom had to face the problem of reforming its currency it chose the return to the prewar gold parity of the pound and gave no thought to the idea of stabilizing the exchange ratio between the paper pound and gold as it had developed on the market under the impact of the inflation. It preferred deflation to stabilization and to the adoption of a new parity consonant with the state of the market. Calamitous economic hardships resulted from this deflation; they stirred social unrest and begot the rise of an inflationist movement as well as the anticapitalistic agitation from which after a while Engels and Marx drew their inspiration.

After the end of World War I England repeated the error committed after Waterloo. It did not stabilize the actual gold value of the pound. It returned in 1925 to the old prewar and preinflation parity of the pound. As the labor unions would not tolerate an adjustment of wage rates to the increased gold value and purchasing power of the pound, a crisis of British foreign trade resulted. The government and the journalists, both terrorized by the union leaders, timidly refrained from making any allusion to the height of wage rates and the disastrous effects of the union tactics. They blamed a mysterious overvaluation of the pound for the decline in British exports and the resulting spread of unemployment. They knew only one remedy, inflation. In 1931 the British government adopted it.

There cannot be any doubt that British inflationism got its strength from the conditions that had developed out of the deflationary currency reform of 1925. It is true that but for the stubborn policy of the unions the effects of the deflation would have been absorbed long before 1931. Yet the fact remains that in the opinion of the masses, conditions gave an apparent justification to the Keynesian fallacies. There is a close connection between the 1925 reform and the popularity that inflationism enjoyed in Great Britain in the thirties and forties.

The inconsistent restorers advance in favor of their plans the fact that the deflation they would bring about would be small, since the difference between a gold price of $35 and a gold price of $37 or $38 is rather slight. Now whether this difference is to be regarded as slight or not is a matter of an arbitrary judgment. Let us for the sake of argument accept its qualification as slight. It is certainly true that a smaller deflation has less undesirable effects than a bigger one. But this truism is no valid argument in favor of a deflationary policy the inexpediency of which is undeniable.