Judd W. Patton, Ph.D. (Biography) Bellevue University Online
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Inflation Can Be Conquered!  Here's How
Dr. Judd W. Patton

      Have you seen the new U.S. dime recently? Sure you have. Just look at a dollar bill!

      According to the official Consumer Price Index, the purchasing power of the 2001dollar is worth only 7.4 cents of the 1933 dollar. That is to say, the dollar has lost 92.6% of its value so that a basket of goods costing $100 in 1933 would cost $1,346 in 2001. And given the current annual  “inflation rate” of 3.2%, the dollar appears destined to depreciate further - even to a nickel or penny in value.

     Why have the dollar and virtually all contemporary currencies experienced this continuous depreciation? Numerous theories have been expounded, from “too much money chasing too few goods” to greed and excess profits. Yet to one degree or another, all these theories miss the mark.

     The purpose of this article is to provide an understanding of the worldwide “inflation” phenomenon. Specifically, we will analyze the economic and spiritual principles that underlie inflation, its major consequences, and identify the only real, lasting solution to this seemingly intractable economic disease.

Inflation Definition

     According to the popular, everyday use of the term, “inflation” refers to higher prices. If your understanding has been based on this concept, you have been misled! Inflation is not higher goods prices, but an increase in the quantity of money issued by government through the Federal Reserve. Inflation is an increase in un-backed, legal tender notes known as “fiat money” (fiat is from the Latin verb “to be” meaning “let it be done”) and the artificial increase in fiat money substitutes (coins, checkable deposits, and savings deposits).


     Higher prices are a consequence of inflation. To define inflation as an effect is confusing. Higher prices are simply higher prices. Generally higher goods prices are caused by an increase in the quantity of money. Read those four sentences again, please.

Price increases for various or specific goods could, of course, be caused by any number of factors. A corn blight or drought that drastically cuts the corn supply will obviously lead to a higher price per bushel of corn. But such goods-induced factors do not lead to generally higher prices for all goods in the economy. Barring increasing scarcities of all goods or a general decline in the demand to hold money, only an expansion of the quantity of money can cause generally higher goods prices. After all, prices are simply ratios of dollars to goods. The more dollars relative to goods, the higher prices will become. More dollars pumped into the economy will induce individuals to bid-up the prices of scarce goods and resources.

Again, inflation is the printing of fiat, legal tender money and its substitutes; it is a dilution of the money stock. Frankly, as we will see later, it is legal plunder - taking another’s income or wealth through the force of law. And just as an increase in the corn supply without an offsetting increase in demand will lead to a lower price for a bushel of corn, so too will an increase in the quantity of money lower the purchasing power of the dollar.

Who controls and manipulates the quantity of money? Is it labor unions, businessmen, special interest groups, housewives, or international conspiracies among bankers? No! The quantity of money is determined by the Federal Reserve System, the monetary arm of the U.S. Government. The original purpose of the “Fed” was and continues to be to provide for an “elastic” supply of money to meet the needs of business.

Inflation Techniques - Historical and Modern

     In principle, the “Fed” does for the U.S. government what ancient kings did by: (1) coin clipping (the reason for the advent of serrated edges), or by (2) mixing inferior base metals into their gold and silver coins. As the clippings or shavings were re-melted and minted into new coins, the price structure for those societies inevitably rose. With the advent of the printing press and the use of paper money substitutes for gold and silver coins, inflation techniques took on a new, more insidious form, given the ease with which it could be done. Furthermore, the development of modern banking with only fractional reserves behind their deposits further refined and disguised this ancient practice of monetary debasement. Modern day banking systems can expand credit or loans beyond the actual deposits of their customers.

     Diluting or debasing the quantity of money, whether by coin clipping, infusion of inferior metals (Remember our full-bodied pre-1964 silver coins?), printing un-backed fiat dollars, or bank credit expansion, is inflation. Like diluting the milk supply with water, such actions cheapen or lower the value of the money.

However, our analysis does not imply that there might be some optimal or justified expansion of fiat money. Inflation is any expansion of fiat money and its substitutes and is always unjustified. A great economic law reveals why this is so.

Quantity of Money Law

     The Law of the Quantity of Money states that once a money has been adopted within a market economy, its supply is sufficient to conduct all exchanges and provides no benefit to society when it is increased. Stated differently, this means two things: (1) the optimum quantity of money is whatever exists, and (2) money, as a means or vehicle of exchange, is not real wealth!

A free-market society never needs to be concerned about the supply of its money. No regulatory authority like the Federal Reserve System is needed to manage it. The reason is that in a free-market economy, prices of goods adjust to the supply of money available. For example, if the supply of money is $100 billion, prices of goods will be relatively low compared to the same economy with $500 billion, where the general price structure will tend to be, very roughly, five times higher. With an additional $400 billion in their hands, consumers and producers will bid up prices to higher levels by competing for scarce resources and products. Nevertheless, all transactions can be made at either quantity of money. It doesn't matter what the supply of money is. Any supply will do as well as any other.

Moreover, money per se cannot increase the real wealth of any nation. While this statement is shocking, it is no less true. Consider the following example. Suppose the Federal Reserve System doubles the quantity of money next week. Will the U.S. have doubled its wealth in one week? Absolutely not! The real wealth of any nation consists in the abundance of its consumer and capital goods. Doubling the supply of money does not add one whit to these goods.

     Money is useful only for its purchasing power. Increases in other physical goods expand the nation’s capacity to satisfy more ends, but increases in the quantity of money merely dilute its effectiveness. Yet, there are those economists and individuals who believe that manipulating the quantity of money, through what is known as monetary policy, can in fact lead to greater production and employment by restoring “demand” during periods of unemployment. This is a grievous error and an illusion unmasked by understanding a major consequence of inflation - the business cycle.

The Business Cycle

     Perhaps the most devastating penalty for or consequence of violating the Quantity of Money Law is that inflation generates the ups and downs in business activity known as the business cycle. The clearest and quickest way to grasp the economics of the business cycle is through an analogy of a drug addict.

Suppose a basically healthy, non-inflationary economy is “enticed” to try some inflation. As the new money (the drug) enters into the economy (the drug user), a certain high or euphoria is attained. The easy money causes lower interest rates that falsify reality. An illusion is created because interest rate signals, critical to business calculations, no longer reflect actual market conditions. Business activity is stimulated. However, eventually entrepreneurs (businessmen alert to profitable opportunities) and consumers adjust to the drug, building up a tolerance to it. Reality starts to return as prices and interest rates rise. At this point the Fed (the drug-pusher) must make a decision. Should the “high” be maintained or not? The former decision requires accelerating the quantity of money expansion to overcome the new tolerance level, while the latter entails withdrawal symptoms in the form of unemployment, bankruptcies, and recession.

Inflation, or more precisely credit expansion (new money coming into the economy in loans to business), disorients and falsifies business decisions. Any economy must be “Fitly joined together” throughout the production order from the raw material suppliers to the consumers. This integrated, synchronized, harmonized order can be accomplished only through a price system that includes wages, costs, interest rates, and prices that accurately reflect market conditions of supply and demand. Inflation distorts this harmony, guaranteeing a readjustment or recession at some time in the future.

In a nutshell, credit expansion appears to increase the supply of savings in the loan market. In reality there are no additional real savings or physical goods available for expanding production. Nevertheless, this artificial expansion of monetary savings will cause interest rates to be lower than they otherwise would be. Entrepreneurs are erroneously led to believe that the market desires greater future production. The result is that some entrepreneurs embark on productive plans that will prove, indeed must prove, to be unprofitable. A recession, with its high unemployment and bankruptcies, is the necessary punishment for violating economic law. It is the inevitable and painful means by which malinvested or unprofitable land, labor, and capital are eliminated, thereby restoring coordination and harmony to the economy.

     From this vantage point, it should be clear that the recession or depression is the healing phase of the business cycle. The artificial boom generated by the credit expansion is the real evil. If the healing phase is permitted to run its course, a new foundation can be restored for economic prosperity, provided the economy stays off the drug.

Inflation is Immoral

As was explained in previously, economic woes are rooted in the violation of economic and moral laws. The principle is this: Every breach of an economic law necessarily entails the simultaneous breach of one or more of the Ten Commandments (or whatever name these moral precepts may be called in other cultures). When we break them, they break us.

A “missing dimension” of economic phenomena is that economic laws are tied to and  governed by the moral laws as codified in the Ten Commandments. These moral laws, laws of human action and relationships, are living, active, inexorable. They are laws that exact penalties when broken.

Ultimately, then, the real problem with inflation is moral in nature. Economic prosperity depends on spiritual obedience to moral laws. Specifically, inflation entails individual and national disobedience by breaking three moral laws against stealing, bearing false witness, and coveting.

     Today's form of inflation is equivalent to legalized counterfeiting, a more sophisticated type of coin clipping or monetary debasement. A counterfeiter obtains goods and services that he did not honestly earn. His enrichment is by victimizing or stealing from others. Inflation, though legal, must likewise plunder some individuals for the benefit of the new money recipients.  Since inflation income has no production or output associated with it, it must be true that the favored new-money recipients are able to “take” more goods and services from the market than they produced or earned.  Inflation then, is legalized theft.  It is an act of stealing.

Furthermore, like the successful counterfeiter, inflation bears false witness.  New money is not new demand created by production.  Therefore, it deceives entrepreneurs by falsifying the price and interest rate signals that are needed for profitable production decisions. The inevitable result is malinvestment or unprofitable projects and thus a cluster of entrepreneurial errors culminating in a recession.

Finally, it is most unlikely that people engage in theft and false witness were it not for covetousness.  Inflation is resorted to when individual citizens, monetary authorities, and politicians desire something for nothing - coveting wealth, power, income, votes or whatever.

How to Conquer Inflation

It seems crystal clear that the often popular solution to “inflation,” wage and price controls, is totally inappropriate and mischievous.  Fighting consequences will never remove the cause.  Inflation can be cured only by “pulling the plug” on the printing presses.  Therefore, Step 1 must be the following: The Federal Reserve and its fractional reserve banking system must stop all further increases in fiat currency and its substitutes.

This action, of course, will necessarily initiate a readjustment, recessionary period of time.  To insure a rapid recovery, Step 2 is critical: our government must refrain from any interference in the recovery process.  That is, it should neither seek to bail out unprofitable businesses nor legally prop up wages, prices, or consumer spending.  Indeed, to really enhance a rapid recovery, the government should actively strive to repeal all those laws that hinder wage-price-cost flexibility, labor mobility, and entrepreneurial incentives.

Yet, even this economic solution is incomplete.  A real, lasting solution must recognize the immorality of inflation.  Society in general, and contemporary economists in particular who advocate inflation as a means to manage the economy, must come to recognize the futility of this policy and the need for a “change of heart,” for obedience to moral principles.  We as a society must pull our collective hand out of the public treasury. Individuals must overcome their coveting and their desire to increase their income through the political process.  Political pressure is, after all, the main reason governments have often resorted to inflation in the first place.

An honest monetary system must contain a commodity money like gold or silver that is protected by government from counterfeiters. Gold and silver cannot be printed!  Equally important, the supply can be justifiably increased.  Under a bona fide gold standard the supply of gold and silver will change only when economic conditions warrant it.  For example, should greater productivity cause prices of goods and services in general to decline, gold becomes more valuable and therefore more profitable to produce.  An additional gold supply, if minted, will not increase the wealth of society, as the quantity-of-money law teaches us, but will instead tend to raise the prices of goods and services, but in a non-destabilizing manner.  That is, it reverses or tends to offset the previous decline in prices.

The critical difference, then, between a fiat money standard and a gold-silver standard is that an increase in gold or silver, contrary to fiat money expansion, is a productive market-oriented activity itself.  Gold production entails neither theft nor falsification of interest rates - the latter generating a business cycle.  No moral laws are broken.  The gold and silver supply can be and will be justifiably increased (or for that matter decreased by being bid to more valuable commercial uses) according to market conditions.

Summary and Conclusion

Inflation is not higher prices, but the result of monetary debasement through artificial expansion of the quantity of money.  Any increase in fiat money and its substitutes is artificial and fraudulent, the legality notwithstanding.  As a result it causes higher prices, wantonly redistributes wealth and income, and generates the business cycle.  It distorts and hampers production and employment.

Economically speaking, the consequences of inflation (notably higher prices in the mind of the public) can easily be conquered by stopping all further increases in fiat money and its substitutes and by eventually establishing a gold-silver standard protected by government.  Only a commodity or gold-silver standard is in harmony with economic and moral laws while fiat money entails theft, false witness and covetousness.

Nevertheless, a gold standard is not likely to be tolerated for any length of time in a covetous society. Indeed, inflation is ultimately rooted in the hearts of the people. In this sense the vast majority of people, not just the politicians or Federal Reserve officials, are responsible for causing inflation. There is no lasting remedy as long as individuals desire big government.

The sooner our society chooses to live by moral precepts and adopts the corresponding economic policies, the sooner inflation and all economic woes will be conquered. It’s a tall order, but there is no other lasting solution.

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