The Myth of Insufficient Gold

Cliché: "There Isn’t Enough Gold"

"It would appear that the reasons commonly advanced as a proof that the quantity of the circulating medium should vary as production increases or decreases are entirely unfounded. It would appear also that the fall of prices proportionate to the increase in productivity, which necessarily follows when, the amount of money remaining the same, production increases, is not only entirely harmless, but in fact the only means of avoiding misdirections of production. " F. A. Hayek, Prices and Production (1931), p. 105

What Professor Hayek wrote in 1931 was not accepted then, and it is not accepted today.

Prices in the aggregate can fall to zero only if scarcity is entirely eliminated from the world, i.e, if all demand can be met for all goods and services at zero price. That is not our world. Thus, we can safely assume that prices will not fall to zero. We can also assume that there are limits on production. The same set of facts assures both results: scarcity guarantees a limit on falling prices and a limit on aggregate production. But there is nothing incompatible between economic growth and falling prices. Far from being incompatible, they are complementary. There should be no need to call for an expansion of the money supply "at a rate proportional to increasing productivity."

STABLE PRICES

There is one sense in which the concept of stable prices has validity. Prices on a free market ought to change in a stable, generally predictable, continuous manner. Price (or quality) changes should be continual (since economic conditions change) and hopefully continuous (as distinguished from discontinuous, radical) in nature. Only if some exogenous catastrophe strikes the society should the market display radical shifts in pricing, Monetary policy, ideally, should contribute no discontinuities of its own – no disastrous, aggregate unpredictabilities. This is the only social stability worth preserving in life: the stability of reasonably predictable change.

The free market, by decentralizing the decision-making process, by rewarding the successful predictors and eliminating (or at least restricting the economic power of) the inefficient forecasters, and by providing a whole complex of markets, including specialized markets of valuable information of many kinds, is perhaps the greatest engine of economic continuity ever developed by men. That continuity is its genius. It is a continuity based, ultimately, on its flexibility in pricing its scarce economic resources. To destroy that flexibility is to invite disaster.

The myth of the stable price level has captured the minds of the inflationists, who seek to impose price and wage controls in order to reduce the visibility of the effects of monetary expansion. On the other hand, stable prices have appeared as economic nirvana to conservatives who have thought it important to oppose price inflation. They have mistaken a tactical slogan-stable prices-for the strategic goal. They have lost sight of the true requirement of a free market, namely, flexible prices. They have joined forces with Keynesians and neo-Keynesians; they all want to enforce stability on the "bad" increasing prices (labor costs if you’re a conservative, consumer prices if you’re a liberal), and they want few restraints on the "good" upward prices (welfare benefits if you’re a liberal, the Dow Jones average if you’re a conservative). Everyone is willing to call in the assistance of the state’s authorities in order to guarantee these effects. The authorities respond.

What we see is the "ratchet effect." A wage or price once attained for any length of time sufficient to convince the beneficiaries that such a return is "normal" cannot, by agreed definition, be lowered again. The price cannot slip back. It must be defended. It must be supported. It becomes an ethical imperative. Then it becomes the object of a political campaign. At that point the market is threatened.