Common Sense

PERHAPS the sentiments contained in the following pages, are not yet sufficiently fashionable to procure them general favor; a long habit of not thinking a thing wrong, gives it a superficial appearance of being right, and raises at first a formidable outcry in defence of custom. But the tumult soon subsides. Time makes more converts than reason. -Thomas Paine (1737-1809). Common Sense, 1776

Saturday, March 05, 2011


Economics is simpler than you think -- if you're an Austrian Economist (Hayek, Mises, etc.) rather than a Keynesian Economist (J.M. Keynes), monetarist (Milton Friedman), neo-Keynesian economist (Bernanke, Krugman, etc.).

1. The "law of supply and demand" applies to "money."

2. An increase in the "money" supply greater than the increase in production -- because of the law of supply and demand -- causes a general price inflation across the boards.

3. Credit (I.O.U.s of various types, including stock certificates, bonds, etc. -- that note on the back of granddad's cigarette pack), as Daniel Webster put it, is equivalent to "money" and has all the effects of "money."

3A. Most I.O.U.s start out as limited circulation I.O.U.s -- and stay that way unless a market is established which allows them to be traded, that is, makes them "liquid."

4. A sudden change in the amount of either "money" or credit -- in either direction -- disrupts trade and thus the advantages of specialization and division of labor -- which ultimately determine the physical level of well-being of the human race -- and make the "modern" large populations possible.

5. Without the advantages of trade (and thus division of labor), extremely large numbers of men, women and children would die.

6. Barring the crash of a solid gold or silver asteroid, a sudden change in the supply of gold and silver (transactional hard money) are highly unlikely.

7. Because their value depends on psychology rather on a directly perceived value of a strictly limited physical commodity, the effective supply of both credit and paper/megabyte money can change suddenly.

8. The supply of both credit and paper/megabyte money CAN change with extreme rapidity, paper/megabyte because it's easy to create, credit because it completely depends on confidence that the debtor can and will pay, and without that confidence, a credit vehicle becomes devalued or even worthless. That is, because people can lose confidence in an I.O.U. and so don't want it, it becomes less, or even completely, "illiquid." That is, "people don't want it" = "illiquid" = "devalued" or even "worthless."

9. Since most people hold money for later use, at least partially, it's important that people have confidence it will hold its trade value and NOT devalue. Thus, the main "psychology" that determines whether or not people will hold a particular I.O.U. is their expectation as to its future value. If they expect its value to drop -- or equivalently, expect prices to rise -- they will spend it quickly. That is, if they expect a general price inflation, they will lose confidence in their money and spend it quickly.

10. Once people in general start to spend quickly, this puts more money into circulation quickly, thus increasing its effective supply, which causes more inflation, more inflationary expectations, destroys more confidence, and so forth. The Austrian School of economics calls the rapid spiral that results a "crack-up boom" or "catastrophenhause." Others call it "hyperinflation." Which is why U.S. Federal Reserve Chair Bernanke and the FED are so concerned by peoples' "inflationary expectations." This is, of course, not a problem with transactional hard money -- which, barring that solid-gold asteroid, can't suddenly inflate -- or suddenly deflate.

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