Tags

, , ,

“Deflation is always reversible under a fiat money system follows from basic economic reasoning.  A little parable may prove useful: Today an ounce of gold sells for $300, more or less.  Now suppose that a modern alchemist solves his subject’s oldest problem by finding a way to produce unlimited amounts of new gold at essentially no cost.  Moreover, his invention is widely publicized and scientifically verified, and he announces his intention to begin massive production of gold within days. What would happen to the price of gold?  Presumably, the potentially unlimited supply of cheap gold would cause the market price of gold to plummet.  Indeed, if the market for gold is to any degree efficient, the price of gold would collapse immediately after the announcement of the invention, before the alchemist had produced and marketed a single ounce of yellow metal.

What has this got to do with monetary policy?  Like gold, U.S. dollars  have value only to the extent that they are strictly limited in supply.  But the U.S. government has a technology, called a printing press (or, today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at essentially no cost. By increasing the number of U.S. dollars in circulation, or even by credibly threatening to do so, the U.S. government can also reduce the value of a dollar in terms of goods and services, which is equivalent to raising the prices in dollars of those goods and services.  We conclude that, under a paper-money system, a determined government can always generate higher spending and hence positive inflation.”

Advertisements