time being.2 The legal rate for notes in making payments can be temporarily maintained without risk.
It should also be specifically pointed out that the obligation of the Reichsbank to redeem its notes must be interpreted in the strictest possible manner. Every subterfuge, by which European central banks sought to follow some form of “gold premium policy”3 during the decades preceding the World War, must be discontinued.
If the Reichsbank were operating under these principles, it would obviously not be in a position to supply the money market with funds obtained by increasing the circulation of notes not covered by metal. Except for the possibilities of such transfers as may not have been previously limited, the Bank will be able to lend out only its own resources and funds furnished by its creditors. Inflationary increases in the note circulation for the benefit of private, as well as public, credit demands will thus be ruled out. The Bank will not then be in a position to follow the policy—which it has attempted again and again—of lowering artificially the market rate of interest.
The explanation of the balance of payments doctrine presented here shows that under this arrangement the Reichsbank would not run the risk of an outflow of its gold and foreign exchange (Devisen) holdings. Citizens lacking confidence in future banking policy, who in the early years of the new monetary system try to exchange notes for gold or foreign exchange (Devisen), will not be satisfied with the assertion that the Bank will be required to redeem its notes only in larger sums, for gold bars and foreign exchange, not for gold coins. Then it will not be possible to eliminate all notes from circulation. In the beginning a larger amount [of foreign currencies and metallic money] may even be withdrawn from the Bank and hoarded. However, as soon as some confidence in the reliability of the new money develops, the hoards of foreign moneys and gold accumulated will flow into the Bank.
The Reichsbank must renounce every attempt to lower interest rates below those which reflect the actual supply and demand relationships existing in the capital markets, and thus encourage the demand for loans which can only be made by increasing the quantity of notes. This prerequisite for monetary reform will evoke the criticism of the naive inflationists of the business world. These criticisms will grow as the difficulties of providing credit for the German economy increase during the coming years. In the view of the businessman, the role of the central bank of issue is to provide cheap credit. The businessman believes that the Bank should not deny newly created notes to those who want additional credit. For decades, the errors of the English Banking School theoreticians have prevailed in Germany. Bendixen has recently made them popular through his easily readable Theorie der klassischen Geldschöpfung.4
People keep forgetting that the increase in the cost of credit—which has become known by the very misleading term “scarcity of money”—cannot be overcome in the long run by inflationist measures. They also forget that the interest rate cannot be reduced in the long run by credit expansion. The expansion of credit always leads to higher commodity prices and quotations for foreign exchange and foreign moneys.
The Ideological Meaning of Reform
The purely materialistic doctrine now used to explain every event looks on monetary depreciation as a phenomenon brought about by certain “material” causes. Attempts are made to counteract these imagined causes by various monetary techniques. People ignore, perhaps knowingly, that the roots of monetary depreciation are ideological in nature. It is always an inflationist policy, not “economic conditions,” which brings about the monetary depreciation. The evil is philosophical in character. The state of affairs, universally deplored today, was created by a misunderstanding of the nature of money and an incorrect judgment as to the consequences of monetary depreciation.
Inflationism, however, is not an isolated phenomenon. It is only one piece in the total framework of politico-economic and socio-philosophical ideas of our time. Just as the sound money policy of gold standard advocates went hand in hand with liberalism, free trade, capitalism and peace, so is inflationism part and parcel of imperialism, militarism, protectionism, statism and socialism. Just as the world catastrophe, which has swept over mankind since 1914, is not a natural phenomenon but the necessary outcome of the ideas which dominate our time, so also is the monetary crisis nothing but the inevitable consequence of the supremacy of certain ideologies concerning monetary policy.
Statist Theory has tried to explain every social phenomenon by the operation of mysterious power factors. It has disputed the possibility that economic laws for the formation of prices could be demonstrated. Failing to recognize the significance of commodity prices for the development of exchange relationships among various moneys, it has tried to distinguish between the domestic and foreign values of money. It has tried to attribute changes in exchange rates to various causes—the balance of payments, speculative activity, and political factors. Ignoring completely the Currency Theory’s important criticism of the Banking Theory, Statist Theory has actually prescribed the Banking Theory. It has moreover even revived the doctrine of the canonists and of the legal authorities of the Middle Ages to the effect that money is a creature of the government and the legal order. Thus, Statist Theory prepared the philosophical groundwork from which the inflationism of recent years developed.
The belief that a sound monetary system can once again be attained without making substantial changes in economic policy is a serious error. What is needed first and foremost is to renounce all inflationist fallacies. This renunciation cannot last, however, if it is not firmly grounded on a full and complete divorce of ideology from all imperialist, militarist, protectionist, statist, and socialist ideas.
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