Freeman

ARTICLE

Inflation: Byproduct of Ideologies in Collision

JULY 01, 1974 by WESLEY H. HILLENDAHL

Mr. Hillendahl is Vice President of the Bank of Hawaii. This article is reprinted by permission from his paper at a March 1974 seminar sponsored by The Committee for Monetary Research and Education.

The fact that man has endured ideological conflict since his beginning on earth is the central theme of the great scribes of all civilizations that have left records of their existence. While the predominant focus has been on moral philosophy, these ideological conflicts have ranged far and wide. They have pervaded the formal institutions of the church, government, commerce, finance, agriculture, education as well as culture and the arts. In the present age the struggle centers on the law, the rules by which contemporary civilizations are ordered and under which individuals conduct their daily affairs with each other.

Whether man will be free to pursue his life and God-given destiny in an orderly environment in which government plays the domestic role of impartial umpire, or whether his life will be controlled in every detail by the dictums of an omnipotent materialistic bureaucracy is the central theme of today’s conflict. Indeed, this is the essence of the catastrophic collision of economic thought of the 19th and 20th centuries. Upon the outcome of this collision will depend man’s way of life for generations to come. In simple economic terms, will the market place exist to serve the individual according to his choice, or will the market and the individual be under the control of the state?

Ideological Roots of the Free Market Economy

It is doubtful that a totally free market economy ever existed — one that is completely free of state intervention of one sort or another. And only in a few brief periods of recorded history has man been sufficiently motivated to assert himself to the degree required to grasp control of the market place from the hands of the rulers.’ Such an event occurred in 1776 in America, but it was far from spontaneous. The spirit of ’76 had been brewing for centuries in Europe. Its unique significance may be brought into focus by a brief review of several historical events. In this review, the essential distinction between the legal framework and the economic system must be kept in mind. It is all too easy to confuse the economic activities of a people with the legal framework under which they live, particularly today as government becomes increasingly involved in the economic affairs of its citizens.

The first of these historical incidents occurred on June 15, 1215 A.D. One recalls that King John of England was an oppressive tyrant. English noblemen and freemen became so incensed at the king’s disregard for their rights that they pursued him to Runnymede where he was "convinced" to sign a document called the Magna Carta.

This summit meeting produced a document which provided the concept of trial by jury, no taxation without representation, and the Writ of Habeas Corpus. It provided the fundamental restraint on government in the form of written law known throughout much of the world today.2

By 1628, the British King’s disregard of individual rights won 400 years earlier became so insufferable that Parliament refused to vote any money to run the kingdom, and King Charles I was forced to sign the Petition of Right. This document provided the essential ingredients of personal security by restricting conditions relating to the levy of taxes, boarding of troops, declaration of martial law, trial by jury, and arbitrary imprisonment; without these rights, an individual cannot enjoy personal security.

In 1689, Parliament rebelled against King James II’s tyrannical belief in absolute monarchy. Out of this action came the British Bill of Rights. Political liberty had triumphed in England, and with it a degree of economic freedom unknown before.

The profound significance to Americans of these early limitations on government is easily recognized, for in the first eight amendments to the Constitution of the United States, we find the influence of the Magna Carta, Petition of Right and the English Bill of Rights.

It was George Mason, the Virginian,³ more than any other individual who forged the basic structure of limited and divided powers of government found in the United States Constitution and Bill of Rights. These are restrictive documents in the sense that they place more constraints on government than had ever prevailed in the past. The intent was to fragment political power, and to provide major obstacles to the reassembly of that power. In the wake of the centuries of tyranny, and the sacrifices of untold thousands of individuals in their struggle for freedom in England and Europe, the founders of the Republic were hardly likely to construct a government which could be centralized easily at the expense of individual liberty. The principle of separation or subdivision of powers, as championed by men such as Mason, is still history’s most effective stumbling block for tyrants. However, the Constitution was not perfect, and it was George Mason who foresaw the fatal flaws introduced by compromise that ultimately became the avenues by which much of it has been struck down.

In 1850, a French statesman, economist and author, Frederic Bastiat, espoused the theme of limited government at a time when France was turning to Socialism or total bureaucracy, following the French Revolution in 1848 which had coincided with the release of Marx’s Manifesto. Bastiat emphasized the essential spiritual antecedents in the framework of economic freedom. He commenced his book, The Law, with the following: "We hold from God the gift which includes all others. This gift is life — physical, intellectual, and moral life…. Life, liberty, and property do not exist because men have made laws. On the contrary, it was the fact that life, liberty, and property existed beforehand that caused men to make laws in the first place."4

It is all but forgotten by many today that the State is not the source of liberty and property; these are inalienable rights that come from God.

Bastiat expressed the issue clearly: "What, then, is law? It is the collective organization of the individual right to lawful defense. Each of us has a natural right —from God — to defend his person, his liberty, and his property; and by extension it follows that a group of men have the right to organize and support a common force to protect these rights constantly."

He concluded, "… since an individual cannot lawfully use force against the person, liberty or property of another individual, then the common force—for the same reason — cannot lawfully be used to destroy the person, liberty, or property of individuals or groups." In Bastiat’s eyes, any form of state intervention in the affairs of the individual is not only illegal, it is immoral and contrary to God’s law.

Thus did Bastiat so eloquently summarize what had evolved over hundreds of years — the legal framework of the constraints on government that make it possible for each of us to order his own life, and to offer his service in the manner called "free enterprise."

Here then are the moral and spiritual antecedents of the American system as codified in the law forming the framework of the free market economy. Being all but forgotten today under the pressure of the conflict, these principles are restated here because they constitute the raison d’etre for any meaningful monetary and economic reform.

Accomplishments of the Free Market

Having established a Republic under the legal framework of limited government, what could man accomplish in the free market?

In the beginning the focus was mainly on the family, the community, and the job of survival. By 1840, 70 per cent of the people in the United States still lived on farms, while more than 90 per cent grew their own food. Not satisfied with devoting most of his energies to the drudgery of survival, the free individual American possessed of a drive to better himself undertook an unprecedented change in his way of life.

The age-old concept that man’s material wealth is limited, which had arisen out of the fact that human energy had never been effectively augmented, gave way to the principle that material wealth could be expanded to an almost unlimited extent by multiplying limited natural resources and limited human energy by tools using nonhuman energy.5

During the 1800′s, a massive reconstruction of the application of labor was brought about through the invention of a host of machines which permitted the augmentation of human effort by non-human energy. Initially, wood and whale oil were the principal sources of energy. These gave way in time to petroleum products, the use of which doubled decade after decade until early in the 20th century.

In agriculture, the first significant invention, the steel-bladed plow, occurred in 1841. In rapid succession came the power reaper, the steam thrasher, and the haying machine. Then in 1884, the first combine and the first tractor appeared. All of the things which we take for granted today were marvelous inventions in those days. Can you visualize yourself pitching hay or performing some other type of hand labor on a farm before being rescued by these marvelous machines?

After the turn of the century, a whole succession of specialized tools and machines were developed which bring food all the way from the farm to the home refrigerator. As a consequence of these laborsaving inventions, the 70 per cent of people on farms in 1840 had been reduced by one-half by the turn of the century. Continuing advancement to World War II brought the proportion of people on farms to 18 per cent. Today, only about 5 per cent of the population live on farms, and farm labor accounts for only 4 per cent of the nation’s labor force. At no time in history nor in any other country has there been such extensive productive application of man’s inventive genius; and the process seems endless.

Economic freedom has, by similar processes, provided an enormous expansion of physical and mental productivity, and offered the incentive to develop the vast array of items that have become the underpinning of our standard of living. We’ve had the incentive to solve disease and sanitation problems, provide housing for the entire population, develop great centers for preserving and transmitting our accumulated learning, and transfer goods via a vast production, distribution and marketing mechanism unknown in history.

The Roots of the Controlled Economy

At the heart of the notion that the economy must be controlled by the government are several well recognized themes: (1) the concept that society is made up of two classes, the oppressed and the oppressors, the "class struggle", (2) the concept of "exploitation" of man by man, and (3) the concept that the controlled order is inevitable as the consequence of the inexorable increase in impoverishment caused by the development of capitalism.

Hence, by revolution as advocated by some, such as the secret League of Just Men who had commissioned Marx to write their Manifesto, or by evolution as advocated by the British Fabian Society or the ADA,"… It is necessary to emancipate society at large from exploitation, oppression, class distinctions, and class struggles."

The economic and political measures by which collectivists intend to convert society generally include:6

1.  Abolition of private property and the rental thereof to individuals by the state.

2.  A heavily progressive income tax.

3.  Abolition of all right of inheritance.

4.  Government control of credit by means of a monopolistic central bank.

5.  Government control of communications, transportation, and means of production.

6.  Abolition of distinctions between urban and rural areas by redistribution of population.

7.  Free government schooling.

These features of the welfare state, Socialism, the planned economy — call it what you will — are recited, not as we recited the roots of the free market which are all but forgotten, but because they are so conspicuous in today’s economy that we are inclined to overlook what they really are — the legal framework for the very antithesis of the free market which this country’s founding fathers envisioned.

Ideologies in Collision

Both Marx and Bastiat expressed concern for the common man under the tyranny which had prevailed for centuries in Europe and England. But Marx advocated as a substitute for the monarchy a new form of tyranny — a bureaucracy supported by a synthetic majority rule; whereas Bastiat and his English counterparts correctly envisioned that only by placing all forms of tyranny in the chains of restrictive law could man arise out of repression.

Hence, the industrial revolution in America, operating under the aegis of a Constitutional Republic providing maximum freedom for the individual and a minimum of exploitation, bore fruit as nowhere else in the world. Instead of the exploitation and oppression, anticipated by Marx, has come the emancipation of the masses seen in the visions of the founding fathers.

However, while vast economic changes were occurring throughout the western world and in America in particular over the last century, government was also undergoing a transformation of major proportions. From an inconsequential power over economic affairs during the 19th century, the Federal Government today has become the most powerful bureaucracy on earth, and has regressed into a massive engine for control and redistribution of people and wealth, largely as Marx and his colleagues had advocated.

Much of what government has undertaken domestically falls within the prescribed limits of the role of referee. However, the main thrust of government activity in recent years has gone far beyond the prescribed limits. F. A. Hayek, in The Constitution of Liberty,’ foretold the consequences of practices which have developed under persistent pressure to do away with those limitations on government which were erected for the protection of individual liberty.

"This conflict between the ideal of freedom and the desire to ‘correct’ the distribution of incomes so as to make it more ‘just’ is usually not clearly recognized…. But the ultimate result… will necessarily be, not a modification of the existing order, but its complete abandonment and its replacement by an altogether different system — the command economy."

Hayek is one of the few writers who correctly recognized the mixed economy for what it is — an unstable transitional condition between the free market economy and the bureaucratically controlled society.

Inflation in the Transitional Period

While those who champion the sanctity of individual liberty and the ideal of the free market deplore the transition, socialist scholars are inclined to want to get on with the work of erecting the bureaucracy and eradicating all vestiges of their bogy man, "laissez faire" enterprise. Be that as it may, it is the contemporary status of this transition that invites our closer examination. Specifically, our concern is the phenomenon of inflation in the mixed economy as a manifestation of the transition.

Because many qualified economists have demonstrated the essential monetary nature of inflation, we need not restate here the distinction between money and credit expansion and the resultant rise in wages and prices, nor go into the fine points of monetizing debt.

There is a prevailing notion that in the transition period during which functions performed by the private sector of the economy are transferred to government, inflation will persist as long as the still strong private sector and the growing public sector fight for the limited amount of capital.

However, many economists seem only recently to be grasping the fact that as the transition progresses, so must monetary inflation proceed at an accelerated rate. The long-standing argument that the manner in which government debt is funded is a determining factor in inflation, seems inadequate to explain the evident fact that inflation is accelerating.

The problem is that too much attention has been devoted to national income analysis while ignoring the nation’s balance sheet. An examination of practically all measures of balance sheet liquidity or cash reserves reveals that the private sector of the economy is being progressively starved of funds by rising taxes and increasing costs of nonproductive overhead caused by governmental interventions.

Expanding Government

Empirically, the record in the United States shows that so long as all governments combined took in direct and indirect taxes less than 25 per cent of personal income, some discretion existed as to what rate of monetary inflation could be undertaken at any given time. However, once government expanded beyond the range, as it did years ago, the economy embarked on a one-way street; and as government grows progressively larger at the expense of the private sector, so must inflation proceed apace to accommodate the credit requirements of the economy.8

Government spending having expanded to more than 43 per cent of personal income, this progressive expansion of credit is necessary to avoid collapse as the level of borrowing must also accelerate in lieu of diminishing residual profits and retained earnings.

Ultimately, as government proceeds progressively to confiscate all earnings, one might expect monetary inflation to reach proportions experienced in France in the 1790′s, Germany in the 1920′s, Russia immediately after the so-called revolution, and Hungary in 1946.

However, before hyperinflation of such proportions would be generated, it is more likely that an attempt toward the conversion to a totally controlled economy will be undertaken under the guise of some combination of "emergencies." Many of the mechanisms to achieve such a conversion have been on the books for many years.9 And Congress delegates additional "emergency powers" to the bureaucracy as each new "crisis" is engineered.

Meanwhile, unforeseen developments such as the projection of the Middle East conflict into the otherwise inevitable domestic oil shortage may produce profound and undefinable effects on the future timing and nature of the conversion, not only in the United States, but worldwide. It is clear that the Arab nations have administered the coup de grace to the faltering International Monetary Fund, and that the role of gold is about to achieve a significance in world monetary affairs virtually inconceivable in the United States only a few years ago.

Inflation in the Controlled Economy

It is not our purpose here to enter into a theoretical discussion of inflation under Socialism, but rather to suggest two thoughts. First, utopian goals of inflation-free prosperity for all, as envisioned by the planners of the multinational political economy, may be quite unrealistic.

The end product of the transition from the free market to Socialism even in America may well produce vastly different results than expected. Simply stated, a bureaucratically controlled economy is incapable of maintaining a level of production adequate to sustain itself. In the absence of the profit motive, people will not produce at their capacity, and in the absence of a mechanism to retain and utilize savings, the machinery of production will either run down or wear out. Even more significant is the underlying moral issue. Let us heed Garet Garrett’s words:10

When in the conquest of power and for political ends a government deliberately engineers inflation… the people will lose control of [government]… and finally, the revelry of public money, which for a while seems to cost nobody anything, brings to pass a state of moral obliquity throughout society. The monetary debacle is relatively unimportant. The moral debacle is cancerous and possibly incurable.

Who, then, under the controlled economy will have the incentive to continue to produce the economic abundance from which has been drawn the hundreds of billions of dollars of foreign aid designed to prop up untold socialist experiments in a hundred or more countries, the numerous unsupportable and uneconomic public infrastructures,* the vast non-productive, self-defeating bureaucracies set up in many so-called developing nations to divide the free loot?

Can Russia Survive?

But of even greater significance, what will be the fate of the USSR, the greatest socialist experiment of all time? This question may sound strange in the context that the USSR is presented to us as an economy based on such a highly advanced technology that it poses a vast military threat to which we must respond by spending over $80 billion annually on armaments.

Under the Czar, Russia was well advanced into the industrial revolution, and at the turn of the century, was the world’s leading oil exporter. But such pre-revolutionary developments are portrayed as insignificant in terms of the Soviet’s achievements of the past 50 years.

However, the record shows that present day Soviet technology is synthetic — it has all been imported. Based on ten years of research into official documents, Antony C. Sutton, research fellow at the Hoover Institution on War, Revolution and Peace, developed grounds for his widely quoted testimony before the Republican Party National Convention in 1972.

In Sutton’s words:

"There is no such thing as Soviet technology. Almost all — perhaps 90-95 per cent — came directly or indirectly from the United States and its allies. In effect, the United States and the NATO countries have built the Soviet Union. Its industrial and its military capabilities. This massive construction job has taken 50 years, since the revolution in 1917. It has been carried out through trade and the sale of plants, equipment and technical assistance."11

Sutton also quoted Ambassador Harriman:

"Stalin paid tribute to the assistance rendered by the United States to Soviet industry before and during the War. Stalin said that about two-thirds of all large industrial enterprises in the Soviet Union has been built with the United States’ help or technical assistance."

The West Helps Russia

In his three volume work, Western Technology and Soviet Economic Development12 covering 1917 to 1965, Sutton demonstrates on an industry-by-industry basis that the West has contributed under contract essentially all the plants and technology which comprise the Soviet military-industrial complex today.

Of great significance is his statement that it has been shown Russia has never suffered from a dearth of competent technical and scientific personnel, rather the bureaucracy is incapable of translating the endeavors of individuals into productive results.

The power of his statement is that it is not theoretical, but is based on the observed record. Its significance lies in the application of Garrett’s observation regarding the cancerous moral debacle which occurs under bureaucratic control. In basic English: People cannot be forced to produce effectively without personal incentives to do so. And Socialism demonstrably fails to provide these essential incentives.

In my opinion, the death of the free market in the United States would come not as a sudden depression, but rather a gradual sinking into stagnation in activity characteristic of controlled economies. The drying up of that enormous production by which much of the so-called free world is subsidized would also cause the stagnation to extend abroad. Finally, the stream of technology upon which the Iron Curtain countries have relied for 50 years would dry up, and the Soviets, for the first time in their existence, would be cast free to sink or swim on their own.

Socialism Precludes Inflation?

The second thought I wish to examine more carefully is the notion that inflation is a product of sound monetary practices, irrespective of the type of economy or political framework. Let us not forget that one of Napoleon’s first acts was to restore the gold standard in France.

As to the alleged freedom from inflation in a world under Socialism, we may turn to economist Benjamin Anderson:13

By 1921, Lenin had reached the conclusion that pure communism would not work, and the New Economic Policy announced by Lenin in 1921, frankly acknowledged a partial return to capitalism. The reestablishment of capitalism in Russia involved the redevelopment of a money held as closely as possible at a parity with gold. In the years that followed, Russia had repeated slumps in the value of its currency, but always resisted them, and finally turned decisively toward heavy gold production, recognizing the need of gold both for international use and as an element of strength in the domestic currency situation…. Russia could never make its paper money a "thing in itself" created by the state and held fixed by the state’s fiat.

Currently, the Soviet Union holds gold in such high esteem that the first of four nuclear power plants was recently activated to power gold dredges and other mining machinery at the Soviets’ principal gold mining center of Bilibino in Siberia.

Hence, it would appear that in the totally socialized world, civilization would descend into stagnation for an untold period of time. If such economy as remains in the world is to be free of inflation, it could be accomplished only by recourse to that perennial barbarian, gold.

The Solution — A Moral Issue

Although we are far down the road, this dismal outcome of the ideological collision need not occur — indeed, we must not permit it to occur. However, mere monetary constraint will no longer provide an effective answer because of the balance sheet liquidity problem. Restoration of a sound gold convertible currency is a move in the right direction; but if Anderson’s observations regarding the Soviet Union are valid, such a move will not, in itself, eradicate the bureaucracy. Only by attacking the ideological roots of Socialism can the tide be turned in practice. This means checking the growth of government and the spawn of monopoly industries which through the centuries have always fed on centralized power. This means returning government to its constitutionally authorized role and restoring true competition to the market place.

In the final analysis, the issue is a moral one: Are enough people willing to exercise sufficient individual initiative, responsibility and integrity to do the job?

In the abstract, this seems to be a reasonable challenge. But in practice, how many businessmen who espouse free enterprise for their own businesses will give up the practice of using their influence with their legislators to limit competition or otherwise gain economic advantage through the legislative process?

How many businessmen will sacrifice profits in a genuine compassion for their fellow man by giving up their lucrative business with the bureaucrats of countries who have sent millions of their citizens to their death in slave labor camps?

How many businessmen will voluntarily undertake the necessary expenditures to control their factory effluents in the interest of cleaning up genuine environmental health hazards, or will do the same for their employees by minimizing work hazards?

How many labor union leaders will acknowledge that they can obtain more jobs and better working conditions for the rank and file union members by allowing companies to make higher profits for capital formation rather than by extracting maximum wage and fringe benefits at the bargaining table?

How many able-bodied people who are racketeering on welfare will voluntarily go back to work? How many legislators will stand in the face of the pressures of those bent on selfish gains and stop the legal plunder?

And of equal importance, how many legislators will stand for election on constitutional principles instead of offering even more legal plunder?

How many government bureaucrats will voluntarily husband public funds, trim dead wood from their departments, and phase out unnecessary operations?

These are examples of individual human actions. Ludwig von Mises, who was acknowledged to be the greatest contemporary champion of the free market, has shown that economics is the aggregate of individual human action. Whether a society is basically moral or immoral in total depends on the degree of morality of the actions of each individual in it. Inflation is the aggregate result of legal plunder — as such, it represents the epitome of immorality.

In a totalitarian society, the problem of inflation, like any other, can be controlled at any time by government decree, but only at an unmeasurable cost in loss of personal liberty. In a free society, control over inflation can be accomplished only when its underlying causes are held in check by the predominance of individuals motivated by moral principles and acting with economic responsibility.

Only when sufficient people recognize the moral nature of the problem and are willing to act accordingly will the surge toward the command economy be reversed. 

* All too frequently American taxpayers’ dollars have been used to provide infrastructures which to date have done little to improve the status of the average citizen of developing nations; instead, the benefits have accrued largely to the profits of multinational corporations which have located plants in these low-cost labor markets.

 

Footnotes —

1 Weaver, Henry Grady, The Mainspring of Human Progress, The Foundation for Economic Education, Irvingtonon-Hudson, New York.

Mussatti, James, The Constitution of the United States, D. Van Nostrand Company, Inc., Princeton, New Jersey, 1960.

³ Mason, George, Architect of Constitutional Liberty, Education Information, Inc., P. O. Box 2037, Fullerton, California.

4 Bastiat, Frederic, The Law, The Foundation for Economic Education, Irvington-on-Hudson, New York.

5 Hackett, Warren T., How We Prosper Under Freedom, Citizens Evaluation Institute, Washington, D. C.

6 Marx, Karl, Communist Manifesto, Henry Regnery Company, Chicago, Illinois, 1965.

7 Hayek, F. A., The Constitution of Liberty, University of Chicago Press, Chicago, Illinois, 1960.

8 Hillendahl, Wesley H., Big Government’s Destruction of the American Economy, Bank of Hawaii, Honolulu, Hawaii, April, 1973.

9 Executive Order 11490, Assigning Preparedness Functions to Federal Departments and Agencies, Federal Register, Volume 34, No. 209, Part II, October 30, 1969.

10 Garrett, Garet, The People’s Pottage, The Caxton Printers, Inc., Caldwell, Idaho, 1965.

11 Sutton, Antony C., National Suicide, Military Aid to the Soviet Union, Arlington House, New Rochelle, New York, 1973.

12 Sutton, Antony C., Western Technology and Soviet Economic Development, 1917…1965, Hoover Institution of War, Revolution and Peace, Stanford University, Stanford, California, 1968.

1³ Anderson, Benjamin M., Economics and the Public Welfare, D. Van Nostrand Company, Inc., Princeton, New Jersey, 1949.  

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