The Tragedy of Inflation: Much More than Higher Prices


Mrs. Greaves is a member of the staff of The Foundation for Economic Education. A long-time student of Professor Ludwig von Mises, she translated from the German several of his’ essays on monetary theory, published in 1978 as On the Manipulation of Money and Credit.

Inflation is very unpopular today. However, most who deplore it think of it simply as rising prices. But prices of goods and services may rise for many reasons: shortages due to destruction by pests, drought, flood, or increased demands when fashions change or a war breaks out. Thus, to define inflation as rising prices is far from helpful. In fact, it leads to serious error by directing attention to individuals who raise specific prices (businessmen) and wages (workers).

This definition of inflation neglects the real cause of generally rising prices—an increase in the quantity of money and/or credit. Once inflation is defined as monetary expansion, it becomes clear that only the government and government-privileged banks can be responsible. Only they may print money and/or create new dollar credit. Anyone else who tried to do so would be branded a counterfeiter.

Inflation, by which we mean monetary expansion, may proceed in several ways. The government may spend more money than it collects in taxes or borrows from individuals, filling the deficit (a) by printing paper money, or (b) by borrowing, through the Federal Reserve Banking system, new money or bank credit created by the “Fed” for this express purpose.

With the sanction, active encouragement and protection of government, private commercial banks may also increase the quantity of money by lending many times as much as the sums deposited by their customers in checking accounts. Commercial and savings banks are also able to expand the quantity of money and credit by an even greater ratio on the basis of savings and time deposits. Thus, the creation of new money, permitted and encouraged by government and government-promoted Federal Reserve policy, builds on itself and the number of dollars snowballs. Only by defining inflation as monetary expansion may we understand its more complex and far-ranging consequences.

A great deal has been written about the pressures produced on prices by a monetary expansion, shoving prices inevitably upward in an irregular and ragged fashion. Some prices are affected sooner, others later, some more, others less. Prices are not all affected equally, or proportionately to the monetary expansion. Because the effect of inflation on prices is uneven, its other consequences are serious, long-lasting and irreversible. It is these other consequences of inflation which we shall be considering here, consequences which make conditions worse, even from the point of view of the backers of the programs resulting in monetary expansion.

Some Win: Others Lose

There is no way to issue new dollars or bank credit so that everyone will benefit equally and simultaneously. Some politically favored persons always receive the newly-created money and bank credit sooner than others. Having more money gives these people a decided advantage in making purchases. They may buy more than they could have before. Or they may offer higher prices for what they want. Thus they can outbid other would-be purchasers who find less in the stores to buy at previously prevailing prices. Stocks of what the other would-be buyers would have purchased have been bought up by the new dollar holders. In this way, the first recipients of the new money “win,” but always at the expense of others.

In time the new money will work its way through the market, from the first beneficiaries to those from whom they buy—merchants, suppliers, and so on—as each in turn receives some of the new dollars. But at each step in this sequence of transactions the advantage of having more dollars sooner than others is watered down a bit. Many who receive some of the new money much later will find they must pay higher prices without higher incomes. Thus inevitably those who receive some of the new money considerably later, or receive none at all, will lose.

Each transfer of dollars represents an irreversible shift of goods, services, wealth and income. The “winners” gain at the permanent expense of the “losers.” Although the losers are never easy to identify, their loss is real enough. They must struggle to adjust to a market in which the things they want are increasingly scarce and more expensive. Circumstances will change, of course. Attempts may be made to reverse the respective roles of “winners” and “losers.” But compensation after the fact can never undo the harm done earlier. It can only set in operation a similar sequence of uneven, irregular and ragged price shifts, creating different winners and losers.

Illusory Profits

Anyone whose selling prices are boosted by the issue of new dollars receives an unanticipated surplus. He gains due to the inflation. But this gain may not be a real gain. His increased income pushes him into a higher tax bracket. Then government promptly takes a greater portion than before. He may also have to pay higher prices to replace merchandise bought by the inflation- created “winners.”

In anticipation of increased sales, merchants may order more of the particular items the new dollar holders are demanding. To fill these bigger orders, suppliers must also change their plans. To speed up or expand production of these particular commodities, they will have to offer more money to workers and to the owners of needed resources. Thus, the new dollars are passed further along throughout the economy, pushing up one wage here, another there, one price here, another there, and so on, adding to business costs along the line and reducing the gain merchants, suppliers and producers had received from the inflation and on which they had paid taxes.

As a result of the inflation, enterprisers will also discover that the funds set aside for depreciation are insufficient to replace their equipment when it is worn out. With prices rising throughout the economy, new plants and new machinery, like almost everything else, cost more than before. Funds just aren’t available for replacing them. If enterprisers are to continue operating, they must buy their new equipment out of either (a) current income or (b) borrowed funds. If they supplement insufficient depreciation allowances from current income, they will be using funds they should be accumulating to maintain their investment in the future, thus putting their enterprise in jeopardy. If they borrow additional funds from the banks, they will be helping to push interest rates up, thus increasing their business costs still more and further reducing their gain.

In time, what looks like an enterpriser’s gain in dollar terms may be no gain at all. Receipts that seem exceptionally high in depreciating dollars are thus deceptive. It is extremely difficult to keep operating and maintain a profitable business during an inflation. If enterprisers fail to recognize that a dollar profit may be an illusory profit, if they fail to take this into consideration in planning, calculating and allowing for depreciation, they will soon suffer losses that are not illusory but real! Yet through it all their books could still show dollar “profits,” deceiving them into believing their enterprises are financially sound. “Illusory profits” may easily lure them into spending more than they can afford and consuming capital they cannot replace. Thus “profits” in terms of inflation-depreciated dollars mislead many an enterprise past the point of no return, down the road to bankruptcy.

Production Patterns Shifted

The new dollar holders spend their money for whatever they want most. If the new money goes first as benefits to unemployed workers or welfare recipients for instance, or as higher salaries to government employees, teachers, postmen, soldiers, and so on, it will probably be spent on consumer goods. If the new money goes first as loans to new car buyers and home owners, it will be transferred to car salesmen, automobile workers, carpenters, electricians, and the like. If the new money goes first as bank credit to producers—builders, farmers, ship owners, automobile manufacturers, producers of military weapons, owners of radio and TV stations, and so on—it will probably go next to those who build tools, machines, factories, electronic equipment, and the like, and then later to those who extract and transport raw materials and other resources.

In any event, those who sell to the “winners” promptly enjoy an unexpected “boom” in that phase of their business. When they place orders with their suppliers to refill exhausted inventories of those particular items, the pattern of production starts to shift—toward producing more of the things requested by the new dollar spenders and less of what was being produced before. Step by step, producers respond to the demands of the new dollar holders and those who receive the new dollars.

As resources, capital, labor and energy shift production to satisfy the demands of the inflation “winners,” the wants of the inflation “losers” are neglected. Those who receive none of the new money, or do not receive any until much later, are at a serious disadvantage in making purchases. They find in the stores fewer of the things they want to buy, because the “winners” bought more; they also find that prices are higher though their incomes are not. Moreover, the resources, capital, labor and energy which were used in producing for the politically-favored “winners” are no longer available, having been transformed into specialized tools and machines for supplying an artificial, government-subsidized market.


If the monetary expansion is not halted, enterprisers will continue making adjustments to serve the consumer wants of new dollar holders. Some enterprisers will turn next to making tools and machines for their production and others will seek to expand the supplies of the needed raw materials. Under our monetary system, the banks are encouraged by government policy to supply a large part of the funds needed to make shifts in production possible. They issue new credit through bank loans, creating additional dollars in the process, enabling the favored borrowers to spend more than before. But no more resources are available. The borrowers of the new credit must compete with other enterprisers for the available supplies. They soon discover that to hire additional workers and to buy more raw materials and tools and machines for their new projects, they must offer higher prices. Thus as they seek to fulfill their plans, they help to pass the new dollars along in the form of rising prices. In time the patterns of prices and of production will deviate more and more from what they would have been in the absence of inflation.

In this world of ours, change is inevitable. It is the role of enterprisers to watch the market closely and to try to adjust to new conditions. If they succeed they make profits; if they fail, losses. What people are buying and refusing to buy at various prices gives producers and would- be producers important clues as to what to make and how much to make.

Clusters of Errors

Enterprisers sometimes misjudge the market and miscalculate consumer wants. On a free market, the mistakes of some enterprisers are usually counteracted, at ]east in part, by the correct judgments and successful calculations of others. But when government is introducing new dollars and/or encouraging the banks to expand credit, most enterprisers are influenced by the same misleading factor—the expectation of continuing monetary expansion. Many enterprisers, misled by the inflation, shift production in the same direction. “Clusters of errors” appear.

Throughout the monetary expansion, producers are committing themselves and their resources more and more irretrievably to their various projects. Their investments become more specialized and less easily convertible to other uses. The longer the monetary expansion continues the greater the deviation from free market production and the more malinvestment occurs.

Inflation-instigated markets are notoriously unreliable. Government policy inevitably vacillates in response to the changing political climate. Without warning, the quantity of money and credit may be increased or decreased—political favors shifted. Once the flow of new dollars and/or cheap credit declines or is halted, inflation-induced demands cannot be sustained. At one moment enterprisers are spurred to expand production in one direction. Then a shift in government policy leads unexpectedly to a drop in demand for their products. The market on which they had counted declines or disappears. They have produced too much of some things, not enough of others.

Mountains of Waste

When the inflation is slowed down or stopped, some consumer goods produced but not yet consumed may be sold to other customers. But many of the items intended for previously subsidized consumers cannot be sold for more than their inflation-boosted costs. Factories, tools and machines, which cannot be converted to other uses, will be abandoned. Thus, the sooner inflation can be stopped the better, for the longer it continues, misdirecting production, the more resources will have been wasted and lost to future generations.

The vacillations of government intervention exaggerate the uncertainties of doing business. As the money spigot is turned on at one moment and off the next, many enterprisers swing back and forth between eagerness and reluctance in making commitments. In this way, the stops/goes, ons/offs of government interference lead in time to the ups and downs of business, the boom/bust sequence of the “trade cycle.”

However, economic suffering cannot be avoided by continuing to inflate. For if monetary expansion is not halted, it must lead in time to a complete breakdown of the money and the market. If the inflation goes on until the monetary unit becomes worthless, business will come to a standstill. With no reliable medium of exchange, no trades except simple barter deals can be made. Inflation-induced investments will fall into unemployment or serious under-employment. Economic calculations, contractual agreements and production plans of any complexity will become impossible. Even those who, with the best of intentions, advocated the government programs that led to inflation must consider such conditions worse than those they were trying to improve.

Saving Discouraged

Saving is the principal source of increasing production. Only as people save can they have spare time and energy to devote to pleasure, learning new skills or developing and improving their tools, so as to be able to produce and have more tomorrow. It is out of savings that students may eat while acquiring knowledge and new skills. It is out of savings that inventors may live while devoting time to developing and producing new tools. It is out of savings too that workers and investors may survive while producing things for others to consume.

Most of what we have and enjoy in the world today—the many modern conveniences, complex tools and machines, remarkably efficient means of transportation, specialized electronic equipment, almost miraculous medical developments, and so on—we owe to past savers who set something aside out of what they produced and invested it in production. Thus our ancestors contributed to present day living standards.

Our ancestors saved out of the desire to try to improve their productivity, to become financially independent and beholden to no one, to provide for themselves in old age, to care for their families in emergencies and to improve conditions for their children and their children’s children. The greater their confidence that savings and property would be fairly safe, the more incentive they had to forgo some immediate consumption for the sake of their own and their families’ future welfare. Their savings and investments also helped support others while learning new skills, developing new technologies, inventing new machines and producing new factories. Thus their savings and investments are still contributing to our welfare today.

But our living standards are now in jeopardy. To meet the rising costs of government’s rapidly increasing handouts, it increased taxes and resorted to inflation, both of which discourage saving. Fearful of losing their property and savings through inflation, producers have little incentive to save and invest in production. With less saved and invested, less is produced. With less produced, there is less to consume or to save and to invest. With less saved and invested today, there will be less for future generations to enjoy tomorrow.

Conclusion: Prolonged Inflation Means Economic Disaster

In summary, generally rising prices are one consequence of inflation, but by no means the most serious. Monetary expansion’s other consequences are more destructive, long-lasting and irreversible. It leads to injustices. Some persons “win” at the expense of others who “lose,” never to be fully compensated for their inflation losses. Production is misdirected so that scarce resources are wasted on unwanted enterprises. “Illusory profits” deceive producers into economic miscalculations, malinvestments and capital consumption, often placing their operations in jeopardy and perhaps forcing them into bankruptcy. Inflation adds to the uncertainties of doing business. Expansionist monetary policy is to blame for fostering unhealthy economic booms based on artificially stimulated malinvestments.

When political policies shift, artificial boom turns to economic bust with widespread economic losses and unemployment. Future generations will be poorer because inflation and credit expansion are discouraging saving and investment today. Inflation and credit expansion also dis courage respect for private property, individual effort and family responsibility. Why work for a living if the government is handing out benefits? Why save if every dollar loses purchasing power from day to day? Why invest in production if earnings are penalized by steeply rising taxes? Why strive for economic and family independence if there is no disgrace in benefiting from the wealth of others, taken from them by force through taxes and inflation?

Many malinvestments undoubtedly exist today due to past monetary expansion. However, the economic suffering such malinvestments bring about could be kept to the minimum if government were to renounce all further inflation and credit expansion immediately, not just try to slow them down. Left to their own devices, enterprisers would find ways in time to absorb and/or pass over and beyond most past losses and malinvestments. Confident that their economic calculations would not be upset by a depreciating currency, erratically rising prices and illusory profits, they could return to producing goods and services for a non-artificial market. They would then be willing once more to save and invest, thus improving conditions for themselves, their families and future generations.

But if government continues to offer benefits to some at the expense of others, financing them through higher taxes and monetary expansion, serious economic disaster must be expected. New evidence will then demonstrate once more the truth of Ludwig von Mises’ statement that government interference with the economy, no matter how well intentioned, “produces results contrary to its purpose, that it makes conditions worse, not better, from the point of view of the government and those backing its interference.”


October 1981



Contributing editor Bettina Bien Greaves was a longtime FEE staff member, resident scholar, and trustee. She attended Ludwig von Mises’s New York University seminar for many years and is a translator, editor, and bibliographer of his works.

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