All Commentary
Thursday, June 1, 1972

Blood from Turnips

Mr. Elniff teaches American history at the Ben Lippen School, a Christian preparatory school in Asheville, North Carolina.

Action is preceded by thinking. Thinking is to deliberate beforehand over future action and to reflect afterwards upon past action. Thinking and acting are inseparable. Every action is always based on a definite idea about causal relations. He who thinks a causal relation thinks a theorem. Action without thinking, practice without theory are unimaginable. The reasoning may be faulty and the theory incorrect; but thinking and theorizing are not lacking in any action. On the other hand thinking is always thinking of a potential action. Even he who thinks of a pure theory assumes that the theory is correct, i.e., that action complying with its content would result in an effect to be expected from its teachings. It is of no relevance for logic whether such action is feasible or not.

— Ludwig von Mises1

Here lies that celebrated Scotsman, that peerless mathematician who, by the rules of algebra, sent France to the Poor-house.

Mercure de France on the death of John Law2

When John Law arrived in France in 1716, he found France on the edge of bankruptcy. The government debt amounted to 2.4 billion livres plus another 590 million livres worth of billets d’etat —outstanding royal promissory notes which were worth about one third of their face value. The deficit in the government accounts for 1715 was 78 million livres — a deficit of nine million livres more than the total revenues for that year.3 The people were overtaxed and starving, and commerce was at a standstill.4

Law received a charter for his Banque Génerale in 1716. It was a private operation, handling all the normal functions of a bank. It was also authorized to issue banknotes called “bank crowns,” which were to be redeemable “in money of the weight and denomination of the day of issue. “5 This was sound banking policy, even though Law’s “land bank” had an unsound money based on anticipated royal revenues and landed securities. (What Law was to do later would have destroyed even a bank with a sound money base.) Concerning Law’s banking methods and policies, one historian of modern banking wrote: “If the bank had continued upon the sound basis of a bank discounting commercial paper and acting as the fiscal agent of the Treasury, France would have been under a great debt of gratitude to Law for introducing into her commercial relations the methods of the modern business world.”6 A period of recovery and great prosperity followed.

But the bank did not continue on that sound basis. Law’s next step was to organize the Company of the West and combine into it several other small French trading companies, as well as negotiating with the Regent, d’Orleans, for the, farming of taxes, money coinage, the tobacco monopoly, and the assumption of the entire national debt.? On December 27, 1718, his Banque Génerale was made a public institution — the Banque Royale — and payment of notes in bank crowns (which required specie) was stopped, making the banknotes of the Banque Royale legal tender. When in May, 1719, the Company of the West was reorganized into the Company of the Indies, the speculation began and the new shares were bid up and up — and the boom was on. The price on the shares was 500 livres par, but they brought a premium of 5000 livres. By the end of November they were selling for 10,000 livres. By year’s end, they brought up to 12,000 livres, and by January 6, they were up to 18,000 livres.8 But then the tide began to turn. As the market began to drop, “the more prudent speculators were endeavoring to convert their gains into more solid property by the purchase of real estate or by shipping gold abroad.”9 On May 1, 1720, a decree from Law announced that by December 1st all shares in the company would be scaled down to 5500 livres per share and that all banknotes would be reduced fifty percent in value. A commission appointed by the Regent to examine the bank found that it had less than ten per cent assets against its three billion livres of circulating banknotes and only 49 million of that was in gold or silver.¹º On July 16th there was a run on the bank, people demanding gold or silver for their banknotes. Ten women were killed in the confusion. “Repeated riots expressed the feeling of the public that it had been deceived by financial tricks, and that the upper classes had profited at the expense of the community.”¹¹

What John Law was trying to do for France has been succinctly summarized by Will Durant:

His central conception was to increase the employment of men and materials by issuing paper money, on the credit of the state, to twice the value of the national reserves in silver, gold, and land; and by lowering the rate of interest, so encouraging businessmen to borrow money for new enterprises and methods in industry and commerce. In this way money would create business, business would increase employment and production, the national revenues and reserves would rise, more money could be issued, and the beneficient spiral would expand. If the public, instead of hoarding the precious metal, could be induced, by interest payment, to deposit its savings in a national bank, these savings could be added to the reserves, and additional currency could be issued; idle money would be put to work, and the prosperity of the country would be advanced.¹²

This was John Law’s “system.” Law himself summarized it even more succinctly when he said, “Money is the blood of the State and must circulate. Credit is to business what the brain is to the human body.”¹³ When the same idea was proposed at the beginning of the French Revolution, Jacques Necker, the minister of finance, observed that “They had only toprovide themselves with a paper mill and a printing press to make the nation solvent.”14

Two Basic Errors Led to Failure of John Law’s System

Why did John Law’s “system” fail? We cannot blame his failure on his motives: there is every indication that he was sincerely bent on benefiting France. Even his enemy, Duc de Saint-Simon, admitted there ” was neither avarice nor roguery in his composition.”15 It is common to blame the speculators whose speculative frenzy both made and broke Law’s system: “The principles upon which he had established his bank were theoretically sound; they would have made France solvent and prosperous had it not been for the incredible avidity of speculators and the extravagance of the Regent.”’” But why did they speculate? If Law’s system was basically sound, why did it cause a situation in which speculation would be expedient? Why, to put the issue in its starkest form, did John Law think he could get blood out of turnips? Did the rules of algebra fail? Or did Law misapply them?

Involved in Law’s system are two logically separable, though closely intertwined, economic fallacies: (1) that money must circulate, and (2) that successive credit expansions will lead to a spiral of economic prosperity.

The error concerning the circulation of money is one of mistaking effect for cause. Money is a medium of exchange, as Law believed, but it is also a market commodity which takes on value in exchange.17 Therefore if people do not circulate their money, it can only be because they anticipate that it will be worth more in exchange at a later time. On the other hand, if people believe that their money will lose value in the future, they will circulate it in the present.” Thus circulation is neither an index of prosperity, nor of adversity: it is not wise to circulate money in a deflating market, and the circulation of money in an inflating economy is not a sign of prosperity, ‘but rather of sickness. There are times when money must not circulate.

The second error is an extension of the first: that successive credit expansions (i.e., lowering the interest rate and loaning more money) will lead to a spiral of economic prosperity: that money can create business, which would increase production, which would result in greater tax revenues and foster a new credit expansion, which would create new business, and so on. Law’s error may be pointed out with two observations: (a) If the old debt is paid off before the new credit expansion takes place, there has been no net gain for the economy. Consumption must be curtailed and savings invested in order to finance such progress. It is only a question of when one is going to curtail consumption and invest savings — now or later. (b) If the old debt is not paid off, and a new credit expansion is made, the net result is a higher price level for everyone as prices are bid up with the extra money available. This bidding up of prices, however, does not affect everyone equally:

While the process is under way, some people enjoy the benefit of higher prices for the goods or services they sell, while the prices of the things they buy have not yet risen or have not risen to the same extent. On the other hand, there are people who are in the unhappy situation of selling commodities and services whose prices have not yet risen or not in the same degree as the prices of the goods they must buy for their daily consumption. For the former the progressive rise in prices is a boon, for the latter a calamity. Besides, the debtors are favored at the expense of the creditors.19

This process may continue for a longer or shorter period of time. How long it lasts depends on psychological factors. It will last as long as the people maintain confidence in the relative soundness of the money or faith in the bank or government.

Let Ludwig von Mises finish the story:

But then finally the masses wake up. They become suddenly aware of the fact that inflation is a deliberate policy and will go on endlessly. A breakdown occurs. The crack-up boom appears. Everybody is anxious to swap his money against “real” goods, no matter whether he needs them or not, no matter how much he has to pay for them. Within a very short time, within a few weeks or even days, the things which were used as money are no longer used as media of exchange. They become scrap paper. Nobody wants to give away anything against them.²º

The result of such a breakdown is that people return to barter or develop a new kind of money. The result in France was that the bank was closed, the legal tender was suspended, the company’s contracts were cancelled, and the stock was readjusted.²¹ There was an attempt to restore both public and private obligations and fortunes to the levels which existed before the inflation. But “those who had fled the country with their winnings transmuted into gold, those who could command the royal favor, and those who were able to keep their gains in hiding were the only ones who escaped.”²² David Ogg has observed that “This disaster… created no diminution in the amount of national wealth but only a change in its distribution.”²³ But such a redistribution of wealth, of course, always means a terrible waste of resources and efficiency, and thus, while there may have been no diminution in the aggregate amount of national wealth, there was certainly an interruption of economic activity that is tantamount to a destruction of wealth. This is true because human needs and desires continue. It is impossible to interrupt hunger or to mark time in starvation while an economy recovers.

Why did John Law think he could get blood out of turnips? Because he misunderstood the nature of turnips. John Law’s mathematics of compound interest were not in error; his “rules of algebra” did not fail. He simply erred in applying them to human affairs. His system was broken on the rocks of reality— one part of which is the fact that human beings place value on that which they exchange for money.

Ludwig von Mises has observed:

The body of economic knowledge is an essential element in the structure of human civilization; it is the foundation upon which modern industrialism and all the moral, intellectual, technological, and therapeutical achievements of the last centuries have been built. It rests with men whether they will make the proper use of the rich treasure with which this knowledge provides them or whether they will leave it unused. But if they fail to take the best advantage of it and disregard its teaching and warnings, they will not annul economics; they will stamp out society and the human race.²4

John Law failed because he had an erroneous understanding of economic concepts. Seventy years later the French Revolutionists made the same mistake, but it was not because they did not know. They chose, for political reasons, to ignore the body of truth. They did not annul it; but they very nearly stamped out society and the human race.



1 Ludwig von Mises, Human Action; A Treatise on Economics, 3rd revised edition. Chicago: Henry Regnery and Yale University Press, 1966, p. 177.

2 Frederick C. Green, Eighteenth-Century France: Six Essays, London: J. M. Dent, 1929, p. 28.

3 Will and Ariel Durant, The Age of Voltaire; A History of Civilization in Western Europe from 1715 to 1756, with Special Emphasis on the Conflict hetween Religion and Philosophy, New York: Simon and Schuster, 1965, p. 13.

4 Green, op. cit., p. 6.

5 Charles A. Conant, A History of Modern Banks of Issue, New York: G. P. Putnam, 1927; reprinted by Augustus M. Kelley, Publishers, 1969, p. 33.

6 Ibid.

7 Ibid., p. 35.

8 Ibid., p. 37.

9 Ibid., p. 38.

¹º Ibid., p. 39.

11 Durant, op. cit., p. 15.

12 Ibid., p. 11.

13 Green, op. cit., p. 7.

14 J. M. Thompson, The French Revolution, New York: Oxford University Press, 1966, p. 196.

15 Durant, op. cit., p. 13.

16 Ibid., p. 15.

17 Mises, op. cit., p. 401 f.

18 Ibid., p. 426 f.

19 Ibid., p. 413.

20 Ibid., p. 428

21 Conant, op. cit., p. 39.

22 Ibid., p. 40.

²³ David Ogg, Europe of the Ancien Regime, 1715-1783, New York: Harper and Row, 1965, p. 255.

24 Mises, op. cit., p. 885.



The Astonishing Similarity 

What chiefly strikes today’s reader is the astonishing similarity of the arguments put forward by our own contemporary inflationists to those of the inflationists of eighteenth-century France. Not less striking, of course, is the similarity in the actual consequences of paper money inflation in revolutionary France and inflation everywhere in the modern world.

From HENRY HAZLITT’S introduction to Fiat Money Inflation in France by Andrew Dickson White, available at $1.²5 in paperback from the Foundation for Economic Education, Irvington, N.Y. 10533.