All Commentary
Monday, January 1, 1979

The Market Economy vs. The Welfare State

Professor Greaves is a freelance economist, lecturer, and author of numerous articles as well as the books, Understanding the Dollar Crisis and Mises Made Easier (A Glossary for Mises’ Human Action.)

This article is reprinted by permission from his Editor’s Introduction to the volume, On the Manipulation of Money and Credit by Ludwig von Mises, translated by Bettina Bien Greaves, 352 pages. This book, published by Free Market Books, P. 0. Box 298, Dobbs Ferry, N.Y. 10522, is also available from The Foundation for Economic Education, Irvington-on-Hudson, N.Y. 10533.

The history of the 20th century has been the story of the growth of statism—the ever-increasing control of governments over the lives, actions, earnings, inheritances and other accumulations of their inhabitants. The underlying principle, seldom questioned, has been that those elected or appointed to official government positions are “experts.” They are thought to know what is best for their trusting incompetent charges, even though, in some cases, the same incompetents are considered intelligent enough to choose their supposedly wiser rulers.

The motivating precept of this century has been the basic Marxian fallacy that in a free market society the rich grow richer and fewer in number while the poor grow ever poorer and larger in number. This in turn is based on the fallacy that employers set wage rates and producers set prices. It is thus almost universally believed that in a free society workers and consumers are totally at the mercy of rapacious business interests.

This ill-founded, but popular, concept of an unhampered economy has stimulated a demand for laws that limit the freedom of business organizations and confiscate the major part of their earnings. Such laws are expected to correct what are considered the undesired trends of a market system. By the use of democratic means, laws are passed in attempts to thwart the ultimate disaster of a plutocratic oligarchy. These laws seize more and more of the wealth of the successful minority, while allocating much of the appropriated funds to the envious and less productive majority, with the political brokers retaining an ever-increasing share for themselves and their friends. The principles of a limited government have been superseded by the almost universal acceptance of the idea that everything must now be decided by a majority vote, even as to who should pay for the birth or non-birth of each baby and how each person’s earnings must be shared among the electorate.

This process of socialistic leveling has become so widely accepted that when a co-chairman of a Tenants for Political Action group was recently charged with using political influence to force landlords to subsidize tenants, she replied, “I see nothing wrong with having political pressure. That’s the name of the game and that’s what this country is all about.”

Stealing, i.e., taking the property of others by force, is now considered legitimate if it is done by the political process of majority vote. Such short-sighted avarice and economic ignorance are widespread. Morality and sound economics are no longer considered reasonable guides for public actions. The result has been that politicians promise voters more than they can deliver. Further seizures of the earnings of the high producers of wealth no longer satisfy the demands of those who believe they are legally and morally entitled to more than consumers will voluntarily pay for their contributions to society. So, for years now, politicians have sponsored inflation, creating by law or regulation, more and more additional monetary units with which to pay the bills. One of the effects of this inflation has been ever higher prices, a fact that alarms the public.

Defining Inflation

In order to relieve themselves of the blame, the politicians and pressure groups who promote our inflationary processes have succeeded in changing the popular definition of inflation. Historically, periods of inflation have always been considered periods of rapid increases in the quantity of money. This was so in all reports of both the American and French Revolutions. It was also so during the post World War I inflations which reached their apex in Germany in 1923. However, those who favor the deceptive processes of inflation, as a means for transferring wealth from those who earn it to those they consider more worthy of it, have changed this definition of inflation. Inflation now means to almost everyone a rise in prices. Unfortunately, such higher prices are only one of the inevitable consequences of an increased quantity of money bidding for available goods and services.

This shift in the popular definition of inflation tends to hide from most people the obvious way to end inflation. When inflation is defined as “higher prices,” most people conclude that it is businessmen who raise prices. Therefore, businessmen must be responsible for inflation. The way to end inflation is then thought to be the control or legal limitation of price rises.

It is true that businessmen raise prices. They would like to raise their prices with every sale. However, it would do business organizations no good to raise their prices, if there were not some customers who could and would pay the higher prices they ask. If no one bought their wares at the higher prices, those prices would soon come tumbling down. The higher prices that we have been seeing in recent decades have been made possible solely because governments have made available increasing quantities of money to politically favored customers who then can and do pay the higher prices. This means that those who do not share in the political allocation of the newly created money find their purchasing power greatly diminished. If they believe what they read in the papers or see on television they blame businessmen rather than politicians for the higher prices which reduce the buying power of their earnings.

When inflation is defined as an increase in the quantity of money, the remedy becomes obvious. Businessmen cannot create money. Under present-day laws, only governments and their agencies can. To stop inflation, all that needs be done is for governments to stop authorizing any further increases in the quantity of money.

Misdirection of the Economy

Unfortunately, higher prices are not the most important consequence of the political creation of new monetary units. These monetary units are endowed with full legal tender power. This means that, by law, they have the same purchasing power as all previously issued monetary units of the same name. New monetary units cannot be created by governments or anyone else without someone getting them and spending them first. Those who first receive these newly created monetary units are able to go out on the market and buy things they could not otherwise buy. They can and do buy things which other people would have bought with the money they had earned or saved. Thus every political creation of new money transfers wealth from workers and savers to those who are spending in the market place newly created monetary units which no one has earned.

As a result, the production facilities of the nation are gradually redirected with an ever larger percentage devoted to the satisfaction of those spending the newly created money. Those catering to the spenders of the newly created money find their sales going up and the politicians proudly point to the activity they have stimulated. On the other hand, those who can only spend what they have earned or saved find that they must reduce their purchases and their living standards.

Why Inflation Accelerates

As prices rise with the increased quantity of money, more and more new monetary units must be created to maintain the business activity dependent upon the creation of the new monetary units. As time passes, more and more production facilities are directed toward satisfying this demand which can only be maintained by increasing the quantity of money at an ever-increasing rate. This, of course, tends to lower the purchasing power of the monetary unit. Sooner or later, such increases in the quantity of money must come to an end, either by a deliberate action stopping the creation of more monetary units, or by continuing until the purchasing power of that monetary unit approaches zero.

When inflations come to an end, as they must, those who have been producing and catering to those spending the newly created monetary units lose their customers. They must redirect their activities toward satisfying the only consumers left, those who have acceptable funds as a result of their contributions to the market. This redirection of the economy, popularly known as a recession or a depression, is actually a correction of the prior misdirection resulting from the inflation. It is a very painful period, particularly for two groups: (1) those who have been producing for the spenders of the newly created money, and (2) those who have become accustomed to spending money they have not earned. The suffering cannot be completely avoided, but it can be reduced to a minimum by permitting free market prices, wage rates and interest rates to direct the economy to the most efficient satisfaction of those who contribute to the economy. All political attempts to control prices, hold wage rates up and/or hold interest rates down interfere with the indicators that direct business enterprises toward the most efficient use of available capital and labor.

Consumers Are Sovereign

The simple facts stated above are seldom understood, because so few people have ever read or heard them. Rare are the schools, colleges, politicians or mass media who promulgate the simple economic fact that, in a truly free market society, it is the consumers who are sovereign. It is the consumers who determine the limits on the wage rates that may be paid and the interest rates that are profitable for both borrowers and lenders, as well as the ultimate prices of consumers goods. Consequently, there are very few people today who realize that when government serves only as a keeper of the peace, that is, as a protector of lives and property and a punisher of those who resort to force or fraud, it is the consumers who, by their voluntary purchases and refusals to purchase, determine the incomes of all those who contribute to the market place. It is consumers who make some actresses, football stars and businessmen rich and it is consumers who retire to the sidelines those who do not satisfy them.

Whenever government interferes with the sovereignty of the consumers, it always helps some at the expense of others. It discourages the production of wealth, not only by reducing the incentives of producers but also by subsidizing the human tendency to indolence and parasitism. The unhampered market, where everyone, protected by government, is acting voluntarily, operates according to the Golden Rule. The more one contributes to the society, the more he or she receives in return. This is an incentive for everyone to contribute more of what consumers are buying as this is the most efficient means for increasing their own incomes.

A Society Divided

When society forsakes the free market and the Golden Rule for the welfare state principles of transfer payments and special privileges for the politically powerful, it divides society into factions, each of which is struggling to get what that group considers its fair share of the wealth of others. No legislative body made up of human beings can ever divide available wealth in such a way as to satisfy every element of the population. So as long as funds are taken from some to give to others, there will be perpetual political struggles among the various pressure groups, each striving to get more for their members. Such political efforts must inevitably reduce the productivity of that society. As a consequence, the living standards of all will fall. While everyone suffers, those who are hurt most are the lowest income producers. More and more people will devote their efforts to preserving their wealth or obtaining more by political means, while fewer and fewer will save, invest and produce for the market place. There will be a growing number who will resort to violence in order to survive under the existing conditions. Only a trend toward a free and unhampered market can prevent this disastrous consequence.

As man and the world exist, every human being has unlimited wants, while the goods and services available for satisfying those wants are always limited. The economic problem is one of determining how we can best satisfy more and more human wants by ever increasing the quantities of goods and services available. No political intervention can improve upon the unhampered market processes which allocate available limited quantities to those consumers able and willing to pay the highest prices. The ability of people to pay such market prices arises from the prior valuation consumers have placed upon their individual contributions. Thus consumers, by their bidding in the market place, set all prices. This competition of consumers also sets the height of the income of each worker and investor. Consumers thus establish each worker’s wage rates and the amounts that can be paid for raw materials and borrowed capital.

In such an unhampered market, businessmen are merely middlemen competing for the favors of consumers, whose purchases determine those who can expand and those who must contract their activities, including their work forces. No business can long pay higher wage rates or raw material prices than those that can be paid with what they receive from their customers. Nor can any employer long make high profits by paying lower wage rates than those that customers will voluntarily repay. Those who attempt to do so soon find other employers will bid their workers away in their attempt to attract more customers with lower prices which squeeze profits. So, in the long run, it is always the consumers who determine the shares of total production allocated to each participant, be he investor, employer or employee.

  • Percy L. Greaves, Jr. (1906–1984) was a free-market economist for US News (the forerunner of US News and World Report) and authored several books on economics, including Understanding the Dollar Crisis and Mises Made Easier. He was also a seminar speaker and discussion leader with the Foundation for Economic Education. Percy and his wife Bettina Bien Greaves were long-time associates and friends of Ludwig von Mises, and regular attendants at Mises's New York University seminar.