All Commentary
Wednesday, January 1, 1986

Toward a Market Monetary System

Dr. Benegas Lynch, Jr., is Professor of Economics at the University of Buenos Aires, and executive vice president of the Argentine Graduate School of Economics and Business Administration. He is author of Fundamentos de Analisis Economico, 1984.

Getting government out of the money business . . .

When monetary matters are discussed, it is important to specify that money originated and developed spontaneously in the market. Money came into use because people accepted the advantages of indirect exchange when compared with direct exchange or barter. One of the main advantages obtained from the use of a money commodity in relation to direct exchange is that it allows economic calculation. Only prices expressed in a common means of exchange makes accounting operations and project evaluations possible.

The main function of the price system consists in guiding the productive structure. This market system requires the enforcement of private property, since price becomes possible as an expression of those interactions of individual valuations through the use and disposal of what is owned. Individuals participating in the market modify the relative price structure according to the changes that take place in their individual valuations. At the same time, these modifications in relative prices guide the always limited productive factors toward those areas considered as more urgent by consumers.

However, when government money is involved, i.e., when government decides the quantity of money, relative prices are influenced by political decisions. Relative prices will become distorted or misrepresented. Within this context, inflation can be seen as an increase in the amount of currency due to external or political causes, and deflation as the monetary contraction due to external or political causes. The economy will not be responding to events that originate and develop within the market but instead to political decisions—a phenomenon that comes from outside the market.

The problem lies in the fact that one will never know what the market wants if it is not allowed to operate.

Essentially three courses of action can be established in the monetary field: to have a monetary authority, to establish a monetary rule, or to adopt a market money system. Having a monetary authority implies that it will be a political decision whether the money stock expands, contracts or is left unchanged. Regardless of the decision taken, relative prices will be altered as a consequence of that decision. The establishment of a monetary rule will also affect relative prices as a result of its application. It is true that this last possibility will avoid erratic behavior in the quantity of money but the essence of the monetary problem still remains.

Eliminate Government’s Monopoly

It is only possible to remove the problem of inflation and deflation when the political decision of not adopting more political decisions in the monetary field is taken, in other words, the market money proposal implies that money must be considered just like the rest of the goods and services traded in the market.

This approach goes to the root of the problem, and thus eliminates the causes of monetary corruption. This is the idea, proposed by Hayek, of eliminating legal tender (that is, government’s monopoly on money). Other institutions can then mint, print, and convert the currency or currencies accepted by the market. Another stipulation should be the elimination of all laws regarding minimum banking reserves. We should also remove all restrictions on the ways in which each financial institution handles its business. Not only must the government monopoly on money be eliminated, but government must completely withdraw from monetary management. To this end, the central bank and the printing institution must be sold, together with the government money “brand.”

Hayek’s concept of market money obviously includes its denationalization, separating it completely from the idea of sovereignty. This means adopting (or rejecting) as money the good or goods the market judges adequate. This is similar to the way in which potatoes are sold in the international market, with no reference made to “national potatoes.” In this way, market money is separated from the idea of nationality.

Of course, the idea of a free society does not just mean a monetary reform. Its main goal is to limit government activities to specific functions. Government spending must be reduced and, as a consequence of that, taxes will also be reduced.

If public expenditure is not reduced, what is now an implicit tax in the form of inflation will turn into taxes proper. The state’s share in the national income will be unchanged, but prices will now reflect the real situation. A much more economic use of the available resources will then result.

Of course, it is possible to conceive the adoption of government money related to the market through a commodity whose volume depends on market conditions, as in the case of the classical gold standard prior to World War I. If, furthermore, government money is not of legal tender, possibilities appear for alternative currencies selected by the market. However, in order to make money compatible with the basic principles of a free society, it is necessary not only to eliminate legal tender (i.e., the government’s monopoly on money), but to remove the government from the money business.

In relation to currency matters, we will have a truly free society only when we understand that our personal ideas about what money should be can be offered to the market and compete with other ideas. But we cannot impose them on society any more than we impose our personal feelings with respect to other goods and services in a free society. The government’s function is to resort to defensive force to protect individual rights and not to get involved in banking, financial, monetary, industrial or commercial activities in general.