From: jfh@reef.cis.ufl.edu (James F. Hranicky)
Newsgroups: alt.individualism
Subject: Re: Alan Greenspan
Keywords: nn
Date: 26 Sep 92 18:34:47 GMT
Organization: Univ. of Florida CIS Dept.

>: Milton Friedman disagrees.  He has proposed a that the money supply 
>: be increased only at the rate of GNP growth to ensure stable prices.
>: 
>
>"Only" may have been a bit too strong, stability might also be
>achieved by force.
>
>I also heard Milton Friedman make this proposal during a radio
>interview.  The reason for the proposal, if I remember correctly, was
>to remove the ability to manipulate the money supply from the
>government.  Two questions came to mind after I heard this proposal:
>was he assuming a growing GNP; and given that GNP is indirectly tied
>to the money supply, had he really looked at the stability of the
>resulting feedback loop.

Okay, here we go. This is a perfect example of the lack of understanding
of money on the part of today's economists.

To try and understand money, let's look at an economy based only on
barter, with a division of labor between individuals. This means that
each person concentrates only producing only up to a few goods or services.
In other words, everyone will have to trade amongst themselves. For the
farmer to get "rich" (have lots of posessions), he will have to produce
as much wheat (or whatever) as possible--more than he or his family or his
workers will be able to consume--this extra wheat is his PROFIT. With
his excess crops he can trade with the shoemaker for shoes, the tailor
for clothes, etc. In other words, the only way he can become rich is to
work as hard and/or efficiently as possible.

Say our farmer is producing the precise amount of wheat that the public
demands. In this case, from year to year, he will not change the size
of this crops, because he is gaining the most items in exchange possible
for the amount of wheat his exchanges for other goods. The amount of wheat
he exchanges for each good is the *price* he is willing to pay for that
particular good, and vice versa. 

Now let's say that a large number of people move to his area, and begin
to consume more of his wheat...the farmer notices that he is not producing
enough wheat--i.e., unless he reduces the amount of wheat he exchanges for
each good, he will run out. When he reduces the amount of wheat he 
exchanges, he raises the *price* of wheat. What this means is that he now can
gain more things in exchange for his wheat, as it has now become more 
valuable to the community. The intelligent farmer, in order to gain as
much profit as possible, will use some of this new found wealth to plant
more wheat (exhange it for land, tools, etc.), since this will bring
him more profit.

As he produces more wheat for the public, he will eventually overshoot
the demand for wheat. He will find that people, who had had to restrict
their consumption of wheat before, will now no longer be willing to accept
less wheat for their items, and will demand more. I.e., the farmer will
have to accept fewer goods in exchange for his wheat--the *price* must
drop. (It is important to note that the other producers have more than
likely done exactly the same thing--produced more for these new consumers
(who are also either laborers or producers themselves) raised the price,
expanded production, increased supply.)

So, when more than enough of a product has been produced, the price 
*should* fall. This is the market mechanism which produces the most
for the consumers at the cheapest price. (Note I did not include 
competition for the farmer, which would serve to cause prices to fall even
more.)

What Friedman fails to understand, apart from this mechanism, is the 
true meaning on money. Just what is it? Money is nothing more than a 
medium of exchange. Instead of directly purchasing goods with other
goods, the farmer would be able to use money instead. If the quantity
of money remains the same throughout time, the value of each unit of
currency will eventually gain a more or less objective value (i.e.,
each individual will know "how much," say, a dollar, is worth.)

Now, Friedman's plan is to increase gradually the supply of currency
in circulation. What does this mean? It means that what the farmer thought
was profit, was actually not profit, but merely extra currency. If the
government has inflated the money supply, it has basically "given"
free money to a certain portion of the population. These people might
decide to buy more wheat than they otherwise would have, because
wheat has a higher marignal utility than this new money (i.e., you can't
eat it, there's no point in saving it for other goods, because it was
free to begin with--just like most people, when given a gift of a certain
amount of money, go and spend it immediately--they made their own economic
calculations for the future without taking this into account--it does them
no harm to spend it, they have enough in savings or insurance (as best they
can tell) with the money they already have saved or tied up in insurance.)

So, what this means is an increase in demand (need + ability to pay),
without a corresponding increase in need. The farmer will raise the price,
and plant more wheat, without truly needing to, and the rest of the
community (not all at once, or in an even fashion), will consequently do
the same. What this will do is create a supply higher than is needed
by the community. Since there is now more than is deemed necessary by the
community, the price will have to fall (this is called a RECESSION!!!!!),
as people will not continually buy more than they need. Those industries
kept afloat by inflation (the increase in demand and distortion of marignal
utility.) will now go under. These industries have pulled labor and production
from other industries, whose products have a truly higher marginal utility
under a stable money supply than those products produced because of artificial
demand. 

Now, as people buy less of those goods, their price falls, the public
will buy less of them, their profit margin (propped up by inflation), will 
now be destroyed. All of the workers who have put effort and labor  
into these industries will be out of work. Without inflation, these industries
would have never overexpanded (actually MAL-invested), and the labor
used up during this time would have gone to industries whose products 
constitute a higher mariginal utility. Unfortunately, even those industries
which are deemed necessary to the public by the public, will experience
some loss in profits, caused by overexpansion. The general trend though
is that captial industries (raw material industries--iron, steel, etc.)
are the hardest hit, rather than consumer industries (food, clothing, etc.)

Alas for mankind, the general solution to the recession caused by inflation
is--you guessed it--more inflation. Interestingly enough, the recession is
the GOOD part of the business cycle, as the market attempts to realign
itself with the true supply and demand curves. As a result of the expansion
of the money supply, each unit of currency is now worth less, as all prices
have experience a general rise. Since 1913, when the Federal Reserve was
instituted, the Consumer Price Index has experienced a constant rise--
i.e, the dollar has become worth less and less, losing up to 90% of its
value before 1913.

The only sure way to minimize this is to use precious metals as a foundation
for currency. This will minimize the distortions, because of the high
cost of mining and the scarcity of these metals, expanding the money supply
becomes more difficult with time. It also prevents the government from 
printing huge sums of fiat (Latin for "let there be") money, thus devaluing
our currency.

The above is the true representation of exactly what money is, and it is 
most unfortunate that most of today's economists do not understand this.

As I have said before, this is the most important aspect of our economy
to change, since it will eventually lead to a destruction of our economy.

Jim Hranicky (jfh@reef.cis.ufl.edu)
Newsgroups: alt.individualism