New Year day’s headline in many newspapers was that the rise in food prices in India is at 19.83 percent. It is the highest in the decade and shows no sign of subsidence. Interestingly, The Finance Minister Pranab Mukherjee said that keeping a rein on inflation is a huge challenge for the Government. It is easy for the Government to blame businessmen, speculation and hoarding, and pretend that they are fighting inflation and managing “growth”, as money is a highly tangled economic subject. But, the real blame lies elsewhere. Prices would rise in general only if the money supply increases or the supply of goods come down dramatically. It is easy to find the culprit if one grasps the fact that a shortage of goods is an extremely rare occurrence and that it is not easy for an ordinary citizen to print money.Though the media uses loose terms like “food inflation”, inflation is everywhere, an increase in the supply of money and bank credit caused by the Central bank.
To understand inflation, one should first understand how money originated. In the past, a commodity (mostly gold or silver) evolved naturally as money through barter. For convenience, people kept the commodity in a deposit bank, which issued redeemable warehouse receipts, and these receipts started circulating as substitutes for commodity money. The Government seized the commodity and left people with fiat money which was made irredeemable through the abolition of gold standard, in course of time. As Ayn Rand wrote in Atlas Shrugged, "Whenever destroyers appear among men, they start by destroying money, for money is men's protection and the base of a moral existence. Destroyers seize gold and leave to its owners a counterfeit pile of paper.”
Money is manufactured in a complex process, in which government securities are purchased by the Reserve Bank of India (RBI), which is accompanied by the creation of new and additional checking deposits for the treasury. When the quantity of money is increased in this manner, too much money starts chasing too few goods and the purchasing power of money decreases, which leads to a rise in prices. It should be kept in mind that the rise in prices is merely an effect of inflation and the real cause is that the money supply has been “blown-up”, or overextended.
Inflation is purely a monetary phenomenon, no matter how hard the statists try to evade that fact. Intellectuals and politicians would want the public to believe that inflation is an act of God, over which we humans have but no control. Inflation however is a policy, and as any policy, it can be halted. Our government goes on with its inflationary policies because it wants to tax the public, but lacks the temerity to resort to it in so explicit a manner. Inflation is in fact a hidden tax everyone pays irrespective of their incomes. It is a tax, which hits the poor more than it hits the rich. The sections hit most by inflation are orphans, widows and the elderly who live on the buying power of life insurance policies, pensions and annuities. Inflation leads to a re-distribution of wealth from the poor to the state and its parasites.
If the gold standard and a free banking system were instituted, which means, if paper money were redeemable in gold specie, it would have put a rein on inflation. A century back, almost all economists believed in the gold standard. The governments all over the world have however, abolished the gold standard long ago to finance their policies of lavish spending and bribing the voters. The abolition of the gold standard led to the printing of currency recklessly, without any objective standards where the gold could have been the objective standard. The gold standard is the hallmark of a free society. If there was a gold standard in place, credit expansion would lead to an unfavorable balance of trade, and flow out of gold for the inflating country. The claim that gold standard is not flexible is just another way of saying that it prevents currency debasement. The fact that it is not flexible is precisely its merit. There is a long running propaganda from the part of economists of the establishment to make people believe that the gold standard has collapsed, and what we need is efficient monetary management. In the words of John Maynard Keynes, gold is out-dated, old-fashioned, a barbarous relic, an ancient fetish. What people failed to realize was that all this was mere propaganda fed by court jesters in order to persuade people not to use gold in real life. Gold standard did not collapse. It was destroyed using brute force and coercion.
Monetary management is simply a euphemism for continuous currency debasement. There would be no such thing as monetary policy in a world of sound, honest money. A year back, the Planning Commission deputy chairman Montek Singh Ahluwalia had said that there is no ’magic bullet’ to cure inflation. What he didn’t mention was that inflation was caused by the Central bank itself and that it could be cured to the extent it could be, through a free banking system and objective laws to make currency redeemable in specie. Nothing can be more ridiculous than the notion that the Reserve Bank of India, the institution that has created inflation in the first place has taken upon itself the task of taming inflation.
If one understands the real cause of inflation, the cure should be obvious. It is to halt the money printing press and institute the gold standard as soon as possible. The Reserve Bank of India should be abolished and a free banking system should be allowed to come into being. People often refer to Thomas Tooke’s dictum that “Free trade in banking is free trade in swindling.” Sadly, they are unable to see the apparent fact that a free banking system based on objective laws would put a halt to the inflation process. From the mid-eighteenth century to the first part of the 20th Century, when the United States was on a Gold Standard (It was not a fully consistent gold standard) prices steadily fell, year after year. If we are to adopt the Gold Standard, prices will fall continuously and boom-bust cycles would come to an end.