Chapter 4

The Inflation/Deflation Conundrum

Back in the 1970s everyone defined inflation as an increase in prices. Milton Friedman convinced the public and the pundits that we needed to look at the cause of inflation instead of the effects, which Friedman defined as “an excessive increase in the supply of money.”

Today, everyone cites the Friedman definition. But they have lost sight of the whole definition, that is inflation is “an excessive increase in the supply of money that leads to an across-the-board increase in prices.” This definition contains both cause and effect. The Austrian School of monetary theory disagrees with this definition. It holds it is the hoarding and dishoarding of money that leads to inflation and deflation. I agree, and I think that theory is being proved today. But, it is the monetarist definition that is most widely accepted, so we will use it here.

A statement uttered so often today is “We have both inflation and deflation going on at the same time.” Do we? The answer is obviously no—if you define your terms. By definition it is impossible to have both an increase and a decrease in the nation’s money supply at the same time. And it is impossible to have an across-the-board increase and across-the-board decrease in prices at the same time. That’s the short answer. The long answer is a little more interesting. Let’s put the monetarist theories and Austrian classical theories aside for a moment. Let’s do what economists tell laymen never to do. Let’s ...

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