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More on Mises's Theory of Money and Credit

Posted By Kurt Schuler On November 24, 2012 @ 11:09 pm In Uncategorized | 23 Comments

John Cochran at the Circle Bastiat blog [1] considers The Theory of Money and Credit “foundational.” I do not, and perhaps my explanation will be useful for thinking about the place of the Austrian School within economics more generally. Here is a list, not quite complete, of economists who were doing important work on monetary theory or business cycles within ten or so years on either side of the publication of The Theory of Money and Credit:

Albert Aftalion, Benjamin Anderson, James Angell, Harry Gunnison Brown, Edwin Cannan, Gustav Cassel, Thomas Nixon Carver, Charles Conant, David Davidson, Irving Fisher, Frank Graham, Ralph Hawtrey, Karl Helfferich, Edwin Kemmerer, John Maynard Keynes, David Kinley, Georg Knapp, J. Laurence Laughlin, Frederick Lavington, Alfred Marshall, Arthur Pigou, Dennis Robertson, Joseph Schumpeter, Frank Taussig, Horace White, Knut Wicksell, John H. Williams, and Hartley Withers.

Except to a few people who are interested in both monetary theory and the history of economic thought, most of the names will be meaningless. Fisher and Wicksell were foundational: they are the only ones I consider geniuses, whose contributions were so original that it is hard to imagine monetary theory without their ideas. (Keynes of course also left a lasting impression, but The General Theory of Employment, Interest and Money was published in 1936, well beyond the period I am considering here. Schumpeter was likewise important, but for his concept of the entrepreneur.) Among the others, if any one, two, or three — including Mises, the only full Austrian on the list (Schumpeter being a demi Austrian School member) — had not written on monetary theory, it would have mattered little for the progress of the subject. The cohort was large and talented enough that other members would have filled in most of the gaps.

Compare that to the debate about socialist economic calculation. Mises was not part of a cohort; he created the debate. When Friedrich Hayek later went back to look for antecedents, in the introductory essay to the book Collectivist Economic Planning, he found little, and even less that was widely known to his fellow economists.

Socialism continues to be cited even by those who do not like Mises much. The Theory of Money and Credit has no influence today that I can detect outside of the Austrian School. It is a work of talent but not a work of genius.


23 Comments (Open | Close)

23 Comments To "More on Mises's Theory of Money and Credit"

#1 Comment By Paul Marks On November 25, 2012 @ 7:47 am

Even Benjamin Anderson (a lifelong banker - and defender of fractional reserve banking) stated that the work of Irving Fisher was terrible (see Anderson's "Economics And the Public Welfare").

That you claim that Irving Fisher (a man astonished by the, inevitable, bust of 1921 and by the, also inevitable, bust of 1929 - indeed even after the bust he kept expecting everythign to be O.K.) is "foundational" explains a lot about what is wrong with this site.

There is a failure to understand basic monetary matters.

For example in the list of economists above where is Frank Fetter? An American economist who actually understood the basic principles of this area of thought (of course he was also the economist who refuted Henry George on land).

Fisher did not even seem to understand that "inflation" is NOT an increase in the "price level" it is an increase in the money supply - whether prices in the shops are going up or not.

However, YES - many of the economists you mention were doing work on money and credit, on the credit-money expansions that cause boom-bust events.

Ludwig Von Mises never denied that - indeed (for decades) he did not even tend to refer to the Austrian School as fundemetally different from other economcs. He talked and wrote of "economoics" not "Austrian economics" (at least for many years).

It was only when the "mainstream" went over to Irving Fisher and, later, to J.M. Keynes. That Mises was gradually forced to admit that "mainstream" economics had lost its way.

#2 Comment By Paul Marks On November 25, 2012 @ 7:53 am

Of course we have been over these matter many times before.

I am no illusion that there will be a meeting of minds.

However, while the "Free Banking" position is dominated by people who do not see that the arguments of the early 19th century "Banking School" were fallacies, and that the "Currency School" (although mistaken in key respects - for example in their belief that controlling bank notes controlls bank credit expansion beyond REAL SAVINGS) was correct about the folly of credit-money expansion. There is little hope for the Free Banking position.

Let all (indivduals or companies) be free to lend out money - that is Free Banking. No Central Bank, no "suspension of cash payments", no ban on "discounting" and so on.

Lending must be of REAL SAVINGS.

Not magic pixie dust and Moonbeams.

A sound economy can not be based on shell games and smoke-and-mirrors tricks.

#3 Comment By RobertThorpe On November 25, 2012 @ 12:27 pm

I'm not so interested in comparing Mises works to the other mentioned, most of which I'll admit I haven't read. I've only read some of Fisher. But, regarding ToMaC there are two things I want to bring people's attention too. Firstly, some of the criticisms that have been made here don't really stand up to scrutiny, and secondly, there are many interesting ideas in ToMaC that would be worth investigating more today.

Kurt writes:
"Final settlement means that the instrument in question is not redeemed, or at least not ordinarily redeemed. (One can find some historical cases such as the bills of exchange that circulated hand to hand without frequent redemption in Lancashire in the early 1800s.) In free banking systems, bank notes, which I think qualify as money substitutes under Mises's definition if anything does, have been redeemed frequently--daily or more often--and in large volume. That the process is out of sight and out of mind to the public does not change the underlying reality. Mises speaks of money substitutes as being complete substitutes for money. But they are not complete substitutes, because unlike money in the narrow sense they do not constitute final settlement of debt, which is the key distinction between money in the narrow sense and credit."

Here we have Kurt's definition of final settlement, and that's fine. But it isn't what Mises means. Mises is addressing which financial instruments circulate like money does in the overall economy. At this point in the discussion he isn't talking about what goes on within banks, that comes later. When he says that something is accepted as "final payment" he is drawing a distinction from the money *users* point of view. For example, lets say I have a bill that Selgin industries must pay. I may transfer that bill to Cochran industries, so Selgin industries must pay them. But, that isn't final payment. Final payment only comes when the bill actually is paid using "money-in-the-broader-sense" (ie. base money or money substitutes). So, that type of transaction doesn't remove the need for a transfer of money-in-the-broader-sense within the community of money users, so it isn't "final payment". Kurt is right that within the community of money *issuers* a great deal more has to be done behind the scenese. In Mises description that comes later but he doesn't ignore it.

You can say that "final payment" should concern the banking level, but that's a matter of terms. However it's phrased a word is needed for "fiduciary media" that separate from just "credit", because so much credit isn't at all money-like.

Peter Surda write: "Also, Mises wrote in ToMC that demand deposits are not money substitutes (I would need to lookup his exact justification), but in the meantime this has changed."

No, he said they were money-substitutes. Read the first three or four pages of the section "The Evolution of Fiduciary Media".

JP Koning writes:"For instance, according to Mises a 3 month bill of exchange was a credit instrument, but if it was a 3 month site bill, ie. redeemable on demand, then it ceased to be credit. Odd."

It's not that odd, in fact it's similar to the distinctions that central banks make today when reporting some monetary aggregates. I agree that 3 month bills can be used instead of money, but the question is how often that will happen. Some system of differentiations is needed. The modern ones used by M1, M2, M4, MZM etc are quite sophisticated, Mises wasn't in a position to make something so complex back when he wrote ToMaC. So, the lines Mises draws aren't as good as those we can draw today. But, the same will be true when we look back from 100 years ago. For example, as I understand it today treasury bills are part of M4 but bills issued by large corporations aren't. In expect in the future that'll get much more complex, with bills from some businesses counting and other not.

I don't think that ToMaC is without flaws. As Kurt mentions the regression theory is dubious. Mises also doesn't acknowledge wage and price stickiness, he fixes that to some extent in later books though not robustly in my view. His view on FR banking is too vague. On the one hand he says it can cause ABCT if all banks expand at once. But on the other he supports the monetary equilibrium ideas of supply and demand for money. In the end he comes down on the side of restricting money supply, but he never justifies the decision properly. That is, he never says why satisfying money demand must take a back-seat to the risk of ABCT. Kurt is quite right to say that ABCT isn't a theory of every business cycle, Mises admits that. In some parts of ToMaC he also discusses various types of real and nominal shocks too.

Lastly, here's some things I've noticed about ToMaC that I think are interesting and open up avenues for research:
* In his quantity-theory-like theory of money he is implicitly using MV=PT not MV=PQ. That is, he's looking at all transactions not just GDP transactions. Anthony Evans and I have written a paper about that.
* The cantillon effect and account falsification are treated separately to ABCT. That is, they lead up to ABCT but they're treated separately too. I think this is the right way to do it.
* In fact, the "interest rate path" to ABCT is treated separately. That is, there are two theories like ABCT in ToMaC. Firstly, there is a quantity of money above supply causing account falsification and then over-expansion. That doesn't rely on interest-rates per se. Then later on there's the central bank's action causing a fall in interest rates and that triggering over-expansion.

#4 Comment By Paul Marks On November 25, 2012 @ 1:12 pm

It would have been more honest to say "I support Irving Fisher and oppose Mises" rather than to say Fisher is "Foundational" and Mises is "good".

If Fisher is correct then the work of Mises is not good - it is fundentally wrong, and if the work of Mises is correct the work of Fisher is fundementally wrong.

I repeat that even Benjamin Anderson (who Kurt Schuler mentions) actually thought the work of Irving Fisher, on monetary matters, was terrible - false.

One can not simply say that a group of economists were working on monetary theory as if they were working to the same end - they were in disagreement, fundemental diagreement.

The diagreement remains.

One can not cite Mises and Fisher as if they were in agreement.

By the way - citing Irving Fisher (especially as "foundational") is an odd thing for someone at this site to do. After all Fisher is known for his opposition to FSB - and the people who control this site love FSB.

#5 Comment By Ivan On November 25, 2012 @ 3:50 pm

"Socialism continues to be cited even by those who do not like Mises much. The Theory of Money and Credit has no influence today that I can detect outside of the Austrian School. It is a work of talent but not a work of genius."

The main methodological problem with this is that you are using the level of acceptance and relevance of any particular theory as a proof that the author was, or was not, a 'genius'. As if there could not be a genius whose most important contributions were simply ignored or denigrated because they did not fit the prevailing vogues of thought of the times. The equation relevance=greatness relies on the Whiggish concept of philosophy of science in which one's influence on current trends in the 'profession' is the main source of his 'greatness'. And the 'subject' (economic theory) is always 'progressing', never stagnating, or God forbidden, regressing and deteriorating!

From that vantage point, the current theoretical world is best of all worlds (you even go as far as to say that if Mises had never wrote on monetary theory that would have changed little) and since Mises' theory implies that this best of all worlds (Friedman+Keynes, based on Fisher) might not be the best one after all, he, Mises is irrelevant, or even worse - an obstacle to this 'progress of the subject' along the mainstream neoclassical lines. In other areas he influenced the "current discussions" more, so he is more relevant. This is just a limited repetition of the same very popular platitude that the Austrian economics is valuable only insofar as it has been incorporated into the mainstream discussions, and irrelevant or wrong in the things where it departed from the current mainstream.

#6 Comment By Ivan On November 25, 2012 @ 3:55 pm

"Socialism continues to be cited even by those who do not like Mises much. The Theory of Money and Credit has no influence today that I can detect outside of the Austrian School. It is a work of talent but not a work of genius."

The main methodological problem with this is that you are using the level of acceptance and relevance of any particular theory as a proof that the author was, or was not, a 'genius'. As if there could not be a genius whose most important contributions were simply ignored or denigrated because they did not fit the prevailing vogues of thought of the times. The equation relevance=greatness relies on the Whiggish concept of philosophy of science in which one's influence on current trends in the 'profession' is the main source of his 'greatness'. And the 'subject' (economic theory) is always 'progressing', never stagnating, or God forbid, regressing and deteriorating!

From that vantage point, the current theoretical world is best of all worlds (you even go as far as to say that if Mises had never wrote on monetary theory that would have changed little) and since Mises' theory implies that this best of all worlds (Friedman+Keynes, based on Fisher) might not be the best one after all, he, Mises is irrelevant, or even worse - an obstacle to this 'progress of the subject' along the mainstream neoclassical lines. In other areas he influenced the "current discussions" more, so he is more relevant. This is just a limited repetition of the same very popular platitude that the Austrian economics is valuable only insofar as it has been incorporated into the mainstream discussions, and irrelevant or wrong in the things where it departed from the current mainstream.

#7 Comment By Kurt Schuler On November 25, 2012 @ 11:17 pm

There have been quite a few economists whose work has been initially neglected only to be acknowledged as important later. The prime example is Henry Thornton, whom I discussed in a post quite a few months ago. His book never even had a second printing in Britain. But Thornton was eventually rediscovered. Mises's main books have been available continuously for decades now. Mises's work on socialism, neglected among mainstream economists for some time, gained renewed attention when it proved valuable for understanding the collapse of the Soviet bloc. The Theory of Money and Credit has not enjoyed a similar fate because it's just not as important a book.

#8 Comment By Kurt Schuler On November 25, 2012 @ 11:33 pm

Frank A. Fetter wrote on interest, but did not specialize in monetary or business cycle theory, unlike the economists I listed. I omitted him and some other economists such as Herbert Davenport who touched on monetary matters but whose worked focused elsewhere. Irving Fisher's ideas about the equation of exchange, the difference between real and nominal interest rates, the making of index numbers, debt deflation, and the use of statistical methods continue to be central to monetary economics. And if you really think there is so much wrong with this site, stop wasting your time by commenting on it. Go write the next great work on money, if you are capable of doing it. If not, you need to be a little more open to different views, a little more polite, and a lot more hesitant about USING CAPITAL LETTERS SO OFTEN, which is the Internet equivalent of shouting.

#9 Comment By Ivan On November 26, 2012 @ 1:43 am

"The Theory of Money and Credit has not enjoyed a similar fate because it's just not as important a book."

...or maybe it is, but represents pons asinorum for the mainstream, since they would have to abandon some of the most entrenched principles of standard neoclassical theory in order to accept it. According to your own logic, 'Socialism' was worthless in 1975 but very important in 1999. That does not make any sense to me. What if the mainstream in 20 years time rediscovers the ABCT pioneered in TOMC? Are you going then to proclaim TOMC the most important Mises' work?

If you, on the contrary, reject the dubious equation you entertained in the post and this last comment: accepted by the mainstream=important, and simply think that in YOUR opinion the book is not important, irrespective of what Paul Krugman or Milton Friedman have to say about it, then why invoke the mainstream opinions in the first place? Your would be enough. It seems as if your real goal was to say that the the ABCT is not important, but for some reason found it more elegant and less 'divisive' to say that TOMC is less important than other Mises' books.

Once again, economic thinking, as any other form of science or philosophy can regress, not only progress. The fact that Mises' monetary theory is not accepted nowadays might well mean that we entered a Dark Age of economic science in which the best theory is rejected simply because it does not fit the primitive cliches of the time, rather than that the Neanderthal Mises was superseded by the more sophisticated theories, as you imply. You need a stronger argument than the simple observation that mainstream rejects Mises in order to prove your Whiggish Theodicy and refute my hypothetical counter-narrative about the Dark Age.

#10 Comment By Paul Marks On November 26, 2012 @ 9:47 am

Yes Ivan - Kurt is not really producing an economic argument, he is producing an "argument from authority" (the authority being those who currently control the universities and the media).

A similar example from law (rather than economics) would be the Whiggsh habit in 19th (and even some 20th century) legal history works to imply that because there is ever more statute law this "proves" that ever more statute law ("productive" Parliaments and other legislatures) must be a good thing.

I suspect that this "spirit of the age" "what exist is rational" style of "argument" goes back to Hegal.

It has spread even to architecture - with horrible buildings replacing good buildings, on the grounds that the new buildings are in line with the "spirit of the age" and that to build in other styles is a "pastiche".

Still at least we have not yet had the "banks only lend out real savings" nonsense yet, the basic dishonesty that led me to loose my temper with this site some time ago.

"Losing your temper is a sign of a weak position".

[Final original paragraph deleted by Kurt Schuler for name-calling. Paul, it is especially bad manners to do it to somebody else on the site who is not involved in this thread.]

#11 Comment By JP Koning On November 26, 2012 @ 1:07 pm

Robert, you point out correctly that Mises's distinction presages the M1, M2, Metc of modern days. But I wouldn't be the first to point out that these measures are largely meaningless. The fact that we have such a vast quantity of M's demonstrates the underlying plasticity of the concept of money. It simply can't be categorized. Mises fell into this trap of categorization, with the line he draws between a 3 month sight bill and a 3 month non-sight bill being emblematic of what is ultimately a futile and arbitrary endeavor.

#12 Comment By David Stinson On November 26, 2012 @ 5:35 pm

Hi Kurt.

Is there a book or two on the history of monetary thought, say from 1840 - 1940, that you could recommend and that might cover the contributions of some of the less well known economists you have mentioned?

#13 Comment By Kurt Schuler On November 26, 2012 @ 11:00 pm

Joseph Schumpeter's History of Economic Analysis, in the chapters dealing with money, is my favorite. Charles Rist, [2], is another. Schumpeter recommends Arthur Marget, The Theory of Prices, though it has been many years since I have looked at it myself and all I remember is that it is very long. Rist is the most accessible but has the least coverage of writers who are now little remembered.

#14 Comment By David Stinson On November 26, 2012 @ 11:05 pm

Thanks Kurt. I have been picking my way through Rist. I'll check out the others.

#15 Comment By Kurt Schuler On November 26, 2012 @ 11:42 pm

As a long-run first approximation, the Whig view of history is pretty good. Would you rather live in 2012 or 1912? 1912 or 1812? 1812 or 1712? The answers are easy. Similarly, in economic theory, over a century there is generally progress rather than regress. After about 70 years, for instance, Mises was acknowledged to have been correct about socialism even by those earlier inclined to dispute his view.

The opinions of other scholars are important to consider because it is highly unlikely that any one of us has the whole truth. If, despite a work being known and readily available for a century, scholars and practitioners in the field outside a small group do not think it worthy of notice, it should lead us to ask why. That is not an argument from authority; it's an argument from thousands of authorities.

And remember, I said that The Theory Money and Credit was a good work, just not a great work. Misesians seem to have a hard time accepting any criticism of the master. From what I have read, Mises himself seems to have been more tolerant of criticism of his work than many of his followers are.

#16 Comment By CT On November 27, 2012 @ 9:52 am

Hold on a second ... are you implying that, for example, Keynes' GT is a work of genius because its conclusions are accepted by a large number of economists? And just to be clear, in order to consider the GT a work of genius you'd have to ignore Keynes' theory of interest (which was dead wrong), his inability to understand how capital is allocated - heck you'd even have to ignore the fact that the guy didn't even know how to treat depreciation properly when analyzing an investment.

I agree with Ivan. The fact that a book is accepted or not should have absolutely no bearing on whether it is a work of genius.

#17 Comment By Ivan On November 27, 2012 @ 7:21 pm

"That is not an argument from authority; it's an argument from thousands of authorities."

you really made me laugh. Yes, just like those 'thousands of authorities' who supported eugenics and the theory that the continents did not move, or that CO2 is a 'dangerous pollutant which leads to catastrophic global warming' and so on, down the line, including the theory that there is a stable trade off between inflation and unemployment (also a great advance over the old orthodoxy, I suppose, supported by thousands of authorities for decades). The same 'thousands of authorities' were for 70 years denigrating Mises' work on socialism in the same way they still do with his monetary theory. In monetary theory you probably refer to those thousands of 'authorities' who work for the Fed or are directly or indirectly funded by it, (see Larry White's excellent article on this), and who would rather die the thousands deaths than consider that just maybe the monetary central planning by the Wise Overlord Bernanke is not the sexiest thing in the world.

#18 Comment By Ned Netterville On November 28, 2012 @ 12:42 pm

Kurt Schulyer: "Keynes of course also left a lasting impression [on monetary theory]," (Your reference in the same comment to Keynes GENERAL THEORY implies that something therein made such an impression on you.)

In his THE FAILURE OF THE NEW ECONOMICS, Hazlitt wrote of Keynes' GT, "I have been unable to find in it a single important doctrine that is both true and original. What is original in the book is not true; and what is true is not original. In fact, as we shall find, even much that is fallacious in the book is not original, but can be found in a score of previous writers." I have read Keynes GT, and agree with Hazlitt's critique. May I ask, What in Keynes GT left a lasting impression with you?

#19 Comment By RobertThorpe On November 29, 2012 @ 8:14 pm

And you omitted Karl Knies :). He was very important in the German speaking world.

#20 Comment By RobertThorpe On November 29, 2012 @ 8:17 pm

It's impossible to come up with a concrete definitions of money that apply at any point in history.

However, within each era some definitions are needed. The whole M1, M2, etc business is not without purpose. Monetary economics needs a definition of money, without one what's the subject of study? It's the economics of we-don't-know-what, no other scholar would treat it with any respect, and rightly so. Without such definitions and measurements there is no way of testing theories against reality.

#21 Comment By Gonzalo R. Moya V. On November 30, 2012 @ 12:29 pm

I want to thank Mr. Netterville first for the last two comments he made on Mr. Schuler's previous post, I was getting tired of pointing out Mr. Sproul's mistakes and he did it perfectly instead of me; and also for quoting Mr. Hazlitt above regarding Keynes' General Theory [GT], those are my thoughts exactly. However, Mr. Schuler was humble enough not to talk about what made lasting impressions on him (which would have been indeed vane) but on Monetary Theory, which is by far the field of Economics that most debate generates (as this blog itself demonstrates).

In that sense, Mr. Schuler made a list of important contributors contemporary to Mises that came to his mind at the moment of writing it (adding a few names on later comments) and highlighted Fisher and Wicksell from this list due to their extra significance, but -again- not to him in particular but to Monetary Theory in general. Since he mentioned Keynes in the original list but did not highlight him for his additional relevance as with the other two, he anticipated complains from Keynesians by making a note in parenthesis that his significant contribution came later on (i.e. after Mises).

#22 Comment By Gonzalo R. Moya V. On November 30, 2012 @ 1:23 pm

Mr. Marks, since Mr. Schuler decided to stop replying to your comments after the first one on this post (either because later comments of yours could also be replied by the same one or simply because he just gave up on you), I will take the liberty to reply on his behalf:

"Fisher did not even seem to understand that 'inflation' is NOT an increase in the 'price level' it is an increase in the money supply - whether prices in the shops are going up or not."

Currently, the Merriam-Webster dictionary defines (economic) "inflation" as "a continuing rise in the general price level usually attributed to an increase in the volume of money and credit relative to available goods and services", so it is indeed correct to use in that sense nowadays. As a matter of fact, J. Huston McCulloch in "Money and Inflation: A Monetarist Approach" (2nd Ed., 1982) disccusses this ambiguity stating that -originally- just saying "inflation" referred to "money inflation" but precisely because it is the most common source of "price inflation", already then it was accepted to say "inflation" meaning the latter term.

Furthermore, in 1973, the Journal of Political Economy publishes "I discovered the Phillips Curve" a "Lost and Found" paper written by Irving Fisher in 1926 under the original title "A statistical relationship between Unemployment and Price Changes", in which he finds with the use of econometrics a "remakably high correlation between the rate of price changes and unemployment" (way before A.W. Phillips in 1958) so at all times he is careful not to use the then ambiguous term "inflation" but the more specific "rate of price changes".

#23 Comment By Ned Netterville On November 30, 2012 @ 1:57 pm

Thank you my friend. Your kind words bright an already fine day.


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[1] Circle Bastiat blog: http://bastiat.mises.org/2012/11/the-theory-of-money-and-credit-at-100/

[2] : http://library.mises.org/books/Charles%20Rist/History%20of%20Monetary%20and%20Credit%20Theory.pdf

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