Money Mischief_ Episodes in Monetary History - Milton Friedman [21]
A major unsettled issue is the short-run division of a change in nominal income between output and price. The division has varied widely over space and time, and there exists no satisfactory theory that isolates the factors responsible for the variability.
It follows from these propositions that inflation is always and everywhere a monetary phenomenon in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output. Many phenomena can produce temporary fluctuations in the rate of inflation, but they can have lasting effects only insofar as they affect the rate of monetary growth. However, there are many possible reasons for monetary growth, including gold discoveries, the financing of government spending, and the financing of private spending. Hence, these propositions are only the beginning of an answer to the causes and cures for inflation. The deeper question is why excessive monetary growth occurs (see chapter 8).
A change in monetary growth affects interest rates in one direction at first but in the opposite direction later on. More rapid monetary growth at first tends to lower interest rates. But later on, the resulting acceleration in spending and still later in inflation produces a rise in the demand for loans, which tends to raise interest rates. In addition, higher inflation widens the difference between real and nominal interest rates. As both lenders and borrowers come to anticipate inflation, lenders demand, and borrowers are willing to offer, higher nominal rates to offset the anticipated inflation. That is why interest rates are highest in countries that have had the most rapid growth in the quantity of money and also in prices—countries like Brazil, Argentina, Chile, Israel, South Korea. In the opposite direction, a slower rate of monetary growth at first raises interest rates but later on, as it decelerates spending and inflation, lowers interest rates. That is why interest rates are lowest in countries that have had the slowest rate of growth in the quantity of money—countries like Switzerland, Germany, and Japan.
In the major Western countries, the link to gold and the resulting long-term predictability of the price level meant that, until sometime after World War II, interest rates behaved as if prices were expected to be stable and neither inflation nor deflation was anticipated. Nominal returns on nominal assets were relatively stable, while real returns were highly unstable, absorbing almost fully inflation and deflation (as displayed in Figure 1).
Beginning in the 1960s, and especially after the end of Bretton Woods in 1971, interest rates started to parallel rates of inflation. Nominal returns on nominal assets became more variable; real returns on nominal assets, less variable.
CHAPTER 3
The Crime of 1873*
I am persuaded history will write it [the Act of 1873] down as the greatest legislative crime and the most stupendous conspiracy against the welfare of the people of the United States and of Europe which this or any other age has witnessed.
—SENATOR JOHN H. REGAN (1890)
[The demonetization of silver]...was the crime of the nineteenth century.
—SENATOR WILLIAM M. STEWART (1889)
In 1873 we find a simple legal recognition of that [the demonetization of silver] which had been the immediate result of the act of 1853.
—JAMES LAURENCE LAUGHLIN (1886)
You shall not press down upon the brow of labor this crown of thorns. You shall not crucify mankind upon a cross of gold.
—WILLIAM JENNINGS BRYAN (1896)
The act of 1873 was a piece of good fortune, which saved our financial credit and protected the honor of the State. It is a work of legislation for which we can not now be too thankful.
—JAMES LAURENCE LAUGHLIN (1886)
The Coinage