Money Mischief_ Episodes in Monetary History - Milton Friedman [42]
Deflation and the Silver Movement
Deflation did not prevent rapid economic growth in the United States. On the contrary, rapid growth was the active force that produced the deflation after the Civil War. The desire to return to a specie standard encouraged restraint in monetary growth, but the restraint was not potent enough to prevent the quantity of money from being higher in 1879 than it was in 1867 (the first year for which we have satisfactory data). Prices came down as rapidly as they did only because output was rising so much faster than the quantity of money was. Similarly, the evidence "suggests little significant change in the rate of growth over the period [from 1879 to 1914] as a whole, but rather a sharp retardation from something like 1892 to 1896, and then a sharp acceleration from 1896 to 1901, which just about made up for lost time. If this be right, generally declining or generally rising prices had little impact on the rate of growth, but the period of great monetary uncertainty in the early nineties produced sharp deviations from the longer term trend" (Friedman and Schwartz 1963, p. 93).
Nonetheless, the price decline produced great dissatisfaction both in the United States (as discussed in some detail in chapter 3) and in the rest of the gold-standard world. The reason is partly what economists call "money illusion," the tendency of individuals to pay primary attention to nominal prices rather than to real prices or to the ratio of prices to their incomes. Most people receive their incomes from the sale of a relatively few goods or services. They are especially well informed about those prices, and they regard any rise in them as a just reward for their enterprise and any fall as a misfortune arising from forces beyond their control. They are much less well informed about the prices of the numerous goods and services they buy as consumers and are much less sensitive to the behavior of those prices. Hence, there is the widespread tendency for inflation, provided it is fairly mild, to give rise to a general feeling of good times; of deflation, even if it is mild, to give rise to a general feeling of bad times.
An equally important reason for dissatisfaction is that deflation, like inflation, affects different people differently. Of particular relevance to the greenback, populist, and free-silver agitation in the United States is the fact that deflation affects debtors and creditors in very different ways. Most farmers at the time were debtors, and so were most small businessmen, and most of their debts were in fixed dollar terms at specified nominal interest rates. Falling prices make the same number of dollars correspond to a larger volume of goods. Hence, debtors tend to lose from deflation, creditors to gain.*
"The silver movement that came to a climax in the Bryan campaign of 1896," writes Barnes (1947, p. 371), "was founded primarily ... upon the resumption law of 1875. The basic want of the people was for more money; the legislation that stripped them of paper turned them to silver." In the early years of falling prices after the Civil War, the pressure was for creating more greenbacks instead of retiring them—from which came the name of the Greenback party (born in 1875, died in 1885). But once the passage of the Resumption Act documented the widespread opposition to paper money and the equally widespread belief in a specie standard as the natural order, the populists, as Barnes said, turned to silver as the vehicle for achieving inflation. In doing so, they acquired both a powerful ally—the silver miners in a number of sparsely settled western states, who wielded political power out of all proportion to their numbers—and a convenient devil—Wall Street and the eastern bankers, whom they accused of "the crime of 1873." They