HINDSIGHT

A Search for Wisdom

Occasional Paper #8

April 15, 2008

WHAT INFLATION?

Perhaps we live in the world of Lewis Carroll's Through the Looking Glass:. "'When I use a word' said Humpty Dumpty in a rather scornful tone, 'it means just what I choose it to mean - neither more nor less.'" That is the position politicians and the media take.

Consider the value of the goods and services we buy. How about the value of gasoline for our vehicles? I get about the same miles per gallon of gas I used to get thirty years ago on one of my older vehicles. A gallon of gas has as much energy as it did then. No inflation there. Even further back I remember buying gas for the car at 10 gallons for a dollar and I expect that the gas then had about the same energy content as it does now.

And what happened to the US Mail postcard? It has always been a single piece of card stock. I remember when it took almost the same time to be delivered as it does now. We even used to get mail delivered to our door twice a day. That was even a greater value than we get today.

Another example is our electric stove burner, now over 30 years old. Today it provides enough power to boil water as fast as it did then.

I could go on pointing out goods and services we once had. At one time a service station provided washing the windshield, checking the tires and the oil with the purchase of gas. We rarely get that service today. The value of the service seems to have gone down.

I read that in 1927 a barrel of crude oil for refining to gasoline sold for ten cents. I suspect that the energy in that barrel was as much as in a similar barrel today. That is, its energy value was about the same as it is today.

But the price in legal tender, dollars, of many of these things has changed. Gasoline for the car is around $2.50 a gallon not $0.10 per gallon. That postcard and the service for its delivery are now $0.24, not $0.01. I remember when electricity was $0.008 for a kilowatt-hour not the $0.24 a kilowatt-hour we pay today. That barrel of crude oil for $0.10 is now in the range of $60.00. And the list goes on with unbelievable increases in price without any change in value.

The value of precious metals has not changed drastically. The value of the money the coins represent has changed. The old pre 1964 quarter was 90% silver and today it has no silver. Silver today is rapidly approaching $10 an ounce. An ounce of gold in the form of a $20 dollar gold piece was a token for money. Today it is no longer money in circulation and gold has a value around $550 an ounce.

The value of money has depreciated causing an increase in the Consumer Price Index which is now defined by many to be a measure of "inflation". It is plain and simply a deflation of money.

Way back in history, the precious metal content of monetary coins in gold and silver was set for specific coins. But then the bankers and governments took to nibbling the edges of the coins which did contain precious metals of value. The coins looked almost the same, but the content of the precious metal was gradualy decreased.

Today, there is nothing of significant value in the metal coins or in the paper tokens for money. Today's money is simply a token for something with no collateral and with no value in and of itself. We have become accustomed to accepting these tokens in good faith.

Today it is simple to produce more tokens without having them represent anything, without having to provide any collateral. In the process, the ratio of tokens available to the goods and services available has changed The number of tokens available is increased and their worth is decreased. We do not have an inflation of goods and services but a deflation in the value of money.

So where do we go from here? First it is good to understand the origin of these tokens. In earlier times there was simple exchange of things of value known as barter. But in a developing cultures it is no longer reasonable to specialize one's activities and accumulate the products for later barter.

In today's world it would be impossible to accumulate a large supply of shoes, for example, and carry them around with you to exchange for shirts. And so on for the many goods we have come to want. The further specialization of the industrial age has greatly increased the goods we want and limited the goods we can individually produce.

Simple barter is really out of the question. A variety of tokens have been used over time. They are much more convenient to carry around. The tokens are also easier to store for future use.

Ultimately, tokens became money. Originally, gold and silver coins were tokens which in themselves contained a specific amount of precious metal. In this country the precious metal value of money was defined by the government.

Then it became a problem to carry around significant amounts of precious metal in the form of coins. It became the custom to print paper certificates which could be exchanged for the precious metal on demand. The precious metals were held in storage and available on demand.

The precious metal dealers stored the metal sitting idle. They came to the idea that they could issue more certificates than the metal they had in storage. Eventually their tokens contained a fraction of the precious metal the money tokens represented.

Many of the dealers were bankers, but then the government took over issuing certificates. And they too went on to a fractional system of backing for the paper certificates they printed.

Eventually, the government found that even the fractional value of the certificates restricted their activities and they recalled all of the certificates. I remember when the silver certificates were recalled. They served notice that it was going to happen. I realized that the value of the silver was no longer going to remain. But for a period of time, one could go to a US Mint and redeem silver for the certificates.

I took my family to a local US mint and redeemed silver for my certificates. The silver was available as pellets of silver packaged in one ounce envelopes and in bars of melted coin silver weighing about 100 ounces. I hope the kids will remember. I still have samples to remind me that it happened in my day.

Near that time coins contained silver. About 1964 the government replaced the amount of silver in the coins and eventually eliminated the silver in all circulating coins. One can now buy pre-1964 silver coins as junk silver coins. I have some of them to remember what the government did to the actual value of coins.

With the onset of fractional reserves for the paper money and the removal of silver from coins, the government was free to make money available with nothing of value as collateral backing it. Nothing except for the faith and trust in the government backs our money today.

Now the economists in the government thought that they could manage the boom and bust cycles in the business of the country by simply printing money when they thought it would help. In times of war this has been most convenient.

But what happens when the government prints money with no value backing it? The new money simply increases the money supply available without making any change in the combined value of goods and services available. The new money is first made available to some favored group. Before long the market balances the money supply with the goods and service available. The result is a decrease in the value of each dollar and a corresponding increase in prices.

In the modern business world there are many more factors which are reflected as a change in the relative values of the goods and service. One might expect fluctuations in the price of things in the market. Diluting the value of the dollar distorts the relation between dollars and the goods and services available in the market place. The relative changes in the markets become more difficult to project.

As an aside, the income from taxes in the United States does not cover the expenditures. To make up the difference, the government prints up the necessary amount, but without providing collateral. I have suggested that the government should just eliminate all taxes and just print the money it wants. That would evenly deflate the money people may be saving. If it is done slowly enough, people would not notice it in their daily business.

Printing money without a value backing it is like counterfeiting. The government has made that illegal for the citizens, business or banks. It reserves the right to counterfeit to itself. It may be said the there is enough property in the country to cover it. But that property certainly does not have a value which could be redeemed.

With this review, we can see one way to fix the problem. Simply back all money tokens with something of value which is available in the market place.

That would be a political problem.

Glen B. Haydon, M.D.
Route 2, Box 429
La Honda, CA 94020

HINDSIGHT is decicated to examining the past in a search for wisdom coping present. After all, hindsight is always 20/20. Extrapolations into the future are left to the reader.