Federal Reserve base money supply growth rate, 1959-2008.

Federal Reserve

Most theories of “inflation” revolve around some kind of money creation. In the past, this was commonly done with a printing press; thus “money printing.” Today, it’s mostly digital. But, as we described in our 2022 book Inflation: What It Is, Why It’s Bad, and How To Fix It (the updated paperback edition is the one you want), it is much better to understand “monetary inflation” as a decline in the value of a currency. This might be accompanied by an increase in the “money supply;” or it might not.

We can see that Bitcoin’s “money supply” has been very stable, growing at a fixed rate for years. This was part of the theory from which Bitcoin originated – a theory that we can now see was entirely wrong. Bitcoin’s value has been wildly volatile, both rising and falling dramatically, thus making it unusable as any practical monetary device. The theory was that stable supply corresponds to stable value. This has been around a long time, and was the basis of many erroneous claims by economist Milton Friedman in the 1960s.

This error arises due to the long history of governments “printing money” (or issuing debased coinage, with less gold or silver than before), basically as a means of government finance. Since finance requires money, some kind of money creation was the common result. A thousand coins would be received in tax payments, and they would be reminted as two thousand coins, each containing half as much silver. Later, in China and then the West, paper banknotes were printed instead. This naturally led to much disorder and harm, and so people naturally wanted it to stop.

But, in the twentieth century and continuing to today, direct government finance has not been the primary motivation or cause of "monetary inflation," at least among the better governments. Rather, macroeconomic management, or even just the simple unintentional chaos of floating fiat currencies, has led to declining currency values, even though the “money supply” remains basically unchanged, or perhaps is growing at a very reasonable rate as Milton Friedman suggested.

A decline in currency value is typically perceived as being somewhat comfortable. It is often compared to a drug – feels good, but it’s bad for you. A persistent rise in currency value is eventually perceived as harsh and recessionary. Debts become more burdensome, foreign exchange rates become unfavorable, and unemployment may rise. Thus, there is a natural “ratcheting effect” with floating fiat currencies. When floating fiat currencies decline significantly in value, even due to something like random chance (just try to explain why Bitcoin goes up and down), there is a natural tendency for central banks to avoid remediating this decline with some kind of rise. Maybe they will stop the decline, through some kind of “hawkish” currency-supportive stance or action, but the currency will never again recover its old value.

If we look at the history of the US dollar, we find that, during the 19th century, there was an enormous increase in the “money supply," but no change in the value, which was fixed to gold. The dollar’s value, in terms of gold, was about the same in 1790 and in 1930. But, the number of dollars – the “money supply” – increased by about 160 times between 1775 and 1900. A one-hundred-and-sixty-times increase in the “money supply,” but no change in the value. The result was no “monetary inflation.” Commodity prices were about the same, in the 1770s and the 1900s.

The first significant decline in dollar value was in 1933, in response to the Great Depression. The dollar’s value went from 1505 milligrams of gold (then notated as “$20.67 per troy oz.”), to 889 mg. ("$35/oz.") – a decline of 41%. But, the supply of money didn’t change. There was no “money printing.” The currency just fell in value, because the Roosevelt Administration wanted it to fall in value, and who was going to argue with them? Would you?

Although the Roosevelt Administration did run big deficits in the 1930s, this devaluation was not motivated by government financing needs. It was entirely a matter of “macroeconomic manipulation” of the sort that John Maynard Keynes would write about years later. We know that “monetary inflation” took place as a predictable effect of this decline in currency value, exactly as the Roosevelt advisors hoped would happen.

The most important episode of “monetary inflation” during the twentieth century was during the 1970s. This had a devastating effect worldwide. It began when the United States abandoned its longstanding policy of keeping the dollar’s value fixed to gold, at that time the same 889 milligrams ("$35/oz.") originally defined by Roosevelt. The currency’s value collapsed. In the 1980s, the value of the dollar had fallen by about 90% compared to gold, its benchmark of value going back to the 1790s. It took about $350 to buy an ounce of gold; or 89 milligrams per dollar. The price of oil went from about $3/barrel in the 1960s to $20/barrel in the 1980s and 1990s.

But, there wasn’t much “money creation” during the 1970s. Base money growth (the actual money creation by the Federal Reserve) was basically in the single digits throughout the decade, and not much different than the gold standard 1960s or the disinflationary 1980s.

Then again in the 2000s, the dollar’s value fell again, a lot, vs. gold. It was about 111 mg ("$280/oz.") in 2000, and around 26 mg ("$1200/oz.") in 2010-2019, roughly speaking. But again this was accompanied by some of the lowest money supply growth since 1960. The price of oil went from an average of about $20/barrel in the 1990s to $60-$100.

So we see that, in US history (and also the history of other countries which are similar), a decline in currency value without much money creation – leading to “monetary inflation” just as in 1933 when it was intentional -- is not only possible, but is maybe the most common situation.

In 2020, central banks went completely bonkers and basically created a whole lot of new money. It was basically “money printing." Not surprisingly, the value of currencies fell, and we had a round of “monetary inflation,” which we wrote a book about in 2022.

But today, we see that the value of the dollar, and other currencies, has again fallen a whole heck of a lot against gold, which has long served as a good measure of stable monetary value. There has been no “money printing” – the Federal Reserve’s base money supply is lower today than it was in 2021. It looks like another situation – like 1933, like 1974, like 2007 – where the currency’s value has fallen a lot, but without much money creation.

It wasn’t even really on purpose, as in 1933. The Federal Reserve has been pretty responsible, abandoning its longstanding “zero interest rate policy” of 2008-2021, and taking a somewhat “hawkish” stance. You could even say that it has been a sort of accident – as it was also in the 1970s. But, I think people can see that governments worldwide have done nothing to resolve their persistent debt and deficit problems, and that they are going to get in trouble with this sooner rather than later.

Who is going to argue with them? Would you?

Floating fiat currencies float – that is, their values go up and down, sometimes down, a lot, without some kind of intentional control by central banks. It’s not just Keynesian macroeconomic manipulation, it’s pure destructive chaos. Eventually, we will have to put an end to this nonsense, and return to a currency whose value (not quantity or supply) is fixed to some benchmark, which has always meant gold, and which has always worked very well, for the entirety of US history.

But, that is likely to come only after governments have devalued away their debt to dust. Because, they don’t seem to want to fix things beforehand.