Money, Bank Credit, and Economic Cycles - The Ludwig von Mises ...

426 Money, Bank Credit, and Economic CyclesAt this point it should be evident that a policy of creditexpansion unbacked by real saving must inevitably set inmotion all of the processes leading to the eruption of the economiccrisis and recession, even when expansion coincideswith an increase in the system’s productivity and nominalprices of consumer goods and services do not rise. Indeed theissue is not the absolute changes in the general price level ofconsumer goods, but how these changes evolve in relative termswith respect to the prices of the intermediate products from thestages furthest from consumption and of the original means ofproduction. In fact in the 1929 crisis, the relative prices of consumergoods (which in nominal terms did not rise and evenfell slightly) escalated in comparison with the prices of capitalgoods (which plummeted in nominal terms). In addition theoverall income (and hence, profits) of the companies close to[t]he steady advance in the accumulation of new capital madetechnological improvement possible. Output per unit of inputwas increased and business filled the markets with increasingquantities of cheap goods.Mises explains that this phenomenon tends to partially counteract therise in prices which follows from an increase in credit expansion, andthat in certain situations the price of consumer goods may even fallinstead of rise. He concludes:As a rule the resultant of the clash of opposite forces was apreponderance of those producing the rise in prices. But therewere some exceptional instances too in which the upwardmovement of prices was only slight. The most remarkableexample was provided by the American boom of 1926–29.In any case Mises warns against policies of general price level stabilization,not only because they mask credit expansion during periods ofincreasing productivity, but also due to the theoretical error they contain:It is a popular fallacy to believe that perfect money should beneutral and endowed with unchanging purchasing power,and that the goal of monetary policy should be to realize thisperfect money. It is easy to understand this idea . . . againstthe still more popular postulates of the inflationists. But it isan excessive reaction, it is in itself confused and contradictory,and it has worked havoc because it was strengthened by aninveterate error inherent in the thought of many philosophersand economists. (Human Action, p. 418)