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

684 Money, Bank Credit, and Economic CyclesThis first stage of the inflationary process may last for manyyears. While it lasts, the prices of many goods and servicesare not yet adjusted to the altered money relation. There arestill people in the country who have not yet become awareof the fact that they are confronted with a price revolutionwhich will finally result in a considerable rise of all prices,although the extent of this rise will not be the same in thevarious commodities and services. These people stillbelieve that prices one day will drop. Waiting for this day,they restrict their purchases and concomitantly increase theircash holdings. 122Not only are banks in a fractional-reserve free-bankingsystem able to unilaterally instigate credit expansion, but duringa prolonged period the resulting increase in the supply offiduciary media (which can always be placed in the marketthrough an opportune reduction in the interest rate) tends tocreate further demand. This increase in demand will last untilthe public loses some of its unrealistic optimism, begins to distrustthe economic “bonanza,” and foresees a widespread risein prices, followed by a crisis and profound economic recession.We have argued that the origin of monetary changes lieson the side of supply, that banks in a free-banking system areable to manipulate the money supply, and that the correspondingissuance of fiduciary media creates its own demand inthe short and medium term. If the above assertions are true,then Selgin is utterly mistaken in claiming that the supply offiduciary media merely adjusts to the demand for them.Indeed the demand for fiduciary media, at least during a considerableperiod of time, adjusts to the increased supplywhich banks create in the form of loans. 123122 Mises, Human Action, pp. 427–28; italics added.123 Curiously, like Keynesians and monetarists, modern free-bankingtheorists are obsessed with supposed, sudden, unilateral changes in thedemand for money. They fail to see that such changes tend to be endogenousand to occur throughout an economic cycle which is first triggeredby shifts in the supply of new money the banking system creates in theform of loans. The only other situations capable of producing a sudden