In reviewing presentations by the late Milton Friedman, we see that he faulted the Fed for its failure to reverse deflation as the major cause for the Great Depression of the 1930s. My only bone to pick with Friedman is the use of this word for an inadequate volume of currency. [Anyone familiar with my writings on inflation already know that I’m a big fan of Friedman.]
While inflating the money supply increases its volume AND devalues it, I fail to see that shrinking it—so-called deflation—will revalue it. I admit that I may be missing something in this regard, but it escapes me.
For example, let’s consider a closed market of 1,000 producers and consumers. If one of us prints a significant quantity of empty money and surreptitiously distributes (spends) it among the rest of the market, the entire currency is devalued. But if that person steals the same amount of whole money and takes it home and burns it, the rest of the currency is unaffected. Correct?
If I’m correct, we do need a word—a different word from deflation—for what Friedman and other economists describe. And this brings us back to the requirement that for a consistent economics framework, we are dependent on the consistency of the linguistics. Admittedly, I do not have a word for this. I only underscore that any term that incorporates … flation is a poor choice.
I believe that economics is closer to being a philosophy than being the science it is held out to be. In this regard, I recently found the following quote by Nobel Prize winning economist, Friedrich Hayek, taken from his lecture “The Pretense of Knowledge” which can be found in the book “The Essential: F. A. Hayek” (free download):
On the other hand, the economists are at this moment called upon to say how to extricate the free world from the serious threat of accelerating inflation which, it must be admitted, has been brought about by policies which the majority of economists recommended and even urged governments to pursue. We have indeed at the moment little cause for pride: as a profession we have made a mess of things.
It seems to me that this failure of the economists to guide policy more successfully is closely connected with their propensity to imitate as closely as possible the procedures of the brilliantly successful physical sciences—an attempt which in our field may lead to outright error. It is an approach which has come to be described as the “scientistic” attitude—an attitude which, as I defined it some thirty years ago, “is decidedly unscientific in the true sense of the word, since it involves a mechanical and uncritical application of habits of thought to fields different from those in which they have been formed.” I want today to begin by explaining how some of the gravest errors of recent economic policy are a direct consequence of this scientistic error.