My new book “Bitcoin Nation” was published on the 15th anniversary of the Bitcoin Whitepaper, October 31, 2023. You can read it below, one chapter per week. Or buy it here:

Without a central bank, chaos would reign. The economy would collapse, the value of money would fluctuate wildly, and the population would become impoverished. Only a state central bank can guarantee price stability.

Arguments against free banking frequently sound something like the above. Hardly any economist dares to contradict these statements. But just because something is generally accepted knowledge does not mean it is true. On the contrary, it is a well-known psychological phenomenon that we believe false information if we simply hear it often enough. Sometimes, even when we consciously recognize the information as false, it gradually becomes ingrained subconsciously.

One such piece of information is the myth of price stability. In most economic fairy tales, it consists of two components:

1. A growing economy needs more monetary units.

2. Falling prices lead to an economic collapse.

The first part should appear obviously false to you with the knowledge you’ve already gained, but since it is such a popular fallacy, I still want to test your patience and briefly address it here.

The thinking behind it is based on the voucher concept. In our beer tent example, tokens were destroyed after being redeemed, so a maximum circulation speed of one could be achieved. In such an economy, a new voucher would indeed have to be issued for each new good or service. Luckily, hardly any monetary system works this way. Instead of destroying money when paying for an existing good and creating it again when a new good is produced, we simply pass money on. I can pay you 1000 units of money for my shoes, and you can use the same 1000 units to satisfy your suppliers, who in turn use it to buy something for themselves, and so on.

The circulation speed in money systems can thus be significantly higher than one. In the example just mentioned, 1000 units of money would already have been used for a transaction volume of 3000 money units once your suppliers spent it. These 1000 units can represent any number of transactions. The only limiting factor is that individual transactions can have a maximum amount of 1000 money units. However, if these 1000 units are infinitely divisible, for example into micro-money, nano-money, etc., they could easily represent today’s world economy.

At the time of this writing, the dollar money supply, including derivatives, is estimated at over 1 quadrillion, a number with 15 zeros. With a world population of 8 billion – 9 zeros – depending on the chosen estimate of the money supply, there is a 6- to 7-digit amount of dollars per person. Far more than necessary, especially since the dollar is already divided into 100 cents and can be digitally divided further. Thus, even the largest transactions and transaction volumes can be conveniently represented in dollars.

So, why does the money supply continue to grow steadily?
The pretext for this is reason number two. A constant money supply would inevitably lead to an economic collapse like the Great Depression of 1929 in the USA and the subsequent economic crisis.

But is that true?

The argument put forth for this is based on a similar fallacy as the first point. While the first point neglected the fact that the circulation speed is not constant and not limited upwards, the other side of the Fisher equation is neglected here.

It is assumed that the price level must logically fall with an increasing supply of goods and a constant money supply. However, here too, the circulation speed can react in a regulatory manner. It doesn’t matter whether one shoemaker offers a pair of shoes for 1000 units of money or 1000 shoemakers offer 1000 pairs of shoes for 1000 units of money each. If the economy grows to the extent that one person who can afford and wants shoes becomes 1000 persons who can afford and want shoes, the price of shoes remains the same since the production costs have not changed. If shoemakers find enough buyers to avoid stronger price competition, why should they lower their prices?

The real reason for the price decline, which goes hand in hand with economic growth, is technical deflation. Due to innovation and automation, the costs of producing most products decrease over time. This also lowers prices, as innovative companies secure more market share by lowering their prices below the competition’s costs, pushing them out of the market. So if prices fall due to technical deflation, it is not deflation in the monetary sense. Market participants are simply adjusting to the new equilibrium price that has shifted downward due to increased efficiency. When discussing price stability, falling prices due to technical deflation are stable prices from an economic perspective.

It is this process of technical deflation that has fueled the enormous increase in prosperity during the Industrial Revolution. The more efficient the economy, the more goods a worker can buy for their wages, and the more goods a worker can produce in their working hours, which in turn allows for higher wages.

Demanding price stability here – defined as constant prices without excluding technical deflation – is in truth a forced redistribution. The increased efficiency should not benefit workers and consumers, but shareholders and financiers of companies. A truly cynical demand, as it usually comes from those who claim to fight for the workers and the masses.

But that’s not enough. Since not all goods and services are subject to technical deflation to the same extent, price stability, as defined by central banks today, is a contradiction in itself.

We already discussed how, based on personal preferences, a person may not perceive a price increase while it can be a massive price increase

for another. If a central entity defines a basket of goods to measure price stability, it pretends that these are the products that all citizens must consume and accepts that all citizens who consume products not included in the basket must pay higher prices to keep the prices in the basket constant.

This is not only a terrible paternalism but also a targeted redistribution from the bottom to the top.

One could argue that this is the necessary price to pay for a functioning economy, as without the 2% inflation target of central banks, the world economy would certainly collapse.

So we need to ask once again: 
Is that true?