A fundamental rule in the engagement of rational argument is that if your basic premise is wrong, then all the specifics that follow in your chain of reasoning are also flawed. In fact, they are rather worthless. To build a case with an array of seemingly persuasive points is meaningless if one's basic starting point is false. This is what Ayn Rand meant when she constantly exhorted her readers to always "check their basic premises."

Another way to explain this issue is with the computer acronym, GIGO – Garbage in, garbage out! If you start with falsity, you will end with it also no matter how many facts, figures, references, and supporting insights you marshal in your defense. Far too many pundits today fall victim to this form of sophistry. They start with a false fundamental premise and load up their treatise with lots of convoluted argumentation thinking that they are overwhelming their adversaries with the extent of their convolution, not understanding that convolution cannot pinch hit for a flawed basic premise.

Robert Blumen's recent attack on Antal Fekete and me, "Real Bills, Phony Wealth," is a case in point. Blumen starts with the erroneous conception that real bills are credit instruments, when they are actually clearing instruments. There is a world of difference, and it behooves us all to learn this difference. Credit instruments will always lead to price inflation when issued in excess of the growth of goods and services being produced throughout the economy. This is what modern day banking is embroiled in. But clearing instruments (i.e., real bills) will never lead to inflation because they can never be issued in excess of the goods that they come into being in response to. They are not loans. They are not credit in the conventional sense.

If one insists on calling them "credit" instruments, then he needs to clarify what kind of credit instrument. They are SELF-LIQUIDATING forms of credit. This makes them non-inflationary. In other words, they are a specific, benign form of credit. But if clarity and truth are to be our goals, we should really define them as what they are, and that is as clearing instruments.

They are temporary bills of exchange that appear simultaneously with goods that are being produced to aid such goods in further transportation along the production / consumption chain. These bills of exchange then go out of existence once the goods have CLEARED the market. Thus, their appellation of "clearing instruments." Those who persist in denigrating them indiscriminately as credit instruments are in error.

This then is where the major fault of Blumen's attack lies. He has started with a false basic premise – that real bills are nothing more than conventional credit instruments, and therefore automatically inflationary. Thus his and the Mises Institute's animosity toward them. But because his basic premise is false, his long train of argumentative insights that follows is also false. As long as he and his cohorts believe in this fallacy of real bills being in the same category as conventional credit instruments, then they will continue to operate on the assumption that real bills are something that only cranks would advocate.

Unfortunately, there is a mountain of misconceptions and dogma floating around the intellectual world today regarding "real bills" that leads one to embrace such a fallacy. But if one can muster the wherewithal to get through the terrible misunderstanding that has been handed down over the past century regarding real bills, a powerful light enters his mind. He sees that (my god!) all the economists of the past century (even the revered Ludwig von Mises himself) have misconstrued the true nature of these marvelous "clearing instruments."

Is this possible? Could Mises have made such a mistake? Could he, as Antal Fekete maintains, been wrong in his theory of interest back in 1912? I quote from Dr. Fekete's forthcoming article, "Detractors of Adam Smith's Real Bills Doctrine":

"Although Mises was fully cognizant with the bill of exchange, he failed to come to grips with the idea that there was no credit expansion involved in its spontaneous circulation. Bills emerged together with the emergence of marketable merchandise, and were extinguished when the latter was removed from the market by the consumer. At no point did the bill increase the amount of purchasing media relative to the available supply of merchandise. The bill is an instrument of clearing or, if you will, self-liquidating credit. It is one of the marvelous creations of the human genius, fully commensurate in importance to the evolution of indirect exchange, arising spontaneously and opening up new avenues to human progress. Unfortunately, Mises was not interested in the concepts of clearing and self-liquidating credit. He dismissed them as paraphernalia belonging to credit expansion. In this way Mises missed his chance to make his theory of money and credit withstand the ravages of times."

Fekete goes on in his article to point out that Mises' "error of omission led to several errors of commission." For example, Mises viewed the discount rate only as a "subset of the rate of interest" rather than as a totally different phenomenon of the market governed by "diametrically opposing, economic forces." Mises did not see that the "rate of interest is governed by the propensity to save and, by contrast, the discount rate is governed by the propensity to consume." He thus, "spurned the idea that there was a theory of an independent discount rate. In consequence his theory of interest is flawed."

If one is to grasp the elemental truth in this matter, then he has a paramount duty to uphold before he engages in any attempt to denigrate real bills. His duty is to first read Antal Fekete's lecture series, Monetary Economics 101. This is the barest minimum commitment that one would expect of any scholar if he is genuinely in quest of the truth instead of simply marshalling support for his previous convictions.

To do otherwise is to live in the dark. To rely on the past century's conventional punditry and their understanding of real bills is akin to relying on the conventional doctors of the 1870s as possessing a correct theory of health and disease. This we know they did not possess, of course, because conventional doctors of that era were operating from a flawed basic premise. They thought disease originated from "vicious humors" and other fantasies. They subscribed to putting leeches on the skin to bleed the patient in their treatment of his ailments. They did not understand the real nature of health and disease – that there are microbes out there that cause infection. But all intellects of that day subscribed to conventional medicine's flawed basic premise and went along with bloodletting as a "credible" means of treatment. It took Louis Pasteur to come along and challenge this basic premise as dangerously false before truth could be perceived.

Subscribing to a Flawed Premise

Our monetary authorities today (from Milton Friedman, to Alan Greenspan, to many of the followers of Ludwig von Mises and Murray Rothbard) are also subscribing to a flawed basic premise! That premise is that real bills are nothing more than conventional CREDIT instruments, when they are really very unique CLEARING instruments. They spontaneously spring up in a free-market economy to facilitate trade. They do not come about through banking measures. They cannot, by their very nature, exceed the goods that they appear in response to. And they always must expire as the goods are cleared from producer, to distributor, to retailer, to consumer. Thus, they cannot be inflationary!  

How do we arrive at this conclusion with certainty? The first step is to properly define and accept the basic source of price inflation in an economy, which is the inflating of money and credit at a faster rate than the production of goods and services. This should then tell any sane and rational person that real bills cannot be inflationary because they can never grow faster than the rate of goods is growing. They emerge between market participants only when goods emerge, and they go out of existence when such goods are cleared from producers to consumers. Thus to continually maintain that they are inflationary is the height of irrationality.

The second step in grasping the "non-inflationary" nature of real bills would be to read Dr. Fekete's Monetary Economics 101 lecture series. No one with any semblance of acumen can read this series and not come away with a different point of view on the issue of real bills and their extreme importance to the efficacy of gold as money. But how in the world can one write a legitimate refutation of someone's fundamental ideas if he has not even read the major works that lay out those ideas? Could a reviewer legitimately review a book he has not read? Certainly not.

In this case, has Robert Blumen read Dr. Fekete's "Monetary Economics 101" series of lectures? Highly doubtful, because if he had, he would not be making the claim that real bills are credit instruments. He would have grasped the difference between credit and clearing. What I fear Blumen has done is to read only my article, "The Future of Gold As Money," (which is merely an Introduction to Fekete's theoretical lecture series), and then he has resorted to all the past century's egregious economic misconceptions about real bills to form his answer. The scholarly thing to do, however, would have been to wade into Fekete's revolutionary works before he decides to attack him on the issues at stake. No one can understand real bills without at least this minimum effort.

Paying with Goods

Blumen maintains throughout his article that, "only goods fund the production of goods, not credit." And in the words of Hulsmann, "One cannot pay with liquidity; one can only pay with goods." This is certainly true if we are to avoid the ravages of price inflation and a boom / bust economy. But this is precisely what real bills do in performing their clearing function. They allow manufacturers, wholesalers, retailers, etc. to "pay with goods" because the real bills always represent goods that are in urgent demand and already in the production to consumption chain. This is not "paying with liquidity." This is not creating credit out of thin air.

Blumen and the real bill detractors have their causes and effects confused here. The spontaneous emergence of real bills is not an attempt to cause production. They are ingenious tools that the FREE-market creates so as to clear production that has already been caused. We must keep in mind that, unlike with the issuance of conventional credit by a banker to a businessman, the production of goods and the writing of real bills are created simultaneously. The goods come into being along with the real bills and many times in advance of the real bill. This is why it is wrong to define them indiscriminately as CREDIT instruments and equate them with all the loan forms (both legitimate and bogus) that bankers make use of. Real bills are CLEARING instruments that emerge in direct proportion to the goods that are already in the pipeline. So real bill users are not attempting to "pay with liquidity." They are in essence "paying with goods."

Real Bill Detractors Are Today's Bloodletters

Blindly adhering to the 19th century bloodletters' misconceptions about health and disease in answer to Louis Pasteur's challenge of the prevailing medical wisdom was obviously wrong. And likewise, blindly adhering to the 20th century monetarists' misconceptions about gold and real bills in answer to Antal Fekete's challenge of today's prevailing monetary wisdom is wrong. Just as the bloodletters subscribed to a FALSE PREMISE regarding the maintenance of health and its requisite of vaccines, so also do monetarists and numerous Austrians today subscribe to a false premise regarding the efficacy of gold and its requisite of real bills.

This argument cannot be waged rationally by those who cling to a false premise and ignore the true sources of price inflation. The monetary bloodletters of today have built their case upon waves of prejudice that have been handed down regarding their use by thinkers over the past  century. When today's real bill detractors doggedly insist that such instruments are inflationary, they are obviously not using any logical analysis of what brings about price inflation (i.e., money and credit creation exceeding goods and services creation). They are merely ritualistically mouthing the mistakes and prejudices of their predecessors.

Sadly, such mistakes cannot be overcome by those who refuse to read the works of the monetary Pasteur in their midst. As long as monetarists and Misesians eschew Fekete's lecture series about real bills, we have no workable starting point with which to conduct a meaningful debate.

Just as Pasteur could not meaningfully engage the bloodletters of his day in debate (for they were dogmatically locked into the paradigm that they had intellectually and emotionally subscribed to for decades), it will also be impossible to meaningfully engage many of today's monetarists and Misesians in debate. This is regrettably the nature of humans. Old prejudices die hard. Human egos get in the way of objectively seeking the truth. Hopefully, however, there remains a core sector of intellects that still adheres to the creed of science: "Never set out to prove anything. Sit yourself down in front of the facts like a little child and let those facts take you where they will."

I'm sure Robert Blumen is an honorable man and a fine intellect. After all, he subscribes to Austrian economics and strongly espouses the works of Ludwig von Mises as do both Dr. Fekete and I. But Antal and I also subscribe to the truth that no single man has ever obtained, nor ever will obtain, a corner on the truth. Not even the giant, Mises, himself. All thinkers must be read for their wisdom and dismissed for their folly. I am afraid that too many of Mises' followers today have fallen into the trap that the cult followers of Ayn Rand fell into back in the 1960s. They refuse to believe their hero could possibly have made a mistake. If they have fallen into such a trap, then they will naturally be driven into a dogmatic approach regarding the great issues at stake.

Mises was my hero also. But to make a human into a god is to sabotage the truth before we can ever get to first base. Ludwig von Mises was not a god. He was a human – a brilliant genius of a human, but nevertheless still very human. And he made some mistakes regarding his theory of interest and credit. These mistakes must now be corrected. Dr. Antal Fekete is attempting to do so, but as is usually the case in matters like these, he is running up against a rash of animosity from the followers of the man he is attempting to correct.

History will be the final judge on all of this, but I can assure the reader that in matters of gold and real bills, that judgment will come down in favor of Antal Fekete's conception of real bills as compared to the misguided monetary bloodletters of today. Real bills are not credit instruments; they are clearing instruments. And they are not inflationary; they are self-liquidating.

As stated previously, the logic inherent in the very definition of price inflation proves to us that real bills cannot be inflationary because they cannot grow faster than the growth of the goods that they represent. How one can repeatedly ignore this irrefutable fact and still try to claim that real bills are inflationary is beyond me.

There is another form of proof on this issue also. Let's take the example of the 19th century. If, as Blumen maintains, real bills are inflationary, why then did consumer and wholesale prices lower considerably during the 19th century – a period when real bills were quite widely used? From 1800 to 1913, there was a 40% decrease in an index of consumer prices from 51 to 30, and a 23% decrease in a composite of wholesale prices from 133 to 102.  [Historical Statistics of the United States, Colonial Times to 1970, U.S. Department of Commerce, 1975, p. 211. Also Warren and Pearson, Gold and Prices, Wiley & Sons, 1935, pp. 19-20.]

Real bills were pervasively employed throughout the 19th century and as Fekete points out, they were the primary instrument for the massive amount of world trade being created on a relatively small pool of gold and gold coins existent at the time. Yet prices came down in the 19th century amidst this widespread usage of real bills. So obviously they were not inflationary then, and they would not be inflationary if they were to be revived tomorrow.

Lift-off of the Industrial Revolution

In light of this, what are we to make of those detractors who declare advocates of real bills to be monetary cranks? Not much, I would say. Until such detractors (whether they be Friedmanites or Misesians) can come to grips with their prejudices regarding this issue, they will continue to hold back the acceptance of gold as the true money for a free society.

As I wrote previously in "The Future of Gold As Money," a 100% gold and silver monetary system would, of course, work. But it would do so in a primitive manner, which is the way gold and silver worked from ancient times up until the flowering of the Renaissance in the 14th and 15th centuries. It was then that  gold / silver money systems throughout the West began to make use of bills of exchange. This was one of the primary reasons why Western civilization was able to later launch what historian Paul Johnson describes as the great "lift-off of the Industrial Revolution."

Dr. Fekete shows us that real bills remained in use throughout the world until 1914 when they were sabotaged by the creators of the Fed precisely because they could not be inflated. He is now planning a future treatise to explain how and why this sabotage took place, which should prove to be an extraordinary glimpse into the monetary machinations of the 20th century.

It is important to understand what so many of our intellectuals are missing here. And that is that real bills helped to launch civilization out of the Middle Ages because there was a need for a clearing mechanism to complement the use of pure gold and silver that prevailed at that time. Such bills created a "supply of temporary liquidity" because it was necessary to move goods from production to consumption more abundantly and sophisticatedly.

So would a pure 100% gold dollar work in a modern economy as Blumen and his cohorts at the Mises Institute insist? Both logic and history demonstrate NO rather conclusively. Any gold monetary system requires wiggle room to handle the fluctuations and innovations of an expanding economy if that economy is to rise above the more primitive medieval levels.

A highly sophisticated, innovative economy needs a gold monetary system with short-term, self-liquidating monetary elasticity. It needs room to breathe, so to speak, to expand and contract in response to the contingencies of growth, which is what real bills provide for it.

One of the things that has always intrigued me is that though the Keynesians are grievously in error about the use of fiat money, their system of credit creation does advance mankind beyond the mud huts and ox carts of the Middle Ages. Its problem is that it advances our economy in a highly unstable way that brings on severe booms and busts. In addition, it ultimately depresses "real wage" growth for the workingman. In other words, it creates too much liquidity because it possesses no means to contain the issuance of credit by the banking system other than bankers and bureaucrats own self-discipline and personal integrity, which as history tells us is a disastrously ineffective means of control.

The Middle Ages, based upon pure 100% gold and silver monetary systems, did not have the problems of modern banking and fiat money with which to contend. They were not subject to the terrible boom and bust instability that we are subject to today. They enjoyed relative stability; but the downside was that they did not possess the capacity for highly expansive commerce and capital formation that is needed to build extensive wealth for all citizens of a society.

The question then is this: Is there a mean between these two extremes of defective liquidity of the Middle Ages with its 100% gold system, and excessive liquidity of the Keynesian modern day with its unbridled credit expansion? Yes, there certainly is. It is the 18th and 19th century monetary system of gold and silver used in the West – accompanied by the use of real bills as clearing instruments to give the economies of this era adequate means to form extensive capital and productivity without bringing on the ravages of price inflation. This monetary golden mean is what Antal Fekete is trying to explain to the modern world.

If we in the 21st century hope to defeat the Keynesian inflationists and restore constitutional money again, then we are going to have to properly understand the role that gold and silver must play. The detractors of real bills have yet to come to such a proper understanding. But perhaps this will change in the future, and all the factions of the freedom movement can then unite to restore the highest, truest forms of money there are – gold and silver – in the only way they can function effectively. America, and consequently the rest of humanity, would be most grateful beneficiaries of such unity and rationality.

© 2005  Nelson Hultberg
Americans for a Free Republic
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