The Wrong Way and the Right Way to Fix the Fed

  • December 20, 2023
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Monetary Policy as Inflationism

Today all governments and central banks operate under the ideology of inflationism. The underlying principle of inflationism is that the quantity and purchasing power of money determined by the free market leads to deflation, recession, and unemployment in the economy. The inflationist ideology is therefore embedded in the very concept of monetary policy, which can be defined as an increase in the supply of money aimed at lowering the purchasing power below the level determined by market forces. In other words, the purpose of monetary policy is perpetual inflation of money and prices.

For the past sixty years there has been a great debate about monetary policy. Some economists argue that monetary policy should be left to the discretion of expert central bankers who are free to adjust their decisions and actions to actual or anticipated changes in the economic situation. Their opponents argue that monetary policy should be dictated by a legislated rule that constrains the actions of the money printers.

Lately even some Austrian-oriented economists have adopted the position that, under a fiat-money system, legislated monetary policy rules are superior to bureaucratic discretion in providing the proper timing and expansion of the money supply. They argue that policy rules resolve the problems that plague central bankers trying to decide when and how much to expand the money supply, such as a lack of knowledge, distorted incentives, and inconsistency in their own preferences. But their arguments miss the point. It is not the formula or procedure for creating money but the very fact of doing so that inevitably drives up prices and distorts market outcomes.

Furthermore, all monetary policy rules are arbitrary and inefficient because they do not take account of market prices. Under the gold standard, the quantity, purchasing power, and distribution of money are determined not by the discretion of bureaucrats or by artificial rules but by what Mises called “inexorable economic law.” On the free market, money production is carried out by entrepreneurs risking their own capital based on economic calculation using market prices. Unlike central bankers, their decisions in producing money are disciplined by the profit-and-loss mechanism, which tends to ensure that the supply of money is optimal at any point in time.

The debate over rules versus discretion is therefore meaningless. Both approaches aim at establishing a purchasing power of money that is lower than what would be established by the supply of and demand for money on the market. In fact, I believe that rules-based monetary policy is inferior to discretionary policy because not only does it not constrain inflation, but it also normalizes and institutionalizes it. This is precisely what the inflation-targeting rule followed by the Fed does and is intended to do. The same is true of other popular rules such as the Taylor rule, the nominal gross domestic product (GDP) targeting rule, and Milton Friedman’s original rule for an annual fixedpercentage increase in the money supply.

Assuming that we are stuck with the existing fiat-money system and will be for the foreseeable future, is there any way to curb the inflationary appetite of governments and their central banks? The answer is yes; and the solution does not lie in the technical jargon of monetary policy rules that merely offer alternative formulas for inflating the money supply. The answer lies in radically changing the ideology of bureaucratic decision makers and their political masters. As I will argue, the real and meaningful debate about money is not technical but ideological: inflationism versus anti-inflationism.

As Ludwig von Mises pointed out, any monetary system in which politics plays a decisive role will be operated according to the ideology of government officials subject to the pressure of public opinion. Take for example the old gold-exchange standard, in which gold coins did not circulate but a nation’s paper currency was convertible at a fixed exchange rate into a foreign currency redeemable in gold at a fixed price. This system first came into being in the late nineteenth century in European colonies such as the Dutch East Indies and India and around the turn of the century in the Philippines, Japan, and Mexico. Despite the enormous power to inflate that this system placed in the hands of the colonial administrators and central bankers, the system worked reasonably well because governments and the public were still imbued with the liberal ideology underlying the classical gold standard. However, proinflationist ideas began to take hold among economists and intellectuals and spread to policymakers and the public after World War I. This enabled politicians to use the gold exchange standard as an engine of inflation to destroy the classical gold standard.

As Mises wrote in 1949, “One must not exaggerate the role that the gold exchange standard played in the inflationary ventures of the last decades. The main factor was the proinflationary ideology. The gold exchange standard was merely a convenient vehicle for the realization of the inflationary plans.”

In the United States during the Great Depression, the proinflationist ideology grew so powerful and irresistible that it also swept away the classical gold standard in one fell swoop. On April 5, 1933, the Roosevelt administration violated the rule of the US Constitution and the laws of property by confiscating all gold coins, gold bullion, and gold certificates owned by the American public under criminal penalty of a $10,000 fine, ten years in prison, or both.

Ironically, there is reason for optimism in the sudden destruction of the gold standard, for it indicates the possibility of a rapid development of a radical anti-inflationist ideology among enough economists, policymakers, media commentators, and ordinary citizens to force the abandonment of inflationary monetary policy, even under a fiat-money regime. If such an ideological movement becomes strong enough, it may even prepare the way for a return to a market-based money such as gold.

Such an ideological about-face is not just idle speculation but has a precedent in recent history. The abrupt reversal of the inflationist ideology of the Roosevelt and Truman administrations occurred shortly after World War II and was one of the factors that caused Dwight D. Eisenhower to win the presidential election in 1952. With the removal of wartime price controls, the inflation rate spiked during the immediate postwar years, reaching 14.4 percent in 1947, falling back during the mild recession of 1949–50, and then shooting back up again in 1951. With the American public anxious about the first peacetime inflation of this magnitude, Eisenhower adopted a strong anti-inflationist stance, even though he ran on a platform of Modern Republicanism, pledging not to undo New Deal welfare state programs and to actively intervene to prevent another catastrophic depression.

Once he took office, Eisenhower proved that his anti-inflationism was not empty campaign rhetoric. As the mainstream economic historian Kenneth Weiher vividly described:

“The consensus within the [Eisenhower] White House and the Congress listed inflation as economic public enemy No. 1. Indeed the decade of the 1950s was marked by a veritable obsession with inflation despite that the inflation rate never reached more than 3.6% after the Korean War. . . . Suffice it to say that Eisenhower’s inflation fears were pandemic.”

Eisenhower’s aversion to inflation ran deep. McClenahan and Becker point out that as early as the late 1940s, Eisenhower had “come to see inflation as one of the most serious problems of the time [and] was concerned about the potential destructiveness of increasing prices on government programs, ordinary citizens, and business.” Eisenhower’s “pandemic fear” of inflation was reflected in two aspects of his administration: first, his choice of economic advisers and policymakers and, second, the policies of his administration during the two recessions that occurred during his second term in office.

Eisenhower’s Economic Advisers and Policymakers

In his first term, Eisenhower appointed Arthur F. Burns the chairman of the Council of Economic Advisers (CEA). Eisenhower developed a close relationship with Burns, who has been called “the economics schoolmaster for President Eisenhower and his Administration.” This is the same Arthur Burns who was to become the most notoriously inflationist chairman of the Federal Reserve of the twentieth century. However, at this point in his career Burns was an outspoken anti- Keynesian and staunch anti-inflationist. Burns’s views on inflation during this period are contained in a book of lectures published in 1957.

Burns argued in this book that the “vast expansion of aggregate demand,” or total spending, in the postwar years, especially on capital goods, “was facilitated by an unprecedented expansion of credit.” At the time, many economists were arguing that the increases in wages achieved by labor unions and the pent-up consumer demand unleashed by the end of wartime price controls were responsible for driving up prices, generating inflationary expectations, and creating a vicious wageprice spiral. However, Burns blamed inflationist policies for the situation, writing, “This cumulative and interacting process of rising wages, rising prices, and rising economic activity has gone on since the end of the war under the sheltering umbrella of the monetary and fiscal policies of government.” Burns was very concerned with the “threat of gradual or creeping inflation.” In contrast to many economists then promoting creeping inflation as a means of stabilizing the economy and increasing economic growth, Burns wanted to “stop the updrift of the price level” dead in its tracks. He calculated that even an inflation rate of 1 percent per year would cut the purchasing power of a dollar by over 30 percent in twenty-five years, while an annual inflation rate of 2 percent would diminish the purchasing power of the dollar by nearly 40 percent over the same period.

Burns argued that “creeping inflation has become a chronic feature of recent history and growing threat to the welfare of millions of people.” This was because the political authorities treated episodes of recession as a much more serious problem than chronic inflation: “It is difficult to avoid the conclusion that government is not yet prepared to act as decisively to check inflation as it is to check recession. . . . [T]he attitude is apt to be that, while everything that is at all reasonable must be done to curb inflation, restrictive policies must not be applied on so vigorous a scale as to take any appreciable chance of bringing on or hastening a recession.”

Burns looked forward to an aroused public “articulate enough to wring from Congress a declaration of policy that would have a moral force such as the Employment Act exercises with regard to unemployment.” In effect, Burns was suggesting that Congress pass a law that charges the federal government with achieving a 0 percent inflation rate.

William McChesney Martin served as chairman of the Federal Reserve for almost twenty years, and the first half of his tenure encompassed the two Eisenhower administrations. Although initially appointed by President Harry Truman, he was reappointed twice by Eisenhower. With extensive experience on Wall Street, Martin viewed inflation as igniting speculative booms in asset prices that inevitably ended in crashes that could cause a severe economic recession. McClenahan and Becker summed up Martin’s views on monetary policy as follows: “He was a hawk on inflation because it represented to him so much else that might be wrong in the economy.” Martin’s and Burns’s “economic views were consonant” and Martin’s “counsel [was] valued highly” by Eisenhower.

Burns left his post as chairman of the CEA after the election of 1956 to return to academia, and Eisenhower replaced him with Raymond J. Saulnier, an existing member of the council. Saulnier had regular, in-depth meetings with the president and “saw himself as part of a small team of advisers to the president.” Saulnier was a well-regarded monetary and financial theorist who had published a probing work on the thought of the leading business-cycle theorists of the 1930s, including F.A. Hayek and John Maynard Keynes.

In a series of lectures published shortly after he left the Eisenhower administration, Saulnier expressed attitudes toward inflation very similar to those of Burns. He argued that economic policy should be governed by “responsible individualism,” which he called “our paramount national purpose” and defined broadly as providing “the greatest possible opportunity for self-directed personal development and fulfillment consistent with the rights of others.” For Saulnier, this national purpose is best achieved “in a society in which economic activity is carried out through the institutions of competitive, market-oriented enterprise, based on the institution of private property.” Thus, the proper strategy is to design economic policies that are consistent with and do not undermine the individualist, private-property, free-market institutional framework.

Saulnier elaborated several “imperatives of economic policy,” the most important of which was anti-inflationism: “No other policy will work. It is not possible for government policy to favor inflation. . . . [T]he reaction to an explicitly inflationary strategy of policy can spell nothing but disruption and a setback for the economy’s growth. . . . Government must show, through visible evidences of policy, that it will take all reasonable steps in its power to prevent inflation.”

The necessity for the government to demonstrate a commitment to anti-inflationism gives rise to Saulnier’s second imperative of economic policy, which is an “essentially conservative” budget policy, featuring regular budget surpluses. As Saulnier argued: “If there is firm intent in government to resist inflationary tendencies, it will be evident in the budget, as will the absence of such an intent.”

Saulnier’s strategy of economic policy was based on his complete rejection of the Keynesian foundation of the proinflationist position: that full employment is incompatible with price stability. It is precisely because sustainable growth and price stability are “essentially complementary, rather than competitive . . . that a pro-inflationist position in economic policy matters is simply untenable. An inflationist policy is simply not a viable policy.” For this reason, Saulnier was interested in amending the Employment Act of 1946 to “make a price stability goal explicit.”

Eisenhower’s Recession Policies

The economy suffered three recessions during Eisenhower’s term in office. The ideology of anti-inflationism that pervaded the Eisenhower administration was clearly demonstrated in its pronouncements and policies especially during the last two recessions.

Both sympathetic and critical commentators recognize that the president’s anti-inflationist attitudes substantially hardened during his second term. Eisenhower set the tone for the economic policy of his second term with a ringing declaration that he made in his State of the Union address of 1957: “In a prosperous period, the principal threat to the functioning of a free enterprise system is inflation.”

McClenahan and Becker pointed out that early in his second term, the president “worried that his efforts to restrain spending were insufficient and concluded that his energy would have to be even more concentrated on preventing inflation than before. . . . To tame inflation, reduce federal debt, and balance the budget . . . Eisenhower concluded that he had to harden his positions on military and domestic spending.”

His growing fear of inflation even caused Eisenhower to abandon his cherished goal of developing modern Republicanism, which called for moderate increases in domestic spending for education, public works, and welfare state programs inherited from the New Deal. It also motivated him to rein in the Pentagon’s bloated and ever-growing defense budget. He demanded that the navy cut its program for building nuclear aircraft carriers by half and wanted to limit the acquisition of new missiles.

Most important, Eisenhower flatly rejected the notion of countercyclical deficit spending that was being urged upon him by political friends and enemies alike during the two recessions that occurred during his second term.

It is especially noteworthy that Mises recognized the transition from the proinflationary policies and rhetoric of Roosevelt and Truman to the antiinflationism of the Eisenhower administration not merely as a change in policy but as a radical change in ideology. In an article published in 1950, Mises wrote: “The [Truman] administration is firmly committed to a policy which is bound to lower more and more the purchasing power of the dollar, it has proclaimed unbalanced budgets and deficit spending as the first principle of public finance, as a new way of life. While hypocritically pretending to fight inflation, it has elevated boundless credit expansion and recklessly increasing the amount of money in circulation to the dignity of a central postulate of popular government and economic democracy.”

But in 1958, Mises proclaimed, “It is never too late for a nation to realize that inflation cannot be considered as a way of life and that it is imperative to return to sound monetary policies. In recognition of these facts the Administration and the Federal Reserve Authorities some time ago discontinued the policy of progressive credit expansion.”

McClenahan and Becker confirm that Eisenhower’s growing aversion to inflation during the latter half of the 1950s shaped his administration’s recession policy: “Worry about inflation guided Eisenhower’s response to the two recessions (in 1957–58 and 1960–61) during the second administration. Concern about increasing levels of spending and budget deficits shaped the White House’s cautious approach to combating the downturns.”

The US economy slipped into recession in mid-1957, causing the unemployment rate to spike from 4.3 percent to a high of 7.5 percent in April 1958 and averaging 6.8 percent for 1958. Although many economists called for a tax cut in 1958, the administration resisted out of fear of creating a deficit. Eisenhower also rejected two proposals for public works projects drawn up by his own CEA staff. He trusted that the operation of market processes would cure the recession faster than initiating new public works projects. At a presidential news conference during the depth of the recession, Eisenhower flatly stated: “I don’t believe that for one second, with minor exceptions, that any additional public works to be decided upon, brought into the appropriations picture and finally built . . . will do anything for this present recession.”

Mainstream, revisionist, and left-wing economic historians agree in retrospect that the economy under the Eisenhower administration performed very well in terms of price inflation, recessions, and long-term growth. According to Weiher, “it is hard to find much fault with the economy’s performance in the 1950s, especially when we view it from the perspective of the 1990s. By virtually every current standard, the economy’s performance was satisfactory to outstanding. . . . The economy did not stray far from a full-employment / stable price state. The private economy was fundamentally sound and required little intervention.”

Their in-depth revisionist study of the economic ideology and policy of the Eisenhower administration led McClenahan and Becker to conclude: “During his two terms, Eisenhower’s policies led to dramatic declines in defense spending, increased fiscal restraint, and generally low inflation. . . . Eisenhower appears much more informed, determined, and indeed visionary than he was given credit for in the 1950s and immediately thereafter. His record in economic policy compares favorably to that of those who occupied the White House since 1961. . . . The president had made a strong case for the dangers of persistent inflation, a new problem that many professional economists, politicians, businessmen, and the public had paid little attention to before.”

Even left-wing economic historian Anthony Campagna grudgingly conceded Eisenhower’s successes: “In retrospect the recessions turned out to be mild ones but not because of enlightened economic policies. Thus the administration was lucky in that its policies do not appear to have hampered the recoveries, and it could claim credit for not overreacting. . . . Concern for inflation, balanced budgets and balances of payments all converged to give the administration an excuse for doing what it wanted to do anyway—as little as possible. . . . How successful was it in this endeavor? Judging from the lack of pressure to change them, the administration’s economic policies must be judged at least partially successful.”


It is not my purpose to justify the macroeconomic policies of the Eisenhower administration or to argue that Austrian economists commend or recommend them. My intent is simply to demonstrate with a historical case study Mises’s point that inflationism is fundamentally an ideology and can only be defeated by the antithetical ideology of antiinflationism. Monetary policy rules that specify the conditions under which the money supply should be increased—and the purchasing power of money continually reduced—institutionalize the inflationist ideology and, therefore, promote rather than prevent cyclical fluctuations. Inflation will not be reversed until a change in public opinion brings forth politicians who viscerally as well as intellectually embrace the antiinflationist ideology. And public opinion will not change until the public pays heed to the message continually beamed out by the Mises Institute, the only consistently anti-inflationist educational organization in today’s world.

That said: I Like Ike.