The Money Fallacies of Rothbard
by Nelson Hultberg
September 15, 2005
Because the followers of the late scholar, Murray Rothbard, at the
Mises Institute espouse a 100% gold money system, they naturally
are in vehement opposition to the Real Bills Doctrine of Adam Smith
and the works of Dr. Antal Fekete. This is because the Real Bills
Doctrine allows credit to be expanded in excess of gold reserves
so as to give flexibility to our monetary system.
Therefore a very spirited debate has sprung up over the past several
months on whether Rothbard's 100% gold system is workable or not.
It is this writer's belief that it is not workable. In fact, it is
my belief that in trying to inform Americans about how to fight for
freedom, the Rothbardians are tragically misdirecting them with serious
misunderstandings about history, real bills, credit, and what is
necessary to restore gold as money. This essay will put forth some
of the reasons why.
Lip Service to Real Bills
In his recent two articles on the Real Bills Doctrine, Fool's
Gold Redux and Clearing
the Air, Sean Corrigan (who is a follower of Rothbard) attempts
to give his readers the impression that he actually has no basic
quarrel with real bills as clearing instruments. On the
contrary, he does indeed have a quarrel with them and has merely
paid lip service to them in his latest articles so as to appear
to be a free-marketeer on this issue to his readers. But one cannot
be a free-market advocate if one refuses to allow traders and bankers
to engage in fully disclosed, non-fraudulent trade among themselves.
As we will see, Rothbard's 100% gold system requires just such
a refusal in order to be implemented.
The problem lies in the way that Corrigan and the Rothbardians are
willing to allow for real bills to circulate. I quote Corrigan in
his article, "Clearing the Air":
"But, even if the 'needs of trade' mean we come to exchange ever
more IOUs among one another -- in the form of [real] bills...the
only important thing is that these must NOT be allowed to form
a "money" themselves: a transformation which they are only likely
to achieve if we accord property-infringing privileges on bankers." [Emphasis
This endorsement of real bills is not an endorsement of them at
all. The essence of real bills is that they do indeed become "money." In
this way, they give elasticity to the gold system and allow society's
gold reserves in its savings pool to be directed toward funding fixed
capital productivity. By becoming money (and then being discounted
through the banks), real bills allow for consumer goods to be distributed
and retailed over a 90 day period that would not otherwise come into
being and reach the consumer. If we are to rely on the way that Corrigan
and the Rothbardians wish to finance such distribution and consumption,
we would have to rely solely on the savings pool (i.e., the gold
and silver reserves) of society. This would drastically lower the
amount of savings that would be available for financing fixed capital,
and as a result drastically lower our standard of living.
Moreover, Corrigan is saying we need to prohibit real bills from
becoming money because their acquiring of monetary status is based
upon the government conveying "property-infringing
privileges on bankers." This is not true at all! Their origin as
money has nothing to do with banks or privileges. Real bills
spontaneously arise from the free-market! They become money
the minute they are written among traders. And they merely continue
as money when they are discounted by bankers via issuance of bank
notes so as to allow the real bills to circulate more readily. But
what Corrigan is grossly missing is that the discounting of real
bills by banks is NOT fraudulent. Why? Because it is fully disclosed between
banker and bill holder, and thus it requires no special privileges
from government regarding contractual law. Therefore, it complies
with the requisites of a legitimate free-market banking system. Traders
openly and voluntarily write promissory notes among themselves, and
then they discount these notes through other traders openly and voluntarily.
To allow the state to prohibit such free trade marks one as a "government
interventionist," not a free trader as Corrigan wishes to convey.
Is Discounting Dangerous?
Is such discounting dangerous, however, as the Rothbardians maintain?
No it is not because the new money created by the bank, in discounting
the real bill, is matched by the goods that are simultaneously coming
into existence. And the real bill is redeemed at the end of 90 days
with the gold coins of the consumer; thus it cannot be rolled over
irresponsibly. Here lies the crux of this entire issue. It is the
primary point that hangs up the Rothbardians. And this is why we
have to define inflation properly, or we fall victim to the fallacy
that real bills will bring about the danger of price inflation.
Rothbard defines inflation as, "any increase in the economy's supply
of money not consisting of an increase in the stock of the money-metal." [What
Has government Done to Our Money?, p.23] Corrigan defines inflation
in his article, "Clearing the Air," as:
"An increase in the quantity of money above and beyond people's
desire to hold it, rather than spend it: gold and silver do not enter
into the discussion, save as a functional means to make inflation
as difficult as possible to promote, to the benefit of all."
Corrigan has objected to the claim in my latest
article that he subscribes to Rothbard's rigid definition of
inflation. But whatever differences he may have with the Rothbardian
concept are irrelevant because in all real world examples, the
policies he espouses are structured around complementing Rothbard's
definition. In the quote above (and in another below), Corrigan
insists that all forms of credit (conventional and clearing) must
be backed 100% by gold. Thus what's important is that Corrigan
agrees with Rothbard's rigid monetary policy that stems from his
view of inflation.
What Does History Tell Us?
Very few economists (including Antal Fekete) agree with this rigidity.
And most importantly, history does not bear out any need for such
rigidity. For example, the entire 19th century was a period of gentle price
deflation (about ¼ % annually), yet money and credit were
not tied rigidly to gold and silver reserves. And real bills flourished
This irrefutable fact is, of course, conveniently ignored by Corrigan
and the Rothbardians. Why? Because as I pointed out in my previous
article, they have an agenda. And that agenda is to convince
mankind that we must have a 100% gold monetary system if we are to
avoid the dangers of price inflation and the return of John Law.
This was Rothbard's fervent desire.
Once an agenda becomes such a fervent desire, however, it invariably
induces in its proponent the susceptibility to try and bend the facts
of reality (and history) to fit the agenda. This, I contend, is what
happened to Rothbard, and this susceptibility now afflicts his followers.
This is why they blind themselves to the fact that during the 19th
century banking era both conventional credit and clearing credit
(i.e., real bills) exceeded gold and silver reserves. Yet we
had a gently lowering price level throughout the era!
For example, 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.]
Of course, Rothbardians are going to say that we still had price
inflation in the 19th century because "prices were distorted from
their true market level" and thus were higher than they would have
been had we been on a 100% gold system. In other words, we could
have achieved much more than the gentle deflation that occurred during
the era. Yes, this is true. If we had been on a pure 100% gold standard,
we would have had far more deflation. And it would have been accompanied
by a considerably lower standard of living because the proportion
of society's savings devoted to productivity would have been far
lower. This is because real bills would not have been used as circulating
capital to distribute goods to consumers. Consequently savings through
conventional credit of borrowing and lending would have had to be
used to try and finance the production and distribution of consumer
goods to retail stores.
Yet this low-productivity, deflationary 100% gold system is apparently
what Rothbardians are trying to achieve. I quote Corrigan again from "Fool's
"If we're to rule out chronic and endemic inflation totally, when
a commercial bank discounts a bill...it cannot be allowed to credit
the seller's account with new 'money' instantly created by the bank....
"Instead, the discounting bank should only be able to buy the bill
with a sum of money already in existence in the form of gold itself,
or of 100% gold-backed, instantly-convertible notes or account entries
on its books."
If this is to be the case, then we have no meaningful "real bills." We
have lip service to real bills. We have the Rothbardian 100% gold
money system in which all credit must be drawn solely from gold reserves.
This is what Antal Fekete is trying to say will lead to a much lower
standard of living. Our modern economy would regress toward that
of the Middle Ages. Much of the advanced productivity of modern economies
would be negated. Corrigan and the Rothbardians can toot their horns
of denial all they want, but facts are facts. If all clearing credit
(i.e., real bills) is to be drawn 100% from gold reserves, then we
will have trillions of dollars less in long term credit to apply
to the creation of factories, offices, shopping centers, plant equipment,
technology, etc. We will have a lower standard of living. Period.
Perhaps the most crucial misunderstanding of Corrigan is his Misesian
assumption that credit is monolithic, and thus consumer goods can
be financed via lending in the manner that we finance fixed capital
assets. This is because he fails to perceive the distinction between
lending and discounting. This is one of Professor Fekete's most important
points. There are two forms of credit, the conventional form
of borrowing and lending for fixed capital funding and the clearing form
of real bills for consumer goods funding. Merchants for consumer
goods do not deal in cash, nor in conventional borrowing and lending.
As Fekete puts it:
"Credit for 90 days is part of the deal in every instance of the
distributor delivering consumer goods to the retailer for resale.
That is the primary fact. The secondary fact is the discount which
serves as the temptation for the retailer to prepay the bill. The
distributor could not make a single sale unless on the term of '90
days net.' That is to say, distributors never quote cash prices.
No retailer ever pays cash for delivery of consumer goods unless
he discounts the quoted price at the going discount rate. That is
why it is called discounting. Does this look like lending?" [Email
to this writer, September 8, 2005]
Corrigan and the Rothbardians seem to have no grasp of how consumer
goods are produced and distributed to the retail market. If they
believe that these trillions of dollars in transactions can successfully
be funded by conventional credit of "borrowing and lending," then
they have indeed opted out of the real world. The producers, distributors
and retailers of consumer goods would no more utilize the conventional
lending form of credit than surgeons would use machetes to operate
on their patients. Goods are moved from producer to consumer via clearing credit,
i.e., "bills of exchange." And in a truly FREE market, these bills
will circulate as money and be discounted by banks in order
to facilitate the process. To try and suppress them would greatly
diminish our productive wealth. In addition it would also require
a state mandated money system. It would negate free-market
Rothbardians miss this crucial dimension of the market because both
Rothbard and Mises missed it. As Fekete writes in his essay, Where
Mises Went Wrong:
"Mises misconstrued the problem of discounting. Insisting that retail
inventory was financed through loans at the bank, Mises failed to
notice that the marginal retail merchant was doing arbitrage between
bills and consumer goods. He would thin out merchandise on his shelves
while beefing up his portfolio of bills in response to the consumer's
reining back spending, while he would sell bills from his portfolio
and use the proceeds to replace the missing merchandise on his shelves
upon renewed interest of the consumer in buying. Wrongly, Mises blotted
out the important distinction between the discount rate and the rate
of interest which are governed by entirely different economic factors
and move quite independently of one another."
Here lies a great deal of the reason why Corrigan and other Rothbardians
are so oblivious to the crucial role that real bills play in economic
development, a role that is dramatically demonstrated by mankind's
evolution from the Renaissance to 1914. Corrigan and the Rothbardians
are uncritically accepting Mises' theoretical mistakes about credit.
They are failing to ask the important questions: Must the funding
of consumer goods be taken out of savings? Or is there another form
of credit that operates to do the job in a non-inflationary manner,
which would then release our savings to fund higher levels of production?
Fekete's answer is yes! It is the market's spontaneous generation
of real bills that circulate as "money."
Adam Smith's RBD vs. the Inflationist RBD
As it so often is in paradigm clashes of the intellectual world,
those on the wrong side of the clash misinterpret the new paradigm
being offered. The Rothbardians, being on the wrong side of this
clash, are misinterpreting the advocacy of real bills by Antal Fekete.
When they condemn the Real Bills Doctrine as "having been discredited
long ago," they are condemning the crude and bastardized versions
of the doctrine, which indeed were discredited long ago.
These flawed versions were basically the John Law version (early
1700s) and the Antibullionist version (early 1800s). Both of these
versions were inflationist in their formulation because they failed
to understand the importance of mandating gold convertibility, and
they attempted to employ the doctrine within central bank regimes
-- Law's Banque Royale in 1718 in France and the Antibullionists'
Bank of England in the 19th century.
Adam Smith's version of the Real Bills Doctrine did not make these
mistakes. Smith, being the laissez-faire advocate that he was, and
also a very wise student of human nature, would have nothing to do
with the John Law version, and he also avoided the crudities of the
Antibullionists in England who followed him with their naïve
and irresponsible formulation of the doctrine. Both of these flawed
versions of the doctrine led to the excessive issuance of paper notes
to discount the real bills.
Smith understood the vital necessity of mandating gold convertibility
and advocated such. Without this, he warned, real bills would fail.
Also his natural laissez-faire inclinations led to the other necessary
safeguard of no central banking. They motivated Thomas Jefferson's
animus toward any form of a national bank here in America. Thus as
long as the requirement of gold convertibility was maintained and
no central bank was employed, real bills worked their wonders in
a non-inflationary way.
Because Smith understood the paramount importance of gold convertibility
in any use of real bills, he was able to sever the dangerous feedback
linkage between increased money and prices that plagued the flawed
versions of the Real Bills Doctrine.
As Thomas M. Humphrey explains in a famous recent study, by mandating
gold convertibility, Adam Smith "breaks the vicious circle of inflation
and money growth inherent in conventional versions of the real bills
doctrine and renders Smith's version immune to the problem
of dynamic instability." [The Real Bills Doctrine,
Federal Reserve Bank of Richmond, Economic Review, September/October,
Therefore because Smith's laissez-faire inclinations were adopted
by the Jeffersonians, which prohibited a central bank regime in America,
this combine of gold convertibility and no government banking made
the real bills concept workable and largely incapable of being abused
as John Law and the Antibullionists had done.
For an excellent treatment of this and other aspects of the real
bills issue from a more theoretical approach, see Bill Koures' paper, Real
Bills: An Emergent Market Phenomenon. Koures is a colleague of
Dr. Fekete, and is a brilliant scholar in his own right (PhD in Theoretical
Physics). He has taught at the University of Utah and worked in commercial
banking circles in New York (JP Morgan) for a number of years. For
some background on him, click
Failure to note the profound difference between Adam Smith's version
of real bills and the inflationist versions of John Law and the early
Antibullionists of England has led the Rothbardians astray. They
apparently have not investigated this difference and have lumped
all the versions together. Seeing that the Rothbardians also lumped
the two major forms of credit together (conventional credit and clearing
credit) it's probably inevitable that they would lump all versions
of real bills into one heap and summarily dismiss them. Why? Because they
have an agenda! They have basically become fanatics for 100%
gold. This kind of fervency leads them into misunderstandings, evasions,
suppressions, etc. It leads to reading history they way they want
to read it. Truth always suffers when fervently held agendas guide
the pursuers of it.
Is Fractional Reserve Banking Criminal?
Here is the important question for Rothbardians. Do you support
a free-market banking system? If we are to have such a system, then
we are going to have to come to grips with allowing banks to freely
create notes to discount real bills as long as they do so openly,
and as long as they stand ready to redeem such notes with gold coins
upon a depositor's request. This will allow for fractional reserve
banking. An advocate of free-market banking cannot justifiably
suppress such an openly disclosed process between consenting adults.
It is not fraudulent and it is not a result of special privileges
granted to the banker from government.
To clarify this issue better, let's refer to Edwin Vieira, seeing
that he is the nation's foremost scholar in regards to the legality
and constitutionality of monetary issues. In a paper titled, How
to Restore Constitutional Money, that he presented to the Conservative
Caucus Foundation in Washington, D.C. on January 13, 1997, he states:
"Article I, Section 8, Clause 3; Article IV, Section 2, and the
Fifth, Ninth, Tenth, and Fourteenth Amendments... guarantee individuals
free entry into private banking." They also guarantee that private
banks can, if they choose, "issue their own non-fraudulent notes
and securities, and deal in deposits of silver, gold, foreign currencies,
or any other monetary medium." In other words, these sections of
the Constitution "grant a complete free market to money."
Thus (even though the federal and state governments CANNOT), private
banks CAN issue paper notes as long as such paper instruments do
not breach the laws of fraud, i.e., as long as the issuing banks
provide in Vieira's words, "complete disclosure of their operations
and are fully responsible civilly (and a fortiori criminally)
for the same." [Email to this writer, February 3, 2005.]
This is why I maintained in my previous article that Corrigan and
the Rothbardians, in their fighting against real bills, are
fighting against a form of money that springs from traders freely
interacting. By prohibiting the banks from freely issuing
notes to discount the real bills, they are contradicting their espoused
philosophy of "non-intervention on the part of government unless
a crime has occurred."
Is it a crime for traders to write real bills? Is it a crime for
banks to discount them with NEW bank notes of their own issuance?
No it is not -- as long as the writing of such real bills and their
subsequent discounting are done openly under full disclosure, and
as long as they do not require the dispensing of government privileges
regarding contractual law.
The fact that the bank notes used in the discounting process are
NEW and not backed 100% by gold reserves (as Corrigan insists they
be) does not make this endeavor in free trade a crime. Therefore
it cannot be outlawed by legislation from government. If this is
how Corrigan and the Rothbardians intend to stop such discounting,
then they will have to become government interventionists!
How then, one asks, is such a fractional reserve banking policy
to be contained so as to avoid price inflation? As I pointed out
in my previous article, Real
Bills vs. Rothbard's 100% Gold System, this is done through the
principle of "competition for reputation." In a free-market system,
all banks will, in their pursuit of depositors, be forced to NOT
abuse the process in order to attract those depositors. But in the
discounting of real bills, it is perfectly legal for banks to have
less than 100% gold backing for the notes they issue to purchase
the bills. The banks just have to be willing to redeem such notes
with gold upon request or face the consequences of bankruptcy. In
other words, the government cannot allow any bank the privilege of
suspending specie payment in order to get through a crisis.
It is this approach that will spawn the necessary "competition for
reputation" that will make bankers discount responsibly rather than
abusively. It is this approach that was absent during the 19th century,
and which led to the booms and busts that prevailed. Such price volatility
was not brought on by the discounting of real bills, nor was it due
to the fact that bankers did not maintain 100% gold reserves. It
was brought on by the special privileges conveyed to banks by government
that allowed them to suspend specie payments and wink at the laws
of fraud, i.e., borrow short to loan long. This led to abusive fractional
reserve banking rather than a responsible practice of it.
If Corrigan and the Rothbardians are taking the stand that they
can use government to prohibit the free discounting of real bills,
then how are they going to stop all the other government interventions
into free contractual trade that bureaucrats dream up to serve the
demands of expediency? Corrigan and the Rothbardians are basically
advocating the violation of the merchants' and the bankers' rights
to free trade among themselves. If government can do this once,
then it can do it twice, then ten times, then millions of times as
today's monster interventionist state is doing.
Interventionism's Slippery Slope
We can't espouse a non-interventionist government for the lawful
workings of the market, and then bail out on the principle every
second Tuesday when it is raining. We can't use the principle only
when we want. If we try to become selective and arbitrary in our
prohibiting of government intervention, then we open up Pandora's
Box for more and more government in our lives.
There can be no compromise on this principle. Once compromised,
we as a people then lose our ability to prohibit government from
still further violations of rights for still further "benefits from
government." We proceed onto the slippery slope of ever-expanding
statism. After all, if it is justifiable for government to
violate rights so as to keep credit from exceeding gold reserves,
then it is permissible for government to violate rights in order
to keep corporations from freely pricing their oil. It is permissible
to violate the rights of management in order to support labor unions
in the collective bargaining process, which is what the Wagner Act
and the NLRB Act have done. It is permissible to violate the rights
of the American taxpayer by confiscating his wealth to subsidize
farmers, welfare recipients, starving artists, and fat cat corporations
lobbying for special tax breaks. It is permissible to violate the
rights of Caucasian Americans to free association by implementing
affirmative action for minorities.
This is why we have the insufferable locust horde of factions, coalitions,
businesses, foundations, and divergent individuals today who feel
their "need" justifies their lining up at the government trough to
lobby for the corrupt favors, handouts, and pork that have flowed
so overwhelmingly from Washington for the past 100 years. Once we
allow government to violate individual rights in order to
allow its henchmen to intervene into the free and non-fraudulent
activities of the marketplace (and once we accept this as morally
legitimate) then there is no end to the process. The death knell
of freedom has sounded.
This applies to all government interventions into the marketplace at
the expense of rights . All such interventions are morally
invalid and politically impractical. The fact that our academics
and pundits today cannot grasp this fundamental truth is the reason
why we have exploding government. Government tyranny begins with
the first intervention's justification that it will be only for
this one instance of need. But the lobbyists are always waiting
on the margin for such self-delusion to manifest itself. They then
descend upon Washington like weevils to the grist mill to demand
MORE government interventions. Due to the blindness Corrigan has
contracted because of his adoption of the Rothbardian agenda, he
wishes to prohibit the free discounting of real bills by banks.
Thus he is willing to set loose the first weevil. And like all
government interventionists before him, he thinks that it will
go no further, that he can safely use government arbitrarily when
he wants, but that no one else will want to do so as a result of
This is the fallacy of trying to have it both ways. All libertarians
should be especially mindful of such self-delusion. The fact that
Corrigan and the Rothbardians are willing to engage in such self-delusion
does not bode well for the future of liberty. The libertarian movement
has been badly discredited in academic circles over the past few
decades by this and other mistaken ideas espoused by the Rothbardians
in both the monetary / economic realm and the political / philosophical
realm. Antal Fekete has exposed their economic fallacies with
his scholarly works on the Real Bills Doctrine of Adam Smith, Monetary
Economics 101 and 102. I have exposed their political
fallacies in my forthcoming book, Reality's
Golden Mean, to be released next spring.
For all freedom advocates out there in pursuit of the truth, I would
urge you to tap into Dr. Fekete's monetary works and then read my
essay, The Political
Spectrum Con, which is a prelude to Reality's Golden Mean.
A free-market society is our goal. Sean Corrigan and the Rothbardians
are demonstrating that they are willing to compromise such a society
and tolerate the police power of government intervention when no
crime has been committed in monetary matters. Because the free-market
will always reject a pure 100% gold money system (for good reason),
Rothbardians must, in fact, mandate their system through state coercion
and the violation of basic rights. Such contradictory thinking will
never carry the cause of freedom. This, of course, is not their intent;
they wish for freedom as much as the rest of us. But the cause of
freedom needs more than just good intentions. It needs rationality
and truth, which unfortunately their arguments lack.
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