A Proposed Method of Eliminating Inflation

Inflation is the steady increase in the price of goods and services resulting from the progressive devaluation of the currency. People are negatively impacted by inflation due to the sustained erosion of the purchasing power of their savings over time. In addition, the uncertainty regarding the future rate of inflation complicates financial planning. Fortunately, there is a very simple way to eliminate inflation.

Back the Currency

Any commodity having intrinsic value can be used to back the currency, although some are more suitable than others. The commodity backing the currency should have the following characteristics:

1. Be nonperishable

2. Have a high value density (value per weight and value per volume)

3. Be divisible into units of equal value

4. Be unlikely that it could be produced significantly cheaper in the future due to technological advances

Apples would be a poor choice since they fail to satisfy the first three of the above requirements. Diamonds satisfy the first two requirements but not the third and would probably fail to satisfy the fourth requirement as well. Gold and silver, which have been traditionally used to back the currency, satisfy all four requirements; platinum would also be a good choice.

In order for backing the currency to be effective in stopping inflation, the currency must be readily exchangeable for the backing commodity, for at most a small transaction fee. If the currency is backed in name only, it is likely to suffer the fate of the British pound sterling.

Suppose you walked into a British bank, handed the teller a pound sterling note, and asked for a pound of sterling silver in exchange. What do you think the teller would say to you? That is, after he got over rolling on the floor with laughter at the silly American. It would take several dozen pound sterling notes to purchase a pound of silver, tacit testimony to the ravages of inflation.

While both gold and silver would be suitable choices for backing the currency, gold has the advantage of being used more internationally, so it is herein recommended that gold be used to back the currency. If the United States were to adopt the gold standard and require all countries with which it transacts business to do so using a gold-backed currency, then that would motivate the rest of the world to likewise adopt the gold standard.

While gold is traditionally measured in ounces, it is herein recommended that we switch to SI (metric) units, since all industrialized countries except the United States now use the metric system. An additional advantage of the metric system is that smaller units are related to larger units by powers of ten. Thus, if we make the gram of gold the international unit of currency, as is herein recommended, we could have the smaller denominations of the currency given in milligrams of gold. By contrast, expressing denominations of currency as fractions of an ounce of gold would be unwieldy. Just as the metric system has resulted in a common system of measures among all of the participating countries, adopting the gram of gold as the international unit of currency would enable the nations of the world to use a single currency. Currency speculators who presently feed on the inefficiencies in the currency market would be forced to find other employment.

If backing the currency could eliminate inflation, why hasn’t it been done? In fact, it had been done in the past. At one time in our country, we were on the gold standard, and sometime later, our currency was backed by silver. But then, that raises the question: If backing the currency is effective in preventing inflation, why has that practice been discontinued?

Let’s consider the arguments presented by those opposed to backing the currency. It’s been said that there is not enough gold or silver to back the currency dollar for dollar; that’s true but irrelevant. It is not necessary to back the currency dollar for dollar. All that is required is that there be enough gold (or silver) available so that people can be confident that they will be able to exchange their dollars (or gold or silver certificates) for the underlying metal if they so choose. If the government finds itself running short of gold, it will need to buy back some in order to ensure that it has an adequate supply on hand. Once the notion that the currency needs to be backed dollar for dollar is put to rest, this dispels the related claim that backing the currency will somehow inhibit the growth of the economy. Finally, it has been suggested that if we somehow manage to drive down the inflation rate to zero, we will then run the risk of deflation. However, deflation is relatively rare and has not occurred in modern times. In any case, backing the currency stabilizes it against both inflation and deflation.

This brings us back to the question: If backing the currency can eliminate inflation, and there is no good reason to oppose it, why hasn’t it been done? This question implicitly assumes that everyone agrees that inflation is undesirable. But inflation causes the purchasing power of everyone’s savings to decrease over time. What’s to like about that?

Imagine that you are a politician, say, a member of Congress. In order to get reelected, you need to please your constituency. You do so by providing them with goodies such as projects in your district, tax breaks, and social programs. However, these goodies cost money and must be paid for by raising taxes. Problem: The same people who relish these goodies are not so keen on paying the taxes necessary to fund them; people are funny that way. So, what’s a politician to do?

Imagine, just imagine, that there was a way to tax the people so that they didn’t know that they were being taxed — an invisible tax, if you will. Over time, the people would notice that they were feeling poorer, but they wouldn’t associate that with any action taken by the government, so the politician would be safe from the displeasure of the voters. While such an invisible tax would be ideal for the politician, it would be quite another matter for the people who were being surreptitiously fleeced.

You don’t need to imagine the existence of such an invisible tax. It’s alive and well and goes by the name of — you guessed it — inflation.

We have seen how inflation causes everyone’s savings to lose value over time. However, in order to qualify as a tax, inflation must result in this lost value somehow being transferred into the coffers of the U.S. Treasury.

Inflation benefits the government financially in a number of ways. First, when the government increases the money supply, it obtains more money that it can spend without the necessity of raising taxes or increasing the national debt, but at the cost of devaluing the currency. Second, inflation decreases the real value of the national debt; decreasing the magnitude of a negative results in a net positive. Finally, the tax code is structured so that the government benefits from inflation at the expense of the taxpayer; this occurs in two distinct ways. First, while interest on savings is taxed as income, one is not permitted to depreciate the value of the savings due to inflation, so that, for example, if the rate of inflation is equal to the interest rate on your savings, you are taxed on the interest even though the real value of your savings has remained the same. Second, inflation pushes people into higher income brackets having higher marginal tax rates, even though the real value of their income may have remained the same.

According to one source, the Federal Reserve, which manages the nation’s monetary policy, has a deliberate policy of keeping the inflation rate above zero. If the currency were to be backed, as is proposed herein, there would be no need for the Federal Reserve to manage inflation. Furthermore, if the recommendations made in my article Solving the Unemployment Problem were to be adopted, the problem of unemployment could be solved without the need for monetary or fiscal stimulus by the government. Thus, there would be no need for the Federal Reserve, so it is herein recommended that it be abolished and that interest rates be determined by market forces.