MACROECONOMICS

The Monetary Foundations of the Macroeconomy Volume 1

First Edition

Edited by Thomas Rustici, James Caton, Dima Shamoun, and Theo Shamoun Bassim Hamadeh, CEO and Publisher Michael Simpson, Vice President of Acquisitions Jamie Giganti, Managing Editor Jess Busch, Senior Graphic Designer Amy Stone, Acquisitions Editor Mirasol Enriquez, Project Editor Luiz Ferreira, Senior Licensing Specialist Mandy Licata, Interior Designer

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First published in the United States of America in 2015 by Cognella, Inc.

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Printed in the United States of America

ISBN: 978-1-63487-013-9 (pbk)/ 978-1-63487-014-6 (br) “This compilation of key works from the classical tradition in macroeconomics fills a gap that I didn’t know existed, until I saw the table of contents. The book contains an amazing range of classical pieces on macroeconomics as well as the microeconomics underpinnings of money and macro. It’s a great idea to put all of these important articles together in one volume, especially for academics who don’t have the time to waste searching through library catalogs, and who may not even recall where a classic paper first appeared.”

Scott Sumner Ph.D., Bentley University The Money Illusion blog

“In this two-volume collection, Rustici, Caton, Shamoun, and Shamoun have gathered many of the ‘greatest hits’ of macroeconomics, and smartly supplemented them with excellent but less-known pieces and their own helpful contributions. The result is a set of readings that will be extremely valuable for any macroeconomics student—and for any instructor who wants to expose students to the field’s key insights and broad range of approaches.”

Lawrence H. White, Ph.D., George Mason University The Clash of Economic Ideas: The Great Policy Debates and Experiments of the Last Hundred Years

“The editors of these two volumes have created a truly ambitious and valuable resource. It is a wonder- ful compilation of important writings on an amazing variety of macroeconomic topics. The selections range from classics accessible to anyone untutored in economics all the way to sophisticated contribu- tions that were path-breaking when they first appeared. Anyone who teaches or writes about economics will want to consult these volumes.”

Jeffrey Rogers Hummel, Ph.D., San Jose State University Emancipating Slaves, Enslaving Free Men: A History of the American Civil War

“This read is an excellent compilation of classical articles on macroeconomics and monetary theory as well as some new and original articles. Selections from the reader would be appropriate for a variety of courses from introductory macroeconomics to intermediate macroeconomics and money and banking. Advanced students of macroeconomics will find the reader an excellent companion in a course that emphasizes contemporary critique.”

W. William Woolsey, Ph. D., The Citadel, Military College of South Carolina

Macroeconomics: The Monetary Foundation of the Macroeconomy, Volume 1 edited by Thomas Rustici, James Caton, Dima Shamoun, and Theo Shamoun

The essays featured in Macroeconomics: The Monetary Foundations of the Macroeconomy, Volume I come from a broad range of pre-Keynesian classical thinkers. They represent differing traditions, primarily the divide between a more monetarist approach and the Austrian school, which is reflected in diverging views on capital theory, interest rates, price level effects, and sometimes in the study of institutions and public policy.

The readings introduce economics as a form of unplanned order emerging from seeming chaos. Students will learn about microeconomics, the quantity theory of money, inflation and hyperinflation. This prepares them for a deeper exploration of macroeconomics. The section on the classical macroeconomic model introduces a variety of topics including real and nominal prices, real interest rates, Say’s Law, and price flexibility.

Volume II builds on this foundation, including empirical and theoretical literature that is indispensable for adequate training as a technical macroeconomist. It is an ideal collection for advanced undergraduate and graduate students.

Dr. Thomas Rusticiwas the Freedom Professor of Economics at the Fund for American Studies, Georgetown University. He is currently an assistant professor of economics and the Associate Director of Undergraduate Studies in Economics at George Mason University.

James Caton is a graduate teaching assistant and Ph.D. candidate in the economics program at George Mason University. He blogs regularly at Money, Markets, and Misperceptions.

Dima Yazji Shamoun is a research fellow with the Regulatory Studies Program at the Mercatus Center. She earned her Ph.D. in economics from George Mason University.

Theo Shamoun earned both his B.A., summa cum laude, and M.A. degrees in economics from George Mason University.

Contents

Editor’s Note 1

CHAPTER 1: INTRODUCTION

Spontaneous Order and the Science of Economics 5 By Thomas Rustici

I, Pencil: My Family Tree as Told to Leonard E. Read 7 By Leonard E. Read

What Is Seen and What Is Not Seen 11 By Frédéric Bastiat

Capitalism, Socialism, and Democracy: The Process of Creative Destruction 13 By Joseph Schumpeter

A First Analysis of the Category of Action: Human Action: A Treatise on Economics 17 By Ludwig von Mises

CHAPTER 2: MICROECONOMICS

Price Theory and Public Choice 25 By Thomas Rustici

PRICES

How the Price System Works: Economics in One Lesson 31 By Henry Hazlitt The Use of Knowledge in Society 35 By F. A. Hayek

The Formation and Function of Prices 45 By Hans Sennholz

Price Controls 49 By Hugh Rockoff

Supply, Demand, and Price Controls 55 By Dima Yazji Shamoun and Thomas Rustici

Let the Data Speak: The Truth Behind Minimum Wage Laws 65 By Steve Hanke

PUBLIC CHOICE

A Petition from the Manufacturers of Candles, Tapers, Lanterns, Sticks, Street Lamps, Snuffers, and Extinguishers, and from Producers of Tallow, Oil, Resin, Alcohol, and Generally of Everything Connected with Lighting 71 By Frédéric Bastiat

Public Choice Theory 75 By Jane S. Shaw

Public Choice: Politics Without Romance 79 By James M. Buchanan

ENTREPRENEURSHIP

Entrepreneurship 87 By Israel M. Kirzner The Entrepreneur: The Theory of Social Economy 95 By Gustav Cassel

The Instability of Capitalism 101 By Joseph Schumpeter

TRADE

Of Restraints Upon the Importation from Foreign Countries of Such Goods as Can Be Produced at Home 109 By Adam Smith

On Foreign Trade 123 By David Ricardo

Different is Beautiful 125 By Dima Yazji Shamoun

The Balance of Trade 129 By Frédéric Bastiat

Do Trade Deficits Matter? 133 By Paul Heyne

TARIFFS

Tariffs 143 By Thomas Rustici

Who’s “Protected” by Tariffs? 145 By Henry Hazlitt

The Smoot-Hawley Tariff and the Great Depression 151 By Theodore Shamoun, Thomas Rustici, and Dima Yazji Shamoun CHAPTER 3: MONEY

Money, What Is It Good For? 159 By Thomas Rustici

THE ORIGIN AND EVOLUTION OF MONEY

Various Kinds of Money Throughout History 163 By Thomas Rustici

World’s First Coins 165 By Rondo Cameron

Of the Origin and Use of Money 167 By Adam Smith

What Has Government Done to Our Money? 173 By Murray Rothbard

The Theory of Money: Principles of Economics 175 By Carl Menger

Why Money? 183 By Armen Alchian

An Evolutionary Theory of the State Monopoly over Money 191 By David Glasner

The Island of Stone Money: Money Mischief 201 By Milton Friedman

What Is a Dollar? 203 By Edwin Vieira CHAPTER 4: THE QUANTITY THEORY OF MONEY

The Quantity Theory of Money 211 By Thomas Rustici

On the Minting of Money 213 By Nicolas Copernicus (translated by Gerald Malsbary)

The Origin and Function of Money 221 By Majorie Grice-Hutchinson

Importing Inflation: Conquistadores and the Quantity Theory of Money 227 By Reader’s Digest

Of Money: Essays, Moral, Political, and Literary 229 By David Hume

Of the Value of Money as Dependent on Demand and Supply: Principles of Political Economy 237 By John Stuart Mill

Theory of Money and Credit 243 By Ludwig von Mises

Paper Money and Quantity Theory: Currency and Credit 263 By Ralph Hawtrey

Quantity Theory: Its Versions and Variables 269 By Thomas Rustici

CHAPTER 5: INFLATION AND EPISODES IN HYPERINFLATION

INFLATION

Inflations and Hyperinflations 277 By Thomas Rustici Problems of Rising Prices 279 By Armen Alchian

EPISODES IN HYPERINFLATION

The Roman Hyperinflation 295 By Thomas Rustici

Lessons from History: On Official Paper Money Inflation 301 By Jerome Smith

Not Worth a Continental 305 By Pelatiah Webster

Fiat Money in France 313 By Andrew White

Eliminating Runaway Inflation: Lessons from The German Hyperinflation 323 By Thomas Humphrey

INFLATION DATA

Review of Hyperinflation 331 By Thomas Rustici

The Monetary Dynamics of Hyperinflation 333 By Phillip Cagan

World Hyperinflations 335 By Steve Hanke and Nicholas Krus

Cross-Country Data on Inflation and Monetary Growth 339 By Robert J. Barro Money Mischief: Episodes in Monetary History 343 By Milton Friedman

CHAPTER 6: CLASSICAL MACRO MODEL

The Classical Macro Model 349 By Thomas Rustici

REAL AND NOMINAL PRICES

The Classical Macro Paradigm 357 By Thomas Rustici

Essay on the Nature of Trade in General 359 By Richard Cantillon

Of the Real and Nominal Price of Commodities, or of Their Price in Labour, and Their Price in Money 369 By Adam Smith

Of the Rate of Interest 381 By John Stuart Mill

A Glance at the Money Illusion 391 By Irving Fisher

REAL INTEREST RATE

Interest: Human Action: A Treatise on Economics 403 By Ludwig Von Mises

Expected Inflation and Interest Rates 413 By J. H. McCulloch SAY’S LAW

Of the Demand or Market for Products: A Treatise on Political Economy 419 By Jean-Baptiste Say

Effects of Accumulation and Profit on Interest: Principles of Political Economy and Taxation: 427 By David Ricardo

Say’s Principle, What it Means and Doesn’t Mean 433 By Axel Leijonhufvud and Robert Clower

PRICE FLEXIBILITY

The Significance of Price Flexibility: The Critics of Keynesian Economics 449 By W. H. Hutt

CHAPTER 7: CONCLUSION

The Pretence of Knowledge 461 By F. A. Hayek

APPENDICES

Appendix 1: Trade Accounting, Exchange Rates, and Purchasing Power and Real Interest Parities. 471

Appendix 2: Central Banking, Money Creation 475

Appendix 3: Price Level, National Income Accounting, Aggregate Demand and Supply, and Unemployment 483

Credits 489 Editor’s Note

hile the various essays come from a agreement on, or endorsement of, every point made broad range of pre-Keynesian clas- in every essay that we have collected for reprinting. W sical thinkers, not each author is in We are not mind clones and don’t expect others to agreement with each other on every point. There be so. On the other hand, we are in agreement that are different traditions within this set of classical Keynesian theory was a fundamental mistake—or, as thinkers, primarily between a more monetarist ap- Professor Leland Yeager might say, a “diversion”— proach (Irving Fisher) and the Austrian school (F. A. from a basically sound classical model (with some Hayek). These conflicts show up in capital theory, important modifications and clarifications). It is up interest rates, price level effects and occasionally in to each student to make up their own mind only after the study of institutions and public policy. Moreover, being exposed to the fullest breadth of this scientific even among the editors of this anthology there is not literature.

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