14. The Fallacy of Measuring and Stabilizing the PPM
a. Measurement
In olden times before the development of economic science, people naively assumed that the value
of money remained always unchanged. Value was assumed to be an objective quantity in
and money was the measure, the fixed yardstick of the values of goods and their changes.
The value of the monetary unit, its purchasing power with respect to other goods, was assumed
to be fixed.
Conventional accounting practice is based on a fixed value of the monetary unit.
The analogy of a fixed standard of measurement which had become familiar to the natural sciences
– weight, length, etc. – was unthinkingly applied to human action.
Economists then discovered and made clear that money does not remain stable in value,
that the PPM does not remain fixed.
The PPM can and does vary in response to changes in the supply of or the demand for money.
These in turn can be resolved into the stock of goods and the total demand for money.
Individual money prices, as we have seen in section 8, are determined by the stock of
and demand for money, as well as by the stock of and demand for each good.
It is clear, then, that the money relation, and the demand for, and the stock of, each
individual good, are intertwined in each particular price transaction.
Thus, when Smith decides whether or not to purchase a hat for two gold ounces, he weighs
the utility of the hat against the utility of the two ounces.
Entering into every price, then, is the stock of the good, the stock of money, and the
The demand for money and the good, both ultimately based on individual's utilities.
The money relation is contained in particular price demands and supplies, and cannot in
practice be separated from them.
If then there is a change in the supply of or demand for money, the change will not be
are neutral, but will affect different specific demands for goods and different prices in varying proportions.
There is no way of separately measuring changes in the PPM and changes in the specific prices of goods.
The fact that the use of money as a medium of exchange enables us to calculate relative exchange ratios
has misled some economists into believing that separate measurement of changes in the PPM is possible.
Thus, we could say that one hat is worth, or can exchange for, 100 pounds of sugar, or that one TV set can exchange for 50 hats.
Hats. It is a temptation then to forget that these exchange ratios are purely hypothetical
and can be realized in practice only through monetary exchanges, and to consider them as
constituting some barter world of their own. In this mythical world the exchange ratios between
the various goods are somehow determined separately from the monetary transactions,
And it then becomes more plausible to say that some sort of method can be found
of isolating the value of money from these relative values and establishing the former
as a constant yardstick. Actually, this barter world is a pure figment. These relative ratios
are only historical expressions of past transactions that can be affected only by and with money.
Let us now assume that the following is the array of prices in the PPM on day one.
10 cents per pound of sugar, $10 per hat, $500 per TV set, $5 per hour legal service of Mr. Jones, lawyer.
Now, suppose the following array of prices of the same goods on day two.
15 cents per pound of sugar, $20 per hat, $300 per TV set, $8 per hour of Mr. Jones' legal service.
Now, what can economics say has happened to the PPM over these two periods?
All that we can legitimately say is that now $1 can buy 1 20th of a hat instead of 1 10th of a hat,
1 300th of a TV set instead of 1 500th of a set, etc.
Thus we can describe, if we know the figures, what happened to each individual price in the market array.
But how much of the price rise of the hat was due to a rise in the demand for hats,
and how much to a fall in the demand for money?
There is no way of answering such a question. We do not even know for certain whether the PPM
has risen or declined. All we do know is that the purchasing power of money has fallen in terms of
sugar, hats and legal services, and risen in terms of TV sets. Even if all the prices in the array
If the supply of money changed during this interval, we would not know how much of the change was due to the increased supply and how much to the other determinants.
Changes are taking place all the time in each of these determinants.
In the real world of human action, there is no one determinant that can be used as a fixed
benchmark.
The whole situation is changing in response to changes in stocks of resources and products,
and to the changes in the valuations of all the individuals on the market.
In fact, one lesson above all should be kept in mind when considering the claims of the
various groups of mathematical economists.
In human action, there are no quantitative constants.
Professor Mises has pointed out that the assertion of the mathematical economists that their
Where task is made difficult by the existence of many variables in human action, Grossly
understates the problem, for the point is that all the determinants are variables, and
that in contrast to the natural sciences, there are no constants.
As a necessary corollary, all praxeological economic laws are qualitative, not quantitative.
The index number method of measuring changes in the PPM attempts to conjure up some sort
of totality of goods whose exchange ratios remain constant among themselves so that a
and a kind of general averaging will enable a separate measurement of changes in the PPM itself.
We have seen, however, that such separation or measurement is impossible.
The only attempt to use index numbers that has any plausibility is the construction of fixed-quantity weights for a base period.
Each price is weighted by the quantity of the goods sold in the base period.
These weighted quantities representing a typical market basket proportion of goods bought in
that period.
The difficulties in such a market basket concept are insuperable, however.
Aside from the considerations mentioned earlier, there is in the first place no average buyer
or housewife.
There are only individual buyers, and each buyer has bought a different proportion and
type of goods.
If one person purchases a TV set and another goes to the movies, each activity is the result
of differing value scales, and each has different effects on the various commodities.
There is no average person who goes partly to the movies and buys part of a TV set.
There is therefore no average housewife buying some given proportion of a totality of goods.
Goods are not bought in their totality against money, but only by individuals in individual
Transactions, and therefore there can be no scientific method of combining them.
Secondly, even if there were meaning to the market basket concept, the utilities of the
goods in the basket, as well as the basket proportions themselves, are always changing,
and this completely eliminates any possibility of a meaningful constant with which to measure
price changes.
The non-existent typical housewife would have to have constant valuations as well, an impossibility
in the real world of change.
All sorts of index numbers have been spawned in a vain attempt to surmount these difficulties.
Quantity weights have been chosen that vary for each year covered.
Arithmetical, geometrical and harmonic averages have been taken at variable and fixed weights,
ideal formulas have been explored, all with no realization of the futility of these endeavors.
No such index number, no attempt to separate and measure prices and quantities can be valid.
B. Stabilization.
The knowledge that the purchasing power of money could vary led some economists to try
to improve on the free market by creating, in some way, a monetary unit which would remain
stable and constant in its purchasing power.
All these stabilization plans, of course, involve in one way or another an attack on
from the gold or other commodity standard, since the value of gold fluctuates as a result
of the continual changes in the supply of and the demand for gold.
The stabilizers want the government to keep an arbitrary index of prices constant by pumping
money into the economy when the index falls and taking money out when it rises.
The outstanding proponent of stable money, Irving Fisher, revealed the reason for his
urge toward stabilization in the following autobiographical passage.
I became increasingly aware of the imperative need of a stable yardstick of value.
I had come into economics from mathematical physics, in which fixed units of measure contribute
the essential starting point.
Apparently, Fisher did not realize that there could be fundamental differences in the nature
of the sciences of physics and of purposeful human action.
It is difficult indeed to understand what the advantages of a stable value of money
are supposed to be.
One of the most frequently cited advantages, for example, is that debtors will no longer
will no longer be harmed by unforeseen rises in the value of money, while creditors will
no longer be harmed by unforeseen declines in its value.
Yet if creditors and debtors want such a hedge against future changes, they have an easy
way out on the free market.
When they make their contracts, they can agree that repayment be made in a sum of money corrected
by some agreed-upon index number of changes in the value of money.
Such a voluntary tabular standard for business contracts has long been advocated by stabilizationists,
who have been rather puzzled to find that a course which appears to them so beneficial
is almost never adopted in business practice.
Despite the multitude of index numbers and other schemes that have been proposed to businessmen
by these economists, creditors and debtors have somehow failed to take advantage of them.
Yet, while stabilization plans have made no headway among the groups that they would supposedly
benefit the most, the stabilizationists have remained undaunted in their zeal to force
There seem to be two basic reasons for this failure of business to adopt a tabular standard.
A. As we have seen, there is no scientific objective means of measuring changes in the
value of money.
Scientifically, one index number is just as arbitrary and bad as any other.
Federal creditors and debtors have not been able to agree on any one index number, therefore,
that they can abide by as a measure of change in purchasing power.
Each, according to his own interests, would insist on including different commodities
at different weights in his index number.
Thus, a debtor who is a wheat farmer would want to weigh the price of wheat heavily in
in his Index of the Purchasing Power of Money, a creditor who goes often to nightclubs would
want to hedge against the price of nightclub entertainment, etc.
b.
A second reason is that businessmen apparently prefer to take their chances in a speculative
world rather than agree on some sort of arbitrary hedging device.
Stock exchange speculators and commodity speculators are continually attempting to forecast future prices, and indeed, all entrepreneurs are engaged in anticipating the uncertain conditions of the market.
Apparently, businessmen are willing to be entrepreneurs in anticipating future changes in purchasing power as well as any other changes.
The failure of business to adopt voluntarily any sort of tabular standard seems to demonstrate the complete lack of merit in compulsory stabilization schemes.
Setting this argument aside, however, let us examine the contention of the stabilizers that somehow they can create certainty in the purchasing power of money,
while at the same time leaving freedom and uncertainty in the prices of particular goods.
This is sometimes expressed in the statement,
individual prices should be left free to change, the price level should be fixed and constant.
This contention rests on the myth that some sort of general purchasing power of money
or some sort of price level exists on a plane apart from specific prices in specific transactions.
As we have seen, this is purely fallacious. There is no price level and there is no way that the
exchange value of money is manifested except in specific purchases of goods, that is, specific
Prices. There is no way of separating the two concepts. Any array of prices establishes,
at one and the same time, an exchange relation, or objective exchange value, between one good
and another, and between money and a good. And there is no way of separating these elements
It is thus clear that the exchange value of money cannot be quantitatively separated from the exchange value of goods.
Since the general exchange value, or PPM, of money cannot be quantitatively defined and isolated in any historical situation,
and its changes cannot be defined or measured, it is obvious that it cannot be kept stable.
If we do not know what something is, we cannot very well act to keep it constant.
The fact that the purchasing power of the monetary unit is not quantitatively definable
does not negate the fact of its existence, which is established by prior praxeological knowledge.
It thereby differs, for example, from the competitive price-monopoly-price dichotomy, which cannot be independently established by praxeological deduction for free market conditions.
We have seen that the ideal of a stabilized value of money is impossible to attain or even define.
If it were attainable, however, what would be the result?
Supposed, for example, that the purchasing power of money rises and that we disregard
the problem of measuring the rise, why, if this is the result of action on an unhampered
market, should we consider it a bad result?
If the total supply of money in the community has remained constant, falling prices will
will be caused by a general increase in the demand for money, or by an increase in the
supply of goods as a result of increased productivity.
An increased demand for money stems from the free choice of individuals, say, in the expectation
of a more troubled future, or of future price declines.
Human Action would deprive people of the chance to increase their real cash holdings and the
real value of the dollar by free, mutually agreed-upon actions.
As in any other aspect of the free market, those entrepreneurs who successfully anticipate
the increased demand will benefit, and those who err will lose in their speculations.
and even the losses of the latter are purely the consequence of their own voluntarily assumed risks.
Furthermore, falling prices resulting from increased productivity are beneficial to all
and are precisely the means by which the fruits of industrial progress spread on the free market.
Any interference with falling prices blocks the spread of the fruits of an advancing economy
and then real wages could increase only in particular industries and not, as on the free market, over the economy as a whole.
Similarly, stabilization would deprive people of the chance to decrease their real cash holdings and the real value of the dollar should their demand for money fall.
The Intertwining of General Purchasing Power and Specific Prices raises another consideration.
For money could not be pumped into the system to combat a supposed increase in the value
of money without distorting the previous exchange values between the various goods.
We have seen that money cannot be neutral with respect to goods and that therefore the
whole price structure will change with any change in the supply of money.
Hence, the stabilizationist program of fixing the value of money, or price level, without
distorting relative prices, is necessarily doomed to failure.
It is an impossible program.
Thus, even were it possible to define and measure changes in the purchasing power of
money, stabilization of this value would have effects that many advocates consider
are undesirable, but the magnitudes cannot even be defined, and stabilization would depend
on some sort of arbitrary index number.
Whichever commodities and weights are included in the index, pricing and production will
be distorted.
At the heart of the stabilizationist ideal is a misunderstanding of the nature of money.
Money is considered either a mere numeraire or a grandiose measure of values.
Forgotten is the truth that money is desired and demanded as a useful commodity, even when
this use is only as a medium of exchange.
When a man holds money in his cash balance, he is deriving utility from it.
Those who neglect this fact scoff at the gold standard as a primitive anachronism and fail
to realize that hoarding performs a useful social function.