Alchianian Wisdom

by Don Boudreaux on March 22, 2009

in Inflation

The two greatest living economists yet to receive the Nobel Prize are Armen Alchian and Gordon Tullock.  This post is about Alchian.

For those of you who haven't read Alchian's work, you're missing a cornucopia of insights.  Liberty Fund has gathered many of his best articles into a two-volume collection, edited by my former colleague at Clemson, Dan Benjamin.  It is not at all a stretch to say that, no matter how good an economist someone might be who hasn't studied Alchian's work carefully, that person will become a much better economist by spending several attentive hours with Alchian's writings — writings that span the range from those addressed only to other academic economists to those addressed to broad audiences.

Here, for example, is the opening of an article that Alchian wrote in 1976 ("Problems of Rising Prices"):

I believe inflation is inevitable as a long-run trend, with transient, decade-long interruptions of stable or falling prices.  That forecast reflects my view of government.  Inflation is a tax on money.  Like any tax, it will be used.  The more subtle, the less detected, and the less avoidable the tax, the better it is for those with predominant political power and the more surely it will be used.  I join Keynes in at least part of the following: "progressive deterioration in the value of money through history is not an accident, and has had behind it two great driving forces — the impecuniousity of governments and the superior political influence of the debtor class."

[The Keynes quotation is from page 12 of Keynes's 1923 book, Tract on Monetary Reform.]

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{ 17 comments }

Mace March 22, 2009 at 11:49 am

"Impecuniousity"

That's some word. I had to look it up.

(having little or no money; penniless; poor)

muirgeo March 22, 2009 at 1:04 pm
Greg Ransom March 22, 2009 at 2:13 pm

Note well that it is not only government which pockets the windfall of inflation — those who get the inflated dollars first get a giant windfall over those who touch the money last, or never. I.e. when the Fed inflates, the bankers make out like bandits.

This creates a powerful constituency for inflation — a constituency which has always been one of the largest bankrollers of the politicians. Look at the millions of $$$ Wall Street pours into the campaign coffers of the politicians …

Oil Shock March 22, 2009 at 3:08 pm
muirgeo March 22, 2009 at 4:45 pm

Ravio,

Wäre es besser oder schlechter, wenn Sie nicht verstaatlichen die Banken?

Wo in Deutschland wohnst du?

Gibt es eine libertäre Partei in Deutschland?

maximus March 22, 2009 at 6:56 pm

Wo in Deutschland wohnst du?

Hey muirgeo, thank God for you financial corporals that want to plan our society so us ignorant chess pieces can be led around. God knows, your a better parent than I am.

Bill March 23, 2009 at 1:03 am

Greg: But traditionally it is debtors and not creditors (i.e. banks) who wished for inflation as it made the money owed to the banks worth less than before causing the banks to lose money. Inflation therefore aids the debtors and harms the creditors, such as banks. I fail to see why banks would wish for inflation. Can you please elaborate on this?

Michele Boldrin March 23, 2009 at 1:15 am

Both Armen and Gordon have long deserved the prize, I agree. But up there, in a novel kind of trinity, is Lionel W. McKenzie, who's also alive. And you would, or maybe you would not, be surprised how well his "abstract" theorizing fits in with Armen's and Gordon's more "applied" version of economics.

Alas, I am afraid all three of them have become too "unfashionable" to ever receive the prize they so much more than other deserve.

Keep up the good work.

Best

m

Martin Brock March 23, 2009 at 3:18 am

… traditionally it is debtors and not creditors (i.e. banks) who wished for inflation …

What tradition?

… as it made the money owed to the banks worth less than before causing the banks to lose money.

Banks are monetary authorities, the authors of money. Banks create money to lend it. This assertion is not a consequence of central banking. It is true without a central bank under a gold standard as well.

Debtors and creditors are not rivals for some fixed supply of money. Bailing out debtors also bails out creditors.

Extending credit is fundamentally risky. If an inflationary policy of bailing out debtors, and thus their creditors, cheapens dollars gradually, this cheapening doesn't necessarily hurt the creditors, since the alternative to the bailouts is that creditors aren't paid at all.

You imagine bankers forced to accept 1) cheaper dollars later rather than 2) more valuable dollars later, but this dichotomy ignores the fact that bankers themselves are creating the money. The banker's dilemma is different, 1) possibly pay me in cheaper dollars later or 2) don't pay me at all.

Inflation therefore aids the debtors and harms the creditors, such as banks.

Hardly. Banks are the primary force behind inflation.

I fail to see why banks would wish for inflation. Can you please elaborate on this?

Banks create inflation because banks create money. Frequently, in effect, bankers create money to extend credit directly to themselves, and they're continually bailing themselves out by creating more of it. It's easy to see how this happens under a gold standard as well as a central bank.

You understand money as a commodity, subject to some kind of conservation law, like the conservation of mass governing gold. Money is not a commodity governed this way, so your understanding of money is fundamentally flawed.

Dave Prychitko March 23, 2009 at 8:04 am

Here, here, Don!

My professor, a student of Alchian, used Alchian and Allen's Exchange & Production textbook his micro principles class (way back in 1981). We also delved into a couple articles of Alchian's in his intermediate micro course. I vividly recall saying that Alchian ought to win the prize at that time.

Heyne, Boettke, and Prychitko's The Economic Way of Thinking text, still in print since the early 1970s, is profoundly influenced by Alchian's text.

In fact, when I met Alchian in the early 2000s I mentioned to him that I've become a co-author of the book. Armen joked that "Heyne stole my book!"

Bill March 23, 2009 at 10:20 am

Martin: But if a bank has a 30 year mortgage at 6% owed to it and suddenly inflation gallops to say 10% per annum, how is the bank better off when the dollars it gets back from the borrower are worth much less than if inflation had been a more modest 3% per year. It seems that in the high inflation scenario the bank would actually lose money after adjusting for inflation so inflation, in this instance at least, harmed the bank.

Bill March 23, 2009 at 10:22 am

The above statement assumes that the borrower would still pay the bank in both the high inflation and low inflation scenarios.

lukas March 23, 2009 at 2:52 pm

Bill, the bank shares in the profits from seigniorage that arise whenever there is inflation. This profit is enough to cover the loss from debt devaluation.

Zimbabwe's banks are still around.

Zac March 24, 2009 at 12:38 am

I recently read through "Exchange and Production" – if only modern texts were nearly as good!

Bill March 24, 2009 at 1:12 pm

Central banks can make money off seigniorage (the difference between the value of money and the cost of creating the cash itself) but how can regular banks profit from this? I have never heard of banks such as Wells Fargo sharing in this.

Methinks March 24, 2009 at 6:41 pm

hmmm…but not all creditors are banks. Creditors such as bond holders would be hurt by inflation. No?

GU March 24, 2009 at 8:54 pm

The Alchian & Demsetz paper on Team Production is a classic in the field of corporate governance and should not be ignored.

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