A Tract on Monetary Reform

by John Maynard Keynes

We conclude that Inflation redistributes wealth in a manner very injurious to the investor, very beneficial to the business man, and probably, in modern industrial conditions, beneficial on the whole to the earner. Its most striking consequence is its injustice to those who in good faith have committed their savings to titles to money rather than to things. But injustice on such a scale has further consequences. The above discussion suggests that the diminution in the production of wealth which has taken place in Europe since the war has been, to a certain extent, at the expense, not of the consumption of any class, but of the accumulation of capital. Moreover, Inflation has not only diminished the capacity of the investing class to save but has destroyed the atmosphere of confidence which is a condition of the willingness to save. Yet a growing population requires, for the maintenance of the same standard of life, a proportionate growth of capital. In Great Britain for many years to come, regardless of what the birth-rate may be from now onwards (and at the present time the number of births per day is nearly double the number of deaths), upwards of 250,000 new labourers will enter the labour market annually in excess of those going out of it. To maintain this growing body of labour at the same standard of life as before, we require not merely growing markets but a growing capital equipment. In order to keep our standards from deterioration, the national capital must grow as fast as the national labour supply, which means new savings of at least £250,000,000[7] per annum at present. The favourable conditions for saving which existed in the nineteenth century, even though we smile at them, provided a proportionate growth between capital and population. The disturbance of the pre-existing balance between classes, which in its origins is largely traceable to the changes in the value of money, may have destroyed these favourable conditions.

[7] That is to say, it costs not less than £1000 in new capital outlay to equip a working man with organisation and appliances, which will render his labour efficient, and to house and supply himself and his family. Indeed this is probably an underestimate.

On the other hand Deflation, as we shall see in the second section of the next chapter, is liable, in these days of huge national debts expressed in legal-tender money, to overturn the balance so far the other way in the interests of the rentier, that the burden of taxation becomes intolerable on the productive classes of the community.

II.—Changes in the Value of Money, As affecting Production.

If, for any reason right or wrong, the business world expects that prices will fall, the processes of production tend to be inhibited; and if it expects that prices will rise, they tend to be over-stimulated. A fluctuation in the measuring-rod of value does not alter in the least the wealth of the world, the needs of the world, or the productive capacity of the world. It ought not, therefore, to affect the character or the volume of what is produced. A movement of relative prices, that is to say of the comparative prices of different commodities, ought to influence the character of production, because it is an indication that various commodities are not being produced in the exactly right proportions. But this is not true of a change, as such, in the general price level.

The fact that the expectation of changes in the general price level affects the processes of production, is deeply rooted in the peculiarities of the existing economic organisation of society, partly in those described in the preceding sections of this chapter, partly in others to be mentioned in a moment. We have already seen that a change in the general level of prices, that is to say a change in the measuring-rod, which fixes the obligation of the borrowers of money (who make the decisions which set production in motion) to the lenders (who are inactive once they have lent their money), effects a redistribution of real wealth between the two groups. Furthermore, the active group can, if they foresee such a change, alter their action in advance in such a way as to minimise their losses to the other group or to increase their gains from it, if and when the expected change in the value of money occurs. If they expect a fall, it may pay them, as a group, to damp production down, although such enforced idleness impoverishes society as a whole. If they expect a rise, it may pay them to increase their borrowings and to swell production beyond the point where the real return is just sufficient to recompense society as a whole for the effort made. Sometimes, of course, a change in the measuring-rod, especially if it is unforeseen, may benefit one group at the expense of the other disproportionately to any influence it exerts on the volume of production; but the tendency, in so far as the active group anticipate a change, will be as I have described it.[8] This is simply to say that the intensity of production is largely governed in existing conditions by the anticipated real profit of the entrepreneur. Yet this criterion is the right one for the community as a whole only when the delicate adjustment of interests is not upset by fluctuations in the standard of value.

[8] The interests of the salaried and wage-earning classes will, in so far as their salaries and wages tend to be steadier in money-value than in real-value, coincide with those of the inactive capitalist group. The interests of the consumer will, in so far as he can vary the distribution of his floating resources between cash and goods purchased in advance of consumption, coincide with those of the active capitalist group; and his decisions, made in his own interests, may serve to reinforce the effect of those of the latter. But that the interests of the same individual will often be those of one of the groups in one of his capacities and of the other in another of his capacities, does not save the situation or affect the argument. For his losses in one capacity depend only infinitesimally on him personally refraining from action in his other capacity. The facts, that a man is a cannibal at home and eaten abroad, do not cancel out to render him innocuous and safe.

But there is a further reason, connected with the above but nevertheless distinct, why modern methods of production require a stable standard,—a reason springing to a certain extent out of the character of the social organisation described above, but aggravated by the technical methods of present-day productive processes. With the development of international trade, involving great distances between the place of original production and the place of final consumption, and with the increased complication of the technical processes of manufacture, the amount of risk which attaches to the undertaking of production and the length of time through which this risk must be carried are much greater than they would be in a comparatively small self-contained community. Even in agriculture, whilst the risk to the consumer is diminished by drawing supplies from many different sources, which average the fluctuations of the seasons, the risk to the agricultural producer is increased, since, when his crop falls below his expectations in volume, he may fail to be compensated by a higher price. This increased risk is the price which producers have to pay for the other advantages of a high degree of specialisation and for the variety of their markets and their sources of supply.

The provision of adequate facilities for the carrying of this risk at a moderate cost is one of the greatest of the problems of modern economic life, and one of those which so far have been least satisfactorily solved. The business of keeping the productive machine in continuous operation (and thereby avoiding unemployment) would be greatly simplified if this risk could be diminished or if we could devise a better means of insurance against it for the individual entrepreneur.

A considerable part of the risk arises out of fluctuations in the relative value of a commodity compared with that of commodities in general during the interval which must elapse between the commencement of production and the time of consumption. This part of the risk is independent of the vagaries of money, and must be tackled by methods with which we are not concerned here. But there is also a considerable risk directly arising out of instability in the value of money. During the lengthy process of production the business world is incurring outgoings in terms of money—paying out in money for wages and other expenses of production—in the expectation of recouping this outlay by disposing of the product for money at a later date. That is to say, the business world as a whole must always be in a position where it stands to gain by a rise of price and to lose by a fall of price. Whether it likes it or not, the technique of production under a régime of money-contract forces the business world always to carry a big speculative position; and if it is reluctant to carry this position, the productive process must be slackened. The argument is not affected by the fact that there is some degree of specialisation of function within the business world, in so far as the professional speculator comes to the assistance of the producer proper by taking over from him a part of his risk.