Falling Prices


IN medical science there is an axiom to the effect that ‘where many remedies are suggested, there is none that is effective,’ If such an axiom applies to the field of political economy, business must be in a ‘bad way,’ for there is no limit to the number of suggested cure-alls for the present ailing condition of business and industry.

Of course there are some who still say that all of our troubles are but a state of mind, — the Christian Scientists of business, if you please, — who would have us change all merely by thinking prosperous thoughts. Such talk may be appropriate for the drawing-room after a good dinner, but it is not readily accepted by the hundreds of thousands who are facing starvation; nor does it help the farmer who finds his wheat selling at about half of what it did a year ago; nor does it make the retailer feel any better in the face of a 15 per cent reduction in sales, nor the wholesaler who finds his sales off almost a fourth.

A ‘business is good’ slogan enclosed with the notice of a passed dividend may be just as satisfactory as a dividend check, but I doubt if many will find it as negotiable. A decrease of one third in railroad earnings, a drop of one fourth in bank clearings, over 3000 commercial failures in one month, 142 bank failures in one week, time money in Wall Street at 2 per cent, call money renewing at 1½ per cent, and over five million workers unemployed, may mean that business is good, but I doubt it.

If, then, we are willing to admit that business is not good, but suffering from some acute malady, it is but natural that we should lend a willing ear to those who propose a cure-all for our troubles.

Since there is no pure food and drugs act requiring our business doctors to show on the label the ingredients which make up their remedies, it is necessary that these cure-alls be analyzed, first as to their content, and secondly as to their probable effect on business, before we can decide which, if any, has the greatest possibilities of benefit.

All doctors agree that business is suffering from a declining price level, a malady which apparently is worse than leprosy or the seven-year itch. If we accept the diagnosis of the trouble as correct (and there is no doubt that prices have declined and, at the time this is written, are still declining), then all that is necessary is to change the trend of prices from down to up, and presto, business is well again.

In order to understand the basis of these cure-alls, it is necessary that we accept a fundamental principle of economics, the quantity theory of money, which is that prices are controlled by just two factors, the volume of business transactions and the supply of currency. If the supply of money and other forms of credit increases faster than the quantity of goods transferred in the market, prices will rise; if the quantity of goods to be marketed increases faster than the circulating medium, prices will fall; and if both increase or decrease in the same proportion, prices will remain stationary.

This is expressed by the formula

where P represents price, M, money, and T, the volume of trade.

But, as local chambers of commerce and similar ‘ booster ’ organizations have been demonstrating, it is not only the amount of money, but the rapidity with which it circulates, that helps to keep prices up; so we must multiply the amount of money by its rapidity of circulation, R, in order to complete our formula, which then becomes

If prices are falling, it may be because too many products are reaching the market, too little money is in circulation, or the right amount of money is circulating too slowly. Therefore, to check the fall of prices, all that is necessary is to adjust arbitrarily one or more of the factors in our formula, and immediately depression is over. The cure is so simple that it is no wonder that the 1930 election resulted in a repudiation of the party in power, for any party that would permit a business depression to last but an instant is guilty of the grossest negligence.

Of course, in defense of the party in power it may be said that, though the remedy is so simple, the doctors are not in agreement as to which factor in our equation is the ailing one. Some declare that the reason for declining prices and the resulting depression is too little money, some say too much production, while still others maintain that business has developed that dread disease of the business man himself, faulty circulation.


When I was a youth, my favorite doctor belonged to that school of medical thought called the homeopaths. His medicine tasted the best, he was the least likely to hurt, and he was the most positive in his diagnosis of any doctor in town. He would take my pulse and temperature, look at my tongue, thump my chest a bit, and confidently state that I was suffering from acute coryzal rhinopharyngitis, and then leave a few sugar-coated pills which he assured me would cure the trouble in short order.

Just as I in my youth looked first to the homeopath for relief from my ills, so business looks first to those doctors whose remedy is the least severe. These doctors, after taking the pulse and temperature of business by means of statistics and charts, gravely announce that we are suffering from a deficient supply of currency, prescribe the expansion of currency by the Federal Reserve System, and confidently predict an immediate recovery from the depression.

It is, of course, easy to see from our formula that any increase in the supply of money will mean an increase in price. The Federal Reserve System is charged by Congress with the responsibility of expanding or contracting the volume of currency in circulation according to the needs of trade and commerce.

If more currency is needed in any particular part of the country, all that is necessary is for member banks in that part of the country to rediscount their notes with the Federal Reserve Bank, for which the Reserve Bank will issue reserve notes. When the borrower repays his note, the member bank will rediscount another note if it still needs the money, or, if not, will send in the currency. However, if the difference between the Federal Reserve rediscount rate and the current rate at which the member bank lends its funds is quite large, the member bank, according to the accepted theory, will be inclined to extend greater credit to its customers, since rediscounting is profitable; but if the difference in rates is small, the bank will urge repayment of loans and will be less inclined to grant credit, since rediscounting is then unprofitable.

Apparently the Federal Reserve rediscount rate should have a very great influence upon the amount of currency in circulation and the amount of bank credits that are granted; so, by varying the rediscount rate, the Federal Reserve System is alleged to be able to prevent fluctuations in prices. For, if prices have a tendency to rise, — meaning, according to our formula, too much money in circulation, — an increase in the rediscount rate will result in a contraction of bank credit and the retirement of many of the Federal Reserve notes in circulation, which will cause prices to fall; and conversely a decline in prices can be checked by reducing the rediscount rate, which will stimulate liberal credits by banks and thereby increase the volume of money in circulation.

Here certainly we have a cure-all for our business ills; yes, it is possible that Senator Brookhart is right and we have only the Federal Reserve System to blame for everything that goes wrong with business.

Many prominent financiers and business men have been quoted recently as placing the blame for the business depression on the inaction of the Federal Reserve System and have urged that drastic steps be taken to change the trend of prices. Perhaps we can better understand the remedy they propose if we review the action of the Federal Reserve System during the past few years in attempting to stabilize prices.

In the summer of 1927, the Federal Reserve System, at the request of European bankers, reduced its discount rates to 3½ per cent and purchased government securities in the open market on a large scale in order to ease money in the United States and thereby aid European countries, particularly Great Britain, in their efforts to establish or reëstablish their gold standards. Prices began to rise almost immediately, and in the first part of 1928 the Federal Reserve System reversed its policy, began to resell its holdings of government bonds, and increased the rediscount rate to 4 per cent, then to 4½ per cent, and finally, in July 1928, to 5 per cent in a vain attempt to check prices. Commodity prices finally yielded to the pressure and remained constant for almost a year, but stock prices continued to rise. In August 1929, the rediscount rate of the Federal Reserve Bank of New York was increased to 6 per cent in a further attempt to force liquidation of stocks held on a margin, but this action was deprecated by the professional advisors of business who told of the ‘new era’ of values in which hopes and expectations of future accomplishments were substituted for actual earnings and past records as a test of value.

Then came the crash of October 1929, which was followed immediately by a drop in the rediscount rate to 5 per cent, then to 4½ per cent in December, and successive drops in the past year until, in December 1930, the Federal Reserve Bank of New York reduced its rate to 2 per cent. Such radical reductions in the rediscount rate should certainly have been effective in checking the drop in prices, but our formula failed just as disastrously to function in the depression of 1930 as it did in the boom of 1929.

The critics of the Federal Reserve policy now claim that reductions in the rediscount rate are not sufficient, and that deflation should be checked by artificially increasing the outstanding volume of currency by buying, in the open market, government bonds. The money received from the sale of these bonds would in theory be placed in circulation, and prices would rise because of a greater supply of money.

Unfortunately for this cure-all, the facts are that at present the Federal Reserve System is holding over six hundred million dollars’ worth of government bonds, a greater amount than at any other time in its history. All of these bonds have been purchased since November 1, 1929, in a vain attempt to check the decline of prices.

Six hundred million dollars is more than one fourth of the total legal reserves of all the member banks of the Federal Reserve System. Federal Reserve Bank operations in government securities on a scale much smaller than this should, according to the Annalist, turn the money market upside down, and should make a scarcity of capital look temporarily like an overabundance of capital; yet such operations by the Federal Reserve System, combined with the lowest rediscount rate in its history, have failed to bring about an increase in prices, so by what line of reasoning can we hope that further attempts to increase the volume of currency artificially will stimulate business activity? To what use would this additional currency be put? Would it be used to finance new automobile factories, when the industry is unable to keep present plants running at more than half time? Would it be used to finance new railroads, when many of the present roads cannot, out of current earnings, meet their interest charges? Would it be used to build new office buildings, when mortgages on present buildings are being foreclosed because of insufficient rent income? Would it be used to build new apartment houses or residences, when real-estate bond and mortgage concerns are bankrupt or in the hands of receivers because of too many foreclosures? Some suggest that the money would be used to buy foreign bonds to finance purchases of our products by foreign governments, but who would buy foreign bonds in the face of the spread of revolution in South America and Bolshevism in Europe and Asia, even though we could forget our disastrous experience with foreign bonds during the last three or four years?

I am fearful that this very pleasant sugar-coated pill of the homeopaths of political economy will prove to be sugar all the way through, and just as ineffective in the large doses our specialists would prescribe for us as it has been in the careful doses that have been given us by the Federal Reserve System.


Having found the remedy prescribed by one group of doctors ineffective, it is necessary that we look further for relief, so we come to a group of doctors of political economy who, had they chosen medicine for a profession, would have been osteopaths. These specialists claim that our trouble is due entirely to faulty circulation, and that by a few treatments they can stimulate circulation and cure our business ills. In our formula, R represents the rapidity with which money circulates. It is estimated that the normal rate of circulation is about twelve times a year. Therefore, if we can increase the rate of circulation to eighteen times a year, we shall accomplish the same result as though we increased the amount of money by 50 per cent.

It must have been one of these specialists who placed the admonition to ‘buy now’ on each page of the November issues of Liberty. Babson, that eminent prophet of business who takes great credit for predicting the stockmarket crash several months before it happened, proposes, as a cure-all for depression, greater expenditures for advertising on the part of industry to promote greater buying on the part of the public and thus increase the rapidity with which our money circulates from our pockets to the retailer, to the wholesaler, to the manufacturer, to the advertising agency, to the magazine, to Babson’s pocket.

Readers of the Atlantic Monthly noted an article by Foster and Catchings, entitled ‘Riotous Savings,’ in which their solution for all of our business troubles was more spending and less saving. They make a very plausible case for spending on the theory that savings are of no value unless invested in productive enterprise, and, as there is too much productive enterprise now, the solution is to spend and spend and spend, whether wisely or foolishly, they do not care, just so we raise the consumption of goods to the productive capacity of the nation.

These authors have shaken off the shackles of their profession and have become pupils of Henry Ford, that self-appointed authority on practically all subjects, who has recently turned his attention to economics and developed a new theory called by Kenneth Burke ‘the economic value of waste’; for Mr. Ford bases all prosperity on the increasing productivity of industry. Of course, there is a limit to the amount of goods that an individual can consume, but there is no limit to what he can waste; therefore business need never face a saturation point. The rapid destruction of goods, either through misuse, obsolescence, or waste, means more spending, therefore an increase in the rapidity with which our money circulates and a resulting increase in price.

When Henry Ford himself practises his own preachings by placing sand instead of grease in the bearings of his machinery so that they will wear out more rapidly, then and only then shall I be willing to accept this theory of ‘the economic value of waste.’

All these schemes, and many more that I have not enumerated, have but one purpose, that of increasing the rapidity with which money circulates and therefore accomplishing the same purpose as an increase in the volume of money; but I am fearful that they will all come to naught, since those that would listen to such advice are still making payments on 1929 installment purchases and have nothing left to spend, and those that are able to spend realize that it is against their own best interests to spend at the present time.

Others, such as B. C. Forbes, place the obligation to spend upon the leaders of industry rather than individuals. Louis Guenther, the publisher of the Financial World, in a recent article told of the large cash reserves of industry. He says, ‘Induce owners of this capacious purse to open it and again freely spend its contents, of which they have more than ever before owned, and commerce will then quickly take care of itself and eliminate all further occasion for discouraging comparisons.’

It was this theory that prompted President Hoover’s key men of industry to promise billions of dollars’ worth of new construction for 1930. The one key man that made his promise good was the president of a Western railroad, who completed before March 1929 his entire year’s construction programme in a vain attempt to do his part to restore prosperity. Recent calculations have shown that, had this railroad waited until late summer or fall before starting its construction programme, the contract prices would have been reduced by almost 20 per cent. I am fearful that the stockholders of this railroad will be more inclined to censure than applaud the patriotism of their president.

Since self-interest is always more powerful than community interest, I fear that industry will not take kindly to our osteopathic treatments to stimulate circulation. Since industry will not and individuals cannot respond to such treatment, I am afraid we must conclude that there is no more likelihood of business recovery from following the advice of the osteopaths than there was from following the advice of the homeopaths of economic theory, so we must look to a more strenuous remedy for our cure.


When all other remedies fail to restore an individual to good health, the surgeon is finally called in, and after much consultation and examination the patient is finally placed upon the operating table and the offending organ is removed. If the patient is alive when removed from the operating room, the operation has been exceedingly successful.

Just so with business, for the surgeons of economic thought to whom we have finally referred our business ills have diagnosed our trouble as too much trade, or overproduction, and have recommended an operation.

Stuart Chase, in a recent article entitled ‘Overproduction, the Enemy of Prosperity,’ tells us that the automobile industry of this country is capable of producing over eight million cars each year, yet in the boom year of 1929 only 6,295,000 cars were sold in the entire world. The boot and shoe industry is capable of producing over nine hundred million shoes a year, yet in a boom year less than one third that number of shoes were sold. American oil wells are capable of producing almost six million barrels of oil a day against a demand for less than four million. The overproduction of the textile industry is well known. The steel industry is capable of producing sixty-six million tons against a demand for forty-two million. The overproduction in agriculture has been so well advertised by Chairman Legge of the Federal Farm Board and all the other real friends of the dirt farmer that it is a waste of effort to mention it here.

Therefore, according to the surgeons, all that is necessary to cure our business troubles is to ‘cut out’ overproduction, thereby reducing the volume of trade and automatically increasing prices, which will end the period of depression.

But, unlike their counterparts in medicine, the surgeons of economic theory operate without the benefit of any anæsthetic. The cries of hunger of the families of the five million unemployed, punctuated at intervals by the dull thuds of business failures, bear witness to this lack of anæsthesia.

In the past, such operations have been a complete success, according to our surgeons, for the patient failed to die. But of course business was left in such a weakened condition, owing to the lost purchasing power of the masses, that the convalescent period was greatly prolonged and the scars of the operation, in the form of abandoned factories and homes, have remained as evidence of the illness.

Then, too, there are those graduates of the newer school of economic thought who have developed a wonderful anæsthetic variously known as export debentures, valorization, stabilization, and the like. Under the influence of this anæsthetic, it is not necessary to curtail production; it is only necessary to control the amount of the product that reaches the market. The valorization of coffee is the most typical example of the application of this anæsthetic. In 1906 an overproduction of coffee reduced prices to such a low figure that the producer was not getting his costs, so the Brazilian Government, which produced at that time 70 per cent of the world’s coffee supply, in coöperation with the State of São Paulo, decided to hold coffee off the market by purchase, transportation, or storage. Planters were lent money by the government on the security of their warehouse receipts. The funds for these loans came from heavy taxes on the transportation of the coffee and on the planters themselves, as well as from foreign borrowing. Excess crops of bumper years were disposed of in leaner years, but the high price of coffee, when compared with the cost of production, made the bootlegging of coffee in Brazil exceedingly profitable, and planters began to raise coffee in Colombia, Venezuela, Central America, and the Dutch East Indies. Not only did the high price of coffee exaggerate its overproduction, but it also resulted in a very considerably decreased demand, until at the present time, with coffee selling at less than one fourth what it did three years ago, valorization has been abandoned, the credit of Brazil and the State of São Paulo is ruined, and the government of Brazil is overthrown. It would appear that the patient had been killed by an overdose of the anæsthetic.

Similar deaths by anæsthesia have occurred in the rubber, cane sugar, nitrate, and camphor industries; yet, had it not been for the courage of President Hoover or the influence of Wall Street, we should have seen agriculture placed on the table to be operated upon by Doctors McNary and Haugen, while the breath of Senator Brookhart, as he yelled ‘Export debentures,’ was to anæsthetize the patient.

I am not unmindful that a certain measure of success has been achieved in a few closely knit industries by controlling the volume of trade or products that reach the market, and thus, to a very considerable degree, controlling the price of the product or service. The ultimate test of such schemes comes not in a period of boom, but in a period of depression, such as we are now experiencing, and it is quite possible that before long we may be forced to revise our estimates of the success of such price or trade agreements as exist among the fruit growers, in the oil industry, or in the building trades.

Certainly I am not willing to admit that the cure for our business ills is to be found in price-fixing plans, under which the producer may grow or manufacture an unlimited supply, receiving therefor a fixed price or loan, out of the proceeds of which he is to pay in taxes or in some other manner share his proportionate part of the total loss of his particular industry. The danger of death from such an anæsthetic is greater in my opinion than the danger of death from overproduction or whatever may be ailing industry.

Nor am I willing to admit that we are suffering from a disease that can be cured only by a major operation without anæsthetic. I am beginning to wonder if the surgeons are any more certain to cure than are the osteopaths and homeopaths of economic theory. In fact, I am beginning to wonder if they are not all actuated by selfish motives and more interested in the collection of their fee than in the recovery of the patient. Since I have lost faith in their cures, I am beginning to lose faith in their diagnoses.


What is this dread disease, ‘Falling Prices’? What is there so sacrosanct about price that our whole effort should be expended in a vain attempt to hold it to a certain level? Price is merely a convenient method of expressing the rate at which various commodities are exchanged, one for the other. What difference does it make whether twenty bushels of wheat or forty pounds of beef are exchanged for one ounce of gold or one hundred ounces of gold, so long as the ratio of a bushel of wheat to a pound of beef remains as one is to two ?

After all the credit that has been taken by the Republican Party for the prosperity of our country, as evidenced by the high wages of labor and the great profits of industry, it is nothing short of heresy even to entertain thoughts of price reductions, but I am convinced that we cannot dispose of the excess products of industry and agriculture by maintaining prices in excess of world prices. President Hoover in his message to Congress boasted that wheat prices at Minneapolis were 30 per cent higher than at Winnipeg and 20 per cent higher than at Buenos Aires. He said corn prices at Chicago were over twice as high as at Buenos Aires and wool prices were more than 80 per cent higher than abroad.

We are told that the salvation of industry and agriculture is to increase the consumption of their products. What better way is there to increase consumption than by reduction in prices to such an extent that our domestic markets can be broadened and our surplus products can compete in foreign markets with the products of other countries? How can we hope to dispose of a surplus of raw or manufactured products in foreign markets at a price in excess of the current world price?

The only way we can develop our foreign markets is to reduce our high domestic prices and to tear down our protective tariff wall, of which the Republican Party is so proud, so that we can exchange our products for the products of foreign countries which we need. We must exchange these products on the basis of real values as expressed in labor, services, and raw materials, not in that artificial medium known as the dollar, the pound, or the franc.

There is just one way we can place ourselves in a position to do this, and that is by reductions in price throughout the entire industrial structure. Wages, salaries, interest, and profits must be reduced along with the prices of raw and manufactured products. Then and only then will the now idle wheels of industry begin turning at somewhere near their capacity. Then and only then will unemployment cease to be a problem.

Do not for one moment confuse reductions in the prices of all commodities with a decrease in the high standard of living of which we are all so proud. A high standard of living is not dependent upon the amount of money income of the individual — it is dependent upon the amount of consumption goods for which that money income can be exchanged.

We all remember that after the World War, shortly before the stabilization of the German mark, a day’s wage for a German laborer was thirty billion marks, while a loaf of bread cost one billion marks. Such wages meant anything but a high standard of living in Germany. Recent investigations under the auspices of the League of Nations have proved conclusively that the higher wage of the American worker as compared with the worker of other countries does not mean the command of a proportionately greater amount of consumption goods.

Do not confuse a general reduction in the price level with the cure-alls of our modern business specialists which we have found so ineffective in restoring business to its former prosperity. It is no hypodermic injection which will immediately transform business from a condition of depression to the state of hysteria that accompanied the war period, or to the frenzied activity of the stock-market fiasco. It is merely an orderly process by which the unhealthy conditions surrounding business at the present time can gradually be eliminated. For so long as we cling to our absurd tariff barriers and so long as we boast of the high prices of our products as compared with world prices, while at the same time we produce more than can be consumed in our domestic market, just that long shall we continue to have periods of business depression with increasing severity.

Until goods can be transported from an area of overproduction to an area of want without regard to territorial limits and unhampered by tariff, export debentures, valorization, price cartels, or what not, we shall continue to have the absurd situation that exists to-day — where all over the world there are too many raw products, too many manufactured products, too much of agricultural products, too much labor, too many factories, too much clothing, too many buildings, too much coal, too much of foodstuffs. There is too much of everything. That is why so many people on the face of the earth are condemned to die of starvation, or freezing, or some similar inconvenience.