Inflation Principle

A money is often presumed to change in purchasing power in proportion to the demand for goods that it represents. In other words, with twice the amount of money each unit of the money will trade for half its previous amount of goods, as the increase in goods implies lower demand for them. This is a proportional relationship between monetary inflation and price inflation (or deflation). The money relation is an expression of the law of supply and demand.

• Rising supply market money, such as Gold and early Bitcoin, consumes the same value in goods as it creates in new units - including the opportunity cost of the capital invested in doing so. As such it produces no change in proportionality and therefore no price inflation.

• Monopoly money is not subject to competitive production, allowing its producer to obtain a monopoly premium in the pricing of new units. As such it increases the proportion of money to goods, resulting in price inflation.

• Falling supply market money, such as late Bitcoin, consumes no goods in the destruction of existing units. As such it decreases the proportion of money to goods, resulting in price deflation.

With market money, consumption of goods in production occurs during production. With monopoly money the production discount of seigniorage manifests as an uneven tax. As the new supply is introduced the tax is lower for earlier trades, with prices increasing over time.

The presumption of proportionality refers to the goods "represented" by a money. If there was only one money, this would be a straightforward relation to all goods. However the relation must be addressed in the case of multiple monies. The goods represented by a money are those that are traded for it. In other words, the relation assumes constant demand for the money.

Yet demand does not remain constant in the case of a decision to mine. New demand for the money is created by the fact of mining. The miner trades (consumes in production) additional "representation" capital for the money. The new money is entirely offset by the demand increase, represented by the consumed goods. Therefore proportionality is preserved in the case of multiple monies.

The generalization of this principle applies to all goods. In other words, economic growth is not price-inflationary in a free market.

Changes in the supply of money must necessarily alter the disposition of vendible goods as owned by various individuals and firms. The quantity of money available in the whole market system cannot increase or decrease otherwise than by first increasing or decreasing the cash holdings of certain individual members.

Mises: Human Action

This implies that all new money first affects existing “cash holdings”. Yet this is not the case with market money. The creation of it first reduces goods holdings, increasing demand for “vendible goods” proportionally. When the money is introduced, it increases the cash holdings of those who produced it, and subsequently others. But the preceding reduction of goods cannot be ignored in evaluation of the money relation. The statement conflates market money with monopoly money, as the latter does not consume its value in goods as a consequence of its production.

This error persists despite explicit recognition that mining consumes in goods the value that it produces in new money.

The fact that the owners of gold mines rely upon steady yearly proceeds from their gold production does not cancel the newly mined gold's impression upon prices. The owners of the mines take from the market, in exchange for the gold produced, the goods and services required for their mining and the goods needed for their consumption and their investments in other lines of production. If they had not produced this amount of gold, prices would not have been affected by it.

In fact the money relation is unchanged and as such no net effect on prices is implied. This error then infects dependent theories.

Prices also rise in the same way if [...] the demand for money falls because of a general tendency toward a diminution of cash holdings. The money expended additionally by such a "dishoarding" brings about a tendency toward higher prices in the same way as that flowing from the gold mines [...]. Conversely, prices drop when the supply of money falls [when] the demand for money increases (e.g., through a tendency toward "hoarding," the keeping of greater cash balances).

This statement is based on the error of assuming that market money is inflationary. It is therefore unproven by it. Money prices for a good rise due to increasing demand for that good. Yet the money relation pertains to all goods demanded in the money. As such, absent a change in the amount of goods, the increase in money exchange demand for one good implies a reduction in that for others.

As such no net change in the money relation is implied by hoarding money. Increased hoarding implies higher time preference, which is the ratio of hoarded capital to loaned capital (capital ratio), reflected as the interest rate.