Hayek's The Constitution of Liberty - Institute of Economic Affairs

h ay e k ’ s t h e c o n s t i t u t i o n o f l i b e r t y
p r e v e n t i n g i n f l a t i o n
gold or other commodities. Hayek doubts, however, that any of
these mechanical solutions were practicable at that time (333–5).
Discretion here can be limited, but never eliminated. In fact,
central banks require ‘much discretion’ to fulfil their task of forestalling
or counteracting ‘developments in the realm of credit,
for which no simple rules can provide sufficient guidance.’ Additionally,
when it comes to preventing great fluctuations in prices
and employment, a central bank cannot always wait ‘until rule or
mechanism forced it to take action’ (336).
The denationalisation of money
By the mid-1970s, Hayek had concluded that any central bank that
monopolises the issuance of all kinds of money would succumb
to political pressures and eventually inflate the currency to
dangerous levels. Thus he came to advocate ‘the denationalisation
of money,’ which deprives government of its monopoly of the
issue of money and permits banks to offer competing currencies,
though not the official one (Hayek, 1978b [2009]). In The Constitution
of Liberty, Hayek wrestles with the problem of achieving
monetary stability even while leaving governmental institutions
in control of the money supply. His later strategy, by ending
this government monopoly or ‘denationalising’ money, offers a
market-based solution to the problem. Having to compete with
other currencies would ‘impose a very necessary discipline upon
the governmental issue of currency through the threat of its being
displaced by a more reliable one.’ With citizens free to choose
the most trustworthy currency, government would ‘be deprived
not only of one of the main means of damaging the economy and
subjecting individuals to restrictions of their freedom but also of
one of the chief causes of its constant expansion.’ While severely
limiting government’s discretion in matters of monetary policy,
Hayek does see a need for considerable discretion in its management
of financial policy. As ‘the biggest spender and investor,’
government should, insofar as practicable, ‘distribute its expenditure
over time in such a manner that it will step in when private
investment flags, and thereby employ resources for public investment
at the least cost and with the greatest benefit to society’
(1979: 59; cf. 57–8).
In view of Hayek’s later position, it should be mentioned
that in The Constitution of Liberty he does question, in a lengthy
footnote, whether central banks should monopolise the issue of
all kinds of money: ‘there seems to be no reason whatever why
the state should ever prohibit the use of other kinds of media of
exchange, be it some commodity or money issued by another
agency, domestic or foreign’ (520–21). The footnote does not
consider whether competition from private banks might be sufficient
to restrain government’s monetary institutions.
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