The article rejects Milton Friedman’s claim that the Great Depression was caused by the Federal Reserve’s failure to expand the money supply, arguing instead that 1920s credit inflation distorted production and depleted the real “subsistence fund” of voluntary saving needed to sustain capital investment.

The subsequent collapse in bank lending and the measured money stock is presented as a consequence of that depleted fund, not as evidence of insufficient monetary stimulus; further inflation would only prolong the malinvestment.

The author contends that recovery requires restricting rather than expanding the money supply so that genuine saving and capital formation can resume, and criticises later Fed officials for treating Friedman’s inflationary prescription as settled policy.

In his writings, Milton Friedman blamed the Federal Reserve for causing the Great Depression of the 1930s. Friedman believed that the US central bank failed to inflate enough money into the banking system to prevent the collapse of the money supply and the economy. The money supply M1, which stood at $28.264 billion in October 1929, fell to $19.039 billion by April 1933—a decline of almost 33 percent.

According to Friedman, because of the collapse in the money supply, economic growth followed suit. By July 1932 year-on-year industrial production fell by over 31 percent. Also, year-on-year the consumer price index (CPI) plunged. By October 1932, it fell by 10.7 percent.

After observing a large decline in the money supply, which was followed by a large decline in economic activity and prices, Friedman had concluded that the fall in the money supply was the key cause behind the Great Depression. However, observation is not explanation.

To explain what caused the Great Depression, one must identify the key driver of genuine and productive economic growth. The answer is that it is production and exchange, then voluntary saving that enables capital accumulation and investment and which sustains various stages of the structure of production through time.

An individual must consume to some extent. Goods, however, are often not readily available and have to be extracted from nature through production or traded in exchange. Without tools at his disposal, an individual could only secure very few goods from nature, a process that would be labor and time intensive.

Production must precede consumption. However, in order to progress, people must not only produce but must consume less than the full amount of their production, that is, they must save. In addition to enabling investment in capital goods, saving also supports people engaged in various stages of the structure of production through time. This can also be called a subsistence fund. In part, the state of this fund determines the quality and the quantity of various tools or capital goods that can be made.

Enhancement of the structure of production is what makes the increase in economic growth possible,........

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