THE THEORY OF INTEREST

then with falling, prices, and so synchronizes with high prices. Alow rate of interest corresponds first with falling, and then withrising, prices, and so synchronizes with low prices.

The process of inflation boosts both prices and interest,until a still further boost of interest is made by the banksin order to stop the over extension, leaves a peak of priceswith high interest before, at, and after that peak, while,contrariwise, the process of deflation reduces both pricesand interest until a still further reduction of interest ismade by the banks in order to stop the depression, leavesa valley of prices with low interest before, at, and afterthe valley.

Such considerations seem to be sufficient to explain theotherwise puzzling and apparently irrational coincidencewhich we have so often found to exist between high andlow prices and high and low interest rates.

The only alternative interpretation of which I canthink is that a high or low price level is not a monetaryand nominal affair but a matter of real commodities.Sometimes, as in France and Italy just cited, the highprices may be closely associated with impoverishment.If it were true that a high price level usually signifieda real scarcity of goods—a low income stream—while alow price level usually signified relative abundance, wecould explain our puzzle by the relation of time prefer-ence to the size of the income stream. But the facts ingeneral do not seem to justify such an interpretation , 20least of all in the United States in the War years whenthe correlations are the highest. During that period, in-comes increased at a tremendous rate, and interest ratesadvanced pari passu.

30 See the author’s The Money Illusion. New York, Adelphi Company,1928, pp. 41-42.

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