It was only in the 1860s that the word “inflation” began to be used in an economic context and then with a meaning quite different from the one it has today. The North and the South fought the Civil War much as the American colonists had fought the redcoats (and as French revolutionaries had battled the forces of absolutist monarchy): with men, guns, and fiat currency (so called because much as God said, “Fiat lux” and there was light, so governments said, “Let there be money”). At the start of the conflict, the United States Treasury had approximately two million dollars at its disposal (the war cost roughly 125 times that amount) and the Confederacy’s coffers were empty.4 Both sides issued paper, but the Confederacy’s key doctrine of states’ rights meant it did little to enforce its currency’s acceptance. While Southerners were invited to accept Confederate dollars as a show of patriotic support, no one was obliged to take them. Since the same ideology also meant that the Confederacy collected no “national” taxes, the South had no promise of future income backing its currency.
Instead, the whole monetary system depended on individuals’ estimation of the likelihood of Confederate victory. As long as its early military successes continued, Southerners accepted the Confederacy’s bills at face value. But when the Union occupied New Orleans and the commanding general prohibited the use of Confederate money, faith in the paper quickly began to collapse.5 In the North, where the federal government collected the usual excise duties and stamp taxes (and imposed an emergency income tax), the guaranteed revenue stream helped ensure that the greenbacks held their value somewhat better than the competing greybacks. Moreover, the Union won the war. At its end (and despite the North’s victory), goods purchased with greenbacks sold for roughly four times the price of the same items paid for in coins or in bank-issued notes. Critics accused the Lincoln administration of “inflating” the country’s money supply—puffing it up overnight with temporary paper.
When it entered economic usage, then, “inflation” referred not to rising prices but to expanded supplies of money. Debate raged over whether “inflation” (what we today call “stimulus” or “quantitative easing”) would or would not increase prices, but in this period when “inflation” did not necessarily mean rising prices, the relationship could be thought in various ways. As long as it meant “increased availability of money,” inflation could be understood as facilitating trade, encouraging investment, and even benefiting the poor. Moralizing critics could worry about the corrupting effects of “easy money” on society but policy enthusiasts could counter that more currency in circulation would make it easier for borrowers to pay off their debts. Lawmakers could even be “pro-inflation.”