Monday, February 13, 2012
Let's return to the gold standard...
By George Melloan
Ron Paul and Lewis Lehrman have been right all along, never more so than in this age of massive debt.
The futile search for El Dorado, the city of gold, is the stuff of legends, among them a sardonic poem by Edgar Allen Poe about a knight who wasted his life in that pursuit. At first glance, the quest for something far more substantial, an international gold monetary standard, might seem equally Quixotic in today's world where those who govern are disdainful of standards of any kind, including those laid down by the United States Constitution.
But first glances can deceive. The popular pressure for serious monetary reform is building as consumers see their buying power eroded by the sinking value of the dollar. Congressman Ron Paul, despite his naïve foreign policy views, is doing well on the presidential campaign trail on the strength of his demand for abolition of the Federal Reserve Board and a return to sound money. His message is getting a surprisingly receptive response from young audiences on college campuses.
The November 2011 Cato Institute monetary conference in Washington assembled a number of first-rate economists even more critical of fiat currencies than Congressman Paul, if that is possible. Kevin Dowd, a monetary specialist currently teaching at London's City University, warned that, "if the Fed persists along its declared path, the prognosis is accelerating inflation leading ultimately to hyperinflation and economic meltdown." That path, which Fed Chairman Ben Bernanke has taken few pains to conceal, is toward inflating away the debt and deficits the Obama administration and congressional Democrats have racked up over the last three years as they have pursued their goal of putting the federal government in charge of all economic behavior.
Speakers at the conference used words like "immoral" to describe an inflationary policy that robs the poor, destroys the savings of the elderly, erodes the middle class as living standards fall even for people with jobs, and accommodates government profligacy that enriches the politically connected (think Solyndra).
The conference marked a change from many past monetary discussions in that the conferees had lost all fear of uttering that naughty word, "gold." Indeed, the consensus view seemed to be that in these parlous times a return to the gold standard might very well be the only way to restore order in the bawdy house Washington has become.
PAST SHYNESS ABOUT mentioning gold in polite company was a result of what might be called the disinformation campaign, highly successful, that the political left has conducted since FDR nationalized monetary gold and launched the New Deal in 1933. The left has blamed the "gold standard"—with breathtaking over-simplification—for the 1929 Crash, saying it starved the economy of money. The causes of the Crash were far more complex, and if anything, quite the opposite. First of all, the classical gold standard didn't exist in the 1920s, but had been replaced by a far looser "gold exchange" standard, which allowed greater manipulation of monetary policy by the Fed. The central bank at that time had been in business only 16 years and badly mismanaged its new experiments in controlling the money supply.
At any rate, the subsequent Depression wasn't caused by the Crash—the market actually was recovering nicely in 1930. Rather, it was caused by the muddle-headed federal policies that followed the Crash. Herbert Hoover raised taxes and tariffs, bless his heart. FDR, after winning election in 1932 with some reasonable ideas, declared war on private business. Private investment plummeted.
The left's clamor for tax increases and its traditional business baiting—now taking the form of stifling over-regulation—is once again much in vogue among the political classmates of Barack Obama. And it is having effects not unlike those of the Great Depression as both business and consumer confidence is dampened by uncertainty.
As part of the gold standard disinformation campaign, left-wing "progressives" liked to quote their favorite economist, John Maynard Keynes, in his description of gold as a "barbarous relic." In fact, the prolix Keynes had many opinions, and frequently reversed himself, actually praising the gold standard long after his "barbarous relic" remark uttered just after World War I as he argued, quite correctly, against the harsh reparations forced on Germany by the allies. In April 1922, in the Manchester Guardian, he argued that a reintroduction of the gold standard "would promote trade and production like nothing else," and lead to more efficient capital allocation.
That doesn't sound like he thought gold "barbarous." Quite the contrary. But leftists and statists are marvelously selective in choosing only those Keynesianisms that fit well with their agenda of expanding the power and scope of government. The gold standard, when it existed, was a barrier to such aims, which is why advocacy of a return sends them into such hysterics.
IN FACT, gold has served as a reliable form of money through most of history. The Spanish conquistadors in the 16th century stole what they could from American aborigines to turn Spain into perhaps the wealthiest and most powerful colonial power of that era. Throughout monetary history, it is not gold that has been the exception to the rule, but the absence of gold. Totally "fiat" currencies, having no backing other than limited credibility of political regimes, are strictly a modern creation, if you exclude periods like the Revolutionary and Civil wars, when paper was used to pay the troops and suppliers. The old expression "not worth a continental" was derived from the short half-life of the paper issued by the colonies to finance the Revolution.
The return to those dubious greenback experiments occurred in August 1971, when President Richard M. Nixon "closed the gold window" and put paid to the post-World War II Bretton Woods international monetary system. Prior to then, gold had had some role in lending credibility to the U.S. dollar for most of the country's history. Under Bretton Woods, the link was somewhat tenuous—too tenuous to keep the system alive, as it turned out—but it was there. The system specified that the U.S. dollar would be the international standard to which other currencies would be fixed. The dollar, in turn, would be exchangeable for gold among national central banks at a fixed rate. It wasn't exactly iron discipline imposed on the world's politicians, but it functioned reasonably well for 27 years until it was scuttled by the U.S. itself.
The downfall of Bretton Woods began when the administration of Lyndon Baines Johnson indulged in spending excesses trying to launch a big social program (Medicare, etc.) at the same time the U.S. was spending heavily to try to contain Communist expansionism in Vietnam. Nixon, acting on political advice not much better than Johnson's, administered the coup de grâce.
The real gold standard was far more durable. Great Britain operated a true gold standard, meaning that the pound was freely exchangeable for gold by anyone, for 200 years. It was blown apart, along with much of Europe, by the huge costs in lives and treasure of World War I. The British standard was established by the famous scientist, Sir Isaac Newton, when he was director of the mint, and carried forward by the Bank of England, which started life as a private bank with a government charter to supply legal tender. The British Empire, one might say, was built on the solidity and reliability of the British pound sterling. As its reputation for soundness spread to all corners of the globe, willing trade partners signed up. And the empire was built on trade, not military conquest.
The U.S. adopted a true gold standard in 1879, and it lasted until 1914 as well, when it too fell victim to the cataclysm in Europe. Prices during that 25-year period were the most stable of any sustained period in U.S. history and the U.S. prospered. Far from being a restriction on real economic growth, the gold standard was a boon. Confidence in the future value of money spurs long-term investment.
THE IDEA THAT the liquidity of fiat currencies fuels growth is a myth. Quite the opposite has proved true when the record since 1971 is compared with that turn-of-the-century period when the U.S. operated under a gold standard.
Much of this history and argument is covered in a new book by Lewis E. Lehrman, a scholar, philanthropist, and longtime student of monetary policy. Titled The True Gold Standard, it is being published by his own Lehrman Institute in New York, a public policy foundation. Independently wealthy (the Rite Aid drugstore fortune), Mr. Lehrman has been a student of public policy for many years. He ran for governor of New York in 1982, losing in a tight race to Democrat Mario Cuomo. Among his many endeavors was his service on Ronald Reagan's Gold Commission in 1981. He collaborated on the minority report titled, "The Case for Gold."
That report might have made a bigger impact had it been issued two years earlier. Beset by the great inflation of the late 1970s, which cast early doubt on the future of the fiat dollar, Jimmy Carter acknowledged his existential political problem by hiring banker Paul Volcker as Fed chairman with instructions to restore order. That he did at the cost of a sharp but short recession. His necessary bloodletting was firmly supported by Mr. Carter's successor, Ronald Reagan.
The Volcker fix lasted for 20 years and it looked like the fiat dollar might serve after all. But then came the big asset inflation of the 2000s, followed by the 2008 bust. This put the progressives back in power and instead of fixing the dollar, they embarked on a new social spending binge—Obamacare et al.—and ran up the government deficit to its present astronomical level. The dollar is again shaky, with inflation at times nearing the rate it was running, just over 4 percent, when Bretton Woods crashed.
Gold pretty much dropped out of the monetary debate during the 20-year dollar hiatus, but it is back now with a vengeance as prices rise and securities markets are roiled by the massive global overhang of sovereign debt.
The time is ripe for Mr. Lehrman's new book. That's because it goes well beyond making a persuasive case for a return to the gold standard and provides a detailed road map for how to get there. When the time comes for a new U.S. administration and Congress to seriously consider monetary reform—and it will come sooner rather than later if the Fed pursues its current course—Mr. Lehrman's book will serve as a valuable guide.
"I submit this urgent proposal to my fellow Americans and our friends abroad because the historical evidence of the early 20th Century compels me to believe that contemporary international monetary disorder, national currency wars and inflationary impoverishment of working people the world over has again led to violent social disorder, revolutionary civil strife and vicious deflationary consequences," Mr. Lehrman writes.
Those words might well strike a chord with Americans trying to fathom the reasons for their current mood of unease that goes beyond the obvious concerns about inflation and unemployment. The time is ripe for a reconsideration of the gold standard.
MR. LEHRMAN QUICKLY dispels the notion that there isn't enough gold above ground to operate a true gold standard. The global stock of gold today, some 5 to 6 billion ounces, roughly approximates global population, as it has for centuries. But at any rate, nothing like the entire stock of gold is needed to operate a gold standard. That's because individuals prefer the convenience of paper (or electronic) currency over lugging around gold coins. You don't have to mint a huge amount of gold coins to operate a gold standard. It works this way: If the price of gold in paper money goes up, the gold standard automatically reduces emissions of paper. Conversely when the price of gold falls, more paper is emitted by the monetary authority. These adjustments maintain the value of paper, without requiring a vast supply of gold.
It is, of course, important to get the initial exchange rate between paper and gold right. The British gold standard broke down after World War I because the Bank of England tried to return to the prewar parity and thereby set the price of gold too low. It failed to take into account wartime inflation.
Mr. Lehrman's detailed road map for a return to gold requires that the U.S. lead the way by announcing a date certain on which the U.S. dollar would be convertible to gold. Before that date, the U.S. would announce the conversion rate. This is an intricate process, particularly after the sharp run-up in the world market price of gold that has accompanied the abuse of the dollar by the Obama administration and its co-conspirators at the Fed. But Mr. Lehrman believes it is manageable and the success of past gold standards supports that belief.
To implement the standard internationally, Mr. Lehrman proposes an International Monetary Conference to work out a system of exchange rates, much along the lines of the old Bretton Woods system. The crucial difference would be that, unlike with Bretton Woods, the currencies of the conferee states would also be convertible to gold.
It is at this point, that Mr. Lehrman's road map may get to be a bit too intricate. Rather than trying to set parities among national currencies, à la Bretton Woods, it might be better to let them do as they wished, fixing to the dollar as they come to recognize such fixing as a source of stability, just as some countries, China, for example, have with the present dollar.
Of course, that might lead to arguments such as the ones raging today over whether this or that country tried to gain competitive advantage by fixing too low. But that argument is a bit spurious, because it is by no means clear that fixing exchange rates too low yields any long-term advantages. Rather, it would appear that the U.S., not China, has been the main beneficiary of any rigging that China has done on behalf of its export industries. China's goods have been a bargain for American consumers and China has financed the American government's debts. During the heyday of the U.S.-China trade, the U.S. enjoyed near-full employment. The rise in U.S. unemployment occurred when a nontradable good, housing, went sour.
IT MIGHT BE SAID that a simpler approach than Mr. Lehrman's might be the most likely way to get back to a gold standard. The Ron Paul strategy is more direct, but at the same time more subtle. In early 2011, the Texas Congressman introduced H.R. 1098, a refreshingly short (three pages) bill which he called "The Free Competition in Currency Act of 2011." It would repeal the legal tender laws of the United State Code which give the Federal Reserve a legal monopoly on money creation.
The Congressman says that his bill would "reinforce the Constitutional mandate in Article 1, Section 10, that forbids states from making anything but gold and silver coin a tender in payment of debts." In other words, H.R. 1098 would make Federal Reserve notes subject to domestic competition. Should it become law, who knows what would happen, but most likely Americans would gravitate toward a more reliable form of money, quite likely based on a precious metal.
The progressives now in power in Washington will move heaven and earth to prevent any such thing from happening. The compliant Fed with its monopoly on money creation is at the center of their game plan. But that game plan is wearing thin with the American people as the economic malaise it has caused spreads across the nation to everywhere except booming Washington itself. A return to gold-based money would solve a lot of problems.
Paul's presidential campaign, win or lose, has brought the sad state of the dollar into the public debate, much against the wishes of all those political players who want to pursue business as usual. Lew Lehrman has fleshed out the debate with his road map on how to get back to sound money. It will become harder and harder as we near the 2012 election to dismiss their warnings as merely a new outcry from "gold bugs." The objective reality of an America in decline argues otherwise.