Gold Fools
Megan McArdle offers your primer on why the gold standard sucks worse than fiat currency. Tyler Cowen piles on. I mention this only because: 1) you still run into libertarians – and some conservatives – who want to so-called “sound money,” and 2) one of them is Ron Paul. (Other schools of libertarianism are fine with fiat currency, but want to end the federal government’s monopoly on printing money.)
I don’t much care that Ron Paul is a gold bug. I care some, because gold buggery is a deeply bad idea. You can make an argument that it shows such bad judgment that such a man should never be president. And I get your point. But for one thing, when it comes to Republican presidential candidates the question is the relative level of insanity. Also, actually, the relative level of raw, pulsating evil. Which is a kookier enthusiasm, specie-backed currency or launching misbegotten wars against ever more countries? Which is more vile? Now answer similarly for specie-backed currency versus official torture. Versus the gutting of habeas corpus.
Something I don’t know is whether a president could put America back on the gold standard unilaterally. The five-minute google is pretty uninformative on the question. I read a bad thriller once that indicated the Nixon administration took the US off gold without legislative action, but that doesn’t mean President Paul could get the US back on gold. And I do know that the last serious Republican “hard currency” proposal, the Reagan Administration’s commodity-basket concept, died quietly.
Comment by BillWoolsey —
September 5, 2007 @ 10:02 pm
Ron Paul has proposed the repeal of legal tender laws. Contracts in terms of gold (or anything else) would be enforceable. He has also proposed that capital gains (calculated in terms of fiat currency) not be taxed.
Paul has described this approach as allowing people to use gold (or some other commodity) if they chose.
He believes that fiat currency will sooner or later result in rapid inflation. At that time, people will return to gold (or some other commodity.)
I don’t think the President could unilaterally compel the Federal Reserve to redeem Federal Reserve notes with gold or else compel it to target the price of gold.
I think the President could have the Treasury sell off its gold holdings to keep the price of gold from rising–at least until the gold runs out. And isn’t that what happened with Nixon?
I think many of the arguments McArdle made were confused. She did point out some of the weaknesses of a gold standard.
Comment by Leonard —
September 5, 2007 @ 10:20 pm
Fools, eh? Thankyouverymuch. Very well, let’s engage then.
I’ve already responded to many of Megan’s specific points, over at her post. So read that if you want. Argh! I can’t get the link to work here, so I’ll just give the URL.
http://meganmcardle.theatlantic.com/archives/2007/09/theres_gold_in_them_thar_stand.php#comment-498257
More generally, though, what Megan, and lots of folks, don’t understand about “the gold standard” is we are really talking about several different things.
One is a “gold standard” in its broadest sense, which is to say, a government-monopoly money based on paper or bits, where the government allows in some limited way some redemption of the paper or bits for actual, real gold, at a price the government determines. In this case, many criticisms apply, some of which Megan made. Most particularly, if the amount of gold the government owns is X, and it issues claims for Y amount of gold, where Y >> X, then you can see there may be a problem. If these facts are known you can expect speculative attacks on the currency, or more generally, bank runs. This system has no advantage over a fiat system. Historically it was the conversion of the gold standard into a fractional gold standard that set the stage for its demise.
Most gold bugs, at least those I am familiar with, are really advocating much more than backing money nebulously with at least a pinch of gold. They are advocating several things, in increasing order of radicalness (but correctness):
(a) sound money, meaning requiring full backing for all currency. A “gold specie standard”, technically.
(b) free market money production. This requires the abolition of the immoral “legal tender” privilege enjoyed by the dollar.
[c) the withdrawal of the state from all production of money, including coinage, printing, bit-flipping, etc.
(d) the identification of fractional reserve banking as fraud, laws against it, and the placement of all banks on an actuarially sound basis of operation.
These are all different things, and IMO all four would be required to create a system superior to the current system of fiat in all ways. However, even going to just [c) would be a vast improvement in most ways. Just (a) by itself has the problem of preventing the government from violating its own rules. So does (b), more broadly (they might just reinstitute legal tender laws for the privileged state currency), but that’s a lot harder to do without public scrutiny, at least, and resistance from people being dispossessed.
I don’t know what Ron Paul’s actual stance is. I suspect (b), without really knowing that much. On the other hand, he is fairly chummy with real hardcore gold types, including Lew Rockwell, who is a fullbore libertarian buying into Rothbard’s analysis of money, as I do, including everything through (d).
If you want to know where radical libertarians are coming from, you have to have read Rothbard’s “What has the government done to our money”, available at the Mises Institute site.
Comment by bbartlog —
September 5, 2007 @ 10:38 pm
I’m also rather skeptical of the gold standard (or any commodity-backed currency) despite being a Ron Paul supporter. But like Jim I doubt that Paul could actually do much about it as president (without the help of Congress, which would not be forthcoming). Whereas when it comes to war, habeas corpus, Gitmo, and probably wiretapping and the war on drugs, I think he could do quite a bit unilaterally…
Comment by Leonard —
September 5, 2007 @ 10:44 pm
The federal reserve is a semiprivate corporation, and as such, does not have to take orders from the President. Control of it is indirect, via appointees. In theory Paul might eventually be able to replace the board of governors — he appoints them, but they have to be confirmed. Their terms are 14 years. I expect that the Congress would be careful not to confirm goldbugs to the board.
If Paul wanted to play hardball, the President can remove governors “for cause”, although that is not defined. So he might be able to replace the whole slate. The confirmation would still be there.
I don’t see Ron Paul, who is as far as I can tell a very decent human being, ginning up fake “cause” the way I could see Bush’s cronies doing if there was political gain to be had.
Comment by Glaivester —
September 5, 2007 @ 11:15 pm
Let me elaborate on one of Leonard’s points:
(b) free market money production. This requires the abolition of the immoral “legal tender†privilege enjoyed by the dollar.
Put another way, you could write contracts that demanded payment in gold, silver or another commodity. (Currently, one must accept dollars as payment by law). This way, if the dollar got too inflated, people could switch to some less malleable currency.
Comment by Azael —
September 5, 2007 @ 11:54 pm
Versus the gutting of habeas corpus.
Amen. I’d rather have Ron Paul spending his entire presidency trying to set us back to the 19th century, economically, than any of the rest of that pack of jackals.
Comment by Nicholas Weininger —
September 6, 2007 @ 12:11 am
Wait a minute. It’s late at night and all, but I just don’t get Leonard’s (d). I see how fractional reserve is fraud if it’s misrepresented, and how in actual fact it is, but why is it *ipso facto* fraudulent? How would it be fraud if the bank said clearly up front, “look, if nearly everyone went to withdraw their money at once we’d just have to say no, so, you deposits your money and you takes your chance”? This is not a difficult deal to understand, and it’s pretty safe compared to a lot of things we libertarians believe people should be allowed to do. Maybe not many people would actually consent to the deal absent the explicit and implicit protections government now gives at the expense of our liberties and wallets; but why not try it and find out?
Comment by Leonard —
September 6, 2007 @ 12:48 am
Nicholas, several thoughts on that.
First off, it is ipso facto fraudulent to claim ownership of something you don’t own. It certainly may not be harmful, even most of the time. But these are different things. The idea in fractional reserve is that both the depositor and the bank own the money.
Second, the nature of fractional reserve is that it will be misrepresented. Corporations bend the truth all the time in pursuit of profit. This may not be such a problem for smarter customers, but the rules applying to public corporations ought to protect stupid people more than the smart. Let the smarties sign a waiver saying they really, truly understand that the bank has only 10% of its demand deposits on hand, and that if the bank goes bankrupt, the customer accepts all responsibility for being screwed deeply and fully.
Third, with the terms of fractional reserve laid out clearly, namely, that you are gambling your entire deposit on the ability of the bankers find good investments, and in their honesty, and in pure dumb luck that nothing awful goes wrong for them and/or the larger economy, I don’t think you’d find any takers by comparison to a simple, guaranteed, CD.
On the other hand, the market is innovative. It would certainly be possible with modern technology to drop the term of CDs down to a day, or even less, and by assembling many such microloans create loans on a human timescale, and thus be able to mostly simulate what a fractional reserve looks like from the customer’s POV. That being, a demand deposit which pays interest.
Comment by ajay —
September 6, 2007 @ 5:07 am
Put another way, you could write contracts that demanded payment in gold, silver or another commodity. (Currently, one must accept dollars as payment by law). This way, if the dollar got too inflated, people could switch to some less malleable currency.
The infamous al-Yamamah arms deal between Saudi and BAE Systems, for example, specifies payment in oil. BAE has been doing rather well out of rising oil prices.
But, seriously, I don’t think that increasing the amount of FX risk in the economy by introducing lots of new currencies is at all a good idea. Frankly, it’s nuts.
Comment by quasibill —
September 6, 2007 @ 7:31 am
Wow.
I think I’d have problems linking approvingly to someone who says that inflation is useful for overcoming the “problem” of sticky wages. Yeah, because the free market is only supposed to benefit the capitalists, dontcha know?
She is the very personification of every strawman of libertarianism that leftists create to attack. It’s kinda funny how some “free-market” true-believers can spot one aspect of free markets that they want to intervene to “correct” – the tendency of falling returns to capital investment.
But hey, at least she’s not a “gold bug kook!”
Comment by Jim Henley —
September 6, 2007 @ 7:40 am
Dude, did you actually read the sticky wages link?
Comment by quasibill —
September 6, 2007 @ 9:26 am
Dude, yep, and I’ve read all about the concept – it undergirds Bernanke’s “inflation targetting”.
Of course they put it in terms of “hurting employment” – that’s how you spin it. All it is is a cynical ploy to protect established firms against new competitors – the established firms don’t have to pay the price for their agency costs.
Google “Downward rigidity of wages” and read about it some – there’s a lot of scholarship on it. The gist of it is that “them poor ol’ bosses are takin’ it bad ’cause theyz too scared to ask their employees to take a pay cut, so let’s just fool the employees into taking a pay cut by adjusting the value of their compensation without their knowledge or consent!”
Sounds ultra-free-market friendly to me! At least if you’re a believer in Randian ubermenschen…
Comment by Underpants Gnome —
September 6, 2007 @ 10:17 am
Here is an article by Dr. Paul on the subject.
Comment by Alex —
September 6, 2007 @ 11:05 am
The thing about gold buggery is that different forms of craziness aren’t independent variables, they’re covariant. Where you find one foundationally crazy belief, you often find another.
Comment by Glaivester —
September 6, 2007 @ 5:30 pm
Did you read this piece?
The gold standard cannot do what a well-run fiat currency can do, which is tailor the money supply to the economy’s demand for money.
In other words, a gold standard interferes with central planning of the economy. I don’t see how a libertarian can argue against a gold standard on this basis.
Comment by Glaivester —
September 6, 2007 @ 5:31 pm
Just to be clear, the quote was a part of the Megan McArdle article that Jim linked to.
the first sentence should have read:
Did you read this sentence of McArdle’s article?
Comment by Bill Woolsey —
September 6, 2007 @ 7:00 pm
Fractional reserve banking isn’t fraud.
If one wants to “store” money at a bank, you pay for a safe deposit box.
If you deposit money at a bank, you are lending money to the bank.
A bank can borrow money and promise to pay it back after a specific term. Or it can promise to pay whenever the lender (depositor) wants.
A bank can lend “call” money which it can collect when it wants. Or it can lend money for a specific period of time.
While banks can “match maturities” by funding loans with monies borrowed for the same term, they don’t have to do this. They can borrow for three months and then lend for six months. They just have to borrow more money after three months to pay back the first money.
By promising to pay on demand, the banks are only promising to have whatever part of the money the depositor wants when the depositor actually wants it.
Of course, there are risks for a bank borrowing on these terms. And if the bank fails, then the lender (depositor) won’t be able to collect everything when it is due.
There are credit risks because the bank may not collect on the loans it makes. And there are liquidity risks, which is that a depositor might want their money before the banks loans come due.
And if the bank loses enough money due to these risks, it fails, and the depositor takes a loss as well. Safety for the depositor is fundamentally a function of the bank’s capital. That is, its net worth. That is the losses it can take before it fails.
Depositors are generally willing to take the risk that a bank will have losses greater than its capital because they save on storage fees, charges for checks, and often earn interest.
That is, if there were a 100% reserve bank, there would be a risk of loss from theft, but no credit or liquidity risk. But depositors would have to pay storage fees, as well as the full cost of check clearing.
Anyway, probably most libertarian economists favor “free banking” which allows banks to hold whatever reserves they believe appropriate, with the assumption that they will hold “fractional reserves” though with that fraction changing with the needs of business rather than some kind of fixed fraction that have been traditionally imposed by governments.
Actually, there are good reasons to believe that the supply of currency and checkable deposits (and other bank liabilities) would adjust to the demand for them.
It is true, however, that if currency and deposits are redeemable in gold, then the price level and other aspects of macroeconomic performance would depend on the supply and demand for gold, both the monetary demand and the industrial demand.
P.S. If one really imagines that “I promise to pay you back when you ask,” means the same as “I am storing your money for you,” then all that is needed is for banks to promise to pay the money back tomorrow and then roll over the deposit until notified. That means, that after the first day, all the money is due each day, because it was lent the day before. So, checkable deposits and currency could be issued and used exactly like that which involves a promise to “pay on demand.” And, this jsut shows how the silliness of the claim that “fractional reserve banking is fraud.”
Comment by Alex —
September 7, 2007 @ 4:16 am
I seem to recall Daniel Davies saying that he can’t understand why people have a beef with fractional-reserve banking; it’s worked for the last four hundred years and financed the agrarian, industrial and postindustrial revolutions, after all.
Further, let me introduce y’all to our friend the Federal Deposit Guarantee Corporation; Paul Krugman described it as the most successful US government program ever, on the basis that since it has existed there has never been a run on the bank.
And this is incredibly stupid:a gold standard interferes with central planning of the economy. I don’t see how a libertarian can argue against a gold standard on this basis.
What isn’t “central planning” about deciding to tie the entire flow of money and credit to the price of an entirely arbitrary yellow rock, and forcing anyone who wishes to exchange currency to deal with the central bank only?
Comment by Glaivester —
September 7, 2007 @ 5:46 am
Alex-
(1) Most gold advocates are not advocating a central bank to enforce the gold standrad.
(2) Megan McArdle was arguing for a “well-run” fiat currency to “tailor the money supply to the economy’s demand for money.”
I’m not sure how to interpret this unless it means a central bank running the currency. If that is not central planning, what is?
Comment by Jim Henley —
September 7, 2007 @ 6:33 am
Glaivester: Hayek opposed central planning of the economy, in the Soviet style, because it couldn’t work. Central bank-fostered fiat currency seems to work pretty well. Specifically it works better than specie-backed currency did, in the sense that post-specie recessions have been shorter and shallower than recessions were in the specie era. Mechanically, Hayek said central planning failed because it destroyed the information contained in prices, thus preventing the local knowledge economies and societies require for effective function from having an impact. Professional central banking does not seem to have the same effect.
Now, you may have something of a “worst rise to the top” argument against central banking if you believe the following, which I half believe myself: “What started as an understandable horror of excessive inflation on the part of federal reserve governors has become a distaste of wage gains for labor, causing today’s central bankers to send signals that real wages for workers must never rise.” Maybe I quarter-believe it. That’s about as close as central banking comes to failing Hayek’s central-planning test, I think.
Comment by Bill Woolsey —
September 7, 2007 @ 11:48 am
Adjusting the supply of money to the demand for money isn’t the same thing as centrally planning the economy. Granted, money is very important, and errors by the central bank can be very important, but to suggest this is centrally planning the economy shows that one has never considered what central planning requires.
If the Federal Reserve sought to determine the amount of each loan, lending money for this or that project based upon the common good, this would be getting close to central planning. But even then, there would be self-financed activity. It would only be credit finance that was centrally planned. Close, but not complete.
Central planning involves determining how much of each good is produced, how it is produced (what technologies) and, at least for intermediate and capital goods, where the goods go. Factory A produces X amount of coal which is sent to Factory A, B, and C in the following quantities. For everything!
The Federal Reserve’s control over the quantity of money doesn’t do anything like this. Imagine if the Fed tried to control each business’ particular spending. That is, the Fed would have to preapprove each check. That would be using control over the banking system to centrally plan the economy.
Finally, I think it is just wrong that central bankers try to prevent real wages from increasing. Roughly, they would hope and expect that real wages would increase with improvements in labor productivity. They have no notion that they will control relative wages, much less use monetary policy to freeze real wages. I think the more common view is that it would be impossible. If market forces are raising real wages, trying to stop this with monetary policy would result in delfation. I am not observing much deflation in the U.S.
While I think Megan is correct that the “ideal” policy for a central bank issuing fiat money is to adjust the supply of money to the demand, the demand cannot be directly observed. If the central bank makes an error, and supplies too much or too little money, it can only observe the consequences. Sometimes, shortages of labor could be a relatively early sign of an error of that sort. On the other hand, labor shortages could develop for other reasons.
And that is the problem with central banking. Is some change in interest rates or unemployment or production the result of a failure of the money supply to track money demand, and so something that should be reversed using monetary policy? Or is it due to something else, so that the change in monetary policy causes a disruption.
It is very difficult to say.
Comment by Leonard —
September 7, 2007 @ 12:26 pm
Jim, there’s two problems with the argument you’ve just made.
First, we don’t know how an honest currency would stack up against a fiat currency. We do know that a state-run, fractionally commodity-backed currency sucks. As I said before, this is not rocket science. If you hand out Y titles to X valuable items, and Y >> X, there’s going to be a problem. Partially backed currency is worse than fiat. At least with a fait currency there is the right balance between the intrinsic value of the dollar — zero — and the amount they can print: infinity. Zero:infinity can be stable, and 1:1; other ratios are not.
We do not know why fiat-era recessions have been shallower than those on fiat. Of course, the proponents of socialized money will argue as you do: fiat causes soft recessions. But times are different now than they were then; we are a far richer society, we are far more focused on consumption and not the production of capital goods, and the economy is far more complex and diverse. All of these things may affect how recessions play out.
This is rather like arguing about why the welfare state provides superior welfare to the more laissez-faire era that preceded it. Libertarians mostly understand that the much, much poorer society that we were 100 years ago cannot be fairly compared to ours now, at least not without much hemming and hawing. The fact that they had, i.e., sweatshops and we don’t may have been caused only by government action, or it may have been an inevitable economic evolution in any rich society.
In short: that positive change is correlated with state action does not mean it is caused by it.
The second big problem with your argument is that the fiat dollar is not played out yet. There’s certainly one known problem with fiat: a fiat currency can be hyperinflated. All fiat currencies have either collapsed into hyperinflation, or else they still exist. (I don’t know about that “all”. Maybe it is just “most”. Anyone out there know of a fiat currency that has been replaced by a commodity currency for reasons other than hyperinflation?) In 200 years, there’s a good chance that gold will still have more or less its current value; I doubt the dollar will still exist then.
Now, it may be that in going to world-scale socialist fiat money, the money-men really have got something for nothing. They’ve made a system so large there is no risk! However, the economist in me screams “No” whenever I hear anything like that. Rather, I believe that by making a huge centralized system, they have decreased the chance of its failure, by making it more resistant to increasing large regional hits, but they have increased the consequences of any failure over some threshold. A sufficiently large blow to the system will collapse it as a whole. It cannot fail piecemeal.
That we’ve not seen a serious failure yet (of the dollar, that is), is not an indication that it never will fail. Just that the size of the economic event necessary to trigger a failure is sufficiently large as to be quite rare.
But consider this. Right now, we are running the US government in part by borrowing money from the Chinese. We are racking up huge dept that will have to be repaid — someday. The way to do that honestly would be to dramatically raise taxes while slashing spending, sharply reversing the political logic of the last, oh, 75 years. Do you find that likely? That we would cut Social Security to the bone while, say, doubling income taxes? I do not find it likely. Rather, the easiest way out of the problem will be to run the printing presses. (Actually the bit-presses, if you take my meaning.) Pay back the Chinese and all the other suckers with inflated dollars. This will cause a huge problem, perhaps even a military confrontation, but certainly very high inflation, perhaps to the point of hyperinflation. The problem will not be only the amount of new money needed to pay back the Chinese; it will also be the financial markets panicking and rushing for the exits, everyone trying to sell dollars and dollar-denominated assets.
Comment by Charles Hueter —
September 7, 2007 @ 2:18 pm
Adjusting the supply of money to the demand for money isn’t the same thing as centrally planning the economy. [...] Central planning involves determining how much of each good is produced, how it is produced (what technologies) and, at least for intermediate and capital goods, where the goods go. Factory A produces X amount of coal which is sent to Factory A, B, and C in the following quantities. For everything!
“The USSR didn’t systematically root out every single instance of private property, so it really shouldn’t be considered totalitarian.”
C’mon, Mr. Woolsey. You don’t think a single state-supported and state-enforced organization with the power to command how much it costs for banks to get money from the state and how much reserves banks must hold comes close to central planning? The Open Market Committee may not be a thinly-veiled front for [insert evil cabal here], but it does constitute a centrally-planned element of the economy.
Comment by Glaivester —
September 8, 2007 @ 7:06 am
Now, you may have something of a “worst rise to the top†argument against central banking if you believe the following, which I half believe myself: “What started as an understandable horror of excessive inflation on the part of federal reserve governors has become a distaste of wage gains for labor, causing today’s central bankers to send signals that real wages for workers must never rise.â€
Yeah, that’s my main concern about central banking, that it is too eager to stop inflation. Not that, you know, it might print out a ton of money to finance the Ira
qn War or something.