Should we consider a gold standard?

Lawrence H. White responds to critics.  In my Cato email I received:

"A gold standard does not guarantee perfect steadiness in the growth of the money supply, but historical comparison shows that it has provided more moderate and steadier money growth in practice than the present-day alternative, politically empowering a central banking committee to determine growth in the stock of fiat money," White concludes. "From the perspective of limiting money growth appropriately, the gold standard is far from a crazy idea.”

"Far from a crazy idea," OK.  But would you push the button for it?  I say no.  There is little doubt that over the broad sweep of world history, commodity standards have outperformed paper money.  But we don’t live in the broad sweep of world history, we live in 2008 and our ability to monitor and control central banks is unparalleled.  The central banks of the wealthier nations work pretty well.  My main worry with the gold standard is simply the pro-cyclicality of the money supply and for all its talk of money demand the paper doesn’t much address this concern.  For instance would you really want a contracting money supply in today’s environment?  And yes credit crunches of this kind happen in market settings too so you can’t blame it all on Alan Greenspan. 

And I am not reassured by this (admittedly true) sentence: "At the right reentry rate, dollar prices would not need to jump [from the transition]."  One five or ten percent deflation is enough to crush the economy and indeed the whole gold standard idea.  Given the socialist calculation debate, can we really know the right transition price?  Gold at $900 an ounce?  $600 an ounce?  Anybody?

Addendum: Here is White’s response; see also the exchange in the comments with White and others.


The purchasing power of gold has varied over a factor of ten since the 70s. Hardly a standard of value. More like pork belly futures.

the price of gold would have to be set much higher then any foreseeable market clearing price. This was one of the problems in the 1960s when the gold price was too low and private speculators kept buying gold from governments in anticipation of a higher price.

At stable gold prices, industrial, jewelery and third world gold demand grows faster than both world real GDP and the supply of gold.

As a consequence over the long run the real price of gold has to keep rising.

If gold is the base for the money supply this implies that all other prices must fall -- deflation.

Gold based money systems worked when we measured economic growth in terms of decades or centuries. But if we are going to experience rapidly rising world wide standards of living the gold supply is inadequate.

Anybody have references to the purchasing power of gold over the last few decades? I couldn't find any good info through googling.

Sure, we can consider a gold standard--let's consider how many times its failed to be enforced. Gold has historically had many issues over the past couple of centuries--when it flees a nation-state, it causes bank failures and a return to fiat money. Today governments have accumulated so much gold in their reserves (think of Roosevelt's 1933 gold seizure and the law preventing its use as legal tender) from that they can effectively inflate its value any time they want if they don't redefine it by fiat: governments cannot prevent themselves from redefining its value for monetary interventions, its like saying that governments can reduce spending or lower taxes in the long term.

Today you cannot simply "go back" to a gold standard unless you also reign in debt-based money issued by central, commercial and personal banking systems. Governments especially appreciate what bankers can do for them when they want to fund new wars. "Gold standard? What? There's a war to be fought! There's money to be made!" Don't believe this? Gold has failed many, many times. Just in America alone we have: 1797 (gold flees Britain to France after the French institute a gold standard to solve their hyperinflation--gold starts leaving New York causing bank failures), 1819 (contraction after the War of 1812, funded by government borrowing), 1837 (banks stopped paying in specie, after the western real estate bubble where people borrowed money from banks to buy public lands at $1.25/acre), 1857 (discovery of gold in California causes inflation, the collapse of speculative investments in railroads, followed by public confidence disruptions like the loss of 30,000 pounds of gold at sea off the coast of North Carolina in a hurricane), 1873 (speculative investments in railroads collapse, again more bank paper issued in unrestrained credit--makes you think of today's Internet bubbles, eh?). It keeps going: 1884 (gold reserves in Europe are depleted, US Treasury halts investements and calls in loans), 1893 (public confidence in banks falters and the banks can no longer redeem notes for gold, but still for silver), 1896 (silver reserves are depleting), and 1907 (banker's panic caused by retraction of loans).

Today I think we're beginning to see the great unwinding of debt-based monetary expansion that has lasted almost 100-years since the creation of the Federal Reserve and the last 30 years or so since we left the Bretton Woods system to a purely fiat currency. Going back to a system that manages the supply of currency to an economy isn't a crazy idea, its the getting of governments and bankers to stick to it--that's the crazy part. They never do.

This is about the same as trying to decide what the best style of dress is -- clearly there is no objectively "best" type, just that which people tend to prefer. The debate should be: should the government (the Constitution notwithstanding) decide and manage for us what we are to use as a medium of exchange? I say no. As with clothing, let the market decide. It's quite the opposite of revolutionary.

My main worry with the gold standard is simply the pro-cyclicality of the money supply and for all its talk of money demand the paper doesn't much address this concern. For instance would you really want a contracting money supply in today's environment? And yes credit crunches of this kind happen in market settings too so you can't blame it all on Alan Greenspan.

The money supply under the gold standard would be less cyclical than under a fiat standard. You are wary of a contracting money supply in today's environment, but ignore the expanding money supply caused by Easy Al hitting the monetary accelerator/panic button on numerous occasions. In a market economy, the evidence is that credit crunches would be smaller and the fallout from them less painful.
Greenspan should be in leg irons and should have to disgorge the ill-gotten profits from his book.

Who audits the gold reserves? Even with a gold standard, governments have ample room for shenanigans. And why gold, other than for historical reasons? Why not platinum or some other substance?

Free market money is the proper way to go. Combined with the monopoly on coercion, a government controlled currency (even with nominal commodity backing) is a recipe for sure disaster. Legal tender laws, along with capital gains taxes on non-dollar transactions should be eliminated.

I must say I am quite stunned by Tyler's faith in today's central bankers.

I don't expect free market money to return until the present debt-as-currency regime collapses- but collapse it will.

"But we don't live in the broad sweep of world history, we live in 2008 and our ability to monitor and control central banks is unparalleled."

Why doesn't the Fed publish the data on M3 anymore?

E-Gold's been having some trouble, too: E-Gold.

I reply to Tyler's post here .

Many of the anti-gold-standard arguments in the previous comments on Tyler's post are addressed in my Cato Briefing Paper, available at the link Tyler provides.

Tell that to the makers of the Ron Paul Dollar. The feds scrambled to their door pretty quickly.

I suspect there's more to that than meets the eye. The claim in the article is that users were trying to "spend" the RP dollars. What does that mean? It's obviously legal to barter medallions with Ron Paul's face or any other design on them for some other goods or services. I myself recall bartering pieces of cardboard with baseball players' faces on them for other pieces of cardboard with other players' faces. I never got arrested for this, nor did my friends who did the same, despite our activities being open and widely known.

OTOH, it's surely illegal to claim that the medallions are "dollars" in a meaningful sense. Are you sure you know what these guys are accused of?

lawrence White --- you keep referring to the case of Canada. But Canada is a special case because they only have a few national banks. Their system is an oligopoly where the central banks plays a very different role then in a competitive banking system. This is why the history of the Canadian system, especially in the depression has little relevance to the argument you are making.

If you remove the restrictions on legal tender,

What is all this business about legal tender? All it refers to is something that must be accepted in payment of a debt. If you owe me money, what is it about "legal tender" that prevents me from accepting gold in payment if you offer it?

To elaborate: "In 2006 the U.S. Mint issued a press release stating that prosecutors at the Justice Department had determined that using Liberty Dollars as circulating money is a federal crime. The press release also stated that the “Liberty Dollars† are meant to compete with the circulating coinage (currency) of the United States and such competition consequently is a criminal act."

Why gold? It seems to me that it does not make a good currency for the US (we don't have enough supply relative to the rest of the world). Silver would fail as well. Indeed, haven't gold standards been shredded by flooding the market, i.e., Spain in the 16th century? And weren't there problems when there was a gold/silver standard in this country in the 19th century?

I say we go for a standard for a resource that the US has a relatively great deal of. Maybe helium or uranium.

No one is going to invest in any sort of serious competing currency in the United States unless federal and state governments make it extremely clear they will not interfere on the side of the US dollar. It would take a large, trusted entity such as CitiGroup to push anything like that into mainstream acceptance, and CitiGroup is not going to take any chances with legality or potential legislation at all. Capitalists just don't invest heavily into industries that are questionably legal or that they suspect could be destroyed by congress.

I'm sure CitiGroup has some powerful lobbying power, but I really doubt they could pull any strings in a high-profile issue like competing currencies. Without knowing how congress would react, starting a new currency is just way too risky for any entity which is trusted enough to pull it off. They've got too much to loose.

Grant, the US already has a competing currency. It's called GLD. There's about $18 billion of it outstanding last time I checked. The stuff is perfectly legal, although the powers that be are not exactly super happy about it.

Since shares of GLD (and the other competing precious-metals ETFs) are backed 1:1 by bullion, I suspect they would tend to rather outcompete Professor White's currency at 2% reserve, ie, 50:1. Of course, they could be declared illegal tomorrow. Caveat investor. However, unlike Liberty Dollars (an extremely dodgy operation) or even a better-managed digital gold currency such as GoldMoney, the PM ETFs are very much mainstream. Which gives them a certain level of political protection.

Of course, ETF shares do not circulate as cash. Nonetheless, they perform the function of money - a medium of intertemporal exchange. You also cannot lend ETF shares or any other bullion instrument for yield. But considering the way the exchange rate between paper and metal has been deteriorating, it hardly matters. (Stephen Jen is quite unintentionally amusing on this point.)

spencer: the out-flow of gold from a country was almost exclusively a result of a government NOT FOLLOWING GOLD STANDARD. Using this argument against gold standard seems to me somewhat cyclical.

Gold standard would remove majority of the trade cycles, thus speaking of gold as 'pro-cyclical' seems to be weird, when the gold standard would itself stop the boom phase very early and practically eliminate most of the cycle.

You seem to imply that fiat currency can mitigate the trade cycle. Ludwig von Mises had another idea:

There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved.

This begs the question: are you really sure that current lowering of interest rates can help avoid the recession?

Barter is legal.

Unless you wish to "barter" Ron Paul dollars for any other good or service, it appears.

Bernard, I don't get your point. Are you saying that if the Ron Paul dollars had not been called "dollars", the Feds would not have cracked down on them?

What makes something money?

I'd claim it's that the spender is ready to accept it back.

That's inclination is likely to be hard to regulate, though there can certainly be a flurry of tangential laws trying to get at it.

Are you saying that if the Ron Paul dollars had not been called "dollars", the Feds would not have cracked down on them?


I read the Wikipedia article (which I don't entirely trust) and your detailed post. It simply sounds to me like the RP dollars to closely resembled actual coins, or were passed off as actual coins or dollars. You claim that von Not Haus didn't do that even though the feds say he did. Well, that means you think it would have been illegal to do it, and you know, just maybe the feds have some reason to think he did.

Most important, is this: the claims that this is some persecution of people who want to voluntarily use some unofficial medium of exchange does not pass the smell test. As I said, barter is legal, whether in baseball cards or medallions or anything else. Look, like most people, I get frequent flyer miles when I travel or use a certain credit card. I can exchange these miles for tickets or other merchandise. They are medium of exchange. Are you seriously telling me these programs are illegal?

Some past proponents of the RBD have advocated that money should be issued only for "short term" bills. There is no justification for this.

I agree! The problem is just that without this limitation, I see no difference between the RBD and the ordinary practice of fractional-reserve banking. In other words, I see no distinction between a "real bill" and a plain old "bill." What does the R mean? And if it doesn't mean anything, why is it in the name?

The bank doesn't have to sell its gold notes for gold. It can use its receivables (real bills) to buy back its gold notes directly from gold-note holders.

Au contraire, mon frere. The gold note holders hold contracts promising gold on demand. Present gold, not promises of future gold. If you cannot fulfill these contracts, you are in default and must be liquidated.

All of your solutions amount to "find a new lender." But what if there is no new lender? At least not at the present price of future money?

The market value of any security--two-month bills included, is formed by investors' subjective values of risk, feng shui, etc.

I disagree. I assert that the market value of any security is formed by supply and demand.

If at a given rate of interest - discount between future and present money - supply exceeds demand, the price must fall. If it falls below 90/95, your bank is broken.

Read this post of mine to understand the game theory. The practice you call the RBD is certainly a special case of term transformation, which is always unstable in the absence of a lender of last resort.

I see no reason why non-official kinds of "money" should not be allowed to circulate in competition with the official kind. But I would not call them dollars. How about "marks" or "florins", which are no longer official terms now that the Germans and Dutch are minting Euros?

The key difference, up to now, between unofficial "money" and the official kind (other than the threat that the Feds will seize the unofficial kinds and shut its producers down) is that you can't have a bank account denominated in unofficial "money".

(E-Gold, as far as I can tell, continues to exist only to enable federal authorities to track criminals who sell things like stolen credit card numbers for E-Gold. Do *any* non-black-hats other than cops ever *use* E-Gold? But I digress.)

Having bank accounts matters because the unwanted contraction of the money supply that can occur during a "crunch" is a direct result of the fractional reserve banking system. If the bank is required to keep only (for instance) 20% of your account balance in its reserves, then every time you withdraw $100 as cash, $100 divided by 20% = $500 disappears from checking account balances; you've just decreased M1 by $400.

As I see it, this also means that the government ought to consider giving the Fed the power to alter the minimum fraction of account balances that has to be kept as reserves. By lowering it during a crunch, then raising it afterwards, deflation could be avoided without any need for the government to engage in deficit spending.

"Indeed, haven't gold standards been shredded by flooding the market, i.e., Spain in the 16th century?"

The gold standard then was "shredded" so badly that inflation rose to over 2% per year!

If you have a gold note from a 100% reserve bank, what you really have is a note that promises a 99.99% chance of getting your gold on demand--unless the bank is robbed, mismanaged, etc.

No. What you have is a contract from the bank to give you gold. It is equivalent to a zero-term loan that is continuously rolled over, at the lender's discretion. The lender being you.

The form of this contract need not depend on the bank's internals - whether it is 100% reserve, or its only assets are moondust, North Korean real estate and rare ant larvae.

(Rothbard stresses the unique nature of a warehouse deposit slip, in which the noteholder formally owns the gold, because he has an unusual theory of contracts. Rothbardian ethics do not allow you to make a promise whose violation invokes criminal penalties, because this would allow you to sell yourself into slavery and other weird, nonlibertarian things. For those of us with a more Hobbesian view of contract law, this is not a concern.)

If the bank holds 10 oz of gold plus bonds worth 90 oz, as backing for 100 gold notes, and if the bank finds that nobody is willing to buy that bond for 90 oz., then the bond is really worth only 89 oz., and each of its gold notes will fall in value to .99 oz. The RBD doesn't claim that nobody ever loses.

Let's call it 95 oz, because otherwise your bank is quite marginal!

The fundamental problem with maturity transformation (I really would encourage you to drop this "real bill" locution, because it makes people think you believe in the two-lunar-month thing - as many, if not all, historical supporters of the RBD did) is that, by contracting to deliver next year's gold today, maturity transformers create an unstable financial structure. When this structure collapses, the price of next year's gold in today's gold goes through the floor.

These panics may be triggered by bad loans. They can be triggered by more or less anything. Instability is instability. But once they start, massive insolvency is not a possibility but a certainty. Unless of course your maturity transformers have the government in their corner, and can fix the price of future money in terms of present money by force majeure - which is in practice how the "backing theory of money" works. For some values of the word "work."

Without the two-lunar-month thing, your "backing theory" is nothing more than conventional accounting as practiced. When present asset prices and liabilities are simply summed as scalars, ignoring their temporal maturity structure, maturity transformation is inevitable. But this ignores what will actually happen if the assets must be liquidated to redeem the liabilities, which is the whole point of double-entry accounting.

A well-engineered free-market financial system would require that financial intermediaries match the maturities of their incoming and outgoing cash flows. Whether this requirement is enforced by customers or by regulators is beside the point. If it is not enforced, these disasters will keep happening.

My point about "supply and demand" was that only a market can determine the "value" of a bond. There is no such thing as "value." There is only price. When a maturity transformation scheme collapses, it pushes a large supply of bonds onto the market, and the price dives. That you insist on regarding this as an accident does not make it anything of the sort.

>>>"If you have a gold note from a 100% reserve bank, what you really have is a note that promises a 99.99% chance of getting your gold on demand--unless the bank is robbed, mismanaged, etc."

>>"No. What you have is a contract from the bank to give you gold. It is equivalent to a zero-term loan that is continuously rolled over, at the lender's discretion. The lender being you."

Well then suppose for the sake of argument that the fine print on the note actually says that the note is a 99.99% chance of getting back your gold any time, except in case of theft, earthquake, mismanagement, etc. And suppose customers agree to those terms. Then the RBD (OK--backing theory) says that if the bank issues 1 new gold note, and gets stuff worth one oz. in exchange, then the value of the notes will not be affected. After all, if the notes fell to .99 oz., anyone could buy the notes on the street for .99 oz., return them to the bank, and get either 1 oz., or stuff worth 1 oz.

>>"These panics may be triggered by bad loans. They can be triggered by more or less anything. Instability is instability. But once they start, massive insolvency is not a possibility but a certainty. Unless of course your maturity transformers have the government in their corner, and can fix the price of future money in terms of present money by force majeure"

Return to the case of the bank with 10 oz. plus 90 oz. worth of bonds backing 100 gold notes. Suppose the bonds fall in value to 99 oz. If the bank chooses to maintain physical convertibility at 1 oz. per note, then yes, a bank run will result. But if the bank does the normal thing and suspends physical convertibility, then each note will drop in value to .99 oz. (The bank could also just devalue to .99 oz.) In this case there is no bank run, and no massive insolvency. The note holders are 1 oz. poorer, but remember that this risk was in the fine print when they accepted the notes from the bank.

As an aside: The money supply has been reduced by the equivalent of one oz., so there is a slight tightening of the money supply. But this is easily remedied if the bank issues one more note in exchange for one oz. worth of bonds.

>>"I fear your bank may have some trouble in attracting customers! Generally speaking, reneging on one's contracts is not "the normal thing." It is a default. The same can be said for "just" devaluing."

There aren't very many central banks that never suspended convertibility and never devalued, so I'm comfortable calling it the normal thing. The important point to recognize is that when banks issue liabilities, and those liabilities are used as money, then as long as the bank's assets move in step with those liabilities--i.e., as long as the bank follows the real bills rule--then the money will hold its value.


One way in which gold is sought after - as a crisis currency. A gold standard may or may not be a good thing, but judging from history it certainly seems to be the default currency.

Gold (as well as other precious metals, gems and jewelry) is a nice thing to have when your government is collapsing, it has temporarily collapsed, perhaps locally (eg, Katrina) and/or you have to flee.

Gold has soared to > $900/ounce for at least one reason. The rise of (at least the perceived threat of) terrorism worldwide, coupled with the slow proliferation of nuclear weapons and the faster proliferation of other WMDs, is giving a lot more people the willies.

Who knows if your currency is going to be worth the paper it's printed on in the aftermath of, say, a nuclear strike, sudden conquest or maybe a national or continental pandemic? Better take some gold. An ounce or three slipped to, say, border guards or local militia to look the other way while you make your escape, or given to farmers to buy food while others starve, or taken to a new land to start a new life, can mean the difference between life and death.

What do you think?

Jeff Deutsch

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