Barsky and Summers and Krugman on Gibson’s Paradox

From Barsky and Summers:

This paper contributes a new element to the explanations of the Gibson paradox, the puzzling correlation between interest rates and the price level seen during the gold-standard period. A shock that raises the underlying real rate of return in the economy reduces the equilibrium relative price of gold and, with the nominal price of gold pegged by the authorities, must raise the price level. The mechanism involves the allocation of gold between monetary and nonmonetary uses. The authors’ explanation helps to resolve some important anomalies in previous work and is supported by empirical evidence along a number of dimensions.

The paper is here.  Paul Krugman offers a very good explanation of a related hypothesis.  It’s one useful way of thinking about why the price of gold is rising in a deflationary time (without requiring one to deny the potential relevance of other factors).  The presentation also explains the behavior of gold prices in a TGS era, namely with low real rates of return.

I very much enjoy this puzzle.  It requires a working knowledge of many different parts of economics, not just a few.


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