It was an interesting testimony that Jerome Powel gave Congress recently. For an institution that supposed to be independent from government, you would never know it reading any of the interchanges with members of the House and Senate.
One of the issues discussed in these hearings was the gold standard. Like the hearings on social media where politicians showed little knowledge, let alone understanding, of technology, likewise was the case with economics, especially when the gold standard came up. This was compounded by the fact that Powell is the first non-economists to chair the Fed since William Miller, whose short tenure (1979-1981) was such a disaster that it led to his early resignation. In fairness to Powell, many Fed chairpersons prior to Miller were not economists, but if you are going to have a data driven decision process for monetary policy in the modern era of chaotic fiat currencies, it would be helpful to have a strong background in economics.
The Fed’s statutory mandate per the Federal Reserve Act is to direct monetary policy in order to provide for maximum employment, stable prices, and moderate long-term interest rates. This is a mandate in contradiction of itself, an issue which we will address in future posts.
First, we should consider what the fundamental requirements are for something to be considered money. These requirements have been defined over a long time ever since methods other than barter were employed by mankind, so they are historically cumulative based on experience as well as economic principles:
- Durability – something that does not deteriorate over time, but is basically non-reactive to the elements.
- Portability – not so cumbersome as to be difficult or impossible to carry around enabling ready access and use.
- Divisibility – a workable commodity that can be fabricated in various measures.
- Unit of Account – can be used to establish the price of goods and services.
- Uniformity – the measure of a specific quantity of what is being used as money is consistently the same.
- Limited Supply – the amount is not unlimited or subject to significant inflation or deflation in circulation.
- Acceptability – people generally accept the commodity item as a medium of exchange.
- Medium of Exchange – the commodity used as money is an accepted standard of value.
- Store of Value – for something to be considered money, it must be able to be saved, retrieved and exchanged at a later time, which means it remains the same at the time it is used in the future as it is now.
- Means of payment – this is not exclusively an attribute of money as there are others, such as promissory notes, bonds, letters-of-credit, and other financial instruments, but for money it means the colloquial “cash” payment.
- Numeraire – basically means any commodity that has a measure of value that can be used in currency exchange.
That’s a lot of stuff, but we must appreciate that money has been around a very long time, and so people have come to understand what it means. Even before Nixon took the dollar off the gold standard, it had been already corrupted by failing the essential test of the above criteria, principally via inflation. Even when the dollar was under the gold standard, fluctuations in both the printed money and the gold base were manipulated causing inflationary devaluations.
It is worthwhile considering this point before we even discuss a gold standard. Take for instance 19th century silver coinage in use by many countries such as Austria and India. At one point both these countries over minted coinage to the extent that the currencies fell in value below that of their silver content. To remedy this inflation they then limited coinage which caused the currencies to rise above the value of their silver content; clearly examples of the corrosive effects of inflated currencies.
Note also that at that time both the US and Great Britain also had silver standards, and in fact the very definition of the British Pound Sterling was a pound of silver, and it issued notes accordingly that could be redeemed in silver, which is what made the British Pound a universal currency of trade in its heyday. In the US we have the history of silver mostly associated with the Free Silver Movement calling for unlimited silver coinage, mostly as a reaction to Congress doing away with minting silver coins for a period of time.
The point is that it is not enough to have something that meets most of the requirements to be money if you expand circulation to inflationary levels violating the limited supply criteria, which not only devalues a currency, but corrodes confidence in its store of value. That in turn makes the future of its value questionable.
So when you hear gold bugs say that gold is money, they are correct as it does meet all the requirements of something to be considered money, perhaps more than anything else throughout history, but that does not mean that as money it can’t be inflated. True, an ounce of gold will always be an ounce of gold, and its value expressed in any currency does not change that. What actually changes is the currency, not the unit of account of gold. But this does not mean that, even though the amount of gold in the world is approaching its natural limit, we can’t have inflation of it as a currency or a standard for a currency.
From what is stated above we should also note that while there is no currency left with a gold standard, that does not mean that any currency is free from an evaluation comparison to gold because you still have the cost of gold expressed in currencies. At this time the dollar can be so evaluated by looking at how much gold “costs’ in dollars, which as of this post is approximately $1,400/ounce, about $500 off its all-time high. The ounce of gold has not changed, so compare how much gold cost in dollars in 1973 after Nixon took the dollar off the gold standard and you will see a range (year’s low/high) of $64 – $126/ounce. The ounce of gold is still an ounce of gold, but the dollar by its measure is a shadow of itself.
Based on the above, I am not saying that the gold bugs are wrong; I’m saying that we need to consider all the characteristics of something to be money, and while gold is the best commodity around to be considered money, it is still subject to these criteria. Why then isn’t silver also money as both historically and by the standards noted has and can serve the same purpose as they did for the examples of Austria and India as noted above?
Can’t argue against that, but there are a few things to consider about silver that are not problematic for gold:
- Silver is not as durable as gold. Gold is completely inert, i.e. will not react with the elements, whereas silver tarnishes, which in a crude way can be likened to steel rusting.
- Silver has significant industrial uses whereas, aside from highly specialized oncological and electronic applications, gold has limited uses; commodity influences are less with gold than silver.
- Silver is far more plentiful than gold, making it susceptible to instability as currency as seen in the examples above. Gold is rare, and even with ongoing mining, is becoming even more so.
So with all these virtues of gold, and assuming that its rarity can be a virtue against inflationary tendencies, why then are so many people, including some economists, most politicians, and our Fed chairman so negative about a gold standard? Well they have plenty of reasons provided by gold bashers to rely on in denouncing those that favor a gold standard. Consider some of these and also consider the counterpoints the gold bugs offer:
- Bashers say that gold has no “intrinsic value” whereas as gold bugs say it does. I think both are wrong. The very concept of intrinsic value is actually a Marxian one regarding labor, and while I don’t subscribe to that at all, it is really not a relevant argument either way regarding gold. All value is subjective, meaning each individual determines what is of value to them; however, if we consider empirical evidence, history will support the fact that mankind’s consensus is that gold is of value and has been used as money throughout history.
- Bashers deride gold as a “Barbarous Relic”; bugs say it is the “Noble Metal” because it can’t be corrupted. Regarding the former, I’ve read numerous articles that use that phrase, but did not identify who to credit for it until recently when I found that it was Keynes. However, the quote was taken out of the context of his objection to the post Great War gold standard; what is odd is that Keynes was always an advocate of a gold standard, while at the same time he was also an advocate of the idea that governments can spend their way out of economic difficulties. The contradictory nature of these two concepts is curious but that’s a topic for another time. As to the bugs crowning gold as the “Noble Metal”, the phrase was not used in the monetary sense, but an aesthetic one.
- Bashers say gold has no yield, and the bugs say it is an excellent investment. I again disagree with both. Gold, as money, is not supposed to have yield, because if it did, it would lack the characteristics that make it money. Gold has no risks, which sets it apart from bonds, real estate, stocks, etc. all of which you buy with money, and they can produce yield, but they come with risk as that yield can be negative. Gold has no risk, so no reward; yes it can be a hedge against currency devaluations, but that is not yield.
- Bashers say there is not enough gold to support an economy, meaning inadequate circulation for commerce or finance, and/or the actual supply of gold can’t grow fast enough to support currencies for real growth. The bugs correctly point out that there is inherent elasticity with gold because of the mechanism of currency ratios. Current estimates of the world gold supply are about 200,000 metric tons. Now assuming that people would prefer the convenience of paper currency with a gold standard versus carrying around gold coins and bullion, the issue is what is the correct ratio and how to avoid inflationary problems, and that can be discussed later, but the basher’s argument is just not valid. Neither is the argument regarding real growth. First of all, if you are referring to real growth, then you are not referring to the false concept that conspicuous consumption is growth at all. Consider the fact that GDP over the last decade has averaged less than 3%, whereas the money supply has just about trebled; the real issue is not gold supply but a massive increase in the fiat money supply, i.e. inflation. Gold production has more or less kept pace with population growth, so where is the real problem here? Bugs say there’s always mining going on that constantly increases the gold supply; currently, that’s correct, but in the long run most gold production estimates say gold will become increasing scarce with mining sources exhausted in the near future. There is a very real scientific fact backing this up. Geologically, most of earth’s gold has always been inaccessible, being so deep within the planet due to its nature and the course of a molten planet cooling over time; most of the gold we have is alien to the planet, literally deposited on earth’s surface from the early universe’s era of meteor and asteroid showers. Those phenomena are thankfully rare now, but that means less and less gold production in the near future. However, that is not really a problem in terms of gold as money as noted above.
- Bashers say that the Great Depression was caused by the gold standard; bugs say it was the Fed that caused it. Both are right and wrong. While it is true that the Fed was inept in handling monetary policy at the time, what the gold standard did in the 1930’s in the short term is restrict the ability of the government and the Fed to basically do what it did in 2008, i.e. massively expand the money supply to shore up the credit market; I’m not saying that would have helped or was even a good idea, but it was a contributing short term factor. However, that may not have worked for other reasons, principally that the FDR administrations passed huge tax measures, suffocating regulation, restrictive labor policies, and the real and lethal psychological body punch of gold confiscation. While blatantly unconstitutional, FDRs big gold heist coupled with all the other vices of the times shook the economic confidence of the nation to its foundations; no one wanted to borrow, but neither did anyone want to lend. The result was an economy dead in its tracks. The gold confiscation has an even more sinister element to it. When FDR issued the confiscation decree, supposedly to ward off speculators and prevent a rush to the redemption window, gold was fixed at $20/ounce; following the confiscation, the government reset the standard to $35/ounce, in effect boosting its booty in dollar value by 75%. It’s good to be king! Only issue is we were supposed to be a republic.
So back to Mr. Powell’s testimony, where he was often asked if he was an advocate of a gold standard, and he repeatedly said no. At one point he was also asked if he would support the nomination of Judy Shelton, the U.S. Executive Director for the European Bank of Reconstruction and Development, a well-known gold standard advocate, to one of the vacancies coming up at the Fed. He correctly deflected an obvious politically charged question. He was asked the same regarding Christopher Waller, who is Executive Vice President and Research Director at the Federal Reserve Bank of St. Louis, but gave the same response. Both these nominees face confirmation opposition, even though both are interest rate doves, something the administration and congress both seem to want. Clearly there is great confusion in Congress regarding a consensus on these nominations, but one thing is clear – they want more inflation and no gold standard.
To confound the issue even further we have little consensus on the issue even among free market champions. Consider what Friedrich A. Hayek, champion of the Austrian School of Economics, published on this issue. He saw little if any value in a gold standard so much as he sees the need for real money i.e. no inflationary pressure, more feasible if the creation of money was not a government monopoly; so much for bashers maintaining that such libertarian thinkers are all and only about gold.
So where does this leave us regarding the myths about gold and how to get sound money back in our pockets. Well here are my thoughts:
- Going back to a gold standard before addressing the dangerously inflated dollar, and the resulting debt and asset bubbles, is not productive. You can’t cure a disease until the patient’s symptoms are addressed so they can withstand the results of the cure.
- Hayek makes enormous sense when he says that inflation is the main and immediate problem, not the absence of an underlying standard.
- However, assuming we have the courage to address monetary inflation, and that’s a big assumption, a gold standard would be a great restriction on the government’s malignant tendency to constantly corrupt money for its purposes of expanding itself ad infinitum. This is not only in regards to the Welfare State, but also the Warfare State. If left unchecked, the cycle of inflationary policies will eventually mute the government’s attempts to control the economy, providing it with the self-proclaimed necessity of further expanding authoritarian policies, such as wage and price controls.
- It is also noteworthy to go back to Hayek’s idea of ending the government’s monopoly on the creation of money. In reality there is no extant law against this as evidenced by the advent of cryptocurrencies such as Bitcoin.
Now on that last point for a moment, I need to clarify that the volatility of cryptocurrencies is more to do with its failure to meet the standards of money than the technology behind it. In fact, that technology, known as block chain, is a beacon of light for the freedom that technology can provide on many fronts, including the possibility of sound money, not to mention an unhackable system keeping out criminal and governmental elements from our financial transactions, and facilitating business operations exponentially.
The next post will discuss what the effects of both the inflation myths from the prior post and the gold myths of this post are having on the economy and people’s perception on who and or what to blame for that.