Bernanke's Pet Peeve: The Gold Standard
Tea Party Economist
by Gary North: Lost
Faith: Young and Old Reject the Two Political Parties
Bernanke journeyed across town to give a 4-part seminar to 30
undergraduates at George Washington University.
This was clearly
a public relations stunt. Why would the head of the world's most
powerful central bank lecture to 30 undergraduates? This was not
quite the equivalent of George W. Bush reading "My Pet Goat" to
third graders, but it was close. Think of it as "My Pet Peeve."
His first speech was an overview of central banking. He used PowerPoint
to create slides. The presentation had 49 slides.
lecture listener, had he known of this in advance, would have headed
toward the exit. Here is the man whose verbal skills produce narcolepsy
in normal people who have slept at least 10 hours. To this he added
49 slides. This violated Guy
Kawasaki's 10-20-30 rule: 10 slides, 20 minutes, 30-point font.
The slides are here.
In his speech,
he introduced some of the classic arguments of the fiat money advocates.
Warren Buffett has invoked it:
dug out of the ground in Africa, or someplace. "Then we melt it
down, dig another hole, bury it again and pay people to stand around
guarding it. It has no utility. Anyone watching from Mars would
be scratching their head.
This was Buffett's
reply to his father's policy of defending the gold standard in Congress
in the late 1940s. His father had far greater understanding of the
gold standard than he does.
of all those itching Martian heads apparently bothers Bernanke,
too. So, he repeated the argument.
unfortunately, gold standards are far from perfect monetary systems.
One small problem which is not on the slides but I'll just mention
is that there's an awful big waste of resources. I mean, what you
have to do to have a gold standard is you have to go to South Africa
or some place and dig up tons of gold and move it to New York and
put it in the basement of the Federal Reserve Bank in New York,
and, that's a lot of effort and work and it's a, you know, it's
a Milton Friedman used to emphasize that that was a very
serious cost of a gold standard that all this gold was being dug
up and then put back into another hole. So there is some cost to
having a gold standard.
There is "some
cost" to having a gold standard. This means that we must pay for
services rendered. Will wonders never cease! There are costs in
this life! I'm telling you, this fellow Bernanke is on the cutting
edge of economic science.
It's a shame
that he did not have a slide for this, even though that would have
meant 50 slides.
Back in 1969,
dealt with this argument. Bernanke was 15 at the time. He must
have missed it.
I begin with
his first statement: "Now, unfortunately, gold standards are far
from perfect monetary systems." So, let me assure you, is central
live in an imperfect universe. We are not perfect creatures, possessing
omniscience, omnipotence, and perfect moral natures. We therefore
find ourselves in a world in which some people will choose actions
which will benefit them in the short run, but which may harm others
in the long run. The gold miner, by diluting the purchasing power
of the monetary unit, achieves short-run benefits. Those on fixed
incomes are faced with a restricted supply of goods available for
purchase at the older, less inflated, price levels. This is a fact
Professor Mises has defended gold as the great foundation of our
liberties precisely because it is so difficult to mine. It is not
a perfect mechanism, but its effects are far less deleterious than
the power of a monopolistic state or licensed banking system to
create money by fiat. The effects of gold are far more predictable,
because they are more regular; geology acts as a greater barrier
to inflation than can any man-made institutional arrangement. The
booms will be smaller, the busts will be less devastating, and the
redistribution involved in all inflation (or deflation, for that
matter) can be more easily planned for.
niggardly; that is a blessing for us in the area of monetary policy,
assuming we limit ourselves to a monetary system tied to specie
metals. We would not need gold if, and only if, we could be guaranteed
that the government or banks would not tamper with the supply of
money in order to gain their own short-run benefits. So long as
that temptation exists, gold (or silver, or platinum) will alone
serve as a protection against policies of mass inflation. . . .
will be recalled, is useful only for exchange, and this is especially
true of paper money (gold, at least, can be made into wedding rings,
earrings, nose rings, and so forth). If there is no reason to mistrust
the American government, the paper bills will probably be used by
professional importers and exporters to facilitate the exchange
of goods. The paper will circulate, and no one bothers with the
gold. It just sits around in the vaults, gathering dust. So long
as the governments of the world refuse to print more paper bills
than they have gold to redeem them, their gold stays put. It would
be wrong to say that gold has no economic function, however. It
does, and the fact that we must forfeit storage space and payment
for security systems testifies to that valuable function. It keeps
governments from tampering with their domestic monetary systems.
I used paper
money as my example. Of course, digital money is what we have today.
Still, a major function of gold in the vault is that it tells us
if the monetary authorities are cheating.
Once the gold
standard is renounced, we know the monetary authorities are cheating.
forthright about this. He defended cheating.
there are some other more serious financial and economic concerns
that practical experience showed were part of a gold standard. One
of them was the effect of a gold standard on the money supply. Since
the gold standard determines the money supply, there's not much
scope for the central bank to use monetary policy just to stabilize
As the Head
Cheater in Charge, the Prince of Greenness himself, he proclaimed
the wisdom of legalized counterfeiting. Why? Because the gold standard
produces high interest rates.
And in particular,
under a gold standard, typically the money supply goes up and interest
rates go down in periods of strong economic activity. So that's
the reverse of what a central bank would normally do today.
The money supply goes up under a gold standard? When did that happen,
and for how long? When did this happen when it was not followed
by a run on the nation's gold supply? That is what the gold standard
does. It gives holders of fiat money the power to force the central
bank or treasury to cease inflating. The run on gold forces the
monetary authorities to stop inflating.
Then he offered
this reason for not establishing a gold standard.
are other concerns also with the gold standard. Now, one of the
things that a gold standard does is it creates a system of fixed
exchange rates between the currencies of countries that are on the
gold standard. So for example, in 1900, the value of a dollar was
about 20 dollars per ounce of gold. At the same time, the British
set their gold standard in saying, roughly, roughly 4 pounds, 4
British pounds per ounce of gold. So 20 dollars equals 1 ounce of
gold, 4 pounds equals 1 ounce of gold, so 20 dollars equals 4 pounds.
So what that's saying is basically that a pound is 5 dollars. So
essentially, if both countries are on the gold standard, the ratio
of prices between the two exchange rates is fixed. There's no variability
as we see today when the Euro can go up and the Euro can go down.
Now, again, some people would argue that's beneficial, but there
is at least one problem which is that if there are shocks or changes
in the money supply in one country and perhaps even a bad set of
policies, other countries that are tied to the currency of that
country will also experience some of the effects of that.
that a bad policy in one nation forces the other nation to mimic
the bad policy. This is Bernanke's version of Gresham's Law: bad
policies drive out good policies.
How is it
that a bad policy on a free market is so successful in spreading
to other free markets? The traditional defense of free markets is
that good policies prevail. Wise monetary policies triumph. But
Bernanke does not believe this. Under a gold standard, such benign
results turn malign. How, he did not say.
What is wrong
with his argument? This. A bad economic policy in one nation produces
inflows or outflows of gold. If a nation inflates, holders of its
currency demand payment in gold. The gold flows out of the central
bank or treasury. Soon, the authorities must change the policy.
might be a policy of monetary deflation. The nation's goods become
cheaper. Residents in other nations turn in gold at the fixed rate
and buy the deflationary nation's currency. Why? To buy the nation's
cheaper goods. This raises the monetary base (gold) and reverses
the monetary deflation.
cause and effect. The fixed currency exchange rate system is not
fixed by law under a gold standard. The currency exchange rates
fluctuate in terms of domestic monetary policies and the currency
speculators' expectations. What is fixed is the price of gold as
denominated in each domestic currency.
rates can and does fluctuate. But if one nation's policies deviate
from another nation's policies, gold flows in or flows out. Good
policies drive out bad policies, as is true under a free market.
This is because Bernanke has this backwards. He is a Keynesian.
He has economic cause and effect backwards across the board, not
just in monetary theory.
exchange rate system was not a factor in the era of the international
gold standard, 1815-1914. There were no exchange rate agreements.
Fixed exchange rates set by governments began in 1922 at the Genoa
Conference, where governments agreed to the phony gold standard
known as the gold exchange standard. Here, fixed currency exchange
rates by government agreement were substituted for gold coin redemption
on demand, which had prevailed prior to World War I.
rates among currencies have never existed. What existed from 1815
to 1914 was a system of fixed exchange rates between a national
currency and the price of gold in that currency. The moderately
fluctuating currency rates were an effect of the legally fixed exchange
rate between gold and each national currency.
not understand the difference between legally fixed exchange rates
among currencies and fixed exchange rates between a specific currency
and gold, That is to say, he does not understand the 19th-century
inconceivable. But Keynesians do not understand prices and markets,
so I suppose it should not be surprising that Bernanke does not
understand the traditional gold standard that he adamantly rejects.
TO THE PEOPLE NOT!
do not like their judgments called into question by the rabble
"rabble" being defined as people who hold a nation's currency. These
people may decide that central bankers are following policies that
put their money at risk. So, they demand gold. This is an outrage.
It must be stopped.
another issue with the gold standard has to do with speculative
attack. Now normally, a central bank with a gold standard only keeps
a fraction of the gold necessary to back the entire money supply.
Indeed, the Bank of England was famous for keeping, as Keynes called
it, a thin film of gold. The British Central Bank only kept a small
amount of gold, and they relied on their credibility to stand by
the gold standard under all circumstances to so that nobody
ever challenged them about that issue. But if for whatever reason,
if markets lose confidence in your willingness and your commitment
to maintaining that gold standard relationship, you can get a speculative
attack. This is what happened in 1931 to the British. In 1931, for
a lot of good reasons, speculators lost confidence that the British
pound would stand gold, so just like a run on the bank, they all
brought their pounds to the Bank of England and said, "Give me gold."
And it didn't take very long before the Bank of England was out
of gold cause they didn't have all the gold they needed to support
the money supply and then, there was essentially they've
essentially had to leave the gold standard, so there was a lot of
financial volatility created by this attack on the gold standard.
He did not
mention that George Soros did this to the British pound and Malaysia's
currency, and this was long after the gold standard was scrapped.
Currency speculators "pays their money and takes their chances."
They can break government monetary policies when central bankers
tell really big lies. They can make fortunes, Soros has.
So, the complaint
against the gold standard in this regard is a smoke screen.
he conceded to gold's defenders what they have always said.
finally, just one last word on the gold standard, one of the strengths
that people cite for the gold standard is that it creates a stable
value for the currency. It creates a stable inflation, and that's
true over very long periods. But over shorter periods, maybe up
to 5 or 10 years, you can actually have a lot of inflation, rising
prices, or deflation, falling prices, in a gold standard. And the
reason is that in a gold standard, the amount of money in the economy
varies according to things like gold strikes. So for example, if
United States, if gold was discovered in California and the amount
of gold in the economy goes up, that will cause an inflation, whereas
if the economy is growing faster and there's a shortage of gold,
that will cause a deflation. So over shorter periods of time, you
frequently had both inflations and deflations. Over very long periods
of time, decades, prices were quite stable.
The only case
he offered was California, 1848-52. This has not happened since
fact, a gold standard, when accompanied by rising output, produces
falling prices: "More goods chasing a fixed quantity of money."
That is what happened in late 19th-century America.
has a pet peeve. It has to do with power specifically, his.
He does not like it when common people have the power to tell him
and his Ph.D.-holding peers that they don't know what they are doing.
The common man can veto Bernanke and his peers by cashing in dollars
for gold. He resents this.
supply should be supplied by the free market, under the laws of
contract. The government should not be in the money business.
End the FED.
North [send him mail]
is the author of Mises
on Money. Visit http://www.garynorth.com.
He is also the author of a free 20-volume series, An
Economic Commentary on the Bible.
2012 Gary North
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