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Paper bugs, or, Stupid Arguments Against Gold

Persons familiar with my writings on monetary reform know that, far from being anyone's idea of a gold bug, and despite my conviction that those monies work best that governments govern least, I've always shied away from arguing that we ought to re-establish a gold standard. Instead, I've favored reforms aimed at preserving our existing fiat standard while eliminating the role of bureaucrats, and increasing that of competitive market forces, in regulating that standard.

I respect nonetheless those who, having given serious thought to the matter, conclude that gold remains our best hope. Alas, such people make up but a small fraction of self-described gold bugs. My standard reaction to finding myself within earshot of any of the rest is to look for a more remote and unoccupied bar stool.

But there's one thing that's guaranteed to bring out the gold bug in me, and that is ill-informed arguments against the gold standard. No, make that stupid arguments, because the ones I have in mind aren't merely ill-informed. They are ill-informed in a way that suggests that the persons who make them don't even think about what they're saying.

An example of the sorts of arguments I have in mind is this opinion piece from yesterday's New York Times, in which Eduardo Porter responds to recent pro-gold testimonials of various Republican presidential candidates and conservative talking heads. Such persons aren't exactly heavyweights when it comes to making good arguments for returning to gold. Yet in trying to show just what lightweights they really are, Mr. Porter mainly succeeds in revealing his own featherweight grasp of monetary economics and history.

For his opening salvo Mr. Porter turns to R.A. Radford's famous article on the employment of cigarettes as money in German P.O.W. camps, noting how, according to Radford, the prices of other goods sometimes fluctuated dramatically in response to new cigarette deliveries or to cigarettes' gradual disappearance in the absence of such. This experience, we are assured, proves that a gold standard is a dumb idea since gold, "as money,…share's tobacco's basic drawback" of being a commodity.

This would be an unanswerable argument against the gold standard were it not for two minor issues: first, gold isn't tobacco; second, P.O.W. camps aren't ordinary economies. Those who plead for a return to gold have a right to be understood to be extolling the merits of a gold standard rather than those of a tobacco standard or a cowrie shell standard or some other commodity standard; and the instability exhibited by any standard in a P.O.W. camp might not supply an accurate indication of the same standard's likely performance in a more usual economic setting. I would bet, for example, that the real price of cigarettes was subject to more violent changes within the confines of Stalag Luft III than in the surrounding German economy; and after the war the real price of a pack of cigarettes net of taxes, in the U.S. at least, was more-or-less constant until the early '80s, when it started to rise gradually. (It is now about twice what it was then). Finally, there isn't even any good reason for supposing that cigarettes were a poor monetary medium for P.O.W. camps, given the available options. Indeed, having often assigned Radford's article myself in teaching monetary economics, I have always understood its lesson to be, not that cigarettes make crummy money, but that markets are remarkably clever when it comes to expediting exchange. The logical implication of Mr. Porter's argument, on the other hand, seems to be that by relying on the market the P.O.W.s blew it: it would have been wiser, according to his point of view, for them to have invited their captors to supply, in exchange for some of their precious Red-Cross parcel contents, fiat money especially designed for their use, and backed by a solemn promise to manage the stuff scientifically, so as to best provide for the prisoners' macroeconomic well-being.

And gold itself? Is its supply in fact subject to the sort of shocks to which P.O.W. camps' cigarette endowments were exposed? Though Mr. Porter seems to assume so, he offers no proof. Had he bothered to inquire into actual facts he might have learned that by far the most notorious of all precious metal "supply shocks"–the one following Spain's conquest of the New World–led to the sixfold increase in European prices that has since come to be known as the great European "Price Revolution." Q.E.D. for Mr. Porter? Well, not quite, because that sixfold increase occurred over an interval of over 150 years, which translates into a continuous rate of inflation of just 1.1 percent–a rate that would have Ben Bernanke and many other modern central bankers squawking about being on the brink of a deflationary crisis.

And what about that other famous gold supply shock started by a lucky discovery at Sutter's Mill? Well, have a look if you will at a chart showing the progress of the U.S. CPI since 1800 or so, and see if you can pick out the rise in prices this discovery caused. Unless you happen to be on drugs, you can't, because it isn't there: there are price jumps, sure enough–in or around 1812, 1862, and 1918–but they all mark moments when the U.S. temporarily abandoned the gold standard, which is to say moments when it embraced the sort of paper standard Mr. Porter thinks so obviously superior to gold. (During WWI, although the U.S. didn't suspend the gold standard outright, it limited gold exports.) Wars are exceptional, of course. But then what about the CPI lift-off after 1971, when the dollar's last link to gold was severed once and for all? Is the CPI a Republican plot?

If not, are we not entitled to wonder why Mr. Porter, in assuring us that "the Fed can print dollars at will to meet the growing demand for money as the economy grows," does not seem to realize that it can, and often does, "print" too many dollars? Are we not entitled to wonder why, in making a case against gold and in favor of paper money, he supplies us with an almost perfectly irrelevant story about tobacco-plus-paper inflation, without so much as hinting at the many far more serious inflations fueled by paper alone? Is "Zimbabwean" inflation to him nothing other than a bogeyman invented by some right-wing talking head? Perhaps Mr. Porter was so absorbed by his vision of P.O.W.s struggling to carry on despite occasional cigarette windfalls that he managed to overlook the damage irredeemable paper monies have done at one time or another to the entire populations of Angola, Argentina, Bolivia, Brazil, Bulgaria, China, France, Germany, Greece, Hungary, Israel, Mexico, North Korea, Nicaragua, Peru, the Philippines, Poland, Romania, Yugoslavia, and Zaire–to offer but a very incomplete list.

But why harp on inflation? After all, fiat money at least has the virtue of hardly ever being in short supply, so that economies need not fear being unable to grow for want of it. In contrast under a gold standard, Mr. Porter assures us, "the economy couldn't grow faster than the supply of gold." Evidently Mr. Porter here overlooks another relevant episode in economic history. This episode is known as "the 19th century."

It's hardly surprising under the circumstances that Mr. Porter should share the very widespread opinion that the gold standard was to blame for the United States Great Depression. Yet even by his own telling it wasn't the gold standard as such, but the particular rules by which the Fed administered that standard, that led to the Fed's failure to prevent the post-1930 collapse of the U.S. money stock. In fact the Federal Reserve's requirement of a 40 (not 60) percent gold cover for its outstanding notes was not a necessary part of the gold standard but a regulation based on naive ca. 1840 British Currency-School thinking. (In Scotland's free-banking based gold standard, in contrast, banks managed quite well with specie reserve ratios that varied little from one or two percent.)

The stipulated gold minimum was, moreover, something that the Fed itself had statutory authority to lower, had it considered doing so worthwhile. In fact, it didn't, because (as Dick Timberlake points out) the Fed never ran up against the 40 percent limit during the crucial, early years of the depression: in August 1931 the Fed's gold holdings of $3.5 billion were over twice what it needed to meet that requirement; and even at the time of the Bank Holiday in March 1933, despite having endured a run on gold triggered by fear of an impending devaluation, the Fed was sitting on more that $1 billion in excess gold reserves. What the Fed was short of wasn't gold but what clueless Fed officials, subscribing to the bogus "real-bills doctrine," considered good private securities, which until 1932 were the only assets eligible for backing its notes other than gold. If Mr. Porter knew his Friedman and Schwartz, he'd know that those authors, among several others, conclude on the basis of such facts that the gold standard was not the cause of the Fed's failure to combat the Great Depression. Since Christina Romer is among the authors in question, I trust that Mr. Porter will not be tempted to declare that they must all be Republicans.

While the general thrust of Mr. Porter's essay is that one has to be daft to say nice things about the gold standard, he is generous enough to allow that this might not be the only reason for Ron Paul's defense of gold. After all, Porter informs us, "much of his [Paul's] wealth is tied up in gold-mining stocks." Consequently, Porter reasons, Paul "would certainly benefit if even more American's caught the gold bug." But would he? Have a look at any plot of the real price of gold, and ask yourself whether, if you had "much of your wealth" in gold mining, you would be pleading for a return to the gold standard, or pulling hard for a continuation of the fiat-money status quo. Besides not making sense, and being nasty, Porter's argumentum ad hominem is profoundly silly. Would he have us conclude that Paul is pro-life only because he's a pediatrician an obstetrician, or that, since he favors drug legalization, he must be long on marijuana, coca, and poppies?

What I find most obnoxious about Mr. Porter's arguments isn't that they are arguments against reviving the gold standard (for I recognize good arguments for not attempting such) or even that they are bad arguments. It is that they are both bad and smug; indeed they are bad because they are smug. Starting from the premise that only idiots can favor a gold standard, Mr. Porter imagines that no great effort is required to prove that such a standard is deeply flawed. He then cobbles up his proof, by plucking up a fistful of old anti-gold canards from the murky bottom of, by recalling an old article describing inflation that wasn't the fault of some central bank, and by simply asserting his own a priori beliefs. After all, he reasons, why bother to use a tower or ram or even a ladder to assail something that mere wind ought to topple? In fine, Mr. Porter falls victim to the tempting but evidently mistaken assumption that he surely knows more about money than the average right-wing nut.