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Golden years

David Glasner and Scott Sumner recently wrote good posts on the gold standard. In my next post I will try to put the issues in a larger context, but for the moment I will take a narrower, scattershot approach of responding to some criticisms of the gold standard that I have seen in their posts and elsewhere recently.

1. Critics of the gold standard have sometimes argued as if the Great Depression discredits all kinds of gold standards. If so, the Great Depression, the East Asian financial crisis, the Great Recession, and other episodes discredit all kinds of central banking. Neither argument is correct, but if you make the first, the second is precisely parallel.

2. Note that in the 1929-1931 portion of the Great Depression, monetary policy was poor to disastrous by all four of the world’s leading central banks (the Fed, Bank of England, Bank of France, and German Reichsbank). Even though the interwar gold standard was less robust than the pre-World War I gold standard, it still took a lot of effort to sink it.

3. Scott Sumner asks, “If a gold standard requires good behavior by governments, then why not adopt fiat money?” Fiat money, including nominal GDP targeting, also requires good behavior by governments. Dozens of countries from A (Albania)  to Z (Zimbabwe) have suffered monetary disasters during the last 30 years under fiat money. Mostly the disasters have been inflations, but Scott himself makes the case that some important central banks allowed deflation during the Great Recession.

4. Another question about returning to a gold standard is whether private speculative demand, or actions by foreign governments, would make a country on the gold standard subject to extreme fluctuations against fiat currencies that would be economically disruptive. Much would depend on size. A small or even a medium-size economy might be too small relative to the world gold market to make much difference to the world gold market. Its currency would then fluctuate more than the fiat currencies of the big rich countries do against one another. A large economy (the US, China, Japan, the euro area) would be a different matter. In that case I would expect the world gold market to work differently than it does now because there would be a wide range of gold-denominated investment and arbitrage opportunities that do not currently exist. Demand for physical gold might even be lower in such a system than it is now, because some people who now hold gold bullion as protection against inflation and debt deflation might prefer interest-earning gold-denominated securities. That was the experience of the gold standard in the decades before World War I. Gold hoarding by people in countries that had had bad experience with fiat money, such as France, did not make the gold standard highly disruptive for the United Kingdom.

5. Gold coins, extensively used before World War I, disappeared from circulation during the war in most of the world and never came back into widespread use. Part of the prewar demand for gold coins was the result of government prohibitions of "small-denomination" notes. In England, the lowest prewar denomination was £5, equivalent in purchasing power to more than US$500 today! During the war, England and other countries issued small-denomination notes. David Glasner mentions that Ralph Hawtrey considered this a key difference between the prewar and interwar gold standards. I think it had little importance, and that the key difference between the two periods was that monetary authorities behaved differently. Before the war, many countries did not even have central banks (including three of the world’s largest economies, the United States, China, and India), and in those that did have central banks, their goals were different from what they became after the war began.

6. Finally, to explain the title of this post, there are plenty of songs that mention gold (David Bowie, Spandau Ballet, the Black Keys, John Stewart the late folk singer, etc.). There are none yet that mention nominal GDP targeting. I leave it to the ingenuity of Scott, David, and others to figure out a strategy. A country ballad? A heavy metal anthem? A bossa nova? A rap would be easiest to write, but least likely to be enduringly tolerable.