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The hobbyhorse rides again

The latest issue of the Cato Papers on Public Policy has an article by Douglas Irwin of Dartmouth focusing on the behavior of the French government and central bank during the Great Depression (video here; paper forthcoming in a conference volume here, but the latest issue doesn’t seem to be on sale yet and mine is apparently an advance copy).

Irwin and the discussants of his paper (Charles Calomiris of Columbia and James Hamilton of the University of California-San Diego) avoid what to me is the heart of the matter: the Bank of France and the Federal Reserve were central banks. Blaming the Great Depression solely on “the gold standard” does not make sense because it does not explain why the gold standard worked pretty well before World War I. That, as regular readers will know, is one of my hobbyhorses about economists’ usual treatment of the gold standard. The gold standard, or any other internationally shared standard of rigid exchange rates, transmits monetary disturbances across borders in a way that floating exchange rates do not, but whether those disturbances occur depends heavily on what kinds of monetary systems exist within the participating countries. (Floating exchange rates also transmit disturbances across borders, as we know from abundant experience, but the way they transmit disturbances is different.)

Free banks have no incentive to build up the huge, noninterest-earning gold reserves that the Bank of France accumulated during the Great Depression, and I am aware of no historical case where free banks accumulated gold on such a scale, relative to the size of the economy and over so short a period, as the Bank of France did. It is hard to see how the Depression could have happened had the United States and France still had free banking, as they did in some form earlier in their history.

Another complaint: in an article and two comments focusing on France (though with some discussion of the United States), there is not a single reference to any publication in French, and only a couple references to publications that have been translated from French. It’s like writing a paper about the United States and not citing anything published in English. French is still the second language of scholarship, far behind English now in general but certainly not as regards the study of France itself. Economists who are native speakers of English don't know any better, to their shame, but historians do, and economic historians should try to combine the virtues rather than the flaws of both disciplines.


  1. The Great Depression was caused,firstly, by Benjamin Strong of the New York Federal Reserve pushing up the credit-money bubble in the late 1920s (every "boom" must be followed by a "bust").

    Then (unlike other credit-money busts from 1819 to 1921) the governent (of Herbert The Forgotten Progressive Hoover) would not allow markets (especially labour markets) to clear – indeed the Federal government did all it could to PREVENT prices and wages ajusting to the (INEVITABLE) crash of the credit-money bubble.

    None of this has anything to do with the Bank of France having large gold reserves, or the Federal Reserve (supposedly) not trying hard to enough to prop up the credit money bubble after 1929 (perhaps by throwing money-created-from-nothing from "helecopters" (actually only autogyros were available at the time – perhaps that was the problem….. no apology for my sarcasm).

    So both the attack by Douglas Irwin and the defence by Kurt Schuler are totally beside-the-point. Both sides in this "debate" seemed to be a trapped in an Irving Fisher view of monetary economics – a view that is just WRONG (utterly false). The fact that Frank Fetter utterly refuted Fisher in theory, and that 1921 and 1929 refuted Irving Fisher in practice, seems to have passed them by.

    We have two sides of a "debate" neither of whom is influenced either by rational argument (apriori economic theory) or by empirical evidence.

    The irational dogma (which one can trace back to the "Banking School" of the early 19th century – indeed to John Law in the early 1700s) that a increase in the credit-money supply is a good thing for the "needs of trade" (i.e. for bubble building) and is fine as long as the "price level" (prices in the shops) is not going up, seems to still have a stranglehold here (on both sides of these supposed "debates").

    If this is what the economics departments of the universities teach – it is time they were shut down.

    1. If your view is correct, then leaving the gold standard should not have coincided with improvement in the economy, as it did for just about every country during the period. The Depression was a worldwide event. If you only know the U.S. end of it and ignore the rest of the world, you have far less than half the story.

  2. I thought something along the exact same lines when Dr. Irwin presented this paper at GMU in the Fall of 2011. I intend to have one of the chapters of my dissertation discussing this issue. In particular, the inter-war standard run by the central banks of the world did something to help curb the inflationary tendencies of central banks because most had requirements on their reserve ratios on the lower end. However, there was an asymmetry in that there was nothing to stop central banks from obtaining very high reserves. When motivated by profits, there really isn't any worry that banks will hold too much gold even from critics of free banking, but since central banks are divorced from the rigors of competition they were free to engage in this unique form of madness. I intend to explore the possibility of a maximum reserve ratio, and discuss the potential costs and benefits that would bring along, as well as alternative minimum ratios, such as perhaps a minimum average ratio of a certain period to allow central banks such as the BOE to avoid such monetary spillovers. It is still very much a work in progress however.

  3. First of all the term "gold STANDARD" is confusing. Either the gold is the money or it is not, the word "standard" implies that the gold is not the money, that it is just a "standard" for something else that is the money (an open door for Benjamin Strong style de facto FRAUD).

    As for "leaving the gold standard" the United States did not "leave the gold standard" in reaction to any bust from 1819 to 1921.

    The one time the United States did "leave the gold standard" in reaction to a bust was in the 1930s – and that did not work out too well.

    By the way the Swiss Franc was partly covered by physical gold till the new Constitution (the "we celebrate our diversity" P.C. Consitution) came into effect a few years ago.

    I doubt the new Swiss monetary system will work out very well – and I think we will see some very nasty developments this year (2013) as the unlimited power of the Swiss Central Bank leads to terrible results.

    As you know – true "Free Banking" means no Central Bank, and no corrupt government actions and court judgements, for example "suspension of cash payments", either.

    Let bankrupt banks (banks that can not pay cash on the nail) go bankrupt – really bankrupt, i.e. close their doors and not reopen them.

    That, and nothing else, is real Free Banking.

    1. I don't see how the term "standard" is confusing. As it applies to monetary arrangements it has been in widespread use since at least the 19th century and it has a well understood meaning as a way of saying what the monetary system is based on. Gold, silver, bimetallism, copper, a frozen supply of paper money, inflation targeting, etc. are different standards with different implications for how the monetary system works.

  4. Either gold is the money or it is not the money – the term "gold standard" is either useless (because the word "standard" adds nothing) or it is misleading (as it implies that gold is the money – when it is not).

    If gold is the money there is no need for the word "standard" and if it is not the money then the word "gold" should not be used.

    For example, if a "Dollar" is one 38th of an ounce of gold, then the issuer of these "Dollars" must either issue "Dollars" in gold form (as coins) or, if it decides to issue notes, have one ouce of gold for every 38 "Dollar" notes it issues. Otherwise the word "gold" should not be mentioned at all (after all I am sure you have no intent to defraud anyone – so using deceptive language should be avoided).

    As for "bimetallism" – this makes the fundemental error of rigging ("fixing") exchange rates.

    If gold and silver are both used as money then there are two currencies (not one) gold and silver. Rigging the exchange rate between the two will, eventually, force out either gold or silver.

    Contracts should, of course, specify whether the parties agree to use gold or silver (or some other form of money) and the only technical words needed are those defining the degree of purity of the commodity they have chosen to use as money.

    I have no objection to buyers and sellers choosing any commodity to use as money (gold, silver, copper – whatever they voluntarily decide upon). But I do oppose fraud.

    And if one is not intending to engage in fraud – there is no need to use deceptive language (for example implying one has gold that one does not, in fact, have).

    1. "Either gold is the money or it is not the money." It is not that simple. Gold can circulate as coin or not; notes and deposits can be redeemable in small amounts for gold coin, or only in large amounts for gold bars; gold can be the unit of account but redemption can occur in something else. All these variations and more have occurred historically, sometimes as a result of compulsion but other times voluntarily.

  5. I repeat what I have aleady said – and it is "that simple".

    Someone who says (for example) "I do not have the coin – I only have gold bars" (or some such) is really engaging in "jive". It is simply not an honest response – as they could always (if they really had the gold bars) cut off the correct weight from one.

    The truth is that neither the government or the Federal Reseve has the one once of gold for every 38 Dollars (in short the 1972 Act is a farce) – not in coin, not in bars (not in any form).

    Nor is this criminal behaviour (fraud) recent. Indeed the history of banking is, in large part, a history of various forms of scam.

    "Free Banking" can only exist in a beneficial form when bankers who commit fraud (for example pretend to have gold, or anything els, that they do not have) are treated the same way a criminal would be treated in any other business.

    People who try and lend out money that DOES NOT EXIST (that is not REAL SAVINGS) do not belong in a banking office (or an economics department) – they belong in a prison cell.

    I repeat that if people want to use some other commodity as money – that is fine (as long as there is no deceptive language about "standards" or other such).

    But someone who says (for example) "I have the copper, I really do, I just have go and get it – wait here….." is a crook and should be treated as one.

    1. Read, for instance, Robert Chalmers's 1893 book A History of Currency in the British Colonies, which is available online, or Paul Einzig's book Primitive Money, which is not. You will find a variety of experience such as is not dreamed of in your philosophy.

  6. It's strange that the behavior of the international monetary system in the interwar period is so often taken as 'proof' of the inherent instability of a gold standard with no second cross-examination of the wider body of evidence. Where does this status-quo bias come from. Why are people so knee-jerk comfortable with the fiat standard and so totally unwilling to question it? Not just lay-peoples, either, who might simply be bored by the topic, but experts, who will treat the experience of the gold exchange standard as conclusive and leave it at that.

    I mean, why is it that people are so ready to consider a host of alternative policy regimes (NGP targeting, AD stabilization via fiscal policy, and every other sort of monetary and fiscal arrangement) but, when it comes to the gold standard its considered an already failed arrangment and relegated to the interests of gold bugs like Paul here and theoretical interest from a few other parts of the libertarian right?

  7. Kurt – 1 + 1 = 2.

    You either have the gold or you do not have it.

    And if you do not have it – do not imply that you have.

    By the way I am quite well aware of the various currency scams of colonial America.

    And of alternative currencies – which were not scams.

    For example, if you want to use tobacco as money (and can find willing trading partners) go right ahead.

    As long as you actually have the tobacco of course – not just bits of paper (or entries on a computer) that imply you have got stuff you have not got.

    Do that – and off to the Big House you should go. They use real tobacco as money there (or did in better days)and things go badly for people who imply they have tobacco (and get stuff for it) and then turn out not to have it.

    No "suspension of cash payments" from corrupt courts (or governments) for them.

    1. This will be my last comment in the series. The medium of account has often been separate from the unit of payment and the unit of redemption, if any, and that in some cases it was so by general agreement. In my view a strongly normative and reductive approach such as you seem to take here hinders understanding both of the history of money and of its future possibilities.

  8. "gold bug" Michael?

    I have said (very many times) that you can use any commodity as money that you can get someone else to agree to.

    I am just asking you not commit fraud – not to pretend to have stuff (in the hope of commercial gain) that you have not got.

    Is that really so hard to understand?

    One of the basic rules of investment…..

    If someone says "it is too complicated to explain" or you do not understand their "explination", then it is a scam.

    As for lending – it should be from REAL SAVINGS, money that people have earned but chosen NOT to consume (to GIVE UP in the HOPE of a return at a later date with interest – two different parties, lender and borrower, can not have the same money at the same time, if I lend out money I DO NOT HAVE IT ANY MORE till when and IF it is repaid).

    And someone who pretends that monetary expansion (either by banks or by governments) is real savings, or is "the same as" real savings, is not telling the truth.

  9. Kurt's reply uses technical language to obscure, not to illuminate, this is the problem with the "intellectual elite".

    1. Someone who cannot use proper punctuation should not disparage the intellect, however modest, of someone else. You know from what I have written on this blog that I dislike name-calling. I have deleted remarks by you and others that descend to name-calling. You are close to it here.

  10. Heh. Paul shares a lot of my views but then rails against Irving Fisher, whose "100% Money" would seem to be right up his alley.

    Curiouser and Curiouser.

    For example, if the government hoarded various durable resources (gold, silver, whatever) and issued only as many notes as could be backed by these commodities, then let banks do with such specie whatever they wanted, that would seem to be one mode of "free banking". Fisher preferred a model, if I remember it aright, that would have the government create specie based on a conglomeration of inflationary and deflationary tell tales, and perhaps that is Paul's complaint, but certainly whatever the government issued as money could then be used by free banks in whatever way they wished with regulation restricted to the prevention of fraud. This could even include *gasp* partial reserve lending practices. Since the money would be entirely separate from the banks, banks whose partial reserve lending tactics failed would simply fail…

    Is Fisher unpopular here in general? I didn't see anyone else make a comment on that portion of his argument. I know about the IMF White Paper that seems to have mentioned his reputation's partial resurrection last year.

  11. ShaneCRoach.

    Irving Fisher taught that monetary expansion was fine as long as the "price level" did not rise.

    This is wrong – as Frank Fetter pointed out in theory, and 1921 and 1929 pointed out in practice.

    Not allowing banks to indulge in monetary expansion does no good if you are planning to have government do it instead.

    1. I don't think anyone teaches that expansion in and of itself is bad, although I have heard some folks argue it would not be necessary under a 100% reserve system with some underlying standard. Tinier and tinier amounts of whatever you used as a standard would be necessary for trade of other goods, so they argue. I personally think that is a recipe for disaster though, as it makes the commodity in question become entirely too important and would provoke political issues. Perhaps some would argue that is not a purely "economic" problem, and should be addressed separately, but I don't agree.

      1929 was a deflationary, not an inflationary, problem. So was 1921. Not sure why, of all the various inflationary periods you might have picked for an example, you chose two of the more famous deflationary periods, but the argument obviously still gets bandied about that an appropriate inflationary policy would have mitigated those depressions.

      Bottom line, Fisher thought you could manufacture a monetary expansion that would be non-inflationary and steady, thus heading off the sudden deflationary corrections. I'm not sure that anyone has ever even tried that. Certainly no one has tried the method he described in "100% Money". What has been the standard for decades now is an attempt to "control inflation" – manufacture a steady but small inflation. I don't think that policy is really what is killing us, although I am bound to be in the minority in that opinion. I think it is mismanagement and over centralization of the money supply specifically. Whoever controls the money supply itself has a disproportional control over the economy in general, and when that organization or group of organizations screws up, the effects are magnified due to the inability to work around them.

      It's also not entirely correct to say that Fisher wanted the government to directly control monetary inflation. He suggested a policy automatically adjusting the total money in the system in order to fix a steady price level. Yes, it would be government enforced, but it would be a completely transparent process with the stated goal being an expansion OR contraction as needed to keep price levels steady.

      I don't really understand Fetter's objection to Fisher, having not studied him, but if his problem was with the idea of keeping the price level steady then I have to say I disagree, albeit with the caveat that I don't think it's possible to do what Fisher wanted to do effectively from any central control structure. Price levels find their steady state in an open and free market that is regulated to prevent monopoly private interests.

      It is this last concern that I am not seeing addressed here at Free Banking.

  12. ShaneCRoach

    "1921 and 1929 were a deflationary problem – not an inflationary problem".

    Irving Fisher seemed unable to understand that there had been a monetary expansion "boom" before 1921 and 1929 – and that the "boom" must end in "bust".

    The idea that if the "price level" is stable there is no real problem is wrong.

    Wildly wrong.

    As for Free Banking.

    I support anyone being allowed to be a money lender.

    I just ask that they actually have the money they are lending – i.e. that lending be from REAL SAVINGS. Either their own real savings – or the real savings of other people (voluntarily entrusted to them).

    Saying that if you lend out money you DO NOT HAVE THIS MONEY ANY MORE till when and IF you are paid back – is denounced as "simplistic" and "reductive".

    I would reply that someone who has that attitude should not be anywhere near a bank (which should be an institution for lending out real savings) and certainly no where near GOVERNMENT POWER.

    Sadly – such people actually dominate the financial world, because they have long had the backing of governments (and Central Banks and courts…..).

    As for credit bubble builders – let them go bankrupt (really bankrupt – not play-bankrupt).

    And as for government taking upon itself the role of expanding the money supply – via the printing press (whilst declaring all is well because it has its boot on the neck of the bankers).

    That is Peronism – and it does not end well.

    More money, via the printing press, does NOT mean more long term wealth.

    Indeed, in the end, it means LESS real wealth than would otherwise been the case.

    1. In 100% Money's preface (1st edition), it is explicitly stated that the inflation/deflation cycle is a big part of what causes depressions. Obviously, he was aware of the relationship.

      It seems to me that, despite your obvious intelligence and wide ranging knowledge, you don't actually know much of anything about Fisher or his work.

      I'd love to see some of the supporting literature for other things you are saying, but at this point I feel I have all I need to know from you concerning your problems with Fisher. Thanks for your time! I learned some new stuff, for sure.

  13. I could cite various books ShaneCRoach – but I strongly suspect you have already read them.

    Such as Rothbard's work on the Great Depression.

    We do not agree – fair enough.

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