(Richard M. Salsman wrote this e-mail to me in response to my previous post and gave me permission to share it with readers of the blog.)
Prompted by Glasner’s recent critique of claims about the “golden constant” (Jastram’s finding of long-term relative stability in gold’s real purchasing power), Kurt Schuler recently wished to locate a “middle ground” between our current (post-1971) monetary system of central banking and fiat money (hereafter, “CB&FM”) and a system of free banking on the gold-coin standard (hereafter, “FB&GS”).
Why a middle ground, or at least something of a transition period?
Kurt is right, I believe, in arguing that central banking and gold-based money are incompatible; in logic and history alike they don’t go together, at least not for long. “If you want the gold standard in durable form,” he writes, “you can’t have central banking,” and “if you want central banking, you should not mix it with the gold standard.” This means a “Bretton-Woods II,” while tempting (compared to our current system), would likely prove futile; before long, its golden element would be manipulated or sabotaged, as happened under B-W (1945-1971), and the financial fallout will be blamed on gold, yet again, not on a deficit-spending Treasury or a debt-monetizing Fed. As I showed in Gold & Liberty (1995), the gold standard wasn’t the cause of the Great Depression, nor of the breakdown of B-W I; see also Chapter VII, and the section titled “The Incompatibility of Central Banking and the Gold Standard.” And in a recent article, “The End of Central Banking,” I expand on the Selgin-White thesis that the purpose (“end”) of central banking is largely fiscal – and not a “fix” of supposed “market failures” (“A Fiscal Theory of Government’s Role in Money,” 1999), and their thesis that private financial institutions have far greater credibility than central banks in maintaining gold-convertibility or even fixed exchange rates (“Credible Currency: A Constitutional Perspective,” 2005). In short, the reason central banking is incompatible with the gold standard is that it exists mainly to help finance the fiscally-profligate state – a state that requires limitless fiat money.
Yet immediate adoption of a system of free banking and gold-based money is a remote possibility – as remote as immediate repeal of the fiscally-overextended welfare-warfare state – despite welcome optimism from certain gold-money advocates. How then might a “middle ground” be established, without sacrificing principles in support of liberty and the rule of law for government generally and money and banking particularly? The only plausible version I’ve ever found to be defensible – and even then, only as a transition to a pure system of FB&GS – is the supply-side case for a “gold price rule” (hereafter, a “GPR”).
Under a GPR, the Fed would only buy and sell gold at a fixed price; there’s no currency convertibility, and no actual gold coinage in circulation, nor even any minimum required gold reserves at the Fed (and none at the banks, either, although they’d be free to buy and hold gold). A GPR could be advocated as a worthy competitor to today’s two dominant rules – the monetarist rule (money supply targeting; in extremis, QE – “quantitative easing”) and the Keynesian rule (interest-rate targeting; in extremis, the ZIRP – “zero interest-rate policy”). But a GPR also could be our middle-ground path to a purer (free-market) monetary system, when (and if) the ideological climate changed sufficiently to restrain or reduce the size, scope, and cost of government (hence, its fiscal neediness).
A GPR was first comprehensively advocated by Art Laffer in 1980 (“Reinstatement of the Dollar: A Blueprint”), and was the basis for the “Gold Reserve Act of 1980” (GRA), introduced by then-Sen. Jesse Helms. The GRA died with the Gold Commission (1982). Not many supply-siders, of course, would go so far as to advise the eventual phasing-out of central banking. At best, their version of GPR was to morph into central-bank managed currency convertibility. According to Laffer and Kadlec, “the purpose of a gold standard is not to turn every dollar bill into a warehouse receipt for an equivalent amount of gold, but to provide the central bank with an operating rule that will facilitate the maintenance of a stable price level” (“The Point of Linking the Dollar to Gold,” Wall Street Journal, October 13, 1981). To this day, most supply-siders place undue trust in central banks’ willingness to establish or preserve gold-based money. Yet free bankers, in rejecting this premise, need not also reject the positive aspects of a GPR – its superiority to Keynesian and Monetarist rules, and its role as a path to purity. For an analogous precedent in political theory-history, see the shift from absolute monarchies – to constitutional monarchies – to constitutional republics.
A major objection to the GPR would be that it merely gives a central planner (Fed) advice – purportedly, “a better rule.” But a GPR advocate can simultaneously stress opposition to central planning (central banking), and present a GPR as the means to an even better system. A GPR would help markets and banks become comfortable again with gold-based monetary stability. Also, free bankers could stipulate, as part of a GPR, that the Fed can’t own government securities and must divest those it now holds, and that it no longer regulate banks. Additionally, we must phase out the array of subsidies now made to banks: the discount window, the FDIC, and the TBTF policy. We start with GPR, but seek gradually to reduce and withdraw the moral hazard aspects of CB&FM.
We must also insist that the Fed no longer manipulate or gyrate interest rates (the Keynesian rule), but leave their determination to markets. Oddly, some supply-siders (Wayne Angell, others) believe a GPR is best attained by a central bank altering interest rates: raising them when the gold price moves above the target, and lowering them when gold declines below it. At any rate, under a GPR that has the central bank dealing only in gold, not government securities, interest rates nevertheless should be more stable, since the dollar itself would be more stable (fixed to gold). But if the Fed is to be stripped of such powers, why not just have the Treasury conduct the GPR, directly? As long as government exists, even its legitimate fiscal needs require a Treasury, which surely can borrow, to handle uneven revenues and spending. Treasury itself could buy and sell gold at a fixed price, with dollar-denominated Treasury notes (TNs). Retire Federal Reserve Notes (FRNs) and replace them with TNs. Banks today already hold liquid T-Bills and thus can easily handle TNs. In time private banks could issue currency, in dollars, with “dollar” defined as a fixed weight of gold (say 1/1500ths an ounce of gold – today’s rate), with full convertibility under fractional reserves.
In short, a GPR could be a helpful “middle ground” that’s both achievable in our time and yet a viable path to FB&GS, should the reigning political ideology ever permit it. Advocates of FB&GS can remain “policy relevant,” in a world that still heavily favors CB&FM, without sacrificing their deeper, libertarian principles.
Comments and criticisms are most welcomed.