The True Gold Standard (Second Edition)
Key Writings: Domitrovic on the Gold Standard
Federal Reserve chairman Ben Bernanke’s big speech last week before the students at George Washington University didn’t necessarily start out to be a screed against the gold standard, but it sure turned out that way. For its first two-thirds, the speech was a folksy historical justification of central banking. But in the peroration, the end, and then the Q&A, almost against its better instincts, it devolved into gold-bashing.
It was a pretty undisciplined speech, and the shots Bernanke fired against gold ran the gambit. He repeated the utterly minor point that gold standards encourage gold exploration and development, thus diverting resources from the real economy. He said that bank failures happened in number in the gold-standard era, but provided no point of reference as to the relative size of these failures. And at last he dwelt on the gold standard’s complicity in the onset of the Great Depression.
Thus the speech serves a particular useful purpose. It essentially concedes this important point: across all the arguments against gold that are made from historical examples, there is only one that packs a punch. This is that gold caused the Great Depression.
Whatever criticism there is to be leveled at the gold standard during its halcyon days in the late 19th and early 20th centuries, we now know, it is small potatoes. However many panics and bank failures you can point to from 1870 to 1913, the underlying economic reality is that the period saw phenomenal growth year after year, far above the twentieth-century average, and in the context of price oscillations around par that have no like in their modesty in the subsequent century of history.
Moreover, the silence of the critics about the renewed if modified gold-standard era of 1944-1971, the “Bretton Woods” run of substantial growth and considerable price stability, indicates that it too is innocent of sponsoring an irreducibly faulty monetary system.
Six down quarters of GDP growth, unemployment that pushed 11%, a stock market that hadn’t made money in over a decade – it’s a wonder that we’ve had the temerity to call ours the worst economic crisis since the 1930s. For the previous statistics apply to the horrid years of 1980-1982.
It’s been strange that during this Great Recession we haven’t thought to apply the solution that met the ’80-’82 crisis, given that the great booms of the latter 1980s and the 1990s were what resulted – with unemployment and inflation vanishing from the scene, the stock market quintupling, and all the rest.
The solution done back then: stabilize money and cut taxes.
To be sure, on the latter front, we have proved sufficiently skittish about raising taxes. In 2010, President Obama even went in for extending the George W. Bush-era tax cuts at the margin.
But stabilizing money – no way, no how have we seen that half of the supply-side solution.
Let’s go back to 1980. In that year, the Federal Reserve was undergoing one of the worst episodes in its history, feeding an inflation that was running at 14% while pumping interest rates well into the double-digits. In this sour context, Sen. Jesse Helms of North Carolina decided it was time for action. He got Congress to set up a commission to study returning to the gold standard, with a recommendation to be made within two years’ time.
There are two common objections to returning our monetary system to the gold standard. The first is that there isn’t enough gold out there to back the amount of money needed by a world economy bent on growth.
This is a funny objection on several grounds. For when economies are growing (unlike now), nobody wants to hold gold, because it takes currency, not gold, to participate in an investment and entrepreneurial bonanza. Moreover, when the world was roundly on the gold standard, during the great 19th-century peace from 1820-1914, industrial-world GDP increased 9-fold.
The second objection is that the economy is prone to panics and crises under gold. Weren’t there major depressions all the time in the old days on account of gold, in 1873, 1893, 1907, and worst of all, 1929?
No, no, no, and no. Let’s take the first two examples, 1873 and 1893. On both occasions there were pushes into gold, as the real economy got parched for money. Unemployment and such resulted.
But how bad were these panics? The yearly GDP decline of the 1873 event is simply not traceable, at a fifth of a percent. And before and after 1873, growth was great. So great, in fact, that the 1870s as a whole – inclusive of the 1873 “panic” – remains the single greatest decade of economic growth in American history. The economy boomed by a whopping 71% in the 1870s.
As for 1893, it was a rougher patch, with GDP down about ten points and unemployment touching 10%. As one student of the topic put it, it was about as bad as the 1982 recession. But prior to 1893, there had been the peak of all peaks, as the 1880-1892 run of 77% growth followed up the incredible 1870s. In other words, as GDP slipped in 1893, it slipped from high on the mountaintop.
Soon the economy regained its footing and reached new peaks. From the 1894 trough, growth over the next 17 years was 3.6% yearly, a number we-who-today-must-celebrate-2.5% growth can only look at longingly.
Somewhere in that sizeable run was another “panic:” 1907. But blink and you missed it, because after growth slipped in 1907, it powered up in a V- shape at a 3.9% rate untill the Federal Reserve was founded in 1913.
As the essential Nathan Lewis, of Forbes and Gold: The Once and Future Money fame, once put it, “monetary interpretations of the [Great] Depression had fallen out of favor somewhat by the 1970s. It wasn’t until the 1980s, as a political drive for a gold-linked currency gathered force, that academics revived old notions about an unstable gold standard.”
Well, academics, you’d better dust off those old notions and start spiffing them up. Because the same individual who set your thoughts a-reeling in 1982 is making waves again in 2011.
But first let’s go back to 1982. In that year, the United States came fairly close to getting back on the gold standard – the very gold standard that had done little things in the past like supervise the industrial revolution. In 1982, the U.S. was considering a guarantee whereby any holder of $500 could claim an ounce of gold in exchange from the Treasury.
This was the suggestion of the intellectual leadership of a commission that had been chartered by Congress to look into the gold question. At the time, it had only been a decade since the U.S. had severed the dollar’s last ties to gold. The thanks the nation had gotten in the interim were a series of double-dip recessions en route to a trebling of the price level; stagflation, in a word.
That intellectual leadership came in the persons of Ron Paul, who has continued to carry the torch of gold to this day at the level of presidential politics, and Lewis E. Lehrman, the entrepreneur and historian. As Wall Street Journal editor Robert L. Bartley once said of Lehrman, “he could and still can tilt monetary policy with anyone.”
Now as it turned out, the Gold Commission of 1982 narrowly voted to hold off on recommending a return to the gold standard, the trenchancy of Lehrman and Paul’s minority report – a volume that still richly repays rereading – notwithstanding.
So reform-wise, nothing happened to our monetary system in the go-go years of the 1980s and 1990s (outside of making celebrities of Fed chairmen). We got our semi-low inflation of 3% for a while. In 2008, the oversight blew up in our face as the Fed virtually took over the world.
Therefore it comes as major news that Lew Lehrman has written a book, The True Gold Standard, just out, that aims to put some oomph in the Rahm Emanuel maxim that you never let a crisis go to waste. The book is clear as can be that going back to gold is precisely the solution that this world economy, longing for stability and prosperity as it is, needs right now
Paul Krugman’s co-author in the economic journals, the New York Federal Reserve economist Gauti Eggertsson, has made a claim about economic growth that is enjoying received-truth status among historians. Here it is, from a 2008 issue of the American Economic Review: “1933–1937 registered the strongest output growth (39 percent) of any four-year period in US history outside of wartime.”
At a Great Depression conference sponsored by Ohio University a week ago, where Eggertsson repeated the claim, Univeristy of California-Davis historian Eric Rauchway wondered in this context why anyone would ever complain about Franklin Roosevelt’s New Deal. In its first four years, after all, 1933-37, it produced the greatest economic growth the U.S. has ever seen. To complain about the pace of New Deal economic growth, as some conservative critics are wont to, Rauchway said, is akin to whining that it took the most powerful rocket ever produced a full three days to take the astronauts to the moon.
Yet is Eggertsson’s figure correct in the first place? Eggertsson used Office of Management and Budget data. This is perhaps not the best source. One canonical data set, the figures at measuringworth.com, have 1933-37 growth rounding to that of 1878-1882 at the second decimal place. The variation is so low, it is from a statistical perspective easily enveloped by the margin of error.
To be methodologically precise, then, 1933-37 was not the greatest era of economic growth in American history, for it did not measurably exceed the period of 1878-82.
In Ohio, Eggertsson and Rauchway made clear their intentions in lionizing the 1933-37 record. These were to indicate – to prove – that the New Deal government programs enacted in this period represented especially effective economic policy. Try the stuff again today in our depressed circumstances, they virtually screamed.
The problem with highlighting the sharpness of the growth of 1933-37 is that it was bounded by ugly conditions, fore and aft. In 1933, U.S. economic output was at the nadir of its worst depression ever, down 24% from the 1929 peak. Growth had better have been fast coming out of this. And after 1937, the economy stumbled so badly that unemployment zoomed past 15%. 1933-37 growth looks appealing superficially, but when embedded in its era, it is no great shakes.
In contrast, there is the record of 1878-82 and its own run of some 40% growth. In the four years prior, there had not been a historic collapse in economic growth that made the base year of 1878 low, as was the case in 1933. Rather, in the four years before 1878, growth had come in at 13%; in the previous ten years, growth had totaled 49%. In other words, 1878-82 was a mega-acceleration from a high base.
BY BRIAN DOMITROVIC: