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Affluent Investor | June 24, 2017

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Cruz, Paul, Carson, Huckabee: WSJ’s Greg Ip on “What Republicans Get Wrong About Gold”

gold coins PUBLIC DOMAIN

On November 12, Greg Ip, chief economic commentator for The Wall Street Journal, published a thoughtful, if somewhat incomplete, blog entitled “What Republicans Get Wrong About The Gold Standard.”

Ip opens, perceptively:

No country in the world today operates on the gold standard. That might change if some Republican presidential candidates have their way.

Texas Sen. Ted Cruz reiterated his support for returning to the gold standard in this week’s presidential debate. Kentucky Sen. Rand Paul has said the idea should be studied. Neurosurgeon Ben Carson alluded to the idea, saying, “We’ll have to tie our currency to something,” while former Arkansas Gov. Mike Huckabee advised, “Tie the dollar to something fixed and if it’s not going to be gold, make it the commodity basket.”

To say the least, this puts them outside the economic mainstream. …

What explains the gold standard’s continuing appeal? In a nutshell, its proponents exaggerate its benefits and under-appreciate its failures.

The gold standard is a topic that, for reasons that Ip notes, is likely to recur during the presidential primaries and general election. It is a complicated one and one which it really is valuable to get the nuances right. And it fully deserves return to the mainstream.

Ip points to certain imperfections in the gold standard. He criticizes the gold standard’s proponents as guilty of “exaggerat[ing] its benefits and under-appreciat[ing] its failures.”

The criticism certainly does not apply to the work of the classical gold standards’ most highly regarded spokesmen, Lewis E. Lehrman (a Reagan Gold Commissioner, who, with then Rep. Ron Paul, was the co-signatory to the Gold Commission’s minority report “The Case For Gold”). Lehrman, along with John Mueller, Rep. Jack Kemp’s chief economist currently the Lehrman Fellow at the Ethics and Public Policy Center, public intellectual James Grant, and I, among others, refer to the gold standard as the “least imperfect of monetary systems ever tried in the laboratory of history.” Neither Lehrman nor the other proponents of the classical gold standard are blind to its imperfections. Nor are we blind to its virtues.

There are several variants of the gold standard. These neatly are summarized by another important gold standard thought leader, Steve Forbes, who, in his recent and admirable book with Elizabeth Ames, Money: How the Destruction of the Dollar Threatens the Global Economy—and What We Can Do About It, parses out the leading variants. As the gold standard enters the national political conversation, the distinctions between the “gold standard variations” are certain to gain greater attention. They are important.

My own analytic, derived from Lehrman’s, does not rely on gold’s “rigidity.” It relies, rather, on the gold standard’s organic resilience and higher correlation with equitable prosperity than demonstrated by fiduciary management. So… there may be much more to the gold standard’s continuing appeal than was visible to Ip at first blush.

The classical gold standard’s foremost advocates, in assessing its benefits, are inclined to rely on analysis such as that provided by The Bank of England’s “Financial Stability Paper No. 13 published in December 2011. This paper comes to a rather better-grounded conclusion as to the benefits of the gold standard than do the sources upon which Ip mainly relied upon in his column.

This paper’s assessment was that the gold standard outperformed the fiduciary Federal Reserve Note standard initiated in 1971 in every category measured. This report was summarized in this column by my old friend Charles Kadlec, who quoted its findings that,

“Overall, the evidence is that today’s (international monetary and financial) system has performed poorly against each of its three objectives, at least compared with the Bretton Woods system, with the key failure being the system’s inability to maintain financial stability and minimize the incidence of disruptive sudden changes in global capital flows.”

He then summarizes them as follows:

When compared to the Bretton Woods system, in which countries defined their currencies by a fixed rate of exchange to the dollar, and the U.S. in turn defined the dollar as 1/35th of an ounce of gold:

  • Economic growth is a full percentage point slower, with an average annual increase in real per-capita GDP of only 1.8%
  • World inflation of 4.8% a year is 1.5 percentage point higher;
  • Downturns for the median countries have more than tripled to 13% of the total period;
  • The number of banking crises per year has soared to 2.6 per year, compared to only one every ten years under Bretton Woods;

Moreover, abandoning the gold standard in favor of free floating currencies was supposed to eliminate currency crises and lead to an automatic adjustment in trade imbalances. Instead:

  • The number of currency crises has increased to 3.7 per year from 1.7 per year;
  • Current account deficits have nearly tripled to 2.2% of world GDP from only 0.8% of GDP under Bretton Woods.

These results demonstrate beyond a reasonable doubt that the experiment with floating paper currencies has been a disaster for the people of the world. Had the trends under Bretton Woods continued, the average person’s real income would be nearly 50% higher, the increase in prices would be nearly 50% lower, trade imbalances would be nearly one-third smaller and the world economy over the past four decades would have suffered through 4 instead of 104 banking crises.

Let it be noted that proponents of the classical gold standard, following the thought of Prof.’s Rueff and Triffin, consider Bretton Woods to have been deeply flawed from inception. Yet the Bank of England’s review makes a valuable contribution to the discourse. If memory serves, John Mueller, with whom I discussed this at the time, believes that the classical gold standard performed even better than the Bank of England paper concludes if one relies on data superior to the Bordo data set.

Indictments of the mediocrity, even catastrophe, of the incumbent fiduciary management system, and the superiority of a rules-based system, are by no means isolated. Former Fed Chairman Paul Volcker, in a speech last year before the Bretton Woods Committee last year, observed:

By now I think we can agree that the absence of an official, rules-based cooperatively managed, monetary system has not been a great success. In fact, international financial crises seem at least as frequent and more destructive in impeding economic stability and growth.

The United States, in particular, had in the 1970’s an unhappy decade of inflation ending in stagflation. The major Latin American debt crisis followed in the 1980’s. There was a serious banking crisis late in that decade, followed by a new Mexican crisis, and then the really big and damaging Asian crisis. Less than a decade later, it was capped by the financial crisis of the 2007-2009 period and the great Recession. Not a pretty picture.

Volcker is not a proponent of restoring the classical gold standard. Yet his observations, summarized in the neatly understated phrase “Not a pretty picture” about the current system, harshly indicts the doctrinal (one might well say dogmatic) defenders of the current fiduciary management system. Proponents of the incumbent “Federal Reserve Note Standard,” as Ricky said to Lucy, “have a lot of ‘splainin’ to do.”

Another former Fed Chairman, Ben Bernanke, has taken both sides on the gold standard question. As I noted in an op-ed in Roll Call, Chairman Bernanke’s statement that “if you look at actual history the gold standard didn’t work well” was in direct contradiction of Governor Bernanke’s 2004 speech at Washington and Lee University in which he stated:

The gold standard appeared to be highly successful from about 1870 to the beginning of World War I in 1914. During the so-called ‘classical gold standard period,’ international trade and capital flows expanded markedly, and central banks experienced relatively few problems ensuring that their currencies retained their legal value.

Thus, a facile dismissal of the gold standard is entirely unwarranted. Indeed, Dr. Bernanke: “Lot of ‘splainin’ to do.”

Herr Dr. Jens Weidmann, head of the Bundesbank, in a notable 2012 speech, stated,

“Concrete objects have served as money for most of human history; we may therefore speak of commodity money. A great deal of trust was placed in particular in precious and rare metals – gold first and foremost – due to their assumed intrinsic value. In its function as a medium of exchange, medium of payment and store of value, gold is thus, in a sense, a timeless classic.”

The classical gold standard, in short, is an utterly respectable policy option. It deserves better than the grotesque parodies occasionally rained upon it by polemicists such as Prof. Krugman.

The correlation between equitable prosperity and the gold standard is striking. The gold standard well deserves the political attention it is just beginning, after long political hibernation, to receive both in the presidential campaign and, just possibly, in the Congress.

Another nuance worthy of consideration in the emerging discourse is the wrongful attribution, most effectively propounded by Prof. Barry Eichengreen, of the Great Depression to the gold standard. This represents a conflation of the classical gold standard and the botched interwar “gold standard” formulated in Genoa in 1922, which French economist Jacques Rueff called a “grotesque caricature.”

The Economist recently and correctly called the interwar system “a mess.” I have called the collapsed distinction between it and the true gold standard the “Eichengreen Fallacy” for good reasons.

As economic historian Prof. Brian Domitrovic observed:

The publication of Barry Eichengreen’s Golden Fetters, his essays from the 1980s, was a decisive event in cementing the anti-gold standard position in the academy. And Ben Bernanke was such a lionizer of Eichengreen’s that it would prove very fateful if he were accorded high governmental office, which happened twice (Chair of the Council of Economic Advisors and the Fed). So the anti-gold view became part of the dominant political culture.

George Mason University economics professor Lawrence White decisively disposed of the myth that the gold standard caused the great depression (along with other myths about the gold standard). White eviscerated this myth in an erudite lecture, published by the Cato Institute as “Recent Arguments against the Gold Standard.”

This, so to speak, “white paper” has achieved something like canonical status among serious-minded monetary scholars. It substantively far outweighs the oft-cited cavalier Booth School opinion poll on gold of 40 academic economists, few of whom, it bears noting, were monetary economists.

The premier gold proponents are offering it, now, not as an antidote to non-existent inflation but as a promising antidote to secular stagnation. Going forward, another important distinction to make is in respect to Chancellor the Exchequer Winston Churchill’s resumption of the gold standard at pre-war parity under pressure from Bank of England’s Governor Montagu Norman. Churchill did so, much to the horror of Keynes (who, if memory serves, called this an imbecile policy). This clearly was a botch, a blunder which Churchill deeply regretted. It nearly ended his political career.

The gold standard, properly implemented, need not (and by no means should) be deflationary. This matter depends on the “parity point” selected and, as Lehrman in particular emphasizes, this can and must be determined to preclude deflation and the attendant austerity.

A botch does not indict the system itself. Monetary reform calls for meticulousness and a cautionary against any cavalier approach, preferably after rigorous public study. History calls to mind Indianapolis Monetary Commission of 1897 that led to the successful Gold Standard Act of 1900. We are fortunate that a monetary commission (not a gold commission, although inclusive of the gold standard) is under active legislative consideration in the Congress, having already passed House Financial Services Committee, and is in readiness for a floor vote in the House.

FDR’s devaluation of the dollar, from $20.67 to $35, under the tutelage of economist George Warren, the greatest commodities expert of his day, was exactly right. According to Liaquat Ahamed’s indispensable, Pulitzer Prize winning, Lords of Finance, this led to an immediate burst of robust economic growth, which could well have ended the Great Depression. The revaluation represented a recalibration rather than a repudiation of the system.

A recalibration was necessitated by the defects inherent in the Genoa Accord. It was the right thing to do, and yet it is not clear that FDR fully appreciated what he was doing, hence the double dip as his Treasury began to sterilize gold inflows, a matter duly noted by Prof. Charles Calomiris et al in a paper published by the St. Louis Fed.

Keynes assuredly was right, in his 1923 Tract, in calling the gold standard, as it then existed, a “barbarous relic.”  The context, however, does not imply that Keynes was indicting the classical gold standard itself so savagely. He, after all, was indicting the mess of the interwar standard. I am on record as a great admirer of Keynes, though much less so — like Keynes himself — of the Neo-Keynesians.

Ip’s column was the most thoughtful of the recent critiques recently offered on Senator Cruz’s advocacy of the gold standard (presumably the definition of the dollar as a fixed weight of gold with legal convertibility thereto) as the ideal — the least imperfect — monetary policy. Ip’s thoughts offer a worthwhile contribution yet by no means the last word on this important emerging national conversation.

Ted Cruz has made a bold and respectable proposal to restore the American Dream by restoring a “timeless classic,” the gold standard, thereby appealing both to our interests — prosperity — and our values — fair distribution of that prosperity. The gold standard belongs where it is emerging: at the center of the 2016 presidential campaign.


Originally posted on The Pulse 2016.


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