Paper Money vs. The Gold Standard: An Explanation

Great piece here on the Future of Freedom Foundation website by Richard Ebeling.

http://fff.org/explore-freedom/article/paper-money-versus-the-gold-standard-an-explanation/

 

 

by Richard M Ebeling

We are living in a time that can only be considered monetary chaos. The U.S. Federal Reserve has manipulated key interest rates down to practically zero for the last six years, and expanded the money supply in the banking system by $4 trillion dollars over that time. And with the true mentality of the monetary central planner, the Fed Board of Governors are now planning to manipulate key interest rates in an upward direction that they deem desirable.

The European Central Bank (ECB) has instituted a conscious policy of “negative” interest rates and planned an additional monetary expansion of well over a trillion Euros over the next year. Plus, the head of the ECB has assured the public and financial markets that there is “no limit” to the amount of paper money that will be produced to push the European economies in the direct that those monetary central planners consider best.

We also should not forget that it was the Federal Reserve that earlier in the twenty-first century undertook a monetary expansion and policy of interest rate manipulation that set the stage for the severe and prolonged “great recession” that began in 2008-2009, in conjunction with a Federal government distorting subsidization of the American housing market.

The media and the policy pundits may focus on the day-to-day zigs and zags of central bank monetary and interest rate policy, but what really needs to be asked is whether or not we should continue to leave monetary and banking policy in the discretionary hands of central banks and the monetary central planners who manage them.

Central Banking as Monetary Central Planning

And make no mistake about it. Central banking is monetary central planning. The United States and, indeed, virtually the entire world operate under a regime of monetary socialism. Historically, socialism has meant an economic system in which the government owned, managed, and planned the use of the factors of production.

Modern central banking is a system in which the government, either directly or through some appointed agency such as the Federal Reserve in the United States, has monopoly ownership and control of the medium of exchange. Through this control the government and its agency has predominant influence over the value, or purchasing power, of the monetary unit, and can significantly influence a variety of market relationships. These include the rates of interest as which borrowing and lending goes on in the banking and financial sectors of the economy, and therefore the patterns of savings and investment in the market.

If there is one lesson to be learned from the history of the last one hundred years – during which the world and the United States moved off the gold standard and onto a government-managed fiat, or paper, money system – is the fundamental disaster of placing control of the money supply in the hands of governments.

Continual Government Abuse of Money

If is worth recalling that money did not originate in the laws or decrees of kings and princes. Money, as the most widely used and generally accepted medium of exchange, emerged out of the market transactions of a growing number of buyers and sellers in an expanding arena of trade.

Commodities such as gold and silver were selected over generations of market participants as the monies of free choice, due to their useful characteristics to better facilitate the exchange of goods in the market place.

For almost all of recorded history, governments have attempted to gain control of the production and manipulation of money to serve their seemingly insatiable appetite to extract more and more of the wealth produced by the ordinary members of society. Ancient rulers would clip and debase the gold and silver coins of their subjects.

More modern rulers – whether despotically self-appointed through force or democratically elected by voting majorities – have taken advantage of the monetary printing press to churn out paper money to fund their expenditures and redistributive largess in excess of the taxes they impose on the citizenry.

Today the process has become even easier through the mere click of a “mouse” on a computer screen, which in the blink of an eye can create tens of billions of dollars out of thin air.

Thus, monetary debasement and the price inflation that normally accompanies it have served as a method for imposing a “hidden taxation” on the wealth of the citizenry. As John Maynard Keynes insightfully observed in 1919 (before he became a “Keynesian”!):

By a continuous process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method, they not only confiscate, but they confiscate arbitrarily; and while the process impoverishes many, it actually enriches some. The process engages all of the hidden forces of economic law on the side of destruction, and does it in a manner that not one man in a million can diagnose.

It is the corrosive, distortive, and destructive effects from monetary manipulation by governments that led virtually all of the leading economists of the nineteenth century to endorse the “anchoring” of the monetary system in a commodity such as gold, to prevent governments from using their powers over the creation of paper monies to cover their budgetary extravagance. John Stuart Mill’s words from the middle of the nineteenth century are worth recalling:

No doctrine in political economy rests on more obvious grounds than the mischief of a paper currency not maintained at the same value with a metallic, either by convertibility, or by some principle of limitation equivalent to it . . . All variations in the value of the circulating medium are mischievous; they disturb existing contracts and expectations, and the liability to such changes renders every pecuniary engagement of long date entirely precarious . . .

Great as this evil would be if it [the supply of money] depended on [the] accident [of gold production], it is still greater when placed at the arbitrary disposal of an individual or a body of individuals; who may have any kind or degree of interest to be served by an artificial fluctuation in fortunes; and who have at any rate a strong interest in issuing as much [inconvertible paper money] as possible, each issue being itself a source of profit.

Not to add, that the issuers have, and in the case of government paper, always have, a direct interest in lowering the value of the currency because it is the medium in which their own debts are computed . . . Such power, in whomsoever vested, is an intolerable evil.

The Social Benefits of a Gold Standard

Under a gold standard, it is gold that is the actual money. Paper currency and various forms of checking and other deposit accounts that may be used in market transactions in exchange for goods and services are money substitutes, representing a fixed quantity of the gold-money on deposit with a banking or other financial institution that are redeemable on demand.

Any net increases in the quantity of currency and checking and related deposits are dependent upon increases in the quantity of gold that depositors with banking and financial institutions add to their individual accounts. And any withdrawal of gold from their accounts through redemption requires that the quantity of currency notes and checking and related accounts in circulation be reduced by the same amount. Under a gold standard, a central bank is relieved of all authority and power to arbitrarily “manage” the monetary order.

Many critics of the gold standard consider this a rigid and inflexible “rule” about how the monetary system and the quantity of money in the society is to be determined and constrained. Yet, the advocates of the gold standard have long argued that this relative inflexibility is essential to discipline governments within the confines of a “hard budget.”

A Gold Standard Can Limit Government Monetary Abuse

Without the “escape hatch” of the monetary printing press, governments either must tax the citizenry or borrow a part of the savings of the private sector to cover its expenditures. Those proposing government spending must either justify it by explaining where the tax dollars will come from and upon whom the taxes will fall; or make the case for borrowing a part of the savings of the society to cover those expenditures – but at market rates of interest that tell the truth about what it will cost to attract lenders to….(Read More)

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About RightFromYaad

A view from "the Right", as a source of ideas to create a new vision of freedom and what it promises for Jamaicans, to counter the tyranny of the status quo of Jamaica's reality since 1962. Website: RightFromYaad.wordpress.com Email: rightfromyaad@gmail.com Twitter : @rightfromyaad Facebook: https://www.facebook.com/pages/Right-From-Yaad/244886608978438?ref=ts&fref=ts
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