Originally posted on Tuesday, June 25th, 2013
The prolific AEI writer James Pethokoukis recently devoted a blog, A return to the gold standard. Please, stop. Here’s a much better idea. to criticizing the gold standard (and promoting Scott Sumner’s proposal to have the “central bank target the path of nominal GDP through a market mechanism.”). The posting promptly drew 4 comments, all critical of Pethokoukis’s analysis.
There are several factual errors in Pethokoukis’s column.
It is troubling to discover him reprising a discredited myth: “(And there is the fact that the gold standard played a key role in causing the Great Depression.)” As Sen. Daniel Patrick Moynihan famously quipped, in a debate with James Buckley, “Everyone is entitled to his own opinion, but not his own facts.” And since the gold standard had not been in effect for over a decade preceding the Great Depression, to posit it as a fact is, simply, wrong (and wrongheaded).
Of greater concern is the authority which, by hyperlink, Pethokoukis relies upon for this statement. In a 1990-1991 paper by (then) Professor Ben Bernanke and (still) Prof. Harold James, to which this links, makes a distinction which Pethokoukis, for unfathomable reasons, blurs:
The gold standard—generally viewed at the time as an essential source of the relative prosperity of the late nineteenth and early twentieth centuries— was suspended at the outbreak of World War I. Wartime suspension of the gold standard was not in itself unusual; indeed, Bordo and Kydland (1990) have argued that wartime suspension, followed by a return to gold at prewar parities as soon as possible, should be considered part of the gold standard’s normal operation. Bordo and Kydland pointed out that a reputation for returning to gold at the prewar parity, and thus at something close to the prewar price level, would have made it easier for a government to sell nominal bonds and would have increased attainable seignorage. A credible commitment to the gold standard thus would have had the effect of allowing war spending to be financed at a lower total cost.
Possibly for these reputational reasons, and certainly because of wide-spread unhappiness with the chaotic monetary and financial conditions that followed the war (there were hyperinflations in central Europe and more moderate but still serious inflations elsewhere), the desire to return to gold in the early 1920s was strong. Of much concern however was the perception that there was not enough gold available to satisfy world money demands without deflation. The 1922 Economic and Monetary Conference at Genoa addressed this issue by recommending the adoption of a gold exchange standard, in which convertible foreign exchange reserves (principally dollars and pounds) as well as gold would be used to back national money supplies, thus “economizing” on gold. Although “key currencies” had been used as reserves before the war, the Genoa recommendations led to a more widespread and officially sanctioned use of this practice (Lindert 1969; Eichengreen 1987).
Bernanke and James state directly, in section 2.2:
“The classical gold standard of the prewar period functioned reasonably smoothly and without a major convertibility crisis for more than thirty years. In contrast, the interwar gold standard, established between 1925 and 1928, had substantially broken down by 1931 and disappeared by 1936. An extensive literature has analyzed the differences between the classical and interwar gold standards. This literature has focused, with varying degrees of emphasis, both on fundamental economic problems that complicated trade and monetary adjustment in the interwar period and on technical problems of the interwar gold standard itself.
Indeed, that the “interwar gold standard” (or, more precisely stated, gold-exchange standard) was the chief culprit behind the Great Depression, is an assessment propounded most persuasively and consistently by the late 20th century’s greatest proponent of the classical gold standard, Prof. Jacques Rueff.
To blur the distinction (as Bernanke and James did not) between the classical and inherently unstable gold-exchange standard is, at best, sloppy work. This is not a mere academic quibble. The key proponents, in the policy discourse, are not, as Pethokoukis states, from “among the libertarian followers of Ron and Rand Paul.” With great respect both for Dr. Paul and Senator Paul, Dr. Paul never introduced gold standard legislation during his tenure in the House (he advocated competitive currencies instead), and neither has Senator Paul (who has focused most of his legislative attention, thus far, on a valiant crusade to protect civil liberties).
The proponents of the gold standard, while fully supportive of a sensible Hayekian case for competing currencies, right now focus around prescriptions for the restoration of a classical gold standard. And the agenda of the classical gold standard proponents does not include abolition of the Fed. (That is a prescription from which even Dr. Paul, in practice, backpedaled.)
Of greatest concern is this column’s aspersion of the Centennial Monetary Commission “to explore reforming the Fed, including possibly re-instituting a gold standard.”
The legislation chartering such a Commission calls for conducting an empirical study of six different monetary policies. Its franchise, of course, includes the gold standard as one of these six. The gold standard correlates tightly with some of the best, if not the very best, economic growth in American and world history. The Commission’s charter also enumerates, for study, “nominal gross domestic product targeting (both level and growth rate).”
NGDP targeting is precisely what Pethokoukis proposes as the “new gold standard.” To denigrate a Commission constituted to conduct a methodical study of various monetary regimes including the one which he himself propounds as superior shows little confidence on his part that NGDP targeting is likely to withstand rigorous scrutiny. If Pethokoukis really is confident in the superiority of having “the Fed create NGDP futures contracts, pegging them at a price that would rise at 5% per year” as the superior monetary protocol then it behooves him to take a constructive role in encouraging the formation of an authoritative public body in which his claims for NGDP targeting — as well as claims for other regimes — can be rigorously examined and assessed.