The Daily Reckoning
PRESENTS: Hard money week. Readers maybe surprised when they see who wrote this
essay. It’s about promoting gold as the key element of monetary organization,
written in 1966. This essay is taken from “The Liberty Dollar Solution,” edited
by Bernard von NotHaus.
GOLD AND ECONOMIC FREEDOM
by
Since the beginning of World
War I, gold has been virtually the sole international standard of exchange.
Gold, having both artistic
and functional uses and being relatively scarce, has always been considered a
luxury good. It is durable, portable, homogeneous, divisible
and, therefore, has significant advantages over all other media of exchange.
But if all goods and
services were to be paid for in gold, large payments would be difficult to
execute, and this would tend to limit the extent of a society's division of
labor and specialization.
Thus, a logical extension of
the creation of a medium of exchange is the development of a banking system and
credit instruments (bank notes and
deposits) that act as a substitute
for, but are convertible into, gold.
A free banking system based
on gold is able to extend and thus to create bank notes (currency) and
deposits, according to the production of the economy. Individual owners of gold
are induced, by payments of interest, to deposit their gold in a bank (against
which they can draw checks).
But since it is rarely the
case that all depositors want to withdraw all their gold at the same time, the
banker need keep only a fraction of his total deposits in gold as reserves.
This enables the banker to loan out more than the amount of his gold deposits
(which means that he holds claims to gold rather than gold as security for his
deposits). But the amount of loans which he can afford to make is not arbitrary:
He has to gauge it in relation to his reserves and to the status of his
investments.
When banks loan money to
finance productive and profitable endeavors, the loans are paid off rapidly and
bank credit continues to be generally available. But when the business ventures
financed by bank credit are less profitable and slow to pay off, bankers soon
find that their loans outstanding are excessive relative to their gold
reserves, and they begin to curtail new lending, usually by charging higher interest
rates. This tends to restrict the financing of new ventures and requires the
existing borrowers to improve their profitability before they can obtain credit
for further expansion.
Thus, under the gold
standard, a free banking system stands as the protector of an economy’s
stability and balanced growth. When gold is accepted as the medium of exchange
by most or all nations, an unhampered free international gold standard serves
to foster a worldwide division of labor and the broadest international trade.
Even though the units of exchange (the dollar, the pound, the franc, etc.)
differ from country to country, when all are defined in terms of gold, the
economies of the different countries act as one - so long as there are no
restraints on trade or on the movement of capital.
Credit, interest rates and
prices tend to follow similar patterns in all countries. For example, if banks
in one country extend credit too liberally, interest rates in that country will
tend to fall, inducing depositors to shift their gold to higher-interest-paying
banks in other countries. This will immediately cause a shortage of bank
reserves in the "easy money" country, inducing tighter credit standards
and a return to competitively higher interest rates again.
A fully free banking system
and fully consistent gold standard have not as yet been achieved. But prior to
World War I, the banking system in the
It was limited gold reserves
that stopped the unbalanced expansions of business activity, before they could
develop into the post-World War I type of disaster. The readjustment periods
were short and the economies quickly re-established a sound basis to resume
expansion.
But the process of cure was
misdiagnosed as the disease: if shortage of bank reserves was causing a
business decline - argued economic interventionists - why not find a way of
supplying increased reserves to the banks so they never need be short! If banks
can continue to loan money indefinitely - it was claimed - there need never be
any slumps in business. And so the Federal Reserve System was organized in
1913. It consisted of 12 regional Federal Reserve banks nominally owned by
private bankers, but, in fact, government sponsored, controlled and supported.
Credit extended by these banks is in practice (though not
legally) backed by the taxing power
of the federal government.
Technically, we remained on
the gold standard; individuals were still free to own gold, and gold continued
to be used as bank reserves. But now, in addition to gold, credit extended by
the Federal Reserve banks ("paper" reserves) could serve as legal
tender to pay depositors. When business in the
More disastrous, however,
was the Federal Reserve's attempt to assist Great Britain, who had been losing
gold to us because the Bank of England refused to allow interest rates to rise
when market forces dictated (it was politically unpalatable). The reasoning of
the authorities involved was as follows: If the Federal Reserve pumped
excessive paper reserves into American banks, interest rates in the
The "Fed"
succeeded: it stopped the gold loss, but it nearly destroyed the economies of
the world in the process. The excess credit which the Fed pumped into the
economy spilled over into the stock market - triggering a fantastic speculative
boom. Belatedly, Federal Reserve officials attempted to sop up the excess
reserves and finally succeeded in braking the boom.
But it was too late: By 1929 the speculative imbalances had become so
overwhelming that the attempt precipitated a sharp retrenching and a consequent
demoralizing of business confidence.
As a result, the American
economy collapsed.
In the absence of the gold
standard, there is no way to protect savings from confiscation through
inflation. There is no safe store of value. If there were, the government would
have to make its holding illegal, as was done in the case of gold.
If everyone decided, for
example, to convert all his bank deposits to silver or copper or any other
good, and thereafter declined to accept checks as payment for goods, bank
deposits would lose their purchasing power and government-created bank credit
would be worthless as a claim on goods. The financial policy of the welfare
state requires that there be no way for the owners of wealth to protect
themselves.
This is the shabby secret of
the welfare statists’ tirades against gold. Deficit
spending is simply a scheme for the "hidden" confiscation of wealth.
Gold stands in the way of this insidious process. It stands as a protector of
property rights. If one grasps this, one has no difficulty in understanding the
statists’ antagonism toward the gold standard.
Regards,
for The Daily Reckoning
Editor’s Note: