08.29.2012 0

The left’s monetary alchemy

By Bill Wilson — The left has been in a huff over the Republican National Convention Platform Committee’s decision to include a proposal calling for a gold commission to examine whether the value of the U.S. dollar should be fixed as a weight of gold.

New York Times columnist and economist Paul Krugman called it a “very bad, no good, truly awful idea,” pointing to price volatility of gold in this chart from 1968 to present:

Here, Krugman is suggesting that fluctuations in demand for the commodity would unduly affect the value of the dollar. What he fails to point out to readers is the significance of the two major price fluctuations he cites that came in the 1970s and the 2000s.

The 1970s was a period of high inflation, notably in consumer prices, and a very weak dollar. It had immediately followed Richard Nixon’s end of the international gold exchange standard in 1971. The 2000s was another period marked by rising asset prices, particularly real estate and education, plus commodity price inflation like oil, and, again, a very weak dollar.

Comparatively, as the dollar strengthened in the 1980s and 1990s, the price of gold fell.

These fluctuations in demand for gold were driven by something. So, perhaps Krugman thinks that the gold chains disco era of the 1970s, and then the hip hop bling of the 2000s are to blame for these fluctuations in demand.

Or, a more rational analysis might conclude that low confidence in the dollar, combined with rising prices, drove demand and thus the price of gold upward as a hedge against inflation. If gold was currency, fixed in price by law, as under the classical gold standard, those dynamics would not be present, because the dollar would be as good as gold.

Over at the Washington Post, Ezra Klein complains that a gold standard would prevent the Federal Reserve and other central banks from acting as lenders of last resort. Therefore, there couldn’t be bailouts for banks that foolishly lent a bunch of money to those who could not afford to repay.

Exactly. That’s one of the points of a rules-based monetary system.

It is this exact doubling down on the bad bets of the too-big-to-fail gang that couldn’t shoot straight that has put our economy into a tailspin and has tied Ben Bernanke’s hands. Unemployment is still too high, and even more distressingly, underemployment is through the roof.  Meanwhile, growth is too slow to facilitate a true recovery, despite the Fed’s printing presses having more than tripled the monetary base since the crisis began in Aug. 2007.

It should be noted that if a return to gold was coupled with real financial reform that prohibited banks from lending fiat money into existence, there would be no credit bubbles to pop. So, that really would be much less of a problem.

But even one of the greatest advocates for a return to the gold standard, Lewis Lehrman, who along with Ron Paul delivered the previous gold commission’s minority report, can see a role for a lender of last resort under a gold standard. In “The True Gold Standard,” Lehrman writes that the Federal Reserve could “via the discount (lending) window … provide emergency funding to solvent banks at above-market rates, secured by short-duration, high-quality, liquid collateral.”

Lehrman continues, “Emergency funding to any single institution should be limited by law or regulation to not more than six months, in aggregate, after which time the institution will be required to issue additional equity, merge, sell, or liquidate in the event it remains unable to obtain permanent funding from private capital providers in the market.”

And so, under Lehrman’s proposal, the Fed would be permitted “to provide a short-term funding facility to solvent banks during financial stress or panics.” At the same time, Lehrman calls for deeper liquidity requirements, stronger capital ratios and regulations restricting leverage including derivatives to “create a less crisis-prone banking system, a more resilient financial system leading to more accurate market-price signals, and more moderate business cycles.”

The alternative appears to be a fiat system with unlimited credit expansion, high inflation, high unemployment, unaffordable housing, education, and health care, unrestrained government borrowing that inevitably leads to national defaults, and the economic chaos created as a result.

In that sense, turning fiat money into sustainable growth is a lot like medieval claims by alchemists of turning lead into gold.

What Krugman and Klein conveniently ignore is that the current crisis is 100 percent a creation of the unrestrained monetary policies that they have embraced. Not surprisingly, rather than to take ownership of the disaster of the post-gold standard economy, they choose to attack sound money, which is the only way out.

Bill Wilson is the President of Americans for Limited Government. You can follow Bill on Twitter at @BillWilsonALG.

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