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A Response To Ben Bernanke’s ‘Misunderstanding’ About The Gold Standard (GLD, SLV, IAU, SGOL)

April 3rd, 2012

The Daily Capitalist:  Fed Chairman Ben Bernanke has been giving a series of lectures on the Fed to students at George Washington University. They are available as videos for our enjoyment (see links, below). In his first lecture, Mr. Bernanke discussed various reasons why a gold standard would not work and why in the past it has caused many of our economic problems.  We at the Daily Capitalist have a fondness for the gold standard and take umbrage and exception to Mr. Bernanke’s ‘misunderstanding’ of the gold standard and history. We have asked one of our resident experts, Keith Weiner to respond to Mr. Bernanke, as politely as Keith could be.

Dear Chairman Bernanke:  You have publicly gone on record with some off-the-wall assertions about the gold standard. What made you think you could get away with it? Your best strategy would have been to ignore gold. Although I concede that with the endgame of the regime of irredeemable paper money near, you might not be able to pretend that people aren’t talking and thinking about gold. You can’t win, Mr. Chairman. In this letter I will address your claims and explain your errors. I hope you enjoy it.

Before I get into your specious claims, I want to point out two of important facts. First, the gold standard exists when people are free to choose what they wish to use for money. Gold has won this market competition over thousands of years. When people are not forced to use government-issued scrip they choose gold. And, Mr. Bernanke, the shabby little secret of your irredeemable paper money is that you have a money monopoly (legal tender laws) and can force creditors to accept it. Why won’t you let people be “free to choose”?


Second, central planning does not work. The Politburo in the since-collapsed Soviet Union did not know how many shoes to make of what sizes. And you don’t know what rate of interest to set. Central planning has always led to the collapse of the specialization of labor and the economy with it, to the degree that it is attempted. The Federal Reserve, the central bank of the USA, is the central planner for money, credit, interest, and discount. Given the importance of money to every single aspect of the economy, it is no exaggeration to say that there is no such thing as a free market built on top of a centrally planned monetary system.

In your speech at George Washington University, you made the following claims:

1. The gold standard hasn’t really worked since the end of WWI.

2. To have a gold standard, you have to go dig up gold in South Africa and put it in a basement in New York. It’s nonsensical.

3. The gold standard links the currencies of every country, causing policy in one country to transmit to another. So for example, if the UK fixes the number of pounds to an ounce of gold, and the U.S. fixes the number of dollars to an ounce of gold, then the pound and the U.S. dollar inadvertently become linked.

4. It creates deflation, as William Jennings Bryan noted. The meaning of the “cross of gold” speech: Because farmers had debts fixed in gold, loss of pricing power in commodities killed them.

5. The gold standard tends to cause interest rates to rise during downturns and interest rates to fall during good times, the exact opposite of what monetary policy should be doing.

6. The economy was far more volatile under the gold standard.

7. The only way the gold standard works is if people are convinced that the central bank ONLY cares about maintaining the gold standard. The moment there’s a hint of another priority (like falling unemployment) it all falls apart.

8. Gold standards leave central banks open to speculative runs, since they usually don’t hold all the gold.

9. The gold standard is based on the “desire to maintain the value of the dollar”—implying a “desire to have very low price stability.”

10. The gold standard is based on an aversion to allowing the central bank to respond with monetary policy to booms and busts, and a desire not to give the central bank that power.

11. There’s simply not “enough” gold.

12. The commitment to the gold standard is that no matter how bad the economy gets, we’re going to stick to the gold standard.

13. The gold standard was one of the main reasons the Great Depression was so bad and so long.

I will discuss your assertions in order.

1. The gold standard hasn’t really worked since the end of WWI.

This is true. Just prior to Christmas in 1913 (which, by the way, is before the beginning of the war) the Federal Reserve Act was passed into law. Ever since, the Fed has taken for itself and been granted more and more power to try to centrally plan money and credit. You and your predecessors have been in power for a century, but this fact is in no way an argument against the gold standard.

2. To have a gold standard, you have to go dig up gold in South Africa and put it in a basement in New York. It’s nonsensical.

The fact is that for thousands of years, people have been digging gold up and putting it in basements. To call the behavior of so many people over so many years “nonsense” is arrogant. A free country has room for arrogant men, but no place for arrogant men to back their whims with the force of government power. From 1933 until 1975, one could be imprisoned for the “crime” of possessing gold. This was part of FDR’s scheme to centrally plan the economy. To this day, it is not legal for a creditor to demand payment in gold. If you are so confident that you are right and all that good men should be happy that you print dollars at your discretion, can we agree on an experiment? Let’s repeal the laws that force creditors to accept paper, and the laws that nullify gold clauses in contracts, and the taxes on the “gains” in gold, and the laws that force taxpayers to use dollars as their unit of account for bookkeeping purposes, and see what people choose when the gun is not compelling them. I would wager one ounce of good gold against a frayed old dollar bill that people will choose gold if you let them.

3. The gold standard links the currencies of every country, causing policy in one country to transmit to another. So for example, if the U.K. fixes the number of pounds to an ounce of gold, and the U.S. fixes the number of dollars to an ounce of gold, then the pound and the U.S. dollar inadvertently become linked.

Actually, Mr. Chairman, you are describing the gold exchange standard that prevailed from the treaty at Bretton Woods until it collapsed in 1971 with Nixon’s default. This isn’t the gold standard. The choice is not between price fixing vs. excluding gold altogether. The choice is between the freedom for people to choose gold vs. your ‘smart and efficient’ central planning.

4. It creates deflation, as William Jennings Bryan noted. The meaning of the “cross of gold” speech: Because farmers had debts fixed in gold, loss of pricing power in commodities killed them.

The Coinage Act of 1792 fixed the price of silver in terms of gold at (15:1). Like every instance of laws that attempt to interfere with the markets, this provision was an unmitigated disaster. Whichever metal is officially valued at less than its market value will be pulled out of circulation and sent elsewhere for its market price. Whichever metal is overvalued will be imported from every corner of the earth and come flooding into the country.

In 1873, the government was ready to open the US Mint again. But when they wrote the list of which coins the Mint was authorized to coin, they somehow “forgot” to include the one ounce silver coin. Silver was demonetized. I am sure it had nothing to do with lust for power by the good men who ran the government, nor with any lobbying that might have occurred around that time. This was dubbed the “Crime of ‘73”.

Demonetizing silver destroyed enormous amounts of capital. Just imagine the farmer, to use your example, who has been working hard and saving all his life. And then the government, in callous and cavalier fashion, passes a law that destroys the value of his savings. This is the power of central planning: to sit in an office in Washington, taking into account the planners’ whims, pet theories, and the desires of lobbyists, and casually dispose of the income and wealth of the people without their consent. One would think, Mr. Chairman, that this has more to do with power rather than monetary soundness.

5. The gold standard tends to cause interest rates to rise during downturns and interest rates to fall during good times, the exact opposite of what monetary policy should be doing.

Mr. Chairman, this is exactly what the economy needs to recover. ZIRP has only delayed recovery, consumed more capital, and discouraged savings.

The Fed has pushed interest rates down to zero on the short end. This has achieved nothing good, and yet you are unwilling to consider that just maybe this theory is wrong. Your ZIRP policy has shown to be ineffective at stimulating the economy.

The original promise of the central bank was that it would prevent recessions and depressions. As recently as the “Great Moderation” which abruptly ended in 2001, the myth that the Fed could do this was widely believed. But instead we have seen more frequent and much larger downturns (such as the one which began in 2008). Instead of preventing downturns, the Fed is causing downturns.

Let us look at the cause of these downturns. At first the Fed (or any central bank) encourages credit expansion by various means. Then bond speculators (who did not exist under the gold standard) jump onto the bandwagon and the result is that interest rates have fallen for more than 30 years in a row. Why does this happen?

During this long period much credit is created by member banks. This credit is, in effect, counterfeit. This fiat credit, credit not based on real savings, allows the borrower to acquire assets with “money” based on … nothing. Savers who deposit money with such banks have no idea that their demand deposits are being lent out or that their time deposits are lent for a term longer than the term of their certificates of deposit (such as anyone who deposits in a bank nowadays). Also it occurs when the borrower lacks either the means or intent to repay (such as the government, or many bond issuers and banks). Sooner or later, the game is up. Further borrowing can no longer keep current on the interest payments. Not even by “rolling” the debt. As an aside, Mr. Chairman, here is another dirty secret of the irredeemable currency: there is no way for any debt, ever, to be repaid; it only moves from one debtor to another and ultimately ends up at the Fed or the Treasury.

When this mountain of fake credit and fiat money eventually collapses we have what you call a “downturn”. Every such boom always has a bust. This is the painful process of writing off bad loans. Capital has been destroyed, and everyone who made bad loans must write them off. You are correct to note that interest rates rise as a result. Capital is far more scarce than people believed during the boom.

6. The economy was far more volatile under the gold standard.

Mr. Chairman, I don’t think even you really believe this, so I will not comment further except to note that the 1929 crash occurred under the tender ministrations and brilliant central planning of the Fed.

7. The only way the gold standard works is if people are convinced that the central bank ONLY cares about maintaining the gold standard.   The moment there’s a hint of another priority (like falling unemployment) it all falls apart.

8. Gold standards leave central banks open to speculative runs, since they usually don’t hold all the gold.

A gold standard is what occurs when there is no central bank. You somehow assume that it is the Fed’s role to centrally plan gold. That doesn’t work. If the Fed did do this, then, yes, based on the Fed’s history of mismanagement, it would be subject to runs.

9. The gold standard is based on the “desire to maintain the value of the dollar”—implying a “desire to have very low price stability.”

The gold standard is about many things. But, Mr. Chairman, your statement reveals a profound misunderstanding of the gold standard. First of all, to hear you speak about the “maintaining the value of the dollar, is interesting since it has lost about 98% of its value in the 100 years since your organization began centrally planning. Second, under gold, prices do not remain constant. That kind of stasis is neither possible nor desirable. Prices, and more importantly changes in prices, signal to consumers and entrepreneurs what is scarce and what is in demand. What remains stable under a gold standard is the rate of interest.

Yet under the Fed’s careful designs, interest rates have been massively unstable. As recently as 30 years ago, the rate on the 10-year US Treasury was almost 16%. Today it is 2.2%, having recently hit a low under 1.8% (and this rise of more than 22% in a short period of time is both staggering and revealing). Volatile interest rates brought about by Fed policies cause enormous destruction to industry. It makes it difficult for businesses to plan for growth. Under the Fed’s guidance, neither prices nor interest rates have been stable.

10. The gold standard is based on an aversion to allowing the central bank to respond with monetary policy to booms and busts, and a desire not to give the central bank that power.

Here you are correct, Mr. Chairman. You should not have that power. No one should have that power. A brilliant author by the name of JRR Tolkien wrote a story about power, The Lord of the Rings . That power that you believe is essential to prevent booms and busts is the central problem: the Fed creates booms and busts. It’s hard to take off that ring, Mr. Bernanke.

11. There’s simply not “enough” gold

How much gold do you think there is, Mr. Chairman? How much gold do you think a gold standard would need? You don’t know either number, of course. This canard is illogical on its face. It is like saying, “what should prices be?” Prices will be what the market decides them to be. What you are really talking about are prices based on today’s depreciating Federal Reserve Notes. Here is the rule: prices will adjust to whatever level the market determines based on the supply of and demand for gold.  Problem solved.

12. The commitment to the gold standard is that no matter how bad the economy gets, we’re going to stick to the gold standard.

This is an interesting logical fallacy. You are lumping together commitment to gold with bad economy. This called “begging the question”. You are presuming what you ought to be asking.

13. The gold standard was one of the main reasons the Great Depression was so bad and so long.

This is an astounding yet common argument against gold, which amounts to “curve fitting” to match a desired outcome (denigrating the gold standard). It is a false argument based on false history. If you wish to understand the Great Depression, this article written by a great scholar, Hans Sennholz, is a good start.

I distinctly remember you saying that the main cause of the Depression was the Fed’s mistaken monetary policy. This Monetarist view propounded by Milton Friedman says that the Fed could have avoided the Depression by increasing the money supply to counter a shrinking money supply. If it were only so simple. Of course this was the policy you advocated and implemented to prevent the Great Recession that still plagues us, as you often note. So now are you changing your position on this and blaming the Great Depression on the gold standard?

The causes of the Great Depression were complex and varied, but two themes run through it: the Fed’s policies before and after the Crash of ’29, and the government’s interference in the economy. As a reputed scholar of the Great Depression, you should be aware of these causes and think independently rather than blindly follow myths about the Great Depression.

Mr. Chairman, I am convinced that the regime of irredeemable paper money and hence the Fed is going to come to a sudden and catastrophic end. Please see my paper entitled “Gold Bonds: Averting Financial Armageddon”. One way or another the power of the Fed will end and I would prefer that it end without ending Western civilization. Recall my earlier statement about capital being rare and precious? Your policies are helping accelerate an unprecedented destruction of capital. When the capital is gone the game will be up.

I would like to avoid plunging into a new Dark Age. Can we agree at least on this, Mr. Bernanke?

I hope to hear from you soon.

Very truly yours,

Keith Weiner

ETF DN Noted Tickers:  iShares Silver Trust (NYSEARCA:SLV), SPDR Gold Trust (NYSEARCA:GLD), iShares Gold Trust (NYSEARCA:IAU), ETFs Gold Trust (NYSEARCA:SGOL).

Written By Keith Weiner From The Daily Capitalist

The Daily Capitalist comments on economics, politics, and finance from a free market perspective. We try to present fresh ideas the reader would not find in contemporary media. We like to call it “unconventional wisdom.” Our main influences are from the Austrian School of economics. Among its leading thinkers are Carl Menger, Ludwig von Mises, Friedrich von Hayek, and Murray Rothbard. There are many practitioners of this school today and some of their blogs are shown on the blogroll. We trace our political philosophy back to Edmund Burke, David Hume, John Locke, and Thomas Jefferson, to name a few.

Our goal is to challenge contemporary economic thinking, mainly from those who promote Keynesian economics (almost everyone) and those who rely on statist solutions to problems. We apply Austrian theory economics to investments, finance, investment risk, and the business cycle. We have found that our view has been superior in analyzing and understanding economic and market forces. We don’t consider ourselves Democrats or Republicans, right wing or left wing. But rather we seek to promote free markets and political freedom.


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