The Gold Standard Guys Are Their Own Worst Enemies
March 20, 2014
(This item originally appeared at Forbes.com on March 20, 2014.)
The Great Depression was, unquestionably, the time when monetary thinking throughout the Western world began to migrate from a Classical approach emphasizing stable money (in practice, a gold standard system), to a Mercantilist approach, emphasizing economic management via interest rate manipulation and currency jiggering. This is really only possible with a floating fiat currency, which is why today’s Mercantilists are avid gold-standard-haters, and why we have floating currencies today.
Most “economics” is really just propaganda, and along those lines, for the last eighty years it has become popular to blame the Great Depression on whatever policy you happen to dislike, and then claim that the Great Depression would have been mitigated or helped by whatever policy you happen to like. It’s equivalent to The Hitler Analogy among the economics wonks.
Thus, it is no surprise that some economists want to blame the Great Depression on the gold standard monetary system of that time. The fact that gold standard systems had been used for many decades — actually centuries — before then, and produced no such problems in the past, and did not produce any such problems after their revival in 1944 as the Bretton Woods system, is one of those inconvenient facts that tends to get ignored. Why 1930, and no other time, in 500 years of history?
Now here’s the funny bit: the people who blame gold standard systems for the Great Depression are … the gold standard advocates themselves!
It’s ridiculous. It’s absurd. But, it’s true, and has been for decades.
Here’s the even odder part: the Mercantilists (academic Keynesians), including John Maynard Keynes himself and also his modern counterparts like Barry Eichengreen or Paul Krugman — in other words, the natural enemies of any stable-value system — don’t blame the gold standard system for the Great Depression.
Talk about Freaky Friday.
The modern Mercantilists of course argue that some kind of interest rate manipulation, and currency-jiggering including blatant devaluation, would have helped the situation. They blame “Golden Fetters” for preventing governments from rushing to the rescue more quickly or effectively with their Funny Money solution. But, they don’t blame the onset or cause of the Great Depression itself on the gold standard system. They generally see it is a sort of loss of “animal spirits” following the stock market crash of 1929, followed by widespread bankruptcy and default, causing economies worldwide to settle into a “new equilibrium” at a depressed level.
The capitalist self-healing process that many hoped for seemed broken. There was no natural recovery, so the Mercantilists made up some extraordinarily silly math to justify their notion that this situation had to be resolved by government “stimulus,” in the form of an orgy of Federal spending (“fiscal stimulus”) and cheap-money tactics (“monetary stimulus”).
The Classical economists were embarrassed, and, far worse, were thrown out of positions of influence (and remuneration). They could have reacted to their failure by expanding their understanding of economic cause and effect. For example, the Smoot-Hawley Tariff — and the explosion of similar tariffs by governments worldwide in retaliation — might have had something to do with the collapse of world trade immediately afterwards.
Seems kinda obvious to me. It seemed obvious to others at the time too, which is why more than 1000 economists in the U.S. publicly voiced their opposition to it. But, afterwards, they sort of forgot about it.
As economies rather predictably turned down, governments then reacted with an explosion of domestic tax hikes, notably in Britain, Germany and the United States. President Hoover famously raised the top income tax rate from 25% to 63% in 1932, but this was actually just one part of a wide-ranging assault that included an explosion of excise taxes (Federal sales taxes), corporate taxes, and state-level tax increases.
That might be bad for an economy. Just look at what has been happening with “austerity” (tax hikes and promised-but-not-actually-delivered-on spending cuts) in Europe, and dozens of other countries worldwide that have fallen under the IMF’s poisonous influence over the years. It was just like that, but several multiples worse.
The Classical economists never really appreciated these rather blatant economy-negative factors. Nope. In fact, the Classical economists of the time were actually responsible for many of them, especially the “austerity” strategy including giant tax hikes. In the U.S., it was done by Republican Herbert Hoover.
Perhaps that is why, after World War II, historical interpretations of the Great Depression by Classically-leaning authors tend to mention these potentially rather important factors only in passing. Thus lacking a suitable villain, they tend to grasp rather heavily at monetary factors, most of which are more-or-less invented to play the role.
This has taken a number of forms over the years. Some people argue that the value of gold made some kind of explosive jump higher in value — thus, requiring gold-linked currencies to follow gold’s value higher, with deflationary implications. But why 1930, and no other time in centuries of history? At this point a lot of hand-waving ensues, because there is no real reason.
Some people argue that the gold standard systems of the late 1920s had some kind of inherent flaw that caused them to go haywire in some way. But what could that flaw be? A gold standard system is a value link. If there is a flaw in the operation of the system, then it is typically expressed as a failure for the currency to maintain this promised value parity with gold bullion, or, at the very least, the imposition of heavy capital controls and intervention to maintain it. This is exactly what happened in the late 1960s. It didn’t happen in the 1920s and early 1930s.
Still others argue that there was some kind of horribly destructive credit boom, caused by monetary policy. And yet, the whole point of a gold standard system is that there isn’t a monetary policy, of the Keynesian sort that could, conceivably, induce such a credit boom. (Credit booms have certainly happened during gold standard eras, but they weren’t caused by Mercantilist currency-jiggering. These were plain old-fashioned capitalist excess.)
And some people just Blame France. Exactly how France managed to (accidentally) cause this global economic demolition is not well explained. More hand-waving ensues, unsupported by historical evidence.
I’ve looked into all of these hypotheses, over the course of fifteen years, and haven’t found anything meaningful behind them. But consider that John Maynard Keynes — who was no dummy about these things — also found nothing inherently wrong with the gold standard systems of that time. He just thought that the difficult problems of the day justified a funny-money approach.
Part of the problem is that the majority of gold standard advocates, over the past hundred years or so, haven’t had much understanding of how gold standard systems actually work. If they did, they would have known that these claims don’t make much sense. It’s like saying that an automobile caught on fire because it was a hot day. It might make sense to someone who doesn’t know anything about automobiles. A mechanic would say: noooooot very likely.
That’s one reason I had to go into it, in great detail, in my new book Gold: the Monetary Polaris (now available for free in eBook form). This basic understanding is necessary to make sense of historical events.
Maybe the Keynesian historians got it right this time. There was nothing particularly wrong with the gold standard systems of the 1925-1931 period, except, in their view, that it prevented the application of “monetary policy” when they felt it was needed.
But maybe it would have been better not to destroy world trade with a tariff war, and then follow up with insane “austerity” tax hikes. Maybe, if that damage had already been done, a good approach would have been to simply reverse the policies, and return to the policy conditions of 1928, in many countries worldwide.
Maybe, if that had been done, people wouldn’t have felt the need to try to solve a tax policy disaster with a money-jiggering solution. Maybe other people wouldn’t have tried to blame a tax policy disaster on some sort of nonexistent monetary cause. And, maybe we would still have a world gold standard system today.