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A Road to Prosperity

The case for a modernized gold standard.

By From the October 2012 issue

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To choose or to reject the true gold standard is to decide between two fundamental options: on the one hand, a free, just, stable, and objective monetary order; and on the other, manipulated, inconvertible paper money, the fundamental cause of a casino culture of speculation and crony capitalism, and the incipient financial anarchy and inequality it engenders.

Restoration of a dollar convertible to gold would rebuild a necessary financial incentive for real, long-term, economic growth by encouraging saving, investment, entrepreneurial innovation, and capital allocation in productive facilities. Thus would convertibility lead to rising employment and wages. Economic growth would be underwritten by a stable, long-term price level, reinforced domestically by a rule-based, commercial and central banking system subject to convertibility, and internationally by exchange rates mutually convertible to gold. Consider the past decade of hyper-managed paper currencies and manipulated floating exchange rates wherein American annual economic growth fell to an anemic 1.7 percent. Under the classical gold standard (1879–1914), U.S. economic growth averaged 3 to 4 percent annually, the equal of any period in American history.

Different growth rates are not mere accidents of history. The gold dollar, or true gold standard, underwrites, among other things, just and lasting compensation and purchasing power for workers, savers, investors, and entrepreneurs. It prevents massive, recurring distortions in relative prices created by manipulated paper currencies and floating exchange rates, which misallocate scarce resources. It suppresses the incentives for pure financial speculation, everywhere encouraged under manipulated paper currencies and floating exchange rates. It rules out the “exorbitant privilege” and insupportable burden of official reserve currencies, such as the dollar and the euro. It limits and regulates, along with bankruptcy rules, the abuse of fractional reserve banking that is commonplace under inconvertible paper-money systems. It minimizes the enormous premium exacted by the banker and broker establishment in the purchase and sale of volatile foreign exchange.

Moreover, the lawfully defined gold content of a stable currency encourages long-term lending and investment, stimulating more reliance on equity, less on leverage and debt. With currencies convertible to gold, long-term lenders receive in turn, say after 30 years, similar purchasing power compared to the capital or credit they surrendered to the borrowers. (Convertibility thus encourages stable long-run domestic and international growth, not the austerity engendered by deficits.)

A dollar legally convertible to gold, reinforced by effective bankruptcy law, sustains economic justice, regulating and disciplining speculative capital, and restraining political and banking authorities such that they cannot lawfully depreciate the present value or the long-term purchasing power of lagging dollar wages, savings, pensions, and fixed incomes. Nor under the sustained, legal restraint of convertibility can governments ignite major, long-run, credit and paper money inflations with their subsequent debt deflations. Under the gold standard, the penalty for excessive corporate and banking leverage is insolvency and bankruptcy. As the profits belong to the owners, so should the losses. Bankruptcy of insolvent firms shields the taxpayer from the burden of government bailouts. Under the rule-based gold standard in a free-market order, managers, stockholders, and bondholders must bear the responsibility for insolvency.

A stable dollar, convertible to gold, leads to increased saving not only from income, but also from dishoarding, a fact often neglected by economists. Dishoarding means releasing a vast reservoir of savings previously held in hedges such as commodities, antiques, art, jewelry, farmland, or other items purchased to protect against the ravages of inflation. These trillions of savings, imprisoned in hedging vehicles by uncertainty and inflation, are induced out of hedges, and the capital is then supplied in the market to entrepreneurs, business managers, and households who would create new income-generating investment in production facilities, thereby leading to increased employment and productivity. On the other hand, central bank subsidies to government and subsidized consumption, both enabled by inconvertible paper and credit money, lead—through deficit financing, transfer payments, paper money fiscal and monetary stimulation—to disinvestment, debt financing, speculative privilege, and growing inequality of wealth.

It is rarely considered by conventional academic opinion that the long-term stability of a rule-based currency convertible to gold brings about a major mutation in human behavior. In a free market every able-bodied person and firm must first make a supply before making a demand. This principle effectively alters human conduct. It encourages production before consumption, balances supply and demand, rules out inflation, maintains balanced international trade, and upholds the framework for economic growth and stable money. In a free market and its banking system, grounded by the rule of convertibility to gold, new money and credit may be prudently issued only against new production or additional supply for the market, thus maintaining equilibrium between total demand and total supply.  Inflation is thereby ruled out. Moreover, worldwide hoarding of real assets, caused by government overissue of paper money, would come to an end.

The irony of the gold standard and currency convertibility is that it ends speculation in gold. It restores the incentive to use and hold convenient, convertible paper currency and other gold-convertible cash balances. Thus can the road to economic growth, rising real wages, and growing employment be rebuilt on the durable foundation of a free monetary order—that is, money free from government manipulation.

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About the Author

Lewis E. Lehrman is a senior partner at L. E. Lehrman & Co. and chairman of the Lehrman Institute.