Thursday, August 13, 2015

St. Louis Fed Admits Governments Have Messed With the Gold Standard

I'm sure St. Louis Federal Reserve Vice President and Economist David Andolfatto wasn't attempting to prove that government manipulations of a fixed weight gold standard creates problems in the economy but that is exactly what a recent history lesson, he provides,does. He writes:
 The phrase “create money out of thin air” refers to the Fed’s ability to create money at virtually zero resource cost. It is frequently asserted that such an ability necessarily leads to “too much” price inflation. Under a gold standard, the temptation to overinflate is allegedly absent, that is, gold cannot be “created out of thin air.” It would follow that a return to a gold standard would be the only way to guarantee price-level stability.
Unfortunately, a gold standard is not a guarantee of price stability. It is simply a promise made “out of thin air” to keep the supply of money anchored to the supply of gold. To consider how tenuous such a promise can be, consider the following example. On April 5, 1933, President Franklin D. Roosevelt ordered all gold coins and certificates of denominations in excess of $100 turned in for other money by May 1 at a set price of $20.67 per ounce. Two months later, a joint resolution of Congress abrogated the gold clauses in many public and private obligations that required the debtor to repay the creditor in gold dollars of the same weight and fineness as those borrowed. In 1934, the government price of gold was increased to $35 per ounce, effectively increasing the dollar value of gold on the Federal Reserve’s balance sheet by almost 70 percent. This action allowed the Federal Reserve to increase  the money supply by a corresponding amount and, subsequently, led to significant price inflation.
This historical example demonstrates that the gold standard is no guarantee of price stability. 
Andolfatto misses the point. FDR broke the promise that had been established with regard to the exchange rate between gold and dollars, that's what caused the increase in the money supply and price inflation. It was the violation of the gold standard which set the price inflation climbing.

It is the fixed rate that is the key to the gold standard. This has always been recognized.

In the 1948 first edition of Paul Samuelson's Economics, he wrote:
To go on the gold standard a country needs to consult no one. Its Treasury must do two simple things (1) agree to buy gold brought to it at a given price....(2) offer to sell gold freely to all comers at the same price...that is all there is to it.
Andolfatto's historical example is not an example of the failure of the gold standard to limit price inflation. It is an example of how government changing the rules of a set gold standard may lead to price inflation. And, one must, ask? What would be the alternative in the mind of a Fed economist, a complete fiat currency with no anchor at all to prevent price inflation?



  1. [aka Stargazer] Governments always change the rules when it is to their advantage to do so, especially when they want to go to war. No matter what monetary constraints are specified by laws or constitutions, eventually future generations will "forget" why the constraints were established and demand that the "demon" constraints be removed so they can do whatever it is they now desire. It is a repeating cycle. Mankind always finds a way to screw up the simplest things. It is our nature. Sad.

  2. Andolfatto just says that the gold standard is also made out of thin air, or out of fiat. The US Govt just says gold is worth $X per ounce, it wasn't like a constitutional amendment.

  3. A gold standard does not necessarily create price stability. As more gold is discovered at a cheaper cost the value of gold goes down. If a major catastrophe were to occur causing major gold mines to close, the value of gold would go up. Price stability is a myth in a real free market.

  4. What an idiot. The gold standard won't work because a mob of thugs with badges will steal everybody's gold, while tools like David Andolfatto tell you it's for your own good.

  5. The kicker to the Roosevelt story: FDR himself found it necessary to return the United States to something akin to the gold standard (with some operational modifications) via the Bretton Woods conference in 1944. The UK side of those negotiations was led by ... John Maynard Keynes himself. THAT gold standard undergirded post-war prosperity for the US.