Forward: If there are only a few articles you ever read on the gold standard, this should be one of them. The reason is that it is complete. It covers the moral case for the gold standard as well as its practicality. Although beginning with the basics it incorporates some of the more intricate aspects of it’s virtues.
There is no call in this article to re-establish the gold standard today. Whether the gold standard is ever re-established is not the point. The point, is that like freedom, it is the ideal. And like freedom, while achieving it may be a distant goal, moving toward it is always the direction we should be moving.
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At one time the case for the gold standard was practically self-evident — undisputed by most economists and appreciated by both laymen and professionals. Today, however, the case for gold is buried under decades of propaganda, misconceptions, and myths. It has been only recently that the case for the gold standard has begun to surface from under the Policy Makers’ anti-gold debris. Consequently, gold is once again gaining the attention and interest it so rightly deserves.
Today’s free-market advocates of the gold standard differ from past advocates. For example, free-market advocates do not exclude silver or other commodities from their concept of a gold standard. Indeed, they do not even insist that gold must be money. The case for the gold standard is actually the case for market-originated commodity money, and the case against government-regulated fiat money. It is simply an extension of the case for free markets which respect the rights of man, and the case against controlled markets which violate the rights of man.
To be concerned with the gold standard is to be concerned with a free economy, regulated by the values and choices of men, rather than a controlled economy in which the values and choices of men are regulated by government. This concern for man’s freedom to express values and exercise choices is derived from the deeper concern for justice and for man’s right to property. The man concerned with justice does not aim to force others to use gold as money. Rather, he insists that government has no right to prevent him and other men from using gold as money if they choose. The man concerned with property rights does not urge government to legislate pro-gold policies in order to arbitrarily increase the value, popularity, or status of gold. Rather, he insists that government stop inflating, since this arbitrarily decreases the value of his money claims to property.
Antagonists of the gold standard claim that it is impractical. But the gold standard is, in fact, the most practical monetary system yet conceived by man. However, the gold standard’s primary virtue does not lie in its practicality: it lies in its morality. Those concerned about such things as freedom, justice, the preservation of property rights and purchasing power, would do well to consider the moral case for the gold standard, for, once understood, it is the individual’s best defense against government confiscation of property through inflation.
The fact that prevents government from indulging in inflationary schemes under the gold standard can be best summed up in a phrase: governments can’t print gold. But to understand the implications of this statement, and the virtues of having gold as money, it is first necessary to understand what money is — and what money is not.
What Money Is . . .
A man on a desert island has no need for money. He produces the goods he needs to survive, and consumes all he produces. Similarly, a primitive society has no need for money. The kinds of goods produced are extremely limited, and if individuals desire to exchange their goods with one another, they can do so through direct exchange, i.e., barter. But under a division of labor economy where men specialize in production and where there is a variety of goods produced, desired, and traded, there is a very definite need for money. For how else could Mr. Jones in Florida sell his oranges to men throughout the world and then buy Mr. Smith’s best-selling novel, unless there existed some medium of exchange acceptable to all parties.
Money originates from men’s desire for indirect exchange. And more, since indirect exchange usually occurs between strangers like Smith and Jones, money must be an object which is mutually valued. Thus, money is that commodity which serves as a medium of exchange by virtue of its high degree of marketability.
The task of discovering which commodity will be most valued by and most acceptable to men as a medium of exchange can only be accomplished through a market process; for it is only through the market that men’s values and choices are properly reflected. The verdict of the market has reflected three general requirements for any lasting medium of exchange: that money should be generally acceptable to most men; that it should be practical to use; and that it should be relatively stable in value. If these requirements are satisfied, the result is a money of trust.
Trust is the lifeblood of money, and money is the lifeblood of any economy based on the indirect exchange of goods and services. A money of trust serves to facilitate exchange among men, and in doing so, breeds a healthy and growing economy. But if men should ever begin to mistrust money, the market will immediately reflect this loss of confidence. Then money will begin to lose stability, lose its acceptability, and will soon become impractical to use in exchange.
Mistrusted money is the antithesis of the lifeblood of an economy. It’s a kind of “bad blood” circulating between men throughout the economy, breeding confusion and suspicion. The fact that men’s mistrust of money will result in monetary crises and collapse, underscores the need for a money that never contradicts men’s values, a money that at all times properly reflects men’s values, i.e., a money based on, and constantly exposed to, individual choices — which means a free-market-originated commodity money.
When one considers the complex process that must take place before men can discover which commodity money constantly reflects their changing values and choices, one can understand why it is only through a free market process that money can properly evolve as a medium of trust. And one may also understand why no man, group of men, or government, has the right to dictate what money or its value should be. This decision must be a market decision if it is to be a lasting decision.
Throughout history, almost every conceivable commodity has been used as a medium of exchange. Through the years of economic development and through trial and error, those commodities least suited to serve as money were eliminated, while those commodities best suited survived as forms of money. After centuries of exchange between men, the commodity that emerged as the most valued, the most practical, the most trusted money among men, was gold.
What gives rise to men’s trust in gold? First, men value gold as money because men value gold as a commodity. Gold at any time can be converted to its commodity role if its monetary role should ever be questioned. Second, since gold is relatively scarce and precious to men, it has stability of value. Therefore, it can be trusted to serve as a relatively stable medium of exchange. And since most individuals desire to save part of what they produce in some monetary form, gold’s stability of value provides them with a reliable monetary method of accumulating and storing wealth.
What else gives rise to men’s trust in gold? Gold is easily marketable, which means it is acceptable to men in exchanges of all kinds. Gold is also trusted because it is practical: it’s durable, so it won’t perish or rot; it’s small in bulk, so it is easily transportable. It’s a metal, which means it can be used in different forms, such as bars or coins; and, since gold does not evaporate, it will lose neither quantity nor quality if or when men should decide to melt their coins into bullion or melt their bullion for use in production.
There is one more thing that gives rise to men’s trust in gold: the knowledge that gold cannot be counterfeited; the conviction that the money supply cannot be artificially and arbitrarily increased by those who would aim to confiscate wealth rather than produce it; the knowledge that money (the claim to production and effort) will itself represent production and effort. In short, men’s trust in gold carries the conviction that the monetary system freely adopted by men is based, not on whim and decree, but on integrity and productivity.
These are some of the reasons why men have trusted gold as a medium of exchange through history — and why today’s Policy Makers damn its existence.
… And What Money Is Not
Money is not paper. Paper notes evolve from the desire for a convenient substitute for commodity money. The paper notes that circulate as money today were once money substitutes (receipts for gold), defined by and convertible into a specific amount of gold. Paper notes did not and cannot become a money of trust without first representing a commodity of trust.
Consider the reaction of free men — men who, understanding and respecting the meaning of property rights, are suddenly and for the first time offered in place of gold, non-convertible paper notes. These notes would be meaningless to such men. No man who had just come from harvesting a field of wheat would even consider trading his wheat for scrap paper.
There are only two ways in which men will accept paper notes without commodity convertibility : if they are forced to do so, or if they are conned into doing so. Americans are now legally forced to accept government’s non-convertible paper notes — but only because they have been conned into believing that commodity money is “old-fashioned” and “impractical” and that paper notes are indicative of a “modern and sophisticated economy.”
Nothing could be further from the truth. Non-convertible paper “money” is fiat money that derives its value, not from its value as a commodity, not from its value as a useful medium of exchange according to the requirements of a medium of exchange, but from the decree of government. Fiat money is a throwback to the days of kings and the mentality of dictators. It is not a money evolved from the values and choices of free men in free markets, but a money created through the coercion of government.
Is commodity money old-fashioned and impractical, as today’s Policy Makers contend it is? Consider the following facts: Over the last several decades, the exchange ratios (the prices) of various commodities have not varied much in value relative to each other. For example, the value of eggs to milk or milk to bread would be at approximately the same ratios today as they were years ago.
Why Prices Rise
But if it is true that the exchange ratios of commodities are relatively the same today as they were in the past, why then have prices (the exchange ratios of dollars to goods) soared over the years? The reason is that the value of the paper money, with which government forces everyone to deal, has fallen yearly relative to all commodities. Clearly, if a commodity (theoretically, almost any commodity) had been used as a medium of exchange over the past decades instead of government’s fiat money, prices would have remained relatively stable. It is important to realize that it is not commodities that are rising in value, but fiat money that is falling in value.
Since 1933, when the U.S. severed the dollar-commodity relationship by abandoning what was left of the gold standard, the value of the dollar has depreciated by over ninety per cent in relation to other commodities. This could never occur under a commodity standard — only under a government imposed fiat standard. Had the U.S. returned to a dollar based on and convertible into gold instead of severing the dollar-gold relationship, the supply of dollars over the years would have been limited to, or checked by, the supply of gold. Therefore, the value of the dollar today would have been equal to the value of gold in relation to other commodities. Instead, the U.S. decided to print dollars whenever “needed” and to pretend that the dollar was “as good as gold” by legally fixing its value. The pretense couldn’t last, and today the dollar is worth a mere fraction of its value in terms of gold in 1933.
Paper notes that are not representative of and convertible into a commodity are not money and have never satisfied the requirements of money for long. They are notes of circulating debt which men are forced to accept, so that governments can continuously pursue their policies of inflation.
The Nature of Inflation
Inflation is the fraudulent increase in the supply of money substitutes and credit. It is a policy which allows government to artificially create and spend more money than it is able to collect in taxes or borrow from its citizens. Government is the cause of inflation — the effect is higher prices.
Consider each dollar as a claim to some tangible good. If the claims are increased, the value of each claim goes down because there are more dollars seeking goods. This bids prices up.
But inflation is not simply rising prices. In fact, inflation may exist even when prices remain the same or decrease. How is this possible? If the production of goods and services increases more than the artificial increase in paper claims, prices will drop — but not by as much as they would have, had there been no artificial increase in paper claims. Thus, in real terms, the value of paper claims is effectively reduced even though in relative terms the value of these claims may increase.
Historically, and in relatively free market economies, there are only two ways in which a general across-the-board increase in prices can occur: through a dramatic increase in commodity money (such as new gold discoveries) or through a fraudulent increase of money substitutes by banks and governments. The former type of general price increase rarely occurs and is perfectly natural. The latter is both unnatural and immoral.
In the case of new gold production, those who have produced the new commodity money will have earned the right to exchange their product for the products of others. All other non-money producers may have to pay higher prices for goods, as the supply of gold increases, but the higher prices are compensated for by having more money to spend. Who receives the “new” money will depend on individual productivity — and this is as it should be, for it is the justice of the market that the acquisition and distribution of wealth is based upon productivity rather than decree.
But, given a fiat standard where government sanctions and sponsors an artificial increase in paper money or credit, the increase in purchasing power for some men can only be obtained at the expense of other men. Given a fiat standard, income distribution is the result of chance, caprice, or government favors and loans. When government doles out its fiat money, these notes dilute the value of all other outstanding money claims. Those who receive the fiat money first, benefit from spending their money before prices rise. But as the fiat money is spent, prices are higher for all other consumers. Thus, the difference between a real increase in the money supply (i.e., commodity money) and an artificial increase (i.e., in paper claims) is the difference between production and theft.
Clearly, inflation is a moral issue. However prices respond, it is immoral that some man, agency, or government is legally permitted to obtain wealth at the involuntary expense of other men. The major challenge in the sphere of monetary relations today is how to abolish the coercive power of government to control the supply and regulate the value of money, and how to return this function to the market where it properly belongs.
The Fiat Standard at Work
Under a fiat standard, government gains control of the banking system and thus, indirectly, of the nation’s money supply. It can artificially and arbitrarily create money and furnish credit. Government paper notes are not based on or convertible into gold, or any other tangible commodity; man’s production and labor are not the sole claim to other men’s production and labor : the supply and value of money are determined by government.
Under the American version of the fiat standard, the banking system and the nation’s money supply are controlled and regulated for the most part by a twelve-man Board of Governors which is empowered to make policy decisions for the majority of the nation’s banks. Thus, America’s banking system is not a free and private banking system — it is a quasi-governmental banking system, known as the Federal Reserve System.
It should be clear that the Federal Reserve System’s power to create claims against individuals’ property is immoral. But neither the Federal Reserve System nor the fiat standard is ever defended on moral grounds; they are defended on practical grounds. Once inspected, however, these grounds turn out to be about as solid as quicksand. The primary justification given for a fiat standard is that credit can be extended far more rapidly and extensively. This, it is claimed, is the fiat standard’s major virtue. It is, in fact, a major vice.
The greatest economic threat under a fiat standard is that the Federal Reserve System will supply heavy doses of money and credit to the loan market in an attempt to reduce interest rates and “stimulate” the economy. This attempt, while temporarily stimulating economic activity, leads to malinvestment, as businessmen falsely anticipate greater profits. A “boom” results, but since the “boom” is artificially created, the prosperity is temporary and, for the most part, illusory. Government has not furnished more goods; it has not increased the nation’s prosperity; it has simply increased the money supply —which leads men to believe they are richer. The fact is, however, they only have more paper claims to goods. This cannot enrich anyone; it can only lead to future inflation, i.e., a reduction of the value of real claims to wealth.
The Illusion of Prosperity
Thus, increases of money and credit provide only an illusion of prosperity, for with increased money and credit come increased costs for producer goods and increased wage costs. Higher wages then lead to over-consumption, as consumers, too, are enticed by the illusion of prosperity. But overconsumption results in higher prices which reduce the consumer’s standard of living. Since the “boom” was inflation-inspired, producers and consumers are not better off — they are worse off. Mal-investment and over-consumption are mistakes — errors in judgment — caused by government’s attempt to con its citizens into believing that profit opportunities are better than they really are.
When the credit expansion that stimulated the “boom” ends, the mistakes that were made cannot be perpetuated. These mistakes must be liquidated: consumers buy less and begin paying off their unrealistic accumulation of debts. Producers liquidate inventories. Interest rates rise, and unemployment increases as the economy struggles to readjust. The severity of the readjustment depends on the degree and length of government’s prior credit expansion and the policies implemented to cope with the adverse effects. Given continual injections of money and credit in the inane attempt to continue the “boom” and prevent a necessary recession, hyperinflation will result. Hyperinflation must lead to monetary chaos as well as economic disaster, i.e., to depression. A major depression is not a necessary result of the fiat standard, but inflation and the “boom-bust cycle” are.
The whole purpose of fiat money is to allow government to spend more money than it can raise in direct taxes from its citizens. As a result, the American fiat standard has worked more often as a means of redistributing wealth than a means of stimulating the economy. Government, instead of furnishing money to the loan market in the attempt to continuously reduce interest rates, has created money to finance the “welfare” state. When government’s fiat money enters the economy in the form of checks for expenditures, rather than through the loan market, the sequence of events and the effects are a little different.
Men usually hold their money as savings, but as prices continue to rise over the years of government deficit spending, men realize that the pieces of paper they hold are continuously and progressively depreciating in value — that inflation is becoming a way of life. Once men begin to lose confidence in government’s fiat money, it’s only a matter of time before the years of simple inflation burst into hyperinflation and monetary collapse.
Thus, whether government tries to stimulate the economy or to finance programs that it cannot afford, the fiat standard is self-defeating and counter-productive. The consequences of America’s fiat standard have been mild by historical standards: the Great Depression of the ’30’s, an endless series of booms and busts since then, and a depreciation of the dollar by about 92 percent. So much for the “practicality” of the fiat standard!
The Meaning of the Gold Standard
In a free society, no man, group of men, or government has the “right” to infringe upon the rights of others. This means that within a free society, the initiation of force is banned. All goals must be attained through persuasion and voluntary cooperation, and no goal may be achieved at the expense of any man — not for the “good” of another man, not for the “good” of the state, and not for the “good” of society. A system of voluntary exchange is a system of laissez-faire capitalism. Under capitalism, man’s rights are supreme. They are defended by government — not violated by government.
A gold standard is an integral part of a free society; a fiat standard is an integral part of a controlled society. A gold standard cannot exist without the consent of individuals; a fiat standard cannot exist without the initiated force of government. A gold standard is based on voluntary exchange, the recognition of men’s values, and respect for private property; a fiat standard is based on compulsory “exchange,” the denial of men’s values, and the insidious confiscation of private property.
Wealth is production, and gold is the equivalent of wealth produced. Because neither wealth nor gold can be created out of nothing, neither wealth nor gold are possible without men of intelligence, men of ability, and men of productivity. Fiat is force and is the equivalent of wealth confiscated. Both fiat and force are the tools of the envious and the cowardly.
Where a gold standard is welcomed by the best of men, the fiat standard is welcomed by the worst of men. Where the gold standard demands the earned, the fiat standard grants the unearned. Where a gold standard evolves from individual choice, a fiat standard evolves from government edict. Where a gold standard necessitates only that men be left free to act, to choose, and to trade, a fiat standard invites government to control, to regulate, and to dictate men’s choices, actions, and the terms of trade.
Gold limits the government’s power to spend more money than it receives in taxes, and in doing so, gold limits the government’s arbitrary power over the economy; gold checks artificial money and credit expansion; it prevents artificial “booms” which lead to very real “busts”; gold protects individuals from economically unsound government programs; and it protects citizens from the inflationary confiscation of private property. Not only is the gold standard the most practical monetary system yet discovered, it is a standard consistent with freedom — yet it is the gold standard that today’s Policy Makers either ignore or denounce.
Paul Nathan
October, 2009
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Paul Nathan has written in the field of economics since 1968. In the seventies he wrote several articles on gold for a national, international magazine. Since then he has become a full time investor and has resumed his witting, focusing on gold and current events.
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