Problems with a gold standard?

Economics Economics Questions
1

I have lurked here for some time, but never posted beyond a couple of comments on the Mises Daily articles. While I identify strongly with Austrian economic theory, I have noticed that most people here have a much more highly developed sense of these things than I do. I have a friend, who is also a “student” of Ludwig Von Mises, but who supports the existence of the federal reserve. I mentioned that it seems that departure from a gold standard allowed modern states to wage unlimited war, because it was the only way to fund it. He stated that a gold standard won’t work, because if you have population growth, but no growth in the money supply, it causes problems.

I am pretty sure most of what he is saying is nonsense, but I find myself unable to form something that I consider a decent response. I would like to open it up to this community. If he is wrong, then I would love for someone to explain why, because I am not satisfied with just a gut feeling. If he is right, I would love it if someone could elaborate on his points such that they make sense to me. I’m an engineer, not an economist, and while I understand that if the price of grapes goes up people buy less grapes, I’m still struggling through Socialism.

Anyway, here is what he said:

The great thing about gold is that it can’t be replicated. Although more supply can be discovered. The idea of using $ instead of gold is not a bad idea as long as the gov in charge of it is trustworthy and bound by law to not destroy its value. The reason why the world uses USD as base currency is due to it being the only trust worthy currency since WWI. We however are breaching that trust more and more through unrestrained inflation. Hence the call to abandon it. There still is no liberally based gov on earth that can be trusted to implement a currency that can be trusted though.

My problem with the gold standard though is it fails to answer the problems of value fluctuations in terms of productivity/nonproductivity due to its fixed nature.

The gold standard is stationary while economies are dynamic. The two are inherently incompatible with each other. Dynamic economies require dynamic currencies. The GS makes sense on paper in the stationary model but fails to translate into the dynamic reality of fluctuations in economics outside the stationary models.

How can gold as a fixed quantity properly represent a changing system? I get that the GS is a limiter of possible inflation beyond its actual existence. However value is being created while gold is not. Hence the problem. Something that is dynamic cannot be properly represented by something that is static.

Under a GS all gold could be hoarded and thus no more value could be created in a free economy which is retarded. Or more could be discovered wiping out all.

My response was that I didn’t support a gold standard as something enforced by law, I support a gold standard as what the market has decided on as a medium of exchange. If gold becomes untenable for whatever reason, I support the market in finding a new medium. I recognize that it ties the hands of government in a way that the Constitution and laws have not been able to, which is spectactular. I feel that his use of the “dynamic” economy and “static” supply of gold is nonsense, using the wrong words to describe what is happening, but then again, I may be wrong. I welcome any discussion on this. Like I said, my personal thesis is that a gold standard (or whatever market-driven system of money) is the only thing that can protect the economy from having savings destroyed by inflation.

2

If there is less money chasing more goods, prices will decrease and the currency will be able to buy more. Since the currency is worth more, it is more profitable to extract more gold from the Earth, so more will be extracted to make up the “shortfall”

3

This is and was always a non issue for three reasons:

  1. People can use different forms of money. In fact many Austrians do not want a “Gold” standard but desire individuals creating different types of money and letting the market sort out the optimal types. Gold has just been the most commonly used form of money in history. The ancient Romans had gold, silver and copper coins. As gold prices became too high to allow small transactions these people used other metals as money. The most free banking system to ever exist in Scotland used a combination of gold for large transactions and keeping reservers, and silver for small transactions.

  2. Gold suppliers jump into the market as do suppliers of gold from alternate uses. Gold, like silver and copper, have uses other than just being money. In the cases of copper there are a lot of other uses. As the price of the metal rises, the metal buys more stuff, people switch from using the metal alternatively to using it as money.

  3. Fractional Reserve Banking: People can issue paper notes redeemable for gold. Obviously people might issue more notes than they have reservers thus creating business cycles. The business cycles could not be as bad as they are now with central bank inflation. In the most free banking system to ever exist in Scottland, the typical reserver rates were 2 to 5 percent.

Note that the debate among Austrians over fractional reserver banking mostly applies to demand deposits where there are multiple ownership claims on the same piece of property at the same time. Most Austrians have no problem with banks fractionling non-demand deposits or deposits where the bank has ownership rights over the property by contract.

4

Read Bastiat: “What is Money”

It will help answer many of your questions. The market has to choose money. Precious metals have been chosen historically. Cigarettes were money in Germany after the war. Money doesn’t need to be managed only chosen.

5

I’ll definitely check the book out, it sounds like a good read.

My main issue is with the statement that “Economies are dynamic, gold is static”. I don’t understand this statement. I get that the supply of gold can be assumed to be “static”, when compared to the infinite number fiat dollars. I get that economies are “dynamic”. But I don’t think that you can combine those two facts into a statement about the incompatibility of the two systems.

My premise (and many of you share this) is that the market should decide what the money is. It doesn’t have to be the same, people can use whatever they want. Gold and silver has been chosen because small sizes have high value (thus its portable), it’s divisible (unlike a diamond, where two halves are not equal in value to the whole), and it’s hard to fake (because a lot of things you could fake it with are just as valuable). You can use salt, beans, beads, chickens, silver, whatever, it doesn’t matter. The problems only arise when the government starts dictating that only X can be used.

I don’t see any problem with the money supply not growing with the population, and I see no problems with a “static” money supply and a “dynamic” economy. So far I’m not seeing anything to make me think otherwise. Which is good, I do enjoy being right.

6

“due to its fixed nature.”

well…gold certainly hasnt had a fixed nature. gold is mined to this day.

is gold more ‘fixed’ than say increases in a fractional/paper/credit money combo…inflated via governement caprice? i am not completely sure.

but i suppose advancing purchasing power increases of existing goldmoney used to to acquire buried-gold would provide superior mode (market risk) of adding to a money supply.