Positive Liberty

Ron Paul’s pet issue — gold-backed currency — makes Josh Claybourn really uneasy:

Paul’s monetary policy reveals certain limits to my libertarian leanings. I understand his position and the justification for it, but I just don’t buy it. A Paul presidency would bring about a tremendous number of positive changes, but this one - one of his favorites - I can do without.

My comments below the fold.

As longtime readers may know, I’ve been quite interested in the gold standard. In particular, some months ago, I discussed it with two people whose identities are unknown to me but who seem to know their stuff.

There was a good discussion of why many of the standard reasons against the gold standard aren’t as compelling as they’re supposed to be, but on rereading it I’m not convinced by commenter AMW’s disregard for the deflation that might result. As I suspect that Ludwig von Mises would reply, a government-created deflation would be just as much a forced transfer as a government-created inflation. (Come to think of it, he says exactly this, on pages 498-499 of The Theory of Money and Credit, where he discusses the deflationary policies of Britain during the post-Napoleonic and post-World War I eras. These policies were aimed to “correct” the previous inflation, but Mises argued that all it did was to harm more people on the way back down, and that it would have been better to fix the value of money as closely as one could have at the new, though previously inflated, value.)

All of this makes returning to the gold standard, with the deflation it could require, potentially very difficult. Economically, deflation is worse than inflation, since deflation punishes borrowers, and since borrowers tend to be entrepreneurs, smart kids just out of college, and others who stand to grow the economy. You don’t want these people to have to pay back all their loans in far more expensive dollars — disincentives toward education and entrepreneurship are bad ideas all around, besides the obvious moral problem with any forced transfer of value, be it through inflation, deflation, or plain old confiscation.

One saving grace of the classical gold standard is that the transfers created by the random walk of the price of gold would at the very least not be impositions of force by a government agency. Morally, they are therefore superior. But is this the wisest course? Does it protect and stabilize the price system better than any other approach? I don’t know. Josh is clearly doubtful.

Some weeks ago, Megan McArdle wrote a post that was even more convinced of the seriousness of deflation. The risk of deflation still seems debatable, though, because when faced with deflation most governments, which tend to be debtors, will react by issuing more money or at least fiduciary media to keep the value of the currency from increasing. Committing to a gold standard would require them to commit to debt reduction and/or a constant dollar value in the interim, with only a gradual move toward full convertibility. If that were to happen, inflation would become the only real worry once again.

I think McArdle raises an independent but very important point when she also writes,

The lone advantage of a gold standard–and it is a real advantage–is that it prevents governments from inflating the currency. The problem is, this is only moderately true. The government, after all, can always modify its gold standard. Yes, you say, but it will pay a price in the markets, and this is true, but this is the same price it pays when it prints more fiat currency. Such practices do not go unnoticed for long.

The fundamental problem may be with government money itself, not with the type of money adopted.

For a long time the “gold standard” was shorthand for free-market money, understood to bring with it all of the advantages that a market brings to the provision of a good. Private mints would not want to debase their currencies, because the public would immediately reject them. But as long as the government runs the mint, and as long as it excludes competitors, the temptation will remain.

Now I am unsure whether state-sponsored debasement (of which the state is the primary beneficiary) is a real problem in the modern world. Pre-modern governments could get away with debasements because except for the crude nitric acid test, there were few ways of measuring the purity of coinage. We can do far better today, and the results can be publicized far more easily. We can figure out exactly what they are up to, just as currency traders can figure out whether a fiat currency is being inflated under the current regime. Also, world money markets have many alternatives to choose from, and countries that seem likely to abandon sound money soon see an outflow of capital.

Thus any pressures that apply to governments in a system of globally competitive fiat monies (like the relatively stable one we have now) would also presumably exist in a regime of globally competitive commodity monies, and these pressures would incline them toward stability as long as all currencies were exchangeable on the world market with a sufficient degree of freedom.

What would “stability” mean in a new commodity money regime? Perhaps not gold alone. That is, if all world currencies were both competitive and commodity-based, those countries who based the value of their money on gold might find their currencies less stable, and therefore less attractive to foreign investment. Stability for a commodity money under modern economic conditions might require a national currency to be pegged to a basket of different goods, to prevent price shocks from sudden changes in the price of any one of them. If I as a consumer of money had my choice, I’d prefer a currency of this type. I think the market would probably settle on some version of it, but I can’t say for certain.

Thus McArdle may very well be right when she writes,

In short, you don’t get anything out of a gold standard that you didn’t bring with you. If your government is a credible steward of the money supply, you don’t need it; and if it isn’t, it won’t be able to stay on it long anyway. (See Argentina’s dollar peg). Meanwhile, the limitations on the government’s ability to respond to fiscal crises, the necessity of defending against speculative attacks in times of crises, and the possibility of independent changes in the relative price of gold, make your economy more unstable. It’s a terrible idea, which is why there are so few economists willing to raise their voices in support of it.

…but, in a regime of competing commodity currencies, governments will still have an incentive to keep their money stable. Is this pressure enough to rein them in? The current regime suggests that usually will be, but not always. Government is as government does.

So… Ultimately, I don’t think the gold standard is a nutty idea. But it takes a lot of convincing to make the case for commodity money these days, particularly since 1) the fiat system is not obviously broken, 2) the advantages of a state-sponsored commodity money would not be all that great, 3) private commodity money, while better in theory, is almost certainly off the table, and 4) the ideal may actually be a private commodity money backed not by gold alone. If we libertarians had that kind of political capital, we’d do better to end the War on Drugs instead.

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