Gold and the Gold Standard

CHAPTER VIII

The Monetary Standard of the Future

The future is purchased by the present.—SAMUEL JOHNSON.

Concerning the world’s monetary standard of the future the logical conclusion to be drawn from the preceding discussion may well be summarized in the following excerpt from the 1931 report of the Macmillan Committee, which consisted of 14 eminent British financiers and economists:

There is, perhaps, no more important object in the field of human technique than that the world as a whole should achieve a sound and scientific monetary system. But there can be little or no hope of progress at an early date for the monetary system of the world as a whole, except as the result of a process of evolution starting from the historic gold standard.

With what sort of a gold standard should the world begin its postwar monetary economy ? That is a large question, and all that we may hope to do by way of giving it an answer within the limits of one chapter of a small book is to state briefly a few general principles.

PRELIMINARIES

By way of preliminaries, six principles should be followed. They are these:

1. The subject is an international one, and its satisfactory solution demands a high degree of international cooperation, which should begin at once and continue indefinitely. It should include small nations as well as large ones. There is no place for stabilization competition such as the world experienced after the First World War, when a number of countries resorted to monetary-unit undervaluation, in the effort to improve their competitive position vis-à-vis other countries in the export trade.

2. The monetary unit should be established in each country after conference with other countries, but without any compulsion whatever from them. The determination of the size of a nation’s monetary unit is affected with such a great public interest and so highly prized as a prerogative of sovereignty that it is impracticable to subject it to outside interference. The new unit should be approximately the value of the monetary unit in operation at the time the stabilization is effected, or some easy multiple of that unit.

3. Inflationary policies should be discontinued at the earliest possible date after the armistice, and everything possible should be done by the government to inspire confidence in the currency.

4. Measures providing for the ultimate discontinuance of all artificial price and exchange controls should be taken early, but the process of discontinuing them should be put into effect by cautiously measured steps.

5. After prices have settled down to what, for want of a better name, may be called their natural level, there should be a tryout de facto stabilization of the monetary unit at this level.

6. The de facto stabilization in due time should be followed by a de jure stabilization, but the latter should not be adopted until the government is in a strong enough position financially to be confident that it can make such a stabilization stick.

TYPES OF POSTWAR GOLD STANDARD

As has been previously noted, there are three important types of gold standard, viz., the gold-coin standard, the gold-bullion standard, and the gold-exchange standard. These types frequently overlap, and each of them is found in many varieties. Each type has its own advantages and disadvantages, and these are relative to the economic, fiscal, and political conditions in the different countries. One type is best adapted to one country and another type to another country. The gold-coin standard is the strongest type domestically and puts up the best defenses against disturbances from abroad. On the other hand, since it provides gold coin for internal circulation and makes it easily accessible to hoarders, the gold-coin standard is the most expensive type in the amount of gold it requires.

The gold-exchange standard, on the other hand, while requiring gold or gold credit only for exchange purposes at the limits marked by the gold points, and while keeping this gold abroad, normally for the most part in the form of bank deposits, is the least expensive. The gold-bullion standard provides no gold for internal circulation and makes it difficult to obtain gold for hoarding. Its reserves, however, are held in the form of gold bullion. Therefore, although requiring less gold than the gold-coin standard, the gold-bullion standard requires much more than does the gold-exchange standard. Consequently, it takes an intermediate position. In general, the richest nations would probably choose the gold-coin standard, while the poorest nations, as well as colonies and other dependencies, would prefer the gold-exchange standard. Countries in an intermediate position would prefer the gold-bullion standard.

The shifting from one type of gold standard to another might be used as an instrument of international monetary policy directed toward the stabilizing of the value of gold. If, for example, a situation should develop in which gold production was falling off and the world’s supply of monetary gold was lagging behind the world’s demand, it would be desirable to economize the use of gold. This would dictate shifts from the gold-coin standard to the gold-bullion and gold-exchange standards. If, on the other hand, gold production should increase unduly, with a resulting tendency to gold inflation, there could be shifts in the opposite direction—i.e., toward the gold-coin standard—so as to increase the demand for gold.

IMPLEMENTATION OF INTERNATIONAL GOLD STANDARD

A popular idea, but a fallacious one, is that metallic-money standards, like the gold standard, are entirely automatic in their operation, and that paper-money standards are entirely managed and not automatic at all. All monetary standards in modern times are more or less managed. It is not a question of the presence or the absence of monetary management, but rather of the extent and character of that management. With the gold standard, the management that will be required should be imposed upon a monetary system that is fundamentally automatic in its functioning and should be conducted according to certain established principles that will be accepted by the world’s leading central banks under the authority of their respective governments. With reference to this management or nonmanagement, the following general principles should be followed.

There should be no restrictions on the holding by the public of gold coin or gold bullion within the country or on the free coinage of bullion at the mints or the melting down of gold coin. The exportation and importation of gold should be free from all trade restrictions and tariffs. Under such conditions, gold will enjoy a very high degree of fluidity in its movements both national and international, and the value of the gold monetary unit in each gold-standard country will be held very close to that of its gold equivalent in every other gold-standard country and to the value of gold bullion in the free markets of the world.

There should be a high degree of freedom in the international movement of goods and services. The gold standard can function over high tariff barriers, as it has many times in the past, but high tariff barriers are obstacles to international trade and finance and to the smooth and orderly functioning of any monetary standard.

On this subject there has been much confusion growing out of the popular notion that gold moves in international trade only “to pay balances.” As a matter of fact, gold moves for the same fundamental reason that any other commodity moves—to seek the best market. It goes abroad whenever it is worth abroad more than it is worth at home, by a sufficient margin to yield an attractive profit after paying all the expenses of its exportation. Its importation from abroad is merely the other side of the same shield.

As a general proposition, omitting such things as gifts and losses by shipwreck, bankruptcy, fraud, and theft, a nation’s total exports—visible and invisible-are equal to its total imports—visible and invisible—when viewed over a substantial period of time. If this were not true, a nation would either be getting goods from abroad free or giving away goods to foreigners. If, for example, a country is normally exporting 50 different commodities and services (including gold, from time to time) and is normally importing 60 different commodities and services (including gold, from time to time), the 50 commodities on the one side and the 60 on the other will be in balance. The balance will be destroyed if any commodity on either side is omitted, and this is no more true of the commodity gold than of any other commodity in the balance sheet. Gold normally moves very easily in international trade, because it is the most marketable of all commodities. It does not move “to pay a balance,” in any true sense of that term.

A country that has sold goods in a foreign market has a credit there that it can draw upon for the purchase of any goods for sale in that market at the current market price, and this applies as fully to gold as to any other commodity. Viscount Goschen once said, in speaking of England’s position,1 “Our powers of obtaining gold would only be exhausted when the country had nothing left to sell.”

Henry Thornton, at the time of the famous Bullion Controversy in England early in the last century, said concerning the place of specie in international trade:2

Our ancestors, eager for the acquisition of the precious metals, exploring, as is well known, new continents, chiefly with a view to this article; and accustomed to consider trade as profitable or otherwise, in proportion as it brought in or took out gold and silver, were naturally led to denominate that part of our exports or imports which consisted of these metals, a balance. In truth, however, this was not a balance. Bullion was an article of commerce, rising or falling in value according to the supply and the demand, exactly like any other, transporting itself in greater or less quantities according to the supply and the demand, exactly like any other, transporting itself in greater or less quantities according to the comparative state of the market for that and for other articles, and forming only an item on one side of the general account. Corn, or any other commodity, might just as properly be said to pay the balance as gold or silver; but it would evidently be inaccurate to affirm that corn discharged it, because it would imply that the amount of all the articles except corn was fixed; and that these having first adjusted themselves with relation only to each other, a given quantity of corn was then added to pay the difference. It was, for the same reason, inaccurate to affirm, that gold or silver paid the difference.

Continuing this argument later, he said :

Suppose a fisherman on our southern coast, to collect a thousand guineas, and exchange them in the channel with some French fisherman for as much French brandy as should be deemed an equivalent, the gold, according to the doctrine in fashion, would have gone to pay the balance of trade. It would have been employed to discharge a previously existing national debt. It was always, according to these tenets, the brandy which forced out the gold, and not at all the gold which forced in the brandy. By the Frenchman’s putting the brandy into his boat, the Englishman was compelled to put the gold into his. The brandy always went before; the gold always followed after. It was one of the peculiar properties of gold that it always served to pay a balance.

GOLD CONVERTIBILITY

There should be interconvertibility on demand of all kinds of nongold money with gold coin, gold bars, or gold drafts, as the case may be.

Such interconvertibility serves the gold standard in three different but closely related ways.

1. It keeps all the different kinds of money—viz., gold coins, notes, fiduciary silver coins, and minor coins—at a parity with each other. It does so through providing the machinery by which excessive issues of any particular kind of money are promptly withdrawn from circulation and deficiencies in the circulation of any particular kind of money are made up.

2. The convertibility into gold on demand, by creating confidence in the currency, increases its acceptability by the public in times of low public confidence and thereby checks “flights from the dollar” and the resulting enlargement of the currency supply, which would otherwise be caused by the increasing velocities of circulation.3

3. The third function that convertibility performs is fundamentally the most important one. It is the function of maintaining the gold parity of the monetary unit by continually adjusting the currency supply to the changing currency demand. In this connection, a nation’s gold reserve functions as a buffer fund or, as it is sometimes called in Spanish, a funda reguladora. The process may be briefly described as follows.

When, under a normally functioning international gold standard, the supply of currency in any country becomes excessive relative to the demand, as compared with other countries, money becomes cheap at home relative to abroad, prices of commodities and of securities tend upward, the exchange rates move toward the gold-export point; and, when, that point is reached, gold is sufficiently more valuable abroad than at home to make its exportation profitable. The exportation of gold is an evidence that, under existing conditions of business, there is a relative redundancy of currency circulation at home. Since local paper money and fiduciary coins have almost no international market, the redundant currency is drained off largely in the form of gold exports. These exports are continued until the exchange rate falls below the gold-export point and the currency supply is reduced to a quantity that places the price level of a country more nearly in equilibrium with the price levels of other countries, or, in other words, until the reduction of the country’s money supply has made the monetary unit so valuable at home that further exportation of gold becomes unprofitable.4

Under conditions of such currency redundancy and resulting gold exportation, the central banks must always be in a position to give out gold freely for exportation, as long as it is required, to relieve the country of its relatively redundant currency and to force exchange rates below the gold-export point, thereby bringing the country’s price level and discount rates back more nearly into equilibrium with those of the rest of the world.

Obviously, a country’s normal gold reserve should be sufficient to provide for the absorption, through redemption in gold, of any currency in circulation that may be rendered excessive by the usual fluctuations in business. In addition, it should be large enough to afford a reasonable margin of safety for extraordinary emergencies.

THE GOLD STANDARD AND THE CENTRAL BANK

The principal monetary authority in each country should be a central bank. On this subject the recommendation of the Brussels International Conference of 1920 was sound in saying that “. . . in countries where there is no central bank of issue, one should be established.. . .” In the interest of an efficient administration of the gold standard, the central bank should have the exclusive right of note issue, and the gold reserve of the nation should be centralized in the bank. The central bank should be controlled by a board of directors on which there should be representatives of the government, representatives of the member banks, and representatives of business, as is the situation in many South American countries, including Chile, Colombia, and Peru. No single group should preponderate.

While no one denies that a nation’s central bank should be administered with primary regard to the public welfare and with very little effort to earn profits above a modest return on capital, it is not so well recognized that, in the great majority of cases where central banks have suspended gold payments, this has been done under the political pressure of governments to meet fiscal needs. The trouble has been caused much oftener by governmental exploitation than by exploitation for profit by private interests. Gold reserves have been unduly depleted, not so much through being drawn out of the country by foreign countries as through being flooded out by fiscal inflation at home. The nation’s monetary authority, which should be the board of directors of the central bank, should have a substantial government representation but should not be under government domination. This is the very realistic lesson of monetary history.

AN INTERNATIONAL BANK

An efficient international gold standard will call for an international bank, with which the central banks of all gold-standard countries should be affiliated and to which they should contribute the necessary capital.

The functions of this bank should be exclusively of a monetary and banking character. It should be a central bank of central banks. It should not make long-time loans to its member banks or otherwise enter the field of fiscal operations. Such activities may be very important in international affairs, but they belong to agencies other than the international central bank.

The principal functions of the bank should be (1) to serve as an international clearinghouse for the member central banks ; (2) to hold part of the reserves of the member central banks; (3) to collect, organize, and help interpret for its members international credit, monetary, and other financial information; (4) to serve as a meeting place for conferences both formal and informal of member bank officials—a function that the existing Bank for International Settlements has usefully performed.5

INTERNATIONAL MONETARY CONFERENCE

Finally, the United States government should promptly declare its intention to rehabilitate its own gold standard after the war, and should call an international monetary conference of all countries-desiring to return to a gold basis, with the object of formulating plans for the restoration of the international gold standard and for international cooperation to make that standard a better standard.

SELECTED BIBLIOGRAPHY

Bank for International Settlements: Annual Reports, Basle.

CASSEL, GUSTAV: Money and Foreign Exchange after 1914, The Macmillan Company, New York, 1922.

DEKOCK, M. H.: World Monetary policy after the Present War, The South African Journal of Economics, June, 1941.

DULLES, E. L. : Bank for International Settlements at Work, The Macmillan Company, New York, 1932.

The Economist: The Future of Gold, The Economist (London), 1942.

EINZIG, PAUL: The Bank for International Settlements, Macmillan & Company, Ltd., London, 1930.

GIDEONSE, HARRY D.: The International Bank, Rutgers University Press, New Brunswick, N.J., 1930.

GREGORY, T. E.: The Gold Standard and Its Future, E. P. Dutton & Company, Inc., New York, 1931.

HAWTREY, R. G.: Monetary Reconstruction, 2d ed., Longmans, Green and Company, London, 1926.

———: The Art of Central Banking, Longmans, Green and Company, New York, 1933.

———: The Gold Standard in Theory and Practice, Longmans, Green and Company, New York, 1927.

KEMMERER, EDWIN WALTER: High Spots in the Case for a Return to the International Gold Standard, The Economists’ National Committee on Monetary Policy, New York, 1943.

———: Modern Currency Reforms, The Macmillan Company, New York, 1916.

———: Money, The Macmillan Company, New York, 1935.

Kemmerer Commission:, Colombia, Leyes Financier as Presentadas al Gobierno de Colombia por la mision de expertos los años de 1923 y 1930 y exposicion de motivas de éstas, Editorial de Cromos, Bogota, 1931.

———: Chile, Commission of Financial Advisers, Monetary Bill and Bill Founding the Central Bank of Chile (with reports in support thereof), Government of Chile, Santiago, 1925.

———: Poland, Reports Submitted by the Commission of the American Financial Experts, Ministry of Finance, Warsaw, 1926.

———: China, Commission of Financial Experts, Project of Law for the Gradual Introduction of a Gold Standard System in China (together with a report in support thereof), Shanghai, 1929.

KEYNES, LORD JOHN MAYNARD: A Tract on Monetary Reform, Macmillan & Company, Ltd., London, 1923.

KJELLSTROM, ERIK T. H.: Managed Money, Columbia University Press, New York, 1934.

League of Nations: The Course and Phases of the World Economic Depression, Secretariat of the League of Nations, Geneva, 1931.

LEHFELDT, R. A.: Controlling the Output of Gold, the Author, London, 1926.

MLYNARSKI, FELIKS: Gold and Central Banks, The Macmillan Company, New York, 1929.

PASVOLSKY, LEO: Current Monetary Issues, Brookings Institution, Washington, D.C., 1933.

REDELMEIER, W.: The Gold Standard, The MacLean Publishing Co., Ltd., Toronto, 1941.

SCHACHT, HJALMAR: The Stabilization of the Mark, George Allen & Unwin, Ltd., London, 1927.

SPAHR, WALTER E.: The Case for the Gold Standard, The Economists’ National Committee on Monetary Policy, New York, 1940.

YOUNG, JOHN PARKE, Editor: European Currency and Finance, vol. I., Government Printing Office, Washington, D.C., 1925.

 

 

6 GOSCHEN, GEORGE JOACHIM, VISCOUNT, Essays on Economic Questions, p. 68.

7 Henry Thornton in Hansard, vol. XX, pp. 81-85, 1811.

8A good example of the way changes in the public’s confidence may, by influencing the velocities of circulation, affect the monetary supply and thereby the value of the money, is found in the experiences of Germany following the First World War.

In 1922 and 1923 the German people’s confidence in the mark declined very rapidly, there was a “flight from the mark into goods,” and the velocities at which mark currency circulated increased enormously, with corresponding increases in commodity prices. In 1922, according to Schacht, “The rush to get rid of cash as soon as possible . . . led to an extraordinary increase in the rapidity of the circulation of money. Everyone who had payments to make, endeavored to make them as quickly as possible, before he could be caught by the depreciation.” In the autumn of 1923, the Rentenbank law was passed, which made the old reichsmarks convertible into a newly issued and well-secured rentenmark at the rate of on trillion to one, and which gave the rentenmark a gold value of approximately 24 cents United States money. ‘The conditions of the stabilization were such as to give the public confidence in the new money, and greatly to decrease the “flight from the mark,” thereby reducing the velocity of mark circulation. This reduction was so great at the start that it resulted in an actual scarcity of money and the German authorities were compelled to increase the volume of paper money in circulation in order to maintain the approximate price level prevailing at the time of the stabilization: See Hjalmar Schacht, The Stabilization of the Mark, pp. 68-69; also, Edwin Walter Kemmerer, Money, pp. 287-289.

9 Cf. Kemmerer, op. cit., pp. 136-140.

10 See DULLES, E. L., Bank for International Settlement at Work, pp. 460-461, and 476-478.

• 1For a brief discussion of the origin, nature, and definition of money, see Edwin Walter Kemmerer, Money, pp. 3-16.
• 2Cf. RIDGEWAY, WILLIAM, The Origin of Metallic Currency and Weight Standards, pp. 57-58.
• 3“If a man have destroyed the eye of a freedman, or have broken the bone of a freedman, he shall pay one mina of silver” (§198). “If a doctor have operated . . . he shall receive ten shekels of silver” (§215). “The wage of an artisan . . . five Sĕ of silver, of a brickmaker . . . five Sĕ.. . . ”(§274).
• 4obviously, it is impracticable in a book such as this to do more than to touch briefly on the more elementary facts and principles. Where important controversial questions are involved, the best we can do is to follow a highly responsible recent authority and to refer the reader to the selected bibliography at the end of the chapter, in which a number of the principal studies (some of them containing extensive bibliographies) are cited.
• 5DUBBERSTEIN, W. H., Comparative Prices in Later Babylonia, American Journal of Semitic Languages and Literatures, January, 1939, pp. 20ff.
• 6The gold standard in its “orthodox form” is a product of the nineteenth century. Its roots, however, go deep into the past. This chapter will explore briefly this early history of gold as money, i.e., as a commonly accepted medium of exchange.
• 7Gold, by reason of its beauty, its world-wide distribution, the facility with which it could be obtained from the streams by crude methods of “panning,” and the ease with which it could be “worked,” probably had a wider use as a medium of exchange in very ancient times, and among primitive peoples in modern times, than any other metal.
• 8The earliest references I have been able to find in recorded history to the use of one of the precious metals as a medium of exchange—in these cases, passing by weight—are in the Code of Hammurabi, King of Babylon. They refer to silver in about the year 1870 B.C.
• 9Thanks to the careful studies made by classical scholars over many generations, we know today much more about the money of classical times than the ancients knew. There are, however, many gaps in the chronology of the coins that have come down to us, and the story that these coins tell is far from complete. It is still full of controversial questions concerning which the modern literature is voluminous, but progress in their solution is being, made continually.
• 10Coinage was originally of the nature of a seal or hallmark punched on a nugget of metal as a guarantee of its quality or its weight. The beginnings of coinage appear to have been made in the countries of the eastern Mediterranean early in the eighth century B.C. Sennacherib, King of Assyria (705-681 B.C.), said, “I built a form of clay and poured bronze into it as in making half-shekel pieces.”