What You Should Know About Inflation

Granted that it is desirable, and even imperative, to return to a full gold standard, by what methods should we return? And at precisely what dollar-gold ratio—i.e., at what “price for gold”? These difficult problems have split into dissident groups even the minority of economists who are actively urging a return to a gold standard.

One group, for example, contends that we can and should return to a full gold standard immediately, and at the present price of $35 an ounce. It bases this contention on the arguments that we are already on a limited gold standard at that rate (foreign central banks, at least, are permitted to buy gold from us and sell it to us at $35 an ounce); that we should not suspend this limited gold standard even as a transitional step for a few months; that in the interests of good faith and stability there should be “no further tampering” with this rate; and that at this rate we would in fact have a large enough gold reserve to maintain full convertibility against present outstanding paper currency and deposit liabilities.

These arguments, however, rest on debatable assumptions. Some superficial comparisons, it is true, seem to support them. At the beginning of 1933, the United States money supply (time and demand bank deposits plus currency outside of banks) was $44.9 billion, and the country’s gold holdings (measured at the old rate of $20.67 an ounce) were $4.2 billion, or only 9.4 per cent of the country’s money supply. At the end of 1963 our outstanding money supply was $265 billion, and our gold holdings against it (measured at the current rate of $35 an ounce) were $15.6 billion, or less than 6 per cent.

Thus our gold reserve ratio is less than in 1933. And we were thrown off gold in 1933.

In writing this, I recognize that the run on gold, at the particular moment at which it took place, was at least in part precipitated by the growth of uncontradicted rumors and press reports that the Roosevelt Administration was planning to suspend gold payments. Nevertheless, the relation of credit volume and commodity prices to gold at that time was still such that we had only the choice of going off gold, which we did; or devaluing the dollar and staying on gold (i.e., raising the official gold price); or suffering still further stagnation and deflation. In any case, the run on gold in 1933, before payments were suspended, means that the gold reserves at that time were not in fact sufficient, in relation to other conditions, to maintain confidence.

Present gold reserve comparisons with past periods must take account, moreover, of changes in the relative percentage of the world’s gold supply held in the United States. In December 1926, the United States held 45 per cent of the world’s monetary gold supply (excluding Russia); in December 1933 it held only 33.6 per cent. In 1953 it held 60.8 per cent. At the end of 1959 it held 48.3 per cent. If the United States alone returned to gold it could conceivably continue to hold an abnormal percentage for a certain time. But if other countries followed suit within a few years (which would be both desirable and probable), they would presumably attract their previous proportion of the world’s gold. More immediately important: In mid-1964, against our gold holdings of $15.5 billion, short-term liabilities to foreigners reported by American banks came to $26.3 billion. And the United States was still showing a heavy deficit in its international balance of payments.

But the real error of those who think we could safely return to a full gold standard at a rate of only $35 an ounce lies in the assumption that there is some fixed “normal” percentage of gold reserves to outstanding money liabilities that is entirely safe under all conditions. This, in fact, is not true of any gold reserve of less than 100 per cent. In periods when public confidence exists in the determination of the monetary managers to maintain the gold standard, as well as in the prudence and wisdom of their policy, gold convertibility may be maintained with a surprisingly low reserve. But when confidence in the wisdom, prudence, and good faith of the monetary managers has been shaken, a gold reserve far above “normal” will be required to maintain convertibility. And today confidence in the wisdom, prudence, and good faith of the world’s monetary managers has been all but destroyed. It may take years of wisdom, prudence, and good faith to restore it. Until that is done, any effort to resume a full gold standard at $35 an ounce might lead to a panicky run on gold, while a determined effort to maintain that rate might precipitate a violent deflation.