Politicians’ Adventures in Wonderland: Back to the Gold Standard?

Gold Bull and Bear
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Gold Bull and Bear

In a modern economy, monetary and fiscal policy disciplines are just that, essential disciplines that must be maintained for the good of the country and the well-being of the citizenry. Like most things requiring discipline if they are to be administered well, they call for an objective, dispassionate and logical approach to analysis and problem solving.

Unfortunately for the citizenry, governments rarely display, let alone possess, the required level of objective, long-term logic that is required if one is trying to preserve economic discipline. Hence the continuing struggle with over-spending on the fiscal policy side and inflation on the monetary policy side. The value of fiat money has been consistently eroded since it was first introduced, a terrible suffering for savers as well as those on low incomes, while post-crash the struggles that governments are having with refinancing their debt shows the folly of public spending beyond one’s ability to repay.

So what about the Gold standard then? Is that the key to restoring economic strength and ensuring that politicians and central bankers can’t erode value by printing money? (Read More: CNBC's Steve Liesman Explains the Gold Standard)

Aaah the quick fix, the instant panacea. It sounds almost romantic, harking back to an era of fiscal probity and the preservation of value. The problem is, it is complete and utter nonsense, and could be dismissed with a laugh were it not for the fact that some serious commentators are beginning to espouse it.

There isn’t enough space to list the reasons why the gold standard isn’t just a bad idea, but how, in the 21st century, it isn’t even implementable.

The United States disbanded the Bretton Woods system, which linked the US dollar to the price of gold, in 1971 for a very good reason – its economic output and public borrowing could no longer sustain the link. The position now is many, many times worse. And is there actually enough gold in the world to back the global money supply? Lets not give the wrong impression here, requiring a government or central bank to back its printing of money with an equal value of gold (or, as in a currency board system, US dollars) would be a very good discipline, because it acts as a barrier to currency devaluation. But it cant be done by recourse to a gold standard, for umpteen practical reasons. And certainly governments do need to start controlling public spending, but that will require some serious balance sheet restructuring, as well as painful reductions in the welfare state and, if they had any objective logic, defense spending. But again, not something a gold standard will fix.

And as for fixed exchange rates (which are required for a gold standard to work), I need say just two words to explain why they also aren’t a good idea: eurozone crisis.

To paraphrase Winston Churchill on democracy, fiat money and floating exchange rates are the worst form of economic system around – except for all the others. It’s a pity that ideas bereft of analytical logic are so often heard as part of a serious debate on economic policy.

Professor Moorad Choudhry is Treasurer, Corporate Banking Division, Royal Bank of Scotland.

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