And This is the Post in which I Call Shenanigans on Republicans

by Pejman Yousefzadeh on August 24, 2012

One of my biggest problems with the Republican party is the stance of much of the party on monetary policy. It is driven by the Ron Paul types, it is misguided and mistaken, and it will wreak havoc on the economy if implemented. And while party platforms are usually not worth the paper they are written on, it concerns me greatly that the Republican party is making a public show about buying into some seriously bad ideas.

Start first with the silly notion that we need some kind of “audit” of the Federal Reserve, and that we ought to consider going back to the gold standard. The “audit” idea is just a badly disguised way of robbing the Fed of any independence whatsoever, and making sure that it is too intimidated to implement expansionary monetary policies that economists like Milton Friedman–no socialist, he–enthusiastically supported in circumstances like the current economic predicament. The word “audit” usually brings up notions of some kind of scrupulous accounting; this “audit” however is more a “nice Federal Reserve you got here. Wouldn’t want anything bad to happen to it” kind of reckoning.

Then there is the idea of the gold standard, which is succinctly and properly shredded to bits in this Q&A:

. . . a gold standard – paper money that must be redeemable for actual gold – means you can’t print any more money than you have of the hard stuff.

We want the economy to grow, right? That means more goods and services produced next year than this. But now suppose we can’t find or produce any more gold, so the money supply has to remain constant. How will we pay for the added goods and services? We’ll be short of money. Which means the producers will eventually say, ‘The hell with it’ – and stop producing more. And so the economy won’t grow after all.

I might add that if we returned to a gold standard worldwide, countries with little gold would truly be up s*** creek without a paddle–not that conditions would be much better in countries with substantial gold reserves, since they would still be constrained in their ability to print money in recessionary times. Also, the price of gold would absolutely skyrocket, reigniting general concerns about inflation. Do we really want to be in a situation in which we are facing both an economy that only grows slowly–if at all–and high inflation? I seem to recall that the stagflationary times of the 1970s did not exactly constitute Paradise on Earth. Why have others forgotten that fact?

Then there is Mitt Romney’s absolutely berserk attack on Ben Bernanke. I am sure that Romney, in his heart of hearts, knows that Bernanke has done an excellent job as the Federal Reserve chairman in a very difficult time during which he faced unprecedented challenges. It would be nice if Romney would have lent Bernanke some political cover instead of trashing him for–again–doing what people like Milton Friedman would do in similar circumstances. I would hope that Romney would listen again to his own economic adviser, Glenn Hubbard, who properly praises Bernanke for the work the chairman has done. Better to do that than to make Bernanke the scapegoat for our economic woes.

I have written and said this before, but I will write again that there is a reason for the current spate of derangement on the part of the GOP when it comes to monetary policy: The Ron Paul types have the loudest and most insistent voices on the subject, and they are driving the conversation. Other Republicans don’t appear to care enough to fight back. They ought to start caring. The Paulites will only damage the GOP brand if they are able to exercise unimpeded influence on this and other subjects and Republicans of all stripes–including libertarian Republicans, since Ron Paul isn’t much of a libertarian–had better work to push back against the Paulites on this and other policy fronts.

  • http://profiles.google.com/daviddfriedman David Friedman

    “The “audit” idea is just a badly disguised way of robbing the Fed of any independence whatsoever, and making sure that it is too intimidated to implement expansionary monetary policies that economists like Milton Friedman–no socialist, he–enthusiastically supported in circumstances like the current economic predicament.”

    Perhaps you could provide a source for that claim? The monetary policy that Milton Friedman supported was a constant modest growth in the money supply, not an attempt to use discretionary policy to fine tune the economy. His objection to Fed policy at the beginning of the Great Depression was not that they did not expand the money supply but that they permitted it to sharply contract.

    “a gold standard – paper money that must be redeemable for actual gold – means you can’t print any more money than you have of the hard stuff.”

    I gather the author being quoted has never heard of fractional reserve banking. A gold standard means that banks must be prepared to redeem their notes in gold. It doesn’t mean that the currency must consist of gold coins or that banks must hold a hundred percent reserves to back their notes and demand deposits. For an example of a commodity standard (silver not gold) with private fractional reserve banking, take a look at the Scottish banking system at the time Smith wrote.

    “Also, the price of gold would absolutely skyrocket, reigniting general concerns about inflation.”

    The price of gold in what? The price of gold in gold is one, by definition–and you are discussing a gold standard.

    A rise in the price of money–in this case gold–means that the price of goods measured in money goes down, not up–deflation not inflation.

    As it happens, I don’t think a gold standard is the ideal monetary system–you can find my views on the subject in an old piece that’s available on the Cato site. But your arguments against it are nonsense.

    • Pejman_Yousefzadeh

      You knew your father better than I ever had a chance to, but here’s my source:

      http://macromarketmusings.blogspot.com/2010/11/case-closed-milton-friedman-would-have.html

      We already have a fractional reserve banking system–the existence of which I do not object to. But there is no reason to go beyond it by contemplating a return to the gold standard.

      As for the price of gold, my concern is that by implementing a gold standard, we will bring about a significant increase in the price of gold, since the current reserves are not sufficient to sustain economic activity. That is what I was referring to.

      An honor to debate with you, sir, even if you think my views are nonsensical.

  • Lawrence H. White

    As a counterweight to the poorly reasoned anti-gold-standard piece linked to above, please consider the following critical discussion of the case against gold:
    http://www.cato.org/publications/briefing-paper/is-gold-standard-still-gold-standard-among-monetary-systems

    By the way, current US gold reserves are more than sufficient to back M1 at the current price of gold.

  • http://profiles.google.com/daviddfriedman David Friedman

    The passage you quote from my father is discussing a situation where the central bank (of Japan) had reduced the money supply and so caused a problem, to be solved by bringing the money supply back up, not one where some exogenous event had caused a recession and the proper response was to fight it with expansionary monetary policy. Its central point is that it is the money supply, not the interest rate, that’s the relevant policy measure. You can find quite a lot of statements by him criticizing the idea of using monetary (or fiscal) policy to try to fine tune the economy.

    So far as the gold standard is concerned, my point about fractional reserve banking was that the amount of money is not limited to the amount of gold, as the argument you quoted assumed. And, again, while it is true that shifting to a gold standard could be expected to raise the price of gold, raising the price of gold in a gold based system is deflation, not inflation, since it makes the price of goods measured in gold lower, not higher.

    While on the subject of fractional reserve banking–has it occurred to you how bizarre our present system is? The function of fractional reserve banking is to make it possible to to economize on the base money–to support (say) a billion dollars worth of gold based notes without having to actually pay the cost of mining a billion dollars worth of gold. In our system, the base money is fiat money, which costs essentially nothing to produce. So our fractional reserve system is economizing on something that there is no reason to economize on.

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