In a WSJ op-ed called “Forty Years of Paper Money,” Detlev Schlichter, a supporter of the gold standard, begins thus:
Forty years ago today, U.S. President Richard Nixon closed the gold window and ushered in, for the first time in human history, a global system of unconstrained paper money under full control of the state.
Now, with that title, that lede, and Schlichter’s very stern opinions about paper money, you’d think that the paper money era began right then, forty years ago. But as Schlichter himself says in his very next sentence,
It is not that prior to August 15, 1971, there was a gold standard. Far from it. Most countries had severed any direct link between their currencies and gold many years earlier.
Right. So the shift to a paper money system didn’t begin with Nixon. And the monetary thing that existed before Nixon’s intervention – the monetary thing that was not, per Schlichter, a gold standard – the monetary thing that happened to go along with decades of global growth and prosperity, the monetary thing that goes wholly unmentioned in the op-ed, was the Bretton Woods system.
The whole point of Bretton Woods was to get away from the gold standard. Indeed, that was practically the whole point of the Roosevelt administration’s monetary policy. Which is unsurprising, because adherence to the gold standard exacerbated the Great Depression, as Federal Reserve officials viewed keeping gold in vaults a more important goal than adding jobs to the economy.
Quickly and I hope painlessly: a gold standard doesn’t mean you have to carry gold. It means your central bank pledges to redeem currency in gold. Which can for example ease international trade, because your currency has a fixed value.
Now, this doesn’t mean your central bank keeps a 1:1 ratio of gold:paper dollars, but it keeps a ratio that’s conservative enough so that in case of need it can always redeem your paper money. And that means your central bank has its eye on the gold supply, and really nothing else – certainly not the employment level. So if people are redeeming paper for gold, the central bank has to reduce the paper money supply in accordance with a reduced level of gold.
Which might mean that in a time of economic crisis, with people taking gold out of banks, the central bank would be bound to a policy of reducing the money supply – exactly the opposite of what you’d want in a time of crisis. (See slightly longer explanation here.)
The best monetary arrangement, some of Roosevelt’s Treasury officials figured in 1934, was to fix exchange rates – that would give you one advantage of gold, which is to say that international contracts would always be predictable, so trade would be easy – but you would also reserve the right to move rates in case of need. Best of both worlds: but it would require “a faith in international economic relationships which is hardly justified by history”, as one of Roosevelt’s T-men observed.
Well, the war brought that faith – made us, FDR said, “citizens of the world” – and made international cooperation possible. Hence Bretton Woods and the adjustable peg – currencies convertible to one another at fixed, but (at need) adjustable, rates.
The dollar was off gold for domestic purposes – there were no circulating gold coins after 19331 nor was paper money redeemable in gold – but the dollar remained convertible at $35/oz for international claims. The IMF existed to stabilize exchange rates among member currencies.
Wait, you say, isn’t that a gold standard? No, in thunder, wrote Bretton Woods’s architects – read what Harry Dexter White said: under a gold standard you’re interested only in price stability – “the sole purpose of the Fund might be misunderstood to be stability of exchange rates.” That’s actually not how Bretton Woods worked. Take a look at the IMF charter – stability of prices is subordinate to “high levels of employment and real income” – stability of currency was “a means of achieving the objectives” of jobs and high wages.
The Roosevelt administration had to fight like tigers for the IMF against bankers who hated it for just this reason – the bankers wanted debts paid off first, without inflation, and they didn’t care much about jobs or wages. They wanted “the hard, patient labor of reestablishing the economic soundness of participating countries, balancing of budgets … checking inflationary influences” – what we now call “austerity”.
FDR’s Treasury said no, we need jobs, to make sure the Depression doesn’t come back, see; then we will worry about balanced budgets and stability.
It was those guys – the Roosevelt Treasury – who won, and their system – and not the gold standard – that prevailed until Tricky Dick’s time.
So why does Schlichter portray a choice between the current policy and the gold standard, when he knows there was an intermediate and evidently effective system? In fairness, op-eds are very difficult to do in any responsible way, and maybe he talks about Bretton Woods in his book. But he didn’t on Start the Week, either.
1I keep meaning to tell this story, and I will.
The Edge of the American West 
5 comments
February 9, 2012 at 2:33 pm
Char Weise
In fact the US departed from the gold standard, in fact if not in law, before Roosevelt. The Federal Reserve Act required the Federal Reserve to keep a stock of gold equal to no less than 35 percent of bank reserve balances at the Fed and 40 percent of the Federal Reserve notes (dollar bills) in circulation. But as the US received huge inflows of gold from Europe during the 1920s, the Fed soon held gold far in excess of the legal requirement. That is, the money supply had become uncoupled from gold, and the Fed conducted monetary policy with an eye toward stabilizing prices rather than maintaining the money supply in a fixed proportion to gold. As usual, John Maynard Keynes described it best:
“The war has effected a great change. Gold itself has become a ‘managed currency.’… The United States has not been able to let gold fall to its ‘natural’ value, because it could not face the resulting depreciation of its standard. It has been driven, therefore, to the costly policy of burying in the vaults of Washington what the miners of the Rand have laboriously brought to the surface…. Advocates of the ancient standard do not observe how remote it now is from the spirit and requirement of the age. A regulated non-metallic standard has slipped in unnoticed. It exists.” [Tract on Monetary Reform, 1923]
February 9, 2012 at 3:00 pm
jroth95
Personally, I consider Bretton Woods to be the gold standard of international currency agreements.
February 9, 2012 at 5:46 pm
Main Street Muse
The WSJ is a Rupert Murdoch rag devoted to upholding a particular world view, and is perhaps not necessarily devoted to the pursuit of truth and reason.
This talk of the gold standard makes me think of WJ Bryan’s famous speech…
“If the gold standard is the standard of civilization, why, my friends, should we not have it? So if they come to meet us on that, we can present the history of our nation. More than that, we can tell them this, that they will search the pages of history in vain to find a single instance in which the common people of any land ever declared themselves in favor of a gold standard. They can find where the holders of fixed investments have…..
“… Having behind us the commercial interests and the laboring interests and all the toiling masses, we shall answer their demands for a gold standard by saying to them, you shall not press down upon the brow of labor this crown of thorns.
“You shall not crucify mankind upon a cross of gold.”
February 10, 2012 at 1:18 pm
Pudd'nhead Wilson
Great post, you should write a book.
Do I recall correctly that in shifting the US away from a gold standard FDR bucked the views of all his chief economic advisors? And if so, has anyone written about his audacity in doing this? Did he see it as akin to his
generally experimental approach to New Deal policymaking?
February 14, 2012 at 5:58 am
human mathematics
So I was under the impression that, roughly: private markets set exchange rates better than governments. And that’s why we don’t want a gold standard. What say you?