Return of the Gold Standard – Part 2

Back in September this year I blogged on the return of the Return of the Gold Standard as with many countries now holding significant amounts of US dollars as reserves there is the probability that preference will be given to hold something else that maintains its value – gold is likely to be part of the mix. In recent months, worries about inflation and deflation and anxiety over the security of all sorts of financial instruments have seen the gold price surge. It has doubled from $700 to $1,400 an ounce in two years.

Robert Zoellick, president of the World Bank, recently argued that leading economies should consider adopting a modified Gold Standard. Does some modified version of the Gold Standard offer a way out of our current travails? The subsequent 40 years have seen wild swings in currency values, prolonged periods of high inflation and several acute financial crises. So you can readily see why some people support resurrecting gold’s monetary role. However according to Roger Bootle of Capital Economics in London there are 4 strong arguments against:

1. The Gold Standard helped to sustain long-term price stability, it did not achieve anything like price stability in the short run eg. the UK experienced deflation of 14pc. Yet by 1825 this had given way to inflation of 17pc.

2. The idea that gold offers a guarantee of stable money values in the long run, and therefore supports confidence and long-term decision-making, is a delusion.

3. It is a fallacy to think that a return to a system based on gold would end financial instability. The 1920s asset boom, and the crash of 1929 which followed, occurred while the US was on the Gold Standard.

4. The world’s supply of gold tends to rise at a much slower rate than the trend growth of real and financial activity which would govern the demand for it. This means that the system would display a marked deflationary bias.

Economists have been partial to the thought of a global monetary standard based on a basket of commodities. This would take money creation out of the hands of governments and lay down a more stable system than one based purely on gold alone. China has floated a variant of this idea, suggesting a currency based on 30 commodities along the lines of the Bancor proposed by John Maynard Keynes.

The Bancor was a World Currency Unit of clearing that was fixed in terms of commodities of which
one would be gold. It would stabilize the average prices of commodities, and with them the
international medium of exchange and store of value. Central to Keynes’ proposal was to tax
countries’ current account surpluses, encouraging domestic demand and promoting global trade
balance.

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