This paper has been published in a number of places, notably including the Gold Standard Institute. I submitted it to the Wolfson Economics Prize. Now it can live here permanently on my own blog site.
——————————————————————————————————————
After the near-collapse of the financial system in 2008, a growing number of people have come to realize that our monetary disease is terminal. It is that group to whom I address this paper. I sincerely hope that this group includes leaders in business, finance, and government.
I do not believe that my proposal herein is necessarily “realistic” (i.e. pragmatic). There are many interest groups that may oppose it for various reasons, based on their short-sighted desire to try to continue the status quo yet a while longer. Nevertheless, I feel that I must write and publish this paper. To say nothing in the face of the greatest financial calamity would go against everything I believe.
***
It seems self-evident. The government can debase the currency and thereby be able to pay off its astronomical debt in cheaper dollars. But as I will explain below, things don’t work that way. In order to use the debasement of paper currencies to repay the debt more easily, governments will need to issue and use the gold bond[1].
I give credit for the basic idea of using gold bonds to solve the debt problem to Professor Antal Fekete, as proposed in his paper: “Cut the Gordian Knot: Resurrect the Latin Monetary Union”. My paper covers different ground than Fekete’s, and my proposal is different as well. I encourage readers to read both papers.
The paper currencies will not survive too much longer. Most governments now owe as much or more than the annual GDPs of their nations (typically far more, under GAAP accounting). But the total liabilities in the system are much larger.
Even worse, in the formal and shadow banking system, derivative exposure is estimated to be more than 700 trillion dollars. Many are quick to insist that this is the “gross” exposure, and the “net” is much smaller as these positions are typically hedged. But the real exposure is close to the “gross” exposure in a crisis. While each party may be “hedged” by having a long leg and a balancing short leg, these will not “net out”. This is because in times of stress the bid (but not the offer) is withdrawn. To close the long leg of an arbitrage, one must sell on the bid (which could be zero). To close the short leg, one must buy at the offer (which will still be high). When the bid-ask spread widens that way, it will be for good reason and it does not do to be an armchair philosopher and argue that it “should not” occur. Lots of things will occur that should not occur.
For example, gold should not go into backwardation. This is another big (if not widely appreciated) piece of evidence that confidence in the ability of debtors to pay is waning. Gold and silver went into backwardation in 2008 and have been flitting in and out of backwardation since then. Backwardation develops when traders refuse to take a “risk free” profit. That is, the trade is free from all risks except the risk of default and losing one’s metal in exchange for a defaulted futures contract. See my paper on When Gold Backwardation Becomes Permanent for a full treatment of this topic.
The root cause of our monetary disease has its origins in the creation of the Fed and other central banks prior to World War I, and in the insane treaty signed in 1944 at Bretton Woods in which many nations agreed for their central banks to use the US dollar as if it were gold, and this paved the way for President Nixon to pound in the final nail in the coffin. He repudiated the gold obligations of the US government in 1971, thereby plunging the whole world into the regime of irredeemable paper.
The US dollar game is a check-kiting scheme. The Fed issues the dollar, which is its liability. The Fed buys the US Treasury bond, which is the asset to balance the liability. The only problem is that the bonds are payable only in the central bank’s paper scrip! Meanwhile, per Bretton Woods, the rest of the world’s central banks use the dollar as if it were gold. It is their reserve asset, and they pyramid credit in their local currencies on top of it.
It is not a bug, but a feature, that debt in this system must grow exponentially. There is no ultimate extinguisher of debt. In my paper on Inflation, I define inflation as an expansion of counterfeit credit. I define deflation as a forcible contraction of counterfeit credit, and the inevitable consequence of inflation. Well, we have had many decades of rampant expansion of counterfeit credit. Now we will have deflation, and the harder the central banks try to fight it by forcing yet more expansion of counterfeit credit, the worse the problem becomes. With leverage everywhere in the system, it would not take many defaults to wipe out every financial institution. And there will be many defaults. One default will beget another and once it really begins in earnest there will be no stopping the cascade.
Another key problem is duration mismatch. Today, every bank and financial institution borrows short to lend long, many corporations borrow short to finance long-term projects, and every government is borrowing short to fund perpetual debts. Duration mismatch can cause runs on the banks and market crashes, because when depositors demand their money, banks must desperately sell any asset they can into a market that is suddenly “no bid”. In two papers (Fractional Reserve is Not the Problem and Falling Interest Rates and Duration Mismatch), I cover duration mismatch in banks and corporations in more depth.
Most banks and economists have supported a policy of falling interest rates since they began to fall in 1981. But falling interest rates destroy capital, as I explain in that last paper, linked above. As the rate of interest falls, the real burden of the debt, incurred at higher rates, increases.
Related to this phenomenon is the fact that the average duration of bonds at every level has been falling for a long time (US Treasury duration began increasing post 2008, but I think this is an artifact of the Fed’s purchases in their so-called “Quantitative Easing”). Declining duration is an inevitable consequence of the need to constantly “roll” debts. Debts are never repaid, the debtor merely pays the interest and rolls the principal when due. As the duration gets shorter and shorter, the noose gets tighter and tighter. If there is to be a real payback of debt, even in nominal terms, we need to buy more time. At the US Treasury level, average duration is about 5 years. I doubt that’s long enough.
And of course the motivation for building this broken system in the first place is the desire by nearly everyone to have a welfare state, without the corresponding crippling taxation. It has been long believed by most people a central bank is just the right kind of magic to let one have this cake and eat it too, without consequences. Well, the consequences are now becoming visible. See my papers The Laffer Curve and Austrian Economics and A Politically Incorrect Look at Marginal Tax Rates) discussing what raising taxes will do, especially in the bust phase like we have now.
In reality, stripped of the fancy nomenclature and the abstraction of a monetary system, the picture is as simple as it is bleak. Normally, people produce more than they consume. They save. A frontier farmer in the 19th century, for example, would dedicate some work to clearing a new field, or building a smokehouse, or putting a wall around a pasture so he could add to his herd. But for the past several decades, people have been tricked by distorted price signals (including bond prices, i.e. interest rates) into consuming more than they produce.
In any case, it is not possible to save in an irredeemable paper currency. Depositing money in a bank will just result in more buying of government bonds. Capital accumulation has long since turned to capital decumulation.
This would be bad enough, as capital is the leverage on human effort that allows us to have the present standard of living. We don’t work any harder than early people did 10,000 years ago, and yet we are vastly more productive due to our accumulated capital.
Now much of the capital is gone, and it cannot be brought back. It will soon be impossible to continue to paper over the losses. The purpose of this piece is not to propose how to save the dollar or the other paper currencies. They are past the point where saving them is possible. This paper is directed to avoiding the collapse of our civilization.
If we stay on the present course, I think the outcome will look more like 472 AD than 1929. We must solve three problems to avoid that kind of collapse:
- Repayment of all debts in nominal terms
- Keep bank accounts, pensions, annuities, corporate payrolls, annuities, etc. solvent, in nominal terms
- Begin circulation of a proper currency before the collapse of the paper currencies, so that people have something they can use when paper no longer works
I propose a few simple steps first, and then a simple solution. All of this is designed to get gold to circulate once again as money. Today, we have gold “souvenir coins”. They are readily available, and have been for many years, but they do not circulate.
A gold standard is like a living organism. While having the right elements present and arranged in the right way is necessary, it is not sufficient. It must also be in constant motion. Gold, under the gold standard, was always flowing. Once the motion is stopped, restarting it is not easy. This applies to a corpse of a man as well as of a gold standard.
The first steps are:
- Eliminate all capital “gains” taxes on gold and silver
- Repeal all legal tender laws that force creditors to accept paper
- Also repeal laws that nullify gold clauses in contracts
- Open the mint to the (seigniorage) free coinage of gold and silver; let people bring in their metal and receive back an equal amount in coin form. These coins should not be denominated in paper currency units, but merely ounces or grams
Each of these items removes one obstacle for gold to circulate as money, along side the paper currencies. The capital “gains” tax will do its worst damage precisely when people need gold the most. At that point, the nominal price of gold in the paper currencies will be rising very rapidly. Any sale of bullion will result in a tax of virtually the entire amount, as the cost basis from even a few weeks prior will be much lower than the current price. This amounts, in the US, to a 28% confiscation of gold. This tax will force people to keep gold underground and not bring it to market. It will contribute to the acceleration of permanent backwardation.
It is important to realize that gold is not “going up”. Paper is going down. There is no gain for the holder of gold; he has simply not lost wealth due to the debasement of paper.
Current law forces creditors to accept paper as payment in full for all debts, and there are also laws that nullify gold clauses in contracts. Repeal them, and let creditors and borrowers negotiate something mutually agreeable.
Finally, the bid-ask spread on gold bullion coins such as the US gold eagle or the South African krugerrand is too wide. If the mint provided seigniorage-free coinage service, then people would bring in gold bars and other forms of bullion until the bid-ask spread narrowed appropriately. One of the attributes that gives gold its “moneyness” is its tight spread (even today, it is 10 to 30 cents per $1600 ounce!) But currently, this tight spread only applies to large bullion bars traded by the bullion banks and other sophisticated traders. This spread must be available to the average person.
As I said earlier, these steps are necessary. Gold certainly will not circulate under the current leftover regime from Roosevelt and Nixon. But it is not sufficient to address the debt problem.
Accordingly, I propose a simple additional step. The government should sell gold bonds. By this, I do not mean gold “backed” paper bonds. I mean bonds denominated in ounces of gold, which pay their coupon in ounces of gold and pay the principal amount in ounces of gold. Below, I explain how this will solve the three problems I described above.
Mechanically, it is straightforward. The government should set a rule that, to buy a gold bond, one does not bid dollars. One bids paper bonds! So to buy a 100-ounce gold bond, then one could bid for example $160,000 worth of paper bonds (assuming the price of gold is $1600 per ounce). The government retires the paper bond and in exchange replaces it with a newly-issued gold bond.
The government should start with a small tender, to ensure a high bid to cover ratio. And a series of small auctions will give the market time to accept the idea. It will also allow the development of gold bond market makers.
With gold bonds, it would be possible to sell long durations. With paper, there is no good reason to buy a 30-year bond (except to speculate on the next move by the central bank). The dollar is expected to fall considerably over a 30-year period. But with gold, there is no such debasement. The government could therefore exchange short-duration debt for long-duration debt.
At first, the price of the gold bonds would likely be set as a straight conversion of the gold price, perhaps adjusted for differing durations. For example, a 100 ounce gold bond of 30 years duration might be bid at $160,000 worth of 30-year paper bond.
But I think that the bid on gold bonds will rise far above “par”, for several reasons I will discuss below.
The nature of the dynamic will become clear to more and more people in due course. In the present regime, there is a common misconception that the yield on a bond is set by the market’s expectation of how much consumer prices will rise (the crude proxy for the loss of value for the dollar). But this is not true. Unlike in a gold standard, in an irredeemable paper standard, people are disenfranchised. They have no say over the rate of interest. The dollar system is a closed loop, and if you sell a bond then you either hold cash in a bank, which means the bank will buy a bond. Or you buy another asset. In which case the seller of that asset holds cash in a bank or buys a bond. This is one of the reasons why the rate of interest has been falling for 30 years despite huge debasement. All dollars eventually go into the Treasury bond.
The price of the paper bond today is set by a combination of central bank buying, and structural distortions in the system. But it is a self-referential price, in a game between the Treasury and the Fed. The price of the bond does not really come from the market. And this impacts every other bond in the universe, which all trade at varying spreads to the Treasury.
An alternative to paper bonds would be very attractive to those who want to save and earn income for the long term, pension funds, annuities, etc. Not only will the price of gold continue to rise (i.e. the value of the paper currency will continue to fall towards zero), but also a premium for gold bonds would develop and grow. The quality asset will be recognized to be worth more, and at the least people would price in whatever rate of the price of gold they expect to occur over the duration of the bond.
This dynamic—a rising price of gold, and a rising exchange value of gold bonds for paper bonds—will allow governments and other debtors to use the devaluation of paper as a means to repay their debts in nominal terms, but affordably in real terms.
This is impossible under paper bonds! This is because the process of debasement is a process of the Treasury borrowing more money. Debt goes up to debase the dollar. This path leads not to repayment of the debt cheaply, but to exponentially growing debt until a total default.
So we have solved problem number one. With a rising gold price, and a rising exchange rate of gold bonds for paper bonds, we have set up a dynamic whereby every paper obligation can be met in nominal terms. Of course, the value of that paper will be vastly lower than it is today. This is the only way that the immense amounts of debt outstanding can possibly be honored.
This also solves problem number two. If every financial institution is repaid every nominal dollar it is owed, then they will remain solvent. To be sure, pension payments, bank accounts, corporate payroll, and annuities etc. will be of much lower real value. But there is a critical difference between smoothly losing value vs. abruptly losing everything, along with catastrophic failure of the financial system.
I want to address what could be a misconception at this point. Does this work only for governments that have gold reserves in the vaults? No, this is not about gold reserves. While that may help accelerate a gold bond program, the essential is not gold stocks but gold flows. The government issuer of gold bonds must have a gold income (or a credible plan to develop one quickly).
And this leads to problem number three. Gold does not circulate today. Who has a gold income? That is where we must look to begin the loop. There is one kind of participant today who has a gold income: the gold miner. Beset by environmentalist lawsuits, regulations, permits, impact studies, fees, labor law, confiscatory taxes, and other obstacles created by government, these companies still manage to extract gold out of the ground.
The gold miners are the group to which we must turn to help solve the catch-22 of getting gold to circulate from the current state where it does not. I think there is a simple win-win proposition to offer them. In exchange for exemptions from the various taxes, regulations, environmentalism, etc. they have a choice to pay a tax in gold bullion.
There are other kinds of entities to consider taxing, but the problem is that they all would need to buy gold in the open market in order to pay the tax. As the price begins to rise exponentially, this will be certain bankruptcy for anyone but a gold miner.
And now, look at the progress we’ve made on the problem of getting gold to circulate. We have gold miners paying tax in gold to governments who are making bond coupon payments in gold to investors who now have a gold income. We can see how gold bond market makers will enter the scene, and earn a gold income to provide liquidity for bonds that are not “on the run”. These bond market makers could pay a tax in gold also.
And we have released other creditors from any restriction in lending and demanding repayment in gold. And anyone else in a position to sign a long-term agreement involving a stream of payments over a long period of time, such as landlords, can incorporate gold clauses in their contracts. And if the tenant has a gold income, perhaps from owning a gold bond, he can manage his cash flows and confidently sign such a lease.
Note that the lender, unlike the employee, the restaurant, or most other economic actors, is in a position to demand gold. While everyone else would like to be paid in gold, they haven’t got the pricing power to demand it. The lender can say: “if you want my capital, you must repay it in gold!”
If enough gold bonds are issued soon enough, we may reverse the one-way flow of gold from the markets into private hiding, that is inexorably leading to inevitable permanent backwardation and the withdrawal of all gold from the system.
One of the key points in my backwardation paper is that the value of the dollar collapses to zero not as a consequence of the quantity of dollars rising to infinity, but because of the desire of some dollar holders to get gold. If they cannot trade paper for gold, then they will trade paper for commodities without regard to price and trade those commodities for gold. This will cause the price of the commodities in dollar terms to rise to levels that make the dollar useless in trade (and collapse the price of commodities in gold terms).
If we reverse the flow of gold out of the markets, we may be able to prevent this disaster from occurring. The dollar will then continue to lose value in a continuous (if accelerating) manner, as people migrate to gold.
This is the best outcome that could possibly be hoped for. If it occurs along with a reduction in spending so that spending does not exceed (tax) revenues, we will avert Armageddon and be on the path to a proper and real recovery. To be clear, times will be hard and the average standard of living will decline precipitously.
But this is infinitely preferable to total collapse.
It is now up to farsighted leaders, especially in government, to take the first concrete steps towards saving Western Civilization.
[1] Wherever I refer to gold, I also mean silver. For the sake of brevity and readability I will only say gold in most cases.
Keith Weiner Economics 
Thank for this knowledge. Avid fan.
If our only hope is that the US government will do the right thing…. we are surely doomed.
In Hong Kong your necessary conditions apply – there is no sales, VAT, or capital gains tax on gold. Can we jumpstart the solution in Hong Kong with the collaborative efforts of a league of extraordinary gentlemen?
Hi Keith, So the short answer is yes. Immediately throw the gold market wide open with no taxes and as few fees as is logistically possible. That would require the government body to formally acknowledge property rights. Also if a person insisted on being paid in gold there could not be any income tax. Undoubtedly people would insist on gold for wages. For this to happen the government body will no longer be able to decide which of their buddies gets rich and which more properly moves into a cheap travel trailer.
You also mention gold flowing. Aside from the smelting process to make the bars this is of course a metaphor. To me, gold flowing means actual gold and the mind to go along with it. To motivate the proverbial rich person to invest that gold sitting under the bed there must be a very reasonable potential for profit. He/she is not going to waste very much time, gold, energy or resources unless they can envision a good profit. I wish the right to pursue a profit was written into the USA constitution. Almost no one talks about profit as property. Something that is formally defended. You want that gold to flow, defend profit.
Dear Keith,
Your paper is well written and is a sane logical appraisal of our situation today, and offers valid logical solutions.
I particularly like the reference of 476ad vs. 1929 as the next leg down, so to speak, and your info on short vs. long debt mismatch. This was first exposure to this concept and was very insightful.
However, please let me offer the following for your consideration and reply.
1. The common man ONLY knows Fiat as money. He has no concept of gold (or silver) as money. When even (many not all) bank tellers do not cull silver coinage which they happen upon in trade, we are truly an ignorant culture in terms of what is valuable. The logical explanations and solutions steps you offer would be intellectually lost upon the masses, and I think even 90% of Congress. Your excellent plan can/will not be implemented in such a society which has no mind to grasp the debt ponzi of the current system. To the masses, the US dollar IS money. and they simply cannot not fathom any other system nor the cause of the collapse even as they are thrust into the midst of it.
2. Those who have both the understanding of your plan AND the AUTHORITY to implement such a transition to a free flowing gold trade environment, have such a vested interest in the continuation of the current debt fiat ponzi, that THEY would do ANYTHING to prevent your plan from being implemented. The Authority of whom i speak are the Central banks, and if they exist, those who control the central banks (Rothchild’s Rockefeller’s, Bilderberg’s are the names floated in some circles )
I do not have your education in such matters as you have written, so i respect your viewpoint greatly. But i stand on the bridge, so to speak, between the academia and professional circles of practical and theoretical economics to one side, and the common man to the other side. Folks with a mortgage, car payment, 401k, salary, credit cards, student debt, all denominated in Fiat, for as long as their lifetime and their parents and even grandparents lifetimes. Even the grandparents and great grandparents of 30 something adults who even remember LBJ ending silver coinage, Nixon ending the gold backed dollar, but did not grasp the significance at the time and meekly bleated, if at all, as metal money will pulled from under them.
At 48 myself, my own grandparents were just children who lived through the great depression.
Generations have grown accustomed to ONLY knowing fiat is money no other system exists in their limited comprehension.
However, The monetary cultural transitions you speak of is entirely possible within the realm of the BRICS nations, especially India and China.
(China already has the captive Gold “income” you speak of by nationalization of mining, and India’s citizens still treasure gold as money)
For the west, EU, USSA, (not a typo) and its satellites I stand on this bridge and see the ONLY outcome as:
476 AD, Again. Completely, with modern equivalents of Visgoths and Vandals raping and pillaging on the main plaza of D.C. and Times Square NYC in broad daylight for all to see, in horror.
Or worse, Revelation 18
11: “The merchants of the earth will weep and mourn over her because no one buys their cargoes anymore—
17-20: In one hour such great wealth has been brought to ruin!’
“Every sea captain, and all who travel by ship, the sailors, and all who earn their living from the sea, will stand far off. 18 When they see the smoke of her burning, they will exclaim, ‘Was there ever a city like this great city?’ 19 They will throw dust on their heads, and with weeping and mourning cry out:
“‘Woe! Woe to you, great city,
where all who had ships on the sea
became rich through her wealth!
In one hour she has been brought to ruin!’”
To many inclusion to cite such a source is academic “blasphemy” itself, but the story ( allegory, literal or myth) could be seen a vivid picture of the total repudiation of a fiat system.
Thank you for considering my posting, and i look forward to your thoughtful reply.
Infantry: Thanks for your comment and kind words.
I founded the Gold Standard Institute USA to take the message to the people. There won’t be any change until people get it. When they do, when enough people get it and are angry, then there will be change. And not a moment before.
Dear Keith, sadly, in the real world, your idea[s] , enacted politically would most likely result in the exact opposite of your imagined goal. 🙂 .
IMO you don’t see this because , unbeknownst to you, [and no offense intended] , you suffer from a very common mental condition that Harry Browne called “The Dictator Syndrome”.
To whit:
“If You Were King (The Dictator Syndrome)”:
“Government grows also because well-meaning people like you and me believe it should do certain things that seem beyond controversy — find a cure for cancer, stop air pollution, keep violence off television, hold back an aggressor in the Middle East — something that everyone seems to agree should be done. Whatever the goal, it’s easy to imagine that a single-minded government could achieve it.
I call this The Dictator Syndrome. You see suffering or danger, and in your imagination you see a government program eliminating it. But in the real world the program would operate as you expect only if you were an absolute dictator — having at your disposal all of government’s power to compel everyone to do things your way.
Running the Gauntlet of Political Action
Just for a moment, think about something you wish the government would do and that nearly everyone would like to see happen — provide swifter and surer punishment for criminals, teach children right and wrong, furnish health care to those who don’t have it, bring peace to Bosnia, or whatever. Imagine a goal so important that it seems to justify using government’s power to coerce.
And now, consider what will actually happen to your program.
To get it enacted you’ll need political allies, since alone you have only limited influence. But other people will support your plan and work for it only if you modify it in dozens of ways that further their goals and satisfy their opinions.
Suppose you make the necessary compromises and amass enough support to pressure the politicians to vote for your revised program. Who will write the actual law? You? Of course not. It will be written by the same legislators and aides who created all the laws, programs, and problems you object to now. Each of them will compromise your program still further to satisfy his political supporters.
And if the law passes, who will administer it? You? Of course not. It will be implemented by bureaucrats — many of whom will use it to pursue goals quite different from what you had in mind. They won’t care what your purpose was. It’s their law now, and they’ll use it to suit their objectives.
And, lastly, the new law probably will generate many disputes — cases that must be settled in a courtroom. Who will decide those cases? You? Of course not. It will be the same judges who today rule according to their own beliefs, rather than by reference to the written law. A judge may even rule that your law means exactly the opposite of what you had intended.
By the time your program has run this gauntlet, it will be far bigger and far more expensive (in money and disrupted lives) than you had imagined. And it will have been twisted to satisfy many factions. In fact, your program may end up being the opposite of what you had intended.
In any case, you will have provided a new tool by which others can use government for their own ends.”
–Browne, Harry, Why Government Doesn’t Work, Chapter 5, “If You Were King (The Dictator Syndrome), St, Martin’s Press, New York, NY, 1995, pp 20-21
http://wiki.mises.org/wiki/Why_Government_Doesn%27t_Work
Regards, onebornfree.
The Freedom Network: http://www.freedominunfreeworld.blogspot.com
Onebornfree,
Thanks for your comment.
In this proposal (and every proposal I make), I propose to reduce government power. To institute freedom, in place of central planning and control that exists today. I don’t think I deserve the judgement of “dictator syndrome.”
If you believe that there is no such thing as liberty under the rule of law, that only anarchism provides freedom, then I disagree. And my blog is not a place to promote that view.
In reply to onebornfree:
When the USA abolished private slavery, the responsibility for supporting the most irresponsible third of society was pushed to the State. As we have seen, this system of “public good” where the weak, aged and poor are supported by public funds, makes everyone a slave to the State.
In order to disentangle ourselves from this mess, we have to address the problem that the State has made promises of future provision to people it has robbed of their savings for their entire working life.
Kieth’s gold bonds proposal is a way of weaning our society off of State pensions without a complete breach of contract. It is a step towards freedom.
Anarchists have something in common with the Abolitionists of the 19th century. They would accept nothing less than a total,complete and immediate abolition of slavery despite the destruction such action would wreak upon society.
In the 21st century we can see the welfare states are failing. Compromise is necessary in order to move toward the prinicples of liberty without throwing the people who have been slaves to the State under the bus. Those States that don’t have the foresight to make such compromises may suffer total failures like the Anarchists desire – much to the hurt of their population.
Dear Keith,
Thank you very much for sharing your theoretical work. I am also a longtime follower of Professor Fekete and his extensive work on gold. Let me please share with you some honest thoughts.
Under a classical gold standard, gold is legal tender, paper currency is redeemable in gold, and the gold price in paper currency is a fixed number. At this point, it is irrelevant holding ounces of gold or their corresponding value in currency paper.
In the XX century for example, countries got off the gold standard when their unfunded liabilities (present and short term due, e.g. war financing) could not be met with the (then) current monetary base without causing loss of purchasing power of the growing stock of currency paper.
In 1933 the revaluation of gold from US$ 20 to US$ 35 caused runaway inflation and the corresponding currency debasement. Aside from that, the sole real effect of Roosevelt famous Executive Order 6102 was to empoverish overnight all gold savers, as it made them suffer the same subsequent effects of loss of purchasing power, equalizing gold savers to currency paper savers. Watch out.
If printing additional units of currency paper did not cause loss of purchasing power of the entire stock of currency paper, then gold would have been totally useless over 6000 years as a store of value.
To cut to the chase, current and future unfunded liabilities in our globalized society are growing parabolic. Unless a historic natural disaster kills only the elder part of worldwide population. The future unfunded liabilities are the antithesis of the legendary stability of gold.
Therefore it is impossible to reinstate a classical gold standard with fixed rates in exchange for currency paper (whatever the currency of choice), as it would straightforward enter permanent backwardation, with zero circulation of the metal. Indeed there would be no gold offer.
If gold was ever reintroduced into the monetary system as legal tender on a global basis, floated in all currencies (or even with the filter of a reserve currency of choice as in Bretton Woods), as you said in your work the gold price would keep rising exponentially in currency paper terms.
Good money would kill bad money from the system (Gresham Law). Very quickly, and almost no circulation of metal, unless for basic food and healthcare. All former paper currency debts would be honoured in nominal terms with very few grams of gold. Backwardation permanent. Economic activity minimal. Hyperinflationary depression like November 1923.
If the experiment was conducted on a very local geographic area, e.g. one single municipality or State, the result would be the same. Gresham Law. The community would collapse and inhabitants would move elsewhere to a geographic land where gold would not stop life as they know it.
The gold bond is an good old idea for the good old times. As for your work that includes payment of interest and principal in physical gold, I can’t imagine interest gold payments in microscopic amounts of physical metal. Also Gresham Law would kill it within days. People would bid the bond to seize the physical.
Even Greenspan and Volcker floated the idea of issuing gold bonds to guarantee the US debt. In paper work, everything is possible and imaginable. But in reality, the redeemability of such gold bonds would call a Nixon moment for the same causes that happened at that time. Gold bonds would be extra bid to get hold of the metal. And even if the mint was opened, we know how scarce the yearly gold production globally is relative to the yearly global unfunded liabilities.
The honest times of the real bills (payable in gold) are gone forever. Just because it applied to a restrained population with a short life expectancy and with a short list of items to purchase (be it healthcare, etc.). Some participant in this thread mentioned that people might ask wages payable in gold. Good luck for that. You’d need a planetary microscope to have a look at your salary!
In my opinion, given the ever growing unfunded liabilities globally and given the differences between the stock of gold between countries (a huge inequality that history resolved by war), gold will not be officially remonetised again, ever. Not even under the worst possible conspiracy theory, pricing an ounce at six figures +++.
History shows that honest money co-exists with honest times only after a huge crisis, but only for ultra short periods of time. Then the establishment restarts the charade all over again.
So far so good, as the pendulum of history comes and goes, at some huge crisis point in the future, gold will trade in paper terms at such a price that it would imply that all debts can be extinguished in gold, at that stratospheric price per ounce. That would stabilise the system and backwardation would be avoided as a permanent phenomenon.
A concluding example. In paper work, everything is possible:
US gold stock 8.000 tonnes. US Total debt 63Tr. All debts off at 245.000 US$/ounce.
World gold stock 175.000 tonnes. World Total debt 230 Tr. All debts off at 41.000 US$/ounce.
If under Keith’s proposal, gold bonds, paying interest in gold, there is no set price of redemption, there is no government fixed price of redemption, I fail to understand why bond holders would opt for the physical.? The foreign governments that forced Nixon’s hand in 1971 would have been under no such compulsion absent the price fix.
Keith’s proposal as I understand it is to simply allow gold to compete as money with no price fixing. That in no way should lead to massive demand for physical over a gold certificate, dollar or bond. Only under fixed redemption would that occur. One day my gold dollar and my paper dollar buys the same amount of goods, the next day my gold dollar buys twice the amount of goods.
Fixed price or not, it will not take long for people to ask for physical. Exactly the same as the events leading to the Nixon moment. Spoiler alert, back then it was nothing to do with cheap golden nuggets.
“Far-sighted leaders”, that was a good one…
🙂
Section 411 of Title 12 of the United States Code provides that Federal Reserve Notes are redeemable on demand in lawful money of the United States (i.e., the coins authorized by Congress). However, since 2003 the Federal Reserve Banks have, by common agreement, refused to redeem the Federal Reserve Notes that they are continually issuing. The Federal Reserve Banks are therefore engaged in counterfeiting and a conspiracy to engage in counterfeiting. The United States monetary system has become a criminal fraud.
They haven’t been redeemable since long before 2003!
Section 5112 of Title 31 of the United States Code provides, in part, that “(a) The Secretary of the Treasury may mint and issue only the following coins: (1) a dollar coin that is 1.043 inches in diameter…” https://www.law.cornell.edu/uscode/text/31/5112
The Federal Reserve banks could redeem Federal Reserve Notes in U.S. coins made of gold and silver but they would bankrupt themselves very quickly if they did so. At minimum, the Federal Reserve banks must redeem Federal Reserve Notes in the copper alloy coins that are authorized in Section 5112. When they refuse to do that they turn Federal Reserve Notes into repudiated promises of payment.
Many people are confused about how the U.S. monetary system works because they do not understand the difference between “lawful money” and “legal tender”. Lawful money is the coins authorized by law. The promissory notes issued by the Government of the United States are “legal tender”. These notes are issued through Federal Reserve banks. A Federal Reserve bank may issue Federal Reserve Bank Notes, which look almost the same as Federal Reserve Notes, but they are obligations of the issuing bank, not obligations of the Government. Federal Reserve Bank Notes (private promises of payment) are defined in law as legal tender for the payment of debt.
The owner of a grocery store can refuse to accept payment for groceries in Federal Reserve Notes and Federal Reserve Bank Notes. He can tell you, “Pay me in lawful money (U.S. coins) or leave.”
If you get change of four quarters for a dollar bill, that is not redeeming. Not if the quarters are slugs.
There was no redemption in the proper sense after 1933, except for foreign central banks until 1971.
Anyone is free to say what terms of a deal he wants. You can insist on gold, wheat, salt, or banana peels. And the other side is free to do business with you or walk away. Legal tender means that if someone owes you a debt, a court will not make the debtor pay anything other than US dollars.
Section 411 of Title 12 of the United States Code provides, in part, that Federal Reserve Notes “shall be redeemed in lawful money on demand at the Treasury Department of the United States, in the city of Washington, District of Columbia, or at any Federal Reserve bank”. https://www.law.cornell.edu/uscode/text/12/411
So there are 13 places where a Federal Reserve Note may lawfully be redeemed: the Treasury Department and the 12 Federal Reserve banks (1 + 12 = 13). At those locations, you should be able to demand redemption and receive U.S. coins. However, it is now impossible to redeem all Federal Reserve Notes because the ratio of Notes to coins is in the millions and perhaps billions. So the Government has backed itself into a corner and must try to brainwash the public into believing that Government-issued promissory notes (i.e., Federal Reserve Notes) are lawful money of the United States. This fraud will come to a bad end sooner or later. And now that China has ceased purchasing U.S. debt, and is selling the U.S. debt that it currently holds, it looks like the bad end will come sooner than most people anticipate.
It’s a fraud, but not because notes > subsidiary coins. Changing a note for a slug does not affect the monetary system.
As to the bad end, China is not getting out of the system and the end will be when the capital is all used up. We are in a falling rates and hence downward pressure on prices environment. Not hyperinflation.
You use the term “slugs” to refer to U.S. dollars made of copper alloy. I agree that the lawful money of the United States has been debased (the silver has been completely removed from circulating coins). But those copper alloy coins are nevertheless authorized by law and are “lawful money”.
Please note that the Constitution does not prohibit the Government of the United States from issuing itty bitty aluminum coins stamped “One Million Dollars” and “United States of America”. The melt value of the aluminum coin would be less than one cent but you could deposit the coin into your checking account and see the balance in your account increase by $1,000,000. At that point, you and the rest of America would realize that the U.S. monetary system is a pathetic farce.
King Canute can declare the tide to be receding, but that does not make it recede. The government could declare a bit of aluminum to be money, but that does not make it money.
Economics is a science. A is A. Things are what they are, and not anything other.
An anthropologist would probably watch how we use Federal Reserve Notes and our copper alloy coinage and conclude that these items are “money”. In contrast, a lawyer would look at the United States Code and then conclude that copper alloy coinage is “lawful money” and that Federal Reserve Notes are redeemable “obligations” of the United States and are therefore a type of promissory note (and that is how Black’s Law Dictionary defines FRNs).
A banker can tell a committee of the U.S. Congress that “Money is gold, and nothing else.” But his declaration does not constitute an amendment to the United States Code.