Like a lot of modern libertarian types, my first in-depth exposure to economics came from the minority ‘Austrian School’ of economics. The Austrian school shares a lot in common with Chicagoan economics, but it parts ways with Chicago — and indeed most other economic schools — on the question of money supply.
Via Thoughts on Freedom comes an op-ed in the Wall Street Journal rehashing the argument, common amongst Austrians, that central banks should be abolished or downsized in favour of a return to the gold standard:
In the aftermath of this financial catastrophe, as we sort out causes and assign blame, with experts offering various solutions — More regulation! Less complex financial instruments! — let’s not lose sight of the most fundamental component of finance. No credit-default swap, no exotic derivative, can be structured without stipulating the monetary unit of account in which its value is calculated. Money is the medium of exchange — the measure, the standard, the store of value — which defines the very substance of the economic contract between buyer and seller. It is the basic element, the atom of financial matter.
It is the money that is broken…
If capitalism depends on designating a person of godlike abilities to manage demand and supply for all forms of money and credit — currency, demand deposits, money-market funds, repurchase agreements, equities, mortgages, corporate debt — we are as doomed as those wretched citizens who relied on central planning for their economic salvation.
Think of it: Nothing is more vital to capitalism than capital, the financial seed corn dedicated to next year’s crop. Yet we, believers in free markets, allow the price of capital, i.e., the interest rate on loanable funds, to be fixed by a central committee in accordance with government objectives. We might as well resurrect Gosplan, the old Soviet State Planning Committee, and ask them to draw up the next five-year plan.
There’s a lot to be said for this analysis. Of the three broad schools of economic thought I know the proverbially dangerous minimum about — Keynsianism, Monetarism and Austrianism — their downfalls have been stories of crisis. Keynsianism was mortally wounded by the stagflation of the 70s because it wasn’t meant to be possible. Monetrism will probably suffer a similar blow to its credibility in this crisis. Austrianism rejects both Keynsian fiscalism and monetarist fiddling with the supply of money; and demands free markets for both. This is a crisis almost custom made for Austrian economists, but there are probably too few for them to storm the gates of the policy-setting citadels around the world.
I have my reservations about a return to the gold standard. The basic argument is that gold has been recognised as universally valuable throughout history and across the world, and remains so today. It is durable, fungible, is scarce, varies in supply slowly, has a high value per unit of volume and mass and is easy to verify. These qualities, goes the Austrian argument, have made it the monetary basis of choice any time in history when there was a free market in money. It is the state’s short-term interest in debasing and inflating the currency, runs the argument, that leads to the cycle of boom and bust.
Counter-arguments tend to focus, witty putdowns by Lord Keynes aside, on the variability in the supply of gold. Pro-gold folk argue that it can only change by a few percent in a year at the most; otherwise put, that the stock of gold already mined and in circulation vastly outstrips the amount of gold that can be mined in a year. Therefore there’s a natural, expensive-to-surmount barrier for inflation to overcome. Furthermore, if currency is pegged to gold, debasement of the currency is immediately visible to citizens, providing a powerful disincentive for politicians or others to try and inflate their way out of trouble.
The counter argument is that we don’t know how much gold is actually in circulation; that a lot of it is tied up in jewelry, tooth fillings and — these days at least — electronics. That gold could flood into the market if gold becomes the backing store for currency, making a nonsense of the stable money claims.
Myself? I’m not too worried about people pulling out their fillings at Harvey Norman to buy a flatscreen TV. I’m more worried about the gold in the asteroid Eros, which contains approximately 705.5 billion ounces of gold. At today’s rates that’s about $605 trillion USD, or, otherwise put, about 9 times the Gross World Product.
Now I have a bad habit of getting things wrong when so many zeros are required to bulk out a number, so I could easily be out by a factor of ten or a hundred. So no worries if someone starts tearing Eros apart: maybe one year of mad inflation and then things return to normal.
Except that Eros is only one near-earth asteroid in our solar system. There are thousands of such objects, and thousands more if you’re prepared to hike out to the asteroid belt, or the trojan asteroids. Not to mention mineral deposits which make be present on the moon or Mars.
The fact is that the gold standard is not so much a barbarous relic, but a relic of a pre-spaceflight civilisation. It cannot survive what I have previously called ICI — Intrasolar Colonisation and Industrialisation. If, as we surely must, the human race moves into space, the gold standard simply isn’t viable. Asteroidal minerals are available in such vast quantity in such high quality that gold will simply lose its value too completely and too quickly to be a viable store of value.
What replaces gold in an Austrian scheme is anyone’s guess. Free banking, where commercial banks print their own currencies backed by depositor … er … gold, is proposed as one answer. Though again the same problem: there is a presumption that there is some independent, physical measurement of value that can be universally trusted and which has stable value.
Arthur C Clarke once proposed a currency based on the kilowatt hour, but again ICI makes that worthless. It may instead be necessary to develop cryptographically verifiable money and there has been research in that direction by mathematicians. Of course that depends on the quality of the cryptography; currently public cryptosystems rely on the unproven belief that there is no quick way to factor large prime numbers. If someone discovered such a method, they could destroy the currency overnight.
And that’s just one set of problems, never minding economic disruptions like the possibility of mature nanomanufacture. But that’s a post for another day.