What is "Stable Value"?
January 19, 2012
(This item originally appeared in Forbes.com on January 19, 2012.)
The reason that we use gold, in a gold standard system, instead of,
say, orange juice, is because we are trying to accomplish a goal,
and gold is the best way to do so. Our goal is to create a currency
of stable value.
“Why do you use titanium to build a nuclear submarine?” one could
ask. “Why not copper? Or ‘pork bellies’? Isn’t it completely
arbitrary? A mere superstition?” These people always think they are
I can then imagine a prim Russian submarine engineer patiently
explaining, to the imbecile he is faced with, that the submarine
isn’t going to work if you make it out of bacon.
Today I want to talk more about this notion of “stable value.” I
talked about this before, but it is an important point. We all
understand instinctively what it means. We all use money every day.
However, it is a little more difficult when you try to explain this
People often confuse “stable value” with “stable purchasing power.”
This has been going on for centuries. David Ricardo said in 1817:
It has been my endeavor carefully to
distinguish between a low value of money and a high value of corn,
or any other commodity with which money may be compared. These
have been generally considered as meaning the same thing; but it
is evident that when corn rises from five to ten shillings a
bushel, it may be owing either to a fall in the value of money or
to a rise in the value of corn …
The effects resulting from a high price of corn when produced by the
rise in the value of corn, and when caused by a fall in the value of
money, are totally different.
Here’s a similar passage from Ludwig Von Mises, dating from 1949:
Changes in the purchasing power of
money, i.e., in the exchange ratio between money and vendible
goods and commodities, can originate either from the side of money
or from the side of the vendible goods and commodities. The change
in the data which provokes them can occur either in the demand for
and supply of money or in the demand for and supply of the other
goods and services.
First, I think we have to recognize something: that money has a
value. For example, the value of the dollar, in terms of euros, is
determined exactly in the foreign exchange market. We can see the
value of the dollar going up and down there, at least in relative
terms, compared to the euro. The dollar is a floating currency; of
course it goes up and down in value.
The dollars in our pockets (base money) are exactly the same as the
dollars being traded in the forex market (also base money).
Otherwise, there would be arbitrage opportunities. For some reason,
we are encouraged to think of these as two separate universes, but
that is not true at all. So, we should think of these dollars in our
pockets as going up and down in value, every day and indeed every
minute, even though the price of a Happy Meal doesn’t change that
The dollar is a floating currency. It is going up and down in value.
The euro is also a floating currency. It is also going up and down
in value. So, comparing one moving target with another moving target
is confusing at best.
I want you to form a concept of the dollar going up and down in
value also in “absolute terms.” We measure everything else in
absolute terms, as absolute as we can manage. When we say that
something is exactly 467 millimeters long, that has an exact meaning
– and exact length. The dollar has an absolute value, which is of
course going up and down.
Unfortunately, we really don’t have any concrete standard for this
notion of “absolute value,” that we can measure with scientific
precision. However, we can observe the effects of changes in value,
the forms of monetary distortion that correspond to a rise in
currency value and a decline in currency value. So, this is not
imaginary. The effects of a change in monetary value are very
Over centuries of experience, people have discovered that gold is
the single best approximation of this “standard of absolute value,”
the one thing in the world whose value is most stable. Not only is
it better than other options, it is so close to the ideal that no
great problems arise.
Thus, it is the best thing in the world to use when you want to make
a monetary system whose goal is the most stable currency value
possible, just as titanium is what you want to use when you make
I won’t try to defend that assertion here. But let me ask you this:
let’s say your goal is to make the most stable currency possible.
But, you can’t use gold, as a reserve asset or even as an indicator
or benchmark. How would you do it?
Just think about that for a while. Many people have, over hundreds
I suppose someone will argue that some sort of consumer price index
or commodity basket would work. That would mean the “price” (ratio
between the currency and the commodity basket) would be exactly the
same. The CRB continuous commodity index, to take one example, would
have a value of 100 for ten or a hundred years at a stretch. Is that
what you want? Would you allow changes in the index components or
weightings? How would those changes be decided? What if there is a
general rise in the real value of commodities, as has often happened
during wartime for example?
How would it work from day to day? Would you have some sort of
redeemability system? An automatic currency board type system? Or
would the CPI or commodity basket just serve as an indicator for
some kind of board of “wise men” such as today’s FOMC? In that case,
would they use some sort of interest-rate target system as is in use
today? Is there any country that has used such a system (yes:
Brazil)? Has such a system ever been tested? What if it doesn’t work
the way you think it does?
Send me your best ideas. I want to hear them. It is extremely
unlikely that you would come up with anything that wasn’t
investigated and dismissed a century ago. If you were such a
monetary genius as to devise a system significantly better than a
gold standard, for achieving the goal of stable monetary value –
something thus far unique in human experience — we would already be
personal friends. But give it a try, if you want to.
You will eventually see why a gold standard system is the best way
to achieve this goal. We know this because we have centuries of
experience. I mentioned before the record of British government bond
yields during the gold standard era – a record which is not only the
best in all of recorded history, untouchable by today’s central
banks, but it is so close to perfection that it is silly to try to
improve upon it.
You could make a submarine out of steel. It might work, but it
wouldn’t be as good as a titanium one. You could make a submarine
out of aluminum, and it still might work, and it still wouldn’t be
as good. You could make a submarine out of pure copper – a soft
metal – and it would sink. Creativity is fun, for a little while,
and then you have to get down to business.
In 1900, after two hundred years of direct experience with the gold
standard system, British people were completely satisfied that it
accomplished their goal of maintaining a stable currency value.
After two hundred years of experience, do you think they could have
been mistaken about that?
It was only when their goals changed – when they wanted a currency
that was manipulable for various policy goals – that Britain decided
to adopt other systems.
Today, we are still fascinated by the idea of manipulable
currencies. This is not the first time in history that this has
happened. It has been very common. However, the most successful
countries have always been those that adopted a policy of stable
money, rather than manipulated money. The reason for this is simple:
it is a lot easier and more effective to do business that way.
Productivity improves. People become wealthier. It’s no more
complicated than that.