QE3: The Funny Money Team Has Crossed the Monetary Rubicon
September 24, 2012
(This item originally appeared at Forbes.com on September 24, 2012.)
Now they’ve gone and done it.
Humans’ natural pattern-recognition habits usually work something
like this: the first time is a fluke. The second time is a
coincidence. The third time is a pattern or trend. At that point,
people begin to accept the twice-confirmed event as a new part of
their environment. They may also tend to extrapolate the new trend
or pattern into the indefinite future.
This, arguably, was one purpose of the Federal Reserve’s newest
“QE3”: as Paul
Krugman puts it, the promise to be “credibly irresponsible”
for years ahead. According to the Keynesians’ Bizarro World logic,
this is a good thing.
What happens next? The investing mainstream, which has mostly acted
as if the dollar is stable in value even as it has been declining
for a decade due to the Fed’s “easy money” stance, may begin to see
things in a new way.
We may begin to see a decline in dollar demand, with inflationary
consequences. This was the main reason for the inflation of the
1970s, not an expansion in supply. The dollar’s monetary base – the
total number of dollars in existence – was $68.361 billion in August
1971, the month the dollar left the Bretton Woods gold standard
parity at $35/oz. In January 1980, the month the dollar hit its
nadir around $850/oz. and Paul Volcker decided that enough was
enough, the monetary base was $132.831 billion, an increase of 93%.
This came nowhere close to the 2,328% increase in the dollar price
of gold (i.e. a decline of the dollar by 96%). During the 1990s,
when the dollar actually rose in value, the monetary base increased
by 121%, reflecting economic expansion for the most part.
If we start to see this kind of 1970s-style revulsion in demand, on
top of the Fed’s eager increase in supply and promises of zero
percent rates for years ahead, things could get really interesting.
The funny-money guys have begun the process of destroying
themselves. This is what has always happened eventually. The
temptation of using the printing press to solve every sort of
economic difficulty – here, it is supposedly a cure for
unemployment; in Europe it is a way to avoid sovereign default —
eventually becomes an incurable addiction.
Ideally, as I chronicled in my book Gold:
the Once and Future Money, this results in a political
migration towards the Classical ideal of a currency that is as
stable and reliable as possible, and free of human intervention. In
practice, the best real-world way to achieve this goal is a gold
Already this has begun to happen, illustrated by the Republican
Party’s suggestion of a commission to study the gold standard
alternative. That rather mild step is appropriate for this time. We
still have five or ten years, before replacing the imploding fiat
currency system becomes a political imperative. At that point there
will be no “debate” with the Keynesians, because it is hard to have
a debate with someone who has already been tarred and feathered.
Before that happy day, there is a lot of work to do. First, we have
to become very clear about what we are trying to accomplish, and
why. We want a currency that is stable in value, a universal
constant of commerce, and a neutral medium of business, not a fiat
abstraction whose value depends on Ben Bernanke’s latest press
conference. In practice, the best way to achieve this goal is a gold
Those who adhere to the principles of stable money gain a lot of
benefits. In the middle of the 20th century, the United States was
the world’s premier defender of the gold standard system. The former
champion, Britain, disappointed its fans by devaluing in 1931, 1949
and 1967. Not surprisingly, the United States also became the
world’s financial center, had the world’s dominant international
currency, became the center of a gentle global empire, and had a
middle class that reached a level of prosperity never seen before
When Britain was the world’s premier champion of the gold standard
system, during the 19th century (the U.S. was an emerging market
then), it too became the world’s financial center, had the world’s
dominant international currency, had an empire that spanned the
globe, and became a hotbed of industrial innovation and capitalist
But perhaps a better example of the power of sound money is provided
by Holland. In the 17th century, while Britain was still in the
Mercantilist age of unreliable currencies, the Dutch had fully
embraced the principle of stable, gold-linked money. Amsterdam
became the world’s financial center, and the Dutch guilder was the
world’s dominant international currency. Holland became a hotbed of
industry and world commerce. The middle class became wealthy enough
to finance an artist class whose works fill museums today.
This little nation of two million, on some of the worst land in
Europe, eventually gained its own global empire, which included all
or part of today’s: Indonesia, Brazil, Australia, India, Iran, Iraq,
Pakistan, Yemen, Bangladesh, Oman, Burma, Sri Lanka, Taiwan,
Thailand, Malaysia, Cambodia, Vietnam, China, Japan, South Africa,
Suriname, Guyana, Colombia, Chile, and Ghana.
And, let’s not forget, an outpost at the mouth of the Hudson River,
then known as “New Amsterdam.”
gold standard works.
Unemployment can still be a problem, but you don’t try to solve it
with funny money manipulation. Instead, a combination of
economy-positive policies such as tax reform or regulatory reform,
plus welfare as necessary to relieve the immediate suffering, is the
preferred strategy. Fundamental problems get fundamental solutions,
not a temporary jolt of currency meth.
There are many potential ways to design a gold standard system, some
of which require no gold reserves at all. Gold is simply “the
standard,” a basis of measurement. We can navigate by Polaris, the
North Star, and get excellent results without having to actually own
the star itself. Historically, however, gold standard systems have
had the most longevity when the currency issuers are subject to the
requirement of “redeemability,” to deliver gold bullion on demand.
We should have a long and intelligent discussion about the pros and
cons of the various ways to run a proper gold standard system, which
will also help to dispel a lot of the fatuous nonsense on the topic
that is floating around out there.
I think the funny money team has crossed the monetary Rubicon. No
turning back for them now. The old era is past; the wheels of
history have begun to turn. The new era, if it is to be a happy era,
will also be an era where the Classical ideal of a currency as
stable and neutral as possible becomes prominent. We now have to
build that monetary system in our minds, in all of its exacting and
meticulous detail, so that we can wheel it out, shiny and perfect
like a new Mercedes, when the time comes.