Charles Kadlec

Is gold money?

That question, directed to Federal Reserve Chairman Ben Bernanke by Congressman Ron Paul in last week’s hearings before the House Financial Services Committee, strikes terror in the heart of all central bankers.

Bernanke looked stunned and then answered, “No: Gold is an asset.”

The rising price of gold reflects global uncertainties, he explained. “The reason that people hold gold is as a protection against what we call tail risks: really, really bad outcomes.”

The daily headlines report those potential risks: governments needing bailouts, from Greece to Harrisburg, Pennsylvania; the possibility that the euro will splinter; runaway deficit spending in the US.

With every headline, it is becoming increasingly apparent how much the governing class has overreached. Those who believe in government are simply running out of other people’s money. For example, President Obama’s call to reverse the tax break given to owners of corporate jets in his 2009 stimulus bill would supposedly raise $300 million a year in revenue, enough to cover less than two hours of current deficit spending. Even if the Federal government could tax 100% of personal income in excess of $250,000 a year, it would collect little more than half of the revenue needed to balance the budget.

These real world results mock the conventional wisdom that given the power to spend, borrow, tax and print money, elite public servants can manage the economy and protect the average individual against the vicissitudes of life.

Instead, government itself has become a source of systemic risk, and a direct threat to our prosperity and liberty.

At the center of this political upheaval is the quality of money itself. “Is gold money?” is a showstopper because it raises the questions: “What is money and what power should government have to manipulate its value?”

The answers to these questions reveal how our most basic trust in government has been betrayed.

When you or I accept dollars in exchange for providing goods and services, we do so trusting that when we spend those dollars, they will be accepted for an equivalent amount of goods and services. That’s how money frees us from a barter economy.

Trust is always an assessment of some future action. Making a grounded assessment requires us to understand who is making the promise, what action they are promising, and whether they are sincere and competent to fulfill their promise.

When an individual, company or government has a good credit rating, we are saying that we trust they will keep their promise to pay off their debts in the future.

So it is with the value of money. Today Bernanke is making the promise effectively to “do his best” to achieve the Fed’s dual mandate of achieving maximum employment and stable prices.

I do not doubt that Bernanke and his colleagues at the Fed have done their best. Here are the results:

Three million fewer men and women are employed today than 2.5 years ago, when the Fed began an unprecedented era of monetary ease marked by zero interest rates and two rounds of massive, quantitative easing.

The 12-month advance in the Consumer Price Index has been above 2% for the past five months, hitting 3.6% for the 12 months ending both May and June. Bernanke promised in his interview last December on 60 Minutes that the Fed “…would not allow inflation to rise about 2% or less.” Yet the Fed has taken no action, nor articulated any policy change, that would fulfill his promise of price stability.

A poll conducted by Rasmussen last week indicates that the American people are losing trust in the Federal Reserve and in the future value of the dollar. Fifty percent of those polled reported they are “very concerned” about inflation, and 79% said they were at least “somewhat concerned.”

Is gold money? Technically, no, in that gold does not circulate as a medium of exchange. But, as trust in the paper dollar continues to erode, and the incompetence of the governing class to manage the economy becomes more evident by the day, there is growing interest in and support of making the dollar as good as gold.

A gold standard works because the US government, rather than the Chairman of the Federal Reserve, stands behind a promise that is explicit – a dollar is worth a fixed weight of gold. This promise can be verified every minute of the day by observing the current rate of exchange between the dollar and gold, and, under a classical gold standard, by exchanging currency at a national bank for gold coins of a fixed weight and purity.

In addition, a gold standard provides a transparent set of practices to keep the promise. A rise in the price of gold signals too many dollars, triggering quantitative tightening. A fall in the price of gold signals too few dollars, triggering quantitative easing. Since these Fed actions are made daily and at the margin, such adjustments are not disruptive, but produce stability and trust.

Finally, a gold standard produces trust in the dollar because gold has the unique characteristic of maintaining its buying power over time. For example, if today’s dollar were worth 1/35th of an ounce of gold, as it was under the post World War II Bretton Woods system, a barrel of oil today would cost less than $3 a barrel, just as it did in the 1950s and 1960s.

Steps to restore gold’s legitimate role as money are afoot. In Utah, gold and silver coins are now legal tender and exempt from sales and income taxes. The Swiss Parliament soon will hold hearings on creating a parallel, “gold franc.” And, the central bank of Zimbabwe is considering replacing its worthless currency with a gold-backed Zimbabwe dollar.

The question: “Is gold money?” terrifies central bankers because it highlights their inability to provide a currency that is better than one whose quality is guaranteed by a fixed rate of exchange into gold. Between Aug. 15, 1971 – the day President Richard Nixon suspended the promise that a dollar was worth 1/35th of an ounce of gold – and Feb. 1, 2006 – the day Bernanke was appointed Fed Chairman – the dollar had fallen to 1/569th of an ounce of gold. Today, it is worth a teeny tiny 1/1600th of an ounce of gold.

An acceleration in the dollar’s decline and the inflation, political and economic turmoil that would follow are among those “really really bad outcomes” that people are trying to escape. Restoring the promise that a dollar is worth a fixed weight of gold would guarantee its value and eliminate the “tail risk” of monetary disorder that individuals, businesses and government all over the world increasingly have reason to fear. The benefits of price stability, low and stable interest rates, an increase in high paying jobs and the spread of prosperity would redound to the benefit of all.

Regards,

Charles Kadlec
for The Daily Reckoning

Charles Kadlec

Mr. Kadlec is a member of the Economic Advisory Board of the American Principles Project, an author and founder of the Community of Liberty.

Recent Articles

Can Money Printing Cause Deflation?

Marc Faber

"There has been an issue that has preoccupied my mind for a long time," writes Dr. Marc Faber. "In economics, it is generally accepted that if the quantity of money and credit is increased, prices will rise… However, since economics is so complex… I question whether the expansion of central banks' balance sheets and policies of zero interest rates could have a deflationary impact…" The good doctor wrestles with the question, in today's essay...


Forget the Oil Crash – Crush the Market With Biotech Stocks

Greg Guenthner

The Biotech iShares ETF is up 23% since the Oct. 15th bottom. No, that is not a typo. Biotechs have torched the S&P over the past two months--more than doubling the returns of the big index. And biotechs as a group are up more than 38% year-to-date. In fact, since we first highlighted the June comeback, the Biotech iShares have gone nowhere but up.


How Low Will Oil Go – And What Can You Do?

Matt Insley

The oil market has been under siege for six months. From service providers to producers this downturn has been painful. Of course, we’ve known all along that oil prices were a little toppy over the summer. In fact, when asked just how low oil prices could go I usually answered with a simple “lower than you’d expect…”


Cuba’s Berlin Wall Moment

Peter Coyne

Our forecast that Cuba would be open and integrated within 5-10 years is on track after yesterday's big announcement. Ahead of schedule, even. Click here to see how some investors have profited and what the island's likely future is...


The $4 LED Trend You Don’t Want to Miss

Chris Mayer

The opportunity to sell and install LEDs is enormous. We’re talking about over a billion lighting fixtures. And the areas with the largest potential -- like parking lots -- have barely begun to change. Banker to the presidents Chris Mayer says you could triple your money in this new tech trend. Here's what you need to know.


How to Make the Casinos Pay You for a Change

Greg Guenthner

It's a theme we've shared with you since April. And it's only gotten worse. The gaming industry has come under all sorts of pressure--a situation I first noticed in the charts. The powerful, multi-year uptrends started showing cracks. And it wasn't long before those cracks turned into gaping holes you could drive a friggin' truck through. That's where things stand today.