BETA
This is a BETA experience. You may opt-out by clicking here

More From Forbes

Edit Story

Greenspan Lets His Hair Down; Talks Up Gold

Following
This article is more than 9 years old.

Former Federal Reserve chair Alan Greenspan published a mighty interesting article in Foreign Affairs last week. He said that China could be thinking of increasing its gold stocks in a big way. Perhaps, Greenspan implied, the Chinese even have a thought of making their currency, the RMB, convertible in gold.

The episodic article went on to discuss how strange it is that the big fiat-country countries, from the United States on, maintain their multi-hundred-billion-dollar gold stocks. They never want to sell, for all the trashing of gold-as-money from the wonks, economists, and serious statesmen.

When gold prices are low (which happens when countries conduct monetary policy well), there is no profit in selling. When prices are high, there is such skepticism about the conduct of monetary policy that countries cannot think of getting rid of the one monetary asset which everybody still believes in. So tons of gold sit there forever, parked in government vaults.

Greenspan recounted a memory of the Ford Administration, when Treasury secretary William E. Simon tried to get the president to unload the U.S. gold stock. The Fed chair, Arthur Burns, supervising the only serious peacetime inflation in the nation’s history, was deadly against. He knew that all confidence in the dollar would be gone if the U.S. were bereft of its gold.

Greenspan (who was chair of the Council of Economic Advisors at the time) suggested in his article that Milton Friedman’s argument that “gold no longer served any useful monetary purpose” had motivated Simon. I wonder. Friedman never quite made that argument, and Simon had been the one who pushed Ford to sign, in 1974, the Rep. Phil Crane-inspired order permitting Americans to own gold once again. Owning gold valued at more than $100 had been outlawed since 1933, when President Franklin Roosevelt tried to hang the very origins of the Great Depression on people’s tendency to be gold “hoarders.”

The U.S. gold stock in Fort Knox (built 1936) was all the stuff collected by FDR in 1933 and justified by stacked Supreme Court decisions in 1934. The idea that the U.S. has legitimately held the greater portion of its gold stock since 1933 is untenable; that gold was nationalized in exchange for a price about 40% below market.

Simon’s voluminous paper trail, in his bestselling books and all the archives, reveal an official who wanted to remove cover from the monetary system. There is no reason that an issuer of a currency convertible in gold has to have gold on hand. If gold is available on the open market, it can be bought in the issuer’s currency. The only reason the price would fluctuate is if the currency were mismanaged. Simon was probably calling the Keynesians’ and the monetarists’ bluff in the 1970s. The United States should have no gold—and still have a currency convertible in gold.

China has been accumulating big gold positions for many years now for one paramount reason: it has also accumulated trillions in United States government debt. The value of the dollar and the price of gold move in opposite directions. It’s essentially an inverse relationship. Thus do the Chinese ensure that their dearly-bought reserves stay at par value.

What use does China have for trillions in reserves to begin with—is that not a waste of financial resources? Of course it is, but when your government and currency was founded by Chairman Mao, you have to assume that internationally, people will remain skeptical of your issue. You need to cultivate the credible impression that you could at any moment make the RMB convertible to a valid, international form. In the Chinese case, this would be a hybrid of the gold and the dollar.

The interesting case, the one which Greenspan hints at in Foreign Affairs, is if China strove to assume leadership in the international monetary system, as opposed to its present posture of conceding its secondary, Mao-cursed status. What if it announced that the RMB were convertible in gold, forcing other major currencies (even the dollar) to follow suit? One thing the Chinese may be up to in accumulating so much gold is to reinstitute, worldwide, a convertible currency system.

The flaw in this argument is rehearsed above. The best gold-standard currency issuers need not bother with having any gold at all. In fact, having gold is probably an indicator that you think you can get away with some overprinting before convertibility becomes impossible.

A currency that maintains its value against the private price of gold has the most essential aspect of convertibility. It is de facto convertible. De jure convertibility is merely the promise on the part of the issuer to make the trade itself, on demand, of its currency for gold.

A big country that can really move markets, like the United States, and perhaps China in the future, will find that its gold standard is most credible when it prescinds from the façade of holding gold. It will prove its currency is convertible to gold at a fixed rate when the markets never feel reason to bid at variance with that rate.

When that kind of monetary and currency policy comes, the world’s capital will flow into real purposes, the business of hedging the vagaries of currencies having lost its foundation. And things like the most major entrepreneurial and technological revolutions, along with a fat mass prosperity, will result.