Cross of Stupidity

International contention over currencies and the Fed's announcement of another round of quantitative easing seem to have induced another bout of misplaced gold standard nostalgia.  In the Financial Times last week World Bank president Robert Zoellick called for a "cooperative monetary system" employing gold as "an international reference point."  Saturday's Times included an op-ed by James Grant which was even more direct:

Let the economists gasp: The classical gold standard, the one that was in place from 1880 to 1914, is what the world needs now. In its utility, economy and elegance, there has never been a monetary system like it.

I didn't gasp, I groaned.  Here is a plot of the US price level from January 1879, when the US rejoined the gold standard after relying on paper "greenback" money during the Civil War, through December 1913 (the gold standard collapsed around the outbreak of World War I 1914), normalized to 100 at the beginning.

Although the price level in the gold standard era lacked a long run trend, that doesn't mean it was stable.  While the change in the price level from Jan. 1879 to Dec. 1913 was modest (average annual inflation of about 0.5%), there were significant runs of high inflation, and even more perniciously, deflation.  Deflation raised the real value of debt burdens, which exacerbated the economic downturns of the time, which were frequent and severe (according to the NBER chronology, 189 out of 420 months were spent in recession).  Moreover, financial crises were a regular occurrence; the severity of the 1907 "panic" helped motivate the founding of the Fed, which Grant so dislikes, in 1913.  Its little wonder, then, that the gold standard was not universally liked at the time. The monetary system was one of the most bitterly contentious issues of the day, with the debate reaching its high point in the 1896 election, when William Jennings Bryan carried the south and west on a platform of freeing the US from the "cross of gold".

There are plenty of reasons to criticize the Fed and its management of the modern "fiat money" system, but even with all of its mistakes, its doing far better than the gold standard.