Gold Standard Thoughts

I originally wrote this article for the Ron Paul wiki, and I'm copying it here.

http://wiki.ronpaulpresshub.com/index.php?title=Gold_standard

HISTORY OF THE GOLD STANDARD

Before the advent of the Federal Reserve, the US was on a gold standard. Each dollar represented a certain amount of gold. You could even take your paper dollars to a bank and demand they be redeemed for gold. The government exerted discipline and only printed as much paper money as it had gold in its vaults. For example, Lincoln's greenbacks were not directly convertible to gold, although they were later converted to regular money.

People have forgotten that "dollar" was originally a unit of measurement. A dollar of gold meant a certain amount of physical metal.

The Federal Reserve was allowed to print more dollars than physical gold the US government had. This allowed it to inflate the money supply. Dollars were still redeemable for gold. People hadn't caught onto the scam yet, and people didn't demand their paper dollars be exchanged for gold.

Before the Federal Reserve was created, gold was required to pay taxes. Almost all the gold was under the control of banks, and the banks acted as a cartel. Government force meant that people needed gold to pay taxes, artificially raising the demand for bank-controlled gold. This kept interest rates above the free market interest rate, and the banking cartel used the Compound Interest Paradox to confiscate the wealth of the rest of society. With interest rates determined by the free market, a bank's interest income equals its expenses and there is no paradox; the existence of a cartel was required to raise prices. However, there were some banks that didn't follow the cartel's rules. Fortunately for the banking cartel, government regulation of banking limited the non-cooperating banks' power. Without government regulation of banking, non-cartel banks could use very aggressive reserve ratios to multiply the gold that wasn't under the cartel's control.

With the creation of the Federal Reserve, the Compound Interest Paradox now had the full force of law. The Federal Reserve meant that non-cooperating banks had to follow the cartel-set interest rates, even if they weren't members of the cartel.

The Federal Reserve System, by its very nature, guaranteed that total debts would always increase faster than the supply of money. Since there's only a certain amount of gold, this guaranteed that the US would eventually be forced off a gold standard.

In 1933, due to mounting debt generated by the Federal Reserve, President Roosevelt said that US citizens could no longer redeem their dollars for gold. He even outlawed private citizens from owning gold, requiring them to turn in their gold for paper money. The reason it was necessary to outlaw gold ownership by private citizens was that they would have started trading using physical gold rather than worthless paper money. At that time, there were enough knowledgeable citizens who would have objected to the requirement to use paper money, if the government didn't force them to use worthless paper as money. Foreign banks were still allowed to redeem their dollars for gold, so the US was nominally on a gold standard.

Instead of allowing the Federal Reserve System and the fractional reserve banking system to fail, President Roosevelt bailed them out. What should have happened was that the Federal Reserve and insolvent private banks should have been forced into bankruptcy. Then, the money in circulation would have been reduced to the amount of physical gold. Depositors would become creditors for the remaining gold in bankruptcy court.

Shortly after confiscating everyone's gold, President Roosevelt devalued the dollar, decreasing the amount of gold each dollar represented.

After World War II, the US economically dominated Europe. The US forced the following terms on Europe. It was not necessary for every country to have a gold standard. Other countries would peg their currency to the dollar, and the US would still honor its gold standard. Other countries could still redeem their dollars for gold, if they wanted to. Besides, wouldn't it be better to hold US bonds instead of physical gold? If you hold bonds, at least you're earning interest.

This led to the custom of other countries holding dollars as their reserves. Such a practice is kind of silly nowadays, because the dollar isn't backed by something tangible. Quite frankly, I don't understand why foreign countries still hold dollar reserves. They'd be better off converting their dollars to gold or silver or oil.

As US government debt increased, as it was guaranteed to increase by the Federal Reserve System, foreign governments started getting nervous about their dollar holdings and started asking to convert them to gold. Obviously, all their requests could not be honored. In 1971, President Nixon announced that he would no longer honor the US government's promise to redeem dollars in gold.

THIS WAS THE BIGGEST CREDIT DEFAULT IN HISTORY!

People say "The US Government has a perfect credit rating", but they forget this huge default, several times, on its promise to back paper dollars with gold. Now that dollars are just a piece of paper, why would the government default again? It can always print more dollars.

In retrospect, holding dollar bonds instead of physical gold was a mistake by the foreign central banks. The spike in the price of gold more than offset any interest they had earned on their bonds. I don't understand why foreign central banks still hold dollar reserves. I guess it's just a bad habit.

THE INCOME TAX AND THE ABANDONMENT OF THE GOLD STANDARD

One reason why the dollar is not completely worthless is that the US government demands income taxes be paid in dollars. Even if people abandoned the dollar and returned to a barter system, they still would need to pay income taxes in dollars. According to the IRS, a barter transaction counts as taxable income based on the dollar-equivalent value of the transaction.

The income tax guarantees a certain base level for the value of the dollar. The government demands that taxes be paid in dollars. Even if you did all your business in gold, you would still need to acquire some dollars to pay taxes. If you don't pay taxes, the government will use violence to take away your stuff or send you to jail.

The dollar, even though it's intrinsically worthless, is backed by something. The dollar is backed by the government's willingness to use violence against people to force them to pay income taxes.

Also notice that income taxes make *EVERY* economic transaction subject to taxation. This effectively makes the dollar backed by all economic activity in the US. If only certain activities were subject to taxation, the dollar would not be backed by things that aren't taxed.

HOW TO RETURN TO A GOLD STANDARD

There are several problems with unilaterally returning to a gold standard. First, what should the price of gold be? Second, the total value of the economy is far greater than the total amount of gold.

Fixed Conversion Rates

One method is to fix the price of gold based on the current amount of dollars in circulation and the amount of gold currently in the US treasury. This would be a huge jump in the price of gold, which would be a huge windfall for anyone currently holding gold.

Another method is to fix the price of gold based on the current spot price of gold, around $650. This is a problem because there wouldn't be enough gold to go around if everyone holding dollars simultaneously demanded conversion to gold. It's kind of pointless to have a gold standard if people can't redeem their dollars for physical gold.

In other words, any fixed conversion rate between gold and dollars would not be fair. Further, futures markets have evolved for gold and it wouldn't be fair to destroy those markets by returning to a fixed conversion rate between dollars and gold.

Variable Conversion Rate

Another method is to allow gold coins to circulate, but not to print a fixed value on the coin. The coin would just say "1 ounce US gold coin", and it would be legal tender with its value based on the current spot price of gold. To be fair to banks, perhaps a handling fee of up to 1% would be allowed for transactions based in gold coins.

Another advantage of this method is that several different metals could be used, not just gold. Silver and copper coins could be minted.

People who owned gold, silver, or copper, would be allowed to take their metal to the Treasury, pay a minting fee, and convert them to official money. It would be legal to melt down the coins for their metal for industrial purposes. Currently, it is illegal to melt down pennies or nickels for their metal; the metal value of those coins is greater than their face amount. You could argue that pennies and nickels are the only real money currently in circulation, because their face amount is close to their metal value.

If the Federal Reserve were abolished, and the fractional banking reserve system abolished, the government might earn enough money with its seignorage privilege and other taxes to allow it to eventually retire all paper money. Eventually, only coins would be circulating, with their value floating based on the spot price of metals.

People could even be allowed to have bank accounts denominated in gold or silver instead of dollars. If fractional reserve banking were outlawed, the bank would be required to have physical metal in its vault equal to the customer deposits. Customers would pay a storage fee to the bank.

On further reflection, fractional reserve banking is not the problem. It is government regulation of banking that is the problem. Either the government should outright forbid fractional reserve banking, or it should allow completely unregulated fractional reserve banking.

Total Currency Default

It's unrealistic to think that the US government will voluntarily return to a gold standard. The Supreme Leader of Humanity would never allow that. There have been several workable proposals discussed and proposed to the President and Congress.

Another way to return to a gold standard is via a complete currency default. This would be a total collapse of the dollar via hyperinflation. In such a scenario, people would have no choice but to return to using gold and silver as money. Historically, every fiat monetary system has ended in a total currency default.

A total currency default would probably be the end of the US government. The government would not be able to move quickly enough to switch to another monetary system. Most government employees, especially policemen, would walk off their jobs once it's obvious they won't be paid. Private police forces would hire the policemen, so that order is still maintained; arrangements will probably be made before the final collapse of the government.

The US government is in a unique position relative to other countries. All of the US government debt is in dollars, a currency the US government controls. This makes it easier for the US government to prevent a hyperinflationary collapse of the dollar. Other countries that suffered from hyperinflation had a problem where their debts were in a foreign currency, usually dollars, but their income was in their local currency, which they could not easily convert to dollars.

However, there is one way to force the US dollar to collapse in hyperinflation. If enough people started using a Social Credit Monetary System, and started performing economic activity without reporting it for taxation and confiscation, then the dollar would collapse in hyperinflation. The unreported economy would be like a foreign country relative to the US dollar.

DON'T TAX GOLD TRANSACTIONS

If I exchange a $20 bill for two $10 bills, I don't owe a capital gains tax. Similarly, if I exchange $700 for an ounce of gold, that should not be a taxable transaction, even if I later exchange the ounce of gold for $800. Since gold and silver are money, transactions involving those metals should not be taxed. A gold transaction is merely exchanging one form of money for another

The tax treatment of gold and silver transactions is a strong disincentive for using gold and silver as money.

PROBLEMS WITH A 100% GOLD STANDARD

Money that is 100% on a gold standard has some problems.

First, the total value of the economy is much higher than the total amount of gold there is. If there was a pure gold standard, the price of gold would be too high to allow it to be used for any industrial applications.

Second, a gold standard is also subject to manipulation. Before the Federal Reserve Act was passed, international bankers were able to manipulate the money supply by shipping gold in and out of the country. That was how they artificially created the panics that enabled them to get the Federal Reserve Act passed.

You can have a 100% gold standard, provided you also allow unregulated fractional reserve banking. Honest fractional reserve banking expands the money supply to match the size of the economy.

Paper Money can Work

In the colonies before the Revolutionary war, there was very little physical gold available. This necessitated paper money. Originally, money was issued by each individual. A farmer would issue a receipt, "good for 1 chicken", and it could be traded as money. This is not fiat money, because it is backed by the trustworthiness of a specific farmer. Everyone would know if there was a default, and the farmer would be unable to trade if he defaulted. This was, essentially, a Social Credit Monetary System. In a small society, where everyone knows everyone else, paper money can work. Later, the colony governments issued fiat paper money, and were careful to manage the supply. As long as the issuing authority is trusted to not dilute the supply via inflation, it would work.

When Benjamin Franklin went to parliament, he naively explained to them how wonderful fiat money was. The Bank of England forced parliament to outlaw the use of fiat money. It demanded that taxes be paid in gold, rather than in goods like furs and wheat. Some people argue that this was the cause of the Revolutionary War. During the revolutionary war, England counterfeited the colonies' paper money, making it worthless.

Some people argue that the US lost the Revolutionary war, because it was on a gold standard after the war. Since the supply of gold in the world was a lot larger than the supply of gold in the US, this enabled international bankers to control the US economy. The "free coinage" law meant that the international bankers could import gold and convert it to money. Immediately, most of the money supply in the US was under the international bankers' control.

There's Nothing Intrinsically Valuable About Gold

There isn't anything intrinsically valuable about gold. Its industrial uses are limited. Other metals, like silver, copper, and platinum have more practical uses. The advantage of metal as money is that there's a naturally limited supply of metal. However, there is no reason for gold to have special status relative to other metals.

Just like paper money, the acceptance of gold as money works because most people are conditioned to believe that gold is money. Other metal coins work just as well. In fact, I would use other metal coins as the basis of a Social Credit Monetary System, because the price of gold is artificially inflated due to people preferring gold coins over other metal coins.