The role of gold in a market-based monetary system.

• Author: Jordan, Jerry L.
• Position: Essay

I am convinced we shall never have good money again so long as we leave it in the hands of government. Government has always destroyed the monetary systems.

--Friedrich A. Hayek (1978)

Fruitful consideration of the role of gold in a market-based monetary system must be preceded by an understanding of why gold is not part of our government-based monetary system. I have set out my view on that issue elsewhere (Jordan 2011) and will not repeat it here. People whose views on money I greatly respect still advocate restoring gold backing to the Federal Reserve-issued U.S. dollar. During the Hearings of the U.S. Gold Commission in 1981-82, several witnesses advocated restoration of some linkage between Federal Reserve-issued dollar notes and gold. (1) I frankly do not understand their arguments. Yes, the Federal Reserve Banks were legislated into existence when our currency was defined in terms of gold, but World War I abruptly ended that linkage, and subsequent attempts to relink to gold all failed. At the outset the Reserve Banks' functions did not include monetary policy. That changed with enactment of the amendments to the Federal Reserve Act in the 1930s that formalized the Federal Open Market Committee. If advocates of restoring gold backing to the dollar are advocating the necessary abolition of the FOMC, then I can start to imagine the institutional arrangements they may have in mind. However, I don't think that is going to happen, and I don't think it is necessary in order to open the door to alternative privately issued competing currencies, which may have gold backing.

As a general matter, I don't think it is fruitful to preface any policy proposal with the necessity of abolishing existing politically created and protected institutions. As much as I would like to abolish the IRS, World Bank, IMF, EX-IM Bank, and even the OECD, if I thought such was a necessary condition for achieving my policy objectives, I would not waste my time tilting at those windmills. Fortunately for what I believe is feasible, it is not necessary to start with a campaign to abolish the Fed or even the FOMC--the monetary authority of our central bank. Instead, like many other legacy institutional arrangements, there are avenues to innovate around the ossified, politically entrenched institutions. It is a philosophy of, "Don't challenge their existence, just ignore them."

However, there are some attitudes and conceptions that need to change, and some avenues of innovation that need to be opened, in order to offer market-driven vehicles for the services people demand but government doesn't provide or is preventing. For example, at one time I no doubt shared the view of many people that the U.S. public (government) school system is in desperate need of reform. That has not happened and, in my view, cannot happen for political reasons. Instead, a couple decades ago the combination of the rise of home-schooling by fed-up parents and state-level legislation authorizing charter schools has fostered a genuine revolution in the way educational services are provided, driven by the economic proposition of consumer sovereignty.

The list of new avenues of innovative approaches to delivering demand-determined services by bypassing legacy delivery systems is getting long and is still growing. Taxi and limo services, overnight accommodations, news sources, travel arrangements, on-demand movie viewing/rental, book and music purchases, buying movie and theater tickets, and even "yellow pages" have changed, so why not monetary services? Bitcoin may not be the ultimate market-driven response to government-issued, monopoly fiat currency, but it certainly has been a provocative beginning.

Why Not Restore Gold Backing to Government-Issued Currency?

Earlier this year, my friend Sebastian Edwards asked me to comment on a proposal for a new book he is writing. Sebastian had been stunned when he came across a little known fact--namely, that it was illegal for Americans, in the land of the free, to own gold from 1933 to 1974, under penalty of large fines or even prison. Sebastian is a well-educated University of Chicago economist with great experience at the IMF and the World Bank, and an eminent UCLA professor, but he had never before come across the fact that the confiscation of a particular form of property (gold) had been enacted by the executive and legislative branches of government and held to be constitutional by the judicial branch. Furthermore, Sebastian was dumbfounded to further discover that the gold clauses in bond contracts had been abrogated by ruling of the Supreme Court.

Surely, thought Sebastian, the economics profession understood that protection of property and enforcement of contracts are crucial underpinnings of our market economy. (2) Yet, he found only a single paragraph in Friedman and Schwartz's monumental Monetary History of the United States and a single footnote in Allan Meltzer's mammoth History of the Federal Reserve that even mention the unconstitutional nationalization of gold holdings and unenforceability of gold protections of both government and privately issued bonds.

My explanation to Sebastian was that it seems that for a few decades one had to be a student of Armen Alchian, Ronald Coase, Jim Buchanan, or a few others of their generation, in order to have been taught the fundamental importance of the protection of rights to property and inviolability of private contracts in order to have a true market economy.

In effect, several provisions of the U.S. Constitution guaranteeing a market economy were simply suspended with the concurrence of all three branches of government. In The Rise and Fall of Economic Due Process: When the Supreme Court Championed and then Curtailed Economic Freedom, Bernard Siegan (1983) argued that actions taken by Congress and the Roosevelt administration in 1933, which were subsequently held to be constitutional by the Supreme Court, represented a failure to enforce the provisions of the Fifth, Ninth, and Fourteenth Amendments of the Constitution assuring the protection of property and the sanctity of contracts.

While some progress has been made in restoring substantive or economic due process after the Nollan decision, (3) any approach to backing the U.S. dollar by gold would be vulnerable to the same assaults on liberty as carried out by the federal government in the 1930s. Quite simply, no matter the initial exchange rate between dollars and a quantity of gold, any emergency would be sufficient for the government to declare a suspension of convertibility, or unilaterally alter the exchange rate (i.e., devalue the dollar against gold).

Introduction of a Gold-Backed Private Currency

With full restoration of the protection of property and enforcement of contracts by the U.S. judicial system, a gold-backed, market-driven private currency would not suffer the same vulnerabilities to political whims as gold backing of the official currency. While the experience of the 1930s was that the judicial branch of government would not overturn decisions of the executive and legislative branches of the federal government with regard to gold ownership, private, voluntarily negotiated contracts involving payment of gold-backed private currency are more likely to enjoy constitutional protection by the judicial branch.

Full restoration of property rights and contracts begins with popular political revolt against Ronald Reagan's description of modern-day government. A few decades ago, Reagan said that contrary to the Founders' vision of a just, and minimal, government that serves the people, we have evolved to a government bureaucracy that believes, "If it moves, tax it; if it keeps moving, regulate it; if it stops moving, subsidize it" (Reagan 1986). The first two policies--taxation and regulation--must be dealt with for any currency competition to be viable. We don't have to worry that the government will see fit to subsidize immobile private monies.

Tax Treatment of Alternative Currencies

In economics, we talk about stocks and flows; politicians see two sources of tax revenue. In business and finance, we talk about balance sheets and income statements; politicians see two sources of tax revenue. In households, we talk about wealth and income; politicians see two sources of tax revenue. In New York, California, and no doubt other places, people like to have dogs and cats as pets; politicians see two sources of tax revenue.

My point is, any stock of assets and any form of transactions is viewed by politicians as something that can and should be taxed. From the lunacy of the Tobin transaction tax to the Piketty "tax all your stuff' prescription, holding assets denominated in gold or other alternatives to dollars, or transacting in gold or other alternatives to dollars, will not provide protection from burdensome taxation, and may not offer any effective protection from inflation of the dollar.

Let...