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Friday, 27 January 2012

Reasons against gold standard

There are calls for a return to the gold standard, to ensure that money retains its value.  Removal of the gold standard freed governments to print as much currency as they wished.
The value of "fiat currencies" now depends upon trust in governments not to print too much. That trust is now being tested.  Too much US dollar money might be being printed under quantitative easing (QE) programs.  Because the US dollar is the global reserve currency, the consequences will be global.  That is why China and others are diversifying trade and foreign reserve holdings out of the US dollar.

The value of each US dollar was once fixed to a set fraction of an ounce of gold.  Dollars could be exchanged for that gold.  The inherent value of the US dollar reflected the scarcity of gold. 

There have been calls for a return to the gold standard.  There are some reasons why a gold standard is less than ideal, according to Julian Phillips.

A gold standard restricts government control of the money supply.

If linked to gold, the money supply could not increase with economic growth.  More economic activity using the same amount of increases the value of the currency, causing deflation, which itself strongly discourages investment and economic growth.

Without a gold standard, and with prudent control of the money supply, governments can:  control inflation; achieve price stability;  stimulate the economy when required by increasing the money supply (Many argue that such "Keynesian" stimulation does not work.);  and increase the money supply to reflect increasing international trade.

I acknowledge Julian Phillips and his article "Gold commission return - would it raise gold price or lead to confiscation", in which he explains the recent history of gold and its relationship with modern currencies, and argues that a return to a gold standard is not possible now that financial system is structurally changed.

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