UP and UP she goes....
Gold Standard
09 Nov, 2010 10:58:52 World Bank chief fires gold standard debate amid Fed money printing
Nov 09, 2010 (LBO) - World Bank chief Robert Zoellick has fired a debate on a return to gold as a monetary anchor with the United States engaging in new money printing, threatening to send food and other commodity prices higher.
Federal Reserve chief Ben Bernanke dubbed 'Bubble Ben' by his detractors who are critical of his 'anti-deflation' loose policies that fired a massive housing and commodity bubble and triggered a global economic crisis has raised fresh questions about the use of money. Monetary System Ahead of a summit by the Group of 20 nations Zoellick called for discussions on a "co-operative monetary system that reflects emerging economic conditions."
"The system should also consider employing gold as an international reference point of market expectations about inflation, deflation and future currency values," Zoellick wrote in UK-based Financial Times newspaper.
"Although textbooks may view gold as the old money, markets are using gold as an alternative monetary asset today." An ounce of gold has shot up over 1,400 US dollars on Monday. At the creation of Federal Reserve in 1913 gold was only 20 dollars an ounce.
After triggering the Great Depression through loose monetary policy in the 1920s, the Fed deprecated the dollar to 35 dollars an ounce in 1933, barely 20 years after its creation.
Without the Fed, gold has been about 20 dollars an ounce since 1792, and there was no sustained worldwide inflation. Under a gold standard global currencies had essentially been fixed. Any excess money printing by gold pegged central banks pushed up the price of gold, leading to reserve losses in the style of a balance of payments crisis, triggering automatic corrections.
Rise of Fed
The Fed's importance in the world monetary system began with the UK's Bank of England suspending gold convertibility in August 1914, effectively making the Sterling 'floating' paper money.
The UK failed to return to the gold standard but the US, by devaluing in 1933 strengthened its links to gold and ended up as the central bank with the largest holder of world gold reserves.
After World War II, the Fed began to systematically spread inflation throughout the world through the Bretton Woods system, a system of unstable pegs based on contradictory exchange and interest rate policies that encouraged money printing and devaluation.
Under the Bretton Woods individual country links to gold was broken, laying the foundation to the end of a gold standard.
In 1971-73 the Bretton Woods system collapsed with gold prices going above 80 dollars an ounce because the US was unable to keep its peg to gold at 35 dollars. The world then moved on to floating exchange rates based on paper money central banks.
The 1970s Great Inflation was checked by the Fed and UK after gold prices hit 800 dollars an ounce. The Fed raised interest rates above 18 percent under President Ronald Reagan and the Bank of England went for a tight quantity targeting framework under Margaret Thatcher.
Zoellick himself was in the US Treasury in the mid 1980s period of so-called 'Great Moderation.'
During the 2008 bubble, gold went above 1,000 dollars an ounce. There were food riots in poor countries as commodity prices went to new heights. The bubble subsequently collapsed as the underlying credit bubble imploded with collapsing banks.
Gold Spike
Gold topped 1,400 dollars an ounce yesterday. The Fed under pressure to 'do something' is set to print more than 600 billion rupees in fresh dollars in a 'quantity easing' exercise.
Reuters, a news agency, quoted an unnamed German government official as saying that "Zoellick was correct in worrying that currency values were becoming too vulnerable to the whims of governments."
Monetary debasement to achieve political objectives and higher spending is constrained by a gold standard, which serves as natural law to protect salaries of wage earners and savings of old people, from mis-appropriation by the state.
Germany, a country that has seen hyperinflation was the first developed nation to combat inflation during the 1970s and has been a driving force behind relatively prudent policies backing the Euro.
The German official was quoted as saying that it would be difficult to have a modern monetary policy tool based on a commodity "whose availability is dictated by natural conditions."
But classical economists have pointed out that gold has proved very much responsive to market conditions earlier and had served the world well until monetary debasement began under President Franklin Roosevelt in 1933.
LBO economics columnist fuss-budget says in the gold supply had grown about two percent a year in the past, except when new gold discoveries increased supply and created temporary inflation booms.
Rulers were therefore unable to manipulate the monetary system and debase it for short term political gain.
"But when productivity improvement pushed prices of goods down making gold seem dearer, increased incentives to mine increased supply according to market needs and re-balanced prices."
Bubble Ben Steve Hanke, from John Hopkins University in Baltimore, a member of the Reagan economic term which ended the 'Great Inflation' period said a recent interview with CNBC India last month that Fed will print money as long as unemployment is high.
The history of Fed is that the US central bank will not counter inflation as long as unemployment was high but will try to lie its way out of the problem, he said.
"The bottomline is they have already thrown in a huge monetary time bomb out there," Hanke said.
"Now with quantitative easing of course they are going to throw more time bombs out there. The problem is they tell us they know exactly how to defuse these time bombs.
The history of the Fed is they wait too long to defuse any kind of monetary time bomb if unemployment rates are high."
He says broad money is not growing, despite the expansion of the monetary base (Fed money made up of bank notes and deposits with the Fed) because of a confidence factor and not due to rates or availability of credit.
"The Fed can pump up with quantitative easing, the monetary base as much as they want it, they can make a monster out of the thing," Hanke said.
"But their credit growth is very slow in the economy because the banks and other financial services institutions don't have confidence to make a loan and borrowers don’t have the confidence to demand the loan."
Several US lawmakers have gone further than Zoellick and called for the outright abolition of the Federal Reserve. Several Republican lawmakers who are critical of the Fed's loose policy have been elected in recent mid-term elections.
Other US lawmakers on the Joint Economic Committee (JEC) of the US congress and senate have also raised concerns.
"I fear the risk [of much higher inflation down the road] from a new round of quantitative easing far exceeds the potential reward [of a small, short-term boost to growth]," US congressman Kevin Brady, a senior JEC member wrote to Bernanke on October 26.
"In discussions in my district in Texas and around the country, no entrepreneur has told me that high interest rates are deterring his or her firm from making investments or hiring new workers.
"Instead, it is the uncertainty over the impact of federal budget deficits, new mandates and regulations, barriers to commercial mortgage lending erected, in part, by the overreaction of bank regulators to stress in the commercial real estate market, and tax policies that deter new investment and job creation."
US economist John Taylor, an expert on central banking who devised the so-called 'Taylor Rule' has also called for a reduction in state intervention which spreads uncertainty.
Previous experiments with paper money in China (where it was invented), the US (Continental dollar), France (Assignat and earlier Mississippi Corporation) have ended with a return to gold.
The current episode is the longest period paper money has survived other than in China.
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