What is the set of principles behind the government’s conduct of monetary policy? It’s a hard question to answer. The Constitution gives the United States the power “to coin money” and “regulate the value thereof” and to fix exchange rates with respect to foreign coin. But clearly, the Federal Reserve has moved far beyond this little rubric as goes the basis of its operations. “Price stability in the context of full employment,” “smoothing out booms and busts,” “making an orderly environment for federal financing,” “being the lender of last resort,” “talking away the punch bowl before the party gets going,” “preventing another Great Depression”—these are the guiding lights, real winners all of them, you hear about when it comes to our central bank.
And what do we get? A banking system gorged with reserves, and an economic growth rate desperate for 2% coming out of a deep, dark recession. Where’d we go wrong?
Out of the gate, the U.S. economy doubled in size in a dozen years after the ratification of the Constitution in 1789. Over the next some hundred years, until the creation of the Fed in 1913, the economy increased only…75-fold. Pretty quaint, that monetary system outlined by the Constitution.
Something got lost in the transition after 1913, as the Fed started to pile on ersatz first principles of monetary policy, such as the laugh lines above. Now we have a “modern” economy with “modern” institutions—and modern sluggishness. Before our modern economy, we had one that grew like gangbusters.
One of the presidential candidates from last fall, Herman Cain, was shrewd enough to cut through the rationalizations and spell out, anew, what first principles for monetary policy should look like in the 21st century. These principles hark back to the things that made the American economy the greatest in the world in the years before the Fed: the Constitution and the gold standard.
And now, Cain and his senior advisor Rich Lowrie have published a book, An Army of Davids, where you can see these principles spelled out. Here are the three chief elements of Cain’s monetary vision:
“Economic growth and prosperity require sound money.”
“The greatest runs of economic growth in American history have been periods of stable prices, a strong dollar, and a dollar tied to gold.”
“A democratic society must have a monetary system and monetary institutions that win the respect of the public.”
It’s funny how easy a program for a return to a good gold standard issues from these first principles. In the book, you can see how. It’s basically this: Keep the dollar stable with respect to things like the price level, serious foreign currencies, and major commodities, and gold will stabilize in price so fast and so tight that making the dollar convertible to gold once again would amount to a formality.
It would be a necessary formality all the same. The last time the United States conducted provisionally legitimate monetary policy, during the Great Moderation years following 1982, gold stabilized at about $325 for two decades. The dang thing was that the U.S. never took the next step, the formalstep, of officially making the dollar convertible to gold. This alone would have prevented the Fed blowouts of the early 2000s that did things like stoke the housing bubble and bring on the big bust.
Again, see how easy? Have a real-sector-friendly reform of tax and regulatory policy. This creates good, real demand for the dollar. Have the Fed create money for this purpose, as opposed to larks like backstopping the banking system etc. The dollar will strengthen and stabilize against foreign exchange, the price level will go flat if not gently decline a little, and commodities will plummet and lay low. Bingo: gold will go to something like $1000 and stay there. And there you have your conversion price.
What horrors will we see with a dollar convertible to gold in such an environment? I know: the Great Depression! Wrong: the 1789-1913 run approximated again.
People think those kinds of days are far behind us, that we’re locked in a more meager state of affairs, what with President Obama and his ilk. (The first line of An Army of Davids: “President Obama is not very good at economic policy.”) I got to absorb Herman Cain’s campaign last fall as a monetary advisor, and I saw first-hand what so many in America did too. Cain feels it in his bones that America’s destiny is another great epoch of economic growth.
If we want to go “forward,” we need to chuck the phony “progressives” and draw from the great resources of our past. America’s greatness in the 21stcentury depends on our openness to Constitutional principles and to gold.
Books on the topic discussed in this essay may be found in The Imaginative Conservative Bookstore. Originally published at Forbes.com the essay is reprinted here with gracious permission of Brian Domitrovic.