No Shortage of Gold; H. Sennholz

HANS F. SENNHOLZ ~$HORTAGE MANY ECONOMISTS seem to agree on the virtues of the gold stand ard. It limits the power of govern ments or banks to create excessive amounts of paper currency and bank deposits, that is, to cause in flation. And it affords an interna tional standard with stable pat terns of exchange rates that en courage international trade and investments. But the same econo mists usually reject it without much hesitation because of its as sumed disadvantages. The gold standard, they say, does not allow sufficient flexibility in the supply of money. The quan tity of newly mined gold is not closely rela ted to the growing needs of the world economy. If it had not been for the use of paper money, a serious shortage of monDr. Sennholz heads the Department of Eco nomics at Grove City College arid is a noted writer and recturer on monetary and economic affairs. ey would have developed and eco nomic progress would have been impeded. The gold standard, they say, also makes it difficult for a single country to isolate its econ omy from depression or inflation in the rest of the world. It does not permit exchange rate changes and resists government controls over international trade and pay ments.

It is true, the gold standard makes it difficult to isolate one country from another. After all, the common currency that is gold would invite exchanges of goods and services and thus thwart an isolationist policy. For this rea son, completely regimented econo mies cannot possibly tolerate the gold standard that springs from economic freedom and inherently resists regimentation. It is true, the gold standard also exposes all countries that adhere to it to im ported· inflations and depressions. 515 516 THE FREEMAN September But as the chances of any gold in flationand depression that would follow such an inflation - are ex tremely .small, the danger of con tagion is equally small. It is small er by far than with the floating fiat standard that suffers frequent disruptions and uncertainties, or with the dollar-exchange standard that actually has inundated the world with inflation and credit expansion.

It must also be admitted that the gold standard is inconsistent with government controls over in ternational trade and payment. But we should like to question the objection that the newly mined gold is not closely related to the growing needs of business and that a serious shortage of money would have developed without the issue of paper money. In fact, this popular objection to the gold standard is rooted in several an cient errors that live on in spite of the refutations by economists. Gold in· History There is no shortage of gold today and there has been no such shortage in the past. Indeed, it is inconceivable that the needs of business will ever require more gold than is presently available. Gold has been an item of wealth and a medium of exchange in all of the great civilizations. Through out history men have toiled for this enduring metal and used it in economic exchanges. It has been estimated that most of the gold won from the earth during the last 10,000 years, perhaps from the be ginning of man, can still be ac counted for in man's vaults today, and in ornaments, jewelry, and other artifacts throughout the world. No other possession of man has been so jealously guarded as gold. And yet, we are to believe that today we are suffering from a serious shortage of gold and there fore must be content with fiat money.

Economic policies are the prod uct of economic ideas. This is true also in the sphere of monetary pol icies and the organization of the monetary system. The advocates of government paper and foes of gold are motivated by the age-old notion that the monetary system in scope and elasticity has to be tailored to the monetary needs of business. They believe that these needs exceed the available supply of gold, which deprives it of any monetary usefulness and thus makes it a relic of the distant past. The Monetary Needs of Business With most contemporary econo mists, the notion of the monetary requirements of business implies the need for an institution, organ ization, or authority that will de1973 NO SHORTAGE OF GOLD 517 termine and provide the require ments. It ultimately implies that· the government must either estab lish such an institution or provide the required money itself. These writers, in fact, accept without further thought government con trol over the people's money. To day, all but a few economists read ily accept the apparent axiom that it is the function of the govern ment to issue money and regulate its value. Like the great classical economists, they blindly trust in the monetary integrity and trust worthiness of government and the body politic. But while we can un derstand the faith of Hume, Thornton, and Ricardo, we are at a loss to explain the confidence of our contemporaries. We under stand Ricardo when ~e proclaimed tha t "In a free society, with an enlightened legislature, the power of issuing paper money, under the requisite checks of convertibility at the will of the holder, might be safely lodged in the hands of com missioners . . ."1 The English economists had reason to be proud of their political and economic achievements and confident in the world's future in liberty. However, it is more difficult to understand 1 Ricardo, David. Principles of Politi cal Economy and Taxation in "The Works and Correspondence of David Ricardo,"

ed. by Piero Sraffa, Vol. I, Cambridge, 1951, p. 362. any such naive confidence today. After half a century of monetary depreciation and economic insta bility, still to accept the dogma that it is the proper function of government to issue money and regulate its value, reflects a high degree of insensibility to our mon etary plight. A Persistent Fallacy And yet, the world of contem porary American economics blind ly accepts the dogma. It is true, we may witness heated debates between the Monetarists and Keynesians about the proper rate of currency expansion by govern ment, or the proper monetary /fis cal mix of Federal policy. But when their squabbles occasionally subside they all agree on "the dis advantages" of the gold standard and the desirability of fiat cur rency. They vehemently deny the only alternative: monetary free dom and a genuine free market. The money supply needs no reg ulation; it can be left to the free market in which individuals de termine the demand for and sup ply of money. A person wants to keep a certain store of purchasing power, a margin of wealth in the form of money. It does not matter to him whether this wealth is rep resented by a few large units of money or by numerous smaller units with the same total purchas518 THE FREEMAN September ing power. And he is not inter ested in an increase in the number of units if such an increase con stitutes no addition to his wealth.

This is not to deny that people frequently complain about their "lack of money" or their "need for more money." What they mean, of course, is additional wealth, not merely more monetary units with smaller purchasing power. But this popular mode of expression probably has contributed to the spread of erroneous notions ac cording to which monetary expan sion is identical with additional wealth. Our present policies of in flation seem to draw public sup port from this primitive confu sion. ~ore than 200 years ago John Law was victim of this confusion when he stated· that "a larger quantity (of money) employs more people than a smaller one. And a limited quantity can employ only a proportionate number." It also made Benj amin Franklin denounce the "want of money in a country" as "discouraging laboring and handicraft from coming to settle in it." And it made Alexander Hamilton advocate currency ex pansion for the development of the "vast tracts of waste land."

But only additional real capital in the shape of plants and equipment can employ additional people at unchanged wage rates, or develop new tracts of land. It is true, even without additional capital, a mar ket economy readily adj usts to ad ditions in the labor supply until every worker who seeks employ ment is fully employed. But in this process of adj ustment wage rates must decline on account of the decling marginal productivity of labor. Monetary expansion tends to hide this wage reduction as it tends to support nominal wages, or even may raise them, while real wages decline. The "full-employment" econo mists, such as Lord Keynes and his followers, recommend mone tary expansion because of this very wage reduction. They correct ly realize that institutional rnalad justments may prevent a neces sary readjustment and thus cause chronic unemployment. The labor unions may enforce wage rates that are higher than the market rates, which inevitably leads to unemployment. Or political expe dience may call for the enactment of minimum wage legislation that causes mass unemployment. Under such conditions the full-employ ment economists recommend mon etary expansion as a face-saving device for both the labor govern ment and labor unions. But while it alleviates the unemployment, it causes a new set of ominous ef fects. It originates the economic boom that will be followed by an1973 NO SHORTAGE OF GOLD 519 other recession. It benefits the debtors at the expense of the cred itors. And while it depreciates the currency, it causes maladjustment and capital consumption and de stroys individual thrift and self reliance.

Consequences of Depreciation In fact, the effects of currency depreciation, no matter how ex pedient such a policy may be, are worse than the restrictive effects of labor legislation and union pol icies. Furthermore, monetary ex pansion as a face-saving device sooner or later must come to an end. If not soon abandoned by a courageous administration, it will destroy the currency. If it is aban doned in time, the maladj ust ments and restrictive effects of labor legislation and union policies will then be fully visible. No matter how ominous and ul timately disastrous this array of consequences of currency expan sion may be, it is immensely popu lar with shortsighted and poorly informed people. After all, cur rency expansion at first generates an economic boom; it benefits the large class of debtors; it causes a sensation of ease and affluence; it is a face-saving device for popular but harmful labor policies; and last but not least, it affords gov ernment and its army of politi cians and bureaucrats more revenue and power than they would enjoy without inflation. But all these effects that may explain the popularity of currency expansion do not prove the necessity of ex panding the stock of money for any objective reason. In fact, an increase in the money supply con. fers no soc,ial benefits whatsoever.

It merely redistributes income and wealth, disrupts and misguides economic production and, as such, constitutes a powerful weapon of conflict within society. In a free market economy, it is utterly irrelevant what the total stock of money should be. Any given quantity renders the full services and yields the maximum utility of a medium of exchange. No additional utility can be de rived from additions to the quan tity of money. When the stock is relatively large, the purchasing power of the individual units of money will be relatively small. And when the stock is small, the purchasing power of the individ ual units will be relatively large. No wealth can be created and no economic growth can be achieved by changing the quantity of the medium of exchange. It is so ob vious, and yet so obscured by the specious reasoning of special in terest spokesmen, that the print ing of another ton of paper money does not create new wealth. It merely wastes valuable paper re520 THE FREEMAN September sources and generates the redis tributive effects mentioned above.

Money is only a medium of ex change. To add additional media merely tends to reduce their ex change value, their purchasing power. Only the production of ad ditional consumer goods and capi tal goods enhances the wealth and income of society. For this reason, some economists consider the mining of gold a sheer waste of capital and labor. Man is bur rowing the ground in search of gold, they say, merely to hide it again in a vault underground. And since gold is a very expensive medium of exchange, why should it not be replaced with a cheaper medium, such as paper money? If gold were to serve merely as medi urn of exchange, new mining would indeed be superfluous. But it is also a commodity that is used in countless different ways. Its mining, therefore, does enrich so ciety in the form of ornaments, dental uses, industrial products, and the like. Gold mining is as useful as any other mining that serves to satisfy human wants.

The Law of Costs·Applies to Money Actually, the great expense of gold mining and processing as sures the limitation of its quan tity and therefore its value. Both gold and paper money are subject to the "law of costs," which explains why gold has remained so valuable over the millenia and why the value of paper money always falls to the level of costs of the paper. This law, which is so well established in economic literature, states that in the long run the market price of freely reproduc ible goods tends to equal the costs of production. For if the market price should rise considerably above cost, production of the goods becomes profitable, which invites additional production. When more goods are produced and offered on the market, their price begins to fall in accordance with the law of demand and supply. Conversely, if the market price should fall below cost and inflict losses on manufac turers, production is restricted or abandoned. Thus, the supply in the market is decreased, which tends to raise the price again in conformity with the law of supply and demand. Of course, the law of costs does not conflict with the basic principle of value and price.

Their determination originates in the consumers' subjective valua tions of finished products. The law of costs obviously is applicable to gold. When its ex change value rises, mining be comes more profitable, which will encourage the search for gold and invite mining of ore that hereto fore was unprofitable because of low gold. content or other high 1973 NO SHORTAGEOF GOLD 521 mining costs. When additional quantities of gold are offered on the market, its exchange value or purchasing power tends to decline in accordance with the la.w of sup ply and demand. Conversely, when its exchange value falls, the op posite effects tend to ensue, thus discouraging further mining. A Delayed Reaction That paper money is subject to the law of costs is vehemently de nied by all who favor such money. After all, they retort, the profit motive does not apply to its pro duction and management. Its ex change value may be kept far above its cost of manufacture through wise restraint and man agement by monetary authorities.

It must be admitted that the law of costs works slowly on money, more slowly indeed than on other goods. It may take sev eral decades before the paper money exchange value falls to the level of manufacturing costs. After all, the fall is rather considerable, from the value of gold - for which the paper money first substitutes - to that of the printing paper. Few other commodities ever ex perience such a large discrepancy between market value and manu facturing costs when the law of costs begins to work. But this original discrepancy does not re fute the applicability of the law; it meTely offers a.n explanation for the length of time needed for the price-cost adj ustment. It must also be admitted that a certain measure of restraint pre vents an immediate fall of the paper money value to the level of manufacturing costs. Popular op position prevents the monetary authorities from multiplying the quantity of paper issue too rapid ly, which would depreciate its value at intolerable rates and lead to an early disintegration of the exchange economy.·In a democratic society these monetary authorities and their political employers would soon be removed from office and be replaced by others promising more restraint.

But no matter who manages the fiat money, the law of costs is working quietly and continuously. After all, the manufacturers do profit from a gradual expansion of the money supply. The profit mo tive is as applicable to money as it is to all other goods. The only difference between the manufac turer of fiat money and that of other goods is the monopolistic position of the former and the normally competitive limitations of the latter. Who would contend that the incomes and fortunes of central bankers and the jobs of many thousands of their employ ees do not provide a powerful mo tive for currency expansion? To 522 THE FREEMAN September stabilize the stock of money is to deny them position and power and thus income and wealth. Political Motivation The profit motive for fiat money expansion is even stronger with the administration in power and thousands of politicians seeking the votes of their electorates. Elec tion to high political office usually assures great personal fortune, prestige, and power, and success ful politicians quickly rise from rags to riches. But in order to be elected in a redistributive conflict society, commonly called the wel fare society, the candidate for po litical office is tempted to promise his electorate any conceivable ben efit. It is true, he may at first pro pose to tax the rich members of his society whose few votes may be ignored. But when their in comes and fortunes no longer yield the additional revenue needed for costly handouts, called social ben efits, the welfare politician resorts to deficit spending. That is to say, he calls for currency expansion that facilitates the government ex penditures that hopefully win the vote and support of his electorate and thus assure his election. When seen in this light, the profit motive is surely applicable to the manu facture of paper money.

Or, the politicians in power con duct full-employment policies through easy money and credit expansion. In search of the pop ular boom that would assure their re-election, they spend and inflate and thus set into operation the law of costs. Who would believe that such, policies are not moti vated by the personal gains that accrue to the politicians in power? But this profit motive must be sharply distinguished from that in the competitive exchange econ omy. When encompassed by com petition, the motive is a powerful driving force for the best possible service to the ultimate bosses, the consumers. It raises output and income and leads to capital forma tion and high standards of living. But in the case of the monopolistic manufacture of paper money by government authorities, the profit motive finds expression in cur rency expansion, which is infla tion. In the end, when the law of costs has completely prevailed and the exchange value of money equals the cost of paper manu facture, not only the fiat money is destroyed but also the indi vidual-enterprise private-property order. For inflation not only bears bitter economic fruits but also has evil social, political, and moral consequences. f) Down With National Priorities ARTHURS. MODE THERE IS a great deal of talk about "reordering our national priorities," and insistence that the public must speak up and be heard.