Jim Grant Review Teaches the True Gold Standard

Jim Grant recently reviewed a new book titled, Lords of Finance: The Bankers Who Broke the World in The Wall Street Journal. Grant writes that the book is a "modernist's" account of the errors helping produce the Great Depression, adding:

It is also, necessarily, a provocation to debate about this, our Great Recession. Liaquat Ahamed is the modernist in question, and he writes with all the world-wise assurance of the professional investor, World Bank alumnus and Brookings Institution trustee that he is.

Apparently, Ahamed believes the main villain was the gold standard. Grant corrects him in the review by pointing out his quarrel is with the "gold exchange standard" -- a "road-show version of the genuine article." More:

The gold standard -- i.e., the gold standard -- was the monetary system more or less continuously in place between Waterloo and World War I. It was simplicity itself. Bank notes were exchangeable into gold, and gold into bank notes, at a fixed, inviolable rate. A central bank's everyday job was to facilitate this exchange. Of what we know today as "monetary policy" -- i.e., manipulating interest rates or the money supply to promote full employment or to pull the economy out of the ditch -- the conscientious central banker would have no part. This gold standard perished in World War I.

Another great part:

But gold backing is not, in fact, the essential feature of a properly functioning gold standard. What made that self-regulating system tick was the simple rule that a dollar or a franc or a pound could not be in two places at the same time. Gold movements between debtors and creditors ensured as much.

You might suppose that so basic a feature of the physical world would naturally rule the financial one. But the post-World War I wrecking crew discovered that a certain privileged kind of money could be made to do double duty. This was the "reserve currency." The pound sterling was the original reserve currency, the top monetary brand of the day. The U.S. dollar is its successor. It was given to Britain, later to the U.S., to have it both ways, to consume much more than it produced but never to have to pay its foreign creditors in anything except the paper that it alone could lawfully print. And as if that were not good enough, the creditors dutifully reinvested the pounds or dollars in the securities of the debtor government. It was heaven on earth, while it lasted.

Of course, it didn't last; it never does. Inflation -- of prices or of credit -- brings down the hammer. The disservice that Mr. Ahamed does to history is to fail to distinguish between the flaws of the classical gold standard, on the one hand, and the far deeper imperfections of the gold-exchange standard (so similar to the evils of today's dollar standard), on the other.

Like anything of Grant's, read the entire thing.