How Our Money Was Ruined

The transition of the United States from a gold coin standard to a managed fiat currency was slow and uneven, but it came about as the result of deliberate Congressional decisions. Most intellectuals over the past half century haven’t challenged the transition; they have promoted it. We have come far from the days of the Founding Fathers, who decreed death—in the Mint Act of 1792—for any officer or employee of the Mint who debased the coinage of the United States.

“Without the automatic check of a gold standard,” wrote Professor William Quirk in the New Republic, “the Nixon and Carter administrations were able, in a remarkably short time, to turn the once awesome dollar into Monopoly money.”

Fortunately for us and our children, reform of the monetary system can occur quickly, with minimal turmoil, if we are only willing to accept the fundamentals of a free society, which would permit a new monetary system to function, and a long-abused economy to recover swiftly. Here is a short history of our monetary decline.

1. The Gold Coin Standard

The gold coin standard, although imperfectly adhered to, permitted startling economic growth combined with falling prices in the 19th Century. In the 67 years since the abolition of the gold standard, the Consumer Price Index has gone up 625%. In the previous 67 years, under an imperfect gold coin standard, the CPI increased 10%. In his 1848 Communist Manifesto, Karl Marx urged: “Centralization of credit in the hands of the state, by means of a national bank with state capital and an exclusive monopoly.” Sixty-five years later, the United States followed his advice, and passed the Federal Reserve Act of 1913.

Almost 100 years before, Daniel Webster had argued against a similar central bank:

“What sort of an institution, Sir, is this? It looks less like a bank than a department of government. It will be properly the paper-money department…

“Whenever bank-notes are not convertible into gold and silver at the will of the holder, they become of less value than gold and silver. All experiments on this subject have come to the same result. It is so clear, and has been so universally admitted, that it would be a waste of time to dwell on it. The depreciation may not be sensibly perceived the first day, or the first week, it takes place. It will first be discerned in what is called the rise of specie; it will next be seen in the increased price of all commodities. The circulating medium of a commercial community must be that which is also the circulating medium of other commercial communities, or must be capable of being converted into that medium without loss. It must be able, not only to pass in payments and receipts among individuals of the same society and nation, but to adjust and discharge the balance of exchanges between different nations. It must be something which has a value abroad, as well as at home, and by which foreign as well as domestic debts can be satisfied. The precious metals alone answer these purposes. They alone, therefore, are money, and whatever else is to perform the offices of money must be their representative, and capable of being turned into them at will…

“It will be altogether unpardonable in us, if, with this as well as all other experience before us, we continue to pursue a system which must inevitably lead us through depreciation of currency, paper-money, tender-laws, and all the contemptible and miserable contrivances of disordered finance and national insolvency, to complete and entire bankruptcy in the end.”

2. The Gold Bullion Standard

Although it did not become apparent for decades, the Federal Reserve Act made possible the massive inflation necessary to finance our tragic entrance into World War I. The 1921 depression was one result of this inflation.

More Federal Reserve inflation during the 1920s, combined with economic interventionism by both Republican and Democratic administrations, caused and perpetuated the Great Depression of the 1930s.

By that 1913 law, a 40% gold cover for Federal Reserve notes and 35% for Federal Reserve deposits were required. The fact that it was not 100% showed that the central bankers planned more inflation.

If a country inflates under a gold standard, gold flows out of the Treasury, hamstringing the government. Since a gold standard enables the average person to restrain the government’s attempts to inflate, control the economy, run up deficits, and fight senseless wars, the central planners had to eliminate this fundamental American freedom to own gold. This was accomplished with the Gold Reserve Act of 1934, which outlawed private ownership of gold, prohibited the use of “gold clause” contracts, and abolished the gold coin standard. The law created the gold bullion standard, destined to last for only ten years.

Since 1933, the dollar has lost more than 93% of its value in terms of gold.

Although many, even in the 1930s, predicted that abandoning a redeemable currency would lead to a non-productive, chaotic economy, the bullion standard was only one step in the wrong direction. Its inevitable results were not immediately apparent.

The politicians readily accepted the inflationist arguments of the intellectuals, since it was in the interest of power-hungry politicians to destroy the system that gave the people, not the politicians, power over the monetary system. As a result, control was handed over to the bankers and bureaucrats, as well as the politicians themselves.

“The Federal Reserve System was formed,” claims Professor Paul Samuelson, “in the face of strong banker opposition.”

In fact, the Fed was instituted at the behest of the American Bankers Association and the nation’s biggest bankers, such as J. P. Morgan and Paul Warburg, to protect their industry against bank failures and to provide a more “elastic” currency. That is, to promote inflation that benefits bankers and big corporations. The latter were also active in promoting banking “reform” through the National Civic Federation, the big companies trade association. In opposition, notes Richard Johns, stood the National Association of Manufacturers, then primarily composed of small businessmen. As the chairman of one giant railroad put it, adds Johns, the Federal Reserve was needed to provide “intelligent control over the credit situation through a board of leading bankers under government supervision and control.”

“There is no subtler nor surer means of overturning the existing basis of society than to debauch the currency,” Keynes had written in 1919. “The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose.”

The establishment of a gold bullion standard did not, by itself, destroy the monetary system. But it sowed more seeds of destruction. Prohibiting the private ownership of gold and making “gold-clause” contracts illegal not only violated constitutional rights, it eliminated a free people’s ultimate protection from spendthrift and untrustworthy government.

Most Americans acquiesced in the seizure of private gold, and in increasing government intervention in the economy. Notes Dr. Murray Rothbard: “One reason why it was so easy for the government to confiscate everyone’s gold in 1933 was that by that time, Establishment propaganda had worked to the extent that few people were actually using gold coins in their daily lives. Not using gold much, they didn’t think they missed it. This should be a lesson to us all, that if we manage to get a return to gold, we should try to cultivate among the public a considerable daily use.”

The corporate and social welfare system, which was to necessitate the elimination of any gold standard, was well established by the late 1930s. Its maturity, combined with foreign military welfare, would require the total abolition decades later of any restraints on the politicians and their power to run the printing presses indiscriminately.

After the Second World War, we remained a wealthy nation, especially in comparison to the nations ravaged by war. And gold continued to flow in, until 1948. The flow continued, not because of wise monetary decisions, but in spite of them. The lifting of wartime economic controls, in the absence of most of today’s regulations and some of our taxes, along with a 75% cut in Federal spending, led to real growth, whereas other countries were much less stable.

The massive accumulation of gold in the U.S. Treasury at the time provided an excellent opportunity for the establishment of a full gold coin standard. This would have prevented all the subsequent inflation that has so undermined our freedom and our prosperity, as Congressman Howard Buffett of Nebraska pointed out at the time. He introduced legislation to accomplish this, but it was ignored.

Instead, our leaders went to Bretton Woods, drew up an agreement with bankers from other nations, and set America on a disaster course.

3. The Gold Exchange Standard

The monetary reforms drawn up at Bretton Woods, New Hampshire, in July 1944, were supposed to be permanent. The agreement lasted barely 27 years.

Harry Dexter White, Director of Monetary Research for the Treasury, was the U.S. representative. (Mr. White was later identified as a high-level fellow traveler of the Communist Party.)

At this United Nations Monetary and Financial Conference, the gold bullion standard was altered, since it did not allow monetary destruction at a quick enough pace. Although the new system was hailed as an improvement, it was simply a way to institutionalize longterm inflation and further transfer power to the politicians and bankers. It was also the means to finance the interventionist foreign policy so recently adopted, by creating money and credit out of thin air. Political pain and economic disruption at home were to be eased by exporting much of the inflation.

Forty-four nations agreed to the establishment of a World Bank and an International Monetary Fund, which began operations in 1946 under a “new” gold exchange standard. This permitted dollars—said to be “as good as gold"—to be substituted for gold as the international reserve currency.

The stated purpose of the new system was “to maintain exchange stability and stimulate world economic activity"—nothing more than an international Federal Reserve System. The dollar, valued at l/35th of an ounce of gold, was to be honored in payment of international debts.

The plan seemed workable to many, especially since we owned over 700 million ounces of gold: 75% of all the government- held gold in the world. What the proponents did not understand was the nature of politicians and others who strive for power. Human action rarely follows the recipe of the cook-book economic interventionists.

With this agreement, gold ceased to flow back and forth to settle balance of payment differences, thus eliminating an essential feature of a sound monetary system.

Our advisors should have known better; the gold exchange standard had been tried once before. It was in 1922 that a similar charade was tried at the Genoa Convention in a desperate attempt to hide the bad effects of inflation without stopping the inflation itself. In this agreement pounds sterling and dollars were to be accepted as reserve currencies and treated as if they were literally gold.

The Genoa agreement did nothing to thwart the pain and suffering that followed with the depression of the 1930s. The dollars and pounds remained in the country of origin and were loaned out again, thus “beating” inflation—in spite of the fact that they were recorded as assets (gold) in another central bank as backing for their currency. WTien this shaky pyramid of credit crumbled in 1929 the depression was ushered in. Jacques Rueff in his outstanding book The Monetary Sin of the West describes how dangerous the gold exchange standard is. “The unending feedback of the dollars and pounds received by the European countries to the overseas countries from which they had come, reduced the international monetary system to a mere child’s game in which one party had agreed to return the loser’s stake after each game of marbles.” This is not unlike the recycling of Arab oil money to New York then to Third World nations, then back to the Arab nations in payment for oil, etc., in a managed fiat currency system.

The fact that the later gold exchange standard lasted longer than the one set up in the 1920s, and that the patchwork monetary policy of the managed fiat currency has delayed the inevitable, should not make us complacent. The eventual debt liquidation may differ from that of the 1930s, but it cannot be prevented. I fear that the delay and the sophistication with which we inflate will only end in a bigger and more vicious economic upheaval—probably a totally depreciated currency with runaway price inflation—unless we restore sanity to the monetary system.

For the gold exchange standard to have worked, the men in charge of the American dollar would have had to refuse to expand the money supply. No one, of course, can be trusted with such a responsibility. The temptation to create new money is always too great.

Even though the government always claims it is creating wealth for the unfortunate, a little reflection makes it obvious that no wealth can be created by duplicating monetary units. Wealth can, and is, transferred from one to another, but no new wealth is created. And the transfer is usually from the less-well-off to the well-to-do.

Once the stage was set for deliberate monetary expansion to “stimulate” the domestic economy and to fund international balance of payments deficits, the disintegration of the gold exchange standard was only a matter of time. No one knew the exact timing, but Henry Hazlitt and Congressman Howard Buffett predicted, when the agreement was signed, the exact results. The purpose of Bretton Woods, noted Hazlitt in 1944, is “to make resort to inflation easy, smooth, and above all respectable.”

It takes a long time, even with extravagant monetary expansion, to convince the world that a country with more than 700 million ounces of gold would default on its monetary commitments. The claim that America’s industrial might stood behind the dollar was revealed as hollow, however, when the IOUs were called in.

The weakening position of the American dollar was hidden for most of the 1950s, but in the 1960s it became obvious to everyone. Patches were applied to the system, but they had no permanent effect.

The gold reserves the Federal Reserve System had to maintain against Federal Reserve notes had been decreased, in 1945, from 35% to 25%. To continue the inflation fraud, this figure had to be reduced to zero. In 1968 it was. In 1965 gold reserve requirements for Federal Reserve deposit liabilities were removed. Treasury gold sales, a two-tier gold pricing system, and the international “gold pool” did nothing to restore monetary order or instill confidence in the declining dollar, except for desperately short periods of time. Nothing worked because government cannot repeal the laws of human nature or of economics. Politicians simply can’t be trusted with the money machine. The Bretton Woods system died, at the ripe old age of 27, on August 15,1971, when President Nixon closed the “gold window,” and refused to redeem overseas dollars for gold. The road to rampant inflation was opened, to the delight of the bureaucrats, politicians, international bankers, multinational corporations, and some labor leaders. The age of the managed fiat currency was born.

4. The Managed Fiat Currency Standard

As could be expected, this “new” standard (actually as old as the French Assignat or the American Continental) inspired little confidence in the international community. Most Americans, unfortunately, ignored it. No efforts were made to restore monetary order, except by a few hard-money groups, which were of necessity outside the Establishment. Those who had benefitted from inflation were not about to repudiate the corrupt system that had brought them affluence and power.

When Nixon declared that foreign holders of dollars could no longer exchange them for gold, the gold exchange standard came to a miserable end. It had made possible the inflation which financed the Vietnam War and the Great Society, as well as massive business malinvestments. But the worst was yet to come.

The dollar died on August 15,1971; after that date, it had no independent value for anyone. The new rules, with the dollar now simply a managed fiat currency, ushered in even greater inflation, economic turmoil, and set the stage for total loss of confidence in the dollar. When the price of gold triples in a year, we see the loss of confidence in graphic terms. A similar run-up in all prices can occur when the average American housewife expresses the same loss of confidence in the dollar’s integrity as the Eurodollar holder. This will happen eventually, and perhaps in the near future, although no one knows exactly when.

The Smithsonian Agreement, which followed the closing of the “gold window,” was even worse than the previous arrangements. And it was doomed to even quicker failure.

Since 1971, the price of gold has increased by more than twentyfold. The CPI has gone up 79%, M₁ by 63%, M₂ by 102%, and the annual trade deficit by 1146%. All of this is testimony to an age that believes wealth can come to us without productive effort.

As Samuel Johnson wrote in The Rambler, “The reigning error of mankind is, that we are not content with the conditions on which the goods of life are granted.” Many shrink from the contrast between the work ethic and the welfare ethic, between honest money and dishonest money, between reality and fantasy.