This year’s US Republican presidential race has seen its fair share of outlandish policies and seemingly unhinged politicians, whether it’s seeking to restrict contraception, dabbling in witchcraft, or proposing to abolish most of the organs of the state.
However, news that investigating a return to the gold standard has been included in the Republic National Convention’s official agenda this week appears to be one of the more deranged suggestions, from the perspective of economists.
For good reason.
The gold standard – which even its proponents accept is unlikely to be introduced – would slam the brakes on global capital mobility, since every unit of currency would be backed by a corresponding amount of gold. It would demolish the dollar’s status as a global reserve currency and ignite global trade tensions.
While bloggers have focused their ire on the myth of price stability that gold-standard enthusiasts advance, there are lessons to learn. In short, Republicans are fighting tooth and nail to enforce fiscal restraint – since under a gold standard this would be the only anti-inflationary tool – while seeking to boost the structural value of the dollar.
There are lessons for bond markets: faith in the central bank’s willingness to maintain the value of the dollar has hit a new low in the mainstream Republican consensus. The Bretton Woods system was, in part, designed to reassure investors that sovereign bonds couldn’t be eroded by inflation or currency devaluations. But this calculation has now endured a volte-face: it is the very monetary flexibility of the US Federal Reserve and Bank of England that accounts for the US and UK’s low borrowing costs, combined with global collateral demand, among other factors.
However, with real interest rates in negative territory – breaking the unspoken pact between creditors and sovereign issuers – the gold-standard idea highlights another problem for private fixed-income investors: the questionable faith in the value of the dollar.
The second lesson is that right-wing, gun-toting, anti-government Texans are united with policy officials in Beijing and São Paulo in one sense: with the Fed aggressively pumping USD liquidity into the global financial system, they argue the US dollar has been structurally debased, and China and Brazil say this policy is an attempt to boost exports, the principal weapon in trade protectionism.
Agitation in recent years over so-called global currency wars or calls to back a gold standard have the same root: perceived weaknesses in the international monetary system. The Fed benefits from a dollar-based international financial system, which means it can ease with seeming impunity, while, during bouts of risk-on markets, threatening credit bubbles and competitive exchange-rate devaluations at the expense of emerging markets.
The gold-standard proposal comes at an inopportune time: global collateral needs have jumped, the euro is embroiled in an existential crisis, and the US’s economy continues to outperform Europe. In short, there are non-trivial reasons to tout the dollar’s potential structural strength.
But, while noting the ironies and sheer madness of the gold-standard proposal, don’t dismiss the drivers for it.