Ben Bernanke Fences Questions About Gold Standard In Yesterday's Testimony

It wasn't Ron Paul that was asking about the viability of the gold standard, but Sen. Jim de Mint.

Bernanke, appearing before the Senate Banking Committee, was pressed by Sen. Jim DeMint (R., S.C.) on the viability of a return to a gold-backed economy or the idea of the Treasury Department issuing bonds payable in gold. Bernanke, who has studied the issue, said a return to the gold standard wouldn't work.

"It did deliver price stability over very long periods of time, but over shorter periods of time it caused wide swings in prices related to changes in demand or supply of gold. So I don't think it's a panacea," Bernanke told DeMint.

Additionally, Bernanke said there were a number of practical issues that would prevent the return of gold as the world standard. Namely, there's not enough gold in the world to effectively support the U.S. money supply.

"I don't think that a full-fledged gold standard would be practical at this point," Bernanke said, declining to opine on the gold-backed bond issue because he was not familiar with the idea.

He also fenced Mark Kirk on the question of currency not being backed by federal debt.


It's been fashionable lately to say that money and credit are the same because both are liabilities of the U.S. Treasury. The trouble with this contention is that there's no way to get the Treasury to redeem that liability except through other liabilities. What do you receive if you're the holder of a $20 Federal Reserve note and want the U.S. government to redeem its liability? You get more Federal Reserve notes, or coins, which means the government exchanges a liability on itself for another liability. With one minor exception, there's no way to get an asset from the Treasury that extinguishes that liability.

So, the "liability" represented by a Federal Reserve note is economically equivalent to a perpetual bond with 0% interest rate, since Fed notes never pay interest. The present value of such a perpetual liability, using the standard formula for perpetuals [Present Value = Interest Payment / Interest Rate], is 0/0...a non-answer.

Therefore, using basic financial math, treating Federal Reserve Notes - or any similar currency - as a financial asset is nonsensical. Although 0/0 can stand for a finite number, it can stand for any number. There's no way to get any definite value at all for an FRN by treating it as an asset that's also a liability of the U.S. Treasury. The fact that the liability cannot be extinguished makes its value as a financial asset uncomputable.

And that's the only way it can be treated, if its subjective value as a medium of exchange is ignored. As I said above, FRNs can only be exchanged for other FRNs and coins. Thus, the liability is never extinguished. Gold is in a better position: it can be made into jewelry or another luxury consumer good. What can be done with rag paper?

Those who say that gold has "no value" because it doesn't have a return seem quite unaware that the situation is worse for paper. Gold has uses, such as jewelry, that form a significant part of its market value. Rag paper has next to none. The only time when paper money approaches intrinsic value is during hyperinflation.

I did mention a minor exception, and that's coins. Even here, though, the government has made it illegal to realize the value of coin assets by smelting them.