Argument For A Gold-Exchange Standard

In Forbes, Nathan Lewis argues that a 100%-reserve gold standard is a bad idea. His main reason is that a full gold standard is antiquarian and "wastes" gold. He notes that a gold-exchange standard was in existence for a few centuries prior to the fiat revolution in the 1930s, and worked well enough in that timeframe. Normally, only 40% of reserves of countries observing the gold standard were in gold proper. A lot of those reserves were in bonds of other countries that also observed a gold standard.

In the past, the mechanism of supply adjustment typically involved redeemability. The owner of a banknote could redeem it for gold bullion. This was somewhat in the nature of a bank deposit today: a bank does not hold bank reserves in a 100% ratio to deposits, but it must hold some reserves to accommodate its obligation to repay depositors.

Thus, banks held some gold bullion as a reserve. By the end of the 19th century, banks no longer held this reserve themselves. They mostly held U.S. government bonds, and the Treasury held the bullion reserve. From 1880 to 1920, this reserve fluctuated between about 10% and 40% of banknotes outstanding. It was never 100%.

The 100% mark was reached for a short while in the late 1930s and early 1940s....

The trouble with this argument is that the gold-exchange standard was subject to boom and bust, as are economies with fractional-reserve banking. That gold-exchange standard fell apart in the 1930s, and its malfunctioning is the reason why we have fiat money today. The best argument for a 100%-reserve gold standard is that it removes a major source of instability in the economy, perhaps at the cost of some growth, and doesn't share the gold-exchange standard's brittleness.

The Gold Standard Now is a Website that explains why a full gold standard is the better way to go.


[Oddly, proponents of a gold-exchange standard sometimes seem to waver between "the full gold standard is antiquated" and "the full gold standard is merely theoretical." If it's merely theoretical, it hasn't been tried in the past.]