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(Anthony Jenkins/The Globe and Mail)
(Anthony Jenkins/The Globe and Mail)

Neil Reynolds

Could gold once again be our guide? Add to ...

When World Bank President Robert Zoellick suggested the other day that the world needs to embrace a gold standard (of one kind or another) once again, he made Robert Mundell, the famous globe-trotting Canadian-born economist, look eerily prescient. Back in 1997, Dr. Mundell predicted a return to gold "maybe in 10 or 15 years" - in other words, by 2012. Here's a distinctly improbable prediction that's looking better all the time.

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Dr. Mundell, the Columbia University-based Nobel Prize winner who influentially championed supply-side economics in the early 1980s (and who can be regarded, for all practical purposes, as the modern inventor of it) was lecturing at a small college in Pennsylvania when he asserted that gold would make a comeback early in the 21st century. "Gold will be a part of the structure of the international monetary system," he said, "[and used]as an index for the dollar and for other currencies."

This radical reform would happen, he said, "when central bankers are not so timid to speak about [gold's]use." Central banks primarily exist, after all, to do what gold once did without them. Yet central bankers never talk about gold - or, for that matter, never appear to think about it. Mr. Zoellick is very much a dissident, perhaps the first of the brave.

Dr. Mundell, however, observed in his prophetic lecture that central banks only appeared to have repudiated gold. They hadn't quite done so. Gold, he noted, was the only commodity held by central banks. Although the world had gone completely "off gold" by the early 1970s, central banks still held more than one billion ounces of the metal in 1997 - almost precisely what they held during the gold era. (The Bank of Canada, though, sold off its gold reserves to pay down national debt at the same time Dr. Mundell was predicting a global return to gold.)

He said that the total amount of gold mined "since the days of Nefertiti" was 3.5 billion ounces: One-third of this, he said, was in the vaults of the central banks; one-third in jewellery; one third hoarded as a protection against inflation. In a sense, this meant that gold had unofficially survived as the world's currency of last resort.

Most economists, of course, still sneer at gold. University of California (Berkeley) economist Brad Delong, for example, dismissed Mr. Zoellick as "the stupidest man alive." For his part, Dr. Mundell wasn't himself predicting a return to the gold standard - merely the use of market-priced gold as an objective way to track inflation.

Writing in The New York Times last week, James Grant, editor of the respected Grant's Interest Rate Observer, efficiently described the classic gold standard as it functioned at its best: from 1880 through 1914. "Borders were open," he said. "Money was footloose. It went where it was wanted. In gold-standard countries, government budgets were mainly balanced. Central banks had a single function: exchanging gold for paper, or paper for gold.

"The system is simplicity itself. The people themselves tell the central bank that it has printed too much money, or too little. It's democracy in money rather than mandarin rule. Today, it's the mandarins at the Federal Reserve who decide what interest rate and what volume of currency to conjure."

Dr. Mundell doesn't anticipate a return to the stable-money days of the 19th century. They are gone forever, a brief, bright moment unique in human history, which ended abruptly in 1913 when the U.S. created the Federal Reserve system - "the most important event," he says ominously, "of the 20th century."

Gold didn't fail the central banks, Dr. Mundell says - central banks failed gold. They mismanaged it, going off gold, then going back on, then going off again - arbitrarily setting its price rather than permitting the markets to set it. In his Nobel Prize acceptance speech, in 1999, he asserted that the Fed - "the greatest agent for inflation ever created" - had bungled monetary policy so badly that it was necessarily "implicated" in the darkest moments of the 20th century: the First World War, the Great Depression and the Second World War. By this standard, a little guidance now from gold couldn't hurt.

 

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