Best of the Week
Most Popular
1. US Housing Market House Prices Bull Market Trend Current State - Nadeem_Walayat
2.Gold and Silver End of Week Technical, CoT and Fundamental Status - Gary_Tanashian
3.Stock Market Dow Trend Forecast - April Update - Nadeem_Walayat
4.When Will the Stock Market’s Rally Stop? - Troy_Bombardia
5.Russia and China Intend to Drain the West of Its Gold - MoneyMetals
6.BAIDU (BIDU) - Top 10 Artificial Intelligence Stocks Investing To Profit from AI Mega-trend - Nadeem_Walayat
7.Stop Feeding the Chinese Empire - ‘Belt and Road’ Trojan Horse - Richard_Mills
8.Stock Market US China Trade War Panic! Trend Forecast May 2019 Update - Nadeem_Walayat
9.US China Trade Impasse Threatens US Lithium, Rare Earth Imports - Richard_Mills
10.How to Invest in AI Stocks to Profit from the Machine Intelligence Mega-trend - Nadeem_Walayat
Last 7 days
Silver Long-Term Trend Analysis - 18th June 19
IBM - Watson Deep Learning - AI Stocks Investing - Video - 18th June 19
Investors are Confident, Bullish and Buying Stocks, but… - 18th June 19
Gold and Silver Reversals – Impossible Not to Notice - 18th June 19
S&P 500 Stuck at 2,900, Still No Clear Direction - 17th June 19
Is Boris set to be the next Conservation leader? - 17th June 19
Clock’s Ticking on Your Chance to Profit from the Yield Curve Inversion - 17th June 19
Stock Market Rally Faltering? - 17th June 19
Johnson Vs Gove Tory Leadership Contest Grudge Match Betfair Betting - 17th June 19
Nasdaq Stock Index Prediction System Is Telling Us A Very Different Story - 17th June 19
King Dollar Rides Higher Creating Pressures On Foreign Economies - 17th June 19
Land Rover Discovery Sport Tailgate Not Working Problems Fix (70) - 17th June 19
Stock Market Outlook: is the S&P today just like 2007 or 2016? - 17th June 19
US China War - Thucydides Trap and gold - 16th June 19
Gold Stocks Bull Upleg Mounting - 16th June 19
Gold Price Seasonal Trend Analysis - Video - 16th June 19
Fethiye Market Fruit, Veg, Spices and Turkish Delight Tourist Shopping - 16th June 19
US Dollar Gold Trend Analysis - 15th June 19
Gold Stocks “Launch” is in Line With Fundamentals - 15th June 19
The Rise of Silver and Major Economic Decline - 15th June 19
Fire Insurance Claims: What Are the Things a Fire Claim Adjuster Does? - 15th June 19
How To Find A Trustworthy Casino? - 15th June 19
Boris Johnson Vs Michael Gove Tory Leadership Grudge Match - Video - 14th June 19
Gold and Silver, Precious Metals: T-Minus 3 Seconds To Liftoff! - 14th June 19
Silver Investing Trend Analysis - Video - 14th June 19
The American Dream Is Alive and Well - in China - 14th June 19
Keeping the Online Gaming Industry in Line - 14th June 19
How Acquisitions Affect Global Stocks - 14th June 19
Please Don’t Buy the Dip in Nvidia or Other Chip Stocks - 14th June 19
A Big Thing in Investor Education is Explainer Videos - 14th June 19
IRAN - The Next American War - 13th June 19
Boris Johnson Vs Michael Gove Tory Leadership Grudge Match Contest - 13th June 19
Top Best VPN Services You Can Choose For Your iPhone - 13th June 19
Tory Leadership Contest Betting Markets Forecast - Betfair - 13th June 19
US Stock Market Setting Up A Pennant Formation - 13th June 19
Which Stocks Will Lead The Cannabis Rebound? - 13th June 19
The Privatization of US Indo-Pacific Vision - Project 2049, Armitage, Budget Ploys and Taiwan Nexus - 12th June 19
Gold Price Breaks to the Upside - 12th June 19
Top Publicly Traded Casino Company Stocks for 2019 - 12th June 19
Silver Investing Trend Analysis - 12th June 19
Why Blue-Chip Dividend Stocks Aren’t as Safe as You Think - 12th June 19
Technical Analysis Shows Aug/Sept Stock Market Top Pattern Should Form - 12th June 19
FTSE 100: A Top European Index - 12th June 19
Gold Surprise! - 11th June 19
How Forex Indicators are Getting Even More Attention in the Market? - 11th June 19
Stock Market Storm Clouds on the Horizon - 11th June 19
Is Your Financial Security Based On A Double Aberration? - 11th June 19
What If Stocks Are Wrong About Interest Rate Cuts? - 11th June 19
US House Prices Yield Curve, Debt, QE4EVER! - 11th June 19
Natural Gas Moves Into Basing Zone - 11th June 19
U.S. Dollar Stall is Good for Commodities - 11th June 19
Fed Running Out of Time and Conventional Weapons - 11th June 19
Trade Wars Propelling Stock Markets to New Highs - 11th June 19
Best Travel Bags for Summer Holidays 2019, Back Sling packs, water proof, money belt, tactical - 11th June 19
Betting on Next British Prime Minister Tory Leadership Betfair Markets Forecast - 10th June 19
How Can Stock Market Go Up When We’re Headed Towards a Recession? - 10th June 19
If You Invest in Dividend Stocks, Do This to Double Your Returns - 10th June 19
Reasons for the Success of the Dating Market - 10th June 19
Gold Price Trend Analysis - Video - 10th June 19
US Stock Markets Rally Hard – Could Another Big Upside Leg Begin? - 10th June 19
Stock Market Huge Cosmic Cluster Ahead: Buckle Up! - 10th June 19
Stock Market Higher To Go? - 10th June 19
The Gold Price Golden Neckline… - 10th June 19
Gold Price Seasonal Trend Analysis - 9th June 19
The Fed Stops Pretending - 9th June 19
Fed Rate Cuts Soon; Bitcoin Enthusiasts Join Wall Street in Bashing Gold - 9th June 19
1990s vs. 2010s - Which Expansion Will be Better for Gold? - 9th June 19
Gold Price Trend Analysis, MACD, Trend Channels, Support / Resistance - 8th June 19
Gold Surges Near Breakout - 8th June 19
Could Gold Rally Above $3750 Before December 2019? - 8th June 19
5 Big Lies About Precious Metals Investing Exposed - 8th June 19

Market Oracle FREE Newsletter

Gold Price Trend Forecast Summer 2019

Gold Price - A Substandard Golden Rule

Commodities / Gold and Silver 2013 May 30, 2013 - 06:51 PM GMT

By: Joseph_T_Salerno

Commodities

The gold “price rule” denotes the monetary reform proposal put forth in various forms by a number of supply-siders, including Arthur Laffer,[1] Robert Mundell,[2] and Jude Wanniski.[3] Laffer’s detailed formulation of the proposal also served as the basis of the Gold Reserve bill, introduced in the Senate by Jesse Helms in January 1981.[4]

The scheme has reared its head once again in H.R. 1576, the “Dollar Bill Act of 2013,” introduced by Congressman Ted Poe, and strongly supported by Steve Forbes.


According to Laffer’s blueprint from the 1980s, at the end of a previously announced transition period of three months, the Federal Reserve would establish an official dollar price of gold “at that day’s average transaction price in the London gold market.”[5] From that date onward, the Fed would stand ready to freely convert dollars into gold and gold into dollars at the official price. In addition, “when valued at the official price, the Federal Reserve will attempt over time to establish an average dollar value of gold reserves equal to 40 percent of the dollar value of its liabilities.”[6] This level of gold reserves Laffer designates the “Target Reserve Quantity.”

Once Laffer’s plan was fully operational, the Fed would have full discretion in conducting monetary policy through discounting, open market operations, etc., provided that: the dollar remains fully convertible into gold at the official price; and the quantity of actual gold reserves does not deviate from the Target Reserve Quantity by more than 25 percent in either direction, i.e., actual gold reserves do not fall below 30 percent or rise above 50 percent of the Fed’s liabilities, which are also known as the “monetary base.” However, should gold reserves decline to a level between 20 percent and 30 percent of its liabilities, the Fed would lose all discretion in determining the monetary base which, as a result, would be completely frozen at the existing level. If, in spite of this, gold reserves continued to decline to between 10 percent and 20 percent of the Fed’s liabilities, the Fed would be legally constrained to reduce the monetary base at the rate of one percent per month.

Should these measures prove incapable of arresting the decline in the dollar value of gold reserves before it reaches less than 10 percent of Fed liabilities, then:

The dollar’s convertibility will be temporarily suspended and the dollar price of gold will be set free for a three month adjustment period.

During this temporary period of inconvertibility, the monetary authorities will be required to suspend all actions that would affect the monetary base. Again, the price of gold would be reset as before and convertibility would be reinstated.[7]

Laffer’s plan also includes “a symmetric set of policy dicta” which are to be implemented in the case in which actual gold reserves exceed the Target Reserve Quantity.

It must first be pointed out that Laffer’s monetary reform proposal, whatever its merits or drawbacks, is not a blueprint for the gold standard. Rather, it is an outline of an elaborate scheme for legally constraining the monetary authority to adhere to a “price rule” in determining the supply of fiat money in the economy. In fact, as Laffer himself has made clear recently, gold has no necessary role in the implementation of such a price rule. According to Laffer and Miles:

… the Fed would institute its dollar “price rule” by stabilizing the value of the dollar in terms of an external standard. This standard would be a single commodity or a basket of commodities (a price index).…

Regardless of precisely which external standard is chosen, there are two basic rules of Fed behavior under the price rule. First, if the dollar price of the standard starts to rise (the dollar starts to fall in value), the Fed must reduce the quantity of dollars through open market sales of bonds, foreign exchange, gold, or other commodities. Second, if the dollar price starts to fall (the dollar rises in value), the Fed must increase the quantity of dollars through open market purchases of bonds, foreign exchange, gold or other commodities. The Fed is charged with keeping the value or price of the dollar stable in terms of the external standard.[8]

Compare this to Forbes’s explanation of Poe’s 2013 plan:

Unlike in days of old we don’t need piles of the yellow metal for a new standard to operate. Under Poe’s plan—an approach I have long favored—the dollar would be fixed to gold at a specific price. For argument’s sake let’s say the peg is $1,300. If the price of gold were to go above that, the Federal Reserve would sell bonds from its portfolio, thereby removing dollars from the economy to maintain the $1,300 level. Conversely, if the gold price were to drop below $1,300, the Fed would “print” new money by buying bonds, thereby injecting cash into the banking system.

Even if gold is chosen as the “external standard” in the price-rule regime, it is not itself money, as in the case of a genuine gold standard, but merely “the intervention asset” or “the item for which dollars are exchanged.”[9]

When we strip away its gold plating, Laffer’s and Poe’s price rule appears as a technique designed to control inflation under the current fiat money standard. It is thus differs only in technical detail from the quantity rule advocated by the monetarists. Laffer and Miles admit as much when they state, “in an unchanging world where all information is freely available, there of course would be a ‘quantity rule’ which would correspond to a given ‘price rule.”[10] In fact, Miles and Laffer prefer a price rule to a quantity rule because they believe that, under the current monetary system, the former is technically superior to the latter in “restraining the supply of dollars.”[11]

Under close examination, the Laffer/Poe/Forbes approach thus turns out to be, in essence, a kind of “price-rule monetarism,” the references to gold notwithstanding. The most serious defect in both variants of monetarism is that they fail to address the underlying cause of inflation, namely, the government monopoly of the supply of money. This is true of Laffer’s plan despite the elaborate set of legal sanctions which would be invoked against the monetary authorities for their violations of the price rule. For, in the end, such sanctions, even if rigorously applied, do not prevent inflation but merely respond to a fait accompli. This point is implicitly recognized by Laffer, who includes in his plan a provision for “temporary periods” of dollar inconvertibility. These would readjust the official gold price following sustained bouts of monetary inflation which cause gold reserves to fall below the legally permissible lower limit.

Furthermore, as in the case of the gold certificate reserve, we may appeal to history for evidence regarding the success of the gold price rule in stanching the flow of government fiat currency. We need look no further than the late, unlamented Bretton Woods System (1946–1971). Under this “fixed-exchange-rate” system, the U.S. monetary authority followed a gold price rule, buying and selling gold at an officially fixed price of $35 per ounce. Foreign monetary authorities, on the other hand, pursued a dollar price rule, maintaining their respective national currencies convertible into dollars at a fixed price. According to Laffer and Miles, “as long as the rules of the system were being followed, the supplies of all currencies were constricted to a strict price relationship among one another and to gold.”[12]

Unfortunately, “the rules of the system” were subjected to numerous and repeated government violations and evasions, including frequent outright “readjustment” of the price rules, i.e., exchangerate devaluations, when they became inconvenient restraints on the inflationary policies pursued by particular governments.[13] Needless to say, the Bretton Woods System did not prevent the development of a worldwide inflation which brought the system to its knees in 1968 and led to its final collapse in 1971.

After duly noting the political manipulations involved in the destruction of the Bretton Woods System,[14] Laffer and Miles clearly delineate the reasons why governments prefer and benefit from the removal of any and all checks on their power to inflate the money supply:

Why should governments be biased toward increasing the money supply at a faster rate? There are essentially two incentives—a political incentive and a financial one. The political incentive is political survival. Many politicians, especially those up for reelection, are familiar with the theory that increases in the money supply promote expenditure, increase GNP, and reduce unemployment. These changes in turn are assumed to make the citizens of the country look more kindly upon the incumbent government. While there may be some validity in this theory, unfortunately it is often implemented under the notion that if a little money creation is good, a lot must be even better.

The financial motive for printing money is the fact that while money is practically costless to produce, it can be used for purchasing goods and services. The resulting seignorage represents revenue to the government. Revenue gathered in this way means less revenue must be gathered in another way, say, through direct taxation.

Given these incentives to print money, it can be seen why removal of the monetary constraints on governments tends to create inflation rather than deflation.[15]

Given his recognition of the powerful inflationary bias built into the political process and of the historical failure of monetary price rules to hold such a bias in check, Laffer’s advocacy of a renewed gold price rule was always something of a mystery.

In light of the inherent flaws of all varieties of the gold price rule, Forbes and Poe should seriously rethink their advocacy of its resurrection.

[This article was adapted from an excerpt of Money Sound and Unsound by Joseph T. Salerno]

Notes

--------------------------------------------------------------------------------

[1] Arthur Laffer, Reinstatement of the Dollar: The Blueprint (Rolling Hill Estates, Calif.: A.B. Laffer Associates, 1980). Also see Arthur B. Laffer and Charles W. Kadlec, “The Point of Linking the Dollar to Gold,” Wall Street Journal (October 13, 1982): p. 32.

[2] Robert A. Mundell, “Gold Would Serve into the 21st Century,” Wall Street Journal (September 30, 1981): p. 33.

[3] Jude Wanniski, The Way the World Works (New York: Simon and Schuster, 1978), especially pp. 161–67. See Wanniski, “A Job Only Gold Can Do,” New York Times (August 27, 1981): p. A31.

[4] The text of Helms’ bill is reproduced in Ernest P. Welker, “Plans to Revive the Gold Standard,” Economic Education Bulletin 20, no. 10 (Great Barrington, Mass.: American Institute for Economic Research, 1980), pp. 7–9.

[5] Laffer, Reinstatement of the Dollar, p. 4.

[6] Ibid.

[7] Ibid., p. 5.

[8] Arthur B. Laffer and Marc A. Miles, International Economics in an Integrated World (Glenview, Ill.: Scott, Foresman and Co., 1982), pp. 399–400.

[9] Ibid., p. 400.

[10] Ibid., p. 401.

[11] Ibid.

[12] Ibid., p. 260.

[13] For accounts of the breakdown of the Bretton Woods System see Jacques Rueff, The Monetary Sin of the West, trans. Roger Glémet (New York: Macmillan Co., 1972); and Guillaume Guindey, The International Monetary Tangle: Myths and Realities, trans. Michael L. Hoffman (White Plains, N.Y.: M.E. Sharpe, Inc., 1977).

[14] Laffer and Miles, International Economics, pp. 259–62.

[15] Ibid., pp. 397–98.

Joseph Salerno is academic vice president of the Mises Institute, professor of economics at Pace University, and editor of the Quarterly Journal of Austrian Economics. He has been interviewed in the Austrian Economics Newsletter and on Mises.org. Send him mail. See Joseph T. Salerno's article archives. Comment on the blog.

© 2012 Copyright Joseph Salerno - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules