In 1914 the Fed opened their doors. We can see in the law governing the Fed that it says, "reserves in gold of not less than forty per centum against its Federal reserve notes in actual circulation". So during the Roaring Twenties the Fed was issuing $2.50 for every $1 worth of gold it got and the money supply expanded. This created a bubble in Treasury bonds, a bubble in Florida real estate, and a stock bubble. Then as people and countries took their gold back from the Fed the law required that they reduce the money supply. Moving back to gold would undo this inflationary factor of 2.5. This caused deflation and very hard times in the early Depression. When they stopped redeeming paper money for gold in 1933 the deflation stopped.
This period from 1914 to 1933 is called the Interwar Gold Standard but I think "Ponzi Gold Standard" is a much better name. The Fed was acting like any other Ponzi scam. As long as people are putting funds in things can work, but if people try to take their money out it all falls apart. Instead of admitting that the Fed was a bankrupt Ponzi scam, the government made it illegal for citizens to own gold so the Fed did not have to pay people gold.
If the Fed had tried to keep paying out gold it would have run out of gold and been bankrupt. As it became clear that was what was going on, paper money would have dropped rapidly in value, which is hyperinflation. In order to save the Fed and paper money the US made it illegal to own gold. Given that gold has been money for 5,000 years and the US constitution says the states can only use gold and silver as money outlawing ownership of gold was a desperate measure. So along with hyperinflation in the American Revolution and American Civil War, America came close to hyperinflation in the Great Depression.
The spacing between these periods is similar and about as long as from the Great Depression to the present. This trend would say America is about due for hyperinflation once again.
Most economists seem to use the history of the Ponzi Gold Standard failing to claim that a gold standard does not work. But gold has been money for more than 5,000 years and never failed. Paper money fails all the time. When the Ponzi Gold Standard ran into trouble the US dollar was 60% fiat money and after 1971 it was 100% fiat money. Fiat money fails all the time. Most economists learned the wrong lesson.
A new (to me) but plausible explanation of what caused the deflation that led to the Great Depression.ReplyDelete
What is unclear is WHEN AND TO WHAT EXTENT did the taking back of gold from the Fed happen?
I have read many places that the money supply was contracting (Friedman etc) though they don't usually explain the why. I read that in 1931 the Fed raised interest rates to try to keep other countries from taking gold out so fast. Also, here is Wiki on this:ReplyDelete
"One reason why the Federal Reserve did not act to limit the decline of the money supply was regulation. At that time, the amount of credit the Federal Reserve could issue was limited by laws which required partial gold backing of that credit. By the late 1920s, the Federal Reserve had almost hit the limit of allowable credit that could be backed by the gold in its possession. This credit was in the form of Federal Reserve demand notes. Since a "promise of gold" is not as good as "gold in the hand", during the bank panics a portion of those demand notes were redeemed for Federal Reserve gold. Since the Federal Reserve had hit its limit on allowable credit, any reduction in gold in its vaults had to be accompanied by a greater reduction in credit. On April 5, 1933, President Roosevelt signed Executive Order 6102 making the private ownership of gold certificates, coins and bullion illegal, reducing the pressure on Federal Reserve gold."
It also just makes so much sense.
Yes, it does make sense. Just trying to incorporate it into my understanding of what happened during that time. The extent of paper issued over gold holdings as well as the withdrawals of physical gold should be documented, so that there can be no question about their veracity and effect on the policy makers.ReplyDelete
Also a great historical review about how similar events happed around silver in the 1960's, seeReplyDelete
"Wooden nickels; or, The decline and fall of silver coins.." by William F. Rickenbacker