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Ricardo's Golden Doctrine

There are limits to the price people will pay for merely living in their own nation...

IT IS ALWAYS WISE to look at David Ricardo's doctrine when faced with a new economic situation, writes William Rees-Mogg for The Daily Reckoning Australia.

Ricardo's Principles of Political Economy and Taxation was first published by John Murray in 1817 and remained the classic statement of economic theory for at least a hundred years. Two quotations from the Principles seem particularly relevant at the present time.

The first concerns the difficulties caused by excess debt, if it reaches the point of reducing the future freedom of action of a government:

"If, on the breaking out of any future war, we shall not have very considerably reduced our debt, one of two things must happen, either the whole expense of that war must be defrayed by taxes raised from year to year, or we must, at the end of that war, if not before, submit to a national bankruptcy; not that we shall be unable to bear any large additions to the debt; it would be difficult to set limits to the powers of a great nation; but assuredly there are limits to the price, which in the form of perpetual taxation, individuals will submit to pay for the privilege merely of living in their nation country." (Ricardo, Principles, Ed. Straffa, p.249)

Here in the United Kingdom, Gordon Brown has no intention of embarking on a new war, though he has defense commitments in Afghanistan, but he has failed to foresee that a large deficit makes it more difficult to support future deficits. They will be harder to meet by borrowing and they will result in levels of taxation which will discourage enterprise and possibly lead to migration.

On page 356 there is the statement on which the nineteenth century Gold Standard was based:

"Experience, however, shows that neither a State nor a Bank ever have had the unrestricted power of issuing paper money, without abusing that power; in all States, therefore, the issue of paper money ought to be under some check and control; and none seems so proper for that purpose as that of subjecting the issues of paper money to the obligation of paying their notes, either in gold or bullion."

Under the gold standard, national governments had to regulate the issue of money by the discipline of convertibility into gold. William Stanley Jevons published his book on Money in 1873 – some 58 years after Ricardo. He quotes Daniel Webster's observation about the United States:

"We have suffered more from paper money than from every other cause or calamity. It has killed and caused more injustice than even the arms and artifices of our enemy."

Jevons also observes, in his own right, that the principle objections to "inconvertible paper currency are two in number:

  1. The great temptations which it offers to over issue and consequent depreciation;
  2. The impossibility of varying its importance in accordance with the requirements of trade..."

The essential qualification of an exchange system in classical Ricardian economic theory is therefore one of convertibility. The value of a currency is determined by its relative scarcity, and its relative scarcity is determined by its convertibility at a fixed rate into a fixed commodity; the Victorian economists regarded gold as the most convenient commodity, and the one which had the nearest to a stable rate of production.

There is a growing feeling that the present economic crisis requires a stabilization of national currencies against some sort of world currency. The Chinese Government is interested in a world currency system such as Maynard Keynes advocated at Bretton Woods in 1944. The Russians have called for a partial restoration of a gold based system. Arkady Dvorkovich, the Kremlin's Chief Economic Adviser, has stated that Russia "favors the inclusion of Gold Bullion in the basket-weighting of a new gold currency based on 'Special Drawing Rights' issued by the International Monetary Fund."

Historically, the world has moved in the course of a century from the pre-1914 gold standard, which was a system of classical discipline based on convertibility into gold, through a succession of floating rates, with the ultimate American convertibility into gold broken in 1971. As Jevons observed, an inconvertible floating paper money is in practice extremely liable to over-issue, leading to inflation. In the absence of convertibility at a fixed rate, a currency degenerates into mere paper.

The Russians are the fifth largest gold producer, and are also major oil and gas producers. Naturally, they would like Gold Bullion to play a part in any bundle of assets on which a new world currency might be based. We are in an early stage of a new exchange debate. What is interesting is that the debate has started with big power participation from China and Russia.

Leading political editor William Rees-Mogg (1928-2012) was former editor-in-chief for The Times of London and an independent peer in the House of Lords in Westminster.

Credited with accurately forecasting glasnost and the fall of the Berlin Wall, as well as the 1987 financial crash, Lord Rees-Mogg wrote political commentary in The Times of London each week until his death.

See the full archive of William Rees-Mogg articles.

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