Gold Standard Man on Money

How the 1920s' Gold Standards worked, by E.Kemmerer...

THERE aren't a lot of good books about the gold standard – the monetary system of the world until 1971 – after WWI, writes Nathan Lewis at New World Economics.

There aren't a lot before WWI either, but it starts to get pretty bad after 1920.

Ralph Hawtrey's books have some merits, but they also have too many errors to serve as a definitive source. Gold and the Gold Standard: The Story of Gold Money, Past, Present and Future (1944) is something of an exception to this pattern.

Edwin Walter Kemmerer was a professor at Princeton. He was born in 1875, and in 1903 was appointed Financial Advisor to the US Philippine Commission. In this role, he set up the Philippines' "gold exchange standard", which was essentially a currency board with the US Dollar although it also had direct gold convertibility. This was done in 1905.

In 1917-1924, he was a financial advisor (helping set up new central banks and gold standard systems in the floating currency aftermath of WWI) in Mexico, Guatemala and Colombia. In 1924-25, he helped set up a gold standard system for South Africa. In 1925, he was part of the Dawes Committee, which helped re-establish the gold Reichsmark in Germany (replacing the Rentenmark of 1923). In 1925-31, he helped re-establish gold standard systems in Chile, Poland, Ecuador, Bolivia, China, Colombia, and Peru.

We have here not the usual professor type who simply parrots something he heard once in a class – rather, a real expert who created effective and functional systems in the real world. He had another book, called Money (1937).

It is a brief book. I liked this passage (p. 218):

"The third function that convertibility performs is fundamentally the most important one. It is the function of maintaining the gold parity of the monetary unit by continually adjusting the currency supply to the changing currency demand. In this connection, a nation's gold reserve functions as a buffer fund or, as it is sometimes called in Spanish, a lunda reguladora. The process may be briefly described as follows.

"When, under a normally functioning international gold standard, the supply of currency in any country becomes excessive relative to the demand, as compared with other countries, money becomes cheap at home relative to abroad, prices of commodities and of securities tend upward, the exchange rates move toward the gold-export point, and, when that point is reached, gold is sufficiently more valuable abroad than at home to make its exportation profitable. The exportation of gold is an evidence that, under existing conditions of business, there is a relative redundancy of currency circulation at home. Since local paper money and fiduciary coins have almost no international market, the redundant currency is drained off largely in the form of gold exports. These exports are continued until the exchange rate falls below the gold-export. point and the currency·supply is 'reduced to a quantity that places the price level of a country more nearly in equilibrium with the price levels of other countries; or, in other words, until the reduction of the country's money supply has made the monetary unit so valuable at home that further exportation of gold becomes unprofitable.

"Under conditions of such currency redundancy and resulting gold exportation, the central banks must always be in a position to give out gold freely for exportation, as long as it is required, to relieve the country of its relatively redundant currency and to force exchange rates below the gold-export point, thereby bringing the country's price level and discount rates back more nearly into equilibrium with those of the rest of the world.

"Obviously, a country's normal gold reserve should be sufficient to provide for the absorption, through redemption in gold of any currency in circulation that may be rendered excessive by the usual fluctuations in business. In addition, it should be large enough to afford a reasonable margin of safety for extraordinary emergencies."

Here, he dismisses the idea that there was some kind of "balance of payments imbalance" causing gold outflows (p.214):

"On this subject there has been much confusion growing out of the popular notion that gold moves in international trade only 'to pay balances'. As a matter of fact, gold moves for the same fundamental reason that any other commodity moves – to seek the best market. It goes abroad whenever it is worth abroad more than it is worth at home, by a sufficient margin to yield an attractive profit after paying all the expenses of its exportation. Its importation from abroad is merely the other side of the same shield."

Mostly, books about the gold standard are a wasteland of error and fallacy. This is something of an exception, and stands on its own. Certainly, if you want to know anything about the so-called "gold exchange standards" of the 1920s, you might want to listen to the man who created them.