Congressman Ron Paul has created quite a stir this election season. As the lone opponent of the Iraq War among Republican presidential hopefuls, Dr. Paul (an OBGYN by trade) has taken surprisingly libertarian positions for a sitting congressman from Texas. But then again, Ron Paul did run as the Libertarian Party’s candidate for president in 1988.
Nine years earlier, in 1979, Republican Ron Paul was serving his first stint in Congress. That year, he wrote a tract called Gold, Peace, and Prosperity, which advocated a return to a gold-redeemable dollar. Although Dr. Paul was not the only voice in support of gold in ’79, twenty-eight years later he still supports a return to asset-backed currency, and he is making the idea one of the central themes of his 2008 presidential campaign. Is he crazy, or is the rest of the country simply blind to the abuses of fiat money?
The History of Fiat Money – From Kublai Khan to the Fed
In Gold, Peace, and Prosperity, Dr. Paul makes a strong case for the supremacy of asset-backed currency by citing historical evidence, both recent and ancient. For example, he points out that Mongol leader Kublai Khan’s attempt to use a paper currency (in this case, mulberry-tree bark), ultimately led to the expulsion of his armies from China, while the golden bezant of the Byzantine Empire became a globally accepted currency — even the English monarchy kept its accounts in bezants. But once the Byzantine rulers began debasing their coinage with cheap alloys, their empire soon collapsed.
In American history, Dr. Paul cites the paper money printed to fund the Revolutionary War. It’s from this ignominious currency that we derived the phrase, “not worth a Continental” — due to the post-war exchange rate of one thousand Continental dollars per one gold dollar. Then during the Civil War, the North printed unredeemable “greenbacks,” and consumer prices doubled in just four years, 1861 to 1865.
But for the most part, Dr. Paul speaks approvingly of America’s nineteenth-century monetary policies, during which time we had a “functioning gold standard” as well as “classical liberal economic policies and limited government,” which “set the stage for the greatest economic growth in history” (all quotes from Gold, Peace, and Prosperity).
So where did we go wrong? According to Ron Paul, it was the Federal Reserve Act of 1913, and the establishment of its synonymous banking system, that put America on a path that, unless reversed, may ultimately lead to the end of our constitutional republic.
The Federal Reserve System is a government-sanctioned banking monopoly — or, as its critics insinuate, a “cartel.” The Fed regulates its member banks and, to some degree, controls the nation’s money supply. Initially, the Fed operated under the gold standard — dollars could still be redeemed for gold with the U.S. Treasury.
But when World War I broke out just a year later, redemption’s were suspended, and although they were later resumed, in 1934 FDR and Congress passed the Gold Reserve Act, effectively making it illegal to own gold. FDR also revalued the dollar relative to gold, intentionally causing inflation, and finally, in 1971, America was taken off the gold standard altogether.
This marked a new epoch in big government. Previously, so long as the government had to redeem dollars at a fixed rate of gold, it had to be cautious with expansion of the money supply. For example, under a gold standard, the government couldn’t just print $100 billion in new money to fund a war, because if it did, soldiers and defense contractors may wish to redeem their dollars for gold reserves, and the government might not have them. But by going off the gold standard, the limitations on “limited government” were all but removed.
Since 1971, there has been nothing concrete to stop the government and the Fed from expanding the money supply and fueling inflation, and this inflation has eaten away at our savings and eroded the incentive to save— these are the reasons Ron Paul is so adamantly opposed to fiat money and the Federal Reserve.
Ron Paul’s View on the Proper Monetary Role of Government
“There is no law of economics stating that only gold can be used as money in a free society,” noted Dr. Paul in 1979. Still, he believes gold is the best monetary standard because “gold is scarce; it is portable; it is easily divisible; it is desirable for non-monetary purposes; and it is impossible to counterfeit.”
Dr. Paul also cites the affinity the founding fathers had for gold. Thomas Jefferson, for example, said, “[Gold] is the perfect medium because it will preserve its own level; because, having intrinsic and universal value, it can never die in our hands… [Paper money] is liable to be abused, has been, is, and forever will be abused, in every country in which it is permitted.”
Thus, it is Dr. Paul’s belief that the government should do the following:
- Make all current Federal Reserve Notes “100% redeemable in gold as of a fixed date, and at a rate determined by the market price on that date.”
- “End the legal monopoly on banking and allow free entry [into the industry] like any other [industry].”
- “Repeal the legal-tender laws that force people to accept government’s money.”
- “Consider free-market money”; i.e. privately issued money.
To extrapolate, Dr. Paul believes the government should announce a date in the future at which Federal Reserve Notes (the dollars currently in circulation) will become redeemable for the market price of gold at that date. Henceforth, newly issued dollars would have gold backing.
Furthermore, he wishes to see the Federal Reserve System abolished, with banks viewed no differently than shoe stores or sandwich shops in the eyes of the government. These banks would be allowed to issue their own money, backed by their own assets — and individuals and businesses would be free to accept or reject this money based solely on the bank’s reputation in the free market. Individuals and businesses would also be allowed to accept or reject government money on these same bases.
Critics of Ron Paul’s Views
As one might expect, there are plenty of economists who disagree with Dr. Paul’s views, and they come not only from the political Left. In fact, the twentieth century’s principal opponents of socialism and Keynesianism — the monetarists and the supply-siders — both take exception to Dr. Paul’s support for a fixed money supply.
“Even the monetarists endorse sustained inflation, albeit at a lesser rate than is presently the case,” admitted Dr. Paul in 1979. “The best-known monetarist, Dr. Milton Friedman, says the Fed should expand the money supply at three to five percent a year, the actual figure being less important than the absence of fluctuations.”
The emphasis above (which is the author’s, not Dr. Paul’s) indicates another criticism of Ron Paul’s economic views: They may be outdated. Annual inflation was as high as 15% in the late seventies and early eighties, but it has averaged less than 5% in twenty-three of the last twenty-four years, and averaged less than 3% for the bulk of that time.
As Keynesian bankers have been replaced by “rational expectations” thinkers at the Fed, it now seems a little excessive to consider inflation “the greatest threat facing middle- and working-class Americans” or to suggest “there is probably little future for the dollar and dollar-denominated assets,” as Dr. Paul did in 1979.
This is how Alan Greenspan, a former gold advocate himself, answered Dr. Paul in 2005 congressional testimony: “Would there be any advantage, at this particular stage, in going back to the gold standard?… I don’t think so… Would it have been a question at least open in 1981, as you put it? … Yes. Remember, the gold price was $800 an ounce. We were dealing with extraordinary imbalances, interest rates were up sharply, and the system looked to be highly unstable — and we needed to do something.”
“Now, we did something… Paul Volcker, as you may recall, in 1979 came into office and put a very severe clamp on the expansion of credit, and that led to a long sequence of events here, which we are benefiting from up to this date. So I think central banking … has learned the dangers of fiat money,” said Greenspan.
And of course, supply-siders take issue with Dr. Paul’s assertion that “no additional utility can be derived from additions to the money quantity.” They say that expanding the money supply creates incentive to work for that money, and so long as adequate goods and services are produced to soak up the new liquidity, then economic growth is real. Most investors over the past twenty-five years would be hard-pressed to disagree.
What is the Individual Investor To Do?
The good news is there are no longer draconian laws on the books prohibiting private ownership of gold, silver or any other commodity. If Dr. Paul is right in his insistence the Federal Reserve-backed fiat-money system is ultimately doomed, then individuals can protect themselves against this potential calamity by converting their Fed Notes into gold and silver.
As a Swiss goldbug who gave one gold coin to his wife each week was quoted in Gold, Peace, and Prosperity: “If something happens to me, and to the bank and all the governments, [my wife] can go into the countryside and give [the gold coin] to a farmer, and with that coin [she] can eat for a week.”
This is ultimately the value of gold and silver: It has always been seen as real money, regardless of what governments say. Only hard assets can provide a hedge against catastrophe. And, that’s why it’s always wise to keep a portion of your portfolio in gold and/or silver.