What is Value: Reflections on the Gold Standard

I’ve always wondered about how we decide the value of things. An example that makes the issue very confusing is the case of black pearls. I think it pretty well shows that goods and services do not have “inherent” value.

Perhaps we can understand this better if we look at a more practical concrete example: the gold standard. If the conversion rate between dollars and black pearls is arbitrary, why should we revert to a system where the exchange rate between dollars and gold is fixed? If I understand the gold standard correctly, this is exactly what we’d be doing. This question is particularly apropos nowadays, since Dr. Ron Paul, a proponent of the gold standard, has been selected to chair the Monetary Policy subcommittee of the House.

I’m not really sure why an odd colored metal is better than paper with peculiar ink stains at keeping track of wealth, value, or whatever. If gold had the same value to all people at all times, I think some proxy for it would be a good medium of exchange; however, I don’t think gold has this property, because there was a time when a pound of gold traded for a pound of salt. Today, an ounce of gold is worth 2,900 times as many dollars as an ounce of salt.

Another problem with gold is that it doesn’t track the growth of the economy. There are various ways we can create more value, and most of those ways do not lead to more gold being stored in government warehouses. The reason economic growth is not linked to the amount of gold we have is simple: value is not a resource that we mine out of the ground.

One cause of economic growth is new technology. For example, if we didn’t know about crop rotation last year, but discovered it this year, we could reduce the number of people who go hungry without increasing the amount of water, fertilizer, or work that we put into the fields. Even though crop rotation would make us better off, it would not have a necessary causal impact on the amount of gold that the governments of the worlds have on hand.

I’m sure there are more sophisticated arguments for the gold standard that I don’t know about, but it seems to make fundamental assumptions that can’t be true. The most fundamental problem is that the value of things varies with time and place, and as in the case of black pearls, it can be manipulated with good marketing.

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3 Responses to What is Value: Reflections on the Gold Standard

  1. Arka says:

    I think there are two major arguments for the gold standard:

    – It is more difficult for a government to inflate a gold-based money supply, since gold cannot be manufactured (yet), only mined.
    – Gold has a fundamental value (it can be used in non-currency applications, esp. in electronics). For all practical purposes, the secondary uses of paper money are a strict subset of the secondary uses of paper. Even though the value of gold may fluctuate relative to other things of value, it is less likely to go to the extremes that paper money can and has.

    In theory, since tying the currency to gold makes it more difficult for a government to produce inflation to political ends, a gold standard currency will be less risky. In practice, there are still various currency shocks possible (the classic example is the development of the silver deposits covering the American continents, and the impact it had on the Spanish economy of the 16th century). Whether you think the benefits of more government power over currency outweigh the potential for that power to be misused depends on your general political philosophy; of course, I recall you being a fan of Krugman, so it seems safe to bet that you do. :-)

    One of the points of having a Federal Reserve which is not actually part of the federal government is creating a different kind of hedge against this political misuse. It doesn’t seem to me to have been terribly successful, but I don’t have sufficient expertise to be confident in that opinion.

    You have an interesting point about gold not tracking the value of the economy, but you don’t really elaborate on why that’s a bad thing. The only reason I can think of is that it tends to cause deflation (it requires disproportionate value to pay back a loan) and encourage the hoarding of cash as opposed to other assets. I’m not sure this is universally as bad a thing as you seem to suggest. Am I missing other implications?

    Also, it’s unrelated to everything but I can’t resist asking: why doesn’t your blog allow the use of (li) and (ul)/(ol) tags?

    • allyourcode says:

      Those are some good points. Believe it or not, it’s taken me this long to reply, because I started going off an anti-libertarian rant, but decided it wasn’t worth it.

      Anyway, to address your points, the gold standard would have prevented Zimbabwe from inflating away the value of its own currency, but most governments aren’t stupid enough to do this. I don’t think one needs to be as liberal as me to agree on this. Anyway, the most telling part is the way they solved their problem: by switching to the US dollar. I believe Zimbabwe’s uber inflation is the exception that proves the rule.

      I’ll grant that gold differs from fiat money in that it can be used to make stuff like jewelry and electronics, but gold is hardly unique in this regard; moreover, gold is an arbitrary choice. We could just as well settle on black pearls or wampum.

      I would, however, have to contest your notion that paper money does not have uses beyond those of ordinary paper. You can keep track of the total amount of paper money in the world, because it’s difficult to counterfeit; whereas, this is impossible with ordinary paper. This particular property of paper money can and is exploited, which means it can be useful, if we let it.

      As for why it’s bad that gold does not track the value in the economy, I believe the fundamental purpose of money is to keep track of how much value I’ve created; whereas, in the gold standard, money represents something completely different: the amount of gold in government reserves. Once people realize the value they are creating isn’t being accounted for by the money they’re receiving in exchange for their work, they won’t go on accepting payment in money. I’m not sure what they would accept instead, but I’m sure it wouldn’t be pretty; imagine employers trying to pay people in furniture, groceries, iPods, etc.

      You bring up another good point about the problem with gold. Suppose we figure out how to easily manufacture it. Then, we’d have to switch to something else that’s not easily manufactured. But, money already has this property, so why not just go with that?

      re tags: That’s very unfortunate, but you’ll have to take it up with WordPress.

  2. allyourcode says:

    I just found a nice, brief history of the (demise of the) Gold Standard on NPR. Apparently, most economists think that ditching the Gold Standard helped the world get out of the Great Depression:

    http://www.npr.org/blogs/money/2011/02/18/133874462/the-friday-podcast-gold-standard-r-i-p

    It also occurred to me that the Gold Standard seems to run against Libertarian philosophy, because the government is deciding the value of gold (or currency) instead of the market. I’m not sure how Ron Paul reconciles this in his twisted mind, but Libertarianism doesn’t make much sense to me in the first place.

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