Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2018 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.

Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
Let's go back to good old gold - Outside View by S.S. TARAPORE
  • MyStocks


Login Failure
(Please do not use this option on a public machine)
  Sign Up | Forgot Password?  

Let's go back to good old gold
Nov 29, 2013

With the advent of World War I, the international community went off the gold standard. While the US kept some sort of gold standard, the world had a link to the US dollar. With President Nixon breaking the link between the dollar and gold in August 1971, there was a total delinking of currencies from gold.

A small band of dedicated advocates of gold has continued to persevere in their attempt to restore the gold standard. Following Keynes' celebrated statement that gold is a barbaric relic, the bulk of central bankers, government officials, politicians and economists dismiss, outright, the gold standard. The minority still committed to gold carry the cross, as the insecure majority hurls insults, calling gold advocates atavistic cranks and madmen.

Unbridled Currency

In the last 100 years, there has been unbridled recourse to fiat currency. This column draws heavily on a benchmark address by Lewis E. Lehrman on "The Federal Reserve and the Dollar" at the 31st Annual Monetary Conference at the Cato Institute, Washington DC.,US (November 14, 2013).

Lehrman quotes Keynes in "Indian Currency and Finance", to say that whether a central bank holds its reserves in gold or in foreign exchange "is a matter of comparative indifference ...India, in her Gold-Exchange Standard... far from being anomalous, is in the forefront of monetary progress ...(heading towards) "the ideal currency of the future". What glory for India!

French economist and adviser to the French Government Jacques Rueff pointed out that when a monetary authority accepts dollar claims for its official reserves, instead of settling its balance of payments deficit in gold, purchasing power is duplicated. For example, the US market is in a position to buy in Europe and in the US at the same time, causing asset or price inflation. Rueff inspired two vital restorations of franc convertibility to gold in 1926 and 1959 even as Great Britain failed in 1926 and the US in 1971. Rueff's success was due to his being a gifted monetary economist as also a successful practitioner.

Rueff believed that no central bank can determine the quantity of money in circulation; this contrasts with the dominant view that the quantity of money and credit in circulation, the level of interest rates, economic growth, the level of employment and the rate of interest can be co-ordinated at optimum levels by the central bank credit policy.

If the central bank's goal is to avoid sustained inflation or deflation, then the target should be to influence the supply of cash to the economy to equal the level of desired cash balances.

To attain this, the central bank has to abandon hyperactive open market operations and activate the discount rate. The central bank should set the discount rate above the market rate when the price level is rising. (Monetary policymakers in India would do well to take note of this.)

The global approach to the 2008 financial crisis has been to resort to unbridled pump priming. It is amazing how much support there is for pump priming in both the industrial and emerging market economies. The view is that sooner or later there will be green shoots of economic growth and employment. The strong possibility of an international financial crash of unprecedented intensity is summarily dismissed.

Way Out of crisis

Lehrman's way out of the crisis is to avail of the historic regime tested for centuries in the market place, namely, the classical gold standard. The opposition to the gold standard is that it is too costly in economic and social terms, estimated at 2.5 per cent of output.

Professor Lawrence White has calculated that the cost is as small as 0.05 per cent of output. Lehrman argues that the classical true gold standard is the least imperfect monetary regime and the restoration of the true gold standard will foster rapid growth, world trade and investment.

Professor Alan Meltzer, an arch critic of the gold standard, says "I don't say it is wrong. I say it is possible. I mean it is a plausible system. There are a lot of things that are better than our fiat system" (See Ralph Benko, The Gold Standard Now, November 19, 2013).

A number of countries have a very high proportion of gold reserves and some others are slowly, but surely, increasing the proportion. The longer unbridled fiat currency expansion continues, the greater will be the incentive to move to gold. Opponents of gold highlight that central banks have lost $545 billion since 2011 because of falling gold prices, but nobody calculates how much more central banks have lost in real terms because of the loss in value of reserve currencies.

RBI's strategy

In India, gold accounts for 7.5 per cent of total reserves. In the context of the extremely uncertain global currency environment, there is an imperative need for a proactive gold reserves policy.

The US dollar moves inversely with gold and with other reserve currencies. As such, the best loss minimisation strategy would be to deploy one-third of the reserves in gold and one-third each in dollars and non-dollar currencies.

As a first step, the RBI should undertake small purchases of gold, taking into account swings in prices. There is a strong anti-gold reserves lobby in India. Would this lobby prefer to hold a part of the reserves in onions!

Given the uncertain global currency environment, there is an imperative need for a proactive gold reserves policy.

Please Note: This article was first published in The Hindu Business Line on November 29, 2013.

This column, Maverick View is authored by Savak Sohrab Tarapore. Mr. Tarapore, is an economist and he runs his own Multi-Language Syndicated Column. Mr. Tarapore's other column, which appears in The Freepress Journal, is titled Common Voice.


The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

Equitymaster requests your view! Post a comment on "Let's go back to good old gold". Click here!


More Views on News

What They Forgot to Tell You About Sensex at One Lakh (Smart Contrarian)

Nov 29, 2017

Stocks that could beat Sensex returns in the long term.

How to Ride Alongside India's Best Fund Managers (The 5 Minute Wrapup)

Jun 10, 2017

Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.

Venezuela's Own Crypto Currency: Smart or a Sham? (Outside View)

Feb 21, 2018

The South American nation of Venezuela just launched its own cryptocurrency. Is this the beginning of a revolution? Read on to find out more...

Safe Stock Ideas for You from Monday to Friday (The 5 Minute Wrapup)

Feb 21, 2018

The 5 Minute WrapUp will now come to you every weekday.

Narrow Banking: Public Sector Banks Should Not Be Lending to Corporates (Vivek Kaul's Diary)

Feb 21, 2018

Corporate bad loans constituted nearly 70% of the total bad loans of public sector banks in India, in 2016-2017.

More Views on News

Most Popular

The Foundation for Sensex 100,000 is Laid(The 5 Minute Wrapup)

Feb 17, 2018

Top three reasons for Tanushree's presentation at Equitymaster Conference to be centered around a possible 30% correction.

The Era of Easy Money is Coming to an End. What Happens Now?(Vivek Kaul's Diary)

Feb 9, 2018

The easy money policy of the Federal Reserve of the United States, which drove up stock markets all over the world, is ending, with the Federal Reserve looking to shrink its balance sheet.

The Markets Want Your Money. Don't Give It to Them.(Smart Contrarian)

Feb 9, 2018

MFs are having a gala time taking money from over-eager investors and funneling it into equities. Smart investors, though, know better than to do that.

The Big Gamble(The Honest Truth)

Feb 15, 2018

Once you accept the fact that elections are round the corner and that this budget is geared to reach a 40% target, everything makes sense.

NPAs Set to Rise Further with New RBI Rules(Chart Of The Day)

Feb 15, 2018

The RBI overhauls bad loan framework. Banks may come under additional pressure due to rising NPAs and increased provisioning.


Small Investments
BIG Returns

Zero To Millions Guide 2018
Get our special report, Zero To Millions
(2018 Edition) Now!
We will never sell or rent your email id.
Please read our Terms


Feb 21, 2018 (Close)