Forbes: Ben Bernanke’s Paper Dollar Embodies Systemic Risk

Fed Chairman Ben Bernanke

Charles Kadlec, Contributor
I cover economic/political issues with liberty as my polar star.
OP/ED|4/02/2012 @ 2:40PM |3,210 views

By Charles Kadlec

The paper dollar is now the single most important source of systemic risk to the financial system, the world economy, and the security of the American people.

That is the lesson of the past 100 years that Federal Reserve Chairman Ben Bernanke did not teach during his four lectures atGeorgeWashingtonUniversity’s Graduate School of Business. Instead, he celebrated the importance of the extraordinary powers he and his fellow governors have to manipulate interest rates and the value of the dollar in the name of economic growth and stability.

In so doing, he ignored completely that the ever growing need for heroic interventions by the Fed is itself being created by the paper dollar system he celebrates.

This failure is all the more telling because Mr. Bernanke states up front that central banks perform two critical functions: The first is to “achieve macroeconomic stability.” By that, he generally means “stable growth in the economy, avoiding big swings, recessions and the like, and keeping inflation low and stable.” The second is to provide “financial stability” by either trying to prevent or mitigate financial panics or financial crises.

On both counts, the paper dollar system in effect since the final link between the dollar and gold was broken in 1971 has failed and failed miserably when compared to the results produced under the gold standard.

Let’s begin by stipulating that we agree with Chairman Bernanke’s point that the gold standard is not a perfect monetary system. What is?

The more important question is which system, the gold standard or the paper dollar, provides more macroeconomic stability and fewer financial crises.

To answer this question, let’s examine the historic record beginning with the most difficult example, the Great Depression, which supporters of the paper dollar invoke to discredit the gold standard and thereby avoid defending the abysmal record of the paper dollar.

As Professor Brian Domitrovic pointed out in his recent column, the officials running the Federal Reserve in the critical period between 1928 and 1933 chose to ignore the rules of the gold standard, which would have forced them to increase the money supply in response to inflows of gold. Instead, the Fed exercised discretion and tightened, thereby making the deflation of the early 1930s worse that it otherwise would have been. Explains Domitrovic:

“Rather, as (Richard H.) Timberlake has shown, we know what guided Fed thinking in this period, and this was the doctrine that the Fed would refrain from issuing money unless it clearly would go to financing end-point economic transactions, as opposed to things like stock-market speculation and even investment. Whatever you want to say about this doctrine, it has zip to do with the gold standard. And it was at the root of the Fed’s weird decision-making 1928-33 where it presided over a radical narrowing of the money supply.”

What about the claim that, while the gold standard maintains a stable price level over longer periods of time, in the words of Chairman Bernanke: “over shorter periods, maybe 5 or 10 years, you can actually have a lot of inflation, rising prices, or deflation, falling prices.”

Continued on Pg. 2


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