By Doug Gentry, on November 11th, 2010
The price of gold has gone over $1,400 an ounce recently. In addition to the raft of stories and questions about investing in gold, I get questions about whether we should return to the gold standard. Blogger confession – I’m going to use the opportunity to organize my own thoughts on the issue.
The quick answer comes from John Maynard Keynes (written in 1924) “In truth, the gold standard is already a barbarous relic.” I lack Keynes’ vivid parsimony, so it will take many more words for me to explain why I agree with him.
First, a general definition. When we talk about monetary policy and the gold standard we mean that a country promises to keep a stable relationship between gold and the country’s currency. This often has two consequences. First, the country needs to hold/own enough gold in proportion to the money in circulation. This proportion need not be 100%. During the period between World War I and the Great Depression economically healthy countries had enough gold to represent about 40% of the currency in circulation. Whatever the proportion, a country on the gold standard is obliged to ease or constrain credit to keep the value of currency in circulation in line with gold reserves. No gold – no economic growth.
The second consequence is that the government often needs to promise to redeem its currency for gold, at a price within an established range. This promise reinforces the government’s commitment to a stable currency value.
Many (most?) industrial governments sought to stay on the gold standard during the first half of the 20th century. The three major exceptions were during the two world wars and during the Great Depression. The wartime pressures on government spending usually required the creation of more money and easier credit. and governments had to set aside the promises inherent in the gold standard. The Depression had similar and additional pressures. Towards the end of WWII the Allies met and agreed on a stable international currency system, focused on the U.S. dollar, with the U.S. government also committing to maintaining a stable relationship, in terms of value, between the dollar and gold. This agreement lasted from 1944 until 1973. Since 1973 the U.S. currency, and most other first world currencies have floated in value and are not linked to gold.
One interesting conclusion reached by researchers, including Ben Bernanke when he was an academic, was that nations that stayed on the gold standard longer in the early part of the Depression had slower recoveries. Those nations that abandoned the constraints of the gold standard recovered more quickly.
Gold bugs are people who advocate for a return to the gold standard. Actually, originally (and more correctly) the term referred to investors who were bullish on gold. They prefer that money creation by the central bank (Federal Reserve in the case of the United States) be limited to the amount of gold reserves held by the country. They also prefer the implicit global currency exchange stability that could occur if our trading partners were also on the gold standard. Sticking with gold would constrain economic growth – limited by the discovery and availability of this precious metal.
Their faith in the gold standard is misplaced. There are numerous times when central bankers, with the support of their governments, have abandoned the standard under stressful conditions. The strength of a limited standard is based on everyone believing that the standard will prevail permanently. Unfortunately, political history doesn’t give us any confidence that we could stick to a standard indefinitely, and the markets and businesses will be quick to spot any weakening in resolve. Once that happens, a spiral of inflation expectations, accompanied by reduced investments, will cripple economies.
To grossly over-simplify Keynes’ objections to the gold standard – he wanted governments to have flexibility to react to adverse economic conditions, easing or tightening credit, influencing the value of their currency, and building or reducing debt. He argued that temporary fixes were necessary, and that remedial action after the crisis was also necessary. Strict adherence to a gold standard removes the flexibility he wanted.
There are dangers in letting a central bank print/create money with abandon; this invites dangerous inflation. It is crucial that central bankers have a plan in place to reduce the money supply when the economic crisis is over, and to do it in a way that allows the economy to anticipate and adjust. Adopting a gold standard doesn’t automatically make central bankers and politicians wise. It is a flimsy framework and no replacement for thoughtful monetary policy.
By Christopher Briem, on November 11th, 2010
There is bit of debate inside the fence over whether the pension/parking imbroglio would hit the city’s credit rating. Seems that the city is issuing some new bonds in the midst of the tempest and overall there is not a hit on the ratings of new or old debt for the time being. See: Fitch Rates Pittsburgh, PA’s GOs ‘A’; Outlook Stable.
So Fitch is generally unconcerned with the situation here, although these are folks who have had curious Pittsburgh-logic in the past.
I learn something new everyday.. I had never heard this term before,but the parking lease we have been considering is apparently called a brownfield parking concession.
Speaking of bonds…. it is actually big news that bond insurer Ambac has filed for bankruptcy. Anyone want to poke at what public debt locally is insured by Ambac.. also a bit interesting if you poke at who Ambac itself owes money to.
and while were looking that up, what do we see? Looks like the city school district has a big bond issuance going out the door. Looks like a refi from 2002 debt. Which brings to mind a real basic point that interest rates are low and it really is an historically good time to be issuing bonds if you have the capacity and the credit ratings to justify it.
and finally… on the topic of who might not have the capacity to refi debt. Bloomberg has a great tutorial and update on how screwed up municipal finance world was for a time. Wall Street Collects $4 Billion From Taxpayers as Swaps Backfire. Swaps being among those things that almost did the PWSA in last year. I wonder what is up with the whole deal that brought that situation under control because there is a recent debt downgrade hanging out there that might have consequences for all that.. but who is noticing?
By B.P.T., on November 11th, 2010
Since Ben Bernanke announced the latest round of quantitative easing last week, there have been several pieces of positive economic news released, showing that the economy is continuing to improve. Jobless claims are down, energy demand is rising, consumer spending is improving, the housing market is showing signs of life, and import and export prices rose more than expected. This data continues the positive trends in many components of the economy that have been in place for several months.
Given all of this information, why does the Federal Reserve think that even more stimulus is needed? It seems that moderate inflation would return as asset prices continue to recover and people find jobs that allow them to spend again, and this poorly timed influx of cash will just add too much fuel to the fire, and lead to spiraling inflation.
Only time will tell, but it looks like now is the time to stock up on commodities, real estate and other hard assets.
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By Christopher Briem, on November 10th, 2010
I already mentioned the big news that Chevron is buying Atlas energy for the Marcellus play.
But this has all gone to a new level with no less than Foreign Policy publishing this piece: Why does big oil suddenly love Pennsylvania.
Forbes has a look at some of the new billionaires being made out of Marcellus investments… I don’t notice any Pennsylvanians.
There is this. A new report says there will be a glut in natural gas for the next decade, followed by a ‘golden age’ later on.
So why are we rushing so fast to develop as much shale gas in Pennsylvania now when prices are so low, leaving that much less for when demand and prices go up. One thing for sure is that natural gas as a declining pressure curve. You get the most gas out soon after you drill. A recent overview of the pressure curve issues is in this: Marcellus Shale Decline Analysis. Looks like a college paper, but not bad and covers the basics pretty well.
Someone should do how much Pennsylvanians are losing by developing the gas at such low prices compared to what they would get if the gas was produced at prices as projected. I also wonder if a slower pace of development would allow more Pennsylvanians to be hired and trained to work on these projects.
Anyway… you will know when the Marcellus stuff has escalated to a new level when we get new direct flights to the Middle East just as Houston just added.
By Christopher Briem, on November 10th, 2010
For those watching what is up with City Council today and a proposed ban on gas drilling in the city (also being live tweeted by Bob Mayo). Nothing new, but a map of where we have found recent oil and gas leasing within city limits is online here fyi. Not much, but some and mostly concentrated in a few neighborhoods. I am a bit curious by all the attention of late. I think some firms wanted to come in and do this, but for the time being have already been dissuaded by the political push back. When I first noticed commerical interest in drilling within city limits, there was not much notice. I guess nobody really thought it was for real. I still am a bit surprised a couple firms were trying to aggregate parcels in Lawrenceville which just has such tiny parcel sizes.
There is a picture out there somewhere of a natural gas derrick right in the middle of East Liberty during the great natural gas binge a century ago. I can’t find it at the moment.. anyone know what I am referring to and have a source?
By B.P.T., on November 10th, 2010
The Mortgage Bankers’ Association purchase index was released at 7:00 AM EST, and there was a week to week increase of 5.5% in the Purchase Index and a week to week increase of 6.0% in the Refinance Index as interest rates remain near record lows.
At 8:30 AM EST, the U.S. government will release its weekly Jobless Claims report. The consensus is that there were 450,000 new jobless claims last week, which would would be 7,000 less than the number released last week.
Also at 8:30 AM EST, the Import and Export Prices index for October will be released, providing some data that can be used to monitor the threat of inflation.
Also at 8:30 AM EST, the International Trade report for September will be released. The consensus is a deficit of $45 billion, which would be a decrease of $1.3 billion from August.
At 10:30 AM EST, the weekly Energy Information Administration Natural Gas Report will be released, giving an update on natural gas inventories in the United States.
At 11:00 AM EST, the weekly Energy Information Administration Petroleum Status Report will be released, giving investors an update on oil inventories in the United States.
At 2:00 PM EST, the Treasury budget for October will be released. The consensus is a deficit of $148 billion, which is larger than the historical average, but less than last September.
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By Ajay Shah, on November 9th, 2010
The resource curse
For many years, economists have been puzzled at the way things have gone wrong in countries where natural resources were discovered. In 1993, the economist Richard M. Auty coined the phrase `Resource curse’ to convey the extent to which natural resource finds are a curse and not a blessing. But the idea had been kicking around well before that. I suppose it was an obvious conjecture after watching the failures of the Middle East, where trillions of dollars of oil revenues were squandered by not one but many countries.
In the 1970s, when oil was discovered in Venezuela, former Oil Minister and OPEC co-founder Juan Pablo Perez Alfonzo said: “Ten years from now, 20 years from now, you will see, oil will bring us ruin.” His phrase for oil was: “the devil’s excrement.”Why are resources a curse? In a country blessed with no natural resources (think Japan), the only way forward for the ruling elite is the slow hard work of building public goods, so that GDP builds up, which then feeds back into the power and importance and utility of the ruling elite. When the ruling elite gets their wealth for free, without having to do the hard work of building public goods and thus GDP of the country, the rulers emphasise the wrong issues. That’s how Venezuela ended up with Hugo Chavez. On one hand, rulers get focused on finding ways to maximise their rent from the underlying resource flow, without developing the knowledge about how to build a State that delivers public goods. In parallel, competition between politicians becomes an unpleasant process of trying to grab the riches by means fair or foul, rather than a process of competing in doing better on public goods. If there are XX billion dollars to be grabbed by becoming head of state, fairly unpleasant tactics get used by rivals aiming for that job.
Bombay’s resource curse
I just read Maharashtra’s Audacious Chief Ministers by Ashok Malik and it is a chilling story. It made me think: Why did governance in Bombay go wrong so comprehensively? Maybe the story runs like this. Winning elections in Maharashtra does not require serving the citizens of Bombay. A party can do various things in trying to win seats in the legislature across Maharashtra. Once this is done, the ruling party gets the rents that come from control of Bombay. The wealth and prosperity of Bombay is like an oil well which is
gushing out cash for the ruling party in Maharashtra. They did not earn it. The slow, long, hard work of learning how to run a State,
of building public goods: these things do not matter for the ruling party in Maharashtra. They get a rental cashflow from Bombay for free.
In (say) Jaipur, the Chief Minister and his ilk do not have an oil well gushing cash at them. Their incentives are to worry about public goods, and grow the GDP of Rajasthan. The importance and rental cashflow of the leadership in Rajasthan are primarily about the GDP of Rajasthan. Their hard work in improving public goods in Rajasthan feeds back to them as a higher rental cashflow. People often compare the problems with Bombay with the decline of Calcutta after the Left took charge. The two stories are similar in that parties which won rural votes got to run a great city into the ground. But the Left did not take rents from Calcutta on this scale. That was an age where the GDP of Calcutta, while impressive by Indian standards, was still small change. Bombay of the last 20 years is in a different league altogether. This connects with the middle income trap meme: when capitalism first bloomed in India, some governance problems got worse and not better. ImplicationsI think this suggests that the right to govern a prosperous city should not be based on elections taking place somewhere else. If Bombay were a full fledged state, as Delhi is and as the four
big cities of China are, then elections to control Bombay would require persuading voters in Bombay.
 
By B.P.T., on November 9th, 2010
At 7:45 AM EDT, the weekly ICSC-Goldman Store Sales report will be released, giving an update on the health of the consumer through this analysis of retail sales.
At 8:55 AM EDT, the weekly Redbook report will be released, giving us more information about consumer spending.
At 10:00 AM EDT, the Wholesale Trade report will be released for September, showing inventory levels for wholesalers in the United States.
By Winton Bates, on November 8th, 2010
Is New Zealand disadvantaged by economic geography to such an extent that it cannot hope to catch up to Australia’s average income levels, even with further improvements in institutions and policies? That is probably the most important question considered in the second report of the 2025 Taskforce that was released a few days ago.
The 2025 Taskforce was set up by the New Zealand government after the 2008 election to recommend how the gap between average incomes in Australia and New Zealand could be closed. Incomes of New Zealanders have generally risen less rapidly than those of Australians over the last 40 years, resulting in a gap between average incomes of around 35 percent in recent years. After the 2008 election, the NZ government committed to closing this income gap by 2025.
Since the Taskforce presented its first report last year, Philip McCann – an economist with expertise in economic geography – has advanced the view that New Zealand’s geographical disadvantages prevent it from becoming a high productivity economy. McCann has implied that structural features that are advantageous in the current era of globalization differ so much from those exhibited by New Zealand that this economy could not reasonably be expected to have relatively high productivity. He suggests ‘this is true irrespective of the degree of flexibility in the domestic labour market, the degree of transparency in the local institutional environment, or the levels of cultural aspirations for success’ (‘Economic geography, globalisation, and New Zealand’s productivity paradox’, New Zealand Economic Papers, Dec. 2009: 299).
The particular aspect of geography that McCann considers to be most disadvantageous to New Zealand is its relative lack of agglomeration economies associated with large cities. These agglomeration economies arise from knowledge exchanges, better networking and coordination, a nursery role for new enterprises, improved labour market matching processes and greater competition.
McCann argues that agglomeration economies can explain the decline in New Zealand’s per capita incomes relative to Australia because of the way the world has changed. One strand of the argument has to do with the increasing importance of knowledge-intensive activities that can often be undertaken at lower cost where face to face contact is possible among the various participants. Another strand is that with closer economic integration between Australia and New Zealand the economy with relatively larger agglomeration economies, i.e. Australia, has become a relatively more attractive location for capital investment and employment of highly skilled workers.
McCann sums up: ‘ … although New Zealand underwent fundamental institutional reforms in the 1980s and 1990s, at exactly the same time as this was taking place the landscape of global economic geography was shifting in favour of other places. It may well be that the deregulatory reforms limited some of the most adverse aspects of these shifts, thereby minimising the productivity gap. Yet the point still remains that the world changed, and the world of the late 20th and early 21st centuries is very different from the world that provided New Zealand with almost a century and a half of productivity advantages’ (p. 300).
 How does the Taskforce respond? The Taskforce acknowledges that both New Zealand and Australia have been disadvantaged by geography. It notes that according to recent OECD research the impact of greater distance to markets is equal to around 10 percent of GDP per capita for both countries. However, it judges the evidence in support of the view that New Zealand’s small population limits the potential to obtain agglomeration effects to be weak. In particular, Auckland’s position within the regional hierarchy of Australasian cities is not declining – the population of Auckland has been growing faster than the populations of Sydney and Melbourne. The Taskforce also points out that there is no evidence that New Zealand suffered an adverse shock from globalization during the 1980s; that migration from New Zealand to Australia is disproportionately of highly skilled workers as agglomeration theory implies; or that the relative performance of small countries has declined in the past 20 years.
The Taskforce concludes: ‘… modern growth theory provides stronger support for the importance of institutions and policy than it does for geography, especially in the deterministic interpretations of economic geography’ (p. 41).
Sitting in Australia, current concerns in public policy discussions about the emergence of a two-speed economy in this country make the agglomeration theory of relative decline in New Zealand’s economic performance seem rather odd. Rather than a concern that agglomerations centred on Sydney and Melbourne are leaving the rest of Australia behind, the main concern is that New South Wales and Victoria (along with other states) are being left behind as economic growth steams ahead in Western Australia and Queensland, as a result of rapid expansion of the minerals sector and related industries. There is also reason for concern that, over an extended period, the particularly poor performance of the New South Wales government has detracted from the substantial location advantages that Sydney should enjoy.
If we reject the idea that Australia’s alleged agglomeration advantages make it impossible for New Zealand to close the income gap, where does that leave us in terms of explaining New Zealand’s relatively poor economic performance? The Taskforce pours cold water – correctly in my view – on another geographical explanation, namely Australia’s good luck in having plentiful supplies of mineral resources to export to rapidly growing markets in China and India. It is only in the last few years movements in Australia’s terms of trade have been much more favourable than in New Zealand. Moreover, New Zealand also has substantial mineral and hydrocarbon resources.
I think that leaves us with having to explain New Zealand’s relatively poor economic performance in terms of policies that are less favourable to economic growth. That also poses a problem because the impression given by various international comparisons of institutions and policies is that since the mid-1990s there has not been much to choose in overall terms between the economic policy environments in New Zealand and Australia. It seems likely, however, that New Zealand has not performed so well in the areas that have mattered most from a growth perspective. For example, one major problem discussed by the Taskforce is the effect of relatively high levels of government spending in discouraging investment in export industries – via impacts on the real exchange rate as well as tax rates.
The Taskforce has expressed the view that closing the gap in average income levels by 2025 will require policies that are superior to those in Australia in their focus on growth. It seems to me that those who believe that New Zealand has geographical disadvantages should logically be strong supporters of that view (unless they reject the objective of closing the income gap). The greater the geographical disadvantage, the greater the policy superiority New Zealand will need in order to meet the objective of closing the income gap by 2025.
By Christopher Briem, on November 8th, 2010
Lost in the politicial buzz…
From Bloomberg is this for the ‘hmm….’ file: Natural Gas Consumers in U.S. Miss Full Benefit of Drop in Futures Prices.
You wonder if the same political forces that hate emminent domain when used by others will object to this: SW Pa. Marcellus company seeks ‘utility’ status.
This is fascinating… one of the biggest Marcellus developers wants its $220 back: Drilling firm wants money back for Donora claims.
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