Chapter 1: Understanding Financial Panics

Nobel laureate economist Paul Krugman pointed out that during the gold standard, the U.S. faced several significant financial disturbances, notably in 1873, 1884, 1890, 1893, 1907, and the early 1930s. The idea of reverting to the gold standard is often humorously criticized as a poor choice.

The era of the classical gold standard is recognized by economists as spanning from 1880 to 1914, regarded as its most authentic phase since it was not influenced by wartime policies or later adjustments from the Federal Reserve.

Focus on Key Financial Crises

Examining the financial crises during the gold standard—specifically in 1884, 1890, 1893, and 1907—reveals a complex picture.

But first, let’s clarify what constitutes a financial panic. A financial panic is characterized by a sudden and widespread economic downturn, where a significant number of people rush to withdraw their funds due to fears about the safety of their investments.

During these identified years, there were instances of bank runs that could have been alleviated by stricter reserve requirements or deposit insurance. However, the question remains: did these situations truly represent a widespread economic collapse?

Analyzing Economic Growth Rates

From 1884 to 1886, the yearly growth rates were -1.6%, 0.3%, and 8.1%, averaging at 2.3%. This does not align with the definition of a panic when compared to the historical U.S. average growth rate of 1.67% from 1870 to 2018.

In the period from 1890 to 1892, growth rates of 9%, 1%, and 11% average out to 7%. If this qualifies as a panic, many would welcome such economic conditions today!

The years 1893 to 1895 saw growth rates of -5.8%, -4.7%, and 11.4%, averaging 0.3%. While this period did reflect a panic, it's essential to recognize that multiple factors contributed to the recession, such as the collapse of the railroad bubble, the silver bubble, and the rise in tax rates.

The growth rates from 1907 to 1909 were 2.6%, -10.8%, and 7.2%, averaging -0.3%. Although the U.S. experienced a notable stock market decline, it is important to remember that the financial sector was a smaller part of the economy back then. The 1907 crisis prompted financiers to advocate for the creation of the Federal Reserve to prevent future crises without risking their funds.

Comparative Economic Analysis

For comparison, during the 2007-2009 period, growth rates were 1.9%, -0.1%, and -2.5%, averaging -0.7%. Unlike the 1907 crisis, this situation significantly increased national debt and led to an enormous consolidation of wealth among major institutions.

Looking at the broader economic landscape, U.S. GDP grew by 393% from 1870 to 1914, contrasting with 242% from 1970 to 2014. This suggests that the gold standard era was not as unfavorable as some claim.

A 1% differential in GDP growth can equate to $210 billion (adjusted for inflation), which is substantial.

Paul Krugman contends in "Golden Instability" that those who view the gold standard as a period of price stability are misinformed. However, upon reviewing the evidence, including the charts he cited, it becomes clear that price stability was indeed more pronounced before the gold standard was abandoned.

Critique of Krugman's Arguments

Krugman argues that gold has not maintained a stable purchasing power. However, this claim overlooks significant historical context. His analysis focuses on gold prices after the abandonment of the gold standard, which cannot be considered a fair assessment.

The fluctuations in gold prices since the Bretton Woods Agreement are largely reactions to the instability of fiat currency rather than issues inherent to gold itself.

In conclusion, proponents of the Federal Reserve often downplay the effectiveness of the gold standard to legitimize its existence. Yet, the Fed has not succeeded in maintaining price stability or maximizing employment, revealing a critical flaw in its dual mandate.

While the Fed has benefitted certain groups, namely bankers and bureaucrats, it has led to increased financialization and larger economic bubbles, contributing to moral hazard.

Instead of reverting to a gold standard, a rule-based dollar system could provide a competitive financial landscape alongside gold, silver, and cryptocurrencies as tax-free currencies.

In essence, while a gold standard may have its drawbacks, historical evidence suggests that it offered better growth, stability, and employment compared to our current fiat system. Contrary to popular belief propagated by the Fed, earlier generations were not perpetually anxious about their financial security.

The first video titled "What Really Caused the Great Depression?" explores the underlying factors that contributed to one of the most significant economic downturns in U.S. history.

The second video, "George Selgin on the Fed 12/06/2010," features insights from economist George Selgin regarding the role and impact of the Federal Reserve in the economy.