The’Barbarous Relic’ – It’s Not What You Think

July 21, 2003 – I’m no fan of John Maynard Keynes. I find most of his economic theories to be just plain wrong. But because I am a determined and outspoken advocate of truth and accuracy, I would like to correct a terrible injustice levied on Keynes, and at the same time also correct an equally terrible injustice that is time and again inflicted upon gold.

How many times have you heard gold described as the “barbarous relic” of the past? It is a favorite phrase of gold-bashers everywhere trying to make gold the object of derision. Every time I hear it, which is all too frequently, I cringe because how could anything so valuable and useful as gold be barbaric? And gold is as useful today as it ever was, so how could it possibly be a relic?

This gold pejorative is attributed to Keynes. But here is what he really wrote in 1923 in A Tract on Monetary Reform: “already the gold standard is a barbarous relic”.

Note that it is not gold that is the barbarous relic, but rather, Keynes is taking aim at the gold standard. There is a very big difference here.

Though the United States continued to define the dollar in terms of gold when Keynes penned those now infamous words, it had become the exception. Britain and most of Europe had stopped the redeemability of paper currency into gold with the outbreak of hostilities in 1914. What’s more, they were slow to return to the gold standard because their currencies had become terribly debased by the expansion of credit and the concurrent printing of money that had occurred over the intervening years.

In effect, by the 1920’s the classical gold standard was essentially dead, which was the reality observed by Keynes. It was dead because banking interests, working hand-in-hand with governments, killed it.

There are many books that explain how and why banking interests and governments killed the gold standard. My favorite is one that I recently reviewed in these letters, Pieces of Eight by Edwin Vieira, ‘Pieces of Eight‘.

What I would like to do here is to consider an important aspect of Keynes’s very perspicuous observation. Why had the gold standard become a ‘barbarous relic’?

To answer this question, we have to understand why the gold standard came into existence in the first place. Its origin can be traced back to events resulting from the formation of the Bank of England in 1694, but to really understand the gold standard in order to explain Keynes’s trenchant observation, we have to go back even further in monetary history to extract one key fact – the history of money is really the history of currency.

In other words, money doesn’t really change. Money is the function it performs, so money is still the same thing it always has been from the moment when it was first invented in pre-history. Namely, money is a mental tool used for economic calculation that ingeniously enables each of us to communicate what we value in an exchange. What changes throughout monetary history is currency, and the biggest change ever occurred in 1694.

Up until that time currency was always an asset, i.e., something tangible. Gold and silver were the most popular currency, but history records that other assets were also used, such as cows, food crops, and other tangible items.

The nature of currency evolved as mankind progressed, and various scientific achievements made currency better and more reliable. For example, if you look at the evolution of a coin over the centuries, you can see marked improvement.

These improvements were important. By making coins more reliable, the costs of conducting commerce were reduced, and reducing costs is always a good thing. By lowering the impediments to commerce – and the costs of currency and making payments is an impediment – commerce itself is promoted, and as commerce expands and develops, our living standards rise. So it was natural that new advancements that improved the currency were widely welcomed, as was the advancement introduced by the Bank of England with its creation in 1694.

Gold and silver coins had disadvantages that were well recognized. They were bulky, hard to carry, not practical in large denominations because of the weight that would be required, etc. What’s worse, the coins wore out from usage, wasting some of the precious gold and silver that had been used to make the coin.

In this environment the Bank of England introduced its new currency advancement. It allowed gold and silver coins to remain safe and secure in their vault, and instead, let paper notes circulate as currency as a substitute for these coins, as paper had obvious advantages and could at any time – in other words, on demand – be redeemed for coin. What’s more, because it was opened under a royal charter, the Bank of England and its paper currency were perceived to be safe, and so it was – for about three years.

By 1697 the world’s first banking crisis had occurred. The Bank of England had issued far more paper than it had metal on hand, basically silver, because that was still the preferred metal of the day in England. Therefore, everyone rushed to convert his or her paper currency for silver coin, with the result that the Bank of England’s new invention appeared to be a failure.

Despite ongoing monetary upheaval, the Bank of England nevertheless persevered (even back then, government sponsored enterprises seemed to take on a death-defying life of their own). But this monetary crisis did have one beneficial and constructive result. It made self-evident to everyone at the time that a paper currency promising to pay metal (a money-substitute) was different from money (gold or silver) itself.

What the Bank of England had done was turn currency on its head. Currency had always been money (mainly gold and silver fabricated into coins). In other words, until 1694 the currency of the day and money were one and the same. But paper currency was not money; it was only a money-substitute. Thus, currency was no longer a tangible asset; it had become a liability of a financial institution. This difference is as great as night and day, or more to the point, between assets and liabilities.

The impact of this change was so profound it had an invasive impact on the economy, mainly with adverse consequences. The insidious monetary turmoil wrought by the Bank of England’s new currency persisted. So to figure it all out, King William III turned to the greatest mind of the day, Sir Issac Newton, who in 1699 was appointed as the Master of the Mint.

Over the next several years, Newton returned order to where there had been Bank of England created chaos. He did this by inventing and putting into practice the gold standard, which operated under rules he established that were voluntarily followed by banks and governments. These rules resulted in automaticity, which is what made the gold standard so effective. It was reliable and predictable. It was self-regulating when left unhindered, with capital flows over time harmonizing trade imbalances arising from disparate economic conditions in different countries.

Newton recognized that paper currency was an important advancement toward making currency more efficient. But he also understood that paper currency wasn’t money, and even more so, that paper currency could be created to excess, which would result in monetary and economic turmoil. In other words, he realized that paper currency was useful, but only if it had some standard by which it could be measured and controlled. He achieved these objectives with the gold standard he created.

Newton’s invention remained largely untouched from its implementation in 1707 until 1914. I say ‘largely’ because the rules of his classical gold standard were occasionally broken. During periods of war, for example, the redeemability of paper into metal was often suspended. But more or less the rules remained in place, with the wartime suspensions lifted soon after hostilities ceased.

Over time, however, bankers and governments began to understand that if they broke Newton’s rules, they could gain an advantage. Bankers would make a greater profit because they could expand credit (make loans) beyond the constraints imposed on them by Newton’s rules, and governments could gain greater power because instead of spending gold, they could instead create seemingly unlimited amount of money-substitutes and spend those instead. Newton’s rules were voluntary – and worked only so far as banks and governments agreed to them. By the 20^th century, banks and governments began jettisoning the rules.

Thus, given these powerful interests lining up against it, it is not surprising that the classical gold standard began being painted as undesirable, despite its splendid 200-year track record. What’s worse, it started to be blamed for things for which it wasn’t responsible. For example, it was not the gold standard that caused the Great Depression, but rather, it was imprudent credit expansion by the banks, which was made worse by the growth of government and the rising expenditures it entailed.

So is it now clear why Keynes was taking a potshot at the gold standard? It is not surprising that Keynes – a statist who supported big government – would claim that the gold standard is the barbarous relic. But even though Keynes was no fan of gold, he no doubt understood that it would be foolhardy to attack gold itself. That would come later, from anti-gold propagandists and central bank apologists misusing what Keynes really wrote. But that is not quite the whole story.

There is indeed a barbarous relic, but it is not gold. Rather, the barbarous relic is the Bank of England and other central banks. They are barbarous because they conspired for their own self-serving ends to put an end to Newton’s brilliant invention that safeguarded sound money for 200 years. And each central bank is clearly a relic of the past. Having existed now for hundreds of years, they have survived not because they advance commerce or contribute to raising mankind’s standard of living, but instead, solely because they are disingenuous lackeys that dutifully serve the bidding of the omnipotent State, no matter how mindless or harmful that bidding may be.

So when confronted with attempts by anti-gold propagandists to bash gold, we now know how to respond. The barbarous relic is the Bank of England and any other central bank that prevents the restoration of sound money.