Myth: Gold Makes Boom-Bust Cycles Worse

Authored by Frank Shostak via The Mises Institute,

According to some commentators on the gold standard, an increase in the supply of gold generates similar distortions as money out of “thin air” does.

Let us start with a barter economy.

John the miner produces ten ounces of gold. The reason why he mines gold is because he believes there is a market for it. Gold contributes to the well-being of individuals.

He exchanges his ten ounces of gold for various goods such as potatoes and tomatoes.

Now people have discovered that gold apart from being useful in making jewelry is also useful for some other applications.

They now assign a much greater exchange value to gold than before. As a result, John the miner could exchange his ten ounces of gold for more potatoes and tomatoes.

Should we condemn this as bad news because John is now diverting more resources to himself? This however, is just what is happening all the time in the market.

As time goes by people assign greater importance to some goods and diminish the importance of some other goods. Some goods now then considered as more important than other goods in supporting people’s life and well-being.

Now people have discovered that gold is useful for another use, such as the medium of the exchange. Consequently, they lift further the price of gold in terms of tomatoes and potatoes. Gold is now predominantly demanded as a medium of exchange — the demand for the other uses of gold, such as for ornaments is now much lower than before.

Let us see what is going to happen if John were to increase the production of gold. The benefit that gold now supplies people is by providing the services of the medium of the exchange. In this sense, it is a part of the pool of real wealth and promotes people’s life and well-being.

One of the attributes for selecting gold as the medium of exchange is that it is relatively scarce. This means that a producer of a good who has exchanged this good for gold expects the purchasing power of his effort to be preserved over time by holding gold.

If for some reason there is a large increase in the production of gold and this trend were to persist, the exchange value of the gold would be subject to a persistent decline versus other goods, all other things being equal. Within such conditions, people are likely to abandon gold as the medium of the exchange and look for another commodity to fulfill this role.

As the supply of gold starts to increase its role as the medium of exchange diminishes while the demand for it for some other usages is likely to be retained or increase.

Therefore, in this sense the increase in the production of gold is not a waste and adds to the pool of real wealth. When John the miner exchanges gold for goods, he is engaged in an exchange of something for something.

He is exchanging wealth for wealth.

Contrast all this with the printing of gold receipts, i.e., receipts that are not backed 100% by gold.

This is an act of fraud, which is what inflation is all about, it sets a platform for consumption without contributing to the pool of real wealth. Empty certificates set in motion an exchange of nothing for something, which in turn leads to boom-bust cycles.

The printing of unbacked gold certificates divert real savings from wealth generating activities to the holders of unbacked certificates. This leads to the so-called economic boom.

The diversion of real savings is done by means of unbacked certificates, i.e., unbacked money.

Once the printing of unbacked money slows down or stops all together this stops the flow of real savings to various activities that emerged on the back of unbacked money.

As a result, these activities fall apart - an economic bust emerges. (Note that these activities do not produce real wealth, they only consume. Obviously then without the unbacked money, which diverts real savings to them, they are in trouble. These activities did not produce any wealth hence without money given to them they cannot secure the goods they want.)

In the case of the increase in the supply of gold, no fraud is committed here. The supplier of gold - the gold mine - has increased the production of a useful commodity. Therefore, in this sense we do not have here an exchange of nothing for something. Consequently, we also do not have an emergence of bubble activities. Again, the wealth producer, because of the fact that he has produced something useful, can exchange it for other goods. He does not require empty money to divert real wealth to him.

Note that a major factor for the emergence of a boom is the injections into the economy of money out of "thin air.” The disappearance of money out of “thin air” is the major cause of an economic bust. The injection of money out of “thin air” generates bubble activities while the disappearance of money out of “thin air” destroys these bubble activities.

On the gold standard, this cannot take place. On a pure gold standard without a central bank, money is gold. Consequently, on the gold standard money cannot disappear since gold cannot disappear.

We can thus conclude that the gold standard, if not abused, is not conducive to boom-bust cycles.


Number 9 Fri, 07/06/2018 - 21:49 Permalink

there is no decent system

they all fail given enough time

human greed sees to it

so it is not economics, it is the human flaw that kills us

rtb61 Number 9 Fri, 07/06/2018 - 22:09 Permalink

Not human being greed just a parasitic subspecies, quite common in the animal kingdom to have them, we call the psychopaths and genetic parasitical aberration. They will take down every system they become a part of to feed their own insatiable greed and egos, those the keep them alive, the 99% are just furniture to the 1% the psychopaths.

Now of course there are infallible tests for detecting psychopathy both by testing cerebral emotional function and genetics. Once they have been removed from all places of control, governance or influence, pretty much any kind of social system will clean itself up.

Everyone is starting to wake up to this, so the psychopaths days are numbered, just a matter of surviving until they are all removed, as they start to be identified and contained, so the system will quite rapidly clean itself up.

In reply to by Number 9

Number 9 DownWithYogaPants Fri, 07/06/2018 - 22:25 Permalink

if fiat dies, then the system is broken.. the gas pumps wont work b/c the power is off b/c the power company cant take 6 silver dimes to pay out enough people to keep the system functioning.. 

when the power goes out shortly after the money dies, then trying to buy a loaf of bread is going to be a real chore.. 

now I am not talking Venezuela here..they are a small country with no real far reaching effect.  if the us dollar becomes worthless, all money is pretty well fvkd world wide.

the long talked about shtf is now upon us

In reply to by DownWithYogaPants

Balance-Sheet Fri, 07/06/2018 - 22:13 Permalink

Gold has to be marketed constantly to keep pushing it on people. Jewelry is fine of course but telling people they need it because it will be the new money is a deceptive business practice. Ancient Egypt purchased a great deal of goods and services because they had large armies of slaves mining it in what was then called Nubia, Kush, Punt and which is now other countries but Gold did not save them from anything like civil wars, insurrections, slave revolts, foreign wars, foreign takeovers- until finally the Greeks, Romans, and Muslims wrecked the place.

Rome itself mined metal around the Black Sea especially in Romania, Tin from Britain, Silver from Spain, and other metals from Europe. They also raided and demolished entire civilizations and seized all their wealth which was considerable form the Celtic Civilization in Gaul. It did not save the Roman Empire from anything either even inflation as they had to dilute their money as you know.

It will not work now. Academic "just so tales" as above do not reflect either reality today or what we believe we know from 1000s of years of History.

Gold is rare and popular as jewelry and makes beautiful collector items but it is not money nor legal tender but like baseball cards it may rise in value and it might. Global population will jump by another 33% we are told and the supply of Gold will likely increase only by a trickle.

etcimon Balance-Sheet Sat, 07/07/2018 - 00:17 Permalink

Gold has followed the S&P 500, while the dollar has become essentially worthless 100 times over.


Whatever you said, it would have to be the same thing about the U.S. stock market.


Truth is, the only real wealth that has preserved itself is gold, everything else can go to zero at any time. Empires have risen and fallen, while the gold coins they made have become more valuable.

In reply to by Balance-Sheet

Balance-Sheet etcimon Sat, 07/07/2018 - 12:14 Permalink

All of the Gold on Earth will be 10s of billions of years old and will still be in the Universe 10s of billions of years from now and you will be DEAD for billions of years. All of the Gold/Silver Standard Empires and all the people in them are ALL dead. We die but our hydrogen, oxygen, carbon, and calcium persist- so what?

Why not use Tums for money, as coins?

Collector items HAVE value as scarce cultural artifacts that are authentic- the Gold itself is still a somewhat rare commodity.

In reply to by etcimon

etcimon Balance-Sheet Sat, 07/07/2018 - 12:40 Permalink

Gold can be authenticated everywhere on earth without historical "collector's" records and cannot be created from something you'd find on the ground or in the air around you. When we die, I don't know what will happen to metals and their value as currency even after 10 billion years, if you'd like to know or make a move forward on that claim be my guest. Meanwhile, I prefer to stay in the realm of the living and contemplate the eternal value in gold as an internationally observed central currency. Regardless, my 6 year old knows more about the relationship between scarcity and value than you do.

In reply to by Balance-Sheet

Balance-Sheet etcimon Sat, 07/07/2018 - 13:59 Permalink

Thanks for helping make my point. How much longer will you live? Will it be a week or as long as 50 years? Subtract your current age from 83 or consult an actuarial table. This is why the value of Gold in the Persian Empire 2500 years ago is meaningless to YOU and why the value of Gold 2500 years from now is equally meaningless.

Explain to your 6 year old that if you live in the USA that the legal tender is USD and he must pay his taxes and keep all his accounts in USD or risk a stretch in prison.

If you COLLECT rare coins from age 6 to 18 it might provide enough fiat USD to purchase an excellent education.

If you both had been living for 2500 years and had always saved Gold then you would be rich today and richer still 2500 years from now but you would still be accountable in USD if you lived here.

People mint and sell new Gold coins to get paid in fiat USD to pay their bills and taxes. Famous Gold coin sellers are making a fortune marketing this delusion to the masses. Go into any decent pawn shop and there is all that Gold for sale.

Is the pawn shop owner a fool for selling Gold for USD - he would have to be- he would sell ANYTHING but Gold.

In reply to by etcimon

Balance-Sheet etcimon Sat, 07/07/2018 - 15:51 Permalink

It must be me, it cannot be you. No one ever said that Gold was worthless or would eventually become worthless and certainly I did not say so. Gold with ADDED collector value will likely (no guarantees) increase more quickly than bullion because it is even MORE scarce.

The point is that all your money IS going to disappear and most will not be able to prevent that. When you die you will lose all your money and this is how it is meant to be.

The USD is DESIGNED to decline in value to gradually eliminate all persisting claims such as your own. Think this through for awhile. All of your assets will be distributed, disbursed, and auctioned and all you have hoarded will be recycled into many hands.

What you are trying to accomplish - preserving the value of wealth or money- is a temporary game you will lose so why drive to ever higher levels of desperation. If the USG declared solid Gold coins to be the only legal tender you might have a point but this will not happen and if it did your fellow citizens will roast you until you turn over the Gold if the USG doesn't not arrive first.

Sure, buy Gold today, then resell it when you have to make a payment in USD and you might make a gain but this is just normal trading with all the consequent risks attached.

At some point the USD will be recalled as when the Silver Certificate was replaced with the Fed Res Note but that is a normal expectation as even metal coins were called back in the past for adjustment.

Check the actuarial tables and calculate your real exposure - the amount of time you figure your life might be worth living off life support.

In reply to by etcimon

etcimon Balance-Sheet Sat, 07/07/2018 - 16:05 Permalink

I'll still be there in 40-70 years but many things will have changed by then. I can't invest my hard earned money in something and then forget about it unless it's gold. Everything will be threatened to die off just because that's the natural cycles, but gold will never die off. I wouldn't need to invest at all if I were to die next year and lose my wealth as a result, gold or not, your point makes no sense. You're basically saying that you don't need to hold gold because you can't die with your money. Without holding gold, you can definitely die penniless though. Think about that.

In reply to by Balance-Sheet

Balance-Sheet etcimon Sat, 07/07/2018 - 17:44 Permalink

People who like the Gold Standard are living in past centuries. You buy Gold with fiat currency unless you have a secret Gold Mine- unlikely- so you are standardized on USD-likely- and collect Gold hoping you can redeem it for fiat to pay your medical bills if you live 70 more years on life support

Almost everyone was a pauper in past centuries which would include 99% of your ancestors and you only are able to purchase Gold today BECAUSE we have a fiat system.

Now, you will die penniless as all people do. Only true pagans from Antiquity believed they would need Gold in the next life and you understand that you can't really take it with you.

Key Point: a Gold Standard only suited the super wealthy in the past, the population is 7.5X what it was in 1800, and we have democracy in the US. The population will just vote to seize your Gold if as you imagine the current financing system collapses.

You are making sense only in a kind of Virtual Reality. If you are the Sultan of Brunei it is different but the natives are restless there. 

In reply to by etcimon

etcimon Balance-Sheet Sat, 07/07/2018 - 19:00 Permalink

You don't understand what you're talking about. The gold standard didn't end, because central banks still have gold in their vaults. What ended is the possibility to redeem the gold with the notes. They essentially kept the gold standard for themselves, and pushed depreciating paper down the throats of everyone else. This means you're paying to hold fiat through inflation, becoming poorer and poorer, the federal reserve picks the gold value on the note straight from your pocket down to the milligram and your tame attitude of not wanting to buy gold with the fiat is exactly what makes you one of billions of great little sheep.

In reply to by Balance-Sheet

Balance-Sheet etcimon Sun, 07/08/2018 - 00:41 Permalink

I assure you that I am reflecting the realities of credit/debt finance in the USA. 

If there were an economy based on solid Gold coins the economy would collapse. The US had about 2.5- 3M people 225 years ago and still could not support a Gold Standard BECAUSE they had to pay their creditors in Gold so all the Gold In what would be the US drained away to the UK.

People like George Washington and Thomas Jefferson HAD NO Gold money and operated entirely on credit from the UK. Both DIED deeply in debt and their estates were broken up and distributed.

The only collateral either had was the auction value of their slaves which were liquid enough to be collateralized. Land was so poorly managed and easily over farmed with questionable titles it was usually ineligible for a mortgage.

At the end of the season the crops were auctioned in England and the proceeds applied to their LOANS and often they carried debt at interest from one year to the next. Both whined and cried endlessly about their debts and the returns on their crops while buying huge amounts of luxury items ON CREDIT.

Slowly after the Civil War the limits of the existing finance system in the US were exhausted and our current credit system was established in 1913, 1935 and subsequently.

Ordinary people NEVER had pockets full of Gold coins and neither did most of the landed nobility in Europe or aspiring colonial masters in the incipient USA.

This a dream world (of Gold) that never existed for other than a very few people and those merchants and others engaged in international trade.

In reply to by etcimon

etcimon Balance-Sheet Sun, 07/08/2018 - 02:19 Permalink

Yeah the dollar coins were made in gold yet they didn't have gold. Good thinking.

The country was poor at first. But most people didn't have debt and lived off their land. Your tragedies are heartbreaking, some people died poor because they did have debt. So sad. Let's all use paper money that represents debt. Enough said.……

In reply to by Balance-Sheet

Balance-Sheet Justin Case Sat, 07/07/2018 - 12:21 Permalink

The Fed declares the value of any asset not some scribbler at ZH. Audits are not applied to the Fed and will never be though Ron Paul is very entertaining and has been effective in agitating the flat footed literal minded squad but this is purely for amusement purposes.

You are suggesting an empty abstraction with no meaning.

When credit froze during the Crash the Fed relaunched it by declaring the underlying value of such assets as MBS through purchases/asset swaps and people gradually began to trade again as you have seen over the past 10 years.

In reply to by Justin Case

jm Fri, 07/06/2018 - 22:50 Permalink

How do you explain the bank failures and economic depressions that occurred every 5-10 years in the 18th and 19th centuries under the gold standard?

fazsha2 jm Fri, 07/06/2018 - 23:20 Permalink

Bank failures are normal when banks overextend loans to lousy debtors.  Just because there is a gold standard doesn't mean bad businesses don't fail.  All banks are is a business like any other - their product is investing in debtors. If they are not judicious, they fail.

As far as economic depressions, the Panic of 1873 was actually a myth. As Friedman and Schwartz admit, the decade from 1869 to 1879 saw a 3-percent per-annum increase in money national product, an outstanding real national product growth of 6.8 percent per year in this period, and a phenomenal rise of 4.5 percent per year in real product per capita. Some depression. Yes, prices went down - that was a GOOD thing!

In reply to by jm

jm fazsha2 Fri, 07/06/2018 - 23:33 Permalink

​​​​You:  ​​​Bank failures occur because banks make loans to lousy creditors.

True. But this happens under a gold standard as much as any other standard.  The gold standard is neither a cure for cycles nor is it better at smoothing out these cycles. 

It is no myth that under the gold standard bank failures and economic depressions were just as common, if not more common than what is experienced under other monetary systems.  To cherry pick one and conduct revisionism with respect to it smacks of ideological conviction, not fact.

Here's a sample of other financial crises to sweep under the rug. 

In reply to by fazsha2

Conax jm Sat, 07/07/2018 - 12:40 Permalink

As a responsible banker, would you be more cautious lending out some digits on a screen issued nearly free from the central bank, or the gold you hold in your facility that belongs to you and your depositors?

I'll guarantee you loans were much more difficult to obtain prior to 1971.

They lend tens of thousands to anyone that can fog a mirror now, and they know it's merely shit they're passing out.

I'd say a metals standard would put some financial discipline in everyone's behavior.

In reply to by jm

Balance-Sheet Conax Sat, 07/07/2018 - 12:56 Permalink

You want to look back to the era of the early 1900s and before. Credit WAS scarce and not available to other than the very best covenants. Bankers like JP Morgan allocated what credit was available and as a result almost all credit was absorbed by people like Carnegie and Rockefeller.

At any given moment in the US 110m adults are unemployed so they would begin to starve to death within days as government spending and private charity collapsed.

Since everyone can vote and there are a lot of matches this is not done.

In reply to by Conax

galant jm Sat, 07/07/2018 - 00:03 Permalink

Advocates of "honest money" don't claim a gold standard will eliminate corrupt or incompetent politicians and bankers but it will limit the harm they can do to ordinary people.

A gold standard means they cannot devalue their way out of trouble or run up a crippling budget deficits.

But who wants a world with limits on budget deficits, bank credit expansion, the growth in debt and inevitable credit crises?

Or worse, a world where ordinary people have some say in what form of money works best?

In reply to by jm

jm galant Sat, 07/07/2018 - 08:27 Permalink

The concluding point of the article is: 

"We can thus conclude that the gold standard, if not abused, is not conducive to boom-bust cycles."

Even without the disclaimer "if not abused" this is incorrect.  There are too many example through history where a commodity money does not resolve the problem of boom and bust.  Cycles are an inevitable part of collective society.

People obviously want deficits, bank credit expansion... life isn't a Plato's republic run by philosopher kings.  What people want in theory is utopia.  What they want in practice is reality.

In reply to by galant

Balance-Sheet jm Sat, 07/07/2018 - 12:49 Permalink

Right, and thanks, there is a demand to constantly expand the money supply whether there is any Gold at all in some jurisdiction or not and in any case new Gold is not discovered quickly enough to fund an expanding economy and rising population.

With no money people begin to starve and burn down everything while killing each other.

While not perfect a debt based fiat system of legal tender is usually sufficiently flexible and in practical terms a great improvement over perfect utopian Gold systems.

In reply to by jm