Golden Straw Man

by Don Boudreaux on March 29, 2007

in Economics, Myths and Fallacies

In response to this note that Paul Krugman has in the current issue of The New York Review of Books, I sent this letter:

Dear Editor:

Discussing Milton Friedman’s monetary economics, Paul Krugman says that “he showed himself much less doctrinaire and much more realistic than many of his acolytes: many conservative economists are drawn to visions of a restored gold standard or a world currency, dismissing the problems such a system would create” (Letter, April 12).

Krugman utterly distorts the views of market-oriented economists.  Only a tiny, insignificant fringe advocates a gold standard.  Many more – influenced by the works of F.A. Hayek, Ben Klein, Gordon Tullock, Larry White, George Selgin, and Kevin Dowd – support competition among money issuers.  This proposal is as far from advocacy of a gold standard or a “world currency” as one can get.

Krugman’s creation and destruction of straw men is deplorable.

Donald J. Boudreaux

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David Peterson March 29, 2007 at 9:46 am

Krugman is an economic creationist.

M. Hodak March 29, 2007 at 9:58 am

Many of his acolytes are also drawn to visions of government withering away completely, state police replaced by private militias, and a market for babies. By "many," of course, I mean "a few dozen scattered in woodland cabins across the western U.S."

But what really irks me is the conceit that his intellectual opponents dismiss the problems that their schemes would create. That's like taking aim at the person standing next to the dart board, and criticizing him for not have the right pattern of numbers and circles.

ben March 29, 2007 at 10:26 am

What on earth has happened to Paul Krugman? He is extraordinarily unreliable with facts. This one appears especially shocking – though I wonder if he meant Friedman's contemporaries in the 1960s, in which case conservative at that time meant Keynesian?

His needlessly dismissive use of the term 'acolytes' actually makes Krugman look like the idealogue.

Mike March 29, 2007 at 10:39 am

I happen to favor currencies freely convertible into gold, silver, even bricks … but at least something. Is currency competition sufficient to fight inflation? My gut says no, though the last 20 years of experience suggests I am being alarmist.

Anyone care to shed light on why I should favor competition in currencies over a commodity backed currency? I think toward the end of his life, Milton Friedman moved back toward believing in the latter.

david smith March 29, 2007 at 10:56 am

I agree with Ben. Once up on a time, Krugman was a serious economist. Now he is just a hack.

eddie March 29, 2007 at 11:12 am

Mises and Rothbard and other hard-core gold standard folks support competition among money issuers as well. They think that money should be backed by gold, but that there should be competition to dig it up, sell it, store it, and issue paper bills backed by its storage.

White and Selgin also support competition among gold-based money issuers. Their departure from Mises and Rothbard is that they think fractional reserve banking is just fine, where Mises and Rothbard insist that anything other than 100% reserves is fraudulent and unstable. But White and Selgin like gold.

Hayek thinks that competition among money issuers can yield a stable monetary system without having any of it backed by gold or any other kind of commodity. I happen to agree with him. But I have to say, trolling around the blogosphere I've found precious few others that do. The market-oriented economists that talk about money are pretty much all goldbugs, so those "many more" that Don refers to must not be talking about money very much. How many posts at Cafe Hayek, Marginal Revolution, Econlog, Asymmetrical Information, etc etc discuss non-commodity-based free baking? Or free banking at all, for that matter, gold standard or no?

Sam Grove March 29, 2007 at 11:32 am

Whatever will keep the government from counterfeiting value.

joe March 29, 2007 at 12:13 pm
joe March 29, 2007 at 12:17 pm

"The market-oriented economists that talk about money are pretty much all goldbugs,"

That does not necessarily mean that they are against competition or against free banking, many just believe for historical reasons that gold would be the most successfull backing.
You can bet on oil if you want.

David White March 29, 2007 at 1:28 pm

"Only a tiny, insignificant fringe advocates a gold standard."

Excuse me, Dr. Boudreaux, but the Austrian School of Economics is neither insignificant nor fringe, and it is an insult to all who believe in sound (i.e., commodity) money to suggest as much.

As for "competition among [government monopoly] money issuers," it certainly exists — in the form of a race to the bottom to see who can depreciate their currency the fastest in order to prop up exports.

And I ask any reasonable person to refute the numbers as they relate to the constitutional (i.e., metal-backed) dollar and the creatio ex nihilo Federal Reserve Note:

Cornelius van Vorst March 29, 2007 at 1:56 pm

"Money" emerges from the market, being the commodity most widely accepted in indirect trades. As history has revealed, once money exists as such, groups of men (e.g., governments, bankers) seek to sever money from its commodity roots, and foment the notion in other men that money is something apart from commodities. In essence, they seek to make money no longer subject to market forces, but only to their own whims.

I wonder if Dr. Boudreaux would grace us (we insignificant and fringe individuals) with a description of how valuation would begin, and market forces would operate on a non-commodity, non-fiat competitive monetary system?

Cornelius van Vorst March 29, 2007 at 2:12 pm

It's worth noting that "gold standard" means many different things depending on whom you ask.

A) a gold-price index governments use to guide the creation of paper dollars
B) a monetary system where dollars are receipts for a defined quantity of fully redeemable commodity (in this case gold)

Option A is the historical gold standard, and the one to which Krugman is referring.
Option B is the one to which most non-fiat, commodity-based supporters refer.

eddie March 29, 2007 at 2:22 pm

joe: I agree, gold-backers ("goldbugs" is probably an inflamatory term) like competition and free banking as much as any libertarian. I was pointing out as much to Don, whose letter implied that "support[ing] competition among money issuers" is "as far from advocacy of a gold standard [..] as one can get". I think Don probably chose his words poorly; I'm sure he knows that Mises et al support both gold and competition.

I'm still wondering where all the supporters of competition in money but not the gold standard are that Don alluded to are. Is he including people like David Friedman who favor backing with a basket of commodities? Or is he only counting people like Hayek who think currency doesn't need backing with anything at all?

I'll note that in the MR post Tyler advocates fiat currency over gold, but doesn't mention free competition in fiat currency… so he doesn't count as one of Don's "many more". And neither do the commenters on that thread, I suspect, since they all seem to be either in the "gold" or "Fed" camps.

As for free baking, I believe it has to be commodity-backed – either flour or sugar, despite what Gresham's Law says about bipowderism.

eddie March 29, 2007 at 2:56 pm

Cornelius: here is a good explanation of Hayek's scheme for a non-commodity, non-fiat competitive monetary system. It's a pretty balanced explanation considering that the intended audience ( readers) is likely to react to it the way my wife reacts to pollen.

Also, according to this paper from the Kansas City Fed: "There is a long literature advocating the competitive issuance of fiat money — money that is intrinsically worthless and inconvertible, and thus an outside money, one that is not a liability of the issuer. Hayek is perhaps the most prominent contributor to this literature, largely thanks to his 1976 book Denationalization of Money. There Hayek describes how an equilibrium with competitive issuance of outside money could come about and argues that such an equilibrium would likely dominate the equilibrium arising when the government monopolizes currency issuance." The bibliography of that paper might be a good place to start reading to answer your questions about how such a system could start and what would happen to it.

Cornelius van Vorst March 29, 2007 at 3:27 pm

Yes, Hayek laid out some interesting points in Denationalization of Money, but only with respect to how valuation of currency could be stabilized over time in order to more efficiently be utilized as a store of value. And insofar as he refers to a statistically-controlled basket of goods, he is in the same camp as the perjoratively-named gold-bugs.

It is in his suggestion that money can be divorced from commodities altogether that the wheels come off the wagon.

David Peterson March 29, 2007 at 3:53 pm

"Mises and Rothbard and other hard-core gold standard folks support competition among money issuers as well. They think that money should be backed by gold, but that there should be competition to dig it up, sell it, store it, and issue paper bills backed by its storage."

Not exactly, they–Rothbard especially–thought that money should be gold (assuming that it's what the market would choose). There's a huge difference in claiming that the government should issue currency that is backed by a commodity and that people should just on their own free will use that commodity.

And IIRC, Friedman favored a basket of goods backed currency at some point, if not up until the end of his life.

eddie March 29, 2007 at 4:40 pm

Cornelius: Since you're familiar with Hayek's monetary ideas it seems you don't actually need Don to describe how such a system would work. You just disagree that it would.

What's so wagon-dewheeling about non-commodity money? If you think that a Hayek-like scheme could be bootstrapped using convertibility to a commodity, why couldn't it also be bootstrapped using convertibility to a fiat currency like the dollar? Once an initial valuation had been set, either against gold or oil or green paper, the economic effects afterwards would be the same regardless of what was used for the intial valuation.

The "statistical basket" in Hayek's scheme isn't used to back the currency (i.e. you can't demand that an issuing bank redeem a banknote for X amount of the basket), it's used to measure the price stability that the currency issuer is attempting to maintain. The convertibility of the currency is not to the basket, but to the gold or oil or dollars that are used for the *initial* valuation, as a means to give the currency an immediate acceptance and thus allow its circulation. Afterwards it serves as a backstop against a bank run by acting as a lower limit to any possible devaluation. But the selling point to the currency, the reason that people would use it instead of other alternatives, is that it maintains a stable price against the designated basket.

I'm not convinced that there aren't important details that Hayek hadn't considered. But I'm also not convinced that the idea is dismissible out of hand. Ongoing research like that cited in the KC Fed paper suggests that the idea, or something like it, has real merit.

M. Hodak March 29, 2007 at 6:14 pm

Most of these discussions about what Mises and Hayek though in the 1930s about money reminds me of Adam Smith's 18th century view of corporate shares–he was sure their value was inherently limited by the profligacy of the average non-owner manager. He saw them as a version of funny money.

Here we are, folks, in the 21st century. Currency markets have evolved to a degree of sophistication undreamt of by Mises and Hayek. This market provides plenty of discipline among all providers of money, fiat or otherwise, just as the market evolved mechanisms for minimizing the agency costs that many, very smart 19th century economists were convinced would be the undoing of public corporations.

The gold bugs (or whatever you want to call the commodity-based crowd) are fighting the last war. It's time to move onto the battles that the market hasn't won for us already.

Marcus March 29, 2007 at 7:16 pm

In a manner of speaking, we already have a competitive monetary system: stocks. Essentially, 'money' backed by the company that issued it.

Those who have no concerns with fractional reserve banking should consider the consequences of fractional reserve 'brokering'.

Cornelius van Vorst March 29, 2007 at 7:33 pm


I'll phrase my response in the form of a question:
What would the supply curve of such money look like, and what market forces would influence its shape?

M. Hodak,

Are you referring to government-monpolized money, or just non-commodity money in general? Are you saying it's not a Bad Thing, or is bad but is compensated for by market developments, or somethiing else entirely?

Cornelius van Vorst March 29, 2007 at 7:40 pm

To expand…

What would the supply curve of such money look like, and what market forces would influence its shape for the following monetary systems?

a) US Dollar, post 1971
b) Commodity-based money
c) Hayekian non-commodity money

M. Hodak March 29, 2007 at 8:17 pm


I'm saying that no form of money is "bad," that there is no longer a meaningful distinction between "government monopoly" money, other "non-commodity" money, or gold coins, except the degree to which it is valued by the global markets. I'm saying that modern currency and commodity markets furnish those values in an objective and transparent manner. Any further disagreement about which type of money is "better" is purely subjective opinion in ignorance of market realities.

drtaxsacto March 29, 2007 at 9:32 pm

Deplorable? Yes. Surprising? no.

Ray March 30, 2007 at 8:17 am

"–tiny, insignificant fringe –", "straw men"??? Sort of like what this blog and its acolytes say/depend on/use in their views on global warming.

eddie March 30, 2007 at 11:02 am

Cornelius: since fiat money is costless to produce, a supply curve would be infinite at all points. I assume your point is that therefore an infinite amount of money would be produced with resulting infinite inflation.

But that doesn't necessarily follow. For example, names are costless to produce. If everyone wanted ten names the market could supply them as cheaply as it supplies the typical three names per person. Yet we don't see that infinite supply being consumed. Why not? The answer is that consumption of names doesn't fit within the standard economic model of supply and demand curves; we have to use other methods to model the behavior of the name market.

So too with money.

And not just fiat money, but even commodity-based money. Yes, there is a well-defined supply curve, but what about the demand curve? Say that with the price of gold at X units of consumption goods per ounce, the quantity of gold demanded is Y ounces. If the price rises to 2X units per ounce, the quantity demanded will be 2Y ounces. Gold's demand (as money) is not a downward sloping curve, it's an upward sloping line! That's because money of any form is not demanded for itself. The quantity demanded is based on its real value, not its nominal value… which makes it different from all other consumption goods, since only money has both a real value and a nominal value.

So we can't reason about money using supply and demand curve models. We have to use other methods. For the case of competitive fiat money, the KC Fed paper I linked to describes a few different models that seem to apply to money and that seem to be both valid and useful. Based on those models, the author finds partial support for Hayek's scheme, specifically that under certain circumstances money issuers would not issue an infinite amount of money and cause infinite inflation. Not exactly a ringing endorsement, but the point is that it's not something to be simply dismissed out of hand.

Mark March 30, 2007 at 1:24 pm

There is a rich irony, Donald, in your deploring Krugman's allegedly creating strawmen, just one post after you did so yourself–in your "boxes" metaphor in the "Creating Value" post.

Randy March 30, 2007 at 2:15 pm

Just a thought… but don't we already have a system of competing currencies? That is, do competing foreign currencies fill the bill?

Cornelius van Vorst March 30, 2007 at 4:32 pm


I enjoy the irony of your use of names as an analog for fiat money in a topic dealing with straw-men.

Names are not an economic good precisely because they lack scarcity. There's no market there. Surely you would not argue there should be a lack of scarcity for money. With respect to all other goods, the supply curve for money is not "infinite", but vertical; in other words it's an economic good whose supply is orthogonal to the forces of the market in which it operates.

As for commodity-money, you appear to be falllig for the old price-change/demand/quantity-demanded trick that is such a favorite of econ profs (I'm looking at you, Dr. Roberts!).

To use your example:
"Say that with the price of gold at X units of consumption goods per ounce, the quantity of gold demanded is Y ounces. If the price rises to 2X units per ounce, the quantity demanded will be 2Y ounces."

But why did the price rise? Some exogenous desire to hold larger cash balances (i.e., increased demand)? In such a case, you would be correct that the equilibrium point can move from P1,Q1 -> P2,Q2 where P1 < P2 and Q1 < Q2. This is not due to an upward sloping demand curve, but rather an artifact of the movement of the intersection point of the demand curve along the supply curve.

"Gold's demand (as money) is not a downward sloping curve, it's an upward sloping line! That's because money of any form is not demanded for itself."

(As a general rule, one should take serious pause when arguing a demand curve slopes upwards.)

Why, if you can buy more with a given quantity of gold (that's what the price rise means), would people then want to hold larger gold balances? It seems fairly clear that, ceteris paribus, individuals will want to hold balances with the same level of purchasing power (P*Q), which means smaller balances, i.e., demand curve (which slopes down and to the right) moves to the left.

I should note that my objection to Hayekian non-commodity money is not a normative one. I would have no problem with someone trying to set one up. My argument is that, absent the sweeping scope and influence of the state, such money would be exchange-valued at its marginal cost of production. Basically, it would devolve to a commodity money anyway.

eddie March 30, 2007 at 4:49 pm

Take serious pause indeed. Allow me to retract my statement about the demand curve… I was up too late last night to be posting sensibly this morning.

eddie March 30, 2007 at 5:36 pm

My point with the names analogy was to show that zero production cost does not necessarily imply unlimited supply. In that vein, although for different reasons, cost-free fiat money could still be scarce. One way would be, as you point out, for the government to regulate its supply. Hayek suggests another method: money providers would compete to have the most useful currency, useful currency requires price stability, price stability requires scarcity, thus money providers will deliberately restrict their own currency supply to make it appropriately scarce. Such money would be valued well above its marginal production cost.

You can argue, as Mises and Rothbard have, that banks free to inflate would inflate (although they discussed fractional reserve banking, not competitive fiat money). I'm not convinced by their arguments, and I've seen some compelling arguments to the contrary. Maybe Hayek is wrong, but I think the question is far from settled.

Ryan Fuller April 1, 2007 at 11:06 am

I'm surprised that nobody has mentioned that Alan Greenspan is actually an advocate of the gold standard, and not just in the 1960s either.

Insignificant and fringe? Come on. Greenspan is about as significant as economists get.

We can argue all day that Mises and Rothbard aren't insignificant fringe economists, but the opponents of the gold standard will probably never acknowledge that point. Giving them an authority that *they* recognize will be much more effective.

merik September 2, 2007 at 5:21 pm

hello world!

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