Just before my March radio discussion of how government control encourages short-range thinking, Tim Lee sent me the following example, which I blog with his permission:
The Federal Reserve has taken control of the future by dictating interest rates. The capital budgeting decision essentially depends on an interest rate tied to reality, an interest rate that connects actual savings to loanable funds. The now vs. later decision involves a discounting of future cash flows using an interest rate that functions as a reference. Whether it makes sense to build a factory or not depends ultimately on the specific interest rate at which capital can be borrowed. But since the Fed arbitrarily sets interest rates, that means business owners have been denied the basis on which to plan. Moreover, since the practice of driving interest rates below the natural rate has the consequence of generating the boom/bust cycle, an added level of uncertainty is added that not even the Fed can predict.
A restoration of the gold standard and naturally determined interest rates is required to make long range planning possible.
This article discusses the economic crisis and how interest rate manipulation caused it: Interest-Rate Targeting During the Great Moderation by Roger W. Garrison
That’s an excellent example, unfortunately. (FYI: I’ve not read the article in question, and I don’t have the technical background in economics to judge it.)
On a related topic: Objectivists and other free-market advocates often talk of the need to return to a gold standard. That seems wrong to me. Yes, our current system of fiat currency should be replaced by hard currency. (By “hard currency,” I mean commodity-backed currency, not merely stable currency.) However, that need not entail the gold standard.
In a truly free market, the government might choose to accept only gold-backed currency, but that choice shouldn’t be imposed on anyone else. Banks might choose to issue silver-backed or platinum-backed currency. Heck, a bank in a free market could issue currency backed by any fungible good, from crude oil to large eggs. The best option, it seems to me, would be money issued by banks backed by a “basket of commodities.” That would help stabilize prices in cases of major changes in the supply or demand of a single commodity.
So, for those of you who advocate for the gold standard: What do you mean by that? Do you mean that the government would issue legal tender backed only by gold? If so, how is that consistent with free market banking? If not, then why advocate for a “gold standard” rather than hard currency?
I’m not being snotty here. I’m not any kind of expert in economics, and I want to know if I’m missing something!