Rules for International Monetary Stability

The Hoover Institution’s DC office held a short event this morning on “Rules for International Monetary Stability” which highlighted papers from last year’s Hoover Institution Monetary Policy Conference. While much of the discussion devolved into the minutiae of the particular monetary rules that “should” be implemented, there was one thing that stuck out to me that didn’t seem to be picked up on either by the audience or by the presenters. Professor Michael Bordo, in his presentation on monetary policy rules mentioned on several occasions how well the international gold standard worked as a monetary policy rule from 1880 to 1914. However, he also stated that it “stopped working” after World War I.

But as George Selgin and others have pointed out, not only did it work well, it didn’t just “stop working” – it was done away with by governments the world over. The gold standard was a hindrance to government spending, so governments around the world decided to jettison it. That was not a fault of the gold standard, it was a feature, keeping governments from being able to print money ad infinitum. Once governments got off gold, all sorts of mischief ensued – bank holidays, successive devaluations, hyperinflation, etc. I was tempted to ask the presenters: “If the gold standard worked so well, why not use that as the monetary policy rule going forward?” You can hear the scoffing now, and the protestations that the gold standard is impractical and that’s why it was abandoned. But in reality, the gold standard is no different than the Taylor Rule or any other monetary policy rule – once it begins to handcuff the government’s ability to inflate its way out of a recession it will be discarded. Fiscal dominance will always win out.

At the end of the day, discussions about central bank independence are moot. The success of any monetary policy rule, or indeed any monetary policy, is dependent on the government’s AND the central bank’s willingness to voluntarily set very limited boundaries for its own actions and to adhere to those boundaries. Once those boundaries have been crossed, the credibility of the government or the central bank to withdraw and retrench within those boundaries is gone. That’s what we face today. Central banks that have engaged in relentless quantitative easing, credit accommodation, and experimental negative interest rate policies cannot be trusted to return even to a pre-crisis monetary policy stance, let alone anything resembling a stable monetary policy rule.