All Commentary
Wednesday, March 1, 1972

Fixed Exchange Rates and Monetary Crises

Price control, whether of goods and services or of money, interferes with the peaceful processes of trade.

People advocate identical economic policies for very different reasons. The recent interest, be practical and theoretical, in the subject of international monetary exchange rates is a point in question. Advocates of flexible exchange rates, in which a free market international monetary transactions would set prices of various currencies—who would have each government manage its own nation’s money supply — as well as those who believe in a full gold coin standard to preclude government control. Opponents of flexible international exchange rates, on the other hand, include not only the creators of the Bretton Woods agreement that established the International Monetary Fund but also a number of conservative economists. How is it possible that the camps could be divided in this fashion?

To answer this, one has to examine the contexts. Ludwig von Mises, for instance, believes in total freedom in the monetary sphere: the government should be limited to the enforcement of contracts, whatever the exchange medium might be in any particular contractual obligation. Milton Friedman also wants to see all citizens free to own gold and to make contracts in gold, but he thinks the central bank should guarantee a constant increase in the supply of money each year. Mises would reject such a proposal as inflationary unless the legal tender provision of Federal Reserve Notes were abolished and people were thereby free to avoid doing business in fiat money. But neither man wants to see any infringement on the right of men and women on either side of the border or ocean to make bargains with each other, even if those bargains involve the exchange of national monetary units, present or future.

The Keynesians, who would prefer Friedman’s views on monetary management to Mises’ full gold coin standard, find themselves working together with conservative economists who support a gold standard and are anti-inflationary in perspective. Both the Keynesians and these conservatives favor the establishment of government-enforced limits on the range of prices that can legally exist between one currency unit and any other. Unfortunately, no economist seems to be able to agree with any of his colleagues as to the precise acceptable range of price flexibility or the legal mechanism used to enforce such a range; this indicates the nature of the problem. Year after year, the publications of the International Finance Section of the Department of Economics of Princeton University pour out Essays in International Finance. We read of crawling pegs and running pegs, of parities and currency swaps, of paper gold and international trust. What does it all mean? So far, no one has even been able to define a Eurodollar, let alone explain how it works; or if someone can, no colleague agrees with him.

No Faith in Freedom

The Keynesian economist simply does not trust the free market’s unhampered price mechanism to clear itself of supplies of scarce economic resources. Thus, we need fiscal policy, fine tuning of the economy, econometric models, data gathering on a massive scale, and controls over the money supply. Especially controls over the money supply. Naturally, certain flaws appear from time to time: a $1.5 billion predicted surplus for fiscal 1970 became a $23.3 billion deficit, but what’s a few billion dollars among friends? We owe it to ourselves, right? A private firm, unless it has a cost plus government contract, would not long survive in terms of such a woefully inefficient economic model, but what do businessmen know about economics, a faithful econometrician may ask? If reality does not conform to the model, scrap reality, by law.

So the reality is scrapped, and the Keynesian finds it necessary to abandon one more area of market freedom, namely the freedom of private, voluntary international exchanges of money at prices established by the market. Such a voluntary system of international exchange would reduce the predictability of the government’s econometric model. That would allow a “bleeder” in the overall control device. That would allow men to measure the extent of the depreciation of their own and other’s domestic currencies, thus calling attention to the policies of inflation and confiscation being enforced by their governments and other governments. As for the United States, floating exchange rates on a free international market for currencies would end, overnight, the exported inflation of our continual budgetary deficits.³ That is why government bureaucrats do not generally approve of floating exchange rates.

Flexible Exchange Rates: A Counsel of Despair?

This does not explain why various conservative economists also oppose the extension of the market into the realm of international monetary exchange. The late William Roepke called the idea “a counsel of despair.” His argument against flexible exchange rates: “Without stability of exchange rates any international monetary system would be flawed at an important point because it would lack a major condition of international economic integration.” This sounds plausible enough until one reads his next sentence: “Just how important this condition is will be seen if we reflect that national economic integration (among the separate regions of one country) is unimaginable with fluctuating rates of exchange between, say, regional currencies.” The government’s answer to this “unimaginable” process of regional currencies is to establish a central monopoly of money creation coupled with a legal tender law.A single world bank with tender law to enforce it’s control over the entire face of the earth. And this is precisely the goal of international socialist planners: a single world bank with a legal tender law to enforce its control over the entire face of the earth. The planners want a “rational” world economy, but their faith is in bureaucratic rationalization — a bureaucratic hierarchical chain of economic command — and not the rationalization that is provided by a voluntary free market and its sophisticated computer, the free market price mechanism. As yet, they have not achieved such “rationalization” simply because all the nations want their own domestic, inflationary, autonomous “rationalizations.” Fixed exchange rates are as close as they can come to centralized world planning, so they tried it, by means of the International Monetary Fund, from 1947 until August 15, 1971. On December 19 they returned to the familiar policy of fixed exchange rates. Four months of international monetary freedom were all they could take.

Let the State Control Itself, Some Conservatives Argue

Why do conservative economists lend support to fixed exchange rates? Because they think that this is a form of statist intervention into the world market which can impose restraints on the state’s own policies of domestic inflation. The state, the argument goes, will control itself by law. To some extent, this may be true, temporarily. The fear of an international run on the dollar may have restrained the Federal Reserve System’s expansion of the domestic money supply from December 1968 through the spring of 1970. Officials may have feared the action of foreign central bankers in demanding gold at the promised price fixed by 1934 law of $35 per ounce. But this slowing in the money supply created an inevitable reaction: the stock market fell by one-third, and the government could no longer finance its debt through sales of bonds to individuals or private corporations. Therefore, the Federal Reserve stepped in once again to purchase the available government bonds at the preferred low-interest rate. A new wave of inflation began in the spring of 1970. The pressures on the American gold stock rose once again, and the President finally escaped on August 15, 1971 — or hoped that he had. He cut the dollar’s official tie to gold in international payments and left it free to float on the international markets. Of course, this act was a violation of International Monetary Fund rules, to which the United States is a party (or was). As Lenin said, treaties are made to be broken.The honoring of contracts is the very foundation of free exchange.

For a time, fixed exchange rates seem to restrain policies of domestic monetary inflation. But for how long? Franz Pick’s report lists devaluations every year, and there are a lot of them. They are international violations of contract —violations that call into question the whole structure of international trade. The honoring of contracts is the very foundation of free exchange. Apart from this, economic prediction becomes exceedingly difficult and productivity suffers. Thus writes Alfred Malabre:

International currency exchanges can transpire in various ways. One is through a system where Currency A can indefinitely be exchanged at a fixed rate for Currency B. This is the system that allegedly prevailed through most of the post-World War II era and to which most Western leaders now wish to return. Ideally, it’s a magnificent system, because it promises to eliminate uncertainty from international financial dealings. The widget maker knows, when he gets an order from abroad, that the money he will receive will be worth as much to him in the future as at present.

In practice, however, fixed-rate arrangements provide anything but certainty. Between 1944, when the present fixed-rate system was conceived at Bretton Woods, N.H., and mid-August [1971], when the system finally collapsed, 45 countries changed the international rates for their currencies. In some instances, changes were repeated many times, so that in all 74 currency-rate changes occurred.8

The problem with such devaluations, as Mises has shown, is that they create incentives for retaliatory devaluations on the part of other governments. “At the end of this competition is the complete destruction of all nations’ monetary systems.”9 If there were no fixed exchange rates in the first place, there would be no need for these governmentally imposed economic discontinuities.

International Stability, a Myth

The myth of international monetary stability is just that, a myth.The myth of international monetary stability is just that, a myth.  Stability can only be approached, like economic equilibrium, and then only by the free price mechanism. Exchange rates cannot be fixed without increasing the pressures for the radical discontinuities of revaluation and devaluation. That is why the IMF rules allowed for a 1 percent band, upward or downward, of flexibility in exchange rates. That is why rules imposed since December 19 allow a currency a plus or minus 2.25 per cent band. But fiat exchange rates cannot supply stability in a world of fiat currencies; they can only mask the extent of mutual inflation through an illusion, the illusion of fiat stability. And inevitably, the illusion will be broken, sooner or later, as on August 15.

Fixed exchange rates create an enormous temptation among men whose professional careers are, in a planned economy, dependent upon deception. Fixed exchange rates, themselves a practical absurdity in a world of fiat currency, create a premium on lying. When Sir Stafford Cripps promised that the pound would not be devalued throughout the first nine months of 1949, he led the people to believe that no devaluation was going to take place. And yet it did on September 18, 1949. John Connally had to admit his own part in a similar deception in his August 16 press conference. What else could we do, he pleaded. What else indeed? Once you start the big lie — that exchange rates can be fixed by law without serious economic consequences — you just cannot stop.


Any economist, of whatever school of thought, can tell you why bimetallism failed in the late nineteenth century. The legal parity between gold and silver, unless changed continually, could not match the true conditions of the forces of supply and demand between the two metals. Thus, one or the other precious metal was always in short supply at the fixed price. The attempt to enforce such a fixed ratio led to monetary disequilibrium — Gresham’s Law — in which the artificially overvalued currency drove the artificially undervalued currency out of circulation and into either hoards or foreign countries. Thus it is with every attempt of government at any kind of price control. Thus it is with fixed exchange rates.

Ask the economist who has just demonstrated to his own satisfaction that bimetallism is impossible since the state cannot successfully set a fixed exchange rate between gold money and silver money, to extend his analysis to dollars and pounds or francs and marks. Then watch him squirm. Logic, when applied to the case of gold and silver, somehow becomes inoperable when applied to dollars and pounds. Mises has an expression for this: polylogism. It is his most contemptuous expression. Mises, of course, subsumes exchange rate fixing under the general theory of exchange, thus following the logic of bimetallism through to the logic of the impossibility of permanently fixed exchange rates in international monetary transactions.”

Professor Mises long ago had demonstrated the utter bankruptcy theoretically of fixed exchange rates and their tendency to lead to national bankruptcy in practice. He did so in his 1912 classic, The Theory of Money and Credit, and in Human Action. The general theory of monetary exchange starts from a premise:

For the exchange ratio between two or more kinds of money, whether they are employed side by side in the same country (the Parallel Standard) or constitute what is popularly called foreign money and domestic money, it is the exchange ratio between individual economic goods and the individual kinds of money that is decisive. The different kinds of money are exchanged in a ratio corresponding to the exchange ratios existing between each of them and the other economic goods.”

In other words, if 1 ounce of gold is exchanged for 10 pounds of another commodity and 1 ounce of silver is exchanged for 1 pound of that same commodity, then the exchange ratio of gold to silver should be 1:10. Fifty years later, Mises was still saying the same thing:

The final prices of the various commodities, as expressed in each of the two or several kinds of money, are in proportion to each other. The final exchange ratio between the various kinds of money reflects their purchasing power with regard to the commodities. If any discrepancy appears, the opportunity for profitable transactions presents itself and the endeavors of businessmen eager to take advantage of this opportunity tend to make it disappear again. The purchasing power parity theory of foreign exchange is merely the application of the general theorems concerning the determination of prices to the special case of the coexistence of various kinds of money.Exchange rate theory is simply a subordinate application of the more general theory of price.

That last sentence is crucial. Exchange rate theory is simply a subordinate application of the more general theory of price. Mises continues: Let us consider again the practically very important instance of an inflation in one country only.

The increase in the quantity of domestic credit money or fiat money affects at first only the prices of some commodities and services. The prices of the other commodities remain for some time still at their previous stand. The exchange ratio between the domestic currency and the foreign currencies is determined on the bourse, a market organized and managed according to the pattern and the commercial customs of the stock exchange. The dealers on this special market are quicker than the rest of the people in anticipating future changes. Consequently, the price structure of the market for foreign exchange reflects the new money relation sooner than the prices of many commodities and services. As soon as the domestic inflation begins to affect the prices of some commodities, at any rate long before it has exhausted all its effects upon the greater part of the prices of commodities and services, the price of foreign exchange tends to rise to the point corresponding to the final state of domestic prices and wage rates.

This fact has been entirely misinterpreted. People failed to realize that the rise in foreign exchange rates merely anticipates the movement of domestic commodity prices. They explained the boom in foreign exchange as an outcome of an unfavorable balance of payments. The demand for foreign exchange, they maintained, has been increased by a deterioration of the balance of trade or of other items of the balance of payments, or simply by sinister machinations on the part of unpatriotic speculators.

The Speculator’s Role

The speculators perform a crucial set of services, contrary to popular opinion. They help balance the supply of and demand for future money. In doing so, they help to reduce the zone of uncertainty about the future. Second, they also alert citizens of any given country to the monetary policies of their own central bank. If the policies of monetary expansion are being pursued by the central bank, the speculators will reveal this fact, daily, to anyone wishing to consult a financial newspaper. The citizen receives information from an impartial source concerning the latest opinions of skilled, competitive and domestic monetary experts concerning the stability or lack of stability of his own country’s money. Because of this, the freedom of the international monetary speculator is as crucial to the defense of free institutions as one might imagine. Hamper his activities, and you have taken a sinister step away from freedom. The bureaucrats know this:

What those governments who complain about a scarcity of foreign exchange have in mind is, however, something different. It is the unavoidable outcome of their policy of price fixing. It means that at the price arbitrarily fixed by the government demand exceeds supply. If the government, having by means of inflation reduced the purchasing power of the domestic monetary unit against gold, foreign exchange, and commodities and services, abstains from any attempt at controlling foreign exchange rates, there cannot be any question of a scarcity in the sense in which the government uses this term. The steady movement of international exchange transactions in terms of an unhampered free market is basic to economic continuity. He who is ready to pay the market price would be in a position to buy as much foreign exchange as he wants.

But the government is resolved not to tolerate any rise in foreign exchange rates (in terms of the inflated domestic currency). Relying upon its magistrates and constables, it prohibits any dealings in foreign exchange on terms different from the ordained maximum price.

Radical economic discontinuities are difficult to predict—far harder than economic continuities. The steady movement of international exchange transactions in terms of an unhampered free market is basic to economic continuity. Impose fiat exchange rates, and you create the “stability plus devaluations” program which the Bretton Woods agreement imposed on the world. You create the “hot money” effect, as currency speculators are forced to anticipate radical jumps in the fiat exchange rates, thereby encouraging them to transfer billions of dollars or marks or pounds or francs from one country to another, trying to beat the imposition of September 18ths or August 15ths. It is a huge game of musical chairs, except that people’s lives — economically, politically, and physically —are at stake. In the 1949 edition of Human Action, Mises wrote, concerning “hot money”: “All this refers to European conditions. American conditions differ only technically, but not economically. However, the hot money problem is not an American problem, as there is, under the present state of affairs, no country which a capitalist could deem a safer refuge than the United States.” It is a testimony to the monetary inflation of the past twenty years in this country that Mises saw fit to drop that footnote from the 1963 and 1966 editions of his book.


Wouldn’t the establishment of a totally free market for international monetary transactions add elements of instability into international economic affairs? Emphatically no! What it would do is to present a highly accurate reflection of the economically irrational policies of fiat money creation that are being pursued with a vengeance by almost every government on earth. It would serve as an economic mirror which would answer truthfully the question, “Mirror, mirror on the wall, who has the most honest currency of them all?” Daily, the international money mirror would answer the truth and it would also give its guess as to the answer at any point in the future concerning any given currency. Like the wicked witch of Snow White, domestic magicians of fiat money resent that inescapable answer. So they buy themselves a new mirror — fixed exchange rates. Unfortunately, these fiat mirrors break periodically, causing great confusion, consternation, and windfall profits and losses to speculators. And, need we be reminded, everyone involved in foreign trade — prospective buyers of Volkswagens and Hong Kong toys included — is an international speculator.

Instability is the charge that is always made against the market by statist interventionists. Marx and Engels leveled precisely this criticism of the theory of capitalistic economics. Capitalistic distribution, they argued, is anarchistic.¹7 Such a view of capitalist processes stems from a fundamental misconception: supposedly, there are no laws of economics regulating the voluntary exchanges which take place in the free market, and therefore fiat state rules must be imposed on the “disorder” of market affairs. Everywhere these critics look, the free market tends toward instability — an instability defined as anything deviating from that model which a central planning board would impose on the economy. “Pass a law! Make it stable!” Not quite. “Pass a law! Make it rigid! Watch it break!” That’s it exactly; the breaks, in international monetary affairs, are called devaluations and revaluations. They happen all the time.

The Subsidy to Business

If you do not impose fixed exchange rates, we are told by various conservative economists as well as by neo-Keynesians, you will see the destruction of international trade. Businessmen apparently cannot afford to bear the terrible uncertainties associated with forward currency speculation. How do we know this? Because businessmen, who have become used to international price controls on money — fixed exchange rates — and who have learned how to make profits under such interventionist measures, constantly tell us so. Like the farmer who wants his subsidy (fixed parity prices guaranteed to him by the state for his goods), like the domestic producers of steel who want tariff subsidies, like the airlines that want price floors for their flights (whether international or domestic), like the labor union leader who wants compulsory bargaining legislation, the foreign trade entrepreneur wants his contract guaranteed by fixed exchange rates. He just cannot bear the uncertainties of future prediction, in spite of the fact that all entrepreneurial profit is a residual accruing to successful predictors.18 Instead, the state is supposed to bear the uncertainties of prediction. The state is supposed to worry about the rate of exchange of its currency with any other currency, at any time. The bureaucrat in a state office is supposed to take the responsibility that at a particular point in the future the currencies of the world will trade at certain fixed parities. Let the violent intervention of the state compel men on both sides of any border to accept each other’s currencies at a legal rate, and you have turned the economic affairs associated with international trade over to the bureaucrats. The entrepreneurs, by allowing state officials to bear the responsibility for certain aspects of international trade, thereby give to the state a great power over their businesses. Thus, citizens in every country lose their personal freedom to that extent.

Why is it that private entrepreneurs involved in international trade want the government to take over the responsibility for organizing the terms of the monetary exchanges which govern the operation of their businesses? This is a familiar tale. It is the old respected argument of the vast majority of people: let my suppliers compete, keep my competitors out of the market. Let others bear the burden of predicting the future. Subsidize me. I’m the important one. And governments do it. They take profits away from one group — international currency speculators — and guarantee the price of foreign exchange — almost. Unless there is a devaluation, of course. And then it is every man for himself and any port in a storm. (The port is usually Switzerland.)

Counting the Costs of Intervention

A key rule was laid down by Jesus to his disciples: count the cost (Luke 14:2730). He was speaking of spiritual matters, but as he so often did, he explained them in terms of familiar economic affairs. That principle has been the economic foundation of Western civilization, and especially of capitalism. It is, specifically, the inability of socialist economies to count the costs of anything that constitutes the most patent economic failure of socialism.19 It is the genius of the free market that it allows voluntary, flexible pricing of scarce economic resources. Apart from this free pricing mechanism, there can be no free market economy, by definition, and no economic calculation.

When a state inflates its monopolistically controlled domestic currency — which it could not do if it did not hold the monopoly — it creates many problems for the economy. It makes forecasting more difficult. This leads to the demand for more controls over the economy — to mitigate the effects produced by the very policies of monetary inflation. These controls are an attempt by bureaucrats to disguise these effects. The effects are called rising prices. The controls are called price and wage controls.

On August 15, 1971, the President of the United States announced the unmitigated failure of the IMF agreements of 1944. The gold exchange standard no longer operated, as it had for 25 years, to shield this country from the effects of its own policies of monetary inflation. So it was scrapped. Bretton Woods is dead, Arthur Okun announced a few hours later. Conservative economists — a few of them at least —had been saying that since 1945. The President announced that the cure for this unparalleled economic failure of international finance would be the complete abandonment of fixed exchange rates internationally. International price controls over the free exchange of money, we were told, were clearly leading to economic disaster. Indeed, that was exactly where such controls were leading, as all interference with prices will invariably lead.

Domestically, however, voluntary pricing had led to another disaster: higher prices. The President failed to mention that Federal deficits financed through Federal Reserve fiat money creation had caused prices to rise. So to “cure” domestic economic affairs, the President imposed price and wage controls. There is a peculiar sort of irony here. In order to cure an international economic disaster which had been caused by price controls, the President allowed the dollar to float. Controls on domestic prices are designed to hide the effects of those same policies of domestic monetary inflation.In order to cure the domestic economic disaster, the President imposed domestic price controls.

Controls in international monetary affairs are specifically designed by bureaucrats to hide the effects of policies of domestic monetary inflation. Similarly, controls on domestic prices are designed to hide the effects of those same policies of domestic monetary inflation. If the purpose of controls is to hide effects rather than to remove causes, then they involve the use of fraud.

What the advocates of a free market should desire is that the price system is left completely uncontrolled, in order that it might register the subtle and unsubtle shifts in economic external conditions. Only then can entrepreneurs predict the future with any degree of success. Only then will those who wish to buy at the best possible price be served. Everyone should count the cost of his actions. Price controls interfere with such cost accounting.

Exposing Inflation

Advocates of floating exchange rates may be advocates of domestic monetary inflation. But so can advocates of fixed exchange rates, as Keynes would seem to demonstrate. The issue is not whether floating exchange rates will make it easier for domestic governments to inflate. The issue is whether price controls are legitimate tools of government economic policy. If they are, then we can begin to examine the specifics of the arguments for fixed exchange rates. If they are not, then the debate is ended. For fixed exchange rates are, by definition, price controls.

Good economic theory results in good economic practice, as Mises and Hayek have explained repeatedly. We do not apply sound economic theory and produce economic disaster. Thus, it is possible to argue that free pricing in international monetary affairs will be beneficial to all citizens who wish to enter the market in order to make voluntary exchanges. Free pricing among the various national currencies will help to expose the policies of monetary inflation in any given nation, thereby adding incentives to citizens of that country to challenge their government’s policies. This, of course, assumes that citizens generally are economically rational and prefer good consequences to bad ones. It is easier for a man to count the costs of socialism in the monetary sphere if he can witness, daily, the statistics that chronicle the deterioration of the purchasing power of his money.

Let Citizens Own Gold

If a citizen can own gold, so much the better. If a free market in gold is allowed to operate, so much the better, for the price of gold, in relation to the citizen’s paper currency, will rise as a consequence of the continuing monetary inflation. This gives a citizen the opportunity to make a profit by taking his paper money to the local branch of the national Treasury and buying gold at the fixed, legal rate of exchange (which has become a legal fiction as a result of the monetary inflation).

Let citizens, rather than the state, profit from the higher price of gold. Let their desire to make a profit act as a barrier that helps to retard state officials in their inflationary policies, as the Treasury’s supply of gold decreases.

A fixed rate of exchange between gold and a currency is not the same thing as fixed rates of exchange between currencies. A fixed ratio between gold and any particular currency is definitional: a unit of paper money is said, by definition, to represent so much gold at a specific fineness. Free convertibility of a currency into gold requires a legalized fixed ratio of exchange; free convertibility of one national currency with any other requires a flexible rate of exchange set by the market. The former is a definitional relationship; the latter cannot be.

Obviously, the best possible world would be one in which no government has any monopoly of credit or money creation, where all citizens all over the globe have the right to own gold and make contracts in gold. But just because utopia has not arrived, there is no reason to abandon the theory of voluntary exchange at unhampered prices. The argument we hear so often today is this: “Given the government’s monopoly over money, given policies of deficit financing through monetary inflation, given domestic legal tender laws, we therefore need price controls over international monetary exchange.” Polylogism! The fact that we find ourselves in an increasingly socialistic economy in no way disproves the theoretical validity of free pricing — any time, any place, under any circumstance. If the theoretical (and therefore the practical) validity of free pricing is undercut in any way simply because of all the socialistic “givens” that we operate under, then Marx was right, Hegel was right, the German historical school of economics was right, institutional economics is right, historicism is right, and economic theory is wrong.

Multiple Interventions

There is a tendency, argues Mises, for one intervention by the state into the economy to lead to another intervention. The disruptions caused by the first intervention lead to cries for further political intervention to solve them. The state takes control of money, to “reduce the irrationality of the domestic money markets.” (And to arrogate unto itself ultimate sovereignty.) Then it inflates the currency in order to increase its own influence in the affairs of men by gaining access to scarce economic resources with the inflated currency. Then citizens refuse to accept the debased money. So the state’s officials pass legal tender laws. The money, now artificially overvalued, drives out both gold and silver. People prefer to trade in the artificially overvalued money and either hoard the gold and silver or send it abroad where it can purchase foreign goods cheaper than the domestic inflated currency can purchase them. As domestic goods climb in price due to the inflated paper currency, imports increase and dollars flow out; foreign central banks then raise the price of their currencies in relation to dollars. The United States government realizes that this exposes its policies of domestic monetary inflation and therefore presses for fixed exchange rates.

Then foreign governments, buried in dollars (at the artificially low price), begin to demand gold (held by our government at an artificially low 1934 price). One intervention leads to another, usually. But not always.

The exception came on August 15. Basically, the President had three choices. First, balance the budget and stop the monetary inflation — maybe even use the surplus of revenue over expenditures to reduce the national debt. Unfortunately for political purposes, such an action would have risked depression and high unemployment (given the previous policies of monetary expansion and the downwardly inflexible wage rates that prevailed in a unionized economy). Second, continuing the deficits, he could let all of our gold (their gold, really, given our promise to pay on demand) flow out. Third, the President could have established floating exchange rates and cut the redeemability of the dollar in terms of gold. This is exactly what he did. It involved a return to the free market pricing of international monetary exchanges. He believed that it was preferable to do this than to take either of the first two steps. In this sense, pressures internationally on the dollar forced the President to return to a policy which was closer to the free market than the policy of fixed exchange rates which had been established by the IMF in 1947. Naturally, to make the operation truly conservative, he should have maintained the free convertibility of gold provision and reestablished it domestically with American citizens. This did not detract from the basic move which he made; namely, to re-establish free floating exchange rates in which voluntary transactions of money internationally can prevail. By returning to fixed exchange rates on December 19, the President thereby abandoned the advance made on August 15, reestablishing the rigidities that lead toward economic discontinuities.

Yet what did we find between August 15 and December 19? Many advocates of free market economics were howling bloody murder! “Free pricing is fine, and all that, but, given prior interventions by the government….” Leonard Read is right: “We are sinking in a sea of buts.”

Return to Gold

What is the proper position with respect to valid international money? Clearly, a money system which is the product of free men, voluntarily exchanging scarce economic resources. Professor Murray Rothbard has given us a picture of what such a system might be: Why not freely fluctuating exchange rates? Fine, let us have freely fluctuating exchange rates on our completely free market; let the Rothbards and Browns and GMs fluctuate at whatever rate they will exchange for gold or for each other. On a really free market, there would be freely flactuating exchange rates, but only between genuine commodity moneys.The trouble is that they would never reach this exalted state because they would never gain acceptance in exchange money at all, and therefore the problem of exchange rates would never arise.

On a really free market, then, there would be freely fluctuating exchange rates, but only between genuine commodity moneys, since the paper name moneys could never gain enough acceptance to enter the field. Specifically, since gold and silver have historically been the leading commodity moneys, gold and silver would probably both be moneys, and would exchange at freely fluctuating rates. Different groups and communities of people would pick one or the other money as their unit of accounting.

Floating exchange rates reflect what the prevailing external economic conditions really are. The rule governing the operation of floating exchange rates is identical to the rule operating in all computer affairs: “Garbage in, garbage out.” If prevailing economic conditions on the international markets are inflationary, then floating exchange rates will respond appropriately, making the best of a very bad situation. If a full gold coin standard exists internationally, then floating exchange rates will make the best of a very good situation. Floating exchange rates are nothing more and nothing less than freely fluctuating voluntary prices on international markets (even if the primary participants are national central banks). Like all other forms of free pricing, floating exchange rates make things better than things would be under coercive price controls. Floating exchange rates should not be regarded as some kind of economic panacea for the world’s inflationary conditions, except insofar as free pricing is always a panacea in relationship to the conditions which exist under government-imposed prices. No matter what other external conditions may be —inflationary, deflationary, relatively stable, gold standard, fiat standard, electric money standard, or any other standard conceivable to the mind of man — free pricing is always preferable to fiat price controls. Always.

There is no doubt that domestic monetary inflation, especially if carried on by a majority of national governments, produces great uncertainties in international trade. There is also little doubt that floating exchange rates impose the burden of dealing with these economic uncertainties on the shoulders of those who wish to participate in international trade and who expect to profit from such voluntary exchanges. These people are precisely the ones who should bear the burdens associated with economic forecasting. They are all entrepreneurs. If they resent the uncertainties associated with international trade in a world of fiat money, then they should put pressure on their respective governments to restore a full gold coin standard domestically. They should not be lured by the siren call of statist price controls to reduce the visible effects of statist policies of domestic monetary inflation.

If we want stable exchange rates, then there is one way, and only one way to get them: each government must impose upon itself the restraint of the full gold coin standard, give up its monetary monopoly, return the right of gold ownership to its citizens, and spend only that money which is raised directly through taxation. That is the way to achieve the goal of international monetary stability — not rigidity, but calculable, predictable, moderate stability.²³ The rule of gold alone has proven itself to be a producer of international monetary stability. That rule, and not the rule of government bureaucrats, is the foundation of monetary stability.²4

The conclusion should be obvious: all advocates of free markets should call for solutions that promote economic freedom. If the proposed solutions do not promote free pricing on free markets, they are fallacious solutions. Fixed exchange rates limit the voluntary economic exchange of goods among free men. Therefore, fixed exchange rates are the wrong solution.


  • Dr. North is president of The Institute for Christian Economics in Tyler, Texas. He was FEE’s director of seminars in the early 1970s and has served as a member of the board of trustees.