To prevent the Fed from “creating money out of thin air,” why does the United States not return to the gold standard?
The Fed’s ability to create money with virtually no resource cost is referred to as “creating money out of thin air.”It is as often as possible declared that such a capacity fundamentally prompts “to an extreme” cost expansion. The idea that gold cannot be “created out of thin air” implies that under a gold standard, there would be no temptation to overinflate. As a result, the only way to guarantee price level stability would be a return to the gold standard.
Sadly, price stability is not guaranteed by a gold standard. Simply put, it is a promise made “out of thin air” to hold the supply of gold and money together. Consider the following illustration to illustrate how fragile such a promise can be. On April 5, 1933, President Franklin D. Roosevelt mandated that all gold certificates and coins with denominations greater than $100 be exchanged for alternative currency by May 1 at a predetermined price of $20.67 per ounce.
A joint resolution of Congress was passed two months later to get rid of the gold clauses in many public and private contracts that said the debtor had to pay the creditor back in gold dollars of the same weight and fineness as the money they borrowed. The government price of gold was raised to $35 per ounce in 1934, effectively boosting the gold’s dollar value on the Federal Reserve’s balance sheet by almost 70%. The Federal Reserve was able to increase the money supply by the same amount as a result of this action, which caused significant price inflation.
This historical instance demonstrates that price stability cannot be guaranteed by the gold standard. In addition, the fact that inflation in the United States has remained low and stable for the past 30 years demonstrates that price stability is not dependent on the gold standard. Evidently, the credibility of the monetary authority to responsibly manage the economy’s money supply is more important to price stability than whether money is “created out of thin air.