It’s truly horrifying that he may have actually filled impressionable young minds with this garbage. There was no such nineteenth century dilemma. A brief article does not allow me to go into the history of the gold standard in great detail, but I can say that nineteenth century British governments did not concern themselves with “macroeconomic policy” as we understand it.

Quiggin should know that exchange rates were not fixed because by definition there can only be one currency if the world is on a gold standard. Therefore so-called currencies are merely names for definite units of gold. For example, the pound sterling was slightly less than 1/4 of a gold ounce and the American dollar was defined as 1/20 of a gold ounce. Yet he later admits this to be the case. He explains the gold standard process in the classical terms that are usually attributed to David Hume’s Political Discourses 1752, correctly explaining that

If a country’s income fell because exports declined or investors wished to withdraw their capital, gold stocks would run down. Banks would then raise interest rates until they could attract sufficient deposits of gold to meet the demand. The increase in interest rates would depress economic activity and lead to deflation; that is, a reduction in the general level of prices and wages. With fixed exchange rates, deflation made exporting progressively more attractive and importing less attractive, until the initial shock was counterbalanced and equilibrium was restored at a new, lower price level.

If Quiggin had actually done his homework he would have known that in the 1920s Professor F. W. Taussig of Harvard discovered that the gold standard worked far more smoothly and faster than the classical theory predicted would happen through adjustments in monetary stocks and general prices. This discovery strongly suggested that the classical theory was incomplete. As Professor Lloyd A. Metzler pointed out:

Even before the [Keynesian] theory of employment was developed, historical studies thus indicated that the balancing of international payments and receipts might be at attributable to economic forces not considered in the classical theory...the missing link in the classical theory became almost self-evident: …[it] was found to be largely the result of induced movements of income and employment. (Theory of International Trade, in Howard S. Ellis [ed.) A Survey of Contemporary Economics, 1948).

What this boils down to is that the gold standard was an astonishingly successful monetary regulator that did not require the intervention of central banks, particularly the Bank of England. A fact that was hit upon by J. J. Polak of the IMF. He was a Keynesian-trained economist who made an effort in 1957 to integrate monetary and credit factors into the established Keynesian income-expenditure framework.

He found that by implementing a policy of credit expansion a country would raise nominal incomes. In doing so, however, it would also generate a current account deficit. He concluded that increasing the money supply would change the demand for domestic and foreign goods, services and securities before any significant change in general prices occurred.

Two points are now clearly evident. Firstly, Quiggin’s description of the classical explanation of the gold standard specie-flow mechanism is redundant. Secondly, we can see even more clearly that the “macroeconomic policy independence” that is apparently needed to maintain full employment is nothing but an out-and-out policy for inflation.

It can, for instance, be argued that the series of serious depressions that followed the end of the Napoleonic War are an indictment of the gold standard’s failure to stabilise the economy. However, closer inspection reveals that each boom-and-bust episode was preceded by the banking system deviating from the gold standard. This deviation caused a gold drain forcing the Bank of England to take deflationary measure.

But it was this very bank that generated these financial crises. This makes complete nonsense of Quiggin’s claim “Fixed exchange rates and free movements of capital (in the form of gold) were achieved at the cost of cycles of booms and busts, about which governments could do nothing”. It also completely refutes Quiggin’s ridiculous claim that the gold standard “did not work particularly well.

The 1823-25 boom is a vivid example of the Bank’s recklessness. In 2 years it expanded credit from £17.5 million pounds in August 1823 to £25. million in 1825. An emerging gold drain in late 1824 made it clear that another inflationary boom was underway. In “Black December” 1825 the crash struck. The British historian Paul Johnson called it “the first world financial crisis”. (The Birth of the Modern: World Society 1815—1830, The Guernsey Press Company LTD, 1992).

The railway mania of 1845-46 was is probably Britain’s most notorious boom. At its peak the total value of British shares were estimated at £500 million, some five times greater than Europe’s cash base. How did this come about? In the early 1840s the Bank of England let loose with the money supply, lowering its discount rate from 4 per cent to a ridiculous 2.5 per cent.

The result was predictable. From the end of 1844 to about February 1846 its discounts rose from about £2 million to over £13 million pounds while bank credit jumped from $22 million to nearly £36 million. What we had here is a massive credit expansion in which discounts rocketed by about 464 per cent and bank credits by 64 per cent, even though there was only a modest increase in the note issue thanks to Peel’s 1844 Bank Act.

(Unfortunately, by accepting the currency school error of denying that checking accounts are money Peel inadvertently allowed the Bank of England to circumvent the Act).

So where did a most of this money go? Into ‘hi-tech’ speculation, i.e., railway investment. More than £180 million were poured into railway schemes in 1845 and 1846, about twice the investment of the previous 10 years. By September 1847 it was all over. Almost as if it were describing the 1990s The Economist painted a dismal picture of the boom, contemptuously referring to

the folly, the avarice, the insufferable arrogance, the headlong, desperate, and unprincipled gambling and jobbing, which disgraced nobility and aristocracy, polluted senators and senate houses, contaminated merchants, manufacturers, and traders of all kinds, and threw a chilling blight for a time over honest plod and fair industry.

(I regret this somewhat lengthy digression into the gold standard and nineteenth century economic history but I feel that Quiggin’s lousy treatment of the gold standard made it necessary. I should also like to say that I think its a great pity that the bullionist debate that was triggered by Walter Boyd’s Letter to Pitt the Younger (1801) is not studied by today’s economic commentators, most of whom seem to think they know it all).

That England allowed the free flow of capital is perfectly true and something for which the world should be grateful. As for “tight constraints on macroeconomic policies” I am not sure what Quiggin means, unless he thinks taxes and government spending were too low. His argument that the ‘Keynesian era’ meant that capital flows had to be restricted so that governments would be free to implant macroeconomic policies that were needed to maintain full employment is pure Keynesian bulldust was shown by Metzler and Polak.

Keynesianism works its black magic by reducing the cost of labour relative to the value of its marginal product. In plain English, it uses inflation to price labour back into work or, as the late Professor W. H. Hutt put it: “withheld capacity is released”. (The Keynesian Episode: A Reassessment, LibertyPress, 1979). This sleazy remedy has the effect of generating “balance-of-payments problems”, exchange rate fluctuations, runs on currencies and capital outflows.

He went on to smugly declare that “the free market economy of the 19th century failed”, proving not only his ignorance of economic history but the depressing fact that committed socialists, like all cultists, are impervious to reality. We then get the snide comment that “few advocates of globalisation favour a return to unrestricted migration”, insinuating that today’s free traders, unlike their nineteenth century predecessors, are hypocrites for opposing open borders. What he deliberately ignored is that free trade does not and never has involved open borders. Moreover, it is ridiculous to suggest that the great division of labour and capital that emerged in the nineteenth century was based on an international free flow of labour.

Quiggin’s assertion that “the global mobility of capital has weakened public control over the domestic economy and intensified pressure for free market ‘reforms’” is more lefty claptrap. What this seems to amount to is that capital mobility has restricted the use of Keynesian policies. Alas, if this were only true. In any case, by public control he really means state control. This kind of rubbish always reminds of such brilliant socialist ’experiments’ like Cuba and North Korea.

Quiggin argued that free markets are not self-regulating. (Maybe that’s because governments are not using one of his “well-designed industry policies”). But a history of the gold standard, of which he knows very little, reveals that they are. Moreover, the financial problems he complains about are, as we can see from the experiences of the nineteenth century, not caused by free markets but loose monetary policies inspired by Keynesian thinking.

It is true, as he says, that “defenders of free capital movements have argued that the crises were all the fault of the governments concerned”. They are absolutely right — but for the wrong reasons. These defenders of the market are no more equipped to debate this subject in an informed manner than he is to argue the so-called link between the gold standard and the boom and bust cycle.

In a pathetic attempt to blame capital flows as the problem while basically ignoring the motive force behind such flows Quiggin states that “Keynes identified the instability of domestic investment as the main source of boom and bust cycles”. The reality is that Keynes had more than one explanation for the Great Depression. Additionally, it was Hayek and Mises who successfully predicted the crisis and not Keynes. Furthermore, they explained what would cause it: they were right and Keynes was wrong. But these are facts that Quiggin, being the leftwing cultist that he is, refuses to debate.

As expected he supports the Tobin tax. This is a tax on financial transactions — the more intelligent among us would call it a tax on capital accumulation, particularly in poor countries. To tax these transactions is to tax capital goods! This policy would reduce the international division of labour and capital which in turn would exert a downward pressure on global living standards. Such a policy would obviously be a direct attack on the living standards of poor countries.

Allow me to recap: Instability in capital markets is caused by the inflationary policies of central banks — not free markets. Quiggin’s attempt to use the gold standard support to a contrary view is completely untenable and devoid of any redeeming intellectual features. In fact it is an intellectual disgrace.

Although I realise that some readers may think I have been too harsh with Quiggin they should bear in mind that it is incumbent on anyone who enters the public arena to know his stuff. Quiggin does not — nor is he interested in learning it. Unfortunately he is not alone in his wilful ignorance. Australia’s rightwing panjandrums are as close-minded and conceited as he is. Hence their disgraceful failure to refute Quiggin’s dangerous nostrums might, to the detriment of Australia, result in them gaining popularity within the Labor Party. Should this situation come to pass we shall know whom to blame.

Note: Quiggin’s statement that from “1945 to the end of the 1960s, the Bretton Woods system functioned effectively in most developed countries, in association with Keynesian macroeconomic policies” is pure rot. Germany, for example, eschewed Keynesian policies.

Gerard Jackson is Brookes’ economics editor