How an Economy Grows and Why It Crashes

by Peter D. Schiff

At the 1944 Bretton Woods Monetary Conference, the United States persuaded the nations of the world to back their currencies with dollars instead of gold. Since the United States pledged to exchange an ounce of gold for every 35

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dollars, and it owned 80 percent of the world’s gold, the arrangement was widely accepted. However, 40 years of monetary inflation brought about by Keynesian money managers at the Federal Reserve caused the pegged price of gold to be severely undervalued. This mismatch led to what became known as the “gold drain,” a mass run by foreign governments, led by France in 1965, to redeem U.S. Federal Reserve Notes for gold. Given the opportunity to buy gold at the old 1932 price, foreign governments were quickly depleting U.S. reserves. In 1968, President Lyndon Johnson’s economic advisors argued that the gold drain resulted not from the attraction of bargain basement prices, but because foreign governments feared that U.S. gold reserves were insufficient to provide backing for domestically held notes and to redeem foreign notes. To dispel this anxiety, the president’s monetary experts advised him to remove the required 25 percent gold backing from domestic dollars so that these reserves would be available for foreign dollar holders. Presumably this added protection would assuage the concerns of foreign governments and would stop the gold hemorrhage. Irwin, then a young business owner in New Haven, Connecticut, thought their reasoning was absurd. Irwin sent a letter to Texas Senator John Tower, who was then a member of the committee reviewing the gold issue, explaining that the

United States faced two choices: force down the general price structure to bring it in line with the 1932 price of gold, or raise gold to bring it in line with 1968 prices. In other words, to adjust for 40 years of Keynesian inflation, America now had to either deflate prices or devalue the dollar. Although Irwin argued that deflation would be the most responsible course, since it would restore the lost purchasing power of the dollar, he understood that economists erroneously view falling prices as a catastrophe and that governments have a natural preference for inflation (as will be exp...

gold. In such a scenario, he felt that gold would have to be priced at $105 per ounce. He also feared a much more likely, and dangerous, third option: that the government would do nothing (which was precisely what they chose to do). Then as now, the choice was between facing the music or deferring the problem to future generations. They deferred, and we are the future generation. Tower was so impressed with the basic logic of his arguments, that he invited Irwin in to address the entire committee. At the hearings, all the highly place...

dollar, cause the price of gold to fall, and usher in an age of prosperity. In his testimony, Irwin asserted that the removal of gold backing from U.S. currency would cause gold prices to soar. But more importantly, he warned that a currency devoid of any intrinsic value would lead to massive inflation and unsustainable government debt. This minority opinion was completely ignored, and gold backing was removed.1 Contrary to everything the economists had predicted, the availability of additional reserves failed to stop the outflows of gold. Fina...

became completely based on worthless money. Over the next decade, the United States experienced the nastiest outbreak of inflation in our history...