First it was simply barter of goods. Then it was
discovered that gold held a universal attraction, and was a convenient
substitute for more cumbersome barter transactions. Not only did gold
facilitate exchange of goods and services, it served as a store of value
for those who wanted to save for a rainy day.
Though money developed naturally in the marketplace, as governments grew
in power they assumed monopoly control over money. Sometimes governments
succeeded in guaranteeing the quality and purity of gold, but in time
governments learned to outspend their revenues. New or higher taxes
always incurred the disapproval of the people, so it wasn’t long before
Kings and Caesars learned how to inflate their currencies by reducing
the amount of gold in each coin – always hoping their subjects wouldn’t
discover the fraud. But the people always did, and they strenuously
This helped pressure leaders to seek more gold by conquering other
nations. The people became accustomed to living beyond their means, and
enjoyed the circuses and bread. Financing extravagances by conquering
foreign lands seemed a logical alternative to working harder and
producing more. Besides, conquering nations not only brought home gold,
they brought home slaves as well. Taxing the people in conquered
territories also provided an incentive to build empires. This system of
government worked well for a while, but the moral decline of the people
led to an unwillingness to produce for themselves. There was a limit to
the number of countries that could be sacked for their wealth, and this
always brought empires to an end. When gold no longer could be obtained,
their military might crumbled. In those days those who held the gold
truly wrote the rules and lived well.
That general rule has held fast throughout the ages. When gold was used,
and the rules protected honest commerce, productive nations thrived.
Whenever wealthy nations – those with powerful armies and gold – strived
only for empire and easy fortunes to support welfare at home, those
Today the principles are the same, but the process is quite different.
Gold no longer is the currency of the realm; paper is. The truth now is:
“He who prints the money makes the rules” – at least for the time being.
Although gold is not used, the goals are the same: compel foreign
countries to produce and subsidize the country with military superiority
and control over the monetary printing presses.
Since printing paper money is nothing short of counterfeiting, the
issuer of the international currency must always be the country with the
military might to guarantee control over the system. This magnificent
scheme seems the perfect system for obtaining perpetual wealth for the
country that issues the de facto world currency. The one problem,
however, is that such a system destroys the character of the
counterfeiting nation’s people – just as was the case when gold was the
currency and it was obtained by conquering other nations. And this
destroys the incentive to save and produce, while encouraging debt and
The pressure at home to inflate the currency comes from the corporate
welfare recipients, as well as those who demand handouts as compensation
for their needs and perceived injuries by others. In both cases personal
responsibility for one’s actions is rejected.
When paper money is rejected, or when gold runs out, wealth and
political stability are lost. The country then must go from living
beyond its means to living beneath its means, until the economic and
political systems adjust to the new rules – rules no longer written by
those who ran the now defunct printing press.
“Dollar Diplomacy,” a policy instituted by William Howard Taft and his
Secretary of State Philander C. Knox, was designed to enhance U.S.
commercial investments in Latin America and the Far East. McKinley
concocted a war against Spain in 1898, and (Teddy) Roosevelt’s corollary
to the Monroe Doctrine preceded Taft’s aggressive approach to using the
U.S. dollar and diplomatic influence to secure U.S. investments abroad.
This earned the popular title of “Dollar Diplomacy.” The significance of
Roosevelt’s change was that our intervention now could be justified by
the mere “appearance” that a country of interest to us was politically
or fiscally vulnerable to European control. Not only did we claim a
right, but even an official U.S. government “obligation” to protect our
commercial interests from Europeans.
This new policy came on the heels of the “gunboat” diplomacy of the late
19th century, and it meant we could buy influence before resorting to
the threat of force. By the time the “dollar diplomacy” of William
Howard Taft was clearly articulated, the seeds of American empire were
planted. And they were destined to grow in the fertile political soil of
a country that lost its love and respect for the republic bequeathed to
us by the authors of the Constitution. And indeed they did. It wasn’t
too long before dollar “diplomacy” became dollar “hegemony” in the
second half of the 20th century.
This transition only could have occurred with a dramatic change in
monetary policy and the nature of the dollar itself.
Congress created the Federal Reserve System in 1913. Between then and
1971 the principle of sound money was systematically undermined. Between
1913 and 1971, the Federal Reserve found it much easier to expand the
money supply at will for financing war or manipulating the economy with
little resistance from Congress – while benefiting the special interests
that influence government.
Dollar dominance got a huge boost after World War II. We were spared the
destruction that so many other nations suffered, and our coffers were
filled with the world’s gold. But the world chose not to return to the
discipline of the gold standard, and the politicians applauded. Printing
money to pay the bills was a lot more popular than taxing or restraining
unnecessary spending. In spite of the short-term benefits, imbalances
were institutionalized for decades to come.
The 1944 Bretton Woods agreement solidified the dollar as the preeminent
world reserve currency, replacing the British pound. Due to our
political and military muscle, and because we had a huge amount of
physical gold, the world readily accepted our dollar (defined as 1/35th
of an ounce of gold) as the world’s reserve currency. The dollar was
said to be “as good as gold,” and convertible to all foreign central
banks at that rate. For American citizens, however, it remained illegal
to own. This was a gold-exchange standard that from inception was doomed
The U.S. did exactly what many predicted she would do. She printed more
dollars for which there was no gold backing. But the world was content
to accept those dollars for more than 25 years with little question –
until the French and others in the late 1960s demanded we fulfill our
promise to pay one ounce of gold for each $35 they delivered to the U.S.
Treasury. This resulted in a huge gold drain that brought an end to a
very poorly devised pseudo-gold standard.
It all ended on August 15, 1971, when Nixon closed the gold window and
refused to pay out any of our remaining 280 million ounces of gold. In
essence, we declared our insolvency and everyone recognized some other
monetary system had to be devised in order to bring stability to the
Amazingly, a new system was devised which allowed the U.S. to operate
the printing presses for the world reserve currency with no restraints
placed on it – not even a pretense of gold convertibility, none
whatsoever! Though the new policy was even more deeply flawed, it
nevertheless opened the door for dollar hegemony to spread.
Realizing the world was embarking on something new and mind boggling,
elite money managers, with especially strong support from U.S.
authorities, struck an agreement with OPEC to price oil in U.S. dollars
exclusively for all worldwide transactions. This gave the dollar a
special place among world currencies and in essence “backed” the dollar
with oil. In return, the U.S. promised to protect the various oil-rich
kingdoms in the Persian Gulf against threat of invasion or domestic
coup. This arrangement helped ignite the radical Islamic movement among
those who resented our influence in the region. The arrangement gave the
dollar artificial strength, with tremendous financial benefits for the
United States. It allowed us to export our monetary inflation by buying
oil and other goods at a great discount as dollar influence flourished.
This post-Bretton Woods system was much more fragile than the system
that existed between 1945 and 1971. Though the dollar/oil arrangement
was helpful, it was not nearly as stable as the pseudo gold standard
under Bretton Woods. It certainly was less stable than the gold standard
of the late 19th century.
During the 1970s the dollar nearly collapsed, as oil prices surged and
gold skyrocketed to $800 an ounce. By 1979 interest rates of 21% were
required to rescue the system. The pressure on the dollar in the 1970s,
in spite of the benefits accrued to it, reflected reckless budget
deficits and monetary inflation during the 1960s. The markets were not
fooled by LBJ’s claim that we could afford both “guns and butter.”
Once again the dollar was rescued, and this ushered in the age of true
dollar hegemony lasting from the early 1980s to the present. With
tremendous cooperation coming from the central banks and international
commercial banks, the dollar was accepted as if it were gold.
Fed Chair Alan Greenspan, on several occasions before the House Banking
Committee, answered my challenges to him about his previously held
favorable views on gold by claiming that he and other central bankers
had gotten paper money – i.e. the dollar system – to respond as if it
were gold. Each time I strongly disagreed, and pointed out that if they
had achieved such a feat they would have defied centuries of economic
history regarding the need for money to be something of real value. He
smugly and confidently concurred with this.
In recent years central banks and various financial institutions, all
with vested interests in maintaining a workable fiat dollar standard,
were not secretive about selling and loaning large amounts of gold to
the market even while decreasing gold prices raised serious questions
about the wisdom of such a policy. They never admitted to gold price
fixing, but the evidence is abundant that they believed if the gold
price fell it would convey a sense of confidence to the market,
confidence that they indeed had achieved amazing success in turning
paper into gold.
Increasing gold prices historically are viewed as an indicator of
distrust in paper currency. This recent effort was not a whole lot
different than the U.S. Treasury selling gold at $35 an ounce in the
1960s, in an attempt to convince the world the dollar was sound and as
good as gold. Even during the Depression, one of Roosevelt’s first acts
was to remove free market gold pricing as an indication of a flawed
monetary system by making it illegal for American citizens to own gold.
Economic law eventually limited that effort, as it did in the early
1970s when our Treasury and the IMF tried to fix the price of gold by
dumping tons into the market to dampen the enthusiasm of those seeking a
safe haven for a falling dollar after gold ownership was re-legalized.
Once again the effort between 1980 and 2000 to fool the market as to the
true value of the dollar proved unsuccessful. In the past 5 years the
dollar has been devalued in terms of gold by more than 50%. You just
can’t fool all the people all the time, even with the power of the
mighty printing press and money creating system of the Federal Reserve.
Even with all the shortcomings of the fiat monetary system, dollar
influence thrived. The results seemed beneficial, but gross distortions
built into the system remained. And true to form, Washington politicians
are only too anxious to solve the problems cropping up with window
dressing, while failing to understand and deal with the underlying
flawed policy. Protectionism, fixing exchange rates, punitive tariffs,
politically motivated sanctions, corporate subsidies, international
trade management, price controls, interest rate and wage controls,
super-nationalist sentiments, threats of force, and even war are
resorted to – all to solve the problems artificially created by deeply
flawed monetary and economic systems.
In the short run, the issuer of a fiat reserve currency can accrue great
economic benefits. In the long run, it poses a threat to the country
issuing the world currency. In this case that’s the United States. As
long as foreign countries take our dollars in return for real goods, we
come out ahead. This is a benefit many in Congress fail to recognize, as
they bash China for maintaining a positive trade balance with us. But
this leads to a loss of manufacturing jobs to overseas markets, as we
become more dependent on others and less self-sufficient. Foreign
countries accumulate our dollars due to their high savings rates, and
graciously loan them back to us at low interest rates to finance our
It sounds like a great deal for everyone, except the time will come when
our dollars – due to their depreciation – will be received less
enthusiastically or even be rejected by foreign countries. That could
create a whole new ballgame and force us to pay a price for living
beyond our means and our production. The shift in sentiment regarding
the dollar has already started, but the worst is yet to come.
The agreement with OPEC in the 1970s to price oil in dollars has
provided tremendous artificial strength to the dollar as the preeminent
reserve currency. This has created a universal demand for the dollar,
and soaks up the huge number of new dollars generated each year. Last
year alone M3 increased over $700 billion.
The artificial demand for our dollar, along with our military might,
places us in the unique position to “rule” the world without productive
work or savings, and without limits on consumer spending or deficits.
The problem is, it can’t last.