Gold (7 page)

In 1861, when the costs of the Civil War were swallowing the federal gold stock, the United States suspended dollar redemptions. Instead of a convertible dollar, the Union issued a paper note, the infamous “greenback.” But in 1875, as the gold standard was consolidating its rule, the United States reinstituted gold convertibility, and set 1879 as the date for it to begin. As that date approached, however, a trade deficit with Europe meant that America faced the prospect of a rapid outflow of its gold. The Treasury was saved at the last minute by a European disaster: a late-spring frost wiped out French and English crops. Now the shoe was on the other foot.

As the cost of wheat shot up in Europe, America had a bumper crop. Gold moved from Europe to the United States to buy the needed food. So began a three-year boom in American farm exports, and a hefty boost to the gold reserve. But the gold standard operated with perfect impartiality in dealing out misery; the next twitch of international finance would almost ruin America.

In 1890, a banking crisis in Argentina rattled European confidence in overseas ventures. Investors began to sell American debt, exchanging their dollars for gold. Now gold flowed the other way, out of the government's vaults and onto ships and across the ocean to Paris and London and Berlin. By 1892 the American gold reserve had fallen to $114 million, dangerously close to the $100 million
level the Treasury had set as its minimum reserve. Once again the United States took the most drastic measure available: it halted gold payments.

The havoc that followed showed how radical and useless such an action was. The public concluded that the whole banking system was circling the drain, and started a run on the banks. The trade deficit with Europe widened to $447 million—a horrifying abyss. The interest rate for short-term money in New York climbed to 74 percent. The stock market fell apart. Four railroads went under, and 500 banks. Thousands of businesses failed. In this tempest of disaster, the United States was facing ruin.

The government had $40 million left in monetary gold, a store that was dwindling by $2 million a day. In the financial community, they thought it certain that the Treasury would fail. On the last day of January 1895, $9 million in gold bullion—almost half the reserve—sat on ships in New York Harbor bound for Europe. At the last possible moment, at the very brink of the abyss, the country was rescued from insolvency by one of the men that the public was blaming for the state of things, the greatest grandee of them all, the American prince—the financier J. Pierpont Morgan.

In American terms, the Morgans had been rich forever. They had not scrabbled their way out of poverty but had glided along a path to prosperity that began sixteen years after the arrival of the
Mayflower
at Plymouth, when Miles Morgan bought a farm at Springfield, Massachusetts, and set about, in the words of the family's chronicler, “spawning generations of land-owning Morgans.”

Morgan's father, Junius, moved to Boston in 1851 to expand his business into merchant banking. He enrolled his son at the English High School, admonishing him to make friends with those of the “right stamp.” Morgan was a lively, passionate, and moody youngster.
He was beset by sudden rashes on his face and suffered bouts of scarlet fever. In 1852 he was sent to the Azores to recover from a rheumatic disease that left one leg shorter than the other.

Banking then was a dynastic occupation. The great English banking families such as Baring and Rothschild fed a cult of personality that Walter Bagehot, a British journalist and commentator of the day, captured when he wrote: “The banker's calling is hereditary; the credit of the bank descends from father to son; this inherited wealth brings inherited refinement.”

Junius moved his headquarters to London in 1854. Morgan went to a school on Lake Geneva, and then to the University of Göttingen. Later he returned to America to become his father's eyes and ears on Wall Street.

Troubled throughout his life by his skin, and afflicted at times by nervous ailments and migraine headaches, Morgan nevertheless became the greatest banker in America, a tall, burly, laconic, and intrepid financier, prowling Wall Street behind the smokestack of a huge cigar. His yacht, the
Corsair II,
with its sleek black hull and yellow funnel, was said to be the largest private craft afloat. He collected bronzes, porcelains, watches, ivories, and paintings, rare books, manuscripts, and ancient artifacts. He bought rare furniture, tapestries, and armor. In two decades he spent almost a billion dollars in today's money indulging his passion for collecting. In his refinement, cosmopolitan upbringing, and fortune he was probably the only man in America that European bankers would accept as an equal, and for that reason, he was political poison in the United States.

Still a largely agricultural country, the United States was not the creditor it is today. It was a debtor nation. Its rural voters hated the eastern establishment bankers, whom they viewed as having enslaved America to British gold. The operation of the gold standard could
punish farmers by depressing prices, an effect they attributed to the wicked machinations of Europeans, abetted by American financiers. Such was the political temperature at the end of January 1895, as $9 million sat in New York waiting to be shipped to Europe.

As the sense of crisis heightened, Morgan held a meeting with August Belmont, Jr., the Rothschild agent, at the New York Subtreasury. Just the fact of the meeting of two such powerful financiers drained some of the tension from the situation. Overnight, the $9 million in bullion was taken from the ships and put back in the government's vault. But the relief was temporary. In Washington, the cabinet rejected a private bond offer put together by the two banking houses, and gold started leaving the Subtreasury again as skittish dollar owners cashed in their paper. Morgan boarded his private railway car and set out for Washington.

On arrival he went to the White House. He was told that the president, Grover Cleveland, would not see him. Morgan replied: “I have come down to see the president, and I am going to stay here until I see him.” He stayed in the White House all day. He returned to the Arlington Hotel, played solitaire all night, and in the morning walked back across Lafayette Square, and was shown into a meeting in the president's office. He sat there silently while Cleveland and members of his cabinet discussed the emergency. Finally a clerk came in and informed the secretary of the Treasury, John G. Carlisle, that the government was down to its last $9 million in gold coin. Morgan spoke up, informing Cleveland that he knew about a $10 million draft soon to be presented. “If that $10 million draft is presented, you can't meet it,” he said bluntly. “It will all be over before three o'clock.” Cleveland made the only sensible reply he could: he asked Morgan what to do.

Morgan's solution was his masterpiece—a $65 million bond to
be sold to a European syndicate organized by Morgan and the Rothschilds. Once the important European banking houses joined the syndicate, New York banks came in too. In exchange for a premium interest rate, subscribers agreed to pay for the bond in gold. Not only that, they promised to “exert all financial influence . . . to protect the Treasury of the United States against the withdrawal of gold” until the bond was paid off. It was a brilliant stroke. Morgan had kept America on the gold standard by suspending it. Without the need to redeem foreign-owned dollars in gold, the American treasury had time to restore itself.

F
OR ALL ITS HARSHNESS, THE
gold standard reigned over a period of economic expansion. Its gift to the industrializing and trading world was the credibility of one another's currencies.
The system solved two main problems.

First, it removed uncertainty about fluctuations in the value of a currency. With a currency defined in terms of gold, the holders of the currency could make rational decisions about the future, because they knew what the currency would be worth at any time. If they owned dollar bonds maturing in twenty years, say, they knew what the bonds would be worth because that value was expressible in terms of gold.

Second, the gold standard told central bankers what to do with monetary levers such as interest rates. Let's say the central bank's interest rate was low. Money poured out into the economy as borrowers took advantage of easy credit. The fresh money stimulated the economy, which was the object of the low interest. But when was the stimulus just right, and when too much?

On the gold standard, a central banker could see when prices in the stimulated economy rose too high, because the rise in prices made gold look cheap. Noticing this, dollar owners would start converting their currency into gold, taking advantage of the bargain. Gold left the Treasury, and in came paper money. But according to the gold standard, the amount of gold and the number of dollars had to tally at a certain ratio or there would not be enough gold to back the dollar. To stop the flood of paper money in and gold out, the central banker would have raised interest rates. Suddenly you could earn more by cashing in your gold for dollars, and investing the dollars in the economy. Gold flowed back in. Once things had matched up in the Treasury again, the central banker could ease off on interest, and so it went.

Proponents of a return to the gold standard are seduced by the apparent serenity of this monetary picture, and either forget, or think we should accept, the bloodshed in the background. Those who disagree with them consider gold a blunt instrument for monetary purposes today, when economic planners have an abundance of data, such as the consumer price index, to help them assess how a currency is doing. Against these more sophisticated measurements, then, gold is just not a good indicator.

There are other reasons too that economists think gold's hour has passed. In a growing economy, for example, a gold-backed currency has to cover a correspondingly growing number of transactions, and it can only do this if prices fall, which is deflation, a killer of jobs.

“Under a true gold standard, moreover,” writes
Barry Eichengreen, “the [Federal Reserve] would have little ability to act as a lender of last resort to the banking and financial system. The kind of liquidity injections it made to prevent the financial system from
collapsing in the autumn of 2008 would become impossible because it could provide additional credit only if it somehow came into possession of additional gold. Given the fragility of banks and financial markets, this would seem a recipe for disaster. Its proponents paint the gold standard as a guarantee of financial stability; in practice, it would be precisely the opposite.”

T
HE GOLD STANDARD WAS THROTTLED
to death on live TV on a Sunday night in Washington. Its crime: hamstringing the government into whose care it had been placed, that of the United States. In some ways the situation that led to the system's demise was a replay of the 1890s—a lousy American balance of payments and the sucking sound of large amounts of bullion leaving the Treasury. Yet in the intervening years the condition of the United States had changed almost beyond belief. It was the world's titan. Five years after the end of World War II, two thirds of all the monetary gold reserves in the world belonged to the American government.
It had 20,000 tons of bullion in its deep-storage vaults, such as the one at Fort Knox, Kentucky. Why would Americans, with such a gold position, sideline the power that the metal represented?

I have directed the Secretary of the Treasury to take the action necessary to defend the dollar against the speculators.

—Richard Nixon, address to the nation, August 15, 1971

A
S WITH ANY SATISFYING MURDER
story, we must set the stage for gold's last moment at the center of monetary life. We begin the story where so many really first-rate crimes have taken place—London. It is the Great Depression.
Gold is surging out of the Bank of England as foreigners, uneasy at Britain's prospects, take the cash and run. Things are so bad that King George V takes a £50,000 pay cut. When the government reduces naval pay, sailors at a base in Scotland go on strike. To foreign depositors, the word “mutiny” signals that a revolution is at hand. Forty million pounds in gold flies out of the central bank in a week. The Bank of England begs the government to allow it to stop redeeming notes in gold. Parliament passes the necessary legislation. Britain is off the gold standard!

Within days, forty-seven countries followed suit. A year later,
only five countries were still on the gold standard: France, Switzerland, the Netherlands, Belgium, and the United States. In the mood of panic, redemptions into gold began to churn through the system. In a single day the Belgian central bank took $106 million in gold from the U.S. Treasury and France took $50 million. A few weeks later the French came back for $70 million more. President Herbert Hoover warned that all the bullion “dashing hither and yon from one nation to another, seeking maximum safety, has acted like a cannon loose on the deck of the world in a storm.”

The man who would stop the rout of America's reserves trounced Hoover in the election of November 1932. In the practice of the time, Franklin D. Roosevelt, the victor, would not be inaugurated until the following March. In the lame-duck interregnum, much could happen . . . and did. The cannon that Hoover had identified kept smashing around on the deck. When one of the men tipped for Roosevelt's cabinet let drop that it might be smart to quit the gold standard, a run on the dollar took $320 million out of the Treasury in less than two months. Worse, some of those fleeing were Americans. Distrustful of Roosevelt, who refused to say what he planned to do, they cashed in their currency for gold. It wouldn't do them any good.

Roosevelt took office March 4, 1933. On March 9 he rushed through the Emergency Banking Act. The act gave the president the power to regulate ownership of bullion.
On April 5 he signed Executive Order 6102 “forbidding the Hoarding of Gold Coin, Gold Bullion, and Gold Certificates within the continental United States.” The order made it a crime for any individual, partnership, association or corporation to possess gold. The law exempted “customary uses” such as gold fillings for teeth, and rare coins in collections. All other gold was the government's, and owners had to
deliver it by May 1, twenty-five days after the signing of the order, when they would be paid the official government price of $20.67 an ounce.