The Crisis (Pt 8)

The dollar system, gold and the U.S. empire

The current international monetary system is a system of “fiat currency” centered on the U.S. dollar. It is bound up with the financial, political, and military system unofficially called the U.S. empire. To maintain the empire, the U.S. spends about 10 times more on its annual “defense” budget than any other country. Therefore, when it comes to raw military power, especially firepower and the ability to project it around the globe, the U.S. is a military power second to none. Unlike in the pre-1945 world, no other imperialist power can even think of challenging the U.S. militarily.

The U.S. empire in its modern form — in contrast to the North American U.S. proper and the relatively small but growing colonial empire that the U.S. had been building since the Spanish-American War of 1898 — dates to the lopsided victory of the U.S. over Nazi Germany (1) and Imperial Japan in 1945. Thereafter, and this was confirmed in the Suez Crisis of 1956, [link to posts which discuss this] no other imperialist power can undertake a major military operation without U.S. approval.

This emerging situation enabled the U.S. at the Bretton Woods Conference — held in Bretton Woods, New Hampshire, in 1944 — to establish the U.S. dollar as the world currency and the U.S. Federal Reserve System as the world central bank. The dollar remains the world currency even though the U.S. dollar since 1971 has not been convertible into gold.

Originally, the U.S. built up a huge gold hoard by running balance of trade surpluses that were the result of the superior productivity of its industrial, extractive and agricultural enterprises. The size of the U.S. gold hoard was further increased in the 1930s when with a new European war looming, European capitalists moved much of their gold to the U.S. in exchange for U.S. dollars. Some European governments moved their gold reserves to the U.S. for safekeeping as well.

The international monetary crisis of the 1960s

The U.S. gold hoard began to shrink in the late 1950s and the 1960s. Due to the rapid expansion of capitalist industry in Western Europe, especially West Germany, and Japan, the U.S. export surplus shrank radically. The shrinking trade surplus could no longer cover the growing export of capital in search of higher rates of interest and profit plus the massive expenditures of the U.S. military abroad. In the 1960s, these military outlays included the Vietnam War.

As a result, the U.S. began to run a deficit in its balance of payments on current account, causing dollars to accumulate in the European and the Japanese central banks. This situation encouraged money capitalists to speculate on a coming rise of the dollar price of gold — then at $35 an ounce, a far cry from the $1,700 per ounce the dollar price of gold has been fluctuating around in recent weeks (May-June 2020). Under the Bretton Woods agreement, while there were mechanisms to adjust exchange rates between currencies, there was no agreed mechanism to change the dollar price of gold.

The international monetary crisis that developed in the 1960s came to a head in August 1971 when the Nixon administration “temporarily” closed the “gold window.” The question was then posed whether the U.S. dollar, now that it had lost its international convertibility with gold, could continue to function as the world currency. If the answer had been in the negative, the U.S. would have had to close down its many military bases abroad and in effect end its military occupations of Germany and Japan, which happen to be the strongest economic competitors of the U.S. The once-mighty British Empire was progressively dismantled in the face of repeated crises of the British pound-sterling in the 1950s and the 1960s.

However, in the early 1970s, as the U.S. dollar was losing its convertibility into gold, the Saudi oil monarchy announced that it was depositing its “petrodollars” in U.S. dollar-denominated assets — mostly in U.S. bank accounts. This, combined with the “Volcker shock” of 1979-82, enabled the U.S. empire, to successfully shift from the dollar gold-exchange standard that had dominated the early post-World War II world to the “fiat money” dollar standard. The world was thus condemned to many more decades of U.S. domination.

As I mentioned last week, when the U.S. went off the gold-exchange standard it rejected Milton Friedman’s advice to liquidate its gold reserve. As practical people, U.S. policymakers, unlike the dogma-bound Friedman, realized and still realize the power of gold. This is true even if they can’t explain scientifically why a pile of gold bars can exercise such enormous power over human affairs. For that, we need Marx, who explained in “Capital” and other works the seemingly almost magical power of gold.

U.S. policymakers abandoned the gold-exchange standard not to liquidate its gold hoard but rather to save it. While the U.S. government put pressure on its “allies” to sell their gold for dollars to prop up the U.S. dollar, it was careful to hold on to its own gold reserve despite the learned advice of Professor Friedman and today’s supporters of Modern Monetary Theory.

The U.S. gold reserve

The U.S. gold reserve has two layers. One is the gold owned by the U.S. Treasury and stored in Fort Knox and other tightly guarded vaults. In March 2020, the gold directly owned by the U.S. government came to 8,133.53 metric tons. This was more than twice the size of the German gold reserve, which was only 3,364.18 metric tons. China’s gold reserve was considerably less at 1,948.32 metric tons. Therefore, when it comes to the amount of gold owned by its central government, the U.S. is way ahead of its nearest rivals, just like it is well ahead in terms of military spending.

But these figures aren’t the whole story. The second layer is the gold reserves owned by governments or central banks of other countries kept in the U.S. and held in a vault under the Federal Reserve Bank of New York. In 2019, this came to 5,620 metric tons of gold. According to Wikipedia, 98 percent of this gold was owned by 36 foreign governments. The rest of this hoard stored in the vault of the New York Fed is owned by U.S.-controlled organizations such as the International Monetary Fund as well as the U.S. government itself. Though most this gold does not belong to the U.S. government or the Federal Reserve System (2), these gold bars can always be seized by the U.S. government if it ever deems it necessary to do so. As the saying goes, possession is nine-tenths of the law.

Aware of this fact, some governments in recent years, including the government of Germany, have moved to repatriate their gold. Large as the gold hoard is under the Federal Reserve Bank of New York, it was almost twice as large in 1973 when it hit 11,000 metric tons. This hoard has shrunk partially due to gold sales by other countries and partially due to gold repatriations by foreign governments in recent years.

Since the suspension of the convertibility of the U.S. dollar into gold beginning in 1971, the distribution of world gold reserves no longer reflects the distribution of the world’s productive forces. It rather reflects the radically different distribution of the productive forces that existed almost 50 years ago. This situation is a source of tremendous potential instability, which will sooner or later erupt in the form of currency, credit, and general economic crises still to come. To understand why this is true, let’s see what role the U.S. gold reserve plays under the fiat dollar standard.

Inhibiting speculation against the dollar

Money capitalists who speculate on a rise in the dollar price of gold have to take into consideration the possibility that in a future crisis the U.S. government might dump some of this gold on the market causing a sudden sharp drop in the dollar price of gold. (3) This inhibits, though it certainly does not stop, speculation against the dollar.

If a sudden run on the dollar into gold occurs that triggers a currency devaluation-driven surge in inflation such as we saw in 1979-80, the U.S. government and the Federal Reserve System can respond in one of two ways. The first is that the Fed can greatly restrict its creation of new dollars or even destroy some of the dollars previously created, driving up the rate of interest on the open money market. If the rise in interest rates is great enough, any run against the dollar into gold will be broken. This is exactly what the Fed did with considerable success during the “Volcker shock” crisis. The problem with this “solution” is that it induces recession and mass unemployment. The currency is saved but at the price of destroying much of the real economy.

The other possible response is for the U.S. Treasury to sell off some of its gold reserve, or perhaps bully its imperialist satellites to sell off some of their gold. If enough gold is dumped on the open market, a run on the dollar into gold will at least temporarily be broken as expectations on the gold market shift from sharply higher to sharply lower dollar gold prices in the nearest future. The problem with this “solution” is that it runs down the gold reserves.

If gold reserves were to become completely depleted, gold sales would have to end. In the absence of a sharp rise in interest rates, that would drive demand for gold into a frenzy causing inflation and then interest rates to soar, with all the dire consequences for the rate of unemployment and the real economy.

In practice, in the event of a dramatic run-up in the dollar price of gold in a short period, the U.S. government and the Federal Reserve System would probably make use of both these weapons. By selling some gold, they would limit the necessary rise in interest rates and therefore use the gold reserve to minimize the resulting damage to the real economy. (4)

The currencies of all other countries are largely backed by U.S. dollars — or U.S. Treasury bills that can be quickly converted into dollars — accumulated in foreign central banks. For countries other than the U.S., their hoards of U.S. Treasury bills that can be quickly converted into U.S. dollars on the open market play much the same role that gold does for the U.S. By holding their reserves in Treasury bills rather than gold, foreign central banks have the further advantage of earned interest on their dollar reserves. These days, however, the rate of interest on Treasury bills is very low.

But there is a price to be paid if a country holds its reserves in U.S. dollars rather than gold. The periodic devaluations of the dollar against gold since the international monetary crisis of the late 1960s have cost these central banks a major devaluation of their reserves. Of course, since the end of the 1960s, there have been periods when the U.S. dollar has risen against gold. But the value of the U.S. dollar has fallen much more during “bull markets” in gold than it has risen during “bear markets” in gold.

There is another problem for countries holding their reserves in dollars rather than gold. The U.S. government has made clear that it considers any move by central banks and governments to sell off dollar-denominated assets in favor of gold an “unfriendly move.” This tends to establish a relationship of subordination to the U.S. for a government holding its reserve in dollars. If a country holds its dollars in the form of U.S. Treasury bills, which is the general practice, the U.S. government also has the power to refuse to pay these Treasury bills in U.S. dollars.

This is something that the U.S. cannot do with bars of gold bullion, assuming of course that the country in question maintains physical possession of the gold it owns on its territory and does not store the gold in the vaults of the Federal Reserve Bank of New York or the Bank of England. That this is not merely a theoretical possibility has been shown by the refusal of the Bank of England to return the gold owned by Venezuela to the democratically elected Venezuelan government. (5)

Because of the dollar’s role as a world currency, it is “backed” by virtually all the mined and refined gold in the world that can potentially be melted down to bullion and sold for dollars. This is why periods of declining or stagnant gold production that slow the rate of growth of the world’s gold supply have turned out to be periods of great instability for the U.S. dollar. (6) Such periods have under the dollar system been without exception periods of great global financial and economic instability ending in deep worldwide recessions.

However, there is a significant difference between gold bullion in the hands of private hoarders and the hoard of gold owned outright or controlled by the U.S. government. In the event of a major run on the dollar into gold, the gold controlled by the U.S. government can be deployed in a centralized way to fight the run. The private hoarders, however, act only according to their private interests. Therefore, if a sudden run on the U.S. dollar into gold occurs, the U.S. government would likely sell off enough of the gold it controls to break the run, minimizing the rise in interest rates that would be necessary to again stabilize the U.S. dollar.

In contrast, private hoarders would purchase even more gold fueling the run, which would lead to a far greater rise in interest rates and greatly aggravate the damage to the real economy, which among other things would lead to a much higher rate of unemployment. Therefore, from the viewpoint of their interests in preserving the U.S. world empire, U.S. policymakers today are much relieved that their predecessors at least had the wisdom to reject Milton Friedman’s advice to sell off the U.S. gold hoard and are unlikely to listen to the supporters of Modern Monetary Theory when they give them the same advice today.

Short-run movements in the dollar price of gold under the dollar system

In the long run, a rise in the monetary base — currency created directly by the central bank — over the rise in the quantity of gold bullion will lead to the depreciation of the currency as reflected in the currency price of gold. This is well illustrated by the rise of the dollar price of gold from $35 in the late 1960s to around $1,700 an ounce today. But what is true in the long run is not necessarily true in the short run. As we have seen, under a crisis condition where the role of the currency as a means of payment trumps everything else, the central bank has considerable leeway to increase the quantity of its currency without it immediately depreciating.

Also, at the beginning of the industrial cycle, capitalists are looking forward to a rising rate and mass of profit. The rise in the rate of surplus value caused by the mass unemployment of a recession/crisis plays no small role here. The current bull move on the world stock exchanges reflects the impact today’s tens of millions of unemployed is expected to have on the rate of surplus value and therefore on the rate of profit. Gold bullion represents money but not money capital. The ownership of gold bullion does not entitle its owner to an atom of surplus value. Gold bars gathering dust by definition bear a gold rate of interest and profit of zero — and since there are storage costs, the rate of profit on gold bullion is slightly negative.

Even if this rising rate of surplus value cannot for the time being be realized in the form of money profit, the capitalists have good reason to believe that the expected increase in the rate of surplus value will yield the owners of capital — but not of gold bullion — vast profits. This encourages capitalists to sell hoarded gold bullion at the existing currency price of gold and purchase corporate stock that “entitles” them to a share of a sharply rising rate and mass of profit.

In the lingo of the financial media, the “appetite for risk” increases even before the profits begin to materialize. This profit-driven “growing appetite for risk” tends to postpone the depreciation of the currency in the early and middle stages of the industrial cycle. However, if the central bank fails to destroy currency above the increase in the quantity of gold represented by ongoing gold production, the currency price of gold will rise as the industrial cycle once again approaches the crisis phase. The takeaway is that we are likely to see a major new crisis of the U.S. dollar down the road, though not necessarily in the immediate future. More on this next week.

Ben Bernanke’s strategy during the last industrial cycle

When faced with the initial seizing up of credit markets in July-August 2007, the Ben Bernanke leadership of the Federal Reserve System was determined to avoid what it viewed as the mistakes their predecessors made in 1929-33 but also during the 1970s.

Bernanke on the eve of the Great Recession specifically endorsed Milton Friedman’s analysis that claimed to prove that the Fed’s mistakes were responsible for the Depression. There was, according to Friedman and Bernanke, nothing wrong with capitalism but only with the policy of the Federal Reserve Board, a government agency. (7) Bernanke was also aware of the “mistakes” the Fed had made in the opposite direction during the 1970s stagflation. The Fed chief was determined to avoid these mistakes as well.

During the initial phase of what was later dubbed the Great Recession — from the first initial freeze-up of credit markets in 2007 until September 2008 — the markets were giving off conflicting signals. The developing credit crisis pointed to the danger of deep recession and even deflation, defined here as falling dollar prices of commodities.

The classic response to such a situation from the Fed was to flood the banking system with newly created dollar reserves. However, dollar gold prices were spiking as were the dollar prices of primary commodity prices as well as the producer price index — wholesale prices. This pointed toward not dollar price deflation but rather a new wave of dollar price inflation.

The classic response to the threat of inflation was to check the rate of growth of Federal Reserve-created dollar reserves or even reduce them. The only thing that had stopped the accelerating inflation of the 1970s was the Volcker shock, named after the late Fed chairman Paul Volcker (1927-2019), a Democrat appointed head of the Federal Reserve by Democratic President Jimmy Carter in July 1979.  (8) Volcker had allowed interest rates to rise sharply to completely unprecedented levels.

Other policies had been tried to halt the inflation that ranged from mandatory wage-and-price controls under Richard Nixon to the encouragement of people to wear WIN buttons — “whip inflation now” — under President Gerald Ford. But only Volcker’s medicine worked, though that medicine had initiated the “de-industrialization” of the United States economy.

In the summer of 1979, the U.S. economy was slowing down and a recession was threatening only four years after the deep recession of 1973-75. Classic Keynesian theory indicated that since the employment of workers and machines was at a lower level than desired by the Carter administration, the Fed should resist any move to raise interest rates further.

The only problem was that as inflation accelerated the Fed had to purchase more and more short-term government securities for its portfolio to keep the fed funds rate and other market interest rates, both long- and short-term, from rising. Therefore, if the Fed stuck to the traditional Keynesian policies, it would end up accelerating the rate of growth of Fed-created dollars — and indirectly of the checkbook dollars created by the commercial banking system through its loans. Under the economic conditions for the time, this was a formula for inflationary disaster.

Milton Friedman and the quantity theory of money

Milton Friedman, considered the chief theoretician of what today is called neo-liberalism, claimed that there was nothing wrong with capitalism at all. He blamed the Depression of the 1930s entirely on the failure of the Fed to create enough dollars in 1929-33 and the inflation of the 1970s on the Fed creating “too many” dollars. Instead of the Federal Reserve System changing the rate of the growth of the dollars it created in response to the alternating phases of the industrial cycle, Friedman believed that the Fed should fix the rate of growth of the dollars it created. The “free market,” which Friedman worshiped, would then take care of the rest.

There would, Friedman conceded, still be some fluctuations of business activity, but the major force behind economic fluctuations in the rate of growth were changes in the “money supply,” defined as both Fed-created dollars plus commercial bank-created “checkbook dollars.” Friedman wrongly believed that the growth of the money supply defined in this way was well within the powers of the Fed to determine. As a result, according to Friedman, if the Fed fixed the rate of growth of the money supply, business fluctuations would be minimal.

Friedman held to a modified version of the quantity theory of money that in the 1970s was called “monetarism.” The classic quantity theory of money held that changes in the quantity of money affected only the nominal levels of prices and wages but had no effect on production and employment. This view is called the “neutrality of money.” Friedman amended this to read that in the long run changes in the quantity of money affect only nominal prices and wages. Therefore, according to Friedman, in the long run, money is “neutral” but it is anything but neutral in the short run.

In the short run, changes in the quantity of money, according to Friedman, had a major effect on the level of output and employment. Therefore, the contraction of the “money supply” by one-third in the early 1930s as a result of “mistakes” of the Federal Reserve had caused the Depression. Likewise, Friedman held that excessive growth in the money supply during the 1970s resulted in accelerating inflation. Therefore, if you wanted to halt or at least radically reduce the rate of inflation — which Friedman thought was a good idea — the only way out was for the Fed to reduce the rate of growth of the money supply even though this would lead in the short run to reduced output and increased unemployment — recession.

In contrast to Friedman and his modified version of the quantity theory of money, Keynes and his followers, who dominated policymaking in the 1960s and 1970s, believed that the general price level was governed by the average money wage. In the early 1970s, the still-dominant Keynesians claimed that the increasing rate of inflation of the era was caused by “over-strong” trade unions. The industrial capitalists, of course, needed no convincing that the trade unions were “too strong.” The only trade union that is not “over-strong” from the viewpoint of the industrial and other capitalists is no trade union at all.

Paul Volcker, who held Friedman in contempt, was not a theorist but a thoroughgoing pragmatist. He was far too familiar with the workings of the banking system — both the Federal Reserve and the commercial banking system — to believe that the Fed either could or should try to fix the rate of growth of the “money supply” — Federal Reserve-created currency plus commercial bank checking accounts. But he correctly believed that if you wanted to prevent a radical increase in the rate of inflation to truly disastrous levels while retaining capitalism, you had to accept a radical increase in the rate of interest and resulting recession and unemployment.

Forty years have passed since the high inflation of the 1970s ended — while dollar prices continued to climb, though at a slower rate. It seems that many policy makers, including it seems Jerome Powell, now believe that the Federal Reserve System under Bernanke made a mistake in waiting until September 2008 to initiate a rapid increase in the dollar monetary base. In effect, they are saying that the Bernanke Fed was paralyzed by excessive fear of a repeat of the 1970s. If the Fed, these economists believe, had accelerated the rate of growth of the dollar monetary base between July-August 2007 and September 2008 the Great Recession would have been reduced to an “ordinary” recession.

By September 2008, the current thinking goes, it was too late to avoid a massive slump. The only thing the Bernanke Fed avoided by its belated but extreme expansion of the monetary base was a full-scale repeat of the Depression or perhaps something even worse. And even that needs qualification. While initially, the Great Recession was not as severe as what I call the super-crisis of 1929-33 — which was essentially two “Great Recessions” back to back with a few months of “recovery” in early 1931 — before the end of the 2007-2020 industrial cycle, the production that had been lost through excess capacity and unemployment was greater than the comparable years following the super-crisis of 1929-33. On the eve of the current pandemic-economic debacle 12 years after the start of the Great Recession, there was still no end in sight of the post-crisis “liquidity trap-secular stagnation” state of the U.S. and, to a certain extent, the entire global capitalist economy.

What happened to inflation?

When Bernanke finally engineered an unprecedented explosion in the dollar monetary base in the fourth quarter of 2008, many conservative, libertarian economists and gold bugs predicted imminent runaway inflation. But this didn’t happen. Today, there are many economists — with the Modern Monetary Theorists leading the pack — who now claim that inflation is not a problem and has not been a problem since the now distant 1970s. The danger today, they say, is deflation and deflation-breeding austerity. The Federal Reserve System, these economists believe, should continue expanding the monetary base at the current rapid rate and the U.S. federal government should if anything increase its budget deficit beyond the $4 trillion now expected. They should keep following these policies until “full employment” returns. Until then, they claim, inflation is not and will not be a problem.

What the gold bugs overlooked

Those economists and gold bugs on the extreme right of capitalist politics who predicted imminent runaway inflation in the fourth quarter of 2008 overlooked the role of the U.S. dollar as a means of payment. If the Fed had engineered a doubling of the monetary base in a single quarter under non-crisis conditions, the predictions of a sharp acceleration of inflation would have been realized. But the sharp rise in the demand for U.S. dollars under the crisis conditions as a means of payment, and then as a means of hoarding as businesses and money capitalists moved to protect themselves against a renewal of the crisis, prevented any sharp acceleration of inflation during and after the 2008 crash.

On Sept. 5, 2008, just before the crisis struck with full force, the dollar price of gold closed at $802.90. This was already down considerably from its peak in March 2008 when it briefly closed over $1,000 an ounce. On October 31 that year, the dollar price of gold closed at $723.70. Thereafter, the dollar price of gold recovered somewhat but ended the year at around $800. In other words, the dollar experienced virtually no depreciation against gold as the Fed doubled the dollar monetary base. Cash in the form of U.S. dollars, but not gold, was king during the fourth quarter of 2008. Just as during the 19th-century crisis studied by Marx where panic-stricken bank depositors demanded cash in the form of Bank of England notes but made no move to convert these notes into gold sovereigns, it was U.S. dollars and not gold bullion that was in demand as a means of payment and hoarding.

The velocity of circulation of currency and the ratio of checkbook money to Federal Reserve System-created dollars fell sharply during and after the panic. However, though there was no runaway inflation, the cost of living didn’t decline either. The hours of work available shrank rapidly during the fourth quarter of 2008, but unlike in pre-1933 recessions, there was little or no relief in the form of a lower cost of living. Never before had there been a recession of the magnitude of the one that was unfolding in the fourth quarter of 2008 without a substantial fall in the cost of living. So in this relative sense, inflation was not completely missing after all.

To be continued.


1 We should never forget that it was the Soviet Union that defeated Nazi Germany at the cost of tens of millions of dead, but it was the U.S. that reaped the full fruits of a victory overwhelmingly won by the Soviet people. (back)

2 Under capitalism, buying and selling of gold is an operation that properly belongs to the central bank. During the New Deal, however, the Roosevelt administration obliged the 12 Federal Reserve Banks making up the Federal Reserve System to exchange their gold for a special type of U.S. Treasury-issued currency called gold certificates. Since then, it is the U.S. Treasury that buys and sells gold, not the Federal Reserve System. In this way, control over the U.S. gold reserve was shifted from the Federal Reserve System to the White House. Since 1976, when it sold some gold reserves, the U.S. Treasury has neither sold nor bought any gold, thus freezing its gold hoard at the current level of 8,133.53 metric tons. (back)

3 We have to remember that the “U.S. dollar price of gold” is a slang expression. When we say that a troy ounce of gold is worth 1,700 U.S. dollars at the latest quote, we are not saying that an ounce of gold is worth 1,700 dollars. It is the use value of gold measured in some unit of weight and not the talismanic sign called the U.S. dollar that is the measure of value. Therefore, when we say that the price of gold is $1,700 a troy ounce, what we really mean is that a U.S. dollar at a particular moment in time represents 1/1,700th of a troy ounce of gold. If a particular make of computer sells for $1,700, the real price of the computer is one troy ounce of gold. (back)

4 Thanks to the New Deal-era reforms, the control over the creation or destruction of dollar currency and the buying and selling of gold instead of being centralized in the hands of the central bank has been divided between the Federal Reserve System, which is in charge of the creation and destruction of dollar currency, and the U.S. Treasury, which deals in gold and is ultimately controlled by the White House. If a run against the dollar into gold were accompanied by a serious political crisis — which would likely be the case — the division of central banking operations between the Federal Reserve System and the Treasury-White House could act to magnify that crisis. (back)

5 Trump’s policy of attempting to overthrow the democratically elected Venezuelan government is supported by the leadership of not only the Republican Party but also the Democratic Party. (back)

6 World gold production declined between 1970 and 1975 and was flat between 1975 and 1980 meaning that the rate of growth of the world gold supply was declining throughout that period. Periods of stagnant or declining gold production tend to increase the demand for gold bullion on the open market because under those conditions gold is perceived by the market players as being increasingly scarce. The 1970s saw not only high and generally accelerating inflation but also the deep recession of 1973-75 followed five years later by the Volcker shock recession of the early 1980s. In 2001, world gold production began to decline once again and continued to decline until 2008. This resulted in an abbreviated industrial cycle of 2000-2007 — only seven years instead of 10 years — followed by the Great Recession. (back)

7 Friedman claimed that if the Federal Reserve System, created in 1913-14, had not been created the crisis of the early 1930s would have been milder. He based this conclusion on the belief that when the crisis hit in the early 1930s the commercial banks would have temporally suspended cash withdrawals as they had done in earlier crises. This, Friedman reasoned, would have halted the bank runs and greatly moderated the crisis. However, thanks to the existence of the Fed in the early 1930s the commercial banks did not do this because they believed that they would be “bailed out” by the Fed. This was the cause, according to Friedman, of the greatest bank run in history, which greatly aggravated the crisis. (back)

8 The Volcker Fed did not actually reduce the rate of growth of dollars it was creating but declined to increase the rate of dollar creation, thereby refusing to “finance” the accelerating inflation. This finally brought the accelerating inflation of the 1970s to an end but at the price of the deep and very destructive early 1980s recession, which wrecked havoc with the real economy and the level of employment. (back)