Campaign to suppress gold is getting more exposure

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By Thom Calandra
www.CBSMarketWatch.com
August 15, 2001

NEW YORK (CBS.MW) -- It was a small step for Richard Nixon and a
giant leap backwards for the global monetary system.

When the U.S. president severed the price link between the American
dollar and gold 30 years ago today, White House advisers figured
they had discovered the path to shock-free economic growth. What
followed, instead of the stable consumer prices, low interest rates
and falling unemployment promised by those who advocated a
free dollar, were runaway inflation, soaring rates and a volatile
economy through much of the 1970s.

"We did not get greater economic stability," says Charles W.
Kadlec, managing director of $30 billion money manager J. & W.
Seligman in New York City. Events, says Kadlec, show the
shedding of an external price link "was effectively a devaluing of
the dollar, and the dollar in turn dropped like a stone."

Kadlec, who wrote the 1999 book "Dow 100,000: Fact or Fiction,"
is one of a small group of economists, former lawmakers and
bankers who are calling on the Federal Reserve, and the Bush
Administration, to consider an external price link for the frenetic
U.S. dollar.

The return of such a price link to gold or a basket of commodities
would allow the Federal Reserve to manage the American
economy "in real time and not according to the variable du jour,
whether it is consumer confidence, the GDP deflator, industrial
production and so on," Kadlec said Wednesday in an interview.

In a gold standard, which has been abandoned by nearly every
country in the world, a currency is convertible into fixed amounts
of gold. Such a link, for example, could allow the Federal Reserve
to monitor the demand for gold, then manage the flow of dollars, 60
percent of which trade outside the United States, on a minute-by-
minute basis if need be.

The Bank of England used a gold standard for two centuries to fix
the price of its currency, the pound. In turn, British inflation
rarely deviated from a narrow band of one or two percentage points.
These days, however, the Bank of England and many other
central banks are sellers of gold and manage their economies
via the use of interest rates and the purchase or sale of
government securities.

Kadlec had some pointed words for Federal Reserve Chairman
Alan Greenspan, who along with the European Central Bank and
the Bank of Japan he claims have failed miserably at laying down
stable monetary policies for their economies.

"The purpose of monetary policy is to stabilize the price level (of
the dollar), but Mr. Greenspan never discusses the price level per
se," says Kadlec, whose call for an explicit price rule like a dollar
ink to gold is expressed in an opinion piece Wednesday in The
Wall Street Journal.

Kadlec says the use of interest rates to set monetary policy is
primitive. The Federal Reserve, after reducing interest rates six
times this year, is no closer to understanding how weak -- or
resilient -- the American economy will be in coming quarters. In
turn, the proxy for the world's largest economy, the dollar, is
fluctuating wildly in value.

The dollar, having gained inexorably against nearly every
currency in the world for 15 years, is suffering this week. Investors
think a tepid U.S. economy, and the growing American trade deficit
with the rest of the world, will diminish the currency. The greenback
fell 2 percent to 119.34 yen, its lowest since June 5. The dollar
also fell sharply against the euro Wednesday.

Kadlec sees several benefits of a gold link to the dollar. One
would be lower interest rates. One percentage point off a $3 trillion
U.S. government debt would save the U.S. Treasury at least $30
billion a year in interest payments. Another benefit would be a tame
pace of inflation, perhaps 1 percent a year or less. "Why don't we
have a prime rate of 4.5 percent today like we used to in the
mid-60s? Why can't we buy homes with a mortgage rate of 4
percent? Why is the euro under so much stress? Why is Japan in
severe deflation?" Kadlec asks.

The mechanics of a gold standard would be a meaty subject for
debate among economists and central bankers. Broadly, though,
the dollar would be fixed to a gold price that would fluctuate
moderately, based on the demand for the commodity. Experts say
the price for an ounce of gold, which is about $20 above a two-
decade low, would fall in the $320 to $325 range vs. its current
$275.

The purchasing power of that gold would vary. "The purchasing
price of gold, for many reasons, is extremely reliable and is a
good proxy for a price level," says Kadlec. "Let's just say the
purchasing power of gold is going up, so the price of everything
else in dollar terms would have to be falling. It is really important
to understand that gold is not perfect, but it is the least worst
solution we have ever come up with."

With gold as the target of monetary policy at the Federal Reserve,
central bankers merely would add funds to the country's monetary
base through open-market operations (the purchase and sale of
government securities) when the price of gold is falling and subtract
funds when the price of gold is rising. Theoretically, the price of
gold would rise or fall by tiny amounts, some say by pennies, in
such a world.

"In effect, we're fixing the price of the dollar, not gold," said
Kadlec.

Earlier this year, Jude T. Wanniski, president of consultant
Polyconomics Inc. in Parsippany, N.J, explained how a gold
standard could smooth out the roller coasters of deflation and
inflation. Over centuries, says Wanniski, gold "is simply the clear
winner and the global electorate uses it and it alone as a
monetary guide. It is as good as it gets."

Whether calls for a gold standard get traction in Washington
remains to be seen. Former U.S. Sen. Jack Kemp this summer
also called for a gold link to the dollar, in part so that America
avoids the deflation of assets that is sinking Japan's economy.

Wanniski, a former Wall Street Journal editorial writer and
engineer behind the supply-side tax cuts of the Ronald Reagan
era, said monetary deflation is the real risk to the world economy,
not inflation. "I have been . . . warning of the monetary deflation
that began in late 1996, when the gold price began its long slide,
and continues today. I warned (now-Vice President) Dick Cheney
on Jan. 7 that the (Bush White House's) tax cuts and (the Fed's)
interest rate cuts would not reverse the deflation, that only an
actual devaluation of the dollar against gold would correct the
financial imbalance," Wanniski said Wednesday.

Kadlec in New York said the debate about a return to the gold
standard was "in its early stages." Another country "may beat
us there and force our hand." What cannot be tolerated for now,
he said, is that the members of the Federal Reserve Open
Market Committee operate behind a curtain when they fiddle
with interest rates.

"If there were a rumor that Alan Greenspan was retiring, what
would monetary policy be the next day? No one knows," said
Kadlec. "That doesn't make sense to me. With a gold standard,
we'd know exactly what the policy was."