Giulio M. Gallarotti

A Covenant with Economic Liberalism: Puncturing the Mythos of a Monometallic Monetary Standard
At the onset of the 1870s, only two countries, Britain and Portugal, were operating under a de jure gold standard; by the end of the decade, virtually all industrial economies, to all intents and purposes, had shifted to gold monometallism. From the final years of the nineteenth century until 1914, the classical gold orthodoxy, extolled by the Hungarian economic historian Karl Polanyi in his 1944 oeuvre “The Great Transformation” as one of the pillars of the nineteenth century’s politico-economic order, functioned as a handmaiden of growth, facilitating commerce and investment alike with an intensity hitherto unobserved and generally yielding economic outcomes that were conducive to industrial production and capital formation. In exploring the underpinnings of the gold regime, Gallarotti has produced a thematic, interdisciplinary, and ultimately revisionist overview of the gold standard, integrating into a single volume the key concepts that collectively constituted the intellectual nucleus of the monometallic regime. The author displays a solid grasp of scholarly thinking relevant to the dissection of a commodity-based monetary regime. Capably blending the historical backdrop of the gold standard and the pertinent academic literature, Gallarotti’s “Anatomy” serves as a valuable resource for those searching for a broad synopsis of the gold standard, its fundamental processes, and its underlying philosophy.

Gallarotti divides his 347-page study into seven core sections, with each section delineating a particular theme and thus largely autonomous of the others. The first section presents a general overview of the gold regime, noting that this monetary era emerged in the 1870s as advanced industrial nations adopted gold as a reserve metal and designated it as an international medium of exchange. Since there were few impediments to capital flows across borders at the time, the countries that formed the core of the ‘gold club’ became progressively interlinked within an open, liberal international monetary regime.

In the next segment, “Cooperation under the gold standard”, Gallarotti describes the nature of cooperation among central banks as comprised of informal arrangements to transfer liquidity in times of need. Such liquidity transfers, Gallarotti writes, were governed by central banks’ business incentives and monetary concerns at the domestic level rather than explicit arrangements with respect to capital flows and economic stabilization. He posits that, because central banks competed with each other even during times of liquidity shortages, cooperation probably served to compensate for the economic distress which ultimately originated from the central banks’ suboptimal behavior. He describes the outcomes of the various monetary conferences held during the nineteenth century, concluding that no grand schema promoting monetary cooperation ever emerged from these intergovernmental symposia.

The ‘hegemony’ of the British state in the international monetary sphere is covered in the succeeding section. Relying on the conduct of British delegations to the various international monetary conferences held during the second half of the nineteenth century, Gallarotti concludes that Britain’s actions during the said conferences delineate the British state’s reluctance to serve as a hegemonic actor in the global monetary system. He cites two factors that appear to explain Britain’s reticence to act as a monetary hegemon: reluctance to implement even the smallest change in the British monetary system, perhaps engendered by the fervent belief of the British in the gold specie-based orthodoxy; and moral hazard arising from British anticipation that other monetary powers would be in a position to build a truly international monetary regime.

In studying the hegemony of the Bank of England over the monetary system, Gallarotti finds that the Bank operated under a “false splendor” during the period when the classical gold standard was in operation. The Bank of England seemingly performed its stabilizing duties under a “thin film of gold”, that is, the British central bank constantly maintained a level of gold reserves that were deemed inconsistent with the weight of its responsibilities under the gold standard. It has been estimated that, during the period that the gold standard was in operation, the Bank’s gold holdings were equivalent to only about two percent of Britain’s money supply, which was clearly insufficient to maintain convertibility in the face of a concerted attack on sterling. The Bank’s discount rate also proved unable to exert a strong influence on the domestic banking system; a Bank official affirmed that “[n]o arbitrary rate of the Bank of England can ever lead the market, at least in an upward direction. At the most it is a barometer, pointing to the state of the accommodation market; but even for that purpose it is…too much affected by other influences to be quite trustworthy.” Additionally, in contrast with other central banks that undertook long-term borrowing to uphold convertibility, the Bank apparently avoided such exertions. The author concludes that both the stability of the gold reserve orthodoxy and the solvency of the Bank of England were attributable to the fact that the monetary status quo was not subjected to sufficiently harsh economic or political conditions during the 1880-1914 period.

Exploring the origins of the gold standard, Gallarotti in the succeeding section attributes the emergence of the gold bloc and the move towards gold convertibility during the latter part of the nineteenth century to the concatenation of structural, proximate, and permissive forces. Structural catalysts, which are comprised of the ideology and politics of gold and industrialization and consequent economic development, draw attention to a pivotal shift in political power; here Gallarotti shows that the spread of monometallism was consistent with the shift in economic power from the landowning classes to the emerging urban elite. With the entrenchment of the ideology of gold into the body politic, a marked tendency toward gold monometallism then became evident in nations that sought to emulate the success of the British economic model. The proximate foundations of the prewar gold orthodoxy, meanwhile, derived from concerns regarding the economic legitimacy of bimetallism: a shifting demand and supply environment in precious metals (which increasingly favored gold as the preferred store of value and metal of exchange) led to fears that bimetallic arbitrage would eventually drive gold out of circulation. The demonetization of silver thus became an absolute necessity in view of a secular decline in the price of silver; bimetallism fell increasingly into disfavor as economic actors perceived that gold would sustain its premium over silver, and trade-dependent nations were understandably unwilling to risk seeing their presence in the international commercial markets eroded by maintaining silver convertibility, which would lead to depreciating currency values. Finally, overarching permissive forces, according to Gallarotti, determined the impact of both structural and proximate catalysts on the choice of a monetary standard. These permissive mechanisms include the development of central banking institutions and capital markets and fiscal and monetary restraint. Economies with highly evolved financial markets tended to have central banks with considerable control over monetary policy; such nations were also likely to encounter fewer difficulties with respect to managing public expenditures.

In the section pertaining to the stability of the specie-backed monetary regime, Gallarotti addresses the question of how the gold bloc of nations maintained the link to gold during the prewar period in the absence of a ‘formal’ hegemon and institutionalized cooperative agreements. The basic thesis herein is that a two-tier process governed the adjustment mechanism in such a way as to impose systemic equilibrium without necessitating ‘direct’ intervention on the part of the economic actors involved. The first tier consists of the proximate foundations of adjustment: a stable, enduring geopolitical milieu, an inexorably agreeable economic atmosphere, ‘core’ nations of the gold bloc acting collectively as a hub of monetary stability, convergent and synchronous macroeconomic outcomes (with respect to prices, interest rates, and business cycles) amongst gold-bloc countries, and stabilizing (and somehow self-fulfilling) investor expectations with regard to exchange and convertibility risks. The second tier is composed of the normative foundations of adjustment, which, as characterized by Gallarotti, is a function of a superstructure of laissez-faire norms and beliefs, underpinned by classical liberalism, prevailing at the time. As covered in the chapter on the hegemony of the Bank of England over the currency regime, one of the seeming paradoxes of the classical gold standard is how it remained stable during the period in which it was in operation. Gallarotti recognizes that the Great War facilitated a “normative transformation” of the nature of economic systems, with classical liberalism progressively being supplanted by economic conventions emphasizing the employment of proactive policies; reviving the classical monetary orthodoxy, he explains, would necessitate the re-establishment of the institutional-ideological complex under which the gold standard operated; the downfall of classical economic liberalism would therefore beleaguer any attempt to re-create the monetary regime's status quo antebellum.

The final chapter, “The gold standard and regime theory”, posits that the classical gold standard was the outcome of regime dynamics that demonstrated a ‘diffuse’ character. Puncturing myths and dispelling visions of a monetary regime controlled by hegemonic or cooperative forces, Gallarotti argues that the gold orthodoxy during the 1880-1914 period emerged as a consensus that limited the need for direct management and intervention. Thus, Gallarotti stresses that, instead of governments taking a proactive stance with respect to macroeconomic variables, “authorities were driven by injunctions of stable money and fiscal restraint”. Limiting the need for regime management was the fact that the gold standard was a geographically restricted regime.

Stripped of its mythos, the classical gold standard, as a product of classical economic liberalism, is held to be less impervious to exogenous shocks relative to managed currency regimes. Under a gold-backed currency standard, substantial reliance was placed on the establishment of a credible set of rules to maintain a stable constellation of economic relations. But since the gold standard was a diffuse regime, economic interdependencies could not be directly influenced or controlled (by, say, a multilateral authority) to forestall shocks. Additionally, Gallarotti’s assessment shows that the automaticity of the gold regime with regard to adjustment was not consistent with the traditionally-held tenet of the gold standard that trade flows adjusted in accordance with the impact of gold flows on prices; the foremost channel of adjustment was instead via short-term capital flows instead of changes in trade patterns. To the extent that such adjustments rendered the international monetary system resilient against threats to convertibility, the classical gold standard could be said to be the successful product of the intersection of the need to establish stable currencies and the necessity of upholding economic vitality. But with the decline of economic liberalism, the gold standard, its mechanism based on the maintenance of fixed exchange rates, inevitably found no traction in the irrevocably altered macroeconomic environment of the postwar period.… (altro)