Rob Kirby: Gold and Interest Rates: More than Joined at the Hip

-- Posted Wednesday, 24 August 2011 | Share this article | Source: GoldSeek.com

By Rob Kirby

“Interest rates to remain at zero for the next two years.”  Those were the words of Fed Chair - Sir Benjamin of Bernanke last week.  With inflation beginning to pick-up – the notion that rates would remain at zero for a prolonged period of time seems “paradoxical” to conventional economic thought.  There have been other misunderstood ‘paradoxes’ in economics in modern times.   Here’s how Wikipedia explains the relevance of this famous benchmark in economics:

Gibson's paradox

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Gibson's Paradox is the observation that the rate of interest and the general level of prices are observed to be positively correlated. It is named for British economist Alfred Herbert Gibson who noted the correlation in a 1923 article for Banker's Magazine.

The term was first used by John Maynard Keynes, in his 1930 work, A Treatise on Money. It was believed to be a paradox because most economic theorists predicted that the correlation would be negative. Keynes commented that the observed correlation was "one of the most completely established empirical facts in the whole field of quantitative economics."

Boiled down - Gibson’s Paradox, as first described by Keynes - is the acknowledgement that movement in interest rates and the general price level [inflation] were positively correlated. This was viewed as “paradoxical” because classically – economists expected higher interest rates to ‘arrest’ demand which, it was thought, would lead to lower prices.

When speaking of Keynes comments regarding Gibson’s Paradox – what most modern day economists fail to appreciate / mention is that Keynes comments regarding Gibson’s Paradox were implicitly referencing a time period in which the Gold Standard was in force; namely, the 1821 – 1913 time period.

Folks who feel that study / attention paid to Gibson’s Paradox is superfluous, they should be reminded of the academic work / study done by Messrs Barsky and Summers at Harvard in the late 1980’s – the basis of which Lawrence Summers brought to Washington as Under Secretary of Treasury under Robert Rubin during the 1^st Clinton Administration...

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