I suggest the debate boils down to the following: For a functioning market economy, is it better to have a type of money whose supply is inelastic or one whose supply is elastic?

Defenders of the present system react to the gold standard with incomprehension precisely because of that system's inflexibility. An inelastic money supply would make "quantitative easing" and other bailout operations impossible. They suspect that, given such circumstances, the West would have experienced an even worse banking crisis and deeper deflationary correction by now.

Advocates of inelastic money will readily concede this point, but will argue that under a gold standard, a crisis such as the present one would be impossible in the first place. Current imbalances-in particular excessive levels of debt, inflated asset prices, and overstretched and weak banks-would be inconceivable, at least on their present scale, in a system of hard and inflexible money. Only years and decades of generous monetary expansion, often for the purpose of short-term stimulus, could have accumulated dislocations of the size we see today. Furthermore, pumping more fiat money into the system addresses the symptoms but not the underlying causes. We are kicking the can down the road.

What does fundamental economic theory have to say about elastic versus inelastic money? In an inelastic system, the supply of money will not keep pace with the growth in productive capacity. The prices of goods and services will fall on trend. Such secular and moderate deflation is not a problem, however. Capitalism raises living standards by making things more affordable and nominal prices will simply reflect this.

By contrast, in our fiat money system, central banks define stability as constant, moderate inflation. This means central banks have to continuously inject money into the economy or encourage banks to expand the supply of deposit money continuously to keep chipping away at money's purchasing power and to beat capitalism's tendency to make things cheaper.

David Fuller's view Surely this is correct, but here is the rub. If we were starting from scratch and wanted to create a new and prosperous global economy, it would make sense to have undiluted Austrian School economic policies, including a gold standard.

But "you can't get there from here", as the local said when asked by a motorist for directions. The real depression caused by the introduction of a universal gold standard today would lead to chaos, wipe out social welfare nets and cause anarchy. But before any of that happened incumbent governments and their main oppositions would oppose a gold standard because it would considerably diminish their power and influence.

(See also yesterday's comments on a gold standard.)