How Did the Gold Standard Really Work? A Comparison of the Price-Specie-Flow Mechanism and the Monetary Approach to the Balance of Payments

28 Pages Posted: 10 Mar 2021

See all articles by Kwabena Boateng

Kwabena Boateng

University of Mississippi - Department of Economics

Joshua R. Hendrickson

University of Mississippi

Date Written: January 14, 2021

Abstract

The price-specie-flow mechanism (PSFM) is a theory of the adjustment of the balance of trade and gold flows in response to deviations in relative price levels across countries under a gold standard. The PSFM is central to quantity-theoretic discussions of economic fluctuations under a gold standard as well as analysis of whether central banks followed "the rules of the game" of the gold standard. The PSFM is often the standard working assumption when it comes to gold standard adjustment. However, at least since Adam Smith there has been an alternative to the PSFM that has come to be known as the monetary approach to the balance of payments. The distinction between the PSFM and the monetary approach have important implications for both quantity-theoretic explanations of economic fluctuations as well as the interpretation of the so-called "rules of the game." In this paper, we outline and test the empirical predictions of each theory to determine which is more accurate. The evidence is mixed, but largely favors the monetary approach to the balance of payments.

Keywords: commodity money, gold standard, monetary approach to balance of payments, price-specie-flow mechanism

JEL Classification: B22, C52, E41

Suggested Citation

Boateng, Kwabena and Hendrickson, Joshua R., How Did the Gold Standard Really Work? A Comparison of the Price-Specie-Flow Mechanism and the Monetary Approach to the Balance of Payments (January 14, 2021). Available at SSRN: https://ssrn.com/abstract=3766429 or http://dx.doi.org/10.2139/ssrn.3766429

Kwabena Boateng

University of Mississippi - Department of Economics ( email )

371 Holman Hall
University, MS 38677
United States

Joshua R. Hendrickson (Contact Author)

University of Mississippi ( email )

Oxford, MS 38677
United States

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