No government presently employs the gold standard. The U.S. and Britain both stopped utilizing the gold standard in 1933, and the remaining elements of the system were officially abolished in 1973.
Fiat money, which is utilized because of a government’s order, or fiat, that the currency must be accepted as a form of payment, totally supplanted the gold standard. For instance, the dollar is fiat money in the United States, but the naira is fiat money in Nigeria.
An advantage of a gold standard is that it removes human beings’ imperfect ability to govern the creation of money. A community can adhere to a straightforward guideline to prevent the ills of inflation by using the physical amount of gold as a limit on that issuance. In addition to preventing inflation and deflation, monetary policy aims to support a stable financial environment that will allow for the achievement of full employment. A cursory look at the history of the U.S. gold standard is sufficient to demonstrate that inflation may be avoided when such a straightforward rule is implemented, but that rigid adherence to that rule can lead to economic instability, if not political unrest.
Fiat vs the Gold Standard System
The word “gold standard” describes a monetary system where a currency’s value is dependent on gold, as suggested by its name. Contrarily, a fiat system is a monetary system in which a currency’s value is not based on any actual commodities but is instead permitted to dynamically fluctuate against other currencies on the foreign exchange markets. Fiat is a derivative of the Latin word fieri, which denotes an arbitrary act or decree. According to this derivation, the value of fiat currencies ultimately rests on the fact that they have been declared legal tender by government order.
International trade in the years leading up to World War One was based on what is now referred to as the “classical gold standard.” In this arrangement, actual gold was used to settle international transactions. Gold was accumulated by countries with positive trade balances as payment for their exports. In contrast, countries with trade deficits saw a drop in their gold holdings as gold left those countries to be used as payment for imports.
A History of the Gold Standard
In a memorable speech to Franklin D. Roosevelt in 1933, President Herbert Hoover declared, “We have gold because we cannot trust governments. This declaration predicted the Emergency Banking Act, which compelled all Americans to exchange their gold coins, bullion, and certificates for U.S. dollars and was one of the most severe financial crises in American history.
Even though the legislation was successful in halting the flow of gold during the Great Depression, gold bugs’ unwavering belief in the stability of gold as a store of wealth was unaffected.
In that it has a special impact on its supply and demand, gold has a history unlike that of any other asset class. Gold has a history that involves a collapse that must be understood in order to accurately predict its future, but gold enthusiasts still cling to a time when it ruled.
A 5,000-year love affair with the gold standard
Since it combines brilliance, malleability, density, and scarcity like no other metal does, gold has captivated civilization for 5,000 years. One ton of gold may fit inside a cubic foot, according to Peter Bernstein’s book The Power of Gold: The History of Obsession.
A New Standard for Silver and Gold
Considering that silver was more plentiful than gold, a bimetallic standard was chosen in 1792. Gresham’s law states that after 1793, the value of silver rapidly decreased, driving gold out of circulation while the officially adopted silver-to-gold parity ratio of 15:1 accurately mirrored the market ratio at the time.
The problem wouldn’t be fixed until the Coinage Act of 1834, and even then there was a lot of political hostility. In order to push out the then-despised Bank of the United States’ small-denomination paper notes, hard-money supporters argued for a ratio that would put gold coins back into circulation. This was done less so to push out silver as to do so to push out small-denomination paper notes. The U.S. was put on a de facto gold standard when a ratio of 16:1 that clearly overpriced gold was established and reversed the situation.
Adoption of the Gold Standard
England was the first nation to formally adopt the gold standard in 1821. Large gold discoveries made possible by the century’s tremendous growth in global trade and industry let the gold standard survive well into the following century. Governments had a strong incentive to accumulate gold reserves because all trade imbalances between nations were settled in gold. These stocks are still in place right now.
Following Germany’s adoption of the gold standard, the global gold standard was established in 1871. The majority of developed nations had adopted the gold standard by 1900. Ironically, the United States was among the last nations to sign on. In actuality, during the 19th century, a powerful silver lobby kept gold from being the exclusive currency in the United States.
The peak of the gold standard occurred between 1871 and 1914. Near-ideal political circumstances prevailed in the majority of the nations that introduced the gold standard during this time, including Australia, Canada, New Zealand, and India. However, everything changed in 1914 when the Great War started.
