The gold standard is a monetary system where a country’s currency, for example the US dollar, has a value directly linked to gold. During 1871 and 1914, the gold standard was the dominant money system in the world and governments worked pretty well together to keep it ticking along. Under this system, countries agreed to exchange their currencies for a fixed amount of gold and then set a fixed price at which their gold could be bought and sold. So, for example if the United States fixed the price of its gold at $20 an ounce, then the US dollar would be worth 1/20th of an ounce of gold and could therefore be exchanged for 1/20th of an ounce of goals. This meant that a country couldn’t have more currency in circulation than it held in gold supplies. Otherwise, that currency couldn’t be exchanged for the agreed fixed amount of gold. The US for example couldn’t just print more dollar bills to pay for things because there wouldn’t be the gold supplies to back it up and those bills would effectively have no value.
And because gold is a natural resource, there’s only a limited supply of it to go around. Governments can’t just create more of it. Of course some countries strike lucky from time to time and find a large supply of it in their grounds. For example, the California gold discovery of 1848. But such fines are uncommon. And can also cause a shock to many systems by instantly increasing a country’s money supply. Which in turn raises price levels and causes instability. But going back to the idea that most countries couldn’t just instantly and drastically increase their God supplies because countries often get into debts and have lots of spending commitments this restriction didn’t suit many of them. And when faced with a costly wars in the twentieth century developed nations did away with the gold standard and opted for money system known as ‘Fiat’ instead.
This is a system where currencies have a value given to them by governments rather than linked to gold. Government’s give these currencies value by making it law that they must be accepted as forms of payments. And by making it a requirement the taxes must be paid with these currencies. Today national currencies, like the US dollar, Euro and British pound are all fiat currencies. And because the value of a fiat currency isn’t linked two gold, governments have the power to issue more of it where they see fit, while banks are able to create more of the fiat currency through lending.
Under the fiat system there’s no limit to how much money could be created and this has led to the global money supply increasing dramatically. The problem is, the more of a currency that’s in a system, the more the prices rise. And this in turn leads to inflation and the value of that currency going down. Over the past 100 years, the purchasing power of the US dollar for example, has fallen by 98%. That means that what one US dollar can buy you today is a lot less than what it could buy you in 1914. But the wages and incomes of most ordinary people don’t increase at the same rate as rising prices. So many people are forced to take up debts just to pay for basic items that they were previously able to afford.
Governments are facing a similar problem except that their debt is on a whole other level. US national debt currently stands at more than 17.5 trillion dollars and is going up literally by the second. Don’t believe us? Try taking a look at this. You can even watch how much money is being created live. So to sum up, as more money enters the system the more the prices rise and the more debt the people and governments are forced to take on.
In recent years, the idea of return to the gold standard has been gaining popularity in Western countries. Advocates of this idea including three-time US presidential candidate Ron Paul, believe it could help to stabilize the world’s monetary systems and contain rampant inflation and debts. There would be several problems for the return to the gold standard however. Including short-term price shocks caused by gold rushes or gold being lost, the risk of governments and central banks who would be the ones responsible for regulating a gold standard system, not playing by the rules and on a more practical level, there simply isn’t enough gold in the world to match the current money supply. In 2012, the world’s total gold supplies equaled 170,000 metric tons. Which in total equated to roughly 9 trillion US dollars.
As we’ve already seen, the US national debt alone is nearly double that. So if we wanted to return to the gold standard than the price of God would have to soar to an incredible amount. Which could have serious repercussions of the global money system. Others however, are suggesting that the cryptocurrency bitcoin could be the answer with many asking if it’s the new gold standard.
And it’s true, that Bitcoin and gold share similar features. “Bitcoin is essentially digital gold. There is a finite supply. Just like there is a finite supply of gold. There’s a certain predictable rate at which Bitcoin are being mined. Similar to somewhat predictable rate at which gold is being mined.”
In fact some of the principles behind bitcoin are apparently deliberately designed after golds. And while some point out that Bitcoin isn’t a hot commodity like gold, something that can be physically touched, the value of both is determined in a similar way. While gold can be turned into jewelry etc., it can’t be eaten, burned for energy or used to build a house. Essentially anything that humans really need. Which means its value only really comes from the belief by people that it is worth something and the same is true for Bitcoin. However, for the moment at least it’s hard to imagine, a national money system entirely based on Bitcoin let alone an international one. Not least because of the currency is currently so prone to volatility and instability.
So there you have it, the gold standard vs fiat money system debate explained. With a dash of crypto currencies thrown in for good measure. Let us know your thoughts on this debate in the comments below. I will see you again next time.