Goodbye Gold Standard

It was fun while it lasted!

Alan Greenspan
In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value.
-Alan Greenspan

As we spoke of, earlier, the world’s money once made sense.  Granted, it was a mercenary and merciless sort of sense.  But, the world was a fairly mercenary and merciless sort of place.  World history has been driven, in many ways, by scarcity.  Certainly, the world economy was driven by scarcity.  So, it was inevitable that the “gold standard” in money became gold.  Gold is perfect money, except for its weight.  But, it’s small and malleable and easily divided.  It also never corrodes and is indestructible, for all intents and purposes.

The history of money in America is a large subject.  It serves no purpose, here, to fully explore it, though.  So, we’ll skip past a whole lot of the laissez faire capitalism and mercantilism which prevailed in the 18th and 19th centuries.  Suffice it to say, the American economy was rather tumultuous during its early years – like a wild teenager of a country, ya might say.  In the end, though, it emerged that our dollar became the only money in the country and every last dollar was backed by gold, held by the federal government.  These are the famous gold deposits at Ft. Knox.

After WWII, the world’s economy was in a shambles.  So, the world’s economists and businessmen got together and cooked up the Bretton Woods system.  As we all know, that worked out fairly well for the world, all things considered.  The bombed out countries of Europe were rebuilt.  Japan was built into an economic powerhouse.  Economies across the globe were revitalized.  Social order was restored.  Of course, it wasn’t perfect.  Nothing ever is.  But, at least, the western economies were stable, more or less.

The key component of the system was the American dollar.  It was the world’s reserve currency.  The rest of the world’s currencies were pegged to the dollar; the dollar was backed by gold and the price of gold was set at $35/oz.  That is to say that dollars could be converted directly into gold bullion or specie (coin), at the rate of $35 per Troy ounce (31 gm).

So, ostensibly, every dollar printed was backed by a dollar’s worth of gold in Ft. Knox and that value was stable.  This made for much economic stability for the world, of course -- and almost no inflation, at first.  It did present a small, but constant threat of deflation, it seems.  However, a person could always be sure of their money being worth a precise amount of real gold, no matter what.  For the average person, this meant that they could save for the future and not be robbed by inflation, among other things.  For business, it meant that transactions went smoothly and there was no way to game the system via currency manipulation.

Times have certainly changed, haven’t they?
But, what happened?

As we will explore in the coming sections, the Federal Reserve is not what it appears to be.  In this case, they undermined the Bretton Woods system by printing more dollars than could be backed by gold.  This caused inflationary pressure, of course, and the dollar lost value.  Since all the world’s currencies were pegged to the dollar, the world seethed in resentment.  In France, this tremendous economic advantage was popularly known as “America’s exorbitant privilege”.

The reasons are obvious, upon inspection.  It costs the Federal Reserve practically nothing to print a $100 bill – and they printed way too many.  However, the rest of the world had to pay for that $100 bill with actual goods and services.  So, of course, they felt that they were supporting American living standards and also providing a tidy subsidy for our multi-national corporations.  In fact, they were.  That was especially true for our commercial banks, using the “money multiplier”, as we will discuss in the next sections.

In 1971, events came to a crescendo, with the Fed pumping out more and more dollars, and billions in wealth leaving the country.  This capital flight, along with international resentment and pressure, caused the reckoning to finally come.  The rest of the world was converting huge sums of dollars to gold and the US could plainly see where that would end.  We would have no gold and the dollar would be utterly worthless if they allowed gold conversion to continue, unabated.  So, Nixon did something unprecedented.

It’s known as the “Nixon Shock”, in fact.  He unilaterally took the dollar off of the gold standard with a promise to implement it, once again, after the Bretton Woods system was revamped.  That, of course, never came to pass.  As a result, gold went from $35 per Troy ounce, in 1969, to almost $500 per ounce in 1980.  That’s going from $1.12 per gram to almost $29.00 per gram.  Obviously, that means we had around 25 times as much money in circulation than there was gold to back it up, more or less.

How’s that for some large scale, organized thievery?
Pretty smooth, huh?

Well, that’s just the beginning of our story.  You ain’t seen nothin’ yet!