50th Anniversary of USA leaving the Gold Standard

Great Britain unofficially entered the gold standard while being legally on the silver standard with 62 shillings minted from a troy pound of sterling silver. Circulating silver coins, however, were mostly clipped and underweight, resulting in a persistently high price for the better-quality gold guinea worth 21-22 shillings.

In 1717 Britain accidentally adopted a de facto gold standard, when Sir Isaac Newton, then-master of the Royal Mint, set the exchange rate of silver to gold too low, thus causing silver coins to go out of circulation. A formal gold specie standard was first established in 1821, when Britain adopted it following the introduction of the gold sovereign by the new Royal Mint at Tower Hill in 1816.

As Britain became the world’s leading financial and commercial power in the 19th century, other states increasingly adopted Britain’s monetary system.

Gold was a preferred form of money due to its rarity, durability, divisibility, fungibility and ease of identification, often in conjunction with silver. Silver was typically the main circulating medium, with gold as the monetary reserve. Commodity money was anonymous, as identifying marks can be removed. Commodity money retains its value despite what may happen to the monetary authority.

The gold standard became the basis for the international monetary system after 1870. Adopting and maintaining a singular monetary arrangement encouraged international trade and investment by stabilizing international price relationships and facilitating foreign borrowing.

In the early part of the 20th century, all the world’s key economies were on the gold standard. But in 1931, the system began to unravel in the most powerful country in the world: England. When the Great Depression hit, the people in England panicked, and started trading in their paper money for gold. It got to the point where the Bank of England was in danger of running out of gold.

This was a terrifying thought — particularly for Montagu Norman, the head of the Bank of England.

Norman faced an impossible dilemma: It was becoming increasingly difficult for England to remain on the gold standard. Norman became sick and were advised to leave office, which he later did. While he was gone, his colleagues at the Bank of England realized they had no choice. They were about to run out of gold, so they abandoned the gold standard.

This had a knock-on effect on other European countries, and a few years later, Franklin D. Roosevelt decided to also depart the traditional gold standard, after taking office in 1933.

After the Second World War, a system similar to a gold standard and sometimes described as a “gold exchange standard” was established by the Bretton Woods Agreements. Under this system, many countries fixed their exchange rates relative to the U.S. dollar and central banks could exchange dollar holdings into gold at the official exchange rate of $35 per ounce. All currencies pegged to the dollar thereby had a fixed value in terms of gold.

The government held the $35 per ounce price until August 15, 1971, when President Richard Nixon announced that the United States would no longer convert dollars to gold at a fixed value, thus completely abandoning the gold standard.

Effects of leaving the Gold Standard:
Going off the gold standard gave the government new tools to steer the economy. If you’re not tied to gold, you can adjust the amount of money in the economy if you need to. You can adjust interest rates.

The drawback is that, in the years since the end of the gold standard, there’s been a significant and growing lack of discipline when it comes to government spending. Before 1971, there was a natural limit to how much money could be printed. New issuance were dependent on the amount of gold sitting in the nation’s coffers.

Today, with the dollar backed not by a hard asset but by the “full faith and credit” of the U.S. government, the federal debt has passed $28 trillion, which is more than 130% of the size of the U.S. economy.

According to the Treasury Department, official gold reserves currently stand at approximately 261 million ounces, for a market value of some $493 billion.

There is just not enough metal to support an economy as large as the U.S. unless the price of each ounce of gold was fixed at something outrageous like $100,000.

There has been some discussion of making Bitcoin a reserve currency. Like gold, its supply is limited, and it has the potential to scale up. But cryptos are currently far too volatile for this to be an option.

Advantages of Gold Standard:

• A gold standard does not allow some types of financial repression.Financial repression acts as a mechanism to transfer wealth from creditors to debtors, particularly the governments that practice it. Financial repression is most successful in reducing debt when accompanied by inflation and can be considered a form of taxation. In 1966 Alan Greenspan wrote “Deficit spending is simply a scheme for the confiscation of wealth. Gold stands in the way of this insidious process.”
   
• The gold standard provides fixed international exchange rates between participating countries and thus reduces uncertainty in international trade. Historically, imbalances between price levels were offset by a balance-of-payment adjustment mechanism called the “price–specie flow mechanism”

Disadvantages:

• The unequal distribution of gold deposits makes the gold standard more advantageous for those countries that produce gold. In 2010 the largest producers of gold, in order, were China, Australia, U.S., South Africa and Russia. The country with the largest unmined gold deposits is Australia.
• Some economists believe that the gold standard acts as a limit on economic growth. “As an economy’s productive capacity grows, then so should its money supply. Because a gold standard requires that money be backed in the metal, then the scarcity of the metal constrains the ability of the economy to produce more capital and grow.”

• Mainstream economists believe that economic recessions can be largely mitigated by increasing the money supply during economic downturns. A gold standard means that the money supply would be determined by the gold supply and hence monetary policy could no longer be used to stabilize the economy.
• Deflation punishes debtors. Real debt burdens therefore rise, causing borrowers to cut spending to service their debts or to default. Lenders become wealthier but may choose to save some of the additional wealth, reducing GDP
• The money supply would essentially be determined by the rate of gold production. The consensus view is that the gold standard contributed to the severity and length of the Great Depression, as under the gold standard central banks could not expand credit at a fast enough rate to offset deflationary forces.

Sources:
https://en.wikipedia.org/wiki/Gold_standard
https://www.forbes.com/sites/greatspeculations/2021/01/25/the-gold-standard-ended-50-years-ago-federal-debt-has-only-exploded-since/?sh=591be3b41e17