Fall of the Gold Standard: A Brief Overview

Once upon a time, the entire world ran on a commodity-backed currency – paper certificates that represent a claim to a tangible, physical asset. That commodity was gold. Since gold is rare and its supply increases at a very low rate of 1-2% each year, the “gold standard” guaranteed the value of government-issued paper currency.

From the 1870s until 1914, the entire industrialized world effectively ran on a pure gold standard. Gold coins and paper gold certificates were redeemable for U.S. dollars at a rate of $20.67 per troy ounce, the measurement system used for weighing precious metals. The government was required to maintain a high level of gold reserves for each certificate issued, guaranteeing that Americans could retrieve their money upon request.

Pictured above is an example of an 1882 gold certificate, which would have conferred a claim to $500 worth of gold, “payable to bearer on demand.”

The nature of our money is not what it once was. Today, the global economy runs on fiat currency – irredeemable paper bills. Unlike gold certificates, the U.S. dollar is backed solely by faith in the United States federal government. In other words, the dollar would be worthless if not for the trust of the billions of people who use it.

1914–1918: The Inflation of World War I

Under a gold standard, wars were funded by tax revenue and the sale of bonds (government debt). But governments were eager to find new ways to sustain the massive expenditures required to engage in years of total war.

By 1914, most of the world’s gold was stored as reserves in the vaults of central banks, and people primarily used paper currency in place of physical gold coins and bars. This made it possible for governments to increase the money supply by issuing more certificates than there was gold to back them, and suspending the redeemability of gold to prevent a run on the bank.

Within weeks of the start of World War I, all the major countries involved had suspended gold redemption and began devaluing their currencies to finance war operations. By the end of the war, the German and Austrian currencies had lost 49% and 69% of their values, respectively, and the people experienced crippling hyperinflation.

The United States also devalued the dollar to finance its entry into World War I, albeit to a lesser extent. In America’s Great Depression, a masterful exploration of the monetary roots of the Depression, Murray Rothbard estimates an increase in the money supply of 115% from 1914-1920, while gold reserves increased by only 26%. From 1921-1929, the money supply increased by 68.1%, while gold reserves increased by only 15%.

It would not take long before gold convertibility was suspended in America, too – the inevitable consequence of years of monetary expansion. But this time, it would be permanent.

FDR Defrauds the American People

On April 6, 1933, President Franklin Delano Roosevelt outlawed all private possession of gold via Executive Order 6104. Congress made this order permanent with the Gold Reserve Act of 1934.

All persons were required to turn in their gold coins, bullion, and redemption certificates to the Federal Reserve in exchange for irredeemable paper currency, at the rate of $20.67 per troy ounce. Failure to comply was punishable by up to 10 years in prison and a $10,000 fine.

But the rate of $20.67 had been in place for more than forty years. Since 1914, the U.S. had been expanding its supply of redeemable gold certificates far beyond the actual amount of gold held in bank vaults. Thus, by 1933, gold was worth far more in dollars than the official ratio of $20.64 per troy ounce.

American citizens were nonetheless forced to turn in their gold for far less than it was worth. Immediately after Congress passed the Gold Reserve Act – and after the people had dutifully turned in their gold – FDR revalued the price of gold from $20.67 to $35 per troy ounce. In one fell swoop, the American people were defrauded out of 41% of the value of their money.

This is how FDR was able to finance the New Deal, his attempt to “stimulate” the economy by growing the government during the Great Depression. It didn’t work, and the Depression continued until the end of World War II in 1945.

End of the Gold Standard

Possession of gold remained a felony for 40 years.

When President Nixon formally took the United States off the gold standard in 1971, the dollar had largely replaced gold as the world’s reserve currency. Most of the stock of gold was held in Federal Reserve vaults. Gold convertibility ratio was still at FDR’s peg of $35, but the dollar had lost 200% of its value in the interim. Though individuals could not , other central banks were able to redeem dollars for gold at $35, but with all governments around the world freely printing their own currency notes, the gold standard became irrelevant and unworkable. In an environment of ubiquitous global currency inflation, the demise of the gold standard was inevitable.

Since 1971, no citizen, bank, or foreign entity has had the right to redeem their dollars for gold. Governments print money freely and conspicuously. From the first Covid lockdown until today, the money supply has increased by about 40%.

Today, one troy ounce of gold is worth $1,824.50. In our “new normal” of monetary expansionism, our money sheds its buying power on a day-to-day basis. Perhaps a return to the gold standard, or something very much like it, could save us from the pitfalls of limitless government stimulus.