What Is a Gold Standard?
The United States abandoned the gold standard completely in 1974. Professor Lawrence H. White discusses what the gold standard was, why it was abandoned, and whether abandoning it was a good idea. The gold standard meant that currency could be redeemed by banks for gold. The dollar had a set value that it retained. If you went to the bank in the gold-standard era before World War I, for example, you could trade $20.67 at the counter for an ounce of gold. Because the currency was guaranteed in gold, paper money based on gold had a set value. Now that we do not have a gold standard, paper money does not have a set value and the purchasing power of a dollar can fluctuate pretty dramatically. This is called fiat currency.
The gold standard really constrained the federal government, Prof. White says. The obligation to redeem dollars for gold limited money printing at times when the federal government thought printing money might be a good idea. As a result of ending the gold standard, the U.S. Federal Reserve can print as much money as it decides to print. This can be problematic, however, and many countries without a value standard have seen high inflation because of it.
Under our current standard the supply of money is up to the decision of the Federal Open Market Committee. “The fate of the dollar rests with a handful of political appointees,” Prof. White says. Is this a good idea? Is fiat currency a better choice than gold-backed currency? This begs a practical question: Which system better limits inflation? Historically, gold (and silver) standards have dramatically outperformed fiat standards around the world in providing stable, low-inflation currency.
Source Data
Professor White compiled his data on the comparative inflation rates under gold and under fiat using this website.
He calculated the annualized growth rates in the CPI between periods of change in monetary policy:
– 1792-1862 (on the gold coin standard; 70 yrs): 0.07%
– 1862-1879 (off the gold standard; 17 yrs.): -0.05%
– 1879-1933 (on the gold coin standard; 54 yrs.): 0.54%
– 1933-1971 (on the gold-exchange standard; 38 yrs.): 3.04%
– 1971-2011 (off the gold standard; 40 yrs.): 4.38%
He found that the average annual inflation rate in Gold Standard years is 0.27%. Average inflation rate off the Gold Standard is 3.06%.
Learn More
Lawrence H. White, “Is the Gold Standard Still the Gold Standard Among Monetary Systems?” [policy paper]: Professor White addresses some leading criticisms of the gold standard relating to the costs of gold, the costs of transition, the dangers of speculation, and the need for a lender of last resort
“Gold Standard”[encyclopedia entry]: The Concise Encyclopedia of Economics provides a thorough and accessible understanding of the gold standard
Milton Friedman on the Gold Standard (video): Renowned economist Milton Friedman connects abandonment of the gold standard with the Great Depression and inflation
What Is a Gold Standard? (video): MoneyWeek’s Tim Bennett explains in simple terms how a gold standard works, why the last one was abandoned and asks whether we should return to one today
Paper Bugs, or Stupid Arguments Against Gold [article]: George Selgin fiercely rebuts a NY Times Columnist who argues against the gold standard
A New Golden Age? [article]: Reason magazine interviews a gold moderate who argues that fiat money should be pegged to a gold standard
The Gold Bug Variations [article]: Paul Krugman argues against the gold standard and those who support it in this Slate article
Discussion Questions
1. Why do you suppose that governments have typically monopolized the business of minting gold and silver coins?
2. Does the economy need a central bank in order to be on a gold standard?
3. In ranking the classical gold standard against fiat money standards, what else would you consider important in addition to which has lower inflation rates?
What Is a Gold Standard?
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