The Gold Standard
The “What is Money?” series of articles explores the various properties that make an economic good more likely to be used as money. After centuries of experimentation and economic evolution, gold emerged as the winner and became the standard for trade across the world.1
The gold standard was a monetary system in which the value of a country’s currency was directly linked to the value of gold. However, as global conflict evolved, the gold standard was abandoned in favour of more flexible and complex systems.1
But why was such a standard required for trade in the first place? The answer is trust. When participating in an economy, both individuals and countries needed to trade with one another, even if they were considered potential adversaries. In such a scenario, IOUs or promises of payment were not sufficient. There had to be some form of trust in the money being exchanged, and gold fulfilled the majority of the required criteria.
Gold’s unique combination of properties made it an almost perfect fit for use as money. These qualities made it a reliable store of value and a trusted medium of exchange, which is why it was embraced by almost everyone around the world. If a country wished to use gold as payment, there would be little risk another country would not accept it. Gold was the most saleable good historically between individuals and between countries alike.1
For a time, it was good.
The Fatal Flaw
Gold doesn’t have many flaws, but the flaws it does have are significant. Its lack of portability in particular played a major role in its demise. Gold is a dense and heavy metal, making it challenging to transport over long distances. Additionally, securing any substantial amount of gold is burdensome due to the risk of theft or confiscation. This creates a significant problem when it comes to settling debts, particularly for large economies.2
However, nations solved this issue by creating a second layer of debt on top of gold, in the form of IOUs. Governments proposed a fixed exchange rate between this IOU and gold for their citizens. Individuals could deposit their gold in a bank in exchange for an IOU that could be redeemed for that same fixed amount of gold. If someone else were to hold that IOU, they could claim and withdraw the gold from the bank instead of the original depositor. This system was enshrined in law, allowing people to trade these paper receipts for goods and services without the need for expensive equipment to store and transport gold.3
Sound familiar? This is the origin of the cash we use today.
This was the first time that trust was required between individuals, banks, and governments. People had to trust that banks would honour the redemption of gold, and that the law would be upheld without alteration by governments. At that time, citizens had no reason to distrust their respective banks or governments, but governments still did not trust each other. While cash economies formed within a nation, gold was still used to settle international debts between countries.4
For a time, it was good.
The cost of War
War is undoubtedly the most destructive of all human activities, causing unparalleled devastation in terms of human lives lost, environmental damage, and financial costs. With advancements in technology, the cost of warfare has only increased, with nuclear weapons being far more devastating than traditional weapons like swords.
One of the significant financial costs of war is the abandonment of the gold standard by governments. During times of war, fractional reserve banking has been adopted by governments, allowing them to issue more paper IOUs than the amount of gold they have in reserve.5
This system is based on the assumption that not all IOUs will be claimed at once, which means there will still be enough gold to fulfil the withdrawal demands of those who want their gold back at any given time. However, if everyone decides to claim their gold back simultaneously, the bank would not be able to fulfil this obligation.
In modern times, governments are known to spend billions of dollars annually on military expenses, including the development and acquisition of new technologies and maintenance of military infrastructure. The US is the largest spender on defence globally, despite not having to defend itself since 1815.6 We will explore why the US is a special case when it comes to printing money without restrictions in a later part of this series.
When comparing Bitcoin to fiat currencies, it is crucial to understand that fiat currencies not only allow for relentless wealth transference through inflation but also enable prolonged warfare.4
Domino one: The Great War
In some respects, the First World War never really ended. It was the first domino in a series stacked through time. As each one fell, the world was reshaped which ultimately explains our current geopolitical landscape. The economic repercussions were consequential to the events that transpired.7
At the start of WWI, all countries involved began diverting resources away from civilian production to fuel their military efforts. There is no imposable tax that is sufficient enough to fund a war. War is severely expensive and you can only tax a population so much before it causes unrest. Instead, much like the Romans, modern governments turned to their version of coin clipping (printing money) to be able to further their military efforts. France doubled their currency supply, the UK quadrupled theirs, and Germany printed over six times their currency. This resulted in the decoupling of the most important property of gold as money i.e. scarcity.8
In the early phase, it was a war that many were told would be a short war. Propaganda would announce victory was merely on the horizon and that soldiers would be home in time for Christmas. The irony was, had they not come off the gold standard, this would have been true.
With all the costs incurred, had all parties involved abided by a fixed gold standard, it would have only been possible to fund the war for a total of 6 months. Instead, the creation of currency with its subsequent devaluation allowed the war to drag on for 4 years. What ensued was the death of 40 million combatants and an estimated 50-100 million deaths from the Spanish flu thought to have originated from the trenches.9,10 It goes without saying such a significant devaluation of currency also devastated their respective economies.8
This scale of destruction would simply not be possible on a fixed money system.8
In our next article, we’ll discuss the economic fallout on all sides, and some of the repercussions that lead to the start of the second world war.
References
- Rockwell Jr LH. (1992). The Gold Standard: Perspectives in the Austrian School. Ludwig von Mises Institute. Auburn University.
- Boyapati V. “The Bullish Case for Bitcoin.” Medium, 3 Mar. 2018, Available at: vijayboyapati.medium.com/the-bullish-case-for-bitcoin-6ecc8bdecc1.
- Ammous, S. (2021). The Debt Slavery Alternative to Human Civilization. The Saif House.
- Gladstein, A. The Hidden Costs of the Petrodollar. Bitcoin Magazine. Available at: https://bitcoinmagazine.com/culture/the-hidden-costs-of-the-petrodollar
- Investopedia. Fractional Reserve Banking. Available at: https://www.investopedia.com/terms/f/fractionalreservebanking.asp
- Wikipedia “List of countries by military expenditures.” Wikipedia, The Free Encyclopedia. Available at: https://en.wikipedia.org/wiki/List_of_countries_by_military_expenditures.
- Popović, P. (2020). Hans Morgenthau and the Lasting Implications of World War I. Special Section: The Legacy and Consequences of World War I, 121-134.
- Ammous, S. (2018). The Bitcoin Standard: The Decentralized Alternative to Central Banking. John Wiley & Sons.
- World War I casualties. Wikipedia. Available from: https://en.wikipedia.org/wiki/World_War_I_casualties.
- Kahn K. “The Spanish Influenza Pandemic and Its Relation to the First World War,” World War I Centenary: Continuations and Beginnings, Oxford University, 2014. Available at: http://ww1centenary.oucs.ox.ac.uk/body-and-mind/the-spanish-influenza-pandemic-and-its-relation-to-the-first-world-war/.
These articles were designed to make these concepts more palatable. If you’re interested in reading a more in-depth perspective on the transition to fiat currency, consider the following:
ENDEVR. “End of the Road: How Money Became Worthless.” Youtube documentary, https://www.youtube.com/watch?v=NJd6RKsY5H4
Saifedean Ammous, “The Bitcoin Standard: A Decentralised Alternative to Central Banking”. Wiley, 2018
Saifedean Ammous, “The Fiat Standard: The Debt Slavey Alternative to Human Civilization”. Wiley, 2021
Investopedia. “How Petrodollars effect the US dollar.” https://www.investopedia.com/articles/forex/072915/how-petrodollars-affect-us-dollar.asp
Gladstein, Alex. “Uncovering the hidden costs of the Petrodollar.” Bitcoin Magazine, https://bitcoinmagazine.com/culture/the-hidden-costs-of-the-petrodollar
Ruki is a passionate Bitcoin educator who firmly believes in the principles of the Austrian School of Economics. As a sound money advocate he recognises its benefits to individuals and society as a whole. He is dedicated to empowering those without financial access to take control and build a more secure future.