Gold has been one of the most prevalent currencies throughout the history of the world. Before 1974, US dollars were backed by gold. This meant that the federal government could not print more money than it could redeem for gold.
While this constrained the federal government, it also provided citizens with a relatively stable purchasing power for goods and services. Today's paper currency has no intrinsic value. It is not based on the value of gold or anything else. So the question that lies here is, why did the united states abandon the gold standard?
Under the gold standard, the monetary unit was defined as a certain amount of gold. In the era of the international gold standard, before World War 1, the US dollar was defined as a little less than 1/20th ounce of gold. The Gold standard allowed the world trade market to expand rapidly. Where countries used to complete transactions with huge amounts of gold, they could now use currencies backed by the government. However, they were faced with the challenges of extremely high volatility rates as currency values would drop whenever miners would find new gold deposits.
Gold standards were abandoned multiple times after the gold standard act, especially during World War 1, World War 2, and the Great Depression. The united states went off the gold standard in two major steps.
First, in the 1930s, under President Franklin Roosevelt, the federal government broke its promise to redeem federal reserve notes and coins for us citizens. Congress enacted a joint resolution nullifying the right of creditors to demand payment in gold. Private ownership and use of gold coins were outlawed.
During the Great Depression in 1931, the government could not just print money to increase supply as it had to maintain an equivalent amount of gold reserves, which was limited, being a natural resource.
Furthermore, in England, people began to exchange the paper currency for gold since it didn’t lose its value. This led to the Bank of England running out of gold and as a result, the United Kingdom abolished the Gold Standard, paving the way for other countries including the US. The Gold Standard supposedly played a huge role in the Great Depression.
Second, during the 1970s. It was apparent that the system needed a change and that change would be the Bretton-Woods system. The Bretton-Woods agreement was introduced after the second world war. The conference took place during the summer of 1944 between the allied nations from the world war.
At the end of the deliberations, the US dollar replaced the gold standard as the global currency, essentially making the US the most powerful country in the world. The agreement also created the World Bank and the International Monetary Fund (IMF) which were put in place to monitor and maintain this system. The purpose of the IMF was to aid the countries in propping up the currency by bailing them out in difficult times.
Despite this, the IMF was not allowed to print currency. Instead, countries would contribute to a pool of currencies and gold which was held by the IMF. Countries agreed to maintain a fixed exchange rate with the US dollar as it would still be backed by gold at the price of $35 per ounce of gold.
Now, a question might arise- why was the US dollar chosen as the global currency? This was because the US already held 75% of the world’s gold supply and Europe was going through a financial crisis.
The eventual collapse of the Bretton-Woods system was foreshadowed shortly after its inception as the demand for the dollar would increase more than the value of gold.
In conclusion, if someone were to question whether or not this was the right thing to do- I would say, it was. Today, the foreign exchange is one of the most volatile markets, thus economic reforms are necessary even if they call for completely changing a system that has been prevalent for nearly a decade.
by Vedika Bhagat