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Gold standard

The “Gold Standard” (or Gold Exchange Standard), was an international monetary system used by the US, UK and others, for many years. The gold standard was the de facto monetary system for much of the world's economy throughout history.

In this system the value of a currency – coins and paper money – was fixed to, and expressed in terms of, an amount of gold. Currency holders could therefore, in theory, exchange their money for its equivalent value in gold. To this day, the phrase 'gold standard' is used to indicate the best there can be, something that should be sought.

Currencies with values not fixed to any physical material – such as gold – and simply guaranteed by the government that issues it, are termed ‘Fiat’ currencies. This is the system used by the major global economies today, but only since 1971.

The gold standard

The origins of the gold standard dates back to the first use of coins. Early gold and silver coins were valued on their precious metal content alone. The face value of these bullion coins was the same as the value of the metal it contained.

One of the first gold coins, part of an ancient gold standard system.

It is generally accepted that gold coins were first produced in Lydia, an iron age kingdom of western Asia Minor, now part of Western Turkey, during the 6th century BC. The value of these coins was based purely on their gold content alone, and kicking off the gold standard.

As time progressed, and large international trade became more common, this meant the physical weight of gold bullion – or the equivalent value of silver – could be extremely excessive, making them impractical to use. To make exchange and trade easier, lighter weight coins of various metals were used; and these were considered redeemable in exchange for heavier physical precious metals, which were held by the ruler who issued the coins.

As international trade grew, particularly during the late nineteenth century, it became generally accepted that circulation currency coins no longer held any intrinsic physical value, and simply represented a value exchangeable for gold.

What year did the gold standard end?

The gold standard is not currently being used by any country. Britain officially ceased using the gold standard in 1931, and the United States in 1933, but it was not until 1971 that the system was totally abandoned.

Economic disruption from the First World War led many nations to suspend strict gold exchange guarantees on their currencies. Germany for example came off the gold standard as the war was declared and, crippled by reparations following their surrender, failed to return to the system. After the war, Britain returned to a gold standard in 1925, but dropped out again during the great depression in 1931.

Mount Washington Hotel, where the Bretton Woods agreement was made, confirming a gold standard for the world.

Mount Washington Hotel in Bretton Woods, New Hampshire, United States, where the 1944 international monetary agreement was made.

Following the Second World War, the victorious nations gathered at Bretton Woods in the United States. Here, an international monetary agreement was made to fix currencies to the US Dollar. In turn, the US government held and guaranteed to exchange 35 US Dollars for an ounce gold. As a result of this agreement, international trade continued using the US Dollar on this quasi-gold standard until 1971.

The Bretton Woods agreement that set a worldwide gold standard.

By the end of the 1960s it became clear the US did not actually hold sufficient gold to fulfil it's Bretton Woods obligations. On August 5th 1971 the US President, Richard Nixon, altered the rate to 38 US Dollars to an ounce of gold, and then ended the guarantee to exchange.

By 1973 the rate was again changed to 42 US Dollars to the ounce. From then on, the US Dollar and all other currencies were valued against other currencies alone. The international currency market then became a truly fiat system without any vestige of a gold standard.

It is this lack of a gold standard that makes many investors wary of investments like stocks and ISAs. Current fiat monetary systems can be, and regularly are, devalued by money printing and inflation as 2020 and 2021 have once again shown. As a physical asset, gold can act as a hedge against the fluctuations in the world's economies.