A gold standard is a monetary system in which the standard economic unit of account is defined by a fixed quantity of gold. The gold standard was the basis for the international monetary system from the 1870s to the early 1920s, and from the late 1920s to 1932 as well as from 1944 until 1971, when the United States unilaterally terminated convertibility of the US dollar into gold, effectively ending the Bretton Woods system. Many states nonetheless hold substantial gold reserves.
Historically, the silver standard and bimetallism have been more common than the gold standard. The shift to an international monetary system based on a gold standard reflected accident, network externalities, and path dependence. Great Britain accidentally adopted a de facto gold standard in 1717 when Isaac Newton, master of the Royal Mint, set the exchange rate of silver to gold too low, thus causing silver coins to go out of circulation. As Great Britain became the world's leading financial and commercial power in the 19th century, other states increasingly adopted Britain's monetary system.
The gold standard was largely abandoned during the Great Depression before being reinstated in a limited form as part of the post-World War II Bretton Woods system. The gold standard was abandoned due to its propensity for volatility, as well as the constraints it imposed on governments: by retaining a fixed exchange rate, governments were hamstrung in engaging in expansionary policies to, for example, reduce unemployment during economic recessions.
According to a 2012 survey of 39 economists, most (92 percent) agreed that a return to the gold standard would not improve price-stability and employment outcomes, and two-thirds of economic historians surveyed in the mid-1990s rejected the idea that the gold standard "was effective in stabilizing prices and moderating business-cycle fluctuations during the nineteenth century." Some economists suggest that the gold standard was a factor in prolonging and deepening the Great Depression. Historically, banking crises were more common during periods under the gold standard, while currency crises were less common. According to economist Michael D. Bordo, the gold standard has three benefits that made its use popular during certain historical periods: "its record as a stable nominal anchor; its automaticity; and its role as a credible commitment mechanism." The gold standard is supported by many followers of the Austrian School, free-market libertarians, and some supply-siders.
Implementation The United Kingdom slipped into a gold specie standard in 1717 by over-valuing gold at times its weight in silver. It was unique among nations to use gold in conjunction with clipped, underweight silver shillings, a problem addressed only before the end of the 18th century by the acceptance of gold proxies like token silver coins and banknotes.
Under a gold standard, where coins circulated at face value, banks and public cash offices had to confirm that each coin still held roughly the amount of gold the law required. Normal wear alone gradually lowered a coin's weight, but clipping, filing, or sweating could strip gold away on purpose. To guard against this, most monetary systems set a pass weight: any coin that fell below it was withdrawn or simply refused. That requirement kept calibrated scales, coin weights, and mechanical testing devices in constant use.
The Doppelkronensache, discovered in Lübeck in 1877, showed how the weight rule could be evaded. The affected 20-mark coins had been reduced after minting but remained above the legal minimum, so they passed the checks used at public cash offices.
From the more widespread acceptance of paper money in the 19th century emerged the gold bullion standard, a system where gold coins do not circulate, but authorities like central banks agree to exchange circulating currency for gold bullion at a fixed price. First emerging in the late 18th century to regulate exchange between London and Edinburgh, Keynes (1913) noted how such a standard became the predominant means of implementing the gold standard internationally in the 1870s.
Restricting the free circulation of gold under the Classical Gold Standard period from the 1870s to 1914 was also needed in countries which decided to implement the gold standard while guaranteeing the exchangeability of huge amounts of legacy silver coins into gold at the fixed rate (rather than valuing publicly held silver at its depreciated value). The term limping standard is often used in countries maintaining significant amounts of silver coin at par with gold, thus adding an additional element of uncertainty with the currency's value versus gold. The most common silver coins kept at limping standard parity included French 5-franc coins, German 3-mark thalers, Dutch guilders, Indian rupees, and U.S. Morgan dollars.
Lastly, countries may implement a gold exchange standard, where the government guarantees a fixed exchange rate, not to a specified amount of gold, but rather to the currency of another country that is under a gold standard. This became the predominant international standard under the Bretton Woods Agreement from 1945 to 1971 by the fixing of world currencies to the U.S. dollar, the only currency after World War II to be on the gold bullion standard.
Because each participating currency represented a fixed quantity of gold, the ratio of those quantities set its official exchange rates. Market rates could move within a narrow band because moving gold between countries cost money. The limits at which importing or exporting gold became profitable were known as the gold points.
History before 1873
Silver and bimetallic standards until the 19th century
The use of gold as money began around 600 BCE in Asia Minor and has been widely accepted ever since, together with various other commodities used as money, with those that lose the least value over time becoming the accepted form. "in a world with two capital goods, the one with the lower depreciation rate emerges as commodity money" In the early and high Middle Ages, the Byzantine gold solidus or bezant was used widely throughout Europe and the Mediterranean, but its use waned with the decline of the Byzantine Empire's economic influence.
However, economic systems using gold as the sole currency and unit of account did not emerge before the 18th century. For millennia it was silver, not gold, which was the real basis of the domestic economies: the foundation for most money-of-account systems, for payment of wages and salaries, and for most local retail trade. Gold could not be used as currency and as a unit of account for daily transactions, due to various hindrances which were only resolved by tools that emerged in the 19th century, among them: Divisibility: Gold as currency was hindered by its small size and rarity, with the dime-sized ducat of 3.4 grams representing 7 days' salary for the highest-paid workers. In contrast, coins of silver and billon (low-grade silver) easily corresponded to daily labor costs and food purchases, making silver more effective as currency and unit of account. In mid-15th century England, most highly paid skilled artisans earned 6d a day (six pence, or 5.4 g silver), and a whole sheep cost 12d. This made the ducat of 40d and the half-ducat of 20d of little use for domestic trade. Non-existence of token coinage for gold: Sargent and Velde (1997) explained how token coins of copper or billon exchangeable for silver or gold were almost non-existent before the 19th century. Small change was issued at almost full intrinsic value and without conversion provisions into specie. Tokens of little intrinsic value were widely mistrusted, were viewed as a precursor to currency devaluation, and were easily counterfeited in the pre-industrial era. This made the gold standard impossible anywhere with token silver coins; Britain itself only accepted the latter in the 19th century. Non-existence of banknotes: Banknotes were mistrusted as currency in the first half of the 18th century following France's failed banknote issuance in 1716 under economist John Law. Banknotes only became accepted across Europe with the further maturing of banking institutions, and also as a result of the Napoleonic Wars of the early 19th century. Counterfeiting concerns also applied to banknotes.
The earliest European currency standards were therefore based on the silver standard, from the denarius of the Roman Empire to the penny (denier) introduced by Charlemagne throughout Western Europe, to the Spanish dollar and the German Reichsthaler and Conventionsthaler which survived well into the 19th century. Gold functioned as a medium for international trade and high-value transactions, but it generally fluctuated in price versus everyday silver money.
A bimetallic standard emerged under a silver standard which gave popular gold coins like ducats a fixed value in terms of silver. In light of fluctuating gold–silver ratios in other countries, bimetallic standards were rather unstable and de facto transformed into a parallel bimetallic standard (where gold circulates at a floating exchange rate to silver) or reverted to a mono-metallic standard. France was the most important country which maintained a bimetallic standard during most of the 19th century.
Gold standard origin in Britain The English pound sterling introduced was initially a silver standard unit worth 20 shillings or 240 silver pennies. Each penny initially contained 1.35 g of fine silver, and its silver content was reduced by 1601 to 0.464 g (hence giving way to the shilling [12 pence] of 5.57 g fine silver). Hence the pound sterling was originally 324 g fine silver, but fell to 111.36 g by 1601.
The problem of clipped, underweight silver pennies and shillings was a persistent, unresolved issue from the late 17th century to the early 19th century. In 1717 the value of the gold guinea (of 7.6885 g fine gold) was fixed at 21 shillings, resulting in a gold–silver ratio of 15.2, higher than prevailing ratios in Continental Europe. Great Britain was therefore de jure under a bimetallic standard with gold serving as the cheaper and more reliable currency compared to clipped silver (full-weight silver coins did not circulate and went to Europe where 21 shillings fetched over a guinea in gold). Several factors helped extend the British gold standard into the 19th century, namely: The Brazilian Gold Rush of the 18th century supplying significant quantities of gold to Portugal and Britain, with Portuguese gold coins also legal tender in Britain. Trade deficits with China (which sold to Europe but had little use for European goods) drained silver from the economies of most of Europe. Combined with greater confidence in banknotes issued by the Bank of England, it opened the way for gold and banknotes to become acceptable currency in lieu of silver. The acceptability of token / subsidiary silver coins as substitutes for gold before the end of the 18th century. Initially issued by the Bank of England and other private companies, permanent issuance of subsidiary coinage from the Royal Mint commenced after the Great Recoinage of 1816.
A proclamation of Queen Anne in 1704 introduced the British West Indies to the gold standard; it did not result in the wide use of gold currency and the gold standard, given Britain's mercantilist policy of hoarding gold and silver from its colonies for use at home. Prices were quoted de jure in gold pounds sterling, but were rarely paid in gold; the colonists' de facto daily medium of exchange and unit of account was predominantly the Spanish silver dollar.
In the 19th century, after the Napoleonic Wars, Britain legally moved from the bimetallic to the gold standard in several steps: The 21-shilling guinea was discontinued in favor of the 20-shilling gold sovereign, or £1 coin, which contained 7.32238 g fine gold.