The End Of The (Monetary) World As We Know It

The most significant event in monetary history since 1971 occurred last week. An event that threatens to upend the global balance of power, the economy of the world, and your portfolio.

To understand the significance of this event and the potential scale of its consequences, a little monetary history is in order.

For at least 5000 years, gold and silver have been considered intrinsically valuable, and therefore have been used as a store of wealth and as money. Governments and societies throughout time have used actual silver or gold as their coined currencies.

This gave way to gold and silver backed currency––|the currency itself consisted of paper or other metals of little value, but could be exchanged for an equivalent amount of gold or silver at any time.

This was the situation in the United States (and most of the major powers) in the late 1800’s. A twenty-dollar bill was worth one ounce of gold,[i] and could be exchanged for a physical ounce of gold at any bank. Coins themselves didn’t require such an exchange, as they were forged from silver, at a purity of 90%.

This was the system envisioned by our founding fathers and embedded into our constitution, Article I Section 10,

“No State shall… make any Thing but gold and silver Coin a Tender in Payment of Debts.”

This system limited the amount of currency our government could print to the amount of silver and gold it owned. This period (1880-1914) is known as the classical gold standard.

The Federal Reserve Act of 1913 changed the rules, allowing for a US Dollar partially backed by gold, at a ratio of 40%; for every ounce of gold in the treasury, $50 could now be printed instead of $20.

Then the world went to war. Redemption rights throughout Europe were suspended, as nations resorted to the printing press and debt to finance the fight.

The US was late to join the first world war (as well as the second), and in the meantime profited greatly, as Europe consumed American goods––in exchange for gold. And by providing loans to the countries at war, America flooded the world with dollars.

By the end of both world wars, America owned two thirds of all the gold bullion ever mined.

In 1944, the world’s powers formalized a new monetary system with the Bretton-Woods Agreement. Under the new arrangement, the dollar officially became the world reserve currency––every currency would be pegged to the US dollar at a fixed ratio, and the dollar would be fixed to gold at $35/oz. Redemption rights for the physical metal would be limited to central banks.

Bretton-Woods didn’t mandate, however, a reserve ratio of actual gold that the United States would be required to hold in relation to the amount of US Dollars in circulation.

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