The Gold Standard

Introduction

In economics, the gold standard is a type of monetary system where the currency of a country backed directly by the national gold reserve. The gold standard is a complete commodity-money system with an application not found in other monetary arrangements. The supply for and demand for money under the gold standard normally react simultaneously through the price of all services and goods and the monetary metal.

Gold standard

The gold standard refers to a monetary system where the representative currency based on the fixed amount of gold held by central government. The currency usually represents the obligation of making a payment for a stated amount when presented to the government (Timberlake, 2007). With the gold standards, countries would agree to convert the paper money to fixed amount of gold. A country that is using the standard have a fixed price for the gold and the buying and selling of the gold is based on that price. The fixed price helps in determining the value of the currency. For instance, when the gold standard was in place, a person could present a $10 bill to a federal bank, and they would receive $10 worth of gold in return (Timberlake, 2007). During the time, gold was used as a base as it was rare, durable, and most universally valued.

Today, there no government that is using the gold standard. Britain stopped using the standard in 1931 and United stated in 1971 (Reti, 1998). In the international gold-standard system, it normally uses the currency or gold convertible into gold at a fixed price as being the medium of international payments. Under the system, the exchange rate between the countries was fixed whereby to in case the rate rose above or fell below the fixed rate by more that the gold’s shipping cost from one country, it would result in gold outflow or inflow, which would continue the rates returned to the official level. The gold standard did establish an exchange rate system because people could exchange the dollar both internationally and domestically at the mint rate (Bordo & Rockoff 1996). Hence, the exchange between the dollar and gold determined the international value of the gold.

The benefit for the gold standard is that it limits the power of the banks or government to cause price inflation through the excessive issue of the paper currency. The standard tends to create certainty in the international trade through the provision of a fixed pattern of exchange rates (Bordo & Rockoff 1996). The gold standard ensures a low level of inflation. Inflation normally occurs because of money supply going up, goods supply going down, demand for goods going up, and demand for money going down. Hence, provided there is no quick change in gold supply, the money supply will remain stable (Focus, 2010).  When using the gold standard, it usually prevents the government from printing a lot of money. In case the supply of money rises too fast, people are likely to consider exchanging money for gold, and if that occurs, the Treasury will run out of gold. A gold standard tends to restrict the federal treasury from enacting policies that alter the growth of money supply that in turns limit the rate of inflation in the country.

Another benefit of the gold standard is that it changed the face of the foreign exchange market (Bordo, 2005). For instance, if Canada was on the gold standard and set the price of the gold at $100 an ounce and Mexico was on the gold standard and set the price of gold at 5000 pesos an ounce, the a 1 Canadian dollar was worth 50 pesos. The use of gold standards has implied a system of fixed exchange rates. Thus, all countries on a gold standard meant that there was only one real currency that was gold, from where all others would get their values.

A major disadvantage of the standard relates to the health and size of a country’s economy that depends on the supply of gold and not the resourcefulness of its businesses and people. Therefore, countries without gold are usually at a competitive disadvantage. The gold standard usually causes the country to be excessively obsessed with keeping its gold instead of improving the business climate (Focus, 2010). For example, during Great Depression, the Federal Reserve considered raising the interest rates as a means of making the dollar more valuable and preventing people from asking for gold. In search a situation, the federal would consider lowering the interest rates that would help to stimulate the economy. With the gold standard, it is hard to manipulate the standard to tailor it to the economy demand for money (Bordo, 2005). Thus, it has practical constraints against measures that the central bank can use to respond to the economic crisis. The demand for money is equal to the money supply. Thus, the creation of new money tends to reduce the interest rates and increases the demand for new lower cost debt raising money demand.

Conclusion

The US economy is a partner in an integrated economy and the central bank normally work together across the world to manage monetary policy. Today, the use of gold standard will mean that the country cannot manage its economy using the monetary policy.

Reference

Bordo D. & Rockoff H (1996). The Gold Standard as “the Good Housekeeping Seal of Approval.” Journal of the Economic History, 56(389) 

Bordo, Focus (2010). What is the gold standard? 

Reti, S (1998). Silver& Gold. Greenwood Publishing Group

Timberlake, R (2007). Gold Standards and Real Bills Doctrine in the U.S. Monetary Policy. Independent 

M (2005). The gold standard and the related regimes. Columbia University Press

Sherry Roberts is the author of this paper. A senior editor at MeldaResearch.Com in custom essay research paper if you need a similar paper you can place your order from online research paper writer.