From the Gold Standard to Fiat: How money became worthless

Have you ever wondered why your favorite chocolate bar has gotten smaller over the years? Why does a weekly round of grocery shopping make your wallet significantly lighter? How about why your favorite sneaker now costs more than double what it did a few years ago?

I’m sure you’ve noticed that everything you’ve regularly bought over the years has gotten considerably more expensive. We see debates on the news about how we are in an economic crisis where our currencies are getting devalued and inflation is on the rise. But what does all of that mean? Why are we in an economic crisis? Is it because of money laundering, the so-called, “black money” that everyone is talking about?

There is indeed something big going on and it is far bigger than what we see on the mainstream media. Unknowingly, we are all part of the biggest scam in history, and it has been stealing money from our pockets since 1971.

To understand this better, we have to first understand what money is.

So, let’s take a trip back in time.

What is money?

Essentially, money represents value, and for money to have value, it has to have trust. Another way to look at this is that money is valuable because you can buy things with it. Let me give you an example.

Let’s say that you go to a desert where they use black stones as currency. The money there are black stones. This means that if you have some black stones with you, you can buy anything you want.

The reason for this is that the system tells people that black stones hold value, and they can exchange these black stones to buy goods and services. People “trust” that black stones hold value, and can be used as a medium of exchange.

If you were in such a place, even if you had a million in US Dollars, you wouldn’t be able to buy anything. This is why trust is important when you want something to be a store of value or a medium of exchange.

Storing value in commodities

Over the years, we have used many commodities as stores of value and mediums of exchange. Commodities have been our go-to picks because they are Tangible (you can touch it). Since we can see and touch it, we tend to trust it. The most important among these are Gold and Silver but Gold is obviously more popular. We have used other commodities in the past too such as Food Grains, and metals like Copper, Brass, even Iron.

But all of these commodities had their own disadvantages. For instance, if you take food grains, they can’t be stored for very long. You would have to consume them before they go bad. The same goes for metals such as Iron and Copper, as they are vulnerable to corrosion.

So, consumable commodities are out of the picture, and most metals on the periodic table are either subject to corrosion or radioactive. Titanium and Palladium are both precious and pure metals, but they both have higher melting points. At the time, when we were first looking for viable stores of value, our furnaces couldn’t deliver temperatures that high. Which leaves only Gold and Silver as the practical options.

The Early Days of the Gold Standard: From Gold to Paper

Now, no one can really testify to when we started considering Gold as a valuable metal. Ancient civilizations such as the Egyptians have been known to use Gold for making decorative items as early as 3000 BC. The metal has attracted the attention and intrigue of people from across all civilizations and is the only thing that has withstood the test of time as the best store of value.

Before we had paper currencies, we used pieces of Gold such as Gold coins or bars as mediums of exchange. You could take your Gold coins or bars to merchants and they would give you goods and services in exchange. The problem here is that Gold is not very convenient to carry. Moreover, if you wanted to buy smaller goods, let’s say, a cup of coffee, you had to either use smaller Gold coins or cut your existing piece of Gold into smaller pieces.

As our needs began to grow, we needed a more convenient medium of exchange. And what was the answer? Paper.

The Birth of Banknotes

In the early days, there were no standardized currency notes. To make transportation of money easier, the banks started issuing banknotes in exchange for Gold. For example, if you had some Gold with you, the banks would keep your Gold safe in their vaults and give you a receipt stating that you own this much Gold. You can use this receipt to then buy goods or services and can redeem your original Gold anytime by giving the receipt back to the bank.

Other civilizations around the world had similar systems, even before the western world started accepting “Gold-backed” paper money. But the western system turned out to be the most influential, as it transitioned into the currency system we know of today. A transition that positioned the United States of America at the center of the world economy.

The Gold Standard

Most people have heard of the Gold standard one way or another. But it wasn’t exactly a fixed international standard, but rather a monetary system that a country followed.

I’ll explain.

When a country follows the Gold Standard, it sets a fixed price at which you can convert its currency into Gold.

For example, let’s say that India sets the price of Gold at Rs. 100 for 1 Gram of Gold (Rs. 100 = 1g of Gold). This is a fixed price, meaning that you could get Gold at a fixed rate. When this system is in place, no matter what happens, the value of the currency stays the same. Because you always get a fixed quantity of Gold for a fixed amount of money and vice-versa.

This also meant something else. It meant that governments couldn’t just print money out of thin air. If they wanted to print a currency note, they had to hold equal amounts in Gold in their vaults. This kept the monetary system balanced.

Fast-Forward 1914

Up until 1914, almost all countries around the world followed the Gold Standard. The Gold Standard was effective in keeping the volatility of currency in check for a while and kept the value of money safe even if the policymakers (politicians) unfavorably changed their behavior. They couldn’t really do anything to the money.

This also meant that money wasn’t very flexible. Governments couldn’t print more money if they wanted more money to spend. This became a problem when the whole world had to fight a war.

World War I

From 1914 to 1918, World War I consumed the entire world, and wars are expensive. Countries around the world needed more money to spend on weapons and supplies. So, to meet these expenses, they cut ties with Gold briefly and started printing money. Throughout the war, they kept on printing money. So much so that it caused Hyperinflation.

HyperInflation is a situation where there are so many currency notes in circulation that the value of each note has declined drastically. To put this into perspective, in some cases, people needed barrels full of cash to buy a loaf of bread.

Let me explain how inflation works a little better.

Imagine that you have some cake. You cut it into four pieces and one piece is yours. Right now, a pretty big piece of cake belongs to you.

Printing more money is like cutting the cake into even more pieces. But now, the pieces are smaller. You still get one piece of cake, but you only get a smaller piece. This is the same thing with money. As you inject more money into the market, each currency note is worth-less.

When this happened, countries had no choice but to go back to the safety of the Gold Standard. Which is exactly what they did after the war.

And it worked, until the Great Depression.

The Great Depression

The Great Depression was the longest more devastating economic turndown in history. It affected every country around the world and lasted from 1929 to 1939.

The Stock Market crashed, and people didn’t have money to spend. The only way to tackle this was to inflate the market, that is, print more money. And to print more money, they had to go off the Gold Standard. Great Britain went off the Gold Standard in 1931, which helped them recover.

The United States stayed on the Gold Standard but did something else. They knew that they had to print more money. And to do that, they needed more Gold. So, after taking office in 1933, President Roosevelt announced that all of the people in the US had to exchange all the Gold they had above the value of $100, for other money (currency notes and coins). This accumulated a large amount of Gold in the Federal Reserve’s vaults and they could print more money.

Inflating the market with more money slowly aided in the recovery of the economy. People now had more money to spend.

At this point, the entire world was in a state of uncertainty. They needed the Gold Standard to keep the value money stable but also needed the flexibility to inflate the market in case they didn’t have money to spend.

At the time, the world was fighting another war, in the name of World War II. So, they needed more money to spend. And this marked the beginning of the biggest scam in history.

The Bretton Woods System: The center of the world, USA

In 1944, the Allied Nations of World War II attended a conference in Bretton Woods, New Hampshire, and came to an agreement.

The agreement outlined a new monetary system where the US Dollar would be pegged directly to the value of Gold, and all other currencies in the world would be pegged to the US Dollar. Under this system, only the US Dollar could be exchanged for a fixed value in Gold.

The US Dollar was selected for this because, at the time, 1/3 of the global Gold supply was owned by the US.

Because the US Dollar was now “ass good as Gold,” its value began to increase compared to other currencies. Under the Bretton Woods System, countries had to maintain the value of their currencies at a certain level, compared to the dollar.

The way this works is that if a country’s currency value becomes too high, they could print more money to inflate the circulation and lower the value.

If the currency price got too low, they could buy the US Dollar using their currency, which would deflate the market and bring the price back up. They could then exchange this dollar for Gold.

This process is not really as straight forwards as one might think. When a country buys the dollar and exchanges it for Gold, they don’t physically get the Gold. They just get the ownership of the Gold, but the Gold itself stays in the US Treasury’s Vault.

When the Bretton Woods System was established, the world was still in a state of war. The United States ran budget deficits funding the war, meaning that they were spending more than their revenue.

Even after the war, the United States ran deficits. This meant that they were importing more goods from other countries than they were exporting. They were letting other countries buy the US Dollar but they were giving away more currency notes than their revenue.

Many countries suspected that the United States was printing more money than they had Gold to back it up. So, they started trading the dollars that they had for Gold and wanted the Gold physically delivered.

This increased the flow of Gold going out from the US Treasury and into other countries. This was a big problem for the US.

Now, countries around the world started losing their trust in the United States Dollar. What happened next changed the world economy forever, and gave birth to the system we know of today.

The collapse of the Bretton Woods System and the birth of Fiat Currency

With countries around the world losing trust in the US Dollar and the high outflow of Gold from the US Treasury to other countries, President Richard Nixon made an announcement.

To defend the Dollar, President Nixon announced on August 15, 1971, that the United States will no longer exchange Gold for a fixed rate in Dollars. Although the move was supposed to be temporary, this practically severed the Dollar’s ties to Gold. And since all other currencies were tied to the dollar, the Gold Standard was officially over.

So, with currencies not backed by Gold, what are they backed by? What ensures that a currency note is worth anything?

The answer to that can be found on the face of any Indian Rupee Note.

If you look at the Rupee Note, you’ll see a written statement by the Reserve Bank Governor saying “I promise to pay the bearer the sum of ’N’ rupees.”

All currencies of today are backed by a promise. In other words, they are backed by nothing.

In fact, today’s money is not money at all. It is a legal tender by the Government saying that a person or entity has to accept the currency as payment when given to them.

Now, you might be wondering why this is important. I’ll explain.

When a currency is backed by a commodity such as Gold, to print more currency, the Government has to have equal amounts of Gold in their vaults. With nothing backing the currency, the Government can print notes as they please. Actually, they can do whatever they want with the currency.

For instance, they can announce at midnight that the currency notes that you have with you are no longer accepted as payments. I hope it’s clear how much of a difference that can make.

But that’s not all. Remember how we talked about how we are all part of a big scam?

Fiat Currency, the Biggest Ponzi Scheme in History

Firstly, let’s understand what a Ponzi Scheme is.

Ponzi Scheme

A Ponzi Scheme is a very lucrative money-making scheme, which is in reality, a scam. All investments have risks and most legitimate investments have lower returns. It’s rarely a get-rich-quick gig.

In a Ponzi Scheme, a scammer advertises that if you invest an amount into the scheme, you get extremely high returns fairly quickly.

The way they do this is that they ask the first person to invest some money. Then they ask a second person to invest some money and use some of that money to pay off the first person. Then they recruit a third person and pay off the second person. This goes on and on until no more people join anymore. All through this, the scammer skims money and then disappears.

The Biggest Ponzi Scheme in History

Now that the United States doesn’t exchange Gold at a fixed rate, what do they exchange the Dollar for? Countries and even individuals can buy the dollar, or any currency for that matter, but what’s in it for them?

It works something like this.

The Government needs money to spend. But how do they do that if they run deficits? They borrow money from the Central Bank. The Central Bank lends currency to the Government and in return, they get something called a Government Bond.

A Bond is a security issued by the Government saying that they will pay the principal amount plus interest back to the person or entity that holds the bond.

The Central Bank then auctions out this Bond to other countries, companies, and individuals, in exchange for currency. These people or entities buy these bonds in hopes of receiving the principal amount plus interest from the Government. And how does the Government pay off this debt? They borrow currency again from the Central Banks, pay off the debt, and issue another bond. This bond again goes into an auction and the cycle just continues.

The Aftermath of Fiat

The biggest impact of Fiat currency is of course that Governments can print them and inflate the market as they please. This devalues the currency and in effect takes money away from the people without them even knowing about it. To simplify, the hard-earned money that you have in your bank account or pocket will be worth-less as time goes on and more currency is printed.

In countries such as Venezuela, the Government has exploited this so much that people have started weighing money instead of counting it. As you can imagine, this is also part of the scam, that is Fiat.

We can never go back to the Gold Standard because there are just too many currencies in circulation. The system is handicapped to the core, which demands something new to solve these problems.