The Case for Gold and Silver as Alternative Currencies, Research Paper Example

Objectives

• To analyze the case for Gold and silver as alternative currencies for mankind wherever they may be
• addressing the issues of price stability of pre 1913 on a gold standard and the rise of gold prices parallel to that of the rise in money supplies

Introduction

Gold along with silver standards were the monetary systems that were most conspicuous in the past. Both exhibit monetary characteristics that are unique compared with other standards that had been put to use hitherto, such as salt and iron.

The qualities of gold standard refer to the elements that make gold standard to be applicable in monetary terms. These are therefore the various types of benchmarks applied to the standard to be used; that is domestic versus international, coin versus other, legal versus effective, and their implications to the money supply of a country on the standard. While these have been outlined in this review the longest section of the same is devoted to the “classical” gold standard. It is worth noting that the latter was the predominant system of currency until 1914 and marking the beginning of WW I (Kemmerer, 1940).

Prior to the 18^th century most countries in the west experienced differing economic instabilities because of use of different currency standards. For instance, during most of the 1800s the United States had a bimetallic system of money comprising silver and gold, although it was essentially on a gold standard as very little silver was traded. It was not until 1900 that a true gold standard came to existence with the hen Gold Standard Act was enacted. This meant that the classical gold standard era effectively ended, having been replaced by the ‘neo-classical’ True Gold Standard, in 1933 in the U.S. The Gold Act enabled President Franklin D. Roosevelt, the then U.S. president to outlaw private gold ownership (Eichengreen, 1992).

The silver standard, on the other hand, refers to the alternative currency system where the standard unit of financial transactions was silver. The standard economic unit of account refers to the relative value of a good or a service as compared to a predetermined weight of silver. The United States had predominantly been using the silver standard since the colonial times. It   adopted a legally bimetallic system from 1786, and an effectual gold standard in 1834. However, it was not until between 1873-1874, when the Acts on silver-dollar coinage ended, as well as limiting the legal tender of existing silver coins that the legal gold standard actually began. Ironically, it should be recalled that the move from formal bimetallism to a legal gold standard occurred during the paper standard. This was the period occurring 1861-1878, when the paper money (the “greenback period,”) came into use bringing with it a dual system; that is a legal and an effective gold standard from 1879.

The initial phase in this research work dealt with appropriate familiarization with the research problem and corresponding phenomenon. This leads the problem of deciding on the best strategy and design to employ in answering the research questions. With respect to the current research, appropriate procedures and methodologies have been applied to ensure that all objectives of the research are achieved and the researcher relied on secondary data to make the case of gold and silver as alternative currencies (Eichengreen, 1992).

The use of secondary research dealt with the collection of existing data. The merit of secondary research in this respect is that it proved to be less time consuming. However, the researcher was keen to note that relying on secondary data to make its case is associated with some disadvantage because the information retrieved may not be relevant. Regarding the current research study, the main sources of secondary data are;

1. Previous researches papers on the subjects
2. Relevant journals and books especially those touching on The case for gold and silver as alternative currencies
3. Relevant internet sources on The case for gold and silver as alternative currencies
4. Other related economics materials as the researcher finds appropriate to use.

Data obtained from these secondary sources has been utilized mainly in the development of the literature part of the study. This has been of great help in reinforcing a critical understanding of the research problem and core characteristics of the study phenomenon.

The researcher has also adopted qualitative approach in this study. It has been approached as a multi-method of focus on the issues at hand and involves naturalistic, interpretive approach to answering specific research questions. The researcher has therefore studied the case of gold and silver as alternative currencies in their natural settings or perspectives. The researcher has attempted to interpret the phenomenon characteristics in terms of what they mean in a real situation.

Another important consideration taken by the researcher in this case is the research philosophy. The researcher adopted positivist research philosophy which facilitated for the collection and utilization of a large amount of data from multiple sources. Consequently the implications were enhancing the level of reliability and validity of the research findings and therefore facilitated for adequate understanding of the research problem. The data obtained was further compared to a number of theoretical frameworks so as to determine which research approach is the most appropriate. This led the researcher to make considerable predictions about the phenomenon under study and also to put the research findings into test to see whether they support prior beliefs and assumptions regarding the study problem.

The researcher has also accounted for Validity and Reliability in this study. The research is vey phenomenological in nature and all research questions are related to the core characteristics of the research phenomenon. The process of data collection is accurate so as to ensure that highest levels of validity are realized. It is however important to note that there are several aspects of research validity which influence reliability of research findings.

For this research the choice of review of performance data as the option for data gathering procedure was found to be the most appropriate. When using this method of analysis, it was important to make sure that the data collected was current because outdated data is as harmful as no data at all. Compliance to restrictions is very significant because illegal use of confidential data is illegitimate and detrimental.

Limitations of the Research

Limitations are usually present in every research and these limitations actually tarnish the results of the research. Certain limitations are also associated with this research. Certain chunks or sources of secondary data were treated as a limitation of the research. This is because of the fact that these sources are not valid or they are not updated therefore the data that is attained from these sources might affect the entire results of the research. Therefore, the researcher took utmost care about all these constraints and tried to minimize it.

Review of Secondary Sources of Data

The use of minimum standards of gold and silver is a long-term measure towards the commitment of a country in tightening the monetary policy of the country to an extent that the gold price can hardly go beyond the parity irreversibly. The adoption in whole of a gold standard is an indication of the commitment of the country in selling gold in quantities that are unlimited with consideration of the parity along with maintaining sufficient gold reserves, which is capable of redeeming the monetary base in whole. The United Kingdom took the first initiative to abandon the use of gold system followed by many other countries. The intention of abandonment was maintaining their competitiveness through the devaluation of the currency in addition to responding to capital flow destabilization (Kemmerer, 1940).

Based on the rules of the game of gold standard, a requirement for reinforcement was anticipated from the central bank in contrast to sterilization or ignorance to the effects of the flow of gold and silver with regard to the monetary system. The outflow of gold is responsible for typical declines of the central bank’s global assets with significant implications to the money supply in addition to the monetary base.

The most appropriate response of the central bank with this respect includes raising the “discount rate” which has the implication of raising the rates of interests with respect to rediscounting securities. The implication of this step is to cash with deduction from the face value which is a form of security on short-term basis. The results are induction of the banks towards the adoption of higher profile reserves or the ratios of deposits leading to s decline in money multiplier. This step also aims at achieving a lower rate of lending in addition the sale of securities, which is consequential to the reduction in domestic assets and consequently a decline in monetary base at the same time.

Global Shift to Use of Gold Standard

One of the main characteristic of money as a currency is its wide acceptance. Gold standard did not become widely accepted until 1870s when Germany, France, countries of Scandinavian region and the rest of European states adhered to it. This ushered the use of  gold standard in the 1870s. By this time, legal bimetallism had changed from the lesser valuable silver to more valuable gold monometallism. This effectively lend to the devaluation of silver in relation to gold. Some countries could not jump to gold immediately. For instance, France, Belgium along with Switzerland opted for “limping” standard in as far as gold is concerned. The implication of this development, the already in place standard of silver mainatained the capacity of and consequently the authorities were empowered to redeem the paper money in favor of gold and silver (Kemmerer, 1940).

Instability of Standard in Classical Gold

The three elements that brought about the volatility of the conventional gold standard are:

The use of foreign exchange as reserves: This grew as use of the gold standard advanced. accessible statistical data show that the global foreign exchange in the formal reserves; that is the global assets of financial authority, increased with a factor of 36 percent in the period 1880- 1899 relative to  356 % rise for the period from 1899 -1913 (Kemmerer, 1940).

Similarly, the formal reserves escalated by a factor of160 % during the period 1880- 1903 relative to 88 percent in the period 1903 – 1913 (Kemmerer, 1940). This meant that hasting for cash for foreign exchange with respect to gold would be consequential to a decline in reserve-currency of gold that could consequently negatively affect the gold standard (Friedman, 1948).

On the outset, Britain, the principal reserve country of currency, was in a sensitive condition. Note that the sterling was a global legal tender. Therefore, it would have followed that, private foreigners who held substantial liquid possessions in London, would have easily initiated a run with regard to the sterling (Friedman, 1948).

The U.S. had a relatively high demand for money. As a center country, its Treasury was in possession of high rates of international gold reserves; that exceeded the three other states combined during the year 1913 thereby commanding ridiculously high proportion of reserve. Instead of the U.S. lending assistance to Britain, the former continued to place higher demand for gold. The trade scenario of the U.S. was that for a considerable length of time it was an importer of capital to entire world in contrast to being an exporter, despite being the largest compared to the other core countries. The trade scenarios of other important countries were exactly the opposite. The politics of the interests associated with silver resulted in intermittent financial panics leading to runs banks. The trustworthiness in the commitment of Americans to gold standard was thus dented.

Discussions

Characteristics of Gold Standards

Pure Coin and Mixed Standards

Each country has its currency that circulates within its economy which must have a legal backing (fiduciary issue) of that country through its monetary authority. The currency in circulation in an economy is either in “pure coins” or “mixed” (coin and paper money). These form, in theory, “domestic” gold standards, which do not rely on the relations with other states standard. The two systems had sharer properties in common: First, both have a well-defined in addition to fixed content of gold in the domestic unit or currency.  Second, both enable the Gold coin to circulate as money with full legal-tender power; that is it is a compulsorily acceptable means of payment, irrespective of the transaction or obligation. Third, both pay attention to privately owned bullion. Such gold must be is convertible into the coin of gold in unlimited quantities with reference to government mint or central bank, as well as the “mint price”. “Mint price of gold” refers the proportion of gold content of a monetary unit (Friedman, 1948). Fourth, both are without restrictions on private parties holding or using gold; in particular, they may melt coin into bullion. This effectively means that coin can be disposed off at a monetary authority of a country for bullion. However, this is with the exception of privately created coined money (illegal currency). The last two conditions commit the monetary authority to effectively transact in coin and bullion in either way such that the mint price governs in the marketplace.

Gold-Point Spread

Individual countries’ currency exchange rates differ. This is as result of differences between their reserves of the foreign exchange in form of gold. This enables a country to compare its foreign exchange reserves in form of gold with that of another. This essentially determines the exchange rate of that country compared to that of another (Friedman, 1948).

The effective monetary standard of a country is the ‘de facto’ standard, i.e. actually in use whereas its legal standard is its ‘de jure’ standard, i.e. stipulated by law.  For example, a country legally on bimetallism usually is effectively on either a gold or silver monometallic standard. The determining factor is its “mint-price ratio”; that is whether the ratio of its mint price of gold to mint price of silver is greater or less than the world price ratio. In contrast, a country that is legally on a gold standard may have its banks (and therefore its monetary authority) adopted a “suspended specie payments of gold” criterion; that is refusing to convert their notes into gold. Such a country is in fact said to be on a “paper standard.”  As to whether a country is on gold standard this is the test: – Is the country’s effective metallic money predominantly in gold or is the monetary bullion? Has it adopted gold specie payments? Moreover, is there a limitation on the coinage and/or the legal-tender status of silver?

Conclusion

Although the system was in wide application until 1970s, there has been a decline in its applicability at current. The great depression forced most countries to abandon the system as they sought to re-energize their economies through increasing the level of money supply. This monetary policy had the advantages of simplicity as well as transparency. The use of gold and silver as alternative currencies results to the induction of deflation due to the high rate of economic growth relative to gold and silver supply. A high rate of economic growth relative to the supply of money results to a higher money utility in an effort of executing the high profile transactions. This is achieved through lowering nominal costs associated with every transaction with consequences a reduction in the price of goods as well as services and a corresponding increase in the value of unit money.

References

Kemmerer, E. W., (1940). Inflation and Revolution: Mexico’s Experience of 1912- 1917. Princeton: P U P.

Friedman, M., (1948). “A Monetary and Fiscal Framework for Economic Stability,” American Economic Review, 38(3).

Eichengreen, B.,  (1992). Golden Fetters: The Gold Standard and the Great Depression, 1919-1939. N Y: O UP.

Appendices

Price of gold in different currencies (Euros, U.S. Dollars, Aus. Dollars, & Yen). Source http://www.the-privateer.com/chart/g-multi.html.

Gold prices from 1975 to present. Source: http://www.financialsense.com/contributors/investment-score/price-of-gold-in-all-currencies

Gold prices in $ 1971 to present day. Source: http://www.safehaven.com/article/16976/the-many-faces-of-gold

CPI index 1800-2000 http://hiqnews.megafoundation.org/Consumer_Price_Index_1800-2000.htm.