Hard Money (Economist): All currencies are backed by something. When the world was on the gold standard, that something was the yellow metal: the value of each pound sterling, dollar or French franc was determined by the (fixed) amount of gold that the central bank agreed to deliver against it. Now those currencies are backed by something altogether less tangible: central bankers’ promises that the currencies will maintain their value. Quite probably, these promises are not worth as much as they were.
It is only in very recent years that gold has lost its allure as a store of value. For centuries, the metal was virtually synonymous with money: the Egyptians were casting gold bars as money as long ago as 4000 BC. The gold standard’s heyday was from the 1870s to the 1930s (with a brief interruption in the first world war). Britain left the standard in 1931, a move pronounced as “the end of an epoch” by no less an authority than The Economist. America did the same in 1933. One by one, other rich countries followed suit. The gold standard was revived in a famous agreement in Bretton Woods, New Hampshire after the second world war, but only in America, which by then had three-quarters of the world’s gold stock. Although other currencies were fixed to the dollar, they were not fixed directly to gold. As other countries prospered, so America’s current-account deficit began to rise and its stock of gold began to dwindle. By 1971, inflationary pressures were driving up the real value of the dollar. In August of that year, President Richard Nixon took America off the gold standard once again.
Since then there has been a central-banking standard instead. The standard was set by Paul Volcker, the Federal Reserve chief who quashed inflation (which erodes the value of money) with draconian interest rates in 1980, and killed off the bull market in gold, which had climbed from $35 an ounce in 1968 to $850 an ounce in 1980. In its place came a bull market in government IOUs. Bonds, after all, pay interest, unlike gold.
But hard money can be an unpleasant medicine, and the problems facing central bankers have not gone away since Mr Volker’s day. Inflation has shown up in more than the price of carrots: it has also pushed up the prices of shares and property. For understandable reasons, central bankers have been slow to spot and prick asset bubbles. Thus have they swelled and popped in America and Japan in recent years, leaving mountains of debt in their wake, and weakening the credibility of central bankers as they try to control economies by tweaking the short-term rate of interest.
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