A Brief History of the Gold Standard
May 26, 2025
As evidence mounts that major western economies are heading into a banking and monetary crisis due to contracting credit, we face the consequences of unsound money. The era of fiat is drawing to a close and its death will be painful for the highly indebted advanced economies in North America, Europe, and Japan. History and legal precedent tell us that fiat will die, and only gold can provide an anchor to credit values.
As always, there are lessons to be learned from monetary history, particularly in the context of credit-dependent post-feudal economies, when in a post-feudal world gold standards evolved to support mountains of credit in the forms of bank notes and commercial bank deposits.
In this article, I look at lessons from nineteenth century gold standards and the mistakes made. Mostly, they could have been easily avoided, but are lessons for designing tomorrow’s monetary systems
The debate over the return of gold backing for credit is becoming urgent, not just because the fiat currency system has run its course, but because it is increasingly in the developing world’s interests to embrace it. And unless Russia, China, and their spheres of influence moves urgently towards backing their currencies with gold, there economies wil suffer from increasing dollar-led fiat instability.
Introduction
The Mystery of Banking
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We know that from the dawn of monetary history, money is gold, silver, or copper and everything else is credit. And the relationship between money and credit was codified in a series of Roman law pronouncements dating back to Rome’s Twelve Tables in 449 BC. It was the successor nations of the Roman Empire, stretching from the Atlantic seaboard to the Urals which colonised the world, apart from China and Japan. But coincidentally with the Twelve Tables, it was the era of Confucius, who had died only thirty years before, and the flowering of Chinese philosophy which confirmed similar conclusions about money. But since the end of barter, there have been numerous attempts by rulers to fraudulently misrepresent or confiscate money, usually to finance wars or disguise their debts.
The transition from agricultural feudalism to industrialisation was facilitated by the expansion of credit, not money, though above-ground stocks of gold and silver available for coining did continue to accumulate. And with its expansion, banking systems evolved to deal in credit, creating it as demanded. Rudimentary banking dealing in credit had existed in Roman times, which is why jurors such as Ulpian, Paul, and Gaius in the early Christian era ruled on the differences between money and credit.
In his 1751 treatise Della Moneta [On Money], the Italian economist Ferdinando Galiani confirmed the origins of Italian banking which spread throughout Europe:
“Notably, the first banks were in the hands of private persons with whom people deposited money and from whom they received bills of credit and who were governed by the same rules as the public banks are now. And thus, the Italians have not only been the fathers, the masters, and the arbiters of commerce so that in all Europe they have been the depositories of money and are called bankers.”
Banking as we know it today was developed in England by London’s goldsmiths, who began to receive the gold and silver coin of the merchants in deposit. They not only agreed to repay it on demand, but to pay 6% interest per annum for the use of it. Consequently, in order to enable them to pay the interest promised it necessarily became their property to trade with as they wished. They were not the trustees of the money, but its proprietors. And it was not placed with them as a depositum to be restored in specie, but it became the goldsmiths’ property as a mutuum to be restored to the merchant on demand. This business flourished after the Restoration in 1660, and expanded significantly under William of Orange, following the Glorious Revolution when the Catholic James II was banished.
When the goldsmith bankers received this money in deposit, in exchange it was agreed that a credit or right of action be given in favour of the merchant for an equal amount of money to be restored to him on demand. It is this banker’s obligation to the depositor which in banking language today is termed a deposit.
As this business became mainstream, experience showed that if some of a banker’s customers demanded payment of their deposits or credits from day-to-day, others would probably pay in about an equal amount, so that at the end of the day they would not be much difference in his cash balance. In practice, it was found that ordinarily the bank’s balance in cash would seldom differ by more than 1/36th of total deposits from day-to-day. Therefore, if a banker retained 1/10th of his cash to meet any demands for payments that may be made, it would be ample cover for deposit outflows in ordinary conditions.
This allowed the banker to buy commercial and other bills in far larger quantities at a discount in return for a deposit credited in favour of the sellers. The sellers of these bills could draw upon their credits at the bank at will. By dealing in credit this way, the leverage the banker could apply to his own balance sheet was safely up to ten times on the assumptions above. And with the rate of discount on commercial bills typically 8% or more, the banker was able to pay 6% to depositors and retain a good profit.
Clearly, the value of a banker’s credit had to be expressed in money. That is to say, a deposit was expected to be encashable for specie. But with the evolution of the goldsmiths’ business and the mountains of credit created by their activities, the relationship between gold and silver on the one hand and legal obligations to pay on the other would also evolve.
The gold standard as our nineteenth century forbears knew it was basically a child of the British government and its bank in London, the Bank of England. The Bank itself opened for business on 1 August 1694 with a staff of nineteen. For most of the period between 1717 to 1931, Britain operated either a formal or de facto gold standard. The gold standard commenced after Sir Isaac Newton, as Master of the Mint, valued the gold guinea at 21 silver shillings, marking an important shift from sterling silver towards a gold standard. After a period of bimetallism, gold gradually became to be regarded as the measure of value in preference to silver. And in 1816, gold was declared to be the only legal measure of value in England and the pound became the equivalent in gold of 20 silver shillings.
By the 1816 Regulations of the Mint, forty pounds weight of standard gold bullion are cut into £1,869 in sovereigns, fixing the mint price of gold at £3/17/6d. In modern measures, a sovereign weighs 7.99 grammes with a gold content of 7.32 grammes.
In the United States, before the War of Independence English law prevailed and in the late 1700s Blackstone’s Commentaries was the standard legal treatise among Americans. Blackstone was clear on what constituted money:
“Money is the medium of commerce. It is the King’s prerogative as the arbiter of domestic commerce to give it all authority or make it current. Money is a universal medium or common standard by comparison with which the value of all merchandise may be ascertained: a sign which represents the respective values of all commodities…
“The coining of money is in all states the act of the sovereign power that its value may be known on inspection. And with respect to coinage in general there are three things to be considered therein: the materials, the impression, and the denomination. With respect to the materials Sir Edward Coke lays it down that the money of England must be either of gold or silver…”[i]
The framers of the Constitution adapted Blackstone to replace the King’s prerogative with the new Congress, giving the federal government the power to coin money. And that money could only be coined. To get around this restriction, which is every spendthrift politician’s desire, the government would have to have a tame commercial bank to produce gold substitutes in the form of bank notes. But even that course was controversial.
In 1790, Alexander Hamilton as the first secretary of the Treasury submitted a report to Congress in which he outlined his proposal to establish a government-owned bank, the Bank of the United States, using the charter of the Bank of England as the basis for his plan. It was passed and a 20-year charter was signed into law by President Washington the following February. As well as acting as the government’s fiscal agent and making loans to the government, it also operated as a commercial bank, issuing banknotes. In 1811, Hamilton was dead, the Republican Party had taken control from the Federalists, and the charter was not renewed.[ii]
Just five years after Hamilton’s proposal, the Bank of England began experiencing a significant drain on its bullion reserve, due to the government’s need for gold to finance the war with France and also to pay for imported grain after a succession of bad harvests. In 1797, the Bank suspended payments in cash (i.e. gold and silver coin). The suspension continued through the Napoleonic Wars, during which the Bank inflated its note issue causing the price of gold to rise against the Bank’s paper currency. In 1810, this led to the appointment of a Select Committee “to enquire into the high price of bullion”, which concluded that the depreciation of the currency was due to the excessive issue of bank notes. The following which is extracted from its report to Parliament is the most relevant passage:
“…there is at present an excess of paper in circulation in this Country, of which the most unequivocal symptom is the very high price of Bullion, and next to that, the low state of the Continental Exchanges; that this excess is to be ascribed to the want of a sufficient check and control in the issues of paper from the Bank of England; and originally, to the suspension of cash payments, which removed the natural and true control. For upon a general view of the subject, Your Committee are of opinion, that no safe, certain, and constantly adequate provision against an excess of paper currency, either occasional or permanent, can be found, except in the convertibility of all such paper into specie. Your Committee cannot, therefore, but see reason to regret, that the suspension of cash payments, which, in the most favourable light in which it can be viewed, was only a temporary measure, has been continued so long; and particularly, that by the manner in which the present continuing Act is framed, the character should have been given to it of a permanent war measure.
The Committee recommended to Parliament that placing numerical restrictions on the note issue would be impossible to judge and that in the absence of an exchange facility between notes and coin, the only sure criterion was to be found in monitoring the price of bullion and the state of the foreign exchanges. It was a conclusion which has stood the test of time because ever since all attempts to manage the note issue and other forms of central bank credit to achieve price stability have failed.
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Perhaps the implication that Parliament was unable to control monetary matters was unacceptable, because the Select Committee’s report was rejected. Consequently, being unrestrained the Bank of England was free to increase its note issue without restriction, reducing the gold value of the Bank’s paper pound even further.
In an inflationary free-for-all, bank notes were also being issued in increasing numbers by country banks outside London, in what would turn out to be a classic cycle of bank credit expansion. The consequence of the note expansion was rising prices: between 1808 and 1813, the general level of consumer prices is estimated to have risen 25%. Inevitably, a credit squeeze followed and between 1814—1816 half of the country banks failed in the subsequent slump, reducing the total volume of paper currency circulating substantially. The shortage of bank notes led to the value of the Bank of England’s notes increasing accordingly, proving that the Bullion Report was correct in its analysis: that it was impossible to judge what restrictions to put on the note issue, and the best solution was to be found in a firm relationship with specie.
Though Parliament had rejected the Bullion Report, it became the subject of much debate with the result that businessmen and traders were won over by it. It also converted Robert Peel, who later became the first Prime Minister with a business background. Peel also became Chairman of the Bullion Committee in 1819, and he pushed through an Act initially introducing a gold bullion standard to be followed by a resumption in 1823 of the previous sovereign coin standard. But the Bank had accumulated enough gold to press for the Act to be amended so that it could resume coin payments in May 1821.
Copyright © Alasdair Macleod
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