The History of Money

From shells to metals to government fiat.

Ancient Monies

Throughout history, humans have used various forms of money to facilitate trade. From shells to beads and even giant rocks, money has taken on many different forms. In this chapter, we will explore the concept of money, its role in the economy, and learn why gold won out as the best form of money in the 1800’s.

Giant rocks called the Rai stone pictured below were once used as money. (https://en.wikipedia.org/wiki/Rai_stones)

Let's start with understanding the purpose and value of money.  Money is a voucher of credit that represents the value of a product or service. When someone sells a product or service, they receive money in exchange, which they can then use to purchase goods or services of similar value. This system feels fair because it allows people to exchange something they have for something they want. Without money, trading goods for goods (bartering) becomes the only option, which is inefficient and limited.

The “economy” is the term we use to describe the sum of all the products or services created and all the purchases of those items. The total value of all the money in an economy increases as the size of the economy grows. In a well-functioning economy, the only way to accumulate more money is to create something and sell it to someone else, and if that money is trusted, more and more people will create and trade products and services for the reward of money.  In other words, we want money that not only holds its value, but also money that can be used to buy a larger variety of products or services.

A recurring problem throughout history is that within an economy eventually someone comes up with a way to create more money rather than more products or services.     For example, imagine hundreds of years ago a well functioning economy far from a beach using shells as money.  Eventually the amount of products grows large enough that someone invests in getting to a beach to find shells.  If this person becomes great at finding shells on a beach, they can buy more and more real things with those shells, while those doing the hard work of creating products get more and more shells.  If the supply of shells increases by a lot, the shells lose their value and manufacturers stop making products for those shells and the economy collapses until a new money arises.   When the quantity of money increases faster than the economy grows, then the value of the money decreases and we call this inflation.

One of the most important features of a good form of money is the ability to restrict anyone’s ability to manipulate the supply of that money.  The term “hard money” comes from the idea that a money that is hard to print/create more of is a more valuable money.   So throughout history, there were many forms of money, but the ones that proved easier to manipulate the supply of, eventually were manipulated and destroyed.  

Good/hard money must have a relatively constant overall supply.    This is why oil can't win as money.   Currently the world extracts oil based on the value to be gained from using that oil.   If the oil was also used as money, we would have to extract even more oil to store in warehouses as collateral for money.   Also, it would be possible for many actors to manipulate the overall supply of oil too quickly.   We know how volatile oil supply and price is.  Imagine, you are investing in creating a product and you have to rely on payment from a money with an unsteady supply/price.  You would not be able to invest as far in the future nor invest as much money due to the risks.  This is why the best economies are always backed by hard money.

By the 1600’s after thousands of years of battle the two most trusted monies were silver and gold.    Since the supply of silver is 19 times more abundant in the earth’s crust than gold, silver was too easy for miners to manipulate.   Successful mining of silver especially in America in the 1800’s made the price of silver generally more volatile than gold.   For these reasons, gold emerged as the most trusted form of money worldwide, and all other money choices were mostly abandoned as it became clear that they were even worse than silver for many reasons.  

The Gold Standard

The first modern gold standard was established in Britain in 1821, and it spread to other countries such as France, Germany, and the United States.  Under the gold standard, the value of a country's currency was fixed to a specific amount of gold, which helped provide stability and predictability to the economy.  

With a hard money standard in place worldwide, the period known as the gilded age ushered in the second industrial revolution, leading to significant economic growth and technological advances. A consistent worldwide pricing system using the same source of money allowed trade and collaboration to flourish.  During the gilded age, great economic growth spawned the invention of the telephone, light bulb, phonograph, typewriter, refrigeration, automobile, bicycle, radio, camera, and more.

Unfortunately, in order to fund World War I, most Western governments took their country off the gold standard in 1914.  (United Kingdom, Germany, Austria-Hungary, Russia, France, Italy, Belgium, Netherlands, Switzerland, Denmark, Norway, Sweden)  Leaving the gold standard allowed governments to steal from people's bank deposits to finance the war, which led to economic stagnation. The increase of monetary supply that followed in consequence led to devaluations of several European currencies, including the total extinction of the German mark and its debt through its hyperinflation in the early 1920s. 

After the war, many governments tried to re-establish the gold standard, but all governments couldn’t resist the power they gained from printing money.   With the additional money printing during peacetime, the “roaring 20s” became a boom period that was soon followed by the1929 stock market crash and great depression that lasted through the 1930’s.  Volatile money supply brought with it volatile economies.   

  By the 1930’s all countries finally gave up on reinstating the gold standard.  Even the US government seized gold from its citizens in 1933 through Executive Order 6102 signed by President Franklin D. Roosevelt. The order made it illegal for individuals and entities to possess monetary gold with exceptions made for jewelry and collector's items. The government required citizens to turn in their gold to the Federal Reserve by May 1, 1933, in exchange for paper currency at the rate of $20.67 per ounce.  After the government had collected the gold, the price of gold was raised to $35 per ounce.

In July 1944 after WWII, which required yet another major increase in debt, 44 allied nations which included the Soviet Union met in Bretton Woods, New Hampshire USA. The Bretton Woods conference established a new system in which all countries would use the US dollar, and the US would back the dollar with gold. However, countries were not allowed to exchange dollars for gold, only other central banks were. 

In the late 1960’s the US abused this privilege by printing money to buy more than they could afford, wage war, and fund government programs.    Stored gold was also spent to fund the profligacy, and by 1971, Nixon had to announce that the US dollar would no longer trade dollars for gold at the fixed exchange rate.  At this point, money printed which had a claim on gold was far greater than the actual supply available to redeem claims.  In other words the price of gold was free to appreciate due to dollar depreciation.  This also meant that the US would no longer try to maintain the stability from balancing gold supplies with trade, and the world abandoned the gold standard entirely.   

 Fiat Money

The fiat money system replaced the gold standard.  We call our dollar financial system “fiat money” because the dollar isn’t backed by other assets of value.  It is backed by the authority and decree of the US government to accept it as money and prevent other forms of money from competing with it. All legal currencies worldwide became backed by government decree.

Gold’s naturally limited supply made it a great form of money.  With fiat money, the resistance to print money and create inflation rested with the wisdom and leadership of governments rather than the laws of physics as it had been with gold.  

In contrast to the economic boom under the gold standard in the late 1800’s, overall growth slowed starting in 1971.  Check out the charts from the website called “WTF Happened in 1971” at

https://wtfhappenedin1971.com/

.

History has taught us that restricted supply is a requirement for money to hold its value long term.   Fiat money's structure with no physical limits on creating more units of its money has led some people to argue that we should go back to a gold standard, but it's hard to go back to the 1800’s for many reasons including the fact that most gold is captured by central banks.  

Anyways, we now have something better than gold!  In the age of cloud computing and software eating the world, we shouldn’t be surprised that many people are excited about Gold 2.0 otherwise known as Digital Gold.