During the Revolutionary War, Congress was strapped for money. Back in those days, real money was gold and silver. Everyone knew that. So, in order to finance the war and pay for its military, the Continental Congress created debt notes commonly referred to as “Continentals.”
Normally, currencies issued by states were backed by hard assets where the holder could exchange the bills for a set amount of gold or silver at the treasury. These bills, however, were not. These bills were what we call ‘fiat’ currency-
In 1778, Continentals were worth approximately 1/5 -1/7 of their face value. By 1780, these notes were 1/40th of the face value. Inflation had taken its toll and sealed the fate of the Continental currency.
After seeing the devastating effects of loose monetary policy and a currency backed by nothing, the framers of the Constitution saw fit to ensure that this would never happen again. Article I Section 10 of the U.S Constitution states: “No State shall…make any Thing but gold and silver Coin a Tender in Payment of Debts.”
Along Came Nixon
For a long time, the government would print paper currency that was backed by physical gold, similar to the one below.
Then, in 1971, President Nixon did one of the worst things of his presidency. No- not the Watergate scandal. He permanently closed the door on what was left of the gold standard by ending what was known as the Bretton Woods system. (To be fair, Roosevelt already took the US off the gold standard in 1933, Nixon just put the last nail in the coffin.)
Under this system, the US dollar was the only currency backed by gold. Most of the other major countries then backed their currencies with the US dollar. The exchange rate from dollar to gold was fixed at $35 per ounce.
But when Nixon removed the dollar from physical gold, it became a completely fiat currency. As a result, each major country backed their own currency with US dollars. So t
A Brief History of Fiat Currencies
Fiat currencies aren’t new by any means, but we keep trying them like they are. Truly, there have been hundreds, if not thousands of different paper currencies throughout the history of the world.
But do you know how many fiat currencies have ever worked in the history of the world?
None. There is not a single fiat currency that holds its value over time.
As French philosopher Voltaire once famously said, “Paper money eventually returns to its intrinsic value: zero.”
Gold: The Real Money
Indeed, since the Federal Reserve was established in 1913, the dollar has lost much of it’s purchasing power. The chart below shows just how much purchasing power the dollar has lost.
As you can see, $1 was worth about $1 when the Federal Reserve was created. Today, that same dollar is worth about $0.05. Said another way, your dollar is worth about 95% less than what it used to be. Remember that quote from Voltaire? I’m no economist, but it seems like we’re getting pretty close.
Now compare that chart with the price of gold over the last several decades. Prior to 1971, the price of gold remained flat at $35. When Nixon removed the dollar from the gold standard, the price really started to move in the following decades. As a general rule of thumb, gold eventually reprices itself to account for the amount of dollars that are in circulation.
The large spike that you see between 2005 and 2012 is largely due to the Federal Reserve literally printing money through its QE (quantitative easing) program. (If you need a refresher on the Federal Reserve, see this article.)
Big spikes in the price of gold usually come about, as I explained above, to account for all of the dollars in circulation. So, when the government starts printing money, the currency inflates, and gold reprices itself.
The Current State Of Affairs
So that brings us to where we are today.
The Federal Reserve took an approach of flooding the economy with printed money to stave off the financial crisis that came about in 2007.
In case you have been living under a rock, a recession in the US economy is looking pretty likely. If you need some convincing see: When Is The Next U.S. Recession And Bear Market?
When market downturn does strike, the Federal Reserve will slash interest rates, but it won’t be enough. Then, the Fed will turn to pumping the economy with fake money, causing the price of gold to soar.
Gold is not really an investment. But it is a hedge and a true store of wealth. In a manipulated market, it’s going to be one of the only safe haven assets, especially when the house of cards comes tumbling down.
None of this constitutes financial advice. Each person should do his or her own homework when buying gold. However, I believe that gold is one of the most important physical assets to hold as a hedge against inflation and total market collapse. Even just a small amount could go a long way should the worst come to pass.
If you’re interested in learning more, my friends over at GoldSilver.com can help. I have used this company personally for economic news, gold information, and purchases. I have found them to be trustworthy, and they typically have the best prices around and will match prices if you find a lower one.
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