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ABC of Foreign Exchange

From 1870 to 1914, most Western countries adopted the gold standard, with the primary intent to keep inflation in check. It set a standard value for a country’s currency based on an equivalent value of gold.  The U.S. began doing so in 1900.

World War I changed all that. Most nations temporarily suspended their gold standards, to print way more money to pay for their surging military costs. The U.S. returned to a gold standard again in 1919, the year after the war ended. Not every country which previously had a gold standard followed suit, though, which created some big problems for international trade circa 1920:

The point here is the confusion of the exchange of currencies produced by the breakdown of the monetary system… Why is that greater just now than at any other time? It is because of the difficulties of the keepers of international accounts who have to deal with fractions without a common denominator.

Exchanges of currencies used to be managed by the use of gold. When different currencies would buy equal amounts of gold, the currencies were of equal value in the same place… But gold can now be got for currency at par only in the United States. In other countries gold is at a premium, and if the gold is at a premium the currency given for it must be at a discount.

On only the second month of FDR’s presidency in April 1933, he tried to counter the Great Depression by ordering Americans to trade in their gold for dollars, which (unlike gold) they could actually spend to hopefully jumpstart the economy. As a result, the U.S. created the gold stash at Fort Knox, Kentucky, which exists to this day at a value of more than $6 billion.

Because the U.S. government now held most of the world’s gold, other countries gradually began using the dollar as a benchmark by which to value their currency, rather than gold as they had before. Even today, despite fears that the Chinese yuan could someday replace it, the U.S. dollar remains the peg by which foreign exchanges are measured.

The U.S. discontinued the gold standard in 1971.

Thanks to the article History of the Gold Standard by Kimberly Amadeo in The Balance for much of this information.

ABC of Foreign Exchange: Most Important Crisis in History of International Trade Has Caused Dramatic Upset in Financial Capitals of World (PDF)

Published: Sunday, February 15, 1920

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Written by Jesse

February 12th, 2020 at 12:01 pm

Posted in Economy / Finance