Chapter 9

Are the Fiat and the Gold Standards Converging?

Let’s start from a premise that we have pure capitalism, which means there is no government involvement in the economy. Government laws, controls, and regulations are totally designed to protect individual rights and property rights; to prevent force and fraud through the establishment of armies and police; to establish a court system where disputes can be resolved and crimes prosecuted; and to establish standards and rules of the road in order to conduct transactions consistent with these goals. This means we would be living in a nation of totally free markets. Assuming individuals chose gold as their medium of exchange, as they have most of the time over the last 2,500 years, the supply and value of money would be determined by the market, not government as it is today under a fiat standard.

Under a gold standard, the money supply is determined by the amount of gold produced. Credit is determined by the amount of deposits banks receive for savings. Banks lend out what is deposited, on a short-term to long-term basis. Since there is a risk that depositors may want to withdraw their savings at any time, they must keep sufficient reserves on hand to cover any withdrawals on demand. The market, over decades of the gold standard, determined that a prudent reserve ratio was about three or four to one. Thus, leverage was always contained and so was credit expansion. The amount of paper claims to gold was always limited.

A fiat ...

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