What a Return to the Gold Standard Would Mean for You

Gold StandardThis week in Tampa, the Republican party is considering a bold idea that could fundamentally transform the U.S. economy: a return to the gold standard. The GOP's proposed platform, which will be debated over the next few days, calls for a commission to study the feasibility of a return to a fixed value currency. In such a system, the dollar would be directly backed by a commodity, most likely gold, and could be freely traded in to the government for the precious metal.

The idea of returning to the gold standard is incredibly controversial, and nearly all economists are highly skeptical about how it would affect the economy. What most analysts have failed to discuss, however, is its impact on the average taxpayer. With that in mind, here's a look at what the gold standard means -- and how it would affect you.

In God (and Washington) We Trust

To understand what returning to the gold standard would mean, it's first necessary to understand our current "fiat" currency. Under a fiat system, the actions of the government largely determine the value of the currency, and good stewards can and do act to keep their economy stable. These currencies aren't backed by commodities, but rather by the reputations of their governments.

The fiat system allows a government to control the flow of money into the economy. When prices are dropping too fast (think of the housing bubble burst, for example), the government can "print" more money, slightly inflating the currency and steadying prices. Conversely, when prices are rising too rapidly, the government can decrease the flow of money, making the currency slightly more valuable and steadying prices again.

In the U.S., the Federal Reserve controls this ebb and flow by regulating banks, adjusting the flow of money into the economy, and lending capital to banks when necessary. Chartered to prevent and temper the sorts of massive financial panics that were once regular occurrences, the Fed has three specific tasks -- maximizing employment, stabilizing prices, and moderating long-term interest rates. Ultimately, its overarching goal is to create a stable, sustainable economy.

The Gold Standard of Arguments

Fixed-value supporters, notably U.S. Rep. Ron Paul (R-Texas), claim the fiat method actually destabilizes the economy and hurts consumers. According to Paul, when more dollars go into circulation, our currency becomes diluted and the value of each dollar drops. Prices go up, because it takes more of these devalued dollars to buy the same amount of gas, or eggs, or anything.

Paul argues that, by reducing the value of the money in your pocket, the government is taking money away from you -- effectively "taxing" you without your consent. According to him, a fixed-value currency would make this sort of inflation impossible:

If our money were backed by gold and silver, people couldn't just sit in some fancy building and push a button to create new money. They would have to engage in honest trade with another party that already has some gold in their possession. Alternatively, they would have to risk their lives and assets to find a suitable spot to build a gold mine, then get dirty and sweaty and actually dig up the gold. Not something I can imagine our "money elves" at the Fed getting down to whenever they feel like playing God with the economy.

In speeches, Paul has argued that the fiat-based currency system keeps Americans from saving money because it causes them to fear that their money will decrease in value. Worse yet, he says, it conceals the actual workings of the monetary system, enabling the government to hide its social welfare expenditures and funnel money to special interests.

How Converting Would Work

Under the gold standard, the government must have enough gold on hand to redeem every single dollar in circulation -- at the moment, that's $2.6 trillion.

(To illustrate, note the fine print in the upper left quadrant of the 1928 $5 bill below.)

Given that the U.S. gold reserve is an estimated 260 million ounces -- worth around $431 billion -- to convert to the gold standard, Washington would first have to acquire a massive amount of bullion. One method would be to buy some of the estimated $10 trillion worth of gold in the world. Unfortunately, the more gold the U.S. bought, the higher the price of gold would go, and the higher the price tag of moving to the gold standard would rise.

The other option would be to raise the price of gold in dollars by legal legerdemain from today's level of about $1,660 per ounce to $10,000 per ounce, which would allow the existing gold reserves to cover the existing monetary base. Unfortunately, doing that would seriously destabilize the economy, overwhelming the alleged benefits of the switch to a gold-based currency.

Mining the Past for Ideas

Difficult transitions aside, what would the nation look like once it was on a gold standard? In some ways, a lot like our recent past.

As economist James Hamilton noted earlier this year, under the gold standard, deep, brutal recessions were pretty much a way of life. Over the 73 years from 1860 to 1933, when the U.S. went off a direct gold standard, the country suffered through 19 recessions.

In the last 73 years, by comparison, the U.S. economy has gone into recession 13 times -- in one respect, only a slight improvement over the gold standard years. But the real change has been in the severity of the recessions. Before the U.S. went off gold, recessions lasted an average of 26 months. After the country dumped the gold standard, the average shrank to 11 months. To put it in context, the Great Recession lasted 18 months, making it 30% shorter than the average gold-standard-era recession.

That improvement is no coincidence: Tying dollars to gold limits the number of dollars available. That, in turn, creates a great deal of rigidity, making it impossible for the Fed to control the flow of money into or out of the economy. Denied its strongest tool for goosing a stagnant economy or putting the brakes on an overheating one, the government basically has to ride out the economy's fits and starts.

Not surprisingly, many countries abandoned the gold standard during the Great Depression. And as Hamilton notes, the sooner a government went off the standard, the sooner its economy started to recover.

Tied to a Big Yellow Brick

To make things worse for individual Americans, there's the fact that the price of gold is constantly changing, whether it's locked to a dollar value or not. Under a gold standard, movements in the price of gold would directly change the value of cash, changing the prices in stores and the salaries that workers would get paid.

Consider this: The price of gold rose by almost a third between 2009 and 2010. If it had taken the value of a dollar with it, the cost of consumer goods in dollars would have dropped sharply -- after all, the more valuable a dollar is, the lower the price tags of the things it can buy. Of course, as dollars become more valuable, companies would be less willing to pay them out, so worker salaries would also drop.

At first glance, this might not seem so bad -- after all, if salaries and consumer prices both keep pace with the value of a dollar, the overall effect on workers might be minor.

The trouble is, while salaries might bob up and down with the price of gold, the amount of debt people owe wouldn't. If the value of a dollar rose, and salaries were cut to compensate, that would translate into a heavy fiscal blow as people would be left working more hours to repay their credit card debts, mortgages and other loans.

For the government, returning to the gold standard would make the economy harder to manage. For ordinary workers, it would make long-term planning and borrowing almost impossible. In fact, the only people it would likely help are those who have large amounts of money in the bank, as the rising value of gold would act as a dividend, consistently adding value to their holdings. So for the wealthy, a return to the gold standard might work out well, but it would be a disaster for everyone else.

Bruce Watson is a senior features writer for DailyFinance. You can reach him by e-mail at bruce.watson@teamaol.com, or follow him on Twitter at @bruce1971.

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"Consider this: The price of gold rose by almost a third between 2009 and 2010. If it had taken the value of a dollar with it, the cost of consumer goods in dollars would have dropped sharply -- after all, the more valuable a dollar is, the lower the price tags of the things it can buy"

I know I'm way late to the party, but I just read this and couldn't help but respond. The quoted statement is dead wrong.

The relative value of the dollar within our economy wouldn't change at it were tied to a value-shifting gold. What would change is it's relative value in other markets. In this particular instance (the value of gold rising)- the value of the dollar would rise with it. Buying power would rise by an equal amount.

September 28 2014 at 9:15 AM Report abuse rate up rate down Reply
Tristan Tandberg

Here is a funny joke I saw that shows why everybody trusts gold, http://ponderingstuff.com/2012/09/08/fiatcurrency/

November 12 2012 at 4:02 PM Report abuse rate up rate down Reply
Andy Falcon

If the GOP wants to be considered seriously, it better start dropping the wingnuts, go back to basics, bring back the intellectuals, and get off the Ayn Rand utopia bandwagon.

September 08 2012 at 12:50 AM Report abuse rate up rate down Reply

****** REVERSE SPLIT ***There is no money its sham !! I challlenge any one of the billionaires Gates, Soros,Buffet,etc. to go down to any bank or fed building an d tell them they want their money ,better yt tell them they want it because their moving to europe,africa,vietnam and want to take their money with them..Some politician will advise them not to and if that dont work,some mistery man will politely warn against it ..And if that dont get the point across then well lets just say XXXXXXXX to avoid exposing the game that there is no money..think charles ponze and the pennies that was in the vault when the game was exposed...and fast forward to maddoff .. The government is going to do a REVERSE SPLIT with our fiat money and its got negative and positive implication and always negative for commnon folk...Again this is about a REVERSE SPLIT WITH THE MONEY!!! DEBT solved, S.Security solved,Medicare solved,Wages solved,Controll complete...Bought a little time,but passed the Redemption/ Atonement period and the last lots from the heads of other nations will be cast and then its show time !!!!

September 06 2012 at 12:07 PM Report abuse rate up rate down Reply
Anono Mouser

You can't just say the price of gold is $10,000 in the US because gold is priced globally. The logical alternative is to devalue all currency to the price of gold. So each dollar you have would become worth about 16 cents. Gasoline would be $0.66 a gallon instead of $4 per gallon. And your $150,000 house would be worth $25,000. Welcome to the "let's go back in time" mindset of the republican party.

September 06 2012 at 1:33 AM Report abuse rate up rate down Reply
Mukluk Joe

This is great! I'll be able to cash in my gold purchases for 6 times their value, and help the US government to go bankrupt in the process. What a country!

September 05 2012 at 8:58 PM Report abuse rate up rate down Reply

The GOP...the party of stupid ideas

September 05 2012 at 8:30 PM Report abuse rate up rate down Reply
1 reply to userabc21's comment

Please, let us hear your grandiose idea.

October 24 2012 at 10:30 AM Report abuse rate up rate down Reply

Ok, we convert to gold standard, China calls in our debt, all the Gold is shipped to China. How is this good for us? Better, we pay off our debt to China with fiat currency, then switch to gold based currency while voiding the
outstanding fiat bills....

September 05 2012 at 3:29 AM Report abuse rate up rate down Reply

You people are either blind or near sighted. this is not about money and only the ignorant professes that its about money. the foundation of this comining mess is about a crime commmitted against brothers of humanity that is still being covered up.1484 Fernandad & Isabella + 430yrs(Exodus)=1914 NO co-incidence......Men like it up Washington brought it up...Mugabe brought it down and men like Obama is the last chance to avoid the Abomination Of The Desolation. After that your gold ,money,stocks, whatever material possesions you think make you whole will fail you. Let the good men reason this out and for the sake of the people ( Children, women,men,and families) and have the essence to repent,atone,and if its sincere provide true Reparations (dont try to think that you can fool the true ONE)...That is the only way to truely stop this mess...this is a very great and very speacial country but the lots are being cast form all around us to bring us to knot. Dont think that we have long to procrastinate because we dont. Oh and for you people who kind of think that they know what im talking about let me make it clear as apple pie...Im mean reparations to the african americans(cuban,hatians,jamaicans,etc,)...Again if you want a stable and sustainable economy do the right things and watch how this country is blessed but dont try it when its almost over and you want to save what you have, because it will be taken and given right to the offpring of guess who?????.....Have the essence to do the right thing for your brother and his family and for yours.!.Repent ,Atone, and it means nothing without true measured Reparations.

September 04 2012 at 1:44 PM Report abuse rate up rate down Reply
1 reply to aucku's comment

what the heck our you babbling about you talk like someone off their MEDS take 2 of these an call us in the morning!!

September 05 2012 at 5:42 PM Report abuse rate up rate down Reply
Brad and Kathy

Moral of the story......save your money ! No matter which standard the Govt. is using......money in your hand is the answer.

September 04 2012 at 1:33 PM Report abuse rate up rate down Reply