Gold and silver prices are reaching all-time highs. Gold and silver spot prices are roughly US $4,668.14 per ounce and $93.16 per ounce respectively. Do these higher prices mean these precious metals are reasserting their historical monetary role? Are we moving in the direction of a return to the gold standard? In this article I want to discuss whether we can go back to the gold standard, and if we do, then how? Higher gold prices reflect the weakening dollar. To understand the relationship between the dollar and gold we first need to look at the definition of dollar and its history since the founding of the US.
What is a Dollar?
Historically, a dollar was defined as a unit weight of gold or silver. For example, under the pre-1933 classical gold standard era, a dollar was defined as 1 dollar = 23.22 grains of fine gold. In the metric system, which I am going to use here to make various comparisons, this is around 1.5 grams of pure gold. In terms of troy ounces this is 480 grams. This definition of dollar was an established practice in the US roughly from 1879 to 1933.
The Gold Standard Act of 1900 formally established the gold dollar as the standard unit of value for the United States. This mandate fixed the value of the dollar in terms of weight and purity, defining it as 25.8 grains of 90 percent pure gold.
With President Roosevelt’s Gold Reserve Act of 1934, the dollar devaluation began. Roosevelt redefined the dollar as 1 dollar = 0.88 grams of gold. This was a big 41.3 percent dollar devaluation.
End of the Gold Standard (1971 Onward)
In 1971, President Richard Nixon officially closed the gold window and ended the convertibility of dollars into gold for foreign governments, and, by doing so, officially ended the Bretton Woods system. After this, the dollar became a pure fiat paper currency, totally disconnected from its underlying unit weight of gold. Ironically, the US government started pricing gold into fiat paper dollars totally inverting the whole logic of sound money.
But notwithstanding the shenanigans of the US government, gold still reflects the value of paper dollars. Every upward movement in the price of gold in paper dollars reflects the devaluation of the dollar. Today our dollar will only buy roughly 0.0069 grams of gold compared to 1.5 grams of gold dollars from the classical gold standard era. The purchasing power in gold terms has fallen by a factor of about 216x (or about 21,500 percent nominal loss) relative to 1932.
What Will Happen If We Go Back to the Gold Standard?
I am going to use the average price of homes in Dallas as an example to discuss what will happen if we go back to the gold standard today. To understand this, let us ask this question: If 1 dollar was still defined as 1.5 grams of gold then, what would be the average dollar price of a home in Dallas today?
Current average Dallas home price is roughly $450,000. Today, one gram of gold is trading at an average price of $150. In 1932, one dollar was defined as 1.5 grams of gold so currently 1.5 grams gold would cost $225. If we convert the average paper dollar price of a Dallas home to gold dollars then the price of that home would be 2,000 gold dollars (of 1932). If we go back to gold standard at current gold prices, then a home in Dallas will cost on an average 3 kg (3,000 grams) of gold.
The problem in going back to the gold standard is that only those people who own physical gold today will benefit from this move. There will be a huge transfer of wealth from those who do not own gold to those who do. The question now is: how many Americans own physical gold? Roughly 10-11 percent of people (i.e., 1 in 9 Americans). The demographics of these people tell us that they are mostly seniors and wealthier people. Only these people will benefit from the reintroduction of the classical gold standard. The rest of the population will suffer massively. This group involves debtors (most Americans), people who hold paper dollar cash, people with fixed dollar incomes like pensioners, bondholders, etc. Their dollar denominated assets like homes, stocks, savings etc., would plunge in nominal dollar value. Does that mean we cannot go back to the gold standard? Arguably we can, but the question is how.
How Can We Go Back to the Gold Standard?
One way in which we can go back to the gold standard is by first revaluing the present price of gold to reflect today’s higher supply of dollars, and then giving back the official gold reserves (held by the US treasury at Fort Knox, etc.) back to US citizens (individuals and banks). After this revaluation, the dollar can be fully backed by gold.
Revaluing the Gold Price and Returning Official Gold Reserve to Citizens
The US Treasury presently owns around 8,133.5 metric tons of gold at various locations like Fort Knox, Denver mint, and West Point mint. This gold must be redistributed to US citizens. Simple calculations inform us that every US citizen will receive around 24.1 grams (0.78 troy ounces) of gold. At current gold prices (around $150 per gram), every American citizen will receive around $3,600. As we discussed above, to return to the 100 percent gold standard we need to fully back every dollar with this official gold. To do that, we will have to revalue gold’s price higher to reflect the current money supply (M2). Money supply M2 today is around $23 trillion. If we fully back this dollar supply with the official gold reserve then gold price will rise to around $2,743 per gram ($85,376 per troy ounce). At this new, revalued price each individual will receive around $66,150, and an average household of 2.63 people will receive around $174,108.
Once we fully back every dollar with (a unit weight of) gold, we can abolish the Federal Reserve system and transition commercial banks from today’s fractional reserve banking to 100 percent reserve banking system. From that point forward, no bank can issue currency notes without gold backing, and there won’t be any central bank to print more paper dollar currencies either. Each individual and household will receive sizable gold dollars to give them a new beginning. This will be over and above whatever wealth they already have.
One key takeaway from this exercise is that it is better for Americans to start owning some gold (and silver). Whether the US government decides to go back on the gold standard (full or partial) or not, gold and silver prices will continue to reflect dollar inflation.
Once we transition to the gold standard, prices of all goods, like a Dallas home, will adjust accordingly. A Dallas home that costs around 3,000 grams of gold may only cost around 157 grams. Once money supply becomes constant, prices of economic goods will start to decline with time as production of goods increases with time. Without interest manipulation by the Federal Reserve, we will be able to eliminate business cycles. Unemployment will also decline to its natural levels. The size of the US government will decrease, and Americans will get back their lost freedoms. As the US government’s policy of systematic inflation comes to an end, families will start to recover. Both the economy and society will start healing.
