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Gold's Nixon Shockwaves: The First 50 Years of Infinite Money

What followed 'a gold standard on Quaaludes'...
SUNDAY 15 AUGUST will mark 50 years since America stopped backing the US Dollar with gold, writes Adrian Ash at BullionVault.
Because the Dollar was by then the lynchpin of the global monetary system, that ended the precious metal's ancient role as the ultimate yardstick of value worldwide.
Soon known as the Nixon Shock, the move spurred record peace-time inflation, unleashed the free flow of global capital, and now leaves money as just another floating price today, weightless, anchorless and limitless too.
Quantitative easing by modern central banks shows that.
If it hadn't been Tricky Dicky, however, it would have been one or other US president sooner or later. Change was inevitable. Indeed, the global monetary system – built upon America's gold-backed Dollar in the ashes of WW2 – was already working too well to keep working by 1959 according to the "dilemma" presented to Congress that year by Belgian economist Robert Triffin.
With the Dollar fixed to gold, and all other currencies fixed to the Dollar, the US currency stood in for bullion to make global settlements between governments.
So the world wanted ever more dollars to fuel trade and growth, Triffin explained. Yet foreigners would only keep trusting and using dollars if Washington imposed low-inflation policies at home, limiting the currency's supply and risking "a disastrous reversal in the post-war trend toward freer and expanding world trade."
The Nixon White House also wanted to avoid any slowdown in the US economy. Hence the fast-expanding supply of dollars, needed to pay for America's war in Vietnam as well as its growing trade deficit.
By summer 1971, the US gold reserves – halved in size from 2 decades before, and still priced at $35 per ounce – were worth just 1/8th of the America's bullion-backed Dollar obligations abroad. Gold in the free market was meantime rising above $40 per ounce.
This two-tier market had begun in April 1968, after massive speculative demand for gold following Britain's 15% devaluation of Sterling the previous November overwhelmed and broke the US-led London Gold Pool of co-ordinated central-bank sales, aimed at capping the precious metal's free market price at its official Dollar value. Now open trading at floating prices ran in parallel to central-bank transfers still made at the fixed price.
Back in the Great Depression, British economist (and architect of the Bretton Woods deal) John Maynard Keynes had called the monetary chaos of the 1930s "a gold standard on the booze". But the system from 1968-1971 was more like a gold standard on Quaaludes – divorced from reality but crashing into it, dizzy with nausea and struggling to keep breathing.
Moreover, removing the Dollar's gold bullion backing was only another step on the long road from people buying and selling with precious-metal coins to using paper banknotes, then cheques and plastic cards, heading towards our increasingly cashless world today, where most money exists as a digital entry in the banking system.
But while the change was inevitable, and while it didn't create these social or financial trends, it did spur three global shockwaves, each of which we're still living with today.
#1. Inflation
Inflation in the cost of living wasn't unknown under bullion-coin or bullion-backed money.
The British experience, for instance, offers the world's longest-running and most reliable (if imperfect) data. It saw the general price level rise more than half the time between the early 13th Century and 1913, a period when the Pound Sterling was literally a weight of precious metal.
According to the Bank of England's A Millennium of Macroeconomic Data project, in fact, using gold and silver coins failed to stop the general price level rising 10-fold between the First Barons' War and the Civil War four centuries later.
Strong deflation also cut deep however, and that stabilized the Pound's domestic purchasing power over time. But once Britain abandoned the Gold Standard in the 1930s, in contrast, it experienced nothing but inflation on that time series, and prices accelerated like never before following the Nixon Shock. 
Within a decade, the British cost of living had risen by 230%. It's now more than 100 times what it was on the eve of the First World War.
Chart of UK general price level, 1215-2020. Source: BullionVault
While the UK and its unbacked Pound faced many unique problems after 1971, consumer prices rose at unprecedented peacetime rates everywhere, more than doubling by 1978 in Australia, 1979 in France, 1980 in Canada and the USA, and 1988 in Germany. Such increases are the inverse of each currency's purchasing power, and not even the Swiss Franc – still notionally backed by the nation's enormous gold reserves until the turn of the millennium – was immune.
Within 25 years of Nixon's announcement, it bought only 40% of the goods and services it could buy in summer 1971.
Yet while money remains literally weightless and anchorless today, policymakers are now desperate to fight deflation – inflation's equally evil twin, whose long shadow from the 1930s did so much to encourage the inflationary policies of the 1960s and '70s – with zero and negative interest rates, plus unlimited central-bank money creation. What Nixon had dismissed in August 1971 as "the bugaboo of devaluation", echoing Harold Wilson's ill-fated rhetoric of four years earlier, is something policymakers are now actively seeking to revive. Quite how the quantity of money affects its value is a mystery they haven't solved. Yet.
#2. Intangibility
While gold coins had vanished from everyday use in the USA during the Great Depression (and had already vanished in Britain two decades earlier), the 50 years since money lost its notional gold backing have seen ever-more aspects of financial and economic life also becoming untouchable and intangible.
In 1970, the US Bureau for Labor Statistics gave physical goods a weighting of 63% in its Consumer Price Index, down by barely one percentage point from a decade before. It then fell below 57% by 1980 and sank to 45% by 1990, shrinking again to 37% today.
In the stock market, the same thing. America's top 500 shares counted 83% of their balancesheets in physical plant, stock and other assets in 1975. That has since fallen to 15%, with 'intangibles' (such as intellectual property rights and utterly untouchable 'goodwill') already valued at twice the price of tangible assets across all S&P500 corporations by 1995, when the top 5 included only one pure tech firm.
#3. Infinite Money
Once gold coins were "out of sight" in everyday life, as Keynes noted in 1930, "the long age of Commodity Money...passed finally away [into] the age of Representative Money," with banknotes and base-metal tokens standing in for bullion.
Fifty years after the Nixon Shock, money has plainly moved into a new age again, representing nothing but itself.
On one level, this isn't new. "What we call money is arbitrary, and its nature and value depend on tacit convention betwixt men," as an adventurer's pamphlet of 1754 put it. "Shells are as fit for a common standard of pecuniary value as either gold or silver."
But the quantity of cowrie shells, like gold and silver, is physically limited, and once gold ceased to anchor the value and supply of money, so money became limitless and weightless.
Hence the straight line from the Nixon Shock to cryptocurrencies, invented to impose some kind of limit on the stuff we use to buy and sell but actually used instead as a wholly speculative asset with spectacular volatility. More importantly for everyone's economic and financial life today, quantitative easing, like zero and negative interest rates, is a direct outcome of the Nixon Shock.
Central banks managing their own currency can now never run out of money. Nor do they need to reward savers for putting it on deposit, ready for your bank to lend out or government to borrow, because as QE has proven, they can simply create more and pump that out instead.
Under the monetarist theories starting to dominate economics when Nixon cut money free from its anchor and limits five decades ago, this clearly risks hyperinflation, where the purchasing power of money collapses under the weight of its own supply. Yet what Nixon dismissed in August 1971 as "the bugaboo of devaluation" is something policymakers are now desperate to revive.
Japan has been struggling with this paradox ever since its post-bubble deflation began three decades ago. Throwing unlimited QE at the Yen has failed to devalue it either at home or on the currency market. A decade after the global banking crisis, central bankers in Europe, the UK and the US face the same problem. The ability to create infinite money hasn't reduced the value of money as they would wish – not yet, at least.
It's no coincidence that as the Western world has turned to QE, gold has found strong demand from emerging-market central banks, adding it alongside the dollars, euros, Sterling and Yen they hold in reserve.
Western Europe's central banks have also stopped selling their gold reserves, and the US continues to hold the very largest stockpile, untouched since the late 1970s. And while there's no sign (repeat: none) of gold making a comeback as a measure or backing for official currency, its popularity among private households wanting to protect their savings has never been greater.
Gold clearly remains a store of value, one part of the traditional definition of money. But money is also much more than just the means of exchange and unit of account which gold and silver also used to act as, back before total war and then the welfare state made restricted government spending impossible to square with universal suffrage at the ballot box.
The new Basel 3 rules for banking regulation, for instance, also open a door to gold increasing its role as money in the financial markets.
Cash and government debt are currently the only "high quality" assets which a bank can set against its riskier obligations to clients. But lobbying now underway for almost a decade (and increasingly successful) continues to call for gold to be included as well, because it trades in a phenomenally deep, liquid market.
That market was finally set free from its US Dollar shackles by the Nixon Shock of August 1971. And while the Dollar hasn't (yet) relinquished its role as the world's premier currency, gold has dramatically increased its value and visibility as an alternative for central banks, investors and savers wanting protection from the United States' most powerful political weapon.

Adrian Ash is director of research at BullionVault, the world-leading physical gold, silver and platinum market for private investors online. Formerly head of editorial at London's top publisher of private-investment advice, he was City correspondent for The Daily Reckoning from 2003 to 2008, and he has now been researching and writing daily analysis of precious metals and the wider financial markets for over 20 years. A frequent guest on BBC radio and television, Adrian is regularly quoted by the Financial Times, MarketWatch and many other respected news outlets, and his views from inside the bullion market have been sought by the Economist magazine, CNBC, Bloomberg, Germany's Handelsblatt and FAZ, plus Italy's Il Sole 24 Ore.

See the full archive of Adrian Ash articles on GoldNews.

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