A SHORT HISTORY OF COINS
For most of the last 2,600 years, coins have been the physical expression of money. Although The Coin Cabinet’s focus is coins and coinage, money — its history, role in society and future — is always at the forefront of our thinking.
While today’s monetary system is far more advanced and complicated than ever before, many of its fundamentals have remained the same for centuries. An understanding of history provides invaluable insights into the workings of money, furnishing us with the tools to anticipate the future and inform our collecting and investment decisions.
Today, only a third of Americans are unable to raise $500 in a day to meet an unexpected need (the figure is closer to a quarter across the UK and Europe), and more than three-quarters of those surveyed reported stress relating to their finances. Despite its huge influence on our lives, very few of us understand the underlying principles of money, and the mechanisms of the financial system.
Before fiat money
Very few people born after 1971 are likely to know that the money we use today is known as ‘fiat money’. Until then — with a few short-lived exceptions — coins were the physical expression of ‘real’ money. Called ‘commodity money’, its face value and the true value of the precious metal it contained was approximately the same. Of course, banknotes have been used alongside coins for centuries (since 1695 in the UK). But before the advent of fiat money, banknotes merely represented an equivalent value of gold and silver commodity coins, and were exchangeable as such. Banknotes were therefore considered ‘representative money’, and today’s British examples still make reference to their earlier incarnation with the phrase, ‘We promise to pay the bearer on demand the sum of…’ — a signal of the inherent power of the institution making the guarantee.
The creation of central banks
In times of political or economic crises prior to the invention of fiat money, it was common for people to exchange banknotes for coins ‘to put under the mattress’. Before the existence of central banks, these events, known as a ‘bank run’, were the primary reason why banks failed. Bank runs were a consequence of ‘fractional-reserve banking’ (the most common form of banking, still practised worldwide, where banks accept deposits from customers and make loans to borrowers, leaving only a fraction of the bank’s deposit liabilities in reserve). Essentially, fractional-reserve banking allows banks to bet on the low risk of all depositors claiming back all their money at the same time. The first modern central banks were founded in the 17th century (the Bank of England was established in 1694) to issue coins and banknotes, raise debt and act as a lender of last resort to banks unable to meet depositors’ demands. Since their creation, central banks have gradually been given more and more power over the the economy. Among the instruments in their fiscal arsenal, central banks can:
1. Set interest rates — an indirect measure targeted at increasing or reducing money supply (the amounts banks lend in the economy.
2. Issue government bonds — raising funds to cover deficits.
3. Trade the bank’s local currency on the foreign exchange market.
4. Buy corporate bonds.
The birth of fiat money
The turbulent 20th century brought about a confluence of circumstances that challenged the ‘gold standard’ system of commodity money established by the major economies a century earlier. The two world wars and ultimately the Vietnam War were the drivers of this change, resulting from the deficits and resulting debt they accrued.
In the First World War, Great Britain, France and Germany all ran massive deficits. Together they spent 50% of their GDP on the war effort, and by its end, British money supply had doubled, the French tripled and the German quadrupled. This was done by exiting the gold standard — in effect ‘printing money’ to pay down debt. Germany left in 1914, then post-war reparations consumed most of its gold reserves (resulting in hyperinflation and the destruction of its economy, which accelerated the rise of fascism in the 1930s); France and Britain also abandoned the gold standard during the war — and while it was reinstated in Britain in 1925, the Bank of England abruptly left it again in 1931, two years after the Wall Street Crash. It was simply impossible to run huge deficits with a currency pegged to gold.
Bretton Woods and the Nixon shock
Agreed in 1944, the Bretton Woods Agreement set down a post-war system of fiscal management between the US, Canada, Western Europe, Australia, and Japan, establishing rules for global commercial and financial relations. The US, which then controlled two thirds of the world’s gold reserves, insisted that it was underpinned by gold and the USD. The system ended on 15 August 1971, an event known as the ‘Nixon shock’, resulting from a constellation of US domestic circumstances including a negative balance of payments, monetary inflation and growing debt incurred by the Vietnam War. In doing so, the US unilaterally terminated convertibility of the USD to gold, effectively bringing Bretton Woods to an end and rendering the dollar a fiat currency alongside other major currencies.
Investing in the future of gold
Such tectonic changes result in winners and losers, both locally in restructured economies, and internationally from the fiscal realignment of the global economy. Most of these effects are felt through inflation. At The Coin Cabinet we are keenly aware of the role inflation plays as a a form of invisible tax that diminishes cash savings — and its concurrent role in increasing the value of real assets. Since the inflationary period of the Nixon shock and later energy crisis of the 1970s through the deflationary spiral of the 2007-08 global financial crisis, land, property and gold have seen huge price increases. Gold rose 300% in the first decade of the 21st century and 70% in the past decade. Those who didn’t own real assets, relying instead on fiat money, would have been much worse off in 1980 than they were in 1970. As illustrated earlier in this article, the proportion of the population owning little or no real assets, continues to grow in the world’s major economies.
Although we are not predicting a collapse of the global financial system, nor a sudden reordering of status quo, we believe that investments in real assets play an essential role in a well-balanced, diversified portfolio. For more information about buying and selling gold coins with The Coin Cabinet, we invite you to sign-up to our monthly newsletter, follow us on social media, and read more on investing here.