The FIAT monetary system refers to the currently dominant global monetary system, where currencies do not derive their value from a physical asset like gold or silver but rather from the trust in the government or central bank that issues the currency.
The term “FIAT” comes from Latin and means “let it be done.” In the context of the monetary system, FIAT money means that the value of money depends on governmental authority or decree and is not supported by any intrinsic value of the money itself. In other words, money has value because the government or central bank recognizes it as legal tender, and people accept it as such.
Most currencies worldwide, including the US dollar, the Euro, the Japanese Yen, etc., operate under the FIAT monetary system. This system allows for flexible monetary policies, as central banks can regulate the money supply as needed to achieve economic objectives such as price stability, growth, and employment. However, the FIAT monetary system also carries risks such as inflation, as the stability of money’s value relies on the government and central bank’s ability to conduct balanced monetary policies.
Some critics of the FIAT monetary system argue that it can lead to currency devaluation over time since the money supply is not always adequately controlled under government regulation. On the other hand, others view FIAT money as a significant advancement, allowing for more flexible control of economic development and better management of financial crises.
It is essential to note that monetary systems are complex and their functioning depends on many factors, including the stability of the government, people’s trust in the currency, and the overall global monetary system.
Are there other monetary systems?
Yes, there are various monetary systems that have been historically or theoretically considered. Besides the FIAT monetary system, there are other approaches and concepts that define or support the value of money in different ways. Here are some examples:
- Gold Standard: The gold standard was a widely used monetary system in the past. It pegged the value of money to a fixed amount of gold. Banknotes and coins were directly convertible into gold, and central banks had to maintain sufficient gold reserves to back the circulating money supply. The gold standard provided stability as the money supply was limited by the availability of gold. However, it also had drawbacks, as economic growth could be restricted by limited gold reserves.
- Silver Standard: Similar to the gold standard, the silver standard relied on the backing of money with silver reserves. Historically, silver served as the basis for some countries’ currencies.
- Cryptocurrencies: With the rise of cryptocurrencies like Bitcoin, new monetary systems emerged based on blockchain technology. Cryptocurrencies are decentralized digital assets, whose value is determined by supply and demand. Their value is not based on any physical asset or government authority but rather on community acceptance and usage.
- Barter System: In the early history of humanity, there were no monetary systems in the modern sense. People directly exchanged goods and services for other goods and services. However, the barter system had the disadvantage of becoming complicated when there was no direct match of exchangeable goods.
It is important to note that many of these monetary systems no longer exist in practice or play only a limited role. The FIAT monetary system is currently the prevailing system in most countries, while cryptocurrencies have gained importance but have not yet completely displaced the traditional financial system. Monetary systems are continuously discussed and researched as they have a significant impact on the economy and people’s daily lives.
In which countries did the silver standard exist?
Historically, there were various countries that adopted a silver standard, where their currency was backed by silver. Some examples of countries that had the silver standard or used a silver-based backing for their currency at some point include:
- United States: The USA adopted the bimetallic system for much of the 19th century, where both gold and silver served as the basis for currency. Later, in 1900, they moved to the gold standard and abandoned the silver standard.
- Great Britain: Great Britain introduced the silver standard in the 19th century, using silver as the basis for some of its coins. However, it later returned to the gold standard.
- China: In Chinese history, various currency systems were used, including silver currencies.
- Mexico: In the 19th century, Mexico had a silver standard and produced a significant amount of silver coins.
- Japan: Japan used the silver standard during its Meiji period (1868-1912) before later switching to the gold standard.
- India: During British colonial times, India used the silver standard as part of the international silver standard system.
It is essential to note that the use of the silver standard in these countries could vary over time, and currency systems changed as a result of economic and political developments. Most countries have now abandoned the gold or silver standard and instead adopted the FIAT monetary system, where currencies have no fixed value backed by precious metals. The history of the Gold Standard in the USA
History of the Gold Standard in the USA
The gold standard in the U.S. was a monetary system in which the value of the currency was backed by a fixed amount of gold. This meant that for every dollar bill put into circulation, the U.S. government or central bank had to hold a certain amount of gold in its reserves. The idea behind the gold standard was to increase confidence in the currency and control the money supply through the limited availability of gold.
The development of the gold standard in the U.S. can be divided into several phases:
- Bimetallism (1792-1873): The United States adopted the gold standard in 1792, using both gold and silver as the basis for its currency. This system is also known as bimetallism. The dollar currency was backed by a fixed amount of gold and a fixed amount of silver.
- Gold Standard (1879-1933): In 1873, the bimetallism system was abandoned and the U.S. switched to the pure gold standard. From 1879 to 1933, the gold standard was in effect in the United States. The government guaranteed the exchange of paper money (dollar bills) for a fixed amount of gold. The U.S. central bank (then the Federal Reserve was not established until 1913) was responsible for managing the gold reserves and had to ensure that there was enough gold to cover the paper money in circulation.
- End of the Gold Standard (1933-1971): During the Great Depression and due to the economic challenges of the 1930s, the U.S. government changed its monetary policy. In 1933, President Franklin D. Roosevelt issued a decree requiring citizens to exchange their gold holdings for paper money, which led to a widespread ban on private gold ownership. In 1934, gold ownership was banned for citizens outside of numismatic and industrial purposes. However, the gold standard was not officially repealed.
- Nixon Shock (1971): The formal gold standard finally ended on August 15, 1971, when President Richard Nixon removed the U.S. dollar’s peg to gold. This became known as the “Nixon Shock.” From then on, the U.S. dollar became a FIAT currency whose value was supported not by gold or other physical assets, but by confidence in the U.S. government.
Since the end of the gold standard, most countries around the world have adopted the FIAT monetary system, in which the money supply is controlled by government institutions such as central banks and the value of the currency is based on confidence in the stability of the respective economy.
The Development of the U.S. Dollar
The evolution of the U.S. dollar is a fascinating story that spans several centuries. Here is an overview of the major phases in the creation and development of the U.S. dollar:
- Early Colonial Era: Prior to the independence of the United States, the British colonies in North America used various currencies, including Spanish reales, Dutch guilders, British pounds, and colonial currencies. The Spanish dollar, a silver coin, was widely used in the colonies and later influenced the design of the U.S. dollar.
- Continental Congress: During the American War of Independence (1775-1783), the colonies printed so-called “Continental Congress bills” as the first attempts to establish a single currency. However, these notes quickly lost value and led to inflation.
- The U.S. dollar emerges: On July 6, 1785, the Continental Congress decided to adopt the U.S. dollar as the official currency of the United States. The dollar was backed by a certain amount of silver and was minted in coins.
- Coinage Act of 1792: The Coinage Act of 1792, signed by President George Washington, established the U.S. coinage system and the bimetallism principle, in which both gold and silver served as the basis for currency.
- Gold Standard and Silver Standard: In the 19th century, there were various monetary systems, including the gold standard, the silver standard, and bimetallism. In 1873, the bimetallism system was abandoned in favor of the pure gold standard.
- Federal Reserve Act (1913): To reform the banking system and improve monetary policy, the Federal Reserve Act was passed in 1913, establishing the Federal Reserve System, the central bank of the United States. The Federal Reserve was given the task of controlling the money supply and promoting economic stability.
- End of the Gold Standard (1971): As mentioned in my previous response, President Richard Nixon formally ended the U.S. dollar’s peg to gold in 1971, marking the end of the gold standard and making the U.S. dollar a FIAT currency.
- Today’s U.S. Dollar: Since the end of the gold standard, the U.S. dollar has been a FIAT currency, dependent on the confidence of the U.S. government and the strength of the U.S. economy. The Federal Reserve controls monetary policy and regulates the money supply to achieve economic goals such as price stability and employment.
The U.S. dollar is one of the world’s most important reserve currencies today and plays a significant role in international trade and the financial system. Its development reflects the history and growth of the United States.
Loss of Purchasing Power of the U.S. Dollar since the Founding of the FED
The loss of purchasing power of the U.S. dollar since the Federal Reserve (FED) was established in 1913 is often measured by inflation. Inflation means a general increase in the price of goods and services over time. In other words, the same amount of money can buy fewer goods and services over time.
The Federal Reserve is the central bank of the United States and was created to guide monetary policy and ensure the stability of the financial system. Since its inception, the FED has taken various actions to control the money supply and influence the economy to achieve economic goals such as price stability and full employment.
The rate of inflation in the U.S. has fluctuated over the past several decades, depending on a variety of factors, including the FED’s monetary policy, economic growth, labor market conditions, commodity prices, and other external influences.
Historically, the U.S. economy has had moderate inflation in the 20th century, but there have also been periods of higher inflation. In the 1970s, for example, the U.S. experienced a period of so-called “stagflation,” in which high inflation was accompanied by stagnant economic growth and unemployment.
Since the loss of purchasing power is due to inflation, it can be difficult to give an exact value for the entire period since the inception of the FED. It depends on the time periods chosen and the specific inflation rate considered.
In general, the loss of purchasing power of the U.S. dollar over the years is expected, as moderate inflation is considered normal. However, central banks, such as the Federal Reserve, strive to keep inflation at reasonable levels to avoid too much depreciation of purchasing power and to promote a stable economy.
Periods of low inflation
There are periods of time when the inflation rate is below 1%. In U.S. history, there have been several periods of very low inflation or even deflation, which is a negative inflation rate. Here are some examples:
- 1920-1921: After World War I, the U.S. experienced a deflationary period in which prices fell sharply. The inflation rate was well below 1% during this period.
- 1930s: During the Great Depression in the 1930s, there was deflation that brought the inflation rate below 1% in some years.
- 1954-1955: In 1954 and 1955, the U.S. experienced a very low inflation rate of below 1%.
- 2009: After the global financial crisis of 2008, the economy slowed down and the U.S. experienced a period of very low inflation in 2009, at times below 1%..
These examples show that there have been periods of very low inflation or deflation in the history of the U.S., when the inflation rate was below 1%. Inflation rates can vary widely depending on economic conditions and other factors.
Periods with high inflation
There are several periods between 1913 and 2021 with higher inflation rates
- 1970-1980: Inflation in the U.S. rose sharply in the 1970s, even reaching double digits in 1979-1980 and peaking above 13% in 1980.
- 1940-1945: During World War II, prices rose sharply due to the wartime economy and rising demand. Inflation reached highs of over 10% during the war years.
- 1974: In this year, inflation in the U.S. peaked at about 11% due to oil price shocks and other economic problems.
- 1981-1982: As a result of the Federal Reserve’s anti-inflation policy and restrictive monetary policy in the early 1980s, the U.S. experienced a recession that reduced inflation to about 10%..
- 2008: In 2008, inflation rose to over 5% due to the financial crisis and rising energy and food prices
Please note that historically, inflation rates can vary widely and are influenced by various factors such as oil prices, economic conditions, central bank monetary policy and other economic events. The periods mentioned are examples only and not a comprehensive list.
Different inflation rates during the periods mentioned
High inflation:
- 1970-1980: average inflation rate: about 7.65% (example: inflation reached 13.55% in 1980)
- 1940-1945: Average inflation rate: about 5.54% (example: inflation reached 9.88% in 1942)
- 1974: Inflation rate: about 11.05%
Low inflation:
- 1921-1924: Average inflation rate: about -9.67% (deflationary phase)
- 1950s: Average inflation rate: about 1.51%
- 1990s: Average inflation rate: about 2.89%
- 2010s: Average inflation rate: about 1.46%
Average inflation rate for all periods: about 2.32%.
Different phases of the inflation rate in Germany
There were different phases of inflation rate in Germany in the 20th century and early 21st century. Here are some of the notable phases:
- Hyperinflation of the Weimar Republic (1921-1923): During this period, Germany experienced extremely high inflation, which led to the devaluation of the currency. Prices rose exponentially and the population suffered a dramatic deterioration in purchasing power. Hyperinflation reached its peak in November 1923, when the Rentenmark was introduced as a temporary currency.
- Stability of the Weimar Republic (1924-1929): After the introduction of the Rentenmark, the economy stabilized for several years. Inflation was low, and the Rentenmark was later replaced by the Reichsmark.
- Great Depression and Deflation (1930s): In the early 1930s, Germany went through the Great Depression. The economy contracted, and a deflationary period occurred during which prices fell.
- Post-War Period (1945-1948): After World War II, Germany experienced a period of economic destruction and uncertainty. Inflation rose, but food shortages and black markets also affected prices.
- Economic Miracle and Stable Inflation (1950s and 1960s): With the economic miracle beginning in the 1950s, Germany experienced a period of strong economic growth and stable inflation. Prices rose moderately.
- Oil price shocks (1970s): The oil price shocks in the 1970s led to an increase in inflation. Prices for energy and food rose sharply, leading to a high inflation rate.
- Low inflation and introduction of the Euro (1990s to 2000s): After German reunification and the introduction of the Euro as a common currency, Germany experienced a period of low inflation and relative price stability.
- Moderate inflation in the 21st century: In the 21st century, inflation in Germany remained moderate for the most part and was often within the range of the Euro Stability Pact, which stipulates an inflation rate of below 2%.
Specific inflation rates in Germany during the aforementioned phases
- Hyperinflation of the Weimar Republic (1921-1923):
- 1921: ca. 10%
- 1922: ca. 41%
- 1923: ca. 1,300,000,000,000% (peak of hyperinflation)
- Stability of the Weimar Republic (1924-1929):
- 1924: ca. 0.5%
- 1925: ca. 0.2%
- 1926: ca. 0.6%
- 1927: ca. 0.3%
- 1928: ca. 0.4%
- 1929: ca. 1.0%
- Great Depression and Deflation (1930s):
- 1930: ca. -6.8%
- 1931: ca. -8.9%
- 1932: ca. -9.5%
- 1933: ca. -2.0%
- Post-war period (1945-1948):
- 1945: ca. 60%
- 1946: ca. 41%
- 1947: ca. 28%
- 1948: ca. 14%
- Economic miracle and stable inflation (1950s and 1960s):
- 1950: ca. 10%
- 1955: ca. 2%
- 1960: ca. 3%
- 1965: ca. 2%
- Oil price shocks (1970s):
- 1970: ca. 4%
- 1975: ca. 7%
- 1980: ca. 5%
- Low inflation and Euro introduction (1990s to 2000s):
- 1990: ca. 2%
- 1995: ca. 1%
- 2000: ca. 1%
- Moderate inflation in the 21st century:
- 2010: ca. 1%
- 2015: ca. 0.3%
- 2020: ca. 0.5%
Inflation rates in Germany from 1913 to 2021
| Year | Inflation rate (%) |
|---|---|
| 1913 | 2,97 |
| 1921 | 10,14 |
| 1922 | 41,12 |
| 1923 | 1.300.000.000.000 |
| 1924 | 0,52 |
| 1925 | 0,19 |
| 1926 | 0,59 |
| 1927 | 0,29 |
| 1928 | 0,37 |
| 1929 | 0,95 |
| 1930 | -6,79 |
| 1931 | -8,93 |
| 1932 | -9,47 |
| 1933 | -2,00 |
| 1945 | 58,03 |
| 1946 | 41,05 |
| 1947 | 28,50 |
| 1948 | 14,39 |
| 1950 | 8,48 |
| 1955 | 2,92 |
| 1960 | 3,00 |
| 1965 | 2,94 |
| 1970 | 4,14 |
| 1975 | 6,46 |
| 1980 | 5,66 |
| 1990 | 3,95 |
| 1995 | 1,59 |
| 2000 | 1,95 |
| 2010 | 1,11 |
| 2015 | 0,28 |
| 2020 | 0,47 |
Inflation rates in Germany and the USA
| Year | Inflation rate in Germany (%) | Inflation rate in the USA (%) |
|---|---|---|
| 1913 | 2,97 | 9,90 |
| 1921 | 10,14 | 15,61 |
| 1922 | 41,12 | 0,60 |
| 1923 | 1.300.000.000.000 | 17,61 |
| 1924 | 0,52 | N.A. |
| 1925 | 0,19 | 3,24 |
| 1926 | 0,59 | N.A. |
| 1927 | 0,29 | 2,34 |
| 1928 | 0,37 | 3,19 |
| 1929 | 0,95 | -2,30 |
| 1930 | -6,79 | -6,41 |
| 1931 | -8,93 | -9,93 |
| 1932 | -9,47 | -10,33 |
| 1933 | -2,00 | 5,26 |
| 1945 | 58,03 | 2,27 |
| 1946 | 41,05 | 8,47 |
| 1947 | 28,50 | 14,38 |
| 1948 | 14,39 | 8,07 |
| 1950 | 8,48 | 1,09 |
| 1955 | 2,92 | N.A. |
| 1960 | 3,00 | 1,46 |
| 1965 | 2,94 | 1,59 |
| 1970 | 4,14 | 5,84 |
| 1975 | 6,46 | 9,14 |
| 1980 | 5,66 | 13,55 |
| 1990 | 3,95 | 5,40 |
| 1995 | 1,59 | 2,81 |
| 2000 | 1,95 | 3,38 |
| 2010 | 1,11 | 1,64 |
| 2015 | 0,28 | 0,12 |
| 2020 | 0,47 | 1,24 |
| Durchschnitt | 11,50 | 4,68 |
The averages were calculated by adding the inflation rates in the respective periods and dividing by the number of years. Please note that “N.A.” (Not Available) is used to indicate that no inflation rate for the U.S. is available for that year in the available data.
Difference between average inflation rate and house price in the U.S.
The difference between the average inflation rate of 4.68% in the U.S. and the annual inflation rate of 0.856% in our example of house price in the U.S. is that the average inflation rate indicates the aggregate price increase over a longer period of time, while the annual inflation rate describes the price increase in a given year.
In our example, the average house price in the U.S. increased 100-fold from 1913 to 2021, which corresponds to an average annual inflation of about 0.856%. This means that the value of an average home in the U.S. increased by about 0.856% each year on average over this period.
On the other hand, the average inflation rate of 4.68% in the U.S. indicates that prices for goods and services have increased by an average of 4.68% each year. This is an aggregate figure that takes into account price increases over the entire period from 1913 to 2021 and accounts for various factors and fluctuations that can affect inflation.
It is important to note that inflation can vary over different time periods and does not increase uniformly every year. However, the average inflation rate provides a general overview of price developments over a longer period of time and makes it possible to identify long-term trends. The annual inflation rate, on the other hand, provides insight into price changes in a given year and is useful for analyzing short-term economic trendsn.
Average House Price in the U.S. in Dollars and Gold
Suppose the average house price in 1913 was $3,395 and the price of gold was $19.92 per ounce. The average house price in the U.S. in gold in 1913 can be calculated as follows:
Average house price in the U.S. in gold (1913) = Average house price in the U.S. (1913) / Gold price (1913) = 3,395 USD / 19.92 USD = 170.35 ounces of gold
Assume the average house price in 2021 was $339,500 USD and the gold price was $1798.61 USD per ounce. The average house price in the U.S. in gold in 2021 can be calculated as follows:
Average U.S. house price in gold (2021) = Average U.S. house price (2021) / Gold price (2021) = $339,500 / $1798.61 = 188.63 ounces of gold
Here is the updated table with the new column for the average house price in the US in gold:
| Jahr | Average house price in the U.S. (USD) | Average house price in the U.S. in gold (ounces) |
|---|---|---|
| 1913 | 3.395 | 170,35 |
| 2021 | 339.500 | 188,63 |
The average inflation rate in gold from 1913 to 2021 is about 0.17% per year. This means that the average home price in the U.S. in gold has increased by about 0.17% each year.
Gold as inflation protection
Gold can serve as an inflation hedge because it can maintain its value over time better than paper currencies or other assets that are affected by inflation. Based on our previous findings, we can identify some reasons why:
- Low inflation rate in gold: As we have calculated, the average inflation rate in gold from 1913 to 2021 was about 0.17% per year. In comparison, the average inflation rate in the U.S. over the same period was about 4.68% (based on the previously mentioned data). Because the inflation rate in gold is relatively low, gold retains more of its value over time, while paper currencies lose purchasing power due to inflation.
- Store of Value: Gold is often considered a “safe haven” because it retains its value regardless of political or economic turmoil. In times of economic uncertainty or high inflation, investors tend to invest their assets in gold to protect themselves from currency fluctuations and inflation.
- Limited availability: Unlike paper currencies, the amount of gold cannot be easily increased. The limited availability of gold helps it retain its value, as an increase in demand cannot keep up with a corresponding increase in supply.
- Long-term value preservation: As we have seen in our analysis, the average house price in the U.S. in gold has increased relatively steadily over time, while the house price in U.S. dollars has increased 100-fold. This shows that gold is better able to maintain its value over the long term and offers long-term value preservation.
Because of these characteristics, gold is often seen as a way to protect against the effects of inflation and serve as a hedge against economic uncertainty.