History of Fiat Money

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					History of Fiat Money                                                                                      9/25/08 4:45 AM




                          Fiat Money History in the US
                                                           OVERVIEW
                        In a fiat money system, money is not backed by a physical commodity
                        (i.e.: gold). Instead, the only thing that gives the money value is its relative
                        scarcity and the faith placed in it by the people that use it. A good primer on
                        the history of fiat money in the US can be found in a video provided by the
                        Mises.org website.

                        In a fiat monetary system, there is no restrain on the amount of money that
                        can be created. This allows unlimited credit creation. Initially, a rapid
                        growth in the availability of credit is often mistaken for economic growth,
                        as spending and business profits grow and frequently there is a rapid growth
                        in equity prices. In the long run, however, the economy tends to suffer
                        much more by the following contraction than it gained from the expansion
                        in credit. This expansion in credit can be seen in the Debt/GDP ratio. We
                        track the bubbles created by this expansion of debt at the inflation /
                        deflation page.

                        In most cases, a fiat monetary system comes into existence as a result of
                        excessive public debt. When the government is unable to repay all its debt
                        in gold or silver, the temptation to remove physical backing rather than to
                        default becomes irresistible. This was the case in 18th century France
                        during the Law scheme, as well as in the 70s in the US, when Nixon
                        removed the last link between the dollar and gold which is still in effect
                        today.

                        Hyper-inflation is the terminal stage of any fiat currency. In hyper-
                        inflation, money looses most of its value practically overnight. Hyper-
                        inflation is often the result of increasing regular inflation to the point where
                        all confidence in money is lost. In a fiat monetary system, the value of
                        money is based on confidence, and once that confidence is gone, money
                        irreversibly becomes worthless, regardless of its scarcity. Gold has replaced
                        every fiat currency for the past 3000 years.

                        The United States has so far avoided hyper-inflation by shifting
                        between a fiat and gold standard over the past 200 years.

                        1785-1861 - FIXED Gold standard 76 years




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                        The founding fathers were concerned about the unrestrained control of the
                        money supply. One thing they all agreed upon was the limitation on the
                        issuance of money,
                        Thomas Jefferson warned of the damage that would be caused if the people
                        assigned control of the money supply to the banking sector, "I believe that
                        banking institutions are more dangerous to our liberties than standing
                        armies. Already they have raised up a money aristocracy that has set the
                        government at defiance. This issuing power should be taken from the banks
                        and restored to the people to whom it properly belongs. If the American
                        people ever allow private banks to control the issue of currency, first by
                        inflation, then by deflation, the banks and corporations that will grow up
                        around them will deprive the people of all property until their children will
                        wake up homeless on the continent their fathers conquered. I hope we shall
                        crush in its birth the aristocracy of the moneyed corporations which already
                        dare to challenge our Government to a trial of strength and bid defiance to
                        the laws of our country" Thomas Jefferson, 1791

                        Many of the founding fathers experienced the damage caused by fiat
                        currency. Most of the revolutionary war was financed by worthless currency
                        called "Continentals".


                                 The Continental Currency ("Not worth a Continental") that
                                 American colonists issued for the Continental Congress to
                                 finance the Revolutionary War was replaced by the US Dollar
                                 in 1785 when The Continental Congress adopted the dollar as
                                 the unit for national currency. At that time, private bank-note
                                 companies printed a variety of notes. After adoption of the
                                 Constitution in 1789, Congress chartered the First Bank of the
                                 United States and authorized it to issue paper bank notes to
                                 eliminate confusion and simplify trade. The U.S. Constitution
                                 (Section 10) forbids any state from making anything but gold
                                 or silver a legal tender. The Federal Monetary System was
                                 established in 1792 with the creation of the U.S. Mint in
                                 Philadelphia. The first American coins were struck in 1793.
                                 The U.S. Coinage Act of 1792, consistent with the

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History of Fiat Money                                                                               9/25/08 4:45 AM



                                 Constitution, provided for a U.S. Mint, which stamped silver
                                 and gold coins. The importance of this Act cannot be stressed
                                 enough.
                                   One dollar was defined by statute as a specific weight of
                                 gold.
                                   The Act also invoked the death penalty for anyone found to
                                 be debasing money.
                                   President George Washington mentions the importance of the
                                 national currency backed by gold and silver throughout his
                                 initial term of office and he contributed his own silver for the
                                 initial coins minted.
                                   The purchase of The US Mint in Philadelphia, was the first
                                 money appropriated by Congress for a building to be used for a
                                 public purpose. It was purchased for a total of $4,266.67 on
                                 July 18, 1792.

                        1862-1879 - FLOATING fiat currency 7 years




                                 The first use of fiat money (called Greenbacks) in the United
                                 States was in 1862, it was used as a tool to pay for the
                                 enormous cost of the Civil War. Greenbacks were a debt of the
                                 U.S. government, redeemable in gold at a future unspecified
                                 date. They were circulated along with Gold certificates, backed
                                 by the government’s promise to pay in gold.

                        1880-1914 - FIXED Gold standard 34 years




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                                 The US dollar was hard pegged to gold resulting in domestic
                                 price stability and virtually no inflation. The financial needs of
                                 WW1 ended this.

                        1915-1925 - FLOATING Fiat currency 10 years

                                 In order to "pay" for WW1 countries had to print a lot of paper
                                 currency which by necessity mandated a delinking from gold
                                 because there wasn't enough gold to support the paper.

                        1926-1931 - FIXED Gold standard, 5 years




                                 The gold exchange standard was established wherein each
                                 country pegged its currency to the US dollar and British pound
                                 which were then supposed to be backed by the dollar. When
                                 the depression began countries tried to cash in their pounds and
                                 dollars for gold. That "run" on gold forced the end of the gold
                                 exchange standard.



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                        1931-1945 - FLOATING Fiat currency, 14 years

                                 Fiat currencies reign worldwide leading to huge economic
                                 imbalances from country to country and was of the major
                                 contributing factors to the beginning of WW2.

                        1945-1968 - FIXED - Gold standard, 26 years

                                 1944 Bretton Woods Accord (similar to gold exchange standard
                                 of 1926-1931) Two main currencies again, the US dollar and
                                 British pound. A run to convert pounds to gold collapsed the
                                 pound and began the end of the Bretton woods accord. It took 3
                                 years while governments tried to salvage the system and also to
                                 determine what to do next. Kind of like having one leg on the
                                 boat and the other on shore. 1963 - New Federal Reserve notes
                                 with no promise to pay in "lawful money" was released. No
                                 guarantees, no value. This is also the year of the disappearance
                                 of the $1 silver certificate. Once again, a subtle shift in plain
                                 view.

                                 1965 - Silver is completely eliminated in all coins save the
                                 Kennedy half-dollar, which was reduced to 40 percent silver by
                                 President Lyndon Johnson's authorization. The Coinage Act of
                                 1965 signed by Lyndon Johnson, terminates the original
                                 legislation signed by George Washington 173 years earlier
                                 (carrying the death penalty) enabling the US Treasury to
                                 eliminate the silver content of all currency.

                                 1968 - June 24 - President Johnson issued a proclamation that
                                 all Federal Reserve Silver Certificates were merely fiat legal
                                 tender and could not really be redeemed in silver.


                        1971 - FLOATING - Fiat currency, 5 months

                                 August of 1971 President Nixon ended the international gold
                                 standard and for the first time no currency in the world had a
                                 gold backing.

                        1971-1973 - FIXED - Dollar standard, 2 years

                                 The Smithsonian Agreement was passed pegging world
                                 currencies to the dollar rather than gold as a fixed exchange
                                 rate.

                        1973-? - FLOATING - Fiat currency, 30 years


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                                 The Basel Accord established the current floating exchange of
                                 currency rates we are operating under today.


                        A good barometer of the size of a currency's leverage is the percentage of
                        total Debt to GDP (Gross Domestic Product). Currently, that percentage
                        (299%) is higher than the level the nation experienced during the depression
                        era 1930's. With budget deficits projected for 2003 and 2004, the US will
                        soon exceed this already inflated level.
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