In the modern era, those in pursuit of wealth and financial security are often said to be under the spell of the Almighty Dollar. This, of course, refers to the U.S. Dollar ($) which is used as a standard form of currency in transactions around the globe. The fiat currency of the United States, the Dollar is also used in countless foreign transactions and even serves as the official currency of other nations, such as the island paradise of Turks & Caicos (which happens to be a British territory).
However, as recent experiences have shown, the Almighty Dollar isn’t as powerful and unfailing as one might expect. In the final installment of blog posts inspired by the JM Bullion followers on Facebook, we take a look at the value of gold compared to the US Dollar (and markets in general) during periods of economic turmoil. We’d like to offer a tip of the cap to JM Bullion follower Clint Hagemeier for his suggestion this week!
History of the US Gold Standard
We’ve previously covered the importance of the gold standard in the United States, but in the context of this current blog post it is important to take a quick look back at gold, fiat currency, and economic upheaval. The United States economy is no stranger to booms, recessions, depressions, and inflation. For example, in the period following the Civil War the nation was mired in a recession. Of course, the modern era saw the Great Depression, as well as inflation in the 1980s and the recent Great Recession.
The difference between past incidents and modern ones was the gold standard. Up until 1933, when the Great Depression forced President Franklin D. Roosevelt to abandon the gold standard to shore up the nation’s overall gold reserves, fiat currency and gold had a different relationship than exists today.
The US wound up on a defacto gold standard following the Coinage Act of 1834, which set a 16:1 ratio for the value on small-denomination paper bills issued by the Bank of the United States. At this time, the central bank was hated in the US and the coinage act passed only after strong political posturing and opposition. At that time, the 16:1 ratio extremely overvalued gold.
Prior to the Civil War, paper bills were issued that were not considered legal tender in the United States and only circulated with the knowledge, and trust, that they could be redeemed for physical gold or silver. During the Civil War, the US government issued the first legal tender banknotes, known as greenbacks, with no promise of being able to redeem the dollars for gold or silver.
As the notes were not tied to gold or silver, the government produced large volumes of the new greenbacks. Following the war, the US faced hyperinflation because there was so much of the paper money in circulation. Two critical things occurred following the war: the government worked to remove greenbacks from circulation and demonetization of silver occurred. The result was deflation in the US.
Approaching the Great Depression, the US was already on the move away from the gold standard and toward pure fiat currency. Roosevelt took action to end the gold standard, collecting circulation gold coins in the US, to protect a run on banks from Americans looking to exchange their paper bills for gold and draining the national treasury.
Modern Value Fluctuations
By in large, gold and the US Dollar (and other currencies) have opposite reactions to economic uncertainty. Generally speaking, whenever economies enter a recession or are hit by inflation, gold climbs in value as fiat currencies bounce up and down. In the six recognized recessions that have occurred in the United States since January 1970, the value of gold rose and provided investors with a better rate of return on investment than stocks, bonds, and other investment funds.
For example, during the inflationary and recession issues of the 1980s, gold prices surged about $600 per ounce, before retreating below $400 per ounce, and again jumping briefly back above $400 per ounce. Throughout much of the 1990s, the price of gold remained level, experiencing only slow ebbs and flows in value.
The slowdown that hit American markets following the terror attacks of 9/11 started a long-term upward trend in the value of gold that was accompanied by dramatic surges during inflationary or recession periods. For example, the Great Recession of 2008-2010 saw one of the most significant surges in gold prices, send values soaring from around $800 per ounce to more than $1,200 per ounce.
Overall, the value of gold compared to fiat currencies, stocks, bonds, and mutual funds goes up when economies retract or inflation occurs. Gold can lose value during long-term periods of stability, though it always retains its intrinsic value as a precious metal. However, there is one important facet to note here.
Gold does not always react the same to every hiccup in the global markets. For example, gold tends to perform better during recessions that are brought on by uncertainty or inflation. A good example of this was golds recent spikes when the bottom fell out in the crude oil market during 2015. As the value of oil plunged, gold saw an increase as funds powered by oil-related stocks plunged.
Of course, another recent example covered by JM Bullion would be the impact of Brexit. Following the British vote to exit the European Union, the Pound Sterling fell to all-time lows against the US Dollar, and even the common currency of the Eurozone (Euros) took a beating. In the weeks following the June 2016 vote, Britons bought more gold than at any other point in the modern era as a means of protecting their wealth and ensuring a strong return on investments.
When it comes to investments, gold isn’t better or worse than other options. Every type of investment has the ability to gain and lose, just as gold has done at different points in the last five decades. The difference between other options and gold is the inherent value the metal itself retains. Gold, along with other precious metals, offers a strong stabilizer to any investment portfolio. It acts as a buffer that can insulate a larger portfolio against the losses that might be felt during times of economic crises or uncertain downturns, such as the 2015 drop in oil prices.
Thanks Again to Clint!
Our thanks again to Clint Hagemeier for his third-place entry in JM Bullion’s blog concept contest. We’d like to again thank all three winning entrants for sharing their ideas with us and providing the greater JM Bullion Facebook community with exciting reading on precious metals. Thanks Clint!
