Why Crypto-Currency Is A Return To The Gold Standard Method Of Exchange


In the 1970s a revolution in the way we dealt with money occurred. Governments around the world moved their currencies off the “Gold Standard” and onto foreign exchange rates.

The Gold Standard meant currency was traded via a commodity and so was subject to the whims of commodity prices. It made currencies less reflective of the strength of an economy (which made economies less resilient in export markets) and more dependent on the commodities they had to trade. It seemed, at the time, a terrible system.

When Nixon finally ended the use of gold as a convertible currency (known as ‘The Nixon Shock’) most thought it was a relatively good thing. Modern economic theory posits that because monetary policy wasn’t actively available in the gold standard period, it may have lengthened the Great Depression.

Out of this came the rise of currencies as we understand them today. Currencies are typically backed by a federal bank or reserve, who guarantees a certain amount of interest and security around the currency (often still with commodities in reserve, but also using a lot of debt to achieve this as well). Currencies in practice float on the exchange as relative values, assigned base on a combination of speculative strength of the economy and rate of base return from that economy.

This means that currencies don’t fluctuate a whole lot. There may be longer term trends (see the strength of the Australian dollar for an example) but as a rule, they don’t see huge fluctuations in short term frameworks. This provides a stable framework to exchange in a global context.

With the Gold Standard, the inverse was true. Whilst long term prices were relatively stable (no inflation or dramatic increase in monetary supply due to scarcity constraints) in the short term, prices were liable to change quickly. Borrowers and lendors often had concerns over the short term value of debt.

In a fiat currency governments are able to intervene (as they enforce the value via regulation), such as in recent years with the United States devaluing it’s currency, to correct over-inflated or under-inflated currency prices. Even with the Chinese pegging their currency, global currency markets are still reflective of global economic markets.

Why did we not shift to a single currency like the Eurozone tried to do?

Mostly it’s because of the different contexts most economies exist in. The fact that many Eurozone countries have the Euro as their currency means they have the same “value” assigned as, say, Germany — which makes their own small sections of the economy unable to compete. The broader the currency, the less effective it is in assigning relative value to protect localised economies (and give those localised economies access to broader markets/push them into competitive advantages).

Therefore you see countries like Portugal struggle in the Eurozone. They aren’t a manufacturing export market like Germany but their exports are being priced as if they are. The Eurozone is essentially a failure in economics, even though it arguably shouldn’t be. Centralised currencies are not the future of globalised currencies.

Enter crypto-currency, stage right.

Crypto-currencies work on the premise of a decentralised ledger. Whereas a bank will have one, central ledger that it updates to exchange costs (which is why payments can take days) a crypto-currency gives “everyone” access to the ledger. The theory being that if everyone can see it, any attempt at fraud would need to penetrate every system.

It means transactions have far less friction, because ledgers no longer have to be “swapped” between institutions. Instead, everyone can see one another. When I pay you, we both send out a signal that updates the ledger to everyone else and they can see approvals from both of us. It turns everyone into the institutional framework of a bank.

That provides a couple of real and tangible benefits. Whilst you can see everyone you don’t know who everyone is, so there’s individual anonymity. Transactions are virtually instant because you aren’t waiting on other banking ledgers to swap. Currency exchange isn’t limited to a specific geographical location, too.

Crypto-currency basically removes the relevance of banks as regulators of exchange, handing the management of that ledger over to a mass body of people. That’s a powerful proposition amongst a world increasingly disenchanted with banks — and a powerful marketing proposition, too.

But it smashes apart the stability of currency.

The early iterations of crypto-currency are, well, early. Bitcoin is fluctuating left, right and centre. There’s little in the way of genuine stability coming off the market as people assign value based on what they see fit. Are a lot of people selling? If so, the currency value will be driven up (more demand for currency). Are a lot of people buying things? If so, the currency value will be driven down (less demand for currency).

From this, crypto-currency becomes far more closely linked to the old-manner of doing things. Banks (both federal and corporate) no longer have control over the ledger, and therefore our fluctuations are rapid and held in quicker cycles. Because crypto-currency is held by everyone, it no longer reflects a central, relative value. And as it is so easy to exchange it quickly begins to behave like a commodity.

The difference between a crypto-currency and gold actually isn’t that radical. Both essentially have “commodity prices”. The major benefit of crypto-currency is it does what money was originally intended for — makes exchanging goods and services quicker and simpler.

Currencies almost always emerged in barter economies for this very reason. In Roman times, it was quicker and easier to exchange a few coins than bring ten chickens to the market. It was safer, too. Currency has always evolved as a commodity of exchange — it’s only in recent times with an increasingly complex financial system (built on ledgers) that we begun to think of currency as an entity of value itself, ensconced in the protections of federal governments (backed by gold reserves, even as they shifted from the gold standard).

Within the gold standard, it became difficult to transport vast quantities of a fixed resource. Gold was a good measure of value but was notoriously difficult to move. Additionally it offered little in the way of low inflation (something which alleviates some pressure of centralised currency hoarding). With gold, you had what you had. You couldn’t “print” or issue more currency very easily.

But as world trade globalised and goods began to be exchanged over vast distances it made little sense to keep a system that reduced the ability of various governments to trade. The result was a shift to a fiat currency — centrally controlled, managed and assigned by a government ledger in the reserve. Often a fiat currency was backed by gold, but ultimately it’s value was guaranteed independently by a central bank.

Crypto-currencies solve the problem of mobility that we had with traditional gold. But they’re also seeing all the same problems that the gold standard had — short term price fluctuations, a lack of ability to intervene in economies with monetary policy and a tougher market of exchange. Essentially, crypto-currency’s challenge is it doesn’t behave in the way most modern economies expect currency to behave.

What does this mean for the future of crypto-currency?

Well increasingly you’re going to see it playing a bigger and bigger role. The reason why is because it does smash the ledger and makes our monetary system more open and accessible. It’s easier to trade instantly on Bitcoin versus any number of banking systems. As the world globalises, transaction speed will become the catalyst for crypto-currency adoption (just as it was for the adoption of fiat currency).

This will create a global economic system that has far greater short term price fluctuations. Consumers will behave a little more strategically with their currency, and perhaps “diversify” their exchange holdings a little more. Crypto-currencies may even fragment for that purpose (DogeCoin, for example, sees more transactions than BitCoin but at a much lower overall value).

Is crypto-currency a good thing? Yes.

It takes away power from very centralised government systems and puts a market framework around currency in a way that’s easily tradeable. But it will disrupt the medium of exchange as we currently understand it.

No more are people going to be ignorant of currency. In the future, understanding currency trends will be as important as learning how to code. The challenge for the consumer of tomorrow won’t just be in managing their finances. They’ll have to actively manage their medium of exchange, too.