In myth, the old days were ones of monetary stability, with gold acting as the universal equivalent for all national monetary forms. In fact, the temptation of states to manipulate their currencies — to declare their coins’ purchasing power to be greater than the intrinsic value of their metal — is ancient and nearly irresistible, and the more insulated a country is from FX markets, the less resistible it seems to be. The triumph of the international gold standard was the result of the Enlightenment and the consolidation of British industrial and financial power; the political economists of the 18th and early 19th centuries provided the theory, and the development of capitalist finance provided the impetus from practice.
With Sir Isaac Newton as Master of the Mint, Britain set the value of the pound sterling at 123.274 grains of gold at the beginning of the 18th century. That standard was suspended in 1797, because of the financing needs of the Napoleonic Wars. When peace came, creditors’ calls for restoration of the gold standard were resisted by industrialists and landowners. In 1818, the government faced major funding difficulties, and was forced to return to the old formula. The ensuing deflation savaged home demand, forcing British industrialists to search abroad for export markets.
The classical gold standard was nowhere near as stable nor as universal as it’s usually painted by metal fetishists. Wild booms alternated with equally wild busts. And while the Bank of England stood at the center of the world gold market, silver prevailed elsewhere, especially in France, which provided Britain with a reservoir of liquidity in tight times.
And then there was America, which was constantly disrupting things throughout gold’s heyday. The often imprudent, even anarchic American credit system helped finance the country’s extraordinary growth, but the system’s indiscipline led to manias and panics in near-equal measure. The Bank of England was often forced to act as a lender of last resort to the U.S., which had no central bank, and often little sense of fiscal management (de Cecco 1992b). Had America been forced by some pre-modern IMF to act according to modern orthodox principles, the U.S. and perhaps even the world would be a poorer place — at least in monetary terms.