Monetary regimes

A currency has to be anchored to something. For two centuries, several anchors have been tried.

The first is gold. Under the gold standard, each banknote can be exchanged for a weight of gold set by law.

The United Kingdom adopted it in the nineteenth century. Before nineteen fourteen, most major countries had followed.

The advantage is simple: a state cannot print more than its gold allows. Inflation stays in check.

But it is also a straitjacket. In the middle of a crisis, it is impossible to create money to support the economy.

In the thirties, countries that left gold early, like the United Kingdom in nineteen thirty-one, recovered faster.

July nineteen forty-four, at Bretton Woods, in the United States. Forty-four countries designed the post-war world.

The dollar is at the centre. It is worth a fixed weight of gold: thirty-five dollars an ounce. Other currencies are tied to the dollar.

It held for more than twenty-five years. But the United States spent, and there were soon far more dollars than gold to cover them.

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The fifteenth of August nineteen seventy-one, a Sunday evening. President Nixon announced the dollar could no longer be exchanged for gold. Temporarily, he said.

The temporary lasts forever. Nine years later, an ounce of gold passed eight hundred dollars, more than twenty times the fixed price.

Since nineteen seventy-three, the major currencies float. Their price is set every second, on the foreign exchange market.

No more metal anchor: a currency's value rests on trust in the central bank that issues it.

Floating absorbs shocks. But it makes the price of imports and travel move, from one year to the next.

Some countries choose the opposite, the hardest possible link: the currency board.

Every note issued must be covered by reserves in foreign currency. The central bank decides almost nothing any more.

Hong Kong has done it since nineteen eighty-three: about seven Hong Kong dollars eighty to one American dollar.

Argentina tried in nineteen ninety-one: one peso equals one dollar. Hyperinflation stopped dead.

But the country kept borrowing, and could no longer devalue when the crisis came. In early two thousand two, the link broke.

Within the year, it took more than three pesos to buy a dollar. Savers' accounts were frozen, then converted at a loss.

Each regime trades a freedom for a discipline. Gold and the currency board tie your hands. Floating frees them, and demands trust.

None is perfect. Remember the question to ask: what is this currency anchored to, and who can pull up the anchor?