Photo Credit: LBMA
This Art Deco inspired French 100 franc gold coin was struck in 1936 – the year the international gold standard finally went bust.
I’ve been fascinated by the 1930s collapse of the international gold standard for some time. Over the course of the 20th century we somehow went from circulating gold coinage being considered normal and “right” by mainstream economists, to a wacky world of perpetually depreciating fiat currencies where even the mention of the word gold gets you labeled a monetary crackpot.
Although a lot of ink has been spilled about how the United States abandoned the gold standard in 1933, there is precious little commentary on how the gold standard fell apart in other countries. Franklin Delano Roosevelt’s decision to devalue the dollar undoubtedly played a big part in the end of the international gold standard, but it wasn’t the only important event.
I hope to fill in the historical gaps with this article.
Our story begins at the dawn of the 20th century, before the outbreak of World War I. At this time, almost every nation – or at least every nation that mattered commercially – had adopted what was known as the classical gold standard. Under the classical gold standard a nation’s monetary unit was defined as a specific weight of fine gold. For example, the British pound was defined as being 7.3218 grams of pure gold. Each French franc was fixed at 0.2904 grams of gold. And the German mark was pegged at 0.3584 grams of gold.
The classical gold standard stipulated that the national central bank had to hold gold coin or bullion in sufficient quantities to back outstanding bank deposits and circulating paper currency. But no country maintained a 100% coverage ratio. Instead, most central banks were bound by law to maintain lower coverage ratios that generally ranged between 30% and 60%. This was done on the (sometimes false) premise that not everyone would want to exchange their paper money for gold simultaneously.
Another tenet of the classical gold standard was that the national currency had to be freely convertible into gold at the stated rate upon demand. Anyone – citizen or non-citizen – could present a banknote at a bank window and walk out with a gold coin of the appropriate value. In addition, there could be no capital controls – laws impeding or forbidding the import or export of gold coin or bullion between nations.
For many decades this system worked remarkably well. Between 1871 and 1914 Europe experienced a commercial and cultural golden age, driven in no small part by the economic stability that the classical gold standard provided.
Then disaster struck in 1914: World War I.
The expenses associated with this global conflict were immense. It was easily an order of magnitude more expensive than any previous conflict in human history. Every belligerent nation was forced to suspend gold convertibility once it became clear the war would not end quickly. The warring countries also ran up massive sovereign debts in an effort to finance wartime expenditures.
But the classical gold standard was such a powerful idea that most countries involved in World War I sought to reestablish convertibility as soon as practicably possible in the aftermath of the conflict. It is just that in most circumstances these new gold pegs had to be established significantly below pre-war parity. In other words, the countries spent so much on the conflict that they were forced to devalue their currencies – sometimes by a considerable amount.
Photo Credit: papercut4u
Here is a rare U.S. 1882 $100 Gold Certificate. Notice the prominent statement on it that reads “gold coin repayable to the bearer on demand”.
Great Britain was a notable exception to this rule. Before the Great War, London had been the undisputed center of global finance. The British attributed this – at least in part – to the stability of the pound sterling under the classical gold standard. Every pound had been exchangeable for 0.2354 troy ounces of pure gold since Sir Isaac Newton set the exchange rate back in 1717. The only interruption in convertibility occurred during the Napoleonic wars of the early 19th century.
The non-convertibility of the pound during World War I was merely seen as another such inconvenience by the British monetary authorities of the time. Much like in the aftermath of the Napoleonic wars, they strove to reestablish the pound’s pre-war parity to gold and then regain their position at the center of the financial universe. Winston Churchill – in his capacity as the Chancellor of the Exchequer – did indeed re-peg the pound to its pre-war gold parity in 1925, but London never did manage to regain its throne as the preeminent global capital market.
Instead, a bizarre three-way system formed with New York, Paris and London sharing monetary hegemony in the inter-war period. The U.S. dollar, British pound and French franc all became internationally important gold-backed currencies in the new post World War I financial landscape.
Although the international gold standard had been largely restored by the latter half of the 1920s, it was not the classical gold standard of the pre-war years. Most nations chose to “economize” on the use of gold by adopting what was called the “gold exchange standard”. In this scenario, a nation held its reserves in the form of both gold and foreign currencies exchangeable for gold. In most cases, this meant U.S. dollars or British pounds. The French franc was only re-pegged to gold in June 1928 at about 1/5th of its pre-1914 parity.
Another development was that gold coins were struck less frequently by gold standard nations in the inter-war period. In most places, gold coins no longer circulated in day-to-day commerce as they had before 1914. These trends towards sovereign mints striking fewer gold coins and those coins circulating less frequently only accelerated once the Great Depression began.
In tandem with this, some countries embraced a modified “gold bullion standard” in which the smallest allowable gold/currency swap typically involved 400 troy ounce London Good Delivery bars. Great Britain was the leading example of a gold bullion standard in the inter-war years. In order to exchange your pounds for gold post-1925, you needed to present around £1,700 at the Bank of England. This represented several years’ salary for a skilled white-collar worker of the time – a small fortune.
In contrast, the classical gold standard used by the U.K. before World War I was much friendlier to the average man on the street. Before 1914, a mere £1 note was convertible into a gold sovereign coin.
Even though the international gold standard appeared healthy in the late 1920s, in reality intractable problems lay just beneath its glittering façade. World War I had been characterized by gigantic sovereign debt issuance and accompanying inflation. Most belligerent nations (with the notable exceptions of Great Britain and the U.S.) chose to devalue their currencies before re-pegging to gold again in the 1920s. Despite these near universal devaluations, there was still too little gold in the global monetary system to support the mountain of credit and currency that had accumulated.
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After a sharp, but brief, post-war recession that ricocheted through the global economy from 1919 to 1922, the Roaring 1920s began. This decade-long non-stop party was fueled by alcohol, gambling and debt – with debt being the worst of the three vices by far. Banks happily gave out loans for the purchase of real estate, stocks and even consumer goods like cars, vacuum cleaners and refrigerators. If you could fog a mirror, you could get a loan. And although the Roaring 20s is primarily associated with the U.S., the accompanying credit explosion happened in other developed markets like Western Europe and Japan, too.
The newly established U.S. Federal Reserve made a bad situation worse by recklessly encouraging credit expansion in the face of obvious securities market bubbles. In July 1927, the then head of the Federal Reserve Bank of New York, Benjamin Strong, gave the already-inflated U.S. stock market a “coup de whiskey” by cutting the Fed’s discount rate. The artificially low discount rate then spurred additional speculative borrowing in an economy already saturated with debt.
In many ways, this maneuver was no different than the modern-day insanity of the Fed pegging short-term interest rates at 0% in an attempt to get the last sucker to buy an overvalued house in Southern California.
But the reason that Strong pursued this unwise policy is the really astonishing part; he did it as a personal favor to the Bank of England, which wanted lower U.S. interest rates in order to make investing in London at higher rates more favorable! In other words, the British pound was overextended and the Bank of England had insufficient gold reserves (due to their aggressive 1925 peg to pre-war parity). By lowering U.S. interest rates, the Fed could drive money (in the form of gold or dollars, either one would work) into the U.K. where they would pad out the pound’s gold coverage ratio.
Benjamin Strong apparently never seriously considered that his actions would lead to even greater speculation in the U.S. stock market, thus ultimately leading to the Crash of 1929 and the Great Depression!
But things were falling apart in the global economy even before the infamous 1929 stock market implosion. After frenetic price increases during World War I and into the early 1920s, many commodity prices gradually fell for the rest of the decade. This was due to rampant over-investment and consequent over-production. Commodities as diverse as sugar, oil, copper, rubber and beef either fell or stagnated in price during the mid-to-late 1920s.
Emerging market countries that relied primarily on commodity exports to power their economies felt the pinch first.
Argentina, a major agricultural producer, abandoned the gold standard in December 1929. Venezuela, a leading oil exporter, devalued its currency in September 1930. Commodity export powerhouse Canada didn’t formally break its peg to gold until 1933, but it did put severe restrictions on gold exports starting in 1928.
Although the U.S. stock market crash of October 1929 is widely viewed as the beginning of the Great Depression, the world didn’t experience its worst effects until 1931. It was only after the major Austrian bank Creditanstalt unexpectedly failed in May 1931 that the economic crisis really intensified.
Photo Credit: Portable Antiquities Scheme
$20 double eagle gold coins (pictured above) were a primary form of bank reserves in the United States when the country was still on the gold standard.
The collapse of this Austrian bank put pressure on German banks, which also began to fail en masse. In July 1931 Germany nationalized its largest banks, suspended the gold convertibility of the Reichsmark, imposed capital controls and ceased payments on its World War I reparations. It then capped off this financial disaster by defaulting on its sovereign debt.
The reverberations of this economic catastrophe were felt around the world, but Great Britain was perhaps the hardest hit.
Up until the summer of 1931, most countries made a determined effort to maintain the international gold standard. It was widely believed by mainstream economists of the time that the gold standard was the monetary cornerstone of global prosperity and had to be retained at all costs.
The Bank of England, in particular, secured multiple rounds of gold loans from the Federal Reserve, the Banque de France and private banking consortiums in an effort to maintain its faltering gold coverage ratio in the wake of the German implosion. But the pressure on the British pound was unrelenting. Nervous businessmen, shrewd currency speculators and wary citizens all exchanged pounds for gold (or good-as-gold U.S. dollars and French francs) as quickly as they could.
As summer turned to early fall, the monetary pressures on the British pound became unbearable. The Bank of England’s gold coverage ratio fell below the critical 25% threshold. The government was in crisis as it attempted to impose draconian budget cuts in the midst of rising unemployment and widespread economic distress.
The end came suddenly.
On September 16, 1931, – an otherwise nondescript Wednesday – £5 million in gold and foreign exchange reserves exited the U.K. On Thursday that amount rose to £10 million. On Friday it was £18 million. On Saturday – a day when the banks closed early – more than £10 million fled the country looking for safer shores. On Sunday, September 20th, the Bank of England recommended that the British government break the pound’s peg to gold, which Parliament officially did the very next day.
Great Britain’s devaluation sent shockwaves through the international gold standard community. The British Empire, with London at its heart, was one of the world’s most important financial centers. Sterling had maintained a more or less constant link to gold for more than two centuries. The pound no longer being backed by gold was nearly unthinkable.
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And yet once it happened, the dam burst.
In the weeks after the British devaluation, country after country followed suit. India, a British colony at the time, de-pegged from gold at the same time as Britain. Australia, a former British colony, devalued its pound simultaneously. So did Ireland. The Nordic countries – Sweden, Denmark, Norway and Finland – all abandoned the gold standard between September and October 1931. Nations as diverse as Portugal, Columbia and Hungary also suspended the convertibility of their banknotes into gold in the fall of 1931. Even Japan discarded the gold standard in December 1931.
Despite the exodus of so many countries from the international gold standard in late 1931, some nations stayed the course. The United States and France – two of the three great money centers of the time – continued to adhere to the gold standard despite the worsening economic outlook.
But the situation for gold as money was looking increasingly bleak.
All the countries that had debased their currencies along with the U.K. in 1931 now found that their exports were suddenly more competitive in the global markets. Conversely, nations that continued to embrace gold found their own exports to be artificially expensive.
This financial asymmetry put ever increasing, unrelenting economic pressure on any nation that chose to stick to the international gold standard.
Outside of Europe’s financial center of gravity, only a handful of non-European countries maintained their peg to gold after 1931. The United States was the most important of these countries. But South Africa, a major gold producer thanks to its vast Witwatersrand deposits, also stubbornly kept its gold-backed pound intact.
For a little more than a year, the international gold standard struggled on. But the Great Depression only deepened.
South Africa finally abandoned the gold standard in December 1932. The United States was not far behind.
I won’t linger on the drama surrounding the United State’s departure from the gold standard in March of 1933. That has been well-documented elsewhere. However, I will give a short excerpt from an article I previously wrote about pre-1933 U.S. gold coins:
“Prior to the Great Depression of the 1930s, the United States was on the gold standard. Under this arrangement, dollars were exchangeable for gold at a fixed rate – $20.67 for every troy ounce of gold. But the financial dislocations created by the Great Depression put incredible strain on this convertibility scheme. As bank after bank collapsed, average people began withdrawing their money from the financial system fearing that their bank would be next.
Compounding the problem was the fact that there was no insurance for bank deposits; the FDIC did not exist at this point in time. As a result, the wise move was to remove your funds from any questionable bank rather than risk losing your hard-earned money when it failed.
The financial crisis came to a head in January-February 1933 when two Michigan banks – the First National Bank of Detroit and the Guardian National Bank of Commerce – effectively became insolvent. The Governor of Michigan was forced to declare a bank holiday in order to avoid a general banking collapse. This action frightened people in neighboring states who believed their governors may be forced to follow suit.
The crisis quickly spiraled out of control.
One day after his inauguration on March 4, 1933, newly elected president Franklin Delano Roosevelt declared a national bank holiday. One month later on April 5, 1933, FDR issued his infamous Executive Order #6102 which suspended domestic gold convertibility of the dollar. In addition, citizens were required by law to surrender their gold coins, bullion and gold certificates to the government.”
Interestingly, Canada only formally suspended the convertibility of its paper money into gold on April 10, 1933 – a full month after the U.S. had left the gold standard! Of course, Canada had already prohibited the export of gold overseas for years beforehand. But it is still notable that Canadian citizens could exchange their banknotes domestically for a hodgepodge of gold bullion, British gold sovereigns, Canadian gold coins or U.S. gold coins (the type of gold was at the discretion of the bank) for longer than U.S. citizens could.
By the early summer of 1933, the situation for the remaining gold standard countries was getting desperate.
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Hoping to reach an international agreement to end the Great Depression, the world’s major economic powers held a conference in London from June 12th to July 27th, 1933. The lifting of tariffs, debt forgiveness and the stabilization of exchange rates were on the agenda, but no agreement was forthcoming.
As the London Economic Conference wound down, a core group of European nations publicly announced that they intended to remain committed to the international gold standard. These so called “Gold Bloc” nations were the Netherlands, Switzerland, France, Italy, Poland and Belgium, along with the micro-states of Luxembourg and Danzig.
It is interesting to note that two of the Gold Bloc countries – Switzerland and the Netherlands – were using the same gold parity that they had before World War I. In other words, these countries (which had been neutral during the Great War) did not devalue their currencies after 1914. They were the last nations on earth to maintain their gold pegs unchanged since the 19th century. Incidentally, the Swiss Franc and Dutch Guilder were also the world’s strongest currencies during the 20th century.
By the autumn of 1933, the Gold Bloc members – all located in Europe – were nearly the only countries in the world still on the gold standard. The last of the monetary traditionalists had circled the wagons, hoping their solidarity would be enough to fend off the rising economic storm.
But it was not to be.
As the Great Depression progressed and country after country left the gold standard, the pressure on those who remained wedded to gold only increased. Reserves of all types – primarily gold, but also foreign currency and bonds – steadily flowed out of those nations still pegged to gold.
Even France, which had fixed the franc to gold at an artificially low rate in 1928, began to have problems. This was notable because during the early part of the Great Depression, gold had flowed into the Banque de France due to the undervalued franc.
But during the latter part of the Great Depression, this situation completely reversed. The once undervalued franc, still pegged to gold, now became overvalued compared to the dollar and the pound. As a result, gold and other foreign reserves began to flow out of Paris in quantity.
Despite all official pronouncements and new policies, the plight of the Gold Bloc steadily worsened.
By 1935 the Gold Bloc shrank as Belgium, Luxembourg and the Free City of Danzig all devalued their currencies in May of that year. Now only five lonely countries remained in the Gold Bloc: Switzerland, the Netherlands, France, Italy and Poland.
The beginning of the end for the international gold standard was, curiously enough, geopolitical in nature. In March 1936, Hitler marched his Nazi armies into the demilitarized Rhineland in clear violation of the Treaty of Versailles. No one opposed him. No country in Europe felt it had the military might to do so.
This was a wakeup call to all of Europe. Peace would not last. The World War I peace dividend had been squandered during the 1920s and early 1930s. It was now imperative for all European nations to rebuild their militaries as quickly as possible.
And building armies is not cheap.
The financial markets instantly realized what this meant. The budgetary fiscal discipline that the Gold Bloc countries had shown up to this point was instantly destroyed. Everyone knew they would be forced into massive deficit spending in order to reequip their armies against possible German aggression.
Poland was the first to go, breaking its peg with gold in April 1936. The remaining countries of Switzerland, the Netherlands, France and Italy – the core of the core – all stayed linked to gold during the summer of 1936, desperately looking for a way out of their monetary dilemma.
But there was no solution.
After suffering massive gold outflows all summer, France finally capitulated. On September 26, 1936 – a Saturday – the convertibility of the French franc was suspended. It took less than 48 hours for the Netherlands and Switzerland to follow suit. Italy’s gold peg collapsed about a week later in early October 1936 (although it should be noted that Italy had already placed restrictions on the export of gold way back in 1934).
The Gold Bloc – and with it the international gold standard – had ceased to exist.
However, there was still one nation that purportedly stayed on the gold standard right up until World War II – tiny Albania, situated on Europe’s Adriatic coast. I say purportedly because information about century-old monetary policies in obscure countries is nearly impossible to verify. Nonetheless, Albania supposedly maintained a circulating gold currency (the Lek) right up until it was invaded by Mussolini’s Italy in April 1939.
When the international gold standard collapsed, most economists of the time naively believed the break with gold would be temporary. There was a widespread assumption that once the Great Depression ended and prosperity returned, most nations would happily reestablish their currency’s link to gold. In fact, nearly all countries that abandoned the gold standard in the mid 1930s still officially defined their currency in terms of gold according to law (just less gold than before devaluing, obviously).
But World War II destroyed any desire, or even ability, to return to the gold standard. Europe had been the beating heart of gold convertible currencies, but World War II ripped that heart out. While World War I may have begun the destruction of the international gold standard, World War II definitively killed it. Our money has never been the same since.
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