Gold has been used as the currency of choice throughout the history. The earliest known use was in 600 B.C. in Lydia, which is nowadays Turkey.
By 560 B.C., the Lydians had figured out how to separate the gold from the silver, and so created the first truly gold coin. Croesus was the first king to use gold for coins, and his name lives on in the phrase "rich as Croesus."
In those days, the value of the coin was based on the value of the metal, and the country with the most gold had the most wealth. As a result, Spain, Portugal, and England sent Columbus and other explorers to the New World. They needed more gold so they could be wealthier.
Introduction of the Gold Standard
When gold was found at Sutter's Mill in 1848, it inspired the California Gold Rush the following year, which helped unify western America. At the time, it resulted in inflation because the United States was already on a de facto gold standard since 1834, so the flood of new gold led to rising prices.
In 1861, Treasury Secretary Salmon Chase printed the first U.S. paper currency. The Gold Standard Act of 1900 established gold as the only metal for redeeming paper currency. It set the value of gold at $20.67 an ounce.
European countries wanted to standardise transactions in the booming world trade market, so they adopted the gold standard by the 1870s. It guaranteed that the government would redeem any amount of paper money for its value in gold, and meant transactions no longer had to be done with heavy gold bullion or coins, since paper currency now had guaranteed valued tied to something real.
This huge change also increased the trust needed for successful global trade, and it came with its own risks: gold prices and currency values dropped every time miners found large new gold deposits.
In 1913, Congress created the Federal Reserve to stabilize gold and currency values in the United States. When World War I broke out, the United States and European countries suspended the gold standard so they could print enough money to pay for their military involvement.
The Great War proved to be the first nail in the coffin for the international gold standard.
After the war, countries realized they didn't need to tie their currency to gold, and that it may in fact be harming the world economy to do so. Countries quickly returned to a modified gold standard after the war, including the United States in 1919. But the gold exchange standard was causing deflation and unemployment to run rampant in the world economy, and so countries began leaving the gold standard en masse by the 1930s as the Great Depression reached its peak. The United States finally abandoned the gold standard entirely in 1933.
The Gold Standard and the Great Depression
Once the Great Depression hit with full force, countries had to abandon the gold standard. When the stock market crashed in 1929, investors began trading in currencies and commodities. As the price of gold rose, people exchanged their dollars for gold. It worsened when banks began failing, as people began hoarding gold because they didn't trust any financial institution.
The Federal Reserve kept raising interest rates in an attempt to make dollars more valuable and dissuade people from further depleting the U.S. gold reserves, but it made the cost of doing business more expensive. Many companies went bankrupt, creating record levels of unemployment.
On March 6, 1933, the newly-elected President Franklin D. Roosevelt closed the banks in response to a run on the gold reserves at the Federal Reserve Bank of New York. By the time banks re-opened on March 13, they had turned in all their gold to the Federal Reserve. They could no longer redeem dollars for gold, and no one could export gold.
On April 20, FDR ordered Americans to turn in their gold in exchange for dollars to prohibit the hoarding of gold and the redemption of gold by other countries. This created the gold reserves at Fort Knox. The United States soon held the world's largest supply of gold.
On January 30, 1934, the Gold Reserve Act prohibited the private ownership of gold except under license. It allowed the government to pay its debts in dollars, not gold, and authorized FDR to increase the price of gold from $20.67 per ounce to $35 per ounce (which consequently devalued the dollar).
Bretton Woods Agreement
Then 1944 Bretton Woods Agreement set the exchange value for all currencies in terms of gold. It obligated member countries to convert foreign official holdings of their currencies into gold at these par values.
The United States held the majority of the world's gold. As a result, most countries pegged the value of their currency to the dollar instead of gold. Central banks maintained fixed exchange rates between their currencies and the dollar by buying their own country's currency in foreign exchange markets. If their currency became too low relative to the dollar. If it became too high, they'd print more of their currency and sell it. It became more convenient for countries to trade when they peg to the dollar. As a result, most countries no longer needed to exchange their currency for gold, as the dollar had replaced it.
The value of the dollar subsequently increased, even though its worth in gold remained the same. This made the U.S. dollar the de facto world currency.
End of the Gold Standard
In 1960, the United States held US$19.4 billion in gold reserves, including US$1.6 billion in the International Monetary Fund. That was enough to cover the US$18.7 billion in foreign dollars outstanding.
As the U.S. economy prospered, Americans bought more imported goods and paid in dollars. This large balance of payments deficit worried foreign governments that the United States would no longer back up the dollar in gold.
Also, the Soviet Union had become a large oil producer. It was accumulating U.S. dollars in its foreign reserves since oil is priced in dollars due to fears that the United States would seize its bank accounts as a tactic in the Cold War. The Soviet Union deposited its dollar reserves in European banks, and these became known as euro - dollars.
By the 1970s, the United States stockpile of gold continued to decline as President Nixon's economic policies created stagflation. Double-digit inflation reduced the euro - dollar's value, and more and more banks started redeeming their holdings for gold. The United States could no longer meet this growing obligation.
That's when Nixon changed the dollar/gold relationship to US$38 per ounce. He no longer allowed the Fed to redeem dollars with gold, which made the gold standard meaningless. The U.S. government re-priced gold to US$42.22 per ounce in 1973 and then decoupled the value of the dollar from gold altogether in 1976. The price of gold quickly shot up to US$124.84.
The Legacy of Gold
Once the gold standard was dropped, countries began printing more of their own currency, which resulted in inflation but also more economic growth. Although there are advocates for a return to the gold standard, it appears unlikely that those days will return. Economists regard the gold standard as necessary during its time, but no longer applicable in the modern world economy.
Gold continues to have appeal as an asset of real value. Whenever a recession or inflation looms, the investors return to gold as a safe haven. It reached its record high of US$1,895 an ounce on September 5, 2011.
Today /August 2020/ the price of gold reaches another maximum of US$2060.85.