Hard currency
Encyclopedia
Hard currency in economics, refers to a globally traded
currency
that is expected to serve as a reliable and stable store of value
. Factors contributing to a currency's hard status might include the long-term stability of its purchasing power, the associated country
's political and fiscal condition and outlook, and the policy posture of the issuing central bank
.
Conversely, a soft currency indicates a currency which is expected to fluctuate erratically or depreciate against other currencies. Such softness is typically the result of political or fiscal instability within the associated country.
Many currencies are neither hard nor soft.
historically outlasting all forms of paper fiat money
and gold certificate
s.
Quantitative easing
, credit downgrades
, and other events of the late-2000s financial crisis
have generally eroded the security of most fiat money
, making it difficult to define any as a hard currency.
The paper currencies of some developed countries
have earned recognition as hard currencies at various times, including the United States dollar
, Euro
, Swiss franc
, British pound sterling
, Japanese yen
, and to a lesser extent, the Canadian dollar
and Australian dollar
. Times change, and a currency that is considered weak at one time may become stronger, or vice versa. However, countries that consistently run large trade surpluses, tend to have hard currencies, China's currency can be considered hard, though not convertible.
One barometer of hard currencies is how they are favored within the foreign-exchange reserves of countries. It should be noted that the presence of the US dollar in such reserves is due largely to the Bretton Woods System
. In addition to the chart below, see also Gold reserves.
Note from 2006–2011, far from the fears of US dollar demise or Euro rise, the trend has been moving away from the traditional hard currencies towards the "Other" category.
of 1971, and the United States' growing fiscal and trade deficits, most of the world's monetary systems have been tied to the US dollar due to the Bretton Woods System
and dollarization
. Countries have thus been compelled purchase dollars for their foreign exchange reserves
, denominate their commodities in dollars for foreign trade, or even use dollars domestically, thus buoying the currency's value. However the late-2000s financial crisis
saw the institution of quantitative easing
by the Federal Reserve
, downgrades of US debt by credit rating agencies
(during the debt-ceiling crisis
), countries diversifying their foreign exchange reserves
away from the dollar, the emergence of commodity markets trading in non-US currency (such as the Iranian oil bourse
), resumed appreciation of the yuan
by the People's Bank of China
, and the IMF
proposal of the SDR
as an alternative to the dollar in some applications. These events and others have eroded confidence in the US dollar.
The euro
(EUR) has also been considered a hard currency for much of its short history, however the European sovereign debt crisis has eroded that confidence, with many predicting the currency's demise.
The Swiss franc
(CHF) has long been considered a hard currency, and in fact was the last paper currency in the world to terminate its convertibility
to gold. In the summer of 2011, the European sovereign debt crisis lead to rapid flows out of the euro and into the franc by those seeking hard currency, causing the latter to appreciate rapidly. On September 6, 2011, the Swiss National Bank
announced that it would buy an "unlimited" number of euros to fix an exchange rate at 1.00 EUR = 1.20 CHF, to protect its trade. The franc fell precipitously against the euro to match this rate, and the price of gold in CHF rose 5% in a matter of minutes. This action has, at least temporarily, eliminated the franc's hard currency advantage over the euro.
In the midst of the ongoing financial crisis, countries with strong currencies are at risk of capital inflows causing appreciation. The potential impact of such appreciation on a nation's economy is historically unprecedented due to globalization
and free trade
. Thus the world's central banks are locked into a spiral of "competitive devaluation" in which the value of all fiat money
systems is being eroded. This process is reflected in the escalating price of gold — investors flock to gold and other precious metals as a store of value and hedge against inflation, which causes the price to increase rapidly, sometimes for several consecutive years and recently, at many times more than the rate of inflation
.
s are unrealistic. There may be regulatory reasons for preferring to invest outside one's home currency, e.g. the local currency may be subject to capital control
s which makes it difficult to spend it outside the host nation.
For example, during the Cold War
, the ruble
in the Soviet Union
was not a hard currency because it could not be easily spent outside the Soviet Union and because the exchange rates were fixed at artificially high levels for persons with hard currency, such as Western tourists. (The Soviet government also imposed severe limits on how many rubles could be exchanged by Soviet citizens for hard currencies.) After the fall of the Soviet Union in December 1991, the ruble depreciated rapidly, while the purchasing power
of the U.S. dollar was more stable, making it a harder currency than the ruble. A tourist could get 200 rubles per U.S. dollar in June 1992, and 500 rubles per USD in November 1992.
In some economies, especially planned economies or those using a soft currency, there are special stores that accept only hard currency. Examples have included Tuzex
stores in the former Czechoslovakia
, Intershop
s in East Germany or Friendship store
s in the People's Republic of China
in the early 1990s. These stores offer a wider variety of goods — many of which are scarce or imported — than standard stores.
or the Bosnia and Herzegovina convertible mark
. This may lead to problems if economic conditions force the government to break the currency peg (and either appreciate or depreciate sharply) as occurred in the Argentine economic crisis (1999–2002).
In some cases, an economy may choose to abandon local currency altogether and adopt a hard currency as legal tender
. Examples include the adoption of the US dollar in Ecuador
and El Salvador
, and the adoption of the German mark
and later the euro
in Kosovo
and Montenegro
.
s redeemable for gold in circulation than actual gold reserved, thereby devaluing the physical metal. Thus in times of financial distress, physical gold is preferred over chits redeemable at possibly troubled banks for gold. As economies improve, banks lending metal based currency then create more chits for gold, again devaluing the gold. Only the Bank of Amsterdam has historically operated with a reserve ratio of 1.
Even under a gold standard
with a sensible reserve ratio
, currency can be (further) devalued by chits redeemable for currency produced elsewhere in a race to the bottom, as foreign banks may choose to lend the currency (gold based or not) while operating with a lower level of reserves. Specifying a suitably low reserve ratio with bank regulation allows the banks under the jurisdiction of a regulator to garner a large portion of market share for lent money by offering an attractive mix of low interest rates and relative safety. 1/10 is a popular reserve ratio around the world that has largely supported the financial relevance of banks under national regulation.
Thus, because of fractional reserve banking, paper gold is not necessarily a hard currency during boom times.
Foreign exchange market
The foreign exchange market is a global, worldwide decentralized financial market for trading currencies. Financial centers around the world function as anchors of trading between a wide range of different types of buyers and sellers around the clock, with the exception of weekends...
currency
Currency
In economics, currency refers to a generally accepted medium of exchange. These are usually the coins and banknotes of a particular government, which comprise the physical aspects of a nation's money supply...
that is expected to serve as a reliable and stable store of value
Store of value
A recognized form of exchange can be a form of money or currency, a commodity like gold, or financial capital. To act as a store of value, these forms must be able to be saved and retrieved at a later time, and be predictably useful when retrieved....
. Factors contributing to a currency's hard status might include the long-term stability of its purchasing power, the associated country
Sovereign state
A sovereign state, or simply, state, is a state with a defined territory on which it exercises internal and external sovereignty, a permanent population, a government, and the capacity to enter into relations with other sovereign states. It is also normally understood to be a state which is neither...
's political and fiscal condition and outlook, and the policy posture of the issuing central bank
Central bank
A central bank, reserve bank, or monetary authority is a public institution that usually issues the currency, regulates the money supply, and controls the interest rates in a country. Central banks often also oversee the commercial banking system of their respective countries...
.
Conversely, a soft currency indicates a currency which is expected to fluctuate erratically or depreciate against other currencies. Such softness is typically the result of political or fiscal instability within the associated country.
Many currencies are neither hard nor soft.
In search of hard currencies
Varying theories of monetary policy, and the ever-present risk of unexpected geopolitical and policy events, preclude any claim of a currency's hardness from being called definitive. Precious metals have been the most resilient currencies, with physical goldGold as an investment
Of all the precious metals, gold is the most popular as an investment. Investors generally buy gold as a hedge or harbor against economic, political, or social fiat currency crises...
historically outlasting all forms of paper fiat money
Fiat money
Fiat money is money that has value only because of government regulation or law. The term derives from the Latin fiat, meaning "let it be done", as such money is established by government decree. Where fiat money is used as currency, the term fiat currency is used.Fiat money originated in 11th...
and gold certificate
Gold certificate
A gold certificate in general is a certificate of ownership that gold owners hold instead of storing the actual gold. It has both a historic meaning as a US paper currency and a current meaning as a way to invest in gold....
s.
Quantitative easing
Quantitative easing
Quantitative easing is an unconventional monetary policy used by central banks to stimulate the national economy when conventional monetary policy has become ineffective. A central bank buys financial assets to inject a pre-determined quantity of money into the economy...
, credit downgrades
Credit rating agency
A Credit rating agency is a company that assigns credit ratings for issuers of certain types of debt obligations as well as the debt instruments themselves...
, and other events of the late-2000s financial crisis
Late-2000s financial crisis
The late-2000s financial crisis is considered by many economists to be the worst financial crisis since the Great Depression of the 1930s...
have generally eroded the security of most fiat money
Fiat money
Fiat money is money that has value only because of government regulation or law. The term derives from the Latin fiat, meaning "let it be done", as such money is established by government decree. Where fiat money is used as currency, the term fiat currency is used.Fiat money originated in 11th...
, making it difficult to define any as a hard currency.
The paper currencies of some developed countries
Developed country
A developed country is a country that has a high level of development according to some criteria. Which criteria, and which countries are classified as being developed, is a contentious issue...
have earned recognition as hard currencies at various times, including the United States dollar
United States dollar
The United States dollar , also referred to as the American dollar, is the official currency of the United States of America. It is divided into 100 smaller units called cents or pennies....
, Euro
Euro
The euro is the official currency of the eurozone: 17 of the 27 member states of the European Union. It is also the currency used by the Institutions of the European Union. The eurozone consists of Austria, Belgium, Cyprus, Estonia, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg,...
, Swiss franc
Swiss franc
The franc is the currency and legal tender of Switzerland and Liechtenstein; it is also legal tender in the Italian exclave Campione d'Italia. Although not formally legal tender in the German exclave Büsingen , it is in wide daily use there...
, British pound sterling
Pound sterling
The pound sterling , commonly called the pound, is the official currency of the United Kingdom, its Crown Dependencies and the British Overseas Territories of South Georgia and the South Sandwich Islands, British Antarctic Territory and Tristan da Cunha. It is subdivided into 100 pence...
, Japanese yen
Japanese yen
The is the official currency of Japan. It is the third most traded currency in the foreign exchange market after the United States dollar and the euro. It is also widely used as a reserve currency after the U.S. dollar, the euro and the pound sterling...
, and to a lesser extent, the Canadian dollar
Canadian dollar
The Canadian dollar is the currency of Canada. As of 2007, the Canadian dollar is the 7th most traded currency in the world. It is abbreviated with the dollar sign $, or C$ to distinguish it from other dollar-denominated currencies...
and Australian dollar
Australian dollar
The Australian dollar is the currency of the Commonwealth of Australia, including Christmas Island, Cocos Islands, and Norfolk Island, as well as the independent Pacific Island states of Kiribati, Nauru and Tuvalu...
. Times change, and a currency that is considered weak at one time may become stronger, or vice versa. However, countries that consistently run large trade surpluses, tend to have hard currencies, China's currency can be considered hard, though not convertible.
One barometer of hard currencies is how they are favored within the foreign-exchange reserves of countries. It should be noted that the presence of the US dollar in such reserves is due largely to the Bretton Woods System
Bretton Woods system
The Bretton Woods system of monetary management established the rules for commercial and financial relations among the world's major industrial states in the mid 20th century...
. In addition to the chart below, see also Gold reserves.
Note from 2006–2011, far from the fears of US dollar demise or Euro rise, the trend has been moving away from the traditional hard currencies towards the "Other" category.
Turmoil in hard currencies
The US dollar (USD) has been considered a strong currency for much of its history. Despite the Nixon shockNixon Shock
The Nixon Shock was a series of economic measures taken by U.S. President Richard Nixon in 1971 including unilaterally cancelling the direct convertibility of the United States dollar to gold that essentially ended the existing Bretton Woods system of international financial exchange.-Background:By...
of 1971, and the United States' growing fiscal and trade deficits, most of the world's monetary systems have been tied to the US dollar due to the Bretton Woods System
Bretton Woods system
The Bretton Woods system of monetary management established the rules for commercial and financial relations among the world's major industrial states in the mid 20th century...
and dollarization
Dollarization
Dollarization occurs when the inhabitants of a country use foreign currency in parallel to or instead of the domestic currency. The term is not only applied to usage of the United States dollar, but generally to the use of any foreign currency as the national currency.The biggest economies to have...
. Countries have thus been compelled purchase dollars for their foreign exchange reserves
Foreign exchange reserves
Foreign-exchange reserves in a strict sense are 'only' the foreign currency deposits and bonds held by central banks and monetary authorities. However, the term in popular usage commonly includes foreign exchange and gold, Special Drawing Rights and International Monetary Fund reserve positions...
, denominate their commodities in dollars for foreign trade, or even use dollars domestically, thus buoying the currency's value. However the late-2000s financial crisis
Late-2000s financial crisis
The late-2000s financial crisis is considered by many economists to be the worst financial crisis since the Great Depression of the 1930s...
saw the institution of quantitative easing
Quantitative easing
Quantitative easing is an unconventional monetary policy used by central banks to stimulate the national economy when conventional monetary policy has become ineffective. A central bank buys financial assets to inject a pre-determined quantity of money into the economy...
by the Federal Reserve
Federal Reserve System
The Federal Reserve System is the central banking system of the United States. It was created on December 23, 1913 with the enactment of the Federal Reserve Act, largely in response to a series of financial panics, particularly a severe panic in 1907...
, downgrades of US debt by credit rating agencies
Credit rating agency
A Credit rating agency is a company that assigns credit ratings for issuers of certain types of debt obligations as well as the debt instruments themselves...
(during the debt-ceiling crisis
United States debt-ceiling crisis
The United States debt-ceiling crisis was a financial crisis in 2011 that started as a debate in the United States Congress about increasing the debt ceiling. The immediate crisis ended when a complex deal was reached that raised the debt ceiling and reduced future government spending...
), countries diversifying their foreign exchange reserves
Foreign exchange reserves
Foreign-exchange reserves in a strict sense are 'only' the foreign currency deposits and bonds held by central banks and monetary authorities. However, the term in popular usage commonly includes foreign exchange and gold, Special Drawing Rights and International Monetary Fund reserve positions...
away from the dollar, the emergence of commodity markets trading in non-US currency (such as the Iranian oil bourse
Iranian oil bourse
The Iranian Oil Bourse International Oil Bourse, Iran Petroleum Exchange Kish Exchange or Oil Bourse in Kish is a commodity exchange which opened on February 17, 2008. It was created by cooperation between Iranian ministries, the Iran Mercantile Exchange and other state and private institutions...
), resumed appreciation of the yuan
Chinese yuan
The yuan is the base unit of a number of modern Chinese currencies. The yuan is the primary unit of account of the Renminbi.A yuán is also known colloquially as a kuài . One yuán is divided into 10 jiǎo or colloquially máo...
by the People's Bank of China
People's Bank of China
The People's Bank of China is the central bank of the People's Republic of China with the power to control monetary policy and regulate financial institutions in mainland China...
, and the IMF
International Monetary Fund
The International Monetary Fund is an organization of 187 countries, working to foster global monetary cooperation, secure financial stability, facilitate international trade, promote high employment and sustainable economic growth, and reduce poverty around the world...
proposal of the SDR
Special Drawing Rights
Special Drawing Rights are supplementary foreign exchange reserve assets defined and maintained by the International Monetary Fund . Not a currency, SDRs instead represent a claim to currency held by IMF member countries for which they may be exchanged...
as an alternative to the dollar in some applications. These events and others have eroded confidence in the US dollar.
The euro
Euro
The euro is the official currency of the eurozone: 17 of the 27 member states of the European Union. It is also the currency used by the Institutions of the European Union. The eurozone consists of Austria, Belgium, Cyprus, Estonia, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg,...
(EUR) has also been considered a hard currency for much of its short history, however the European sovereign debt crisis has eroded that confidence, with many predicting the currency's demise.
The Swiss franc
Swiss franc
The franc is the currency and legal tender of Switzerland and Liechtenstein; it is also legal tender in the Italian exclave Campione d'Italia. Although not formally legal tender in the German exclave Büsingen , it is in wide daily use there...
(CHF) has long been considered a hard currency, and in fact was the last paper currency in the world to terminate its convertibility
Convertibility
Convertibility is the quality that allows money or other financial instruments to be converted into other liquid stores of value. Convertibility is an important factor in international trade, where instruments valued in different currencies must be exchanged....
to gold. In the summer of 2011, the European sovereign debt crisis lead to rapid flows out of the euro and into the franc by those seeking hard currency, causing the latter to appreciate rapidly. On September 6, 2011, the Swiss National Bank
Swiss National Bank
The Swiss National Bank is the central bank of Switzerland. It is responsible for Swiss monetary policy and for issuing Swiss franc banknotes.The names of the institution in the four official languages of the country are: ; ; ; ....
announced that it would buy an "unlimited" number of euros to fix an exchange rate at 1.00 EUR = 1.20 CHF, to protect its trade. The franc fell precipitously against the euro to match this rate, and the price of gold in CHF rose 5% in a matter of minutes. This action has, at least temporarily, eliminated the franc's hard currency advantage over the euro.
In the midst of the ongoing financial crisis, countries with strong currencies are at risk of capital inflows causing appreciation. The potential impact of such appreciation on a nation's economy is historically unprecedented due to globalization
Globalization
Globalization refers to the increasingly global relationships of culture, people and economic activity. Most often, it refers to economics: the global distribution of the production of goods and services, through reduction of barriers to international trade such as tariffs, export fees, and import...
and free trade
Free trade
Under a free trade policy, prices emerge from supply and demand, and are the sole determinant of resource allocation. 'Free' trade differs from other forms of trade policy where the allocation of goods and services among trading countries are determined by price strategies that may differ from...
. Thus the world's central banks are locked into a spiral of "competitive devaluation" in which the value of all fiat money
Fiat money
Fiat money is money that has value only because of government regulation or law. The term derives from the Latin fiat, meaning "let it be done", as such money is established by government decree. Where fiat money is used as currency, the term fiat currency is used.Fiat money originated in 11th...
systems is being eroded. This process is reflected in the escalating price of gold — investors flock to gold and other precious metals as a store of value and hedge against inflation, which causes the price to increase rapidly, sometimes for several consecutive years and recently, at many times more than the rate of inflation
Inflation
In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.When the general price level rises, each unit of currency buys fewer goods and services. Consequently, inflation also reflects an erosion in the purchasing power of money – a...
.
Demand
Investors as well as ordinary people generally prefer hard currencies to soft currencies at times of increased inflation (or more precisely increased inflation differentials between countries), at times of heightened political or military risk, or when they feel that one or more government-imposed exchange rateExchange rate
In finance, an exchange rate between two currencies is the rate at which one currency will be exchanged for another. It is also regarded as the value of one country’s currency in terms of another currency...
s are unrealistic. There may be regulatory reasons for preferring to invest outside one's home currency, e.g. the local currency may be subject to capital control
Capital control
Capital controls are measures such as transaction taxes and other limits or outright prohibitions, which a nation's government can use to regulate the flows into and out of the country's capital account....
s which makes it difficult to spend it outside the host nation.
For example, during the Cold War
Cold War
The Cold War was the continuing state from roughly 1946 to 1991 of political conflict, military tension, proxy wars, and economic competition between the Communist World—primarily the Soviet Union and its satellite states and allies—and the powers of the Western world, primarily the United States...
, the ruble
Soviet ruble
The Soviet ruble or rouble was the currency of the Soviet Union. One ruble is divided into 100 kopeks, ....
in the Soviet Union
Soviet Union
The Soviet Union , officially the Union of Soviet Socialist Republics , was a constitutionally socialist state that existed in Eurasia between 1922 and 1991....
was not a hard currency because it could not be easily spent outside the Soviet Union and because the exchange rates were fixed at artificially high levels for persons with hard currency, such as Western tourists. (The Soviet government also imposed severe limits on how many rubles could be exchanged by Soviet citizens for hard currencies.) After the fall of the Soviet Union in December 1991, the ruble depreciated rapidly, while the purchasing power
Purchasing power
Purchasing power is the number of goods/services that can be purchased with a unit of currency. For example, if you had taken one dollar to a store in the 1950s, you would have been able to buy a greater number of items than you would today, indicating that you would have had a greater purchasing...
of the U.S. dollar was more stable, making it a harder currency than the ruble. A tourist could get 200 rubles per U.S. dollar in June 1992, and 500 rubles per USD in November 1992.
In some economies, especially planned economies or those using a soft currency, there are special stores that accept only hard currency. Examples have included Tuzex
Tuzex
Tuzex, during the period of communist rule in Czechoslovakia, was a network of shops in which it was possible to use hard currency or Tuzex vouchers to purchase foreign, mainly western luxury goods, unavailable at regular stores. The Czechoslovak koruna was not accepted. The name Tuzex is a...
stores in the former Czechoslovakia
Czechoslovakia
Czechoslovakia or Czecho-Slovakia was a sovereign state in Central Europe which existed from October 1918, when it declared its independence from the Austro-Hungarian Empire, until 1992...
, Intershop
Intershop
Intershop was a chain of government-run retail stores in the German Democratic Republic in which only hard currencies could be used to purchase high-quality goods. The East German mark was not accepted as payment...
s in East Germany or Friendship store
Friendship store
A Friendship Store is a state-run store in People's Republic of China , which initially sold exclusively to tourists, foreigners, diplomats, and government officials but now has no restrictions on customers.-History:...
s in the People's Republic of China
People's Republic of China
China , officially the People's Republic of China , is the most populous country in the world, with over 1.3 billion citizens. Located in East Asia, the country covers approximately 9.6 million square kilometres...
in the early 1990s. These stores offer a wider variety of goods — many of which are scarce or imported — than standard stores.
Mixed currencies
Because hard currencies may be subject to legal restrictions, the desire for transactions in hard currency may lead to a black market. In some cases, a central bank may attempt to increase confidence in the local currency by pegging it against a hard currency, as is this case with the Hong Kong dollarHong Kong dollar
The Hong Kong dollar is the currency of the jurisdiction. It is the eighth most traded currency in the world. In English, it is normally abbreviated with the dollar sign $, or alternatively HK$ to distinguish it from other dollar-denominated currencies...
or the Bosnia and Herzegovina convertible mark
Bosnia and Herzegovina convertible mark
The Bosnia and Herzegovina convertible mark is the currency of Bosnia and Herzegovina. It is divided into 100 fenings...
. This may lead to problems if economic conditions force the government to break the currency peg (and either appreciate or depreciate sharply) as occurred in the Argentine economic crisis (1999–2002).
In some cases, an economy may choose to abandon local currency altogether and adopt a hard currency as legal tender
Legal tender
Legal tender is a medium of payment allowed by law or recognized by a legal system to be valid for meeting a financial obligation. Paper currency is a common form of legal tender in many countries....
. Examples include the adoption of the US dollar in Ecuador
Ecuador
Ecuador , officially the Republic of Ecuador is a representative democratic republic in South America, bordered by Colombia on the north, Peru on the east and south, and by the Pacific Ocean to the west. It is one of only two countries in South America, along with Chile, that do not have a border...
and El Salvador
El Salvador
El Salvador or simply Salvador is the smallest and the most densely populated country in Central America. The country's capital city and largest city is San Salvador; Santa Ana and San Miguel are also important cultural and commercial centers in the country and in all of Central America...
, and the adoption of the German mark
German mark
The Deutsche Mark |mark]], abbreviated "DM") was the official currency of West Germany and Germany until the adoption of the euro in 2002. It is commonly called the "Deutschmark" in English but not in German. Germans often say "Mark" or "D-Mark"...
and later the euro
Euro
The euro is the official currency of the eurozone: 17 of the 27 member states of the European Union. It is also the currency used by the Institutions of the European Union. The eurozone consists of Austria, Belgium, Cyprus, Estonia, Finland, France, Germany, Greece, Ireland, Italy, Luxembourg,...
in Kosovo
Kosovo
Kosovo is a region in southeastern Europe. Part of the Ottoman Empire for more than five centuries, later the Autonomous Province of Kosovo and Metohija within Serbia...
and Montenegro
Montenegro
Montenegro Montenegrin: Crna Gora Црна Гора , meaning "Black Mountain") is a country located in Southeastern Europe. It has a coast on the Adriatic Sea to the south-west and is bordered by Croatia to the west, Bosnia and Herzegovina to the northwest, Serbia to the northeast and Albania to the...
.
Paper gold
Fractional reserve banking causes there to be more chitVoucher
A voucher is a bond which is worth a certain monetary value and which may be spent only for specific reasons or on specific goods. Examples include housing, travel, and food vouchers...
s redeemable for gold in circulation than actual gold reserved, thereby devaluing the physical metal. Thus in times of financial distress, physical gold is preferred over chits redeemable at possibly troubled banks for gold. As economies improve, banks lending metal based currency then create more chits for gold, again devaluing the gold. Only the Bank of Amsterdam has historically operated with a reserve ratio of 1.
Even under a gold standard
Gold standard
The gold standard is a monetary system in which the standard economic unit of account is a fixed mass of gold. There are distinct kinds of gold standard...
with a sensible reserve ratio
Reserve requirement
The reserve requirement is a central bank regulation that sets the minimum reserves each commercial bank must hold of customer deposits and notes...
, currency can be (further) devalued by chits redeemable for currency produced elsewhere in a race to the bottom, as foreign banks may choose to lend the currency (gold based or not) while operating with a lower level of reserves. Specifying a suitably low reserve ratio with bank regulation allows the banks under the jurisdiction of a regulator to garner a large portion of market share for lent money by offering an attractive mix of low interest rates and relative safety. 1/10 is a popular reserve ratio around the world that has largely supported the financial relevance of banks under national regulation.
Thus, because of fractional reserve banking, paper gold is not necessarily a hard currency during boom times.
See also
- Currency strengthCurrency strengthCurrency strength expresses the value of currency. For economists, it is often calculated as purchasing power, while for financial traders, it can be described as an indicator, reflecting many factors related to the currency; for example, fundamental data, overall economic performance or interest...
- Fiat currency
- Central bankCentral bankA central bank, reserve bank, or monetary authority is a public institution that usually issues the currency, regulates the money supply, and controls the interest rates in a country. Central banks often also oversee the commercial banking system of their respective countries...
- Gold reserves
- Gold standardGold standardThe gold standard is a monetary system in which the standard economic unit of account is a fixed mass of gold. There are distinct kinds of gold standard...
- Silver standardSilver standardThe silver standard is a monetary system in which the standard economic unit of account is a fixed weight of silver. The silver specie standard was widespread from the fall of the Byzantine Empire until the 19th century...
- Reserve currencyReserve currencyA reserve currency, or anchor currency, is a currency that is held in significant quantities by many governments and institutions as part of their foreign exchange reserves...
- Commodity currencyCommodity currencyA commodity currency is a name given to currencies of countries which depend heavily on the export of certain raw materials for income. These countries are typically developing countries, eg...
- Private currencyPrivate currencyA private currency is a currency issued by a private organization. It is often contrasted with fiat currency issued by governments or central banks. In many countries, the issue of private paper currencies is severely restricted by law....
- Representative moneyRepresentative moneyThe term representative money has been used variously to mean:*a claim on a commodity, for example gold certificates or silver certificates. In this sense it may be called 'commodity-backed money'....