Money

Whatever the precise arrangement may be, the general effect is that the central bank is the source of supply of money for the community, and at the same time undertakes to convert gold into money and money into gold. The creation of credit by the com petitive banks depends upon their supply of money, and the central bank is therefore in a position to dictate credit policy. Its note issue is backed partly by gold and partly by bills, ad vances and other securities. It can at any time increase or decrease the note issue by increasing or decreasing its holding of these securities. The competitive banks, when they run short of money, borrow from the central bank, thereby increasing its holding of securities and its note issue ; and the terms on which the com petitive banks lend to traders throughout the community tend to conform (or can be made to conform) to the terms on which the central bank lends to them. The extent to which an inflow or outflow of gold affects the credit position, and through it the consumers' outlay and the price level, depends upon the response of the central bank. If the central bank so reduces or increases its lending that the change in the amount of gold held is offset by an equal and opposite change in its securities, its total assets and its note issue remain unchanged, and the effect of the gold move ment is counteracted. If the relation of the note issue to the gold reserve is prescribed by law, and the central bank treats the re lation so prescribed as the guiding principle of its credit policy, then the inflow or outflow of gold will regularly take effect in an expansion or contraction of credit. Where a number of coun tries have a common metallic standard, the effect is that the currency of each is regulated by reference to the foreign ex changes. As soon as the rate of exchange between any two of them is allowed to vary so far as to reach one of the gold points, gold begins to flow. To observe a gold standard means in effect to keep the foreign exchange rates fixed.

Bimetallism.—Under modern conditions gold is the accepted standard ; silver persists only in China, Persia and Abyssinia. In the middle ages silver was the principal standard, but gold was widely used as a merchants' medium. Sometimes two separate moneys of account co-existed, one tied to gold and the other to silver. Sometimes there were even more than two, their market values in terms of one another, of gold and silver, and of various coins being governed by very complex and obscure causes. This state of confusion even now appears in parts of the East. But in Europe economic development gradually brought monetary order. Gold and silver had their respective coinage prices and melting points in terms of one accepted money of account. But infinite trouble was caused because the prices so fixed in different countries were not consistent with one another or with the market values of gold and silver. Each metal flowed out of the countries where it was valued lowest and into those where it was valued highest. The process was really an application of Gresham's law. The mediaeval confusion was one of the consequences of imperfect coinage. By the end of the 18th century matters had improved, and the market value of gold in terms of silver had become a com paratively stable and ascertainable ratio. Now, in the market for

the precious metals the demand for use as money has always overshadowed the industrial demand. If all countries, or even if several of the wealthiest countries established bimetallism, i.e. the free coinage of both gold and silver, and based their coinage sys tems on the same ratio of gold to silver, that ratio would govern the market prices of the precious metals all over the world. This actually occurred in the 19th century. See BIMETALLISM.

Nowadays a metallic standard has come practically to mean a gold standard. To any one country a gold standard means stable rates of exchange in the others. Three different methods of se curing this end may be distinguished. That based on the free coinage of gold may be called a gold specie standard. That based on the convertibility of paper money into bullion is called a gold bullion standard. The third is what is known as a gold exchange standard.

Gold Exchange Standard.

The principle of the gold ex change standard is convertibility of the currency not into gold but into foreign currencies. The central bank or currency authority holds a reserve in the form of bills of exchange or other pecuniary rights in foreign centres, and instead of offering to buy and sell gold at fixed prices, offers to buy and sell foreign currencies. The currency of the country (which may be either paper money or token coins), instead of being convertible into gold, is convertible into foreign currencies which are equivalent to gold. The gold exchange standard presupposes the existence somewhere of a gold bullion standard or a gold specie standard. It can be combined with these other standards in the same country. A central bank may undertake to sell gold at the coinage price, and may yet in practice forestall demands for gold by selling foreign exchange. In general people demand gold for the purpose of acquiring foreign exchange by selling the gold abroad, and if they are offered the foreign money they need they do not ask for the gold. A country which adopts the gold exchange standard gains the advantage of holding interest-bearing assets in place of idle gold. And from the standpoint of the world in general the system has the advantage of economising gold. It pushes one step further the advantage which the use of paper money brings in this respect, without the dangers of inconvertible paper money.

But the economy of gold itself has dangers. Since the demand for gold for monetary purposes dominates the bullion market, a general diminution of that demand would result in a fall in the wealth value of gold, in other words a rise in the price level in terms of all gold currencies. The probable extent of such a fall in wealth value is illustrated firstly by the fall in the value of silver relative to gold after the abandonment nearly everywhere of the free coinage of silver, and secondly by the rise in the price level which accompanied the extensive displacement of gold by paper money during and of ter the World War. In the former case the price of silver in London fell from 6od. a standard ounce in 1872 to 22d. in 1903 (i.e., the ratio rose, from 151 to I, to 43 to I). In the latter the price level in the United States (which retained the gold standard) rose from i oo in 1913 to 247 in May 192o.