Gold has played an important role in the financial and economic system for centuries. While it initially served as a means of payment, the role of the precious metal increasingly changed over the course of history to become a crisis currency and a store of wealth in uncertain times. How did this come about, and how did this precious metal actually manage to prevail as the safe haven for saved assets over the decades?
Gold and its beginnings as means of payment
The history of gold as a currency and means of payment dates back to the 3rd century BC. The precious metal was already bartered for goods in Ancient Egypt. Later, other peoples and civilisations such as the Romans, the Greeks, and the Chinese used gold coins as a means of payment. By the Middle Ages, silver and gold coins had developed into the lead currency and the main means of payment.
Gold flood causes inflation
The important role of gold for our payment system first became apparent in the 14th and 15th century, respectively. The mines were suffering from an increasing labour shortage due to the decline in population, which also led to a sharp drop in coin production. The demand for a means of payment began to exceed the supply of coins. Gold coins were scarce and therefore valuable, which is why they were being hoarded. The gold coins in circulation gained more and more in value, and deflation set in.
It was probably not until the discovery of America that the permanent deflation came to an end. The precious metal was brought to Europe in large quantities from the mines of South America, which led to a flood of new gold coins and fuelled inflation.
From the gold standard to Bretton-Woods
The introduction of the gold standard was a first milestone in the recent history of gold. The standard had become established worldwide by the year 1870. In most countries, the currency was thus backed by a physical gold reserve. Gold coins and banknotes could be exchanged for gold at the central bank without limit. During the Great Depression in the late 1920s, however, the gold standard made it difficult to take targeted measures to revive the economy and combat the crisis. In the 1930s, more and more countries abandoned the gold standard in order to be able to expand the money supply.
After the end of World War II, the precious metal again played an important role in the international payment system. With the introduction of the Bretton Woods system in 1944, the US dollar was used as a reserve currency for international transactions and was backed by gold at the rate of 35 USD per ounce. The other currencies, in turn, were pegged at a fixed exchange rate to the US dollar.
In the 1960s, however, inflation rose in the USA, which caused the gold price to increase. At the same time, more and more countries wanted to exchange their US dollar foreign exchange reserves for gold, which led to a decline in US gold reserves. In 1971, the Bretton Woods system was abandoned under President Richard Nixon because the USA could no longer maintain the gold standard. Since then, gold has been freely tradable again, and its price is set by supply and demand.
Store of value and crisis currency
The chart of the gold price since 1970 substantiates the reputation of gold as a long-term store of value. An investment in the yellow precious metal has brought an average annual return of 7.7% since 1970.
Note: Past performance is not a reliable indicator for future performance.
Since the end of the Bretton Woods system, it is mainly geopolitical crises and economically uncertain times that drive the development of the gold price. Many investors use gold to hedge their portfolio because it usually retains or even increases its value in times of crisis, as a look at the past confirms:
- In the early 1980s, the second oil price shock triggered a sharp increase in inflation, which also caused the price of gold to quickly climb to new all-time highs.
- In 2008, the global financial crisis spread from the USA to the rest of the world. The uncertainty drove investors into the safe haven of gold and pushed the price of the precious metal above USD 1,000 for the first time.
- At the beginning of the 2010s, the government debt crisis in Europe and the loose monetary policy by the US Federal Reserve caused further record highs in the price of gold.
- In 2020, the Corona pandemic broke out and increasingly pulled investors into gold as a safe haven. The subsequent easing of central bank policy proved to be an additional driver for the precious metal.
From its beginnings as a means of payment to the gold standard and to a store of value in times of crisis: gold comes with a long history and has retained its firm place in daily market activity to this day. Over the past decades, the precious metal has largely fulfilled its role as a long-term store of value. In turbulent times, investors will therefore probably continue to move into gold as a safe haven.
For a glossary of technical terms, please visit this link: Fund Glossary | Erste Asset Management
Prognoses are no reliable indicator for future performance.