Gold Is Money While Currencies Today Are “IOU Nothings”
by Mr. John Exter (ex-New York Fed Vice President)
Now that the international monetary system we have long known has broken down, and the world is groping through monetary reform for a new one, it is time to consider some fundamentals.
What is money anyway?
First, it is a means of payment or medium of
exchange. I prefer that first phrase. It is simpler. We
all use money to pay our bills, to buy goods and
services. We also accept money when we sell.
Second, it is a standard of value. We quote values of goods
and services in terms of it. The resulting ratios are
Third, it is a store of value. We hope to avoid
loss by holding it. Money holds its value if it is
scarce and remains scarce. Scarcity is the keystone of
“Today no money in the world fully performs all
three services. National currencies are being used as
means-of-payment and standard-of-value money, but
none in this inflationary age is an assured store-of-value
In fact, a foremost concern to voters and politicians
everywhere is that so many currencies are so rapidly losing
their value in terms of commodities and services.
Commodities like gold and silver, which are being used
as store-of-value money, are not being used as either
means-of-payment or standard-of-value money.
“Thus the world we have so long known, in
which most currencies were redeemable at a fixed
price in a store-of-value money like gold, is in
disarray. People are confused and wondering what
money they can trust.
Sensing the instability of the
system as a whole, they turn day by day from one
means-of-payment money to another in the foreign
exchange markets, and much more gradually to
store-of-value money like gold in the London and
Zurich gold markets.
“If we carefully look into the meaning of this market
churning, it becomes clear that store-of-value money, if it is
to endure, must be a commodity, and a scarce commodity,
too. Silver has long been a less satisfactory store-of-value
money than gold, principally because it has been, and
promises to continue to be, more abundant. Many of
the currencies used as means-of-payment and standardof-value
money have not proved good store-of-value
money chiefly because they, too, have grown too
abundant. Since they are simply either paper (currency
notes) or bookkeeping (deposits) promises to pay, i.e.,
debt obligations or IOUs, the confidence of people in
them as store-of-value money depends heavily upon the
ability of the central banks responsible for their
issuance to honor those promises to pay in a
commodity that is indeed store-of-value money. This is
the issue of convertibility, which the Europeans,
especially the French, are emphasizing today.
“Until March 1968, when the two-tier gold
system was established, the central banks issuing all
major currencies were promising all holders: ‘IOU gold at
$35 an ounce.” Under the two-tier system, however, the
IOU-gold promise was abrogated for private people, and,
except for the South African Reserve Bank, central banks
refused to sell any gold at any price to private
people. The IOU-gold-at-$35-an-ounce promise was
honored only among central banks and governments,
and even among them it became gradually more
tenuous. On August 15, 1971, the IOU-gold promise was
abrogated even among central banks.
Same Relative Rates
So today all currencies in the world are saying,
‘I do not owe anybody anything.’ Each one says, in
effect, ‘IOU nothing’ in the way of any commodity
that is a store-of-value money. In that situation an
attempt was made at the Smithsonian to re-establish
fixed exchange rates, which meant making one central
bank’s IOU nothing equal to a certain number of
another central bank’s IOU-nothings, with a 2¼%
spread on either side of parity. It is obvious that such
an arrangement could last only if the exchange rates
agreed on at the time were equilibrium rates, and if
in future all central banks agreed to control the issue
of their new IOU-nothings at the same relative rates.
The second condition was certainly not met and no
one can be sure the first one was.
“Although it was agreed to raise the price of store-ofvalue
money, gold, to $38 an ounce, no arrangement was
made for a central bank that went into deficit because it
issued too many IOU-nothings to pay a surplus central bank
in gold at that fixed price. Meanwhile, the gold owned by
central banks remains for the most part buried inactive in
their vaults. Gresham’s Law has worked. Bad money has
driven good out of circulation, even among central banks.
All currencies are inconvertible into gold. We are in a world
of irredeemable paper money.
“Further conclusions follow from this analysis. Good
store-of-value money is clearly the strongest kind of
money. IOU-nothing money, which people may continue
to hold as a store of value for a long time, but only with
the enticement of ever higher rates of interest, may
continue, also for a long time, to serve as a means of
payment and standard of value. But as it becomes more
abundant, it will serve these functions less and less
satisfactorily—if too abundant, not at all. It would then
also cease being held as a store of value, ‘not worth a
Continental.’ History is full of examples of IOU-nothing
currencies that have disappeared. Some currencies will, of
course, become over-abundant faster than others. Over
time it is scarce store-of-value money like gold that
“If enduring store-of-value money must be a
commodity, it follows that governments and central banks
cannot create it, unless they were to go, let us say, into
the gold mining business. It follows also that if they
persist in creating IOU-nothing money, they will slowly
but surely run themselves out of the money-making
business altogether and have to start over again.
“So it is also apparent, and at the same time reassuring,
that it is private people in the marketplace, not governments,
who decide what money is, and what different kinds
of money they are going to use and hold, especially the
enduring store-of-value money, the most important of all.
Governments will always try to shore up IOU-nothing
money with laws making it legal tender, or even laws prohibiting
the holding of store-of-value money like gold, but
such laws cannot for very long add value to something that
is losing value in the marketplace. Gresham’s Law, which is
really a special form of the law of supply and demand, will
override man-made laws. In fact, there would be no
Gresham’s Law if governments did not persistently try by
man-made laws to over-value their IOU-nothing money in
terms of store-of-value money. Thus laws prohibiting
people from holding store-of-value money like gold cannot
succeed, for gold as a commodity can be held in countless
forms and readily converted from one form to another.
People will hold jewelry, or old coins, or what have you.
And people whose governments permit them to hold gold
will do so in any form.
‘ It should also be apparent that monetary
theorists cannot arbitrarily decide what money is.
Theories that are based on an arbitrary definition of
the stock of money, particularly IOU·nothing money, will
slowly lose their relevance. Such theories try to over-value
IOU-nothing money just as governments do, and in the
marketplace Gresham’s Law will override man-made
theories just as it overrides man-made laws.
“So it also follows that governments cannot reduce
the importance of a store-of-value money like gold in the
monetary system, much less demonetize it. A monetary
authority monetizes anything by buying it and taking it
into its balance sheet as an asset and paying for it by
creating or issuing monetary liabilities (now IOU-nothings)
which are accepted by the seller. It demonetizes anything
by selling it from its assets and extinguishing an
equivalent amount of its liabilities tendered to it by the
“To demonetize gold, the central banks of the world
would have to sell all of their holdings in the open market.
If they were to try, the exercise would be very deflationary,
for they would be extinguishing their monetary liabilities
with every sale. To avoid the risk of deflation in today’s
monetary world, they would simultaneously have to monetize
IOU-nothings like government securities by creating
new IOU-nothings of their own more rapidly then they
extinguished the old by demonetizing gold.
“Such an exercise would obviously be inflationary and
central bank IOU-nothings would steadily lose value in the
marketplace. Under Gresham’s Law the bad IOU-nothing
money would drive the good gold store-of-value money out
of circulation. But if the central banks persisted, and there
would be precious few restraints to stop them, their IOUnothings
would slowly lose value and, under runaway conditions,
all value in the marketplace. Thus over time the
marketplace would frustrate central banks if they tried all
together to demonetize gold. It would demonetize their
IOU-nothing money instead. So they are not likely to try.
“It is not even likely that one central bank would try.
Others would welcome the opportunity to monetize the
gold that it sold, and at the same time to demonetize some
of their IOU-nothings.
‘In recent years there has been an attempt to substitute
so-called paper gold, or special drawing rights (SDRs),
in the International Monetary Fund for real gold. One high
IMF official is even reported to have called gold ‘metallic
SDRs.’ If used seriously, such an appellation flies in the
face of marketplace assessment of store-of-value money.
The SDR has no obligor, no promise to pay any store of value
money at a fixed price, and no fixed maturity date
(other than a complicated reconstitution provision).
It cannot be sold at will, only by central banks in deficit and only
to central banks strong enough to be designated by the IMF
to receive them.
“So it is a ‘Who owes you nothing?’, and ‘When?’, and
it does not even pay a market rate of interest, only l½%. If
central banks ever monetize them in significant amounts,
they will have moved from days when they issued their
IOUs principally to buy enduring store-of-value money like
gold, to these days when they issue their IOU-nothings
principally to buy government IOU-nothings, to days
when they would issue their IOU-nothings to buy
“In days to come, international monetary
reformers will have to consider whether these new
kinds of money will produce a stable monetary
world. In the world’s marketplaces will they hold
their value against goods and services in general?
More particularly, will those issued by different
central banks hold their value against one another?
Most particularly, will any of them hold their value
against store-of-value money like gold?’
*This article, by Mr. John Exter ( ex-New York Fed Vice
President), was first published in the May 22, 1972
issue of Barron’s. It was reprinted by the American
Institute for Economic Research (AIER) courtesy
of Barron’s National Business and Financial Weekly.
We have published it with permission and courtesy of the
AIER who we thank kindly. We think Exter’s view regarding
fiat currencies, the modern monetary system and the importance
of gold will be seen as prophetic in the coming years.
“Those who do not learn history are doomed to repeat it”
– George Santayana
“History repeats itself, first as tragedy, second as farce”
– Karl Marx
“History doesn’t repeat itself but it often rhymes”
– Mark Twain
Exter’s article can be accessed on the AIER website here
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