In a previous post we discussed the pros and cons of the two monetary standards: commodity and paper. Evidently developed economies have moved beyond the commodity (or metallic) standard for a good reason.

Bad Money Drives Good Money Out of Circulation

There is in an inherent problem for a bimetallic standard that can be described as ‘Gresham’s Law’. Here is an example why a bimetallic standard pushes a country to a monometallic standard.


Let’s assume a fictional country is on a bimatallic standard of gold and silver. There are two different ratios of the values: mint (government) and market. The table below provides some real numbers to examine.

Gold:Silver Official Prices

Mint Ratio 60:1

Market Ratio 50:1

Gold

$300/ounce

$250/ounce

Silver

$5/ounce

$5/ounce

Here’s the problem. The decline in the price of gold (for whatever fictional reason) makes it profitable to sell 1 ounce of gold for $300 to the mint, buy 60 ounces of silver and the exchange 50 ounces of silver for one ounce of gold in the market.

Results? Government has lots of gold and no silver. The overvalued money (gold in this case) has driven poor silver out of the official monetary system. The fictitious country is now on a monometallic standard.