Buy Gold: Is the U.S. Dollar backed by gold?

Gold Investment - 28 November 2011

Is the U.S. Dollar backed by gold? This is a question that many investors might be asking, especially considering that the U.S. Dollar has been the de facto world reserve currency for some time now, although the strong demand for precious metals such as gold and silver are starting to tell a different story altogether.

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The answer to the above-mentioned question is twofold, because the risk of deception is great if one doesn’t consider it twofold. Thus, if you’re asking if the U.S. Dollar is backed by gold, in the sense that you would like to know if its redeemable in gold (or silver for that matter), the answer is “No”. It is after all no secret that the U.S. has dropped the gold standard in 1971 and switched to fiat money (non-redeemable paper notes, fiat paper money, the Devil’s money, electronic money, toilet paper money, fiat currencies) in the true sense of the word. Fiat money is faith or debt-based, while good or honest money has intrinsic value, but maybe more importantly, fiat money is nothing short of a debt instrument and not redeemable in gold (or silver!). Fiat money only has value while more and more debt (fiat money) gets created out of the proverbial thin air, but as history as proven, one can only create debt to a certain level before the underlying fiat currencies get completely destroyed. Thus, the U.S. Dollar is not redeemable in gold (or silver). It has been in the past, but it is not redeemable in gold (or silver) today. Now that was the first part of the twofold answer in case you’ve missed it. Ok, knowing that the U.S. Dollar is not redeemable in gold (or silver), is the U.S. Dollar still backed by gold in the sense that there could still be a return to the gold standard if and when needed? Well, assuming that all the gold is still in Fort Knox or the United States Bullion Depository to be exact, it is estimated that only about 5% of the U.S. Dollar’s current value is backed by gold. In other words, it is relatively safe to assume that the U.S. Dollar only has about 5% of its original value left at this stage (see the graph below).

Thus, theoretically the option to return to a gold standard is there, although it will come at a very high cost: “To bring the gold backing of the monetary base to 25% would require a gold price of $2382/oz, and for 50% gold backing would require a price of $4763/oz, which would still be less than the peak seen at the mid point for the last secular bull market in gold in which by mid 1970s government gold holdings represented 58% of the monetary base. For 100% gold backing of the monetary base we would need to see gold rally to nearly $10,000/oz” (US Monetary Base Backed By Gold, BMG Bullion Market Insight).

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