I’m studying US history with my daughter, and there’s a section which discusses “soft money” backed by silver and “hard money” backed by gold. The book seems to presume that the reader understands how one or the other is preferred by either farmers (borrowers) or bankers (lenders.) Their presumption is incorrect, as I certainly do not understand it! If the paper money represents the value of a certain numeric quantity of a precious metal, then what difference does it make what kind of metal it is?
So, could one of you fine scholars out there explain it like I’m five and not approximately ten times older than that? Thanks in advance!
In: Economics
Under the Classical Gold Standard (1870s – 1910s), paper money in most rich economies was backed by gold. That’s “hard money.” The trick with hard money is that it has the ability to enter and leave a system fairly easily, and you don’t have a lot of tools to control it. That system can be an economy, or a sector, or a business. Either way, on its way out, hard money induces deflation: prices fall as everyone has less money to throw at their purchases. Conversely, it forces inflation on the way in: everyone has more money with which to buy the same things. Central banks were created to help regulate this flow, interfering in the market for bank loans to help control interest rates and either release more money into the system or suck it out of the system as needed. The USA at this time had no central bank, and was thus at the mercy of the Bank of England, plus the natural inflows and outflows of gold due to imports and exports of goods and capital investments.
This was a problem for farmers. Deflation is bad for almost everyone: as prices fall, employment declines. This is why one of the killing blows dealt to the Classical Gold Standard was the expansion of the voting franchise to include most working people. Before then, unemployment was not a valid concern for economic and monetary authorities. But deflation is also particularly bad for debtors, as it steadily increases the real resource value of their loan principal. Instead of selling 400 bushels of corn per year to pay off your debt, you now need to sell 600, because corn prices have declined with the falling quantity of money. Inflation is the opposite: the value of the loan principal falls in relation to resources (real value). So now you need to sell 300 bushels of corn per year to pay off your loan, because the increased quantity of money has allowed you to raise corn prices. Farmers are natural debtors: they make all their money at once, so they tend to rely on loans to operate in the lead-up to selling off their crops. They also take out long mortgages on their land.
So what does this all have to do with silver? An alliance of Western silver miners, who needed customers to prop up the price of their product, and farmers with their debts, petitioned the government relentlessly to add money to the system with large purchases of silver. This would induce inflation, and provide some relief for farmers buffeted by international gold flows caused by the business cycle and the activities of the Bank of England. It was “soft” money because they were deliberately trying to dilute the metallic backing of the paper money.
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