MONETARY STANDARD
Meaning of Monetary Standard
Monetary standard means the type of standard money used
in a country. It is sometimes referred to as the monetary
system.
The system under which money is issued and its value
and quantity are controlled in a country is called monetary
system.
If gold is used as the standard monetary standard unit, the
country can be said to be on the gold standard. Similarly,
if the country chooses silver as the standard monetary
unit, the country can be said to be on the silver standard.
Essentials for a Good Monetary Standard
The monetary standard must enjoy the confidence of the people.
A good monetary standard must see that the money is neither under-
issued or over-issued.
The system of monetary management should be simple to
understand for the people.
The monetary system should be certain and definite.
The monetary system must be economical.
A good monetary system should have elasticity.
A good monetary standard should have the virtue of convertibility.
It must achieve stability in the value of money , both internal and
external.
Gold Standard
The gold standard refers to that monetary system
where the legal tender money is either made of
gold or is convertible into gold at fixed rate.
In fact, under the gold standard, all kind of money
are ultimately convertible into full-bodied gold
money and the full-bodied gold money is itself
freely convertible into ordinary gold.
Different Types of Gold Standard
i. Gold Currency Standard:
Monetary unit is defined in terms of gold
Other forms of money (e.g. token coins and paper money)
are also in circulation. But they are convertible into gold.
ii. Gold Bullion Standard:
Gold coins are not in circulation.
But the standard currency unit is expressed in terms of a
definite quantity of gold of a given fineness.
Thus, gold does not act as a medium of exchange, but it
remains a measure of value.
Different Types of Gold Standard
iii. Gold Exchange Standard:
The domestic currency is made of token coins and paper money. Gold coins are
not in circulation.
The domestic currency is not convertible into gold but is convertible at the fixed
rate into the currency of the other country based on the gold standard.
Gold is used neither as a medium of exchange nor as a measure of value. But
prices of all goods and services are indirectly determined by the price of gold.
iv. . Gold Reserve Standard:
Under this standard, the participating countries have to setup Exchange
Equalization Fund for the purpose of maintaining stability in exchange rates.
The Fund comprises, besides local currency, foreign exchange and gold.
If the demand for foreign currency rises, the Fund will increase the supply of
that foreign currency in the open market and thus will prevent any rise in the
value of that currency in terms of other currencies.
Different Types of Gold Standard
v. Gold Parity Standard:
It is the modern version of the gold standard.
It came into force with the establishment of the
International Monetary Fund (IMF) in 1946.
Under this standard, every member country has to
define the par value of its currency in terms of gold in
order to determine the exchange rate.
The exchange value of a country is determined on the
basis of gold value of the monetary unit so declared.
Paper Standard
Under the paper currency standard, currency notes (paper notes) and
token coins constitute the legal tender money.
There are basically four different Types of paper money, which is
using in all over the world:
1. Representative money: It has hundred percent metallic reserves
behind it.
2. Convertible paper money: The government cannot maintain
hundred percent reserves for issuing money but it is convertible into
gold, silver of full-bodies coins.
3. Inconvertible paper money: The gold or silver reserves are not kept
by the monetary authority. The money is issued on the written
promise of the government.
4. Fiat money: The fiat money is that money which has face value
more than its real value. It is accepted by the people on the order of
government. The paper money is fiat money.
Merits of Paper Standard
i. Paper money is very convenient because a large amount
of paper money can be carried conveniently to different
places.
ii. It is very economical because practically its cost of
production is very low.
iii. By paper regulating, the issue of paper money can be
kept stable.
iv. Paper money is very elastic in supply. Its supply can be
increased or decreased without any difficulty.
v. Paper notes can be transported very cheaply from one
place to another.
vi. Paper currency is completely nationalistic in character.
It remains free from the influences of the ups and downs
of international trade.
Demerits of Paper Standard
i. Paper currency standard is prone to be inflationary
because it has bias in favor of over-issue of money.
ii. It is very mismanaged, particularly by the politicians.
iii. Paper currency is useless in foreign countries.
iv. Paper notes destroy easily by fire, floods and so on.
v. The paper standard does not atomically work. It has to
be properly managed.
vi. Paper currency standard may lead to instability in the
exchange rate when there is a large fluctuation in
internal and external prices.
Methods of Note Issue
Method # 1. Simple Deposit System:
Under this system, the monetary authority is required to keep 100%
of the bullion (gold or silver) for every note issued. That is why it is
also known as the Full Reserve System.
Thus this system is highly impracticable in modern times.
Method # 2. Fixed Fiduciary System:
Under this system, a fixed amount of notes is issued by the central
bank against reserves of government securities. Such amount is
issued on the faith or fiduciary of the central bank and is called the
fiduciary limit.
The central bank is required to keep 100% gold reserves beyond the
fiduciary limit. The fiduciary limit is raised from time to time with
the expansion of trade and industry.
Methods of Note Issue
Method # 3. Maximum Fiduciary System:
Under this system, there is a maximum limit up to which the
central bank is authorized to issue notes without any gold
reserves. But there has to be full backing of gold reserves
beyond this limit.
The central bank is, however, authorized to raise or lower the
maximum fiduciary limit and to fix the quantity of gold
reserves.
Method # 4. Proportional Reserve System:
In this system, a certain percentage of the total notes issued by
the central bank has to be in gold reserves and the remaining
in the form of government securities.
This percentage varied between 25 to 40 per cent in countries
like Switzerland, Holland, Belgium, USA and India.
The money supply can be changed with changes in the
percentage of gold reserves.
Methods of Note Issue
Method # 5. Minimum Reserve System:
Under the minimum reserve system, the central bank is
authorized to issue notes up to any extent but it must keep a
statutory minimum reserve of gold and foreign securities.
This system is highly useful for developing countries because
they can meet their financial requirements by printing more
notes. They can also reduce the money supply to check inflation.
It is, therefore, an elastic system.
Further, it is very economical because only a small and fixed
amount of gold is required to be kept in reserve.
