Gold and System Collapse: Charting the Bank Run of the Mighty US Dollar

The US dollar banking system is in the midst of a bank run by the measures that I will illustrate here.

Since the 1879 gold standard was established in America, the US dollar could be directly redeemed for gold within the banking system. This continued even after the Federal Reserve was created and until it was ended for citizens in 1933.

In such a system, the measure of actual gold held by the banking system ( the true monetary base) versus the gold certificates (paper dollars but measured as the monetary base) with which gold could be redeemed is a relevant measure of how well the banking system is capitalised.

If the gold certificates (paper dollars) issued are way more than the actual gold (true monetary base) in the banking system, then the system is under capitalised, which means the risk of default is increased.

In such a case, there would be a push to redeem certificates (paper dollars) for gold at the banks. Although this option was out for citizens after 1933, they could still redeem their gold certificates (US dollars) for other physical assets like silver, land, or anything else. So, the option to opt out due to the currency being disproportionately debased was always there.

The level of gold capitalisation in the US dollar banking system, among other things, was a key reason why the US dollar became the world reserve currency. When the Bretton Woods agreement was made, the gold backing was 78.8% (still fairly respectable considering historical levels prior to the 1933 executive order).

In other words, when the Bretton Woods agreement was made, the official monetary base, or US dollars issued, was $26.927 billion (equivalent to about 769 million ounces of gold). The US monetary gold (true monetary base) at that time was 606 million ounces of gold (valued at $21.21 billion). So, every dollar was 78.8% backed by actual gold held by the Federal Reserve banking system.

The US was in a dominant position due to a well-capitalized banking system (relatively speaking), having the biggest gold stash, and being a key player in the war and its conclusion. This (the level of gold capitalisation) is a part of the “DNA” of the US dollar and is even relevant after Nixon ended the direct convertibility to gold in 1971.

When the US dollar becomes too debased, or cannot be trusted due to war or the risk of theft (think Russia), then nations could naturally go to an asset like gold (which they are already doing) as a reserve asset instead. While the dollar still has value it can be redeemed for gold to avoid the risk that debasement of the currency presents, which means that the situation is virtually the same now as before 1971, when gold could still be directly redeemed.

Below is a long-term chart (macrotrends.net) of gold relative to the US monetary base:

In January 1934, gold was revalued (but in reality, it was the US dollar that was devalued to adjust to the market price of gold) from $20 to $35 per ounce. This revaluation caused the gold backing of the gold certificates (paper dollars but measured as the monetary base) to hit above 98% and later even go higher.

So, when the Federal Reserve banking system was virtually fully capitalised (above 98%), this chart shows that gold’s price relative to the monetary base or paper dollars measured as the monetary base peaked at the time.

That strong position was used to greatly increase credit by issuing much more paper dollars relative to  the price of gold over the next 36.583 years. In other words, it was the typical fractional reserve banking trick, where the banker or goldsmith would issue more dollars or gold certificates than the gold on hand.

This trend of increasing the gold certificates relative to the price of gold continued until August 1970, when further increases of the gold certificates or dollars could not be made without causing the gold price to go up even more than the increased dollars or gold certificates.

In other words, the market has caught up with the debasement, and demand for gold has increased to counter the effects of the debasement. Soon afterwards, Nixon was forced to end the dollar’s direct convertibility since it was so significantly underfunded with gold.

Over the next nine years, the market devalued the US dollar until its gold backing of gold certificates (better known as paper dollars) again hit the 100 percent level, and even higher around January 1980.

Again, this chart shows that when the Federal Banking System was fully capitalised (above 100%), gold’s price relative to the monetary base or paper dollars measured as the monetary base peaked.

So, once the US dollar banking system was again fully capitalised by gold (thanks to the much higher prices), they could go for another round of greatly increasing credit. The interesting thing here is the fact that they could again increase gold certificates or dollars for around 36 years without causing the gold price to go up even more than the increased dollars or gold certificates.

By November 2015, the market had again caught up with the debasement, and demand for gold had increased to counter the effects of the debasement. Since then, the gold price has moved up faster than the monetary base, despite all the massive stimulus amounts since (including those for 2020).

The critical parts of this run to physical gold are yet to come.

Part 2 an 3 are on my premium blog and deals with the timing of the gold/bank run and how it could relate to the run of the 1970s.

Get more of this kind of analysis at my premium gold and silver blog or my Silver Long-term Fractal Analysis Report.

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