How would a gold standard work in the 21st Century?

Utah’s proposal presents an interesting wrinkle on the gold standard by allowing an official alternate form of legal tender to co-exist with the dollar. Would such a proposal be feasible? Perhaps.

The recent news that Utah representatives have passed a bill that could usher in a gold standard, got me wondering what it might be like to have a gold standard that co-exists alongside the U.S. dollar.

Traditionally, the gold standard worked by fixing the value of the dollar to a set amount of gold. Consumers bearing dollars could visit a local bank and exchange their dollars for bullion at an exchange rate determined by the government.

The problem, of course, was that by fixing the value of the dollar to a specific commodity, the government no longer had the means to artificially increase the monetary supply. If authorities wanted more dollars in circulation, they’d have to increase gold holdings in order to back those dollars.

Utah’s proposal presents an interesting wrinkle on the gold standard, though, by allowing an official alternate form of legal tender to co-exist with the dollar. Businesses and consumers could exchange dollars OR Federally-issued gold and silver coins during financial transactions.

[Related: Utah gold standard could become a reality]

Would such a proposal be feasible? Perhaps. To illustrate, let’s imagine a world where your bank or financial institution offered you a special, gold-backed savings account. By transferring dollars from your checking account into your gold-backed savings account, you’d effectively be “buying” and holding gold. Rather than being denominated in dollars, cash in your savings account would be denominated in XAU (the currency symbol for gold).

For its part, the bank would allocate physical gold holdings to your account whenever you transferred cash into your gold account. The bank would store this gold in a vault and, presumably, charge you a fee for the service. Under such a scenario, if the price of gold rises relative to the dollar, your savings would rise, too.

Ideally, your bank would also allow you to make purchases directly from your gold-backed savings account. You’d swipe your debit card as you always do, the gold in your account would be exchanged for dollars at prevailing rates and your purchase would be processed in dollars.

[Related: China gold reserves too small, adviser says]

The beauty of such a scheme is the value of gold to dollars wouldn’t be set by the government as it was in the past, but rather, it would be electronically determined by the current market price for gold.

Sounds like a win-win for everyone. There are dangers in such a plan, though. If the public started to show a preference for holding gold over dollars, the value of the dollar would plummet and the price of gold would rise dramatically. Banks would have difficulty backing your savings with physical gold and investor confidence in the dollar might crumble – not just here but around the world.

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The biggest threat to any currency, of course, is a loss of faith in that currency. We’ve seen that happen in South America during the ’70s and ’80s, Germany after World War II, even during the dying days of the Roman Empire. If consumers were to lose faith in the dollar, they’d be eager to spend their dollars for whatever material goods they could get their hands on and prices would begin to rise quickly.

Utah’s plan to create an alternate legal tender might accelerate a rush out of the dollar. But it seems to me that process has already started. Perhaps what we’re seeing play out is simply a symptom of a bigger problem: the U.S. debt burden has become too large. No matter how much Americans might like to return to our post-war lifestyles, the balance of power is shifting East. Our consumption levels have to fall more in line with reality, and that’s going to cause pain along the way.

If there is a way to have the dollar peacefully co-exist alongside an alternate tender in the U.S., though, the solution lies in the banking system. Give me the ability to sign up for a gold-backed money market account or a gold-backed savings account, and I’ll happily sign on the dotted line.

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