Monetary Standard

1. UNIT 2
MONETARY STANDARD
A monetary system is a scheme developed by a
government to facilitate exchange. It also provides a
means to generate and measure wealth and debt.
Meaning:
The term monetary standard refers to the type of
standard money used in a country. The standard money
is that legal money in which the government of the
country itself discharges its own obligation.
Objectives:
1. To maintain the stability in the currency of internal
value/ internal price level.
2. To maintain stability in the currency of external
value/exchange value.

2. Qualities of good monetary standard:
1. Simplicity
2. Elasticity
3. Economical
4. Stability
5. Convertibility
6. Legality
7. Automatic working
8. Economic development
9. Other qualities(Portability, transferability,
uniformity, divisibility)

3. Types of money standard:
1. Metallic standard
2. Paper currency standard
1. Metallic standard: refers to a MS in which the value of the monetary
unit is expressed in terms of a fixed quantity of some metal. Ex
Monometallic- Gold/Silver
Bimetallic – gold and silver
Merits:
1. Simplicity
2. Public confidence
3. Facilitates foreign trade
4. Non operations of Gresham’s law
Demerits:
1. It cannot be adopted by all the countries
2. Lack of elasticity
3. Retards economic growth
4. Lack of price stability

8. 1. Gold bullion standard
2. Gold exchange standard
3. Gold reserve standard
4. Gold parity standard
5. Gold currency standard

9. 1. Gold Bullion Standard:
After World War I, Gold standard was revived in some countries of
Europe not on gold currency basis but on gold bullion basis. It was
adopted by Great Britain in 1925. Gold bullion standard is a modified
version of gold coin standard in which there was no gold coinage and
the currency is convertible into gold bullion (i.e., gold bars).
Features:
(i) 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.
(ii) Coinage of gold is not allowed, i.e., people cannot get their gold
converted into coins at the mint.
(iii) Other forms of money (paper money and token coins) are not fully
backed by gold reserves. But the government guarantees full
convertibility of currency into gold bullion.
(iv) The government is always ready to buy and sell gold at fixed prices.
(v) There are no restrictions on export and import of gold.

10. 1. No circulation of gold coins
2. No free coinage of gold
3. Paper money is not fully backed by gold
4. Sale purchase of gold at a fixed price
5. Gold was fully import and exported.
Merits:
1. Economy in the use of gold
2. Elasticity
3. Use of gold in public interest
4. Stability in the foreign exchange rate
5. Simplicity
6. Greater public confidence
Drawbacks:
1. It breaks down at a time of crises
2. Necessity at the government intervention
3. Uneconomical
4. Less public confidence

11. 2. Gold Exchange Standard:
Gold exchange standard refers to a system in which there is neither a gold
currency in circulation not gold reserves held for external purposes. Under
this system, the domestic currency of a country (which is composed of
token coins and paper notes) is not converted into gold for meeting
internal needs, but is converted into the currency of some foreign
payments.
The external value of the domestic currency unit is determined in terms of
the foreign currency. Thus, under gold exchange standard, the domestic
currency has no direct link with gold; it is linked at a fixed exchange rate
with the currency of another country which is convertible into gold. In
addition to gold reserves, the monetary authority of the country maintains
sufficient amount of foreign exchange reserves for making international
payments.
Gold exchange standard is a cheaper form of gold standard particularly
suitable for the underdeveloped or gold-scarce countries. It was first
adopted by Holland in 1877 and then by Austria, Hungary, Russia and India
during the last decade of the 19th century. India abandoned this standard
in 1926 on the recommendations Of the Hilton Young Commission.

12. Features:
(i) The domestic currency is made of token coins and paper money. Gold
coins are not in circulation.
(ii) 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.
(iii) There is no direct link between the volume of domestic currency and
the gold reserves.
(iv) Foreign exchange and foreign bills along with gold constitutes the
reserve base of a country.
(v) The gold market is regulated and controlled by the government.
There is no free import and export of gold.
(vi) 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.
(vii) Foreign payments are made either in gold or in currency based on
gold

13. • Merits:
• The gold exchange standard enjoys the following advantages:
• 1. Economical:
• Gold exchange standard is cheaper and economical.
• It economies the use of gold in two ways:
• (a) It avoids the wastage of gold because of non-circulation of gold coins,
• (b) The government need not keep gold reserves for converting domestic currency into
gold.
• 2. Elastic Money Supply:
• Since the domestic currency is not backed by gold reserves, the monetary authority can
easily, expand money supply to meet the increasing needs of trade and industry.
• 3. Exchange Stability:
• Under gold exchange standard, it is the responsibility of the government to maintain the
stability of exchange rate. Exchange stability is essential for the promotion of foreign trade.
• 4. Gains to Government:
• The government of the country also gains from this standard:
• (a) It earns interest on the reserves kept in the foreign country.
• (b) It also keeps some margin between the buying and selling of foreign exchange.
• 5. Gains of Gold Standard:
• All the advantages of the gold standard become available under this standard without
putting gold coins in circulation.
• 6. Suitable for Poor Countries:
• This standard is particularly suited to the less developed countries with gold scarcity.

14. • Demerits:
• The gold exchange standard has the following drawbacks:
• 1. Complex:
• This standard is complex in its working and is not easily understandable by the common people.
• 2. Less Public Confidence:
• Under this standard, domestic currency is not directly linked with gold and the currency is not
convertible into gold. Therefore, it does not inspire much public confidence.
• 3. Not Automatic:
• This standard does not work automatically and needs active government intervention. It may be more
appropriately called a managed standard.
• 4. Inflation-Oriented:
• Under this system, money supply can be increased easily but it is very difficult to reduce money
supply. Hence it is prone to inflation.
• 5. Expensive:
• This system is not economical. To make it work, the government has to keep many reserves which
involve lot of expenditure. It is due to its expensive nature that India abandoned this system on the
recommendations of Hilton Young Commission.
• 6. Monetary Dependence:
• Under this standard, the monetary independence of a country cannot adopt an independent
monetary policy but has to be governed by the policy of the foreign countries.
• 7. External Insecurity:
• Since, under this standard, the domestic currency of a country is linked with the foreign currency, the
insecurity and instability of the foreign currency makes the monetary system of the related country
insecure and unstable.