Bimetallism

What Is Bimetallism?

Bimetallism is a monetary system in which a country's currency is defined as a fixed quantity of two precious metals, typically gold and silver, both of which are designated as legal tender at a predetermined ratio. This monetary system falls under the broader category of monetary economics, focusing on the historical frameworks used to standardize value and facilitate trade. Under bimetallism, coins made from either metal can be freely minted and circulated, with the government establishing an official exchange rate, or "mint ratio," between the two. The objective was often to provide a more stable and flexible money supply than a single metal standard, especially when one metal became scarce.

History and Origin

The concept of bimetallism has ancient roots, with various civilizations using both gold and silver for coinage throughout history. However, its more formalized adoption by nation-states gained prominence in the modern era as a means of establishing robust monetary foundations. The United States, for example, embraced bimetallism with the passage of the Coinage Act of 1792. This landmark legislation established the U.S. Mint and defined the dollar in terms of both silver and gold, setting their proportional value at 15 units of pure silver to 1 unit of pure gold.¹² This act essentially laid the groundwork for the nation's early monetary policy.,¹¹

Another significant historical instance of bimetallism was the Latin Monetary Union (LMU), formed in 1865 by France, Belgium, Italy, and Switzerland. The LMU sought to standardize their bimetallic coinage, agreeing to a gold-to-silver ratio of 15.5 to 1. The union aimed to facilitate cross-border trade and provide monetary stability among its members.¹⁰ Despite its initial promise, maintaining a stable bimetallic system proved challenging due to fluctuations in the market values of gold and silver.

Key Takeaways

• Bimetallism is a monetary system where two metals, typically gold and silver, serve as legal tender at a fixed official exchange rate.
• It aims to provide a more elastic and stable money supply compared to a single-metal standard.
• A major challenge of bimetallism is maintaining the fixed mint ratio between the two metals when their market values fluctuate.
• The "Crime of 1873" in the United States marked a significant shift away from bimetallism toward a de facto gold standard.
• Gresham's Law often undermined bimetallic systems, leading to the hoarding of the undervalued metal.

Interpreting Bimetallism

Interpreting bimetallism primarily involves understanding the interplay between the fixed official mint ratio and the fluctuating market ratio of gold and silver. For bimetallism to function effectively, the official ratio at which the government accepts and coins the two metals must align closely with their market exchange rate. When these ratios diverge, it creates opportunities for arbitrage, whereby individuals profit by converting the overvalued metal into the undervalued metal at the mint and selling the undervalued metal in the market. This process can lead to the "good" (undervalued) money being driven out of circulation and the "bad" (overvalued) money dominating the money supply.⁹ Historically, the stability of bimetallism was often dependent on large bimetallic blocs, like France in the 19th century, which could absorb fluctuations in metal supplies and maintain the fixed ratio through their significant reserves.⁸

Hypothetical Example

Consider a hypothetical country operating under bimetallism, where the official mint ratio is set at 15 units of silver for every 1 unit of gold. This means the government will mint coins and accept deposits of either metal at this fixed rate.

Suppose new, significant silver discoveries occur, leading to a substantial increase in the global supply of silver. In the open market, the value of silver relative to gold begins to fall, perhaps to a market ratio of 16 units of silver to 1 unit of gold.

Under bimetallism, individuals could take 15 units of silver to the mint and have it coined into an amount of currency equivalent to 1 unit of gold. They could then use this gold-equivalent currency to purchase 16 units of silver in the open market. By repeating this process, they could continuously convert silver into gold at the more favorable mint ratio, effectively extracting gold from the monetary system. This would lead to an abundance of silver coins in circulation and a scarcity of gold coins. The system would experience inflationary pressure on the silver side of the monetary policy, while gold would effectively disappear from circulation. Conversely, if gold became relatively cheaper in the market, silver would be driven out, leading to potential deflation in the silver-backed portion of the economy.

Practical Applications

While bimetallism is no longer a prevalent monetary system in the world today, its study provides valuable insights into historical economic growth and the evolution of financial frameworks. Nations experimented with bimetallism to address issues of insufficient specie and to create a more flexible money supply that could respond to changes in the availability of either metal. For instance, the Latin Monetary Union served as an early attempt at international monetary integration, aiming to stabilize trade relations among member states by standardizing coinage.⁷ The challenges faced by bimetallic systems, particularly their susceptibility to market price fluctuations, directly influenced the eventual global shift towards the gold standard in the late 19th century and, ultimately, to modern fiat currency systems.

Limitations and Criticisms

The primary limitation of bimetallism stems from the inherent difficulty in maintaining a fixed official exchange rate between two metals whose market values are constantly fluctuating. This challenge is best explained by Gresham's Law, which states that "bad money drives out good." In the context of bimetallism, if one metal's market value rises above its official mint value, it becomes "good money" that will be hoarded, melted down for its metal content, or exported, while the "bad money" (the overvalued metal at the mint) will remain in circulation.⁶

This phenomenon led to instability and often caused countries to effectively operate on a de facto monometallic standard. A notable example is the "Crime of 1873" in the United States, a legislative act that demonetized silver by omitting its free coinage.⁵ This move, coupled with new silver discoveries, resulted in a significant drop in silver's market value, causing widespread economic and political debate as it effectively pushed the U.S. onto a gold standard, contributing to deflationary pressures and impacting debtors, farmers, and silver miners.⁴ The inability of governments to effectively manage the market ratio versus the mint ratio often led to a lack of liquidity in one metal and undermined the stability bimetallism sought to provide, as well as complicating governmental seigniorage from coinage.³

Bimetallism vs. Monometallism

Bimetallism is often confused with monometallism, its direct counterpart. The key distinction lies in the number of metallic standards used to define a nation's currency. Under bimetallism, both gold and silver are recognized as legal tender, with a fixed exchange rate between them. This system aims to provide a more expansive and potentially stable money supply by relying on two sources of precious metals.

In contrast, monometallism relies on a single metal, most commonly gold (the gold standard) or, less frequently, silver (the silver standard), as the sole basis for the currency's value. The primary advantage of monometallism is its simplicity and avoidance of the "Gresham's Law" problem inherent in bimetallism, where fluctuations in the market value of one metal can drive the other out of circulation. The global shift away from bimetallism in the late 19th century generally favored the adoption of the gold standard due to its perceived greater stability and ease of management.

FAQs

Is bimetallism still used today?

No, bimetallism is not currently used by any major economy. Modern monetary systems predominantly rely on fiat currency, which is not backed by physical commodities but derives its value from government decree and public trust.

Why did countries abandon bimetallism?

Countries largely abandoned bimetallism due to its inherent instability, primarily driven by market fluctuations in the value of gold and silver. The principle of Gresham's Law often caused one metal to be hoarded while the other circulated, leading to an unstable money supply. This led many nations to adopt the simpler and more stable gold standard in the late 19th and early 20th centuries.

What was the "Crime of 1873"?

The "Crime of 1873" refers to the Coinage Act of 1873 in the United States, which effectively demonetized silver by removing its status as freely convertible into standard silver dollars.² This legislative action, enacted without much public attention at the time, later became highly controversial as silver prices fell, leading to a de facto shift to the gold standard and contributing to economic hardship for those who favored silver coinage.¹

How did bimetallism affect international trade?

Bimetallism could facilitate international trade among countries that adopted similar bimetallic ratios, as it provided a common basis for currency value. However, differences in official mint ratios between nations, or significant changes in the market value of gold or silver, could disrupt international trade flows by creating opportunities for arbitrage and causing metal flows between countries.