This final section of the course covers two topics. The first is the progression of stages that led to the current fiat currency system, building upon the history of central banks from section 5 and adding the story of the US dollar, the current reserve currency. It will trace the dollar's evolution from its origins as a silver coin to its current status as a fiat currency. The second topic is brief history of finance, explaining how its evolution contributed to the emergence of the modern welfare state.

To understand the emergence of the fiat model, we must return to the 13th century. Alongside the florin, a technology emerged with the Medici: the bill of exchange.

Then came the Antwerp stock exchange, with its concept of discounting and promissory bills.

As previously discussed, the VOC and the Amsterdam stock exchange marked the birth of capitalism, with company shares and their exchange. The Amsterdam bank then imposed the use of deposits by decree, mandating that moneychangers deposit their coins at the end of the day.

Subsequently, the Bank of England was created at the end of the 17th century out of the need to create debt to finance war. At that time, private banknotes became the third layer of money, as they were no longer redeemable in gold directly, but only for Bank of England bills, which were themselves redeemable in gold. This demonstrates the seizure of the power of exchange by the Bank of England.

This progression, from the florin to the creation of central banks, is summarized in Nick Bhatia's book "Layered Money".

Then came the panic of 1776. A bank run occurred, and holders of third-layer private banknotes attempted to exchange them for Bank of England bills, and subsequently for gold. The gold reserves were insufficient. To avoid a default on gold redemption, a banking holiday was declared, which gave rise to the concept of the lender of last resort.

After the establishment of the Bank of England, developments were also occurring on the other side of the Atlantic. In 1776, America was still a British colony, and the colonies used a paper currency. Below is a Connecticut two-shilling bill from 1776.

Before declaring war on England and issuing their own currency, the colonies used this paper currency alongside the Spanish dollar for cash transactions. The term "dollar" was retained for the new American currency.

In 1792, a law was passed to authorize official coinage. The image below shows an American dollar from the modern era.

Its face value is one dollar, but as it represents an ounce of silver, its market value fluctuates with the price of silver, typically placing it between $30 and $40. At that time, the US dollar was rooted in this silver value, unlike today's paper dollar, which retains only its face value.

During the American Civil War, the Confederates printed money that experienced hyperinflation. While not included in the official Hanke-Krus list, as it did not consistently exceed a 50% monthly inflation rate, it did experience periods of extreme inflation, indicating substantial currency printing during the war.

The Northern opponents issued their own currency, known as "the greenback" due to the color on the reverse of the notes as shown below.

Banknotes from that era were larger than the modern ones.

Following the Northern victory, the greenback became the currency of the reunified American states. This was followed by the founding of the Federal Reserve (FED) in 1913, and the First World War.

In the aftermath of the war, banknotes still included the words "redeemable in gold on demand". In 1928, $20 bought almost an ounce of gold, as the price was fixed at $20.67. The bill in the image below could have been exchanged for an ounce of gold in 1928.

Today, an ounce of gold is worth approximately $3,000, illustrating the extent of the currency's devaluation. This was the last series of bills to contain the words "redeemable in gold". Shortly thereafter, Executive Order 6102 resulted in the seizure of all privately held gold and gold certificates.

Below is an example of a 1928 gold certificate.

Not only was it "redeemable in gold" like the 1928 Federal Reserve note, but it was a direct claim on gold coins. These "gold certificates" were seized under Executive Order 6102, and it remained illegal to own them until 1964.

Starting from 1964, it became illegal to own gold, until 1974. In the 70s, they allowed people to accumulate gold after the Nixon shock, which we'll describe shortly. In 1933, when they issued "Executive Order 6102", they seized gold and it became illegal to possess it. You received a big prison sentence if you were caught keeping your gold. During those days, every ounce of gold was exchanged for a bill similar to the one below, after 1934.

As we said, in 1928, a dollar still had the "redeemable in gold" text on it.

After the issuance of the Executive Order 6102, they seized all the gold and exchanged $20.67 for every ounce of gold. Afterwards, the scam came to light: they issued new bills in 1934 with the printed text "this note is legal tender for all debts".

The concept of legal tender emerges here, replacing the promise of redeemability in gold. But here's the real kicker, the part that really shows the nature of this seizure. At the exact same time they confiscated the gold, they devalued the dollar. In 1934, the official price of gold was raised from $20.67 to $35 per ounce. That's a devaluation of approximately 40%, literally overnight.

Then came the Second World War. Following the war, the Bretton Woods Agreement centralized much of the world's gold in the United States. In exchange, the Americans issued dollars. While those dollars were no longer redeemable for gold by the general public, they remained exchangeable for gold at the state level, for other central banks.

Eventually, countries like France and Germany began to suspect that the U.S. had issued more dollars than it had gold to back them and requested to repatriate their gold. Then, in 1971, came the final break. President Richard Nixon unilaterally severed the link between the dollar and gold. And who did he blame for this move? The speculators, of course.

Gold was undervalued at $35 per ounce, a price that did not reflect the volume of money in circulation. Over the following years, the price of gold surged from $34 to over $800, as it was allowed to float. Similar to historical precedents, such as in Rome, where the connection between the denarius and the solidus was severed, this allowed for a process of price discovery, resulting in gold being valued much higher in dollar terms thereafter.

This section summarizes the transition from a commodity-money system based on precious metals to the modern fiat system. Over time, institutions gained increasing power over money, culminating in a unilateral decision that severed the link between precious metals and currency, following a period of over-issuance.

As a result, there is no longer any link between gold and banknotes or scriptural money. The current system is not a fractional reserve system, as the concept is now outdated. Instead, private banks create money through the issuance of credit. This form of money creation is the primary method in the modern economy and is largely influenced by the key interest rate set by the central bank.

There are effectively no limits, as mandatory reserve levels no longer exist in systems like those of America and Canada. The only reserve requirement is for banks to maintain sufficient liquidity to settle interbank exchanges.

The total money supply can now be increased by central banks through quantitative easing (QE), by governments through fiscal deficits, and by private banks through the creation of bank loans, which can lead to inflation.

To understand the link between money and inflation, I recommend a course I have on Plan ₿ Academy dedicated to this subject. You will learn the difference between price increases, which is what we see in life, and inflation. They're not the same thing. In fact, when we refer to inflation, we're often talking about price increases, not inflation itself. Inflation is a fairly precise concept, explained by the increase in the money supply.