Stabilizing Arbitrage

Gresham's Law

Gold Standard Wins



FX Micheloud (click left)   or   Monetary History (click right)

Why the market ratio did not move for 75 years ?

The fact that the market ratio was very stable despite the massive gold discoveries of the1850's is the consequence of a simple arbitrage. On the SLIDE BELOW you see that if silver is more valuable (relatively to gold) on the bullion market (following, for example, gold discoveries), then people will melt silver coins to exchange them for gold on the market, and other people will bring gold to the Mint to coin it. You see that this will drain silver from the monetary metal stock, and will add it to the non-monetary uses. Conversely, gold will flow from the place it is cheapest (non monetary uses) to the place where it is more expensive (at the Mint). The imbalances can thus be corrected and the market price be kept in line with the legal price as long as there are big enough countries on a bimetallic standard with the same ratio. Otherwise One metal will be totally drained from the monetary base and what will be left is a monometallic standard.

Did you understand ? The next slide will explain you the same thing from an agent's point of view.

If the market price of silver excedes the legal price ...

... silver coins are melted and gold jewels are coined, changing the relative supply of both metals. Market price of silver declines and equilibrium is restored.

The legal ratio fixes the market ratio if enough big countries are on the same bimetallic system with the same legal ratio.

If the oversupply of silver is lasting, all the silver can be drained from the money stock.


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