c. World Money
Gold functions as world money, not as coin, but as bullion. Gold coin is withdrawn from circulation, and is converted to bullion. In each country, the standard of price determines the prices of commodities, but, on the world market, this is not possible, because there is no global standard of price, such as the £, $, or €. Gold, as world money, therefore, becomes the measure of value of internationally traded goods and services. The value of gold, as world money, is determined by its average global cost of production, and so, when new gold discoveries occurred in California, Australia and so on, this affected the standards of prices, everywhere.
On the basis of The Gold Standard, the standard of prices, in each country, is equated to a given quantity of gold, as world money. When countries use silver as the basis of the standard of prices, then, this is equated to gold, on the basis of the continual relative changes in the value of silver and gold. Bimetallism systems have usually failed for the reason that they set a fixed relation between silver and gold. Nations hold reserves of gold and silver, so as to make payments for the balance between their exports and imports.
In fact, with Britain being the dominant global power, in the 19th, and early 20th century, the Pound occupied the position of global reserve currency. Britain was the major exporter of traded manufactured products. Rather than pricing commodities in gold, it was natural that they were priced in £'s, and the £'s were obtained from their own foreign currency reserves, or from money markets. It makes sense for countries, then, to hold foreign currency reserves of £'s, for this purpose, rather than reserves of gold.
There was another reason for this, which also continued when, after WWII, the $ replaced the £ as global reserve currency. Countries could hold their reserves of Sterling or Dollars in the form of interest-bearing assets. So, from them they earned interest, whereas gold bars, sitting in their vaults produced no revenues. This arrangement was beneficial to first Britain, and then the US, because it meant that demand for their currencies was always higher than it would have been. This higher value of the currency, i.e. relative to gold, meant that their interest rates were lower than they would otherwise have been. In addition, as was seen when the US ended Dollar convertibility, in 1971, it meant that their currencies could be produced in greater quantity, to pay for imports, which meant that the actual relation to gold was not that indicated by the official price of gold. Even before the ending of $ convertibility, in 1971, demand for gold had sent its market price to $45, compared to its official price of $35 an ounce.
In effect, therefore, gold had ceased to operate as world money, long before the ending of Dollar convertibility, in 1971. Under the Gold Standard, and Gold Equivalent Standard, gold nominally functioned as global money, and indirect measure of value, and each national currency was linked to an ounce of gold, thereby, establishing a fixed ratio of each national currency to all others. On this basis, commodities produced in the US, priced in $'s, can be equated to the same commodities, produced in France, and priced in Francs.
A mechanism existed for countries to devalue their currency, i.e. to reduce its value, relative to gold, and, thereby, other currencies, but such action was frowned upon, and also seen as a sign of economic failure and national weakness. The normal reason for such devaluation was persistent trade deficits, as a country's exports failed to cover the cots of its imports. Instead, to remedy such imbalances, they were expected to raise interest rates, diminish domestic consumption, and so imports, raise productivity and investment, and, thereby, exports. But, as indicated, a country, like Britain, that dominated the world economy, and which had the world reserve currency, had numerous advantages. Globally traded commodities were priced in its national currency, and other countries, thereby, held £'s. They also did so buy buying Sterling assets, such as gilts, which raised their price, and lowered yields.
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