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Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Gold Reserve Act of 1934

What it is:

The Gold Reserve Act of 1934 nationalized gold and fixed its price.

How it works (Example):

To understand the Gold Reserve Act of 1934, one must understand the context in which it applied. The first thing to note is that many economists blame the Great Depression on the gold standard because it limited the Federal Reserve’s ability to expand the money supply above what their gold reserves allowed. This, accordingly, limited the Federal Reserve’s ability to reduce interest rates.

In an attempt to stimulate demand for U.S. dollars, the Federal Reserve took another tack and increased interest rates with the hope that foreign investors would want to invest their gold and receive a high interest rate in return. However, the axe swung the other way:  The higher rates intensified deflation and only further reduced investments in U.S. banks, thereby creating a huge economic contraction. But because those sinking  dollars were convertible into gold at the time, many investors thought there seemed to be a way out: Convert their dollars into gold. Of course, that required them to withdraw their money from the banks first. The rest is history.

One of the side effects of this panic was that people and foreign countries hoarded gold, which artificially depleted the world’s gold reserves. The Gold Reserve Act stated that the United States could seize any gold acquired, transported, melted, treated, imported, exported, earmarked, or held in violation of the act, and anyone who violated the act was subject to a penalty equal to twice the value of the gold seized. (It wasn’t until 1975 that Americans were allowed to own and trade large amounts of gold.) The prohibition was no surprise, though; by the time the act was created, Executive Order 6102, signed by Franklin D. Roosevelt, required all U.S. citizens to bring all but a small amount of gold to the Federal Reserve in exchange for $20.67 per ounce. The fine for violating the order was $10,000 or 10 years in prison. Only the U.S. Treasury was allowed to own or possess gold.

The Gold Reserve Act was notable because in an attempt to end the Great Depression, it fixed the value of the U.S. Treasury’s gold holdings. By legislating that $1 was worth 15.715 grains of gold, a troy ounce of gold could buy $35 rather than $20.67. By devaluing the dollar this way, the value of the Treasury’s gold increased by $2.81 billion.

After seizing everybody’s gold, the Gold Reserve Act allowed the Treasury to then set the price of gold at $35. The Treasury used the profits to create an Exchange Stabilization Fund, which (even today) allows it to trade foreign currency in order to stabilize the exchange value of U.S. currency without affecting domestic money supply or requiring Congressional approval.

Why it Matters:

The Gold Reserve Act was notable because in an attempt to end the Great Depression, it fixed the value of the U.S. Treasury’s gold holdings. The act was also notable because it is one of the few times in history that the U.S. government ever confiscated private property in an attempt to nationalize a commodity. Some economists argue that this came back to haunt the United States in the 1970s, when stagflation set in. Interestingly, many economists note that countries not on the gold standard were largely able to avoid the Great Depression, but countries on the gold standard suffered until they finally abandoned it.

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