Debasement

What Is Debasement?

Debasement refers to lowering the value of a currency. It is primarily associated with coins made from precious metals, such as gold and silver. A currency is debased when the coins are made with a mix of precious metals and base metals as opposed to purely precious metals. The more base metals are added to a coin compared to precious metals, the further a currency is debased.

Understanding Debasement

Prior to the paper money that the world uses today, currencies consisted of metal coins. These coins were most commonly made with either gold or silver, and, therefore, carried the value of that precious metal.

Coins made from precious metals are still in use and gold and silver bullion is still commonly traded; however, on a day-to-day basis, precious metals are no longer a primary form of currency and not in wide circulation.

When any form of currency that is made from a precious metal is mixed with a metal of inferior quality or value, it is said to be debased. The face value of the coins remains the same but the intrinsic value decreases, which leads to inflation because the money is worth less.

Though gold and silver coins aren't commonly used today, debasement can still occur if a government prints too much money, increasing the money supply. This also leads to inflation as there is more money but not an equal increase in output.

Why Debasement?

By debasing their currencies, governments believe they can meet their financial obligations more easily or have more money to spend on infrastructure and domestic spending projects to spur the economy. Such methods, however, eventually lead to a crash. Debasement was a popular method of funding wars; governments in effect created more money without having to increase taxes to fund their conflicts.

All of these maneuvers are shortsighted of course, as debasement holds negative consequences for the citizenry, primarily in the form of inflation.

Real World Examples

Roman emperor Nero began debasing Roman currency around 60 AD by reducing its silver content from 100% to 90%. Over the next 150 years, the silver content was reduced to 50%. By 265 AD, the silver content was down to 5%.

When a currency is debased, and therefore loses value, sooner or later the citizenry catches on and begins demanding higher prices for the goods they sell or more wages for their work, resulting in inflation. In the case of the Roman Empire, the debasement produced annual inflation of around 1,000%.

Today, most currencies are fiat currencies and are not based on a precious metal. So, debasement only requires that the government print more money, or since much money exists only in digital accounts, create more electronically.

In Germany in the early 1920s, the government reduced the value of the mark from around eight per U.S. dollar to 184 per U.S. dollar by printing money to meet its financial obligations. By 1922, the mark had depreciated to 7,350 per U.S. dollar. It eventually collapsed, reaching 4.2 trillion marks per U.S. dollar, before Germany returned to the gold standard.