Why Do We Need Gold to Offset Paper Money?

With political and economic uncertainties taking hold in Europe and the United States, more investors are flocking to gold as a safe haven investment.The rush to gold has people talking about the gold standard, and why countries don't peg their currencies to the commodity to stabilize the value of paper money. Although including gold in a portfolio may be a smart investment for risk-conscious investors, don't expect a gold standard renaissance anytime soon.

The gold standard is a monetary system that allows people to convert their currency holdings into a fixed amount of gold. This system pegs the value of a dollar in terms of a real, valued commodity -- important in the early days of paper money when people were issuing too much credit and Britain experienced gold and silver supply imbalances. The gold standard turned out to be too inflexible to be sustainable in modern economic times. The First World War brought new alliances and increased global debt, and economic growth later outpaced gold holdings in banks around the world. Gold gradually lost its link to the world's currencies, and in 1971, President Richard Nixon got rid of the gold standard for good, announcing that U.S. dollars would no longer have guaranteed gold convertibility.

Today's currencies aren't linked to a single commodity, but gain and lose value based on investor speculation. When investors view a country as a profitable, stable place to invest, they buy up more of that country's money, driving up its value in relation to other currencies. Critics say that basing a currency's value on something tangible makes more sense than linking money to belief and speculation. Even in the face of economic uncertainty, a return to the gold standard is unlikely. Economies that use the gold standard aren't well-equipped to respond to the shocks that come with participating in an interconnected global economy, since leaders have limited control over the money supply. Maintaining a gold standard is also costly, since producing the gold to back up a country's currency gets expensive.

With the instability of the European Union and doubts about the United States stemming from deep political divisions, two of the world's largest currencies are in turmoil. Investors who previously considered their money safe in these countries are starting to look elsewhere for security. For many, gold has become the answer. Although investment advisers don't recommend that you suddenly run and shift all of your holdings to gold, having some in your portfolio does help mitigate risk. In the unlikely event that many major currencies collapse, people will still want gold, meaning the commodity should retain much of its value through even the toughest economic times. While gold is a relatively secure investment, holding gold does carry some risk. Prices rise and fall, and its value may not always keep pace with inflation. For growth and stability, your best bet is always a diversified portfolio.

If you're interested in purchasing gold, you can buy contracts through commodity exchanges. If you have plenty to invest, consider a full 100-ounce contract. If you have considerably less but still want a piece of the gold pie, micro contracts are available for smaller investors. With a micro contract, you can buy 10 ounces of gold at a time, but you need at least 100 ounces worth of contracts to take physical possession of a gold bar. Another way to buy gold in small amounts through the United States Mint in the form of American Eagle Gold Bullion Coins.