Gov-issued banknotes used to be based on gold, so IIUC that theoretically meant you could always trade your cash for gold. And IIUC, that was also a control on inflation.
Then at some point the currency (guess I’m assuming USD but perhaps it applies to all currencies?) was no longer based on gold. People just simply trust the currency just because there are anti-counterfeit features, and perhaps because everyone else trusts it. Is that it? Is there nothing else to establish confidence in the value?
I ask because I saw a clever anti-cryptocurrency post saying something like:
1 coin of crypto = ½ unicorn horn = 1 faun hoof = ¼ vial of potion from an oni = 50 grams of fairie dust = ⅛ dragon egg = 1 Klingon tooth
Funny, but okay, he hopes to convince people that #cryptocurrency not being based on anything means it’s worthless. Couldn’t we just as well add USD to that equation, since US dollars are also not based on anything now that gold is out of the picture?
You are correct that a fiat currency has no tangible backing. However, they do have backing from governments. The USD is backed by “the full faith and credit of the US government.”
Prior to WWI, the de facto global currency was the British Pound Sterling, backed by silver reserves.
Through the tumult of WWI, the Great Depression and WWII, precious metal reserves were consolidated in the US banks. Both through transactions (e.g. buying stuff from the US) and through deposits to secure the value from falling to foreign powers during wartime.
After WWII, the US economy was the only major power that had not been devastated, so the de facto global currency switched from GBP to USD.
As the global economy grew through the 40s, 50s and 60s, it became increasingly clear that there was not enough gold in the world to 1:1 back then USD needed to facilitate trade. There were many other factors that led to this, particularly macroeconomic decisions made in the US economy and the Vietnam War.
President Richard Nixon unilaterally ended the 1:1 backing of gold in 1971.
Since then, the USD has been backed by “the full faith and credit of the US government.”
Other currencies exchange rates are relative to the USD because the balance of international trade is denominated in USD. These rates either float (i.e. allow the market to decide the rate) or are pegged (i.e. a currency’s central bank says the official exchange rate is $1:x).
There have been discussion about shifting away from the USD as the global trade currency. Some contenders would be the Chinese renminbi or the Euro because a large proportion of international trade occurs between parties whose local economy uses one of those two currencies.
However, the decision for individual countries to switch is fraught and may cause more harm than good in the short term.