Gold “A Pet Rock”?

“A pet rock” is how a noted financial columnist has described gold on a couple of occasions within the past year or two. Which is not surprising given the premise for the logic used to arrive at his conclusion.  That premise, or assumption, is the reason that most people (financial writers, advisors, investors, and economists included) are incorrect in their analysis of the yellow metal.

That premise/assumption is that “gold is an investment”.  It is not.  It is also not insurance or a hedge against chaos.  It is real money.

And there is only one thing anyone needs to know with regards to the value of gold.  And that is the value of the U.S. dollar.

Gold is quoted in U.S. dollars and the dollar is the worlds reserve currency.  The “price” of gold in U.S. dollars is an inverse reflection of the value of the U.S. dollar.  And yes, it does change continuously, and ongoing.  And yes, there are more extreme changes for short periods of time which don’t correlate exactly to changes in purchasing power of the U.S. dollar.  But the most extreme changes occur after longer periods of time when the cumulative effects of inflation are recognized more fully by holders of the depreciating paper currency (i.e. U.S. dollar).  And since paper currencies (including government debt) can be manipulated by government, expectations and reactions become more volatile.

Without a clearly explicit understanding of the above paragraph, we will continue to see unexpected results which defy our logic if we  ‘invest’ in gold as a “hedge against the chaos and resulting breakdown of society”; unless that chaos results in a significant decline and/or breakdown of the U.S. dollar itself.

What is particularly ironic is that the writer states in his article “gold has also preserved its purchasing power over remarkably long periods”.  Which is exactly the point.  Gold is a store of value and, hence, real money.  It is the U.S. dollar which is volatile, and which continues to lose value.

With respect to concerns about some of the more dramatic changes in the  value of gold vs. U.S. dollar over shorter periods of time, most of the time when those particular examples are cited, they are referenced to the exclusion of more telling facts.

For example, it is a  well-known fact that gold in January 1980 was valued at $800.oo to the ounce and that its value in U.S. dollars some twenty years later was $275.00 to the ounce.  Sounds horrible if you are looking at gold as an investment, right?  Of course.  But lets assume that our logic based on a faulty assumption (i.e. that gold is an investment) is correct.  And then what would have happened if you had bought gold at $275.00 to the ounce in 1999?  Its recent value at $1250.00 to the ounce is a nearly three hundred fifty percent increase.  And what if you had bought gold prior to 1980?  What if you were prescient enough to exchange your U.S. dollars for gold in 1971 at $35.00 to the ounce?  By 1980 you would have a profit of nearly twenty-two hundred percent!  Are these examples any less valid? No. It is a matter of perspective.  And that perspective gets clouded sometimes depending on an individual’s point of view.

Quoting from the same article, “In the shorter term, gold fluctuates so wildly that it is a surprisingly poor hedge against increases in the cost of living.” Does that mean that stocks and real estate are also “poor hedge(s) against increases in the cost of living”?  How would your stock broker answer that question?

For most of my lifetime (sixty-eight years) I have owned gold for what I think are the right reasons.  It may be a ‘pet rock’ to some folks, but to me it is real money.

 

 

 

History Of Gold As Money

Gold emerged as money of choice through competition.  Many other things (beads, grains, various industrial metals, etc) were tried throughout history.  For one reason or another they didn’t work consistently over longer periods of time.

The first gold coins appeared around 560 B.C.  Over time it became a practice to store larger amounts of gold in warehouses.  Paper receipts were issued certifying that the gold was on deposit.  These receipts were negotiable instruments of trade and commerce which could be signed over to others.  They were not actual currency but are a presumed forerunner to our modern checking system.

The warehouse proprietors (‘bankers’) decided they needed to find a way to increase their profits.  Earning fees from their depository and safekeeping services wasn’t enough.  Since most of the gold remained in storage and most transactions involved exchange or transfer of paper receipts for the  gold on deposit, they decided to issue ‘loans’ of the gold/money to others and charge interest.  The cumulative amounts of gold loaned out could not exceed the amount of gold held in storage.  And, hopefully, not too many depositors would ask to redeem their physical gold at the same time.

By this time, there were reasonable indications of just how much gold needed to be kept available to meet the ongoing, day-to-day withdrawal  demand.  The warehouses (banks) began issuing loans in the form of receipts backed by the gold held on deposit.  Which shouldn’t be a problem as long as people continued to trade with their paper receipts.  And occasional redemptions of receipts (withdrawals of gold from storage) were met with smiling faces. Business as usual.

It seemed to be a workable system.  But apparently the ‘bankers’ were not content.  They soon started issuing more loans/receipts for gold which did not exist.  Of course they saw no need to inform anyone of their actions and the receipts still stated that they were redeemable in fixed amounts of gold.  And when some wanted to take possession of their gold on a physical basis they could still do so.  Up to a point.

As late as the early twentieth century, U.S. paper currency was issued with a clear statement specifying that it was redeemable for specific amounts of gold (and silver) at fixed rates.  In addition, gold (and silver) circulated concurrently with U.S. paper currency and were interchangeable.  One was as good as the other. Supposedly.

Questions arose as to the value of the paper currency.  And more and more individuals, companies, and countries opted for real money – gold.  There simply wasn’t enough gold to meet the redemption demands.  And to whatever extent it was available, the banks and the government didn’t want to release it.  So…

In 1933 President Roosevelt issued an executive order “forbidding the hoarding of gold coin, gold bullion, and gold certificates within the continental United States”.  In 1964, the United States ended its use of silver in the minting of coins used for legal tender.  And, in 1971, President Nixon suspended convertibility of the U.S. dollar into gold by foreign nations.

For the past forty-five years there has been no convertibility of U.S, dollars (i.e. paper) into gold (i.e. money).

What we call money today is really just paper;  which we can use to buy real money – gold.  If we’re smart.

Gold Is Real Money

First, let’s make it very clear what gold is not.  Gold is NOT:

  • an investment
  • a hedge
  • insurance
  • a barbarous relic

Money has three specific characteristics:  medium of exchange, measure of value, store of value. Continue reading “Gold Is Real Money”