THE CASE FOR GOLD
The case for gold is straightforward…
Gold is a proven long-term store of value that retains its purchasing power over extended time periods. When used as money (medium of exchange and measure of value), gold acts as a restraint on a government’s propensity to overspend. Also, using gold as money – without government intervention – guarantees price stability.
Gold is practical and convenient, and was money before fiat currencies. Goods and services were priced in ounces and fractional units of gold (grams, grains, etc.). Because the supply of gold is relatively stable and reasonably scarce, the threat of inflation is greatly reduced, although not eliminated. (see Even Gold Is Subject To Inflation)
Gold is not issued by a government or central bank, so it carries no default risk and is immune to political manipulation.
As if that were not enough, gold has additional (secondary) value because it is desired and used for ornamentation and jewelry.
Lots of things have been used as money. Only gold has stood the test of time. Gold’s universal acceptance is independent of government policy or intervention.
Notice that, so far, we have not said anything at all about the price of gold. When gold was the circulating medium of exchange, there was no price for gold. Gold, itself, was the measure of value for everything else. How much gold you held – not its price – was indicative of your purchasing power, or wealth.
In other words, the gold price has nothing to do with gold’s fundamental value, i.e., its use as money.
HISTORY OF GOLD AS MONEY
Gold emerged as the 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 were 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. 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. That shouldn’t be a problem as long as people continue to trade with their paper receipts. 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 that 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.
Questions arose, however, as to the value of the receipts. More and more individuals, companies, and countries opted for real money – gold. There simply wasn’t enough gold to meet the redemption demands.
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.
In 1933, President Roosevelt issued an executive order “forbidding the hoarding of gold coin, gold bullion, and gold certificates within the continental United States”. Then, in 1971, President Nixon suspended convertibility of the U.S. dollar into gold by foreign nations.
For more than half a century, there has been no fixed convertibility of U.S. dollars (i.e., fiat currency) into gold (i.e., real money).
THE PRICE OF GOLD
The price of gold in dollars is an inverse reflection of the purchasing power of the U.S. dollar. Under the watchful eye of the Federal Reserve, the U.S. dollar has lost more than 99% of its purchasing power.
The dollar’s loss of purchasing power results in higher prices for goods and services. The gold price reflects the dollar’s loss of purchasing power by continually rising over time, albeit irregularly and in a volatile fashion.
Of particular note is that increases in the gold price come after the effects of inflation have worked their way into economic activity and are readily apparent. The huge increase in the gold price from $35 oz. to $843 oz. happened over nearly a decade (1971-80) and was reflective of the loss of dollar purchasing power that had occurred over the previous several decades.
The phenomenally huge increase, however, was followed by huge declines. Eventually, more than thirty years later (2011), the gold price peaked again, this time at $1895 oz.
The gold price had more than doubled from its peak in 1980, but the huge price increase did not mean that gold was more valuable. In fact, the value, or buying power of gold at $1895 oz. in 2011 was consistent with its value in 1980 at $843 oz.
Similarly, what one can buy with an ounce of gold today at $3700 is comparable to what one could buy with an ounce of gold in 1980 at $843.
Since 1980, prices have risen more than fourfold. An upscale, new car at $16-18k in 1980 was the equivalent of approximately 20 ounces of gold ($843 times 20 = $16,860). A comparable vehicle today costs closer to $70-75k, and can still be purchased with 20 ounces of gold ($3700 times 20 = $74,000).
CONCLUSION
The case for gold is the same today as it was centuries ago. Gold is real money; honest money. The price of gold tells us nothing about gold. The gold price tells us the extent to which the dollar has lost purchasing power.
Similarly, it does not matter whether gold is priced in dollars, yen, euros, yuan, etc. The price of gold in any fiat currency is nothing more than a reflection of changes in the value of that particular currency.
Higher prices notwithstanding, the value of gold remains constant and unchanging. (also see Gold’s Singular Role)
Kelsey Williams is the author of two books: INFLATION, WHAT IT IS, WHAT IT ISN’T, AND WHO’S RESPONSIBLE FOR IT and ALL HAIL THE FED
