Seven Things Everyone Should Know About Gold Gold is one of the world’s most misunderstood assets. There are many reasons for this unfortunate situation, but one stands out. Governments have confiscated gold, taxed it, propagandized against it and even outlawed it.
Gold does not have any powerful sponsor championing its cause. In fact, the opposite prevails. Apologists for central banks as well as government toadies clamoring for continued state control of money have worked hard to discredit gold where possible, for example, by blaming it for things it was not responsible – like the Great Depression – and by denigrating gold as a fondling of speculators or a superstition better suited for primitive economies.
In short, conventional economic wisdom and monetary thinking has one aim; it is to justify and perpetuate today’s monetary system. It does not undertake a critical review of the system nor take an unbiased, unprejudiced look at alternatives such as gold.
Yet despite this hostile environment, gold continues to be valued throughout the world. Stripping away the misinformation and half-truths about gold, it is clear that gold continues to serve an important role. Why is that?
It is because gold is useful, and as a consequence, it therefore has value. And how does gold’s usefulness arise?
Here is a basic primer highlighting Seven essential features of gold that everyone should know. By evaluating them, it is possible to determine whether gold’s usefulness could be of value to you, just as it already is of value to countless millions of people around the world.
1) Gold is a special, unique commodity
Gold is a special,unique commodity because it is the only commodity produced for accumulation; all other commodities are produced to be consumed. Essentially all of the gold mined throughout history still exists in aboveground stocks. Nevertheless, gold is rare.
The entire aboveground gold stock is only about 155,000 tonnes. If all this gold were put into one lump, its size would be 8,000 cubic meters, the volume of which is equal to the bottom one fifth of the Washington Monument or 3¼ Olympic size swimming pools. It is also astonishing to note that in one day twenty-times more steel is poured than the total weight of gold mined throughout history.
2) Gold’s supply is its aboveground stock
Because it is accumulated and not consumed, gold’s supply is its aboveground stock. This fact changes everything in terms of how to analyze gold.
Gold’s price is still a function of supply and demand, but the supply that matters is not the relatively little amount mined each year, which history shows only increases the aboveground stock year after year by a relatively consistent 1.7% per annum. Rather, gold’s supply is the total weight accumulated in its aboveground stock for the simple reason that a gram of gold mined today is no different from a gram of gold mined by the Romans two thousand years ago. In other words, gold in the aboveground stock is perfectly substitutable for newly mined gold.
In the short-term gold’s supply is relatively unchanged because new mine production cannot be meaningfully increased quickly. As a consequence, gold’s price is principally a function of demand.
While it is common to hear that gold’s price is determined by jewelry demand, that belief is misguided. Just like wet streets do not cause rain, the price of gold does not depend upon jewelry demand. The important point is not the form gold takes when it is fabricated, but rather, the use to which it is put. Most jewelry is high-karat gold acquired because of gold’s monetary characteristics, not for reasons of adornment.
Therefore, the price of gold – or more precisely because it is money – gold’s rate of exchange to national currencies depends upon monetary demand, or what some people mistakenly call its investment demand. It cannot possibly be otherwise, given that gold’s supply is its aboveground stock and that some 80% of this amount is held for monetary reasons, and not for fashion, adornment or other factors.
3) Gold is money
This observation about monetary demand means that gold is money. In other words, gold is hoarded because its greatest usefulness arises from those attributes that make it money.
Gold’s advantages as money are numerous. Perhaps most important in our present age marked by the perennial inflation of national currencies, gold is money that cannot be debased by creating it ‘out of thin air’ by government fiat.
Another important factor in gold’s favor is the mountain of debt and financial derivatives that overhang the world economy. Gold is the only money that is not contingent upon anyone’s promise, an attribute that explains why gold is called “sound money”.
4) Gold is an alternative to the US dollar
The US dollar is in trouble because it is being debased – it is being inflated by newly created dollars that are used to fund the growing federal government budget deficits and other public and private debt. This insidious inflation erodes the purchasing power of the dollar month after month. Consequently, more and more people are turning to gold as their preferred money.
It used to be that the dollar was “as good as gold”. The dollar achieved that distinction because it was formally defined as a weight of gold under the rule-based system known as the gold standard. Under that system, which ended in August 1971, gold and dollars were interchangeable and essentially the same. But no more, to the detriment of those who hold dollars. By some estimates, the dollar has lost more than 90% of its purchasing power since then.
Despite this dreadful deterioration the dollar has suffered, it continues to circulate as currency. Those same inexorable forces that create a hostile environment for gold are at the same time promoting and propagandizing the dollar to talkup its demand. The Federal Reserve’s pro-dollar ,anti-gold propaganda is aimed to maintain the illusion that the dollar is reliable money. Consequently, in contrast to their interdependent and complimentary role under the gold standard, gold and the dollar have become competitors. In fact, gold is the dollar’s only serious competitor. They compete for holders, and it is their relative demand that determines their rate of exchange, or what we call the ‘price’ of gold.
The relative demand for gold and dollars also explains the importance of dollar interest rates, which need to be raised from time to time to entice people to accept the risk of holding dollars instead of gold. But remember, only real (i.e., inflation adjusted) interest rates matter. Nominal interest rates are not important. For example, if dollar interest rates are 10% and the inflation rate is 10%, real interest rates are zero, and low or negative real interest rates are bullish for gold.
5) Gold preserves purchasing power