Gold & Money In America

December, 2009 Feature--Truth Based Logic

Historic monetary role of gold. Money & water. Factors governing price & price changes for goods & services. Gold & America. Common fallacies.

To return to the subject of our February essay (below) on money as a medium of exchange, let us look more closely at the past, present & future role of gold, the proven best medium of exchange in times of economic stress, to counter the effect of economic stress on prices, values & political integrity.

For thousands of years, gold has been sought more for its monetary utility than for any other use. It has been trusted for several reasons: The most significant, relative scarcity--thus protecting value;--the ease with which it may be divided into precise weights, convenient to varied sized transactions; & inherent beauty, including a specific gravity, which conveys a comforting sense of substance to the touch of even a small coin.

While there are many possible alternatives to gold--commodities as well as the fiat money to which almost all nations have now fallen;--and while a gold standard was never a perfect stabilizer of price or political integrity, its record was always far better than any alternative dependent upon the whim or perceptions of the less predictable public office holder. When one adds to the calculation, the reality that prices at any moment will always depend upon the interaction of supply with the cumulative subjective valuations of every market participant, to the full extent of such participation, it becomes obvious that there never can be a perfect medium. Gold remains, and probably always will remain, the "pick of the litter."

Money & Water

We have previously noted similarities between the behavior of money & water--for example, see again the February essay. One cannot understand effects of inflation on price unless one appreciates the ability to contain money, like water; to dam it up, to construct reservoirs to hold it for future use, or to refrain, for whatever reason, to spend or invest it immediately. Yet like water, if the dam breaks--or the water tank ruptures--or the casual or deliberate holder of money or money substitutes (including outstanding credit) panics--the rush to the low ground, or to spend before still more value is lost, can be cataclysmic.

That otherwise knowledgeable business folk, including those who make their living analyzing markets, can yet speak of "deflation," when they really mean falling prices at a time when political powers and central bankers have already more than replaced money substitutes wiped out in the 2008 financial collapse, in an ill conceived effort to jump start a recovery, shows how poorly is our point appreciated. That many, including 'bailed out' banks, may choose to hold more funds in reserve, rather than rush to spend or further expand the monetary base by extending ill conceived credit, may well delay an ugly, though probably inevitable, experience. The real damage to the economy, from the use of fiat money in the tragic American War of the 1860s, did not come until the 1870s. The real effect of LBJ's inflationary innovations (the "Great Society") wrecked President Carter's credibility, a decade later.

No one can predict the exact moment when a monetary dam breaks; when people rush to spend their savings; when bank withdrawals overwhelm the FDIC, triggering a new round of monetary expansion at the worst possible moment; when foreign nations rush to unload their dollar reserves, etc.. The analogy, then, is to the Johnstown flood. When the Germans had their equivalent in the early 1920s, a large section of the middle-class, who had confused patriotism with folly by holding reserve assets in Marks, were wiped out. Desperate, they turned to militant Socialism a decade later. All of Europe paid the price. Might it not have been better, had Germans held more of their personal reserves in assets freely convertible into gold? Would not all Americans be more secure today, if more Americans held substantial personal reserves in gold?

Price & Price Changes

It is easy to draw wrong conclusions from market action, at any given moment, due to a complex of fluctuating, yet purely psychological, factors that affect valuations of goods, services & future anticipations, quite apart from immediate measures of supply, demand or aggregates of the medium of exchange. In the Debate Handbook Chapter on Economics (below), we discuss an inertia factor in pricing--why some producers will cut quantity before raising price under inflationary pressure. But that is but one of such virtually unlimited factors that can come into play. For the classic example, consider the Dutch Tulip Bulb mania in the 18th Century. On the other hand, the failure of gold to soar well over $35 per ounce, before President Nixon finally conceded the inevitable by ending gold/dollar convertibility, reflects multiple price restraining influences.

The point is that one can never be certain how close--or how far off--the cumulative mental processes that may start or defer the rush to unload reserves of an inflated fiat currency. It is precisely because of that uncertainty, that it is essential that as many market operators, as possible, understand both the potential danger, and why it may not be completely imminent, before resolution gets underway, to a never completely predictable extent or fashion. The daily denial of a currency inflation already in place, by pundits on market focused cable channels, confusing price with inflation, can only increase the potential for many to be caught unawares, with incredible damage to our economic future.

Gold & America

America, as synonymous with the people who created the Federal Union known as the United States of America, was born to a gold standard; was intended, always, to remain on a gold standard! No reading of Article I, Section 10, of the Constitution, coupled with key provisions of Article I, Section 8, can lend itself to any other interpretation.

The first paragraph of Section 10 reads in relevant part:

No State shall . . . make any Thing but gold and silver Coin a Tender in Payment of Debts.

Note, there is no exception provided. Contrast that paragraph with the second and third paragraphs of the same section, which, while also limiting the powers of the States in certain particulars, make clear provision for exceptions:

No State shall, without the consent of the Congress . . . (Paragraph 2)

No State shall, without the consent of Congress . . . (Paragraph 3)

Article I, Section 8 reads in part:

The Congress shall have Power To . . . coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures;
To provide for the Punishment of counterfeiting the Securities and current Coin of the United States;

Would it be rational to so interpret the above provisions, to allow the Federal Government to coin as money neither gold nor silver, or money not immediately convertible into same; when by those provisions, such non-convertible currency could not be used to discharge debt in any of the constituent States? One could go on with other aspects of the inherent incongruity in such a notion; with the absurdity, from a rational perspective, of what has transpired since Franklin Roosevelt called in the people's gold & openly repudiated solemn obligations--debts specifically payable in gold;--but to the rational reader, the above should be sufficient.

Honorable personal dealings, predictability in economic planning, confidence in the integrity of the administration of political power, from an American perspective, were from the first predicated on an ongoing gold standard. It was a dynamic, gold-denominated--and to some extent gold-motivated economic growth--before FDR, which built the industrial plant that made America the World power, able to overwhelm the other two most successful nations of the Twentieth Century, in World War II. (Remember, we only came out of the Depression with the War, our industrial plant had not been growing under Roosevelt, prior to the War. We still had massive unemployment, massive under-utilization of what had been built when the Dollar represented 1/20.67 ounces of gold & literally was "as good as gold.")

The Founding Fathers understood gold as the best measure of monetary value, its acquisition a spur to labor. So long as we understood why the Constitution read as above, Americans could risk capital & build wealth without fear of politicians being able to squander the fruits of generations of American labor; and America became the economic power-house of the earth. There is a direct relationship between economic quackery--the resistance to monetary discipline based upon a Gold Standard, which followed FDR--and most of our economic problems.

Common Fallacies

Any discussion of the significance of gold, whether as medium of exchange or pure store of value, in the economic future of America or Americans, will likely elicit a number of comments that demonstrate some all too common fallacies. These include:

A. Ones that reflect the idea that gold, as a personal reserve opposed to fiat money, lacks utility for new investment in future growth. A typical comment, you may hear: "What can one do with it? Bury it in the yard? Pay someone to store it?" Such comments, of course, are absurd. Gold, as money, is certainly not at a disadvantage to fiat currency. Gold as currency, whether coined or via bank notes, fully convertible into gold coin, offers every convenience of fiat currency, without the obvious susceptibility to being debauched by rulers or politicians, inflating fiat currency in order to distort markets & reward favored subjects, always at the expense of those who actually perform more functionally in a free market.

B. Ones that reflect the idea that a gold standard is oppressive to those in debt. This notion was most eloquently voiced by the monetary quack, William Jennings Bryan, shouting at America with all blasphemous connotations, "Thou shalt not crucify Mankind upon a Cross of Gold!" Anyone, who understands the use of currency, any medium of exchange, must recognize the desirability in maintaining the value of that medium--the predictable value of that medium, whatever its non-monetary nature--if its true utility, as a medium of exchange, is to be preserved. Essential to such usage, is the ability to preserve value for future purpose. What Bryan actually sought was a distortion of that utility, a benefit to one class at the expense of another--to borrowers at the expense of savers & lenders. He should have used his eloquence, a few years earlier, to caution against over-leveraged borrowing--the same blind ignorance that brought ruin down upon us, once again, in 2008. Again, one of the true strengths of a gold standard is--and certainly should be--a constant reminder that one must look ahead to hard times--to lean years--as well as years of plenty.

C. Ones that fail to recognize that under certain conditions, money, itself, can become overly dear. With respect to gold, this was demonstrated in a sudden surge to $800 per ounce in 1980, in part fueled by an artificial inflation of the silver market in Bunker Hunt's attempt to corner that market, and a belief that gold would not fall to less than 16 times the value of silver--the ratio that Bryan cited in demanding the free coinage of silver in 1896, when supply had actually made that ratio obsolete--although maintained in Governmental silver trades until the 1960s by a systematic, yet incredibly stupid, sell off of our Gold Reserves. Thus, while a temporary surge to $195, at the end of 1974, reflected natural demand once America stopped selling her Gold Reserves at $35 per ounce in 1971; monetary considerations got lost in pure speculation in 1980, when the price probably should have settled between $300 & $400 per ounce.

A 2009 phenomenon, parallel to the 1980 rush into gold, is seen in the current rush into U.S. Treasury obligations with negative real yields--given the increase in the supply of fiat money. This cannot be justified on any normal economic basis. When those purchases unwind, no one living can predict, with any possibility for accuracy, how high the price of gold will go. One limiting factor may be the fact that, unlike some previous, inflation distorted, markets, where gold and stocks often moved in opposite directions, those seeking protection from fiat money have now driven up the price of both gold & non-commodity based equities. This shows a growing understanding of actual inflation, and may tend to balance the coming surge. It also suggests that there is little, if any, puffery in the present gold price. The speculator has too many alternatives.

Other economic fallacies, still in play, were discussed in our March & April features (below) on the addiction to easy credit & Keynesian economics.

America's interest is certainly not in wild, speculative, swings driven by forces outside the actual market, manipulating the supply of money for ulterior purposes. Rather, we must find reasonable means to let a free market redefine the actual value of our currency in terms of gold; to return to a dollar, fully convertible into gold; a currency that again provides the moral and practical incentive to frugal action: One that returns economic power to a provident & productive citizenry, able to chart their own future, yet with better understanding of the ebbs & flows of material success, which recur, endlessly, throughout the history of great nations.

All we are calling for is an end to economic quackery--a return to what actually works!

William Flax

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