WHAT GOOD IS GOLD?
No good at all.
by Eric Andrews
October 20, 2007
Readers may fondly recall one of Fred Astaire�s last works, �Finian�s Rainbow�. In it, we find one of Hollywood�s most insightful passages on gold, as told between peripatetic Irishman Finian McLonergan and his daughter Sharon (the lovely and talented Petula Clark):
�Finian: Let me ask you this: What do you think makes America different from Ireland?
Sharon: Has more Irishmen?
Finian: It has more money. Everyone in America is rich.
Sharon: But, Father, are there no poor in America? No ill-housed and no ill-clad?
Finian: Of course. But they're the best ill-housed and the best ill-clad in all the world. Why? Why, I ask. And there's no man with wit enough to tell me. So I'll tell you. Quote me self, quote: Didn't the Americans rush to dig gold from the ground in California in 1849?
Sharon: So I've heard.
Finian: And didn't they plant it in the soil at Fort Knox later?
Finian: Well, that's it: You see, there's something about the soil in and around Fort Knox that gives a magical quality to gold. ...The gold radiates a powerful influence throughout America. It activates assembly lines in Detroit, it makes skyscrapers sprout from the gutters of New York and it produces a bumper crop of millionaires. �And that is the McLonergan theory of economics.�
Thank you Mr. McLonergan; I rest my case. Others have commented on the same peculiarity: that gold dug out of one part of the earth, and stored in a vault in some other, should be a cause for general prosperity. We can all agree that this is probably the craziest thing we've ever heard as well as the greatest waste of effort in human history.
But don't take my word for it, let's take it from published objections of others: gold in itself is nearly useless: you can’teat it, you can’tdrink it, drive it, build with it; it doesn't increase your health or make for happy, well-fed children. In fact, in many places in the US�the Black Hills of North Dakota, or Sutter�s Mill, California--entire races lived for generations without bothering with it at all and were much the better for it: their troubles started after people came who DID trouble with gold.
Worse yet, gold is not spendable anywhere in the world. It is not the currency of any nation, and except the years 2001-2007 has lost value for 20 years, and today remains 80% lower than its 1980 value.
Given this: it is not liquid, it has declining value, it is good for virtually nothing but plating contacts and decorating frames and yet inspires violence wherever it is found--
What good is it?
Mr. McLonergan, if you please? Finian�s theory is that there is some �magical quality� that �radiates a powerful influence� from Ft. Knox and �activates assembly lines in Detroit, it makes skyscrapers sprout from the gutters of New York and it produces a bumper crop of millionaires.� Does history bear this out, or has the man from Glocca Morra been drinking too much?
However unlikely it may seem, history agrees with McLonergan: since the establishment of gold as a medium of exchange, we read about the �magical quality� gold has on those nations that dig it up from one hole and bury it in another. He's right: this is the oddest thing in the world. It must be magic! What�s more, a whole field of study called �economics� was developed to explain this magic.
But how does this magic radiate out from Fort Knox to activate assembly lines? How does it create millionaires?
Let's go back to our early peoples, dangerously tripping over gold nuggets: In Lakota society, in Miwok and Maidu villages, gold was worth less than obsidian or pipestone. Why? No need for it. Societies of this size have no need for this thing called �money�; they are small enough, and people know each other well enough that all exchanges can be made face to face. If someone cheats, everybody knows it and can personally enforce their displeasure.
How is this different from early Europe and Asia? As societies grow more complex, the ability to trade efficiently becomes harder and harder, eventually creating too much �friction� (cost of exchange) to be manageable. As Thoreau noted of another Irishman:
�If an ox were his property, and he wished to get needles and thread at the store, he thought it would be inconvenient and impossible soon to go on mortgaging some portion of the creature each time to that amount.�
So with all societies with a greater variety of unique, technically made goods, especially when originating from many distant areas and peoples. For how can an iterant Irish tinker expect to trade goods if he has but ox-mortgages as payment?
For this reason, �money� came into being. �Money� is and has been many things, but it has a few common elements:
- It is the most common trade good and medium of exchange: that is, it has the broadest acceptance and highest �liquidity�.
- It is a solid store of value: It is predictable for its value increases or decreases very slowly, and is widely expected to keep its value into the future under a variety of circumstances.
- It has low storage costs and long shelf-life. Bananas are not a good long-term store of value. If you had to save in bananas, the loss to savings would be 100% a month.
- It must be fungible. As all oxen are not alike, all paintings are not alike, all bananas are not alike. The �most alike� commodity would be the most useful in valuing transactions, and the most acceptable and divisible as change.
- In addition to acceptance, stability, storage, and equality, it would be preferable to have the highest value in the least possible space. This is for our traveling tinker�s sake: money exists for trade, and trade means travel.
Later, other requirements appeared. An important one is �Unit of account�. This makes it possible to calculate profit and loss, and so predict business status via double-book accounting. It also makes standardized interest possible. If you traded a 1963 Chrysler Valiant for a 1969 Chevy Nova, adding an interest payment of 8 bananas and a dog, did you win or lose the trade? With a �Unit of account� as measured in numbers by your universal, fungible commodity, you can easily tell if you are moving forwards or backwards, winning or losing, and allows for ever more sophisticated finances and ever more complex societies. Imagine trading ox-mortgages for every assembly part of a 1969 Chevy. This thing called �money� works much better�so much better that a �69 Chevy is functionally impossible without it. No money=no �69 Chevy.
What does this have to do with Finian�s �magical radiation�?
Once we realize the need for something like �money� for all the value it can provide�division of labor and �69 Chevys and all�we should grab the quickest, cheapest thing we can get our hands on. How about paper script? How about pebbles? Pumpkins? Since it doesn't matter WHAT is the money, or what the numbers are on it, then surely anything will do. Right?
�Now you see the problem: as soon as money develops a trade value beyond its commodity use as copper, as tin, as bananas, then we find out we must choose something that is LIMITED IN SUPPLY. What gives money its value is its SCARCITY. Or more accurately, it’s FIXITY. When money becomes less and less scarce and has greater and greater production, it gives rise to �monetary inflation� where an increasing quantity of the society�s �money� decreases in value: in short, prices go up as the value of money goes down. The highest requirement of money is that it is stable and cannot suddenly increase or decrease in quantity and value: people need to know where they stand with it.
But really, how big a problem is this? Surely people, realizing that without stable money a �69 Chevy is impossible, would never over-issue the currency and create too much money for themselves. Would they?
That was 2,350 years ago and the problem�and its solution�already existed.
Because what if the authorities are NOT perfect and the Kings are NOT divine? What happens if over time they DON�T resist issuing too much money? What do we do then? Because in the last 2,350 years history shows hundreds of times when authorities DID issue too much money, and each time the same bad things happened: prices rose, quality of life fell, social disparity increased, crime and violence became common, and gambling, immorality, abuse, tyranny, and a �live for today� attitude took hold. In every case, the afflicted society economically ceases to prepare for the future and collapses, usually coinciding with ruinous wars, and is in some cases even extinguished. It is an economic, social, and personal disaster and a historical guarantee. But you don't have to believe me. Believe the founder of our present monetary system, John Maynard Keynes in his book, The Economic Consequences of Peace:
�Lenin is said to have declared that the best way to destroy the Capitalist System was to debauch the currency. By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some. The sight of this arbitrary rearrangement of riches strikes not only at security, but at confidence in the equity of the existing distribution of wealth. Those to whom the system brings windfalls, beyond their deserts and even beyond their expectations or desires, become �profiteers,� who are the object of the hatred of the bourgeoisie, whom the inflationism has impoverished, not less than of the proletariat. As the inflation proceeds and the real value of the currency fluctuates wildly from month to month, all permanent relations between debtors and creditors, which form the ultimate foundation of capitalism, become so utterly disordered as to be almost meaningless; and the process of wealth-getting degenerates into a gamble and a lottery.
Lenin was certainly right. There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose.� (pg 235-236)
Great Og! And how may this national catastrophe be prevented? Well if you favor complex societies where you find a variety of unique goods from around the world, then you must accept some form of money and exchange. The Lakota-Miwok local-sellers-only plan is not for you. The best you can do is choose the RIGHT money. History is clear on this: thousands of things have been tried by thousands of people for thousands of years. The ONLY way to prevent over-issuance of money is to make it a substance that cannot be over-issued. By anyone. Ever. Only then can you avoid the collapse into a �disordered� and �degenerate� society, and a life no better than �a gamble and a lottery.�
Back to #2 of the 5 elements of money: money must be a store of value--its value cannot increase or decrease rapidly. The most stable unit of account supports real effort in the real economy by insuring the least arbitrary confiscation and unnecessary risk. And what is the substance LEAST ABLE to be created at will? Contracts can be made with a breath; paper script with a pen: only a tangible commodity will do. What�s more, only a very RARE commodity; a commodity so hard to extract that its volume can increase less than 2% a year for 2,000 years despite every technological advance. Better if this commodity has a high value per weight and volume. It would be uniformly divisible. It will not rust or decay. And it will be universally recognized as �valuable� by the most people over the longest time.
Copper is good, but a bit large. Silver still tarnishes. Platinum is ideal, but unfortunately it IS good for something and fluctuates wildly in value due to supply and consumption. This is because its stockpiles are too small; we need something that has a gigantic stockpile relative to yearly production and demand. What does that leave?
Gold. It is good for something only because it’s good for nothing. Because we have available so many tonnes of its uselessness.
Think about that.
What of the magical benefit of burying it in the ground? How does that work?
Gold, being utterly useless, has but one use: it cannot be counterfeited. Put another way, gold's sole use is to keep men honest. It is not that GOLD makes assembly lines in Detroit run smoothly, IT does not build skyscrapers: HONESTY is what allows men to be paid fairly when they create industriously, and properly rewarded men, freed from pointless risk and arbitrary confiscation, create all the more.
Gold has beneficial effects on the countries that hold it because a country based on sound money must be HONEST, and men and nations who deal with them will be paid promptly, fairly, and with the least risk of default. Naturally, a hard-working and honest nation will inevitably prosper from having the most stable, predictable environment to create and invest in, and where men are most likely to be paid according to their merit�even tiny nations that have no natural economic advantages (see Switzerland). All nations will most desire trade with the most transparent, surest, and most solvent nation�the original �most favored nation� status, and an enduring economic edge that cumulates over time.
The last point concerns gold's declining value. Like all things, the popularity of gold waxes and wanes in a lengthy cycle of ups and downs. True to form, gold's value DID decrease very slowly, and took a generation to fall 80%, unlike the Nasdaq which fell 80% in 18 months. Such volatility is also highly unusual in gold's 5,000 year history. However, it is also unfair to measure any long-term value from peak to trough or trough to peak: to get a fair value one must measure peak-to-peak or trough-to-trough. Otherwise, why not say stocks are a poor value when measured from 2001 to 2003 and ignore all other years? Or Black Monday from 10 am to Noon? Or gold from 2001 to 2007 when it has been not a worst asset class but a BEST? Over thousand year periods, gold has held its value. Over 100 year periods, gold has held its value. Over 5 year periods, gold has held its value. It is only in 3 anomalous periods that gold's value so wildly fluctuated:
In short, until fiat money became cmmon, starting with the French Assignat in 1790, (trough above), overissuance of debt in the roaring 20�s (trough above), and �guns and butter� deficits of the 60's (trough above), gold had a stable price. As fiat money became ever-more common, the fluctuations in gold value became ever-greater whenever people gyrated between risky paper promises and the former �stable unit of account�. In a sense, the gold price is a sign of fickle confidence in fiat-based money and not of a rising or falling value of gold. Considering the incredible advantage of a stable unit of account, that is a fatal shortcoming which cripples the underlying economy, turning it from real production into Keynes� �speculative lottery.� The periods following those fiat crazes were: French Revolution and Napoleonic Wars; The Great Worldwide Depression and WWII; the Bear Market of 1970 and collapse of Emerging Market Nations. Not a pretty picture.
1980-2001 is a period cherry-picked to show falling value in an unusually volatile spike in 5,000 years of monetary stability. The above chart shows gold remains in a long-term norm, and if anything, it has been RISING in value for most of this decade. Note the above chart is only to 1998: if today's price were added, it would already show a substantial increase in price. Contrarily, due to high commodity prices and monetary inflation, the �real value� of today's gold is likely to be not $760, but under $660 when measured in the 1998 dollars noted on the chart�barely the 300-year average.
Is gold still valuable and accepted by the most people worldwide? Despite high conversion costs, the answer is yes. Gold remains universally accepted in every nation on earth, perhaps THE most universally accepted. Nothing else: not Pounds, Euros, Yen, or Dollars; not oil, not copper, not tin or bananas. De facto, and measurably so: �Gold is money. Nothing else.� �J.P. Morgan. (footnote 1,2)
The magic of gold is no magic at all: when used as fair exchange, it insures honesty among men. That is what it is good for. That is how it powers assembly lines, sprouts skyscrapers, and makes millionaires. �And that is the McLonergan theory of economics.
- Gold is measurably money using comparative charts, well-represented here: link I freely admit that gold has no �intrinsic� value whatsoever. It only has value according to what people will exchange for it, the same as paper script. However, history shows that, for the peculiar reasons listed above, there is almost no time or place where gold is NOT valuable. Real life: stranger than fiction.
- This J.P. Morgan quote is from his testimony before U.S. Congress in the 1913 Pugo Hearings.
© 2007 Eric
Buffalo, NY USA