Friday, March 13, 2009

Silver and Gold

I used to be the kind of person to look upon gold investors and proponents of the "gold standard" as loony conspiracy theorists. I thought, surely we're past that, right? You can't be serious? Gold? Real money is found in the stock market, and what good is gold sitting in a vault in Fort Knox? We so often build our understandings upon faulty foundations—trusting the source of information uncritically, and I wonder if we haven't done this in accepting the role of the Fed in monetary policy.

I've heard enough about gold in the past couple of months that I began a serious investigation into the merits of investing in gold. The investigation has been eye opening. Before I begin, look at these two charts. The first graph represents gold, silver, and how they compare against the Dow Jones Industrial Average since 1970 (Note Nixon took us off the gold standard in 1971). I used data from Wikipedia to determine how much gold and silver one could purchase based on the DJI index in 1970 and then carried that amount of gold (22.43oz) and silver (524.31oz) forward for each five year period up to today.

Clearly if one had invested $838.90 in gold in 1970 one would have been far, far ahead of the Dow. Silver has had a different path, though the two are very close together again now.

The second graph is a little more applicable to my own situation, since it begins in 2000, just before I began investing in a Roth IRA for the first time and then a 401k. Look what 10,786.90 in gold in 2000 would be worth today. It is astounding compared to the Dow.

It almost makes me want to cry. But we mustn't dwell on what might have been; we must think about now and future investments—that is what matters now. These graphs don't prove or even necessarily indicate that gold is the better investment now. What we must understand is why gold has trended ahead of the Dow and if there is good reason to believe this will persist.

It is hard to imagine now, but Alan Greenspan was once a proponent of the gold standard and wrote an excellent article defending its purpose in 1966. I commend it to you. Here is a highlight:

Under a gold standard, the amount of credit that an economy can support is determined by the economy's tangible assets, since every credit instrument is ultimately a claim on some tangible asset. But government bonds are not backed by tangible wealth, only by the government's promise to pay out of future tax revenues, and cannot easily be absorbed by the financial markets. A large volume of new government bonds can be sold to the public only at progressively higher interest rates. Thus, government deficit spending under a gold standard is severely limited. The abandonment of the gold standard made it possible for the welfare statists to use the banking system as a means to an unlimited expansion of credit. They have created paper reserves in the form of government bonds which-through a complex series of steps-the banks accept in place of tangible assets and treat as if they were an actual deposit, i.e., as the equivalent of what was formerly a deposit of gold. The holder of a government bond or of a bank deposit created by paper reserves believes that he has a valid claim on a real asset. But the fact is that there are now more claims outstanding than real assets. The law of supply and demand is not to be conned. As the supply of money (of claims) increases relative to the supply of tangible assets in the economy, prices must eventually rise. Thus the earnings saved by the productive members of the society lose value in terms of goods. When the economy's books are finally balanced, one finds that this loss in value represents the goods purchased by the government for welfare or other purposes with the money proceeds of the government bonds financed by bank credit expansion.

Is it not telling concerning our woes today? In this excerpt Greenspan argues the following points:

  • Credit is inherently limited under a gold standard.
  • Deficit spending is "severely limited" on the gold standard.
  • The welfare state is only made possible off the gold standard.
  • Inflation erodes "the earnings saved by the productive members of the society…"

That list reads like a diagnosis of what is wrong with our current economic situation, does it not? We had too much credit, our deficit spending has been out of control for decades, government spending is reaching unwieldy proportions as the welfare state expands, and our savings have been destroyed through inflationary forces.

I haven't studied these matters enough to say anything definitely, but there seems to be a link between the end of the gold standard and economic bubbles that we have been experiencing.

Greenspan's conclusion is a very serious indictment of fiat currency and the consequent deficit spending:

In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value. If there were, the government would have to make its holding illegal, as was done in the case of gold. If everyone decided, for example, to convert all his bank deposits to silver or copper or any other good, and thereafter declined to accept checks as payment for goods, bank deposits would lose their purchasing power and government-created bank credit would be worthless as a claim on goods. The financial policy of the welfare state requires that there be no way for the owners of wealth to protect themselves.

This is the shabby secret of the welfare statists' tirades against gold. Deficit spending is simply a scheme for the confiscation of wealth. Gold stands in the way of this insidious process. It stands as a protector of property rights. If one grasps this, one has no difficulty in understanding the statists' antagonism toward the gold standard.

This is a remarkable statement. Greenspan is essentially stating that the end of the gold standard (which hadn't yet occurred when he wrote this) marked a turning point when our government chose to be against the people, rather than for the people. It is no wonder that proponents of the gold standard began calling our government fascist. Statist control of the monetary system subjects the money of the people to the whims of politicians, bureaucrats, and recently mortgage companies, insurance companies, and sub-prime homebuyers.

Look at this chart and notice the correspondence between the price of gold and the national debt beginning in 2000. While it is dangerous to draw a correlation in only eight years worth of history, it seems as though the price of gold may be proportional to the size of our debt. If this is true, gold will prove to be an excellent source of protecting value.

It should probably not surprise us to see how well gold has performed since we've moved off the gold standard. What few will tell you, is that it is not gold that is performing well, as much as the market has gold priced correctly to the dollar. If this is true, it shows that our money is eroding in value, and traditional investments in the stock market cannot keep pace with inflationary forces, while only a metal like gold will retain its value.

My study of gold has provoked many questions that I think others must wrestle with to gain a proper perspective on understanding money. But perhaps the ones I thought were loonies have been right all along?

1 comment:

Pilgrim said...

I'm also a recent convert to the economic Ludditery of the Gold Standard/Austrian School, though you're a much quicker study than I.

This is what makes sense to me: "The law of supply and demand is not to be conned," because it reminds me of Galatians 6:7.

The more I learn about the wrangling that has been done over the past 80 years to control the economy to the advantage of the State and the banks, the more our current situation makes sense. It's a frenetic scramble to "save face," to keep up the scam, to deny the obvious failure of their unjust measurements and weights.

God is so good to not allow injustice to prosper forever. Dishonesty yields bad fruit, always.