The following is a guest post by Trace Mayer, J.D. an entrepreneur, investor, journalist and monetary scientist with degrees in accounting and law who understands economics and can help you understand monetary science and economic law at Run To Gold and how to control your personal privacy at How To Vanish.
A couple days ago Kevin wrote a great article about gold’s recent rise and potential along with including my chart to which Timothy@The Wealth Artisan responded in the comments, “Hands down, this is one of your finest articles. This is extremely thorough in many regards. The Great Credit Contraction image is a huge eye opener as well.” There are major changes happening to the world financial system, like tectonic plates shifting, and as Kevin points out gold is money. But you work real hard every day to hopefully accumulate some capital and what does ‘gold is money’ mean and how can you apply that true knowledge of monetary science and economic law to your hard earned capital to invest it wisely?
GOLD IS MONEY
To perform mental calculations of weight we use terms like pound, ounce or kilogram. To perform mental calculations of distance we use foot, yard or inch. To perform mental calculations of time we use terms like day, year or second. Can you imagine the confusion and chaos if we had no intelligible definitions for words like pound, ounce, kilogram, foot, yard, inch, day, year or second? What if an inch equaled a foot which equaled a microsecond?
This is one of the reasons that Article 1 Section 8 Clause 5 provided for Congress ‘To coin Money, regulate the Value thereof, and of foreign Coin, and fix the Standard of Weights and Measures.’ Having a definition is a fundamental prerequisite to using a numeraire either personally or collectively as a nation.
At all times and in all circumstances gold remains money. It is the most important money in the world. This does not mean it is the most widely used or popular currency, the medium of exchange in ordinary daily transactions. Additionally, money does not really have much of a definition other than it must be a tangible asset.
As a trained attorney I am equipped with the skills to isolate issues and define terms. The Founding Fathers, many of whom were also lawyers, understood this principle of definition and its importance because they specified in Article 1 Section 8 Clause 5 that Congress has power to ‘Coin Money’. Notice it says coin rather than print. Under Article 1 Section 10 Clause 1 the Framers restricted the powers of the States with ‘No State shall … emit bills of credit or make anything but gold and silver coin a tender in payment of debts’.
These monetary powers and disabilities in the US Constitution show that gold and silver are not mere commodities to be shaped into fun coins or bars to pet but instead that the monetary metals are essential checks and balances in the political machinery. They are so essential to ‘insure domestic Tranquility’ that the 1792 Coinage Act under Section 9 defined the term dollar, used twice in the Constitution, as 371.25 grains of fine silver and then Section 19 it provides ‘That if any of the gold or silver coins which shall be struck or coined at the said mint shall be debased or made worse as to the proportion of fine gold or fine silver therein contained … every such officer or person who shall commit any or either of the said offences, shall be deemed guilty of felony, and shall suffer death.’
What is a dollar? The conclusion is that under current federal law there is no intelligible definition. Just like if you were to attempt to build a skyscraper with no intelligible definition for calculations of weight, distance or time so likewise is the current worldwide financial crisis any surprise?
THE GREAT CREDIT CONTRACTION
Liquidity Pyramid. Source: http://www.runtogold.com/
Some pictures are worth a thousand words but as Timothy said, ‘The Great Credit Contraction image is a huge eye opener as well.’ While imperfect I have attempted to distill thousands of pages of economic theory and monetary science into the chart. Heck, just explaining how the image conveys Inflation Or Deflation took about 3,000 words. The current fiat currency and fractional reserve banking system is evaporating; as opposed to collapsing because that connotes there is wreckage. Capital, both real and fictitious, is burrowing down the liquidity pyramid into safer and more liquid assets while the illusory wealth returns to the monetary netherworld; it never really existed anyway.
Understanding this mega-trend undergirding gold’s performance is essential in regards to your capital so you can invest it wisely. For example, a few charts I include in my book The Great Credit Contraction show how the price of stocks and homes in gold or silver are declining.
Source: http://www.runtogold.com/
Source: http://www.runtogold.com/
As a trained accountant I understand the importance of financial statements being ‘comparable’. What does 2+2 equal? Is not a prerequisite a stable definition of the term 2? What if there is no intelligible definition? Then you get the ‘good accountant’s’ answer: Whatever you want it to be.
But jokes aside we are talking about your money and the most valuable of all your commodities: time. You work hard all day long and probably do not spend all the fruits of your labor which leads to the need to invest excess capital wisely so you can build an infinite portfolio to escape the rat race. Quantitative easing is just another name for massive confiscation through inflation which is a form of taxation without representation. As you become better acquainted with monetary science and economic law you will likely no longer grope around unintelligibly but instead make wise, rational and logical capital allocations which generate positive returns. But returns in what? GOLD.
In May 2010 Rep. Anthony Weiner accused Glenn Beck of trying to play on people’s fears by persuading them to buy gold. Being consistent with RunToGold’s practice of using gold as the numeraire I calculated Mr. Weiner’s balance sheet in gold and found that in about 10 months he had a staggering loss going from 154 to 121 ounces of gold or about 21.2%. Worse, he probably does not even know it.
Source: http://www.runtogold.com/
CONCLUSION
The Great Credit Contraction has started and there is no stopping it. Economic law will play itself out. But Rep. Weiner’s financial condition does not really matter to you. What matters is do you know where you stand financially in gold? If you want to learn the truth about money you are going to have to learn it on your own. Now whether you buy gold or not is a completely different issue.
In fact, based on the 200 day moving average I think it is a little expensive right now but still has some room to run. Where? Probably around $1,500 to $1,650 like Kevin wrote. But if gold is expensive then the question becomes what should I buy? The answer is something cheap when viewed in gold; like an average American house priced around 500 ounces of silver which is a long ways to drop from the current price tag of about 20,000 ounces.
This was a guest post by Trace Mayer, J.D. an entrepreneur, investor, journalist and monetary scientist with degrees in accounting and law who understands economics and can help you understand monetary science and economic law at Run To Gold and how to control your personal privacy at How To Vanish.
[Kevin] Thanks for sharing this post, Trace! I’ve done a lot of reading and thinking about this subject lately. It seems that in the past few decades, North Americans have increasingly disregarded gold as money. In fact, the gold “investor” or physical bullion purchaser has been looked upon with suspicion and disdain. Only recently are some people regaining interest in gold, but this is mainly due to the great price hike over the past few years. Much of this interest is speculatory in nature, but I don’t think that gold should be looked at as a “get-rich” scheme nor as an investment in the traditional sense. Gold’s primary role over the past few thousand years (excepting the past few decades) has been as a form of money. After undergoing years of disrespect, could gold once again be regaining its seat at the table of money?
World Bank President Robert Zoellick recently said that “The system should … consider employing gold as an international reference point of market expectations about inflation, deflation and future currency values.” Some have interpreted this statement as a desire to move back to the classical gold standard of the late 19th century and early 20th century. I personally don’t believe this is appropriate. The gold standard did not prevent the massive credit ramp-ups that occurred back then, and returning to a fixed-price regime will not fix our problems today.
What I believe is that instead, people should be personally free to save and trade in the money of their choice, and there should be no laws or restrictions prohibiting them from doing so. Instead of going back to a fixed regime where a standard is enforced top-down by the government, we should move forward and continue the trend that we’ve been heading down by floating currencies against each other — except that people should be free to also choose gold, silver, and anything else they would like to use as money and as a store of value. These would also float against fiat, but under fair terms. Let the ordinary people have the same freedoms that central banks enjoy today. Give people back their freedom over their money and wealth. They may choose gold as their preferred money, just as they have for thousands of years, except the choice will have been freely made based on its merits, rather than by decree.
So, reader, what are your own personal thoughts and feelings as gold? Do you feel that it is a “barbarous relic”, or does it have a valuable role to play in our monetary system? Is the recent price rise indicative of a price bubble, or could there be other factors at play, as well? Perhaps most importantly: do you think that the current actions of central bankers are going to lead to more prosperity down the road, or more headaches and problems? I’d love to hear your thoughts.
With a lot of people monitoring the daily ups and downs of various indicators, it’s nice to read an article that actually looks at what will happen in the future with a solid basis in fact.
I especially liked the liquidity pyramid as a way of bringing perspective to investors. I really never thought about gold like this before.
I currently don’t own any gold and I probably won’t anytime soon. Whatever protection gold is giving you from inflation or currency devaluation can be sought in a number of other commodities. Some people have turned gold into some divine form of currency where they have nothing to do but preach about how gold will protect you from the end of times (financial end).
I am looking forward to the next black swan event that will have many of them trampling over each other to reach the exit because “investors” are seeking the safety of the USD.
I definitely think gold still has a place in our monetary system. To me, it is a benchmark. It is tangible and has real value. I wish I actually owned gold.
I suppose the phrase ‘gold standard’ was coined for a reason. Without gold, I don’t know what we would base our monetary system on. Gold is gold, no matter what country you live in, unlike a dollar or a euro. It is a baseline that applies to any culture in a sense.
Excellent post, Trace and Kevin, especially the part about the 1792 Coin Act. I guess if the courts were to stick to the letter of the law, the various Federal Reserve chairmen would be in a bad pickle. More than gold, I like silver both as money and as an investment, especially with mining companies. Within the small economic island that is our household, “junk” silver is used as a currency for chores, kids savings, and refunds. Not too long ago, mowing the back yard used to cost us 4 silver dimes, now our oldest will do it for 2. He’s been saving up for his first car in silver coins and bars, and so far he’s done rather well.
This was one of your–if not THE–best post I have read by you, to date. You’re (obviously) right that the dollar does not have an intelligible definition. Like the idea of “addition,” it is a term that has been agreed upon to represent a common understanding of concept. While gold SHOULD be looked at as money, do an experiment. Try taking it to a bank to exchange for its monetary value. I did this once as an experiment, and I was astonished that my “money” wasn’t accepted. I kind of figured that’s the way it would turn out, but I’m the type of person that always has to check it out for myself.
Glad ya’ll have found this article helpful. @EverydayTips, you hit on a very important issue. Many people think if I save Y units of this figment of people’s imagination then I will be able to retire. But really they should be concerned only with I will need to have access either through savings or income from investments to X grams of gold per month.
@101 Centavos, we should keep in mind that the 1792 Coinage Act has been superseded by legislation so the death penalty for monetary debasement is not currently good law. However, I think it is a good issue to begin discussing in the national body politic. Dr. Ron Paul has discussed it before and as the new chairmen of the monetary policy subcommittee it may come back to the forefront.
@Jessica, glad you found it helpful and I am grateful Kevin let me share it with ya’ll. Under federal law the ‘legal money’ should be redeemable for ‘lawful money’ but that would take a whole lot of explaining.
I would be absolutely delighted if you took the time to share it with me. I have a bit of an interest in the law… but that would probably take a whole lot of explaining, too. 🙂 Seriously, though, if you find the time, I would really appreciate it if you’d shoot me an e-mail on the subject. In the meantime, maybe I’ll do a little research on the subject.
I just have a hard time seeing gold ever being a viable form of currency. It is just too illiquid and is subject to huge price swings. I actually think that gold has peaked. I think 1,100 to 1,200 is the next destination for gold.
What you described above in using gold and silver as references to purchasing power show the clear effects of inflation over the last 40 years. It also scary to look at the size of the secondary and tertiary markets of investments and derivatives your showcase in your chart.
Right now the US and Europe are walking an extremely fine line between inflation and deflation. There is still inflation: look at energy and food prices. But there are also a lot of signs of deflation: look at home values and consumer goods.
The consumer price index for October was just released, and it was only 0.6%, which is very low. That shows that in “the basket” there had to be a lot of items that went down in price, and a few that went up. For the economy, this doesn’t bode well, and if deflation sets in, welcome recession 2.0.
As for gold, I think the price increases are sustainable in the short, but once the recovery is complete (medium term), gold will return to its 2000 levels. Gold prices will continue to rise over the long term (20+ years), since it is a scarce mineral with a high cost of extraction, but it probably will rise only in line with the rest of the market, and since it doesn’t pay any type of dividend, is it worth it? I don’t think so – its purely a speculative bubble play.
I still don’t understand gold as the all-powerful currency, I mean at the end of the day it is still as edible as a piece of paper with Washington’s face on it. Gold is a currency just like the dollar or euro, it’s only valuable insofar as people are willing to consider it valuable. It’s inert, and 95% of the mined gold throughout history just sits around looking pretty, unlike say even silver which at least has various industrial uses. Also given that people can now easily speculate in gold (what with the ability to buy gold etfs), it starts looking more like a commodity/fiat currency than an absolute scale.
I find the liquidity pyramid picture is misleading. I’d argue that it’s wrong as liquidity is a matter of social convention, and in that case fiat currency money is the most liquid, as you can’t walk into a supermarket and drop some gold to pay for your groceries. You’ll need to convert your gold into a more liquid form (currency) just as you’ll need to sell your real estate before being able to use the value in it. Now back when gold was pressed in coins, it was completely liquid, but as that changed, so did it’s liquidity. I’m pretty sure you wouldn’t accept goats as a standard form of payment anymore either.
Gold/Silver/Platinum/Palladium are the hot investments du jour. Whenever you see commercials all over the TV trying to sell precious metal based off of fear of currency devaluation, it is probably not the right time to buy. What is the intrinsic value of gold? I couldn’t begin to tell you. But as long as the dollar is falling in price relative to other currencies, the trend for gold is up. As always, the best time to buy an asset is when no one else wants it.
I agree 100% with The Biz of Life. When taxi drivers are telling me to buy gold (which they are!) you’d better be selling the stuff. History is full of smart people trying to rationalize the irrational. When will the excesses end? Nobody knows. But they’ll end badly for people getting into gold now.
What do you do if people get scared and start hoarding gold? Do you sit back and watch the economy implode? Do you use resources to go dig up more gold? Since 1971 when Nixon took the world off of the quasi gold standard until recently the global economy worked fairly well. The current meltdown was not the result of the fiat money system – it occured because of ineptness of the Fed. The response is problematic because the fiat system is allowing a base to be set for excessive inflation. But it is not the fiat system that’s the problem.
Even in a gold standard system the money gets debased.
Thanks for stopping by everyone. Hopefully Trace has the time to stop by and give you all his thoughts on your comments. I’ll also give you my thoughts soon. 🙂
Trace, Kevin,
Informative and well researched post. Whether one wants to debate if gold has a place in our monetary system or not is somewhat is missing the point. Gold’s price movement over the past 10 years is proof that gold has never left the monetary system. From 1980 – 2000, gold’s price was out of the picture as debt levels weren’t at a peak. As the debt grew to certain levels, gold simply acted as a reflection.
Try this on. Gold is the constant or real backbone of the monetary system. Our “fiat system” in it’s current state (which is in a debt crisis) is what is “barbaric” and has failed. It was fun but it’s time to be overhauled.
This isn’t about another internet or housing bubble. What is at the core and what is driving gold rise is pretty simple. The commercial and residential assets owned by the major banks are nowhere near what they are supposed to be valued. Would anyone debate that? Central Banks around the world are trying to keep those prices from imploding by injecting more liquidity into the system. That’s the “System” we’re on.
Central Banks took that gamble beginning around 2001-2, by becoming overly aggressive with interest rates and money/debt creation. All you have to do is go back and study the gold and dollar price charts for the past decade. It’s pretty clear. This is not “gold’s fault” or the result of lunatic gold bugs as those who carry sour grapes would have you believe.
As a private investor, I don’t buy gold to speculate. I own it for insurance purposes. Just like when you buy homeowners insurance, you hope you never have to use it. As we move through the credit contraction as Trace has outlined, Central Banks (most likely) will become more aggressive in their efforts to defend the overvalued assets. If nothing else, to ease the “collapse.” Ever wonder WHY Bernanke would go through with QE 2 with all the known criticism? If they DON’T engage in QE2, the banking system collapses.
Gold’s fault? Or, is the gold price the result of shoe shine boys telling you to buy gold? Hardly. Gold’s price is the consequence of a debt crisis and Central Banks/Planners are losing control of the debt. Zoellick’s statement is an admission that the “end is near” Meaning, we will see a new monetary system.
It’s also important to point out this is not just a U.S. Phenomenon. It’s a contagion affecting Euro and Yen markets just the same. As the world reserve currency, the Euro and Yen are simply derivatives of the US Dollar. You can’t change that now. Remember, gold is not U.S. asset. This can be seen if you look at the price of gold vs. the Euro and Yen as well.
Now, IF you believe we’ve passed through the worst and our central planners have the answers going forward, there would really be no reason to own gold or silver. Personally, I believe we’re at least 3-5 years away from that time.
I hear a lot of people bemoaning gold’s price as the next internet bubble and one must “avoid it at all costs” I truly believe that advice (as well intended as it probably is) will prove to be some of the most costly advice one could follow. You buy a stock and it’s up 10% but your currency is down 12%; you’ve lost 2%.
Robert Zoellick’s comments were not made by accident. When gold comes back into the system, you won’t be carrying gold coins in your pocket. If you believe gold’s price movement and rise are merely another speculation like housing and internet stocks, then you must also understand that you believe real estate prices from 2004-2007 were real and are coming back. Plus that all the derivatives and bad debts at the top of The Pyramid (See Above) will be paid.
Personally, I’d not take that wager and is why I own gold and silver as insurance.
Thanks Trace and Kevin, and cudos to Mike for an intelligent analysis. In my opinion the reason no one can put a value on gold is because we are ignoring this valuable definition: gold is a receipt for goods and services. What IS the value of goods and services? Well, it depends on each individual’s needs and wants; that is what makes up a market and this is why the price of gold goes up and down. Unforutnately we have been taught to think of fiat currency as a receipt for goods and services, when in fact it is a receipt for a receipt; at least it was until the early 1970’s when Nixon removed gold as the backing for the US dollar, the world reserve currency.
In Canada, where I live, the politicians play a similar self-serving game as in the States: to voters, they promise entitlements funded by future generations with no responsible thought of the consequences. They simply “kick the can down the road” as a path of least resistance. Although we have a resource-rich economy with one of the best banking systems in the world (no Canadian national bank has ever failed), our CAD is ratcheted down in tandem with the falling USD. This benifits our exporters who are the beneficiaries of currency debasement (inflation) at the expense of the savers (the receipients of inflationary consequences). No economic system has ever survived that favored debtors over savers.
Chosing a sound receipt (gold/silver) over an illusory receipt (dollars) puts savers back in the driver’s seat. Is it any wonder that gold and silver are so hated by our elites? As the truth becomes known, the jig will be up and they will be out of the game. “Step right up, step right up Ladies and Gentlemen”!
@dollarbugs, Mike’s analysis is spot on and I would add that gold is now *performing* insurance.
But I do not think you are talking about the big picture which is driven by technology while being both moral and political. Fiat currency is the largest financial bubble in the history of the world. Sure, taxi drivers may talk about buying gold but everyone holds fiat currency as part of their cash balance. Gold and silver are used in Asia as currency in ordinary daily transactions all the time. The Malaysian state of Kelantan is now encouraging people to use them and are giving government workers the option to receive a portion of their salary in gold or silver. Predator drones are already being scrambled because of the political ramifications Value Student hits on.
Gold and silver are not mere barbaric commodities but essential checks and balances in the political machinery. Wonder why you are getting fondled by the infectious Testicle Security Agency? Because, to pay the costumed pornographers and child molesters, governments confiscate through inflation which is a form of taxation without representation. These services would never be purchased on the scale they are in voluntary or consensual transactions. Remember, governments are force and force is violence. When you own gold you are fighting every central bank and government in the world because fiat currency is its mortal market enemy and competitor. Why else make it illegal for Americans to own gold from 1933-1974. As an ‘inert’ material it is sooooo peacefully dangerous!
Total worldwide annual production of platinum is about 7 million ounces or about $10B. FDIC insured accounts are about $13.5T. In the Information Age there is no reason to use fiat currency or fractional reserve banking as they are barbarous relics, kind of like horseless carriages or newspapers, with decreased efficiency, increased costs and tremendous risk without any corresponding reward. GoldMoney is a glimpse at an advance in monetary evolution. In the Information Age the monopoly of violence, governments in their current form, will fail to market forces just like 8 track tapes, newspapers, the idea that the sun revolves around the earth with its Establishment and many other industries because the return on investment from violence has dramatically decreased or even gone negative in the Information Age.
Additionally, nowhere have we mentioned the central bank gold price suppression scheme. Alan Greenspan testified twice before Congress in the 1990’s that ‘Central banks stand ready to lease gold should the price rise.’ Forensic accounting analysis of central bank balance sheets reveal that they carry gold in the vault and gold out on loan as the same line item; in effect they carry cash and accounts receivables as the same thing. As a result of leasing gold to the bullion banks who have sold it into the market central banks have physical possession of *only* about 1/3 to 1/2 of the gold bullion they claim to have. They cannot get this gold back at current prices.
But why would this behavior be taking place? Price suppression, not by users but by owners? Now we are back to the first two paragraphs. The current establishment and system is coming down and the faster it goes the faster it goes. The Internet is not being stuffed back in the bottle and ideas can only be overcome by other ideas. Ideas reverberate through the corridors of time, know no borders and are bulletproof. Truth will cleave its own way. Thus the clash going on is nothing the world has ever seen. Owning gold will, hopefully, provide some protection from these flailing and dying dinosaurs and accompanying turbulent transition; that is the big picture … the transition from the Industrial Age, where violence was profitable, to Information Age where violence is not profitable.
As Dr. Vieira, the preeminent monetary scholar and author of the 1,700 page legal treatise Pieces Of Eight, has said, “Thus, the fight over gold and silver as media of exchange is about more than mere money, let alone making money. For it is a fight with only two possible outcomes: either control of their own lives by the people themselves, or control of the people and their lives by political and economic elitists.”
thanks for great post. I been working with e-gold long time ago, now starting with liberty reserve and investing in hyips.