Gold: Money Because Plentiful, Not Scarce

Most commodities are consumed. But not gold – a key attribute of money...

WHY DOES gold make good money? asks Krzysztof Nedzynski of Gold Standard Now, writing at the Cobden Centre.

The Honorable Ron Paul says:

"Because it possesses all the monetary properties that the market demands: it is divisible, portable, recognizable and, most importantly, scarce – making it a stable store of value."

True. Yet those properties are not the most relevant today. The most important characteristic that makes gold a good reference point for money today is its enormous stock to flow ratio.

By neglecting the stock to flow ratio argument and using other, less important ones, it is much easier for anti-gold economists to confuse the public.

For instance, Paul Krugman and others mercilessly criticize gold by conflating deflation with contraction and inflation with expansion. But gold is money not because it is scarce but because it is abundant (relative to its production and consumption). This factor makes for a huge buffer that stabilizes its value against other things.

The same can be said about water. Water is abundant on Earth. Water evaporates from the land and oceans, falls down as rain and snow, and rivers bring it back to oceans – at widely volatile rates.

Approximately 505,000 km3 of water falls as precipitation each year. But the world's water supply is estimated at 1,386,000,000 km3 (97 per cent of which is stored in oceans). A huge stock to flow ratio that makes for a useful reference point.

The Erste Bank's recent Gold Report concludes:

"We believe that gold is not precious because it is scarce, but because the opposite is true: gold is precious because the annual production is so low relative to the stock. The aggregate volume of all the gold ever produced comes to about 170,000 tonnes. This is the stock. Annual production was close to 2,600 tonnes in 2011. That is the flow. Dividing the former by the latter, we receive the stock-to-flow ratio of 65 years (which is far more than for any other good offered in the world economy).

"Gold has acquired this feature over centuries, and cannot lose it anymore."

Most commodities are consumed, whereas gold stocks are augmented, gradually, as the supply of good money is. Let's suppose then that annual mine production of gold increases twofold or is cut in half. No big deal. There is a huge reserve to make up for difference. This does not really apply to any other commodity.