A fundamental misunderstanding of what gold is...
FEW PUBLICATIONS have the capacity to enrage like the Financial Times, writes Tim Price on his Price of Everything blog.
On the one hand, it carries thoughtful, well written and engaging commentary from the likes of John Kay, Luke Johnson and Gillian Tett. On the other hand, it regularly publishes Martin Wolf. The latest weekend edition does not disappoint. Tim Harford, hitherto unobjectionable, publishes what can only be an elaborate ironic joke against gold, 'The Bundesbank takes back its doughnuts'...
For anyone that missed the news, Germany's central bank is in the process of moving 54,000 gold bars from the US Federal Reserve and the Banque de France back to Frankfurt. What is that all about? Tim Harford:
There is no thinking behind that. This is gold we're talking about, so we're entering the asylum.
But gold has been a good investment – if one can call it that – over the past decade. Tim Harford:
It's been an excellent investment. But there's no logic behind the gold bubble.
Perhaps he could be more expansive. Tim Harford:
...gold is a bubble because its investment value isn't connected to the stream of income it produces. Housing produces rent. Bonds produce interest payments. Shares produce dividends, or at least the prospect. But gold doesn't produce any income stream... Therefore it is a bubble. It may remain an excellent investment: any bubble that has persisted for 4,000 years has to be pretty resilient.
Strike Three. You're out.
It takes either guts or self-delusion to call yourself an economist when you plainly don't understand money. JP Morgan once said that gold was money, and everything else was just credit.
To us, that isn't a bad definition. And money – in the form of US Dollars, British pounds, Euros or Yen – doesn't produce any income stream either. A Dollar bill or a five Pound note are, like gold, economically inert. They only produce income when they are transformed into bank deposits – a transformation that in the process exposes the holder to the credit risk of the depositing institution. But at the moment, cash deposits are effectively yieldless, meaning that savers are now exposed to return-free risk. A flight into real assets at this juncture would be grounded on reason.
Tim Harford is, of course, free to insult savers in gold, just as Martin Wolf is free to insult Austrian economists – a school of thought he recently described as "an American disease" (words which we suspect will come back to haunt him) – who understand that field more profoundly than he does.
But the debate is only valid in the first place if the insult contains at least a germ of underlying truth. Implying that people, and central banks, are mad to hold gold also implies that we should hold our savings in the form of conventional, fiat currency instead. How has that worked out as a store of value?
Since 1913, when the US Federal Reserve (a private banking cartel as opposed to an arm of the US government) was established, the US Dollar has lost 98% of its purchasing power. With state money printing now accelerating to a level never seen before in world history, is the purchasing power of paper money likely to be enhanced, or further degraded relative to hard assets?
The bubble is not in gold, it is in paper. There is admittedly something rather endearing about the concept of a 4,000 year old bubble. But most professional investors would use a more pragmatic definition of the word. A bubble, by definition, pops. Has gold popped? Every paper currency in the history of mankind has burst. Every single one. Which store of value has the better long term claim?
Gold 'bugs' are not irrational. It is a fairly unusual bubble that enjoys such little participation from investors: private institutional ownership of gold worldwide is almost non-existent. And it is paper money unbacked by anything of tangible value that we would be mad to use to the exclusion of all else.
There is a fundamental illogic to Tim Harford's criticism of central banks for holding gold and repatriating it, when he simultaneously grants them validity in controlling conventional fiat money. They cannot at the same time be mad in using gold as a store of value and sane for the issuance, management and manipulation of the supply of unbacked fiat, can they?
Detlev Schlichter recently demolished the case for the $1 trillion platinum coin, a proposal that highlights the desperate absurdity at the heart of modern western central banking. It is critically important that investors and savers understand the desperate absurdity driving monetary policy and currency debauchery.
The ghoulish problem that we face is that we know that this system will unravel, but we do not know when. The pragmatic response, then, is simply to hold one's wealth in those forms of saving and investment that are least likely to depreciate in real terms – and which also hedge against the widest possible range of potential economic and political outcomes – for the duration of this long emergency. That need not mean gold exclusively. But it's certainly a fine place to start. Tim Harford would disagree – and that would also be an excellent argument in its favor. Sell economic ignorance; buy gold.
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