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Gold
outlook
Bad
money drives out good, or does it?
Gold Outlook
The past four weeks have seen a major correction in
the gold price. Many on Wall Street were quick to conclude that
the bull market in gold was over. However, the continued weakening of
the US Dollar combined with the 15% plunge of US stock markets over the
past 13 weeks has shaken foreign investor confidence in the US markets.
This week was a major milestone as the Euro surpassed $1 in value for
the first time since it was issued in February 2000.
George Soros has predicted that as foreign investors start pulling their
money out of US Dollar based assets the US Dollar will plunge in value
by 30%. We expect that this will cause the USD price of gold to
skyrocket. The conditions are ripe for an extended bull market in gold.
According to the Randol Gold Model, massive US consumer and national
debt combined with the aging of the baby boomer generation will produce
a massive depression when the majority of baby boomers start cutting
back on their spending for retirement. The stock markets peaked in
2000 and the DJIA has declined 3000 points, or 27%, since the top.
We are already in the downward
slope of the Depression that Randol is predicting will last until 2024
due to the population shortage of generation X. Based on these
fundamentals, the real estate bubble is probably the next to pop.
Randol predicts that the Gold:Dow ratio that has historically been
around 1:1, will go back to historic levels within three to five years.
That means the Dow could come down to 2500 and gold could go up to $2500
an ounce! In fact today's economic conditions are much like 1930,
when the population was still thinking they were merely in a recession,
when in fact they were at the beginning of the Great Depression.
The time to buy gold is now while it is still cheap!
Bad
Money Drives Out Good, Or Does It?
by Ken Griffith
Since the dawn of monetary history man has been
tempted to steal from his neighbor by debasing coinage. This
particular crime has been tempting because there is no single
"victim" and the crime is so easy to get away with.
Debasement
has many forms: shaving the edges off of gold and silver coins; using
false weights and measures in the marketplace; counterfeiting; issuing
more receipts than there is money in the vault; and reducing the
precious metal content of coins. Currency debasement is a
temptation to private individuals and governments alike.
In the name of law and order, a strong government is usually effective
in stamping out the various private forms of currency debasement.
But over the millennia, politicians have consistently succumbed to the
temptation to debase the coinage of the commonwealth. They pass
legal tender laws to force the captive population of the empire to
accept the new, debased coins as payment for all debts. This
regression from pure gold and silver coins to coins with zero gold or
silver content has been consistent for every major empire that has
existed on the face of the earth. Archaeologists can date coins
from the Roman Empire based on their metal content alone.
The impulse behind this problem is the human desire for more resources
than are available in a world of scarcity. By debasing coinage, a
man attempts to increase the resources available to him at little or no
personal cost. Thus he shifts the resource cost from himself to another.
When individuals do this, governments prosecute it as fraud, theft, or
counterfeiting. When politicians do this, it is called
"progressive economics" and "increasing the money
supply" so "the economy can grow at a stable rate".
Unfortunately, when a government debases coinage there
is no one to prosecute the government for fraud. So, in the
absence of competition, any government that has established a monopoly
on issuing legal tender will always debase the coinage over time.
Eventually, this leads to the collapse of the empire; but it may take
centuries, as was the case with Rome.
Since all economies are composed of the aggregate decisions of all of
the individuals in the society acting in their own best interest,
history has proved repeatedly that the reaction of the captive
population to legal tender laws is to hide the good money and spend the
new debased money.
Human nature wants to keep the good for oneself and
pass off the bad to someone else. This process is known as
Gresham's Law, simplified as "bad money drives out good."
Legal tender laws are a hidden form of price fixing. Instead of
fixing the price on goods or services, the government fixes the price of
the new debased currency relative to the old, higher-metal-content
currency. When legal tender laws fix the relative prices of the
currencies at an inequitable rate, Gresham's Law kicks in. If
private citizens are forced to accept "bad money" as payment,
their natural response is to horde the "good coins" and spend
only the debased "official" currency.
This makes sense.
Any intelligent person who has a pure gold coin weighing one
"shekel" and a 50% gold coin weighing one "shekel"
would logically choose to spend the 50% coin and keep the
"real" one if the legal tender laws mandated that merchants
accept the debased coin at the same value as a one shekel gold coin.
People instinctively know that regardless of what the law says, the 100%
gold coin is worth more than a 50% gold coin of the same weight.
In the United States it is common knowledge that if you find a pre-1964
quarter you shouldn't spend it because it has real silver in it.
When legal tender laws force the population to accept "wooden
nickels" so to speak, all of the higher quality coinage goes into
hiding under mattresses, and into chimney cracks and coin collections to
be saved for a "rainy day".
Or in the case of US pennies
in the mid-nineties, they were melted down, en mass, and sold as copper
ingots by "numismatic outlaws" when the price of copper
spiked.
This forced the U.S. Treasury to call in the old pennies from the banks,
and issue new, "copper-clad" pennies with a base-metal core.
The same thing happens with paper money: when the government injects
large quantities of new money into the economy the result is the
weakening of the currency against foreign currencies and tradable goods
(inflation).
This problem poses an interesting conundrum for advocates of the digital
gold economy. If it is true that bad money ALWAYS drives out good,
then an attempt by a group of private individuals around the globe to
start using gold for payment instead of fiat money flies in the face of
economic reality. We are fighting an uphill battle that is doomed
to fail, or so it would seem from the wisdom of ages past.
However, Gresham's Law only applies to a "closed system" with
legal tender laws. With the exception of the Bronze Age,
throughout world history travel and communication over great distances
have made each nation-state an effective closed-system because it simply
was not efficient or effective to trade in large volumes with
individuals in other nations.
Commerce tended to consist of a domestic
economy, with a small number of importers and smugglers bringing in
foreign goods from abroad. In times when jurisdictions were small,
however, the cost of travel and trade between city-states was low enough
to allow a free market in currency.
The Greek poet Theognis living
near Athens in the late 6th century BC, wrote in a book called Maxims
that "alloyed gold and silver is easily detected by a shrewd
man." He also comments: "Nor will anyone take in exchange
worse when better is to be had." So here we have an ancient
historical observation that when given a free choice in a free market,
good money drives out bad.
As opposed to a particular nation, a higher set of rules is at work in
the global economy. Legal tender laws only have power as far as
the
jurisdiction of the government that issued them, but the currency of
that government is almost always traded beyond the borders of a nation.
An Indonesian resident is under no obligation to accept US dollar bills
in payment for goods or services. He may choose to accept them
because they are widely accepted, but his decision is based on
pragmatism alone rather than the threat of going to jail or being fined.
There is a true free market on fiat currencies outside of their home
country. That is, people outside the country of origination choose
to accept or reject a currency as payment based solely on the benefits
or disadvantages that the currency offers them. The exception to
this rule would be "closed" countries that criminalize the use
of foreign currencies within their borders. Even so there is
likely to be a black market for highly valued forms of money, much as
gold is used as the primary means of payment in the Chinese underground
in the United States.
In a multi-polar world, where there is no clear dominant empire, a free
market exists in currencies for international transactions. The
Asian
Currency Crisis of 1997 proved that private individuals and institutions
trading currencies outside of a nation could "precipitate" the
collapse of a national fiat currency. What actually happened was
that the governments of Thailand, Indonesia, and other small Asian
nations had been following poor fiscal policy and debased their money
supply. They were able to get away with this for some time without
serious effects because a considerable percentage of the currency was
being purchased outside of the nation by private speculators. This
at first seemed like a brilliant way to let foreigners to pay for
government expenditures. However, when George Soros and others
dumped the baht in large quantities, it sparked a global loss of
confidence in these currencies.
As private investors and
institutions scrambled to unload their Asian paper it unleashed a raging
river of bills flooding back into the countries that issued them.
The citizens of those nations were bound by legal tender laws to accept
that money. The resulting swelling of the domestic money supply
caused hyperinflation and loss of public confidence in the governments
of the Asian Tigers. In Indonesia there was a small gold rush as
individuals sought to trade their government money for anything that
would hold value.
The resulting chaos led to a shakeout of the
administration in power in Indonesia. This case strongly suggests
that, due to the low cost of global telecommunications and travel, the
global free market is growing to be more powerful than any particular
political regime, even inside its own borders. This effect appears
sooner for small jurisdictions that it does for large ones. (For
this reason, large economies such as the US, EU, and China may be able
to get away with poor fiscal policy longer than a small economy such as
Thailand.)
We have entered an era of global commerce that harshly
punishes governments for debasing their currencies with the wild abandon
that they have been able to get away with in the past. History shows as well, that INTERNATIONALLY, good currencies have
consistently driven out bad ones.
Doug Noland comments, "The
Persian daric, the Greek tetradrachma, the Macedonian stater, and the
Roman denarius did not become dominant currencies of the ancient world
because they were "bad" or "weak." The
florins, ducats and sequins of the Italian city-states did not become
the "dollars of the Middle Ages" because they were bad coins;
they were among the best coins ever made. The pound sterling in
the 19th century and the dollar in the 20th century did not become the
dominant currencies of their time because they were weak.
Consistency, stability and high quality have been the attributes of
great currencies that have won the competition for use as international
money."
It is logical then, that in a free market of international commerce,
good
money will be chosen over bad. Merchants given the choice of
accepting any currency in the world, will tend to choose the one that
best holds value and is most widely accepted. This is why the US
Dollar is presently the defacto world currency. The US economy has
been "good" for 15 years or so, and the currency has been
relatively stable in value for over twenty years. Due to the size of the
US market and the volume of international business that it does, the US
Dollar is accepted almost everywhere by private merchants.
But
this will not last forever. When US politicians succumb to the
pressure to devalue the dollar in order to fund government programs to
satisfy the populace, the dollar will lose its place as the
international
currency of choice. The question is not 'IF' but 'WHEN'.
Electronic gold makes an attractive currency of choice, for reasons that
more and more merchants will come to see over time. Electronic
Gold Currencies are denominated by weight using the metric system, which
is accepted around the globe. PDA's and mobile phones combined
with E-cash technology now allow person to person payments. The
substance and the units are familiar and considered desirable to people
of every language and nationality.
Gold is attractive to people
because it is a universal icon for goodness and prosperity.
Because gold currencies are issued by private companies, it is
impervious to political flux.
More importantly, over the millennia
of human experience, gold has proved time and time again to be the most
efficient medium of economic exchange. If the economic theory
behind these benefits is correct, then we will see them gradually worked
out in practice as human beings follow their nature and show their
preference for gold over paper.
The irony of course, is that the
owner of digital gold never actually sees the gold. Backers of
electronic gold currencies must sell the abstract concept of OWNING gold
in a safe vault on the other side of the planet. Even so, the laws
of economics predict that in a free international market, good money
will drive out bad.
Heretofore, gold advocates have been laughed at by conventional
economists as hopelessly impractical; yet there has been no practical
means by which these economists could be proven right. (Like the
ballots in communist countries where there is only one candidate.)
In the twentieth century there has not been a political regime willing
to relinquish its monopoly and give a free market in gold money a try.
With the advent of the Internet, the opportunity now exists for gold
bugs to put their money where their mouth is. With the rise of
electronic gold currencies, the next few decades will be an economic
experiment in which gold money advocates will either be proved right as
merchants around the globe start preferring electronic gold currency; or
they will be proved wrong once and for all.
Goldfinger Bullion Reserve Corporation is the parent company of
E-Bullion.com, the electronic gold currency of choice for investors.
For more information visit www.e-bullion.com.
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