Tags: Gold | Standard | Feasible

The Gold Standard is Feasible

By    |   Friday, 24 Feb 2012 07:57 AM

A global, gold backed floating currency regime is feasible this century.

This regime will provide a stable, low growth money supply that permits global purchase power parity, encourages innovative investment over long periods of time, and avoids the failed fixed gold price regime of the 1920s and Bretton Woods (1944).

This construct will flourish further as our economy focuses more on infinite, intellectual capital and less on finite, physical resources: more effective, efficient resource allocation will enable greater price affordability relative to income.

Support of this premise:

A fiat currency, such as the US dollar, is predicated on the faith and credit of government, lacks capital reserves, and is subject to government intervention and manipulation by the few.

Unlike a fiat currency, gold is a reusable, real asset with diverse economic uses:

1. Consumption (jewelry: 50 percent)

2. Industrial (technology: 10 percent)

3. Investment (40 percent).

4. Wealth preservation (mitigate risks due to geopolitical and geoeconomic uncertainties)
    a. Inflationary pressures
        1. Developing nations: wage (high demand) and commodities (low supply)
        2. Developed nations: excess bank reserves (high supply)

    b. Deflationary pressures
        1. Developed nations: financial deleveraging (liquidate assets for debt service)

     c. Fiat currency debasement

     d. Negative real return on investment (nominal interest rate < inflation rate)

5. Low price volatility (due to depth and breadth of demand and supply)

6. Stable Medium of Exchange
    a. Continuously growing inventory
        1. Durable and reusable (166,000 tonnes mined and in inventory)
        2. Annual supply growth of 1.5 percent - 2.0 percent.
        3. U.S. Geological Survey
             a. Known supplies at current depletion rate will last 25-50 years
             b. Future technologies may enable additional supplies
     b. Minimal risk of manipulation (e.g., government policy intervention).
     c. Proxy for general economic production costs, including labor, capital, and raw materials.

         1. Cost of production per ounce: $500 (more when exploration cost is included).
         2. Maximum potential to maintain purchase power parity (PPP): a given unit of gold permits the purchase of given product and/or service, irrespective of time and geography.
         3. In lieu of increased supply, the price increases will enable PPP, since smaller quantities of gold permit the exchange for a commodity.

Gold can function as a proxy for the global money supply:

1. Global market value of gold: $8.5 trillion
2. Global Money Supply and Credit: $110 trillion
3. Global M1 Money Supply (narrow): $24 trillion (22 percent of total)

Sources: World Gold Council, CIA Fact Book

If the global market value of gold equals the global market value of the M1 money supply, gold can provide a 22 percent backing of the entire global money supply and credit.

This implies, the price of gold has the potential to increase 2 - 3 times to approach the value of the M1 money supply (from $8.5 trillion to $24 trillion).

In my Newsmax article of January 7, 2011, I suggested $4,000 per ounce within the next decade (e.g., 2020) may be feasible. At that time, the price was $1,388; today it is $1733.

An excerpt from that article below requires correction:

"In a worst-case scenario, for the total money supply to increase 6 percent, the money stock needs to increase 1/15 of 6 percent (earlier, I indicated the money stock = 1/15 of the total money supply). This would equal 0.4 percent of $4 trillion, or $16 billion.”


In a worst case scenario, if the total money stock increased 6 percent, the monetary base would also increase 6 percent, not 0.4 percent as indicated in my article.

Further Clarification:

This worst case scenario assumes a 0 percent increase in velocity to increase nominal income by 6 percent (e.g., all income growth is the result of an increase in the total money supply).

However, income growth of 6 percent can occur without an increase in the money supply, if monetary velocity (quantity of transactions) increases 6 percent.

This 6 percent increase in income would be reflected as a 6 percent increase in the price of gold.

As such, purchase power parity would suggest it requires roughly 6 percent less gold to purchase a given commodity.

Income and economic growth will increase with a rise in innovative investment.

Therefore, increase investment.

The reason:

The monetary velocity and economic multiplier are greater for investment relative to consumption, since expenditures are made at the beginning of the production cycle, not the end.

Today, US gross fixed investment as a percentage of GDP is 12 percent, half the global average and one quarter that of China. The US figure is too low, while that for China is too high.

The US should aim to invest 25 percent - 30 percent of GDP on investment.

The reason for failure of the gold standard during the 1920’s and Bretton Woods (1944, following WWII):

1. The price of gold was FIXED relative to the global currency reserve ($US 35.00 per ounce).

2. Lack of international coordination between the principal reserve currency nation (US) and principal
surplus nations.

The fixed price of gold relative to the US Dollar is anathema to a floating currency exchange. The currency exchange mechanism became irrelevant when foreign countries preferred gold versus the US Dollar.

Following WWII, foreign demand for US Dollars soared, since it was the global currency reserve (based on the economic, military, and political strength of the US).

Subsequently, foreign countries amassed large quantities of US Dollars. When these countries decided to purchase gold, demand for gold increased. Typically, when demand for gold increases, the price increases as well.

HOWEVER, this did not occur: the price of gold remained constant at US$35.00 per ounce.

This permitted huge outflows of gold, which added to the balance of payment deficit.

At that time, the principal surplus countries elected not to transfer their surpluses to the US for it to achieve a balance of payments. This would have required a devaluation of the US Dollar, the principal reserve currency, and/or a revaluation of currencies in surplus countries.

The gold backed medium of exchange will become more feasible as our intellectual capital is leveraged more effectively and efficiently, with less demand for finite, physical resources.

For instance:

According to the Bureau of Labor Statistics (BLS), transportation demand represents roughly 15 percent of GDP. This expenditure demand will decline as technology permits more effective and efficient remote access to teleconference, telemedicine, and autonomous vehicles.

The resultant decrease in demand for foreign energy, coupled with increasing domestic supplies, will assuage commodity price inflation and increase income affordability, or purchase power parity.

This type of environment is ripe for a global gold currency regime based on a floating exchange.

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Friday, 24 Feb 2012 07:57 AM
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