Saturday, November 8, 2008

On Gold As Money

Why would gold not be a good asset to have for appreciation and investment purposes? Will gold ultimately fail?

As an economist-in-training, I wonder about gold's role as a means of exchange, or not being a “good asset to have for appreciation and investment purposes.” Gold as a means of exchange and a store of value has been the case since it was discovered by humans. From the dawn of recorded history to now, the demand for and the virtually universal acceptance of gold as a store of value cannot be overstated. As far as not being a basis for money in America, we are only talking about a period of less than 100 years, from either one of two starting points: Birth of the Fed (1913), or failure of Bretton Woods/Nixon closing the gold window (1972). Isn’t our currency only as good as its fiat? In other words, isn’t the dollar worth something merely because the government says so? This strikes me as a relatively new way of viewing money in the scope of recorded history.

As to the idea that gold will fail, that is an even harder concept for me to understand. Aside from the idea that is a universally accepted store of value since the dawn of human history, it is an element that occurs in nature that cannot be created by men. It is also permanent in nature, here before we arrived, and more than likely here after we leave. It is indestructible, easily divisible, and non-tarnishing. Furthermore, it is truly a scarce resource. Contrast this to fiat currency. Fiat currency is only as good as the government says it is. Its value hinges on the ability to convince market participants that the government’s credit can be substantiated merely by enforceable fiat. Unlike gold, government fiat is not elemental, nor is it organically found in nature.  Fiat currency is created by electronic entries into a computer, and materialized into non-permanent bills. It comes and go. What then would fiat currency be worth if a government fails? What value would it have when its fiat is no longer accepted and honored as valid? Why would governments say that gold is not money or a good store of value worthy of investment, and then go to extremes to hoard it, seize it, and trade it?

Lastly, still on the idea that gold will fail; wouldn’t we have to assume that gold would no longer be demanded by market actors? Wouldn’t that only come about if gold ceased to exist, became exponentially less scarce than it is now, or ceased to possess its elemental qualities of permanence, indestructibility, etc.?  

Since these scenarios are unlikely, why wouldn’t gold survive as an asset worthy of use as a means of exchange?

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