Some people…got t’ have it

I’ll start off blunt: I’ve always thought (well, since I started thinking) the idea of a “gold standard” — or any commodity-based backing for currency — is wrongheaded; not primitive, per se, but certainly not advanced beyond the industrialization of the 19th century. It’s for concrete-bound, barely conceptual (in a financial sense) people who lack imagination, and, really, a fundamental notion of human potential and that most human of attributes: risk taking.

Gold-backed money is for people who want essentially no risk tied to their currency. OK, and if the State didn’t force a monopoly on it, they could invent a currency backed by whatever, and see if it takes off.  But given the reality of the matter, the problem is the State’s monopoly, not the structure or fundamental methodology of the currency itself. And, you have options. You can go buy gold (or whatever). You can do it in the form of stocks, funds, ETFs, or just call up a dealer and buy physical precious metals (the safest way). My grandfather was this sort of man. In addition to the stockpiles of rice, beans, and other hermetically sealed staple foods, he owned lots of property free and clear and always had several bars of gold, small bags of nuggets, and gold and silver coin in a hidden, concrete-encased floor safe.

It’s not a bad idea. Calculate your net worth, and then purchase 10-15% of that amount in physical gold, secure it, and don’t tell anybody except a sound estate-planning law firm with a reputation going back to the American Revolution (in the event of your death, it can be distributed to heirs). In a financial collapse (accompanied by hyper-inflation), you might expect an 80-90% or more devaluation of the  currency, in which case you’d pretty much be 100% hedged. If you have no real net worth, then $5,000 of gold would set you up to profit from such a collapse. You’d eventually convert your gold to [tons of] currency and buy foreclosed properties or other assets selling for pennies on the dollar and the eventual recovery would make you rich. To hedge against a tightening of the money supply (a-la the Great Depression), less dollars chasing more goods and services, the proper hedge is cash itself. Your cash actually becomes more valuable. But debt kills you, as more and more production is required to repay the same debt, so a proper deflationary hedge is some amount of cash and low debt.

That said, what I understand from the whole debate about the soundness of the American Dollar is that it’s a force-backed currency. But I just don’t see anything wrong, irrational, or unsound about an abstract currency. Why do I say “abstract?” Because, what your dollars really are is an IOU. It’s a promise. It’s a human promise, and in general terms, human promises amount to an asset, which is why we value them and hold them to a high standard.

Proceeding up the hierarchy, this human promise gets institutionalized, so the problem is not with the idea of a promise backing our monetary civilization, it’s what institutions and what kind of leverage you have with them. Currently, all U.S. currency is institutionalized in the form of the federal government. Our currency competes with other government currencies around the world in currency markets that trade 24/7. Currency, rather than being a fixed, physical asset valuable for it’s scarcity is rather a kind of security like a stock or bond that you can exchange or trade with other currencies, and uniquely, use it to buy goods and services commonly. In essence, the U.S. currency is simply a bond certificate representing faith and trust in the fiscal management of the U.S. Government. Its value is backed by the full faith and credit of that government, and, essentially, its ability to project force to protect so-called “American interests” at home and abroad. I don’t like that being my only option, but that’s what I’ve got to work with.

It must have been somewhere around the mid-seventies, when as a young teenager I saw my first book about how the financial world is going to collapse because the currency isn’t tied to a physical asset (gold standard). Of course I had no idea what any of this meant, so all you really take away from it at that age is the ominous warnings and perfectly “logical” predictions of calamity.

Here we are, some 30+ years later and still waiting for the collapse. You have the same people predicting the same doom based on the same arguments, and at a point, I just have to sometimes wonder what they might be smoking.

There are a lot of pieces to this and I really don’t want to go on and on just yet, so allow me to just hit some bullet points and you can see what you think about it. I’ll probably take up the issue here and there, from time to time.

  • Is money an equity (in the sense of a stock) or a debt instrument (in the sense of a bond)? I think it’s more like the later, but with properties of the former.
  • Libertarians often complain that since the currency isn’t on a gold standard, it’s not backed by anything tangible and thus “worthless.” But it’s backed by all the tangible assets that are created with it (houses, factories, land development, commercial buildings, profit and job producing businesses, etc). If they have produced and accumulated any of these tangible assets then the currency they hold is quite “backed,” I would say.
  • Why does no one point out the the sub-prime “meltdown” is a default of notes that are secured by real property that will eventually be foreclosed upon. So, say you have a 10% default rate, which is huge, but then recover 80% on average of principle? Yea, it’s no way to run a business but it hardly looks like a “meltdown” to me.
  • Some way or other, new money always has to be created and this “printing press” analogy strikes me as a pernicious sneer at something that is very, very valuable. It gives people the impression that the Fed simply prints money and hands it out. No. It’s loaned, and must be repaid with interest. Banks, in turn, loan this money out, and apart from all the chatter about credit card debt and living above means, people build new houses, develop land, create businesses, and so on. There is a multiplying effect.
  • Barring fabulous luck, along the lines of a gold strike, wealth must be built over years; with hard work, sensible thinking, some risk taking, and credit. Credit (currency backed by a promise to build or produce and repay with interest) is the very life’s blood of any modern economy. Without credit, lots of it, with moderate risk and an allowance for some level of default, we’re agrarians, at best.
  • Acquiring credit is the same as selling your future labor, production, profit, capital gain, or some combination of all at a discount, in exchange for getting the money now. The discount is equivalent to the cost you pay for the credit. However you go about repaying it is immaterial. The fact is that you must do more than you would have had to do before. That is, you must not only continue to support your needs, but you must produce in addition, in order to repay principle and interest. This is the very essence of wealth building.
  • Qua financial instrument, credit and debt are thousands of times more valuable, sophisticated and beneficial than is a static, un-leveraged asset like a lump of gold and a vault receipt that can be traded with others.

Everyone is free to skimp and save, hide their money in mattresses, and after 40 or so years, buy a house for cash, and so on. And if that’s your deal, then I sympathize, because in such case inflation is a real problem. Otherwise, inflation is really just a load that’s a cost of doing business, provided you’re doing business and using inflation to your advantage. Sure, you ought to have other options limited only by human imagination, but there’s nothing that pernicious about it provided you understand it and can work with it. I agree you ought to have other options, but for myself, disregarding the monopoly element of the currency, I’ll take my chances with the leverage that can be had with credit and accept inflation as something equivalent to the bid/ask spread when I’m trading securities.

Memberships are $10 monthly, $20 quarterly, or $65 annually. The cost of two premium coffees per month. Every membership helps finance the travel to write, photo, and film from interesting places and share the experiences with you.


  1. Kyle Bennett on August 23, 2007 at 12:09

    Amazing coincidence. A few of us just got in trouble with our boss because we were "standing around the water cooler", so to speak, arguing this very point. My take was that gold-backed currency can have all the same problems as a fiat currency, (though maybe not to the same extent). This is true because of fractional reserve banking, but without FRB, we don't have a monetary economy, we have a barter economy with tokens. The real backing for any currency is *value*, and gold's role in that is largely symbolic.

  2. Richard Nikoley on August 25, 2007 at 12:11

    I'd intended to reply to this earlier but it slipped by.

    I was going to bring up FRB, but it strikes me as a red herring. The real issue is: new money must be created. One can quibble about what the reserve requirement ought to be as a matter of general prudence (it serves two purposes: provides a limit to the amount of new money created and provides liquidity for general operations in meeting withdrawal demands).

    I personally think that creating money by securing a promise to repay from a reputable individual or business — secured or unsecured — and thereby instilling in them the motivation to go forth and produce in order to repay is just effing brilliant.

    It is, to me, fundamentally — apart from the state-monopoly issue — the most virtuous thing about our modern economy.

    When I hear laments and hand-wringing about the massive amount of debt Americans shoulder personally I want to laugh. Yea, they don't have such debt in Europe because they're lazy in Europe. Guess who's now coming to have a "debt problem?" Japan; Korea; China. Yep: workaholics.

    The point is that taking on a lot of debt, to me, is a sure sign of economic health. It says that people are positive and enthusiastic enough about the future that they're confident they can repay. And well better than 95% do.

    Debt benefits everybody, and it does so in a leveraged and immediate way. Debt is truly the key to wealth.

Leave a Comment

You must be logged in to post a comment.