Jim Rickards and Alex Stanczyk, The Gold Chronicles April 2018
*There is not enough gold to support finance and commerce
*The gold supply doesn’t grow fast enough to support economic growth
*Gold has no yield
*Gold causes depressions and panics, particularly the great depression
*Gold has no intrinsic value
*Gold is a Barbarous Relic – John Maynard Keynes
Listen to the original audio of the podcast here
Physical Gold Fund presents The Gold Chronicles with Jim Rickards and Alex Stanczyk offering insights and analysis about economics, geopolitics, global finance, and gold.
Alex: Hello. This is Alex Stanczyk, and welcome to another edition of The Gold Chronicles. This edition is for April, and I have with me today the brilliant Mr. Jim Rickards. Welcome, Jim.
Jim: Thank you, Alex. It’s good to be with you.
Alex: As a matter of quick housekeeping, a review of our last TGC shows we covered a full spectrum review of current events including currency wars, trade wars, and potentials for kinetic warfare. It was also our very first ever video podcast, which has been pretty well received.
Speaking of video, if you watch our podcast on YouTube and think people need to hear this message, please take just a second and do the little “thumbs up” thing, that’s the Like button, and then also subscribe to the channel. It helps a lot, because the algorithm picks it up and syndicates it out so a lot more people end up hearing this information. If you’re like me, I think a lot of people need to get this information.
Another thing we’re going to be doing from now on is actively monitoring your comments for questions. So, if you leave comments on the podcast on the YouTube channel itself, we’re going to do our best to answer those. If a question is particularly good or relevant, Jim and I will talk about it in the next podcast.
Why don’t we dive right into our topics. First up on deck, we’re going to talk a little bit about gold.
Jim, I thought we could go back to some basics. Every now and then it’s good to touch on stuff that’s kind of universal and timeless. We can always talk about current market events, but anybody can read a tape. I figured it might be good if we talk a little bit about things that are eternal, timeless principles.
I’d like to talk about common objections to gold. There are a lot of objections in terms of it as an investment. You might be at a cocktail party or something like that and mention that you’re invested in gold, and you get the typical responses, right? Let’s talk about some of those, if that’s all right.
Jim: I think that’s great, a very good idea. This is The Gold Chronicles, that’s the name of the podcast, so we always talk about gold. We usually run 40 minutes to an hour and talk about a lot of things such as geopolitics, securities markets, and a little bit of the political scene. As you know, I don’t do a whole lot of politics, but to the extent it affects markets, we need to address it whether we’d like to or not. As we get to the end, we find some time to talk about gold, but I think it’s great to, as you say, get back to the roots; start with gold and do a little bit of a deep dive.
You’re right about the cocktail party conversation. Your best friends will look at you funny, and your less good friends will say something like, “What’s wrong with you? Didn’t you go to college?” Or some people just burst out loud laughing.
I’m pretty used to that, but the fact is, people might not know anything about gold. They don’t teach gold, they don’t explain gold. Gold is not taught as a monetary asset and hasn’t been for 45 years. I remind people that I got my graduate degree in international economics in 1974, and I was quite literally the last graduate-level class that was taught gold as a monetary asset.
Everyone thinks the gold standard ended on August 15, 1971, when Richard Nixon very famously – or infamously – suspended the convertibility of U.S. dollars into gold by foreign trading partners. That had already been suspended for U.S. citizens by Franklin Roosevelt in 1933. From 1933 onwards, gold was a contraband for U.S. citizens. It was like having drugs or a machine gun or something. You weren’t allowed to have it, but we continued to make gold convertible under the Bretton Woods system for foreign trading partners.
On August 15, 1971, Nixon ended that. You can find his Sunday night speech on YouTube. He pre-empted Bonanza, the most popular show at the time in America, to give that speech. He said, “I’m temporarily suspending the redemption.” They used the word temporary, and Nixon and his advisors believed it was temporary.
I’ve spoken to two of the five people who were with the president at Camp David that weekend, and they both told me, “Yes, that’s what we thought we were doing. We thought this was a temporary suspension. We were going to devalue the dollar, reset the price, and carry on with the gold standard at a new level.” Of course, that was 45 years ago, so the temporary became permanent.
But that was not quite the end of the gold standard. It took a few more years, because as I said, they did think they were going to reset the price. We had the Smithsonian conference in December of 1971, and then there were some projects at the IMF, because this was a global issue, not just the United States.
France argued vehemently in favor of the gold standard. They said, “Okay, you Americans screwed it up, maybe you have to devalue the dollar.” This was long before the euro. At the time, they still had the French franc, and they thought they were going to go back to it. There were all kinds of fights inside the IMF, so it took a few more years before the gold standard was dead and buried, and that was 1974.
When I was in graduate school in 1973/74, we still had to learn it. My professors at the time – let’s say you have a 50- or 60-year-old professor – were scholars who were the young guns of Bretton Woods. They joined the IMF when they were 25-year-old students in the early to mid-1950s. They created and ran the gold standard for all those years, and then some of them took the academic path and were my professors, so I was learning from the people who in effect created the Bretton Woods system, and we had pretty tough exams.
I grew up internalizing it and always thought of gold as an asset. When I was a nine-year-old, my father would sit me down at the kitchen table, pull out an old silver certificate and a Federal Reserve Note, put them side by side, and make me read what they said – convertible into silver – versus a Federal Reserve Note, which is just an IOU. I kind of have it in my DNA, but if you’re younger than me and know anything about gold, you either went to mining college or you’re self-taught, because they just stopped teaching it.
When you talk about gold, you typically encounter people who know nothing about it in the monetary sense. They might have some jewelry, they might like it and think it’s shiny and pretty, but they don’t know about gold as a monetary asset. If they do know anything, it’s probably a former propaganda involving one or more of the points we’re going to discuss today.
Every one of the customary objections to gold as a monetary standard falls down. As you suggested, Alex, why don’t we take them one by one, explain what the conventional wisdom is, and why it’s incorrect.
Alex: One of the ones that’s pretty common – and I’m sure you’ve heard this many times – is that if the idea is floated that gold can be used as a monetary standard, it is countered with, “There’s just not enough gold to support finance and commerce. There’s not enough.”
Jim: This is one of the many unfortunate – and I would say toxic – legacies of Milton Friedman. He was a great scholar, a great humanitarian, a strong advocate for free markets, and I think we all respect that, but his economics were awful, and this is one of those examples.
Milton Friedman was the most powerful voice in favor of going off the gold standard and going to what became floating exchange rates. We take the whole floating exchange rate regime that we have for granted; dollar is up, sterling is up, euro is down, yen is up, yuan is down – all the craziness for what’s supposed to be money or stores of value. Well, where’s the value if cross exchange rates are going like this continually, which they are.
We can thank Milton Friedman for that. As a typical academic, he believed a lot of things that weren’t true. He believed central banks would manage their money supplies prudently so we wouldn’t have those kinds of extreme fluctuations in exchange rates. Sorry, guess again.
He believed they would run their money supply in accordance with his vision of the quantity theory of money, which is saying velocity is constant. That’s another incorrect assumption, because it’s not constant. It’s a little bit like saying the world is flat; there are all kinds of flaws in it. That’s how we ended up with these floating exchange rates.
Milton Friedman was a strong advocate for what he called elastic money. He said, “The economy grows” – at least we hope it grows, and it usually does except for occasional recessions – “so the money supply has to grow.” Now, it can’t grow too fast or you risk inflation, but he needed what he called elastic money.
By the way, that’s one of the big flaws in bitcoin. All these cryptocurrency engineers think that too much money is bad (and they may be right about that), so their solution is to cap the money supply. That’s not the right solution either, but we’ll come back to that.
Friedman wanted his elastic money supply. What’s happened is that since 1971 – pick your starting date – the economy has grown enormously, the money supply has grown enormously, the amount of gold currently in the system.
It’s important to distinguish between official gold and the total gold supply. Official gold is about 33,000 tons. The price fluctuates, but today it’s about $1340 an ounce and has been in the $1330 to $1350 range for a while. If you multiply that price by the 33,000 tons, you get a certain theoretical money supply, i.e., here’s how much all the official gold in the world is worth. Then you compare that to the size of the economy. The global economy is about $70 trillion, and you’re like, “Hold on, that’s not enough gold to support that amount of commerce. We’d have to shrink the money supply.”
Certainly, if you were backing currencies dollar-for-dollar at today’s price, you would have to shrink the money supply drastically in order to maintain the gold standard. That would be highly deflationary and throw the world into another Great Depression.
That part of it is true, but there’s a very simple solution, which is to raise the price. That’s what FDR did in 1933. He increased the dollar price of gold 75% by taking it from about $20 an ounce to $35 an ounce. That’s a 75% increase.
I would say it’s not really an increase in the price of gold. What happened was the dollar devalued by 80%, but that depends on which end of the telescope you’re looking through. If you want to go back to a gold standard today with the existing money supply and existing gold, all you have to do is reprice the gold.
I’ve done the math; it’s not complicated. We have the data. It’s eight-grade math. You don’t need a calculus or anything more demanding than that. Working on a couple of assumptions, assume 40% backing which historically has worked (not 100% backing as some would insist), and use M1, which is one definition of money.
We have this distinction between M0, M1, and M2. If it was money, how come we have three different definitions? Right away, that shows you the beginning of the problem in terms of relying on central banks.
If you use M1 with 40% backing and the amount of physical gold, you come to a price of about $10,000 an ounce. You don’t need any more gold. Keep the gold you’ve got, increase the price to $10,000 an ounce, declare that as the official price of gold or the value of the dollar when denominated in gold, and go forward on a prudent, sound basis.
Whenever anyone says there’s not enough gold, just look at them and say, “There’s always enough gold; it’s just a question of price.” You do have to get the price right, because you can get that wrong as Winston Churchill did in 1925, which was one of the precursors to The Great Depression.
Subject to that, at $10,000 an ounce with 33,000 tons, that would back a $24 trillion M1 at about 40%. It would work fine, and then you could go forward from there on a very stable basis. Again, when people say there’s not enough gold, just say, “There’s always enough gold; you have to get the price right.”
Alex: A quick point on that is you had mentioned a $24 trillion M1. You’re talking about global currencies, not just the U.S. dollar, right?
Jim: Correct, and just the ones that matter. It’s a moving target. I did that calculation recently, but you have to keep raising it because they keep printing more money.
I’m using U.S., Europe, Japan, and China. Counting the eurozone as a block (all the members of the European monetary zone) plus China, Japan, and the U.S. are the four largest economies of the world with over 70% of global GDP. I left out Zimbabwe and some smaller countries, but that pretty much is the whole puzzle, as they say.
Alex: That reminds me of a meeting I attended in China a couple of years back with a Chinese think tank. They had a bunch of people for monetary policy there from the Chinese government as well as representatives from all the usual suspects, the biggest banks in the world who were there to give advice.
We were discussing gold, and it came up at one point – and this is something a lot of professional money managers will often throw out there – that the gold market is simply not deep enough to absorb the kind of liquidity necessary to, for example, compete with the U.S. treasury market, things like that.
I made the point to them that is basically the same thing you said; it’s true now, but if gold were $10,000 an ounce, it’s a completely different animal. You could tell that all the banking guys got really uncomfortable with that, and the monetary policy guys were like, “Hmm, that’s interesting.”
Jim: In my book The New Case for Gold, I actually found a quote from an interview that Paul Volcker gave. Paul Volcker, as the Undersecretary of the Treasury in August 1971 when Nixon went off the gold standard, was one of the people at Camp David with the president. I spoke to Paul Volcker personally about this, but in another interview he gave, the question was, “Could you go back to a gold standard?”
He said very candidly, accurately, and honestly, “You could, but oh my goodness, the price would be sky high.” In other words, he didn’t do the math in this head, but he said, “You could do it, but the dollar price would be much higher.” That shows a very good grasp of the issue – it is not quantity; it’s price. Volcker understood that better than anyone.
I don’t know of a market that’s more liquid than gold. I’m a buy-and-hold guy, so I buy gold and hang on to it, but every now and then, I’ve sold a little bit maybe to pay taxes or write a big check or whatever. I’ll buy some more later, but I’ve never had difficulty.
When I want to buy or sell gold at the market, I have never had difficulty, never had a phone call not returned. I’ve tried to sell municipal bonds, and my broker would say, “Jim, are you kidding me? I can’t dump these things.” But I’ve never had a difficulty with gold. That’s at today’s price. Certainly, if you had a gold standard at a much higher price, the liquidity would be even better.
Don’t be so sure about liquidity in the treasury market. Look at October 15, 2014, when we had a yield crash. We’ve had a couple of flash crashes in the treasury market. Participation by primary dealers and institutions at auctions is declining, and issuance is skyrocketing. I think I could get better liquidity in gold than in treasuries.
Alex: That’s a very good point.
The next common objection is that the gold supply doesn’t grow fast enough to support GDP growth.
Jim: This is another canard or red herring or whatever you want to call it, but this one is simple. Global economic growth is about 3%, give or take. It’s actually been lagging a little bit. As we’re speaking, the IMF is holding their spring meeting in Washington to do the world economic outlook. It’s a big deal announcement this week when they’re going to update their forecasts on global growth. It fluctuates, obviously, but let’s call it 3%.
Regarding mining output, take the total stock of gold in the world estimated at about 180,000 tons or a bit more, and then say how much are the miners producing, and what does that add to the global stock on an annual basis? That number is a little under 2%, so you say, “Global growth is 3%, mining output is 2%; it’s close but it’s not exactly right.”
It’s pretty good, and that’s why gold is a very good monetary standard, because it grows at about the level of global growth. If you say that global growth is slowing, which it is because of demographics and other structural headwinds, and mining output even remains constant – I don’t know if we’re at peak gold or not – those two match up pretty well.
It’s not perfect, but nothing is perfect. It’s a lot better than relying on central bank printing presses, uncertain velocity, and money creation by banks. There are so many wildcards. That’s a type of monetary system where I’d feel a lot more comfortable with gold.
Having said that, it’s completely irrelevant. Go back to what I said about official gold versus total gold. There are approximately 33,000 tons of official gold but 180,000 tons of total gold. That means we have 147,000 tons of privately owned gold.
By the way, you can have discretionary monetary policy and a gold standard at the same time. It’s not as if, under a gold standard, we’re all going to walk around with gold coins in our pockets and pay our rent by handing the landlord a gold coin or two. No, you can have printed money; it’s just that it’s backed by gold and convertible into gold at a fixed rate. That’s what a gold standard is.
You can have a central bank and discretionary monetary policy and a gold standard side by side. From 1913 to 1971, the U.S. had both. We had – and still have – a Federal Reserve, and we had a gold standard, and the U.S. stuck to that.
Therefore, when you have this discretionary monetary policy, you go, “We’re in a really bad recession or we’re in a depression. Good old Milton Friedman or Ben Bernanke told us we should expand the money supply, but there’s just not enough gold. Those miners aren’t working fast enough. It’s a drag on global growth.” So what? Just buy some private gold.
It’s called an open market operation and is exactly what central banks do today. They do it in the bond market, and you can do it in the gold market. How does the federal reserve expand monetary supply today? They call up Goldman Sachs or Citibank and say, “Offer me some ten-year notes or two-year notes.” Boom – done. The bank – Goldman Sachs, for example – delivers the notes to the Federal Reserve, and the Federal Reserve pays for it by crediting Goldman’s bank account with money from thin air. That’s how they create money; they buy bonds and pay for it with money that comes out of nowhere.
Right this minute, the Fed is doing the opposite. The Fed is actually destroying money. They’re not selling any bonds, but when the existing bonds mature, the Treasury pays them. Just as the Fed creates money out of thin air, if you send money to the Fed, the money disappears. So, when bonds mature and the Treasury pays the money to the Fed and the Fed does not buy a new bond, that money goes away.
The Fed is actually reducing base money. Picture Jay Powell with a pile of $100 bills and a roaring furnace and a shovel. He’s shoveling $100 bills into the furnace. That’s what’s going on with money supply right now.
Having said that, when the Fed wants to expand or contract money, they buy and sell bonds. Well, you could just buy and sell gold. Call up our friends in Switzerland, the refiners, and say, “I’d like to buy 10 tons of gold, because I need to expand the money supply.” Print the money and pay PAMP or Argor or Johnson Matthey or any of the big refineries with money from thin air the way you pay Goldman Sachs or Citibank for bonds. You’ve now expanded the money supply, and you have the gold.
In other words, the fact that mining output is about the same or even less than economic growth is irrelevant to the ability to expand the money supply in a gold standard. All you have to do is buy private gold, and there’s lots of it. So, there’s really not a constraint. That’s another one of these things that on examination just completely falls down.
Alex: In our last podcast, we talked a little bit about the difference in mentality between people who have wealth and are trying to protect it versus people who don’t necessarily have the wealth they want yet, so they’re basically chasing growth, chasing yield. You hear that all the time – chasing yield.
This next objection comes a lot of times from people who are in that frame of chasing yield. Sometimes they’re professional money managers, sometimes they’re not. The objection is that gold has no yield. I think that came originally from Warren Buffet.
Jim: It’s certainly one of Warren Buffet’s complaints. He has this reputation as an awesome, incredible stock picker. Well, he’s pretty good, and he does fundamental analysis. I don’t want to disparage Warren Buffet’s stock picking ability, but one of the reasons he’s worth $90 billion is because he’s the king of tax deferred interest, tax deferred yield. This is why he buys insurance companies.
When Warren Buffet was a little kid, he figured out compounding, and anyone who does the math understands the power of compounding. He said, “If I could just not pay taxes…” Interestingly, he was in favor of a tax increase for the rest of us back in prior years, but he doesn’t pay much taxes himself. Be that as it may, that’s the power of compounding, so Warren Buffet hates gold because it has no yield.
Here’s the answer: Gold is not supposed to have a yield; it’s money. Some things have yields, because they’re investments, because you take risk. Other things don’t have a yield, because they’re not investments, at least not in the conventional sense; they’re money.
I’m going to do something I don’t usually do, because it is a little bit of stagecraft, but I happen to have it handy. I’m holding up a $100 bill, and hopefully our viewers can see this. I’ll turn it around so you can see Ben Franklin. My question for viewers is, “I’m holding a $100 bill in my hand. What’s the yield?” The yield is zero. This $100 bill has no yield. I took it out of my wallet, I’m going to put it back in my wallet, it has no yield. I don’t have a piece of gold handy, but if I did, it would have no yield either.
In other words, money has no yield and isn’t supposed to have a yield. If you want yield, you have to take risks. People go, “Wait a second, my money in the bank has yield. It’s not much, a quarter of 1% or half of 1% or whatever.” I remind people, if you have money in the bank, it’s not money. You may think of it as money, but it’s technically an unsecured liability of an occasionally insolvent financial institution.
How good was your money in 2008 when Lehman was failing, there was a run on Citibank, and Citibank was failing? Talk to bankers, talk to anybody, really. People were pulling their money out of the banks, stuffing it under a mattress, moving it around. If they had more than $250,000, they were spreading it around so they could get under the FDIC insurance cap.
One of the things the Fed did to restore confidence was to guarantee every bank deposit in America. Well, if that were really money like this $100 bill or a bar of gold, you wouldn’t have to guarantee anything. No one has to guarantee gold. If you have gold, it’s gold; it doesn’t need a guarantee.
The fact that they guaranteed it to stop the run on the bank tells you it’s not money; it’s something else. And it is something else; it’s a liability. People go, “I have money in the stock market, I have money in the bond market, I have money in real estate.” No, you don’t. You may have stocks, bonds, and real estate, but that’s not money.
If you want money, you have to sell them. And guess what? When you go to sell them, everyone else is going to be selling them, because it’s a panic, and the price is collapsing, and the potential money you’re going to get is disappearing in front of your eyes.
The answer is, gold has no yield. That’s absolutely true, but that’s because it’s real money. This $100 bill is real money, and it has no yield either. Gold is not supposed to have a yield. If you want a yield, you take risk, and if you take risk, it’s not money anymore.
Alex: Next up: Gold causes depressions and panics, particularly The Great Depression. I hear that one all the time.
Jim: That’s been the subject of a lot of scholarship by Barry Eichengreen of University of California Berkeley, Paul Krugman, Ben Bernanke, and many others. I haven’t spoken to Krugman, but I’ve spoken to Bernanke and Barry Eichengreen and a number of other scholars on the subject.
They look at all these financial panics historically, and there were a lot of them – 1837, 1873, 1893, 1907 was a classic, 1929, etc. They say they all involved a run on the bank, people grabbing their gold, and liquidity traps.
In 1929 in particular, the fact that we were on a gold standard meant we could not expand the money supply fast enough to get out of the depression, and gold therefore caused The Great Depression. That’s wrong, but let me explain why it’s wrong.
Barry Eichengreen is a great scholar. He looked at all the countries, all the major trading partners of the world during the period of 1929 to 1933, and said that when they got off the gold standard, they started to grow.
They didn’t all break with the gold standard at the same time. France and Belgium devalued in 1925, the U.K. devalued in 1931, the United States devalued in 1933, France and U.K. devalued again in 1936, there was the Tripartite agreement, and there were other examples in Italy and Belgium. Remember, there was no euro at the time, so these were all separate countries with their own currencies and gold standards.
He showed that if you went off the gold standard, you grew, and the people who stayed on the gold standard did not grow as fast. Voilà, getting off the gold standard gets you out of a depression.
It was great scholarship, because it was very hard to come up with all the data and do that work. Maybe he’ll get a Nobel prize for it, but what that ignores is that the countries that grew did so at the expense of their trading partners. In other words, it was just a monetary version of “beggar thy neighbor” trade policy.
Empirically, did they grow? Yes, but you can’t conclude that abandoning the gold standard was the key to growth. If they had all abandoned the gold standard at once, they all would have grown the same. If they had all remained on the gold standard at the same time, they all would have grown the same. It was only because some did and some didn’t that the ones who abandoned stole growth from their trading partners. The world did not grow.
This is the point Eichengreen misses. The world did not grow; the world continued to contract. Did certain individual countries grow? Yes, but they did so at the expense of the rest of the world, so that’s not a solution in a global depression or a global panic.
The other point is (and Krugman is particularly glib about this), “The Fed should have done QE in 1929. They could have got us out of The Great Depression faster if only they had printed a lot more money.” There is no evidence for that.
They say gold constrained the ability of the Fed to print its way out of The Great Depression. I’ve read the research, and the guy who refutes that is Ben Bernanke. I spoke to Bernanke about this in person and said, “Mr. Chairman, I’ve read your book and your research, and here’s what I think you said. Do I have that right?” And he said, “Yes, you do.”
What he said was that gold was not a constraint on the increase in the money supply in The Great Depression. At the time, we had a certain amount of gold, we were on a gold standard, and there was a fixed ratio between money and gold. That was all true. But the law said that the Fed could print up to 250% of the market value of the gold.
Take the amount of gold we had – at the time, it was $20.67 an ounce – and do the math. That gives you a number times 2.5 (250%) as the legal limit on base money, M0. The Fed never got to 100%. Bernanke showed that if hypothetically the Fed had gotten to 250%, maybe then there would have been a constraint, but it never happened. They never got past 100%.
The problem was not that the Fed couldn’t print more money; they could. The problem was that nobody wanted it. Nobody wanted to borrow or lend or spend. We were in a deflationary period. When you’re in a deflationary period, the last thing you want to do is borrow money, because when you pay it back, the money is going to be worth more. People were taking it out of the bank like, “Hey, I’m not losing any interest, because the value of money is going up every day.” That’s what deflation is.
This is a liquidity trap as Keynes defined it. This is a problem. I’m not saying this wasn’t a problem, but I’m saying the problem wasn’t gold. The problem was confidence and policy flipflops from Hoover and Roosevelt.
There’s this whole notion that Hoover was a bonehead and Roosevelt was a genius, but if you look at the policies, they were very much the same. I’m not name calling. Hoover’s and FDR’s policies were very much the same. They were highly interventionist. They would do something, and if it didn’t work, they would try something else.
Historians (except for a few – Amity Shlaes is one who gets it) by and large ignore the fact that all that flipflopping destroyed confidence. Capital went on strike. Capital went to the sidelines and said, “Call me when it’s over. When you’re done with all these administrations and all that, we’ll get back to it.”
There were causes for The Great Depression, but they had to do with asset bubbles caused by earlier Fed blunders, the Fed tightening at the wrong time, discretionary monetary policy, and with policy coming out of the executive branch that caused a loss of confidence. It did not have anything to do with gold. Gold never acted as a constraint on money supply; the constraint was that people didn’t want the money. They didn’t want to borrow, and they didn’t want to lend.
Having said all that, tell me that we haven’t had financial panics since the end of the gold standard. Let’s just take since 1971 and no more gold. According to Krugman, we’re not going to have any more financial panics. Well, what was 1987 when the stock market fell 22% in one day, equivalent to over 4000 DOW points or 400 S&P points today? What was 1994 and the Tequila Crisis with the Mexican peso? What was 1997 in Thailand? What was 1998 with Russia and Long-Term Capital? What was 2000 with the dot-coms? What was 2007 with mortgages? What was 2008 with Lehman?
In other words, we’ve had one long string after another of financial panics, liquidity crises, etc. without the gold standard. So, if you’re a statistician, you would say “We had panics with the gold standard and we had panics without the gold standard. There’s no correlation, therefore no causation. Gold has nothing to do with it.” That’s the right conclusion.
They’re just using gold as a whipping boy or a kind of boogeyman regarding financial panics. Financial panics are behavioral. They’re not monetary; they’re psychological. They’re easy to foresee yet hard to predict the exact timing. We don’t know exactly what’s going to trigger it, but they’re behavioral and psychological, not primarily monetary, and they have nothing to do with gold.
Alex: Moving on, the next common objection when it comes to gold is that gold has no intrinsic value.
Jim: The one you probably hear most frequently is, “It’s just gold.” Joe Weisenthal on Bloomberg is a nice guy, but he makes fun of me. He says, “Jim, you support gold, but it’s a shiny rock.” I say “Joe, it’s not a rock; it’s a metal, so why don’t you get your chemistry and your geology straight?” It is a metal. Objectors say, “You look at it, it’s pretty, you can put it on the shelf, but it has no intrinsic value.” What does that mean, if you even know what you’re talking about? I think most people who use that phrase do not know what they’re talking about.
The theory of intrinsic value goes back to David Ricardo, one of the great economists of all time. As an early 19th century economist, he was trying to solve a problem. He was trying to say, “What are things worth? How do we value things? When we decide that something is worth a certain amount and something else is worth more or less, how do we do that?” His theory was, “Let’s take the inputs – how much labor, capital, and raw materials went into this? Add it all up, and that’s the intrinsic value. That’s what the thing is worth.”
Fast forward about 30 years, and along comes Karl Marx who looks at Ricardo’s intrinsic theory of value and says, “That’s a good theory. Oh, by the way, you have multiple factory inputs, and you have labor and capital. But because capitalists control the means of production, they don’t give labor their fair share.”
There’s some intrinsic value, but labor doesn’t get all it deserves. The surplus labor value goes to the capitalists, because they control the means of production. That’s not fair; that’s going to lead to a revolution, communism, and all the rest. We’re all familiar with Marxian dogma. Marx was using the intrinsic theory of value but just adding to it by saying, “Yes, and somebody is taking more than their share.” That was called the surplus theory of labor value.
Come forward another 30 years to 1871 in Vienna, Austria, University of Vienna. Carl Menger, the founder of Austrian economics, said, “Nonsense. Nice job, Ricardo, you were solving a hard problem. Marx, you got a little crazy with the whole thing. There is no intrinsic theory of value, or at least that’s not the way to think about value. Value is subjective.” The common expression is ‘something is worth what someone will pay for it.’
I have a pen right here. If I want to sell it, what am I offered? If I put it on eBay, I might get two dollars, five cents or a buck, I don’t even know. The point is, it’s worth what somebody will pay for it, and this is why we have markets, so we can have price discovery. For that matter, this is why we have eBay in the 21st century version.
It’s fine to say something is worth what somebody will pay for it, but how do people know what’s for sale? How do people know that if they’re looking for it, they can even find it? Well, that’s why we have markets, which led to a free market theory that was the basis of Austrian economics. That was brought forward into the 21st century. We could get into Keynes, Milton Friedman, and some variations on that.
Ever since 1871, all economists – neo-Keynesian, monetarist, modern monetary theory, Austrian, historical, pick your school of economics – they all think Menger got it right that things are basically worth what somebody will pay for it, and we need markets to discover that despite market imperfections, which is a separate discussion.
When someone says to you, “Gold has no intrinsic value,” you should compliment them on their firm grasp of Marxian economics and remind them that that has been junk science since 1871. The theory of intrinsic value has nothing to do with what things are actually worth.
Alex: This reminds me of another conversation we had on a recent podcast when we discussed gold’s unique properties. One of the things we were talking about is how gold is unique in physics. There are a lot of different forms of money all throughout history such as shells, feathers, wooden sticks, cows, and so on. The common thread amongst all of them is confidence, right?
Alex: Something that is unique to gold – and this is a physics property – is that you really can’t destroy it. You’d have to take it apart at a subatomic level in order to destroy it. You’d have to fire it into the sun or something of that nature.
My feeling is that it ties into why gold has been money for so long. Humans want our own value and value for our labor to be retained over time, and that’s been very attractive or a part of it.
Jim: That’s exactly right, Alex. Combine that with what we said earlier about mining output. It’s not like miners aren’t trying. They’re out there doing the geology, the surveys, the feasibility studies, gathering capital, drilling, testing, and core samples. I’ve been to mines, and I’m sure you have as well.
I’ve been to the other end of the spectrum at refineries and vaults where the finished product comes out, and I also walked around Quebec in future mines, just walking around rocks in the middle of nowhere. I’ve seen that end of the business as well.
The fact is, try as hard as they might, they can only increase the physical supplies just a little under 2% a year. It’s interesting to me that this global output syncs up with population growth and productivity. We don’t have to get theological, but is that a God-given property of gold? Plus the fact that it’s an element – it’s not a molecule – it’s atomic number 79, and it does have these properties that make it extremely suitable as money.
You can say some, but not all, of the same things about silver. Silver is a close second, but there’s nothing like gold, and there’s never been a form of money that has worked as well as gold.
I obviously invest in physical gold, and very recently I’ve started collecting rare gold coins. When I say rare, we’re talking about 1400 years old, the Aureus and the Solidus from the late antiquity. It’s just for fun. I have no illusions that I’m getting my money’s worth in gold. Whatever I pay, I’m paying for the numismatic value. It’s not a good way to invest in gold, let me put it that way, but it’s a hobby.
If you want to invest in gold, get an American gold eagle, an American buffalo, a maple leaf, or a one-kilo bar from a reputable refiner. That’s the way to invest in gold. Don’t pay up for a 33 Morgan or whatever unless you’re a real collector and you know what you’re doing. It’s not a good way to buy gold.
As I said, I’ve started buying coins, because they’re beautiful and very interesting. I study history quite a bit and see that the greatest empires in history lasted a long time while they had these coins as a monetary standard until the minute they abandoned it one way or the other. Some began clipping the coin where you actually see these coins with little clips around them. Everyone took a little piece and melted it down, or in the case of silver or gold, mixed it with base metals or abandoned it completely, etc. Those empires collapsed.
Hopefully the U.S. will wake up before it’s too late, but it is an extremely suitable form of money. When I say something like that, people go ,“Come on, Jim, it’s progress. A horse-drawn carriage used to be a good way to get around, but we don’t do that anymore. We use cars, and pretty soon we’ll have electric cars.”
I understand that. I recognize progress and technology and embrace it to a great extent, but not everything that has ancient roots is to be abandoned or has been improved upon. Some things have not been improved upon, and I would say gold is one of them.
Alex: I totally agree. Both of us are students of history. What you just mentioned is where the term “debasing the money” came from.
Jim: I guess you could say gold is an ancient form of money, but it’s not as if paper is not also an ancient form of money. It goes back to the 7th century and the Tang dynasty in China. It’s been tried many times and always failed. We don’t have time on this podcast, but maybe you’d have a different debate with bitcoin, because bitcoin is new. By the way, I don’t recommend bitcoin. I have a whole long criticism of bitcoin as we’ve discussed on a previous podcast.
If gold were ancient money and paper money were some new late 20th century invention, maybe you would say the jury is out on paper, but paper is not new either. It’s been around not as long as gold but quite a bit of time. So, you actually have two very old forms of money that have competed head to head time and again over thousands of years, and gold always wins. Again, if you’re a student of history and monetary policy, you understand that.
Alex: We’re running close to the end of our podcast here. We had lots of other topics on deck, but this has been a fascinating discussion. In the same vein, the last objection to gold is John Maynard Keynes saying that gold is a barbarous relic.
Jim: There’s a short answer, but I’ll give you a slightly longer backstory. The short answer is he never said it. Other than intrinsic value, this is the one you hear the most when you say to people, “I buy gold” or “I have gold in my portfolio.” Usually, the first objection is that gold has no intrinsic value; we already disposed of that. The other one is it’s a barbarous relic.
Keynes never actually said that. You see the quote all the time, “Gold is a barbarous relic.” You can find it on Wikipedia. I write books and do a lot of research, and I’m fanatical about sourcing. I was finding different versions of this quote in different citations, and I said, “This is important. I want to get this right.”
I went to an antiquarian book seller and got a first edition of John Maynard Keynes’ monetary theory from 1924. It’s interesting that it was 1924 before England went back to the gold standard and certainly before the 1930s when they abandoned it, etc. What Keynes actually said is that the gold exchange standard is already a barbarous relic.
In other words, he was not talking about gold; he was talking about the monetary arrangement of the day, which was the gold exchange standard. This came out of the general conference in 1922. The words ‘gold exchange’ means ‘gold plus foreign exchange.’
If you’re a country with trading partners, what are good reserves and what can you use to settle your balance of payment? You have a trading partner, you run a deficit, you have to pay the other guy – whether it’s England, France, Italy, Belgium or the U.S. for that matter – for your deficit in something they accept. The question is, what’s acceptable?
They all agreed that gold was acceptable, but they also said that certain kinds of foreign exchange such as pound sterling, French francs, and U.S. dollars were also acceptable. This is a way to expand the money supply. It was gold plus foreign exchange, so they called it the gold exchange standard.
That’s what Keynes was talking about when he said it was a barbarous relic, because he said it wasn’t working well. And he was right. I agree with Keynes on that. He did not say gold is a barbarous relic; he said the gold exchange standard of today is a barbarous relic.
In 1914, at the outbreak of World War I, the U.K., the Exchequer and His Majesty’s Treasury, were considering going off the gold standard, because Germany, Belgium, France, and all the other combatant belligerent nations had already done so. Bear in mind the U.S. was not in the war at that time. We joined in 1917, but the U.S. was a neutral power from 1914 to 1917.
All the belligerent powers had gone off the gold standard while the U.K. was still on it, and there was a debate about whether they should go off also. Keynes was the loudest, most persuasive voice saying, “No, stay on the gold standard.”
As his reason, he said, “London is the heart of global finance. We have the best credit in the world. If we abandon the gold standard, we’ll destroy our credit. If we remain on the gold standard, our credit will be preserved, and we’ll be able to borrow. Borrowing is the key to winning the war, because nobody has enough money to fight the war unless you can borrow.” Of course, printing money is just a way of borrowing from your own citizens. He said, “We’ll stay on the gold standard, preserve our credit, and borrow.”
That’s exactly what happened. The House of Morgan, Jack Morgan who was the son of J.P. Morgan and was running the House of Morgan in 1914, organized huge loans for France and the U.K. You know how much he raised for Germany? Zero. Morgan did not raise a penny for Germany, and the U.K. won the war.
So, Keynes was right about that. Flash forward 30 years later to 1944 and Bretton Woods. Who was in favor of a gold standard? John Maynard Keynes. The U.S. wanted a gold standard but a different kind of gold standard. In the U.S. vision, the dollar is linked to gold and everything else is linked to the dollar. So, there was a dollar-sterling exchange rate, a dollar-franc exchange rate, etc., and then the dollar was linked to gold.
Indirectly, everybody else was linked to gold, but all those other countries could devalue. If your terms of trade changed, if you had persistent deficits, if you made structural changes, if you couldn’t get out of it, you could apply to the IMF and, subject to a process, devalue your currency. The one country that was not allowed to devalue was the United States.
This was a dollar/gold blanket with everyone else hitching a ride to the dollar. That’s not what Keynes wanted. He wanted a world where you had a world money, which he called the Bancor similar to the current Special Drawing Right, that was backed by gold. Everyone else could link to the Bancor, and there would be more multilateral control. Well, Keynes got shut down.
My point being, Keynes advocated for gold in 1914, and he advocated for gold in 1944. He never said gold was a barbarous relic. If Keynes was alive today, he’d be spinning in his grave.
Alex: I suspect it’s just an easy thing for people to remember. That’s what makes the best memes, the ones that are easy for people to remember and repeat.
Jim: That’s true of everything we’ve discussed in this whole podcast. “Gold is a barbarous relic. Gold has no intrinsic value. Gold caused The Great Depression. There’s not enough gold.” Everything we’ve gone through is simply an “off the top of the head,” all-purpose rebuttal to gold, and none of them are true. The only one that’s true is the one that’s irrelevant, which is that gold has no yield. Yes, but again, it’s not supposed to.
Alex: This has been a super interesting conversation. We spent almost an entire hour doing a deep dive on this. We had a lot of other things lined up, but I think this has been great. We’re out of time, Jim, so I want to say thanks for the discussion today. I appreciate it as always, and I look forward to getting together with you next time.
Jim: Thank you, Alex.
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