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The most
important decision an investor can make is what to use as the numeraire.
But few investors even know what a numeraire is let
alone have put deliberate thought into choosing their numeraire.
With advances in technology using a reliable numeraire
is easier than ever.
CAPITAL
ACCUMULATION
Investing is
the process of allocating capital. Capital is the result of consuming less
than what is produced.
For example, if
10 pounds of corn are produced and 7 pounds of corn are eaten then there are
3 pounds of surplus corn. This 3 pounds of corn is
capital that can then be allocated and produce a return. That return
can be measured using financial statements, like an income statement and
balance sheet, and an accurate numeraire.
As individuals
or society wisely allocate capital that generates a return then the standard
of living will increase. For example, enough capital may be stored and then
allocated resulting in a the farmer being able to
purchase and use a shovel instead of his hands to produce more corn. Now the
farmer can spend the same amount of time but produce 2-3x as much corn
because of the capital that has been stored and allocated into shovels,
plows, tractors, semi-trucks, etc. This is called increased
productivity.
On the other
hand, if an individual or society consumes more than they produce then they
begin to erode their capital. Generally, this is unwise and will lead to a
lower standard of living. Remember the old advice: do not eat the seed corn.
Like gravity
does not care whether the sentient human or inanimate rock knows their
condition as they hurl towards the earth from thousands of feet in the air so
likewise economic law does not care whether individuals and society can
accurately measure whether their capital is being accumulated or eroded.
VALUE
CALCULATION
In this process
of investing an individual makes a value calculation about whether to consume
or save resources. The key role interest rates play is in regulating
production and consumption over time. Generally, low interest rates encourage
consumption while high interest rates encourage saving.
Individuals produce
commodities because they add value. Corn is for food, oil is for fuel,
steel is for buildings and water is for drinking. Commodities are vital
to sustain life. Consequently, accurately measuring the demand for
commodities over time is equally important so that the market can provide
supply and avoid consequences such as starvation, dehydration, malnutrition,
etc. The Founding Fathers understood these economic principles and with
the 1792 Coinage Act answered the question: What Is A Dollar?
NUMERAIRE
In economics,
the numeraire is an item or commodity acting as a
measure of value or as a standard for currency exchange.
In accordance with Article 1 Section 8 Clause 5 and Article 10 Section
10 Clause 1 of the United States Constitution the Coinage Act of 1792
provided in Section 9:
DOLLARS or
UNITS – each to be of the value of a Spanish milled dollar as the same
is now current, and to contain three hundred and seventy one grains and four
sixteenth parts of a grain of pure, or four hundred and sixteen grains of
standard silver.
However,
government has strayed with unconstitutional legal tender laws and along
with central bank intervention in the gold market the environment is
extremely difficult, if not impossible, to accurately perform mental
calculations of value. The result is a broken pricing mechanism.
Additionally,
most people are completely oblivious to the importance of choosing an
accurate numeraire. More daunting is that for
the small percentage of people who measure their financial vital signs few use a precise
numeraire to do so.
To assist you
in performing these two tasks for an
example I have created The Numeraire Spreadsheet.
It functions as an example of how to implement provident living
principles using an alternative numeraire.
CONCLUSION
Keeping
financial statements such as an income statement and balance sheet takes
diligence. It also takes persistence and diligence to use an accurate numeraire. But doing so will allow you to view your
financial condition with improved clarity and which will likely increase your
ability to perform better allocations of capital which will help you multiply
your net worth. For
the New Year make it a goal to spend about 15-30 minutes per month to
accurately measure and track your financial condition.
Trace Mayer
RuntoGold.com
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