Gold,
scarcity and the "industrially useless" fallacy...
In THE ECONOMIST last
week Nils Sandberg from Cambridge University's Judge Business School presented a
common argument against gold's current value, which according to him is in bubble
territory because gold has few industrial uses.
Disproving his thesis is childishly simple, writes Paul Tustain, founder
& CEO of BullionVault.
Take one twenty pound note out of your wallet. Consider the industrial
applications of the paper it is printed on. Now burn it.
Well, why didn't you? After all, its value – according to Mr Sandberg's
thesis – rests on the paper's usefulness in industrial processes.
Nevertheless it's still interesting to understand why gold – like twenty
pound notes – is valued above its manufacturing relevance. Unsurprisingly the
answer lies in marginal utility.
Gold offers
humanity one exceptionally useful property; it has an extraordinarily stable
stock. There are 166,000 tonnes of the stuff above ground (worth about 8
trillion dollars) of which about 88% is held as a value store of sorts, in
jewellery (52%) and bullion (36%). The stock is growing by about 1.5% a year,
from the combined efforts of all the world's miners.
It is because gold is each of:
- geologically rare;
- elemental (i.e. incapable of being manufactured); and
- industrially useless,
that it has this reliable stock quantity. Nothing else can do it; not
silver, which is 80 times more common in the ground, nor platinum, which is
far too useful as a catalyst to offer stock stability.
Reliable scarcity is the key property savers require of money, which otherwise
fails to store value. But of course we don't need gold to deliver reliable
scarcity, we can usually create that reliable scarcity artificially, as we do
with our modern currencies.
Now the marginal utility explanation. When new currency is too freely issued
reliable scarcity becomes under-supplied, and savers go in search of it.
Having seen artificial reliable scarcity fail in one currency, the promise of
it in another is unconvincing, so they turn to natural reliable scarcity, and
demand for it increases dramatically as governments print money. This is what
drives gold
up. Mr Sandberg is right though, that it will eventually go down again, when
currencies' artificial scarcity once more becomes reliable, and when those
currencies start to generate a yield.
But in the meantime it looks irrationally optimistic to hope that the US
government faced with a 21 trillion dollar debt will not print more and more
money.
The question, therefore, is whether the savers who own 100 trillion dollars
of dated debt instruments in the bond markets will take fright at continuing
money printing policies of the US and other governments. That 100 trillion of
dated debt has already started running down the clock. It is shifting to the
short end, where it behaves more and more like cash. Maybe its holders will
demand cash (as is their right) at its redemption. The sums involved would
swamp the 15 trillion dollars of cash and near term deposit instruments currently
in issue.
People who own gold are increasingly aware of this possibility. We don't know
whether the Dollar, the Euro, the Yen and the Pound (all of which have
started a debt market drift to the short end) will ultimately go into the
currency death spiral. We are just mindful that it is the usual destiny of
currencies driven by political expedience toward the printing press. It looks
like a possibility at least.
To finish with here's the brainteaser which the Chinese are currently
wrestling with. Now that you know the US debt profile is slowly shifting to
the short end, and represents about 6 times the currency in issue, you are
required to choose today something to own in 8 years time. What would you
rather have, a tenth of the US Treasury's paper bond debts, or five times its
very large gold reserve? At current market prices these two are
worth about the same.
By the way, in the intervening 8 years the US government has budgeted to
issue 8 trillion net of its own bonds, representing an increase in the stock
of 57%. A further 1 trillion of gold will be mined worldwide, an increase in
the stock of 12%.
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