2005-08-11T04:42:00.000-07:00

Gold is money. Gold has been money since the dawn of man.

Gold is physical, tangible, fungible.. gold cannot be reproduced or created. Gold is gold.

The enemy of gold is paper money.

One hundred years ago an ounce of gold would have bought you a good suit and a pair of shoes. Today an ounce of gold will buy you a good suit and a pair of shoes. Gold is the ultimate store of value.

One hundred years ago an ounce of gold was priced at US$20.67 (http://www.eh.net/hmit/goldprice/) today an ounce of gold is priced around US$ 430.

History is full of accounts of the failure of paper money*. There is not one account in history of the failure of gold.

Paper money, otherwise known as 'fiat currency', because its value is determined by fiat, or government decree, is inherently only as valuable as the promise of the government that issues it.

When governments control the printing presses, they are inclined to print money to pay for their expenditures. When gold is money, governments are prevented from doing this by the inherent nature of gold.

When paper money is linked to the price of gold this is known as a gold standard.

Until 1934 the price of gold was fixed at US$20.67 per ounce - thus America operated under a gold standard. Gold was freely exchangeable for US dollars at the above rate.

During the Great Depression, President Roosevelt sought to increase the amount of money in the economy in order to drag the economy out of depression. In 1934 he revalued the US dollar by fixing the price of gold at US$35 per ounce. This allowed the Government to increase the amount of notes and coins circulating in the economy by almost 70%, in an attempt to add liquidity to the system, and drag the economy out of depression. At the same time it was declared illegal for citizens to own gold and all gold had to be redeemed for US Dollars.

When governments print money, they increase the money supply. When the money supply increases relative to the amount of goods and services available, this is called inflation. As the money supply increases relative to the amount of goods and services available, the result is a general increase in the level of prices as the money is worth relatively less.

Conversely, when the money supply decreases relative to the amount of goods and services available, this is called deflation, and as a result the general level of prices will decrease as the money is worth relatively more.

A gold standard is inherently deflationary. The increase in the money supply is limited to new gold extraction, which is generally far lower than the increase in goods and services available.

It should be noted at this point that the British Empire for more than 100 years was the most powerful nation on this planet, and operated the entire time under a deflationary gold standard monetary system.

The Secret of Banking

Imagine for a moment, that you are a goldsmith working in an ancient economy. As the local goldsmith you have the safest vaults under your control for the storage of gold and other precious assets.

Local citizens, recognising the safety and security of your vaults, elect to leave their gold in your custody, and in return you give them a gold certificate - redeemable at any time in gold, and to the value of the gold that they have in storage.

After a little while you realise that of all the gold you have in storage, only a small proportion of that gold is demanded by your customers at any particular time. The vast majority of the gold in your custody sits there collecting dust.

You realise, that the dormant gold can be lent out to borrowers, and that you can charge a rate of interest on that gold. So instead of sitting there collecting dust, the excess gold can be lent back out into the community and earn interest for the goldsmith (who has now become a banker).

That, in essence, is the secret of fractional reserve banking.

Fractional Reserve Banking and the Money Supply

When the banker lends gold out into the community, the money supply is increased. How ?

Imagine customer A deposits 100 gold coins with the banker. The banker pays interest of 5% on the money - 5 gold coins per year.

The banker lends say 90 gold coins to the carpenter who needs to buy new tools. The carpenter pays interest of 10% on the loan - 9 gold coins per year. This is a wise investment because the carpenter knows that with his new tools he can make more than enough money to pay back the loan and interest to the bank.

The carpenter buys his tools costing 90 gold coins from the toolmaker. The toolmaker takes the 90 gold coins and deposits them back at the bank.

So how much money is in this simple system ?

Customer A still has his balance of 100 gold coins at the bank which he can redeem at any point.

The toolmaker has his balance of 90 gold coins at the bank which he can redeem at any time.

And the carpenter owes the bank 99 gold coins.

The bank still has 100 gold coins which it is free to lend out again provided it keeps enough on hand to meet the day to day demands of the toolmaker and customer A.

So the money supply has increased from 100 gold coins to 190 gold coins - even though the actual number of gold coins has stayed exactly the same.

Central Banking

The banker lends money at a rate of interest. At 10% interest in the above example, the carpenter could borrow the money he needed to buy tools knowing that with his new tools he would make enough money to pay the bank back 99 gold coins.

What if the interest rate was 20% ? At 20% interest the carpenter might decide that it would be an unwise decision to borrow the money to buy tools because he wouldnt be able to make enough money with his new tools to pay back the bank. Thus the toolmaker misses out on 90 gold coins worth of business.

A central bank controls the rate of interest in the economy. When interest rates are lower, the money supply increases and economic activity tends to accelerate, when interest rates are lower the money supply decreases and economic activity tends to slow.

Whilst the above is a fairly simplistic explanation, it captures the essence of banking in a capitalist economic system.

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* http://www.gold-eagle.com/editorials_04/greene032104.html

silver and gold have i none said he ..