Yes, But
The Case for Gold
James Grant, 02.17.03, 12:00 AM ET

The metal will do well in a time when inflation is heading up and short-term interest rates are negative. Don't be misled by those who say commodity prices will stay low.

Walk through a metal detector into the Florentine splendor of the Federal Reserve Bank of New York. Bear left. Enter the American Numismatic Society's exhibit of rare coins, rare bills and not-so-rare credit cards. Take another left. Walk west 40 paces. Behold 751 shiny Byzantine gold coins spilling out of a toppled pot.

This is the Bet She'an hoard, 7 pounds of gold discovered in 1998 under the floor of an ancient residence in the Jordan Valley in northern Israel. It was buried around A.D. 680, probably to avoid confiscation, Israeli archeologists say.

If he weren't so very dead, the unnamed owner of this treasure would be desolated, and his heirs would be inconsolable. For 13 centuries the coins in the pot earned no interest. What is the foregone interest on 7 pounds of gold uninvested since the time of the fifth Umayyad caliph, Abd al-Malik?

Say the gold price in A.D. 680 was $350, or its equivalent. Say the value of that gold, $38,300, was invested at 3%, compounded continuously from that time to this. Then the foregone interest income would be no less than $6.4 sextillion.

Now, 751 coins is not so many. The Numismatic Society claims to own more than a million coins and bills and other forms of money issued and spent over three millennia. The foregone interest income on this uninvested collection is beyond calculating.

Albert Einstein is said to have called compound interest the eighth wonder of the world. But it must be number one in the power to tantalize. If Adam and Eve had opened even a small savings account in the Bank of Eden, and if they and their descendants had conscientiously not made a withdrawal, then the human race could have long ago put its feet up and lived on the interest.

Of course, compounding is not continuous because history is discontinuous. People die, banks fail and nation states rise and fall. Money is confiscated or debased. There likely is a very good reason that 751 gold coins were buried instead of being lent out at interest. The owner traded an income stream in the bush for gold in the hand.

The paradox of gold is that it can be the finest speculation and the poorest investment. Though indestructible and lovely to behold, the barbarous relic earns no interest. And--what is much, much worse--it earns no interest on interest.

Gold was the right thing to bury in A.D. 680 and the wrong thing not to dig up and invest in Microsoft at a split-adjusted price of 18 cents a share in March 1986 A.D. (Today, 17 years later, the price is $51, a 283 bagger, as Peter Lynch might say.) Knowing when danger is advancing and receding is the rarest insight in investing, and it helps to explain the paucity of sextillion-dollar fortunes in The Forbes 400 list.

Now, walking out of the Fed into the bracing winter cold, one is faced with the question: Is risk advancing or receding?

I say it's advancing. Nominal interest rates are low, government bond buyers are complacent and central banks are easy. Much to the dismay of finance ministries in Japan and Europe, the dollar exchange rate is falling against the yen and the euro. This is not because the Fed is objectively tight. For the first time in a decade the "real" federal funds rate is negative (i.e., a 1.25% funds rate minus the 2.4% year-over-year gain in the December consumer price index is a negative 1.15%).

Ben S. Bernanke, one of Alan Greenspan's new hires at the Federal Reserve Board, reminded a Washington audience in November that the Fed has a marvelous invention for fighting deflation. This device is called a "printing press," said Bernanke, one of America's foremost monetary economists. With it the government can "produce as many U.S. dollars as it wishes, at essentially no cost."

On Jan. 9 an auction of ten-year Japanese government bonds was 18.6 times oversubscribed, although their coupon was only 0.9%. For perspective, Haruhiko Kuroda, one of the top contenders to take over the governorship of the Bank of Japan when the job becomes vacant in March, has pledged to print enough yen to push his nation's inflation rate to 3%. And nobody believes him.

I believe him, and I believe Bernanke. And I also believe that the First Eagle SoGen Gold Fund and the Tocqueville Gold Fund (to name only two of the better-performing gold mutual funds) will go on delivering a better return than the interest-bearing securities of the governments that run the printing presses.

James Grant is the editor of Grant's Interest Rate Observer. Visit his homepage at

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