Gold started to became useless as currency 300 or 400 years ago. At
least, useless as coinage. By then, as the industrial revolution
machine began getting into gear, and as trade began to expand vastly,
there were plainly insufficient numbers of gold coins to cope on a
daily basis, particularly within a country.
Banknotes had to be invented. Invoices with 30-day and 60-day due
payments began to be accepted as interim money (that is, between
banks and merchants who had a sufficient degree of trust in each
other). Promissory notes (later, personal cheques) were also
satisfactory substitute money. (If they were repeatedly countersigned
they could last for weeks or months, enabling many successive
transactions to take place without ever going near a bank and having
to be exchanged for gold.) Also, governments' IOUs (bills and bonds)
became acceptable as good as gold. Today, particularly since the
1980s, derivatives of all sorts have become effective money.
Gold coins could always be asked for if a banknote was presented to a
bank and someone wanted a birthday present to give to his
granddaughter. But, gradually, coins became increasingly invisible in
daily life as they disappeared into bank vaults. If a bank prospered
and needed more banknotes for its customers then it would exchange
its gold coins with the Bank of England (the first central bank in
the world). Subsequently, the vaults of the Bank of England filled up
with gold coins, apparently uselessly.
Useless? Not really. When the Duke of Wellington wanted to pay his
mercenary soldiers of all sorts of nationalities fighting Napoleon on
the Continent, they would only accept gold coins. When countries such
as Argentina wanted to build a railway, or the Suez Canal was built,
large quantities of gold bullion had to be sent abroad to pay the
labourers (probably reaching down no further than the gang foremen!).
Large foreign importers needed to be paid in gold, not in English
banknotes. Foreign governments would borrow money but only in gold.
When financial panics ensued (and there were several of those in
England during the rapidly expanding industrial revolution) both gold
and banknotes had to be lavishly dispersed in order to prevent runs
and to settle everybody down.
Thus, although gold was gathering dust in the vaults of central banks
for most of the time, and although, physically, it was only a small
proportion of the total amount of substitute money flying hither and
thither in daily transactions, it was the ultimate capstone of a vast
financial pyramid. If absolutely necessary, and from different levels
directly and indirectly, everything else in the pyramid could be
exchanged into gold.
That is, until America tried to de-gild the world in 1944. It tried
to decapitate the financial pyramids of all the significant countries
of the world (except itself!). At Bretton Woods Hotel, New
Hampshire, America, the US representative, Harry Dexter White, more
or less crushed John Maynard Keynes's argument for a world currency.
By then, Keynes was terminally unwell and hadn't the stamina he once
had. Once he was overcome then the other 42 represenetatives of other
nations were easily strong-armed. Thenceforth, the value of their
currencies could only be expressed in terms of the dollar. Only the
dollar was to remain exchangeable with gold. All the other central
banks, except America's (the Fed) were to sell their gold and drive
down the price of gold as low as possible. (America had the whip hand
over Europe because it was effectively protecting Europe from a
possible Russian attack in the 1950s to 1970s.) Gold was no longer to
be of any value as currency. Officially it was to be disparaged.
Weary with the devastation of world War II, all the European nations
(except Switzerland at the time), together with 30 more countries
which were dependent on America, could only agree.
By then, because of its huge exports of wartime armaments, America
had more gold in the Fed's vaults than all the other central banks in
the world put together. It also had a vast wartime governmental debt,
mainly owed to its own citizens. However, with less and less
reference to the actual amount of 'capstone' gold in the Fed, America
began to print more and more dollars to bring about inflation and
thus, with the devalued money, began paying back its government debt
at a fast lick. Also, its exports to the rest of the world were also
bringing in more gold, but it was only paying for its imports in
dollars. By then, the US Treasury 'discovered' that by printing even
more dollars it could pay for increasing amounts of armaments and
even fight major wars such as Korea and Vietnam with its arms tied
behind its back.
This was amounting to a subsidy to America from the rest of the
world. But this wonderful period lasted for only 25 years or so.
(George Soros's famous 'reflexivity law' kicks in here!) By the late
1960s, Europe was finally getting back on its feet and its revived
industries were beginning to export to America and being paid their
profits in dollars. American dollars started accumulating in large
quantities in Europe ('Eurodollars'). These Eurodollars couldn't be
used directly within European countries without governments losing
their own currency sovereignty, so governments started asking America
to exchange their surplus dollars for gold (despite America's
constant pressure to sell it). This ability to buy gold with American
dollars was allowed for by the Bretton Woods 'Agreement' (though not
anticipated!). Germany and France were particularly demanding.
By 1971, American gold was disappearing from the Fed' vaults at such
a fast rate (probably two-thirds of it had gone by then) that
President Nixon called a halt. He could have eased into this in
various ways over a period of months or years but the way he chose
was peremptory and immediate -- and illegal (in the terms of the
international Bretton Woods Treaty). He cut the gold tie completely.
From then onwards, without the restraint of gold, America began
printing more dollars than ever. Inflation ensued and the value of
the dollar started to decline so precipitously that Volcker, the
chairman of the Fed had to raise interest rates in 1980 to the
astonishing level of over 20% for a while until the dollar was
retaining its value and was only inflating at acceptable levels --
acceptable to America, that is, not to the rest of the world.
Inflation has two effects for governments. Firstly, it enables
governments to pay off their debts quicker than they would otherwise.
Secondly, because of the 'progressive' nature of the taxation system,
it causes taxation income to bound forwards, sometimes in great
leaps. This finds a ready response in politicians and civil servants
alike. Governments start absorbing more and more of the total GDP of
a country, always able to find a reason to grow in size. Before the
Great Depression of the 1930s, America's government expenditure was
6% of the total GDP. By World War II time it had reached 10%. At the
end, it was 15%. By Nixon's time, it was 20%. By Bush's time, it was
cracking 35%. Today, under Obama, it's already exceeding 40% -- and
is now pretty well near where the more socialist countries of Europe
are desperately trying to get back to from 50% (when the taxation
level pretty well demotivates everybody).
In short, inflation has the perverse effect of actually increasing
governmental aspirations and thus of its accumulation of debt. And
that is where America is now. Even with the most rigid demands of the
Tea Party contingent of the Republican Party, Congress decided
yesterday to increase governmental debt. "Just a little more", it is
being said, "before we stabilize."
Will it ever stabilize? Not in the near future, according to almost
every financial commentator or bond investor or credit agency. But it
will have to sooner or later if America is to retain any credibility
at all. If it does not, it will either continue sinking into the
recession it's been in since 2008 or it will go through another mad
phase of quantitative easing (money printing) and have even more
inflation -- which will then cause a sudden collapse into economic
depression. And the rest of the world will be thrown into depression also.
Meanwhile, the value of gold, with an inverse credibility to the
American dollar, is shooting upwards at about 25% per annum and
accelerating. If it keeps to the same price curve as of the last 11
years, its price will be going up vertically before about mid-2012.
This, of course, is ridiculous and will have to start dawdling
sometime before then. Otherwise every spare dollar (or any other
currency) in the world will start to be spent on gold. It is obvious
to anyone with the remotest knowledge of the differential calculus
that America will have to stabilize its debt long before
stratospheric price levels of gold are reached.
Whether President Obama will see the Damascene light before then, or
whether he'll be forced into it remains to be seen. But this is what
he, or his new Treasury Secretary will have to do (Geithner is giving
up the job shortly it is rumoured -- a failure of nerve?). 1.
Announce, and execute, a halt to any further increase in the rate of
money printing beyond normal industrial productivity and then wait
for the value of the dollar to stabilize against other currencies and
commodity prices. There might be violent currency gyrations for a
while after this announcement and many more of America's less
efficient industries will continue to go bankrupt. 2. As soon as this
settles out roughly and to prevent further loss of confidence
(causing rapid inflations or deflations from taking place from then
onwards), the existing money supply of dollars is then to be tied to
the amount of gold in the Fed at the market price then obtaining.
This will have huge disruptive effects on America and the rest of the
world and many countries will go through bad times for a while, but
no more than that will inevitably happen if America doesn't stabilize
its government debt pretty soon and thus plunges itself and the rest
of us into depression. These bad times needn't last long. By then, in
order to exchange with the dollar, all the other national currencies
in the world will also automatically be linked to the market value of
gold -- which will then be fairly constant (output from gold mines
being able to grow only very slowly from year to year). In effect,
the whole of the world's national currencies will comprise a stable
world currency, albeit with different names and different unit
exchange values. Currency and bond speculation will then cease. Firms
can then negotiate contracts without fear of further big currency
movements. The present huge currency imbalances that now exist will
have vanished. From then onwards, any country with any exportable
goods or services at all will be able to start standing on their own
feet. Once again, gold will be scarcely visible but it will still be
the capstone for all the other practical substitutes.
Strong medicine? Certainly. But no stronger than what will be
automatically thrust down our throats if President Obama continues
to treat his growing government's debt lightly (aas he seems to be
doing) and allows the dollar to continue to inflate. In 1944 America
took over the ownership of the financial barn. It now has to make it rainproof.
Keith
Keith Hudson, Saltford, England http://allisstatus.wordpress.com/2011/07/
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