At a time when many investors are calling gold “a relic,” and many younger ones, in particular, are buying Bitcoin instead, it is worth going back to fundamentals and looking at gold’s role as money over thousands of years. I am not here to attack Bitcoin. Rather, I am here to defend gold.
Gold has an advantage that Bitcoin does not have, that Bitcoin inherently cannot have, which is its age. Gold has survived and performed its job for literally thousands of years. We shall have to wait a little longer to say that Bitcoin is as good as gold.
Nearly two-and-a-half millennia ago, Aristotle wrote his famous treatise on money. Money serves as a medium of exchange, a store of value, and a unit of account. In his treatise, Aristotle listed the characteristics of ideal money.
Money should be divisible, which is why we do not use fine art as money. It should be fungible, which is why we do not use real estate as money. It should be rare, which is why we do not use iron ore as money, and so on. Aristotle concluded that only gold has all these attributes and is the ideal form of money.
Long before the formal gold standard, when kings, emperors, and republics issued gold coins, gold was the backing of the monetary system. Gold has preserved its purchasing power throughout history. Roy Jastram, in his thorough book, The Golden Constant, looked at the price of gold, the cost of living, and the purchasing power of gold year-by-year back to the middle of the 16th century, and before that, though the records are less reliable, back to the Magna Carta in 1215. At the end of the First World War, when Britain, America, and other countries abandoned the pure gold standard, and there was a period of the dirty standard followed by Roosevelt’s confiscation of gold, then ultimately the closing of the gold window in 1971 and gold’s last formal link to the money system—gold’s purchasing value was within 1% of what it had been in 1560. During that long period, the maximum loss you would have endured, buying at the peak in 1620 and selling at the low in 1800, would have been less than 50%. That is a lot, of course, but vastly superior to the multi-century record of any fiat currency (in a much shorter time period). Had you continued to hold, you would have been back to par in 1900.
Gold has maintained its purchasing power during periods of high inflation and sharp deflation when the stock market or the currency collapses. Even during periods of chaos or war, gold holds its value. During these periods, people will look for alternate places for their cash.
Gold is thought of as an inflation hedge because it performed spectacularly during our last experience with high inflation in the U.S., the decade of the 1970s. That is a little artificial, of course, because gold started that decade at an artificial price, suppressed by the government, which outlawed private ownership. Undoubtedly, gold holds its purchasing power better than fiat currencies during inflation, but the truth is that many other assets do the same, for example, land, art, and the stock market.
It is during periods of deflation that gold truly comes into its own. Even if the nominal price of gold does not appreciate as much during deflations as during inflations, Roy Jastram demonstrated clearly that in terms of purchasing power, gold performs better during deflations, and there are few other assets that hold up in deflations. On a relative basis, gold is a far better deflation hedge than an inflation hedge.
Gold also shines during periods of instability and chaos, whether it is a declining stock market, civil disturbance, or war.
People think that gold is volatile, but, in fact, over relatively short periods and far longer ones, it has been one of the least volatile of assets. One thing we know about Bitcoin with certainty: it will continue to be volatile. Bitcoin has no central authority; it was designed that way. There is a pre-determined number of new coins each year until the cap is reached. So, the supply of Bitcoin does not change with changes in demand; price absorbs these changes, up or down—not supply. The designers of Bitcoin acknowledged that they did not know how to change that without a central authority. So, Bitcoin will remain volatile. Now, volatility is a positive thing if you are a speculator, but that is not so if you are looking for a store of value or as a payment system (so long as the good is priced in dollars). You want to pay your rent with Bitcoin priced at $64,000 one day, but then what when it is priced at $30,000 two weeks later when your rent is due?
Where the supply or demand of gold increases or declines, it is not the price that absorbs the changes but rather the opposite side of the equation changes. Thus, the largest, unexpected increase in the supply of gold in the last four centuries was with the California Gold Rush, which increased supply by a little over 6% per year. As expected, there was an increase in inflation—too much money chasing too few goods—but the increase was about 1.5% a year for the rest of the decade. That is astonishingly small and far less than one has seen under the fiat system when the money supply increases.
One last attribute of the ideal money, according to Aristotle: It must be a thing of value in and of itself. Gold is universally recognized and valued. You can travel to Zurich or Dubai or the highlands of Papua New Guinea. Everyone will immediately recognize gold and desire it. Why, you can give some to your wife to adorn her neck. Here, Bitcoin and other cryptocurrencies spectacularly fail. Blockchain is a valuable invention…Satoshi Nakamoto has a brilliant mind…but ultimately, there is nothing of intrinsic worth there.
Former BCA Research and Brandywine analyst Chen Zhao writes that “crypto was created out of thin air and will disappear like mist.” One does not have to go that far, but one can be certain that the same words could not be written about gold.
* * *
Negative interest rates are spreading like wildfire around the world. Investors have no choice but to look for other places as stores of value. That’s why many smart investors are running towards gold. It’s also why the big buyers, like China and Russia, are accumulating as much gold as possible. Here’s the bottom line… Negative interest rates and the devaluation of currencies will hurt a lot of people, particularly savers and retirees. But they will also give rocket fuel to the coming bull market in precious metals.